5.7.2009 In In re Mutual Funds Investment Litigation, No. 07-1607 (4th Cir. May 7, 2009), the Fourth Circuit reversed the lower court’s decision and held that Plaintiffs’ § 10(b) primary liability claim and Plaintiffs’ § 20(a) control person liability claim were sufficiently pled. The District Court concluded that Plaintiffs failed to plead sufficiently certain elements of a § 10(b) securities fraud claim against either Defendant, requiring that claim to be dismissed, as well as their derivative claim under § 20(a) for failure of their primary claim to survive dismissal. Plaintiffs appealed to the Fourth Circuit, which held that Plaintiffs’ case should go forward.

Plaintiffs complained that Janus Capital Group Inc. (JCG) and its wholly owned subsidiary Janus Capital Management LLC (JCM), the investment adviser to the Janus mutual funds, should be held liable for issuing misleading prospectuses that caused long-term shareholders to lose money when Fund management did not stop or prevent market timing as represented in the prospectuses. Plaintiffs alleged that as a consequence of the misrepresentations, shareholders bought shares at inflated prices and lost money when the market timing practices became known to the public.

For the § 10(b) claim, the Fourth Circuit found that Plaintiffs sufficiently alleged that the statements in question were made by JCM. Citing the Supreme Court’s decision in Basic Inc. v. Levinson, 485 U.S. 224, 244-42 (1988), the Court held that it was not required to establish an attribution standard for all reliance inquiries because the case was a fraud-on-the-market case. After discussing the various attribution standards—the direct attribution standard adopted in the Second Circuit and Eleventh Circuit, the substantial participation standard adopted in the Ninth Circuit, and the Tenth Circuit’s “middle ground” standard, the Court concluded that it must determine attribution on a case-by-case basis by considering whether interested investors would attribute to the Defendants a substantial role in drafting or approving the allegedly misleading prospectuses. The Court did not end its analysis there, however. Citing to those courts that adopted the direct attribution test, the Court held that it was necessary to analyze the “precise relationship between the defendant and the entity or analyst issuing the allegedly misleading statement in order to determine whether the statement was attributable to the defendant.”

The Court held that it was publicly known that JCM furnished advice and recommendations concerning the Janus funds’ investment decisions and even made net asset value determinations, which in part enabled market timing. So, in light of the publicly available material, interested investors would have inferred that if JCM had not itself written the policies in the Janus fund prospectuses regarding market timing, it must at least have approved these statements. On these allegations, the Court held it sufficient to implicate JCM in its role as investment adviser; but, those same allegations were insufficient to reach JCG.

The Court held that it is well known that an investment adviser would be intimately involved in the day-to-day operations of the mutual funds it manages. The Court held, however, that it could not say that it would be apparent to the investing public that the investment adviser’s parent company, which sponsors a family of funds, participates in the drafting or approving of prospectuses issued by the individual funds. The Court further held that even though JCG, like JCM, played a role in the dissemination of the fund prospectuses on the Janus website, this fact, taken by itself, was insufficient for the Court to infer that interested investors would believe JCG had prepared or approved the Janus fund prospectuses.

The Court also held that Plaintiffs sufficiently pled the elements of loss causation because “‘as long as the misrepresentation is one substantial cause of the investment’s decline in value, other contributing forces will not bar recovery under the loss causation requirement.’” The Court further stated that, “The facts alleged in the complaint . . . need not conclusively show that the securities’ decline in value is attributable solely to the alleged fraud rather than to other intervening factors.” On this basis, the Court held that Plaintiffs’ complaint adequately alleged that false or misleading statements were a substantial cause of the decrease of JCG’s share price when the fraud was publicly revealed.

For the § 20 claim, the Court held that Plaintiffs’ allegations adequately plead control of JCM by JCG. The Court stated that, taken together, Plaintiffs’ allegations of complete ownership of JCM by JCG, overlapping management between JCG and JCM, control of JCM by JCG executives, and presumptive authority by JCG to regulate market timing activity in the Janus funds were sufficient to plead a prima facie case of control person liability.

Click http://pacer.ca4.uscourts.gov/opinion.pdf/071607.P.pdf to access the case.