           Case: 14-10213   Date Filed: 03/25/2015   Page: 1 of 24


                                                                     [PUBLISH]



             IN THE UNITED STATES COURT OF APPEALS

                     FOR THE ELEVENTH CIRCUIT
                       ________________________

                             No. 14-10213
                       ________________________

                   D.C. Docket No. 1:11-cv-22556-MGC



CHRISTOPHER BROPHY,
TARA LEWIS,

                                                         Plaintiffs - Appellants,

                                  versus

JIANGBO PHARMACEUTICALS, INC.,
JIN LINXIAN,
ELSA SUNG,
ZILING SUN,
CAO WUBO, et al.,

                                                        Defendants - Appellees.

                       ________________________

                Appeal from the United States District Court
                    for the Southern District of Florida
                      ________________________

                             (March 25, 2015)

Before TJOFLAT, JILL PRYOR and FAY, Circuit Judges.
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JILL PRYOR, Circuit Judge:


       This is an interlocutory appeal from an order granting motions to dismiss by

two defendants in a securities class action against Jiangbo Pharmaceuticals, Inc.

(“Jiangbo”), its principal officers, and its audit firm. The district court found that

plaintiffs Christopher Brophy and Tara Lewis (collectively, the “investors”) failed

to plead sufficiently their allegations of fraud against defendants Elsa Sung,

Jiangbo’s former Chief Financial Officer (“CFO”), and Frazer LLP (“Frazer”),

Jiangbo’s external auditor. Applying the heightened pleading standard imposed by

the Private Securities Litigation Reform Act (“PSLRA”), 15 U.S.C. § 78u–4, we

affirm.

                                   I.     BACKGROUND

                       A. Jiangbo’s troubled tenure on NASDAQ 1

       Jiangbo came into existence as a U.S. corporation in 2007 when its Chinese

operational arm, Laiyang Jiangbo, executed a reverse merger with a Florida shell

company. 2 The day-to-day operations of Jiangbo’s pharmaceutical business

remained in China. Jiangbo hired Elsa Sung, a Florida resident, to be its CFO in

October of 2007. She remained in her position for several years, throughout most


1
  We draw the facts below from the complaint and construe them in the light most favorable to
the plaintiffs, as we must on review of a motion pursuant to Federal Rule of Civil Procedure
12(b)(6). See infra Part II.
2
  The name of the shell company was Genesis Technology Group, Inc. Jiangbo acquired its
current name in 2009.
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of the class period during which the investors allege that Jiangbo engaged in fraud,

until she resigned on March 31, 2011. On February 25, 2008, Jiangbo first

retained one of Frazer’s predecessor entities, Moore Stephens, as its principal

accountant. The investors claim that a number of other Chinese corporations

created through reverse mergers eventually also retained Moore Stephens’s

successor entity, Frazer Frost LLP, as their external auditor. Frazer Frost LLP

remained Jiangbo’s auditor during most of the class period, until approximately the

end of March 2011, when Jiangbo replaced it with another firm. Frazer came into

being as one of two successor entities when Frazer Frost LLP split on May 1,

2011. 3

       Jiangbo’s tenure as a public company was short and fraught with suspicion

of misconduct. Shares began trading on NASDAQ on June 8, 2010 and traded on

that exchange for just under a year. 4 Only six months after trading began, in

December 2010, the Securities and Exchange Commission (“SEC”) initiated an

informal, non-public investigation and requested certain documents from Jiangbo.

By February 2011, Jiangbo’s internal Audit Committee had launched its own non-

public investigation into the SEC’s areas of concern and retained Cadwalader,

Wickersham & Taft LLP (“Cadwalader”) and Ernst & Young (“E&Y”) to assist in


3
  The other entity produced by the split was Frost PLLC. The investors allege that both are liable
for fraud, but they disclaim any appeal as to Frost PLLC.
4
  The class period is the period during which Jiangbo shares traded on NASDAQ.
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that investigation. The company’s fortunes unraveled quickly soon thereafter. In

or around March 2011, Ms. Sung and Frazer withdrew from their respective roles,

and the SEC formalized its investigation, which remained non-public.

         Jiangbo made two significant disclosures in late May 2011 that marked the

culmination of its decline: it publicly acknowledged the formal SEC investigation

for the first time and reported that the company had defaulted on a relatively small

principal payment toward debt from its initial financing. Trading ended days later

on May 31, 2011, by which time the share price had fallen from a class-period high

of $10.49 per share to $3.08. By November 2011, after Jiangbo had moved to

another exchange, its shares were trading for just $0.14.

                            B. The nature of the alleged fraud

         As required by securities law governing publicly traded companies, Jiangbo

submitted filings to the SEC that disclosed the company’s finances and other

material information. 5 The investors’ consolidated amended complaint (the

“complaint”) alleges, inter alia, that Ms. Sung and Frazer misrepresented the

company’s cash balances and failed to disclose a material related-party transaction

in statements within or appurtenant to those filings, in violation of Section 10(b) of

the Securities Exchange Act, 15 U.S.C. § 78j(b), and SEC Rule 10b–5, 17 C.F.R.




5
    These filings included Form 10-Ks, Form 10-Qs, and Form 8-Ks.
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§ 240.10b–5. 6 The alleged related-party transaction involved a $31 million

transfer to Shandong Hilead Biotechnology Co., Ltd. (“Hilead”), a company

controlled by Jiangbo chairman Cao Wubo, who is a defendant in the underlying

action.

                                       1. Cash balances

       During the class period, Jiangbo consistently reported in its filings with the

SEC that its cash balances were near or above $100 million. As CFO, Ms. Sung

certified to the SEC that Jiangbo had sufficient internal controls and procedures to

ensure that the filings were accurate and that no material information was missing. 7

In addition to signing these certifications within Jiangbo’s filings, Ms. Sung

participated in multiple conference calls with shareholders in which she reiterated

cash balances from the filings. During these calls, Ms. Sung emphasized to

shareholders that the company’s growth and cash position were “strong.” Doc. 43

at ¶¶ 150, 158, 170.

          The investors allege that Jiangbo’s cash balances were overstated in the

SEC filings and, consequently, that Ms. Sung’s formal certifications and verbal

confirmations of the figures were material misrepresentations. The complaint lists

6
  The complaint also alleges that Jiangbo overstated its accounts receivable and failed to disclose
the SEC investigation in filings that followed, but the investors do not assert these claims on
appeal.
7
  After Ms. Sung stepped down, she ceased to certify filings or make public statements about
Jiangbo’s financial position on behalf of the company. Accordingly, the investors assert no
claims against Ms. Sung based on misrepresentations or omissions occurring after her
resignation became effective on March 31, 2011.
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irregularities in Jiangbo’s management of its finances that support an inference that

its cash balances were actually much lower. First, Jiangbo defaulted in early 2011

on a relatively small principal payment—$3.5 million—that it owed on debt from

its initial financing years earlier. Second, Jiangbo failed to make timely payments

to Cadwalader and E&Y for their assistance in the internal investigation, and when

the company ultimately made a partial payment of only RMB 2.2 million,8 the

funds appeared to have come from the personal account of a Jiangbo employee.

The investors reason that if Jiangbo’s cash balances really had been in excess of

$100 million for most of the class period, Jiangbo would not have had trouble

meeting such minimal obligations.

                                   2. Hilead transaction

       The investors additionally allege that Jiangbo was involved in a material

related-party transaction with Hilead that none of Jiangbo’s principal officers,

including Ms. Sung, properly disclosed in filings or public statements. The

investors first learned that this transaction might have occurred from the

resignation letter, dated June 6, 2011, of two of Jiangbo’s independent board

members who sat on the Audit Committee (the “resignation letter”). The

resignation letter noted that the Audit Committee had issued unsatisfied requests

for bank slips showing receipt of the same amount—RMB 200 million, or roughly

8
 Using the conversion rate contained in the complaint, the dollar equivalent would have been
approximately $341,000.
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$31 million—from both Jiangbo and Hilead. The letter further stated that the

Audit Committee was awaiting an “Auditor’s Verification Report on the capital

injection in relation to the RMB 200 million capital of Hilead . . . .” Doc. 43-1 at

20-21. Given Mr. Cao’s control of Hilead and the size of the transaction relative to

Jiangbo’s stated cash balances, the investors allege that any such transaction was

necessarily “material” and should have been disclosed. Thus, the investors claim

that Ms. Sung’s certification of filings and statements to shareholders made

material omissions under the meaning of 17 C.F.R. § 240.10b-5 insofar as they did

not reference the Hilead transaction.

                       3. Frazer’s alleged role in the fraud

      The investors allege that Frazer is liable for the same two material

misrepresentations or omissions as Ms. Sung, citing a single unqualified audit

report that Frazer issued regarding the fiscal year ending in June 2010, which

Jiangbo included in its September 2010 filings with the SEC. The investors argue

that Frazer’s confirmation of the integrity of Jiangbo’s reporting amounts to the

same material misrepresentations and omissions within Jiangbo’s filings

themselves.

                               C. Proceedings below

      The underlying action is a consolidation of two actions that were filed

against Jiangbo in the months after its collapse. The investors were appointed lead


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plaintiffs of this new action on November 1, 2011 and filed the consolidated

amended complaint on November 16, 2011. The complaint laid out two types of

claims: violations of Section 10(b), the principal fraud provision of the Securities

Exchange Act, and corollary claims under Section 20(a), which attaches liability to

individual persons who control corporations responsible for predicate violations of

the Act. See 15 U.S.C. §§ 78j, 78t. The investors sought to recover the losses in

the value of their holdings that they allege resulted from earlier, fraudulently

inflated stock prices and the market’s subsequent recognition of that fraud.

      Ms. Sung and Frazer moved to dismiss, asserting that the complaint does not

sufficiently plead either scienter or the existence of material misrepresentations or

omissions, both of which are required to establish a violation of Section 10(b).

The district court granted the motions and dismissed the complaint as to Ms. Sung

and Frazer, concluding that the complaint fails to state with particularity facts

giving rise to a strong inference that Ms. Sung or Frazer acted with scienter, even

though the complaint properly pleads allegations that Jiangbo overstated cash

balances. This appeal followed.

                                   II.    ANALYSIS

       “We review de novo the district court’s dismissal of a case under [Federal

Rule of Civil Procedure] 12(b)(6), ‘accepting the allegations in the complaint as

true and construing them in the light most favorable to the plaintiff.’” Piedmont


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Office Realty Trust, Inc. v. XL Speciality Ins. Co., 769 F.3d 1291, 1293 (11th Cir.

2014) (quoting Hill v. White, 321 F.3d 1334, 1335 (11th Cir. 2003)). To plead

securities fraud in violation of Section 10(b), the investors must sufficiently allege

the following elements: “(1) a material misrepresentation or omission; (2) made

with scienter; (3) a connection with the purchase or sale of a security; (4) reliance

on the misstatement or omission; (5) economic loss; and (6) a causal connection

between the material misrepresentation or omission and the loss . . . .” Mizzaro v.

Home Depot, Inc., 544 F.3d 1230, 1236-37 (11th Cir. 2008). Our task is to

evaluate the district court’s conclusions with respect to the first two elements.

Even assuming arguendo that the investors have sufficiently pled their allegations

of misrepresentations and omissions, we find that significant ambiguities in those

allegations make an inference of scienter more difficult to draw. For that reason,

we agree with the district court that the complaint fails to plead that either Ms.

Sung or Frazer acted with scienter.

      Under the PSLRA, a plaintiff cannot “plead the requisite scienter element

generally . . . .” Id. at 1238. “In this Circuit, § 10(b) and Rule 10b–5 require a

showing of either an ‘intent to deceive, manipulate, or defraud,’ or ‘severe

recklessness.’” Thompson v. RelationServe Media, Inc., 610 F.3d 628, 634 (11th

Cir. 2010) (quoting Mizzaro, 544 F.3d at 1238). “[T]he complaint shall, with

respect to each act or omission alleged to violate [the Securities Exchange Act],


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state with particularity facts giving rise to a strong inference that the defendant

acted with the required state of mind.” 15 U.S.C. § 78u-4(b)(2)(A). Accordingly,

“[a] complaint will survive [a motion to dismiss] only if a reasonable person would

deem the inference of scienter cogent and at least as compelling as any opposing

inference one could draw from the facts alleged.” Tellabs, Inc. v. Makor Issues &

Rights, Ltd., 551 U.S. 308, 324 (2007). Although we draw any reasonable

inferences available on the face of the complaint in the investors’ favor, we also

must look to “plausible, nonculpable explanations for the defendant’s conduct” in

evaluating an inference of scienter. Id. In determining the relative merit of

opposing inferences, we “must consider the complaint in its entirety . . . .” Id. at

322.

                                         A. Ms. Sung

       We turn first to the investors’ allegation that Ms. Sung confirmed false

reports of Jiangbo’s cash balances in SEC filings and shareholder conference

calls.9 On appeal, the investors assert the following bases for an inference that Ms.

Sung acted with scienter with respect to overstated cash balances: the magnitude

of the overstatements; the internal control problems at Jiangbo that were revealed

in the resignation letter; the existence of an SEC investigation; Ms. Sung’s position

9
  We need only discuss whether there is a strong inference that Ms. Sung acted with scienter
when she overstated Jiangbo’s cash balances. In Part II.A.3, infra, we show that the investors’
failure to plead the timing of the Hilead transaction precludes any inference of scienter that
might have arisen from the transaction.
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as CFO; Ms. Sung’s alleged involvement in obstructing the Audit Committee’s

internal investigation; and Ms. Sung’s resignation effective March 31, 2011.10

       Ms. Sung argues that the opposing inference, that she acted without scienter,

is more compelling in the light of several factors: the absence of particularized

allegations that Ms. Sung actually knew about or was on notice of any alleged

deficiencies in Jiangbo’s reporting; ambiguities and other weaknesses in the

investors’ allegations of incorrect cash balances; Ms. Sung’s residency in Florida,

on a different continent from Jiangbo’s day-to-day operations; Ms. Sung’s

assertion that she resigned for family reasons and her decision to continue working

with Jiangbo as a part-time consultant after her resignation; and the complaint’s

failure to allege that Ms. Sung sold any shares during the class period or otherwise

profited from the alleged fraud.

       From the outset, we note that the investors allege no particularized facts that

directly show Ms. Sung intended to deceive shareholders or knew about or was

severely reckless with respect to deficiencies in reporting. See Thompson, 610

F.3d at 634. The investors offer no allegations describing Ms. Sung’s day-to-day

practices as CFO or identifying any specific misconduct apart from confirming

incorrect cash balances within filings and on conference calls. Instead, the

10
  The investors also assert as a basis for an inference of scienter the fact that Ms. Sung
misrepresented her status as a Certified Public Accountant (“CPA”) in SEC filings. We agree
with the district court that any discrepancy in Ms. Sung’s representation that she was a licensed
CPA is immaterial.
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investors’ theory is essentially that Ms. Sung must have been aware of the

misrepresentations in Jiangbo’s filings, given (1) her role as CFO in a company

plagued with serious fraud and (2) her suspicious actions during Jiangbo’s rapid

decline. We begin our analysis by assessing whether the allegations regarding the

scope of the fraud, in the light of Ms. Sung’s position as CFO, can support a strong

inference of scienter by themselves. Keeping in mind the relative strength of those

allegations, we then turn to whether the allegations that Ms. Sung resigned in the

midst of Jiangbo’s decline and that she participated in the obstruction of the

internal investigation are sufficient to establish a strong inference of scienter.

                  1. Allegations regarding the scope of the fraud

      The investors assert that the alleged fraud was so significant and obvious

that Ms. Sung must have known about it, or else she was severely reckless in

avoiding knowledge of the fraud. First, the investors claim that the disparity

between Jiangbo’s actual and reported cash balances must have been extreme—in

the tens or hundreds of millions of dollars—so that it would have been difficult or

impossible for Ms. Sung not to have known about it in her capacity as CFO. To

support this inference of scienter, the investors continue to rely heavily on their

allegations supporting the underlying inference that Jiangbo’s accounts were

overstated. Those allegations include: the company’s failure to make payments on

debts in amounts that were a small fraction of the stated cash on hand, irregularities


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in payments to auditors and lawyers in similarly small amounts, the overt concern

of the independent board members that cash balances were stated inaccurately, and

the lack of cooperation from Jiangbo’s top management during the internal

investigation.

      Second, the investors allege that a number of red flags should have put Ms.

Sung on notice of the fraud. The investors argue that the existence of the SEC

investigation supports an inference of scienter in two ways: the investigation

should have put Ms. Sung on notice that Jiangbo’s financial reporting required

more of her own scrutiny, and the fact of the investigation itself suggests that the

fraud was significant in its scope. Further, the investors cite the following

deficiencies in Jiangbo’s management of its financial reporting during the class

period that, according to the investors, should have prompted Ms. Sung to look for

and discover the fraud: “(1) weaknesses among the accounting and finance

personnel, (2) dysfunctional internal controls, and (3) inadequate segregation of

duties in the financial reporting function.” Doc. 43 at ¶ 196.

      The investors rely on the two arguments above to establish successive

inferences: that material misrepresentations occurred and that Ms. Sung acted with

scienter in making those representations. While the totality of the allegations may

well be sufficient to support an inference that Jiangbo materially misrepresented its

cash balances, we might still harbor uncertainty about that underlying inference


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when assessing the strength of an inference of scienter. Any “omissions and

ambiguities count against inferring scienter, . . . [and] the court’s job is not to

scrutinize each allegation in isolation but to assess all the allegations holistically.”

Tellabs, 551 U.S. at 326. In a similar vein, this Court has recognized that an

inference of scienter is diluted to the extent it is drawn from multiple predicate

inferences that are each based on the same allegations. See Garfield v. NDC

Health Corp., 466 F.3d 1255, 1265 (11th Cir. 2006).

      Regarding the investors’ first argument, we agree with the district court and

Ms. Sung that several omissions and ambiguities weaken any inference of scienter

to be drawn from the magnitude of alleged overstatements or any red flags. First,

although the investors emphasize the magnitude by which they allege Jiangbo

overstated cash balances, they fail to allege any particular amount or even a range;

they merely assert in their briefs that the actual balances were “extremely limited[]

and nowhere near” the full cash balances reported. Appellants’ Br. at 38. Without

more specifics, the investors cannot persuasively allude to the magnitude of the

fraud as a basis for a strong inference that Ms. Sung must have known of the errors

as CFO. See Mizzaro, 544 F.3d at 1251 (“[W]e have no reliable way of estimating

[the fraud’s] total amount, let alone inferring from the dollar amount the

knowledge of senior management.”).




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      As regards the investors’ second argument, we are not persuaded that the red

flags the investors identify would have made Jiangbo’s fraud obvious to Ms. Sung,

even if we also assume that some overstatement of cash balances occurred, because

the complaint provides no explanation as to how these red flags should have

alerted her to the fraud. Regarding the SEC investigation, the district court

correctly noted that “the [complaint] does not contain any allegations about what

[Ms.] Sung knew about the scope of the investigation[].” In re Jiangbo Pharm.,

Inc., Sec. Litig., 884 F. Supp. 2d 1243, 1263 (S.D. Fla. 2012). The “mere existence

of an SEC investigation” likewise does not equip a reviewing court to explain

which inferences might be available beyond a general suspicion of wrongdoing. In

re Hutchinson Tech., Inc. Sec. Litig., 536 F.3d 952, 962 (8th Cir. 2008). The

investors’ allegations of internal control problems suffer from the same limitation.

With no explanation as to how these vaguely defined problems would have

affected financial reporting or how Ms. Sung would have known about them, we

cannot rely on them to add much weight to an inference of scienter.

      The investors would have us rely solely on Ms. Sung’s position as CFO to

overlook these omissions and ambiguities in the complaint. They cite cases in

which courts recognized a strong inference of scienter based in part on a senior

financial executive’s oversight of the processes that produce the company’s

financial statements. However, those cases involve particularized allegations that


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the executives knew or were severely reckless in disregarding how those processes

were distorted by fraud, and so they do not inform our discussion. See Institutional

Investors Grp. v. Avaya, Inc., 564 F.3d 242, 270 (3d Cir. 2009) (finding a strong

inference that a CFO was at least reckless in endorsing flawed financial projections

because of repeated, focused inquiries from analysts that correctly suggested why

the projections were implausible); Freudenberg v. E*Trade Fin. Corp., 712 F.

Supp. 2d 171, 198-99 (S.D.N.Y. 2010) (finding a strong inference that a CFO acted

with scienter on the basis of allegations that he personally reviewed erroneous loan

valuations, communicated often with other executives and subordinates, and gave

“reassurances” to investors regarding the key issues in the case); In re Friedman’s,

Inc. Sec. Litig., 385 F. Supp. 2d 1345, 1363 (N.D. Ga. 2005) (finding scienter

properly pled where the company’s controller was alleged to have reviewed

incriminating documents personally and made specific choices in pursuit of an

illegal scheme).

      Without more particularized allegations, the investors’ claim that Jiangbo’s

fraud was too large for Ms. Sung not to have noticed is unpersuasive. We now

consider whether the investors’ allegations of Ms. Sung’s suspicious behavior can

fill the gaps in their allegations regarding the scope of the fraud.




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  2. Ms. Sung’s resignation and alleged obstruction of the Audit Committee

      The investors argue that two actions Ms. Sung took during Jiangbo’s decline

are persuasive, if circumstantial, proof of her knowledge of the fraud: her

resignation as CFO and her alleged obstruction of the Audit Committee’s internal

investigation.

      Various courts have recognized that an executive officer’s resignation can

strengthen an inference of scienter when it occurs around the same time as an

investigation. See, e.g., Fouad v. Isilon Sys., Inc., No. C07–1764, 2008 WL

5412397, at *11 (W.D. Wash. Dec. 29, 2008). The investors do not offer any

reason why Ms. Sung’s resignation would be incriminating other than for its

proximity to internal and external investigations, and so they rely on the general

intuition that an officer resigning amid allegations of fraud seeks to disassociate

herself from any appearance of wrongdoing. Ms. Sung argued in her motion to

dismiss that her “family reasons” for resigning and her continued work for Jiangbo

as a consultant after her resignation belie any suggestion that she wanted to

disassociate herself from fraud. Doc. 51 at 29. We find this explanation more

compelling than the investors’ desired inference. Though we do not reflexively

credit Ms. Sung’s assertion that she had family reasons for resigning, the fact that

she continued to work for the company on a part-time basis equally supports a




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nonculpable explanation. Her resignation adds weight to an overall inference of

scienter, but not a substantial amount of weight.

      Regarding the investors’ contention that Ms. Sung demonstrated her

knowledge of the fraud by assisting Mr. Cao in obstructing the Audit Committee’s

internal investigation, we note that obstruction of an investigation supports an

inference of scienter, particularly where defendants affirmatively make efforts to

conceal fraud. See, e.g., Katz v. Image Innovations Holdings, Inc., 542 F. Supp. 2d

269, 274 (S.D.N.Y. 2008). The investors claim that Ms. Sung refused to turn over

materials requested by the Audit Committee because she was waiting for Mr.

Cao’s authorization. While the resignation letter makes clear that she did not grant

the Audit Committee the access it requested, the letter also explains that she

personally prepared the materials for review and preliminarily agreed to turn them

over pending the company’s approval. Doc. 43-1 at 13. Even if she neglected a

prevailing duty to provide her materials to the committee regardless of the

chairman’s wishes, we do not think these facts add much weight to an inference of

scienter, given that she apparently was willing to turn the materials over. The

investors do not allege that she was otherwise unwilling to cooperate or that she

took any steps to conceal documents that might reveal fraud.




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                        3. Timing of the Hilead transaction

      We agree with the district court that the lack of information in the complaint

concerning the timing of the Hilead transaction is fatal to the allegation that it was

a material omission in Jiangbo’s SEC filings. “A defendant’s omission to state a

material fact is proscribed only when the defendant has a duty to disclose.”

Ziemba v. Cascade Int’l, Inc., 256 F.3d 1194, 1206 (11th Cir. 2001) (alteration and

internal quotation marks omitted). The investors contend that Ms. Sung had a

general duty “to promptly disseminate accurate and truthful information” that was

material to the market price of the stock. Doc. 43 at ¶ 80. Similarly, they contend

that Frazer did not exercise “due professional care” in ensuring the accuracy of its

report. Id. at ¶¶ 195-96. Absent any allegation of when the transaction took place,

however, we cannot conclude that Ms. Sung or Frazer violated a duty to disclose

the transaction. Furthermore, even if the lack of factual allegations regarding

timing did not preclude the investors from identifying a duty to disclose with

respect to any given filing, the complaint’s barebones information about the

alleged transaction would be far from sufficient to tie Ms. Sung to the transaction

in any meaningful way. Thus, we do not rely upon the Hilead transaction in

conducting our scienter analysis.




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                                4. Scienter analysis

      To complete our scienter analysis as to Ms. Sung, we must consider her

additional arguments that weigh against an inference of scienter. See Tellabs, 551

U.S. at 324. First, as a resident of Florida, she was not physically present to

observe Jiangbo’s day-to-day operations in China. Second, there is no allegation

that she sold Jiangbo stock during the class period or otherwise profited from the

alleged fraud beyond receiving a salary. In the light of these observations and

those articulated above, we conclude that the complaint does not give rise to a

sufficiently strong inference of scienter as to Ms. Sung. We acknowledge that Ms.

Sung’s resignation and her failure to cooperate fully with the Audit Committee are

grounds for some suspicion, but the investors are hard pressed to explain how this

suspicion is more particularized than the general impression that fraud was taking

place at Jiangbo in some unknown fashion. We also acknowledge that if the

investors’ allegations of overstated cash balances are true, then the investors would

have a strong case that Ms. Sung was negligent not to know about these

discrepancies. The initiation of two investigations suggests that Ms. Sung may

have failed to fulfill basic duties to investors in her capacity as CFO. However,

upon drawing all reasonable inferences in the investors’ favor, we do not think the

complaint establishes that she must have known about discrepancies in reporting or

that she was severely reckless in not knowing about them. The seriousness of


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Jiangbo’s errors and Ms. Sung’s proximity to those errors at most imply

negligence, which is not enough to establish scienter. See Bryant v. Avado Brands,

Inc., 187 F.3d 1271, 1281-82 (11th Cir. 1999).

                                      B. Frazer

      The only basis for the investors’ claim against Frazer is one unqualified

audit opinion dated September 28, 2010 and included in Jiangbo’s report on fiscal

year 2010, ending June 30, 2010. That opinion found Jiangbo to be in conformity

with proper accounting principles for the years 2008, 2009, and 2010. The

investors argue that Frazer should have disclosed any overstatements of cash

balances and material related-party transactions in this report. The arguments in

support of an inference of scienter on Frazer’s part are similar to those levied

against Ms. Sung: (1) as auditor, Frazer would have had direct knowledge of cash

balances and internal control problems; (2) the SEC launched a formal

investigation; and (3) Frazer withdrew from consideration for reappointment

around the same time as Ms. Sung resigned and the SEC investigation began. We

note, however, that the timing of Frazer’s opinion precludes some of the inferences

that the investors seek to draw against Ms. Sung because many of the alleged red

flags in this case appeared later in 2010 and then in 2011, after the opinion was

issued.




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      The district court employed the following standard for evaluating an

inference of scienter as to an external auditor:

      “[Plaintiffs] must prove that the accounting practices were so deficient
      that the audit amounted to no audit at all, or an egregious refusal to
      see the obvious, or to investigate the doubtful, or that the accounting
      judgments which were made were such that no reasonable accountant
      would have made the same decisions if confronted with the same
      facts.”

In re Worlds of Wonder Secs. Litig., 35 F.3d 1407, 1426 (9th Cir. 1994) (quoting

SEC v. Price Waterhouse, 797 F. Supp. 1217, 1240 (S.D.N.Y. 1992)). We think

this standard satisfactorily clarifies the plaintiff’s obligation in such cases, and so

we also employ it. Of course, the complaint must give rise to a strong inference

that the auditor is responsible for such ineptitude or misconduct.

      If the inference of scienter against Ms. Sung is tenuous, then the

corresponding inference against Frazer is even more attenuated. As an external

auditor, Frazer was a step more removed than Ms. Sung from any alleged

indicators of the fraud. See Reiger v. PricewaterhouseCoopers LLP, 117 F. Supp.

2d 1003, 1007-08 (S.D. Cal. 2000) (“[B]ecause an independent accountant often

depends on its client to provide the information base for the audit, it is almost

always more difficult to establish scienter on the part of the accountant than on the

part of its client.”). Moreover, the investors’ allegations of Frazer’s suspicious

behavior are unavailing. Although the investors assert that Frazer resigned, more

accurately, Frazer did not stand for reappointment for the following year. The
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separation in time between Frazer’s unqualified opinion and its withdrawal from

consideration for reappointment further mitigates any inference of scienter that

might arise from the firm’s withdrawal.

      Ultimately, the investors’ allegations against Frazer suffer from the same

overarching deficiency as those against Ms. Sung: they fail to articulate a theory

of the fraud with any particularity. The complaint does not set out in what ways

Frazer’s audit was deficient, there is no allegation that Frazer had extensive

involvement with the company beyond what was required to conduct a single

audit, and there is no connection between the fact of an SEC investigation and

Frazer’s state of mind that a reviewing court may reasonably draw on the face of

the complaint. The complaint might make a strong case for negligence—but again,

negligence is not enough to establish a strong inference of scienter. See Bryant,

187 F.3d at 1281-82. The investors fail to satisfy the heightened pleading standard

as to Frazer.

                                 III.   CONCLUSION

      The investors fail to allege a theory of fraud that is specific enough in its

scope or its connection to Ms. Sung or Frazer to support a strong inference of

scienter. Therefore, we need not address the other elements of a Section 10(b)

violation or the corollary Section 20(a) claim applicable only to Ms. Sung.

Although the allegations against Ms. Sung and Frazer might survive motions to


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dismiss under a less burdensome pleading standard, the PSLRA imposes a high

bar.

       AFFIRMED.




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