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Gernandt v. Sandridge Energy Inc.

United States District Court, W.D. Oklahoma

July 28, 2017

BARTON GERNANDT, JR., et al., Plaintiff,
v.
SANDRIDGE ENERGY INC., et al., Defendants. CHRISTINA A. CUMMINGS, et al., Plaintiff,
v.
SANDRIDGE ENERGY, INC., et al., Defendants. RICHARD A. McWILLIAMS, et al., Plaintiff,
v.
SANDRIDGE ENERGY, INC., et al., Defendants.

          ORDER

          TIMOTHY D. DEGIUSTI UNITED STATES DISTRICT JUDGE

         INTRODUCTION

         This consolidated class action involves claims for alleged violations of the Employee Retirement Income Security Act of 1974, codified at 29 U.S.C. § 1001, et seq. (“ERISA”), with respect to the SandRidge Energy, Inc., 401(k) Plan (the “Plan”). Plaintiffs, participants and beneficiaries of the Plan, claim the defendants were responsible for the Plan's investments and breached their fiduciary duties by, inter alia, retaining SandRidge common stock as an investment option in the Plan despite its decline and when a reasonable fiduciary would have done otherwise. See Consol. Class Action Compl., ¶ 2 (hereinafter “Compl.”). Specifically, Plaintiffs allege Defendants permitted the Plan to continue to offer SandRidge Stock as an investment option to Participants even after the Defendants knew or should have known that: (1) SandRidge Stock was, for a substantial portion of the Class Period (August 2, 2012 to the present), artificially inflated; (2) SandRidge was in extremely poor financial condition; and (3) SandRidge faced extremely poor long term prospects, making it an imprudent retirement investment option for the Plan. See id. ¶ 3. Plaintiffs' Complaint is largely based on public information about SandRidge's gradual decline into bankruptcy, beginning in 2012 and culminating in 2016.

         Before the Court is Defendant Reliance Trust Company's (Reliance) Motion to Dismiss Consolidated Class Action Complaint and Motion to Strike Jury Demand [Doc. No. 118]. Reliance was the Plan's trustee and held the Plan's assets in trust. Compl. ¶ 73. As stated more fully below, Plaintiffs contend that, given the amount of public information available regarding SandRidge's financial condition, Reliance had a duty to disregard any instruction to invest Plan assets in SandRidge stock. Id. ¶ 75. Plaintiffs have responded to the Motion [Doc. No. 125] and Reliance has replied [Doc. No. 130]. The matter is fully briefed and at issue.[1]

         BACKGROUND

         The following facts are taken from the Consolidated Complaint and, in addition to all reasonable inferences, viewed in the light most favorable to Plaintiffs. Wasatch Equality v. Alta Ski Lifts Co., 820 F.3d 381, 386 (10th Cir. 2016). Legal conclusions, however, are not or accepted as true. See Id. (citing Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009)).

         The SandRidge Energy, Inc., 401(k) Plan was formed to provide participants with the opportunity to save for retirement. A trust was established as a funding medium for the Plan, which designated Reliance as trustee. Reliance was not a party to the Plan and had no duties or responsibilities with respect to it other than those expressly included in the applicable trust agreements. Under the agreements, Reliance had a duty to invest and reinvest trust assets pursuant to instructions from certain fiduciaries. A significant portion of the Plan assets consisted of SandRidge stock -- approximately 34% and 36% of the Plan's net assets in 2012 and 2013. A Form 11-K that SandRidge filed with the Securities and Exchange Commission (SEC) noted that as a result of this concentration, “any significant fluctuation in the market value of Company common stock could impact the net assets of the Plan as well as individual participant account balances.” From 2011 to 2014, the Plan offered numerous investment options, including SandRidge stock. During this period, certain investment options were placed on a “watch list” and removed due to, among other things, underperformance. During the relevant time period, SandRidge stock was never placed on the watch list.

         SandRidge explored, developed and produced natural gas with a focus on the Mid-Continent region of North America, also known as the “Mississippian formation” or “Mississippian play.” SandRidge stated it was investing in the Mississippian play due to the large amounts of oil relative to natural gas. However, SandRidge overstated the amount of oil relative to natural gas in the area (which dipped in price), resulting in the overstatement of the economic value of SandRidge's Mississippian play and thereby overvaluing the price of SandRidge stock. From 2011 to 2012, the Complaint alleges SandRidge made statements that falsely touted the economic value of its wells in the Mississippian play by, inter alia, omitting the true amount of natural gas relative to oil in SandRidge's wells.

         On August 2, 2012, SandRidge announced its financial results for the second quarter 2012 and first six months of 2012 in a press release that was filed with the SEC. The announcement stated that the Mississippian play's daily production grew 31% quarter over quarter and 199% from the comparable period in 2011. However, SandRidge's massive spending on drilling new wells in the Mississippian play enabled SandRidge to report increasing production numbers, although its older wells were experiencing steep declines. The heightened drilling activity masked the rapid decline and depletion in SandRidge's Mississippian wells.

         Plaintiffs allege that by this point in time, SandRidge's Board of Directors and Benefits Committee knew or should have known of the company's misstatements, given the investigative resources available. After the close of trading on November 8, 2012, SandRidge issued a press release reporting a “net loss applicable to common stockholders of $184 million.” SandRidge's Chief Executive Officer (CEO), Tom Ward, acknowledged that its increase in natural gas production had been offset by a lower amount of oil being produced. In response to this news, an analysist downgraded SandRidge's rating from “Buy” to “Neutral.” SandRidge shares subsequently dropped to $5.51 per share on November 9, a 34% decline from January 3, 2012.

         SandRidge's Benefits Committee met with a consultant on March 7, 2012 to review investment options for the Plan. The Committee agreed to continue to monitor one Plan investment, but at no time did the board discuss SandRidge stock as an investment. By the beginning of May 2012, SandRidge stock dropped 4.7% to $6.91 per share. On May 7, 2012, SandRidge reported its financial results for the first quarter of 2012, where it reported a net loss of $216 million. The company also reported a loss to its cash and cash equivalents, which dropped 38.5% from $207.7 million to $127.8 million. The Benefits Committee met again on May 9, 2012 to review investment options. The committee agreed to continue monitoring two Plan investment options due to lagging performance. However, the committee did not discuss SandRidge stock. During this time, SandRidge's Z-Score was 0.12, [2] and its debt-to-equity ratio was 1.93 (meaning it had 1.93 times more debt than equity). Plaintiffs state that, by August 2, 2012, it was or should have been clear that SandRidge stock was not a prudent investment. On August 6, 2012, the Benefits Committee met only to discuss SandRidge's health plans. At its next meeting, held August 27, 2012, the committee concluded that offering SandRidge stock as an investment option was required by the Plan and even if it was not required, it was appropriate to keep SandRidge stock as an investment. The committee met again on September 21, 2012 to discuss company health plans.

         Citing SandRidge's “disastrous performance, ” a major investor called for the resignation of SandRidge's CEO. By mid-December 2012, SandRidge stock was downgraded to “Sell” by one investment bank. On December 9, 2012, SandRidge sold its properties in the Permian Basin, which caused its stock to fall 4.8%, and SandRidge shares were down over 20% by year's end. At the end of December, SandRidge's Z-Score was 0.20 and its debt-to-equity ratio was 1.8. On December 11, 2012, the Benefits Committee met and reviewed SandRidge stock, where it, again, concluded that the Plan required offering SandRidge stock as an investment and offering the stock was appropriate even absent such a requirement.

         In 2013, SandRidge was downgraded to “Underweight” and “Underperform” by two investment firms. The Benefits Committee met again on March 25, 2013 and reviewed the Plan's investment options. Approximately thirteen Plan investment funds were recognized as “underperforming.” Regarding SandRidge stock, however, the Committee noted that stock price fluctuations were an insufficient basis to require removing it as an investment option, but if the committee had knowledge of an impending collapse, such information would need to be considered. As before, the committee concluded that offering SandRidge stock was required by the Plan and remained an appropriate option even if it was not required. On May 8, 2013, for the first quarter, SandRidge reported a net loss of $531.3 million, $315 million more than in 2012. The Benefits Committee met on May 20, 2013 and reviewed the Plan's investments. Approximately twelve investments were viewed as “underperforming.” The Committee concluded that offering SandRidge stock was required by the Plan and remained appropriate as an option even absent a requirement. By the end of the second quarter of 2013, SandRidge reported $506.6 million in losses for the first six months ending June 30, 2013. As of June 30, 2013, SandRidge's Z-Score was 0.26.

         The Benefits Committee met again on August 15, 2013. Ten investments were recognized as “underperforming.” The committee agreed to keep SandRidge stock as an investment option. On November 6, 2013, SandRidge reported its financial results for the third quarter of 2013, ending September 30, 2013, where it reported $39 million less in total revenues. It also reported a net loss of income in the amount of $54.6 million, and losses totaling $556.3 million for the nine-month period ending September 30, 2013. The Benefits Committee met three more times in 2013. There was no discussion of placing SandRidge stock on a watch list or removing it as an investment option.

         On May 8, 2014, SandRidge reported its financial results for the first quarter of 2014 for the period ending March 31, 2014. It reported a loss in total revenue of $68.6 million and a reported net loss of $134 million for the quarter. As of March 31, 2014, SandRidge's Z-Score was 0.11 and its debt-to-equity ratio had risen to 1.9. By the end of the second quarter of 2014, SandRidge reported its total revenues had decreased by 27% to $374.7 million and that it incurred a net loss of $8.8 million for the quarter. Collectively, for the first six months of 2014, SandRidge reported a net loss of $142.8 million. The Benefits Committee met on April 23, 2014, and one investment was flagged for monitoring. For the reasons cited above, the committee elected to keep SandRidge stock as an investment option. The committee subsequently met on June 30, 2014, September 10, 2014, and November 19, 2014. SandRidge stock was not discussed at either the June or September meetings, but at the November meeting the committee elected to keep SandRidge stock as an investment option. On December 31, 2014, SandRidge's Z-Score was negative 0.04.

         On November 4, 2014, SandRidge announced that its financial accounting for the prior two years was being reviewed by the SEC. The review stemmed from a thirty-year treating agreement SandRidge had with Occidental whereby SandRidge supplied Occidental with carbon dioxide. Under the agreement, SandRidge was required to pay a penalty if it failed to deliver its contracted volumes. Due to the unprofitability of natural gas wells, SandRidge had to pay the penalty each year. SandRidge had been accruing the penalty in its books annually, but the SEC stated it had to accrue the penalty quarterly. As a result, SandRidge announced it was reconsidering its accounting treatment with respect to the penalty, which could “materially affect” the net income reported for previous periods. SandRidge stated that its financial statements for 2013 and the first half of 2014, accordingly, should no longer be relied upon. After the announcement, SandRidge shares dropped to a 52-week low of $3.56 by close of business November 4, 2014. Plaintiffs allege SandRidge's Audit Committee knew or should have known of the accounting practices, but took no steps to protect the Plan or its participants. As a result of the SEC review, SandRidge's financial statements for 2013-14 were impacted by more than $40 million.

         On January 8, 2015, SandRidge restated its financial condition because of the SEC's audit. The company also reported its financial earnings for the third quarter ending September 30, 2014. It reported a 20% drop in total revenues and its cash and cash equivalents dropped nearly $20 million. In February 2015, SandRidge reported it was also slashing its rig count in Kansas and Oklahoma by 75% and that it intended to lay off 265 employees of a subsidiary in Odessa, Texas. SandRidge reported its 2014 annual financial statements on February 27, 2015, and it reported a decrease in cash and cash equivalents totaling $181.3 million for 2014 compared to $814.7 million in 2013, a reduction of 78%. It also reported total revenues decreased by 21% in 2014, and oil and natural gas revenues had decreased by 22% since the end of the prior year.

         The Benefits Committee met on March 27, 2015 and it elected to keep SandRidge stock as an investment option. On March 31, 2015, SandRidge had a Z-Score of negative 0.9142 and its debt-to-equity ratio was 3.8 - meaning it had nearly four times more debt than equity. In April 2015, SandRidge announced it would lay off 132 employees. During the first three months of 2015, SandRidge lost more than $1.2 billion of its total assets as of year's end 2014. Its oil, natural gas, and natural liquids revenues declined from $405, 316, 000 in 2014 to $195, 732, 000 in 2015. Its total revenue was down more than $227 million. In all, SandRidge had a net loss of $1, 151, 874, 000 for the first quarter of 2015. Its long-term debt increased by $175 million during the first three months of 2015.

         In June 2015, SandRidge laid off 40 employees in its Alva, Oklahoma office. On June 12, 2015, SandRidge's stock price fell due to news of lower oil prices. The Benefits Committee met on June 18, 2015 and flagged four Plan investment funds for further monitoring. It reviewed SandRidge stock and elected to keep it as an investment. One week later, on June 26, 2015, SandRidge stock fell to $0.95 per share, and it was in danger of being delisted from the New York Stock Exchange. At the time of Plaintiffs' initial complaint, SandRidge stock was considered a “penny stock” - a security that trades at less than $5.00 per share.[3] On August 5, 2015, SandRidge reported that during the second quarter of 2015 ending June 30, 2015, its debt increased by approximately $53 million. Accordingly, at the end of the second quarter of 2015, SandRidge's net debt was $3.4 billion. On September 23, 2015, SandRidge stock hit a 52-week low of $0.31 cents per share. On November 4, 2015, SandRidge reported a $640.4 million loss for its third fiscal quarter of 2015 ending September 30, 2015. The company also reported an adjusted net loss of $45 million for the third quarter of 2014 and an adjusted operating cash flow down to $45 million. At the time of Plaintiff's initial complaint, SandRidge stock was trading at $0.31 cents per share.

         Plaintiffs contend that, given the amount of public information regarding SandRidge's financial condition, Reliance had a duty to disregard any instruction from the Benefits Committee to invest Plan assets in SandRidge stock. Compl. ¶ 75. Specifically, Count Four of the Complaint alleges:

301. Reliance breached its duties to prudently and loyally manage the Plan's assets. During the Class Period, Reliance knew or should have known that, as described herein, Company Stock was not a suitable and appropriate investment for the Plan. Yet, during the Class Period, despite its knowledge of the imprudence of the investment, Reliance failed to take any meaningful steps to protect Participants from the inevitable losses that it knew would ensue as the already-weakened SandRidge faced quarter after quarter of loss as its business model became increasingly difficult and its ultimate demise became significantly more likely.
302. Reliance further breached its duties of loyalty and prudence by failing to divest the Plan of Company Stock when it knew or should have known that it was not a suitable and appropriate investment for the Plan.
303. Reliance also breached its co-fiduciary obligations by, among their other failures, knowingly participating in each other's failure to protect the Plan from inevitable losses. Reliance had or should have had knowledge of such breaches by other fiduciaries of the Plan, yet made no effort to remedy them.
304. As a direct and proximate result of the breaches of fiduciary duties alleged herein, the Plan, and indirectly the Participants, lost a significant portion of their retirement investment. Had Reliance taken appropriate steps to comply with its fiduciary obligations, participants could have liquidated some or all of their ...

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