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United States District Court, S.D. New York

February 1, 2005.

ALONZO ATENCIO, individually and on behalf of all others similarly situated, Plaintiffs,

The opinion of the court was delivered by: MICHAEL MUKASEY, Chief Judge, District


Plaintiff Alonzo Atencio, on behalf of himself and all other similarly situated, sues Smith Barney, Citigroup, Inc., Citigroup Market Holdings, Inc. (CGMHI), and Citigroup Global Markets, Inc. (CGMI), alleging that defendants Smith Barney and CGMI breached their fiduciary duty to plaintiffs, and that all defendants thereby were unjustly enriched. Plaintiff filed this action initially in New York Supreme Court, New York County, specifically noting the "absence of grounds for removal" to federal court. (Compl. ¶ 12) Defendants then removed the action to this District, claiming that plaintiff's state law cause of action was preempted by the Securities Litigation Uniform Standards Act of 1998 (SLUSA), Pub.L. No. 105-353, 112 Stat. 3227 (2000). Plaintiff now moves to remand this action to state court and seeks attorneys' fees and expenses in connection with this proceeding. Defendants oppose plaintiff's motion, and move to dismiss the complaint. For the following reasons, plaintiff's motion to remand is denied, and the complaint is dismissed without prejudice. Plaintiff's request for attorneys' fees is also denied.


  Plaintiff Atencio filed his class action complaint in New York Supreme Court, New York County, on June 18, 2004. Page 2 Defendants removed the complaint to this District on July 20, 2004, and plaintiff moved to remand the action to state court 10 days later. In his complaint, plaintiff alleges that defendants surreptitiously collected kickbacks from certain mutual fund groups, referred to as "families," in exchange for encouraging plaintiff and class members to hold shares of those fund families. Plaintiff alleges that in so doing, defendants violated New York Consumer Law, breached their fiduciary duties to him and other class members, and were unjustly enriched. (Compl. ¶¶ 49-60)

  Defendant Smith Barney provides financial consulting and investment management services, and is a division of defendant CGMI. (Id. ¶ 6) Defendant Citigroup is the parent company of all defendant companies: CGMHI is a wholly owned subsidiary of Citigroup, and CGMI is an indirect wholly owned subsidiary of CGMHI. (Id. ¶¶ 7-9) In its 2003 Annual Report, Citigroup touted Smith Barney as "successfully focused on its role as the trusted adviser to clients and its position as a market leader in 2003" (id. ¶ 19), concluding that Smith Barney's mission was to "develop and manage the strongest relationships in the industry. . . ." (id. ¶ 20).

  Defendants allegedly had agreements with more than 60 Page 3 large mutual fund companies — the "Listed Fund Families,"*fn1 — whereby those funds would remit "retention kickbacks" to CGMI. These payments were calculated as a percentage of the average aggregate value of defendants' clients' listed fund holdings per quarter: In 2004, the Listed Fund Families paid as much as 0.12% of the average aggregate value of clients' holdings, with a minimum payment of $25,000 to $50,000, depending on the number of individual funds listed by each family.*fn2 (Id. ¶ 31) These payments were not disclosed to defendants' clients until March 2004. (Id. ¶¶ 24-26)

  Plaintiff claims that "Smith Barney's fiduciary relationships with its clients were extremely important to defendants, not primarily because of the advisory fees that they generated, but because such relationships enabled defendants to influence their clients' investment decisions and, specifically, steer them to the Listed Fund Families." (Id. ¶ 23) Plaintiff also notes that defendants have acknowledged that the potential for payments under the scheme might have led Smith Barney's financial consultants to focus on certain of the Listed Fund Families "when recommending mutual fund investments" (id. ¶ 34), Page 4 and that "unbeknownst to its clients, Smith Barney had a strong incentive to encourage its clients to hold on[to] the Fund Families." (Id. ¶ 35)

  Plaintiff claims that defendants violated New York Consumer Protection Law and breached their fiduciary duties to him and the plaintiff class by secretly profiting from clients' investments and creating conflicts of interest. (Id. ¶¶ 51-52, 62-66) Plaintiff requests punitive damages (id. ¶ 54), disgorgement of the money wrongfully received by defendants (id. ¶ 59), imposition of a constructive trust on defendants' unlawful profits (id. ¶ 60), and an injunction against further deceptive business practices (id. ¶ 67).

  Defendants claim that plaintiff's claims necessarily involve the purchase and sale of securities, and therefore must be pursued in federal court under SLUSA. Plaintiff counters that his complaint is specifically framed to exclude "claims based upon the purchase or sale of shares of [the Listed Fund Families] during the Class Period." (Compl. ¶ 43)


  A. Scope of SLUSA

  1. Background

  In 1995, Congress enacted the Private Securities Litigation Reform Act of 1995 (PSLRA), Pub.L. No. 104-67, 109 Page 5 Stat. 737 (codified in part at 15 U.S.C. §§ 77z, 78u), with the goal of reducing the number of meritless class actions alleging securities fraud — so-called "strike suits." The PSLRA, inter alia, imposed heightened pleading requirements for class actions alleging fraud in the sale of securities, 15 U.S.C. § 78u-4, and mandated discovery stays pending judicial determination of the legal sufficiency of class claims, 15 U.S.C. § 77z-1(b). See Lander v. Hartford Life & Annuity Ins. Co., 251 F.3d 101, 107 (2d Cir. 2001). After enactment of the PSLRA, congressional investigation revealed that class action plaintiffs were evading its stringent requirements simply by filing their actions in state court rather than in federal court. See Dabit v. Merrill Lynch, Pierce, Fenner & Smith, Inc., Nos. 03-7499 & 03-7458, 2005 U.S. App. LEXIS 410, at *18-*19 (2d Cir. Jan. 11, 2005); see also Spielman v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 332 F.3d 116, 123 (2d Cir. 2003) (noting that the PSLRA proved ineffective in its goal of preventing litigation of meritless suits).

  To close this perceived "federal flight" loophole in the PSLRA, in 1998 Congress enacted SLUSA, which provided that federal court was to be "the exclusive venue for class actions alleging fraud in the sale of certain covered securities and by mandating that such class actions be governed exclusively by federal law." Lander, 251 F.3d at 108 (citing Page 6 15 U.S.C. §§ 77p(b) — (c)).*fn3 A state court action falls within SLUSA's reach and may be removed to federal court if it meets four conditions:

  (1) the underlying suit must be a `covered class action';*fn4 (2) the action must be based on state or local law; (3) the action must concern a `covered Page 7 security';*fn5 and (4) the defendant must have misrepresented or omitted a material fact or employed a manipulative or deceptive device or contrivance `in connection with the purchase or sale of' that security.

 Dabit, 2005 U.S. App. LEXIS 410, at *20 (quoting Riley v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 292 F.3d 1334, 1342 (11th Cir. 2002)). Our Circuit has held that SLUSA "was intended to completely preempt the field of certain types of securities class actions by essentially converting a state law claim into a federal claim and creating federal jurisdiction and venue for specified types of state securities fraud claims." Spielman, 332 F.3d at 123.

  Both parties in the instant case agree that the first three requirements for removal under SLUSA have been met: Plaintiff's allegations concern covered securities, the action is based on state law, and the plaintiff class matches the statutory definition of a covered class. They dispute whether the fourth requirement has been met — the alleged fraudulent conduct must have been committed "in connection with the purchase or sale" of Page 8 a covered security. In his complaint, plaintiff disavows claims or damages based upon purchases or sales of covered securities during the period of the lawsuit, and states that his claims and those of the plaintiff class relate solely to the "retention kickbacks" that defendants collected while class members held listed funds.

  Plaintiffs have brought so-called "holders suits" similar to this action in the courts of many different states. Upon removal of these actions, federal courts have been obligated to decide if the holders claims came within the scope of SLUSA, and were therefore removable. These federal courts generally have concluded that a holders suits is impermissible unless the plaintiff's complaint specifically excludes all claims related to the purchase or sale of securities during the period alleged. See Riley, 292 F.3d at 1345 (allowing removal because complaint did not exclude claims related to the purchase of securities); In re Alger, Columbia, Janus, MFS, One Group, & Putnam Mut. Fund Litig., 320 F. Supp. 2d 352, 354 (D. Md. 2004); (same); Cape Ann Investors LLC v. Lepone, 296 F. Supp. 2d 4, 12 (D. Mass. 2003) (same); Ray v. Citigroup Global Markets, Inc., No. 03-C-3157, 2003 U.S. Dist. LEXIS 20966, at *16-*19 (N.D. Ill. Nov. 20, 2003) (same); Tittle v. Enron Corp., 284 F. Supp. 2d 511, 636 (S.D. Tex. 2003) (same); In re Worldcom, Inc. ERISA Litig., 263 F. Supp. 2d 745, 771 (S.D.N.Y. 2003) (same); cf. Bressler v. Edward Page 9 D. Jones & Co., No. 04-1219, at 6 (C.D. Cal. May 11, 2004) (holding that plaintiff's explicit exclusion of claims resulting from purchases or sales of securities removed the claims from the ambit of SLUSA); Gordon v. Variable Ins. Prods. Fund III, No. 03-80911, 2003 U.S. Dist. LEXIS 24738, at *6 (S.D. Fla. Dec. 4, 2003) (same); Feitelberg v. Credit Suisse First Boston, No. C-03-3451, 2003 U.S. Dist. LEXIS 19116, at *14-*16 (N.D. Cal. Oct. 21, 2003) (same); Chinn v. Belfer, No. 02-00131, 2002 U.S. Dist. LEXIS 20343, at *14-*16 (D. Or. June 19, 2002) (same). Our Circuit recently considered the issue in Dabit v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 2005 U.S. App. LEXIS 410, and its holding in that case bears directly on the issue before me.

  2. Dabit v. Merrill Lynch, Pierce, Fenner & Smith, Inc.

  SLUSA does not define the phrase "in connection with the purchase or sale of a covered security." However, that phrase also appears in Section 10(b) of the Securities and Exchange Act of 1934 (Exchange Act), and Rule 10b-5 promulgated thereunder,*fn6 see 15 U.S.C. § 78j(b); 17 C.F.R. § 240.10b-5, and the Supreme Court has interpreted the phrase in the context of the Exchange Act. In Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 754-55 (1975), the Court held that misrepresentations Page 10 that cause a shareholder simply to hold stock, rather than to buy or sell shares, are not made "in connection with the purchase or sale" of securities, and therefore are not actionable under federal law. One of the questions presented in Dabit was whether the Blue Chip Court's interpretation of the Exchange Act "in connection with" provision also applies to that phrase as it appears in SLUSA. Dabit, 2005 U.S. App. LEXIS 410, at *37-*51.

  The Dabit Court held that the phrase should be interpreted uniformly under the two statutes: "[In SLUSA,] Congress employed language with a settled judicial interpretation of which Blue Chip was a part and we see no clear indication either in the text or the legislative history of SLUSA of a congressional intent to abolish nonpurchaser and nonseller state class action claims." Id. at *37 (footnote omitted). Accordingly, the Court stated that "to be preempted, an action must allege a purchase or sale of covered securities made by the plaintiff or members of the alleged class. . . ." Id. at *51. In so holding, the Court noted that its decision was in line with all the other circuit courts that had considered the issue. Id. at *50-*51 (citing Riley, 292 F.3d at 1343-45 (11th Cir.); Falkowski v. Imation Corp., 309 F.3d 1123, 1130-31 (9th Cir. 2002); Green v. Ameritrade, 279 F.3d 590, 598 (8th Cir. 2002)).

  At first blush, Dabit appears to permit all holders suits to proceed in state court. See Dabit, 2005 U.S. App. LEXIS Page 11 410, at *53 ("Our determination that the Blue Chip rule operates as a limit on the preemptive scope of SLUSA similarly commits us to the view that such holding claims are not preempted."). However, the Court noted that where a plaintiff alleges that he purchased and retained stock as a result of the alleged misrepresentation or omission, the claim does satisfy the Blue Chip standard and falls within the preemptive scope of SLUSA. Id. at *54. The Court also held that "a plaintiff who alleges the purchase and retention of securities in reliance on the misrepresentation but who forswears damages from the purchase and seeks only `holding damages' has still run afoul of SLUSA, which by its plain terms preempts claims `alleging' fraud in connection with the purchase or sale, and not merely claims seeking damages specifically traceable to the initial purchase." Id. at *55-56 (quoting 15 U.S.C. § 78bb(f)(1)) (citing Prof'l Mgmt. Assocs., Inc. Employees Profit Sharing Plan v. KPMG LLP, 335 F.3d 800, 803 (8th Cir. 2003)). The Court acknowledged that the line between pure (non-preempted) and mixed (preempted) holders claims can be hard to draw, especially where the complaint does not specifically allege sales or purchases based on misrepresentations or omissions. The Court weighed the relevant policy considerations and established a procedure for courts confronted with this issue:

  While we must read SLUSA's preemptive provisions narrowly to avoid interference with state police powers Page 12 that Congress did not clearly intend, we must also give meaningful effect to SLUSA's remedial goals with respect to the class of purchaser/seller claims that are clearly preempted. Where . . . the complaint does not include sufficient information to permit the court to identify and separate the preempted and non-preempted subclasses, we believe that the proper approach will ordinarily be to dismiss the entire claim pursuant to SLUSA. Given the close relationship in most instances between a holding claim and the purchase of actual securities, and given SLUSA's manifest intent to preempt state-law claims alleging fraud in connection with an actual purchase, it is sensible to require a would-be "holding" lead plaintiff expressly to exclude from the class claimants who purchased in connection with the fraud and who therefore could meet the standing requirement for maintenance of a 10b-5 action. . . .


We therefore hold that when the class definition includes persons with SLUSA-preempted claims and does not permit the court to distinguish any preempted subclass, SLUSA requires that the claim be dismissed. Ordinarily such dismissal should be without prejudice in order to allow the plaintiff to plead a claim sounding only in state law if possible.
Id. at *60-*61 (citing Gordon, 2003 U.S. Dist. LEXIS 24738, at *5-*8 (excluding plaintiff's claims from the ambit of SLUSA because the complaint specifically eliminated all class members who purchased securities after the fraud occurred)). What appears below is an application of the above analysis to the complaint in this action.


  Plaintiff defines the class in this case as follows: "[A]ll persons and entities who held shares of the Listed Fund Families in a brokerage account with Defendants from at least Page 13 June 18, 2000 to March 22, 2004, (the "Class Period") and were damaged thereby. The class specifically excludes claims based upon the purchase or sale of shares of these funds during the Class Period." (Compl. ¶ 43) The complaint for the most part scrupulously avoids referring to any purchases or sales made by class members, instead referencing the "retention kickbacks" defendants received by virtue of plaintiff class's holdings of the Listed Fund Families. See, e.g., id. ¶¶ 36-38. However, as defendants note, the complaint does allege that defendants' conflicts of interest led them to "steer" plaintiffs to the Listed Fund Families (id. ¶ 23), and to "recommend?" certain funds over others (id. ¶ 34). Additionally, the class definition makes no attempt to exclude class members who may have purchased or sold shares of the Listed Fund Families during the class period. Indeed, as defendants point out, plaintiff himself purchased and sold shares of the Listed Fund Families during the class period. See Defendant's Memorandum in Opposition to Plaintiff's Motion to Dismiss at 5; Reisert Decl., Exhs. 7-15.

  Plaintiff's claims as set forth in the complaint are closely intertwined with the purchase and sale of shares in the Listed Fund Families. Although plaintiff disavows claims based on purchases or sales, shares in the Listed Fund Families were purchased during the class period by plaintiff and undoubtedly by other class members. If, as alleged, defendants' receipt of Page 14 kickbacks caused defendants to steer class members to certain funds, then those class members' claims for damages from "retention kickbacks" are inextricably related to their purchases of shares of those funds. As the Dabit Court held, "[d]amages suffered from `owning' stocks during the class period include damages incurred by purchasing them during that period, and nothing in the complaint excludes such claims." 2005 U.S. App. LEXIS 410, at *58.

  Plaintiff's complaint therefore is dismissed without prejudice, and plaintiff is given leave to replead his state court complaint excluding all class members who purchased shares of the listed fund families after the commencement of the class period. It bears mention that because plaintiff himself purchased and sold shares of the Listed Fund Families during the class period, if the class period remains as it is, he would be ineligible for membership in the class.


  Plaintiff also requests attorneys' fees in connection with his motion to remand. That request is denied. Under 28 U.S.C. § 1447(c), a district court has the discretion to award attorneys' fees upon making an order remanding the case. However, our Circuit has held that § 1447(c) does not authorize a grant of attorneys' fees where plaintiff's remand motion is Page 15 denied: "Providing for attorneys' fees when granting a motion to remand serves the purpose of deterring improper removal, whereas awarding fees, whereas awarding fees when denying a motion for remand does not." Circle Indus. USA v. Parke Constr. Group, Inc., 183 F.3d 105, 100 (2d Cir. 1999).

  * * *

  For the above reasons, plaintiff's motion to remand and request for attorneys' fees are denied. Defendant's motion to dismiss the complaint is granted and the complaint is dismissed without prejudice.


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