Aca Financial Guaranty Corp. v. Advest, Inc.

• Citation: 512 F.3d 46
• Decision Date: 10 January 2008
• Docket Number: No. 07-1367.,07-1367.
• Parties: ACA FINANCIAL GUARANTY CORPORATION; Dryden National Municipals Funds, Inc.; John Moore; Lois Moore; Smith Barney Income Funds/Smith Barney Municipal High Income Fund; T. Rowe Price Tax-free High Yield Fund, Inc., Plaintiffs, Appellants, Denise McKeown; Robert Lutts, Plaintiffs, v. ADVEST, INC.; Karen Sughrue; Garry Crago; Jean Childs; Paula Edwards Cochran; G. Davis Stevens, Jr.; Julia Demoss; William R. Dill; Leslie A. Ferlazzo; Joyce Shaffer Fleming; Eric W. Hayden; Catherine Chapin Kobacher; Anne Marcus; Celeste Reid; Richard J. Sheehan, Jr.; Joseph Short; Gregory E. Thomas; Susan K. Turben; Donald W. Kiszka, Defendants, Appellees.
• Court: United States Courts of Appeals. United States Court of Appeals (1st Circuit)

512 F.3d 46

ACA FINANCIAL GUARANTY CORPORATION; Dryden National Municipals Funds, Inc.; John Moore; Lois Moore; Smith Barney Income Funds/Smith Barney Municipal High Income Fund; T. Rowe Price Tax-free High Yield Fund, Inc., Plaintiffs, Appellants, Denise McKeown; Robert Lutts, Plaintiffs, v. ADVEST, INC.; Karen Sughrue; Garry Crago; Jean Childs; Paula Edwards Cochran; G. Davis Stevens, Jr.; Julia Demoss; William R. Dill; Leslie A. Ferlazzo; Joyce Shaffer Fleming; Eric W. Hayden; Catherine Chapin Kobacher; Anne Marcus; Celeste Reid; Richard J. Sheehan, Jr.; Joseph Short; Gregory E. Thomas; Susan K. Turben; Donald W. Kiszka, Defendants, Appellees.

No. 07-1367.

United States Court of Appeals, First Circuit.

Heard November 7, 2007.

Decided January 10, 2008.

[512 F.3d 51]

Michael Tabb with whom Greene & Hoffman, P.C. was on brief for appellants.

Scott A. Roberts with whom Sullivan Weinstein & McQuay, P.C. was on brief for Karen Sughrue, Garry Crago, Jean Childs, Paula Edwards Cochran, G. Davis Stevens, Jr., Julia DeMoss, William R. Dill, Leslie A. Ferlazzo, Joyce Shaffer Fleming, Eric W. Hayden, Catherine Chapin Kobacher, Anne Marcus, Celeste Reid, Richard J. Sheehan, Jr., Joseph Short, Gregory E. Thomas, Susan K. Turben, and Donald W. Kiszka.

Jonathan L. Kotlier with whom Nutter McClennen & Fish LLP was on brief for Advest, Inc.

Before LYNCH, Circuit Judge, CAMPBELL and SELYA, Senior Circuit Judges.

LYNCH, Circuit Judge.

Bond purchasers brought suit alleging violations of federal securities laws in the May 1998 offering of bonds of Bradford College in Massachusetts. In January 2000, the college defaulted on its bond obligations. This suit was brought ten months later. The district court dismissed the amended complaint for failure to meet the pleading standards in the Private Securities Litigation Reform Act of 1995 ("PSLRA"), Pub.L. No. 104-67, 109 Stat. 737. McKeown v. Advest, Inc. (McKeown I), 2006 WL 2974154 (D.Mass. Sept.30, 2006). The district court also denied the plaintiffs' motion to vacate dismissal and plaintiffs' post-dismissal motion for leave to amend the complaint to address pleading deficiencies identified by the court. McKeown v. Advest, Inc. (McKeown II), 2006 WL 3842132 (D.Mass. Dec.29, 2006).

The plaintiffs,¹ purchasers and an insurer of Bradford bonds sold in May 1998 claim they were misled by the Official Statement accompanying the offering, which allegedly concealed Bradford's dire financial straits and inability to pay the bond debt. The allegations are against three sets of defendants: Joseph Short and Donald Kiszka, the former President and Vice President of Administration and Finance of the College, respectively (the "Officers"); sixteen members of the College's Board of Trustees² (the "Trustees"; together with the Officers, collectively the "Bradford defendants"); and Advest, Inc., the underwriter investment banking firm.

This is our first occasion to apply the Supreme Court's recent guidance regarding the standards for pleadings under the PSLRA in Tellabs, Inc. v. Makor Issues & Rights, Ltd., ___ U.S. ___, 127 S.Ct. 2499, 168 L.Ed.2d 179 (2007). Under Tellabs, certain principles are clear. Tellabs has altered this circuit's prior standard, as set forth in In re Credit Suisse First Boston Corp., 431 F.3d 36 (1st Cir. 2005), for determining the sufficiency of pleadings of scienter in securities fraud cases under Rule 12(b)(6). Tellabs affirms our case law that plaintiffs' inferences of scienter should be weighed against competing inferences of non-culpable behavior. See, e.g., Greebel v. FTP Software, Inc., 194 F.3d 185, 203 (1st Cir.1999). Tellabs also affirms our rule that the complaint is considered as a whole rather than piecemeal. See, e.g., In re Cabletron Sys., Inc., 311 F.3d 11, 40 (1st Cir.2002). Finally, we hold that under the reasoning of Tellabs, the PSLRA does not alter the liberal amendment policy of Federal Rule of Civil Procedure 15. And we stress again our disinclination to require allowance of amendment of complaints when there has been undue delay.

We affirm the district court's denial of the plaintiffs' post-dismissal motion to allow a belated second motion to amend the complaint.

Confining our analysis of the motion to dismiss to the amended complaint, we affirm dismissal. Although one of the allegations presents an arguable claim of misrepresentation as to the college's budget for financial aid spending in the 1998-1999 academic year, the pleadings are insufficient to establish the requisite scienter.

I.

In reciting the facts as alleged, we draw all reasonable inferences in the plaintiffs' favor. Bradford was established as a coeducational academy in 1803. After going through incarnations as a female academy and junior college, Bradford became a coeducational college in 1971. By the 1990s, Bradford became mired in persistent cash flow problems. In spite of increasing enrollment and a growing operational budget, Bradford had operating deficits every year from 1989 to 1997. Boosting enrollment became a critical goal for the college because tuition, room, board, and other student fees constituted the largest source by far of its operating revenues. Bradford's administration invested in educational and physical improvements designed to attract more students, raise revenues, and attain financial stability. Bradford financed these improvements in part with a $1.5 million loan from the United States Department of Education and a $5.4 million bond offering in 1995.

There were indications in 1997 that Bradford's fortunes might be on the upswing. In spite of admitting fewer students than in years past, the matriculation rate rose from 25% in 1996 to 34% in 1997, and the number of full-time enrolled students rose sharply in the fall of 1997. Meanwhile, the combined value of Bradford's endowment and investment portfolio increased 66% between June 1995 and June 1997.

On February 6, 1998, the Trustees voted to approve issuing another series of bonds both to help settle its debt and to finance a project designed to increase Bradford's residential capacity and, in turn, accommodate even higher levels of enrollment. The Trustees approved the sale of $17.9 million worth of bonds, which the college's underwriter Advest determined to be the college's maximum bonding capacity. The bonds would be secured solely by a lien on tuition receipts. By entering into the bond transaction, Bradford committed to paying over $1.2 million a year in debt service through 2028.

The Massachusetts Industrial Finance Agency ("MIFA") issued the bonds rather than the college. The offering was on May 1, 1998; the offering closed when the transaction documents were executed twelve days later. An Official Statement, prepared by Advest, Short, and Kiszka, and dated May 1, accompanied the offering. The Official Statement outlined the mechanics of the transaction and contained various qualifications and disclaimers. For instance, under the heading "Bondowners' Risks," the Statement provided that the college would be the sole source of repayment for the bonds, and disclaimed any assurance "that revenues will be realized by [Bradford] in the amount necessary to make payments . . . sufficient to pay the debt service on the [bonds]." The Statement noted specific risks to bondholders, including that the college's failure to meet self-proclaimed future enrollment targets could jeopardize its ability to support the debt. The Statement also noted as risk factors the college's ability to control "expenses, competition, costs, [and] the amount of financial aid awarded to students." Both the cover sheet and the main text of the Statement disclosed that Standard & Poor's had assigned a "BBB-"rating to the bonds — indicating the highest level of risk short of junk bond status.

The Official Statement also incorporated a series of appendices, the first of which was a document, signed by Short and Kiszka, containing information about Bradford's operations. The document specified that the college would use a portion of the proceeds from the 1998 bonds to refund the 1995 bonds. Most of the remainder of the proceeds would be used to pay for renovations to existing residence halls and construction of new residence facilities. The renovations and construction were projected to require two years and cost almost $15 million.

In addition to providing details about the proposed project, this appendix also presented selected statistics illustrating recent trends in enrollment, financial aid, the growth of Bradford's endowment and investments, and fund-raising. A section entitled "Accounting Matters" set out the college's analysis of some of those numbers as well as targets for future enrollment and financial aid levels. Significantly, the Official Statement expressly advised that the college was not certifying the accuracy of any "projections and opinions" in the Statement.

The next appendix contained Bradford's audited financial statements for fiscal years 1994 to 1997. The remaining appendices comprised various transaction documents including opinion letters and a continuing disclosure agreement. The Official Statement (including its appendices) is discussed in further detail below.

Bradford College failed to reach its benchmarks for increased student enrollment and reduced financial aid awards for the 1998-1999 school year, despite the promising numbers from 1997. A revenue shortfall forced the college to rely on donations and over $1.5 million from the endowment. In spite of the deficit, the college granted financial aid to 90% of students in 1998-1999. Because Bradford itself funded about half of all financial aid, such high aid levels represented a significant drain on the college's cash flow.

Bradford College never recovered. President Short resigned in the summer of 1998, to be followed by Kiszka a year later. In November 1999, the college announced that it would cease operations after the 1999-2000...