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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
Current Report
Pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934
Date of Report (Date of earliest event reported):
November 20, 1998
NATIONAL AUTO CREDIT, INC.
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(Exact name of registrant as specified in its charter)
Commission File Number 001-11601
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DELAWARE 34-1816760
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(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
30000 AURORA ROAD, SOLON, OHIO 44139
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code
(440) 349-1000
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Item 5. Other Events
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On December 9, 1998, a consolidated amended class action
lawsuit (the "Action") entitled IN RE NATIONAL AUTO CREDIT, INC. SECURITIES
LITIGATION, Index Number 98CV0264, was filed with the United States District
Court in the Northern District of Ohio, Eastern Division. The Action seeks to
consolidate eleven putative class actions already filed against the same
defendants under the following titles: STEINER V. FRANKINO, ET AL., NO. 1:98 CV
0264; WEISER V. NATIONAL AUTO CREDIT, INC., ET AL., NO. 1:98 CV 0295; DICHTER V.
NATIONAL AUTO CREDIT, INC., ET AL., NO. 1:98 CV 0301; BRETON V. NATIONAL AUTO
CREDIT, INC., ET AL., NO. 1:98 CV 356; SPIRO V. NATIONAL AUTO CREDIT, INC., ET
AL., NO. 1:98 CV 375; DUNNE V. NATIONAL AUTO CREDIT, INC., ET AL., NO. 1:98 CV
406; GAGNON, ET AL. V. NATIONAL AUTO CREDIT, INC., ET AL., NO. 1:98 CV 419;
CHOLFIN V. NATIONAL AUTO CREDIT, INC., ET AL., NO. 1:98 CV 431; IAMES V.
NATIONAL AUTO CREDIT, INC., ET AL., NO. 1:98 CV 457; DAUBACH, ET AL. V. NATIONAL
AUTO CREDIT, INC., ET AL., NO. 1:98 CV 462; POSNER, ET AL. V. NATIONAL AUTO
CREDIT, INC., ET AL., NO. 1:98 CV 714.
The plaintiffs allege that the Registrant and certain of its
former and current Directors and Officers breached Section 10(b) of the
Securities and Exchange Act of 1934, as amended (the "Exchange Act"), Rule 10b-5
thereunder and various other provisions of the Exchange Act by, among other
things, allegedly (i) making public misrepresentations and omissions about
certain aspects of the Registrant's business, including its sales, earnings and
loan loss reserves, and (ii) knowingly failing to comply with generally accepted
auditing standards and maintain adequate internal accounting controls.
The plaintiffs seek (x) a declaration that the Action be
maintained as a class action on behalf of all the plaintiffs, (y) the award to
plaintiffs of compensatory damages in an unspecified amount, and (z) the award
to plaintiffs of attorneys' fees and other costs incurred by them in connection
with the Action. The Company believes the Action to be without merit and intends
to defend it vigorously.
The above summary of the Action does not purport to be
complete and is qualified in its entirety by reference to the full text of the
complaint which is attached hereto and filed as Exhibit 99.1 to this Report and
which is hereby incorporated herein by reference.
On November 19, 1998, the U.S. Securities and Exchange
Commission issued an order granting the previously-announced application of the
New York Stock Exchange, Inc.
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(the "Exchange") to strike the Registrant from listing its common stock on the
Exchange. The delisting order became effective on November 20, 1998. The
Registrant's common stock had been suspended from trading on the Exchange since
March 16, 1998, and has since been trading on the OTC Bulletin Board under the
symbol NAKD.
In July, 1998, the Registrant settled a previously-announced
investigation by the U.S. Department of Labor of certain of its pay practices
related to discontinued Agency Rent-A-Car operations. The total estimated
amount of the settlement is $3.0 million payable in three installments over
nine months. The first installment payment was made on October 31, 1998.
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SIGNATURE
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Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this Current Report on Form 8-K to be
signed on its behalf by the undersigned hereunto duly authorized.
NATIONAL AUTO CREDIT, INC.
By: /s/ DAVIDA S. HOWARD
--------------------
Name: Davida S. Howard
Title: Vice President of Finance-
Controller
Dated: December 28, 1998
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EXHIBIT INDEX
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The following Exhibit is filed herewith.
Exhibit
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Number Description
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99.1 Consolidated Amended Class Action Complaint in an action filed
in the United States District Court in the Northern District
of Ohio, Eastern Division, entitled IN RE NATIONAL AUTO
CREDIT, INC. SECURITIES LITIGATION. Index Number 98CV0264.
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Exhibit 99.1
UNITED STATES DISTRICT COURT
NORTHERN DISTRICT OF OHIO
EASTERN DIVISION
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)
IN RE NATIONAL AUTO CREDIT, INC. ) 1: 98 CV 0264
SECURITIES LITIGATION )
) Chief Judge George W. White
THIS DOCUMENT RELATES TO: )
ALL ACTIONS ) Consolidated Amended
) Class Action Complaint
- ----------------------------------x
Plaintiffs, individually and on behalf of all persons
similarly situated, by their undersigned attorneys, for their consolidated
amended class action complaint, allege upon personal knowledge as to themselves
and there own acts and as to all other matters upon the investigation made by
and through their attorneys, including review of Securities and Exchange
Commission ("SEC") filings, news reports, press releases, and other documents.
Plaintiffs believe that further substantial evidentiary support will exist for
the allegations set forth below after a reasonable opportunity for discovery.
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NATURE OF THE ACTION
--------------------
1. This action is brought to redress violations of the
anti-fraud provisions of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), committed by National Auto Credit, Inc. ("National Auto" or the
"Company"), an automobile finance company, and certain of its officers and
directors, who were involved in a series of misrepresentations about the
adequacy of the Company's credit loss reserves and its underwriting practices.
During the class period (I.E., March 6, 1997 through January 27, 1998), National
Auto had repeatedly told the investing public that, among other things, the
Company maintained sufficient reserves for credit losses, when, in fact, the
Company had insufficient internal controls to determine its credit exposure and
whether it had sufficient reserves to cover any credit losses. Trading in the
Company's stock was suspended on January 20, 1998, when National Auto announced
that its outside auditors, Deloitte & Touche, LLP ("Deloitte & Touche"),
resigned because they could no longer rely on management's representations. When
the Company disclosed the inadequacy of its underwriting practices and loss
provisions, the price of National Auto common stock fell from a class period
high of $11 3/8 per share to $1 3/4 per share immediately after trading in the
Company's stock resumed on January 27, 1998 (the end of the class period).
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JURISDICTION AND VENUE
2. This Court has jurisdiction over the subject matter of this
action pursuant to Section 27 of the Exchange Act, 15 U.S.C. Section 78aa. 3.
The claims asserted herein arise under Section 10(b) of the Exchange Act, 15
U.S.C. Section 78j(b), Rule 10b-5, 17 C.F.R. Section 240.10b-5, promulgated
thereunder by the SEC, and Section 20 of the Exchange Act, 15 U.S.C. Section
78t. 4. Venue is proper in this District pursuant to Section 27 of the Exchange
Act and 28 U.S.C. Section 1391(b). The acts and transactions giving rise to the
violations of law complained of herein, including the preparation and
dissemination to the investing public of materially false and misleading
statements, occurred in this District. Additionally, at all times relevant
hereto, National Auto maintained its principal offices within this District. 5.
In connection with the acts, conduct and other wrongs alleged in this
complaint, defendants, directly and indirectly, used the means and
instrumentalities of interstate commerce, including the mails, telephonic
communications and the facilities of national securities exchanges.
THE PARTIES
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6. Plaintiff William K. Steiner purchased 600 shares of
National Auto common stock on November 17, 1997, at $7 per share, and sold 600
shares of National Auto common stock on December 26, 1997, at $5 11/16 per
share, and sustained damages thereby.
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7. Plaintiffs Lawrence and Karin Gagnon purchased 3,000 shares
of National Auto common stock on June 3, 1997 at $8.50 per share, and 6,000
shares of National Auto common stock on December 16, 1997 at $4.25 per share,
and were damaged thereby.
8. Plaintiff Lawrence Ganon, IRA, purchased 2,000 shares of
National Auto common stock on May 22, 1997, at $8.50 per share, 2,000 shares of
National Auto common stock on November 10, 1997, at $6.9375 per share, and 6,000
shares of National Auto common stock on December 15, 1997, at $5.125 per share,
and was damaged thereby.
9. Plaintiffs William and Andrew Daubach bought 1,000 shares
of National Auto common stock on October 1, 1997, at $7.8125 per share, and were
damaged thereby.
10. Plaintiff John Donoval bought 7,000 shares of National
Auto common stock on July 9, 1997, at $8.375 per share, and was damaged thereby.
11. Plaintiffs, William K. Steiner, Lawrence and Karin Gagnon,
Lawrence Gagnon, IRA, William and Andrew Daubach, and John Donoval are the lead
members of The Steiner Group, which was appointed by the Court as Lead Plaintiff
in this action pursuant to the Private Securities Litigation Reform Act of 1995.
Because the membership of the Steiner Group is too numerous to index, the names
of the Group's other members have not been listed herein. However, these
individuals and entities have already evidenced their intention to serve as a
Lead Plaintiff by executing
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certifications (which have been filed with the Court), and will do so if and
when called upon to so act.
12. (a) Defendant National Auto is a corporation duly
organized and existing under the laws of the State of Delaware with its
principal executive offices located at 30000 Aurora Road, Solon, Ohio 44139.
(b) National Auto provides receivables management,
collection services, and funding for enrolled automobile dealers who in turn
make funds available to consumers with high credit risks. The Company conducts
its financial services business through NAC, Inc., its wholly-owned subsidiary.
According to the Company's annual report for the fiscal year ended January 31,
1997, filed with the SEC on April 24, 1997, on Form 10-K (the "1997 10-K"), NAC,
Inc. works with over 3,300 automobile dealerships throughout the United States.
National Auto exited the short-term rental business in fiscal 1996.
(c) Until January 1998, National Auto common stock was
traded on the New York Stock Exchange ("NYSE") under the symbol "NAK." As of
November 28, 1997, there were 28,547,944 shares of National Auto common stock
outstanding. On March 25, 1998, National Auto's stock began trading on the
NASDAQ Over-The-Counter Bulletin Board. At all times during the class period,
there was an open and efficient market for National Auto common stock.
13. Defendant Sam J. Frankino ("Frankino") had been Chairman
of the Board of the Company since its inception in 1969.
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Frankino also served as Chief Executive Officer from 1969 until 1992 and from
December 1993 until December 1994. At April 18, 1997, Frankino beneficially
owned and had voting control over 55.6% of National Auto's outstanding common
stock. Frankino signed the 1997 Form 10-K. On March 27, 1988, Frankino resigned
from his executive positions with the Company.
14. Defendant Robert J. Bronchetti ("Bronchetti") was
President and Chief Executive Officer of National Auto and had been employed by
the Company since May 1991. He has been a director since 1993. At April 18,
1997, Bronchetti beneficially owned 52,570 shares of National Auto common stock.
On or about March 9, 1998, Bronchetti resigned from his executive positions with
the Company. Bronchetti signed the 1997 10-K and quarterly reports filed with
the SEC on Form 10-Q throughout the class period.
15. Defendant Per E. Hoel ("Hoel") had been a director of the
Company since 1984, and a member of the Audit Committee of the Board. On or
about March 9, 1988, Hoel resigned from the Board. At April 18, 1997, Hoel
beneficially owned 2,200 shares of the Company's common stock. Hoel signed the
1997 Form 10-K.
16. Defendant Noeh T. Herndon ("Herndon") had been a director
of the Company since 1992, and a member of the Audit Committee of the Board. On
or about March 9, 1998, Herndon resigned from the Board. At April 18, 1997,
Herndon beneficially owns 4,400 shares of the Company's common stock. Herndon is
a partner with Brown Brothers Harriman & Co., an investment bank,
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and a creditor of National Auto. Herndon signed the 1997 Form 10-K.
17. Defendant Davida S. Howard ("Howard") is the Chief
Financial Officer of National Auto. Howard signed the 1997 Form 10-K and
quarterly reports on Form 10-Q throughout the class period. At April 18, 1997,
Howard beneficially owned 26,499 shares of National Auto common stock.
18. The individuals identified in paragraphs 13 through 17 are
referred to as the "Individual Defendants".
19. As noted, during the class period, defendants Herndon and
Hoel served as members of the Audit Committee. According to the Company's Proxy
Statement dated April 23, 1997, the Audit Committee is responsible for reviewing
the services provided by the independent auditors retained by the Company,
monitoring the adequacy of the Company's internal accounting controls, and
reviewing the annual financial statements of the Company. During fiscal 1997,
the Audit Committee met twice. As alleged herein, National Auto failed to
maintain adequate internal accounting controls.
a. Section 13(b)(2)(B) of the Exchange Act requires
every issuer that has securities registered pursuant to Section 12 of the
Exchange Act, such as National Auto, to devise and maintain a system of internal
accounting controls sufficient to reasonably assure, among other things, that
transactions are recorded as necessary to permit preparation of financial
statements in conformity with generally accepted accounting principles ("GAAP").
Defendants violated Section 13(b)(2)(B) of
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the Exchange Act by, among other things, failing to maintain the required
internal accounting controls necessary to determine National Auto's credit
exposure and whether it had sufficient reserves to cover any credit losses.
b. Defendants failed to comply with generally
accepted auditing standards, which are also applicable to company management.
Statement on Auditing Standards ("SAS") No. 55, AU Section 319.03, n.1 explains
that management must establish and maintain effective internal controls. These
responsibilities are broad. Thus, management must implement a plan that ensures
the reliability of financial reporting, (b) effectiveness of operations, and
(c) compliance with applicable laws and regulations. Management must
continually ensure that such a plan reduces risk to a reasonable level and
modify it as conditions at the company change.
c. Defendants, and in particular the members of the
Audit Committee, violated SAS 55, paragraph 6, which states, in pertinent part:
Internal control is a process - effected by an entity's board
of directors, management, and other personnel - designed to
provide reasonable assurance regarding the achievement of
objectives in the following categories: (a) reliability of
financial reporting, (b) effectiveness of operations, and (c)
compliance with applicable laws and regulations.
Defendants, and in particular the members of the Audit Committee, violated
paragraph 7 of SAS 55, which provides:
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Internal control consists of the following five interrelated
components: a. Control environment sets the tone of an
organization, influencing the control consciousness of its
people. It is the foundation for all other components of
internal control, providing discipline and structure. b. Risk
assessment is the entity's identification and analysis of
relevant risks to achievement of its objectives, forming a
basis for determining how risks should be managed. . . e.
Monitoring is a process that assesses the quality of internal
control over time.
d. Moreover, defendants, and in particular the
members of the Audit Committee, violated paragraph 37 of SAS 55, which states
that "An important function of management responsibility is to establish and
maintain internal control . . It involves assessing the design and operation of
controls on a timely basis and taking necessary corrective action."
20. Against this background, Hoel and Herndon, as the members
of the Audit Committee, failed to comply with these basic internal accounting
control principles. Indeed, as the Company subsequently revealed, National Auto
had neither the internal control systems nor the management structure in place
to properly assess, among other things, the Company's exposure to credit risks
and, thus, report accurate financial information.
21. It is appropriate to treat the Individual Defendants as a
group for pleading purposes and to presume that the false, misleading, and
incomplete information conveyed in the Company's public filings, press releases,
and other publications as alleged herein are the collective actions of the
narrowly defined group of defendants identified above. Each of the above
officers and/or directors of National Auto, by virtue of their
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high-level positions with the Company, directly participated in the management
of the Company, was directly involved in the day-to-day operations of the
Company at the highest levels and was privy to confidential proprietary
information concerning the Company and its business, operations, business
practices, finances, and financial condition, as alleged herein. Said defendants
were involved in drafting, producing, reviewing and/or disseminating the false
and misleading statements and information alleged herein, were aware (or
recklessly disregarded) that the false and misleading statements were being
issued regarding the Company and approved or ratified these statements, in
violation of the federal securities laws.
22. The Individual Defendants, as officers and/or directors of
the Company had a duty, because of the positions they held, to disseminate
complete, accurate, and truthful information regarding National Auto's business
and operations. The Individual Defendants had a duty to correct promptly any
public statements issued by National Auto that had become false and misleading.
23. The Individual Defendants participated in the drafting,
preparation, and/or approval of the various public reports and other
communications complained of herein and were aware of or recklessly disregarded
the misstatements contained therein and omissions therefrom, and were aware of
their materially false and misleading nature. Because of their Board membership
and/or executive and managerial positions with National Auto, each of the
Individual Defendants had access to
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the adverse, non-public information about National Auto's business practices,
financial condition, and results of operations as particularized herein. The
Individual Defendants knew or recklessly disregarded that these adverse facts
rendered the positive representations made by or about National Auto and its
business, issued or adopted by the Company, materially false and misleading.
24. The Individual Defendants, because of their positions of
control and authority as officers and/or directors of the Company, were able to
and did control the content of the various SEC filings, press releases, and
other public statements pertaining to the Company during the class period. Each
Individual Defendant was provided with copies of the documents alleged herein to
be misleading prior to or shortly after their issuance and/or had the ability
and/or opportunity to prevent their issuance or cause them to be corrected.
Accordingly, each of the Individual Defendants is responsible for the accuracy
of the public reports and releases detailed herein and is primarily liable for
the representations contained herein.
25. Because of their positions, their ability to exercise
power and influence with respect to National Auto's course of conduct, and their
access to material inside information about National Auto, the Individual
Defendants were, at the time of the wrongs alleged herein, controlling persons
of National Auto within the meaning of Section 20(a) of the Exchange Act.
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CLASS ACTION ALLEGATIONS
------------------------
26. Plaintiffs bring this action as a class action pursuant to
Rule 23 of the Federal Rules of Civil Procedure, on behalf of themselves and all
other persons who purchased National Auto common stock (the "Class") during the
period March 6, 1997 through and including January 27, 1998 (the "Class
Period"). Excluded from the Class are the Company, its subsidiaries and
affiliates, the Individual Defendants, members of the immediate families of the
Individual Defendants, and the successors and assigns of any defendant.
27. The action is properly maintainable as a class action
because:
(a) during the Class Period there were more than 28
million shares outstanding. The members of the Class for whose benefit this
action is brought are dispersed throughout the United States and are so numerous
that joinder of all class members is impracticable. Thousands of National Auto
shares were traded publicly during the Class Period. Plaintiffs believe that
there are hundreds, if not thousands, of members of the Class;
(b) plaintiffs' claims are typical of the claims
of the members of the Class and plaintiffs and all members of the Class
sustained damages as a result of defendants' wrongful conduct complained of
herein;
(c) plaintiffs will fairly and adequately
protect the interests of the members of the Class and have retained counsel
competent and experienced in class action litigation.
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Plaintiffs have no interests antagonistic to, or in conflict with, the class
that plaintiffs seek to represent;
(d) a class action is superior to other
available methods for the fair and efficient adjudication of the claims asserted
herein, because joinder of all members is impracticable. Furthermore, because
the damages suffered by individual members of the Class may be relatively small,
the expense and burden of individual litigation make it virtually impossible for
class members to redress the wrongs done to them. The likelihood of individual
class members prosecuting separate claims is remote;
(e) plaintiffs anticipate no unusual difficulties
in the management of this action as a class action; and
(f) the questions of law and fact common to the
members of the Class predominate over any questions affecting individual members
of the Class.
28. The questions of law and fact common to the Class include
whether, among others:
(a) the federal securities laws were violated by
defendants' acts as alleged herein;
(b) the SEC filings issued by the Company during
the Class Period misrepresented and/or omitted material facts about, among other
things, National Auto's underwriting practices and credit loss reserves;
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(c) defendants acted with knowledge or with
reckless disregard for the truth in misrepresenting and/or omitting material
facts;
(d) during the Class Period, the market price of
National Auto common stock was inflated artificially as a result of defendants'
wrongful conduct;
(e) defendants participated in and pursued the
common course of conduct complained of herein; and
(f) the members of the Class have sustained damages
and, if so, what is the proper measure thereof.
FRAUD-ON-THE MARKET ALLEGATIONS
-------------------------------
29. With regard to their allegations arising under Section
10(b) and Rule 10b-5, plaintiffs intend to rely on the fraud-on-the market
doctrine, which assumes the existence of an efficient market for National Auto
securities. In that connection, brokers nationwide have immediate access to
press releases and trading information about National Auto through computer and
news wire systems. These systems display, within minutes of the release or
transaction taking place, pertinent information and the most recent trades and
prices.
30. Plaintiffs will rely, in part, upon the presumption of
reliance established by the fraud-on-the-market doctrine in that:
(a) defendants made public misstatements or failed
to disclose facts during the Class Period;
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(b) the omissions and misrepresentations of fact were
material;
(c) during the Class Period, National Auto met the
requirements for listing, and was listed on the NYSE, a highly efficient and
automated market;
(d) as a public company, National Auto filed periodic
public reports with the SEC;
(e) National Auto trading volume, during the Class
Period, was substantial, thereby reflecting numerous trades each day;
(f) the misrepresentations and/or omissions alleged
herein would tend to induce a reasonable investor to misjudge the value of
National Auto's common stock;
(g) plaintiff and the members of the Class purchased
their common stock during the Class Period without knowledge of the omitted or
misrepresented facts; and
(h) National Auto was followed by various analysts
employed by major brokerage firms, such as Prudential Securities, who wrote
reports that were distributed to the sales force and certain customers of their
respective brokerage firms and which were available to the public through
various automated data retrieval services. Thus, each of these reports was
publicly available and entered the public marketplace.
31. Based upon the foregoing, plaintiffs and the members of
the Class are entitled to a presumption of reliance upon the integrity of the
market for their Section 10(b) claims.
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NO-SAFE HARBOR
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32. The statutory safe harbor provided for forward-looking
statements under certain circumstances does not apply to any of the allegedly
false statements pleaded in this Complaint. The statements alleged to be false
and misleading herein all relate to then-existing facts and conditions. In
addition, to the extent certain of the statements alleged to be false may be
characterized as forward looking, they were not identified as "forward-looking
statements" when made, there was no statement made with respect to any of those
representations forming the basis of this Complaint that actual results "could
differ materially from those projected," and there were no meaningful cautionary
statements identifying important factors that could cause actual results to
differ materially from those in the purportedly forward-looking statements.
Alternatively, to the extent that the statutory safe harbor is intended to apply
to any forward-looking statements pleaded herein, defendants are liable for
those false forward-looking statements because at the time each of those
forward-looking statements was made, the particular speaker had actual knowledge
that the particular forward-looking statement was materially false or
misleading, and/or the forward-looking statement was authorized and/or approved
by an executive officer of National Auto who knew that those statements were
false when made.
SUBSTANTIVE ALLEGATIONS
-----------------------
DEFENDANTS' KNOWLEDGE OF NATIONAL
AUTO'S INADEQUATE CREDIT RESERVES
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33. National Auto is primarily engaged in the business of
providing management, collection services, and funding for
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enrolled automobile dealers, who in turn make funds available to those customers
who have limited access to consumer credit -- the so-called "sub-prime" market.
The Company maintains a network of 3,100 dealers throughout the country.
34. The Company finances consumer installment sale contracts
on behalf of selected automobile dealers pursuant to a financing program.
According to the Company's public filings, the Company individually assesses and
approves consumer installment loan applications provided through its automobile
dealer network. The amount financed to the consumer depends on, among other
things, the credit risk of both the dealer and the ultimate consumer borrower.
The Company retains a security interest in the automobile. The Company advances
a portion of the amount financed to the dealer. The amount retained by the
Company is called a "holdback." The amount of the holdback is determined by the
Company's assessment of the creditworthiness of the dealer and its portfolio of
consumer loans. Holdbacks are not paid until substantially all advances related
to a particular dealer have been recovered. The Company bears the ultimate risk
of losses resulting from defaults on contracts. In the event of a default, the
liquidation proceeds from repossessed vehicles and the holdbacks may not be
sufficient to cover the outstanding contract balance and costs of recovery.
Accordingly, the Company maintains a reserve for credit losses on its
installment contracts. The adequacy of the reserve is dependent, in large part,
on the strength of the credit controls employed by the Company at the time the
installment contracts are assessed.
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35. Prior to the start of the Class Period, defendants were
told by Deloitte & Touche that the Company's internal controls suffered from
material weaknesses such that there were significant deficiencies in the design
or operation of the Company's internal control structure that could adversely
affect the Company's ability to accurately report financial information.
36. In conjunction with the fiscal year ended January 31, 1997
audit of National Auto, Deloitte & Touche reduced its warnings to writing in a
management letter dated on or about March 6, 1997, which it sent to National
Auto's Audit Committee. In the letter, Deloitte & Touche noted that "certain
matters [came to its attention] involving the internal control structure of the
Company [that] related to its . . . loan loss reserves which [Deloitte & Touche]
considered to be reportable conditions under standards established by the
American Institute of Certified Public Accountants" ("AICPA").
37. The "reportable conditions" to which Deloitte & Touche
refers, are material internal control weaknesses. Such control weaknesses are
required to be reported to the Company's Audit Committee under auditing
standards promulgated by the AICPA under Statement on Auditing Standard ("SAS")
No. 78, "Consideration of Internal Control in a Financial Statement Audit,"
which states, INTER ALIA, that:
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During the course of an audit, the auditor may become aware of
matters relating to the internal control structure that may be
of interest to the audit committee. THE MATTERS THAT THIS
STATEMENT REQUIRES FOR REPORTING TO THE AUDIT COMMITTEE ARE
REFERRED TO AS REPORTABLE CONDITIONS. Specifically, these are
matters coming to the auditor's attention that, in his
judgment, should be communicated to the audit committee
BECAUSE THEY REPRESENT SIGNIFICANT DEFICIENCIES IN THE DESIGN
OR OPERATION OF THE INTERNAL CONTROL STRUCTURE, WHICH COULD
ADVERSELY AFFECT THE ORGANIZATION'S ABILITY TO record,
process, summarize, and REPORT FINANCIAL DATA CONSISTENT WITH
THE ASSERTIONS OF MANAGEMENT IN THE FINANCIAL STATEMENTS.
[Emphasis added.]
38. Defendants never disclosed Deloitte & Touche's findings
until after Deloitte & Touche resigned as the Company's outside auditor in the
middle of National Auto's fiscal 1998 audit on January 16, 1998.
DEFENDANTS' MISSTATEMENTS DURING THE CLASS PERIOD
39. Shortly after receiving Deloitte & Touche's deficiency
letter, defendants caused National Auto to announce record sales and earnings
for the fiscal year ended January 31, 1997. On March 11, 1997, the Company
announced a 43% increase in earnings from continuing operations for the fiscal
year:
Revenues from the Company's financing operation reached a
record $63.9 million in fiscal 1997, an increase of 46.9% from
. . . 1996. This is attributable to an increase in the
servicing portfolio from $350 million to approximately $500
million. New loans originating during the year totalled [sic]
over $375 million, up from $300 million in the prior year.
[Defendant Frankino said] that he is extremely pleased with
the results of the financing business which ended the year
with close to $500 million in receivables and 3,100 dealers
enrolled in the financing program. [Defendant Frankino
continued] "OUR STRONG BALANCE SHEET, SIGNIFICANT REVENUE
POSITION AND HISTORICALLY LOW LEVERAGE POSITION GIVES US
CONFIDENCE IN OUR ABILITY TO MEET OUR EXPECTATIONS AS A
SUB-PRIME AUTO LOAN SERVICER." [Emphasis added.]
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The press release contained no cautionary language. It was materially false and
misleading in that defendants knew or were reckless in not knowing that the
Company's credit reserves were grossly understated and that the Company's
internal control structure was not adequate to provide them with any good faith
or reasonable basis to predict National Auto's potential credit exposure and,
thus, its financial prospects.
40. On April 17, 1997, defendants issued another press release
announcing that it had issued $45 million of five year term notes in a private
placement and that it entered into a revolving credit agreement for $97.5
million with two national banks (First National Bank of Chicago and J.P.
Morgan). The Notes were rated "BBB" by Duff & Phelps. In conjunction therewith,
defendants stated the following:
Proceeds from the [debt] will provide [NAC] the funds to meet
the planned growth of its receivable portfolio. [Defendant
Frankino stated] "OUR COMPANY HAS WORKED HARD OVER THE PAST
SEVERAL YEARS TO SUCCESSFULLY DEVELOP OUR FINANCING AND
COLLECTIONS BUSINESS . . . WE BELIEVE THE RESULTING CAPITAL
STRUCTURE LINKS PERFECTLY WITH OUR STRATEGIC GROWTH
OBJECTIVES." [Emphasis added.]
The press release contained no cautionary language. Defendants' statements were
materially false and misleading because they failed to disclose the known
deficiencies in the Company's internal controls. Defendants knew that the
deficiencies cited by Deloitte & Touche significantly impaired the Company's
ability to enroll and service dealers or installment sale customers and to
assess the adequacy of the credit reserves of exiting dealers
-20-
<PAGE> 21
and installment sale customers. Accordingly, defendants had no reasonable or
good faith basis for making these statements.
41. As discussed above, the April 17, 1997 press release
stated that National Auto had replaced its existing revolving credit agreement
with a $97.5 million credit facility. Defendants stated that the new facility
would enable the Company to "meet the planned growth of its receivables
portfolio." The Company's credit facility requires it to meet certain financial
covenants, including a fixed charge coverage ratio, which requires the Company
to maintain a minimum level of profitability. As a result, defendants knew that
any increase in reserves to the levels necessary to adequately cover National
Auto's actual credit exposure would result in a violation of debt covenants,
which customarily results in a lower debt rating.
42. On or about April 17, 1997, National Auto disseminated to
its shareholders its fiscal 1997 Annual Report (the "1997 Annual Report"). The
1997 Annual Report contained a Letter to Shareholders from Frankino and
Bronchetti which discussed the Company's business and operations. In the Letter
to Shareholders, Frankino and Bronchetti falsely and misleadingly portrayed the
credit risk to which the Company was exposed and the means by which defendants
sought to control these risks, stating:
We have remained steadfast in our efforts to skillfully manage
risk by placing greater emphasis on the dealer enrollment and
credit evaluation processes. To assist us in this effort, we
made a significant investment in technology and staffing over
the past year.
The Company continues to move forward in its automation and
use of technology to improve the accuracy and timeliness of
data so dealer portfolios can be more carefully managed. A
Fair, Isaac and Company Credit Evaluations system is in place
to quickly assess credit risk on each loan. Sophisticated bar
code and optical imaging systems support the routing, filing
and retrieval of loan documents. State-of-the-art profile
systems detail each customer's pay history and a predictive
dialing and call management system initiates action for
collections processes. Such efficiencies have all contributed
to help National Auto Credit minimize loan delinquencies and
maximize profitability.
-21-
<PAGE> 22
43. The 1997 Annual Report also falsely and misleadingly
described the Company's receivables management and delinquency rates (which were
much higher than disclosed), stating:
NAC is particularly proud of its capabilities and proven
performance of its collections department. The call management
and predictive dialing system initiates action and helps NAC
maintain more frequent contact with the customers. A
state-of-the-art profile system tracks and details each
customer's payment history so that delinquencies can be more
carefully managed and quickly acted upon.
Experienced credit counselors work with hardship accounts,
presenting options and alternatives regarding repayment of
their respective loan obligation. This proactive work and
sensitivity to marginal credit customers has resulted in more
loans paying to maturity.
Such operating efficiencies, coupled with strength in
collections and receivables management, have enabled National
Auto Credit to continue to HAVE ONE OF THE LOWEST DELINQUENCY
RATES IN THE SUB-PRIME INDUSTRY. [Emphasis added.]
44. The statements referenced in paragraphs 42 and 43 above
were materially false and misleading because:
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<PAGE> 23
a. defendants knowingly or recklessly failed to disclose
that National Auto lacked sufficient and adequate internal financial and
operating controls to enable or permit the Company to accurately record its
revenues, earnings, and income;
b. defendants knowingly or recklessly failed to disclose
that National Auto had materially under-reserved for credit losses on
installment contracts and that, had it maintained proper reserves, the Company
would have been in danger of violating covenants in its lending agreements; and
c. defendants knowingly or recklessly failed to disclose
that, in light of the foregoing, the Company did not have a "strong balance
sheet" and did not have one of the lowest delinquency rates in the industry.
45. On April 24, 1997, defendants caused the Company to file
with the SEC the 1997 Form 10-K. Defendants Frankino, Howard, Hoel, and Herndon,
among others, signed the 1997 Form 10-K. The 1997 Form 10-K repeated the prior
materially false and misleading statements. Under "Results of Operations,"
contained in the Management's Discussion and Analysis" ("MD&A"), defendants
stated:
The 40% portfolio growth from $354 million in the prior year
was accomplished by dealer expansion resulting in new loan
originations of over $377 million . . . In fiscal 1997,
management introduced low cost floor planning for selected
member dealers, expanded its field presence to 31 markets and
initiated the NAC Credit Master Program. Low cost floor
planning has been expanded and GIVES THE COMPANY A COMPETITIVE
EDGE. MANAGEMENT IS PLANNING EXPANSION OF THE FIELD SALES
ORGANIZATION to serve a total of 36 markets over the next
several months . . . [Emphasis added.]
-23-
<PAGE> 24
46. The above-quoted statements were materially false and
misleading because defendants knew or were reckless in not knowing that without
adequate credit controls, as urged by Deloitte & Touche, the Company could not
expand its business profitably.
47. In commenting on the increase in the Company's credit
reserves over the prior fiscal year, defendants put a misleading, but positive
spin on this negative event:
The provision for credit losses was $11.0 million for the year
ended January 31, 1997 as compared to $3.8 million for the
prior year . . . The increases in the provision for credit
losses are attributable to the increase in the size of the
portfolio and the increase in nonperforming contracts . . .
Management continually evaluates these allowances for credit
losses using a variety of criteria to determine their adequacy
. . . The Company believes its loan loss reserves are adequate
to absorb anticipated credit losses, however, since there is
no precise method for accurately determining losses, actual
losses could vary from current estimates.
48. The statements quoted in the preceding paragraph were
materially false and misleading because defendants knew, or were reckless in not
knowing, that the provision for credit losses was materially understated and
that defendants were unable to adequately evaluate National Auto's present and
future credit exposure. In addition, defendants lacked a good faith or
reasonable basis to state that "the Company believed its loan loss reserves were
adequate . . ." Defendants knew that Deloitte & Touche made it very clear that
the Company's internal control
-24-
<PAGE> 25
structure for credit assessment was grossly inadequate. Moreover, defendants
knew, but failed to disclose, that the Company had materially under-reserved for
credit losses on installment contracts and that, had it maintained proper
reserves, it would have been in danger of violating covenants in its lending
agreements.
49. Defendants immediately followed the quote in the preceding
paragraph in the MD&A with additional materially misleading, overly optimistic
statements, which were intended to dispel any negative inference that may be
drawn by the aforementioned increase in credit reserves:
Non-performing loans as a percentage of the gross installment
notes receivable portfolio are expected to increase as the
portfolio matures . . .[T]he NON-PERFORMING PERCENTAGES ARE
CONSIDERED BY THE COMPANY TO BE REASONABLE AND ALSO LOWER THAN
THOSE OF ITS COMPETITORS. THE RISK OF LOSS TO THE COMPANY IS
MITIGATED BY a security interest in the vehicles sold, dealer
holdbacks and loan loss reserves. During the fiscal 1997 year,
the collection staff was increased by approximately 49% . . .
and is expected to increase. Management expects the expansion
of the collection staff to increase customer contacts [sic]
and cash collections. [Emphasis added.]
50. Defendants knew, or were reckless in not knowing, that the
so-called "mitigating" factors were inadequate to offset the harm created by the
Company's failure to have in place adequate credit loss reserves. As alleged
above, defendants knew that Deloitte & Touche made it very clear that the
Company's internal control structure for credit assessment was grossly
inadequate. Thus, defendants had no reasonable basis to make such statements.
-25-
<PAGE> 26
51. Defendants' spin control succeeded. On April 24, 1997, the
price of National Auto common stock closed at $9 3/8 per share, up from its
previous day's close of $9 1/4 per share.
52. on June 3, 1997, National Auto announced over the BUSINESS
WIRE, its financial results for the first fiscal quarter of 1998, ended April
30, 1998. Earnings per share fell to $0.17 per share from $0.22 per share for
the comparable 1997 fiscal quarter. In the Company's press release, Frankino,
positively stated: "[National Auto] is continuing to focus on building its
network of Credit Master(R) dealers. We are, at the same time, increasing our
reserves to ensure the company's long-term profitability."
53. Defendants' statements, in particular Frankino's, were
false and materially misleading because defendants knew, or were reckless in not
knowing, that National Auto's credit reserves were materially understated
(despite the minuscule quarterly increase, as explained below) and that they had
no adequate means to assess potential credit exposure. In addition, had the
Company been adequately reserved to reflect the laxity in its internal controls,
earnings would have been materially lower.
54. On June 3, 1997, the price of National Auto stock closed
at $8 1/2 per share, down a full point from the previous day. However, this drop
was short lived, as defendants quickly engaged in damage control.
55. On June 9, 1997, CRAIN'S CLEVELAND BUSINESS reported that
the Company's investor relations department was stating that the increase in the
reserves for the first fiscal
-26-
<PAGE> 27
quarter was, in part, due to industry-wide causes, and "part of a plan by the
company to raise its credit loss reserves to 27.5% of its principal outstanding
by the end of its current fiscal year to 30% by fiscal year 2000 . . ." In an
attempt to instill investor confidence, defendants stated: "We're not going to
crumble like Jayhawk [a competitor that had recently filed for Chapter 11],
we're going to be conservative." These statements were not labeled
"forward-looking" nor followed by any cautionary language. They were materially
false and misleading because as of April 30, 1997, the credit reserve ratio
(I.E., reserves divided by installment notes receivable) was already 27.2%. This
ratio indicated that, when holding the installment receivables balance constant,
the Company anticipated recording only an additional .03%, or $1.3 million in
receivables, by 1998 fiscal year-end. Defendants knew, or were reckless in not
knowing, that such an estimate was not based in fact because of the Company's
grossly inadequate internal controls. Thus, defendants were unable, and lacked
any reasonable basis, to assess National Auto's present or future credit
exposure. Not unsurprisingly, on June 9, 1997, the price of National Auto stock
closed at $9 1/8 per share, up from the previous day's close of $8 7/8 per
share, and back near its pre-June 3, 1997 price of $9 3/8 per share.
56. On June 12, 1997, the Individual Defendants caused the
Company to file with the SEC on Form 10-Q its quarterly report for the fiscal
quarter ended April 30, 1997. Defendants Bronchetti and Howard signed the
quarterly report. In the MD&A, defendants made false and misleading statements
about the
-27-
<PAGE> 28
Company's financial condition, including: "THE COMPANY ANTICIPATES FURTHER
INCREASES IN REVENUE AND EARNINGS consistent with the planned growth in the
receivables portfolio to around $600 million by the end of this fiscal year."
(Emphasis added.) No cautionary language accompanied this statement. The
statement was materially false and misleading because defendants knew, or were
reckless in not knowing, that there could be no increase in earnings when
National Auto's credit reserves were materially understated and its deficiencies
in internal controls relating to credit worthiness prohibited defendants from
assessing future profitability.
57. As discussed below in paragraph 106, defendants also
falsely stated that the Company's consolidated financial statements were
prepared in conformity with GAAP:
The unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting
principles for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-K.
Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles
for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have
been included.
58. Shortly after the first 1998 fiscal quarter results were
announced in June 1997, certain of the Individual Defendants as well as other
Company insiders, disposed of thousands of shares of their National Auto
holdings:
-28-
<PAGE> 29
INSIDER SALES
-------------
<TABLE>
<CAPTION>
INSIDER SHARES DATE PRICE PROCEEDS
<S> <C> <C> <C> <C>
Anderson 1,800 June 18 9.00 $16,200
Anderson 1,000 June 19 9.25 $ 9,250
Murrow 1,100 June 18 9.00 $ 9,900
Murrow 1,000 June 19 9.25 $ 9,250
Bronchetti 3,000 June 13 9.00 $27,750
Bronchetti 1,200 June 19 9.13 $10,956
Bronchetti 8,000 June 19 9.25 $74,000
Smith 1,100 June 18 9.00 $ 9,900
Smith 1,000 June 19 9.00 $ 9,000
Smith 1,000 June 19 9.00 $ 9,000
Howard 3,100 June 19 9.13 $28,303
Borys 400 June 18 8.88 $ 3,552
</TABLE>
59. On September 9, 1997, defendants announced National Auto's
financial results for the fiscal 1998 second quarter ended July 31, 1997. For
the quarter, earnings per share dropped dramatically compared to the same period
in the prior year. For the quarter, National Auto reported earnings per share of
$0.13 per share, compared to $0.23 per share (before a loss of $0.05 per share
for discontinued operations), in the same fiscal quarter of the prior year.
Despite the decline in earnings, Frankino positively stated: "We are very
pleased by the growth of the sub-prime market and the related opportunities to
increase our portfolio. Increasing the holdback and deficiency fund helps ensure
the Company's long-term profitability." Defendants offered no statement
explaining how increasing dealer holdbacks and the deficiency fund would ensure
profitability. In fact,
-29-
<PAGE> 30
defendants knew, or were reckless in not knowing, that National Auto's credit
reserves were materially understated and the Company's internal control
structure was materially inadequate to assess how the deficiency in credit
reserves would impact the Company's financial condition.
60. In addition, although Frankino spoke of an increase to
National Auto's credit reserves by means of an increase in its holdbacks, the
ratio of reserves to installment receivables principal outstanding of 27.4% at
July 31, 1997 was little changed from the previous quarter of 27.3%.
61. Defendants also announced in the September 9, 1997 press
release that "The Board of Directors has decided to retain the services of an
investment banking firm to assist the Company in examining strategic
alternatives available to [National Auto]." It was revealed later on October 7,
1997 that the investment banking firm was J.P. Morgan Securities, of which Board
member Brown is an officer. Commenting on the retention of J.P. Morgan, Frankino
stated, "I fully support the Board's decision to examine its alternatives to
maximize shareholder value."
62. National Auto's stock price reacted positively to the
September 9 press release, and closed at $8 7/16 per share up 1/16th from the
previous day's close.
63. On September 12, 1997, the Individual Defendants caused
the Company to file with the SEC its quarterly report on Form 10-Q for the
fiscal quarter ended July 31, 1997. Defendants Bronchetti and Howard signed the
quarterly report. In the MD&A,
-30-
<PAGE> 31
defendants repeated their positive statements about National Auto's financial
condition without attaching any cautionary language: "The Company anticipates
future planned growth in the receivables portfolio to approximate $550 million
by the end of this fiscal year." Although the MD&A went on to report that the
provision for credit losses had increased over the prior comparable quarter, and
that "Non-performing installment notes receivable are expected to continue to
increase throughout the remainder of fiscal 1998," defendants maintained that,
"The Company believes its loan loss reserves are adequate to absorb anticipated
credit losses. . ." These statements were materially false and misleading,
because defendants knew, or were reckless in not knowing, that the Company's
credit reserves were materially understated and that the internal control
structure in place was inadequate to assess the impact of such on future
prospects.
64. As discussed below in paragraph 106, defendants also
falsely stated that the Company's consolidated financial statements were
prepared in conformity with GAAP:
The unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting
principles for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles
for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have
been included.
-31-
<PAGE> 32
65. On December 15, 1997, the Company issued a press release
reporting its results for the fiscal third quarter ended October 31, 1997.
Although revenues for the quarter were reported to have increased by more than
$1.4 million over the comparable year's third fiscal quarter, the Company
reported a staggering loss of $18.4 million for the quarter, and a $9.9 million
loss for the nine months ended October 31, 1997. The overwhelming contributing
factor to this loss was the provision for credit losses of $41.7 million. The
total provision recorded for the fiscal year-to-date (i.e., the nine months
ended October 31, 1997) was purportedly $57.6 million. The ratio of credit
reserves to installment receivables principal was 33.8% as of October 31, 1997,
greatly surpassing the previously announced estimates for the full 1998 fiscal
year of 27.5%, and even the target for the year 2000 of 30%.
66. The December 15, 1997 press release stated that:
THE INCREASE [IN THE RESERVES] IS PRIMARILY DUE TO THE
RECORDING OF AMOUNTS TO REFLECT THE RESULTS OF THE COMPANY'S
EVALUATION OF THE COLLECTABILITY OF ITS PORTFOLIO utilizing
enhanced static pool information applied on a dealer-by-dealer
basis . . . BASED UPON DATA COLLECTED FROM THE ENHANCED STATIC
POOL INFORMATION, THE COMPANY HAS ESTABLISHED PORTFOLIO
COLLECTION STANDARDS FOR ALL DEALERS. Dealers falling below
these standards have been eliminated from the program. To date
229 dealers have been deleted, accounting for approximately
12% of the contract volume during the past six months.
[Emphasis added.]
67. Frankino characterized these events as extraordinary
initiatives taken by defendants to improve future profitability, rather than an
admission that defendants had
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<PAGE> 33
intentionally misled the public as to the Company's results of operations and
financial condition in prior press releases and public filings. Frankino stated
to this effect: "Consistent with recent updates in industry reporting, [National
Auto] has taken certain strategic initiatives to identify and eliminate
unprofitable dealers in order to devote its efforts to pursuing growth
opportunities while maximizing shareholder value." This statement was materially
false and misleading because defendants knew, or were reckless in not knowing,
that prior period reserve amounts were materially understated and that the
Company never had any internal control structure in place to adequately assess
credit exposure. Indeed, defendants knew that the initiatives taken were either
insufficient or not responsive to the problems identified by Deloitte & Touche
in its March 6, 1997 letter. Accordingly, defendants lacked a good faith or a
reasonable basis for making the foregoing statement.
68. Defendants also revealed in the December 15, 1997 press
release and National Auto's quarterly report on Form 10-Q filed with the SEC for
the third fiscal quarter ended October 31, 1997, that the Company had obtained
waivers from certain of its lenders because it was in breach of the fixed charge
ratio covenants of these loan agreements. Again, attempting to diffuse the
impact of this bad news, Frankino stated:
[T]he Company is in the process of reducing its bank debt and
plans to satisfy its bank debt by August 1998. Under its
credit agreements, the Company must be in compliance with a
fixed charge coverage covenant in the agreements related to
its borrowings. The Company reported that it has obtained
waivers from its banks and holders of senior notes with
respect to this fixed charge coverage covenant.
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<PAGE> 34
69. This statement was materially false and misleading, as
defendants knew, or were reckless in not knowing, that the waivers would be in
effect only for a short period of time, and that the Company had no reasonable
prospects to comply with the debt covenants by the end of the waiver period.
70. National Auto's stock price declined on these results
ending the day on heavy volume at $4 7/8 per share, down $1 1/16 per share,
almost 18%, from its previous day's close of $5 5/16 per share.
THE TRUTH IS REVEALED
- ---------------------
71. On January 20, 1998, defendants announced that Deloitte &
Touche resigned as National Auto's independent auditors. On that date, trading
in National Auto stock was suspended, and was not reopened until January 27,
1998. The closing price on the immediately preceding trading day, January 16,
1998, was $5 11/16 per share.
72. In the January 20, 1958 press release, defendants
stated:
[DELOITTE & TOUCHE] ADVISED THE COMPANY THAT INFORMATION HAD
COME TO ITS ATTENTION THAT LET IT NO LONGER BE ABLE [SIC] TO
RELY ON MANAGEMENT'S REPRESENTATIONS. . . The [Board] has . .
. appointed a special committee of the Board consisting of the
Company's outside directors to investigate these matters. In
an effort to facilitate the investigation, [Defendants
Bronchetti and Frankino] have temporarily delegated executive
responsibilities to the special committee. [Emphasis added.]
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<PAGE> 35
Defendants Hoel, Herndon, and non-defendant Brown were appointed to serve on the
Special Committee.
73. On January 21, 1998, the Individual Defendant caused the
Company to file with the SEC on Form 8-K, and pursuant to SEC Rule S-K, Item
304(a), the purported reasons for Deloitte & Touche's resignation. Defendants
stated:
On January 12, 1998, representatives of [Deloitte & Touche]
advised [Defendants Bronchetti and Frankino] . . . that
[DELOITTE & TOUCHE] HAD BEEN ADVISED BY CURRENT AND FORMER
EMPLOYEES OF POTENTIALLY IMPROPER ACTIVITIES THAT MAY AFFECT
[NAC'S] FINANCIAL ACCOUNTING RECORDS . . . [DELOITTE & TOUCHE]
HAD PREVIOUSLY COMMUNICATED TO [THE DEFENDANTS] IN A LETTER
DATED MARCH 6, 1997 CERTAIN MATTERS INVOLVING THE INTERNAL
CONTROL STRUCTURE OF THE COMPANY RELATED TO ITS SELF-INSURANCE
CLAIMS LIABILITY AND LOAN LOSS RESERVES which [Deloitte &
Touche] considered to be reportable conditions under standards
established by the [AICPA]. [Emphasis added.]
74. On January 27, 1998 (the end of the Class Period),
defendants issued a press release stating that "although year end results are
not available, THE COMPANY CURRENTLY EXPECTS TO SUBSTANTIALLY INCREASE THE SIZE
OF ITS LOAN LOSS RESERVE FOR FISCAL 1998." (Emphasis added.) In regard to its
loan defaults, defendants revealed that:
[T]he Company believes that an increase in the reserve could
place the Company in default of its loan covenants when it
reports its fiscal year-end results. The Company has not yet
had discussions with its lenders about this potential default
and cannot predict the outcome of those discussions.
75. On February 5, 1998, National Auto reported that it had
reached an agreement with its lenders to defer certain
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<PAGE> 36
principal payments due under its credit agreements. The payments, which were
originally due January 21, 1998, and extended until February 5, 1998, were
further extended until at least March 6, 1998.
76. On February 19, 1998, the Company announced over the PR
NEWSWIRE that the Special Committee retained Grant Thorton, LLP ("Grant
Thorton") as National Auto's new independent auditor. Grant Thorton had been
engaged "in connection with the audit of National Auto's financial statements as
of January 31, 1998."
77. On February 23, 1998, National Auto announced that
Frankino lost his bid for reinstatement as Chairman of the Company.
[A]t a special meeting of the Board of Directors of National
Auto Credit, Inc., held on February 21, 1998, the Board by a 4
to 4 vote declined to reinstate Sam Frankino as Chairman of
the Company, and to make him interim Chief Executive Officer
and Chief Operating Officer. The day before the meeting, Mr.
Frankino, as the Company's majority shareholder, had filled
three purported vacancies on the Board with his own nominees,
namely, John A. Gleason, Jim McNamara and William Marshall.
Hunter Brown, Noah Herndon and Per Hoel, the three outside
directors who were already in office, voted against
reinstatement, as did Robert J. Bronchetti, who is on leave of
absence as the Company's Chief Executive Officer and
President.
78. On March 6, 1998, National Auto announced that its
creditors agreed to extend payments on the Company's debt by ten days. The March
6, 1998 press release also stated that:
National Auto Credit confirmed that only two people, John A.
Gleason and Jim McNamara, were validly named directors by
majority shareholder Sam J. Frankino, and that there was no
vacancy available for the appointment of William Marshall as
an eighth director.
* * *
Frankino had sought reinstatement after outside directors were
named as a special committee to INVESTIGATE INFORMATION
PROVIDED BY FORMER AUDITORS DELOITTE & TOUCHE LLP ABOUT
POSSIBLE ACCOUNTING IRREGULARITIES. [Emphasis added.]
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<PAGE> 37
79. On March 9, 1998, the Company announced that Bronchetti
resigned as the Company's President and Chief Executive Officer. The Company
named Edward T. Anderson as interim President and Chief Executive Officer. The
Company also announced a new composition of the special committee -- John
Gleason, James McNamara, and William Marshall who replaced the former members.
The former committee members resigned "following the issuance of the committee's
report, stating that the committee had fulfilled its obligations pursuant to a
prior grant of authority." The new audit committee consisted of McNamara and
Marshall. The new compensation committee was comprised of all three members of
the new special committee.
80. On March 10, 1998, the Company filed with the SEC on Form
8-K the resignation letters of defendants Herndon, Hoel, and non-defendant
Brown, all former directors and members of the Special Committee. The letters
read almost identically, stating in part that there "was substantial competent
evidence indicating" that management could not be relied upon:
The [Special Committee] report found there was substantial
competent evidence indicating that D&T's position [i.e., that
it could no longer rely on management's representations] was
well founded and appropriate . . .
* * *
At a Special Meeting of the Board of Directors held on March
9, 1998, the three members of the Special Committee proposed
that, in order to restore the Company's credibility and
thereby preserve its viability, the Board should request
resignations of Sam Frankino, Chairman, and Robert J.
Bronchetti, President, and should also request Mr. Frankino,
the Company's majority shareholder, to place his shares in a
voting trust. The four remaining directors, Mr. Frankino, Mr.
Bronchetti, John Gleason and Jim MacNamara, voted against
adoption of resolutions to this effect.
* * *
I resigned as a director at the conclusion of the Special
Meeting. I did so in the belief that, under the circumstances
now presented, I could no longer function effectively.
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<PAGE> 38
The obvious conclusion to be drawn was that, as alleged, National Auto's
internal controls were deficient, defendants knew about the problems,
represented that they would be rectified, but did nothing in response.
81. On March 12, 1998, THE CLEVELAND PLAIN DEALER reported on
the purported reasons why Herndon and Hoel resigned from the Special Committee.
Trading in National Auto Credit Inc. shares was halted for a
second day yesterday after the troubled company's chief
executive officer and two board members resigned.
* * *
The two resigned after "certain recommendations proposed by
[them] were voted against by the board of directors, which
cited its concerns regarding the foundation for the
committee's report and the priority of its recommendations,"
the company said.
* * *
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<PAGE> 39
"Our report said that [Chairman Sam J.] Frankino and
Bronchetti should step aside", Herndon told Bloomberg News in
an interview. "Our report said that Deloitte was right."
Herndon is a partner at Brown Brothers Harriman & Co. and ran
its Boston office until a year ago. "We did our job and were
voted out," Herndon said, "so that's all we can do."
* * *
The Company's stock last traded Monday at $1.94 on the New
York Stock Exchange. Trading was halted after the stock
exchange requested additional information . . .
82. On March 14, 1998, THE CLEVELAND PLAIN DEALER provided
more insight into Frankino's attempt to be reinstated as Chairman:
Two weeks ago, Frankino appointed three new directors when
there were vacancies for only two. He then orchestrated a vote
to have himself reinstated. However, Bronchetti sided with the
three outside directors and blocked the move in a 4-4 vote.
* * *
Last week, the outside directors completed their report, which
recommended the removal of both Frankino and Bronchetti. This
time Bronchetti sided with Frankino, and the board voted to
reject the findings. The three outside directors resigned
Monday and sent a letter to the company outlining their policy
disagreements.
* * *
National Auto Credit apparently ignored the [NYSE's] request
to provide more information about the findings of the special
board committee. The committee was made up of consultant Per
E. Hoel and investment bankers Noah T. Herndon and J. Hunter
Brown. All three men declined to comment.
83. On Friday, March 16, 1998, the DOW JONES NEWSWIRE reported
that the NYSE intended to continue its suspension of the
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Company's stock and apply to the SEC to delist the stock. The NYSE "attributed
its actions to a series of disclosures made by National Auto Credit . . . dating
to Jan. 20." The Dow Jones release also reported that:
Three outside directors comprising the special committee
resigned following the special committee's release of its
report. The Board voted against certain recommendations
proposed by the special committee. . . The NYSE said that, at
any time, [it] may suspend a security if it believes continued
dealings in the security on the exchange are not advisable.
84. Also on March 16, 1998, the Company issued a press release
announcing that on March 11, 1998, the Company received notice that the SEC had
issued a formal order of private investigation of the Company. The March 16,
1998 press release discussed some of the disagreements between the Board and the
original Special Committee.
Each of the former directors, J. Hunter Brown, Noah T. Herndon
and Per E. Hoel, issued resignation letters dated March 10,
1998. The resignation letters state in part that "[a]t a
Special Meeting of the Board of Directors held March 9, 1998,
the three members of the Special Committee proposed that, in
order to restore the Company's credibility and thereby
preserve its viability, the Board should request the
resignation of Sam Frankino, Chairman, and Robert J.
Bronchetti, President, and should also request Mr. Frankino,
the Company's majority shareholder, to place his shares in a
voting trust. The four remaining directors, Mr. Frankino, Mr.
Bronchetti, [Mr.] John Gleason and [Mr.] James McNamara, voted
against adoption of resolutions to this effect." Based upon
information available to them, a majority of the directors
questioned the foundation and appropriateness of certain of
the recommendations made by the former Special Committee.
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85. As trading in the Company's stock was suspended pending
the NYSE application to delist it, on March 25, 1998, the Company announced its
new trading symbol, "NAKD". The Company's stock was now traded on the NASDAQ
"pink sheets."
86. On March 27, 1998, Frankino officially resigned as
Chairman and Chief Executive Officer of National Auto effective March 31, 1998.
87. THE CLEVELAND PLAIN DEALER reported on March 28, 1998,
that:
Jonathan Kingsepp, a bond analyst with Duff & Phelps Credit
Rating Co. in Chicago, said Frankino's retirement is a bad
omen for investors hoping that the auditors at Deloitte &
Touche were mistaken. "Based upon his timing, there is
probably some truth to the allegations by the auditors, and
he's being forced out," said Kingsepp, whose firm formerly
rated National Auto Credit's debt.
88. On May 1, 1998, the due date of the Company's January 31,
1998 annual report on Form 10-K, National Auto announced that it would be unable
to file the Form 10-K "because the external audit of its financial statements
ha[d] not yet been completed." The May 1, 1998 press release also stated:
As part of its current audit process, the Company in
conjunction with its independent accountants (Grant Thorton)
is evaluating the sufficiency of its loan loss reserves and
the methodologies utilized in the recognition of income
through a comprehensive analysis of its historical portfolio
performance. While the amount of any increase in loan loss
reserves cannot be quantified at this time, it is expected
that it will be material.
89. On June 2, 1998, the Company announced that it had hired a
new interim chief executive officer, Thomas W. Cross
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("Cross"), a principal with Jay Alix & Associates of Detroit, who had been
working as an advisor to management.
90. On July 7, 1998, the Company announced that it repaid 38%
or $31.6 million of its outstanding debt as of January 21, 1998. The Company
also stated that the remainder of the debt was subject to weekly repayments of
$1 million through September 30, 1998. Cross added, "With current outstanding
debt of $52.2 million, NAC is exploring and evaluating refinancing options in
advance of the debt maturity date of September 30, 1998."
91. On September 11, 1998, the Dow Jones NewsWire reported
that the Chief Executive Officer of Ugly Duckling Corp. ("Ugly Duckling"),
Ernest C. Garcia II ("Garcia"), had a 7.39% investment in the Company's stock.
Ugly Duckling operates a chain of used car dealerships and underwrites,
finances, and services installment contracts.
92. On October 1, 1998, the Company argued before a committee
of the board of directors of the NYSE against the NYSE's application to delist
National Auto's stock.
93. On October 6, 1998, the Company issued the following
statements through a press release:
National Auto Credit, Inc. (NAKD) reached an agreement in
principle with its lenders to extend the maturity date of
amounts outstanding under credit agreements to April 30, 1999,
from Sept. [sic] 30, 1998. The original deadline was Jan. 21,
1998 . . . . National Auto said its loan obligations currently
total about $40.4 million. * * *
Under the extension, it has agreed to make a principal payment
of $5 million and weekly payments of $1 million principal and
interest at the prime rate plus 2% through Nov. 30, 1998, and
$750,000 weekly thereafter. The agreement also gives the
lender group a secured interest in National Auto's receivable
portfolio.
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94. On October 7, 1998, the NYSE advised the Company that a
committee of its board of directors unanimously determined to delist the
Company's securities. The NYSE cited the events since January 20, 1998, as
released by the Company, for the reasons to delist the stock, stating:
The specified events fall within certain of the Rule 499
standards, including conduct not in keeping with sound public
policy and an event that makes further dealing and listing of
the securities on the Exchange inadvisable or unwarranted. In
addition, it is the opinion of the Exchange that the Company
and its management have engaged in operations which are
contrary to the public interest.
95. On October 28, 1998, the Company announced that Grant
Thorton was engaged not only to audit the Company's financial statements for
fiscal 1998, but also National Auto's financial statements for the fiscal years
ended 1997 and 1999:
National Auto Credit, Inc. (OTC Bulletin Board: NAKD)
announced today that its Special Committee of the Board of
Directors has engaged Grant Thorton, LLP, the Company's
independent auditors to conduct audits of its financial
statements for the years ended January 31, 1997 and 1999. Upon
completion of these audits and in conjunction with the
completion of the fiscal year ended January 31, 1998 audit,
which has been substantially completed, the Company would then
be able to file an Annual Report on Form 10-K, with the [SEC],
which would include the required audited financial statements
for the three years ending January 31, 1999. This filing is
tentatively scheduled to occur in April, 1999.
96. On November 11, 1998, National Auto announced that it had
paid off substantially all of its outstanding lender debt
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totaling approximately $34.9 million. The November 11, 1998 press release stated
that "The Company was able to make this payment utilizing a portion of a $46.7
million federal income tax refund which was received on November 9, 1998."
97. On November 19, 1998, the SEC granted the NYSE's
application to strike from listing and registration National Auto's common
stock.
98. On November 23, 1998, National Auto's acting president,
Edward T. Anderson resigned, effective immediately, for "personal reasons."
Cross assumed his responsibilities.
VIOLATIONS OF GENERALLY ACCEPTED
ACCOUNTING PRINCIPALS ("GAAP")
- --------------------------------
99. During the Class Period, defendants materially misled the
investing public, thereby inflating the price of National Auto securities, by
publicly issuing false and misleading statements and omitting to disclose
material facts necessary to make defendants' statements, as set forth herein,
not false and misleading. Said statements and omissions were materially false
and misleading in that they failed to disclose material adverse information and
misrepresented the truth about the Company, its financial performance,
accounting, reporting and financial condition in violation of GAAP.
100. GAAP consists of those principles recognized by the
accounting profession as the conventions, rules, and procedures necessary to
define accepted accounting practice at the particular time. Regulation S-X, to
which National Auto is subject as a registrant under the Exchange Act, 17 C.F.R.
Section 210.
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4-01(a)(1), provides that financial statements filed with the SEC, which are not
prepared in compliance with GAAP, are presumed to be misleading and inaccurate.
101. SEC Rule 13a-13 requires issuers to file quarterly
reports. SEC Rule 12b-20 requires that periodic reports contain such further
information as is necessary to make the required statements, in light of the
circumstances under which they are made, not misleading. In addition, Item 303
of Regulation S-K requires that, for interim periods, the MD&A must include,
among other things, a discussion of any material changes in the registrant's
results of operations with respect to the most recent fiscal year-to-date period
for which an income statement is provided. Instructions to Item 303 require that
this discussion identify any significant elements of the registrant's income or
loss from continuing operations that do not arise from or are not necessarily
representative of the registrant's ongoing business.
102. Item 303(a)(2)(ii) to Regulation S-K requires the
following discussion in the MD&A of a company's publicly filed reports with the
SEC:
Describe any known trends or uncertainties that have had or
that the registrant reasonably expects will have a material
favorable or unfavorable impact on net sales or revenues or
income from continuing operations. If the registrant knows of
events that will cause a material change in the relationship
between costs and revenues (such as known future increases in
costs of labor or materials or price increases or inventory
adjustments), the change in relationship shall be disclosed.
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103. Paragraph 3 of the Instructions to Item 303 states in
relevant part:
The discussion and analysis shall focus specifically on
material events and uncertainties known to management that
would cause reported financial information not to be
necessarily indicative of future operating results or of
future financial condition. This would include descriptions
and amounts of (A) matters that would have an impact on future
operations and have not had an impact in the past . . .
104. GAAP requires the recognition of a provision for
non-collectible receivables and an associated allowance as evidenced by the
following authoritative accounting literature:
(a) Accounting Principles Board Opinion No. 10 paragraph
12 which states: "The Board . . . believes that
revenues should ordinarily be accounted for at the
time a transaction is completed, with appropriate
provision for uncollectible accounts."
(b) Accounting Principles Board Opinion No. 10 footnote 8
which states: "The Board recognizes that there are
cases where receivables are collectible over an
extended period of time and, because of the terms of
the transaction or other conditions, there is no
reasonable basis for estimating the degree of
collectibility. When such circumstances exist, and as
long as they exist, either the installment method or
the cost recovery method of accounting may be used."
(c) Accounting Principles Board Opinion No. 12 which
states (in paragraphs 2 and 3) the following: "It is
generally accepted that accumulated allowances . . .
and asset valuation allowances for losses such as
those on receivables. . . should be deducted from the
assets to which they relate."
"It is the Board's opinion that such allowances
should be deducted from the assets or groups of
assets to which the allowances relate, with
appropriate disclosure."
(d) Statement of Financial Accounting Standards No. 5
which states (in paragraph 22): "Losses from
uncollectible receivables shall be accrued . . . even
though the particular receivables that are
uncollectible may not be identifiable."
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(e) Statements of Financial Accounting Standards No. 5
which states (in paragraph 23): "Inability to make a
reasonable estimate of the amount of the loss from
uncollectible receivables . . . precludes accrual and
may, if there is significant uncertainty as to the
cost recovery method, or some other method of revenue
recognition be used."
105. The GAAP requirement for recognition of an adequate
provision for non-collectible receivables and an associated allowance applies to
interim financial statements as required by Accounting Principles Board Opinion
No. 28. This authoritative pronouncement states (paragraph 17) that:
The amounts of certain costs and expenses are
frequently subjected to year-end adjustments even
though they can be reasonably approximated at interim
dates. To the extent possible such adjustments should
be estimated and the estimated costs and expenses
assigned to interim periods so that the interim
periods bear a reasonable portion of the anticipated
annual amount. Examples of such items include . . .
allowance for uncollectible accounts . . .
106. The Company's financial statements contained in the 1997
Form 10-K and quarterly reports filed with the SEC on Forms 10-Q for the
quarterly periods ended April 30, 1997, July 31, 1997, and October 31, 1997,
violated the following GAAP, among others:
a. The principle that financial reporting should provide
information about the economic resources of an
enterprise, the claims to those resources, and the
effects of transactions, events and circumstances
that change resources and claims to those resources
was violated (FASB Statement of Concepts No. 1,
Section 40);
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b. The principle that financial reporting should provide
information about how management of an enterprise has
discharged its stewardship responsibility to owners
(stockholders) for the use of enterprise resources
entrusted to it was violated. To the extent that
management offers securities of the enterprise to the
public, it voluntarily accepts wider responsibilities
for accountability to prospective investors and to
the public in general (FASB Statement of Concepts No.
1, Section 50);
c. The principle that financial reporting should provide
information about an enterprise's financial
performance during a period was violated. Investors
and creditors often use information about the past to
help in assessing the prospects of an enterprise.
Thus, although investment and credit decisions
reflect investors' expectations about future
enterprise performance, those expectations are
commonly based at least partly on evaluations of past
enterprise performance (FASB Statement of Concepts
No. 1, Section 42);
d. The principle of completeness, which means that
nothing is left out of the information that may be
necessary to ensure that it validly represents
underlying events and conditions, was violated (FASB
Statement of Concepts No. 2, Section 79);
e. The principle that revenues should ordinarily be
accounted for at the time a transaction is complete,
with appropriate provision for uncollectible
accounts, was violated (APB Opinion No. 10
paragraph);
f. The principle that revenues and gains generally are
not recognized until realized or realizable, and
revenues are considered to have been earned when the
entity has substantially accomplished what it must do
to be entitled to the benefits represented by the
revenues was violated. (Statement of Financial
Accounting Concepts No. 5, Paragraph 83);
g. The principle that the quality of reliability and, in
particular, of representational faithfulness leaves
no room for accounting representations that
subordinate substance to form was violated.
(Statement of Financial Accounting Concepts No. 2,
Paragraph 160);
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h. The principle that losses be accrued for when a loss
contingency exists was violated. (Statement of
Financial Accounting Standards No. 5, Accounting for
Contingencies paragraph 8);
i. The principle that if no accrual is made for a loss
contingency disclosure of the contingency shall be
made when there is at least a reasonable possibility
that a loss or an additional loss may have been
incurred was violated. (Statement of Financial
Accounting Standards No. 5, Accounting for
Contingencies paragraph 10);
j. The principle that asset valuation allowances for
losses should be deducted from the assets or groups
of assets to which they relate with appropriate
disclosure, was violated. (APB Opinion No. 12,
paragraphs 2 and 3);
k. The principle that financial statements should
disclose information about various components of
earnings and comprehensive income was violated.
(Statement of Financial Accounting Concepts No. 2,
Paragraph 31);
1. The principle that financial reporting should provide
information that is useful to present and potential
investors and creditors and other users in making
rational investment, credit and similar decisions was
violated (FASB Statement of Concepts No.
1);
m. The principle that financial reporting should be
reliable and that it represents what it purports to
represent was violated. That information should be
reliable as well as relevant to a notion that is
central to accounting (FASB Statement of Concepts No.
2);
n. The principle that conservatism be used as a prudent
reaction to uncertainty to try to ensure that
uncertainties and risks inherent in business
situations are adequately considered was violated.
(FASB Statement of Concepts);
o. The financial statements of the Company were not
presented "fairly" in conformity with GAAP because
(AU Section 411) the financial statements, including
the related notes, are not informative of matters
that affected their use, understanding, and
interpretation, and because the financial statements
do not reflect the underlying events and transactions
in a manner that presents the financial position and
the results of operations within a range of
acceptable limits that were reasonable and
practicable to attain in financial statements.
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107. In addition, during the Class Period defendants violated
SEC disclosure rules:
(a) Defendants failed to disclose the existence of
known trends, events or uncertainties that it reasonably
expected would have a material unfavorable impact on net
revenues or income or that were reasonably likely to result in
the Company's liquidity decreasing in a material way, in
violation of Item 303 of Regulation S-K under the federal
securities laws (17 C.F.R. 229.303), and that failure to
disclose rendered the statements that were made during the
Class Period materially false and misleading; and
(b) by failing to file financial statements with the
SEC which conformed to the requirements of GAAP, such
financial statements were presumptively misleading and
inaccurate pursuant to Regulation S-X, 17 CFR 210.4-01(a)(1).
108. The Company was required to disclose, in its financial
statements, the existence of the material facts described herein and to
appropriately recognize and report assets, revenues, and expenses in conformity
with GAAP. The Company failed to make such disclosures and to account for and to
report its financial statements in conformity with GAAP.
109. Due to the Company's pervasive mosaic of material
omissions, materially misleading disclosures, deceptive disclosures, and
non-GAAP accounting, the Form 10-K and Forms 10-Q, (and the financial statements
contained therein), which defendants caused to be filed with the SEC during the
Class Period, were materially false and misleading.
110. Defendants knew, or were reckless in not knowing, the
facts which indicated that the fiscal 1998 and all of the
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Company's interim financial statements, press releases, public statements, and
filings with the SEC, which were disseminated to the investing public during the
Class Period, were materially false and misleading for the reasons set forth
herein.
111. Had the true financial position and results of operations
of the Company been disclosed during the Class period, National Auto's common
stock would have traded at prices well below that which it did.
ADDITIONAL SCIENTER ALLEGATIONS
-------------------------------
112. As alleged herein, defendants acted with scienter in that
they knew or recklessly disregarded that the public documents and statements
issued or disseminated in the name of the Company were materially false and
misleading; knew or recklessly disregarded that such statements or documents
would be issued or disseminated to the investing public; and knowingly
participated in the issuance or dissemination of such statements or documents as
primary violators of the federal securities laws.
113. As set forth elsewhere herein in detail, the Individual
Defendants, by virtue of their receipt of information reflecting the true facts
regarding the Company and/or their control over the Company, which made them
privy to confidential proprietary information, participated in the fraudulent
scheme alleged herein. With respect to non-forward-looking statements and/or
omissions, defendants knew and/or recklessly disregarded the falsity and
misleading nature of the information which they caused to be disseminated to the
investing public.
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<PAGE> 52
114. The Individual Defendants engaged in such a scheme and
course of conduct to inflate the price of National Auto common stock in order
to: (i) comply with the debt covenants in the Company's credit facilities and
(ii) profit from the sale of the Company's common stock at artificially inflated
prices.
115. The Individual Defendants had the opportunity to commit
and participate in the wrongful conduct complained of herein. Each is, or was, a
senior executive officer of National Auto and, accordingly, controlled the
information disseminated to the investing public in National Auto's press
releases, SEC filings, and communications with analysts. Thus, each could
falsify, and did falsify, the information that reached the public about National
Auto's financial condition, results of operations and future prospects.
116. While defendants were issuing false and misleading
statements about National Auto's operations, and concealing or obscuring
negative information and known trends, defendants Bronchetti and Howard, and
other insiders, who had access to confidential information and were each aware
of the truth about the adverse facts regarding the Company, were benefitting
from the illegal course of conduct described in this Complaint by selling
National Auto stock without disclosing the material adverse facts about the
Company to which they were privy. As alleged herein, these corporate insiders
sold in excess of 21,000 shares of National Auto Stock for proceeds of more than
$97,000.
117. Further, defendants were motivated to conceal the
inadequate condition of the Company's internal controls, and did
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so, because National Auto was in the process of negotiating a new $97.5 million
credit line and selling $45 million of debt in a private offering. Had the true
condition of the Company's operations been known, those transactions would
likely have not been completed on their favorable terms, if at all.
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<PAGE> 54
COUNT I
-------
(AGAINST ALL DEFENDANTS FOR VIOLATIONS OF
SECTIONS 10(B) OF THE EXCHANGE ACT
AND SEC RULE 10B-5 PROMULGATED THEREUNDER)
------------------------------------------
118. Plaintiffs repeat and reallege all of the preceding
paragraphs, as if set forth fully herein.
119. During the Class Period, defendants materially misled the
investing public, thereby inflating the price of National Auto stock, by
publicly issuing false and misleading statements and omitting to disclose
material facts necessary to make defendants' statements, as set forth herein,
not false and misleading. Said statements and omissions were materially false
and misleading in that they failed to disclose material adverse information and
misrepresented the truth about the Company, its business, finances, and
operations, including, INTER ALIA that:
(a) the Company's financial statements were not prepared
in accordance with GAAP which and in accordance with the federal securities laws
and SEC regulations concerning fair reporting;
(b) the Company's reserves for credit losses were
inadequate at all relevant times;
(c) the Company falsely overstated its financial
condition, and materially overstated income and earnings per share;
(d) the Company had violated GAAP and its own accounting
policies by improperly recording income and earnings;
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<PAGE> 55
(e) the rapid and aggressive growth of the Company's
credit base together with the diminished credit quality of its customer base
would and did lead to increased rates of delinquencies and resulting losses that
caused a deterioration in the overall performance of the Company's credit
portfolio;
(f) the Company's seeming growth was the result of
fictitious and improper accounting entries; and
(g) the Company's estimates, projections, and opinions
as to its expected revenues, earnings, income and value of its stock were
lacking in reasonable basis at all relevant times.
120. Defendants as the senior officers and/or directors of the
Company, had actual knowledge or acted in reckless disregard of the
misrepresentations concerning the underwriting guidelines and reserve levels
during the Class Period. At least by virtue of their positions within the
Company and their accounting and finance background, defendants also knew or
recklessly disregarded that the Company's provision for credit losses was
materially understated and that, accordingly, the Company's representations
about the adequacy of the provision for credit losses in its public filings with
the SEC and in its press releases throughout the Class Period were false and
misleading.
121. As a result of the above-described acts, defendants,
severally and in concert, directly and indirectly, by use of the means and
instrumentalities of interstate commerce, violated Section 10(b) of the Exchange
Act and Rule l0b-5 promulgated thereunder in that they knowingly or recklessly
(a)
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<PAGE> 56
employed devices schemes and artifices to defraud; (b) made untrue
statements of material facts or omitted to state material facts necessary in
order to make the statements made, in light of the circumstances in which they
were made, not misleading; or (c) engaged in acts, practices and a course of
business that operated as a fraud or deceit upon plaintiffs and the Class in
connection with their purchases of the Company's common stock.
122. As a result of the deceptive practices and false
statements described herein, the market price of the Company's common stock was
inflated artificially throughout the Class Period.
123. Plaintiffs and the Class, relying on the integrity of the
market and/or defendants' misrepresentations, purchased National Auto common
stock during the Class Period at artificially inflated prices. Had plaintiffs
and the Class known the truth concerning the misrepresented and/or omitted facts
described herein, they would not have purchased the National Auto common stock
at the prices that were paid, if at all. At the time of the purchases by
plaintiff and the members of the Class, the true value of National Auto common
stock was substantially less than the prices paid by plaintiffs and the Class.
Accordingly, plaintiffs and the members of the Class have been damaged as a
result of defendants' wrongdoing.
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<PAGE> 57
COUNT II
--------
(PURSUANT TO SECTION 20 (A) OF THE
EXCHANGE ACT AGAINST THE INDIVIDUAL DEFENDANTS)
-----------------------------------------------
124. Plaintiffs repeat and reallege each of the foregoing
paragraphs as if fully set forth herein.
125. This claim is brought against the Individual Defendants.
126. The Individual Defendants acted as controlling persons of
National Auto within the meaning of Section 20(a) of the Exchange Act as alleged
herein. By virtue of their high-level positions, participation in and/or
awareness of the Company's operations and/or intimate knowledge of the Company's
financial condition, operations, production cycles, and products, the Individual
Defendants had the power to influence and control and did influence and control,
directly or indirectly, the decision-making of the Company, including the
content and dissemination of the various statements that plaintiffs contend are
false and misleading. The Individual Defendants were provided with or had
unlimited access to copies of the Company's reports, press releases, public
filings, and other statements alleged by plaintiffs to be misleading prior to
and/or shortly after these statements were issued and had the ability to prevent
the issuance of the statements or cause the statements to be corrected.
127. As set forth above, defendants violated Section 10(b) and
Rule 10b-5 by their acts and omissions as alleged in this Complaint. By virtue
of their positions as controlling
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<PAGE> 58
persons, the Individual Defendants are liable pursuant to Section 20(a) of the
Exchange Act. As a direct and proximate result of defendants' wrongful conduct,
plaintiffs and the other members of the Class suffered damages in connection
with their purchases of the Company's securities during the Class Period.
WHEREFORE, plaintiffs on behalf of themselves and the Class
pray for judgment as follows:
A. declaring this action to be a proper class
action maintainable pursuant to Rule 23 of the Federal Rules of Civil Procedure
and plaintiffs to be proper class representatives;
B. awarding plaintiffs and the Class compensatory
damages, together with appropriate prejudgment interest at the maximum rate
allowable by law;
C. awarding plaintiffs and the Class their costs and
expenses for this litigation, including reasonable attorneys' fees and other
disbursements; and
D. awarding plaintiffs and the Class such other and
further relief as may be just and proper under the circumstances.
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<PAGE> 59
TRIAL BY JURY IS HEREBY DEMANDED AS TO ALL ISSUES SO TRIABLE.
Dated: December 9, 1998
MCCARTHY, LEBIT, CRYSTAL &
HAIMAN CO., L.P.A.
/s/ James E. Burns
--------------------------------
Mark B. Cohn (0027878)
Daniel R. McCarthy (0007111)
James E. Burns (0037330)
1800 Midland Building
101 Prospect Avenue West
Cleveland, OH 44115
(216) 696-1422
LIAISON COUNSEL FOR PLAINTIFFS
AND THE CLASS
WECHSLER HARWOOD HALEBIAN
& FEFFER LLP
Robert I. Harwood
Jeffrey M. Haber
Frederick W. Gerkens, III
488 Madison Avenue, 8th Floor
New York, NY 10022
(212) 935-7400
LEAD COUNSEL FOR PLAINTIFFS AND
THE CLASS
BARRACK, RODOS & BACINE
Sheldon L. Albert
Leslie B. Molder
3300 Two Commerce Square
2001 Market Street
Philadelphia, PA 19103
(215) 963-0600
GOODKIND LABATON RUDOFF
& SUCHAROW LLP
Jonathan M. Plasse
Emily C. Komlossy
100 Park Avenue
New York, NY 10017
(212) 907-0700
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<PAGE> 60
SUSMAN & WATKINS
Charles R. Watkins, Jr.
Robert J. Emanuel
Two First National Plaza,
Suite 600
Chicago, IL 60603
(312) 346-3446
EXECUTIVE COMMITTEE MEMBERS FOR
PLAINTIFFS AND THE CLASS
BERGER & MONTAGUE, P.C.
Stanley R. Wolfe
1622 Locust Street
Philadelphia, PA 19103
Telephone: (215) 875-3000
BERNSTEIN, LIEBHARD & LIFSHITZ
Mel E. Lifshitz
274 Madison Avenue
New York, NY 10016
(212) 779-1414
GILMAN & PASTOR, L.L.P.
Peter A. Lagorio
Edward L. Manchur
One Boston Place, 28th Floor
Boston, MA 02108
Telephone: (617) 589-3750
GOODMAN, WEISS, MILLER
Richard S. Mitchell
Steven J. Miller
100 Erieview Plaza, 27th Floor
Cleveland, OH 44114
Telephone: (216) 696-3366
HANZMAN CRIDEN KORGE & CHAYKIN
200 S. Biscayne Boulevard
Suite 2100
Miami, FL 33131
Telephone: (305) 579-1222
KAUFMAN & CUMBERLAND
Frank R. DeSantis
1500 Republic Building
25 Prospect Avenue West
Cleveland, OH 44115
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<PAGE> 61
The Law Office of
Leo W. Desmond
Leo W. Desmond
2161 Palm Beach Lakes Boulevard
Suite 204
West Palm Beach, FL 33409
Telephone: (561) 712-8000
LOWEY DANNENBERG BEMPORAD &
SELINGER, P.C.
One North Lexington Avenue
White Plains, NY 10601
(914) 997-0500
MILBERG WEISS BERSHAD HYNES
& LERACH LLP
Steven G. Schulman
Samuel H. Rudman
One Pennsylvania Plaza
New York, NY 10119
Telephone: (212) 594-5300
MURRAY & MURRAY CO.
Dennis E. Murray, Jr.
111 East Shoreline Drive
P.O. Box 19
Sandusky, OH 44871
Telephone: (419) 624-3000
RABIN & PECKEL, LLP
Brian Murray
275 Madison Avenue
New York, NY 10016
Telephone: (212) 682-1818
SCHIFFRIN CRAIG & BARROWAY LLP
Andrew L. Barroway
Three Bala Plaza East,
Ste. 400
Bala Cynwyd, PA 19004
Telephone: (610) 667-7706
STARR & HOLMAN LLP
Zachary A. Starr
David Bergenfeld
10 East 40th Street
New York, NY 10016
Telephone: (212) 684-6442
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STRAUSS & TROY
Richard S. Wayne
William K. Flynn
2100 Central Trust Center
201 East Fifth Street
Cincinnati, OH 45202
Telephone: (513) 621-2121
STULL, STULL & BRODY
Jules Brody
Six East 45th Street
New York, NY 10017
Telephone: (212) 687-7230
WEISS & YOURMAN
Joseph H. Weiss
Joseph D. Cohen
Jack I. Zwirck
555 Fifth Avenue, Ste. 1600
New York, NY 10176
Telephone: (212) 682-3025
WEISMAN, GOLDBERG & WEISMAN
Co., L.P.A.
Robert E. Kennedy
Mark T. Gibbons
1600 Midland Bldg.
101 Prospect Avenue West
Cleveland, OH 44115
Telephone: (216) 781-1111
WOLF POPPER LLP
Marian P. Rosner
Robert C. Finkel
Suzanne R. Elovic
845 Third Avenue
New York, NY 10022
Telephone: (212) 759-4600
ATTORNEYS FOR PLAINTIFFS
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