So Many Fraud Issues. So Little Space to Write About Them

• Posted on: May 1 2019

This Blog has strived to highlight cases and issues that may be of interest to our readers. Sometimes, however, a case involves so many issues it is hard to isolate one or two for discussion purposes. Such is the case with RKA Film Fin., LLC v. Kavanaugh, 2019 N.Y. Slip Op. 03302 (1st Dept. Apr. 30, 2019) (here).

RKA Film involved allegations of fraud, fraudulent inducement and negligent misrepresentation in connection with a series of loans that RKA Film Financing, LLC (“RKA”) issued to Relativity Media, LLC (“Relativity”) during the period between June 2014 and March 2015. While it would be easy to write that the case was dismissed for failure to plead fraud with particularity, that would not really give the reader a taste of the issues involved. RKA Film covers more turf than a typical CPLR § 3016(b) dismissal; it addresses issues such as group pleading, puffery and opinion, causation, duplication of claims and justifiable reliance.

Legal Principles Involved

[Ed. Note: As we often do, we like to present the legal issues at play in the case or news item on which we are writing. In RKA Film, there are many.  While we do not want to bore our readers with legalese, we find it helpful to include a discussion of the legal principles involved to aid the reader’s experience with the article.]

Pleading Fraud with Particularity

To state a claim for fraud/fraudulent inducement, “there must be a knowing misrepresentation of material present fact, which is intended to deceive another party and induce that party to act on it, resulting in injury.” GoSmile, Inc. v. Levine, 81 A.D.3d 77, 81 (1st Dept. 2010), lv. dismissed, 17 N.Y.3d 782 (2011). See also Wyle Inc. v. ITT Corp., 130 A.D.3d 438, 439–41 (1st Dept. 2015); MBIA Ins. Corp. v. Countrywide Home Loans, Inc., 87 A.D.3d 287, 294 (1st Dept. 2011). A plaintiff alleging fraud must satisfy each element in order to prevail, whether it be on a motion or at trial. Menaco v. New York Univ. Med. Ctr., 213 A.D.2d 167 (1st Dept. 1995). The failure to satisfy any one element will result in the dismissal of the action. Gregor v. Rossi, 120 A.D.3d 447 (1st Dept. 2014).

In addition, the plaintiff’s allegations must be stated with particularity. Eurycleia Partners, LP v. Seward & Kissel, LLP, 12 N.Y.3d 553, 558 (2009). Thus, the plaintiff must provide sufficient facts to support a “reasonable inference” that the allegations of fraud are true. Id. at 559-60. Conclusory allegations will not suffice. Id. Neither will allegations based on information and belief. See Facebook, Inc. v. DLA Piper LLP (US), 134 A.D.3d 610, 615 (1st Dept. 2015) (“Statements made in pleadings upon information and belief are not sufficient to establish the necessary quantum of proof to sustain allegations of fraud.”).

Although, CPLR § 3016(b) provides that “the circumstances constituting the [fraud] shall be stated in detail,” the New York Court of Appeals has “cautioned that section 3016 (b) should not be so strictly interpreted as to prevent an otherwise valid cause of action in situations where it may be impossible to state in detail the circumstances constituting a fraud.” Pludeman v. Northern Leasing, Sys., Inc., 10 N.Y.3d 486, 491 (2008) (internal quotation marks and citations omitted). Thus, where the facts “are peculiarly within the knowledge of the party charged with the fraud,” and “it would work a potentially unnecessary injustice to dismiss a case at an early stage where any pleading deficiency might be cured later in the proceedings,” dismissal should be denied. Id. at 491-92 (internal quotation marks and citations omitted).

Group Pleading

It is not uncommon for practitioners to group multiple defendants together in a complaint when they are alleged to have collectively committed the wrong complained of. This form of pleading, commonly known as “group pleading,” runs afoul of the particularity requirement of CPLR § 3016(b). Thus, a complaint will be dismissed on particularity grounds if the plaintiff group pleads the alleged fraud against multiple defendants. See, e.g., Jonas v. National Life Ins. Co., 147 A.D.3d 610, 612 (1st Dept. 2017); MP Cool Invs. Ltd. v. Forkosh, 142 A.D.3d 286, 291 (1st Dept.), lv. denied, 28 N.Y.3d 911 (2016); Aetna Cas. & Sur. Co v. Merchants Mut. Ins. Co., 84 A.D.2d 736 (1st Dept. 1981).  

Puffery/Opinions

One of the issues that courts have to address when deciding the viability of a fraud claim is whether the subject statement contains hyperbole or concrete facts. The former, which are not actionable, includes puffery, optimism, future expectations, and opinion, while the latter, which are actionable, includes statements of present or historical fact. Sometimes, the line between these types of statements is blurred or non-existent. Other times, the line is easy to discern.  While determining the difference is difficult enough, the task becomes more complicated when the representation at issue contains both present facts and hyperbole.

Statements couched in terms of “belief” or “expectation” are not actionable because they are “mere puff” or statements of opinion or exaggeration that no reasonable person would take seriously. They are not concrete and measurable statements.

In contrast, a misrepresentation is a false statement of present or historical fact. It is actionable because it is capable of objective verification. E.g., White v. Davidson, 150 A.D.3d 610, 611 (1st Dept. 2017).

Causation and Damages

The causation element has two components: transaction causation and loss causation. “To establish causation, [a] plaintiff must show both that [the] defendant’s misrepresentation induced [the] plaintiff to engage in the transaction in question (transaction causation) and that the misrepresentations directly caused the loss about which [the] plaintiff complains (loss causation).” Laub v. Faessel, 297 A.D.2d 28, 31 (1st Dept. 2002).

Transaction Causation

“Transaction causation means that the violations in question caused the [plaintiff] to engage in the transaction in question.” AUSA Life Ins. Co. v. Ernst & Young, 206 F.3d 202, 209 (2d Cir.2000) (citation and internal quotation marks omitted). The term is often used by the courts synonymously with “but for” causation. Moore v. PaineWebber, Inc., 189 F.3d 165, 172 (2d Cir.1999) (“To show transaction causation, the plaintiffs must demonstrate that but for the defendant’s wrongful acts, the plaintiffs would not have entered into the transactions that resulted in their losses.”) (citation omitted) (emphasis in original).

Loss Causation

The loss causation requirement is synonymous with the proximate cause concept found in other tort causes of action. Laub, 297 A.D.2d at 31 (“[l]oss causation is the fundamental core of the common-law concept of proximate cause”) (citations omitted). Thus, loss causation is “the causal link between the alleged misconduct and the economic harm ultimately suffered by [the] plaintiff.” Fin. Guar. Ins. Co. v. Putnam Advisory Co., 783 F.3d 395, 402 (2d Cir. 2015).

Whether the plaintiff satisfies the loss causation element requires a fact intensive analysis, making a decision on a motion to dismiss generally inappropriate. See Metro. Life Ins. Co. v. Morgan Stanley, 2013 WL 3724938, at *18 (Sup. Ct. N.Y. County June 8, 2013) (holding proximate cause was not an appropriate issue on a motion to dismiss); see also Schroeder v. Pinterest Inc., 133 A.D.3d 12, 26 n.7 (1st Dept. 2015) (noting that “issues of proximate cause are for the trier of fact….”).

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).

RKA Film Financial, LLC v. Kavanaugh

Background

As noted, the action arose out of a series of loans that RKA issued to Relativity. RKA alleged that it made the loans to provide Relativity with funding for print and advertising (“P&A”) expenses related to the release of major motion picture films by special purpose entities (“Film SPEs”).

RKA alleged that, in 2012, certain of the defendants associated with Relativity realized that the company was in financial trouble and needed additional capital to survive. They developed a plan to market a P&A credit facility (“P&A Facility”) for Relativity’s Film SPEs. RKA contended that, between April 2014 and April 2015, Defendants repeatedly and incorrectly marketed the P&A Facility to RKA, leading it to believe that its loans would be used only for P&A expenses.

In June 2014, RKA agreed to loan $58.5 million for the P&A expenses of certain Relativity films. The Funding Agreement, dated June 30, 2014, memorialized the investment terms. Defendants were not parties to the Funding Agreement. Nevertheless, RKA alleged that some, but not all, of Defendants’ misrepresentations were memorialized therein.

In August 2014, RKA increased its loan by $22.5 million based on additional misrepresentations that Defendants allegedly made to RKA through emails and telephone calls.

Between September 2014 and March 2015, Defendants drew $73.6 million from the P&A Facility, purportedly for four yet unreleased films (“Unreleased Films”). In February and April of 2015, Defendants allegedly stated to RKA that the Unreleased Films would be released later that year, that RKA’s money was safe and accounted for, and that Relativity was financially sound. RKA alleged that Defendants’ statements were materially false.

On April 1, 2015, one of the defendants allegedly told RKA that the P&A funds were not earmarked, allocated, or used for P&A expenses. In an April 13, 2015 telephone call with RKA, one of the defendants allegedly admitted that Relativity used the funds for improper purposes.

RKA filed its first complaint on July 24, 2015. RKA filed a second amended complaint (“SAC”) on February 2, 2017, alleging fraud, fraudulent inducement and negligent misrepresentation. RKA sought damages in excess of $110 million, plus fees. Defendants moved to dismiss the SAC for failure to state a claim. The motion court granted Defendants’ motions. RKA appealed.

The First Department’s Decision

The First Department affirmed.

As an initial matter, the Court found that RKA impermissibly lumped most of the defendants “together with the others against whom specific acts had been pleaded.” Slip Op. at *1. As such, RKA failed to plead fraud with particularity as against those defendants.

Turning to some of the statements alleged to be false, the Court determined that they were non-actionable expressions of opinion:

[T]he facts alleged in the SAC do not support a claim of fraud against Colbeck Capital Management, LLC (Colbeck) or David Aho. Aho’s alleged statement that plaintiff’s investment was “low risk,” was a non-actionable expression of hope, and his presentation of slides prepared by Relativity is insufficient to impute representations within the slides to him personally.

Id. (Citations omitted.)

With regard to transaction causation, the Court found that RKA failed to satisfy this element because it “had already invested in Relativity” before the alleged misrepresentations were made:

The alleged misrepresentations attributed to defendants Ramon Wilson, Andrew Matthews, and Greg Shamo, officers of Relativity, are similarly insufficient to give rise to a fraud claim. The alleged misrepresentations attributed to these defendants were made after plaintiff had already invested in Relativity, precluding a conclusion that they induced plaintiff to engage in the transaction. To the extent plaintiff claims that these defendants’ misrepresentations caused it to abstain from taking legal action, plaintiff has not demonstrated that it sustained damages as a result of such forbearance, an essential element of its claim.

Id. at *2. (Citations omitted.)

As to loss causation, the Court held that “any misrepresentations made after plaintiff had already invested the funds are insufficient to give rise to fraud as there was no nexus between the alleged statements and plaintiff’s losses.” Id.

Finally, addressing the justifiable reliance element of RKA’s fraud claim, the Court agreed with the motion court, finding that RKA could not have justifiably relied on the misrepresentations regarding Relativity’s financial health. The Court observed that as a sophisticated investor, RKA “did not demonstrate that it fulfilled its affirmative obligation to verify the nature and quality of its investment.” Id.

Takeaway

As readers of this Blog know, in this section of the article, we often try to tie together the principles of law with the facts and holding of the case on which we are writing. Some cases lend themselves to an extensive treatment, while others do not. RKA is different in that it is not necessarily the holding or the facts of the case that piqued our interest (although we found both interesting nonetheless). Instead, it was the number of elements of a fraud claim, and the issues related thereto, that we found notable. For this reason, we expect that RKA will be cited for the many the legal principles it discusses in the fraud context, in addition to the usual reasons a litigant may cite to a case.