Developments Under the Private Securities Litigation Reform Act

Gregory P. Joseph

The Private Securities Litigation Reform Act of 1995 (the "Reform Act" or "Act" or "PSLRA") was passed with much fanfare, over Presidential veto, on December 22, 1995. It was designed to enact new barriers to securities fraud actions - procedural bars and substantive safe harbors - in addition to all preexisting legal requirements. Its two principal reforms are (1) heightened pleading standards and (2) requiring actual fraudulent intent with respect to forward-looking statements. The Reform Act has met with a mixed reception in the courts, with the Circuits split as to its meaning at the crucial pleading stage, inter alia. This outline touches on various issues arising routinely in private securities litigation under the Act.

I. PLEADING REQUIREMENTS & DISMISSAL MOTION.

A. State of Mind.

1. Reform Act. The Act requires that the complaint, "with respect to each act or omission alleged to violate this title, state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind" (15 U.S.C. § 78u-4(b)(2)). To the extent that forward-looking statements are attacked, the "required state of mind" is defined to be actual knowledge of falsity (§ 78u-5(c)(1)(B)).

2. Prior Law. Prior to enactment of the Reform Act, there was a split in the Circuits as to the pleading requirements in Rule 10b-5 cases. Some Circuits, such as the Second, required that a plaintiff plead facts giving rise to a "strong inference" of scienter. Other Circuits, notably the Ninth, allowed plaintiffs to aver scienter more generally. To an extent not fully agreed upon by the courts, the Reform Act draws on Second Circuit precedent.

a. Under Second Circuit precedent, there were "two distinct ways in which a plaintiff may plead scienter without direct knowledge of the defendant's state of mind. The first approach was to allege facts establishing a motive to commit fraud and an opportunity to do so. The second approach is to allege facts constituting circumstantial evidence of either reckless or conscious behavior." In re Time Warner Inc. Secs. Litig., 9 F.3d 259, 268-69 (2d Cir. 1993).

b. "Motive would entail concrete benefits that could be realized by one or more of the false statements and wrongful nondisclosures alleged. Opportunity would entail the means and likely prospect of achieving concrete benefits by the means alleged." If the defendants' motive to commit securities fraud is not readily apparent, the plaintiffs face a more stringent standard for establishing fraudulent intent. Shields v. Citytrust Bancorp, 25 F.3d 1124 (2d Cir. 1994).

3. Reform Act Legislative History. With specific reference to the scienter requirement, the House Joint Conference Committee Report recites: "Because the Conference Committee intends to strengthen existing pleading requirements, it does not intend to codify the Second Circuit's case law interpreting this pleading standard." 1995 U.S.C.C.A.N. 679, 740. In a footnote, the report elaborates that, for this reason, it does away with Second Circuit case law permitting scienter to be established by pleading motive and opportunity, or recklessness (these are not enough according to footnote 23 of the Conference Committee Report).

a. "It is clear from the conference report that Congress sought to reduce the volume of abusive federal securities litigation by erecting procedural barriers to prevent plaintiffs from asserting baseless securities fraud claims" In re Silicon Graphics, Inc., Sec. Lit:, CCH Fed. Sec. L. Rep. (CCH) 90,610 (9th Cir. Aug. 4, 1999).

4 Reform Act Case Law.. The Reform Act has spawned a hotly-litigated question as to what facts create a "strong inference" of scienter. Four lines of interpretation have developed.

a. Evidence of Intentional Wrongdoing. The strictest line of authority heeds the legislative history of the Act, which states that Congress intended to strengthen the Second Circuit scienter standard (the strictest under prior law). H. Conf. Rep. No. 104-369 at 41 & n.23, reprinted in 1995 U.S.C.C.A.N. 679, 740 & n.23. These courts hold that merely pleading motive and opportunity, or recklessness, is insufficient - specific facts that constitute strong circumstantial evidence of deliberately reckless or conscious behavior are required. The Ninth Circuit adopted this view in In re Silicon Graphics, Inc., Sec. Lit:, 183 F.3d 970, 974 (9th Cir. 1999) (revised opinion) ("a private securities plaintiff proceeding under the PSLRA must plead, in great detail, facts that constitute circumstantial evidence of deliberately reckless or conscious misconduct.... Congress intended to elevate the pleading requirement above the Second Circuit standard requiring plaintiffs merely to provide facts showing simple recklessness or a motive to commit fraud and opportunity to do so. We hold that although facts showing mere recklessness or a motive to commit fraud and opportunity to do so may provide some reasonable inference of intent, they are not sufficient to establish a strong inference of deliberate recklessness ["intent" in the original version of the opinion]. In order to show a strong inference of deliberate recklessness [again, originally "intent"], plaintiffs must state facts that come closer to demonstrating intent, as opposed to mere recklessness. Accordingly, we hold that particular facts giving rise to a strong inference of deliberate recklessness, at a minimum, is required to satisfy the heightened pleading standard under the PSLRA. We think that our holding represents the best way to reconcile Congress' express adoption of the Second Circuit's so-called 'strong inference standard' with its express refusal to codify that circuit's case law interpreting the standard") (italics largely added).

b. Motive and Opportunity Not Presumptively Sufficient. The middle line of cases concludes that, even without regard to the legislative history, the plain language of the Act strengthens the Second Circuit standard. These courts reason that motive and opportunity - because omitted from the Act - are not presumptively sufficient, yet may provide some evidence of the necessary showing of intentional or virtually intentional wrongdoing. The Sixth Circuit adheres to this view. In re Comshare, Inc., Sec. Litig., 183 F.3d 542, 551 (6th Cir. 1999) ("evidence of a defendant's motive andopportunity to commit securities fraud does not constitute 'scienter' for the purposes of § 10b or Rule 10b-5 liability.... Consequently, we cannot agree that under the PSLRA, plaintiffs may establish a 'strong inference' of scienter merely by alleging facts demonstrating motive and opportunity where those facts do not simultaneously establish that the defendant acted recklessly or knowingly, or with the requisite state of mind. While facts regarding motive and opportunity may be 'relevant to pleading circumstances from which a strong inference of fraudulent scienter may be inferred,' and may, on occasion, rise to the level of creating a strong inference of reckless or knowing conduct, the bare pleading of motive and opportunity does not, standing alone, constitute the pleading of a strong inference of scienter. Thus,... plaintiffs may meet PSLRA pleading requirements by alleging facts that give rise to a strong inference of reckless behavior but not by alleging facts that illustrate nothing more than a defendant's motive and opportunity to commit fraud") (footnote omitted), quoting In re Baesa Secs. Litig., 969 F. Supp. 238, 242 (S.D.N.Y. 1997) (overruled by Press, infra, but relied upon by Comshare).

The Eleventh Circuit and the First Circuit follow this approach, as well. Bryant v. Avado Brands, Inc., 187 F.3d 1271, 1285-86 (11th Cir. 1999) ("we reject the notion that allegations of motive and opportunity to commit fraud, standing alone, are sufficient to establish scienter in this Circuit. In so holding, we are persuaded by the reasoning of the Sixth Circuit.... While allegations of motive and opportunity may be relevant to a showing of severe recklessness, we hold that such allegations, without more, are not sufficient to demonstrate the requisite scienter in our Circuit"); Greebel v. FTP Software, Inc., 194 F.3d 185, 197 (1st Cir. 1999) ("our view of the Act is thus close to that articulated by the Sixth Circuit" - i.e., "that evidence of motive and opportunity to commit fraud d[oes] not, of itself, constitute scienter"; declining to hold that they "can never be enough...."); see also In re Paracelsus Corp. Sec. Lit., Master File No. H-96-3464, Slip Op. at 7-8 (S.D. Tex. Nov. 3, 1998).

c. Codification of Second Circuit Standard - But Stricter Particularity in Pleading Motive & Opportunity. In In re Advanta Corp. Secs. Litig., 180 F.3d 525, 535 (3d Cir. 1999), the Third Circuit concluded that the motive and opportunity test of the Second Circuit survived passage of the Reform Act, but that the particularity requirements had been enhanced by 15 U.S.C. § 78u-4(b)(2). "We believe Congress's use of the Second Circuit's language compels the conclusion that the Reform Act establishes a pleading standard approximately equal in stringency to that of the Second Circuit.... Accordingly, we hold that it remains sufficient for plaintiffs plead scienter by alleging facts 'establishing a motive and an opportunity to commit fraud, or by setting forth facts that constitute circumstantial evidence of either reckless or conscious behavior.' Motive and opportunity, like all other allegations of scienter (intentional, conscious, or reckless behavior), must now be supported by facts stated 'with particularity' and must give rise to a 'strong inference' of scienter. 15 U.S.C. § 78u-4(b)(2). These heightened pleading requirements address the previous ease of alleging motive and opportunity on the part of corporate officers to commit securities fraud. Permitting blanket assertions of motive and opportunity to serve as a basis for liability under the Exchange Act would undermine the more rigorous pleading standard Congress has established. After the Reform Act, catch-all allegations that defendants stood to benefit from wrongdoing and had the opportunity to implement a fraudulent scheme are no longer sufficient, because they do not state 'facts with particularity or give rise to a strong inference of scienter'" (emphasis added; citations omitted).

The Second Circuit adopted the Third Circuit's Advanta interpretation in Novak v. Kasaks, 216 F.3d 300, 311-12 (2d Cir. 2000).

d. Simple Codification of Second Circuit Standard. The most liberal line of authority disregards the legislative history of the Act and holds that the Act merely codified the Second Circuit standard, permitting plaintiffs to allege either (i) facts constituting strong circumstantial evidence of conscious misbehavior or recklessness, or (ii) facts showing that defendants had both motive and opportunity. With no analysis, the Second Circuit so indicated in Press v. Chemical Investment Servs. Corp., 166 F.3d 529, 537-538 (2d Cir. 1999). This appears to be in conflict with the Second Circuit's subsequent opinion in Novak v. Kasaks, 216 F.3d 300, 312 (2d Cir. 2000).

5. Observations.

a. Motive and Opportunity, Alone, Not Intended to Suffice. The legislative history clearly suggests that motive-plus-opportunity alone is no longer sufficient, since that formulation was contained in an earlier version of the legislation but later deleted. The President stated that he was (unsuccessfully) vetoing the Reform Act precisely because it "erect[ed] a higher barrier to bringing suit than any now existing." See 141 Cong. Rec. S19,035 (Dec. 21, 1995). See generally Patricia J. Meyer, What Congress Said About the Heightened Pleading Standard: A Proposed Solution to the Securities Fraud Pleading Confusion, 66 FORDHAM L. REV. 2517, 2543, 2549, 2557 (1998) ("the statute's text and history compel the conclusion that the [Reform Act's] pleading standard is more stringent than the prior Second Circuit test"); Ryan J. Miest, Would the Real Scienter Standard Please Stand Up: The Effect of the Private Securities Litigation Reform Act of 1995 on Pleading Securities Fraud, 82 MINN. L. REV. 1103, 1129-30 (1998) ("Courts have... erred by assuming, based on the absence of explicit congressional language, that the motive and opportunity test was not preempted"); ; Laura Smith, The Battle Between Plain Meaning and Legislative History: Which Will Decide the Standard for Pleading Scienter After the Private Securities Litigation Reform of 1995, 39 SANTA CLARA L. REV. 577, 612 (1999) ("it is already quite clear that Congress intended something stricter than the standard already imposed by the Second Circuit"); Lisa A. Herrera, Will Motive, Opportunity or Recklessness No Longer Constitute Scienter for Fraud?, 26 PEPP. L. REV. 379, 405 (1999) (adopting the analysis of In re Baesa Sec. Litig., 969 F.Supp. 238, 242 (S.D.N.Y. 1997) that "the Reform Act heightens [beyond pre-PSLRA Second Circuit standards] the pleading standard for securities fraud"). b. Some Evidence. Nonetheless, as Baesa observes (and the First, Third, Sixth and Eleventh Circuits have echoed), motive and opportunity may constitute some evidence of scienter, even though motive and opportunity, alone, is insufficient.

c. Recklessness. Notwithstanding footnote 23 of the Conference Committee Report, it is not clear that recklessness has been eliminated in the statute, other than (1) with respect to proportionate liability, where a "knowing" standard is clearly articulated (see § 21D(g)(2)(A) of the 1934 Act), and (2) for statements that fall within the safe harbor, as to which "actual knowledge" of falsity must be proved (see § 27A(c)(1) of the 1933 Act and § 21E(c)(1) of the 1934 Act) (discussed below).

d. What Is Recklessness? Some decisions had, by the mid-90s, gotten somewhat lax in what they perceived to be reckless conduct, often little more than enhanced or aggravated negligence. the standard of recklessness is essentially tantamount to circumstantial evidence of actual intent to defraud. That is dictated by the Supreme Court's holding, in Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193-94 n.12 (1976), that scienter is a "mental state embracing intent to deceive, manipulate or defraud." Thus, every post-PSLRA Circuit-level decision applies the same strict definition -namely, the classic definition of Sundstrand Corp. v. Sun Chem. Corp., 553 F.2d 1033, 1045 (7th Cir. 1977): "'an extreme departure from the standards of ordinary care, which presents a danger of misleading the buyers or sellers that is either known to the defendant or so obvious that the actor must have been aware of it.'" Advanta, 180 F.3d at 535; Comshare, 183 F.3d at 550 (adding that recklessness is "a mental state apart from negligence and akin to conscious disregard"); Greebel, 194 F.3d at 200 (quoting Sundstrand); accord Bryant, 187 F.3d at 1283 ("severe recklessness"). See generally Novak v. Kasaks, 216 F.3d 300, 311 (2d Cir. 2000) ("According to the district court, the scienter requirement can be satisfied by pleading either 'conscious recklessness' - i.e., a state of mind 'approximating actual intent, and not merely a heightened form of negligence' - or 'actual intent.' [Citation omitted]. This was an accurate statement of the law").

e. To the extent that the scienter standard has explicitly been raised (e.g., § 78u-5(c)(1)(B) (actual knowledge for forward-looking statements)) and the complaint has been pled on information and belief - which is currently an extremely contentious issue (discussed below) - the enhanced pleading standard of § 78u-4(b)(2) must be read in conjunction with the statutory pleading requirement for falsity set forth in § 78u-4(b)(1), discussed immediately infra. (See, e.g., "Unidentified Internal Documents" (§ I(B)(4)) and "'Positions' & 'Access'" (§ I(B)(5), below)).

f. It should be noted that the statutory history accompanying the Securities Litigation Uniform Standards Act of 1998, Pub. L. No. 105-303, 112 Stat. 3227 (Nov. 3, 1998) - but not the Act itself - purports to revise the legislative history of the 1995 Reform Act to state that the motive-and-opportunity test was intended to be codified in the Reform Act. The Third Circuit rejected reliance on the Standards Act in deciding the scienter standard under the Reform Act because: "In both the House and Senate floor debate on the Standards Act, legislators continued to disagree whether the Reform Act codified the Second Circuit standard. Furthermore, the Supreme Court has instructed that 'the interpretation given by one Congress (or a committee or Member thereof) to an earlier statute is of little assistance in discerning the meaning of that statute.'" See Advanta, 180 F.3d at 532-33 (citation and footnote omitted). Accord In re Glenayre Tech., Inc., Sec. Lit., 1998 WL 915907, at *2 n.3 (S.D.N.Y. Dec. 30, 1998) (holding that "post-enactment legislative history plays no role in statutory interpretation"), aff'd mem. sub nom. Kwalbrun v. Glenayre Tech. Inc., No. 99-7125, 1999 WL 1212491 (2d Cir. Dec. 16, 1999) (caveat: Glenayre may be deemed to have been overruled in this limited respect by subsequent Second Circuit cases that do not mention it). (See generally Rehabilitation Ass'n of Va. v. Kozlowski, 42 F.3d 1444, 1457 (4th Cir. 1994)("post-enactment legislative history" is a contradiction in terms); American Hospital Ass'n v. N.L.R.B., 899 F.3d 651, 657 (7th Cir. 1990). "[I]t is the function of the courts and not the Legislature, much less a Committee of one House of the Legislature, to say what an enacted statute means." Pierce v. Underwood, 487 U.S. 552, 566 (1988) (rejecting claim that assertion in 1985 committee report as to Congress' intentions in enacting 1980 statute was relevant to the judicial interpretation of the 1980 statute); Hazardous Waste Treatment Council v. E.P.A., 886 F.2d 355, 365 (D.C. Cir. 1989) ("members of Congress have no power, once a statute has been passed, to alter its interpretation by post-hoc 'explanations' of what it means")).

6. Common Scienter Allegations.

a."Positions" & "Access." Similarly, plaintiffs often allege that, "[b]ecause of [each defendant's] positions with the Company, he [or she] knew the adverse non-public information about its business... via access to internal corporate documents..., conversations and connections with other corporate officers and employees, attendance at... meetings and... via reports and other information provided to him [or her] in connection therewith." This allegation has also been rejected as purely conclusory. See, e.g., In re Advanta Corp. Sec. Lit., 180 F.3d 525, 535, 539 (3d Cir. 1999) ("allegations that a securities-fraud defendant, because of his position within the company, 'must have known' a statement was false or misleading are 'precisely the types of inferences which [courts], on numerous occasions, have determined to be inadequate to withstand Rule 9(b) scrutiny.' Maldonado v. Dominguez, 137 F.3d 1, 10 (1st Cir. 1998). Generalized imputations of knowledge do not suffice, regardless of the defendants' positions within the company. See Rosenbloom v. Adams, Scott & Conway, Inc., 552 F.2d 1332, 1336-37 (7th Cir. 1977) ('A director, officer, or even the president of a corporation often has superior knowledge and information, but neither the knowledge nor the information necessarily attaches to those positions')"); Zeid v. Kimberly, 973 F. Supp. 910, 924-925 (N.D. Cal. 1997) ("general allegations of 'access' to company documents, which could be asserted against any corporate executive, do not constitute specific facts of recklessness or conscious behavior"); Health Mgmt., 1998 U.S. Dist. LEXIS 8061, at 17 ("courts have routinely rejected the attempt to plead scienter based on allegations that because of defendants' board membership and/or their executive managerial positions, they had access to information concerning the company's adverse financial outlook"); Coates v. Heartland Wireless Commun., Inc., 1998 U.S. Dist. LEXIS 17383 at *14 (N.D. Tex. Nov. 2, 1998) ("Plaintiffs must properly plead wrongdoing and scienter as to each individual defendant and cannot merely rely on the individuals' positions or committee memberships within the [corporate] organization"); In re Scholastic Corp. Secs. Litig., 1998 U.S.Dist.LEXIS 19529 at *27 (S.D.N.Y. Dec. 15, 1998) ("'Plaintiffs' allegations of access [to adverse non-public information], standing alone, do not constitute strong circumstantial evidence of conscious misbehavior or recklessness'") (brackets in original; citation omitted); Marra v. Tele-Save Holdings, 1999 U.S. Dist. LEXIS 7303 at *15 (E.D.Pa. May 18, 1999) ("Plaintiffs simply assert conclusory allegations that the individual defendants 'had access to the adverse undisclosed information... from internal corporate documents' and were 'involved in the drafting, producing, reviewing, and/or disseminating' the false and misleading statements. Compl. PP 33, 35. The only mention of the individual defendants' involvement with the communication of the allegedly fraudulent statements are three averments that the individual defendants signed various annual reports. Asserting such facts alone will not prevent dismissal"); accord In re Comshare, Inc. Sec. Litig., 1997 U.S. Dist. LEXIS 17262 at *24 (E.D. Mich. Sept. 18, 1997), aff'd in relevant part, 183 F.3d 542 (6th Cir. 1999).

b.Unidentified Internal Documents/Information. A common method used by plaintiffs to attempt to demonstrate scienter is to plead the existence of unidentified, internal corporate documents or information allegedly at variance with the public statements made by the defendants. Several courts have held that to allege the existence of unidentified documents or information of this sort is purely conclusory and does not satisfy the requirements for pleading scienter. See, e.g., Novak v. Kasaks, 216 F.3d 300, 309 (2d Cir. 2000) ("Where plaintiffs contend defendants had access to contrary facts, they must specifically identify the reports or statements containing this information"); In re Silicon Graphics, Inc., Sec. Lit:, 183 F.3d 970, 985, 988 (9th Cir. 1999) (dismissal affirmed where plaintiff "does not include adequate corroborating details. She does not mention, for instance, the sources of her information with respect to the reports, how she learned of the reports, who drafted them, or which officers received them. Nor does she include an adequate descript... In the absence of such specifics, we cannot ascertain whether the officers had the actual or constructive knowledge of [the Company's] problems that would cause their optimistic representations to the contrary to be consciously misleading. In other words, in the absence of such specifics, we cannot determine whether the officers knew that their statements were false at the time they were made - a required element in pleading fraudulent intent"); Heliotrope Gen., Inc. v. Ford Motor Co., 189 F.3d 971, 979 (9th Cir. 1999); Heliotrope Gen., Inc. v. Ford Motor Co., 189 F.3d 971, 979 (9th Cir. 1999); In re Scholastic Corp. Secs. Litig., 1998 U.S. Dist. LEXIS 19529 *27 (S.D.N.Y. Dec. 15 1998) ("'Plaintiffs' allegations of access [to adverse non-public information], standing alone, do not constitute strong circumstantial evidence of conscious misbehavior or recklessness on the part of the Individual Defendants'") (brackets in original; citations omitted); Health Mgmt., 1998 WL 283286, at *6 (collecting cases); Hockey v. Medhekar, 1997 WL 203704, 7 & n.9, *9 (N.D. Cal. Apr. 15, 1997); Id., 1998 U.S. Dist. LEXIS 4297 at *30 (N.D. Cal. Mar. 31, 1998) ("While internal corporate reports may be evidence of why a statement was false or misleading when made... plaintiffs must, at the very least, plead facts that reveal that such documents existed, especially when, as here, plaintiffs allege that defendants knew the statements were false and misleading due to their access to internal corporate data"); In re Oak Technology Sec. Litig., 1997 WL 448168, at *6 (N.D. Cal. July 1, 1997) ("Plaintiffs must identify specific reports or presentations and what information was conveyed in [them]") (emphasis added); Coates v. Heartland Wireless Commun., Inc., 1998 U.S. Dist. LEXIS 17383 at *29 (N.D. Tex. Nov. 2, 1998) ("an unsupported general claim of the existence of confidential company reports is insufficient to survive a motion to dismiss.... [A]ny company that announces low earnings would be vulnerable to ipse dixit claims that the reports exist and that they reflect poor results.... To establish a strong inference of fraud, plaintiffs must provide more details about the alleged negative internal reports, such as report titles, when they were prepared, who prepared them, to whom they were prepared, who prepared them, to whom they were directed, their content, and the sources from which plaintiffs obtained this information"). (This type of allegation was inadequate even under pre-Reform Act law. San Leandro Emer. Med. Grp. Profit Sharing Plan v. Phillip Morris Cos., 75 F.3d 801, 812-13 (2d Cir. 1996); Serabian v. Amoskeag Bank Shares, Inc., 24 F.3d 357, 365 (1st Cir. 1994); Arazie v. Mullane, 2 F.3d 1456, 1467 (7th Cir. 1993).)

c."Defendants Knew." Facts must be alleged to demonstrate that a defendant actually knew a statement was false when made. Conclusory allegations of actual knowledge of falsity on the part of any defendant ("Defendants knew...") is insufficient under § 78u-4(b)(2). See generally In re Advanta Corp. Sec. Lit., 180 F.3d 525, 535, 539 (3d Cir. 1999) ("Rather than state with particularity facts supporting a strong inference that defendants possessed the requisite scienter, plaintiffs offer conclusory assertions that the defendants acted 'knowingly' as well as blanket statements that defendants must have been aware of the impending losses by virtue of their positions within the company. It is well established that a pleading of scienter 'may not rest on a bare inference that a defendant 'must have had' knowledge of the facts.' ... Generalized imputations of knowledge do not suffice, regardless of the defendants' positions within the company") (citations omitted); In re Comshare, Inc. Sec. Lit., 183 F.3d 542, 553 (6th Cir. 1999) ("While Plaintiffs claim Defendants 'were aware of, or were recklessly indifferent to' the revenue recognition errors, they allege no facts to show that Defendants knew or could have known of the errors, or that their regular procedures should have alerted them to the errors sooner than they actually did. Rather, their allegations rest on mere 'information and belief,' and cannot support a strong inference of scienter"); In re Boston Technology, Inc. Sec. Lit., 1998 U.S. Dist. LEXIS 2200, at *25 (D. Mass. Feb. 5, 1998); Walish v. Leverage Grp., 1998 WL 314644, at *3 (E.D. Pa. Jun. 15, 1998). See also Coates v. Heartland Wireless Commun., Inc., 1998 U.S. Dist. LEXIS 17383 at *28 (N.D. Tex. Nov. 2, 1998) ("Plaintiffs merely couple neutral statements of fact with conclusory allegations that defendants 'knew or should have known' of such facts.... It is insufficient to advance general, conclusory allegations, paired with a recitation of neutral facts"); Fant v. Perelman, 1999 U.S.Dist.LEXIS 5694 at *24-25, *30-31 (S.D.N.Y. April 9, 1999) ("plaintiffs have merely alleged their conclusion that defendants necessarily must have known and thus concealed in October the details of the proposal announced November 12. No facts supporting this conclusion are pleaded.... [T]his method of attempting to plead fraud by hindsight is insufficient"); In re Fine Host Corp. Sec. Lit., 25 F.Supp.2d 61, 69 (D.Conn. 1998) ("To the extent that the Complaint attempts to use blanket language... [in] 155 ('Each of the individual Defendants knew and/or recklessly disregarded the false and misleading nature of the information'), it fails to allege with particularity what defendant... knew"); Head v. NetManage, Inc., 1998 U.S.Dist.LEXIS 20433, at *10 (N.D.Cal. Dec. 30, 1998); Gross v. Summa Four, Inc., 93 F.3d 987, 991 (1st Cir. 1996) (pre-Reform Act case); Shields v. Citytrust Bancorp, 25 F.3d 1124 (2d Cir. 1994) (plaintiff's "pleading technique is to couple a factual statement with a conclusory allegation of fraudulent intent. For example, she claims that defendants 'knew or were reckless in not knowing' that the loan loss reserve was inadequate.... [Those allegations are] so broad and conclusory as to be meaningless"); In re Burlington Coat Factory Sec. Lit., 114 F.3d 1410, 1430 (3d Cir. 1997); Gross v. Summa Four, Inc., 93 F.3d 987, 991 (1st Cir. 1996).

d.Compensation, Stock Ownership, Stature & Entrenchment.

See generally Novak v. Kasaks, 216 F.3d 300, 307-08 (2d Cir 2000) ("Plaintiffs could not proceed based on motives possessed by virtually all corporate insiders, including: (1) the desire to maintain a high corporate credit rating, or otherwise sustain 'the appearance of corporate profitability, or of the success of an investment,' and (2) the desire to maintain a high stock price in order to increase executive compensation, or prolong the benefits of holding corporate office, Rather, plaintiffs had to allege that defendants benefitted in some concrete and personal way from the purported fraud") (citations omitted).

i.Officers & Directors. Commonly, class action complaints allege scienter by asserting, with some emendations, that the defendant officers and directors engaged in fraud to (1) increase their incentive-based compensation, (2) protect and enhance their positions with the Company; and (3) to enhance the value of their stockholdings. These allegations have been rejected - both before and since enactment of the Reform Act - on the theory that, if adopted, this incentive-compensation motivation theory "would effectively eliminate the state of mind requirement as to all corporate officers and defendants." Melder v. Morris, 27 F. 3d 1097 (5th Cir. 1994); Phillips v. LCI Int'l, Inc., 190 F.3d 609, 622-623 (4th Cir. 1999); Marksman Partners, L.P. v. Chantal Pharm. Corp., 927 F. Supp. 1297, 1310-13; Tuchman v. DSC Communications Corp., 14 F.3d 1061, 1068-69 (5th Cir. 1994); Acito v. IMCERA Group, Inc., 47 F.3d 47, 53-54 (1995) ("If scienter could be pleaded on that basis alone, virtually every company in the United States that experiences a downturn in stock price could be forced to defend securities fraud actions"); Brogren v. Pohlad, 960 F. Supp. 1401, 1406 (D. Minn. 1997) ("Plaintiffs next argue that the Defendants sought to preserve their reputations in the local business community by artificially keeping MEI out of bankruptcy as long as possible.... The problem with bootstrapping scienter onto this lies in the fact that such sentiments are universal. Every member of the business community has a legitimate and substantial interest in protecting his or her reputation from the stain of a failed enterprise"); Stamatio v. Hurco Cos., Inc., 885 F.Supp. 1180, 1184-85 (S.D. Ind. 1995) (alleged desire to conceal misconduct does not state scienter); Grossman v. Novell, Inc., No. 95-C-54B, 1995 U.S.Dist. Lexis 18362 at *20 (D. Utah Dec. 5, 1995) (plaintiff's "argument that the individual defendants wanted to keep their jobs and maintain their stature in the community is legally insufficient to establish motive to commit fraud. Those desires are nearly universal"), aff'd, 120 F.3d 1112, 1122 (10th Cir. 1997); Shields v. Citytrust Bancorp, 25 F.3d 1124 (2d Cir. 1994) ("To allege a motive sufficient to support the inference that optimistic but erroneous statements were fraudulently made, a plaintiff must do more than merely charge that executives aim to prolong the benefits of the positions they hold"); Fant v. Perelman, 1999 U.S.Dist.LEXIS 5694 at *33 (S.D.N.Y. April 9, 1999) ("it is well-established that defendants' failure to disclose an entrenchment motive or an entrenchment scheme is not actionable under federal securities laws"); Jacobs v. Coopers & Lybrand, 1999 WL 101772 at *16 (S.D.N.Y. Mar 1, 1999) ("merely owning a stock option in a corporation does not provide the owner with motive and opportunity to defraud"). But see Digi Int'l, Inc., Sec. Lit., 6 F. Supp. 2d 1089 (D. Minn. 1998).

ii.Outside Professionals. A professional's motivation to earn a fee does not state scienter, on much the same analysis. Schnell v. Conseco, Inc., 1999 U.S. Dist. LEXIS 4040 at *29 (S.D.N.Y. Mar. 31, 1999) ("An underwriter's alleged motive to earn its underwriting fees is not alone sufficient to sustain a strong inference of fraudulent intent. If it were, every underwriter, law firm, accountant, and investment advisor whose compensation or commission depended on the completion of an initial public offering would have a motive to commit fraud, which would make Rule 9(b) wholly meaningless"), quoting Fisher v. Offerman & Co., Inc., 1996 U.S. Dist. LEXIS 14560, *22 (S.D.N.Y. Oct. 2, 1996); Ellison v. American Image Motor Co., Fed.Sec.L.Rep. (CCH) 90,436 at 91,980 (S.D.N.Y. Feb. 19, 1999) ("The receipt of professional fees does not provide an adequate 'basis for drawing the necessary 'strong inference' of fraudulent intent'") (law firm) (citations omitted); Melder v. Morris, 27 F. 3d 1097 (5th Cir. 1994) ("A contrary conclusion would universally eliminate the state of mind requirement in securities fraud actions against accounting firms"); accord Stamatio v. Hurco Cos., Inc., 885 F.Supp. 1180, 1184-85 (S.D. Ind. 1995).

e. Corporate Credit Rating/Corporate Finance/High Stock Price Motivation. Allegations that defendants have been motivated to defraud in order to maintain solid corporate credit ratings, to permit corporate acquisitions with stock at inflated prices or to facilitate corporate credit transactions, has similarly been rejected on the ground that it can always be alleged and would effectively read the scienter requirement out of the statute. High View Fund, L.P. v. Hall, 1998 WL 642840, *6 (S.D.N.Y. Sept. 17, 1998) (rejecting allegation "that defendants were motivated by a desire to maintain their company's credit rating"); Salinger v. Projectavision, 972 F.Supp. 222, 233 (S.D.N.Y. 1997) ("It is not sufficient... [to allege] an abstract desire to enable the company to continue to enjoy a high stock price and thereby ease the difficulties of raising additional capital"); Coates v. Heartland Wireless Commun., Inc., 1998 U.S. Dist. LEXIS 17383 at *23 (N.D. Tex. Nov. 2, 1998) ("a motive to inflate the stock price to complete successfully two public offerings [is] insufficient to establish scienter"); In re Health Mgmt., Inc. Sec. Lit., 970 F.Supp. 192, 204 (E.D.N.Y. 1997) (rejecting "the desire to conclude various acquisitions by using inflated value of the stock as consideration for mergers and to obtain financing for such acquisitions"); In re FAC Realty Sec. Lit., 990 F.Supp. 416, 423 (E.D.N.C. 1997) (rejecting allegation that defendant wanted to fund deal with overvalued securities where "plaintiff systematically fails to identify any facts giving rise to an inference" of an intent to deceive); Glickman v. Alexander & Alexander Services, Inc., 1996 WL 88570, *6 n.4, *6?7 (S.D.N.Y. Feb. 29, 1996); Marksman Partners, 927 F. Supp. at 1310-12; Salinger v. Projectavision, 972 F.Supp. 222, 233 (S.D.N.Y. 1997); In re Scholastic Corp. Secs. Litig., 1998 U.S.Dist.LEXIS 19529 at *28 (S.D.N.Y. Dec. 15, 1998).

(Pre-Reform Act cases came to the same conclusion. E.g., San Leandro Emergency Medical Plan v. Philip Morris, 75 F.3d 801, 813?14 (2d Cir. 1996) ("We do not agree that a company's desire to maintain a high bond or credit rating qualifies as a sufficient motive for fraud in these circumstances, because 'if scienter could be pleaded on that basis alone, virtually every company in the United States that experiences a downturn in stock price could be forced to defend securities fraud actions'") (quoting Acito v. Imcera Group, Inc., 47 F.3d 47, 54 (2d Cir. 1995)); In re Crystal Brands Sec. Litig., 862 F.Supp. 745, 749 (D.Conn. 1994) (alleged motives (1) to maintain good relations with suppliers to avoid their demanding cash from company and (2) to avoid lenders declaring a corporate default; held infirm because "plaintiffs' allegations of motive... pertain to virtually any company")).

Where a company is engaged in, or specifically contemplating, a stock-for-stock transaction, the result may be different. See Rothman v. Gregor, 220 F.3d 81 (2d Cir. 2000) ("In San Leandro, we simply ruled that a company's desire to maintain a high bond or credit rating, and thereby maximize the marketability of, and minimize the interest rate on, debt securities, does not qualify as a sufficient motive for fraud 'because "if scienter could be pleaded on that basis alone, virtually every company in the United States that experiences a downturn in stock price could be forced to defend securities fraud actions."' 75 F.3d at 814 (alteration in original). Although virtually every company may have the desire to maintain a high bond or credit rating, as San Leandro reasoned, not every company has the desire to use its stock to acquire another company"). The test under the Rothman approach is whether the defendant corporation needed to use stock, as opposed to cash or another form of consideration, in order to accomplish the transaction. See In re Ogden Corp Secs. Lit., 2000 WL 1473602 at *2 (S.D.N.Y. Oct. 4, 2000).

f. Violations of GAAP.

i. Generally. Violations of Generally Accepted Accounting Principles resulting in overstated values on financial statements "indicate negligent accounting at most and are not sufficient to support an inference of fraud." In re Worlds of Wonder Sec. Litig., 35 F.3d 1407, 1426 (9th Cir. 1994) ("The mere publication of inaccurate accounting figures, or a failure to follow GAAP, without more, does not establish scienter"); Novak v. Kasaks, 216 F.3d 300, 309 (2d Cir. 2000) ("allegations of GAAP violations or accounting irregularities, standing alone, are insufficient to state a securities fraud claim. Only where such allegations are coupled with evidence of "corresponding fraudulent intent"... might they be sufficient"); In re Comshare, Inc. Secs. Litig., 1999 U.S.App.LEXIS 15068 at *30 (6th Cir. July 8, 1999) ("The failure to follow GAAP is, by itself, insufficient to state a securities fraud claim"); Chill v. General Electric, 101 F.3d 263, 270 (2d Cir. 1996) ("Allegations of a violation of GAAP provisions or SEC regulations, without corresponding fraudulent intent, are not sufficientto state a securities fraud claim"); Stevelman v. Alias Research Inc., 174 F.3d 79, 84 (2d Cir. 1999) (quoting Chill); Lovelace v. Software Spectrum, 78 F.3d 1015, 1020 (5th Cir. 1996); In re In-Store Advertising Sec. Litig., No. 878 F. Supp. 645, 649 (S.D.N.Y. 1995) (allegations of gross departure from GAAS and GAAP do not satisfy 10b-5 scienter requirement; conclusory allegations of intentional misconduct and recklessness are inadequate); Stamatio v. Hurco Cos., 892 F. Supp. 214, 216 (S.D. Ind. 1995) (violations of GAAP and GAAS asserted against accounting firm alleged "mere negligence" and thus not actionable under 10b-5); Ross Sys. Secs. Litig., [1994] Fed. Sec. L. Rep. 98,363 at 90,494 (N.D. Cal. July 21, 1994); Adam v. Silicon Valley Bancshares, 1994 U.S. Dist. Lexis 2797 at *8-*9 (N.D. Cal. Feb. 7, 1994); Serabian v. Amoskeag Bank Shares, Inc., 24 F.3d 357, 362 (1st Cir. 1994) ("Nothing in the complaint suggests that the decision to delay [reporting a loss]... was fraudulent, even if, as the complaint alleges, it was a violation of Generally Accepted Accounting Principles"). But see Marksman Partners, L.P. v. Chantal Pharm. Corp., 927 F. Supp. 1297 (C.D. Cal. 1996) (which the Second Circuit has held "appl[ies] a more lenient standard of pleading" than the Second Circuit test - see Stevelman v. Alias Research Inc., 174 F.3d 79, 84 (2d Cir. 1999)); Digi Int'l, Inc., Sec. Lit., 6 F. Supp. 2d 1089 (D. Minn. 1998); In re Gupta Corp. Sec. Litig., 900 F.Supp. 1217, 1231 (N.D.Cal. 1994); In re MTC Elec. Tech. Shareholders Litig., 898 F.Supp. 974, 988-89 (E.D.N.Y. 1995).

ii. Duration of Alleged GAAP Violation. "Although Plaintiffs speculate that it is likely that Defendants knew of the GAAP violations because they occurred over a long period of time, claims of securities fraud cannot rest 'on speculation and conclusory allegations.' In re Comshare, Inc. Secs. Litig., 1999 U.S.App.LEXIS 15068 at *31 (6th Cir. July 8, 1999). iii. Impact of Restatement. A restatement of financial statements "does not give rise to a strong inference that [defendants] knowingly or even recklessly misled investors." Digi Int'l, Inc., Sec. Lit., 6 F. Supp. 2d 1089 (D. Minn. 1998) (also noting that year-end restatement does not support inference of prior quarterly misstatements); In re FAC Realty Sec. Litig., 1997 WL 810511, *6 (E.D.N.C. Nov. 5, 1997) ("[m]erely reporting a loss in a year-end financial statement does not, of course, prove that earlier statements were fraudulent"); accord Stevelman v. Alias Research Inc., 1999 U.S.App.LEXIS 6063 at *12-13 (2d Cir. April 5, 1999) ("subsequent revelation of [corporation's] accounting policy change and retroactive announcement of lowered earnings" does not state scienter under the express holding of Acito v. IMCERA Group, Inc., 47 F.3d 47, 53 (1995)).

· Subsequent Revelation of Prior Falsehood. "Plaintiffs' claim that a subsequent revelation of the falsehood of previous statements implies scienter lacks merit, since 'mere allegations that statements in one report should have been made in earlier reports do not make out a claim of securities fraud.'" In re Comshare, Inc. Secs. Litig., 1999 U.S.App.LEXIS 15068 at *31-*32 (6th Cir. July 8, 1999).

g. Insider Trading. To show scienter by virtue of stock sales, "plaintiffs must allege that the trades were made at times and in quantities that were suspicious enough to support the necessary strong inference of scienter." In re Burlington Coat Factory Sec. Lit., 114 F.3d 1410, 1424 (3d Cir. 1997), citing Shaw v. Digital Equip. Corp., 82 F.3d 1194, 1224 (1st Cir. 1996) and Searls v. Glasser, 64 F.3d 1061, 1068 (7th Cir. 1995); accord In re Advanta Corp. Secs. Litig., 1999 U.S.App.LEXIS 13332 at *43 (3d Cir. June 17, 1999). The court "will not infer fraudulent intent from the mere fact that some officers sold stock." Burlington, 114 F.3d at 1424; Advanta, 1999 U.S.App.LEXIS 13332 at *43. "[T]here nearly always are some insiders selling stock in a given time period." In re Sofamor Danek Group, 123 F.3d 394, 403 (6th Cir. 1997) (emphasis added).

i. Unusual Sales: Presumption of Scienter. The Pre-Reform Act doctrine that "[I]nsider trading in suspicious amounts or at suspicious times is, of course, presumptively probative of bad faith and scienter," Kaplan v. Rose, 49 F.3d 1363, 1379 (9th Cir. 1994), survives at least to some extent under the Reform Act. Gilford Partners, L.P. v. Sensormatic Elec. Corp., 1997 WL 570771, at *18 (N.D. Ill. Sept. 10, 1997) (scienter established where 6 of 8 defendants, including 5 insiders, sold significant holdings; 4 of 6 sold a majority or nearly all of their holdings); Voit v. Wonderware Corp., 1997 WL 570710, at *12 (E.D. Pa. Sept. 8, 1997) (same where 3 officers sold $4.6 million worth of stock); Friedberg v. Discreet Logic, 959 F. Supp. 42 (D. Mass. 1997); Marksman Partners, L.P. v. Chantal Pharm. Corp., 927 F. Supp. 1297 (C.D. Cal. 1996)). But see Ross Sys. Secs. Litig., [1994] Fed. Sec. L. Rep. 98,363 at 90,494 (N.D. Cal. July 21, 1994) ("plaintiffs' recitation of the amount of stock sold by defendants and of the decline of [the company's] stock prices do not warrant an inference of fraud; rather, these allegations are conclusory statements informed by hindsight").

Mere Trading Insufficient. Greebel v. FTP Software, Inc., 194 F.3d 185, 197-98 (1st Cir. 1999) ("[M]ere pleading of insider trading, without regard to either context or the strength of the inferences to be drawn, is not enough. [Citation omitted.] At a minimum, the trading must be in a context where defendants have incentives to withhold material, non-public information, and it must be unusual, well beyond the normal patterns of trading by those defendants"); accord In re Advanta Corp. Secs. Litig., 180 F.3d 525, 540 (3d Cir. 1999); In re Comshare Inc. Secs. Litig., 1999 U.S.App.LEXIS 15068 at *28-29 (6th Cir. July 8, 1999).

Duty to Plead Unusual Nature of Trades. Greebel v. FTP Software, Inc., 194 F.3d 185, 207 (1st Cir. 1999) ("Plaintiffs provided no information on sales by corporate insiders at times outside the Class Period, so there is no comparison point. Although the total sum involved was large, the district court correctly concluded that plaintiffs produced no evidence that the trading was out of the ordinary or suspicious. Absent additional evidence, it is not possible to draw a strong inference of scienter based on improper trading on material, non-public information").

ii. Exceptions.

A. Sales by Outside Directors. Sales of securities by an outside director do not give rise to an inference of scienter absent unusual circumstances. Acito v. IMCERA Group, 47 F.3d 47, 54 (2d Cir. 1995); accord Thornton v. Micrografx, Inc., 878 F. Supp. 931, 938 (N.D. Tex. 1995) ("Although Plaintiffs named outside director Stephen Gaal as a Defendant, presumably because he sold Micrografx stock during the Class Period, Plaintiffs have failed to identify a single allegedly misleading statement made by Gaal, or any other fraudulent activity which may be attributable to him").

B. Sales by New Executives or Those in Businesses Unrelated to Problem-Affected Business.

In re Silicon Graphics, Inc., Sec. Lit:, CCH Fed. Sec. L. Rep. (CCH) 90,610 (9th Cir. Aug. 4, 1999) (even massive sales (65%) by executive who just joined company (and thus had no prior history with which to compare sales) and was in business physically removed from, and thus had no "day-to-day contact" with, the adversely affected business, did not give rise to strong inference of scienter).

C. Sales by Limited Number of Insiders. See In re Advanta Corp. Secs. Litig., 1999 U.S.App.LEXIS 13332 at *44 (3d Cir. June 17, 1999) (no inference of scienter where 3 of 7 individual defendants sold nothing); Acito v. Imcera Group, Inc., 47 F.3d 47, 54 (2d Cir. 1995) (the fact that certain defendants did not sell their shares during class period negates claim that announcement of adverse information was delayed so defendants could reap huge profits from stock sales); In re Glenayre Tech., Inc., Sec. Lit., 1998 WL 915907, at *4 (S.D.N.Y. Dec. 30, 1998) (absence of sales by CEO and CFO defeats any inference of scienter arising from sales by 7 other insiders totalling 5% of defendants' collective holdings); Stevelman v. Alias Research Inc., 1999 U.S.App.LEXIS 6063 at *17 (2d Cir. April 5, 1999) ("scienter may not be inferred 'strongly' when the alleged fraud is alleged to have benefitted only a single defendant in a corporate entity"); Head v. NetManage, 1998 WL 917794, at *4 (N.D.Cal. Dec. 30, 1998) (CEO's sale of only 3% of holdings, coupled with no sales by CFO, defeats any inference of scienter arising from sales by 6 other defendants totalling 5% of defendants' collective holdings); In re Cypress Semiconductor Sec. Litig., Fed. Sec. L. Rep. (CCH) 97,060, at 94,697 (N.D. Cal. Sept. 23, 1992) (the fact that three insiders sold portions of their holdings valued at $1.4 million during the class period did not give rise to an inference of scienter where another insider sold nothing), Coates v. Heartland Wireless Commun., Inc., 1998 U.S. Dist. LEXIS 17383 at *27 (N.D. Tex. Nov. 2, 1998) ("the sale of stock by one company executive does not give rise to a strong inference of the company's fraudulent intent. The fact that the other individual defendants did not sell any of their shares during the relevant period sufficiently undermines this motive theory.

D. Quantum of Sales (Individual/Cumulative). No inference of scienter is appropriate where the sellers did not sell a significant percentage of their holdings (shares and options). Acito v. IMCERA Group, Inc., 47 F.3d 47, 54 (1995) (11% of "shares and/or options" not unusual in amount); In re Advanta Corp. Secs. Litig., 1999 U.S.App.LEXIS 13332 at *44-*45 (3d Cir. June 17, 1999) (no inference where 2 individual defendants sold only small percentages of their "total holdings" - 5%, 7% - where the percentages for the other 2 sellers were not pled (since the burden is on the plaintiffs) and where 3 other individual defendants sold nothing); Rothman v. Gregor, 220 F.3d 81, 94 (2d Cir. 2000) (held, $2 million and 9.9% not enough; nor was $20 million and 9.3%).In re Silicon Graphics, Inc., Sec. Lit:, 183 F.3d 970, 987 (9th Cir. 1999) (collectively, 90% of shares and options retained by 6 individual defendants (even though two sold substantial percentages); one individual's sale of 43.6% of his holdings "fail to give rise to a strong inference of fraudulent intent" where the absolute number of shares, 20,000, "represent an insignificant portion of the allegedly suspicious sales" as a whole - i.e., "[i]n light of the relatively low percentage of holdings sold by the other officers"); Stevelman v. Alias Research Inc., 1999 U.S.App.LEXIS 6063 at *15 (2d Cir. April 5, 1999) (reaffirming Acito; sale of 40% of stock during class period held unusual); Havenick v. Network Express, 981 F.Supp. 480, 528 (E.D. Mich. 1997) (no inference of scienter where defendants retained 62 to 85% of holdings), In re Glenayre Tech., Inc. Secs. Litig., 1998 WL 915907 at *4 (S.D.N.Y. Dec. 30, 1998) (5% of defendants' cumulative holdings is a "low percentage [that] militates against an inference of scienter".)

E. Escalating/Large Retained Holdings. No inference of scienter is appropriate where the sellers' net holdings actually increased during the class period. San Leandro Emergency Medical Plan v. Philip Morris, 75 F.3d 801, 813?14 (2d Cir. 1996) (selling defendants' escalating net holdings and non-sale by other defendants undermines scienter); In re Advanta Corp. Secs. Litig., 1999 U.S.App.LEXIS 13332 at *45 (3d Cir. June 17, 1999) (fact that selling defendant "continued to hold a sizable percentage of... stock even after the... sales" undercuts inference of scienter).

· Options Are an Integral Component of the Calculus. In computing the percentage impact of any sales, option holdings must be included in the denominator. In re Silicon Graphics, Inc., Sec. Lit:, 183 F.3d 970, 986-87 (9th Cir. 1999) ("we see no reason to distinguish vested stock options from shares because vested stock options can be converted easily to shares and sold immediately. Actual stock shares plus exercisable stock options represent the owner's trading potential more accurately than the stock shares alone. Therefore, a sale involving a significant portion of an insider's actual shares, but only a small portion of his shares and options combined, is less suspicious, other factors aside"); Acito v. IMCERA Group, Inc., 47 F.3d 47, 54 (1995) (no motive where defendant retained 88% of his "shares and/or options"); In re Advanta Corp. Secs. Litig., 1999 U.S. App. LEXIS 13332 at *45 (3d Cir. June 17, 1999) ("total holdings").

· Failure to Plead Total Ownership or Profits from Sales. To the extent that the complaint fails to allege selling insiders' total holdings, the court "ha[s] even less of a basis to infer that their sales were unusual or suspicious." In re Burlington Coat Factory Sec. Lit., 114 F.3d 1410, 1423 (3d Cir. 1997). See In re Home Health Care Corp. of Am., Inc., Secs. Litig., 1999 WL 79057 at *16 (E.D.Pa. Jan. 29, 1999) (complaint inadequate where it "failed to plead facts showing that th[e] trades were unusual in timing or in quantity, that the shares sold represented a significant percentage of the defendants' holdings, or that the defendants' profits from the sales were substantial in relation to their salaries. Plaintiffs have alleged only that the sales prices were significant when compared to the defendants' salaries, not that the profit from the sales was significant").

F. Higher Sales Pre-Class Period. There is nothing suspicious about trades where the seller had sold roughly as many, or more, shares prior to the class period as during it In re Glenayre Tech. Sec. Litig., 982 F. Supp. 294, 299 (S.D.N.Y. 1997); In re Scholastic Corp. Secs. Litig., 1998 U.S.Dist.LEXIS 19529 at *29 (S.D.N.Y. Dec. 15, 1998).

G. Timing of Sales. Sales two months before announcement of bad news is not suspicious. Head v. NetManage, 1998 WL 917794, at *4 (N.D.Cal. Dec. 30, 1998).

iii. Overcoming Presumption Generated by Insider Sales: Innocuous Reasons. Affirmative evidence of innocuous, "wholly innocent explanations for the stock sales... [is] sufficient to defeat an inference of bad faith." In re Apple Computer Sec. Litig., 886 F.2d 1109, 1117 (9th Cir. 1989); Rubinstein v. Collins, 20 F.3d 160, 169-70 & n.38(5th Cir. 1994). Note the utility of affidavits on summary judgment in this regard. Searls v. Glasser, 64 F.3d 1061 (7th Cir. 1995) (presumption of scienter arising from insider trading defeated by unrebutted affidavit); Kaplan v. Rose, 49 F.3d 1363, 1380 (9th Cir. 1994) (unrebutted affidavits that officers "acted in the good faith belief that each of the statements... [was] accurate" and that they "w[ere] not aware of any objective fact contradicting any of the statements" held to "justify granting [them] summary judgment on the issue of their scienter" but other defendants' affidavits merely reciting reasons why they wanted cash and not expressly negating their possession of material inside information "can even be read to support a finding of... scienter").

iv. Absence of Insider Sales. The absence of stock sales by insiders is affirmative evidence of a lack of scienter. Shields v. Citytrust Bancorp, 25 F.3d 1124 (2d Cir. 1994) ("It is hard to see what benefits accrue from a short respite from an inevitable day of reckoning [absent allegations of insiders' trading in the interim]").

v. Purchases of Stock. Insider purchases of stock during the period that the price was allegedly inflated constitutes affirmative evidence of good faith. In re Allergan Inc. Sec. Litig., 1993 WL 623321, *37 (C.D. Cal. Nov. 29, 1993) ("Plaintiffs' claim of scienter is economically implausible in light of the heavy and repeated purchases of... stock by the very executives supposedly at the helm of the scheme to defraud"); Donohoe v. Consolidated Operating& Prod. Corp., 982 F.2d 1130, 1137 (7th Cir. 1992) (where defendants have invested and lost their own money, an inference that they "had bad hearts... is unreasonable"); Id., 30 F.3d 907, 912 (7th Cir. 1994) (same; § 20 case); Allison v. Brooktree Corp., 999 F. Supp. 1342, 1352-53 (S.D.Cal. 1998) (fact that defendant purchased stock during class period "negate[s] an inference of motive to defraud"... "The court observes that Plaintiffs have a particularly difficult task to demonstrate motive by means of stock sales when the primary alleged wrongdoer was purchasing, and not selling, stock"); Searls v. Glasser, 64 F.3d 1061, 1068 (7th Cir. 1995) ("more significantly, plaintiffs' theory is undermined by evidence showing that over the course of the class period, [the defendant] acquired approximately 10,000 more shares of GATX stock than he sold"); see also Itoba Limited v. LEP Group plc, 32 F. Supp. 2d 516, 520 (D. Conn. 1999) (citing Searls).

This doctrine may be applicable to a corporate repurchase program. See In re Apple Computer Secs. Litig., 886 F.2d 1109, 1118 (9th Cir. 1989) (massive corporate investment plus individuals' retaining the vast bulk of their stock holdings defeats any inference of scienter).

h. Generic Financial Self-Interest.

"Allegations based on mere claims of self-interest are not enough to constitute motive." Fant v. Perelman, 1999 U.S.Dist.LEXIS 5694 at *32 (S.D.N.Y. April 9, 1999).

i. Temporal Proximity/Fraud by Hindsight

i. Generally. With rare exception, the mere fact that a later statement is inconsistent with an earlier statement is not probative of the fact that the earlier statement was false when made. Fant v. Perelman, 1999 U.S.Dist.LEXIS 5694 at *38 (S.D.N.Y. April 9, 1999) ("Indeed, the [Second Circuit] Court of Appeals has held just the opposite - that temporal proximity alone does not raise a circumstantial inference of fraud"), quoting Acito v. IMCERA Group, Inc., 47 F.3d 47, 53 (1995) ("mere allegations that statements in one report should have been made in earlier reports do not make out a claim of securities fraud").

ii. Factors. Unless the later-disclosed information is of a sort that the disclosing party, by definition, must have known at the earlier time (e.g., where that is admitted in, or clear from, the subsequent disclosure) or there is massive insider trading in the interim, the hindsight juxtaposition of later vs. earlier disclosures is not sufficient to give rise to an inference of scienter. Gross v. Summa Four, 93 F.3d 987, 995 (1st Cir. 1996) (5 weeks not proximate enough); San Leandro, San Leandro Emer. Med. Grp. Profit Sharing Plan v. Phillip Morris Cos., 75 F.3d 801, 812 (2d Cir. 1996) (3 weeks not proximate enough); In re Rainforest Cafe, Inc., Sec. Litig., No. 98-74, Slip Op. at 4-5 (D. Minn. Dec. 21, 1998) (2Ѕ weeks not proximate enough); In re Paracelsus Corp. Sec. Lit., No. H-96-3464, slip op. at 15 (S.D. Tex. Nov. 3, 1998) (2 months not proximate enough). Compare Powers v. Eichen, 977 F. Supp. 1031, 1039 (S.D.Cal. 1997) (3 weeks is proximate enough where defendants engaged in huge insider trading activity); In re Grand Casinos, Inc., Securities Litig., 988 F. Supp. 1273, 1277, 1282-84 & n.14 (D.Minn. 1997) (backward inference appropriate where subsequent disclosure admitted earlier knowledge of the fraud by the individual defendants, who engaged in $50 million worth of insider trading during class period). The nature of the disclosure is critical. Compare Cooperman v. Individual, Inc., 171 F.3d 43 (1st Cir. 1999) (backward inference permissible where CEO and founder of company departs just 4Ѕ months after IPO and plaintiffs seek to draw inference that some dissension must have existed at time of IPO) with Gross v. Summa Four, 93 F.3d 987, 995 (1st Cir. 1996) (5 weeks not proximate enough where plaintiff seeks to draw inference that delays in orders announced later must have been known earlier).

j. "Investigation of Counsel."

i. It is common for complaints to include a generic (boilerplate) "basis" paragraph as follows:

"Plaintiffs have alleged the foregoing based upon the investigation of their counsel, which included a review of [defendant corporation's] SEC filings, securities analysts reports and advisories about the Company, press releases issued by the Company, media reports about the Company and discussions with consultants, and believe that substantial evidentiary support will exist for the allegations after a reasonable opportunity for discovery."

B. Falsity.

1. "Reasons" & "All Facts." The Reform Act requires, when the plaintiff alleges that statements are false or misleading, that "the complainant shall specify each statement alleged to have been misleading, the reason or reasons why the statement is misleading, and, if an allegation regarding the statement is made on information and belief, the complaint shall state with particularity all facts on which that belief is based" (§ 78u-4(b)(1)).

2. Information-and-Belief/Investigation of Counsel. In an effort to avoid the strictures of the last clause of § 78u-4(b)(1), class action complaints now typically avoid the use of the phrase "information and belief" and instead allege that the complaint is based on the investigation of counsel (usually reciting the types of documents reviewed and activities undertaken) and conclude by alleging conformity with Fed. R. Civ. P. 11(b)(3) - namely, that "the allegations and other factual contentions have evidentiary support or... are likely to have evidentiary support after a reasonable opportunity for further investigation or discovery." Plaintiffs' counsel commonly urge that this type of pleading is something other than information-and-belief pleading. It is, however, almost universally the case that no plaintiff has any firsthand knowledge of the matters alleged in the complaint. In that circumstance, the complaint is entirely based on information (gathered by counsel) and belief.

a. There are only two types of pleading recognized by the Federal Rules of Civil Procedure - allegations are either made with personal knowledge or on information and belief. See Fed. R. Civ. P. 11(b). "Investigation of counsel" is always required by Rule 11, so it can scarcely convert an information-and-belief allegation into one of personal knowledge. See In re Silicon Graphics, Inc., Sec. Lit:, 183 F.3d at 985 (9th Cir. 1999) rejected this paragraph in these terms: "This paragraph is an insufficient basis for fraud allegations because it fails to state 'with particularity all facts on which [her] belief is formed.' See 15 U.S.C. § 78u-4(b)(1). This means that a plaintiff must provide, in the greatest detail possible, all the relevant facts forming the basis of her belief. It is not sufficient for a plaintiff's pleadings to set forth a belief that certain specified sources will reveal, after appropriate discovery, facts that will validate her claim." Accord In re Ceridian Corp. Sec. Litig., 1999 U.S.Dist.LEXIS 15611, at *15 (D.Minn. March 29, 1999) (a securities complaint pled on "investigation of counsel" is an information-and-belief complaint); accord Hockey v. Medhekar, 1998 U.S. Dist. LEXIS 4297 at *16-*17 (N.D. Cal. March 31, 1998). Contra Cherednichenko v. Quarterdeck Corp., [1998] Fed.Sec.L.Rep. (CCH) 90,108 at 90,142 n.3 (C.D. Cal. Nov. 26, 1997) (overruled by Silicon Graphics)..

b. The language from Rule 11(b)(3) quoted above in the typical allegation is the language that was added to that Rule for the express purpose of protecting information-and-belief allegations. See Joseph, SANCTIONS: THE FEDERAL LAW OF LITIGATION ABUSE § 2(A)(4) (3d ed. 2000).

c. As discussed immediately below, boilerplate paragraph describing documents reviewed and investigation performed by counsel does not adequately state sources. In re Silicon Graphics, Inc., Sec. Lit:, CCH Fed.Sec. L. Rep. (CCH) 90,610 (9th Cir. Aug. 4, 1999); In re Aetna Inc. Secs. Litig., 34 F. Supp. 2d 935, 942 (E.D.Pa. 1999); In re Health Mgmt. Sys., Inc. Sec. Litig., 1998 U.S. Dist. LEXIS 8061, at *8-9 (S.D.N.Y. June 1, 1998); Novak v. Kasaks, 997 F.Supp. 425 (S.D.N.Y. 1998).

3. Sources. The scope of the statutory duty to "state with particularity all facts on which [an information-and-belief allegation] is based" is designed to prevent plaintiffs from simply making up allegations and conclusorily asserting a good-faith basis for believing them to be true. Greebel v. FTP Software, Inc., 194 F.3d 185, 194 (1st Cir. 1999) ("plaintiffs who bring their claims on information and belief [must] "set forth the source of the information and the reasons for the belief'"); accord Silicon Graphics, 183 F.3d at 985; Heliotrope Gen., Inc. v. Ford Motor Co., 189 F.3d 971, 979-80 (9th Cir. 1999); Ceridian, 1999 U.S.Dist.LEXIS 15611, at *24.

But see Novak v. Kasaks, 216 F.3d 300, 313 (2d Cir 2000), which permits plaintiffs to state something less than complete identification of sources in certain circumstances. However, even under Novak, where an unnamed source is the only basis for plaintiff's belief that defendant knowingly made false statements, the plaintiff must identify the source by name. In re Green Tree Fin. Corp. Stock Litig., 61 F.Supp.2d 860, 871-72 (D. Minn. 1999); accord In re McKesson HBOC, Inc. Sec. Litig., No. 99-20743, Slip Op. (N.D. Cal. Sep. 28, 2000).

Novak is not sound to the extent it does not require plaintiffs to honor the statutory dictate (in § 78u-4(b)(1)) that they furnish "all facts" giving rise to the belief that fraud was committed. Reading "all" to mean "all" would not "allow complaints to survive dismissal where 'all' the facts supporting the plaintiff's information and belief were pled, but... were patently insufficient to support that belief." Novak, 216 F.3d at 314 n.1. That confuses the necessary with the sufficient. Nothing in the statute says that merely because all facts are alleged, the complaint is sufficient. Quite the contrary, the point of the requirement is to permit the court to assess the sufficiency of the plaintiffs' inference - and to prevent plaintiffs from simply making up facts. It is also incorrect to suggest - as Novak does - that a plain-language reading would "require dismissal where the complaint pled facts fully sufficient to support a convincing inference if any known facts were omitted." Id. No one is going to conduct discovery on the issue - discovery is barred as a matter of law while pleadings are litigated under the reform act. The point of the requirement is to make it clear that plaintiffs withhold information at their peril. They simply cannot rest on "notice pleading" and simply claim that facts may exist and demand discovery in order to find them.

a. Work Product Issue. A heavily litigated issue is the extent to which this requirement mandates the pleading of the sources (documentary, investigatory, etc.) on which the allegation is predicated. Plaintiffs typically claim that this information is work product or "privileged." It is not.

b. Work Product Claim Denied. The vast majority of the courts that have addressed this issue have rejected the work product/privilege claim. See, e.g., Chan v. Orthologic Corp., No. Civ.-96-1514, slip op. at 34 (D. Ariz. Feb. 5, 1998) (same); In re Boston Technology, Inc. Sec. Lit., 8 F.Supp.2d 43, 53 (D. Mass. Feb. 5, 1998) ("the complaint must set forth the source of the information and the reasons for the belief"); In re Health Mgmt. Sys., Inc. Sec. Litig., 1998 U.S. Dist. LEXIS 8061, at *8-9 (S.D.N.Y. June 1, 1998) ("none of the information specified in plaintiffs' introductory paragraph sufficiently delineates the source of the plaintiffs' allegations"); Silicon Graphics, 970 F.Supp. at 767 ("The allegations should include the titles of the reports, when they were prepared, who prepared them, to whom they were directed, their content, and the sources from which plaintiffs obtained this information"), aff'd, CCH Fed. Sec. L. Rep. (CCH) 90,610 (9th Cir. Aug. 4, 1999); Hockey v. Medhekar, 1998 U.S. Dist. LEXIS 4297 at *32 (N.D. Cal. Mar. 31, 1998) (same); Coates v. Heartland Wireless Commun., Inc., 1998 U.S. Dist. LEXIS 17383 at *29 (N.D. Tex. Nov. 2, 1998) ("an unsupported general claim of the existence of confidential company reports is insufficient to survive a motion to dismiss.... [A]ny company that announces low earnings would be vulnerable to ipse dixit claims that the reports exist and that they reflect poor results.... To establish a strong inference of fraud, plaintiffs must provide more details about the alleged negative internal reports, such as report titles, when they were prepared, who prepared them, to whom they were prepared, who prepared them, to whom they were directed, their content, and the sources from which plaintiffs obtained this information"); Lirette v. Shiva Corp., 27 F. Supp. 2d 268, 275 (D.Mass. 1998) ("Pleadings based on information and belief, without specifying the source of the information and the reasons for the belief, do not pass muster"); In re Aetna Inc. Secs. Litig., 34 F. Supp. 2d 935, 942 (E.D.Pa. 1999).

c. In Camera Submissions. In camera submissions proffered by plaintiffs' counsel to show the "sources" or basis of their allegations are "inappropriate and unsupported by authority." In re Silicon Graphics, Inc., Sec. Lit:, CCH Fed. Sec. L. Rep. (CCH) 90,610 (9th Cir. Aug. 4, 1999).

d. "Investigation of Counsel." A boilerplate paragraph describing documents reviewed and investigation performed by counsel does not adequately state sources. In re Silicon Graphics, Inc., Sec. Lit:, CCH Fed. Sec. L. Rep. (CCH) 90,610 at 92, 750-51 (9th Cir. Aug. 4, 1999); In re Aetna Inc. Secs. Litig., 34 F. Supp. 2d 935, 942 (E.D.Pa. 1999); In re Health Mgmt. Sys., Inc. Sec. Litig., 1998 U.S. Dist. LEXIS 8061, at *8-9 (S.D.N.Y. June 1, 1998); Novak v. Kasaks, 997 F.Supp. 425 (S.D.N.Y. 1998).

e. Discoverability of Information. Since this information (identity of witnesses and documents, areas of testimony or relevance, and the like) is routinely required in discovery and disclosure (under Fed. R. Civ. P. 26(a)-(b)), these decisions are clearly correct. The court must satisfy itself that there is a factual basis for information-and-belief allegations.

4. Form of Pleading. To satisfy the requirements of § 78u-4(b)(1), each allegedly false or omissive statement must be analyzed and its defects specified. Wenger v. Lumisys, 2 F.Supp. 2d 1231, 1243 (N.D. Cal. 1998) ("In violation of the Reform Act... the Complaint lumps all alleged misrepresentations together... and then follows that catalog with a three-page laundry list of reasons why all the statements were allegedly false when made"); Havenick v. Network Express, 981 F.Supp. 480, 526 (E.D. Mich. 1997)( "Nowhere in the Complaint do plaintiffs specify each statement that is allegedly false nor do they give a particular reason why a particular statement is false. Rather, they have simply compiled a long list of block quotes, many of which contain statements that cannot seriously be regarded as false or misleading, and they line these statements up against a conclusory list of omissions and pronounce that fraud exists").

5. Accurate Statements of Historical Fact: Future Prospects vs. Past Results. Many securities complaints allege that an allegedly material, adverse fact - e.g., that results are unlikely to be as good in the future as they have been in the recent past - was omitted from a filing setting forth historical results. But a violation of federal securities law cannot be premised upon a company's disclosure of accurate historical data. In re Sofamor Danek Group, 123 F.3d 394, 401 n.3 (6th Cir. 1997) ("The disclosure of accurate historical data does not become misleading even if less favorable results might be predicable by the company in the future") (pre-Reform Act case); In re Boston Technology, Inc. Sec. Lit., 1998 U.S. Dist. LEXIS 2200 (D. Mass. Feb. 5, 1998) (same result under Reform Act).

6. Duty to Update/Duty to Correct.

a. Duty to Correct Historical Information. The duty to correct "applies when a company makes a historical statement that, at the time made, the company believed to be true, but as revealed by subsequently discovered information actually was not. The company then must correct the prior statement within a reasonable time." Stransky v. Cummins Engine Co., Inc., 51 F.3d 1329, 1331 (7th Cir. 1995); In re Burlington Coat Factory Sec. Lit., 114 F.3d 1410, 1431 (3d Cir. 1997) (quoting Stransky); Backman v. Polaroid Corp., 910 F.2d 10, 16-17 (1st Cir. 1990).

b. Duty to Update Predictive Statements. The Reform Act expressly declines to impose any new duty to update forward-looking statements. The Third Circuit has construed 15 U.S.C. § 78u-5(d) as reflecting that no duty to update forward looking statements exists. In re Advanta Secs. Litig., 180 F.3d 525, 536 (3d Cir. 1999). This is consistent with preexisting common law. In re Burlington Coat Factory Sec. Lit., 114 F.3d 1410, 1433 (3d Cir. 1997), which holds that "we do not think it can be said that an ordinary earnings projection contains an implicit representation on the part of the company that it will update the investing public with all material information that relates to that forecast." (Note that Burlington also observes, in dicta, that "Where the initial disclosure relates to the announcement of a fundamental change in the course the company is likely to take, there may be room to read in an implicit representation by the company that it will update the public with news of any radical change in the company's plans -- e.g., news that the merger is no longer likely to take place." Id. 1433-34.) Compare Stransky v. Cummins Engine Co., Inc., 51 F.3d 1329, 1332 (7th Cir. 1995) (Rule 10b-5 "implicitly precludes basing liability on circumstances that arise after the speaker makes a statement") and Grassi v. Information Resources, Inc., 63 F.3d 596, 599 (7th Cir. 1995) (same) with In re Time Warner Inc. Sec. Litig., 9 F.3d 259, 267 (2d. Cir. 1993) ("a duty to update opinions and projections may arise if the original opinions or projections have become misleading as the result of intervening events," but the duty is triggered only by "definite positive projections" and not merely by statements "suggest[ing] the hope of any company," which are immaterial as a matter of law and need not be updated); Hillson Partners, L.P. v. Adage, Inc., 42 F.3d 204, 219 (4th Cir. 1994) (assuming duty exists, it does not apply to immaterial statements of optimism); Pittiglio v. Michigan National Corp., No. 95 CV 70647, 1995 U.S. Dist. Lexis 18504 (S.D. Mich. Nov. 30, 1995) (same); In re Alliance Pharm. Secs. Litig., No. 92-1380-IEG (AJB), 92-1445, 1995 U.S. Dist. Lexis 11351 (S.D.Cal. May 23, 1995) (even if duty exists in the Ninth Circuit, which is uncertain, no scienter shown).

c. What Constitutes Updating? Where recognized, the duty is to disclose subsequent material, objective information as it develops. If the later information casts doubt on or disproves the prior predictive statement, the prediction does "not remain alive." In re Browning-Ferris Indus. Inc. Sec. Litig., 876 F. Supp. 870, 882 (S.D. Tex. 1995).

7. Characterization. The allegation that negative information is conveyed together with optimistic statements in a "'decidedly upbeat' tone" was rejected by the First Circuit in Serabian v. Amoskeag Bank Shares, Inc., 24 F.3d 357, 363 n. 7 (1st Cir. 1994). The underlying theory is that there is no general requirement to engage in "negative characterization[] of disclosed corporate events, general industry conditions or the activities of... competitors...." Kowal v. MCI Communications Corp., 16 F.3d 1271, 1275-79 (D.C. Cir. 1994); accord Klamberg v. Roth, 473 F.Supp. 544, 551 (S.D.N.Y. 1979) (no duty to "'characterize'... facts with 'pejorative nouns and adjectives,' or... verbalize adverse inferences expressly"); Tuchman v. DSC Communications Corp., 14 F.3d 1061, 1069 (5th Cir. 1994) (securities laws do not require defendants "to employ the adjectorial characterization that the appellants believe is more accurate"); Wallace v. Systems & Computer Tech. Corp., 1997 WL 602808, at &14-15 (E.D.Pa. Sept. 23, 1997) ("Reasonable investors know that it is common and natural to put a spin on" corporate information; a company is not "required to berate itself or resort to a level of self-criticism that would have been harmful to its shareholders' interests"); Data Probe Acquisition Corp. v. Datalab, Inc., 722 F.2d 1, 5-6 (2d Cir. 1983) (disclosure under the federal securities laws is not a "rite of confession").

8. "Puffing." General, unguaranteed optimistic statements are not actionable because they are immaterial. See, e.g., Parnes v. Gateway 2000, Inc., 122 F.3d 539 (8th Cir. 1997) (reach "soft, puffing statements" that "are so vague and such obvious hyperbole that no reasonable investor would rely upon them;" held, statement predicting "significant growth" immaterial); Gross v. Summa Four, Inc., Civil No. C-94-364-B, 1995 U.S. Dist. Lexis 16613 (D.N.H. Nov. 8, 1995) ("No reasonable investor would rely on such vague expressions of optimism statements" as "[w]e see the current market continuing to expand over the next several years" and "we continue to be enthusiastic about our opportunity to grow over the next several years"), aff'd, 93 F.3d 987 (1st Cir. 1996); Krim v. BancTexas Group, Inc., 989 F.2d 1435, 1448 (5th Cir. 1993) ("projections of future performance not worded as guarantees are generally not actionable under the federal securities laws"); Raab v. General Physics Corp., 4 F.3d 286, 289 (4th Cir. 1993) (inaccurate predictions of quarterly income: "'Soft,' 'puffing' statements such as these generally lack materiality because the market price of a share is not inflated by vague statements predicting growth"); Hillson Partners L.P. v. Adage, Inc., 42 F.3d 204, 212 (4th Cir. 1994) ("1992 will produce excellent results" and "[company] is on target toward achieving the most profitable year in its history" immaterial): Howard Gunty Profit Sharing, 1997 WL 514993, at *4 (statements that management is "confident that the company... will be successful with its new business model" and "customer interest... is very high" immaterial).

9. Agreement with Analysts' Projections. These cases often arise out of statements by corporate officers expressing some degree of acquiescence in analysts' projections or predictions. See, e.g., In re Browning-Ferris Indus. Inc. Sec. Litig., 876 F. Supp. 870, 894-95 (S.D. Tex. 1995) (officer's statements that he "had no quarrel with" and was "comfortable" with analyst estimates of $1.99-$2.00 earnings per share insufficient to raise a disputed issue of fact; summary judgment for defendant); Raab v. General Physics Corp., 4 F.3d 286, 288 (4th Cir. 1993) (press release stating that results of operations should be "'in line with analysts' current projections' hardly constitutes a guarantee... [T]his forecast... lacks the specificity necessary to make it material"); In re Marion Merrell Dow Inc. Sec. Litig. II, [1994] Fed. Sec. L. Rep. (CCH) 98,357 at 90,459 (W.D. Mo. July 18, 1994) (statements that analyst earnings estimates were "on target" and "pretty close" not actionable); Borow v. nView Corp., 829 F. Supp. 828, 836-38 (E.D. Va. 1993) (president's statement that he was "comfortable" with analysts' estimates not actionable), aff'd mem., 27 F.3d 562 (4th Cir. 1994). See also Warden v. Crown American Realty Trust, Fed. Sec. L. Rep. (CCH) 90,525 at 92,598-99 (W.D. Pa. June 6, 1999) (ambiguous statement by officer that he expected earnings to "exceed that amount" held inactionable since, in context, it was unclear whether "that amount" was the company's projection, which was exceeded, or an analyst's projection, which was not).

10. PredictiveStatements/"Soft" Information.

a. No Duty to Predict. There is no substantive obligation to make predictions, In re Verifone Secs. Litig., 11 F.3d 865, 869 (9th Cir. 1993) ("what the complaint avers is that [defendant] omitted to state the 'fact' that future prospects may not be as bright as past performance. Absent allegations that [defendant] withheld financial data or other existing facts from which forecasts are typically derived, the alleged omissions are not of material, actual facts"; also noting that (1) while SEC Regulation S-K, Item 303, 17 C.F.R. § 229.303(a)(3)(ii), provides that "known trends or uncertainties" are to be disclosed in certain SEC filings, § 229.303(a) Instruction 7 "expressly addresses forecasts [and] states that forward-looking information need not be disclosed" (relying on In re Lyondell Petrochemical Co. Secs. Litig., 984 F.2d 1050, 1053 (9th Cir. 1993)) and (2) a violation of exchange rules governing disclosure may not "be imported as a surrogate for straight materiality analysis under § 10(b) and Rule 10b-5"). Accord Kriendler v. Chemical Waste Mgmt. Co., 877 F.Supp. 1140, 1149 (N.D.Ill. 1995) (dismissing complaint based on SEC Regulation S-K, Item 303; adopting the reasoning of Verifone).

i. "Soft" Information Not Disclosable. There is no duty to make or disclose "soft" or tentative predictions about the future. In re Sofamor Danek Group, 123 F.3d 394, 401-02 (6th Cir. 1997) ("soft information... must be disclosed only if... virtually as certain as hard facts."... [P]redictions not 'substantially certain to hold,' like most matters of opinion, simply do not come within the duty of disclosure"), quoting Starkman v. Marathon Oil Co., 772 F.2d 231, 241 (6th Cir. 1985); Holding v. Nu-Tech Bio-Med, Inc., 1999 WL 4922, at *3 (S.D.N.Y. Jan. 5, 1999) ("parties are not required to disclose their predictions and speculations with regard to contingent future events"); In re Healthcare Compare Corp. Sec. Lit., 75 F.3d 276, 283 (7th Cir. 1996) ("Plaintiffs have not met their burden to show that the internal memorandum did not merely contain tentative projections subject to revision"); Gorra Holding v. Nu-Tech Bio-Med, Inc., 1999 WL 4922 at *2, *3 (S.D.N.Y. Jan. 5, 1999) ("The law mandates disclosure of only existing material facts, not an insider economic forecast.... [P]arties are not required to disclose their predictions and speculations with regard to contingent future events"); accord Sailors v. Northern States Power Co., 1992 WL 532172, *6 (D. Minn. July 13, 1992), aff'd, 4 F.3d 619 (8th Cir. 1993). ii. Disclosure of "Soft" Information May Create Exposure. The securities laws affirmatively bar disclosure of "soft" predictions where "public disclosure of tentative, indefinite, and contingent facts, would itself be misleading." In re Bell Atlantic Corp. Sec. Lit., 1997 WL 205709, at *22 (E.D.Pa. Apr. 17, 1997), aff'd mem., 142 F.3d 427 (3d Cir. 1998); Accord Searls v. Glasser, 64 F.3d 1061, 1067 (7th Cir. 1995) ("Before management releases estimates to the public, it must ensure that the information is reasonably certain. If it discloses the information before it is convinced of its certainty, management faces the prospect of liability"); Vaughn v. Teledyne, Inc., 628 F.2d 1214, 1221 (9th Cir. 1980) ("There is no evidence... that the estimates were made with such reasonable certainty even to allow them to be disclosed to the public").

b. Actual Performance < Projections № Liability. The allegation that defendants made forward-looking statements that ultimately proved inaccurate does not satisfy Rule 9(b), much less state a claim, absent recitation of a factual basis for inferring knowing falsity or recklessness at the time of utterance. See, e.g., Grassi v. Information Resources, Inc., 63 F.3d 596, 599 (7th Cir. 1995); In re Cypress Semiconductor Sec. Litig., 891 F.Supp. 1369, 1375 (N.D.Cal. 1995); Sheldon v. Vermonty, 31 F.Supp.2d 1287, 1292 (D.Kan. 1998) ("Where fraudulent projections are alleged, the plaintiffs must identify in the complaint with specificity some reason why the discrepancy between a company's optimistic projects and its subsequently disappointing results is attributable to fraud"); Serabian v. Amoskeag Bank Shares, Inc., 24 F.3d 357, 361-63 (1st Cir. 1994) ("It is well established that plaintiffs in a securities action have not alleged actionable fraud if their claim rests on the assumption that the defendants must have known of the severity of their problems earlier because conditions became so bad later on"); Kowal v. MCI Communications Corp., 16 F.3d 1271, 1273 (D.C. Cir. 1994) ("The fact that the company's performance did not conform to that predicted supports no inference that [defendant]'s statements lacked a reasonable basis when made"); Borow v. nVIEW Corp., 1994 U.S. App. Lexis 16242 (4th Cir. 1994) (unpublished opinion), aff'g 829 F. Supp. 828 (E.D. Va. 1993).

c. Test. Historically, a predictive statement has been actionable only if it (1) "was not made in good faith or [(2)] was made without a reasonable basis." Stransky v. Cummins Engine Co., Inc., 51 F.3d 1329, 1333 (7th Cir. 1995); Greenberg v. Compuware Corp., 889 F. Supp. 1012 (E.D. Mich. 1995); Connelly v. General Med. Corp., 880 F.Supp. 1100, 1118 (E.D.Va. 1995); Kowal v. MCI Communications Corp., 16 F.3d 1271, 12777 (D.C. Cir. 1994); Sinay v. Lamson & Sessions Co., 948 F.2d 1037, 1040-42 (6th Cir. 1991). Some courts expressly articulate the additional requirement that (3) the speaker not be "aware of any undisclosed facts tending to seriously undermine the accuracy of the statement." See, e.g., In re Valence Tech. Sec. Litig., No. C 94-1542-SC, 1995 U.S. Dist. Lexis 10379; [1995] Fed. Sec. L. Rep. (CCH) 98,793 (N.D.Cal. May 8, 1995); Rubinstein v. Collins, 20 F.3d 160, 166 (5th Cir. 1994).

This law was trumped by the Reform Act, which requires that actual knowledge of falsity be pled and proved. § 78u-5(c)(1)(B). To the extent that this former test is still utilized, it is erroneous. However, since it is occasionally still cited, the former law is discussed.

i. Good Faith. Good faith, sometimes referred to as a genuine belief in the predictive statement, is frequently found where there has been a continuing commitment of substantial resources to the development of a new product or asset about which challenged predictive statements have been made. The courts reason that this behavior is inconsistent with any claim that the corporate or individual defendant did not possess a genuine belief in the truth of its statements. In re Worlds of Wonder Sec. Litig., 35 F.3d 1407, 1420 (9th Cir. 1994), cert. denied, 1995 U.S. Lexis 6750 (1995) (rejecting claim that management knew an ambitious business plan could not succeed; "[p]laintiffs cannot explain why WOW's entire senior and middle management would have lied to themselves about the Company's business outlook," and continued to invest in the plan); In re Apple Computer Sec. Litig., 886 F.2d 1109, 1117 (9th Cir. 1989) ("Apple's massive investment in [the product] demonstrates [its] good faith").

ii. Reasonable Basis. A key question is what "reasonable" means in this context. In light of the scienter requirement, it cannot mean any lower a standard than the minimum required to establish liability - which is actual knowledge of falsity under § 78u-5(c)(1)(B). Absent an articulated factual basis, a conclusory assertion that a predictive or forward-looking statement was made without "reasonable basis" has always been viewed as inadequate to demonstrate falsity or scienter. In re Burlington Coat Factory Sec. Lit., 114 F.3d 1410, 1430 (3d Cir. 1997).

A. Independent Third Party Behavior. Evidence of independent third party behavior - such as that of others in the industry or experts - is potent evidence of reasonableness. Cf. Grassi v. Information Resources, Inc., 63 F.3d 596, 600 (7th Cir. 1995) (independent auditors' approval of decision not to write down investment or loan isevidence of reasonableness of financial statements).

B. Conclusory Allegation of No "Reasonable Basis" Is Infirm. In re Burlington Coat Factory Sec. Lit., 114 F.3d 1410, 1430 (3d Cir. 1997) ("Plaintiffs' allegations do not suffice. In asserting that there was 'no reasonable basis' for the... projection, plaintiffs simply mouth the required conclusion of law").

C. Expert Opinion. In what circumstances can a fact issue be raised solely by the introduction of expert evidence by the plaintiff? What is the nature of the requisite testimony? Compare In re Adobe Systems, Inc. Sec. Litig., 787 F. Supp. 912 (N.D. Cal. 1992) (expert second-guessing of management judgment in making predictive statement does not create a genuine issue of material fact because predicting the future is an inexact science and it is not within the province of the jury to decide which of a range of possible predictions or interpretations is the "right" one) with Fine v. American Solar King Corp., 919 F.2d, 290 (5th Cir. 1990) (triable issue of fact created by proffer of expert accounting evidence where issue was whether the underlying facts - adverse financial information - had been disclosed).

d. Statutory Safe Harbor. See § II(A), infra.

11. Group-Published Information.

a. Pre-Reform Act.

i. Generally. In 1987, the Ninth Circuit articulated the "group published information" doctrine, positing that, for pleading (i.e., Fed. R. Civ. P. 9(b)) purposes: "In cases of corporate fraud where the false or misleading information is conveyed in prospectuses, registration statements, annual reports, press releases, or other "group-published information," it is reasonable to presume that these are the collective actions of the officers." Wool v. Tandem Computers, Inc., 818 F.2d 1433, 1440 (9th Cir. 1987). In Wool, the number of corporate officers was small, and all "had direct involvement... in [the issuer's] financial statements." Id.. The doctrine was subsequently applied to a small board of directors in Blake v. Dierdoff, 856 F.2d 1365, 1369 (9th Cir. 1988).

ii. Outside Directors. In In re GlenFed, Inc. Sec. Litig., 60 F.3d 591, 593 (9th Cir. 1995), the Ninth Circuit held that it would be unreasonable to extend the doctrine to outside directors, requiring instead that, "[t]o rely upon the "group published information" presumption, Plaintiffs' complaint must contain allegations that an outside director either participated in the day-to-day corporate activities, or had a special relationship with the corporation, such as participation in preparing or communicating group information at particular times." The mere fact that the outside director held a position on a board committee is insufficient. Id.; In re Aetna Inc. Secs. Litig., 34 F. Supp. 2d 935, 949 (E.D.Pa. 1999) (reserving in n.7 on the unraised issue whether the group-published information doctrine survives under the PSLRA).

b. Post-Reform Act. The cases are split as to whether the "group-published information" doctrine survives the Reform Act. The trend of the cases considering the issue is that the doctrine did not survive. Compare Marra v. Tele-Save Holdings, 1999 U.S. Dist. LEXIS 7303 at * 13 (E.D.Pa. May 18, 1999) ("this Court declines to accept Plaintiffs' position that the heightened pleading standards imposed by the PSLRA left the group pleading doctrine intact. Rather, the Court concludes that the presumption inherent in group pleading is inconsistent with the PSLRA's purpose.... The continued vitality of the judicially created group pleading doctrine is suspect since the PSLRA specifically requires that the untrue statements or omissions be set forth with particularity as to 'the defendant' and that scienter be pled with regard to 'each act or omission' sufficient to give 'rise to a strong inference that the defendant acted with the required state of mind. 15 U.S.C. § 78u-4(b).'"); In re Home Health Corp. of Am., 1999 U.S.Dist. LEXIS 1230 at *64-*65 (E.D.Pa. Jan. 29, 1999) ("Plaintiffs' reliance on the 'group published information' doctrine is misplaced given the PSLRA's requirement that allegations of fraud must be plead with particularity.... [T]he group published information doctrine is inconsistent with the PSLRA's pleading requirements, and thus,... specific allegations as to the actions and scienter of each defendant are necessary."); Coates v. Heartland Wireless Commun., Inc., 1998 U.S. Dist. LEXIS 17383 at *11-*12 (N.D. Tex. Nov. 2, 1998) ("The PSLRA codifies a ban against group pleading") and Allison v. Brookfree Corp., 999 F.Supp. 1342, 1350 (S.D. Cal. 1998) ("the continued vitality of the judicially created group-published doctrine is suspect since the PSLRA specifically requires that the untrue statements or omissions be set forth with particularity as to 'the defendant' and that scienter be plead in regards to 'each act or omission' sufficient to give 'rise to a strong inference that the defendant acted with the required state of mind.' 15 U.S.C. § 78u-4(b) (emphasis added). To permit a judicial presumption as to particularity simply cannot be reconciled with the statutory mandate that plaintiffs must plead specific facts as to each act or omission by the defendant") with In re Miller Indus., Inc. Secs. Litig., 12 F.Supp.2d 1323, 1329 (N.D. Ga. 1998) (allowing use of group pleading in PSLRA action) and In re Stratosphere Corp. Secs. Litig., 1 F.Supp.2d 1096, 1108 (D. Nev. 1998) (concluding that group pleading survives the PSLRA) and In re Health Mgmt., 970 F. Supp. 192, 208 (E.D.N.Y. 1997) (applying doctrine post-Reform Act) and Silicon Graphics, 970 F. Supp. 746, 759 (N.D. Cal. 1997) (same) (not addressed by Ninth Circuit on appeal); and Powers v. Eichen, 977 F. Supp. 1031 (S.D. Cal. 1997) (same); Schlagal v. Learning Tree Int'l., 1998 U.S. Dist. LEXIS 20306 at *14 (C.D.Cal Dec. 23, 1998) ("Until the Ninth Circuit speaks otherwise, the Court finds the rationale behind the group-pleading doctrine sound and will not disturb it").

12. Analyst Reports.

"The securities laws require [every issuer] to speak truthfully to investors; they do not require the company to police statements made by third parties for inaccuracies, even if the third party attributes the statements to [the company]." Raab v. General Physics Corp., 4 F.3d 286, 288 (4th Cir. 1993). There is no liability for statements made in analyst reports that are not attributed to a specific individual, absent particularized facts reflecting the individual's entanglement in, or adoption of, the report. In re Time Warner Sec. Lit., 9 F.3d 259, 264-65 (2d Cir. 1993) (no liability flows from an analyst report purportedly reflecting communications with unidentified members of "management"); accord In re Syntex Corp. Sec. Litig., 95 F.3d 922, 934 (9th Cir. 1994). "Plaintiffs cannot assume that the analysts' reports simply repeated verbatim the statements relayed to them by Defendants." Plevy v. Haggerty, 1998 WL 951694 at *6 (C.D.Cal. Aug. 21, 1998).

C. Reliance on Documentary Evidence On Dismissal Motion.

1. Pre-Reform Act. The cases generally recognize that the court, when deciding a motion to dismiss under Rule 12(b)(6), may consider the full text of documents excerpted in the complaint. See, e.g., Pension Benefit Guar. Corp. v. White Consol. Indus., 998 F.2d 1192, 1196 (3d Cir. 1993) ("a court may consider an undisputedly authentic document that a defendant attaches as an exhibit to a motion to dismiss if the plaintiff's claims are based on the document"); Lovelace v. Software Spectrum, 78 F.3d 1015, 1018 (5th Cir. 1996) (same); Cortec Indus., Inc. v. Sum Holding, L.P., 949 F.2d 42, 48 (2d Cir. 1991), cert. denied, 112 S.Ct. 1561 (1992) (same); Kramer v. Time Warner, Inc., 937 F.2d 767, 773-74 (2d Cir. 1991) (same); Romani v. Shearson Lehman Hutton, 929 F.2d 875, 879 n. 3 (1st Cir. 1991) (same).

· Post Reform Act. The same law has carried forward under the Reform Act.Rothman v. Gregor, 220 F.3d 81, 88 (2d Cir. 2000); Bryant v. Avado Brands, Inc., 187 F.3d 1271, 1276, 1278 (11th Cir. 1999).

2. Statutory Enhancement. The Reform Act codifies, and arguably enlarges, the currently prevailing rule by providing that, on a 12(b)(6) motion, "the court shall consider any statement cited in the complaint and any cautionary statement accompanying the forward-looking statement, which are not subject to material dispute, cited by the defendant" (emphasis added). See § 27A(e) of the 1933 Act and new § 21E(e) of the 1934 Act.

· The scope of "accompanying" raises one issue - whether it extends beyond warnings contained within, to those outside, the challenged document/oral presentation. The Eleventh Circuit held that it does, in Harris v. Ivax Corp., 182 F.3d 799, 802 n.2 (11th Cir. 1999).

3. Reliance on SEC Forms 4.

a. Generally. Reliance on SEC Forms 4 to establish stock transactions by individual defendants, does not convert a Rule 12(b)(6) motion into a Rule 56 motion for summary judgment. Kramer v. Time Warner Inc., 937 F.2d 767, 774 (2d Cir. 1991) (" [A] a district court may take judicial notice of the contents of relevant public disclosure documents required to be filed with the SEC as facts 'capable of accurate and ready determination by resort to sources whose accuracy cannot reasonably be questioned.' Fed.R.Evid. 201(b)(2). This of course includes related documents that bear on the adequacy of the disclosure as well as documents actually alleged to contain inadequate or misleading statements"); Lovelace v. Software Spectrum Inc., 78 F.3d 1015, 1018 (5th Cir. 1996) (quoting this language from Kramer); Allison v. Brooktree Corp., 999 F. Supp. 1342, 1353 n.3 (S.D.Cal. 1998) (Forms 4); Plevy v. Haggerty, Fed.Sec.L.Rep. (CCH) 90,309 at 91,445 (C.D.Cal. Aug. 20, 1998) (Forms 4); J/H Real Estate Inc. v. Abramson, 901 F. Supp. 952, 955 (E.D.Pa. 1995) (Forms 4). Accord Pension Benefit Guar. Corp. v. White Consol. Indus., 998 F.2d 1192, 1196 (3d Cir. 1993), cert. denied, 114 S.Ct. 687 (1994) ("a court may consider an undisputedly authentic document that a defendant attaches as an exhibit to a motion to dismiss if the plaintiff's claims are based on the document"); Cortec Indus., Inc. v. Sum Holding, L.P., 949 F.2d 42, 48 (2d Cir. 1991), cert. denied, 112 S.Ct. 1561 (1992) (same); Romani v. Shearson Lehman Hutton, 929 F.2d 875, 879 n.3 (1st Cir. 1991) (same).

b. Complaint Alleges Reliance on SEC Filings/Obviously Relies on Them. In re Silicon Graphics, Inc., Sec. Lit:, 183 F.3d 970, 986 (9th Cir. 1999) ("it was proper to consider the SEC filings under the incorporation by reference doctrine. That doctrine permits a district court to consider documents 'whose contents are alleged in a complaint and whose authenticity no party questions, but which are not physically attached to the [plaintiff's] pleading.' In this case, [plaintiff] alleges the contents of the SEC filings in her complaint. She states that her allegations are based in part on a review of SGI's SEC filings, and she clearly gleaned from the SEC Form 3 and 4 filings many of the facts regarding the officers' stock sales. Although [plaintiff] questions the veracity of the SEC forms, her ongoing and substantial reliance on the forms as a basis for her allegations substantially weakens her position. As the district court pointed out, 'having raised questions about [officers'] stock sales, based [her] allegations on [officers'] SEC filings, and submitted expert declarations that rely on the SEC forms at issue, [Brody] can hardly complain when [the officers] refer to the same information in their defense.' The district court did not err in considering SGI's SEC filings in ruling on the motion to dismiss.") (citation omitted); Bryant v. Avado Brands, Inc., 187 F.3d 1271, 1279 (11th Cir. 1999). ("a court, when considering a motion to dismiss in a securities fraud case, may take judicial notice (for the purpose of determining what statements the documents contain and not to prove the truth of the documents' contents) of relevant public documents required to be filed with the SEC, and actually filed.... Plaintiffs expressly state in their Amended Complaint that their allegations are 'based upon the investigation of their counsel, which included a review of... SEC filings.... Allowing consideration of relevant SEC filings is also consonant with common notions of fairness"); Warden v. Crown American Realty Trust, Fed. Sec. L. Rep. (CCH) 90,525 at 92,597 n. 3 (W.D. Pa. June 6, 1999) (reliance on SEC filings permissible where "Plaintiffs specifically plead reliance upon all documents filed with the SEC during the class period").

4. Stock Price History - Judicial Notice. Proper on dismissal motion. See, e.g., Fant v. Perelman, 1999 U.S. Dist. LEXIS 5694, *14 (S.D.N.Y. April 9, 1999) (on 12(b)(6) motion, "I may consider the... the closing stock prices of the relevant securities"); accord Comas v. Merrill Lynch & Co., 1993 WL 800778, at *4 n.2 (S.D.N.Y. July 2, 1993) (taking judicial notice of stock prices); Plevy v. Haggerty, Fed. Sec. L. Rep. (CCH) 90,309, at 91,445 (C.D. Cal. Aug. 20, 1998) (same); In re 3Com Corp. Sec. Litig., Fed. Sec. L. Rep. (CCH) 90,522 at 92,578 (N.D. Cal. July 8, 1999) (same).

5. Accounting Principles. In re 3Com Corp. Sec. Litig., Fed. Sec. L. Rep. (CCH) 90,522 at 92,578 (N.D. Cal. July 8, 1999) (exhibit reflecting GAAP as of a certain date)

D. Reliance.

1. Reliance on Opinions of Opposing Counsel

a. Legal Opinion. "A party represented by counsel cannot establish justifiable reliance when the claim is premised upon the legal opinion of an adversary's counsel." Morin v. Trupin, 711 F.Supp. 97, 104 (S.D.N.Y. 1989); accord Royal American Managers, Inc. v. IRC Holding Corp., 885 F.2d 1011, 1016 (2d Cir. 1989); Verschell v. Pike, 85 A.D.2d 690, 445 N.Y.S.2d 489, 491 (App. Div. 1981).

b. Factual Opinion. Permissible. Rubin v. Schottenstein, Zox & Dunn, 143 F.3d 263, 270 (6th Cir. 1998) (en banc).

2. Presumption of Reliance

Misrepresentations vs. Omissions. "[T]he Affiliated Ute presumption should not be applied to cases that allege both misstatements and omissions unless the case can be characterized as one the primarily alleges omissions." Binder v. Gillespie, Fed. Sec. L. Rep. (CCH) 90,603 at 92,716 (9th Cir. July 26, 1999).

E. Materiality.

1. Stock Price Reaction.

a. Lack of Reaction = Immaterial. "If a company's disclosure of information has no effect on the company's stock price, 'it follows that the information disclosed... was immaterial as a matter of law.'" Oran v. Stafford, 34 F.Supp.2d 906, 911 (D.N.J. 1999), quoting In re Burlington Coat Factory Sec. Lit., 114 F.3d 1410, 1425 (3d Cir. 1997). But the question of stock price reaction may, depending on the circumstances, raise a question of fact. See, e.g., Ganino v. Citizens Utilities Co., 228 F.3d 154, 162 (2d Cir. 2000).

b. Industry-Wide Reaction. LaSalle v. Medco Research, Inc., 54 F.3d 443, 446 (7th Cir. 1995) (if "the stock price of Medco's competitors had fallen at the same time as Medco's stock price was falling, this would weaken the inference of fraud, since presumably the whole pharmaceutical industry wasn't practicing fraud at the same time").

2. Quantitative Impact on Corporation. Negligible quantitative impact on corporate performance demonstrates immateriality as a matter of law. In re Westinghouse Secs. Litig., 90 F.3d 696, 715 (3d Cir. 1996) (defendants' failure to write down an asset in an amount equal to 0.54% of quarterly net income held inactionable because "there is not a substantial likelihood that this information would have assumed actual significance in the deliberations of a reasonable investor"); In re Burlington Coat Factory Sec. Lit., 114 F.3d 1410, 1427 (3d Cir. 1997) (defendants' failure to disclose that the discounts they received from manufacturers had declined was immaterial where the combination of smaller discounts and other cost increases raised total costs on 0.2%); Parnes v. Gateway 2000, 122 F.3d 547 (8th Cir. 1997) ("alleged misrepresentations may also present or conceal such insignificant data that, in the total mix of information, it simply would not matter to a reasonable investor" - held, "alleged overstatement of assets by $6.8 million... immaterial as a matter of law" where "this amount represented only 2% of... total assets").

F. Conspiracy.

In light of the Supreme Court's decision in Central Bank of Denver, N.A. v. First Interstate Bank, 511 U.S. 164, 177 (1994), that no cause of action for aiding and abetting exists under § 10(b) or Rule 10b-5, there is no cause of action for conspiracy to violate those provisions. Dinsmore v. Squadron, Ellenoff, Plesent, Sheinfeld & Sorkin, 135 F.3d 837, 842-43 (2d Cir. 1998).

G. Agency.

The cases are split as to whether, in light of Central Bank of Denver, N.A. v. First Interstate Bank, 511 U.S. 164, 177 (1994), an agency theory of liability remains viable. Compare AT&T v. Winback & Conserve Program, Inc., 42 F.3d 1421, 1430-31 (3d Cir. 1994) (upholding agency liability); In re Kidder Peabody Sec. Litig., 10 F. Supp. 2d 398, 407 (S.D.N.Y. 1998) (finding that after Central Bank, "where the defendant has made a misstatement but used another actor to deliver the message, the defendant still may be liable as a primary violator"); In re ICN/Viratek Sec. Litig., 1996 U.S. Dist. LEXIS 4407, *17-*18, 87 Civ. 4296, 1996 WL 164732, at *6 (S.D.N.Y. Apr. 9, 1996) ("If claims of agency such as these did not give rise to primary liability... then a corporation, acting with scienter, could use an analyst, acting without scienter, as its agent to make false statements to the market, and neither the analyst nor the corporation would be liable under § 10(b). The corporation would escape liability because it would be a mere aider and abettor; the analyst would escape liability because it lacked scienter. My view is that neither the Second Circuit... nor the Supreme Court... intended this result"); Pollack v. Laidlaw Holdings, Inc., 1995 U.S. Dist. LEXIS 5909, 90 Civ. 5788, 1995 WL 261518, at *17 (S.D.N.Y. May 3, 1995) (denying motion to dismiss § 10(b) claim based on agency liability because such a theory was still available after Central Bank); Vento & Co. v. Metromedia Fiber Network, Inc., 1999 U.S. Dist. LEXIS 3020 (S.D.N.Y. Mar. 18, 1999) ("Finding liability under Rule 10b-5 based on an agency theory... would not extend liability beyond the activity proscribed by the statute. It is a basic tenet of agency law that when an agent with actual authority acts on behalf of the principal, the principal is bound just as though the principal had acted") with Converse, Inc. v. Norwood Venture Corp., 1997 U.S. Dist. LEXIS 19106, *10, 96 Civ. 3745, 1997 WL 742534, at *3 (S.D.N.Y. Dec. 1, 1997) (finding that "claims based on agency liability are no longer viable after Central Bank"); ESI Montgomery County, Inc. v. Montenay Int'l Corp., 1996 U.S. Dist. LEXIS 592, 94 Civ. 0119, 1996 WL 22979, at *3 (S.D.N.Y. Jan. 23, 1996) (finding a corporation could not be held liable under § 10(b) for the allegedly fraudulent acts of its officers under a respondeat superior theory).

II. FORWARD-LOOKING STATEMENTS.

A. Statutory Safe Harbor. The statutory safe harbor operates in the alternative - effectively, in two steps:

1. Actual Knowledge. First, unless the complaint pleads specific facts demonstrating that defendants had actual knowledge of the falsity of the challenged statements, there is no liability as a matter of law, and, thus, no need to examine whether sufficient cautionary statements accompanied the disclosures. See § 78u-5(c)(1)(B) (no liability for any forward-looking statement "if...plaintiff fails to prove that it was made with actual knowledge... that the statement was false or misleading"); § 78u-4(b)(2) (complaint must "state with particularity facts giving rise to a strong inference" of scienter). The actual knowledge requirement operates independently of, and without regard to, the presence of cautionary language accompanying the challenged disclosure.

a. It is insufficient if the plaintiff simply alleges, in the most conclusory and speculative fashion, that defendants had "knowledge" and omits recitation of specific facts that point to the defendants' knowledge. In re Advanta Corp. Sec. Lit., 180 F.3d 525, 535, 539 (3d Cir. 1999) ("Rather than state with particularity facts supporting a strong inference that defendants possessed the requisite scienter, plaintiffs offer conclusory assertions that the defendants acted 'knowingly'.... It is well established that a pleading of scienter 'may not rest on a bare inference that a defendant 'must have had' knowledge of the facts.' ... Generalized imputations of knowledge do not suffice, regardless of the defendants' positions within the company") (citations omitted); In re Comshare, Inc. Sec. Lit., 183 F.3d 542, 553 (6th Cir. 1999) ("While Plaintiffs claim Defendants 'were aware of, or were recklessly indifferent to' the revenue recognition errors, they allege no facts to show that Defendants knew or could have known of the errors, or that their regular procedures should have alerted them to the errors sooner than they actually did. Rather, their allegations rest on mere 'information and belief,' and cannot support a strong inference of scienter"). Accord Boston Tech.., 1998 U.S. Dist. LEXIS 2200 at *25; Walish, 1998 WL 314644 at *3. See §§ I(B)(8), supra.

b. Similarly, fact-free allegations that unidentified internal documents contradict public statements, or that defendants' "positions" gave them "access" to information at odds with the public disclosures, are conclusory and inadequate. See §§ I(B)(4)-(5), supra. 2. Meaningful Cautionary Statements. Second, even if actual knowledge of falsity is factually pled, the statutory safe harbor bars liability if an identified forward-looking statement "is accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those in the forward-looking statement." See § 78u-5(c)(1)(A)(i).

a. "Identified" Forward-Looking Statements. A statement may, by its terms, identify itself as forward looking - no legend need be affixed to it. E.g., Harris v. Ivax Corp., 998 F.Supp. 1449, 1453 (S.D.Fla. 1998) ("Representations regarding the state of a business' position in a changing market or the soundness of its growth strategies are necessarily forward-looking") (emphasis added), aff'd, 182 F.3d 799 (11th Cir. 1999).

b. Important, Not Necessarily Germane, Factors. The safe harbor requires only that an issuer identify important factors, but does not state that the issuer has to identify the particular factors that plaintiffs allege to have caused their loss. See Harris v. Ivax, 807 (11th Cir. 1999) ("To be 'meaningful,' 15 U.S.C. § 78-u5(c)(1)(a)(i), must the cautionary language explicitly mention the fact that ultimately belies a forward-looking statement? We think not. The statute... does not require a listing of all factors"), citing and quoting Conference Report at 44 (no fraud by hindsight). In other words, plaintiffs cannot study the disclosures at length and then allege that other factors, rather than those disclosed, caused the stock drop generating their damages.

c. Boilerplate. Boilerplate disclaimers are not enough to bring a statement within the safe harbor (see Conference Report at 43), which is consistent with pre-existing case law (e.g., Huddleston v. Herman & MacLean, 640 F.2d 534, 543-44 (5th Cir. 1981), rev'd in part on other grounds, 459 U.S. 375 (1983)).

· To establish that a warning is "boilerplate," plaintiffs must offer a "serious rationale as to why a reasonable investor... would consider the warnings too generic to be taken seriously." Olkey v. Hyperion, 98 F.3d 2, 8 (2d Cir. 1996); Schoenhaut v. American Sensors, [1998] Fed. Sec. L. Rep. 90,296 at 91,383 n. 12 (S.D.N.Y. Nov. 14, 1997).

d. Oral Statements. If the forward-looking statement is oral and made by an issuer or person acting on an issuer's behalf, the speaker is deemed within the safe harbor if the statement is identified as such, if the speaker adds that actual results could differ materially from those projected, and if the speaker identifies a document (especially one on file with the SEC) that contains acceptable cautionary language. (See § 27A(c)(2) of the 1933 Act and § 21E(c)(2) of the 1934 Act.).

3. Limitations. Excluded from the safe harbor are, inter alia (see '33 Act § 27A(b); '34 Act § 21E(b)), statements made:

a. In "a financial statement prepared in accordance with generally accepted accounting principles;"

b. In connection with tender offers, going-private transactions or initial public offerings;

c. By an issuer who, in the preceding three years, was convicted of a felony or misdemeanor securities law violation;

d. In connection with a rollup transaction or other offering or relating to the operations of a limited partnership or limited liability company.

B. Bespeaks-Caution Doctrine.

1. Generally. Where "forecasts, opinions or projections are accompanied by meaningful cautionary statements, the forward-looking statements will not form the basis for a securities fraud claim if those statements did not affect the 'total mix' of information.... In other words, cautionary language, if sufficient, renders the alleged omissions or misrepresentations immaterial as a matter of law." In re Donald J. Trump Casino Sec. Litig., 7 F.3d 357, 371 (3d Cir. 1993). Accord Parnes v. Gateway 2000, Inc., 122 F.3d 539, 548 (8th Cir. 1997) ("'when... forecasts, opinions, or projections are accompanied by meaningful cautionary statements, the forward-looking statements will not form the basis for a securities fraud claim if those statements did not affect the "total mix" of information the document provided investors'"); Romani v. Shearson Lehman Hutton, 929 F.2d 875, 879 (1st Cir. 1991) (optimistic forecasts accompanied by statements that "there can be no assurance that the investment objectives... will be obtained... clearly bespeak caution [and] are not the stuff of which securities fraud claims are made"); I. Meyer Pincus & Assocs., P.C. v. Oppenheimer & Co., 936 F.2d 759, 773 (2d Cir. 1991); Bentley v. Legent Corp., 849 F. Supp. 429 (E.D. Va. 1994), aff'd without op. on other grounds, 50 F.3d 6, 1995 U.S. App. Lexis 11383 (4th Cir. Va. 1995); Rubinstein v. Collins, 20 F.3d 160, 167-68 (5th Cir. 1994); In re Browning-Ferris Indus. Inc. Sec. Litig., 876 F. Supp. 870, 882 (S.D. Tex. 1995) (particularized warnings regarding impact of increased costs on revenue predictions held to be sufficient caution); Mayer v. Mylod, 988 F.2d 635, 639-40 (6th Cir. 1993); Sinay v. Lamson & Sessions Co., 948 F.2d 1037, 1040 (6th Cir. 1991); Harden v. Raffensperger, Hughes & Co., 65 F.3d 1392 (7th Cir. 1994); Parnes v. Gateway 2000, Inc., 122 F.3d 539 (8th Cir. 1997); In re Worlds of Wonder Sec. Litig., 35 F.3d 1407, 1417 (9th Cir. 1994) (statement that "there can be no assurances" that enhancements of company's inventory control system would be successful was sufficient caution); Grossman v. Novell, Inc., 120 F.3d 1112, 1120, 1123 (10th Cir. 1997) (risk disclosures need not "be in the same document as [an] alleged misstatement" to bespeak caution about it); Saltzberg v. TM Sterling/Austin Assocs., Ltd., 45 F.3d 399, 400 (11th Cir. 1995).

2. Impact of Reform Act. The judicially-created "bespeaks caution" doctrine was not abrogated by the Reform Act. See H.R. Conf. Rep. 104-369 at 46, reprinted in 1995 U.S.C.C.A.N. 679, 745 ("The Conference Committee does not intend for the safe harbor provisions to replace the judicial 'bespeaks caution' doctrine or to foreclose further development of that doctrine by the courts"); In re Nokia Corp. Sec. Lit., 1998 WL 150963, at *8-9 (S.D.N.Y. Apr. 1, 1998) (applying bespeaks caution doctrine in Reform Act case).

3. Scope of Safe Harbor vs. Bespeaks-Caution Doctrine. Due to the many exceptions to the statutory definition of "forward-looking statement," the scope of the safe harbor does is not coextensive with (i.e., broad enough to cover) all of the types of statements to which the bespeaks-caution doctrine applies.

a. Generally. Preliminarily, the safe harbor is primarily applicable to financial projections and underlying assumptions, and statements of future economic performance, and underlying data. (See new § 27A(i)(1) of the 1933 Act and new § 21E(i)(1) of the 1934 Act.) Not all predictive statements necessarily or clearly fall within the stated categories. E.g., in Rubinstein v. Collins, 20 F.3d 160 (5th Cir. 1994), the Fifth Circuit held that an oil-and-gas company's statements that a new well was believed to be "significant" and might contain enormous reserves was predictive and subject to the bespeaks-caution doctrine.

b. Financial Statement Entries. Perhaps more importantly, to the extent that forward-looking items are reflected in the financial statements as such, they fall outside the safe harbor because the statute excludes any "financial statement prepared in accordance with generally accepted accounting principles" (§ 78u-5(b)(2)(A)). Nonetheless, they remain protected by the bespeaks-caution doctrine - e.g., reserves, which are by definition forward-looking. Parnes v. Gateway 2000, Inc., 122 F.3d 539 (8th Cir. 1997) (bespeaks caution doctrine applies to alleged overstatement of earnings due to purportedly inadequate reserves and failure to write down inventory).

III. DISCOVERY STAY.

A. Pending Dismissal. The Reform Act provides that "all discovery and other proceedings shall be stayed during the pendency of any motion to dismiss...." '33 Act § 27(b)(1); '34 Act § 21D(b)(3)(B).

1. Mandamus Remedy/Strict Standard. The Ninth Circuit has issued mandamus to enforce the discovery stay provisions of the PSLRA, reversing a district court order that would have allowed limited discovery to assist the plaintiffs in drafting an amended complaint, after their original complaint had been dismissed with leave to replead. In S.G. Cowen Secs. Corp. v. U.S. Dist. Court, No. 98-71501, 99 C.D.O.S. 7902 (9th Cir. Aug. 30, 1999), the Ninth Circuit held it irrelevant that "facts supporting [plaintiffs'] theory are of a type likely to be solely within Defendants' possession" because "Congress clearly intended that complaints in these securities actions should stand or fall based on the actual knowledge of the plaintiffs rather than information produced by the defendants after the actions has been filed.... [A]s a matter of law, failure to muster facts sufficient to meet the Act's pleading requirement cannot constitute the requisite 'undue prejudice' to the plaintiff justifying a life of the discovery stay" (citation and quotation omitted).

2. Evidence Preservation. During the pendency of the discovery stay, all parties with actual knowledge of the allegations must maintain all relevant documents "as if they were the subject of a continuing request for production of documents from an opposing party under the Federal Rules of Civil Procedure." '33 Act § 27(b)(2); '34 Act § 21D(b)(3)(C)(i).

a. Mandatory Disclosure. The statutory discovery stay extends to mandatory disclosure required by Fed. R. Civ. P. 26(a). Hockey v. Medhekar, 99 F.3d 325 (9th Cir. 1996).

b. ElectronicDocument Issues.

3. Impact of Other Claims/State Actions. See, e.g., In re Trump Hotel Shareholder Derivative Litig., 1997 WL 442135 (S.D.N.Y. Aug. 5, 1997) (discovery stay applied to derivative actions alleging, inter alia, § 14(a) claims because § 21D(b)(3)(B) is by its terms not limited to class actions.)

4. Exception. No stay will be imposed if court finds, upon the motion of any party, that particularized discovery is necessary (a) to preserve evidence, or (b) to prevent undue prejudice to a party. '33 Act § 27(b)(1); '34 Act § 21D(b)(3)(B).

a. The Conference Committee report provides that "the terminal illness of an important witness might require the deposition of the witness prior to the ruling on the motion to dismiss" (emphasis added). See H. Conf. Rep. No. 104-369 at 37, reprinted in 1995 U.S.C.C.A.N. 679, 736.

b. The inability to support a motion for a preliminary injunction in a takeover context does not constitute undue prejudice. Medical Imaging Centers of America v. Lichtenstein, 917 F. Supp. 717, 720-722 (S.D. Cal. 1996) ("undue prejudice" standard not satisfied based upon plaintiff's alleged need to have discovery before date set for election of directors); Novak v. Kasaks, 1996 U.S.Dist.Lexis 11778 (S.D.N.Y. Aug. 16, 1996) (plaintiffs' concern that non-parties may dispose of relevant documents held insufficient to lift stay; instead, court orders non-parties served with subpoenas to preserve evidence); Minzer v. Keegan, No. CV-97-4077 (CPS) (E.D.N.Y. Aug. 11, 1997) (partial lifting of stay of discovery pending motion to dismiss where class plaintiff had indicated possibility of filing motion for preliminary injunction under, inter alia, §§ 10(b) and 14 of the '34 Act).

B. Stay Pending Summary Judgment Motion Based on Safe Harbor. Discovery is also stayed on any summary judgment motion that is based on the safe harbor for predictive statements (essentially the current "bespeaks caution" doctrine, as described below). (See new § 27A(f) of the 1933 Act and new § 21E(f) of the 1934 Act.) Only "discovery that is specifically directed to the applicability of the [safe harbor] exemption" may proceed. (See new § 27A(f) of the 1933 Act and new § 21E(f) of the 1934 Act.) This exception has the potential of opening up a wide range of discovery, given the prerequisites to establishing the applicability of the safe harbor. Presumably, from a defense standpoint, it would be preferable to make a 12(b)(6) motion and avoid all discovery.

IV. DAMAGES

A. Generally. Section 21D(e) of the '34 Act contains a ceiling on damages in '34 Act actions, providing that damages shall not exceed the difference between the purchase/sale price paid/received and the mean trading price of that security during the 90-day period beginning on the date on which the corrective information was disseminated.

B. Questions.

1. Days. The "mean trading price" of a security is defined as "an average of the daily trading price of that security, determined as of the close of the market each day during the 90-day period." The language of the definition does not definitively answer the question whether the 90-day period refers to 90 calendar days or 90 trading days.

2. Trickling. It is not clear when the 90-day period will being to run in cases where the correcting information is disclosed over a period of time, rather than in one hit.

3. Other Factors. What if, together with the announcement of the adverse news, the company initiates a stock buy-back program?

C. Options. Its literal application to options is neutral to perverse.

1. Hold-Through Positions. All other things being equal, if the stock price remains below the option strike price, the value of the option will decline over time due simply to approach of the option's expiration date - even if the stock price is increasing. Applying the statutory mean price (of the option) would thus increase damages because, over the 90 day period, the option price will be falling (and hit zero at expiration) even if the stock price is dramatically recovering. Hence, the statutory limitation provision becomes a windfall for the options plaintiff.

2. Expired Options. Similarly, it is impossible to perform the Reform Act damage cap calculation for an option that expired prior to announcement of the corrective information because an expired option has no value. The Reform Act damage limitation plainly does not contemplate derivatives, like options, whose existence simply vaporizes with the passage of time.

V. ALLOCATION OF LIABILITY

A. Pre-Act Law. Prior to the adoption of the Reform Act, all persons found liable in private actions under the '33 Act or '34 Act were jointly and severally liable for the entire judgment. According to the Conference Report, this system of joint and several liability created "coercive pressure for entirely innocent parties to settle meritless claims rather than risk exposing themselves to liability for a grossly disproportionate share of the damages" and in many cases "made it impossible for firms to attract qualified persons to serve as outside directors." Conference Report at 37-38.

B. Proportionate Liability for Covered Persons. Section 201 of the Reform Act adds a new section 21D(g) of the '34 Act, which provides for proportionate liability for "covered persons" who are not found to have "knowingly committed a violation of the securities laws." Such persons are liable only for the portion of the judgment that corresponds to their percentage of responsibility. '34 Act § 21D(g)(2). The term "covered person" is defined as including:

1. Any defendant in any private action arising under section of the '34 Act, or

2. Any outside director of the issuer who is sued under § 11 of the '33 Act. '34 Act § 21D(g)(10)(C).

C. Joint and Several Liability for Knowing Violation

1. Actual Knowledge. A defendant who engages in a "knowing securities fraud" is still subject to joint and several liability. "Knowing securities fraud" is defined to include any defendant who:

a. makes a material misrepresentation or omission with actual knowledge of falsity, and

b. actually knows that persons are likely to reasonably rely on that misrepresentation or omission. '34 Act § 21D(g)(10)(A).

2. Recklessness. The Reform Act specifically provides that reckless conduct by the defendant is not to be construed to constitute a knowing securities fraud. '34 Act § 21D(g)(10)(B).

* Does this provision preclude the argument that reckless conduct may be the basis of an inference of knowledge?

D. Determination of Responsibility and Jury Interrogatories

1. Liability. The Reform Act requires the court to instruct the jury to answer special interrogatories (or in a bench trial, to make findings) with respect to each covered person and each other person claimed by any of the parties to have contributed to the loss, including persons who have entered into settlements, concerning:

a. Whether such person violated the securities laws;

b. The percentage of responsibility of such person, measured as a percentage of the total fault of all persons who caused the loss; and

c. Whether such person knowingly committed a violation of the securities laws. '34 Act § 21D(g)(3)(A).

2. Damages/Proportionate Responsibility. The responses to the special interrogatories must specify both the total amount of damage and the percentage responsibility of each covered person. '34 Act § 21D(g)(3)(B).

* In determining the percentage of responsibility, the factors to be considered are the nature of the conduct of each covered person and the nature and extent of the causal relationship between the conduct of each covered person and the damages incurred by the plaintiff. '34 Act § 21D(g)(3)(C).

E. Joint and Several Liability for Uncollectible Portions. Even where a covered person is only proportionately liable, if all or a part of the share of liability of a covered person is not collectible from that covered person and is also not collectible from knowing violators, the prospect of joint and several liability reemerges. Upon a motion made within six months of the final judgment, each covered person is jointly and severally liable for the uncollectible share as follows:

1. Up to the full amount of the uncollectible share to the plaintiff who establishes that its recoverable damages are more than 10% of its net worth and its net worth is less than $200,000;

* Net worth is determined as of the date immediately preceding the purchase/sale date by the plaintiff and includes the plaintiff's personal residence.

2. Up to 50% of the covered person's proportionate share to other plaintiffs (i.e., defendant pays up to 150% of its proportionate liability).

* In either case, the overall limit is the amount of the uncollectible share. '34 Act § 21D(g)(4).

F. Contribution. A covered person found proportionately liable can claim contribution for payments that exceed his or her proportionate share from any other person who, if joined in the original action, would have been liable for the same damages.

1. Contribution is determined by the percentage of responsibility of the claimant and each person against whom a claim for contribution is made.

2. The action for contribution must be brought within six months of the final judgment, except in the case of an action for contribution brought by a covered person required to make additional payment, which may be brought within six months of the date on which the additional payment was made. '34 Act § 21D(g)(9).

G. Settlement Discharge and Judgment Credit. A covered person who settles any private action at any time before the final verdict or judgment shall be discharged from all claims for contribution brought by other persons. Upon entry of the settlement by the court, the court shall enter a bar order constituting a final discharge of all obligations to the plaintiff of the settling covered person arising out of the action. '34 Act § 21D(g)(7)(A).

* When a covered person enters into a settlement with the plaintiff prior to final verdict or judgment, the verdict or judgment with respect to other defendants shall be reduced by the greater of (i) the amount that corresponds to the percentage responsibility of that covered person, or (ii) the amount paid to the plaintiff by the covered person. '34 Act § 21D(g)(7)(B).

H. Recovery of Costs. The Reform Act provides that in any case in which a contractual relationship permits, a covered person that prevails in any private action may recover the attorney's fees and costs of that covered person in connection with the action. '34 Act § 21D(g)(2)(B)(ii).

* Although this section appears to be directed to the case where a defendant successfully defends a private securities fraud action and then seeks to recover the costs of defending the action pursuant to a contractual agreement, a literal reading of the section would seem to permit an originally unsuccessful defendant to recover defense "costs" in a subsequent action for contribution as long as he or she "prevails" in the subsequent action. 194644

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