Miller Inv. Trust v. Chen

967 F.Supp.2d 686

MILLER INVESTMENT TRUST, et al., Plaintiffs,

v.XIANGCHI CHEN, et al., Defendants.

No. 12 Civ. 04997(LGS).

United States District Court, S.D. New York.

June 21, 2013.

Order Denying Certification Oct. 25, 2013.

Phillip C. Kim, Kevin Koon–Pon Chan, The Rosen Law Firm P.A., New York, NY, for Plaintiffs.

Ceren Marie Unal, Fulbright & Jaworski L.L.P., Dallas, TX, Mark Thomas Oakes, Stephen Mark Dollar, Fulbright & Jaworski LLP, Austin, TX, for Defendants.

Jonathan Richard Horne, Laurence Matthew Rosen, The Rosen Law Firm, P.A., New York, NY, for Plaintiffs/Defendants.

ORDER

LORNA G. SCHOFIELD, District Judge:

Plaintiffs, investors in ShengdaTech, Inc., bring this action against directors and officers of ShengdaTech, Inc., (“ShengdaTech”) alleging securities fraud, negligent misrepresentation and common law fraud. Plaintiffs also assert a single state law claim for negligent misrepresentation against Defendant and Movant Hansen, Barnett & Maxwell, P.C. (“Hansen”), an accounting firm that issued an unqualified audit opinion on ShengdaTech's 2007 financial statements and later provided comfort letters concerning the 2007 financial statements in connection with ShengdaTech's 2010 private bond offering.

This matter is now before the Court on Hansen's Motion to Dismiss the Third Amended Complaint (Dkt. No. 27, “Motion”). Hansen argues that the Court should dismiss the sole claim against it for lack of personal jurisdiction and failure to state a claim. Because the Court finds that Plaintiffs have not alleged sufficient facts to establish personal jurisdiction over Hansen, the Motion to Dismiss is granted.

I. BACKGROUNDA. Factual Background

The relevant facts as set forth in the Third Amended Complaint (Dkt. No. 23, “Complaint”) and the declarations and exhibits provided by the parties in relation to the Motion, are as follows:

1. The Parties

This action arises from Plaintiffs' purchase of $8.75 million in convertible bonds offered by ShengdaTech in December 2010 and early 2011. Non-party ShengdaTech is a Nevada corporation that operated entirely through subsidiaries located in China and purported to manufacture a specialty additive used to make certain manufactured products more durable. ShengdaTech entered the United States market as a publicly traded company on March 31, 2006, through a “reverse merger.” In August 2011, ShengdaTech filed for Chapter 11 bankruptcy protection in the U.S. Bankruptcy Court for the District of Nevada.

Defendants are the movant, Hansen, and five officers and directors of ShengdaTech. Hansen is an accounting firm incorporated in Utah with its sole office in Utah. Hansen provides, among other things, auditing services to publicly-traded companies. Hansen acted as ShengdaTech's independent auditor for the year 2007.

The three Plaintiffs all purchased ShengdaTech convertible bonds in late 2010 and early 2011. The Plaintiffs are Jura Limited (“Jura”), the Randi and Clifford Lane Foundation (the “Lane Foundation”) and Miller Investment Trust, on behalf of its mutualfund, the Miller Convertible Fund. (The trust and/or the fund are hereafter referred to as “MCF”). Jura is domiciled in Bermuda. The Lane Foundation is a New York-based tax-exempt charitable organization. MCF is a mutualfund managed by Wellesley Investment Advisors, Inc. (“Wellesley Advisors”), a registered investment advisor located in Massachusetts.

2. Defendant Hansen Audits ShengdaTech's 2007 Financial Statements

Acting as independent auditor, Hansen audited ShengdaTech's 2007 financial statements and issued an unqualified audit report (“2007 audit report”). Hansen's 2007 audit report was included in ShengdaTech's Form 10–K, which was filed with the SEC on March 17, 2008. For its audit and review work, Hansen billed ShengdaTech $340,375. KPMG replaced Hansen as ShengdaTech's independent auditor for 2008 and later years.

3. ShengdaTech Sells Convertible Bonds in a Private Placement

On June 15, 2010, ShengdaTech filed a registration statement with the SEC regarding a planned public offering of stock and retained non-party Morgan Stanley as underwriter for the planned offering. Morgan Stanley was to coordinate and oversee the offering from its headquarters in New York.

As underwriter, Morgan Stanley was required to conduct due diligence from ShengdaTech, which included speaking with ShengdaTech's auditors, Hansen and KPMG. Plaintiffs allege that as part of its due diligence, Morgan Stanley would have conducted and coordinated calls with Hansen and would also have conducted due diligence from Hansen.

ShengdaTech and Morgan Stanley entered an underwriting agreement, filed with the SEC on November 8, 2010, that provided that Morgan Stanley was not obligated to conduct the public offering unless it obtained a comfort letter from Hansen. At Morgan Stanley's request, Hansen sent three letters to ShengdaTech in October and November 2010. The letters stated that Hansen consented to the use of its 2007 audit report in ShengdaTech's registration statements. Plaintiffs allege that by sending the letters to ShengdaTech, Hansen provided ShengdaTech and Morgan Stanley with explicit consent to use Hansen's 2007 audit report in the planned public offering. It is undisputed that the letters were sent to ShengdaTech in China and were not sent directly to Morgan Stanley in New York.

In late 2010, ShengdaTech and Morgan Stanley decided to proceed with an offering of convertible bonds in a private placement rather than the planned public stock offering. ShengdaTech and Morgan Stanley entered into a second underwriting agreement which, like the first, provided that Morgan Stanley had no obligation to conduct the private placement unless it obtained a comfort letter from Hansen. The agreement also provided that Hansen would provide a second letter on the closing date. Hansen reviewed its 2007 audit and assured Morgan Stanley that it could rely on the 2007 audit report. In December 2010, Hansen sent two letters to Morgan Stanley, one that reiterated Hansen's 2007 audit opinion and a second letter updating the assurance at or near the closing date.

ShengdaTech's private placement of $130 million in convertible bonds took place in December 2010. Pursuant to the underwriting agreement, Hansen was paid for its provision of the letters to ShengdaTech and Morgan Stanley.

The private placement took place pursuant to a Private Placement Memorandum (“PPM”), which was provided to investors. Plaintiffs allege that Hansen's comfort letters gave Morgan Stanley consent to use Hansen's 2007 audit report in the private placement. Based on Hansen's consent, Morgan Stanley included Hansen's 2007 audit report in the PPM, which it sent to potential investors.

4. Plaintiffs Purchase Convertible Bonds in the Private Placement

Plaintiffs Jura, the Lane Foundation and MCF purchased $8.75 million in convertible bonds in the private placement. The purchase was made on behalf of all three Plaintiffs by non-party Wellesley Advisors in Massachusetts, acting as fund manager of MCF and investment advisor to Jura and the Lane Foundation with authority to purchase and sell securities on their behalf without prior authorization. In making these investment decisions on behalf of Plaintiffs, Wellesley Advisors relied on the information in the PPM and ShengdaTech's SEC filings.

5. ShengdaTech's Inability to Pay the Bondholders

On March 2, 2011, KPMG informed ShengdaTech's Audit Committee that in conducting its 2010 audit, KPMG had discovered “potentially serious discrepancies and unexplained issues” relating to ShengdaTech's financial records. (Compl. ¶¶ 128–29).

On March 14, 2011, NASDAQ suspended trading in ShengdaTech's equity securities. On June 9, 2011, ShengdaTech announced that it was in default on debt securities dated May 28, 2008. On August 19, 2011, ShengdaTech filed a Chapter 11 bankruptcy petition in the United States Bankruptcy Court for the District of Nevada. In bankruptcy documents ShengdaTech stated that, “As of the Petition Date, [it] owed over US$163 million [of bonds] which it has no ability to pay.” (Compl. ¶ 37). Other documents stated that there were “material irregularities and/or inaccuracies in the financial records” of ShengdaTech. (Compl. ¶¶ 52, 150–52). In a separate bankruptcy filing, ShengdaTech stated that noteholders can expect to recover “>1%” of the money they had paid to ShengdaTech. (Compl. ¶ 56).

6. Plaintiffs' Claim against Hansen

Plaintiffs allege negligent misrepresentation against Hansen under Massachusetts law. Plaintiffs allege that ShengdaTech's 2007 financial statements vastly overstated reported sales, failed to disclose related party transactions and were fabricatedin whole or part. Plaintiffs allege that Hansen breached its duty to Plaintiffs by negligently performing its 2007 audit, failing to detect these deficiencies and issuing an unqualified audit report. Plaintiffs allege that Hansen's 2007 audit report contained negligent misstatements as a result.

Plaintiffs allege that Hansen owed them a duty because Hansen permitted its 2007 audit report to be distributed to investors in the private placement and intended that investors rely on the report in deciding to invest in ShengdaTech. Plaintiffs allege that they acted in direct reliance, in Massachusetts, on the representations in Hansen's audit report. Finally, Plaintiffs allege that, as a result of their reliance on Hansen's representations, Plaintiffs paid artificially inflated prices for ShengdaTech's convertible bonds and suffered a near-total loss on their investments.

The Complaint pleads that “personal jurisdiction over Hansen arises from its conduct in connection with the acts complained of herein.” (Compl. ¶ 86).

II. DISCUSSIONA. Legal Standard

Hansen contends that the Court lacks grounds to exercise personal jurisdiction over it. “On a Rule 12(b)(2) motion to dismiss for lack of personal jurisdiction, the plaintiff bears the burden of showing that the...