Helwig v. Vencor, Inc. , 210 F.3d 612 ( 2000 )

RECOMMENDED FOR FULL-TEXT PUBLICATION
Pursuant to Sixth Circuit Rule 206
ELECTRONIC CITATION: 2000 FED App. 0145P (6th Cir.)
File Name: 00a0145p.06
UNITED STATES COURT OF APPEALS
FOR THE SIXTH CIRCUIT
_________________
;

A. CARL HELWIG, on Behalf

of Himself and All Others

Similarly Situated; GARY

No. 99-5153
BARNES; MEREDITH WILSON

BROWN; ROBERT BROWN; >
S. KAY LUTES; SYBIL R. 


MEISEL; BARBARA E.

SHUSTER,

Plaintiffs-Appellants,

v. 



VENCOR, INC.; W. BRUCE

LUNSFORD; W. EARL REED,

III; MICHAEL R. BARR;

THOMAS T. LADT; JILL L.
FORCE; JAMES H. 

Defendants-Appellees. 1
GILLENWATER, JR.,
Appeal from the United States District Court
for the Western District of Kentucky at Louisville.
No. 97-00835—Charles R. Simpson, III, Chief District
Judge.
Argued: December 15, 1999
1
2 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153
Decided and Filed: April 24, 2000
Before: MERRITT, KENNEDY, and SILER, Circuit
Judges.
_________________
COUNSEL
ARGUED: Arthur R. Miller, HARVARD LAW SCHOOL,
Cambridge, Massachusetts, for Appellants. Gregory P.
Joseph, FRIED, FRANK, HARRIS, SHRIVER &
JACOBSON, New York, New York, for Appellees.
ON BRIEF: Kenneth J. Vianale, MILBERG, WEISS,
BERSHAD, HYNES & LERACH, Boca Raton, Florida, for
Appellants. Gregory P. Joseph, Kirsa Phillips, Rachel S.
Fleishman, FRIED, FRANK, HARRIS, SHRIVER &
JACOBSON, New York, New York, David B. Tachau,
TACHAU, MADDOX, HOVIOUS & DICKENS, Louisville,
Kentucky, for Appellees.
KENNEDY, J., delivered the opinion of the court, in which
SILER, J., joined. MERRITT, J. (pp. 22-26), delivered a
separate dissenting opinion.
_________________
OPINION
_________________
KENNEDY, Circuit Judge. Plaintiffs, A. Carl Helwig, et
al., on behalf of themselves and others similarly situated,
appeal the decision of the district court granting summary
judgment in favor of the defendants, Vencor, Inc., et al., in
this securities fraud action. Plaintiffs contend that the district
court erred in converting defendants’ motion to dismiss into
a motion for summary judgment without providing the
plaintiffs with sufficient notice to defend against a summary
judgment motion. Defendants argue that this court can affirm
the district court’s opinion on summary judgment grounds or
on the grounds that the plaintiffs have failed to state a claim
26 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 3
947 F.2d 841, 848 (7th Cir. 1991). Applying Rubin to this upon which relief can be granted. While we agree with the
case, when defendants chose to speak they have a duty to plaintiffs that the district court could not convert the
provide complete and non-misleading information regarding defendants’ motion to dismiss to a motion for summary
those statements. Defendants failed to do so. Accordingly, judgment without notice, we also agree with the defendants
I would reverse the judgment of the district court, deny and affirm the district court’s dismissal of the action on the
defendants’ motion to dismiss, and remand to the district grounds that the plaintiffs have failed to state a claim upon
court for further proceedings. which relief can be granted.
The narrow, rigid interpretation our Court has given the I. Facts1
Private Securities Litigation Reform Act makes it now almost
impossible to allege securities fraud successfully. The effect Vencor, which is located in Louisville, Kentucky, is a
of the Court’s decision seems to be that no statements about provider of managed health care services, including long-term
the future prospects (“forward-looking” statements) of a hospitals and nursing homes. On October 22, 1997, prior to
company are actionable, no matter how dishonest as long as the opening of the stock market, Vencor announced its
they are accompanied by “magic words” disclaiming earnings results for the third quarter of 1997 and issued a
knowledge. It makes no difference that insiders are selling statement indicating that its expected fourth quarter earnings
their stock with secret knowledge that the company’s would be lower than previously forecast. Vencor stated that
prospects are bad while saying the opposite to the public. It rather than the $0.59-$0.64 earnings per share that it had
reminds me of the rigidity with which the common law courts forecast, earnings for the fourth quarter of 1997 were
came to interpret the old forms of action in the seventeenth expected to be in the range of $0.40-$0.45 per share. Vencor
century. Our system of equity or code or notice pleading is explained that the change in projected earnings was due to the
supposed to have changed all that once and for all, but our adverse effect of the Balanced Budget Act on Vencor’s
Court has returned to it with a vengeance in this case under operations. In response to this announcement, the price of
the Private Securities Litigation Reform Act. Vencor’s stock fell from a per share price of $42-5/8 on
October 21, 1997 to a per share price of $30 on October 22,
1997. Soon after this development, Vencor announced that
its anticipated sale of one of its divisions would not be
consummated due to the buyer’s unwillingness to purchase
the division for cash. This announcement resulted in a further
drop in the price of Vencor’s stock to a level of $23 per share.
1
These facts are either alleged by the plaintiffs or found in the
documents filed with the defendants’ motion to dismiss. We are required
to accept the plaintiffs’ allegations as true in ruling on a motion to
dismiss. See Mayer v. Mylod, 988 F.2d 635, 638 (6th Cir. 1993). We
also are permitted to consider those facts contained in documents referred
to in the plaintiffs’ complaint and central to the plaintiffs’ claim in ruling
on a motion to dismiss. See Greenberg v. The Life Insurance Company
of Virginia, 177 F.3d 507, 514 (6th Cir. 1999); see also infra note 13.
4 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 25
At the time plaintiffs filed this action, Vencor stock was forward looking statement, then there is no liability as a
trading at less than $25 per share. matter of law. See 15 U.S.C. § 78u-5(c)(1)(B). Second, even
if actual knowledge of falsity is factually pled, the statutory
On December 24, 1997, plaintiffs filed this class action safe harbors bars liability of the forward looking statement if
against Vencor2 and six of its directors alleging that the the statement is accompanied by a cautionary statement about
defendants had proffered false and misleading statements, its uncertainty. See 15 U.S.C. § 78u-5(c)(1)(A). With this in
from February 10, 1997 until October 21, 1997, in violation3 mind, I would find that the “cautionary statement” proffered
of Section 10(b) of the Securities Exchange Act of 1934. by defendants does not meet the criteria set by the statute.
Plaintiffs also alleged a violation of
4
Section 20(a) of the Nowhere in Vencor’s 1997 public disclosures or statements
Securities Exchange Act of 1934 against each of the prior to October 22 ,1997, does Vencor identify important
individual defendants.5 Plaintiffs’ complaint sets forth factors or specifically warn of any negative impact by the
proposed Medicare legislation. Defendants simply continued
to warn that management could not predict whether such
2
On May 1, 1998, Vencor reorganized into two public companies,
proposals would be adopted or if adopted, what effect, if any,
Vencor and Ventas. On July 27, 1998, plaintiffs filed an amended such proposals would have on its business. In point of fact,
complaint against the original defendants as well as Ventas. defendants knew that the Medicare legislation was likely to
have a serious adverse effect and should have said so.
3
Section 10(b) provides:
It shall be unlawful for any person, directly or indirectly, by the Defendants should not be allowed to make exaggerated
use of any means or instrumentality of interstate commerce or of earnings projections and then abstractly warn of pending
the mails, or of any facility of any national securities exchange legislation in Congress claiming that they say they have no
— idea how it will affect revenues, while at the same time telling
(b) To use or employ, in connection with the purchase or sale of
any security registered on a national securities exchange or any employees whom they are laying off that “tough times” are
security not so registered, any manipulative or deceptive device ahead because of certain pending Medicare legislation.
or contrivance in contravention of such rules and regulations as
the Commission may prescribe as necessary or appropriate in the This would not be the first time that this circuit has held
public interest or for the protection of investors. that a defendant could be held liable to investors for failing to
15 U.S.C. § 78j(b) (West 1997). disclose certain material information in connection with a
4 stock investment. In Rubin v. Schottenstein, Zox & Dunn, 143
Section 20(a) provides: F.3d 263 (6th Cir. 1998), we held, en banc, in an opinion
Every person who, directly or indirectly, controls any person
liable under any provision of this chapter or of any rule or from which Judge Kennedy dissented, that an attorney could
regulation thereunder shall also be liable jointly and severally be held liable because he had chosen to speak to investors
with and to the same extent as such controlled person to any about material details of their proposed securities investment
person to whom such controlled person is liable, unless the with the issuer without revealing certain additional facts
controlling person acted in good faith and did not directly or necessary to make his statement not misleading. See Rubin,
indirectly induce the act or acts constituting the violation or
cause of action. 143 F.3d at 267-68. We reasoned that even when a person is
15 U.S.C § 78t(a) (West 1997). not under an independent duty to provide information, a
person “assumes a duty to provide complete and non-
5 misleading information with respect to subjects on which he
Vencor, Inc. filed a voluntary petition for Chapter 11 bankruptcy on
September 13, 1999. Pursuant to section 362 of the Bankruptcy Code, undertakes to speak.” Id. at 268 (citing Ackerman v, Schartz,
this proceeding against Vencor, Inc. has been stayed by the bankruptcy
24 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 5
company, defendants Bruce Lunsford, chairman of the board, numerous allegations of false and misleading statements made
CEO, and president of Vencor, and Earl Reed, executive vice by the defendants either directly to the public or to the public
president and CFO, continued to publicly predict rosy through financial analysts. These allegedly false and
earnings estimates of $2.10 and $2.60 per share for 1997 and misleading statements can be classified as falling into one of
1998 respectively. Am. Compl. ¶ 100. It is ludicrous to think the following categories: 1) statements relating to the effect
that by this time Vencor management had no knowledge of of the Balanced Budget Act on Vencor’s earnings; 2)
negative implications the Act would have on the future of statements relating to Vencor’s acquisition of TheraTx and
Medicare and Medicaid reimbursements. I think that Transitional; and 3) statements relating to the proposed sale
plaintiffs’ allegations are sufficient to allow them their day in of one of Vencor’s divisions, Behavioral Healthcare (“BHC”),
court. to Charter Behavioral Health Systems. Plaintiffs’ remaining
allegations concern the individual defendants’ sale of personal
The law in this area is clear. Rule 10b-5, promulgated stock.
under Section 10(b), states in relevant part: “It shall be
unlawful for any person... to make any untrue statement of a On February 6, 1997, President Clinton proposed the
material fact or omit to state a material fact necessary in order Balanced Budget Act. This legislation included numerous
to make the statements made, in light of the circumstances revisions to the Medicare reimbursement laws.6 At the time
under which they were made, not misleading.” 17 C.F.R.
§ 240.10b-5. Plaintiffs allege that defendants did exactly
what Rule 10b-5 forbids. To escape any liability, defendants court. The remaining defendants include Ventas, Inc., and the following
and the panel majority hold that their statements regarding individuals: W. Bruce Lunsford, President and CEO of Vencor, Inc.,
Vencor’s earnings were “forward-looking” statements and W. Earl Reed, III, Executive Vice-President and CFO of Vencor, Inc.,
included sufficient cautionary language as to the uncertainty Michael R. Barr, Executive Vice-President, COO and Director of Vencor,
of those projections, thus triggering the safe harbor provision Inc., Thomas T. Ladt, Executive Vice-President of Vencor, Inc., Jill L.
of the Private Securities Litigation Reform Act. 15 U.S.C. Force, Senior Vice-President, Secretary and General Counsel of Vencor,
Inc, and James H. Gillenwater, Jr., Senior Vice-President of Vencor, Inc.
§ 78u-5(c). This is wrong.
6
A forward-looking statement is defined, among other There were four provisions in the Administration’s proposal that the
plaintiffs allege would have a negative impact on Vencor’s business.
things, as a statement including a projection of revenues, These were:
income, earnings per share, capital expenditures, dividends, a) The Administration’s proposal eliminated all incentive
capital structure, or other financial terms. See 15 U.S.C. payments made to hospitals that kept their actual costs below
§ 78u-5(i)(1)(A). A company is allowed to make a forward- their TEFRA target, the amount computed pursuant to the Tax
looking statement without fear of liability if the statement Equity and Fiscal Responsibility Act of 1982.
b) The Administration proposed reductions, beginning in 1998
does not hold true when the statement is accompanied by at the amount of 1.5% below the market basket index, of
“meaningful cautionary statements identifying important Medicare payments to PPS-exempt hospitals such as those
factors that could cause actual results to differ materially from owned by Vencor. Generally, Medicare reimbursements are
those in the forward-looking statement.” 15 U.S.C. § 78u- based on a fixed payment per patient basis (“PPS”). PPS-
5(c)(1). This is the so-called safe harbor provision. The exempt hospitals are entitled to reimbursement on an actual cost
basis linked to the TEFRA target.
statutory safe harbor operates in the alternative in two steps. c) The Administration proposed caps on increases in TEFRA
First, unless a complaint pleads specific facts demonstrating target amounts based on the average cost per patient for all long-
that defendants have actual knowledge of the falsity of the term care hospitals.
d) The Administration’s proposal denied all new long-term care
6 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 23
plaintiffs initiated this lawsuit, Vencor was the nation’s officer, and James Gillenwater, senior vice president of the
largest operator of long-term hospitals and the second largest company, gave a presentation to approximately one hundred
operator of nursing homes. Medicare reimbursement made up Transitional employees. At that meeting, Barr gave
a significant portion of Vencor’s revenue. Prior to the Transitional employees notice that they would be laid off in
proposal of this specific legislation, the President had initiated sixty days. Barr went on to tell the employees that there were
a number of unsuccessful attempts to institute Medicare “tough times coming in the industry because of likely
reform. The Balanced Budget Act was signed into law on cutbacks in Medicare” and that “they would have been laid
August 5, 1997. During the six months that the legislation off anyway because the proposed Medicare regulations were
was before Congress, changes were made to the going to make it difficult for Vencor to make money and stay
Administration’s proposal and the enacted legislation differed profitable.” Am. Compl. ¶ 72.
in many ways from the proposed legislation.7
A month later, on July 25, 1997, Vencor filed its second
While this proposed legislation was being debated in quarter 10-Q with the SEC. Even though defendants had just
Congress, Vencor received reports on the progress of the told employees they were laying off that “tough times” were
legislation from its lobbyists in Washington, D.C. In late ahead and that it would be difficult to stay profitable, in their
April and early May, Thomas Schumann, Vice-President and report to the SEC, defendants continued to indicate that
Director of Vencor’s Reimbursement Department, directed Vencor’s business would not be adversely affected by any
his employees to prepare detailed cost analyses of the pending legislation. Amazingly, defendants made these
Balanced Budget Act. Although some of these analyses “predictions” even after the Balanced Budget Act had already
focused on the effects the Act would have on specific passed both the House and the Senate a full month earlier and
departments of Vencor, defendant Reed and Richard when it was certain the proposals would be implemented. In
Lechleiter, Vice-President for Finance and Corporate their second quarter 10-Q, defendants did issue a general
Controller, directed that analyses be done studying all warning that Congress was considering various proposals that
possible effects of the Act on Vencor’s revenues and earnings. could reduce expenditures under certain governmental health
At the end of July, around the time that the Act was passed, and welfare programs such as Medicare and Medicaid, but
Vencor issued an internal memorandum setting forth the unequivocally stated that it could not predict the impact of
impact of the new legislation on its finances. this legislation. As plaintiffs allege, defendants went on to
selectively warn of proposed Health Care Financing
Administration regulations, but made absolutely no specific
hospitals any exemption from Medicare PPS. mention of the passage or impact of the Balanced Budget Act.
Plaintiffs assert that Vencor’s 1997 second quarter 10-Q was
7
Of the four provisions of the Administration’s proposal only two misleading as to the negative impact caused by the passage of
were enacted. The enacted legislation included the following provisions: the Balanced Budget Act.
a) The legislation retained incentive payments for hospitals that
keep their actual costs below TEFRA targets, setting them at the Moreover, even after the Balanced Budget Act had been
lesser of either: (1) 15% of the difference between the TEFRA signed into law on August 5, 1997, plaintiffs allege that
target and operating costs, or (2) 2% of the TEFRA target. defendants continued to issue the same earnings forecasts to
b) The legislation reduced Medicare payments to PPS-exempt
hospitals at the rate of 0% in 1998 and according to a sliding the marketplace as they had earlier. On September 25, 1997,
scale based on a comparison of the hospital’s actual costs to its seven weeks after the Act was signed into law and six months
target for 1999-2002. after Vencor began analyzing the Act’s effect on the
c) The legislation capped TEFRA limits at 75%.
22 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 7
_________________ Over the six months that the Balanced Budget Act was
before Congress, Vencor issued numerous statements about
DISSENT its financial health. From February 10, 1997 until its
_________________ announcement on October 22, 1997 of revised earnings
projections, Vencor stated that it was “comfortable” with a
MERRITT, Circuit Judge, dissenting. The plaintiffs satisfy Fourth Quarter earnings projection of $0.59-$0.64 earnings
the pleading requirements of Rule 9(b) and 15 U.S.C., the per share and a yearly earnings projection of between $2.15
new Private Securities Litigation Act, § 74u-4(b)(1) and (2). and $2.20 for 1997 and $2.60 and $2.65 for 1998. Vencor’s
In their seventy-four page complaint, plaintiffs allege with positive statements about its earning potential led numerous
sufficient specificity (1) statements the defendants made financial analysts to recommend Vencor’s stock as a “buy.”
during the April - October 1997 class period to the investing Vencor, however, did note that
public and to financial analysts that the Balanced Budget Act
would have no adverse impact on Vencor’s future earnings the Company cannot predict the content of any healthcare
(2) when they well knew that the Act would have a serious or budget reform legislation which may be proposed in
negative effect on earnings. Congress or in state legislatures in the future, and
whether such legislation, if any, will be adopted.
In cases of securities fraud, plaintiffs need only plead one Accordingly, the Company is unable to assess the effect
material misrepresentation or omission in order for this court of any such legislation on its business. There can be no
to sustain the complaint. See In re Fidelity/Micron Sec. Litig., assurance that any such legislation will not have a
964 F. Supp. 539, 543 (D. Mass. 1997). In reviewing the material adverse impact on the Company’s future growth,
plaintiffs’ complaint and alleged misrepresentations revenues and income.8
concerning the Balanced Budget Act, the court errs in its
treatment of so called “forward-looking” statements by the On February 10, 1997, Vencor announced its acquisition of
defendants. The panel majority found that all of the TheraTx. The press release relaying this information stated
statements alleged by the plaintiffs relating to the effect of the that “[t]he inclusion of TheraTx is expected to be accretive to
Act on the earnings and revenues of Vencor made before the earnings based on projected synergies.” At the time of this
legislation was signed into law were entitled to safe harbor acquisition, TheraTx was carrying approximately $25 million
protection as “forward-looking” statements. This is an of bad debt from patients who could not pay their bills. On
untenable position because it lets the defendants get away July 24, 1997, Vencor announced its Second Quarter earnings
with talking out of both sides of their mouths saying “yes” to and defendant Lunsford stated that Vencor had “successfully
the investing public and “no” to their own employees. integrated the operations of TheraTx.” TheraTx’s existing
computer system, however, was not fully operational until
Plaintiffs plead that defendants knowingly made false and March of 1998 due to the need to teach Vencor employees
misleading statements as to expected earnings and revenues how to use the system.
of Vencor. As evidence of defendants’ knowledge, they
allege in their complaint that in June 1997, Vencor was aware
of the probable negative ramifications that the Balanced
Budget Act’s Medicare reforms would have on the company.
Specifically, plaintiffs state that in late June 1997, after 8
This language was found in Vencor’s 1996 Form 10-K filed on
acquiring Transitional Hospitals Corporation, defendants March 27, 1997. Similar warnings can be found in Vencor’s First and
Michael Barr, executive vice president and chief operating Second Quarter 10-Q.
8 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 21
On June 20, 1997, Vencor acquired Transitional Hospitals attributing inside information to the defendants concern the
Corporation, giving Vencor control over 58 of the estimated internal memorandum discussing the potential effects of the
109 long-term acute care hospitals in the U.S. In connection Balanced Budget Act. The individual defendants, like the
with this acquisition, Vencor announced on June 27, 1997, a corporation, did not know whether the Balanced Budget Act
$500 million senior subordinated debt private placement. On would be passed; thus, they cannot be held liable for actions
or about July 15, 1997, Vencor announced that it had sold alleged to be taken in reliance on the passage of the Balanced
$750 million of senior notes, scheduled to mature in July of Budget Act. Because the plaintiffs do not allege that the
2007. On October 8, 1997, Vencor initiated an offer to individual defendants had inside information stating that the
exchange the senior subordinated notes, issued in July 1997 Balanced Budget Act would pass they fail to state a claim
in the private placement, for publicly registered notes having against the individual defendants15who sold their stock prior to
identical terms and conditions. The old notes issued in the the passage of the legislation. In addition, the internal
private placement provided that if a registration statement was memorandum upon which the plaintiffs rely states that further
not filed by September 19, 1997, declared effective by study is needed to make an accurate assessment of the effects
November 18, 1997, or consummated or not declared a shelf of the Act on the corporation. We do not believe that this
registration statement effective by December 18, 1997, then memorandum provided those defendants who sold their stock
Vencor would have to pay additional interest on the old notes. after the passage of the Act with inside information.16 While
plaintiffs’ allegations may establish motive and opportunity,
On September 16, 1997, Vencor announced a definitive they are insufficient to demonstrate a strong inference of the
agreement to sell Behavioral Healthcare Corporation, a individual defendant’s use of inside information deceptively.
division of Transitional, to a subsidiary of Charter Behavioral
Health Systems. The press release accompanying this III. Conclusion
announcement stated that “[t]his transaction, which is subject
to acceptable financing, due diligence by CBHS and certain For the foregoing reasons, we find that the plaintiffs’
regulatory approvals, is expected to close during the fourth complaint does not contain sufficient factual allegations to
quarter of 1997.” On November 3, 1997, Vencor announced state a claim under the PSLRA and should be dismissed.
that it would not be selling BHC due to a failure to agree to
final payment terms.
During the Class Period, the individual defendants sold
portions of their stock holdings in Vencor. Between July and
September, Vencor’s officers and directors sold more than
222,000 shares for proceeds of approximately $9.5 million.
During the month of July, defendant Lunsford sold 50,000
shares realizing proceeds of over $2,137,500, defendant Barr
sold 52,500 shares realizing proceeds of over $2,232,500,
defendant Ladt sold 12,000 shares realizing proceeds of over
$500,000, and defendant Gillenwater sold 4,100 shares 15
Plaintiffs allege that defendants Lunsford, Barr, Ladt and
realizing proceeds of over $174,000. On September 18, 1997, Gillenwater sold stock prior to the enactment of the Balanced Budget Act.
defendant Force sold 17,812 shares realizing proceeds of over
16
$789,000. Between September 18, 1997 and September 19, Plaintiffs allege that defendants Force and Reed sold stock after the
Balanced Budget Act was enacted.
20 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 9
3. Proposed Sale of BHC 1997, defendant Reed sold 69,400 shares realizing proceeds
of over $3,030,580.9
Plaintiffs allege that defendants made false and misleading
statements in their announcement of the anticipated sale of In their complaint, plaintiffs allege that the defendants
BHC to Charter. Plaintiffs contend that defendants made made false and misleading statements in relation to Vencor’s
these statements in an attempt to bolster the price of Vencor financial activities from February 10, 1997 until October 21,
stock and to prime the market for its sale of $750 million in 1997. Plaintiffs contend that these statements were made in
senior notes. In announcing the “definitive agreement” an attempt to elevate the price of Vencor stock. During the
between Vencor and Charter, defendants stated that Charter Class Period, the stock price rose from a per share price of
was to pay $140 million in cash for BHC. Plaintiffs state that $31 to a high of over $44 per share. After Vencor’s
this announcement of a cash sale was designed to alleviate announcement of lower than expected Fourth Quarter
concerns about the substantial debt Vencor had incurred in its earnings on October 22, 1997, the stock price fell from $42-
acquisition of Transitional. On November 3, 1997, Vencor 5/8 to $30 per share.
announced that the sale would not be made because of a
failure to agree to payment terms. Plaintiffs filed this action in district court on December 24,
1997. On September 10, 1998, defendants filed a motion to
Plaintiffs’ allegations that Vencor’s statements about the dismiss the complaint pursuant to Fed. R .Civ. P. 9(b) and
sale were false and misleading is incorrect. Clearly stated in 12(b)(6) and the Private Securities Litigation Reform Act of
Vencor’s announcement is that the sale is conditional: “This 1995, 15 U.S.C §§ 78u-4 & -5. The district court judge sua
transaction, which is subject to acceptable financing, due sponte converted the motion to dismiss into a motion for
diligence by CBHS and certain regulatory approvals, is summary judgment. Ruling in favor of the defendants, the
expected to close during the fourth quarter.” This alleged district court dismissed plaintiffs’ complaint with prejudice.
statement which, on its face, is not false does not support Plaintiffs filed a timely appeal.
plaintiffs’ claim of fraud. Because Vencor never stated that
the sale had been consummated we find that the statements II. Discussion
associated with this announcement are not false and
misleading. On appeal, plaintiffs argue that the district court erred in
converting the defendants’ motion to dismiss into a summary
4. “Controlling Person” Liability and Insider Trading judgment motion without giving the plaintiffs sufficient
notice to prepare a defense to a summary judgment motion.
The plaintiffs bring claims against the individual We agree with the plaintiffs that the district court did err.
defendants both as “controlling persons” of the corporation Rule 12(b) provides that
and as individual insider traders. Because plaintiffs fail to
state a claim against the corporation they also fail to state a [i]f, on a motion asserting the defense numbered (6) to
claim against the individual defendants as “controlling dismiss for failure of the pleading to state a claim upon
persons.” See Comshare, 183 F.3d at 554 n.11. In order for
plaintiffs’ claim of insider trading to stand against the
individual defendants, plaintiffs must allege that the 9
defendants had knowledge of non-public information that Plaintiffs allege that, on September 25, 1997, Bear Sterns issued a
report on Vencor which included an explanation for Reed’s sale of stock.
they utilized in a manipulative and deceptive manner. See 15 The report stated that Reed sold the stock to retire a $2 million personal
U.S.C. § 78j(b) (West 1997). Plaintiffs’ only allegations loan that Reed had obtained to exercise stock options.
10 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 19
which relief can be granted, matters outside the pleading plaintiffs have not established a strong inference that this
are presented to and not excluded by the court, the statement was false or misleading.
motion shall be treated as one for summary judgment and
disposed of as provided in Rule 56, and all parties shall Plaintiffs allege that defendants’ statements about the
be given reasonable opportunity to present all material acquisition of Transitional were false and misleading.
made pertinent to such a motion by Rule 56. Plaintiffs, however, do not allege any statements with regard
to this transaction which cannot be classified as forward-
Fed. R. Civ. P. 12(b) (West 2000). Plaintiffs only learned of looking statements about “soft” information. Plaintiffs allege
the district court’s decision to convert the motion to dismiss that on or about the last week in June of 1997, defendant Barr
to a motion for summary judgment upon receiving the district gave Transitional employees notice that they would be laid off
court’s opinion dismissing the plaintiffs’ complaint with in sixty days and told these employees that they probably
prejudice. Although the district court stated that it was would have been laid off anyway due to the proposed
deciding a motion for summary judgment, the documents Medicare regulations. The plaintiffs proffer this statement as
which it relied upon were, for the most part, documents evidence of defendant Barr’s knowledge of the effect of the
“referred to in the complaint” and “central to the plaintiffs’ Balanced Budget Act on Vencor’s operations. Plaintiffs,
claim.” Defendants submitted authentic copies of these however, fail to connect this statement to any of their
documents in their entirety to the court. The court’s allegations concerning the defendants’ false and misleading
consideration of these documents did not require the statements. Without alleging a link between this statement
conversion of the motion to dismiss into one for summary and defendants’ allegedly false and misleading statements, the
judgment. See Greenberg, 177 F.3d at 514 (holding that plaintiffs have failed to allege sufficient facts establishing a
when a document is referred to in the plaintiff’s complaint strong inference of scienter. On its own, this statement is not
and is central to the plaintiff’s claim the court may consider actionable because it constitutes defendant Barr’s opinion and
the document in ruling on a motion to dismiss). The reasons is “soft” information. In the plaintiffs’ other allegations
given by the district court for granting summary judgment involving the Transitional acquisition, they contend that the
were based, in most instances, on plaintiffs’ allegations, these defendants made false and misleading statements about the
documents, judicial notice10 and legal analysis which would benefit of the Transitional acquisition because they knew that
support a decision to dismiss a plaintiff’s complaint for the Balanced Budget Act would have a negative effect on
failure to state a claim upon which relief can be granted. Vencor. As stated above, the defendants cannot be held liable
for any statements about the Balanced Budget Act prior to its
enactment. In addition, plaintiffs’ allegations fail because
they allege only motive and opportunity and do not establish
a strong inference of recklessness. Because the plaintiffs have
10 failed to establish that any of defendants’ statement regarding
In reaching the conclusion that the plaintiffs have failed to state a
claim upon which relief can be granted, we have considered not only either the acquisition of TheraTx or Transitional were false or
those documents referenced in the plaintiffs’ complaint, but also misleading the plaintiffs have not stated a claim of fraud.
documents filed with the SEC. We believe that it is appropriate to take
judicial notice of public documents and that our consideration of these
documents does not require conversion of defendants’ motion to dismiss
to a motion for summary judgment. See Kramer v. Time Warner, Inc.,
937 F.2d 767, 774 (2d Cir. 1991) (holding that the district court did not
err in taking judicial notice of public documents when considering a
motion to dismiss).
18 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 11
any of the statements made prior to August 5, 1997 were false In Briggs v. Ohio Elections Commission, 61 F.3d 487, 493
or misleading when made, plaintiffs do not state a claim for (6th Cir. 1995) this court held that reversal is required if a
fraud based on their allegations associated with the effect of plaintiff is not given notice and a reasonable opportunity to
the Balanced Budget Act on Vencor’s earnings and revenues. present evidence after the court has converted a motion to
dismiss to a motion for summary judgment. The district
2. Acquisition of TheraTx and Transitional court, in this case, gave no notice to the plaintiffs. In
Routman v. Automatic Data Processing, Inc., 873 F.2d 970,
Plaintiffs allege that the defendants made false and 972 (6th Cir. 1989), this court held that “where a district court
misleading statements about the effect that the acquisitions of is contemplating entering sua sponte summary judgment
TheraTx and Transitional would have on Vencor’s earnings against one of the parties, that party is entitled to unequivocal
and revenues. In particular, plaintiffs allege that Vencor’s notice of the court’s intentions.” Because the plaintiffs did
statement on February 10, 1997, that the acquisition of not receive “unequivocal notice” of the court’s decision to
TheraTx would be “accretive to earnings” was false and convert the defendants’ motion to dismiss into a summary
misleading. Plaintiffs state that defendants knew that judgment motion the district court abused its discretion. See
TheraTx had $25 million in bad debt. Accepting that Salehpour v. University of Tennessee, 159 F.3d 199, 203 (6th
defendants knew of this debt, the plaintiffs’ allegation does Cir. 1998) (holding that a court’s decision to enter summary
not state a claim. Plaintiffs do not allege how the existence of judgment sua sponte is reviewed for abuse of discretion). In
this bad debt makes Vencor’s statement false and misleading. addition, the district court abused its discretion when it did
In addition, this statement is a prediction or opinion and not provide the plaintiffs with a reasonable opportunity to
constitutes “soft” information. As stated above, “soft” present evidence to defend against a summary judgment
information statements are not actionable. motion.
Plaintiffs also allege that defendants’ statement on July 24, Although this court finds that the district court was
1997, that Vencor had successfully integrated TheraTx’s incorrect in converting this case without notice to the
operations was false and misleading because TheraTx’s plaintiffs, we do not believe that we need to remand this case
computer system was not fully operational until March 1998. to allow the district court to correct this procedural error.
The plaintiffs’ allegations state that the computer system was “[A]n appellate court may affirm on any ground supported by
not implemented until all of the Vencor employees were the record, even though the ground relied upon by the lower
trained to use it. Plaintiffs’ allegations, however, fail to court was different from the one chosen by the appellate
establish a strong inference that the defendants’ statements panel.” Warda v. Commissioner, 15 F.3d 533, 539 n.6 (6th
were false and misleading when made. For this statement to Cir. 1994). We find that the dismissal of the complaint
constitute fraud, the plaintiffs would have to allege facts that should be affirmed on the grounds that the plaintiffs have not
demonstrate that the inability of Vencor to utilize TheraTx’s pled sufficient facts to permit a strong inference that the
computer system until all of its employees were trained in the defendants engaged in securities fraud.
new system prevented the integration of TheraTx’s operations
into Vencor, i.e. that this computer problem caused TheraTx’s In 1995, Congress passed the Private Securities Litigation
operations to be run separately from the rest of Vencor. The Reform Act (“PSLRA”) which heightened the pleading
complaint lacks allegations connecting the computer system standard in securities litigation. Section 78u-4(b) states:
to the successful integration of the companies; thus, the
12 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 17
(b) Requirements for securities fraud actions memorandum13 is included in the exhibits attached to the
(1) Misleading statements and omissions defendant’s motion to 14dismiss and does not support the
In any private action arising under this chapter in plaintiffs’ allegations. Although the memorandum
which the plaintiff alleges that the defendant — acknowledges that the legislation may have a negative impact
(A) made an untrue statement of a material fact; or on Vencor, it clearly states that no definite findings have been
(B) omitted to state a material fact necessary in order made and that further study is required before an accurate
to make the statements made, in the light of assessment of the effect of this legislation can be made. Even
circumstances in which they were made, not if plaintiffs’ allegations are accepted as true and this court
misleading; assumes that the defendants knew of this document, we do
the complaint shall specify each statement alleged to not believe the facts support a finding that the defendants
have been misleading, the reason or reasons why the knew that any statements about earnings and growth were
statement is misleading, and, if an allegation regarding false when made, nor that they were reckless. Because the
the statement or omission is made on information and plaintiffs do not allege any statements after August 5, 1997
belief, the complaint shall state with particularity all facts that can be attributed to the defendants and plaintiffs do not
on which that belief is formed. allege sufficient facts to establish that the defendants knew
(2) Required state of mind
In any private action arising under this chapter in which
the plaintiff may recover money damages only on proof 13
Although this document is referenced in the plaintiffs’ complaint,
that the defendant acted with a particular state of mind, it could be argued that it has not been formally incorporated into the
the complaint shall, with respect to each act or omission complaint. It still is appropriate for this court to consider this document
alleged to violate this chapter, state with particularity and the others attached to the defendant’s brief in support of their motion
facts giving rise to a strong inference that the defendant to dismiss. “When a document is referred to in the complaint and is
acted with the required state of mind. central to the plaintiff’s claim . . . the defendant may submit an authentic
copy to the court to be considered on a motion to dismiss, and the court’s
consideration of the document does not require conversion of the motion
15 U.S.C. 78u-4(b)(1) & (2) (West 1997). This Circuit, in In to one for summary judgment.” 11 JAMES WM. MOORE ET AL.,
re Comshare, Inc. Securities Litigation, 183 F.3d 542, 551 MOORE’S FEDERAL PRACTICE § 56.30[4] (3d ed. 1998); see also
(6th Cir. 1999), interpreted this provision of the Act as Greenberg, 177 F.3d at 514 (citing this proposition with approval).
requiring plaintiffs to allege facts that give rise to at least a Because the documents referred to in this opinion are “central” to the
strong inference of reckless behavior in order to satisfy the plaintiffs’ claim this court may consider them in assessing the plaintiffs’
pleadings on a motion to dismiss.
scienter requirement. The Comshare court held that
allegations of fact “that illustrate nothing more than a 14
defendant’s motive and opportunity to commit fraud” do not Plaintiffs also allege that Vencor’s financial department had
undertaken numerous studies to discern the effect of the proposed
satisfy the pleading requirements of the PSLRA. Id. We find legislation on Vencor during the months of April through July. Because
that the plaintiffs’ complaint does not allege sufficient facts the effect of proposed legislation can be considered a prediction or
to establish either (1) the falsity or the misleading opinion the defendants had no duty to disclose these studies. In addition,
characteristics of the defendants’ statements or, (2) a strong if the court makes the assumption that the internal memorandum
inference that the defendants had the state of mind required by promulgated in late July would incorporate any other relevant studies,
there is no allegation that permits a strong inference that any of these
the statute. studies produced any “hard” information which should have been
disclosed. Knowledge of the effects of the legislation cannot be imputed
on the defendants. The memorandum does not contain any “hard”
information, but rather, simply warns of the possibility of negative effects.
16 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 13
as certain as hard facts.” Id. at 402 (quoting Starkman v. The plaintiffs allege that the defendants made numerous
Marathon Oil Co., 772 F.2d 231, 241 (6th Cir. 1985)). false and misleading statements designed to inflate the price
Although the Sofamor Danek case precedes the adoption of of Vencor stock. The plaintiffs contend that the defendants
the PSLRA, we believe that it is appropriate to apply its attempted to elevate Vencor’s stock prices in order to ensure
holding to this case. In Comshare, this Circuit held that “the the success of Vencor’s bond offering in July of 1997.11
PSLRA did not change the scienter that a plaintiff must prove Plaintiffs also allege that the individual defendants benefitted
to prevail in a securities fraud case but instead changed what from the elevated stock prices through sales of portions of
a plaintiff must plead in his complaint in order to survive a their personal stock holdings. Plaintiffs allege that the
motion to dismiss.” 183 F.3d at 548-49. The Sofamor Danek individual defendants sold more than 222,000 shares of
court’s interpretation of the substantive law of scienter is not Vencor stock realizing proceeds of approximately $9.5
affected by the PSLRA’s requirements for pleading; thus, its million. Each allegedly false or misleading statement made
holding that “soft information” is not actionable continues to by the defendants concerned at least one of the following
be the law of this Circuit. Because the enactment of the aspects of Vencor’s business: (1) the effect of the Balanced
Balanced Budget Act was uncertain until August 5, 1997 Budget Act on Vencor’s revenues and earnings; (2) the effect
defendants cannot be held responsible for not disclosing of the acquisition of TheraTx and Transitional on Vencor’s
information about the possible effect that this legislation revenues and earnings, (3) the proposed sale of BHC to
would have on Vencor’s business. In addition, plaintiffs do Charter. The plaintiffs’ remaining allegations relate to the
not allege sufficient facts to permit a strong inference that any sale of the individual defendants’ stock holdings. We believe
of the defendants had actual knowledge that the statements that the plaintiffs do not allege sufficient facts to demonstrate
were false or misleading when made. that any of the statements attributable to the defendants were
false or misleading. In addition, we do not believe that the
The plaintiffs also do not allege sufficient facts to plaintiffs allege any facts to show that the defendants had the
demonstrate that Vencor made any false or misleading requisite state of mind. Because the plaintiffs’ complaint
statements after the enactment of the Act. The pleadings set does not allege sufficient facts to state a claim upon which
forth no statements, after August 5, 1997, which are directly relief can be granted, we affirm the dismissal of the plaintiffs’
attributable to any of the defendants. The alleged statements complaint.
after the enactment of the Act are all statements made by
financial analysts. The plaintiffs have failed to allege facts Initially, it is necessary to determine which statements,
that demonstrate that the defendants took affirmative action contained in the complaint, can be attributed to the
allowing us to attribute these statements to the defendants. In defendants. Plaintiffs allege numerous statements made by
addition, the plaintiffs have not alleged sufficient facts to financial analysts which they contend are based on
demonstrate that the defendants knew these statements were information provided to these analysts by one or more of the
false or misleading when made. Plaintiffs allege that the defendants. Relying on In re Syntex Corp. Securities
defendants received an internal memorandum in late July, Litigation, 95 F.3d 922, 934 (9th Cir. 1996) and In re Time
after the bill had passed both houses, but prior to receiving the Warner Inc., Securities Litigation, 9 F.3d 259, 265 (2d Cir.
President’s approval, informing them of the negative effect of
the legislation on Vencor’s earnings and revenues. This
11
On or about July 15, 1997, Vencor announced a sale of $750
million of senior notes. The proceeds of this sale were used to replenish
the credit facility which was depleted in connection with Vencor’s $574
million acquisition of Transitional.
14 Helwig, et al. v. Vencor, Inc., et al. No. 99-5153 No. 99-5153 Helwig, et al. v. Vencor, Inc., et al. 15
1993), defendants argue and the district court held that the assessing this aspect of the plaintiffs’ complaint, there are two
financial analysts’ statements cannot be imputed to the relevant time periods. The plaintiffs have alleged a Class
defendants unless the analyst’s report directly attributes the Period of February 10, 1997 until October 21, 1997.
statements to one or more of the defendants. In In re Time Statements made by the defendants during the time period
Warner, the Second Circuit held that Rule 9(b) requires a from February 10, 1997 until August 4, 1997 are not
plaintiff to identify the speaker of allegedly fraudulent actionable because the defendants could not know whether
statements. Id. In reaching this conclusion, the court stated the proposed legislation would be enacted. Although the
“[f]ew reporters or analysts would knowingly abet a fraud, plaintiffs could state a claim for statements made after the
and many will detect and reveal a corporation’s efforts to use enactment of the legislation on August 5, 1997, the plaintiffs
them as a channel for fraudulent statements. . . . Thus, the do not allege sufficient facts to demonstrate that the
opportunity to manipulate stock prices through the planting of defendants made any statements after the enactment of the
false stories is somewhat limited.” Id. We believe that the legislation that were false or misleading.
Second Circuit is correct in its holding. Although a
corporation provides analysts with information about the 15 U.S.C. § 78u-5(c) establishes a safe harbor for forward-
financial status of the corporation, the analyst does not simply looking statements. Statements fall into this safe harbor if
repeat that information verbatim in his report. Instead, the they are identified as forward-looking when made and are
analyst does what his job title suggests – he analyzes and accompanied by cautionary statements. See 15 U.S.C. § 78u-
synthesizes the information before reporting it to the public. 5(c)(1)(A) (West 1997). Statements also are entitled to this
We agree with the district court and the Second Circuit and protection if the plaintiff cannot prove that the speaker had
hold that a corporation cannot be held responsible for actual knowledge that the statement was false or misleading
analysts’ statements about the corporation’s financial health when made. See 15 U.S.C. § 78u-5(c)(1)(B). All of the
unless the corporation takes more affirmative action than statements alleged by the plaintiffs relating to the effect of the
simply providing information to the analysts. See id. Balanced Budget Act on the earnings and revenues of Vencor
Because the statements in the complaint by financial analysts that occurred before the legislation was passed are entitled to
do not satisfy the heightened pleading requirements this court this safe harbor protection. These statements contained “soft
will analyze the defendants’ motion to dismiss based only on information” concerning potential earnings and projected
those statements in the complaint that can be directly growth. See In re Sofamor Danek Group, Inc., 123 F.3d 394,
attributed to one or more of the defendants. 401 (6th Cir. 1997) (finding that “soft” information “includes
predictions and matters of opinion”). This Circuit has held
1. Statements relating to the Balanced Budget Act that “soft” information “must be disclosed only if . . . virtually
Plaintiffs allege that the defendants made numerous false
and misleading statements about the effect of the Balanced ¶ 44), 1996 Form 10-K (Compl. ¶ 45), announcement of First Quarter
Budget Act on the financial prospects of Vencor.12 In results (Compl. ¶ 50), First Quarter 10-Q (Compl. ¶¶ 54-56), Courier-
Journal article (Compl. ¶ 59), announcement of acquisition of
Transitional Hospital Corporation (Compl. ¶ 65), Transitional
12 presentation (Compl. ¶ 72), announcement of sale of notes (Compl. ¶ 76),
As stated above, many of plaintiffs’ allegations of false and announcement of Second Quarter results (Compl. ¶ 78), Second Quarter
misleading statements cannot be attributed to the defendants. Of the 10-Q (Compl. ¶ 83), announcement to sell network of hospitals (Compl.
remaining allegations, only defendants’ statements in Vencor’s press ¶ 89), and announcement of agreement to sell BHC (Compl. ¶ 92) should
release announcing acquisition of TheraTx ( Compl. ¶ 32), announcement be considered in assessing plaintiffs’ complaint. Of these statements only
of Fourth Quarter 1996 results (Compl. ¶ 41), annual report (Compl. the last two occurred after the enactment of the Balanced Budget Act.