Opinion ID: 216493
Heading Depth: 1
Heading Rank: 4

Heading: Application of Underwriter Definition to Defendants' Alleged Conduct

Text: With this understanding of the scope of § 11 liability, we consider plaintiffs' challenge to the dismissal of their complaints against the Rating Agencies. As an initial matter, we reject as meritless Wyoming's contention that the district court ignored the statute's participation clause in holding that the Rating Agencies did not purchase the securities . . . from the issuer with a view to their resale. Wyoming Br. at 20 (internal quotation marks omitted). Wyoming misquotes the district court's opinion, which noted plaintiffs' reliance on the participation language in identifying nothing . . . to suggest that [defendants] participated in the relevant `undertaking' that of purchasing the securities for resale. In re Lehman Bros. Sec. & Erisa Litig., 681 F.Supp.2d at 499 (emphasis added). We are similarly unpersuaded by Vaszurele's argument that the district court erroneously limited its analysis to whether defendants participated in purchasing securities for resale without considering if they participated in offering or selling securities for the issuers. Even if that had been the case, it affords plaintiffs no relief. On appeal, we may affirm a decision on any grounds supported in the record. 10 Ellicott Square Court Corp. v. Mountain Valley Indem. Co., 634 F.3d 112, 125 (2d Cir.2011). Applying the underwriter definition on de novo review, we conclude that plaintiffs failed to allege facts sufficient to state a plausible § 11 claim against the Rating Agency defendants. The complaints contain extensive descriptions of the Rating Agencies' activities in structuring the certificate transactions, dictating the kinds and quantity of loans or credit enhancements needed for desired ratings, and providing modeling tools to traders to pre-structure loan pools. Plaintiffs submit that these allegations demonstrate that the Rating Agencies played a necessary role in the securities' distribution because (1) their ratings translated opaque financial products into understandable risk levels, (2) institutional investors were required to buy investment-grade securities, and (3) offerings were conditioned on senior tranches receiving AAA ratings. We disagree. Like all of the district courts to have considered similar claims, we conclude that structuring or creating securities does not constitute the requisite participation in underwriting. See, e.g., New Jersey Carpenters Health Fund v. NovaStar Mortg., Inc., No. 08 Civ. 5310, 2011 WL 1338195, at -9 (S.D.N.Y. Mar. 31, 2011); Public Emps.' Ret. Sys. of Miss. v. Goldman Sachs Grp., Inc., No. 09 CV 1110, 2011 WL 135821, at  (S.D.N.Y. Jan. 12, 2011); Public Emps.' Ret. Sys. of Miss. v. Merrill Lynch & Co., 714 F.Supp.2d 475, 481-83 (S.D.N.Y.2010); In re Wells Fargo Mortg.-Backed Certificates Litig., 712 F.Supp.2d 958, 968-69 (N.D.Cal.2010); New Jersey Carpenters Vacation Fund v. Royal Bank of Scot. Grp., PLC, 720 F.Supp.2d at 262-64; In re Lehman Bros. Sec. & Erisa Litig., 681 F.Supp.2d at 497-99. As the district court in this case explained, even assuming, as we must, that the Rating Agencies had a good deal to do with the composition and characteristics of the pools of mortgage loans and the credit enhancements of the [c]ertificates that ultimately were sold, plaintiffs failed to allege that defendants participated in the relevant undertaking: that of purchasing securities from the issuer with a view towards distribution, or selling or offering securities for the issuer in connection with a distribution. In re Lehman Bros. Sec. & Erisa Litig., 681 F.Supp.2d at 499; see also In re Wells Fargo Mortg.-Backed Certificates Litig., 712 F.Supp.2d at 968-69 (dismissing § 11 claims when plaintiffs failed to allege rating agencies undertook activities related to the [securities'] distribution or sale); New Jersey Carpenters Vacation Fund v. Royal Bank of Scot. Grp., PLC, 720 F.Supp.2d at 263-64 (concluding that playing significant role in the creation of certificates does not constitute requisite participat[ion] in the sale or distribution of securities). The Rating Agencies' efforts in creating and structuring certificates occurred during the initial stages of securitization, not during efforts to disperse certificates to investors. See New Jersey Carpenters Vacation Fund v. Royal Bank of Scot. Grp., PLC, 720 F.Supp.2d at 263-64 (noting that certificate creation occurred during securitization process rather than during marketing, distribution, or sale (internal quotation marks omitted)). The fact that the market needed ratings to understand structured financial products or that particular ratings were essential to the certificates' eventual sale does not change the analysis. While it is certainly true that some investors will refrain from buying securities that do not bear a AAA rating, and that some banks will decline to assume the risk of pursuing a public offering unless a security receives a high credit rating, plaintiffs, once again, fail to demonstrate that the Rating Agencies were involved in a statutorily listed distributional activity. The rating issued by a Rating Agency speaks merely to the Agency's opinion of the creditworthiness of a particular security. In other words, it is the sort of expert opinion classically evaluated under the expert provision of § 11, not under the underwriter provision. See 15 U.S.C. § 77k(a)(4) (providing for expert liability against accountant[s], engineer[s], or appraiser[s], or any person whose profession gives authority to a statement made by him, who has with his consent been named as having prepared or certified any part of the registration statement.); see also id. § 77g(a) (providing requirements by which consent must be established for purposes of § 77k(a)(4)). [11] Indeed, each offering document explained that the assigned credit rating was not a recommendation to buy, sell or hold securities and may be subject to revision or withdrawal at any time. See, e.g., Defs.' Br. at 7. Furthermore, expanding § 11 to cover the conduct of the Rating Agencies would contradict that section's specific enumeration of liable parties, which does not include a number of persons necessary to the creation of securities, such as banks that originated the underlying loans, traders who structured the transactions, or experts who did not consent to being named. See 15 U.S.C. § 77k(a); Public Emps.' Ret. Sys. of Miss. v. Merrill Lynch & Co., 714 F.Supp.2d at 482 (dismissing § 11 underwriter claim against sponsoring entities that originated or acquired underlying loans); In re Refco, Inc. Sec. Litig., 2008 WL 3843343, at -5 & n. 5 (dismissing § 11 claim involving attorneys who allegedly helped draft documents, noting that such claims are usually analyzed under expert liability prong). [12] Because plaintiffs' theory would render these narrowly drawn categories meaningless and contradict well-settled canons of statutory construction, see, e.g., Corley v. United States, 556 U.S. 303, 129 S.Ct. 1558, 1566, 173 L.Ed.2d 443 (2009) (noting that statute should be construed so that effect is given to all its provisions, so that no part will be inoperative or superfluous, void or insignificant (internal quotation marks omitted)); Weinstein v. Islamic Republic of Iran, 609 F.3d 43, 49 (2d Cir.2010), we decline to adopt it. Rather, we conclude that the mere structuring or creation of securities does not constitute participation in statutory underwriting. For the same reason, we reject Wyoming's claim that the Rating Agencies' alleged review of and comments on draft prospectus supplements incorporated into the registration statements stated a § 11 claim. Similarly, we reject the Union Plaintiffs' conclusory pleading that S & P and Moody's are liable under § 11 for their alleged participation in drafting and disseminating offering documents. As discussed, § 11 imposes strict liability only on enumerated parties, excluding certain individuals who play a part in preparing the registration statement, such as corporate officers other than those specified and experts not named as having prepared or certified any part of the registration statement. Herman & MacLean v. Huddleston, 459 U.S. at 386 n. 22, 103 S.Ct. 683; see also In re Refco, Inc. Sec. Litig., 2008 WL 3843343, at . Holding the myriad of participants in the drafting process strictly liable would eviscerate the specific categories of individuals defined in § 11 as the proponents of the [registration] statement, making anyone who commented on a draft statement, however innocently, a guarantor of every assertion therein. In re Refco, Inc. Sec. Litig., 2008 WL 3843343, at . Accordingly, we conclude that merely commenting on draft offering documents does not constitute the requisite participation in underwriting. Contrary to plaintiffs' assertion, this conclusion will not absolve rating agencies of all liability for their roles in fraudulent securities offerings. As plaintiffs acknowledged at oral argument, they may bring securities fraud claims against the Rating Agencies pursuant to § 10(b) of the Securities Exchange Act of 1934 (1934 Act), although liability under that section is, of course, subject to scienter, reliance, and loss causation requirements not applicable to § 11 claims. See Herman & MacLean v. Huddleston, 459 U.S. at 382, 103 S.Ct. 683 (noting catch-all § 10(b) provision can be brought against any person using deception in connection with securities sale (internal quotation marks and emphasis omitted)). It is precisely because § 11 give[s] rise to liability more readily, however, that it is applies more narrowly than § 10(b). In re Morgan Stanley Info. Fund Sec. Litig., 592 F.3d at 359-60. In sum, because plaintiffs failed to plead facts sufficient to bring the Rating Agencies within the statutory definition of underwriter, their § 11 claims against these defendants were properly dismissed.
The Union Plaintiffs and Wyoming also appeal the district court's dismissal of their § 15 control person claims against the Rating Agencies. Section 15 imposes joint and several liability on [e]very person who, by or through stock ownership, agency, or otherwise . . . controls any person liable under § 11. 15 U.S.C. § 77 o (a). [13] To establish § 15 liability, a plaintiff must show a primary violation of § 11 and control of the primary violator by defendants. ECA & Local 134 IBEW Joint Pension Trust v. JP Morgan Chase Co., 553 F.3d 187, 206-07 (2d Cir.2009); see also In re Morgan Stanley Info. Fund Sec. Litig., 592 F.3d at 358. Because it is undisputed that plaintiffs adequately pleaded primary § 11 violations by the certificates' issuers or depositors, the only question on appeal is whether the facts alleged permit an inference that the Rating Agencies controlled the primary violators. Although our Court has not yet discussed control for § 15 purposes, in the context of claims under § 20(a) of the 1934 Act against persons controlling primary § 10(b) violators, we have defined control as `the power to direct or cause the direction of the management and policies of [the primary violators], whether through the ownership of voting securities, by contract, or otherwise.' SEC v. First Jersey Sec., Inc., 101 F.3d 1450, 1472-73 (2d Cir.1996) (quoting 17 C.F.R. § 240.12b-2). Because § 15 and § 20(a) are roughly parallel control person provisions under the 1933 and 1934 Acts, respectively, we here adopt the quoted First Jersey definition of control for § 15 claims. See 15 U.S.C. § 77 o (a) (imposing liability on persons who control[ ] any person liable under §§ 11 or 12); id. § 78t (imposing liability on persons who control[ ] any person liable under § 10(b)); In re Refco, Inc. Sec. Litig., 503 F.Supp.2d 611, 660 (S.D.N.Y.2007) (noting that § 20(a) and § 15 are parallel provisions). The parties dispute whether we should further adopt the requirement that § 20 plaintiffs demonstrate culpable participation by the alleged controlling person for purposes of § 15. See SEC v. First Jersey Sec., Inc., 101 F.3d at 1472 (requiring § 20 plaintiff to show that controlling person was in some meaningful sense a culpable participant in the fraud perpetrated by the controlled person (internal quotation marks and brackets omitted)). That issue has divided district courts in this Circuit. Compare P. Stolz Family P'ship, L.P. v. Daum, 166 F.Supp.2d 871, 873 (S.D.N.Y.2001) (requiring culpable participation), reversed in part on other grounds by 355 F.3d 92 (2d Cir.2004), with In re Refco, Inc. Sec. Litig., 503 F.Supp.2d at 660-61 & n. 43 (noting that despite similarity between § 15 and § 20(a), culpable participation requirement applies only to § 20(a) because § 20(a) excepts from liability those acting in good faith  who did not directly or indirectly induce violation (emphasis in original)); In re CINAR Corp. Sec. Litig., 186 F.Supp.2d 279, 309-10 (E.D.N.Y.2002) (declining to require culpable participation because § 11, unlike § 10(b), does not contain an intent element). We need not decide here whether culpable participation is a necessary element for § 15 liability because plaintiffs' § 15 claims fail in any event for inadequate pleading of the undisputed element of control. Plaintiffs contend that the district court erroneously applied a heightened pleading standard by requiring their complaints to support an inference that the decision making power lay entirely with the Rating Agencies. In re Lehman Bros. Sec. & Erisa Litig., 681 F.Supp.2d at 501 (emphasis added). Unlike plaintiffs, we do not understand the district court's passing reference to entire control to require a pleading that defendants controlled the primary violators to the exclusion of all others. The district court correctly observed that § 15 imposes liability on ` [e]very person' who controls a primary violator. Id. at 500 (quoting 15 U.S.C. § 77o) (emphasis added). Moreover, the district court analyzed explicitly whether plaintiffs pleaded allegations . . . sufficient to justify a conclusion that the Rating Agencies controlled others who violated [§ 11]. Id. In any event, after de novo review we conclude that plaintiffs' allegations are insufficient. Wyoming alleges that defendants actively collaborated with the depositors in creating the transactions by providing direct input, advisory opinions, and guidance on which loans or structures would achieve desired ratings. Wyoming Compl. ¶¶ 47-49, 64, 89, 97. [14] The Union Plaintiffs similarly allege that the Rating Agencies influenced the primary violators by providing advice and feedback on appropriate loan prices and structures, thereby largely determin[ing] the amount and kind of credit enhancement that would result in specific ratings. Union Compl. ¶¶ 173-75, 178. At most, these allegations suggest that the Rating Agencies provided advice and strategic direction, Wyoming Br. at 32, on how to structure transactions to achieve particular ratings. Such purported involvement in transaction-level decisions falls far short of showing a power to direct the primary violators' management and policies. SEC v. First Jersey Sec., Inc., 101 F.3d at 1472-73 (emphasis added); see Boilermakers Nat'l Annuity Trust Fund v. WaMu Mortg. Pass Through Certificates, Series AR1, 748 F.Supp.2d 1246, 1260 (W.D.Wash.2010) (dismissing control person claims because allegations that rating agencies determined the structure and credit support of transactions simply d[id] not implicate [violator's] management or policies (internal quotation marks omitted)); In re Wells Fargo Mortg.-Backed Certificates Litig., 712 F.Supp.2d at 970 (dismissing control person claims because allegations of rating agencies' influence over transactions failed to show direction of violators' management or policies). Moreover, allegations of advice, feedback, and guidance fail to raise a reasonable inference that the Rating Agencies had the power to direct, rather than merely inform, the banks' ultimate structuring decisions. Put another way, providing advice that the banks chose to follow does not suggest control. See Harrison v. Dean Witter Reynolds, Inc., 974 F.2d 873, 877 (7th Cir.1992) ([T]he ability to persuade and give counsel is not the same thing as `control' . . . . (internal quotation marks omitted)); New Jersey Carpenters Health Fund v. Residential Capital, LLC, No. 08 CV 8781, 2010 WL 1257528, at  (S.D.N.Y. Mar. 31, 2010) (dismissing control person claim against underwriters because ability to persuade issuers insufficient). [15] Indeed, plaintiffs' ratings shopping allegations undermine their control theory. Specifically, plaintiffs allege that the banks wielded incredible leverage over, Wyoming Compl. ¶ 195, and pressured the Rating Agencies, Union Compl. ¶ 168, by awarding business to the agency providing the highest percentage of AAA ratings with the lowest levels of credit enhancement. Such allegations might suggest that the primary violators had power over the Rating Agencies ' policies by engendering a race to the bottom in terms of rating quality. Wyoming Compl. ¶ 170. But they do not support any inference that the Rating Agencies had the power to direct the primary violators' policies. Nor are we persuaded by the Union Plaintiffs' argument that they adequately alleged control by stating that SASCo was a dummy corporation with the sole purpose of securitizing transactions. The complaint does not, in fact, allege that SASCo was a dummy corporation, see Manning v. Utils. Mut. Ins. Co., 254 F.3d 387, 401 (2d Cir.2001) (noting that allegations must be contained in complaint to defeat motion to dismiss), nor does it plead facts suggesting that SASCo was a shell company created to avoid liability for securities law violations, cf. In re Refco, Inc. Sec. Litig., 503 F.Supp.2d at 661 (concluding defendants could be liable when they allegedly controlled entities exercising power over shell entities). In any event, the complaint alleges that Lehman wholly owned SASCo and controlled every aspect of the securitization, without alleging that the Rating Agencies created SASCo or directed its management or policies. Union Compl. ¶ 6. Such allegations do not raise a reasonable inference that the Rating Agencies controlled SASCo. Accordingly, we affirm the district court's dismissal of the control person claims.
All plaintiffs charge the district court with error in denying leave to amend. We review such a denial only for abuse of discretion, see Chavis v. Chappius, 618 F.3d 162, 167 (2d Cir.2010); Sims v. Blot (In re Sims), 534 F.3d 117, 132 (2d Cir.2008) (describing abuse of discretion standard), which we do not identify here. In their briefs in opposition to the motions to dismiss, plaintiffs requested leave to amend without specifying what additional facts, if any, they might assert in a new pleading. As we have previously ruled, [i]t is within the [district] court's discretion to deny leave to amend implicitly by not addressing requests for amendment made informally in a brief filed in opposition to a motion to dismiss. Joblove v. Barr Labs. Inc. (In re Tamoxifen Citrate Antitrust Litig.), 466 F.3d 187, 220 (2d Cir.2006); see also Litwin v. Blackstone Grp., L.P., 634 F.3d 706, 723 (2d Cir.2011). Where, as here, the district court did not specify in its decisions that it dismissed the complaints with prejudice, and plaintiffs thereafter failed to make formal motions to amend or to offer proposed amended complaints, we identify no abuse of discretion in the district court's implicit denial of plaintiffs' cursory requests for leave to amend. In any event, a denial of leave to amend is not an abuse of discretion if amendment would be futile. See In re Tamoxifen Citrate Antitrust Litig., 466 F.3d at 220. While plaintiffs' conclusorily assert on appeal that recent government investigations provide new information about the Rating Agencies' role in the transactions, they fail to identify new facts that might redress the complaints' noted deficiencies. Accordingly, we reject as without merit plaintiffs' challenge to the denial of leave to amend.