SW Legal studies in Business

Higher Scienter Standard for Fraud Under Private Securities Litigation Reform Act
Description Appeals court affirmed the dismissal of a securities fraud case brought by shareholders against a company and its executives for not having revealed certain information to investors. The suit may not proceed because it fails the stronger scienter test of the Private Securities Litigation Reform Act to show reckless misconduct.
Topic Securities Regulation
Key Words Securities Fraud; Private Securities Litigation Reform Act; Recklessness
C A S E   S U M M A R Y
Facts Fleming, a publicly held company, and several officers of the company, were sued by various stockholders for securities fraud for filing documents that were materially false and misleading. The stockholders contended that information in various reports failed to discuss litigation lost by Fleming that resulted in a damage award of $200 million, which saw the company's stock fall by about 25%. The stock price recovered some after part of the trial verdict was set aside and Fleming settled the case by paying $20 million. Stockholders contended that failure to fully reveal the risks of that litigation caused losses to investors in Fleming stock. The district court dismissed the suit because the plaintiffs failed to show that Fleming made deliberate and materially misleading statements or omissions. Stockholders appealed.

Affirmed. The case is subject to the Private Securities Litigation Reform Act (PSLRA) which was designed "to curb abuse in private securities lawsuits." The Act mandates a more stringent pleading standard for securities fraud actions, especially for scienter requirements. Other courts agree that "plaintiffs can adequately plead scienter by setting forth facts raising a ‘strong inference' of intentional or reckless misconduct." Plaintiffs have failed to show such recklessness on the part of Fleming or its executives. Recklessness is conduct that is an extreme departure form the standards of ordinary care that present a danger of misleading buyers or sellers that were so obvious that the party could not have been unaware of it. Here there is an allegation of fraud by hindsight. The company did not know how the litigation in question would turn out and so could not anticipate the possible impact on company stock price.

Citation City of Philadelphia v. Fleming Companies, Inc., — F.3d — (2001 WL 1024039, 10th Cir., 2001)

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