On October 10, 2018, Judge Paul G. Gardephe of the United States District Court for the Southern District of New York issued a memorandum opinion and order setting forth the reasoning for his September 30, 2018, dismissal of a putative securities class action against SuperCom Inc. (the “Company”), an Israeli manufacturer of electronic identification and location tracking products, and certain of its officers and directors. In re SuperCom Inc. Sec. Litig., No. 20-cv-9650 (S.D.N.Y. Oct. 10, 2018). Plaintiffs—purchasers of the Company’s common stock during a ten-month putative class period—alleged violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (“Exchange Act”) as a result of defendants allegedly making materially false and misleading statements regarding the Company’s revenue and earnings projections for 2015, which plaintiffs allege led to a 40% decline in the Company’s stock price when the Company subsequently announced lower-than-expected financial results. The Court disagreed, finding that the alleged misstatements are protected by the Private Securities Litigation Reform Act of 1995 ( “PSLRA”) safe harbor because plaintiffs either failed to adequately allege material misstatements or failed to adequately allege the requisite scienter necessary to support their claims.
The Court first considered defendants’ argument that the challenged statements—consisting of statements made in press releases, earnings calls, and a supplemental prospectus used in connection with a stock offering—were protected under the PSLRA, which provides a safe harbor for forward-looking statements that are accompanied by meaningful cautionary language, are immaterial, or the plaintiff fails to prove that the forward-looking statement was made with actual knowledge that it was false or misleading. While plaintiffs acknowledged that many of the statements were forward-looking, they contended that their claims were premised on numerous false and misleading statements “of present fact” that defendants allegedly made “with the intention to bolster the perceived credibility” of the initial forecast at issue. For example, plaintiffs alleged that defendants’ reference to an “expanding base of recurring revenue” was misleading because the description of “recurring revenue” included revenue from follow-on contracts, which do not provide the same growth potential or high margins of true recurring revenue. The Court determined that because some of the revenue was not truly “recurring,” a reasonable investor would have been misled by the statement and therefore it was not protected by the safe harbor.
The Court also considered whether additional statements allegedly made by the individual defendants regarding the Company’s sales pipeline were misleading. The Court found that, unlike the recurring revenue statement, none of the statements regarding the sales pipeline were actionable. The Court rejected plaintiffs’ contention that statements that the Company’s sales pipeline opportunities were “just amazing” and “progressing well” were misleading, finding that those statements were mere “puffery” and thus not actionable. Similarly, the Court determined that an alleged statement that the Company was “very close to having a large contract awarded” was merely a statement of opinion because it was an expectation about the future rather than presently existing objective facts, and accordingly was also not actionable. Finally, the Court determined that plaintiffs failed to allege with sufficient particularity how three additional alleged statements concerning the Company’s pipeline—that it “continued to grow,” that it had “dramatically broaden[ed],” and that the “number of advanced stage tenders . . . continue[d] to increase”—were false or misleading. Accordingly, the Court determined that all of the statements regarding the sales pipeline were not actionable.
Addressing the issue about whether the alleged statements contained the requisite “meaningfully cautionary language,” the Court determined that numerous cautionary statements “did more than refer to the most general of economic risks,” and therefore secured the protection of the PSLRA safe harbor for forward-looking statements. The Court noted that defendants’ press releases and earnings calls at issue referred to the Company’s corporate filings containing cautionary statements and risk factors that qualify for safe harbor protection. In particular, the Court found that the specific risk factors acknowledged the very risks that the amended complaint blames for the alleged losses, such as delayed government contracts, lengthy sales cycles, and unpredictable revenues from non-recurring sources.
The Court then turned to defendants’ argument that, even if plaintiffs had adequately pleaded an actionable misstatement, they failed to satisfy their burden of pleading scienter. At the outset, the Court agreed with defendants that the amended complaint impermissibility seeks to plead scienter through group pleading, finding that the Section 10(b) claim against two of the individual defendants must be dismissed because the amended complaint did not contain any specific individual allegations of scienter as to those two individuals. The Court further held that plaintiffs’ allegations were insufficient to establish that any defendant had the requisite motive and opportunity to commit fraud, as none of the defendants sold their stock at an inflated price, or otherwise had a specific motive to commit fraud, and the Court reiterated the well-established principle that a generalized corporate benefit is insufficient to establish motive. Similarly, the Court found that none of defendants’ alleged conduct rose to the level of conscious misbehavior or recklessness and, at best, supported only a minimal inference of scienter, not the “strong inference” required to plead a Section 10(b) claim. Finally, the Court rejected plaintiffs’ argument that a strong inference of scienter arises from a “holistic review” of the amended complaint, including (i) the purported “core operations theory”, which pertains to the Company’s small size and the fact that defendants’ alleged statements concerned the Company’s “key revenue stream”; (ii) the magnitude of the alleged revenue miss (a $10 million miss based on a projection of $42 million in revenue); and (iii) the “temporal proximity” of only two months between defendants’ reiteration of earning guidance and the Company’s issuance of the revised outlook. Based on plaintiffs’ inability to plead both a material misstatement and the requisite scienter, the Court dismissed plaintiffs’ remaining Section 10(b) claims.
Finding that plaintiffs had not adequately pled a primary violation under Section 10(b), the Court dismissed the individual defendants’ Section 20(a) control person liability claims, and dismissed plaintiffs’ amended complaint with prejudice.