On
The Company is a
Plaintiff asserted two categories of claims. First, plaintiff alleged that Item 105, which requires disclosure of material factors that make an investment "speculative or risky," and Item 303, which requires registrants to disclose any "trends or uncertainties," obligated the Company to disclose the existence of the fraudulent review scheme. Second, plaintiff alleged that the Company's failure to disclose that scheme rendered five categories of statements in the Registration Statement false and misleading. Defendants moved to dismiss on the basis that (i) plaintiff failed to allege the Company and the Individual Defendants had actual knowledge of the fake customer-review scheme at the time of the Registration Statement, and (ii) the Registration Statement adequately disclosed the risks posed by that scheme.
The Court granted in part, and denied in part, the motion to dismiss. First, the Court assessed the sufficiency of the claims premised upon Items 105 and 303. Interpreting the plain language of these regulations, the Court sided with the majority view that, to establish violations of either, there must be allegations to support an inference of "actual knowledge" of the undisclosed material trends or risks. The Court concluded that plaintiff's allegations that there existed public reporting by popular international news sources about the fake customer review scheme fell short of establishing defendants' actual knowledge. The Court found significant that the complaint lacked factual allegations to support the notion that defendants had reason to know—either through public reporting or targeted communications—about the Company's customers' involvement in the fake customer-review scheme. Accordingly, the Court dismissed without prejudice plaintiff's claims based on Items 105 and 303.
The Court then turned to the five categories of allegedly false and misleading statements in the Registration Statement relating to (i) the Company's deep relationships with its customers; (ii) its ability to gain new customers and increase adoption of its products; (iii) its statements attributing the Company's success to reasons other than its customers' fake-review practices; (iv) statements touting the Company's marketing efforts; and (v) purported risk warnings describing potential risks of its customers receiving negative product reviews from customers. The Court first disposed of defendants' argument that they lacked actual knowledge of the scheme, finding that Section 11, unlike Items 105 and 303, does not have such a requirement. Rather, a material fact must simply be "knowable" for liability to extend to its omission under Section 11. The Court concluded that the fake customer-review scheme was, indeed, knowable to defendants prior to the Registration Statement, for plaintiff alleged that the cybersecurity organization that published the
Although defendants raised several arguments to rebut allegations about the Registration Statement's falsity, the Court found that only one had been properly and timely raised: defendants' argument that the Registration Statement's disclosure that the Company's success depends on customers' ability to generate positive reviews and minimize negative ones adequately warned about risks associated with fake customer reviews. The Court found this rebuttal unpersuasive, concluding that the Registration Statement's risk disclosure related to a different type of risk than fake customer reviews, and that a reasonable risk disclosure relating to the scheme would have been more specific than the generic disclosure contained in the Registration Statement.
Finally, the Court dismissed without prejudice the Section 15 claim against one of the Individual Defendants, who plaintiff alleged exerted control over the Company by virtue of that Defendant's position as a director. The Court found that such thin factual allegations could not suffice to adequately demonstrate actual control as required by Section 15.
Lian v.
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