United States District Court, S.D. New York
December 19, 2014
GEORGE SARAFIANOS, et al., Plaintiffs,
SHANDONG TADA AUTO-PARKING CO., LTD., Defendant. SHANDONG TADA AUTO-PARKING CO., LTD., Third-Party Plaintiff,
CORINTHIAN PARTNERS, L.L.C. and K&L GATES LLP, Third-Party Defendants.
Robert S. Bernstein, Esq., Bernstein-Burkley, P.C., Pittsburgh, Pennsylvania, for Plaintiffs.
Yi Lin, Esq., Law Office of Yi Lin, New York, NY, for Third-Party Plaintiff.
Peter R. Silverman, Esq., Donald F. Schneider, Esq., Silverman Shin Byrne & Gilchrest PLLC, New York, NY, for Third-Party Defendant Corinthian Partners LLC.
Frederick B. Warder, III, Esq., Melissa R. Ginsberg, Esq., Patterson, Belknap, Webb & Tyler LLP, New York, NY, for Third-Party Defendant K&L Gates LLP.
OPINION AND ORDER
SHIRA A. SCHEINDLIN, District Judge.
Third-Party Plaintiff Shandong Tada Auto-Parking Co., Ltd. ("Shandong") has filed a Third-Party Complaint ("Complaint") against Corinthian Partners, LLC ("Corinthian") and K&L Gates LLP ("K&L Gates") (together, "defendants"), alleging securities fraud,  common law fraud, and negligent misrepresentation. Defendants now seek dismissal of the Complaint for failure to state a claim upon which relief can be granted pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure. For the following reasons, defendants' motions are GRANTED and the Complaint is DISMISSED in its entirety.
A. The Investors's Complaint
Shandong is the defendant in a pending action brought by a group of investors (the "Investors") asserting a claim for breach of contract relating to a Purchase Agreement entered into in January 2011. An understanding of the Investors's allegations helps place Shandong's third-party action in context. The Investors allege that in 2010 in Beijing, Shandong signed a non-binding Term Sheet with Corinthian, which summarized the proposed terms of a bridge loan Shandong intended to obtain through Corinthian. The Term Sheet states that it "is not intended to be and should not be construed as a commitment to lend.... The final documentation... will be subject to approval by [Shandong], Corinthian, and the Lenders."
The Investors allege that Shandong sold and issued to them debentures pursuant to the Purchase Agreement. The Purchase Agreement provided the Investors with the option of converting all or part of the debentures into shares of a holding company to be created by Shandong for the purpose of a reverse merger. Each of the Investors transferred funds to Shandong through Shandong's Escrow Agent, K&L Gates. The loan was to mature on September 30, 2011 or on a later negotiated financing date. No new financing date was negotiated and Shandong has not repaid the Investors. The Investors seek the return of their initial investment plus interest. They do no seek shares of the holding company.
While the Investors's breach of contract claim may seem straightforward, Shandong contends that it never entered into the Purchase Agreement, and did not know it existed until after the Investors brought suit. Shandong admits that it entered into the Term Sheet with Corinthian, acting as agent, but claims that it never heard from Corinthian again after execution of the Term Sheet.
The Purchase Agreement was signed by David Dodge, allegedly acting in the capacity of Shandong's Chief Financial Officer. Dodge also signed the debentures, an Escrow Agreement designating K&L Gates Escrow Agent, and a Form D Notice of Exempt Offering of Securities with the United States Securities and Exchange Commission. All of these documents were prepared by K&L Gates. However, Shandong disavows having had any relationship with David Dodge and K&L Gates or authorizing its entry into the Purchase Agreement or any of the other transaction documents. The Complaint states that while "Shandong Tada Auto-Parking Co., Ltd." is written in English in the Purchase Agreement and other deal documents, the corresponding Chinese characters refer to "Beijing Xuanyixing Bio-Technology Co., Ltd." or "Tianjin City Tianyi Seamless Steel Tube Manufacturing Co., Ltd."
The Complaint alleges that Corinthian, acting either directly or through David Dodge, improperly and without Shandong's knowledge or consent signed the transaction documents. The Complaint states that Corinthian controlled Dodge who it retained "to sign [documentation], in pretense as a representative of Shandong." The Complaint also alleges that K&L Gates authored the deal documents without Shandong's authorization or knowledge.
The Complaint states that defendants "misrepresented the non-binding nature and effect of the Term Sheet in the process of procuring Plaintiffs' investments." And the Complaint alleges that defendants had motive and opportunity to commit fraud because they were compensated for their work on the transaction, and that defendants "committed fraud with the intent to decei[ve] the [Investors.]"
II. STANDARD OF REVIEW
A. Rule 12(b)(6) Motion to Dismiss
In deciding a motion to dismiss pursuant to Rule 12(b)(6), the court "must accept all non-conclusory factual allegations as true and draw all reasonable inferences in the plaintiff's favor." "When there are well-pleaded factual allegations, a court should assume their veracity and then determine whether they plausibly give rise to an entitlement for relief." A claim is plausible "when the plaintiff pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged." Plausibility requires "more than a sheer possibility that a defendant has acted unlawfully."
When deciding a motion to dismiss, "a district court may consider the facts alleged in the complaint, documents attached to the complaint as exhibits, and documents incorporated by reference in the complaint." A court may also consider a document that is not incorporated by reference "where the complaint relies heavily upon its terms and effect,  thereby rendering the document integral' to the complaint."19 When a securities fraud complaint alleges that material misstatements or omissions were made in public documents required to be filed with the SEC, a court may take judicial notice of such documents, as well as "related documents that bear on the adequacy of the disclosure...."
B. Heightened Pleading Standard for Fraud Claims
Federal Rule of Civil Procedure 9(b) requires that the circumstances constituting fraud be alleged with particularity, although "[m]alice, intent, knowledge, and other conditions of a person's mind may be alleged generally." The Private Securities Litigation Reform Act of 1955 ("PSLRA") adds that in private securities fraud cases the complaint must "specify each statement alleged to have been misleading [and] the reason or reasons why the statement is misleading." In addition, "the complaint shall, with respect to each act or omission alleged to violate this chapter, state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind."
C. Leave to Replead
Federal Rule of Civil Procedure 15(a)(2) provides that, other than amendments as a matter of course, "a party may amend [its pleading] only by leave of court or by written consent of the adverse party." Although "[t]he Court should freely give leave when justice so requires, " it is "within the sound discretion of the district court to grant or deny leave to amend."
When a motion to dismiss is granted, "[i]t is the usual practice... to allow leave to replead." But where a plaintiff inadequately pleads a claim and cannot offer additional substantive information to cure the deficient pleading, granting leave to replead is futile.
III. APPLICABLE LAW
A. Securities Fraud
Section 10(b) of the Exchange Act prohibits using or employing, "in connection with the purchase or sale of any security... any manipulative or deceptive device or contrivance...." Rule 10b-5 makes it illegal to "make any untrue statement of a material fact or to omit to state a material fact... in connection with the purchase or sale of any security."
To sustain a claim for securities fraud under Section 10(b), "a plaintiff must prove (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." To satisfy the first element, a securities fraud plaintiff must "(1) specify the statements that the plaintiff contends were fraudulent, (2) identify the speaker, (3) state where and when the statements were made, and (4) explain why the statements were fraudulent."
A plaintiff may establish scienter by alleging facts that either (1) show that the defendant had both the "motive and opportunity" to commit the alleged fraud, or (2) "constitute strong circumstantial evidence of conscious misbehavior or recklessness." "When the defendant is a corporate entity, ... the pleaded facts must create a strong inference that someone whose intent could be imputed to the corporation acted with the requisite scienter." The Supreme Court instructs that scienter is adequately pled when "a reasonable person would deem the inference of scienter cogent and at least as compelling as any opposing inference one could draw from the facts alleged.
"Reliance by the plaintiff upon the defendant's deceptive acts is an essential element of the § 10(b) private cause of action." To plead loss causation, a plaintiff must allege that "the misstatement or omission concealed something from the market that, when disclosed, negatively affected the value of the security."
B. Common Law Claims
1. Common Law Fraud
The elements of a fraudulent misrepresentation claim are: "(1) a material misrepresentation or omission of fact (2) made by defendant with knowledge of its falsity (3) and intent to defraud; (4) reasonable reliance on the part of the plaintiff; and (5) resulting damage to the plaintiff." These elements essentially mirror those involved in a section 10(b) claim.
A claim for fraudulent concealment or omission requires the same allegations as a fraudulent misrepresentation claim, along with "an allegation that the defendant had a duty to disclose material information and that it failed to do so." But "[a] duty to speak cannot arise simply because two parties may have been on opposite sides of a bargaining table when a deal was struck between them, for under New York law, the ancient rule of caveat emptor is still alive and well.'"
2. Negligent Misrepresentation
To state a claim for negligent misrepresentation, a plaintiff must allege that
(1) the defendant had a duty, as a result of a special relationship, to give correct information; (2) the defendant made a false representation that he or she should have known was incorrect; (3) the information supplied in the representation was known by the defendant to be desired by the plaintiff for a serious purpose; (4) the plaintiff intended to rely and act upon it; and (5) the plaintiff reasonably relied on it to his or her detriment. "[L]iability in the commercial context is imposed only on those persons who possess unique or specialized expertise, or who are in a special position of confidence and trust with the injured party such that reliance on the negligent misrepresentation is justified.'"
A. The Complaint Does Not State a Claim Under Section 10(b)
As this case shows, section 10(b) does not apply to every alleged fraud involving securities. To give rise to a claim, the fraud most be connected in a meaningful way to the purchase or sale of securities. Thus, courts in this Circuit routinely reject attempts to transform putative fraud or breach of contract claims into section 10(b) claims.
One reason the conduct alleged in the Complaint is not actionable under section 10(b) is that the alleged fraud does not relate to an investment decision made by Shandong. While defendants' alleged conduct may have affected the Investors's investment decisions, it could not have affected Shandong's investment decisions. Indeed, Shandong alleges that it did not know about the Purchase Agreement until 2014, years after it was executed.
Another problem is that only actual purchasers or sellers of securities have standing to bring private damages claims under section 10(b). Shandong lacks standing because it does not allege that it was either a purchaser or seller of securities. While Shandong argues that it has standing under the "forced sale" doctrine set forth in Vine v. Beneficial Finance Co., Vine is inapposite.
In Vine, a minority shareholder was considered a forced seller because the corporation had required minority shareholders to sell their shares for cash or else their stock would become worthless. The limited exception set forth in Vine - if still viable after Blue Chip Stamp - only applies when the plaintiff's investment position has been fundamentally altered by a forced sale. However, Shandong has not - and cannot - allege that its investment position has been fundamentally altered by an alleged forced sale.
Finally, the section 10(b) claim must be dismissed as to K&L Gates for the independent reason that the thrust of the Complaint is that K&L Gates was acting as Corinthian's agent when it prepared the Form D and other documents. But holding K&L Gates liable for this conduct would be contrary to the holding of Central Bank of Denver v. First Interstate Bank of Denver.  In Central Bank, the Supreme Court held that section 10(b) imposes liability only on persons who, themselves, make a material misstatement or omission, and that there is no liability for aiding and abetting fraudulent conduct. As the Complaint does not allege that any misstatement was attributable to K&L Gates as opposed to a party it represented, K&L Gates cannot be held liable under section 10(b).
B. The Complaint Does Not Plead the Elements of Securities Fraud
Shandong's Complaint must also be dismissed because it fails to plead several elements of a section 10(b) claim and lacks the specificity required by Rule 9(b) and the PSLRA. For example, many of the key allegations are pled on information and belief. Under the PSLRA, "if an allegation regarding the statement or omission is made on information and belief, the complaint shall state with particularity all facts on which that belief is formed." The Complaint's conclusory and speculative allegations do not satisfy this requirement.
1. The Complaint Fails to Allege a Material Misrepresentation
The most specific allegation of a misrepresentation is that defendants "misrepresented the non-binding nature and effect of the Term Sheet in the process of procuring Plaintiffs' investments." However, this allegation does not satisfy Rule 9(b) or the PSLRA in that it fails to identify a specific statement, the maker of the statement, and where or when the statement was made.
2. The Complaint Fails to Allege Scienter
The Complaint's scienter allegations consist almost entirely of legal conclusions that are not entitled to a presumption of truth. Generalized allegations that defendants committed the fraud to generate fees are insufficient as a matter of law. Given the ease with which the alleged fraud could have been detected, it was incumbent on Shandong to allege some plausible motive for the fraud beyond the opportunity to earn transaction fees. Lacking this, the Complaint does not give rise to the required strong inference of scienter.
3. The Complaint Fails to Allege Reliance and Loss Causation
The Complaint fails to allege that Shandong relied on any of Corinthian's or K&L Gates's alleged misrepresentations or omissions. Instead, the Complaint alleges that the Investors relied on these misrepresentations or omissions. In addition, Shandong does not allege that a misstatement or omission affected the value of a security.
C. The Complaint Fails to Plead the Required Elements of Common Law Fraud and Negligent Misrepresentation
1. The Complaint Fails to Plead Common Law Fraud
Shandong does not separately address defendants' arguments regarding its common law fraud claim, and instead relies on its arguments in connection with the section 10(b) claim. The failure to allege that Shandong - rather than the Investors - relied on defendants' misrepresentations or omissions is fatal to Shandong's claim for common fraud law. Moreover, because Shandong claims that it was not aware of the Purchase Agreement until 2014, it could not have relied on any misrepresentations or omissions concerning the Purchase Agreement.
The Complaint also does not state a claim for fraudulent concealment or omission. This is because the Complaint does not allege that defendants owed Shandong a duty to disclose material information. Instead, the Complaint alleges that Corinthian - but not K&L Gates - owed the Investors a duty of disclosure.
2. Failure to Plead Negligent Misrepresentation
As a threshold matter, Shandong has conceded that the Complaint does not state a claim for negligent misrepresentation by not addressing defendants' arguments for dismissal of this claim. Furthermore, the Complaint fails to allege, inter alia, that defendants had a special relationship with Shandong or that Shandong relied on any false statements made by defendants.
D. Leave to Amend
Shandong neither requested leave to amend nor responded to defendants' arguments seeking dismissal with prejudice. However, it would be inappropriate to dismiss the fraud and negligent misrepresentation claims with prejudice because their dismissal is based entirely on a failure of pleading. At the same time, certain of the defects warranting dismissal of the section 10(b) claim - e.g., lack of standing - cannot be cured by repleading. Accordingly, the section 10(b) claim is dismissed with prejudice.
For the foregoing reasons, defendants' motions are GRANTED and the Complaint is DISMISSED in its entirety. The section 10(b) claim is dismissed with prejudice. Any amended pleading must be filed no later than January 12, 2015. The Clerk of Court is directed to close these motions [Docket Nos. 50 and 54] and the third-party action.