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analogizing situation to that in Vannest and dismissing § 12 claims where offering memorandum indicated it was a private placement and the complaint did not sufficiently allege that the stock sale was part of a public offering
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No. C-97-4618 MHP
September 14, 1998
MEMORANDUM AND ORDER
Plaintiff Kainos Laboratories, Inc. ("Kainos"), filed this action on December 18, 1997, alleging that Beacon Diagnostics, Inc. ("Beacon") and several of its officers and directors violated (1) section 12(1) of the Securities Act of 1933 ("Securities Act"), as amended, 15 U.S.C. § 771 (a)(1); (2) section 12(2) of the Securities Act, as amended, 15 U.S.C. § 771 (a)(2); (3) section 15 of the Securities Act, as amended, 15 U.S.C. § 77o; (4) section 10(b) of the Securities and Exchange Act of 1934 ("Exchange Act"), 15 U.S.C. § 78j(b); (5) section 20(a) of the Exchange Act, as amended, 15 U.S.C. § 78t(a); (6) California Corporations Code sections 25110, 25504, 25400, 25401, 25504, and 25504.1; (7) California Business and Professions Code sections 17200 and 17500; and finally, (8) made negligent and intentional misrepresentations. The court has jurisdiction over this action pursuant to section 27 of the Exchange Act, 15 U.S.C. § 78aa, and 28 U.S.C. § 1331.
Some confusion arises from the parties' references to the various sections of the Securities Exchange Act of 1934 and the Securities Act of 1933, and the present structure of the code, after the passage of the Private Securities Litigation Reform Act of 1995 ("SLRA"), Pub.L. No. 104-67 (1995). The court will refer only to the codified provisions.
Now before the court is Beacon's motion to dismiss several of Kainos' claims pursuant to Federal Rules of Civil Procedure 12(b)(6) and 9(b). The parties appeared before the court on June 8, 1998 for hearing on Beacon's motion to dismiss. At the hearing, the court requested that Kainos consider voluntarily dismissing certain of its claims or defendants prior to the court's issuance of its decision on the motion. Kainos subsequently dismissed defendant Neil Flanzraich, and the court now omits any reference to Flanzraich. The parties, however, could not reach agreement on a stipulation to dismiss certain other claims or defendants. The court now addresses the motion to dismiss the remaining claims and defendants.
Having considered the parties' arguments and submissions, and for the reasons set forth below, the court enters the following memorandum and order.
BACKGROUND
The court accepts the well-pleaded factual allegations of the complaint and the reasonable inferences therefrom as true for the purposes of this motion. Beacon, originally a privately financed biotechnology company located in Foster City, California, was formed to develop, manufacture, and market diagnostic products based upon rapid detection technologies to detect antibodies and antigens in "non-invasive" specimens such as saliva and urine. Compl., at ¶ 12. At all times relevant to this action, David Fowler was the chief executive officer and chairman of Beacon, Bert C. Del Villano, Jr., was the vice president of Beacon, and finally, Norman Dudey and David Nchekwube were directors of Beacon Id., at ¶ 46-48.
In 1996, Kainos received a "Private Placement Memorandum" ("PPM") prepared for Beacon in connection with an offering of Beacon's securities by the investment banking firm of Rodman Renshaw, Inc. ("Rodman"). Id., at ¶ 14. See Moore Decl., Ex. 1. The PPM contains an "Important Notice" which states:
This Confidential Descriptive Memorandum . . . is being furnished on a confidential basis through Rodman Renshaw, Inc., . . . to serve as an introduction to the Company for the recipient so that the recipient may evaluate a corporate finance transaction . . . with the Company . . . The Memorandum does not purport to be all-inclusive or to contain all of the information that an investor may desire.
Moore Decl., Ex. 1 at 1. Kainos also received a "selling document" for Beacon's securities, which it claims constitutes a "prospectus" within the meaning of section 2 of the Securities Act. Id. See Moore Decl., Ex. 2. Kainos alleges that Beacon made several representations in the prospectus regarding the exclusivity of Beacon's rights to use and produce various testing technologies and patents, as well as the feasibility of those technologies. Compl., at ¶ 15-22. See Moore Decl., Ex. 2.
For want of a better word, the court will refer to the "selling document" as the "prospectus," although it makes no legal conclusion that this is the case.
On September 26, 1996, several Kainos representatives met with defendant Del Villano in Tokyo, Japan, to discuss a possible investment in Beacon by Kainos. Compl., at ¶ 13. At the meeting, Del Villano allegedly told several Kainos representatives that Beacon's initial public offering ("IPO") was scheduled for December of 1996, that Beacon conducted a feasibility test on its Hepatitis B and Hepatitis C saliva tests, and that FDA approval of its "OraScreen HIV Test" would be forthcoming in one to two years. Compl., at ¶ 23.
As a result of this first meeting, on October 2, 1996, Kainos representatives, among them Hiroie Ono and Wataru Kurotani, visited Beacon's Foster City offices to further discuss the possible investment in Beacon. At the October 2 meeting, Del Villano gave another copy of the PPM to the Kainos representatives and allegedly told Ono and Kurotani that Rodman had been retained to be Beacon's placement agent for about $6 million of Beacon common stock. Id. at ¶ 24. Del Villano also told the Kainos representatives that the proceeds from the Rodman offering would be used to conduct research and development, initiate FDA clinical studies, and to purchase inventory and equipment. Id. Three days later, on October 5, 1996, the same Kainos representatives met in Florida with Fowler regarding the possible investment. Id., at ¶ 25. At this meeting, Mr. Fowler again reiterated that Beacon had concluded its feasibility test for a "Hepatitis saliva test" and intended to develop the product for the market. Id., at ¶ 26. Mr. Fowler also advised Mr. Ono and Mr. Kurotani of the financial prospects of the company. 11. at ¶ 27.
On November 25, 1996, Kainos invested $50,000 in Beacon by purchasing 20,000 shares of Beacon common stock through Kainos' agent, the Ruby Corporation Id., at ¶ 28. Again, on December 20, 1996, Kainos invested an additional $1 million in Beacon by purchasing common stock directly from Beacon Id., at ¶ 28, 29. Kainos alleges that it later discovered that the foregoing representations made by Beacon and its officers and directors through the prospectus the PPM, and in oral communications were false. Id. at ¶ 30.
LEGAL STANDARD
A. Motion to dismiss
A motion to dismiss will be denied unless it appears that the plaintiff can prove no set of facts which would entitle him or her to relief Conley v. Gibson, 355 U.S. 41, 45-46 (1957); Fidelity Financial Corp. v. Federal Home Loan Bank of San Francisco, 792 F.2d 1432, 1435 (9th Cir. 1986), cert. denied, 479 U.S. 1064 (1987). All material allegations in the complaint will be taken as true and construed in the light most favorable to the plaintiff. NL Industries. Inc. v. Kaplan, 792 F.2d 896, 898 (9th Cir. 1986).
Although the court is generally confined to consideration of the allegations in the pleadings, when the complaint is accompanied by attached documents, such documents are deemed part of the complaint and may be considered in evaluating the merits of a Rule 12(b)(6) motion. Durning v. First Boston Corp., 815 F.2d 1265, 1267 (9th Cir.), cert. denied sub. nom. Wyoming Community Dev. Auth. v. Durning, 484 U.S. 944 (1987). The court may also consider documents incorporated by reference, Kramer v. Time Warner. Inc., 937 F.2d 767, 773 (2d Cir.1991); see also Townsend v. Columbia Operations, 667 F.2d 844, 848 (9th Cir. 1982), and documents "whose contents are alleged in the complaint and whose authenticity no party questions," Branch v. Tunnell, 14 F.3d 449, 453-54 (9th Cir.), cert. denied, 512 U.S. 1219 (1994). See also In re Stac Electronics Sec. Litig., 89 F.3d 1399, 1405 (9th Cir. 1996). Since the complaint refers extensively to and bases its claims upon the contents of Beacon's Private Placement Memorandum ("PPM") and the "prospectus," those documents are properly considered on this motion. Moore Decl., Exs. 1 2.
B. Rule 9(b)
Federal Rule of Civil Procedure 9(b) provides in pertinent part that "in all averments of fraud or mistake, the circumstances constituting fraud or mistake shall be stated with particularity." Rule 9(b) applies to actions brought under federal securities laws. See. e.g., In re Glenfed. Inc. Securities Litigation, 42 F.3d 1541, 1545 (9th Cir. 1994) (citations omitted). In Glenfed, the Ninth Circuit held that "Rule 9(b) requires particularized allegations of the circumstances constituting fraud." Id. at 1547. Conclusory facts and neutral allegations are insufficient. Id. at 1548 (quoting Semegen v. Weidner, 780 F.2d 727, 731 (9th Cir. 1985)). Rather, a plaintiff must plead precisely the time, place and nature of the alleged fraudulent activities. Wool v. Tandem Computers. Inc., 818 F.2d 1433, 1439 (9th Cir. 1987). "In other words, the plaintiff must set forth an explanation as to why the statement or omission complained of was false or misleading." Glenfed, 42 F.3d at 1548. Furthermore, plaintiffs cannot plead "fraud by hindsight," in which later events are used to support the falsity of earlier statements. Id. Instead, a plaintiff must set forth not only why a given statement was false or misleading, but why it was false or misleading when made. Id. at 1549. This is done most directly by citing inconsistent contemporaneous statements or internal information available to defendants. Id.
DISCUSSION
Beacon maintains that various defendants and claims asserted by Kainos should be dismissed from this action. Given the host of arguments raised by Beacon, the following memorandum discusses each of Beacon's contentions as they arise in its motion to dismiss.
A. Failure to allege elements of a section 12(2) claim
Relying primarily on the Supreme Court's decision in Gustafson v. Alloyd Co., Inc., 513 U.S. 561 (1995), Beacon initially contends that Kainos has failed to allege that the PPM, the prospectus and the oral representations made by Beacon were related to a "public offering" of Beacon stock. In response, Kainos first maintains that Gustafson is applicable only to the sale of stock in connection with the private contractual sale of a business, which it claims is not the case here. It further argues that Beacon was nonetheless conducting an initial public offering through its dissemination of the PPM, the prospectus, and through oral representations.
Section 771(a)(2) imposes liability upon "any person" who offers or sells a security . . . by means of a prospectus or oral communication, which includes
an untrue statement of a material fact or omits to state a material fact necessary in order to make the statements . . . not misleading.15 U.S.C. § 771 (a)(2). In Gustafson, the Court considered specifically the question of whether section 12(2)'s right of action extended to a "private, secondary transaction." Gustafson, 513 U.S. at 564. In interpreting the term "prospectus" as used in section 12, the Court looked to both section 2 (10) of the Securities Act, 15 U.S.C. § 77b(10), which defines a "prospectus," and section 10 of the 1933 Act, 15 U.S.C. § 77c, which sets forth the information which must be contained in a prospectus. The Court determined that a "prospectus" must have the same meaning in both sections 10 and 12, and further interpreted "prospectus" to refer "to a document soliciting the public to acquire securities." Id. at 574. The Court also implied that a material misstatement or omission in a document that, but for a statutory exemption, would be required to contain the information contained in a registration statement would be a "prospectus" for the purposes of section 10 and 12(2). The Court reiterated at the end of its decision:
In sum, the word "prospectus" is a term of art referring to a document that describes a public offering of securities by an issuer or controlling shareholder. The contract for sale [at issue], and its recitations, were not held out to the public and were not a prospectus as the term is used in the 1933 Act.
Id. at 584.
In contrast to Kainos' theory that the Gustafson holding should be limited to contractual documents created as part of the private sale of a business, several courts have applied the Gustafson holding beyond the specific factual situation addressed in Gustafson. See e.g., Whirlpool Financial Corp. v. GN Holdings, Inc., 67 F.3d 605, 609 n. 2 (7th Cir. 1995) (in Gustafson, "Supreme Court held that a 'prospectus' for § 12(2) purposes includes only public offerings by issuers or their controlling shareholders"); Maldonado v. Dominguez, 137 F.3d 1, 7 (1st Cir. 1998); Stack v. Lobo, 903 F. Supp. 136 1, 1375 (N.D.Cal. 1995) (Gustafson requirement of public offering applies to both § 12(2) and § 11 of the 1933 Act); In re Valence Tech. Securities Litigation, 1996 WL 37788, *4 (N.D.Cal. Jan. 23, 1996) ("§ 12(2) applies only to a transaction which requires a prospectus to be delivered"). In fact, many courts have applied the Gustafson analysis to the sales of securities made via private placement memoranda and found that such sales are not public offerings. Vannest v. Sage. Rutty Co., Inc., 960 F. Supp. 651, 655 (W.D.N.Y. 1997) (citations omitted); In re JWP Inc. Securities Litigation, 928 F. Supp. 1239, 1259 (S.D.N.Y. 1996) ("Courts in this district have held that under Gustafson, private placement memoranda like those at issue are not 'prospectuses' for the purposes of a claim under § 12(2)"); ESI Montgomery County, Inc. v. Montenay International Corp., 899 F. Supp. 1061, 1064 (S.D.N.Y. 1995). In Vannest, for example, the court dismissed an action based on section 12(2) where the PPM expressly stated that the offering was private and not a public offering and where the plaintiffs failed to assert a section 12(1) claim for registration violations. Vannest, 960 F. Supp. at 655. Similarly, in ESI, the court dismissed a section 12(2) claim where the plaintiff acknowledged that the offering was made via private offering memoranda, but noted that "had plaintiff alleged that the offering was public, it would be premature for the court to assess the weight of factors" enunciated by the Court in United States v. Arutunoff, 1 F.3d 1112, 1118 (10th Cir. 1993), cert. denied sub nom., DeVries v. United States, 510 U.S. 1017 (1993), for determining whether an offering was truly public. ESI, 899 F. Supp. at 1065 (factors include (1) number of offerees; (2) sophistication of the offerees; and (3) the manner of the offering).
Kainos has provided the court with one case in which the court took the contrary view. Fisk v. SuperAnnuities, Inc., 927 F. Supp. 718, 730-31 (S.D.N.Y. 1996). In Fisk, the plaintiff alleged that statements made in a PPM provided by the defendant as part of a stock offer to plaintiff violated section 12(2), although the PPM explicitly recited that it "constituted an offer only to the person to whom it was delivered." Id. Although the court found that the offering on its face was structured to fall within the private placement exemption to the Securities Act registration requirements, it noted that facts such as a lengthy shareholder list cast doubt on whether the offering was a bona fide private offering. Id. The court went on to place the burden on the defendants "in this case" to show that the offering was in fact a private one and therefore did not fall within section 12(2). Id. at 731.
The situation presented in Kainos' complaint is more akin to that in Vannest than Fisk. The PPM here was clearly "furnished on a confidential basis" to "serve as an introduction to the Company for the recipient so that the recipient may evaluate a corporate finance transaction . . . with the Company." Moore Decl., Ex 1, at 1. Moreover, the PPM reads:
Use of the Memorandum for any other purpose is not authorized. Information contained herein is to be considered proprietary and highly confidential and any and all parties who may have a conflict of interest are expected to refrain from reviewing these materials.
Id. at 1. The PPM alone cannot lay the basis for a claim brought under section 12(2) because it indicates in no uncertain terms that its use should be limited only to the recipient of the PPM'.
The complaint does not otherwise expressly state that the Beacon (or Rodman) offering was part of a public offering. In its opposition, Kainos claims that this omission does not merit the dismissal of this claim because its purchase of Beacon securities "was made pursuant to the 'prospectus and certain oral statements' in addition to the PPM," which it argues establishes that Beacon was conducting an initial public offering. Pl. Mem., at 5 (citing Compl., at ¶¶ 37-41).
Even if all the material allegations in the complaint are taken as true and construed in a light most favorable to Kainos, the court cannot find that complaint sufficiently states that the stock sale to Kainos was part of a "public offering." Kainos, for example, maintains that it must have been one of a number of undetermined investors because the complaint alleges that Beacon had already raised $4.2 million from undisclosed investors. Compl., at ¶ 27. However, neither the complaint nor the prospectus explicitly state that Beacon has raised money from a "number of undetermined investors," and it is not a reasonable inference to assume that Beacon has done so. See Dominguez, 137 F.3d at 7-9. Kainos also alleges as part of its section 12(2) claims that Del Villano indicated to Ono and other Kainos representatives that "Beacon's Initial Public Offering . . . was scheduled for December of 1996," Compl., at ¶ 23(i), and in juxtaposition, states that "Beacon was not going to pursue and realistically could not pursue an IPO." Id., at ¶ 30 (ii). Under either set of facts, the complaint fails to allege that the sale of Beacon stock to Kainos was contemplated to be part of a public offering. Kainos' section 12(2) claims must therefore be dismissed.
B. Specificity of claims under sections 12(1) and 12(2) and California Corporations Code section 25503
Beacon invokes Fed.R.Civ.P. 8(e)(1) in contending that Kainos' claims under sections 12(1) and 12(2) and California Corporations Code sections 25510 and 25503 should be dismissed. Fed.R.Civ.P. 8(e)(1) requires that each averment "be simple, concise and direct."
Section 12(a), 15 U.S.C. § 771 (a), provides:
(a) In general
Any person who —
(1) offers or sells a security in violation of section 77e of this title, or
(2) offers or sells a security (whether or not exempted by the provisions of section 77c of this title, other than paragraph (2) of subsection (a) of said section), by the use of any means or instruments of transportation or communication in interstate commerce or of the mails, by means of a prospectus or oral communication, which includes an untrue statement of a material fact or omits to state a material fact necessary in order to make the statements, in the light of the circumstances under which they were made, not misleading (the purchaser not knowing of such untruth or omission), and who shall not sustain the burden of proof that he did not know, and in the exercise of reasonable care could not have known, of such untruth or omission,
shall be liable, subject to subsection (b) of this section, to the person purchasing such security from him, who may sue either at law or in equity in any court of competent jurisdiction, to recover the consideration paid for such security with interest thereon, less the amount of any income received thereon, upon the tender of such security, or for damages if he no longer owns the security.
California Corporations Code section 25503 provides in relevant part:
Any person who violates Section 25110, 25130 or 25133, or a condition of qualification under Chapter 2 (commencing with Section 25110) of this part, imposed pursuant to Section 25141, or an order suspending trading issued pursuant to Section 25219, shall be liable to any pers on acquiring from him the security sold in violation of such section, who may sue to recover the consideration he paid for such security with interest thereon at the legal rate, less the amount of any income received therefrom, upon the tender of such security, or for damages, if he no longer owns the security, or if the consideration given for the security is not capable of being returned.
Finally, California Corporations Code section 25510 provides:
Except as explicitly provided in this chapter, no civil liability in favor of any private party shall arise against any person by implication from or as a result of the violation of any provision of this law or any rule or order hereunder. Nothing in this chapter shall limit any liability which may exist by virtue of any other statute or under common law if this law were not in effect.
Beacon initially argues that the court should require Kainos to resolve its contradictory allegation that "Beacon's offer included the PPM (Compl., at ¶ 36, incorporating ¶¶ 28 29 by reference), and that it did not. (Compl., at ¶ 37)." Def. Mem., at 8. In addition, Beacon contends that it is entitled to know whether Kainos complains of a violation of section 12(1) and section 25510, by failing to meet the federal registration or state law qualification requirements, or whether Kainos seeks to hold Beacon liable for a "failed effort to proceed" under an exemption to the registration requirements afforded by Section 4 of the Securities Act of 1933. Def. Mem., at 8-9.
Kainos' first claim for relief, which sets forth its section 12(1) claim, states:
32. Defendants Beacon, Del Villano, and Fowler actively solicited Kainos' purchase of Beacon's securities by means of the prospectus and other representations to serve their financial gain and the financial interest of the company, and thus, are sellers within the meaning of Section 12(1).
Compl., at ¶ 32 (emphasis added). The offending paragraphs, 28 and 29, to which Beacon points, respectively state:
28. Based upon the prospectus, the offering memorandum and the representations of Defendants Del Villano and Fowler, on or about November 25, 1996, Kainos invested $50,000 in Beacon by purchasing 20,000 shares of Beacon common stock at a price of $2.50 per share through Kainos' agent Ruby Corporation.
29. On or about December 20, 1996, based upon the foregoing representations, Kainos invested an additional $1 million in Beacon by purchasing common stock directly from the company.
Compl., at ¶¶ 28 29. Paragraphs 28, 29, and 32, when read together, unambiguously include the PPM and the "prospectus," as well as alleged oral representations by Fowler and Del Villano. Furthermore, from the face of the complaint, Kainos has made no claims under section 4 of the Securities Act, the private placement exemption to the Securities Act registration requirements, codified at 15 U.S.C. § 77d. The complaint clearly invokes section 12(1) and section 25510, but not section 4 of the Securities Act.
However, this does not mean that Kainos sufficiently alleges a claim under section 12(1). The "public offering" requirement stated in Gustafson clearly extends to the other provisions in the 1933 Act, including section 12(1) and section 11. Gustafson, 513 U.S. at 572. For instance, in arguing that section 12(2) was not limited to public offerings, the Gustafson dissent noted that:
The Report's broad address thus takes in § 11, 15 U.S.C. § 77k, which is directed at misstatements in registration statements, and § 12(1), 15 U.S.C. § 771 (1), which targets sales and offers to sell securities in violation of the Act's registration provisions. There is no dispute that the latter two provisions apply only to public offerings — or, to be precise, to transactions subject to registration.
Id., at 600 n. 4 (Ginsburg, J., dissenting). See also Stack, 903 F. Supp. at 1374. Kainos must therefore allege facts establishing that the sale of stock to Beacon was pursuant to a public offering. As discussed above, it has not done so.
Finally, Beacon contends that Kainos' section 12(2) claims, which plead misrepresentations on the part of Beacon, Del Villano, and Fowler, fail for want of fact specificity as required by Rule 9(b). The court notes that dismissal for lack of pleading claims of fraud with particularity may serve as an additional basis for dismissal of Kainos' section 12(2) claims. See Section C, below.
C. Section 10(b) and Rule 10b-5 claims
Kainos complains that Beacon and its officers, Del Villano and Fowler, made several false and misleading statements in violation of section 10(b) of the Exchange Act, 15 U.S.C. § 78j(b). Compl., at ¶ 52. Section 10(b) makes it unlawful for any person "[t]o use or employ, in connection with the purchase or sale of any security . . . any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the [Securities and Exchange Commission] may prescribe." 15 U.S.C. § 78j(b). Rule 10b-5 makes it unlawful "[t]o make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading." 17 C.F.R. § 240.10b-5. Beacon now contends that Kainos' section 10(b) claim does not meet the strict pleading requirements imposed by the SLRA and Rule 9(b) since it fails to allege that the misstatements or omissions were false or misleading "when made" and further fails to make sufficient allegations of scienter.
Congress established a uniform pleading standard by enacting the SLRA, which essentially codifies the heightened pleading standard as enunciated in GlenFed. Allegations of material false statements or omissions must specify: (1) each statement alleged to have been misleading; (2) the reason or reasons why the statement is misleading; and (3) if an allegation is made on information and belief, the complaint must state with particularity all facts on which that belief is based. 15 U.S.C. § 78u-4 (b)(1). In addition, if scienter is an element of the claim, the complaint must "state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind." 15 U.S.C. § 78u-4 (b)(2). Finally, if the alleged material false statement or omission is a "forward-looking statement," the required level of scienter is actual knowledge. 15 U.S.C. § 78u-5 (c). In sum, Kainos is required to allege facts or evidence that shows why the statement was false at the time it was made; it is not sufficient for Kainos to simply to allege that a statement was false, or that it did not later come true.
i. False and misleading statements
Kainos first alleges that the prospectus contained untrue statements of material facts or omitted to state material facts in order to make statements not misleading. These statements are as follows:
(i) that the University of Florida patents were being utilized;
(ii) that the OraScreen HIV Rapid Test demonstrated with 100% sensitivity and 99% sensitivity;
(iii) that Beacon planned to commence clinical trials in 1997 and projected FDA approval 18 during late 1998; and,
(iv) that in December of 1994, Beacon had signed its first distribution agreement with Riehl Pharma of Austria covering a territory consisting of Germany, Switzerland, France, Austria, 20 and Luxembourg and that additional distribution agreements, one for the Caribbean and the other for Cyprus, were forthcoming.
Compl., at ¶ 54. In connection with these alleged misstatements in the prospectus, Kainos also alleges that the prospectus "omitted to state that the University of Florida OraScreen process could not be patented in Japan." Id. at ¶ 55. Furthermore, the complaint states that Del Villano and Fowler made several intentional misstatements, among which were the following:
(i) that Beacon intended to pursue an IPO in December of 1996;
(ii) that Beacon had conducted feasibility tests for the Hepatitis B and Hepatitis C tests and intended to commence research and development for these tests in December of 1996;
(iii) that Beacon was scheduled to pursue FDA testing on the OraScreen HIV Rapid Test; and,
(iv) that Beacon was selling common stock pursuant to the Rodman Renshaw PPM when, in fact, the Rodman Renshaw PPM was no longer operative and was, in fact, materially misleading.
Compl., at ¶ 56. Kainos' complaint identifies with sufficient particularity the time, content, and place at which the alleged misstatements and misrepresentations were made. See Wool, 818 F. Supp. at 1439-40 (allegations must contain "content, date, and the document or announcement in which" misleading statement appeared); Compl., at ¶¶ 54-56.
However, for Kainos to meet the pleading requirements of the SLRA, its complaint must specify not only the time, place and nature of the alleged fraudulent activities, but also, must contain facts supporting an explanation of "what is false or misleading about a statement, and why it is false. In other words, the plaintiff must set forth an explanation as to why the statement or omission complained of was false or misleading." See GlenFed, 42 F.3d at 1548 (citations omitted). The GlenFed court posited the following hypothetical to assist in making the analysis:
[A] plaintiff might allege that he bought a house from defendant, that the defendant assured him that it was in perfect shape, and that in fact the house turned out to be built on a landfill, or in a highly irradiated area; plaintiff could simply set forth these facts (presumably along with time and place), . . ., and be in compliance.
Id. at 1548.
Beacon contends that Kainos has not referred to any internal report or specific inconsistent statements made by any individual which suggests that Beacon and its officers knew that the statements were false or misleading when made; it asserts that instead Kainos is only able to "merely allege that for each alleged misstatement, the opposite was actually true." Def. Mem., at 11. In paragraph 30 of the complaint, Kainos alleges that "the true facts were":
(i) that Rodman Renshaw had ceased raising money for Beacon in or about September of 1996. Nonetheless, Beacon continued to offer its stock and sell its common stock to Kainos and others by means inter alia, of the Rodman Renshaw PPM while failing to distribute a rescission memorandum or offer to rescind any of the investments made by Kainos;
(ii) that Beacon was not going to pursue and realistically could not pursue an IPO;
(iii) that the University of Florida patents could not be utilized, and that Beacon had determined four years earlier that the patent had no application to its product. Indeed,
Beacon and its representatives knew — but did not disclose — that it did not use the University of Florida patents in manufacturing its commercialized tests;
(iv) that Beacon never had conducted any feasibility tests for Hepatitis B and Hepatitis C and that the money provided by Kainos to Beacon was used for development of the HIV test and not for the Hepatitis test;
(v) that 100% sensitivity of Beacon's HIV OraScreen Rapid Test was impossible and that this product could never be as accurate as HIV blood testing;
(vi) that Beacon had not and could not pursue testing with the FDA on any of its products;
(vii) that the University of Florida OraScreen process could not be patented in Japan; and,
(viii) that Beacon did not have any distribution agreements or any financing in place other than monies which had been provided by Kainos.
Compl., at ¶ 30.
Citing to Fecht v. Price Co., 70 F.3d 1078 (9th Cir. 1995), cert. denied, 517 U.S. 1136 (1996), Warshaw v. Xoma Corp., 74 F.3d 955, 960 (9th Cir. 1996), and Cooper v. Pickett, 137 F.3d 616 (9th Cir. 1997), Kainos contends that all that is required is the identification of the false statements and an explanation of why they were false. Pl. Mem., at 10. However, it is clear that a securities plaintiff must do more than state that the opposite of the misleading statements was in fact what was true. A cursory review of the three cases cited by Kainos show that the plaintiffs in those cases alleged particular facts about why the defendants' statements were false at the time they were made. See Ronconi v. Larkin, 1998 WL 230987, *5 (N.D.Cal. 1998).
In Fecht, the court noted that "[a] plaintiff may also satisfy Rule 9(b) with allegations of circumstantial evidence if the circumstantial evidence alleged explains how and why the statement was misleading when made." Fecht, 10 F.3d, at 1083. In doing so, the court found that the plaintiffs had satisfied Rule 9(b) by alleging that defendants made positive statements about the company's expansion program when in fact "the new stores were losing money and the program overall was doing so poorly that it would have to be curtailed or abandoned." Id. at 1083. The court went on to note that the plaintiffs cited specific problems with the expansion program, including "unsatisfactory initial sales volume at the new stores and losses at specifically identified stores." Id. Similarly, in Warshaw, the defendants represented to the public that they expected imminent FDA approval for their principal product, but later, the FDA had denied approval and rejected certain clinical trials as inconclusive. Warshaw, 74 F.3d at 959-960. Referring to the GlenFed analogy, the court held that the plaintiffs had sufficiently alleged the circumstances constituting fraud since the complaint stated the assurances made by defendants regarding the FDA approval of its product and the later failure to secure FDA approval. Id. at 960. Finally, in Cooper. the plaintiff alleged that the defendants had over-estimated and had improperly recorded as-yet-unrecognized revenue from shipments of unordered goods and goods shipped on consignment. Cooper, 137 F.3d at 625-26.
Upon reviewing the allegations made in the complaint, the court finds that some of the allegations of fraud in the complaint meet the requirements of the SLRA pleading standards. For instance, Kainos' claims that certain University of Florida patents could not be utilized, Compl., at ¶ 30 (iii), and that Beacon had never conducted any feasibility tests for Hepatitis B and Hepatitis C, Compl., at ¶ 30 (iv), provide specific factual assertions regarding why the representations were false. In the former case, for example, Kainos states that "Beacon had determined four years earlier that the patent had no application to its product." Compl., at ¶ 30 (iii). On the other hand, each of the other allegations contained in paragraph 30 simply state the converse of the representations made in the prospectus and by Del Villano and Fowler. For example, it is not sufficient to allege that Beacon told Kainos representatives that it intended to pursue an IPO in December of 1996, and then, as the factual assertion, simply state that Beacon had no intention of doing so. The SLRA's pleading requirements are not satisfied by simply stating that the opposite of what is alleged is true; specific factual allegations are required.
ii. Scienter
Finally, as stated above, the SLRA requires that the complaint must "state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind." 15 U.S.C. § 78u-4 (b)(2). The required state of mind depends on whether the allegedly false or misleading statement is "forward-looking" or whether it represents past or present facts. If the statement is forward-looking, "a plaintiff must be able to prove that the defendant had actual knowledge that the statement was false or misleading when made." Hockey v. Medhekar, 1997 WL 203704, *45 (N.D.Cal. April 15, 1997). A forward-looking statement is defined to be the following:
(A) a statement containing a projection of revenues, income (including income loss), earnings (including earnings loss) per share, capital expenditures, dividends, capital structure, or other financial items;
(B) a statement of the plans and objectives of management for future operations, including plans or objectives relating to the products or services of the issuer;
(C) a statement of future economic performance, including any such statement contained in a discussion and analysis of financial condition by the management or in the results of operations included pursuant to the rules and regulations of the "Commission;
(D) any statement of the assumptions underlying or relating to any statement described in subparagraph (A), (B), or (C);
(E) any report issued by an outside reviewer retained by an issuer, to the extent that the report assesses a forward-looking statement made by the issuer; or
(F) a statement containing a projection or estimate of such other items as may be specified by rule or regulation of the Commission.15 U.S.C. § 78u-5 (i).
Neither Kainos nor Beacon raises the issue of whether any of the statements that Beacon is alleged to have made were in fact "forward-looking." A cursory inspection of the misrepresentations made in the prospectus and by Del Villano and by Fowler shows that several of the alleged misrepresentations fall within the SLRA's definition of "forward-looking." As examples, Kainos' claim "that Beacon was scheduled to pursue FDA testing on the OraScreen HIV Rapid Test," Compl., at ¶ 56, and "that Beacon planned to commence clinical trials in 1997 and projected FDA approval during late 1998," Compl., at ¶ 54, clearly fit within the definition of forward-looking.
This court in Hockey held that:
In order to survive defendants' motion to dismiss, plaintiffs must plead facts giving rise to a strong inference that any allegedly false or misleading oral or written forward-looking statement:
(i) if made by a natural person, was made with actual knowledge by that person that the statement was false or misleading or
(ii) if made by a business entity; was —
(I) made by or with the approval of an executive officer of that entity, and
(II) made or approved by such officer with actual knowledge by that officer that the statement was false or misleading.
Hockey, 1997 WL, at *9..10 (citing 15 U.S.C. § 78u-5 (c)(1)). Kainos has clearly failed to make such specific allegations in this case. It must do so to survive a motion to dismiss.
For those statements which are not forward-looking, prior to the enactment of the SLRA, the Ninth Circuit permitted plaintiffs to aver scienter generally. GlenFed, 42 F.3d, at 1545-47. Since the passage of the SLRA, the Ninth Circuit has yet to rule on the proper standard for whether a complaint has stated facts with sufficient particularity to give rise to a strong inference that the defendant acted with the required state of mind. This court has held that a plaintiff may establish scienter by alleging facts constituting circumstantial evidence of either reckless or conscious behavior, or facts establishing a motive to commit fraud and an opportunity to do so. Hockey, 1997 WL, *11 (citing Marksman Partners, L.P. v. Chantal Pharmaceutical Corp., 927 F. Supp. 1297, 1309-12 (C.D.Cal. 1996)). See also Zeid v. Kimberly, 930 F. Supp. 431, 438 (N.D.Cal. 1996). Compare Powers v. Eichen, 977 F. Supp. 1031, 1038 (S.D.Cal. 1997) ("plaintiff must allege specific facts that constitute circumstantial evidence of conscious behavior by defendants") In re Silicon Graphics, Inc. Sec. Litig., 1996 WL 664639 (N.D.Cal. Sept. 25, 1996) (interpreting SLRA to eliminate the "motive and opportunity" test and recklessness as a basis for liability). Again, the complaint even when read in a light most favorable to Kainos fails to state any facts which would support the inference that Beacon or its officers were reckless in making their representations to Beacon. For the above reasons, the court must therefore grant Beacon's motion to dismiss Kainos' fourth claim of relief.
D. Claims against Del Villano and Fowler under section 25110 and 25503
In its sixth claim for relief Kainos alleges that Beacon, Del Villano and Fowler offered and sold to Kainos securities which were required to be qualified with California Commissioner of Corporations in violation of California Corporations Code section 25110, and are therefore liable under section 25503. Now, Beacon contends that officers and directors cannot be held liable for violations of 25110 under section 25503, but rather, may only be found liable as collateral persons under section 25504.
Under California law, it is unlawful for any party to sell securities unless the sale has been properly qualified by the state or is subject to one of the enumerated exemptions. See Cal. Corp. Code § 25110. A party who has purchased unregistered securities may sue for recission or, in certain cases, for damages against the issuer or seller of the securities. Cal. Corp. Code § 25503. See also 1 Marsh Volk, PRACTICE UNDER THE CALIFORNIA SECURITIES LAWS § 14.06[3][a] [b], at 14-60.1, 14-60.2 (1997) ("Section 25503 imposes liability upon the issuer in any transaction" violating Section 25110); Koehler v. Pulvers, 614 F. Supp. 829, 844 (S.D.Cal. 1985) ("Section 25503 imposes liability against the issuer"). Finally, section 25504 provides that every person who directly or indirectly controls a person liable under section 25503 and every broker-dealer who materially aids in such transaction is jointly and severally liable unless it had no knowledge of or reasonable grounds to believe in the existence of the facts by reason of which the liability is alleged to exist. Cal. Corp. Code § 25504. See also 1 Marsh Volk, at § 14.06[3][c], 14-60.2 60.3 ("By virtue of this provision in Section 25504, the purchaser of a security . . . may sue not only the issuer and the underwriter, but also a selling group dealer or a securities salesman or the officers and directors of the issuer"); Koehler, 614 F. Supp. at 844 (corporation and corporation's officers may be liable under section 25504 which imposes liability against controlling persons).
California Corporations Code section 25110 provides:
It is unlawful for any person to offer or sell in this state any security in an issuer transaction' whether or not by or through underwriters, unless such sale has been qualified . . . The offer or sale of such a security in a manner that varies or differs from, exceeds the scope of, or fails to conform with either a material term or material condition of qualification of the offering as set forth in the permit or qualification order, or a material representation as to the manner of offering which is set forth in the application for qualification, shall be an unqualified offer or sale.
In this case, the complaint makes clear that Beacon is the issuer of the stock, and not the individual defendants Del Villano and Fowler. Thus, Beacon may be liable under section 25503; however, any liability on the part of Del Villano and Fowler must be imposed through section 25504. The court therefore dismisses Kainos' claims against Del Villano and Fowler under section 25503 and section 25110.
E. Failure to plead fraud with particularity or scienter
Kainos complains in its eighth claim for relief that Beacon, Fowler, and Del Villano violated California Corporations Code sections 25400 and 25500 by making untrue statements of material fact or omitting material facts which made their representations misleading. Kainos also raises the common law tort claim of intentional misrepresentation against Beacon, Fowler, and Del Villano in its fifteenth claim for relief. Beacon now asks the court to dismiss both of these claims because Kainos has failed to plead fraud with sufficient particularity as required by Rule 9(b).
Section 25400(d) provides that it is unlawful for a broker-dealer or other person selling or offering for sale or purchasing or offering to purchase [a] security, to make, for the purpose of inducing the purchase or sale of such security by others, any statement which was, at the time and in the light of the circumstances under which it was made, false or misleading with respect to any material fact, or which omitted to state any material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, and which he knew or had reasonable ground to believe was so false or misleading.
Cal. Corp. Code § 25500. Section 25500 provides that "[a]ny person who willfully participates in any act or transaction in violation of Section 25400 shall be liable to any other person who purchases or sells any security at a price which was affected by such act or transaction." Cal. Corp. Code § 25500.
Kainos contends, citing to Mirkin v. Wasserman, 5 Cal.4th 1082, 1102 (1993), that all that is required under California law is that a plaintiff set forth the specific statements that are alleged to be false and misleading. Contrary to Kainos' assertion, Mirkin does not lower the pleading requirements for claims brought under sections 25400 and 25500. Rather, Mirkin held only that a plaintiff need not show "actual reliance" as an element of the cause of action. Id. at 1102. Accord, 1 Marsh Volk, § 14.05[6], at 14-53. Under section 25500, Kainos is still required to plead with particularity the circumstances which indicate that the defendants willfully participated in making false or misleading statements. Kainos, however, simply reiterates the factual allegations made in its section 10(b) cause of action and adds the conclusory allegation that Beacon, Fowler, and Del Villano "willfully made statements" which were false or misleading. Conclusory facts and neutral allegations are not sufficient to meet the burden imposed by Rule 9(b), and Kainos' eighth cause of action must be dismissed.
Moreover, under California law, Kainos must prove five elements to state a claim for intentional fraud: (1) misrepresentation; (2) knowledge of falsity; (3) intent to defraud; (4) justifiable reliance; and (5) resulting damages. See Cicone v. URS Corp., 183 Cal.App.3d 194, 200 (1986). Common law fraud actions are also subject to the strict requirements of particularity in pleading in both the federal courts as well as the California courts. See, e.g., Committee on Children's Television v. General Foods Corp., 35 Cal.3d 197, 216 (1983). As discussed above, Kainos again reiterates the same allegations made in its section 10(b) cause of action and adds the conclusory allegation that Beacon, Fowler, and Del Villano knew the representations to be false and made them with intent to deceive and that Kainos relied upon their misrepresentations. Compl., at ¶¶ 115-16. Again, such allegations are simply conclusory and fail to allege fraud with particularity. Kainos' fifteenth claim for relief must therefore be dismissed.
F. California Corporations Code section 25401 claim against Del Villano and Fowler
Kainos alleges in its ninth claim for relief that Beacon, Del Villano, and Fowler violated sections 25401 and 25501 of the California Corporations Code. In doing so, Kainos again relies on the alleged misstatements contained in the prospectus and oral representations made by Fowler and Del Villano. See Compl., at ¶¶ 82-84. Section 25501 provides a remedy for those who violate section 25401, which makes it "unlawful for any person to offer or sell a security in this state . . . by means of any written or oral communication which includes an untrue statement of material fact or omits to state a material fact necessary in order that the statement made will not be misleading." Cal. Corp. Code. § 25401. Both of these provisions are based upon section 12(2) of the Securities Act. 1 Marsh Volk, § 14.03[1], at 14-18; People v. Simon, 9 Cal.4th 493, 509 (1995).
Beacon now contends that Del Villano and Fowler should be dismissed from this cause of action because neither were the "sellers" of the securities which Kainos purchased from Beacon. In opposition, citing to Simon and People v. Corey, 35 Cal.App.4th 717, 731 (1995), Kainos argues that Del Villano and Fowler are both "sellers" within the meaning of section 25401. Both Simon and Corey are of little use in resolving the present issue, and cannot be accorded the weight sought by Kainos.
Few courts have otherwise addressed the issue of whether officers and directors are liable under section 25401. One federal district court has held that officers and directors are not liable under section 25400 or 25401; rather, sections 25400 and 25401 apply only to "sellers" of securities In re Activision Securities Litigation, 621 F. Supp. 415, 426-27 (C.D.Cal. 1985). Moreover, one commentator has noted that
no occasion or justification exists for a court to impose liability based on [the participation theory] on anyone other than the actual vendor of that security under Sections 25401 and 25501 . . . because Sections 25504, 25504.1, and 25504.2 precisely set forth the extent to which persons other than the vendor may also be liable.
1 Marsh Volk, § 14.03[4][b], at 14-24.2. The court agrees with the reasoning of Marsh Volk: section 25504 imposes liability on every person who directly or indirectly controls a person liable under Section 25501 or 25503, including every principal executive officer or director of a corporation, and that section 25401 applies only to the actual "seller." See Cal. Corp. Code § 25504. The court therefore dismisses both Del Villano and Fowler from Kainos' eighth claim for relief since neither is the actual seller of the Beacon stock.
G. Control person liability
Kainos alleges that individual defendants Del Villano, Fowler, Dudey, and Nchekwube were "controlling persons" of Beacon within the meaning of 15 U.S.C. § 77o, 78t(a), and California Corporations Code section 25504. Although section 77o is not identical to section 78t(a), the controlling person analysis is the same. Hollinger v. Titan Capital Corp., 914 F.2d 1564, 1578 (9th Cir. 1990), cert. denied, 499 U.S. 976 (1990). Similarly, the control person statute under California law is substantially the same as the federal statute. Underhill v. Royal, 769 F.2d 1426, 1433 (9th Cir. 1985).
Section 15, 15 U.S.C. § 77o, provides:
Every person who, by or through stock ownership, agency, or otherwise, or who, pursuant to or in connection with an agreement or understanding with one or more other persons by or through stock ownership, agency, or otherwise, controls any person liable under sections 77k or 771 of this title, shall also be liable jointly and severally with and to the same extent as such controlled person to any person to whom such controlled person is liable, unless the controlling person had no knowledge of or reasonable ground to believe in the existence of the facts by reason of which the liability of the controlled person is alleged to exist.
Section 20(a), 15 U.S.C. § 78t(a), provides:
Every person who, directly or indirectly, controls any person liable under any provision of this chapter or of any rule or regulation thereunder shall also be liable jointly and severally with and to the same extent as such controlled person to any person to whom such controlled person is liable, unless the controlling person acted in good faith and did not directly or indirectly induce the act or acts constituting the violation or cause of action.
California Corporations Code section 25504 provides:
Every person who directly or indirectly controls a person liable under Section 25501 or 25503, every partner in a firm so liable, every principal executive officer or director of a corporation so liable, every person occupying a similar status or performing similar functions, every employee of a person so liable who materially aids in the act or transaction constituting the violation, and every broker-dealer or agent who materially aids in the act or transaction constituting the violation, are also liable jointly and severally with and to the same extent as such person, unless the other person who is so liable had no knowledge of or reasonable grounds to believe in the existence of the facts by reason of which the liability is alleged to exist.
Beacon now maintains that Kainos cannot sustain its control person liability claims as to Dudey and Nchekwube because they are "outside directors" who were not involved in any of the alleged fraudulent acts. As an initial matter, Kainos must first plead the requisite facts to sustain its section 12(2) and 10(b) claims in order to also allege a control person cause of action.
15 U.S.C. § 78t(a) imposes joint and several liability on persons who directly or indirectly control a violator of the securities laws. To state a claim that the individual defendants were "controlling persons," a securities fraud plaintiff must allege that: (1) the individual defendants had the power to control or influence the activities of Beacon, and (2) the individual defendants "were culpable participants" in Beacon's alleged illegal activity. See Wool 818 F. Supp. at 1440. "Ordinarily, the status or position of an alleged controlling person, by itself, is insufficient to presume or warrant a finding of power to control or influence." Id. at 1441. On the other hand, where the corporate officers are "a narrowly defined group charged with the day-to-day operations of a public corporation, it is reasonable to presume that these officers had the power to control or influence the particular transactions giving rise to the securities violation." Id.
"A plaintiff may satisfy Fed.R.Civ.P. 9(b) through reliance upon a presumption that the allegedly false and misleading 'group published information' complained of is the collective action of officers and directors." In re GlenFed. Inc. Securities Litigation, 60 F.3d 591, 593 (9th Cir. 1995) (citing Blake v. Dierdorff, 856 F.2d 1365, 1369 (9th Cir. 1988)). The GlenFed court, however, refused to extend the "group published information" presumption to outside directors:
Merely because the complaint identifies a corporation's outside directors, various committee assignments, and generic responsibilities for every committee does not mean that the presumption of "group published information" is applicable. To hold otherwise would be to ignore Rule 9(b)'s directive that "the circumstances constituting the fraud or mistake shall be stated with particularity."
Id. The court further held that "[t]o rely upon the 'group published information' presumption, [a plaintiffs] complaint must contain allegations that an outside director either participated in the day-to-day corporate activities, or had a special relationship with the corporation, such as participation in preparing or communicating group information at particular times." Id.
Kainos makes few specific allegations with respect to the outside directors. Kainos initially alleges that Dudey and Nchekwube were directors of Beacon, and were involved in the "day-to-day activities of the company." See Compl., at ¶¶ 5, 6, 7. In its third claim for relief, based on section 15, Kainos alleges that:
49. Defendants Fowler, Del Villano, Dudey, Flanzraich and Nchekwube were control persons of Beacon with respect to Beacon's offer and sale of securities to Kainos by virtue of their position as directors and officers of Beacon, and had the power to influence and control and did influence and control, directly or indirectly, the decision making of the company, including the failure to file a registration statement and the false and misleading statements in the prospectus as described above.
Id., at ¶ 49. Kainos makes similar allegations with respect to its claims under section 20(a), id., at ¶ 61, and section 25504 id at ¶ 68. Again, Kainos has simply made conclusory allegations regarding the involvement of Dudey and Nchekwube in the day-to-day activities of Beacon, but has failed to state "with particularity" what involvement each of these outside directors had in the Beacon's corporate decision making process and the allegedly wrongful acts. The court therefore dismisses Dudey and Nchekwube from each of Kainos' control person liability claims.
H. Aiding and abetting liability under section 25504.1
Kainos alleges in its eleventh claim for relief that defendants Fowler, Del Villano, Dudey, and Nchekwube violated California Corporations Code section 25504.1 by "materially assisting" Beacon in violating section 25401. Section 25504.1 states that "[a]ny person who materially assists in any violation of Section 25110, . . . or 25401, . . . with intent to deceive or defraud, is jointly and severally liable." Cal. Corp. Code § 25504.1. Section 25401 provides that:
It is unlawful for any person to offer or sell a security in this state or buy or offer to buy a security in this state by means of any written or oral communication which includes an untrue statement of a material fact or omits to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading.
Cal. Corp. Code § 25401. Beacon now contends that Kainos has failed to allege aider and abettor liability with sufficient particularity as to defendants Dudey and Nchekwube and asks the court to dismiss this claim as to those defendants.
Since section 25504.1 requires a plaintiff to allege the intent to deceive or defraud as one of its elements, the court finds that Kainos is required by Rule 9(b) to plead these instances of fraud with sufficient particularity. A cursory review of the complaint clearly shows that Kainos has failed to provide with requisite particularity allegations of fraudulent intent on the part defendants Dudey and Nchekwube.
I. California Business Professions Code sections 17200 and 17500 claims
Kainos alleges in its twelfth cause of action that Beacon has engaged in unlawful business acts or practices in violation of California Business Professions Code section 17200 by inducing the public to purchase Beacon's securities by means of misrepresentations and non-disclosures of material facts. See Compl., at ¶¶ 95-98. Kainos also claims that Beacon has violated Business Professions Code section 17500 by engaging in false and misleading advertising. Section 17200 prohibits unlawful, unfair or fraudulent business practices and misleading advertising. Similarly, Section 17500 makes it unlawful for any person to disseminate any statement that is "untrue or misleading, which is known, or which by the exercise of reasonable care should be known, to be untrue or misleading" if that statement is to be used to sell.
California Business Professions Code section 17200 reads:
As used in this chapter, unfair competition shall mean and include any unlawful, unfair or fraudulent business act or practice and unfair, deceptive, untrue or misleading advertising and any act prohibited by Chapter 1 (commencing with Section 17500) of Part 3 of Division 7 of the Business and Professions Code.
California Business Professions Code section 17500 reads:
It is unlawful for any person, firm, corporation or association, or any employee thereof with intent directly or indirectly to dispose of real or personal property or to perform services, professional or otherwise, or anything of any nature whatsoever or to induce the public to enter into any obligation relating thereto, to make or disseminate or cause to be made or disseminated before the public in this state, or to make or disseminate or cause to be made or disseminated from this state before the public in any state, in any newspaper or other publication, or any advertising device, or by public outcry or proclamation, or in any other manner or means whatever, any statement, concerning such real or personal property or services, professional or otherwise, or concerning any circumstance or matter of fact connected with the proposed performance or disposition thereof, which is untrue or misleading, and which is known, or which by the exercise of reasonable care should be known, to be untrue or misleading, or for any such person, firm, or corporation to so make or disseminate or cause to be so made or disseminated any such statement as part of a plan or scheme with the intent not to sell such personal property or services, professional or otherwise, so advertised at the price stated therein, or as so advertised. Any violation of the provisions of this section is a misdemeanor punishable by imprisonment in the county jail not exceeding six months, or by a fine not exceeding two thousand five hundred dollars ($2,500), or by both.
Beacon now seeks dismissal of both of these causes of action because it claims that the Ninth Circuit has held that section 17200 is inapplicable to securities transactions. No California court has explicitly held that section 17200 and section 17500 are applicable to securities transactions. See Perera v. Chiron Corp., 1996 WL 251936, * 5 (N.D.Cal. May 8, 1996). Furthermore, as Beacon correctly notes, there is scant California legislative history which indicates that section 17200 or other provisions of California's unfair business practices laws should apply to securities transactions. However, the Ninth Circuit affirmed a district court's dismissal of a section 17200 claim on similar grounds. See Shearson Lehman Bros., Inc. v. Greenberg, 1993 WL 144856 [1992-93 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 97, 409 (C.D.Cal. 1993) (§ 17200 "not applicable to securities transactions" and is "completely preempted by the federal securities laws"), aff'd, 60 F.3d 834 (9th Cir. Jul. 3, 1995) (table). Another district court noted the Ninth Circuit's affirmation of the district court holding in Shearson, and went on to state that a finding that section 17200 is inapplicable to securities transactions "is in accordance with numerous cases from other jurisdictions interpreting "little FTC" acts similar to California's § 17200." Perera, 1996 WL at *5 (citations omitted). See also Spinner Corp. v. Princeville Dev. Co., 849 F.2d 388, 392-93 (9th Cir. 1988) (Hawaii's "Baby FTC Act" does not apply to "securities transactions which were subject to . . . Securities Act of 1933," and the Securities Act of 1934).
Kainos provides the court with several California citations which it argues indicates that section 17200 and 17500 apply to securities transactions. These cases are of no avail to Kainos. In People v. Witzerman, 29 Cal.App.3d 169, 182-83 (1972), for example, the court considered the application of section 17500 to "cattle care contracts" approved by the California Commissioner of Corporations and exempted from California's corporate securities laws, but did not address the issue of whether section 17500 applied to securities transactions. Similarly, although Kainos correctly notes that the California courts have held that certain federal laws do not preempt California's unfair trade practices laws, none of the cases to which Kainos cites sheds any light on the present issue. See, e.g., Fenning v. GlenFed. Inc., 40 Cal.App.4th 1285 (1996); Podolsky v. First Healthcare Corp., 50 Cal.App.4th 632, 647 (1996) (section 17200 claim relating to hospital's deceptive admissions procedures). See also Associated Builders Contractors, Inc. v. Local 302 International Brotherhood of Electrical Workers, 109 F.3d 1353 (9th Cir. 1996) (state law claims resolvable without interpreting "job targeting agreements" and therefore not preempted by Labor Management Relations Act of 1947, 29 U.S.C. § 185 (a)). For example, in Fenning, the California Court of Appeals dealt with a class action suit against a bank and its securities brokerage subsidiary, brought under the Home Owners' Loan Act of 1933 ("HOLA"), as amended, 12 U.S.C. § 1461 et seq., and sections 17200 and 17500, for the alleged deceptive trade practice of blurring the line between the bank and the brokerage in inducing customers to buy investment products by the brokerage. The court did not deal with federal or state securities laws, but rather, simply focused on whether HOLA preempted state unfair trade practices laws. See id. at 1293-96.
Kainos provides little reason why this court should not find that sections 17200 nor 17500 apply to the securities transactions in this case, and therefore dismisses its claims under sections 17200 and 17500.
CONCLUSION
For the foregoing reasons, the court hereby GRANTS Beacon's motion to dismiss the various claims it asserts to be insufficient. Per the court's order at the June 8 hearing, Kainos has thirty (30) days from the date of this order in which to amend its complaint. It is further ordered that Beacon file an answer within thirty (30) days of the date on which plaintiff files its amended complaint.
Should Kainos choose to file an amended complaint, the court orders that plaintiffs amended complaint shall comply with the holding of this order, including, but not limited to: (a) it must specify whether the Beacon stock sale was in connection with a public offering of stock; (b) it should clarify whether the allegedly false and misleading statements were forward-looking; (c) it should provide some factual basis to support its claims of misrepresentation; and finally, (d) it should reassess its need to bring the parallel state law causes of action against Beacon.
This motion fully adjudicates the motions reflected at Docket #10, and the Clerk of the Court shall remove it from the pending motions list.
IT IS SO ORDERED.