LEWIS A. KAPLAN, District Judge.
This is a purported class action for alleged violations of the Securities Act of 1933 (the "Securities Act") by a bank holding company, its subsidiary, its directors, its auditor, and the investment banks that underwrote its April 2008 offering of Trust Preferred Securities (the "Offering"). The amended complaint alleges that the registration statement and prospectus supplement for the offering (the "Offering Documents") were false and misleading because they incorporated by reference financial statements that overstated goodwill and underestimated loan loss reserves. The matter is before the Court on defendants' motions to dismiss for failure to state a claim upon which relief may be granted.
Plaintiff Alfred Fait acquired Trust Preferred Securities pursuant or traceable to the Offering Documents.
Defendants argue that Fait's amended complaint is a nullity because Fait has no authority to prosecute the action under the PSLRA.
Defendant Regions Financial Corporation ("Regions") is a Delaware corporation and a regional bank holding company with its principal executive offices in Birmingham, Alabama. Defendant Regions Financing Trust III (the "Trust") is a Delaware statutory trust, a wholly owned subsidiary of Regions, and the issuer of the Trust Preferred Securities.
Each of the individual defendants was a member of the board of directors of Regions in 2008 and signed the Offering Documents and Regions' 2007 Form 10-K, which the Offering Documents incorporated by reference.
Defendant Ernst & Young LLP ("E & Y") is an accounting firm that served as Regions' auditor. E & Y certified a portion of the registration statement and the financial statements in Regions' 2007 10-K. The registration statement incorporated by reference E & Y's audit opinions of Regions.
In May 2006, Regions announced an agreement to acquire AmSouth Corporation ("AmSouth"), another bank holding company. The deal closed in November 2006.
On April 28, 2008, the Trust issued 13.8 million shares of Trust Preferred Securities—"hybrid" securities that have characteristics of both equity and debt—at $25 per share in a registered public offering.
The amended complaint alleges that the Offering Documents were "negligently false and misleading" because they incorporated by reference Regions' 2007 10-K, which allegedly contained misstatements concerning Regions' goodwill and loan loss reserves.
The amended complaint further alleges that the Offering Documents misstated that Regions' goodwill valuation and provision for loan loss reserves complied with generally accepted accounting principles ("GAAP") and the Sarbanes-Oxley Act ("SOX"). It claims as well that E & Y falsely certified that Regions' financial results complied with GAAP and that E & Y's audits complied with generally accepted accounting standards ("GAAS").
The Regions defendants
In deciding a motion to dismiss, a court ordinarily accepts as true all well-pleaded factual allegations and draws all reasonable inferences in the plaintiff's favor.
Sections 11 and 12(a)(2) are "Securities Act siblings with roughly parallel elements."
The amended complaint alleges that the Offering Documents contained false and
Plaintiff asserts that Regions' 2007 Form 10-K, which the Offering Documents incorporated by reference, overstated goodwill in connection with Regions' 2006 acquisition of AmSouth and understated the expected losses in Region's loan portfolio. It alleges also that the 10-K was not "prepared in conformity with GAAP"
In order to state a claim under the Securities Act, the amended complaint must allege a misstatement or omission of fact. An opinion is actionable under Section 11 or 12 only if the complaint alleges that the speaker did not truly hold the opinion at the time it was issued.
When one company acquires another, GAAP requires that it book any excess of the purchase price over the fair value of the assets acquired as goodwill, or "excess purchase price."
Regions booked $6.2 billion of goodwill, the difference between the purchase price and the net fair value of AmSouth's assets, in connection with the AmSouth acquisition. It concededly tested for goodwill impairment pursuant to SFAS 142 at the end of 2007, but recorded no impairment in its 200710-K.
There is a fundamental difficulty with plaintiff's theory. He quite understandably attempts to fit his claim with Sections 11 and 12 of the Securities Act rather than Section 10(b) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5 thereunder because the Securities Act provisions, unlike Section 10(b) of the Exchange Act, do not require pleading proof of scienter in a case based upon a misstatement or omission of a material fact. The problem, however, is that the alleged overstatement of goodwill in the 2007 10-K and the incorporation of the figure in the Offering Documents without downward adjustment, even on plaintiff's theory, did not involve misstatements or omissions of material fact.
As noted previously, the goodwill reflected in the 2007 10-K was the excess of the acquisition price, an objective fact, over the fair value of AmSouth's assets at the time of the acquisition. The fair value of those assets, the majority of which consisted of the value of AmSouth's loan portfolio, however, was not a matter of objective fact. Those assets were not traded on the New York Stock Exchange or some other efficient market where the fair market value typically is the price at which a share or other asset is trading at any given moment. Nor has plaintiff pointed to any other objective standard of value. Rather, the value of such assets is a matter of judgment and opinion.
This is quite significant. Given the lack of any objective or readily determinable value for the AmSouth assets acquired in the acquisition, "the question of material falsity" of the stated goodwill "is whether the representation was false—not because the value [was] `wrong' in some empirical sense, but because" the financial statement in the 10-K did not reflect management's "honest opinion."
The amended complaint does not allege that Regions' 10-K knowingly or recklessly misstated goodwill. Indeed, it specifically disclaims any such allegation,
The allegation that Regions violated the Securities Act by incorporating the 10-K in the Offering Documents without adjusting the stated goodwill downward in light of allegedly changing market conditions
Plaintiff's reliance on a June 17, 2008 letter from the SEC to Regions, in which the SEC allegedly "questioned the validity of Regions' goodwill balance" in connection with Regions' 2007 10-K, does not alter this conclusion. Its allegations about the SEC comment letter are misleading, as the SEC did not "question the validity of Regions' goodwill balance."
Plaintiff asserts also that the Offering Documents contained misstatements
Under GAAP, a company is required to have adequate reserves for estimated losses in connection with (1) loans specifically identified as being impaired and (2) loans with specific characteristics that indicate probable losses.
The amended complaint alleges that its loan loss reserves "from the first quarter of 2007 through the first three quarters of 2008 were materially inadequate and did not reflect the high risk of loss inherent in its mortgage loan portfolio, which included AmSouth's ARMs [adjustable rate mortgages] from the over-stimulated Florida real estate lending market between 2004 and 2006."
Whether Regions had adequate reserves for its predicted loan losses is not a matter of objective fact. The reserves instead were statements of opinion by defendants as to the portion of the stated value of Regions' loans that would prove to be uncollectable. The complaint, however, is devoid of any allegation that defendants did not truly hold those opinions at the time they were made public.
Plaintiffs conclusory allegations that Regions' provision for loan losses was "woefully inadequate" and did not comply with GAAP therefore are insufficient to state a claim.
The amended complaint alleges that the Offering Documents contained "false and misleading" SOX certifications based on Regions' allegedly overstated goodwill and underestimated loan loss reserves.
These allegations are duplicative of plaintiff's claims for misstatements of goodwill and loan loss reserves and, in any case, are unsupported by appropriate facts. They therefore are insufficient to state a claim.
To establish a claim under Section 15 of the Securities Act, a plaintiff must allege (1) a primary violation of the Section 11 or 12(a) by a controlled person or entity, and (2) direct or indirect control by the defendant of the alleged primary violator.
Defendants' motions to dismiss the amended complaint [DI 35, 39] are granted.
SO ORDERED.