# In Re Enron Corp. Sec., Derivative & ERISA Lit.

> District Court, S.D. Texas · March 12, 2003 · 258 F. Supp. 2d 576

URL: https://www.frixlaw.com/law-library/cases/2480564

## Case

- **Full name:** In Re ENRON CORPORATION SECURITIES, DERIVATIVE & “ERISA LITIGATION” This Document Relates To: All Cases Mark Newby, Et Al., Plaintiffs v. Enron Corporation, Et Al., Defendants; The Regents of the University of California, Et Al., Individually and on Behalf of All Others Similarly Situated, Plaintiffs, v. Kenneth L. Lay, Et Al., Defendants
- **Court:** District Court, S.D. Texas
- **Decided:** March 12, 2003
- **Citations:** 258 F. Supp. 2d 576; 2003 U.S. Dist. LEXIS 3786; 2003 WL 1089307
- **Precedential status:** Published
- **Opinion:** Opinion by Harmon
- **Judges:** Harmon
- **Cited by:** 70 later opinions in the Frix Law Library

## Citator (automated)

- No negative treatment found by the automated citator. That is not the same as a confirmation that the case is good law; read the citing cases.
- Full citator and citing cases: https://www.frixlaw.com/law-library/cases/2480564

## How later opinions describe it (automated extraction)

- holding that complaint did not state predicate insider trading violation of Section 10(b) and Rule 10b-5 because it failed to allege adequate facts showing that defendants possessed specific, nonpublic information about alleged fraud
- holding that under the TSA a statutory “seller” is the person who sold the security directly to the purchaser or who acted as the vendor’s agent and solicited the sale
- noting that a suspicious pattern of insider trading may be gauged by the timing of the sales, the amount and percentage of the seller’s holdings sold, the amount of profit received

## Opinion text

MEMORANDUM AND ORDER REGARDING ENRON OUTSIDE DIRECTOR DEFENDANTS’ MOTIONS
HARMON, District Judge.
Lead Plaintiff the Regents of the University of California’s consolidated com
*586
plaint in the above referenced putative class action, brought on behalf of purchasers of Enron Corporation’s publicly traded equity and debt securities during a proposed federal Class Period from October 19,1998 through November 27, 2001, alleges violations of (1) Sections 11 and 15 of the Securities Act of 1933 (“1933 Act”), 15 U.S.C. §§ 77k and 77o; (2) Sections 10(b), 20(a), and 20A of the Securities Exchange Act of 1934 (“Exchange Act” or “the 1934 Act”), 15 U.S.C. §§ 788 (b), 78t(a), and 78W 1, and Rule 10b-5 promulgated thereunder by the Securities and Exchange Commission (“SEC”), 17 C.F.R. § 240 .10b-5; and (3) the Texas Securities Act, Texas Rev. Civ. Stat. Ann. art. 581-33 (Vernon’s 1964 & 2002 Supp.).
Pending before the Court
inter alia
are motions to dismiss pursuant to Rules 8, 9(b), and 12(b)(6) of the Federal Rules of Civil Procedure, section 21D(b)(3) of the Exchange Act, as amended, the Private Securities Litigation Reform Act of 1995 (the “PSLRA”), codified at 15 U.S.C. § 78u-4(b)(3)(A), and
Central Bank of Denver v. First Interstate Bank of Denver,
511 U.S. 164 , 114 S.Ct. 1439 , 128 L.Ed.2d 119 (1994), filed by the following Enron Outside Director Defendants:
(1)Certain Current and Former Directors (Robert A. Belfer, Norman P. Blake, Jr., Ronnie C. Chan, John H. Duncan,
1
Joe H. Foy, Wendy L. Gramm, Ken L. Harrison, Robert K. Jaedicke, Charles A. LeMaistre, Rebecca Mark-Jusbasche,
2
John Men-delsohn, Jerome J. Meyer, Paulo V. Ferraz Pereira, Frank Savage, John A. Urquhart, John Wakeham, Charles Walker, and Herbert S. Wi-nokur, Jr.)(# 661);
(2) [Present and Former Outside Directors] Robert A. Belfer, Norman P. Blake, Jr., Ronnie C. Chan, John H. Duncan, Joe H. Foy, Wendy L. Gramm, Robert K. Jaedicke, Charles A. LeMaistre, John Mendelsohn, Jerome J. Meyer, Paulo V. Ferraz Per-eira, Frank Savage, John Wakeham, Charles E. Walker, and Herbert S. Winokur (# 662);
(3) John A. Urquhart (# 647); and
(4) Alliance Capital Management L.P. (“Alliance”), for failure to state a § 15 claim
3
for which relief can be granted (# 618).
Also pending are a Joint Motion of Certain Defendants (Belfer, Blake, Chan, Duncan, Foy, Gramm, Jaedicke, LeMaistre, Men-delsohn, Meyer, Ferraz Pereira, Savage, Wakeham, Walker, Winokur, Urquhart, and Mark-Jusbasche) to Strike the Pulsi-fer Class Action Complaint (# 1042), joined by Enron executives Kenneth L. Lay (# 1047), Richard A. Causey (# 1052), and Ken L. Harrison (# 1053), and Lead Plaintiffs request for leave to amend (#839) should the Court determine that any part of the complaint should be dismissed.
The Court hereby incorporates its summaries of the alleged facts and applicable law in its memorandum and order of December 20, 2002 (# 1194),
4
regarding the
*587
secondary actors’ motions to dismiss, and its memorandum and order of January 28, 2003 (# 1241),
5
addressing the Individual Andersen Defendants’ motions to dismiss, in particular its conclusions about the group pleading doctrine and controlling person liability.
SUPPLEMENTAL APPLICABLE LAW
A. Section 10(b) and Rule 10b-5 Violations
1. Signing false or misleading documents to be filed with the SEC
A corporate official, acting with scienter, who on behalf of the corporation signs a document that is filed with the SEC that contains material misrepresentations, such as a fraudulent Form 10-K, regardless of whether he participated in the drafting of the document, “makes” a statement and may be liable as a primary violator under § 10(b) for making a false statement.
Howard v. Everex Systems, Inc.,
228 F.3d 1057, 1061 (9th Cir.2000),
citing AUSA Life Ins. Co. v. Dwyer (In re JWP Inc., Sec. Litig.),
928 F.Supp. 1239 , 1255-56 (S.D.N.Y.1996)(holding that a director who signs a fraudulent Form 10-K with scienter can be liable as a primary violator for making a false statement under § 10(b)), and
F.N. Wolf & Co., Inc. v. Estate of Neal,
No. 89 Civ. 1223(CSH), 1991 WL 34186 , at *8 (S.D.N.Y. Feb.25, 1991)(holding that a “director signing a document filed with the SEC ... ‘makes or causes to be made’ the statements contained therein” under § 18(a) of the 1934 Act).
See also In re Cabletron Systems, Inc.,
311 F.3d 11, 40 (1st Cir.2002);
In re Reliance Sec. Litig.,
135 F.Supp.2d 480, 503 (D.Del.2001);
In re Indep. Energy Holdings PLC Sec. Litig.,
154 F.Supp.2d 741, 767 (S.D.N.Y.2001),
abrogated on other grounds, In re Initial Public Offering Sec. Litig.,
241 F.Supp.2d 281 (S.D.N.Y.2003);
In re Lernout & Hauspie Sec. Litig.,
286 B.R. 33, 37 (D.Mass.2002)(signatures of three members of the Audit Committee on statements filed with the SEC “satisfy the requirement that defendants make a fraudulent statement” for liability under § 10(b));
In re Lernout & Hauspie Sec. Litig.,
230 F.Supp.2d 152, 163 (D.Mass.2002)(“It is well established in this Circuit that each defendant may be held responsible for the false and misleading statements contained in the financial statements he signed [under § 10(b) ],”
citing Serabian v. Amoskeag Bank Shares, Inc.,
24 F.3d 357, 367-68 (1st Cir.1994)). The Ninth Circuit explained that “by placing responsibility on corporate officers to ensure the validity of corporate filings, investors are further protected from misleading information.”
Howard,
228 F.3d at 1061 . Furthermore, “[k]ey corporate officers should not be allowed to make important false financial statements knowingly or recklessly, yet still shield themselves from liability to investors simply by failing to be involved in the preparation of those statements. Otherwise the securities laws would be significantly weakened
...” Id.
at 1062 .
The SEC has attempted to make signatures on corporate documents that are filed with the SEC carry significant weight. Noting that the signature requirements for Form 10-K [in General Instruction D of Form 10-K
6
and General
*588
Instruction C of Form 10-KSB] were amended in 1980 to ‘“enhance director awareness of and participation in the preparation of the Form 10-K information,’ ” the SEC has explained that “by signing documents filed with the Commission, board members implicitly indicate that they believe that the filing is accurate and complete.” “Audit Committee Disclosure” (S.E.C. Release No. 41987), 1999 WL 955908 at *29 n. 57, *9 (Oct. 7, 1999). Similarly, in a brief submitted to the Ninth Circuit during the litigation of
Howard ,
the SEC stated, “ ‘When the public sees a corporate official’s signature on a document, it understands that the official is thereby stating- that he believes that the statements in the document are true.’ ”
Id.
at *9, citing Brief for SEC, Amicus Curiae, at 7,
Howard v. Everex Systems, Inc.,
228 F.3d 1057 (9th Cir.1999).
7
2. Insider Trading as a Primary Violation
Allegations of insider trading may serve different purposes under the federal securities laws, including the following: as a primary violation of § 10(b) of the 1934 Act and Rule 10b-5; as a means to raise a strong inference of scienter for a § 10(b) violation; and as the basis for an independent, but derivative, claim under § 20A of the Exchange Act.
8
To plead a violation of § 10(b), a plaintiff must allege both (1) a breach of a
*589
fiduciary duty, such as the duty to disclose, and “manipulation or- deception,”
Santa Fe Industries v. Green,
430 U.S. 462, 472 , 97 S.Ct. 1292 , 51 L.Ed.2d 480 (1977); and (2) scienter, or “intent to deceive, manipulate, or defraud,”
Ernst & Ernst v. Hochfelder,
425 U.S. 185, 193 , 96 S.Ct. 1375 , 47 L.Ed.2d 668 (1976).
Duty to Disclose
Rule 10b-5 does not impose on a corporation an affirmative duty to disclose all nonpublic material information that it has about the corporation, and where a material omission is alleged, there is no liability under the federal securities laws unless that corporation has a duty to disclose such information.
Chiarella v. United States,
445 U.S. 222, 235 , 100 S.Ct. 1108 , 63 L.Ed.2d 348 (1980)(“a duty to disclose under § 10(b) does not arise from the mere possession of nonpublic market information”);
Dirks v. SEC,
463 U.S. 646, 654 , 103 S.Ct. 3255 , 77 L.Ed.2d 911 (1983);
Basic Inc. v. Levinson,
485 U.S. 224 , 239 n. 17, 108 S.Ct. 978 , 99 L.Ed.2d 194 (1988)(“Silence, absent a duty to disclose, is not misleading under Rule 10b — 5.”);
Gross v. Summa Four, Inc.,
93 F.3d 987, 992 (1st Cir.1996);
Starkman v. Marathon Oil Co.,
772 F.2d 231, 238 (6th Cir.1985)(“[T]he established view is that a ‘duty to speak’ must exist before the disclosure of material facts is required under Rule 10b-5.”),
cert. denied,
475 U.S. 1015 , 106 S.Ct. 1195 , 89 L.Ed.2d 310 (1986);
Glazer v. Formica Corp.,
964 F.2d 149, 156-57 (2d Cir.1992).
Courts have imposed a duty to disclose on corporations and/or its officers
9
in certain circumstances. “The duty to disclose only arises if the person is in a position of trust.”
SEC v. Fox,
855 F.2d 247, 252 (5th Cir.1988),
citing Chiarella,
445 U.S. at 235 , 100 S.Ct. 1108 ;
see also United States v. Ruggiero,
56 F.3d 647, 654-55 (5th Cir.1995),
cert. denied,
516 U.S. 979 , 116 S.Ct. 486 , 133 L.Ed.2d 413 (1995). One such situation is when a corporate insider trades on confidential information (“intended to be available only for a corporate purpose and not for the personal benefit of anyone”) and makes “secret profits.”
Chiarella,
445 U.S. at 228-29 , 100 S.Ct. 1108 ;
Dirks,
463 U.S. at 654 , 103 S.Ct. 3255 ;
United States v. O’Hagan,
521 U.S. 642, 652 , 117 S.Ct. 2199 , 138 L.Ed.2d 724 (1997);
United States v. Ruggiero,
56 F.3d at 654-55 . Thus Section 10(b) may be violated where the trading in the corporation’s securities arises “in connection with” a breach of a fiduciary duty and where there is also manipulation or deception.
Dirks,
463 U.S. at 654 , 103 S.Ct. 3255 ;
Chiarella,
445 U.S. at 232-36 , 100 S.Ct. 1108 . The fiduciary duty is not imposed because of the nonpublie nature of the information; rather “liability under § [sic] 10b-5 attaches by virtue of the relationship between the shareholders and the individual trading on the inside information” in whom those shareholders “ ‘had placed their trust and confidence.’ ”
Ruggiero,
56 F.3d at 654-55 . The SEC long ago concluded that an “affirmative duty to disclose ... material facts which are known to [the insider] by virtue of [his] position but which are not known to persons with whom [the insider] deal[s] and which, if known, would affect their investment judgment,” arises “from (i) the existence of a relationship affording access to inside information intended to be available only for a corporate purpose, and (ii) the unfairness of allowing a corporate insider to take advantage of that information by trading without disclosure.”
Chiarella,
*590
445 U.S. at 227 , 100 S.Ct. 1108 , 63 L.Ed.2d 348 (1980),
citing In re Cady, Roberts & Co.,
40 S.E.C. 907, 911, 912, 1961 WL 60638 (1961)(holding that a corporate insider must either disclose all material inside information known to him because of his corporate position or abstain from trading the securities of his corporation).
See also SEC v. Texas Gulf Sulphur Co.,
401 F.2d 833 , 848 (2d Cir.1968)(ew banc),
cert. denied,
394 U.S. 976 , 89 S.Ct. 1454 , 22 L.Ed.2d 756 (1969);
SEC v. MacDonald,
699 F.2d 47, 50 (1st Cir.1983)(ew
banc); Shaw v. Digital Equipment,
82 F.3d 1194, 1203 (1st Cir.1996)(ew
banc).
As another instance where a duty to disclose is imposed by law on corporations, when a corporation makes a disclosure of material fact, voluntarily or involuntarily, the courts have recognized that “there is a duty to make it complete and accurate.”
Roeder v. Alpha Industries, Inc.,
814 F.2d 22, 26 (1st Cir.1987),
citing Texas Gulf Sulphur,
401 F.2d at 860-61;
Gross v. Summa Four, Inc.,
93 F.3d at 992 ;
Glazer v. Formica Corp.,
964 F.2d 149, 156-57 (2d Cir.1992);
Sailors v. Northern States Power Co.,
4 F.3d 610, 611 (8th Cir.1993). The Fifth Circuit has held that “under Rule 10b-5, ‘a duty to speak the full truth arises when a defendant undertakes a duty to say anything.’ ”
Rubinstein v. Collins,
20 F.3d 160, 170 (5th Cir.1994),
citing First Virginia Bankshares v. Benson,
559 F.2d 1307, 1317 (5th Cir.1977),
cert. denied,
435 U.S. 952 , 98 S.Ct. 1580 , 55 L.Ed.2d 802 (1978). It furthermore noted that defendants “have a duty under Rule 10b-5 to correct statements if those statements become materially misleading in light of subsequent events.”
Id.
at 170 n. 41,
citing Backman v. Polaroid Corp.,
910 F.2d 10, 17 (1st Cir.1990);
In re Phillips Petroleum Sec. Litig.,
881 F.2d 1236, 1245 (3d Cir.1989);
Hanon v. Dataproducts Corp.,
976 F.2d 497, 503-04 (9th Cir.1992);
Rudolph v. Arthur Andersen & Co.,
800 F.2d 1040, 1043 (11th Cir.1986),
cert. denied,
480 U.S. 946 , 107 S.Ct. 1604 , 94 L.Ed.2d 790 (1987).
Manipulation or Deception
Section 10(b) does not use the term, “insider trading,” but because of the special relationship of trust and confidence between shareholders and corporate insiders, courts have concluded that “insider trading by a corporate insider based on material, nonpublic information, qualifies as a ‘deceptive device’ under § 10(b) and violates the insiders’s duty to disclose or abstain from trading and therefore constitutes a manipulative act.”
In re Sec. Litig. BMC Software, Inc.,
183 F.Supp.2d 860 , 869 n. 18 (S.D.Tex.2001),
citing O'Hagan,
521 U.S. at 652 , 117 S.Ct. 2199 ;
Dirks,
463 U.S. at 654 , 103 S.Ct. 3255 ;
Shaw,
82 F.3d at 1203 . Moreover in a new rule, 17 C.F.R. § 240 .10b5-l(a), effective August 24, 2000, the SEC made explicit,
The “manipulative and deceptive devices” prohibited by Section 10(b) of the Act (15 U.S.C. § 78j) and § 240.20b-5 thereunder include, among other things, the purchase or sale of a security of any issuer, on the basis of material nonpublic information about that security, in breach of a duty of trust or confidence that is owed directly, indirectly, or derivatively, to the issuer of that security or the shareholders of that issuer, or to any other person who is the source of the material nonpublic information.
Under the traditional or “classical” theory of insider trading, insider trading may constitute a violation of § 10(b) and Rule 10b-5 “when a corporate insider trades in the securities of his corporation on the basis of material nonpublic information.”
United States v. O’Hagan,
521 U.S. at 651-52 , 117 S.Ct. 2199 ,
citing Chiarella,
445 U.S. at 228-29 , 100 S.Ct. 1108 .
10
As
*591
noted, such trading constitutes a “deceptive device” under § 10(b) because of “a relationship of trust and confidence between the shareholders of a corporation and those insiders who have obtained confidential information by reason of their position in the corporation” that “gives rise to a duty to disclose [or to abstain from trading] because of the necessity of preventing a corporate insider from ... taking unfair advantage of ... uninformed stockholders.”
Id.
at 652, 117 S.Ct. 2199 . The classical theory of insider trading applies not only to officers, directors, and other permanent insiders of a corporation, but also to attorneys, accountants, lawyers, and other consultants who become only temporary fiduciaries of a corporation by entering into a confidential relationship in the conducting of the corporation’s business and are given access to nonpublic corporate information solely for corporate purposes.
Id.
at 652 , 117 S.Ct. 2199 ,
citing Dirks v. SEC,
463 U.S. 646 , 655 n. 14, 103 S.Ct. 3255 , 77 L.Ed.2d 911 (1983). “Directors, officers and principal shareholders all qualify as corporate insiders under section 10(b), as long as they have ‘obtained confidential information by reason of their position with that corporation.’”
In re Compaq Sec. Litig.,
848 F.Supp. 1307 , 1310 n. 7 (S.D.Tex.1993),
citing In re Cady Roberts & Co.,
40 S.E.C. 907, 1961 WL 60638 (1961).
There has been a division among the Circuit Courts of Appeals regarding whether the language, “on the basis of material nonpublic information,” employed in
O’Hagan, Chiarella, and Dirks,
in insider trading cases brought under § 10(b) and Rule 10b-5, requires a plaintiff to demonstrate that the insider defendant actually used the nonpublic information that he obtained through his position in the corporation in deciding whether to trade the securities, or whether the plaintiff need only show that the insider defendant merely possessed the nonpublic information at the time he traded the securities. The Ninth Circuit in a classic-theory, insider-trading criminal action held that the government had to show that the defendant not only had “knowing possession” of material inside information, but also that the defendant used that information in deciding to buy or sell securities, i.e., a causal connection.
United States v. Smith,
155 F.3d 1051, 1066-69 (9th Cir.1998),
cert. denied,
525 U.S. 1071 , 119 S.Ct. 804 , 142 L.Ed.2d 664 (1999). Nevertheless the ap
*592
pellate court expressly did not decide whether that “use” standard would apply in a civil case.
Id.
at 1069 n. 27. The Eleventh Circuit, in a civil enforcement action, held that while “use” of material, nonpublic information was the ultimate issue, evidence of “knowing possession” of such information raises a “strong inference” that the defendant did use it in trading, sufficient to make a prima
facie
case of liability, which the defendant would then have to rebut.
SEC v. Adler,
137 F.3d 1325, 1337-39 (11th Cir.1998). The Second Circuit had previously suggested that a plaintiff need only show that the insider defendant traded the securities while in “knowing possession” of material nonpublic information.
United States v. Teicher
987 F.2d 112, 120-21 (2d Cir.1993),
cert. denied,
510 U.S. 976 , 114 S.Ct. 467 , 126 L.Ed.2d 419 (1993).
To resolve this conflict, the SEC recently adopted a new rule, Rule 10b5-l under the Exchange Act, effective October 23, 2000, 17 C.F.R. § 240 .10b5-l(b), to address the question “what, if any, causal connection must be shown between the trader’s possession of inside information and his or her trading.” S.E.C. Release Nos. 7881, 43154, 33-7881, 34-43154, and IC-24599, 2000 WL 1201556 , *21 (August 15, 2000). The rule largely adopts the Second Circuit’s “knowing possession” test in
Teicher
but, as in
Adler ,
employs it to create a rebuttable presumption: a plaintiff makes a
prima facie
case that the defendant is liable for insider trading merely by showing that the defendant was
“aware
of the material nonpublic information” when he made the purchase or sale of the securities. 17 C.F.R. § 240 .10b5-l(b)(emphasis added). The rule estáb-lishes several affirmative defenses available to a defendant to rebut the presumption by showing that, in good faith and not as a part of a scheme to evade liability, he did not use material nonpublic information in entering into his trading decision. Specifically, the defendant may provide evidence that before he became aware of the material nonpublic information, he had structured his securities trading plans and strategies in one of the following ways: (1) that the defendant had entered into a binding contract for the trade before he obtained the inside information; (2) that the defendant had instructed another person to execute the trade for him before the defendant obtained the inside information; or (3) the defendant had established a written plan for specific purchases or sales of the securities before he obtained the insider information. 17 C.F.R. § 240 .10b5—1 (c)(1)(i)(A)(1 —3) and (ii); Release, 2000 WL 1201556 , at *22-23. Moreover the contract, instruction or plan had to meet specific requirements that did not allow the defendant to exercise any subsequent control over or alteration of that contract, instruction or plan with respect to the purchases or sales of the securities: it (1) must have expressly specified the amount, price and date; (2) must have provided a written formula or algorithm or computer program for determining amounts, prices, and dates; or (3) did not permit the defendant to exercise any subsequent influence over how, when or whether to execute the purchases or sales, and that any other person who did exercise such influence was not aware of the material nonpublic information when he did so. 17 C.F.R. § 240 .10b5-1(c)(1)(i)(B) & (C); SEC Release, 2000 WL 1201556 , at *23.
11
*593
Accordingly, this Court defers to the SEC and adopts Rule 10b5-l’s “awareness” standard.
Insider Trading as Source of Scienter under § 10(b)
Alternatively, instead of constituting a primary violation of § 10(b) and Rule 10b-5, under different pleading requirements allegations of insider trading may assert circumstantial evidence of, and thus give rise to a strong inference of, bad faith and scienter for § 10(b) and Rule 10b-5 purposes. Specifically a complaint may allege facts demonstrating a corporate-insider defendant’s normal trading history before, and then dramatic change during, the class period, with trades at times calculated to provide the defendant with the maximum personal benefit, to show that the class period sales are “unusual” or “suspicious.”
12
See, e.g., Rothman v. Gregor,
220 F.3d 81, 94-95 (2d Cir.2000);
Florida State Bd. of Admin. v. Green Tree Financial Corp.,
270 F.3d 645 , 656 (9th Cir.2001)(“[I]n the insider trading case, trading at a particular time is circumstantial evidence that the insider knew the best time to trade because he or she had inside information not shared by the public. This in turn is circumstantial evidence that he or she kept information from the public in order to trade on the unfair advantage.”)
See also Ronconi v. Larkin,
253 F.3d 423, 434-35 (9th Cir.2001)(“If insiders owning much of a company’s stock make rosy characterizations of company performance to the market while simultaneously selling off all their stock for no apparent reason, their sales may support inferences both that their rosy characterizations are false and that they knew it. We have considered insider trading as circumstantial evidence that a statement was false when made.”). Insider stock sales are suspicious “when they are ‘dramatically out of line with prior trading practices at times calculated to maximize the personal benefit from undisclosed inside information.’ ”
No. 84 Employer-Teamster Joint Council Pension Trust Fund v. America West Holding Corp., No. 01-16725,
320 F.3d 920, 937 (9th Cir.2003),
citing In re Apple Computer Sec. Litig.,
886 F.2d 1109, 1117 (9th Cir.1989),
cert. denied,
496 U.S. 943 , 110 S.Ct. 3229 , 110 L.Ed.2d 676 (1990).
Whether there is an unusual or suspicious pattern of insider trading may be gauged by such factors as timing of the sales (how close to the class period’s high price), the amount and percentage of the seller’s holdings sold, the amount of profit
*594
the insider received, the number of other insiders selling, or a substantial change in the volume of insider sales.
Rothman,
220 F.3d at 94 ;
Nathenson v. Zonagen, Inc.,
267 F.3d 400, 420-21 (5th Cir.2001);
Florida State,
270 F.3d at 659;
In re Advanta Sec. Litig.,
180 F.3d 525, 540-41 (3d Cir.1999);
Greebel v. FTP Software, Inc.,
194 F.3d 185, 197-98 (1st Cir.1999);
Helwig v. Vencor, Inc.,
251 F.3d 540, 551-52 (6th Cir.2001)(en
banc), cert. dismissed,
536 U.S. 935 , 122 S.Ct. 2616 , 153 L.Ed.2d 800 (2002). There is no
per se
rule for what constitutes illicit insider trading, and each case must be decided on its own facts.
In re Scholastic Corp. Sec. Litig.,
252 F.3d 63, 74 (2d Cir.2001),
cert. denied,
534 U.S. 1071 , 122 S.Ct. 678 , 151 L.Ed.2d 590 (2001).
See also Greebel,
194 F.3d at 198 (Cautioning that “mere pleading of insider trading, without regard to either context or the strength of the inferences to be drawn, is not enough”).
Context is critical to the analysis. For example, sudden and substantial trading may not be suspicious where the seller was legally prohibited from trading during the period before the alleged insider trading.
See, e.g., No. 84,
320 F.3d 920, 940 ,
Ronconi,
253 F.3d at 436 . Readily available, plausible explanations for a sale, such as that the insider is leaving the company or retiring in a few months might make a sale nonsuspicious.
Greebel,
194 F.3d at 206 (“It is not unusual for individuals leaving a company ... to sell shares. Indeed they often have a limited period of time to exercise their company stock options.”). If an insider sells when the stock price is not at a high point or
after,
rather than before, he has delivered negative news about the corporation that causes the stock price to decline, the sale may not be suspicious.
Id.
at 206-07 ;
see also Ronconi,
253 F.3d at 435 (when an insider dramatically “misses the boat,” e.g., sells the majority of his stock in October at prices between $52 7/8 and $56 1/4 per share and the share price rises to $73 the next March, the sale does not support an inference of scienter);
In re The Vantive Corp. Sec. Litig.,
283 F.3d 1079, 1093-94 (9th Cir.2002)(doubtful that defendant “was operating on ‘inside knowledge’ ” because “he sold the overwhelming majority of shares for between $20 and $24 per share, when the price of the stock continued to increase in the several months following these sales, and ultimately peaked at $39”). Similarly, an insider’s “sales do not support the ‘strong inference’ required by the statute where the rest of the equally knowledgeable insiders act in a way inconsistent with the inference that the favorable characterizations of the company’s affairs were known to be false when made.”
Ronconi,
253 F.3d at 436 . Moreover, a long class period may inflate the number of sales if the number of its months are not carefully considered.
Vantive,
283 F.3d at 1094-95 . If an insider is in a significant position “to know the ‘true’ facts” and sells only 13% of his shares over a fifteen-month period, “his trading percentage belies any intent to rid himself of a substantial portion of his holdings.”
Id.
at 1094 . A newcomer to a corporation may have no relevant trading history.
Id.
at 1095 . The Ninth Circuit has proclaimed, “When a complaint fails to provide us with a meaningful trading history for purposes of comparison, we have been reluctant to attribute significance to the defendant’s stock sales, even when the percentages of stock sold by an insider were far more suspicious” than a sale of 48% of holdings.
Id.,citing Ronconi,
253 F.3d at 435-36 (refusing to conclude that an insider that sold 98% of her shares over the class period had engaged in suspicious trading because plaintiff provided no trading history).
B. Section 11 Under the 1933 Act
A plaintiff states a claim under Section 11 if he alleges that he purchased
*595
a security and that the registration statement contained a false or misleading statement regarding a material fact.
Herman & MacLean v. Huddleston,
459 U.S. 375, 381-82 , 103 S.Ct. 683 , 74 L.Ed.2d 548 (1983)(“Section 11 of the 1933 Act allows purchasers of a registered security to sue certain enumerated parties [the issuer, its directors or partners, underwriters and accountants who are named as having prepared or certified the registration statement] in a registered offering when false or misleading information is included in a registration statement.”). Unlike under § 10(b), under § 11 the plaintiff generally does not have to establish scienter,
13
causation (materiality) or reliance.
Id.
at 382, 103 S.Ct. 683 ;
Shaw v. Digital Equipment Corp.,
82 F.3d 1194, 1222 (1st Cir.1996);
Alpern v. UtiliCorp United, Inc.,
84 F.3d 1525, 1541 (8th Cir.1996).
A statutory exception to the no-reliance-requirement rule is found in the last paragraph of § 11, 15 U.S.C. § 77k(a), which reads,
If such person acquired the security after the issuer has made generally available to its security holders an earning statement covering a period of at least twelve months beginning after the effective date of the registration statement, then the right of recovery under this subsection shall be conditioned on proof that such person acquired the security relying upon such untrue statement in the registration statement or relying upon the registration statement and not knowing of such omission, but such reb-anee may be established without proof of the reading of the registration statement by such person.
Under 17 C.F.R. § 230.158 , the term “effective date” in this final paragraph is defined as follows:
For purposes of the last paragraph of section 11(a) only, the “effective date of the last registration statement” is deemed to be the date of the latest to occur of (1) the effective date of the registration statement: (2) the effective date of the last post-effective amendment to the registration statement, next preceding a particular sale by the registrant of registered securities to the public filed for purposes of (i) including any prospectus required by section 10(a)(3) of the. Act, (ii) reflecting in the prospectus any facts or events arising after the effective date of the registration statement (or the most recent post-effective amendment thereof) which, individually or in the aggregate, represent a fundamental change in the information set forth in the registration statement, or (in) including any material information with respect to the plan or distribution not previously disclosed in this registration statement or any material change to such information in the registration statement, or (3) the date of filing of the last report of the registrant incorporated by reference into the prospectus, and relied upon in lieu of filing a post-effective amendment for purposes of paragraphs (c)(2)(i) and (ii) of this rule, next preceding a particular sale by the registrant of registered securities to the public.
Among the statutory defenses available under Section 11 of the 1933 Act to any defendant, except an issuer, that signs a registration statement containing an allegedly materially false or misleading state
*596
ment, are that (1) the person conducted a “reasonable investigation” under § ll(b)(3)(A)(the “due diligence” defense); and (2) the person “had no reasonable ground to believe and did not believe ... that the statements [made or certified by an expert] were untrue” and thus relied on the opinion of the expert under § 11(b)(3)(C).
14
The defendant bears the burden of proof for his affirmative defense according to the express language of § ll(b)(“[N]o person, other than the issuer, shall be hable ... who shah sustain the burden of proof ....”). 15 U.S.C. § 77k(b)(l)(3).
The standard for determining “reasonableness” in a “reasonable investigation” and “reasonable ground for belief’ in the two affirmative defenses is a negligence standard, i.e., “that required of a prudent man in the management of his own property.” 15 U.S.C. § 77k(c);
In re Software Toolworks, Inc.,
50 F.3d 615, 621 (9th
Cir.1994)(citing Ernst & Ernst v. Hochfelder,
425 U.S. 185, 208 , 96 S.Ct. 1375 , 47 L.Ed.2d 668 (1976)),
cert. denied sub nom. Montgomery Securities v. Dannenberg,
516 U.S. 907 , 116 S.Ct. 274 , 133 L.Ed.2d 195 (1995);
In re Gap Stores Sec. Litig.,
79 F.R.D. 283, 297-98 (N.D.Cal.1978). Adequate due diligence “is a question of degree, a matter of judgment in each case.”
Escott v. BarChris Const. Corp., 283
F.Supp. 643, 697 (S.D.N.Y.1971);
Feit v. Leasco Data Processing Equipment Corp.,
332 F.Supp. 544, 577 (E.D.N.Y.1971)(defendants “must make an investigation reasonably calculated to reveal all of those facts which would be of interest to a reasonably prudent man.”).
The SEC has identified the following as “[c]ireumstances affecting the determination of what constitutes reasonable investigation for the due diligence affirmative defense under section 11 of the Securities Act”:
(a) The type of issuer;
(b) The type of security;
(c) The type of person;
*597
(d) The office held when the person is an officer;
(e) The presence or absence of another relationship to the issuer when the person is a director or proposed director;
(f) Reasonable reliance on officers, employees, and others whose duties should have given them knowledge of the particular facts (in light of the functions and responsibilities of the particular person with respect to the issuer and the filing);
(g) When the person is an underwriter, the type of underwriting arrangement, the role of the particular person as an underwriter and the availability of information with respect to the registrant; and
(h) Whether, with respect to a fact or document incorporated by reference, the particular person had any responsibility for the fact or document at the time of the filing from which it was incorporated.
17 C.F.R. § 230.176 .
Although the reasonableness of a defendant’s investigation or reasonable ground for his belief in and reliance on an expertised financial statement or expert report is usually a question for the jury, it may become a question of law on summary judgment where “only one conclusion about the conduct’s reasonableness is possible,” in other words, where “undisputed facts leave no room for a reasonable difference of opinion” and “no rational jury could conclude that the defendant had not acted reasonably.”
In re Software,
50 F.3d at 621-22 ,
citing TSC Indus. v. Northway, Inc.,
426 U.S. 438 , 450 & n. 12, 96 S.Ct. 2126 , 48 L.Ed.2d 757 (1976). Nevertheless, reasonableness in this context is “not a question properly resolved on a motion to dismiss.”
Griffin v. Paine-Webber Inc.,
84 F.Supp.2d 508, 513 (S.D.N.Y.2000).
See also Lone Star Ladies Inv. Club v. Schlotzsky’s Inc.,
238 F.3d 363, 369 (5th Cir.2001)(Due diligence in response to a § 11 claim “is an affirmative defense that must be pleaded and proved.”);
In re Cendant Litig.,
60 F.Supp.2d 354, 365 (D.N.J.1999)(inappropriate to dismiss claims based on affirmative defense before summary judgment stage because contents of documentary evidence cannot be considered for truth of content beforehand);
In re International Rectifier Sec. Litig.,
No. CV91-3357-RMT(BQRX), 1997 WL 529600 , *7 (C.D.Cal. Mar.31, 1997)(“To the extent that the underlying facts are undisputed, the adequacy of the diligence may be appropriately decided on summary judgment.”).
C. Controlling Person Liability Under the 1933 and 1934 Acts
The language establishing the statutory defense to controlling person liability under § 15 of the 1933 Act, 15 U.S.C. § 77o (2002),
15
differs from that describing the defense to controlling person liability under § 20(a) of the 1934 Act, 15 U.S.C. § 78t(a)(2002).
16
Specifi
*598
cally § 15 provides that controlling persons are liable if they fail to prevent a violation of § 11 or § 12 of the 1933 Act unless “the controlling person had no knowledge of or reasonable ground to believe in the existence of the facts by reason of which the liability of the controlled person is alleged to exist,” while a defendant to a § 20(a) claim must show that he “acted in good faith and did not directly or indirectly induce the act or acts constituting the violation or cause of action.” Because the Fifth Circuit views § 15 and § 20(a) as analogues, however, it gives them the same interpretation.
Pharo v. Smith,
621 F.2d 656, 673 (5th Cir.1980);
G.A. Thompson & Co. v. Partridge,
636 F.2d 945 , 958
&
n. 22 (1981). Furthermore, under Fifth Circuit precedent, while lack of participation and good faith constitute an affirmative defense to one charged with controlling person liability under either federal Act, the plaintiff has the burden of establishing control, while the defendant must prove good faith.
Partridge,
636 F.2d at 958 & n. 23. Thus for a
prima facie
case of controlling person liability, a plaintiff is not required to plead facts showing that the defendant acted in bad faith.
A number of courts have held that a corporation’s Audit Committee members, who are authorized to sign and do sign the corporation’s financial documents and registration statements, are controlling persons for liability under § 20(a) in the 1934 Act.
In re Lernout,
286 B.R. at 39-40 ,
citing and quoting In re Livent, Inc. Noteholders Sec. Litig.,
151 F.Supp.2d 371, 437 (S.D.N.Y.2001)(“An outside director and audit committee member who is in a position to approve a corporation’s financial statements can be presumed to have ‘the power to direct or cause the direction of the management and policies of the corporation, at least insofar as the ‘management and policies’ referred to relate to ensuring a measure of accuracy in the contents of the company reports and SEC registrations that they actually sign.”);
In re Reliance,
135 F.Supp.2d at 518 (finding a “genuine issue of material fact” when an outside director “served on subcommittees relating to the oversight of [the corporation’s] accounting and reporting practices”);
Jacobs v. Coopers & Lybrand, LLP,
1999 WL 101772 , *18 (S.D.N.Y. Mar.1, 1999)(“[T]hough his status as a director who allegedly served on the audit committee alone would not raise the inference that Hirsch was a § 20(a) controlling person, the allegations that he signed a fraudulent 10-K form does raise this inference .... ”).
D. Section 20A of the 1934 Act
As an alternative to constituting a primary violation of § 10(b) as a “deceptive device” in connection with the sale or purchase of securities or a basis for raising a strong inference of scienter for a § 10(b) claim, insider trading can also constitute a derivative violation under § 20A of the 1934 Act. The Insider Trading and Securities Fraud Enforcement Act of 1988, Pub.L. No. 100-704, 102 Stat. 4677 (1988), added § 20A to the Exchange Act, as amended, 15 U.S.C. § 78t-1. Section 78t-1(a) provides in relevant part:
Any person who violates any provision of this chapter or the rules and regulations thereunder by purchasing or selling a security while in possession of material, nonpublic information shall be liable ...
*599
to any person who, contemporaneously with the purchase or sale of securities that is the subject of such violation, has purchased ... or sold ... securities of the same class.
Section 20A, unlike § 10(b), targets only insider trading and provides an express private cause of action against “[a]ny person who violates any provision of this chapter or the rules or regulations thereunder by purchasing or selling a security while in possession of material nonpublic information .... ”
To plead a § 20A cause of action, the plaintiff must (1) allege a requisite independent, predicate violation of the Exchange Act (or its rules and regulations), e.g., § 10(b),
17
and (2) show that he has standing to sue under § 20A because he “contemporaneously with the purchase or sale of securities that is the subject of such violation has purchased ... or sold ... securities of the same class” as the insider defendant. 15 U.S.C. § 78t-1(a).
Arising “from a recognition that ‘[s]ince identifying the party in actual privity with the insider is virtually impossible in trades occurring on an anonymous public market, the contemporaneous standard was developed as a more feasible avenue by which to sue insiders.’ ”
In re MicroStrategy, Inc.,
115 F.Supp.2d 620, 662 (E.D.Va.2000)(“Thus, by requiring a showing of contemporaneity in the trades by the insider and the suing investor, Section 20A seeks to ensure that, where contractual privity would otherwise be impractical if not impossible to show, there nonetheless was a sufficiently close temporal relationship between the trades that the investor’s interests were implicated by trades made by the insider while in possession of material, nonpublic information.”).
Nevertheless, § 20A does not define the word, “contemporaneous,” and there is no clear agreement about how long a period between the trade by the defendant and the purchase by the plaintiff is permissible. Different courts have found that “contemporaneity” requires the insider and the investor/plaintiff to have traded anywhere from on the same day, to less than a week, to within a month, to “the entire period while relevant and nonpublic information remained undisclosed.”
In re MicroStrategy,
115 F.Supp.2d at 662 -63
&
nn. 83-85,
citing
cases (1) requiring trading on the same day:
Copland v. Grumet,
88 F.Supp.2d 326, 338 (D.N.J.1999)
18
;
In re AST Research Sec. Litig.,
887 F.Supp. 231, 234 (C.D.Cal.1995);
In re Aldus,
No, C92-885C, 1993 WL 121478 , at *7 (W.D.Wash. Mar.1, 1993); and
In re Stra
*600
tus Computer, Inc. Sec. Litig.,
No. Civ. A 89-2075-7, 1992 WL 73555 , at *5 (D.Mass. Mar.27, 1992); (2) requiring trading within a few days of each other:
In re Oxford Health Plans, Inc., Sec. Litig.,
187 F.R.D. 133, 138 (S.D.N.Y.1999)(five-day gap);
In re Cypress Semiconductor Litig.,
836 F.Supp. 711 (N.D.Cal.1993)(same); and
In re Engineering Animation Sec. Litig.,
110 F.Supp.2d 1183 (S.D.Iowa 2000)(three-day gap); and (3) allowing trading during the entire period of nondisclosure of material nonpublic information:
In re Am. Bus. Computers Corp. Sec. Litig.,
[1995 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 98 ,-839, at 93,055 (S.D.N.Y. Dec. 9, 1995). In
In re Musicmaker.com Sec. Litig.,
No. CV00-2018 CAS (MANX), 2001 WL 34062431 , at *27 (C.D.Cal. June 4, 2001), the district court pointed out that cases cited in the Report of the House of Representatives (H.R.Rep. No. 910, 100th Cong., 2d Sess. 27 (1988),
reprinted in
1998 U.S.C.C.A.N. 6043, 6064) regarding § 20A suggest that an appropriate time period might be less than a week:
Wilson v. Comtech Telecommunications Corp.,
648 F.2d 88, 94-95 (2d Cir.1981)(trades one month apart were not contemporaneous)
19
;
Shapiro v. Merrill Lynch, Pierce Fenner & Smith, Inc.,
495 F.2d 228, 241 (2d Cir.1974)(trades less than a week apart were contemporaneous); and
O’Connor & Associates v. Dean Witter Reynolds, Inc.,
559 F.Supp. 800, 803 (S.D.N.Y.1983)(same). Furthermore, given the realities of modern securities markets, some courts have recognized a growing trend among federal district courts to read “contemporaneous” narrowly, at least regarding securities traded in large amounts on the biggest national exchanges.
In re MicroStrategy,
115 F.Supp.2d at 662 & n. 87 (“as the securities markets become more effective at tracking insider sales and thereby assimilating and dissipating the unfair advantage possessed by insiders, the less likely it becomes that a temporally remote purchaser would have been harmed by the insider sales”)(and cases cited therein);
In re AST Research Sec. Litig.,
887 F.Supp. 231, 233 (C.D.Cal.1995). Moreover, a restrictive reading of the term serves the “privity-substitute function” of the provision while simultaneously “guard[ing] against ‘mak[ing] the insider liable to the world.’ ”
In re MicroStrategy,
115 F.Supp.2d at 663 . Persuaded by such reasoning, this Court finds that two or three days, certainly less than a week, constitute a reasonable period to measure the contemporaneity of a defendant's and a plaintiffs trades under § 20A. Moreover, the plaintiffs trades must have taken place after the challenged insider trading transaction.
Alfus v. Pyramid Technology Corp.,
745 F.Supp. 1511, 1522 (N.D.Cal.1990)(and cases cited therein).
Section 20A does not bar a plaintiff from simultaneously suing under any pre-exist-ing implied cause of action under other provisions of the securities laws (such as § 10(b)). 15 U.S.C. § 78t-1(d)(“Nothing in this section shall be construed to limit or condition the right of any person to bring an action to enforce a requirement of this chapter or the availability of any cause of action implied from a provision of this chapter [the 1934 Act].”). Indeed, the remedies established by the federal securities laws are intended to be cumulative.
Herman & MacLean v. Huddleston,
459 U.S. 375, 386-87 , 103 S.Ct. 683 , 74 L.Ed.2d 548 (1983). Nevertheless, in
O’Hagan ,
where a party was liable
for
insider trading as a primary violation under § 10(b), the Supreme Court found there was no reason to address liability under § 20A.
*601
O’Hagan,
521 U.S. at 666 n. 11, 117 S.Ct. 2199 .
Aside from the requirements of a predicate violation of § 10(b) and of contemporaneity, up until recently statute-of-limitations differences between § 10(b) and § 20A may have affected a plaintiffs decision whether to assert a cause of action for insider trading under § 10(b) or under § 20A. Because the implied right of action under § 10(b) was judicially created and lacked a statute of limitations, the Supreme Court for purposes of uniformity applied the one-year-after-discovery /no-later-than-three-years-after-violation limitations and repose period derived from other, express causes of action under the 1934 Act.
See Lampf, Pleva, Lipkind, Prupis & Petigrow v. Gilbertson,
501 U.S. 350, 359-60 , 111 S.Ct. 2773 , 115 L.Ed.2d 321 (1991).
20
In contrast, Congress, concerned with the obstacles to discovering evidence of insider trading, enacted § 20A as an express private right of action and as one of “a variety of measures designed to provide greater deterrence, detection and punishment of violations of insider trading,” and provided it with a longer, five-year statute of limitations. 15 U.S.C. § 78t—1(b)(4) (“No action may be brought under this section more than 5 years after the date of the last transaction that is the subject of the violation.”) than § 10(b);
Lampf, Pleva, Lipkind, Prupis & Petigrow v. Gilbertson,
501 U.S. 350, 361 , 111 S.Ct. 2773 , 115 L.Ed.2d 321 (1991)(“20A is ‘one of a variety of measures designed to provide greater deterrence, detection and punishment of violations of insider trading’ ”),
citing
H.R.Rep. No. 100-910 at p. 7 (1988);
Ceres Partners v. GEL
Assocs., 918 F.2d 349 , 363 (2d Cir.1990).
Other factors may also influence a plaintiff in deciding which of the two statutes to use. Under section 20A(a), damages are limited to “the profit gained or loss avoided in the transaction or transactions that are the subject of the violation.” Moreover, any recovery must be offset by any sum the violator is required to disgorge in a parallel action brought by the SEC. 15 U.S.C. § 78t-1(b)(2).
E. The Texas Securities Act (“TSA”)
Many Defendants in this litigation have objected to the fact that Plaintiff failed to specify under which provision(s) of the TSA its claims were brought. In this Court’s first memorandum and order (# 1194), the Court quoted what it determined were the potentially applicable sections
21
of Article 581-33 of the Texas Se
*602
curities Act, Tex.Rev.Civ. Stat. (Vernon’s Supp.2002), and discussed some of the legal requirements under them to determine whether Lead Plaintiff had stated a claim against some of the underwriters and Arthur Andersen or demonstrated that it potentially could state one, and should be permitted to amend to do so, under the TSA. The Court found that it had stated a claim for seller liability under article 581-33A(2), but deferred ruling on controlling person liability until it reviewed the individual defendants’ motions to dismiss. While reviewing the challenges raised by the Outside Directors, it has become apparent to this Court during its research into the legislative history and modifications to the statute and limited Texas and federal case law addressing the relationship among the various provisions, that this Comb must (1) refine its conclusions of law regarding the statute and (2) order Lead Plaintiff to clarify which section(s) of the statute it sues each defendant under and to amend/supplement its complaint to meet the pleading requirements for each section applicable to that defendant.
A restricted version of what is now article 581-33,
22
addressing only seller liability, was first added to the TSA in 1941; subsequently it was amended in 1955, 1963, and 1977. Hal M. Bateman,
Securities Litigation: The 1977 Modernization of Section 33 of the Texas Securities Act,
15 Houston L.Rev. 839, 840-63 (1978). of special import are the 1977 amendments, which gave rise to the current law. The structure of the revised statute, while reaching more parties than merely sellers, simultaneously indicates that a more particularized analysis and pleading are required than the Court has previously discussed to state a claim under one or more of its provisions.
The Court in its first memorandum and order (# 1194) discussed the broad definition of “seller” in the TSA established by the Texas Supreme Court in
Brown v. Cole,
155 Tex. 624, 629 , 291 S.W.2d 704, 708 (1956), i.e., “the seller may be any link in the chain of the selling process. He is the one who performs ‘any act by which a sale is made.’ ” That definition has been cited and applied in a number of cases since.
See, e.g., Rio Grande Oil Co. v. State,
539 S.W.2d 917, 922 (Tex.Civ.App.—Houston [1st Dist.] 1976, writ ref d n.r.e.);
Texas Capital Securities, Inc. v. Sandefer,
58 S.W.3d 760, 775-76 (Tex.App.—Houston [1st Dist.] 2001, pet. denied)(stock broker a link in the chain of the selling process under current version of art. 581-33A(2)). In
Brown v. Cole,
the high court affirming that the defendant in the underlying suit, Brown, who was not only not the primary wrongdoer, but was also unaware of the
*603
wrongdoing by the primary violators and had himself been scammed by those same individuals, to be liable as a seller under the TSA. It found “seller” liability because Brown had been “involved” (i.e., had discussed the proposal, written for information, called the sellers, suggested and paid for a trip to Mexico related to the sale of securities, and instructed on the manner of payment, and “but for Brown’s activities and repeated efforts the respondents would not have participated in the transaction”) in the negotiations leading up to the purchase by two others.
Id.,
291 S.W.2d at 709 ; Bateman,
Securities Litigation: The 1977 Modernization of Section 33 of the Texas Securities Act,
15 Houston L.Rev. at 852.
The 1956 decision in
Brown v. Cole
addresses the statutory language of the predecessor to article 581-33, before both the 1963 and, more importantly, the critical 1977 amendments. In response to the expansive potential for liability of defendants under the 1956
Brown v. Cole
holding, “the 1977 Texas legislature substantially revised and modernized section 33 ...” (1) to limit plaintiffs under 33A(2) to those who bought securities from the defendant they are suing (a privity requirement); (2) to add affirmative defenses under subdivision 33A(2) for a defendant/buyer, who may show (a) that the plaintiff actually knew of the alleged untruth or misrepresentation made by the sellers or (b) that the buyer used reasonable care and due diligence and did not know of the untruth or omission; and (3) to add subdivision F(l) and (2), broadening the statute’s reach beyond sellers by imposing liability for control persons and aiders and abettors, balanced by limiting in part a defendant’s vulnerability through new proof requirements or affirmative defenses, discussed subsequently in this memorandum and order. Bateman,
Securities Litigation: The 1977 Modernization of Section SS of the Texas Securities Act,
15 Houston L.Rev. at 847, 852.
These subsequent revisions made
Brown v. Cole’s
broad definition of seller (“any link in the chain of the selling process”) no longer necessary or appropriate.
Frank v. Bear,
11 S.W.3d 380, 383 (Tex. App.-Houston [14th Dist.] 2000, review denied). To impose seller liability under the article 581-33(A)(2), a plaintiff must be in privity with the defendant, i.e., the plaintiff must have bought his securities from the defendant whom the plaintiff is suing.
Frank, 11
S.W.3d at 383. The court in
Frank
noted, “The comments to the 1977 revisions to the [TSA] contain the notation that the section in question ‘is a privity provision, allowing a buyer to recover from his offeror or seller ... ’ ” and that “ ‘some nonprivity defendants may be reached’ under other sections of the Act not applicable here.”
Id.; see also
Comment—1977 Amendment to Tex. Civ.Rev.Stat. Ann. art. 581-33 A(2) at 82 (Vernon’s Supp.2003)(applying to subdivision A(2) the comment regarding A(1), i.e., “... [S]ome nonprivity defendants may be reached under § .... 33F.”).
Nevertheless, this Court notes that while the statute requires some kind of undefined privity relationship between the defendant and the purchaser in the process of offering to sell or in the sale of securities, the statutory definitions of “sale,” “sell,” and “offer for sale,” Tex. Rev.Civ. Stat. Ann. art 581-4(E), still remain broad.
23
See, e.g., Lutheran Broth.
*604
v. Kidder Peabody & Co., Inc.,
829 S.W.2d 300, 306-07 (Tex.App.—Texarkana 1992)(placement agent who acted as seller’s agent in making misrepresentations in a private placement memorandum and in the placement and offering of bonds, and who dealt directly with plaintiffs in doing so, was a “seller” within the meaning of the TSA; “one who ‘offers or sells’ a security is not limited to those who pass title” and “sell” is defined by the statute “as any act by which a sale is made, including a solicitation to sell, an offer to sell, or an attempt to sell”),
judgment set aside and case remanded for entry of judgment in accordance with settlement,
840 S.W.2d 384 (Tex.1992);
Texas Capital Securities, Inc. v. Sandefer,
58 S.W.3d 760, 775 (Tex.App.—Houston [1st Dist.] 2001, review denied)(brokerage firm liable for stock broker’s untruth or omission to stock purchasers; TSA “applies to persons in corporations who offer or sell unregistered securities”). Furthermore, although the statute uses the language “attempt to sell” and “offer to sell” in its definition section, it is clear that article 581-33A(2) contemplates that the sale must have been effected because the buyer “may sue either at law or in equity for rescission, or for damages.”
The Fifth Circuit, in
Huddleston v. Herman & MacLean,
640 F.2d 534, 551 (5th Cir.1981),
aff'd in part and reversed in part on other grounds,
459 U.S. 375 , 103 S.Ct. 683 , 74 L.Ed.2d 548 (1983), interpreted the statute and Texas case law regarding it as follows:
The Texas courts have interpreted the term “seller” in the TSA to include those who are not direct vendors and thus not in strict privity with the claimant. See Bordwine, Civil Liability Under the Texas Securities Act § 33 (1977) and Related Claims, 32 Sw. L.J. 867 , 881 (1978)(pre-1977 decisions gave “seller” an astoundingly broad meaning.). However, in
Stone v. Enstam,
541 S.W.2d 473 (Tex.Civ.App.1976), the Texas Court distinguished
Brown v. Cole
as a case involving an active negotiator whose efforts resulted in the sale and limited the term “seller” to the actual seller and one who acts as an agent for either the buyer or seller in carrying out the sale itself. 541 S.W.2d at 480 . This decision limits the TSA to those who are actively engaged in the sale process and prevents it from reaching those who merely participate in preparing an offering. See Bromberg . . . at 885-90 . . . .
640 F.2d at 551 . The Fifth Circuit continued,
We find further support for this construction of the Texas cases in the TSA’s legislative history and analogy to the federal provisions on which the Texas statute was based. The comments to both the 1963 and 1977 amended versions of Section 33 of the TSA refer to Section 12 of the 1933 Act, 15 U.S.C. §
77l,
which served as the basis for the drafting of the Uniform Securities Act, the model used in the 1963 and 1967 Texas enactments.... We have held that under Section 12 of the 1933 Act the term “seller” is limited “(i) to those in privity with the purchaser and (ii) to those whose participation in the buy-sell
*605
transaction is a substantial factor in causing the transaction to take place. Mere participation in the events leading up to the transaction is not enough.”
Pharo v. Smith,
621 F.2d 656, 667 (5th Cir.1980).
See Lewis v. Walston & Co.,
487 F.2d 617, 621 (5th Cir.1973). We have refused to extend Section 12 to include aiders, abettors and controlling persons as sellers.
Croy v. Campbell,
624 F.2d 709 , 713 n. 5 (5th Cir.1980). . . . [some citations omitted]
Id.
at 551 n. 27.
In 1988 the Supreme Court issued a significant ruling about who could be sued as a statutory “seller” under § 12(l)(“[a]ny person who ... offers or sells a security” in violation of the 1933 Act’s registration requirement “shall be hable to the person purchasing such security from him”) and clearly rejected the Fifth Circuit’s overly broad “substantial-factor” test for “seller” liability.
Pinter v. Dahl,
486 U.S. 622, 653-54, 648-54 , 108 S.Ct. 2063 , 100 L.Ed.2d 658 (1988).
24
The First Circuit, in
Shaw v. Digital Equip. Corp.,
82 F.3d 1194, 1214 (1st Cir.1996), relying on cases from the Seventh, Third, Ninth and Second Circuits, applied the rule in
Pinter
to § 12(2) because the two provisions share nearly identical language.
25
The Fifth Circuit in turn relied on the analysis in
Pinter
and
Shaw
in determining whether an issuer in a firm commitment offering can be a “seller” within the meaning of § 12(2).
Lone Star Ladies Inv. Club,
238 F.3d at 369-70 .
In
Pinter ,
the Supreme Court held that even though the statutory language of § 12(1) suggests a “buyer-seller relationship not unlike traditional contractual privity,” one need not have been the person who actually “transfers title to, or any other interest in, that property” to the purchaser to be liable as a “seller” under § 12. 486 U.S. at 642-43 , 108 S.Ct. 2063 . The high court examined the definition of “sale” and “sell”, which includes “ ‘every contract of sale or disposition of a security or interest in a security for value,’ ” and of the language “ ‘offer to sell,’ ” “ ‘offer for sale’ ” or “ ‘offer,’ ” which encompasses “every attempt or offer to dispose of, or solicitation of an offer to buy, a security or interest in a security, for value,’ ” in § 2(3), 15 U.S.C. § 77b(3). 486 U.S. at 643 , 108 S.Ct. 2063 . These words bring not only the person who passes title, but also the person who engages in solicitation within the “offer” or “sale” transactions that are covered by the statute, which is “ ‘expan
*606
sive enough to encompass the entire selling process, including the seller/agent transaction.’ ”
Id.
With respect to the second clause of § 12(1), “purchasing such security from him,” the Supreme Court concluded that the purchase requirement limits liability to situations where a sale has taken place.
Id.
at 644, 108 S.Ct. 2063 . The high court stated that § 12(1) “imposes liability on only the buyer’s immediate seller; remote purchasers are precluded from bringing actions against remote sellers. Thus a buyer cannot recover against his seller’s seller.”
Id.
at 644, 108 S.Ct. 2063 n. 21 . As examples of persons other than securities’ owners who might be liable as sellers under § 12,
Pinter
pointed to brokers or agents of vendors that solicited the purchase.
Id.
The Supreme Court noted that “solicitation is the stage at which an investor is most likely to be injured, that is, by being persuaded to purchase securities without full and fair information” and therefore imposition of liability on successful solicitors that do not own the securities serves the policy of adequate disclosure underlying the statute.
Id.
at 647 , 108 S.Ct. 2063 . The Supreme Court did place a restriction on such solicitor liability: “The language and purpose of § 12(1) suggest that liability extends only to the person who successfully solicits the purchase, motivated at least in part to serve his own financial interests or those of the securities owner.”
Id.
Under such circumstances, “it is fair to say that the buyer ‘purchased’ the security from him and to align him with the owner in a rescission action.”
Id.
Applying the
Pinter
holding to § 12(2), the First Circuit held in
Shaw
that because “the issuer in a firm commitment underwriting does not pass title to the securities, [the issuer and its officers] cannot be held liable as ‘sellers’ under Section 12(2) unless they actively ‘solicited’ the plaintiffs’ purchase of securities to further their own financial motives.”
Shaw,
82 F.3d at 1214-15 ,
citing Ackerman v. Schwartz,
947 F.2d 841, 844-45 (7th Cir.1991);
In re Craftmatic Sec. Litig.,
890 F.2d 628, 635 (3d Cir.1989);
Moore v. Kayport Package Express, Inc.,
885 F.2d 531, 536 (9th Cir.1989); and
Wilson v. Saintine Exploration and Drilling Corp.,
872 F.2d 1124, 1125-26 (2d Cir.1989).
The Fifth Circuit has embraced the holding in
Shaw
and applied the
Pinter
rule in a similar § 12(2) claim case.
Lone Star Ladies Inv. Club,
238 F.3d at 369-70 . It concluded that although ordinarily in a firm commitment underwriting, the issuer is immune because the investor is not buying from the issuer, where the issuer actively solicits the sale of the securities, and thus becomes an agent of the securities vendor, the issuer may be hable as a “seller” under the statute.
Id.; Shaw,
82 F.3d at 1215 (to be hable as a seller one must “actively” solicit the purchase of securities by the plaintiff “to further [his] own financial motives, in the manner of a broker or vendor’s agent”).
It appears to this Court that, along with the holding of
Frank v. Bear,
the
Pinter
rule, embraced by the Fifth Circuit in
Lone Star Ladies Inv. Club ,
applies to seller liability under article 581-33A(2), which is ultimately based on § 12(2) and embodies similar language and definitions.
As noted previously, under subdivision 33A(2), the purchaser need not show reliance on the seller’s misrepresentation or omission, nor need he prove scienter.
See, e.g., Weatherly v. Deloitte & Touche,
905 S.W.2d 642, 648-49 (TexApp.—Houston [14th Dist.] 1995, writ dism’d w.o.j.)(no reliance required),
petition for mandamus denied,
951 S.W.2d 394 (Tex.1997);
Summers v. WellTech, Inc.,
935 S.W.2d 228, 234 (Tex.App.—Houston [1st Dist.] 1996, no writ)(same);
Wood v. Combustion Eng’g, Inc.,
643 F.2d 339, 345 (5th Cir.
*607
1981)(no scienter or reliance requirement under subdivision 33A).
Section 33F(1), which imposes joint and several liability for violations of section 33A between a person “who directly or indirectly controls a seller, buyer, or issuer of a security” and that seller, buyer, or issuer, parallels the federal provisions, section 15 under the 1933 Act and section 20(a) under the 1934 Act.
A comment to Sections F(l) and (2) states that the sweeping
Brown v. Cole
definition of “seller” should no longer apply because subdivision F(l) and (2) “provides quite specifically who, besides a person who buys or sells, is liable, and the criteria for such liability.”
Frank,
11 S.W.3d at 383 .
26
Section 33F(1) is interpreted in accordance with Fifth Circuit law relating to those statutes, which this Court has discussed previously. Tex.Rev.Civ. Stat. Ann. § 531-33 comment at 84 (Vernon’s Supp.2003);
Busse v. Pacific Cattle Feeding Fund #1, Ltd.,
896 S.W.2d 807, 814-15 (TexApp.-Texarkana 1995, writ denied)(the term “control person” is “used in the same broad sense as in the federal statutes”);
Frank,
11 S.W.3d at 384 .
27
The test for control person liability under section 33F(1) was established in
Frank,
11 S.W.3d at 384 , based on the Fifth Circuit test in
Abbott v. Equity Group, Inc., 2
F.3d 613, 620 (5th Cir.1993),
cert. denied sub nom. Turnbull v. Home Ins. Co.,
510 U.S. 1177 , 114 S.Ct. 1219 , 127 L.Ed.2d 565 (1994): a plaintiff must show that the controlling person .(1) exercised control over the operations of the corporation generally and (2) had the power to control the specific transaction or activity constituting the primary violation.
See also Barnes v.
SWS
Financial Services, Inc.,
97 S.W.3d 759, 764 (Tex.App.—Dallas 2003). The language of section 33F(1) does not require that a plaintiff show scienter, i.e., that the controlling person knew of or recklessly disregarded the underlying primary violations, but it does provide an affirmative statutory defense to a defendant who pleads and proves that “he did not know, and in the exercise of reasonable care could not have known, of the existence of the facts by reason of which the liability is alleged to exist.” Tex.Rev.Civ. Stat. Ann. § 531-33F(1). Moreover, a plaintiff does not have to sue the controlled person (here Enron Corporation) in order to sue a controlling person.
Summers v. WellTech,
935 S.W.2d at 231 . The comment to 33F(1) states, “The rationale for control person liability is that a control person is in
a
position to prevent the violation and may be able to compensate the injured investor when the primary violator (e.g., a corporate issuer which has gone bankrupt) is not.” Art. 581-33, Comment at 84 (Vernon’s Supp.2002). Furthermore, it states, “Depending on the circumstances, a control person might include an employer, an officer or director, a large shareholder, a ■ parent company, and a management company.”
Id.
*608
Section 33F(2) imposes joint and several liability- on anyone who “directly or indirectly with intent to deceive or defraud or with reckless disregard for the truth or the law materially aids a seller, buyer, or issuer of a security.” Subdivision 38F(2) has no parallel in the federal statutes and, in the wake of
Central Bank of Denver, N.A. v. First interstate Bank of Denver, N.A.,
511 U.S. 164 , 114 S.Ct. 1439 , 128 L.Ed.2d 119 (1994), reaches farther than they do because it authorizes such aiding and abetting liability. The test for aiding and abetting liability under subdivision 33F(2) was also established in
Frank,
11 S.W.3d at 384 : “a plaintiff must demonstrate 1) that a primary violation of the securities laws occurred; 2) that the alleged aider had ‘general awareness’ of its role in this violation; 3) that the actor rendered ‘substantial assistance’ in this violation; and 4) that the alleged aider either a) intended to deceive plaintiff or [b]) acted with reckless disregard for the truth of the representations made by the primary violator.”
See also Crescendo Investments, Inc. v. Brice,
61 S.W.3d 465, 472 (Tex.App.-San Antonio 2001, review denied). Thus, unlike for control person liability, the plaintiff must show that the aider “had the requisite scienter, i.e., intent to deceive or defraud, or reckless disregard.” Tex. Civ. Stat. Ann. art. 531-33F(2) comment at 84 (Vernon’s Supp. 2003). In sum, under the statute as revised in 1977, the standard of pleading and proving culpability is more specific than the earlier versions of the statute permitting liability “only if the aider was a ‘person who sells.’ ”
PENDING MOTIONS
I. Joint Motion of Certain Defendants to Strike Pulsifer Class Action Complaint (# 1042)
Because the motion to strike the Pulsi-fer class action complaint will affect the scope of Outside Directors’ motions to dismiss, the Court addresses it first.
Member case H-02-3010,
Nathaniel Pulsifer, Trustee of the Shooters Hill Revocable Trust v. Kenneth L. Lay, et al.,
was filed in this court on August 9, 2002 by the firm of Milberg Weiss Bershad Hynes
&
Lerach, who also serve as Lead Counsel for Plaintiffs in
Newby. Pulsifer
was consolidated into
Newby
on August 22, 2002, months after Lead Plaintiffs consolidated complaint was filed. The
Pulsifer
complaint asserts a class action on behalf of purchasers of Enron 7% Exchangeable Notes due on July 31, 2002 and issued in a debt offering made pursuant to a July 23, 1999 Registration Statement and a Prospectus dated August 10, 1999, against Enron directors and officers, Enron’s outside auditor Arthur Andersen LLP, which consented to the issuance of its audit report, and the underwriters of the offering for violations of the 1933 Act.
The 7% Notes at issue were previously the basis of a claim brought by
Newby
Plaintiff Murray van de Velde, the sole class representative for that claim, regarding whom Lead Plaintiff filed a Notice of Withdrawal on July 31, 2002 (# 979). The Notice of Withdrawal additionally stated that the “withdrawal will have no detrimental effect on the Class and will streamline the class certification discovery that is underway.”
Defendants contend that the
Pulsifer
complaint is “an impermissible unauthorized amendment,” filed without leave of Court, to Lead Plaintiffs consolidated
Newby
class action complaint and should be stricken. They argue that in effect, it “seeks to deconsolidate this case.”
Pulsi-fer
was filed four months after the deadline for filing the consolidated complaint in
Newby
(April 8, 2002), three months after deadline for filing motions to dismiss (May 8, 2002), and six weeks after the deadline for Lead Plaintiffs reply briefs (June 24,
*609
2002). Defendants emphasize that in their pleadings relating to their motions to dismiss, they repeatedly requested that the 7% Notes claim be dismissed with prejudice.
28
Furthermore, in its order of August 7, 2002 (# 983), this Court stayed all claims or complaints not encompassed within the consolidated complaint. Defendants insist that the proposed
Newby
Class, of which Nathaniel Pulsifer is a member, is bound by Lead Plaintiffs representations to this Court that it was dismissing that claim and by the established docket control schedule in
Newby.
In sum, they maintain that the
Pulsifer
complaint is “an unauthorized end run not only around the explicit schedules set by this Court, but consolidation as well.”
In opposition, Plaintiffs answer that the
Pulsifer
complaint was filed to toll the statute of limitations and ensure that its valid § 11, 7%-Note claims were not time-barred. They explain that they would be willing to amend the consolidated complaint to add the
Pulsifer
claims, but have not so moved to avoid piecemeal amendments while the motions to dismiss were pending. Plaintiffs also note the Defendants would not be prejudiced if the Court permitted Lead Plaintiff to amend the consolidated complaint to add the
Pulsifer
claims because even if amendment is not allowed, the claims will be pending against Defendants anyway, but simply as part of a separate action. Plaintiffs emphasize that no additional parties are named, nor are any truly new claims
29
asserted. Furthermore none of the Court’s orders barred the filing of claims or cases to keep the statute of limitations from running. In fact, the Court’s order of August 5, 2002 clearly contemplated that claims outside those in the consolidated complaint would exist, with their claims stayed until closer to class certification stage and subject to the Court’s rulings on the motions to dismiss.
Lead Plaintiff additionally clarifies that the first class action member suit that it filed on behalf of purchasers of the 7% notes was brought by Pulsifer & Associates, an investment advisor. Pulsifer
&
Associates then applied for appointment as Lead Plaintiff in
Newby
for a class composed of the 7% Note purchasers, but the Court decided to appoint one Lead Plaintiff to represent all Enron securities purchasers as a single class. Thereafter, the designated Lead Plaintiff incorporated into the consolidated complaint, (# 441) filed on April 8, 2002, the claims of the 7% Notes purchasers in
Pulsifer & Associates,
added additional Defendants to those sued by the 7% Note purchasers, and brought 7% Note claims under both § 11 and § 10(b).
30
The consolidated complaint’s Count III named Murray van de Velde as Plaintiff and representative of the class for purposes of the § 11, 7%-Note claims to avoid a collateral dispute about whether Pulsifer & Associates was the beneficial purchaser or a nominee for purchasers of the 7% Notes. Subsequently Defendants moved to dismiss the § 11 claims on the grounds that van de Velde did not acquire his notes until November 2001, after Enron had
*610
filed a Form 10-K for 2000, and had failed to plead reliance of the allegedly materially false and misleading registration statement, as required by § 11(a)(5), 15 U.S.C. § 77k(a)(5)(providing that a person who has acquired a security “after the issuer has made generally available to its security holders an earning statement covering a period of at least twelve months beginning after the effect date of the registration statement” must prove actual reliance on the registration statement to recover). Thus, once van de Velde had withdrawn, to insure that Plaintiffs had a 7% Note class representative with standing, Lead Plaintiff decided to substitute Nathaniel Pulsifer, although he is also a principal in Pulsi-fer
&
Associates, to sue this time in his capacity as a trustee of a family trust that had purchased 1000 7% Notes for the trust on January 25, 2000, before “the issuer had made generally available to its security holders an earnings statement covering a period of at least twelve months beginning after the effective date of the registration statement.” 15 U.S.C. § 77k(a)(5). Because Lead Counsel was concerned that the claims would be time-barred by § 13 of the 1938 Act if not filed prior to the three year-anniversary of the first sale of the 7% Notes pursuant to the registration statement on August 10, 1999, and because the Court’s order of August 5, 2002 indicated that it expected other complaints would be filed with claims not embodied within the consolidated complaint and would stay those claims until it resolved the motions to dismiss the consolidated complaint, Lead Plaintiff filed the new suit on August 9, 1999 with a cover letter addressed to Defendants’ counsel, stating, “In accordance with Judge Harmon’s recent orders, our view is that this
Pulsifer
case will be stayed pending the Court’s ruling on the motions to dismiss in
Regents v. Lay.”
Lead Plaintiff emphasizes that it did not voluntarily “waive,” i.e., intentionally relinquish or abandon, all the 7% Note purchasers’ § 11 claims. In response to Defendants’ motions to dismiss, it did state that “Plaintiffs are no longer pursuing their claim with respect to the 7% Exchangeable Notes” and voluntarily withdrew van de Velde as a plaintiff in the face of the challenge that he had failed to plead proof of reliance. Lead Plaintiff also stated in the notice that van de Velde’s withdrawal “will have not detrimental effect on the Class.” Lead Counsel then reinstitut-ed the § 11, 7%-Note claims, a mere nine days later, by filing the
Pulsifer
action. It never withdrew the § 10(b) claims for these investors.
Finally, urges Lead Plaintiff, if the Court decides to strike the
Pulsifer
complaint, it should alternatively also grant leave to amend the consolidated complaint in compliance with the policy of liberal amendment underlying Fed.R.Civ.P. 15(a).
After reviewing the matter, the Court agrees with Lead Plaintiff for the reasons it has argued that the motion to strike should be denied, Defendants have had sufficient notice and suffer no prejudice, especially in light of the stay on discovery, from the nine-day gap between the withdrawal of van de Velde and the instituting of the
Pulsifer
action to assert the same § 11 claims by 7% Note purchasers. Furthermore, the
Pulsifer
action is not the only one asserting claims based on the 7% notes that has been consolidated into
Newby. See, e.g., Headwaters Capital LLC and JAS Securities LLC v. Kenneth Lay et al.,
Member No. H-03-0341, order of consolidation on February 5, 2003 (# 1244 in Newby). Moreover, it also makes practical sense, with respect to efficient use of time throughout discovery and class certification, to permit Lead Plaintiff, when it amends or supplements its complaint to comply with the Court’s determinations on the motions to dismiss, to include the claims in the
Pulsifer
action in the amended or supplemented consolidated
*611
complaint. Thus the Court denies the motion to strike and grants Lead Plaintiff leave to supplement the consolidated complaint with the
Pulsifer
claims once the. Court has finished reviewing the motions to dismiss and sets a deadline for such amendment.
II. Certain Current and Former Directors’ Motion to Dismiss Pursuant to Fed.R.Civ.P. 8(b) [and the PSLRA] (# 661)
Directors argue in generalized fashion that the complaint as to them should be dismissed because it consists of impermissible puzzle pleading, group pleading, and imposition of liability based merely on their high positions in and daily management of Enron.
Although the complaint’s pleading is flawed, the Court disagrees with Movants’ contention that it is totally inadequate, and because the Court is fully capable of “separating the wheat from the chaff,” as it has done in prior orders, the Court denies the motion.
III. Outside Directors’ Motions
A. Outside Directors’ Collective Motion to Dismiss (# 662)
The Outside Director Defendants sat on Enron’s board of directors and served on one or more of Enron’s Executive, Finance or Audit Committees. According to Lead Plaintiff, “dozens of fraudulent transactions the details of which were presented to the Board,” as well as described in the complaint, constituted “major elements of Enron’s business that were accomplished with the full knowledge of their risks and impropriety by the Board.” Moreover, the complaint charges that the Outside Directors’ knowing and reckless “approval of fraudulent transactions, conflicts of interest and deceptive accounting practices were at the center of the fraud .... ” Plaintiffs’ Memorandum of Law in Opposition, # 853 at 2, 1.
Having reviewed the briefing by all parties, the Court only summarizes the arguments made by the Outside Director Defendants in their motions and replies (# 909, 924) and then addresses them directly.
1. Fraud Claims under § 10(b)
In moving for dismissal with prejudice of the claims against them, the Outside Directors (Robert A. Belfer, Norman P. Blake, Jr., Ronnie C. Chan, John H. Duncan, Joe H. Foy, Wendy L. Gramm, Robert K. Jaedicke, Charles A. LeMaistre, John Mendelsohn, Jerome J. Meyer, Paulo V. Ferraz Pereira, Frank Savage, John Wakeham, Charles E. Walker, and Herbert S. Winokur), arguing that none of them is alleged to have made any misrepresentation that might make him or her liable under § 10(b) of the 1934 Act, complain that Lead Plaintiff has divided them into two groups: (1) nine of them who did not sell Enron stock during the Class Period, and who are not charged with fraud (Mendelsohn, Meyer, Pereira, Urquhart,
31
Wakeham, Walker, Winokur, and Savage are sued only under §§ 11 and 15 of the 1933, and the claims against whom are expressly not grounded in fraud, Complaint at ¶ 3 n. 1.); and (2) eight who did sell Enron stock during the Class Period and who are charged with fraud under § 10(b) and § 20A, as well as under §§ 11 and 15 (Belfer, Blake, Chan, Duncan, Foy, Gramm, Jaedicke, and LeMaistre).
32
*612
Those Outside Directors charged with fraud challenge Lead Plaintiffs complaint on several grounds: (1) the complaint’s reliance on impermissible group pleading for its fraud claims, without the specific factual particularity mandated by the PSLRA and Rule 9(b); (2) the complaint’s pleading of scienter based on the trading of Enron stock, when most Outside Directors did not sell any stock, but increased their Enron securities holdings, and when those who did sell, sold only a small portion of their holdings at inauspicious times
33
; and (8) Lead Plaintiffs allegations that in doing what corporate directors routinely do (serve on committees, review financial information, approve transactions, and sign disclosure documents), they violated the law.
Outside Directors further argue that the complaint nowhere asserts facts giving rise to a strong inference of scienter for any of them, i.e., the complaint fails to establish what each individual director did wrong, what each knew and when, or that each acted with an intent to deceive. Instead, Defendants object, each director is identified only by the dates he or she served on Enron’s board, by the committees he or she sat on, and by the SEC filings each signed. They also contend that Lead Plaintiff has failed to allege scienter with the requisite particularity, but instead provides only insufficient, conclusory statements based on their board or committee membership or sale of stocks during the Class Period. They maintain that Lead Plaintiff has failed to assert any facts that would give rise to a strong inference that any of them knew or recklessly disregarded matters that would or should have alerted them to suspect that the financial statements and registration statements that they signed were, as Plaintiff claims, false and misleading.
With supporting charts, Outside Director Defendants furthermore contend that Lead Plaintiffs allegations relating to their sales of Enron stock during the Class Period are insufficient to establish scienter because Lead Plaintiff fails to show that the stock sales were unusual, suspicious in amount or in timing
34
or
*613
inconsistent with prior trading patterns of each individual director, or that each sale was not explainable by other facts. Furthermore, argue Defendants, nine of the seventeen Outside Directors did not sell any stock, yet Lead Plaintiff does not meaningfully differentiate those who did not sell from those who did sell Enron stock, making any inference of scienter less plausible as to the those who did sell.
Nathenson v. Zonagen, Inc.,
267 F.3d 400, 421 (5th Cir.2001)(“‘[t]he fact that other defendants did not sell during the class period undermines plaintiffs’ claims’ ”),
quoting Acito v. IMCERA Group, Inc.,
47 F.3d 47, 54 (2d Cir.1995). In fact, Defendants emphasize, the evidence properly before the Court
35
demonstrates that at
*614
least eight Outside Directors (Chan, Jae-dicke, LeMaistre, Mendelsohn, Meyer, Pereira, Savage and Wakeham) actually increased their stock holdings from 1998-2001, even though three of those (Chan, Jaedicke, and LeMaistre) are accused of some impermissible sales. Thus at least twelve Outside Directors made either no sales, or increased their holdings, or both.
36
See Allison v. Brooktree Corp.,
999 F.Supp. 1342, 1353 (S.D.Cal.1998)(if others allegedly involved in misconduct were purchasing stock, that fact made it “particularly difficult” to establish scienter based on stock sales);
Ronconi v. Larkin,
253 F.3d 423, 436 (9th Cir.2001)(sale of stock by some of a group of equally knowledgeable insiders does not give rise to a strong inference of scienter where the rest act inconsistently with such an inference). Nor, Outside Directors emphasize, were the bulk of the sales made at times when prices were at or near peak levels; less than 5% of the stock was sold at $70 or more per share. Directors insist that under the case law,
[I]n assessing scienter, consideration must be given to, for example: (a) the proportion of the amount sold to the seller’s total holdings; (b) factors personal to the seller, like a recent or impending retirement or an impending option expiration; (c) the effects of trading restrictions or the vesting and expiration of options; and potential negating of the inference by the lack of sales of others similarly situated.
Motion to Dismiss at 26. They maintain that Lead Plaintiffs computer statistics fail to take any of these into account and thus are flawed. Moreover rather than plead each defendant’s entire prior selling history, Lead Plaintiff employs charts and figures that merely compare trading during the thirty-seven-month Class Period with each defendant’s trading in the prior twenty-seven months, thus weakening any inference that may be drawn from it.
Outside Director Defendants examine the allegations of trading during the Class Period made against each of those accused of fraud, summarized
infra,
to argue that the allegations do not give rise to a strong inference of scienter. Four Outside Directors (Blake, Chan, Duncan and Gramm) each had only a single sale; Jaedicke had two sales; Foy and LeMaistre each had three sales; and Belfer had an unspecified number.
A. Joe Foy
The complaint states that Foy retired from the board in early 2000. During the Class Period he allegedly sold 36.9% of his Enron holdings in 1999 and 11.6% in 2000. Outside Director Defendants highlight the point that “[i]t is not unusual for individuals leaving the company ... to sell shares.”
Greebel v. FTP Software,
194 F.3d 185, 206 (1st Cir.1999).
See also In re First Union Corp. Sec. Litig.,
128 F.Supp.2d 871, 898 (W.D.N.C.2001)(concurrent resignation rebuts inference that stock sale was suspicious);
Acito,
47 F.3d at 54 (outside director’s sale of 350,000 shares was not “unusual” and was insufficient to establish scienter where complaint acknowledges that he had retired around the same time). Outside Directors assert that even very substantial sales that would otherwise be suspicious can be explained by retirement, which negates any inference of scienter.
Moreover, Foy’s sales were “inauspiciously timed”: 29,040 out of 38,160 shares
*615
were sold in early 1999 at about $34 per share, more than a year before the stock peaked at $90 per share. The complaint also states that Foy had sold 9,920 shares of Enron stock at $23 per share prior to the Class Period,
37
more shares than he sold in 2000 (9,120) when prices were high. Because an inference of scienter requires that sales be “at times calculated to maximize personal benefit from undisclosed inside information,” any inference of scienter has been negated by Lead Plaintiffs own allegations regarding Foy.
In re Apple Computer Sec. Litig.,
886 F.2d 1109, 1117 (9th Cir.1989),
cert. denied,
496 U.S. 943 , 110 S.Ct. 3229 , 110 L.Ed.2d 676 (1990).
Furthermore, note Outside Directors, Lead Plaintiffs expert’s statistical analy-ses failed to “flag” any of Foy’s trades.
38
Moreover, the majority of Foy’s challenged sales (30,4000 of the 38,160 shares) were exercises of options when the market price was at least three to four times the strike price, a circumstance that the complaint has conceded to be a wholly rational economic decision in the absence of a showing of improper motivation.
b. Dr. Wendy Gramm
Outside Directors emphasize that there is no inference of scienter regarding the single sale of Enron stock during the Class Period by Gramm. She allegedly sold 84% of her Enron holdings, about 10,000 shares, in the first month of the Class Period, November 1998, at $27 per share, which was essentially the same price since the Class Period began and less than a third of its peak price two years later, and before the alleged Ponzi scheme even came to fruition. Moreover there is a ready explanation for the sale: in late 1998, Gramm filed an opinion of counsel stating that as the wife of Senator Phil Gramm, she might have a material conflict of interest if she retained ownership of Enron stock. 1999 Proxy (SEC App. (# 1200) Tab 20) at 12. Furthermore the sale was consistent with her earlier sale of 8,000 shares in 1998 before the Class Period began. Outside Directors observe the neither of Lead Plaintiffs statistical analyses identified Gramm’s trades as suspicious.
c. Robert Jaedicke
Outside Directors note that both of Jae-dicke’s sales during the Class Period, 8.6% of his holdings in May 2000 and 12.8% of his holdings in May 2001, were exercises of options at levels nine times the strike price, which was approximately $7 per share. Thus the sales and the low percentages of .his holdings were economically justified and, according to Outside Directors, “non-suspicious” as a matter of law. Moreover the options were about to expire. Ex. E to # 663. Furthermore, in spite of the two sales, Jaedicke increased his Enron holdings consistently from 1998-2001, from 45,356 shares in 1998 to 57,087 in the 2001 proxy. His sales were not out of line with his prior trading history: in 1993-94 he sold more shares (21,840, split adjusted, at around $15 per share) than he did during the entire Class Period.
39
*616
d. Charles LeMaistre
LeMaistre’s three sales during the Class Period were also exercises of stock options each year of the three-year period at least five times the strike price and were spurred by the imminent expiration of those options (on 5/8/99, 5/14/00, and 5/13/01), thus negating any suspicious inferences. The sales were about one year apart in January 1999, December 1999, and May 2001, respectively, constituting approximately 3% (1,984 shares), 11% (7,360 shares), and 12% (8,000 shares) of his holdings at the times of sale, none a suspicious amount. The two 1999 sales were at prices of $29.72 and $42.62, far from the peak price a year later, and the 2001 sale was at $58.64. Furthermore, despite these sales LeMaistre retained ownership of nearly 75% of his stock. The sales also totaled less than he sold in his prior trading practice: in 1993 he sold 17,856 shares, more than during the entire three-year Class Period. Furthermore, like Jaedicke, from 1998 to 2001 LeMaistre increased his holdings from 46,940 shares to 56,287.
e. Ronnie Chan
Outside Director Defendants point out that Chan sold 29% of his stock in July 1999 at a price of $42.15, half of what it would be worth the following year ($90) and not, they insist, a suspicious percentage as a matter of law. Lead Plaintiffs statistical analyses did not flag Chan’s single sale as suspicious. Chan retained 71% of his Enron stock and spent cash to purchase more, actually increasing his holdings during the Class Period.
f. John Duncan
Lead Plaintiff alleges that Duncan sold 20% of his holdings at $57.42 per share in May 2001, which Outside Director Defendants characterize as “nonsuspicious” in light of the length of the Class Period. Outside Directors also claim that Lead Plaintiff failed to acknowledge that Duncan made substantial purchases of stock, increasing his holdings each year of the Class Period (by 9,920 shares in 1999, by 7,360 shares in 2000, and by 8,000 shares in 2001). Ex. A, I to #663. The 2001 proxy reflects that Duncan was 74 years old when he made the 2001 sale; a “corporate insider may sell his stock to ... diversify his portfolio, or arrange his estate plan.”
Ronconi,
253 F.3d at 435 . Moreover, when Enron stock had climbed above $70 for more than a year and then peaked at $90.00, Duncan sold no stock. Even after his May 2001 sale, he retained 80% of his holdings.
g.Norman Blake
Blake’s only sale during the Class Period was an exercise of options at a price at least three to four times the strike price of approximately $15-$20 per share, and thus not suspicious according to Lead Plaintiffs own analysis. Although he sold 46% of his stock at a high price, $80.44 per share, Outside Directors argue that Enron stock traded at $75 or more for most of several months and “it is impossible to consider it suspicious that this one director happened to sell in that time frame.” They insist the timing is not suspicious because it is normal for insiders to sell their stock after a substantial increase in the price and because the ratio to the high strike price made the sale appropriate and rational well into the Class Period. Furthermore the amount sold was not suspicious because it was his only sale in the three-year class period. In addition Blake made a cash purchase of 5,000 more shares of Enron stock during 2001. Finally, Outside Directors contend that the absence of suspicious sales by any of themselves negates any possible inference of scienter in Blake’s sale.
*617
h. Robert Belfer
Belfer was one of Enron’s largest shareholders, holding over 10 million shares during the Class Period, and the most victimized by Enron’s collapse because he remained Enron’s largest individual shareholder after losing a potential $700 million when he decided to hold and not sell 80% of his Enron stock when the price hit $90 per share, and making only $112 million on the stock that he did sell.
40
Moreover, Outside Directors .insist that the amounts of his sales were not suspicious as a matter of law: in 1999 he sold only 5.2% of his holdings; in 2000, only 8.1%; and in 2001, only 7.2%. Belfer also sold his stock generally well below peak prices; only 6% of his sold shares, or approximately 1% of his available holdings, was sold at $70 per share or above.
Greebel,
194 F.3d at 206 (“timing does not appear very suspicious” where the stock was not “sold at the high points of the stock price”);
Nathenson,
267 F.3d at 416, 420 (“inauspiciously timed” sales well below “class period high” are not suspicious);
Ronconi,
253 F.3d at 435 (sales not suspicious where insiders “miss the boat” of peak prices). Additionally, Belfer’s alleged sales were not market sales, but “costless collar agreements or transfers to equity exchange funds or partnerships, commonly used for purposes of diversification to limit risk, as Lead Plaintiffs complaint states at ¶ 409.” Thus they are not “securities of the same class” as those purchased by Plaintiffs, as expressly mandated by the contemporaneity requirement of § 20A. 15 U.S.C. § 78t-1(a). Outside Directors represent that the use of zero-cost collars results in significantly lower proceeds than would sales, thus further undermining any inference of scien-ter; his transactions in December 2000 netted him proceeds of just over $55 per share, when by selling them, he could have realized the current market price of $80 per share.
Outside Directors object that conclusory allegations against them are inadequate to establish a strong inference of scienter, as are assertions that they performed their routine roles on the board or on committees of Enron. Even where there is a restatement of financial results, Lead Plaintiff must allege scienter against each of them with particularity.
In re Sunbeam Sec. Litig.,
89 F.Supp.2d 1326, 1341 (S.D.Fla.1999)(outside directors sitting on Sunbeam’s Audit Committee were dismissed from suit because of a “complete lack of any particularized allegations of scienter on part of Audit Committee members”);
Jacobs v. Coopers & Lybrand,
No. 97 CV 3374(RPP), 1999 WL 101772 , *17 (S.D.N.Y. Mar.1, 1999)(allegations that outside directors had general knowledge of company’s finances because of their positions as directors, members of audit committee, and signatures on company’s 10-Ks fail to meet pleading-with-particularity standard).
Outside Directors also highlight, as a critical pleading point demonstrating that they did not act with severe recklessness, that every year Arthur Andersen informed Enron’s board that Enron’s audits had been done in accordance with GAAS, that its financial statements had been prepared in accordance with GAAP, and that the accounting firm had “present[ed] fairly, in all material respects, the financial position of Enron Corp.” Complaint at ¶ 903. Even a strong inference of negligence, which requires a much lower showing than severe recklessness, is negated by reliance on outside auditors’ accounting.
In re McKesson HBOC, Inc. Sec. Litig.,
126 F.Supp.2d 1248 , 1267 n. 9 (N.D.Cal.2000). Defendants emphasize that Lead Plaintiff has not alleged any facts suggesting that
*618
any director actually knew or had reason to suspect that the unqualified opinions issued by Arthur Andersen for its Enron audits were false or misleading when they were made.
2. Section 20A
Outside Directors also contend that Lead Plaintiff has failed to allege a proper claim for insider trading under § 20A of the 1934 Act, so its § 20A claims must be dismissed, because Lead Plaintiff (1) failed to plead the requisite independent, underlying violation of § 10(b); (2) failed to plead adequately contemporaneous trading by Plaintiffs and Defendants, individually; and (3) cannot plead sales by any Defendant , on the same market with respect to Belfer, i.e., “costless collars”-, and transfers to private exchange funds or investment partnerships.
See, e.g., Copland v. Grumet,
88 F.Supp.2d 326, 337-38 (D.N.J.1999);
In re AST Research Sec. Litig.,
887 F.Supp. 231, 234 (C.D.Cal.1995);
Colby v. Hologic, Inc.,
817 F.Supp. 204, 216 (D.Mass.1993);
In re MicroStrategy Sec. Litig.,
115 F.Supp.2d 620, 663-64 (E.D.Va.2000). Not only has Lead Plaintiff made no contemporaneous trading allegations with respect to sales by Gramm or Chan, but for those Outside Directors about whom it has made such assertions, it has not pleaded that Plaintiffs’ purchases were made on the same day as the accused sales by Defendants. Outside Director Defendants maintain that the allegations fail in light of a growing trend to conclude that only same-day purchases and sales of widely traded stocks are considered to be contemporaneous trading.
Copland,
88 F.Supp.2d at 338 (and cases cited therein);
AST Research,
887 F.Supp. at 233-34 (and cases cited therein);
MicroStrategy,
115 F.Supp.2d at 664 . In particular, § 20A claims relating to Joe Foy’s trades on March 18, 1999, Robert Belfer’s trades on September 2, 1999, November 8, 9,
&
11 1999, May 11
&
16, 1999, and Robert Jae-dicke’s trade on February 24, 2000 must be dismissed because they do not meet the same-day-trade requirement. Moreover, Outside Directors argue that many of Bel-fer’s purported “sales”
41
are not market sales, but transfers of sales into an “Investment Partnership” and an “Exchange Fund.”
Outside Directors further argue that because § 20A standing should be limited to those who at least “may have” traded with the insider, it should also be limited to those who purchased at the same price at which the insider sold. Here Plaintiffs’ alleged trades, with one exception,
42
were at different prices than the prices of Outside Director Defendants’ sales.
3. Section 11 Claims
The claims against Outside Directors under § 11 of the 1933 Act, based on four note purchases (three in public offerings and one in a private placement),
43
should
*619
also be dismissed for the following reasons, insist Outside Directors.
First, there can be no § 11 liability in connection with a Rule 144A
44
private placement because a private placement is not made pursuant to a registration statement. Such was the case with the July 2001 Placement made “only to qualified institutional buyers (as defined under Rule 144A under the Securities Act).” SEC App. (# 1200), Tab 81, p. 1.
Gustafson v. Alloyd Co.,
513 U.S. 561, 577-78 , 115 S.Ct. 1061 , 131 L.Ed.2d 1 (1995)(the term, “registration statement,” applies only to purchases in a public offering).
45
Second, some of the claims are brought against Directors who were not on Enron’s board at the time of the offering (i.e., Walker for offerings made May 19, 1999 and May 18, 2001
46
) or who did not sign the registration statements in dispute (Meyer and Winokur for the offering made in August 1999 of the 7% Exchangeable Notes,
47
which has yet to be re-alleged
*620
through addition of claims currently asserted in the
Pulsifer
complaint). 15 U.S.C. § 77k(b)(1)(an individual is not ha-ble under § 11 if “before the effective date of the part of the registration statement ... he had resigned from ... office”).
Third, Lead Plaintiff has not identified any material misstatements or omissions in the registration statements of the four offerings nor shown why the statements are misleading, as required by the PSLRA to establish § 11 liability.
Fourth, Outside Directors maintain, where between the filing of the registration statement and a plaintiffs purchase the issuer files “a [Form 10-K] earnings statement covering a period of at least twelve months beginning after the date of the registration statement,” the plaintiff must prove reliance on the alleged misrepresentation or omission in the registration statement. 15 U.S.C. § 77k(a). They argue that some Plaintiffs have not pleaded reliance for their § 11 claims where a Form 10-K earnings statement was filed after the registration statement at issue.
48
Fifth, Lead Plaintiffs own pleadings conclusively establish an absolute defense to liability for Outside Directors because Lead Plaintiff has pleaded facts demonstrating that the Outside Directors signed the registration statements in reasonable reliance on opinions of legal and accounting experts (including Arthur Andersen and Vinson
&
Elkins) whose opinions
49
they had no reason to question and because Lead Plaintiff expressly disclaims any claim of fraud or bad faith against the seven directors (Mendelsohn, Meyer, Pereira, Wakeham, Walker, Winokur, and Savage) sued for violations of § 11. 15 U.S.C. § 77k(b)(3)(C) (providing safe harbor for directors who sign a registration statement in reliance upon expertised disclosures);
Kaiser Aluminum & Chem. Sales v. Avondale Shipyards, Inc.,
677 F.2d 1045, 1050 (5th Cir.1982)(“[A] complaint that shows relief to be barred by an affirmative defense ... may be dismissed for failure to state a cause of action.”),
cert. denied,
459 U.S. 1105 , 103 S.Ct. 729 , 74 L.Ed.2d 953 (1983);
Lone Star Ladies Inv. Club v. Schlotzsky’s, Inc.,
238 F.3d 363, 369 (5th Cir.2001)(quoting
Herman & MacLean v. Huddleston,
459 U.S. 375, 382 , 103 S.Ct. 683 , 74 L.Ed.2d 548 (1983)(noting it is a “hornbook principle!] of securities law” that “Defendants other than the issuer can avoid liability by demonstrating due diligence”));
see also Ernst & Ernst v. Hochfelder,
425 U.S. 185 , 208 n. 26, 96 S.Ct. 1375 , 47 L.Ed.2d 668 (1976)(“individ-uals who sign the registration statement ... are accorded a complete defense against civil liability based on the exercise of reasonable investigation and a reason
*621
able belief that the registration statement was not misleading”).
Sixth, the § 11 claims sound in fraud
50
but have not been pleaded to satisfy Rule 9(b). The Outside Directors also argue that to the extent that Lead Plaintiff has alleged fraud in its § 11 claims, Lead Plaintiffs own pleadings raise the Outside Directors’ due diligence defense while failing to state with particularity facts giving rise to a strong inference that Outside Directors acted not only with bad faith, but with severe recklessness or fraud in relying on the expert opinions.
Ernst & Ernst,
425 U.S. at 208 , 96 S.Ct. 1375 ;
Glassman v. Computervision Corp.,
90 F.3d 617 , 628 n. 12 (1st Cir.1996)(in § 11 context, “[d]ue diligence is equivalent to non-negligence”).
As for Outside Directors against whom Lead Plaintiff has not pleaded fraud (Men-delsohn, Meyer, Pereira, Wakeham, Walker, Willison, Winokur, and Savage), Lead Plaintiff has not alleged that their rebanee on the expertised opinions of Arthur Andersen and Vinson & Elkins was in bad faith, so the § 11 claims against them must be dismissed.
4. Sections 20(a) and 15 (Controlling Person Liability)
In addition, Outside Directors insist, Lead Plaintiff fails to plead a controlbng person claim against them because it fails to allege (1) the requisite primary violation of the securities laws (federal or Texas) by Enron, (2) the exercise of actual control by Outside Directors over Enron, or (3) facts showing that they were culpable participants in the alleged fraudulent conduct by others. In its memorandum and recommendation regarding Individual Andersen Defendants (# 1241), this Court explained that under Fifth Circuit jurisprudence neither the second nor the third are required for controlling person liability under § 15 or § 20(a). #1241 at 64-67, 71-73. The TSA does require a plaintiff to show that the defendant had actual power or influence over the controlled person and that the defendant induced or participated in the alleged violation.
Id.
at 10. Outside Directors appear to argue that Lead Plaintiffs controlling person claim rests only on their positions at Enron, which are insufficient to establish control, a view which the Fifth Circuit and the Texas courts have taken with regard to the federal and Texas statutes, respectively.
5. Texas Securities Act
Finally, Outside Director Defendants argue that the Washington State Investment Board’s (“Washington Board’s”) sub-class action under the Texas Securities Act (“TSA”), Tex.Rev.Civ. Stat., Art. 581-33, against Belfer, Blake, Chan, Duncan, Foy, Gramm, Jaedicke, LeMaistre, Meyer, Wakeham, Walker, and Winokur, must be dismissed because (1) the Washington Board purchased its securities before the abeged misrepresentation was made; (2) none of the abegations or purchases underlying the Washington Board’s claim occurred during the Class Period; (3) it does not satisfy Rule 9(b); (4) Lead Plaintiff fails to abege with particularity any untruths, omissions, or materiality in connection with the offering in which they actually bought; and (5) Lead Plaintiff does not plead that Outside Director Defendants were “sellers” under the TSA.
*622
Outside Directors note that to assert a claim under the TSA a plaintiff must prove either (1) that he was induced to buy a security from a seller “by means of’ an untruth or material omission or (2) that he was induced to buy a security based upon a misleading registration statement. Tex. Rev. Civ. Stat. Ann. Art. 581-33A(1) and (2). Washington Board does not identify under which section it is asserting its claims, but its pleadings fail under either.
According to the complaint and its Certification, Sched. A, filed Dec. 20, 2001, the Washington Board purchased securities on July 7, 1998 in connection with two note offerings, Enron 6.95% Notes and Enron 6.4% Notes. Nevertheless, insist Outside Directors, the complaint does not identify any misrepresentation or omission in the July note offering documents, which were also dated July 1998,
51
but merely incorporates by reference more than 1000 paragraphs from other sections of the complaint that relate to offerings and events that occurred after October 1998. Thus the Washington Board could not have been induced to purchase the notes in July 1998 by statements not made until months later. Therefore the claims under the TSA must be dismissed, insist Outside Directors.
Moreover, urge Outside Director Defendants, the Washington Board’s claims are outside the
Newby
Class Period, which did not begin until October 1998, more than three months after the Washington Board purchased the notes in dispute.
Outside Directors also note that Rule 9(b), requiring the pleading of fraud with particularity, applies to all averments of fraud, even to claims grounded in state law.
Williams v. WMX Technologies, Inc.,
112 F.3d 175, 177 (5th Cir.1997);
Rubinstein v. Collins,
20 F.3d 160, 165-66 (5th Cir.1994).
Furthermore, they argue, Lead Plaintiff also fails to allege that any misrepresentations or omissions in the offering documents were relevant to Plaintiffs’ purchases, i.e., that they were material, argue Outside Directors.
Last of all, Outside Directors complain that Lead Plaintiff fails to allege that Outside Directors are “sellers” as required for seller liability under the TSA. To impose seller liability under the statute, a defendant must be in privity with a plaintiff.
Frank v. Bear Stearns & Co.,
11 S.W.3d 380, 384 (Tex.App.—Houston [14th Dist.] 2000, pet. denied). Moreover, argue Outside Directors, the notes were sold on the basis of a firm commitment offering, so Enron, not the Outside Directors, passed title to these Notes to Plaintiffs. SEC App. (# 1200) Tab 82 at S-5 (“Enron has agreed to sell each of the Underwriters named below .... Under the terms and conditions of the Underwriting agreement, the Underwriters are committed to purchase all of the Notes, if any are purchased.”);
Shaw v. Digital Equip. Corp.,
82 F.3d 1194, 1215 (1st Cir.1996)(“the issuer in a firm commitment underwriter does not pass title to the securities”)
52
;
*623
Dartley v. ErgoBilt,
2001 WL 313964 , *2 (N.D.Tex. Mar.29, 2001)(“Where there is a firm commitment underwriting ... the issuer sells the stock to be offered to the group of underwriters for the offering... Here Plaintiffs do not allege any facts to support the conclusion that [the defendants] were statutory sellers as to any of the Plaintiffs.”). Outside Directors maintain that Plaintiffs concede that the only “sellers” they can identify are JP Morgan and Lehman Brothers, who “together offered for sale and sold” the securities purchased by the Washington Board. They have not and cannot allege that any Outside Director Defendants were sellers.
B. John A. Urquhart’s Motion to Dismiss
Urquhart was a director on Enron’s Board when the Class Period began and retired on May 1, 2001. He is among those charged under the non-fraud provisions of the 1933 and 1934 Acts. No allegations are made against him relating to any insider trading activities or stock sales. Under the 1933 Act, Lead Plaintiff sues Urquhart under § 11 for signing Registration Statements during the Class Period for three note offerings (the May 19, 1999 offering of 7.375% Notes; the August 10, 1999 offering of 7% Exchangeable Notes; and the May 2000 offering of 8.735% notes due on May 23, 2005 and 7.875% notes due on June 15, 2003 two types of notes) and under § 15 for controlling person liability.
Urquhart basically reiterates arguments asserted in the Outsider Directors’ collective motion where they are relevant to the specific allegations against him. He first maintains that Lead Plaintiff has failed to state a claim against him for signing the registration statements under § 11 because (1) the claims sound in fraud and are not pleaded with Rule 9(b) particularity; (2) because the complaint fails to allege any specific material misrepresentations or omissions in the registration statements and prospectuses or to show that such information was known by him at the time the purchases were made; and (3) the complaint establishes a complete defense for him, i.e., that the registration statements were expertised by Arthur Andersen and Enron’s lawyers, on whose opinions he relied. He insists Lead Plaintiff has not adequately pleaded controlling person liability under § 15 because it has not pleaded actual power or influence nor inducing or participating in the alleged violation
53
; nor has it established the prerequisite violation under § 11. He also challenges the absence of pleadings showing that he possessed the power to direct or cause the direction of the management and policies of the primary violator by ownership of stock, contract or otherwise. In addition Urquhart maintains that he is not liable under the TSA because he does not meet the requirements for a statutory “seller,” both because he merely participated in the offerings and was not in privity with any plaintiff and because the July 1998 offering was a firm commitment offering, so he could not have passed title to any plaintiff. Moreover, he maintains that Lead Plaintiff admits that Urquhart is not an “aider” under the Texas statute because he was not involved in any intentionally deceptive, fraudulent, or reckless conduct. Furthermore, Urquhart insists that Lead Plaintiff cannot show a causal connection
*624
between the alleged misstatements and the purchase of the notes offered on July 7, 1998 and that claims based on this offering fall outside the Class Period, which begins in October 1998. Thus Urquhart maintains that Lead Plaintiff has failed to plead with particularity as required by Rule 9(b).
C. Court’s Decision
1. Fraud Claims Under § 10(b) Against Outside Directors Belfer, Blake, Chan, Duncan, Foy, Gramm, Jaedicke, and Le-Maistre
The complaint alleges that Outside Directors, with scienter, participated in the purported Ponzi scheme by approving or implementing all of the very large sham transactions (manipulative and deceptive devices), which could not have occurred without Outside Directors’ authorization and by means of which Enron hid its debt and falsified its profits, while Outside Directors ignored obvious signs of potential or actual fraud. Complaint at ¶ 395. Indeed Lead Plaintiff contends that the size, value, frequency, and timing of these deceptive transactions should have secured the attention of those sitting on the Enron Board’s Executive, Finance and Audit Committees. Lead Plaintiff emphasizes that the Outside Directors waived Enron’s established policy in approving blatant conflicts of interest, in particular the dual role of Fastow in Enron and LJM2. Subsequent knowing or reckless disregard of the entities LJM2 established and transactions among them, as well as approval of deceptive accounting practices, furthered the alleged Ponzi scheme. In its new memorandum in opposition (# 853), supported by a new Appendix (# 858) of documents,
54
Lead Plaintiff argues that its pleadings are sufficient to state a claim under § 10(b) and Rule 10b-5 against Belfer, Blake, Chan, Foy, Gramm, Jaedicke and LeMais-tre, based on (1) the newly submitted copies of minutes of related, key Enron board of directors or committee meetings to demonstrate the Outside Directors’ knowing and reckless participation in the alleged Ponzi scheme, (2) alleged facts in the complaint regarding manipulative and deceptive devices, scheme, and course of business that the Outside Directors used to defraud Enron’s investors, and (3) the complaint’s particulars (who, what, when, where and why) of each registration statement signed by each Outside Director. For clarity, the Court henceforth identifies the Outside Directors charged with fraud under § 10(b) and 10b-5 with an asterisk (*) to make them and the allegations giving rise to a strong inference of scienter against each easier to follow.
Outside Directors in their reply vociferously object to “Plaintiffs’ unauthorized effort to amend their Complaint, in their Response, by adding close to sixty pages of new allegations” and “nearly thirty new factual exhibits,” # 909 at 2 n. 3 and at 7. The Court notes that Rule 15(a) states that leave to amend “shall be granted freely when justice so requires.” Because the rule “ ‘evinces a bias in favor of granting leave to amend,’ ” a court should have a “ ‘substantial reason,’ ” such as “ ‘undue delay, bad faith or dilatory motive on the part of the movant, repeated failure to cure deficiencies by amendments previously allowed, undue prejudice to the opposing party, and futility of amendment,’ ” if it denies such a request.
Herrmann Holdings, Ltd. v. Lucent Technologies, Inc.,
302 F.3d 552, 566 (5th Cir.2002),
quoting Dussouy v. Gulf Coast Inv. Corp.,
660 F.2d 594, 598 (5th Cir.1981), and
Jacobsen
*625
v. Osborne,
133 F.3d 315, 318 (5th Cir.1998). Although Outside Directors complain that Lead Plaintiff has already had an opportunity to amend, the situation in a class action governed by the PSLRA is distinguishable from that in an ordinary single-suit action. Here Lead Plaintiffs first “amendment” involved writing essentially a new complaint, covering many actions, claims, and parties npt originally asserted in its member case, within an expedited time period. Moreover, the Fifth Circuit has noted,
The PSLRA was enacted, in part, to compensate for “the perceived inability of Rule 9(b) to prevent abusive frivolous strike suits.” It was not enacted to raise the pleading burdens under Rule 9(b) and section 78u-4(b)(l) to such a level that facially valid claims, which are not brought for nuisance value or as leverage to obtain a favorable or inflated settlement, must be routinely .dismissed on Rule 9(b) and 12(b)(6) motions [footnotes omitted].
ABC Arbitrage Plaintiffs Group v. Tchuruk,
291 F.3d 336, 354 (5th Cir.2002). From the totality of circumstances before it, this Court does .not find, and would be greatly surprised if any reasonable person disagreed, that the
Newby
consolidated action is merely a strike suit filed solely for nuisance value or an inflated settlement. The Fifth Circuit has also stated that “a complaint can meet the new pleading requirement of [15 U.S.C. § 78u-4(b)(1)] by providing documentary evidence and/or a sufficient general description of the personal sources of the plaintiffs’ beliefs.”
ABC Arbitrage,
291 F.3d at 352 . The Court has therefore reviewed the new allegations and the newly filed documents, in particular the minutes of committee and board meetings on identified dates attended by identified Outside Directors, at which a number of activities identified as part of the alleged Ponzi scheme were discussed, to determine whether permitting Lead Plaintiff to amend to include allegations of their content would suffice to state § 10(b) securities claims against the Outside Directors.
As noted, a corporate official who, on behalf of the corporation, signs a false financial statement that is filed with the SEC, “makes” ,a statement for potential liability under § 10(b), provided that Lead Plaintiff can also establish scienter.
Howard,
228 F.3d at 1061 . Taken altogether, numerous allegations support Lead Plaintiffs claim that Enron’s financial statements during the Class Period were false and misleading. Among these are allegations relating to the extraordinary magnitude in amount and duration of Enron’s final, pre-bankruptcy restatement in the fall of 2001, covering its financial statements for 1997 through the second quarter of 2001, revealing (1) that Chewco had never satisfied SPE accounting rules, (2) that Chewco and JEDI should have been consolidated since 1997, and (3) that Enron had overstated profits by more that $591,000,000 and understated debt by approximately $711,000,000 and shareholder’s equity by $1,208,000,000.
55
Complaint
*626
at ¶¶ 61 — 63: The Court observes that facts supporting the first two matters were available at the time that Arthur Andersen prepared the earliest financial statements at issue. Furthermore, in its memorandum in opposition at
42-43,
Lead Plaintiff provides a summary of all the allegations in the complaint, with references to relevant paragraphs, that demonstrate when and why Enron’s financial statements were false and misleading, including such practices as violations of specific GAAP and GAAS, sham profits and concealment of debt through identified SPEs and transactions among them, false hedges, disguised loans, capitalization of expenses for failed bids rather than immediate write-offs, failure to write down impairment of long-term assets, abuse of mark-to-market accounting on identified projects and transactions, fictitious trades, and sham deals such as the one with Blockbuster. Moreover, Lead Plaintiff demonstrates that each of the Outside Directors signed at least one of the 10-Ks at issue, and most signed all four, as well as registration statements for new offerings.
Among others, the consolidated complaint identifies the following Form 10-Ks and registration statements as allegedly false statements, which Outside Director signed (i.e.,“made”), and when they were issued. First, Enron’s 1998 Report on Form 10-K, containing Enron’s 1997 and 1998 annual financial statements, certified by Arthur Andersen with an “unqualified” audit report and signed by Outside Directors Foy,* Gramm,* Jaedicke,* Le-Maistre,* Meyer, Urquhart, Wakeham, Walker, and Winokur, was filed on March 1999 with the SEC. Complaint at ¶¶ 136-41, 510. Moreover, in March 2000, Enron filed its 1999 Report on Form 10-K, containing Enron’s 1998 and 1999 financial statements, also certified by Arthur Andersen with a “clean” audit opinion, and signed by Outside Directors Belfer,* Blake,* Chan,* Duncan,* Mendelsohn, Meyer, Pereira, Savage, Urquhart, Wake-ham, and Winokur. Complaint at ¶221. In addition, in approximately March 2001, Enron filed with the SEC its 2000 Report on Form 10-K, containing Enron’s 1999 and 2000 annual financial statements certi
*627
fied by Arthur Andersen and with a “clean” audit opinion, and signed by Outside Directors Belfer,* Blake,* Chan,* Duncan,* Gramm,* Jaedicke,* LeMaistre,* Mendelsohn, Meyer, Pereira, Savage, Urquhart, Wakeham, and Winokur. Complaint at ¶ 292. In its memorandum in opposition at 41-42, Lead Plaintiff provides a fuller list of financial statements and registration statements filed during the Class Period and the Outside Directors who signed them, with references to paragraphs in the complaint.
56
In particular, the complaint asserts that the registration statements and prospectuses of the following Enron securities offerings were false and misleading and were signed by the identified Outside Directors: (1) the 7.875% Notes due May 15, 2019, signed by Belfer,* Bl

[Text truncated at 120,000 characters. The full text is on the page linked above.]

---

Source: Frix Law Library, https://www.frixlaw.com/law-library/cases/2480564. Public record. Not legal advice.