In re ORFA Securities Litigation

• Decision Date: 10 February 1987
• Docket Number: Civ. A. No. 86-1121(SSB),86-1555(SSB) and 86-1589(SSB).,86-1462(SSB)
• Parties: In re ORFA SECURITIES LITIGATION.
• Court: U.S. District Court — District of New Jersey

654 F. Supp. 1449

In re ORFA SECURITIES LITIGATION.

Civ. A. Nos. 86-1121(SSB), 86-1462(SSB), 86-1555(SSB) and 86-1589(SSB).

United States District Court, D. New Jersey.

February 10, 1987.

Silverman & Harnes by Sidney B. Silverman, New York City, for plaintiffs Meno Shir and Looking Sharp, Inc.

Brown & Connery by Steven G. Wolschina, Westmont, N.J., Liaison Counsel for plaintiffs.

Donald B. Lewis, Philadelphia, Pa., Chairman of plaintiffs' Executive Committee.

Schnader, Harrison, Segal & Lewis by Charles C. Hileman, Philadelphia, Pa., Kenney & Kearney by Joseph H. Kenney, Cherry Hill, N.J., for individual defendants.

Moss, Powers & Lezenby by William R. Powers, Jr., Moorestown, N.J., for defendant ORFA Corp. of America.

David B. Zlotnick, Bala Cynwyd, Pa., Garwin, Bronzaft & Gerstein by Bruce E. Gerstein, Silverman & Harnes by Joan T. Harnes, New York City, for the Derivative plaintiff.

Gross & Sklar, P.C. by Eugene A. Spector, Philadelphia, Pa., Members of plaintiffs' Executive Committee.

Rudolph, Seidner, Goldstein, Rochestie & Salmon, P.C. by Robert M. Roseman, Philadelphia, Pa., Stull, Stull & Brody by Jules

Brody, Wolf, Popper, Ross, Wolf & Jones by I. Stephen Rabin, Howard B. Sirota, P.C. by Moshe Balsam, New York City, for plaintiffs.

BROTMAN, District Judge:

I. Procedural and Factual Background

Plaintiffs by their consolidated amended class action and derivative complaint, filed May 12, 1986, ("Complaint"), sued defendants, pursuant to their claim that defendants harmed plaintiffs by artificially inflating the price of ORFA common stock. Plaintiffs, individuals¹ and one corporate entity, ("Plaintiffs"), are shareholders of ORFA common stock who purchased such stock at various times during 1985 and 1986. As explained in Part IV-B of this opinion, the court finds that the class period for this action is April 1, 1985, to January 20, 1986, inclusive ("Class Period"). All the named plaintiffs are individuals residing in states other than New Jersey, except for derivative plaintiff, Looking Sharp, Inc., which is a corporation organized and operating from the state of Florida. Defendant ORFA Corporation, ("ORFA" or "Corporate Defendant"), is a corporation duly organized under the laws of the state of Utah with its principal executive offices in the state of New Jersey. ORFA's common stock is traded on the national over-the-counter market. ORFA is a development stage enterprise engaged in the marketing and developing of waste processing facilities utilizing a technology which employs a proprietary solid waste material recovery process that produces usable end products. Individual defendants ("Individual Defendants") are four officers of ORFA who served the corporation at some time during the Class Period. Each Individual Defendant owned between 10% and 15% of ORFA's outstanding common stock at some point during the Class Period. Individual Defendants Kaye and Kohn are residents of New Jersey. Individual Defendant Moore is a resident of Pennsylvania. Individual Defendant Hutchison's residence is in dispute. Plaintiff asserts Hutchison's residence is Texas and defendant asserts it is Switzerland.

The Complaint alleges five counts. Count I is brought pursuant to Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), ("Act"), and Rule 10b-5, 17 C.F.R. § 240.10b-5 (1986) ("10b-5"). Count II and Count III are brought pursuant to common law fraud and deceit and negligent misrepresentation. Count IV is brought pursuant to the Racketeer Influenced and Corrupt Organization Act, 18 U.S.C. § 1961 et seq. (1983) ("RICO"). Count V is brought as a derivative cause of action on behalf of ORFA against the Individual Defendants pursuant to the common law of fiduciary obligations. Plaintiffs seek damages and costs under all counts in addition to an accounting under Count V. Jurisdiction of this court over Count I and Count IV is pursuant to 15 U.S.C. § 78 aa and 18 U.S.C. § 1964(c), respectively. Jurisdiction of these claims being proper pursuant to 28 U.S.C. § 1331, the remaining common law claims, Counts II, III, and V², are properly before the court pursuant to the principles pendent jurisdiction. Plaintiffs seek to certify this action as a class action pursuant to Fed.R.Civ.P. 23 with a class period extending from April 1, 1985, (the date of filing with the Securities and Exchange Commission of ORFA's Form 10-K for the year ended December 31, 1984), to January 31, 1986, (eleven days following the publication of the Barron's article disclosing the alleged misrepresentation and omissions of ORFA Corporation and its officers) ("Defendants"). Oral argument on Defendants' motion to dismiss Counts II, III, and V, of the Complaint was held on September 5, 1986. Oral argument on Plaintiffs' class certification motion was held on October 27, 1986. The court reserved opinion on both matters at the time of oral argument.

Presently before the court are three basic issues: (1) is there a cause of action under New Jersey common law for a derivative plaintiff seeking relief from individual corporate officers who trade individually owned corporate stock on the basis of insider information, (part II of this opinion)? (2) is the exercise of pendent jurisdiction over state law claims, Counts II and III brought as a class action, appropriate for this court, (part III of this opinion)? and (3) if class certification is appropriate, what is the proper class period, (part IV of this opinion)? The court finds that a claim by a derivative plaintiff against corporate officers trading individually owned shares on the basis of insider information does state a claim upon which relief can be granted. The court finds that the exercise of pendent jurisdiction over Counts II and III is proper. Therefore Defendants' motion to dismiss Counts II, III, and V, is denied. The court grants Plaintiffs' motion for class certification and finds the appropriate class period to be April 1, 1985, to January 20, 1986, inclusive.

The gravamen of Plaintiffs' Complaint is two-fold: (1) ORFA Corporation and its officers issued false and misleading statements about ORFA for the purpose of artificially inflating the price of ORFA common stock; and (2) Individual Defendants took advantage of information obtained as corporate officers and used it for personal advantage to the detriment of the corporation and its shareholders in selling individually owned shares. The alleged misrepresentations were contained in different reports or news releases of ORFA over a time period extending from December 31, 1984, to January 8, 1986. The cited reports include: (1) ORFA's Form 10-K, fiscal year ending December 31, 1984; (2) ORFA's 1984 Annual Report; (3) ORFA's Form 10-Q, for quarter ended June 30, 1985; (4) ORFA's Form 10-Q, for quarter ended September 30, 1985; and (5) ORFA's Form 8-K, December 3, 1985. The cited news releases include: (1) April 1985, as reported in the Wall Street Journal; (2) July, 1985 "Update;" (3) October, 1985, as reported in Forbes; and (4) January 8, 1986, as reported in the Philadelphia Inquirer. Plaintiffs' salient allegations of misrepresentation, Complaint at ¶¶ 25-42, include misleading statements and omissions pertinent to (1) the status of ORFA's contractual negotiations for the construction of the ORFA process facilities, (2) the status of ORFA's state of the art technology; (3) the overall position of ORFA in the waste processing market; and (4) the status of ongoing construction projects. Plaintiffs allege that said misrepresentations concerning "the ORFA process and the future prospects of the Company," caused the value of ORFA stock to rise significantly and lead to increased trading during the Class Period. Defendants deny such allegations.

Plaintiffs further allege that named Individual Defendants sold amounts of their individually owned ORFA stock over a four-month period of October, 1985, to January, 1986, inclusive. See Complaint at ¶ 43. Defendants admit to selling shares of their individual holdings of ORFA common stock during this time, in the approximate percentage of their total holdings: Kohn, 4.4%; Kaye, 3.1%; Moore, 1.3%; and Hutchison, 2.4%. See Individual Defendants' Answer to Consolidated Amended Complaint ¶ 42. Plaintiffs allege that Individual Defendants took advantage of the inflated price of ORFA stock by selling individually held shares for personal gain prior to a January 20, 1986, Barron's article which disclosed certain information concerning the Defendants. Plaintiffs allege that the Barron's article entitled "A Touch of Alchemy? How to Turn Trash into $90 Million," revealed material misrepresentations and omissions made by Defendants.³ It is undisputed that the value of ORFA stock dropped in the week after publication of the article. Plaintiffs allege a $2.25 drop per share in one week. Complaint at ¶ 44. The court reporter's stenographic record reflects that at oral argument on the class certification motion, Defendants asserted that the value of the stock dropped some 50% from Friday, January 20th, to Monday, January 23rd.

II. Derivative Action Based on Insider Trading

A. Background

Count V of the Complaint seeks equitable and legal relief for Plaintiff Looking Sharp, Inc. derivatively on behalf of ORFA against Individual Defendants for violations of New Jersey common law. Specifically, Count V alleges that the Individual Defendants violated their fiduciary obligation to the corporation and its stockholders by using "material non-public insider information" for their own personal profit in deciding to sell their individually owned stock in ORFA. The count alleges substantial damage to ORFA resulted from Defendants' sale of stock. In addition the count alleges that a demand to the corporation to remedy these alleged wrongs would have been futile in that the Individual Defendants constituted a majority of the ORFA Board of Directors and therefore could not diligently prosecute...