United States District Court, S.D. New York
IN RE MAGNUM HUNTER RESOURCES CORPORATION SECURITIES LITIGATION
[Copyrighted Material Omitted]
[Copyrighted Material Omitted]
[Copyrighted Material Omitted]
For Mary Pappas, The ILNAF Trust, Lead Plaintiffs: Edward H. Glenn, Jr., Zamansky & Associates, L.L.C., New York, NY.
For Edward Paige, Lead Plaintiff: Stephen Douglas Bunch, LEAD ATTORNEY, Cohen Milstein Sellers & Toll PLLC (DC), Washington, DC; Steven Jeffrey Toll, LEAD ATTORNEY, PRO HAC VICE, Cohen Milstein Sellers & Toll PLLC (DC), Washington, DC; Michael Benjamin Eisenkraft, Cohen Milstein Sellers & Toll P.L.L.C., New York, NY.
For Anthony Rosian, Individually and on behlaf of all others similarly situated, Plaintiff: Brian Philip Murray, Glancy Binkow & Goldberg LLP, New York, NY; Casey Edwards Sadler, Glancy Binkow & Goldberg LLP, Los Angeles, CA; Gregory Bradley Linkh, Glancy Binkow & Goldberg LLP (NYC2), New York, NY; Howard G. Smith, Smith & Smith, Bensalem, PA; Lionel Z. Glancy, Robert Vincent Prongay, PRO HAC VICE, Michael M. Goldberg, Glancy & Binkow Goldberg LLP, Los Angeles, CA; Sean M. Handler, Kessler Topaz Meltzer & Check, LLP (PA), Radnor, PA.
For Mike Gretschel, Mark Hinnau, Plaintiffs: Michael Benjamin Eisenkraft, Cohen Milstein Sellers & Toll P.L.L.C., New York, NY.
For Shaun Foster, individually and on behalf of all others similarly situated, Consolidated Plaintiff: Samuel Howard Rudman, Robbins Geller Rudman & Dowd LLP(LI), Melville, NY.
For Teddy Atchley, individually and on behalf of all others similarly situated, Consolidated Plaintiff: Laurence Matthew Rosen, The Rosen Law Firm, P.A. (NYC), New York, NY; Phillip C. Kim, The Rosen Law Firm P.A., New York, NY.
For David Macatte, individually and on behalf of all other persons similarly situated, Consolidated Plaintiff: Jeremy Alan Lieberman, Pomerantz LLP, New York, NY; Lesley Frank Portnoy, Pomerantz Grossman Hufford Dahlstrom & Gross LLP, New York, NY; Marc Ian Gross, Pomerantz Haudek Block Grossman & Gross LLP, New York, NY.
For Tuan Thanh Ly, Movant: Joseph R. Seidman, LEAD ATTORNEY, Bernstein Liebhard, LLP, New York, NY.
For Jason Kelly, Anne Sanders, Darren Sanders, Raymond Sandler, James Carlson, Movants: Stephen John Fearon, Jr, LEAD ATTORNEY, Squitieri & Fearon LLP, New York, NY.
For Next Horizon Group, Movant: Peter George Safirstein, LEAD ATTORNEY, Morgan & Morgan, P.C., New York, NY.
For Delaware County Employees Retirement Fund, Movant: Catherine Pratsinakis, PRO HAC VICE, Chimicles & Tikellis LLP, Haverford, PA; Jeremy Alan Lieberman, Pomerantz LLP, New York, NY; Kimberly M Donaldson Smith, Chimicles & Tikellis LLP, Haverford, PA; Michael Benjamin Eisenkraft, Cohen Milstein Sellers & Toll P.L.L.C., New York, NY.
For Robert D'Agosta, Movant: Jeremy Alan Lieberman, Pomerantz LLP, New York, NY.
For Macomb County Employees' Retirement System, IBEW Local Union No. 58 Annuity Fund, Iron Workers District Council of New England Pension Fund, Movants: David Avi Rosenfeld, Robbins Geller Rudman & Dowd LLP(LI), Melville, NY.
For Magnum Hunter Resources Corporation, Gary C. Evans, Ronald D. Ormand, Fred J. Smith, Jr., H.C. " Kip" Ferguson, III, J. Raleigh Bailes, Sr., Victor G. Carillo, Brad Bynum, Stephen C. Hurley, Joe L. McClaugherty, Steven A. Pfeifer, Jeff Swanson, Defendants: Gerard G. Pecht, PRO HAC VICE, Fulbright & Jaworski L.L.P., Houston, TX; Peter Andrew Stokes, PRO HAC VICE, Fulbright & Jaworski LLP, Austin, TX.
For Credit Suisse Securities (USA) LLC, Citigroup Global Markets Inc., Defendants: Adam Selim Hakki, Daniel Craig Lewis, LEAD ATTORNEYS, New York, NY; Darren Keller Ishmael, Shearman & Sterling LLP (NY), New York, NY.
For David S. Krueger, Consolidated Defendant: Gerard G. Pecht, LEAD ATTORNEY, Fulbright & Jaworski L.L.P., Houston, TX.
For James W. Denny, III, Consolidated Defendant: Peter Andrew Stokes, PRO HAC VICE, Fulbright & Jaworski LLP, Austin, TX.
OPINION & ORDER
KATHERINE B. FORREST, United States District Judge.
Over a relatively short period, Magnum Hunter Resources Corporation (" Magnum Hunter" ) significantly expanded its operations and added to its accounting complexity. Commencing in early 2012--and proceeding in a manner akin to " death by a thousand cuts" --it disclosed certain control deficiencies, accounting issues, certain fixes, more deficiencies and accounting issues, more fixes, and so on. For more than a year this pattern continued; the company's long-time auditor resigned; it filed its Form 10-K late; and it got back on track only in the summer of 2013.
On April 23, 2013, following the resignation of its longtime auditor, the first of what would become several related lawsuits was filed. A consolidated and amended complaint (" CAC" ) was filed on October 7, 2013. The CAC alleges that defendants' disclosures of control deficiencies
and related accounting issues were materially false and misleading in large part by failing to disclose the full extent of Magnum Hunter's issues.
Plaintiffs allege violations of Sections 10(b) and 20(a) of the Securities Exchange Act and Rule 10b-5 promulgated thereunder in connection with Magnum Hunter's statements and omissions in a series of Securities and Exchange Commission (" SEC" ) filings. Plaintiffs also allege violations of Sections 11, 12(a)(2), and 15 of the Securities Act in connection with Magnum Hunter's May 2012 public offering (the " Offering" ).
Defendants have moved to dismiss all claims on the basis that, as to the Section 10 and 20 claims, the allegations are insufficient to support an inference that its statements were not false at the time that they were made; that, even if they were, they were not made with an intent to defraud; and that plaintiffs have failed adequately to plead loss causation. Defendants also claim that the Securities Act statute of limitations bars plaintiffs' Section 11, 12, and 15 claims.
This Court agrees and grants the pending motions. While it is certainly true that the allegations support an inference of the defendant having had serious control deficiencies and accounting issues over an extended period, there is no factual basis in the complaint to infer that, when the company made its statements--which failed to either reveal the full extent of such issues, or simply failed to foretell the future--it was acting with a knowledge of falsity or an intent to defraud.
A. Factual Background
For purposes of this motion, the Court assumes the truth of the following allegations set forth in the consolidated amended complaint (" Compl.," ECF No. 76).
Defendant Magnum Hunter is an oil and gas company engaged in the acquisition, exploration, exploitation, development, and production of crude oil, natural gas, and natural gas liquids in the United States and Canada. (Id. ¶ 2.) The individual named defendants in this action are Magnum Hunter's current and former officers and board members. (Id. ¶ ¶ 22, 25-28, 35-42.) (Together, Magnum Hunter and the individual named defendants are the " Magnum Hunter defendants." ) Plaintiff has also alleged causes of action against Citigroup Global Markets Inc. and Credit Suisse Securities (USA) LLC (" the underwriter defendants" ), which acted as underwriters for shares issued pursuant to an allegedly false and misleading registration statement. (Id. ¶ ¶ 44-45.)
Magnum Hunter grew substantially during 2011 and 2012, increasing its total assets by 470% during fiscal year 2011. (Id. ¶ 3.) Between January 17 and February 29, 2012, the company reported tremendous asset growth, as the company acquired the assets of other companies using money that it raised from offerings of its securities to investors. (Id.) On January 17, 2012, Magnum Hunter issued a press release in which it announced a 235% increase in proved reserves. (Id. ¶ 70.) On January 18 and 19, 2012, Magnum Hunter filed a registration statement and two prospectus supplements for a secondary public offering. (Id. ¶ ¶ 74-76.) On January 30, 2012, the company announced that its January 17 estimate of its total proved reserves had included miscalculations. (Id. ¶ 75.)
During this period, Magnum Hunter relied on audit services provided by Hein & Associates, LLP. (Id. ¶ 77.) On June 1, 2012, the company announced that it " needed a larger accounting firm with
more depth in its professional expertise." (Id. 87.) On July 17, 2012, Magnum Hunter hired PricewaterhouseCoopers LLP (" PwC" ) as its independent auditor for fiscal year 2012. (Id.)
On February 29, 2012, Magnum Hunter filed its Form 10-K for the fiscal year ending December 31, 2011, which was certified pursuant to the Sarbanes-Oxley Act of 2002 (" SOX" ). (Id. ¶ ¶ 77, 78.) In that form, the company stated that its chief executive officer (" CEO" ) and chief financial officer (" CFO" ) had " concluded that the Company's disclosure controls and procedures were effective as of December 31, 2011 to ensure: that information required to be disclosed in the reports it files and submits under the Exchange Act is recorded, processed, summarized and reported." (Id. ¶ 77.)
On May 3, 2012, Magnum Hunter released its first quarter 2012 financial results in a Form 10-Q, also attaching SOX certifications; the company stated that the company's management, including its CEO and CFO, had evaluated its " disclosure controls and procedures" and concluded that they were " effective." (Id. ¶ ¶ 83, 84.) Magnum Hunter stated that information required to be disclosed was " accumulated and communicated to our management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosure." (Id.)
Also on May 3, 2012, the company announced a public offering (" the Offering" ) of 35 million shares of its common stock at $4.50 per share pursuant to the January 18, 2012 prospectus and a May 11, 2012 prospectus supplement. (Id. ¶ 86.) On May 11, 2012, plaintiff DelCo purchased shares in the Offering, although lead plaintiff Edward Paige did not. (See id. p. 79, ¶ 119.) The underwriter defendants were the lead underwriters of the Offering. (Id. ¶ ¶ 44, 45.) Plaintiff allege that the January 18, 2012 Registration Statement and the May 11, 2012 prospectus supplement (collectively, " the Offering Documents" ), were " false and misleading" because they omitted to state that the company (1) lacked sufficient qualified personnel to design and manage an effective control environment, (2) had material weaknesses in its financial reporting process, and (3) lacked adequate internal and financial controls. (Id. ¶ 126.)
According to his Linkedln profile, Fred J. Smith, Jr., the chief accounting officer (" CAO" ) of Magnum Hunter, " inherited various accounting issues . . . and [a] multiple material internal control weaknesses] environment" when he joined the company in October 2012. (Id. ¶ 28.)
Plaintiffs complaint includes statements from nine confidential witnesses (" CW" ) who are former Magnum Hunter accountants. (See id. ¶ ¶ 48-69.) CWs 1, 4, and 6 stated that the company failed to implement adequate internal controls, specifically regarding the company's acquisition of another company (" NGAS" ) and regarding joint interest billing (" JIB" ) accounting. (Id. ¶ ¶ 51, 52, 54, 62, 64, 66.) CWs 1, 2, 4, 5, 8, and 9 stated that Magnum Hunter had certain staffing deficiencies and inadequate experience; for example, the company's controller only had six months of controller experience and was insufficiently trained, the accounting staff did not communicate effectively, there was insufficient training, and there were too few staff members. (Id. ¶ ¶ 49, 54, 62, 64, 68, 69.) No confidential witness asserts that any of the named individual defendants had personal knowledge of accounting problems.
CW 3, an engineering technician who facilitated the reporting of daily oil production levels, stated that defendant Ferguson requested that CW 3 change production numbers so that wells' production levels looked more consistent over time and surpassed
the expected performance curve. (Id. ¶ ¶ 60, 61.) On August 12, 2012, Ferguson told investors that Magnum Hunter's wells were " clearly exceeding the . . . decline curve that we are projecting." (Id. ¶ 92.) On October 22, 2012, Ferguson stated that the company had added about a 20% increase over its average initial production for its wells. (Id. ¶ 97.)
Between October 2012 and April 2013, Magnum Hunter announced certain accounting errors. On October 22, 2012, the company filed a Form 8-K in which it stated that, on October 12, it had " discovered an inadvertent error in the calculation of non-cash share-based compensation" in the company's second quarter 2012 10-Q. (Id. ¶ 95.) The Form 8-K related that Magnum Hunter's " disclosure controls and procedures were not effective due to a material weakness in the accounting for share-based compensation expense." (Id.) However, the form also stated that " [n]ew procedures and controls [were] being implemented to ensure that information required to be disclosed . . . [was] recorded, processed, summarized, and reported," and that the company would use " new and more experienced personnel to review share-based compensation expense" and implement " software to track such expenses in order to further strengthen this internal control." (Id. ¶ 95.) In October 2012, Magnum Hunter restated its second quarter 2012 financial results and increased its quarterly loss reported by nearly $4 million. (Id. ¶ 6.)
On November 9, 2012, the company filed a Notification of Late Filing on Form 12b-25 stating that it was " working diligently" on a restatement of its financial statements for prior periods, including " evaluating identified control deficiencies and the closing and reporting process." (Id. ¶ 102.)
On November 14, 2012, Magnum Hunter filed a restated second quarter 2012 Form 10-Q identifying several other calculation and accounting errors, including errors with respect to the accounting treatment of a March 2012 financing transaction for the sale of equity in a subsidiary, Eureka Hunter Holdings, LLC. (Id. ¶ 105.) This restatement increased the company's net loss attributable to common shareholders for the first half of 2012 by approximately $6.2 million, which was 3.7% of the company's $167.4 million net loss for all of 2012. (See Stokes Decl. Ex. A, at 6-7; Ex. B, at F-12, ECF No. 105-2.)
In the restated 10-Q, Magnum Hunter stated that it continued to " implement measures designed to improve [its] internal controls" and was " realigning the responsibilities and accountability in the financial reporting process." (Compl. ¶ 105.) The November 14 restated 10-Q also identified three internal control " material weaknesses" : (1) the lack of sufficient personnel with the appropriate level of accounting experience; (2) the lack of effective controls over period-end financial reporting; and (3) the lack of effective controls over share-based compensation expenses. (Id.) The company further acknowledged that its " disclosure controls and procedures were not effective," which " could result in misstatements that would result in a material misstatement of the consolidated financial statements in a future annual or interim period that would not be prevented or detected." (Id.)
To address these problems, Magnum Hunter disclosed " Remediation Plans" to " continue to evaluate and work to improve [its] internal control over financial reporting. (Id.) These plans included " changes to establish an environment necessary to prevent or detect potential deficiencies in the preparation of [its] financial statements and controls to support [its] desired internal control." (Id.) The company also " hired a new Chief Accounting Officer with
the appropriate knowledge and experience to establish and maintain [its] desired control environment." (Id.)
Finally, the restated 10-Q announced that Magnum Hunter was postponing its 2012 annual meeting, and that it had received notice that the SEC would be reviewing the company's preliminary proxy statement. (Id.)
Also on November 14, 2012, Magnum Hunter filed its Form 10-Q for the third quarter of 2012, which contained similar disclosures that it had " identified material weaknesses in [its] internal controls over financial reporting." (Id. ¶ 107.)
In December 2012, the company took a $65 million impairment charge. (Id. ¶ 6.) Magnum Hunter held its 2012 annual meeting in January 2013. (Id.)
On February 28, 2013, the company filed a Notification of Late Filing on Form 12b-25, in which it disclosed that it would be unable to file its 2012 year-end Form 10-K on time and noted that " additional internal controls and significant review of certain financial matters were required by the new auditors." (Id. ¶ 116.) On March 18, 2013, Magnum Hunter disclosed in a press release that it was facing " complex and challenging accounting issues" and that, while it was not aware of any disagreements ...