Setzer v. Omega Healthcare Investors, Inc.

• Decision Date: 03 August 2020
• Docket Number: August Term 2019,Docket No. 19-1095
• Citation: 968 F.3d 204
• Parties: Royce SETZER, Lead Plaintiff-Appellant, Earl Holtzman, Plaintiff-Appellant, Dror Gronich, Individually and on behalf of all others similarly situated, Plaintiff, Steven Klein, Individually and on behalf of all others similarly situated, Consolidated Plaintiff, v. OMEGA HEALTHCARE INVESTORS, INC., C. Taylor Pickett, Robert O. Stephenson, Daniel J. Booth, Defendants-Appellees.
• Court: U.S. Court of Appeals — Second Circuit

968 F.3d 204

Royce SETZER, Lead Plaintiff-Appellant,Earl Holtzman, Plaintiff-Appellant,Dror Gronich, Individually and on behalf of all others similarly situated, Plaintiff,Steven Klein, Individually and on behalf of all others similarly situated, Consolidated Plaintiff,

v.OMEGA HEALTHCARE INVESTORS, INC., C. Taylor Pickett, Robert O. Stephenson, Daniel J. Booth, Defendants-Appellees.

Docket No. 19-1095

August Term 2019

United States Court of Appeals, Second Circuit.

Argued: November 13, 2019

Decided: August 3, 2020

JACOB A. GOLDBERG, (David Dean, on the brief) The Rosen Law Firm, P.A., Jenkintown, PA, for Plaintiffs-Appellants.

ERIC RIEDER, (Heather S. Goldman, on the brief), Bryan Cave Leighton Paisner, LLP, New York, NY, for Defendants-Appellees.

Before: LEVAL, WESLEY, and LIVINGSTON, Circuit Judges.

WESLEY, Circuit Judge:

Plaintiffs-Appellants, Royce Setzer, Earl Holtzman, Dror Gronich, and Steven Klein, brought this putative class action against Omega Healthcare Investors, Inc., a publicly traded Maryland corporation that invests in healthcare facilities, and against Omega's chief executives. Plaintiffs assert claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (the "Exchange Act"), 15 U.S.C. §§ 78j(b), 78t(a), and Rule 10b–5, 17 C.F.R. § 240.10b–5, on behalf of a putative class of investors who purchased or otherwise acquired Omega's securities between May 3, 2017 and October 31, 2017 (the "Class Period"). Plaintiffs claim that Omega misled investors by failing to disclose a $15 million working capital loan it made to one of its major tenants, Orianna Health Systems. According to Plaintiffs, this omission hid from investors an accurate picture of Orianna's financial difficulties. The district court dismissed the complaint, holding, inter alia , that although the non-disclosure of the loan amounted to a material omission, Plaintiffs failed to plead a strong inference that Omega acted with the requisite scienter.

Because we find that the complaint adequately alleges that Omega acted with scienter in failing to disclose the loan, we reverse the district court's decision and remand for proceedings consistent with this opinion.

BACKGROUND

I. Facts¹

Omega is a self-administered real estate investment trust that invests in healthcare facilities, such as skilled nursing and assisted living facilities. Omega either owns the properties and leases them to the facility operators, or it provides operators with mortgage financing. Omega reports its financial performance to the market through its Funds from Operations ("FFO") and Adjusted Funds from Operations ("AFFO") metrics. Thus, Omega's FFO and AFFO primarily reflect rents paid by its operators.²

At all relevant times, Defendant C. Taylor Pickett served as Omega's chief executive officer; Defendant Robert O. Stephenson served as the chief financial officer; and Defendant Daniel J. Booth served as the chief operating officer (together, with Omega, "Defendants").

By late 2016 and early 2017, Omega's second largest operator, Orianna,³ began experiencing severe financial difficulties and became delinquent on its rent. Orianna operated 59 skilled nursing facilities across the country, representing seven percent of Omega's investment portfolio at that time (roughly $619 million in gross investment). In response to Orianna's financial troubles, on May 2, 2017, Omega provided a $15 million working capital loan to the company (the "Loan").⁴

A. First Quarter: January 1, 2017 through March 31, 2017

Two days after it made the Loan, Omega held a conference call with analysts to discuss its results for the first quarter of 2017. On the call, Defendant Booth described Orianna's "performance pressure," which he claimed was "exacerbated" by "complete replacement of senior management" in 2016. J.A. 25 ¶ 35. Booth indicated that "[t]he new management team well known and respected by Omega worked throughout 2016 to transform the culture of the company, which included changing out many facility-level management teams." Id. Booth acknowledged that during this "transition period" Orianna's operational performance dipped below 1x EBITDAR⁵ coverage for 2016. Id. However, in an effort to help Orianna during the transition period, Omega had "embarked on an effort to sell off [Orianna's] northwest region, which consisted of 7 facilities," and that "3 facilities [had] already been sold." Id. at 25–26 ¶ 35. Defendant Pickett added that Orianna was rebranding, moving its corporate headquarters, and making significant business changes in an attempt to recover.⁶

Defendants Stephenson and Pickett also stated that Orianna was 45 days past due on its rent payments.⁷ An analyst asked why Omega's 2017 adjusted FFO guidance, which had been estimated at $3.40 to $3.44 per diluted share, did not reflect that Orianna was no longer paying rent. Id. at 31 ¶ 44. Defendant Pickett responded that "at 45 days past due, to start fiddling around with guidance, just doesn't make any sense," and reassured the analyst that Omega "feel[s] pretty comfortable that [Orianna is] going to come back with coverages at [its] previous level." Id. Omega did not mention the Loan in the conference call or in any of its first quarter filings.

B. Second Quarter: April 1, 2017 through June 30, 2017

Orianna continued to experience problems during the second quarter of 2017. Nevertheless, on July 26, 2017, Omega issued a press release revising Omega's guidance on FFO upwards to between $3.42 and $3.44 "per diluted share." J.A. 40 ¶ 59.

Prior to Omega's July 27, 2017 second quarter conference call, analysts following Omega raised concerns regarding Orianna's ability to pay rent. One analyst issued a report focusing on Orianna's rent delinquency, indicating that he was "look[ing] to hear more about what [rent] payments (if any) were recouped from [Orianna] after [the first quarter] shortfall." J.A. 37–38 ¶ 54. Another analyst report emphasized that "[t]enant health remains an issue for [Omega's] portfolio" such that two tenants "are now more than 30-days late on their rental payments ... highlight[ing] potential material risks to the near-term income stream." Id. at 38–39 ¶ 55. Plaintiffs allege that one of the two tenants referred to in this report is Orianna. Id. at 39 ¶ 56.

During Omega's conference call, Booth reported that while Omega was "optimistic" that coverages had stabilized, Omega "continue[d] to see certain regional operators struggle with various operational pressures," including Orianna. Id. at 41–42 ¶ 61.

Booth then explained that while Omega was "consciously [sic] optimistic that the combination of ... [Orianna's] efforts will result in steadily improving margins and eventually return to its former profitability," the "past due rent has reached nearly ninety days in arrears." Id. He suggested that "any further deterioration and/or failure of [Orianna] to achieve its budgeted plan may result in cash basis accounting and a potential review of the value of these capital lease assets."⁸ Id. at 42 ¶ 61. Booth emphasized, however, that efforts were being taken to "manage through [certain] operational pressures," including a "very recent and significant downsizing of both corporate and regional staff." Id. Omega did not disclose the Loan. Following the conference call, Omega's stock fell four percent.

Omega's 10-Q for the second quarter made similar statements, including that Orianna "has been facing liquidity pressures following a management transition, but has been showing signs of operational improvement and is currently making partial monthly rent payments ." Id. at 43 ¶ 64 (emphasis added). The Complaint alleges that this statement and the statements made by Booth during the July 27, 2017 conference call were "false and misleading" because those statements implied that Orianna had been making rent payments from its own operating income, when at least part of those rent payments was funded by the undisclosed loan Omega had extended to Orianna several months earlier. Id. at 26 ¶ 36, 42–44 ¶¶ 62, 64, 65. Plaintiffs assert that Omega's repeated failure to disclose the existence of the Loan was part of a "surreptitious[ ]" scheme "to avoid disclosing to the market both the gravity of Orianna's financial woes and the likely impact on Omega's financial results." Id. at 28 ¶ 39.

The 10-Q also explained that "[t]he current management of [Orianna] is pursuing operational improvements," including "replacing executive management and senior level management, renegotiating vendor contracts and establishing a centralized referral network." Id. at 43–44 ¶ 64. Moreover, Omega "expect[ed] to sell two other facilities and transition its existing Texas portfolio to another operator during the third quarter of 2017" and was "optimistic that the combination of these efforts will result in improving margins and performance by this operator." Id. at 44 ¶ 64. The 10-Q specifically noted, however, that while Omega "is currently recording rental revenue from this provider on an accrual basis," it will "continue[ ] to monitor [Orianna's] operating plan and in the event its performance deteriorates, [it] will reassess the carrying value of the portfolio and consider recording future rental revenue on a cash basis." Id. Omega did not disclose the Loan during the second quarter.

Following these statements, another analyst emphasized the general concern over Orianna's ability to pay rent. Id. at 45 ¶ 66 ("[I]nvestors were more concerned with the health of two [of Omega's] top ten tenants [including Orianna] ... who continue to not be current on their rents.").

C. Third Quarter: July 1, 2017 through October 31, 2017

By the end of the third quarter, Orianna had not achieved its recovery goals. Omega placed Orianna on a cash basis, recognizing no revenue for Orianna for the quarter. On October 30, 2017, Omega issued a press release, disclosing impairments of $194.7 million on direct financing leases and $9.5 million in provisions for...