United States: Southern District Of New York Dismisses Federal Securities Claims Against Asset Management Company For Failure To Adequately Allege Reliance Or Causation

Last Updated: October 18 2019
Article by Shearman & Sterling LLP

On September 30, 2019, Judge Loretta A. Preska of the United States District Court for the Southern District of New York dismissed federal securities claims brought against a Japanese investment advisor and asset manager (the “Company”), its parent, and its former CEO.  Alfandary, et al. v. Nikko Asset Management, et al., 17-cv-05137 (S.D.N.Y. Sept. 30, 2019).  Plaintiffs, former senior executives of the Company or one of its subsidiaries, alleged that defendants engaged in a scheme to devalue plaintiffs’ stock acquisition rights (“SARs”) and to force them to sell their SARs back to the Company at the artificially deflated price, in violation of section 10(b) of the Securities Exchange Act of 1934 (the “Exchange Act”) and Rule 10b-5 promulgated thereunder.  The Court dismissed the Exchange Act claims finding that most plaintiffs failed to sufficiently allege a sale, and that all plaintiffs failed to allege reliance or loss causation.

Plaintiffs’ claims were brought in connection with SARs granted under 2009 and 2011 employee stock option plans, which plaintiffs received while employed by the Company or one of its subsidiaries.  Under the terms of both plans, if the Company did not implement an IPO by a designated date, participants had the option, but not the obligation, to sell their vested SARs back to the Company at fair market value (determined by opinions from three independent evaluators).  Further, participants who left the Company without exercising their SARs—as plaintiffs did here—could retain their vested options and had up to three months after an IPO to exercise their SARs, provided that the Company could force them to sell their SARs back to the Company within that period.  Plaintiffs allege that defendants engaged in a scheme to devalue plaintiffs’ vested SARs by “obtain[ing] artificially low valuations” and then, even though no IPO had taken place, extinguishing the SARs of those former employees who refused to sell their SARs back to the Company in response to the allegedly fraudulent purchase offers.

The Court dismissed plaintiffs’ Exchange Act claims.  The Court observed that all but one plaintiff failed to allege that they sold their SARs upon receiving the purchase offers; instead, the Court found that they alleged that they “refused [the Company’s] offer to buy the SARs,” because they believed the valuation was false.  The Court emphasized that plaintiffs failed to allege that they personally relied on the alleged misinformation, alleging only that the “evaluators” relied on defendants’ allegedly misleading information in arriving at the purported artificially low valuation of the Company, which defendants then “communicated” to plaintiffs as a part of the alleged scheme to defraud them.  Finding that such allegations failed to sufficiently plead reliance, the Court noted that plaintiffs’ invocation of the Second Circuit’s decision in Vine v. Beneficial Finance Co., 374 F.2d 627 (2d Cir. 1967), may be misguided because Vine may no longer be good law after Virginia Bankshares, Inc. v. Sandberg, 501 U.S. 1083 (1991), and also because Vine is “clearly tied to the context of that case, namely, a short-form merger.”  The Court observed that plaintiffs failed to cite additional authority that extended that case’s logic to “analogous circumstances.”  In any event, the Court continued, plaintiffs failed to sufficiently allege a connection between their purported harm and defendants’ alleged misrepresentations to adequately plead reliance or causation.  The Court noted that “it can hardly be said that any of the [plaintiffs] was ‘tricked’ into parting with” their SARs.  Rather, the “essence” of plaintiffs’ claims is whether defendants “breached the terms of the SARs by manipulating the valuation process and forcing a sale of the SARs before an IPO,” a contractual claim which “is not a question suited for resolution under federal securities law.”

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