Enough With the Price Inflation Already

OK, all together now. You can’t plead loss causation by merely alleging price inflation. For example, this allegation just isn’t going to work for you: “Class members would not have purchased or otherwise acquired their Compuware common stock, or if they had acquired such securities during the Class Period, they would not have done so at the artificially inflated prices which they paid.” Not convinced? OK, just ask Judge Anna Diggs Taylor (E.D. Mich.), who just found the theory “insufficient as a matter of law” in the Compuware securities class action.

Of course, to be fair, Plaintiffs didn’t go down without a fight, “citing a disclosure that led to a sharp decline in the stock price.” But that doesn’t help too much either when the Judge finds that this “was not a corrective disclosure,” and the complaint “does not allege that a price decline immediately accompanied the… disclosure, leaving the court to speculate what portion of the loss, if any, should be attributed to the disclosure or whether the loss was caused by other factors.”

Result: Summary Judgment for Defendants.

You can read In re Compuware, issued September 12, 2005, at 2005 U.S. Dist. LEXIS 20073.

Nugget: “The Court's opinion in Dura does not merely require a plaintiff to include the magic words ‘direct and proximate’ in connection with its alleged loss. Plaintiffs must do more than use talismanic language to cure an otherwise inadequately pled complaint.”

Novastar Loses Motion to Dismiss

In the Novastar securities class action, Judge Ortrie D. Smith (W.D. Mo.) has denied the Company and Individual Defendants’ motions to dismiss in full. Basically, Plaintiffs alleged that: “(1) the company repeatedly reassured the market that it was fully complying with all applicable regulations and made no mention of any regulatory infractions; (2) the company violated the laws in two states and was subsequently fined but these violations were not disclosed to public investors; and (3) the company's growth through branch office expansions was overstated because the offices were illegally conducting business.”

Judge Smith said that “based on the alleged misrepresentations that Defendants made by failing to inform investors about the investigations and subsequent fines in Massachusetts and Nevada, combined with the filings by NovaStar that stress the importance of complying with state regulations and note the possible effect it may have on the company's operations and profitability, the Court cannot find that the omitted information was so obviously insignificant that it is immaterial as a matter of law.” In addition, Defendants’ “stock sales around the time of the allegedly false statements,” the fact that “NovaStar also allegedly benefited in a concrete way from the fraud” by engaging “in two stock offerings, raising more than $ 110 million,” and issuing “$ 1.48 billion in Home Equity Loan Asset-Backed Certificates during the class period” “sufficiently plead scienter.”

Finally, Defendants argued that “NovaStar did not have a duty to disclose its compliance issues because the compliance problems were not material.” However, the Court found that this was material, and also held that “once Defendants began repeatedly assuring the investing public that NovaStar was in full compliance with all applicable regulations and was not aware of any regulatory problems, they assumed a duty.”

You can read In re Novastar, issued May 12, 2005, at 2005 U.S. Dist. LEXIS 19946.

Nugget: “The Court denies Defendants' request to take judicial notice of its NovaStar's monthly loan production reports and its analysts' reports.”

Judge Spells Out Complaint’s Deficiencies

Judge Vaughn R. Walker (N.D. Cal.) has dismissed the Portal Software (Scott Sullivan is their Sr. VP of H.R., it's true, click here) securities class action in its entirety. You know you’re in trouble when the Judge starts out by commenting that Plaintiffs “face the unenviable task of complying with the stringent pleading requirements imposed on such actions,” and then moves quickly to say “all too frequently, and once again here, plaintiffs attempt this endeavor by a complaint replete with evidentiary detail, but only a loose (and the court thinks too loose) connection between the wrongful conduct alleged and its effect on the class.” So, “the court concludes that: (1) the allegations in plaintiffs' complaint are not pled with sufficient particularity under the PSLRA and FRCP 9(b); (2) the allegations are not sufficient to support a strong inference of scienter under the PSLRA; (3) defendants' forward-looking statements are protected by the PSLRA's safe harbor provision; (4) claims under the 33 Act sound in fraud and therefore fail with the 34 Act claims.”

Judge Walker is going to allow Plaintiffs 60 days to amend, and he has some pretty specific advice in that respect, saying “the court emphasizes the need for plaintiff to allege facts that link defendants' alleged wrongdoing to the class injury. A much shorter, but targeted, pleading may well be more effective in making this connection than the rather distended pleading now at bar.” “An amended complaint should specify those misstatements plaintiffs allege were false or misleading, including with regard to each statement: (1) the date made; (2) the speaker; (3) the content; (4) the falsity; (5) the basis for plaintiffs' allegation of falsity; and (6) scienter. The amended complaint should also specify any omissions of fact that defendants were bound to disclose, including with respect to each omission: (1) the date the information became known to the public; (2) the facts omitted; (3) the date the duty to disclose arose; (4) the basis for claiming that omitted information was known to defendants; (5) the basis for claiming that defendants had a duty to disclose; and (6) scienter. Finally, in light of Dura, plaintiffs should endeavor to tether all allegations in the complaint to the price movement of Portal's stock during the class period.”

You can read In re Portal Software, issued August 10, 2005, at 2005 U.S. Dist. LEXIS 20214.

Nugget: “The court will rely only on factual allegations which evince reliability through detail, context and corroboration.”

CFO Answers Complaint, Takes Fifth

What's that, answer a PSLRA complaint? No motion to dismiss? Yes, it's true, and you can read all about it in one of two separate opinions issued by Judge William S. Duffey, Jr. (N.D. Ga.) in the securities class action and the consolidated derivative action in the Friedman's litigation. There's a lot to go over in the securities opinion, with the court evaluating "eleven motions to dismiss" the 1933 and 1934 claims filed by executives, outside directors, underwriters, control entities, and Ernst & Young. "Essentially, Plaintiffs contend Defendants engaged in significant accounting fraud, resulting in the overstatement of the Company's reported earnings." And yep, the former CFO (Victor M. Suglia) "did not file a motion to dismiss," opting instead to answer by "asserting his Fifth Amendment rights in response to many of Plaintiffs' allegations." As for everyone else, the Court largely denied their motions to dismiss, finding that Plaintiffs "assert a systemic practice by which the Company inflated revenue by booking sales for which they knew payment was improbable," and "have identified and pleaded with sufficient particularity five categories of alleged misconduct that resulted in the Company's issuance of allegedly false and misleading financial statements during the class period."

As for the derivative action, which Judge Duffey noted consists of "similar allegations," it didn't fare so well. "The Court concludes that Plaintiffs have failed to allege particularized facts, either in isolation or in their totality, creating reasonable doubt as to a majority of the directors' independence or disinterestedness to excuse the requirement that Plaintiffs make demand on the Board." Case dismissed.

You can read In re Friedman's Securities Litigation at 2005 U.S. Dist. LEXIS 19503, and In re Friedman's Derivative Litigation, at 2005 U.S. Dist. LEXIS 20094. Both were issued on September 7, 2005.

Nugget: "In light of the complexity of the allegations and Plaintiffs' obligation to plead its claims with particularity -- a separate ground on which Defendant urges Plaintiffs' Complaint be dismissed -- the Court finds Plaintiffs' Complaint is not a "shotgun pleading" which should be dismissed."

Foreign Purchasers Sent Packing

So you are a foreigner who purchased securities of Bayer AG on a foreign exchange, but you want to sue here, in the Good Ole' US of A. Everyone together now, Home, to a new and a shiny place... Well, never mind all of that, because not even Neil Diamond himself can save you now, because Judge William H. Pauley III (S.D.N.Y.) has spoken. True, he did say he will "retain the claims of domestic purchasers.” However, that doesn't help you, “because United States investors held an exceptionally small percentage,” (eight percent to be exact), “of the total number of shares," and so "Plaintiffs cannot demonstrate a substantial or significant effect upon United States citizens to support jurisdiction over the Foreign Purchasers.”

Therefore, “the magnitude of Bayer AG's conduct abroad and the overwhelming number of Foreign Purchasers affected thereby militate against a finding that Congress would have wished the precious resources of the United States courts and law enforcement agencies to be devoted here.” “With respect to the Foreign Purchasers, fraud there might have been, and the Foreign Purchasers may very well have been damaged by its perpetration,” “but the dispute here presented is rightfully resolved in the court of another land.”

But hey, all is not lost right? Since most of the shares are “being held in Germany and in over 130 other countries,” those investors should have no problem getting a class certified in their respective civil law jurisdictions. Better book now for your trip to Leverkusen.

You can read In re Bayer AG, issued September 14, 2005, at 2005 U.S. Dist. LEXIS 19908.

Nugget: “Based on the above, this Court concludes that resting jurisdiction on this eight percent United States investment raises concerns that a 'very small tail may be wagging an elephant' of Foreign Purchasers.”

Short Sellers Come Up Short

Here’s an interesting twist. Instead of suing on behalf of buyers, sue on behalf of sellers. Short sellers to be precise. You know, the investor who speculates “that a particular stock will go down in price and seeks to profit from that drop.” Well, that’s exactly what the Plaintiff did in the Aksys securities class action pending before Judge Mark R. Kravitz (D.Conn.). The court found that Plaintiff (a Mr. Collier) had properly plead fraud and scienter, but (you guessed it) it was loss causation that did him in.

Judge Kravitz found that “because the alleged material omissions and misstatements revealed to the market by Defendants on July 25, 2003 caused the price to drop -- not rise -- Mr. Collier cannot show that the subject of the fraudulent statement or omission was the cause of the actual loss suffered by Mr. Collier and the class of short sellers he purports to represent.” “Indeed, the dramatic drop in Aksys stock should have been the occasion for a short seller to make money, not lose it, since a short seller bets that the stock will fall in price.” So, “based on the simplest and most logical view of the facts alleged, Mr. Collier has not (and apparently cannot) plead loss causation.”

You can read Collier v. Aksys, issued August 15, 2005, at 2005 U.S. Dist. LEXIS 20300.

Nugget: “In reality, all Mr. Collier has done through his so-called ‘hybrid’ claim is turn a relatively simple set of facts into a hopelessly complicated, convoluted, and contradictory mess.”

Second Circuit Allows Privately Held Stock To Share in Settlement

Here’s a tip for the next time you find yourself drifting off while you’re crafting that settlement agreement. Make sure you define who the investors are. Think saying “purchasers of common stock” is enough? Well, if you do, you had better listen to this if you want to keep out of hot water.

After the Olsten litigation settled, a guy named Riedinger, who happens to be the nephew of Olsten's founder, sent in a claim form for his class B common stock (that is not traded on a public market). Why not? The Panel noted that “the Settlement Agreement drew no distinction between Olsten's two classes of common stock: Common Stock and Class B Common Stock.” Uh-oh, Spaghettios, this isn't going to be good. The Second Circuit, in reversing the District Court, said “Looking only at the face of the contract, as we must, we perceive no ambiguity in the term ‘common stock.’ The Agreement states that ‘persons and entities that purchased shares of common stock of Olsten Corporation’ during the Class Period are class members. We further note that the drafters of the Settlement Agreement could have, but did not, draw distinctions among common stockholders. Given that equity issuers frequently divide common stock into classes, and given the Trustee's conceded awareness that Olsten had more than one class of common stockholders, it would have been easy to specify in the Agreement which classes of common stockholders, if any, were meant to be excluded.”

So will the other class members' (including the lead plaintiff), claims be diluted by this? Not clear yet, but it’s certainly seems possible, as the Second Circuit said Riedinger’s stock (which was “worth more than $ 7 million at the time of closing”) will have to be valued by “the district court and Claims Administrator.”

Bet you're awake now.

You can read Waldman v. Reidinger, issued September 12, 2005, at 2005 U.S. App. LEXIS 19590.

Nugget: “Moreover, the Trustee's act of sending Riedinger notice of the settlement and a blank proof of claim is inconsistent with the Trustee's contention that Class B Common Stock shareholders were never intended to be class members.”

Proposed Leads To Conduct Discovery On Each Other

It's enough trouble fighting Defendants, let alone other investors, but you know that's the way it goes in the world of securities class actions. This time, it's "London Pensions Fund Authority and National Elevator Industry Pension Fund ('London') v. "Biogen Institutional Investor Group." (Check out this devastating stock drop -- ouch). Although Magistrate Judge Marianne B. Bowler (D. Mass.) noted that "the Biogen Institutional Investor Group appears to set forth the largest financial interest at the present time," "it nonetheless remains debatable whether the Biogen Institutional Investor Group or London is the most adequate lead plaintiff."

So, since "the PSLRA allows 'discovery into whether a member or members of the purported plaintiff class is the most adequate plaintiff' provided the movant sets forth 'a reasonable basis for a finding that the presumptively most adequate plaintiff is incapable of adequately representing the class,'" the court said it "will allow London a limited period to conduct discovery into the issue of the adequacy of the seven member Biogen Institutional Investor Group to best serve as lead plaintiff under 15 U.S.C. § 78u-4(a)(3)(B)."

You can read Brown v. Biogen, issued July 25, 2005, at 2005 U.S. Dist. LEXIS 19350.

Nugget: "Having allowed a limited period of discovery, this court will conduct a further hearing on the motions to appoint lead plaintiff and lead and liaison counsel …"

PSLRA Sanctions Decision Delayed Pending Appeal Outcome

So will there be PSLRA sanctions in the ATSI Communications v. Shaar Fund litigation? Nobody knows, but Plaintiffs can breath a little easier – at least for now. You see, after tossing the action back in February, Judge Lewis A Kaplan (S.D.N.Y.) "invited the parties to submit papers on the issue of the appropriateness of sanctions." Being "invited" almost makes it seem like it's going to be something fun, doesn't it? Look, our invitation finally arrived! Hurray! But fun doesn't appear to have entered into the equation here, as the parties responded with briefing numbering "in the hundreds of pages."

Instead of deciding the sanctions issue, the court noted that "if the Court of Appeals were to overturn this Court's dismissal, all of the effort that has been and remains to be devoted to the sanctions issue will have been for naught," and "even if the Court of Appeals affirms, the sanctions may appear in a different light." "Furthermore, the ruling on the motions to dismiss is not dependent in any way upon the Court's view of the sanctions issue. Finally if plaintiff, contrary to this Court's view, has filed a legally sufficient complaint, delay of resolution of the merits of the controversy for the time necessary to determine the sanctions would be needlessly prejudicial to the plaintiff." Judge Kaplan then directed the clerk "to enter judgment dismissing the action, thus rendering the dismissal appealable." As for "the motions for sanctions," they "are denied without prejudice to reinstatement" after the appeal is over.

You can read ATSI v. Shaar Fund, issued September 6, 2005, at 2005 U.S. Dist. LEXIS 19235.

Nugget: "There also remains pending a counterclaim by defendant Corporate Capital Management. There have been no proceedings on the counterclaim, however, CCM has represented that it does not presently intend to pursue the counterclaim, and all parties other than plaintiff are prepared to stipulate to dismissal of the counterclaim without prejudice. Under these circumstances, the counterclaim provides no just reason for delay in the entry of judgment dismissing plaintiff's claims."

Make That One Less Tyco

The Tyco securities class action has been dismissed. Well, no, not that one. No, not that one either. This "action differs from the others in that it involves a later class period and targets Tyco's current CEO and CFO, Breen and FitzPatrick, rather than the former officers and directors who allegedly looted the company and oversaw the accounting fraud schemes that began the cascade of lawsuits." Basically, it all came down to scienter. You see, "according to plaintiffs, Breen and FitzPatrick had a motive to make the misstatements because they both stood to receive substantial salaries, bonuses, stock options, and other employee benefits so long as Tyco remained solvent." You know where this is headed already, don't you? (Sorry, don't mean to ruin it for you). Added to which, plaintiffs argued, "defendants made a massive re-restatement in March 2003, only two months after the December 30, 2002 disclosure." Judge Paul Barbadoro (D. N.H.) summed it all up with a quick "I disagree," finding that these "catch-all allegations that Breen's and FitzPatrick's personal and professional fortunes were personally tied to the fortunes of Tyco and that they therefore had the motive to commit fraud" have "been rejected by prior courts, and I see no reason to depart from their sound reasoning."

You can read Ezra Charitable Trust v. Tyco, issued September 1, 2005, at 2005 U.S. Dist. LEXIS 19110.

Nugget: "What plaintiffs are left with is a claim that Breen and FitzPatrick must have known about Tyco's misstatements in December 2002, because that information became available in March 2003. This type of claim, referred to by other courts as a 'fraud by hindsight' claim, has been deemed insufficient to meet the PSLRA's heightened pleading standards."

Rule Who?

Quick, who can recite Rule 17(a)? OK, that was a little easy for you procedure buffs. But bet you can't cite Rule 10. What's that, you say you can? Impressive. But for the rest of you, don't worry too much because it's probably never going to help you anyway (at least Rule 10 probably won't). Well, whether you agree or disagree, it sure didn't help certain financial institution Defendants (like Wachovia and CSFB) in their bid to dismiss the Division of Investment of the New Jersey Department of the Treasury from the Adelphia securities litigation for lack of standing.

The basis for Defendants' argument was that, "while the N.J. Division is vested with authority to invest on behalf of the funds, it does not allege that it purchased or held any Adelphia securities for its own account . . . nor does [it] plead facts supporting a valid assignment of the claims belonging to the numerous funds on whose behalf NJ Division invests." But alas, that didn't make it too far, as Judge Lawrence M. McKenna (S.D.N.Y.) said that "defendants fail to recognize the fact that Congress contemplated, in passing the PSLRA, that such funds would bring suit under the federal securities laws on behalf of their beneficiaries. Not only did Congress contemplate funds' standing, it expressed a strong preference that such funds be appointed lead plaintiffs."

Judge McKenna continued "were defendants' argument taken to its natural conclusion, pension and retirement funds would be effectively prohibited from bringing suit as plaintiffs on behalf of their beneficiaries. Not only would that outcome run counter to clear congressional intent, it would force thousands of individual beneficiaries to litigate on their own behalf, thus producing an impractical result. The individual beneficiaries of pension and retirement funds hold a comparatively small amount of assets, and would likely be unwilling, financially incapable, or lack sufficient knowledge of their legal rights to pursue litigation on their own behalf. In the context of class action litigation, just finding the potential class members would be an undertaking requiring significant judicial and attorney resources, given the unique fluidity of the potential plaintiff group." As a result, "this Court finds that the N.J. Division has standing to pursue the instant suit."

You can read In re Adelphia, issued September 1, 2005, at 2005 U.S. Dist. LEXIS 19052.

Nugget: "This Court is not inclined to ignore clear congressional intent, nor is it inclined to create the impractical situation described herein."

Nugget to Use FeedBlitz for E-mail Updates

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Churn 'Em and Burn 'Em

The credits appear to be rolling in the Netflix securities class action, with Judge Fern M. Smith (N.D. Cal.) granting all Defendants' (the company, the CEO, CFO, and CMO) motions to dismiss. Judge Smith, in one of her last orders issued before her retirement, began by noting that the "allegedly false and misleading statements concerned the Company's rate of 'churn,' a metric relating to loss of subscribers; the Company's improving service and growth; the Company's competition; and the Company's relationship with TIVO, Inc." Although Judge Smith evaluated all four of these areas, the investors' primary claim seems to be centered on the churning allegations, with the judge quickly dismissing the other three areas of alleged false statements.

Basically, Plaintiffs claimed "that defendants overemphasized subscriber growth rate and understated subscriber churn to mislead investors as to the true state of subscriber retention." "Using plaintiffs' formula to calculate churn results in chum rates that are 25% to 30% higher than the rates obtained by using the Netflix formula." Unfortunately for Plaintiffs, Judge Smith found that "there is, however, no official formula for calculating churn. Plaintiffs call their method of calculating churn 'actual churn,' but offer no authority for the proposition that their method is proper and Netflix's method is improper. Defendants point out and plaintiffs concede that there exists no official GAAP methodology for calculating churn. Importantly, Netflix clearly and repeatedly disclosed its formula for calculating churn. Given Netflix's disclosure of its method of calculating churn, Netflix's reporting of the churn rates obtained by using this formula cannot be considered to be false."

It remains to be seen if this movie is actually over though, as although Judge Smith said she "has serious reservations as to whether plaintiffs' allegations regarding churn and cancellations, improved service, competition, and TiVo can be successfully resurrected," she allowed Plaintiffs 30 days to amend. A quick check of the file reveals that Plaintiffs did in fact file an amended complaint, although they dropped the service and growth, competition, and the TIVO claims in the new version. Judge William Alsup is now presiding.

You can read In re Netflix, Inc. Securities Litigation, issued June 23, 2005, at 2005 U.S. Dist. LEXIS 18765.

Nugget: "Even in the financial reports in which the number of subscriber cancellations was not expressly disclosed, this number could be calculated through simple arithmetic using other numbers that were disclosed."

Judge Scolds Arrogant Defense Counsel

As Justice Stone proved once and for all in his legendary dissent in United States v. Carolene Products Co., sometimes the best stuff really is in the footnotes, and well, Judge Reggie B. Walton (D. D.C.) is no exception. Sure, the Plaintiffs won, but you’re ready to head out for Labor Day weekend, grab a cold one, and who really cares, right? Well, read on, because this is what you've hoped for – a judge who finally calls out that slightly overzealous, mildly impolite (OK, who are we kidding, that pedantic, pontificating, pretentious bastard, that belligerent old fart, a worthless steaming pile of cow dung -- figuratively speaking, of course) attorney we all love to hate. Here it is folks, enjoy your holiday. Bet these guys won’t after General Counsel reads this.

"Based upon the papers thus far submitted to this Court, it is clear that this is a highly contentious litigation. Despite the apparent animosity between the parties, counsel are reminded that they are expected to treat each other, and every other individual involved in this litigation, with ‘dignity, respect and civility, both in court and in out-of-court conference, meeting and discovery proceedings.’ (Judge Walton's General Order and Guidelines for Civil Cases). This includes civility in the papers submitted to this Court."

"The papers submitted by the defendants do not demonstrate the dignity and respect the Court expects of litigants appearing before it. See, e. g., Def.'s Reply at 7 ("Defendants agree that a review of the Amended Complaint is a 'painstaking' endeavor."); 18 ("If Plaintiffs do not appear to understand their own claims, how can Defendants?"); 29 ("Defendants are not obligated to teach Plaintiffs how to properly plead their complaint. However, we will give Plaintiffs a clue."). Such condescending invectives do nothing to advance a party's position. As members of the Bar, counsel surely know how to vigorously advance their respective party's position without being disrespectful or mean spirited. The Court will look with disfavor on any further circumstances that warrant such a reminder, and if warranted, will take appropriate action to sanction such behavior."

Finally, somebody said it. Let's just hope someone is listening.

You can read Burman v. Phoenix, issued August 30, 2005, at 2005 U.S. Dist. LEXIS 18572.

Nugget: "Construing the complaint in the light most favorable to the plaintiffs, as this Court must do, it is clear that the plaintiffs predicate their securities fraud claims not on misrepresented projected revenue, as the defendants contend, but rather on the fact that Phoenix allegedly misrepresented that various contracts had been signed."