Second Department Resolves Contract, Fiduciary Duty and Fraud Claims Involving Joint Ventures that Develop Real Property

• Posted on: Dec 6 2019

In Benjamin v. Yeroushalmi, 2019 N.Y. Slip Op. 08647 (2d Dept. Dec. 4, 2019) (here), the Appellate Division, Second Department considered an appeal involving an action to recover damages for breach of contract, breach of fiduciary duty and fraudulent inducement. The action involved the acquisition and development of real properly located in Mineola and Brooklyn, New York.

Beginning in 2007, the plaintiffs, Jim Benjamin (“Jim”), a real estate developer and investor, and his brother Behrouz Benyaminpour (“Bruce”), Jim’s brother and investment partner, entered into a joint venture agreement with the defendants, Moussa Yeroushalmi (“Moussa”) and his wife, Farzaneh Yeroushalmi (together, the “Yeroushalmi Defendants”), the purpose of which was to, among other things, purchase and develop properties in Mineola and Brooklyn, New York.

According to plaintiffs, in April 2007, the parties entered into a written joint venture agreement in connection with the acquisition and development of certain real properly located in Mineola, New York (the “Mineola Property”). The property was owned by the Metropolitan Transportation Authority (the “MTA”), which was selling the Mineola Property through a closed bid procedure. The MTA ultimately awarded the right to purchase the Mineola Property to the plaintiffs and the Yeroushalmi Defendants, with the parties agreeing to assign their rights to a third party. The difference between the purchase price of $12,222,000 and the assignment price of $13,500,000 was, according to plaintiffs, to be distributed as profits, with Jim to receive 30% of those profits. Plaintiffs alleged that the Yeroushalmi Defendants failed to distribute plaintiffs’ share of the profits pursuant to the Mineola Property joint venture agreement.

Plaintiffs further alleged that in April 2007, Moussa and Jim entered into a joint venture agreement for the purchase and development of certain real property located in Brooklyn, New York (the “Albemarle Property”). This transaction involved an entity owned by Moussa known as A1 Universal Construction Realty, LLC (“A1 Universal”), which entered into a contract of sale to purchase the Albemarle Property for $1,200,000. A1 Universal immediately flipped the purchase contract to a third party who agreed to purchase the Albemarle Property for $2,000,000. According to plaintiffs, they contributed $30,000 toward the down payment, and, pursuant to the joint venture agreement, the joint venture was entitled to 50% of any profits and the return of its closing costs upon a subsequent sale of the Albemerle Property. Plaintiffs claimed, inter alia, that Moussa failed to distribute the proceeds of a subsequent sale of the Albemerle Property.

In addition, Plaintiffs alleged that in July 2008, Moussa solicited them to invest funds in a beverage company called Hip Pop Beverages, LLC (“HPB”). According to Plaintiffs, Moussa made specific oral misrepresentations of material fact to induce them to invest $75,000 in HPB, which he allegedly knew to be false at the time he made them.

Plaintiffs commenced the action asserting, inter alia, a cause of action alleging breach of contract with regard to the Mineola Property joint venture agreement (first cause of action), a cause of action alleging fraud in the inducement with respect to the HPB transaction (fourth cause of action), a cause of action alleging fraud with regard to the sale of the Albemarle Property (fifth cause of action), a cause of action alleging conversion of Bruce’s membership interest in a limited liability company that owned an interest in the Albemarle Property (“Albemarle LLC”) (sixth cause of action), causes of action alleging breach of fiduciary duty (seventh and twelfth causes of action), and a cause of action for a declaratory judgment as to Bruce’s membership interest in the Albemarle LLC (tenth cause of action).

In April 2015, the Yeroushalmi Defendants moved to dismiss the first, fourth, sixth, seventh, tenth, and twelfth causes of action, and the fifth cause of action insofar as asserted against them. The motion court granted the motion as to the first, fourth, seventh, and twelfth causes of action and denied the motion as to the fifth cause of action insofar as asserted against the Yeroushalmi Defendants and the sixth and tenth causes of action. Plaintiffs appealed, and the Yeroushalmi Defendants cross appealed.

The Appellate Division, Second Department affirmed the decision and order of the motion court.

Breach of the Mineola Property Joint Venture Agreement

The Court agreed with the motion court’s determination that the first cause of action, alleging breach of the 2007 Mineola Property joint venture agreement, should have been dismissed. The reason, said the Court, was due to a subsequent agreement dated July 2, 2008 (“2008 Agreement”), which the Yeroushalmi Defendants submitted, and which superseded and constituted a novation of the Mineola Property joint venture agreement. Slip Op. at *2.

Under New York law, a novation occurs “where the parties [to an agreement] have clearly expressed or manifested their intention that a subsequent agreement supersede or substitute for an old agreement.” Northville Indus. Corp. v. Fort Neck Oil Terms. Corp., 100 A.D.2d 865, 867 (2d Dept. 1984), aff’d, 64 N.Y.2d 930 (1985). When that happens, “the subsequent agreement extinguishes the old one and the remedy for any breach thereof is to sue on the superseding agreement.” Id.; Citigifts, Inc. v. Pechnik, 112 A.D.2d 832, 834 (1st Dept. 1985), aff’d, 67 N.Y.2d 774 (1986).

Consequently, since the Court found a novation of the Mineola Property joint venture agreement, it concluded that “the cause of action alleging breach of the Mineola [P]roperty joint venture agreement [could not] be maintained. Slip Op. at *2 (citations omitted).

Breach of Fiduciary Duty

The Court agreed with the motion court’s determination to dismiss the seventh and twelfth causes of action alleging breach of fiduciary duty.

“A fiduciary relationship exists between two persons when one of them is under a duty to act for or to give advice for the benefit of another upon matters within the scope of the relation” but generally does not arise “between those involved in arm’s length business transactions.” EBC I, Inc. v. Goldman, Sachs & Co., 5 N.Y.3d 11, 19 (2005) (citations and quotation marks omitted). “If the parties … do not create their own relationship of higher trust, courts should not ordinarily transport them to the higher realm of relationship and fashion the stricter duty for them.” Id. at 20.

To plead a cause of action for a breach of fiduciary duty, a plaintiff must demonstrate: “(1) the existence of a fiduciary relationship, (2) misconduct by the defendant, and (3) damages directly caused by the defendant’s misconduct.” Palmetto Partners, L.P. v. AJW Qualified Partners, LLC, 83 A.D.3d 804, 807 (2d Dept. 2011) (quoting Rut v. Young Adult Inst., Inc., 74 A.D.3d 776, 777 (2d Dept. 2010)). A cause of action to recover damages for breach of fiduciary duty must be pleaded with the particularity required under CPLR § 3016(b). Litvinoff v. Wright, 150 A.D.3d 714, 715 (2d Dept. 2017).

The Court affirmed the dismissal of these claims because plaintiffs failed to provide any detail upon which to find a breach of fiduciary duty. In this regard, the Court explained that the complaint “contained only bare and conclusory allegations, without any supporting detail.” Slip Op. at *2 (citations omitted).

Fraudulent Inducement

The Court agreed with the motion court to dismiss the fourth cause of action, alleging fraud in the inducement with respect to the HPB transaction.

A cause of action alleging fraud requires the plaintiff to plead: (1) a material misrepresentation of a fact, (2) knowledge of its falsity, (3) an intent to induce reliance, (4) justifiable reliance, and (5) damages. Eurycleia Partners, LP v. Seward & Kissel, LLP, 12 N.Y.3d 553, 559 (2009).

As this Blog has noted previously, one of the more challenging elements of the claim to satisfy is justifiable reliance.

In Ambac Assur. v. Countrywide, 31 N.Y.3d 569, 579 (2018), the Court of Appeals described the justifiable reliance requirement as a “‘fundamental precept’ of a fraud cause of action.” As such, a “plaintiff must allege facts to support the claim that it justifiably relied on the alleged misrepresentations.” ACA Fin. Guar. Corp. v. Goldman, Sachs & Co., 25 N.Y.3d 1043, 1044 (2015); see also id. at 1051 (Read, J., dissenting on other grounds) (describing the justifiable reliance requirement as “our venerable rule”).

Whether a plaintiff justifiably relied on a misrepresentation or omission is “always nettlesome” because it requires a fact-intensive analysis. DDJ Mgt., LLC v. Rhone Group L.L.C., 15 N.Y.3d 147, 155 (2010) (internal quotation marks omitted). As the Court of Appeals observed, “[n]o two cases are alike ….” Id. For this reason, the courts look to whether the plaintiff exercised “ordinary intelligence” in ascertaining “the truth or the real quality of the subject of the representation.” Curran, Cooney, Penney v. Young & Koomans, 183 A.D.2d 742, 743) (2d Dept. 1992).

Sophisticated parties have a heightened responsibility. They must use due diligence and take affirmative steps to protect themselves from misrepresentations by employing whatever means of verification are available at the time. If they fail to do so, their complaint will be dismissed. See, e.g., HSH Nordbank AG v. UBS AG, 95 A.D.3d 185, 194-95 (1st Dept. 2012). Accord, Ashland Inc. v. Morgan Stanley & Co., 652 F.3d 333, 337-38 (2d Cir. 2011) (“An investor may not justifiably rely on a misrepresentation if, through minimal diligence, the investor should have discovered the truth.”) (internal quotation marks and citation omitted).

The Court held that plaintiffs failed to satisfy the justifiable reliance element of their claim. The reason, found the Court, was because “Jim relied solely upon Moussa’s alleged misrepresentations without conducting any investigation into the factual basis for that information or into the viability of HPB as a business opportunity.” Slip Op. at *2. As such, plaintiffs “failed to adequately allege justifiable reliance,” thereby making “the cause of action alleging fraud in the inducement … subject to dismissal.” Id.

Takeaway

Benjamin stands as a good reminder of the pleading hurdles a plaintiff must overcome when alleging a breach of fiduciary duty and fraudulent inducement. As Benjamin shows, particularity is crucial, even in the more relaxed pleading environment of New York state court. See this Blog’s discussion of the differences between federal and state court with respect to pleading a claim with particularity (here and here).

Benjamin is also important for its application of the novation doctrine. Although novation typically occurs in the context of the original parties and a third party, Benjamin is an example of the doctrine’s application to the original parties only – the original parties sign a new agreement that supersedes the former one. The critical point here is the signed writing. An agreement that amends or modifies the terms of the original obligation (i.e., agreement) is valid only if it agreed to and signed by all parties.  

Note that novation differs from an assignment. An assignment only transfers a party’s obligations and does not require the consent of the third party, unless the contract specifically provides otherwise. An assignment does not terminate the obligations set forth in the original contract, while novation does.

Tagged with: Assignment, Breach of Fiduciary Duty, Business Litigation And Commercial Litigation, Fraudulent Inducement, Justifiable Reliance, Novation, Pleading Fraud with Particularity