Category Archives: Motion To Dismiss Monitor

While the Supreme Court considers the National Australia Bank case, the lower courts continue to issue rulings that explore the extraterritorial application of the U.S. securities laws.

In In re European Aeronautic Defence & Space Co. (“EADS”) Sec. Litig., 2010 WL 1191888 (S.D.N.Y. March 26, 2010), the plaintiffs alleged that the defendants mislead investors about production delays in the Airbus A380 super-jumbo aircraft. EADS is a Dutch company and its shares are traded exclusively on European exchanges. Three depository banks, however, have issued unsponsored American Depositary Receipts (“ADR’s”) in EADS shares. The putative class consisted of U.S. residents who had purchased or otherwise acquired EADS common stock.

The court applied the conduct and effects tests to determine the existence of subject matter jurisdiction. As to whether sufficient conduct had taken place in the U.S., the court held that (a) EADS’s holding of investor meetings in the U.S., and (b) the participation of U.S. analysts in EADS earnings conference calls, were “incidental to the alleged fraud.” Nor could the plaintiffs satisfy the effects test, despite their limitation of the putative class to U.S. residents. The court found that the “putative class acquired its EADS shares in Europe and any losses were suffered on foreign exchanges.” The fact that some class members may have acquired shares as ADRs was insufficient, standing alone, to establish a “substantial” U.S. effect. Finally, the court also noted that EADS could successfully argue forum non conveniens, having demonstrated that France, the Netherlands, and Germany (where a number of U.S. investors had already brought individual actions against EADS) were adequate alternative fora.

Holding: Motion to dismiss granted.

Quote of note: “The Complaint is a narrative of the peril Americans face when they invest abroad. It is understandable that [lead plaintiff] would seek the robust protections of federal securities laws in a United States court. But a court of limited jurisdiction lacks the authority to hear every grievance that arises overseas. On this record, [lead plaintiff] will have to pursue its claims where it purchased shares – Europe.”

The extent to which an alleged “corrective disclosure” needs to have revealed the fraud to investors – thereby establishing the existence of loss causation based on a related stock price decline – continues to bedevil courts. One particular fact pattern that has proven difficult to analyze is when an SEC investigation is announced. Although some post-Dura cases found that loss causation had been adequately plead based on the disclosure of an SEC investigation, a couple of recent cases have gone the other way.

In Maxim Integrated Products, Inc. Sec. Litig., 2009 WL 2136939 (N.D. Cal. July 16, 2009), the court considered whether the company’s “disclosures regarding compliance with an SEC investigation, subpoenas from the United States Attorney’s office, and the formation of its own Special Committee to investigate options granting practices” were corrective disclosures for the purposes of pleading loss causation. The court concluded that these disclosures were “indicators of risk,” but did not adequately reveal the alleged fraud. See also In re Hansen Natural Corp. Sec. Litig., 527 F. Supp. 2d 1142, 1162 (C.D. Cal. 2007).

Holding: Motion to dismiss granted in part and denied in part.

Quote of note: “A reasonable investor may view these disclosures as indicators of risk because they reveal the potential existence of future corrective information. However, they do not themselves indicate anything more than a ‘risk’ or ‘potential’ that Defendants engaged in widespread fraudulent conduct. Thus, the court finds that these statements are not corrective disclosures for which Plaintiffs can plead loss causation.”

The PSLRA’s safe harbor for forward-looking statements has a checkered history in the courts, with some judges refusing to apply it as written. It is therefore worth noting a decision that relies entirely on the safe harbor to dismiss the plaintiffs’ securities fraud claims.

In In re Aetna, Inc. Sec. Litig., 2009 WL 1619636 (E.D. Pa. June 9, 2009), the plaintiffs alleged that the health care company told investors it practiced “disciplined pricing” when, in fact, it was aggressively underpricing to bring in new business. The court found that “‘disciplined pricing’ means that Aetna expects that its pricing will be in line with its projected medical cost trend, a specific measurement of future performance.” Accordingly, the statements concerning “disciplined pricing” were forward-looking as defined by the PSLRA.

The court then applied the safe harbor and held that the statements were protected from liability. First, Aenta’s statements concerning its commitment to “disciplined pricing” were immaterial corporate puffery. Second, the company’s risk factors specifically warned investors “that profitability could be affected by Aetna’s ‘ability to forecast . . . costs’ and ‘there can be no assurance regarding the accuracy of medical cost projections assumed for pricing purposes.” The court found this was meaningful cautionary language that rendered the statements inactionable. Finally, the court noted that “there is still uncertainty” as to whether a forward-looking statement is protected by the safe harbor based on immateriality or meaningful cautionary language if a plaintiff adequately pleads that the defendant had actual knowledge of the falsity of the statements (see the Third Circuit’s recent Avaya decision). In this case, however, the plaintiffs failed to meet that pleading burden.
Holding: Dismissed with prejudice.

The U.S. Court of Appeals for the Second Circuit has held that where there has been a market-wide downturn in a particular industry, a plaintiff must plead facts which, if proven, would show that its loss was caused by the alleged misstatements as opposed to intervening events. How to determine the existence of a “market-wide downturn,” however, is an open question.

In In re Moody’s Corp. Sec. Litig., 2009 WL 435323 (S.D.N.Y. Feb. 23, 2009), the defendants argued that the plaintiffs’ losses were caused by the subprime crisis, not Moody’s alleged misstatements concerning its credit ratings. However, the court found that there was no market-wide downturn in the credit-ratings industry. Although Moody’s stock price declined by 28.8% during the class period, the stock price of McGraw-Hill (the parent company of Standard & Poor’s, Moody’s biggest competitor) fell only 1.7%. The court also found that Standard & Poor’s stock price rose 2.5% during the same period – which was strange, because Standard & Poor’s is not a publicly traded entity and has no published share price.

Not surprisingly, the defendants moved for reconsideration, citing two factual errors related to the court’s “market-wide downturn” analysis. First, the defendants noted that the court had apparently confused the Standard & Poor’s 500 Financials Index with the company itself, leading to the erroneous conclusion that Standard & Poor’s stock price had not declined. Second, the defendants argued that the court should have examined the comparative decline in stock prices from the date of the first corrective disclosure, rather than the entire class period. When measured in that manner, the stock price for Moody’s dropped by 38%, while the stock price for McGraw-Hill dropped by 28%.

The court, however, declined to change its decision (see In re Moody’s Corp. Sec. Litig., 2009 WL 1150281 (S.D.N.Y. April 29, 2009)). McGraw-Hill’s stock price, which had been the basis for the court’s original determination that there was no market-wide downturn, suddenly came under more judicial scrutiny. While not appearing to disagree with the defendants’ contention that the decline should be measured from the first corrective disclosure, the court found that it was unclear whether the drop in McGraw-Hill’s stock price was actually related to the performance of its Standard & Poor’s subsidiary. In addition, the court noted that Moody’s “other primary competitors are both private companies with no published stock price,” which left the court without a basis for comparison. The court concluded that “the question of causation is reserved for trial.”

A plaintiff can rely on an anonymous source to plead securities fraud, but can he rely on someone else’s anonymous source? In Vladimir v. Bioenvision Inc., 2009 WL 857552 (S.D.N.Y. March 31, 2009), the plaintiffs alleged that Bioenvision had entered into a merger agreement as of January 2007, but failed to disclose it to the market. The factual basis for the allegation was a state employment action brought by a former Bioenvision officer. In his complaint, the former officer alleged that he had “been informed� that the merger was agreed to at a January 2007 �secret� meeting. The court found that the plaintiffs in the securities class action could not rely upon allegations from the former officer’s anonymous source to satisfy their pleading obligations.
Holding: Motion to dismiss granted.
Quote of note: “Plaintiffs have not alleged anything at all about [the former officer’s] alleged anonymous source, let alone describing him with any particularity whatsoever, and the Court is wholly unable to determine whether this source was in a position to know what he is alleged to have told [the former officer], or, in fact, whether or not this alleged anonymous source even exists. The Court therefore cannot credit any of these allegations that come from an alleged anonymous source of [the former officer’s], which were adopted wholesale and relied upon by plaintiffs here to make serious charges of fraud.”

It is going to take a unique set of facts to establish the existence of scheme liability in the wake of the Stoneridge decision. Earlier this week, in the Refco securities class action, a S.D.N.Y. court dismissed the securities fraud claims against Refco’s outside counsel. In its decision, the court found the plaintiffs adequately alleged that the law firm facilitated Refco’s fraudulent transactions, but not that the company’s investors relied on any misstatements by the law firm in purchasing their securities.

The court may have been forced to apply Stoneridge, but it was not happy about it. In an interesting footnote, the court suggested that “a bright line between principals and accomplices may not be appropriate” and offered its own policy solution: “Perhaps a provision authorizing the SEC not only to bring actions in its own right but also to permit private plaintiffs to proceed against accomplices after some form of agency review would provide the necessary flexibility without involving the courts in standardless and difficult-to-administer line drawing exercises.” Do all judges secretly long to be legislators?

Press coverage of the decision can be found in the WSJ Law Blog and the American Lawyer.

Holding: Motion to dismiss granted.

Quote of note: “The nub of plaintiffs’ contention is that as Refco’s primary counsel, the . . . defendants could not be ‘remote’ within the meaning of Stoneridge, because they were directly involved in creating and executing the fraudulent scheme, including the drafting of misleading communications to Refco investors. Plaintiffs’ reading of ‘remote’ is myopic. The issue is not the distance between the issuer and the defendant, but rather the distance between the defendants’ conduct and the investor.”

Following the Stoneridge decision on scheme liability, the lower courts continue to explore what conduct is sufficient to induce reliance by investors. In In re Bristol Myers Squib Co. Sec. Litig., 2008 WL 3884384 (S.D.N.Y. Aug. 20, 2008), a corporate officer negotiated a settlement agreement in a patent infringement case, the terms of which were misstated by the company in its disclosures. Even though the corporate officer did not participate in the making of the disclosures, the court considered whether investors relied on his allegedly deceptive conduct in failing to correct the misstatements. In determining that reliance was adequately plead, the court found that the “investors relied on [the corporate officer’s] good faith in negotiating the Apotex settlement agreement and committing the Company to its terms.” In addition, unlike in Stoneridge, the corporate officer’s deceptive conduct was communicated to the public.

Holding: Motion to dismiss denied.

The jurisdictional issues surrounding “foreign cubed” cases – i.e., an action brought against a foreign issuer, on behalf of a class that includes not only investors who purchased the securities in question on a U.S. securities exchange, but also foreign investors who purchased the securities on a foreign securities exchange – continue to be a hot topic. In In re Astrazeneca Sec. Lit., 2008 WL 2332325 (S.D.N.Y. June 3, 2008), the court addressed a proposed class in which 90% of the members were foreigners who purchased on foreign exchanges.

Under the conduct test for subject matter jurisdiction, the plaintiffs needed to adequately allege that (a) the defendants’ conduct in the U.S. was more than merely preparatory to the fraud, and (b) the defendants’ actions in the U.S. “directly caused losses to foreign investors abroad.” Although the court held that the plaintiffs adequately alleged “several of the fraudulent misrepresentations took place in the United States,” the court was unwilling to apply a global fraud on the market presumption and find that the foreign purchasers relied on the U.S.-based conduct when deciding to acquire the stock. Accordingly, the court dismissed the action as to foreign purchasers on foreign exchanges.

Holding: Motion to dismiss granted (both on jurisdictional and, more generally, pleading grounds).

Quote of note: “The Securities Exchange Act does not address the question of extraterritorial reach. The Second Circuit has not yet given guidance on whether the fraud-on-the-market theory should apply to foreign countries. In the absence of clear authority in favor of a global fraud-on-the-market theory, this Court declines to adopt such a theory.”

The application of the Stoneridge decision is likely to develop slowly, as relatively few cases raise the issue of scheme liability. That said, the early returns look positive for defendants. In In re DVI Inc. Sec. Litig., 2008 WL 1900384 (E.D. Pa. April 28, 2008), the plaintiffs alleged that the company’s law firm “initiated and masterminded a ‘workaround’ that allowed DVI to fraudulently misstate . . . that its internal controls were adequate.” In evaluating class certification, the court found that under Stoneridge the proposed class could not show reliance on the law firm’s deceptive acts. The law firm had neither “made any public misstatements that affected the market for DVI securities” nor “owed [any] duty of disclosure to DVI’s investors.”

Holding: Class certification granted, except as to the claims against DVI’s law firm.