On November 13, 1998, the Sixth Appellate District of the California Court of Appeal issued an opinion affirming an order from the Santa Clara County Superior Court which dismissed with prejudice the purported class action entitled Paul Chai, et al. v. Paradigm Technology, Inc. et al. Mr. Chai claimed that, based on various allegedly fraudulent statements issued by a Paradigm officer and two industry analysts who followed Paradigm, he held onto Paradigm stock that he owned during the time period in which the statements were made. He claimed damages for having been induced to hold onto Paradigm stock, thereby passing up opportunities to sell. In addition to suing the company, Mr. Chai sued several company officers and directors.
Mr. Chai’s claims on behalf of himself and the class are contrasted with the prototypical claims of disgruntled purchasers and sellers of stock who usually claim that fraudulent statements caused them to have either purchased stock at a price that was too high or sold at a price that was too low.
The Paradigm Defendants demurred to Mr. Chai’s complaint.
The trial court ultimately sustained Mr. Chai’s demurrer without leave to amend. The trial court found multiple defects in the complaint. Of prime significance, the court found that Mr. Chai’s complaint did not assert a cognizable claim for damages but rather sought to recover for missed opportunities to sell stock at prices which, under Mr. Chai’s theory of the case, would have been artificially inflated by the alleged fraud. The court characterized Mr. Chai’s holder claim as "an allegation that he did not profit as a result of the alleged price inflation." The court further held that Mr. Chai had failed to allege, in violation of Mirkin v. Wasserman, that he actually read or heard any of the alleged misrepresentations. It was in its seminal Mirkin opinion that California Supreme Court outlined the required elements of a cognizable common law fraud claim, such as that asserted by Mr. Chai. Mr. Chai appealed the trial court’s order.
In affirming the trial court’s order sustaining the demurrer, the Court of Appeal found Mr. Chai’s failure to plead actual reliance under the Mirkin standard determinative.
The Court of Appeal decision is significant for two reasons. First, it highlights the difficulty holders of stock have in satisfying the actual reliance standard of Mirkin v. Wasserman; this is significant because a contrary ruling would have encouraged a proliferation of comparable "holder" suits. Second, the Chai decision is the only known California case where a holder claim was rejected by a trial court and affirmed on appeal.