Moskowitz v. Vitalink Communications Corp.

• Citation: 751 F. Supp. 155
• Decision Date: 30 October 1990
• Docket Number: No. C 90-1717 SAW.,C 90-1717 SAW.
• Court: U.S. District Court — Northern District of California
• Parties: Stephen MOSKOWITZ, on behalf of himself and all others similarly situated, Plaintiff, v. VITALINK COMMUNICATIONS CORPORATION and George Archuleta, Defendants.

751 F. Supp. 155

Stephen MOSKOWITZ, on behalf of himself and all others similarly situated, Plaintiff, v. VITALINK COMMUNICATIONS CORPORATION and George Archuleta, Defendants.

No. C 90-1717 SAW.

United States District Court, N.D. California.

October 30, 1990.

James Finberg, Elizabeth Cabraser, Lieff, Cabraser & Heimann, San Francisco, Cal., Lowey, Dannenberg, Bemporad & Selinger, PC, New York City, for plaintiff.

Jared L. Kopel, Wilson, Sonsini, Goodrich & Rosati, Palo Alto, Cal., for defendants.

MEMORANDUM AND ORDER

WEIGEL, District Judge.

Plaintiff Moskowitz is the individual representative of a class action suit against defendants Vitalink Communications Corporation ("Vitalink") and George Archuleta. Plaintiff sues (1) for violation of Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j; 17 C.F.R. § 240.10b-5, and (2) for common law negligent misrepresentation.

Defendant Vitalink is a Delaware corporation with principal offices in Fremont, California. Vitalink manufactures and markets communications products that interconnect local area computer networks to form a wide area computer network. Defendant Archuleta was the President, Chairman, and Chief Executive Officer of Vitalink until his resignation on June 13, 1990.

Plaintiff's claims arise out of defendants' allegedly materially misleading statements regarding Vitalink's financial performance and business prospects and failure to disclose the "true facts" on these topics. Throughout late 1989 and early 1990, before the date the class period commences,¹ defendants issued a series of public statements and reports regarding Vitalink's performance that plaintiff characterizes in his Memorandum in Opposition as "misleading" and "overly optimistic." For example, the company asserted that it was "well positioned to be a leader in the growth of the broader LAN internetworking market into the 1990s," and that with new enhancements, the company's TransPATH system would become the "industry-leading bridge/multi-protocol router."

On April 17, 1990, Vitalink issued a press release that provided factual data regarding financial performance in the quarter ending March 31, 1990. Plaintiff contends that the following portion of this release was materially misleading:

Digital Equipment Corporation accounted for 35% of the company's business in the second quarter, compared to 40% in the prior quarter and 46% for the fiscal year 1989. "The solid performance this quarter attests to the company's ability to manage a balanced distribution strategy," said George Archuleta, Vitalink's Chairman and CEO. "Our decision to strengthen distribution channels has paid off in continued growth of direct sales and has enabled us to maintain solid sales in the current quarter."

Plaintiff claims that these statements were materially misleading because facts known to Vitalink at that time indicated that it had not solved the problem of its excessive dependence upon Digital Equipment Corporation ("Digital"), Vitalink's long-time principal buyer. Additionally, plaintiff contends that defendants knew or recklessly failed to know that Vitalink was not experiencing a "continued growth of direct sales," nor "solid sales in the current quarter."

Plaintiff alleges that as a result of defendants' misrepresentations and nondisclosures, the price of Vitalink stock was artificially inflated during the class period. On June 14, 1990, Vitalink issued a press release representing that defendant Archuleta had "resigned" from the company. Archuleta allegedly stated to one financial analyst that in fact he had been fired by the Board of Directors because of Vitalink's financial difficulties. On that same day, a DOW Jones wire story quoted Donald Herman, Archuleta's replacement, as advising that "there is a reasonable probability" that Vitalink's earnings for the third quarter, ending June 30, would be below the $.21 to $.28 per share anticipated by the analysts.

In response to some or all of these adverse disclosures concerning Vitalink, on June 14, 1990, Vitalink common stock dropped 25.2%, or $3.25 per share, from $12.875 (the previous day's closing price) to $9.625 per share on a heavy trading volume of over 3.5 million shares. This decline was purportedly the day's worst percentage decline in the over-the-counter market. Defendants move to dismiss both claims against them.

I. The Rule 10b-5 Claim

Urging dismissal of plaintiff's 10b-5 claim, defendants contend that: (1) Plaintiff's entire case centers solely on Vitalink's April 17, 1990 press release, and that statement is as a matter of law not misleading; (2) Plaintiff fails to plead loss causation, or proximate cause, a necessary element of a Rule 10b-5 claim; and (3) Plaintiff fails to plead facts from which it may be inferred that defendants acted with scienter with the specificity required by Federal Rule of Civil Procedure 9(b). Each of these contentions will be considered in turn.

(1) The April 17, 1990 Press Release

Defendants contend first that plaintiff's entire case centers exclusively upon the April 17, 1990 press release issued by Vitalink. Plaintiff counters that this release comprises only part of its case since defendants' pre-class period reports in late 1989 and early 1990 were purportedly "overly optimistic" with respect to the company's performance and financial health. Defendants' point is well-taken. The complaint itself quotes these earlier statements but does not allege that they are either misleading, false, or overly optimistic. Complaint, paras. 10, 11, 13 & 14. This Court is constrained to consider the sufficiency of allegations contained in the complaint, not in plaintiff's opposition papers. See Alfus v. Pyramid Technology Corp., 745 F.Supp. 1511, Fed.Sec.L.Rep. (CCH) ¶ 95,207, at 95,846 (N.D.Cal.1990) (ignoring essential allegations made in the opposition brief but not in the complaint).

Plaintiffs contend, however, that under the "mosaic doctrine," this Court may consider all of defendants' statements referenced in the complaint to determine whether, viewed as a whole, they create a misleading impression of Vitalink's fiscal health and performance. The Court notes, as an initial matter, that the legitimacy of the mosaic doctrine in this Circuit is as yet uncertain.² The Court need not reach the question of the doctrine's validity because the complaint is not sufficient to invoke it. The complaint fails to allege either that the pre-April 17, 1990 statements were themselves misleading or materially incomplete, or that they were in fact true, but contributed to an overall misleading impression. The Court therefore dismisses with leave to amend plaintiff's 10b-5 claim to the extent it is based on statements other than the April 17, 1990 press release.

This brings the Court to the question of whether the April 17, 1990 release was not misleading as a matter of law, as defendants contend. According to plaintiff, the release contained three representations of fact: (1) that Vitalink had developed the "ability to manage a balanced distribution strategy"; (2) that Vitalink had experienced "continued growth of direct sales"; and (3) that Vitalink was maintaining "solid sales in the current quarter." Plaintiff asserts that each of these representations was false. Defendants counter that a "plain reading" of the press release reveals that these representations concerned only the previous quarter, which ended on March 31, 1990, not the third quarter, during which the representations were made. Accordingly, defendants could not have been making any forecasts with respect to the third quarter—the quarter which saw the stock dramatically plunge in value and defendant Archuleta "resign."

In his Memorandum in Opposition, plaintiff argues that defendants' optimistic language in the release did in fact refer to the third, rather than the second, quarter. Unfortunately, a "plain reading" of the press release does not resolve the parties' dispute. On the one hand, the statements in question immediately follow a discussion of the second quarter's performance, but on the other, defendant Archuleta referred to the "solid performance this quarter" and the company's "solid sales in the current quarter." Given this factual dispute, it is improper for the Court to decide as a matter of law whether the representations were misleading. See Marx v. Computer Sciences Corp., 507 F.2d 485, 492 (9th Cir. 1974) (whether the failure to disclose was an omission to state a material fact necessary to make the statements not misleading is a factual determination for the jury); In re Seagate Technology II Sec. Litig., Fed.Sec.L.Rep. (CCH) ¶ 94,502, at 93,201, 1989 WL 222969 (N.D.Cal.1989) (court will dismiss misrepresentation claims only if a review of the alleged omissions does not raise factual questions or require information beyond the reports cited in the complaint).³

Moreover, even if defendants' statements in the press release did refer to the previous, rather than the then-current quarter, plaintiff nonetheless makes out a bare-bones claim. At a minimum, these statements can be construed as a general expression of optimism regarding Vitalink's condition. The Ninth Circuit has held that "projections and general expressions of optimism may be actionable under the federal securities laws." In re Apple Computer Sec. Litig., 886 F.2d 1109, 1113 (9th Cir. 1989), cert. denied, ___ U.S. ___, 110 S.Ct. 3229, 110 L.Ed.2d 676 (1990). At this early stage of the litigation, it cannot be determined as a matter of law that the April 17, 1990 press release was not misleading and materially incomplete. See Usher v. City of Los Angeles, 828 F.2d 556, 561 (9th Cir.1987) (on a motion to dismiss, courts must presume all factual allegations of the complaint to be true and draw all reasonable inferences in favor of the nonmoving party).

(2) Loss Causation

"In an action brought under Rule 10b-5 for material omissions or misstatements,...