United States District Court, S.D. New York
ALPHA CAPITAL ANSTALT and ELLIS INTERNATIONAL, LTD., Plaintiff,
SCHWELL WIMPFHEIMER & ASSOCIATES LLP, DOV SCHWELL, MICHAEL HUGHES, WILLIAM SCHMITZ, ADEEB SABA, and MARK MATTHEWS, Defendants.
MEMORANDUM OPINION AND ORDER
GREGORY H. WOODS, United States District Judge
effort to develop an efficient and affordable power
co-generation system for residential and commercial
buildings, a New York startup, Arista Power, found itself in
need of funding for its projects. Instead of seeking
third-party loans, Arista affiliates contrived a plan to
privately sell stock options in its company that were held by
family members of an Arista consultant and known
securities-law violator. With the help of counsel, Arista
officers put the plan into action, sparking sales that
ultimately led to approximately $1 million in capital influx.
At the same time, however, Arista's public filings
concealed the private stock sales and instead credited the
capital infusion to a loan that the company had secured from
a third-party strawman. Following that raising of capital,
Arista was still faced with financing needs and sought
Plaintiffs' investment. Arista representatives spoke
glowingly to Plaintiffs of the company's flagship project
and its potential to light the way for future growth.
Plaintiffs invested, but less than two years later,
Arista's lights went out when the company filed for
brought this action against various Arista officers, the
company's general counsel, and the law firm of which two
of the Individual Defendants are partners. Plaintiffs allege
violations of Section 10(b) of the Exchange Act and Rule
10b-5 promulgated thereunder, as well as violations of
Section 20(a) of the Exchange Act and claims for common-law
fraud. Defendants have all moved to dismiss the amended
complaint. Because Plaintiffs' allegations insufficiently
plead loss causation; Plaintiffs' reliance on the
misstatements of certain Individual Defendants is precluded
by the parties' contractual agreements; and Arista's
counsel is not pleaded to have made the alleged misleading
statements, Defendants' motions are GRANTED in their
The Key Players in the Alleged Fraud
Power (“Arista” or “the Company”) is
a New York corporation headquartered in Rochester, New York
that was formerly known as Future Energy Solutions, Inc. and
WindTamer Corp. Amended Compl., ECF No. 74, ¶ 25. As
WindTamer Corp., the company purported to develop and sell
wind turbines and was first quoted publicly in November 2009
on the OTCQB with ticker symbol WNDT. Id. In 2010,
the company developed its “Power on Demand”
system, which utilized “inputs from multiple energy
sources including solar, wind, fuel cells, generators, and
the grid, in conjunction with a custom-designed battery
storage system and a proprietary smart monitory technology,
to release energy at optimal times to reduce peak power
demand, thereby lowering electricity costs.”
Id. ¶ 26. The first Power on Demand system was
commissioned in the first quarter of 2011. Id. In
conjunction with this shift in business operations, from
development and sales of wind turbines to the more
comprehensive Power on Demand system, WindTamer changed its
name to Arista Power and its ticker symbol to ASPW in May
2011. Id. ¶ 27.
times relevant to the issues raised in this case, Defendant
William Schmitz served as Arista Power's chief executive
officer (“CEO”) and was a member of the
company's board of directors. Id. 18. Defendant
Adeeb Saba served as Arista's chief operating officer
(“COO”). Id. ¶ 19. Defendant Mark
Matthews served as Arista's president in 2012 and 2013,
and was thereafter a representative and agent of the company.
Id. ¶ 20.
Schwell Wimpfheimer & Associates LLP (“SWA”)
is a law firm with offices in New York, New York.
Id. ¶ 17. SWA was at all relevant times primary
outside counsel to Arista Power. Id. During the
relevant period, SWA's managing partner, Defendant Dov
Schwell, also served as the chairman of the Arista board of
directors and a member of the board's audit committee.
Id. ¶ 16. As of April 28, 2010, Schwell also
served as an Arista director. Id.
Michael Hughes is an attorney admitted to the bars of the
States of New York and New Jersey and a partner at SWA.
Id. ¶ 15. Hughes was initially retained as a
legal consultant to Arista Power in July 2008. Id.
Five years later, in July 2013, Hughes assumed the role of
Arista's general counsel. Id. Hughes also served as
an executive officer of the Company. Id. ¶
Peter Kolokouris joined Hughes in becoming a consultant to
Arista Power in July 2008. Id. ¶¶ 34, 38.
Twenty years earlier, Kolokouris had been charged by the SEC
with securities fraud in connection with his alleged
misappropriation of proceeds from an initial public offering
of North Atlantic Fisheries, Inc. and his alleged receipt of
illegal kickbacks from an underwriter. Id. ¶
32. In connection with those charges, Kolokouris entered into
a consent settlement with the SEC, under the terms of which
he resigned as an officer and director of North Atlantic
Fisheries and other entities; agreed to an injunction
prohibiting him from serving as an officer or director or
owning fifty percent or more of the securities of a public
company; and disgorged over two million dollars. Id.
Kolokouris and Hughes Partner with Arista
10, 2008, Kolokouris entered into a handwritten “Option
Agreement” with Arista (then Future Energy) which
granted Kolokouris options to purchase 166, 000 shares of the
company's stock-over fifteen percent of the Company's
outstanding stock-at an exercise price of $1.00 per share.
Id. ¶¶ 34, 40. Kolokouris subsequently
assigned those stock options to entities affiliated with
Kolokouris's family. Id. ¶ 41. In the
related enforcement action, the SEC has alleged that the
purpose of this stock transfer was to evade the bar that was
imposed on Kolokouris in 1990 from owning five percent or
more of the securities of a public company. Id.
Option Agreement also granted Hughes, Kolokouris's
attorney, options to purchase 167, 000 shares of the
company's common stock at the same exercise price of
$1.00 per share. Id. ¶ 34. The Option Agreement
contained a clause stating: “The Company acknowledges
that Michael Hughes is an attorney and has represented the
Investors and has not represented the Company.”
Id. ¶ 35.
November 26, 2008, the Company disclosed that Hughes had
“provided consulting services to the company in
connection with its management structure and business
development and product marketing strategies” since
July 2008. Id. ¶ 36. The following year, the
Company further disclosed that Hughes beneficially owned 1.66
million shares of the Company's stock through 609 MTH,
Inc. and 7.89 million shares of Company stock through both
609 MTH, Inc. and another entity, 10EJH. Id. ¶
March 30, 2009, the Company disclosed that Kolokouris had
“acted as a consultant to the Company since July 2008 .
. . provid[ing] consulting services involving advice and
assistance on its management structure and business
development and developing a product marketing strategy and
publicity strategy.” Id. ¶ 38
(alterations in original). The Company also disclosed that
Kolouris's consulting role had included
“assis[ting] the Company in locating auditing services,
legal services, and assistance in locating financial market
professionals to assist the Company.” Id.
(alteration in original).
addition to its disclosure regarding Kolokouris's role as
consultant, the Company also disclosed at that time that
“Hughes ha[d] acted as consultant to the Company since
July 2008” and “[d]uring this time [ ] provided
consulting services involving advice and assistance on its
management structure and business development and developing
a product marketing strategy and publicity strategy.”
Id. ¶ 39. The Company further disclosed that
Hughes had “also assisted the Company in locating
auditing services, legal services, insurance and assistance
in locating financial market professional to assist the
The Switch is Flipped on the Plot to Privately Sell
Kolokouris Family Stock
February 2011, Hughes, at Kolokouris's request, performed
all of the legal work necessary to create TMK-ENT, Inc., an
entity nominally owned and directed by Tim Davin,
Kolokouris's neighbor. Id. ¶ 52.
in the summer of 2012, Arista faced difficulty in raising
capital for its operations. Id. ¶ 42. Hughes
and Schmitz, working with Kolokouris, recommended that Arista
raise short-term capital through private sales of the stock
options that had been transferred to the Kolokouris family
entities. Id. Kolokouris would transmit payment from
these sales to Arista after withdrawing cash from accounts
that he controlled. Id. ¶ 43.
August 2012, Arista decided to put this plan into play.
Id. ¶ 42. To effectuate the sales, Hughes and
Schmitz, among other Arista affiliates, privately offered
Kolokouris family stock to various of their acquaintances,
including their friends, family members, tennis club
associates, and others. Id. ¶¶ 44, 60.
Kolokouris directed Hughes and Schmitz with respect to what
stock to sell, the amounts to sell, and the price at which to
sell it. Id. ¶ 60. Kolokouris himself took
various steps to manipulate the price of publicly traded
Arista stock so that the privately offered stock could be
sold at an apparent discount. Id. ¶¶ 44,
76. Specifically, Kolokouris executed “manipulative
stock transactions” in his family members'
brokerage accounts and marked the closing price of Arista
stock on a number of trading days. Id. ¶ 76. In
this way, Kolokouris was able to increase and maintain
Arista's public market stock price at a price above $1.00
per share, while the private sales of Kolokouris family stock
were made at a discounted price. Id. ¶¶
fall of 2012, Hughes and Schmitz believed that the Company
was legally required to disclose the influx of new capital.
Id. ¶ 45. Accordingly, Arista's board of
directors held a telephonic meeting on August 30, 2012 to
discuss the funding. Id. ¶ 46. Among others,
Schwell, Schmitz, and Hughes were in attendance. Id.
The Company's CFO, charged with recording meeting
minutes, took handwritten notes during the meeting.
Id. Those notes indicated that Hughes discussed the
idea of Arista “founder shares” being sold
“privately to loan” funds to the Company; that
Hughes, Schmitz, and another Company associate had already
“locked in aprox $200K” in such private sales;
and that Hughes and Schmitz planned to sell “up to $1
M[illion]” in stock. Id. (alteration in
after that meeting, the CFO emailed a typewritten draft of
her minutes from the August 30, 2012 meeting to Hughes for
his review. Id. ¶ 47. That draft included the
following description of the potential new funding for the
Mr. Schmitz . . . explained, that . . . we are working on a
financing plan with other [Arista] investors, who plan to
sell a certain number of shares of [Arista's] stock, and
will loan the proceeds from those private sales to [Arista].
Terms of the loan are being defined. There was a motion made
by [Arista's Chairman] to allow Bill Schmitz and [the
Chairman] to negotiate terms with the lender. [A Board
member] seconded the motion and all were in favor.
Id. (alterations in original).
days later, on September 10, 2012, Arista publicly filed with
the SEC a Form 8-K that was drafted and reviewed by Hughes
and signed by Schmitz, in his capacity as Arista's CEO.
Id. ¶¶ 49-50. That 8-K stated:
On September 4, 2012, [Arista] entered into a Loan Agreement
with TMK-ENT, Inc. (the “Lender”) providing for a
$500, 000 working capital revolving line of credit for
[Arista]. Advances under the Loan Agreement, which will be
evidenced by a committed revolving credit note (the
“Note”), bear interest at 10% per year, payable
annually. The Note matures on September 4, 2013, and all
borrowings under the Loan Agreement are due and payable on
As additional consideration for entering the Loan Agreement,
[Arista] issued to the Lender warrants with a 10-year term to
purchase an aggregate of 500, 000 shares of common stock of
[Arista] at $1.80 per share pursuant to a Warrant Purchase
Agreement (the “Warrant Purchase Agreement”). . .
. The Lender is an accredited investor as defined under the
Securities Act and Regulation D, was knowledgeable about
[Arista's] operations and financial condition and had
access to such information.
Id. ¶ 49.
never loaned Arista the $500, 000. Id. ¶ 53.
Instead, “it was ‘generally understood by
Arista'” that the amount of the purported loan was
entirely contingent on the funds generated by the sale of
Kolokouris family stock and paid to Arista from
Kolokouris-controlled accounts. Id. ¶ 55. An
email sent by an Arista board member on September 23, 2012 to
Schmitz, with a copy to Hughes and the Arista board,
including Schwell, reflected this understanding, inquiring,
“With the 500k [credit facility] nearly complete, would
it be possible if founding members would be willing to sell
more stock to increase the facility?” Id.
Arista's CFO also understood the true source of the
funding; in an October 20, 2012 email, she
“admitted” as much when she stated, “we
have gotten a line of credit from TMK Enterprises (Peter
[Kolokouris] has agreed to sell some of his stock to other
investors, and is lending us that money)-10% interest-1 year
loan.” Id. ¶ 64 (alteration in original).
despite the 8-K's representations, as of the time of the
September 2012 8-K filing, neither Arista nor TMK-ENT had
executed the purported Loan Agreement, Warrant Purchase
Agreement, or Note. Id. ¶ 56. Nor had TMK-ENT
received any of the stated warrants. Id. Hughes and
Schmitz knew that no such documents existed at that time.
Id. It was not until September 26, 2012 that Hughes
emailed a draft of the “TMK-ENT Credit Facility”
to Schwell. Id. ¶ 59. In that email, Hughes
explained that he was attaching the credit facility and
related note and warrant, and that the facility was
“very company friendly, with just a few real terms
(barely) to make it arms-length.” Id. In its
investigation, the SEC found that the credit facility and
related documents were not finalized until October 2012 at
the earliest, after being drafted by Hughes and signed by
Schmitz. Id. ¶¶ 56-57. The SEC also
determined that Hughes and Schmitz caused the forms to be
back-dated to September 4, 2012, thereby creating the
appearance that the final documents had existed at the time
of the September 2012 8-K filing. Id. ¶ 57.
Plaintiffs allege that Hughes and Schmitz understood the loan
agreement with TMK-ENT to be a “ginned-up
‘agreement'” between Arista and the
Kolokouris-controlled entity meant to “cover up
Arista's actual dealings with Kolokouris” rather
than an arms' length transaction. Id. ¶ 58.
minutes of the August 30, 2012 board meeting were not
finalized until October 2012. Id. ¶ 65. On
October 22, 2012, the CFO re-sent her August 31, 2012 draft
of the minutes to Hughes, asking him again to review them.
Id. In a response sent later that day, Hughes sent
the CFO a revised version of the minutes, which read:
Mr. Schmitz . . . explained that . . . [Arista] is attempting
to secure financing $500, 000 loan from TMK-ENT, Inc., a
current shareholder of [Arista]. Terms of the loan are
currently being negotiated, but it was expected that the loan
would have a term of approximately one year, have an annual
interest rate of ten percent and that [Arista] would issue to
the lender a warrant to purchase up to 500, 000 shares of
[Arista's] common stock at market price at the closing of
the loan. The loan would not be secured by any of
[Arista's] assets, and not guaranteed by any person.
After a discussion, a motion was made by [a Board member] and
seconded by [another Board member], whereupon the following
resolutions were unanimously adopted:
NOW THEREFORE, IT BE RESOLVED, the Company is authorized [to]
enter into an agreement or agreements (collectively the
“Loan Agreements”) with TMK-ENT, LLC
(“TMK”) in which [Arista] would borrow up to
$500, 000 from TMK, with an interest rate of no more than ten
percent per year . . . .”
Id. (alterations in original). Plaintiffs allege
that, as borne out by the SEC's allegations, Hughes knew
that this revision to the board minutes was false and
deceptive because the board had not discussed a loan from
TMK-ENT during the August 30, 2012 meeting and the revised
minutes make no mention of the sales of
“founders” stock. Id. ¶ 66.
Plaintiffs further adopt the SEC's allegation that these
revised minutes were intended to conceal the actual substance
of the board's August 30, 2012 meeting and to conform it
instead to the September 2012 8-K. Id. ¶ 67.
The board, chaired by Schwell, adopted a final version of the
minutes on October 24, 2012, after additional changes were
made. Id. ¶ 68. The final minutes did not
reference the sale of Kolokouris family stock. Id.
The Deception Continues
the course of the next two years, Arista's public filings
continued to make false and misleading statements, and
contained material omissions, regarding the purported loan
from TMK-ENT. Id. ¶ 69. The Company's Forms
8-K dated November 16, 2012, December 26, 2012, and May 30,
2013 falsely announced increases in the amount of the TMK-ENT
loan, up to an ultimate sum of $1, 250, 000. Id. The
following filings also contained related statements and
omissions: Forms 10-Q dated November 13, 2012, May 13, 2013,
August 13, 2013, November 12, 2013, May 15, 2014, August 14,
2014, and November 14, 2014; Forms 10-K dated March 28, 2013
and March 31, 2014; and Forms S-1 dated August 30, 2013,
October 3, 2013, and April 30, 2014. Id. Schmitz, in
his capacity as Arista's CEO, signed each of these
filings, and Schwell, as chairman of the Company's board,
signed the Forms 10-K. Id. ¶¶ 69-70.
Hughes drafted or “at least” reviewed the filings
and “assisted in their filing.” Id.
¶¶ 70, 72.
allege that, at the time of those filings, Hughes and Schmitz
knew or recklessly disregarded that TMK-ENT was controlled by
Kolokouris and did not have any independent source of funds,
that TMK-ENT did not transfer any of the funds received by
Arista, and that the purported loan was a “fictitious
cover” for Arista financing by Kolokouris through sales
of his family stock. Id. ¶ 73. Thus, the
filings were false and misleading in that they characterized
the $1 million in capital influx as the result of a loan
agreement or line of credit from a purported third-party
lender, when in fact the capital was raised by a known
securities law violator. Id. ¶¶ 72, 74.
Plaintiffs also allege that the filings painted for the
investing public a false and misleading picture of the
independence and integrity of the Company's management.
Id. ¶ 75.
from September 2012 through February 2013, Hughes, Schmitz,
and Kolokouris raised a total of at least $984, 700 through
private sales of the Kolokouris family stock, the proceeds of
which were given to Kolokouris. Id. ¶ 63.
Kolokouris then remitted $1, 018, 500 to Arista by way of
thirteen cashier's checks made payable to Arista with a
handwritten memo that read “TMK Enterprises.”
Id. Arista never repaid any of these monies, to
TMK-ENT or anyone else. Id. All communications
between Hughes and Schmitz and TMK-ENT during the relevant
periods were with Kolokouris, and not with the
corporation's legal owner. Id. ¶ 52.
point in 2013, the SEC opened an investigation into Arista
Power and Kolokouris. Id. ¶ 28. In connection
with that investigation, the SEC issued various subpoenas to
the Company and related individuals, including to Hughes.
Plaintiffs Are Persuaded to Invest in Arista
Alpha Capital Anstalt and Ellis International Ltd. are
foreign entities, organized under the laws of Lichtenstein
and Panama respectively. Id. ¶¶ 13-14.
They were solicited by Arista in 2014 to invest in the
Company. Id. ¶ 79. By early 2014, Arista was
publicly representing its energy business engagements as
two-fold: (1) the Company was developing and installing its
proprietary Power on Demand (“POD”) system, and
(2) the Company was engaged in selling solar energy systems.
Id. ¶ 77. The POD system, Arista explained,
stored energy from a variety of sources, including solar,
wind, and fuel cells, and used the Company's proprietary
technology to release energy at optimal times in order to
maximize energy efficiency and reduce energy costs.
Id. ¶ 78. Arista advertised its system as a
“transformative technology, ” a key that would
unlock the Company's growth. Id.
February 2014, Defendants Saba and Matthews met with
Plaintiffs' representatives, Yosef Milgrom and Jay
Spinner, in an effort to solicit Plaintiffs' investment
in Arista securities. Id. ¶ 79. During that
meeting, Saba and Matthews represented that the Company's
POD system would more efficiently manage energy distribution
and would cost less than alternative energy sources.
Id. Saba and Matthews emphasized the critical
importance of Arista's POD pilot project, which they both
claimed was “already underway” at a residential
building known as Rose/City Lights in Queens, New York (the
“Rose/City Lights Project”). Id. Saba
and Matthews described the project to Plaintiffs'
representatives as the first large-scale application of the
POD system which, if successful, would serve as the prototype
for future projects and likely generate more significant
opportunities for commercial application of the system in
other buildings. Id. ¶¶ 80, 81. Saba and
Matthews both advised Plaintiffs' representatives that
Arista had already begun discussions with other buildings
about installing the system. Id. ¶ 80.
during the February 2014 meeting, as well as in follow-up
conversations, Saba and Matthews each stated that the Company
needed Plaintiffs' investment funds to “quickly
complete the installation of the Rose/City Lights Project,
” which they anticipated would be done within 120 days
of procuring such funds. Id. ¶ 81. Overall,
Arista expected to raise $1.5 million, funding which would
permit Arista to finish installation and which Saba and
Matthews both represented was the only impediment to
completion of the project. Id. ¶ 82. At no
point during that meeting, or in conversations thereafter,
did Saba or Matthews disclose to Plaintiffs that the SEC was
investigating the Company. Id. ¶ 88.
on the representations by Arista, Saba, and Matthews, and
pursuant to a Securities Purchase Agreement
(“SPA”) dated March 31, 2014, Plaintiffs
collectively invested $955, 000 in Arista preferred stock,
with Alpha Capital investing $800, 000 and Ellis
International investing $155, 000. Id. ¶¶
86, 88. Schmitz signed the SPA on behalf of Arista, as well
as the Registration Statement filed with the SEC pursuant to
which the securities were sold to Plaintiffs. Id.
¶ 87. Plaintiffs allege that, in deciding to invest in
Arista, they also relied on representations made in an
opinion letter authored by SWA. Id. ¶ 89.
later learned that, at the time of the February 2014 meeting
with Saba and Matthews, Arista had no personnel on the
premises of the Rose/City Lights Project. Id. ¶
83. Plaintiffs also learned that, at both the time of the
February 2014 meeting and also at the time of the March 31,
2014 investment, Arista had yet to begin installation of the
POD system and had not even secured the permits and approvals
from the New York City Department of Buildings, the New York
State Energy Research and Development Authority, and from Con
Edison that were necessary to commence work on the project.
Id. ¶¶ 83-84. Nor had Arista submitted all
of the required permit applications prior to Plaintiffs'
investment. Id. ¶ 84. Plaintiffs therefore
allege that the statements by Saba and ...