Theoharous v. Fong

• Decision Date: 11 July 2001
• Docket Number: Nos. 00-12532,00-12533,s. 00-12532
• Citation: 256 F.3d 1219
• Parties: (11th Cir. 2001) ALEXANDER THEOHAROUS, on behalf of himself and all others similarly situated, Plaintiff-Appellant, v. HENRY FONG, METROMEDIA INTERNATIONAL GROUP, INC., ET. AL., Defendants-Appellees. LESLIE SCHUETTE, on behalf of herself and all others similarly situated, Plaintiff-Appellant, v. EDWARD E. SHAKE, Defendant-Appellee
• Court: U.S. Court of Appeals — Eleventh Circuit

Page 1219

256 F.3d 1219 (11th Cir. 2001)

ALEXANDER THEOHAROUS, on behalf of himself and all others similarly situated, Plaintiff-Appellant, v. HENRY FONG, METROMEDIA INTERNATIONAL GROUP, INC., ET. AL., Defendants-Appellees.

LESLIE SCHUETTE, on behalf of herself and all others similarly situated, Plaintiff-Appellant, v. EDWARD E. SHAKE, Defendant-Appellee.

Nos. 00-12532, 00-12533

IN THE UNITED STATES COURT OF APPEALS FOR THE ELEVENTH CIRCUIT

July 11, 2001

[Copyrighted Material Omitted]

[Copyrighted Material Omitted] Appeals from the United States District Court for the Northern District of Georgia. D. C. Docket Nos. 98-CV-2266-CV-JEC-1, 98-03034-CV-JEC-1

Before EDMONDSON, HILL and KRAVITCH, Circuit Judges.

KRAVITCH, Circuit Judge:

I.

Plaintiffs Alexander Theoharous and Leslie Schuette appeal the district court's dismissal of their class action complaints against defendants Henry Fong and Metromedia International Group, Inc. alleging violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the "Exchange Act"), 15 U.S.C. §§ 78j(b) and 78t(a), and Rule 10b-5 promulgated thereunder by the Securities and Exchange Commission, 17 C.F.R. § 240.10b-5.

II.

The plaintiffs filed these class actions on behalf of persons who purchased the securities of Roadmaster Industries, Inc. between November 7, 1995 and August 22 1997 (the "class period").¹ The plaintiffs allege that throughout the class period the defendants² made materially false and misleading statements and concealed material facts concerning Roadmaster's financial performance, thereby deceiving the investing public about the company's financial condition until its demise in bankruptcy in August 1997.

Before shutting down its operations, Roadmaster was engaged in the business of manufacturing bicycles, fitness equipment, and toys. In 1994, Roadmaster entered into an agreement with Metromedia in which Roadmaster obtained four Metromedia subsidiaries in exchange for, inter alia, approximately 39% of Roadmaster's outstanding stock ("the Metromedia transaction"). As part of this transaction, Metromedia became a party to an agreement with Roadmaster, Fong, and Edward Shake (Roadmaster's Chief Operating Officer and a board member until September 6, 1996), the purpose of which was to "provide among themselves for the future management of Roadmaster and for the composition of the Board of Directors of Roadmaster." The parties agreed to vote their Roadmaster shares in favor of Metromedia's four and Roadmaster's five designees to the Roadmaster board of directors, and to use their best efforts to cause at least one Metromedia-designated director to serve on each committee of the board. Fong also agreed to cause his company Equitex, Inc., a closed-end fund owning 10.5% of Roadmaster's stock, to vote its shares in support of the four Metromedia-designated directors. In addition, in connection with the Metromedia Transaction, Roadmaster amended its bylaws to provide that the Roadmaster board could adopt, alter, or repeal the amended bylaws only by an affirmative vote of two-thirds of its nine directors, and that a two-thirds vote of outstanding shares was required for shareholders to adopt, amend, alter, or repeal any provision of the amended bylaws. Thus, Metromedia's four board designees and 39% equity stake gave it a veto power on these issues.

During the two-plus years following the Metromedia transaction, although Roadmaster's financial statements indicated that business was down, its press releases consistently predicted financial recovery and growth. For example, Fong was quoted as saying that the sale of one of Roadmaster's subsidiaries "resulted from [Roadmaster's] ongoing strategic plan, rather than pressure from creditors;" and Roadmaster stated in a 1996 press release that its "restructuring efforts in the fitness division will lead to improved profitability," and predicted in a 1997 press release that "we . . . expect 20% revenue growth in 1997 over 1996." On August 22, 1997, however, Roadmaster announced that it was in a "crucial financial situation," and that it had failed to make the August 15, 1997 interest payments on its 8% debentures. One week later, on August 29, 1997, Roadmaster filed for bankruptcy protection under Chapter 11 of the United States Bankruptcy Code.

Theoharous filed his class action on August 19, 1998, and Schuette filed hers on October 18, 1998. The district court dismissed Theoharous's complaint because it (1) failed to allege Fong's scienter sufficiently,³ (2) failed to allege that Metromedia directly made any misrepresentations or omissions that could result in liability under Section 10(b) of the Exchange Act, and (3) failed to allege facts upon which Metromedia could be held liable as a "controlling person" under Section 20(a). The district court dismissed Schuette's complaint as barred by the statute of limitations.⁴ Upon through review of the record, we affirm.

III.

"We review the district court's order of dismissal de novo and will uphold a dismissal only if it appears beyond doubt that the allegations in the complaint, when viewed in the light most favorable to the plaintiff, do not state a claim upon which relief can be granted." Dillard v. Baldwin County Comm'rs, 225 F.3d 1271, 1275 (11th Cir. 2000).

IV.

Section 10(b) of the Exchange Act makes it unlawful "[t]o use or employ, in connection with the purchase or sale of any security . . . , any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the Commission may prescribe." 15 U.S.C. § 78j(b). Rule 10b-5, promulgated by the SEC, provides that

It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,

(a) To employ any device, scheme, or artifice to defraud,

(b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or

(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.

17 C.F.R. § 240.10b-5. "A successful cause of action under Section 10(b) or Rule 10b-5 requires that the plaintiff prove (1) a misstatement or omission (2) of a material fact (3) made with scienter (4) upon which the plaintiff relied (5) that proximately caused the plaintiff's loss." McDonald v. Alan Bush Brokerage Co., 863 F.2d 809, 814 (11th Cir. 1989).

Regarding the scienter element, the Private Securities Litigation Reform Act, 15 U.S.C. § 78u-4 et seq., (the "PSLRA") provides that "the complaint shall, with respect to each act or omission alleged to violate this chapter, state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind." 15 U.S.C. § 78u-4(b)(2). There are two relevant "states of mind" under the PSLRA. First, for "forward-looking"⁵ statements, "the plaintiff must prove that the defendant made the statement with 'actual knowledge' that it was 'false or misleading.'" Harris v. IVAX Corp., 182 F.3d 799, 803 (11th Cir. 1999) (quoting 15 U.S.C. § 78u-5(c)(1)(B)(i)).⁶ Second, for statements that are not "forward-looking," the plaintiff must allege particular facts giving rise to a strong inference that the defendant acted "in a severely reckless manner." Bryant v. Avado Brands, Inc., 187 F.3d 1271, 1287 (11th Cir. 1999). "Severe recklessness is limited to those highly unreasonable omissions or misrepresentations that involve not merely simple or even inexcusable negligence, but an extreme departure from the standards of ordinary care, and that present a danger of misleading buyers or sellers which is either known to the defendant or is so obvious that the defendant must have been aware of it." Id. at 1282 n.18 (internal citations omitted).

A. The allegations against Fong.

Paragraph 69 of the complaint alleges that "on January 29, 1996, Fong was quoted as stating falsely that the [sale of one of Roadmaster's subsidiaries] 'resulted from [Roadmaster's] ongoing strategic plan, rather than pressure from creditors.'" (second alteration in original). Because this statement was not forward-looking, the plaintiffs were required only to allege particular facts giving rise to a strong inference that Fong acted with severe recklessness when he made the statement. As the district court correctly concluded, however, because the plaintiffs did not allege the context in which Fong made this statement, it does not appear from the face of the complaint that Fong must have known that the statement presented a danger of misleading buyers or sellers. As such, the plaintiffs failed to plead with particularity Fong's scienter with respect to this statement, so paragraph 69 does not state a claim under the PSLRA.

Paragraph 76 alleges that "[i]n the Annual Report to Shareholders filed with the SEC in April 1996 . . . , Roadmaster heralded the [sale of one of its subsidiaries] as marking the 'turnaround' for the company." This paragraph does not state a claim against Fong because it does not attribute any statement to him. Even if the paragraph had attributed the statement to Fong, it would have failed to state a claim against him because it does not allege with particularity Fong's scienter with respect to the statement. Because the statement pertained to future economic performance, it was foward-looking, and the plaintiffs therefore would have been required to allege that Fong possessed actual knowledge of the statement's falsity, which the plaintiffs did not do.

Paragraph 95 alleges that "Roadmaster stated in a press release that its 'restructuring efforts in the fitness division will lead to improved profitability,' and [that] it was 'confident [...