Ganino v. Citizens Utils. Company

United States Court of Appeals for the Second Circuit · 2000 · Corporations

228 F.3d 154 (2d Cir. 2000)

Updated August 22, 2026

CorporationsSecurities fraudMaterialityScienterRule 10b-5Section 20(a)Section 10(b)PSLRA

Facts

Plaintiffs bought Citizens Utilities common stock during a class period and alleged that Citizens fraudulently inflated its share price by recognizing approximately $10.1 million in fees from HTCC as 1996 income even though those fees were allegedly earned and received in 1995. Citizens' 1996 first- and second-quarter press releases and Forms 10-Q reported increased earnings without disclosing that substantial portions of those increases allegedly came from the HTCC fees. The complaint alleged that the misreporting helped Citizens preserve its long streak of increased earnings and conceal a failure to meet expectations. In total, the disputed fees were about $22 million, or 1.7% of Citizens' 1996 total revenue, but represented much larger percentages of quarterly net income.

Issue

Whether the complaint adequately alleged material misrepresentations under Section 10(b) and Rule 10b-5 where the misstated amount was only 1.7% of annual revenue but substantially affected quarterly income and earnings trends, and whether dismissal could be sustained based on lack of post-disclosure stock-price movement or on the truth-on-the-market theory. The court also addressed the proper scienter pleading standard to be applied on remand.

Rule

At the pleading stage, a Rule 10b-5 plaintiff satisfies materiality by alleging a statement or omission that a reasonable investor would have considered significant, meaning there is a substantial likelihood disclosure would have significantly altered the total mix of information available. Materiality is a mixed question of law and fact, and dismissal is proper only when the alleged misstatement is so obviously unimportant that reasonable minds could not differ. Courts may not rely exclusively on a single numerical benchmark; they must consider all relevant circumstances, including qualitative factors such as whether a misstatement masks a change in earnings trends or hides a failure to meet analysts' expectations. For scienter, a securities-fraud complaint must plead facts giving rise to a strong inference of fraudulent intent, which in this Circuit may be done by alleging motive and opportunity or strong circumstantial evidence of conscious misbehavior or recklessness.

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One of 10 multiple-choice questions for this case. Pick an answer to see why.

Redstone Fiber Holdings, a public company based in Denver, reports that its annual revenue was overstated by $8 million, which is only 1.4% of total yearly revenue. Investors allege, however, that the same $8 million represented 16% of second-quarter net income and allowed the company to announce continued quarterly earnings growth rather than a decline.

On the company's motion to dismiss a Rule 10b-5 complaint, which is the strongest argument against dismissal on materiality grounds?

Explanation. At the pleading stage, materiality turns on whether there is a substantial likelihood that disclosure would have significantly altered the total mix of information for a reasonable investor. The majority rejected any bright-line numerical benchmark and required consideration of qualitative as well as quantitative factors, including whether a misstatement masked a change in earnings trends. A small percentage of annual revenue does not make the statement immaterial as a matter of law, especially where the same amount is a substantial portion of quarterly net income.