Puskala v. Koss Corporation, 799 F. Supp. 2d 941

Background

Sachdeva embezzled over $30 million from Koss between 2004 and December 2009, using cashier's checks, wire transfers, and traveler's checks.
She and a senior accountant used false entries to conceal the theft, creating the appearance that funds were diverted to legitimate transactions.
The fraud was uncovered on December 18, 2009, leading to Sachdeva's arrest and later guilty plea on six counts; Koss stock fell ~24% after trading resumed.
Koss filed amended/restated financial statements for 2008–2010, with Sachdeva and CEO Michael J. Koss signing false SEC filings; Grant Thornton LLP certified those statements.
Plaintiff seeks to represent investors who relied on these false SEC filings; claims against Koss Corp., Michael J. Koss, and Grant Thornton LLP include § 10(b)/Rule 10b-5 and § 20(a) control-person liability.
Defendants move to dismiss, arguing lack of pleaded facts establishing scienter and/or control liability; plaintiff contends corporate liability via apparent authority and recklessness.

Issues

Issue	Plaintiff's Argument	Defendant's Argument	Held
Whether Koss Corp. is liable for Sachdeva's fraud	Sachdeva acted with apparent authority; statements signed by Sachdeva were corporate statements.	Fraud was Sachdeva's solo act; she acted for personal gain, not to advance corporate goals.	Koss Corp. liable via apparent authority; denial of dismissal on this ground.
Whether Michael J. Koss and Grant Thornton LLP meet PSLRA scienter pleading	Koss and Grant Thornton acted recklessly by certifying/confirming false statements.	No cogent inference of recklessness; no specific internal-control deficiencies pleaded.	Dismissal granted for both the Michael J. Koss §10(b) claim and Grant Thornton's §10(b) claim due to lack of strong inference of scienter.
Whether Michael J. Koss's §20(a) control-person liability survives	If primary liability exists via apparent authority, control liability should follow; discovery may reveal lack of good faith.	Good-faith defense negates §20(a); pleading sufficient for control but good faith may bar liability.	§20(a) claim against Michael J. Koss survives; court allows discovery; §10(b) claims against him dismissed.
Whether Grant Thornton LLP's alleged red flags create recklessness	Grant Thornton ignored multiple red flags and failed to detect fraud.	Red flags mostly stem from the fraud itself; audits can miss fraud despite diligence; some alleged failures are not inherently reckless.	Grant Thornton's recklessness not shown; dismissal granted for §10(b) claim against Grant Thornton.

Key Cases Cited

Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308 (U.S. 2007) (PSLRA heightened pleading standard for scienter; strong inference required)
Pugh v. Tribune Co., 521 F.3d 686 (7th Cir. 2008) (primary violation required for secondary liability; inference must be cogent)
Higginbotham v. Baxter International Inc., 495 F.3d 753 (7th Cir. 2007) (rejects simplistic res ipsa-style inferences in securities)
Adams v. Kinder-Morgan, Inc., 340 F.3d 1083 (10th Cir. 2003) (crediting attribution of senior-officer scienter to corporation under apparent authority)
Atlantic Financial Mgmt., Inc. v. U.S. Bank of Denver, 784 F.2d 29 (1st Cir. 1986) (apparent authority imputation of statements to principal)
American Society of Mechanical Engineers, Inc. v. Hydrolevel Corp., 456 U.S. 556 (U.S. 1982) (agency-based liability for statements by agents with apparent authority)
Donohoe v. Consolidated Operating & Prod. Co., 30 F.3d 907 (7th Cir. 1994) (elements of §20(a) control liability)
Xechem, Inc. v. Bristol-Myers Squibb Co., 372 F.3d 899 (7th Cir. 2004) (allowing §20(a) reach where primary violation pled)
Makor Issues & Rights, Ltd. v. Tellabs, Inc., 437 F.3d 588 (7th Cir. 2006) (treatment of scienter burden under Tellabs framework)
Tellabs, Inc. v. Makor Issues & Rights, Ltd. (Tellabs II), 513 F.3d 702 (7th Cir. 2008) (expanded discussion of knowing/obvious risk and scienter inference)