United States District Court, S.D. New York
STREAM SICAV, DHARANENDRA RAI, and TIEN CHUNG, Individually and on Behalf of All Others Similarly Situated, Plaintiffs,
JAMES JUN WANG, SMARTHEAT, INC., and JOHN DOES 1-4, Defendants.
OPINION & ORDER
PAUL A. ENGELMAYER, District Judge.
In this putative class action, plaintiffs allege that defendants Smartheat, Inc. ("Smartheat") and James Jun Wang violated § 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), and the United States Securities and Exchange Commission's implementing rule, 17 C.F.R. § 240.10b-5. During discovery, plaintiffs moved to compel Smartheat to produce responsive documents held by its subsidiaries. Smartheat claimed that such documents were not within its custody, possession, or control. To resolve that dispute, the Court ordered discovery as to Smartheat's access to documents held by its subsidiaries. The parties have now completed that discovery and briefed the issue. For the reasons that follow, the Court holds that Smartheat does not have access to documents held by its subsidiaries. Plaintiffs' motion to compel is therefore denied.
A. Facts Alleged in the Second Amended Complaint
Smartheat is a Nevada holding company whose subsidiaries operate primarily in China. Dkt. 52 ("Second Amended Complaint" or "SAC") ¶ 31. Smartheat "designs, manufactures, and sells clean technology plate heat exchangers and related systems in China." Id. Its technology is used in commercial and residential buildings. Id. Wang founded Smartheat and, until May 25, 2012, served as its CEO and board chairman. Id. ¶ 29. He remains chairman and CEO of Smartheat's principal subsidiary, Smartheat Taiyu (Shenyang) Energy Technology Co., Ltd. ("Taiyu"), which he founded in 2002. Id. ¶¶ 29-30.
On January 29, 2009, Smartheat's stock started trading on the NASDAQ stock exchange. Id. ¶ 3. That same day, Smartheat announced that its senior management had entered into a lock-up agreement that prevented them from selling any shares until 2012. Id. The locked-up shares represented approximately 61% of Smartheat's outstanding common stock. Id. ¶ 53. That day, Smartheat issued a press release that quoted Wang as saying, "Our entire senior management team has voluntarily entered into share lock-ups as a reflection of our groat confidence in the prospect of Smartheat." Id. ¶¶ 49. Throughout 2009, Smartheat and others continued to tout the lock-up agreement. Id. ¶¶ 51-54. On January 11, 2010, Smartheat's stock price reached its all-time peak, at $186 per share. Id. ¶ 95.
The SAC alleges two instances in which Smartheat subsequently failed to disclose new information that allegedly rendered materially false or misleading its original statements about the lock-up agreement. First, the SAC alleges, on February 5, 2010, Wang and senior management entered into a revised lock-up agreement, which stated that the lock-up agreement had been terminated on January 1, 2010, a month earlier, but did not disclose this revision to shareholders. Id. ¶¶ 6, 13. Second, the SAC alleges, between February 2010 and August 13, 2010, Wang, working through Smartheat's counsel, Robert Newman, caused 380, 000 locked-up Smartheat shares, owned by "Smartheat insiders, " to be sold for $23 million, again without any disclosure that shares subject to the previously touted lock-up agreement were being sold. Id. ¶¶ 7, 57-65. The 380, 000 shares had been subject to the earlier lock-up agreement, but were freed from that restriction by the undisclosed February 5, 2010 agreement. Id. ¶ 7.
The SAC alleges that the sales of the 380, 000 locked-up shares "put steady downward pressure on Smartheat's stock price, " causing it to drop almost 44 percent between February 24, 2010, and May 3, 2010. Id. ¶ 102. Then, in late 2011, the Financial Industry Regulatory Authority (FINRA) charged the brokerage company that had executed the sales, First Merger Capital, Inc., and five of its employees, with failure to report the apparently suspicious sales. Id. ¶ 14. In early 2012, the employees accepted FINRA's allegations. Id. ¶ 15.
On May 25, 2012, following a two-day meeting of Smartheat's board, Wang resigned as CEO. Id. ¶ 16. He maintained his positions at Smartheat's subsidiaries, including as chairman and CEO of Taiyu, Smartheat's principal subsidiary. Id. ¶ 29. At the same time, Smartheat obtained a $2 million revolving line of credit with a 1.25% per month interest rate and a 4% origination fee from a company at which Wang was a principal, Northtech. Id. ¶ 17. The line of credit was secured by most of Smartheat's assets. Id.
On May 30, 2012, Smartheat reported the results of its May 25, 2012 board meeting. Id. ¶ 18. That same day, NASAQ halted trading in Smartheat's shares, seeking information regarding "the restructuring of [Smartheat's] board and management and [Smartheat's] entry into a secured revolving credit facility." Id. NASDAQ then delisted Smartheat. Id. ¶ 19. When trading of Smartheat's stock resumed, this time on the pink sheets rather than on the NASDAQ, Smartheat's share price fell from $4.04 to $1.30 on the fi rst day. Id. ¶ 20. Between then and the filing of the SAC, Smartheat's stock price traded at between $0.25 and $1.35 per share. Id. ¶ 115.
B. Procedural History Prior to the Instant Dispute
On August 31, 2012, the initial Complaint in this case was filed by putative lead plaintiff Steve Leshinsky. Dkt. 1. On December 14, 2012, the Court appointed Stream SICAV, an institutional investment fund incorporated in Luxembourg, to serve as lead plaintiff. Dkt. 18. Plaintiffs later filed an Amended Complaint and a Second Amended Complaint. Dkt. 22, 52. On May 8, 2013, Smartheat moved to dismiss the Second Amended Complaint. Dkt. 54. On July 24, 2013, plaintiffs moved to serve Wang, who lives in China, through Smartheat's registered agent and counsel. Dkt. 66. On October 7, 2013, after briefing, the Court denied defendant's motion to dismiss and granted plaintiffs' motion for alternative service of Wang. Dkt. 70. On October 21, 2013, the Court revised and approved the parties' case management plan, under which fact discovery was to close on April 16, 2014. Dkt. 75-76. On November 7, 2013, the Clerk of Court issued a certificate of default as to Wang. Dkt. 83.
C. Procedural History of the Instant Dispute
On January 3, 2014, plaintiffs informed the Court that, in response to their requests for production, Smartheat had disclaimed any ability to access documents held by its Chinese subsidiaries, and that, as a result, its entire production consisted of 47 documents, most of them briefs or exhibits thereto opposing the NASDAQ's action to delist its shares. Dkt. 84. Plaintiffs requested an order directing Smartheat to produce all responsive documents in its possession, including those held by its subsidiaries. Id.
On January 21, 2014, the Court held a telephone conference with the parties and directed plaintiffs, under Federal Rule of Procedure 30(b)(6), to "notice a deposition of a person at Smartheat, Inc. to testify about that company's processes and practices with respect to the creation and custody of, and access to, documents including but not limited to the extent to which Smartheat, Inc., or its agents, have had access to documents of its subsidiaries." Dkt. 89. The Court directed the parties to brief the issue "[i]f, after the deposition, the parties remain in dispute about the ability of Smartheat, Inc. to produce the documents that plaintiff has requested." Id.
On January 29, 2014, the Court approved plaintiffs' deposition notice after defendants challenged its scope. Dkt. 95. On February 24, 2014, plaintiffs deposed Oliver Bialowons, the President and CEO of Smartheat. During the deposition, the parties reached an impasse and requested a telephone conference with the Court. During that conference, the Court clarified the scope of the deposition and authorized continuation of the deposition by video, as Bialowons, to the Court's surprise, had arranged to ...