On June 12, 2015, in Owens v. Jastrow, the US Court of Appeals for the Fifth Circuit affirmed the district court's dismissal of a securities fraud class action, finding that the plaintiffs failed to adequately allege scienter on the part of the bankrupt company's former executives (No. 13-10928, (5th Cir. June 12, 2015)).

Plaintiffs represent a putative class of shareholders whose equity interests in Guaranty Bank (Guaranty or the Company) were reduced to zero when the Company filed for bankruptcy protection. Guaranty was a part of Guaranty Financial Group, Inc. (GFG), a division of Temple-Inland, Inc. until 2007 when Guaranty was spun off to GFG as sole owner. Guaranty had invested heavily in residential mortgage-backed securities (RMBS) and successfully hid its financial difficulties, even attracting additional capital in 2008. However, in 2009, the Office of Thrift Supervision directed the Company to amend its financial reports and the company recorded a $1.62 billion impairment on its RMBS portfolio. The company was forced into receivership and, several months later, declared bankruptcy.

Plaintiffs filed a class action suit on behalf of certain purchasers of GFG stock against Temple-Inland and high-level executives of Guaranty alleging multiple securities violations, including Section 10(b) of the Securities Exchange Act of 1934 (15 USC § 78j(b)). The plaintiffs alleged that the defendants:

The plaintiffs amended their complaint to allege claims against the executive defendants only. The executive defendants' motion to dismiss was granted by the district court, who found that the amended complaint failed to adequately allege scienter, one of the key elements of a private securities fraud claim under Section 10(b). Plaintiffs appealed.

The Fifth Circuit affirmed the district court's dismissal of the actions. The court rejected the plaintiffs' argument that the lower court's two-step method of first assessing the fraud allegations individually before weighing them collectively violated the Supreme Court's ruling in Tellabs, Inc. v. Makor Issues & Rights, Ltd. (551 U.S. 308 (2007)).The court held that more recent Fifth Circuit decisions endorsed the two-step method. Therefore, the district court was correct to analyze each allegation of fraud alone and then to determine whether the allegations as a whole raised a strong inference of scienter as to each defendant.

The adequacy of the plaintiffs' allegations were subject to two heightened standards:

The court found that the plaintiffs' allegations consisted only of motive and opportunity that, without more, failed to meet the PSLRA pleading standard. The fact that the defendants disclosed issues or "red flags" about the valuations assigned to the RMBS valuations as well as the inherent uncertainty underlying the models used to value the RMBS neutralized any inference of scienter.

Plaintiffs hoping to bring private securities fraud claims should be aware of the heightened pleading standards required and craft their allegations with particularity as to each allegedly misleading statement.