On June 15, 2023, Judge Michael A. Shipp of the United States
District Court for the District of New Jersey, in an unpublished
opinion, adopted a Special Master's Report and Recommendation
denying a motion to dismiss claims under Section 10(b) of the
Securities Exchange Act of 1934 (the "Exchange Act"), and
Rule 10b-5 promulgated thereunder, against an accounting firm (the
"Firm") in connection with an audit report it issued for
a pharmaceutical company's (the "Company") financial
statements in connection with the Company's public offering.
In re Valeant Pharmaceuticals Intl., Inc. Securities
Litigation, No. 15-7658 (MAS) (LHG) (D.N.J. June 15, 2023). We
previously covered the district
court's decision denying a motion for judgment on the pleadings
in this action, as well as the district court's decision denying a motion to dismiss by
other defendants in the action.
As background, plaintiff alleged that in connection with the public
offering, the Firm issued and certified an audit report on the
Company's 2014 financial statements that contained false and
misleading statements that, once revealed, caused the Company's
stock price to drop below plaintiff's original purchase price.
Plaintiff filed suit against the Company and the Firm, among
others, alleging in pertinent part that the Firm's audit report
assured investors that the Company's financial statements
complied with generally accepted accounting principles
("GAAP"), that the Company had effective internal
controls, and that the Firm had conducted its audit in accordance
with professional standards. Plaintiff further alleged that the
financial statements contained materially false and misleading
statements because, among other things, the Firm knew or recklessly
disregarded several red flags regarding the Company's alleged
improper business practices as well as red flags that the Company
had manipulated earnings, and that a certain business combination
violated GAAP. In response, the Firm filed a motion to dismiss
arguing that plaintiff's allegations failed to adequately plead
the requisite level of scienter.
In adopting the Special Master's Report and Recommendation to
deny the Firm's motion to dismiss, the district court held
that, while pleading scienter for an outside auditor is
"particularly demanding," plaintiff's amended
complaint was "rife with allegations of [the Firm's]
scienter." In particular, the amended complaint included
allegations to support an inference that the Firm failed to comply
with professional auditing standards and GAAP standards, as well as
allegations that the Firm knew or recklessly disregarded unusual
transactions captured within the Company's financial
statements. The Court further noted that while the amended
complaint does not allege that the Firm had any particular motive
to commit fraud, it sufficiently alleged "strong
circumstantial evidence of 'conscious misbehavior or
recklessness,' which can be shown by 'an extreme departure
from the standards of ordinary care.'" Further, in
addressing the Firm's argument that there were plausible
non-culpable explanations for its conduct, the Court considered the
Firm's position that the Company had provided inaccurate
information to it. But the Court concluded that plaintiff
sufficiently alleged that there were numerous documents that the
Firm reviewed during its audit that contained accurate information
reflecting some of the red flags that plaintiff alleged existed.
The Court therefore found that when accepting the amended
complaint's allegations as true, "a reasonable person
[would] deem the inference of scienter at least as strong as"
the Firm's alternate theory. Citing Tellabs, Inc. v. Makor
Issues & Rights, Ltd., 551 U.S. 308, 326 (2007).
Accordingly, the Court held that plaintiffs alleged sufficient
facts to survive the Firm's motion to dismiss and adopted the
Special Master's Report and Recommendation.
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