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Sixth Circuit Holds That An Employee’s State Of Mind Cannot Be Imputed To Corporate Defendant When The Employee Did Not Make A Public Misstatement
06/07/2016On May 24, 2016, the United States Court of Appeals for the Sixth Circuit affirmed the District Court’s dismissal of securities fraud claims asserted against a corporation and the corporation’s CEO and CFO. Doshi v. Gen. Cable Corp., No. 15 Civ. 5621, 2016 BL 164374 (6th Cir. May 24, 2016). Although a corporate executive’s knowledge typically will be imputed to a corporation, the Court held that an executive’s state of mind, i.e., intent, will not be imputed unless that executive himself or herself makes a public misstatement. This decision confirms the Sixth Circuit’s decision in In re Omnicare, Inc. Sec. Litig., 769 F.3d 455 (6th Cir. 2014) and makes clear that courts must review “all the allegations holistically” to determine whether a corporation’s scienter has been adequately pleaded. Plaintiffs had alleged that defendants violated sections 10(b) and 20(a) of the Securities Exchange Act (the “Securities Act”) by recklessly issuing and/or approving materially false public financial statements.
In October 2012, defendant General Cable announced that it had discovered material accounting issues in certain of its previously filed public financial statements related to activities of its privately held subsidiary in Brazil. Following restatements of its financial statements, plaintiff filed a putative class action against the company, its CEO and its CFO. The complaint alleged that defendants had violated Sections 10(b) and 20(a) of the Securities Act by recklessly issuing and/or approving materially false public financial statements. Defendants moved to dismiss the complaint on the ground that plaintiff had failed to plead scienter as required under the Private Securities Litigation Reform Act (“PSLRA”). The district court granted the motion, dismissing the complaint with prejudice. Plaintiff then sought to alter the judgment and to amend the complaint. The district court denied plaintiff’s motion, holding that the proposed amendment would be futile.
The PSLRA requires a plaintiff to “state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind” in violating the securities laws.” 15 U.S.C. § 78-u(b)(2)(A). On appeal, plaintiff argued it adequately pleaded scienter because it alleged that a non-party executive officer at General Cable knew of and failed to report accounting errors and that this non-party executive was reckless when he failed to disclose these errors. Plaintiff further argued that the executive’s recklessness could be imputed to General Cable.
Although the Sixth Circuit agreed that plaintiff had alleged the non-party executive’s knowledge with sufficient particularity, it drew a clear distinction between imputing his knowledge and imputing the executive’s state of mind. According to the Court, its prior decision in Omnicare supported imputing an executive’s state of mind to a corporate defendant only when the executive is alleged to have himself or herself made a public misstatement. In the absence of such a statement, the corporation’s state of mind must be assessed independently by considering “all the allegations holistically” based on a non-exhaustive list of nine factors previously identified by the Sixth Circuit in Helwig v. Vencor, Inc., 251 F.3d 540, 556 (6th Cir. 2001). Because the majority of the factors weighed in favor of rejecting scienter in the case, the Court found that plaintiff had failed to state a claim under Section 10(b) against General Cable. The Court also found that plaintiff’s claims against the individual defendants failed, noting that plaintiff relied on the same factual allegations to support scienter with respect to the individual defendants as it had with General Cable and that these allegations were no more persuasive. Lastly, lacking a primary securities law violation, the Circuit found that plaintiff’s Section 20(a) control-person claims failed as well.
