Opinion ID: 1249351
Heading Depth: 2
Heading Rank: 3

Heading: ATSI's Misrepresentation Claims

Text: To state a claim under Rule 10b-5 for misrepresentations, a plaintiff must allege that the defendant (1) made misstatements or omissions of material fact, (2) with scienter, (3) in connection with the purchase or sale of securities, (4) upon which the plaintiff relied, and (5) that the plaintiff's reliance was the proximate cause of its injury. Lentell, 396 F.3d at 172. The district court properly dismissed the misrepresentations claims.
Of the misrepresentations that ATSI claims, we can quickly dispose of all except the two alleged in the transaction agreements. The Registration Rights agreement between ATSI and the Shaar Fund plainly states that the only promises, restrictions, and warranties to the transaction were those set forth in the transaction documents. Where the plaintiff is a sophisticated investor and an integrated agreement between the parties does not include the misrepresentation at issue, the plaintiff cannot establish reasonable reliance on that misrepresentation. See Emergent Capital Inv. Mgmt. v. Stonepath Group, Inc., 343 F.3d 189, 196 (2d Cir.2003); Dresner v. Utility.com, Inc., 371 F.Supp.2d 476, 491-93 (S.D.N.Y.2005). By engaging in these private placements of complex securities, ATSI is clearly a sophisticated investor. Accordingly, to the extent ATSI's causes of action are based on alleged misrepresentations made during negotiations preceding the defendants' investment, those claims are barred by the merger clauses.
The complaint alleges, on information and belief, a fraudulent misrepresentation by the Shaar Fund in promising, in the Securities Purchase Agreement, not to enter a short position prior to closing or cover a short position entered into prior to execution of the agreement using converted common stock. The complaint fails to sufficiently allege that this representation was false when made. While the failure to carry out a promise in connection with a securities transaction might constitute breach of contract, it does not constitute fraud unless, when the promise was made, the defendant secretly intended not to perform or knew that he could not perform. Gurary, 190 F.3d at 44 (internal quotation marks omitted). The speculative allegations that the Levinson Defendants and Wolfson engaged in short selling are deficient for the same reasons that they did not establish manipulation. ATSI asks us to infer that the Levinson Defendants never intended to honor this promise because they had previously engaged in death spiral financing schemes, as evidenced by the declining stock prices of unspecified companies in which they invested. These allegations fail Rule 9(b)'s requirement of stating with particularity why the statement was fraudulent and the PSLRA's requirement of stating the facts on which a belief is based. The complaint does not specify which companies experienced a decline in share price or when they experienced the decline (other than that they occurred within 1 year of an unspecified time of investment). It also fails to allege with particularity what, if anything, the defendants did to cause the decline; it simply offers a generalized allegation that the defendants engaged in death spiral financing combined with a detailed definition of how death spiral financing works. Cf. United States ex rel. Walsh v. Eastman Kodak Co., 98 F.Supp.2d 141, 147 (D.Mass.2000) (holding that fraud was not adequately pled under Rule 9(b) where the plaintiff only alleged a method by which the defendants could produce false invoices without specifying instances of false claims arising from false invoices). Holding otherwise would expose investors in start-ups and risky, distressed companies to fraud claims based solely on the (unsurprisingly) poor performance of their portfolios. See Rombach, 355 F.3d at 171. In response, ATSI argues that it adequately identified the defendants' victims by detailing how the companies could be found by searching the SEC's publicly-available Edgar database. It also contends that the defendants have personal knowledge of what investments they made and when the stock prices of those investments declined. ATSI cannot sufficiently plead fraud by simply providing a method for the defendant to discover the underlying details. If ATSI had access to the details necessary to make these allegations, it must plead them and not just tell the defendants to go find them. We also reject ATSI's argument that it adequately pled fraud by pointing to the drop in the stock prices of the defendants' other investments because that information is relevant under Fed.R.Evid. 404(b) and 406 and supports a reasonable inference of fraud. No inference of sabotage is available from the circumstance that some (or many) risky investments come to nothing. Moreover, the allegations fail to point to any specific actions by the defendants with respect to those investments and thus fail to establish that the defendants' promise was fraudulent. To the extent the Southern District of New York's decision in Internet Law Library, 223 F.Supp.2d 474, is to the contrary, we reject it.
ATSI also claims that the representation in the Securities Purchase Agreement that the Shaar Fund was an accredited investor was fraudulent. The complaint does not sufficiently allege loss causation with respect to this misrepresentation. A plaintiff is required to prove both transaction causation (also known as reliance) and loss causation. Lentell, 396 F.3d at 172; see also 15 U.S.C. § 78u-4(b)(4). Transaction causation only requires allegations that but for the claimed misrepresentations or omissions, the plaintiff would not have entered into the detrimental securities transaction. Lentell, 396 F.3d at 172 (quoting Emergent Capital, 343 F.3d at 197). Loss causation, by contrast, is the proximate causal link between the alleged misconduct and the plaintiff's economic harm. See Dura Pharm., Inc. v. Broudo, 544 U.S. 336, 346, 125 S.Ct. 1627, 161 L.Ed.2d 577 (2005); Lentell, 396 F.3d at 172. To that end, the plaintiff's complaint must plead that the loss was foreseeable and caused by the materialization of the risk concealed by the fraudulent statement. See Lentell, 396 F.3d at 173. The complaint alleges losses (1) through the tremendous decline in ATSI's share price, impairing its access to capital and its viability as a business; and (2) by ATSI's sale of its own stock at depressed prices. It fails, however, to establish any causal connection between those losses and the misrepresentation that the Shaar Fund was an accredited investor. In what appears to be an attempt to meet Lentell 's requirements, ATSI contends that it adequately pled loss causation because the Levinson Defendants made this misrepresentation to induce ATSI to enter into the transaction under the pretense that they were trustworthy, reputable and long-term investor[s], and that when the true risk of their plans materialized through their manipulative acts, ATSI suffered losses. This allegation might support transaction causation; it fails, however, to show how the fact that the Shaar Fund was not an accredited investor caused any loss. See id. at 174 (Such an allegation  which is nothing more than a paraphrased allegation of transaction causation  explains why a particular investment was made, but does not speak to the relationship between the fraud and the loss of the investment. (internal quotation marks omitted)). ATSI is wrong in claiming that these allegations are sufficient to establish loss causation under our decision in Weiss v. Wittcoff, 966 F.2d 109 (2d Cir.1992) (per curiam). In Weiss, the plaintiff agreed to merge his business with the defendant's on the latter's representation that his other company would supply goods and services. Id. at 110. When the defendant sold his other company a year after the transaction, id. at 110, 112, the plaintiff's business suffered subsequent losses from higher costs, id. at 110-11. We held that the complaint adequately pled loss causation because the plaintiff's losses were clearly a proximate result of his reliance on defendants' promises, since defendants' failure to fulfill those promises foreseeably caused [the business's] financial condition to deteriorate. Id. at 111. Weiss is easily distinguishable. There, the complaint established a causal connection between (1) the promise to provide for the business's needs and (2) the business's increased costs when the promise turned out to be false. See id. ATSI, by contrast, fails to show that the subject of the fraudulent statement proximately caused any loss. See Lentell, 396 F.3d at 173 (Thus to establish loss causation, `a plaintiff must allege . . . that the subject of the fraudulent statement or omission was the cause of the actual loss suffered. . . .' (alteration in original)).
The misrepresentations attributed to Rose Glen suffer from largely the same defects as those against the Levinson Defendants. ATSI cannot claim reliance on Rose Glen's pre-contractual, verbal representations because of the merger clause in the Registration Rights Agreement. The only representation in the Securities Purchase Agreement that merits discussion is the one in which Rose Glen represented that it was purchasing the Preferred Stock: for its own account and not with a present view towards the public sale or distribution thereof except pursuant to sales registered or exempted from registration under the 1933 Act; provided, however that by making the representation herein, the Buyer does not agree to hold any of the Securities for any minimum or other specific term and reserves the right to dispose of the Securities at any time in accordance with or pursuant to a registration statement or an exemption under the 1933 Act. In addition to failing to plead falsity under Gurary, ATSI's complaint fails to plead that Rose Glen even broke this promise, much less that it secretly intended to break it. ATSI also alleges that Rose Glen engaged in a bait-and-switch scheme by first promising in its draft term sheet to invest $10 million, then offering only $2.5 million at closing. The district court properly dismissed this claim. First, it is time-barred. Prior to the passage of the Sarbanes-Oxley Act of 2002, Pub.L. No. 107-204, 116 Stat. 745 (2002), the statute of limitations required that a Rule 10b-5 claim be brought within one year of discovery of the facts constituting the violation and within three years of the violation. Lampf, Pleva, Lipkind, Prupis & Petigrow v. Gilbertson, 501 U.S. 350, 364 (1991). ATSI learned of the alleged falsity of this representation when it signed the closing documents on October 16, 2000, but did not commence its action against Rose Glen until October 31, 2002  more than two years later. See LC Capital Partners, LP v. Frontier Ins. Group, Inc., 318 F.3d 148, 154 (2d Cir.2003) (stating that the limitations period begins to run, inter alia, after the plaintiff receives actual knowledge of the facts giving rise to the action). Second, ATSI has not pled falsity or reliance because the term sheet expressly stated that Rose Glen's obligation to fund is subject to satisfactory due diligence, in RGC's sole discretion.
ATSI claims that CCM made misrepresentations very similar to those alleged against Rose Glen. Largely for the same reasons as above, the district court properly dismissed those claims.