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Ninth Circuit:
Plausible Motive Averment Weighty in Securities Fraud Action
Absent Such an Allegation, Judge Lee Says, Plaintiff Has a Large Chore in Pleading Facts From Which a Strong Inference Can Be Drawn of an Intent to Deceive or Cheat Potential Investors
By a MetNews Staff Writer
A class action alleging securities fraud was properly dismissed with prejudice where the complaint did not spotlight a plausible motive for misleading investors or otherwise set forth “compelling and particularized” allegations as to scienter, the Ninth U.S. Circuit Court of Appeals held yesterday.
The opinion, authored by Judge Kenneth K. Lee, is enlivened by allusions to baseball history.
Lee’s opinion, which affirms an order of dismissal by District Court Judge John A. Kronstadt of the Central District of California, declares:
“As its name suggests, a securities fraud lawsuit requires a showing of an intent to defraud investors. Mere negligence—even head-scratching mistakes—does not amount to fraud. So if the complaint fails to plead a plausible motive for the allegedly fraudulent action, the plaintiff will face a substantial hurdle in establishing scienter.”
Lee said that to support a claim under the Private Securities Litigation Reform Act, there must be a “strong inference” of scienter. The pleading, he noted, “must allege that the defendant made false or misleading statements with an ‘intent to deceive, manipulate, or defraud,’ or with deliberate recklessness.”
The judge specified:
“It is true that a complaint lacking a plausible motive allegation may still meet its burden of pleading a strong inference of scienter….But the lack of a plausible motive certainly makes it much less likely that a plaintiff can show a strong inference of scienter.”
The allegations in the present case, Lee said, do not give rise to such an inference.
Declared Stock Value
The primary defendant was H.C. Wainwright & Co. (“HCW”), a specialty investment bank that concerns itself with healthcare industry. At 4:03 a.m., on Oct. 10, 2017, it released a report by Oren Livnat, a managing director and securities analyst, which set the value of stock in MannKind Corporation, a in Westlake Village biopharmaceuticals company, at $7 a share.
The stock had been selling at $5.33 per share. As a result of Livnat’s report, the complaint alleged, the shares closed at $6.71 that day, with the volume of trading rising from 13.22 million shares the day before to 48.23 million shares.
Then at 9:02 p.m. on Oct. 10, MannKind announced it was selling shares, through HCW, at $6 per share.
The class action, alleging that HCW inflated the value of the shares in Livnat’s report, was brought on behalf of those who purchased shares between 4:03 a.m. and 9:02 p.m. on Oct. 10. It was alleged that HCW’s Compliance Department, which looks out for conflicts, knew or should have known of the forthcoming offering of common shares at $6 a share and headed off Livnat’s report.
In addition to suing HCW, Livnat, and HCW’s chief executive officer, Mark Viklund, and its chief operating officer, Edward D. Silvera, were named as defendants.
Kronstad’s Ruling
Kronstadt held that the second amended complaint (“SAC”) inadequately pled scienter. His July 2, 2019 order says:
“The allegations of the SAC could support a range of inferences. These include conduct with fraudulent intent, i.e., at the time the Report was issued, someone at H.C. with the requisite authority knew about the alleged omissions in the Report as well as the forthcoming Offering, yet allowed the Report to issue just prior to the Offering. Another inference could be deliberate recklessness, i.e., someone in the Compliance Department turned a “blind eye” to the available information when approving the issuance of the Report.”
The order continues:
“However, negligence or ‘mere recklessness’ could also be inferred. For example, one such inference is that someone in the Compliance Department made a negligent review of the Report before its issuance. Another is that a person in the Investment Banking Department negligently failed timely to notify the Compliance Department about the pending Offering. As the SAC has been pleaded, the latter category of inferences is the most compelling.”
The judge dismissed the SAC with prejudice as to Livnat but granted leave to amend as to the other defendants. After the lead plaintiff, Panthera Investment Fund L.P., advised that it would not amend, the judge ordered the action dismissed with prejudice.
Lee’s Opinion
In his opinion affirming the dismissal, Lee pointed out:
“HCW would stand to lose more from its allegedly fraudulent actions than it would gain. HCW’s apparent snafu—issuing a $7 target price in a Report just before a dilutive offering of $6 per share—likely strained its longstanding relationship with MannKind. The risk of losing a longtime client and publicly sullying its own reputation in the industry far outweighs the benefit of a slightly higher return on one transaction.”
He added:
“Indeed, the only plausible explanation for HCW’s action is that someone there pulled a Bill Buckner and somehow let a glaring conflict pass by. Its conduct is more like an embarrassing Red Sox error than an elaborate Black Sox fraud. Simply put, a company’s apparent error—even an embarrassing or inexplicable one—does not establish fraudulent intent, especially if the plaintiff cannot offer a plausible motive for the company’s conduct.”
The late Buckner, a player for the Red Sox, is commonly blamed for causing his team to lose the 1986 World Series. In the tenth-inning in Game 6, he failed to pick up a ground ball and hit first base with it, the ball going through his legs. The Black Sox scandal occurred in 1919. Eight members of the Chicago White Sox tried on conspiracy charges, accused of throwing the World Series in exchange for payments from gambling interests; they were acquitted.
Lee said allegations against the individual defendants were also flimsy, noting as to Livnat that there was no allegation he had any knowledge of the imminent offering at $6 a share.
The case is Panthera Investment Fund LP v. H.C. Wainwright & Co., LLC, 19-56048.
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