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From Securities Regulation Daily, August 3, 2018

Judgment on failure to disclose association with notorious fraudster vacated

By Rodney F. Tonkovic, J.D.

A Second Circuit panel has vacated a district court order dismissing a fraud complaint arising out of an alleged failure to disclose beneficial ownership. The complaint was based on an indictment revealing that a notorious fraudster was, unbeknownst to shareholders, was the "unofficial CEO" of a tech company. The district court dismissed the complaint with prejudice, finding that the elements of fraud were inadequately pleaded. The panel, however, drew all reasonable inferences in favor of the plaintiffs and concluded that the fraudster's involvement in the company was intentionally concealed (Puddu v. 6D Global Technologies, Inc., August 2, 2018, per curiam).

No Wey. Shareholders brought a class action against 6D Global Technologies, Inc., which operated in the software offerings and technology consulting sector. According to the complaint, 6D failed to disclose that Benjamin Wey, a known promoter of fraudulent Chinese companies, was not only closely involved in the company's day-to-day operations, but was also its controlling shareholder. Wey's involvement was revealed in enforcement actions by the SEC and DOJ in September 2015, after which NASDAQ immediately halted trading in 6D's stock.

The district court sitting in Manhattan dismissed the complaint with prejudice in March 2017. According to the court, the shareholders failed to adequately plead a material misstatement or omission, scienter, and proximate cause. The panel vacated the district court judgment and remanded the case for further proceedings.

Elements adequately pleaded. First, the complaint alleged that 6D was required, but failed, to disclose that Wey was the beneficial owner of 45 percent of 6D's common stock. According to the panel, the complaint's allegations, when taken together, showed that Wey was treated as a powerful, influential shareholder. The district court concluded that the allegations were merely conclusory, but, in doing so, failed to draw all reasonable inferences in the plaintiff's favor, the panel said.

The complaint also adequately alleged scienter on the part of the 6D defendants. Here, the complaint alleged that 6D privately acknowledged Wey's influence while publicly denying his involvement. While 6D's CFO swore that Wey was, at most, an occasional unpaid consultant, the complaint alleged that company officers knew that Wey was the company's 45 percent shareholder. The allegations, taken as true, strongly implied that Wey's involvement was intentionally concealed, the court said.

Finally, the panel concluded that the complaint also adequately pleaded loss causation. The district court rejected the theory that the alleged omission of Wey's involvement caused the loss in value of 6D's stock because the corrective disclosures – the DOJ indictment and SEC complaint – did not disclose Wey's beneficial ownership. The panel disagreed, observing that the SEC complaint alleged that Wey had substantial control and that this disclosure led to NASDAQ's trading halt.

The case is No. 17-938-cv.

Attorneys: Laurence Mathew Rosen (The Rosen Law Firm, P.A.) for Joseph Puddu. Tom M. Fini (Catafago Fini LLP) for 6D Global Technologies, Inc.

Companies: 6D Global Technologies, Inc.; New York Global Group, Inc.; NYGG [Asia], Ltd.

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