Freedman v. Value Health, Inc.

• Decision Date: 20 March 2001
• Docket Number: No. CIV.A. 3-97CV2711.,No. CIV.A. 3-95CV2038.,CIV.A. 3-95CV2038.,CIV.A. 3-97CV2711.
• Citation: 135 F.Supp.2d 317
• Parties: Robert FREEDMAN, et al., Plaintiffs v. VALUE HEALTH, INC., et al., Defendants.
• Court: U.S. District Court — District of Connecticut

135 F.Supp.2d 317

Robert FREEDMAN, et al., Plaintiffs v. VALUE HEALTH, INC., et al., Defendants.

No. CIV.A. 3-95CV2038.

No. CIV.A. 3-97CV2711.

United States District Court, D. Connecticut.

March 20, 2001.

COPYRIGHT MATERIAL OMITTED

COPYRIGHT MATERIAL OMITTED

RULING ON DEFENDANTS' MOTIONS FOR SUMMARY JUDGMENT [DKT. NOS. 206, 211] AND PLAINTIFFS' MOTION FOR PARTIAL SUMMARY JUDGMENT [DKT. NO. 213]

HALL, District Judge.

This case is a consolidated class action securities fraud case arising out of the merger of Diagnostek, Inc. ("Diagnostek") and Value Health, Inc. ("Value Health"). The plaintiffs allege that corporate and individual defendants made a series of false and misleading statements about the two companies and their impending merger and that the defendants failed to disclose material information in the registration statement filed in connection with the merger. The actions were brought pursuant to the federal securities laws, the state laws of New Mexico, and the common law.

The defendants now move for summary judgment on all claims and the plaintiffs move for summary judgment on the Section 11 and Section 12(2) claims. For the reasons discussed below, the defendants' motions for summary judgment are granted and the plaintiffs' motion for summary judgment is denied.

I. FACTUAL BACKGROUND

The following facts are undisputed unless otherwise noted.

A. Parties

The merger between Diagnostek and Value Health resulted in the filing of two separate actions alleging similar claims. The first action, Freedman v. Value Health, et al., No. 3:95-CV-2038, was filed in the District of Connecticut [hereinafter Freedman action]. The other original action, Bash v. Value Health, Inc., No. 3:97-CV-2711 [hereinafter Bash action] was filed in the District of New Mexico. The Bash action was subsequently transferred to the District of Connecticut and consolidated with the Freedman action.

On February 18, 1999, the court granted the motions for class certification in both the Freedman and Bash actions.¹ One class covers all persons and entities who purchased or otherwise acquired the common stock of Value Health, Inc. during the period of April 3, 1995 through and including November 7, 1995, including those persons or entities who acquired shares of Value Health common stock pursuant to or traceable to the Form S-4 registration statement, in exchange for their shares of Diagnostek, Inc. The second class covers all persons and entities who purchased or acquired Diagnostek common stock during the period of between April 3, 1995 through and including July 28, 1995.

The complaints in the two actions were filed against two groups of defendants. First, the plaintiffs sued Value Health, its subsidiary Diagnostek, and nine former Value Health directors and officers ("Value Health defendants"). Second, the plaintiffs sued Nunzio DeSantis, Courtlandt Miller, and William Barron who were, respectively, the former Chairman and Chief Executive Officer ("CEO"), General Counsel and Secretary, and President, Chief Financial Officer ("CFO"), and Chief Operations Officer ("COO") of Diagnostek ("Diagnostek Officer defendants"). The defendants filed various motions to dismiss, which the court granted in part and denied in part. See Freedman v. Value Health, 958 F.Supp. 745 (D.Conn.1997) [hereinafter Freedman I]; Ruling on Motion to Dismiss and on Motion for Leave to Amend Complaint, Feb. 19, 1999 [Dkt. No. 158] [hereinafter Freedman II]; Freedman v. Value Health, 2000 WL 630916 (D.Conn. Mar.24, 2000) [hereinafter Freedman III].

The following claims remain in this action: 1) claims brought by the Freedman plaintiffs and the Bash plaintiffs against Value Health, Diagnostek, the individual Value Health officers and directors, and Nunzio DeSantis under Sections 11, 12(a)(2), and 15 of the Securities Act of 1933; 2) claims brought by the Bash plaintiffs against Value Health and the Value Health individual officers and directors and by the Freedman plaintiffs against Value Health, the Value Health individual officers and directors, and DeSantis under Sections 10(b) and 20 of the Securities Exchange Act of 1934; 3) claims brought by the Bash plaintiffs against all defendants under Section 14(a) of the Securities Exchange Act of 1934; 4) claims brought by individual (not class) Bash plaintiffs against all defendants under common law doctrines of fraud and negligent misrepresentation; 5) claims brought by the Bash plaintiffs against Value Health and the individual Value Health officers and directors under the New Mexico Securities Act §§ 58-13B-30, 58-13B-31, 58-13B-32, and 58-13B-40. The defendants seek summary judgment on all claims. The plaintiffs seek summary judgment on the Section 11, 12(a)(2) and 15 claims.

B. Merger

Value Health provides a variety of managed care services to health care providers and payers, specializing in mental health, pharmaceuticals, and utilization control software. At the time of the merger, Value Health was a leading provider of health care services, with 1994 revenues of $976.4 million.

Prior to its merger with Value Health, Diagnostek was in the business of institutional pharmacy management and mail-order pharmaceuticals. It provided, among other things, mail order prescription drug benefit management services for numerous employer medical plans across the country. According to Diagnostek, its core business was integrated pharmacy services. Integrated pharmacy services consisted of numerous contracts, some which were fee-for-services contracts and some which were capitated or fixed fee contracts.

In January 1995, Value Health and Diagnostek began to discuss the possibility of a business combination. Following initial discussions, the parties exchanged information and began negotiating the terms of a merger. Among the information exchanged was information about Diagnostek's new, three-year contract to provide prescription drug services under a contract with the State of New Jersey (the "New Jersey Contract"). Value Health also received information about the status of additional smaller Diagnostek contracts. Value Health reviewed and discussed with Diagnostek various projections and revised projections for the anticipated performance of its overall business over the remainder of 1995. Both parties agreed that, during the due diligence process, any Requests for Proposals that the companies were bidding on at the time would not be disclosed because the companies were bidding against each other on many of them. The due diligence did include a review of the processes for preparing bids and the products offered in those bids, but not the prices.

On March 20 and 21, 1995, representatives from both companies met to discuss Diagnostek's projections for the remainder of 1995 and, specifically, for the quarter ending March 31, 1995, the final quarter of Diagnostek's 1995 fiscal year. On March 27, 1995, after further negotiations, Value Health and Diagnostek executed a definitive merger agreement. The agreement provided that, subject to approval by the shareholders of both companies, Diagnostek would be acquired by Value Health and Diagnostek's shareholders would exchange their Diagnostek shares for Value Health stock at an "exchange ratio" of 0.55 Value Health shares for one share of Diagnostek stock. The same day, Value Health and Diagnostek issued a joint press release announcing their intended merger, pursuant to which Diagnostek was to be merged with and into Value Health, with Value Health remaining as the surviving corporation.

C. Diagnostek's New Jersey Contract

Under the New Jersey Contract, Diagnostek provided prescription drugs to eighteen state facilities on a 24-hour basis. The New Jersey Contract was a capitated contract in which Diagnostek agreed to provide services for a fixed amount rather than on a fee-for-service basis. The contract had a three-year term with performance beginning on February 1, 1995. According to Diagnostek, the New Jersey Contract was not a part of Diagnostek's core integrated pharmacy services business.

Diagnostek's fiscal year closed on March 31, 1995. According to the Registration Statement and Joint Proxy Statement — Prospectus ("Prospectus"), on May 16, 1995, Diagnostek advised Value Health that its actual financial results for the fourth quarter and fiscal year would be lower than the projections previously discussed with Value Health due to serious problems with the performance of the New Jersey Contract. Plaintiffs' Compendium of Exhibits in Support of Motion for Partial Summary Judgment [Dkt. No. 216] at Ex. 3 [hereinafter Pls. Ex.]. Unanticipated startup costs and losses had to date cost Diagnostek $3 million. In anticipation of future losses, Diagnostek also recorded a loss reserve of approximately $9.6 million in its March 31, 1995 quarterly results.

On May 25, 1995, Mark Schorr, an attorney for Diagnostek, wrote to the State of New Jersey's representative with regard to the contract. Schorr wrote that Diagnostek's subsidiary had made "a substantial error in preparing its bid for the contract" and submitted "a bid more than $4 million too low on an annualized basis." Pls. Ex. 34, at 1-2. The letter was sent to the State in an attempt to renegotiate the contract and further stated that the losses sustained on the contract were "so substantial that it would be unconscionable to enforce it further." Id. In the letter, Schorr anticipated that the loss would be more than $15 million for the initial three years of the contract. Id. Prior to the merger, Diagnostek gave this letter as well as all documentation related to the New Jersey Contract to Value Health.

According to Diagnostek, on June 7, 1995, Schorr sent a second letter to the State of New Jersey enclosing loss projections for the three years of the New Jersey Contract. That schedule showed a loss reserve of $9,620,900.00 over the life of the New Jersey Contract. The letter also included a June 5, 1995...