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Rumbaugh v. Usana Health Sciences Inc.

United States District Court, D. Utah, Central Division

October 16, 2018

APRIL RUMBAUGH, Individually and On Behalf of Others Similarly Situated, Plaintiffs,
v.
USANA HEALTH SCIENCES, INC., DAVID A. WENTZ and PAUL A. JONES, et al., Defendants.

          MEMORANDUM DECISION AND ORDER

          Dee Benson United States District Judge

         The above-captioned case is a federal securities class action lawsuit filed on behalf of all persons, other than defendants, who purchased or acquired USANA securities between March 14, 2014 and February 7, 2017 (the “Class Period”), seeking damages for the alleged violation of federal securities laws. (Dkt. 22, Am. Compl. ¶ 1.) This case is before the court on Defendants' motion to dismiss the Consolidated Amended Class Action Complaint pursuant to Federal Rules of Civil Procedure 8, 9(b), and 12(b)(6), and the Private Securities Litigation Reform Act of 1955, 15 U.S.C. § § 78u-4(a) et seq. (“PSLRA”).

         BACKGROUND

         USANA is a publicly traded Utah company that develops, manufactures and sells nutritional and personal care products worldwide. To distribute and sell its products, USANA has traditionally employed a multi-level marketing business model, relying “on its existing distributors to recruit new distributors by paying the existing distributors a percentage of their recruits' sales.” (Dkt. 22, Am. Compl. ¶ 3.) The recruits are known as a distributor's “downline” while the distributor is known as the recruits “upline.” (Id.) Distributors also make money through direct sales of products to customers.

         China has an absolute prohibition on multi-level marketing (i.e., payment to promoters based on the recruitment of other promoters rather than based on sales to customers). Accordingly, companies such as USANA who do business in China are required to modify their business models to focus on direct sales to consumers rather than distributor recruitment. (Id. ¶ 4.)

         Plaintiff alleges that during the years leading up to the class period in this case, Defendants created a “scheme” of illicit sales in China. According to Plaintiff, part of that scheme involved circumventing Chinese laws banning multi-level marketing by recruiting Chinese nationals and having them register using a fictitious address in Hong Kong. According to Plaintiff, this resulted in an “explosion” of Hong-Kong based revenue between 2009 and 2012. (Id. ¶ 7.)

         In the midst of those years, in 2010, USANA acquired Baby Care, a People's Republic of China-based manufacturing company that develops and sells nutritional products primarily for infants. Plaintiff asserts that BabyCare's direct selling license provided a means for USANA to establish a “behind-the-scenes” presence in China. (Am. Compl. ¶¶ 9-10.) As a result of acquiring BabyCare, over the next several years, USANA was able to obtain Chinese government approval for “hard to obtain” direct selling licenses in multiple Chinese provinces. (Id. ¶¶ 13-14.)

         Plaintiff alleges that Hong Kong sales began to decline in direct proportion to the rise in mainland China sales, as sales once attributed to USANA's Hong Kong market “appeared to be reported in BabyCare” in violation of the Foreign Corrupt Practices Act. (Id. ¶ 12.) Plaintiff also claims that even though USANA had acquired multiple direct selling licenses, USANA nonetheless continued to engage in banned multi-level marketing practices.

         After setting forth these historical underpinnings, Plaintiff alleges that during the relevant class period - March 14, 2014 through February 7, 2017 - USANA made numerous false statements and misleading omissions when speaking about its business in China. Specifically Plaintiff alleges that USANA misled investors by purporting to be in compliance with Chinese regulations prohibiting multi-level marketing, when in actuality USANA was continuing to knowingly engage in the prohibited practice, and that USANA's China sales “exploded” as a result of improperly “redirected Hong Kong sales.” (Id. ¶ 15.)

         Plaintiff further alleges that in September 2016, during the class period, local police opened an investigation into illegal multi-level marketing by BabyCare/USANA. Plaintiff claims that the local investigation turned into a “full-blown national investigation, ” and that in November 2016, USANA received a warning from authorities concerning its compliance with Chinese law. (Id. ¶¶ 16-18.) Plaintiff complains that neither the investigation nor the warning were communicated to USANA investors. (Id. ¶ 19.)

         Finally, the Amended Complaint alleges that on February 7, 2017, the Class Period ended with USANA's disclosure that “[t]he company is voluntarily conducting an internal investigation of its China operations, BabyCare Ltd. . . . focus[ing] on the compliance with the Foreign Corrupt Practices Act . . . and certain conduct and policies at BabyCare, including BabyCare's expense reimbursement policies.” (Am. Compl. ¶ 22.) USANA advised investors that the company had retained outside counsel to conduct the investigation and had notified both the SEC and the U.S. Department of Justice of the investigation. On this news, USANA's share price fell 11.57% to close at $55.40 on February 8, 2017. (Id. ¶ 23.)

         Based on these allegations, on August 4, 2017, Plaintiff filed the Amended Consolidated Class Action Complaint asserting claims for (1) securities fraud under Section 10(b) of the Exchange Act, 15 U.S.C. § 78j, and implementing Rule 10b-5; and (2) control person liability against the individual defendants pursuant to Section 20(a) of the Exchange Act, 15 U.S.C. § 78t.) Defendants have moved to dismiss, contending that Plaintiff's complaint fails to meet the pleading requirements of Rules 8, 9(b) and 12(b)(6) of the Federal Rules of Civil Procedure and the Private Securities Litigation Reform Act, and otherwise fails to state a claim for which relief can be granted.

         LEGAL STANDARDS

         “The court's function on a Rule 12(b)(6) motion is not to weigh potential evidence that the parties might present at trial, but to assess whether the plaintiff's complaint alone is legally sufficient to state a claim for which relief may be granted.” Dubbs v. Head Start, Inc., 336 F.3d 1194, 1201 (10th Cir. 2003) (citations and quotation marks omitted). Under Rule 12(b)(6), the court must accept all well-pleaded allegations in the Amended Complaint as true and view those allegations in the light most favorable to the nonmoving party. Stidham v. Peace Officer Standards Training, 265 F.3d 1144, 1149 (10th Cir. 2001) (quoting Sutton v. Utah Sch. for the Deaf & Blind, 173 F.3d 1226, 1236 (10th Cir. 1999)).

         The Court must limit its consideration to the four corners of the Amended Complaint, and any documents attached thereto, and any external documents that are referenced in the Amended Complaint and whose accuracy is not in dispute. Oxendine v. Kaplan, 241 F.3d 1272, 1275 (10thCir. 2001); Jacobsen v. Deseret Book Co., 287 F.3d 936, 941 (10th Cir. 2002). “To survive a motion to dismiss, a complaint must contain sufficient factual matter, accepted as true, to ‘state a claim to relief that is plausible on its face.'” Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009) (citing Bell Atlantic Corp. v. Twombly, 550 U.S. 544, 570 (2007)). Plausibility, in the context of a motion to dismiss, constitutes facts which allow “the court to draw the reasonable inference that the defendant is liable for the misconduct alleged.” Id.

         However, the court need not accept conclusory allegations without supporting factual averments. Southern Disposal, Inc. v. Texas Waste, 161 F.3d 1259, 1262 (10th Cir. 1998). “[T]he tenet that a court must accept as true all of the allegations contained in a complaint is inapplicable to legal conclusions. Threadbare recitals of the elements of a cause of action, supported by mere conclusory statements, do not suffice.” Iqbal, 556 U.S. at 678. “Where a complaint pleads facts that are ‘merely consistent with' a defendant's liability, it ‘stops short of the line between possibility and plausibility of ‘entitlement to relief.'” Id. (citation omitted).

         In most civil actions, a complaint need only contain “a short and plain statement of the claim showing that the pleader is entitled to relief.” Fed.R.Civ.P. 8(a)(2). However, civil actions alleging securities fraud are subject to a heightened pleading standard. Prior to the enactment of the Private Securities Litigation Reform Act (“PSLRA”), securities fraud actions were analyzed by the pleading standards of Federal Rule of Civil Procedure 9(b), which required that “the circumstances constituting the fraud . . . be stated with particularity, ” though “[m]alice, intent, knowledge, and other condition of the mind of a person, may be averred generally.” Fed.R.Civ.P. 9(b); Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 319 (2007).

         The PSLRA, which now applies to such actions, 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). Allegations of scienter are subject to even more requirements: Plaintiff cannot allege scienter generally, and must state particular facts giving rise to a strong inference of scienter with respect to each act or omission, taking into account plausible, non-culpable alternative explanations for a defendant's conduct along with inferences that favor the plaintiff. In re Gold Resource Corporation Securities Litig., 776 F.3d 1103, 1108-09 (10th Cir. 2015); 15 U.S.C. § 78u-4(b)(2). “Congress left the key term ‘strong inference' undefined, ” but the Supreme Court has held that, “[t]o qualify as ‘strong' . . ., an inference of scienter must be more than merely plausible or reasonable - it must be cogent and at least as compelling as any opposing inference of nonfraudulent intent.” Tellabs, 551 U.S. at 314; see id. at 324, 328 (stating that the “inference that the defendant acted with scienter need not be irrefutable” but must be “at least as likely as any plausible opposing inference”).

         DISCUSSION

         I. Pu ...


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