On March 2, 2020, Judge Paul A. Engelmayer of the United States District Court for the Southern District of New York dismissed a putative securities fraud class action asserting violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 against a foreign insurance company (the “Company”) and certain current and former officers (the “individual defendants,” and collectively, “defendants”). Long v. Fanhua Inc. et al., No. 1:18-CV-08183 (S.D.N.Y. Mar. 2, 2020). Plaintiff, who commenced the action on behalf of all persons who purchased the Company’s American Depository Shares (“ADSs”), alleged that defendants failed to disclose certain related-party dealings and that the Company’s stock price declined once those dealings were disclosed to the market. The Court dismissed plaintiff’s complaint and held that plaintiff’s reliance on uncorroborated short-seller reports was insufficient to state a claim.
The Company is a Chinese-based corporation that offers a variety of property-and-casualty and life insurance products and services. Plaintiff alleged that the Company engaged in a scheme whereby the Company’s co-founder used the Company’s cash and assets for his personal benefit. Specifically, plaintiff alleged (among other things) that the Company provided financial guarantees for certain investments of the Company’s co-founder and failed to disclose those guarantees in its SEC filings. In support of the allegations, plaintiff relied almost exclusively on three short-seller reports.
Defendants moved to dismiss the complaint for a host of reasons, including that plaintiff failed to plead an actionable misstatement or omission. Defendants argued that plaintiff’s reliance on short-seller reports, without more, mandated dismissal of the financial guarantee claims. The Court agreed, ruling that the short-seller reports and statements from anonymous witnesses contained in those reports had “none of the individual indicia of reliability . . . to sustain allegations as sufficiently particular” under Rule 9(b) or the Private Securities Litigation Reform Act (“PSLRA”). First, the Court ruled that the complaint did not allege any independent, well-pleaded factual allegations that corroborate the statements made in the short-seller reports by confidential sources. Second, the descriptions of the confidential witnesses as “longtime employees,” in a “financial role,” and a “sale agent” were not sufficiently particular to “indicate a high likelihood that they actually knew facts underlying their allegations.” Third, the statements from the confidential sources were “entirely unmoored in time,” making it impossible to discern whether the statements related to practices during the period relevant to plaintiff’s claims. Fourth, the allegations from the short-seller reports regarding the content of the financial guarantee were not sufficiently particular and did not have any details regarding the “who, what, when, where, and how of the operation of the guarantees.” Finally, the Court noted that it did not appear that plaintiff’s counsel conducted an independent investigation to confirm the identities of the confidential sources cited in the short-seller report or to corroborate their statements. For these reasons, the Court ruled that the representations made by the confidential witnesses in the short-seller report were not sufficiently particularized or corroborated to clear the bar set by the PSLRA.
The Court dismissed the complaint with prejudice, except as to the allegations related to the financial guarantees, and gave plaintiff a chance to amend this claim alone because “[i]n theory, an independent investigation could substantiate [plaintiff’s] theory that such an actionable fraud occurred, accompanied by scienter.”