Citigroup Wins Dismissal of Real Estate Mogul's Securities Fraud Action

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Susan M. Greenwood | Bloomberg Law Solow v. Citigroup, Inc., No. 10-CV-02927 (S.D.N.Y. Nov. 22, 2011) The U.S. District Court for the Southern District of New York dismissed without prejudice a securities fraud action by real estate developer Sheldon H. Solow against Citigroup, Inc. (Citigroup) and CEO Vikram Pandit (together, Defendants). Among other things, the Court held that plaintiff failed to adequately allege loss causation, dooming his claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, Rule 10b-5 thereunder, and for common law fraud.

Federal Bailout of Citigroup

Plaintiff's claims arise from the 2008 financial crisis and Citigroup's alleged narrow escape from financial collapse. On September 15, 2008, the same day that Lehman Brothers filed for bankruptcy, Pandit allegedly sent a memorandum to all Citigroup employees touting the company's capital ratio and strong cash position. According to plaintiff, these representations, republished in the Wall Street Journal, were false and misleading. Nevertheless, during the fall of 2008, Defendants continued to represent that Citigroup had strong capital and liquidity positions. Adding to its sense of strength, Citigroup also announced in September 2008 that it intended to "rescue" Wachovia Bank (Wachovia) as that institution neared collapse. The truth, plaintiff alleges, was far different. To begin with, Citigroup did not consummate any transaction with Wachovia. Indeed, plaintiff alleges that Federal Deposit Insurance Corp. (FDIC) Chairman Sheila Bair described the potential transaction as "the 'selling [of] a troubled institution . . . with a troubled mortgage portfolio to another troubled institution.'" Moreover, as Citigroup trumpeted its strong capital and liquidity, the company secretly borrowed funds from the Primary Dealer Credit Facility (PDCF), "a lending facility authorized by the Federal Reserve designed to help banks in distress." Citigroup purportedly borrowed $126.5 billion in September 2008 and another $312.9 billion in October 2008. The PDCF funds came on top of $25 billion in TARP money received in October 2008 after Citigroup experienced a "'global run on its deposits.'" Citigroup's financial position allegedly was so dire that in November 2008, "Treasury Secretary Henry Paulson advised President Bush that Citigroup was 'teetering on the brink of failure' and that 'Citi has a very weak balance sheet.'" Citigroup averted disaster but, plaintiff alleges, only because the federal government extended a rescue package including "a $20 billion capital injection and a $306 billion guarantee for Citigroup's illiquid and troubled assets." Investors, however, were unaware of either the impending disaster or the rescue as only days before government intervention, Defendants purportedly announced that the company continued to have strong capital and liquidity positions. In January 2009, after the New York Times reported on Citigroup's "'desperate need to raise capital,'" Defendants finally disclosed the $326 billion federal bailout, a $8.29 billion loss for the fourth quarter of 2008, and an additional $5.6 billion write-down.

False and Misleading Statements

As the Court explained, Defendants' alleged misrepresentations fall into three categories—liquidity, capitalization, and the rescue of Wachovia—but only the liquidity allegations are sufficient. — Liquidity "This Court has recognized that false and misleading statements about liquidity strength are actionable under Section 10(b)." Plaintiff, the Court continued, "draws a contrast between" Defendants' positive statements and Citigroup's massive borrowing from PDCF. While Defendants disputed that PDCF was designed to help failing banks, the Court noted that "[t]he cause and effect of this borrowing is a factual issue. . . ." Plaintiff's allegations of Citigroup's positive liquidity statements while it was secretly borrowing hundreds of billions of dollars sufficiently pleads material misrepresentations and omissions. — Capitalization Plaintiff focused on Citigroup's PDCF funds as well as "Repo 105" transactions to demonstrate that Defendants misrepresented the company's level of capitalization. The Court, however, explained that "'well-capitalized' is a term of art, and banks are considered to be well-capitalized if, among other metrics, they have a Tier 1 risk-based capital ratio of 6.0 or greater." Because plaintiff did not allege that Citigroup's capital ratio fell "below the legally prescribed threshold," the Court dismissed his claims based on the bank's capitalization. — Wachovia The Court also held that plaintiff failed to plead that Defendants misrepresented or omitted facts concerning Citigroup's proposed rescue of Wachovia. Concerns from the FDIC Chairman, the Court said, "do not contradict Citi's statements that its intended acquisition would save Wachovia." Without any supporting facts, plaintiff pled only a conclusory allegation that the proposed transaction had an ulterior motive.


The Court easily found that plaintiff's allegations give rise to a strong inference of scienter with respect to Defendants' liquidity statements, noting that plaintiff did not need to identify specific individuals that acted with scienter to plead scienter for Citigroup. The Court further explained that Defendants' actions after they made the alleged misstatements were relevant to its scienter inquiry. Specifically, the Court held that the additional federal funds that Citigroup received in the weeks after making positive liquidity statements present evidence of intent to defraud.

Loss Causation

Finally, the Court addressed loss causation and held that plaintiff failed to tie corrective disclosures to a materialization of a concealed risk. Several of the alleged corrective disclosures described steps Citigroup took to transfer certain assets. Plaintiff interpreted these statements to reveal that the assets were illiquid, but the Court disagreed. Similarly, the Court held that allegations that Citigroup was selling divisions and taking write-downs, "fail[] to explain how these events relate to Citigroup's liquidity or capital position." Because plaintiff did not successfully allege a claim under Section 10(b), the Court also dismissed his Section 20(a) and common law claims. Plaintiff, however, has 20 days to replead. DisclaimerThis document and any discussions set forth herein are for informational purposes only, and should not be construed as legal advice, which has to be addressed to particular facts and circumstances involved in any given situation. Review or use of the document and any discussions does not create an attorney-client relationship with the author or publisher. To the extent that this document may contain suggested provisions, they will require modification to suit a particular transaction, jurisdiction or situation. Please consult with an attorney with the appropriate level of experience if you have any questions. Any tax information contained in the document or discussions is not intended to be used, and cannot be used, for purposes of avoiding penalties imposed under the United States Internal Revenue Code. Any opinions expressed are those of the author. The Bureau of National Affairs, Inc. and its affiliated entities do not take responsibility for the content in this document or discussions and do not make any representation or warranty as to their completeness or accuracy.©2014 The Bureau of National Affairs, Inc. All rights reserved. Bloomberg Law Reports ® is a registered trademark and service mark of The Bureau of National Affairs, Inc.

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