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November 4, 2005.


The opinion of the court was delivered by: LAWRENCE McKENNA, District Judge


I. Background

This action is part of a multi-district securities litigation pending before this Court. In re Adelphia Commc'ns Corp. Sec. and Derivative Litig., No. 03 MDL 1529.

  In the instant case, the Wellsville Group has brought a securities fraud class action on behalf of itself and all stockholders of Adelphia Business Solutions, Inc. who purchased their securities between January 6, 2000 and March 27, 2002 (collectively "plaintiffs").*fn1 (Compl. ¶¶ 1, 12-20.) In their Consolidated Amended Class Action Complaint ("Complaint"), plaintiffs have named as defendants John J. Rigas, Michael J. Rigas, Timothy J. Rigas, and James P. Rigas (collectively "the Rigases" or "defendants"), all of whom were directors and/or senior officers of Adelphia Business Solutions ("ABIZ") between 2000 and 2002. (Id. ¶¶ 21-23.) ABIZ was a telecommunications company providing local phone service, long distance service, high-speed data transmission, and internet connectivity to business, government, and educational customers. (Id. ¶ 2.) Plaintiffs have not named ABIZ in this action, as it has filed for Chapter 11 bankruptcy. (Id. ¶ 7.)*fn2

  Plaintiffs claim violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j; 15 U.S.C. § 78t(a). (See also Compl. ¶¶ 1, 90-99.) Plaintiffs contend that from January 2000 to January 2002 ABIZ engaged in various fraudulent schemes in order to artificially inflate the price of ABIZ securities by including misrepresentations and fraudulent statements in various publicly filed documents and press releases. (Compl. ¶¶ 4-6, 23-26, 35-37.) These schemes include: falsely reporting statistics relating to new customers; falsely reporting corporate overhead expenses; and failing to disclose debt for which it and its parent corporation, Adelphia Communications Corp. ("ACC"), were liable. (Id. ¶¶ 38-62.) Plaintiffs allege they would not have purchased or acquired ABIZ at these artificially inflated prices if they had known of defendants' misrepresentations. (Id. ¶¶ 81-83, 94.) In March 2002, it was revealed that ACC owed $2.3 billion in debt, for which it and ABIZ were jointly obligated and which was not reported on their balance sheets. (Id. ¶¶ 65, 66.) ABIZ also announced that it would default on $15.3 million in secured notes. (Id. ¶ 64.) Plaintiffs allege that, as a result, ABIZ filed for bankruptcy. (Id. ¶¶ 6, 63-68.) ABIZ, now renamed Telcove, is undergoing a reorganization that would allegedly leave plaintiffs with no value for their shares of ABIZ stock. (Id. ¶ 69.)*fn3 Plaintiffs allege that they have lost the total value of their investments in ABIZ, resulting in a collective injury of $3,308,608. (Id. ¶¶ 6, 12.)

  Defendants have filed a Motion to Dismiss both the 10(b) and 20(a) claims that are alleged in plaintiffs' Complaint, pursuant to Federal Rules of Civil Procedure 12(b)(6) and 9(b). For the reasons set forth below, the motion is granted in part and denied in part. Plaintiffs, however, will be given limited leave to amend their Complaint.

  II. Section 10(b) Claim

  A. Particularity

  Under Federal Rule of Civil Procedure 12(b)(6), a complaint will be dismissed if there is a "failure to state a claim upon which relief can be granted." Fed.R.Civ.Proc. 12(b)(6). A court must read the complaint generously accepting the truth of and drawing all reasonable inferences from well-pled factual allegations. See Mills v. Polar Molecular Corp., 12 F.3d 1170, 1174 (2d Cir. 1993). A court's function on a motion to dismiss is "not to weigh the evidence that might be presented at trial but merely to determine whether the complaint itself is legally sufficient." Goldman v. Belden, 754 F.2d 1059, 1067 (2d Cir. 1985). A court should dismiss a complaint only if "`it appears beyond doubt that the plaintiff can prove no set of facts in support of his claim which would entitle him to relief.'" Valmonte v. Bane, 18 F.3d 992, 998 (2d Cir. 1994) (quoting Conley v. Gibson, 355 U.S. 41, 45-46 (1957)).

  To state a claim under Section 10(b) and Rule 10b-5, a plaintiff must allege that the defendant: "(1) made misstatements or omissions of material fact; (2) with scienter; (3) in connection with the purchase or sale of securities; (4) upon which plaintiffs relied; and (5) that plaintiff's reliance was the proximate cause of their injury." In re IBM Corp. Sec. Litig., 163 F. 3d 102, 106 (2d Cir. 1998).*fn4

  An allegation of securities fraud under Section 10(b) and Rule 10b-5 is subject to the heightened pleading requirements of Federal Rule of Civil Procedure 9(b).*fn5 Rule 9(b) requires a complaint alleging fraud to: "(1) specify the statements that the plaintiff contends were fraudulent, (2) identify the speaker, (3) state where and when the statements were made, and (4) explain why the statements were fraudulent." Mills, 12 F.3d at 1175. In examining a complaint for compliance with Rule 9(b), a court must "read the complaint generously, and draw all inferences in favor of the pleader." Pompano-Windy City Partners, Ltd. v. Bear Stears & Co., 794 F. Supp. 1265, 1280 (S.D.N.Y. 1992) (citation and quotations omitted). The purposes of Rule 9(b) are: "(1) to provide a defendant with fair notice of the claims against it; (2) to protect a defendant from harm to its reputation or goodwill by unfounded allegations of fraud; and (3) to reduce the number of strike suits." In re Livent, Inc. Sec. Litig., 78 F. Supp. 2d 194, 213 (S.D.N.Y. 1999) (citing DiVittorio v. Equidyne Extractive Indus., Inc., 822 F.2d 1242, 1247 (2d Cir. 1987)).

  An allegation of a 10(b) violation is also subject to the requirements of the Private Securities Litigation Reform Act of 1995 ("PSLRA"), 15 U.S.C. § 78u-4(b). The PSLRA requires that a complaint "specify each statement alleged to have been misleading, the reason or reasons why the statement is misleading and, if an allegation regarding the statement or omission is made on information and belief, the complaint shall state with particularity all facts on which that belief is formed." 15 U.S.C. § 78u-4(b)(1). Further, the PSLRA requires a plaintiff to "state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind." Id. at § 78u-4(b)(2). "Under the heightened pleading requirements of Rule 9(b) and the PLSRA, plaintiffs must allege the first two elements of a securities fraud claim — fraudulent acts and scienter — with particularity." Gabriel Capital, L.P. v. NatWest Fin., Inc., 94 F. Supp. 2d 491, 500 (S.D.N.Y. 2000).

  Defendants argue that plaintiffs have not met any of the four requirements of 9(b) or the PSLRA. The court will first address the second prong — whether plaintiffs have adequately identified the speaker of the alleged fraudulent or misleading statements. (Defs.' Mem. at 3-7; Defs.' Reply at 1-6.) The court will then address the remaining three prongs together as they all relate to the particularity of the statements themselves. Third, the court will address the issue of causation.

  1. Identification of Speaker

  Defendants argue that under Rule 9(b) and the PSLRA, plaintiffs are required to specifically identify the role of each defendant in the alleged fraud, and cannot simply "lump the Rigas defendants together without specifying their roles in the alleged fraud." (Defs.' Mem. at 4; Defs.' Reply at 4-6.) However, the group pleading doctrine is an exception to the requirement that a complaint identify each defendant's fraudulent acts. Under this doctrine, plaintiffs may "`rely on a presumption that statements in prospectuses, registration statements, annual reports, press releases, or other group-published information, are the collective works of those individuals with direct involvement in the everyday business of the company.'" In re Emex Corp. Sec. Litig., No. 01 Civ. 4886, 2002 WL 31093612, at *7 (S.D.N.Y. Sept. 18, 2002) (quoting In re Oxford Health Plans, Inc., 187 F.R.D. 133, 142 (S.D.N.Y. 1999)). Here, plaintiffs can rely on the group pleading exception because the Rigas defendants are identified as holding positions that qualify them as "corporate insiders with active daily roles," Polar Int'l Brokerage Corp. v. Reeve, 108 F. Supp. 2d 225, 237 (S.D.N.Y. 2000), or as members of the Board of Directors with equity interests in ABIZ and access to information concerning the company's day-to-day business.*fn6 See In re Oxford Health, 187 F.R.D. at 142-43. (See also Compl. ¶¶ 21-23, 97-98.) 2. Particularity as to Each Misstatement or Fraudulent Statement

  Defendants also argue that plaintiffs have not specified which statements are false or misleading, when and where the statements were made, and why the statements are misleading or fraudulent. (Defs.' Mem. at 4-7; Defs.' Reply at 1-4.)

  Plaintiff's allegations fall into three general categories. Plaintiffs allege that defendants made false or misleading statements regarding ABIZ's: (a) line counts (Compl. ¶¶ 38-53); (b) corporate overhead expenses (id. ¶¶ 54-58); and (c) exposure to off-balance sheet liabilities of its parent corporation, ACC (id. ¶¶ 59-62). Plaintiffs allege that due to these false statements, investors were lured into purchasing stock in a company that appeared to be growing, which therefore artificially inflated the stock price. In March 2002, when the public finally became aware of the past misleading statements and ABIZ filed for bankruptcy, investors were left holding worthless stock. (Id. ¶¶ 63-69.)

  a) Defendants Overstated Line Counts (Compl. ¶¶ 38-53)

  ABIZ was a competing local exchange carrier ("CLEC") trying to break into pre-existing local telephone markets. Plaintiffs allege that the Rigases falsely portrayed ABIZ as a successful CLEC, when it was actually failing, by overstating its "line counts," which lured investors into purchasing ABIZ stock and caused the price of ABIZ stock to rise. This resulted in plaintiffs purchasing ABIZ stock at inflated prices. (Compl. ¶¶ 2, 33-35, 52.) (1) Which statements were misleading and when and where the statements were made.

  "Line counts" are the number of new customers that a company assigns to its available access lines (lines assigned to specific phone numbers) in its various regions of service; line counts are an indicator of growth in the CLEC market. The number of customers retaining their lines is an indicator in calculating a net line count (new lines minus disconnected lines) for ABIZ. (Id. ¶ 38.) Plaintiffs allege defendants issued press releases and filed financial statements with the Securities and Exchange Commission that misrepresented ABIZ's customer base by systematically inflating line counts.

  Specifically, plaintiffs allege that defendants included artificially inflated line count statistics in ABIZ's January 6, 2000 press release (Compl. ¶ 39); March 1, 2000 press release (id. ¶ 41); Form 10-K filed with the SEC on March 30, 2000 (id. ¶ 43); Form 10-Q filed with the SEC on May 15, 2000 (id. ¶ 44); Form 10-Q filed with the SEC on August 14, 2000 (id. ¶ 45); and Form 10-Q filed with the SEC on November 14, 2000 (id. ¶ 46).

  The court finds that these allegations sufficiently specify which statements were misleading and when and where these statements were made.

  (2) Why the statements were misleading.

  Plaintiffs allege defendants sought to create the perception that ABIZ was a growing company by publicly reporting inflated line count statistics in order to ensure that the company stayed in business and to lure investors into purchasing stock. Plaintiffs allege defendants knew or were deliberately reckless in disregarding the actual level of line counts when publicly reporting these statistics. (Id. ¶ 47). Plaintiffs allege that defendants inflated line counts through the entire class period by using or approving certain practices. (Id. ¶¶ 39-53.) Specifically, plaintiffs allege that ABIZ engaged in the practice of "cramming" by adding hundreds of lines to existing customers who never ordered them and then disconnecting the lines within the same month without reporting the disconnections. Plaintiffs allege that affected customers were not aware of the additional lines in most cases and that this practice artificially inflated line counts. (Id.) Plaintiffs also allege that ABIZ engaged in the practice of "slamming" by entering "new" customer names into its systems although the customers had never signed up for service with ABIZ or had poor credit and could not afford new service and then disconnected the lines in the same month without reporting the disconnections. (Id.) Additionally, plaintiffs allege that ABIZ entered businesses with poor credit as "new" lines although they had not ordered new service or could not afford new service, and ABIZ retained these customers in its systems although they had disconnected their lines. (Id.) Plaintiffs allege that ABIZ did not disclose any of these false and deceptive sales practices or their effect on the company's financial position. (Id. ¶¶ 47, 52-53.) Plaintiffs also allege the inflation of line counts violates generally accepted accounting principles ("GAAP"), which must be followed when filing any documents with the Securities and Exchange Commission. Specifically, plaintiffs allege that the inflation of line counts violates Financial Accounting Standard No. 5 and Statement of Financial Accounting Concept No. 6, which prohibit improper recognition of fictitious revenues. (Id. ¶¶ 70-72.)

  Plaintiffs make many specific allegations regarding the inflation of line counts. For example, plaintiffs allege that ABIZ's "Louisville and Philadelphia offices were particularly aggressive in reporting line counts." (Id. ¶ 48.)Plaintiffs also point to two specific incidents when the inflation came to light. Plaintiffs allege that in November 2000 personnel in the operations unit notified the corporate accounting department and top ABIZ executives that "the line counts being reported to the public . . . were grossly overstated and inaccurate." Plaintiffs allege the executives told the operations unit personnel "not to speak about the issue to anyone" and that they "would take care of this." (Id. ¶ 51.) Plaintiffs also allege that in April 2001 ABIZ's Philadelphia office could not fill a legitimate large line order because its system reported an insufficient number of available lines; the seemingly occupied lines, however, were actually available and were improperly reported as active. (Id. ¶ 50.)

  Defendants argue that plaintiffs have not alleged by how much defendants inflated the line counts. (Defs.' Mem. at 5-6; Defs.' Reply at 2-3.) The PSLRA, however, "does not require that plaintiffs plead with particularity every single fact" when plaintiffs plead "on information and belief." Novak v. Kasaks, 216 F.3d 300, 313 (2d Cir. 2000). As plaintiffs' allegations regarding inflation of line counts are very specific in other respects, the Court finds plaintiffs' allegations sufficiently particular despite plaintiffs' failure to allege by how much the line counts were inflated.

  b) Defendants Falsely Reported Corporate Overhead Expenses (Compl. ¶¶ 54-58)

  Plaintiffs allege that ABIZ entered into agreements with its parent company, ACC, under which ABIZ was obligated to share corporate overhead services and other business expenses with ACC and other companies owned by the Rigases. Plaintiffs allege defendants arbitrarily decided how to allocate expenses and payment obligations among the various Adelphia companies based, not on any actual expenses incurred by the companies, but rather on the financial needs ...

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