Okla. Firefighters Pension & Ret. Sys. v. Capella Educ. Co.

• Decision Date: 01 June 2012
• Docket Number: Civil No. 10–4474 (SRN/SER).
• Citation: 873 F.Supp.2d 1070
• Parties: OKLAHOMA FIREFIGHTERS PENSION AND RETIREMENT SYSTEM, Plaintiff, v. CAPELLA EDUCATION COMPANY, J. Kevin Gilligan, Lois M. Martin, and Amy L. Ronneberg, Defendants.
• Court: U.S. District Court — District of Minnesota

873 F.Supp.2d 1070

OKLAHOMA FIREFIGHTERS PENSION AND RETIREMENT SYSTEM, Plaintiff,

v.CAPELLA EDUCATION COMPANY, J. Kevin Gilligan, Lois M. Martin, and Amy L. Ronneberg, Defendants.

Civil No. 10–4474 (SRN/SER).

United States District Court, D. Minnesota.

June 1, 2012.

Ian D. Berg, Mitchell M.Z. Twersky, and Ximena R. Skovron, Abraham, Fruchter & Twersky, LLP, New York, NY; and Vernon J. Vander Weide, Lockridge Grindal Nauen, P.L.L.P., Minneapolis, MN, for Plaintiff.

Wendy J. Wildung, Faegre & Benson LLP, Seventh Street, Minneapolis, MN, for Defendants.

MEMORANDUM OPINION AND ORDER

SUSAN RICHARD NELSON, District Judge.

This matter is before the Court on the motion to dismiss brought by Defendants Capella Education Company, J. Kevin Gilligan, Lois M. Martin, and Amy L. Ronneberg. (Doc. No. 45). For the reasons stated below, this Court grants the motion.

I. FACTUAL AND PROCEDURAL BACKGROUND

In this securities fraud action, Lead Plaintiff Oklahoma Firefighters Pension and Retirement System claims that Defendant Capella Education Company, and three of its officers—(1) Defendant J. Kevin Gilligan, Capella's Chief Executive Officer, (2) Defendant Lois M. Martin, Capella's Chief Financial Officer and Senior Vice President, and (3) Defendant Amy L. Ronneberg, Capella's Vice President and Controller (collectively, the “Individual Defendants”)—violated the Securities Exchange Act of 1934 and related regulations issued by the Securities Exchange Commission (“SEC”).

Capella is a for-profit, on-line university that receives a significant portion of its revenue—“approximately 78%”—from tuition financed by government loans. (Doc. No. 41, ¶¶ 2, 4.) In 2006, the federal government first allowed online, for-profit institutions to participate in federal financial aid programs under Title IV of the Higher Education Act of 1965 (“HEA”). ( Id. ¶ 4.) In order to remain eligible for such funding, Capella must maintain compliance with applicable regulations promulgated by the United States Department of Education (“DOE”). ( Id. ¶ 5.)

Federal law prohibits institutions such as Capella from making any false, erroneous, or misleading statement regarding the nature of its educational program, its financial charges or the employability of its graduates to any student or prospective student. ( Id. ¶ 33.) Such institutions must also provide an accurate description of the complete costs of attending the institution. ( Id.) In addition, at least with respect to most educational programs, such institutions must prepare students for “gainful employment in a recognized occupation.” ( Id. ¶ 5.)

On May 26, 2009, the DOE published a notice of its intent to establish a negotiated rulemaking committee to consider changes to the rules regarding federal financial aid programs. ( Id. ¶ 37.) At issue was incentive compensation paid to student recruiters and an institution's record of placing graduates in gainful employment. ( Id.) On May 29, 2009, the Deputy Undersecretary for the DOE reported during a conference call that the DOE was considering reversing the “safe harbor” provision related to the ban on incentive compensation and adding standards that graduates find “gainful employment” in their field of study. ( Id. ¶ 38.) ¹

During the time DOE officials met with industry representatives, the DOE focused on developing certain thresholds to demonstrate “gainful employment.” To be eligible for federal student aid, the DOE was considering requiring a program to meet one of two thresholds: (1) a loan repayment rate of 90%, with loans not considered to be in repayment if they were delinquent, in default, in deferment, or in forbearance; or (2) certain debt-to-income ratios. ( Id. ¶ 40.) The DOE was also considering eliminating the “safe harbor” exceptions to the ban on incentive-based compensation for admissions and financial aid personnel. ( Id. ¶ 41.)

In June and July of 2010, the DOE issued proposed regulations for public comment. With respect to the ban on incentive compensation for admissions and financial aid personnel, the proposed rule removed all of the “safe harbor” provisions. ( Id. ¶ 42.) With respect to the gainful employment requirement, programs would remain fully eligible to receive Title IV funds if at least 45% of the principal of former students' loans was being paid down, or if graduates had debt-to-income ratios of less than 20% of discretionary income or 8% of total income. ( Id. ¶ 43.) A program would be completely ineligible for Title IV funds if the repayment rate by its graduates was less than 35%, or if their debt-to-income ratios were greater than 30% of discretionary income or 12% of total income. ( Id.) A program with students falling in between these two ends of the spectrum would be subject to restrictions on its eligibility for federal funds. ( Id.)

In the interim, the GAO was conducting undercover investigations of the admissions procedures and standards at fifteen for-profit schools other than Capella. The Complaint alleges that the “[t]he truth [regarding Capella's alleged omissions] was revealed between August 3rd and August 16th, 2010,” beginning with the GAO's issuance of its report “identifying widespread recruiting and enrollment practices at for-profit institutions—such as those [allegedly] engaged in by Capella.” (Doc. No. 41, ¶ 12.) The GAO's report, issued on August 4, 2010, identified deceptive enrollment practices and received substantial media attention. ( Id. ¶ 163.) Although Capella was not named as one of the fifteen schools investigated, the stock prices of many for-profit schools, including Capella, fell when it was reported that the abusive practices were widespread throughout the industry. ( Id. ¶¶ 163–66, 168, 170, 172.) And a committee of the U.S. Senate, which had been conducting hearings regarding for-profit schools, took testimony about the GAO report. The committee then requested documents from thirty publicly-traded for-profit schools, including Capella. ( Id. ¶ 173.) On September 30, 2010, the committee released a report criticizing the number of students who dropped out of the programs at issue, but not naming Capella.

The price of Capella's common stock fell with each event. “In reaction to the disclosures made between August 3rd and August 16th, 2010, the price of Capella stock decreased by 34.8% from a closing price of $93.48 on August 2, 2010 to close at $60.94 on August 16, 2010.” ( Id. ¶ 14.) In particular, on Friday August 13, 2010, after the markets closed, the DOE released data on the loan repayment rates for more than 8,000 post-secondary schools, including Capella, showing that the repayment rate by Capella's students was only 40%. That day, shares of Capella's stock declined by $9.26, or over 13%, on high trading volume. (Doc. No. 41, ¶¶ 176, 201.) The following Monday, August 16, 2010, the price fell over 13%, or $9.26 per share. ( Id. ¶ 201.) The price did not recover and the stock traded at about $44.00 when the Amended Class Action Complaint was filed in late June 2011. ( Id. ¶ 14.)

On June 27, 2011, Plaintiff filed the Amended Complaint (“Complaint”), asserting claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, 15 U.S.C. §§ 78j(b), 78t(b), and the SEC's Rule 10b–5, 17 C.F.R. § 240.10b–5.² Seeking class certification on behalf of all persons similarly injured by acquiring Capella securities, Plaintiff alleges a Class Period from July 28, 2009 to August 16, 2010 (inclusive), just after the DOE's release of data showing the overall repayment rate on government loans taken by students at for-profit schools, including Capella.

Plaintiff alleges that Defendants made materially false and misleading statements and omissions regarding matters such as (1) Capella's recruiting and enrollment practices, (2) Capella's incentive compensation system, and (3) Capella's failure to disclose the loan repayment rates of its graduates. ( Id. ¶ 10.) Plaintiff contends that Defendants, in order to increase revenues by increasing enrollments, “instituted abusive recruiting and enrollment practices,” including quotas, repetitive cold calling, spam emails and an improper compensation system. ( Id. ¶¶ 51, 52.) Plaintiff alleges that due to the new scheme, “Capella's enrollments grew by over 26% in 2009, and its revenues also grew by over 23%.” ( Id. ¶ 7.)

Plaintiff further alleges that Defendants “continually misrepresented the impact of the regulatory changes” being considered by the DOE before and throughout the Class Period. ( Id. ¶ 87.) “Defendants repeatedly stated that Capella would be able to comply with the elimination of the ‘safe harbors' yet concealed the fact that its current compensation system was actually in violation of the current ban on incentive compensation, including the ‘safe harbors,’ and would continue to be in violation once the ‘safe harbors' were removed.” ( Id.)

“Defendants Gilligan and Martin repeatedly stressed Capella's low cohort default rates to suggest that Capella's repayment rates were correspondingly high and, thus, exceeded a 90% threshold,” but “misleadingly failed to disclose” that “cohort default rates are in no way comparable to repayment rates,” as cohort rates measure only outright default, while repayment rates also exclude loans that “are in deferment, forbearance, delinquent or are otherwise not being repaid.” ( Id. ¶ 89.) And even before the DOE disclosed it was considering “a 90% repayment rate as a threshold, [D]efendants should have but failed to, disclose Capella's 40% repayment rate.” ( Id. ¶ 90.)

Furthermore, Plaintiff alleges, “Capella inflated its revenues by failing to properly account for student withdrawals” caused by Capella's emphasis on “enrollment without regard to the quality of the applicants or their ability to actually complete the online curriculum.” ( Id. ¶ 92.) Plaintiff contends that Defendants overstated revenue by (1) recognizing as revenue all of the tuition for courses from which...