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IN RE MERRILL LYNCH TYCO RESEARCH SECURITIES LITIGATION

February 18, 2004.

IN RE MERRILL LYNCH TYCO RESEARCH SECURITIES LITIGATION


The opinion of the court was delivered by: MILTON POLLACK, Senior District Judge

ON MOTION TO DISMISS DECISION AND ORDER
Defendants Merrill Lynch & Co., Inc. and its wholly owned subsidiary Merrill Lynch, Pierce Fenner & Smith Incorporated (together referred to as "Merrill Lynch") move to dismiss the Consolidated Amended Complaint dated September 25, 2003 ("Complaint" or "Compl.") for, among other things, (1) failure to state a claim upon which relief can be granted, pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure, and (2) failure to plead fraud with particularity, as required by the Private Securities Litigation Reform Act of 1995 ("Reform Act"), see 15 U.S.C. § 78u-4(b), and Rule 9(b) of the Federal Rules of Civil Procedure. Individual defendant Phua K. Young ("Young"), a former analyst and Managing Director of Merrill Lynch, joins the motion. For the reasons set forth below, the motion is granted. Page 2

  OVERVIEW

  This is a federal securities class action to recover damages for alleged violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the "Exchange Act"), and Rule 10b-5 issued thereunder by the SEC. The suit is against the Merrill Lynch companies and an individual formerly in their employ as an analyst. It is asserted by Lead Plaintiff Ronald Gutzwiller on behalf of himself and a putative class of all persons who acquired the common stock of Tyco International Ltd. ("Tyco"). The purchases were made in the open market at some unspecified date or dates during the period from January 22 to June 6, 2002 (the "class" period); a period in which a $75 billion decline occurred in the market capitalization of Tyco stock.

  Merrill Lynch in its published research reports had publicly rated Tyco's asset valuation range from $60-$70 per share when the stock was trading in the $30 range. Over time the valuations by Merrill Lunch were successively lowered during the relevant period as circumstances dictated.

  During the class period Tyco was contemplating a corporate reconstruction involving a possible sale of Tyco's financial service subsidiary, the CIT Group, Inc. ("CIT"), the proceeds of which would be applied to debt reduction. The plans did not eventuate during the period.

  Plaintiff asserts that the putative class's losses on their purchases were caused by a statement which appeared in a Merrill Lynch earnings model: an estimate that CIT could be sold or spun-off for $7-$8 billion.

  The complaint fails to plead that the alleged fraud was the proximate cause of the losses claimed. Lead Plaintiff makes the conclusory allegation that he "purchased the common stock of Tyco at an artificially inflated price during the Class Period . . . and has been damaged thereby." Self-evidently, such allegations are insufficient to allege loss causation. Lead Plaintiff also alleges that the decline of Tyco's stock from its opening price on June 6 to its opening price on June 7, 2002 was "directly attributable to Merrill Lynch's disclosure on June 6, 2002 that Defendants did not support Tyco's stock, management, and operations." However, the language in the report that Plaintiff characterizes as a disclosure does not actually "disclose" anything relevant to Plaintiff's claim. Page 3

  DISCUSSION

 I. THE COMPLAINT FAILS TO STATE A CLAIM FOR SECURITIES FRAUD

  A. Plaintiff Fails to Plead That The Alleged Fraud Was The Proximate Cause of His Losses

  Plaintiff fails to plead that the Merrill Lynch research reports were the proximate cause of his losses. The Complaint plainly alleges that Plaintiff "purchased the common stock of Tyco at an artificially inflated price during the Class Period . . . and has been damaged thereby." Compl. ¶ 8. The Complaint also alleges that the alleged "wrongful conduct" of Merrill Lynch "caused the artificial inflation of Tyco's common stock during the Class period and caused Lead Plaintiff and members of the Class to sustain losses when they purchased Tyco common stock at these artificially inflated prices." Compl. ¶ 2. Such allegations are insufficient to allege loss causation. To plead loss causation in a case involving material misstatements and omissions, a plaintiff must allege something more than mere price inflation or "purchase-time value disparity." See Emergent Capital Investment Mgmt. v. Stonepath Group. Inc., 343 F.3d 189, 198 (2003).*fn1

  Plaintiff simply does not and cannot identify any factual allegations in the Complaint from which it can be inferred that the alleged false statements in the research reports were the foreseeable cause of the decline in Tyco's stock price on June 6, 2002, the last day of the class period, as opposed to the myriad negative factual information about Tyco that entered the marketplace that same day. Plaintiff fails even to address the requirement that he must allege facts showing that the misrepresentations and omissions alleged in the complaint were the proximate cause for the decline in Tyco's stock price. See Emergent. 343 F.3d at 198.

  Plaintiff challenges Merrill Lynch's projection that CIT could be sold for $7-$8 billion. Models containing the assumption that CIT could be sold for $7-$8 billion appeared in research reports dated 2/14/02, 2/15/02, 3/1/02, 3/19/02, 3/20/02 and 4/1/02. Another report, one issued on April 15, 2002, opined that "if Tyco is able to announce a sale of CIT for $7.5$8B [sic] (the Page 4 range discussed in the press three weeks ago) in cash, we believe that the shares would react very favorably." The assumption was superseded by the issuance of a new estimate in a June 4, 2002 Merrill Lynch research report which downgraded Tyco's rating from a B-l-1 (Average Risk, Strong Buy) to a D-3-3 (High Risk, Neutral). The June 4th report suggested a lower expectation for the likely proceeds from a sale of CIT (that is, a price of $5 billion) when it noted that all the proceeds from the private sale or IPO of CIT were "slated to pay down debt" and then hypothesized that a possible sale or IPO of CIT would produce $5 billion with which to pay down debt. ("Assuming that $5 billion is paid down post-CIT . . .") The June 4th report also contained a brief section entitled "Liquidity Crisis?". But Tyco's shares actually closed higher on the day of the report (June 4) and on June 5, 2002. Faced with this obvious impediment to his "fraud" claim against Merrill Lynch, Plaintiff instead chose to end the class period on June 6, 2002, a date upon which Tyco's stock was pummeled by negative reports concerning its former CEO's use of company funds to buy artwork, an $18 million apartment and that the SEC had opened an investigation.

  Fatal to Plaintiffs "fraud" claim is the fact that the June 6, 2002 research report does not disclose anything new about the projected size of the proceeds from a sale, spin-off or IPO of CIT; about allegedly insincere opinions regarding Tyco's financial position and stock price; about an allegedly illicit relationship between Tyco, Young, and Merrill Lynch; or about Young and Merrill Lynch's allegedly undisclosed liquidity concerns.*fn2 Accordingly, Plaintiff has failed to assert any causal relationship between the "fraud" alleged and the decline in the trading price of Tyco's securities on June 6, 2002. Because the June 6 research report did not discuss the subject matter of the alleged fraud, as a matter of law, the decline in Tyco's trading price on that date cannot be considered a reaction to the disclosure of the alleged "fraud." See AUSA Life Ins. Co. v. Ernst & Young. 206 F.3d 202, 215 (2d Cir. 2000) (where alleged fraud did not manifest itself during putative class period, no loss causation); Robbins v. Koger Props., ...


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