© 2016 The Texas Lawbook.
By Mark Curriden
(Oct. 3) – Plaintiffs seeking class-action status in federal civil racketeering lawsuits in Texas, Louisiana and Mississippi alleging illegal pyramid schemes saw their path to victory in the courtroom get significantly easier this weekend.
In an 11-5 en banc decision, the U.S. Court of Appeals for the Fifth Circuit ruled late Friday that a trial judge in Houston was correct when he granted class action status to alleged victims in a lawsuit against a multilevel marketing unit of utility provider Stream Energy.
While the decision is a victory for about 150,000 sales representatives who claim they lost money as part of the pyramid scheme, legal experts say the impact of the federal appellate court’s decision could be much broader.
Lawyers on both sides of this case say the opinion signals a major shift by the Fifth Circuit, which is widely viewed as the most conservative federal jurisdiction in the U.S., to be more open-minded in civil litigation brought by individual plaintiffs.
The Fifth Circuit, according to some legal experts, has been so staunchly pro-business during the past two decades that most of its judges have been openly hostile to even clearly legitimate class-action lawsuits. They say Friday’s ruling simply brings the Fifth Circuit more in line with recent decisions by the U.S. Supreme Court and other federal circuits.
Pro-corporate appellate experts, however, contend that Friday’s opinion goes well beyond recent Supreme Court guidelines and actually makes the Fifth Circuit now one of the most pro-plaintiff in the country when it comes to granting class-action status. They say the court’s decision will fuel an increase in class action cases being sought in Texas.
Critics of the decision point to the three strongly-worded dissents that accuse the majority of cavalierly disregarding the evidence in the case.
“At the very least, this decision is a very important clarification regarding old Fifth Circuit cases, which have been viewed as extremely hostile to class-action litigation,” says David Coale, a partner at Lynn Pinker Cox & Hurst who specializes in appellate law.
Dallas-based Stream Energy does not produce energy but acts as a middleman that buys gas and electricity from actual utilities and then resells them to customers in deregulated energy markets.
The plaintiffs claim that Stream, a privately held company, makes almost no profits from its sale of energy. Instead, the lawsuit claims that Stream is “set up like a classic pyramid scheme to make almost all of its money through the recruitment of salespeople,” who are called “independent associates.”
Stream’s marketing arm, which is called Ignite, operates a multi-level marketing program in which a person pays Stream $320 to become an independent associate. These contractors are paid only when they sign up consumers or other independent associates.
The plaintiffs claim that Stream’s market has “become saturated” in recent years and that 86 percent of independent associates “lost money as a result of their participation in the IA program.”
The lawsuit, which was filed under the civil litigation provisions of the U.S. Racketeer Influence and Organized Crime Act, claims that independent associates collectively lost $87 million, while only “a miniscule number of individuals have made significant sums of money.”
In its bid for class-action status, the plaintiffs contended that “RICO’s causation requirement could be satisfied by class-wide proof that their joining Ignite was a direct and foreseeable result of the Defendants’ engaging in a pyramid scheme.
“Proximate cause could also be shown, they argued, through a common sense inference that they were duped into joining the pyramid scheme based on the representation that Ignite is a legitimate enterprise,” according to court documents.
U.S. District Judge Kenneth M. Hoyt granted the plaintiffs class-action status in 2014.
Stream Energy appealed to the Fifth Circuit. A three-judge panel, led by Judges E. Grady Jolly and Edith Brown Clement, reversed, stating that individual causation issues would predominate at trial.
“We hold that reliance cannot be inferred merely because a business is alleged to be a pyramid scheme, particularly when the record in this case suggests that investors were told that it was a pyramid scheme,” Judge Jolly wrote. “Such an inference is unsupported by our precedents or by the precedents in other circuits.”
The full Fifth Circuit surprised the lawyers in the case and granted an en banc review.
In a stunning 11-5 vote, the appellate court judges sided with Judge Hoyt and said that the three-judge panel’s decision was “at odds with recent decisions from the Supreme Court and this court emphasizing that RICO claims predicated on mail and wire fraud do not require first-party reliance to establish that the injuries were proximately caused by the fraud.”
In a 25-page opinion jointly authored by Judges Jacques Wiener and Gregg Costa, the court wrote that “pyramid schemes are per se mail fraud, which include inherent concealment about the deceptive payment scheme, one who participates in a pyramid scheme can be harmed ‘by reason of’ the fraud regardless of whether he or she relied on a misrepresentation about the scheme.”
“If the Plaintiffs prove that Ignite is a fraudulent pyramid scheme, they may use a common inference of reliance to prove proximate causation under RICO,” the judges wrote.
“Evidence indicating that a few class members decided to take the risk of being a winner in an illegal pyramid scheme does not automatically rebut the inference of reliance for the overwhelming remainder of class members or mean that individual issues concerning the atypical knowing fraudsters will predominate at trial,” the Fifth Circuit decided. “This is underscored by the fact that the instant class is comprised of only those who lost money participating in Ignite’s program.”
The Fifth Circuit majority offered Stream Energy some hope of relief when the case gets sent back to Houston.
“The district court may revisit its decision and choose to decertify the class should the Defendants eventually produce individualized rebuttal evidence causing their individualized defense to predominate,” the judges wrote.
In his dissent, Judge Jolly states that “the majority errs in its cavalier disregard of evidence of individualized knowledge among the class members.
“The majority concludes that the plaintiffs have met Rule 23’s predominance inquiry with respect to causation under RICO simply because there is evidence suggesting Ignite was a pyramid scheme,” Judge Jolly wrote. “In reaching this holding, the majority opinion ignores that, from the outset of their involvement with Ignite, the plaintiffs were provided all the information needed to warn investors of Ignite’s likely illegality.”
Lawyers say that Stream Energy has two choices: petition the U.S. Supreme Court for certiorari or go back to the trial judge and ask for decertification of the class action.
“As the multiple dissenting opinions reflect, this is a highly controversial lawsuit,” Stream Energy General Counsel Daniel Terrell said in a written statement.
“Judges Jones and Clement, for example, call it ‘an affront to the rule of law.’ As they note, ‘even plaintiffs’ counsel do not really believe Stream runs an illegal pyramid marketing scheme.’ After all, ‘Stream sells a lot of real product to real people at favorable prices,’” Terrell said. “The real purpose of this suit, they conclude, is to ‘simply strong-arm a settlement.’ Stream will continue to vigorously defend its rights and the rule of law.”
To read the full majority opinion and the dissenting opinion’s click here: www.ca5.uscourts.gov/opinions/pub.pdf.
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