Network Associates, Inc. (NYSE: NET), a California-based provider of computer security software and services, has announced the settlement of the securities class action filed in the N.D. of Cal. against the company and certain of its former executives. The settlement is for $70 million and is subject to court approval.
According to a Reuters article, the suit was originally brought in 2000 and 2001 and alleges Network Associates "misled investors by recognizing software revenue when it was shipped to distributors rather than when end-user paid for its products, a practice called 'channel stuffing.'" The company still faces Justice Department and SEC probes over its revenue recognition practices.
Securities Litigation Watch notes that the recent decision in the K-Mart case (see this post) addresses loss causation and appears to follow the line of cases holding that merely alleging the stock was purchased at an artificially inflated price does not adequately plead a "causal nexus" between the misstatement and any economic harm. The 10b-5 Daily recently summarized the current split of appellate authority on this issue.
According to Second Circuit precedent, for a court to determine on a motion to dismiss in a securities fraud case that the alleged misstatement or omission is immaterial, it must be "so obviously unimportant to a reasonable investor that reasonable minds could not differ on the question of [its] importance." Judges in the S.D.N.Y. recently have been exploring what "obviously unimportant" means, with favorable results for defendants. (See this post in The 10b-5 Daily for a discussion of the Allied Capital case.)
In re Duke Energy Corp. Sec. Litig., 2003 WL 22170716 (S.D.N.Y. September 17, 2003), involved allegations that Duke Energy had failed adequately to disclose that its revenues were overstated due to "round trip" or "wash transactions," involving simultaneous sales and purchases of energy at the same prices and in the same amounts. The stock price dropped over the time period that the company made announcements concerning the discovery of these trades. Finally, in August 2002, the company confirmed that it had engaged in $217 million of these transactions.
The court found that the concealment of these transactions could not have been material. An inflation of $217 million in Duke Energy's revenues over a two-year period amounted to about 0.3% of the company's total revenues -- a total that the court found immaterial as a matter of law. The plaintiffs made two counterarguments that were rejected by the court as insufficient.
First, the plaintiffs argued that the fall in share price after the announcement of the discovery of these transactions demonstrated that they were material to investors. The court found: (a) the plaintiffs' allegations of a connection between the company's disclosures and the stock price decline were too vague (really a loss causation argument); and (b) "bare allegations of stock price declines cannot cure the immateriality of an overstatement as small as the one here at issue."
Second, the plaintiffs argued that the nondisclosure was qualitatively material because it involved illegal activity. The court found that even assuming that the transactions were illegal, the failure to disclose them did "not give rise to a securities claims if their only effect in terms of what was disclosed to the public was a miniscule 0.3% inflation of revenues."
Holding: Motion to dismiss with prejudice granted.
Quote of note: "Plaintiffs are vague about what constituted this underlying 'illegality,' as 'wash sales' and 'round-trip trading' are not necessarily illegal per se. But even assuming they were, illegality of a financial nature (as opposed, say, to rape or murder) must still be assessed, for disclosure purposes, by its economic impact. Otherwise, every time a giant corporation failed to disclose a petty theft in its mailroom, it would be liable under the securities laws."
As stated previously in The 10b-5 Daily, securities class actions against mutual funds are the new new thing. The New York Times (free subscrip. required) agrees in this article from Wednesday's edition, noting that nearly a dozen plaintiff firms have brought suits against companies that manage mutual funds in the three weeks since Eliot Spitzer, the attorney general of New York, announced his investigation into unfair trading practices. The article speculates that plaintiffs may be able to bring actions under the Investment Company Act and Investment Advisors Act, thus avoiding the heightened pleading requirements of the PSLRA.
Quote of note: "The lawsuits challenge the practices identified by Mr. Spitzer and federal regulators. Those practices include allowing favored investors to trade after hours and to buy and sell mutual fund shares over short periods to turn a quick profit, a practice known as timing. In the eyes of plaintiffs' lawyers, the potential settlements could dwarf the biggest paid by corporate defendants (and their insurers) in shareholder lawsuits to date."
The Wall Street Journal (subscrip. required) reports that Enron has filed a complaint against six of its former bankers in bankruptcy court. According to the article, "the complaint alleges that the banks 'bear substantial responsibility' for Enron's downfall because they participated 'with a small group of senior officers and managers of Enron in a mulityear scheme to manipulate and misstate Enron's financial difficulties.'"
The filing comes just days before the company is scheduled to participate in court-ordered mediation for the suits brought by its shareholders and financial institutions and appears designed to spur a more favorable settlement.
According to a Reuters report, the proposed settlement of the securities class action and related suits against Lucent Technologies, Inc. (NYSE: LU.N), a New Jersey-based telecommunications equipment maker, has received preliminary court approval. The $600 million settlement was announced last March. The class action, originally filed in 2000, alleges that Lucent misled investors concerning the demand for optical networking products and engaged in improper accounting.
The E.D. of Mich. has dismissed the securities class action against several former Kmart executives and PricewaterhouseCoopers. The complaint alleged that the defendants misled Kmart investors in 2000 and 2001 prior to the company's bankruptcy.
According to an article in yesterday's Detroit News, the case was dismissed by Judge Gerald Rosen on pleading grounds, despite his determination that the plaintiffs had established a strong inference of fradulent intent for two of the individual defendants. The article also reports that a related ERISA class action on behalf of former Kmart employees has survived a motion to dismiss.
Quote of note: "Rosen said he dismissed the lawsuit strictly on technical legal grounds. Congress may have set 'a virtually unreachable' standard for lawsuits that charge private companies with securities fraud, he said. But his decision 'by no means should be construed as giving defendants a completely clean bill of health,' Rosen wrote in the 65-page opinion issued Friday."
Intervoice, Inc. (Nasdaq: INTV) has announced the dismissal, with prejudice, of the securities class action pending against the company in the N.D. of Tex. Intervoice is a Dallas-based maker of call automation systems.
According to the Dallas Business Journal, the suit was filed in June 2001 and alleged "some of Intervoice's executives issued false and misleading statements concerning the financial condition of the company, the results of the company's merger with Brite Voice Systems Inc. in 1999 and the company's business projections." The suit was originally dismissed a year ago, but the plaintiffs were given leave to amend.
Former shareholders of Polaroid, Inc. recently filed a securities class action against KPMG, Inc. in New York federal court alleging that the accounting firm violated industry guidelines in its 2000 audit of Polaroid's finances, leading to misstatements in the company's Form 10-K (prior to the declaration of bankruptcy). The Associated Press reports that bankruptcy court filings by the successor entity to Polaroid are fueling additional questions over whether funds were improperly diverted from Polaroid pension plan participants and shareholders as part of the sale of the company's assets.
Should opt-out plaintiffs be forced to contribute to the attorneys fees of the lawyers running the class action? According to a recent article in the Legal Intelligencer (via law.com - free regist. required), a federal judge has ruled that a group of plaintiffs who recently opted out of a class action antitrust case to pursue their own claims must set aside a percentage of any recovery to compensate the class action plaintiff lawyers. The case is Re: Linerboard Antitrust Litigation and is being heard before Senior District Judge Dubois in the E.D. of Pa.
The Linerboard plaintiffs had been litigating the case for five years, and were just about to conclude discovery, when a group of big-name plaintiffs decided to opt out of the class and file their own lawsuits. Judge Dubois "found that the opt-out plaintiffs have benefited from the years of work already done by the lead lawyers on the case and therefore must pay for that benefit."
Judge Dubois' opinion may have ripple effects in other areas of class action law. The recent decision by a few public entities to bring separate suits in prominent securities fraud cases, for example, certainly raises the possibility that the class attorneys in the relevant class actions will attempt to achieve a similar recovery of fees. (The 10b-5 Daily has posted about the bringing of separate suits by Ohio and California here and here.) Stay tuned.
Quote of note: "'This is the rare antitrust case in which major entities and their counsel awaited the development of the case by designated counsel and only filed suit on the eve of the conclusion of discovery,' DuBois wrote. DuBois ordered the lead lawyers and opt-out lawyers to meet and attempt to reach an agreement on the percentage of funds that should be sequestered from the opt-out plaintiffs' recoveries."
Just when you thought there could not possibly be another appellate loss causation pleading case this summer, along comes the Second Circuit to clarify its position on the issue.
To recap the current scorecard, a clear split in authority has developed between courts that believe plaintiffs must demonstrate a causal connection between the alleged misrepresentations and a subsequent decline in the stock price to establish loss causation (Semerenko v. Cendant Corp., 223 F.3d 165 (3d Cir. 2000); Robbins v. Koger Props, Inc., 116 F.3d 1441 (11th Cir. 1997)) and courts that believe plaintiffs merely need to demonstrate that the alleged misrepresentations artificially inflated the stock price (Gebhardt v. ConAgra Foods, Inc., 335 F.3d 824 (8th Cir. 2003); Broudo v. Dura Pharmaceuticals, Inc., 339 F.3d 933 (9th Cir. 2003)). (The 10b-5 Daily has discussed the Gebhardt and Broudo cases, both decided in the last few months, in previous posts.)
Breaking the apparent tie is the Second Circuit's opinion in Emergent Capital Investment Management, LLC v. Stonepath Group, Inc., 2003 WL 22053957 (2d Cir. Sept. 4, 2003), which clarifies some confusion over the Second Circuit's approach to loss causation. Several courts, including the Ninth Circuit in the Broudo decision, have concluded that the Second Circuit finds allegations of artificial price inflation sufficient to plead loss causation (relying on a 2001 opinion in the Suez Equity case). Not so fast.
In Emergent Capital, the court found that the plaintiff's "pump-and-dump" allegations were sufficient to establish loss causation. Judge Cardamone, however, took exception to the plaintiff's attempt to cite his earlier decision in Suez Equity for the position that a "purchase-time value disparity" can satisfy the loss causation pleading requirement. Devoting an entire section of the opinion to the question, Judge Cardamone clarifies:
"We did not mean to suggest in Suez Equity that a purchase-time loss allegation alone could satisfy the loss causation pleading requirement. To the contrary, we emphasized that the plaintiffs had 'also adequately alleged a second, related, loss--that [the executive's] concealed lack of managerial ability induced [the company's] failure.' Moreover, we expressly distinguished that case from one where the ultimate decline in the market price of a company's securities would be unrelated to that company's manager's concealed negative history."
The court goes on to conclude that Suez Equity did not undermine the Second Circuit's "established requirement that securities fraud plaintiffs demonstrate a causal connection between the content of the alleged misrepresentations or omissions and 'the harm actually suffered.'"
So now we know where the Second Circuit stands. Anybody else? There's still a week of summer left!
Holding: Judgment of the district court is affirmed, in part, and vacated, in part, and remanded to the district court.
Many thanks to Colin Wrabley for pointing The 10b-5 Daily to this case.
MCG Capital Corp. (Nasdaq: MCGC) has announced the dismissal, with prejudice, of the securities class action filed against the company in the E.D. of Va.
Even without the benefit of reading an opinion, the "with prejudice" part of the decision does not seem surprising. The suit was based on alleged misstatements made by MCG Capital regarding the academic background of the company's chief executive. Last November, the company revealed that its CEO did not, in fact, have an undergraduate degree from Syracuse University. The announcement caused a stock price decline.
The State Treasury and Attorney General of Connecticut are leading a securities class action against JDS Uniphase Corp. (Nasdaq: JDSU), a San Jose-based fiber-optic components maker. In an interesting development, Reuters reports that the Attorney General has taken out an advertisement in the Ottawa Citizen newspaper (JDS Uniphase used to have part of its headquarters in Ottawa and still has 580 employees there) discussing the case and urging JDS Uniphase employees to dislcose what they know about the company even if they've signed confidentiality agreements.
Quote of note: "'Some employees may have signed confidentiality agreements, but the court agreed with the Treasurer's Office and the Attorney General that employees cannot be prevented from telling what they know,' the advertisement said."
The guilty plea of Enron's former treasurer, Ben Glisan, will help the plaintiffs in the pending securities class action against the company. According to a Reuters article, Glisan "admitted that he and others 'engaged in a conspiracy to manipulate artificially Enron's financial statements' in a secretive transaction called Talon, designed to hide debt." Glisan is set to begin his 5-year sentence for wire and stock fraud conspiracy immediately.
Quote of note: "The admission can stand as evidence in a civil court that Glisan, and Enron, engaged in fraud, freeing plaintiffs from having to prove that allegation. 'It may not make it a slam dunk, but it certainly is moving the ball right up to the hoop,' said Neil Getnick, whose Manhattan law firm Getnick & Getnick specializes in business ethics and anti-fraud litigation."
At the Council of Institutional Investors fall meeting last week, New York State Comptroller Alan Hevesi proposed the formation of an activist group dedicated to promoting corporate governance reforms, regulation, and legislation. The group will be called the National Coalition of Corporate Reform (NCCR) and there are plans to have an organizing meeting in October. Other public institutions, along with the president of the AFL-CIO, have expressed their support for the proposed group.
Quote of note: NCCR's agenda, Hevesi announced, includes - "Lobbying efforts will target changes in the Private Securities Litigation Reform Act of 1995, the Sarbanes-Oxley Act of 2002, the Class Action Fairness Act of 2003, SEC regulations, and state laws, where imbalances exist with respect to shareholder rights and corporate obligations."
With the recent announcement of an investigation by New York's attorney general into mutual fund trading practices, there is little doubt that money management firms can expect a wave of securities class actions. Indeed, a number of cases have already been filed.
The 10b-5 Daily will be tracking and reporting the developments in these cases. In the meantime, the Los Angeles Times has a solid primer on what has happened so far.
A federal judge has approved Conseco, Inc.'s (OTCBB: CNCEQ) bankruptcy reorganization plan over the objections of counsel in the securities class action against the company. Conseco is an Indiana-based insurance company that has been dogged by finanical difficulties over the last few years. According to a report in the Indianapolis Star, the plan includes broad legal protections for directors and officers. The plan, and related documents, can be found here.
Quote of note: "[A]t least two parties -- including plaintiffs of a yet-to-be-certified class-action suit against Conseco -- filed similar last-minute objections. They questioned [Judge] Doyle's authority to allow such broad releases as well as whether they actually served Conseco's long-term interest. . . . Doyle countered that federal appeals courts do allow broad legal releases as long as they are consensual to all parties, while Conseco attorneys said the releases will save the company significant costs in time and money that would be spent on legal issues."
A column by Maggie Mulvihill in yesterday's Boston Herald concludes that the state government probes into the financial services industry have been a boon for the securities plaintiffs' bar.
Quote of note: "Bill Galvin. Drew Edmondson. Elliot Spitzer. To big business, they are bloodsucking fiends intent on using corporate finance scandals to advance their own political positions. But to plaintiffs' lawyers, these guys are a dream come true. Their state probes and lawsuits are already opening the floodgates of hard-to-get corporate data - not to mention emboldening civil litigators to start papering courthouses with lawsuits against the financial services industry."
The Walt Disney Co. has obtained the dismissal of a securities class action against the company. The case, filed in the C.D. of Cal., alleged that Disney had failed until May 2002 to disclose in its SEC filings the potential damages at stake in a separate legal dispute with Stephen Slesinger Inc., which holds the U.S. merchandising rights for Winnie-the-Pooh.
Reuters reports that Judge Mariana Pfaelzer was critical of the plaintiffs' arguments, noting that events in a case can suddenly change lawyers' views of the outcome (leading to Disney's decision to make its May 2002 disclosure) and that "everybody is on notice that this [the Slesinger suit] could be a big case." Nevertheless, the plaintiffs were given 30 days to amend their complaint if they want to try again.
For those readers following the Halliburton securities class action, two quick updates:
1) As noted previously on The 10b-5 Daily, counsel for one of the lead plantiffs, Scott + Scott, has refused to sign onto the proposed $6 million settlement and is attempting to have Schiffrin & Barroway removed as lead counsel. One of the issues raised by Scott + Scott is why Vice President Dick Cheney, the former CEO of Halliburton, was not named as a defendant. According to a post on Classobjector, the court has rejected Scott + Scott's motion to show cause (i.e., the removal of Schiffrin), but did so without prejudice, leaving open the possibility of further motions on this issue.
2) The Associated Press reports that a separate securities fraud suit against Halliburton and Vice President Cheney, filed by three small investors in federal court, has been dismissed. The allegations in that case were reportedly similar to those in the class action. It will be interesting to see what, if any, effect this dismissal will have on the controversy surrounding the class action settlement.
Want the plaintiffs to voluntarily dismiss their securities class action? All you have to do is get the SEC to approve your "unusual" accounting practices. According to an article in the Boston Globe, PolyMedica Inc. (Nasdaq: PLMD - a maker of diabetes test kits) has convinced the SEC to approve its use of a "1993 accounting rule to record marketing costs as an asset on its balance sheet." This accounting treatment was the subject of the securities class actions pending against the company, which may now be dropped.
Quote of note: "PolyMedica argued it operates like an insurance company because customers sign up immediately upon viewing an ad. The company is well known for the blood-glucose test kits it sells via television ads under its Liberty brand name. The company said the SEC has decided that 'PolyMedica should continue to capitalize its direct response advertising costs related to the acquisition of new customers, rather than expensing such costs as incurred.'"
According to an article in the Associated Press, Humana Inc. (NYSE: HUM) has agreed to settle a securities class action brought against Physicians Corp. of America in the S.D. of Fla. (Humana purchased Physicians Corp. in 1997.)
The case alleges that Physicians Corp. hid financial losses in 1996 and 1997. The settlement comes after the denial of a motion to dismiss and is for $10.2 million or an estimated 81 cents per share (44 cents per share after expenses).
Quote of note: Lead counsel for the plaintiffs, defending the size of the settlement, stated - "'They're not easy to win. You don't see many Enrons. You may think you see a lot of Enrons but you don't, and Physicians Corporation is not an easy case,' he said. 'I think it could have been won, but it's not a sure thing.'"
Foundry Networks (Nasdaq: FDRY) has obtained a dismissal, with prejudice, of the securities class action against the company in the N.D. of Cal. The case was originally filed in January 2001.
Securities Litigation Watch reports that it was the fifth amended complaint in the case and "the Court found that plaintiffs had, at most, alleged facts giving rise to a 'reasonable inference' (rather than the required 'strong inference') that defendants knew the challenged statements were false when made." A copy of the order can be found here.
Checkers Drive-In Restaurants Inc. (Nasdaq: CHKR) has announced a summary judgment win in the securities class action filed against Rally's Hamburgers in the W.D. of Kentucky. (Rally was acquired by Checkers in 1999). The suit was based on conduct that took place in the early 1990s.
Judge Simpson found that the plaintiffs would not be able to establish fraudulent intent and that certain analyst evaluations of the company's challenged statements "counterbalanced any misleading effect those statements might have had on the market." (The opinion actually can be found on Checkers' website.)
Quote of note (opinion): "[I]n this case, as in others, the claims of wrongdoing are based upon a fiction that poor management constitutes fraud if a company's plans for continued growth do not succeed."
Under the PSLRA, the lead plaintiff in a securities class action is presumptively the party with the largest financial interest in the relief sought by the class. The presumption may be rebutted, however, by a showing that this party will not fairly and adequately protect the interests of the class or is subject to unique defenses not applicable to other class members. Not only does the lead plaintiff get to run the case, it also has virtually free reign to appoint its attorney as lead counsel for the class. Given that the lead counsel can obtain significant fees from a successful securities class action, the battle over the lead plaintiff position is often intense.
The State of New Jersey has been an active participant in securities class actions over the past few years, often applying for the lead plaintiff role. (The 10b-5 Daily previously posted about this development.) In In re Motorola Securities Litigation, 2003 WL 21673928 (N.D. Ill. July 16, 2003), New Jersey was far and away the lead plaintiff candidate with the most alleged losses. Its candidacy came under fierce attack, however, from another group of investors, led by Commerzbank, who were also seeking the lead plaintiff position.
First, Commerzbank argued that New Jersey would be subject to a unique defense because state officials have publicly criticized the state's Department of Investment, blaming it for the relevant losses. The court rejected this argument, noting that "if New Jersey's investment strategy during the early part of the decade was less than ideal, this actually may make the State more typical of those who have lost money in the stock market rather than less."
Second, Commerzbank argued that newspaper reports in New Jersey suggested the existence of a "pay-to-play" scheme, in which Governor McGreevey would consider hiring law firms to represent the state in securities litigation if they made political contributions. The newspaper article in question, however, made no mention of the Motorola litigation or the two firms representing the state in the case (who both submitted declarations denying they had been awarded the representation in return for political contributions).
Holding: New Jersey appointed lead plaintiff.
The decision can be found here by putting in the case number (No. 03 CV 287).
Infonet Services Corporation (NYSE: IN), a California communication services provider, has announced the dismissal, without prejudice, of the securities class action against the company. The plaintiffs have until October 2, 2003 to refile.
Over the holiday weekend, the USA Today had an article discussing the recent trend of including corporate governance reforms as part of the settlement of shareholder litigation. The article focuses on the recent settlements of the Siebel Systems derivative case and the Computer Associates securities class action (posted about in The 10b-5 Daily).
Addition: TheStreet.com has posted a more comprehensive article on the same topic. The author argues that the increased participation of institutional investors as lead plaintiffs in securities class actions is behind the surge in settlements containing corporate governance reforms.
The South Korean legislature continues to debate over legislation that would permit investors to bring securities class actions. The Korea Herald reports that South Korea's major business lobbying groups have urged the government to "think twice" before implementing the change, which "could hamper business activities."
The 10b-5 Daily has been following this story intently (see posts here and here for details on the legislative proposals). South Korea is starting with a blank slate, with full knowledge of the pros and cons of the U.S. securities class action system. It will be interesting to see what the final legislation looks like.