District Of New Jersey Declines To Dismiss Putative Class Action Against Government Services Company
On June 5, 2020, Judge Susan D. Wigenton of the United States District Court for the District of New Jersey denied a motion to dismiss a putative securities class action against a government services company and certain of its executives under Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder. Emps. Ret. Sys. of the Puerto Rico Elec. Power Auth. v. Conduent Inc., No. CV-19-8237-SDW-SCM, 2020 WL 3026536 (D.N.J. June 5, 2020). Plaintiff alleged that the company had overstated the progress it was making in modernizing the IT infrastructure that supported its electronic toll collection business. The Court held that plaintiff adequately alleged actionable misrepresentations, as well as scienter and loss causation.
Plaintiff alleged that the company promoted itself to investors by touting a strategic business plan to grow the company by relying on technology, and falsely asserted that the first phase of that plan was complete. Id. at *1–2. Specifically, plaintiff alleged that, during an earnings call, the company represented to investors that, “[i]n 2017, we addressed” the areas that were the subject of the first phase of the business plan, and that “[n]ext we expect to see benefits from the platform rationalization work completed last year.” Id. at *2. Similarly, the company stated that “[d]uring our first year, we needed to” conduct an inventory of IT systems and that “[s]tarting in 2018, we’ll begin our work to modernize our offerings with cutting-edge technology.” Id. Moreover, the company’s revenue guidance during the call indicated that the company “expect[s] transportation [revenue] inside of Public Sector to grow in 2018.” Id.
The Court first determined that the alleged misstatements and omissions regarding the business plan were specific and material because they “significantly altered the total mix of information available” to the reasonable investor, ruling that the company’s own efforts to inform investors about milestones in the business plan reflected the value of the information. Id. at *4–5.
In addition, the Court rejected the argument that the alleged misrepresentations were subject to the “safe harbor” provision of the Private Securities Litigation Reform Act for forward-looking statements accompanied by meaningful cautionary language. Id. at *6. The Court determined that the alleged misstatements reflected either “historical facts or a then-present state of affairs,” and that alleged omissions do not qualify for safe harbor protection because they are not forward-looking statements. Id. at *6–7.
The Court further held that the complaint sufficiently alleged scienter as against the individual defendants because plaintiff alleged that the tolling operations were a “core” business segment, making up $299 million in revenue and 5.5% of the company’s total revenues and serving approximately 50% of all automated tolling systems in the United States (id. at *2), and that the company’s failure to complete the first phase of its business plan resulted in service issues and network outages, impacting nearly all customers on the East Coast and causing government agencies in several states to fine or withhold payments from the company (id. at *3). The Court thus concluded it was “implausible” that the company’s executives were not aware of problems with its tolling platform. Id. at *8.
In addition, the Court held that plaintiff adequately alleged “corporate scienter” based on alleged misconduct attributable only to management level officials. Id. While noting that the Third Circuit had not directly addressed whether allegations of “corporate scienter” could support a Section 10(b) claim, the Court also explained that the Third Circuit had “implied” that it may be possible to plead corporate scienter based on an alleged misrepresentation “so dramatic [that it] would have been approved by corporate officials sufficiently knowledgeable about the company to know that [it] was false.” Id. at *8 n.9. In particular, the Court pointed to allegations that a confidential witness attended monthly meetings—which were also attended by various company senior executives—to discuss incidents that impacted customers or had a significant impact on the company’s business. Id. at *8. The Court concluded that these allegations, together with the allegations regarding the importance of the business plan, the “core” nature of the tolling business, and the impact of infrastructure problems on the tolling business, supported an inference of corporate scienter. Id.
The Court also held that plaintiff had adequately alleged loss causation by alleging that the company issued a corrective disclosure revealing that it had missed revenue expectations for the current quarter and revising its revenue guidance for the current fiscal year because of “sub-optimal performance” by vendors and “sub-standard IT infrastructure.” Id. at *9. Following this disclosure, plaintiff alleged that the company’s stock fell 29%, and multiple analyst reports addressed the alleged corrective disclosure, one of which noted that the technology issues “had likely been a problem for some time and could have been shared with investors earlier.” Id. The Court concluded that these allegations, taken together, were sufficient to meet the requirement of a “short and plain statement” of economic loss and its causal connection to alleged misrepresentations. Id.