MILBERG WEISS BERSHAD
HYNES & LERACH LLP
ALAN SCHULMAN (128661)
JAMES A. CAPUTO (120485)
TRAVIS E. DOWNS, III (148274)
TOR GRONBORG (179109)
600 West Broadway, Suite 1800
San Diego, CA 92101
Telephone: 619/231-1058
Attorneys for Plaintiffs
[Additional counsel appear on signature page.]
UNITED STATES DISTRICT COURT
NORTHERN DISTRICT OF CALIFORNIA
SAN JOSE DIVISION
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WALTER W. HEAD, III, et al., On Behalf of Plaintiffs, vs. NETMANAGE, INC., et al.,
Defendants. |
No. C-97-20061-JW CLASS ACTION DATE: December 22, 1997 |
I. INTRODUCTION
II. ARGUMENT
III. CONCLUSION
TO: ALL PARTIES AND THEIR RESPECTIVE COUNSEL OF RECORD
PLEASE TAKE NOTICE that on December 22, 1997, at 9:00 a.m. in the courtroom of the Honorable James Ware, United States District Court, Northern District of California, San Jose Division, 280 South First Street, San Jose, California, plaintiffs will move, and hereby do move, the Court for an order:
1. Striking defendants' references to assertions made in defendants' Form 4 reports and NetManage's 1995 and 1996 Proxy Statements and all references to the Declaration of Ignacio E. Salceda in Support of Defendants' Motion to Dismiss the Amended Complaint ("Salceda Decl."), Exhibits L and M; or
2. In the alternative, refusing judicial notice of the same documents under Federal Rule of Evidence 201, as the purported "facts" contained in these documents are both (a) reasonably subject to dispute, and (b) comprise inadmissible hearsay under Federal Rule of Evidence 802.
In their motion to dismiss plaintiffs' First Amended Complaint ("Complaint"), defendants reference Securities Exchange Commission ("SEC") filings which were not pleaded in the Complaint. Without legal basis, they ask this Court to accept those filings as indisputable evidence that defendants' self-described "paltry" insider trading proceeds of $14 million were so insignificant that, as a matter of law, they do not support an inference of fraud.(1) See Memorandum of Points and Authorities in Support of Defendants' Motion to Dismiss the Amended Complaint ("Defs' Mem.") at 19-22. Defendants' reliance on their own filings as true evidence of the matters contained therein is improper. These references should be stricken.(2)
An automatic stay of discovery constrains plaintiffs' investigation during the pendency of defendants' motion to dismiss. Mindful of this, defendants nevertheless seek to introduce factual matters, not subject to cross examination, and to ask this Court to accept them as true. While such a request might, under ordinary circumstances, convert defendants' motion to dismiss into a motion for summary judgment, it cannot do so here as plaintiffs are barred from countervailing discovery. Defendants' one-sided summary judgment attempt is grossly unfair and should not be permitted.
Further, the Individual Defendants'(3) Form 4 reports(4) may not be used to establish defendants' lack of scienter. These submissions are inadmissible hearsay. Because plaintiffs contest the veracity of these documents, plaintiffs' objection is not a mere technicality. Defendants' filings with the SEC lack the imprimatur of indisputability that is the indispensable characteristic of judicially noticed facts.
The courts and the SEC have repeatedly recognized that filing requirements are often flouted by corporate insiders.(5) As a result, courts are wary of taking judicial notice of SEC filings. See, e.g., Hennessy v. Penril Datacomm Networks, 69 F.3d 1344 (7th Cir. 1995). In addition, the 9th Cir. has repeatedly held that documents like these, which are outside the Complaint, should not be considered on a motion to dismiss. See Cooper v. Pickett, 122 F.3d 1186, 1192 (9th Cir. 1997). Therefore, this Court should strike any references to SEC filings in defendants' moving papers or, in the alternative, decline to take judicial notice of filings outside the Complaint.
Generally, a district court may not consider any material beyond the pleadings in ruling on a motion to dismiss. Cooper, 122 F.3d at 1192; Branch v. Tunnell, 14 F.3d 449, 453 (9th Cir. 1994); Fecht v. Price Co., 70 F.3d 1078, 1080 n.1 (9th Cir. 1995), cert. denied, 116 S. Ct. 1422 (1996); Bonila v. Oakland Scavenger Co., 697 F.2d 1297, 1301 (9th Cir. 1992). A document is "outside" the complaint if its contents are not "alleged" in the complaint, or if its authenticity is questioned. Cooper, 122 F.3d at 1192. Plaintiffs neither quoted nor cited defendants' Form 4 reports or Proxy Statements in the Complaint. The Court should therefore refuse to consider them for that reason alone.(6) Id.
It is axiomatic that a judicially noticed fact must be
one not subject to reasonable dispute in that it is either (1) generally known within the territorial jurisdiction of the trial court or (2) capable of accurate and ready determination by resort to sources whose accuracy cannot reasonably be questioned.
Fed. R. Evid. 201(b). In other words, for a fact to be judicially noticed, "indisputability is a prerequisite." Hennessy, 69 F.3d at 1354. The power to judicially notice facts "is to be exercised by courts with caution. . . . Every reasonable doubt upon the subject should be resolved promptly in the negative." Brown v. Piper, 91 U.S. 37, 42-43 (1875). Thus, if any reasonable doubt can be cast upon the accuracy of defendants' Form 4 reports and Proxy Statements, this Court must decline to take judicial notice of them.
This Court may not notice defendants' SEC filings for the purpose of accepting the truth of the matters therein. Hennessy illustrates the proper limits to judicial notice of SEC filings. In Hennessy, the parties in a discrimination action hotly disputed the size of the defendant company. Under the 1991 Civil Rights Act statutory damages scheme, the bigger the company, the more it would have to pay. 69 F.3d at 1354. The plaintiff asked the court to take judicial notice of the defendant company's Form 10-K report, filed with the SEC, which clearly stated a specific number of company employees. The district court refused to notice that the company had as many employees as it reported in the Form 10-K. The 7th Cir. affirmed, holding that "[i]n order for a fact to be judicially noticed, indisputability is a prerequisite." Id. As the court explained, "we believe that the fact in question here was not capable of accurate and ready determination by resort" to an SEC filing. Id. at 1355.
The Hennessy panel's analysis is on point here. The "fact in question" is not whether defendants have filed Proxy Statements and Form 4 reports or what they say. Rather, the judicial notice question is whether these filings, which defendants themselves completed, are indisputably accurate. Because the answer is logically "not capable of accurate and ready determination" by resort to defendants' SEC filings, this Court should decline their judicial notice. Hennessy, 69 F.3d at 1355; see Lovelace v. Software Spectrum, 78 F.3d 1015, 1018 (5th Cir. 1996) (SEC documents may be considered on a motion to dismiss only if not used to prove the truth of their contents).(7) Indeed, "[a] [c]ourt should not use judicial notice to generate an evidentiary record and then weigh evidence . . . to dismiss [a] complaint." Network Equipment, 762 F. Supp. at 1363.
Courts within the 9th Cir. have been reluctant to take judicial notice of SEC filings on motions to dismiss. In re Sun Microsystems, Inc. Sec. Litig., No. C-89-20351-RPA, 1990 U.S. Dist. LEXIS 18740, at *5-*6 (N.D. Cal. Aug. 20, 1990) (court refused to take judicial notice of defendants' SEC filings because to do so would convert motion to dismiss into one for summary judgment); Haltman v. Aura Sys., 844 F. Supp. 544, 550 (C.D. Cal. 1993) (unnecessary to take judicial notice of SEC documents on motion to dismiss).
In In re Wickes Cos. Sec. Litig., [1982-1983 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶99,055, at 95,002 (S.D. Cal. 1983), the court concluded that the use of an SEC filing on Rule 12(b)(6) motion was improper:
[Defendant] urges the court to compare the allegations of the complaint with the Form S-14 Registration Statement, which includes the Joint Proxy Statement and Prospectus. It requests that the court take judicial notice of the SEC filing.
* * *
Whether the statements contained in the prospectus were misleading is a question of fact. Even if this fact were uncontested, which it is not, the prospectus does not provide answers to the other allegations contained in the complaint. The prospectus does not demonstrate whether [defendant] had knowledge of the evidence or recklessly ignored evidence of the adverse impact of the proposed combination.
Wickes is instructive. Here, whether the NetManage defendants possessed the required "state of mind" to commit securities fraud is a crucial and hotly contested question of fact. Such a question cannot be resolved, as a matter of law, by relying upon defendants' own Form 4 reporting to establish "facts," accepting defendants' version of those "facts," and then drawing inferences adverse to plaintiffs from them -- especially filings whose accuracy plaintiffs refuse to concede. Cooper, 122 F.3d at 1192-93; Hennessy, 69 F.3d at 1354-55; Liberty Mutual, 969 F.2d at 1388.
Decisions defendants rely upon permitting the judicial notice of SEC filings support plaintiffs' position here. For example, in Kramer v. Time Warner, Inc., 937 F.2d 767, 774 (2d Cir. 1991), the court upheld judicial notice of SEC filings primarily because the documents noticed were the very documents alleged to contain the misrepresentations at issue. In Lovelace, 78 F.3d at 1018, the court permitted SEC filings to be considered on a motion to dismiss only if the documents were not used to prove the truth of their content.(8) Applying these cases here, defendants' filings do not contain the misrepresentations alleged in the Complaint, and cannot be used to establish the "truth" of the matter asserted, i.e., evidence of unexercised stock holdings. Such use is clearly beyond the acceptable bounds of judicial notice.
Hearsay is a statement, other than one made by the declarant while testifying at trial or hearing, offered in evidence to prove the truth of the matter asserted. Fed. R. Evid. 801(c). Unless otherwise excepted, hearsay is not admissible. Fed. R. Evid. 802. Using defendants' unpleaded SEC filings to decide issues of knowledge and intent and to contradict the Complaint's allegations improperly admits inadmissible hearsay on a Rule 12(b)(6) motion. Cooper, 122 F.3d at 1192-93.(9)
Records and reports may be admissible as exceptions to the hearsay rule if they are so-called "public" records. Fed. R. Evid. 803(8). However, this exception's "relative narrowness . . . is illustrated by its nonapplicability to nonfederal public agencies." Fed. R. Evid. 803. Note to Paragraph (8). The exception is justified by the assumption that a public official will perform his or her duties properly. Id.
Defendants are not "public officials" as contemplated by Rule 803. Moreover, although SEC filings, like defendants' Form 4 reports, are "public" documents that corporate insiders must file, that status is not the equivalent of being "public" for hearsay purposes.(10) As Judge Learned Hand explained almost 50 years ago, in the context of SEC "Offering Sheets" filled out by registered dealers:
Official in one sense of course they were, for the dealers had filed them in obedience to a regulation of the Securities and Exchange Commission; but not all documents required to be filed by law are competent evidence of all that they record. The [public records] exception is confined to transactions of which it is not only the duty of an official to make entry, but which must themselves have come within his knowledge in the course of his duties.
Grayson, 166 F.2d at 868.(11)
Judge Hand's analysis applies here. All of defendants' SEC filings were completed by non-"officials." Moreover, unlike complicated Forms 10-Q and 10-K reports, which are usually prepared by platoons of lawyers and accountants wielding fine-toothed combs, Form 4 reports are inherently personal disclosure filings, easily filled out in the privacy of a reporting shareholder's inner sanctum. Nothing in that process imbues the Form 4 reports with the guarantees of reliability and trustworthiness required by the hearsay exceptions (or the judicial notice doctrine, for that matter). As such, it would be improper for this Court to use defendants' SEC filings as evidence supporting dismissal of plaintiffs' allegations of fraud.
Accordingly, plaintiffs' motion to strike any reference, whether direct or inferred, to defendants' Form 4 reports and Proxy Statements should be granted. Alternatively, the Court should decline to take judicial notice of these documents, both because plaintiffs dispute the filings' accuracy and reliability, and because the documents would comprise inadmissible hearsay if used to decide issues of motive and intent.
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DATED: December 8, 1997 |
Respectfully submitted, MILBERG WEISS BERSHAD _________________________________ 600 West Broadway, Suite 1800 LAW OFFICES OF ALFRED G. SCHIFFRIN & CRAIG, LTD. FARUQI & FARUQI, LLP Attorneys for Plaintiffs |
NETMANAG\MCL01002.brf
1. Defendants reason as follows: (a) fraudulent intent is rebutted if it can be shown that defendants have failed to exercise the majority of their stock options during the Class Period and dispose of the stock they so acquired; (b) defendants' NetManage filings show they sold only a fraction of their total NetManage option holdings; (c) therefore, defendants have conclusively proved an absence of fraud. This "logic" flies in the face of 9th Cir. precedent. It is well accepted in this Cir. that a small number of -- or even a complete lack of -- insider stock sales is not fatal to plaintiffs' attempts to show scienter. See In re Wells Fargo Sec. Litig., 12 F.3d 922, 931 (9th Cir. 1993) (while allegations of unusual insider trading may be typical of securities fraud, they "are not required" to show motive and opportunity); Provenz v. Miller, 102 F.3d 1478 (9th Cir. 1996), cert. denied, ___ U.S. ___, 118 S. Ct. 48 (1997); Hanon v. Dataproducts Corp., 976 F.2d 497, 507 (9th Cir. 1992). Thus, defendants cannot counter plaintiffs' allegations on a pleadings motion by arguing "that they sold only a small fraction of their holdings." In re Gupta Corp. Sec. Litig., 900 F. Supp. 1217, 1231-32 (N.D. Cal. 1994). The result is the same under the Private Securities Litigation Reform Act of 1995 ("PSLRA"). See Gross v. Medaphis, [Current Binder] Fed. Sec. L. Rep. (CCH) ¶99,474, at 97,192 (N.D. Ga. 1997) (upholding §10(b) complaint alleging accounting fraud despite absence of any insider sales).
2. A motion to strike may be used "to call to courts' attention questions about the admissibility of proffered material." Monroe v. Board of Education, 65 F.R.D. 641, 645 (D. Conn. 1975); Piva v. Xerox Corp., 654 F.2d 591, 596 (9th Cir. 1981).
3. Zvi Alon ("Alon"), Walter Amaral ("Amaral"), Uzia Galil ("Galil"), John Bosch ("Bosch"), Robert Williams ("Williams"), and Richard Koretz ("Koretz").
4. See Salceda Decl., Exs. L at 12 and M at 11.
5. See, e.g., SEC v. Sands, 902 F. Supp. 1149, 1165 (C.D. Cal. 1995) (SEC granted summary judgment on CEO's failure to timely file a Form 4) report; SEC v. Palmer Financial Corp., Civ. No. 88-305-NHJ, 1988 U.S. Dist. LEXIS 9216, at *7 (D.D.C. Aug. 18, 1988) (defendants ordered to file "complete and accurate" Form 4s); SEC v. Shattuck Denn Mining Corp., 297 F. Supp. 470, 477 (S.D.N.Y. 1968) (court finds defendant failed to file proper Form 4 statements and make complete disclosure in similar statements actually filed).
Similarly, SEC "Litigation Releases" are replete with instances where defendants, "without admitting or denying" the SEC's allegations, have nonetheless consented to fines, permanent injunctions and final orders because of their alleged Form 4 filing improprieties. See, e.g., SEC v. Rothschild, SEC Litig. Release No. 11714, 1988 SEC LEXIS 820 (Apr. 27, 1988) (defendant charged with having filed late and/or incomplete Form 4 reports).
6. Any other course of action would allow the defendants to circumvent the automatic stay of discovery imposed during the pendency of a motion to dismiss. When matters outside the pleadings are presented to and not excluded by the court, a Rule 12(b)(6) motion is to be treated as one for summary judgment. Hal Roach Studios, Inc. v. Richard Feiner & Co., 896 F.2d 1542, 1550 (9th Cir. 1989). Because plaintiffs have not been permitted discovery under the PSLRA's automatic stay, it would be highly prejudicial and improper to allow defendants to convert their motion to dismiss unilaterally into an unanswered motion for summary judgment. In re Network Equipment Technologies, Inc. Litig., 762 F. Supp. 1359, 1363 (N.D. Cal. 1991).
7. Liberty Mutual Ins. Co. v. Rotches Pork Packers, Inc., 969 F.2d 1384, 1388-89 (2d Cir. 1992) (district court improperly took judicial notice of filed documents because it used them "to establish facts asserted therein"); State Farm Fire & Cas. Co. v. Westchester Inv. Co., 721 F. Supp. 1165, 1166 (C.D. Cal. 1989) (truth of argument contained in documents not judicially noticeable); United States v. Jones, 29 F.3d 1549, 1553 (11th Cir. 1994) (court may take judicial notice of another court's order only for the limited purpose of "recognizing" either the subject matter of the litigation or the judicial act that the order represents).
8. In re Silicon Graphics, Inc. Sec. Litig., 970 F. Supp. 746 (N.D. Cal. 1997), is distinguishable. There, instead of taking as true all allegations of material fact stated in the complaint and construing them in the light most favorable to the nonmoving party, the district court accepted defendants' version of the facts as true, and choose to disbelieve plaintiffs' allegations. However, "Rule 12(b)(6) does not countenance . . . dismissals based on a judge's disbelief of a complaint's factual allegations." Neitzke v. Williams, 490 U.S. 319, 327 (1989). Moreover, the court relied on Kramer which, as discussed above, permitted judicial notice only where the SEC filings were the documents at issue. Silicon Graphics is poorly decided and is concurrently on appeal before the 9th Cir. See In re Silicon Graphics, Inc. Sec. Litig., No. 97-16240, U.S. Court of Appeals, Ninth Circuit. For the same reasons, In re Silicon Graphics, Inc. Sec. Litig., [1996-1997 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶99,325 (N.D. Cal. 1997), is not precedential for the holding that inaccurate SEC filings outside the pleadings are proper documents for judicial notice.
9. Under a motion to dismiss under either Rule 9(b) or Rule 12(b)(6); "`[a]ll the allegations of material fact are taken as true and construed in the light most favorable'" to plaintiffs. Wool v. Tandem Computers, Inc., 818 F.2d 1433, 1439 (9th Cir. 1987); Warshaw v. Xoma Corp., 74 F.3d 955 (9th Cir. 1996).
10. The proposition that even "officially filed" documents may be inadmissible hearsay is well established. See United States v. Grayson, 166 F.2d 863, 868-69 (2d Cir. 1948) (Hand, J.) ("offering sheets" filed with SEC are hearsay); Standard Oil Co. v. Moore, 251 F.2d 188, 222 (9th Cir. 1957) (tax returns offered as proof of facts recited therein are hearsay); Greenbaum v. United States, 80 F.2d 113, 125 (9th Cir. 1935) (taxpayer's return is hearsay); Matthews v. United States, 217 F.2d 409, 413 (5th Cir. 1954) ("sugar reports" filed with IRS are inadmissible hearsay).
11. See also Brown v. Sierra Nevada Memorial Miners Hosp., 849 F.2d 1186, 1189-90 (9th Cir. 1988) (reports submitted to public agency by outside consultants not within public records exception despite being used by public agency to make its own final report); Greenbaum, 80 F.2d at 125 (although regarded as "public records," taxpayers' returns do not come under that exception to the hearsay rule); Matthews, 217 F.2d at 413-16 (sugar transaction reports were neither business records nor public records because they were compiled at the behest of a government agency by a private party); Standard Oil, 251 F.2d at 222 (tax returns neither public nor business records because they were prepared by a private party under threatened sanction of federal statute).
I, the undersigned, declare:
1. That declarant is and was, at all times herein mentioned, a citizen of the United States and a resident of the County of San Diego, over the age of 18 years, and not a party to or interested in the within action; that declarant's business address is 600 West Broadway, Suite 1800, San Diego, California 92101.
2. That on December 9, 1997, declarant served the NOTICE OF MOTION AND MOTION TO (1) STRIKE DEFENDANTS' REFERENCES TO THE CONTENTS OF THEIR "PUBLIC RECORDS" OR, IN THE ALTERNATIVE; (2) PLAINTIFFS' OBJECTION TO THE COURT'S TAKING JUDICIAL NOTICE OF SAME; SUPPORTING MEMORANDUM OF POINTS AND AUTHORITIES by depositing a true copy thereof in a United States mailbox at San Diego, California in a sealed envelope with postage thereon fully prepaid and addressed to the parties listed on the attached Service List and that this document was forwarded to the following designated Internet site at:
3. Declarant caused the above to be served via facsimile and overnight mail on defendants.
4. That there is a regular communication by mail between the place of mailing and the places so addressed.
I declare under penalty of perjury that the foregoing is true and correct. Executed this 9th day of December, 1997, at San Diego, California.
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