EDNY Dismisses Claims Against Organic Food Company Accused of Improper ‘Channel Stuffing’

Skadden, Arps, Slate, Meagher & Flom LLP

In re Hain Celestial Grp. Inc. Sec. Litig., 2:16-cv-04581 (ADS)(SIL)(E.D.N.Y. Mar. 29, 2019)

Judge Arthur D. Spatt dismissed claims brought by a putative class of stockholders against an organic food company and certain of its officers and directors alleging that they violated Sections 10(b) and 20(a) of the Securities Exchange Act by making false and misleading statements concerning their inventory and revenues by engaging in the practice of “channel stuffing,” i.e., “intentionally oversupplying distributors with products in order to artificially inflate sales and revenue.” The plaintiffs alleged that the company engaged in illegal channel stuffing by (1) shipping extra inventory to distributors with financial incentives, (2) offering discounts to distributors for accepting extra products beyond their needs, and (3) offering distributors an absolute right to return the products. The plaintiffs further alleged that the company failed to disclose that they were classifying inventory forced onto distributors as revenue, even though the distributors were not paying for the products and had an absolute right of return the products the next quarter. In support of their allegations, the plaintiffs adduced statements from six confidential witnesses (CWs) who worked at the company throughout the relevant time period.

The court determined that the CWs’ allegations regarding the distributors’ rights of return were neither sufficiently specific nor supported with specific reports or evidence, and thus the plaintiffs did not allege sufficient facts in support of their contention that the company engaged in a fraudulent channel stuffing scheme. The court noted that the U.S. Supreme Court, in Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 321 (2007), established that there are forms of legitimate channel stuffing (e.g., offering customers discounts) and illegitimate channel stuffing (e.g., writing orders for unrequested products). The court determined that the plaintiffs “have not alleged sufficient facts in support” of their claim that the defendants “engaged in illegitimate channel stuffing.”

This summary can be found in the June 2019 issue of Inside the Courts.