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United States District Court, S.D. New York

May 3, 2004.

DL CAPITAL GROUP LLC, Plaintiff, -against- NASDAQ STOCK MARKET INC. and, ROBERT GREIFELD, 90054 Defendants

The opinion of the court was delivered by: CHARLES HAIGHT, District Judge


Plaintiff DL Capital Group LLC ("DL Capital") is an institutional investor which brought this purported class action against Nasdaq Stock Market, Inc. ("Nasdaq") and its President, Robert Greifeld, for monetary losses as a result of defendants' allegedly fraudulent conduct. Nasdaq is a subsidiary of the National Association of Securities Dealers, Inc. ("NASD"). Plaintiff claims that Nasdaq committed fraud in violation of Sections 10(b) and 20(a) of the Securities and Exchange Act of 1934, 15 U.S.C. § 778j(b), 78t(a) ("Exchange Act") and Rule 10b-5 promulgated thereunder by the Securities and Exchange Commission ("SEC"). Pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure, defendants move this Court to dismiss the complaint with prejudice for failure to state a claim upon which relief can be granted.

The captioned action is one of three similar purported class suits before this Court challenging Nasdaq's regulatory actions in the suspension of trading and the cancellation of certain trades in the shares of Corinthian Colleges, Inc. ("COCO") on December 5, 2003. See also Krishnaiah v. Nasdaq Stock Market, Inc., No. 03 Civ. 10008; Fulkerson v. Nasdaq Stock Market, Inc., No. 03 Civ. 10168. Each of the three plaintiffs purports to sue on behalf of all persons or entities who traded the common stock of COCO on the Nasdaq market "between 10:46 a.m. on December 5, 2003 and the time Nasdaq announced the cancellation of all trades in COCO between 10:46 a.m. and 10:58:08 a.m., which was approximately 12:30 p.m., on December 5, 2003, inclusive (the `Class Period') . . ." Complaint in the captioned action, at ¶ 1.

  The three plaintiffs each filed separate motions to consolidate the actions and to be appointed as lead plaintiffs. However, plaintiff Krishnaiah, No. 03 Civ. 10008, has subsequently withdrawn his motion for appointment as lead plaintiff. The motions filed by DL Capital and Fulkerson remain pending. No class has as yet been certified.


  For purposes of this motion, Plaintiff's well-pleaded allegations of fact will be taken as true, in accordance with the standard of review for a motion to dismiss. See Papasan v. Allain, 478 U.S. 265, 283 (1986).


  Nasdaq is a subsidiary of the NASD, a self-regulatory organization ("SRO") registered with the SEC as a national securities association, pursuant to the Maloney Act, 15 U.S.C. § 780-3 et seq., in which Congress delegated power to SROs, such as the NASD, to enforce compliance by members of its industry of "the legal requirements laid down in the Exchange Act and the ethical standards going beyond those requirements." Austin Mun. Sec., Inc. v. National Ass'n of Sec. Dealers, Inc., 757 F.2d 676, 680 (5th Cir. 1985) (citations omitted). However, Congress also granted the SEC broad supervisory responsibilities over SROs, such that they are subject to extensive oversight, supervision and control by the SEC on an ongoing basis. 15 U.S.C. § 78s(a)(3)(B). Every SRO, as well as its members and persons associated with its members, must comply with the multitude provisions of the Exchange Act, as well as its own rules, and the rules of both the SEC and Municipal Securities Rulemaking Board (MSRB). 15 U.S.C. § 78s(g)(1), (h). Should an SRO fail to comply, the SEC has the authority to suspend or revoke the registration of the SRO, or censure or restrict the activities, functions, and operations of the organization, as well as execute further sanctions. Austin, 757 F.2d at 680. The SEC may also initiate judicial proceedings to enjoin any activity that would violate the Exchange Act or the NASD's rules and may seek civil penalties against violators. 15 U.S.C. § 78u(d)(1), (d)(3)(a).

  The NASD has delegated to Nasdaq regulatory responsibilities for developing, operating, and maintaining systems and services for the Nasdaq Stock Market, an electronic, screen-based market system. The NASD has also delegated to Nasdaq responsibility for forming regulatory policies and listing criteria for the stock market, subject to its and the SEC's approval. Pursuant to its delegated authority, Nasdaq oversees the trading of thousands of shares of stock each day on Nasdaq systems.


B. Plaintiff's trades in Corinthian Colleges, Inc.
  COCO is a company that operates 79 for-profit colleges throughout the United States. Its common stock is traded on the Nasdaq Stock Market.

  Beginning on 10:46 a.m. on December 5, 2003, the market price of COCO's shares unexpectedly fell from $57.45 per share to a low of $38.97 per share in a matter of 12 minutes. At 10:55 a.m. Nasdaq received word that the price decline was due to a computer malfunction in a NASD member's order routing system which caused thousands of sell orders to be erroneously flooded into the market. By 10:58 a.m. Nasdaq halted trading in COCO, stating that the price drop was due to the "misuse or malfunction" of an electronic trading system.

  After receiving assurances from NASD members that the problem would not arise again, at 11:50 a.m. Nasdaq disseminated a "pop-up message" to appear on all Nasdaq subscriber screens that read, "NASDAQ IS CURRENTLY REVIEWING ALL TRANSACTIONS IN SYMBOL COCO FROM APPROXIMATELY 10:46 TO 10:58." Five minutes later, at 11:55 a.m., Nasdaq officially resumed trading in COCO. By that point, the price of the COCO stock had recovered from its lows between 10:46 and 10:58 a.m.

  At 11:57 a.m., after trading had resumed, Nasdaq issued a system status message that stated, "TRADING IN COCO RESUMED FOR QUOTES AT 11:50, TRADES AT 11:55. NASDAQ IS CURRENTLY REVIEWING ALL TRANSACTIONS IN COCO FROM APPROXIMATELY 10:46 TO 10:58:08."*fn1 By 12:03 p.m., Nasdaq made the decision to cancel all trades made between 10:46 and 10:58:08 a.m. At this point, however, the decision had not been announced to traders.

  At 12:27 p.m., Nasdaq issued another system status message announcing the cancellation of COCO trades. The message read, in part, as follows:

Nasdaq, on its own motion, has determined that all trades reported to Nasdaq in COCO (Corinthian Colleges Inc.) that were executed today, 12/5/03, from 10:46:00 Eastern Time to 10:58:08 will be canceled, pursuant to UPC Rule 11890.
  Plaintiff alleges that between 11:55 a.m., when Nasdaq resumed trading of COCO shares to 12:27 p.m., when Nasdaq announced its decision to cancel certain COCO trades, plaintiff made trading decisions that resulted in losses. Plaintiff further alleges that Nasdaq's delay in notifying its traders of its decision to cancel COCO trades constituted fraud and bad faith concealment of material information from the market to the detriment of plaintiff and the purported class.

  Defendants move to dismiss the complaint on three grounds. First, they contend that Nasdaq and its officers stand in the shoes of the SEC in regulating the securities market and are therefore absolutely immune from private, monetary damage claims based on their regulatory determinations. Second, defendants argue that plaintiff and the purported class have failed to exhaust their administrative remedies. Third, they argue that plaintiff and the purported class do not have a private right of action against Nasdaq for alleged violations of the Exchange Act.


  A. Standard of Review

  On a motion to dismiss a complaint under Rule 12(b)(6) for failure to state a claim upon which relief can be granted, the trial court's function "is merely to assess the legal feasibility of the complaint, not to assay the weight of the evidence which might be offered in support thereof." Geisler v. Petrocelli, 616 F.2d 636, 639 (2d Cir. 1980); see Ricciuti v. N.Y.C. Transit Authority, 941 F.2d 119, 124 (2d Cir. 1991). "[T]he issue is not whether a plaintiff will ultimately prevail but whether the claimant is entitled to offer evidence to support the claims." Scheuer v. Rhodes, 416 U.S. 232, 236 (1974). The district court should grant a Rule 12(b)(6) motion "only if it is clear that no relief could be granted under any set of facts that could be proved consistent with the allegations." Hishon v. King & Spalding, 467 U.S. 69, 73 (1984) (citing Conley v. Gibson, 355 U.S. 41, 45-46 (1957)). In the case at bar, the motion to dismiss for failure to state a claim must be judged in accordance with the substantive law of civil suits based on violations of § 10(b) of the Exchange Act, and Rule 10b-5, promulgated thereunder. Except in certain circumstances, consideration of a motion to dismiss the complaint must focus on the allegations contained on the face of the complaint. See Cortec Industries, Inc. v. Sum Holdings, L.P., 949 F.2d 42, 47 (2d Cir. 1991), cert. denied, 112 S.Ct. 1561 (1992); Kramer v. Time Warner, Inc., 937 F.2d 767, 773 (2d Cir. 1991). On a motion to dismiss, a district court must accept plaintiff's well-pleaded factual allegations as true, Papasan, 478 U.S. at 283, and the allegations must be "construed favorably to the plaintiff." LaBounty v. Adler, 933 F.2d 121, 123 (2d Cir. 1991). "[A] Rule 12(b)(6) motion to dismiss need not be granted nor denied in toto but may be granted as to part of a complaint and denied as to the remainder." Decker v. Massey-Ferguson, Ltd., 681 F.2d 111, 115 (2d Cir. 1982).

  B. Analysis of Defendants' Absolute Immunity Claim

  Defendants' first argument in support of their motion to dismiss is that as officers standing in the shoes of the SEC in regulating the securities market, they are absolutely immune from private, monetary damage claims based on their regulatory determinations.


1. Evolution of the Absolute Immunity Doctrine as It Applies to SROs.
  Absolute immunity has long been extended to the official conduct of judges, see Pierson v. Ray, 386 U.S. 547, 553-54 (1967); Fields v. Soloff, 920 F.2d 1114, 1119 (2d Cir. 1990), administrative law judges, see Butz v. Economou, 438 U.S. 478, 513-14 (1978), prosecutors, see Imbler v. Pachtman, 424 U.S. 409, 422-24 (1976); Fields, 920 F.2d at 1119, and Presidents of the United States, see Nixon v. Fitzgerald, 457 U.S. 731, 756-57 (1982).

  The policy underlying absolute immunity with respect to government officials is clear. As articulated by Justice O'Connor in Forrester v. White, 484 U.S. 219, 223, 108 S.Ct. 538, 542, 98 L.Ed.2d 555 (1988):

Special problems arise . . . when government officials are exposed to liability for damages. To the extent that the threat of liability encourages these officials to carry out their duties in a lawful and appropriate manner, and to pay their victims when they do not, it accomplishes exactly what it should. By its nature, however, the threat of liability can create perverse incentives that operate to inhibit officials in the proper performance of their duties. . . . When officials are threatened with personal liability for acts taken pursuant to their official duties, they may well be induced to act with an excess of caution or otherwise to skew their decisions in ways that result in less than full fidelity to the objective and independent criteria that ought to guide their conduct.
  Recognizing the "undeniable tension" between the granting of immunity and the "ideal of the rule of law," courts have been "cautious" in recognizing immunity claims and have placed the burden for establishing the justification for immunity squarely on the shoulders of those who seek its safe harbor. Id. at 223-24.

  In Austin, 757 F.2d 676, the Fifth Circuit, in a case of first impression, held that SROs, such as the NASD, also enjoy the protection of absolute immunity. In that case, eleven members of the District Business Conduct Committees ("DBCC"), who acted as disciplinary officers of the NASD, were alleged to have violated the confidentiality of NASD disciplinary proceedings by leaking sensitive information to third parties regarding plaintiff, a municipal securities firm.*fn2 Id. at 682. DBCC members were also alleged to have defamed plaintiffs and spread false reports that plaintiffs would soon be out of business. Plaintiffs sued for monetary damages for economic loss, humiliation, and injury to their reputations. Id. at 682, 684.

  Reiterating the public policy considerations that led to the grant of absolute immunity for government officials, the Austin court used a three-part test first developed in Butz v. Economou, 438 U.S. 478 (1978), to determine whether absolute immunity should be extended to SROs. In Butz, the Supreme Court granted absolute immunity to administrative officials in the Department of Agriculture, who performed functions similar to those of judges and prosecutors. Under the test, a person's official conduct is absolutely immune from civil liability if: 1. The official's functions share the characteristics of the judicial process;


2. The official's activities are likely to result in recriminatory lawsuits by disappointed parties; and
3. Sufficient safeguards exist in the regulatory framework to control unconstitutional conduct.
Austin, 757 F.2d at 688 (citing Butz, 438 U.S. at 510-13, 102 S.Ct. at 2913-14).

  The Austin court found that the actions of the DBCC disciplinary officers met all three criteria, and therefore held those officers, who serve as "surrogates for the SEC, . . . should receive the same immunity their principles possess." Id. at 691.

  The Second Circuit first adopted the Austin court holding in Barbara v. New York Stock Exchange, Inc., 99 F.3d 49 (2d Cir. 1996). In that case, the Court found the reasoning in Austin "persuasive," and held that "the Exchange is absolutely immune from damages claims arising out of the performance of its federally-mandated conduct of disciplinary proceedings." Id. at 58.

  Five years later, D'Alessio v. New York Stock Exchange, Inc., 258 F.2d 93 (2d Cir. 2001) established the principle that absolute immunity is not limited to disciplinary proceedings. Rather, "Barbara [stands] for the broader proposition that a SRO . . . may be entitled to immunity from suit for conduct falling within the scope of the SRO's regulatory and general oversight functions." Id. at 105. Therefore, while it is recognized that not conduct of government officials and SROs is immune from private suits, the question in the case at bar is whether defendants' actions fall within the scope of quasi-governmental powers delegated to them pursuant to the Exchange Act, so that absolute immunity precludes plaintiffs from recovering money damages in connection with their claims. See id. at 106.

  2. Application of Absolute Immunity to Defendants

  Plaintiffs do not challenge Nasdaq's decisions to suspend trading in COCO at 10:58 a.m., resume trading at 11:55 a.m., or even to cancel all COCO trades made between 10:46 to 10:58 a.m. Plaintiffs concede that these actions are part of defendants' adjudicatory and prosecutorial functions that are immune from civil money damage claims. Instead, plaintiffs allege that defendants "fraudulently concealed" their decision to cancel these trades for a period of approximately thirty minutes. According to plaintiffs' recitation of facts, which I take as true for purposes of this motion, at precisely 12:03 p.m. defendants first made the decision to cancel all COCO trades that had been made between 10:46 and 10:58 a.m. However, it was not until 12:27:40 p.m., approximately one-half hour later, that NASDAQ issued a system status message announcing the cancellation of the trades.*fn3 Plaintiffs allege that this delay in announcing its decision demonstrates fraudulent and bad faith concealment of material information from the market to the detriment of all plaintiffs and the purported class.

  Simply characterizing an act or omission as "fraudulent" is not enough to deprive defendants of immunity from suit. Courts have granted immunity to government officials and SRO officers whose actions can be fairly characterized, if not as fraudulent, then at least as bad faith. Such actions include defaming the personal and professional reputation of associates (Austin), de-listing a stock and suspending trading on an initial public offering without any explanation (Sparta), providing false, misleading, and inaccurate information about a litigant to the United States Attorney's Office (D'Alessio), or even ordering the discharge of an air force employee in retaliation for truthful, if embarrassing, sworn testimony before a congressional subcommittee (Nixon). All of these actions, arguably fraudulent in nature, were held to be within the outer limits of the adjudicatory, prosecutorial, or regulatory function of a government or quasi-government official. In keeping with the line of cases cited supra, I conclude that the defendants are entitled to absolute immunity from private suits for damages allegedly suffered by investors trading in COCO shares during the relevant period of time.

  In an effort to avoid this virtually unbroken line of authority, plaintiff at bar stresses the defendants' ability to make announcements with respect to their decisions to suspend and cancel trades of certain shares bought and sold within the stock market they regulated. Specifically, plaintiff alleges that

Nasdaq's statement in which it permitted trading in COCO to resume at 11:55 a.m. was materially false and misleading because Nasdaq omitted the material fact that it had determined the cause of the extraordinary market activity in COCO and all trades between 10:46 a.m. and 10:58:08 a.m. would be cancelled. DL Capital and the Class relied to their detriment on Nasdaq's statement in which it permitted trading to resume.
  But this distinction does not persuade. Since defendants' decision to cancel the COCO trades is protected by absolute immunity, there is no principled reason why defendants' decision to announce such cancellations, or the timing thereof, should not also be immune. Announcing the suspension or cancellation of trades is as much a part of defendants' regulatory duties as is the actual suspension or cancellation of trades. Without the capacity to make announcements, defendants would be stripped of a critical and necessary part of their regulatory powers. It follows that defendants' decision to delay announcing cancellation of COCO trades, whether intentional or unintentional, fraudulent or in good faith, falls squarely within the ambit of their duties and official capacities.

  Nor does the fact that plaintiffs' claims arise under § 10(b) and 20(a) of the Exchange Act and Rule 10b-5 serve to destroy immunity. SRO's are immune from any private right of action for damages for actions falling within the scope of their regulatory conduct. The grant of absolute immunity arose after an intentional calculus in which it was recognized that the victim of an abuse of office might receive no recompense for injury done. See Austin, 757 F.2d at 687. It is important to remember, however, that absolute immunity is granted only when there are sufficient safeguards in the regulatory framework to control unconstitutional conduct. Id. at 688. Our forum does not hold a monopoly on justice. Nor is a private right of action the only channel for redress.


C. Nasdaq and Greifeld's Other Grounds for Dismissal
  Because the defendants are absolutely immune from claims brought by plaintiff in this case, I need not and do not consider defendants' other grounds for dismissal.


D. DL Capital and Irishnaiah's Motions Denied as Moot
  Finally, because I hold today that defendants are absolutely immune from claims brought by plaintiff, I further hold that DL Capital's and Krishnaiah's other Motions to Consolidate the Actions and Be Appointed as Lead Plaintiffs are denied as moot.

  III. Conclusion

  For the foregoing reasons, I hold that NASDAQ and Greifeld are entitled to absolute immunity against the claims brought by plaintiffs. Defendants' motion to dismiss is granted. The Clerk of the Court is directed to dismiss the action with prejudice.


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