The opinion of the court was delivered by: McLaughlin, J.
This document relates to: All Actions
In this consolidated class action, the lead plaintiff alleges that the defendants, NutriSystem Inc. ("NutriSystem" or the "company"), Chief Executive Officer Michael J. Hagan, Chief Financial Officer James D. Brown, Chief Marketing Officer Thomas F. Connerty, and Chief Information Officer Bruce Blair, committed securities fraud in violation of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 ("Exchange Act"), 15 U.S.C. § 78a, and Securities and Exchange Commission ("SEC") Rule 10b-5, 17 C.F.R. § 240.10b-5. The action is brought on behalf of purchasers of NutriSystem securities between February 14, 2007 and February 19, 2008 inclusive.*fn1
NutriSystem is a publicly-traded company that sells weight management products. The plaintiffs allege that the defendants made false and misleading statements about the company's financial health in the face of competition from Alli, an over-the-counter anti-obesity drug produced by GlaxoSmithKline ("Glaxo") and released in June 2007. The plaintiffs allege that the statements made by the defendants artificially inflated NutriSystem's stock price and led to shareholder losses when the share price dropped following the company's disclosures on July 24, 2007, October 3, 2007, and February 19, 2008.
The defendants have moved to dismiss the amended consolidated class action complaint on several grounds. Their main arguments for dismissal of the Section 10(b) claims are:
(1) that the plaintiffs have failed to satisfy the heightened pleading burden of the Private Securities Litigation Reform Act ("PSLRA"), 15 U.S.C. § 78u-4, requiring the plaintiff to identify allegedly false statements with particularity and plead facts that raise a strong inference of scienter; (2) that the plaintiffs cannot maintain claims based on NutriSystem's failure to meet earnings estimates announced on July 24, 2007; and (3) that the plaintiffs cannot maintain claims based on events occurring after October 4, the date of the lead plaintiff's final alleged stock purchase. The defendants further argue that all Section 20(a) claims fail because: (1) the underlying Section 10(b) claims fail; (2) the plaintiffs have not adequately alleged culpable participation by the individual defendants; and (c) the plaintiffs have not alleged that defendant Blair is a controlling person for purposes of Section 20.
The Court finds that the plaintiffs have not carried their burden of raising a strong inference of scienter under the PSLRA. The Court also finds that the plaintiffs do not have standing to bring claims arising out of statements made after October 4, 2007, nor have the plaintiffs met their burden of alleging false statements with the particularity required by the PSLRA with respect to most of the allegations in the complaint. The Court will grant the defendants' motion.
I. Allegations of the Complaint and Incorporated Documents*fn2
NutriSystem sells a weight management system based on the purchase of a portion-controlled prepared meal program, typically consisting of a 28-day supply of prepared meals. Compl. at ¶ 2. During the class period, defendant Hagan was NutriSystem's Chairman and Chief Executive Officer. Id. ¶ 19(a). Defendant Brown served as the firm's Chief Financial Officer, but announced on August 10, 2007, that he planned to resign. Id. ¶¶ 19(b), 49. Defendant Connerty was the company's Chief Marketing Officer and Executive Vice President for Product Development, and defendant Blair was the company's Chief Information Officer and Senior Vice President for Operations. Id. ¶¶ 19(c), 19(d).
Because NutriSystem experiences a high rate of attrition with its dieting customers, the company has focused on attracting new customers and closely tracks a metric it calls "Customer Acquisition Costs" ("CAC"). NutriSystem has used CAC as a shorthand for the effectiveness of its marketing and advertising in presentations to investors and analysts. Id. ¶¶ 3-4.
On February 7, 2007, Glaxo announced that the U.S. Food and Drug Administration ("FDA") had approved its weight loss pill for over-the-counter sale. The drug would be known as Alli and released to the market on June 15, 2007. Glaxo invested heavily in marketing and publicity for Alli leading up to and following the drug's introduction. Id. ¶¶ 6-7. Alli was a tremendous success initially, acquiring 1,500,000 customers by July 25, 2007, and 2,000,000 customers by the end of the third quarter of 2007. Id. ¶ 9. The complaint alleges that by virtue of their positions within the company, the defendants were aware of the threat Alli posed to the company's financial health and repeatedly misrepresented that threat in communications to investors and analysts throughout the second half of 2007, ending with the company's announcement of 2007 full-year results on February 19, 2008. Id. ¶¶ 12, 20, 24. The complaint also alleges that defendants Hagan, Brown, Connerty, and Blair ("Individual Defendants"), as senior executive officers or directors of the company, were "controlling persons" within the meaning of Section 20(a) of the Exchange Act and are directly liable for securities fraud under that statute. Id. ¶ 21.
The factual allegations are discussed below in greater detail.
A. February 14, 2007, to July 23, 2007*fn3
On February 14, 2007, one week after Glaxo announced the FDA's approval of Alli for over-the-counter sale, NutriSystem issued a press release reporting fourth quarter 2006 results and providing first quarter and full-year guidance for 2007. The company reported fourth quarter revenue of $133,569,000 and net income of $19,607,000, or $0.53 per diluted share. The company predicted that 2007 first-quarter revenue would be between $205 million and $215 million, "an increase of at least 40% year-over-year," and that full-year revenue would be between $720 million and $740 million. Id. ¶¶ 31-32. Defendant Hagan commented on the results and estimates, noting, "We are very pleased with our start in 2007. Our advertising continues to perform, our new market segments provide us additional visibility for growth, and our revenue stream from ex-customers is starting strong." Id.; Defs'. Mot. to Dismiss Complaint ("Defs'. Br.") Ex. 1 at 1. Brown referred to NutriSystem's former customers as "a growing pool of people . . . offer[ing] us rather larger opportunity over the next several years." Id. Ex. 2 at 2. On February 15, 2007, the share price of NutriSystem's common stock closed at $49.79, up $5.91. Compl. ¶ 34.
On April 25, 2007, the company issued a press release announcing first quarter results and providing guidance for the remainder of 2007. The company exceeded its first quarter guidance, reporting revenues of $238,360,000. Id. ¶ 35. In the press release, Hagan attributed part of the company's first quarter success to "ongoing expansion of our pool of ex-customers," Defs'. Br. Ex. 4 at 1, and the company raised its estimate of 2007 full year revenues to between $790 million and $805 million. Compl. ¶ 36. Hagan added:
2007 is shaping up to be a very good year for us. Our 2007 strategy is to focus on three areas: profitable new customer growth across all market segments -- women, men, and seniors; continue to improve retention and reactivation efforts and invest in product areas such as our new 2008 weight loss program that advance customer health while growing the lifelong value of each customer.
Id. (internal quotation marks omitted). The company's share price rose $5.05 per share over the following two days and closed at $63.29. Id. ¶ 38.
Consistent with Glaxo's announcement in February, Alli began over-the-counter sales on June 15, 2007. Id. ¶ 39.
B. July 24, 2007, to October 4, 2007
1. The July 24, 2007, 2Q Earnings Announcement and Conference Call
On July 24, 2007, NutriSystem announced its second quarter financial results, third quarter estimates, and full-year guidance in a press release. Id. ¶ 40. The company reported revenues of $213,556,000 for the second quarter, and CEO Hagan stated, "[t]he quarter was a very good one and we were pleased with the solid growth in our core women's market and continued strength in revenue coming from our ex-customers." Id. CFO Brown noted the company's
[s]ubstantial investments in the business to improve future profitability including a new e-commerce platform, the new food program, a new call center and international expansion. To date we've used our strong cash flow to fund stock buy-backs. In the first half of 2007, we generated net cash from operations of $98 million and repurchased 2.0 million shares for $98 million.
Id. In the press release, NutriSystem estimated third quarter revenues between $200 million and $208 million, and raised its full year 2007 revenue guidance to between $810 million and $820 million. The press release quotes CEO Hagan as saying, "[t]he business performed extremely well for the first half of 2007. We continue to be excited about the new market segments we've launched in the past year and even more excited about how often our ex-customers are returning to us." Id. ¶ 41.
A conference call with securities analysts was held the same day. Id. ¶ 42. CFO Brown prefaced the discussion with analysts by saying:
I would like to remind everyone that this announcement contains forward-looking statements that involve risks and uncertainties. Such information includes statements about NutriSystem's second quarter financial results as well as statements that are preceded by, followed by, or include the words believes, plans, intends, expects, anticipates, or similar expressions. Statements regarding NutriSystem's outlook and guidance for the third quarter of 2007 and the full year of 2007, its expectations regarding its ability to continue its growth while maintaining costs, and similar other statements that are not statements of historical facts constitute forward-looking statements. For such statements, NutriSystem claims the protection of the Safe Harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. . . .
Factors that could cause actual results to differ from those contained in the forward-looking statements include but are not limited to those factors set forth in NutriSystem's annual report on Form 10-K for the year ended December 31, 2006, which has been filed with the SEC.*fn4 Defs'. Br. Ex. 7 at 1. The risk factors enumerated in the company's 2006 Form 10-K stated, in pertinent part:
Our future growth and profitability will depend in large part on the effectiveness and efficiency of our marketing . . . . The weight management industry is highly competitive. . . . New weight loss products . . . may put us at a competitive disadvantage. The creation of a weight loss solution, such as a drug therapy, that is perceived to be safe, effective, and "easier" than a portion-controlled meal plan would put us at a disadvantage in the marketplace and our results of operations could be negatively affected.
Defs'. Br. Ex. 3 at 10, 12.
During the July 24 call with analysts, Hagan noted a "slight softness in demand" for NutriSystem "starting in late June and carrying into early July." Compl. ¶ 42. Hagan added, "We believe the launch of a new over-the-counter weight loss pill with significant PR and media behind it has had an effect, and based on information we have this is fully reflected in our guidance for the remainder of the year." Id. In response to a question from Citigroup analyst Gregory Badishkanian on the drug's effect, Hagan described the company's 2007 guidance as "classically conservative," and noted that the softening of demand for NutriSystem might be related to the launch of [Alli] from [Glaxo] and the big PR and media blitz surrounding it. . . . [B]ut we also believe that while demand has been picking up over the last week or so we provided guidance in . . . a conservative fashion to reflect what we have been seeing over the past month and that includes the last couple weeks of June.
Id.; Defs'. Br. Ex. 7 at 7.
[W]e believe [Alli's effect] is just a temporary type of thing. . . . First half of June was really solid, and then we had a bit of [a] hiccup but recognizing that we had the hiccup we reined in a little bit Q3 guidance. But still when you look at growth year-over-year we're going to have a very solid year.
Id. In response to a question asking whether the comeback in demand was "across-the-board," Hagan responded affirmatively. Id. ¶ 46.
Later in the call, an analyst asked if the company was making any marketing plan adjustments as a result of Alli's competition. Id. ¶ 44. Chief Marketing Officer Connerty responded:
[I]n areas where we have seeing [sic] marginal buys not perform as well as they have in previous quarters we've cut them back based on softness in demand. . . . One of the nice aspects of our business model is the fact that we can adjust relatively quickly on our media spend and when we are seeing competitive influences kind of push our acquisition costs up a little bit we can adjust accordingly and pull back on our spending. . . . [T]he implied statement of the fact that we are seeing softening in demand naturally equates to an increase in CAC.
Id. Connerty also said, "[L]ike everything we do we test [marketing campaigns] so it is not likely we'd go out there overly aggressively with a campaign that wouldn't yield positive return on the media investment." Id. The company's share price fell ...