Opinion
Master File 02 Civ. 3288 (DLC).
February 22, 2005
Max W. Berger, John P. Coffey, Steven B. Singer, Chad Johnson, Beata Gocyk-Farber, John C. Browne, David R. Hassel, Bernstein Litowitz Berger Grossman LLP, New York, New York, Leonard Barrack, Gerald J. Rodos, Jeffrey W. Golan, Mark R. Rosen, Jeffrey A. Barrack, Pearlette V. Toussant, Regina M. Calcaterra, Chad A. Carder, Barrack, Rodos Bacine, Philadelphia, Pennsylvania, for Lead Plaintiff in the Securities Litigation.
Geoffrey S. Harper, Beth Jaynes, Kelly R. Vickers, Autumn J.S. Hwang, Fish Richardson P.C., New York, New York, for Defendant Francesco Galesi.
George E. Ridge, Cooper Ridge Lantinberg, P.A., Jacksonville, FL, for Defendant Bert C. Roberts, Jr.
Eliot Lauer, Michael Moscato, Jonathan Walsh, Curtis, Mallet-Prevost, Colt Mosle LLP, New York, NY, for Defendant Arthur Andersen LLP.
Jay B. Kasner, Thomas J. Nolan, Jay S. Berke, Susan L. Saltzstein, Jason D. Russell, Cyrus Amir-Mokri, Steven J. Kolleeny, Skadden, Arps, Slate, Meagher Flom LLP, New York, New York, for Underwriter Defendants.
OPINION AND ORDER
This Opinion addresses the Lead Plaintiff's first motion in limine in this consolidated class action arising out of the collapse of WorldCom, Inc. ("WorldCom"). Through this motion, the Lead Plaintiff seeks to exclude evidence from the plenary trial relating to the individualized issues of the class representatives. This Opinion assumes familiarity with the Opinions issued in the WorldCom Securities Litigation and the terminology used in those Opinions. Background
Several of the Lead Plaintiff's six motions in limine were decided in an Opinion and Order of February 17, 2005. See In re WorldCom, Inc. Sec. Litig., No. 02 Civ. 3288 (DLC), 2005 WL 375315 (Feb. 17, 2005).
The Lead Plaintiff does not presently intend to call any of the named plaintiffs or persons associated with them as trial witnesses. It intends to prove the materiality of misstatements and omissions through the traditional sources of evidence, that is, by showing movements in the price of WorldCom securities following disclosures. The Lead Plaintiff seeks to reserve for a separate trial or proceeding the individualized knowledge, reliance, and damages issues associated not just with the absent class members, but also with the named plaintiffs. Accordingly, it moves to exclude from the plenary trial all evidence or testimony relating to the individual investment decisions of the class representatives.
For descriptions of the named plaintiffs in the consolidated class action, see In re WorldCom, Inc. Sec. Litig., 219 F.R.D. 267, 275 (S.D.N.Y. 2003).
The defendants seek to offer deposition testimony from nine witnesses associated with the named plaintiffs and at least 300 exhibits. They also seek to call as trial witnesses several individuals associated with the Lead Plaintiff, including the New York State Comptroller.
The Underwriter Defendants do not oppose the bifurcation of the issues of individualized damages and reliance, but argue that it remains appropriate for them to call witnesses associated with the named plaintiffs in order to establish the materiality of alleged omissions, the sufficiency of disclosures in the 2000 and 2001 Registration Statements, and the adequacy of the Underwriter Defendants' due diligence efforts. The Underwriter Defendants seek to show that the financial advisers of the class representatives were aware of most of the operational and financial challenges facing WorldCom and that certain alleged omissions were not significant to them. With respect to their due diligence defense, they seek to show that the professionals associated with the named plaintiffs also faced due diligence obligations, were aware of the same information as the Underwriter Defendants, and did not suspect that a fraud was being committed.
Arthur Andersen LLP ("Andersen") does not oppose the bifurcation of the issues of individualized damages and reliance, but argues that the trading history of the Lead Plaintiff is important evidence in connection with the issue of loss causation. It asserts that the Lead Plaintiff's purchase of WorldCom securities after January 28, 2002 undercuts the anticipated testimony from the Lead Plaintiff's expert that the first disclosure of material misrepresentations by WorldCom occurred on January 28, 2002.
Former WorldCom director Bert C. Roberts does not oppose the bifurcation of issues of individualized reliance and damages, but seeks to offer evidence regarding the named plaintiffs and their investment advisors to show that professionals in the investment community were reviewing the same information that he was regarding WorldCom. Roberts wishes to show the level of expertise that would be required to uncover any accounting irregularities and to argue that even those who conducted an extensive analysis were unable to detect accounting irregularities. He also seeks to show that facts which the Lead Plaintiff characterizes as "red flags" were immaterial to its investment decisions. According to Roberts' counsel, "[t]he truth on this issue, which Lead Plaintiff seeks to hide, tars him with the same brush he seeks to wield against the defendants and defeats his claims."
Discussion
Testimony from the named plaintiffs and their financial advisors is inadmissible at the plenary trial. First, Andersen's loss causation argument is really a reliance argument and will be addressed in post-trial proceedings. Second, the evidence from the named plaintiffs is not probative of whether the defendants performed adequate due diligence. Finally, whatever probative value there might be from showing what information the financial advisors to the named plaintiffs possessed, that value is substantially outweighed by the significant Rule 403 concerns that permeate this evidence.
Andersen wishes to show that the purchase of WorldCom securities by the Lead Plaintiff in 2002 undercuts the Lead Plaintiff's contention that early 2002 announcements were partial disclosures of earlier material misrepresentations and omissions by WorldCom. The Lead Plaintiff has the burden on the Exchange Act Section 10(b) claim brought against Andersen of showing that the misrepresentations and omissions on which its claims are based caused the losses suffered by the class. See In re WorldCom, Inc. Sec. Litiq., 02 Civ. 3288 (DLC), 2005 WL 375314, at *6 (S.D.N.Y. Feb. 17, 2005). Typically, evidence of loss causation is presented through evidence of the movement of the price of securities following an announcement. Id. at *5-*6.
Evidence of the Lead Plaintiff's trading following an announcement is a very imprecise way of rebutting a showing of loss causation. It raises more directly issues that are individual to one member of the class, albeit the Lead Plaintiff, such as its reliance. Because of the danger of confusion of the issues and of unfair prejudice to the class, the Lead Plaintiff has shown that the negligible probative value of this evidence is substantially outweighed by the other factors that must be weighed in a Rule 403 analysis.
The Underwriter Defendants contend that the financial advisors to the named plaintiffs had to perform their functions under the prudent man standard in Section 404(a)(1)(c) of ERISA, 29 U.S.C. § 1104(a)(1)(C), making their conduct relevant to the performance of due diligence by the defendants. Accepting as true that the named plaintiffs' financial advisors had fiduciary obligations under ERISA, the roles of an underwriter and a financial advisor and the legal duties of each are so different that it makes the evidence of the latter's performance or opinions of limited relevance to a jury's assessment of whether the former performed adequate due diligence.
It is the task of the underwriter to go behind the publicly available information and, using its direct access to the issuing company, to conduct a searching inquiry as to any portions of a registration statement that are not made on the authority of an expert. See In re WorldCom, Inc. Sec. Litig., 346 F. Supp. 2d 628, 677-78 (S.D.N.Y. 2004). The law imposes on underwriters the vital role of assuring the accuracy of registration statements.Id. at 663. Even in the context of an expert's statements within a registration statement, an underwriter defendant must show that it had no reasonable ground to believe and did not believe that the statements within the registration statement that were made on an expert's authority were untrue. Id. at 673. The Director Defendants face the same due diligence obligations under Securities Act Section 11(b) as the Underwriter Defendants.
Andersen acted as an expert in connection with its certification of WorldCom's financial statements and can also present an affirmative defense of due diligence on the Securities Act claims that it faces. In connection with the Section 11 claim, that defense allows it to avoid liability by showing that it had "after reasonable investigation, reasonable ground to believe and did believe" that the statements made in its certifications "were true and that there was no omission to state a material fact required to be stated therein or necessary to make the statements therein not misleading." 15 U.S.C. § 77k(b) (3) (B); see also In re WorldCom, Inc. Sec. Litig., No. 02 Civ. 3288 (DLC), ___ F. Supp. 2d ___, 2005 WL 89395, at *17 (S.D.N.Y. Jan. 18, 2005). Andersen certified that it had conducted a GAAS-compliant audit of WorldCom's books and records and that based on that audit could represent that WorldCom's financial statement presented fairly, in all material respects, the financial position of WorldCom. Id. at *1, *17. The burden of proof placed on Andersen in presenting its due diligence defense therefore differs significantly from any duty imposed upon a financial advisor to an investor in WorldCom securities.
Evidence from the financial advisors also runs the risk of introducing into the trial the completely extraneous issue of whether the financial advisors themselves performed their duties as they were required to. Simply put, the opinions and performance of the named plaintiffs and their financial advisors are not the yardstick by which to measure the due diligence of the defendants. Because the danger of jury confusion substantially outweighs any limited relevance that the evidence from the named plaintiffs' financial advisors may have on the issue of due diligence, this evidence may not be admitted. Fed.R.Evid. 403.
The Underwriter Defendants also seek to offer evidence from the financial advisors to show that the alleged misstatements and omissions were not material. A material fact is one that would have been viewed by the reasonable investor as having significantly altered the total mix of information made available. WorldCom, 346 F. Supp. 2d at 658. The test for judging materiality is an objective one. Unlike the class generally, the named plaintiffs and their financial advisors are undisputedly sophisticated investors. One could argue that a fact that is immaterial to a sophisticated investor is a fortiori immaterial to a reasonable investor. That is, however, not necessarily so. A particular financial advisor may judge the significance of a particular fact in a very different way than the putative reasonable investor.
Confronted with a similar issue, albeit in the context of named plaintiffs who were not sophisticated investors, the Honorable Kimba Wood excluded testimony from named plaintiffs in the plenary trial of a securities fraud action before her. See In re ICN/Viratek Sec. Litig., No. 87 Civ. 4296 (S.D.N.Y. July 15, 1996). She reasoned that a sampling of class members' opinions
is entirely irrelevant — because, for materiality purposes, the `reasonable investor' is equivalent to the market itself. Put another way, on this view, materiality is a determination of whether the market would have cared about a particular statement so that the market price of the stock of the relevant corporation would then have changed — in a way that would then have affected all actual investors except those who relied entirely on sources other than public information.Id. at 8-9; see also id. at 9 n. 2.
There is a related problem that arises from the use of the financial advisors of the named plaintiffs to show materiality or the lack thereof. A jury may very well confuse the issue of the named plaintiffs' individual reliance with the class-wide issues of reliance on the Exchange Act claims and with issues of materiality. Because the named plaintiffs were sophisticated investors, they had a heightened burden to establish justifiable reliance that will not apply to the class generally. See Cromer Finance Ltd. v. Berger, 205 F.R.D. 113, 132-33 n. 28 (S.D.N.Y. 2001) (citing Brown v. E.F. Hutton Group, Inc., 991 F.2d 1020, 1032 (2d Cir. 1993)). Similarly, the Lead Plaintiff points out that the jury may be critical of the named plaintiffs and their financial advisors for not doing more research about WorldCom and may hold that fact unfairly against the class.
The provision of the Private Securities Litigation Reform Act of 1995 ("PSLRA") that effectively established a preference for the appointment of institutional investors as lead plaintiffs in securities class actions, see 15 U.S.C. § 77z-1(a) (3) (B) (iii) (I), was "intended to empower investors so that they, not their lawyers, control securities litigation." S. Rep. No. 104-98, 104th Cong. 1st Sess 1, 6 (1995), reprinted in 1995 U.S.S.C.A.N. 679, 685. There is no indication, however, that the drafters of the PSLRA sought to influence the claims of the relatively unsophisticated investors who typically make up the bulk of a class by thrusting issues particular to institutional lead plaintiffs into the forefront of an action. It would therefore seem that a court should be especially cognizant of the risks inherent in admitting potentially prejudicial or confusing evidence regarding the knowledge or conduct of a lead plaintiff with an atypical level of sophistication in the phase of a trial in which class-wide issues are adjudicated.
There remains one final area where evidence gleaned from the named plaintiffs and their financial advisors could potentially be admissible. Although the Underwriter Defendants did not apply to offer evidence about the information that these individuals and institutions possessed about WorldCom without offering their trading records as well, in response to a question posed by the Court they indicated that they would desire to offer just this component of proof if they were denied the opportunity to show the WorldCom trading undertaken by the named plaintiffs. Even this more restricted proffer, however, runs the risks of confusion that have already been outlined. The information and understanding of these financial advisors is an unreliable proxy for the market's knowledge and understanding. Moreover, exploration of their knowledge and opinions will necessarily shift the focus of the case onto their diligence in conducting research and the reliability of their work.
In sum, because the evidence from the named plaintiffs and their financial advisors has marginal relevance to the issues to be tried in the plenary trial, and because that limited relevance is substantially outweighed by the dangers of unfair prejudice, confusion of the issues, and misleading the jury, the Lead Plaintiff's motion is also granted to the extent that the Underwriter Defendants seek to admit the evidence on the issue of materiality. Fed.R.Evid. 403. The Lead Plaintiff has shown that there is a significant danger that the defendants seek to use the evidence about the named plaintiffs to divert the jury's attention from the serious issues before them, including an evaluation of what the defendants themselves did and did not do. The claims to be tried at the plenary trial are brought against the defendants, not against the named plaintiffs. The individualized issues regarding class members, including the named plaintiffs, will be reserved for proceedings that follow. Conclusion
The Lead Plaintiff's motion to exclude evidence from the plenary trial relating to the individualized issues of the class representatives is granted in its entirety.
SO ORDERED: