851 F. Supp. 2d 512
S.D.N.Y.2012Background
- ARS are variable-rate debt instruments priced by periodic auctions; clearing rates determined by highest accepted bids.
- MLPFS underwrote and placed six ARS tranches (CDOs) in 2003–2004; LPC purchased six ARS through MM1 between Feb–Jul 2007.
- MLPFS bid in auctions for its own account to prevent failures, affecting clearing rates and liquidity; such bids were undisclosed to investors.
- SEC in May 2006 issued a cease-and-desist order finding ARS practices improper and required disclosures on websites and to first-time purchasers.
- Merrill posted a Website Disclosure in Aug 2006 describing ARS practices, risks, and conflicts of interest; MM1 marketed Merrill ARS to LPC through a remarketing arrangement.
- After Aug 2007, ARS auctions failed; LPC alleges it relied on liquidity and was harmed by the market manufactured by MLPFS’s activities and MM1’s recommendations.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Section 10(b)/Rule 10b-5 viability against Merrill | Plaintiff asserts misstatements/omissions and market manipulation through ARS practices harmed LPC. | Disclosures via Website Disclosure and SEC Order rendered claims inadequately pled and not actionable. | Dismissed in full; disclosures sufficed and scienter not shown. |
| Control-person liability under §20(a) | Merrill liable as control person for primary violations by MLPFS. | No primary violation by MLPFS; control-liability claim fails. | Dismissed. |
| California securities law and common law fraud claims against Merrill | California claims and common law fraud apply; misrepresentations/omissions or omissions occurred. | Adequate disclosures; no California-based injury; no actionable misstatement. | Dismissed. |
| MM1 §10(b) and California claims; negligent misrepresentation and fiduciary duties | MM1 misled about ARS liquidity and MM1 failed to disclose re-marketing arrangement; fiduciary duties breached. | Lack of particularity; disclosures adequate; reliance unreasonable; scienter not shown; NY Martin Act issues debated. | MM1 §10(b) claims dismissed; common law negligent misrepresentation and fraud dismissed; breach of fiduciary duty survives. |
| Punitive damages against MM1 | Punitive damages available for egregious conduct in fiduciary breach. | Punitive damages not available for these claims. | Punitive damages struck; only breach of fiduciary claim remains. |
Key Cases Cited
- Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc., 552 U.S. 148 (U.S. 2008) (twin elements of §10(b) action; heightened pleading)
- ATSI Commc’ns, Inc. v. Shaar Fund, Ltd., 493 F.3d 87 (2d Cir. 2007) (tight standard for scienter under PSLRA)
- Basic Inc. v. Levinson, 485 U.S. 224 (U.S. 1988) (materiality standard for omissions/misstatements)
- Kalnit v. Eichler, 264 F.3d 131 (2d Cir. 2001) (recklessness standard and scienter pleading)
- Novak v. Kasaks, 216 F.3d 300 (2d Cir. 2000) (stringent pleading of scienter and motive)
- Defer L.P. v. Raymond James Fin., Inc., 654 F. Supp. 2d 204 (S.D.N.Y. 2009) (motive/intent pleading standards; heightened pleading)
- In re Merrill Lynch ARS Litig. (Merrill I), 704 F. Supp. 2d 378 (S.D.N.Y. 2010) (disclosures and market manipulation in ARS context)
- In re Citigroup ARS Litig., 700 F. Supp. 2d 294 (S.D.N.Y. 2009) (ARS disclosures and market participation)
- Hutchison v. Deutsche Bank Sec. Inc., 647 F.3d 479 (2d Cir. 2011) (materiality and total mix of information standard)
- In re 3Com Sec. Litig., 761 F. Supp. 1411 (N.D. Cal. 1990) (fraud pleading standards)
- Hunt v. Alliance N. Am. Gov’t Income Trust, Inc., 159 F.3d 723 (2d Cir. 1998) (investor due diligence and reliance standards)
- Brown v. E.F. Hutton Grp., Inc., 991 F.2d 1020 (2d Cir. 1993) (reliance defense for sophisticated investors)