After a “mobile marketing and advertising” company announced that it was writing off more than $100 million in receivables, a group of persons who purchased the company’s stock filed a putative class action against the company, its accounting firm, and the firms that underwrote its initial public offering (IPO) and a subsequent offering. The plaintiffs claimed that the defendants made material misrepresentations about the company’s financial condition in violation of the Securities Act of 1933 and the Securities Exchange Act of 1934 (the “Exchange Act.”) The court granted the defendants’ motion to dismiss the suit under Rule 12(b)(6) of the Federal Rules of Civil Procedure, finding that the plaintiffs failed to establish the existence of bad receivables at the time the defendants allegedly made the misrepresentations. Rieckborn, et al v. Jefferies, LLC, et al, No. 3:13-cv-03889, order (N.D. Cal., Feb. 27, 2015).
The company in question, Velti, was founded in 2000 in Athens, Greece. Much of its business, according to the court’s order, involved contracts under which it provided services for which it was not paid until it completed all work and invoiced the customer. The company had two methods of classifying its receivables. It booked a receivable as revenue when it completed work on a contract. From that time until it sent an invoice to the customer, the receivable was classified as an “accrued contract receivable.” It classified the receivable as a “trade receivable” from the time it sent the invoice until it received payment.
A common metric used in business, known as “day sales outstanding” (DSO), measures the number of days it takes a company to collect a receivable. The plaintiffs alleged that Velti only used trade receivables, rather than the full life cycle of its receivables, to determine DSO, at least in part because of the 2010 economic crisis in Greece. They claimed that the company intended to conceal “old receivables sitting on its books for which it was not carrying an appropriate reserve for bad debts.” Rieckborn, order at 3. The company raised about $150 million in its 2011 IPO, but in August 2013, it was forced to write off $111 million in receivables. Its stock price collapsed, and it declared bankruptcy that November.
The plaintiffs asserted five causes of action under the Securities Act and the Exchange Act. With regard to the Rule 12(b)(6) motion to dismiss brought by the accounting firm and the underwriters, the court held that three claims were relevant:
– Section 11 of the Securities Act, 15 U.S.C. § 77k, against all defendants;
– Section 12(a)(2) of the Securities Act, , 15 U.S.C. § 77l(a)(2), against the underwriters; and – Section 10(b) of the Exchange Act, 15 U.S.C. § 78j(b), against the accountants.
A plaintiff alleging fraud must “state with particularity the circumstances constituting fraud or mistake.” Fed. R. Civ. P. 9(b). The Ninth Circuit has held that this requires pleading “the time place, and content” of allegedly false or misleading representations, along with the “circumstances indicating falseness” or the “manner in which the representations at issue were false and misleading.” Rieckborn at 9, quoting In re GlenFed Inc. Sec. Litig., 42 F.3d 1541, 1547-48 (9th Cir. 1994). In all three relevant claims, the court held that the plaintiffs failed to establish a connection between the receivables and any representations made by the defendants.
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