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January 21, 2013

IPO Fraud Case Tossed for Lack of Material Misrepresentations

By Mark S. Nelson, J.D.

Fraud claims brought against a French maker of semiconductor chips for telecom network gear must be dismissed, according to the federal court in New York City (Donald Dean Johnson v. Sequans Communications S.A., January 17, 2013, Crotty, P). Donald Dean Johnson (Johnson) had alleged that Sequans Communications S.A. (Sequans) and its officers and directors had, in the context of an IPO, misrepresented the firm's ability to sell WiMAX network gear while overstating its ability to develop faster LTE gear. The court dismissed Johnson's claims because he failed to show any actionable misstatements or omissions under Securities Act Sections 11 and 12(a)(2) and Exchange Act Section 10(b) and Rule 10b-5. Johnson also lacked Securities Act Section 12(a)(2) standing and failed to allege scienter.

No Material Misstatements or Omissions

The court said Johnson failed to allege any material misstatements or omissions. The materiality inquiry, said the court, is the same under Securities Act Sections 11 and 12(a)(2), Exchange Act Section 10(b) and Rule 10b-5. Thus, Johnson must show that Sequans' representations would have misled a reasonable investor. Significantly, the court reviewed Johnson's Securities Act claims to determine facial plausibility only because Sequans did not insist on heightened pleading, even though these claims may sound in fraud.

Johnson had claimed that Sequans ran afoul of the securities laws by failing to disclose that LTE wireless protocols were rapidly overtaking WiMAX ones. The court, however, said that Sequans had disclosed that it expected the then-dominant WiMAX market to gradually adopt LTE. Moreover, Johnson had cherry-picked articles and white-paper quotes to buoy his claims, but the full text of these publications favored Sequans' view. According to the court, Sequans explicitly warned investors that WiMAX markets may fade as providers shift to LTE.

The court also said that Johnson's claim that Sequans' WiMAX sales were falling "steep[ly]" ahead of providers' LTE rollouts was undercut by Sequans's record sales after its IPO and Johnson's inability to show that Sequans knew its major customer (HTC) planned to cut WiMAX orders in favor of LTE gear. Likewise, Johnson's claim that a noncustomer's financial ills should have tipped Sequans to an ensuing WiMAX market tumult concurrent with its IPO was implausible. The court similarly found that Johnson's claim that Sequans misrepresented its "early leader" status in LTE gear missed the mark because Sequans had disclosed that its LTE products were not yet commercially viable and that attempts to enter LTE markets could negatively impact its operating results.

Additionally, the court found Sequans' use of "soft adjectives" to describe its WiMAX market strength and its managers' skills were non-actionable puffery. The court also found Johnson's bespeaks-caution claims unavailing. Here, the court separately analyzed Sequans' forward-looking and non-forward-looking statements. Sequans' growth claims stated present facts outside the bespeaks-caution doctrine, but these statements were not misleading because they accurately recited historical firm data. Sequans' forward-looking statements about keeping and leveraging its market position also were not misleading because they were draped in sufficient cautionary language.

Plaintiff Lacked Section 12(a)(2) Standing

The court dismissed Johnson's Securities Act Section 12(a)(2) claims because he lacked standing. Sequans had argued that Section 12(a)(2) applied only to shareholders who bought shares in an IPO and not to secondary market buyers. Sequans observed that Johnson sought to "trace" his shares to Sequans' prospectus. Johnson claimed standing based on Sequans' alleged duty to provide a prospectus to secondary market buyers.

The court rejected Johnson's claim under Second Circuit precedent stating that Section 12(a)(2) claimants must have bought their shares in an IPO. Citing a non-precedential Second Circuit opinion, the court further noted that even if it allowed Johnson's theory of standing, he would lose because he did not buy his shares in a manner that required prospectus delivery. In a footnote, the court observed that, unlike Section 12(a)(2), Securities Act Section 11 does permit aftermarket buyers to trace their shares to a registration statement.

Scienter Not Alleged

The court found that Johnson failed to allege a strong inference of scienter. Johnson claimed that scienter should be imputed to two of Sequans' officers and directors based on the "core operations" doctrine. Imputation, said Johnson, was proper because Sequans' key officers knew or should have known facts about the firm's core operations that showed the firm's statements were false. Sequans argued that the PSLRA abolished the "core operations" doctrine.

The court said there is an "open question" in the Second Circuit about the post-PSLRA viability of the "core operations" doctrine. However, the Second Circuit trend is to narrowly construe this doctrine. Core-operations allegations thus are insufficient by themselves, but may bolster other scienter allegations. Here, citing Southern District of New York precedent, the court rejected Johnson's core-operations theory because it did not advance other bases for scienter. The court also rejected Johnson's motive and opportunity-based scienter claims because Sequans' R&D fundraising efforts and executive compensation plans typify broad goals held by all companies.

The case is No. 11 Civ. 6341 (PAC).

Attorneys: David A.P. Brower (Brower Piven), Christopher Michael Barrett (Robbins Geller Rudman & Dowd LLP), Jeffrey A. Berens (Dyer & Berens LLP), and Marshall Pierce Dees (Holzer Holzer & Fistel, LLC) for Donald Dean Johnson. James N. Kramer (Orrick, Herrington & Sutcliffe LLP) for Sequans Communications S.A., Dr. Georges Karam, and Deborah Choate.

Companies: Sequans Communications S.A.

LitigationEnforcement: FraudManipulation NewYorkNews SecuritiesOfferings

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