The opinion of the court was delivered by: Kram, District Judge.
MEMORANDUM OPINION AND ORDER
In this action involving bank loans for the refinancing and
conversion of two apartment buildings into cooperative units,
defendants have moved pursuant to Rules 12(b)(6), 12(b)(1) and
9(b) of the Federal Rules of Civil Procedure (hereinafter
"Fed.R.Civ.P.") for an order dismissing the claims in
plaintiffs' amended complaint ("Amended Complaint"). This
motion follows the Court's denial of plaintiffs' motions for
temporary injunctive relief and for appointment of receiver of
rents. Drexel Burnham Lambert Inc. v. Saxony Heights Realty
Associates, 90 Civ. 5785, Slip.Op. (available at 1990 WL 139027
(S.D.N.Y. Sept. 14, 1990)) ("Drexel I"); Drexel Burnham Lambert
Inc. v. Saxony Heights Realty Associates, 90 Civ. 5785, Slip.
Op. (available at 1990 WL 165707 (S.D.N.Y. Oct. 23, 1990))
("Drexel II"). Familiarity with those opinions is assumed.
Plaintiffs (the "Banks") are nine institutional lenders who
made non-recourse mortgage loans to several sponsors of two
cooperative apartment complexes in Queens known as Saxony
Towers and Acropolis Gardens (the "Complexes"). The
defendants*fn2 fall into four categories: the sponsors of the
buildings ("Sponsors"),*fn3 the principals
("Principals"),*fn4 the cooperative corporations of each of
the complexes ("Coop Corporations"),*fn5 and the individual
purchasers of the unsold units at the September 24, 1990
public auction ("Individual Purchasers")*fn6.
The plaintiffs lent a total of $27 million — $11 million to
the Saxony Sponsor and $16 million to the Acropolis Sponsor —
for construction work, rehabilitation, and cooperative
conversion of the rental units in the Complexes (the "Loans").
The Loans were documented in two mortgage loan commitments
dated June 19, 1987. Mortgage Loan Commitments, attached as
Exhibit A to Amended Complaint. As security for the loans, the
Banks received mortgages on the buildings and a security
interest in other assets associated with the buildings until
the implementation of the cooperative plan.
When the Complexes were converted to cooperatives in August
and September of 1988, the Sponsors sold the buildings to the
Coop Corporations. The Coop Corporations issued leases and
shares of stock to purchasers. According to the Amended
Complaint, a portion of the proceeds from the sale of
cooperative units was paid to the Banks in partial
satisfaction of the outstanding loans. The shares ("Unsold
Shares") and leases ("Proprietary Leases") that remained
unsold (the "Unsold Units") were issued back to the
During the conversion process, loan security agreements (the
"Security Agreements" or "Agreements") were signed on August
16 and September 22, 1988 between the Banks and Sponsors.
Security Agreements, attached as Exhibit B to Amended
Complaint. They provide, inter alia, that the Banks would
release their mortgages on the Complexes, and would accept as
substitute collateral for the remaining $23 million loan an
interest in the future proceeds from the sales of the Unsold
Shares and Proprietary Leases in the Complexes and the rents of
the statutory tenants in the occupied Unsold Units. According
to the Amended Complaint, certain recognition agreements (the
"Recognition Agreements") were signed concurrently with the
Security Agreements in order to induce the
Banks to enter into the Security Agreements by acknowledging
the Banks' rights under the Security Agreements. Recognition
Agreements, attached as Exhibit C to Amended Complaint. The
loans were to be non-recourse, with certain exceptions,
including personal liability for the Sponsors for willful
damage to or destruction of the collateral.*fn8
The Amended Complaint contends that the Banks entered into
the Security and Recognition Agreements based on defendants'
representations which were given to ensure the value of the
Banks' collateral. Amended Complaint, ¶ 29. The Amended
Complaint alleges the Security Agreements provided that
Sponsors were to pay maintenance for the units that remained
unsold for seven years.*fn9 Id. Sponsors allegedly represented
that they were financially sound. Id. The Security Agreements
also set a minimum sales price for the Unsold Units and set
forth a "best efforts" clause obligating Sponsors to sell the
units at their best price.*fn10 Id. According to the Amended
Complaint, Sponsors agreed not to assign or transfer any of the
Unsold Shares except upon notice and consent of plaintiffs'
loan servicing agent, Dorman & Wilson, and the Coop
Corporations agreed not to accept any termination or transfer
as long as the Loans were outstanding. Id. Plaintiffs further
allege that the Security Agreements provided that Sponsors,
insofar as they controlled the Coop Corporations as majority
shareholders, would not impair the value of the Banks' security
in the Unsold Units. Id. In the case of default, the Banks
contend, they were entitled to the rent from the statutory
tenants until their loan was repaid. Id.
In November 1989, the Sponsors ceased paying interest on the
mortgage loans. Amended Complaint, ¶ 30. The Sponsors sent the
Banks a letter on March 16, 1990, representing the value of the
Unsold Units at $45 million. Id. "Lulled by this valuation into
a false sense of security," the Amended Complaint alleges, the
Banks were fraudulently induced by the Sponsors not to take any
action to enforce their security interest when the Sponsors
defaulted on their interest payments. Id. In April 1990 the
Sponsors approached the Banks for relief from paying further
interest payments on the Loans due to the downturn in the real
estate market. Id. On May 31, 1990, the Sponsors allegedly
stated in amendments to the Cooperative Offering Plans that
they intended to continue to pay maintenance charges and
principal and interest on the Loans from such sources of
funding as rent from the tenants in the Unsold Units. Twelfth
and Thirteenth Amendments to the Cooperative Offering Plans,
attached as Exhibit E to Amended Complaint.
On July 5, 1990, the Banks received letters from the Coop
Corporations, which the Banks allege were still controlled by
the Sponsors' interest, advising them that the Unsold Shares
and Proprietary Leases had been assigned to the Holding
Corporations (to which the plaintiffs refer throughout as
"dummy corporations"), and new proprietary leases and shares
had been issued. Letters from Coop Corporations to Dorman &
Wilson, dated June 20, 1990, attached as Exhibit D to Amended
On August 1, 1990 the Coop Corporations notified the Banks
by letter that the Holding Corporations had failed to make
their July maintenance payments and threatened to terminate
the Proprietary Leases and sell the Unsold Shares if the Banks
themselves did not cure the default. Letters from Coop
Corporations to Dorman & Wilson, attached as Exhibit F to
Amended Complaint. On August 15, 1990, the Coop Corporations
notified the Banks that the Holding Corporations had also
failed to make their August maintenance payments and made the
same threat as in their August 1 letters. Letters from Coop
Corporations to Dorman & Wilson, attached as Exhibit G to
Amended Complaint. On September 17, 1990, the Banks were
notified by letter from the Coop Corporations that the
Proprietary Leases had been cancelled and the new ones would
be sold at a public auction on September 24, 1990. Letters
from Coop Corporations to Dorman & Wilson, attached as Exhibit
H to Amended Complaint.
The Banks then applied to the Court for injunctive relief
halting the auction of the Unsold Shares. On September 24,
1990, the Court denied plaintiffs' motion, finding that there
was no irreparable harm in light of the Banks' inaction in
failing to pursue available contract remedies. Drexel I, Slip
Op. at 6-7. The Coop Corporations auctioned the apartments on
September 24, 1990. The Banks then moved the Court to appoint a
receiver of rents to protect the stream of income generated by
the rent-stabilized tenants of the previously unsold shares.
The Court denied the motion because the order for equitable
relief would have affected persons not party to the action and
might have increased the negative cash flow position of the
previously unsold units. Drexel II, Slip Op. at 4.
In their Amended Complaint*fn11 the Banks assert claims for
securities fraud, RICO, fraudulent conveyance and other state
law claims sounding in tort and contract. In sum the Amended
Complaint alleges that defendants intended to obtain from the
Banks financing through fraudulent misrepresentations, and
that they never intended to fulfill their obligations to the
Banks, the statutory tenants and the owners of the units.
Id., ¶¶ 78-79.
Sponsors deny that the Security Agreements prohibited them
from transferring Unsold Units. They moreover contend that
even if they were prohibited from doing so, the Banks' remedy
for breaching the contract was to foreclose on the loans and
looked to the collateral for damages. They accuse plaintiffs
of attempting to reach past their non-recourse agreement and
involving the Sponsors in the default problem, which should be
strictly between the Coop Corporation and the Banks.
Defendants now move for dismissal of the Amended Complaint.
Defendants contend that the Banks have failed to state a claim
upon which relief may be granted for the securities fraud and
RICO claims; that they have not pled securities fraud or a
RICO violation with the requisite particularity; and that the
Court lacks subject matter jurisdiction over the state-law
claims once the federal question claims are dismissed.
I. The Securities Fraud ...