Pr Diamonds, Inc. v. John P. Chandler

*This decision was originally issued as an “unpublished decision”
filed on M arch 3 , 2004 . On M arch 29, 2004 , the court designated the
opinion as one recommend ed for full-text publication.
**The Honorab le Gordon J. Q uist, United States District Judge for the
W estern District of Michigan, sitting by designation.
1
RECOMMENDED FOR FULL-TEXT PUBLICATION
Pursuant to Sixth Circuit Rule 206
ELECTRONIC CITATION: 2004 FED App. 0116P (6th Cir.)
File Name: 04a0116p.06
UNITED STATES COURT OF APPEALS
FOR THE SIXTH CIRCUIT
_________________
PR DIAMONDS, INC., et al.,
Plaintiffs-Appellants,
v.
JOHN P. CHANDLER, et al.,
Defendants-Appellees.
X
-
-
-
->
,
-
-
N
No. 02-3921
Appeal from the United States District Court
for the Southern District of Ohio at Cincinnati.
No. 01-00012—Sandra S. Beckwith, District Judge.
Argued: December 12, 2003
Decided and Filed: March 3, 2004*
Before: COLE and CLAY, Circuit Judges; QUIST, District
Judge.**
2 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
_________________
COUNSEL
ARGUED: William R. Jacobs, STRAUSS & TROY,
Cincinnati, Ohio, for Appellants. Robert A. Pitcairn, Jr.,
KATZ, TELLER, BRANT & HILD, Cincinnati, Ohio, Robert
N. Hochman, SIDLEY, AUSTIN, BROWN & WOOD,
Chicago, Illinois, for Appellees. ON BRIEF: Richard S.
Wayne, STRAUSS & TROY, Cincinnati, Ohio, for
Appellants. Robert A. Pitcairn, Jr., KATZ, TELLER,
BRANT & HILD, Cincinnati, Ohio, Robert N. Hochman,
Jeffrey R. Tone, Jeffrey C. Sharer, SIDLEY, AUSTIN,
BROWN & WOOD, Chicago, Illinois, for Appellees.
_________________
OPINION
_________________
GORDON J. QUIST, District Judge. Plaintiffs-appellants
in this securities fraud case are investors in the stock of
Intrenet, Inc. ("Intrenet" and the "Company"). Defendants-
appellees are two Intrenet officers (the "Individual
Defendants") and Intrenet's outside auditor, Arthur Andersen
LLP ("Andersen"). Plaintiffs' amended consolidated class
action complaint (the "Complaint") alleged that the Individual
Defendants and Andersen committed securities fraud in
violation of Section 10(b) of the Securities Exchange Act of
1934, 15 U.S.C. § 78j(b), and Rule 10b-5 promulgated by the
Securities and Exchange Commission (the "SEC"), 17 C.F.R.
§ 240.10b-5. In addition, Plaintiffs alleged that the Individual
Defendants were liable as control persons under Section 20(a)
of the Securities Exchange Act of 1934, 15 U.S.C. § 78t(a).
The district court dismissed the Section 10(b) and Rule 10b-5
claims for lack of specific allegations giving rise to a strong
inference of scienter, and later granted judgment on the
pleadings on the Section 20(a) claim for failure to state a
predicate securities fraud claim against the Company.

-- 1 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 3
Plaintiffs now appeal the district court's decisions. For the
reasons set forth below, we affirm.
I. Background
Intrenet was an Indiana corporation with its executive
offices and principal place of business in Milford, Ohio. The
Company operated as a holding company for four truckload
carrier subsidiaries (Roadrunner Trucking, Inc., Roadrunner
Distribution Services, Inc., Eck Miller Transportation Corp.,
and Advanced Distribution System, Inc.) and a brokerage
logistics operation (INET Logistics, Inc.). Intrenet's
consolidated financial statements included all five of these
subsidiaries. A publicly-held company, Intrenet was
registered with the Securities Exchange Commission and its
stock traded on the NASDAQ National Market System.
Formed in 1983, Intrenet was once one of the largest public
flatbed carriers in North America.
The two Individual Defendants, John P. Chandler and Eric
C. Jackson, were Intrenet officers and directors. Chandler
was President and Chief Executive Officer since June 12,
2000. Prior to that time, Chandler was, at all relevant times,
Executive Vice President and Chief Operating Officer of the
Company. Throughout the class period asserted in this
action, Chandler was also a director of Intrenet. Jackson was
Chairman of Intrenet's Board of Directors from June 12,
2000, to December 19, 2000. Prior to his appointment as
Chairman of the Board, Jackson was President and Chief
Executive Officer. Jackson was also a director of the
Company since 1993. Defendant Arthur Andersen LLP
served as Intrenet's outside auditor. In that capacity,
Andersen audited the Company's financial statements for the
years ending December 31, 1998, and December 31, 1999.
The alleged 20-month class period begins with an Intrenet
press release issued on February 19, 1999, reporting the
Company's financial results for the fourth quarter and year
ending December 31, 1998. Intrenet issued additional
4 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
financial statements and press releases over the course of the
class period. The class period ends with Intrenet's press
release dated October 13, 2000, in which the Company
announced that it was conducting a review of the accuracy of
its financial statements, focusing on the Advanced
Distribution System ("ADS") subsidiary. The press release
stated that pending the completion of the review, Intrenet's
1998 and 1999 year-end financial statements should not be
relied upon, and that the Company expected to reduce its net
income by approximately $1.3 million. NASDAQ trading in
Intrenet stock was halted on that same day, never to resume.
On October 18, 2000, Intrenet issued another press release
indicating that the internal audit showed $1.3 million in
unrecorded expenses at ADS which could result in
restatements of Intrenet's 1998, 1999, and first and second
quarter 2000 financial statements. The press release also
stated that the individual believed to be responsible for the
accounting issues was no longer with the Company.
On January 2, 2001, Intrenet announced that effective
immediately it and its subsidiary trucking companies would
cease operations, lay off most employees, and direct the
liquidation of assets. Intrenet said that after a thorough
review of the Company's business, industry dynamics, and all
available options, it was determined that issues related to fuel
prices, driver retention, and the unwillingness of many
customers to accept higher rates would preclude the Company
from achieving operational profitability in the foreseeable
future. Also, Intrenet noted that it lacked adequate capital to
execute its business plan. CEO Chandler further stated that
the previously announced accounting issues relating to the
ADS subsidiary had little impact on the decision to suspend
operations and liquidate. On January 19, 2001, Intrenet filed
for Chapter 11 bankruptcy protection.
Intrenet stockholder Hirsch Seidman initiated this action in
January 2001 in the United States District Court for the
Southern District of Ohio. Seidman sued both individually
and on behalf of all other similarly situated public investors

-- 2 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 5
who purchased Intrenet common stock during the class period
(February 19, 1999, through October 13, 2000) and incurred
losses when the stock lost value as a result of the October 13,
2000, press release and subsequent collapse of the Company.
In June 2001, the district court appointed P.R. Diamonds, Inc.
as lead plaintiff. Plaintiffs filed an amended consolidated
class action complaint (the "Complaint") on August 17, 2001,
to add Andersen as a defendant. Pursuant to this Complaint,
Plaintiffs asserted claims under 15 U.S.C. § 78j(b) ("Section
10(b)") and 17 C.F.R. § 240.10b-5 ("Rule 10b-5") against the
Individual Defendants and Andersen, as well as claims of
"control person" liability under 15 U.S.C. § 78t(a) ("Section
20(a)") against the Individual Defendants.
Plaintiffs' Complaint alleges that Intrenet's financial
statements and press releases during the asserted class period
contained material misrepresentations and omissions masking
the Company's true financial condition, making them false
and misleading. According to Plaintiffs, these fraudulent
financial statements and press releases inflated the Company's
financial results and growth, leading to artificial increases in
its stock price. The district court accurately summarized the
Complaint's allegations in the following manner:
(1) Intrenet's financial results and growth were artificially
inflated;
(2) Although Intrenet represented that its financial
statements were prepared in compliance with generally
accepted accounting principles ("GAAP"), they were not:
(a) the financial statements failed to reconcile inter-
company transactions among Intrenet's five subsidiaries;
(b) the financial statements failed to record day-to-day
operating expenses;
6 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
(c) the financial statements failed to account for
uncollectible receivables and understated receivable
reserves;
(d) the financial statements failed to record an
impairment in the value of Intrenet's assets; and
(e) the financial statements failed to fully disclose the
significant risks and uncertainties associated with
deficiencies in the company's internal control and
accounting system; and
(3) Intrenet's financial statements, which incorporated the
financial results of its five subsidiaries, artificially
inflated the net income and earnings of its ADS
subsidiary.
In addition to the aforementioned purported omissions and
misrepresentations, the Complaint alleges that Intrenet's
public statements included false and misleading language
painting an unduly rosy picture of the Company's financial
situation. For example, Intrenet claimed it was making "solid
strides" and "positive progress" at the time when Plaintiffs
allege losses were far in excess of those reported. Intrenet
also announced a plan to increase productivity and eliminate
expenses and liabilities when Plaintiffs allege it was
artificially inflating its earnings.
With respect to the Individual Defendants, the Complaint
asserts that as top-level Intrenet executives and control
persons, they knew of or recklessly disregarded the alleged
misrepresentations and omissions. With respect to Intrenet's
outside auditor, the Complaint posits that Andersen issued
false and misleading audit reports stating that Intrenet's
financial statements fairly represented the Company's
financial condition and complied with GAAP. Plaintiffs also
allege that Andersen failed to conduct its audits in compliance
with generally accepted auditing standards ("GAAS").

-- 3 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 7
On October 10, 2001, the Individual Defendants filed a
motion to dismiss Plaintiffs' case under Federal Rules of Civil
Procedure 9(b) and 12(b)(6). Andersen filed its motion to
dismiss pursuant to Federal Rule of Civil Procedure 12(b)(6)
on October 12, 2001. On November 21, 2001, Plaintiffs filed
a consolidated memorandum opposing Defendants' motions
to dismiss and, in the alternative, requesting leave to amend
their Complaint. The district court issued an order on
February 26, 2002, dismissing Plaintiffs' claims under Section
10(b) and Rule 10b-5 against the Individual Defendants and
Andersen for lack of specific allegations giving rise to a
strong inference of scienter as required by the Private
Securities Litigation Reform Act of 1995, as amended, 15
U.S.C. § 78u-4 (the "PSLRA"). However, the district court
denied the motion to dismiss the Section 20(a) control person
claim against the Individual Defendants on the grounds then
asserted. On May 23, 2003, the Individual Defendants filed
a motion for judgment on the pleadings under Federal Rule of
Civil Procedure 12(c) on the remaining Section 20(a) claim.
The district court granted the motion on July 17, 2002,
concluding that Plaintiffs failed to state an underlying
securities fraud claim against Intrenet as required by Section
20(a), denying as moot Plaintiffs' motion for class
certification, and ordering the action closed. In neither of its
opinions did the district court discuss granting Plaintiffs leave
to amend. On August 4, 2002, Plaintiffs filed a timely notice
of appeal with this Court.
In this appeal, Plaintiffs present the following issues for
review:
(1) Whether the district court erred in dismissing
Plaintiffs' Section 10(b) and Rule 10b-5 claims against
the Individual Defendants on the basis that Plaintiffs'
Complaint does not adequately allege that the Individual
Defendants acted with scienter.
8 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
(2) Whether Plaintiffs' Section 20(a) claims against the
Individual Defendants can proceed despite the absence of
the Company as a defendant.
(3) Whether the district court erred in dismissing
Plaintiffs' Section 10(b) and Rule 10b-5 claims against
Defendant Arthur Andersen on the basis that Plaintiffs'
Complaint does not adequately allege that Andersen
acted with scienter.
(4) Whether the district court erred in dismissing the case
without affording Plaintiffs the opportunity to amend
their Complaint.
II. Standard of Review
This Court reviews de novo a district court's dismissal of a
complaint under Fed. R. Civ. P. 12(b)(6). See Valassis
Communications v. Aetna Cas. & Sur. Co., 97 F.3d 870, 873
(6th Cir. 1996). The same de novo standard applies to review
of a district court's judgment on the pleadings under Fed. R.
Civ. P. 12(c). See Ziegler v. IBP Hog Market, Inc., 249 F.3d
509, 511-12 (6th Cir. 2001). The Court must accept as true
"well-pleaded facts" set forth in the complaint. Morgan v.
Church's Fried Chicken, 829 F.2d 10, 12 (6th Cir. 1987).
Construing the complaint in a light most favorable to the
plaintiffs, we must determine whether the plaintiffs
undoubtedly can prove no set of facts in support of their
claims that would entitle them to relief. Mayer v. Mylod, 988
F.2d 635, 637 (6th Cir. 1993). Finally, we review a district
court's denial of leave to amend for abuse of discretion, Miller
v. Champion Enters., Inc., 346 F.3d 660, 671 (2003), except
in cases where the district court bases its decision on the legal
conclusion that an amended complaint could not withstand a
motion to dismiss, where the review is de novo. Monette v.
Elec. Data Sys. Corp., 90 F.3d 1173, 1188 (6th Cir. 1996).

-- 4 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 9
III. Discussion
A. Section 10(b) and Rule 10b-5 Claims Against the
Individual Defendants
Plaintiffs first contend that the district court erred when it
dismissed the Section 10(b) and Rule 10b-5 claims against the
Individual Defendants on the basis that the Complaint lacked
specific allegations giving rise to a strong inference of
scienter, as required under the PSLRA. Plaintiffs challenge
the district court's holding, arguing that the allegations of the
Complaint, when considered in their totality, do in fact give
rise to a strong inference that the Individual Defendants had
either actual knowledge of, or at least recklessly disregarded,
the alleged material misrepresentations and omissions
contained in Intrenet's statements to the investing public. As
we explain in the discussion that follows, we hold that
Plaintiffs fail to meet the standards for pleading scienter on
the part of the Individual Defendants and, therefore, the
Section 10(b) and Rule 10b-5 claims against them were
properly dismissed.
10 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
1Section 10 provides as follows:
It shall be unlawful for any person, directly or indirectly, by the
use of any means o r instrumentality of interstate commerce or of
the mails, or of any facility of any national securities exchange -
....
(b) To use or employ, in connection with the purchase
or sale of any security registered on a national
securities exchange or any security not so registered,
any manipulative or deceptive device or contrivance in
contravention of such rules and regulations as the
Commission may prescribe as necessary or appropriate
in the public interest or for the pro tection of investors.
15 U.S.C. §7 8j.
2Rule 10b-5, prescribed by the SEC under Section 10(b), provides as
follows:
It shall be unlawful for any p erson, directly or indirectly, by the
use of any means or instrumentality of interstate commerce, or
of the mails or of any facility of any national securities
exchange,
(a) To employ any device, scheme, or artifice to defraud,
(b) To make any untrue statement of a m aterial fact or to omit to
state a material fact necessary in order to make the statements
made, in the light of the circumstances under which they were
made, not misleading, or
(c) To engage in any act, practice, or course of business which
operates or would operate as a fraud or deceit upon any person,
in connection with the p urchase or sale of any se curity.
17 C.F.R. § 240.10b-5.
1. Governing Law - Pleading Standards
Section 10(b)1 of the Exchange Act and Rule 10b-52
promulgated thereunder prohibit "fraudulent, material
misstatements or omissions in connection with the sale or
purchase of a security." Morse v. McWhorter, 290 F.3d 795,

-- 5 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 11
3Plaintiffs in this case do not allege forward-looking statements, to
which the PSLRA applies different scienter requirements pursuant to a
safe harbor provision. Forward-looking statements include projections
and estimates of a company's future economic performance, including
statements related to revenues, earnings per share, income , dividends,
capital expenditures, capital structure, and other financial items.
15 U.S.C. § 78u-5(i)(1). As to forward -looking statem ents accompanied
by meaningful cautionary language, the PSLR A makes the state of mind
irrelevant. 15 U.S.C. § 78u-5(c)(1)(A). In the case of forward-looking
statements that are not accompanied by meaningful cautionary language,
798 (6th Cir. 2002). In order to state a claim pursuant to
Section 10(b) and Rule 10b-5, "a plaintiff must allege, in
connection with the purchase or sale of securities, the
misstatement or omission of a material fact, made with
scienter, upon which the plaintiff justifiably relied and which
proximately caused the plaintiff's injury. Hoffman v.
Comshare, Inc. (In re Comshare, Inc. Secs. Litig.), 183 F.3d
542, 548 (6th Cir. 1999). Adding to the Federal Rule of Civil
Procedure 9(b) requirement that fraud allegations be stated
with particularity, the PSLRA requires that the complaint
"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, the complaint shall state with
particularity all facts on which that belief is formed."
15 U.S.C. § 78u-4(b)(1).
The appeal before us centers on whether the Complaint
adequately pleads the scienter element of a Section 10(b) and
Rule 10b-5 claim. In reviewing the district court's decision
dismissing the Complaint, we must first examine the meaning
of "scienter" in the securities fraud setting. The Supreme
Court has defined "scienter" as "a mental state embracing
intent to deceive, manipulate, or defraud." Ernst & Ernst v.
Hochfelder, 425 U.S. 185, 193 n.12, 96 S. Ct. 1375, 1381
n.12 (1976). In securities fraud claims based on statements of
present or historical fact - such as the claims Plaintiffs bring
in this case - scienter consists of knowledge or recklessness.3
12 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
the required state of mind is actual knowledge of the statements' false or
misleading nature. 15 U.S.C. § 78 u-5(c)(1)(B).
Helwig v. Vencor, Inc., 251 F.3d 540, 552 (6th Cir. 2001) (en
banc). Recklessness is defined as "highly unreasonable
conduct which is an extreme departure from the standards of
ordinary care. While the danger need not be known, it must
at least be so obvious that any reasonable man would have
known of it." Mansbach v. Prescott, Ball & Turben, 598 F.2d
1017, 1025 (6th Cir. 1979) (quoted in Miller, 346 F.3d at
672). Recklessness is "a mental state apart from negligence
and akin to conscious disregard." Comshare, 183 F.3d at 550.
See also Id. at 550 n.7 ("As we have observed, federal
appellate courts have long held the view that, for the purposes
of securities fraud, 'recklessness' that is far from negligence
and closer to a 'lesser form of intent' constitutes scienter.")
(quoting Sanders v. John Nuveen & Co., Inc., 554 F.2d 790,
793 (7th Cir. 1977)).
Next, we examine the special requirements for pleading
scienter in federal securities fraud cases such as this. As with
all fraud claims, Federal Rule of Civil Procedure 9(b) applies
to pleading a defendant's state of mind, allowing that
"[m]alice, intent, knowledge, and other condition of mind of
a person may be averred generally." However, Congress
amended the Securities Exchange Act of 1934 through
passage of the PSLRA, heightening the standard for pleading
scienter in a securities fraud case:
In any private action arising under this title in which the
plaintiff may recover money damages only on proof that
the defendant acted with a particular state of mind, the
complaint shall, with respect to each act or omission
alleged to violate this title, state with particularity facts
giving rise to a strong inference that the defendant acted
with the required state of mind.

-- 6 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 13
15 U.S.C. § 78u-4(b)(2) (emphasis added). The PSLRA
provides that if a plaintiff does not meet this requirement, a
court may, on any defendant's motion, dismiss the complaint.
See 15 U.S.C. § 78u-4(b)(3). "As courts have observed, the
PSLRA did not change the scienter that a plaintiff must prove
to prevail in a securities fraud case but instead changed what
a plaintiff must plead in his complaint in order to survive a
motion to dismiss." Comshare, 183 F.3d at 548-49 (citation
omitted).
As the foregoing authorities make clear, a plaintiff may
survive a motion to dismiss by pleading with particularity
facts giving rise to a strong inference that the defendant acted
with knowledge or recklessness. In other words, not only
must the complaint make particular factual allegations, but
the inference of scienter which those allegations generate
must be strong. In Helwig, we provided a definitive
explanation of the meaning of a "strong inference":
Inferences must be reasonable and strong - but not
irrefutable. "Strong inferences" nonetheless involve
deductive reasoning; their strength depends on how
closely a conclusion of misconduct follows from a
plaintiff's proposition of fact. Plaintiffs need not
foreclose all other characterizations of fact, as the task of
weighing contrary accounts is reserved for the fact
finder. Rather, the "strong inference" requirement means
that plaintiffs are entitled only to the most plausible of
competing inferences.
251 F.3d at 553. The PSLRA does not change the Rule
12(b)(6) maxim that when an allegation is capable of more
than one inference, it must be construed in the plaintiff's
favor. Id. ("Our willingness to draw inferences in favor of the
plaintiff remains unchanged by the PSLRA."). However, the
"strong inference" requirement means that a plaintiff is
entitled to only the most plausible of competing inferences.
Miller, 346 F.3d at 673.
14 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
We have previously stated that the factors enumerated in
the following list, while not exhaustive, are probative of
scienter in securities fraud actions:
(1) insider trading at a suspicious time or in an unusual
amount; (2) divergence between internal reports and
external statements on the same subject; (3) closeness in
time of an allegedly fraudulent statement or omission and
the later disclosure of inconsistent information;
(4) evidence of bribery by a top company official;
(5) existence of an ancillary lawsuit charging fraud by a
company and the company's quick settlement of that suit;
(6) disregard of the most current factual information
before making statements; (7) disclosure of accounting
information in such a way that its negative implications
could only be understood by someone with a high degree
of sophistication; (8) the personal interest of certain
directors in not informing disinterested directors of an
impending sale of stock; and (9) the self-interested
motivation of defendants in the form of saving their
salaries or jobs.
Helwig, 251 F.3d at 552 (citing Greebel v. FTP Software,
Inc., 194 F.3d 185, 196 (1st Cir. 1999)).
2. The Complaint Fails to Raise a Strong Inference of
Scienter
Plaintiffs contend that the district court erred in concluding
that the Complaint failed to allege facts raising a strong
inference of the Individual Defendants' scienter. The gist of
Plaintiffs' argument is that the district court mistakenly
viewed the allegations of the Complaint in a piecemeal
fashion, rather than considering the totality of the
circumstances pled. As Plaintiffs correctly point out, this
Court employs a totality of the circumstances analysis
whereby the facts argued collectively must give rise to a
strong inference of at least recklessness. See In re Telxon
Corp. Secs. Litig., 133 F. Supp. 2d 1010, 1026 (N.D. Ohio

-- 7 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 15
2000) ("Thus, the Sixth Circuit employs a form of 'totality of
the circumstances' analysis; this Court, accordingly, declines
to examine plaintiffs' allegations in piecemeal fashion and,
will instead, assess them collectively to determine what
inferences may be drawn therefrom.") (citing Comshare, 183
F.3d 542 at 549-52).
Reading the Complaint in its entirety, Plaintiffs maintain,
establishes a strong inference that throughout the class period
the Individual Defendants knew of serious accounting
improprieties at Intrenet and the effect such improprieties
were having on the Company's financial condition, or were
reckless in not knowing or in disregarding this information.
Furthermore, Plaintiffs contend that after the outside
consultant discovered the accounting improprieties, the
inference of scienter is not merely strong, but virtually
inescapable. Despite this awareness, Plaintiffs argue, the
Individual Defendants continued to make materially false and
misleading statements and omissions in Intrenet's financial
statements and press releases.
Specifically, Plaintiffs argue that a strong inference of the
Individual Defendants' scienter arises when viewing in
totality the following allegations in the Complaint: the nature
and magnitude of the accounting improprieties at Intrenet;
other "red flags" signaling the accounting errors; the
Individual Defendants' access to Intrenet's financial
information by virtue of their positions at the Company; the
fact that the accounting improprieties occurred in areas touted
as the Company's key areas of focus; the Individual
Defendants' motives and opportunities to commit fraud; the
hiring of an outside consultant; and the outside consultant's
discovery of internal control deficiencies and accounting
irregularities.
Our examination of each of these clusters of allegations
shows that, even viewed collectively, they fail to adequately
plead scienter on the part of the Individual Defendants. To
reiterate, we do not in this Opinion address whether, in light
16 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
of the alleged accounting irregularities at Intrenet, the
Company's financial statements and press releases materially
misrepresented Intrenet's true state of financial affairs. The
issue before us is limited to the scienter inquiry: that is,
whether Plaintiffs have met their burden of pleading specific
facts which, when viewed together, persuade us that the most
plausible conclusion to draw is that the Individual Defendants
must or should have known about the problems and
nevertheless knowingly or recklessly made the allegedly
misleading public statements. While the allegations no doubt
merit drawing some inference of scienter, that is not enough.
The PSLRA requires the Complaint to establish a strong
inference - the most plausible of competing inferences - that
the Individual Defendants acted at least recklessly, meaning
that their states of mind were reflected in highly unreasonable
conduct constituting an extreme departure from the standards
of ordinary care so obvious that any reasonable person would
have known of it. Here, the Complaint fails.
In the following discussion, we consider each allegation
Plaintiffs offer in their effort to plead scienter. As we have
noted before, "recklessness in securities fraud is an untidy,
case-by-case concept." Helwig, 251 F.3d at 551 (citing
Mansbach, 598 F.2d at 1025). "This necessarily involves a
sifting of allegations in the complaint." Id. Accordingly, we
sift Plaintiffs' allegations individually and then aggregate the
nuggets of inference they generate, concluding in the end no
strong inference arises.
(a) Accounting Improprieties
Plaintiffs contend that the Complaint's allegations of
Intrenet's improper accounting practices and internal control
deficiencies comprise circumstantial evidence supporting a
strong inference of the Individual Defendants' scienter.
Plaintiffs suggest that none of these accounting "maneuvers"
had any facially valid purpose and, therefore, they support the
inference that the Individual Defendants harbored an intent to
artificially inflate the Company's operating results. The

-- 8 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 17
alleged accounting improprieties include: failure to reconcile
inter-company transactions; understatement of day-to-day
operating expenses; accounting for uncollectible receivables
and understatement of Intrenet's accounts receivable reserve;
failure to record an impairment in the value of assets; failure
to disclose significant risks and uncertainties; arbitrarily
applying cash receipts against the oldest outstanding
receivable; and recording journal entries in violation of the
Foreign Corrupt Practices Act, without support or backup
documentation. According to Plaintiffs, the nature and
magnitude of the obvious, pervasive accounting problems at
Intrenet support a strong inference that the Individual
Defendants knew of or recklessly disregarded these problems
when making statements to the investing public.
In Comshare, we held that "[t]he failure to follow GAAP is,
by itself, insufficient to state a securities fraud claim." 183
F.3d at 553 (internal citations omitted). A complaint alleging
accounting irregularities fails to raise a strong inference of
scienter if it "allege[s] no facts to show that Defendants knew
or could have known of the errors, or that their regular
procedures should have alerted them to the errors sooner than
they actually did." Id. We noted in Comshare that a strong
inference of scienter cannot be drawn from speculative and
conclusory allegations of GAAP violations. Id. However, as
discussed below, some courts have recognized that an
inference of knowledge or recklessness may be drawn from
allegations of accounting violations that are so simple, basic,
and pervasive in nature, and so great in magnitude, that they
should have been obvious to a defendant.
Courts have described the type and scope of accounting
errors that, in combination with other factors, support a strong
inference of scienter. For example, Plaintiffs cite In re
MicroStrategy, Incorporated Securities Litigation, 115 F.
Supp. 2d 620 (E.D. Va. 2000) for the proposition that
violations of simple accounting rules are obvious, and an
inference of scienter becomes more probable as the violations
become more obvious. The complaint in MicroStrategy
18 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
alleged that accounting violations caused the company to
report aggregate "record" net income of $18.9 million over
three years, when in fact the company incurred a net loss for
those years of more than $36 million. Id. at 636. In addition,
the company overstated its revenues over the same period by
a total of $66 million. Id. After reiterating the maxim that
allegations of accounting violations standing alone can never
lead to a strong inference of scienter, MicroStrategy
nevertheless intimated that the nature of the misapplication of
accounting principles - in terms of number, size, timing,
frequency, and context - is relevant circumstantial evidence
of a defendant's state of mind. Id. at 635. Turning to the facts
before it, the court concluded that the "magnitude,"
"pervasiveness," and "repetitiveness" of the company's
violations of "simpl[e]" accounting principles "serve[d] to
amplify the inference of scienter." Id. at 636. The court
explained:
Indeed, common sense and logic dictate that the greater
the magnitude of a restatement or violation of GAAP, the
more likely it is that such a restatement or violation was
made consciously or recklessly. This, of course, is a
matter of degree, but it cannot be gainsaid that some
violations of GAAP and some restatements of financials
are so significant that they, at the very least, support the
inference that conscious fraud or recklessness as to the
danger of misleading the investing public was present.
Cf. In re Oxford Health Plans, Inc. Sec. Litig., 51 F.
Supp. 2d 290, 294 (S.D.N.Y. 1999) ("[P]laintiffs allege
'in your face facts,' that cry out, 'how could [defendants]
not have known that the financial statements were
false.'") In this case, the alleged GAAP violations and the
subsequent restatements are of such a great magnitude –
amounting to a night-and-day difference with regard to
MicroStrategy's representations of profitability – as to
compel an inference that fraud or recklessness was afoot.
Id. at 636-37 (footnotes omitted).

-- 9 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 19
Other cases likewise indicate the drastic nature and
magnitude necessary for accounting violations to support a
strong inference of scienter. In Telxon, the court
distinguished the "far more egregious" facts before it from
those alleged in Comshare, where we held that the alleged
accounting errors did not support a strong inference of
scienter. 133 F. Supp. 2d at 1031. "Telxon, allegedly,
overstated its revenues for years, did so by over $20 million
in a single quarter and reported profits when it should have
been reporting losses over several different quarters." Id.
(italics in original) In addition, the accounting errors
appeared to be fortuitously timed, resulting in revenue
increases at times when the company foretold that it would
return to profitability, or when the company needed to show
profits to justify rejecting a takeover bid and to win a proxy
battle. Id. The Telxon court also noted the defendants'
training, background, and access to information. "Thus, the
nature and number of the alleged accounting manipulations,
coupled with the magnitude of the difference between the
originally reported financial disclosures and their
restatements, and the fact that the misstatements escalated
dramatically in the face of the [competing offer and proxy
battle]," taken in conjunction with the remaining allegations
in the complaint, convinced the court that the plaintiffs had
adequately alleged scienter. Id.
In contrast to the aforementioned cases, the accounting
irregularities Plaintiffs allege in this case are significantly less
egregious in nature and magnitude and thus do not support a
strong inference that nondisclosure of the correct numbers
was the product of a deliberate or reckless effort by the
Individual Defendants to defraud investors. Alleged
inaccuracies stemming from GAAP violations at Intrenet
include: (1) unreconciled and uneliminated inter-company
transactions totaling $600,000 by the end of 1999 that, had
they been properly accounted for, would have reduced
Intrenet's 1999 pre-tax operating income of $750,000 to
$150,000; (2) at least $200,000 in unrecorded expenses
resulting from the ADS subsidiary's failure to record normal
20 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
day-to-day operating expenses as they occurred; (3) $600,000
in underreported expenses due to failure to adequately reserve
for uncollectible accounts receivable resulting in an amplified
accounts receivable balance (e.g., during the year ending
December 31, 1999, Intrenet's net accounts receivable
increased by approximately $4.4 million, or 14%, but its
operating revenues increased by only 8%); and (4) failure to
record an impairment loss in the carrying value of machinery
and equipment assets valued at $340,000 but in reality worth
nowhere near the recorded amount. The Complaint notes the
October 18, 2000, press release reporting a possible
restatement to the tune of $1.3 million in unrecorded expenses
at ADS and alleges that improper accounting practices caused
Intrenet to report a pre-tax 1999 operating income of
$750,000 when in fact it should have reported an operating
loss of approximately $50,000.
These alleged accounting and reporting problems do not
resemble the pervasive and egregious manipulations found to
support a strong inference of scienter in other cases. Intrenet
operated one of the largest trucking fleets in the country, with
over $280 million in revenue and $75 million in total assets
in 1999. Moreover, the Company did disclose that it lost over
$4.8 million in 1999, compared with a gain of $2.8 million in
1998, and that its operating income fell from over $6.3
million in 1998 to less than $1 million in 1999 on higher
revenues. Intrenet's press release announced a possible
downward restatement of income of approximately $1.3
million, and Plaintiffs allege that the Company's accounting
irregularities turned the Company's 1999 operating loss of
$50,000 into a $750,000 profit. In the face of these figures,
the errors Plaintiffs allege are not especially dramatic.
Accepting Plaintiffs' allegations as true, Intrenet represented
itself as a barely profitable company, when in fact it was a
barely unprofitable company. It simply cannot be said that
Intrenet's accounting improprieties, by virtue of their type and
size, "should have been obvious," Comshare, 183 F.3d at 554,
to the Individual Defendants. These are not "in your face
facts" that "cry out" scienter. Therefore, the alleged GAAP

-- 10 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 21
violations, standing alone, are insufficient to state a securities
fraud claim, and when viewed in combination with the other
allegations only weakly support an inference of scienter, if at
all.
(b) Red Flags
Next, Plaintiffs contend that the Individual Defendants
knowingly or recklessly disregarded "red flags" indicating
Intrenet's improper accounting practices, GAAP violations,
and internal control deficiencies. Specific factual allegations
that a defendant ignored red flags, or warning signs that
would have revealed the accounting errors prior to their
inclusion in public statements, may support a strong inference
of scienter. Comshare, 183 F.3d at 553-54. See also Miller
v. Material Sciences Corp., 9 F. Supp. 2d 925, 928-29 (N.D.
Ill. 1998) ("Deliberately ignoring 'red flags'...can constitute
the sort of recklessness necessary to support § 10(b)
liability."). On the other hand, ignoring red flags may
indicate that a defendant was merely negligent, not reckless.
Courts typically look for multiple, obvious red flags before
drawing an inference that a defendant acted intentionally or
recklessly. See, e.g., In re Health Mgmt., Inc. Secs. Litig.,
970 F. Supp. 192, 203 (E.D.N.Y. 1997) (citing In re Leslie
Fay Cos., Inc., 871 F. Supp, 686, 699 (S.D.N.Y. 1995)).
In Health Mgmt., the court inferred an auditor's fraudulent
intent from numerous alleged red flags that should have led
the auditor to question its audit opinion, including (i) the
auditor's credulous acceptance of representations from the
company that fairly obviously failed to reflect reality; (ii) the
auditor's failure to follow up on an analyst letter alerting the
auditor to artificially inflated accounts receivable levels; and
(iii) the auditor's failure to exercise heightened scrutiny in
response to the analyst letter and an SEC inquiry on the same
subject. Id. at 203. The court concluded that the allegations
implied that the auditor "turned a blind eye" to the
wrongdoing. Id. Likewise, in Leslie Fay (a pre-PSLRA
case), the court inferred scienter from allegations that the
22 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
defendant deliberately chose to ignore multiple red flags that
would be "clearly evident" to anyone in the defendant's
position. 871 F. Supp. at 699.
Red flags in this case would be circumstances that would
have put the Individual Defendants on notice that Intrenet's
financial statements and press releases contained material
misstatements or omissions, or at least would have given
them reasons to question the veracity of the statements.
Comshare, 183 F.3d at 553. The only purported red flag
Plaintiffs specifically identify in their Complaint is the
allegation that during the year ended December 31, 1999,
Intrenet's net accounts receivable increased by approximately
$4.4 million, or 14%, but its operating revenues increased by
only approximately 8%. This supposed red flag, Plaintiffs
maintain, should have alerted the Individual Defendants to
Intrenet's failure to adequately reserve for uncollectible
accounts receivable - a failure that resulted in $600,000 of
unreported expenses in 1999. The Court disagrees that these
circumstances constitute a red flag sufficiently blatant that
fraudulent intent can be inferred. Perhaps the Individual
Defendants' handling of the alleged accounts receivable
situation suggests negligence on their part, but the
Complaint's allegations do not resemble in severity or number
the sort that courts consider indicative of knowledge or
reckless disregard.
(c) Access to Information
To buttress the argument that the Individual Defendants
knew of or recklessly disregarded adverse information about
Intrenet when making representations about the Company to
the public, Plaintiffs point to their top-level positions within
Company. During the putative class period, Chandler first
served as Intrenet's Executive Vice President and Chief
Operating Officer, and after June 12, 2000, was the
Company's President and Chief Executive Officer until the
end of the class period, all this time serving as a director as
well. Meanwhile, Jackson was Intrenet's President and Chief

-- 11 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 23
Executive Officer from June 1999 to June 12, 2000, when he
became Chairman of the Board of Directors. Jackson also
served as a director throughout the putative class period.
Plaintiffs maintain that by virtue of their positions within the
Company, the Individual Defendants had access to all of
Intrenet's financial information and controlled the content of
all the Company's public statements and SEC filings. The
Individual Defendants' access to Intrenet's financial
information, Plaintiffs argue, works in favor of drawing a
strong inference of scienter with respect to the alleged
misrepresentations or omissions in the Company's public
communications.
Contrary to Plaintiffs' assertions, fraudulent intent cannot
be inferred merely from the Individual Defendants' positions
in the Company and alleged access to information. As even
the authorities which Plaintiffs cite indicate, the Complaint
must allege specific facts or circumstances suggestive of their
knowledge. Without more, Plaintiffs fail to meet the PSLRA
requirement to state with particularity facts giving rise to a
strong inference of scienter. See, e.g., In re Peritus Software
Servs., Inc. Secs. Litig., 52 F. Supp. 2d 211, 228 (D. Mass.
1999) (general allegations that a defendant, through his board
membership or executive position, had actual knowledge of
false statements or reckless disregard for the truth are
insufficient to raise strong inference of scienter). While it is
true that high-level executives can be presumed to be aware
of matters central to their business's operation, In re Complete
Management, Incorporated Securities Litigation, 153 F.
Supp. 2d 314, 325-36 (S.D.N.Y. 2001), in this case it cannot
be said that the alleged misrepresentations or omissions
pertained to central, day-to-day operational matters. Instead,
they turn largely on accounting issues, predominantly at the
ADS subsidiary, which the Court has already determined are
relatively arcane in nature and scope. While the Individual
Defendants' positions are relevant to the analysis of whether
they are "control persons" for purposes of Section 20(a), on
their own they do not bear strongly on the scienter analysis.
Here, as in Comshare, Plaintiffs "allege no facts to show that
24 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
[the Individual Defendants] knew or could have known of the
errors, or that their regular procedures should have alerted
them to the errors sooner than they actually did." 183 F.3d at
553.
(d) Areas of Focus
Plaintiffs seek to draw additional support for a strong
inference of the Individual Defendants' scienter by claiming
that Intrenet's accounting improprieties occurred in areas of
the business that the Individual Defendants had specifically
identified as targets of intense focus for the Company and
where they were under pressure to show success. As a basis
for this proposition, Plaintiffs cite Telxon, 133 F. Supp. at
1029. In that case, the court considered a variety of
circumstances relevant to reaching a strong inference of
scienter, including allegations of motive and opportunity,
large restatements of the company's financial disclosures, and
accounting manipulations of "substantial magnitude." Id.
Another factor the court considered was "the fact that Telxon
and its officers were in a very difficult position, facing
unusual pressures to perform during the class period, and
stood to benefit substantially from a performance record
which matched the healthy ones [a company executive]
continually projected to the public." Id. The pressures to
make public statements reflecting profitable performance
stemmed from "the need to stave off [another company's] take
over efforts and ensuing proxy-battle." Id. at 1028.
Here, Plaintiffs contend that Intrenet's press releases
announcing the Company's financial results touted the
Individual Defendants' careful monitoring of the very areas in
which Intrenet committed accounting violations. The press
releases stated that "the Company has implemented a program
to eliminate, where possible, expenses and liabilities that have
historically been a burden to profitable operations"; "[t]he
new management team has been tireless in identifying and
eliminating unnecessary costs throughout the organization";
"[t]he Company has made solid strides and positive progress

-- 12 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 25
during what, otherwise, has been a challenging year"; and that
the Company would be late in filing its 1999 10-K to analyze
the impact of "recent operational trends," primarily
extraordinary increases in fuel prices, on the Company's
ability to meet financial covenants in its bank loan
agreements.
The Court is not persuaded that the aforementioned
statements in Intrenet's press releases do much to support an
inference that the Individual Defendants knew or should have
known about the specific accounting problems alleged in the
Complaint. These are little more than statements of broad
operational plans or goals - eliminating costs, reducing
liabilities, improving profits, etc. These statements do not
show knowledge or reckless disregard of the discrete and
particularized alleged GAAP violations and control
deficiencies concentrated in the ADS subsidiary.
(e) Motive and Opportunity
Next, Plaintiffs argue that the Complaint alleges that the
Individual Defendants had motives and opportunities to
defraud investors. These allegations, Plaintiffs maintain,
when considered together with the other allegations in the
Complaint, support a strong inference of knowledge or
reckless disregard on the part of the Individual Defendants.
The Complaint's motive allegations include: (1) the improper
accounting practices helped to mask the Company's
deteriorating operating results and forestall its impending
default under certain financial covenants of its bank loan
agreement; (2) the Individual Defendants sought to reduce the
impact of a spike in fuel costs in the first quarter of 2000 by
reporting consolidated financial statements that incorporated
artificially inflated net income and earnings of the ADS
subsidiary; (3) the Company was motivated to inflate the
value of its accounts receivable because borrowings under its
$32 million credit facility, which the Company obtained in
February 2000, were determined by a formula tied to the
Company's eligible accounts receivable as defined in the
26 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
credit agreement. In addition, Plaintiffs allege that the
Individual Defendants had other motives to artificially inflate
Intrenet's stock price, including: (1) to protect themselves and
their investment in the Company; (2) to protect and enhance
their executive positions and the substantial compensation
and prestige obtained thereby; and (3) to allow Jackson to
engage in self-dealing transactions from which he reaped
profits, wherein Intrenet leased tractor trailers from a leasing
company that purchased the trucks from a dealership
affiliated with Jackson. Also, the Complaint alleges that
Chandler was motivated to disseminate materially false and
misleading financial statements in order to receive a bonus
based on a percentage of net income before taxes, up to a
maximum of $500,000. Finally, the Complaint alleges that
the Individual Defendants had opportunities to participate in
fraud due to their positions as the highest ranking officers of
Intrenet who controlled the content of the Company's press
releases and public filings.
"[T]he bare pleading of motive and opportunity does not,
standing alone, constitute the pleading of a strong inference
of scienter." Comshare, 183 F.3d at 551. However, "[w]hile
it is true that motive and opportunity are not substitutes for a
showing of recklessness, they can be catalysts to fraud and so
serve as external markers to the required state of mind."
Helwig, 251 F.3d at 550. "[F]acts regarding motive and
opportunity may be relevant to pleading circumstances from
which a strong inference of fraudulent scienter may be
inferred, and may, on occasion, rise to the level of creating a
strong inference of reckless or knowing conduct." Comshare,
183 F.3d at 551 (internal quotation and citation omitted).
While bare allegations of motive and opportunity, without
more, are insufficient to establish scienter, the Court must
assess whether such allegations, considered in conjunction
with the remainder of Plaintiff's allegations, on the whole
raise an inference of recklessness or knowing disregard.
Telxon, 133 F. Supp. 2d at 1028.

-- 13 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 27
Opportunity to commit fraud "entail[s] the means and likely
prospect of achieving concrete benefits by the means alleged."
In re Criimi Mae, Inc. Secs. Litig., 94 F. Supp. 2d 652, 660
(D. Md. 2000) (internal quotations and citations omitted).
With respect to the Individual Defendants' opportunities to
engage in fraud, there can be little doubt that they could have,
had they wanted to, committed such acts. See, e.g., San
Leandro Emergency Med. Group Profit Sharing Plan v.
Philip Morris Cos., Inc., 75 F.3d 801, 813 (2d Cir. 1996)
("There is no doubt that defendants as a group had the
opportunity [to manipulate stock prices]....[because they] held
the highest positions of power and authority within the
company.").
The more important question in this case is whether the
Complaint alleges motives on the part of the Individual
Defendants from which the Court could infer a knowing or
reckless state of mind. In order to demonstrate motive, a
plaintiff must show concrete benefits that could be realized by
one or more of the false statements and wrongful
nondisclosures alleged. Phillips v. LCI Int'l, Inc., 190 F.3d
609, 621 (4th Cir. 1999). Our review of the cases cited by the
parties shows that courts distinguish motives common to
corporations and executives generally from motives to
commit fraud. All corporate managers share a desire for their
companies to appear successful. That desire does not
comprise a motive for fraud. See Chill v. Gen. Elec. Co., 101
F.3d 263, 268 (2d Cir. 1996) ("such a generalized motive, one
which could be imputed to any publicly-owned, for-profit
endeavor, is not sufficiently concrete for purposes of inferring
scienter"). Neither does an executive's desire to protect his
position within a company or increase his compensation. See
Kalnit v. Eichler, 264 F.3d 131, 140 (2d Cir. 2001) ("an
allegation that defendants were motivated by a desire to
maintain or increase executive compensation is insufficient
because such a desire can be imputed to all corporate
officers"); Criimi Mae, 94 F. Supp. 2d at 660 (allegations that
defendants sought to "protect their executive positions,"
standing alone, are inadequate to plead motive). Finally,
28 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
Jackson's alleged self-dealing transactions suggest no more
than a general motive for Intrenet's success, not fraud;
moreover, the allegedly fraudulent SEC filings to which
Plaintiffs refer expressly disclosed these transactions.
However, the allegations that the Individual Defendants
were motivated to engage in fraud in order to forestall
Intrenet's default of its bank loan agreement and to preserve
the Company's ability to borrow pursuant to its credit facility
warrant closer scrutiny. These more particularized sorts of
motive allegations are more probative of scienter. For
example, as part of the mix of factors contributing to an
inference of scienter, the Ninth Circuit has considered a
defendant's motivation to overstate a company's reported net
value so as not to violate loan covenants with its lender and
to improve the prospects of increasing its credit line. Howard
v. Everex Sys., Inc., 228 F.3d 1057, 1064 (9th Cir. 2000).
We view the motive allegations concerning the bank loan and
credit facility as suggestive of scienter, although standing
alone they do not establish a strong inference. Accordingly,
we will consider these allegations, along with all others, in the
totality of the circumstances analysis. See Helwig, 251 F.3d
at 551 (allegations of motive and opportunity are evaluated in
the same manner as other circumstantial allegations to
determine whether they produce a strong inference that the
defendant acted at least recklessly).
(f) Absence of Inside Sales
The Complaint includes no allegations that the Individual
Defendants ever took advantage of Intrenet's purportedly
inflated stock prices by selling shares during the class period.
The Individual Defendants point out that the allegations of
fraudulent motive which courts most often recognize as
support for a strong inference of scienter are allegations that
insiders sold stock. Indeed, we mentioned in Helwig that
"insider trading at a suspicious time or in an unusual amount"
comprises one of the "fixed constellations of facts that courts
have found probative of securities fraud." 251 F.3d at 552.

-- 14 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 29
Conversely, courts have explained that the absence of inside
sales dulls allegations of fraudulent motive. See, e.g., In re K-
tel Int'l, Inc. Secs. Litig., 300 F.3d 881, 894 (8th Cir. 2002)
("evidence that the individual defendants abstained from
trading may undercut allegations of motive"); In re Northern
Telecom Ltd. Secs. Litig., 116 F. Supp. 2d 446, 462 (S.D.N.Y.
2000) ("The absence of stock sales by insiders, or any other
evidence of pecuniary gain by company insiders at
shareholders' expense, is inconsistent with an intent to
defraud shareholders....Even where company insiders sell
stock during the class period, scienter is not necessarily
inferred.") (citing Kalnit, 99 F. Supp. 2d at 337 and San
Leandro Emergency Med. Group Profit Sharing Plan, 75
F.3d at 814).
However, we have never held that the absence of insider
trading defeats an inference of scienter. Cf. Hanon v.
Dataproducts. Corp., 976 F.2d 597, 507 (9th Cir. 1992)
(scienter can be established even if officers who made
misleading statements did not sell stock during the class
period). What is more, Plaintiffs' motive allegations in this
case are not based on a claim that the Individual Defendants
sought to personally enrich themselves through sales of their
own stock. See In re Nuko Info. Sys., Inc. Secs. Litig., 199
F.R.D. 338, 344-45 (N.D. Cal. 2000) (when the complaint did
not assert claims of insider trading, the absence of defendants'
selling or trading has little bearing on determining whether
plaintiffs have adequately pleaded scienter). We also reject
the Individual Defendants' contention that their purchase of
shares during the class period refutes any inference that they
knowingly or recklessly misled the market to increase the
stock's price. Plaintiffs allege, and Intrenet's 1999 10-K
suggests, that the Individual Defendants bought the stock to
infuse cash to the Company as a condition precedent to
obtaining a new bank agreement. For these reasons, the
absence of stock sales by the Individual Defendants works
against but does not conclusively defeat an inference of
scienter.
30 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
(g) Consultant
The Complaint alleges that in early 2000, Intrenet hired an
outside consultant to investigate problems in the Company's
accounting and internal control systems. The consultant
allegedly discovered improprieties, ultimately leading to the
October 13, 2000, press release that initiated Intrenet's
collapse. Plaintiffs maintain that after the consultant was
hired and discovered the problems, a strong inference that the
Individual Defendants knew of or recklessly disregarded the
problems is inescapable.
First of all, the Court is not willing to infer fraudulent intent
from the fact that the Company hired a consultant to examine
its accounting systems. If anything, this fact counters an
inference that the Individual Defendants were trying to keep
the alleged accounting problems hidden from view. Next, the
thrust of Plaintiff's argument seems to be that the outside
consultant "readily discovered" the accounting improprieties
in a "short time period," and yet the Individual Defendants
continued to issue materially false and misleading financial
statements and press releases, and did not ultimately publicize
the deficiencies to the investing public until "many months"
later, on October 13, 2000. In the intervening time, Plaintiffs
maintain, the Individual Defendants must have known or at
best recklessly disregarded the truths the consultant
unearthed. See Danis v. USN Communications, Inc., 73 F.
Supp. 2d 923, 939 (N.D. Ill. 1999) ("Problems readily
recognized by an outsider can be presumed to be known to a
company's management and directors."). Therefore, Plaintiffs
urge, a strong inference of scienter is especially warranted
after the consultant arrived.
The allegations regarding the consultant fail to support a
strong inference of the Individual Defendants' scienter
because they wholly lack factual particularity. The Complaint
offers the conclusory assertion that the consultant "swiftly"
uncovered the accounting irregularities, but nowhere does it
provide any meaningful information regarding when or in

-- 15 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 31
what manner the consultant made his discoveries. The
relevant issue in determining scienter is not when the
accounting improprieties occurred, but rather whether and
when the Individual Defendants knew about them. There is no
basis in the Complaint's allegations concerning the consultant
from which the Court could conclude that the Individual
Defendants knew anything about the problems prior to the
October 13, 2000, press release. Moreover, Plaintiffs fail to
specify what the consultant learned and how he learned it,
other than offering the conclusory allegation that the
consultant "discovered" Intrenet's alleged accounting
improprieties. Claims of securities fraud cannot rest on
speculation and conclusory allegations. Comshare, 183 F.3d
at 553-54.
(h) Summary of Scienter Allegations Against
Individual Defendants
Plaintiffs have accumulated numerous circumstantial
allegations from which they ask the Court to draw the strong
inference of scienter required for this case to move forward.
In the foregoing discussion, we noted that, while some of
these allegations suggest little about the Individual
Defendants' states of mind, other allegations favor the
implication that they may have known, or were reckless in not
knowing, of the accounting problems at Intrenet and its true
financial condition. See MicroStrategy, 115 F. Supp. 2d at
649 ("Just as otherwise-unremarkable individual points of
colored paint in the aggregate become a Seurat painting, so,
too, do the individual allegations in this case - which, when
viewed in isolation may or may not by themselves give rise
to a 'strong inference' of scienter - collectively paint an
equally compelling picture of scienter."). However, "[a] mere
reasonable inference is insufficient to survive a motion to
dismiss." Greebel v. FTP Software, Inc., 194 F.3d 185, 196
(1st Cir. 1999). Even when added up and viewed in their
entirety, the ultimate inference of scienter the allegations in
this case raise is not strong - that is, the most plausible of
competing inferences.
32 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
In Helwig, this Court set forth a non-exhaustive list of
"factors usually relevant to scienter." 251 F.3d at 552. Few
of these factors emerge in this case. First, there are no
allegations of insider trading at a suspicious time or in an
unusual amount. Second, there are no specific allegations of
a divergence between internal reports and external statements
on the same subject. The allegations regarding the outside
consultant lack any detail about when or to whom the
consultant reported the information he allegedly discovered.
Third, there is little temporal proximity between the allegedly
fraudulent statements and the later disclosure of inconsistent
information in October of 2000. Fourth, there are no
allegations of bribery by a top company official. Fifth, there
is no ancillary lawsuit charging fraud by the Company and the
Company's quick settlement of the suit. Sixth, allegations
that the Individual Defendants disregarded the most current
factual information before making statements lack specific
facts concerning how or when any accounting improprieties
became known to them. Once again, the activities of the
consultant are so vaguely described as to offer little insight
into what the Individual Defendants knew or when they knew
it. Seventh, the Complaint contains no allegations that
accounting information was disclosed in such a way that its
negative implications could only be understood by someone
with a high degree of sophistication. Eighth, there are no
allegations of certain directors holding a personal interest in
not informing disinterested directors of a sale of stock.
Finally, allegations of the Individual Defendants' self-
interested motivation in the form of saving their salaries or
jobs only mildly suggest scienter.
For all these reasons, the Section 10(b) and Rule 10b-5
claims against the Individual Defendants were properly
dismissed pursuant to Fed. R. Civ. P. 12(b)(6).

-- 16 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 33
B. Section 10(b) and Rule 10b-5 Claims Against
Andersen
Plaintiffs argue that the district court erred in dismissing the
Section 10(b) and Rule 10b-5 claims against Andersen on the
basis that the Complaint failed to adequately allege that
Andersen acted with scienter. In Plaintiffs' view, the
Complaint alleges facts showing that Andersen was alerted to
Intrenet's internal control deficiencies and accounting errors,
and thus knew of or recklessly disregarded the falsity of its
certifications that its audit was performed in accordance with
GAAS and that Intrenet's 1998 and 1999 financial statements
were presented in conformity with GAAP. Specifically,
Plaintiffs claim that Intrenet's financial statements were
admittedly false, the accounting improprieties were obvious
in nature and large in magnitude, numerous red flags arose to
indicate the improprieties, and Andersen had access to
Intrenet's confidential information. Moreover, the outside
consultant allegedly quickly identified the problems once he
came on board. Taken as a whole, Plaintiffs maintain, these
allegations are sufficient to raise a strong inference of
Andersen's scienter but the district court mistakenly
scrutinized each allegation in piecemeal fashion to reach its
erroneous conclusion.
The same PSLRA pleading standards we set forth in our
discussion of the Section 10(b) and Rule 10b-5 allegations
against the Individual Defendants apply to the allegations
against Andersen. However, the meaning of recklessness in
securities fraud cases is especially stringent when the claim is
brought against an outside auditor. In re SmarTalk
Teleservices, Inc. Secs. Litig., 124 F. Supp. 2d 505, 514 (S.D.
Ohio 2000). Recklessness on the part of an independent
auditor entails a mental state so culpable that it
"approximate[s] an actual intent to aid in the fraud being
perpetrated by the audited company." Decker v. Massey-
Ferguson, Ltd., 681 F.2d 111, 121 (2d Cir. 1982); Pegasus
Fund, Inc. v. Laraneta, 617 F.2d 1335, 1341 (9th Cir. 1980)
(auditor's recklessness "must come closer to being a lesser
34 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
form of intent (to deceive) than merely a greater degree of
ordinary negligence") (internal quotations omitted). Scienter
"requires more than a misapplication of accounting principles.
The [plaintiff] must prove that the accounting practices were
so deficient that the audit amounted to no audit at all, or an
egregious refusal to see the obvious, or to investigate the
doubtful, or that the accounting judgments which were made
were such that no reasonable accountant would have made the
same decisions if confronted with the same facts." In re
Worlds of Wonder Secs. Litig., 35 F.3d 1407, 1426 (9th Cir.
1994) (quoting SEC v. Price Waterhouse, 797 F. Supp. 1217,
1240 (S.D.N.Y. 1992)).
"When the standard of recklessness for an auditor is
overlaid with the pleading requirements of the PSLRA, a
simple rule emerges: to allege that an independent accountant
or auditor acted with scienter, the complaint must allege
specific facts showing that the deficiencies in the audit were
so severe that they strongly suggest that the auditor must have
been aware of the corporation's fraud." SmarTalk, 124 F.
Supp. 2d at 514 (citing Hollinger v. Titan Capital Corp., 914
F.2d 1564, 1570 (9th Cir. 1990) and In re Software
Toolworks, Inc., 50 F.3d 615, 628 (9th Cir. 1994)). "[T]o
allege that an independent accountant or auditor acted with
scienter, the complaint must identify specific, highly
suspicious facts and circumstances available to the auditor at
the time of the audit and allege that these facts were ignored,
either deliberately or recklessly." SmarTalk, 124 F. Supp. 2d
at 515.
Once again, we examine Plaintiffs' allegations collectively
to determine whether the totality of the specific facts alleged
create a strong inference of scienter. Telxon, 133 F. Supp. 2d
at 1026. The relevant allegations include that Andersen:
(1) was aware of internal control deficiencies at Intrenet;
(2) committed numerous GAAP and GAAS violations;
(3) disregarded certain red flags; and (4) had access to
Intrenet's confidential information. Addressing these
allegations in turn and collectively, we conclude that the

-- 17 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 35
Complaint lacks allegations of specific, highly suspicious
facts and circumstances that would lead us to reach a strong
inference that Andersen acted with scienter when it certified
Intrenet's financial statements.
1. Internal Control Deficiencies
Plaintiffs argue that Andersen turned a blind eye to
numerous internal control deficiencies at Intrenet, which
allowed accounting improprieties to continue unchecked.
Yet, Plaintiffs offer no "specific, highly suspicious facts and
circumstances" to support an inference that Andersen was
aware of these deficiencies or recklessly disregarded them,
other than the assertions that Andersen had access to Intrenet's
confidential information and that the consultant quickly
discovered the deficiencies. The allegations concerning the
consultant are insufficiently specific to satisfy the PSLRA's
requirements for pleading scienter. Nowhere does the
Complaint allege facts identifying, for example, the
consultant's level of access to Intrenet's financial records or
how long the consultant took to reach conclusions. The Court
would be remiss to infer Andersen's scienter based on the
conclusory assertion that what the consultant ultimately found
out, Andersen must have known or recklessly disregarded.
2. GAAP and GAAS Violations
Next, Plaintiffs contend that the Complaint alleges
violations of GAAS and failure to detect violations of GAAP
of such simple and obvious nature and large magnitude so as
to support a strong inference of Andersen's scienter. It is
well-settled that violations of GAAP and GAAS, standing
alone, do not create an inference of scienter, much less a
strong one. See Comshare, 183 F.3d at 553 (citing cases).
However, when the alleged accounting errors are sufficiently
basic and large, their existence, in combination with other
factors, may support the requisite scienter inference. Telxon,
133 F. Supp. 2d at 1031.
36 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
Plaintiffs point out that under APB No. 20, a restatement is
an admission that financial statements were materially false
at the time they were made; therefore, Plaintiffs argue, the
alleged accounting errors were material and Andersen's
knowledge or reckless disregard of such errors can be
inferred. This line of reasoning misapprehends the nature of
the scienter inquiry. To support an inference of fraudulent
scienter, allegations of GAAP and GAAS violations must
extend in nature and magnitude beyond merely the materiality
threshold. We reject Plaintiffs' contention that Intrenet's $1.3
million in underreported expenses allegedly resulting from
Andersen's auditing failures "belies any conclusion that
Andersen acted merely negligently." Likewise, the
allegations regarding the failure to reserve against accounts
receivable do not "cry out" scienter. MicroStrategy, 115 F.
Supp. 2d at 636-37. Taking the allegations as true, as we
must, Andersen's alleged failures were not so grievous as to
suggest that their work was "no audit at all." Worlds of
Wonder, 35 F.3d at 1426. These are not the sort of "in your
face" accounting violations that, without additional "specific,
highly suspicious facts and circumstances," support a strong
inference of scienter. See MicroStrategy, 115 F. Supp. 2d at
637; SmarTalk, 124 F. Supp. 2d at 515.
Once again, Plaintiffs point to the fact that Intrenet hired an
outside consultant in early 2000 as proof that Intrenet and its
auditor were aware of the alleged accounting improprieties for
an extended period of time before they revealed them to
investors. As we have already stated, the Complaint is largely
devoid of any factual detail regarding how, when, and what
the consultant discovered. An inference of scienter on this
basis would be unwarranted.
3. Red Flags
Next, Plaintiffs allege that Andersen disregarded numerous
red flags that alerted it to the accounting improprieties,
suggesting Andersen harbored scienter. A red flag creating a
strong inference of scienter consists of "[a]n egregious refusal

-- 18 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 37
to see the obvious, or to investigate the doubtful." Novak v.
Kasaks, 216 F.3d 300, 308 (2d Cir. 2000) (citation and
internal quotation marks omitted). Two of the purported red
flags simply repeat the alleged GAAP improprieties, namely,
that Intrenet lacked internal controls (which the outside
consultant discovered in very little time), and that the
accounting problems turned Intrenet's losses into profits. The
only genuine red flag consists of the allegation that during the
year ended December 31, 1999, although Intrenet's net
accounts receivable increased by approximately $4.4 million
during that year, or approximately 14%,while its operating
revenues increased by only 8%. Plaintiffs contend that these
circumstances should have put Andersen on notice that
Intrenet's accounts receivable reserve was understated.
This supposed red flag fails to support a strong inference of
scienter because Plaintiffs make no specific allegation that
Andersen knew that certain accounts were not collectible and
knowingly participated in a scheme to hide that fact from
investors. In our judgment, a single year's difference in the
ratio of the increase of receivables to operating revenues does
not make it "obvious" to an outside auditor that Intrenet's
receivables reserve was understated.
4. Access to Confidential Information
Finally, Plaintiffs allege that Andersen's access to Intrenet's
confidential information supports a strong inference of
scienter. According to the Complaint, Andersen's personnel
were regularly present at Intrenet's corporate headquarters
throughout the class period and had continual access to, and
knowledge of, Intrenet's confidential financial and business
information. These allegations, by themselves, are not
enough to raise a strong inference of scienter because such
allegations are insufficiently concrete to support such an
inference. See, e.g., Kennilworth Partners L.P. v. Cendant
Corp., 59 F. Supp. 2d 417, 429 (D.N.J. 1999) ("[S]tatement[s
that] could be made in relation to the auditor of every
corporation" are insufficient to plead scienter, for "[i]f it were
38 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
sufficient..., it might make every auditor liable in cases of
securities fraud."). However, while the mere fact that an
auditor has access to a company does not necessary mean that
it was aware of alleged fraud at the company, the greater the
auditor's "access to and involvement with" the company's
operations, the more support an inference of scienter takes on.
MicroStrategy, 115 F. Supp. 2d at 653.
Accordingly, the Court takes into account Andersen's
access to Intrenet's information, but even so doing, no strong
inference of Andersen's scienter arises. Viewing in totality
Andersen's access, along with the allegations of internal
control deficiencies, GAAP and GAAS violations, and red
flags, we do not believe that the most plausible inference to
draw in these circumstances is that Andersen knew of or
recklessly disregarded the alleged material misstatements and
omissions in Intrenet's financial statements. Plaintiffs
repeatedly attempt to bolster their allegations by pointing out
that the outside consultant quickly discovered the accounting
irregularities, yet they offer almost no specific factual details
regarding the consultant's work. For these reasons, the
Section 10(b) and Rule 10b-5 claims against Andersen are
properly dismissed.
C. Section 20(a) Control Person Liability Claims Against
the Individual Defendants
Plaintiffs contend that the district court erred in granting the
Individual Defendants' motion for judgment on the pleadings
pursuant to Federal Rule of Civil Procedure 12(c) on the
Section 20(a) claims. In Plaintiffs' view, the Section 20(a)
claims should proceed despite the absence of the Company as
a defendant. We conclude that the Section 20(a) claims were
properly adjudicated on the pleadings in the Individual
Defendants' favor because the Complaint fails to plead a
required predicate violation of Section 10(b) or Rule 10b-5 by
the Company, its employees, or the Individual Defendants.

-- 19 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 39
Section 20(a) of the Exchange Act creates a cause of action
for "control person" liability, stating as follows:
Every person who, directly or indirectly, controls any
person liable under any provision of this title or of any
rule or regulation thereunder shall also be liable jointly
and severally with and to the same extent as such
controlled person to any person to whom such controlled
person is liable, unless the controlling person acted in
good faith and did not directly or indirectly induce that
act or acts constituting the violation or cause of action.
15 U.S.C. § 78t(a). Section 20(a) thus establishes two
requirements for a finding of control person liability. First,
the "controlled person" must have committed an underlying
violation of the securities laws or the rules and regulations
promulgated thereunder. Second, the "controlling person"
defendant in a Section 20(a) claim must have directly or
indirectly controlled the person liable for the securities law
violation. "Control" is defined as "the possession, direct or
indirect, of the power to direct or cause the direction of the
management and policies of a person, whether through the
ownership of voting securities, by contract, or otherwise."
17 C.F.R. § 230.405.
In this case, Plaintiffs' Complaint alleges that the Individual
Defendants are liable under Section 20(a) as controlling
persons of Intrenet. First, with respect to the requirement for
an underlying primary violation, Plaintiffs maintain that both
the Individual Defendants and the Company violated Section
10(b) and Rule 10b-5. As for the Individual Defendants,
Plaintiffs argue that any Section 10(b) and Rule 10b-5
violations they committed should be imputed to Intrenet,
thereby establishing a primary violation on the Company's
part as a controlled person. In other words, the Individual
Defendants' violations are the Company's violations; if the
Individual Defendants are liable, so too is Intrenet. As for the
Company, Plaintiffs claim that the Complaint includes
securities fraud allegations against Intrenet itself. Intrenet, of
40 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
4W ithout deciding the question, we note that some authority suggests
that a plaintiff may not be ab le simultaneously to asse rt both Section 10(b)
and Rule 10b-5 claims and Section 20(a) claims against the same
defendant. "Arguab ly, a § 20 (a) claim canno t be asserted against a
defendant who is also charged with primary violation of § 10(b) and Rule
10b-5; that is, secondary liab ility under § 20(a) is an alternative, not a
supp lement, to primary liability under § 10(b) and Rule 10b-5." Lemmer
v. Nu-Kote Holding, Inc., No. CIV. A. 398CV0161L, 2001 WL 1112577,
at *12 (N.D. Tex., Sept. 6, 2001), citing Kalnit v. Eichler, 85 F. Supp. 2d
232, 246 (S.D.N .Y. 1999) (suggesting that plaintiffs could not allege
primary liability against the directors of a corporation and at the same
time allege con trol person liab ility against the d irectors). See also In re
Capstead Mo rtg. Corp. Secs. Litig., 258 F. Supp. 2d 53 3, 566 (N.D . Tex.
2003) (quoting the aforementioned passage from Lemmer); 183 A.L.R.
course, is not a named party in this case because it is
bankrupt. However, Plaintiffs contend that a company's
controlling persons do not escape liability when the
company's primary liability cannot be adjudicated due to its
unavailability. Second, with respect to the control
requirement, Plaintiffs argue that the Individual Defendants
are controlling persons because by virtue of their top-level
positions at Intrenet they had the power to control the
Company's general business affairs and the specific activities
upon which the alleged primary violations were predicated.
As extensively discussed above, we have reviewed the
Complaint de novo and determined that Plaintiffs have not
stated claims against the Individual Defendants under Section
10(b) and Rule 10b-5 because the Complaint fails to
adequately plead scienter. For the same reasons that the
Section 10(b) and Rule 10b-5 claims against the Individual
Defendants are properly dismissed as a matter of law, those
allegations cannot serve as predicates for Section 20(a)
liability. We therefore need not further examine Plaintiffs'
theory, which would impute the Individual Defendants'
purported violations to the Company in order to establish the
requisite predicate liability of the controlled person, and then
double-back the liability onto the Individual Defendants as
controlling persons under Section 20(a).4

-- 20 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 41
Fed. 141 §2[b] (2003) ("It is a freq uent practice to plead in the alternative
that a defendant is both a primary violator and a controlling person of
primary violators, although, as som e courts have no ted, one cannot
simultaneously be both.").
Next, the Complaint fails to state a predicate Section 10(b)
or Rule 10b-5 claim against Intrenet itself because it fails -
indeed, hardly attempts - to plead scienter on the Company's
part. So far as the Court can discern, the Complaint contains
only a few sparse references to allegations against Intrenet as
a Company or its employees other than the Individual
Defendants. Paragraph 36 of the Complaint states that
"Intrenet employees repeatedly recorded journal entries in
violation of FCPA, without support or documentation, which
the Defendants knew, or recklessly disregarded." This
allegation, standing alone, comes nowhere near to making out
a claim for violation of Section 10(b) or Rule 10b-5 on the
part of the unidentified "Intrenet employees." Next, a single
paragraph of the Complaint, paragraph 96, pertains to the
Company's knowledge, rather than that of the Individual
Defendants. That paragraph precisely restates the purported
misrepresentations and omissions making Intrenet's press
releases and financial statements materially false and
misleading that Plaintiffs allege against the Individual
Defendants, but this time claims "the Company knew of the
improper accounting practices...[and] knew or reasonably
should have known" of the misleading statements. This bare
assertion fails to raise a strong inference of the Company's
scienter and thus fails to state a claim.
Because the Complaint fails to state an underlying
securities law violation by a controlled person, we need not
address the subsequent question of whether the Individual
Defendants possessed an adequate degree of control to
support a Section 20(a) claim. The district court correctly
granted the Individual Defendants' motion for judgment on
the pleadings pursuant to Fed. R. Civ. P. 12(c) on the Section
20(a) claims.
42 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
D. Leave to Amend the Complaint
Finally, Plaintiffs argue that the district court erred in
dismissing the case without affording them an opportunity to
amend their Complaint. We recognize that when a motion to
dismiss a complaint is granted, courts typically permit the
losing party leave to amend. However, given the
circumstances of this case, leave to amend should be denied.
Plaintiffs failed to follow the proper procedure for requesting
leave to amend, and even had they done so, denial would have
been appropriate so as to avoid "frustrat[ing] the purposes of
the PSLRA." See Miller, 346 F.3d at 690.
Generally, the review of a district court's denial of a motion
for leave to amend a complaint is governed by an abuse of
discretion standard. See Crawford v. Roane, 53 F.3d 750, 753
(6th Cir. 1995); United States v. Midwest Suspension &
Brake, 49 F.3d 1197, 1202 (6th Cir. 1995). Review, however,
is de novo where the reason for the district court's denial is
because the amended pleading would not withstand a motion
to dismiss. Ziegler, 249 F.3d at 518. In this case, the district
court did not discuss or state why it declined to offer
Plaintiffs an opportunity to amend their Complaint. In fact,
as the following discussion explains, there was no "motion"
to deny. Accordingly, we will review the district court's
actions for abuse of discretion.
When a motion to dismiss is granted in a case not involving
the PSLRA, the usual practice is to grant plaintiffs leave to
amend the complaint. Generally, leave to amend is "freely
given when justice so requires." Morse, 290 F.3d at 799 (6th
Cir. 2002) (quoting Fed. R. Civ. P. 15(a)). However, the
Supreme Court has instructed that leave to amend is properly
denied where there is "undue delay, bad faith or dilatory
motive on the part of the movant, repeated failure to cure
deficiencies by amendments previously allowed, undue
prejudice to the opposing party by virtue of allowance of the
amendment, futility of the amendment, etc." Foman v. Davis,
371 U.S. 178, 182, 83 S. Ct. 227, 230 (1962). And while

-- 21 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 43
Rule 15 plainly embodies a liberal amendment policy, in the
post-judgment setting we must also take into consideration
the competing interest of protecting the finality of judgments
and the expeditious termination of litigation. Morse, 290
F.3d at 800. "Thus, in the post-judgment context, we must be
particularly mindful of not only potential prejudice to the
non-movant, but also the movant's explanation for failing to
seek leave to amend prior to the entry of judgment." Id.
In this case, Plaintiffs failed to follow the proper procedure
for requesting leave to amend. They did not actually file a
motion to amend along with an accompanying brief, as
required by the local rules governing practice before the
district court. Instead, they simply included the following
request in their brief opposing the Defendants' motions to
dismiss: "Alternatively, in the event the Court grants any part
of the Defendants' motions to dismiss, plaintiffs respectfully
request leave to amend their Complaint." As the D.C. Circuit
has found, "a bare request in an opposition to a motion to
dismiss – without any indication of the particular grounds on
which amendment is sought, cf. Federal Rule of Civil
Procedure 7(b) – does not constitute a motion within the
contemplation of Rule 15(a)." Confederate Mem'l Ass'n v.
Hines, 995 F.2d 295, 299 (D.C. Cir. 1993), quoted in D.E.&J.
Ltd. P'ship v. Conaway, 284 F. Supp. 2d 719, 751 (E.D.
Mich. 2003). This Court's disfavor of such a bare request in
lieu of a properly filed motion for leave to amend was made
clear in Begala v. PNC Bank, Ohio, N.A., 214 F.3d 776, 784
(6th Cir. 2000): "What plaintiffs may have stated, almost as
an aside to the district court in a memorandum in opposition
to the defendant's motion to dismiss is also not a motion to
amend." As the Begala decision reasoned in affirming the
district court's dismissal of the plaintiffs' complaint with
prejudice in that case,
Had plaintiffs filed a motion to amend the complaint
prior to th[e] Court's consideration of the motions to
dismiss and accompanied that motion with a
memorandum identifying the proposed amendments, the
44 PR Diamonds, et al. v. Chandler, et al. No. 02-3921
Court would have considered the motions to dismiss in
light of the proposed amendments to the
complaint....Absent such a motion, however, Defendant
was entitled to a review of the complaint as filed
pursuant to Rule 12(b)(6). Plaintiffs were not entitled to
an advisory opinion from the Court informing them of
the deficiencies of the complaint and then an opportunity
to cure those deficiencies.
214 F.3d at 784 (emphasis in original).
The Complaint had already been amended once. The
district court granted in part and denied in part the Individual
Defendants' and Andersen's motion to dismiss on February
26, 2002. However, final judgment was not entered until
nearly five months later, when the district court granted the
Individual Defendants' motion for judgment on the pleadings.
During the intervening time, Plaintiffs made no attempt to
obtain leave to amend their Complaint. Moreover, Plaintiffs
never sought to alter, set aside, or vacate the district court's
judgment pursuant to Fed. R. Civ. P. 59 or 60. See Morse,
290 F.3d at 799 ("Following entry of final judgment, a party
may not seek to amend their complaint without first moving
to alter, set aside or vacate judgment pursuant to either Rule
59 or Rule 60 of the Federal Rules of Civil Procedure."). In
light of these procedural failings, the district court was within
its discretion to withhold granting Plaintiffs an opportunity to
amend the pleadings.
Our recent decision in Miller set forth a rule that would
warrant denying Plaintiffs leave to amend even if they had
followed the correct procedure. 346 F.3d 660. In that case,
we held that "allowing repeated filing of amended complaints
would frustrate the purpose of the PSLRA." Id. at 690. We
considered the tension between Rule 15(a) of the Federal
Rules of Civil Procedure and the PSLRA, which states that
"[i]n any private action arising under this title, the court shall,
on the motion of any defendant, dismiss the complaint if the
[pleading] requirements...are not met." 15 U.S.C. § 78u-

-- 22 of 23 --

No. 02-3921 PR Diamonds, et al. v. Chandler, et al. 45
4(b)(3)(A). We resolved the tension in favor of the PSLRA,
concluding that in light of that statute's requirements, "we
think it is correct to interpret the PSLRA as restricting the
ability of plaintiffs to amend their complaint, and thus as
limiting the scope of Rule 15(a) of the Federal Rules of Civil
Procedure." Id. at 692. Moreover, "the purpose of the
PSLRA would be frustrated if district courts were required to
allow repeated amendments to complaints filed under the
PSLRA." Id. The "purpose" of the PSLRA is to screen out
lawsuits having no factual basis, to prevent harassing strike
suits, and to encourage attorneys to use greater care in
drafting their complaints. See In re Champion Enters., Inc.
Secs. Litig., 145 F. Supp. 2d 871, 873-74 (E.D. Mich. 2001),
aff'd 346 F.3d 660 (6th Cir. 2003). Therefore, we affirmed
the district court's decision to dismiss the complaint with
prejudice for failing to meet the pleading requirements.
Champion, 346 F.3d at 690.
In light of our holding in Champion and Plaintiffs'
procedural shortcomings, we hold that Plaintiffs should not be
given yet another opportunity to amend their Complaint, and
we affirm the district court's entry of final judgment against
Plaintiffs.
IV. Conclusion
For the reasons stated above, the district court properly
dismissed Plaintiffs' Section 10(b) and Rule 10b-5 claims
against the Individual Defendants and Andersen. The district
court also properly granted judgment on the pleadings in
favor of the Individual Defendants on Plaintiffs' Section 20(a)
claims. Finally, the district court did not abuse its discretion
in not inviting Plaintiffs to amend their Complaint.
For the foregoing reasons, the judgments of the district
court are AFFIRMED.

-- 23 of 23 --