Dismissals Granted for U.S.-Listed Chinese Company's CFO and in the Deutsche Bank Subprime Securities Suit
Two of the significant securities litigation trends we have been following are the subprime-related securities litigation and the securities suits that have been filed against U.S.-listed Chinese companies. As discussed below, in the past few days courts granted dismissal motions in each of these kinds of cases.
Jiangbo’s CFO’s and Auditors’ Dismissal Motions Granted
First, just when it seemed that the plaintiffs’ in the many securities suits involving U.S. listed Chinese companies might be making some progress (about which refer here, scroll down to second item), a Florida federal judge has granted dismissal motions in a securities suit involving a Chinese company. On August 1, 2012, Southern District of Florida Judge Marcia Cook, in the securities class action lawsuit involving Jiangbo Pharmaceuticals, granted the motions to dismiss of the company’s CFO, Elsa Sung, and of its auditor. The dismissals are without prejudice. A copy of her opinion can be found here. (Hat tip: Courthouse News Service.)
Jiangbo became a listed company in the U.S. as a result of the Chinese company’s reverse merger with a U.S.-listed publicly traded shell company. As detailed here, shareholders first filed their action in July 2011, following the company’s June 7, 2011 filing on Form 8-K, in which the company announced that members of its audit committee had resigned due to the company’s senior executives’ lack of cooperation with an internal investigation of possible accounting concerns. (The audit committee members’ letters of resignation, which details the extremes to which senior company officials went to avoid the investigators, can be found here and makes for interesting reading.) Among other things, the plaintiffs alleged that the company overstated its reported cash balances and failed to report related party transactions.
The company itself has failed to appear in the case, but the company’s former CFO and former auditor –who are both located in the U.S. – have appeared, and they both moved to dismiss. In her August 1 opinion, Judge Cook granted their motions, finding that while the plaintiffs sufficiently alleged that the company’s reported cash balances were materially misleading, the plaintiffs had not sufficiently alleged scienter as to the CFO and the auditor.
In granting the CFO’s motion to dismiss, Judge Cook said that the inference that the CFO intentionally or recklessly overstated the company’s cash balances “is not as compelling as the competing inference that Sung failed to disclose Jiangboa’s true financial condition because she either was unaware of, or, at most, was grossly negligent in failing to discover the true amount of the Company’s cash balances.”
Judge Cook went on to note that the plaintiffs’ arguments that the CFO “must have known” of the company’s over-reporting of its cash balances were based on “conclusory” allegations that the CFO was involved in day-to-day operations and therefore must have known the cash balances were incorrect. “In fact,” Judge Cook noted, “Sung worked mainly in Florida, while the Company conducted its operations in Laiyung.” These facts “support the competing inference that Sung did not know the Company’s true financial condition.” Judge Cook also found that the plaintiffs had not alleged that there was anything in particular about the cash balance amounts that would make them “suspicious”
Judge Cook concluded that “even though Plaintiffs sufficiently allege that Jiangbo’s financial statements may have contained materially false or misleading information regarding its cash balances, they have not alleged sufficient facts to yield a strong inference of scienter as to Sung.” Judge Cook reached a similar conclusion with respect the plaintiffs’ allegations against the company’s auditor. Judge Cook did grant the plaintiffs leave to amend, noting that “further facts regarding the magnitude of the fraud and Sung’s knowledge or involvement in the Company’s operations and preparation of the financial statements may well be sufficient to show scienter in this case.”
Deutsche Bank’s Dismissal Motion Granted
In an August 10, 2012 order, and based on Deutsche Bank’s motion for reconsideration of her prior ruling in the case, Southern District of New York Deborah Batts granted Deutsche Bank’s motion to dismiss the subprime-related securities suit that had been filed against the company and certain of its directors and officers. A copy of the August 10 opinion can be found here.
As discussed here, the plaintiffs had alleged that the company had failed to properly record provisions for credit losses, residential mortgage-backed securities, commercial real estate loans, and exposure to monoline insurers. In an August 19, 2011 order (here), Judge Batts granted the defendants’ motions to dismiss with respect to certain of the plaintiffs’ allegations, but she also ruled that the plaintiffs had adequately stated claims under the Securities Act of 1933 with respect to the company’s 2007, February 2008 and May 2008 securities offerings.
However, just four days after she allowed the plaintiffs’ claims to proceed with respect to those three offerings, the Second Circuit released its decision in Fait v. Regions Financial Corporation. As discussed here, the Second Circuit held that estimates of goodwill and loan loss reserves were not “facts,” but rather are “opinions” and that in order to state a Securities Act claim, a plaintiff must allege not only that the statements were false, but that the defendants’ opinions were not honestly believed when made. In reliance on Fait, Deutsche Bank moved to have Judge Batts reconsider the portion her August 2011 ruling in which she had permitted certain of the plaintiffs’ claims to go forward.
In her most recent ruling, Judge Batts granted the defendants’ motion for reconsideration and granted their motion to dismiss as well. Judge Batts said that plaintiffs’ allegations about valuation measures used in the offering documents “suggest that Defendants were wrong, and perhaps egregiously so, in their internal valuation metrics. “ However, after Fait, “it is clear…that such valuations are a matter of opinion rather than fact.” Accordingly, she concluded, the plaintiffs “must allege that Defendants did not honestly believe those valuations when made. The Complaint in this matter contains no such allegations.” Because the plaintiffs state in their complaint that their claims rely exclusively on theories of strict liability and negligence, Judge Batts denied the plaintiffs leave to amend.
The plaintiffs’ allegation in their complaint that they were relying exclusively on theories of negligence and strict liability are fairly standard in Securities Act claims, as plaintiffs typically do not want to have to meet the higher pleading standards required under the Federal Rules of Civil Procedure for pleading fraud. Indeed, companies are generally said to be strictly liable under the Securities Act for material misrepresentations or omissions in securities offering documents. But, according to Fait, the things that the plaintiffs are alleging her to be misleading are not facts at all, but opinions. For the plaintiffs to have to allege that the defendants didn’t believe those things when they said them raises a high barrier for the plaintiffs to have to get over.
I have in any event added Judge Batts’s ruling in the Deutsche Bank case to my tally of subprime and credit crisis-related dismissal motion ruling, which can be accessed here.
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