Jacksonville Police and Fire Pension Fund et al v. American International Group, Inc. et al

Filing 416

MEMORANDUM OPINION AND ORDER re: 309 MOTION for Judgment on the Pleadings. The Moving Defendants' motion for judgment on the pleadings is granted. Plaintiffs' Securities Act claims against AIG, the Signing Executive, Director, and Underwr iter Defendants predicated on the alleged failure to disclose risk concentrations (Compl. 594(e)) and the failure to comply with GAAP (id. 606) are dismissed. Plaintiffs claims (Count Five) against PwC are dismissed in their entirety. This Memorandum Order resolves docket entry no. 309. (Signed by Judge Laura Taylor Swain on 4/26/2013) (ft) Modified on 4/26/2013 (ft).

UNITED STATES DISTRICT COURT
SOUTHERN DISTRICT OF NEW YORK
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IN RE AMERICAN
INTERNATIONAL GROUP, INC.,
2008 SECURITIES LITIGATION

No. 08 Civ. 4772 (LTS)(DCF)

This Document Relates To:
All Actions
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M EMORANDUM O PINION AND O RDER

Lead Plaintiff State of Michigan Retirement Systems (“Lead Plaintiff”), brings
this action on behalf of a putative class of investors (“Plaintiffs”) who purchased or otherwise
acquired publicly traded securities issued by American International Group, Inc. (“AIG” or the
“Company”), between March 16, 2006, and September 16, 2008 (the “Class Period”).1 Plaintiffs
principally allege that the Defendants AIG officers, directors, accountants and securities
underwriters2 (“Defendants”) violated federal securities laws by materially misstating the extent
to which AIG had accumulated exposure to the subprime mortgage market through its securities
lending program and its credit default swap (“CDS”) portfolio. As relevant to the current
motion, Plaintiffs assert claims against AIG, PricewaterhouseCoopers LLP (“PwC”), the
Director Defendants, and the Signing Executive Defendants for alleged violations of Section 11
of the Securities Act of 1933 (“Securities Act”), 15 U.S.C. § 77k (“Section 11”), and against the
“Underwriter Defendants” for alleged violations of Section 11 and Section 12(a)(2) of the

1

The capitalized terms used in this order are either defined herein or used as they
are defined in the Complaint.

2

A full listing of the Defendants in this action is set forth in In re Am. Int'l
Group, Inc. 2008 Sec. Litig., 741 F. Supp. 2d 511, 517 (S.D.N.Y. 2010).

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Securities Act, 15 U.S.C. § 77l(a)(2) (“Section 12(a)(2)”). PwC has moved pursuant to Rule 12(c)

of the Federal Rules of Civil Procedure to dismiss all of the Securities Act claims against it, and
AIG, the Director Defendants, the Signing Executive Defendants, and the Underwriter
Defendants have moved for partial dismissal of the Securities Act claims against them.3 The
Moving Defendants argue that the Complaint fails to allege that they disbelieved the allegedly
actionable misrepresentations and omissions at the time they were made, as required by the
recent holding of the United States Court of Appeals for the Second Circuit in Fait v. Regions
Financial Corporation, 655 F.3d 105 (2d Cir. 2011). The Court held oral arguments on the
motion on April 2, 2013. For the following reasons, the Moving Defendants’ motion is granted.
BACKGROUND
Plaintiffs’ 284-page Complaint details Plaintiffs’ allegations as to the causes of
AIG’s liquidity crisis and the attendant material misstatements and omissions on Defendants’
part. The Court assumes the parties’ familiarity with the record and limits the following
summary of Plaintiffs’ factual allegations to matters that are material to the Court’s legal
conclusions.
A preliminary word about the structure of the Complaint is helpful in
understanding the Court’s disposition of this motion. Plaintiffs’ Complaint is divided into two
parts. The first part contains the claims, and supporting factual allegations, brought pursuant to
the Securities Exchange Act of 1934 (“Exchange Act”). (Compl. ¶¶ 1-576.) The second part of
the Complaint contains the claims, and supporting factual allegations, brought pursuant to the

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AIG, the Director Defendants, the Signing Executive Defendants, the
Underwriter Defendants, and PwC are collectively referred to as the “Moving
Defendants.”
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Securities Act. (Id. ¶¶ 577 - 701.) The Securities Act section of the Complaint “expressly
exclude[s] and disclaim[s] any allegation that could be construed as alleging or sounding in
fraud or intentional or reckless misconduct” and, with a few exceptions (explained further
below), the Securities Act section “do[es] not incorporate . . .any allegations of fraud in
connection with [the Securities Act claims].” (Id. ¶¶ 607, 621, 639, 684).
Plaintiffs allege that the Moving Defendants are liable under the Securities Act
because certain SEC filings contained “untrue statements of material fact and material
omissions,” including that: “(a) [the filings] failed to disclose . . . the decision to stop writing
CDS [Credit Default Swap] contracts on multi-sector CDOs [collateralized debt obligations],
and . . . the reasons for that decision . . . ; (b) they failed to disclose the decision made by AIG
Investments in late 2005 to change the mix of investments for the securities lending program to
contain 75 percent RMBS and other ABS [Asset-Backed Securities] . . . and failed to disclose
(and materially misrepresented) . . . the concentration of investments in RMBS and other ABS
that was made through the securities lending program; (c) they failed to disclose that the CDS
contracts frequently provided that AIGFP’s [American International Group Financial Products
Corporation] CDS counterparties were the presumptive prevailing party in settling the value of
the multi-sector CDOs underlying AIGFP’s CDS contracts . . . ; (d) they misrepresented . . . the
actual cash collateral payment requirement for the securities lending program . . . ; and (e) they
failed . . . to adequately set forth AIG’s concentration of credit risk in the U.S. residential and
mortgage market, including the subprime market . . . .” (Compl. ¶ 594.)
The Complaint alleges that AIG’s securities offering materials “failed to disclose
the material fact that many of the underwriters of securities and notes issued by AIG during the
Class Period were also counterparties of AIG with respect to its CDS portfolio and securities
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lending program, and therefore, that significant portions of the sums raised through the Offerings
by the Underwriters would or could be used to post collateral for the benefit of the Underwriters,
or to make payments to the Underwriters.” (Id. ¶ 597.) The Complaint additionally alleges that
the “financial statements, including the footnotes thereto, included and/or incorporated by
reference within the Offering Materials were materially false and misleading . . . because they
were in violation of GAAP [(generally accepted accounting principles)].” (Id. ¶ 606.)
Plaintiffs’ GAAP-related contentions are addressed more fully in the Exchange
Act section of the Complaint, wherein the Plaintiffs allege that the Section 10(b) Defendants
violated the following Financial Account Standards (“FAS”): (1) FAS 107, 133 and 157, which
required that AIG’s CDS portfolio be reported at fair value (id. ¶¶ 426-29, 432-33); (2) FAS 5,
which required AIG to disclose losses incurred and loss contingencies in connection with its
credit default swaps (id. ¶¶ 430-33); and (3) FAS 107, which allegedly required AIG to disclose,
among other things, the fact that AIG had taken “significant concentrations, or group
concentrations, of credit risk” by investing 75 percent of its securities lending portfolio in
residential mortgage-backed securities, (Id. ¶ 434). The Complaint also alleges that AIG
violated its obligation under Financial Accounting Standards Board Interpretations (“FIN”) 45 to
disclose certain guarantees – specifically, the full amount of AIG’s obligations to post collateral
under its credit default swaps. (Id. ¶¶ 441-42.) Plaintiffs have since clarified, in connection with
this motion practice, that the only GAAP-related allegations they are pursuing against the
Moving Defendants under the Securities Act are those pertaining to FAS 107 and FIN 45.
Plaintiffs allege that PwC violated Section 11 by falsely certifying that (1) AIG’s
financial statements were prepared in conformity with GAAP, and (2) that PwC’s audit was
performed in accordance with Generally Accepted Auditing Standards (“GAAS”). (Id. ¶¶ 645AIG MJP.W PD

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46.) Plaintiffs allege that PwC was “in a unique position to identify, and to cause the Company
to remedy, the omission of both (a) the recognition of incurred losses from required fair value
adjustments and (b) required disclosures in the Company’s financial statements and SEC filings
discussed herein.” (Id. ¶ 644.) According to Plaintiffs, had PwC conducted a proper audit, it
would have learned of – and required AIG to disclose – the flaws in AIG’s internal controls and
the risks posed by the CDS portfolio, the securities lending program, and the concentration of
exposure to the subprime mortgage market. (Id. ¶¶ 646, 649, 667-72.) Plaintiffs assert that
PwC’s failure to conduct a proper audit resulted in its signing unqualified opinions (included in
the Company's 2005 and 2006 Forms 10-K) that did not disclose adequately any of these flaws.
DISCUSSION
In considering a motion pursuant to Federal Rule of Civil Procedure 12(c) for
judgment on the pleadings, the Court applies the same standards used for the determination of a
motion pursuant to Federal Rule of Civil Procedure 12(b)(6) to dismiss a complaint for failure to
state a claim. Cortes v. City of New York, 700 F. Supp. 2d 474, 480-81 (S.D.N.Y. 2010); see
also LaFaro v. New York Cardiothoracic Group, PLLC, 570 F.3d 471, 475-76 (2d Cir. 2009).
Thus, the Court accepts as true the non-conclusory factual allegations in the complaint and draws
all inferences in the Plaintiffs’ favor. Roth v. Jennings, 489 F.3d 499, 501 (2d Cir. 2007); see
also Ashcroft v. Iqbal, 556 U.S. 662 (2009).
To survive a Rule 12(b)(6) motion, a complaint must “plead enough facts to state
a claim that is plausible on its face.” Ruotolo v. City of New York, 514 F.3d 184, 188 (2d Cir.
2008) (internal quotation marks omitted) (citing Bell Atl. Corp. v. Twombly, 550 U.S. 544, 570
(2007)). “A claim has facial plausibility when the plaintiff pleads factual content that allows the
court to draw the reasonable inference that the defendant is liable for the misconduct alleged.”
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Ashcroft v. Iqbal, 129 S. Ct. 1937, 1949 (2009). “Where a complaint pleads facts that are
merely consistent with a defendant’s liability, it stops short of the line between possibility and
plausibility of entitlement to relief.” Id. (internal quotations and citations omitted).
.

Allegations Against AIG, and the Signing Executive, Director, and Underwriter Defendants
The non-PwC Moving Defendants seek dismissal of only those Securities Act
claims that are premised on (1) the failure to disclose AIG’s concentration of credit risk as
allegedly required by FAS 107 (Compl. ¶ 594(e)), and (2) the financial statements’ alleged
failure to comply with GAAP. (Id. ¶ 606.) The only GAAP-related allegation that Plaintiffs
continue to press against these Defendants is the allegation related to FIN 45's requirement that
AIG disclose guarantees. Defendants contend that the misstatements and omissions on which
Plaintiffs’ claims are premised were statements of opinion; that, under Fait v. Regions Financial
Corporation, 655 F.3d 105 (2d Cir. 2011), such opinions are only actionable if Plaintiffs plead
subjective falsity; and that the Complaint fails to plead facts sufficient to support an inference of
subjective falsity.
The Fait plaintiffs brought a putative class action alleging that the defendant in
that case, Regions, was liable under Sections 11 and 12(a)(2) for misstating the corporation’s
goodwill and loan loss reserves in violation of GAAP. The Second Circuit noted that there was
no objective, universally agreed-upon standard for measuring goodwill and loan loss reserves,
and that any estimate would necessarily depend on “management's opinion or judgment.” 655
F.3d at 112-13. The Second Circuit concluded that, because the goodwill estimates and loan loss
reserve calculations were matters of opinion, they were subject to the rule articulated in Virginia
Bankshares v. Sandberg, 501 U.S. 1083 (1991) – namely, that liability will only attach if a

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plaintiff can plausibly allege both that the statements were objectively false and that the
“defendants did not believe the statements . . . at the time they made them.” 655 F.3d at 112.
The Second Circuit reiterated the rule in City of Omaha, NE Civilian Emps. Ret. Sys. v. CBS
Corp., 679 F.3d 64 (2d Cir. 2012), holding that even statements that Defendants should have
known that their valuation decisions were false or misleading will not suffice to state a claim for
relief under the Securities Act. 679 F.3d at 68.
By repeatedly disclaiming fraud and intentional or reckless misconduct in the
Securities Act section of the Complaint, Plaintiffs have disavowed any allegation that the
Defendants knowingly misstated any opinions they may have implicitly or explicitly
communicated in the offering documents and SEC filings.4 Therefore, the key inquiry is
whether the FAS 107 and the FIN 45 allegations are opinions subject to Fait’s subjective falsity
pleading requirement. The Court finds that they are.
FAS 107 requires companies to disclose “significant concentrations” of credit
risk. Plaintiffs argue that Fait does not apply to the FAS 107 allegations because Fait only
applies to misrepresentations, not omissions, and because – unlike goodwill, which is quantified
based on judgments about the value of the company’s business, and loan loss reserves, which are
set based on judgments about possible future events – there is an objective way to measure risk
concentration. However, FAS 107's disclosure obligation is only triggered where the
concentration of credit risk is “significant” – a determination that hinges on management’s
judgment. The decision not to disclose credit risk pursuant to FAS 107 is therefore tantamount
to an implicit representation that management was not of the opinion that the concentration of

4

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The Court notes in this connection that Plaintiffs have, at no time, requested leave
to amend the challenged portions of the Complaint.
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credit risk was significant. See In re Lehman Bros. Sec. & Erisa Litig., 799 F. Supp. 2d 258, 291
(S.D.N.Y. 2011) (“The question whether a particular concentration of credit risk is ‘significant’
within the meaning of SFAS 107 is a matter of judgment. Consequently, in order to state a claim
that an entity's failure to disclose a concentration of credit risk violated SFAS 107, a plaintiff
must plead facts that would permit findings that the entity in fact had ‘significant concentrations
of credit risk’ and that the entity believed that to be so.” (emphasis in original)). Accordingly,
the FAS 107 allegations must be dismissed as to the Moving Defendants.
The Court reaches the same conclusion with respect to FIN 45. FIN 45 requires
disclosure of the “maximum potential amount of future payments” for arrangements that qualify
as “guarantees.” However, the Moving Defendants contend that whether a contract qualifies as a
guarantee subject to the FIN 45 requirement necessarily requires a complex series of judgments
as to whether it fits the criteria set forth in FIN 45 ¶ 3. (Tr. 18-21.) In response, Plaintiffs argue
that their allegation that the contracts fell within FIN 45's ambit should be taken as true on a
motion for judgment on the pleadings, thus rendering the disclosure failure one of computational
fact rather than one of failure to reach or disclose an opinion. (Tr. at 47-48.) However, they
have not presented the Court with any authority supporting their assertion that courts should
accept as true a complaint’s interpretation of financial regulations or auditing standards as
opposed to purely factual contentions, and the Court’s own research has disclosed none. It is
beyond question that legal conclusions need not be accepted as true in evaluating the sufficiency
of a complaint; interpretations of accounting principles – which, like laws, define and govern the
conduct of aspects of human endeavor – are properly treated in the same way. The Court
therefore concludes that the FIN 45 allegations are subject to the Fait requirement and will
dismiss them for failure to plead subjective falsity.
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Allegations Regarding PwC’s Opinion Statements
PwC’s Audit Opinions are clearly expressed as statements of opinion and are
therefore subject to Fait’s subjective falsity requirement. (See, e.g., AIG 2007 10-K (“In our
opinion, the consolidated financial statements listed in the accompanying index present fairly, in
all material respects, the financial position of [AIG] . . . in conformity with accounting principles
generally accepted in the United States of America. . . . We believe that our audits provide a
reasonable basis for our opinions.” (emphasis added).) Plaintiffs do not dispute that their claims
against PwC are premised on opinions. As in Fait, Plaintiffs allege that PwC had extensive
access to AIG’s financial records and that, had PwC conducted its audit according to its duties, it
would have discovered (and required AIG to disclose) the defects in AIG’s internal controls and
its ballooning risk exposure. In their opposition, Plaintiffs argue that, because PwC did not
conduct a proper audit, it could not have believed that its audit opinions were accurate. In
essence, Plaintiffs are arguing that PwC was wilfully blind to the defects in the financial
statements. However, the theory that PwC deliberately flouted its auditing duties or knowingly
issued audit opinions based on incomplete audits is foreclosed by the Complaint itself, which
“expressly exclude[s] and disclaim[s] any allegation that could be construed as alleging . . .
intentional or reckless misconduct.” (Id. ¶ 639.) Plaintiffs’ factual allegations, which the Court
takes as true, may demonstrate that PwC was derelict in its duties and that it conducted a sub-par
audit; however, in light of the disclaimer, they cannot support the inference that PwC knowingly
issued an opinion it believed to be false.
CONCLUSION
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For the foregoing reasons, the Moving Defendants’ motion for judgment on the
pleadings is granted. Plaintiffs’ Securities Act claims against AIG, the Signing Executive,
Director, and Underwriter Defendants predicated on the alleged failure to disclose risk
concentrations (Compl. ¶ 594(e)) and the failure to comply with GAAP (id. ¶ 606) are dismissed.
Plaintiffs’ claims (Count Five) against PwC are dismissed in their entirety. This Memorandum
Order resolves docket entry no. 309.
SO ORDERED.
Dated: New York, New York
April 26, 2013
/S
LAURA TAYLOR SWAIN
United States District Judge

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