ROBERT v. MOORES

Filed 3/20/09

CERTIFIED FOR PUBLICATION

COURT OF APPEAL, FOURTH APPELLATE DISTRICT

DIVISION ONE

STATE OF CALIFORNIA

STORY CONTINUE FROM PART II.

c. The trial court's conclusion that evidence of various

purported red flags did not create a genuine issue of

material fact as to defendants' scienter was not error

Plaintiffs contend that four purported red flags identified by Regan in his declaration demonstrate that a genuine issue of material fact exists with respect to defendants' knowledge of the fraud at Peregrine. Specifically, Regan testified that defendants were aware of "channel stuffing risks," and that the issue was discussed at many Board meetings. Regan also noted that in September 1999, Peregrine's senior management informed the Board that they intended to leave the company, and also informed the Board that Peregrine was having "the toughest quarter we have experienced." Plaintiffs assert that, according to Regan, the existence of Peregrine's "constant cash crunch" while the company continued to meet or beat earnings expectations constituted a "red flag that something was wrong." Finally, plaintiffs contend that, according to Regan, the fact that outsider auditors were able to quickly identify the fraud at Peregrine constituted a red flag.

The first three items of evidence to which Regan refers in his declaration demonstrate that the Board was made aware of business challenges associated with Peregrine's distribution channels, top management's employment status, and financial liquidity. However, none of the evidence cited constitutes a red flag as to the "fraudulent contracts," acquisitions of companies for the purpose of "hid[ing] . . . fraudulent . . .  revenue," and "swap transaction[s]," which, according to plaintiffs, constitute the means by which Peregrine "engaged in a long term financial fraud." Thus, while Regan identifies in his declaration evidence of potentially problematic business issues of which the Board was informed, none of the evidence cited constitutes a red flag that should have alerted defendants that Peregrine employees were engaged the types of activities that ultimately led to the necessity to restate Peregrine's financial statements. (Cf. Ranconi v. Larkin, supra, 253 F.3d at p. 434 ["[p]roblems and difficulties are the daily work of business people. That they exist does not make a lie out of any alleged false statement"].) With respect to the final alleged "red flag" that plaintiffs identify, the rapidity with which accountants who were hired to investigate Peregrine's accounting were able to identify the fraud, without more, does not constitute evidence that defendants knew about the fraud.

While Regan's declaration may support the conclusion that defendants were negligent in their oversight of the company, the declaration does not create a genuine issue of material fact as to defendants' knowledge of the fraud at Peregrine. With respect to problems of excessive channel inventory, Regan opined that the audit committee should have appreciated that "there was a significant degree of risk that the channel partners, like Peregrine itself, would have been unable to identify adequate end-users for resale purposes, which ultimately put the Company at risk of either having recognized revenue inappropriately or incurring losses for failure to collect the resultant receivables."With respect to the Peregrine's continual problems with financial liquidity, Regan opined, "In my opinion, the Board, and the Audit Committee in particular, should have conducted [an] inquiry with management to understand why the Company was unable to demonstrate operating cashflow." With respect to the possibility that Peregrine's top management might choose to leave Peregrine as a result of the accumulating fraud at Peregrine, Regan states, "[I]t is . . . possible that . . . members of Peregrine's Board understood this motivation."

We agree with the trial court's conclusion in its summary judgment order that while, "Regan's 54 page report documents his conclusions of all of the problems with Peregrine and what should have been done as responsible directors," his declaration does not demonstrate a genuine issue of material fact as to defendants' scienter because Regan does "not conclude that the outside directors were fraudulent [sic] or knew of the significant problems." Accordingly, we conclude that the trial court did not err in determining that plaintiffs' evidence of various alleged red flags does not create a genuine issue of material fact as to defendants' scienter.

d. Moores's receipt of an e-mail from a Peregrine employee

expressing concerns about channel stuffing did not create

a genuine issue of material fact as to whether defendants

knew about the fraud at Peregrine^[1]

Plaintiffs note that on October 3, 2001, Moores received an e-mail from a Peregrine employee in Australia in which the employee raised concerns about certain Peregrine contracts, including the following:

"Come on, what are Peregrine selling here, Amway? Vapourware? Where's the commercial substance to these so called contracts . . .  Peregrine [has] booked the revenue. What will this do to Peregrine's partner's credibility? Or Stock Value . . . [t]his is a blatant example of what can be termed 'channel stuffing' in their crudest form . . . This type of contract should immediately cease and 'real' revenue be recognized, i.e., where [the] PRODUCT is actually DELIVERED and payment is probable."

Plaintiffs contend that this e-mail "lays out that which the public learned in May 2002, but which Peregrine insiders were aware of much earlier." We disagree.

The e-mail indicates that a single Peregrine employee made an allegation in October 2001 that certain Australian Peregrine contracts lacked commercial substance. Plaintiffs do not cite any evidence indicating that Moores should have viewed the e-mail as coming from a credible source. Further, plaintiffs fail to present any argument in their brief as to how the e-mail should have alerted Moores to the entirety of the fraud at Peregrine. In short, the e-mail is far too insubstantial a foundation on which to base a finding that defendants knew about the extensive fraud at Peregrine. In light of our conclusion, we need not consider defendants' contention that the e-mail does not support plaintiffs' fraud claims because Moores forwarded the e-mail to Peregrine's chief executive officer who assured Moores that the claims would be investigated, notwithstanding that the claims were neither significant nor credible.^[2]

e. Conclusion

Whether considered individually or cumulatively, none of the evidence that plaintiffs identify in their brief raises a genuine issue of material fact as to defendants' knowledge of the fraud at Peregrine. Accordingly, we conclude that plaintiffs have failed to demonstrate that the trial court erred in granting judgment as a matter of law in favor of defendants on plaintiffs' fraud and fraud related claims, on this ground.

B. The group published information doctrine does not apply in the context

of a motion for summary judgment

Plaintiffs contend that the trial court erred in granting judgment as a matter of law in defendants' favor on plaintiffs' fraud and fraud related causes of action on the ground that the plaintiffs failed to raise triable issues of material fact with respect to whether defendants are liable on these causes of action pursuant to the group published information doctrine. As noted previously (see fn. 4 ante), the doctrine, where applicable, allows a party to attribute collective statements made by a company to individual members of the company's board of directors.^[3] While the trial court's summary judgment order suggests that the court concluded that plaintiffs had failed to make a sufficient evidentiary showing to rely on this doctrine in opposing defendants' motions for summary judgment, we conclude that the group published information doctrine, or group pleading doctrine, as its alternative name suggests, is a pleading device that has no application in the summary judgment context.^[4]

1. Standard of review

The de novo standard of review outlined in part III.A.1., ante, applies to plaintiffs' claim that the trial court erred in failing to apply the group published information doctrine in ruling on defendants' summary judgment motion. Further, "'If summary judgment was properly granted on any ground, we must affirm regardless of whether the court's reasoning was correct.' [Citation.]" (County of Solano v. Handlery (2007) 155 Cal.App.4th 566, 572; accord United Services Automobile Assn. v. Baggett (1989) 209 Cal.App.3d 1387, 1391 ["On appeal, we are concerned with the validity of the summary judgment ruling, not its reasoning."].)^[5]

2. Factual and procedural background

In his motion for summary judgment, Cole argued that he could not be held liable pursuant to the group published information doctrine because he had no role in the company beyond that of an outside director. Moores and Noell did not discuss the doctrine in their motion for summary judgment.

In their opposition to defendants' motion for summary judgment, plaintiffs argued that the record contained evidence that would support a finding that defendants were liable for market manipulation under section 25400, subdivision (d), pursuant to the group published information doctrine. Specifically, plaintiffs contended that they had established that defendants could be held liable pursuant to this doctrine because plaintiffs had presented sufficient evidence to raise a triable issue of material fact as to whether defendants had a "special relationship" with Peregrine. (Quoting Kamen, supra, 94 Cal.App.4th at p. 208.)

In his reply memorandum, Cole argued that plaintiffs had failed to present sufficient evidence to hold Cole liable pursuant to the group published information doctrine as the doctrine is described by the court in Kamen. Specifically, Cole claimed that plaintiffs' evidence did not support a credible inference that Cole "participated in the day-to-day activities of Peregrine, or had the ability to control any activities of the other defendants or Peregrine." In their reply memorandum, Noell and Moores claimed that they were entitled to summary judgment on plaintiffs' fraud and market manipulation claims because plaintiffs had not presented sufficient evidence that Noell and Moores knew that the public financial statements on which plaintiffs based their claims were false. Noell and Moores did not directly discuss the group published information doctrine in their reply memorandum.

In its order granting summary judgment, the trial court considered the potential applicability of the group pleading doctrine to plaintiffs' fraud, market manipulation, and negligent misrepresentation claims, and concluded, "[T]he totality of the evidence is that defendants had a special relationship; however, plaintiffs have not shown how this special relationship, under the facts presented, shows access to fraudulent misrepresentations . . . ." Accordingly, the trial court concluded that plaintiffs "failed to raise a triable issue of material fact that the group pleading doctrine should be invoked . . . ."

On appeal, defendants claim that that the group pleading doctrine is merely a pleading device that, where applicable, permits a plaintiff to satisfy the requirements of pleading fraud with particularity, and that the doctrine does not excuse a plaintiff from producing evidence of fraud in opposing a motion for summary judgment. In their reply brief, plaintiffs contend that a court may apply the group pleading doctrine on summary judgment to attribute to individual members of the corporation's board of directors false statements contained in collectively published corporate documents.

3. Case law

In Kamen, supra, 94 Cal.App.4th 197, the court considered whether the trial court had properly sustained the demurrer of three members of a corporation's board of directors on the ground that plaintiffs had failed to adequately plead a cause of action for market manipulation under section 25500. The Kamen court noted that in order to be liable pursuant to section 25500, a defendant must have made "misleading statements for the purpose of inducing the purchase or sale of a security." (Kamen, supra, 94 Cal.App.4th at p. 201.)

In considering whether plaintiffs had adequately alleged such a cause of action against defendants, the Kamen court considered the potential application of the group pleading doctrine. (Kamen, supra, 94 Cal.App.4th at pp. 207-208.) In describing the doctrine, the Kamen court observed,

"[I]n Stack v. Lobo (N.D.Cal. 1995) 903 F.Supp. 1361, the court found that the plaintiffs had not adequately pled a cause of action against certain directors of the corporation. As the court stated, 'Ordinarily, outside directors are not involved in a corporation's day-to-day affairs. Thus, the group pleading doctrine [fn. omitted] may be invoked as to outside directors only if they: 1) participated in the day-to-day management of the part of the company involved in the alleged fraud . . . or 2) had a special relationship with the corporation.'" (Ibid.)

In a footnote omitted from the above quotation, the Kamen court further explained,

"'The Ninth Circuit has developed the group published information doctrine which it has described as follows: "In cases of corporate fraud where false and misleading information is conveyed in prospectuses, registration statements, annual reports, press releases or other 'group-published information,' it is reasonable to presume that these are the collective actions of the officers. Under such circumstances, a plaintiff fulfills the particularity requirement of [Rule 9(b) of the Federal Rules of Civil Procedure (28. U.S.C.)] by pleading the misrepresentations with particularity and where possible the roles of the individual defendants in the misrepresentations." [Citation.] Subsequent decisions have extended the doctrine to cover not only officers but directors as well. [Citation.] "The rationale for group pleading is that facts about fraud flowing from the internal operation of a corporation are peculiarly, and often exclusively, within the control of the corporate insiders who manage the parts of the corporation involved in the fraud."' (In re Interactive Network, Inc. Securities Litigation (N.D. Cal. 1996) 948 F.Supp. 917, 920.)" (Kamen, supra, 94 Cal.App.4th at p. 208, fn. 8.)

The Kamen court concluded that the trial court in that case had properly sustained defendants' demurrer, reasoning, "In the present case, plaintiffs failed to allege that [defendants] either participated in the day-to-day management of [the corporation] or had a special relationship with the company." (Kamen, supra, 94 Cal.App.4th at p. 208.)

As suggested by the federal cases that the Kamen court quoted, the group pleading doctrine had its genesis in the pleading requirements pertaining to fraud that are contained in the Federal Rules of Civil Procedure. (See Wool v. Tandem Computers Inc. (9th Cir. 1987) 818 F.2d 1433.) The doctrine is routinely described as one used to measure the sufficiency of a plaintiff's pleadings. (In re Huffy Corp. Securities Litigation (S.D. Ohio 2008) 577 F.Supp.2d 968, 984 [citing cases].) In Winer Family Trust v. Queen (3d Cir. 2007) 503 F.3d 319, 335, the United States Court of Appeals for the Third Circuit described the doctrine as follows:

"The group pleading doctrine is a judicial presumption that statements in group-published documents including annual reports and press releases are attributable to officers and directors who have day-to-day control or involvement in regular company operations. Under the doctrine, where defendants are insiders with such control or involvement, their specific connection to fraudulent statements in group-published documents is unnecessary. [Citation.] Accordingly, the group pleading doctrine allows a plaintiff to plead that defendants made a misstatement or omission of a material fact without pleading particular facts associating the defendants to the alleged fraud."

The doctrine is far from universally accepted, particularly in the wake of the Private Securities Litigation Reform Act of 1995, 15 U.S.C.  78u-4 et seq. (PSLRA), in which Congress enacted heightened pleading requirements for securities class action lawsuits. (See Winer Family Trust v. Queen, supra, 503 F.3d at pp. 335-336; see also Tellabs, Inc. v. Makor Issues & Rights, Ltd. (2007) 551 U.S. 308 [127 S.Ct. 2499, 2511, fn. 6] (Tellabs) ["there is disagreement among the Circuits as to whether the group pleading doctrine survived the PSLRA"].)

4. Application

There are no reported California cases in which a court has applied the group pleading doctrine in the context of a motion for summary judgment. In Kamen ─the only California published case to discuss the group pleading doctrine ─ the court applied the doctrine to determine the adequacy of the plaintiff's pleadings.^[6] (Kamen, supra, 94 Cal.App.4th at p. 208.) The Kamen court noted that the doctrine had evolved in response to the requirement contained in Rule 9(b) of the Federal Rules of Civil Procedure (28. U.S.C.) that fraud be pleaded with particularity. (Kamen, supra, 94 Cal.App.4th at pp. 207-208.) Courts in numerous federal cases describe the doctrine as one that is used to measure the sufficiency of the plaintiff's pleadings. (See, e.g., Winer Family Trust v. Queen, supra, 503 F.3d at p. 335.)

The rationale for the doctrine that the Kamen court suggests, i.e., the difficulty of obtaining information regarding the perpetrators of corporate fraud, clearly applies in the pleading context. (See In re Interactive Network, Inc. Securities Litigation (N.D. Cal. 1996) 948 F.Supp. 917, 921 ["The doctrine was developed to relieve plaintiffs [of] the burden of pleading exactly which members of an organization were responsible for publications of the organization in those circumstances where their access to information was particularly limited"].) The rationale for invoking the doctrine is less compelling in the context of a summary judgment, in which discovery is complete. (Cf. Winer Family Trust v. Queen, supra, 503 F.3d at p. 337 ["'If a private securities case proceeds past the pleadings stage against a corporation and discovery reveals individual culpability, a plaintiff may seek permission to amend the complaint to assert claims against individual defendants"].)

Plaintiffs correctly note that at least one federal district court, in an unpublished decision, relied on the group published information doctrine in denying a motion for summary judgment brought by the chairman of a board of directors. (See Golden v. Terre Linda Corp. (N.D. Ill.) 1996 WL 426760, *5 (Golden).) Plaintiffs also note that a second federal district court has suggested that the doctrine applies in the summary judgment context. The court stated, "On summary judgment, a defendant may rebut the group pleading presumption by producing evidence that he had no involvement in creating the challenged document." (In re Silicon Graphics, Inc. Securities Litigation (N.D. Cal. 1997) 970 F.Supp. 746, 759 (In re Silicon Graphics).)

However, neither the Golden courtnor the court in In re Silicon Graphics provided any analysis of the propriety of applying the group published information doctrine in the context of a summary judgment motion. Further, the case on which the Golden court relied, Blake v. Dierdorff (9th Cir. 1988) 856 F.2d 1365, 1370, applied the doctrine in considering the sufficiency of the allegations in the plaintiff's complaint. Similarly, the In re Silicon Graphics court relied on dicta from another pleadings case, In re 3Com Securities Litig. (N.D. Cal. 1990) 761 F.Supp. 1411, 1414, in suggesting that the group pleading doctrine operates as an evidentiary presumption in the summary judgment context. At least one commentator has sharply criticized the reasoning of both Golden and In re Silicon Graphics. (See Fischel, Don't Call Me a Securities Law Groupie: The Rise and Possible Demise of the "Group Pleading" Protocol In 10B-5 Cases (2001) 56 Bus. Law. 991, 1028 & fns. 118, 119 ["Some decisions, however, either misunderstand the 'group pleading' concept or wrongly expand upon it, (i) by apparently transmuting it into a rule of substantive law applicable on summary judgment motions; [citing Golden, supra, 1996 WL 426760] (ii) [or] by converting this pleading presumption into a rebuttable evidentiary presumption; [citing In re Silicon Graphics, supra, 970 F.Supp. 746]"].)

Neither Golden nor In re Silicon Graphics constitutes binding precedent on the issue whether the group pleading doctrine applies in the summary adjudication of California state law claims. (See Johnson v. American Standard, Inc. (2008) 43 Cal.4th 56, 69.) As noted above, there is no California authority applying the doctrine in the summary judgment context, and plaintiffs do not cite any federal appellate authority holding that the group pleading doctrine may serve as the basis for defeating a motion for summary judgment in cases involving federal law. In contrast, as noted above, a number of federal appellate courts have explained that the rationale for the doctrine arises only in the context of determining the sufficiency of a plaintiff's pleadings. (See, e.g, Winer Family Trust v. Queen, supra, 503 F.3d at p. 335.) Further, the debate within the federal courts surrounding the continued validity of the group pleading doctrine in the wake of changes in pleading requirements adopted by the PLSRA (Tellabs, supra, 127 S.Ct. at p. 2511, fn. 6), supports the conclusion that the doctrine is one that applies, if at all, only in determining the sufficiency of a plaintiff's pleadings.

TO BE CONTINUED AS PART IV.

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^[1] Plaintiffs do not contend in their brief that Cole or Noell received the e-mail.

^[2] Plaintiffs acknowledge in their brief that Moores forwarded the e-mail to the chief executive officer, stating, "I can't figure out why the hell he is complaining. . . ." Plaintiffs also state in their brief that a Peregrine employee named Carleen Scott sent Moores an e-mail in which she stated, "I believe there are some circumstances in this situation that you may want to be aware of." However, plaintiffs do not provide any further description of Scott's e-mail or its significance. Accordingly, we conclude that plaintiffs have failed to explain how evidence of Scott's e-mail demonstrates that a reasonable fact finder could find that defendants knew about the fraud at Peregrine.

^[3] It is unclear from plaintiffs' opening brief which causes of action they contend must be reinstated on the basis of the group published information doctrine. In their reply brief, plaintiffs contend that the group published information doctrine applies to their negligent misrepresentation (Seventh Cause of Action) and market manipulation ( 25400, subd. (d), 25500) (First Cause of Action) claims. However, we assume for purposes of this opinion plaintiffs intend that this claim apply to all of their fraud or fraud related causes of action (Fifth, Sixth, Ninth, Tenth, and Twelfth Causes of Action).

^[4] The group pleading doctrine is "alternatively referred to as the 'group published' doctrine. . . ." (In re Intelligroup Securities Litigation (D.N.J. 2007) 527 F.Supp.2d 262, 281, fn. 8.)

^[5] Code of Civil Procedure section 437c, subdivision (m)(2) provides: "Before a reviewing court affirms an order granting summary judgment or summary adjudication on a ground not relied upon by the trial court, the reviewing court shall afford the parties an opportunity to present their views on the issue by submitting supplemental briefs. The supplemental briefing may include an argument that additional evidence relating to that ground exists, but that the party has not had an adequate opportunity to present the evidence or to conduct discovery on the issue. The court may reverse or remand based upon the supplemental briefing to allow the parties to present additional evidence or to conduct discovery on the issue. If the court fails to allow supplemental briefing, a rehearing shall be ordered upon timely petition of any party."

Whether our holding in this case regarding the group pleading doctrine constitutes an alternative ground for affirming the summary judgment, or merely different reasoning is debatable. (Cf. People v. Alice (2007) 41 Cal.4th 668, 679 [construing similar provision in Government Code section 68081 and concluding, "The parties need only have been given an opportunity to brief the issue decided by the court and the fact that a party does not address an issue, mode of analysis, or authority that is raised or fairly included within the issues raised does not implicate the protections of section 68081"].) In any event, assuming that one could characterize our rejection of this claim as being based on an alternative ground for affirming the trial court's summary judgment, supplemental briefing was not required in this case because the parties have already been provided "an opportunity to present their views on the issue." (Code of Civ. Proc.,  437c, subd. (m)(2).) Defendants directly addressed the issue in their briefs, and plaintiffs addressed it in their reply brief. The purpose of section 437c, subdivision (m)(2) has thus been fully met. (See Byars v. SCME Mortgage Bankers, Inc. (2003) 109 Cal.App.4th 1134, 1147 [concluding supplemental briefing not required pursuant to Code of Civil Procedure section 437c, subdivision (m)(2) where issue was raised below and on appeal].) Further, the question whether the group pleading doctrine applies in the summary judgment context is purely a legal one; plaintiffs thus have not been denied the "opportunity to present [relevant] evidence or to conduct discovery on the issue." (Code of Civ. Proc.,  437c, subd. (m)(2).)

^[6] Although Kamen involved only a market manipulation cause of action (Kamen, supra, 94 Cal.App.4th at p. 199), we assume for purposes of this opinion that the group pleading doctrine may also apply to negligent misrepresentation and fraud claims under California law.