Valdes v. Kandi Technologies Group, Inc.

UNITED STATES DISTRICT COURT

EASTERN DISTRICT OF NEW YORK

LEONEL VALDES, individually and on behalf of

all others similarly situated,

Plaintiffs,

v. MEMORANDUM AND ORDER

KANDI TECHNOLOGIES GROUP, INC., HU 20-cv-6042 (LDH) (AYS)

XIAOMING, JEHN MING KIM, MEI BING, and

ZHU XIAOYING,

Defendants.

LASHANN DEARCY HALL, United States District Judge:

Leonel Valdes, individually and on behalf of all other similarly situated individuals

(“Plaintiffs”), brings this putative class action against Hu Xiaoming, Jehn Ming Lim, Mei Bing,

Zhu Xiaoying (collectively the “Individual Defendants”), and Kandi Technologies Group, Inc.

(“Kandi” or, together with the Individual Defendants, “Defendants”), asserting claims for

violations of sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the “Exchange

Act”). Defendants move pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure to

dismiss the Amended Complaint in its entirety.

BACKGROUND1

I. The Parties

Kandi designs, produces, manufacturers, and distributes electric vehicles (“EV”s), EV

parts, and off-road vehicles. (Am. Class Action Compl. (“Am. Compl.”) ¶ 23, ECF No. 60.)

Kandi is headquartered in China, and its shares trade on NASDAQ under the ticker symbol

1 The following facts are taken from the Amended Complaint and are assumed to be true for the purpose of this

memorandum and order, unless otherwise indicated.

“KNDI.” (Id. ¶¶ 2, 15.) Plaintiffs assert claims on behalf of Kandi shareholders who purchased

KNDI between March 15, 2019 and November 27, 2020 (the “Class Period”). (Id. ¶ 1.)

Defendant Hu Xiaoming (“Hu”) has served as Kandi’s Chief Operating Officer since 2007, and

Defendant Zhu Xiaoying (“Zhu”) served as interim Chief Financial Officer from September

2019 through May 2020. (Id. ¶¶ 16, 18.) Defendant Mei Bing (“Mei”) served as Kandi’s Chief

Financial Officer from November 2016 through January 2019. (Id. ¶ 19.) Mei also served as a

director at Kandi from December 2016 through January 2019. (Id.) Defendant Jehn Ming Lim

(“Lim”) has served as Kandi’s Chief Financial Officer since May 2020. (Id. ¶ 17.)

II. Chinese Subsidy Scheme

Starting in 2013, Kandi engaged in a scheme to receive fraudulent subsidies from the

Chinese government. (Id. ¶ 29.) Kandi did so by establishing a joint venture (“JV Company”) in

which Kandi owned 50%. (Id.) The JV Company manufactured EVs and sold them to a third

company (the “Service Company”), partly owned by Kandi and Hu. (Id. ¶ 30.) The JV

Company received subsidies for manufacturing the EVs, and the Service Company received

subsidies from local governments for purchasing the EVs. (Id.) In 2016, an investigation from

the Chinese government revealed that thousands of EVs sold by the JV Company sat idle in a

parking lot, all while Kandi collected subsidies. (Id. ¶¶ 31–32.) Importantly, the JV Company

was Kandi’s top customer from 2014 through 2017, representing between 60% and 90.4% of its

sales. (Id. ¶ 40.) On March 13, 2017, Kandi announced that its financial statements for 2014

through 2016 needed to be restated and should no longer be relied upon. (Id. ¶¶ 33–34.) Kandi

issued restatements that addressed accounting for notes receivable and payable, its treatment and

disclosures regarding related party transactions, and its reporting of taxes. (Id.)

III. Revenue Replaced with Related Party Transactions

According to Plaintiffs, while revelation of the subsidy scheme should have had a

substantial negative impact on Kandi’s revenue, Kandi nonetheless continued reporting relatively

stable EV sales. (Id. ¶ 40.) Kandi did so, Plaintiffs maintain, by replacing revenue previously

generated from sales to the JV Company, with sales to four undisclosed related parties:

Chaoneng, Kuke, Massimo, and Jass Motorsports. (See id. ¶¶ 42–43.)

A. Chaoneng

Chaoneng is one of Kandi’s top customers and accounted for 33%, 51% and 24% of

Kandi’s sales in 2018, 2019 and 2020 respectively. (Id. ¶ 55.) Hu Yiheng (“Yiheng”) has been a

30% owner of Chaoneng since 2011 and has served as its legal representative since 2013. (Id. ¶

56.) Yiheng served as general manager of Microcity Electric Vehicles Service (Jinhua) Co. Ltd.

(“Microcity Jinhua”) from at least 2017 through 2020, as its legal representative through 2020,

and as its executive director through 2018. (Id. ¶ 58.) Yiheng also served as manager of

Microcity Electric Vehicle Service (Dongyang) Co. Ltd. (“Microcity Dongyang”) from 2018–

2020. (Id.) Both Microcity Jinhua and Microcity Dongyang are wholly owned by Microcity.

(Id.) From 2015 to 2018, Kandi owned 9.5% of Microcity, and Defendant Hu owned 13%. (Id.)

Plaintiffs’ investigation confirmed that Chaoneng and Zhejiang Kandi Smart Power Exchange

Technology Co. Ltd. (a Kandi wholly owned subsidiary) reported the same telephone number in

annual reports to Chinese regulators. (Id. ¶ 59.) In addition, photographs from Kandi’s Jinhua

industrial complex depict “the web of related companies” Kandi has organized within the

compound by showing one industrial building with signs for Microcity Jinhua, Microcity, an EV

service station that appears to be related to Chaoneng, and a Kandi EV maintenance station. (Id.

¶ 61.)

B. Kuke

Kuke, a former wholly owned subsidiary of Kandi that sells recreational vehicles, was

Kandi’s second largest customer during the Class Period. (Id. ¶ 65.) Kuke’s website

predominantly lists products with the brand name “Jasscol,” which is a trademark owned by

Kandi. (Id. ¶ 66.) The banner on Kuke’s website features an overhead image of Kandi’s

industrial compound in Jinhua City, and shows Kandi’s facilities in the “About Us” section on

the website. (Id. ¶ 67.) Plaintiffs further claim that “Kuke’s shareholders each have significant

ties to Kandi.” (Id. ¶ 69.) For example, Kuke is a former Kandi subsidiary that was once owned

by Hu and his son. (Id.) In February 2008, Kuke’s ownership was transferred to two

individuals: Jianfeng Lang (“Lang”) and Era Lv (“Lv”). (Id.) In 2016, Lang transferred his

ownership stake to Hongxian Huang (“Huang”). Lang is currently an 83% shareholder, director,

and general manager at Zhejiang Yuanhai Investment Group (“Yuanhai Investment”), which is

the entity previously owned by Hu and his son, was the sole shareholder of Kandi from 2003 to

2006, and was a 60% owner of Kuke from 2003 to 2005. (Id. ¶ 70.)

Lv was a supervisor for Kandi Vehicles, a wholly owned Kandi subsidiary, from 2004 to

2006. (Id. ¶ 71.) There, Lv was responsible for monitoring the board of directors and CEO,

financial affairs, and compliance of rules and regulations on behalf of shareholders. (Id.) From

2015 to 2017, Lv was a supervisor at Hangzhou Passion & Patience Commercial Management

Co. Ltd., which was owned 70% on behalf of Ling Li (“Li”) by Yuanhai Investment from 2013

to 2015, and 35% directly by Li from 2015 to 2017. (Id. ¶ 72.) Li was a supervisor at Kandi

from 2003 to 2006, and was listed as the legal representative, executive director, and manager of

Kandi Leasing in 1998. (Id. ¶ 73.) Li is also married to Xintao Hu (“Xintao”), who served as

Yuanhai Investment’s executive director and general manger until at least 2016. (Id.) In

addition, Xintao was a shareholder in a company where Lv and Hu each served as legal

representative from 2007 to 2008 and in 2008, respectively, and where Huang served as an

executive director from 2007 to 2008. (Id.)

C. Massimo

Massimo was one of Kandi’s largest suppliers and one of Kuke’s largest customers. (Id.

¶ 76.) David Jianxun Shan (“Shan”) is Massimo’s sole member and has been its registered agent

since its formation in 2009. (Id. ¶ 78.) In 2016, Shan formed Sportsman Country LLC (“SC”)

with Johnny Tai. (Id. ¶ 80.) In 2018, Kandi acquired SC, which has since operated under the

tradename Kandi America. (Id. ¶ 81.) Shan was Chairman of SC “as late as March 2019.” (Id.

¶ 80.) After SC became a Kandi subsidiary in 2018, SC shared an address with Massimo until

2020. (Id. ¶ 82.) Massimo imported 10 shipments from Kandi Electric Vehicle (Hainan) Co.

Ltd.—which is 95% owned by Zhejiang Kandi (the operating entity of Kandi) and 5% by Hu—

between February and August 2020. (Id. ¶ 83.)

D. Jass Motorsports

Jass Motorsports is a California based powersports distributor. (Id. ¶ 88.) From 2015 to

2021, Jass Motorsports accounted for nearly 30% of Kuke’s exports. (Id. ¶ 85.) Xiaohui Zhang

(“Zhang”) incorporated Jass Motorsports in 2013. (Id. ¶ 86.) Until its dissolution in 2015,

Zhang served as Chief Financial Officer and Secretary for Kandi USA. (Id.) Jass Motorsports

and Kandi USA shared the same addresses during overlapping times before November 2017.

(Id. ¶ 87.) The companies’ websites were “suspiciously similar,” particularly when comparing

their “About Us” sections. (Id. ¶ 88.) Kandi USA revised its website in April 2014, replacing

references to “Kandi USA” with “Jass Motorsports” in prominent banner positions. (Id. ¶ 89.)

Kandi USA’s website remained active after its dissolution and continued to depict a “Jass

Motorsports” banner. (Id.) In December 2018, Kandi USA posted a message on its website,

redirecting all traffic to Jass Motorsports’ website. (Id.)

IV. Hindenburg Report

On November 30, 2020, Hindenburg Research published a report (the “Hindenburg

Report”) titled “Kandi: How This China-Based NASDAQ Listed Company Used Fake Sales, EV

Hype to Nab $160 Million From U.S. Investors.” (Id. ¶ 4.) The Hindenburg Report opines,

among other things, that 64% of Kandi’s sales over the last twelve months had been to

undisclosed related parties. (Id. ¶ 146.) Following publication of the Hindenburg Report, the

price of KNDI fell 28% per share, and several lawsuits against Kandi ensued. (Id.) On

December 7, 2020, Hu issued a letter to Kandi shareholders, denying the allegations in the

Hindenburg Report. (Id. ¶ 152.) Plaintiffs initiated this action following release of the

Hindenburg Report and Plaintiffs’ own investigation into the alleged related party transactions.

(Id. ¶ 54.)

V. Alleged Misstatements and Omissions

Plaintiffs allege materially false and misleading statements in connection with the

following financial disclosures during the Class Period:

• Form 10-K for the fiscal year ended December 31, 2018 (filed on March 15, 2019):

• Form 10-Q for the quarter ended March 31, 2019 (filed on May 10, 2019):

• Form 10-Q for the quarter ended June 30, 2019 (filed on August 9, 2019);

• Form 10-Q for the quarter ended September 30, 2019 (filed on November 12, 2019);

• Form 10-K for the fiscal year ended December 31, 2019 (filed on April 28, 2020);

• Form 10-Q for the quarter ended March 31, 2020 (filed on June 5, 2020);

• Form 10-Q for the quarter ended June 30, 2020 (filed on August 10, 2020); and

• Form 10-Q for the quarter ended September 20, 2020 (filed on November 9, 2020).

(Id. ¶¶ 96–145.) According to Plaintiffs, these statements failed to (1) account for transactions

with the above entities as related party revenue; (2) provide material descriptions of the related

party transactions; and (3) disclose that a majority of sales during the respective reporting

periods was with related parties. (Id. ¶¶ 101, 105, 109, 114, 124, 131.) In addition, starting with

Kandi’s Form 10-Q filed for the third quarter of 2019, Kandi began redacting the names of major

customers and suppliers, referring to them only as “Customer A,” “Supplier A,” etc. (Id. ¶ 112.)

Kandi did so, Plaintiffs allege, to ensure that investors remained in the dark about Kandi’s

material related party transactions.2 (Id. ¶ 44.) Plaintiffs maintain that each of these statements

violates SEC regulation and generally accepted accounting principles (“GAAP”).3

STANDARD OF REVIEW

To withstand a Rule 12(b)(6) motion to dismiss, a complaint “must contain sufficient

factual matter, accepted as true, to ‘state a claim to relief that is plausible on its face.’” Ashcroft

v. Iqbal, 556 U.S. 662, 678 (2009) (quoting Bell Atl. Corp. v. Twombly, 550 U.S. 544, 570

(2007)). A claim is facially plausible when the alleged facts allow the court to draw a

“reasonable inference” of a defendant’s liability for the alleged misconduct. Id. While this

standard requires more than a “sheer possibility” of a defendant’s liability, id., “[i]t is not the

Court’s function to weigh the evidence that might be presented at trial” on a motion to

dismiss, Morris v. Northrop Grumman Corp., 37 F. Supp. 2d 556, 565 (E.D.N.Y.

1999). Instead, “the Court must merely determine whether the complaint itself is legally

sufficient, and, in doing so, it is well settled that the Court must accept the factual allegations of

the complaint as true.” Id. (citations omitted).

2 Plaintiffs allege to have uncovered the identities of Kandi’s anonymized customers and supplier by comparing the

redacted names to prior financial statements. (Id. ¶¶ 120, 130, 135.)

3 GAAP, and specifically Financial Accounting Standards Board (“FASB”) Accounting Standards Codification 850-

10-20 (“ASC 850”), requires corporations to disclose “related party transactions,” including the nature of the

relationship involved. GAAP defines a related party as one which “controls or can significantly influence the

management or operating policies of the other to the extent that one of the transacting parties might be prevented

from fully pursuing its own interest.” ASC 850.

DISCUSSION

“To state a claim on which relief can be granted under § 10(b) and Rule 10b–5, a plaintiff

must plead, inter alia, that in connection with the purchase or sale of securities, the defendant

made a false representation as to a material fact, or omitted material information, and acted with

scienter.” S. Cherry St., LLC v. Hennessee Grp., 573 F.3d 98, 108 (2d Cir. 2009). As an initial

matter, Defendants argue that Plaintiffs’ claims should be dismissed because Defendants cannot

be liable for the opinions contained in the Hindenburg Report. (Mem. L. Supp. Defs.’ Mot.

Dismiss (“Defs.’ Mem.”), 2–3, 9, ECF No. 69-3); (Reply Mem. L. Further Supp. of Defs.’ Mot.

to Dismiss (“Defs.’ Reply Mem.”), 1–3, ECF No. 69-5); (Defs.’ Supp. Sub. Further Supp. Their

Mot. to Dismiss (“Defs.’ Supp. Mem.”), 1–3, ECF No. 72-1.) Defendants plainly misapprehend

the complaint. Plaintiffs do not allege any misstatement from the Hindenburg Report. Instead,

Plaintiffs allege that the Hindenburg Report revealed the falsity in Kandi’s own financial

statements. (Am. Compl. ¶ 146); (see also Lead Pls.’ Mem. L. Opp. Defs.’ Mot. Dis. (“Pls’.

Mem.”) at 14, ECF No. 69-4) (acknowledging “the Complaint does not attribute statements in

the Hindenburg Report to Defendants” because “it is Defendants’ misstatements and omissions

in Kandi’s SEC filings that are at issue”). And there can be no question that such misstatements,

if they exist, could be subject to a securities fraud claim.

Indeed, Defendants’ own citations reinforce the undisputed point that, while a company

cannot be held liable for the statements of others, it is nonetheless responsible for its own

financial disclosures. See Janus Cap. Grp. v. First Derivative Traders, 564 U.S. 135, 147–48

(2011) (holding that investment adviser and parent capital group could not be held liable for

statements made by investment fund); Pac. Inv. Mgmt. Co. v. Mayer Brown LLP, 603 F.3d 144,

158 (2d Cir. 2010) (holding that law firm and lawyer could not be liable for statements

attributable to brokerage firm); Lopez v. Ctpartners Exec. Search Inc., 173 F. Supp. 3d 12, 17, 26

(S.D.N.Y. 2016) (alleging false statements in company’s “SEC filings and press releases, and on

earnings calls or at public events,” following revelations of company culture in the media).

At the same time, the Court recognizes that the report was not issued by a wholly

disinterested party. The Hindenburg Report is a report by a short seller “with an economic

interest in driving down the company’s stock price.” In re DraftKings Inc. Sec. Litig., No. 21

CIV. 5739 (PAE), 2023 WL 145591, at *18 (S.D.N.Y. Jan. 10, 2023). As such, allegations

based on the report “must be considered with caution.” Id.; see also Long Miao v. Fanhua, Inc.,

442 F. Supp. 3d 774, 801 (S.D.N.Y. 2020) (collecting cases and noting that short sellers “have an

obvious motive to exaggerate the infirmities of the securities in which they speculate”). While

the Court approaches Plaintiffs’ allegations based on the Hindenburg Report with caution,

dismissal is not required simply because Plaintiffs relied on a report authored by a short seller.

Nonetheless, Plaintiffs must also prove that Defendants possessed the requisite state of

mind in committing the alleged fraud. The Private Securities Litigation Reform Act (“PSLRA”)

requires a plaintiff to plead “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). This state of mind is

known as “scienter,” defined by the Supreme Court as “a mental state embracing intent to

deceive, manipulate, or defraud.” S. Cherry St., LLC, 573 F.3d at 108 (quoting Tellabs, Inc. v.

Makor Issues & Rights, Ltd., 551 U.S. 308, 319 (2007)). The requisite scienter can be

established by alleging facts to show either “(1) that defendants had the motive and opportunity

to commit fraud, or (2) strong circumstantial evidence of conscious misbehavior or

recklessness.” See ECA, Local 134 IBEW Joint Pension Tr. of Chicago v. JP Morgan Chase

Co., 553 F.3d 187, 198 (2d Cir. 2009). Defendants maintain that Plaintiffs have failed to

sufficiently allege scienter under either theory.

I. Scienter by Motive and Opportunity

To show that Defendants had the requisite motive and opportunity, Plaintiffs must allege

they “benefitted in some concrete and personal way from the purported fraud.” Id. (quoting

Novak v. Kasaks, 216 F.3d 300, 307–08 (2d Cir. 2000)). In other words, “[m]otives that are

common to most corporate officers, such as the desire for the corporation to appear profitable

and the desire to keep stock prices high to increase officer compensation, do not constitute

‘motive’ for purposes of this inquiry.” Id. (citations omitted).

According to the Amended Complaint, once Kandi ceased receiving subsidies from the

Chinese government, Defendants replaced revenue previously generated from the subsidy

scheme with sales to undisclosed related parties. (Am. Compl. ¶¶ 37–42, 161); (Lead Pls.’ Supp.

Sub. in Further Opp. To Defs.’ Mot. to Dismiss (“Pls.’ Supp. Opp.”) at 3–4, ECF No. 73.) Doing

so allowed Kandi to report relatively stable EV sales—despite the JV Company ceasing to sell

EVs—and concealed the extent that Kandi relied on the fraudulently-collected subsidies. (Am.

Compl. ¶ 40–42); (Pls.’ Supp. Opp. at 4.) However, none of the motives that Plaintiffs allege are

sufficient to establish scienter. Courts have routinely held that desire to avoid government

scrutiny or to maintain profitability is insufficient to establish scienter because neither is

“concrete” or “personal” to the defendants. See S. Cherry St., LLC, 573 F.3d at 109 (desire to

“sustain the appearance of corporate profitability” insufficient to establish scienter); In re

Turquoise Hill Res. Ltd. Sec. Litig., 625 F. Supp. 3d 164, 242 (S.D.N.Y. 2022) (“The desire to

maintain the profitability of the investment and to avoid governmental and regulatory scrutiny

are neither concrete nor personal to the defendants and are common to all corporate officers.”).

Accordingly, because the motives alleged by Plaintiffs could apply to all Kandi executives, they

are insufficient to establish scienter.

In seeking to avoid this conclusion, Plaintiffs directs the Court to a recent decision issued

by the Southern District of New York in a separate securities class action involving Kandi. In

Venkataraman v. Kandi Techs. Grp., Inc., the plaintiffs alleged that Kandi failed to disclose

related party transactions with the Service Company central to the Chinese subsidy scheme. No.

20-CIV-8082, 2022 WL 4225562, at *1 (S.D.N.Y. Sept. 13, 2022); (see supra at 2.) Kandi

owned 50% of the JV Company, which sold parts to the Service Company in which Kandi

owned 9.5% and Hu owned 13%. Venkataraman, 2022 WL 4225562, at *1. Transactions

between Kandi and the Service Company allowed both companies to “double dip” into subsidies

from the Chinese government. Id. at *7. Accordingly, the Venkataraman court found scienter

by motive and opportunity because “[s]uch specific incentives—on the part of both Kandi and

Hu personally—to double dip and avoid government scrutiny provide a specific motive to

conceal these related-party transactions, disclosure of which would have revealed the scheme.”

Id.

Whereas the Venkataraman court critically relied on Kandi and Hu’s ability to “double

dip” based on their ownership interest in the Service Company, Plaintiffs fail to plead that

Defendants had any ownership interests in the alleged related parties here, at least during the

Class Period. With respect to Chaoneng, the related link is a non-party, Hu Yiheng, who

previously worked for a Kandi subsidiary and went on to work for Kandi customer Chaoneng.

(Am. Compl. ¶¶ 55–64.) Kuke was once owned by Hu and his son, but ownership transferred in

2008, long before the alleged Class Period. (Id. ¶¶ 65–75.) For Massimo, the related link is an

outside party, David Shan, who chairs a company under common control with another Kandi

subsidiary. (Id. ¶¶ 76–84.) And with respect to Jass Motorsports, the related link is another

individual, Xiaohui Zhang, who once served as an executive for both a Kandi subsidiary and

customer. (Id. ¶¶ 85–89.) Thus, Defendants were unable to “double dip” from Kandi’s sales to

the alleged related parties, unlike Kandi and Hu, who directly profited from sales by the JV

Company to the Service Company, which both partially owned. Venkataraman, 2022 WL

4225562, at *7.

Nonetheless, Plaintiffs appear to argue that Venkataraman supports a finding of scienter

because, as in that case, Defendants “desire[d] to avoid detection” of related party transactions.

See Supp. Opp. at 4. But Venkataraman rested not just on the desire to avoid scrutiny.

Critically, the court also relied on the ownership interests that Kandi and Hu had in the related

party, which allowed both to double dip. 2022 WL 4225562, at *7. In fact, in discussing

Venkataraman, Plaintiffs appear to acknowledge that the decision rested on both rationales. See

Supp. Opp. at 4 (“In Venkataraman, Kandi and Hu were alleged to be motivated not only to

‘double dip’ into subsidies from the Chinese government to which they were not entitled, but

also to avoid government scrutiny.”). Absent allegations of direct ownership interest here,

Plaintiffs simply allege that Defendants sought to avoid government scrutiny, which is

insufficient to establish scienter. See Turquoise Hill, 625 F. Supp. 3d at 235 (“The motive to

avoid governmental inquiry can be ascribed to any company—every corporate executive would

prefer that his or her company not be investigated whether the investigation is justified or not.”).

Accordingly, the Amended Complaint fails to plead scienter by motive and opportunity.4

4 Although Defendants’ briefing focuses on the insufficiency of Plaintiffs’ alleged motive, the Court agrees with

Plaintiffs that the Amended Complaint pleads sufficient opportunity to commit the alleged fraud. (Am. Compl. ¶

21); see In re Computer Assocs. Class Action Sec. Litig., 75 F. Supp. 2d 68, 74 (E.D.N.Y. 1999) (“Plaintiffs also

adequately allege opportunity, as defendants . . . were the three most senior officers, who participated in the

drafting, preparation, and/or approval of the financial reports, press releases, shareholder communications, and SEC

II. Scienter by Recklessness

Scienter can also be shown by alleging “strong circumstantial evidence of conscious

misbehavior or recklessness.” See ECA, Local, 553 F.3d at 198. Recklessness in this context

means “a state of mind approximating actual intent, and not merely a heightened form of

negligence.” S. Cherry St., LLC, 573 F.3d at 109. To constitute recklessness, the conduct must

be “at the least . . . highly unreasonable and . . . represent[ ] an extreme departure from the

standards of ordinary care to the extent that the danger was either known to the defendant or so

obvious that the defendant must have been aware of it[.]” Id. (internal quotations and citations

omitted). Plaintiffs advance six arguments as to how the Amended Complaint alleges scienter by

recklessness, none of them persuasive to the Court.

A. Redaction of Kandi’s Customers and Supplier

First, Plaintiffs argue that Defendants “deliberately concealed” related party transactions

by redacting the identities of Kandi’s largest customers and supplier. (Pls.’ Mem. at 16.)

Starting with Kandi’s Form 10-Q filed for the third quarter of 2019, Kandi began anonymizing

the names of major customers and suppliers, referring to them only as “Customer A,” “Supplier

A,” etc. (Id. ¶ 112.) In arguing these redactions present “classic evidence of scienter,” Plaintiffs

cite to three cases finding scienter by recklessness. (Pls.’ Mem. at 16.)

The cases cited by Plaintiffs are inapposite for several reasons, not the least of which

because they fail to address redactions of customer names. Plaintiffs first cite to In re Livent,

Inc. Sec. Litig., where the Southern District of New York found scienter based on “a series of

deliberate acts—and knowledge of such acts—designed to deceive the public.” F. Supp. 2d 194,

filings at issue.”). That said, to prove scienter Plaintiffs must plead motive and opportunity, the former of which

Plaintiffs have failed to show here.

201, 215 (S.D.N.Y. 1999). More specifically, the defendants were “alleged to have understated

expenses in order to inflate earnings; recognized as revenue what in reality were loans; portrayed

unsuccessful theatrical productions as profitable; and fabricated earnings results to meet

quarterly and annual projections the Company provided to Wall Street analysts.” Id. at 201.

Importantly, while the Livent court found scienter based on the “series of deliberate acts” taken

to deceive the public, the court never intimated that any single act was sufficient to establish

scienter. See id. at 215. Nor can this Court infer that the redactions, standing alone, establish

scienter.

Next, Plaintiffs cite to Setzer v. Omega Healthcare Invs., Inc., where the Second Circuit

found scienter after an investor in healthcare facilities failed to disclose that it loaned $15 million

to its financially struggling tenant. 968 F.3d 204, 214–15 (2d Cir. 2020). Failure to disclose the

loan “gave a false impression of the financial health of one of [the investor’s] largest assets.” Id.

Importantly, the Second Circuit has since interpreted Setzer to represent an “obviously nefarious

scheme” where the company deliberately withheld critical information from the investing public.

Bonine v. Guccione, No. 21-955, 2022 WL 102073, at *2 (2d Cir. Jan. 11, 2022) (distinguishing

Setzer to find no scienter). Here, even if the redactions were improper, the Court cannot

conclude they represent an “obviously nefarious scheme.” Unlike the loan in Setzer that had

never been disclosed to the public, Kandi previously shared the redacted customer names in prior

financial statements—in fact, this is how Plaintiffs were able to uncover their identities, by

comparing the redacted names to prior financial statements. (Am. Compl. ¶¶ 120–23.) Kandi,

therefore, is not alleged to have deliberately withheld adverse information as part of an

“obviously nefarious scheme” like in Setzer. 968 F.3d at 214. In any event, Kandi did not begin

redacting customer names until halfway through the Class Period, so the redactions have no

bearing on scienter for the unredacted financial statements. (Id. ¶ 112.)

Finally, Plaintiffs cite to Matrixx Initiatives, Inc. v. Siracusano, where the U.S. Supreme

Court found scienter after a drug manufacturer withheld reports that its top-selling cold medicine

was linked to loss of smell. 563 U.S. 27, 49 (2011). While the company in Matrixx learned

negative information about one of its top selling drugs and sought to prevent disclosure, as

discussed, the information redacted here was previously disclosed to the public. (Am. Compl. ¶¶

120–23.) In other words, unlike the drug manufacturer in Matrixx, Kandi did not learn negative

information about one of its products and seek to prevent disclosure to the public. Accordingly,

the redactions alone do not give rise to an inference of scienter.

B. Knowledge of Disclosure Requirements and History with Related Party

Transactions

Second, Plaintiffs argue that Hu, Zhu, and Lim knew the requirements to disclose related

party transactions because, as officers, they were tasked with ensuring Kandi’s compliance with

GAAP and financial reporting requirements. (Pls.’ Mem. at 16.) Except, Defendants’ mere

“awareness of disclosure obligations does not show scienter.” China Mobile Games & Ent. Grp.,

4-CV-4471 (KMW), 2016 WL 922711, at *8 (S.D.N.Y. March 7, 2016). Plaintiffs must instead

show that Defendants “knew or were reckless in not knowing about the alleged related-party

transactions.” Id. Plaintiffs fail to do so here. Contrary to their assertion, Plaintiffs effectively

argue that Hu, Zhu, and Lim should have known to disclose the transactions at issue because of

their prominent positions within the company. (Pls.’ Mem. at 16.) It is well-established,

however, that scienter cannot be shown by attributing facts to someone by virtue of their position

within a company. In re PetroChina Co. Ltd. Sec. Litig., 120 F. Supp. 3d 340, 366 (S.D.N.Y.

2015) (collecting cases and finding lack of scienter because plaintiffs must “do more than allege

that the Individual Defendants had or should have had knowledge of certain facts contrary to

their public statements simply by virtue of their high-level positions”).

Indeed, Plaintiffs’ own case citation is illustrative. In Zagami v. Nat. Health Trends

Corp., the Northern District of Texas found it was “implausible to suppose that [individual

defendants] did not know” certain transactions were with related parties, “given their high

positions within the company and their compliance with [related party regulations] on other

occasions.” 540 F. Supp. 2d 705, 713 (N.D. Tex. 2008). In other words, the individual

defendants’ positions, by themselves, failed to establish scienter. See id. The Zagami court only

found scienter after critically relying on the individual defendants’ compliance in reporting

similar transactions on other occasions. Id. Meanwhile, Plaintiffs here argue the opposite. That

is, they claim that Defendants’ historical non-compliance in reporting related parties is evidence

they withheld the disclosures here. (Pls.’ Mem. at 17) (“Further, Defendants have a history of

engaging in related party transactions and failing to disclose them.”). Even if Zagami supported

Plaintiffs’ argument, which it does not, the sole instance of non-compliance cited to by Plaintiffs

was not attributed to the Individual Defendants. Instead, as Plaintiffs concede, Defendants’

auditor was censured rather than Kandi itself. (Pls.’ Mem. at 18) (alleging that Hu’s prior failure

to disclose related parties “result[ed] in severe consequences for the Company’s auditor”).

Accordingly, Plaintiffs fail to plead scienter based on Defendants’ history of non-disclosure and

alleged knowledge of reporting requirements.

C. Hu’s Specific Knowledge

Third, Plaintiffs argue that Hu had specific knowledge of the undisclosed related party

transactions through his own, his son’s, and Kandi’s ownership stakes in the related parties.

(Pls.’ Mem. at 18.) For example, Kuke was a former Kandi subsidiary, owned by Hu and his son

until 2008. (Am. Compl. ¶ 69.) In addition, Yiheng is a 30% owner of Chaoneng who worked

at Kandi and held key positions at companies owned by Hu and Kandi through 2018.5 (Id. ¶

163.) Even assuming that Kuke and Chaoneng were related parties, Plaintiffs fail to cite any

authority holding that an executive’s minority ownership in the alleged related party over ten

years before the Class Period is evidence of scienter. Likewise, Plaintiffs never explain how Hu

should have known to disclose related party transactions because he once worked with an

individual who happens to have a minority ownership in one of the alleged related parties. And

Plaintiffs cannot possibly expect the Court to impute knowledge to him through Hu’s son. As

such, Plaintiffs have failed to plead that Hu had specific knowledge of the requirement to

disclose the alleged related party transactions.

D. Failure to Disclose Known Negative Material Information

Fourth, Plaintiffs argue that Defendants’ failure to disclose “known, negative material

information concerning receivables” raises a strong inference of scienter. (Pls.’ Mem. at 19.)

This argument is wholly circular because it presupposes that Defendants had material

information to disclose. (Defs.’ Reply Mem. at 7.) Plaintiffs have failed to plead facts

suggesting that Defendants knew there was a GAAP violation, let alone that Defendants

deliberately withheld the disclosures. See ECA, Local, 553 F.3d at 202 (no scienter where

“Plaintiffs fail to allege sufficient facts to support an inference that [defendant] knew that the

failure to report Mahonia as a related party was inaccurate”).6

5 Plaintiffs fail to explain how Hu had specific knowledge that Massimo or Jass Motorsports were related parties.

6 Plaintiffs’ lone case cite on this point is inapposite. In In re Complete Mgmt. Inc. Sec. Litig., the Southern District

of New York found scienter where “the complaint establishes a strong inference that defendants were aware of the

allegedly illicit practices” at the company’s largest client, but the company “nonetheless concealed them in various

reports and public statements.” 153 F. Supp. 2d 314, 325–26 (S.D.N.Y. 2001). As discussed, Plaintiffs have failed

E. Size and Importance of the Related Party Transactions

Fifth, Plaintiffs argue that the size and importance of the related party transactions further

support the inference that Defendants were aware of their materiality and nature. (Pls.’ Mem. at

20.) Not so. Even assuming the undisclosed transactions here were large and important, “it is

well established that the size of the fraud alone does not create an inference of scienter.” Glaser

v. The9, Ltd., 772 F. Supp. 2d 573, 596 (S.D.N.Y. 2011) (quoting In re PXRE Grp., Ltd., Sec.

Litig., 600 F. Supp. 2d 510, 545 (S.D.N.Y. 2009)). This is because “absent facts indicating that

defendants knew of the falsity of their statements,” even allegations of large misstatements do

“not support the required strong inference of misbehavior.” Id. at 596–97 (“[T]he complaint in

this case does not indicate that defendants had knowledge of their statements' falsity at the time

those statements were made. Accordingly, that defendants wrote down seventy-two percent of

their net income does not support the required strong inference of scienter.”); see also Plumbers

& Steamfitters Loc. 773 Pension Fund v. Canadian Imperial Bank of Com., 694 F. Supp. 2d 287,

302 (S.D.N.Y. 2010) (“[T]he Complaint is bereft of factual allegations from which a reader

could infer Defendants intentionally or recklessly failed to take write-downs on U.S. mortgage-

backed securities. Because the size of an alleged fraud alone does not create an inference of

scienter, Plaintiff's repeated allegation concerning the magnitude of the write-downs [here $2.5

billion] is insufficient to plead scienter.”) (internal quotation marks omitted).

In addition, Plaintiffs argue that Defendants possessed scienter under the “core operations

doctrine,” (Pls.’ Mem. at 20), which provides that “a court may infer that a company and its

senior executives have knowledge of information concerning the core operations of a business,

to plead that Defendants were aware of any requirement to disclose the related party transactions, let alone that they

deliberately concealed them.

such as events affecting a significant source of revenue.” In Re Renewable Energy Grp. Sec.

Litig., No. 22-335, 2022 WL 14206678, at *3 n.4 (2d Cir. Oct. 25, 2022) (internal quotation

marks omitted). The Second Circuit has “not clearly affirmed the validity of this doctrine

following the passage of the PSLRA.” Id. Nonetheless, to the extent the doctrine still applies in

this Circuit, courts have found “it is not independently sufficient to raise a strong inference of

scienter.” In re Rockwell Med., Inc. Sec. Litig., No. 16 CIV. 1691 (RJS), 2018 WL 1725553, at

*15 (S.D.N.Y. Mar. 30, 2018) (internal quotation marks omitted). Because it remains unclear

whether the core operations doctrine still applies—and because Plaintiffs have failed to plead

independent facts supporting a strong inference of scienter—the Court declines to consider the

doctrine here.7 Thus, the size and importance of the transactions here do not provide an

inference of scienter.

F. Simplicity of the Alleged Violations

Sixth, Plaintiffs argue that the simplicity of the alleged violations establish scienter. (Pls.’

Mem. at 21.) The Court disagrees. As a threshold matter, even assuming there was a technical

violation, a GAAP violation alone is insufficient to establish scienter. ECA, Local, 553 F.3d at

200 (observing that “allegations of GAAP violations or accounting irregularities, standing alone,

are insufficient to state a securities fraud claim . . . . Only where such allegations are coupled

with evidence of corresponding fraudulent intent might they be sufficient”). In any event, the

Court rejects Plaintiffs’ generous proposition that deciding whether to disclose material related

party transactions “involve simple accounting rules.” (Pls.’ Mem. at 21.) As numerous

7 In a separate decision involving Kandi, Judge Schofield appeared skeptical of the same defendants’ invocation of

the core operations doctrine. Venkataraman v. Kandi Techs. Grp., Inc., No. 20 CIV. 8082 (LGS), 2021 WL

4952260, at *4 (S.D.N.Y. Oct. 25, 2021) (“[A]lthough Hu, Wang and Mei presumably knew the identity of Kandi's

counterparties in significant transactions, they would not necessarily have known (as part of core operations of the

business) the test for what constitutes a related party under the applicable accounting rules or what disclosure is

required.”).

commentators have observed, related party determinations are notoriously difficult. See

American Institute of Certified Public Accountants, Accounting and Auditing for Related Parties

and Related Party Transactions, 2010 Annual AAJ-PAPERS 26 (“One of the more important

and yet more difficult aspects of a financial statement audit is the identification of related parties

and transactions with related parties.”); Corp. Governance Guide, PCAOB’s Chief Auditor

Outlines 2007 Priorities, Vol. 446, 2006 WL 8519424 (observing “that related parties have

proven difficult for auditors because they are sometimes difficult to identify”).

Indeed, the Amended Complaint illustrates just how difficult related party determinations

can be. Plaintiffs portray a complex web of allegedly interrelated individuals and companies—

based on past and present affiliations—all which Plaintiffs allege give rise to a GAAP violation.

Many of the connections that Plaintiffs allege appear attenuated, several degrees removed and

based on minority ownership interests. As such, even assuming there was a technical GAAP

violation, it can hardly be said that proper accounting for the transactions is “simple.”

Throughout their briefing, Plaintiffs cite cases finding scienter based on far more obvious

related party issues, typically involving direct ties or ownership by the defendants in the related

parties. See Turner Ins. Agency, Inc. v. Farmland Partners, Inc., No. 18-cv-02104-DME-NYW,

2019 WL 2521834, *2, 6 (D. Colo. June 18, 2019) (finding scienter where defendant failed to

disclose as related party transactions loans to defendant’s manager and consultant); In re China

Valves Tech. Sec. Litig., 979 F. Supp. 2d 395, 402 (S.D.N.Y. 2013) (wife of defendant’s 34%

shareholder formed separate company at defendant’s behest to act as middle person in

transaction where wife received compensation); Henning v. Orient Paper, Inc., No. CV 10-cv-

5887 (VBF) (AJWX), 2011 WL 2909322, at *6 (C.D. Cal. July 20, 2011) (finding scienter based

on “obvious material omissions” regarding transactions with a company in which the individual

defendant had a 70% ownership interest); see also Zagami, 540 F. Supp. 2d at 713 (finding

scienter where defendants received millions of dollars in commission and company loaned

money to an entity controlled by the parents of an individual defendant). The facts from these

cases bear no resemblance to the facts alleged here.8 Accordingly, the “simplicity” of any

alleged violations here does not support the finding of scienter, and Plaintiffs have failed to plead

scienter by recklessness.9 Plaintiffs’ § 10(b) claim fails for lack of scienter.10

III. Exchange Act Section 20(a)

Because Plaintiffs fail to plead scienter, any claim under § 20 of the Exchange Act must

also be dismissed. See In re Sanofi Sec. Litig., 87 F. Supp 3d 510, 527 (S.D.N.Y. 2015) (“If

plaintiffs have not adequately alleged a primary violation, i.e., a viable claim under another

provision of the Securities Act or Exchange Act, then the § 20(a) claims must be dismissed.”).

8 Plaintiffs’ remaining case citations are inapposite. Two cases cited by Plaintiffs—both outside this circuit—

involved restatements by the companies. See In re Medicis Pharm. Corp. Sec. Litig., No. CV-08-1821-PHX-GMS,

2010 WL 3154863, at *1 (D. Ariz. Aug. 9, 2010) (revelation of GAAP violation required company to issue

restatement); In re MicroStrategy, Inc. Sec. Litig., 115 F. Supp. 2d 620, 652 (E.D. Va. 2000) (“That these violations

occurred consistently over the entire Class Period, resulted in such a large restatement, and involved the violation of

relatively straightforward accounting principles is probative of scienter.”) (internal citation omitted) (emphasis

added). By contrast, Plaintiffs never allege that Kandi issued restatements conceding that it misreported related

party transactions, even after publication of the Hindenburg Report. In fact, Plaintiffs acknowledge that Kandi

expressly denied the allegations contained in the report. (Am. Compl. ¶ 152.) And the remaining case cited by

Plaintiffs involved “a pattern of knowingly misleading practices that overwhelmingly overstated revenues,” which is

inapposite in assessing related party determinations. S.E.C. v. DCI Telecommunications, Inc., 122 F. Supp. 2d 495,

500 (S.D.N.Y. 2000).

9 Plaintiffs also claim that the alleged related parties shared the same or related phone numbers, addresses, or

trademarks with Kandi. (Am. Compl. ¶¶ 59, 60, 62, 66, 82, 87.) Standing alone, these allegations fail to raise an

inference of scienter because Plaintiffs nowhere connect the allegations with a specific intent to defraud. See

Tellabs, 551 U.S. at 308 (“The PSLRA requires plaintiffs to state with particularity both the facts constituting the

alleged violation, and the facts evidencing scienter, i.e., the defendant's intention to deceive, manipulate, or

defraud.”) (internal quotation marks omitted).

10 Having found that Plaintiffs failed to plead scienter, the Court does not reach the remaining 10(b) elements. See

Maloney v. Ollie's Bargain Outlet Holdings, Inc., 518 F. Supp. 3d 772, 778 (S.D.N.Y. 2021) (“If Defendants have

failed to plead scienter, the Court need not proceed further.”).

CONCLUSION

For the foregoing reasons, Defendants’ motion to dismiss the Amended Complaint for

failure to state a claim is GRANTED. Plaintiffs’ Amended Complaint is dismissed in its

entirety.

SO ORDERED.

Dated: Brooklyn, New York /s/ LDH

March 29, 2024 LASHANN DEARCY HALL

United States District Judge