On 15 November 2017, the Fourth Circuit Court of Appeals (which hears appeals from Maryland, North Carolina, South Carolina, Virginia and West Virginia) affirmed the dismissal of a putative securities fraud class action against PowerSecure International, Inc. ("PowerSecure"), and Sidney Hinton, its president and CEO. This case highlights the difficulty of pleading scienter (fraudulent intent) and further reinforces that, in order to do so, a plaintiff must plead facts that give rise to a strong inference that the defendants intentionally or recklessly deceived, manipulated or defrauded investors.
The plaintiffs alleged that the defendants defrauded investors by knowingly making misrepresentations about the renewal of a major contract in violation of Section 10(b) of the Exchange Act. The district court dismissed the complaint after finding that the plaintiffs failed to adequately allege scienter. The Fourth Circuit affirmed, stating that "[a] plaintiff may not stack inference upon inference" to satisfy the PSLRA's heightened pleading requirements for scienter.
In so doing, the court rejected the plaintiffs' primary argument that the defendants' alleged knowledge that the statement was false was sufficient to show scienter. The court explained that the plaintiffs' "argument fuses an inference that Hinton knew enough to realize that his characterization was technically incorrect with an inference that he intended it to deceive." "Stacking inference upon inference," the Fourth Circuit held, "violates [the PSLRA's] mandate that the strong inference of scienter be supported by facts, not other inferences."
The Fourth Circuit also found that the complaint, when taken as a whole, did not allow the court to draw a strong inference of scienter. First, the court found that the statement at issue did not support an inference that the defendants intended to deceive investors into thinking that PowerSecure could continue to serve the same region or otherwise maintain its profitability. Second, the court declined to find intent to deceive from the defendants' use of a "single possibly ambiguous word," noting that the fact of the contract's renewal "itself embraces the possibility that the new contract was not a renewal on identical terms." Finally, the court rejected the plaintiffs' attempt to establish scienter through Hinton's own sale and transfer of PowerSecure stock and observed that Hinton did not sell his shares when their value was at their peak and that the transfer of shares was made months after the alleged misstatement.
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