The opinion of the court was delivered by: JOSE LINARES, District Judge
[EDITOR'S NOTE: This case is unpublished as indicated by the issuing court.] OPINION AND ORDER
This matter comes before the Court on the motion of Defendants
PDI, Inc. ("PDI") and several PDI officers (hereinafter,
collectively "Defendants") to dismiss the Second Consolidated and
Amended Class Action Complaint and Jury Demand (hereinafter
"Second Amended Complaint") pursuant to Federal Rules of Civil
Procedure 12(b)(6) and 9(b). This is a securities fraud class
action suit brought by individuals who purchased the common stock
of PDI between May 22, 2001 and August 12, 2002 (hereinafter, the
"Class Period"). Lead Plaintiffs Gary Kessel, Rita Lesser and
Lewis Lesser (collectively, "Plaintiffs") are purchasers of
common stock during the Class Period. Plaintiffs aver that
Defendants defrauded investors by artificially inflating that
value of the common stock through accounting manipulations and
false statements. The Court has jurisdiction over this action
pursuant to 28 U.S.C. § 1331. Oral argument was previously heard
on this matter. For the reasons discussed below, Defendants'
motion to dismiss is GRANTED in part, and DENIED in part. FACTUAL AND PROCEDURAL BACKGROUND
For purposes of the instant motion, the relevant facts are as
follows. PDI is a Delaware corporation, with its principal
executive offices in Upper Saddle River, New Jersey. (Second
Amended Complaint (hereinafter "Compl."), ¶ 7). PDI provides
customized sales and marketing services to the pharmaceutical
industry. (Id. ¶ 21). PDI is a publicly held corporation whose
common stock is registered with the United States Securities and
Exchange Commission ("SEC") and is traded on the NASDAQ National
Market. (Id. ¶ 11). Defendant Charles T. Saldarini was the
Chief Executive Officer and Vice Chairman of the Board of
Directors of PDI during the Class Period. (Id. ¶ 8). Defendant
Bernard C. Boyle was PDI's Chief Financial Officer and Executive
Vice President during the Class Period (collectively Saldarini
and Boyle will be referred to as "Individual Defendants"
hereinafter). (Id. ¶ 9).
Until October 2000, PDI's business historically consisted
entirely of what is referred to as "contract sales" or
"professional detailing," which consists of providing sales
representatives to pharmaceutical manufacturers who choose to
outsource selling activities for particular drugs. (Compl. ¶ 21).
This business is referred to as "fee-for-service" because PDI's
revenues are principally derived from the services that it
provides, not the sale of the particular drug. (Id.). For
several year, up to and including 2000, PDI's contract sales
business enjoyed substantial growth in revenues and earnings.
(Id. ¶ 22). In a November 2001 conference call, Defendant
Saldarini stated that PDI knew that it was necessary to "develop
additional avenues of growth . . . beyond just contract sales."
(Compl. ¶ 22). Consequently, PDI sought to develop alternative
types of arrangements for the sales and marketing of drugs for
pharmaceutical companies. (Id.). The events that triggered the
present litigation are as follows: The Ceftin Contract
PDI negotiated its first non fee-for-service arrangement with
GlaxoSmithKline ("GSK") in October 2000, which gave PDI exclusive
United States marketing, sales and distribution rights for Ceftin
tablets and oral suspension.*fn1 At the time PDI entered
into the Ceftin contract, Ceftin had a 10.8% share of the
Cephalosporin antibiotic market. (Compl. ¶ 24). This contract
with GSK required PDI to make minimum quarterly Ceftin purchases
and provided that the agreement could be cancelled by either
party upon 120 days written notice. (Id.). Although PDI
allegedly publicly stated that the Ceftin contract with GSK had a
five-year term, the Ceftin patent was due to expire in 2003.
Plaintiffs allege that upon executing the contract, PDI
promptly took steps to increase Ceftin sales and profits for the
fourth quarter of 2000, by inducing drug distributors to stock up
on Ceftin. (Compl. ¶ 25). As a result, that quarter, PDI reported
$101 million of Ceftin revenues, representing more than half of
PDI's total reported revenues for that period. (Id.).
Additionally, Ceftin sales also had a dramatic effect on PDI's
reported earnings for the fourth quarter of 2000, which increased
to $0.77 per share, from $0.24 per share in the fourth quarter of
1999 and $0.41 per share in the third quarter of 2000. (Id.).
Plaintiffs contend that PDI promoted the product for uses which
had not been approved by the United States Food and Drug
Administration ("FDA"), although there was no substantial
evidence that the drug was effective for the unapproved uses.
(Id.). Consequently, in March 2001, the FDA advised PDI that
their promotional materials violated the U.S. Food, Drug and Cosmetic Act and applicable FDA regulations, and ordered PDI to
"immediately cease distribution of the sales ads and other
similar promotional materials for Ceftin that contain the same or
similar claims or presentations." (Compl. ¶ 26). Following the
FDA's actions, Ceftin's share of the Cephalosporin market
declined such that by May 2001, it was 10.7%.*fn2 (Id. ¶
27). By July 2001, Ceftin's share of prescriptions for
Cephalospotin fell further to 8.7%, representing a 20% decline
from the drug's market share at the commencement of the Ceftin
contract, and a decline of more than 30% from the level attained
when the aforementioned marketing materials were in use. (Id.).
Additionally, Plaintiffs allege that when faced with this
declining market share in the second quarter of 2001, PDI
attempted to boost Ceftin's sales by announcing that price
increases were to take effect in the beginning of July of that
year, thereby inducing distributors to increase the Ceftin
inventories in anticipation of the price change. (Compl. ¶ 28).
As a result, PDI's reported Ceftin's sales in the second quarter
of 2001 increased by an additional $10 million to $15 million and
added $0.13-0.20 per share to its reported earnings. (Id.).
Approximately one and one-half years prior to PDI entering into
the Ceftin contract with GSK, another company, Ranbaxy
Pharmaceuticals, Inc. ("Ranbaxy"), had applied to the FDA for
marketing approval for a generic version of Ceftin. GSK initiated
a patent infringement action seeking to enjoin Ranbaxy from
producing the generic version of Ceftin. (Compl. ¶ 29). The
district court entered an injunction against Ranbaxy, who then
appealed to the United States Court of Appeals for the Federal
Circuit. (Id.). In August 2001, the Federal Circuit reversed
the lower court's decision on grounds that Ranbaxy's version of
Ceftin did not violate the Ceftin patent. (Compl. ¶ 30). Plaintiffs contend that Defendants
allegedly assured investors that reduced profits were the "worst
case scenario" for the Ceftin contract because the projections
were based upon the first launch of the generic form on October
1, 2001, and PDI could avoid losses by terminating the contract.
(Id.). Plaintiffs allege that not only was the October 1, 2001
date exaggerated (since no generic form of Ceftin was ever
introduced in 2001), the representation concerning contract
termination was false given PDI's knowledge of the millions of
dollars in write-offs of capitalized contract acquisition costs,
the continued liability for sales returns, and the cost of
administering Medicaid rebates as a result of the Ceftin contract
termination. (Id.). It was not until November 13, 2001 that PDI
publicly disclosed that PDI would incur these costs if the Ceftin
contract was terminated. (Id.).
In 2001, Novartis Pharmaceutical Corporation ("Novartis") was
selling three drugs for treating hypertension, namely, Diovan,
Lotrel and Lotensin, and was expected to introduce five new drugs
in 2002. (Compl. ¶¶ 33-35). Lotensin, an angiotension converting
enzyme ("ACE") inhibitor had been selling in the market for many
years and was nearing the end of its patent life. (Id. ¶ 35).
Plaintiffs allege that in order to develop a relationship with
Novartis, which PDI hoped would lead to profitable future
contracts, PDI agreed to market Lotensin in the United States at
its own expense. (Id. ¶ 36). PDI's sole compensation for these
efforts was a split of net Lotensin sales over a baseline amount.
(Id.). Plaintiffs allege that the exact amount, undisclosed at
the time, would cause PDI to lose money on the contract
throughout 2001. (Id.) Additionally, Plaintiffs contend that
although Lotensin's market share was decreasing at this time, PDI
was guaranteed to lose money on the contract even if it realized
a substantial increase in market share. (Id.).
Plaintiffs maintain that the baseline above which PDI would
profit from Lotensin sales was so high that PDI lost $5 million
on the contract in that quarter, even though Lotensin's share of
the ACE inhibitor market had increased by the fourth quarter of
2001. (Compl. ¶ 36). According to Plaintiffs, PDI would have been
required to increase Lotensin sales by another $10 million in the
quarter in order to offset that loss . (Id.). Further, in order
to achieve a projected $0.25 earnings per share, Lotensin sales
would have had to have been increased over 30%. (Id.).
Plaintiffs further allege that Defendants concealed this
impediment to profitability that was created by the baseline.
(Compl. ¶ 37). In support of this assertion, Plaintiffs rely on a
statement made analyst in May 23, 2001, where he stated that
"PDI's main goal with Lotensin will be to try and slow-down its
market share deterioration. . . ." (Id.). It is Plaintiffs'
contention that this was misleading because as stated above,
Defendants believed that PDI needed to do a lot more than merely
"slow-down" Lotensin's market share deterioration. (Id.).
Plaintiffs claim that PDI regularly forecasted the future
earnings and the earnings effect of large contract gains and
losses. (Compl. ¶ 38). Thus, they maintain that PDI told the
public that although the contract would be unprofitable in the
second and third quarters of 2001, it would produce earnings of
$0.25 per share by the fourth quarter of that year, knowing that
this was impossible. (Id. ¶ 38).
When the Defendants finally disclosed that the Lotensin
contract would not produce $0.25 earnings in the fourth quarter
in 2001, but would produce a loss of $0.23 per share, Defendants
blamed this disparity on delay in completing market research and
the preparation of marketing materials. (Compl. ¶ 39). Defendants
also stated, for the first time, that the Lotensin contract was a
"long-term strategic opportunity," presumably aimed at obtaining
future profitable business from Novartis. (Id.). At the time, Defendants
announced the Lotensin contract, they refused to reveal the
specific baselines that would be used to compute PDI's revenues.
(Id. ¶ 40). Plaintiffs admit that Defendants revealed that the
baseline amount would decline over the contract life. (Id.).
Despite the decline in 2002, PDI lost additional money on the
contract in the first quarter of 2002, although Lotensin's market
share had increased. (Id. ¶ 40). Similarly, at this time the
Defendants stated that PDI would reduce the number of
representatives assigned to sell Lotensin by 75%. (Id.).
On October 2, 2001, PDI declared that it entered into an
agreement with Eli Lilly and Company ("Eli Lilly"), to co-promote
Evista, an osteoporosis drug, in the United States. (Compl. ¶
41). Pursuant to the agreement, PDI would provide a sizeable
number of sales representatives to augment the existing Eli Lilly
sales force already promoting Evista. (Id.). PDI's compensation
for its participation in the co-promotion of Evista was a split
of net sales over the baseline amount. (Id. ¶ 43). The
specifics of the Evista agreement, however, were not publicly
disclosed. (Id. ¶ 44).
At the end of the Class Period, Defendants admitted that the
Evista contract was a "long-term strategic opportunity." (Compl.
¶ 46). However, according to Plaintiffs, it was not until
November 2002 that Defendants admitted that PDI cancelled the
Evista contract because it was expected to continue to incur tens
of millions of dollars of losses. (Id.). Given that the
contract committed PDI to a certain level of spending for
promotional activities which would result in expenses of
approximately $32-48 million per year, the Evista contract,
Plaintiffs assert, needed to exceed the contractual baseline by
$32-48 million in order to break even. (Id. ¶ 47). By November 2002, the Evista contract had cost PDI almost $50
million in losses as a result of prior losses on the contract in
addition to a $9.1 million charge related to the contract. (Id.
Thereafter, Eli Lilly awarded a contract involving the
promotion of the drug Cymbalta, a drug used to treat depression,
to a competitor, Innovex. (Id. ¶ 49). The Cymbalta contract
could have been very profitable for PDI as there is, as
Plaintiffs explain, significant promotional potential for new
prescription drugs that treat depression. (Id.).
Allegedly False and Misleading Statements
On May 22, 2001, the first day of the Class Period, PDI held a
conference call with securities analysts to discuss the contract
with Novartis for the distribution of Lotensin. (Compl. ¶ 51).
During the conference call, Saldarini represented that the
Lotensin agreement was expected to add $0.25 earnings per share
to the company's fourth quarter 2001 earnings, although startup
costs, such as training and promotional costs, would likely
depress earnings for the second and third quarters. (Id.).
Plaintiffs claim that these statements were intended to increase
the price of PDI common stock. (Id. ¶ 52). Plaintiffs further
claim that the price did increase by $5.10 following the May 22
conference from $86.08 per share on May 22, 2001 to close at
$91.18 on May 23, 2001. (Id.). Plaintiffs further allege that
these statements were intended to convey the false and misleading
impression that the terms of the Lotensin contract were
advantageous to PDI, and that PDI would earn significant profits
after the initial investment of start-up costs. (Id. ¶ 53).
Plaintiffs further charge that Defendants knowing or recklessly
failed to disclose that PDI had purposefully entered into an
unprofitable contract with Novartis in order to: (1) retain the
services of marketing representatives who would otherwise have
left PDI; and (2) to obtain future profitable business from
Novartis. (Id.). PDI subsequently issued a press release on July 20, 2001
announcing that Pfizer, Inc. ("Pfizer") had elected not to renew
a product detailing agreement that was due to expire on October
31, 2001. (Compl. ¶ 54). The press release assured investors that
the termination would not adversely affect its earnings for 2001
or 2002. (Id.; Declaration of Israel David ("David Decl."),
Thereafter, a conference call was held on August 14, 2001,
involving Saldrini and Boyle. (Compl. ¶ 55; David Decl. Ex.4).
They discussed PDI's results for the second quarter of 2001 and
its expected results for the remainder of 2001. (Id.).
Defendants further noted that PDI would likely earn $0.20 per
share less than previously forecasted for the third quarter due
to a Ceftin inventory glut at distributors. (Compl. ¶ 55; David
Decl. Ex.4 at 8). However, both Defendants advised that despite
the expected weakness in the third quarter, PDI would meet
previously announced expected earnings for the year 2001 of $2.30
per share based on expected strength in the fourth quarter.
(Compl. ¶ 55). Plaintiffs allege that the aforementioned
statements were materially false and misleading because
Defendants failed to divulge that PDI had never increased
Ceftin's market share, except for the periods where it was
allegedly employing unlawful marketing materials or artificially
increasing market share by "incentivizing" distributors to stock
up on Ceftin. (Id. ¶ 56).
Subsequently, PDI issued a press release on August 21, 2001,
announcing the Federal Circuit's decision holding that Ranbaxy's
generic Ceftin did not infringe GSK's patent. (Compl. ¶ 57; David
Decl. Ex.5). Defendants advised that Ranbaxy could begin selling
generic Ceftin upon obtaining FDA approval. (Id.). Further, the
press release advised that PDI was evaluating its options and
additional announcements would be forthcoming. (Compl. ¶ 57). PDI subsequently issued a press release on August 23, 2001,
discussing its options in light of the Federal Circuit's
decision. (Id. ¶ 58). PDI also discussed the financial
implications on PDI's business for the remainder of 2001 and 2002
resulting from the immediate introduction of generic Ceftin,
noting that in the third and fourth quarters of 2001, PDI
"expects a severe impact on net revenue and profitability," and
that "[s]uch impact will result partly from wholesalers and other
trade customers reducing projected purchases from PDI in
anticipation of building generic cefuroxime axetil tablet
inventories from other suppliers, and partly because sales and
marketing costs cannot be significantly reduced over the
short-term." (Compl. ¶ 59).
On August 24, 2001, Saldarini held a conference call to address
concerns prompted by the aforementioned developments concerning
Ceftin. (Compl. ¶ 60; David Decl. Ex.7). Saldarini explained that
even if introduced in October of that year, the generic Ceftin
could not satisfy the entire fourth quarter demand for Ceftin,
and he expected that 80% of the fourth quarter demand would be
satisfied by Ceftin and not the generic competition. (Compl. ¶
61). He further claimed that the company was expecting Ceftin to
contribute $0.30-0.40 earnings per share by 2002. (Id.; David
Decl. Ex.7 at 6). Plaintiffs contend Saldarini's statements
regarding the impact of generic competition for Ceftin were false
and misleading because the Defendants failed to disclose that the
termination of the Ceftin contract would cause PDI to incur
"massive expenses," and further, PDI never increased Ceftin's
market share, except when it "had unlawfully promoted the drug or
artificially inflated reserve by shifting sales into an earlier
quarter at the expense of a later quarter." (Compl. ¶ 62).
On November 12, 2001, PDI issued another press release
announcing a loss of $17.3 million for the third quarter of 2001.
(Compl. ¶ 63). Saldarini stated that PDI would terminate the Ceftin agreement with GSK, but that PDI had "positive
developments in the pipeline. . . ." (Id.). Plaintiffs maintain
that the revelations in the November press release were much
worse than PDI had previously led investors to believe. (Id. ¶
65). The price of PDI common stock declined from a $29 per share
close on November 12, 2001, to close at $18.35 per share on
November 13, 2001. (Id.).
On November 13, 2001, PDI held a conference call with investors
and analysts. (Compl. ¶ 66; David Decl. Ex.8). During the call,
Saldarini revealed that PDI would not profit from the Ceftin
contract in the fourth quarter. (Compl. ¶ 66). He further advised
that the Lotensin contract would not contribute to fourth quarter
earnings as expected because PDI "did not have the marketing
materials, the positioning and support programs in place."
Plaintiffs initiated the instant action on January 16, 2002. On
May 23, 2002, the Honorable Magistrate Judge Ronald J. Hedges,
U.S.M.J. granted Plaintiff Gary Kessel's motion to consolidate
civil case 02-cv-211, with 02-cv-367 and 02-cv-699. Thereafter, a
Consolidated and Amended Class Action Complaint was filed on July
30, 2002. On November 19, 2002, Plaintiffs' motion to file an
Amended Complaint was granted, and the Second Amended Complaint
was subsequently filed on December 13, 2002. Count I of
Plaintiffs' Second Amended Complaint is premised on violations of
Section 10(b) of the Securities Exchange Act of 1934 (the
"Exchange Act"), 15 U.S.C. § 78j(b), and Rule 10b-5 promulgated
thereunder, 17 C.F.R. § 240.10b-5, against all the Defendants.
Count II alleges a violation of Section 20(a) of the Exchange
Act, 15 U.S.C. § 78t(a), against Defendants Saldarini and Boyle
as the controlling persons of PDI. Defendants presently move to
dismiss the Second Amended Complaint under Fed.R.Civ.P. 9(b), 12(b)(6), and the Private Securities
Litigation Reform Act of 1995 (hereinafter the "Reform Act" or
"PSLRA"), 15 U.S.C. §§ 78u-4, et seq.
A. Rule 12(b)(6), Rule 9(b), and the Reform Act
The applicable inquiry under Federal Rule 12(b)(6) is
well-settled. Courts must accept all well-pleaded allegations in
the complaint as true and to draw all reasonable inferences in
favor of the non-moving party. Scheuer v. Rhodes, 416 U.S. 232,
236 (1974), overruled on other grounds, Harlow v. Fitzgerald,
457 U.S. 800 (1982); Allegheny Gen. Hosp. v. Philip Morris,
Inc., 228 F.3d 429, 434-35 (3d Cir. 2000). The question is not
whether plaintiffs will ultimately prevail in a trial on the
merits, but whether they should be given an opportunity to offer
evidence in support of their claims. Scheuer, 416 U.S. at 236.
Dismissal under Rule 12(b)(6) is not appropriate unless it
appears beyond doubt that plaintiff can prove no set of facts in
support of his claim which would entitle him to relief. Official
Comm. of Unsecured Creditors v. R.F. Lafferty & Co.,
267 F.3d 340, 346 (citing Conley v. Gibson, 355 U.S. 41, 45-46 (1957)).
The Third Circuit has further noted that courts are not
required to credit bald assertions or legal conclusions
improperly alleged in the complaint. In re Burlington Coat Fact.
Sec. Litig., 114 F.3d 1410, 1429 (3d Cir. 1997). Similarly,
legal conclusions draped in the guise of factual allegations may
not benefit from the presumption of truthfulness. In re Nice
Sys., Ltd. Sec. Litig., 135 F. Supp. 2d 551, 565 (D.N.J. 2001). 2. Heightened pleading requirement
Fed.R.Civ.P. 9(b) imposes a heightened pleading requirement
of factual particularity with respect to allegations of fraud,
independent of the standard applicable to a Rule 12(b)(6) motion.
Rule 9(b) states: "In all averments of fraud or mistake, the
circumstances constituting fraud or mistake shall be stated with
particularity." Fed.R.Civ.P. 9(b). "This particularity
requirement has been rigorously applied in securities fraud
cases." In re Burlington, 114 F.3d at 1417 (citations omitted).
As such, plaintiffs averring securities fraud claims must specify
"`the who, what, when, where, and how: the first paragraph of any
newspaper story.'" In re Advanta Corp. Sec. Litig.,
180 F.3d 525, 534 (3d Cir. 1999) (quoting DiLeo v. Ernst & Young,
901 F.2d 624, 627 (7th Cir. 1990)). The Third Circuit has further
noted that "[a]lthough Rule 9(b) falls short of requiring every
material detail of the fraud such as date, location, and time,
plaintiffs must use ...