Searching over 5,500,000 cases.


searching
Buy This Entire Record For $7.95

Download the entire decision to receive the complete text, official citation,
docket number, dissents and concurrences, and footnotes for this case.

Learn more about what you receive with purchase of this case.

City of Miami General Employees' & Sanitation Employees' Retirement Trust v. RH, Inc.

United States District Court, N.D. California

February 26, 2018

City of Miami General Employees' & Sanitation Employees' Retirement Trust, Et AL., Plaintiffs,
v.
RH, Inc., Et Al. Defendants.

          ORDER DENYING MOTION TO DISMISS DKT. NOS. 50, 51, 57

          YVONNE GONZALEZ ROGERS JUDGE

         Plaintiffs City of Miami General Employees' & Sanitation Employees' Retirement Trust, et al., bring this securities class action litigation alleging fraudulent and misleading statements and omissions between March 26, 2015, and June 8, 2016, (the “Class Period”), against RH, Inc. (“RH”), and two individual defendants, namely Gary Friedman (CEO) and Karen Boone (CFO). Specifically, plaintiffs raise the following causes of action: (i) violation of section 10(b) of the Exchange Act and Rule 10b-5 against all defendants; and (ii) control person liability under section 20(a) of the Exchange Act against Friedman and Boone.

         Defendants challenge plaintiffs' section 10(b) claim on three grounds. First, plaintiffs fail to identify any statements which were false or misleading when made. Second, plaintiffs cannot establish a strong inference of scienter. Third, the complaint does not allege loss causation. With regard to plaintiffs' 20(b) claim against Friedman and Boone defendants argue that plaintiffs cannot show an underlying predicate violation under section 10(b).

         Having carefully considered the papers submitted and the pleadings in this action, the hearing held on October 31, 2017, and for the reasons set forth below, the Court hereby Denies the motion to dismiss and finds that plaintiffs have pled sufficient facts of material falsity, scienter, and loss causation.

         I. Background

         The facts at issue in this case, as pleaded in plaintiffs' 100-page Consolidated Class Action Complaint (“CCAC”), (Dkt. No. 45), are well-known to the parties. Relevant allegations from the CCAC are set forth below.[1]

         A. RH's Business and Procurement Structure

         RH is a Delaware corporation headquartered in Corte Madera, California, with approximately 41 million outstanding shares. (Id. at ¶ 21.) Its fiscal year (“FY”) concludes on January 31 of each year. RH is a retailer of luxury home furnishings such as couches, chairs, tables, lamps, and rugs. (Id. ¶ 25.) It sells products through its website; retail and outlet stores; and “Source Books” which are voluminous, glossy product catalogs distributed to potential customers. (Id.) As of April 29, 2017, the RH operated 85 retail stores and 28 outlets. (Id.)

         During the Class Period, RH did not manufacture any of the products it sold. (Id. ¶ 28.) Instead, RH contracted with third-party manufacturers. (Id.) Most of RH's manufacturers (frequently referred to as “vendors”) were located overseas: RH sourced approximately 69% of its inventory from vendors in Asia in FY2013 and 82% in FY2015. Plaintiffs aver that sourcing inventory from foreign manufacturers involves “significant lead times, ” typically upwards of six and as many as nine months. (Id. ¶ 29.)

         B. Alleged Facts Relevant to this Action

         According to plaintiffs, RH experienced significant revenue growth in the years leading up to the Class Period. (Id. ¶ 2.) “By the start of the Class Period, however, revenue growth . . . from RH's existing product lines had slowed substantially.” (Id.) RH sought to restore its sales growth by expanding its product offerings through the introduction of new brands, notably “RH Modern.” (Id. ¶¶ 2 and 30.) Defendants promoted the launch of RH Modern to investors, describing the product line as “the most important and significant new home furnishings business to be launched in the last 15 or 20 years.” (Id. ¶ 3.) Plaintiffs further allege that a successful launch required adequate in-stock merchandise of RH Modern. (Id. ¶ 4.) “Without adequate inventory, customers who placed orders for RH Modern products would face long delays to receive their products, leading to cancelled orders and costly accommodations.” (Id. ¶¶ 4, 103, and 173.)

         On the first day of the Class Period, March 26, 2015, Friedman announced the launch of RH Modern and reported that RH was “systematically placing orders now, ” which “should help us with lead times [and] help us with inventory flow.” (Id. ¶¶ 5 and 117; Dkt. No. 52, Declaration of Erik J. Olson in Support of Motion to Dismiss (“Olson Decl.”), Ex. 1 at 14.) Plaintiffs aver that during the Class Period defendants “repeatedly assured investors” that RH was “prepared for the launch.” (CCAC ¶ 3.) Specifically, during an investor call on June 6, 2015, Friedman stated that RH was growing its inventory levels, making the “necessary” inventory investments, and would “compete on speed” of delivery for RH Modern. (Olson Decl., Ex. 7 at 19.) Boone also reassured investors that RH was making inventory investments to prevent “high back orders” and claimed that RH would “grow inventory ahead of sales at the end of Q4.” (Id. at 6.) Plaintiffs contend that defendants “emphasized RH's preparedness for the launch throughout 2015” by indicating that RH Modern was “going to compete on speed.” (CCAC at ¶ 5.) According to plaintiffs, however, the “preparation and launch of RH Modern were debacles from the outset due to a near-complete lack of inventory.” (Id. ¶ 7.) “RH needed to order RH Modern products far in advance of the launch date in order to have RH Modern inventory available to fulfill customer orders at the time of the RH Modern launch” but failed to do so. (Id. ¶¶ 32-37.)

         On June 11, 2015, defendants allegedly marketed RH Modern “before designs were finalized and without placing orders with manufacturers.” (Id. ¶ 7.) On that date, defendants published a “video presentation” for investors which appeared to display a range of RH Modern items. (Id. ¶ 124.) Plaintiffs allege that “certain of these were not actual products from the line but unfinished ‘one-offs' that had been hastily constructed by hand shortly before the investor video.” (Id.) During the video presentation, Boone stated that 1Q15 inventory “was up 24%” and that “we expect to end the year with inventory growth that is higher than our sales growth, given the inventory investments in RH Modern and other newness that we will introduce this fall.”[2](Olson Decl., Ex. 6 at 5 (emphasis supplied).) Plaintiffs allege that Boone's statement referencing RH Modern “inventory investments” was (i) false because RH had not actually made such inventory investments when the statement was made, and (ii) misleading because it concealed the fact that 1Q inventory growth was due to “surplus inventory of existing product” and “60-80% of RH's inventory” was “product that had been returned to RH from customers and/or was damaged.” (CCAC at 57.)

         Plaintiffs assert that when defendants launched the RH Modern website and published the 540-page RH Modern Source Book in September 2015, “there was essentially no RH Modern furniture in stock.” (Id. ¶¶ 7 and 40.) Plaintiffs claim that Friedman knew that the Source Book “featured Photoshopped images of products that did not exist, and the videos through which he promoted RH Modern also showcased unavailable, unfinished products.” (Id. ¶ 8.) Customers therefore faced lengthy delays and many became upset and cancelled their orders. (Id. ¶¶ 8, 51-55, 106.)

         On September 10, 2015, RH issued a press release which indicated that “the launch of RH Modern and RH Teen late in the third quarter, ” among other factors, “puts us on a clear path to accelerate our growth in the fourth quarter and into fiscal 2016.”[3] (Olson Decl., Ex. 11 at 2.) On December 10, 2015, Friedman expressed a similar sentiment during an investor call when he touted as a “headline” that RH Modern was “performing ahead of our expectations.” (Id., Ex. 13 at 14.) That same day, RH issued a press release which indicated that defendants were “extremely encouraged by the early results we are seeing out of . . . RH Modern” and that “RH Modern is trending to add significant incremental revenues.” (Id., Ex. 15 at 2.) Plaintiffs allege that these representations were false and misleading because they concealed (i) pervasive RH Modern inventory shortages as well as (ii) customer complaints and (iii) canceled orders arising from such inventory shortages dating back to 1Q15. (CCAC at ¶ 193.)

         In a statement issued by RH on December 10, 2015, RH disclosed that RH Modern was suffering from an “in-stock position [which is] not great today.” (Id. ¶¶ 10 and 144.) The following day RH shares declined by more than 10%. (Id.) Nonetheless, Boone continued to reassure investors that “we continue to expect to end the year with inventory growth higher than our sales growth given the inventory investments in RH Modern and RH Teen.” (Olson Decl., Ex. 14 at 6.)

         The extent of RH Modern's inventory shortage was reflected in an internal memo sent by Friedman to all RH employees on January 30, 2016, which stated that RH's customers were “on fire” and that RH had “let customers die.” (CCAC ¶ 106.) Friedman's email initiated a “delight the customer initiative” wherein RH issued millions of dollars in “customer accommodations” including $10, 000 gift cards, free orders, and complimentary expedited air shipping to pacify customers upset by the inventory shortage. (Id. ¶¶ 8 and 108.)

         On February 24, 2016, defendants disclosed RH's poor financial performance as well as “shipping delays, ” “poor in-stocks . . . [and] suppressed orders” for RH Modern. (Olson Decl., Ex. 17 at 2.) This disclosure also attributed the poor financial performance to “macro economic challenges” including “energy, oil, or currency fluctuations” in certain markets. (Id. ¶ 156.) The following day RH shares fell by more than 25%. (CCAC at ¶ 163.)

         Finally, on June 8, 2016, defendants disclosed “RH Modern production delays” and revealed that RH had issued $18 million in customer accommodations. (Id. ¶ 173; see also Olson Decl., Ex. 22 at 5.) RH also stated that other product lines were suffering from “extra inventory” which was “bloating [the] balance sheet” and leading to “clearance events.” (Id. ¶¶ 11 and 156.) The next day, RH's “share price plunged over 21% on the highest trading volume in history since its IPO.” (Id.) // //

         II. Legal Standard

         A motion to dismiss under Rule 12(b)(6) tests the legal sufficiency of the claims alleged in the complaint. Ileto v. Glock, Inc., 349 F.3d 1191, 1199-1200 (9th Cir. 2003). “Dismissal can be based on the lack of a cognizable legal theory or the absence of sufficient facts alleged under a cognizable legal theory.” Balistreri v. Pacifica Police Dep't, 901 F.2d 696, 699 (9th Cir. 1990). All allegations of material fact are taken as true and construed in the light most favorable to the plaintiff. Johnson v. Lucent Techs., Inc., 653 F.3d 1000, 1010 (9th Cir. 2011). To survive a motion to dismiss, “a complaint must contain sufficient factual matter, accepted as true, to ‘state a claim to relief that is plausible on its face.' ” Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009) (quoting Bell Atl. Corp. v. Twombly, 550 U.S. 544, 557 (2007)). That requirement is met “when the plaintiff pleads factual content that allows the court to draw the reasonable inferences that the defendant is liable for the misconduct alleged.” Id.

         Furthermore, claims for fraud must meet the particularity requirements of Federal Rule of Civil Procedure 9(b), which requires that “[i]n alleging fraud or mistake, a party must state with particularity the circumstances constituting fraud or mistake.” Fed.R.Civ.P. 9(b). Rule 9(b) “requires ... an account of the time, place, and specific content of the false representations as well as the identities of the parties to the misrepresentations.” Swartz v. KPMG LLP, 476 F.3d 756, 764 (9th Cir. 2007) (internal quotation marks omitted). Further, plaintiffs are required to state with particularity the facts giving rise to a strong inference of defendants' scienter. See 15 U.S.C. § 78u-4(b)(2). “[T]he inference of scienter must be more than merely ‘reasonable' or ‘permissible'-it must be cogent and compelling, thus strong in light of other explanations” and a court “‘must consider plausible nonculpable explanations for the defendant's conduct.” See Tellabs, 551 U.S. at 324.

         III. Count 1: Section 10(b) of the Exchange Act and Rule 10b-5

         A. Legal Framework

         Section 10(b) of the Securities and Exchange Act, 15 U.S.C. § 78j(b), makes it unlawful for any person to “use or employ, in connection with the purchase or sale of any security . . . any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors.” 15 U.S.C. § 78j(b). SEC Rule 10b-5 implements this provision by making it unlawful 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 the light of the circumstances under which they were made, not misleading.” 17 C.F.R. § 240.10b-5(b). Similarly, under the Exchange Act, any person who “directly or indirectly, controls any person liable under any provision of [the Exchange Act] 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 controlled person is liable. 15 U.S.C. § 78t(a).

         In 1995, Congress enacted the Private Securities Litigation Reform Act (“PSLRA”), which includes “exacting pleading requirements, ” as a check against abusive litigation by private parties.[4] Tellabs, Inc., 551 U.S. at 313. Heightened pleading is one of the control measures Congress included to advance “the PSLRA's twin goals: to curb frivolous, lawyer-driven litigation, while preserving investors' ability to recover on meritorious claims.” Id. at 322.

         To state a claim under Section 10b, a plaintiff must “show that the defendant made a statement which was ‘misleading as to a material fact.'” Matrixx Initiatives, Inc. v. Siracusano, 563 U.S. 27, 38 (2011) (quoting Basic Inc. v. Levinson, 485 U.S. 224, 238 (1988)) (emphasis in original). Under the PSLRA's heightened pleading requirement, to state a Section 10(b) claim, plaintiffs must allege facts sufficient to establish: (i) that the defendant made a material misrepresentation or omission of fact; (ii) that the misrepresentation was made with scienter; (iii) a connection between the misrepresentation or omission and the purchase or sale of a security; (iv) reliance on the misrepresentation or omission; (v) loss causation; and (vi) economic loss. Metzler Inv. GMBH v. Corinthian Colleges, Inc., 540 F.3d 1049, 1061 (9th Cir. 2008). Under Rule 9(b), claims alleging fraud are subject to a heightened pleading requirement, which requires that a party “state with particularity the circumstances constituting fraud or mistake.” Fed.R.Civ.P. 9(b). With respect to the scienter requirement, the Court must view the allegations as a whole and determine whether plaintiff have raised an inference of scienter that is “cogent and compelling, thus strong in light of other explanations, ” to satisfy the PSLRA standard. S. Ferry LP, No. 2 v. Killinger, 542 F.3d 776, 784 (9th Cir. 2008) (citing Tellabs, 551 U.S. at 326). When assessing the allegations holistically, the Court views circumstances that are probative of scienter with a practical and common-sense perspective. Id.

         B. ...


Buy This Entire Record For $7.95

Download the entire decision to receive the complete text, official citation,
docket number, dissents and concurrences, and footnotes for this case.

Learn more about what you receive with purchase of this case.