The opinion of the court was delivered by: WERKER
In this securities class action arising out of the failure of the Walter Reade Organization, Inc. ("Reade"),
defendant Peat, Marwick, Mitchell & Co. ("PMM"), a partnership of certified public accountants which served as the independent auditor for Reade, moves to dismiss the complaint brought against it by Hans Jacobson (the "plaintiff") for failure to allege fraud with the degree of particularity required by Rule 9(b), Fed. R. Civ. P., and for failure to state a claim upon which relief can be granted, Rule 12(b)(6), Fed. R. Civ. P.
PMM's motion is granted herein but plaintiff is given leave to serve within twenty days an amended complaint in accordance with the decision of this court.
The complaint was filed on January 11, 1977. It alleges jurisdiction under section 27 of the Securities Exchange Act of 1934 (the "Act"), 15 U.S.C. § 78a, et seq. (1970), and contains two counts the first is brought under section 18(a) of the Act, 15 U.S.C. § 78r(a) (1970); the second, under section 10(b) of the Act, 15 U.S.C. § 78j(b) (1970), and the SEC rules and regulations thereunder, including presumably rule 10b-5, 17 C.F.R. 240.10b-5. Plaintiff seeks damages substantially in excess of $1,000,000 on his own behalf and for a class "consisting of all purchasers and sellers of the common stock of [Reade] from 1970 to date but excluding [the defendants named] (para. 14).
As plaintiff readily concedes, the complaint was drafted "primarily" from information set forth in note 3 to the Consolidated Financial Statements accompanying the Form 10-K which Reade submitted to the SEC for calendar year 1975. That note reads as follows:
(3) Unusual Losses and Restatement
Subsequent to December 31, 1975, overstatements of approximately $1,507,000 were discovered in certain net amounts receivable. Upon investigation, it was determined that the overstatements resulted principally from failure to properly evaluate and/or account for various transactions with film distributors, including [Reade's] film distribution division.
[Reade] has been able to identify $600,000 of the overstatements as applying to operations of 1971 and prior years, and such amount has been included in the accompanying consolidated financial statements as an adjustment to accumulated deficit as of January 1, 1974. Although [Reade] believes that the remaining amount of the overstatements, $907,000, resulted from transactions related to periods prior to 1975, it has been unable, principally because of the absence of sufficient related accounting records and other historical data, to determine the periods in which the overstatements occurred. As a result, the $907,000 has been included in the consolidated statement of operations for 1975 under the caption, "operating costs."
Count One of the complaint alleges that for each of the calendar years from 1970 through 1975, Reade filed with the SEC a Form 10-K and other documents required by the Act (para. 20); that each of these Form 10-Ks "contained a certification of [Reade's] financial statement by [PMM]," including a representation that the financial statement fairly presented the financial position of Reade, as well as the results of its operations and changes in its financial position as of the end of that year (para. 21); and that each of the Form 10-Ks was false and materially misleading in that it substantially overstated Reade's accounts receivable and therefore its earnings and net worth for the period in question (para. 22). Count One further alleges upon information and belief that Reade's Form 10-K for calendar year 1971 overstated Reade's accounts receivable by at least $600,000 and that Reade's Form 10-K for calendar year 1974 overstated Reade's accounts receivable by at least $907,000 (para. 23). Count One goes on to recite that "defendants either knew that the Form 10-K's filed by [Reade] . . were materially false and misleading . . or acted in wanton and reckless disregard of the true facts" (para. 24); that plaintiff and each member of the class who bought and sold the common stock of Reade during the relevant period "did so in reliance upon the false financial statements, certifications, documents and reports filed with the S.E.C. at the behest of the defendants" (para. 24); and that Reade's false statements, documents and reports materially affected the prices at which plaintiff and members of the class purchased and sold Reade's common stock. (para. 29).
Count Two of the complaint alleges, in essence, that the facts giving rise to Count One also led to a violation of section 10(b) of the Act and rule 10b-5 thereunder. With respect to Reade's records of its accounts receivable, it is further alleged upon information and belief that the defendants, in order to conceal the true facts from the SEC, other government agencies and the investing public, either failed to keep or destroyed business records of Reade and concealed their absence during the period from 1970 through the date the complaint was filed. (para. 36). It is also alleged upon information and belief that PMM's "certifications" of Reade's Form 10-Ks failed to disclose the absence of these business records or the existence of the defendants' scheme (para. 36). Finally, in Count Two reliance by the plaintiff and members of the putative class is pleaded in the following terms:
Plaintiff and the members of the class effected their purchase [ sic ] and sales of the common stock of [Reade] during the period 1970 to date in the belief and understanding that such purchases and sales were made at valid and legitimate market prices derived from the free play of legitimate market sources and untainted by false or fraudulent statements and filings of the defendants.