Lu v. Cheer Holding Inc

Background

Kevin X. Lu, a shareholder in Cheer Holding, Inc., sued Cheer Holding, Cheers Inc., GSMG Ltd., Bing Zhang, and Ke Chen. He alleged securities fraud connected to a failed transaction in which the buyer entities agreed to acquire Cheer Holding at $1.55 per share and take the company private. Cheer Holding’s shareholders approved the transaction, but the company terminated the merger agreement after announcing that the buyer entities had failed to comply with a contractual requirement concerning applicable law and regulatory approvals.

Lu alleged that public filings made misleading statements about whether the merger would close, Cheer Holding’s right to seek court-ordered relief enforcing the merger, and the special committee’s view that the transaction benefited shareholders. His operative complaint asserted claims under Sections 10(b), 13(e), and 20(a) of the Securities Exchange Act of 1934.

Claims Against the Moving Defendants

Cheer Holding moved to dismiss, and Cheers Inc. and GSMG Ltd. joined the motion and filed a separate motion. The court applied the ordinary requirement that a complaint plausibly state a claim and the heightened requirements for fraud claims under Federal Rule of Civil Procedure 9(b) and the Private Securities Litigation Reform Act. Those heightened requirements require a plaintiff to identify misleading statements or omissions with particularity and provide facts supporting the alleged belief that the statements were misleading and that the defendants acted with the required mental state.

The court rejected Lu’s claim that the merger disclosures were misleading because they failed to reveal additional conditions, such as the absence of shareholder dissent or the buyer entities’ need for financing. The proxy statement and merger agreement warned that shareholder approval did not guarantee completion of the merger. The court also found that Lu relied mainly on the timing between shareholder appraisal notices and termination of the merger, which was insufficient by itself to support an inference of fraud. The court characterized the allegations about undisclosed conditions as speculative and conclusory.

The court also rejected Lu’s claims concerning Cheer Holding’s stated right to seek an injunction or other equitable relief and the special committee’s recommendation. The merger agreement made enforcement a right, not an obligation, and conditioned that right on satisfaction or waiver of specified conditions. Because Lu did not adequately allege a misleading statement, the court granted the motion to dismiss the Section 10(b) claims.

The court dismissed the Section 13(e) claims for the same reason. It noted that whether Section 13(e) permits private lawsuits remains unsettled but did not decide that question because Lu had not adequately alleged an actionable misrepresentation.

Leave to Amend

The court denied Lu’s request to amend. It had already allowed him to amend once, and the new complaint asserted new facts and a new legal theory that the court found could have been raised earlier. The court also concluded that better pleading would not cure the problems with the claims.

Claims Against Zhang and Chen

Lu also asserted a Section 13(e) claim against Zhang and Section 20(a) control-person claims against Zhang and Chen. Neither individual had been served or moved to dismiss. The court stated that Lu failed to state a Section 13(e) claim against Zhang and that the Section 20(a) claims failed because those claims require an underlying securities-law violation, which Lu had not plausibly alleged.

The court did not enter a final dismissal of those claims in this order. Instead, it directed Lu to submit a letter within one week stating whether he objected to dismissal with prejudice and, if so, explaining the basis for his objection.

Sanctions and Disposition

The court denied the defendants’ motion for sanctions without prejudice because Cheer Holding had not filed the separate supporting memorandum it indicated it would submit. The defendants were permitted to file a renewed sanctions motion and supporting memorandum within 30 days.

Judge Ronnie Abrams dismissed with prejudice the claims against Cheer Holding, Cheers Inc., and GSMG Ltd. She denied leave to amend, denied the sanctions motion without prejudice, and required further notice and an opportunity to object before resolving the requested dismissal with prejudice of the claims against Zhang and Chen.