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In re WorldCom

April 21, 2006

IN RE WORLDCOM, INC. SECURITIES LITIGATION
THIS DOCUMENT RELATES TO:
NO. 03 CIV. 1785
IQ HOLDINGS, INC., PLAINTIFF,
v.
ARTHUR ANDERSEN, LLP, BERNARD EBBERS, SCOTT SULLIVAN, DAVID F. MEYERS, MAX BOBBITT, JAMES C. ALLEN, JUDITH AREEN, FRANCESCO GALESI, BUFORD YATES, BETTY VINSON, TROY NORMAND, CLIFFORD ALEXANDER, CARL AYCOCK, STILES KELLETT, GORDON MACKLIN, JOHN PORTER, BERT ROBERTS, JACK GRUBMAN, CITIGROUP GLOBAL MARKETS, INC. F/K/A SALOMON SMITH BARNEY INC., CITIGROUP INC. DEFENDANTS.



The opinion of the court was delivered by: Denise Cote, District Judge

OPINION AND ORDER

This Opinion addresses motions to dismiss filed in an Individual Action consolidated for pretrial purposes with the WorldCom Securities Litigation.*fn1 Defendants have moved as part of the Phase Three motions to dismiss filed in the Securities Litigation to dismiss the first amended complaint ("Complaint") filed in IQ Holdings, Inc. v. Arthur Andersen LLP, et al., 03 Civ. 1785, on July 11, 2003. For the following reasons, the motions are granted in part.

Plaintiff alleges that it purchased WorldCom common stock on March 21 and June 25, 2002. It alleges claims against WorldCom Officers and certain Directors,*fn2 the Citigroup Defendants, and Andersen, under the federal securities statutes and Texas law. The first five claims are pleaded under Sections 10(b) and/or 20(a) of the Exchange Act against WorldCom Officers and certain Directors,*fn3 Andersen, and two Citigroup Defendants. Claims Six through Eight are pleaded under Texas law against all defendants. Acknowledging that Texas law requires proof of actual knowledge to sustain a claim of negligent misrepresentation, the plaintiff has agreed to the dismissal of Claim Six.

For the reasons described below, all state law claims are dismissed, and the Section 10(b) claim is dismissed as to all but one of the Director Defendants named in that claim. The motion brought by the Citigroup Defendants to dismiss the Section 10(b) claim is denied without prejudice to its renewal as a motion for summary judgment.

Federal Law Claims

1. Exchange Act Section 10(b): Citigroup Defendants

The Citigroup Defendants move to dismiss the Section 10(b) claim pleaded against them on the ground that IQ Holdings does not adequately allege either its reliance on, or loss causation as to, any misrepresentation by these defendants. IQ Holdings responds principally that its pleading is largely derivative of that filed by the class action, which survived motions to dismiss brought by the Citigroup Defendants. The relevant passages of the Complaint to which the parties point allege the following.

IQ Holdings describes itself simply as a Texas corporation. It first acquired WorldCom common stock on March 21, 2002, when it purchased 200,000 shares. Among the events that preceded that purchase are the following. WorldCom issued a series of false financial statements and its leadership described its prospects optimistically. During this same period, Citigroup's affiliate Salomon and its telecommunications analyst Grubman issued glowing reports extolling WorldCom's virtues even though Grubman had come to realize that WorldCom's business model was in peril. Grubman misrepresented his understanding of WorldCom's financial condition because of various conflicts of interest that infected Salomon's relationship with WorldCom. IQ Holdings asserts that the failure to disclose the conflicts rendered Grubman's analyst reports false and misleading. Grubman's enthusiastic recommendations to investors included a statement on January 29, 2002, in which he described WorldCom as a "best play[]".

On February 7, 2002, WorldCom's CEO announced that the company would likely write-down goodwill by between $15 and $20 billion, but he reassured investors that bankruptcy or a credit default was not a concern. A month later, on March 7, the SEC requested production of WorldCom documents. After news of the SEC inquiry became public on March 12, WorldCom's stock price "plunged" to $7.93 per share. Even prior to that time, WorldCom stock had lost most of its value. That same day, WorldCom's CEO gave false assurances to investors that WorldCom's accounting complied with SEC rules. On March 12, Grubman reiterated his buy recommendation and dismissed the SEC inquiry as straightforward and almost boilerplate. As noted, amidst this troubling news, IQ Holdings made its first purchase on March 21.

Approximately a month later, on April 21, with WorldCom's stock trading at $4 per share, Grubman reduced his buy recommendation to a neutral rating. IQ Holdings asserts, "[n]otably, at that point, it was obvious that due to the drastic decline of WorldCom's share price, WorldCom would not be seeking to acquire other companies in stock-for-stock transactions or gaining funds through the kind of note offerings for which Salomon served as a lead underwriter."

In anticipation of its issuance of its financial statements for the first quarter of 2002, WorldCom issued a reassuring press release on April 25. Its CEO abruptly resigned, however, on April 30, and WorldCom's stock dropped quickly to $1.79. IQ Holdings sold 32,500 shares a few days later, on May 6.

On May 15, WorldCom filed its first quarter financial statement. According to a June 16 Wall Street Journal article, one accounting specialist was opining that "the WorldCom debacle 'shows a breakdown in the chain of responsibility.... From [Anderson] [sic] WorldCom's longtime auditor to top management and the audit committee, all of these guys have to be responsible.'"

On June 25, after the close of business, WorldCom issued a "devastating press release" revealing one of the largest financial and accounting frauds in the history of America and announcing a restatement of its financial statements. IQ Holdings' second and final purchase was made on June 25, 2002, when it purchased 500,000 shares of WorldCom common stock.

On July 8, WorldCom's CEO and CFO invoked the Fifth Amendment when called to testify before Congress. All of IQ Holdings' remaining shares were sold on July 10 and 11, 2002.

IQ Holdings asserts generally that its purchases were made in reliance on WorldCom's publicly-disseminated information. It also asserts that it relies in part upon the presumption of reliance emanating from the fraud on the market doctrine, and relied in particular on the integrity of the prices set by the market for WorldCom securities in deciding to purchase WorldCom shares. It contends that the defendants' conduct had an impact on those market prices and market integrity, and that the securities traded at artificially inflated prices until the time the adverse information concealed from the public was revealed. It does not describe the price at which it purchased its WorldCom stock, or in the case of June 25, the time at which it made its purchase.

The context in which this motion to dismiss is brought is unusual. This lawsuit is one of many Individual Actions filed in the Securities Litigation. The Individual Actions were consolidated for pretrial purposes with the class action. As a result, the discovery taken by plaintiffs (including IQ Holdings) of the defendants concluded in July 2004. All that remains, therefore, is the completion of discovery of the plaintiffs who have filed Individual Actions and who have yet to settle their lawsuits.

The issues at stake in the motion brought by the Citigroup Defendants are made more difficult to address by the plaintiff's failure to plead such basic information as the price at which it purchased securities, or in the context of the shattering events of June 25, the time of day at which it made its purchase. It is also noteworthy that the plaintiff chose not to disclose that information even in its ...


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