Free Opening Brief in Support - District Court of Delaware - Delaware

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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, DAVID A. STOCKMAN, et al., Defendants. ) ) ) ) ) ) ) ) ) ) )

C.A. No. 07-265-SLR-LPS Electronically Filed

OPENING BRIEF IN SUPPORT OF DEFENDANT PAUL C. BARNABA'S MOTION TO DISMISS PLAINTIFFS' FIRST AMENDED COMPLAINT

Thomas G. Macauley (ID No. 3411) ZUCKERMAN SPAEDER LLP 919 Market Street, Suite 990 Wilmington, DE 19801 (302) 427-0400 Telephone (302) 427-8242 Fax Laura Neish, Esq. (admitted pro hac vice) ZUCKERMAN SPAEDER LLP 1540 Broadway, Suite 1604 New York, NY 10036 (212) 704-9600 Telephone (212) 704-4256 Fax

Carl S. Kravitz, Esq. (admitted pro hac vice) Lenora Miles Rigby, Esq. (admitted pro hac vice) ZUCKERMAN SPAEDER LLP 1800 M Street, N.W., Suite 1000 Washington, D.C. 20036 (202) 778-1800 Telephone (202) 822-8106 Fax

Attorneys for Defendant Paul Barnaba Dated: April 28, 2008 Wilmington, Delaware

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TABLE OF CONTENTS NATURE AND STAGE OF PROCEEDINGS .........................................................................1 SUMMARY OF ARGUMENT .................................................................................................1 STATEMENT OF FACTS ........................................................................................................5 I. THE TRUST HAS FAILED TO STATE A CLAIM AGAINST MR. BARNABA UNDER EXCHANGE ACT SECTION 10(b) AND RULE 10b-5 ..........9 A. The Trust Fails To Allege That Mr. Barnaba Engaged in Conduct Constituting a Primary Violation of Section 10(b) .............................9 1. 2. 3. The Trust Does Not Allege That Mr. Barnaba Made a Statement.........9 The Group Pleading Doctrine Is No Longer Viable............................10 Mr. Barnaba's Alleged Behind-the-Scenes Conduct Is Not Actionable Under Section 10(b)...........................................................11 A Section 10(b) Claim Against Mr. Barnaba Based on the Same Conduct Alleged Was Dismissed for Failure To State a Claim...........14

4.

B. C. D.

The Trust Cannot Allege Reliance on Its Own False Statements....................16 The Trust Has Not Alleged a Loss..................................................................17 The Trust Fails To Plead Scienter as to Mr. Barnaba .....................................19 1. The Trust Has Not Alleged That Mr. Barnaba Had Motive or Opportunity To Commit Fraud ............................................................20 The Trust Has Not Alleged Strong Circumstantial Evidence of Recklessness or Intentional Misconduct by Mr. Barnaba ...................22 Other Inferences of Non-Fraudulent Intent from the Facts Alleged Preclude Finding a Strong Inference of Scienter as to Mr. Barnaba ................................................................................23

2.

3.

II.

THE TRUST HAS FAILED TO STATE A CLAIM AGAINST MR. BARNABA UNDER EXCHANGE ACT SECTION 14(a) AND RULE 14a-9.........24 A. The Trust Does Not Allege That Mr. Barnaba Made a Material Misrepresentation or Omission in a Proxy Statement......................................24

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B.

The Trust Cannot Sue for False Statements in C&A's Own Proxy Materials ..........................................................................................................26 The First Amended Complaint Also Does Not Allege an "Essential Link" Between the Proxy Statements and the Alleged Damage................................27 The Trust Has Not Adequately Pled That Mr. Barnaba Acted with Negligence with Respect to the Proxy Statements ..........................................28

C.

D.

III.

THE COURT SHOULD DECLINE TO EXERCISE JURISDICTION OVER THE STATE LAW CLAIMS AGAINST MR. BARNABA.......................................29 THE TRUST FAILS TO STATE A CLAIM FOR COMMON LAW FRAUD AGAINST MR. BARNABA .......................................................................................30 A. The Trust Fails to Allege That Mr. Barnaba Made a Material Misstatement or Omission ...............................................................................30 The Trust Cannot Allege Reliance on a Misstatement or Omission by Mr. Barnaba ................................................................................31 The Trust Cannot Establish Damages..............................................................32 The Fraud Claim Is Barred by the Doctrine of In Pari Delicto .......................33

IV.

B.

C. D. V.

THE FIRST AMENDED COMPLAINT FAILS TO STATE A CLAIM THAT MR. BARNABA VIOLATED FIDUCIARY DUTIES.......................................................34 A. Mr. Barnaba Did Not Owe Fiduciary Duties as a Director or Officer of Collins & Aikman ...........................................................................34 Even If Mr. Barnaba Could Be Considered an Officer of the Company Following His 2004 Promotion at the End of 2004, He Did Not Violate Any Fiduciary Duties ...................................................................35 1. The First Amended Complaint Fails to Allege Breaches of the Duty of Loyalty or Due Care Against Mr. Barnaba ......................35 The Trust Does Not State a Claim for a Violation of the Duty of Good Faith Against Mr. Barnaba....................................................37

B.

2.

VI.

THE UNJUST ENRICHMENT CLAIM MUST BE DISMISSED BECAUSE THE TRUST DOES NOT ALLEGE THAT MR. BARNABA RECEIVED A BENEFIT OR THAT C&A SUSTAINED A RELATED LOSS ............................39

CONCLUSION........................................................................................................................40 ii

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TABLE OF AUTHORITIES

CASES In re Advanta Corp. Sec. Litig., 180 F.3d 525 (3rd Cir. 1999) .......................................................................................................22 AES v. Corp. v. Dow Chem. Co., No. Civ. A. 99-673-JJF, 2001 WL 34367296, at *3 (D. Del. Jan. 19, 2001) .............................13 Albert v. Alex. Brown Mgmt. Serv., Inc., No. Civ.A. 762-N, Civ.A. 763-N, 2005 WL 2130607, 11 (Del. Ch. Aug. 26, 2005)...........31, 40 Anixter v. Home-Stake Prod. Co., 77 F.3d 1215 (10th Cir.1996) .......................................................................................................9 Ash v. GAF Corp., 723 F.2d 1090 (3d Cir. 1983)......................................................................................................27 In re Astea Int'l Inc. Secs. Litig., Civ. Act. No. 06-1467, 2007 WL 2306586, at *18 (E.D. Pa. Aug. 9, 2007)..............................22 Avis Budget Group v. California State Teachers Retirement System, 128 S. Ct. 1119 (2008) ...............................................................................................................14 Bond Opportunity Fund v. Unilab Corp., No. 99 Civ. 11074(JSM), 2003 WL 21058251, at *3 (S.D.N.Y. May 9, 2003).............25, 28, 29 Brehm v. Eisner, 7 46 A.2d 244 (Del. 2000) .............................................................................................................36 In re Burlington Coat Factory Sec. Litig., 114 F.3d 1410 (3d Cir. 1997)..........................................................................................19, 20, 21 Burnett v. Rowzee, Nos. DACV 07-0393 DOC (ANx), SACV 02-0641 DOC, 2008 WL 638503 (C.D. Cal. Feb. 11, 2008) ............................................................................................................................14 In re Caremark Int'l Inc. Derivative Litig., 698 A.2d 959 (Del. Ch. 1996).....................................................................................................37 Cede & Co. v. Technicolor, Inc., 634 A.2d 345 (Del. 1993). ..........................................................................................................35

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Cent. Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164 (1994),.....................................................................................................................9 In re Charter Commc's, Inc., Sec. Litig., 443 F.3d 987 (8th Cir. 2006) ................................................................................................12, 13 Ciro, Inc. v. Gold, 816 F. Supp. 253 (D. Del. 1993).................................................................................................30 Citron v. Fairchild Camera & Instrument Corp., 569 A.2d 53 (Del. 1989) .............................................................................................................36 In re Citx Corp., Inc., 448 F.3d 672 (3d Cir. 2006)....................................................................................................2, 18 In re Collins & Aikman Corp., et al., No. 05-55927-swr, 2008 WL 859220 (Bkrtcy. E.D. Mich. Apr. 1, 2008) ...................................8 In re Color Tile Inc., 475 F.3d 508 (3d Cir. 2007)...............................................................................32 DCV Holdings, Inc. v. Conagra, Inc., 889 A.2d 954 (Del. 2005) .....................................................................................................30, 31 DeBakey Corp. v. Raytheon Serv. Corp., No. 14947, 2000 WL 1273317, at *25 (Del. Ch. Aug. 25, 2000)...............................................31 Diceon Elecs. Inc. v. Calvary Partners, L.P., 772 F. Supp. 859 (D. Del. 1992)...........................................................................................26, 27 In re Digital Island Sec. Litig., 223 F. Supp. 2d 546 (D. Del. 2002)............................................................................................25 DiLeo v. Ernst & Young, 901 F.2d 624 (7th Cir. 1990) ......................................................................................................22 Gen Elec. Co. v. Cathcart, 980 F. 2d 927 (3d Cir. 1992)........................................................................................................3, Globis Capital Partners, L.P. v. Stonepath Group, Inc. 241 F. App'x 832 (3d Cir. 2007) ................................................................................................20 Gould v. American-Hawaiian S.S. Co., 535 F.2d 761 (3d Cir. 1976.........................................................................................................25

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GSC Partners CDO Fund v. Washington, 368 F.3d 228 (3d Cir. 2004)............................................................................................19, 20, 22 Guttman v. Huang, 823 A.2d 492 (Del. Ch. 2003)...............................................................................................37, 38 Howard v. Everex Sys., Inc., 228 F.3d 1057 (9th Cir. 2000) ......................................................................................................9 In re IKON Office Solutions, Inc. Sec. Litig., 277 F.3d 658 (3d Cir. 2002)........................................................................................................19 J.I. Kislak Mortg. Corp. of Del. v. William Matthews Builder., Inc., 287 A.2d 686 (Del. Super. 1972)..........................................................................................31, 32 Jackson Nat'l Life Ins. Co. v. Kennedy, 741 A.2d 377 (Del. Ch. 1999).....................................................................................................39 Kalnit v. Eichler, 264 F.3d 131 (2d Cir. 2001)..................................................................................................21, 22 Katz v. Image Innovations Holdings, Inc., No. 06 Civ. 3707 (ANx), (JGK), 2008 WL 762105 (S.D.N.Y. Mar. 24, 2008) ...................13, 14 Lazard Debt Recovery GP, LLC v. Weinstock, 864 A.2d 955 (Del. Ch. 2004).....................................................................................................34 Levine v. Metal Recovery Techs., Inc., 182 F.R.D. 102 (D. Del. 1998) ...................................................................................................13 Mainstay High Yield Corp. Bond Fund v. Heartland Indus. Partners, L.P., Case No. 07-10542 (E.D. Mich.) ....................................................................................3, 4, 8, 14 Malone v. Brincat, 722 A.2d 5 (Del. 1998) ...............................................................................................................37 McCabe v. Ernst & Young LLP, 494 F.3d 418 (3d Cir. 2007)........................................................................................................17 Merrill v. Crothall-Am., Inc., 606 A.2d 96, 10 (Del. 1992) .......................................................................................................32 Metro Commc'n Corp. BVI v. Advanced Mobilecomm Techs. Inc., 854 A.2d 121 (Del. Ch. 2004).....................................................................................................37

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Mills v. Elec. Auto-Lite Co., 395 U.S. 375 (1970)....................................................................................................................27 Morschbach v. Household Int'l, Inc., No. Civ.A.01-262 GMS, 2002 WL 187514, at *5 (D. Del. Feb. 6, 2002)..................................39 Novak v. Kasaks, 216 F.3d 300, 309 (2d Cir. 2000)................................................................................................22 Official Comm. of Unsecured Creditors v. R.F. Lafferty & Co., Inc., 267 F.3d 340 (3d Cir. 2001)........................................................................................................33 In re Parmalat Sec. Litig., 501 F. Supp. 2d 560 (S.D.N.Y. 2007....................................................................................14, 40 Pugh v. Tribune Co., __ F.3d __, Nos. 06-3898, 06-3909, 2008 WL 867739 (7th Cir. Apr. 2, 2008)..................13, 14 Queen City Pizza, Inc. v. Domino's Pizza, Inc., 124 F.3d 430 (3d Cir. 1997)........................................................................................................29 Rattner v. Bidzos, No. Civ. A. 19700, 2003 WL 22284323, at *12 (Del. Ch. Oct. 7, 2003) ...................................38 Regents of the Univ. of Cal. v. Credit Suisse First Boston (USA), Inc., 482 F.3d 372 (5th Cir. 2007) ......................................................................................................12 In re Reliance Sec. Litig., 135 F. Supp. 2d 480 (D. Del. 2001).................................................................................... passim Robbins v. Banner Indus., Inc., 285 F. Supp. 758 (S.D.N.Y. 1966)..............................................................................................24 In re Rockefeller Ctr. Props., Inc. Sec. Litig., 184 F.3d 280 (3d Cir. 1999)....................................................................................................7, 19 Rochelle v. Marine Midland Grace Trust Co. of New York, 535 F.2d 523 (9th Cir. 1976) ................................................................................................18, 40 Santa Fe Indus., Inc. v. Green, 430 U.S. 462 (1977)...............................................................28, 29 Satellite Fin. Planning Corp. v. First Nat'l Bank of Wilmington, 633 F. Supp. 386(D. Del. 1986)............................................................................................16, 26 SEC v. Collins & Aikman, 524 F. Supp. 2d 477 (S.D.N.Y. 2007).........................................................................................15 iv

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Simpson v. AOL Time Warner Inc., 452 F.3d 1040 (9th Cir. 2006) ....................................................................................................13 In re Sofamor Danek Group, Inc., 123 F.3d 394 (6th Cir. 1997)...............................................................................9 Steinman v. Levine, No. Civ.A.19107, 2002 WL 31761252, at *13 (Del. Ch. Nov. 27, 2002)..................................37 Stephenson v. Capano Dev., Inc., 462 A.2d 1069 (Del. 1983) .........................................................................................................30 Stoneridge Inv. Partners LLC v. Scientific-Atlanta, Inc., 128 S. Ct. 761 (2008).......................................................................................................... passim Studebaker Corp. v. Gittlin, 360 F.2d 692 (2d Cir. 1966)........................................................................................................27 Tellabs, Inc. v. Makor Issues & Rights, Ltd. 127 S. Ct. 2499, 2509 (2007)................................................................................................20, 23 Trenwick Am. Litig. Trust v. Ernst & Young, L.L.P., 906 A.2d 168 (Del. Ch. 2006)............................................................................................. passim In re Tyson Foods, Inc. Sec. Litig., 155 F. App'x 53 (3d Cir. 2005). .........................................................................................3, 9, 10 Virginia Bankshares, Inc. v. Sandberg, 501 U.S. 1083 (1991)..................................................................................................................28 Winer Family Trust v. Queen, 503 F.3d 319 (3d Cir. 2007)..................................................................................................11, 20 Wright v. Ernst & Young, LLP, 152 F.3d 169 (2d Cir. 1998)..........................................................................................................9 Ziemba v. Cascade Int'l, Inc., 256 F.3d 1194 (11th Cir. 2001) ....................................................................................................9

STATUTES 15 U.S.C. § 78j(b), Securities Exchange Act of 1934 § 10(b).............................................1, 2, 4, 9 15 U.S.C. § 78n(a), Securities Exchange Act of 1934 § 14(a). ........................................ 1, 2, 3, 23 v

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15 U.S.C. § 78u-4, Securities Exchange Act of 1934 § 21D.......................................10, 19, 23, 25 28 U.S.C. § 1367............................................................................................................................29 REGULATIONS Exchange Act Rule 10b-5, 17 C.F.R. § 240.10b-5 ..........................................................................1 Exchange Act Rule 14a-9, 17 C.F.R. § 240.14a-9...............................................................1, 23, 26

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NATURE AND STAGE OF PROCEEDINGS Plaintiff, the Collins & Aikman Litigation Trust (the "Trust" or "Plaintiff"), filed this action "as successor to Collins & Aikman Corporation and its subsidiary debtors pursuant to the First Amended Plan of Reorganization of Collins & Aikman Corporation ("C&A" or the "Company") and its Debtor subsidiaries dated July 9, 2007." First Amended Complaint ("FAC") ¶ 5. In that capacity, the Trust stands in the shoes of C&A and purports to assert claims by the Company against Defendant Paul C. Barnaba for 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 fraud, breach of fiduciary duty and unjust enrichment. Mr. Barnaba is hereby moving to dismiss all of these claims with prejudice. SUMMARY OF ARGUMENT Mr. Barnaba was not a director or officer of C&A at any relevant time, but rather a midlevel employee in C&A's Purchasing Department. Nor was he an owner of C&A or alleged to have been related to Heartland in any way. Nor was Mr. Barnaba an accountant or is he alleged to have made any of the Company's allegedly improper accounting decisions. Mr. Barnaba did not sign any of the Company's public filings or proxy materials and is not alleged to have drafted, prepared or reviewed any of the false financial statements supposedly contained in those documents. Nor is he alleged to have made any of the other allegedly false statements identified in the FAC (all of which are attributed to others), much less any in connection with the only purchase or sale of a security mentioned in the FAC (the $415 million "August [2004] Senior Note Offering"). See FAC ¶ 71. Instead, Mr. Barnaba allegedly assisted in obtaining certain rebates from C&A's suppliers that C&A's accountants then used to improperly inflate the Company's financial 1

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results, by recognizing the rebates currently rather than in future periods. The faulty accounting, in turn, was the basis for the false financials statements that the Trust complains of in this case. A. The Federal Securities Claims Against Mr. Barnaba Must Be Dismissed. 1. The Trust's Federal Securities Claims Under Exchange Act §§ 10(b) and 14(a) Are Structurally Defective. (a) The Litigation Trust Is Not a Proper Plaintiff To Assert the Claims.

The Trust, because it stands in the shoes of C&A and is asserting the Company's claims, is in substance complaining that it was harmed by its own false statements. Under § 10(b), reliance is a required element. The Company cannot, as a matter of law, have relied on

statements made in its own public filings, and on its behalf by its top executives, that it knew, according to the allegations of the FAC, were false. Under § 14(a), shareholders have an implied cause of action for false statements in a company's proxy materials. But there is no such cause of action for a company to sue its own directors, officers and employees for false statements in its own proxy materials, as the Trust has done here. (b) The Trust Has Not Alleged a Legally Cognizable Loss That Was Caused by or Was an Essential Link to the Alleged Misconduct.

Under § 10(b), a plaintiff must establish "loss causation" ­ namely, that it suffered a loss actually caused by the alleged misconduct. Here, the Trust claims that the Company, by

misrepresenting its financial results, was able to borrow $415 million dollars in August 2004 that it would not otherwise have been able to borrow. C&A allegedly kept itself afloat longer, and "increased its debt load" by borrowing the money. Beyond the facts that the Company did not suffer any loss (it benefited by selling the notes and obtaining the proceeds) and selling the notes did not even increase the Company's debt load (the proceeds were used to retire existing debt), "deepening insolvency," the harm alleged, is not a legally cognizable theory of damages under Third Circuit law. In re Citx Corp., Inc., 448 F. 3d 672, 677-78 (3d Cir. 2006). The Trust, in 2

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short, has not alleged any legally cognizable loss caused by the alleged accounting improprieties and false statements. Under § 14(a), a plaintiff must allege that false proxy materials were an "essential link" to its damage. Here, the Trust claims that its false proxy statements helped re-elect the

Company's executives, who then continued to mismanage the Company's assets. The Third Circuit, however, has squarely rejected a § 14(a) claim based on that theory of damage, holding that in those circumstances the harm is too attenuated to satisfy the "essential link" test. Gen. Elec. Co. v. Cathcart, 980 F. 2d 927, 932 (3d Cir. 1992). 2. In Any Event, The Litigation Trust's Specific Allegations As To Mr. Barnaba Do Not State Federal Securities Claims Against Him. (a) There Are Additional Reasons Why the Section 10(b) Claim Must Be Dismissed.

First, under established Third Circuit law, in a false statements case such as this one, only the person who actually makes the false statement ­ by drafting, preparing or reviewing ­ can be held liable. In re Tyson Foods, Inc. Sec. Litig., 155 F. App'x 53, 56 (3d Cir. 2005). Because Mr. Barnaba is not alleged to have drafted, prepared or reviewed, or otherwise made, the allegedly false statements, he did not engage in any conduct prohibited by the statute. Instead, the Trust alleges that he assisted in obtaining certain rebates from C&A's suppliers that were then used by C&A's accountants to falsely inflate the Company's financial statements. But the Supreme Court confirmed earlier this year in Stoneridge Inv. Partners, LLC v. Scientific Atlanta, 128 S. Ct. 761, 770 (2008), that such behind-the-scenes conduct leading to a false statement is "too remote" to be actionable under § 10(b), even when challenged by a proper plaintiff. In so holding, the Court in Stoneridge made clear that the outcome is no different if the plaintiff alleges that the defendant was a participant in a "scheme to defraud," as the Trust attempts to do here. As a result, in Mainstay High Yield Corporate Bond Fund v. Heartland Indus. Partners, 3

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LP, Case No. 2:07-cv-10542 (E.D. Mich.) (Complaint attached to Appendix as Exhibit A), a case brought by a class of investors who purchased the notes offered by C&A in August 2004 ­ i.e., proper plaintiffs as opposed to the Trust ­ against most of the same defendants for the same accounting improprieties and false statements, the district court dismissed the § 10(b) claim against Mr. Barnaba. (Order attached to Appendix as Exhibit B). Second, the § 10(b) claim must be dismissed because the Trust has not alleged scienter with the required particularity as to Mr. Barnaba. (b) There Are Additional Reasons Why the § 14(a) Claim Must Be Dismissed.

First, as would be required to state a claim, the Trust does 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. Second, the Trust avers broadly that an unnamed number of proxy statements issued over a three-year period were misstated in an unspecified way and does not meet the PSLRA's specificity requirements. Third, the Trust does not plead with particularity the requisite strong inference of negligence as to Mr. Barnaba. B. The Common Law Claims Against Mr. Barnaba Must Be Dismissed.

Because the federal claims must be dismissed, this Court should decline to exercise supplemental jurisdiction over the state claims and dismiss those claims on that basis. They also must be dismissed on the merits. 1. Common Law Fraud

The common law fraud claim suffers from the same defects as the federal claims: namely, (i) Mr. Barnaba did not make any of the alleged false statements concerning C&A's finances (making such a misrepresentation is an element of common law fraud); (ii) the Trust is again complaining of C&A's own false statements, by which C&A (including its board) could 4

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not have been deceived and upon which C&A could not have relied, because C&A knew they were false; and (iii) the Trust has not alleged a legally cognizable damage that it suffered as a proximate result of the misrepresentations ("deepening insolvency," the only harm alleged, has been rejected in Delaware). In addition, the common law fraud claim is barred by the doctrine of in pari delicto, because Mr. Barnaba's alleged fraud was committed in the course of his employment, at the direction of C&A's CEO, for the benefit of C&A. 2. Breach of Fiduciary Duty

The Trust has not stated a claim against Mr. Barnaba because he was not an officer or director of C&A and therefore did not owe fiduciary duties to the Company's shareholders. He allegedly became a divisional vice president for the last few months he was at the Company, but is not listed as an officer or director of the Company in C&A's public filings. Even if Mr. Barnaba had been an officer, there is no claim because the FAC does not allege self-dealing in violation of the duty of loyalty, does not allege a failure to disclose in violation of the duty of care, and does not allege that Mr. Barnaba had responsibility over C&A's financial statements, such that omissions in them violated his duty of good faith. 3. Unjust Enrichment

The unjust enrichment claim fails because the Litigation Trust has not alleged that Mr. Barnaba received any benefit from his activities at C&A, or that C&A sustained a related loss. STATEMENT OF FACTS The Trust alleges that, beginning in 2001, C&A, along with the major automakers and other parts manufacturers, was coming under "increasing competitive threats and adverse business conditions" and that "[b]y early 2002, these negative factors were dramatically depressing the Company's financial results ...." FAC ¶¶ 37-38. The gravamen of the FAC is that the Company, in response, engaged in a "variety of fraudulent schemes" intended to conceal 5

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and misrepresent the true state of the Company's finances. FAC ¶ 39. The FAC alleges that these "fraudulent schemes" were all directed, controlled, and known by the Company's CEO, David Stockman, and its other top executives. E.g., FAC ¶¶ 39, 70. First, the Trust alleges that between the fourth quarter of 2001 and the first quarter of 2003, defendants "Stockman, Stepp and others acting at their direction" engaged in fraudulent "round-trip" transactions with Joan Fabrics, Inc., a company controlled by defendant McCallum. FAC ¶¶ 53-57. Second, it alleges that between 2002 and 2004, "Defendants caused or allowed" the Company to account improperly for rebates from the Company's suppliers. FAC ¶¶ 58-69. Specifically, it alleges that C&A agreed to future price reductions and improperly booked the rebates in the then-current quarters, or purchased capital equipment for inflated prices and received the difference back as a "rebate." FAC ¶ 61. Finally, the Trust alleges 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"). FAC ¶¶ 74-75. Mr. Barnaba, however, is alleged to have participated only in the "rebate" transactions. Specifically, the Trust alleges that he "promised future business" in exchange for rebates, FAC ¶ 60, "directed other Collins & Aikman employees to solicit [] false documents from suppliers" that had been drafted by the Company's CFO, FAC ¶ 62, and "directed and participated in the scheme to treat discounts on capital equipment as rebates," FAC ¶ 67. Plaintiff does not, and could not, allege that Mr. Barnaba, a non-accountant, made or even participated in any of the allegedly improper accounting decisions. Nor is there any allegation that Mr. Barnaba's behindthe-scenes conduct was communicated to investors.

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The Trust alleges that because of the accounting improprieties resulting from these three schemes, C&A misrepresented its financial results. In particular, it alleges that the Company's SEC filings from late 2001 through early 2005, August 2004 offering memorandum, and proxy statements from 2002 through 2004 contained false and misleading statements. FAC ¶¶ 92-94. It alleges further that, in 2005, "Stockman and others" made false statements on multiple occasions to investors, FAC ¶¶ 84, 87, and that C&A's press releases twice contained false and misleading statements. FAC ¶¶ 80-82, 86. Plaintiff does not allege that Mr. Barnaba drafted, prepared, or reviewed the Company's public filings or press releases. Nor does it allege that he made, or indeed had anything to do with, any of the other false statements identified in the FAC. Although the FAC identifies a number of allegedly false statements by the Company and by individuals other than Mr. Barnaba, the FAC alleges that false statements were made in connection with the purchase or sale of only one security: the "$415 million in 12,875 % Senior Subordinated Notes due 2021 (the `August Senior Note Offering')". FAC ¶ 73. It alleges that "Stockman, Stepp and Cosgrove participated in drafting the marketing materials relating to the sale of the notes," id., but makes no allegation that Mr. Barnaba participated in any way. The Trust asserts that the proceeds of the notes sale "increased the Company's debt load and prolonged the life of the already insolvent Company." FAC ¶ 184. In fact, C&A's Q3 2004 10Q, attached to Appendix as Exhibit C, establishes that the note sale did not increase the Company's debt load, because the proceeds were used to retire outstanding debts.1 (Offering Memorandum and 10-Q, respectively).

The Court may rely on a company's public filings referred to in a complaint in considering a motion to dismiss. In re Rockefeller 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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The FAC, finally, alleges that Mr. Barnaba "served as the Director of Financial Analysis for the Company's Purchasing Department (the third ranking position in the Purchasing Department) from April 2002 to December 2004, when he became Vice President and Director of Purchasing for the Plastics Division, a position he held until April 2005." FAC ¶ 11. Even though this description makes clear that Mr. Barnaba was at most a mid-level manager, whose assignment was to the Purchasing Department, the remainder of the FAC improperly 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. Contrary to the way the Trust bundles Mr. Barnaba is bundled with Mr. Stockman and the other top executives, Mr. Barnaba did not even obtain the title of divisional vice president until several months after the August Senior Note Offering. And even though he attained that divisional title in December 2004, public filings referenced in the FAC 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), In re Collins & Aikman Corp., et al., No. 05-55927-swr, 2008 WL 859220 (Bankr. E.D. Mich. Apr. 1, 2008) (same). (Excerpts from these public filings attached to

Appendix as Exhibits D through G, respectively). Finally, the purchasers of the notes from the August Senior Note Offering sued Mr. Barnaba and the other individual defendants in the Mainstay case in Michigan, complaining of the same misrepresentations. Because of Mr. Barnaba's position, and because he did not sign any public filings, the district court dismissed the claims against him. If the investors cannot sue

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Mr. Barnaba under the federal securities laws, the entity that actually made the misrepresentations certainly cannot do so. I. THE TRUST HAS FAILED TO STATE A CLAIM AGAINST MR. BARNABA UNDER EXCHANGE ACT SECTION 10(b) AND RULE 10b-5. A. The Trust Fails To Allege that Mr. Barnaba Engaged in Conduct Constituting a Primary Violation of Section 10(b). 1. The Trust Does Not Allege That Mr. Barnaba Made a Statement.

The Trust alleges that the Director and Officer Defendants, including Mr. Barnaba, violated § 10(b) because they "caused Collins & Aikman to issue materially false and misleading statements" and Collins & Aikman "sold securities in reliance on [those] materially false and misleading statements." FAC ¶¶ 182, 184. In Central Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164, 199 n.10 (1994), the Supreme Court held that there is no private cause of action for aiding and abetting under § 10(b) and that only "primary violators" can be held liable under the statute. Following Central Bank, all courts of appeals that considered the issue held that, in cases involving false statements, only the person who actually makes the statement, or at a minimum has intricate involvement in its drafting and properties, can be held liable as a primary violator. In re Tyson Foods, Inc. Sec. Litig., 155 F. App'x 53, 56 (3d Cir. 2005); Wright v. Ernst & Young, LLP, 152 F.3d 169, 175 (2nd Cir. 1998), cert. denied, 525 U.S. 1104 (1999); In re Sofamor Danek Group, Inc., 123 F.3d 394, 400 (6th Cir. 1997); Howard v. Everex Sys., Inc., 228 F.3d 1057, 1061 (9th Cir. 2000); Anixter v. Home-Stake Prod. Co., 77 F.3d 1215, 1225-27 (10th Cir. 1996); Ziemba v. Cascade Int'l, Inc., 256 F.3d 1194, 1204-06 (11th Cir. 2001). As the Second Circuit said, "anything short of [actually making the false statement] is merely aiding and abetting, and ... is not enough to trigger liability under Section 10(b)." Wright v. Ernst & Young, 152 F.3d at 175 (internal quotations omitted). 9

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In Tyson Foods, the Third Circuit said that it did not have to decide between the Second Circuit's more restrictive test for making the statement (attributed to the defendant at the time of dissemination) and the Ninth Circuit's test (intricate involvement in drafting and preparation), because either way, "make" the statement. 155 F. App'x at 56-57. It held the defendants there could not 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 issue the releases themselves. Id. at 57. Here, as in Tyson Foods, the Trust does not allege that Mr. Barnaba drafted, edited or signed C&A's public filings (or accompanying press releases). Nor does it allege that he had any role in the direct presentations to investors. Indeed, with respect to the August Senior Note Offering in 2004, the only misrepresentations allegedly made in connection with the purchase or sale of a security, and therefore the only misrepresentations that even theoretically could give rise to a claim, it specifically alleges that the misrepresentations were made by individuals others than Mr. Barnaba. FAC ¶ 71. Because he is alleged only to have acted behind the scenes in the supposed "rebate scheme," and is not alleged to have "made" a statement, Mr. Barnaba cannot be held liable under § 10(b). Tysons Foods, 155 F. App'x at 58-59. 2. The Group Pleading Doctrine Is No Longer Viable.

The Trust cannot plead around the fact that Mr. Barnaba did not make any statement identified in the FAC by relying on the "group pleading doctrine." That doctrine, when it was recognized, created a judicial presumption at the pleading stage that a company's public filings are the collective work of a limited class of high-ranking executives and thereby relieved the plaintiff of the obligation to attribute particular misrepresentations to particular defendants. The Private Securities Litigation Reform Act of 1995 ("PSLRA"), however, requires that each misrepresentation be plead with specificity as to "the defendant." 15 U.S.C. § 78u-4(b)(2)

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(emphasis added). Like the other courts of appeals that have addressed the issue, the Third Circuit has held that "the group pleading doctrine is no longer viable in private securities actions after the enactment of the PSLRA." Winer Family Trust v. Queen, 503 F.3d 319, 337 (3d Cir. 2007). As a consequence, the Trust's group allegations that all the "Officer and Director Defendants" made statements are legally ineffective, and the fact that Mr. Barnaba did not make any of false statement identified in the FAC is fatal to the § 10(b) claim. 3. Mr. Barnaba's Alleged Behind-the-Scenes Conduct Is Not Actionable Under Section 10(b).

Moreover, the Supreme Court's recent decision in Stoneridge Inv. Partners LLC v. Scientific-Atlanta, Inc., 128 S. Ct. 761, 771 (2008), confirms that Mr. Barnaba cannot be held liable under § 10(b) for his alleged behind-the-scenes participation in the "rebate scheme," even if that conduct ultimately led to a false statement. In Stoneridge, Respondents Scientific-Atlanta and Motorola allegedly participated in a scheme to inflate Charter Communications' revenues. Respondents entered into sales

agreements with Charter in which Charter agreed to overpay them for set top cable boxes, with the understanding that they would later repay the overcharge by purchasing advertising from Charter. Id. at 766. Respondents and Charter created documentation, such as backdated

contracts, designed to give the false appearance that the set top purchases and advertising sales were unrelated, allowing Charter to report the advertising sales as revenue and inflate its earnings in violation of accounting rules. Id. The petitioner in Stoneridge, an investor in Charter, sued Scientific-Atlanta and Motorola under § 10(b) on the theory that they "engaged in conduct with the purpose and effect of creating a false appearance of material fact to further a scheme to misrepresent Charter's revenue." Id. at 770. Scientific-Atlanta and Motorola, however, did not make any of the false statements that 11

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allegedly inflated the price of Charter's stock. Those misrepresentations were made by Charter. The Supreme Court, assuming that the allegations of the complaint were true, affirmed the district court's dismissal, holding that the petitioner could not have relied on the respondents' (Scientific-Atlanta and Motorola) conduct and that it was too remote for liability: Respondents had no duty to disclose; and their deceptive acts were not communicated to the public. No member of the investing public had knowledge, either actual or presumed, of respondents' deceptive acts during the relevant times. Petitioner, as a result, cannot show reliance upon any of respondents' actions except in an indirect chain that we find too remote for liability. Id. at 769. Like the defendants in Stoneridge, Mr. Barnaba's supposed involvement in obtaining rebates ­ or promis[ing] "future business to suppliers in exchange for immediate recognition of rebates," FAC ¶ 60; obtaining false rebate letters drafted by others FAC ¶ 62; and "direct[ing] other Collins & Aikman employees to solicit the false documents from suppliers." (FAC ¶ 60) ­ allegedly was done for the purpose of inflating C&A's financials and ultimately led to misrepresentations by the Company. The Trust, however, does not allege Mr. Barnaba's conduct was known to or relied upon by the public, and this alleged behind-the-scenes conduct is precisely the type that the Supreme Court said in Stoneridge "was too remote for liability." In Stoneridge the petitioner tried to avoid this defect by arguing that the defendants could be liable merely for participating in a "scheme to defraud." The Supreme Court rejected the argument and held that alleging participation in a scheme "does not answer the objection that [plaintiffs] did not in fact rely upon [the defendants'] own deceptive conduct." Stoneridge, 128 S.Ct. at 770.2 For that same reason, the Trust cannot convert Mr. Barnaba's behind-the-scenes

2

The Third Circuit had not yet specifically addressed the viability of "scheme liability" before Stoneridge, but two of the three circuits that had considered the theory had rejected it. Regents of the Univ. of Cal. v. Credit Suisse First Boston (USA), Inc., 482 F.3d 372, 386-90 (5th Cir. 2007); In re

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conduct, which was plainly several steps short of actually making a statement, into actionable conduct by labeling it as participation in a scheme to defraud. Nor can Stoneridge be distinguished on the ground that Mr. Barnaba was an employee of C&A, whereas the defendants in Stoneridge were business counter-parties of Charter. Both Mr. Barnaba and the Stoneridge defendants are alleged to have engaged in conduct that was used by accountants to generate false financial statements. Indeed, in the three months since Stoneridge was decided, the case has been applied by the Seventh Circuit and at least two district courts to dismiss § 10(b) claims against insider defendants who allegedly participated in fraudulent schemes within the companies for which they worked. Pugh v. Tribune Co., __ F.3d __, Nos. 06-3898, 06-3909, 2008 WL 867739 (7th Cir. Apr. 2, 2008); Katz v. Image Innovations Holdings, Inc., No. 06 Civ. 3707 (ANx), (JGK), 2008 WL 762105 (S.D.N.Y. Mar. 24, 2008); Burnett v. Rowzee, Nos. SACV 07-0393 DOC (ANx), SACV 07-0641 DOC, 2008 WL 638503 (C.D. Cal. Feb. 11, 2008). In Pugh, purchasers of Tribune Company common stock brought federal securities claims alleging that two subsidiaries of Tribune, the newspapers Newsday and Hoy, falsely boosted their circulation figures in order to increase the amount they were able to charge advertisers, thereby inflating Tribune's revenues. 2008 WL 867739 at *1. Among the plaintiffs' claims was one

Charter Commc's, Inc., Sec. Litig., 443 F.3d 987, 992 (8th Cir. 2006)), aff'd sub nom. Stoneridge, 128 S. Ct. 761. The Ninth Circuit had approved a very narrow version of the doctrine, but the Supreme Court vacated the judgment and remanded in light of Stoneridge and the Ninth Circuit then vacated its opinion. Simpson v. AOL Time Warner Inc., 452 F.3d 1040, 1048 (9th Cir. 2006), judgment vacated sub nom Avis Budget Group v. Cal. State Teachers Ret. Sys,, 128 S. Ct. 1119 (2008), opinion vacated 519 F.3d 1041 (9th Cir. 2008). Nonetheless, previous decisions by this Court permitted § 10(b) claims premised upon participation in an alleged "scheme" or "conspiracy" to defraud. E.g., AES v. Corp. v. Dow Chemical Co., No. Civ. A. 99-673-JJF, 2001 WL 34367296, at *3 (D. Del. Jan. 19, 2001); Levine v. Metal Recovery Techs., Inc., 182 F.R.D. 102, 106 (D. Del. 1998); Levine v. Metal Recovery Techs., Inc., 182 F.R.D. 112, 114-115 (D. Del. 1998). Mr. Barnaba respectfully submits that this Court's decisions are no longer valid precedent after Stoneridge.

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under § 10(b) against Defendant Sito, the publisher of Hoy, who allegedly "participated in (and was the `mastermind' of) the scheme to defraud the investors." Id. at *7. Citing Stoneridge, the Seventh Circuit affirmed the dismissal of the § 10(b) claim against Sito: Sito may have foreseen (or even intended) that the advertising scheme would result in improper revenue for Newsday and Hoy, which would eventually be reflected in Tribune's revenues and finally published in its financial statements. But Stoneridge indicates that an indirect chain to the contents of false public statements is too remote to establish primary liability. Id. (emphasis added). Here, Mr. Barnaba's participation in the allegedly fraudulent rebate scheme is minimal as compared to Defendant Sito's, who was alleged to have been the "mastermind" of the advertising scheme. But even setting the degree of Mr. Barnaba's participation aside, his alleged backstage conduct is simply "too remote" from the contents of C&A's false public statements for him to be held liable under § 10(b). See also Katz, 2008 WL 762105, at *3 (under Stoneridge, dismissing § 10(b) claims against insider defendants who allegedly participated in fraudulent scheme because purchasers of the company's stock could not have relied on their conduct); Burnett, 2008 WL 63805, at *5 (dismissing § 10(b) claim against Halstead, the owner and controller of a company that Halstead used as part of a PIPES scheme to defraud investors, because Halstead's allegedly deceptive acts were not relied upon by investor plaintiffs to purchase securities). 4. A Section 10(b) Claim Against Mr. Barnaba Based on the Same Conduct Alleged Was Dismissed for Failure To State a Claim.

The result in Mainstay High Yield Corp. Bond Fund v. Heartland Industrial Partners, L.P., Case No. 07-10542 (E.D. Mich.), further confirms that dismissal is appropriate. In

Mainstay, purchasers of the "2004 Senior Note Offering" ­ i.e., proper plaintiffs, as opposed to the Trust ­ sued most of the same defendants for the same accounting improprieties and false 14

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statements. Just as the Trust does here, the Mainstay plaintiffs alleged that Mr. Barnaba helped obtain "false side letters" from C&A's suppliers (Mainstay Compl. ¶¶ 83, 84, 85, 89, 97, 98) and that Mr. Barnaba "participated in a scheme" masterminded by C&A's highest ranking corporate officers, including Mr. Stockman, to inflate C&A's earnings in violation of GAAP, by recognizing rebates as a reduction of current costs, rather than accounting for the savings later (Mainstay Compl. ¶ 83). Mr. Barnaba moved to dismiss, arguing that he could not be held liable because he did not sign or participate in any of C&A's public filings (i.e., did not make a statement), and because under Stoneridge, his conduct, even if part of an indirect chain to the allegedly false statements, was too remote for liability. On March 18, 2008, the district court dismissed the § 10(b) claim as to Mr. Barnaba from the bench, noting that he "was not an officer. He didn't sign anything. And while he may have participated in the side letters, he had no duty to disclose." Transcript of Motion to Dismiss Complaint Hearing at 57-58, Mainstay (argued Mar. 18, 2008) (transcript excerpt attached to Appendix as Exhibit H). Just as in the present case, the allegations in Mainstay that Mr. Barnaba participated in a behind-the-scenes scheme were insufficient to state a claim under § 10(b). If the § 10(b) claim does not lie for an investor who purchased securities based on the Company's misrepresentations ­ a proper plaintiff ­ it certainly does not lie for the Company, suing on its own misrepresentations.3

The Securities and Exchange Commission has also filed claims against Mr. Barnaba, including under § 10(b), which the United States District Court for the Southern District of New York declined to dismiss. SEC v. Collins & Aikman, 524 F. Supp. 2d 477 (S.D.N.Y. 2007). The Southern District Court held that because the SEC was not required to show reliance, the required standard of conduct for a private cause of action (i.e., that the defendant "make" a statement) did not apply to the SEC. Id. at 490, 495. While Mr. Barnaba disagrees with Southern District's holding, it has no bearing on the claims asserted here because the Trust is a private plaintiff and must allege reliance.

3

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B.

The Trust Cannot Allege Reliance On Its Own False Statements.

The FAC alleges in the § 10(b) count that the Director and Officer Defendants "caused Collins & Aikman to issue materially false and misleading statements," FAC ¶ 183, and that "Collins & Aikman sold securities in reliance on Director and Officer Defendants' materially false and misleading statements . . . ." FAC ¶ 184. C&A cannot have been misled by these statements, however, because the FAC further alleges that C&A's CEO, Mr. Stockman, and CFO, Mr. Cosgrove, "directed Collins & Aikman employees to falsely inflate the Company's reported income," FAC ¶ 62, and that the Director and Officer defendants should have known that the Company's statements were false or misleading. FAC ¶ 189. It is axiomatic that the knowledge of a company's officers and directors is imputed to the company through ordinary principles of agency. E.g., Satellite Fin. Planning Corp. v. First Nat. Bank of Wilmington, 633 F. Supp. 386, 400 (D. Del. 1986) ("Knowledge and actions of a corporation's agent ordinarily are imputed to the corporation when the agent acts on the corporation's behalf.") Thus, because the FAC alleges that the Company's highest ranking officers directed that its reported income be inflated, and that the Officers and Directors knew that the Company made false and misleading statements, C&A allegedly had knowledge as a matter of law. Therefore, C&A (including its successor, the Trust) could not have been deceived and cannot claim to have relied on the allegedly false statements. Trenwick Am. Litig. Trust v. Ernst & Young, L.L.P., 906 A.2d 168 (Del. Ch. 2006), illustrates the point. There, the Delaware Court of Chancery rejected a similar fraud claim asserted by the litigation trust of the bankrupt Trenwick America against the company's directors. The Court of Chancery held the claim "ma[de] no sense" as to the directors because the company could not have relied on their purported misstatements. Id. at 211. The Court explained: 16

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By the Litigation Trust's own admission, Trenwick America's board of directors knew the true facts about all the issues said to have been misrepresented. As a result, Trenwick America ­ as an entity ­ did not rely to its detriment on any of the misstatements ... To the extent the Litigation Trust is referring to Trenwick America, its statement makes no sense because the complaint alleges that those who controlled Trenwick America knew the statements were inaccurate. Id. at 211-12. As in Trenwick, the Trust's § 10(b) claim is doomed as a matter of law because it alleges that the "those who controlled [C&A] knew the statements were inaccurate." Indeed, in the present case, the Trust alleges those who controlled C&A directed that the statements be inaccurate. E.g., FAC ¶¶ 62, 64, 67. Under these circumstances, C&A knew that its statements were false and could not have relied upon them, which in itself provides an independent reason to dismiss. Stoneridge, 128 S.Ct. at 769 (holding reliance "is an essential element"). C. The Trust Has Not Alleged a Loss.

The Trust's § 10(b) claim also fails because it has not alleged a loss. To plead a claim under § 10(b), a plaintiff must show that its loss flowed from the alleged misrepresentations or omissions and not from other sources, a requirement known as "loss causation." Dura Pharm., Inc. v. Broodo, 544 U.S. 344-45, (2005). In other words, the "plaintiff must show that the defendant misrepresented or omitted the very facts that were a substantial factor in causing the plaintiff's economic loss." McCabe v. Ernst & Young LLP, 479 F.3d 418, 426 (3d Cir. 2007). The Trust alleges that C&A was damaged because it "sold securities in reliance on the Director and Officer Defendants' materially false and misleading statements" and C&A "used the proceeds [of the securities] to prop up and sustain a business that was hemorrhaging cash." FAC ¶ 184. The only securities sale described in the FAC is the "August Senior Note Offering [in 2004]." FAC ¶ 71. In essence, then, the Trust claims that C&A's own false statements allowed it to raise $415 million through the sale of notes that it otherwise would not have been 17

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able to sell, thereby causing it to incur additional debt. The Ninth Circuit rejected a similar theory of loss in Rochelle v. Marine Midland Grace Trust Co. of New York, where the trustee of a bankrupt company, Sunset, alleged it was injured when the defendants misrepresented the company's financial health in order to secure loans that the company was unable to pay. 535 F.2d 523 (9th Cir. 1976). The Ninth Circuit held that because Sunset received the full value of the amount of the loans, it suffered no loss on the transactions in question. Id. at 528-29. See also In re Parmalat Sec. Litig., 501 F. Supp. 2d 560, 574 (S.D.N.Y. 2007) (citing Rochelle). The same conclusion applies here. To escape this obvious problem, the Trust alleges a "deepening insolvency" theory ­ namely, that the sale of notes "increased the Company's debt load and prolonged the life of the already insolvent Company." FAC ¶ 184. "Deepening insolvency," however, cannot support a § 10(b) claim because the Third Circuit has rejected it as an independent theory of damages. In re Citx Corp., Inc., 448 F.3d 672, 677-78 (3d Cir. 2006). In Citx, the court held that while "deepening insolvency" had been recognized as a valid cause of action under certain state laws (not Delaware)4, it "should not be interpreted to create a novel theory of damages for an independent cause of action..." Id. at 677. Put another way, "deepening insolvency," the only loss alleged, is not a viable damages theory under Third Circuit law for an independent claim such as the one alleged under § 10(b). Our research has not unearthed a single case where a deepening insolvency theory of damages was held sufficient to support a claim under the federal securities laws. Moreover, even if "deepening insolvency" were a cognizable damages theory, which it is not, the Trust cannot establish that the sale of the Notes in 2004 increased C&A's debt load, an

4

The Delaware Court of Chancery rejected the doctrine in Trenwick Am. Litig. Trust v. Ernst & Young, L.L.P., 906 A.2d 168, 174 (Del. Ch. 2006).

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allegation that would be essential to the theory. See Citx, 448 F.3d at 677 (defining deepening insolvency as "an injury to a debtor's corporate property from the fraudulent expansion of corporate debt and prolongation of corporate life") (citations omitted). C&A's 93 2004 10-Q indicates that $400.1 million of the proceeds from the August 2004 Senior Notes were used to redeem $400 million in Senior Notes due to be paid by C&A in 2006 (Exhibit C at 9).5 These documents prove that C&A's debt load was not increased and therefore, would defeat any allegation of deepening insolvency.6 D. The Trust Fails To Plead 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), 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 v. Hochfelder, 425 U.S. 185, 193 n.12 (1976)). 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). Under Third Circuit precedent, 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."

As discussed supra at n.1, this Court may consider public filings referred to in the Complaint on a motion to dismiss. In re Rockefeller, 184 F.3d at 293.
6

5

Not only has the Trust failed to allege that it suffered a loss, it has failed to allege a loss proximately caused by the alleged misstatements or omissions in the 2004 Note Offering. First, for the reasons stated in Mr. Stepp's Brief in Support of Motion to Dismiss, C&A's insolvency was actually caused by the declining economic conditions in the automotive parts supply industry. Second, whatever economic impact C&A suffered after the 2004 Notes Sale flowed from the business decision of C&A's Board and management, not the Notes Sale, as addressed in Mr. Stockman's Brief in Support of Motion to Dismiss.

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GSC Partners CDO Fund v. Washington, 368 F.3d 228, 237 (3d Cir. 2004) (citing Burlington, 114 F.3d at 1418). But as the Supreme Court recently held in Tellabs, Inc. v. Makor Issues & Rights, Ltd., a court must consider whether "all of the facts alleged, taken collectively, give rise to a strong inference of scienter, not whether any individual allegation, scrutinized in isolation meets that standard." 127 S. Ct. 2499, 2509 (2007); see also Winer Family Trust v. Queen, 503 F.3d 319, 327 (3d Cir. 2007) (quoting Tellabs). Further, "in determining whether the pleaded facts give rise to a `strong' inference of scienter, the court must take into account plausible opposing inferences." Id. In other words, "the inference of scienter 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. In the words of the Third Circuit, `"The Court's Tellabs decision removes any doubt the PSLRA's scienter pleading requirement is a significant bar to litigation....'" Winer Family, 503 F.3d at 326 (quoting Globis Capital Partners, L.P. v.

Stonepath Group, Inc. 241 F. App'x. 832, 837 (3d Cir. 2007). 1. The Trust Has Not Alleged That Mr. Barnaba Had Motive or Opportunity To Commit Fraud.

"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 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 (citation omitted). 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 20

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defendants resulting from this fraud." Id. (citing Kalnit v. Eichler, 264 F.3d 131, 139 (2d Cir. 2001)). Here, the Trust has wholly failed to plead either motive or opportunity as to Mr. Barnaba. For example, the FAC does not allege that any of the Officer and Director Defendants, including Mr. Barnaba, personally sold Company stock on the basis of material undisclosed information. See 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 does the Trust allege that any of the Officer and Director Defendants, including Mr. Barnaba, were compensated on the basis of the activities alleged in the FAC. In fact, the Trust does not use the word "motive" even once in its 246paragraph First Amended Complaint. As to opportunity, the bulk of the allegations concern purported improper accounting. See, e.g., FAC ¶¶ 70-73. But the FAC contains no allegations that Mr. Barnaba was an

accountant, had accounting responsibility, or communicated with C&A's auditors. Instead, the FAC suggests that Mr. Barnaba was involved in "improperly recognizing rebates" along with Messrs. Stockman, Stepp, and Cosgrove.7 But the allegations that Mr. Barnaba "recognized" rebates are belied by Mr. Barnaba's positions at C&A ­ Director of Financial Analysis for the Purchasing Department, followed by a Vice President and the Director of Purchasing for that division for less than six months, FAC ¶ 58 ­ which do not indicate that he had any accounting responsibility. Nor does the FAC, other than through impermissible group-pled allegations, allege that Mr. Barnaba was involved in drafting the Company's statements or ever reviewed
7

FAC ¶ 58. See also ¶ 62 ("Stockman, Stepp, Cosgrove and Barnaba used the side letters to prematurely recognize the rebates in the Company's financial records and financial statements."); ¶ 62 ("Stockman, assisted by Cosgrove and Barnaba, directed and participated in the scheme to treat discounts on capital equipment as rebates.").

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them prior to issuance.8 Given these failings and the strictures of the PSLRA, the Trust has not pled a strong inference of scienter via motive or opportunity. 2. The Trust Has Not Alleged Strong Circumstantial Evidence of Recklessness or Intentional Misconduct by Mr. Barnaba.

Nor has the Trust 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 it has not pled motive and opportunity, the strength of its 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 opportuni