"Stormy" Weather? The 2nd Circuit Didn't "Notice"

So-called "storm warnings" that a district court found sufficient to derail a fraud action against The Hartford Financial Services Group failed to put investors on inquiry notice for limitations purposes. According to a 2nd Circuit panel, various "warnings" in media reports, related lawsuits and regulatory filings were "too vague and non-specific to suggest to an investor of ordinary intelligence the probability of fraud" and that the information that supposedly provided notice "was not reasonably accessible to the ordinary investor."

The case arose from alleged undisclosed contingent commissions (called "kickbacks" by the court) paid by insurers to induce brokers to steer business to them. The district court dismissed the case under the two-year Sarbanes-Oxley limitations provision because the investors should have been aware of the potential fraud because of publicly available information.

Initially, the panel found that the district court properly took judicial notice of the various exhibits introduced by The Hartford defendants, including news stories, filings and court documents. The documents "were offered to show that certain things were said in the press, and that assertions were made in lawsuits and regulatory filings, which is all that is required to trigger inquiry," wrote District Judge Colleen McMahon (sitting by designation), and "[n]one of those materials were offered for the truth of the matter asserted."

The panel disagreed with the district court's reading of the documents, however. The defendants presented 17 media stories, mostly from industry-specific publications. With regard to one New York Times account, Judge McMahon wrote that "this article, and the remaining small amount of public information available about contingent commissions at The Hartford, was not enough to create a duty to inquire." As a matter of law, an ordinary investor who "stumbled across" this article would not "have inferred that The Hartford was involved at all." In her opinion, this was " a far cry from the District Court’s conclusion that it was `especially likely' that The Hartford was implicated by the article." Three out of four of the mainstream stories did not mention The Hartford, and 12 of the 13 industry publications also did not mention the company by name.

The court declined to find that company-specific storm warnings are a necessary precondition for inquiry notice. However, "the fact remains that the specificity of storm warnings bears directly on the determination of whether, under the totality of the circumstances, a plaintiff should be charged with a duty to inquire." The generic nature of the articles cited did not raise any such duty.

The regulatory filings were also insufficient in the panel's opinion. The descriptions of the commissions paid were "seemingly benign" and "did not indicate that the contingent commission expenses stemmed from fraudulent schemes."

The closest call came with the issue of previously-filed state court lawsuits. The panel dismissed three of the four proceedings immediately, as two of them did not mention the company and a third did so only in passing. However, one California case directly involved company subsidiaries and similar issues.

This case could have triggered the duty to inquire if an investor of ordinary intelligence would have been reasonably aware of the complaint, stated Judge McMahon. The dispositive issue, therefore, was whether the complaint was reasonably accessible to an ordinary investor. Because the case received little publicity and was not mentioned in any of the cited news articles, the court found that reasonable investors would not have known of it. The fact that this particular individual detected sufficient problems to file the earlier action was also not sufficient. This plaintiff was a California insurance lawyer who regularly filed such actions. "The fact that an investor of more-than-ordinary intelligence filed a lawsuit against subsidiaries of The Hartford in 2001 cannot be used as a bellwether for the adequacy of the storm warnings at that time.

Staehr v. The Hartford Financial Services Group, Inc.