California District Court Grants With Prejudice Motion To Dismiss Securities Fraud Class Action Against Video Game Company, Finding Plaintiffs Failed To Plead Falsity And Scienter
On January 22, 2023, Judge Percy Anderson of the United States District Court for the Central District of California granted a motion to dismiss the third amended class action complaint (“TAC”) in a putative class action alleging that a video game company (the “Company”) and four of its officers misled investors by making material misstatements and omissions concerning sexual harassment and discrimination at the Company. Cheng v. Activision Blizzard Inc. et al., 2:21-cv-06240 (C.D. Cal. Jan. 22, 2023). Plaintiffs alleged that defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the “Exchange Act”), and Rule 10b-5 promulgated thereunder. The Court dismissed plaintiffs’ TAC with prejudice, finding plaintiffs failed to plead falsity and scienter.
Plaintiffs alleged that defendants misled investors by failing to disclose alleged rampant sexual harassment and discrimination at the Company and the existence of investigations initiated in 2018 by the California Department of Fair Employment and Housing (“DFEH”) and the United States Equal Employment Opportunity Commission (“EEOC”) (collectively, the “Investigations”). Plaintiffs further alleged that defendants made material misstatements and omissions regarding these purported facts in certain of the Company’s Form 10-K and Form 10-Q filings, in 2018 through 2021 (the “SEC filings”). Specifically, plaintiffs alleged that the Company’s SEC filings misstated that the Company was only “party to routine claims, suits, [and] investigations . . . arising in[/from] the ordinary course of business” and that “such routine claims and lawsuits are not significant” and were “not expect[ed]  to have a material adverse effect on” the Company’s business. The Court granted defendants’ motion to dismiss plaintiffs’ first and second amended complaints on the grounds that plaintiffs failed to plead sufficient facts to establish falsity or scienter.
Plaintiffs then filed the TAC, which added references to allegations attributed to five new confidential witnesses (“CWs”) who worked in the Company’s Human Resources (“HR”) departments and included new allegations seeking to cure deficiencies in plaintiffs’ prior complaints regarding falsity and scienter. Specifically, the TAC: (1) added references to two news articles—a January 26, 2018 Wall Street Journal article about sexual misconduct by another company’s CEO, and a January 21, 2020 Los Angeles Times article about a similar lawsuit against another gaming company, which plaintiffs alleged “show the immense danger of public sexual harassment allegations to the value of a company;” (2) added references to portions of the Company’s 2018 Proxy statement that emphasized diversity and inclusion, alleging that it showed that the Company was “especially vulnerable to reputational damage from sexual harassment allegations;” (3) alleged that a CW testified that after the investigations began, the Company “made an ‘urgent’ request for ‘huge’ data sets on the Company’s employees dating back many years,” which led her to believe senior management was worried about the Investigations; (4) alleged that the Company’s admission that it opened its own internal investigation into its HR department in 2018 “show[ed] the significant and non-routine nature of the . . . Investigations and also put Defendants on notice of the endemic misconduct at the Company”; (5) alleged that other CWs testified that the Company’s HR department underwent significant changes following the Investigations; (6) alleged that the Company fired senior managers following the Investigations; (7) alleged that multiple employees, including certain CWs complained to senior management at the Company; and (8) alleged that the individual defendants acted knowingly or recklessly in signing the SEC filings and related Sarbanes-Oxley Act certifications.
The Court first addressed the issue of falsity, specifically plaintiffs’ allegations that the Company misled investors by stating the Investigations were routine and not expected to have a material adverse effect. The Court found that plaintiffs’ references to articles about harassment and discrimination at other companies did not support falsity, stating that plaintiffs “cannot use these articles, that are not about the Company and concern external matters, or the broader backdrop of a national social movement absent specific contemporaneous facts to support a claim that Defendants knew the statements within the SEC filings were false at the time they were made.” Regarding plaintiffs’ allegations as to the language in the Company’s 2018 Proxy statement, the Court found that “the Company’s professed values bear a tenuous connection to the substance of the alleged misstatements.” With respect to the Company’s request for data on employees, the Court found that there was “nothing out of the ordinary about the Company’s attorneys collecting data relevant to the Investigations,” and did not establish that the Company considered the Investigations to be anything other than routine.
The Court further held that plaintiffs’ allegations regarding the Company’s admission that the Investigations represented a risk amounted to “nothing more than conjecture.” Regarding plaintiffs’ allegations as to changes in the HR department, the Court held that the TAC did not sufficiently allege how these changes meant that the Investigations were not routine or that the SEC filing statements were false or misleading when made. With respect to plaintiffs’ allegations about the firing of senior managers, the Court held that the TAC failed to connect these firings to any of the allegedly misleading statements. Finally, concerning plaintiffs’ allegations as to employees’ complaints to senior management, the Court found that “[w]hile these facts may demonstrate that higher-ups were aware of instances of sexual harassment and discrimination at the Company, they do not establish that the SEC filing statements were false when made.” As such, the Court held that the TAC failed to sufficiently allege falsity.
The Court nevertheless additionally considered plaintiffs’ scienter allegations, finding that the TAC “repeat[s], without significant changes” allegations from the previously dismissed complaints. In rejecting the scienter allegations, the Court held that “none of these allegations establish a strong inference that the Individual Defendants knew the statements in the SEC filings were false when made, or that they acted recklessly.” The Court further noted that plaintiffs’ allegations concerning what the Individual Defendants “should have known” were insufficient to plead scienter.
Finally, the Court dismissed plaintiffs’ Section 20(a) claim because plaintiffs failed to state a claim for a primary securities law violation. In dismissing the TAC without leave to amend, the court noted that plaintiffs had “multiple opportunities to amend with the benefit of explanations of inadequacies” yet plaintiffs “fail[ed] to identify any meaningful way in which they could amend their pleadings to adequately allege the falsity of statements at the time they were made or scienter.”