2006 Decisions

Opinions of the United

States Court of Appeals

for the Third Circuit

2-23-2006

In Re: Suprema

Precedential or Non-Precedential: Precedential

Docket No. 04-3716

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Recommended Citation

"In Re: Suprema " (2006). 2006 Decisions. Paper 1498.

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PRECEDENTIAL

UNITED STATES COURT OF APPEALS 

FOR THE THIRD CIRCUIT

 

Nos. 04-3716 & 04-3755

 

IN RE: SUPREMA SPECIALTIES, INC.

SECURITIES LITIGATION

 Teachers’ Retirement System of Louisiana,

 Appellant in 04-3716

 Special Situations Fund, III, L.P.;

 Special Situations Cayman Fund, L.P.,

 Appellants in 04-3755

 

On Appeal from the United States District Court

for the District of New Jersey

(D.C. Nos. 02-cv-00168, 02-cv-03099)

District Judge: Honorable William H. Walls

 

Argued September 14, 2005

Before: SLOVITER, BARRY, and SMITH, Circuit Judges.

(Filed: February 23, 2006)

Daniel L. Berger (Argued)

J. Erik Sandstedt

Bernstein, Litowitz, Berger & Grossman, LLP

New York, NY 10019

Attorneys for Appellant Teachers’ Retirement System 

of Louisiana
2

Lawrence M. Rolnick (Argued)

Lowenstein Sandler P.C.

Roseland, NJ 07068 

Marc B. Kramer (Argued)

Short Hills, NJ 07078

Attorneys for Appellants Special Situations Fund, III,

L.P. and Special Situations Cayman Fund, L.P.

Phillip A. Geraci (Argued)

Frederic W. Yerman

Kaye Scholer

New York, NY 10022

Diane J. O’Neil

Mendes & Mount

Newark, NJ 07102

Michael T. Conway

Lazare, Potter, Giacovas & Kranjac

New York, NY 10022

Attorneys for Appellees Mark Cocchiola and Marco

Cocchiola 

Nancy E. Delaney (Argued)

T. Barry Kingham

Dora Straus

Curtis, Mallet-Prevost, Colt & Mosle, LLP

New York, NY 10178

Attorneys for Appellee Steven Venechanos

William J. Snipes (Argued)

Sullivan & Cromwell, LLP

New York, NY 10004

Charles J. Benjamin, Jr.

McCarter & English, LLP

Newark, NJ 07102
3

Attorneys for Appellees Rudolph Acosta, Paul DeSocia,

and Barry Rutcofsky 

Ira G. Greenberg (Argued)

Edwards, Angell, Palmer & Dodge

New York, NY 10022

Attorney for Appellee BDO Seidman, LLP

Robert L. Hickok (Argued)

Pepper Hamilton LLP

Philadelphia, PA 19103

Attorney for Appellees Roth Capital Partners, LLC, 

Janney Montgomery Scott, LLC, and Pacific Growth

Equities, Inc.

Thomas B. Lewis

Stark & Stark

Princeton, NJ 08543

Attorneys for Appellee Oberweis.net

Anthony P. La Rocco

Kirkpatrick & Lockhart Nicholson Graham LLP

Newark, NJ 07102

Keith A. Ketterling

Stoll Stoll Berne Lokting & Shlachter PC

Portland, OR 97204

Attorneys for Appellee Paulson Investment Company,

Inc.

Robert A. Assuncao

DLA Piper Rudnick Gray Cary US LLP

Edison, NJ 08837-2226

Attorneys for Appellee Westminster Securities Corp.

Nooshin Namazi (Argued)
4

Kevin J. O’Malley

Nicoletti Hornig Campise & Sweeney

New York, NY 10005

Attorneys for Appellee Westport Resources Investment 

Services, Inc.

 

OPINION OF THE COURT

 

SLOVITER, Circuit Judge

Table of Contents 

I. A. The Rise and Fall of Suprema 

B. The Secondary Offerings

C. Procedural History

II. A. Section 11 and Section 12(a)(2) Claims

B. Section 10(b) Claims

1. The Officers

a) Motive and Opportunity

b) Circumstantial Evidence 

 of Misconduct 

2. The Auditor

3. The Outside Directors

4. The 2000 and 2001 Underwriters

C. Section 18 Claims

D. Section 15 and Section 20(a) Claims

E. Pendent State law claims

III. Conclusion

At the center of this securities fraud action is Suprema

Specialties, Inc. (“Suprema”), a now-defunct company that

presented itself as a producer and distributor of all natural

gourmet Italian cheeses. Over a two-year period, Suprema
5

reported wildly successful growth in its sales and receivables,

thereby enticing lenders to increase its credit line and luring

investors to the purchase of its stock. In truth, Suprema had

fabricated millions of dollars in cheese sales and engaged in

other fraudulent schemes that ultimately led to the company’s

dissolution in bankruptcy. Government investigations resulted

in four individuals connected to Suprema’s schemes pleading

guilty to federal charges of, inter alia, conspiracy to commit

securities fraud. Those individuals have admitted that a number

of Suprema’s public statements regarding its finances and the

nature of its business were untrue.

The plaintiffs-appellants here are two institutional

investors, Special Situations Fund, III, L.P., and Special

Situations Fund Cayman, L.P. (collectively, the “SSF

Plaintiffs”), and the Teachers’ Retirement System of Louisiana

(referred to as “Lead Class Plaintiff” because it held that status

in the consolidated class actions before the District Court). SSF

Plaintiffs and Lead Class Plaintiff brought separate actions for

damages against Suprema’s former officers and directors, its

auditor, and several investment firms that served as underwriters

in two public stock offerings through which plaintiffs claim to

have acquired Suprema stock. Plaintiffs asserted claims for

relief under Sections 11, 12(a)(2), and 15 of the Securities Act of

1933 (the “Securities Act”), and Sections 10(b), 18, and 20 of

the Securities and Exchange Act of 1934 (the “Exchange Act”),

along with fraud and misrepresentation claims under state law. 

On defendants’ motions, the United States District Court for the

District of New Jersey dismissed all claims pursuant to Rules

9(b) and 12(b)(6) of the Federal Rules of Civil Procedure, as

well as provisions of the Private Securities Litigation Reform

Act (“PSLRA”). Among the important issues presented on

appeal is whether the District Court properly applied the “sounds

in fraud” doctrine in dismissing the claims asserted under

Section 11 and Section 12(a)(2) despite plaintiffs’ efforts to

ground their Securities Act claims in negligence and to plead

them separately in the complaints from their fraud-based claims. 

We will reverse the District Court’s orders dismissing the claims

under Sections 11, 12(a)(2), and 15 of the Securities Act and

Section 10(b) of the Exchange Act as to some of the defendants,

and we will affirm as to the dismissal of the remaining counts. 
6

We will remand as to the state law claims.

I.

In setting forth the underlying facts, we accept as true the

well-pleaded allegations in plaintiffs’ second amended

complaints and consider the documents incorporated by

reference therein. See Cal. Pub. Employees Ret. Sys. v. Chubb

Corp., 394 F.3d 126, 134 (3d Cir. 2004) (hereinafter

“CALPERS”).

A. The Rise and Fall of Suprema

Suprema was founded as a New York non-public

corporation in 1983. It became a publicly traded company in

1991 and was listed on the NASDAQ (trading under the symbol

“CHEZ”) in 1993. Suprema had its corporate headquarters,

along with a processing plant, in Paterson, New Jersey, and it

operated three wholly-owned subsidiaries, at which it

manufactured and processed cheese, in Manteca, California;

Ogdensburg, New York; and Blackfoot, Idaho. Suprema’s

business was divided between two product lines: “hard cheese,”

which included imported and domestically produced parmesan

and romano, and “soft-cheese,” which included domestically

produced mozzarella, ricotta, and provolone.

Defendant-Appellee Mark Cocchiola was a founder of

Suprema and acted as the company’s Executive Vice-President,

CEO, and Chairman of the Board of Directors. DefendantAppellee Steven Venechanos was the company’s CFO and

Secretary, and also a member of the Board of Directors during

the Class Period. (Cocchiola and Venechanos will be referred to

collectively as the “Officers.”) Defendants-Appellees Marco

Cocchiola (Mark Cocchiola’s father), Rudolph Acosta, Jr., Paul

DeSocio, and Barry Rutcofsky (collectively, the “Outside

Directors”) were members of the Board of Directors. (We will

refer to Mark Cocchiola simply as “Cocchiola” and to Marco

Cocchiola by his full name.) Marco Cocchiola was also

Suprema’s Operations Manager. Acosta, DeSocio, and

Rutcofsky were members of the Board’s Audit Committee. 

Defendant-Appellee BDO Seidman, LLP (“BDO”) was
7

Suprema’s auditor throughout the class period.

In 2000 and 2001, Suprema reported dramatic growth in

sales and receivables, which it attributed primarily to growth in

sales of its domestically manufactured hard cheeses. Suprema’s

net sales for fiscal year 2000 increased to $278.4 million,

reflecting a 58% increase over fiscal year 1999, and for fiscal

year 2001, increased to $420.3 million, or 51% over fiscal year

2000. In its hard cheese business alone, Suprema reported 400%

growth in revenue between fiscal year 1999 and the end of fiscal

year 2001. Its receivables were reported to have grown from

$36 million at the end of fiscal year 1999 to $101.8 million by

the end of fiscal year 2001. During this same period, industrywide growth in sales was only approximately 9% per year. In

September 2001, FORTUNE MAGAZINE named Suprema the

twenty-third fastest growing small company in the United States,

and shortly thereafter FORBES MAGAZINE ranked it as the

twenty-second best small company. Between the fourth quarter

of 1998 and the fourth quarter of 2000, the company’s average

share price more than doubled. 

State and federal investigations subsequently revealed

that Suprema’s explosive growth was an illusion– the product of

a fraudulent scheme involving so-called round-trip sales or

circular transactions associated with the hard cheese side of its

business. The round-trip sales scheme was one in which

Suprema purportedly sold hard cheese products to entities posing

as customers, which then sold the fictitious products to entities

posing as suppliers. The “suppliers,” in turn, sold the products

back to Suprema. In most cases, the customer and the supplier

in these sales shared a common owner who would reap

commissions on the fictitious transactions. According to a civil

complaint filed by the Securities and Exchange Commission

(“SEC”) in 2004, fictitious sales accounted for approximately

30%, 65%, 85% and 87% of Suprema’s accounts receivable for

fiscal years 1998, 1999, 2000, and 2001.

Millions of dollars in company checks– some signed by

Cocchiola, some by Venechanos, and some by both– were

issued to ostensible “suppliers” during 2001. The apparent

increase in net sales and accounts receivable brought increases in
8

the company’s line of credit. Suprema’s credit line increased

from $35 million in 1998 to $140 million in 2001. The increased

credit line led to an expansion in the volume and value of

fictitious round-trip sales, which in turn led to further increases

in accounts receivable, thereby fueling the increased line of

credit. The ever-widening cycle produced the appearance, on

paper, of phenomenal growth. 

The invoices issued in connection with the circular

scheme generally did not correspond to any actual shipments. 

Some of the “ship to” locations identified in invoices for huge

quantities of cheese were nothing more than postal boxes,

storefronts, or single-family residences. The shipments that

were actually made contained mislabeled or adulterated cheese

products that were generally unfit for human consumption. 

Suprema purchased imitation cheeses and other non-cheese

products and relabeled them as higher-priced premium cheeses,

and it adulterated its “all natural” cheeses with fillers to reduce

costs and increase sales. Inventory impounded by the

government in connection with its investigations turned out to

have been grossly overvalued and was actually worth less than

$2 million, though Suprema had represented it in December

2001 as worth more than $60 million.

On December 21, 2001, just six weeks after Suprema

conducted a substantial public stock offering (discussed below),

Venechanos and Suprema’s controller, Arthur Christensen,

resigned, and the company announced that it had initiated an

internal investigation into its previously reported financial

results. In response to this announcement, NASDAQ suspended

trading of Suprema’s stock. On January 25, 2002, the company

announced that it had engaged Deloitte & Touche, LLP to

continue the investigation.

From that point, Suprema and the fraudulent scheme upon

which its apparent success had been founded unraveled quickly. 

On February 4, 2002, federal authorities executed a search

warrant at Suprema’s headquarters and seized financial and

manufacturing records. Thereafter, Suprema revealed that it was

being criminally investigated by the FBI, the FDA, the SEC, and

the New Jersey Department of Agriculture. On February 18,
1

Van Sickell had worked as an assistant to the company’s

former Executive Vice-President, Paul Lauriero, who died in

August 2001. Following Lauriero’s death, Cocchiola assumed his

responsibilities, which included overseeing the company’s general

operations and its procurement of raw materials for production. 

2

At the time the District Court decided the motions to

dismiss, neither Cocchiola nor Venechanos was under indictment.

9

2002, BDO resigned as Suprema’s auditor, citing, among other

reasons, an inability to determine whether the company had

adequate internal controls necessary to develop reliable financial

statements, whether Suprema’s prior financial statements

contained material inaccuracies, and whether it could rely on

management’s representations.

On February 24, 2002, Suprema filed for Chapter 11

bankruptcy protection. On the same day, it announced that

Cocchiola had resigned as CEO and that NASDAQ would be delisting its stock as of March 1, 2002. On March 20, 2002, the

company’s Chapter 11 reorganization was converted into a

Chapter 7 liquidation, and a liquidation trustee was appointed.

On January 7, 2004, four individuals associated with the

company– the former Operations Manager of the Paterson plant,

John Van Sickell,1

 and the principals of three companies that had

been Suprema’s ostensible customers or suppliers, Lawrence

Fransen, George Vieira, and Robert Quattrone– pled guilty to

federal charges of, inter alia, conspiracy to commit securities

fraud, bank fraud, and mail fraud in connection with the roundtrip sales scheme. In their plea allocutions, all four individuals

admitted that their criminal actions, including participation in the

invoicing scheme and adulteration of products, were undertaken

at the direction and under the supervision of, or with the

knowledge of and in conjunction with, Suprema’s management. 

The criminal informations filed by the United States Attorney in

the case alleged that $700 million of Suprema’s $1.2 billion in

net sales between 1996 and 2002 (87% of all sales made to the

companies controlled by Fransen, Vieira, and Quattrone) were

entirely fictitious.2
Pursuant to a motion to expand the record on appeal, which we

granted, SSF Plaintiffs submitted a Supplemental Appendix

containing a 38-count grand jury indictment of those individuals in

connection with their activities at Suprema. The indictment, which

was brought in the United States District Court for the District of

New Jersey, charges Cocchiola and Venechanos with, inter alia,

conspiracy, mail fraud, wire fraud, bank fraud, and making false

statements to the SEC. Because the indictments of Cocchiola and

Venechanos were not part of the record below, we do not consider

them for purposes of this appeal.

3

The 2000 Offering was also underwritten by Hobbs

Melville Securities Corp.; Auerbach, Pollak & Richardson, Inc.;

Girard Securities, Inc.; and Mercer Partners, Inc. These four

companies were named as defendants by the SSF Plaintiffs but

never entered appearances in the action. There is no indication on

the district court docket that the SSF Plaintiffs served process upon

them. Counsel for SSF Plaintiffs suggested at oral argument before

this court that “some” of these defendants “are being represented

by Oberweis.net,” but we find no indication that this is the case.

Tr. Oral Arg. at 55. Given the SSF Plaintiffs’ failure to brief any

issue concerning the non-appearance of these underwriters, we

conclude that any claims against them are not properly before us.

10

B. The Secondary Offerings

Suprema conducted two public stock offerings relevant to

this action: the first was in August 2000 (the “2000 Offering”),

and the second was in November 2001 (the “2001 Offering”). 

The 2000 Offering was for 1.2 million shares of common stock. 

It was underwritten by, inter alia, defendants-appellees

Oberweis.net; Paulson Investment Co.; Westminster Securities

Corp.; and Westport Resources (collectively, the “2000

Underwriters”).3

 On May 10, 2000, Suprema filed a registration

statement and prospectus on Form S-2 with the SEC announcing

the offering. Cocchiola, Venechanos, Marco Cocchiola, Acosta,

and DeSocio signed the Form S-2. The Form S-2 incorporated

by reference Suprema’s annual report on Form 10-K filed on

June 30, 1999, its quarterly reports on Form 10-Q filed on

September 30 and December 31, 1999, and its proxy statement
4

GAAS are the standards established by the Auditing

Standards Board of the American Institute of Certified Public

Accountants for the conduct of auditors performing an

examination. See In re IKON Office Solutions, Inc. Sec. Litig.,

277 F.3d 658, 664 n.5 (3d Cir. 2002). 

11

filed on October 22, 1999.

The 2001 Offering was for 4.05 million shares of

common stock. It was underwritten by defendants-appellees

Janney Montgomery Scott, LLC; Pacific Growth Equities, Inc.;

and Roth Capital Partners, LLC (collectively, the “2001

Underwriters”). Cocchiola, Venechanos, Marco Cocchiola,

Acosta, DeSocio, and Rutcofsky signed the Form S-2 filed with

the SEC in connection with the offering. The Form S-2

incorporated by reference Suprema’s annual report on Form 10-

K filed on September 28, 2001. By the close of the 2001

Offering, Suprema had sold 3.5 million shares for proceeds of

$41.5 million.

BDO issued unqualified audit opinions in August 1999

and August 2001 regarding Suprema’s consolidated financial

statements for fiscal years 1999, 2000, and 2001. The audit

opinions were incorporated into the Form S-2s that Suprema

filed for the 2000 and 2001 Offerings. BDO stated that it had

performed its audits in accordance with Generally Accepted

Auditing Standards (“GAAS”)4

 and that, in its opinion,

the consolidated financial statements ... present

fairly, in all material respects, the financial

position of [Suprema and its wholly owned

subsidiaries] as of June 30, 2000 and 2001, and the

results of their operations and their cash flows for

each of the three years in the period ended June 30,

2001, in conformity with generally accepted

accounting principles.

App. at 195, 903.

SSF Plaintiffs allege that they purchased 250,000 shares

of Suprema common stock in the 2000 Offering at a price of
12

$8.00 per share, reflecting a total investment of $2,000,000. SSF

Plaintiffs allegedly made additional purchases of Suprema stock

at various prices throughout 2000 and 2001. SSF Plaintiffs then

allegedly purchased 13,000 shares, at $12.75 per share, from

underwriter Pacific Growth Equities, and averred in the

complaint that the shares were “traceable to” the 2001 Offering. 

App. at 268. Lead Class Plaintiff, a public pension fund

organized for the benefit of current and retired public school

teachers of the State of Louisiana, alleges that it purchased

47,000 shares of Suprema stock, at $12.75 per share, from

underwriter Janney Montgomery Scott, LLC, on the date of the

2001 Offering. Lead Class Plaintiff makes no claim in this

action based on the 2000 Offering.

C. Procedural History

Following the revelation in December 2001 that Suprema

was conducting an internal investigation, numerous putative

class action suits were filed, including Lead Class Plaintiff’s suit

on January 14, 2002. The District Court consolidated the cases,

pursuant to provisions of the PSLRA, and appointed Lead Class

Plaintiff to represent the class on July 1, 2002. See Smith v.

Suprema Specialities, Inc., 206 F. Supp. 2d 627 (D.N.J. 2002). 

SSF Plaintiffs filed a separate, non-class complaint on June 27,

2002, raising similar claims against most of the same parties.

Following its appointment, Lead Class Plaintiff filed an

amended class complaint on September 11, 2002. SSF Plaintiffs

filed an amended complaint on September 17, 2002. The

District Court consolidated the two cases for pre-trial

proceedings. Thereafter, the District Court granted defendants’

motions to dismiss all claims in the amended complaints,

concluding that “the complaints lack the factual specificity

demanded by the PSLRA and may not be so maintained.” App.

at 474. In its order, the District Court afforded plaintiffs leave to

file a motion to amend the complaints to cure, if possible, what it

identified as the defects in plaintiffs’ pleading of the claims.

Plaintiffs so moved, and defendants opposed the motion. 

On the day scheduled for oral argument on the motion to

amend, January 8, 2004, counsel for Lead Class Plaintiff
13

informed the District Court that Van Sickell, Fransen, Vieira,

and Quattrone had entered their guilty pleas on the previous day. 

In view of this new information, the parties agreed that plaintiffs

should be granted leave to file second amended complaints in

which they could incorporate newly discovered facts arising out

of the criminal informations and guilty pleas. Accordingly,

plaintiffs filed their respective second amended complaints on

January 30, 2004.

Lead Class Plaintiff’s second amended complaint asserted

violations of Section 11 of the Securities Act by all defendants;

Section 12(a)(2) of the Securities Act by the Officers and 2001

Underwriters; Section 15 of the Securities Act by the Officers;

Section 10(b) of the Exchange Act by the Officers and BDO;

and Section 20 of the Exchange Act by the Officers. Lead Class

Plaintiff brought suit on its own behalf and on behalf of all those

who acquired Suprema common stock in the 2001 Offering

pursuant to the registration statement, or acquired Suprema

common stock during the class period of September 27, 2000

through December 21, 2001, and sustained a loss as a result. 

SSF Plaintiffs’ second amended complaint asserted

violations of the following provisions: Section 11 by all

defendants; Section 12(a)(2) by the Officers and (non-appearing

defendant) Hobbs Melville; Section 15 by the Officers and the

Outside Directors; Section 18 of the Exchange Act by the

Officers, the Outside Directors, and BDO; Section 10(b) by all

defendants; Section 20 by the Officers and the Outside

Directors; and common law fraud and negligent

misrepresentation by all defendants. 

Although plaintiffs added a host of new allegations

arising out of the Suprema criminal investigations and

indictments, all defendants again moved to dismiss for failure to

state a claim. The District Court granted the motions and

dismissed the second amended complaints in their entirety. See

In re Suprema, 334 F. Supp. 2d 637 (D.N.J. 2004). The District

Court dismissed plaintiffs’ Section 11 and 12(a)(2) claims on the

ground that those claims “sounded in fraud” and failed to satisfy

the heightened pleading requirement of Federal Rule of Civil

Procedure 9(b) for averments of fraud. The District Court
14

dismissed plaintiffs’ Section 10(b) claims for failure adequately

to plead scienter; it dismissed SSF Plaintiffs’ Section 18 claims

for failure adequately to plead actual reliance on alleged material

misstatements; and it dismissed plaintiffs’ Section 15 and

Section 20(a) control-person claims for failure adequately to

plead underlying violations by the Officers. The District Court

declined to exercise supplemental jurisdiction over the SSF

Plaintiffs’ state law claims.

Plaintiffs each timely filed a notice of appeal from the

dismissal of their respective second amended complaints. This

court consolidated the appeals for disposition. We have

jurisdiction under 28 U.S.C. § 1291. Our review of the grant of

a motion to dismiss is de novo. In re NAHC Sec. Litig., 306

F.3d 1314, 1322-23 (3d Cir. 2002). We must accept as true the

factual allegations in the second amended complaints and may

affirm the dismissals only if it appears certain that plaintiffs can

prove no set of facts that would entitle them to relief. See

Ransom v. Marrazzo, 848 F.2d 398, 401 (3d Cir. 1988).

II.

A. Section 11 and Section 12(a)(2) Claims

The District Court dismissed plaintiffs’ Section 11 and

Section 12(a)(2) claims because it found, upon review of the

allegations in the second amended complaints, that the claims

“sound in fraud.” As a result, the District Court required

plaintiffs to meet the heightened pleading requirements of Rule

9(b) and held that plaintiffs failed to do so. We exercise plenary

review over the legal question whether the Section 11 or Section

12(a)(2) claims sound in fraud and are therefore subject to Rule

9(b). See CALPERS, 394 F.3d at 160.

“The primary innovation of the [Securities] Act was the

creation of federal duties – for the most part, registration and

disclosure obligations – in connection with public offerings.” 

Gustafson v. Alloyd Co., 513 U.S. 561, 571 (1995); see also In

re Adams Golf, Inc. Sec. Litig., 381 F.3d 267, 273 (3d Cir.

2004). As relevant here, Section 11 concerns material

misstatements or omissions in registration statements, while
15

section 12(a)(2) concerns material misrepresentations in

prospectuses and other solicitation materials. Adams, 381 F.3d

at 273.

Under Section 11, “a private action for damages may be

brought ‘by any person acquiring such security’ if a registration

statement, as of its effective date: (1) ‘contained an untrue

statement of material fact’; (2) ‘omitted to state a material fact

required to be stated therein’; or (3) omitted to state a material

fact ‘necessary to make the statements therein not misleading.’” 

CALPERS, 394 F.3d at 167 (quoting 15 U.S.C. § 77k(a)). As

the Supreme Court has explained, Section 11 “was designed to

assure compliance with the disclosure provisions of the Act by

imposing a stringent standard of liability on the parties who play

a direct role in a registered offering.” Herman & MacLean v.

Huddleston, 459 U.S. 375, 381-82 (1983) (footnote omitted). A

Section 11 claim may be brought against the issuer of securities,

its directors or partners, underwriters, and accountants who

prepared or certified the registration statement. Id. at 382 n.13

(citing § 77k(a)). Section 11 is a “virtually absolute liability

provision[ ], which do[es] not require plaintiffs to allege that

defendants possessed any scienter.” In re Adams Golf, 381 F.3d

at 274 n.7. “If a plaintiff purchased a security issued pursuant to

a registration statement, he need only show a material

misstatement or omission to establish his prima facie case.” 

Herman & MacLean, 459 U.S. at 382.

Section 12(a)(2) provides for civil liability for anyone

who offers or sells a security “by means of a prospectus or oral

communication, which includes an untrue statement of material

fact or omits to state a material fact necessary in order to make

the statements, in light of the circumstances under which they

were made, not misleading. . . .” 15 U.S.C. § 77l(a)(2). Like

Section 11, Section 12(a)(2) is a “virtually absolute” liability

provision that does not require an allegation that defendants

possessed scienter. In re Adams Golf, 381 F.3d at 274 n.7. To

state a prima facie claim under Section 12(a)(2), the plaintiff

must allege the purchase of securities pursuant to a materially

false or misleading prospectus or oral communication. Id. at

273. 
5

 Plaintiffs argue that applying Rule 9(b) to Section 11 and

Section 12(a)(2) claims impermissibly “create[s] new elements for

these statutory causes of action.” LP Br. at 24; accord SSF Br. at

26. We have previously rejected this argument: 

It does not logically flow from the fact that fraud is

not a necessary element of a section 11 claim that a

section 11 claim cannot hinge on an allegation of

fraud. . . . Recognizing that neither fraud nor mistake

is a necessary element of a cause of action under

section 11, we nonetheless held in Shapiro that

‘when § 11 and § 12[(a)](2) claims are grounded in

fraud rather than negligence, Rule 9(b) applies.’

CALPERS, 394 F.3d at 161. 

16

Fraud, as noted above, is not a necessary element to

establish a prima facie claim under Section 11 or Section

12(a)(2). See Shapiro, 964 F.2d at 288. But claims under those

provisions can be, and often are, predicated on allegations of

fraud. See, e.g., CALPERS, 394 F.3d at 160. We have held that

where the plaintiff grounds these Securities Act claims in

allegations of fraud – and the claims thus “sound in fraud”– the

heightened pleading requirements of Rule 9(b) apply. Id. at 161-

63; Shapiro, 964 F.2d at 288-89.5

 SSF Plaintiffs urge us “to do

away with the ‘sounds in fraud’ doctrine altogether,” SSF Br. at

19, but this panel is bound by prior precedential decisions of this

court. See 3d Cir. IOP Ch. 9.1. 

Rule 9(b) provides that “[i]n all averments of fraud or

mistake, the circumstances constituting fraud or mistake shall be

stated with particularity.” Rule 9(b) serves to give defendants

“notice of the claims against them, provide[ ] an increased

measure of protection for their reputations, and reduce[ ] the

number of frivolous suits brought solely to extract settlements.” 

In re Burlington Coat Factory Sec. Litig., 114 F.3d 1410, 1418

(3d Cir. 1997). “Rule 9(b) requires a plaintiff to plead (1) a

specific false representation of material fact; (2) knowledge by

the person who made it of its falsity; (3) ignorance of its falsity

by the person to whom it was made; (4) the intention that it
17

should be acted upon; and (5) that the plaintiff acted upon it to

his [or her] damage.” Shapiro, 964 F.2d at 284. Where a

plaintiff’s Section 11 or Section 12(a)(2) claims are not

grounded in allegations of fraud, the liberal notice pleading

requirements of Rule 8 apply. See In re Adams Golf, 381 F.3d

at 273 n.5 (“[C]laims under the 1933 Act that do not sound in 

fraud are not held to the heightened pleading requirements of

[Rule] 9(b).”). Rule 8 pleading merely requires “a short and

plain statement of the claim showing that the pleader is entitled

to relief.” Fed. R. Civ. P. 8(a)(2). Whether a Securities Act

claim is subject to Rule 9(b) requires an assessment of the

particular claim to determine whether acts of fraud on the part of

the defendants form the basis for the claim against them. See

Shapiro, 964 F.2d at 288 (“Rule 9(b) refers to ‘averments’ of

fraud, and thus requires us to examine the factual allegations that

support a particular legal claim.”); see also CALPERS, 394 F.3d

at 160 (“[A]n examination of the factual allegations that support

Plaintiffs’ section 11 claims establishes that the claims are

indisputably immersed in unparticularized allegations of

fraud.”). 

Although, in its second amended complaint, Lead Class

Plaintiff described its suit as arising out of a “massive fraud” at

Suprema, stemming in particular from the allegedly material

misrepresentations in the registration statements that Suprema

filed in connection with the 2001 Offering, App. at 82, it

prefaced its Section 11 and Section 12(a)(2) counts with an

explicit disclaimer– “[t]his claim is not based on and does not

sound in fraud”– prior to setting forth the factual allegations that

support each claim for relief. App. at 93, 125. Lead Class

Plaintiff made it clear that its particular claims for relief under

the Securities Act 

are not based on any knowing or reckless

misconduct on the part of the defendants– i.e., they

do not allege, and do not sound in fraud. Rather,

they are premised on the fact that there were

material misrepresentations and omissions in the

Registration Statement, and the defendants’

negligence in failing to recognize this fact.
18

App. at 82. It expressly stated its cause of action as sounding in

negligence, claiming that “[h]ad they exercised reasonable care,

these defendants could have known of the material

misstatements and omissions alleged herein.” App. at 123.

In similar fashion, SSF Plaintiffs asserted at the outset

that their suit arises out of “one of New Jersey’s most scandalous

accounting frauds,” App. at 260, but also stated clearly that

“[t]his action seeks to advance negligence claims against the

underwriters, auditor, and signatories of Suprema’s publiclyfiled documents.” App. at 261. SSF Plaintiffs prefaced the

Section 11 and Section 12(a)(2) counts of the second amended

complaint with the disclaimer that “[t]his claim is not based on

and does not sound in fraud, and Plaintiffs expressly disclaim

and exclude any allegation that could be construed as alleging

fraud or intentional or reckless misconduct.” App. at 324. The

preface to the Section 11 count further states that “this claim is

based . . . solely on claims of strict liability and/or negligence

under the Securities Act.” App. at 324. At the heart of the

claims was the allegation that the named defendants were

negligent in their failure to uncover the fraud at Suprema.

The District Court held that both complaints sound in

fraud, mainly because “‘the wording and imputations of the

complaint[s] are classically associated with fraud.’” App. at 14

(quoting Rombach, 355 F.3d at 172). Among other things, the

District Court noted that Lead Class Plaintiff alleged that the

action arose from a “massive fraud” and that SSF Plaintiffs had

identified several specific false representations of material fact in

the 2000 and 2001 Registration Statements upon which they

claimed to have relied. Thus, although the District Court

acknowledged that plaintiffs pleaded their claims as negligencebased, it held that the Section 11 and Section 12(a)(2) claims

sound in fraud as to all defendants. Applying the heightened

pleading standard of Rule 9(b), the District Court determined

that the claims must fail because plaintiffs did not allege that any

of the defendants knew of the falsity of their statements and

intended for the statements to be acted upon.

Lead Class Plaintiff argues that the District Court erred

because (1) the second amended complaint set forth no
19

allegations of fraud with regard to the 2001 Underwriters and

Directors, and (2) it was careful to separately plead the

fraudulent conduct of the Officers and BDO in connection with

the Section 10(b) claims from the conduct that supported the

Section 11 and Section 12(a)(2) claims. On that basis, and on

the basis that the Section 11 and Section 12(a)(2) claims were

expressly pled as negligence claims, Lead Class Plaintiff

contends that its Section 11 and Section 12(a)(2) claims should

not have been held to sound in fraud. SSF Plaintiffs likewise

contend that their claims were based solely on the defendants’

negligent failure to carry out their respective responsibilities and

not fraud on their part.

For their part, defendants principally rely upon our

decision in CALPERS, where we held that the heightened

pleading of Rule 9(b) applied to a Section 11 claim despite the

plaintiffs’ express disavowal of fraud because “the claims [were]

indisputably immersed in unparticularized allegations of fraud,”

and “a core theory of fraud permeate[d] the entire Second

Amended Complaint.” CALPERS, 394 F.3d at 160. We

concluded that “[t]he one-sentence disavowment of fraud

contained within Plaintiffs’ section 11 Count . . . does not

require us to infer that the claims are strict liability or negligence

claims, and in this case is insufficient to divorce the claims from

their fraudulent underpinnings.” Id.

Although defendants are correct to observe that this case

resembles CALPERS inasmuch as a core theory of fraud

permeates the action, we find this case easily distinguishable

from CALPERS with respect to the manner in which plaintiffs

have pled their Section 11 and Section 12(a)(2) claims. Unlike

the plaintiffs in CALPERS, plaintiffs in this case do not merely

disavow already-pled allegations of fraud in connection with

their Section 11 and Section 12(a)(2) claims, leaving the court to

“sift through [those] allegations . . . in search of some ‘lesser

included’ claim of strict liability.” CALPERS, 394 F.3d at 162

(quoting Lone Star Ladies Inv. Club v. Schlotzky’s, Inc., 238

F.3d 363 (5th Cir. 2001)). Rather, both plaintiffs have expressly

pled negligence in connection with their Section 11 and 12(a)(2)

claims. We regard this difference in pleading as dispositive.
20

In CALPERS, we subjected the plaintiff’s pleading to the

strictures of Rule 9(b) because the complaint was “completely

devoid of any allegations that Defendants acted negligently.” 

CALPERS, 394 F.3d at 161. Similarly, in Shapiro, we held that

Rule 9(b) applied to Section 11 and Section 12(a)(2) claims

because there was “not a hint in the allegations that defendants

were negligent in violating §§ 11 and 12[(a)](2).” Shapiro, 964

F.2d at 287-88. Both CALPERS and Shapiro thus presented

complaints containing allegations of fraud exclusively; no

allegations of negligence were pled in support of the Securities

Act claims. See, e.g., Shapiro, 964 F.2d at 288 (“[W]e are not

presented with a mixture of allegations of negligence [and]

fraud.”) (citation and quotation marks omitted). We observed in

Shapiro that “[i]t would be unreasonable to infer a negligence

cause of action from [nothing more than a] fleeting and obscure

reference [in the complaint] to ‘gross negligence.’” Id. at 288

n.18.

Other courts of appeals presented with Section 11 or

12(a)(2) claims premised exclusively on allegations of fraud have

followed our approach in Shapiro and declined to infer

negligence where it has not been expressly pled. See, e.g., In re

Daou Sys., 411 F.3d 1006, 1028 (9th Cir. 2005); Rombach, 355

F.3d at 172; Melder v. Morris, 27 F.3d 1097, 1100 n. 6 (5th Cir.

1994). Conversely, where the claims are expressly premised on

negligence rather than fraud, Rule 9(b) has been held

inapplicable. See Schwartz v. Celestial Seasonings, Inc., 124

F.3d 1246, 1251-52 (10th Cir. 1997) (assuming arguendo that

the approach in Shapiro is correct and holding that Section 11

claim not premised on fraud did not trigger Rule 9(b) scrutiny).

We now hold that where, as here, individual defendants

are accused in separate claims of the same complaint of having

violated Section 11, Section 12(a)(2), and Section 10(b), the

Securities Act claims do not sound in fraud if ordinary

negligence is expressly pled in connection with those claims. In

such a case, the fraud allegations cannot be said to

“contaminate” the Section 11 and Section 12(a)(2) claims if the

allegations are pled separately. We applied Rule 9(b) to the

Section 11 and Section 12(a)(2) claims in Shapiro because

“plaintiffs did not allege ordinary negligence” and we could “see
21

no way to construct a negligence cause of action.” Shapiro, 964

F.2d at 288. Here, ordinary negligence is alleged in the Section

11 and Section 12(a)(2) claims, and those claims are pled

separately from the Section 10(b) fraud claims against the same

defendants. That is enough to avoid triggering Rule 9(b). A

contrary result would effectively preclude plaintiffs from filing

suit under Section 11 and Section 12(a)(2) as well as Section

10(b)(5). There is no suggestion that Congress intended such an

incongruous approach.

To be sure, the “sounds in fraud” determination for

Securities Act claims will not always be clear cut in cases where

the plaintiff simultaneously raises claims against the same

defendants under a provision that requires a showing of scienter,

like Section 10(b). But where the plaintiff has exercised care in

differentiating asserted negligence claims from fraud claims and

in delineating the allegations that support the negligence cause

of action as distinct from the fraud, the determination is

straightforward.

Lead Class Plaintiff carefully segregated its allegations of

negligence against the Officers and BDO from its allegations of

fraud against those defendants. It did so by pleading its Section

11 and Section 12(a)(2) claims in negligence before– and wholly

apart from– pleading its fraud-based Section 10(b) claims. This

manner of pleading makes for a clear conceptual separation in

the complaint between claims sounding in negligence and those

sounding in fraud. And while Lead Class Plaintiff prefaced its

complaint with a general statement that its suit “arises out of the

massive fraud that was perpetrated at Suprema,” App. at 82, it

was careful in that introductory discussion not to accuse any

particular defendant of acting with fraudulent intent. As to its

claims against the Outside Directors and Underwriters in

particular, there are no allegations of fraud or reckless

misconduct whatsoever in any count of Lead Class Plaintiff’s

second amended complaint; ordinary negligence is all that is

pled.

SSF Plaintiffs were less artful in their pleading, with the

result that allegations of negligence and allegations of fraud

against the defendants are somewhat commingled in the second
6

See, e.g., App. at 324: 

Plaintiffs repeat and reallege each and every

allegation above as if set forth fully herein...[but]

Plaintiffs expressly disclaim and exclude any

allegation that could be construed as alleging fraud

or intentional or reckless misconduct, as this claim is

based on solely on [sic] claims of strict liability

and/or negligence under the Securities Act. 

Although we frowned upon this style of pleading in CALPERS,

394 F.3d at 162, SSF Plaintiffs, unlike the plaintiff in CALPERS,

expressly pled negligence in their complaint, so the burden on a

court to “sift through” allegations of fraud to identify the facts that

support the Section 11 and Section 12 claims is lessened

substantially.

22

amended complaint. Although we view this lapse in pleading as

inexpert, we do not regard it as fatal under the circumstances. 

The Section 11 and Section 12(a)(2) claims were expressly pled

in, and limited to, negligence, with preceding allegations of

fraud expressly disavowed in the context of those claims.6

While not as “clean” as the pleading style adopted by Lead Class

Plaintiff, the SSF Plaintiffs’ allegations as set forth were

sufficient to give notice to the defendants of the claims against

them.

In holding that Rule 9(b) does not apply to Section 11 or

Section 12(a)(2) claims that are expressly pled in negligence

even when Section 10(b) claims against some of the same

defendants are pled separately in the same complaint, we adopt a

position that is consistent with our holdings in Shapiro and

CALPERS, and one that has already been adopted by a number

of district courts within our circuit. See, e.g., In re Ravisent

Tech, Inc. Sec. Litig., No. CIV.A. 00-CV-1014, 2004 WL

1563024, at *13 (E.D. Pa. July 13, 2004) (“It appears that

Plaintiffs’ counsel were aware of Shapiro when drafting the

complaint, and were careful to plead negligence sufficiently to

avoid the heightened pleading requirements.”); In re Cendant

Corp. Litig., 60 F. Supp. 2d 354, 364 (D.N.J. 1999) (“Unlike the
7

The 2001 Underwriters and the Cocchiolas argue in the

alternative that plaintiffs’ Section 11 and Section 12(a)(2) claims

should have been dismissed for lack of standing because plaintiffs

did not allege that their “purchases of Suprema stock were part of

or, in the case of § 11, were directly traceable to, public offerings

under the challenged registration statements.” Cocchiola Br. at 14.

According to these appellees, standing for Section 11 and Section

12(a)(2) claims “applies only to purchasers in initial stock

offerings, not to open or secondary market purchases.” Id. at 24.

The District Court held that plaintiffs adequately alleged standing:

“Because Plaintiffs have alleged that they have purchased ‘in’ or

‘traceable to’ the 2000 and 2001 secondary offerings, Plaintiffs 

have pled standing sufficiently at this motion to dismiss stage.”

App. at 13.

“For the purposes of determining standing, the court must

accept as true all material allegations set forth in plaintiffs’

23

complaint in Shapiro, this complaint does not incorporate

allegations of scienter and fraud into the § 11 claim. Rather, here

the § 11 claim is [pled] before any of the other claims. Although

the plaintiffs have [pled] that certain defendants acted

fraudulently in violation of § 10(b), the § 11 claim is limited to

negligence.”); Resolution Trust Corp. v. del Re Castellett, No.

CIV.A.92-4635(AMW), 1993 WL 719764, at *2 (D.N.J. Sept. 7,

1993) (holding that Rule 9(b) did not apply to plaintiff’s Section

11 count because that count sounded in negligence and did not

incorporate allegations of fraud from a Section 10(b) count).

In short, the reputational concerns that animate Rule 9(b)

with respect to a defendant accused of fraud are not implicated

when a defendant stands accused of nothing more than

negligence. Cf. Leatherman v. Tarrant County Narcotics

Intelligence & Coordination Unit, 507 U.S. 163, 168 (1993)

(discussing the limited applicability of Rule 9(b)). Because the

Section 11 and Section 12(a)(2) claims of the plaintiffs here

were expressly negligence-based and pled distinctly in the

complaint from the fraud-based claims, it was error for the

District Court to hold that they sound in fraud. Accordingly, we

will vacate the dismissal of these claims.7
complaint and must construe those facts in favor of the plaintiffs.”

Mariana v. Fisher, 338 F.3d 189, 205 (3d Cir. 2003) (citation

omitted). SSF Plaintiffs alleged in their second amended complaint

that on August 25, 2000, they purchased 250,000 shares of “newlyissued Suprema common stock in the 2000 Offering.” App. at 265

(emphasis added). They also alleged that on November 14, 2001,

which was the last day of the 2001 Offering, they “purchased

13,000 shares of Suprema stock which are traceable to the shares

newly-issued in the [2001 Offering].” App. at 266 (emphasis

added). Lead Class Plaintiff alleged that on November 8, 2001, it

purchased 47,000 shares of Suprema common stock “in” the 2001

Offering, making the purchase from underwriter Janney

Montgomery. App. at 84 (emphasis added). As noted, Lead Class

Plaintiff asserts Section 11 violations by all defendants and Section

12(a)(2) violations by the Officers and the 2001 Underwriters. SSF

Plaintiffs assert Section 11 violations by all defendants and Section

12(a)(2) violations by the Officers and Hobbs Melville (one of the

non-appearing underwriters, see supra note 3).

We agree with the District Court that plaintiffs’ allegations

regarding the purchases were sufficient to survive the motions to

dismiss. By its terms, Section 11 provides that “any person

acquiring” a security issued pursuant to a materially false

registration statement may sue (unless the purchaser knew about

the false statement). 15 U.S.C. § 77k(a) (emphasis added). As the

Court of Appeals for the Second Circuit has observed, “[w]e can

find no reason why ‘any’ as used in § 11 should not be read as the

equivalent of ‘every’ such that every person who acquires a

security issued pursuant to an allegedly defective registration

statement has standing to sue under § 11.” DeMaria v. Andersen,

318 F.3d 170, 176 (2d Cir. 2003); accord Lee v. Ernst & Young,

LLP, 294 F.3d 969, 976-77 (8th Cir. 2002); Joseph v. Wiles, 223

F.3d 1155, 1159 (10th Cir. 2000). We agree with this view and

hold that plaintiffs’ assertions of purchases “in” and “traceable to”

the Suprema stock offerings were sufficient at the pleading stage.

Indeed, we recognized as much in Shapiro, where plaintiffs alleged

that they purchased stock “pursuant to” a registration statement.

This court concluded that while “plaintiffs need not prove their

shares are traceable to a false or misleading registration statement

24
at this early stage of the litigation, they must allege it.” Shapiro,

964 F.2d at 286. We found that plaintiffs had sufficiently alleged

their Section 11 standing, adding that “[b]efore discovery takes

place [ ] it is impossible for plaintiffs to know whether their shares

were newly issued or were purchased in the secondary market.” Id.

The question here is likewise a factual one, to be resolved through

discovery, as to whether plaintiffs can demonstrate that the shares

they allegedly purchased are in fact traceable to the registration

statement alleged to be false and misleading. See Lee, 294 F.3d at

978; Joseph, 223 F.3d at 1159-60. If, as appellees suggest,

plaintiffs have misrepresented the circumstances of their stock

purchases and do not in fact have standing, appellees can raise that

matter at the summary judgment stage after discovery.

Similarly, Section 12(a)(2) claims concern the purchase of

securities pursuant to a materially false or misleading prospectus

or oral communication. We have recognized that the language of

Section 12(a)(2) “should not be expanded to aftermarket trading.”

Ballay v. Legg Mason Wood Walker, Inc., 925 F.2d 682, 689 (3d

Cir. 1991). At the pleading stage, however, we accept as true

plaintiffs’ allegations that they made their stock purchases in or

traceable to the Suprema public offerings. “If defendants were

eventually to prove that the shares came from the secondary

market, § 12[(a)](2) would not apply, and judgment would be

entered for them.” Shapiro, 964 F.2d at 287 n.16 (citation

omitted).

25

B. Section 10(b) Claims

Section 10(b) of the Exchange Act prohibits the “‘use or

employ, in connection with the purchase or sale of any security, .

. . [of] any manipulative or deceptive device or contrivance in

contravention of such rules and regulations as the Commission

may prescribe . . . .’” In re IKON, 277 F.3d at 666 (quoting 15

U.S.C. § 78j(b)). Pursuant to this statutory authority, the

Commission promulgated Rule 10b-5, which creates a private

cause of action for investors harmed by materially false or

misleading statements. In re Advanta, 180 F.3d 525, 535 (3d

Cir. 1999). Rule 10b-5 “makes it unlawful for any person ‘[t]o
8

The purpose of the heightened pleading requirements

contained in the PSLRA is “to restrict abuses in securities classaction litigation, including: (1) the practice of filing lawsuits

against issuers of securities in response to any significant change

in stock price, regardless of defendants' culpability; (2) the

targeting of ‘deep pocket’ defendants; (3) the abuse of the

discovery process to coerce settlement; and (4) manipulation of

clients by class action attorneys.” In re Advanta, 180 F.3d at 531

(citing H.R. Conf. Rep. No. 104-369, at 28 (1995), reprinted in

1995 U.S.C.C.A.N. 679, 748).

26

make any untrue statement of a material fact or to omit to state a

material fact necessary to make the statements made[,] in light of

the circumstances under which they were made, not misleading .

. . in connection with the purchase or sale of any security.’” 17

C.F.R. § 240.10b-5(b); see In re IKON, 277 F.3d at 666. 

The Supreme Court has recently set forth the elements of

a Section 10(b) claim. See Dura Pharm., Inc. v. Broudo, __ U.S.

__, 125 S. Ct. 1627, 1631 (2005). They are

(1) a material misrepresentation (or omission); (2)

scienter, i.e., a wrongful state of mind; (3) a

connection with the purchase or sale of a security;

(4) reliance, often referred to in cases involving

public securities markets (fraud-on-the-market

cases) as “transaction causation;” (5) economic

loss; and (6) “loss causation,” i.e., a causal

connection between the material misrepresentation

and the loss. 

Id. (citations omitted). The PSLRA provides that a Section

10(b) claim must “specify each statement alleged to have been

misleading, the reason or reasons why the statement is

misleading, and, if an allegation regarding the statement or

omission is made on information and belief, the complaint shall

state with particularity all facts on which that belief is formed.”

15 U.S.C. § 78u-4(b)(1)(B).8

The PSLRA also requires that plaintiffs plead the required
27

state of mind with particularity. GSC Partners CDO Fund v.

Washington, 368 F.3d 228, 237 (3d Cir. 2004); In re Advanta,

180 F.3d at 530. Specifically, the PSLRA states in relevant part:

In any private action arising under this chapter in

which the plaintiff may recover money damages

only on proof that the defendant acted with a

particular state of mind, the complaint shall, with

respect to each act or omission alleged to violate

this chapter, 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 requisite “strong inference” of fraud may be

established either (a) by alleging facts to show that defendants

had both motive and opportunity to commit fraud, or (b) by

alleging facts that constitute strong circumstantial evidence of

conscious misbehavior or recklessness.’” In re Burlington Coat

Factory, 114 F.3d at 1418 (citations omitted). We have defined

“recklessness” to include

“[h]ighly unreasonable (conduct), involving not

merely simple, or even inexcusable negligence, but

an extreme departure from the standards of

ordinary care, . . . which presents a danger of

misleading buyers or sellers that is either known to

the defendant or is so obvious that the actor must

have been aware of it.”

SEC v. Infinity Group Co., 212 F.3d 180, 192 (3d Cir. 2000)

(quoting McLean v. Alexander, 599 F.2d 1190, 1197 (3d Cir.

1979)).

In addition to the PSLRA requirements, plaintiffs alleging

fraud under the Exchange Act must also comply with the

heightened pleading requirement of Rule 9(b). GSC, 368 F.3d at

236. As applied to Section 10(b) claims, “Rule 9(b) requires a

plaintiff to plead (1) a specific false representation [or omission]

of material fact; (2) knowledge by the person who made it of its
28

falsity; (3) ignorance of its falsity by the person to whom it was

made; (4) the intention that it should be acted upon; and (5) that

the plaintiff acted upon it to his damage.” In re Rockefeller

Center Prop. Sec. Litig., 311 F.3d 198, 216 (3d Cir. 2002)

(internal quotation marks and citation omitted). Moreover,

“Rule 9(b) requires plaintiffs to identify the source of the

allegedly fraudulent misrepresentation or omission.” Id.

(citation omitted). In sum, “Rule 9(b) requires, at a minimum,

that plaintiffs support their allegations of securities fraud with all

of the essential factual background that would accompany ‘the

first paragraph of any newspaper story’ – that is, the ‘who, what,

when, where and how’ of the events at issue.” Id. at 217

(quoting In re Burlington Coat Factory, 114 F.3d at 1422). To

the extent that Rule 9(b)’s allowance of general pleading with

respect to mental state conflicts with the PSLRA's requirement

that plaintiffs state with particularity facts giving rise to a strong

inference that the defendant acted with scienter, 15 U.S.C. §

78u-4(b)(2), the PSLRA “supersedes Rule 9(b) as it relates to

Rule 10b-5 actions.” In re Advanta, 180 F.3d at 531 n.5.

1. The Officers

Plaintiffs pled the required scienter on the part of

Cocchiola and Venechanos (the “Officers”) by alleging both

motive and opportunity (with respect to insider stock sales) and

strong circumstantial evidence of conscious misbehavior or

recklessness (with respect to the round-trip sales scheme). The

District Court held that the alleged facts did not give rise to a

strong inference of the Officers’ scienter and dismissed the

Section 10(b) claims. We conclude that plaintiffs’ allegations

were sufficient to survive a motion to dismiss.

a) Motive and Opportunity

Plaintiffs allege that Cocchiola and Venechanos sold

substantial portions of their stock in the 2001 Offering and

therefore had the motive and opportunity to inflate the price of

their stock. Although we have stated that “[w]e will not infer

fraudulent intent from the mere fact that some officers sold

stock,” we also stated that sales of company stock by insiders

that are “unusual in scope or timing . . . may support an
9

According to Lead Class Plaintiff, Cocchiola was the

largest holder of Suprema common stock when Suprema filed its

2001 Form 10-K statement, exercising ownership or control over

1.1 million shares representing approximately 17.4% of the stock

issued and outstanding. Venechanos at that time allegedly

exercised ownership or control over 138,000 shares, or

approximately 2.4% of the common stock. 

29

inference of scienter.” In re Advanta, 180 F.3d at 540 (citations

and quotation marks omitted). Whether a sale is “unusual in

scope” depends on factors such as “the amount of profit made,

the amount of stock traded, the portion of stockholdings sold, or

the number of insiders involved.” Wilson v. Bernstock, 195 F.

Supp. 2d 619, 635 (D.N.J. 2002) (citation omitted). Other

factors relevant to scope and timing are whether the sales were

“normal and routine,” and whether the profits were substantial

relative to the seller’s ordinary compensation. In re Burlington

Coat Factory, 114 F.3d at 1423.

The second amended complaints differ as to precisely

how many shares Cocchiola sold in the 2001 Offering. Lead

Class Plaintiff alleges that Cocchiola sold 31% of his total

holdings (193,423 shares) for proceeds of just over $2 million,

and that he sold another 81,577 shares in the over-allotment, for

nearly $1 million in further proceeds.9

 SSF Plaintiffs allege that

Cocchiola sold 347,809 shares for proceeds of over $4 million.

They further allege that Cocchiola pledged another 200,000

shares as collateral for a $600,000 personal loan. Both plaintiffs

agree that Venechanos sold 38% of his total holdings (52,937

shares) in the 2001 Offering for proceeds of nearly $628,000.

Plaintiffs claim that these insider sales were suspicious in

timing because they came at a time when the price of Suprema’s

stock was artificially inflated as a result of the round-trip sales

scheme, just six weeks before Venechanos and Christensen

resigned. Furthermore, they allege that the sales were suspicious

in scope because Cocchiola had sold only 50,000 shares before

the 2001 Offering and Venechanos had sold none. Cocchiola

sold over five times the number of shares in the 2001 Offering

than he had sold prior to that time. With respect to the ratio of
30

profits to compensation, SSF Plaintiffs allege that Cocchiola’s

profits from the stock sale nearly doubled in one day the total

amount of money that he had made over the previous three years

combined. The sales Venechanos made netted him over four

times his annual salary.

Citing our decision in In re Advanta, 180 F.3d 525, the

District Court held that the sales made in the 2001 Offering were

not unusual because “both Cocchiola and Venechanos retained

large stock holdings after the sales, 49% and 62%, respectively.” 

App. at 27-28. We conclude, however, that the stock sales here

differ substantially from the sales in In re Advanta. In that case,

the defendants traded only small percentages of their holdings,

with two of the defendants selling seven and five percent,

respectively. In re Advanta, 180 F.3d at 540. Here, each Officer

is alleged to have sold over 30 percent of his holdings. Plaintiffs

have plausibly alleged that the sales were not normal or routine

for these Officers, and that the profits from the trades were

substantial in comparison to their overall compensation. Indeed,

Lead Class Plaintiff alleges that Cocchiola realized over $2.3

million in profit from the sale of his shares, and Venechanos

$627,832. The timing of the sales was also suspect in that they

occurred just six weeks before Venechanos and Christensen

resigned. We conclude that plaintiffs’ allegations regarding the

stock sales are sufficient at this stage to support a strong

inference that Cocchiola and Venechanos had a motive and

opportunity to inflate the value of their stock artificially by

reporting fictitious sales and by falsely inflating the value of

their inventory in public statements.

b) Circumstantial Evidence of Misconduct

Plaintiffs alleged numerous facts that they argue

constitute strong circumstantial evidence that the Officers knew

of or recklessly disregarded the falsity of Suprema’s registration

statements and prospectuses with respect to reported financial

performance. Among other things, plaintiffs cite the following:

Cocchiola and Venechanos were the leaders of a very small

senior management team at Suprema which boasted a “handson” relationship with key accounts and customers, App. at 128;

three of these key customers pled guilty to fraud charges in
10 Lead Class Plaintiff specifically alleged that “Cocchiola,

Venechanos, and Lauriero (when he was alive) . . . collectively

constituted the ‘management’ of Suprema throughout the Class

Period[.]” App. at 135. Further, as counsel for Lead Class Plaintiff

emphasized at argument before this court, Suprema “was a small

company, this was not IBM[.]” Tr. of Oral Argument at 13.

31

connection with the round-trip sales scheme and admitted in

their plea allocutions that they had created false invoices, falsely

labeled cheese, and adulterated cheese “at the direction and with

the participation of Suprema’s management,” App. at 133;10

fictitious transactions with these customers constituted “more

than two-thirds of the company’s revenue and nearly all of its

growth” during the class period, App. at 187; Cocchiola and

Venechanos signed millions of dollars in company checks during

the class period, payable in large part to entities controlled by

these customers; Venechanos controlled all of the bookkeeping

connected with these accounts and he and Cocchiola prevented

Suprema’s accounting staff from having any contact with the

accounts or with BDO concerning the accounts; Cocchiola and

Venechanos instructed Suprema employees not to be involved in

the hard cheese portion of the business; and Cocchiola prevented

Suprema employees from having contact with BDO concerning

the accounts.

We thus conclude that plaintiffs’ allegations against the

Officers are detailed as to each and are sufficient to give rise to

the requisite strong inference that these defendants knew that the

statements they made in connection with the 2000 and 2001

Offerings were materially false and misleading. We reject

defendants’ contention that plaintiffs have merely pled “fraud by

title.” On the contrary, plaintiffs have attributed to each of the

Officers specific knowledge and conduct. Moreover, even if

plaintiffs’ allegations with respect to the Officers’ insider stock

sales were insufficient to support a strong inference that they

acted with scienter, the allegations concerning the Officers’

respective roles in the round-trip sales scheme would be enough

to survive a motion to dismiss. On this record, we will vacate

the District Court’s dismissal of plaintiffs’ 10(b) claims against

the Officers.
32

2. The Auditor

The District Court dismissed plaintiffs’ claims against

BDO for failure adequately to allege scienter. The court rejected

plaintiffs’ allegations that BDO acted recklessly by failing to

take numerous steps required by GAAS, and that BDO failed to

heed “red flags” indicating that something was grossly amiss

with Suprema’s accounting. The District Court found that the

“purported ‘red flags’ were normal aspects of a healthy

business,”and it credited BDO’s argument that it had a good

faith belief that its audits were accurate. App. at 32. The

District Court added that BDO “was in effect a victim of the

fraud” and had done all it was required to do. Id. Ultimately,

the District Court concluded that “given the information

available to BDO at the time of the audit it can not be said that

BDO did not have an honest belief that the statements made by it

were true.” Id.

When a professional opinion is issued to the investing

public by those in a position to know more than the public, there

is an obligation to disclose data indicating that the opinion may

be doubtful. Eisenberg v. Gagnon, 766 F.2d 770, 776 (3d Cir.

1985). When that opinion is 

based on underlying materials which on their face or under the

circumstances suggest that they cannot be relied on without

further inquiry, then the failure to investigate further may

“support[ ] an inference that when [the defendant] expressed

the opinion it had no genuine belief that it had the information

on which it could predicate that opinion.” 

Id. (quoting McLean v. Alexander, 559 F.2d 1190, 1198 (3d Cir.

1979)). A showing that an auditor either lacked a genuine belief

that its representations were supported by adequate information

or engaged in auditing practices so shoddy that they amounted at

best to a “pretended audit” has traditionally supported a finding

of liability, even in the face of assertions of good faith. McLean,

599 F.2d at 1198. But as our case law makes clear, 

the mere second-guessing of calculations will not suffice;

appellants must show that [the auditor]’s judgment– at the
33

moment exercised– was sufficiently egregious such that a

reasonable accountant reviewing the facts and figures should

have concluded that [the company]’s financial statements were

misstated and that as a result the public was likely to be misled. 

In re IKON, 277 F.3d at 673.

At the pleading stage, courts have recognized that

allegations of GAAS violations, coupled with allegations that

significant “red flags” were ignored, can suffice to withstand a

motion to dismiss. See, e.g., In re Daou, 411 F.3d at 1016;

Greebel v. FTP Software, Inc., 194 F.3d 185, 203 (1st Cir. 

1999); Malone v. Microdyne Corp., 26 F.3d 471, 479 (4th Cir.

1994). Such allegations, of course, must be pled with

particularity. In re Daou, 411 F.3d at 1016. It is insufficient, for

example, for a plaintiff to cite GAAS standards without an

explanation of how the defendant knowingly or recklessly

violated those standards. In re Westinghouse Sec. Litig., 90 F.3d

696, 712 (3d Cir. 1996).

Plaintiffs here have alleged that BDO failed to comply

with specific GAAS standards, including, among others, the

requirement to exercise due care and professional skepticism in

the conduct of an audit; the requirement adequately to plan, staff,

and supervise an audit; the requirement adequately to assess the

nature of the audited business; and the requirement to recognize

enumerated risk factors or red flags that may have alerted the

auditor to the existence of fraud. Moreover, plaintiffs explain in

detail in the second amended complaints how BDO’s alleged

GAAS violations led it to overlook numerous red flags. Thirty

such red flags are cited as having been present in this case,

including the following: (1) Suprema’s 2001 Form 10-K made

no mention that Suprema was engaged in the purchase and resale

of bulk cheese from domestic suppliers when even a cursory

review of the company’s check register, vendor invoices, and

purchasing records would have revealed that fully two-thirds of

company revenue for that year was derived from such sales; (2)

Suprema’s cash flows from operations were negative and grew

dramatically worse over time, even though Suprema was

reporting astronomical growth in net sales, gross margin, and net

earnings, including a 400% increase in hard-cheese revenue
34

during just a two-year period; (3) Suprema posted growth that

was radically disproportionate with growth in the cheese

industry as a whole; (4) although Suprema was reporting rapid

growth in production, it did not report corresponding increases in

its labor force and the utilization of its production facilities; (5)

Suprema restricted BDO’s access to key accounting personnel,

including the accounts receivable and accounts payable

supervisors, which represented a material limitation of the scope

of the audit; (6) all of Suprema’s significant hard-cheese

customers had accounts that were well past due; and (7)

Suprema had weak internal controls, a fact that BDO essentially

admitted in its letter of resignation, and one that should have led

BDO to investigate further before issuing unqualified audit

opinions.

BDO argues some of the proffered red flags, such as late

or missing invoices, delayed compliance with document

requests, and payment of stock options and large bonuses to

management, are not obvious or strong indicators of fraud. 

However, even if we discount these weaker indicators, the much

stronger indicators noted above remain, and those factors are

sufficient to raise serious questions about the integrity of the

audits. 

Indeed, accepting plaintiffs’ allegations as true, the

evidence of Suprema’s financial foul play was hiding in plain

sight. Suprema management was a small group, and the

company had only five “customers” that accounted for more than

80% of its business in 2001. Its largest customer that year,

Tricon, and its largest supplier, Noram, were both owned and

controlled by one individual, Paul Zambas. Even a cursory

inquiry would have disclosed that the address for Tricon in

Suprema’s business records was not the same as Tricon’s

address available in public records; the address to which

Suprema sent checks to Noram was a gift shop in a mall; and,

most tellingly, checks from Tricon to Suprema came from the

same bank account into which Suprema’s checks to Noram were

deposited. Similarly, the tens of millions of dollars in checks

that Suprema wrote to another supplier, CMM, were also

deposited into the same account from which a purported

customer, WCC, wrote checks back to Suprema. The checks
35

were an obvious and readily available indicator of fraud. 

Moreover, plaintiffs have offered a detailed set of allegations as

to how BDO violated specific GAAS standards in its audit of

Suprema, and they have identified numerous substantive

indicators of fraud that were allegedly ignored altogether in the

auditing process. “[I]n many cases the most plausible means to

prevail on a section 10(b) claim against an auditor– without that

ever-elusive ‘smoking gun’ document or admission– will be to

show how specific and not insignificant accounting violations

collectively raise an inference of scienter.” In re IKON, 277

F.3d at 677 n.26; see also PR Diamonds, Inc. v. Chandler, 364

F.3d 671, 694 (6th Cir. 2004) (“[W]hen the alleged accounting

errors are sufficiently basic and large, their existence, in

combination with other factors, may support the requisite

scienter inference.”) (citation omitted). The accounting

violations set forth here surpass an inference of ordinary

negligence; they reasonably suggest that BDO either knew of, or

willfully turned a blind eye to, the fraud at Suprema.

We have not overlooked BDO’s protestations that it, too,

was a victim of the fraud at Suprema, that the fraud conspirators

hid information from and lied to BDO about Suprema’s finances,

and that BDO performed its audits in good faith under the

circumstances. We are not suggesting that plaintiffs’ Section

10(b) claim will necessarily survive a properly supported

summary judgment motion after BDO marshals its evidence. At

the pleading stage, however, plaintiffs are entitled to the benefit

of all reasonable inferences based on the detailed and specific

allegations in their complaints. In the face of the numerous and

not insignificant alleged accounting violations, we cannot rule

out, as a matter of law, a strong and reasonable inference of

BDO’s scienter. Consequently, we will vacate the District

Court’s dismissal of the Section 10(b) claims against BDO.

3. The Outside Directors

The District Court dismissed SSF Plaintiffs’ Section

10(b) claim against the Outside Directors, holding that the

allegations supporting the claim were conclusory and lacking in
11As noted, Lead Class Plaintiff did not file a Section 10(b)

claim against the Outside Directors, nor did it file such a claim

against the Underwriters.

36

detail.11 SSF Plaintiffs premise their allegations of recklessness

against the Outside Directors essentially on the following facts:

(1) revenue was wrongfully recognized; (2) the Outside

Directors had access to Suprema’s business records; and (3) the

Outside Directors were charged, as members of the audit

committee, with reviewing and monitoring the company’s

financial reporting, external audits, internal control functions,

and compliance with applicable rules and regulations.

Significantly, while the SSF Plaintiffs alleged specifically

what the audit committee’s duties were, they did not allege

which duties were violated, by whom they were violated, or how

they were violated. Indeed, whereas the allegations concerning

BDO’s recklessness span more than forty pages of the SSF

Plaintiffs’ second amended complaint, the corresponding

allegations against the four Outside Directors are scant,

comprising fewer than two pages. Recklessness is pled against

the Outside Directors as a group, based on their position, without

any attempt to link specific individuals to specific instances of

reckless conduct. We have held that such “catch-all” or

“blanket” assertions do not satisfy the particularity requirements

of Rule 9(b) and the PSLRA, and must be disregarded. 

CALPERS, 394 F.3d at 145. 

A pleading of scienter sufficient to satisfy Rule 9(b) “may

not rest on a bare inference that a defendant ‘must have had’

knowledge of the facts” or “must have known” of the fraud

given his or her position in the company. In re Advanta, 180

F.3d at 539 (citations omitted). As we have stated,

“[g]eneralized imputations of knowledge do not suffice,

regardless of the defendants’ positions within the company.” Id.

(citation omitted). The allegation that the Outside Directors, qua

directors and members of the audit committee, had access to

unspecified business records and a duty to review them does not

give rise to a strong inference that the Outside Directors

individually knew of or recklessly disregarded particular
37

wrongful recognitions of revenue. We will, therefore, affirm the

District Court’s dismissal of SSF Plaintiffs’ Section 10(b) claims

against the Outside Directors.

4. The 2000 and 2001 Underwriters

The District Court also dismissed SSF Plaintiffs’ Section

10(b) claim against the Underwriters, holding that the allegations

suggested negligence only and did not reach the threshold for

scienter. In the second amended complaint, SSF Plaintiffs

alleged that the Underwriters collectively “failed to adequately

review Suprema’s internal financial forecasts, contracts, and

other documents, make a physical inspection of Suprema’s major

facilities, employ analysts having expertise in the cheese

business, conduct interviews with Suprema’s senior and middle

management, or interview Suprema’s major customers, outside

quality consultants, auditors, and legal counsel.” App. at 381-

82. SSF Plaintiffs also alleged that the Underwriters earned

significant fees for services rendered in connection with the

public offerings.

“A securities professional has an obligation to investigate

the securities he or she offers to customers.” SEC v. GLT Dain

Rauscher, Inc., 254 F.3d 852, 857 (9th Cir. 2001). The

investigation must be adequate to provide the professional “with

a reasonable basis for a belief that the key representations in the

statements provided to . . . investors [a]re truthful and complete.” 

Id. at 858 (citations omitted). Whereas a reckless failure to

investigate an issuer of securities can give rise to liability under

Section 10(b), simple negligence, even inexcusable negligence,

is not enough. Infinity, 212 F.3d at 192. Nor is an allegation

that an underwriter had a motive to commit fraud simply because

it stood to collect underwriting fees. GSC, 368 F.3d at 238.

Our review of the SSF Plaintiffs’ allegations confirms the

District Court’s conclusion that they failed adequately to allege

scienter. The breaches alleged are, at best, negligent breaches of

the duty to investigate. The fact that the Underwriters earned

fees for their services does not establish that they acted with any

culpable intent. Moreover, plaintiffs’ manner of pleading their

claim collectively, through blanket allegations against numerous
12 Section 78r(a) provides in relevant part:

Any person who shall make or cause

to be made any statement in any

application, report, or document filed

pursuant to this chapter or any rule or

regulation thereunder or any

undertaking contained in a registration

statement as provided in subsection

(d) of section 78o of this title, which

statement 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, shall be

liable to any person (not knowing that

such statement was false or

misleading) who, in reliance upon

38

different defendants, runs afoul of the particularity requirements

of the PSLRA and Rule 9(b). See CALPERS, 394 F.3d at 145. 

Plaintiffs accuse all of the Underwriters of having breached

various aspects of the duty to investigate, but they fail to allege

any specific derogation of duty on the part of any specific

defendant. Given the lack of particularity in their pleading, and

given that they have alleged a mental state amounting to no more

than negligence, SSF Plaintiffs have failed to state a Section

10(b) claim. We will affirm the dismissal of the Section 10(b)

claim against the Underwriters.

C. Section 18 Claims

SSF Plaintiffs asserted a claim for relief under Section 18

of the Exchange Act against the Officers, Outside Directors, and

BDO for their alleged negligence in connection with the false

statements purportedly made in documents that Suprema filed

with the SEC. Section 18 creates a private remedy for damages

resulting from the purchase or sale of a security in reliance upon

a false or misleading statement contained in any document or

report filed with the SEC pursuant to the Exchange Act. 

15 U.S.C. § 78r(a).12 SSF Plaintiffs concede that to state their
such statement, shall have purchased

or sold a security at a price which was

affected by such statement, for

damages caused by such reliance,

unless the person sued shall prove that

he acted in good faith and had no

knowledge that such statement was

false or misleading.

15 U.S.C. § 78r(a).

13 This court has yet to determine when or if the heightened

pleading requirements of Rule 9(b) apply to a Section 18 claim, but

we see no need to reach that question on this appeal.

39

claim under Section 18, they were required to plead actual, as

opposed to presumed, reliance upon a false or misleading

statement. See SSF Br. at 44 (citing Heit v. Weitzen, 402 F.2d

909, 916 (2d Cir. 1968)); see also Howard v. Everex Sys., 228

F.3d 1057, 1063 (9th Cir. 2000) (noting that “courts have

required a purchaser’s actual reliance on the fraudulent statement

under § 18(a), as opposed to the constructive reliance, or

fraud-on-the-market, theory available under § 10(b)”) (citation

omitted). A Section 18 plaintiff, however, bears no burden of

proving that the defendant acted with scienter or any particular

state of mind. In re Stone & Webster, Inc., Sec. Litig., 414 F.3d

187, 193 (1st Cir. 2005); see Magna Inv. Corp. v. John Does

One Through Two Hundred, 931 F.2d 38, 39-40 (11th Cir.

1991). Thus, unlike a Section 10(b) claim, liability under

Section 18 requires proof of reliance but does not require proof

of scienter. See McGann v. Ernst & Young, 102 F.3d 390, 395

(9th Cir. 1996).13

SSF Plaintiffs contend that they sufficiently pled actual

reliance under Section 18 because they alleged that they read and

relied upon each “document” that contained a misstatement or

omission. The District Court determined that, although SSF

Plaintiffs stated for each document at issue that they “relied

upon” the document, they “merely allege[d] that they relied [on

the] documents that contained misstatements. They did not
40

allege actual reliance on the specific misrepresentations

themselves.” App. at 35. The District Court held that, absent

allegations of reliance on specific statements, the claims were

inadequately pled.

We agree that plaintiffs were required to plead actual

reliance on specific statements contained in the SEC filings at

issue. Section 18 plainly refers to reliance upon any materially

false “statement.” See 15 U.S.C. § 78r(a) (“Any person who

shall make . . . any statement in any application, report, or

document[,] . . . which statement was [materially false,] . . . shall

be liable to any person . . . who, in reliance upon such statement,

shall have purchased or sold a security at a price which was

affected by such statement.”) (emphasis added). In Cramer v.

General Tel. & Electronics Corp., 582 F.2d 259 (3d Cir. 1978),

this court, applying this natural reading of the statutory

language, stated that a plaintiff seeking to bring a claim under

Section 18 must allege a causal nexus between the sale of a

security and “reliance upon a false statement” in a report filed

with the SEC. Id. at 269 (emphasis added).

SSF Plaintiffs alleged cursorily that they “received,

reviewed, actually read, and relied upon” various Form 10-Q

filings and the 2000 and 2001 Form 10-K filings. For example,

regarding the September 28, 2001, Form 10-K, they allege that

they “obtained this document at or about the it [sic] was publicly

filed with the SEC, and actually read and relied upon it in

making their decisions to invest in Suprema common stock.” 

App. at 367. SSF Plaintiffs failed, however, to plead facts

probative of their actual reliance on any specific false statements

contained in those filings. Given the lack of allegations to show

the requisite causal nexus between their purchase of securities

and specific statements contained in the SEC filings, we will

affirm the District Court’s dismissal of SSF Plaintiffs’ Section

18 claims.

D. Section 15 and Section 20(a) Claims

Section 15 of the Securities Act provides for joint and

several liability on the part of one who controls a violator of

Section 11 or Section 12. 15 U.S.C. § 77o; see In re Adams
14 Section 15 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 77l 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.

15 U.S.C. § 77o.

15Section 20(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

41

Golf, 381 F.3d at 273 n. 3.14 Section 20(a) of the Exchange Act

imposes joint and several liability upon one who controls a

violator of Section 10(b). 15 U.S.C. § 78t(a); see In re Alpharma

Inc. Sec. Litig., 372 F.3d 137, 153 (3d Cir. 2004); Sharp v.

Coopers & Lybrand, 649 F.2d 175, 185 (3d Cir. 1981).15 Under
person acted in good faith and did not

directly or indirectly induce the act or

acts constituting the violation or cause

of action.

15 U.S.C. § 78t(a).

16We also have held that “secondary liability cannot be

found under Section 20(a) unless it can be shown that the

defendant was a culpable participant in the fraud.” Rochez Bros.,

Inc. v. Rhoades, 527 F.2d 880, 890 (3d Cir. 1975); see also Sharp,

649 F.2d at 185 (“One element of any case imposing liability under

§ 20(a) is ‘culpable participation’ in the securities violation.”). 

42

both provisions, the plaintiff must prove that one person

controlled another person or entity and that the controlled person

or entity committed a primary violation of the securities laws. 

See Klein v. Gen. Nutrition Companies, 186 F.3d 338, 344 (3d

Cir. 1999) (Section 15); In re Alpharma, 372 F.3d at 153

(Section 20(a)).16

Both plaintiffs asserted Section 15 and Section 20(a)

claims against the Officers, i.e., Cocchiola and Venechanos. The

District Court dismissed these claims on the ground that the

Officers’ underlying violations of the securities laws were

inadequately pled, and thus the control-person claims must fail,

as well. We have concluded, however, that plaintiffs did

adequately plead their Section 11, Section 12(a)(2), and Section

10(b) claims against the Officers.

Plaintiffs contend, moreover, that the District Court

misconstrued the nature of their control-person claims. They

note that their Section 15 and Section 20(a) counts were

premised upon underlying violations by Suprema itself, even

though Suprema is not named as a defendant because it is

bankrupt. Plaintiffs contend that while the Officers were alleged

to have committed primary violations in other counts of the

second amended complaints, Suprema was the alleged primary

violator for purposes of the control-person claims.
43

The record reveals that plaintiffs did expressly name the

corporation itself as the primary violator in their Section 15 and

Section 20(a) counts. Both plaintiffs also asserted that they

would have named Suprema as a defendant to the suits were it

not for its status as a bankrupt. Essentially, plaintiffs argue that

Suprema’s controlling persons should not escape liability under

Section 15 and Section 20(a) merely because Suprema’s

underlying liability cannot be formally adjudicated due to its

insolvency. We agree.

As noted, Section 15 imposes joint and several liability

for any person who controls a person liable under the Securities

Act, while Section 20(a) imposes similar control liability for an

underlying violator of the Exchange Act. With regard to Section

20(a), we have observed that “[t]he text of the statute plainly

requires the plaintiff to prove not only that one person controlled

another person, but also that the ‘controlled person’ is liable

under the Act. If no controlled person is liable, there can be no

controlling person liability.” Shapiro, 964 F.2d at 279 (citation

omitted). The same holds true for claims brought under Section

15. See, e.g., Cooperman v. Individual, Inc., 171 F.3d 43, 52

(1st Cir. 1999). Thus, establishing the liability of the controlled

person or entity is plainly an element of a claim for relief under

both Section 15 and Section 20(a).

But there is no requirement in the language of either

statute that the controlled person be named as a defendant as a

predicate to imposing liability upon the controlling individual

defendants. A plaintiff need only establish the controlled

person’s liability. See In re Hayes Lemmerz Intern., Inc., 271 F.

Supp. 2d 1007, 1022 n. 11 (E.D. Mich. 2003) (“[I]f the

complaint states a primary violation by the Company, even if the

Company is not named in the complaint as a defendant, then a §

20 claim can stand if the individuals were controlling persons.”);

In re CitiSource, Inc. Sec. Litig., 694 F. Supp. 1069, 1077

(S.D.N.Y. 1988) (holding that “liability of the primary violator is

simply an element of proof of a section 20(a) claim,” and that

“liability need not be actually visited upon the primary violator

before a controlling person may be held liable for the primary

violator’s wrong”). As one district court has cogently observed,

“it would be inconsistent with the broad remedial purposes of the
17SSF Plaintiffs also asserted Section 15 and Section 20(a)

claims against the Outside Directors. In their opening brief,

however, SSF Plaintiffs devote a mere one paragraph to their

control-person claims, and that paragraph makes no mention of the

Outside Directors per se and provides no substantive discussion of

the claims against those defendants. Although SSF Plaintiffs argue

the claim at length in their reply brief, it is well-settled in this court

that “an appellant's failure to identify or argue an issue in his

opening brief constitutes waiver of that issue on appeal.” United

States v. Pelullo, 399 F.3d 197, 222 (3d Cir. 2005). Consequently,

we deem SSF Plaintiffs’ control-person claims against the Outside

Directors waived. 

44

securities laws to permit senior executives of a bankrupt

corporation– whose actions allegedly contributed to the

bankruptcy– to avoid liability by relying on the corporation’s

bankruptcy.” Schleicher v. Wendt, No. 1:02CV1332DFHTAB,

2005 WL 1656871, at *6 (S.D. Ind. July 14, 2005).

Plaintiffs here adequately alleged primary violations of

the Securities Act and the Exchange Act by Suprema. Lead

Class Plaintiff set forth in detail the specific allegations of

Suprema’s misstatements and omissions in its Registration

Statement and Prospectus, and it expressly asserted that Suprema

should be primarily liable as a result under Section 15. Lead

Class Plaintiff also detailed the allegations of materially false

and misleading statements and omissions in SEC filings and

asserted that Suprema should be held primarily liable under

Section 20(a). SSF Plaintiffs set forth similar and equally

sufficient allegations. The complaints also detailed the manner

in which Cocchiola and Venechanos are alleged to have tightly

controlled Suprema’s business and operations and acted as

culpable participants in the fraud, as discussed in connection

with plaintiffs’ Section 10(b) claims against those defendants. 

For these reasons, we will vacate the dismissal of plaintiffs’

Section 15 and Section 20(a) claims against the Officers.17

E. Pendent State law claims

After dismissing all claims brought under federal law, the
45

District Court declined to exercise supplemental jurisdiction

under 28 U.S.C. § 1367(c)(3) over the SSF Plaintiffs’ state-law

claims based on common law fraud and negligent

misrepresentation. The District Court did not address the merits

of the state law claims. Given our conclusion that many of the

federal claims were improperly dismissed at this preliminary

stage, and that the District Court therefore retains jurisdiction

over the federal claims, we will vacate the dismissal of the statelaw claims for reconsideration by the District Court.

III.

We will affirm the District Court’s dismissal of both

plaintiffs’ Section 10(b) claims against the Outside Directors and

the Underwriters, as well as the dismissal of the Section 18

claims in their entirety. We will reverse the dismissal of

plaintiffs’ Section 11 and 12(a)(2) claims against all defendants,

the Section 10(b) claims against the Officers and BDO, the

Section 15 and 20(a) claims as to the Officers, and the dismissal

of the SSF Plaintiffs’ claims under state law. We will remand

the matter to the District Court for further proceedings on the

remaining claims in accordance with this opinion.

____________________________