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Case 9:10-cv-80644-KLR Document 103 Entered on FLSD Docket 06/28/2012 Page 1 of 22

UNITED STATES DISTRICT COURT SOUTHERN DISTRICT OF FLORIDA

WEST PALM BEACH DIVISION

Case No. 10-80644-CIV-RYSKAMP/HOPKINS

ANDREA MIYAHIRA, Individually and On Behalf of All Others Similarly Situated,

Plaintiff,

v.

VITACOST.COM , INC.; IRA P. KERKER; RICHARD P. SMITH; ALLEN S. JOSEPHS; LAWRENCE A. PABST; ROBERT G. TRAPP; JEFFERIES & CO., INC.; OPPENHEIMER & CO., INC.; NEEDHAM & CO, LLC and ROTH CAPITAL PARTNERS, LLC;

Defendants. _______________________________________/

ORDER GRANTING MOTION TO DISMISS

THIS CAUSE comes before the Court pursuant to a joint motion to dismiss of

Defendants Vitacost.com , Inc., Richard P. Smith, Allen S. Josephs, Laurence A. Pabst, Robert G.

Trapp and Ira P. Kerker (collectively, the “Vitacost Defendants”) and Defendants Jefferies &

Co., Inc., Oppenheimer & Co., Inc.; Needham & Co, LLC; Roth Capital Partners, LLC

(collectively, the "Underwriter Defendants") motion to dismiss, filed January 12, 2012 [DE 92] .

Plaintiffs responded to the Defendants motion on March 16, 2012 [DE 96] . Defendants replied

on April 6, 2012 [DE 97] . This matter is ripe for adjudication.

I. BACKGROUND

A. Facts

Vitacost.com, Inc. ("Vitacost" or "Company") is an online retailer and direct marketer

of health and wellness products, including vitamins and dietary supplements, cosmetics, organic


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body and personal care products, sports nutrition and health foods. (Prospectus, Underwriter

Defendants ' Ex. A, at 1) 1 [DE 64-8] . The Company began operations in 1994 as a catalog

retailer of third-party vitamins and dietary supplements under the name Nature ' s Wealth

Company, but began operations under its present name in 2000. Id. In 1999, the Company

launched Vitacost.com and introduced its proprietary vitamins and supplements under its

Nutraceutical Sciences Institute ( "NSI") proprietary brand. Id. Vitacost had approximately

957,000 active customers as of June 30, 2009. Id.

Vitacost relied upon third-party manufacturers to produce its NSI products because

Vitacost had no manufacturing facility and no manufacturing experience. In April 2008,

however, Vitacost completed construction of a manufacturing facility in Lexington, North

Carolina and began manufacturing most of its NSI products. Id. Vitacost realized higher profit

margins on its NSI products. In 2008, for example, its gross margin on NSI products was 53%

compared to 24% on third-party products. Id. at 2. Vitacost planned to increase the

manufacturing and net sales of NSI products.

The transition from use of third-party manufacturers to in-house manufacturing was

somewhat rocky. During this time, Vitacost experienced approximately $3.2 million in losses

and believed its manufacturing would result in additional incremental gross profit for another 12-

18 months after the Company went public in September of 2009. Id. at 36.

1 In ruling on this motion to dismiss, the Court may consider documents filed with the SEC, documents quoted in or incorporated into the second amended complaint, and matters of public record, including press releases. See Oxford Asset Mgmt. Ltd. v. Jaharis , 297 F.3d 1182, 1188 (11th Cir. 2002); Capece v. Depository Trust and Clearing Corp., Case No. 05-80498-CIV-RYSKAMP, 2005 WL 4050118, at *5 (S.D. Fla. Oct. 11, 2005) (Ryskamp). The Court will consider portions of Vitacost ' s prosepctus and certain SEC filings and press releases as part of its review of the motions to dismiss.


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On September 24, 2009, Vitacost went public by completing an initial public offering

("IPO") of 11 million shares, including approximately 4.43 million shares of common stock

offered by the Company and approximately 6.57 million shares by certain selling stockholders.

Id. at 4. In the Prospectus, Vitacost explained its value proposition to its customers and its

growth strategy intended to increase net sales while maintaining or increasing its gross margins.

Id. at 2-3. Central to the success of its growth strategy were expansion and optimization of its

distribution platform and the continued development of its manufacturing capability. Id. at 3.

The Prospectus disclosed to investors that Vitacost ' s business could be harmed by several

factors, the materialization of which would decrease trading price of its common stock, which

would result in investment losses. Id. at 8-28. Vitacost disclosed that it had no manufacturing

experience prior to April 2008. Id. at 12. It disclosed that its growth plan included expanding its

manufacturing of NSI products, but cautioned that it could not guarantee that it would have the

operational and financial resources to manage that growth. Id. at 9-10. Vitacost also warned

investors that its operations could be materially adversely affected by the loss of key personnel.

Id. at 9. 2 Finally, it disclosed that it could experience difficulties organizing its manufacturing

processes, including material and product contamination, manufacturing efficiencies, compliance

with applicable regulations from agencies, including the Food and Drug Administration

("FDA"), and manufacturing shutdowns. Id. at 12-13. In short, investing in Vitacost's common

2 "Our historical growth and success is attributable, in part, to our Chief Operations Architect, Mr. Wayne

F. Gorsek. In June 2009, Mr. Gorsek ' s board-approved responsibilities were limited to assisting with our marketing, distribution, manufacturing, customer service and information technology departments in an effort to further our business plan, and no longer include the exercise of policy-making authority. As a condition to the initial and continued listing of our common stock on The NASDAQ Global Market, Mr. Gorsek is prohibited from acting as one of our executive officers or directors for an indefinite period of time. We cannot assure you that we will be able to operate as successfully as in the past without his management leadership, which could have a material adverse effect on our business, financial condition or results of operations. " Id. at 9 (emphasis added).


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stock "involve[d] a high degree of risk." Id. at Cover Page.

Some of the risks disclosed in the prospectus came to pass. In December of 2009, the

FDA requested that Vitacost evaluate and, to the extent necessary, change the labels for all its

products. (2d Am. Compl. ¶ 96.) Vitacost also lost key personnel at approximately the same

time. Wayne Gorsek ( "Gorsek"), Vitacost's co-founder, retired in December 2009. While

Gorsek had resigned as CEO in January 2007, a fact disclosed in the prospectus, in December

2009, he retired as Vitacost's Chief Operations Architect. Shortly thereafter, Eigerwand

Bjornstad ( "Bjornstad "), the Vice President of Manufacturing, resigned. 3 In late October-early

November 2009, Vitacost implemented a new enterprise resource planning system. The

implementation did not go as planned, however, and one witness alleges that the failed

implementation resulted in reduced shipments and data integrity issues.

By April 2010, Vitacost revised its estimates for revenue and fully diluted earnings per

share for the first quarter of 2010 and the full year 2010. The increase in back orders on certain

NSI products in the latter part of the first quarter impacted total revenue. In addition, the

manufacturing logistics issue forced Vitacost to implement a product mix shift with an increased

percentage of revenue derived from third-party products rather than NSI products. Its gross

margins were negatively impacted by increased shipping expenses necessary to maintain

customer service.

B. Claims and Parties

Plaintiffs bring a four-count Second Amended Complaint that asserts causes of action

3 It appears from the record that Kerker actually terminated Bjornstad. On January 5, 2010 Vitacost announced the appointment of John Young, former COO of Swiss Caps, to the position of Director of Manufacturing.


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under the Securities Act of 1933 ( "Securities Act "). Plaintiffs bring this action as a class action

pursuant to Federal Rules of Civil Procedure 23(a) and (b)(3) on behalf of the Securities Act

class, consisting of all those who purchased or otherwise acquired the common stock of Vitacost

pursuant, or traceable to, the Company ' s IPO and/or during the class period and who were

damaged thereby. Excluded from the Securities Act class are Defendants, the officers and

directors of the Company at all relevant times, members of their immediate families and their

legal representatives, heirs, successors, or assigns, and any entity in which Defendants have or

had a controlling interest. The class period runs from September 24, 2009 through and including

December 7, 2010. Plaintiffs initially filed suit on May 24, 2010, received leave to file an

amended complaint, which they filed on February 15, 2011, and subsequently filed a second

amended complaint on January 12, 2012.

Lead Plaintiff Montgomery County Employees ' Retirement Fund purchased common

stock of Vitacost in connection with, pursuant and traceable to, and in the IPO, and during the

class period. Richard G. Bauman is no longer a lead Plaintiff. Plaintiffs were harmed when the

price of Vitacost shares dropped.

Defendant Ira P. Kerker ( "Kerker") served as the Company ' s Chief Executive Officer &

Director from 2007 until August 16, 2010, at which time the Company announced Kerker would

no longer be working with the Company. Defendant Richard P. Smith ( "Smith ") was, since

January 2004 and during the class period, the Company ' s Chief Financial Officer and Chief

Accounting Officer. Defendant Allen S. Josephs ( "Josephs ") was, during the class period,

Chairman of the Board of Directors and Director of Research. Defendant Lawrence A. Pabst

( "Pabst ") was, since April 2007 and during the class period, a Company Director and served as a

member of the Company ' s scientific advisory board. Defendant Robert G. Trapp ( "Trapp ") was,


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since April 2007 and during the class period, a Company Director and served as a member of the

Company’s scientific advisory board. Plaintiffs no longer assert claims against David N. Ilfeld,

Steward L Gitler, and Eran Ezra.

Defendants Jefferies & Company, Inc. ( "Jeffries "), Oppenheimer & Co. Inc.

( "Oppenheimer & Co. "), Needham & Company, LLC ( " Needham "), and Roth Capital Partners,

LLC ( " Roth "), (collectively, the " Underwriter Defendants "), acted as underwriters of the IPO,

organizing the distribution of at least 11 million shares of Vitacost stock to investors and

initiating the first public market for Vitacost stock.

Plaintiffs filed on January 12, 2012 a 60-page consolidated second amended class action

complaint for violation of the Securities Act. Count one, brought pursuant to § 11 of the

Securities Act, 15 U.S.C. § 77k, alleges that Vitacost made materially untrue and/or misleading

statements in the registration statement. Count two, brought pursuant to the same provision,

alleges that Kerker, Smith, Josephs, Pabst, Trapp, and the Underwriter Defendants acted

negligently in issuing the registration statement which allegedly made materially false and

misleading written statements to the investing public. Count three, brought pursuant to §

12(a)(2) of the Securities Act, 15 U.S.C. § 77l(a)(2), alleges that the Underwriter Defendants

failed to make a reasonable and diligent investigation of the statements contained in the

registration statement to ensure that such statements were true and that there was no omission of

any material fact required to be stated in order to make the statements contained therein not

misleading. Count four, is brought pursuant to § 15 of the Securities Act, 15 U.S.C. § 77o,

against Kerker, Smith, Josephs, Pabst, and Trapp, each of whom Plaintiffs allege was a

controlling person of Vitacost. By virtue of such, these individuals had the requisite power to

directly or indirectly control or influence the specific corporate policy that resulted in the


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unlawful acts and conduct alleged in count one.

Plaintiffs are no longer asserting the allegations of Exchange Act violations made in

counts five and six of the First Amended Complaint [DE 39 ¶ 262-76] .

II. DISCUSSION

A. Pleading Standards

In order to state a claim for relief, Federal Rule of Civil Procedure 8(a)(2) requires only

“a short and plain statement of the claim showing that the pleader is entitled to relief.” When

considering a motion to dismiss, the court must accept all of the plaintiff’s allegations as true.

Hishon v. King & Spalding , 467 U.S. 69, 73 (1984). However, the court need not accept legal

conclusions as true. Ashcroft v. Iqbal , 556 U.S. 662, 678 (2009). Further, “a court’s duty to

liberally construe a plaintiff’s complaint in the face of a motion to dismiss is not the equivalent

of a duty to re-write it for [him].” Peterson v. Atlanta Hous. Auth. , 998 F.2d 904, 912 (11th Cir.

1993).

“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.’” Iqbal, 556 U.S. at 678

(quoting Bell Atl. Corp. v. Twombly , 550 U.S. 544, 570 (2007)). “A claim has facial plausibility

when the plaintiff pleads factual content that allows the court to draw the reasonable inference

that the defendant is liable for the misconduct alleged.” Id. “While a complaint attacked by a

Rule 12(b)(6) motion to dismiss does not need detailed factual allegations, a plaintiff's obligation

to provide the ‘grounds’ of his ‘entitle[ment] to relief’ requires more than labels and conclusions,

and a formulaic recitation of the elements of a cause of action will not do . . . .” Twombly , 550

U.S. at 555 (alteration in original) (citations omitted). “Factual allegations must be enough to

raise a right to relief above the speculative level . . . .” Id.


Moreover, if a plaintiff uses confidential witnesses to support its allegations, it must

describe the confidential witnesses Awith sufficient particularity to support the probability that a

person in the position occupied by the source would possess the information alleged. @ Novak v.

Kasaks , 216 F.3d 300, 314 (2d Cir. 2000). The Eleventh Circuit requires a plaintiff to provide

the basis of a confidential witness = s knowledge, including (1) the position(s) held, (2) the

proximity to the offending conduct, and (3) relevant time frame. Mizarro, 544 F.3d at 1240.

The particularity of the allegations informs the Court of the weight to afford the allegations

contained in confidential witness statements. Mizzaro v. Home Depot, Inc. , 544 F.3d 1230,

1239-40 (11th Cir. 2008); see also Hubbard v. BankAtlantic Bancorp, Inc. , 625 F. Supp. 2d

1267, 1284-85 (S.D. Fla. 2008) (giving very little weight to any allegation in which the

confidential witnesses = proximity to the offending conduct was indiscernible). A pleading is

insufficient when the allegations are based on A subjective generalizations @ or Atales from the

trenches @ by confidential witnesses . Pyramid Holdings, Inc. v. Inverness Med. Innovations, Inc. ,

638 F. Supp. 2d 120, 127-28 (D. Mass. 2009) (citing Fleming v. Lind-Waldock & Co. , 922 F.2d

20, 23-24 (1st Cir. 1990)). Judges must Aweigh the strength of plaintiffs = favored inference in

comparison to other possible inferences; anonymity frustrates that process. @ Higginbotham v.

Baxter Intn =l, Inc. , 495 F.3d 753, 757 (7th Cir. 2007) (noting that allegations from confidential

witnesses usually incur a A steep @ discount).

B. The Securities Act

1. Section 11

Section 11 creates a private cause of action where a registration statement either

Acontained an untrue statement of a material fact or omitted to state a material fact required to be


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stated therein or necessary to make the statements therein not misleading. " 15 U.S.C. § 77k(a).

To avoid dismissal of a § 11 claim, plaintiffs must properly allege: (1) the prospectus contained a

misstatement or omission; (2) that was material; (3) defendants were under a duty to disclose the

omitted information; and (4) that the information existed at the time the prospectus became

effective. Oxford Asset Mgmt., Ltd. , 297 F.3d at 1189.

2. Section 12(a)(2)

Section 12(a)(2) creates a private cause of action against persons who offer or sell a

security "which includes an untrue statement of material fact or omits to state a material fact

necessary in order to make the statements, in the light of the circumstances under which they

were made, not misleading. " 15 U.S.C. § 771(a)(2).

3. Section 15

Plaintiffs also assert "control person " claims under § 15 of the Securities Act, which

provides that " [e]very person who . . . controls any person liable under section [11] or [12], shall

also be liable jointly and severally with and to the same extent as such controlled person to any

person to whom such controlled person is liable. " 15 U.S.C. § 77o.

C. Analysis of Securities Act Claims

To establish a Securities Act claim, Plaintiffs must establish that the Company made a

material false or misleading statement in its prospectus. Despite the filing of a 60-page second

amended complaint, Plaintiffs ' allegations can be distilled into the following five categories of

misstatements and omissions:

• allegations regarding Vitacost's key manufacturing personnel, including that Gorsek and Bjornstad were expected to leave the Company after the IPO closed and that Kerker had little or no operational and manufacturing experience;


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• allegations regarding margins and growth strategy, including that Vitacost had a competitive advantage due to higher gross margins on proprietary products, in-house manufacturing capabilities, and its direct-to-customer business model;

• allegations regarding an FDA label review, including omissions regarding inconsistent quality control, order fulfillment problems and problems with labeling that led to the FDA label review in November 2009;

• allegations regarding Vitacosts's Las Vegas distribution center, including that Vitacost planned to relocate the distribution operations shortly after the IPO and would incur related transition costs, order fulfillment challenges and inventory control problems; and

• allegations regarding the Company's equity capitalization, including that the financial statements were unreliable and that the auditor's certification regarding the Company's financial position was false.

Plaintiffs ' Securities Act claims are subject to dismissal on several distinct bases. The Court will

discuss each basis in turn.

1. Allegations of corporate mismanagement are not actionable under the securities laws.

Failure to disclose corporate mismanagement is not actionable under the federal

securities laws. Santa Fe Indus., Inc. v. Green , 430 U.S. 462, 479 (1977); see also Cutsforth v.

Renschler, 235 F. Supp. 2d 1216, 1242 (M.D. Fla. 2002) (“[C]ourts generally hold that the

failure to disclose possible corporate mismanagement does not state a federal securities law

claim.”); see also Fitzer v. Sec. Dynamic Techs., Inc. , 119 F. Supp. 2d 12, 31 (D. Mass. 2000)

(“[P]oor management is a risk that every investor takes. Damages flowing therefrom are not

actionable under the securities laws.”).

Plaintiffs’ allegations include many garden-variety mismanagement claims. Plaintiffs

allege that Kerker made a mistake in firing Bjornstad, that the Company had an inadequate


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succession plan, that Kerker was unqualified and unable to run the business, that management

adopted “unsustainable” sales practices, that the FDA label review was mismanaged, that the

transition to the new Las Vegas distribution center was inefficient and that the implementation of

the new enterprise resource management system was poor. These are all classic, non-actionable

mismanagement claims.

2. Plaintiffs fail to allege that any statement was false when made.

It is axiomatic that Plaintiffs must establish that each alleged misstatement was false

when the Company made it. In re Mirant Corp. Sec. Litig. , Civ. A. No. 1:02-CV-1467-RWS,

2009 WL 48188, at *20 (N.D. Ga. Jan. 7, 2009). Securities laws do not require clairvoyance-

facts arising after a statement was made cannot establish a securities fraud claim. Id. Plaintiffs

cannot meet their pleading burden by pointing to post-IPO events to support their claim that

statements in the prospectus were materially misleading when made. See Castlerock Mgmt., Ltd.

v. Ultralife Batteries, Inc., 68 F. Supp. 2d 480, 488 (D.N.J. 1999) (“[Omissions that] create a

misleading impression - particularly one that is misleading only in hindsight - are not sufficient

to constitute the basis of a securities action under section 11") (quotation omitted).

Plaintiffs impermissibly rely upon hindsight pleading to support their allegation that

Vitacost failed to disclose problems with their products and labels. Rather than alleging facts

known to the Company at the time the prospectus became effective, Plaintiffs allege that the

Company knew as early as November 2009 (over a month after the IPO) that the FDA would

begin its inspection of the Company's facilities and products. Plaintiffs make the unwarranted

assumption that the Company should have known or predicted that such inspection would result

in the problems disclosed to the market following that inspection. Such an assumption is

unwarranted given the absence of sufficient allegations of omitted facts known to Vitacost at the


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time of the IPO. See, e.g. , Scibelli v. Roth , No. 98 Civ. 7228, 2000 WL 122193, at *3 (S.D.N.Y.

Jan. 31, 2000) (stating that it is unreasonable to infer that defendant possessed information at

time of offering merely because it announced same eight weeks later).

Plaintiffs also impermissibly rely upon hindsight pleading to support their allegation that

the prospectus was materially misleading because it failed to disclose that Gorsek and Bjornstad

were expected to leave the Company shortly after the IPO. Gorsek and Bjornstad both left

Vitacost in early December 2009, more than two months after the IPO. The mere closeness in

time of their departures to the IPO is insufficient to establish that the prospectus contained a

material omission regarding their "expected" departures. There is no duty to disclose the

possible departure of employees, even key employees such as officers and founders, in the

prospectus. See In re Agria Corp. Sec. Litig. , 672 F. Supp. 2d 520, 529 (S.D.N.Y. 2009) (stating

that defendants had no duty to disclose in registration statement COO threatened to resign, and

did later resign, if compensation negotiations were not resolved in his favor, finding that

defendants had no duty to disclose); see also Cooperman v. Individual, Inc. , 171 F.3d 43, 49-51

(1st Cir. 1999) (stating that defendants had no duty to disclose that at the time of the IPO a

conflict existed between the company ' s founder, who was serving as CEO and President and the

rest of the Board of Directors, which caused the Board to fire him as CEO and President and

caused him to quit as a director after the IPO). The Company made no guarantees that Gorsek

and Bjornstad would remain with the Company and noted in the prospectus that their

employment contracts were terminable either by the employee or by the Company. It also

warned that if it lost or was unable to obtain key personnel, its business, financial condition and

results of operation could be materially adversely affected, and that the absence of Gorsek ' s

management leadership could have a material adverse effect on the Company. This alleged


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omission did not render any statement in the prospectus misleading.

Plaintiff also alleged that the prospectus was materially misleading because it failed to

disclose that Kerker lacked manufacturing experience. This alleged omission is not actionable

because investors already knew this fact simply by reading the prospectus, which listed Kerker ' s

qualifications and experience which, prior to joining Vitacost, consisted only of providing legal

services and serving as a financial representative. Since investors were already aware that

Kerker lacked manufacturing experience, Defendants had no duty to disclose same. See N.J.

Carpenters Health Fund v. Residential Capital, LLC, No. 08 CV 8781(HB), 2010 WL 1257528,

at *7 (S.D.N.Y. Mar. 31, 2010) (stating that defendants had no duty to disclose because the

information was already public). Further, the securities laws do not require companies to

characterize its management in the pejorative manner that Plaintiffs now use to describe Kerker.

See, e.g. , In re Donna Karan Intn 'l Sec. Litig. , No. 97-CV-2011 CBA, 1998 WL 637547, at *10

n.9 (E.D.N.Y. Aug. 14, 1998) (rejecting argument that prospectus contained a misleading

description of company's management team where it failed to disclose that founder's "impulsive,

stubborn, and incompetent management" would impede implementation of company's growth

strategies).

Plaintiffs also failed to show that the Company ' s statements regarding the Las Vegas

distribution center and the enterprise resource planning system were false when made. Plaintiffs

allege no contemporaneously-known facts to show that Vitacost could have predicted at the time

of the IPO that the transition costs and operating costs associated with relocating its West Coast

distribution center would rise to the point that they would not be offset by lower shipping costs

and improved order fulfillment. Plaintiffs highlight the disclosure in the prospectus that the

Company believed its distribution facilities would suffice for the next 12 to 18 months and the


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subsequent disclosure November 6, 2009 that Company signed a lease for a new distribution

center in Las Vegas. (2d Am. Compl. ¶¶ 73-74, 113.) The signing of the lease does not make

the statement in the prospectus false. The Company disclosed that it expected its current

facilities to be sufficient for 12 to 18 months, but it did not guarantee that it would remain in the

facilities for that length of time, or that it would not lease new facilities should the ideal space

available before the expiration of that period of time. Furthermore, the statement by confidential

witness ten, that “the Company had been searching for a new space to relocate the Las Vegas

distribution facility for several months prior to the IPO,” merely establishes that the company

determined it would need to begin its search for a new location prior to the IPO. Plaintiff fails to

allege that Defendants knew when Vitacost would locate suitable new location and when the

relocation would actually occur. The lease for the new distribution facility was not signed until

November 6, 2009, nearly two months after the IPO.

As to the failed implementation of the enterprise resource planning system, confidential

witness one fails to indicate how long the shipping slow-down lasted and whether the date

integrity issues were minor or significant. Furthermore, the prospectus disclosed that "we are in

the process of implementing a new enterprise resource planning system which we believe will

help us manage our growth effectively " and warned that " [w]e may experience delays in

implementing this system or this system may not function as expected. " (Prospectus, 10.)

Investors already knew that the company was implementing a new system and were aware that

the implementation of the system may not go as planned and may not function correctly. The

Company ' s statements regarding this new system were not false or misleading. These

allegations amount to nothing more than general allegations of corporate mismanagement.


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To support their allegations that the Company implemented "unsustainable sales

promotions" to avoid moving inventory from the old Las Vegas distribution center to the new

one, Plaintiffs rely on broad statements by confidential witnesses. Confidential witness number

three states that he “recalled seeing orders for $90 where Vitacost would be required to pay the

same amount in shipping,” confidential witness seven stated “the high cost incurred for free

shipping were significant, especially on the last day of the quarter,” and confidential witness

number seven attests to hearing one individual express the opinion that the promotions were too

numerous and “will hurt us [Vitacost] in the long term” in an Executive meeting. (2d Am.

Compl., JJ 89-90.) These statements do not establish that the Company ' s marketing promotions

were " unsustainable. " Accordingly, it is unclear how the Company ' s promotions rendered any

statement false or misleading.

Plaintiffs allege that the Company statements in the prospectus touting the efficiency of

its distribution centers were false and misleading because the Las Vegas distribution center was

poorly managed. Plaintiffs depend on the statements of confidential witness number seven, the

Distribution Manager for the Las Vegas distribution center. This witness did not begin to work

at Vitacost until February 2010, however, over 4 months after the IPO. (2d Am. Compl. J 5(g).)

Additionally, the Court has already noted that garden-variety claims of mismanagement are not

actionable under the securities laws.

3. Plaintiffs fail to show materiality.

A fact is material when there is "a substantial likelihood that disclosure of the omitted

fact would have been viewed by the reasonable investor as having significantly altered the ' total

mix ' of information made available. " Basic, Inc. v. Levinson , 485 U.S. 224, 231-32 (1988)

(quotation omitted). Certain types of statements are immaterial as a matter of law, including


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statements of corporate optimism or "puffery, " statements and information already known to the

market, statements that cause an insignificant change in stock price and statements relating to an

insignificant portion of the company ' s overall operations. Parnes v. Gateway 2000, Inc. , 122

F.3d 539, 546-47 (8th Cir. 1997) (2% of the company ' s total assets immaterial); In re Winn-Dixie

Stores, Inc. Sec. Litig ., 531 F. Supp. 2d 1334, 1344 (M.D. Fla. 2007) (corporate optimism not

actionable); Nelson v. Hodowal , 512 F.3d 347, 350 (7th Cir. 2008) ( " information that, when

revealed, has no effect on the stock ' s price is not ' material ' to investors ' decisions"); In re Andrx

Corp. , 296 F. Supp. 2d 1356, 1366 (S.D. Fla. 2003) ( " [A] misrepresentation is immaterial if the

information is already known to the market because the misrepresentation cannot then defraud

the market. ") (quotation omitted).

Defendants ' Ex. 2 identifies the alleged misstatements that constitute corporate optimism.

Examples of these statements include:

• " . . .[w]e have designed growth strategy that we believe will increase net sales while maintaining or increasing our gross margins. " . . . Additionally, manufacturing our own products allows us to better control product quality, react to trends in the industry and bring new products to market significantly faster than our current development cycle with third-party manufacturers. (2d Am. Compl. ¶ 127)

• We operate two highly automated distribution centers, which use wireless, paperless systems to achieve efficient quality order fulfillment and distribution. . . . Our strong distribution platform allows us to cost-effectively serve our customers while driving additional revenue and margins . . . . We also track and manager manufacturing processes, inventory, order fulfillment, customer service and marketing to state-of-the-art technology set allow us to condense and distribute customer and sales data as part of her business intelligence model. (2d Am. Compl. ¶ 118)

The Court has reviewed the alleged misstatements contained in Ex. 2 and concludes that


17

these statements are exactly the type said courts have held constitute corporate optimism. These

statements are therefore immaterial as a matter of law. In re Winn-Dixie , 531 F. Supp. 2d at

1344.

The prospectus disclosed that Gorsek was precluded from acting as an executive officer

or director or even from having policy-making authority. Investors already knew that Gorsek

was not an executive and did not make important decisions. His departure, therefore, was

immaterial.

Nutraceutical companies such as Vitacost are subject to ongoing regulation by the FDA

in the normal course of business. That a federal regulator may review or inspect some aspects of

the Company is not material to the reasonable investor. See Acito v. IMCERA Group, Inc. , 47

F.3d 47, 52-53 (2d Cir. 1995) (stating that defendants ' alleged failure to disclose to FDA

inspections and the "inevitable consequence " of an upcoming third inspection were immaterial).

Furthermore, although multiple confidential witnesses note that the FDA label review and

inefficiencies in transitioning to the new Las Vegas distribution center resulted in manufacturing

slow-downs and out-of-stocks, each of the statements lacked the requisite detail in the timing,

nature, and significance of the manufacturing slow-downs to establish materiality. Zimmer , 673

F. Supp. 2d at 736-37 (dismissing complaint because confidential witness statements failed to

establish the timing, nature, and significance of the production halt in back orders, thereby

rendering such inefficiencies immaterial).

The actual impact of the manufacturing issues that the Company disclosed to investors on

April 20, 2010 is immaterial as a matter of law. The Company disclosed that $1 to $1.2 million

in revenue shifted from 1Q10 to 2Q10 out of a total of $57 to $57.5 million total revenue. The

FDA label review, transition to the new Las Vegas distribution facility, manufacturing slow-


18

down and product out-of-stocks therefore had a combined total impact on the Company ' s 1Q10

revenues of between 1.7% and 2.1%, with the impact of each individual issue being significantly

less. (Vitacost Defs ' Ex. 12 [DE 65-12] .) Numerous courts have found such an insignificant

impact immaterial as a matter of law. See Parnes, 122 F.3d at 546-47 (2% of company ' s total

assets immaterial); Glassman v. Computervision Corp. , 90 F.3d 617, 633 n.26 (1st Cir. 1996)

(3% to 9% difference immaterial); In re PetSmart, Inc. Sec. Litig. , 61 F. Supp. 2d 982, 994 (D.

Ariz. 1999) (revenue shortfalls of 10% or less may be immaterial in the Ninth Circuit).

Plaintiffs cite Matrixx Initiaves, Inc. v. Siracusano , 131 S.Ct. 1309 (2011) for the

proposition that all immateriality arguments based on quantitative analysis are invalid. Matrixx

does not so hold. At issue in Matrixx was whether a company must disclose reports of adverse

health problems associated with a drug when the number of reports does not establish a

significantly significant risk that the drug caused health problems. Id. at 1318-19. The Supreme

Court noted that defendant ' s suggested bright-line rule, that disclosure of adverse events should

only be required when the risk of causation is statistically significant, "artificially exclude[s]

from the definition of materiality, information...which would otherwise be considered significant

to the trading decision of a reasonable investor. " Id. at 1318. The Court held that a reasonable

investor would have viewed the reports as material not just because health problems had been

reported, but also because the reports suggested "a significant risk to the commercial viability of

Matrixx ' s leading product, " which "accounted for 70 percent of Matrixx ' s sales. " Id. at 1323.

Matrixx has no application here. " Statistical significance " is a term of art used when the

results of a study are "unlikely to be the result of random error. " Id. at 1319 n.6. Defendants do

not make a statistical significance argument. Rather, many of the alleged misstatements and


19

omissions are immaterial as a matter of law because they did not meaningfully impact Vitacost ' s

business, or, in some cases, its stock price.

Furthermore, the statements in the prospectus are immaterial under the “bespeaks

caution” doctrine. Many of the challenged statements expressed Vitacost’s belief and

expectations regarding its future business and growth strategy, including:

• "We have designed a growth strategy that we believe will increase net sales while maintaining or increasing our gross margins." (2d Am. Compl. ¶ 108, 127) (emphasis added)

• "We believe that over the next 12 to 18 months that the manufacturing of our proprietary capsules and tablets will add additional incremental gross profit." (2d Am. Compl. ¶ 107, 129) (emphasis added)

• "We expect our distribution facilities will allow us to meet our product requirements for the next 12 to 18 months . . . . It is anticipated that the start-up and transition costs to open a third distribution facility would be offset by the benefits of lower shipping costs and improved order fulfillment turnaround. We estimate the capital expenditure for opening a third distribution facility to be approximately $6.0 million, which we expect will be funded through either traditional commercial loan financing, cash flow from operations, proceeds from this offering or a combination thereof." (2d Am. Compl. ¶ 111) (emphasis added)

• “Management determines the inventory reserve by regularly reviewing and evaluating individual inventory items and movement history. Inventory is written off when deemed obsolete or unsalable. Future factors, such as changes in consumer demand reports and immediate deemed negative to certain products with market and sell, could impact management’s inventory reserve estimates.” (2d Am. Compl. ¶ 120)

Exhibit 1 to Defendants’ motion to dismiss contains a detailed list of the forward looking

statements that Plaintiff challenge. The Court has reviewed the statements and has concluded that

they are all forward-looking statements that are protected by the “bespeaks caution” doctrine.

The bespeaks caution doctrine applies when a prospectus contains meaningful cautionary


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statements and specific warnings of the risks involved, making the alleged misstatements

immaterial as a matter of law. Bryant v. Avado Brands , 187 F.3d 1271, 1276 n.7 (11th Cir.

1999); Rhodes v. Omega Research, Inc. , 38 F. Supp. 2d 1353, 1363 (S.D. Fla. 1999). Plaintiffs

chose to purchase Vitacost's stock based upon a "total mix" of information in the prospectus that

clearly warned of the risks associated with their investments. See Crowell v. Morgan, Stanley,

Dean Witter Servs. Co., Inc. , 87 F. Supp. 2d 1287, 1290-91 (S.D. Fla. 2000) ("'bespeaks caution'

doctrine recognizes that an analysis of fraud claims requires consideration of what information

was available to the plaintiff at the relevant time, i.e., 'context is important.'") (emphasis in

original) (quoting Saltzburg v. TM Sterling/Austin Assoc., Ltd. , 45 F.3d 399, 400 (11th Cir.

1995)); In re USEC Sec. Litig. , 190 F. Supp. 2d 808, 826 (D. Md. 2002) ("Although the 'total

mix' of the information made available warned plaintiffs of the high risks which they were

facing, they nonetheless chose to purchase common stock of USEC."). The cautionary language

in the prospectus was neither vague nor boilerplate. Rather, the cautionary statements were

tailored to address the risks and uncertainties Vitacost faced in its future operations. See

Rombach v. Chang , 355 F.3d 164, 175-76 (2d Cir. 2004) (holding "bespeaks caution" doctrine

barred claims where cautionary statements provided a sobering picture of issuer's financial

condition and future plans); In re Donald J. Trump Casino Sec. Litig. , 7 F.3d 357, 371-72 (3d

Cir. 1993) (finding prospectus bespoke caution where it conveyed the riskiness of investment

and directly addressed the substance of challenged statements).

Thus, as established herein, Plaintiffs failed to make a showing that Defendant made a

materially false or misleading statement in its prospectus. Plaintiff therefore fails to establish a

Securities Act claim.

Additionally, the Company and the individual defendants cannot be held liable under §


21

12(a)(2). This provision imposes liability for certain material misstatements and omissions made

in connection with the sale of securities but does not require a showing of scienter. "Section

12(a)(2) provides a remedy against one who sells a security by means of a prospectus or oral

communication . . . . " In re World Access, Inc. , 310 F. Supp. 2d 1281, 1292 (N.D. Ga. 2004). A

defendant is considered a "seller" if he or she " (1) directly passed title to the securities, or (2)

solicited the purchase of securities out of a desire to (a) serve their own interests or (b) serve the

interests of the securities ' owner. " Citiline Holdings, Inc. v. iStar Fin., Inc. , 701 F. Supp. 2d 506,

512 (S.D.N.Y. 2010). Vitacost and the individual defendants who sold in the IPO cannot be

liable under this provision because the underwriting was a firm commitment: Vitacost sold

shares to the underwriters, who turned around and sold the shares to investors. In re Airgate

PCS, Inc. Sec. Litig. , 389 F. Supp. 2d 1360, 1368 (N.D. Ga. 2005) (citing Lone Star Ladies Inv.

Club v. Schlotzky 's, 238 F.3d 363, 370 (5th Cir. 2001)). Further, the individual defendants '

preparation of the prospectus does not establish liability because that alone is insufficient to

establish seller status under § 12(a)(2). Id. (citing Shaw v. Digital Equip. Corp. , 82 F.3d 1194,

1216 (1st Cir. 1996)); see also Citiline , 701 F. Supp. 2d at 512 ( "Every Court of Appeals to have

considered the issue . . . has held that an individual ' s signing a registration statement does not

itself suffice as solicitation under Section 12(a)(1)). "

Plaintiffs ' § 15 control person claims are predicated on an underlying violation of §§ 11

or 12(a)(2). 15 U.S.C. § 77o. Because Plaintiffs fail to establish an underlying violation of

either of those provisions, their control person claims are dismissed.

III. CONCLUSION

THE COURT, being fully advised and having considered the pertinent portions of the

record, hereby


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ORDERS AND ADJUDGES that the joint motion to dismiss, filed January 12, 2012 [DE

92] , is GRANTED.

ORDERED AND ADJUDGED that this case is DISMISSED WITH PREJUDICE. The

Clerk of Court is directed to CLOSE this case and DENY any pending motions as MOOT.

DONE AND ORDERED at Chambers in West Palm Beach, Florida, this 25th day of

June, 2012.

S/Kenneth L. Ryskamp KENNETH L. RYSKAMP UNITED STATES DISTRICT JUDGE

Documents

UNITED STATES DISTRICT COURT Case No. 10 …securities.stanford.edu/.../2012628_r01o_10CV80644.pdfCase 9:10-cv-80644-KLR Document 103 Entered on FLSD Docket 06/28/2012 Page 2 of 22