29 F. Supp. 3d 400
S.D.N.Y.2014Background
- LINN Energy, LLC (LINN) is an oil & gas MLP that reported GAAP financials and non-GAAP metrics (adjusted EBITDA, distributable cash flow "DCF", distribution coverage ratio, maintenance capex) during 2010–2013; LinnCo, LLC is a corporate issuer whose sole asset was LINN units and which completed an IPO in October 2012.
- Plaintiffs (shareholders/unitholders) alleged LINN and LinnCo (and officers, directors, underwriters) materially misled investors by calculating non-GAAP metrics in a way that (1) excluded upfront premiums previously paid for put-option hedges when settled, and (2) understated maintenance capex, thereby overstating DCF and coverage ratios.
- LINN’s GAAP filings disclosed (a) capitalization and amortization of put premiums on the income statement, (b) mark-to-market unrealized gains/losses, and (c) premiums paid for derivatives on the cash-flow statement. LINN also provided reconciliation schedules from GAAP to adjusted EBITDA and explained its DCF and coverage-ratio formulas.
- In 2013 analysts and press articles criticized LINN’s DCF methodology; LINN then revised its non-GAAP definitions (e.g., deducting settled put premiums from adjusted EBITDA going forward and using GAAP cash flows as the starting point for distribution analysis) and disclosed amounts of premiums related to settled puts.
- Plaintiffs brought Securities Act claims (Sections 11, 12(a)(2), 15) and Exchange Act claims (Section 10(b)/Rule 10b-5, Section 20(a)) alleging material misstatements/omissions and violations of Regulation G and Item 10(e) of Regulation S-K; defendants moved to dismiss.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| 1) Were LINN’s disclosures actionable misstatements/omissions about DCF, coverage ratio, and maintenance capex? | DCF and coverage ratios were misleading because LINN included realized proceeds from settled puts but failed to deduct the previously paid premiums for those settled puts; maintenance capex omitted LOE maintenance costs, understating capex. | LINN fully disclosed its formulas and reconciliations; adjusted EBITDA/DCF are non-GAAP measures with no single correct formula; premiums paid in prior periods do not affect current-period cash flow and were properly treated; LOE and capex were distinctly and consistently disclosed. | Dismissed: no actionable misstatement or omission — disclosures, reconciliations, and warnings made the methodology apparent; plaintiffs merely disagreed with accounting choices. |
| 2) Did LINN violate Regulation G (general disclosure & reconciliation) and Item 10(e) of Regulation S-K? | Regulation G/Item 10(e) were violated because LINN’s DCF presentation omitted settled put premiums (misleading) and failed to reconcile to the most directly comparable GAAP cash metric. | LINN reconciled adjusted EBITDA to GAAP performance and cash measures and gave clear explanations; SEC guidance allows registrants flexibility in choosing the "most directly comparable" GAAP measure; Item 10(e) prohibits excluding items that "require or will require" cash — past premiums do not affect present liquidity. | Dismissed: no regulatory violation — LINN complied with reconciliation requirements and Item 10(e) does not require re-deducting historical cash outlays that no longer affect liquidity. |
| 3) Do the Securities Act claims (Sections 11, 12, 15) survive? | Offering documents incorporating LINN filings repeated the alleged misstatements, so Section 11/12 liability and control-person liability under Section 15 apply. | Without a primary misstatement or omission in the offering documents, there is no primary liability to support Sections 11/12, and thus no control-person liability. | Dismissed with prejudice: plaintiffs failed to plead any primary misstatement or omission; control claims therefore fail. |
| 4) Do Exchange Act claims (Section 10(b)/Rule 10b-5; Section 20(a)) survive? | Public statements and periodic filings misled investors about cash available for distributions; defendants acted with scienter and plaintiffs relied to their detriment. | Truthful, non-misleading disclosures and reconciliations defeat the misstatement/omission element; without that, scienter and reliance need not be reached. | Dismissed with prejudice: plaintiff failed to allege any actionable misstatement or omission; primary liability under Section 10(b) not established so control claim under Section 20(a) fails. |
Key Cases Cited
- Cargo Partner AG v. Albatrans, Inc., 352 F.3d 41 (2d Cir. 2003) (pleading-rule principles: construe allegations favorably but require plausibility)
- Roth v. Jennings, 489 F.3d 499 (2d Cir. 2007) (Rule 12(b)(6) standards)
- Ashcroft v. Iqbal, 556 U.S. 662 (U.S. 2009) (plausibility pleading standard)
- Bell Atl. Corp. v. Twombly, 550 U.S. 544 (U.S. 2007) (complaint must state plausible claim)
- Rombach v. Chang, 355 F.3d 164 (2d Cir. 2004) (Rule 9(b) applies to securities claims that sound in fraud)
- In re Morgan Stanley Info. Fund Sec. Litig., 592 F.3d 347 (2d Cir. 2010) (Securities Act liability elements for offering documents)
- Lentell v. Merrill Lynch & Co., Inc., 396 F.3d 161 (2d Cir. 2005) (elements of a Rule 10b-5 claim)