The opinion of the court was delivered by: Robert P. Patterson, Jr., U.S.D.J.
Plaintiff John Woodward ("Plaintiff") alleges, in an amended class action complaint ("Amended Complaint") filed on November 25, 2009, that Defendants Raymond James Financial, Inc. ("RJF"), Thomas A. James, Jeffrey P. Julien, Steven Raney, and Mark Moody (collectively, "Defendants") engaged in a scheme to defraud shareholders by making material misrepresentations about the adequacy of the loss reserves for the loan portfolio of its subsidiary Raymond James Bank, and the financial health of the loan portfolio between April 28, 2008 and April 14, 2009. Defendants filed a motion to dismiss on January 22, 2010. For the reasons stated herein, the Defendants' motion to dismiss is granted.
I. Facts and Proceedings*fn1
The Amended Complaint is lengthy -- 112 pages long, containing 356 paragraphs -- and contains numerous factual allegations.*fn2 These allegations boil down to one proposition: that the Defendants purposefully underfunded their loan loss reserves and then made material misrepresentations about the adequacy of those loan loss reserves during the class period, which the Amended Complaint defines as beginning on April 22, 2008 and ending on April 14, 2009. The allegations center upon the loan portfolio and loan loss reserves at Raymond James Bank ("RJBank"), a subsidiary of RJF that was created by RJF in 1994.*fn3 (Amended Complaint ¶ 36.) Loan loss reserves are set-asides of capital "to account for potential losses stemming from the Bank's loans, specifically the risks of borrowers encountering difficulties in meeting their loan payment obligations." (Id. ¶ 53.) A provision for loan losses, which adds to the loan loss reserves, appears as an expense on a company income statement, and "thus, a lower quarterly provision for loan losses results in higher quarterly profit." (Id. ¶ 54.)
A. The Alleged Fraudulent Scheme
Beginning in FY 2008,*fn4 RJBank is alleged to have "intentionally record[ed] provisions that the Company knew were too low given the deteriorating economy and concomitant risks." (Id. ¶ 57.) On April 14, 2009, RJF released its results for the Second Quarter of FY 2009. (Id. ¶ 168.) The results were "well below the consensus analysts' estimates." (Id.) The release made clear that RJBank was expected to incur a loss of $8 million for that quarter because it would have to provide for loan losses and charge-offs and because it would need to add to loan reserves. (Id. ¶ 169.) The Amended Complaint alleges that "[t]he allowance for loan losses was expected to reach $142 million, or 1.83% of loans." (Id.) The news of this unexpectedly large provision for loan loss reserves "sent RJF shares plummeting." (Id. ¶ 172.) The Amended Complaint alleges that RJF "closed at $16.49 per share on April 15, on unusually high volume, down $2.57 per share, or 13.48% from its close the prior day. Over the next few days, RJF's stock price traded as low as under $15 per share, well below its Class Period highs of over $38 per share." (Id.)
The Amended Complaint alleges that, during the class period and as a part of their fraudulent scheme to conceal the fact that their loan loss provisions were too low, "Defendants concealed the following: (1) the fact that [RJBank] was increasing risky commercial real estate lending at a time when that industry was contracting in this area; (2) the risk that if one large loan defaulted, [RJBank] could take a substantial hit to its earnings -- which risk materialized in April 2009, causing [RJBank's] previously-impressive earnings to fall into the red and causing the Company to miss analysts' forecasts; and (3) the fact that in order to provide meaningful guidance on the likelihood of default, the [loan-to-value ("LTV")] ratios for [RJBank's] residential loans should have been adjusted to account for falling home prices." (Id. ¶ 67.) The Amended Complaint also alleges that, as a part of this same scheme, Defendants "misrepresented the extent that RJBank was better positioned than other banks to withstand the economic downturn, through misleading statements regarding (1) [RJBank's] purportedly conservative underwriting standards and avoidance of subprime residential mortgages; (2) the extent that the low LTV ratio in [RJBank's] residential mortgages reliably indicated that [RJBank's] borrowers were unlikely to default; and (3) [RJBank's] purportedly minimal exposure to the same factors that were decimating the industry -- residential mortgages to borrowers at risk of default and commercial loans to borrowers suffering as commercial real estate values plummeted and the recession's impact spread across the economy." (Id. ¶ 68.) The Amended Complaint also alleges that "Defendants misrepresented the likelihood of extensive losses, through misleading statements regarding (1) the diligence of its risk management efforts; and (2) [RJBank's] purported practice of independently reviewing all loans on its books, regardless of whether [RJBank] originated the loans, including syndicated corporate loans in which [RJBank] was a participant." (Id. ¶ 69.)
Separate and apart from concealing the above information, the Amended Complaint also alleges that "Defendants deliberately and/or recklessly ignored information they regularly reviewed and evaluated (and were required to review and evaluate) in determining RJBank's proper loan loss reserve level, including: (1) warnings and assessments from federal regulators concerning deterioration of commercial real estate and other commercial loans; (2) information showing both the commercial and residential real estate markets continuing on steep declines; (3) economic data indicating that the recession's impact had spread throughout the economy, hitting the retail, manufacturing, and services sectors -- industries to which RJBank was heavily exposed through its corporate borrowers; and (4) information indicating vast disparities between RJBank and industry averages, including significant differences between RJBank's loan growth and its loan loss reserves and those of other banks." (Id. ¶ 70.)
B. Misrepresentations and Misleading Statements
The Amended Complaint devotes considerable space to allegations that the Defendants made material misrepresentations or omissions. (Id. ¶¶ 173-235.) The alleged misrepresentations and omissions in the Amended Complaint can be divided into four categories: (1) statements about RJBank's loan loss reserves; (2) statements about the RJBank loan portfolio (including loan-to-value ratios, loan concentrations, and due diligence); (3) statements about RJF's and RJBank's management styles; and (4) statements about RJF's SEC filings and compliance with generally accepted accounting principles ("GAAP"). Rather than reproduce herein each of the alleged misstatements from the Amended Complaint (of which there are over twenty and which occupy over sixty paragraphs of the Amended Complaint), the opinion provides a representative sample of the misrepresentations alleged in the Amended Complaint.
In the first category are statements such as the allegation that on July 23, 2008, Defendant Thomas James, in answer to a question at an analysts' telephone conference, stated:
Most of the questions from our auditors are still dealing with the fact that our reserves are too high. So, our outside auditors who should be chastened in their approach to what reserves are necessary in the banking industry at the moment, still are not convinced that we are not over-reserved. So, we'll find out, but as Steve [Raney] pointed out to you and I hope you got a feel of essentially the residential loans are nominal way below industry averages in terms, and we do have a lot of history with a lot of those loans over a period of time. The A & D loans, he has tended to mark them down the instant that there is any question about any problems dealing with them and we do anticipate that a couple of other of those loans will have some sort of loss exposure. But again they do have good assets. I mean it isn't like they don't have good assets. So, it's not like we are going to have any fire sales in those areas. So, I am, I feel more than confident that without any problems in the corporate sector that we have more reserves than we need. (Id. 209.)
In the second category are statements such as the allegation that "[i]n an interview on CNBC on April 22, 2008, the Defendant Thomas James stated: 'in our bank subsidiary we avoided subprime lending, so, a lot of the direct losses that have been experienced by the major banks we haven't experienced.'" (Id. 177.)
In the third category are statements such as the allegation that "[i]n an interview on CNBC on April 22, 2008, the Defendant Thomas James stated: 'I'd express some frustration about [being lumped in with all the other financial services companies] because, you know, we have a very conservative management approach in our business and so we've avoided a lot of the problems, but I don't think we've been recognized for having done that.'" (Id. 178.)
And in the fourth category are statements such as the allegation that "[i]n RJF's SEC Form 10-Q for the Second Quarter of FY 2008, filed on May 12, 2008, the Company stated: 'RJBank provides for both an allowance for losses in accordance with SFAS No. 5 and a reserve for individually impaired loans in accordance with SFAS No. 114.'" (Id. ¶ 190.)
The Amended Complaint alleges that "the Defendants' intent to deceive and/or their reckless disregard for the truth is demonstrated by direct evidence as well as circumstantial evidence [herein,] supporting a strong inference of scienter." (Id. ¶ 280.)
The Amended Complaint alleges many facts which, Plaintiff contends, are sufficient to support a finding of scienter.
First, the Amended Complaint alleges that scienter is established because the loan loss reserve decision was discussed extensively by the upper levels of RJF and RJBank management and because the Defendants were aware of regulatory warnings about the commercial and residential real estate market, economic indicators about the real estate market, and RJBank's "recently expanded portfolio of corporate and commercial borrowers." (Id. ¶ 282.) Relatedly, the Amended Complaint alleges that when RJBank increased its loan loss provision in the second quarter of FY2009, the Defendants could not point to "any event that occurred in the preceding quarter" that caused this sudden ...