In re Leslie Fay Companies, Inc. Securities Litig., 92 Civ. 8036 (WCC).

Citation918 F. Supp. 749
Decision Date05 March 1996
Docket NumberNo. 92 Civ. 8036 (WCC).,92 Civ. 8036 (WCC).
PartiesIn re the LESLIE FAY COMPANIES, INC. SECURITIES LITIGATION. This Document Relates To All Actions.
CourtUnited States District Courts. 2nd Circuit. United States District Courts. 2nd Circuit. Southern District of New York

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COPYRIGHT MATERIAL OMITTED

Parker Chapin Flattau & Klimpl, New York City (Mark Abramowitz, Joel A. Chernov, Jaime L. Katcher, of counsel), for Defendants John J. Pomerantz, Laura H. Pomerantz and Alan Golub.

Parker Chapin Flattau & Klimpl, New York City (Mark Abramowitz, Joel A. Chernov, Jaime L. Katcher, of counsel), for Third-Party Defendants Arthur S. Levine, John A. Ward and Gerald P. Zipp.

Cravath, Swaine & Moore, New York City (Rory O. Millson, of counsel), for Third-Party Defendants Steven M. Friedman, Jack Nash, Lester Pollack and Odyssey Partners, L.P.

Law Offices of Michael G. Berger, New York City (Michael G. Berger, of counsel), for Defendant Paul F. Polishan.

Dechert Price & Rhoads, New York City (Thomas F. Munno, of counsel), for Defendant Ira J. Hechler.

Proskauer Rose Goetz & Mendelsohn, (Leon P. Gold, Mark E. Davidson, Stephen D. Solomon, Mark P. Monack, of counsel), and Wilkie Farr & Gallagher (Michael R. Young, Nicole A. Anderson, of counsel) (Scott M. Univer, Barbara A. Taylor, BDO Seidman, L.L.P., of counsel), New York City, for Defendant and Third-Party Plaintiff BDO Seidman, L.L.P.

OPINION AND ORDER

WILLIAM C. CONNER, Senior District Judge.

Plaintiffs bring this class action on behalf of all individuals who purchased common stock of The Leslie Fay Companies, Inc. ("Leslie Fay" or "the Company") between February 4, 1992 and April 5, 1993 (the "Class Period"). The Amended Complaint asserts claims under Section 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder against a number of Leslie Fay's officers and directors and BDO Seidman ("BDO"), the Company's outside auditor.

This court denied BDO's motion to dismiss pursuant to Rules 9(b) and 12(b)(6) of the Federal Rules of Civil Procedure. See In re The Leslie Fay Companies, Inc. Securities Litigation, 871 F.Supp. 686 (S.D.N.Y.1995); In re The Leslie Fay Companies, Inc. Securities Litigation, 835 F.Supp. 167 (S.D.N.Y. 1993). BDO then filed cross-claims and third-party claims against officers and directors of Leslie Fay.1

The action is presently before the court on various TPDs' motions to dismiss pursuant to Rules 9(b) and 12(b)(6) of the Federal Rules of Civil Procedure. For the reasons discussed below, TPDs' motions are granted in part and denied in part.

BACKGROUND

Plaintiffs allege that from 1990 through 1992, the officers and directors of Leslie Fay, a well-known manufacturer of women's apparel, engaged in a fraudulent scheme designed to deceive the investing public as to its financial viability. Plaintiffs further allege that BDO participated in this scheme by attesting to the accuracy of financial disclosures that it knew, or recklessly failed to discover, were false and misleading. Plaintiffs allege that to support its public misrepresentations, Leslie Fay altered company financial records in two ways. First, the Company manipulated its books, chiefly the general ledger, to overstate assets and understate liabilities. Leslie Fay utilized these misstatements to conceal shortfalls from divisional budgeted goals. Second, Leslie Fay further altered its books and records by, among other things, manipulating inventory counts, classifications, costs, accounts payable, and expenses to substantiate these accounting irregularities. In all, the fraud involved several hundred journal entries, made in more than one hundred different general ledger accounts, occurring over an extended period of time, and involving at least 15 Leslie Fay employees.

The overall result of this scheme was that in the years 1990 through 1992, respectively, Leslie Fay's gross profits were overstated by $3 million (1.1%), $12.4 million (5.1%), and $35 million (18.9%), and its per-share earnings by $0.15 (10.9%), $0.48 (44.9%), and $1.84 (347.2%), while its pretax income over the three-year period was overstated by a total of $75 million.

Leslie Fay retained BDO to provide independent auditing services for the years ending December 29, 1990 and December 28, 1991. BDO issued unqualified opinions for each of those years, which were included in Leslie Fay's 1990 and 1991 Form 10-K reports and 1990 and 1991 Annual Reports to Shareholders, respectively, attesting to the accuracy of Leslie Fay's financial statement schedules and their conformity with Generally Accepted Accounting Principles ("GAAP"). In addition, BDO certified that it performed its audits in accordance with Generally Accepted Auditing Standards ("GAAS"). Based on the pervasiveness of the manipulation described above, plaintiffs allege that BDO either knew or was reckless in failing to discover that its unqualified opinions were wholly unfounded.

On February 1, 1993, the Company announced that it had requested that the board of directors' audit committee commence an investigation into "accounting irregularities" which might cause Leslie Fay to restate previously reported earnings for 1991 and to eliminate any profit for 1992. The Company suspended Corporate Controller Donald Kenia pending the outcome of the investigation, but Leslie Fay's CEO, John Pomerantz, insisted, in a widely distributed press release, that the financial viability of the Company was not in jeopardy. On the same day Leslie Fay's General Counsel, Herman Gordon, announced that the audit committee would investigate inaccurate entries involving an overstatement of inventory and a reduction of the cost of goods sold. As a result of this announcement, trading in Leslie Fay stock was suspended and at the end of the trading day the stock had fallen to $7 3/8 per share from its close of $12 per share on the previous day. On February 2, 1993, it was reported that Kenia had admitted that he and 15 other employees of the Company's Wilkes-Barre, Pennsylvania offices had been falsifying invoices for over one year, and the Company announced that the false entries began in the last quarter of 1991 and continued through all of 1992. Upon announcing his fraud, Kenia stated that he was coming forward because the discrepancies caused by the falsifications had become too large to hide. On February 16, 1993, Leslie Fay announced that it had commenced an investigation into possible false SEC filings made by the Company, and on March 26, 1993, it was announced that Leslie Fay was the subject of a Commission investigation as well. On March 22, 1993, Paul Polishan, CFO of the Company, took a leave of absence pending the final outcome of the Audit Committee report. Finally, on April 5, 1993, Leslie Fay filed a voluntary bankruptcy petition under Chapter 11 of the Federal Bankruptcy Code, and in response, its common stock price fell to $2.75 per share. After the overstatements were revealed by the Audit Committee on February 26, 1993, BDO withdrew its 1991 opinion. Plaintiffs' class action followed.

BDO's motion to dismiss was denied by this court. See In re The Leslie Fay Companies, Inc. Securities Litigation, 871 F.Supp. 686 (S.D.N.Y.1995). BDO then filed cross-claims and third-party claims against various officers and directors of Leslie Fay, asserting contribution claims under the federal securities laws and common law claims for negligent misrepresentation, unjust enrichment and mutual mistake. See supra n. 1. The case is presently before the court on motions to dismiss submitted by various TPDs.

DISCUSSION

On motions to dismiss, we have a limited task. The factual allegations in the cross-claims and third-party claims must be accepted as true, and must be construed favorably to third-party plaintiff BDO. A motion to dismiss pursuant to Rule 12(b)(6) should be granted only if it appears beyond doubt that third-party plaintiff can prove no set of facts entitling it to relief. Scheuer v. Rhodes, 416 U.S. 232, 236, 94 S.Ct. 1683, 1686, 40 L.Ed.2d 90 (1974); Conley v. Gibson, 355 U.S. 41, 45-46, 78 S.Ct. 99, 101-02, 2 L.Ed.2d 80 (1957); Goldman v. Belden, 754 F.2d 1059, 1065 (2d Cir.1985).

I. Statute of Limitations

As a preliminary matter, we address Odyssey's statute of limitations defense to BDO's claim for contribution under section 10(b). Odyssey argues that the Supreme Court's holdings in Lampf, Pleva, Lipkind, Prupis & Petigrow v. Gilbertson, 501 U.S. 350, 111 S.Ct. 2773, 115 L.Ed.2d 321 (1991), and Musick, Peeler & Garrett v. Employers Ins. of Wausau, 508 U.S. 286, 294-300, 113 S.Ct. 2085, 2090-92, 124 L.Ed.2d 194 (1993), "mean that the common law rule on the accrual of a cause of action for contribution is not applicable to claims for contribution by a violator of § 10(b) of the 1934 Act." Mem. of Law in Support of the Motion of Third-Party Defendants Steven M. Friedman, Jack Nash, Lester Pollack and Odyssey Partners, L.P. to Dismiss the Third-Party Complaint of BDO Seidman, at 12 ("Odyssey Motion"). In Lampf, the Supreme Court held that the applicable statute of limitations for a section 10(b) suit was to be borrowed from section 9(e) of the 1934 Act. 501 U.S. at 364 n. 9, 111 S.Ct. at 2782 n. 9. Section 9(e) provides:

Any person who willfully participates in any act or transaction in violation of subsections (a), (b), or (c) of this section, shall be liable to any person who shall purchase or sell any security at a price which was affected by such act or transaction.... Every person who becomes liable to make any payment under this subsection may recover contribution as in cases of contract from any person who, if joined in the original suit, would have been liable to make the same payment. No action shall be maintained to enforce any liability created under this section, unless brought within one year after the discovery of the facts constituting the violation and within three years of such violation.

15 U.S.C. § 78i(e) (emphasis added). In the present case, BDO...

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