Inadequate pleading of scienter

Guaranty Bank  resized-750The plaintiffs in Owens v. Jastrow sued officers of Guaranty Bank for securities fraud, alleging that their SEC filings and public comments misstated the vulnerability of the bank’s mortgage-related holdings.  No. 13-10928 (June 12, 2015).  The Fifth Circuit affirmed dismissal in a detailed opinion, holding, procedurally, that:

  • “A district court may best make sense of scienter allegations by first looking to the contribution of each individual allegation to a strong inference of scienter, especially in a complicated case such as this one.  Of course, the court must follow this initial step with a holistic look at all the scienter allegations”; and
  • “Group pleaded” allegations were properly disregarded, although the Court declined to adopt “a strict rule requiring outright dismissal for any group or puzzle pleading[.]”

And on the merits:

  • Knowledge of undercapitalization showed motive and opportunity, but does not by itself establish scienter;
  • “Defendants’ disclosure of the ‘red flags’ [cited by Plainitiffs] and candidness about the uncertainly underlying its models neutralize any scienter inference from ‘red flags'”; and
  • “An inference of severe recklessness is more likely when a statement violates an objective rule than when GAAP permits a range of acceptable outcomes.”

Therefore: “Considered holistically, plaintiffs’ allegations of knowledge of Guaranty’s undercapitalization, a large misstatement, red flags, and ignorance of internal warnings, do not raise a strong inference of severe recklessness that is equally as likely as the competing inference that [Defendants] negligently relief on the AAA ratings and believed that Guaranty’s internal models were accurate.”

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