Opinion
99 Civ. 8589 (HB).
April 19, 2000.
OPINION ORDER
Plaintiffs, Sabratek Corporation and K. Shan Padda, bring this action against defendants Steven Alan Keyser a/k/a "Pluvia" and Mark Roberts for alleged violations of Section 10(b) of the Securities Exchange Act of 1934 and for defamation. Defendant Roberts moves to dismiss the claims against him pursuant to Federal Rule of Civil Procedure 12(b)(6) for failure to state a claim and pursuant to Rule 9(b) and Section 21D of the Securities Exchange Act of 1934 for failure to plead fraud with sufficient particularity. For the reasons discussed below, the defendant's motion is GRANTED.
BACKGROUND
The facts alleged in the complaint, taken as true for purposes of this motion, are as follows. Sabratek Corporation ("Sabratek") develops and markets technological medical devices for use by healthcare providers. (Compl. ¶ 12.) Sabratek's shares are publicly traded on the NASDAQ stock exchange under the symbol "SBTK." (Compl. ¶ 12.) K. Shan Padda ("Padda") co-founded Sabratek in 1989, is a major shareholder in the company, and has served as Sabratek's Chairman, Chief Executive Officer and Treasurer since 1993. (Compl. ¶ 13.)
The essence of plaintiffs' claims against defendant Mark Roberts ("Roberts") is that Roberts "short-sold" Sabratek stock and published false and defamatory statements regarding Sabratek and Sabratek's management, so as to manipulate the market and artificially depress the price of Sabratek stock and thereby profit on his investments. (Compl. ¶ 1-2.)
Short-selling occurs when a person sells stock borrowed from a broker, and later replaces the borrowed stock with newly purchased stock. Short selling can be profitable if the market price of the stock declines between the time the person sold the stock and the time he purchased the replacement stock.
Roberts owns and publishes an investment advisory newsletter, Off Wall Street, which is available to its subscribers for $30,000 per year, and his subscribers include numerous investment firms. According to the complaint, Roberts made false and defamatory statements about Sabratek and its management in four editions of the newsletter between March and June 1999, and also recommended a sale of the securities and predicted a low target price ($9 per share), despite the fact it was trading at a higher price. In the March 16, 1999 edition of the newsletter, Roberts referred to Sabratek management as "disingenuous" and "not credible", and remarked that "We think that it is more likely that Sabratek stuffed someone with [their product] to make a decent showing for the quarter" and that Sabratek was "using misleading numbers" concerning its net income. (Compl. ¶ 52.) Plaintiffs cite several other editions of Off Wall Street where Roberts made similar statements: in the April 4, 1999 edition, Roberts suggested that Sabratek was falsifying its sales figures; in the June 6, 1999 edition, Roberts stated that Padda was not credible; and in the June 27, 1999 edition, Roberts suggested that Sabratek management was incompetent or engaged in fraudulent activity. (Compl. ¶¶ 53-55.)
In addition, Roberts telephoned certain Sabratek shareholders and made allegedly false statements about Sabratek and Padda, and urged them to sell their Sabratek shares. Specifically, on June 4, 1999, Roberts telephoned Andrew Sandler, the principal of Sandler Capital and a Sabratek shareholder, and told him that Padda is a "pathological liar" and "that guy [Padda] is a fraud," and repeatedly referred to Sabratek as a fraud" (Compl. ¶ 43.) On June 8, 1999, Roberts telephoned Gregory Kiernan, another major shareholder, and stated that Padda is a "pathological liar" and that Padda's statements concerning Sabratek could not be trusted. Roberts told Kiernan that "I have a list of one hundred people you can call that will say that this guy [Padda] is a dirty liar," stated that Sabratek had announced deals that were a "complete fraud" in order to "pump the stock price," and urged Kiernan to sell his Sabratek shares. (Compl. ¶ 44.) Between April and June 1999, Roberts made several telephone calls to John Reilly, Sr. ("Reilly"), Sabratek's Chief Financial Officer. Roberts told Reilly that Padda is "the biggest pathological liar in the world", repeatedly urged Reilly to leave his job, and suggested to Reilly that he could get him a job as chief financial officer at another company. According to the complaint, Reilly has not at any time had any intention of leaving Sabratek. (Compl. ¶ 46.)
Plaintiffs further allege, upon information and belief, that on at least four separate occasions before and during the time when Roberts was making false statements about Sabratek and its management, Roberts engaged in short sales of Sabratek stock and, to conceal his short sales, Roberts conducted some or all of his sales through the firm of Rose Partners, L.P, ("Rose Partners"). (Compl. ¶ 40.) According to the complaint, Roberts is the general partner and registered agent for Rose Partners, and controls that entity. (Compl. ¶ 41.) By previously taking a short position on the stock, Roberts would thus profit from a decline in the stock's price. (Compl. ¶ 60-65.) These allegations are all based upon "investigation by counsel, which has included a review of relevant documents and interviews with persons who are not parties to this action."
Finally, Roberts allegedly provided a free copy of his newsletter to Melvyn Weiss, an attorney with the law firm of Milberg, Weiss, Bershad, Hynes Lerach LLP ("Milberg Weiss"), lead counsel for plaintiffs in a class action lawsuit against Sabratek. Roberts also sent Milberg Weiss a memorandum that falsely asserted Sabratek had engaged in improper practices with one of its distributors. (Compl. ¶ 59.) Plaintiffs contend that these publications of false and defamatory statements were intended by Roberts to drive down the price of Sabratek stock.
Plaintiffs allege that as a direct result of defendants' actions, Sabratek's stock price fell from $29 per share on June 3, 1999 to $19.625 per share on June 24, 1999, with a concomitant decline in Sabratek's market capitalization from approximately $285 million to approximately $125 million. (Compl. ¶ 71.) Further, between January 1999 and July 1999, the short interest in Sabratek stock increased from 2,383,685 shares to more than 3,600,000 shares. (Compl. ¶ 72.) Plaintiffs also allege that Sabratek's stock continues to trade at artificially depressed prices, (Compl. ¶ 73), and that defendant's actions eroded the equity value of Sabratek, which caused Sabratek to issue and sell larger amounts of its stock than it would otherwise have issued to realize its business goals. (Compl. ¶ 74.)
DISCUSSION
I. Standards for Motion to Dismiss
Dismissal of a complaint pursuant to Rule 12(b)(6) is permitted "only where it appears beyond doubt that the plaintiff can prove no set of facts in support of the claim which would entitle him to relief." Scotto v. Almenas, 143 F.3d 105, 109-10 (2d Cir. 1998). In deciding a Rule 12(b)(6) motion, the court's function is "`merely to assess the legal feasibility of the complaint, not to assay the weight of the evidence which might be offered in support thereof." Cooper v. Parsky, 140 F.3d 433, 440 (2d Cir. 1998) (quoting Ryder Energy Distribution Corp. v. Merrill Lynch Commodities, Inc., 748 F.2d 774, 779 (2d Cir. 1984)). Factual allegations made in the complaint are assumed to be true, and all inferences are drawn in favor of the plaintiff. Grandon v. Merrill Lynch Co., 147 F.3d 184, 188 (2d Cir. 1998). Further, the court can consider documents which are incorporated into the complaint by reference. See Newman Schwarz v. Asplundh Tree Expert Co., 102 F.3d 660, 661 (2d Cir. 1996); Brass v. American Film Technologies, Inc., 987 F.2d 142, 150 (2d Cir. 1993).
Securities fraud actions are also subject to Rule 9(b) of the Federal Rule of Civil Procedure, which sets forth additional pleading requirements for allegations of fraud and requires that "the circumstances constituting fraud . . . shall be stated with particularity." Fed.R.Civ.P. 9(b); See Shields v. Citytrust Bancorp Inc., 25 F.3d 1124, 1127 (2d Cir. 1994). Further, the Private Securities Litigation Reform Act of 1995 ("PSLRA") heightened Rule 9(b)'s requirement for pleading scienter. See 15 U.S.C. § 78u-4(b)(3)(A); see also Press v. Chemical Inv. Servs. Corp., 166 F.3d 529, 537-38 (2d Cir. 1998). To properly plead scienter, plaintiffs 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)(3)(A)).
II. Count II: Violations of Section 10(b) and Rule 10b-5
Section 10(b) of the Securities Exchange Act prohibits the use of "manipulative or deceptive" activities in connection with the purchase or sale of securities. See 15 U.S.C. § 78j(b). Rule 10b-5, promulgated pursuant to section 10(b), specifically delineates what constitutes a manipulative or deceptive practice. See 17 C.F.R. § 240.10b-5. Among other things, Rule 10b-5 provides that it "shall be unlawful . . . [t]o make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which they are made, not misleading." 17 C.F.R. § 240.10b-5(b).
To state a claim under section 10(b) and Rule 10b-5, plaintiff must allege that in connection with the purchase or sale of securities: (i) defendant made a false material representation or omitted to disclose material information; (ii) defendant acted with scienter; and (iii) plaintiff relied upon defendant's fraudulent actions to its detriment. Press, 166 F.3d at 534 (2d Cir. 1999); In re Time Warner Inc. Secs. Litig., 9 F.3d 259, 264 (2d Cir. 1993). As discussed above, plaintiffs must allege the first two elements — fraudulent acts and scienter — with particularity in order to meet the heightened pleading requirements of Rule 9(b) and the PSLRA. Based upon the stringent pleading requirements, I find that plaintiffs' complaint fails to meet these preliminary standards.
A. Fraud and Pleading on "Information and Belief"
Plaintiffs base certain allegations in their complaint upon "information and belief." Under Rule 9(b), pleadings that allege fraud cannot be based upon information and belief, except where matters are particularly within the adverse party's knowledge. Plaintiffs may utilize that exception only if they include "a statement of facts upon which [their] pleaded information and beliefs are founded." Leslie v. Minson, 679 F. Supp. 280, 282 (S.D.N.Y. 1988). Similarly, the PSLRA provides that "if an allegation regarding the statement or omission is made on information and belief, the complaint shall state with particularity all facts on which the belief is formed." 15 U.S.C. § 78u-4(b)(1).
As an initial matter, Plaintiffs argue that they need not meet this pleading standard because their claims are based on defendants' alleged market manipulation, relying on case law which holds that the specificity requirement is to be relaxed where there is "inherent difficulty in a plaintiff acquiring specific details on a hidden scheme at the pleading stage." See THC Inc. v. Fortune Petroleum Corp., 1999 WL 182593, *3 (S.D.N Y 1999). This argument is unavailing here because where the complaint alleges market manipulation based upon misrepresentations and omissions, such as the complaint here, the requirement of particularity clearly applies. See Schnell v. Conseco, Inc., 43 F. Supp.2d 438 (S.D.N.Y. 1999).
Plaintiffs' allegations regarding Roberts' short sales and other actions are based "upon the investigation conducted by and under the supervision of plaintiffs' counsel, which included reviewing and analyzing information obtained from numerous public and proprietary sources", as well as "a review of relevant documents" and "obtaining the statements of non-parties." (E.g., Compl. ¶¶ 16, 66.) These conclusory allegations provide scant, if any, specificity about the facts on which plaintiffs' base their beliefs. Specifically, the complaint fails to indicate with particularity any information about their counsel's investigation, including what information was reviewed and analyzed, what sources (public and proprietary) are relied upon, which non-parties were interviewed, what statements were made by the non-parties, or even what "relevant" or other documents were reviewed by counsel. See Crystal v. Foy, 80 Civ. 446, 1981 WL 1648 (S.D.N.Y. June 30, 1981) (complaint was deficient where it failed to delineate the specific documents, articles and reports relied upon by plaintiff). Plaintiffs' complaint fails to delineate the source of their allegations and, therefore, fails to meet the requisite standard of particularity.
Additionally, Roberts expressly provides notice to his subscribers in his newsletter: "Off Wall Street Consulting Group, Inc. hereby discloses that clients of Off Wall Street Consulting Group, Inc., and we the company, or our officers and directors, employees and relatives, may now have and from time to time have directly or indirectly a long or short position in the securities mentioned and may sell or buy such securities at any time."
In addition, plaintiffs allege that Roberts published an extremely low projected price for Sabratek stock, and the "only purpose" was to manipulate the market and create an artificially low price for Sabratek stock. (Compl. ¶ 56.) Without more, this general allegation is conclusory, and thus insufficient. Plaintiffs needed to provide some specificity as to the basis for this claim, other than mere conjecture that it had to be the "only purpose." Given the conclusory nature of plaintiffs' contentions and the lack of any specificity as to facts underlying their beliefs, plaintiffs allegations of fraud fail to meet the requisite particularity. See San Leandro Emergency Med. Group Profit Sharing Plan v. Phillip Morris Companies, Inc., 75 F.3d 801, 813 (2d Cir. 1996) (no "license to base" § 10(b) claims "on speculation and conclusory allegations") (citation and internal quotations omitted).
B. Scienter
Count II must also be dismissed given plaintiffs's failure to adequately allege scienter. The PSLRA raised the bar at the pleading stage and requires the allegation of facts that give rise to a strong inference of reckless behavior or conscious misconduct on behalf of the defendant. In re Glenayre Techs., Inc. Secs. Litig., 1998 WL 915907, *2 (S.D.N.Y. 1998), aff'd mem., No. 99-7125 (2d Cir., Jan. 12, 2000). Plaintiffs cannot base their claim on speculation, but must "allege facts that give rise to a strong inference of fraudulent intent." Chill v. General Electric Co., 101 F.3d 263, 267 (2d Cir. 1996). While facts alleging "motive and opportunity" do not suffice, standing alone, to raise the requisite strong inference of scienter, such facts can be relevant to the scienter analysis. See In re Glenayre, 1998 WL 915907 at *2, n. 3; In re Glenayre Techs., Inc. Secs. Litig., 982 F. Supp. 294, 298 (S.D.N.Y. 1997); In re Baesa Securities Litig., 969 F. Supp. 238 (S.D.N.Y. 1997).
The requisite scienter in securities fraud action is intent "to deceive, manipulate, or defraud," or knowing misconduct.Securities and Exch. Comm'n v. First Jersey Secs., Inc., 101 F.3d 1450, 1467 (2d Cir. 1996).
1. Motive and Opportunity
Plaintiffs, throughout the complaint, pair together factual statements and conclusory allegations of fraudulent intent. Prefaced by plaintiffs' common usage of "upon information and belief," the complaint states that Roberts caused Rose Partners to secretly short-sell Sabratek stock, and that Roberts' allegedly false statements caused the price of Sabratek stock to drop and greatly increased the value of Roberts' investment. (Compl. ¶ 16.) However, under the heightened standard of the PSLRA, these non-particularized allegations are insufficient to establish scienter. Plaintiffs essentially claim that Roberts, simply because he would profit it the stock fell, must have acted with the intent to depress stock prices. An alleged motivation to inflate stock prices does not provide the strong inference of scienter required under the PSLRA, and the reverse is equally true. See Garro Holding v. Nu-Tech, 1999 WL 4922 (S.D.N.Y. 1999);see also Acito v. Imcera Group, Inc., 47 F.3d 47, 54 (2d Cir. 1995) (desire to inflate the company stock in order to supplement their compensation was insufficient, as motive evidence, to establish securities fraud); Shields v. Citytrust Bancorp, Inc., 25 F.3d 1124, 1131 (2d Cir. 1994) (stock ownership in the subject company by executives insufficient basis to establish scienter);Sloane Overseas Fund, Ltd. v. Sapiens Intern. Corp., N.V., 941 F. Supp. 1369, 1377 (S.D.N.Y. 1996) (defendant's status as creditor, shareholder, and lead underwriter did not give rise to securities fraud claim). Defendant argues persuasively that the alleged, but undocumented short position of Rose Partners is not a sufficient motive to raise the requisite strong inference of scienter on the part of Roberts.
Further, plaintiffs' allegations fail to demonstrate Roberts' opportunity under the applicable standard. There are no allegations that Roberts had the ability to influence the market price of Sabratek stock, that he had the ability to cause the market price to decline, or that he dominated and controlled the market. All that is alleged is that Roberts made negative and allegedly false statements about Sabratek in his newsletter, which is read by its private subscribers, as well as statements to the four shareholders identified in the complaint. There is no allegation that any shareholders did in fact sell their shares or were influenced by Roberts' statements; indeed, plaintiff confirms that Reilly, Sabratek's CFO, had no intention of and has not left the company. Notably, the complaint also states that the stock price rose for a period, notwithstanding defendant's criticism of Sabratek in his newsletter. The increase in Sabratek's stock price is clearly reflected in the four editions of Off Wall Street relied upon by plaintiffs in their complaint, which demonstrates that the stock price traded at $16.13 per share in early April 1999 and rose as high as $29 per share by early June 1999.
2. Conscious Misbehavior or Recklessness
An inference of scienter can be established by alleging facts which constitute strong circumstantial evidence of conscious misbehavior or recklessness. Plaintiffs allege that Roberts expressed negative views of Sabratek in his financial newsletter, that he recommended to his clients that they take short positions on Sabratek stock or sell their stock, and that Roberts gave a free edition of Off Wall Street to counsel for Sabratek's adversaries engaged in a class action lawsuit. While plaintiffs have identified the alleged misrepresentations, what is lacking are particularized facts to support the inference that Roberts acted recklessly or with fraudulent intent in making these statements. Plaintiffs' conclusory allegations that Roberts' "only purpose" for his actions were to drive down the price of Sabratek stock do not satisfy the requisite pleading standards, and their allegations are "so broad and conclusory as to be meaningless." See Shields, 25 F.3d at 1129 (citing Decker v. Massey-Ferguson, Ltd., 681 F.2d 111, 119-20 (2d Cir. 1982).
III. Count IV: Defamation
In general, it is the responsibility of the jury to determine whether a plaintiff has actually been defamed. Levin v. McPhee, 119 F.3d 189, 195 (2d Cir. 1997). However, a threshold issue for the court to resolve is whether the alleged statements are reasonably susceptible of the defamatory meaning imputed to them.Id. This threshold inquiry is guided not only by the meaning of the words as they would be commonly understood, but by the words considered in the context of their publication. Id. While assertions of fact may form the basis of a defamation claim, expressions of opinion are not actionable. See Walther v. Maricopa International Investment, Corp., 1998 WL 689943, *2 (S.D.N.Y. 1998). To determine whether a statement is fact or opinion, the dispositive inquiry is "whether a reasonable reader could have concluded that the publications were conveying facts about the plaintiff." Gross v. New York Times Co., 82 N.Y.2d 146, 152-53 (1993). When the defendant's statements, read in context, are readily understood as conjecture, hypothesis, or speculation, this signals the reader that what is said is opinion, not fact.See id. at 154.
According to the complaint, Roberts stated to certain individuals that Padda is a "pathological liar," "the biggest pathological liar in the world," a "dirty liar," and further said that "that guy [Padda] is a fraud" and "I have a list of one hundred people you can call that will say that this guy is a dirty liar." (Compl. ¶¶ 43-45.) Such statements do not constitute defamatory statements of fact, rather, they are appropriately labeled hyperbole and opinion. In Ram v. Moritt, 205 A.D.2d 516 (2d Dep't 1994), the Appellate Division held that statements made regarding the plaintiff ("liar," a "cheat," and a "debtor") in the presence of patients in plaintiffs waiting room were not susceptible of a defamatory meaning; rather they constituted personal opinion and rhetorical hyperbole, not objective fact. Defendant also cites to Mr. Chow of New York v. Ste. Jour Azur S.A., 759 F.2d 219 (1985), which discusses numerous cases where language such as "blackmailing," "traitor," "deceiver," "exploiter," and "liar" were held to be hyperbole and not based in fact. These cases further demonstrate that Roberts' statements regarding Padda are mere hyperbole.
Further, Roberts' alleged statements m his newsletter, Off Wall Street, when viewed in context, are all appropriately characterized as statements of opinion. The court must "consider the publication as a whole," and "not pick out and isolate particular phrases." Davis v. Ross, 754 F.2d 80, 83 (2d Cir. 1985) (the meaning of a writing "depends not on isolated or detached statements but on the whole apparent scope and intent"); see also Brian v. Richardson, 87 N.Y.2d 46, 51 (N.Y. 1995) (courts are required to consider "the larger context in which the statements were published, including the nature of the particular forum"). Further, statements of opinion which disclose the facts on which they are based are not actionable. See Levin, 119 F.3d at 196. Based upon a review of the newsletters submitted to this court, it is clear that the statements made in Off Wall Street are supported by an analysis of Roberts' opinion, and that he disclosed the underlying facts and circumstances on which he based that opinion. Here, in reading the newsletters as a whole, the statements made by Roberts are preceded or followed by his reasoning for those beliefs.
Plaintiffs argue that the readers of Roberts' newsletter, which include several well-known investment managers, would not have dismissed his statements as mere hyperbole or "idle ranting"; rather, they could only disregard defendant's statements at their peril. However, plaintiffs have failed to provide this court with any facts to support this claim: no allegation is made that the well-known investment managers believed that they could only disregard these statements at their peril, nor is any allegation made to show that these alleged slanders affected their investment decisions. Moreover, each edition of his newsletter is prefaced with a statement that clearly informs the reader that the information presented includes "expressions of opinion" and that "such information is presented `as is', without warranty . . . as to the accuracy, timeliness, or completeness of the information."
CONCLUSION
Stephen Dallas, a third-year student at New York Law School, assisted in the research for and preparation of this opinion.
For the reasons set forth above, defendant Roberts' motion to dismiss Counts 2 and 4 of plaintiffs' complaint is GRANTED, with leave to replead Count 2 within thirty days. The Court will also dismiss Counts 1 and 3 of plaintiffs' complaint within thirty days, unless plaintiffs demonstrate to this Court by May 15, 2000 that service upon defendant Keyser was effected.
SO ORDERED.