The opinion of the court was delivered by: SHIRLEY KRAM, Senior District Judge
On July 18 and 19, 2002, The Washington Post published a
two-part article, "Unconventional Transactions Boosted Sales, Amid Big
Merger, Company Resisted Dot-Corn Collapse," reporting allegations that
AOL Time Warner Inc. had substantially overstated publicly reported
advertising revenue.*fn1 Within hours of the article's publication,
Defendant Robert Pittman, AOLTW's Chief Operating Officer, Board member,
and Head of Operations for the AOL division of the Company, resigned. On
July 24, 2002, AOLTW acknowledged that the Securities and Exchange
Commission ("SEC") was investigating AOLTW's accounting practices.
Amended Complaint ("AC") ¶ 5. On July 31, 2002, the Company confirmed
that the Department of Justice ("DOJ") had commenced a criminal
investigation of AOLTW's accounting practices. Id.*fn2 On August 14, 2002, AOLTW issued a press release, along with its SEC
Form 10-Q filing, in which it publicly acknowledged that advertising
revenue "may have been overstated" in the amount of $49 million with
respect to three transactions over a period of six quarters from 4Q 2000
to 1Q 2002. Id. ¶¶ 5-6.
On October 23, 2002, the Company restated the financial statements of
AOL and AOLTW for eight consecutive quarters (July 1, 2000 through June
30, 2002) by reducing its advertising revenue in the amount of $190
million. Along with its financial restatement, the Company's Form 8-K
filing with the SEC stated:
As a result of the restatement announced on
October 23, 2002 by AOL and AOL Time Warner Inc.
(the "Company"), the Company's financial
statements for the affected periods should no
longer be relied upon, including the audited
financial statements for 2000 and 2001 contained
in the Company's annual report on Form 10-K for
the year ended December 31, 2001.
Id. ¶ 6.
On March 28, 2003, in its SEC Form 10-K filing, AOLTW reported that it
may restate AOL advertising revenue by an additional $400 million for the
years 2001 and 2002. Id. The Company also stated that, "it is
possible that further restatement of the Company's financial statements
may be necessary," with respect to "the range of other transactions"
being investigated by the SEC and DOJ. AC ¶ 6. To date, the Company has either restated, or acknowledged the
possibility of restating advertising revenue in the amount of $477
million. Id. ¶ 7.
II. PROCEDURAL HISTORY OF THIS ACTION
On July 18, 2002, the day that the first Washington Post
article was published, two shareholder class action complaints were filed
in this Court alleging violations of § 10(b) of the Exchange Act.
See Butler Decl. Ex. 29 & 30. Those two initial class
action complaints were followed by 27 similar class action complaints,
including one filed by the Minnesota State Board of Investment ("MSBI")
on September 16, 2002. Butler Decl. Ex. 31.
All of these putative class actions have been consolidated before this
Court and the Court has appointed MSBI as the sole lead plaintiff. On
April 15, 2003, MSBI filed the Amended Complaint. In addition to claims
under § 10(b) of the Exchange Act asserted in prior complaints, the
Amended Complaint added new claims under § 11 and § 12(a)(2) of
the Securities Act, as well as § 14(a) of the Exchange Act, relating
to the Merger Registration Statement and Merger Proxy. AC Counts 1-4,
14-17. The Amended Complaint also added new claims under § 11 and
§ 12(a)(2) relating to the Shelf Registration Statement and the
Supplemental Prospectuses issued in connection with bond offerings in
April 2001 and April 2002. Id. Counts 5-11. Finally, the
Amended Complaint contains claims, some of which were present in prior complaints, for control person liability
under § 15 of the Securities Act and § 20 of the Exchange Act.
Id. Counts 12-13, 20.
The Lead Plaintiff is the Minnesota State Board of Investment. MSBI is
an agency established by Article XI of the Minnesota Constitution and
laws of the State of Minnesota for the purpose of administering and
directing investment of all state funds and pension funds. AC ¶ 31.
During the Class Period, MSBI acquired approximately 3,073,050 shares of
AOL stock, exchanged approximately 2,610,780 shares of Time Warner stock
for AOLTW stock pursuant to the Merger, and purchased approximately
5,769,839 shares of AOLTW stock. MSBI also purchased approximately
$44,679,246 worth of AOLTW debt securities. Id.
Numerous additional plaintiffs are included in the consolidated action.
See AC at Exhibit C. During the Class Period, it is alleged
that each additional plaintiff purchased or otherwise acquired securities
of AOL or AOLTW, and suffered damages.
The Amended Complaint names AOL Time Warner Inc., America Online, Inc.,
and Time Warner Inc. as corporate defendants. AC ¶¶ 33-35. The Amended
Complaint names the following officers and directors of AOL prior to the
Merger as individual defendants: Stephen M. Case, former Chairman of the Board of AOLTW;
Robert W. Pittman, former Chief Operating Officer of AOLTW; J. Michael
Kelly, former Chief Operating Officer of the AOL subsidiary of AOLTW and
current Chairman and Chief Executive of AOL International and Web
Services; David M. Colburn, former Executive Vice-President and President
of Business Affairs and Development for AOLTW; Eric Keller, former Senior
Executive Vice President of Business Affairs and Development; Joseph A.
Ripp, Vice Chairman of AOL; Myer Berlow, Senior Advisor to AOLTW, Barry
Schuler, Chairman and Chief Executive Officer of AOL; Steven Rindner,
former Senior Vice President of Business Affairs and Development for
AOLTW; and Kenneth J. Novack, member of the Board of Representatives of
Time Warner Entertainment. AC ¶ 36.*fn3
The Amended Complaint names the following officers and directors of
Time Warner prior to the Merger as individual defendants: Gerald M.
Levin, former Chief Executive Officer of AOLTW; Richard D. Parsons, Chief
Executive Officer of AOLTW and Chairman-Elect of the AOLTW Board of
Directors; and Wayne H. Pace, Chief Financial Officer of AOLTW. The Amended Complaint names the following additional individual
defendants: Paul T. Cappucio, Executive Vice President, General Counsel
and Secretary of AOLTW; Miles R. Gilburne, Director of AOLTW; James W.
Barge, Senior Vice President and Controller for AOLTW; Daniel F. Akerson,
Director of AOTLW and member of the Company's Audit and Finance
Committee; Stephen F. Bollenbach, Director of AOLTW and Chair of the
Audit and Finance Committee; Frank J. Caulfield, Director of AOLTW; and
Franklin D. Raines, Director of AOLTW and member of the Audit and Finance
Committee. AC ¶ 46.
The Amended Complaint names Ernst & Young LLP as a defendant.*fn4
Ernst & Young is a certified public accounting firm that provided
auditing and accounting services to AOL and AOLTW. Id. ¶
The Amended Complaint also names underwriter defendants Morgan Stanley
& Co. ("Morgan Stanley"), Salomon Smith Barney Inc. ("Salomon"),
Citigroup, Inc. ("Citigroup"), Bane of America Securities LLC ("Bane of
America"), and J.P. Morgan Chase & Co. ("J.P. Morgan"). Id.
¶¶ 48-62.*fn5 IV. THE COMPLAINT
The Amended Complaint alleges that AOL and AOLTW improperly accounted
for at least 19 separate advertising transactions that impacted
Advertising and Commerce ("A&C") revenue and advertising backlog in
each of 14 calendar quarters from 4Q 1998 to 2Q 2002. AC ¶¶ 140-251.
The Amended Complaint alleges that, as a result of fraudulent accounting,
revenue and backlog were overstated in various SEC filings, press
releases and other public statements made from January 27, 1999 to July
24, 2002 (the "Class Period"). The Amended Complaint alleges that,
because advertising revenue was overstated at the time of the Merger,
goodwill from the AOL/Time Warner Merger was also overstated during part
of the Class Period. AC ¶ 424. The Amended Complaint also alleges
that certain individual defendants made misleading oral statements
between October 2000 and April 2001. These statements are alleged to have
been misleading because the speakers knew or were reckless in not knowing
about overstated A&C revenue and b acklog at the time the statements
were made. Id. ¶ 330. In sum, the Amended Complaint alleges
that AOLTW has overstated advertising revenue by at least $1.7 billion,
causing billions of dollars in damage to investors, and amounting to "one of the largest frauds ever
committed in the United States securities markets." See
Memorandum of Lead Plaintiff MSBI in Opposition to Motion to Dismiss of
the AOLTW Defendants, and Separate Motions to Dismiss of Defendants Ernst
& Young LLP, Stephen Case, Myer Berlow, David Colburn, Eric Keller
and Steven Rindner, dated September 29, 2003, at 1 ("MSBI Opp.").
Corporate defendants AOL Time Warner, American Online, Inc. and Time
Warner Inc., and individual defendants Daniel F. Ackerson, James W.
Barge, Stephen F. Bollenbach, Paul T. Cappuccio, Frank J. Caufield, Miles
R. Gilburne, J. Michael Kelly, Gerald M. Levin, Kenneth J. Novack, Wayne
H. Pace, Richard D. Parsons, Robert W. Pittman, Franklin D. Raines,
Joseph A. Ripp, and Barry Schuler move to dismiss the Consolidated
Amended Class Action complaint filed by MSBI on April 15, 2003.
Defendants Stephen Case, Myer Berlow, David Colburn, Eric Keller and
Steven Rindner each move, individually, to dismiss the Amended Complaint.
In addition, Defendants Ernst & Young LLP, Morgan Stanley &
Company and the Bond Underwriters move to dismiss.
V. PLAINTIFF'S SUBSTANTIVE CLAIMS
MSBI alleges violations of numerous securities laws, some of which stem
from the Securities Act of 1933 ("Securities Act") and some of which stem
from the Securities Exchange Act of 1934 ("Exchange Act"). In total, MSBI alleges violations of §§ 11, 12
(a) and 15 of the Securities Act of 1933 and §§ 10(b), 14(a) and 20
(a) of the Securities Exchange Act of 1934. A brief description of the
statutory provisions that form the bases of MSBI's claims follows.
Section 11 of the Securities Act provides that any signer, director of
the issuer, preparing or certifying accountant, or underwriter may be
liable if "any part of the registration statement, when such part became
effective, contained an untrue statement of a material fact or omitted to
state a material fact required to be stated therein or necessary to make
the statements therein not misleading. . . ." 15 U.S.C. § 77k(a).
Section 12(a)(2) of the Securities Act, previously known as Section
12(2), allows a purchaser of a security to bring a private action against
a seller that "offers or sells a security . . . by means of a
prospectus or oral communication, which contains an untrue statement of
material fact or omits to state a material fact necessary in order to
make the statements . . . not misleading." 15 U.S.C. § 771(a)(2).
Section 15 of the Securities Act provides that "Every person
who . . . controls any person liable under section 11 or 12 [15 USCS § 77k or 771] shall also be liable jointly and
severally with and to the same extent as the controlled
person . . . unless the controlling person had no knowledge of . . . the
existence of the facts by reason of which the liability of the controlled
person is alleged to exist." 15 U.S.C. § 77o.
Section 13 of the Securities Act sets forth the statute of limitations
for Securities Act claims:
No action shall be maintained to enforce any
liability created under section 77k [Section 11]
or 771(a)(2) [Section 12(a)(2)] of this title
unless brought within one year after the
discovery of the untrue statement or the
omission, or after such discovery should have
been made by the exercise of reasonable
diligence . . . In no event shall any action
be brought to enforce a liability created
under section 77k or 771(a)(2) of this title
more than three years after the security was
bona fide offered to the public, or under
section 771(a)(2) of this title more than three
years after the sale.
15 U.S.C. § 77m (emphasis added).
Section 10(b) of the Exchange Act provides that "It shall be
unlawful . . . (a) To effect a short sale . . . of any security, in
contravention of such rules and regulations as the Commission may
prescribe . . . (b) To use or employ, in connection with the purchase
or sale of any security . . . any manipulative or deceptive device or
contrivance in contravention of such rules and regulations as the Commission may prescribe."
15 U.S.C. § 78j.
Section 14(a) of the Exchange Act provides that "It shall be unlawful
for any person, by use of the mails . . . or otherwise . . . to
solicit or permit the use of his name to solicit any proxy or consent or
authorization in respect of any security (other than an exempted
security) registered pursuant to section 12 of this title."
15 U.S.C. § 78n(a).
Section 20 of the Exchange Act provides that "Every person who,
directly or indirectly, controls any person liable under any provision of
this title . . . shall also be liable jointly and severally with and
to the same extent as such controlled person to any person to whom such
controlled person is liable, unless the controlling person acted in good
faith and did not directly or indirectly induce the act or acts
constituting the violation or cause of action. 15 U.S.C. § 78t (a).
H. 28 U.S.C. § 1658 ("Sarbanes-Oxley")
On July 30, 2002, in response to a wave of corporate accounting
scandals that undermined the integrity of the financial markets, Congress
enacted Sarbanes-Oxley. Section 804 of Sarbanes-Oxley lengthened the
statute of limitations for private causes of action alleging securities
fraud. Section 804 is entitled "Statute of Limitations for Securities Fraud," and
provides, in pertinent part:
a private right of action that involves a
claim of fraud, deceit, manipulation, or
contrivance in contravention of a regulatory
requirement concerning the securities laws, as
defined in section 3(a) (47) of the Securities
Exchange Act of 1934 (15 U.S.C. § 78c(a)(47)),
may be brought not later than the earlier of
(1) 2 years after the discovery of the facts
constituting the violation; or
(2) 5 years after such violation
28 U.S.C. § 1658 (emphasis added).
VI. LEGAL STANDARD FOR MOTION TO DISMISS
When deciding a motion to dismiss, "a court must accept as true the
factual allegations of a complaint." In re IPO Sec. Litig.,
241 F. Supp.2d 281, 295 (S.D.N.Y. 2003). In addition, such factual
allegations must be construed in the light most favorable to plaintiffs.
Easton v. Sundram, 947 F.2d 1011, 1014-15 (2d Cir. 1992). This
is because, at the motion to dismiss stage, "the issue is not whether a
plaintiff will ultimately prevail, but whether the claimant is entitled
to offer evidence to support the claims." Wright v. Ernst &
Young LLP, 152 F.3d 169, 173 (2d Cir. 1998) (quoting Scheuer v.
Rhodes, 416 U.S. 232, 236 (1974)). Further, courts are required to
read complaints generously, drawing all reasonable inferences from the
complaint's allegations in favor of the plaintiff. Mills v. Polar
Molecular Corp., 12 F.3d 1170, 1174 (2d Cir. 1993). Accordingly, a court must deny a defendant's motion to
dismiss "unless it appears beyond doubt that the plaintiff can prove no
set of facts in support of his claim that would entitle him to relief."
In re Emex Corp. Sec. Litig., No. 01 Civ. 4886 (SWK), 2002 WL
31093612, at *4 (S.D.N.Y. Sept. 18, 2002) (quoting Conley v.
Gibson, 355 U.S. 41, 45-46 (1957)).
VII. APPLICABLE STATUTE(S) OF LIMITATIONS
The Court must determine what statute of limitations governs each of
MSBI's securities claims. To satisfactorily resolve the statute of
limitations issues, the Court must (potentially) make two determinations:
1) The date on which this consolidated class action was filed for
purposes of Sarbanes-Oxley; and if that date is post-July 30, 2002, 2)
The scope of Sarbanes-Oxley's application.
A. This Action Was Filed on September 16, 2002
By its terms, Section 804 applies to "all proceedings addressed by this
section that are commenced on or after the date of enactment of this Act
[July 30, 2002]." 28 U.S.C. § 1658 (b). Thus, if this consolidated
class action was commenced prior to July 30, 2002, Section 804's expanded
limitations period is inapplicable.
AOLTW contends that, for purposes of determining the applicability of
Section 804, this consolidated class action was commenced on July 18,
2002, the date the first of several now-consolidated class actions were filed. See Reply Memorandum of Law in
Support of the AOL Time Warner Defendants' Motion to Dismiss the
Amended Consolidated Class Action Complaint, dated November
14, 2003, at 4 ("AOLTW Reply"). In response, MSBI argues that since its
complaint as lead plaintiff was filed on September 16, 2002, seven weeks
after the passage of Sarbanes-Oxley, that Section 804's expanded
limitations period applies.*fn6
The issue of when this consolidated class action was commenced is
surprisingly complex. It creates the potentially anomalous outcome of
punishing plaintiffs who filed too early, a proposition counter to the
basic understanding of a statute of limitations. In addition, it is
highly unlikely, if not a virtual certainty, that this issue will not
present itself again; in other words, there are no plaintiffs at this
point who will file cases prior to July 30, 2002, and thus be outside the
scope of Section 804. While it is true that in most cases, class actions
or otherwise, the date of the first filing is the operative one for
statute of limitations purposes, such a result in this case is both
inequitable and impractical. First, from a constitutional perspective, it is hard to imagine that an
overzealous and careless plaintiff, could, by filing 12 days prior to the
effective date of Sarbanes-Oxley's expanded protections for securities
plaintiffs, bind an entire nation of purchasers of AOL securities to a
statute of limitations that was against the interests of the entire
class. Second, even if there were no potential due process problems,
practically speaking, if the Court were to determine that July 18, 2002
was the operative date for statute of limitations purposes (and thus the
§ 10(b) claims based on oral statements made over 3 years ago were
barred), no rational plaintiff would choose to remain in that class.*fn7
Because the Court will not bind an entire class to a statute of
limitations that is flatly contrary to its interests, and because, as a
practical matter, a commencement date of July 18, 2002 would create all
of the procedural headaches that the JPML was trying to avoid when it
consolidated these cases, the
Court finds that this consolidated class action was filed on September
16, 2002.*fn8 Accordingly, Section 804 of Sarbanes-Oxley applies. B. Sarbanes-Oxley Applies to MSBI's § 10(b) Claims
Having determined that the date this action was commenced for Section
804 purposes was September 16, 2002, the Court turns to the question of
whether Section 804 applies to all, some, or none of the claims asserted
by MSBI. Pursuant to Section 804, the threshold requirement for the
application of Sarbanes-Oxley's expanded limitations period is that the
right of action "involves a claims of fraud, deceit, manipulation, or
contrivance." If the underlying securities claim does not involve a
fraud-based claim, then Section 804's expanded limitations period is
In its motion to dismiss the Amended Complaint, Defendant AOLTW
contends that claims under §§ 11, 12(a)(2) and 15 of the Securities
Act must be brought within one year of the discovery of the alleged
misstatement or omission, and, in any event, within three years of the
relevant public offering or sale. See 15 U.S.C. § 77m. The
defendant also asserts that "a similar limitations period" applies to
claims under §§ 10(b), 14(a), and 20 of the Exchange Act. AOLTW Memo
at 11. Lead Plaintiff MSBI opposes AOLTWs interpretation of the effect of
Sarbanes-Oxley on the statutes of limitations in this case. MSBI contends
that Sarbanes-Oxley expanded the statute of limitations on all its
There is little doubt that Section 804's expanded statute of
limitations applies to § 10(b) claims. See In re WorldCom, Inc.
Sec. Litig., 02 Civ. 3288, No. 03 Civ. 6592, (S.D.N.Y. Nov. 21,
2003) at 25. See also Merrill Lynch & Co. Research Reports Sec.
Litig., 272 F. Supp.2d 243, 265 (S.D.N.Y. 2003). Indeed, this is a
rather non-controversial proposition; Section 804 expressly states that
it applies to "claims sounding in fraud." The question of whether Section
804 applies to MSBI's other claims is less clear, but because MSBI
concedes (See MSBI Opp. at 23, n 11) that as a practical
matter, the expanded Sarbanes-Oxley statute of limitations only affects
its Section 10(b) claims (and the related 20(a) control person claims),
it is unnecessary to reach that question. In any event, Section 804
applies here, and MSBI's § 10(b) claims based on alleged
misstatements prior to July 18, 1999 are timely.
VIII. AN AOLTW INVESTOR OF "ORDINARY INTELLIGENCE" WOULD NOT
HAVE BEEN AWARE OF THE PROBABILITY THAT SHE HAD BEEN DEFRAUDED PRIOR TO
JULY 18, 2002
Post-Sarbanes-Oxley, claims based on "fraud, deceit, manipulation or
contrivance" must be brought within "2 years after the discovery of the
facts constituting the violation" or within "5 years after such violation." 28 U.S.C. § 1658. The
two-year limitations period commences after the plaintiff "obtains actual
knowledge of the facts giving rise to the action or notice of the facts,
which in the exercise of reasonable diligence, would have led to actual
knowledge." Kahn v. Kohlberg, Kravis, Roberts & Co.,
970 F.2d 1030, 1042 (2d Cir. 1992). This type of notice is referred to as
A plaintiff is on inquiry notice when sufficient information is
available to "suggest to an investor of ordinary intelligence the
probability that she has been defrauded." Dodds v. Cigna Sec.,
Inc., 12 F.3d 346, 350 (2d Cir. 1993). See also Levitt v. Bear
Stearns & Co., 340 F.3d 94, 101 (2d Cir. 2003). Under such
circumstances a duty of inquiry arises, and if the plaintiff fails to
make a diligent inquiry into the possibility of fraud, the limitations
period runs from the date of inquiry notice. See id. The
circumstances giving rise to the duty to inquire are referred to as
"storm warnings." See Levitt, 340 F.3d at 101. The financial
information that triggers the storm warnings "must be such that it
relates directly to the misrepresentations and omissions the Plaintiffs
later allege in their action against the defendants." Newman v.
Warnaco Group, Inc., 335 F.3d 187, 193 (2d Cir. 2003). An investor
does not, however, "have to have notice of the entire fra ud being
perpetrated to be on inquiry notice." Dodds, 12 F.3d at 351-52. In order to trigger the duty to inquire, the
wrongdoing suggested by the storm warnings "must be probable, not merely
possible." Warnaco, 335 F.3d at 193. Further, even when "storm
warnings" might indicate the probability of fraud, a plaintiff is not on
inquiry notice if the company's management provides words of comfort to
temper the "storm warnings." LC Capital Partners, LP v. Frontier
Ins. Group, Inc., 318 F.3d 148, 155 (2d Cir. 2003). It should be
noted, however, that words of comfort prevent the duty to inquire "only
if an investor of ordinary intelligence would reasonably rely on the
statements to allay the investor's concern." Id.
While the question of inquiry notice is typically inappropriate at the
motion to dismiss stage, if the facts needed to make the determination
"can be gleaned from the complaint and papers integral to the complaint,
resolution of the issue on a motion to dismiss is appropriate."
Id. at 156. However, "[d]efendants bear a heavy burden in
establishing that the plaintiff was on inquiry notice as a matter of law.
Inquiry notice exists only when uncontroverted evidence irrefutably
demonstrates when plaintiff discovered or should have discovered the
fraudulent conduct." Warnaco, 335 F.3d at 194 (quoting
Nivram Corp. v. Harcourt Brace Jovanovich, Inc., 840 F. Supp. 243, 249 (S.D.N.Y. 1993)). See also In re Chaus Sec. Litig.,
No. 88 Civ. 8641 (SWK), 1990 WL 188921, at *5 (S.D.N.Y. 1990).*fn9
Here, AOLTW contends that, through a series of news articles, press
releases, and SEC filings of transactions with Sun Microsystems ("Sun"),
Hughes Electronics ("Hughes"), and Gateway, as well as vendor advertising
deals and advertising/equity deals generally, MSBI was on notice of the
allegedly overstated A&C revenue on or before July 18, 2001. AOLTW
Memo at 13.*fn10
MSBI argues that its duty to inquire was triggered no earlier than July
18, 2002, when the first of two Washington Post articles was
published and the SEC and DOJ began their investigations into AOLTW. MSBI
Opp. at 26. Against the backdrop of this Circuit's jurisprudence on
inquiry notice, and for the reasons set forth below, the Court agrees
with the plaintiff. No duty to inquire was triggered prior to the
publication of the July 18, 2002 Washington Post article.
A. The Sun, Hughes and Gateway Transactions Are Insufficient
to Trigger Plaintiff's Duty to Inquire In its motion to dismiss, AOLTW contends that a series of transactions
between the Company and Sun, Hughes and Gateway (and the accompanying
press releases) from November 1998 through October 1999 were sufficient
to trigger the plaintiff's duty to inquire. AOLTW claims that these press
releases "make clear that AOL was investing in Hughes [and Gateway] and
Hughes [and Gateway] [were] agreeing to buy advertising from AOL." AOLTW
Memo at 14-15. The Court agrees with AOLTW that the Sun, Hughes and
Gateway transactions "make clear" that the companies were engaging in
mutually beneficial contracts; however, the notion that 3 agreements to
buy advertising (none of which so much as mention the Company's
accounting for those transactions) "suggest to an investor of ordinary
intelligence the probability that she has been defrauded" is seriously
off the mark. In fact, it is hard to imagine that any reasonable investor
would have read the 1998 and 1999 press releases regarding these deals as
anything other than the Com pany doing exactly what it was supposed to be
doing; i.e., engaging in legitimate transactions that would
ultimately create value for shareholders.
B. The Vendor Advertising and Equity Deals Are Also
Insufficient to Trigger Plaintiff's Duty to Inquire
The defendants argue that a series of articles from April 16, 2001
through July 12, 2001 "provided notice of all of the vendor deals alleged
in the Amended Complaint to have been improper." AOLTW Memo at 15. More specifically, the defendants
refer to an April 16, 2001 article in The Wall Street Journal
titled "Amid Advertising Slowdown, AOL Parlays Partnerships Into
Revenue," in which one of AOL's partners was quoted as saying, "They are
getting increased revenue from us, and we're getting better rates from
them . . . There is money going both ways, yes." Id. at 15.
AOLTW claims that "this article put MSBI on notice no later than April
2001 of exactly the kind of advertising deals alleged in the Amended
Complaint to have resulted in overstated revenue and backlog."
Again, AOLTW is correct: the April 16, 2001 Wall Street
Journal article definitively put investors, including MSBI, on
notice that AOLTW was entering deals and "parlay[ing] partnerships into
revenue." What befuddles the Court, however, is AOLTW's extrapolation
that "parlay[ing] partnerships into revenue" suggests to an investor of
ordinary intelligence the probability that she has been defrauded.
Indeed, throughout its motion to dismiss, AOLTW conflates notice of the
existence of a transaction now alleged to be fraudulent with notice that
such transactions were, ex-ante, being fraudulently accounted
for. In addition to the April 16, 2001 Wall Street Journal
article, none of the other articles/reports cited by the defendants
(including those in Advertising Age, Fortune, BusinessWeek Online, Thomas Weisel Partners*fn11 and the October 23, 2001
Wall Street Journal) come anywhere close to establishing the
probability of fraud sufficient to trigger inquiry notice-in fact, the
articles amount to little more than affirmations of AOLTW's "continued
success at signing large advertising deals." Id. at 16. There
is simply no plausible basis for holding that notice of large advertising
deals, even if such deals were "unusual," constitutes "uncontroverted
evidence that irrefutably demonstrates fraudulent conduct."*fn12
MSBI's stance, that no duty to inquire was triggered prior to July 18,
2002, best comports both with this Circuit's precedent and common sense.
On July 18, 2002, The Washington Post, a national publication
with a weekly circulation of over five million,*fn13 ran the first of
two articles based on statements of former Company employees and
confidential documents, which reported that AOLTW and AOL artificially
inflated AOL's advertising revenue.*fn14 Within two weeks of The Washington
Post's article, the SEC and DOJ commenced civil and criminal
investigations into AOLTW. MSBI Opp. at 26. Finally, on August 14, 2002,
the Company, in an SEC filing, stated for the first time that it "may"
have overstated A&C revenue by $49 million. Id.
Because the duty to inquire is triggered only when the wrongdoing
suggested by the storm warnings is "probable, not merely possible," the
Court finds that an investor of ordinary intelligence would not have
been, and should not have been, aware of the probability that she had
been defrauded until July 18, 2002, the date of publication of the first
article in The Washington Post. The fact that the SEC and
Justice Department did not launch investigations until 1 week and 2
weeks, respectively, after publication of this article, only bolsters
this contention.*fn15 Put simply, the press releases and financial articles offered by the defendants do not satisfy its "heavy
burden" and hardly qualify as storm warnings; on the contrary, a
reasonable investor likely would have viewed them as sunny forecasts of a
bright and profitable future for AOLTW.*fn16
IX. THE CLAIMS AGAINST THE NEWLY-NAMED DEFENDANTS ARE
Defendants contend that the claims against Time Warner, Akerson, Barge,
Bollenbach, Cappucio, Caufield, Gilburne, Novack, Raines, Ripp and
Schuler do not relate back to the first class action filed on July 18,
2002, and thus for statute of limitations purposes, claims against these
defendants were commenced on April 15, 2003, when the Amended Complaint
was filed. However, having found that no plaintiff was on notice of the
probability of fraud at AOLTW until July 18, 2002, the claims against the
newly-named defendants, filed on April 15, 2003, are timely.*fn17 As
such, the Court need not reach the question of whether the claims relate back to any earlier
X. BECAUSE THE AMENDED COMPLAINT IS TIMELY, ALLEGATIONS OF
TOLLING ARE UNNECESSARY
Because MSBI's duty to inquire did not arise until July 18, 2002, and
its complaint was filed on September 16, 2002, within the statute of
limitations, MSBI was under no obligation to allege investigation that
would toll the statute of limitations. As such, the argument that MSBI
failed to allege any inquiry that might have tolled the statute of
limitations is moot.
XI. MSBI HAS PROPERLY PLED COMPLIANCE WITH THE STATUTE OF
Defendant AOLTW asserts that MSBI's Securities Act claims should be
dismissed for failure to plead compliance with the statute of
limitations. As support for this claim, the defendants rely on In re
Chaus Sec. Litig., No. 88 Civ. 8641, 1990 WL 188921, at *5 (S.D.N.Y.
Nov. 20, 1990), which states that a Securities Act complaint must set
forth (1) "the time and circumstances of the discovery" of the
misstatement, (2) the reasons why the misstatement was not discovered
earlier if more than a year has lapsed and (3) "the diligent efforts
which the plaintiff undertook in making or seeking such discovery."
While the Court is unsure of the value of Chaus when a
plaintiff has satisfied the statute of limitations, in the interests of
thoroughness, it will apply its analysis. With respect to prong one, the Court is satisfied that MSBI has
adequately plead "the time and circumstances of its discovery" of the
alleged misstatements. See generally MSBI Opp. at 34-35.
Because the Court has ruled that MSBI's complaint was filed within a year
of inquiry notice, prongs two and three of Chaus are
inapposite. Accordingly, to the extent that Chaus applies here,
MSBI has satisfied its requirements and has properly pled compliance with
the statute of limitations.
XII. THE AMENDED COMPLAINT PLEADS ALLEGED MISSTATEMENTS WITH
AOLTW claims that because the Amended Complaint does not plead alleged
misstatements with sufficient particularity, those claims should be
dismissed.*fn18 Rule 9(b) of the Federal Rules of Civil Procedure
states that "[i]n all averments of fraud or mistake, the circumstances
constituting fraud or mistake shall be stated with particularity." Under
Rule 9(b), "[t]he complaint must identify the statements plaintiff
asserts were fraudulent and why, in plaintiff's view, they were
fraudulent, specifying who made them, and where and when they were made."
Hollin v. Scholastic Corp., (In re Scholastic Corp. Sec.
Litig.), 252 F.3d 63, 69-70 (2d Cir. 2001). Similarly, the PSLRA
requires a complaint alleging violations of § 10(b) or § 14(a) of the Exchange Act to "specify each statement alleged to
have been misleading, the reason or reasons why the statement is
misleading" and, if an allegation is made upon information and belief,
"to state with particularity all facts on which that belief is formed."
15 U.S.C. § 78u-4(b)(1); see also Bond Opportunity Fund v.
Unilab Corp., No. 99 Civ. 11074, 2003 WL 21058251, at *3 (S.D.N.Y.
May 9, 2003). Exchange Act claims that fail to satisfy these PSLRA
pleading requirements must be dismissed. See
15 U.S.C. § 78u-4(b)(3)(a).
Recently, the Second Circuit held that the heightened pleading standard
of Rule 9(b) applies to Section 11 and Section 12(a)(2) claims insofar
as the claims are premised on allegations of fraud. Rombach v.
Chang, Nos. 02-7907(1), 02-7933 (XAP), 2004 WL 77928 (2d Cir. Jan.
20, 2004). In clarifying, the court stated:
Fraud is not an element or a requisite to a claim
under Section 11 or Section 12(a)(2); at the same
time, claims under those sections may be-and often
are-predicated on fraud. The same course of
conduct that would support a Rule 10b-5 claim may
as well support a Section 11 claim or a claim
under Section 12(a)(2). So while a plaintiff
need allege no more than negligence to proceed
under Section 11 and Section 12(a)(2), claims
that do rely upon averments of fraud are subject
to the test of Rule 9(b).
Rombach, 2004 WL 77928 at *4.
As a threshold matter, and pursuant to Rombach, the Court
must determine whether the Section 11 and Section 12(a)(2) claims asserted by MSBI are predicated on fraud; if they are, then
the plaintiff is obligated to satisfy the heightened pleading standard.
Rombach provides some guidance on this issue. In
Rombach, the plaintiff asserted that its Section 11 claims did
not "sound in fraud." Id. at *5. The Second Circuit nonetheless
found that the claims were fraud-based because "the wording and
imputations of the complaint are classically associated with fraud: that
the Registration statement was `inaccurate and misleading;' that
it contained `untrue statements of material facts:' and that
`materially false and misleading statements' were
issued." Id. (emphasis in original). Rombach also
quoted approvingly from In re Ultrafem Sees. Litig, 91 F. Supp.2d 678
(S.D.N.Y. 2000), which applied Rule 9(b) where "plaintiffs [made]
little, if any, effort to differentiate their asserted negligence claims
from the fraud claims which permea te the Complaint . . .[and] merely
disavow[ed] any allegations that would make Rule 9(b)
applicable . . . without specifying the allegations that would support a
negligence cause of action." In re Ultrafem, 91 F. Supp.2d at
Here, MSBI asserts, first in the Amended Complaint, again in its
Opposition Memorandum, and finally in a letter to the Court dated January
28, 2004 ("MSBI Letter"), that its Section 11 and Section 12(a)(2)
claims are not based in fraud. MSBI argues that these claims are set forth in a separate "non-fraud
based section of the Complaint and in separate non-fraud based counts."
MSBI Letter at 1. MSBI also states that those sections of the Complaint
Mo not even mention the word ...