Chris Lazarini Analyzes Justifiable Reliance in Context of Securities Fraud Allegations

September 16, 2019
Securities Online Litigation Alert

Bass, Berry & Sims attorney Chris Lazarini analyzed a case in which 27 Chinese individuals alleged securities fraud after investing significant funds in a failed electric vehicle startup. The court dismissed the case, finding the plaintiffs failed to adequately plead justifiable reliance on the alleged misstatements by defendants and that the claims were not plead with particularity.

Chris provided the analysis for Securities Online Litigation Alert (SOLA). The full text of the analysis is below and used with permission from the publication. If you would like to receive additional content from the SOLA, please visit the SOLA website to sign up for the newsletter.

Bi vs. McAuliffe, No. 18-2194 (4th Cir., 6/12/19; amended 7/17/19)

*In a securities fraud claim, justifiable reliance on alleged material misrepresentations must be plead with particularity.

**Justifiable reliance encourages personal responsibility for one’s investment decisions and helps separate those who were wrongly misled from those making after-the-fact attempts to recover market losses.

Twenty-seven Chinese investors, each of whom invested $500,000 in a limited partnership that loaned their money to a failed electric vehicle startup (“GreenTech”), appealed the district court’s dismissal of their fraud-based claims under Virginia common law and the federal securities laws. Defendants were GreenTech’s co-founder and the CEO of the limited partnership. Plaintiffs alleged, at various times and through various media outlets, Defendants misrepresented the amount of EB-5 funds GreenTech had raised, the number of cars it had sold, its production capabilities, and the number of employees it had, and falsely stated the company had a contract to supply cars to Denmark. The district court dismissed, finding Plaintiffs failed to adequately plead reliance on the alleged misstatements.

On review, the Court focuses on whether Defendants made material misstatements and whether Plaintiffs justifiably relied on those statements. The Court rejects Defendants’ arguments that the alleged misstatements were not material, because they were non-actionable, forward-looking statements or puffery. The Court finds the alleged comments about GreenTech’s capital, sales, production capabilities, and contractual relations were neither forward-looking, nor puffery. They were objectively true or false when made, and are the type of misstatements targeted by statutory and common law fraud causes of action as they may cause investors to commit resources and would undermine public trust in the markets if later proven false.

The Court sides with Defendants and affirms dismissal, however, on Plaintiffs’ failure to plead justifiable reliance on the alleged misstatements, which reliance, the Court notes, must be plead with particularity. The Court finds Plaintiffs, who alleged they did not understand English, failed to state which of them relied on which statements or how any of them heard or learned of the statements. Further, the Court finds that the disclosures in the private placement memorandum, loan agreement, and other documents, which contradicted the alleged oral statements, “must control.” The Court takes Plaintiffs to task for not translating the documents, stating: “The Plaintiffs here were putting more than half a million dollars in the hands of foreigners with whom they alleged no prior relationship. It was unjustifiable to make such an investment in reliance on stray media statements without so much as translating or even reviewing the subscription documents before signing them.”

The Court further finds no allegations suggesting Defendants prevented Plaintiffs from “taking the modest step of reviewing the operative offering documents that they signed . . . [or prevented them] from conducting a prudent and objectively reasonable investigation before investing.” Finally, the Court declines to impose a duty on Defendants to translate the documents for potential foreign investors, stating such a duty “would hike the costs of international financing . . ., encourage mistranslation lawsuits, and open the door to additional forms of mischief.”

The Court also affirmed the dismissal of Plaintiffs’ claims for breach of fiduciary duty, unjust enrichment, and negligence, finding Plaintiffs lacked standing to bring those claims, which should have been brought by the partnership or as derivative claims.