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Municipal Employees' Retirement System of Michigan v. Pier 1 Imports, Inc.

United States Court of Appeals, Fifth Circuit

August 19, 2019


          Appeal from the United States District Court for the Northern District of Texas

          Before SMITH, WIENER, and ELROD, Circuit Judges.


         "Fashion changes," says Coco Chanel, "but style endures."[1] In this securities fraud case, a class of investors alleges, among other things, that Pier 1 Imports, Inc. is a "trend-based fashion retailer" whose inventory carried a significant markdown risk that the company's executives failed to disclose. Because we conclude that Pier 1 operates largely in the sturdier business of style and that the investors failed to adequately plead scienter, we AFFIRM.


         Pier 1 Imports, Inc., is a Fort Worth-based retailer that sells home furnishings at more than 1, 000 stores in the United States and Canada and through its website. In 2007, in the wake of seven consecutive quarterly losses and total losses of $227 million for that fiscal year, Pier 1 tapped defendant Alex Smith as its new CEO. Smith, working with defendant Charles Turner, Pier 1's CFO, had significantly improved the company's financial position by 2009. At that point, however, Pier 1 faced new pressure to respond to consumer demand for on-line shopping. To enter this market, in August 2012, Smith and Turner launched an initiative called "1 Pier 1," which would allow customers to shop on-line and have their purchases either shipped to their homes or picked up without shipping charges at Pier 1's U.S. stores.

         The 1 Pier 1 initiative did not go as planned. Pier 1's stock plummeted from $18.57 on April 28, 2014, to $4.75 on December 17, 2015-a drop of almost 75 percent. Disappointed, a class of investors who had purchased Pier 1's stock between April 10, 2014, and December 17, 2015 (the "Class Period"), brought this lawsuit, claiming that Pier 1, Smith, and Turner (collectively, "the company") illegally hid and misrepresented information that, once disclosed, caused this stock-price tailspin.

         Specifically, the complaint alleges that, while carrying out the 1 Pier 1 initiative, the company failed to tell investors about significant "markdown risk"-the risk that Pier 1 had so much inventory that it could get rid of it only by lowering prices dramatically. According to the investors, this markdown risk was exacerbated by the fact that Pier 1's "seasonal" and "specialty fashion" products are "subject to changing consumer tastes." The investors allege that Pier 1's distribution channels were so severely "flooded with excess merchandise" that the company had to employ outside labor and third parties to manage it. To keep up, the investors note, Pier 1 made nondiscretionary, capital-improvement expenditures that were almost seven times higher than the yearly average for the ten previous years.

         According to the investors' amended complaint, Pier 1 did not start to tell investors about the existence and magnitude of its markdown risk until the company made a series of "partial corrective disclosures" in 2015. On February 10, 2015, Pier 1 announced that it had higher costs because of "unplanned supply chain expenses" and announced the departure of Turner as CFO. In response to these disclosures, the price of Pier 1's stock fell 25 percent overnight-from $16.97 per share on February 10, 2015, to $12.84 per share on February 11, 2015.

         The investors allege that, during the months that followed, Pier 1 made additional misrepresentations and omissions, telling investors that Pier 1's inventory complexion was "clean," "healthy," and did "not pose a significant immediate markdown risk." On September 24, 2015, however, Pier 1 announced that its inventory had caused "issues" within its supply chain, that there were "inventory related inefficiencies within the Company's distribution center network," and that it needed to turn to clearance activity to sell off the extra inventory. The investors allege that, in response to these announcements, Pier 1's stock price fell by more than 12 percent-from $8.67 per share on September 24, 2015, to $7.61 per share on September 25, 2015.

         The investors further allege that on December 16, 2015-the penultimate day of the Class Period-Pier 1 announced that it would take at least eighteen months before inventory levels would be in line with actual demand. Pier 1's interim CFO, Laura Coffey, also disclosed that only four of the company's six distribution centers were operating with "acceptable levels of efficiencies." The investors allege that, in response to these disclosures, Pier 1's shares again plummeted by 20 percent in one day-from $5.95 per share on December 16, 2015, to $4.75 on December 17, 2015.

         The investors filed their complaint in the Northern District of Texas, asserting that Pier 1 and its executives violated § 10(b) of the Securities Exchange Act and SEC Rule 10b-5 by failing to disclose Pier 1's significant markdown risk. See 15 U.S.C. § 78j(b); 17 C.F.R. § 240.10b-5. Pier 1 moved to dismiss under Federal Rule of Civil Procedure 12(b)(6). The district court granted the motion, finding that the investors failed to plead facts that would support a strong inference of scienter, the required mental state for these claims. The court allowed the investors to amend their complaint to fix this defect.

         After the investors filed an amended complaint, Pier 1 again moved to dismiss. This time, the district court dismissed the case with prejudice, concluding that "[a]lthough [the investors] ha[d] made substantial changes to [their] pleading in an attempt to cure the deficiencies identified in [the previous] Order, . . . the Amended Complaint still fail[ed] to plead the requisite strong inference of scienter." The investors appealed.


         We review de novo a district court's dismissal of a civil complaint. Barrie v. Intervoice-Brite, Inc., 397 F.3d 249, 254 (5th Cir. 2005). To survive a Rule 12(b)(6) motion to dismiss, a plaintiff's complaint must comply with the familiar Twombly/Iqbal standard, which requires the complaint to contain sufficient factual matter to state a claim for relief that is plausible on its face. See Emps.' Ret. Sys. v. Whole Foods Mkt., Inc., 905 F.3d 892, 899 (5th Cir. 2018). Because the investors allege securities fraud, their amended complaint must also satisfy Federal Rule of Civil Procedure 9(b), which requires that a plaintiff "state with particularity the circumstances constituting fraud or mistake." Under Rule 9(b), "a plaintiff must 'identify the time, place, and contents of the false representations, as well as the identity of the person making the misrepresentation and what that person obtained thereby.'" Whole Foods, 905 F.3d at 899 (alteration omitted) (quoting Owens v. Jastrow, 789 F.3d 529, 535 (5th Cir. 2015)).

         To state a claim under § 10(b) of the Securities Exchange Act and SEC Rule 10b-5, a plaintiff must allege: (1) a material misrepresentation or omission; (2) scienter (a "wrongful state of mind"); (3) a connection with the purchase or sale of a security; (4) reliance; (5) economic loss; and (6) a "causal connection between the material misrepresentation and the loss." Dura Pharm., Inc. v. Broudo, 544 U.S. 336, 341-42 (2005). To impute liability to Smith and Turner-the alleged "control persons" of Pier 1 under § 20(a) of the Securities Exchange Act-the investors had to show a "primary violation" under § 10(b): If the § 10(b) claim is inadequate, then so is the § 20(a) claim. Southland Sec. Corp. v. INSpire Ins. Sols., Inc., 365 F.3d 353, 383 (5th Cir. 2004). Allegations under § 10(b) and Rule 10b-5 must comply with the Private Securities Litigation Reform Act (PSLRA), which requires plaintiffs to "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, . . . state with particularity all facts on which that belief is formed." 15 U.S.C. § 78u-4(b)(1). In pleading scienter, plaintiffs must "state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind." Id. § 78u-4(b)(2)(A).


         We agree with the district court that the investors have failed to plead a "strong inference" of scienter. Scienter is a "mental state embracing intent to deceive, manipulate, or defraud." Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 319 (2007) (quoting Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 n.12 (1976)). Both intent and "severe recklessness" are sufficient. Nathenson v. Zonagen, Inc., 267 F.3d 400, 408-09 (5th Cir. 2001). Plaintiffs properly plead scienter when they allege that a company knowingly or recklessly made statements to the market while aware of facts that, if not disclosed, would render those statements misleading. See Plotkin v. IP Axess Inc., 407 F.3d 690, 696-97 (5th Cir. 2005).

         The investors raise two challenges to the district court's dismissal of their original and amended complaints: (1) that in dismissing their original complaint, the district court improperly analyzed their scienter allegations; and (2) that the scienter allegations in their amended complaint were sufficient to state a securities fraud claim. Neither argument persuades us that the district court erred.


         We have explained that a district court "may best make sense of scienter allegations by first looking to the contribution of each individual allegation to a strong inference of scienter, especially in a complicated case[.]" Owens, 789 F.3d at 537. If any "single allegation, standing alone, create[s] a strong inference of scienter," then the court may stop there. Id. If it does not, then the district court must take "a holistic look at all the scienter allegations." Id.

         The investors contend that, in evaluating their original complaint, the district court failed to follow this analysis and instead analyzed all of their allegations collectively under Diodes, which holds that, in four "special circumstances," a defendant's corporate title coupled with a severe problem within the company sufficiently alleges scienter. Local 731 I.B. of T. Excavators & Pavers Pension Tr. Fund v. Diodes, Inc., 810 F.3d 951, 959 (5th Cir. 2016). This was error, the investors argue, because Diodes does not apply here. They also complain that the district court failed to correct this error when it dismissed their amended complaint. We disagree.

         The district court's order dismissing the original complaint first concluded that the investors failed to allege scienter because, inter alia, (1) Smith and Turner lacked a motive to commit fraud; (2) Pier 1 "repeatedly disclosed . . . [its] increasing inventory, disappointing sales, and the risk of markdowns"; and (3) the investors' proffered "general accounts from confidential witnesses" did not support their scienter allegations. After undertaking this evaluation of the investors' allegations, the district court then assessed whether Diodes applied and found that it did not ...

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