Chinese Pharma Co. Ducks Investor Suit Over Botched Sale
Share us on: By Jessica Corso
Law360, New York (September 24, 2014, 5:10 PM ET) -- A California federal judge on Tuesday tossed a putative class action brought by shareholders of China-based American Oriental Bioengineering Inc., saying that the board of directors' failure to disclose an unsuccessful subsidiary sale did not amount to securities fraud.
U.S. District Judge Fernando M. Olguin ruled that the lead plaintiffs failed to prove that AOB acted recklessly in releasing several quarterly earnings reports that glossed over the fact that it sold Nuo Hua Investment Co. Ltd. at a loss of nearly $1 million or that it still, a year later, hadn’t been paid in full for the $38.6 million transaction.
“At best, the allegations appear to support claims of gross negligence or incompetence, but that is not enough to state a claim for securities fraud,” Judge Olguin said.
The judge dismissed the complaint without leave to amend.
Lead plaintiffs Richard Deutner and ITENT EDV Dienstleistungs GmbH alleged that the company and its directors confessed to the alleged fraud via restatements of their 2010 financial reports that identified material weaknesses in the company’s financial controls.
Those material weaknesses, they said, were responsible for the fault in the original financial statements, which continued to list Nuo Hua as a long-term asset even after it had been sold.
Shortly after the 2011 restatements informed shareholders of the sale to Beijing Pharmaceutical Group Co. Ltd., the company revealed to the U.S. Securities and Exchange Commission that it still had not received full consideration from Beijing during a 2012 inquiry into the transaction.
However, the shareholders allege, the company continued to deceive the SEC by failing to inform it that none of its members were familiar with U.S. accounting practices or that it had failed to implement necessary financial oversight standards.
And independent auditor Ernst & Young Global Ltd. withdrew its 2009 and 2010 opinions of the company’s financial statements after it said concerns over inconsistencies were ignored, according to Tuesday's opinion.
The company addressed those inconsistencies in subsequent filings in 2013, saying that it hadn’t maintained the financial reporting structure necessary to support its complex operations and that its directors lacked the knowledge needed to comply with U.S. accounting standards.
As a result of these amended statements, AOB went from reporting a net gain of $14 million in 2010 to a net loss of over $67 million a year later, raising "substantial doubt about the company’s ability to continue," according to an SEC filing.
The company argued, however, that none of these revisions was sufficient to prove fraud. And Judge Olguin agreed on Tuesday, saying that plaintiffs’ allegations failed to suggest the motive or reckless behavior necessary to maintain a securities claim.
AOB attorneys Amanda Sherman and Eugene Licker of Loeb & Loeb LLP told Law360 on Wednesday they were happy with the ruling, saying that "the court’s dismissal ... demonstrates that plaintiffs need to do much more than present a rote recitation of formulaic claims based solely on public filings."
Representatives for the plaintiffs were unavailable for immediate comment on Wednesday.
American Oriental is being represented by Amanda J. Sherman and Eugene R. Licker of Loeb & Loeb LLP.
Lead plaintiffs are being represented by David E. Bower and Richard W. Gonnello of Faruqi & Faruqi LLP.
The case is Kevin McGee v. American Oriental Bioengineering Inc. et al., case number 2:12-cv-05476, in the U.S. District Court for the Central District of California.
--Editing by Brian Baresch.
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