Yang Jun v. 500.com

YANG JUN individually and on behalf of all others similarly situated, Plaintiff, v. 500.COM LIMITED, ZHENGMING PAN, and QIANG YUAN, Defendant.

No. CV 20-806 (GRB) (AKT)

United States District Court, E.D. New York

August 13, 2021

REPORT AND RECOMMENDATION

A KATHLEEN TOMLINSON, Magistrate Judge

I. Preliminary Statement

Lead Plaintiff Bryan Xuan and named Plaintiff Shiyun Shao (the “Plaintiffs”)^[1] bring this securities class action individually and on behalf of all others similarly situated against Defendants 500.com Limited (“500.com”), Zhengming Pan (“Pan”), and Qiang Yuan (“Yuan”) (collectively, the “Defendants”). See generally Second Amended Class Action Complaint [DE 35]. Plaintiff has asserted that the Defendants violated Section 10(b) of the Exchange Act, 15 U.S.C. ¶ 78j(b) and that the individual Defendants Pan and Yuan violated Section 20(a) of the Exchange Act, 15 U.S.C. § 78t(a). See Id. ¶¶ 203-18. Specifically, Plaintiffs allege that Defendants made false statements, misrepresentations, and omissions in various SEC filings after paying bribes of millions of yen to government officials in Japan for the purpose of securing a lucrative license to operate a casino. See generally SAC. Defendants 500.com and Yuan have filed separate motions to dismiss the Second Amended Complaint pursuant to Federal Rule of Civil Procedure (“Rule”) 12(b)(6).^[2] See Defendant 500.com Limited's Notice of Motion to Dismiss [DE 41]; Defendant Qiang Yuan's Notice of Motion to Dismiss [DE 46]. Plaintiffs oppose both motions, arguing primarily that the investor Plaintiffs have sufficiently alleged Defendants' misleading statements and omissions under the requirements of Rule 10b-5. See Plaintiffs' Memorandum of Law in Opposition to Defendant 500.com Limited's Motion to Dismiss (“Plaintiffs' Opp'n I”) at 11; see generally Plaintiffs' Memorandum of Law in Opposition to Defendant Qiang Yuan's Motion to Dismiss (“Plaintiffs' Opp'n II”) [DE 48].

Judge Feuerstein referred Defendants' motions to this Court for a Report and Recommendation as to whether the motions should be granted.^[3] See February 25, 2021 Electronic Order [DE 50]. For the reasons which follow, this Court respectfully recommends to Judge Brown that the Defendants' motions to dismiss be GRANTED.

II. Background

A. Factual Background

The following factual allegations have been taken from the Second Amended Complaint. All facts alleged by Plaintiffs are assumed to be true for purposes of deciding the motion to dismiss and are construed in a light most favorable to Plaintiffs as the non-moving party. See, e.g., Tanvir v. Tanzin, 894 F.3d 449, 458 (2d Cir. 2018); LaFaro v. N.Y. Cardiothoracic Grp., 570 F.3d 471, 475 (2d Cir. 2009); McGrath v. Bayer HealthCare Pharms. Inc., 393 F.Supp.3d 161, 166 (E.D.N.Y. 2019); Matthews v. City of N.Y., 889 F.Supp.2d 418, 425 (E.D.N.Y. 2012).

Defendant 500.com, through its subsidiaries, provides online gaming services primarily in the People's Republic of China and Europe. See SAC ¶ 2. 500.com is incorporated in the Cayman Islands and has its principal executive offices in China. Id. It began operating an online lottery service in 2001 through one of its consolidated affiliated entities. Id. On November 22, 2013, 500.com's shares began trading on the New York Stock Exchange (“NYSE”) under the ticker symbol “WBAI.” Id.

In 2015, China instituted a de facto ban on online gambling. Id. ¶¶ 3, 56. This caused the revenue of the previously profitable 500.com to take a nosedive and it forced the company to operate at a loss. Id. ¶ ¶ 3, 57. To stay in business, 500.com sought to enter the Japanese casino market. Id. ¶¶ 4, 61. On July 27, 2017, 500.com established a wholly owned subsidiary in Japan called “500.com Nihon Limited” and told investors that the new subsidiary's principal activities were “investment holding and that it had no substantive operations.” Id. ¶¶ 5, 62 (internal quotation marks omitted). As 500.com was establishing this new subsidiary, Japan's Prime Minister was also pushing for new legislation to allow casinos to operate in Japan. Id. ¶¶ 6, 63. These policies required casinos to be part of “integrated resorts” or “IRs” that feature other attractions such as hotels, shops, and conference centers. Id. ¶ 6. There were only three licenses available to operate an IR in Japan “and [to] capture a share of the “40 billion dollar market.” Id. ¶¶ 7, 66, 68. However, to obtain one of these licenses, Plaintiffs allege that 500.com and its executives engaged in a scheme to illegally bribe Japanese government officials in exchange for preferential treatment in connection with 500.com's bid for a license. Id. ¶¶ 7, 69.

A. Defendants' Bribery Scheme and Internal Investigation

Defendants' illegal bribery scheme began in August 2017. Id. ¶ 8. Defendants paid bribes to Tsukaka Akimoto, a member of Japan's legislature, who was in charge of awarding the licenses to run integrated resorts. Id. 500.com paid Akimoto approximately 7.6 million yen which came in the form of compensation for speaking at ¶ 500.com symposium, elaborate trips, and other gifts. Id. ¶ 9. 500.com also paid bribes to five members of Japan's parliament in exchange for preferential treatment related to the integrated resorts the licenses which totaled approximately 5 million yen. Id. ¶ 11. On December 7 and 8, 2019, the Tokyo District Prosecutor's Office raided the homes of two of Akimoto's secretaries and later arrested Akimoto for taking bribes from 500.com. Id. ¶¶ 12, 178. Several other arrests followed, including that of Zheng Xi, the executive in charge of 500.com's Japan subsidiary Nihon, several 500.com consultants and employees, the five Japan parliament members, and the CEO of 500.com's business partner for the IR bid. Id. ¶¶ 12-13, 18. It was not until December 17, 2019 that the Akimoto-related raids were reported by the Japanese media. Id. ¶ 179. Tokyo prosecutors leaked that the investigation was in connection with excessive amounts of cash being brought into Japan without notifying customs in advance. Id. ¶ 179. Prosecutors also revealed that the Akimoto raids were connected to a company interested in the Japanese integrated resorts market, but refused to identify the company by name. Id.

On December 31, 2019, 500.com announced through a press release that its Board of Directors was forming a Special Investigation Committee (“SIC”) to perform an in-house probe of the bribery scheme. Id. ¶ 182. 500.com's chairman, Xudong Chen, resigned that same day. Id. ¶¶ 15, 182. Defendant Pan resigned from his post as 500.com's CEO in February 2020. Id. ¶ 185. The SIC was comprised of 500.com board members, not independent attorneys. Id. ¶ 109. The law firm of King, Wood & Mallesons was retained by 500.com as its legal advisor to assist with the internal investigation. Id. ¶¶ 109, 184. King, Wood & Mallesons presented its findings and analyses to the SIC on October 7, 2020. Id. ¶ 109. The firm concluded that the SIC did not identify any violations of the U.S. Foreign Corrupt Practices Act (“FCPA”). Id. ¶¶ 20, 109. However, King, Wood & Mallesons' findings were never publicly disclosed. Id. ¶ 110.

B. Form 20-F Filings

On February 9, 2018, 500.com appointed Friedman LLP as its independent auditor “to conduct the audit of its financial statements and review the effectiveness of the Company's internal control over financial reporting.” Id. ¶ 126. Friedman audited 500.com's financial statements for 500.com's 2017 and 2018 Form 20-F filings with the SEC. Id. ¶ 131. Friedman also audited 500.com's internal control over financial reporting for those same years. Id. In connection with 500.com's Form 20-F filings for 2017 and 2018, Defendants Pan and Yuan both signed certifications pursuant to the Sarbanes-Oxley Act of 2002 (“SOX”) representing to investors that they disclosed any fraud to Friedman. Id. ¶ 132.

1. 2017 Form 20-F

500.com's 2017 20-F form was filed on April 27, 2018 and contained Friedman's report for the fiscal year which ended on December 31, 2017. Id. ¶ 133. Friedman's 2017 report stated:

We have audited the accompanying consolidated balance sheet of 500.com Limited and Subsidiaries (collectively, the “Company”) as of December 31, 2017, and the related consolidated statements of comprehensive loss changes in shareholders' equity, and cash flows for the year then ended, and the related notes (collectively referred to as the “financial statements”). We also have audited the Company's internal control over financial reporting as of December 31, 2017 based on criteria established in Internal Control- Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”).

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2017, and the results of its operations and its cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control- Integrated Framework (2013) issued by COSO.

Basis for Opinion

The Company's management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management's Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company's financial statements and an opinion on the Company's internal control over financial reporting

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