from the fact that RCP knew the possibly material facts that were not disclosed -- it knew that Mitsubishi had refused to meet to discuss its future intentions and had rebuffed an overture directed at achieving an extraordinary transaction -- but nevertheless did not alter its prior disclosure language. (Pl. Mem. 8-11) There are two fatal flaws in the argument, however.
To the extent that plaintiff argues that a strong inference of fraud must be drawn from the mere fact of a material omission, it ignores the fact that scienter -- intent to defraud or recklessness -- is an essential element of plaintiff's Rule 10b-5 cause of action. Ernst & Ernst v. Hochfelder, 425 U.S. 185, 47 L. Ed. 2d 668, 96 S. Ct. 1375 (1976); SEC v. Coven, 581 F.2d 1020, 1025 (2d Cir. 1978), cert. denied, 440 U.S. 950, 59 L. Ed. 2d 640, 99 S. Ct. 1432 (1979). While it undoubtedly is true that the nature of a particular omission in a particular factual context may give rise to an inference of fraud or recklessness, it would be folly to hold, as plaintiff would have the Court do, that the knowing failure to disclose a material fact in and of itself necessarily gives rise to a strong inference of fraud. There are far too many circumstances in which a material omission would evidence no such mental state. The person or entity responsible might have held a perfectly reasonable and good faith, if ultimately mistaken, belief that the fact omitted was not material, to name but one. Hence, the adoption of so mechanical a rule would gut Rule 9(b) and lower the bar to unwarranted litigation far too low. See Powers, 57 F.3d at 192 (Newman, C.J., dissenting).
Quite apart from the error in suggesting that a material omission necessarily gives rise to an inference that the omission was made with a fraudulent or reckless state of mind, the facts in this case do not warrant such an inference. Here, the deficits, the lack of any obligation of Mitsubishi and the Rockefellers to continue to fund them, and the likely consequences of a failure either to persuade them to continue to fund or to find another solution to the Borrowers' problem all were fully disclosed by defendant and well known to the public. That the Borrowers and RCP would seek to find some way out of this most unhappy situation was obvious to all. That neither Mitsubishi nor the Rockefellers yet had "stepped up to the plate" was equally obvious from the lack of such an announcement. In these circumstances, RCP may well have thought that the alleged refusal by Mitsubishi to discuss its future plans or to engage in a restructuring or acquisition -- a refusal that allegedly took place in the fourth quarter of 1993, almost two years before the May 1995 expiration of the letters of credit securing the funding of the deficits through that date (am cpt PP 14-15) -- was neither unequivocal nor irrevocable and therefore was not sufficiently significant to warrant disclosure, particularly given the extensive disclosure that was made concerning the risk that funding would cease.
In any case, the facts are not such that defendant's knowledge of Mitsubishi's refusal to meet or consider an extraordinary transaction strongly suggests reckless or conscious misbehavior as opposed to a good faith effort to discharge defendant's obligations under the securities laws
in an appropriate manner or simple negligence.
Cosmas v. Hassett, 886 F.2d 8 (2d Cir. 1989), the case upon which plaintiff relies in support of this argument, serves to illustrate its deficiency. The defendant in that case had issued bullish statements about its prospects and, it fairly may be said, touted its stock by pointing to important new institutional sales to the People's Republic of China ("PRC"). Id. at 10. Some months later, it announced a write down of inventory due to the cancellation of anticipated sales to PRC customers as a result of PRC import restrictions. Id. The Second Circuit upheld the amended complaint against a Rule 9(b) attack on the ground, among others,
that the requisite inference of scienter could be drawn from the defendant's knowledge of the import restrictions. Id. at 13. The import restrictions, however, were an obvious and unequivocal bar to the achievement of the rosy results that the defendant had predicted from sales to the PRC. If the defendant knew of the restrictions, as the amended complaint alleged, it almost certainly knew that its bullish statements were false or acted in reckless disregard of their truth -- quite unlike the situation in this case. In consequence, even if Cosmas is properly read as drawing the inference of scienter solely from the defendant's knowledge of the PRC import restrictions, the case is of no avail to plaintiff. See In re Leslie Fay Companies, Inc., 835 F. Supp. 167, 173 (S.D.N.Y. 1993) (" Cosmas states only that a motive to commit fraud need not be pled if plaintiffs adequately identify circumstances indicating conscious behavior . . .").
Plaintiff seeks also to bring itself within the motive and opportunity line of cases. It argues that the defendant was motivated by a desire to raise additional capital without depressing the market price and by a threat to RCP's corporate existence and to the continued employment of its senior management. (Pl. Mem. 11)
The Court has dealt already with the suggestion that RCP withheld the "bad news" in order to raise capital. As was pointed out in L.L. Capital I, 921 F. Supp. at 1184, San Leandro requires rejection of the argument, as the Circuit there held that an allegation that Philip Morris delayed disclosure of adverse information to maximize the marketability of a $ 700 million offering of debt securities was insufficient to establish the motive necessary to this branch of the Rule 9(b) test. This case, moreover, is even stronger in this respect than San Leandro because the securities issuance that supposedly motivated the nondisclosure in this case was a $ 21 million offering made to settle a class action rather than a material capital raising endeavor. The offering certainly did not hold out any serious prospect of altering the dire financial straits in which RCP found itself. Hence, there is no basis for supposing it motivated an alleged fraud of the sort alleged.
The contention that RCP withheld the information in question to protect its existence and the jobs of its senior management simply is irrational. RCP and, therefore, its managers, were protected against default until May 1995 by the letters of credit. The whole world knew that the company then would be bankrupt unless Mitsubishi and the Rockefellers continued to fund the deficit or some other extraordinary corporate event took place. Plaintiff has not even tried to explain how RCP and its management were rendered any more secure by nondisclosure of Mitsubishi's refusal to meet or to engage in an extraordinary transaction. If, as plaintiff suggests, Mitsubishi's alleged actions in the fourth quarter of 1993 made it inevitable that it would "pull the plug," plaintiff nevertheless has failed to articulate any colorable theory on which RCP or its management stood to benefit from temporarily concealing that fact, the public disclosure of which ultimately was inevitable.
As the circumstances do not give rise to a strong inference of scienter, and as there is no rational basis for concluding that defendant had any motive to commit fraud by withholding the information it allegedly withheld, the Court holds that the complaint does not allege fraud with the particularity required by FED. R. CIV P.9(b). This conclusion makes it unnecessary to address defendant's argument that the complaint fails to state a claim upon which relief may be granted because it fails to allege that plaintiff was injured as a consequence of the alleged securities law violation.
For the foregoing reasons, defendant's motion to dismiss the complaint is granted. The Clerk shall enter judgment accordingly.
Dated: September 24, 1996
Lewis A. Kaplan
United States District Judge