Confidential Witness Confidential

The confidential witness is the bane of the securities defendant’s existence. While there may be some legitimate reasons to keep a witness confidential, the words "Confidential Witness #1" can also hide problems with the plaintiffs’ case, like sloppy research or outright misrepresentation.

How do we know this is the case? Well, many defendants have "Confidential" horror stories, but more importantly, these problems are sometimes revealed in the case proper. Case in point:City of Livonia Employees’ Retirement System v. Boeing Co.  As the Northern District of Illinois puts it in its opinion, the case reads like an airport thriller.

At the center of this drama is the purported confidential source, who had a series of fateful conversations with plaintiffs’ investigators and months later with defense counsel. The confidential source did not meet plaintiffs’ counsel until he was recently deposed, months after plaintiffs’ counsel used information purportedly provided by the confidential source to survive dismissal of this lawsuit. The confidential source now denies the information attributed to him in plaintiffs’ pleadings and in their representations to the court. Plaintiffs assert their confidential source is presently lying, while the confidential source claims it is plaintiffs’ investigators who are the liars.

The case was a traditional securities fraud case. The plaintiffs accused Boeing of lying to is investors about the delivery schedule for the 787 Dreamliner, a much-hyped and heavily-anticipated commercial jet model. In doing so, they relied heavily on information from "confidential witnesses."

The trial court had dismissed plaintiffs’ amended complaint without prejudice, holding that there were not enough facts present to support a "strong inference" of scienter. In particular, it noted that

Plaintiffs’ generalized reliance on confidential source information was insufficient to establish Boeing’s scienter. Allegations by confidential sources are discounted, "usually steeply," because information from anonymous sources is not regarded as compelling or supportive of plausible inferences.

[Emphasis added.]  Nonetheless, the court offered the plaintiffs the chance to replead naming no more than one confidential source for their information about what Boeing knew and when it knew it. Plaintiffs’ second amended complaint contained four paragraphs (139-42) that relied on confidential witness testimony. Boeing moved to dismiss this complaint as well, but the court denied its motion, relying heavily on the four new paragraphs.

So Boeing served discovery asking for the identity of the confidential witness. Then they interviewed him and took his deposition. And what they uncovered was–at least to the court–surprising:

[Former confidential witness] Singh has consistently denied that he was the source of the information attributed to him in the second amended complaint. Indeed, he denies he was employed by Boeing. Rather, he attests he worked for an outside contractor at Boeing starting in late August 2009, months after the events at issue in this suit; he denies personal knowledge of the 787-8 testing documents or their circulation to Boeing executives in April and May 2009; he claims he never met plaintiffs’ counsel until his deposition on November 17, 2010; nor was he ever shown the allegations attributed to him in the second amended complaint until he met with defense counsel on November 2, 2010.

Deposition transcript in hand, Boeing filed for reconsideration on the grounds that plaintiffs had committed a fraud on the court. The plaintiffs opposed, arguing that their confidential witness was the liar, not their investigators. At this point, the trial court threw up its hands:

It matters not whether, as plaintiffs argue, Singh told their investigators the truth, but he is lying now for ulterior motives. The reality is that the informational basis for paragraphs 139-42 is at best unreliable and at worst fraudulent, whether it is Singh or plaintiffs’ investigators who are lying.

Since the key four paragraphs weren’t reliable, the court dismissed the second amended complaint, this time with prejudice.

So what can we learn from this case? First, always chase down the "confidential sources" on which the plaintiffs rely. Once the complaint has been filed, there is no reason for sources in a civil lawsuit to be confidential. Second, take the confidential witness’s deposition. The confidential witness is a way for plaintiffs’ counsel to sidestep the tighter restrictions of the PSLRA without having to do their actual homework. Deposing the witness keeps them accountable.