Opinion ID: 769157
Heading Depth: 3
Heading Rank: 3

Heading: Particularity of the Facts Pleaded

Text: 64 The district court also found the facts pleaded by the plaintiffs insufficiently particularized, in large part because they did not reveal the identity of the personal sources of their critical factual allegations. We disagree with the district court's reasoning and accordingly vacate and remand for further proceedings consistent with the discussion that follows. 65 As discussed above, Rule 9(b) has long required plaintiffs in securities fraud cases to state the circumstances constituting fraud . . . with particularity. The PSLRA imposed an additional requirement: whenever plaintiffs allege, on information and belief, that defendants made material misstatements or omissions, the complaint must state with particularity all facts on which that belief is formed. 15 U.S.C. § 78u-4(b)(1). This requirement plainly applies in this case. In numerous places in their complaint, the plaintiffs allege, based on information and belief, that the AnnTaylor defendants made materially misleading statements or omissions. Most importantly, they allege that the defendants made false statements concerning the value of inventory because Box and Hold merchandise was unsalable, obsolete, and nearly worthless, and its actual value was nearly zero. In order to survive at this stage, the complaint must state with particularity sufficient facts to support the belief that the Box and Hold inventory was of limited value, and accordingly that the defendants' positive public statements concerning inventory growth were false and misleading. 66 The district court concluded that the plaintiffs had failed to meet these particularity requirements, in substantial part because they failed to reveal their confidential sources for some of the facts on which their belief in the essential worthlessness of the Box and Hold inventory was based. See Novak I, 997 F. Supp. at 431-32; Novak II, 26 F. Supp. 2d at 660-61. The lower court found the plaintiffs' allegations in this respect at worst conclusory, unsupported and inflammatory, and at best based upon reports by . . . anonymous 'former employees' who should have been identified by name. Novak II, 26 F. Supp. 2d at 661. The district court's reasoning and conclusions were flawed in several respects. 67 For one thing, the complaint provides specific facts concerning the Company's significant write-off of inventory directly following the Class Period, which tends to support the plaintiffs' contention that inventory was seriously overvalued at the time the purportedly misleading statements were made. Specifically, the plaintiffs allege that: (1) in AnnTaylor's May 1995 reporting of its first quarter fiscal 1995 results, the company admitted to analysts that its inventories were too high and that inventory liquidation would follow; (2) in AnnTaylor's July 29, 1995 10-Q filed with the SEC, it admitted that the decrease in the Company's gross profit percentage was attributable to 'increased cost of goods sold as a percentage of net sales, primarily resulting from markdowns'; and (3) a January 22, 1996 Weekly Report showing that even six months after the Class Period, substantial amounts of Box and Hold inventory still dated from 1993 and 1994, which supports the inference that inventory during the Class Period was similarly dated. Thus, the complaint identifies with particularity several documentary sources that support the plaintiffs' belief that serious inventory problems existed during the Class Period itself. 68 We recognize that the complaint does not state with particularity every fact upon which this belief was based, since it is apparent that there were also personal sources who were not specifically identified. However, plaintiffs who rely on confidential sources are not always required to name those sources, even when they make allegations on information and belief concerning false or misleading statements, as here. 69 First, there is nothing in the caselaw of this circuit that requires plaintiffs to reveal confidential sources at the pleading stage. The defendants rely heavily on Segan v. Dreyfus Corp., 513 F.2d 695 (2d Cir. 1975), in which we held that a plaintiff's complaint was insufficiently specific and rejected the argument that further disclosure would, among other things, identify a confidential informant. See id. at 696. But in Dreyfus, we held only that the plaintiff had to plead additional facts, not that the plaintiff was required to reveal the name of the informant. See id. (A suit charging fraud may not be based on facts so secret that the defendants cannot be told what they are.) (emphasis added). Some district courts in this circuit have on occasion stated that Rule 9(b) requires plaintiffs in securities fraud cases to allege the sources that support the alleged specific facts, e.g., Blanchard v. Katz, 705 F. Supp. 1011, 1012 (S.D.N.Y. 1989); Crystal v. Foy, 562 F. Supp. 422, 425 (S.D.N.Y. 1983), but in no case have they dismissed a complaint for failure to identify confidential sources. 70 Second, while paragraph (b)(1) may compel revelation of confidential sources under certain circumstances, such circumstances are not necessarily present in this case. The defendants point to district court decisions outside this circuit that hold or imply that the PSLRA generally requires plaintiffs to include the names of their confidential sources. See In re Silicon Graphics Inc. Sec. Litig., 970 F. Supp. 746, 763 (N.D. Cal. 1997); In re Aetna Inc. Sec. Litig., No. CIV. A. MDL 1219, 1999 WL 354527, at  (E.D. Pa. May 26, 1999). However, this rule is based on a misreading of the legislative history of the PSLRA. Specifically, the court in Silicon Graphics relied primarily on the hyperbolic statements of legislators attempting (unsuccessfully) to amend the proposed Act to lighten plaintiffs' pleading burden. See Silicon Graphics, 970 F. Supp. at 763-64. In fact, the applicable provision of the law as ultimately enacted require plaintiffs to plead only facts and make no mention of the sources of these facts. See 15 U.S.C. § 78u-4(b)(1). 71 More fundamentally, our reading of the PSLRA rejects any notion that confidential sources must be named as a general matter. In our view, notwithstanding the use of the word all, paragraph (b)(1) does not require that plaintiffs plead with particularity every single fact upon which their beliefs concerning false or misleading statements are based. Rather, plaintiffs need only plead with particularity sufficient facts to support those beliefs. 1 Accordingly, where plaintiffs rely on confidential personal sources but also on other facts, they need not name their sources as long as the latter facts provide an adequate basis for believing that the defendants' statements were false. Moreover, even if personal sources must be identified, there is no requirement that they be named, provided they are described in the complaint with sufficient particularity to support the probability that a person in the position occupied by the source would possess the information alleged. In both of these situations, the plaintiffs will have pleaded enough facts to support their belief, even though some arguably relevant facts have been left out. Accordingly, a complaint can meet the new pleading requirement imposed by paragraph (b)(1) by providing documentary evidence and/or a sufficient general description of the personal sources of the plaintiffs' beliefs. 72 Thus, we find no requirement in existing law that, in the ordinary course, complaints in securities fraud cases must name confidential sources, and we see no reason to impose such a requirement under the circumstances of this case. The primary purpose of Rule 9(b) is to afford defendant fair notice of the plaintiff's claim and the factual ground upon which it is based. Ross v. Bolton, 904 F.2d 819, 823 (2d Cir. 1990). This purpose, which also underlies paragraph (b)(1), can be served without requiring plaintiffs to name their confidential sources as long as they supply sufficient specific facts to support their allegations. Imposing a general requirement of disclosure of confidential sources serves no legitimate pleading purpose while it could deter informants from providing critical information to investigators in meritorious cases or invite retaliation against them. 73 We express no view as to whether the plaintiffs' allegations in this case were sufficiently particularized. Instead, we remand to the district court with instructions to: (1) allow the plaintiffs to replead in light of our discussion above; and (2) reconsider the particularity of the plaintiffs' pleadings in light of the proper standards.