After Leave to Replead, Plaintiffs Plead Fraud With Particularity Sufficient to Withstand A Motion to Dismiss 

• Posted on: Jun 10 2020

Pleading fraud with particularity is not easy. Sometimes the information needed to satisfy the requirement is peculiarly within the knowledge of the defendant. Other times, the information needed is found in lawsuits, publicly available information and media. Regardless of where the information can be found, the plaintiff must nevertheless provide sufficient facts to support a “reasonable inference” that the allegations of fraud are true. Eurycleia Partners, LP v. Seward & Kissel, LLP, 12 N.Y.3d 553, 559-60 (2009). 

In Bullen v. Sterling Valuation Grp., Inc., 2020 N.Y. Slip Op. 50653(U) (Sup. Ct., N.Y. County June 5, 2020) (here), Justice Barry Ostrager of the Supreme Court, New York County, Commercial Division, considered the particularity requirement in a case involving an alleged fraudulent inducement to investment money in a now defunct hedge fund. As discussed below, Justice Ostrager held that plaintiffs satisfied the particularity requirement by identifying specific information alleged to be peculiarly within the knowledge of the defendant, as well as detailed information obtained from related federal proceedings.  

Bullen v. Sterling Valuation Group, Inc. 

Background 

Bullen arose out of an alleged fraudulent scheme to induce plaintiffs to invest over $63 million in Platinum Partners Credit Opportunities Fund (“PPCO” or the “Fund”) – an alleged $500 million dollar hedge fund that is in receivership.  

Plaintiffs contended that Platinum Management (NY), LLC (“Platinum”) provided them with reports created by defendant Sterling Valuation Group, Inc. (“Sterling”), a small seven-person valuation consulting firm that provided valuation and consulting services to Platinum and issued quarterly reports opining on the value of the assets held by PPCO (the “Sterling Reports” or the “Reports”). 

Plaintiffs alleged that, in deciding to invest, they relied on the Sterling Reports, only to later learn via proceedings in an action brought by the Securities and Exchange Commission (“SEC”) (the “SEC Action”) and elsewhere that PPCO had inflated its valuations, and that Sterling failed to carefully scrutinize the valuations or challenge the improper valuations in any meaningful way. Plaintiffs alleged that Sterling corroborated the valuations while in possession of questionable confidential information obtained, in part, through its participation in Platinum’s internal valuation meetings and while knowing that the auditors of PPCO’s sister fund, the Platinum Partners Value Arbitrage Fund, had identified a “material weakness” in the fund’s investment valuation.  

[Ed. Note: In December 2016, the SEC and the Department of Justice brought actions in the Eastern District of New York alleging that PPCO’s senior management had fraudulently overvalued the Fund’s assets to induce investments and extract excess management fees. See SEC v. Platinum Management (NY), LLC, No. 1:16-cv-6848 (E.D.N.Y. Dec. 19, 2016); United States v. Nordlicht, No. 16-640 (E.D.N.Y. Dec. 14, 2016).] 

Plaintiffs asserted three causes of action against Sterling: (1) fraud; (2) aiding and abetting fraud; and (3) aiding and abetting breach of fiduciary duty. Sterling moved to dismiss. The Court granted the motion but allowed plaintiffs leave to replead. Thereafter, plaintiffs filed an amended complaint, asserting the same causes of action. Defendant moved to dismiss. The Court denied the motion. 

The Court’s Decision 

With regard to the first cause of action, Sterling claimed that plaintiffs failed to plead fraud with particularity. [Ed. Note: this Blog has often written about the particularity requirements under CPLR 3016 (b) (e.g., here, here, here, and here).] Defendant contended that plaintiffs simply alleged fraud in a conclusory fashion and in hindsight, arguing that plaintiffs merely alleged that Sterling “rubber stamped” certain valuations of the Fund’s assets. Slip Op. at *2. The Court rejected the argument. 

The Court found that plaintiffs included information in the Amended Complaint that was peculiarly within Sterling’s knowledge – i.e., knowledge that should have alerted Sterling that the information it was receiving from PPCO, including the information in its Valuation Reports, was false and unsupported. Id. The Court explained that the Amended Complaint specifically pleaded that Sterling attended monthly, quarterly, and annual meetings where asset valuations and valuation methodologies were discussed with Platinum, and that Sterling was given access to a large quantity of non-public documents and confidential material for consideration as part of its valuation work. Id. The Court found that the Receiver appointed in the SEC Action corroborated the allegations by identifying significant evidence of overvaluations by Platinum that plaintiffs contended could not reasonably have escaped Sterling’s attention in the course of its work. According to the Court, the Receiver conducted an analysis of PPCO’s holdings and business dealings, which included a review of Platinum documents and communications, and found a dearth of evidence to support Platinum’s valuations as corroborated by Sterling. Id. at *2-*3.  

The Court also found that the magnitude of the overvaluations supported plaintiffs’ allegations. In this regard, the Court noted that, as pleaded, “the overvaluations were so extensive and so extreme that Sterling must have known about the misrepresentations, and that Sterling made these and similar misrepresentations itself in its own Valuation Reports instead of alerting investors to the problems.” Id.  

The Court rejected Sterling’s argument that disclaimers in the Reports negated any reliance on the information therein. The Court found that the disclaimers were “untrue” and, in any event, were “questionable in light of Sterling’s attendance at PPCO meetings, its access to confidential information, and its primary duty of providing valuation reports.” Id. 

Moreover, said the Court, the disclaimers were too “general in nature and include[d] facts peculiarly within Sterling’s knowledge.” Id. (citing Basis Yield Alpha Fund (Master) v. Goldman Sachs Grp., Inc., 115 AD3d 128, 137 (1st Dept. 2014)). “Thus, Sterling [could not] rely on the disclaimer to defeat plaintiffs’ fraud claim.” Id. 

The Court also rejected Sterling’s argument that plaintiffs failed to allege that Sterling intended to induce plaintiffs’ reliance on the Valuation Reports and that plaintiffs’ reliance was justifiable. Id. at *3-*4. The Court explained that “[a]lthough the Reports caution[ed] that the opinions stated should not be construed as investment advice, plaintiffs were entitled to rely on the information in the Valuation Reports as being factually correct and then use those facts to make their own investment decisions.…”. Id. at *4. 

Finally, the Court held that plaintiffs’ sophistication did not preclude their “claim of justifiable reliance as a matter of law.” Id. “At a minimum,” said the Court, “issues of fact exist[ed] to defeat the motion to dismiss in light of Sterling’s superior access to PPCO’s confidential information, which plaintiffs themselves could not access.” Id. (citing ACA Fin. Guar. Corp. v. Goldman, Sachs & Co., 25 N.Y.3d 1043, 1045 (2015)).  

With regard to the second cause of action, aiding and abetting Platinum’s fraud, the Court held that plaintiffs stated a claim.  

“To plead a claim of aiding and abetting fraud, the complaint must allege: ‘(1) the existence of an underlying fraud; (2) knowledge of this fraud on the part of the aider and abettor; and (3) substantial assistance by the aider and abettor in achievement of the fraud.’” Id. (quoting Stanfield Offshore Leveraged Assets, Ltd. v. Metro. Life Ins. Co., 64 A.D.3d 472, 476 (1st Dept. 2009)). Although actual knowledge of the fraud may be averred generally, to plead “substantial assistance”, plaintiffs must allege that the defendant (1) affirmatively assisted, helped conceal, or by virtue of failing to act when required to do so enabled the fraud to proceed, and (2) the defendant’s actions as an aider/abettor proximately caused the harm on which the primary liability is predicated. Stanfield, 64 A.D.3d at 476.Knowledge can be averred through circumstantial evidence. Houbigant, Inc. v. Deloitte & Touche, 303 A.D.2d 92, 98- 99 (1st Dept. 2003). See also DaPuzzo v. Reznick Fedder & Silverman, 14 A.D.3d 302, 303 (1st Dept. 2005). 

Applying the foregoing standards, the Court held that plaintiffs “adequately pleaded the requisite ‘substantial assistance’ by Sterling in achieving Platinum’s fraud….” Id. at *4. “Specifically,” said the Court, “by adopting Platinum’s improper valuations, Sterling allegedly helped conceal Platinum’s fraud.” Id. Plaintiffs also pleaded substantial assistance, noted the Court, by alleging that Sterling failed “to challenge Platinum’s improper valuations when required to do so and that failure to act helped enable the fraud to proceed.” Id. at *4-*5. 

Takeaway 

The purpose of the particularity requirement is to place the defendant on notice of the events complained of, not prevent otherwise valid causes of action where it may be impossible to state in detail the circumstances constituting the fraud. Daly v. Kochanowicz, 67 A.D.3d 78, 90 (2d Dept. 2009). In such situations, specifically where those circumstances are peculiarly within the knowledge of the defendant, as in Bullen, “the heightened pleading requirements of CPLR § 3016(b) may be met when the material facts alleged in the complaint, in light of the surrounding circumstances, ‘are sufficient to permit a reasonable inference of the alleged conduct’ including the adverse party’s knowledge of, or participation in the fraudulent scheme.” JP Morgan Chase Bank, N.A. v Hall, 122 A.D.3d 576, 580 (2d Dept. 2014) (quoting High Tides LLC v. DeMichele, 88 A.D.3d 954, 957 (2d Dept. 2011)).