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In re Maxwell Techs., Inc.

United States District Court, S.D. California

May 5, 2014


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For Kenneth A. Foster, Individually and on Behalf of All Others Similarly Situated, Plaintiff: David C Walton, LEAD ATTORNEY, Robbins Geller Rudman & Dowd LLP, San Diego, CA.

For Employees' Pension Plan of the City of Clearwater, Plaintiff: Benjamin Galdston, Blair A Nicholas, LEAD ATTORNEYS, Bernstein Litowitz Berger and Grossmann, San Diego, CA; Lester R. Hooker, LEAD ATTORNEY, Maya Saxena, PRO HAC VICE, Saxena White P.A., Boca Raton, FL.

For Victor Sanjuan Abanades, Individually and On Behalf of All Others Similarly Situated, Edward Mebarak, Individually and On Behalf of All Others Similarly Situated, Joshua Weinstein, Individually and On Behalf of All Others Similarly Situated, Plaintiffs: Lionel Z Glancy, LEAD ATTORNEY, Glancy Binkow and Goldberg, Los Angeles, CA.

For Maxwell Technologies, Inc., David J. Schramm, Kevin S. Royal, Defendants: Caz Hashemi, Jerome F. Birn, Jr, Jessica Leigh Snorgrass, Kelley Moohr Kinney, Nicholas R. Miller, LEAD ATTORNEYS, Wilson, Sonsini, Goodrich & Rosati, PC, Palo Alto, CA.

For Van M. Andrews, Defendant: Karen S Chen, LEAD ATTORNEY, DLA Piper U.S. LLP, San Diego, CA; Roy K. McDonald, Vishali Singal, LEAD ATTORNEYS, DLA Piper LLP (USA), San Francisco, CA; Shirli Fabbri Weiss, LEAD ATTORNEY, DLA Piper Rudnick Gray Cary, San Diego, CA.


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Hon. Roger T. Benitez, United States District Judge.

[Docket No. 50]

Before this Court is a Motion to Dismiss filed by Defendants Maxwell Technologies, Inc. (Maxwell), David J. Schramm, and Kevin S. Royal. (Docket No. 50). For the reasons stated below, the Motion is GRANTED.


Maxwell Technologies is a Delaware corporation based in San Diego, CA. Maxwell develops, manufactures, and markets energy storage and power delivery products, with a primary focus on ultracapacitors. Schramm served as CEO and President of Maxwell from July 2007 to December 31, 2013, and reached an agreement to serve as an advisor for two additional years. Royal has been the Senior Vice President, CFO, Treasurer, and Secretary of Maxwell since April 2001.

On March 7, 2013, Maxwell announced that it was restating its financial statements for 2011 and the first three quarters of 2012. Maxwell's sales organization made secret arrangements with certain distributors for special payment terms. The distributors would not have to pay Maxwell until the distributor was paid by the customers. Under Maxwell's revenue recognition policy, revenue is only to be recognized where certain conditions are met, including that the collectability of the revenue is " reasonably assured." (Compl. ¶ ¶ 29, 134-35). However, Maxwell recognized the revenue from these sales too early, causing the financial statements to overstate revenue. The inaccurate revenue numbers had been included in a number of SEC filings signed by Schramm and Royal. These filings assert that GAAP principles are used and that the financial statements " present fairly the financial position, results of operations, and cash flows" of Maxwell. ( Id. ¶ 118). Schramm and Royal also spoke on a number of conference calls about Maxwell and its financial performance.

On April 26, 2012, Maxwell announced disappointing financial results for the first quarter of 2012. ( Id. ¶ ¶ 10, 85). A one-day drop of $6.20 per share, from $15.80 per share to $9.60 per share, followed. (¶ ¶ 10, 86, 162). On March 7, 2013, Maxwell announced that there had been errors in past restatements, that it was required to restate results for 2011 and the first

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three quarters of 2012. ( Id. ¶ 11). It also stated that it had to delay its annual report, that there were problems with internal controls and its credit agreement, and announced terminations and resignations of some Maxwell executives. ( Id. ) The next day, shares fell $1.01. ( Id. ) On March 19, 2013, Maxwell announced that McGladrey LLP had resigned as the independent accounting firm because it could not rely on management's representations and continuing internal control deficiencies. ( Id. ¶ ¶ 4, 13, 90). The stock price fell the next day. ( Id. ¶ 91 [1]). Plaintiff contends that, overall, the stock price dropped more than 70% from the class period high of $21.20 per share. ( Id. ) On April 30, 2013, Maxwell disclosed that the DOJ and SEC had begun investigations.

Maxwell published the restated financial statements on August 1, 2013. In total, Maxwell states that $10.1 million in revenue had been recognized prematurely in 2011, and $9.2 million had been recognized prematurely in 2012. ( Id. ¶ 154). Maxwell asserts that there were no phony transactions and that, with insignificant exceptions, Maxwell has been paid for all of the problematic sales transactions subject to the restatement. (Mot. at 5; Def. Ex. A at 11 [2]).

Maxwell's audit committee conducted an investigation using outside counsel and forensic accountants. Certain Maxwell employees were terminated, and Senior Vice-President of Sales and Marketing Van Andrews resigned. While the investigation was ongoing, Maxwell's accountants, McGladrey LLP, resigned. McGladrey stated that they had decided not to accept representations from the current management and that Maxwell lacked sufficient internal controls over revenue recognition. Maxwell hired new accountants, who accepted representations from current management, including both individual defendants. Investigations have been commenced by the Securities and Exchange Commission (SEC) and the Department of Justice (DOJ).

In the wake of the restatements, several lawsuits were filed against Maxwell and the individual defendants on behalf of persons or entities that purchased Maxwell stock. On October 24, 2013, this Court consolidated four actions, and appointed The Employees' Pension Plan of the City of Clearwater as Lead Plaintiff (" Plaintiff" ). (Docket No. 44). Plaintiff filed a Consolidated Complaint (Compl.) on January 17, 2014. (Docket No. 49). The Complaint, filed on behalf of persons or entities who purchased Maxwell stock between April 29, 2011 and March 19, 2013 (the " Class Period" ), asserts two causes of action: (1) violation of Section 10(b) of the Securities and Exchange Act of 1934 (Exchange Act), and (2) violation of Section 20(a) of the Exchange Act. Plaintiff claims that Defendants made false statements about Maxwell's financial condition and internal controls, and that Schramm and Royal knew of or participated in the secret side arrangements with distributors.

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On February 20, 2014, Defendants filed a Motion to Dismiss the Complaint on the grounds that Plaintiff failed to sufficiently allege scienter and that loss causation fails as to the April 26, 2012 announcement. (Docket No. 50).


Section 10(b) of the Exchange Act makes it unlawful to:

use or employ, in connection with the purchase or sale of any security registered on a national securities exchange or any security not so registered . . . any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the [SEC] may prescribe as necessary or appropriate in the public interest or for the protection of investors.

15 U.S.C. § 78j(b). Pursuant to that section, the SEC promulgated Rule 10b-5, which makes it unlawful, in relevant part, to " make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in light of the circumstance under which they were made, not misleading." 17 C.F.R. § 240.10b-5(b). Section 20(a) of the Exchange Act, 15 U.S.C. § 78t(a), states that a person who:

directly or indirectly, controls any person liable under any provision of this chapter or of any rule or regulation thereunder shall also be liable jointly and severally with and to the same extent as such controlled person to any person to whom such a controlled person is liable . . . unless the controlling person acted in good faith and did not directly or indirectly induce the act or acts constituting the violation or cause of action.

Section 20(a) claims may be dismissed summarily if the plaintiff fails to adequately plead a primary violation of section 10(b). Zucco Partners, LLC v. Digimarc Corp., 552 F.3d 981, 990 (9th Cir. 2009) (citations omitted).

To state a securities fraud claim, a plaintiff must plead (1) a material misrepresentation or omission by the defendant; (2) scienter; (3) a connection between the misrepresentation or omission and the purchase and sale of a security; (4) reliance upon the misrepresentation or omission; (5) economic loss; and (6) loss causation. Mattrix Init. Inc. v. Siracusano, 131 S.Ct. 1309, 1317, 179 L.Ed.2d 398 (2011); Reese v. Malone, No. 12-35260, 747 F.3d 557, 2014 WL 555911, at *5 (9th Cir. Feb. 13, 2014) (citations omitted). Scienter is " a mental state embracing intent to deceive, manipulate, or defraud." Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 n.12, 96 S.Ct. 1375, 47 L.Ed.2d 668 (1976).

In ruling on a motion to dismiss in a securities fraud class action, the court assumes all factual allegations to be true. Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 322, 127 S.Ct. 2499, 168 L.Ed.2d 179 (2007). A court considers the complaint in its entirety, as well as other sources courts ordinary examine when ruling on Rule 12(b)(6) motions to dismiss, such as documents incorporated into the complaint by reference and matters of which a court may take judicial notice. Id.

At the pleading stage, a complaint stating claims under section 10(b) and Rule 10b-5 must satisfy the dual pleading requirements of Federal Rule of Civil Procedure 9(b) and the Private Securities Litigation Reform Act of 1995 (PSLRA). Rule 9(b) requires a party to " state with particularity" the circumstances constituting fraud or mistake, but allows conditions of a person's mind to be alleged generally. However, the PSLRA applies special requirements to private actions for securities fraud. Where a plaintiff may only recover money damages on proof that a defendant

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acted with a particular state of mind, the complaint must, as to each alleged act or omission, " state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind." 15 U.S.C. § 78u-4(b)(2)(A).

The Ninth Circuit has held that in a securities fraud action, plaintiffs must show that defendants engaged in " knowing" or " intentional conduct." South Ferry LP, No. 2 v. Killinger, 542 F.3d 776, 782 (9th Cir. 2008) (citing In re Silicon Graphics, Inc. Sec. Litig., 183 F.3d 970, 975 (9th Cir. 1999)). Reckless conduct can meet the standard to the extent it " reflects some degree of intentional or conscious misconduct," or what has been termed " deliberate recklessness." Id. (citing Silicon Graphics, 183 F.3d at 977). In pleading deliberate recklessness, the plaintiff must plead a " highly unreasonable omission, involving not merely simple, or even inexcusable negligence, but an extreme departure from the standards of ordinary care, and which presents a danger of misleading buyers or sellers that is either known to the defendant or is so obvious that the actor must have been aware of it." Zucco, 552 F.3d at 991 (quoting Silicon Graphics, 183 F.3d at 976). Facts showing " mere recklessness," or motive and opportunity to commit fraud, provide some reasonable inference of intent, but are not independently sufficient. Reese v. Malone, 2014 WL 555911, at *7 (citing Silicon Graphics, 183 F.3d at 974).

The strong inference is required to be " cogent and compelling, thus strong in light of other explanations." Tellabs, 551 U.S. at 324. The inquiry is " inherently comparative" and requires that a court consider plausible, nonculpable explanations for the defendant's conduct, as well as inferences favoring the plaintiff. Id. Although the inference that a defendant acted with scienter need not be irrefutable or the " most plausible" of competing inferences, it must be more that merely " reasonable" or " permissible." Id. A complaint will survive " only if a reasonable person would deem the inference of scienter cogent and at least as compelling as any opposing inference one could draw from the facts alleged." Id. The relevant inquiry is " whether all of the facts alleged, taken collectively, give rise to a strong inference of scienter, not whether any individual allegation, scrutinized in isolation, meets that standard." Id. at 323 (emphasis in original). In reviewing the sufficiency of scienter allegations after Tellabs, the Ninth Circuit has conducted a dual inquiry in which it first determines if any allegation, standing alone is sufficient to create a strong inference of scienter. Zucco, 552 F.3d at 992. If not, it examines the complaint holistically to determine if the insufficient allegations combine to create a strong inference of intentional conduct or deliberate recklessness. Id.


Defendants argue that Plaintiff has failed to sufficiently allege scienter. They argue that the Complaint does not allege facts giving rise to the " strong inference" that Schramm or Royal were involved in or knew of the secret side arrangements which caused the restatement. (Mot. at 2).

Plaintiff points to a number of different allegations which it contends are sufficient to raise a strong inference of scienter, when viewed holistically. Plaintiff points to the statements of five confidential witnesses included in the complaint. It also points to a variety of other facts, such as the " noisy" resignation of Maxwell's auditor, the individual defendants' performance-based compensation, government investigations, the individual defendant's role in the corporate structure, and alleged

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involvement in relevant transactions. Defendants dispute that such allegations give rise to a strong inference, and point to other facts which they contend undermine a strong inference of scienter.

This Court individually examined the various allegations raised to determine if they are sufficient to create a strong inference of scienter. As none are individually sufficient, the Court examined them holistically to determine if they create a strong inference of scienter when viewed in combination. As this Court determines that a strong inference of scienter is not created, it will not proceed to unnecessarily consider loss causation.

A. Corporate Scienter

Plaintiff argues that corporate scienter is satisfied because defendants Schramm and Royal, as well as non-defendant Andrews, were senior-level executives responsible for Maxwell's core operations and acted with the requisite scienter. (Opp'n at 10). Plaintiff argues that Maxwell's corporate scienter is " beyond reasonable dispute" because it admitted that Andrews left the company " as a result" of the investigation into wrongdoing. (Opp'n at 4). Plaintiff contends that the scienter of Andrews, Schramm, and Royal can be ...

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