of data and voice communication networks. Id.
Since 1992, Numerex's revenues and profits significantly increased as a result of acquisitions and internal growth, primarily in its main United Kingdom market. Id. P 18. From 1992 to 1994, Numerex acquired several companies and the right to sell DCS technology (which had been responsible for Numerex's growth in the United Kingdom) in North and South America, the Pacific Rim and Eastern Europe. Id. PP 19-20. Although these acquisitions broadened its product lines and geographic markets, Numerex still derived the bulk of its revenues from the United Kingdom. Id. P 21. In fact, 55% of sales in 1993, 48.6% of sales in 1994 and 39.4% of sales in the first fiscal quarter ending January 31, 1995, were to a single customer, British Telecom. Id. Such sales consisted of network equipment that British Telecom deployed in connection with its RedCARE alarm reporting service to customers including McDonald's, Burger King, 7-Eleven, Thomas Cook and Barclays Bank. Id. So vital is its U.K. market that Numerex published its financial statements in British pounds sterling. Id.
On December 19, 1994, Numerex announced its earnings and revenues for the fiscal year ending October 31, 1994. Id. P 22. Numerex reported that revenues more than doubled to $ 34,722,000 from $ 16,832,000 the prior year. Id. Net income and earnings per share for the year also increased to $ 9,622,000 and $ 1.01, from $ 4,029,000 and $ .57, respectively, from the prior year. Id. Numerex stated that these increases resulted from continued expansion of the U.K.-based DCS network and a related rise in the sales of subscriber terminal units and intrusion alarm products. Id. On February 28, 1995, Numerex reported "record results" for three months ending January 31, 1995, a quarter that historically "tends to be lower" than others. Id. P 23.
On the same day that it released its quarterly financial information, Numerex announced that it had filed a registration statement for the public offering at issue in this case. Id. P 24.
B. The Public Offering
Before March 3, 1994, there had been no public market for Numerex shares. Cmplt. P 5b. From March 3, 1994 to April 20, 1995, only 312,500 shares of the 9,634,992 shares of Numerex stock outstanding were freely tradeable in the public NASDAQ small capital market, while the remaining 9,322,492 shares were restricted and did not trade. Id.
On April 21, 1995, Numerex issued a registration statement, and a prospectus contained therein, for sale to the public of 3,750,000 shares of common stock at $ 15 per share. Id. P 2a. Numerex sold 1,875,000 shares and Gwynedd Resources, Ltd. ("Gwynedd") sold an equal number.
Id. P 2a. In addition, there was an over-allotment option of 562,500 shares. Id. Several Numerex officers and directors were signatories to the registration statement and are named as defendants.
The underwriting of the public offering was managed and syndicated by two securities broker/dealers, Prudential Securities Inc., the managing underwriter for the shares being offered in the United States and Canada, and Prudential-Bache Securities, the managing underwriter for shares sold elsewhere. Id. P 2b. The defendant underwriters ultimately sold 3,925,000 shares in the public offering. Id. P 2a.
After April 21, 1995, the shares sold in the public offering and the 312,500 previously-traded shares were listed on the NASDAQ National Market System. Id. P 5c. Thus, of the 4,237,500 Numerex shares held in public hands, over 92.6% are directly traceable to the public offering. Id. Plaintiffs purchased Numerex common stock in the public offering pursuant to the registration statement and prospectus.
Id. PP 4a-d.
On June 29, 1995, only two months after the public offering, defendant Eugene J. White, Numerex's Chairman of the Board since March of 1994 and its President and Chief Executive Officer since April of 1994, resigned from all of his positions with Numerex. Id. PP 8, 35. In his announcement, White stated, "after taking the Company public, completing three strategic acquisitions as well as successfully completing a recent public offering, it is time to move on." Id. P 35.
On July 12, 1995, after the market had closed, Numerex announced that a temporary slowdown in business within the U.K. alarm industry had led to lower-than-expected demand for its derived channel products. Id. P 36. The next day, the price of Numerex common stock fell 31.9% from $ 11.375 to $ 7.75.
Id. P 39. Trading on volume of 769,400 shares was more than eight times heavier than the prior three days' average. Id.
The day after this precipitous drop in the price of Numerex stock, the first suit was filed. Gross v. Numerex Corp., No. 95-4378 (filed July 14, 1995).
Count I of the two-count consolidated amended complaint alleges violations of § 11
of the Securities Act of 1933 against Numerex, the officers who signed the registration statement, the underwriters, and Gwynedd Resources, Ltd., and violations of § 15
against the individual defendants and Gwynedd. Count II claims violations of § 12(2)
against Numerex, Gwynedd and the underwriters and violations of § 15 against the individual defendants and Gwynedd. Notably, plaintiffs do not allege that defendants acted with the intent to defraud them in violation of § 10(b) of the Securities Act of 1934. Cf. In re U.S. Bioscience Secs. Litig., 806 F. Supp. 1197, 1201 (E.D. Pa. 1992).
Defendants have, as noted, moved to dismiss, contending that (1) no material misrepresentations exist as a matter of law because the forward-looking statements in the prospectus are not actionable (a) under the "bespeaks caution" doctrine, (b) as mere "puffing", or (c) as claims for mismanagement; (2) the complaint fails to allege adequately that defendants are statutory "sellers" under § 12(2); and (3) the consolidated amended complaint fails to satisfy the particularity requirement of Federal Rule of Civil Procedure 9(b).
The Supreme Court has identified the distinguishing features of a cause of action under § 11 of the 1933 Act:
Section 11 of the 1933 Act allows purchasers of a registered security to sue certain enumerated parties in a registered offering when false or misleading information is included in a registration statement. The section was designed to assure compliance with the disclosure provisions of the Act by imposing a stringent standard of liability on the parties who play a direct role in a registered offering. If a plaintiff purchased a security issued pursuant to a registration statement, he need only show a material misstatement or omission to establish his prima facie case. Liability against the issuer of a security is virtually absolute, even for innocent misstatements. Other defendants bear the burden of demonstrating due diligence.
Herman & MacLean v. Huddleston, 459 U.S. 375, 381-82, 74 L. Ed. 2d 548, 103 S. Ct. 683 (1983) (footnotes omitted). In contrast, "under § 12(2) of the Securities Act of 1933 buyers have an express cause of action for rescission against sellers who make material misstatements or omissions 'by means of a prospectus.'". Gustafson v. Alloyd Co., Inc., 131 L. Ed. 2d 1, 115 S. Ct. 1061, 1064 (1995). This provision applies only to initial distributions and not to securities purchased on the after-market. 115 S. Ct. at 1074; Ballay v. Legg Mason Wood Walker, Inc., 925 F.2d 682, 692-93 (3d Cir.), cert. denied, 502 U.S. 820, 116 L. Ed. 2d 52, 112 S. Ct. 79 (1991). Section 15, in turn, imposes liability upon a "controlling person" who has direct or indirect power over the management or policies of another entity and is thus liable to the same extent under § 11 or § 12(2) as the other entity. Trump, 7 F.3d at 366 n.5; Shapiro, 964 F.2d at 279.
A. "Bespeaks Caution" Doctrine
Under the securities law provisions plaintiffs cite, any alleged misstatement or omission must be material. Trump, 7 F.3d at 368 n.10; Craftmatic Secs. Litig. v. Kraftsow, 890 F.2d 628, 641 n.18 (3d Cir. 1989).
A "fact is material if there is a substantial likelihood that a reasonable [investor] would consider it important in deciding" whether to purchase shares. TSC Indus., Inc. v. Northway, Inc., 426 U.S. 438, 449, 48 L. Ed. 2d 757, 96 S. Ct. 2126 (1976).
Although materiality is a mixed question of law and fact ordinarily left to the trier of fact, "if the alleged misrepresentations or omissions are so obviously unimportant to an investor that reasonable minds cannot differ on the question of materiality [it is] appropriate for the district court to rule that the allegations are inactionable as a matter of law." Shapiro, 964 F.2d at 280 n.11.
In determining materiality, we must view a statement not in a vacuum but in the context of the entire document. Trump, 7 F.3d at 369. The duty to read a statement in its setting has given rise to the "bespeaks caution" doctrine, which provides,
when an offering document's forecasts, opinions or projections are accompanied by meaningful cautionary statements, the forward-looking statements will not form the basis for a securities fraud claim if those statements did not affect the "total mix" of information the document provided investors. In other words, cautionary language, if sufficient, renders the alleged omissions or misrepresentations immaterial as a matter of law.
Id. at 371. The bespeaks caution doctrine merely restates the unremarkable proposition that "while a misleading statement will not always lose its deceptive edge simply by joinder with others that are true, the true statements may discredit the other one so obviously that the risk of real deception drops to nil." Virginia Bankshares, Inc. v. Sandberg, 501 U.S. 1083, 1097, 115 L. Ed. 2d 929, 111 S. Ct. 2749 (1991). As an analytical matter, the doctrine is equally applicable to allegations of both affirmative misrepresentations and omissions concerning soft information. Trump, 7 F.3d at 371.
In order to render "inactionable" any allegedly misleading or false statement, the cautionary statements must be directly related to the material upon which the investors claimed to have relied. Kline v. First W. Gov't Secs., Inc., 24 F.3d 480, 489 (3d Cir.), cert. denied sub nom. Arvey, Hodes, Costello & Burman v. Kline, 130 L. Ed. 2d 522, 115 S. Ct. 613 (1994). A boilerplate disclaimer that merely "warns the reader that the investment has risks will ordinarily be inadequate to prevent misinformation. To suffice, the cautionary statements must be substantive and tailored to the specific future projections, estimates or opinions in the prospectus which the plaintiffs challenge." Trump, 7 F.3d at 371-72. Of course, our ultimate inquiry is whether a "reasonable jury could conclude that the subject projection materially influenced a reasonable investor." Id. at 373 (footnote omitted).
B. The Alleged Material Misstatements in the Prospectus
Plaintiffs point to a number of statements in the prospectus that they claim are false or misleading. Because our analysis depends on the actual language employed, as opposed to plaintiffs' characterizations of such, we shall quote in full every statement that plaintiffs allege is false or misleading.
1. Profit Growth
The consolidated amended complaint alleges that Numerex "boasted about . . . continuous growth in profits and sale" "in order to portray [Numerex] and the proposed stock investment in the most favorable light", when it stated,
Since 1992, the Company has experienced a substantial increase in revenues and profits due both to internal growth and to recent acquisitions.
Cmplt. P 26 (quoting Prospectus at 3 & 23). This declaration is neither a "boast" nor some artifice to inflate the value of the stock, but rather is a fair and accurate summary of the company's then-recent financial history. Defendants' choice of the adjective "substantial" is "inactionable" because Numerex's revenues and profits have increased substantially since 1992. Prospectus at 5 & 16; compare TSC, 426 U.S. at 459 (holding that phrase "substantial premium over current market values" is not materially misleading as a matter of law where premium was 14%). Paragraph 26 is not a material misstatement since it is not a misstatement in the first place and thus cannot predicate any liability.
2. British Telecom
According to the complaint, Numerex "misrepresented or failed to disclose, among other things, that Numerex's relationship with its principal customer, British Telecom, was undergoing a re-evaluation and could result in delayed or declining sales." Id. P 33. The complaint claims that defendants thus "created the false impression that the dramatic growth experienced by Numerex . . . would continue at rates comparable to those experienced in the past", especially since Numerex "knew or should have known" what its sales trends were in the UK because British Telecom was required, under the terms of their agreement, to provide rolling forecasts of the quantity of equipment likely to be ordered during specific periods. Id. PP 37-38.
This is precisely the sort of "soft information", i.e., "subjective analysis or extrapolation, such as opinions, motives, and intentions, or forward looking statements, such as projections, estimates, and forecasts", that our Court of Appeals addressed in Trump. 7 F.3d at 368 n.11 (quoting Craftmatic, 890 F.2d at 642). As in Trump, the prospectus here contains sufficient cautionary warnings to render the alleged misstatements "harmless." 7 F.3d at 371. The second risk factor disclosed on page six of the prospectus details Numerex's reliance upon British Telecom and warns of the potential harm to the company's well-being that a change in the relationship would present:
Dependence Upon British Telecom. Direct sales to the Company's major customer, British Telecom, accounted for approximately 48.6% and 55.0% of the Company's sales for the fiscal years ended October 31, 1994 and 1993, respectively and approximately 39.4% of the Company's sales for the three months ended January 31, 1995. Such sales consisted of network equipment deployed by British Telecom in connection with its RedCARE alarm reporting service. The Company's agreement to supply certain network equipment to British Telecom relating to its RedCARE service will expire on September 30, 1995. Under such agreement, British Telecom is not required to purchase any minimum amount of equipment. There can be no assurance that a new agreement will be entered into by the parties at the end of the term. In addition to direct sales to British Telecom, a substantial majority of the Company's remaining Derived Channel System sales consists of STUs sold to alarm system distributors and installers for resale to British Telecom's RedCARE subscribers. The Company is dependent upon the marketing efforts of British Telecom to generate demand for the enhanced alarm reporting service, which in turn results in sales of the Company's network equipment to British Telecom and customer premises equipment (STUs) to alarm system distributors and installers. There can be no assurance that British Telecom will take any further steps to increase the market penetration of its RedCARE service by attracting additional subscribers or by offering its RedCARE service in new regions of the United Kingdom or that any market development or geographic expansion efforts undertaken by British Telecom will be successful. In the event that British Telecom fails to attract additional RedCARE subscribers or does not otherwise expand its RedCARE service in the United Kingdom, the Company's sales of Derived Channel System products would be expected to decrease over time. A reduction of sales to British Telecom, a reduction by British Telecom in its marketing efforts for its RedCARE service, a failure by British Telecom to offer its RedCARE service in new regions, or an impairment of British Telecom's ability to add new subscribers for its RedCARE service, would have a material adverse effect on the Company.