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From Securities Regulation Daily, March 7, 2017
By Joseph Arshawsky, J.D.
A putative shareholder class action based on omissions regarding the association of a Chinese fraudster with the company was dismissed with prejudice for failure to allege misstatements or omissions, scienter or loss causation, a federal court in New York ruled (Puddu v. 6D Global Technologies, Inc., March 6, 2017, Sweet, R.).
Shareholders brought a putative class action against a company, its CEO, CFO, and director, in the software offerings and technology consulting sector. Benjamin Wey was alleged to be a notorious promoter of fraudulent Chinese companies. The company did not disclose Wey’s involvement in its day-to-day operations, which according to the shareholders made him an "unofficial CEO" of the company.
The SEC and Department of Justice brought an indictment against Wey, which revealed that Wey’s company, NYGG (Asia) was a Wey nominee, and therefore that he was the company’s controlling shareholder. The company’s share price tanked, and shareholders filed suit. The company and officers moved to dismiss the Second Amended Complaint (SAC), which was granted with prejudice.
Misrepresentation or omission. The court found that the misrepresentation or omission of a material fact was not adequately alleged. The SAC alleged two misstatements or omissions that purportedly rendered certain statements misleading. First, the company’s public disclosures listing its beneficial owners failed to identify Wey, who purportedly "controlled" and/or "beneficially owned" the company’s largest shareholder, NYGG (Asia). However, the definitive proxy disclosed that NYGG (Asia) was "represented" by Wey and that Wey was interacting with the company.
The court also held that mere "ownership," however, is conclusory, and is not sufficient to satisfy the Rule 9(b) and PSLRA pleading standards. The shareholders finally failed to allege any other facts demonstrating that Wey beneficially owned more than 5 percent of the company’s shares, which is the threshold required to be a "beneficial owner" under Item 403.
Second, the by-laws failed to disclose that Wey was the "unofficial" CEO of the company, as he controlled the company’s day-to-day business operations, both through his own personal involvement and through his staff at NYGG. The court reviewed the various disclosures made by the company about NYGG (Asia), and concluded that these disclosures and representations, taken together and in context, would not have misled a reasonable investor.
The claim that Wey was the company’s "unofficial CEO" was based upon a series of allegations in the SAC to the effect that Wey had interactions with certain company officers. However, the shareholders pleaded no facts showing that Wey, even if he acted as an "unofficial CEO," somehow managed to usurp the board’s ultimate authority to manage the company, which was the relevant control issue. Absent allegations that Wey controlled the board, the alleged omission is insufficient to state a claim, the court found.
Scienter. The only "motive" that the shareholders attempted to plead was that the company concealed Wey’s involvement because the company and officers knew they could not reveal to investors that he was associated with the company. However, it was disclosed in public SEC filings that Wey was a representative of the company’s largest if not controlling shareholder. This disclosure is not consistent with the motive and opportunity theory, according to the court.
The shareholders also alleged that the company and officers committed fraud because they were motivated to list on the NASDAQ. However, obtaining NASDAQ listing and completing a beneficial corporate transaction are general corporate motives that are insufficient to plead scienter.
Loss causation. The court determined that allegations of loss causation were inadequate. Government allegations in the indictments do not qualify as corrective disclosures, and even then they did not reveal the alleged fraud. Because the federal allegations did not reveal the alleged omissions, the omitted information could not have caused the price drop that followed thereafter, and therefore there is no loss causation. The shareholders also failed to allege facts which, if proven, would show that their loss was caused by the alleged misstatements as opposed to intervening events.
The case is No. 1:15-cv-08061-RWS.
Attorneys: Jonathan Richard Horne (The Rosen Law Firm, P.A.) for Joseph Puddu. Peter Nicholas Flocos (K&L Gates LLP) for 6D Global Technologies, Inc.
Companies: 6D Global Technologies, Inc.; NYGG (Asia), Ltd.
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