July 16, 2013
This is the latest update of significant developments relating to qui tam, securities, and other lawsuits and investigations involving schools, especially private-sector schools. The past quarter was a busy one–several district courts allowed False Claims Act (“FCA”) cases to proceed past motions to dismiss, the government and a school battled over discovery in an FCA case, and several important court decisions were handed down. Without letting this turn into a treatise, we discuss these developments and others below.
The worrying trend of an increasing number of cases–and number of FCA liability theories– making it past a motion to dismiss has continued. First, in a decision from December that largely flew under the radar until recently, the United States District Court for the Western District of Missouri allowed a case to proceed past a motion to dismiss even though the court expressed doubt that the “[r]elators can ultimately prove that any or all of the violations alleged . . . were material to the government’s payment of Title IV funds.” U.S. ex rel. Miller v. Weston Educ., Inc., No. 4:11-CV-00112-NKL, 2012 WL 6190307, at *10 (W.D. Mo. Dec. 12, 2012). In its holding, the court allowed the relators to proceed to discovery on allegations that the school falsified attendance records, grades, employment placement records, and instructor qualifications; misappropriated student financial aid money; enrolled and retained ineligible students; created unlawful incentives to retain students; and employed unqualified teachers. See id. at *1, 10.
Second, on May 10, 2013, the United States District Court for the Southern District of Florida issued a similar, although narrower, decision. In U.S. ex rel. Christianson v. Everglades College, Inc., No. 12-cv-60185-WPD, ECF No. 40, at 7 (S.D. Fla. May 10, 2013), the relators’ complaint focused on incentive compensation. Everglades College attacked the complaint as a “shotgun pleading” that did not comply with Rule 9 of the Federal Rules of Civil Procedure. Id. at 4. Although the court agreed that “certain details [were] lacking,” the court held that the details of gift cards, cash, meals, spa visits, and other benefits provided enough specificity to satisfy the pleading requirements and to enable the plaintiff to proceed to discovery. See id. at 3, 7-8.
And most recently, the United States District Court for the Western District of Pennsylvania on May 31, 2013, refused to dismiss a case pending against Education Management Corporation. U.S. ex rel. Sobek v. Educ. Mgmt., LLC, No. CIV.A. 10-131, 2013 WL 2404082, at *6 (W.D. Pa. May 31, 2013).* EDMC had argued that the allegations regarding improper marketing of the school did not constitute a condition of payment, and thus could not support a claim under the False Claims Act. Id. at *2. Adopting the ruling of the magistrate judge, the district court construed this gateway requirement of an FCA claim as a fact-intensive “defense” that could not be decided on the pleadings. Id. at *3. This unexplained shift in the burden of proof may make discovery easier to obtain and could have great implications on the education sector should other courts take this approach.
Looking at these three decisions together, one must ask whether this newfound reluctance by district courts to screen out admittedly weak cases at the pleading stages has broader implications. In all three of these cases, the United States did not intervene. Yet, in each case, the relators successfully opposed a motion to dismiss. Has the negative publicity facing the for-profit education sector crept into the minds of district court judges? Time will tell.
Given the increasing tendency for cases to survive the pleading stage, the next question is what does discovery look like in FCA education cases? The discovery battles occurring in the United States v. Education Management LLC, 2:07-cv-00461-TFM (W.D. Pa.)* shed some light, at least for FCA cases where the United States has intervened. As readers of this update may recall, this was the first case based on incentive compensation in which the United States chose to intervene. Both the government and EDMC moved to compel discovery requests earlier this quarter. And on May 14, 2013, a court-appointed special master issued rulings on both motions.
In response to EDMC’s motion to compel, the special master recommended that the district court grant the vast majority of EDMC’s requests. See United States v. Educ. Mgmt. LLC, 2:07-cv-00461-TFM, ECF No. 259, at 2, 44-45 (W.D. Pa. May 14, 2013). EDMC largely sought information regarding what the government knew about EDMC’s practices before its intervention in the lawsuit and the government’s general enforcement of the incentive compensation provision. See id. at 10-30. The special master held that these were both relevant and appropriate topics for discovery: both the government’s specific knowledge of EDMC’s practices and its general approach to incentive compensation could provide evidence that the incentive compensation provision was not a material condition to the federal funding of student loans. See id. at 26, 30.
The special master, however, was less receptive to EDMC’s opposition to the government’s motion to compel. The government sought wide-ranging discovery beyond the narrow issue in the case (whether the school’s compensation plan as implemented violated the incentive compensation provision), including for example, discovery on issues of student academic performance, job placement statistics, and investor-related audits. See United States v. Educ. Mgmt. LLC, 2:07-cv-00461-TFM, ECF No. 258, at 15-16 (W.D. Pa. May 14, 2013). Recognizing that these subjects were beyond the conduct actually alleged as unlawful, the special master still recommended allowing discovery on these topics because they could shed light on the corporate culture and mindset of EDMC, which in turn, could be used as circumstantial evidence of scienter. See id. at 13, 18-19, 21-23, 30.
This expansive view of discovery appears at odds, or at least in tension, with a recent FCA decision by the First Circuit in U.S. ex rel. Duxbury v. Ortho Biotech Products, L.P., — F.3d —-, 2013 WL 2501930 (1st Cir. 2013). In that case, the First Circuit affirmed a district court’s ruling that discovery should be limited to the narrow allegations that had survived the defendant’s motion to dismiss based on Rule 9(b). Id. at *1, *7. Specifically, the First Circuit held that the “district court acted within its discretion in declining to issue [the relator] license to undertake a ‘fishing expedition’ into the amended complaint’s purely speculative allegations of fraud through further discovery.” Id. at *7.
Both EDMC and the government have filed objections to the special master’s decisions. It will be interesting to see if the Duxbury decision plays a part in the court’s analysis.
As the potential for discovery or trial looms larger in cases against schools, it is increasingly important for schools to make wise strategic choices early on in the litigation. In the last edition of this update, we highlighted the importance of early analysis of potentially disclosing attorney-client communications in order to establish a defense that the school could not have “knowingly” violated a given regulation.
Another critical consideration that a school should consider early is whether the school wishes to have binding arbitration clauses or jury waivers in its student enrollment agreements. The decision not to have such a clause was exemplified by an unusual case in Missouri state court filed against Vatterott College by a former student. The case went to trial on allegations that the school misled the former student about the school’s medical training program. And on June 14, 2013, a jury awarded the former student just under $28,000 in actual damages, and $13 million in punitive damages, according to news reports. Although the punitive damages award may not stand under state law or the U.S. Constitution, the award does signify the potential harm that could result from a runaway jury and highlights the importance of including arbitration clauses and jury waivers in agreements that schools have with students, employees, and others.
In previous editions of this update, we noted the increased focus on non-profit schools, especially professional schools. This past quarter was no different, with two significant decisions and a new case filed against a public school.
On April 22, 2013, Brooklyn Law School won a significant victory. Five graduates of the school had alleged that the school’s employment and salary numbers were misleading largely because they included graduates employed outside of the legal profession. Bevelacqua v. Brooklyn Law Sch., 39 Misc. 3d 1216(A) at *1 (N.Y. Sup. Ct. 2013). That was not enough to establish a claim under New York law, according to the court, because plaintiffs had made no allegations that the employment statistics were literally false, and relying solely on the school statistics “was unreasonable under the circumstances.” See id. at *6-7.
This decision came on the heels of a March 20, 2013 decision by the United States District Court for New Jersey that expressed similar doubt that it was plausible that students were deceived by employment numbers that did not differentiate between those employed as lawyers and those employed outside of the legal profession. Harnish v. Widener Univ. Sch. of Law, No. 2:12-CV-00608 WHW, 2013 WL 1149166, at *8 (D.N.J. Mar. 20, 2013). Yet despite the court’s frank skepticism, the court allowed the case to proceed past a motion to dismiss, and declined to reconsider that decision on May 3, 2013. Harnish v. Widener Univ. Sch. of Law, No. 12-CV-00608 WHW, 2013 WL 1890276, at *3 (D.N.J. May 3, 2013).
Law schools are not the only ones facing these types of claims. On May 10, 2013, eight nursing students filed a class action against New Mexico State University for allegedly failing to respond adequately to a warning by the National Accrediting Commission that the school was in jeopardy of losing its national accreditation, and then allegedly failing to notify properly the students when it did lose its national accreditation.
On July 8, 2013, the Seventh Circuit reinstated an FCA case pending against ITT Educational Services and reversed the sanctions award against the relator’s counsel. Leveski v. ITT Educational Services, Inc., — F.3d —-, 2013 WL 3379343, at *1 (7th Cir. 2013).* As reported previously in this update, the United States District Court for the Southern District of Indiana had dismissed the case pursuant to the jurisdictional “public disclosure” bar. Id. at *9-10. The “public disclosure” bar prohibits a relator from filing a lawsuit based upon earlier “public disclosures” of the allegations unless she is an “original source” of the allegations. The district court held that a previous case, Graves v. ITT, had publicly disclosed the substance of Ms. Leveski’s allegations, and she was not a true whistleblower because she had no independent knowledge of the alleged violations or certain key facts. Id.
The Seventh Circuit reversed, primarily relying on the fact that Ms. Leveski was an employee of ITT for a longer time than the relator in Graves. See id. at *12. Acknowledging that “[t]he relatively long span of Leveski’s employment, of course, does not directly impact her FCA claim,” the Seventh Circuit nonetheless construed her long period of employment as a factor that differentiates Ms. Leveski’s case from the Graves case. Id.
The Seventh Circuit also held that the allegations in the two cases were different because the manner in which the school allegedly violated the incentive compensation provision differed in the two cases: in Graves, ITT allegedly had an outright quota system whereas Leveski alleged ITT had a sham compensation system that appeared to award employees for more than just enrollments, but in practice was based solely on enrollments. See id. at *13-14. The Seventh Circuit’s focus on the specific details of how the law was violated seems to conflict, or at least is in tension with, the well-established rule that an action need not assert facts identical to those in a prior complaint to trigger the public disclosure bar. See, e.g., U.S. ex rel. Lujan v. Hughes Aircraft Co., 243 F.3d 1181, 1189 (9th Cir. 2001). Rather, the second lawsuit need only raise “the same material elements of fraud described in an earlier suit, regardless of whether the allegations incorporate somewhat different details.” See, e.g., id. (emphasis added).
In another case involving many of the same issues as Leveski, the United States District Court for the Central District of California came to the same result as the district court in Leveski (later reversed by the Seventh Circuit) on June 6, 2013. In U.S. ex rel. Lee v. Corinthian Colleges, No. 2:07-cv-01984-PSG-MAN, ECF No. 275 (C.D. Cal. June 6, 2013), Judge Philip S. Gutierrez imposed almost $1.5 million in attorneys’ fees against relators’ counsel for pursuing the case after it was clear that it was barred by the public disclosure rule. Id. at 5-6. The court was especially perturbed by the fact that counsel recruited the relators, and that “[a]s a self-proclaimed ‘expert in qui tam False Claim Acts litigation’ . . . counsel should have been aware of the public disclosure bar and that the many public disclosures in this case did not support jurisdiction.” Id. at 6.
This case may serve as a deterrent to relators’ counsel seeking to file frivolous suits. However, those same individuals may only be emboldened by the Seventh Circuit’s decision in Leveski, reversing a sanction. At bottom, it still makes sense for schools in every FCA case–indeed, any defendant in an FCA case–to ferret out the details of what public disclosures came before the FCA case and the basis for the relator’s alleged knowledge of a violation by the school. If that knowledge was supplied by the relator’s lawyer, there may be a basis for a motion to dismiss on jurisdictional grounds.
In a case that we have been following in this update, American Commercial Colleges settled with the United States in U.S. ex rel. Clark v. American Commercial Colleges, Inc. (N.D. Tex.). According to the settlement agreement, ACC agreed to pay a $1 million fixed settlement over the next five years, and a contingent payment of up to another $1.5 million based on the school’s net revenues, to resolve allegations that it violated the 90/10 rule that requires a school to have at least 10% of its revenues derived from sources other than Title IV.
According to another press release, the United States also settled with the United States University, a San Diego area school that offers nursing and other programs. The school’s former financial aid director had previously pleaded guilty to criminal charges of falsifying student financial aid applications. To resolve the civil liability, the school agreed to pay just under $700,000.
On June 6, 2013, Corinthian Colleges received a subpoena from the Securities and Exchange Commission. According to the school’s most recently filed 8K, the SEC requested production of documents that relate to student “recruitment, attendance, completion, placement, defaults on federal loans and on alternative loans, as well as compliance with U.S. Department of Education financial requirements, standards and ratios (including the effect of certain borrowings under the Company’s credit facility on the Company’s composite score, and 90/10 compliance), and other corporate, operational, financial and accounting matters.”
This comes on the heels of reports that the SEC has been investigating ITT, EDMC, and Career Education Corp. And in at least the ITT case, the investigation spawned a derivative class action lawsuit.*
These developments serve as a reminder of the various regulators that are currently interested in the sector, and also the collateral consequences (even if just harassing, frivolous lawsuits) of those inquiries.
On April 25, 2013, a California Superior Court held that the California Student Aid Commission had abused its discretion in examining each individual campus of an institution with multiple campuses for the purposes of determining qualification for the state’s grant program. Argosy Univ. of Cal. LLC v. Cal. Student Aid Comm’n, No. 30-2012-00600722, at 3-5 (Sup. Ct. of Cal. Orange Cnty. Apr. 25, 2013).* In this victory for California schools and students, the court held that the Commission had to aggregate an institution’s graduation rate across multiple campuses because the statute specifically treated an institution as encompassing all of its multiple campuses. Id. This decision shows that although many schools and other institutions are reluctant to challenge their regulators, the courts do carefully review and overturn inappropriate agency actions.
Finally, earlier this month, National College won an important victory in its legal battle with the Kentucky attorney general according to the school’s press release. After the attorney general issued a civil investigative demand on National College in 2010, the school filed suit challenging the scope of his requests. The trial court had originally dismissed the school’s lawsuit, but the Kentucky Court of Appeals reversed that decision in August of 2012. Adhering to the appellate decision, the trial court on July 1, 2013 signaled it would force the attorney general to turn over documents relating to his office’s investigation of the school.
We will continue to keep you informed on these and other related issues as they develop.
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