Case 2:15-Cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 1 of 84 Pageid: 18595

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 1 of 84 PageID: 18595

UNITED STATES DISTRICT COURT FOR THE DISTRICT OF NEW JERSEY

ROBERT DE VITO, Individually and Civ. No. 15-6969 (KM) (JBC) On Behalf of All Others Similarly Situated, MEMORANDUM OPINION Plaintiffs,

LIQUID HOLDINGS GROUP, INC., BRIAN M. STORMS, KENNETH D. SHIFRIN, RICHARD SCHAEFFER, BRIAN FERDINAND, and SANDLER O’NEILL & PARTNERS, L.P.,

Defendants.

KEVIN MCNULTY, U.S.D.J.: The plaintiffs have filed a putative class action alleging claims under the federal securities laws against certain former senior officials of Liquid Holdings Group, Inc. (“Liquid” or “the Company”) and against the underwriter of Liquid’s initial public offering. (See 3AC).1 Those alleged violations stem from

1 For ease of reference, certain items from the docket will be abbreviated as follows: “DE __” = Docket Entry in this case “3AC” = Third Amended Complaint (DE 206) “Sandler Mot.” = Defendant Sandler O’Neill & Partners, L.P.’s Brief in Support of its Motion to Dismiss the Claims Against It in the Third Amended Complaint (DE 207-1) “Schaeffer Mot.” = Defendant Richard Schaeffer’s Brief in Support of his Motion to Dismiss the Claims Against Him in the Third Amended Complaint (DE 209-1) 1

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 2 of 84 PageID: 18596

purportedly false and/or materially misleading statements made by the defendants in Liquid’s offering documents and subsequent public pronouncements. Plaintiffs assert that these false and materially misleading statements violate Sections 11 and 15 of the Securities Act of 1933 (the “Securities Act”), Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the “Exchange Act”), and Rule 10b-5 promulgated thereunder. Now before the Court are defendants’ motions to dismiss the third amended complaint. For the reasons expressed herein, those motions are GRANTED as to Counts I, II, and IV, and they are DENIED as to Counts III and V.

I. FACTUAL AND PROCEDURAL BACKGROUND2 Liquid was a software service provider that catered to the securities and hedge fund industry. Its relatively short lifespan—commencing operations in April 2012, publicly listed in July 2013, delisted in October 2015, and bankrupt in January 2016—was allegedly marred by self-dealing, undisclosed

“Ferdinand Mot.” = Defendant Brian Ferdinand’s Brief in Support of his Motion to Dismiss the Claims Against Him in the Third Amended Complaint (DE 210-1) “Shifrin & Storms Mot.” = Defendant Kenneth Shifrin’s and Brian Storms’ Brief in Support of their Motion to Dismiss the Claims Against Them in the Third Amended Complaint (DE 211-1) “Pl. Opp.” = Plaintiffs’ Omnibus Brief in Opposition to Defendants’ Motions to Dismiss the Third Amended Complaint (DE 213) “Sandler Reply” = Defendant Sandler O’Neill & Partners, L.P.’s Reply Brief to Plaintiffs’ Opposition (DE 218) “Schaeffer Reply” = Defendant Richard Schaeffer’s Reply Brief to Plaintiffs’ Opposition (DE 220) “Ferdinand Reply” = Defendant Brian Ferdinand’s Reply Brief to Plaintiffs’ Opposition (DE 221) “Shifrin & Storms Reply” = Defendant Kenneth Shifrin’s and Brian Storms’ Reply to Plaintiffs’ Opposition (DE 219) 2 On a Rule 12(b)(6) motion to dismiss the complaint, I accept all well-pleaded factual allegations as true and view them in the light most favorable to the plaintiff. Pension Tr. Fund for Operating Engineers v. Mortg. Asset Securitization Transactions, Inc., 730 F.3d 263, 268 (3d Cir. 2013). See Section II, infra. 2

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 3 of 84 PageID: 18597

insider transactions, inflated customer counts, reliance on capital infusions from insiders, and dependence on a single related-party customer, QuantX. According to plaintiffs, these matters were not properly disclosed to investors in Liquid’s offering documents and in subsequent public statements. Those alleged misstatements and omissions form the basis of plaintiffs’ Securities Act and Exchange Act claims. a. Relevant Parties and Participants Liquid is the now-bankrupt holding company for eight subsidiaries that provided software development services, risk management technology, and a trading platform to customers in the securities trading industry. (3AC ¶¶ 39- 40, 43, 48). It is incorporated under the laws of Delaware with its principal executive offices in Hoboken, New Jersey. (3AC ¶ 27). Liquid is not a party to this suit. (Id.). Shares of Liquid’s common stock began trading on the NASDAQ Global Market exchange (“NASDAQ”) under the ticker symbol “LIQD” on July 26, 2013. (Id.). As discussed in more detail below, NASDAQ suspended and eventually delisted Liquid’s common stock on October 28, 2015. (Id.). Liquid subsequently filed for bankruptcy on January 27, 2016, and on February 25, 2016, the U.S. Bankruptcy Court for the District of Delaware converted Liquid’s bankruptcy from a Chapter 11 reorganization to a Chapter 7 liquidation proceeding. (Id.). See In re Liquid Holdings Group, et al., No. 16- 10202 (KG) (Bankr. D. Del.); see also Giuliano v. Ferdinand, Adv. Pro. No. 17- 50662 (KG) (Bankr. D. Del. June 30, 2017) (the “bankruptcy proceedings”). Defendant Brian M. Storms (“Storms”) was the Chief Executive Officer (“CEO”) and a director of Liquid. (3AC ¶ 14). Between July 25, 2013 and December 23, 2014, Storms served as Chairman of Liquid’s Board of Directors (the “Board”). (Id.). He signed Liquid’s Registration Statement3 in connection

3 “Registration Statement” refers collectively to Liquid’s Registration Statement on Form S-1 filed with the Securities and Exchange Commission (“SEC”) on April 11, 2013, Amended Registration Statements on Form S-1/A filed with the SEC on May 13, 2013, May 31, 2013, June 19, 2013, July 5, 2013, July 9, 2013, July 24, 2013, and 3

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 4 of 84 PageID: 18598

with the Company’s initial public offering (“IPO”). (Id.). Effective March 1, 2015, Storms transitioned from the role of CEO to Vice Chairman, and eventually tendered his resignation on September 8, 2016. (Id.). Defendant Kenneth D. Shifrin (“Shifrin”) was Liquid’s Chief Financial Officer (“CFO”) until October 24, 2014, when he resigned. (3AC ¶ 15). He also signed Liquid’s Registration Statement. (Id.). Defendant Richard Schaeffer (“Schaeffer”) was Liquid’s Chairman of the Board until July 26, 2013. (3AC ¶ 16). Schaeffer remained a director until he resigned on December 23, 2013. (Id.). He signed or authorized the signing of Liquid’s Registration Statement. (Id.). Defendant Brian Ferdinand (“Ferdinand”) was a Liquid founder, director, Head of Corporate Strategy, and Vice Chairman of the Board until he tendered his resignation on April 18, 2014, after which he stayed on as a consultant. (3AC ¶¶ 17, 277). He also signed or authorized the signing of Liquid’s Registration Statement. (Id.). Defendant Sandler O’Neill & Partners, L.P. (“Sandler”) served as the sole underwriter of Liquid’s IPO. (3AC ¶ 18). The IPO was a firm-commitment offering, meaning that Sandler purchased all of the shares of common stock being offered by Liquid and then sold those Liquid shares to the public. (Id.). Non-party Peter R. Kent (“Kent”) was CFO of Liquid beginning October 27, 2014. (3AC ¶ 28). Effective March 1, 2015, Kent was appointed by the Board to succeed Storms as CEO. In addition to serving as CEO, Kent continued in his role as CFO. (Id.). Non-party Douglas Von Allmen was a pre-IPO investor and holder of more than 10% of Liquid’s common stock. (3AC ¶ 29). As of May 8, 2014, Von Allmen beneficially owned over 26% of Liquid’s common stock. (Id.). Von

July 25, 2013, and Prospectus on Form 424 filed with the SEC on July 26, 2013. (3AC ¶ 6). 4

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 5 of 84 PageID: 18599

Allmen also controlled D&L Partners, L.P., which originally formed Prime Partners, LLC—an entity acquired by Liquid. (Id.). Non-party Keller, who is the managing member of CMK Keller Holdings, LLC, helped found Liquid. (3AC ¶ 30). He worked for Liquid as a senior managing director until May 1, 2013, when his employment ended pursuant to a letter agreement. (Id.). Keller and Ferdinand owned Green Mountain Analytics, Liquid View, Liquid Futures, LLC, and Liquid Trading Institutional LLP before their acquisition by Liquid. (Id.). QuantX Management LLP (“QuantX”) is a non-party entity that was formed on February 18, 2008 and operated as a private trading firm. (3AC ¶¶ 2, 68). It acted as a fund of funds that concentrated its investments in the emerging funds market and functioned by allocating capital to certain investment managers, who would make investment decisions and be paid a percentage of the profits. (3AC ¶¶ 68, 69). Keller and Ferdinand were part owners of QuantX, and collectively, Keller, Ferdinand, and Schaeffer held an interest of over 46% in QuantX through various holding companies. (3AC ¶¶ 30, 69). QuantX was a major customer of Liquid’s technology platform, which QuantX also marketed to its own members, thereby providing Liquid with a source of additional customers. (3AC ¶ 70). Co-Lead Plaintiffs Michael Sanders and Sidney Berger purchased Liquid securities at allegedly inflated prices during the Class Period (i.e., July 26, 2013 through September 24, 2015). (3AC ¶¶ 1, 11, 12). Specifically, Sanders acquired Liquid stock through several purchases between June and December 2014. (DE 3-3). Berger acquired Liquid stock through several purchases between May and October 2014. (DE 7-2). Plaintiff Richard Karl Schmidt Trust (the “Trust Plaintiff”), who was added to the action by an amended complaint filed on July 27, 2017, (DE 152), initially purchased Liquid securities on July 26, 2013—the date of the IPO, when Liquid shares began trading on the NASDAQ. The Trust Plaintiff acquired

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 6 of 84 PageID: 18600

additional shares in November 2013, June 2014, and July 2014. (3AC ¶¶ 13, 27; DE 135-4). b. Procedural History The original complaint, filed on September 21, 2015, named only Robert De Vito as plaintiff. (DE 1). The first amended complaint, filed on July 22, 2016, dropped De Vito and added Michael Sanders and Sidney Berger as Co- Lead Plaintiffs. (DE 68). This iteration of the complaint did not yet include the Trust Plaintiff. Defendants filed motions to dismiss the first amended complaint. (DE 114 to 121). Rather than respond directly to the motion, the plaintiffs moved to file a second amended complaint, intended “to narrow[] the claims they have alleged and the Defendants they have named,” and to “include an additional named plaintiff to address standing arguments raised by Defendants with respect to the Securities Act claims.” (DE 134). On July 14, 2017, the Court granted plaintiffs’ motion to amend the complaint. (DE 144). The second amended complaint, filed on July 27, 2017, continued to name Berger and Sanders as Co-Lead Plaintiffs. For the first time, it added a third plaintiff, the Trust Plaintiff. Defendants moved to dismiss the second amended complaint. (DE 155- 60). In their response to those motions, the plaintiffs requested that the Court take “judicial notice” of the complaint filed in Liquid’s bankruptcy proceedings. (DE 164). This seemed to me to be a proposal that I select, adapt, and incorporate those bankruptcy court allegations as if they had been asserted by the plaintiffs in this action, a vague and unworkable proposal. I therefore denied the request, but allowed the plaintiffs to file a motion for leave to again amend the complaint to include whatever allegations from the bankruptcy proceedings that they wished to assert. (DE 191, 192, 201). Thereafter, on May 11, 2018, the plaintiffs filed their third amended complaint. The defendants then filed the motions to dismiss the third amended complaint that are the subject of this opinion. (DE 206, 207, 209 – 211).

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 7 of 84 PageID: 18601

c. Substantive Factual Allegations i. Defendants Created Liquid as a Means to Access the Public Equity Markets Liquid was created to acquire and own a group of companies for the purpose of pursuing an IPO. (3AC ¶ 39). Of the eight subsidiaries that Liquid acquired,4 the most significant are these three: Green Mountain Analytics, LLC (“GMA”), Liquid Partners, LLC (“Liquid Partners”), and Fundsolve Limited (“Fundsolve”). (3AC ¶ 41). GMA, incorporated in April 2002, furnished the base of Liquid’s trading technology. (3AC ¶ 42). It operated as a software development company that provided a trading platform and consulting services to the securities trading industry. (3AC ¶ 43). Ferdinand and Keller initially acquired their equity positions in GMA in 2008 and together acquired a majority interest in 2011. (3AC ¶ 42). GMA derived most of its revenue from related parties. (3AC ¶ 43). As of December 31, 2011, GMA had cash of $4,431 and an accumulated deficit of $3,611,603; as of August 27, 2012, it had cash of $84,717. (3AC ¶ 44). As noted in Liquid’s Registration Statement, GMA’s cash position raised substantial doubt about its ability to continue as a going concern. GMA believed its ability to continue operations would depend upon its raising capital through an acquisition. (3AC ¶ 44). Liquid acquired GMA on August 27, 2012, pursuant to a contribution and exchange agreement entered into with the members of GMA. Those members included entities controlled by Ferdinand and Keller. (3AC ¶ 45). As consideration for the acquisition, Liquid issued GMA approximately 2 million shares of Liquid common stock (including around 650,000 shares apiece to entities controlled by Ferdinand and Keller). That amounted to roughly 11.75% of Liquid’s stock. (Id.). The approximate aggregate value of the interests

4 For a detailed chart of the eight subsidiaries, including the previous owners and amounts paid for each company, see 3AC ¶¶ 39, 40. 7

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 8 of 84 PageID: 18602

received by the members of GMA, based on estimates generated by Liquid management, was just shy of $20 million (including around $6 million apiece to Ferdinand and Keller). (Id.). Liquid also acquired Liquid Partners. Liquid Partners was originally formed on May 11, 2010 by Joseph Gamberale and D&L Partners (an entity controlled by Von Allmen). (3AC ¶ 46). In 2011, it was acquired by Ferdinand, at which time its revenue was $60,000, its cash was $8,668, and its net loss was $4,551,231. (3AC ¶¶ 46, 47). Liquid Partners principally financed its operations through related-party transactions. Like GMA, Liquid Partners believed that its ability to continue operations would depend upon its raising capital through an acquisition. (Id.). On May 11, 2012, Liquid acquired Liquid Partners in exchange for Liquid common stock valued at around $10 million. (Id.). The valuation of the acquisition was based in large part upon Liquid Partners’ “goodwill,” which was valued at $8,580,157, along with customer relationships and a non-compete agreement that was additionally valued at $1,993,000. (Id.). Liquid’s third largest acquisition was Fundsolve, a United Kingdom risk management technology company that was partially owned by a Liquid director. (3AC ¶ 48). As of 2012, Fundsolve had cash of £1,368, revenue of £60,359, and net income of £25,075. (Id.). On April 23, 2012, Liquid acquired Fundsolve in exchange for $1,690,000 worth of Liquid common stock. (Id.). These three acquired companies were struggling. Yet Liquid paid significant consideration to acquire them, combine them to create Liquid, take the company public, and enrich Liquid insiders. (3AC ¶ 49). To justify the high prices paid for these entities, they were assigned vast amounts of goodwill and intangible assets that were, as alleged, not realistic in relation to actual revenue. (Id.). At the time of Liquid’s IPO, Liquid’s balance sheet showed almost $50 million in total assets. (Id.). About $40 million of that total consisted of $21.1 million in goodwill and $18.7 million in other intangible items, all generated from the acquisitions. (Id.). This inflated balance sheet allegedly

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 9 of 84 PageID: 18603

allowed defendants to take Liquid public at an inordinately high price and “profit wildly in the process, all to the detriment of Liquid’s shareholders.” (Id.). Plaintiffs cite emails from Liquid managers that indicate an awareness of Liquid’s questionable IPO valuation. In one December 5, 2013 email communication, Storms wrote that Liquid “went public at a crazy valuation relative to any real multiple of revenue . . . .” (3AC ¶ 56). Storms also wrote the following about the valuation of the IPO: [D]espite repeated efforts on my part and Sandler O’Neil[l], [Ferdinand] and Rich [Schaeffer] were determined that Liquid’s valuation was at or above $200 million despite the fact that there was less then [sic] $2 million in revenue, all from related parties.

(Id.). Storms also wrote in an internal email that the IPO was “hyper inflated” because of Ferdinand’s “inflated private sales of stock” and the fact that Ferdinand and Schaeffer “took about $5 to $6 million out in the run up to the IPO.” (Id.). ii. Pre-IPO Stock Transfer Agreement with Von Allmen Just prior to Liquid’s IPO, Ferdinand, Keller, and Von Allmen entered into an agreement to transfer additional shares of Liquid common stock to Von Allmen at a later date, at no additional cost. (3AC ¶¶ 50 – 51). Specifically, Keller and Ferdinand agreed to transfer an extra 732,292 shares of Liquid common stock to an entity controlled by Von Allmen, for no cash consideration, once they were no longer subject to lock-up agreements signed in connection with Liquid’s IPO. (“the Von Allmen Stock Transfer Agreement”) (Id.). Von Allmen initially purchased 1,722,100 shares of Liquid common stock through the IPO at $9 per share, which resulted in a total cost to Von Allmen of $15,498,900 before expenses. (3AC ¶ 52). However, because of the pre-IPO Von Allmen Stock Transfer Agreement, whereby Von Allmen would receive an additional 732,292 shares for no consideration, he in effect received a total of 2,454,392 shares (1,722,100 plus 732,292) for an average price of $6.31 ($15,498,900 divided by 2,454,392 shares)—not the $9 per share disclosed to the public as the IPO price. (Id.). 9

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 10 of 84 PageID: 18604

Liquid did not disclose this pre-IPO Von Allmen Stock Transfer Agreement in its Registration Statement. (3AC ¶ 53). This omission, say the plaintiffs, was significant because it meant that Von Allmen would be receiving, at no cost, a substantial number of shares in addition to the ones that he paid for publicly in a transaction that was not reflected in the IPO price. (Id.). This amounted to a false public representation that the Liquid stock was valued at $9 per share, when internally it was valued at only $6.31. (3AC ¶ 52). The complaint alleges that without this pre-IPO Stock Transfer Agreement sweetener, Von Allmen would not have purchased his IPO shares at the $9 going rate, and indeed, the IPO would not have occurred at all. (3AC ¶ 53). Plaintiffs also point to internal Liquid emails, sent by and between Liquid’s insiders and related parties, that bespeak an awareness that the Von Allmen Stock Transfer Agreement should have been disclosed to the public prior to the IPO. (3AC ¶¶ 54 – 56). In one such email chain, Von Allmen inquired about whether the stock transfer agreement should be disclosed, acknowledging that it “reduc[ed] [his] average cost per share.” (Id.). An attorney working for Von Allmen told Ferdinand that he believed the stock transfer agreement did indeed need to be included in filings with the SEC. Ferdinand responded that “[t]hey cannot be included.” This time copying Storms, Ferdinand wrote again that “[t]hese are private agreements between partners and have nothing to do with the company.” (Id.). Despite contrary advice from counsel, Ferdinand and Storms prevented Liquid from disclosing the Von Allmen Stock Transfer Agreement to the public. (Id.). iii. Loans Between Insiders for Little Consideration In May 2013, shortly after joining Liquid, Storms borrowed $5 million from one of Keller’s entities, which Storms used to purchase Liquid stock (hereinafter, the “Keller/Storms Loan”). (3AC ¶ 57). Liquid’s S-1 Registration Statement characterized this loan as a stock sale, falsely in plaintiff’s view, because the consideration was a loan. (Id.).

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 11 of 84 PageID: 18605

The following year, Storms borrowed $1.1 million from Ferdinand so that he could pay the taxes he owed on the restricted stock units he received in connection with his employment at Liquid. (3AC ¶ 58). Storms also borrowed $200,000 from Von Allmen to purchase Liquid shares in the open market during Liquid’s secondary offering. (3AC ¶ 59). In June 2014, Ferdinand sought repayment of the $1.1 million loan; Storms was unable to pay. (3AC ¶ 60). Storms also sought forbearance on the $5 million Storms/Keller loan. On October 2, 2014, Storms wrote to Keller on that subject, noting that “I am purposely using my personal email for this discussion.” (3AC ¶ 62). He recounted the history of his dealings with Keller and noted that in addition to borrowing money from Keller to purchase 766,000 Liquid shares in the IPO, he “also purchased stock from Rich [Schaeffer] and Brian [Ferdinand] at equally high valuations. In addition, the [Restricted Stock Units] [Storms] received as CEO were calculated at the market valuation at the time of [Liquid’s] IPO and subsequently created a significant tax burden [due] to the phantom income generated.” (Id.). Storms then proposed the idea of restructuring the $5 million loan based on Liquid’s secondary offering price of $1.25 per share, which yielded a total of $957,500 ($1.25 times 766,000 shares). (Id.). Keller and Storms eventually agreed to restructure the loan by reducing the balance from $5 million to $1.25 million and accept a lump-sum payment of that amount. (3AC ¶ 63). iv. Improper Revenue Recognition from QuantX QuantX was Liquid’s main revenue source. (3AC ¶¶ 70, 73). For the period of April 24, 2012 (the date Liquid commenced operations) through December 31, 2012, QuantX accounted for 75% of Liquid’s software licensing revenues, and 76% for the period of January 1, 2013 through March 31, 2013. (3AC ¶ 71). QuantX was a fund of funds, which enabled it to market Liquid’s technology to QuantX’s own members, thereby providing Liquid with a source of additional customers. (3AC ¶ 70). However, as Liquid stated in its

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 12 of 84 PageID: 18606

Registration Statement, Liquid considered QuantX to be “a single customer.” (3AC ¶¶ 70, 146). In its Registration Statement, Liquid identified “number of customers” as a “Key Metric” that Liquid used to evaluate its business, measure its performance, identify trends affecting its business, and make strategic decisions. It states, for example, that “[w]e believe that our ability to expand our client base is an indicator of our market penetrations and the growth of our business as we continue to invest in our direct sales and marketing teams.” (3AC ¶ 146). As of December 31, 2012, March 31, 2013, and June 1, 2013, the Registration Statement indicated that Liquid had 20, 25, and 23 customers. (Id.). Plaintiffs allege that Liquid inaccurately reported its number of customers in the Registration Statement by counting QuantX’s sub-funds as separate customers while deceptively also claiming that it considered QuantX to be a single customer. (3AC ¶ 146). Had Liquid not counted QuantX’s sub- funds as separate customers, the number of customers listed on Liquid’s Registration Statement would have been significantly lower. (Id.). v. QuantX’s Financial Difficulties and Reliance on Funding from Von Allmen QuantX struggled with cash flows and was continually forced to borrow funds from Liquid and Von Allmen, facts of which the public were not aware. (3AC ¶ 72). In June 2012, Liquid loaned $5 million to QuantX contingent upon QuantX using Liquid’s products, which effectively resulted in Liquid using its own money to repay itself. (Id.). There were four additional transactions in 2013 where Von Allmen loaned or otherwise provided a total of $17.5 million to QuantX. (3AC ¶ 73). In June 2014, Von Allmen loaned QuantX an additional $2.2. million. (Id.). Defendants knew about QuantX’s liquidity problems because QuantX was owned in large part by Ferdinand, and also in part by Schaeffer. (3AC ¶¶ 69, 74). Ferdinand often requested money from Von Allmen by emails copied to Storms. (3AC ¶ 74). Furthermore, QuantX was routinely late in paying Liquid,

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 13 of 84 PageID: 18607

and senior Liquid officials were aware that QuantX was struggling to make its payments. (3AC ¶¶ 74 – 87). Plaintiffs allege that Liquid’s concealment of these facts about the QuantX relationship materially influenced investors’ decisions to purchase Liquid stock. The perceived financial viability of Liquid’s main customer led investors to believe that Liquid’s revenue was more stable than it truly was. (3AC ¶¶ 151 – 157). On May 15, 2014, Liquid completed its secondary public offering by selling 32 million shares of Liquid stock at $1.25 per share. (3AC ¶ 88). This secondary offering represented a 45% discount to the then-current market price of $2.30 per share. (Id.). Liquid’s financial difficulties persisted, and both QuantX and Liquid continued to rely on Von Allmen’s money “to sustain the fiction” of financial soundness. (3AC ¶¶ 89 – 91, 94 – 97). On June 16, 2014, Ferdinand emailed Von Allmen, copying Storms, asking for a $2.2 million bridge loan for QuantX, which was needed by the end of the month. (3AC ¶ 91). Von Allmen agreed and provided the $2.2 million bridge loan to QuantX. The majority of that amount was quickly paid over to Liquid on June 30, 2014. (3AC ¶¶ 92, 93). vi. Liquid’s Financial Difficulties Are Revealed Peter Kent, hired as Liquid’s CFO on October 27, 2014, began his tenure by investigating the financial issues confronting the company. (3AC ¶ 98). On November 2, 2014, Kent emailed Storms his findings on a number of topics, including Liquid’s relationship with QuantX, which Kent described as “the biggest surprise . . . they are a major problem. My impression over the first week is that they are in serious trouble. They owe us a lot of money. The Ferdinand relationship is quite problematic.” (Id.). With the newly-hired Kent driving for an honest assessment of the situation, on November 6, 2014, Storms emailed Kent about the possibility of “needing more disclosure concerning [QuantX]’s delayed payments.” (3AC ¶ 99). Kent responded by suggesting a meeting to discuss “[p]otential [e]arnings

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 14 of 84 PageID: 18608

changes for QIII [the third quarter],” “the [r]equire[ment] [for] subsequent public disclosures,” and “[d]elay in filing of 10-Q,” among other things. (Id.). The following week, QuantX offered to pay half of the $250,000 it owed to Liquid by using its corporate credit card, to preserve “much needed working capital this month.” (3AC ¶ 100). Kent agreed, so long as QuantX paid the credit card fee, and emailed Storms separately, “Ok, so they are truly short of money—you can’t make this stuff up.” (3AC ¶ 101). As the relationship between QuantX and Liquid continued to deteriorate, Storms and Kent prepared a spreadsheet in which they attempted to quantify the amount of money that Ferdinand had cost Liquid over the years. (3AC ¶ 103). Storms emailed Kent that they needed “to include how much money [Ferdinand] took out pre IPO through his inflated sales of stock,” which were “largely the basis for the hyper inflated valuation used for the IPO.” (3AC ¶ 104). Storms wrote that “[Ferdinand] and Rich Schaeffer took about $5 to $6 million out in the run up to the IPO. Many of our directors as well as dozens of friends including [Von Allmen] bought at the high pre IPO level. Not much has ever been said about that.” (Id.). Kent attempted on several occasions to reach out to Ferdinand to understand QuantX’s position on where the parties’ relationship was headed. Ferdinand was largely evasive. (3AC ¶¶ 105, 106). Liquid prepared to go on the offensive against QuantX, and in mid-December, 2014, Liquid had its lawyers prepare demand letters. (3AC ¶ 108). Those demand letters stated that (a) Liquid required QuantX and its affiliates to pay the more than $1.7 million it owed Liquid under technology services agreements; (b) the services Liquid provided would be suspended on January 8, 2015; (c) Liquid required payment on a term note due from QuantX and a separate one from Ferdinand Capital; and (d) Liquid was terminating Ferdinand’s Consulting Agreement. (Id.). QuantX ceased operating on December 31, 2014. (3AC ¶ 269). Liquid also filed an 8-K current report with the SEC announcing the suspension of services to QuantX and the termination of the Consulting

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 15 of 84 PageID: 18609

Agreement with Ferdinand. (3AC ¶ 109). This 8-K disclosed that as of September 30, 2014, QuantX and the managers to whom QuantX allocated investment capital accounted for 95% of Liquid’s software services revenue, and that, independent of the QuantX relationship, Liquid had only 25 customers, a mere seven of whom were billed in the then-current quarter. (Id.). This disclosure of the failed relationship with QuantX—the very customer on which Liquid’s forecasts and business prospects had been built—as well as the paltry extent of Liquid’s independent customer relationships, delivered a death blow. (3AC ¶ 110). Liquid attempted to restructure itself as an entity independent of QuantX, but those efforts failed. (3AC ¶ 111). In February 2015, lawyers for Von Allmen—who, according to Storms, had invested almost $60 million in Liquid—confronted Liquid with allegations of misrepresentations that had allegedly been made to him. (3AC ¶ 112). Based on those allegations, the Liquid Board’s Audit Committee commenced an internal investigation using an outside law firm. (3AC ¶ 113). At around the same time, Liquid’s management decided to force Storms out of the CEO role and replace him with Kent. (3AC ¶¶ 117, 119, 127). Storms stayed on as a director, however, for another seven months. (Id.). In March 2015, Liquid filed a notification of late filing on Form NT 10-Q. This SEC filing indicated that Liquid was expecting to report a net loss of approximately $48.8 million for the year ended December 31, 2014, “due primarily to non-cash charges recorded in 2014 related to the impairment of [Liquid’s] goodwill and bad debts on uncollectible receivables offset, in part, by a decrease in share-based compensation.” (3AC ¶ 245). As justification for the delayed filing, the Form NT 10-Q, stated that the Audit Committee’s investigation was still pending. According to plaintiffs, this corrective disclosure only partially revealed the truth about Liquid’s questionable status as a going concern, details about the Audit Committee’s investigation, and Liquid’s losses due to the impairment of the supposed goodwill of the companies it acquired prior to its IPO. (Id.).

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 16 of 84 PageID: 18610

In May 2015, after reviewing the investigative report prepared by the outside law firm, Liquid’s external auditors demanded that the Audit Committee conduct a fresh investigation. For that purpose, they demanded the engagement of an independent law firm, because the first law firm had represented Liquid since before its IPO. (3AC ¶¶ 113, 121). The Audit Committee acquiesced and hired a different law firm that had no prior ties to Liquid. (Id.). That same month, Liquid received a notice that it was non-compliant with the NASDAQ listing requirements because of its inability to timely file reports with the SEC. (3AC ¶ 125). On August 17, 2015, Liquid notified the SEC that it was unable to file a quarterly report for the period ending June 30, 2015, because the Audit Committee’s investigation was ongoing. (3AC ¶ 126). On September 10, 2015, two days after Storms resigned from the Board, the Audit Committee and the Board concluded that Liquid’s financial statements for all periods ending September 30, 2014 could not be relied upon. They would have to be restated because of accounting errors involving premature recognition of revenue from QuantX and other customers before collectability was reasonably assured. (3AC ¶ 128). They also concluded that Liquid management knew about the significant uncertainty of collecting from QuantX and QuantX-related customers no later than June 2014. (Id.). On September 15, 2015, Grant Thorton resigned as Liquid’s auditor and refused to certify Liquid’s financial statements for the periods ending September 30, 2014, December 31, 2014, and March 31, 2015. (3AC ¶ 129). vii. The Audit Committee Investigation Results On September 24, 2015, Liquid’s Audit Committee released the results of the outside law firm’s investigation (the “Investigation”). (3AC ¶ 130). Based on the Investigation, the Audit Committee found that Liquid had made significant misrepresentations in its Registration Statement and throughout the Class Period. (Id.).

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 17 of 84 PageID: 18611

First, the Audit Committee stated that Liquid failed to disclose to investors that Ferdinand, Keller, and Von Allmen entered into the Von Allmen Stock Transfer Agreement prior to Liquid’s IPO. (3AC ¶ 133). See Section I.c.ii, supra. Second, the Investigation concluded that a related-party loan between Storms and one of Keller’s entities for $5 million was misrepresented by Liquid as a stock sale. (3AC ¶ 133). See Subsection I.c.iii, supra. Third, the Investigation revealed four other non-disclosed loans taken by Storms from related parties throughout the Class Period. (See 3AC ¶ 134). Fourth, in addition to the related-party transactions, the Investigation also uncovered that during June 2014 certain members of Liquid management became aware that QuantX may have been experiencing significant liquidity issues, which created uncertainty as to QuantX’s ability to meet its financial obligations to Liquid. (3AC ¶ 135). Based on the findings from the Investigation and recommendations from Liquid’s executive officers, on September 10, 2015 the Audit Committee and Liquid Board concluded that certain previously issued unaudited condensed consolidated financial statements should no longer be relied upon and needed to be restated due to accounting errors.5 (3AC ¶ 136). The accounting errors involved the premature recognition of revenue from QuantX and from Liquid’s other customers that had received allocations of capital from QuantX during the quarter ended September 30, 2014, before collectability was reasonably assured. (Id.).

d. Plaintiffs’ Legal Claims i. The Securities Act Claims Counts I and II of the Third Amended Complaint allege violations of Sections 11 and 15 of the Securities Act based on purported material

5 Those financial statements were the ones for the three and nine months ended September 30, 2014. (3AC ¶ 136). 17

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 18 of 84 PageID: 18612

misstatements and/or omissions within Liquid’s Registration Statement.6 (3AC ¶¶ 137 – 139). These alleged untrue statements and omissions broadly involve four subjects: (1) The Keller/Storms Loan (3AC ¶¶ 140 – 141); (2) The Von Allmen Stock Transfer Agreement (3AC ¶¶ 142 – 145); (3) Representations concerning Liquid’s customer base, allegedly deceptive because QuantX’s sub-funds were counted as individual customers while the disclosure documents concurrently represented that Liquid was only counting QuantX as one customer (“the Counting QuantX Issue”) (3AC ¶¶ 146 – 150); and (4) The failure to disclose details concerning Von Allmen’s financial support to Liquid in the form of cash transfers through QuantX (i.e., Von Allmen transferring money to QuantX, which would immediately be transferred back to Liquid to be recognized as revenue) (“the Von Allmen Financial Support Issue”). Plaintiffs allege that with the proper due diligence, the defendants would have been able to discover these material misstatements or omissions and either prevented them from occurring or corrected the Registration Statement so as not to omit material facts. (3AC ¶ 158). ii. The Exchange Act Claims Counts III and IV allege violations of Sections 10(b) and Rule 10b-5 promulgated thereunder; Count V asserts controlling person liability under Section 20(a).7 Plaintiffs allege that these defendants are liable for intentionally

6 Plaintiffs bring the Section 11 claim against all five defendants. (3AC ¶ 19). Plaintiffs bring the Section 15 claim only against defendants Storms, Shifrin, Schaeffer, and Ferdinand. (3AC ¶ 20). The Section 15 claim is predicated upon a violation of Section 11. (3AC ¶¶ 170 – 177). 7 Plaintiffs bring claims for alleged violations of Section 10(b) and SEC Rule 10b- 5(b) (Count III), and Section 20(a) (Count V) only against defendants Storms, Shifrin, and Ferdinand (the “Section 10(b) Defendants” and the “Section 20(a) Defendants”). (3AC ¶¶ 21, 22, 331 – 340, 350 – 355). Plaintiffs bring a claim for alleged violation of 18

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 19 of 84 PageID: 18613

(or with deliberate recklessness) issuing false and misleading statements for the purpose of inducing investors to purchase Liquid stock and/or perpetrating a fraudulent scheme upon plaintiffs and other members of the putative class. (3AC ¶ 178). 1. Alleged misstatements and omissions Plaintiffs point to several public pronouncements that they allege include materially false and misleading statements. (See 3AC ¶¶ 179 – 231). Many of these involve the same subject matter purportedly misstated in Liquid’s Registration Statement, discussed supra. The alleged misstatements for the Exchange Act claims come from specific Liquid press releases, earnings conference calls, quarterly and annual reports filed with the SEC, the prospectus associated with its secondary offering, and its Registration Statement. (Id.). These alleged misstatements and omissions involve the following subjects: (1) The Keller/Storms Loan (3AC ¶¶ 180 – 182, 187, 188, 192 – 194, 201, 202, 209, 220, 231); (2) The Von Allmen Stock Transfer Agreement (3AC ¶¶ 180 – 182, 187, 188, 192 – 194, 201, 202, 209, 220, 231); (3) The Counting QuantX Issue, and the fact that Liquid never exceeded the 25 customers announced in its Registration Statement yet represented otherwise (3AC ¶¶ 184 – 186, 195, 203, 205 – 208, 224 – 230); (4) The Von Allmen Financial Support Issue (3AC ¶¶ 180, 183, 189 – 191, 196, 200, 204); (5) Omitted loans between Liquid insiders (3AC ¶¶ 201, 202, 209, 220, 231); and

Section 10(b) and SEC Rules 10b-5(a) and (c) (Count IV) only against Ferdinand (the “Scheme Defendant”). (3AC ¶¶ 23, 342 – 349). 19

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 20 of 84 PageID: 18614

(6) Liquid misstating its anticipated revenue and its “annual contract value” (hereinafter, “ACV”), a non-GAAP measure that represents the estimated contract value of subscription payments payable to the company during the following twelve months based on subscription contracts existing at the end of the quarter for which ACV is reported. This includes contracts from which the company was not generating revenue because the product had not yet been deployed to the customer, and also includes the pro-rated value of the subscription contract term if that term had fewer than twelve months remaining (3AC ¶¶ 197 – 199, 208, 211 – 219, 221 – 223, 225 – 229). The claims involving misstated ACV require some further explication. Plaintiffs allege that in its May 13, 2014 Form 8-K filed with the SEC announcing Liquid’s financial results for the first quarter ended March 31, 2014, Liquid falsely stated that ACV rose 16% quarter over quarter to $5.2 million. (3AC ¶ 197). Plaintiffs claim that this ACV representation was materially misleading because, as shown by certain emails from defendants, Liquid knew as of February 2014 that QuantX was unable to pay Liquid the money that QuantX owed to it. (3AC ¶ 199). Additionally, plaintiffs allege that the pertinent defendants misrepresented ACV in Liquid’s July 31, 2014 press release that disclosed its second quarter earnings results for 2014, which was attached as an exhibit to its Form 8-K filed with the SEC. (3AC ¶ 210). Specifically, the press release stated that ACV “totaled $5.45 million at the end of the second quarter of 2014, an increase of 4.2% from $5.23 million at the end of the first quarter of 2014 and 219% from $1.71 million year-over-year.” (3AC ¶ 211). Plaintiffs claim that this statement is materially false or misleading because at least by June 2014, members of Liquid’s management knew that QuantX was experiencing significant liquidity issues. That meant that QuantX would be unable to pay Liquid past due amounts for products and services rendered. (3AC ¶ 212). In particular, QuantX’s insolvency precluded QuantX

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 21 of 84 PageID: 18615

from paying in full Liquid’s outstanding bills of approximately $1.2 million as of June 30, 2014. (Id.). Nonetheless, Liquid continued to include QuantX as a source of future revenue when forecasting its ACV at $5.45 million in addition to touting Liquid’s increase in software services revenue. (Id.; see also 3AC ¶¶ 216 – 219). Consequently, plaintiffs allege that by including QuantX in its revenue projections and failing to disclose to investors that QuantX was in reality unable to pay, Liquid misrepresented its financial and operational health to investors. (Id.). In addition to alleged misstatements regarding ACV, plaintiffs also describe how “the truth” of Liquid’s misconduct trickled out through partial disclosures between December 23, 2014 and September 24, 2015. (3AC ¶¶ 232 – 265). As to at least some, plaintiffs allege that certain defendants continued to issue false assurances while only partially disclosing the truth about Liquid’s financial difficulties and prior misstatements. (Id.). For example, on December 23, 2014, Liquid filed a current report with the SEC on Form 8-K announcing that it was suspending services to QuantX and terminating the consulting agreement with Ferdinand. (3AC ¶ 232). This corrective disclosure described QuantX’s inability to meet its financial obligations, that QuantX was winding up its operations, that QuantX would no longer be contributing to Liquid’s revenue, and the true then-current number of Liquid customers (“Liquid currently provides services to 25 customers independent of the QuantX relationship, of which 7 were billed in the current quarter and another 18 were in various stages of onboarding.”). (3AC ¶¶ 233 – 234).8 Plaintiffs assert that this corrective disclosure, and subsequent corrective disclosures,9 were materially misleading because the Section 10(b) Defendants

8 On this news, shares of Liquid stock declined from $0.74 at close on December 23, 2014, to $0.40 per share at close on December 24, 2014, a nearly 46% drop on unusually heavy volume. (3AC ¶ 235). 9 Plaintiffs make similar allegations about corrective disclosures being partially misleading in revealing some, but not all, of the truth about Liquid’s misconduct; 21

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 22 of 84 PageID: 18616

had known since June 24, 2014 that QuantX was experiencing significant liquidity issues and likely would be unable to pay the money it owed Liquid for past products and services rendered, and yet continued to limit its disclosures. (3AC ¶¶ 236, 243). The subsequent disclosures revealed that Liquid had to take additional losses due to the impairment of goodwill of the companies Liquid acquired prior to the IPO, that the Audit Committee was conducting an internal investigation into Liquid’s prior misconduct, and that QuantX was integral in making Liquid appear as if it had more customers and revenue than it actually did. (3AC ¶¶ 237 – 259). The September 16, 2015 Form 8-K that Liquid filed with the SEC disclosed that the internal investigation had uncovered the use of improper accounting practices involving Liquid’s revenue recognition, and that Liquid would be restating certain prior quarterly reports. (3AC ¶¶ 260 – 262). After correcting for prematurely recognized revenue from QuantX for the period ended September 30, 2014, Liquid now stated that its software service revenue for that quarter was actually $231,742 and not the $1,485,007 previously reported. (Id.). This corrective disclosure allegedly corroborated that Liquid had known about QuantX’s inability to pay Liquid during June 2014. (Id.). On September 25, 2015 Liquid filed another current report with the SEC on Form 8-K disclosing further results from the internal investigation. (3AC ¶¶ 263 – 265). This revealed the details about the Keller/Storms Loan, that the Von Allmen Stock Transfer Agreement was made prior to Liquid’s IPO, and other previously undisclosed loans that Storms received. (Id.). In response to this news, Liquid stock opened on September 24, 2015 at $0.09 per share of common stock and closed at $0.08, an 11% drop on unusually heavy trading volume. (Id.).

specifically, those made on January 8, 2015, February 24, 2015, March 31, 2015, May 18, 2015, May 22, 2015, and May 28, 2015, and August 17, 2015. (3AC ¶¶ 237 – 259). 22

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 23 of 84 PageID: 18617

2. Allegations of Scienter Plaintiffs further allege that the Section 10(b) Defendants acted with scienter in making the above-mentioned misrepresentations and omissions. (3AC ¶¶ 270 – 318). Specifically, plaintiffs claim that the Section 10(b) Defendants either intentionally or with reckless disregard made the purported misstatements for the purposes of (a) personal financial gain; (b) inflating market demand for Liquid shares in the IPO and the secondary offering; (c) securing additional financing to continue as a going concern; and (d) raising capital to fund additional research and development efforts to modify Liquid’s product. (Id.). Plaintiffs suggest several factual grounds to support these bases, which are discussed in detail below. See Section IV.B.ii, infra. 3. Loss Causation and Economic Loss Plaintiffs assert that the Section 10(b) Defendants materially misled the investing public by engaging in a scheme to deceive the market and a course of conduct that artificially inflated the price of Liquid’s securities. (3AC ¶¶ 319 – 323). As the risks surrounding their conduct materialized during the Class Period, Liquid’s share price sank. (Id.). When their prior misrepresentations became apparent to the market and the risks surrounding their conduct materialized, the artificially inflated price of Liquid’s stock deflated over time. (Id.). Plaintiffs allege that at all relevant times the market for Liquid common stock was efficient since it promptly digested the current information regarding Liquid from all publicly available sources. (3AC ¶¶ 324 – 326). Thus, plaintiffs claim that all purchasers of Liquid’s common stock during the Class Period were injured by purchasing Liquid’s common stock at artificially inflated prices. Alternatively, plaintiffs claim that Liquid’s common stock should not have been introduced into the market at all, because at the time of the IPO Liquid shares were objectively unmarketable. (3AC ¶ 327). Contrary to the statements in the Registration Statement, Liquid’s technology was not profitable and had only one main customer. (Id.).

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 24 of 84 PageID: 18618

II. LEGAL STANDARD Federal Rule of Civil Procedure 12(b)(6) provides for the dismissal of a complaint, in whole or in part, if it fails to state a claim upon which relief can be granted. The defendant, as the moving party, bears the burden of showing that no claim has been stated. Animal Science Products, Inc. v. China Minmetals Corp., 654 F.3d 462, 469 n. 9 (3d Cir. 2011). For the purposes of a motion to dismiss, the facts alleged in the complaint are accepted as true and all reasonable inferences are drawn in favor of the plaintiff. New Jersey Carpenters & the Trustees Thereof v. Tishman Constr. Corp. of New Jersey, 760 F.3d 297, 302 (3d Cir. 2014). Federal Rule of Civil Procedure 8(a) does not require that a complaint contain detailed factual allegations. Nevertheless, “a plaintiff’s obligation to provide the ‘grounds’ of his ‘entitlement to relief’ requires more than labels and conclusions, and a formulaic recitation of the elements of a cause of action will not do.” Bell Atl. Corp. v. Twombly, 550 U.S. 544, 555 (2007). Thus, the complaint’s factual allegations must be sufficient to raise a plaintiff’s right to relief above a speculative level, so that a claim is “plausible on its face.” Id. at 570; see also West Run Student Hous. Assocs., LLC v. Huntington Nat’l Bank, 712 F.3d 165, 169 (3d Cir. 2013). That facial-plausibility standard is met “when the plaintiff pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged.” Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009) (citing Twombly, 550 U.S. at 556). While “[t]he plausibility standard is not akin to a ‘probability requirement’ . . . it asks for more than a sheer possibility.” Iqbal, 556 U.S. at 678. Since the Exchange Act claims are covered by the Private Securities Litigation Reform Act (“PSLRA”), 109 Stat. 737, heightened pleading standards, beyond those of Rule 12(b)(6), apply. See In re Initial Pub. Offering Sec. Litig., 241 F. Supp. 2d 281, 337 (S.D.N.Y. 2003). In addition, Federal Rule of Civil Procedure 9(b) requires that “[i]n alleging fraud or mistake, a party must state with particularity the circumstances constituting fraud or mistake.” Moreover,

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 25 of 84 PageID: 18619

to allege a material misrepresentation, a plaintiff must “specify[ ] each allegedly misleading statement, why the statement was misleading, and, if an allegation is made on information or belief, all facts supporting that belief with particularity.” Institutional Inv’rs Grp. v. Avaya, Inc., 564 F.3d 242, 252-53 (3d Cir. 2009). Finally, to allege scienter, a plaintiff must “state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind.” Id. III. SECURITIES ACT CLAIMS Counts I and II of the third amended complaint allege claims under the Securities Act. Section 11 of the Securities Act, 15 U.S.C. § 77k, provides a cause of action to any person who buys a security issued pursuant to a materially false or misleading registration statement. Section 15 of the Securities Act, 15 U.S.C. § 77o, provides a cause of action against persons who have control over someone who, for purposes of this action, commits a Section 11 violation.10 A high-level overview of the defendants’ arguments is helpful at the outset. Defendants argue that the two original Co-Lead Plaintiffs Berger and Sanders lack standing to assert a claim under the Securities Act. The Trust Plaintiff, added by amendment, may possess standing; the Section 11 claims asserted by the Trust Plaintiff, however, are untimely under the Securities Act three-year statute of repose, and they cannot be saved by the doctrines of equitable tolling or relation back. Defendants also argue that the plaintiffs’ Section 11 claim is time-barred under the one-year statute of limitations. Threshold issues of standing and timeliness aside, Defendants argue that the plaintiffs have failed to sufficiently plead a Section 11 claim, contending that the alleged misstatements and omissions were either truthful, immaterial, or both. Finally, defendants argue that one cannot be liable derivatively under

10 Section 15 also creates liability for persons that have control over someone who violates 15 U.S.C. § 77l, but no underlying violation of § 77l is alleged. 25

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 26 of 84 PageID: 18620

Section 15 of the Securities Act where there is no primary liability under Section 11. I hold that Co-Lead Plaintiffs Berger and Sanders have not adequately alleged traceability and therefore lack statutory standing. The Section 11 and Section 15 claims of the Trust Plaintiff, added later by amendment, are barred by the three-year statute of repose,11 and the Trust Plaintiff’s claims were not equitably tolled by the filing of the earlier complaint. I also find that the Trust Plaintiff’s claims do not relate back under Fed. R. Civ. P. 15(c). Because I dismiss Count I and II, containing the Section 11 and Section 15 claims, on these bases, I do not reach defendants’ remaining Rule 12(b)(6) arguments as to the Securities Act claims. a. Standing: The Traceability Requirement Defendants’ Rule 12(b)(6) motion challenges the sufficiency of Counts I and II on the basis that the Co-Lead Plaintiffs, Berger and Sanders, do not have statutory standing.12 These plaintiffs, having purchased their shares in the

11 Since the Section 11 claim is time-barred under the statute of repose, so too is the Section 15 claim of control-person liability. In re IndyMac Mortg.-Backed Sec. Litig., 793 F. Supp. 2d 637, 642 (S.D.N.Y. 2011), aff’d in part sub nom. Police & Fire Ret. Sys. of City of Detroit v. IndyMac MBS, Inc., 721 F.3d 95 (2d Cir. 2013) (“Section 15 imposes vicarious liability for persons controlling violators of Sections 11 and 12. Claims under [Section 15] therefore are subject to the statute of repose governing the primary violation.”). 12 “Unlike Article III standing, statutory standing is not jurisdictional.” Leyse v. Bank of Am. Nat’l Ass’n, 804 F.3d 316, 320 (3d Cir. 2015) (citing Lexmark Int’l, Inc. v. Static Control Components, Inc., 134 S. Ct. 1377, 1388, 188 L. Ed. 2d 392 & n.4 (2014)). Thus, dismissal for lack of statutory standing is properly addressed as a matter of pleading under Rule 12(b)(6), rather than under Rule 12(b)(1). See id. Article III standing concerns would arise if, for example, the plaintiffs asserted the rights of someone else who lost money as a result of misrepresentations in connection with the 2013 IPO. But they do not assert such a third-party claim, and do not purport to forgo allegations of injury in fact to themselves. What plaintiffs allege is that that their shares are traceable to the IPO and that they lost money as a result. The real question is whether those allegations are adequately pled under Twombly and Iqbal. See infra. 26

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 27 of 84 PageID: 18621

aftermarket, have not traced their shares to the 2013 IPO that was allegedly infected by misstatements, as opposed to the later, 2014 stock issues. The named class representatives’ inability to establish standing and a viable cause of action stand at the threshold as a potential bar to further proceedings, including class certification. Generally, a “plaintiff may not maintain an action on behalf of a class against a specific defendant if the plaintiff is unable to assert an individual cause of action against that defendant.” Haas v. Pittsburgh Nat’l Bank, 526 F.2d 1083, 1086 n.18 (3d Cir. 1975). When a question of standing is raised in a putative class action, “named plaintiffs who represent a class must allege and show that they personally have been injured, not that injury has been suffered by other, unidentified members of the class to which they belong and which they purport to represent.” Lewis v. Casey, 518 U.S. 343, 357, 116 S. Ct. 2174 (1996) (quoting Simon v. E. Ky. Welfare Rights Org., 426 U.S. 26, 40 n.20, 96 S. Ct. 1917 (1976) (internal quotations omitted)). “A plaintiff who raises multiple causes of action ‘must demonstrate standing for each claim he seeks to press.’” In re Schering Plough Corp. Intron/Temodar Consumer Class Action, 678 F.3d 235, 245 (3d Cir. 2012) (quoting DaimlerChrysler Corp. v. Cuno, 547 U.S. 332, 352, 126 S. Ct. 1854 (2006)). It is axiomatic, then, that to represent the absent class members, the named plaintiffs must—among them—possess statutory claims in their own right.13 They cannot sue as named plaintiffs merely on the theory there is someone in the putative class who possesses statutory standing to assert a Section 11 claim. Ong v. Sears, Roebuck & Co., 388 F. Supp. 2d 871, 891-92 (N.D. Ill. 2004) (“The fact that they have filed a class action lawsuit that includes putative class members who did purchase the relevant securities does

13 However, every “party named ‘lead plaintiff’ under the PSLRA need not have standing to sue on each individual claim asserted in the complaint so long as other named plaintiffs have standing to pursue the claims at issue.” In re Flag Telecom Holdings, Ltd. Sec. Litig., 308 F. Supp. 2d 249, 257 (S.D.N.Y. 2004). 27

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 28 of 84 PageID: 18622

not confer the necessary standing in this case because none of those putative class members is a named plaintiff.”); In re Flonase Antitrust Litig., 610 F. Supp. 2d 409, 413 (E.D. Pa. 2009) (“Unless at least one named Plaintiff can state a claim for relief under each count Plaintiffs do not have standing to bring claims as part of a putative class action.”). The factual foundation of the defendants’ argument is that there were two public offerings, but only the first is alleged to have involved false and misleading statements. Liquid went public on July 26, 2013 with an initial public offering of 3.175 million shares. (3AC ¶¶ 1, 346). However, Liquid also registered 1.67 million shares on April 1, 2014, and announced a secondary offering of 32 million shares on May 15, 2014. (3AC ¶¶ 27, 88). The two offerings were made pursuant to separate registration statements and prospectuses. (Id.). Plaintiffs allege that the registration statement for the first, 2013 offering is infected by misleading statements, but do not allege any such claim in relation to the second, 2014 offering. (3AC ¶¶ 6, 137 – 168). Plaintiffs Berger and Sanders did not purchase their Liquid shares until after the secondary offering in 2014. (DE 3-3; DE 7-2). The issue, then, is whether Berger and Sanders have sufficiently pled that the shares they bought are directly traceable to the challenged 2013 offering, as opposed to the blameless 2014 offering. Unless their shares trace to the 2013 IPO, plaintiffs Berger and Sanders lack statutory standing to assert their Securities Act claims with respect to the 2013 IPO.14 That standing limitation is inherent in the statute’s definition of a cause of action. Section 11 imposes civil liability for the public offering of securities

14 In response to defendants’ motion to dismiss, plaintiffs stress the newly-added Trust Plaintiff’s standing. (Pl. Opp. at 23). Unlike plaintiffs Berger and Sanders, the Trust Plaintiff purchased shares on the same day as the initial 2013 public offering. Because the second, 2014 offering had not yet occurred, the Trust Plaintiff’s ability to trace those shares to the 2013 public offering can readily and plausibly be inferred. (3AC ¶ 13; DE 135-4). Defendants have not contested the Trust Plaintiff’s standing on the basis of traceability. The standing analysis in this section of the opinion is therefore confined to Berger and Sanders. 28

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 29 of 84 PageID: 18623

pursuant to a false registration statement, and permits “any person acquiring such security” to sue. 15 U.S.C. § 77k(a). Section 11 creates expansive liability, ensuring “virtually absolute” liability for corporate issuers based on even innocent material misstatements. Herman & Maclean v. Huddleston, 459 U.S. 375, 382, 103 S. Ct. 683, 687 (1983). Concomitantly, Section 11 restricts statutory standing to a “narrow class of persons consisting of those who purchase securities that are the direct subject of the prospectus and registration statement.” In re FleetBoston Fin. Corp. Secs. Litig., 253 F.R.D. 315, 347 (D.N.J. 2008). That “tracing requirement is a product of Congress’ decision to balance the low-burden substantive proof by high-burden standing requirement, and courts should not abrogate the congressional intent by expanding the ‘virtually absolute’ liability to claims of purchasers whose securities cannot be traced.” Id. (quoting Krim v. pcOrder.com, Inc., 402 F.3d 489, 495 (5th Cir. 2005)). Statutory standing under Section 11 is thus confined to purchasers who acquired securities issued “pursuant to” or “traceable to” the specific offering documents that are alleged to be false or misleading. In re Suprema Specialties, Inc. Sec. Litig., 438 F.3d 256, 274 n.7 (3d Cir. 2006) (quoting Shapiro v. UJB Fin. Corp., 964 F.2d 272, 286 (3d Cir. 1992)). When all of a company’s shares have been issued in a single offering under the same registration statement, there is only one place the shares could have come from, and tracing is generally easy to allege. In re Century Aluminum Co. Sec. Litig., 729 F.3d 1104, 1106 (9th Cir. 2013); see In re ARIAD Pharm. Sec. Litig., 842 F.3d 744, 755 (1st Cir. 2016). The issue of statutory standing may become more complicated, however, where “a company has issued shares under more than one registration statement.” Century, 729 F.3d at 1106. In such a case, “the plaintiff must prove that [its] shares were issued under the allegedly false or misleading registration statement, rather than some other registration statement.” Id.

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 30 of 84 PageID: 18624

At the pleading stage, the issue is whether the plaintiffs have adequately alleged that they purchased securities traceable to the challenged offering (here, the 2013 offering). The parties in this action disagree, however, as to the appropriate standard of pleading. The plaintiffs contend that general allegations of traceability, akin to notice pleading, are sufficient under the law of this Circuit. See Suprema, 438 F.3d at 274 (holding that “plaintiffs’ assertions of purchases ‘in’ and ‘traceable to’ the Suprema stock offerings were sufficient at the pleading stage.”). Defendants respond that Suprema is no longer good law; after Twombly (decided in 2007) and Iqbal (decided in 2009), more specific pleading is required. See Section II, supra (discussing Twombly/Iqbal standards of pleading). This particular pleading issue has not been revisited by the U.S. Court of Appeals for the Third Circuit post-Twombly and Iqbal. The Ninth Circuit, however, recently considered a situation in which a company’s shares from multiple offerings governed by different registration statements were concurrently trading in the aftermarket. In that context, the Court held, a complaint’s conclusory allegation that plaintiff’s shares were “traceable to” one particular misleading registration statement was not sufficient. See Century, 729 F.3d 1104. In Century, the plaintiffs had purchased shares in defendant’s company at the end of January 2009. They alleged that the shares they purchased were issued under a materially false and misleading prospectus supplement dated January 28, 2009. Id. at 1108. The defendant had issued that prospectus supplement in connection with a secondary offering of 24.5 million shares of the company’s stock. Id. Prior to the secondary offering, however, more than 49 million shares of the defendant’s common stock were already trading in the market. Id. The plaintiffs conceded that they bought their shares in the aftermarket. The Ninth Circuit held that the plaintiffs were required “to trace the chain of title for their shares back to the secondary offering, starting with

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 31 of 84 PageID: 18625

their own purchases and ending with someone who bought directly in the secondary offering.” Id. at 1106-07. There was a time, the court acknowledged, when a simple allegation that the purchased shares were “directly traceable to the Company’s Secondary Offering” would have sufficed. Id. at 1107. It recognized, however, that Twombly and Iqbal had generally moved the federal courts “away from a system of pure notice pleading,” and required that plaintiffs plead facts plausibly supporting a cause of action. See Section II, supra. “Traceability” allegations, like others, fall under the new Twombly/Iqbal regime. Thus the Ninth Circuit held that “[w]hen a company has issued shares in multiple offerings under more than one registration statement, . . . a greater level of factual specificity will be needed before a court can reasonably infer that shares purchased in the aftermarket are traceable to a particular offering.” Id. The Ninth Circuit therefore held that a bare allegation that the plaintiff had purchased shares “directly traceable to the Company’s Secondary Offering does not allow [the court] to draw a reasonable inference about anything because it is devoid of factual content.” Id. at 1107-08. Without more facts, aftermarket purchasers will not be able to plausibly allege that their shares trace back to any particular one of multiple registration statements that could apply. The U.S. Court of Appeals for the First Circuit is in accord with the Ninth Circuit on this issue. See In re ARIAD Pharm. Sec. Litig., 842 F.3d at 756. Citing Century, it recognized that that “traceability is an element of a Section 11 claim. . . And, almost by definition, a general allegation that a plaintiff’s shares are traceable to the offering in question is nothing more than a ‘formulaic recitation’ of that element.” Id.15

15 The Fifth Circuit, even pre-Iqbal and Twombly, required more than a simple allegation that the shares at issue were traceable to allegedly faulty offering documents. See Krim, 402 F.3d at 495-96 (noting that aftermarket purchasers seeking standing under Section 11 “must demonstrate the ability to trace their shares to the faulty registration” and affirming dismissal for lack of Section 11 standing). 31

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 32 of 84 PageID: 18626

Plaintiffs point to a series of post-Twombly/Iqbal district court decisions upholding conclusory “traceable to” allegations against a Rule 12(b)(6) attack.16 These authorities either rely on cases decided prior to Twombly/ Iqbal, fail to explicitly address the impact of Twombly/Iqbal on the pleading of traceability, or have become suspect in light of subsequent, controlling Court of Appeals case law. I therefore do not find them persuasive.17 I find the reasoning of the First and Ninth Circuits persuasive and I adopt it here. In this case, the objected-to 2013 offering was but one of two,

The Fourth and Second Circuits have reached the same result under Section 12(a)(2), an analogous, but not identical standing provision of the Securities Act. Those Courts held that, without more, simply invoking “‘pursuant and/or traceable’ to language” is insufficient under Iqbal and Twombly. See Yates v. Mun. Mortg. & Equity, LLC, 744 F.3d 874, 900 (4th Cir. 2014); Freidus v. Barclays Bank PLC, 734 F.3d 132, 141-42 (2d Cir. 2013). 16 See, e.g., In re Enzymotec Sec. Litig., 2015 U.S. Dist. LEXIS 167403, at *69 (D.N.J. Dec. 14, 2015); Yang v. Tibet Pharm., Inc., 2015 U.S. Dist. LEXIS 20463, at *7 n.4 (D.N.J. Feb. 20, 2015); Perry v. Duoyuan Printing, Inc., 2013 U.S. Dist. LEXIS 121034, at *29 (S.D.N.Y. Aug. 22, 2013); In re BioScrip, Inc. Sec. Litig., 95 F. Supp. 3d 711, 746 (S.D.N.Y. 2015) (citing Perry, 2013 U.S. Dist. LEXIS 121034); Northumberland Cnty. Ret. Sys. v. Kenworthy, 2013 WL 5230000, at *6 (W.D. Okla. Sept. 16, 2013); In re Wachovia Equity Sec. Litig., 753 F. Supp. 2d 326, 373 (S.D.N.Y. 2011); In re Mun. Mortg. & Equity, LLC, Sec. & Derivative Litig., 876 F. Supp. 2d 616, 657-58 (D. Md. 2012) (relying on In re Wachovia Equity Sec. Litig., 753 F. Supp. 2d at 373 and accepting conclusory allegations). 17 Plaintiffs cite one district court opinion that did explicitly consider the impact of Iqbal and Twombly. In that case, the court “agree[d] with the reasoning in Century,” and concluded that the plaintiffs had pled sufficient factual matter to establish standing. In re EveryWare Glob., Inc. Sec. Litig., 175 F. Supp. 3d 837, 866 (S.D. Ohio 2016). There, the court determined that the plaintiffs’ satisfied the pleading standard by alleging “that they purchased 15% of the shares traded on the first day of the Secondary Offering [the offering in question], that they paid a uniform price through their broker of just four cents above the asking price, and that 1,7500,000 shares were sold in the Secondary Offering in comparison to the pre-existing public float of 2,023,000 shares.” Id. All of these features are distinguishable from the present case. Here, the offering in question was an IPO and the shares were purchased in the aftermarket following subsequent offerings. Thus, the alleged connection to the Secondary Offering by purchasing on the same day and at an amount similar to the asking price are absent features here. Moreover, in this case the IPO involved 3.175 million shares while the aftermarket included approximately 34 million additional shares, making the likelihood of traceability to the IPO from a purchase in the aftermarket far less probable. (3AC ¶¶ 1, 27, 88, 346). 32

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 33 of 84 PageID: 18627

and the post-Twombly/Iqbal pleading standard for traceability, adopted from Century and ARIAD, supra, applies. With that pleading standard in mind, I turn to the allegations of the third amended complaint. The original Co-Lead Plaintiffs, Berger and Sanders, rest their Securities Act claim on a broad, boilerplate allegation of traceability. They allege only that they purchased stock “pursuant to and/or traceable to the IPO.” (DE 68 ¶¶ 10, 11; 3AC ¶¶ 11, 12). Such an allegation, assuming it was ever sufficient, is sufficient no longer after Twombly and Iqbal. It does not satisfy the standard of factual plausibility as to the essential issue of traceability. In that respect, the language of Century is apt: “Accepting the allegations as true, plaintiffs’ shares could have come from the [first] offering, but the obvious alternative explanation is that they could instead have come from the pool of [secondary shares].” 729 F.3d at 1108 (quotations omitted and alterations added). By nearly inescapable analogy, the allegations of Berger and Sanders, accepted as true, do not warrant a plausible inference that their shares are traceable to the 2013 IPO, on which their Section 11 claims are based; just as plausibly the shares could have derived from the second, 2014 offering. See In re Ariad Pharms., Inc., 842 F.3d at 756; Century, 729 F.3d at 1107-08; cf. Yates, 744 F.3d at 899-901. And if so, Berger and Sanders would not have standing to assert a claim based on misleading statements in connection with the 2013 offering. Co-Lead Plaintiffs Berger and Sanders, as aftermarket purchasers, have not adequately alleged that they possess standing to maintain their Section 11 claim. Defendants’ motion to dismiss Counts I and II is granted as to plaintiffs Berger and Sanders. Of course, my ruling is directed to the sufficiency of this factual pleading; it does not rule out the possibility of tracing as a matter of law. In addition, the law of this Circuit is that an initial dismissal, like this one, is presumptively without prejudice. See Alston v. Parker, 363 F.3d 229, 235 (3d Cir. 2004); accord Phillips v. Cnty. of Allegheny, 515 F.3d 224, 236 (3d Cir. 2008); Shane v.

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 34 of 84 PageID: 18628

Fauver, 213 F.3d 113, 116 (3d Cir. 2000). This dismissal, then, is entered without prejudice to the filing of a properly supported motion to amend within 45 days, attaching a proposed fourth amended complaint that remedies the deficiencies identified here. See Century, 729 F.3d at 1106-07. b. Three-Year Statute of Repose As noted above, see n.14, supra, the standing defect does not affect the Trust Plaintiff. As to the Trust Plaintiff, defendants move to dismiss the third amended complaint as untimely, because the Trust Plaintiff was not added to this action until after the Securities Act’s three-year statute of repose had expired. See 15 U.S.C. § 77m (2006) (“In no event shall any such action be brought to enforce a liability created under Section 11 . . . more than three years after the security was bona fide offered to the public.”). The issue arises because the only remaining plaintiff now remaining, the Trust Plaintiff, was added by amendment after the statute of repose had expired. Plaintiffs filed their first amended complaint on July 22, 2016. That date would fall within Section 13’s statute of repose because it is within three years after the contested 2013 IPO, which occurred on July 26, 2013. (3AC ¶¶ 1, 346). But the amended complaint, as held above, failed to plead viable claims on behalf of the only two named plaintiffs, Berger and Sanders. (DE 1, 68). When that defect was pointed out in defendants’ motion to dismiss, the plaintiffs amended their complaint a second time to add the Trust Plaintiff. (DE 134, 152). The Trust Plaintiff had purchased Liquid securities on July 26, 2013—the day of the IPO. Those shares were thus easily traced to the first, 2013 offering; indeed, the second, 2014 offering had not yet occurred. (3AC ¶ 13; DE 135-4). The second amended complaint that added the Trust Plaintiff, however, was filed more than three years after the 2013 IPO that is the subject of the Section 11 claims. And the third amended complaint, of course, was filed even later. (DE 152; 3AC).

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 35 of 84 PageID: 18629

i. Statutes of Repose vs. Statutes of Limitations The securities laws contain both ordinary statutes of limitations and statutes of repose. Because the two are treated very differently for purposes of tolling and relation-back, I briefly discuss the distinctions between them. “Statutes of limitations and statutes of repose both are mechanisms used to limit the temporal extent or duration of liability for tortious acts.” CTS Corp. v. Waldburger, 573 U.S. 1, 7, 134 S. Ct. 2175, 2182 (2014). However, the two serve “different purposes and objectives.” Id. “Statutes of limitations require plaintiffs to pursue ‘diligent prosecution of known claims’” and “promote justice by preventing surprises through [plaintiffs’] revival of claims that have been allowed to slumber until evidence has been lost, memories have faded, and witnesses have disappeared.” Id. at 2182 (alteration in original) (citations omitted); Cal. Pub. Emps.’ Ret. Sys. v. ANZ Sec., Inc., 137 S. Ct. 2042, 2049 (2017) (“CalPERS”). On the other hand, a statute of repose “puts an outer limit on the right to bring a civil action,” reflecting a “legislative judgment that a defendant should ‘be free from liability after the legislatively determined period of time.’” CTS, 573 U.S. at 2182 (quoting 54 C.J.S., Limitations of Actions § 7, at 24 (2010)); CalPERS, 137 S. Ct. at 2049; see also School Bd. of Norfolk v. United States Gypsum Co., 234 Va. 32, 37, 360 S.E.2d 325, 328 (1987) (“[S]tatutes of repose reflect legislative decisions that as a matter of policy there should be a specific time beyond which a defendant should no longer be subjected to protracted liability.”) (internal quotation marks omitted). “Like a discharge in bankruptcy, a statute of repose can be said to provide a fresh start or freedom from liability.” CTS, 573 U.S. at 2182, 134 S. Ct. 2175. The distinction carries significant consequences. A statute of limitations provides the time limit for bringing a claim, based on when it accrued, whereas a statute of repose “puts an outer limit on the right to bring a civil action,” which is measured from “the date of the last culpable act or omission of the defendant. . . . even if this period ends before the plaintiff has suffered a

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 36 of 84 PageID: 18630

resulting injury.” CTS, 573 U.S. at 2182 (citation omitted). “[T]he injury need not have occurred, much less have been discovered.” Id. (quotation omitted). “The repose provision is therefore equivalent to ‘a cutoff,’ . . . in essence an ‘absolute . . . bar’ on a defendant’s temporal liability.” Id. at 2183 (internal citations omitted). In contrast to a statute of limitations, “a statute of repose ‘extinguishes a plaintiff’s cause of action after the passage of a fixed period of time, usually measured from one of the defendant’s acts.’” Police & Fire Ret. Sys. of City of Detroit v. IndyMac MBS, Inc., 721 F.3d 95, 106 (2d Cir. 2013) (quoting Ma v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 597 F.3d 84, 88 n.4 (2d Cir. 2010)). “Thus, in contrast to statutes of limitations, statutes of repose ‘create[ ] a substantive right in those protected to be free from liability after a legislatively- determined period of time.’” Id. (alteration and emphasis in original) (quoting Amoco Prod. Co. v. Newton Sheep Co., 85 F.3d 1464, 1472 (10th Cir. 1996)); see also P. Stolz Family P’ship L.P. v. Daum, 355 F.3d 92, 102 (2d Cir. 2004) (“Unlike a statute of limitations, a statute of repose is not a limitation of a plaintiff’s remedy, but rather defines the right involved in terms of the time allowed to bring suit.”). ii. Application of Tolling to Statutes of Limitations and Statutes of Repose under American Pipe and CalPERS

In an effort to save the Securities Act claims, plaintiffs invoke equitable tolling. The relevant line of authority begins with so-called American Pipe tolling of ordinary statutes of limitations in the context of class action claims. But under the recent CalPERS case, that tolling doctrine applies very differently, if at all, to statutes of repose like the one here. In American Pipe & Constr. Co. v. Utah, 414 U. S. 538, 94 S. Ct. 756 (1974), the U.S. Supreme Court held that the timely filing of a class action tolls the applicable statute of limitations for all class members encompassed by the class complaint. If class certification is thereafter denied, members of the failed class may intervene as individual plaintiffs in the still-pending action, and the

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 37 of 84 PageID: 18631

timeliness of their claims will be measured as of the date of filing of the original putative class action. 414 U.S. at 544, 552-53. The Court explained that a “contrary rule would deprive [Federal Rule of Civil Procedure] 23 class actions of the efficiency and economy of litigation which is a principal purpose of the procedure.” Id. at 553. Without tolling, “[p]otential class members would be induced to file protective motions to intervene or to join in the event that a class was later found unsuitable.” Id. Thereafter, in Crown, Cork & Seal Co. v. Parker, 462 U.S. 345, 103 S. Ct. 2392 (1983), the Court expanded American Pipe’s tolling rule, applying it to putative class members who, after denial of class certification, “prefer to bring an individual suit rather than intervene . . . once the economies of a class action [are] no longer available.” 462 U.S. at 350, 353-54. The Court feared that the failure to extend the American Pipe rule from intervenors “to class members filing separate actions” would result in “a needless multiplicity of actions” filed by class members preemptively seeking to preserve their individual claims—“precisely the situation that Federal Rule of Civil Procedure 23 and the tolling rule of American Pipe were designed to avoid.” Id. at 351. The Third Circuit has extended American Pipe tolling to related contexts. In Haas, 526 F.2d 1083, the Court of Appeals applied American Pipe tolling to the claims of a class representative substituted in after the original representative was found to lack standing. In McKowan Lowe & Co., Ltd. v. Jasmine, Ltd., 295 F.3d 380 (3d Cir. 2002), the Third Circuit applied American Pipe tolling to the claims of an intervenor who sought to become the lead plaintiff in a class action, where the District Court had previously denied class certification.18 The American Pipe doctrine, developed in the context of an ordinary statute of limitations, applies very differently to a statute of repose. Indeed, the

18 Certification had been denied on Rule 23 grounds, because the original putative lead plaintiff failed to satisfy the requirements of typicality and adequacy. Id. 37

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 38 of 84 PageID: 18632

Supreme Court recently addressed the application of American Pipe tolling to the very Securities Act statute of repose involved here. CalPERS, 137 S. Ct. at 2047. In CalPERS, the issue presented was whether Section 13 permitted the “filing of an individual complaint more than three years after the relevant securities offering, when a class-action complaint was timely filed, and the plaintiff filing the individual complaint would have been a member of the class but for opting out of it.” Id. at 2048-49. The Supreme Court rejected the application of American Pipe tolling to that plaintiff’s claim under Section 11 of the Securities Act. Id. at 2045. Congress, the Court wrote, intended that Section 13 function as a statute of repose, and “[c]onsistent with the different purposes embodied in statutes of limitations and statutes of repose, it is reasonable that the former may be tolled by equitable considerations even though the latter in most circumstances may not.” Id. at 2053. That holding rested on the disparate purposes of a statute of limitations and a statute of repose. A statute of limitations, the Court wrote, is enacted to encourage diligent prosecution of known claims; a statute of repose, on the other hand, reflects “a legislative judgment that a defendant should be free from liability after the legislatively determined period of time.” Id. at 2049 (internal quotations and citations omitted)).19 Because the statute of repose in Section 13 entitled the defendant to be free of liability after three years, the Court held, the petitioner’s individual complaint could not be saved by American Pipe tolling. Id. at 2050. The Court also rejected the petitioner’s argument that his individual “action” was “brought” within the meaning of Section 13 when the class-action complaint was filed by others. Id. at 2054; see 15 U.S.C. §77m (providing that “action” must be “brought” within three years of the relevant securities offering). Although petitioner’s individual complaint alleged the same securities

19 The distinction, as elucidated in CalPERS, is discussed in more detail at Section III.b.i., supra. 38

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 39 of 84 PageID: 18633

violations that were alleged in the earlier class-action complaint, it was not “brought” at that time. Id. at 2054. The Court held that the “term ‘action,’ . . . refers to a judicial ‘proceeding,’ or perhaps to a ‘suit’—not to the general content of claims.” Id. (internal quotation and citation omitted). Thus, the Supreme Court held that the opt-out plaintiff’s individual lawsuit was a separate “action” from the putative class action. See id.; see also N. Sound Capital LLC v. Merck & Co, 702 F. App’x 75, 80-81 (3d Cir. 2017) (applying CalPERS to plaintiffs who opted out of Exchange Act class actions, and filed separate individual actions beyond five-year statute of repose). It followed, wrote the Court, that the individual action was not “brought” at the time that the class action was filed. iii. Application of CalPERS to This Case CalPERS, while highly pertinent, is not directly on point. Here, the Trust Plaintiff was not an opt-out and did not file a separate action, but instead was belatedly added to the original class action by amendment. In applying CalPERS to our situation, I look to Leber v. Citigroup 401(k) Plan Inv. Comm. for guidance. 323 F.R.D. 145 (S.D.N.Y. 2017). In Leber, the district court, while considering class certification, reconsidered its prior order granting plaintiffs’ motion to amend their complaint to add a new class representative. 323 F.R.D. at 152. Plaintiffs were plan participants in Citigroup’s 401(k) retirement plan who brought a putative class action against certain fiduciaries under the Employee Retirement Income Security Act (“ERISA”), 20 U.S.C. § 1001, et seq. Id. at 149-50. The plan at issue was an ERISA defined-contribution plan, in which each participant has an individual account, “chooses from a menu of specific investment options, and is entitled to only those benefits stemming from the amounts contributed to his or her account.” Id. The three named plaintiffs in Leber were all plan participants. Id. They claimed that the defendants failed to discharge their fiduciary duty to monitor the plan and remove imprudent investments. Id. at 150-51. Nine specific funds

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 40 of 84 PageID: 18634

suffered significant losses. Id. The original plaintiffs did not invest in all of the funds, but nonetheless sought to represent all plan participants. Id. at 151. Confronted by this defect, the plaintiffs amended their complaint to add another lead plaintiff named Harris, who had invested in another one of the nine funds. The Leber court, reconsidering its grant of leave to amend the complaint in light of the intervening authority of CalPERS, reversed itself. It held that Harris’s fiduciary claim was time-barred by the ERISA statute of repose20 at the time Harris was amended-in as a plaintiff. Id. at 152-53. It therefore dismissed Harris as a named representative plaintiff. The district court noted that Harris, unlike the CalPERS plaintiff, did not opt out and file a separate action, but (like the Trust Plaintiff here) was added to the existing action by amendment. The court declined to distinguish CalPERS on those grounds. The reach of CalPERS, the district court held, was not “limited to cases that share its procedural posture,” i.e., plaintiffs who opt out and then file a separate, untimely complaint. Id. at 153.21 “Because Harris was time-barred from raising any individual claims at the time of her entry into this case and because she was not yet a member of a certified class, she should not have been permitted to serve as a lead plaintiff.” Id. at 153-54. I agree with Leber’s reasoning, which is rooted in the fundamentals of class action practice and the nature of a statute of repose. Like that court, I hold that adding the Trust Plaintiff as a named plaintiff beyond the statute-of-

20 ERISA, like the Securities Act, contains both an ordinary statute of limitations and, for fiduciary claims, a statute of repose. See 29 U.S.C. § 1113. Leber pointed out that the Supreme Court, analyzing the Securities Act statute of repose in CalPERS, had cited the ERISA statute by analogy. 323 F.R.D. at 153. Its application of CalPERS to an ERISA claim, then, represented a kind of closing of the circle. 21 Leber’s interpretation of the CalPERS majority opinion was buttressed by the dissenting opinion of Justice Ginsburg, who criticized the majority’s holding on just those grounds. See CalPERS, 137 S. Ct. at 2057 (Ginsburg, J., dissenting) (observing that majority’s decision incentivizes unnamed putative class members “to file a protective claim, in a separate complaint or in a motion to intervene, before the three- year period [of repose] expires”). 40

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 41 of 84 PageID: 18635

repose period (here, three years) is impermissible. See 323 F.R.D. at 152–54. A “plaintiff may not maintain an action on behalf of a class against a specific defendant if the plaintiff is unable to assert an individual cause of action against that defendant.” Haas, 526 F.2d at 1086 n.18. In particular, to represent the absent class members, the named plaintiffs must collectively possess standing to assert the claims. They cannot sue as named plaintiffs merely on the theory that even if they don’t possess a claim, some member of the putative class does. Ong, 388 F. Supp. 2d at 891-92; In re Flonase Antitrust Litig., 610 F. Supp. 2d at 413. See discussion at Section III.a, supra. Here, no party asserted a viable claim within the statute-of-repose period. Co-Lead Plaintiffs Sanders and Berger, as I have already found, lacked standing because they did not sufficiently plead that their shares were traceable to the IPO. That leaves only the Trust Plaintiff, which concededly does possess standing. It was only after the expiration of the statute of repose, however, that the Trust Plaintiff was added by amendment. It is only as a named plaintiff, asserting its own live cause of action, that the Trust Plaintiff could represent the absent class members. The claims of the Trust Plaintiff, as in Leber, were extinguished “at the time of [its] entry in the case and because [it] was not yet a member of a certified class.” Leber, 323 F.R.D. at 153-54. Under CalPERS, as interpreted by Leber, such a plaintiff could not belatedly join the action as a named plaintiff, asserting a claim that was already nullified by the passage of time.22

22 Leber did not, however, disqualify Harris from remaining in the case as part of any class that might be certified. Id. at 154. To be sure, once a timely claim has been asserted by a named plaintiff, absent class members may, without filing individual claims, enjoy the benefit of virtual representation by that plaintiff. But the assertion of a viable claim by a named plaintiff is a prerequisite to that tag-along effect. A second case cited by plaintiffs, In re Cobalt Int’l Energy, Inc. Secs. Litig., No. H-14-3428, 2017 U.S. Dist. LEXIS 134495 (S.D. Tex. Aug. 23, 2017), presents that distinct issue. There, the defendants sought reconsideration of the court’s earlier class certification decision in light of CalPERS. They argued that the Securities Act claims of absent class members were now barred because those persons’ claims “were not filed individually 41

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 42 of 84 PageID: 18636

Here, the Trust Plaintiff’s addition to the suit was untimely. Under the statute of repose, the Trust Plaintiff had no cause of action to assert. The Trust Plaintiff therefore cannot serve as the named plaintiff for the Securities Act claims. c. Rule 15(c) Relation-Back Under the Statute of Repose To save their Securities Act claims, the plaintiffs rely in the alternative on the “relation-back” doctrine of Federal Rule of Civil Procedure 15(c)(1).23 The first amended complaint on behalf of the (now-dismissed) Co-Lead Plaintiffs, Sanders and Berger, was filed within the three-year statute-of-repose period.

within the three-year statute of repose.” Id. at *10. The district court denied defendants’ motion, holding that CalPERS could not be stretched so far. The Cobalt court reasoned that the statute of repose requires that an “action . . . be brought within three years after the relevant securities offering,” and that the class action qualified as such an “action.” Id. at *11. CalPERS barred a second, untimely action filed by an opt-out party; it did not suggest, however, that a “putative class action, filed within the three-year statute of repose, does not protect putative class members who remain in the class.” Id. Cobalt is thus a fairly easy case under CalPERS. It does not shed much light, however, on the situation presented here. 23 (c) Relation Back of Amendments. (1) When an Amendment Relates Back. An amendment to a pleading relates back to the date of the original pleading when: (A) the law that provides the applicable statute of limitations allows relation back; (B) the amendment asserts a claim or defense that arose out of the conduct, transaction, or occurrence set out—or attempted to be set out—in the original pleading; or (C) the amendment changes the party or the naming of the party against whom a claim is asserted, if Rule 15(c)(1)(B) is satisfied and if, within the period provided by Rule 4(m) for serving the summons and complaint, the party to be brought in by amendment: (i) received such notice of the action that it will not be prejudiced in defending on the merits; and (ii) knew or should have known that the action would have been brought against it, but for a mistake concerning the proper party's identity. Fed. R. Civ. P. 15(c). 42

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 43 of 84 PageID: 18637

Plaintiffs argue that the Trust Plaintiff’s claims, later added by amendment, should relate back to the date of the first amended complaint. Defendants, responding, propose a categorical rule that the expiration of a statute of repose always bars Rule 15(c) relation-back. As to that categorical rule, courts have reached conflicting results over the years. See United States ex rel. Carter v. Halliburton Co., 315 F.R.D. 56, 64 (E.D. Va. 2016) (collecting cases). The authorities cited are pertinent, but non-binding, and I have not identified a Third Circuit opinion that is on point.24 Without purporting to announce a categorical rule for all cases, I hold that the statute of repose does bar relation-back here. Most obviously, of course, relation-back is in tension with the principle that a statute of repose is a rigid and essential limitation on the scope of the

24 Plaintiffs cite the following, all of which precede the Supreme Court’s CalPERS decision in 2017: United States ex rel. Carter v. Halliburton Co., 315 F.R.D. 56, 63 (E.D. Va. 2016) (“[T]he Court finds that the statute of repose does not prevent relation back.”); Reddick v. Bloomingdale Police Officers, 2001 WL 630965, at *6 (N.D. Ill. June 1, 2001) (“Thus, the plaintiffs’ allegations …relate back to the allegations of the previous complaints … and are not barred by the statute of … repose.”); Chumney v. U.S. Repeating Arms Co., Inc., 196 F.R.D. 419, 428 (M.D. Ala. 2000) (“[T]he policy behind Federal Rule 15(c) is not hindered by applying it to statutes of creation.”). Defendants cite the following, dating from both before and after CalPERS: Fed. Deposit Ins. Corp. for Colonial Bank v. First Horizon Asset Sec. Inc., 291 F. Supp. 3d 364, 372 (S.D.N.Y. 2018) (“relation back under Rule 15(c) cannot be used to permit claims barred by the statute of repose”); Silvercreek Mgmt. v. Citigroup, Inc., 248 F. Supp. 3d 428, 451 (S.D.N.Y. 2017) (Section 13’s statute of repose “cannot be circumvented by the relation-back doctrine”); In re IndyMac Mortg.-Backed Sec. Litig., 793 F. Supp. 2d 637, 642-43 (S.D.N.Y. 2011) (no relation back “because [Section 13’s] statute of repose by its terms allows no exceptions”), aff’d, 93 F. Supp. 2d 637 (2d Cir. 2013), cert. dismissed as improvidently granted, 135 S. Ct. 42, 189 L. Ed. 2d 893 (2014); In re Longtop Fin. Techs. Ltd. Sec. Litig., 939 F. Supp. 2d 360, 380 (S.D.N.Y. 2013) (“when a claim is barred by a statute of repose, “Rule 15 may not be construed to permit relation back because such a construction would conflict with the Rules Enabling Act”); see also Miguel v. Country Funding Corp., 309 F.3d 1161, 1165 (9th Cir. 2002) (relation back under Rule 15 would impermissibly “extend federal jurisdiction” and violate the Rules Enabling Act if applied to circumvent statute of repose); In re Cmty. Bank of N. Va., 467 F. Supp. 2d 466, 481-82 (W.D. Pa. 2006) (no relation back for statute of repose). 43

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 44 of 84 PageID: 18638

cause of action itself— an “absolute bar on a defendant’s temporal liability.” CalPERS, 137 S. Ct. at 2050. See also Section III.b.1, supra. In addition, because relation-back involves the application of a federal civil rule, Rule 15(c), it implicates the Rules Enabling Act. See 28 U.S.C. § 2072(b). The Act grants the Supreme Court “the power to prescribe general rules of practice and procedure,” including the Federal Rules of Civil Procedure, but with an important limitation: Such rules “shall not abridge, enlarge or modify any substantive right.” 28 U.S.C. § 2072(a), (b). Accordingly, the Rules Enabling Act forbids any interpretation of Rule 15(c) that would “abridge, enlarge or modify any substantive right,” and “counsel[s] against adventurous application of” Rule 15(c), or indeed any federal rule. Ortiz v. Fibreboard Corp., 527 U.S. 815, 845, 119 S. Ct. 2295 (1999). Of course, almost any procedural rule will exert some effect on substantive rights. That is understood, and permissible; a federal court may maintain procedures that permit it to function, even if there is some incidental substantive effect. Rules “which incidentally affect litigants’ substantive rights do not violate [the Rules Enabling Act] if reasonably necessary to maintain the integrity of that system of rules.” Burlington N. R.R. Co. v. Woods, 480 U.S. 1, 5, 107 S. Ct. 967, 970 (1987).25 Accord Exxon Corp. v. Burglin, 42 F.3d 948, 951 n.4 (5th Cir. 1995) (a procedural rule that only “incidentally” affects substantive rights does not run afoul of the Rules Enabling Act); see also Hanna v. Plumer, 380 U.S. 460, 465, 85 S. Ct. 1136, 1140 (1965) (Rules Enabling Act not violated by incidental effect of procedural rules on “the rights

25 Burlington, a diversity action under Alabama substantive law, considered the frivolous-appeal sanctions of Federal Rule of Appellate Procedure 38 in relation to an Alabama statute that awarded damages and costs for an unsuccessful appeal. See Ala. Code § 12–22–72 (1986). The Supreme Court held that Rule 38 governed in federal court, irrespective of the state statute. Application of Rule 38 did not violate the Rules Enabling Act, it held, because that Rule “affects only the process of enforcing litigants’ rights and not the rights themselves.” Burlington, 480 U.S. at 8 (emphasis added). 44

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 45 of 84 PageID: 18639

of litigants who, agreeably to rules of practice and procedure, have been brought before a court authorized to determine their rights.”). The kind of relation-back proposed here limits the effect of a statute of repose, which is a substantive component of a Section 11 claim. To permit relation-back under Rule 15(c) would violate the Rules Enabling Act because it would abridge a party’s right to be free from suit under that statue of repose, which is a substantive entitlement. See Section III.b.1, supra. This is not a case of “incidental” effect, nor does it lie within the narrow bounds of regulation of practice and procedure in the federal courts. The limited procedural goal of relation-back is “to prevent parties against whom claims are made from taking unjust advantage of otherwise inconsequential pleading errors to sustain a limitations defense.” Advanced Magnetics, Inc. v. Bayfront Partners, Inc., 106 F.3d 11, 19 (2d Cir. 1997) (quoting Fed. R. Civ. P. 15 Advisory Committee Note (1991)). Here, Rule 15(c) relation-back, far from correcting a mere “inconsequential pleading error[],” would abridge one party’s substantive right to repose, and augment the other party’s substantive right of recovery under the securities laws. This statute of repose is a substantive limitation, albeit a time-based one, on the scope of the cause of action itself. Application of Rule 15(c) would circumvent that substantive limitation in a way that would not be merely procedural and incidental. I therefore hold that relation-back does not save the Trust Plaintiff’s claims. In sum, then, the Securities Act claims of Sanders and Berger, as well as the claim of the Trust Plaintiff, are dismissed, albeit for different reasons. There remains no named plaintiff with a viable claim under the Securities Act. Counts I and II are therefore dismissed.

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 46 of 84 PageID: 18640

IV. EXCHANGE ACT CLAIMS Count III asserts claims against Storms, Shifrin, and Ferdinand for violation of Section 10(b) of the Exchange Act, 15 U.S.C. § 78j(b), and Rule 10b- 5(b) promulgated thereunder by the SEC. Count IV, as against defendant Ferdinand only, asserts a claim under Section 10(b) and SEC Rules 10b-5(a) and (c) for employing a scheme to defraud Liquid’s investors into purchasing Liquid’s common stock at artificially inflated prices. Count V asserts claims against defendants Storms, Shifrin, and Ferdinand for violation of Section 20(a) of the Exchange Act. Defendants argue that those Exchange Act claims are barred by the two- year statute of limitations and otherwise fail to state a claim. a. Two-Year Statute of Limitations The Exchange Act contains a two-year statute of limitations. 28 U.S.C. § 1658(b)(1).26 That limitations period “begins to run upon discovery of the facts constituting the violation.” China Agritech, Inc. v. Resh, 138 S. Ct. 1800, 1804 (2018). Defendants argue that the Exchange Act claims are time-barred because the plaintiffs could have discovered the facts underlying their claims more than two years prior to the filing of their first amended complaint.27 A fact is “‘deemed ‘discovered’ [when] a reasonably diligent plaintiff would have sufficient information about that fact to adequately plead it in a complaint. . . with sufficient detail and particularity to survive a 12(b)(6)

26 The Exchange Act’s statute of repose, 28 U.S.C. § 1658(b)(2)), is not three but five years, so it would not bar the claims here. Compare Securities Act three-year statute of repose, discussed at Section III.b, supra. 27 The defendants rely on the filing date of the first amended complaint for their statute of limitations analysis. (Sandler Mot. at 27, 29; Storms and Shifrin Mot. at 12, 15, 26-28). The plaintiffs do not dispute that approach. (Pl. Opp. at 51-53). Neither party explains why the first amended complaint, as opposed to the original complaint, is the proper complaint for the statute of limitations analysis. I note, however, that the named plaintiff in the original complaint, De Vito, was dropped from the action. Because analyzing the limitations issues in terms of the original complaint adds an unnecessary complication and, judging from the dates of filing, would not alter the result, I follow the parties’ lead. 46

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 47 of 84 PageID: 18641

motion to dismiss.’” Pension Trust Fund for Operating Eng’rs v. Mortg. Asset Securitization Transactions, Inc., 730 F.3d 263, 275 (3d Cir. 2013) (quoting City of Pontiac Gen. Employees’ Ret. Sys. v. MBIA, Inc., 637 F.3d 169, 174-75 (2d Cir. 2011)). That discovery standard sets the time that the limitations period starts running, and determines whether Exchange Act claims have been timely filed within two years. Pension Trust Fund, 730 F.3d at 273. The cause of action accrues “‘(1) when the plaintiff did in fact discover, or (2) when a reasonably diligent plaintiff would have discovered, the facts constituting the violation— whichever comes first.’” Id. at 273 (quoting Merck & Co. v. Reynolds, 559 U.S. 633, 130 S. Ct. 1784, 1789-90, 1793 (2010)). Those discovery principles cannot be evaded by inaction; they apply “irrespective of whether the actual plaintiff undertook a reasonably diligent investigation.” Id. at 275 (quoting Merck, 130 S. Ct. at 1798). “[T]erms such as ‘inquiry notice’ and ‘storm warnings’ may be useful to the extent that they identify a time when the facts would have prompted a reasonably diligent plaintiff to begin investigating.” Id. (quoting Merck, 130 S. Ct. at 1798). Still, such metaphors do not supply the legal standard; calling a disclosure a “storm warning” does not trigger the statute of limitations before “the plaintiff . . . discovers or a reasonably diligent plaintiff would have discovered the facts constituting a violation.” Id.; see also Lord Abbett Mun. Income Fund, Inc. v. Citigroup Glob. Markets, Inc., No. 11-5550 (CCC), 2017 WL 5515912, at *14 n.15 (D.N.J. Aug. 4, 2017). Defendants contend that there were repeated “storm warnings” regarding related-party transactions contained in Liquid’s own public filings. Consequently, they say, the plaintiffs could have discovered the facts underlying their Exchange Act claims prior to July 22, 2014 (two years before plaintiffs filed their first amended complaint, DE 68). The test for “storm warnings” is an objective one, “based on whether a ‘reasonable investor of ordinary intelligence would have discovered the information and recognized it as a storm warning.’” In re NAHC, Inc. Sec. Litig.,

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 48 of 84 PageID: 18642

306 F.3d 1314, 1325 (3d Cir. 2002) (quoting Mathews v. Kidder, Peabody & Co., 260 F.3d 239, 252 (3d Cir. 2001)).28 “Plaintiffs need not know all of the details or narrow aspects of the alleged fraud to trigger the limitations period; instead, the period begins to run from the time at which plaintiff should have discovered the general fraudulent scheme.” Id. at 1326 (internal quotations omitted). Defendants point to Liquid’s pre-June 22, 2014 public filings, which contained warnings about the alleged related-party transactions. These, they say, were “storm warnings” sufficient to start the limitations period running. The IPO prospectus, for example, reports that Liquid’s accounting firm has identified “material weaknesses related to” Liquid’s “policies, procedures, and controls to identify, authorize, approve, monitor and account for and disclose related party transactions and arrangements.” (DE 207-4 p. 23).29 That same IPO prospectus, however, immediately goes on to explain that Liquid had “begun taking steps and plans to take additional steps to remediate the underlying causes of [its] material weaknesses, primarily through the development and implementation of formal policies, improved processes, upgraded financial accounting systems and documented procedures, as well as the hiring of additional finance personnel.” (Id.). It then states that Liquid has

28 [S]torm warnings may take numerous forms, and we will not attempt to provide an exhaustive list. They may include, however, substantial conflicts between oral representations of the brokers and the text of the prospectus, . . . the accumulation of information over a period of time that conflicts with representations that were made when the securities were originally purchased, or any financial, legal or other data that would alert a reasonable person to the probability that misleading statements or significant omissions had been made. Mathews, 260 F.3d at 252 (internal citations and quotations omitted). 29 This warning was repeated four times in subsequent quarterly reports: September 9, 2013 Form 10-Q (DE 207-5 at 36); November 14, 2013 Form 10-Q (DE 207-6 at 59); March 31, 2014 Form 10-K (DE 207-7 at 25); and May 13, 2014 Form 10-Q (DE 207-9 at 35). “[I]nvestors are presumed to have read prospectuses, quarterly reports, and other information relating to their investments.” Mathews, 260 F.3d at 252. 48

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 49 of 84 PageID: 18643

hired new personnel to alleviate these weaknesses and has implemented other remedial measures. (Id.).30 Such statements might have dispelled the storm clouds and reassured a reasonable investor. Pension Trust Fund, 730 F.3d at 277 (“We have recognized that reassurances can dissipate apparent storm warnings if an investor of ordinary intelligence would reasonably rely on them to allay the investor’s concerns.”) (internal quotations omitted).31 Defendants point to another, supposedly more pointed example of a “storm warnings” disclosure: In March 2014, Liquid disclosed certain aspects about the Von Allman Stock Transfer Agreement (March 31, 2014 Form 10-K, DE 207-7 at 74). I do not accept that this disclosure would have placed a reasonably diligent plaintiff on notice of an Exchange Act claim. For starters, the March 2014 disclosure about the Von Allmen Stock Transfer Agreement revealed only that in February 2014 the transfer of 732,292 shares had occurred without any cash consideration. (DE 207-7 at 74). It did not reveal that this stock transfer was made pursuant to a preexisting agreement that was entered into before Liquid’s IPO (Id.). It also did not disclose that the arrangement was contingent upon the expiration of lock- up agreements entered into in connection with the IPO. (Id.). Based on the March 2014 disclosure, the reader would not have learned that Ferdinand and Keller transferred these shares to Von Allmen pursuant to a pre-IPO agreement or that the transfer was contingent upon the expiration of lock-up agreements. These, on their face, were not “storm warnings” that would have placed the plaintiffs on notice of their cause of action. A fortiori, I cannot find, in the context of a motion to dismiss, that they were sufficient to set the limitations period running. “Courts in this District have previously stated that a

30 Liquid made these same reassurances in the four quarterly reports issued subsequent to the prospectus cited by defendants. See n. 29, supra. 31 Confusingly, these reassurances were somewhat tentative. (DE 207-4 at 23) (“Although we plan to complete this remediation process as quickly as possible, we cannot at this time estimate how long it will take, and our initiatives may not prove to be successful in remediating these material weaknesses.”). 49

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 50 of 84 PageID: 18644

determination of the timing of a plaintiff’s knowledge of his claim is a fact- intensive inquiry.” Roll v. Singh, No. 07-04136 (FLW), 2008 WL 3413863, at *14 (D.N.J. June 26, 2008) (collecting cases) (internal quotations omitted); Lord Abbett Mun. Income Fund, Inc., 2012 WL 13034154, at *8 (noting that when evaluating whether there was “sufficient information of possible wrongdoing to. . . excite storm warnings of culpable activity. . . . [s]uch a fact intensive determination is often inappropriate for resolution on a motion to dismiss under Rule 12(b)(6).”) (internal quotations and citations omitted); see also Gruber v. Price Waterhouse, 911 F.2d 960, 963 (3d Cir. 1990) (“When the statute of limitations is raised as a defense, we have recognized that it is an affirmative defense, and the burden of establishing its applicability to a particular claim rests with the defendant. The factual nature of this inquiry requires this burden to be heavy.”) (internal citations and quotations omitted). “[S]imply stating that a smattering of evidence hinted at the possibility of some type of fraud does not answer the question whether there was ‘sufficient information of possible wrongdoing . . . to excite storm warnings of culpable activity’ under the securities laws.” In re Merck & Co., Inc. Sec., Derivative & “ERISA'” Litig., 543 F.3d 150, 164 (3d Cir. 2008), aff’d sub nom. Merck & Co. v. Reynolds, 559 U.S. 633, 130 S. Ct. 1784, 176 L. Ed. 2d 582 (2010) (quoting Benak ex rel. All. Premier Growth Fund v. All. Capital Mgmt. L.P., 435 F.3d 396, 400 (3d Cir. 2006)) (emphasis in original). Defendants’ “storm warnings” argument fails as a basis for a motion to dismiss the Exchange Act claims on statute of limitations grounds.32

32 I therefore do not reach the plaintiffs’ relation-back argument with respect to the Exchange Act statute of limitations. The particular difficulties associated with relaxation of a statute of repose, discussed above, are not present here. See Section III.c, supra. Relation-back routinely applies to ordinary statutes of limitations; indeed, that is its chief purpose. See Fed. Deposit Ins. Corp. for Colonial Bank v. First Horizon Asset Sec. Inc., 291 F. Supp. 3d 364, 371 (S.D.N.Y. 2018). Nevertheless, application of Rule 15(c) to amended-in plaintiffs, as opposed to defendants, raises other issues, particularly in relation to the requirement that amendment be based on a mistake regarding the proper party’s identity. Compare Nelson v. Cnty. of Allegheny, 60 F.3d 50

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 51 of 84 PageID: 18645

b. Section 10(b) and Rule 10b-5(b) To allege a Section 10(b) claim, a plaintiff must plead “(1) a material misrepresentation or omission, (2) scienter, (3) a connection between the misrepresentation or omission and the purchase or sale of a security, (4) reliance upon the misrepresentation or omission, (5) economic loss, and (6) loss causation.” City of Edinburgh Council v. Pfizer, Inc., 754 F.3d 159, 167 (3d Cir. 2014); In re Hertz Glob. Holdings Inc, 905 F.3d 106, 114 (3d Cir. 2018). Such a claim is subject to the heightened pleading standards imposed by the PSLRA. In re Hertz Glob. Holdings Inc, 905 F.3d at 114. Under the PSLRA pleading requirements, a Section 10(b) claim must (i) “specify each statement alleged to have been misleading, the reason or reasons why the statement is misleading, and, if an allegation regarding the statement or omission is made on information and belief, the complaint shall state with particularity all facts on which that belief is formed”; and (ii) “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); Williams v. Globus Med., Inc., 869 F.3d 235, 240-41 (3d Cir. 2017). i. Materiality A statement or omission is materially misleading if “there is ‘a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the ‘total mix’ of information available’” to that investor. Matrixx Initiatives, Inc. v. Siracusano, 563 U.S. 27, 38 (2011) (quoting Basic v. Levinson, 485 U.S. 224, 231-32 (1988)); In re Amarin Corp. PLC Sec. Litig., 689 F. App’x 124, 129 (3d Cir. 2017). Courts considering motions to dismiss have often observed that materiality is a fact-specific issue, better resolved by the fact finder. See In re Adams Golf, Inc. Sec. Litig., 381 F.3d 267, 274 (3d Cir. 2004) (“Materiality is

1010 (3d Cir. 1995), with In re Cmty. Bank of N. Virginia, 622 F.3d 275, 298 (3d Cir. 2010) (citing Phillips v. Ford Motor Co., 435 F.3d 785, 788 (7th Cir. 2006)). 51

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 52 of 84 PageID: 18646

ordinarily an issue left to the factfinder and is therefore not typically a matter for Rule 12(b)(6) dismissal.”); Siracusano v. Matrixx Initatives, Inc., 585 F.3d 1167, 1178 (9th Cir. 2009) (citing Basic, 485 U.S. at 236) (“The Supreme Court has rejected the adoption of a bright-line rule to determine materiality” because the analysis requires “delicate assessments of the inferences a reasonable shareholder would draw from a given set of facts and the significance of those inferences”) (internal quotations omitted); Weiner v. Quaker Oats Co., 129 F.3d 310, 317 (3d Cir. 1997) (“[T]he emphasis on a fact-specific determination of materiality militates against a dismissal on the pleadings.”). “Only if the alleged misrepresentations or omissions are so obviously unimportant to an investor that reasonable minds cannot differ on the question of materiality is it appropriate for the district court to rule that the allegations are inactionable as a matter of law.” Adams Golf, 381 F.3d at 275 (internal quotations omitted) (emphasis in original). Here, it cannot be said that the alleged misrepresentations and omissions are so obviously unimportant to an investor that reasonable minds could not differ on the question of materiality. The plaintiffs have adequately pled materiality in relation to their 10(b) claims. Consider, for example, the alleged misleading statements in the Registration Statement. With respect to the Von Allmen Stock Transfer Agreement, defendants first argue that the 732,292 shares Von Allmen received for no consideration upon the expiration of lock-up agreements were immaterial because “the IPO offering documents already disclosed twenty-one separate related-party transactions that were ‘below fair value or were for no monetary consideration’” and because “there were 1,912,847 shares exchanged in related-party transactions for no consideration, while an additional 1,835,615 shares were traded among related parties at an average price of nearly three dollars below the IPO price.” (Sandler Mot. at 33-34) (quoting Liquid’s Prospectus) (emphasis in original). However, weighing the significance of these omissions is the exact type of fact finding that is inappropriate at the

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 53 of 84 PageID: 18647

motion to dismiss stage. Adams Golf, 381 F.3d at 274 (3d Cir. 2004); Siracusano, 585 F.3d at 1178; Weiner, 129 F.3d at 317. A reasonable investor might well have factored into the “total mix of information” an additional 38% of stock that was exchanged in related-party transactions for no consideration, or an additional 40% of shares traded among related parties at a significantly discounted price. That Liquid disclosed other related-party transactions and stock transfers does not absolve it from liability. To the contrary, by speaking on the subject, Liquid took on a duty to ensure that its disclosures were not misleading: “Once a company has chosen to speak on an issue—even an issue it had no independent obligation to address—it cannot omit material facts related to that issue so as to make its disclosure misleading.” Williams, 869 F.3d at 241. Assuming arguendo that Liquid did not have a standalone duty to disclose the Von Allmen Stock Transfer Agreement, it could not misleadingly imply that its disclosures of other related-party transactions were comprehensive and complete. City of Edinburgh Council, 754 F.3d at 174 (“Disclosure is required only when necessary to make statements made, in the light of the circumstances under which they were made, not misleading.”) (internal citations and quotations omitted); Williams, 869 F.3d at 241 (“The duty to disclose arises when there is. . . an inaccurate, incomplete or misleading prior disclosure.”) (internal quotations omitted). The complaint adequately alleges that by omitting the Von Allmen Stock Transfer Agreement while simultaneously disclosing similar related-party transactions, Liquid misled investors. Defendants make a similar argument about the absence of any duty to disclose the Keller/Storms Loan. Again, however, by describing the transaction, Liquid took on a duty to describe it accurately. Id. When Liquid referred to the transaction as a stock sale, while omitting the fact that the consideration was actually a loan, the statement became misleadingly incomplete. In re Bristol- Myers Squibb Sec. Litig., No. 00-1990 (SRC), 2005 WL 2007004, at *22 (D.N.J.

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 54 of 84 PageID: 18648

Aug. 17, 2005) (“[E]ven an objectively true statement, if it leaves out material information may be actionable: even absent a duty to speak, a party who discloses material facts in connection with securities transactions assumes a duty to speak fully and truthfully on those subjects.”) (internal quotations omitted). Or so the plaintiffs have adequately alleged. Defendants stress that the Keller-Storms promissory note constitutes legal “consideration” for the stock. True enough, but not the point. The nature of the consideration could well have been significant to a reasonable investor, since repayment of a loan is contingent, while upfront payment is certain. Both constitute “consideration,” but a promise to pay $5 million may fall through, which is exactly what happened here. The promissory note was later restructured from $5 million to $1.25 million. (3AC ¶ 63). Thus, even if calling this transaction a stock “sale” was technically accurate, it is adequately alleged that it was misleading to omit the nature of the consideration. In re Lions Gate Entm’t Corp. Sec. Litig., 165 F. Supp. 3d 1, 11 (S.D.N.Y. 2016) (“Even though Rule 10b-5 imposes no duty to disclose all material, nonpublic information, once a party chooses to speak, it has a duty to be both accurate and complete.”). Defendants make a similar argument with respect to the funding Von Allmen provided to QuantX, which was then used to pay Liquid. (Ferdinand Mot. at 23; Sandler Mot. at 35). Specifically, defendants say that Liquid had disclosed that QuantX was a related party and cautioned investors that any of Liquid’s customers could go out of business at any time. Therefore, they argue, “the source of QuantX’s funding was not material information for Liquid’s investors.” (Ferdinand Mot. at 23). Those disclosures were misleadingly incomplete, however, insofar as they omitted the particular details about the large sums of money Von Allmen was providing to QuantX, which were then immediately used to pay Liquid. Disclosure that Liquid’s main customer was receiving cash infusions from Liquid insiders, which the customer then used to pay Liquid, could have significantly altered the total mix of information a

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 55 of 84 PageID: 18649

reasonable investor would want to consider. Plaintiffs acknowledge that Liquid disclosed some of the financial support Von Allmen was providing, but argue that the disclosure was incomplete and therefore misleading. (Pl. Opp. at 62). Next, defendants argue that any misstatements about the third-party transactions could not have been material because Liquid’s stock price did not decline enough when they were revealed publicly. When a company’s shares are traded in an efficient market, the Third Circuit applies a “special rule” of materiality: namely, that “the materiality of disclosed information may be measured post hoc by looking to the movement, in the period immediately following disclosure, of the price of the firm’s stock.” Oran v. Stafford, 226 F.3d 275, 282 (3d Cir. 2000) (“if a company’s disclosure of information has no effect on stock prices, ‘it follows that the information disclosed . . . was immaterial as a matter of law.’” (quoting In re Burlington Coat Factory Sec. Litig., 114 F.3d 1410, 1425 (3d Cir. 1997)); In re Merck & Co., Inc. Sec. Litig., 432 F.3d 261, 269 (3d Cir. 2005). Defendants assert that when Liquid disclosed the complete details about the Keller/Storms Loan and the Von Allmen Stock Transfer Agreement on September 24, 2015 (3AC ¶ 263), Liquid’s stock declined by only one penny, rebounded within seven days, and remained around that price until the stock was delisted from the NASDAQ. (Sandler Mot. at 32-34). To frame the facts in this defendant-friendly way is to omit the context. That initial “one penny” drop represented 11% of the stock price, and there was an unusually heavy volume of trading. (3AC ¶ 265). Over the next two trading days, the stock price continued to decline by another 5% and 8%, on even heavier volume. (Sandler Mot. Ex. Q at 1). At the pleading stage, that is sufficient to satisfy the “stock price test for materiality.” Courts have found such percentage drops to be sufficient. Steiner v. MedQuist Inc., No. 04-5487 (JBS), 2006 WL 2827740, at *11-12 (D.N.J. Sept. 29, 2006); In re Campbell Soup Co. Sec. Litig., 145 F. Supp.

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 56 of 84 PageID: 18650

2d 574, 588-89 (D.N.J. 2001) (considering a stock price drop of sixteen percent a significant change that indicated materiality).33 It is important to consider as well the broader context of this September 24, 2015 disclosure. See Steiner, 2006 WL 2827740, at *9. The complaint alleges a wider pattern of misleading conduct and piecemeal disclosure following the offering two years previously at about $9.00 per share. For example, it was after the market closed on December 23, 2014, that Liquid revealed it was suspending its relationship with QuantX, that QuantX was delinquent in its payments, that the “true current number” of Liquid’s customers was lower than previously advertised, and that Liquid was terminating its consulting agreement with Ferdinand. The following day, December 24, 2014, Liquid’s shares declined from $0.74 per share to $0.40 per share, a 45% drop, on unusually heavy volume. (3AC ¶¶ 232 – 235; Sandler Mot. Ex. Q). These disclosures are closely tied to the misstatements alleged in plaintiffs’ complaint, and the corresponding stock price plunge supports an inference of materiality. Subsequent news about QuantX winding down its operations, the pendency of the Audit Committee’s Investigation, and other disclosures involving the alleged misconduct over the next year resulted in further decreases in Liquid’s stock price—always more pronounced on the days of disclosure—until the price hit its relative low point in September 2015. (3AC ¶¶ 237 – 259; Sandler Mot. Ex. Q). For all these reasons, the allegation of materiality is sufficient. Further evaluation of the effect of the disclosures requires a factual context.34

33 Although the stock price rebounded and remained around that price until it was delisted, the delisting occurred on October 28, 2015, a mere month after the September 2015 disclosure. (3AC ¶ 27; Sandler Mot. Ex. Q). The track record, then, is a limited one, and subject to interpretation. 34 Steiner, 2006 WL 2827740, at *10-12 is particularly instructive on this point: [A] rise in share price does not preclude a finding that the information was material as a matter of law, so long as the share price was otherwise ‘negatively affected.’ For example, information may be material where its disclosure causes 56

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 57 of 84 PageID: 18651

Plaintiffs are less persuasive as to materiality in relation to the counting- customers issue in relation to QuantX. Still, I cannot factor out these disclosures from the “total mix” for purposes of the motion to dismiss. Plaintiffs have pled non-conclusory facts to suggest that the way Liquid counted its customers in its Registration Statement was misleading. Such an inference is lent additional plausibility by alleged statements of the confidential witness regarding the customer count. (3AC ¶ 147). It is true that Liquid disclosed its heavy dependence on revenues from QuantX. Still, even if a company hypothetically derived 75% of its revenue from one customer, a reasonable investor could well care whether the remaining 25% came from five additional customers or 25 additional customers. (See Pl. Opp. at 66, n. 12 (“Revenue and customer base are two distinct items, each important in their own right. Regardless of how much revenue Liquid disclosed it derived from QuantX, the fact remains that Defendants failed to accurately represent the number of Liquid customers in the Registration Statement.”)). And Liquid itself, in its public filings, identified customer count as a “Key Metric.” Determining the degree to which this alters the total mix of information requires factual determinations that are inappropriate on a Rule 12(b)(6) motion. See Adams Golf, 381 F.3d at 275. Plaintiffs further allege that when Liquid provided certain ACV figures about anticipated revenue it did so misleadingly because Liquid included

a stock to increase by less than it otherwise would have; or stay constant where it would have otherwise increased. . . . Additionally, the Court finds it important that information relating to the underlying fraud here is alleged to have been revealed through a series of partial disclosures rather than a single corrective disclosure. In such circumstances, where only tidbits of information are being released to the public at a time, the concomitant market reaction will likely be similarly restrained. (internal quotations and citations omitted); see also Dura Pharm., Inc. v. Broudo, 544 U.S. 336, 342-43 (2005). 57

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 58 of 84 PageID: 18652

subscription payments due from QuantX. Specifically, plaintiffs claim that even though Storms and Shifrin knew as of June 30, 2014 that QuantX was unable to pay what it owed (approximately $1.2 million), they included this amount in Liquid’s total ACV of $5.45 million in the July 31, 2014 Press Release. (3AC ¶¶ 211, 212, 280, 285) (“By including QuantX in its revenue projections and failing to disclose to investors that QuantX was unable to pay, Liquid misrepresented the financial and operational health of the [Liquid] to investors.”). Defendants cite the PSLRA’s “safe harbor” for forward-looking statements if there is sufficient cautionary language and the defendant lacked actual knowledge that the statements are false or misleading. See OFI Asset Mgmt. v. Cooper Tire & Rubber, 834 F.3d 481, 490 (3d Cir. 2016) (noting that the PSLRA “safe harbor” applies “if either the ‘forward-looking statement is. . . identified as [such], and is accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those in the forward-looking statement’ or the plaintiff fails to prove the forward- looking statement ‘was made with actual knowledge by [the speaker] that the statement was false or misleading. . . .’”) (quoting 15 U.S.C. § 78u–5(c)(1)). Plaintiffs respond persuasively that defendants are painting with too broad a brush. Statements must be parsed carefully, because only their forward-looking components are entitled to protection: “[A] mixed present/future statement is not entitled to the safe harbor with respect to the part of the statement that refers to the present.” Avaya, 564 F.3d at 255 (internal quotations and citations omitted). Where, for example, “the current state of sales. . . could be distinguished from the future projections,” the statements involving current sales are ineligible for safe harbor protection, and may be actionable if made in a materially misleading way with knowledge of falsity. Id. at 256. The complaint adequately alleges that this is such a “mixed” situation: defendants allegedly knew that $1.2 million of the $5.45 million ACV was

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 59 of 84 PageID: 18653

inaccurate based on their present knowledge about QuantX’s inability to pay. To that extent, then, the ACV disclosure “omitted material information about present conditions and risks.” (See Pl. Opp. at 78 (“In particular, Storms’ and Shifrin’s statements about QuantX concealed from investors the critical fact that QuantX was on the verge of insolvency and was already unable to pay Liquid money that it owed for subscription services.”) (emphasis in original)); In re Stone & Webster, Inc., Sec. Litig., 414 F.3d 187, 213 (1st Cir. 2005) (“[W]here the falsehood relates to a representation of present fact in the statement, it will not necessarily come within the statute’s safe harbor, even though the statement might also contain a projection of future financial experience.”).35 As to the actual-knowledge requirement, plaintiffs have adequately pled that the relevant speakers then knew about the problems QuantX had in paying its invoices, and also that they had the benefit of the findings of the Audit Committee Investigation. The extent of QuantX’s financial problems, the date its ruin became inevitable, and the time when the defendants’ knowledge of its financial difficulties transitioned from “late payments” to “inability to pay” (Storms and Shifrin Reply, DE 219 at 8) may pose questions of fact. The allegation, however, is adequate. Materiality is adequately alleged by reference to the Audit Committee’s determination that Liquid’s financial statements for the three- and nine-month period ended September 30, 2014 needed to be restated because of accounting errors involving the premature recognition of revenue from QuantX. Indeed, under Generally Accepted Accounting Principles (“GAAP”), restatements are required only to correct accounting errors that are material. In re Monster

35 Plaintiffs dispute the extent to which certain statements were accompanied by the appropriate cautionary language. (Pl. Opp. at 79-81). Plaintiffs also assert that the cautionary language itself was misleading in light of the facts known to the defendants at the time. See In re Harman Int’l Indus., Inc. Sec. Litig., 791 F.3d 90, 102 (D.C. Cir. 2015) (“cautionary language cannot be ‘meaningful’ if it is misleading in light of historical facts that were established at the time the statement was made.”) (internal citations and quotations omitted). These are disputed factual questions that are inappropriate for resolution at the motion to dismiss stage. 59

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 60 of 84 PageID: 18654

Worldwide, Inc. Sec. Litig., 251 F.R.D. 132, 138 (S.D.N.Y. 2008) (finding materiality); see also Hemmer Grp. v. SouthWest Water Co., 527 F. App’x 623, 626 (9th Cir. 2013) (“By definition, a restatement corrects financial data that was false when made.”). Other revelations from the Audit Committee’s Investigation also support the conclusion that plaintiffs have sufficiently pled materiality as to those issues respectively, including the Von Allmen Stock Transfer Agreement and the Keller/Storms Loan. (3AC ¶¶ 130 – 136). The motion to dismiss the 10(b) claim for failure to plead materiality is denied. ii. Scienter Defendants deny that plaintiffs have pleaded the strong inference of scienter needed to propel plaintiffs’ third amended complaint past a motion to dismiss. To adequately plead scienter under the PSLRA, a plaintiff must “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). That state of mind the Third Circuit has “described as one ‘embracing [an] intent to deceive, manipulate, or defraud,’ either knowingly or recklessly.” In re Hertz Glob. Holdings Inc, 905 F.3d at 114 (quoting Avaya, 564 F.3d at 252). A strong inference of scienter is pled “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.” Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 324, 127 S. Ct. 2499 (2007). That is not to say, however, that a plaintiff must “come forward with ‘smoking-gun’ evidence to meet the PSLRA’s pleading requirements.” In re Hertz Glob. Holdings Inc, 905 F.3d at 114. “Rather, in conducting the scienter analysis, courts must analyze the complaint holistically to determine whether its allegations, ‘taken collectively, give rise to a strong inference of scienter, not whether any individual allegation, scrutinized in isolation, meets that standard.’” Id. at 323, 127 S. Ct. 2499. “‘In assessing the allegations holistically as required by Tellabs, the federal courts certainly need not close

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 61 of 84 PageID: 18655

their eyes to circumstances that are probative of scienter viewed with a practical and common-sense perspective.’” Avaya, 564 F.3d at 272-73 (3d Cir. 2009) (quoting S. Ferry LP, No. 2 v. Killinger, 542 F.3d 776, 784 (9th Cir. 2008)). Applying that standard, I will discuss each basis for scienter and evaluate the potential plausible opposing inferences. Then I will consider the complaint as a whole in determining whether plaintiffs have shown a strong inference of scienter. In re Toronto-Dominion Bank Sec. Litig., No. 17-1665, 2018 WL 6381882, at *12 (D.N.J. Dec. 6, 2018). Overall, I find that the complaint’s allegations of scienter are adequate to repel defendants’ motions to dismiss. a. Insider Knowledge Plaintiffs first point to the fact that Storms was a party to the Keller/Storms Loan and Ferdinand was a party to the Von Allmen Stock Transfer Agreement. Both Storms and Ferdinand, however, signed the Liquid Registration Statement that included the allegedly misleading facts about those transactions. (3AC ¶¶ 272 – 279). To conceal transactions in which one was directly involved, say the plaintiffs, implies the required level of scienter. I agree. Scienter generally exists where a plaintiff alleges that a defendant in fact possessed the additional information which, if withheld, would make a public statement misleading or inaccurate. See Novak v. Kasaks, 216 F.3d 300, 311 (2d Cir. 2000) (noting that scienter is generally established when plaintiffs allege that the defendants “knew facts or had access to information suggesting that their public statements were not accurate”). If Storms and Ferdinand knew about the Keller/Storms Loan and the Von Allmen Stock Transfer Agreement, yet signed a Registration Statement that included allegedly misleading statements about these transactions, it is logical to infer that they knew or should have known the Registration Statement was misleading or inaccurate. The same can be said about Storms’ and Shifrin’s knowledge of QuantX’s liquidity problems, which predated the September 2014 financial statements

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 62 of 84 PageID: 18656

that needed to be restated to correct for premature recognition of QuantX revenue. Plaintiffs also contend that Ferdinand, as an owner of QuantX, knew or was reckless in not knowing, when he resigned from Liquid in April 2014, that QuantX would not be able to pay Liquid. (3AC ¶ 276). Thus, they argue, his misrepresentation of the QuantX reliance and receivable issues in the S-1 Registration Statement Liquid filed on April 5, 2014, in preparation for its secondary offering, was knowing. (Pl. Opp. at 86-87). Moreover, the Audit Committee Report confirms that QuantX would not have been able to pay Liquid in the second quarter of 2014 had QuantX not received additional financing from Von Allmen. (Id.). These details also support an inference of scienter because the defendants had insider knowledge which, because it was not disclosed, made public disclosures misleading. b. Emails between the Parties Plaintiffs also point to emails between the parties that allegedly support an inference of scienter. (3AC ¶¶ 74, 77 – 82, 280, 281). I agree that the allegations about these emails, if proven, would support an inference of scienter. The February 4, 2014 email suggests that Shifrin and Storms knew QuantX was delinquent in making payments. The March 28, 2014 email suggests that Ferdinand and Storms were aware of QuantX’s financial difficulties and how these difficulties would prove problematic for Liquid. The April 2014 emails imply that Storms, Shifrin, and Ferdinand knew of QuantX’s financial difficulties and were correspondingly altering financial figures. (3AC ¶ 82 (citing April 29, 2014 Email from Storms to Ferdinand: “To be fair [Shifrin] is trying to make numbers appear accurate when we all know we are stretching big time.”)). The full significance of these emails cannot be assessed without a factual record. Nonetheless, they move the scale in favor of inferring scienter at the pleading stage.

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 63 of 84 PageID: 18657

c. Audit Committee Investigation Report Next, plaintiffs say that the Audit Committee’s Investigation Report supports an inference of scienter. That Report concluded that Liquid and its management knew about QuantX’s inability to pay as early as June 2014 but failed to inform investors and continued to prematurely book QuantX revenue. (3AC ¶¶ 282 – 85). Plaintiffs also point to the defendants’ alleged lack of cooperation with the internal investigation as an indicator of scienter. (3AC ¶ 284). I agree that these allegations, too, suggest an inference of scienter. The Audit Committee’s Investigation Report was clear that as of “June 2014, certain members of management became aware that QuantX was experiencing significant liquidity issues, which created uncertainty thereafter as to QuantX’s ability to meet its financial obligations despite the fact that as of June 30, 2014, QuantX was not in arrears for any previously purchased software services.” (3AC ¶¶ 263, 264, 285). It also disclosed aspects of QuantX’s reliance on financial support from Von Allmen, the Von Allmen Stock Transfer Agreement, and the Keller/Storms Loan. Those facts had not been properly disclosed previously. d. Stock Sales Plaintiffs point to Ferdinand’s atypical stock sales as evidence of scienter. (3AC ¶¶ 286, 287). For example, on November 7, 2014, a Ferdinand entity (Ferdinand Holdings, LLC) sold 375,000 shares of Liquid stock for approximately $296,250. (Id.). This sale was after June 2014 (the time period that the Audit Committee determined Liquid management knew of QuantX’s significant liquidity issues) and after the emails from earlier in 2014 that suggest Ferdinand was aware of QuantX’s difficulties. The stock sale was, however, some six weeks before the December 23, 2014 corrective disclosure that announced to the public the problems involving QuantX. The timing is somewhat suspect, and Ferdinand had not sold any other shares on the public market prior to this point. In re Hertz Glob. Holdings Inc,

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 64 of 84 PageID: 18658

905 F.3d at 119 (“Insider trading will strengthen an inference of scienter when the ‘sales of company stock by insiders ... are unusual in scope or timing[.]’”) (quoting In re Suprema, 438 F.3d at 277). Had Ferdinand waited until after Liquid announced that it terminated its relationship with QuantX, the share price would have been far lower. (Id.). Still, Ferdinand did not dump his holdings; this sale amounted to a relatively small portion his Liquid shares. (Ferdinand Mot. at 38-39). See Malin v. XL Capital Ltd., 499 F. Supp. 2d 117, 153 (D. Conn. 2007), aff’d, 312 F. App’x 400 (2d Cir. 2009) (Noting that “even large stock sales are not probative of scienter unless they are significant in comparison to the total number of shares an insider holds.”). All in all, I consider the Ferdinand sale as part of the holistic picture, but I do not find that in itself it tips the scienter balance very strongly. e. Employee Departures Next, plaintiffs point to the departure of several key employees as indications of scienter. (3AC ¶¶ 288 – 296). They suggest that the resignations of Storms, Ferdinand, and Shifrin were in fact firings. (Id.). Moreover, say plaintiffs, the timing of the “resignations” is suspiciously correlated to Liquid’s various public statements. (Id.). For example, plaintiffs cite Grant Thorton’s “unexpected and abrupt resignation at or around the time the Audit Committee announced its final conclusions.” (Id.). Also cited in the complaint are statements from a confidential witness who claims that Shifrin was fired over the lack of internal controls over thefts within the Company, as well as Kent’s alleged statement to a process server that Storms, Shifrin, and Ferdinand were all fired in connection with wrongdoing that had occurred at Liquid. (Id.). I do not find that these allegations plausibly support a strong inference of scienter. “For a resignation to add to an inference of scienter, a pleading must set forth allegations suggesting a compelling inference that the resignation was the result of something other than ‘the reasonable assumption that the resignation occurred as a result of’ the release of bad news.” In re Hertz Glob.

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 65 of 84 PageID: 18659

Holdings Inc, 905 F.3d at 118. In short, there must be particularized allegations connecting the departures to the alleged misconduct. Here, there are suspicions and intimations of wrongdoing, but nothing solid connecting the employees’ departures to the particular wrongdoing alleged in plaintiffs’ complaint. The significance of these alleged firings is too speculative to tip the scienter analysis. f. Revised Risk Warnings Plaintiffs also point to a revised risk warning that Liquid added to its November 14, 2014 quarterly report. (3AC ¶¶ 297 – 299). Prior to this report, Liquid referred investors to the risk warning in its 2013 Form 10-K, which referred to Liquid’s “limited number of customers” and warned that the loss of customers could materially and adversely affect the company’s finances. (Id.). The updated warning on November 14, 2014 added a specific reference to QuantX’s operations. (Id.). QuantX in particular, it said, accounted for a substantial percentage of Liquid’s revenues and outstanding accounts receivable. Thus, the warning disclosed, QuantX’s business results “are highly tied to the performance of their investment managers and the amount of capital under management,” which could cause their payments to Liquid to be “quite variable in amounts and timing.” (Id.). The new risk warning added that “[a]s QuantX’s results are highly tied to their performance in the marketplace, there can be no assurance that future payments to [Liquid] will be made on a timely basis or in full.” (Id.). Plaintiffs portray this new risk warning as an acknowledgement that QuantX was unable to pay amounts owed under its contract, and an attempt by the defendants to inoculate themselves against accusations of wrongdoing. (Id.). This purported hedge, they allege, would “soften the ultimate revelation that [defendants] knew they would eventually have to make to investors) that QuantX would not be able pay Liquid.” (Id.). The enhanced risk warning debuted in November 2014, after the defendants allegedly knew about QuantX’s financial difficulties but before the

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 66 of 84 PageID: 18660

more detailed disclosures the following month. However, many of the core misrepresentations on this subject—the Counting QuantX Issue, the Von Allmen Financial Support Issue, the ACV anticipated revenue projections, and the September 2014 financial figures that had to be restated—occurred before November 2014. It is not necessary to posit some manipulative plan to explain why defendants would have perceived a need to ratchet up the warning. (Imagine how the complaint would read if they hadn’t.) This revised risk warning has only indirect relevance to scienter, then, and I do not accord it great significance. g. Withholding QuantX’s Financial Difficulties Plaintiffs claim that defendants Storms, Shifrin, and Ferdinand either knew or recklessly disregarded QuantX’s financial difficulties and the significance of those difficulties to Liquid’s viability. (3AC ¶¶ 300 – 305). According to plaintiffs, by June 2014 the defendants were on notice of QuantX’s financial difficulties and likely inability to pay. (Id.). Liquid was a small company and QuantX was by far its main customer. It follows, say plaintiffs, that Ferdinand, Storms, and Shifrin would necessarily have informed themselves of QuantX’s liquidity problems, which struck at the heart of Liquid’s core business and operations. Courts have considered such circumstantial evidence of scienter. For example, defendants have been deemed to be aware of the facts when they were part of a small management team and the alleged misstatements involved the company’s core business. See Suprema, 438 F.3d at 278 (finding circumstantial evidence of scienter in part due to the fact that the defendants were “leaders of a very small senior management team”); Campbell Soup, 145 F. Supp. 2d at 599 (noting that “knowledge may be imputed to individual defendants when the disclosures involve the company’s core business” and the defendants “had access to and received information about” the subject of the misrepresentations); Enzymotec, 2015 U.S. Dist. LEXIS 167403 (finding scienter where plaintiffs alleged “that the matter at

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 67 of 84 PageID: 18661

issue is central to the core business of the company, about which defendants spoke regularly”). The inference suggested here is perhaps a step removed. The facts relate to the business of QuantX, which in turn is alleged to be of vital concern to the business of Liquid. Still, these details do add somewhat to the total mix in favor of inferring scienter. Considering the other alleged facts that support knowledge of QuantX’s liquidity issues, in combination with its status as Liquid’s main customer, it is appropriate to infer that these defendants were aware of the financial difficulties facing QuantX at least by June 2014. By then, the Audit Committee concluded that “the uncertainty of collections from QuantX . . . became known to certain members of management.” (3AC ¶ 260) (quoting September 16, 2015 Form 8-K). Based on the closeness of the connection to Liquid’s core operations and the relative size of the company, it is reasonable to conclude that the CEO (Storms) and the CFO (Shifrin) would have had a vital interest in making themselves aware of such facts before then. h. Financial Gain Plaintiffs’ next argument—based on the venerable principle of cui bono—I find less persuasive. An inference of scienter, say the plaintiffs, arises from the mere fact that defendants Storms, Shifrin, and Ferdinand benefited financially from the alleged fraud. Thus they had a motive for misrepresentations and omissions, which may therefore be presumed purposeful. (3AC ¶¶ 306 – 315). The argument carries a risk of making every fraud self-proving; to succeed, it must be refined. Such refinement, however, is absent from plaintiffs’ presentation. Plaintiffs describe how in 2012 and 2013 Storms, Shifrin, and Ferdinand “raided” over $22 million from Liquid’s corporate accounts, excluding base salary and yearly bonuses. Placing that amount in perspective, they note that Liquid had only $2.3 million total revenue in 2012 and $4.8 million in 2013. (Id.). This dated from the pre-profitability period; Liquid was then posting a net loss of $46.7 million 2013. (Id.).

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 68 of 84 PageID: 18662

Still, plaintiffs do not specifically tie the general motive for financial gain to any particular misrepresentation or omission. Rather, they point to the defendants’ general financial interest in taking Liquid public and in sustaining its operations. It is true enough that the defendants were financially motivated, but that can be said of almost anyone in business, whether legitimate or illegitimate. See Kalnit v. Eichler, 264 F.3d 131, 139 (2d Cir. 2001) (“Motives that are generally possessed by most corporate directors and officers do not suffice; instead, plaintiffs must assert a concrete and personal benefit to the individual defendants resulting from the fraud.”). I therefore cannot find that the defendants’ financial motive, simpliciter, factors very much into the scienter analysis. i. SEC Investigation Finally, plaintiffs point to the SEC’s investigation of Liquid as evidence of scienter. (3AC ¶¶ 316 – 18). The general pendency of an SEC investigation does not necessarily support a strong inference of scienter as to particular allegations.36 “Although a government investigation is not altogether irrelevant to the scienter analysis, a decision by government agencies to investigate a company is not sufficient to meet the heightened Tellabs standard on its own.” Konkol, 590 F.3d at 402. “Government investigations can result from any number of causes. . . .” Id. The same can be said here. The plaintiffs only speculate that the SEC is investigating the particular misconduct alleged in

36 “An SEC investigation that has not resulted in charges or any finding of wrongdoing does not support an inference of scienter.” In re Hertz Glob. Holdings, Inc. Sec. Litig., Civil Action No. 13-7050, 2017 U.S. Dist. LEXIS 65156, at *53 n.6 (D.N.J. Apr. 27, 2017) (citing Cozzarelli v. Inspire Pharmaceuticals, 549 F.3d 618, 628 n.2 (4th Cir. 2008) (pending SEC investigation is “too speculative to add much, if anything, to an inference of scienter”); Brophy v. Jiangbo Pharms., Inc., 781 F.3d 1296, 1304 (11th Cir. 2015) (“The ‘mere existence of an SEC investigation’ likewise does not equip a reviewing court to explain which inferences might be available beyond a general suspicion of wrongdoing.”)), aff’d, 905 F.3d 106 (3d Cir. 2018); see also Konkol v. Diebold, Inc., 590 F.3d 390, 402 (6th Cir. 2009), abrogated on other grounds by Frank v. Dana Corp., 646 F.3d 954 (6th Cir. 2011); In re Hutchinson Tech., Inc. Secs. Litig., 536 F.3d 952, 962 (8th Cir. 2008) (pending SEC investigation not probative). 68

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 69 of 84 PageID: 18663

their complaint. Therefore, I do not factor the SEC investigation into the scienter analysis. j. Totality of the Circumstances Ultimately, the scienter analysis is “case specific” and should “rest not on the presence or absence of certain types of allegations but on a practical judgment about whether, accepting the whole factual picture painted by the Complaint, it is at least as likely as not that defendants acted with scienter.” Avaya, 564 F.3d at 269. “The pertinent question 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 267-68 (quoting Tellabs, 127 S. Ct. at 2509). I have, it is true, set aside a few of the plaintiffs’ contentions. Even so, the remaining allegations, considered holistically, more than suffice to meet the strong-inference pleading standard for scienter. Defendants’ motions to dismiss, to the extent they are based on failure to plead scienter, are denied. iii. Connection with the purchase or sale of a security The “in connection” element is defined broadly, and is established where the alleged misconduct and the securities transaction “coincide.” Rowinski v. Salomon Smith Barney Inc., 398 F.3d 294, 300 (3d Cir. 2005) (citing S.E.C. v. Zandford, 535 U.S. 813, 819 (2002)). This element “is satisfied where material misrepresentations are ‘disseminated to the public in a medium upon which a reasonable investor would rely.’” Rowinski, 398 F.3d at 301 (3d Cir. 2005) (quoting Semerenko v. Cendant Corp., 223 F.3d 165, 176 (3d Cir. 2000)). Those requirements are met here. iv. Reliance The reliance element “requires a showing of a causal nexus between the misrepresentation and the plaintiff’s injury, as well as a demonstration that the plaintiff exercised the diligence that a reasonable person under all of the circumstances would have exercised to protect his own interests.” Malack v. BDO Seidman, LLP, 617 F.3d 743, 747 (3d Cir. 2010) (internal quotation

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 70 of 84 PageID: 18664

omitted). However, “in an efficient market . . . misinformation directly affects the stock prices at which the investor trades and thus, through the inflated or deflated price, causes injury even in the absence of direct reliance.” Id. (citing Newton v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 259 F.3d 154, 175 (3d Cir. 2001)). Thus, “[r]eliance may be presumed when a fraudulent misrepresentation or omission impairs the value of a security traded in an efficient market.” Id. Since the plaintiffs have alleged that Liquid’s stock was traded on an efficient market, and because the materiality element has been sufficiently alleged, reliance here is presumed. Stoneridge Inv. Partners, LLC v. Sci.-Atlanta, 552 U.S. 148, 159, 128 S. Ct. 761, 769 (2008) (“[R]eliance is presumed when the statements at issue become public. The public information is reflected in the market price of the security. Then it can be assumed that an investor who buys or sells stock at the market price relies upon the statement.”); Steiner, 2006 WL 2827740, at *8, n.12. v. Economic Loss The economic loss element is straightforward—the plaintiffs must have “suffered actual economic loss.” Dura Pharm., 544 U.S. at 344. In a private right of action, the economic loss must result from the purchase or sale of securities, as opposed to merely holding securities that declined in value. See Chadbourne & Parke LLP v. Troice, 571 U.S. 377, 382, 134 S. Ct. 1058, 1063 (2014) (citing Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 737 (1975)). The losses here are alleged to have flowed directly from the purchase and sale of Liquid securities. This element is therefore adequately alleged. vi. Loss Causation To prevail in a private securities fraud action, plaintiff investors must prove “loss causation.” Erica P. John Fund, Inc. v. Halliburton Co., 563 U.S. 804, 807, 131 S. Ct. 2179, 2183 (2011); Dura Pharms., 544 U.S. at 342. This requires that the plaintiffs demonstrate that the defendants’ deceptive conduct caused their claimed economic loss. Erica P. John Fund, 563 U.S. at 807; see In

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 71 of 84 PageID: 18665

re DVI, Inc. Sec. Litig., 639 F.3d 623, 630-31 (3d Cir. 2011); McCabe v. Ernst & Young, LLP, 494 F.3d 418, 425 (3d Cir. 2007). Loss causation has been codified in the PSLRA, which requires that “the plaintiff shall have the burden of proving that the act or omission of the defendant . . . caused the loss for which the plaintiff seeks to recover damages.” 15 U.S.C. § 78u-4(b)(4). “The loss causation inquiry typically examines how directly the subject of the fraudulent statement caused the loss, and whether the resulting loss was a foreseeable outcome of the fraudulent statement.” McCabe, 494 F.3d at 430-31 (internal quotation marks and alteration omitted). The Third Circuit utilizes a “practical approach [to loss causation], in effect applying general causation principles.” Id. at 426 (citing EP MedSystems, Inc. v. EchoCath, Inc., 235 F.3d 865, 884 (3d Cir. 2000)); see Pure Earth, Inc. v. Call, 618 F. App’x 119, 123 (3d Cir. 2015) (recognizing that district court properly considered “general principles of causation, such as materiality, directness, foreseeability, and intervening causes.”). “In order to satisfy the loss causation requirement . . ., the plaintiff must show that the defendant misrepresented or omitted the very facts that were a substantial factor in causing the plaintiff’s economic loss.” McCabe, 494 F.3d at 426; see Semerenko, 223 F.3d at 184-85 (noting that loss causation element is satisfied when plaintiff shows that price of security at time of purchase was inflated “due to an alleged misrepresentation,” and that misrepresentation “proximately caused the decline in the security’s value”). In the Third Circuit, the loss causation analysis differs as between typical and non-typical Section 10(b) claims. McCabe, 494 F.3d at 425; see Pure Earth, 618 F. App’x at 122. A typical Section 10(b) claim is that the defendant made material public misrepresentations or omissions in order to affect the price of a publicly traded stock. This is sometimes referred to as fraud on the market. McCabe, 494 F.3d at 425 n.2; see, e.g., Semerenko, 223 F.3d at 169 (misstating earnings reports in a public statement). A non-typical case, in contrast, involves a misrepresentation or omission that directly

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 72 of 84 PageID: 18666

induces a particular party to enter into a private transaction. See McCabe, 494 F.3d at 420-21 (involving non-typical case of individualized misrepresentation inducing investors to purchase stock). See also Pure Earth, Inc. v. Call, 531 F. App’x 256, 260 (3d Cir. 2013) (“public announcements are made to the market at large in a typical § 10(b) claim, but in a non-typical § 10(b) claim, private misrepresentations are made to induce a particular individual to buy or sell securities.”). What is alleged here is a typical § 10(b) case, involving public misstatements that are “made to artificially inflate the pricing of a security in the public markets.” Id. (citing McCabe, 494 F.3d at 425). To establish loss causation in a typical § 10(b) case, a plaintiff must show that its “losses are related specifically to the market’s discovery of the misrepresentation and the corresponding decrease in price due to that misrepresentation.” Id.; see Payne v. DeLuca, 433 F. Supp. 2d 547, 607 (W.D. Pa. 2006) (“to successfully allege a cause of action, a plaintiff must allege that the share price fell significantly after the truth about the misstatement or omission became known.”). There may be intervening causes that disrupt the causal chain. The fact that a stock’s “price on the date of purchase was inflated because of [a] misrepresentation” does not necessarily establish that any later price decline was caused by correction of the misstatement. Dura Pharms., 544 U.S. at 342 (emphasis and internal quotation marks omitted). The drop could have resulted instead from “changed economic circumstances, changed investor expectations, new industry-specific or firm-specific facts, conditions, or other events.” Id. at 342-43. Such confounding factors may prevent the plaintiff from sustaining its burden in proving loss causation. Erica P. John Fund, 563 U.S. at 813. One way to establish loss causation is by means of a corrective- disclosure theory.37 In re Initial Public Offering Securities Litig., 399 F. Supp. 2d

37 A second method, the “materialization-of-the-risk” theory, has not been embraced by the U.S. Court of Appeals for the Third Circuit. See Nat’l Junior Baseball 72

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 73 of 84 PageID: 18667

298, 307 (S.D.N.Y. 2005). After a misrepresentation has been made, a corrective disclosure reveals “the falsity of the alleged misrepresentation, and [introduces] . . . new information to the market.” In re DVI, Inc. Sec. Litig., 2010 U.S. Dist. LEXIS 92888, at *24 (E.D. Pa. Sep. 3, 2010), aff’d, 639 F.3d 623 (3d Cir. 2011) (citing In re Retek Inc. Sec. Litig., 621 F. Supp. 2d 690, 698 (D. Minn. 2009); In re Omnicom Grp., Inc. Sec. Litig., 541 F. Supp. 2d 546, 551 (S.D.N.Y. 2008). To be significant, such a corrective disclosure “must at least relate back to the misrepresentation and not to some other negative information about the company.” In re Williams Sec. Litig.-WCG Subclass, 558 F.3d 1130, 1140 (10th Cir. 2009); see also Lentell v. Merrill Lynch, 396 F.3d 161, 173 (2d Cir. 2005) (providing that plaintiff must allege “that the subject of the fraudulent statement or omission was the cause of the actual loss suffered,’ i.e., that the misstatement or omission concealed something from the market that, when disclosed, negatively affected the value of the security.”) (emphasis in original) (quoting Suez Equity Investors, L.P. v. Toronto-Dominion Bank, 250 F.3d 87, 95 (2d Cir. 2001)), cert. denied, 546 U.S. 935, 126 S. Ct. 421, 163 L. Ed. 2d 321 (2005). It “need not,” however “precisely mirror the earlier misrepresentation.” In re DVI, Inc. Sec. Litig., 2010 U.S. Dist. LEXIS 92888, at *26 (quotation and citations omitted). Nor need the corrective disclosure occur all at once;

League v. PharmaNet Dev. Grp., Inc., 720 F. Supp. 2d 517, 563 n.35 (D.N.J. 2010) (rejecting materialization of the risk theory “because the Third Circuit has not endorsed this type of pleading as a way to establish loss causation.”) (citing Glover v. DeLuca, 2006 WL 2850448, at *33 (W.D. Pa. Sep. 29, 2006)); Newton, 259 F.3d at 181, n.24 (recognizing differences between Second Circuit and Third Circuit tests for loss causation). The ultimate loss causation inquiry under either the corrective disclosure theory or the materialization of a concealed risk theory is the same: whether a “misstatement or omission concealed something from the market that, when disclosed, negatively affected the value of the security.” See In re Vivendi, S.A. Sec. Litig., 838 F.3d 223, 261-62 (2d Cir. 2016) (emphasis omitted). That is, under either theory, the plaintiff must show “that the loss caused by the alleged fraud results from the ‘relevant truth . . . leak[ing] out.’” Id. at 261 (quoting Dura Pharms., 544 U.S. at 342). Because I conclude that plaintiffs have sufficiently pled facts under a corrective disclosure theory, I do not opine on the viability of a materialization of the risk theory or the adequacy of such allegations. 73

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 74 of 84 PageID: 18668

“[i]nstead, the truth may be revealed through a series of partial disclosures through which the truth gradually ‘leaks out.’” Id. at *27 (citations omitted); see Katyle v. Penn Nat’l Gaming, Inc., 637 F.3d 462, 472 (4th Cir. 2011) (“neither a single complete disclosure nor a fact-for-fact disclosure of the relevant truth to the market is a necessary prerequisite to establishing loss causation (although either may be sufficient)”). Of course any business will experience reverses, and stock prices may fall without any violation of Section 10(b) having occurred. Thus “disclosure of disappointing earnings or other indications of the ‘true financial condition’ of the company, without any evidence of a link between the disclosure and the fraud, is not a corrective disclosure.” Id. at *28 (citations omitted); see In re Tellium, Inc. Sec. Litig., 2005 U.S. Dist. LEXIS 26332, at *14 (D.N.J. Aug. 26, 2005) (“loss causation is not pled upon allegations of drops in stock price following an announcement of bad news that does not disclose the fraud.”); see also Lentell, 396 F.3d at 175 and n.4 (holding that stock price drop following downgrade of stock did not amount to corrective disclosure because downgrades did not reveal the falsity of prior recommendations). The Third Circuit has stated that loss causation is ordinarily an issue for the trier of fact. See EP Medsystems, 235 F.3d at 884. What is required at the pleading stage is that the plaintiff provide the defendant “with some indication of the loss and the causal connection that he has in mind.” Dura, 544 U.S. at 347. “[T]he plaintiff is required to plead that the decline in the stock price was caused by the market’s discovery of defendant’s fraud.” In re Intelligroup Sec. Litig., 527 F. Supp. 2d 262, 295 (D.N.J. 2007). A complaint is not required to “plead facts indicating that disclosure of the alleged fraud was the sole reason for the investment’s decline in value,” but “in order to survive defendants’ motion to dismiss, the complaint must contain facts sufficient to indicate that disclosure of the alleged fraud directly and proximately caused the investment’s decline in value or, at the very least, substantially contribut[ed to] the damages sustained by the plaintiff.” Id. at 297 (internal citations and quotations

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 75 of 84 PageID: 18669

omitted); see Semerenko, 223 F.3d at 186 (holding that plaintiffs pled loss causation where they alleged that stock price was inflated by misrepresentations concerning defendant’s financial condition and its willingness to complete proposed merger, and that price dropped when truth was made known by audit report that included findings of “fraudulent financial reporting” and the announced termination of the planned merger). Here, the complaint alleges that after a series of corrective disclosures, Liquid’s stock price dropped. The alleged corrective disclosures were these: Liquid revealed on December 23, 2014, that it was suspending its relationship with QuantX, that QuantX was delinquent in its payments, that the “true current number” of Liquid’s customers was lower than previously advertised, and that Liquid was terminating its consulting agreement with Ferdinand. Liquid’s shares declined from $0.74 per share at close of trading on December 23, 2014, to $0.40 per share at close on December 24, 2014. That was a drop of nearly 46%, on unusually heavy volume. (3AC ¶¶ 232 – 235; Sandler Mot. Ex. Q). These corrective disclosures are intimately tied to the earlier misstatements outlined in plaintiffs’ complaint. The corresponding stock price movement, given its nature and timing, is sufficient to support an inference of loss causation. Subsequent news about QuantX winding down its operations, the pendency of the Audit Committee’s Investigation, and other disclosures involving the alleged misconduct over the next year resulted in continual decreases to Liquid’s stock price—more pronounced on the days of disclosure— until the stock price reached a relative low point in September 2015. (3AC ¶¶ 237 – 387; Sandler Mot. Ex. Q). When Liquid revealed the complete details about the Keller/Storms Loan and the Von Allmen Stock Transfer Agreement on September 24, 2015, Liquid’s stock declined 11%, and declined another 5% and 8% over the next two trading days on unusually heavy volume. (3AC ¶ 263; Sandler Mot. Ex. Q at 1).

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 76 of 84 PageID: 18670

Defendants argue that other factors intervened. Plaintiffs, they say, cannot disaggregate the effects of these corrective disclosures from other factors that might have affected Liquid’s stock price. They may or may not turn out to be correct, but it is not possible or even necessary to back out confounding causes at the motion to dismiss stage. See EP Medsystems, 235 F.3d at 884; Dura, 544 U.S. at 347. Plaintiffs have alleged enough to satisfy the loss causation element. c. Rules 10b-5(a) and (c) Count IV of the third amended complaint alleges a cause of action under Rule 10b-5(a) and (c). Pursuant to Section 10(b) of the Exchange Act, the SEC promulgated Rule 10b-5, which makes it unlawful: (a) to employ any device scheme, or artifice to defraud, (b) to make any untrue statement or 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, or (c) to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.

17 C.F.R. § 240.10b-5.38 Count IV asserts “scheme liability” under subsections (a) and (c) of Rule 10b-5 against defendant Ferdinand only. Subsection 5(b) of the Rule, discussed in the preceding section, covers misleading statements or omissions of material fact; subsections 5(a) and (c), discussed here, cover deceptive acts or devices. See In re Glob. Crossing, Ltd. Sec. Litig., 322 F. Supp. 2d 319, 336 (S.D.N.Y. 2004) (observing cause of action exists not only for wrongdoing related to statements or omissions, but also for defrauding another in connection with purchase or sale of security, without

38 The United States Supreme Court has long recognized a private cause of action under Section 10(b) for violations of the statute and the corresponding SEC rule. Stoneridge Inv. Partners, LLC v. Scientific-Atlanta, Inc., 552 U.S. 148, 128 S. Ct. 761, 768 (2008) (citing Superintendent of Ins. of N.Y. v. Bankers Life & Cas. Co., 404 U.S. 6, 13 n. 9, 92 S. Ct. 165 (1971)). 76

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 77 of 84 PageID: 18671

regard to any statement). Claims brought under Rule 10b-5(a) and (c) are referred to as “scheme liability” claims, because they “make deceptive conduct actionable, as opposed to . . . deceptive statements.” In re DVI, Inc. Sec. Litig., 639 F.3d 623, 643 n.29 (3d Cir. 2011) (emphasis added). In order to state a valid claim under Rule 10b-5(a) or (c),39 a “plaintiff must allege (1) that the defendant committed a deceptive or manipulative act, (2) in furtherance of the alleged scheme to defraud, (3) with scienter, and (4) reliance.” Lucent, 610 F. Supp. at 350; see also Trustcash Holdings, 668 F. Supp. 2d at 661-62; In re Royal Dutch/Shell Transp. Sec. Litig., 380 F. Supp. 2d at 560. Because plaintiffs have not sufficiently alleged a deceptive / manipulative act or reliance, they have failed to state a claim for scheme liability under Rule 10b-5(a) and (c). At some level of abstraction, any collection of misleading statements might be characterized as a deceptive scheme, and vice versa. To some degree, then, this is merely a question of line-drawing. Courts have recognized “the importance of maintaining a distinction among the various Rule 10b-5 claims from one another, [and] that the lines dividing the different claims are [] ‘carefully maintained’ and are ‘well-established.’” WPP Luxembourg Gamma Three Sarl v. Spot Runner, Inc., 655 F.3d 1039, 1057 (9th Cir. 2011) (quoting Desai v. Deutsche Bank Sec. Ltd., 573 F.3d 931, 941 (9th Cir. 2009)). Accordingly, the Second, Eighth, and Ninth Circuits have held that 10b-5(a) or (c) scheme liability must involve deceptive conduct that goes beyond material misstatements or omissions actionable under 10b-5(b). See Pub. Pension Fund Grp. v. KV Pharma. Co., 679 F.3d 972, 987 (8th Cir. 2012) (“We join the Second and Ninth Circuits in recognizing a scheme liability claim must be based on conduct beyond misrepresentations or omissions actionable under Rule 10b-

39 All Section 10(b) claims, whether premised on statements or on conduct, must be pled in accordance with the PSLRA, which, as discussed above, requires that plaintiffs plead scienter with particularity. Tellabs, 551 U.S. 308, 313-14; see Section IV.b.ii, supra. 77

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 78 of 84 PageID: 18672

5(b).”); WPP Lux. Gamma Three Sarl, 655 F.3d at 1057 (“A defendant may only be liable as part of a fraudulent scheme based upon misrepresentations and omissions under Rules 10b-5(a) or (c) when the scheme also encompasses conduct beyond those misrepresentations or omissions.”); see also Desai, 573 F.3d at 938 (“Misrepresentations and most omissions fall under the prohibition of Rule 10b-5(b), whereas manipulative conduct typically constitutes ‘a scheme . . . to defraud’ in violation of Rule 10b-5(a) or a ‘course of business which operates . . . as a fraud or deceit upon any person’ in violation of Rule 10b- 5(c).”); Lentell v. Merrill Lynch & Co., 396 F.3d 161, 177 (2d Cir. 2005) (“[W]here the sole basis for such claims is alleged misrepresentations or omissions, plaintiffs have not made out a market manipulation claim under Rule 10b-5(a) and (c).”), cert. denied, 546 U.S. 935, 126 S. Ct. 421 (2005). That distinction was not directly addressed, but was implicitly recognized, by the Third Circuit in In re DVI, Inc. Sec. Litig., 639 F.3d at 645 (3d Cir. 2011) (recognizing that Supreme Court extended the reliance element, “which was already established as an element of Rule 10b-5(b) misrepresentation cases, to actions based on deceptive conduct” under scheme liability theories). District courts within this Circuit have consistently required that a subsection (a) or (c) claim encompass deceptive conduct that goes beyond a material misstatement or omission.40 Plaintiffs first allege that Ferdinand’s entering into the Von Allmen Stock Transfer Agreement was itself was a deceptive act.41 (3AC ¶¶ 345 – 346). What

40 See S.E.C. v. Lucent Technologies, Inc., 610 F. Supp. 2d 342, 360 (D.N.J. 2009); Trustcash Holdings, Inc. v. Moss, 668 F. Supp. 2d 650, 661-62 (D.N.J. 2009); In re Royal Dutch/Shell Transp. Sec. Litig., 380 F. Supp. 2d 509, 560 (D.N.J. 2006); Stichting Pensioenfonds ABP v. Merck & Co., 2012 U.S. Dist. LEXIS 113813, at *25 (D.N.J. Aug. 1, 2012). 41 The plaintiffs specifically confine their Rule 10b-5(a) and (c) theories to the Von Allmen Stock Transfer Agreement. (3AC ¶ 348) (“The core misconduct alleged in connection with this claim is [Ferdinand’s] agreement to sell/or purchase the Liquid shares itself. . . .”); (Pl. Opp. at 111-16) (“The crux of Plaintiffs’ [scheme liability] allegation. . . is that Ferdinand entered into an agreement that had the effect of 78

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 79 of 84 PageID: 18673

made this transaction deceptive, however, was not so much the agreement itself as its concealment. Ferdinand, Keller, and Von Allmen entered into that agreement pre-IPO. It provided that Von Allmen would receive some shares of Liquid stock for a certain amount of cash (the disclosed aspect), and later would receive additional shares of Liquid stock at no cost after the expiration of lock-up agreements (the undisclosed aspect). The latter, undisclosed aspect was omitted from Liquid’s Registration Statement. Even when the no- consideration transfer of shares to Von Allmen came to light, Liquid failed to disclose that it had occurred pursuant to a pre-IPO agreement. It is not alleged that this pre-IPO transaction was impermissible in itself. It was Liquid’s failure to disclose it that rendered it actionable; it was an omission of fact that made the agreement deceptive. The claim, then, properly falls under Rule 10b-5(b), not (a) or (c). See Lucent, 610 F. Supp. 2d at 361 (“The alleged ‘deception in this case arose from the failure to disclose the “real terms” of the deal,’ which is ‘nothing more than a reiteration of the misrepresentations and omissions that underlie plaintiff[’]s disclosure claim.’”) (quoting TCS Capital Mgmt., LLC v. Apax Partners, L.P., No. 06-13447, 2008 WL 650385, *22 (S.D.N.Y. Mar. 7, 2008)). That is not to say that deceptive conduct under Rule 10b-5(a) and (c) cannot overlap with misstatements or omissions under Rule 10b-5(b). But to be actionable, the conduct must be fraudulent in its own right, apart from any misrepresentations about the conduct. Where the deceptive conduct is alleged to be the act of making the statement or omission itself, the line between scheme liability and misrepresentation/omission liability can become impermissibly blurred.42

artificially inflating the price of Liquid’s stock during the IPO, and in so doing, Ferdinand perpetrated a fraud upon the public.”). 42 A related concern is that “[i]f the scope of ‘scheme liability’ is too broad, there is a risk that it becomes ‘a back door into liability for those who help others to make a false statement or omission,’ thus reviving aiding and abetting liability in private 79

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 80 of 84 PageID: 18674

If disclosure of the full details of the alleged misconduct would transform that conduct into otherwise permissible behavior, liability likely falls under Rule 10b-5(b). But if the complete details of the conduct had been fully disclosed, and that conduct would still be fraudulent, scheme liability under Rule 10b-5(a) and (c) is appropriate. See Stoneridge Inv. Partners, LLC v. Sci.- Atlanta, 552 U.S. 148, 158, 128 S. Ct. 761, 769 (2008) (noting that under Rule 10b-5, “[c]onduct itself can be deceptive”); Desai, 573 F.3d at 938; JAC Holding Enters., Inc. v. Atrium Capital Partners, LLC, 997 F. Supp. 2d 710, 735 (E.D. Mich. 2014) (holding that plaintiff sufficiently pled scheme liability claim where alleged conduct was “not just specific false statements . . . but also the planning and carrying out of a comprehensive scheme, by specific steps, to mislead the buyers as to JAC’s value”). Here, the “blurring” concern is present because the misrepresentations and omissions about the Von Allmen Transfer Agreement, if cured (or never made in the first place), would likely remove the alleged basis for scheme liability. Plaintiffs’ next theory is that Liquid’s entire IPO was premised on the execution of the Von Allmen Stock Transfer Agreement. Had this agreement not been executed, the theory runs, Von Allmen would not have purchased any shares in Liquid’s IPO, the IPO would have been undersubscribed, and Liquid would have never gone public. (3AC ¶ 347 (By engaging in the Von Allmen Stock Transfer, Ferdinand “was able to prevent the IPO from being undersubscribed and in all likelihood cancelled.”)). This but-for theory, while creative, is undercut by the lack of particularity in the pleadings. Plaintiffs really offer only speculation that Von Allmen would have pulled out entirely or purchased fewer shares, thus preventing Liquid from going public. Such hypothetical allegations do not meet the requisite pleading standards. See Section II, supra.

actions.” See Lucent, 610 F. Supp. 2d at 359 (quoting In re Parmalat Sec. Litig., 376 F. Supp. 2d 472, 503 (S.D.N.Y.2005)). 80

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 81 of 84 PageID: 18675

Plaintiffs’ final theory for scheme liability is that the Von Allmen Stock Transfer Agreement amounted to a form of market manipulation. Liquid’s registration stated that Von Allmen purchased 1,722,100 shares of Liquid common stock at the IPO price of $9.00 per share. His receipt of an additional 732,292 shares for no cost upon expiration of the lock-up agreements, however, altered the economic substance. In reality, say plaintiffs, he received 2,454,392 shares at an effective average per-share price of $6.31. (3AC ¶ 346) This, they say, constituted a manipulation of the market for Liquid shares. (Pl. Opp. at 111-16). Market manipulation, however, is “virtually a term of art when used in connection with securities markets. The term refers generally to practices, such as wash sales, matched orders, or rigged prices, that are intended to mislead investors by artificially affecting market activity.” Santa Fe Indus. v. Green, 430 U.S. 462, 476, 97 S. Ct. 1292 (1977) (citation omitted). “The gravamen of manipulation is deception of investors into believing that prices at which they purchase and sell securities are determined by the natural interplay of supply and demand, not rigged by manipulators.” GFL Advantage Fund, Ltd. v. Colkitt, 272 F.3d 189, 205 (3d Cir. 2001) (quoting Gurary v. Winehouse, 190 F.3d 37, 45 (2d Cir. 1999)). Ferdinand first argues, in effect, that manipulation requires active injection of false information into the market, as opposed to a mere omission. (Ferdinand Mot. at 34). I think the deceptive-act element is not so narrow. See GFL Advantage Fund, Ltd. v. Colkitt, 272 F.3d 189, 211 (3d Cir. 2001) (noting that conduct is manipulative if it “inject[s] inaccurate information into the marketplace or create[s] artificial demand for the securities”). Still, the main case on which plaintiffs rely involves far more direct, manipulative conduct than is present here. See In re ForceField Energy Inc. Sec. Litig., No. 15-3020 (NRB), 2017 WL 1319802, at *18 (S.D.N.Y. Mar. 29, 2017) (finding plaintiffs stated scheme liability claim under market manipulation theory where defendants “used offshore accounts to funnel money to a [third party] who

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 82 of 84 PageID: 18676

purchased and sold [the company’s stock] under [defendant’s] direction”; “paid writers to promote its stock without disclosing that the promotions were ultimately paid for by [the defendant’s company]”; and “paid kickbacks to various promoters and brokers who, in return, recommended [the company’s] stock to investors”). More definitively, however, I find that this theory does not support scheme liability because reliance is not pled. The presumption of reliance does not apply where the “deceptive acts were not communicated to the public.” Stoneridge, 552 U.S. 148, 159 (2008). As in Stoneridge, “[n]o member of the investing public had knowledge, either actual or presumed, of [Ferdinand’s] deceptive acts during the relevant times.” Id. Consequently, plaintiffs “cannot show reliance upon” the stock transfer agreement “except in an indirect chain that” is “too remote for liability.” Id. Moreover, insofar as plaintiffs’ reliance allegation rests on the theory that fraud created the market, it runs afoul of Third Circuit case law rejecting that theory. Malack v. BDO Seidman, LLP, 617 F.3d 743, 756 (3d Cir. 2010) (“The fraud-created-the-market theory lacks a basis in common sense, probability, or any of the other reasons commonly provided for the creation of a presumption.”).43 To be clear, I agree that this conduct was actionable, but to my mind it falls on the 10b-5(b) side of the line. I therefore grant Ferdinand’s motion to dismiss the Count IV Rule 10b-5(a) and (c) claim. d. Section 20(a) Count V alleges a claim of control-person liability under Section 20(a) of the Exchange Act against defendants Storms, Shifrin, and Ferdinand. (3AC ¶¶ 350 – 355). Section 20(a) “creates secondary liability for those determined to be ‘control persons’ of a corporation.” Wilson v. Bernstock, 195 F. Supp. 2d 619,

43 Further complicating the market manipulation theory is Ferdinand’s observation that the shares transferred pursuant to the Von Allmen Stock Transfer Agreement “came from private holdings, not Liquid itself, and thus had no bearing on the value of the shares Mr. Von Allmen bought directly from Liquid on the IPO.” (Ferdinand Mot. at 33). 82

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 83 of 84 PageID: 18677

642 (D.N.J. 2002). That Section provides that “[e]very person who, directly or indirectly, controls any person liable under any provision of” the Exchange Act will be held jointly and severally liable. 15 U.S. Code § 78t; see SEC v. J.W. Barclay & Co., 442 F.3d 834, 844 n.15 (3d Cir. 2006). Control is the key; the person “need not have induced a violation of the Exchange Act in order to have joint and several liability under § 20(a).” J.W. Barclay & Co., 442 F.3d at 844 n.15. In order to prove control person liability, plaintiffs “must allege: (1) an underlying primary violation by a controlled person or entity; (2) that Defendants exercised control over the primary violator; and (3) that the Defendants, as ‘controlling persons,’ were in some meaningful sense culpable participants in the fraud.” Wilson, 195 F. Supp. 2d at 642 (D.N.J. 2002) (citing Boguslavsky v. Kaplan, 159 F.3d 715, 720 (2d Cir. 1998); In re Party City Securities Litig,, 147 F. Supp. 2d 282, 317 (D.N.J. 2001)).44 Section 20(a) liability depends on there being an underlying violation of the Exchange Act. City of Edinburgh Council v. Pfizer, Inc., 754 F.3d 159, 177 (3d Cir. 2014); In re Toronto-Dominion Bank Sec. Litig., No. 17-1665, 2018 WL 6381882, at *4 (D.N.J. Dec. 6, 2018); cf. City of Dearborn Heights Act 345 Police & Fire Ret. Sys. v. Align Tech., Inc., 856 F.3d 605, 623 (9th Cir. 2017) (granting motion to dismiss because “without ‘a primary violation of federal securities law,’ Plaintiff cannot establish control person liability.”). I have already held that the complaint pleads such a violation, satisfying the first 20(a) element.

44 The Third Circuit has noted that district courts have differed as to the extent of the factual pleadings required at the motion to dismiss stage to sufficiently plead the third element of a Section 20(a) claim. Belmont v. MB Inv. Partners, Inc., 708 F.3d 470, 484 n.20 (3d Cir. 2013) (citing In re Able Labs. Sec. Litig., No. 05-2681, 2008 WL 1967509, at *29 (D.N.J. Mar. 24, 2008) (“[T]he Third Circuit does not require that culpable participation be pled in order to establish controlling person liability.”); In re Nice Sys., Ltd. Sec. Litig., 135 F. Supp. 2d 551, 588 (D.N.J. 2001) (noting that culpable participation is an element of a § 20(a) claim when deciding motion to dismiss)). It has not resolved the split. Id. Nor do I, because I find culpable participation has been sufficiently alleged here. 83

Case 2:15-cv-06969-KM-JBC Document 223 Filed 12/31/18 Page 84 of 84 PageID: 18678

With respect to the second element, control, the complaint alleges that during the relevant periods defendants Storms, Shifrin, and Ferdinand “participated in the operation and management of Liquid, and conducted and participated, directly and indirectly, in the conduct of Liquid’s business affairs.” (3AC ¶ 351). Because of their senior management positions, these defendants allegedly “were able to, and did, control the contents of the various reports, press releases and public filings” discussed in the complaint. (3AC ¶ 353). With respect to the third element, culpable participation, the complaint alleges that these defendants “knew the adverse non-public information about Liquid’s misstatement of income and expenses and false financial statements” by virtue of “their senior positions.” (3AC ¶ 353). It also alleges that these defendants “exercised their power and authority to cause Liquid” to engage in the wrongful conduct discussed in the complaint. In conjunction with the relevant allegations described throughout this opinion, the underlying liability, control, and culpable participation elements have been sufficiently stated. The motion to dismiss Count V is therefore denied. V. CONCLUSION For the reasons stated above, defendants’ motions to dismiss are GRANTED with respect to Count I and Count II under the Securities Act, as well as Count IV under the Exchange Act. Those counts are dismissed without prejudice to the filing of a properly supported motion to amend within 45 days. Defendants’ motions to dismiss are DENIED with respect to Count III and Count V under the Exchange Act. An appropriate Order follows. Dated: December 31, 2018

/s Kevin McNulty . KEVIN MCNULTY, U.S.D.J.