The opinion of the court was delivered by: McKENNA, D.J.
THIS MEMORANDUM AND ORDER APPLIES TO Appaloosa Investment Limited Partnership I, et al.
This action is part of a multi-district securities litigation pending before this Court. In re Adelphia Communications Corp. Sec. and Deriv. Litig., No. 03 MDL 1529. In the instant case, Appaloosa Investment Limited Partnership and similarly situated funds*fn1 ("Plaintiffs") purchased debt securities issued by Adelphia Communications Corporation ("Adelphia" or "the company") and Arahova Communications Inc. f/k/a Century Communications Corporation ("Century"). Plaintiffs allege that they purchased Adelphia debt securities at inflated prices in reliance upon announcements and SEC filings that contained material misstatements and omissions, and seek relief under §§10b, 18, and 20 of the Securities Exchange Act of 1934 and §§11 and 15 of the Securities Act of 1933. Defendants*fn2 move to dismiss those claims under Rule 12(b)(6) and 9(b) of the Federal Rules of Civil Procedure. The Court assumes familiarity with its Prior Orders addressing Defendants' statute of limitations arguments and laying out the facts of the case. See In re Adelphia Communications Corp. Sec. and Deriv. Litig., No. 03 MD 1529(LMM), 2005 WL 1278544 (S.D.N.Y. May 31, 2005); In re Adelphia Communications Corp. Sec. and Deriv. Litig., No. 03 MD 1529(LMM), 2005 WL 1679540 (S.D.N.Y. July 18, 2005); In re Adelphia Communications Corp. Sec. and Deriv. Litig., No. 03 MD 1529(LMM), 2005 WL 1981566 (S.D.N.Y. Aug. 16, 2005).
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). In evaluating a complaint, a court must read it generously, accepting the truth of, and drawing all reasonable inferences from, well-pleaded factual allegations. See Mills v. Polar Molecular Corp., 12 F.3d 1170, 1174 (2d Cir. 1993). The complaint must provide "plausible grounds" for the allegations with "enough fact to raise a reasonable expectation that discovery will reveal evidence" to support them.*fn3 Bell Atlantic Corp. v. Twombly, 127 S.Ct. 1955, 1965 (2007). 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).
Plaintiffs bring Rule 10(b)-5 claims, under §10(b) of the Exchange Act, against the Outside Directors, Deloitte, the Underwriter Defendants, and the Lending Banks, who here move to dismiss.
In order to state a claim under Rule 10b-5, a plaintiff must allege that the defendant: (1) made misstatements or omissions of material fact (or, under Rule 10b-5(a) or (c), employed a device, scheme, or artifice to defraud); (2) with scienter; (3) in connection with the purchase or sale of securities; (4) upon which plaintiffs relied; and (5) that plaintiffs' reliance was the cause of their injury. See In re IBM Corp. Secs. Litig., 163 F.3d 102, 106 (2d Cir. 1998). Defendants attack Plaintiffs' 10b-5 claims by alleging failure to adequately plead scienter, failure to adequately plead loss causation, and unreasonable reliance on discredited financial statements.
Defendants ask this Court to dismiss Plaintiffs' fraud claims for failure to plead with particularity as required by Rule 9(b) of the Federal Rules of Civil Procedure. Rule 9(b) provides that the circumstances of fraud must "be alleged with particularity," requiring "reasonable detail as well as allegations of fact from which a strong inference of fraud reasonably may be drawn." National Council of Young Israel v. Wolf, 963 F.Supp. 276, 281 (S.D.N.Y. 1997). The rule also provides that "condition of mind of a person may be averred generally." Fed.R.Civ.P. 9(b). A more general standard of scienter is applicable because "a plaintiff realistically cannot be expected to plead a defendant's actual state of mind." Wight v. Bank America Corp., 219 F.3d 79, 91 (2d Cir. 2000) (citing Connecticut Nat'l Bank v. Fluor Corp., 808 F.2d 957, 962 (2d Cir. 1987)). However, "the relaxation of Rule 9(b)'s specificity requirement for scienter must not be mistaken for license to base claims of fraud on speculation and conclusory allegations." Shields v. CityTrust Bancorp, Inc., 25 F.3d 1124, 1128 (2d Cir. 1994) (internal quotation marks and citations omitted). Therefore, with respect to "condition of mind," it is required that a plaintiff "allege facts that give rise to a strong inference of fraudulent intent." Id., see also Polycast Technology Corp. v. Uniroyal, Inc., 728 F. Supp. 926, 935 (S.D.N.Y. 1989) (citing Connecticut Nat'l, 808 F.2d at 962).
Defendants here claim that Plaintiffs impermissibly "lump together" several of the Underwriter and Lending Banks defendants, or that Plaintiffs attempt to skirt the PSLRA and Rule 9(b) with mere notice pleading. To state a Rule 10(b)-5 claim, a plaintiff must "allege facts giving rise to a strong inference of fraudulent intent for each defendant." In re AOL Time Warner, Inc. Sec. & "ERISA" Litig., 2004 WL 992991, *14 (S.D.N.Y. May 5, 2004). See also In re Citigroup, Inc. Sec. Litig., 2004 WL 1794465, *12 (S.D.N.Y. Aug. 10, 2004)("Plaintiffs must allege facts with regard to each Defendant that give rise to a strong inference of fraudulent intent.")
The Plaintiffs, in 321 numbered paragraphs and many pages of charts, have alleged the details of the Moving Banks' participation in the fraud with the particularity required by Rule 9(b). The complaint notes every alleged misstatement, its speaker, and the relation of the banks to that speaker. Each defendant-as evidenced by their submissions to this Court-has been made acutely aware of what conduct is charged to whom, and when. The Plaintiffs cannot be expected, prior to discovery, to allege the specific decisions, or interactions within groups, that led to the misstatements. The motions to dismiss 10b-5 claims by the Moving Banks and Deloitte for failure to plead fraud with particularity as required by Rule 9(b) are DENIED.
All 10b-5 Defendants move to dismiss on the ground that Plaintiffs fail to adequately plead intent. As noted above, the heightened pleading standard enshrined in the PSLRA requires plaintiffs to allege facts creating a "strong inference" of fraudulent intent. 15 U.S.C. § 78u-4(b)(2); See, e.g. Ganino v. Citizens Utils. Co., 228 F.3d 154, 169 (2d Cir. 2000). A complaint may give rise to a strong inference of fraudulent intent in two ways. Rothman v. Gregor, 220 F.3d 81, 90 (2d Cir. 2000)(citation omitted). The plaintiff may allege "a motive for committing fraud and a clear opportunity for doing so." Id. at 90. Where there is no apparent motive, it is also possible to plead scienter by "identifying circumstances indicating conscious behavior by the defendant;" but, "the strength of circumstantial allegations must be correspondingly greater." Kalnit v. Eichler, 264 F.3d 131, 142 (2d Cir. 2001)(citation omitted). In light of the PSLRA, the Court of Appeals has instructed district courts not to treat terms such as "motive and opportunity" as "magic words", but has held that the framework remains instructive. Novak 216 F.3d at 311.
Defendants claim that Plaintiffs fail to establish the "strong inference" of scienter that the PSLRA requires through a showing of motive and opportunity to commit fraud. Motive is defined in the Second Circuit as "concrete benefits that could be realized by one of more of the false statements and wrongful nondisclosures alleged;" opportunity is defined as "the means and likely prospect of achieving concrete benefits by the means alleged." Novak v. Kasaks, 216 F.3d 300, 307 (2d Cir. 2000). Plaintiffs cite the $189 million paid out in underwriting fees to the Underwriter Defendants for their various services in the several securities offerings that form the subject of this litigation (Appaloosa ¶ 203). Plaintiffs further cite the Lending Banks' and Underwriter Defendants' ability to "extract all kinds of revenue from Adelphia through a panoply of financial services," use the public offerings to "reduce their [Lending Banks'] exposure on the huge, risky loans they recklessly made to Adelphia," and retain "their [Lending Banks' and Underwriter Defendants'] lucrative business with Adelphia" (Pls. Jt. Scienter Br. 45). Acknowledging that standard desire for profit, common to all businesses, is insufficient to establish the motive required by Rule 10(b)-5, See Kalnit v. Eichler, 264 F.3d 131, 140 (2d Cir. 2001), Plaintiffs contend that "[t]he monetary bonanza, promise of additional long-term business, and increased security on extensions of credit, among other things alleged" create a stronger, and legally sufficient, motive for fraud (Pls. Jt. Scienter Br. at 46).
Plaintiffs, however, fail to allege any facts suggesting that the underwriting fees paid were "extraordinary", as were those at issue in In re WorldCom where the court found such out-of-the-ordinary fees an adequate showing of motive. In re WorldCom, Inc. Secs. Litig., 294 F.Supp.2d 392, 425 (S.D.N.Y. 2003). Here, merely noting $189 million paid out for billions of dollars in underwriting on numerous transactions and spread across a number of defendants cannot establish any motive greater than the common motive to profit that is insufficient to support scienter allegations. Neither can conclusory statements such as "[t]he prospect of losing the Company's incredibly lucrative underwriting business is ample evidence of motive to commit fraud" (Appaloosa ¶ 300).
Nor do Plaintiffs resolve the logical problems encumbering their other motive theories. As noted in America High Income Trust, it makes little sense for an underwriter to further entangle its affiliate with an issuer it knows to be committing fraud by spurring the affiliate to hand over large amounts of money. See American High Income Trust v. AlliedSignal, 329 F.Supp.2d 534, 545 (S.D.N.Y. 2004). Plaintiffs attempt to explain away this obstacle by asserting that the Lending Banks and Underwriting Defendants "saw Adelphia as a well that never ran dry" and "stood to gain massive fees in all aspects of their financial service businesses ad infinitum" (Pls. Jt. Scienter Br. 47). For lenders, or affiliates attempting to benefit lenders, to throw billions of good dollars after bad in the hope that their investments could be propped up, profitably, by concealing a massive fraud "ad infinitum" would be illogical, and Plaintiffs cite no authority suggesting otherwise. But illogical motives cannot satisfy the requirements of Rule 10(b)-5. "Where [Plaintiffs'] view of the facts defies economic reason . it does not yield a reasonable inference of fraudulent intent." Kalnit, 264 F.3d at 140-41 (internal quotation marks omitted). See also In re Merrill Lynch & Co. Research Reports Sec. Litig., 272 F.Supp.2d 243, 263-64 (noting that for one affiliate to attempt to garner business for another is mere profit motive recharacterized). Plaintiffs, then, have failed to adequately allege motive against the Underwriter Defendants or the Lending Banks, and the Court need not consider whether an opportunity existed.
Conscious or Reckless Action
Plaintiffs failing to demonstrate defendants' motive and opportunity may establish the "strong inference" of fraudulent intent that the PSLRA requires "by alleging facts that constitute strong circumstantial evidence of conscious misbehavior or recklessness." In re Carter-Wallace, Inc., Sec. Litig., 220 F.3d 36, 39 (2d Cir. 2000). "Allegations of recklessness generally are sufficient when plaintiffs have specifically alleged defendants' knowledge of facts or access to information contradicting their public statements or have alleged facts demonstrating that defendants failed to review or check information that they had a duty to monitor or ignored obvious signs of fraud." Global Crossing, 2004 WL 763890 at *21(quoting Novak, 216 F.3d at 308)(internal quotation marks omitted).
It is well settled that allegations of negligent due diligence fail to establish scienter. See, e.g. WRT Energy Sec. Litig., No. 96 Cv. 3610 (JFK), 1999 WL 178749, at *10 (S.D.N.Y. Mar. 31, 1999). So, too, does the mere closeness of the relationship between a particular underwriter and its client. See In re Indep. Energy Holdings PLC Sec. Litig., 154 F.Supp.2d 741, 764 (S.D.N.Y. 2001).
Here, the Plaintiffs' Joint Memorandum of Law ("Pls. Jt. Scienter Br."), in which the instant Plaintiffs join, outlines specific allegations of information possessed by the Lending Banks and Underwriter Defendants that would satisfy Plaintiffs' burden at this stage in the proceedings to create a strong inference of scienter. These allegations-such as that Adelphia's books presented to Defendants showed that co-borrowing arrangements had been used to pay for securities in lieu of cash-go beyond generalized accusations of negligence (Pls. Jt. Scienter Br. at 37-38) to show the Defendants "knew facts or had access to information suggesting that their public statements were not accurate." Novak, 216 F.3d at 311.
None of these specific allegations, though, are contained in Appaloosa and Franklin's Complaint. The Plaintiffs make only general allegations insufficient to create a strong inference of scienter, such as claiming that Defendants generally conduct debt analyses as part of due diligence on their clients (Appaloosa ¶ 311). The Complaint fails to sufficiently allege scienter, and the 10(b)-5 claims against the Lending Banks and Underwriter Defendants would be dismissed with leave to replead were they not also dismissed on other grounds noted below.
10b-5 Claims against the Outside Directors
The Outside Directors also move to dismiss the Rule 10(b)-5 claims against them for failure to adequately plead scienter. As noted above, Plaintiffs can demonstrate a "strong inference" of scienter by showing either motive and opportunity, or strong ...