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In re Citigroup Inc.

July 12, 2010

IN RE CITIGROUP INC. BOND LITIGATION


The opinion of the court was delivered by: Sidney H. Stein, U.S. District Judge

OPINION & ORDER

I. BACKGROUND ....................................................................................................... 3

A. The Parties .............................................................................................................. 3

B. Citigroup's Bond Offerings .................................................................................... 7

i. Citigroup's CDO Exposure.................................................................................. 9

ii. Citigroup's SIV Exposure.................................................................................. 12

iii. Citigroup's Stated Reserves............................................................................... 14

iv. Citigroup's ARS Exposure ................................................................................ 15

v. Citigroup's Well-Capitalized Status .................................................................. 16

vi. Citigroup's Compliance with GAAP ................................................................. 18

C. The Financial Meltdown....................................................................................... 19

D. This Action............................................................................................................ 20

A. The Motion To Dismiss Standard......................................................................... 23

B. Statutory Provisions.............................................................................................. 24

C. Standing ................................................................................................................ 25

i. Section 11 Standing ........................................................................................... 26

ii. Section 12 Standing ........................................................................................... 28

D. Pleading Standard ................................................................................................. 30

E. Section 11 Claims ................................................................................................. 33

i. Actionable Misstatements or Omissions............................................................ 34

a. Citigroup's CDO Exposure....................................................................... 35

b. Citigroup's SIV Disclosure....................................................................... 39

II. DISCUSSION ...................................................................................................... 23

1. Pre-Consolidation Statements ...................................................... 40

c. Citigroup's Stated Reserves...................................................................... 42

d. Citigroup's ARS Exposure ....................................................................... 43

e. Citigroup's "Well-Capitalized" Status...................................................... 45

f. Citigroup's Compliance with GAAP ........................................................ 46

F. Section 15 Claims ................................................................................................. 48

2. Post-Consolidation Statements ..................................................... 41

III. CONCLUSION ................................................................................................... 49

Plaintiffs, all purchasers of bonds issued by or on behalf of Citigroup, bring this putative class action against Citigroup, Inc. raising claims pursuant to Sections 11, 12 and 15 of the Securities Act of 1933. 15 U.S.C. § 77k, l, o. Plaintiffs contend that Citigroup made materially untrue or misleading statements or omissions in public offering materials associated with forty-eight different bond issuances between May 2006 and August 2008. Also named as defendants are a Citigroup subsidiary and eight Citigroup trusts, twenty eight current or former Citigroup officers or directors, and nearly eighty banks that served as underwriters on one or more of the offerings at issue.

All defendants now move to dismiss the consolidated amended class action complaint in its entirety contending, first, that plaintiffs lack standing to pursue many of their claims, second, that plaintiffs' remaining claims "sound in fraud" and should therefore be subject to the heightened pleading requirements of Fed. R. Civ. P. 9(b) which the complaint does not satisfy, and third, that even if Rule 9(b) does not apply, plaintiffs fail to identify an actionable misstatement or omission and thus fail to plead a plausible claim to relief pursuant to any section of the Securities Act. Plaintiffs oppose those motions.

Because the Court finds (1) that plaintiffs have standing to raise Section 11 and 15 claims and state plausible claims to relief pursuant to those sections, but (2) plaintiffs lack standing to raise claims pursuant to Section 12, defendants' motion to dismiss is granted in part and denied in part.

I. BACKGROUND

Unless otherwise noted, the following facts are taken from the consolidated amended class action complaint ("complaint") and are presumed to be true for purposes of this motion:

A. The Parties

Plaintiffs are a group of pension plans and an insurance company that purchased debt securities ("bonds") issued by defendants between May 2006 to August 2008. (Compl. ¶¶ 1, 21-28.)

Plaintiff Minneapolis Firefighters Relief Association ("MFRA") is a public pension plan fund operating for the benefit of current and former Minneapolis firefighters and their dependants. MFRA traded units in five different bonds issued by defendants between March 2007 and December 2008. (Id. ¶ 21; Ex. A to Compl.)

Plaintiff Louisiana Sheriffs Pension & Relief Fund ("LSPRF") is a defined-benefit pension plan operating for the benefit of sheriffs in the state of Louisiana. LSPRF traded units in five different bonds issued by defendants between August 2006 and December 2008. (Id. ¶ 22; Ex. B to Compl.)

Plaintiff Louisiana Municipal Police Employees' Retirement System ("LAMPERS") is a defined-benefit pension plan for police officers in the state of Louisiana. LAMPERS purchased units in a bond issued by defendants in December 2007. (Id. ¶ 23; Ex. C to Compl.)

Plaintiff the City of Tallahassee Retirement System is a public pension plan operating for the benefit of current and former City of Tallahassee employees. The plan traded units in five different bonds issued by defendants between January and October 2008. (Id. ¶ 24; Ex. D to Compl.)

Plaintiff the City of Philadelphia Board of Pensions and Retirements is a public pension system that operates for the benefit of active and retired city police, fire, and municipal employees. The city pension system traded units in six different bonds issued by defendants between June 2006 and September 2008. (Id. ¶ 25; Ex. E to Compl.)

Plaintiff the Miami Beach Employees' Retirement Plan ("MBERP") is a public pension system that operates for the benefit of current and former city employees. MBERP traded units of seven different bonds issued by defendants between August 2006 and August 2008. (Id. ¶ 26; Ex. F to Compl.)

Plaintiff Southeastern Pennsylvania Transit Authority ("SEPTA") maintains a pension plan operating for the benefit of current or former SEPTA employees. SEPTA's pension fund traded units in four different bonds issued by defendants between October 2007 and September 2008. (Id. ¶ 27; Ex. G to Compl.)

Plaintiff American European Insurance Company ("AEIC") is a New Jersey based insurer. AEIC purchased units in two different bonds issued by defendants between February and May 2008. (Id. ¶ 28; Ex. H to Compl.)

Defendant Citigroup is a Delaware corporation with its principal place of business and corporate headquarters in New York City. Defendant Citigroup Funding, Inc. is a wholly-owned subsidiary of Citigroup whose business activities, according to the complaint, "consist primarily of providing funds to Citigroup and its subsidiaries." (Compl. ¶¶ 29-30.)

Defendants Citigroup Capital XIV-XXI are all statutory trusts whose sole assets are securities issued by Citigroup. (Id. ¶¶ 31-39.) Citigroup, Citigroup Funding, and the Citigroup Capital XIV-XXI (collectively, the "Citigroup Defendants") are all alleged to be issuers of the bond securities at issue in this action. (Id. ¶¶ 29-38.)

Defendants C. Michael Armstrong, Alan J.P. Belda, Sir Winfried Bischoff, George David, Kenneth T. Derr, John M. Deutch, Ann Dibble Jordan, Klaus Kleinfeld, Andrew N. Liveris, Dudley C. Mecum, Ann M. Mulcahy, Vikram Pandit, Richard D. Parsons, Charles Prince, Roberto Hernandez Ramirez, Judith Rodin, Robert E. Rubin, Robert L. Ryan, and Franklin A. Thomas are all current or former members of the Citigroup Board of Directors. (Id. ¶¶ 41-43, 46-48, 52-53, 55-57, 59-62, 64-66.) Defendants Michael Conway, Gary Crittenden, Scott Freidenrich, James Garnett, John C. Gerspach, Sallie L. Krawcheck, Saul Rosen, Eric L. Wentzel, and David Winkler are all current and former officers of Citigroup or Citigroup Funding. (Id. ¶¶ 44-45, 49-51, 54, 58, 63.) The current and former Board members and Officers (collectively, the "Individual Defendants") all served in their respective capacities at the time of some or all of the offerings. (Id. ¶¶ 41-63.)

Defendants A.G. Edwards & Sons, Inc.; ABN AMRO, Inc.; Apex Pryor Securities; B.C. Ziegler and Company; Banc of America Securities LLC; Barclays Bank PLC; Barclays Capital Inc.; BB&T Capital Markets; Blaylock Robert Van, LLC; BNP Paribas Securities Corp.; C.L. King & Associates, Inc.; Cabrera Capital Markets, LLC; CastleOak Securities, L.P.; Charles Schwab & Co.; Citigroup Global Markets; Citigroup Global Markets Limited; Comerica Securities Inc.; Credit Suisse Securities (Europe) Limited; Credit Suisse Securities (USA) LLC; Crowell, Weedon & Co.; D.A. Davidson & Co.; Danske Bank; Davenport & Company LLC; Deutsche Bank Securities Inc.; Doley Securities, LLC; Ferris, Baker, Watts, Inc.; Fidelity Capital Markets; Advisors Asset Management, Inc.; Fortis Bank NV-SA; Goldman, Sachs & Co.; Greenwich Capital Markets Inc.; Guzman & Co.; H&R Block Financial Advisors Inc.; HSBC Securities (USA) Inc.; ING Belgium, SA; J.J.B. Hillard, W.L. Lyons, Inc.; J.P. Morgan Securities Inc.; Jackson Securities LLC; Janney Montgomery Scott LLC; Jeffries & Company, Inc.; JPMorgan Chase & Co.; Keefe, Bruyette & Woods, Inc.; KeyBanc Capital Markets; Loop Capital Markets; Melvin Securities, LLC; Merrill Lynch, Pierre Fenner & Smith, Inc.; Mesirow Financial, Inc.; Morgan Keegan & Company, Inc.; Morgan Stanley & Co. Inc.; Muriel Siebert & Co.; nabCapital Securities, LLC; Oppenheimer & Co. Inc.; Pershing LLC; Piper Jaffray & Co.; Raymond James & Associates, Inc.; RBC Capital Markets Corporation; RBC Dain Rauscher Inc.; Robert W. Baird & Co., Inc.; Ryan Beck & Co., Inc.; Samuel A. Ramirez & Co., Inc.; Sandler, O'Neill & Partners, L.P.; SBK-Brooks Investment Corp.; Stifel, Nicolaus & Company, Inc.; Stone & Youngberg LLC; SunTrust Capital Markets, Inc.; TD Ameritrade, Inc.; TD Securities (USA) LLC; The Royal Bank of Scotland; The Williams Capital Group, L.P.; Toussaint Capital Markets, LLC; UBS Securities LLC; UBS Limited; Utendahl Capital Partners, L.P.; Wachovia Capital Securities, LLC; Wedbush Morgan Securities Inc.; Wells Fargo Investments, LLC; and William Blair & Company LLC each served as underwriters of one or more of the relevant offerings. (Id. ¶¶ 70-147.) As underwriters, each was responsible for ensuring the truthfulness and accuracy of the various statements contained in the Public Offering Materials related to those offerings. (Id.)*fn1

B. Citigroup's Bond Offerings

This action centers on a series of 48 bond offerings between May 2006 and August 2008 from which Citigroup raised over $71 billion dollars. According to the complaint, Citigroup did so while failing to truthfully and fully disclose critical information about its financial condition to investors, notably information pertaining to its "toxic mortgage-linked exposures." (Compl. ¶¶ 1, 149.) When that information was belatedly disclosed, Citigroup's bond securities plummeted in value. (Id. ¶ 12.)

Specifically, the complaint alleges that defendants made material untrue statements and omissions in the public offering materials associated with each of the bond issuances in at least six different ways. First, defendants failed to disclose Citigroup's exposure to $66 billion worth of collateralized debt obligations ("CDO's") backed by subprime mortgage assets. (Id. ¶¶ 3, 169.) Instead, Citigroup's public offering materials indicated that Citigroup had no direct exposure to subprime mortgage-backed CDOs. (Id. ¶ 165.) In fact, according to the complaint, Citigroup held nearly $30 billion in subprime backed CDOs and had guaranteed another $25 billion and had a total of nearly $66 billion in direct CDO exposure, facts Citigroup failed to disclose and which would have been material to investors considering Citigroup's bond offerings. (Id. ¶¶ 170, 172-73, 192.)

Second, defendants failed to properly disclose Citigroup's exposure to $100 billion in structured investment vehicles ("SIVs") that were similarly backed primarily by subprime mortgage assets. Specifically, while Citigroup maintained in its public statements that it had only "limited continuing involvement" with the SIVs it offered, in fact, Citigroup was "implicitly required" to absorb any losses from its SIVs and thus should have disclosed the SIVs as a potential liability to investors. (Id. ¶¶ 193, 197, 199.)

Third, defendants' offering materials "materially understated reserves" held for losses that might stem from Citigroup's Residential Mortgage Loan Portfolio. According to the complaint, while Citigroup was required to hold in reserve an amount necessary to protect it against all "likely" losses, in fact, Citigroup held only that necessary to cover losses that had already occurred. By disclosing a loss reserve consisting of that artificially reduced amount, the complaint alleges that defendants significantly mislead investors about the state of the company's financial health. (Id.¶¶ 227-29, 233-35.)

Fourth, defendants' offering materials failed to disclose roughly $11 billion in auction-rate securities ("ARS") that Citigroup had acquired and which, plaintiffs contend, had become "illiquid." (Id. ¶¶ 236, 242, 244.) When defendants did reveal Citigroup's exposure to illiquid ARS in April 2008, the disclosure "shocked the market." (Id. ¶ 245.)

Fifth, defendants represented in all public offering materials that it was "well capitalized"-i.e., it had a Tier 1 capital ratio above 6%. In fact, that statement was false because it failed to account for the $66 billion in CDO exposure, $100 billion in SIV exposure, and $11 in ARS exposure described above. When those exposures were disclosed and properly accounted for, it became apparent that Citigroup was "insolvent" and would require a Government bailout, thereby decimating the value of Citigroup's bond securities. (Id. ¶¶ 248-65; 319.)

Sixth, each of defendants' SEC filings-all of which were incorporated by reference into the public offering materials-represented that the Company's financial statements complied with Generally Accepted Accounting Principles ("GAAP").

According to the complaint, that representation was untrue because Citigroup's accounting of its CDO, SIVs, and other "subprime exposures" all violated GAAP in various respects. (Id. ¶¶ 263-286, 320.)

The Court turns now to each of the six baskets of allegations.

i. Citigroup's CDO Exposure

A CDO is a type of asset-backed or "structured" finance security. A CDO is formed by pooling together other assets, and holders of CDO certificates are then paid a fixed amount of principal and interest based on the performance of those underlying assets. (Id. ¶ 156.) While CDOs can be "backed" by various kinds of assets, the CDOs relevant to his action were all created by pooling together residential mortgage backed securities ("RMBS"). (Id.) RMBS are themselves collections of underlying assets- residential mortgages-and the quality of an RMBS depends on the quality of those underlying residential mortgages. (Id. ¶ 157.)

The performance of a CDO turns on the performance of the assets underlying it. Accordingly, where, as here, the CDO is backed by RMBS, the performance of the CDO turns on the performance of a collection of individual residential mortgages. According to the complaint, a "substantial amount" of those underlying residential mortgages were "subprime" mortgages. And because a subprime mortgage-which is generally defined as one issued to a borrower with a "FICO" score of 620 or below*fn2 -carries a higher risk of default than a ...


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