Klein v. Goetzmann

• Decision Date: 12 July 1991
• Docket Number: No. 88-CV-780.,88-CV-780.
• Citation: 770 F. Supp. 78
• Parties: Albert M. KLEIN, Blanche Tave and Daniel Slane, Plaintiffs, v. Harry E. GOETZMANN, Jr., John L. Bartolo, Lynn H. Smith, Henry A. Panasci, Jr., Chris J. Witting, Alvin O. Beiling, Robert C. Hayman, Thomas J. Prinzing and James J. Mosher, Defendants.
• Court: U.S. District Court — Northern District of New York

770 F. Supp. 78

Albert M. KLEIN, Blanche Tave and Daniel Slane, Plaintiffs, v. Harry E. GOETZMANN, Jr., John L. Bartolo, Lynn H. Smith, Henry A. Panasci, Jr., Chris J. Witting, Alvin O. Beiling, Robert C. Hayman, Thomas J. Prinzing and James J. Mosher, Defendants.

No. 88-CV-780.

United States District Court, N.D. New York.

July 12, 1991.

Lowey Dannenberg Bemporad Brachtl & Selinger, Abbey & Ellis, New York City, Berger & Montague, Philadelphia, Pa., Sugarman Wallace Manheim & Schoenwald, Syracuse, N.Y. (Henry A. Brachtl, Richard C. Fooshee, Joshua N. Rubin, Gary E. Cantor, Lawrence Deutsch, Timothy Perry, of counsel), for defendants.

Bond Schoeneck & King, Syracuse, N.Y. (Charles Beeching, Jr., George H. Lowe, Edward Ryan Conan, Jonathan B. Fellows, of counsel), for Goetzman, Bartolo & Prinzing.

Bangser Klein & Rocca, New York City (Jonathan J. Fink, of counsel), for Smith, Panasci, Witting, Beiling & Hayman.

Samuel B. Vavonese, Syracuse, N.Y., for Mosher.

MEMORANDUM-DECISION AND ORDER

McCURN, Chief Judge.

This is a putative class action in which the plaintiffs, shareholders in Continental Information Systems, Inc. ("CIS"), allege that certain of the corporation's officers, directors, and an accounting firm, made material misrepresentations and omissions in information provided to the investing public, in violation of Sections 10(b) and 20(a) of the Securities and Exchange Act of 1934, 15 U.S.C. §§ 78j(b) and 78t; and Rule 10b-5, 17 C.F.R. § 240.10b-5.

The court issued a prior decision granting in part and denying in part motions by all the defendants to dismiss the first consolidated amended complaint. Klein v. Goetzmann, 745 F.Supp. 107 (N.D.N.Y.1990). The plaintiffs then filed and served their second consolidated amended complaint (hereinafter referred to as "the complaint") in January 1991.

Defendants Smith, Panasci, Witting and Hayman have moved to dismiss the complaint pursuant to Fed.R.Civ.P. 12(b)(1) and (6) for failure to state a claim upon which relief can be granted, failure to plead fraud with particularity, and for lack of pendent jurisdiction. Specifically, these defendants, who refer to themselves as the "outside directors,"¹ contend that the plaintiffs have failed to adequately allege fraud, scienter and culpable participation by these defendants.

The outside directors also move to dismiss cross-claims for indemnification and contribution interposed by defendant Mosher, an executive officer of CIS, in his answer to the complaint. Mosher has not responded to this motion, and the court deems this failure to respond as defendant Mosher's consent to the granting of the outside directors' motion to dismiss the cross-claims, pursuant to Local Rule 10(g).

Defendant Deloitte and Touche, the accounting firm for CIS, was added as a party defendant in the complaint. Deloitte and Touche has moved to dismiss the complaint on the ground that the claims against it are barred by the statute of limitations for section 10(b) and Rule 10b-5 actions.

Discussion

I. OUTSIDE DIRECTORS

The outside directors contend that the complaint is deficient since it fails to allege that any of them made any specific misstatements in financial statements, nor that any of them "culpably participated" in the making of any specific misstatements by others. The plaintiffs argue that (1) the motion to dismiss should be precluded by the law of the case and collateral estoppel doctrines; and (2) that the complaint adequately describes the allegedly fraudulent acts and provides the outside directors with sufficient information to answer the allegations.

With respect to the plaintiffs' first contention, the law of the case and collateral estoppel doctrines do not apply here. As the outside directors correctly assert in their reply memorandum, the issue presented here, whether outside directors are subject to "culpable participation" or "controlling person" liability has not been reached by the court prior to the instant motion. In fact, the court specifically stated in its prior decision that it would not address the issue whether any of the defendants might be subject to "controlling person" liability, since that issue was not raised by the parties. Klein, 745 F.Supp. at 110-11, n. 3. In addition, with respect to collateral estoppel, there has been no final judgment to which collateral estoppel could be attached.

The court turns then to considering whether plaintiffs have adequately pleaded their fraud claims against the outside directors. As noted by the court previously in Klein, complaints alleging fraudulent violations of section 10(b) and Rule 10b-5 must satisfy the requirement in Fed. R.Civ.P. 9(b) that fraud must be stated with particularity. Klein, 745 F.Supp. at 111 (citing Decker v. Massey-Ferguson, Ltd., 681 F.2d 111, 114 (2d Cir.1982)).

An outside director has no duty to insure that all material adverse information about a corporation is conveyed to prospective purchasers of the corporation's stock. Decker, 681 F.2d at 119. An outside director's liability must be that of an "`aider and abettor, a conspirator, or a substantial participant in fraud perpetrated by others.'" Id. (quoting Lanza v. Drexel & Co., 479 F.2d 1277, 1289 (2d Cir.1973)). However, conclusional allegations that the defendants aided and abetted or conspired are not sufficient. Decker, 681 F.2d at 119. "The complaint must charge a violation of section 10(b) by the Company, knowledge of such violation by the director, and his substantial assistance in the accomplishment of the violation citation omitted, or else the existence of an agreement between the director and one or more others to accomplish the wrongful purpose of violating section 10(b)." Id. In sum, as stated by the Second Circuit in Lanza:

We recognize that participation by a director in the dissemination of false information reasonably calculated to influence the investing public may subject such a director to liability under Rule 10b-5. But it is quite a different matter to hold a director liable in damages for failing to insure that all material, adverse information is conveyed to prospective purchasers of the company's stock absent substantial participation in the concealment or knowledge of it. Absent knowledge or substantial participation we have refused to impose such affirmative duties of disclosure upon Rule 10b-5 defendants.

Lanza, 479 F.2d at 1302 (emphasis in original).

In order to plead fraud with particularity, "`a complaint must adequately specify the statements it claims were false or misleading, give particulars as to the respect in which plaintiff contends the statements were fraudulent, state when and where the statements were made, and identify those responsible for the statements.'" Dymm v. Cahill, 730 F.Supp. 1245, 1250 (S.D.N.Y.1990) (quoting Cosmas v. Hassett, 886 F.2d 8, 11 (2d Cir.1989)). Where multiple defendants are asked to respond to allegations of fraud, "the complaint should inform each defendant of the nature of his alleged participation in the fraud." DiVittorio v. Equidyne Extractive Indus., Inc., 822 F.2d 1242, 1247 (2d Cir.1987). The outside directors contend that the allegations in the complaint do not identify the individual defendants responsible for the alleged fraudulent acts, and the complaint is thus infirm. Plaintiffs argue that, where the defendants are officers or directors of a corporation, "the conduct of such individuals need not be specified and the fraudulent acts complained of need not be attributed to certain persons if the complaint sufficiently describes the fraudulent acts and provides the individuals with sufficient information to answer the allegations." Banowitz v. State Exchange Bank, 600 F.Supp. 1466, 1469 (N.D.Ill.1985); see also Somerville v. Major Exploration Co., 576 F.Supp. 902, 911 (S.D.N.Y.1983).

This "group pleading," however, is limited to situations where the alleged misrepresentations are contained in an offering memorandum and the defendants are "insiders or affiliates participating in the offer of the securities in question." Luce v. Edelstein, 802 F.2d 49, 55 (2d Cir.1986); see also DiVittorio, 822 F.2d at 1247; Dymm, 730 F.Supp. at 1250. Otherwise, the plaintiff "must provide each defendant with sufficient notice of that defendant's part in the fraud...." Dymm, 730 F.Supp. at 1251. Defendants note that the lone authority from the Second Circuit cited by the plaintiffs in support of their argument, Somerville, was decided before both Luce and DiVittorio, and the court agrees that it carries no weight on this point.

Applying the foregoing principles of law to the averments in the complaint, it is clear that fraud by the outside directors Panasci, Witting and Hayman is not adequately pleaded.

The plaintiffs claim that the complaint sufficiently details the time and place of misstatements; states how they were misleading; and identifies the individual defendants charged with responsibility for the misstatements in ¶¶ 1, 8, 9, 10, 58, and 62-72. However, the complaint identifies the outside directors individually only in ¶ 8, in which the defendants and their positions are identified, and in which the plaintiffs state that each of the named defendants "signed CIS' Securities and Exchange Form 10-K, with Annual Report to Shareholders annexed, for the fiscal year ended February 29, 1988 ..., issued on or about May 12, 1988."²

The complaint otherwise avers generally that the "individual defendants" were "controlling persons of CIS" (¶ 9), and "engaged in a common course of conduct and acted as agents for one another in such conduct and to the end of the illegal acts alleged herein" (¶ 10). With respect to the factual allegations of fraud, the complaint generally alleges that the "defendants" or "individual defendants" were engaged in allegedly fraudulent acts. Nowhere (other than ¶ 8) does the complaint identify the outside directors and associate them individually with any fraudulent acts. There are...