UNITED STATES DISTRICT COURT FOR THE SOUTHERN DISTRICT OF NEW YORK
April 12, 1983
AERONCA, INC., Plaintiff,
MICHAEL GORIN, et al., Defendants
The opinion of the court was delivered by: GOETTEL
This is a diversity action by Aeronca, Inc. (Aeronca) against three officers of the Frigitemp Corporation (Frigitemp),
a New York Corporation that is now in bankruptcy,
and several partners of Arthur Andersen & Co. (the Andersen defendants),
a public accounting firm that, from 1973 until 1979, was the independent public accountant for Frigitemp.
Before this Court is the Andersen defendants' motion to dismiss the amended complaint.
This lawsuit arises from Frigitemp's failure to make payments under a contract with Aeronca entered into in June 1973. Simply stated, Aeronca agreed, inter alia, to manufacture panels for installation by Frigitemp on naval vessels pursuant to a contract with Litton-Ingalls,
and Frigitemp agreed, inter alia, to make periodic progress payments to Aeronca. Soon after work began, however, Aeronca encountered difficulty in collecting the progress payments from Frigitemp; of the twenty-one invoices submitted to Frigitemp between January 1974 and October 1975, eighteen were paid from nine to ninety-six days after their due dates, and four were never paid.
Frigitemp's failure to meet its obligations under the contract finally prompted Aeronca, in 1976, to bring suit against Frigitemp to collect on the unpaid invoices and to recover the costs incurred by delays allegedly caused by Frigitemp.
Aeronca's claims were never resolved, however, because, in 1978, the action was stayed as a result of Frigitemp's petition for an arrangement pursuant to Chapter XI of the Bankruptcy Act. See supra note 2.
This action, which was commenced in 1980, is another attempt to recoup the losses Aeronca suffered as a result of its dealings with Frigitemp. Aeronca contends that, when it encountered difficulties in collecting the progress payments, it grew concerned about Frigitemp's financial condition and, therefore, requested copies of Frigitemp's financial statements audited and certified by Arthur Andersen & Co. for the years 1973-1976. It further alleges that it decided to continue work under the contract and to extend credit to Frigitemp for the amount of the unpaid invoices because the statements portrayed Frigitemp as a financially healthy company
-- a false and misleading picture.
According to Aeronca, the Andersen defendants' conduct in preparing and certifying these statements subjects them to liability for common law fraud, aiding and abetting a common law fraud, and negligence.
The Andersen defendants filed the present motion to dismiss in 1982. They contend that the complaint does not state a claim for fraud, that there is no tort of aiding and abetting a common law fraud, that the negligence claim fails because Aeronca was not in privity with the Andersen defendants, and that the negligence claims are barred by the statute of limitations. For the reasons stated below, this motion is granted in part and denied in part.
Turning first to the fraud claim, the Court notes that, to prevail on a claim for common law fraud, the plaintiff must prove that the defendant made a false representation of fact, that the defendant made the representation with scienter, that the defendant intended the plaintiff to act or to refrain from acting in reliance on the misrepresentation, that the plaintiff justifiably relied upon the misrepresentation in taking, or refraining from, action, and that the plaintiff sustained pecuniary loss as a result of this reliance. W. Prosser, Handbook of the Law of Torts § 105, at 685-86 (4th ed. 1971); see Jo Ann Homes at Bellmore, Inc. v. Dworetz, 25 N.Y.2d 112, 119, 250 N.E.2d 214, 217, 302 N.Y.S.2d 799, 803 (1969). In this case, the only issue is whether the allegations of the complaint could support a finding of scienter. The Andersen defendants contend that the allegations of the complaint amount only to negligence and that, therefore, Aeronca's claim of fraud must be dismissed. This Court disagrees.
A false statement is made with scienter if it is made with knowledge that the statement is false. W. Prosser, supra, § 107, at 699-702. Additionally, recklessness can take the place of actual knowledge under New York law. As the New York Court of Appeals noted,
[a] representation certified as true to the knowledge of the accountants when knowledge there is none, a reckless misstatement, or an opinion based on grounds so flimsy as to lead to the conclusion that there was no genuine belief in its truth, are all sufficient upon which to base liability. A refusal to see the obvious, a failure to investigate the doubtful, if sufficiently gross, may furnish evidence leading to an inference of fraud so as to impose liability for losses suffered by those who rely on the balance sheet.
State Street Co. v. Ernst, 278 N.Y. 104, 112, 15 N.E.2d 416, 419 (1938); accord, Ultramares Corp. v. Touche, 255 N.Y. 170, 179, 174 N.E. 441, 444 (1931) ("Fraud includes the pretense of knowledge when knowledge there is none.").
In this instance, Aeronca alleges that the Andersen defendants knew that the information contained in the financial statements was materially false and misleading and that the statements would be relied upon by Aeronca and other creditors in extending credit to Frigitemp. Amended Complaint para. 16(a).
If Aeronca proves this allegation at trial, it will have satisfied the scienter requirement for common law fraud.
Thus, it has alleged scienter sufficiently to state a claim against the Andersen defendants for common law fraud,
and it would be improvident to conclude at this juncture that there is no set of facts that would entitle Aeronca to relief. See Conley v. Gibson, 355 U.S. 41, 45-46, 2 L. Ed. 2d 80, 78 S. Ct. 99 (1957).
In reaching this conclusion, the Court is mindful of Dworman v. Lee, 83 A.D.2d 507, 441 N.Y.S.2d 90 (1st Dep't 1981), aff'd, 56 N.Y.2d 816, 438 N.E.2d 103, 452 N.Y.S.2d 570 (1982), a case heavily relied upon by the Andersen defendants. In Dworman, a case in which the plaintiffs sued Arthur Andersen & Co. for fraud and negligence in connection with the firm's preparation of Frigitemp's financial statements for the years 1973-1976, the Appellate Division held that a complaint similar to Aeronca's amended complaint did not state a cause of action for fraud.
It noted that
notwithstanding the nomenclature of the first and second causes sounding in fraud and the language in the third cause of action that defendants "knew or should have known the falsity of their representations," we find that the first, second and third causes essentially plead negligence. These causes are not transformed into causes of action in fraud merely by pleading conclusory allegations of fraud.
Id. at 507, 441 N.Y.S.2d at 91. Because the New York Court of Appeals summarily affirmed this decision and because the Dworman complaint is quite similar to Aeronca's amended complaint, the Andersen defendants argue that this Court must follow Dworman and dismiss Aeronca's amended complaint as well.
It is unclear whether the Appellate Division dismissed the Dworman complaint for failure to plead the circumstances of the alleged fraud with particularity, N.Y. Civ. Prac. Law § 3016(b) (McKinney 1974), or for failure to state a cause of action, N.Y. Civ. Prac. Law § 3211(a) (7) (McKinney 1970).
If the complaint was dismissed pursuant to section 3016(b), Dworman would not require dismissal of Aeronca's fraud claim because Dworman would not be binding on this Court. The form of pleading in diversity cases is governed by the Federal Rules of Civil Procedure, see Hanna v. Plumer, 380 U.S. 460, 14 L. Ed. 2d 8, 85 S. Ct. 1136 (1965), in this instance, Rule 9(b). Moreover, the question whether the allegations of the complaint satisfy the requirements of Rule 9(b) is not before this Court, see supra note 12; the Andersen defendants have moved to dismiss the fraud claim solely for failure to state a claim upon which relief can be granted, see Fed. R. Civ. P. 12(b) (6).
Even if the Dworman complaint was dismissed for failure to state a cause of action, this Court does not think it prudent to dismiss Aeronca's fraud claim solely on the basis of Dworman. Both parties apparently agree that the Dworman complaint and Aeronca's amended complaint are quite similar. Thus, the complaint before the Appellate Division contained rather detailed allegations that Frigitemp's financial statements were materially false and misleading and that Arthur Andersen & Co. knew that the statements were materially false and misleading. Clearly, unless Dworman altered the law governing fraud claims in New York -- and there is nothing in the relatively short opinion to indicate that the law was being altered -- proof that the defendant knew the falsity of the representations would sustain the plaintiff's claim for fraud, assuming that the other elements of the tort had been satisfied. For the Appellate Division to have concluded that the Dworman complaint did not state a cause of action for fraud, therefore, it must have looked beyond the pleadings and determined that proof of the defendant's knowledge was unlikely. This Court, however, cannot go beyond the pleadings and make such a determination. A federal court's role on a motion to dismiss for failure to state a claim is a limited one: it must accept the plaintiff's well-pleaded allegations at face value, Heit v. Weitzen, 402 F.2d 909, 913 (2d Cir. 1968), cert. denied, 395 U.S. 903, 23 L. Ed. 2d 217, 89 S. Ct. 1740 (1969), construe the allegations in the complaint in the plaintiff's favor, Scheuer v. Rhodes, 416 U.S. 232, 236, 40 L. Ed. 2d 90, 94 S. Ct. 1683 (1974), and dismiss the complaint only if "it appears beyond doubt that the plaintiff can prove no set of facts in support of his claim that would entitle him to relief." Conley v. Gibson, supra, 355 U.S. at 45-46 (footnote omitted). See generally Wade v. Johnson Controls, Inc., 693 F.2d 19, 22 (2d Cir. 1982). As Aeronca has alleged facts that, if proven, could entitle it to prevail on its fraud claim, this Court cannot grant the Andersen defendants' motion at this time.
II. Aiding and Abetting
Aeronca also claims that the Andersen defendants are liable for aiding and abetting a common law fraud. The Andersen defendants, however, argue that the claim must be dismissed because there is no such tort. This Court disagrees.
Although the Seventh Circuit has held that there is no such tort as aiding and abetting a common law fraud, Cenco Inc. v. Seidman & Seidman, 686 F.2d 449, 452-53 (7th Cir.), cert. denied, 459 U.S. 880, 103 S. Ct. 177, 74 L. Ed. 2d 145 (1982), we are unaware of any New York court or Federal court in this Circuit that has reached the same conclusion. Indeed, Aeronca has pointed out two cases in this District in which defendants have been held liable for aiding and abetting a common law fraud. Cronin v. Executive House Realty, [1982 Transfer Binder] Fed. Sec. L. Rep. (CCH) P 98,670, at 93,353-56 (S.D.N.Y. 1982); Kingstone v. Oceanography Development Corp., [1978 Transfer Binder] Fed. Sec. L. Rep. (CCH) P 96,387, at 93,349 n.9 (S.D.N.Y. 1978); see In re Investors Funding Corp. Securities Litigation, 523 F. Supp. 533, 545-46 (S.D.N.Y. 1980) (claim for aiding and abetting a common law fraud survived a motion for summary judgment). Moreover, the Second Circuit's recognition of a cause of action for aiding and abetting a violation of the antifraud provisions of the securities laws, see Sirota v. Solitron Devices, Inc., 673 F.2d 566, 575 (2d Cir.), cert. denied, 459 U.S. 838, 103 S. Ct. 86, 74 L. Ed. 2d 80 (1982); IIT, An International Investment Trust v. Cornfeld, 619 F.2d 909, 922 (2d Cir. 1980); Rolf v. Blyth, Eastman Dillon & Co., 570 F.2d 38, 47-48 (2d Cir.), cert. denied, 439 U.S. 1039, 58 L. Ed. 2d 698, 99 S. Ct. 642 (1978), leads this Court to believe that, in the absence of New York State authority to the contrary, the Second Circuit would also recognize the tort of aiding and abetting a common law fraud. Thus, this Court is not prepared to dismiss Aeronca's claim at this time.
Aeronca's final claim against the Andersen defendants is for negligently preparing and certifying the financial statements. The question that arises is whether, even if the Andersen defendants were negligent, they can be liable to Aeronca.
The leading case on the question of accountants' liability for negligence is Ultramares Corp. v. Touche, 255 N.Y. 170, 174 N.E. 441 (1931). In Ultramares, the plaintiff was a factor that made several loans to Fred Stern & Co., an importer and seller of rubber, in reliance on a financial statement prepared and certified by the defendant accounting firm. When Stern went bankrupt without repaying all of its debts to the plaintiff, the plaintiff sued the defendant for negligently preparing and certifying the financial statement and for fraud. Id. at 173-76, 174 N.E. at 442-43. The New York Court of Appeals, through Chief Judge Cardozo, dismissed the negligence claim, holding that, even though the accountant was aware that the financial statement would be used to obtain credit, he could be liable for negligently preparing and certifying that statement only to those who stand in privity with him. Id. at 189, 174 N.E. at 448 ("if there has been neither reckless misstatement nor insincere profession of an opinion, but only honest blunder, the ensuing liability for negligence is one that is bounded by the contract, and is to be enforced between the parties by whom the contract has been made"); accord, State Street Trust Co. v. Ernst, 278 N.Y. 104, 111, 15 N.E.2d 416, 418 (1938). According to Judge Cardozo,
if liability for negligence exists, a thoughtless slip or blunder, the failure to detect a theft or forgery beneath the cover of deceptive entries, may expose accountants to a liability in an indeterminate amount for an indeterminate time to an indeterminate class. The hazards of a business conducted on these terms are so extreme as to enkindle doubt whether a flaw may not exist in the implication of a duty that exposes to these consequences.
Id. at 179-80, 174 N.E. at 444.
The rule of Ultramares still remains the law of New York. See Dworman v. Lee, supra. In White v. Guarente, 43 N.Y.2d 356, 372 N.E.2d 315, 401 N.Y.S.2d 474 (1977), however, the New York Court of Appeals carved out an apparent exception to the rule. In White, one of the defendants was an accounting firm
that had been retained to perform an audit and prepare the tax returns of Guarante-Harrington Associates, a limited partnership consisting of two general partners and approximately forty limited partners. (The audit was required by the partnership agreement.) The plaintiff, a limited partner, sued the accounting firm for negligence, claiming that, in performing the audit, the firm was negligent in not ascertaining that the two general partners were withdrawing their capital contributions to the partnership in violation of the partnership agreement. Id. at 358-60, 372 N.E.2d at 317-18, 401 N.Y.S.2d at 476-77. The court held that, "at least on the facts here," the accounting firm could be liable to the plaintiff for negligence. Id. at 358, 372 N.E.2d at 317, 401 N.Y.S.2d at 476. Writing for a unanimous court, Judge Cooke noted that the accounting firm
was retained to perform an audit and prepare the tax returns of Associates, known to be a limited partnership, and the accountant must have been aware that a limited partner would necessarily rely on or make use of the audit and tax returns of the partnership, or at least constituents of them, in order to properly prepare his or her own tax returns. This was within the contemplation of the parties to the accounting retainer. In such circumstances, assumption of the task of auditing and preparing the returns was the assumption of a duty to audit and prepare carefully for the benefit of those in the fixed, definable and contemplated group whose conduct was to be governed.
Id. at 361-62, 372 N.E.2d at 318-19, 401 N.Y.S.2d at 477-78. He also added that, unlike the plaintiff in Ultramares, the plaintiff in White sought "redress, not as a mere member of the public, but as one of a settled and particularized class among the members of which the report would be circulated for the specific purpose of fulfilling the limited partnership agreed upon arrangement." Id. at 363, 372 N.E.2d at 320, 401 N.Y.S.2d at 479.
According to Aeronca, its status as a creditor-subcontractor of Frigitemp made it, like the plaintiff in White, a member of a fixed and definable group whose reliance on the financial statements was, or at least should have been, foreseen by the Andersen defendants.
Accordingly, it argues that this case falls outside the rule of Ultramares and within the exception created by White. This Court disagrees.
Aeronca reads White much too broadly.
Although there is language in White that, when taken out of context, supports Aeronca's position, the holding was a narrow one. See id. at 358, 372 N.E.2d at 317, 401 N.Y.S.2d at 476.
There was no indication that the court questioned the vitality of the Ultramares rule; indeed, the court deemed its decision consistent with Judge Cardozo's opinion. See id. at 360-63, 372 N.E.2d at 318-20, 401 N.Y.S.2d at 477-79. The court simply held that the accounting firm assumed a duty to the limited partners to act without negligence. The duty arose because the nature of the agreement between the accounting firm and the limited partnership -- to perform an audit and prepare the partnership's tax returns -- and the circumstances surrounding the agreement -- the audit was required by the partnership agreement -- made it clear that the firm's performance was for the benefit of the limited partners, who would rely on the audit and the tax returns of the partnership to prepare their own tax returns. Id. 372 N.E.2d at 318-20, 401 N.Y.S.2d at 477-79. According to the court, "the furnishing of the audit and tax return information [to the limited partners], necessarily by virtue of the relation, was one of the ends and aims of the transaction." Id. at 362, 372 N.E.2d at 319, 401 N.Y.S.2d at 478.
This case presents quite a different picture. Preparing financial statements for a public corporation is far different from conducting an audit and preparing the tax returns of a limited partnership. The Andersen defendants prepared Frigitemp's financial statements for general public distribution. See Amended Complaint para. 13. Preparation of the statements so that Aeronca and other subcontractors could utilize them was certainly not one of the "ends and aims of the transaction" as that phrase was used in White. See supra note 20 and accompanying text.
Although the Andersen defendants may have, or at least should have, realized that individuals and institutions, including Aeronca, would rely on the financial statements in extending credit to Frigitemp, such a realization is insufficient to create a duty to act without negligence. Ultramares Corp. v. Touche, supra, 255 N.Y. at 173-74, 179-89, 174 N.E. at 442, 444-48.
Aeronca is unpersuasive in its argument that there is a difference between an existing creditor
and a new creditor
when both have made a financial decision to extend credit in reliance on the same certified financial statement. Although the likelihood that a corporation will seek financing from an existing creditor may be greater than the likelihood that it will seek financing from another source, any difference in the level of foreseeability is not great enough to warrant allowing an existing creditor, but not a new creditor, to sue the accountant for negligently preparing and certifying the financial statement.
This Court believes that if an existing creditor is allowed to sue, all creditors should be allowed to sue. Of course, whatever the merits of such a course of action, it cannot be taken absent an alteration of the Ultramares rule by the New York Court of Appeals. Thus, the Andersen defendants' motion to dismiss is granted as to the negligence claim.