Belizan v. Hershon

United States Court of Appeals
FOR THE DISTRICT OF COLUMBIA CIRCUIT

Argued March 8, 2007 Decided July 27, 2007

No. 06-7104

MONICA BELIZAN,
AND ALL OTHERS SIMILARLY SITUATED AND
WILLIAM PRATHER, DR., AS TRUSTEE FOR THE AVON
MEDICAL GROUP PC EMPLOYEES PROFIT SHARING PLAN &
TRUST, AND AS TRUSTEE FOR THE JUDITH ANN PRATHER
REVOCABLE TRUST,
APPELLANTS

v.

SIMON HERSHON, ET AL.,
APPELLEES

Appeal from the United States District Court
for the District of Columbia
(No. 02cv01490)

Donald J. Enright argued the cause for appellants. With
him on the briefs were Burton H. Finkelstein, Tracy D. Rezvani,
and Benjamin J. Weir.

Michael L. Martinez argued the cause and filed the brief for
appellee Radin Glass & Co, LLP.

Alexander Maltas, David M. Brodsky, Jeff G. Hammel, and
 2

Donna G. Patel were on the brief for appellee CIBC World
Markets Corporation. DeMaurice F. Smith entered an
appearance.

Before: GINSBURG, Chief Judge, and GARLAND and
BROWN, Circuit Judges.

Opinion for the court filed by Chief Judge GINSBURG.

GINSBURG, Chief Judge: An uncertified class of plaintiffs
appeals an order of the district court dismissing with prejudice
their claims against Radin Glass & Co. and CIBC World
Markets Corp. under §§ 11 and 12(a)(2) of the Securities Act of
1933 and under § 10(b) of the Securities Exchange Act of 1934.
On the plaintiffs’ previous appeal we remanded the case for the
district court “to enter a new order either dismissing without
prejudice or explaining its dismissal with prejudice in a manner
consistent with [our] opinion.” Belizan v. Hershon, 434 F.3d
579, 584 (D.C. Cir. 2006) (Belizan II). On remand, the district
court once again dismissed all the plaintiffs’ claims with
prejudice. In re Interbank Funding Corp. Sec. Litig., 432
F. Supp. 2d 51, 57 (D.D.C. 2006) (Belizan III).

We hold the district court did not abuse its discretion by
dismissing the plaintiffs’ § 11 claim with prejudice because their
two unsuccessful attempts to replead the claim adequately
demonstrated, as the district court found, that they could not
plead additional facts consistent with, but sufficient to cure the
deficiency in, their original pleadings. The district court did not,
however, adequately explain why the plaintiffs’ attempt in their
Pre-Appeal Draft Complaint, submitted with a motion to
reconsider the first dismissal of their complaint, was inadequate
to demonstrate they could cure the deficiencies in pleading their
§§ 10(b) and 12(a)(2) claims. Accordingly, we vacate the order
in part and again remand the question of prejudice for
 3

clarification with respect to those two claims.

I. Background

The plaintiffs allege they purchased debt securities from
InterBank Funding Corp. (IBF) and its subsidiaries between
1997 and 2002, including the class period of July 26, 1999 to
June 7, 2002. IBF, at least a majority of which was owned by
Simon Hershon, had formed several investment funds with the
purpose of purchasing and restructuring or rehabilitating
underperforming loans. The plaintiffs claim IBF’s funds were
actually part of a “Ponzi scheme,” wherein proceeds from
successive securities offerings were used to make interest
payments to those who had invested in prior offerings. CIBC
World Markets Corp. sold securities to the plaintiffs and Radin
Glass & Co. served as IBF’s independent auditor for IBF’s Fund
VII, now called Collateralized Finance Corporation.

The plaintiffs’ suits against Hershon, Radin, CIBC, and
others were consolidated, after which they filed a Consolidated
Amended Complaint and settled their claims against Hershon.
In the Consolidated Amended Complaint, the plaintiffs alleged
Radin and CIBC had disseminated materially false and
misleading information about IBF’s funds and engaged in a
scheme to defraud investors, in violation of § 10(b) of the ‘34
Act, 15 U.S.C. § 78j(b), and of Rule 10b-5 promulgated
thereunder, 17 C.F.R. § 240.10b-5. In addition, they claimed
Radin, by attesting that IBF’s financial statements complied
with Generally Accepted Accounting Principles (GAAP) when,
in fact, the statements were materially false or misleading, had
violated § 11 of the ‘33 Act, 15 U.S.C. § 77k. Finally, they
alleged CIBC had violated the prospectus delivery requirements
of § 12(a)(1) and (2) of the ‘33 Act, 15 U.S.C. § 77l(a)(1)-(2),
when it sold IBF’s securities to investors.
 4

Radin and CIBC each moved, pursuant to Federal Rule of
Civil Procedure 12(b)(6), to dismiss the complaint for failure to
state a claim upon which relief can be granted. After a hearing,
the district court granted the defendants’ motions to dismiss.
See In re Interbank Funding Corp. Sec. Litig., 329 F. Supp. 2d
84, 96 (D.D.C. 2004) (Belizan I). With respect to the alleged
violations of § 10(b), the court held the plaintiffs had failed
adequately to: (1) plead scienter; (2) allege their claims with the
specificity required by Federal Rule of Civil Procedure 9(b) and
the Private Securities Litigation Reform Act of 1995 (PSLRA),
104 Pub. L. No. § 101, 109 Stat. 737, 743, 15 U.S.C. § 78u-4;
and (3) plead causation. 329 F. Supp. 2d at 89-94. The district
court also held they failed properly to plead a violation of § 11;
failed to plead with specificity that their § 12(a)(1) was timely;
and lacked standing to bring the § 12(a)(2) claim. Id. at 94-96.

The district court also held the plaintiffs would not be
allowed to amend their complaint, which it dismissed “with
prejudice.” Id. at 96. The court explained that counsel’s
references at the hearing to the possibility of amending the
complaint did not “amount to formal motions for leave to
amend” and that even if they did, the PSLRA “counsel[s]
restraint in granting leave to amend.” Id. As for the dismissal
being with prejudice, the court cited In re Champion Enterprises
Inc. Securities Litigation, 145 F. Supp. 2d 871, 873 (E.D. Mich.
2001), for the proposition the PSLRA “set[s] a high standard of
pleading which if not met results in a mandatory dismissal ....
with prejudice.” Id.

The plaintiffs filed a motion under Federal Rule of Civil
Procedure 59(e) seeking reconsideration insofar as the court had
not permitted them leave to amend the complaint and dismissed
their claims with prejudice. With their motion, they submitted
the Pre-Appeal Draft Complaint. The district court denied
reconsideration and stated that the plaintiffs’ revised complaint
 5

“share[d] important failings with [their] earlier effort.”

On the plaintiffs’ first appeal, we held the district court did
not err in determining counsel’s oral reference to the possibility
of amending the Consolidated Amended Complaint was not a
proper motion for leave to amend. Belizan II, 434 F.3d at 582-
83. We vacated the order of dismissal with prejudice, however,
and remanded the case for the district court “to exercise its
discretion under Firestone,” which required the court to
“determine whether the allegation of other facts consistent with
the challenged pleading could not possibly meet the heightened
pleading requirements of the PSLRA.” Id. at 584 (citing
Firestone v. Firestone, 76 F.3d 1205, 1209 (D.C. Cir. 1996)).

On remand, the district court once again dismissed the
plaintiffs’ claims with prejudice, holding they “could not
possibly have alleged other facts consistent with the challenged
complaint sufficient to make out a proper cause of action against
CIBC or Radin.” Belizan III, 432 F. Supp. 2d at 57. The district
court also denied as moot the plaintiffs’ post-remand motion to
amend, to which their Post-Remand Draft Complaint was
attached. Id.

II. Analysis

The parties dispute whether the district court abused its
discretion when it denied their post-remand motion to amend
and looked to the Pre-Appeal Draft Complaint but not the Post-
Remand Draft Complaint and, if not, then whether the new
allegations in the Pre-Appeal Draft Complaint indicated the
plaintiffs possibly could have cured the deficiencies of their
Consolidated Amended Complaint.
 6

A. Post-Remand Motion to Amend and Draft Complaint

Invoking the policy of Federal Rule of Civil Procedure
15(a) that leave to amend is liberally to be granted, the plaintiffs
argue that the district court abused its discretion (1) in denying
their post-remand motion for leave to amend their complaint and
(2) in determining whether to dismiss their claims with prejudice
by looking solely to the Pre-Appeal Draft Complaint, rather than
evaluating their Post-Remand Draft Complaint. CIBC and
Radin argue the district court correctly denied the plaintiffs’
post-remand motion to amend and ignored the allegations in the
Post-Remand Draft Complaint because the district court “has no
power or authority to deviate from [this court’s] mandate,”
Indep. Petroleum Ass’n of Am. v. Babbitt, 235 F.3d 588, 596
(D.C. Cir. 2001), which instructed the district court to “enter a
new order either dismissing without prejudice or explaining its
dismissal with prejudice in a manner consistent with [our]
opinion,” Belizan II, 434 F.3d at 584.

In our view, it would not have been inconsistent with our
mandate for the district court to have considered the Post-
Remand Draft Complaint in order to determine whether the
plaintiffs could cure the deficiencies of their previous efforts,
nor would the court have erred in granting the plaintiffs’ post-
remand motion to amend. Nothing in the mandate required the
court to do so, however, and the court certainly did not abuse its
discretion by looking solely at the record as it stood before the
first appeal or by denying the post-remand motion to amend. Cf.
Doe v. McMillan, 566 F.2d 713, 720 (D.C. Cir. 1977) (“When
a plaintiff seeks to file an amended complaint this tardily [on
remand to district court], it is within the sound discretion of the
district court, in consideration of the potential prejudice to the
other party and the interest in eventual resolution of litigation,
to deny leave to amend”).
 7

B. Section 10

Section 10(b) of the ‘34 Act makes it unlawful “to use or
employ, in connection with the purchase or sale of any security
..., any manipulative or deceptive device or contrivance.” Rule
10b-5, 17 C.F.R. § 240.10b-5, promulgated to implement
§ 10(b), makes it unlawful

(a) To employ any device, scheme, or artifice to
defraud,

(b) To make an untrue statement of a material fact or to
omit to state a material fact necessary in order to make
the statements made, in light of the circumstances
under which they were made, not misleading, or

(c) To engage in any act, practice, or course of business
which operates ... as a fraud or deceit upon any person,
in connection with the purchase or sale of any security.

The PSLRA requires a plaintiff suing for securities fraud to
state with particularity both the facts constituting the alleged
violation and facts supporting a “strong inference” concerning
the requisite scienter, 15 U.S.C. § 78u-4(b)(1)-(2), that is, the
defendant’s intention “to deceive, manipulate, or defraud.”
Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193, n.12 (1976).
On remand, the district court concluded the plaintiffs could not
possibly cure the defects in their § 10(b) claim by amendment
because in the Pre-Appeal Draft Complaint they once again
“failed to ‘state with particularity facts giving rise to a strong
inference that the defendant[s] acted with [scienter]’” when the
defendants made the allegedly false or misleading statements or
omissions. Belizan III, 432 F. Supp. 2d at 56 (citing 15 U.S.C.
§ 78u-4(b)(2)). The Supreme Court recently held that the
“strong inference” of scienter required to make out a § 10(b)
 8

claim “must be more than merely plausible or reasonable — it
must be cogent and at least as compelling as any opposing
inference of nonfraudulent intent.” Tellabs, Inc. v. Makor Issues
& Rights, Ltd., 127 S. Ct. 2499, 2504-05 (2007).

In Belizan I, the district court had dismissed the
Consolidated Amended Complaint on the ground that the
plaintiffs had not raised a strong inference of scienter by, for
example, alleging a defendant had “‘failed to check information
[it] had a duty to monitor,’” 329 F. Supp. 2d at 91 (quoting
Novak v. Kasaks, 216 F.3d 300, 311 (2d Cir. 2000)), and by
“identify[ing] specific transactions that CIBC or Radin elected
not to investigate .... Nor [did] they specifically allege that
CIBC and Radin had access to particular pieces of information
that would have revealed IBF’s allegedly fraudulent and GAAP-
violating inter-fund transfers.” Id.

In their Pre-Appeal Draft Complaint, the plaintiffs
attempted, and may well have managed, to breathe life into their
§ 10(b) claim by adding new allegations that Radin and CIBC
acted recklessly. The plaintiffs had already alleged in their
Consolidated Amended Complaint:

CIBC ... informed potential and actual purchasers of
IBF securities ... [that CIBC] had conducted extensive
investigations into the business, operations, business
strategy, prospects, financial condition, and accounting
and management control systems of IBF.

Consolidated Amended Compl. ¶ 96; Pre-Appeal Draft Compl.
¶ 112. This, coupled with the plaintiffs’ allegation that CIBC
became aware in January 2002 that the SEC was investigating
IBF, Consolidated Amended Compl. ¶ 31; Pre-Appeal Draft
Compl. ¶ 33, appears sufficient to allege that CIBC knew or
should have known of any misleading disclosure made as of that
 9

time.

In the Pre-Appeal Draft Complaint, the plaintiffs added the
allegation that Radin had said in each cover letter accompanying
its audit report:

In our opinion, the financial statements ... present
fairly, in all material respects, the financial position of
IBF Special Purpose Corporation VII as of December
31, 1999 and the results of its operations and its cash
flows for the period May 10, 1999 (inception) to
December 31, 1999 in conformity with the [GAAP].

¶ 73. In our view, this shows Radin had audited IBF’s Fund VII
during the class period and therefore may show it knew or
should have known of any misleading disclosure in IBF’s
financial documents regarding that fund.

The Plaintiffs also added the allegation that CIBC and
Radin knew or should have known of a specific misleading
disclosure in view of their claim to have reviewed IBF’s
financial documents. They point to an October 2001 private
placement memorandum for Fund VII that allegedly stated:

Of the loans made or acquired through June 30, 2001,
loans and participations in the amount of $37.2 million
of principal have been repaid, sold to IBF or affiliated
companies, or refinanced and $42.1 million of
principal remains outstanding under 26 commercial
loans and participations. Of the $37.2 million amount,
$14.1 million was prepaid by borrowers, $14.3 million
was purchased by affiliated funds, $2.4 million was
purchased by IBF, and the balance was refinanced.

Pre-Appeal Draft Compl. ¶¶ 69, 105. Based upon these data, the
 10

plaintiffs alleged that “over fifty percent of the repaid loans and
participations were either purchased by affiliated funds or by
IBF.”* Id. ¶ 105. Plaintiffs further alleged Radin and CIBC,
upon learning this, had a duty to investigate IBF’s practices, id.
¶¶ 77-78, 113-15, and their failure to do so was reckless, id.
¶¶ 78, 114.

These allegations are not of the kind the district court
rejected in Belizan I; they do not rely upon a bare inference that
Radin and CIBC must have known the true nature of IBF’s
financial practices. Instead, they “specifically allege that CIBC
and Radin had access to particular pieces of information that
would have revealed IBF’s allegedly fraudulent and GAAP-
violating inter-fund transfers,” which the district court suggested
in Belizan I would be sufficient. See 329 F. Supp. 2d at 91.
Nevertheless, because the district court in Belizan I did not
“[have] the opportunity to consider the matter in light of the
prescriptions,” 127 S. Ct. at 2513, announced by the Supreme
Court in Tellabs, we remand this case for the district court to
determine whether the inference that Radin and CIBC acted
recklessly in the face of these allegations is, as required by
Tellabs, “at least as compelling as any opposing inference of
nonfraudulent intent.” 127 S. Ct. at 2505.

C. Section 11

Under § 11 of the ‘33 Act, an “accountant ... whose
profession gives authority to a statement made by him, who has
with his consent been named as having ... prepared or certified
any report or valuation which is used in connection with [a]
registration statement,” may be held liable for the loss incurred

*
We calculate that IBF and its affiliates bought about 45%
(($ 2.4 million + $14.3 million)/ $37.2 million) of the principal of
loans and participations repaid or sold — still a sizeable portion.
 11

by one who acquired the security for which the statement was
issued if such statement “contained an untrue statement of a
material fact or omitted to state a material fact ... necessary to
make the statements therein not misleading.” In the
Consolidated Amended Complaint the plaintiffs alleged Radin
violated § 11 when it “signed the Registration Statements and/or
certified the financial statements therein as IBF’s outside
auditors.”

Notwithstanding the plaintiffs’ use of the plural, the only
fund IBF offered publicly, and therefore the only one for which
a registration statement was filed, was Fund VI. In Belizan I the
district court found the plaintiffs had failed to allege that Fund
VI made any loans to or acquired any non-performing loans
from other IBF entities on Radin’s watch, and rejected their
argument that the “‘Fund VI public offerings were actually part
of an integrated offering involving all of the IBF funds.’”
Belizan I, 329 F. Supp. 2d at 94. On remand, the district court
found, without explanation, “the [pre-appeal] draft complaint in
no way cured the infirmities that doomed the claims against
CIBC and Radin under section[] 11.” Belizan III, 432 F. Supp.
2d at 56-57.

In their Consolidated Amended Complaint, the plaintiffs
alleged Radin had violated § 11 by attesting that IBF’s
“financial reports” complied with GAAP when, in fact, the
statements were materially false or misleading. On appeal, the
plaintiffs argue four paragraphs in the Pre-Appeal Draft
Complaint show they could, if given the opportunity, salvage
their § 11 claim.

This argument fails because it depends upon allegations in
the Pre-Appeal Draft Complaint identical to those previously
made in the Consolidated Amended Complaint, the adjudicated
insufficiency of which the plaintiffs did not dispute in their first
 12

appeal and therefore became the law of the case. See
Confederate Mem’l Ass’n v. Hines, 995 F.2d 295, 298 (D.C. Cir.
1993) (taking it “as a given for purposes of [the] appeal” that
appellants admitted their complaint failed to state a claim when
they had not “mount[ed] any serious attempt to defend [its]
sufficiency”); Laffey v. Nw. Airlines, Inc., 740 F.2d 1071, 1089-
90 (D.C. Cir. 1984) (“Adherence to the rule that a party waives
a contention that could have been but was not raised on a prior
appeal is, of course, necessary to the orderly conduct of
litigation. Failure to follow this rule would lead to the bizarre
result ... that a party who has chosen not to argue a point on a
first appeal should stand better as regards the law of the case
than one who had argued and lost.”) (internal quotation marks,
citations, and alterations omitted). Accordingly, although
troubled by the conclusory nature of the district court’s decision,
we are constrained to affirm the judgment with respect to the
§ 11 claim.

D. Section 12

Under § 12(a)(2) of the ‘33 Act, a person who “offers or
sells a security ... by means of a prospectus ... which includes an
untrue statement of a material fact or omits to state a material
fact necessary in order to make the statements ... not
misleading” is liable for losses suffered as a result by the buyers
of the security. In the Consolidated Amended Complaint, the
plaintiffs alleged CIBC had violated the prospectus delivery
requirements of § 12(a)(2) by soliciting plaintiffs to buy
securities using materials that “contained untrue statements of
material facts, omitted other facts necessary to make the
statements not misleading, and concealed and failed to disclose
material facts.” The district court initially dismissed the
§ 12(a)(2) claim for want of standing to sue because no plaintiff
alleged he had been offered or sold securities by CIBC in a
public offering. 329 F. Supp. 2d at 95. Alternatively, the
 13

district court held the § 12(a)(2) claim fell short because the
plaintiffs had failed to plead with specificity facts indicating the
claim had been filed within the time limit set in § 13 of the ‘33
Act, 15 U.S.C. § 77m. Belizan I, 329 F. Supp. 2d at 95 (citing
Davidson v. Wilson, 973 F.2d 1391, 1402 n.8 (8th Cir. 1992)
(holding compliance with § 13 must be pleaded with specificity
because timeliness is a substantive requirement of a § 12(a)(2)
claim)). Section 13 limits liability for a violation of § 12(a)(2)
to a claim brought “within one year after the discovery of the
untrue statement or the omission, or after such discovery should
have been made by the exercise of reasonable diligence.”

In the Pre-Appeal Draft Complaint, the plaintiffs attempted
to cure their lack of standing; newly added anonymous plaintiff
John Doe alleged he “purchased Fund VI bonds pursuant to the
registration statements filed with the SEC from 1999 through
2001.” Pre-Appeal Draft Compl. ¶ 9. To establish the
timeliness of their claim, the plaintiffs again alleged
“Defendants’ fraud was first revealed by the initiation of the
SEC’s action against Defendant Hershon and others on July 23,
2002” and newly alleged the “Plaintiffs initiated their claims
against Defendant CIBC on June 23, 2003.” Id. at ¶ 3.

The district court incorporated into its opinion on remand
its ruling on the plaintiffs’ motion for reconsideration of their §
12 claim. 432 F. Supp. 2d at 56. The court stated without
elaboration that the Pre-Appeal Draft Complaint shared
“important failings” with the Consolidated Amended Complaint;
from its opinion, however, we cannot discern what failings it
shares and why the plaintiffs could not cure them. It is not
sufficient for the district court simply to wave away the
plaintiffs’ attempt to cure the deficiencies the court had found in
their original § 12(a)(2) claim with the bare conclusion that the
revised “draft complaint in no way cured the infirmities that
doomed” the Consolidated Amended Complaint. Thus, the
 14

district court abused its discretion by dismissing the plaintiffs’
§ 12(a)(2) claim without explaining why the addition of a “John
Doe” plaintiff and the dates he purchased Fund VI securities did
not establish at least one plaintiff’s standing and sufficiently
plead the facts necessary to satisfy the statute of limitations. We
therefore remand the case for the district court to reconsider
whether the plaintiffs did or could perfect their § 12(a)(2) claim,
and if not, to explain why.

III. Conclusion

We conclude the district court did not abuse its discretion
in dismissing the plaintiffs’ § 11 claim with prejudice because
the plaintiffs merely offered to reallege the allegations of the
Consolidated Amended Complaint, the insufficiency of which
is the law of the case. We hold the district court did abuse its
discretion by dismissing with prejudice the § 10(b) claim, which
the plaintiffs attempted to cure with new and more specific
allegations indicating that CIBC and Radin acted recklessly by
failing to check facts each had a duty to monitor, and the
§ 12(a)(2) claim against CIBC, for which the plaintiffs added
allegations meant to establish their standing and demonstrate the
timeliness of their claim. Accordingly, we remand the case for
the district court to evaluate the new allegations the plaintiffs
offered to perfect their §§ 10(b) and 12 claims and to determine
whether the plaintiffs could “possibly cure the deficienc[ies]” in
those two claims.

So ordered.