Opinion
No. 04-CV-4057 (RO).
May 25, 2006
Appearances:
M. Richard Komins, Barrack, Rodos Bacine, for Elliott B. Stonecipher, Emanuel Fineberg, and Edward Bernstein.
Jill S. Abrams and Orin Kurtz, Abbey Gardey, for Elliott B. Stonecipher, Emanuel Fineberg, Edward Bernstein, Omar Babul, Ann C. Pearl, Thomas Zemaitis, Cherie Doughan, and Joseph Jany.
James E. Brandt and Jeff G. Hammel, Latham Watkins, for defendants.
OPINION ORDER
Plaintiffs Elliott Stonecipher, et al. bring suit under Sections 11, 12(a)(2), and 15 of the Securities Act of 1933, 15 U.S.C. §§ 77k, 771(a)(2), 77o, alleging that the offering prospectuses for defendants' Corporate Backed Trust Certificates (CBTCs) omitted material information. Plaintiffs seek to bring their claims as a class action under Federal Rule of Civil Procedure 23(b)(3) "on behalf of a class consisting of all persons who purchased Certificates from the time of the initial offering of the Certificates [CBTCs] on or about January 5, 2004 through and including May 11, 2004." A class has not been certified. Defendants move to dismiss.
Defendants are Lehman Abs Corp., U.S. Bank Trust National Association, Corporate Backed Trust Certificates Verizon New York, Debenture Backed Series 2004-1 Trust, Lehman Brothers Inc., Rbc Dain Rauscher, and Banc of America Securities LLC.
CBTCs, an asset-backed security, are in effect the "repackaging" of corporate bonds — a trust containing corporate bonds, generally of a recognized company, issues its bond certificates that are of lower denomination than the bonds in the trust, which enables investors of more limited means to purchase them. The CBTCs also pay a lower interest rate than the underlying bonds, with the difference going to the issuers and sellers of the CBTCs. The bonds in the trust here were issued by Verizon New York Inc. (VZNY). This action is brought under "Rule 23(a) and Rule 23(b)(3) of the Federal Rules of Civil Procedure on behalf of a class consisting of all persons who purchased [VZNY CBTCs] from the time of the initial offering . . . on or about January 5, 2004 through and including May 11, 2004." (Am. Compl. ¶ 21.)
The CBTCs were issued by two trusts in January and February of 2004. The trusts themselves are among the defendants. Defendant Lehman ABS Corp. established the trusts, and defendant U.S. Bank Trust National Association served as trustee. The CBTCs were underwritten and sold by defendants Lehman Brothers Inc., RBC Dain Rauscher, and Banc of America Securities LLC. The offerings were made through prospectuses. The sole assets of the Trusts were VZNY corporate debentures, totaling some $230 million. The resulting CBTCs were sold to the public at $25 each. Some of the certificates had a variable interest rate, whereas others were fixed. The defendants were in no way affiliated with Verizon. The debentures were sold on the open market, and neither Verizon nor VZNY had any involvement with the CBTC issuance.
The VZNY CBTC prospectuses explicitly stated that the issuers made no disclosures about VZNY, but instead encouraged investors to refer to VZNY's SEC filings. Specifically, the prospectuses disclosed that if VZNY announced its intent to cease making SEC filings — i.e., to deregister — the trust assets would be liquidated and distributed to the CBTC holders. The prospectuses also disclosed that in the event of liquidation, holders of the certificates may "receive less than they would have received if payments on the Underlying Securities were made as scheduled." The issuers stated that they had access only to public information about VZNY, conducted no "due diligence investigation of the business, operations or condition, financial or otherwise, or creditworthiness of" VZNY and did not verify any of VZNY's disclosures. The prospectuses "strongly recommended" that investors undertake their own inquiries into VZNY. The issuers stated that they made no endorsement of VZNY's "financial condition or business prospects" and did not "verify the accuracy or completeness" of VZNY's disclosures. The prospectuses cautioned that "[t]here can be no assurance that events affecting the Underlying Securities or the Underlying Securities Issuer have not occurred or have not yet been publicly disclosed which would affect the accuracy or completeness" of VZNY's public disclosures.
In February 2003, prior to the sale of the CBTCs here, Verizon, through the public filing of six "Form 15" documents with the SEC, made clear its intent to deregister six other of its domestic operating companies. In March 2004, shortly after the VZNY CBTC offerings, Verizon filed additional Forms 15, announcing its intent to delist five more operating companies. On May 4, 2004, Verizon did the same with respect to VZNY and its remaining registered operating companies. While on the same day, Verizon announced that the deregistrations had taken place pursuant to a program begun in 2003, crucial to the outcome here is that plaintiffs do not contend that the defendants knew of Verizon's deregistration program prior to this May 4 announcement. On May 7, defendant Lehman ABS, responding immediately, announced that, in accordance with the prospectuses, the VZNY CBTCs would be terminated. Certificate holders were given the option of getting their pro-rata share of either the underlying debentures or the liquidation proceeds. Due to interest rate fluctuations, the liquidation yielded $23.82 for each fixed rate and $23.44 for each floating rate CBTC, slightly below the par value of $25.
Plaintiffs allege that the VZNY CBTC offering prospectuses and registration statements failed to disclose the allegedly "material fact" that prior to the CBTC offering, Verizon had publicly disclosed the deregistration of six of its regional operating companies. Such a disclosure, plaintiffs allege, would have alerted investors "to the fact that termination of the Trusts was more than a hypothetical possibility, but was part of an existing plan" and that "the securities in which they were investing could very shortly cease to exist, rendering them unsuitable as an income generating vehicle. . . ." ( emphasis supplied).
In considering a motion to dismiss pursuant to Fed.R.Civ.P. 12(b)(6), the Court must accept as true all material factual allegations in the complaint, Atlantic Mutual Ins. Co. v. Balfour Maclaine Int'l, Ltd., 968 F.2d 196, 198 (2d Cir. 1992), and may grant the motion only where "it appears beyond doubt that the plaintiff can prove no set of facts in support of [its] claim which would entitle [it] to relief," Still v. DeBuono, 101 F.3d 888, 891 (2d Cir. 1996); see Conley v. Gibson, 355 U.S. 41, 48, 78 S.Ct. 99 (1957). In addition to the facts set forth in the complaint, the Court may also consider documents attached thereto and/or incorporated by reference therein, Automated Salvage Transp., Inc. v. Wheelabrator Envtl. Sys., Inc., 155 F.3d 59, 67 (2d Cir. 1998), as well as matters of public record, Pani v. Empire Blue Cross Blue Shield, 152 F.3d 67, 75 (2d Cir. 1998), cert. denied, 525 U.S. 1103 (1999), including documents filed with the SEC. In re Keyspan Corp. Securities Litigation, 383 F. Supp. 2d 358, 372 (E.D.N.Y. 2003).
Plaintiffs allege that this omission was in violation of §§ 11 and 12(a)(2) of the Securities Act. Purchasers of securities have a cause of action under § 11 when a registration statement "contain[s] an untrue statement of a material fact or omit[s] . . . a material fact required to be stated therein or necessary to make the statements therein not misleading." 15 U.S.C. § 77k(a). Similarly, § 12(a)(2) gives a purchaser a cause of action against "any person who . . . offers or sells a security . . . by means of a prospectus . . . 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. . . ." 15 U.S.C § 771.
There was, however, no duty in law or regulation requiring defendants here to disclose the February 2003 deregistrations. Indeed, the existing SEC regulatory regime supports defendants' contention that in saying "look at VZNY", they made all necessary disclosure. Recognizing the difficulty a asset-backed security issuer might have in providing information about the unaffiliated issuer of the underlying securities, the SEC has determined that issuers of asset-backed securities may — under certain circumstances applicable here — refer investors to the filings of the underlying securities issuer, "in lieu of providing the required financial information [about the underlying issuer] in the filing." 70 F.R. 1506, 1552. While this final rule was not in effect at the time of the VZNY CBTC issuance, the SEC had earlier issued a No Action Letter to Morgan Stanley in 1996 that demonstrated the propriety of the same stance on the disclosure requirements for asset-backed securities. Morgan Stanley Co., Inc. No Action Letter, 1996 WL 347869 (June 24, 1996). In that exchange, Morgan Stanley asked the SEC for clarification regarding the reporting requirements for "exchangeable securities," a type of asset-backed security where the underlying assets are equities. The SEC stated:
Where there is sufficient market interest and publicly available information [regarding the Underlying Securities], the issuer of the Exchangeable Securities may include abbreviated disclosure about the issuer of and terms of the Underlying Securities in its registration statement under the Securities Act and periodic reports under the Exchange Act. The abbreviated disclosure would include at least . . . [a] brief discussion of the business of the issuer of the Underlying Securities; . . . [d]isclosure about the availability of information with respect to the issuer of the Underlying Securities . . .; and . . . [i]nformation concerning the market price of the Underlying Securities. . . ." Id. at *5.
These requirements were met here by the issuers of the VZNY CBTCs, and plaintiffs do not dispute this. Plaintiffs instead argue that (1) this letter is not binding on the Court and (2) the letter is not applicable to this case because the underlying securities in that instance were equities. Plaintiffs' arguments are misplaced. First, even if not binding, No Action Letters may be relied on for their persuasiveness. See Allaire Corp. v. Okumus, 433 F.3d 248, 254 (2d Cir. 2006). Second, the rationale exhibited in the Letter applies equally to debt and equity. But more importantly, the Letter is but one piece of evidence that the SEC had sensibly drawn from the securities laws the propriety of an issuer of asset-backed securities relying on the SEC disclosures of the underlying issuer. I accept this and hold that defendants were entitled to make limited the disclosure they did in 2003. Supporting this principle are Azzolini v. CorTS Trust II for Provident Financial Trust I, No. 1:03-CV-1003, 1:03-CV-1005, 2005 WL 2253971 (E.D. Tenn. 2005), and In re Worldcom, Inc. Securities Litigation, 303 F. Supp. 2d 385 (S.D.N.Y. 2004).
Plaintiffs contend that because the earlier delisting of the six different regional operating companies was not mentioned in the prospectuses for the VZNY debentures, referring investors to those underlying prospectuses was inadequate to cure the omission. However, plaintiffs' argument fails, because these facts were public knowledge. See In re Progress Energy, Inc. Sec. Litig., 371 F. Supp. 2d 548, 552-53 (S.D.N.Y. 2005). Further, Verizon announced the deregistrations and filed "Termination of Registration" notices with the SEC, and these notices were accessible to the public over the internet. See SEC General Rules and Regulations, 17 C.F.R. § 250.104(a); Rulemaking for EDGAR system, 17 C.F.R. pt. 228 et seq. It is not alleged that defendants had greater access to this information than did the public as a whole.
Plaintiffs argue that "[b]ecause the prices of the Certificates in this case were determined by defendants, and not by the market, there is no legal or factual reason to assume that the prices paid by purchasers of the Verizon ABS certificates at issue in this case in any way reflected any information about Verizon that may have been disclosed by sources other than the prospectus provided to Certificate purchasers." Mem. Opp. 10. This is incorrect. Defendants did not set the price of the VZNY CBTCs in a vacuum; rather, the price of the shares had a relationship to the value of the underlying assets. Any disclosure that would affect the value of the underlying asset would affect how much defendants could charge for the VZNY CBTCs.
Plaintiffs' final emotionally-sweeping summation has no support here. They claim: "Defendants would turn back the clock to the days when the doctrine of caveat emptor prevailed and the burden fell on prospective securities purchasers to glean all material information about their prospective investments." (Mem. Opp. 1-2.) Defendants' — and the Court's — dispositive answer to that is that when an issuer issues its own equity or bond, it has more knowledge about its own condition than the public and a duty to disclose; however, when an issuer issues a security backed by another asset — having no more knowledge about the underlying security than the public — and expressly disclaims having any greater knowledge, and tells investors the risks of investment and where to find potentially relevant information, the issuer has made a sufficient disclosure. If the issuer of an asset backed security were to be subject to liability for the mere failure to research a major company's underlying securities, what is supposedly an affordable investment vehicle for those of lesser wealth would no longer be so affordable. I decline to impose such on this record.
Plaintiffs have asked for leave to amend the Consolidated and Amended Class Action Complaint, which is normally "freely given when justice so requires," Fed.R.Civ.P. 15(a), and it is reasonably timely. However, a district court should not exercise its discretion to allow leave to amend where "the proposed amendment would be futile," as is the case when "the proposed claim could not withstand a motion to dismiss pursuant to Fed.R.Civ.P. 12(b)(6)." Lucente v. International Business Machines Corp., 310 F.3d 258 (2d Cir. 2002) (citations omitted). Here, the Complaint is itself an amended pleading, and plaintiffs have submitted no suggestion of what its alleged deficiencies are or how they would correct them. Accordingly, leave to amend is denied.
Based on the foregoing, plaintiffs' Section 11 and 12(a)(2) Securities Act claims are dismissed. That being so, the Section 15 claim for control person liability is also dismissed. While obviously there unfortunately have been some losses here, defendants had nothing to do with that. Leave to amend is denied.
So Ordered.