The opinion of the court was delivered by: JOHN GLEESON
JOHN GLEESON, United States District Judge:
The plaintiffs are purchasers of defendant MTC Electronic Technologies Co., Ltd. ("MTC") stock. They have brought this putative class action
against MTC, several of its officers and directors, its accountant and its underwriters, alleging violations of the federal securities laws. Two of the individual defendants are also charged with violating the Racketeer Influenced and Corrupt Organizations Act ("RICO").
In a hearing on April 15, 1994, the Hon. Reena Raggi denied defendants' motions to dismiss the complaint. Shortly thereafter, the Supreme Court decided Central Bank N.A. v. First Interstate Bank, 128 L. Ed. 2d 119, U.S. , 114 S. Ct. 1439 (1994), eliminating aider and abettor liability under Section 10(b) of the Securities Exchange Act of 1934. In light of the holding of Central Bank, Judge Raggi allowed the plaintiffs to amend their complaint. After the plaintiffs' amended their complaint, the defendants filed another round of motions to dismiss. The case was subsequently reassigned to this Court. On April 10, 1995, the Court issued an order stating that the defendants' renewed motions to dismiss were granted in part and denied in part and that this opinion, which sets forth the reasons for those rulings, would follow.
MTC is a Canadian corporation engaged in the importation, primarily into Canada and the United States, of consumer electronics. At the heart of this case is a series of representations by the defendants regarding purported joint venture agreements between MTC and various entities in the People's Republic of China. MTC claimed that these agreements would allow it to provide cellular telephone service and equipment to hundreds of millions of customers in China. In press statements and in filings with the Securities Exchange Commission ("SEC"), MTC asserted, among other things, that (1) the agreements gave MTC the exclusive right to provide cellular phone and paging services to 300 million people in China; (2) MTC would own and operate the cellular telephone networks to be created by the joint ventures; (3) MTC had developed the only pagers on the market capable of displaying Chinese characters; and (4) the agreements were final and legally binding contracts.
The plaintiffs contend that these statements were false, and that MTC had no binding agreements in China and no reasonable expectation of ever receiving revenues from such projects. They further contend that these false statements were made in order to artificially inflate the value of MTC stock in anticipation of a large stock and debt offering in late 1992. During the period in which these representations were made, the price of MTC stock skyrocketed from $ 5.00 per share to $ 30.00 per share.
It is further alleged that during this rise in the price of MTC stock, the Chief Executive Officer and President of MTC, Miko Leung, and his brother Sit Wa Leung, who was President of an MTC subsidiary and member of MTC's Board of Directors, illegally converted thousands of shares of MTC stock, realizing personal profits in the millions of dollars. Peter Jensen, a Director of MTC and a member of the Board of Directors' Audit Committee, also allegedly took advantage of the high price of MTC stock by exercising stock options, and netting a profit of $ 173,992.
Finally, the complaint alleges that when the truth about the "agreements" in China was brought to light, MTC's stock price tumbled, thereby injuring the named plaintiffs and the class members they hope to represent.
The plaintiffs have brought this action against MTC, Miko Leung, Sit Wa Leung, Peter Jensen, Alan Leung (the son of Sit Wa Leung and the Manager of MTC's Marketing Department), Robert Farr (Vice President of Marketing), Goodwin Wang (Vice President of Mobile Communications), David Wong (Executive Controller and Chief Financial Officer), Edilberto Pozon (Member of MTC's Board of Directors and the Board's Audit Committee), and Thomas Lenagh (Member of the Board of Directors since 1992 and a former member of the Audit Committee). In addition, the Plaintiffs have named as defendants Diawa Securities America, Inc. ("Diawa"), MTC's underwriter for its 1992 stock offering, H.J. Meyers & Co. ("H.J. Meyers"), the underwriter of MTC's 1991 stock offering, and BDO Dunwoody Ward Mallette ("Dunwoody"), a Canadian public accounting firm.
The complaint contains three counts. Count One accuses all of the defendants of violating Section 10(b) of the Securities Exchange Act of 1934 ("the Exchange Act") (15 U.S.C. § 78j), and Rule 10b-5 (17 C.F.R. § 240.106-5), promulgated thereunder by the SEC. All of the defendants are alleged to be primary violators of the statute and the rule and to have conspired to violate those provisions. Count Two is brought against all of the individual defendants (Miko Leung, Sit Wa Leung, Alan Leung, Robert Farr, Goodwin Wang, David Wong, Edilberto Pozon, Peter Jensen and Thomas Lenagh), and alleges that they violated Section 20(a) of the Exchange Act in their capacity as "controlling persons" at MTC. Finally, Count Three alleges that Miko Leung and Sit Wa Leung violated the RICO statute, 18 U.S.C. § 1962(c), by participating in the conduct of the affairs of MTC through a pattern of racketeering activity involving mail fraud, wire fraud, securities fraud and the transportation of stolen securities.
With the exception of Diawa, all of the defendants have brought motions to dismiss. In all, seven motions have been made. Pozon and Jensen move to dismiss the complaint in its entirety for failure to plead fraud with particularity. Farr and Wang move to dismiss Count One for failure to state a claim of primary liability against them. MTC, Farr, Jensen, Wang, Lenagh, Pozon, and Wong (referred to herein collectively as the "MTC Defendants") move to dismiss Count One for failure to state a claim to the extent that it alleges a conspiracy to violate Section 10(b) and Rule 10b-5. Miko Leung and Sit Wa Leung move to dismiss the RICO count for failure to state a claim. Alan Leung moves to dismiss Counts One and Two for failure to plead fraud with particularity. H.J. Meyers moves to dismiss for failure to state a claim of primary liability against it or, in the alternative, to strike certain portions of the complaint. Finally, Dunwoody moves to dismiss for failure to state a claim of primary liability and for failure to plead fraud with particularity.
In passing on these motions to dismiss, I have a limited task. The allegations in the complaint must be accepted as true, and must be construed favorably to the plaintiffs. Further, the motions can be granted only if it appears beyond doubt that the plaintiffs can prove no set of facts entitling them to relief. Scheuer v. Rhodes, 416 U.S. 232, 236, 40 L. Ed. 2d 90, 94 S. Ct. 1683 (1974); Conley v. Gibson, 355 U.S. 41, 45-46, 2 L. Ed. 2d 80, 78 S. Ct. 99 (1957).
Further, MTC's Form 20-F Annual Report For Fiscal Year Ended January 31, 1994, reveals that the purported sales of 60,000 fax machines during 1991, 1992 and 1993 in fact did not occur. The company has told its shareholders that it believes that payments received for these fabricated "sales" came from companies controlled by former management. In addition, the company reported that a $ 1.25 million management fee, purportedly paid in connection with the fax machine "sales" and recorded as income in fiscal year 1992, was never paid to MTC. These and other revelations have required MTC to materially restate its financial statements for fiscal years 1991, 1992 and 1993.
A. The Claimed Failure to Plead Fraud With Particularity (Pozon and Jensen)
Defendants Edilberto Pozon and Peter Jensen move to dismiss the complaint for failure to meet the pleading requirements of Rule 9(b) of the Federal Rules of Civil Procedure. In allegations involving fraud, Rule 9(b) requires that "the circumstances constituting fraud or mistake shall be stated with particularity. Malice, intent, knowledge, and other conditions of mind of a person may be averred generally." Fed. R. Civ. P. 9(b).
Rule 9(b) is a departure from the normal pleading requirements of the Federal Rules. In most cases, the rules merely require the plaintiff to plead a "short and plain statement" setting forth the allegations and grounds for relief. Fed. R. Civ. P. 8(a). The Second Circuit has held that the requirements of Rule 9(b) and Rule 8(a) "must be read together." Ouaknine v. MacFarlane, 897 F.2d 75, 79 (2d. Cir. 1990).
At a minimum, a complaint claiming fraud "must allege the time, place, speaker, and sometimes even the content of the alleged misrepresentation." Id. As for scienter, a complaint alleging fraud must at least set out facts "giving rise to a 'strong inference' of fraudulent intent." Id. (citations omitted); see also IUE AFL-CIO Pension Fund v. Herrmann, 9 F.3d 1049, 1057 (2d Cir. 1993). In Section 10(b) cases, the Second Circuit has established two methods of properly pleading scienter:
the requisite "strong inference" of fraud may be established either (a) by alleging facts to show that defendants had both motive and opportunity to commit fraud, or (b) by alleging facts that constitute strong circumstantial evidence of conscious misbehavior or recklessness.
Shields v. Citytrust Bancorp, Inc., 25 F.3d 1124, 1128 (2d Cir. 1994).
However, the Second Circuit has carved out an exception to this rule for "insiders and affiliates." If the defendants are insiders, then "'no specific connection between fraudulent representations . . . and particular defendants is necessary.'" DiVittorio v. Equidyne Extractive Indus., 822 F.2d 1242, 1247 (2d Cir. 1987) (quoting Luce v. Edelstein, 802 F.2d 49, 54-55 (2d Cir. 1986)).
Pozon and Jensen are alleged to have signed prospectuses containing materially false and misleading information. Moreover, Pozon and Jensen together constituted the Audit Committee -- a committee charged with the responsibility of overseeing the work of defendant BDO Dunwoody. As noted above, the plaintiffs' allegations -- which I must regard as true -- reveal fraud, theft of securities and the fabrication of financial information by senior management at MTC. In short, the complaint alleges massive accounting fraud during the class period. Considering that Pozon and Jensen were charged with overseeing the conduct of MTC's accountants. I would conclude that the complaint satisfies the requirements of Rule 9(b), even if the allegations against them were limited to their status at MTC and their signing of fraudulent prospectuses. See Kimmel v. Labenski, 1988 U.S. Dist. LEXIS 1391, 1988 WL 19229, *4 (S.D.N.Y. Feb. 10, 1988) (holding that the signatories of a SEC 10-K forms are "insiders"); Greenfield v. Professional Care, Inc., 677 F. Supp. 110, 114-15 (E.D.N.Y. 1987) (board members who serve on the audit committee should be treated as corporate insiders). The motions of defendants Pozon and Jensen are therefore denied.
B. The Claimed Failure To Plead A Primary Violation Of Section 10(b) (Farr and Wang)
Defendants Robert Farr and Goodwin Wang move to dismiss Count One for failure to plead a primary violation against them under Section 10(b) of the Act.
The allegations against Farr and Wang are limited to their status as officers: Farr is a long-term insider at MTC, and Wang has been Executive Vice President for Marketing at MTC since 1988 and the company's Vice President for Mobile Communications since May of 1992.
Seizing upon Central Bank, Farr and Wang argue that, since no false statements are specifically attributed to them, they are not alleged to have committed a primary violation of Section 10(b). However, their argument fails because they have, in fact, been charged as primary violators.
Even assuming arguendo that a corporate insider must be personally responsible for a particular misstatement or manipulative device in order to be primarily liable -- a proposition I do not accept -- there is no reason to conclude that such responsibility must be specifically alleged in the complaint. Indeed, the rationale for the relaxed pleading requirements under Rule 9(b) suggests otherwise.
As discussed above, under the Luce line of cases, "no specific connection between fraudulent representations . . . and particular defendants is necessary where . . . defendants are insiders or affiliates participating in the offer of the securities in question." Luce, 802 F.2d at 55. Because Farr and Wang are insiders, the "group pleading" in the complaint is sufficient to survive a motion to dismiss.
The underlying purpose of allowing "group pleading" against insiders is that "a plaintiff may not be able to plead the precise role of each defendant when a group defendants has acted in concert . . . Under those circumstances, it is appropriate to plead the actions of the group and leave the development of individual liability questions until some discovery has been undertaken, rather than to dismiss the plaintiff because he does not have what may be concealed information." In re Ann Taylor Stores Securities Litig., 807 F. Supp. 990 (S.D.N.Y. 1992) (quoting Jackson v. First Fed. Sav. F. A., 709 F. Supp. 863, 878 (E.D. Ark. 1988)). As Judge Raggi noted when she initially declined to dismiss the allegations against Farr and Wang:
their positions within the company and the fraud alleged does give rise to questions about what they knew and whether they would have had to have known that the company was repeatedly putting out false statements. I simply do not know at this point what their control over the documents was, what their role in preparing any of them was.
To the extent that the plaintiffs do not know either, I cannot say at this point that dismissal ...