The opinion of the court was delivered by: MARY JOHNSON LOWE
Before this Court is the motion filed July 12, 1991 by Deloitte & Touche ("D&T") to dismiss for failure to state a claim and for failure to plead fraud with particularity. Fed. R. Civ. P. 12(b)(6), 9(b). For the following reasons, D&T's motion to dismiss is denied with respect to plaintiffs' federal securities claim, but granted with respect to plaintiffs' state law negligence claim.
Defendant's motion was referred to Magistrate Judge Naomi Reice Buchwald, who issued a Report and Recommendation ("R&R") on May 29, 1992. Plaintiffs filed objections to the R&R pursuant to 28 U.S.C. § 636(b)(1), and defendants filed a reply to plaintiffs' objections.
The R&R's detailed account of the facts is adopted for purposes of this opinion. A brief recital of the most salient points will suffice. Plaintiffs CMNY Capital, L.P. ("CMNY") and Permal Capital Partners, L.P. ("Permal") brought this suit to recover $ 6.054 million they invested in Collectors Guild, Inc. ("Guild") between January 1989 and March 1990. Guild went bankrupt in 1990, but its accountant Touche Ross & Co. ("Touche") remains solvent in the guise of successor D&T. During the relevant time period, two of plaintiffs' principals served as directors of Guild.
The standards for deciding a motion under rule 12(b)(6) are well-settled. A court's task
is necessarily a limited one. The issue is not whether a plaintiff will ultimately prevail but whether the claimant is entitled to offer evidence to support the claims. Indeed it may appear on the face of the pleadings that a recovery is very remote and unlikely but that is not the test. Moreover, . . . the allegations of the complaint should be construed favorably to the pleader.
Scheuer v. Rhodes, 416 U.S. 232, 236, 40 L. Ed. 2d 90, 94 S. Ct. 1683 (1974). A complaint "should not be dismissed for failure to state a claim unless it appears beyond doubt that the plaintiff can prove no set of facts in support of his claim which would entitle him to relief." Conley v. Gibson, 355 U.S. 41, 45-46, 2 L. Ed. 2d 80, 78 S. Ct. 99 (1957).
In addition to the usual requirements of rule 12(b)(6), a plaintiff bringing a claim under § 10(b) must state with particularity the circumstances of the alleged fraud. Fed. R. Civ. P. 9(b); Decker v. Massey-Ferguson, Ltd., 681 F.2d 111, 115 (2d Cir. 1982). Rule 9(b) has been interpreted to require that a plaintiff allege facts that give rise to a "strong inference" of fraudulent intent. Kramer v. Time Warner, Inc., 937 F.2d 767, 776 (2d Cir. 1991); Ouaknine v. MacFarlane, 897 F.2d 75, 80 (2d Cir. 1990); Cosmas v. Hassett, 886 F.2d 8, 13 (2d Cir. 1989); Connecticut Nat'l Bank v. Fluor Corp., 808 F.2d 957, 962 (2d Cir. 1987).
A. § 10(b) Aider and Abettor Liability
Plaintiffs' first claim is that Touche violated § 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), and rule 10b-5 of the associated Securities and Exchange Commission regulations. 17 C.F.R. § 240.10b-5. Plaintiffs do not allege direct violations by Touche; rather, they allege that Touche is liable as an "aider and abettor" of Guild's violations. Liability under § 10(b) and rule 10b-5 requires proof that the defendant acted with scienter. Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193, 47 L. Ed. 2d 668, 96 S. Ct. 1375 (1976). For purposes of rule 12(b)(6), a complaint sufficiently pleads an accountant's liability as an aider and abettor if it charges:
(1) A violation of section 10(b) by the accountant's client;
(2) Knowledge of the client's violation on the part of the accountant; and
(3) Substantial assistance by the accountant in the accomplishment of the violation.
Decker, 681 F.2d at 119; IIT, An Int'l Inv. Trust v. Cornfeld, 619 F.2d 909, 922 (2d Cir. 1980). These elements are not sharply distinct from one another; the statutory scienter requirement is loosely interwoven among all three. See IIT, 619 F.2d at 922.
Scienter, the operative mental state requirement of § 10(b) as that section is interpreted by the Supreme Court, is defined as "a mental state embracing intent to deceive, manipulate, or defraud." Ernst & Ernst, 425 U.S. at 194 n.12.
In this circuit, "reckless conduct will generally satisfy the scienter requirement," IIT, 619 F.2d at 923 (emphasis omitted), but "special considerations" apply where aiders and abettors are concerned. "If the alleged aider and abettor owes a fiduciary duty to the plaintiff, recklessness is enough. If there is no fiduciary duty . . . the assistance rendered must be knowing and substantial." Armstrong v. McAlpin, 699 F.2d 79, 91 (2d Cir. 1983) (citations omitted).
Magistrate Judge Buchwald acknowledged that recklessness can satisfy the scienter requirement, but found that plaintiffs' complaint fails to allege recklessness in terms that can give rise to a "strong inference of intent." R&R at 16-17. As noted above, numerous cases in this circuit have recited the "strong inference of intent" language in deciding whether a complaint satisfies rule 9(b) in a § 10(b) action. Kramer, 937 F.2d at 776; Ouaknine, 897 F.2d at 80; Cosmas, 886 F.2d at 13; Connecticut Nat'l Bank, 808 F.2d at 962.
Rule 9(b) pretermits claims that cannot be supported by strong inferences from the allegations. But rule 9(b) cannot require that those inferences support more than is necessary to state the claims. Rule 9(b) demands a strong inference of "intent" in a § 10(b) case only in the sense that "intent" means "scienter." Scienter is a flexible standard, and rule 9(b) must flex in tandem. Thus, the Second Circuit has reasoned that "'allegations of scienter are sufficient if supported by facts giving rise to a 'strong inference' of fraudulent intent.' For Rule 10(b)(5) purposes, scienter includes recklessness." Breard v. Sachnoff & Weaver, Ltd., 941 F.2d 142, 144 (2d Cir. 1991) (quoting Ouaknine v. MacFarlane, 897 F.2d 75, 81 (2d Cir. 1990)). The Court went on to find that the plaintiff's allegations established "a relatively strong inference that [the defendant] was reckless." Id. It follows that when an alleged aider and abettor is a non-fiduciary, rule 9(b) requires allegations ...