In re Countrywide Financial Corp. Sec. Litigation

Decision Date01 December 2008
Docket NumberNo. CV-07-05295-MRP (MANx).,CV-07-05295-MRP (MANx).
Citation588 F.Supp.2d 1132
PartiesIn re COUNTRYWIDE FINANCIAL CORPORATION SECURITIES LITIGATION.
CourtU.S. District Court — Central District of California

MARIANA R. PFAELZER, District Judge.

INTRODUCTION

This Court has consolidated numerous securities actions related to Countrywide Financial Corporation ("Countrywide")1 into three cases pending before it.2 The present case involves publicly traded equity securities and publicly traded, unsecured debt instruments that Countrywide used to raise capital from investors.

On August 14, 2007, George Pappas, on behalf of himself and all others similarly situated, filed suit against Countrywide and several individuals alleging securities law violations. On November 28, 2007, this Court consolidated the Pappas action with several other cases involving publicly traded Countrywide securities. The Court designated New York Funds ("NY Funds")3 as lead plaintiffs. In this Order, "Plaintiffs" refers to all the named plaintiffs in this consolidated case; "NY Funds" is used when referring to the lead plaintiffs in particular.

Plaintiffs filed a 416-page Consolidated Amended Class Action Complaint ("CAC") on April 14, 2008. The CAC's proposed class period spans the nearly 4 years between March 12, 2004 and March 7, 2008. The CAC contains 21 claims and names 50 defendants. Defendants now move to dismiss.

The Court feels obliged to issue this comprehensive—and regrettably long— Order to establish much of the law of the case, narrow the issues, and discourage some of the parties' more tenuous arguments.4 This document shall guide the parties and save the Court detailed expositions in future orders.

For reasons explained below, the motions are granted in part and denied in part. The Conclusion section of this Order summarizes which claims are dismissed.

TABLE OF CONTENTS
                OVERVIEW OF ALLEGATIONS AND CLAIMS.......................................1144
                   A. Overview of allegations about Countrywide's core business..........1145
                      i. Countrywide changes strategy....................................1145
                     ii. How Countrywide's core mortgage-related operations affect
                         investment value ...............................................1151
                    iii. Examples of allegedly false statements..........................1153
                   B. Overview of claims and defendants..................................1154
                LEGAL ANALYSIS...........................................................1156
                   A. Rule 8(a) .........................................................1156
                   B. Issues common to the '33 and '34 Act claims........................1157
                      i. Standing........................................................1157
                     ii. Statute of limitations..........................................1159
                    iii. Truth on the market.............................................1159
                     iv. Grant Thornton's involvement....................................1160
                   C. '33 Act Claims ....................................................1162
                     i. Section 11 ......................................................1162
                        1. "Sounds in fraud".............................................1162
                        2. Section 11 standing ..........................................1164
                        3. Loss .........................................................1167
                        4. Loss causation................................................1170
                        5. Market forces and causation...................................1173
                        6. Falsity ......................................................1174
                    ii. Section 12(a)(2).................................................1182
                   iii. Section 15.......................................................1183
                   D. '34 Act Claims .....................................................1184
                      i. Section 10(b)....................................................1184
                         1. Standing......................................................1184
                         2. Materiality...................................................1185
                         3. Falsity & scienter............................................1185
                            a. Countrywide................................................1192
                            b. Angelo Mozilo..............................................1192
                            c. David Sambol ..............................................1194
                            d. Stanford Kurland...........................................1195
                            e. Eric Sieracki..............................................1196
                            f. KPMG ......................................................1197
                         4. Reliance......................................................1198
                         5. Loss .........................................................1199
                         6. Loss causation................................................1200
                     ii. Section 20(a)....................................................1201
                    iii. Section 20A......................................................1202
                CONCLUSION................................................................1205
                
I. OVERVIEW OF ALLEGATIONS AND CLAIMS

The Court first summarizes Plaintiffs' basic allegations and states the general nature of their legal claims. Specific additional allegations are discussed as relevant in the legal analysis section (Section II).

While the facts of this case are inextricably intertwined with the mortgage-backed securities ("MBS") that Countrywide sold to investment banks and other sophisticated investors, none of the actions before this Court are based on MBS purchases. Rather, the present case is brought on behalf of those who invested in Countrywide's business. The investments' values depend in great part on the soundness of Countrywide's core mortgage-related operations. These operations include originating mortgages, purchasing mortgages from other originators, servicing mortgages, investing in mortgages, and packaging mortgages into MBS for resale.5 Core mortgage-related operations accounted for the vast majority of Countrywide's earnings during the class period—93% of fiscal year ("FY") 2006 pretax earnings. See ¶¶ 82-83.6

As explained in the legal analysis, the federal securities laws deal with false or misleading statements in connection with investments. The federal securities laws do not create liability for poor business judgment or failed operations. See Santa Fe Indus., Inc. v. Green, 430 U.S. 462, 479, 97 S.Ct. 1292, 51 L.Ed.2d 480 (1977). Nor do the laws require public companies to disclose every change in operations. But the CAC's allegations present the extraordinary case where a company's essential operations were so at odds with the company's public statements that many statements that would not be actionable in the vast majority of cases are rendered cognizable to the securities laws.

For example, descriptions such as "high quality" are generally not actionable; they are vague and subjective puffery not capable of being material as a matter of law. On an individual level, this is because a reasonable person would not rely on such descriptions; on a macro scale, the statements will have little price effect because the market will discount them. See Cook, Perkiss and Liehe, Inc. v. N. Cal. Collection Svc. Inc., 911 F.2d 242, 245-46 (9th Cir.1990) (collecting and discussing puffery cases, including securities cases). However, the CAC adequately alleges that Countrywide's practices so departed from its public statements that even "high quality" became materially false or misleading; and that to apply the puffery rule to such allegations would deny that "high quality" has any meaning.7

Thus, to understand Plaintiffs' claims, one must first understand the facts Plaintiffs allege about Countrywide's core operations.

A. Overview of allegations about Countrywide's core business

Legal standard. A motion to dismiss tests whether the allegations in a complaint, if true, amount to an actionable claim. Navarro v. Block, 250 F.3d 729, 732 (9th Cir.2001). In evaluating a motion to dismiss under Fed.R.Civ.P. 12(b)(6), a court must accept as true all allegations of material fact in the complaint and read the complaint in the light most favorable to the nonmoving party. Sprewell v. Golden State Warriors, 266 F.3d 979, 988 (9th Cir.2001); Parks Sch. of Bus., Inc. v. Symington, 51 F.3d 1480, 1484 (9th Cir.1995). However, a court need not accept as true unreasonable inferences; nor need it accept legal conclusions cast in the form of factual allegations. Sprewell, 266 F.3d at 988. A court reads the complaint as a whole, together with matters appropriate for judicial notice, rather than isolating allegations and taking them out of context. Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 127 S.Ct. 2499, 2509, 168 L.Ed.2d 179 (2007). Dismissal is appropriate only where a complaint fails to allege "enough facts to state a claim to relief that is plausible on its face." Bell Atlantic Corp. v. Twombly, 550 U.S. 544, 127 S.Ct. 1955, 1974, 167 L.Ed.2d 929 (2007).

Accordingly, the discussion below provides an overview of some key facts that Plaintiffs allege, stated in the light most favorable to the Plaintiffs.8

i. Countrywide changes strategy

"In or about mid-2003," the CAC alleges, Countrywide began a systematic shift from its traditional mortgage business. ¶ 3.

Underwriting practices. From mid-2003 onward, Countrywide continually loosened its underwriting guidelines to the point of nearly abandoning them by 2006. Countrywide's highest-level managers authored official documents—underwriting matrices and guidelines—such as those...

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