The never-ending saga of Green Mountain Coffee Roasters (NASDAQ:GMCR) took a twist on Friday, as a federal court judge in Vermont dismissed a wide-ranging class action suit brought against the company.
But this is not such great news for the management of Green Mountain as it seems to be at first blush. The suit can, and probably will, be refiled. (This is not, by the way, the same suit I wrote about a few weeks ago, that was filed against GMCR's underwriters.)
It's worthwhile to dwell a bit on what this suit is all about, why its allegations are significant, and why the suit was dismissed.
It all goes back to September 28, 2010, when the company announced that on September 20, 2010, the Securities and Exchange Commission started an inquiry of Green Mountain Coffee’s revenue accounting practices and its relationship with a certain vendor. That same day, the company announced that it found an accounting error involving K-Cup margins, but it said that error was “immaterial.”
Then, understandably, the suits started flying. On November 19, 2010, came more bad news, such as that the company found more accounting error and had "identified certain material weaknesses in its internal control over financial reporting," and that its CEO and CFO had determined "the Company's disclosure controls and procedures were not effective as of September 25, 2010."
Now, all that I've just described may sound bad, but you have to realize that under the Private Securities Litigation Reform Act of 1995, being naughty is not enough. The law, which was passed with the intent of discouraging class-action suits, accomplished that objective by giving private litigants massive barriers over which they must leap. Complaints in class action suits must specify
...each statement alleged to have been misleading, the reason or reasons why the statement is misleading, and, if an allegation regarding the statement or omission is made on information and belief, the complaint shall state with particularity all facts on which that belief is formed.
The court, in tossing out the complaint, notes that while the third quarter financials indisputably were false, that just wasn't enough. This reflects, I think, more on the absurd legal standards required for class actions than it does on the merits of the case.
For example, the judge's ruling says that "the complaint does not allege that the revelations prompted any change in the terms of the Lavazza deal" - one of the transactions Green Mountain was involved with a the time - "or that either party had second thoughts."
My favorite Green Mountain expert, Sam Antar, points out that:
At the time Green Mountain Coffee closed the Lavazza deal, it improperly disclosed that an accounting error involving K-Cup margins was an 'immaterial' accounting error. If the company had disclosed that the K-Cup margin error was material as opposed to immaterial, it would have been required to report material weaknesses in internal controls and restate its financial reports.
As a matter of fact, he said,
under S.E.C. Staff Accounting Bulletin No. 99, the K-Cup margin error was actually a material accounting error, because it helped the company meet analyst's earning expectations in Q2 of fiscal year 2010.
I guess it just shows that judges aren't accounting experts (not that you would expect them to be). But, to be fair, Sam suggests that the plaintiff's lawyers might not have made as strong a case on the accounting as perhaps they could have.
Well, they get another bite of the apple. Maybe they'll get it right next time. Meanwhile, you have to wonder: Where is the SEC? What's the status of their inquiry? Or is it an investigation?
Inquiring minds want to know. You have to wonder if they're pulling all-nighters as they scrutinize the numbers. If so, I'm sure they're heavily into the caffeine. I have a suggestion as to where they might want to get their coffee, and you can be sure that it isn't a particular Vermont-based company that will go nameless.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.