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Masel v. Villarreal

United States Court of Appeals, Fifth Circuit

May 15, 2019


          Appeal from the United States District Court for the Eastern District of Texas

          Before KING, SMITH, and WILLETT, Circuit Judges.


         Adriana Villarreal and Anthony Casarez approached Dr. David Masel with a proposal: if you will set up businesses that provide intraoperative neuromonitoring procedures, we will manage them, and through our signature billing practices, we can make you a substantial profit. It did not work out that way; on the $190 million worth of services the entities allegedly provided, Villarreal and Casarez collected less than $11 million. Masel and his business partner sued, alleging Villarreal and Casarez induced them to join the enterprise with material misrepresentations and omissions in violation of the Securities Exchange Act of 1934. The district court granted defendants' motion to dismiss, and plaintiffs appealed. For the reasons set forth below, we REVERSE and REMAND IN PART and AFFIRM IN PART.


         We recount the allegations as they are pleaded in the complaint, taking them as true, as we are required to do at the motion-to-dismiss stage. Arias-Benn v. State Farm Fire & Cas. Ins. Co., 495 F.3d 228, 230 (5th Cir. 2007). Intraoperative monitoring ("IOM") is a method of monitoring a patient's nervous system during surgery. The administration of IOM has a so-called technical component and a professional component. The technical component is usually performed by a certified neurophysiological intraoperative monitoring professional ("CNIM"), who operates the IOM machinery. The professional component is performed by a licensed physician, who evaluates the IOM readings produced by the CNIM.

         Plaintiff David Masel is a neurosurgeon with more than 30 years of experience in the field. Defendant Adriana Villarreal is the owner of Medical Practice Solutions, L.L.C. ("MPS"), a medical services billing company specializing in billing for IOM services. Masel and Villarreal met through defendant Anthony Casarez, a CNIM Masel had worked with.

         In the spring of 2014, during a chance encounter at a hospital, Casarez informed Masel that the IOM business was very profitable and proposed a meeting between Masel, Casarez, and Villarreal to discuss investment opportunities within the industry. Shortly thereafter, Masel, Casarez, and Villarreal met at a bakery in Plano, Texas. There, Villarreal told Masel that MPS had superior billing practices and was capable of generating the highest payouts for IOM procedures. Villarreal explained that her ability to pinpoint how much a given claim will pay within a margin of error of about 10 to 20 percent gave MPS an advantage in the industry. She said she could achieve this feat using a special algorithm-or "secret sauce," in her words-that she had developed while working for two large insurance companies. Villarreal told Masel that her "secret sauce" enabled her to collect $50, 000 or more for each out-of-network claim for IOM services. She also represented that the reimbursement cycle for such claims was around six months. According to the complaint "Ca[s]are[z] agreed with and confirmed the veracity of these statements for Dr. Masel, adopting them as his own representations." In a later email, Masel emailed Villarreal to ask what percentage of accounts receivable MPS could be expected to recover. Villarreal replied, "I always say 50% but a lot of times its [sic] more."

         Sometime after the Plano meeting, Masel took this proposal to plaintiff Dinesh Chandiramani, his business partner. Motivated by Villarreal's representations at the Plano meeting, the two agreed to Villarreal's proposal.

         At this point in the narrative, the experienced reader of securities-law cases might expect the plaintiffs to allege that Masel and Chandiramani turned over large sums of cash to Villarreal and Casarez, who then squandered it all. If only it were that simple. Though the complaint is somewhat vague as to precisely how the transaction got off the ground, this much is clear: instead of just giving Villarreal and Casarez a check, Masel and Chandiramani (in reliance on Villarreal's pitch) established and invested in a large collection of business entities, each founded for the purpose of providing IOM services. Masel and Chandiramani then hired Villarreal's companies to operate these entities in exchange for a financial interest in the entities.

         The first of these entities was Neuron Shield, LLC, organized and headquartered in Texas. Neuron Shield, LLC contracted with defendant CGR Investments, LLC ("CGR"), a Texas company solely owned by Villarreal, to grant CGR a 35% non-voting net-profits interest in the company in exchange for CGR's agreement to provide management services for the company.[1]According to the complaint, the profits-interest agreement "acknowledged the applicability of the Securities Act of 1933." Though this is not reflected in any formal agreement contained in the record, the complaint alleges that CGR's responsibilities included management of all day-to-day operations of Neuron Shield, LLC, including marketing the business, retaining and paying employees, booking and scheduling IOM services, locating new sources of business, and collecting and billing for Neuron Shield's services. Neuron Shield, LLC also contracted with MPS to provide billing services.[2]

         Plaintiffs then formed Neuron Shield Partners I, LP; Neuron Shield Partners 2, LP; Neuron Shield Partners 3, LP; and Neuron Shield Partners 4, LP. Each of these LPs designated one of the Neuron Shield LLCs[3] as the general partner. Limited partners were divided into two classes: Class A and Class B. In each agreement, CGR was a Class B limited partner. The agreements limit Class A partners to physicians and Class B partners to non-physicians. They provide that Class A partners shall have no more than 40% aggregate ownership in the partnership, but the provision explaining how a party's percentage interest in the partnership is determined is not in the record. However, the complaint alleges that plaintiffs sold CGR a 35% interest in each of the plaintiff entities "other than Neuron Shield[, ] LLC."[4] Each agreement prohibited the general partner (Neuron Shield, LLC) from making certain enumerated major decisions (such as receiving a capital contribution or dissolving the partnership) without obtaining approval of each partner with an interest equal to or greater than 20% of the partnership, which would include CGR as a 35% interest-holder. According to the complaint, the Limited Partnership agreements each also "acknowledged the applicability of the Securities Act of 1933." CGR's interests in Neuron Shield Partners I, 2, and 4 were later transferred to defendant IOS Management Services, LLC ("IOS"), of which Villarreal is a principal member. Plaintiffs also allege that they agreed to pay an 8% fee to MPS on all collections, regardless of whether they made a profit, although it is unclear what agreement this arrangement was based on or whether this arrangement applied to each entity concerned in this case.

         Plaintiffs also formed several other entities. Neither the complaint nor the exhibits provide any clarification as to how these entities were structured or what formal powers the parties had in them. These other entities were: Neuron Shield 2, LLC; Neuron Shield 3, LLC; Neuron Shield 4, LLC; Neuron Shield 7, LLC; Neuron Shield 9, LLC; Neuron Shield Monitoring Associates, PLLC; Neuron Integrity Texas, PLLC; Neuron Integrity 1, PLLC; Neuron Integrity Partners, LLC; and Neuron Shield Monitoring Associates, PC. Each entity is a plaintiff in this action.[5]

         The complaint also contains scant information regarding the scope and degree of plaintiffs' involvement in the Neuron Shield Enterprise. As discussed above, CGR, and in certain cases IOS, handled the day-to-day operations of the entities. It is clear that Masel was not entirely removed from the Neuron Shield Enterprise's operations, however. The complaint alleges that Masel's "established relationships with neurosurgeons and referral sources in the neurosurgical industry were critical to Neuron Shield's growth" and that these relationships "gave him an edge over other providers when competing to offer IOM services to these doctors." Masel's participation "paid off. In two and [a] half years since it was established, Neuron Shield provided over $190 Million in IOM services."

         The Neuron Shield Enterprise's revenues ultimately fell far short of what Villarreal had promised. Of the $190 million the Neuron Shield Enterprise billed for IOM services, MPS collected just $11 million. MPS was unable to collect anything on half of the claims it submitted, and it collected less than one percent of the value on three-quarters. Based on this outcome, plaintiffs allege that no "secret sauce" algorithm existed. The reimbursement cycle also lasted significantly longer than Villarreal had represented. Instead of a six-month cycle, the complaint alleges that Villarreal later stated, "in sworn courtroom testimony" given during a parallel proceeding, that the cycle takes "anywhere from 12 to 18 months." It also turned out, unbeknown to plaintiffs, that defendants had many other clients who provided IOM services. In a "recent court hearing," Villarreal testified that MPS provided billing services to "109 or 110" IOM providers. This is contrary to what Villarreal had told Masel previously: when asked if she had any other clients, Villarreal told Masel that she worked with only one other "small" IOM provider.

         According to the complaint, defendants actively stole business from Neuron Shield entities for the benefit of their other clients. As an example, plaintiffs cite to an instance where a physician had been in discussions with Neuron Shield to use its IOM services but did not ultimately sign on. Sometime thereafter, the physician contacted Masel to ask him why, following a procedure performed by a CNIM wearing a Neuron Shield uniform, the bill for the procedure was sent to "an unknown and undisclosed entity." When Masel confronted Casarez about this development, Casarez admitted to Masel that he had redirected the physician from Neuron Shield to a competing business. When plaintiffs thereafter raised their concerns regarding defendants' conflicts of interest to Villarreal, she refused to proceed with any collections for the Neuron Shield entities "unless Neuron Shield signed over a vested interest in the uncollected accounts receivable to MPS and agreed to a one-sided confidentiality agreement." When plaintiffs refused, defendants terminated their contracts with all Neuron Shield entities.

         Plaintiffs sued defendants in federal district court. They sought relief under the Securities Exchange Act of 1934, the Texas Securities Act, Texas common law, the Racketeer Influenced and Corrupt Organizations Act ("RICO"), and the Texas Theft Liability Act. With respect to their securities-fraud claims, plaintiffs cited several misrepresentations and omissions. The precise statements alleged are set forth in the discussion below. Broadly speaking, plaintiffs alleged that defendants (1) misrepresented that a "secret sauce" algorithm existed, when in fact it did not; (2) misrepresented how much MPS was capable of collecting with this supposed algorithm and how soon collections could be expected; and (3) made material omissions by failing to disclose their intention to set up competing businesses.

         The district court dismissed each of these claims for failure to state a claim under Federal Rule of Civil Procedure 12(b)(6). With respect to plaintiffs' securities-fraud claims, the court found that plaintiffs failed to plead several of the alleged misrepresentations or omissions with sufficient particularity, that other statements were inactionable as either puffery or future predictions, and in all other cases plaintiffs had failed to adequately plead that defendants acted with scienter in making the alleged misrepresentations or omissions. The court proceeded directly to the merits of plaintiffs' claims and did not consider the threshold question (raised by the defendants) whether plaintiffs had adequately pleaded the existence of a security. The district court also dismissed plaintiffs' RICO claims on the merits and declined to exercise supplemental jurisdiction over the state-law claims. Plaintiffs appeal, arguing the district court erred in dismissing their securities-fraud claims.[6]



         We review a district court's grant of a motion to dismiss de novo, applying the same standard applied by the district court. Boyd v. Driver, 579 F.3d 513, 515 (5th Cir. 2009). To survive a motion to dismiss, "a complaint must contain sufficient factual matter, accepted as true, to 'state a claim to relief that is plausible on its face.'" Waller v. Hanlon, No. 18-10561, 2019 WL 1783558, at *4 (5th Cir. Apr. 24, 2019) (quoting Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009)). In conducting this analysis, we accept as true any well-pleaded factual allegations, but we do not accept as true legal conclusions or "'naked assertion[s]' devoid of 'further factual enhancement.'" Iqbal, 556 U.S. at 678 (alteration in original) (quoting Bell Atl. Corp. v. Twombly, 550 U.S. 544, 557 (2007)).


         Before proceeding to the merits of plaintiffs' securities-fraud claims, we must first address the threshold question-not considered by the district court-whether plaintiffs have successfully pleaded the existence of a security. Plaintiffs seek relief under § 10(b) of the Securities Exchange Act of 1934 (the "1934 Act"). 15 U.S.C. § 78j(b). To successfully state a private cause of action under § 10(b), a plaintiff must plead "(1) a material misrepresentation or omission by the defendant; (2) scienter; (3) a connection between the misrepresentation or omission and the purchase or sale of a security; (4) reliance upon the misrepresentation or omission; (5) economic loss; and (6) loss causation." Affco Invs. 2001, L.L.C. v. Proskauer Rose, L.L.P., 625 F.3d 185, 192 (5th Cir. 2010) (quoting Stoneridge Inv. Partners, LLC v. Sci.-Atlanta, Inc., 552 U.S. 148, 157 (2008)). The third factor in this test-a connection between the misrepresentation or omission and the purchase or sale of a security- requires the existence of a security. The 1934 Act defines "security" broadly to include, among other things, an "investment contract." 15 U.S.C. § 78c(a)(10). The Supreme Court has in turn interpreted "investment contract" to mean "a contract, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party." SEC v. W.J. Howey Co., 328 U.S. 293, 298-99 (1946).[7] We have gleaned from this statement a three-factor test, requiring plaintiffs to show "(1) an investment of money; (2) in a common enterprise; and (3) on an expectation of profits to be derived solely from the efforts of individuals other than the investor." Williamson v. Tucker, 645 F.2d 404, 417 (5th Cir. May 1981). In conducting this analysis, "form should be disregarded for substance and the emphasis should be on economic reality." United Hous. Found., Inc. v. Forman, 421 U.S. 837, 848 (1975) (quoting Tcherepnin v. Knight, 389 ...

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