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Investors’ allegations that a technology company and its officers should have known that a multimillion-dollar deal the company touted in two press releases wouldn’t materialize can be the basis of securities fraud claims, the 5th U.S. Circuit Court of Appeals held recently. “Further discovery may refute the inferences, but it is not unwarranted to infer that when a company’s big deal collapses so fast, something was amiss at the outset,” Judge Edith Jones wrote for the three-judge panel that considered Andrew Plotkin, et al. v. IPaxess Inc., et al. The plaintiffs alleged in their brief to the 5th Circuit that, within eight months after Plano, Texas-based IPaxess announced in a May 25, 2000, press release that it was entering into a joint venture with two other companies that had committed to $25 million a year in net purchases of IPaxess’ new remote access communications product, one of the companies filed for bankruptcy. The plaintiffs alleged that the second company was only a shell of the first company. On April 21, the panel, which also included Judges Jerry Smith and Carl Stewart, reversed in part a 2003 decision by the U.S. District Court in Sherman to dismiss the Plotkin plaintiffs’ complaint for failure to state a claim for which relief could be granted. The panel remanded the case to the district court. S. Cass Weiland, attorney for the Plotkin family members who brought the suit, says that, in the past, the 5th Circuit has made it difficult for plaintiffs to prove securities fraud. “I think there are good reasons why the 5th Circuit has been reluctant to grant plaintiffs a free ride when it comes to allegations of securities fraud,” says Weiland, who usually represents defendants in such cases. But Weiland, a partner in Patton Boggs in Dallas, says Plotkin presents facts, which became apparent in the immediate aftermath of the press releases, the court couldn’t ignore. Mark T. Josephs, lead attorney for the defendants — IPaxess president and chief executive officer Michael A. McDonnell and chief financial officer James Scogin — says his clients stand by the statements made in the press releases. “We believe the statements are accurate,” says Josephs, a partner in the Dallas office of Jackson Walker. According to the 5th Circuit opinion, the plaintiffs originally filed their complaint in the U.S. District Court for the Northern District of Illinois, where the Plotkins live, in May 2001, alleging claims under 10(b) and 20(a) of the Securities Exchange Act of 1934 and Securities Exchange Commission Rule 10b-5. The plaintiffs also alleged a common-law fraud claim and a violation of the Illinois Consumer Fraud and Deceptive Business Practices Act. Acting on the defendants’ motion for a change of venue, the federal court in Illinois transferred the case to the federal court in Sherman. The Sherman court severed the claims against IPaxess, which filed for Chapter 11 bankruptcy in July 2002. The 5th Circuit’s decision enables the plaintiffs to pursue some of their claims against McDonnell and Scogin. Josephs says his clients are considering all their options with regard to the case. In their brief to the 5th Circuit, the defendants argued: “The law simply does not impose a general duty to be infallible in projections or to present a pessimistic outlook in business dealings.” TIMES HAVE CHANGED According to the 5th Circuit opinion, the case centers around three press releases — two that IPaxess issued on May 25, 2000, and one the company issued on Aug. 18, 2000. The plaintiffs alleged in their brief to the 5th Circuit that plaintiff Robert Plotkin relied on the statements in the press releases when he purchased 82,100 shares of IPaxess stock, costing him and other family members $473,763. “He had put a lot of his family’s money, his grandchildren’s money, in this company,” Weiland alleges. The defendants argued in their brief that IPaxess disclosed in its 1999 annual report the potential risks associated with the company’s launching of its new product. Information about the potential risks was available at the time Robert Plotkin made his stock purchases, the defendants asserted. The May 25, 2000, press releases painted a rosier picture, however. According to the 5th Circuit opinion, in its first release on that date, IPaxess announced a strategic partnership with Associated Global Partners (AGPI) and Lynxus Inc. “The agreement calls for an annual commitment of $25 million of net purchases from IPaxess,” the company said in the press release. In its second release on the same day, IPaxess announced the receipt of a $6.5 million purchase order from AGPI/Lynxus for IPaxess’ product. The press release also described the operations of IPaxess’ two new customers, including a statement that AGPI, with current or developing operations in Latin America, Africa, Asia and the Middle East, “is rapidly becoming a leading provider of telecommunications transport services with networks designed to complement existing global carrier networks.” As noted in the 5th Circuit opinion, each press release concluded with a “boilerplate cautionary statement” that the release contained “forward-looking statements” that represented IPaxess’ expectations or beliefs concerning future events. “The deals described in these press releases failed quickly and spectacularly,” Jones wrote in the opinion. Jones noted in the opinion that IPaxess shipped approximately $700,000 of its product and user licenses to Lynxus within three to four months of the May 25 announcements and booked the revenue at the time of shipment — an action with which IPaxess’ auditor, KPMG, disagreed. IPaxess announced on Nov. 21, 2000, that it had acquiesced to KPMG’s advice regarding the booking of the shipment and withdrew $700,000 from its revenue statement for the first quarter of 2001, but KPMG still resigned as the company’s auditor, Jones wrote. According to the opinion, IPaxess admitted publicly in February 2001 that the deal with AGPI/Lynxus had collapsed and that IPaxess did not receive “even a dollar” of the $25 million in annual purchases or the $6.5 million equipment purchase. Jones further noted in the opinion that IPaxess announced in the August 2000 press release that it had agreements in place with several major companies for commercial shipments of its product in September 2000. The release indicated that the major companies were participating in the “beta trial” of the product. The plaintiffs alleged in their brief that the release touted agreements that never existed and that Scogin, IPaxess’ CFO, provided “evasive” answers when plaintiff Robert Plotkin called in November 2000 to inquire about the status of the shipments that had been announced for two months earlier. U.S. Magistrate Judge Don Bush recommended dismissal of the plaintiffs’ federal and state law claims, concluding that they had not identified any statements in the press releases that were false or misleading. U.S. District Judge Richard Schell adopted Bush’s two sets of reports and recommendations and dismissed the plaintiffs’ complaint in 2003. The 5th Circuit reversed the district court with regard to the federal and state law complaints based on the May 25, 2000, releases. “A fair reading of the May 25 press releases would reasonably induce investors to believe that IPaxess had a legitimate expectation of revenues from the agreements it had just struck with AGPI and Lynxus,” Jones wrote. According to the opinion, a reasonable investor reading the releases would have formed the impression that AGPI and Lynxus were significant international companies that could be credible business partners to IPaxess, and these impressions weren’t dispelled by the standard warnings about the risks and uncertainties included in the releases. The Plotkin plaintiffs alleged specific facts about the agreements announced in the May 25, 2000, press releases that give rise to a “strong inference” that IPaxess knew or was severely reckless in not knowing at the time of the releases that AGPI and Lynxus weren’t likely to be able to make the payments they contracted to make, Jones noted in the opinion. While IPaxess stated in its December 2001 filing with the Securities and Exchange Commission that the May 25, 2000, deal with AGPI/Lynxus was a “beta,” or testing, agreement, “it is curious why this important qualifying detail was omitted in the earlier press release,” Jones wrote. However, the 5th Circuit held that the district court did not err in dismissing all claims stemming from the August 2000 press release. According to the opinion, the release stated that the major companies listed were participants in a beta trial and did not announce the striking of commercial sales agreements with those companies. Randy Johnston, a Dallas attorney who represents plaintiffs in securities fraud cases but is not involved in Plotkin, says the 5th Circuit’s decision should be looked at from the standpoint of what has been going on in this country. Johnston, a partner in Johnston Tobey, says the decision comes as the country is seeing increasingly egregious securities fraud cases. Although on a smaller scale, Plotkin looks much like some of the monstrously large securities fraud cases involving Enron Corp. and WorldCom Inc., Johnston says. Johnston says that a few years ago, the 5th Circuit’s decision in Plotkin would not have come out the way it did. “A few years ago, we trusted corporations to be honest; we’ve found out they’re not,” he says.

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