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PSLRA Does Not Affect Pleading Loss Causation: Spitzberg vs. Houston American Energy Corp.
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No. 13-20519 (5th Cir., 7/15/14). PSLRA (Pleading Requirements; Safe Harbor) * FRCP (Rule 12(b)(6) “Claim for Relief”) * 1934 Act (§10(b) “Rule 10b-5”) * Culpability Standards (Scienter; Recklessness) * Loss Causation/Proximate Cause * Product/Sales Practice Issues (Oil/Gas) * Standard of Review (De Novo) * Misrepresentations/Omissions. The economic loss element of a securities fraud claim is not subject to the heightened pleading standard of the Private Securities Litigation Reform Act.

Plaintiffs, investors in Defendant Houston American Energy Corporation, a small energy company involved in the development of an oil-and-gas concession in Columbia, filed a private action for securities fraud under Section 10(b) of the Securities Exchange Act of 1934 against the company and two of its employees after the stock price plummeted following a revelation that the company’s statements regarding the concession were false.

Plaintiffs’ claims were based on two different representations. First, a slide presentation appended to the company’s Form 8-K disclosure filed in November of 2009 touted one of Defendants’ hydrocarbon blocks, the “CPO 4 Block,” as having “estimated recoverable reserves of 1 to 4 billion barrels.” Plaintiffs contended that the term of art “reserves” meant that the commercial viability of the well had been proven by actual production, or formation tests. Neither had occurred at CPO 4 Block, and test drilling did not begin until a year after the statement was made. Secondly, Defendants repeatedly stated in SEC filings and press releases in July 2011 that a test well in CPO 4 Block known as Tamandua #1 had produced “strong inflow[s]” and “significant shows” of both “oil and gas.” Plaintiffs offered statements from individuals present at the drill site directly contradicting these representations, and, in fact, Tamandua produced neither oil nor flowable hydrocarbons and was eventually abandoned.

Defendants moved to dismiss the claims under Rule 12(b)(6) for failure to state a claim, relying upon the heightened pleading requirements of the Private Securities Litigation Reform Act (“PSLRA”). The trial court granted the motion on two grounds: that Plaintiffs failed to sufficiently allege facts to support a strong inference of scienter, and that they failed to allege that the misstatements or omissions were the actual cause of economic loss, as opposed to other possible explanations.

On the latter point, the appellate Court holds that the economic loss element of a securities fraud claim is not subject to the heightened pleading requirements of the PSLRA. The Plaintiffs had alleged in plain language that the stock prices they paid were artificially inflated by Defendants’ misrepresentations regarding CPO 4 Block, and that the price plummeted after the abandonment of Tamandua #1 was announced. The news of the well abandonment was a “corrective disclosure” which made the existence of actionable fraud more probable than it would otherwise have been, and that was sufficient to allege loss causation.

Regarding Defendants’ scienter, the Court finds the pleadings sufficient to support a strong inference of at least severe recklessness, if not intentional misconduct. The Defendants’ use of the term of art “reserves” in the slide presentation presented an obvious danger of misleading investors as to the value of Defendants’ assets. Similarly, announcing the discovery of flowable hydrocarbons and oil when in fact none were discovered was severely reckless and dangerous to investors. Defendants claimed that they actually believed that oil could be found in CPO 4 Block, but this is irrelevant to whether they were severely reckless in misleading investors as to the facts. The order of dismissal is reversed and the case remanded for further proceedings.

(SLC Ref. No. 2014-28-07)


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