Costa Brava Partnership III LP v. Chinacast Education Corp., 809 F.3d 471

Background

ChinaCast, a NASDAQ-listed Chinese e-learning company, raised ~$48M in U.S. offerings in 2008–2009; Deloitte warned of material internal control weaknesses in 2011.
Founder/CEO Ron Chan allegedly transferred ~$120M of corporate assets to outside accounts, diverted other funds, pledged company assets, and interfered with audits, leading to corporate collapse.
Chan and CFO Antonio Sena made public statements and signed SEC filings assuring investors of ChinaCast’s financial health while the looting occurred; Chan was later removed and the company disclosed misconduct.
Shareholders who bought between Feb. 2011 and Apr. 2012 sued under Rule 10b-5 alleging material misstatements/omissions and scienter; the district court dismissed ChinaCast for failure to plead corporate scienter, invoking the adverse-interest exception.
On appeal, the Ninth Circuit accepted the complaint’s allegations as true and addressed whether Chan’s scienter can be imputed to ChinaCast despite his acting for personal gain.
The Ninth Circuit reversed the dismissal, holding scienter can be imputed because Chan acted with apparent authority and third-party investors reasonably relied on corporate statements.

Issues

Issue	Plaintiff's Argument	Defendant's Argument	Held
Whether a corporate officer's scienter can be imputed to the corporation under §10(b)/Rule 10b-5	Chan's fraudulent intent should be imputed because he made statements and signed SEC filings with the corporation's imprimatur and investors relied on them	Chan’s fraud was adverse to ChinaCast; under the adverse-interest exception, his scienter cannot be imputed	Yes; scienter can be imputed where the officer acted with apparent authority and third parties relied in good faith
Applicability of the adverse-interest exception when officer acts solely for personal gain	Exception should not bar relief because investors were innocent third parties who relied on apparent corporate authority	The adverse-interest exception precludes imputation when an agent totally abandons the principal’s interests	The adverse-interest exception does not apply to defeat third‑party protection; apparent authority/reliance overrides the exception
Role of apparent authority in imputation	China placed Chan in position of trust; his communications carried corporate authority, justifying imputation	Apparent authority cannot convert purely self‑serving fraud into corporate scienter	Apparent authority can render a faithless agent’s statements attributable to the corporation for protection of innocent third parties
Pleading scienter under the PSLRA at the motion‑to‑dismiss stage	Allegations of Deloitte’s warning, Chan’s conduct, public statements, and board inaction sufficiently plead a strong inference of corporate scienter	Dismiss for failure to plead scienter because Chan acted only for personal gain	Allegations suffice at pleading stage to impute scienter and survive 12(b)(6); merits remain for later stages

Key Cases Cited

Janus Capital Grp. v. First Derivative Traders, 131 S. Ct. 2296 (Sup. Ct.) (defining material misstatement liability under Rule 10b-5)
Central Bank of Denver v. First Interstate Bank, 511 U.S. 164 (Sup. Ct.) (private liability under §10(b) and limits on aiding-and-abetting liability)
Ernst & Ernst v. Hochfelder, 425 U.S. 185 (Sup. Ct.) (scienter requirement for Rule 10b-5 liability)
Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308 (Sup. Ct.) (pleading standard and requirement to plead a strong inference of scienter)
Am. Soc. of Mech. Eng’rs v. Hydrolevel Corp., 456 U.S. 556 (Sup. Ct.) (apparent authority can impute agent fraud to principal in federal law contexts)
Hollinger v. Titan Capital Corp., 914 F.2d 1564 (9th Cir.) (corporate liability for employee misstatements within actual or apparent authority)
Belmont v. MB Inv. Partners, Inc., 708 F.3d 470 (3d Cir.) (imputation of a swindler’s conduct when agent acted with apparent authority)