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UNITED STATES DISTRICT COURT FOR THE DISTRICT OF DELAWARE COLLINS & AIKMAN CORPORATION and COLLINS & AIKMAN PRODUCTS CO., as Debtors in Possession, Plaintiffs,
C.A. No. 07-265-*** Electronically Filed
DAVID A. STOCKMAN, J. MICHAEL STEPP, GERALD E. JONES, BRYCE M. KOTH, DAVID R. COSGROVE, PAUL C. BARNABA, ROBERT A. KRAUSE, JOHN A. GALANTE, CHARLES E. BECKER, ELKIN B. MCCALLUM, THOMAS E. EVANS, CYNTHIA HESS, DANIEL P. TREDWELL, W. GERALD MCCONNELL, SAMUEL VALENTI, III, HEARTLAND INDUSTRIAL PARTNERS, L.P., HEARTLAND INDUSTRIAL ASSOCIATES, L.L.C., HEARTLAND INDUSTRIAL GROUP, L.L.C., PRICEWATERHOUSECOOPERS, LLP and KPMG LLP. Defendants.
OPENING BRIEF IN SUPPORT OF DEFENDANT PAUL C. BARNABA'S MOTION TO DISMISS
Thomas G. Macauley (ID No. 3411) Elizabeth D. Power (ID No. 4135) ZUCKERMAN SPAEDER LLP 919 Market Street, Suite 990 Wilmington, DE 19801 (302) 427-0400 Telephone (302) 427-8242 Fax Attorneys for Defendant Paul Barnaba
Dated: September 14, 2007 Wilmington, Delaware
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TABLE OF CONTENTS NATURE AND STAGE OF PROCEEDINGS ............................................................................. SUMMARY OF ARGUMENT ..................................................................................................... INTRODUCTION ......................................................................................................................... STATEMENT OF FACTS ............................................................................................................. ARGUMENT ................................................................................................................................. I. PLAINTIFFS HAVE FAILED TO STATE A CLAIM AGAINST MR. BARNABA UNDER EXCHANGE ACT SECTION 10(b) AND RULE 10b-5 .................................... A. 1 1 2 6 9
9
Plaintiffs Have Not Alleged That Mr. Barnaba Engaged in Conduct Constituting a "Primary Violation" of Section 10(b) ............................................. 9 1. 2. 3. Plaintiffs Have Not Alleged "Manipulation". ........................................... 10 Plaintiffs Have Not Alleged "Deception". ................................................ 11
Plaintiffs Cannot Transform Mr. Barnaba Into a Primary Violator by Alleging That He Participated in a "Scheme To Defraud". ................. 12 Group Pleading Is Not Sufficient .............................................................. 16
4. B.
Plaintiffs Have Not Adequately Pled Scienter as to Mr. Barnaba ........................ 19 1. Plaintiffs Have Not Alleged that Mr. Barnaba Had Motive or Opportunity to Commit Fraud ..................................................................
20
2.
Plaintiffs Have Not Alleged Strong Circumstantial Evidence of Recklessness or Intentional Misconduct by Mr. Barnaba ......................... 22
II.
PLAINTIFFS HAVE FAILED TO STATE A CLAIM AGAINST MR. BARNABA UNDER EXCHANGE ACT SECTION 14(a) AND RULE 14a-9 .................................. A. Plaintiffs Do Not Plead Misstatements in the Proxy Statements with Particularity ...................................................................................................
25
26
B.
Plaintiffs Do Not Allege That Mr. Barnaba Made a Material Misrepresentation or Omission in a Proxy Statement ........................................................................ 27 Plaintiffs Have Not Adequately Pled that Mr. Barnaba Acted with the Requisite Intent .......................................................................................
C.
28
III.
THE COURT SHOULD DECLINE TO EXERCISE JURISDICTION OVER THE STATE LAW CLAIMS AGAINST MR. BARNABA ............................................
29
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IV.
THE COMPLAINT FAILS TO STATE A CLAIM THAT MR. BARNABA VIOLATED FIDUCIARY DUTIES ................................................................................ 29
Ao
Mr. Barnaba Did Not Owe Fiduciary Duties as a Director or Officer of Collins & Aikman ............................................................................................ 29 Even If Mr. Barnaba Could Be Considered an Officer of the Company Following His December 2004 Promotion, He Did Not Violate Any Fiduciary Duties ............................................................................................. 30 The Complaint Fails to Allege Breaches of the Duty of Loyalty or Due Care Against Mr. Bamaba ................................................................. 30 Plaintiffs Do Not State a Claim for a Violation of the Duty of Good Faith Against Mr. Bamaba .............................................................. 33
Bo
go
THE UNJUST ENRICHMENT CLAIM MUST BE DISMISSED BECAUSE PLAINTIFFS DO NOT ALLEGE MR. BARNABA RECEIVED A BENEFIT ............. 34 PLAINTIFFS FAIL TO STATE A CLAIM FOR COMMON LAW FRAUD AGAINST MR. BARNABA ............................................................................................ 5 3 A. B. Plaintiffs Fail to Plead Fraud With Particularity ................................................... 35 Plaintiffs Fail to Allege Scienter ........................................................................... 36
VI.
CONCLUSION ............................................................................................................................. 37
ii
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TABLE OF AUTHORITIES FEDERAL CASES Acito v. IMCERA Group, Inc., 47 F.3d 47 (2d Cir. 1995) ............................................................ AESv. Corp. v. Dow Chemical Co., 2001 WL 34367296 (D. Del Jan. 19, 2001) ....................... Albert v. Alex. Brown Mgmt. Servs., Inc., 2005 WL 2130607 (Del. Ch. Aug. 26, 2005) ............. Allison v. Brooktree Corp., 999 F. Supp. 1342 (S.D. Cal. 1998) ................................................. Anixter v. Home-Stake Prod. Co., 77 F.3d 1215 (10th Cir. 1996) ................................................ Basiclnc. v. Levinson, 485 U.S. 224 (1988) ................................................................................. Berckeley Inv. Group, Ltd. v. Colkitt, 455 F.3d 195 (3d Cir. 2006) ............................................. Billard v. Rockwelllnt'l Corp., 526 F. Supp. 218 (S.D.N.Y. 1981), aft'd, 683 F.2d 51 (2d Cir. 1982) ............................................................................................................................ Bond Opportunity Fund v. Unilab Corp., 2003 WL 21058251 (S.D.N.Y. 2003) ............ 21 14 35 17 14 19 19
10
25, 28, 29 35, 37
C.V. One v. Resources Group, 1982 WL 172863 (Del. Super. Dec. 14, 1982) ...................... Central Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 5 11 U.S. 164 (1994) ............................................................................................................. Chu v. Sabratek Corp., 100 F. Supp. 2d 827 (N.D. Ill. 2000) ...................................................... Coates v. Heartland Wireless Communs, Inc., 26 F. Supp. 2d 910 (N.D. Tex. 1998) ................. Degulis v. LXR Biotechnology, inc., 928 F. Supp. 1301 (S.D.N.Y. 1996) ................................... Dura Pharm., Inc. v. Broudo, 544 U.S. 336 (2005) ...................................................................... Fidel v. Farley, 392 F.3d 220 (6th Cir. 2004) ............................................................................... GFL Advantage Fund, Ltd. v. Colkitt, 272 F.3d 189 (3d Cir. 2001) ............................................ Gould v. American-Hawaiian S.S. Co., 535 F.2d 761 (3d Cir. 1976) .......................................... GreatLakes Chem. Corp. v. Monsanto Co., 96 F. Supp. 2d 376 (D. Del. 2000) ......................... GSC Partners CDO Fund v. Washington, 368 F.3d 228 (3d Cir. 2004) ............................... Howard v. Everex Sys., Inc., 228 F.3d 1057 (9th Cir. 2000) ........................................................ Hundahlv. UnitedBen. Lifelns. Co., 465 F. Supp. 1349 (N.D. Tex. 1979) ................................
passim 17 17 19 19 10 10 27 29
passim 12 11
111
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In reAdvanta Corp. Sec. Litig., 180 F.3d 525 (3d Cir. 1999) ....................................
20, 22, 23, 24 20, 21
In re Burlington Coat Factory Sec. Litig., 114 F.3d 1410 (3d Cir. 1997) .............................. In re Charter Communication, Inc. Sec. Litig., 443 F.3d 987 (8th Cir. 2006), cert. granted, 127 S. Ct. 1873 (2007) .................................................................................... In re Digital Island, 223 F. Supp. 2d 546 (D. Del. 2002), aft'd, 357 F.3d 322 (3d. Cir. 2004) .........................................................................................................
4, 14
17, 23, 24, 28 20 17 17
In re IKON Office Solutions, Inc. Sec. Litig., 277 F.3d 658 (3d Cir. 2002) ................................. In re Millerlndus., Inc. Sec. Litig., 12 F. Supp. 2d 1323 (N.D. Ga. 1998) .................................. In re PMA Capital Corp. Sec. Litig., 2005 WL 1806503 (E.D. Pa. Jul. 27, 2005) ...................... In re Reliance Sec. Litig., 135 F. Supp. 2d 480 (D. Del. 2001) .............................................
passim 7 3, 12 19 17
In re Rockefeller Ctr. Props., Inc. Sec. Litig., 184 F.3d 280 (3d Cir. 1999) ................................... In re Tyson Foods, Inc. See. Litig., 155 F.App'x 53 (3d Cir. 2005) ......................................... Irvine v. ImClone Systems, Inc., 2003 WL 21297285 (S.D.N.Y. 2003) ....................................... Israeli v. Team Telecon Int'l, Ltd., 2006 WL 2883237 (D.N.J. Oct. 10, 2006) ............................ Kalnit v. Eichler, 264 F.3d 131 (2d Cir. 2001) ....................................................................... Lentell v. MerrilILynch & Co., 396 F.3d 161 (2d Cir. 2005) .............................................
21, 22 4, 11, 14 15 15
Levine v. Metal Recovery Techs., Inc., 182 F.R.D. 102 (D. Del. 1998) ....................................... Levine v. Metal Recovery Techs., Inc., 182 F.R.D. 112 (D. Del. 1998) ....................................... Log On America, Inc. v. Promethean Asset Mgmt. L.L.C., 210 F. Supp. 2d 291 (S.D.N.Y. 2001) ........................................................................................................................ Lum v. Bank of America, 361 F.3d 217 (3d Cir. 2004) ........................................................... Maldonado v. Dominguez, 37 F.3d 1 (lst Cir. 1998) ................................................................... Marra v. Tel-Save Holdings, Inc., 1999 WL 317103 (E.D. Pa. May 18, 1999) ........................... Morschbach v. Household Int'l, Inc., 2002 WL 187514 (D. Del. Feb. 6, 2002) .......................... P. SchoenfeldAssetMgmt. LLCv. Cendant Corp., 142 F. Supp. 2d 589 (D.N.J. 2001) .............. Rattner v. Bidzos, 2003 WL 22284323 (Del. Ch. Oct. 7, 2003) .............................................
18 35, 36 24 17 34 17 33, 34
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Regents of the Univ. of Cal. v. Credit Suisse First Boston (USA), Inc., 482 F.3d 372 (5th Cir. 2007) ........................................................................................................................... Robbins v. Bannerlndus., Inc., 285 F. Supp. 758 (S.D.N.Y. 1966) ............................................. San Leandro Emergency Med. Group Profit Sharing Plan v. Philip Morris Cos., 75 F.3d 801 (2d Cir. 1996) ....................................................................................................... SECv. Resch-Cassin & Co., 362 F. Supp. 964 (S.D.N.Y. 1973) ................................................. Sevillelndus. Mach. v. SouthwestMach. Corp., 742 F.2d 786 (3d Cir. 1984) ............................. Simpson v. AOL Time Warnerlnc., 452 F.3d 1040 (9th Cir. 2006) ....................................... Southland Sec. Corp. v. INSpire Ins. Solutions, Inc., 365 F.3d 353 (5th Cir. 2004) .................... Tellabs, Inc. v. Makor Issues & Rights, Ltd., 127 S. Ct. 2499 (2007) ................................
14 27
21 10 35 14, 16 18
4, 20, 25 13 12, 14 14, 15
United States v. O'Hagan, 521 U.S. 642 (1997) ........................................................................... Wright v. Ernst & Young, LLP, 152 F.3d 169 (2d Cir. 1998) ................................................. Ziemba v. Cascade Int'l, Inc., 256 F.3d 1194 (1 lth Cir. 2001) .............................................. STATE CASES Brehm v. Eisner, 746 A.2d 244 (Del. 2000) ................................................................................. Cede & Co. v. Technicolor, Inc., 634 A.2d 345 (Del. 1993) ........................................................ Citron v. Fairchild Camera & Instrument Corp., 569 A.2d 53 (Del. 1989) ................................ Guttman v. Huang, 823 A.2d 492 (Del. Ch. 2003) ....................................................................... In re Caremark Int'l Inc. Derivative Litig., 698 A.2d 959 (Del. Ch. 1996) .................................. Khanna v. McMinn, 2006 WL 1388744 (Del. Ch. May 9, 2006) ................................................. Lazard Debt Recovery GP, LLC v. Weinstock, 864 A.2d 955 (Del. Ch. 2004) ............................ Legatski v. Bethany Forest Assoc., Inc., 2006 WL 1229689 (Del. Super. Ct. Apr. 28, 2006) ................................................................................................. Malone v. Brincat, 722 A.2d 5 (Del. 1998) .................................................................................. Metro Commc'n Corp. BVI v. Advanced Mobilecomm Techs. Inc., 854 A.2d 121 (Del. Ch. 2004) .......................................................................................................
31 31 31 33 33 32 29
36 32
32, 35, 36, 37
V
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St. James Recreation, LLC v. Rieger Opportunity Partners, LLC, 2003 WL 22659875 (Del. Ch. Nov. 5, 2003) ............................................................................................................ Steinman v. Levine, 2002 WL 31761252 (Del Ch. Nov. 27, 2002) .............................................. Vague v. Bank One Corp., 2006 WL 290299 (Del. Ch. Feb. 1, 2006) ......................................... FEDERAL STATUTES 15 U.S.C. § 78j(b), Exchange Act § 10(b) ...................................................................................... 15 U.S.C. § 78n(a), Exchange Act § 14(a) ................................................................................... 15 U.S.C. § 78u-4(b)(1), Exchange Act § 21D(b)(1) ....................................................... 15 U.S.C. § 78u-4(b)(2), Exchange Act § 21D(b)(2) .................................................
36 32 36
9 25
16, 18, 26 17, 19, 20, 23 18 19
15 U.S.C. § 78u-4(b)(3)(B), Exchange Act § 21D(b)(3)(B) ......................................................... 15 U.S.C. § 78u-4(b)(4), Exchange Act § 21D(b)(4) ................................................................... FEDERAL RULES Fed. R. Cir. P. 9(b) ....................................................................................................................... FEDERAL REGULATIONS 17 C.F.R. § 240.10b-5, Exchange Act Rule 10b-5 ....................................................................... 17 C.F.R. § 240.14a-9, Exchange Act Rule 14a-9 ........................................................................
35
10 25
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NATURE AND STAGE OF PROCEEDINGS Plaintiffs filed this action in their capacity as Debtors in Possession of Collins & Aikman Corporation and Collins & Aikanan Products Company on May 16, 2007. Plaintiffs assert against Defendant Paul C. Barnaba violations of § 10(b) of the Securities Exchange Act of 1934 ("Exchange Act") and Exchange Act Rule 10b-5 thereunder; § 14(a) of the Exchange Act and Rule 14a-9 thereunder; and common law claims for breach of fiduciary duty, unjust enrichment, and common law fraud. SUMMARY OF ARGUMENT All of Plaintiffs' claims against Mr. Barnaba must be dismissed. 1. Plaintiffs' Exchange Act § 10(b) and Rule 10b-5 claims against Mr. Barnaba fail
because they have not alleged that Mr. Barnaba engaged in a "primary violation" of § 10(b). Plaintiffs fail to plead either of the required elements of "manipulation" or "deception" and cannot transform Mr. Barnaba into a primary violator by alleging that he participated in a "scheme to defraud," or by including him in an undifferentiated group of defendants. In addition, Plaintiffs have not adequately pied scienter. 2. Plaintiffs fail to state a claim against Mr. Barnaba under Exchange Act § 14 and
Rule 14a-9 because they do not plead misstatements in the proxy statements with particularity, do not allege that Mr. Barnaba made a material misrepresentation or omission in a proxy statement, and do not adequately plead that Mr. Barnaba acted with the requisite intent. 3. Because Plaintiffs' federal claims against Mr. Barnaba must be dismissed, the
Court should decline to exercise jurisdiction over Plaintiffs' state law claims. 4. The breach of fiduciary duty claims against Mr. Barnaba must be dismissed
because Mr. Barnaba was neither an officer nor a director of Collins & Aikman and therefore
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owed no duty to the Company's shareholders, and because Plaintiffs' allegations are insufficient to state a claim for breach of fiduciary duty even if Mr. Bamaba had such a duty. 5. Plaintiffs' unjust enrichment claims must be dismissed because Plaintiffs do not
allege Mr. Barnaba received a benefit from his alleged conduct. 6. Finally, the common law fraud claims fail, because Plaintiffs neither plead fraud
with particularity nor allege the requisite scienter. INTRODUCTION Mr. Barnaba joined Collins & Aikman ("C&A" or the "Company") in April 2002, as Director of Financial Analysis for C&A's Purchasing Department. Complaint ("Compl.") ¶ 13. In December 2004, a few months before he left the Company in May 2005, he "became a vice president and Director of the Purchasing Department for the Plastics Division." Id. Mr. Barnaba was not, and is not alleged to have been, a high-ranking corporate official at C&A. Nonetheless, the Complaint alleges that a large group of"Officer and Director Defendants," including Mr. Barnaba, perpetrated "fraudulent schemes" at C&A, primarily through improper accounting and false public statements. Despite alleging that he was, at most, a mid-level manager in Purchasing, Plaintiffs lump Mr. Barnaba together with the Company's Chief Executive and Chief Financial Officers. Plaintiffs do not allege, however, that Mr. Barnaba is an accountant, played any role in C&A's accounting decisions or had any responsibility within the Company for any accounting or bookkeeping function. Nor is there any allegation that Mr. Barnaba falsified any financial record of the Company or even had any contact with the Company's auditors. Nor do Plaintiffs allege that Mr. Barnaba played any role in the drafting, editing or preparation of any of the Company's public statements or proxy statements or that he had any
2
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responsibility within the Company for that function. Indeed, the allegation that he was a midlevel manager from the Purchasing Department belies any such inference. Moreover, all of the allegedly false statements identified in the Complaint concerning the Company's finances were made by the Company or by individuals other than Mr. Barnaba. Nonetheless, Plaintiffs assert in their First Claim for Relief that Mr. Barnaba committed a "primary violation" of § 10(b) of the Exchange Act and Rule 10b-5 thereunder, by engaging in acts or omissions "result[ing] in material overstatements of C&A's reported earnings" in a variety of statements by the Company. Compl. ¶¶ 153-157. They charge him in the Second Claim for Relief with violating § 14(a) of the Exchange Act and Rule 14a-9 thereunder, prohibiting false or misleading proxy statements. Compl. ~ 158-163. Further, Plaintiffs charge in their Third, Fourth, and Fifth Claims for Relief that Mr. Bamaba is liable under state law for breach of fiduciary duty, unjust enrichment, and common law fraud. Compl. ~ 164-176. All of these claims must be dismissed. First, Mr. Barnaba cannot be liable for a "primary violation" of § 10(b) and Rule 10b-5 because Plaintiffs have not alleged that he made one of the material misrepresentations or omissions identified in the Complaint. In Central Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164 (1994), the Supreme Court held that § 10(b) proscribes two types of conduct: "deception" (which it defined as material misrepresentations and omissions) and "manipulation" (limited to certain practices not present in this case). In the Third Circuit, a defendant cannot be said to have "made" a statement - i.e., violated the deception/misrepresentation prong of § 10(b) - where he did not have a role in drafting or preparing the alleged statements or reviewing them prior to issuance. In re Tyson Foods, Inc. Sec. Litig., 155 F.App'x 53, 56 (3d Cir. 2005). Because Plaintiffs have alleged none of these
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activities with respect to Mr. Barnaba, he did not "make" any of the misrepresentations identified in the Complaint and cannot be held liable for a "primary violation" of § 10(b) and Rule 10b-5. Plaintiffs cannot avoid Supreme Court precedent by characterizing this case as involving "manipulation" or by labeling Mr. Barnaba as a participant in a "scheme to defraud" under Rule 10b-5(a) and (c). "Manipulation" is a term of art involving practices affecting the efficient operation of the market (e.g., creating the false impression of demand), and as the Second Circuit made clear in Lentell v. Merrill Lynch & Co., 396 F.3d 161 (2d Cir.), cert. denied, 546 U.S. 935 (2005), does not include claims, like the one asserted here, involving the provision to the market of allegedly false and misleading information. "Scheming" based on Rule 10b-5(a) and (c) is also not a viable approach for expanding the reach of § 10(b) to non-speakers like Mr. Barnaba. Because the language of the rule, under longstanding Supreme Court precedent, cannot be used to expand the ambit of liability under § 10(b), and because § 10(b) "prohibits only the making of a material misstatement (or omission) or the commission of a manipulative act," Central Bank, 511 U.S. at 177, "scheming" is not an independent basis for liability under the statute. As a result, only those who themselves commit a "manipulative" act (not this case) or a "deceptive" act (making a false statement or omission, which is not alleged as to Mr. Barnaba) can be liable as "primary violators" under § 10(b) and Rule 10b-5. In re Charter Commc 'n, Inc. Sec. Litig., 443 F.3d 987, 992 (8th Cir. 2006), cert. granted, 127 S. Ct. 1873 (2007). Second, the claim that Mr. Barnaba committed a "primary violation" of § 10(b) must be dismissed for the additional, independent reason that Plaintiffs have failed to allege scienter with the required particularity. In Tellabs, Inc. v. Makor Issues & Rights, Ltd., 127 S. Ct. 2499, 2510 (2007), the Supreme Court held that, in considering whether a plaintiff has adequately pled scienter under the PSLRA, the court must consider "plausible nonculpable explanations for the
4
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defendant's conduct, as well as inferences favoring the plaintiff" and that an inference of scienter must be "cogent and at least as compelling as any opposing inference one could draw from the facts alleged." Plaintiffs' allegations do not meet these tests. Plaintiffs do not adequately allege that Mr. Barnaba had "motive" or "opportunity." The Complaint does not allege that he sold stock at artificially inflated prices (or even owned stock), was paid a bonus tied somehow to the fraud, or had some other concrete benefit he could have realized by virtue of the allegedly faulty accounting. Nor does it allege that Mr. Barnaba was in a position within C&A to influence the improper accounting and public statements, as would be required to have "opportunity," or make other sufficient allegations to meet the pleading requirements for scienter. Third, the claim that Mr. Barnaba violated § 14(a) of the Exchange Act and Rule 14a-9 thereunder suffers from many defects. Plaintiffs fail to plead the existence of misstatements in C&A's proxy statements with particularity, instead alleging broadly that an unnamed number of proxy statements issued over a three-year period were misstated in an unspecified way. Compl. ¶ 77. Moreover, Plaintiffs do not allege that Mr. Barnaba signed, reviewed or approved any of the offending proxy statements or that he had any involvement whatsoever with their creation or issuance. Nor do Plaintiffs plead the requisite strong inference of negligence to state a claim against him under § 14(a). Fourth, the various state law claims against Mr. Barnaba also fail as a matter of law. To begin, this Court should decline to exercise pendent jurisdiction over them given that the federal claims must be dismissed. Further, the breach of fiduciary duty claim against Mr. Barnaba has not been adequately pled because he is not alleged to have been an officer or director of C&A and therefore did not owe fiduciary duties to the Company's shareholders. Even if Mr. Bamaba
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were an officer, the Complaint fails to state a claim for breach of fiduciary duty against him because it does not allege self-dealing in violation of the duty of loyalty, does not allege a failure to disclose pursuant to an obligation to do so in violation of the duty of care, and does not allege that Mr. Barnaba had responsibility over the Company's financial statements such that omissions in them violate his duty of good faith. Nor do Plaintiffs adequately allege an unjust enrichment claim against Mr. Barnaba because they have not alleged that he received any benefit whatsoever from his activities at C&A. Finally, Plaintiffs mention Mr. Barnaba by name only once in their lengthy Complaint. Their group-pied allegations utterly fail to state a common law fraud claim against him with the requisite particularity. STATEMENT OF FACTS According to the Complaint, C&A was engaged in the design, manufacture and supply of automotive interior components for companies such as Ford, GM and Chrysler. Compl. ¶ 36. In 2001, Defendants Heartland Industrial Partners, L.P., Heartland Industrial Associates L.L.C., and Heartland Industrial Group L.L.C. (collectively "Heartland" or the "Heartland Defendants"), acquired a controlling interest in the Company. Compl. ¶ 37. Under Heartland's management, C&A went on an "acquisition spree" in an effort to increase the Company's market position. Id. This rapid expansion, coupled with adverse business conditions that reduced profit margins, ultimately proved disastrous for C&A. Compl. ¶ 38. The Company filed for bankruptcy protection on May 12, 2005. Compl. ¶ 41. Plaintiffs allege that from the fourth quarter of 2001 (before Mr. Barnaba joined as the third-ranking member in Purchasing) until Collins & Aikman's bankruptcy, all defendants contributed to the Company's collapse by engaging in a "variety of fraudulent schemes" intended to conceal the true state of the Company's finances. Compl. ¶ 40. Plaintiffs assert
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claims against three groups of defendants: the Heartland Defendants (Compl. ~ 28-33); the Auditor Defendants - PriceWaterhouseCoopers ("PwC") and KPMG - (Compl. ¶¶ 34-35); and the "Director and Officer Defendants" - Stockman, Stepp, Koth, Cogrove, Barnaba, Krause, Galante, Becker, McCallum, Evans, Hess, Tredwell, McConnell, and Valenti. (Compl. ~¶ 9-23). The 215-paragraph Complaint, as noted, mentions Mr. Barnaba only once. That paragraph states, in its entirety: "Defendant Paul C. Barnaba served as the Director of Financial Analysis for the Company's Purchasing Department from April 2002 to December 2004, when he became a Vice President and the Director of Purchasing for the Plastics Division, a position he held until April 2005." Compl. ¶ 13. While this description makes clear that Mr. Barnaba was at most a mid-level manager whose duties related to purchasing, the remainder of the Complaint lumps Mr. Barnaba together with the "Officer and Director Defendants," a group that includes the Company's directors and Chief Executive and Chief Financial Officers. Public filings referenced in the Complaint show that Mr. Barnaba was neither a director nor an officer of the Company. See Collins & Aikman Corp., Proxy Statement (Apr. 25, 2002) at 5-8, 19-20 (identifying directors and officers); Collins & Aikman Corp., Form 10-K for the fiscal year ended December 31, 2003 at 47-51 (same); Collins & Aikman Corp., Proxy Statement (Sep. 30, 2004) at 3-5, 18 (same); Statement of Financial Affairs, ¶ 21(b), /n re Collins & Aikman Corp., et al., No. 05-55927 (Bankr. E. D. Mich.) (same).1 The Complaint describes three purported "fraudulent schemes." First, Plaintiffs allege that between the fourth quarter of 2001 and the first quarter of 2003, defendants "Stockman,
~ Excerpts from these public filings are attached as Exhibits A through D, respectively. The Court may rely on a company's public filings referred to in a complaint in considering a motion to dismiss. See in re Rockejbller Ctr. Props., Inc. Sec. Litig., 184 F.3d 280, 293 (3d Cir. 1999) (holding district court could properly consider the authenticated copies of SEC filings submitted by defendants on a motion to dismiss).
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Stepp and others acting at their direction" engaged in fraudulent "round-trip" transactions with Joan Fabrics, Inc., a company controlled by defendant McCallum. Compl. ~ 48-52. According to the Complaint, these defendants arranged for Joan Fabrics to provide short-term loans to C&A to inflate the Company's financial results. These loans allegedly were falsely characterized on C&A's financial statements as rebates for past purchases or services. See Compl. ¶¶ 50, 90-97. C&A allegedly repaid the loans through a series of transactions designed to obscure the fact that Joan Fabrics was being repaid. Compl. ¶ 51. Second, Plaintiffs allege that between 2002 and 2004, "Defendants caused or allowed" the Company to account improperly for rebates from the Company's suppliers. Compl. ~ 5358, 98-102. Specifically, the Complaint alleges that the Company would agree to future price reductions and improperly book the rebate in the present quarters, or purchase capital equipment for inflated prices and receive the difference back as a "rebate." Compl. ¶ 55. Finally, Plaintiffs allege that in December 2004 and January 2005, "Stockman and others acting at his direction" manipulated Company accounts to reduce the amount of money the Company owed General Electric Capital Corporation ("GECC"). Compl. ¶ 63. Plaintiffs allege that as a result of these "schemes," from fourth quarter 2001 until May 2005, the Company's quarterly and annual reports to the SEC were false and misleading, and that an August 2004 offering memorandum and 2002, 2003 and 2004 Proxy Statements contained false and misleading statements. Compl. ¶¶ 59-60; 75-77. In addition, Plaintiffs contend that "Stockman and others" made false statements on a March 2005 investor conference call. Compl. ¶ 67. The Complaint further alleges that Mr. Stockman concealed the true financial condition of the Company in a presentation to JP Morgan Chase and Credit Suisse First Boston on March 24, 2005, and made false statements to the banks to induce them to provide financing
8
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to the Company in April 2005. Compl. ~[ 68, 70. Plaintiffs allege that the Company's press releases on March 17 and April 4, 2005 contained false and misleading statements, and that the Company's March 24, 2005 press release "understated the scope of the problem at the Company." Compl. ¶¶ 65-66, 69. In addition to the allegedly false statements, Plaintiffs also allege that the Company failed to record timely an impairment in the value of its long-lived goodwill and assets, overstated its deferred tax assets, improperly reported related party transactions, failed to provide appropriate disclosure about the Company's ability to continue as a going concern, and committed other violations of Generally Accepted Accounting Principles. ~[1103-21. Plaintiffs contend that Defendants PwC and KPMG acted negligently in performing their audits and reviews of the Company's financial statements. ~ 78-88; 122-52. The Complaint does not contain a single allegation concerning Mr. Barnaba's role in any of the alleged "schemes" and does not attribute any false statements to him. ARGUMENT I. PLAINTIFFS HAVE FAILED TO STATE A CLAIM AGAINST MR. BARNABA UNDER EXCHANGE ACT SECTION 10(b) AND RULE 10b-5. A. Plaintiffs Have Not Alleged That Mr. Barnaba Engaged in Conduct Constituting a "Primary Violation" of Section 10(b).
The conduct prohibited by § 10(b) and Rule 10b-5 is controlled by the text of the statute. Central Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164, 176 (1994). Section 10(b) makes it unlawful "directly or indirectly,... [t]o use or employ, in connection with the purchase or sale of any security,.., any manipulative or deceptive device or contrivance .... 15 U.S.C. § 78j(b). The statutory language "gives no indication that Congress " meant to prohibit any conduct not involving manipulation or deception." Central Bank, 511 U.S.
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at 177 (quoting Santa Fe Indus., Inc. v. Green, 430 U.S. 462, 473 (1977)); see also Fidel v. Farley, 392 F.3d 220, 235 (6th Cir. 2004) ("Section 10(b) 'prohibits only the making of a material misstatement (or omission) or the commission of a manipulative act.' It does not proscribe 'giving aid to a person who commits a manipulative or deceptive act.'") (quoting Central Bank, 511 U.S. at 177). Therefore, to state a claim for a "primary violation" of § 10(b) or Rule 10b-5, 17 C.F.R. § 240.10b-5, a plaintiff must allege that a defendant engaged in conduct that "can be fairly viewed as 'manipulative or deceptive' within the meaning of the statute." Santa Fe Indus., 430 U.S. at 474; Central Bank, 511 U.S. at 177-78. Plaintiffs have not alleged either type of conduct as to Mr. Barnaba. 1. Plaintiffs Have Not Alleged "Manipulation. "
'"Manipulation' is 'virtually a term of art when used in connection with securities markets.'" Santa Fe Indus., 430 U.S. at 476 (quoting Ernst & Ernst v. Hochfelder, 425 U.S. 185, 199 (1976)). It "refers generally to practices, such as wash sales, matched orders, or rigged prices, that are intended to mislead investors by artificially affecting market activity." Id. Courts in this Circuit and elsewhere have long recognized that manipulative devices are limited to certain practices not alleged in this case. See, e.g., GFL Advantage Fund, Ltd. v. Colkitt, 272 F.3d 189, 205 (3d Cir. 2001) ("Manipulation... generally refers to practices, such as wash sales, matched orders or rigged prices, that are intended to mislead investors by artificially affecting market activity."); Billard v. Rockwell Int 'l Corp., 526 F. Supp. 218, 222 (S.D.N.Y. 1981 ), ajf'd, 683 F.2d 51 (2d Cir. 1982) ("[t]he unifying element in the manipulative devices listed in Santa Fe is that they are 'used to persuade the public that activity in a security is the reflection of genuine demand instead of a mirage.'") (quoting SEC v. Resch-Cassin & Co., 362 F. Supp. 964, 975 (S.D.N.Y. 1973)); see also Hundahl v. United Ben. Life Ins. Co., 465 F. Supp. 1349, 1360
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(N.D. Tex. 1979) (manipulation requires "practices in the marketplace which have the effect of either creating the false impression that certain market activity is occurring when in fact such activity is unrelated to actual supply and demand or tampering with the price itself'). The conduct alleged here - namely, that certain individuals other than Mr. Barnaba improperly accounted for certain transactions and provided false information to Plaintiffs and the market about the Company's finances, see Compl. ~ 48-87, - is not "manipulation," as explained by the Second Circuit in Lentell v. Merrill Lynch & Co., 396 F.3d 161,177 (2d Cir.), cert. denied, 546 U.S. 935 (2005). There, the circuit court flatly rejected the plaintiffs' attempt to characterize their claims "in terms of market manipulation, pursuant to Rule 10b-5(a) and (c)," explaining that "where the sole basis for [a § 10(b) claim] is alleged misrepresentations [or] omissions, plaintiffs have not made out a market manipulation claim under Rule 10b-5(a) and (c) .... " Id. That same conclusion applies here, where the sole basis for Plaintiffs' purported losses are alleged misrepresentations. See Compl. ~ 155-157. 2. Plaintiffs Have Not Alleged "Deception. "
Nor have Plaintiffs alleged "deception," the other category of conduct proscribed by the statute. According to the Supreme Court, conduct is "deceptive" only when it involves a material misstatement or omission, neither of which is present here as to Mr. Barnaba. See Central Bank, 511 U.S. at 177 ("the statute prohibits only the making of a material misstatement (or omission) or the commission of a manipulative act"); see also Santa Fe Indus., 430 U.S. at 474 (merger transaction not "deceptive" under § 10(b) where complaint does not allege a material misrepresentation or failure to disclose). Thus, a defendant must actually make a material misrepresentation or omission for which the defendant had "an affirmative duty of disclosure" in order to be held liable in a private action under § 10(b). In re Sofamor Danek
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Group, Inc., 123 F.3d 394, 400 (6th Cir. 1997). "Anything short of [actually making the alleged false statement] is merely aiding and abetting, and.., is not enough to trigger liability under Section 10(b)." Wright v. Ernst & Young, LLP, 152 F.3d 169, 175 (2d Cir. 1998) (quoting Shapiro v. Cantor, 123 F.3d 717, 720 (2d. Cir. 1997)). Plaintiffs do not, however, adequately allege that Mr. Barnaba "made" any of the purported misstatements identified in the Complaint. In In re Tyson Foods, Inc. Sec. Litig., 155 F.App'x 53, 56 (3d Cir. 2005), the Third Circuit determined the standard for "making" a statement for the purpose of § 10(b). It considered the so-called "bright-line" test laid out in Wright - requiting that the defendant actually make a statement attributed to him at the time of dissemination - as well the more liberal "substantial participation" test embraced by the Ninth Circuit in Howard v. Everex Sys., Inc., 228 F.3d 1057, 1061 (9th Cir. 2000). It adopted neither, finding that the defendants could not be said to have "made" the alleged misrepresentations under § 10(b) because they had no role in drafting or preparing the allegedly false press releases and did not review them prior to their issuance. In re Tyson Foods, 155 F.App'x at 57. Here, as in Tyson Foods, Plaintiffs do not allege that Mr. Barnaba "made" any of the purportedly false statements identified in the Complaint, had any role in the allegedly improper accounting decisions, or drafted, edited or signed C&A's public filings (or accompanying press releases). Under Supreme Court and Third Circuit precedent, therefore, Mr. Barnaba cannot be held liable because he did not "make" any of the alleged false statements. See Central Bank, 511 U.S. at 177; Santa Fe Indus., 430 U.S. at 474; In re Tyson, 155 F.App'x at 56-57. 3. Plaintiff~ Cannot Transform Mr. Barnaba Into a Prima~ Violator by Alleging That He Participated in a "Scheme To Defraud. "
Plaintiffs cannot avoid the Supreme Court's holding that § 10(b) proscribes only "manipulation" and "deception," nor the requirement that a defendant actually make a statement,
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by alleging that Mr. Barnaba participated in a "fraudulent scheme" in violation of Rule 10b-5(a) and (c). See, e.g., Compl. ~ 40, 53, 55, 64, 155. The Supreme Court has stated on a number of occasions that notwithstanding the language of Rule 10b-5, liability "does not extend beyond conduct encompassed by § 10(b)'s prohibition." United States v. 0 'Hagan, 521 U.S. 642, 651 (1997); see also Central Bank, 511 U.S. at 173; Santa Fe Indus., 430 U.S. at 472-74; Ernst & Ernst, 425 U.S. at 214. As a consequence, the language of Rule 10b-5(a) and (c) cannot be used to create additional categories of conduct proscribed by the statute. See Central Bank, 511 U.S. at 173; Santa Fe Indus., 430 U.S. at 472-74; Ernst & Ernst, 425 U.S. at 214. Because the text of § 10(b), as interpreted by the Supreme Court, does not prohibit "scheming," it cannot be used as an independent basis for stating a "primary violation" against a non-speaker like Mr. Barnaba. For this reason, the Eighth Circuit recently rejected a § 10(b) claim based on "scheming" in light of Central Bank, holding that "any defendant who does not make or affirmatively cause to be made a fraudulent misstatement or omission, or who does not directly engage in manipulative securities trading practices, is at most guilty of aiding and abetting and cannot be held liable under § 10(b) or any subpart of Rule 10b-5.''2 In re Charter Commc's, Inc., Sec.
2 In Charter Communications, the plaintiffs alleged that Charter's vendors, who allegedly participated in sham transactions that Charter accounted for improperly were liable as primary violators of § 10(b) for "scheming" under Rule 10b-5(a) and (c). The Eighth Circuit rejected the claim as inconsistent with Supreme Court precedent: We conclude that Central Bank and the earlier cases on which it relied stand for three governing principles: (1) The Court's categorical declaration that a private plaintiff "may not bring a 10b-5 suit against a defendant for acts not prohibited by the text of § 10(b)," 511 U.S. at 173, included claims under Rule 10b-5(a) and (c), as well as Rule 10b-5(b). (2) A device or contrivance is not "deceptive," within the meaning of § 10(b), absent some misstatement or a failure to disclose by one who has a duty to disclose. See Santa Fe Indus., 430 U.S. at 474-75. (3) The term "manipulative" in § 10(b) has the limited contextual meaning ascribed in Santa Fe. Id. at 476-77. Thus, any defendant who does not make or 13
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Litig., 443 F.3d 987, 992 (8th Cir. 2006), cert. granted, 127 S. Ct. 1873 (2007). While the Third Circuit has yet to consider the viability of scheme liability under § 10(b), the Second, Fifth, Tenth, and Eleventh Circuits have adopted positions similar to the Eighth Circuit's, rejecting scheme liability or requiring that a defendant commit a manipulative act or make a false statement or omission to incur liability. See Regents of the Univ. of Cal. v. Credit Suisse First Boston (USA), Inc., 482 F.3d 372, 386-90 (5th Cir. 2007) (expressly rejecting "scheme" liability and adopting Eighth Circuit's standard); Lentell, 396 F.3d at 177 (rejecting claim under Rule 10b-5(a) and (c) "where the sole basis for [the] claim is alleged misrepresentations or omissions"); see also Ziemba v. Cascade Int 7, Inc., 256 F.3d 1194, 1204-06 (1 lth Cir. 2001) (defendant must make statement to be liable); Wright, 152 F.3d at 175 (same); Anixter v. HomeStake Prod. Co., 77 F.3d 1215, 1225-27 (10th Cir. 1996) (same). But see Simpson v. AOL Time Warner Inc., 452 F.3d 1040, 1048 (9th Cir. 2006) (expanding "deception" beyond Supreme Court's definition to include a "scheme to defraud," where a defendant engaged "in conduct that had the principal purpose and effect of creating a false appearance of fact in furtherance of the scheme"). Previous decisions by this Court have permitted § 10(b) claims premised upon an alleged "scheme" or "conspiracy" to defraud even after Central Bank. See AES v. Corp. v. Dow Chemical Co., No. Civ. A. 99-673-JJF, 2001 WL 34367296, at *3 (D. Del. Jan. 19, 2001) (allowing primary § 10(b) claim based on allegation that defendant conspired to commit
affirmatively cause to be made a fraudulent misstatement or omission, or who does not directly engage in manipulative securities trading practices, is at most guilty of aiding and abetting and cannot be held liable under § 10(b) or any subpart of Rule 10b-5. Id. at 992 (footnote omitted.) The Supreme Court has granted certiorari in the case and could address the issue of "scheme" liability next term. 14
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securities fraud); Levine v. Metal Recovery Techs., Inc., 182 F.R.D. 102, 106 (D. Del. 1998) (allowing primary § 10(b) claim based on allegation that defendant participated in a scheme that operated as a fraud on the market); Levine v. Metal Recovery Techs., Inc., 182 F.R.D. 112, 114115 (D. Del. 1998) (allowing primary § 10(b) claim based on allegation that defendant conspired to commit securities fraud) (citing A T&T v. Winback & Conserve Program, Inc., 42 F.3d 1421 (3d Cir. 1994) (permitting respondeat superior claims under the Lanham Act after Central Bank)). Mr. Barnaba respectfully submits that these decisions are inconsistent with Supreme Court precedent and the growing number of circuits rejecting "scheme liability" for nonspeaking defendants, like Mr. Barnaba. Indeed, the allegations that Mr. Barnaba participated in a "scheme" to inflate earnings, and thereby to misrepresent the Company's finances, are the very kind that Central Bank does not permit. Central Bank forecloses liability not only for aiding and abetting but also for "assisting" or "participating in" a § 10(b) violation and for conspiring with others to violate the statute. See, e.g., Shapiro, 123 F.3d at 720 ("Allegations of 'assisting,' 'participating in,' 'complicity in' and similar synonyms.., fall within the prohibitive bar of Central Bank); Ziemba, 256 F.3d at 1205 ("allegations of substantial assistance in the fraud were the kinds of allegations that were rejected in Central Bank."). Re-labeling "assisting," "participating," or "conspiring" as "scheming" does not change the substance of the claim and cannot be used as an end run around Central Bank. An alleged participant in a "scheme to defraud," therefore, can be liable only if"all of the requirements for primary liability [] are met," as to him, i.e., only if the plaintiff alleges that the individual actually made misstatements or omissions or committed manipulative acts. Central Bank, 511 U.S. at 191 (emphasis in original). Plaintiffs have not met this burden as to Mr. Barnaba.
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Even assuming, arguendo, that scheme liability claims are still viable under § 10(b), Plaintiffs have not adequately alleged Mr. Barnaba's participation in a scheme. To state a scheme liability claim, the Ninth Circuit requires Plaintiffs to allege "that the defendant engaged in conduct that had the principal purpose and effect of creating a false appearance of fact in furtherance of that scheme." Simpson, 452 F.3d at 1048. Plaintiffs have made no such allegations against Mr. Barnaba here. As noted, the Complaint alleges only that Mr. Barnaba worked in the Company's Purchasing Department. He is not alleged to have committed a single act, much less one that had the effect of"creating a false appearance of fact." Further, even if Plaintiffs could allege that Mr. Barnaba participated in an allegedly fraudulent transaction, "[i]t is not enough that a transaction in which a defendant was involved had a deceptive purpose and effect; the defendant's own conduct contributing to the transaction or overall scheme must have had a deceptive purpose and effect." Id. (emphasis in original). Undoubtedly, in the absence of allegations specific to Mr. Bamaba, Plaintiffs have not alleged that his "own conduct" had a deceptive purpose or effect. 4. Group Pleading Is Not Sufficient.
Plaintiffs cannot use the "group pleading" doctrine to avoid the fact that they cannot identify any false statement by Mr. Bamaba. See Compl. ~[175-77. Said differently, Plaintiffs cannot plead a § 10(b) case by alleging, as they have tried to do, that an undifferentiated group of defendants made the Company's statements, without attributing specific statements to specific defendants. First, the PSLRA requires that the plaintiff specify, as to "the defendant, .... statement each alleged to have been misleading" and "the reason or reasons why the statement is misleading." 15 U.S.C. § 78u-4(b)(l). The plaintiff must also "state with particularity facts giving rise to a
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strong inference that the deJbndant acted with the required state of mind." 15 U.S.C. § 78u4(b)(2) (emphasis added). The group pleading doctrine, which creates a presumption at the pleading stage that a company's public filings are the collective work of a limited class of highranking executives who control the company (not Mr. Barnaba), and thereby relieves the plaintiff of the obligation to attribute particular misrepresentations to particular defendants, directly contradicts these requirements, as well as the particularity required by Rule 9(b). Consequently, in In re Digital Island Sec. Litig., this Court held that the PSLRA "effectively abolished the group pleading doctrine." 223 F. Supp. 2d 546, 553 (D. Del. 2002), aft'd, 357 F.3d 322 (3d Cir. 2004). The Court reasoned that "the requirement under the PSLRA that scienter be pled with particularity as to each defendant would be rendered meaningless should group pleading survive." Id. Other district courts within the Third Circuit have reached the same result. See Israeli v. Team Telecon Int 7, Ltd., CA No. 04-CV-4305, 2006 WL 2883237, at *5 (D.N.J. Oct. 10, 2006) (noting that the prevailing authority within the district counsels that group pleading has been abolished); P. Schoenfeld Asset Mgmt. LLC v. Cendant Corp., 142 F. Supp. 2d 589, 620 (D.N.J. 2001) (concluding that the PSLRA abolished the group pleading doctrine); In re PMA Capital Corp. Sec. Litig., No. 03-6121, 2005 WL 1806503, at "12, (E.D. Pa. Jul. 27, 2005) (same).3
3 Although a small minority of district courts in other circuits continue to apply the doctrine, the majority do not. See, e.g., Coates v. Heartland Wireless Communs, Inc., 26 F. Supp. 2d 910, 916 (N.D. Tex. 1998) ("[i]t is nonsensical to require that a plaintiff specifically allege facts regarding scienter as to each defendant, but to allow him to rely on group pleading in asserting that the defendant made the statement or omission"); Allison v. Brooktree Corp., 999 F. Supp. 1342, 1350 (S.D. Cal. 1998) ("[t]o 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"); In re Miller Indus., Inc. See. Litig., 12 F. Supp. 2d 1323, 1329 (N.D. Ga. 1998); Chu v. Sabratek Corp., 100 F. Supp. 2d 827, 835-37 (N.D. Ill. 2000); Marra v. Tel-Save Holdings, Inc., No. 98-3145, 1999 WL 317103, at **4-5 (E.D. Pa. May 18, 1999).
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Moreover, the sole court of appeals to consider the precise issue held that the group pleading doctrine "cannot withstand the PSLRA's specific requirement that the untrue statements or omissions be set forth with particularity as to 'the defendant' and that scienter be pleaded 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.'" Southland Sec. Corp. v. INSpire Ins. Solutions, Inc., 365 F.3d 353,364 (5th Cir. 2004).4 Instead, the PSLRA requires that a plaintiff specify which allegedly false document is attributable to each defendant as well as "which portions or statements within these documents are assignable to each individual defendant." Id. at 365. Plaintiffs have failed utterly to meet that standard here. They have not identified any particular document or filing that Mr. Barnaba assisted in drafting, much less identified an allegedly false statement within such a document that is attributable to Mr. Barnaba. Second, and in any event, even if the group pleading doctrine survived the PSLRA and Central Bank, it could not be applied to Mr. Barnaba, because he was only a mid-level manager in the Purchasing Department, not a high-level corporate insider with control over the Company's statements. The doctrine, even in other jurisdictions where it still exists, is
4 The group pleading doctrine also conflicts with the PSLRA's requirement that securities fraud claims must be pled with particularity based on the plaintiff's knowledge at the time suit isfiled. The PSLRA imposes a stay of all discovery during the pendency of any motion to dismiss in order to "'protect[]... corporate defendants from plaintiffs' counsel 'discovering' their way into facts which could allow them to amend an initially frivolous complaint so as to state a claim.'" Log On America, Inc. v. Promethean Asset Mgmt. L.L.C., 210 F. Supp. 2d 291,293 (S.D.N.Y. 2001) (quoting Tobias Holdings, Inc. v. Bank United Corp., 177 F. Supp. 2d 162, 164 (S.D.N.Y. 2001)); see also 15 U.S.C. § 78u-4(b)(3)(B). Moreover, the requirement that, for allegations based on information and belief, "the complaint shall state with particularity all facts on which that belief is formed," 15 U.S.C. § 78u-4(b)(1), ensures that plaintiffs cannot simply sue first and discover the supporting facts later. The group pleading doctrine, however, dispenses with all of these rules and allows a plaintiff to sue without knowing whether a particular defendant engaged in conduct constituting a "primary violation," without pleading the defendant's conduct with particularity, and with the express purpose of permitting the plaintiff to discover his case later.
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"extremely limited in scope," Irvine v. ImClone Systems, Inc., No. 02 Civ. 109 RO, 2003 WL 21297285, at *2 (S.D.N.Y. 2003), and applies only to those "highly ranked officers or directors who participated in the preparation and dissemination" of a corporation's statements in documents such as SEC filings, prospectuses, and press releases. Degulis v. LXR Biotechnology, Inc., 928 F. Supp. 1301, 1311-12 (S.D.N.Y. 1996). Here, the Complaint alleges that Mr. Barnaba was a mid-level manager in Purchasing, which should foreclose any argument that he falls within the limited class of highly ranked corporate insiders as to whom the doctrine could apply.5 B. Plaintiffs Have Not Adequately Pied Scienter as to Mr. Barnaba.
Under the PSLRA, a plaintiff must "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); see
5 Reliance on a defendant's misstatement or omission is a required element of a claim under § 10(b). Basic Inc. v. Levinson, 485 U.S. 224, 243 (1988); Berckeley Inv. Group, Ltd. v. Colkitt, 455 F.3d 195 (3d Cir. 2006) ("In order to establish reliance, or transaction causation, a Section 10(b) plaintiff must prove that but for the fraudulent misrepresentation, the investor would not have purchased or sold the security.") (internal quotations and citations omitted). But because Plaintiffs have not alleged that Mr. Barnaba made a statement or omission, they likewise have not alleged that they relied on a statement by him in deciding to purchase or sell C&A securities. Indeed, one of the Supreme Court's reasons for holding in Central Bank that § 10(b) does not cover aiding and abetting was that otherwise "the defendant could be [held] liable without any showing that the plaintiff relied upon the aider and abettor's statements or actions." CentralBank, 511 U.S. at 180. Similarly, Plaintiffs have not met the PSLRA's requirement to prove that a particular defendant's act or omission caused the loss for which the plaintiff seeks to recover damages. See 15 U.S.C. § 78u-4(b)(4); Dura Pharm., Inc. v. Broudo, 544 U.S. 336 (2005). Under Dura, a loss must be directly tied to exposure of a company's fraudulent inflation of its securities. Id. Here, Plaintiffs weakly attempt to establish "loss causation" as to all defendants, including Mr. Barnaba, in one paragraph, in which they allege "as direct and proximate result of these Defendants' wrongful conduct, Collins & Aikman suffered damages in connection with its sales of securities and the issuance of the materially false and misleading statements alleged herein." (Compl. ¶ 157). Plaintiffs do not allege, however, how anything Mr. Barnaba, a non-speaker, did or said was a direct or proximate cause of its losses and therefore have not alleged "loss causation" with respect to him.
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also In reAdvanta Corp. Sec. Litig., 180 F.3d 525,530 (3d Cir. 1999), which for a § 10(b) claim is "'a mental state embracing an intent to deceive, manipulate or defraud.'" In re IKON Office Solutions, Inc. Sec. Litig., 277 F.3d 658, 667 (3d Cir. 2002) (quoting Ernst & Ernst, 425 U.S. at 193 n. 12). Moreover, "boilerplate and conclusory allegations will not suffice" to establish scienter. In re Burlington Coat Factory Sec. Litig., 114 F.3d 1410, 1418 (3d Cir. 1997). Instead, as the Supreme Court just decided in Tellabs, "in determining whether the pleaded facts give rise to a 'strong' inference of scienter, the court must take into account plausible opposing inferences." 127 S. Ct. at 2509. In other words, "the inference ofscienter must be more than merely 'reasonable' or 'permissible' - it must be cogent and compelling, thus strong in light of other explanations. A complaint will survive, we hold, only if a reasonable person would deem the inference of scienter cogent and at least as compelling as any opposing inference one could draw from the facts alleged." Id. at 2510. A plaintiff may establish a "strong inference" that the defendants acted with scienter by "either (a) alleging facts to show that defendants had both motive and opportunity to commit fraud, or (b) by alleging facts that constitute strong circumstantial evidence of conscious misbehavior or recklessness." GSC Partners CDO Fund v. Washington, 368 F.3d 228, 237 (3d Cir. 2004) (citing In re Burlington, 114 F.3d at 1418). Here, Plaintiffs have failed to allege either as to Mr. Barnaba. 1. PlaintifJ~ Have Not Alleged that Mr. Barnaba Had Motive or Opportunity to Commit Fraud.
Motive must be supported by facts stated "with particularity," and must give rise to a "strong inference" of scienter. In re Advanta, 180 F.3d at 535; 15 U.S.C. § 78u-4(b)(2). "'Blanket assertions of motive and opportunity' will not suffice, and 'catch-all allegations that defendants stood to benefit from wrongdoing and had the opportunity to implement a fraudulent
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scheme are no longer sufficient, because they do not state facts with particularity or give rise to a strong inference of scienter.'" GSC Partners, 368 F.3d at 237 (quoting In re Advanta, 180 F.3d at 535). Moreover, "[m]otives that are generally possessed by most corporate directors and officers do not suffice; instead, plaintiffs must assert a concrete and personal benefit to the individual defendants resulting from this fraud." Id. (citing Kalnit v. Eichler, 264 F.3d 131, 139 (2d Cir. 2001)). Such insufficient motives include increasing company stock price or executive compensation, making the business appear to be profitable, and retaining one's position on the board of directors. Kalnit, 264 F.3d at 139-140 (citing cases); see also San Leandro Emergency Med. Group Profit Sharing Plan v. Philip Morris Cos., 75 F.3d 801,813-14 (2d Cir. 1996) (finding defendants' desire to maintain the company's high bond or credit rating insufficient to allege motive). Allowing such genetic motives to substantiate an intent to defraud would mean that "virtually every company in the United States that experiences a downturn in stock price could be forced to defend securities fraud actions." Acito v. IMCERA Group, Inc., 47 F.3d 47, 54 (2d Cir. 1995). Here, Plaintiffs have wholly failed to plead either motive or opportunity as to the Director and Officer Defendants as a group, much less as to Mr. Barnaba specifically. For example, Plaintiffs do not allege that any of the Officer and Director Defendants, including Mr. Barnaba, personally sold Company stock on the basis of material undisclosed information, an allegation which courts have held to be sufficient in certain circumstances to establish scienter. E.g., In re Burlington, 114 F.3d at 1424 (holding that plaintiffs may establish a strong inference of scienter if they allege insider trades "made at times and in quantities that were suspicious enough" to support such an inference). Nor do Plaintiffs allege that any of the Officer and Director Defendants, including Mr. Barnaba, were compensated on the basis of the activities alleged in
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the Complaint. In fact, Plaintiffs do not use the word "motive" even once in their 215-paragraph Complaint. As to opportunity, the bulk of Plaintiffs' allegations concern purported improper accounting. See, e.g., Compl. '~148-52, 90-97, 53-58, 98-102. But the Complaint contains no allegations that Mr. Barnaba was an accountant, had accounting responsibility, or communicated with the Company's auditors. Nor does the Complaint, other than through impermissible grouppled allegations, allege that Mr. Barnaba was involved in drafting the Company's statements or ever reviewed them prior to issuance. As noted, the Complaint mentions Mr. Barnaba only once, in a short paragraph naming his positions in C&A's plastics division. Compl. ¶ 13. There are simply no allegations specific to Mr. Barnaba that he ever participated in C&A's allegedly incorrect accounting decisions or public statements. Given these failings and the strictures of the PSLRA, Plaintiffs have not pled a strong inference of scienter via motive or opportunity. 2. Plaintiffs Have Not Alleged Strong Circumstantial Evidence of Recklessness or Intentional Misconduct by Mr. Barnaba.
Nor have Plaintiffs established scienter by the alternative means of alleging strong circumstantial evidence of recklessness or intentional conduct. See GSC Partners, 368 F.3d at 237. Further, because they have not pled (or even attempted to plead) motive and opportunity, the strength of their allegations indicating conscious behavior would need to be correspondingly greater in order to establish scienter. See id. at 238 (citing Kalnit, 264 F.3d at 142). As with motive and opportunity, Plaintiffs may not plead a strong inference of recklessness or intentional misconduct "with conclusory assertions that the defendants acted 'knowingly.'" In re Advanta, 180 F.3d at 539. Instead, because the PSLRA requires Plaintiffs to plead scienter with particularity, they "must support their allegations with the essential factual background that would accompany 'the first paragraph of any newspaper story - that is the who,
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what, when, where and how of the events at issue.'" GSC Partners, 368 F.3d at 239 (quoting DiLeo v. Ernst & Young, 901 F.2d 624, 627 (7th Cir. 1990)). In this context, a reckless statement is one "'involving not merely simple, or even inexcusable negligence, but an extreme departure from the standards of ordinary care, and which presents a danger of misleading buyers or sellers that is either known to the defendant or so is obvious that the actor must have been aware of it.'" In re Advanta, 180 F.3d at 535 (citing McLean v. Alexander, 599 F.2d 1190, 1197 (3d Cir. 1979)). Plaintiffs have failed utterly to plead recklessness or intentional conduct with particularity here. As noted several times, Plaintiffs mention Mr. Barnaba by name only once, and then only to list his positions at the Company. Compl. ¶ 13. The numerous allegations as to "Defendants" or the "Director and Officer Defendants" are no substitute for alleging specific facts establishing Mr. Barnaba