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Structuring and Enforceability of Big Boy Letters and Non‐Reliance Provisions in Private Investment Transactions

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THURSDAY, FEBRUARY 27, 2014

Today’s faculty features:

Brian S. Fraser, Partner, Richards Kibbe & Orbe, New York

Paul B. Haskel, Partner, Richards Kibbe & Orbe, New York

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“In bank loan

transactions, the

enforceability of

Big Boy provisions

depends on

whether the

provision

describes, with

specificity, the

withheld

information and

requires each

party to conduct

its own due

diligence.”

Memorandum

October 18, 2007

Who’s a Big Boy? Non-Reliance Provisions and Claims of Insider Trading In Securities and Non-Securities Markets By Brian S. Fraser and Tamala E. Newbold

T he reported settlements of two cases earlier this year involving the use (or misuse) of contractual disclaimers of reliance (so-called "Big Boy" provisions) in connection with distressed debt trading, and the recent widely-publicized

request for information relating to potential insider trading from the SEC, present the question of the enforceability and utility of such provisions. Both cases involved the purchase and sale of distressed bonds, which as securities are subject to a very different legal analysis than trades in distressed bank debt. While there are not a lot of cases that address the issue of Big Boy provisions1 in distressed debt trading, the law is relatively clear that the enforceability of such provisions will depend on whether the instrument being traded is a security or a non-security and the specificity of the provision describing the information that is not disclosed. A Big Boy Letter: will be of no use in defending a breach of contract or breach of fiduciary duty

claim arising from the purchase and sale of securities, including distressed bonds, or non-securities, such as distressed bank loans, when the trader is on a creditors' committee or owes some other duty of trust or confidence to the borrower;

will be of no use in defending governmental civil or criminal proceedings arising from the purchase and sale of securities, including distressed bonds;

will be of limited or uncertain usefulness in defending private lawsuits for fraud arising from the purchase and sale of securities, including distressed bonds; but

may provide some protection in defending a fraud case brought by a counterparty arising from the purchase and sale of a non-security such as bank debt as long as the parties are sophisticated, the disclaimer is specific as to the information that is not disclosed and the counterparty acknowledges that it has had the opportunity to conduct its own diligence. The key to enforceability in these circumstances is a clear description of the type and quality of information being withheld.

1 A Big Boy letter is an agreement entered prior to or contemporaneous with a transaction in which the parties acknowledge that the buyer

and seller are both sophisticated investors, and that one party may possess material nonpublic information regarding the issuer to which the

counterparty does not have access. Each party specifically disclaims any reliance on the other's disclosures or omissions, and represents in

effect that it is a "big boy" and is entering into the transaction notwithstanding the information disparity and its potential effect on the value

of the transaction.

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party during the Examination Period, including a description of the allegations forming the basis of each issue, the status of each pending issue, and a brief description of any "out of court" or informal settlement.

Disclosure, relating to receipt of non-public information/misuse of non-public information, of all companies on whose Creditors' Committees employees or affiliates of the Adviser serve.

Disclosure of all securities held in any client account during the past two years that were involved in a bankruptcy workout, identifying, for each security listed, all accounts that held equity and/or fixed income positions in the issuer at the time of the bankruptcy filing.

It is clear from these requests that the SEC is looking into the potential for insider trading in connection with distressed securities and that any litigation or threatened litigation involving claims of insider trading in distressed securities will come to the SEC's attention when a fund manager is examined.

ENFORCEABILITY OF BIG BOY PROVISIONS IN CONNECTION WITH SECURITIES TRANSACTIONS Both R2 Investments and Barclays involved the trading of distressed bonds. The antifraud provisions of the federal securities laws prohibit trading in securities, including bonds, while in possession of material nonpublic information about the issuer, and current law requires anyone who possesses material nonpublic information about an issuer to disclose the information or abstain from trading. See 17 C.F.R. § 240.10b5-1 (2000); Chiarella v. United States, 445 U.S. 222, 228 (1980). Under the misappropriation theory of insider trading, a person who has received confidential business information from another, pursuant to a fiduciary, contractual, or similar relationship of trust and confidence, has a duty to keep that information confidential. He commits fraud ‘in connection with’ a securities transaction, and violates § 10(b) and

THE RECENT EVENTS In Securities and Exchange Commission v. Barclays, 07-CV-04427 (S.D.N.Y.), the SEC alleged that Barclays obtained material nonpublic information about various debtors through Barclays' membership on a creditors' committee. The Barclays employee who served as Barclays' representative on the creditors' committee also traded bonds of the debtor for Barclays' account. In some instances, Barclays issued Big Boy letters to inform its bond trading counterparties that it possessed material nonpublic information about the debtor, and the 4 counterparties agreed to trade with Barclays notwithstanding the possible information disparity. See Barclays Bank Pays $10.9 Million to Settle Charges of Insider Trading on Bankruptcy Creditor Committee Information, S.E.C. Litig. Rel. No. 20132 (May 30, 2007). The case was settled before trial. In R2 Investments v. Salomon Smith Barney, the plaintiffs alleged that they purchased bonds issued by an insolvent telecommunications company, World Access, and that defendant Salomon Smith Barney ("SSB") possessed material nonpublic information through its participation on a World Access creditors' committee about World Access' financial condition. SSB executed a Big Boy letter with Jefferies & Co. ("Jefferies"), a broker intermediary that subsequently sold the bonds to R2 Investments without disclosing that it had executed a Big Boy letter with SSB. Two days later, World Access announced that it was out of cash, and the value of the bonds R2 Investments purchased declined 30 percent. See Jenny Anderson, Side Deals in a Gray Area, New York Times, May 22, 2007, p. C1. The case settled on the first day of trial for an undisclosed amount. Finally, the New York Regional Office of the Securities and Exchange Commission has recently formulated a new 27-page request for information that it is using in its examination of registered investment managers. SEC Pushes for Hedge Fund Disclosure, Wall Street Journal, September 19, 2007, p. C3. Among the many types of information that the SEC has requested are the following: Disclosure of threatened, pending, and settled

litigation or arbitration to which the Advisor was a

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See AES Corp. v. Dow Chemical Co., 325 F.3d 174, 182(3d Cir. 2003) (holding that to permit parties' disclaimer of reliance to bar relief under § 10(b) and Rule 10b-5 “would be fundamentally inconsistent with Section 29(a)"); Rogen v. Ilikon Corp., 361 F.2d 260, 268 (1st Cir. 1966) ("Were we to hold that the existence of [a disclaimer of reliance] provision constituted the basis (or a substantial part of the basis) for finding non-reliance as a matter of law, we would have gone far toward eviscerating Section 29(a)"); but cf. Harsco Corp. v. Segui, 91 F.3d 337, 343 (2d Cir. 1996) (disclaimer of reliance merely "weaken[ed]" plaintiff's case and therefore was not an impermissible waiver of compliance with the Exchange Act). Courts, however, generally agree that disclaimers of reliance may be at least relevant in evaluating the reasonableness of any reliance in a private securities action for violations of § 10(b)/Rule 10b-5. See, e.g., AES Corp., 325 F.3d at 181 (holding that while non- reliance clause could not itself bar relief on Rule 10b-5 claim, fact that parties' agreement contained a disclaimer of reliance was "among the circumstances to be considered in determining the reasonableness of any reliance"); Harsco Corp., 91 F.3d at 343 (sophisticated corporate plaintiff that agreed to non-reliance provision in purchase agreement was precluded from establishing the reasonable reliance necessary to prove its securities fraud claim).3 Therefore, in R2 Investments, a Big Boy letter may have helped Jeffries and SSB defend against the claims, but it does not appear that the defendants sought a Big Boy provision in the transaction with R2 Investments, or that R2 Investments knew that Jeffries had entered a Big Boy letter with SSB.

ENFORCEABILITY OF BIG BOY PROVISIONS WHEN TRADING NON-SECURITIES Bank Loans Are Not Securities Above we discussed defending against fraud in securities cases brought by the SEC and by private plaintiffs. Bank loans, however, so far have not been

Rule 10b-5, when he misappropriates confidential information for securities trading purposes, by breaching the duty owed to the source of that information. U.S. v. O'Hagan, 521 U.S. 642, 652 (1997). In the Barclays matter, the SEC alleged, without expressing any opinion on the legality of the Big Boy letters that Barclays entered into with some of its counterparties, that Barclays misappropriated the material nonpublic information it obtained through its participation on creditors' committees by failing to disclose its trades to the creditors' committees, the issuers, or any other "sources" of the information. Without admitting or denying any of the charges, Barclays agreed to pay more than $10.9 million in disgorgement, prejudgment interest, and civil penalties. Id. It is doubtful that the Big Boy letters would have provided Barclays with an effective defense had the case proceeded to trial. Big Boy provisions are only disclaimers of reliance, one of the usual elements necessary to prove a claim of fraud. The SEC, however, by statute, is not required to prove reliance to prove securities fraud in an insider trading case. See 17 C.F.R. § 240.10b5-1(b) (2000). A defendant could argue, perhaps, that his use of a Big Boy letter is proof that he had no intent to defraud, but that defense has not been tested. On the other hand, private litigants must prove, by a "preponderance of the evidence," that they relied on their counterparty's representations or omissions. Tellabs, Inc. v. Makor Issues & Rights, Ltd., 127 S. Ct. 2499, 2513 (2007) (plaintiff alleging fraud in § 10(b)/10b-5 action must prove her case by a preponderance of the evidence).2 Do Big Boy letters provide any better protection in private securities fraud cases? Section 29(a) of the Securities Exchange Act of 1934 forbids waivers of compliance with obligations imposed by the federal securities laws. See 15 U.S.C. § 78cc (2005). A case can be made that a Big Boy letter is an impermissible and unenforceable waiver under § 29(a).

2 The burden of proof in a common law fraud case is the stricter "clear and convincing evidence" standard. Weinberger v. Kendrick, 698 F.2d 61, 78 (2d Cir. 1982).

3 In assessing the reasonableness of a plaintiff's reliance, courts consider "the entire context of the transaction, including factors such as its complexity and magnitude, the sophistication of the parties,

and the content of any agreements between them." Emergent Capital Investment Management, LLC v. Stonepath Group, Inc., 343 F.3d 189, 195 (2d Cir. 2003).

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creditors' committees or as an advisor to the borrower. Borrower Confidential Information typically cannot be shared without breaching a confidentiality agreement with, or a fiduciary duty to, the borrower, or violating a court order of confidentiality. See Section III(A)(2), LSTA Statement of Principles for the Communication and Use of Confidential Information by Loan Market Participants (Dec. 2006). Trading in the debt of a borrower while in possession of Borrower Confidential Information presents a number of issues that are not present when trading while in possession of Syndicate Confidential Information. A party who trades in the bank loans of a borrower while in possession of Borrower Confidential Information, which it does not disclose to the counterparty, may be susceptible to allegations of breaches of fiduciary duty to the bankruptcy estate and other creditors as well as claims for fraud. See, e.g., In re Papercraft Corp., 211 B.R. 813, 825-26 (W.D. Pa. 1997). The most common method of dealing with the problem of creditors who wish to continue trading the debt while at the same time serving on a committee is the creation of internal information walls that separate the traders from the recipients in the firm of Borrower Confidential Information. See Sections V(A)-V(C), LSTA Statement of Principles for the Communication and Use of Confidential Information by Loan Market Participants(Dec. 2006); Order Approving Specified Information Blocking Procedures and Permitting Trading in Securities of the Debtors Upon Establishment of a Screening Wall, In re Fibermark, Inc., No. 04-10463, Docket No. 684 (Bankr. D. Vt. Oct. 19, 2004); Robert C. Pozen and Judy Mencher, "Chinese Walls for Creditors' Committees," 48 Bus. Law. 747, 756-57 (Feb. 1993). If an information wall is not feasible, because the firm that wishes to trade is too small or there are other internal structural impediments to a wall, can a Big Boy letter provide protection? In such cases, a Big Boy letter

held to be securities.4 Do Big Boy provisions provide greater protection in bank loan trading? The first question is what type of non-public information does the party to the transaction possess? There are two types of confidential information that bank loan investors can typically acquire: Syndicate Confidential Information and Borrower Confidential Information. Syndicate Confidential Information is "material information provided by or on behalf of a borrower (or its affiliates) which is nonpublic except that it is deliberately made available by or on behalf of such borrower to all of the members and potential members of a particular lending syndicate." Section 2(a)(i), Confidential Information Supplement to the LSTA Code of Conduct (May 1998). Syndicate Confidential Information is not confidential between syndicate members, is readily available to brokers, and can be disclosed to potential buyers of the debt with an appropriate confidentiality agreement. Id. Bank loans generally are freely traded (among syndicate members and prospective members, not the public) on the basis of Syndicate Confidential Information, and the possessors of Syndicate Confidential Information typically do not owe any fiduciary duty to the borrower or other creditors. See id.; Section III(A)(1), LSTA Statement of Principles for the Communication and Use of Confidential Information by Loan Market Participants (Dec. 2006). Borrower Confidential Information, on the other hand, is material information relating to a borrower that is nonpublic and is either obtained from the borrower or from another person that the market participant has reason to believe is subject to a duty not to disclose, and that has not been made available to all members or potential members of the syndicate. Section 2(a)(ii), Confidential Information Supplement to the LSTA Code of Conduct. Investors often acquire Borrower Confidential Information through their participation on

4 The Supreme Court.s analysis in Reves v. Ernst & Young, 494 U.S. 56 (1990), provides the analytic framework for determining whether a particular transaction involves the purchase or sale of a “security.”

These factors include (1) whether the instrument is motivated by investment or commercial purposes; (2) the "plan of distribution" for the instrument; (3) the reasonable expectations of the public; and (4)

whether an alternative regulatory scheme or other risk-inducing factor renders application of the securities laws unnecessary. Id. at 66-67. Is there a risk that, as an efficient secondary market for par and

distressed bank loans continues to develop, these instruments may begin to look like securities to regulators (and potential private plaintiffs)? So far the answer has been "no."

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knowledge of the nondisclosing party, so that reasonable diligence could not have uncovered the undisclosed information. Banque Arabe Et Internationale D'Investissement v. Maryland Nat'l Bank, 57 F.3d 146, 155 (2d Cir. 1995); see Merrill Lynch & Co., Inc. v. Allegheny Energy, Inc., 382 F. Supp. 2d 411, 418 (S.D.N.Y. 2003) (refusing to dismiss fraud claims, despite parties' specific, narrowly tailored disclaimer of reliance, where plaintiffs alleged that information about Merrill's "sham energy trades with Enron" and Merrill's concern that a principal had stolen $43 million were peculiarly within Merrill's knowledge); OnBank & Trust Cp. v. FDIC, 967 F. Supp. 81, 86-7 (W.D.N.Y. 1997) (disparity between principal amount of mortgage pass-through certificates and the mortgage loan balance was peculiarly within RTC's knowledge because, as servicer of the loans, RTC knew that certain loans had been paid off but that the principal amount had not been reduced accordingly). Big Boy Letters May Protect Against A Private Counterparty’s Action For Fraud Arising From Trading In Non-Securities Under Some Circumstances The elements of a claim for fraud or fraudulent inducement are (1) that defendant made a material false representation, (2) with the intent to defraud the plaintiff, (3) the plaintiff reasonably relied upon the representation, and (4) the plaintiff suffered damage as a result of that reliance. Banque Arabe, 57 F.3d at 153. Fraudulent concealment claims contain the additional element that the defendant had a duty to disclose the material information.5 First, while a Big Boy letter may successfully prevent a plaintiff from arguing that it relied on the non-disclosure, it can present other issues. Most importantly, it may affect the transaction itself, as the prospective counterparty may be reluctant to agree to the transaction without full disclosure, or may seek to insert a provision that would permit the parties to "unwind" the transaction if certain events occur. The presence of a Big Boy letter may also affect downstream marketability of the debt, as any subsequent purchasers may be unwilling to purchase debt that is already subject to a Big Boy provision.

may still protect against causes of action for fraud, but it will not help defend against allegations of breach of fiduciary duty, because the reliance or non-reliance of the counterparty to the trade is immaterial to claims of self-interest and unjust enrichment brought by other constituents of the borrower. See, e.g., Granite Partners, L.P. v. Bear, Stears & Co., Inc., 17 F. Supp. 2d 275, 306, 311 (S.D.N.Y. 1998) (setting forth the elements of breach of fiduciary duty and unjust enrichment). There Are Cases In Which The Courts Have Refused To Enforce Disclaimers Of Reliance On Public Policy Grounds Or On The “Peculiar Knowledge” Exception Blanket exculpatory agreements will not shield parties from liability for intentional, fraudulent, or grossly negligent conduct. See Turkish v. Kasenetz, 27 F.3d 23, 27-8 (2d Cir. 1994) ("parties cannot use contractual limitation of liability clauses to shield themselves from liability for their own fraudulent conduct"); Kalisch-Jarcho, Inv. v. City of New York, 58 N.Y.2d 377, 385 (1983) ("an exculpatory clause is unenforceable when . . . the misconduct for which it would grant immunity smacks of intentional wrongdoing"). This general rule has been relaxed, however, where sophisticated business people, negotiating at arms length, agree to a specific disclaimer provision that tracks the substance of the alleged misrepresentations or omissions. Harsco Corp., 91 F.3d at 344-45 (Turkish does not apply where a contract "clearly delineates what representations have been made"); Citibank, N.A. v. Plapinger, 66 N.Y.2d 90, 94-5 (1985) (defendants who agreed to specific disclaimer of reliance were foreclosed from establishing reliance in cause of action for fraud); Kalisch-Jarcho, Inc., 58 N.Y.2d at 384 (enforcement of contractual waiver clause is "especially" warranted when contract was "entered into at arms length by sophisticated contracting parties"). There is nevertheless a risk that a court that detects strong evidence of intentional fraud, or "picking off", will decline to enforce a Big Boy provision even between sophisticated parties. Similarly, courts will not enforce disclaimers of reliance where the complaining party can demonstrate that its claims are based on facts peculiarly within the

5 The question of when a duty to disclose material non-public information in non-securities cases arises is itself an interesting question, but not one addressed here.

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defrauded them in connection with the formation of and payment under certain Enron-related syndicated credit facilities for which Citigroup and Chase served as co- Administrative agents. The agreements precluded plaintiffs from claiming that they relied on any alleged representations by Chase or Citigroup. The court dismissed fraud and negligent misrepresentation claims against Chase and Citigroup on grounds that

[h]aving failed to bargain for the right to rely on the banks as monitors of Enron's compliance with its disclosure, financial condition and other covenants, or for the right to benefit from any knowledge gained by the Defendant banks or their affiliates in connection with their own business dealings with Enron and its affiliates, Plaintiffs cannot, as a matter of law, be held reasonably to have relied on any misrepresentations or omissions by the Defendants concerning those matters.6

Likewise, in Lazard Freres & Co. v. Protective Life Ins. Co., 108 F.3d 1531 (2d Cir. 1997), negotiations for a time-sensitive sale of bank debt between two large, sophisticated bank debt traders required Protective to make an oral commitment to purchase the bank debt before it had a chance to review a key report on the debtor's financial condition. Protective subsequently alleged that Lazard's representative made false representations regarding the report. The court held that even though matters may have been peculiarly within Lazard's knowledge, Protective, as a "substantial and sophisticated player in the bank debt market," was under a duty to protect itself from Lazard's alleged misrepresentation regarding the underlying purchase of bank debt, and could easily have protected itself by insisting, as a condition to closing, on an examination of documents pertaining to the transaction or by negotiating contractual provisions to protect parties' interests. Id. at 1543. Protective's failure to protect itself rendered reliance on the misrepresentation "unreasonable as a matter of law." Id.

Second, assuming all attendant concerns have been assessed and the parties agree to execute a Big Boy provision, the drafters of such provisions need to consider the following issues. Courts have enforced disclaimers of reliance where the disclaimer: is the product of negotiation among sophisticated

parties;

specifically describes the type and quality of the information being withheld in terms that are tailored to the specific transaction at hand;

requires the parties to acknowledge that each party has voluntarily entered the transaction notwithstanding the nondisclosure of material non-public information;

requires each party to perform its own due diligence and to disclaim any reliance on the other.

In addition, the Big Boy letter should contain a merger clause that clearly sets forth the parameters of the entire agreement between the parties, and the representations upon which the parties may rely. The Big Boy Letter Must Be The Product of Negotiation Between Sophisticated Entities Parties to distressed bank loan trades in the secondary market should be, and almost always are, financially sophisticated, and all relevant documents between the parties should clearly reflect their sophistication. Sophisticated parties are presumed to have equal bargaining power and can negotiate terms or insist on greater disclosure. When a contract is between two sophisticated parties, courts recognize that reliance is unreasonable not merely on expressly disclaimed representations, but also on representations that a knowledgeable party should have insisted on including in the agreement but that were not included. For instance, in UniCredito Italiano SPA v. JPMorgan Chase Bank, 288 F. Supp. 2d 485 (S.D.N.Y. 2003), plaintiffs, sophisticated Italian and Polish financial institutions, alleged that JP Morgan Chase ("Chase") and Citigroup

6 Id. at 499; see also Emergent Capital Inv. Mgmt., LLC v. Stonepath Group, Inc., 165 F. Supp. 2d 615. 622 (S.D.N.Y. 2001) (dismissing fraud claim on grounds that "fraud claim will not stand where the

clause was included in a multi-million dollar transaction that was executed following negotiations between sophisticated business people and a fraud defense is inconsistent with other specific recitals in

the contract").

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memorandum any other information or documents. The court held that the parties' particularized disclaimers made it impossible for plaintiff to prove reasonable reliance. DynCorp, 214 F. Supp. 2d at 320-21.7

In contrast, in Merrill Lynch & Co. v. Allegheny Energy, Inc., Merrill provided certain Evaluation Material to Allegheny in connection with the contemplated sale of Merrill's energy commodity trading business. After Allegheny acquired the business from Merrill, Allegheny discovered that Merrill knew that a principal in the business had been suspected of engaging in considerable fraudulent activity, and that the business' financial performance was based in part on sham trades with Enron. 382 F. Supp. 2d at 415. The court held that the parties' disclaimer did not track the substance of the alleged misrepresentations because the disclaimer did not state that Merrill Lynch disclaimed any prior representations about the Enron transactions or the principal's qualifications. Id. at 417. The Disclaiming Party Should Acknowledge That It Has Agreed To Complete The Transaction Notwithstanding the Nondisclosure Of Material Nonpublic Information Big Boy letters also must require the disclaiming party to acknowledge that its counterparty may have Borrower Confidential Information that it cannot disclose, but that the disclaiming party has voluntarily entered the transaction notwithstanding the nondisclosure. The LSTA Distressed Standard Terms suggest the following standard Big Boy provision: 5(n): Buyer acknowledges that (i) Seller currently may have, and later may come into possession of, information with respect to the Transferred Rights, the Assumed Obligations, Borrower, Obligors or any of their respective Affiliates that is not known to the Buyer and that many be material to a decision to sell the Transferred Rights and to retain the Assumed Obligations ("Buyer Excluded Information"), (ii) Buyer has determined to purchase the Transferred Rights and to retain the Assumed Obligations

The Big Boy Letter Must Specifically Describe The Information Withheld Cases in the Second Circuit hold that a party who specifically disclaims reliance upon a particular representation in a contract cannot, in a subsequent action for fraud, claim it was fraudulently induced to enter into the contract by the very representation it has disclaimed reliance upon. Banque Arabe, 57 F.3d at 155. To be effective, the Big Boy letter or provision should be specific enough that the counterparty clearly is on notice as to what may not be reasonably relied on, yet not so specific as to disclose the substance of the confidential information. The letter must avoid boilerplate generalities and specifically reference the representations and warranties on which each party is entitled to rely, if any. See Harsco Corp., 91 F.3d at 346 ("the exhaustive nature of the [Agreement's] representations adds to the specificity of [the Agreement's] disclaimer of other representations."). Where a party to a distressed bank loan transaction possesses Borrower Confidential Information, it would be advisable to disclose the type of information withheld, i.e., business plans, earnings projections or financial statements, as well as the party’s relationships with the issuer, i.e., committee member, adviser, member of the Board of Directors. For example, the plaintiff in DynCorp v. GTE Corp., 215 F. Supp. 2d 308 (S.D.N.Y. 2002), purchased a telecommunications company from Contel, a wholly owned subsidiary of GTE. GTE in turn agreed not to compete with the business, and also agreed to guarantee its subsidiary's performance of certain obligations. The parties' purchase agreement specifically provided that GTE made no express or implied representations or warranties with respect to the business being sold, or to its probable success or profitability, or to any other information provided to plaintiff. In addition, plaintiff agreed that GTE would not be subject to any liability or indemnification obligation resulting from the distribution to plaintiff of the offering

7 See also Danann Realty Corp. v. Harris, 5 N.Y.2d 317, 321-23 (1959) (finding that where a party specifically disclaims reliance on a particular representation, the party is precluded from claiming

fraudulent inducement to enter into the contract based on that very representation, and that a contrary result would allow the plaintiff to "deliberately misrepresent[]" its purported nonreliance in the

contract).

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subsequently filed suit, alleging that defendants misrepresented the status of the construction of several plants in Asia and Europe, the financial prospects of the business' operations, and the business' intellectual property rights. The Second Circuit affirmed dismissal of Harsco's claims, holding that many of the misrepresentations complained of were "exactly what [the agreement] disclaim[ed]." Id. at 345. The Second Circuit also held that to the extent Harsco claimed misrepresentations about plants other than those specifically referenced in the agreement, "Harsco should be treated as if it meant what it said when it agreed" to specifically disclaim reliance on representations not in the agreement. Id. at 345-46. See also Danann Realty Corp. v. Harris, 5 N.Y.2d 317, 320-21 (1959) (dismissing fraud claims by purchaser of lease, based on seller's alleged false representations as to the building's operating expenses and profitability, where plaintiff specifically acknowledged in the agreement that seller had not made and did not make any representations as to, among other things, "the physical condition, . . . expenses, [or] operation" of the premises). The Big Boy Letter Must Require Each Party To Perform Its Own Due Diligence On The Underlying Transaction Parties to a Big Boy letter also should include language affirming that each party is responsible for its own due diligence, and that neither is entitled to rely on the other.9 Such language may forestall any subsequent invocation of the "peculiar knowledge" doctrine, which provides that express disclaimers of reliance will not be given effect because the facts are peculiarly within the knowledge of the defendant, and plaintiff had no independent means of ascertaining the truth. Banque Arabe, 57 F.3d at 155.

notwithstanding its lack of knowledge of Buyer Excluded Information and (iii) Seller shall have no liability to Buyer or any Buyer Indemnitee, and Buyer waives and releases any claims that it might have against Seller or any Seller indemnitee. . . 8

The Second Circuit has noted that a party who has been put on notice of the existence of material facts which have not been documented and nevertheless proceeds with the transaction without negotiating language into the agreement for his protection, "will not be heard to complain that he has been defrauded." Lazard Freres & Co., 108 F.3d at 1543. Similarly, the courts in McCormick v. Fund American Cos., Inc., 26 F.3d 869 (9th Cir. 1994) and Jensen v. Kimble, 1 F.3d 1073 (10th Cir. 1993), dismissed securities fraud charges by parties who were put on notice that their counterparties would not disclose certain information. Defendants in McCormick and Jensen explicitly informed plaintiffs that they would not disclose certain material information, and the plaintiffs entered the transactions notwithstanding the nondisclosures. The Jensen court held that there could be no fraud because the plaintiff "knew what he didn't know" when he entered the transaction. 1 F.3d at 1078. Like all other aspects of the disclaimer, the acknowledgment of non-reliance must be specifically tailored to the agreement. For instance, the agreement in Harsco Corp. v. Segui provided that Harsco acknowledged that the sellers of a business were not warranting “projections, estimates or budgets ... of future revenues, expenses or expenditures, future results of operations, ... or any other information or documents made available” to Harsco. Harsco Corp., 91 F.3d at 342. Harsco also acknowledged that it could only rely on those representations specifically set forth in the agreement. Id. Harsco purchased the business and

8 ¶ 4(o) of the LSTA Distressed Standard Terms and Conditions contains a nearly identical provision for the Seller. 9 See, e.g., Sections 5.1(f) and 5.1(f) of the LSTA Standard Terms and Conditions, which provide that the buyer: has adequate information concerning the business and financial condition of the Borrower and Obligors . . . to make an informed decision regarding the purchase . . . has independently and without reliance upon Seller, and based on such information as Buyer has deemed appropriate, made its own analysis and decision to enter into this Agreement, . . . acknowledges that Seller has not given Buyer any investment advice, credit information or opinion on whether the purchase of the Transferred Rights or the assumption of the Assumed Obligations is prudent[; and] . . . has not relied and will not rely on Seller to furnish or make available any documents or other information regarding the credit, affairs, financial condition or business of Borrower or any Obligor, or any other matter concerning Borrower or Obligor.

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Consolidated Edison, Inc. v. Northeast Util., 249 F. Supp. 2d 387, 401 (S.D.N.Y. 2003), rev'd in part on unrelated grounds, 426 F.3d 524 (2d Cir. 2005) (plaintiffs could not prove reasonable reliance on oral statements made in the course of due diligence where the parties' agreement contained specific disclaimer, combined with integration clause which provided that Merger Agreement and Confidentiality Agreement were the entire agreement between the parties and superseded all prior written and oral understandings).

CONCLUSION When drafting a Big Boy provision, potential loan trading counterparties should consult the standards provisions in the LSTA Standard Terms and Conditions ("LSTA Standard Terms") as a springboard in their negotiations, but should supplement the LSTA Standard Terms with particularized language that is tailored to their contemplated transaction. Courts are more likely to enforce disclaimers of reliance in Big Boy letters where the parties specifically enumerate any and all representations, warranties or omissions on which the parties are entitled to rely, and specifically disclaim reliance on all others. The Big Boy letter also should clearly state whether the transaction involves undisclosed Borrower Confidential Information, and if so, should require that the counterparties acknowledge that they are entering the transaction notwithstanding the nondisclosure.

In the past, some courts have enforced disclaimers of reliance, over the plaintiffs' protests that facts concerning the transaction were peculiarly within the defendants' knowledge, where the disclaimers placed the burden on the buyer to perform its own due diligence. See UniCredito Italiano, 288 F. Supp. 2d at 500-01 (where plaintiffs specifically agreed they would make their own credit decisions and would not rely on defendants in deciding whether to enter Enron credit facilities, court refused to apply the peculiar knowledge exception to defeat the parties' contractual allocations of risks away from the defendants). But see Merrill Lynch v. Allegheny Energy, 382 F. Supp. 2d at 415 (notwithstanding the general disclaimer of reliance, the language in the parties' agreement placed a disclosure burden on Merrill, rather than a diligence burden on Allegheny, and information about the sham trades and about Merrill's suspicions about the principal's conduct was peculiarly within Merrill's knowledge). The Bog Boy Letter Should Contain A Merger Clause Finally, to underscore the specific disclaimers and acknowledgments contained therein, a Big Boy letter also should contain a merger clause. See Emergent Capital Investment Mgmt, LLC v. Stonepath Group, Inc., 195 F. Supp. 2d 551, 562 (S.D.N.Y. 2002), vacated in part on unrelated grounds, 343 F.3d 189 (2d Cir. 2003) ("when the contract states that the defendant makes no representations other than those contained in another more exhaustive clause of the contract, a fraud claim may be precluded"). The merger clause should indicate that the Big Boy letter and any other pertinent transaction documents constitute the entire agreement between the parties, supersede any prior agreements and understandings, written or oral, between the parties with respect to the subject matter of the agreement, and contain the only representations or warranties on which the parties are entitled to rely. See, e.g., Harsco Corp., 91 F.3d at 345 ("no other representations" clause in merger agreement precluded claims alleging misrepresentations about Russian plant facility during due diligence process, where parties' agreement did not contain any representations about the Russian plant);

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QUESTIONS If you have questions regarding the matters discussed in this memorandum, please call your usual contact at Richards Kibbe & Orbe LLP or one of the persons listed below. Brian S. Fraser New York, N.Y. 212.530.1820 bfraser@rkollp.com Click here to view additional publications on related topics.

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“Under New York

law, a party with

‘superior

knowledge’ of

material facts that

are not readily

available to its

counterparty has a

duty to disclose

those facts.”

Memorandum

October 8, 2009

Who’s a Big Boy II: Superior Knowledge and the Duty to Disclose By Brian S. Fraser and Tamala E. Newbold

I n our October 2007 memorandum titled “Who’s A Big Boy? Non-Reliance Provisions and Claims of Insider Trading in Securities and Non-Securities Markets,” we addressed questions regarding the enforceability of contractual

disclaimers of reliance (“Big Boy provisions”), in which the parties to a transaction agree that one or both of them may have access to material non-public information to which the other party does not have access. We concluded that the usefulness of such provisions is generally limited to preventing a finding of reasonable reliance in a common-law fraud case arising from a transaction between sophisticated parties in a non-security such as bank debt, and then only when the Big Boy provision clearly describes the type and quality of the information being withheld. In a situation involving a non-disclosure (as opposed to a misrepresentation), however, the threshold issue is whether there is a duty to disclose in the first place. So where does the duty come from? Under the “misappropriation” theory of insider trading under the federal securities laws, the duty arises from 1) a fiduciary relationship with or 2) a contractual confidentiality obligation owed to the source of the information. New York common law, however, which applies to many non-securities financial transactions, provides a different framework for determining when a party to a transaction has a duty to disclose. In the non-securities context, the issue that gets litigated is not insider trading, but rather fraud or fraudulent concealment in a civil action for rescission or for damages. In the absence of an affirmative misstatement, liability can result from non-disclosure only if there is a duty to speak, and the general rule is caveat emptor. There is a line of cases, however, that holds that one party’s “superior knowledge” may trigger a duty to disclose to the party that does not have the same information. Below, we describe the evolution and application of the “superior knowledge” exception to caveat emptor under New York law, and conclude that where sophisticated parties, negotiating at arms length, agree to a detailed Big Boy provision that affirms that each is entering the transaction notwithstanding that one party may have access to material nonpublic information that it will not disclose, a New York court is likely to reject a claim for fraud based on failure to disclose superior knowledge. We do so with a disclaimer of our own: the cases are heavily fact-driven, and the results are difficult to reconcile. Also, it is safe to assume that if a court concludes that there has been willful and intentional fraud, a Big Boy provision will not be much help.

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New York common law also recognizes a duty to disclose (1) to make partial or ambiguous statements not misleading, and (2) where the parties have a fiduciary or confidential relationship. New York law, however, differs from federal securities law in one crucial respect: it requires disclosure where one party simply and legitimately possesses superior knowledge about a material fact regarding the transaction, and knows that the counterparty is entering the transaction with a mistaken belief regarding that fact.

CAVEAT EMPTOR NOTWITHSTANDING, THERE IS A DUTY TO DISCLOSE UNDER NEW YORK LAW UNDER CERTAIN CIRCUMSTANCES There can be no fraudulent concealment under New York law absent a duty to disclose.1 P.T. Bank Central Asia v. ABN AMRO Bank N.V., 301 A.D.2d 373, 754 N.Y.S.2d 245, 250 (1st Dep’t 2003). The general rule is caveat emptor: “ 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.” Brass v. American Film Technologies, Inc., 987 F.2d 142, 150 (2d Cir. 1993) (applying New York law). Although the question of when a duty to disclose arises is complex and highly-contested, the rule on its face is deceptively simple. A party to a business transaction has a duty to speak in only three situations: first, where the party has made a partial or ambiguous statement, and it would be misleading to omit other information to correct the misimpression; second, when the parties stand in a fiduciary or confidential relationship with each other; or third, where one party’s superior knowledge of material facts renders a transaction without disclosure “inherently unfair.” See Jana L. v. West 129th St. Realty, 22 A.D.3d 274, 802 N.Y.S.2d 132, 134 (1st Dep’t 2005); Brass, 987 F.2d at 150-52.

PARTIAL OR AMBIGUOUS STATEMENTS A duty to disclose can arise where necessary to correct

SIMILARITIES BETWEEN FEDERAL SECURITIES LAW AND NEW YORK COMMON LAW ON THE DUTY TO DISCLOSE New York state common law and the federal securities laws both recognize that a mere disparity in information among contracting parties does not, in itself, give rise to a duty to disclose. See Walton v. Morgan Stanley & Co., Inc., 623 F.2d 796, 799 n.6 (2d Cir. 1980) (noting that New York and federal law both recognize that a duty to disclose does not arise “from the fact that some investors have more information than others”); Societe Nationale D’Exploitation Industrielle Des Tabacs Et Allumettes v. Salomon Bros. Int’l, Ltd., 268 A.D.2d 373, 702 N.Y.S.2d 258, 259 (1st Dep’t 2000). It is firmly established under both New York and federal law that nondisclosures are not actionable absent a duty to disclose. See Basic, Inc. v. Levinson, 485 U.S. 224, 239 n. 17 (1988) ("Silence, absent a duty to disclose, is not misleading under Rule 10b-5"); Banque Arabe et Internationale D’Investissement v. Maryland Nat’l Bank, 57 F.3d 146, 153 (2d Cir. 1995) (claim for fraudulent concealment under New York law requires proof that the defendant had a duty to disclose material information). A duty to disclose arises under Section 10 of the Securities Exchange Act of 1934 and Rule 10b- 5 when 1) an insider trades securities on the basis of material, non-public information (see Chiarella v. United States, 445 U.S. 222, 228 (1980)); 2) a fiduciary or similar relationship of trust and confidence exists between the parties outside of the securities laws (see United States v. O'Hagan, 521 U.S. 642, 652 (1997)); or 3) the person or company at issue has previously made a statement of material fact that is false or misleading in light of undisclosed information (see 17 C.F.R. § 240.10b-5 (making it unlawful to “omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading); In re Time Warner Sec. Litig., 9 F.3d 259, 268 (2d Cir. 1993)).

1 The elements of fraudulent concealment under New York law are: (1) a duty to disclose material facts; (2) knowledge of material facts by a party bound to make such disclo-sures; (3) nondisclosure; (4)

scienter; (5) reliance; and (6) damage. P.T. Bank Central Asia v. ABN AMRO Bank N.V., 301 A.D.2d 373, 754 N.Y.S.2d 245, 250 (1st Dep’t 2003). The duty to disclose also can arise in negligent

misrepresentation claims. Under New York law, a claim of negligent misrepresentation requires proof that the defen- dant had a duty, as a result of a special relationship, to give correct information. Solutia

Inc. v. FMC Corp., 456 F. Supp. 2d 429, 448-49 (S.D.N.Y. 2006) (citing Kimmell v. Schaefer, 89 N.Y.2d 257, 652 N.Y.S.2d 715, 719 (1996)).

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relative sophistication as a party shows that Century should have understood exactly what legal assurances it was being given (and not given) and on what elements of the business deal it was knowingly assuming a risk.” Id.

FIDUCIARY RELATIONSHIP In New York, it is “well established that, when a fiduciary, in furtherance of its individual interests, deals with the beneficiary of the duty in a matter relating to the fiduciary relationship, the fiduciary is strictly obligated to make “full disclosure” of all material facts.” Blue Chip Emerald LLC v. Allied Partners Inc., 299 A.D.2d 278, 750 N.Y.S.2d 291, 294 (1st Dep’t 2002) (citing cases). Absent such full disclosure, the transaction is voidable. For example, the court in Blue Chip held that a co-venturer “had no right” to keep to itself material information about its efforts to sell or lease the venture’s property, and determined that as a result, contractual disclaimers the trial court invoked as grounds for dismissing plaintiff’s action were “voidable as the fruit of the fiduciary's breach of its obligation to make full disclosure.” Id. at 294-95; see also Ajettix Inc. v. Raub, 9 Misc.3d 908, 804 N.Y.S.2d 580, 588-89 (N.Y. Sup. 2005) (rescinding corporation’s agreement to redeem former vice-president’s stock where vice-president failed to disclose facts that affected the value of his shares); Pebble Cove Homeowners' Ass'n, Inc. v. Shoratlantic Development Co., Inc., 191 A.D.2d 544, 595 N.Y.S.2d 92, 93 (2d Dep’t 1993) (directors of homeowners’ association had duty to disclose facts which could damage the association). However, a conventional, arms-length business relationship does not give rise to a fiduciary duty under New York law and therefore does not trigger a duty to speak. Oursler v. Women’s Interart Center, Inc., 170 A.D.2d 407, 566 N.Y.S.2d 295, 297 (1st Dep’t 1991). Nor does the fact that counterparties have entered a confidentiality agreement transform a purely commercial relationship into a fiduciary one under New York law. See Boccardi Capital Systems, Inc. v. D.E. Shaw Laminar Portfolios, L.L.C., No. 05 cv 6882 (GBD), 2009 WL 362118, at *7 (S.D.N.Y. Feb. 9, 2009) (“Plaintiff’s allegations

misunderstandings when one party has made what amounts to partial or ambiguous disclosures. The general rule is that “once a party has undertaken to mention a relevant fact to the other party it cannot give only half the truth.” Brass, 987 F.2d at 150. For instance, to the extent such information is not readily discoverable, a company cannot disclose strong earnings without also disclosing losses that nearly wipe out its profits. See Peerless Mills, Inc. v. AT&T, 527 F.2d 445, 449 (2d Cir. 1975).

The partial disclosure requirement has been somewhat eroded, however, in a number of Federal court cases in which the court found, under New York law, that partial disclosures between sophisticated parties are not fraudulent where the disclosures revealed sufficient information to impose a duty on the recipient to make further inquiry. For example, in Lazard Freres & Co. v. Protective Life Ins. Co., the United States Court of Appeals for the Second Circuit, applying New York law, held that where a party has been put on notice of the existence of material facts which have not been documented and that party nevertheless proceeds with a transaction without securing the available documentation or inserting appropriate language in the agreement for his protection, “he may truly be said to have willingly assumed the business risk that the facts may not be as represented.” Lazard Freres & Co., 108 F.3d 1531, 1543 (2d Cir. 1997) (citing Rodas v. Manitaras, 159 A.D.2d 341, 552 N.Y.S.2d 618, 620 (1st Dep’t 1990)). More recently, in Century Pacific, Inc. v. Hilton Hotels, Inc., plaintiffs sued Hilton Hotels for fraud after the value of the Red Lion hotel franchise license plaintiffs purchased dropped significantly once Hilton divested Red Lion from its family of hotels. Century Pacific, Inc., 528 F. Supp. 2d 206, 233 (S.D.N.Y. 2007). The court held, again applying New York law, that even though Century raised a triable issue of fact as to defendants’ partial or ambiguous statements regarding Hilton’s intent to retain the Red Lion name as part of its portfolio, Century could not have reasonably relied on such statements because “the contents of its customized Agreement, and its

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Id. The court then held that the true facts were peculiarly within defendant’s knowledge, and that it was difficult to see “how the exercise of common prudence and the use of ordinary intelligence, or of the faculty of sight, would have enabled plaintiff to detect the falsity of Mather's statement, and, therefore, why she was not entitled to rely absolutely upon it.” Id. In its current iteration, the superior knowledge doctrine (also known as the “peculiar” knowledge doctrine) is premised on the notion that “[w]hen matters are...peculiarly within the defendant's knowledge,...plaintiff may rely without prosecuting an investigation, as he has no independent means of ascertaining the truth.” DIMON, Inc. v. Folium, Inc., 48 F. Supp. 2d 359, 368 (S.D.N.Y. 1999) (citing Lazard Freres & Co., 108 F.3d at 1542) (both applying New York law); see also Strasser v. Prudential Securities, Inc., 218 A.D.2d 526, 527, 630 N.Y.S.2d 80, 82 (1st Dep’t 1995). In order to establish a duty to disclose material information based on superior knowledge, the plaintiff must prove (1) that the defendant had superior knowledge; (2) that the information was not readily available the plaintiff; and (3) that the defendant knew that plaintiff was acting on the basis of mistaken knowledge. Banque Arabe et Internationale D’Investissement v. Maryland Nat’l Bank, 57 F.3d 146, 155 (2d Cir. 1995). Courts are very clear that a duty to disclose arises only when all three elements are present; the absence of even one element absolves the defendant of any duty to disclose based on superior knowledge.3 Congress Financial Corp. v. John Morrell & Co., 790 F. Supp. 459, 473 (S.D.N.Y. 1992) (“failure of any single element bars application [of the superior knowledge] doctrine” to prove New York common law fraud). Superior knowledge is, quite simply, material information about a transaction that a counterparty does not know and cannot find out through reasonable

diligence. It is material information, known and

demonstrate that the Confidentiality Agreement was executed by parties on equal footing, as part of a “purely commercial relationship,” one in which courts will not impose fiduciary obligations on either contracting party.”).

SUPERIOR KNOWLEDGE: THE EXEMPTION THAT POTENTIALLY SWALLOWS THE GENERAL RULE So far, so good. There should be no surprise that a

misleading half-truth or a breach of a confidential relationship can potentially give rise to liability. It is the third exception to caveat emptor, however, that makes things interesting. What is Superior Knowledge? The origins of the superior knowledge doctrine, which applies equally to omissions and affirmative misrepresentations of material fact, date to 1892, when the New York Court of Appeals upheld a jury verdict in favor of the plaintiff who claimed that she purchased defendant’s farm in reliance on the defendant’s false representation that the farm could house 100 cattle and 16 horses. Schumaker v. Mather, 88 Sickels 590, 133 N.Y. 590, 595 (1892). The defendant argued there was no fraud because the plaintiff had the means to determine for herself whether the farm could accommodate the amount of animals he claimed, but evidence showed that on several occasions the defendant thwarted plaintiffs’ attempts to do so. In addition, upon closing, plaintiff represented that she was relying solely on the defendant’s representations. The court stated the general rule that

if the facts represented are not matters peculiarly within the party's knowledge, and the other party has the means available to him of knowing, by the exercise of ordinary intelligence, the truth, or the real quality of the subject of the representation, he must make use of those means, or he will not be heard to complain that he was induced to enter into the transaction by misrepresentations.

2 For example, in Frigitemp Corp. v. Financial Dynamics Fund, Inc., 524 F.2d 275 (2d Cir. 1975), the Second Circuit, applying New York law, held that information about corporate holdings was not

superior knowledge where the information was readily available to any potential purchaser who asked for it, so purchasers could therefore assume that the plaintiffs were not acting on the basis of

mistaken knowledge. 524 F.2d at 282-83.

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standalone nature of Red Lion’s business and the trajectory of Red Lion and other Hilton brands] equally available to a prospective franchisee in the course of reasonable diligence as to someone inside the company.” Id. at 233. Similarly, a plaintiff could not recover for fraud arising out of a failed real estate investment where he had not researched the local market, requested supporting documentation about a developer’s other projects, or investigated the project site. See Stuart Silver Assocs., Inc v. Baco Devel. Corp., 245 A.D.2d 96, 665 N.Y.S.2d 415, 418 (1st Dep’t 1997). Nor is disclosure required because one party has performed better research or due diligence than another. Again, the law presumes that a counterparty could have obtained the same information. See Grumman Allied Indus., Inc. v. Rohr Indus., Inc., 748 F.2d 729,739 (2d Cir. 1984) (claim that defendant possessed superior knowledge was “without merit” where plaintiff had unrestricted access to defendant’s facilities, books and records, and personnel but failed to use its access to discover the allegedly omitted information). In fact, a court recently held that “as a matter of law,” one party’s knowledge was not superior where the counterparty had access to the same sources of information and could have hired its own private investigators to search public records, “as defendant apparently did.” See Albion Alliance Mezzanine Fund, L.P. v. State Street Bank and Trust Co., 8 Misc. 3d 264, 797 N.Y.S.2d 699, 704-05 (N.Y. Sup. 2003). Another court held that a seller who hired professional drillers to test oil wells and discovered that the wells were “dry” did not have to disclose this information to purchasers, because the purchasers could have hired their own experts. See Barcomb v. Alford, 125 A.D.2d 907, 510 N.Y.S.2d 267, 269 (3d Dep’t 1986). So When Will A Court Find Superior Knowledge Giving Rise To A Duty to Disclose? Then, one might ask, under what circumstances will a mere disparity in knowledge among sophisticated parties bargaining at arm’s length evolve into something more, triggering disclosure obligations to a counterparty? Although the law does not require a

knowable only to one party, that renders false the

counterparty’s basic assumptions about the transaction. See, e.g., Laugh Factory, Inc. v. Basciano, 608 F. Supp. 2d 549, 559 (S.D.N.Y. 2009) (defendant knew, but plaintiff did not, that at the time he was offering plaintiff full rights to use the name Laugh Factory of NYC, he also contemplated offering the name to other investors); Janel World Trade, Ltd. v. World Logistics Services, Inc., No. 08 Civ. 1327 (RJS), 2009 WL 735072, at *10 (S.D.N.Y. Mar. 20, 2009) (plaintiff could not rightfully obtain exclusive rights to all defendant’s assets because defendant had entered side deal secretly granting a portion of those assets to a third party). A party’s knowledge is not “superior” where the relevant information was either a matter of public record, was not pursued by plaintiffs, or was disclosed at least in part. See Grumman Allied Indus., Inc. v. Rohr Indus., Inc., 748 F.2d 729, 739 (2d Cir. 1984). Nor is knowledge “superior” when a buyer has an opportunity equal to that of a seller to obtain information. Brass, 987 F.2d at 151; Congress Financial Corp., 790 F. Supp. at 474 (finding no duty to disclose, and thus no fraudulent concealment, where plaintiff had “unrestricted” access to the books, records, facilities and personnel at issue and the means to utilize the access, but “failed to exercise diligence to discover allegedly omitted information”). In addition, courts apply a sliding scale when determining access to information, such that “the more sophisticated the buyer, the less accessible the information must be to be considered within the seller’s [superior] knowledge.” Solutia Inc. v. FMC Corp., 456 F. Supp. 2d 429, 448 (S.D.N.Y. 2006) (citing cases). What Superior Knowledge Is Not? Knowledge is not “superior” where it involves knowledge of extrinsic facts such as market conditions or changes in the law. Courts assume that that kind of information, though known to only one party, could have been obtained by either party. The United States District Court for the Southern District of New York recently rejected a superior knowledge claim in Century Pacific, Inc. v. Hilton Hotels Corp. on grounds that Hilton’s desire to sell the Red Lion hotel chain was “discernable based on public information [including the

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exclusive rights to all of its assets because it had already granted a portion of those assets to a third party. Janel World Trade, Ltd. v. World Logistics Services, Inc., No. 08 Civ. 1327 (RJS), 2009 WL 735072, at *10 (S.D.N.Y. Mar. 20, 2009). These and other cases suggest that knowledge of a latent defect in the subject of the transaction, not discoverable through the exercise of ordinary diligence, triggers a duty of disclosure. Courts have also held that information about a defendants’ own fraudulent transactions or conduct that affects the value of the subject matter of the transaction is superior knowledge that must be disclosed, the rationale being that “[b]y its nature, this information is of the type that was in defendants’ possession, not at plaintiff’s fingertips, and which, one can envision, defendants would have desired to keep close to the chest.” Nomura Sec. Int’l, Inc. v. E*Trade Sec., Inc., 280 F. Supp. 2d 184, 206 (S.D.N.Y. 2003) (quoting Doehla v. Wathne, Ltd., No. 98 Civ. 6087, 1999 WL 566311, at *16 (S.D.N.Y. Aug. 3, 1999). In Nomura, the court held that the defendant should have disclosed to counterparties in securities lending transactions the fact that it had manipulated the market by purchasing the entire public float of a company’s stock, so that the only possible lenders of the stock would be insiders who were not legally permitted to lend stock. Id. at 206. Finally, the court in Minpeco, S.A. v. Conticommodity Servs., Inc., 552 F. Supp. 332, 337-38 (S.D.N.Y. 1982), held that a broker should have disclosed the fact that an increase in the global price of silver was the result of the broker’s own efforts to monopolize the silver market. So what is the practical, real world application of these concepts? Does the superior knowledge doctrine require the parties to disclose all of their strategies, motives, intentions or maneuverings? Clearly not. For instance, would the developer of a real estate project seeking to purchase a large block of land be required to disclose its true intention to the seller of each individual lot? Would an investor who seeks to buy a controlling block of the bank debt of a company in distress for the purpose of acquiring the equity in bankruptcy have to disclose its intentions to potential sellers of the debt?

party that expended considerable capital and effort to diligence a transaction to disclose the fruits of that diligence, unfortunately the courts have not provided a clear roadmap of what amounts to acceptable and unacceptable nondisclosures. Below, we attempt to harness a few of the general concepts that have emerged under New York law. Courts applying New York law generally hold that knowledge is “superior” to that of a sophisticated counterparty where (1) the subject of the transaction (whether tangible or intangible) contains a material defect or an encumbrance or other restriction on use or value that is intrinsic to the subject matter of the transaction and is known only to the seller, and the buyer could not have been expected to discover the defect; or (2) the defendant withholds facts about its own fraudulent transactions or conduct that affect the value of the subject matter. The classic example of a case finding a duty to disclose based on superior knowledge about the inherent character or value of the subject matter is Donovan v. Aeolian Co., where a piano retailer placed a five year old, partially rebuilt piano on its showroom floor alongside new pianos, but did not disclose that the piano was used when it sold the piano to plaintiff, who believed she was buying a new piano. Donovan v. Aeolian Co., 270 N.Y. 267, 270-71 (1936). More recent examples include a finding that a corporation was “duty bound” to disclose restrictions on alienability of stock underlying a transaction for the sale of warrants, where the corporation knew the purchaser believed the underlying securities were freely transferable. Brass, 987 F.2d at 152. Similarly, the court in OnBank & Trust Co. v. FDIC held that the disparity between principal amount of mortgage pass-through certificates and the mortgage loan balance was peculiarly within RTC's knowledge because, as servicer of the loans, RTC knew that certain loans had been paid off but that the principal amount had not been reduced accordingly. OnBank & Trust Co., 967 F. Supp. 81, 86 (W.D.N.Y. 1997) (applying New York law). Another court held that a defendant had a duty to disclose that it could not legally grant plaintiff

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A prime example of this line of cases is Chase Manhattan Bank v. New Hampshire Insurance Co., 193 Misc. 2d 580, 749 N.Y.S.2d 632, 647 (N.Y. Sup. 2002), in which the court rejected a claim that the superior knowledge exception barred enforcement of the parties’ specific disclaimer. The insurer in Chase Manhattan Bank agreed to a disclaimer wherein the insurer specifically acknowledged that there might be misstatements or omissions, waived any obligation on Chase's part to speak, acknowledged that only very limited specified information had been provided by Chase, and agreed that the insurance policy could not be avoided even if Chase brokers were guilty of misstatements or omissions. Id. at 647. The court held that the insurers, having agreed to such a detailed disclaimer, “will not be heard to complain that Chase did not do what the insurers contractually agreed Chase did not have to do, and that Chase is responsible for what the insurers contractually agreed Chase was not responsible.” Id. The court in Rodas v. Manitaras likewise held that “where, as here, a party has been put on notice of the

existence of material facts which have not been

documented and he nevertheless proceeds with a

transaction without securing the available

documentation or inserting appropriate language in the agreement for his protection, he may truly be said to have willingly assumed the business risk that the facts may not be as represented.” 159 A.D.2d 341, 552

N.Y.S.2d 618, 620 (1st Dep’t 1990). There, plaintiff sought to rescind its purchase of a restaurant based on

allegations that defendant falsely induced plaintiff to

enter the contract by falsely representing that the weekly income of the business was $20,000. Id. at 620. Plaintiff had requested permission to review defendant’s business records and was denied access, but nonetheless agreed to proceed with the purchase of defendant’s business. The court rejected plaintiff’s

argument that information about the weekly income of the business was peculiarly within defendant’s

knowledge, holding instead that “[i]t is apparent that they were aware that the income of the business was a

material fact [for] which they had received no

documentation. In entering into the contract with the

Disclosure should not be required in such situations. Where the non-disclosing party is not otherwise violating the law or manipulating a market, the Nomura and Minpeco decisions should not apply in most real world situations. More importantly, cases such as Donovan, Janel World Trade and Laugh Factory illustrate that the determining factor in superior knowledge cases is whether the non-disclosing party knows that the undisclosed information is so material to the counterparty that the counterparty has a mistaken belief about the very essence of the transaction. In the hypothetical examples above, the fact that the developer was buying up all surrounding lots in order to build and the investor was buying bank debt to obtain a controlling or blocking position does not adversely affect the inherent value of the subject matter of the transaction. While the seller has lost possible leverage over the buyer, it has not lost the benefit of its expected bargain.

DISCLOSURE OBLIGATIONS MAY BE MODIFIED BY CONTRACT: RE-ENTER THE BIG BOY It has been the general rule in New York since at least 1959 that a disclaimer, no matter how specific, will not operate where one party has superior knowledge not readily available to the other. Danann Realty Corp. v. Harris, 5 N.Y.2d 317, 184 N.Y.S.2d 603-04 (1959). However, both New York state courts and federal courts applying New York law have made an exception to that general rule and have held that, among sophisticated parties, disclosure obligations may be modified by contract. The guiding principle here is that courts are loathe to rewrite detailed, bargained for contractual provisions that allocate risks between sophisticated parties. DynCorp v. GTE Corp., 215 F. Supp. 2d 308, 322 (S.D.N.Y. 2002) (citing Grumman Allied Indus., 748 F.2d at 735). These cases hold that a where the sophisticated plaintiff has contractually agreed to absolve a counterparty of the duty to disclose material information, the plaintiff may not then claim fraud based on the counterparty’s failure to disclose material information.

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banks had a duty to disclose information regarding or gained from their business dealings with Enron, and that any reliance by Plaintiffs on misrepresentations by the Defendants was reasonable.” Id. See also Century Pacific, 528 F. Supp. 2d at 233, infra; Aaron Ferer & Sons Ltd. v. Chase Manhattan Bank, N.A., 731 F.2d 112, 123 (2d Cir. 1984) (stating that a party’s knowledge is not superior knowledge where relevant information “was disclosed, at least in part”).

CONCLUSION Under New York law, a party with “superior knowledge” of material facts that are not readily available to its counterparty has a duty to disclose those facts. Indeed, except where sophisticated parties are involved, a disclaimer provision (or Big Boy) will not protect against the failure to disclose. The “superior knowledge” rule, however, should not apply where a sophisticated counterparty is on notice that there are undisclosed, possibly material, facts. Where sophisticated parties, negotiating at arms length, agree to a Big Boy provision that affirms that each is entering the transaction notwithstanding that one party may have access to material nonpublic information that it will not disclose, a New York court is likely to reject the claim, especially if the Big Boy provision is specific about the type of information being withheld.

assistance of counsel and without conducting an

examination of the books and records, plaintiffs clearly

assumed the risk that the documentation might not support the $20,000 weekly income that was represented to them.” Id. See also VO2Max, LLC v. Greenhouse Int’l, LLC, No. 0102624/2007, 2008 WL 4461402 (Trial Order) (N.Y. Sup. Ct. Sept. 24, 2008) (rejecting peculiar knowledge argument where party who was aware it was not receiving material information did not insist on receipt of the information prior to closing, but instead entered “as is” agreement that contained no representations or warranties about alleged material information). Federal courts applying New York law have ruled similarly. For instance, in DynCorp v. GTE Corp., DynCorp alleged that GTE gave “selective” disclosures that painted an inaccurate picture of the current and future profitability of the underlying transaction, but withheld information that the deal was behind schedule and losing money. DynCorp, 215 F. Supp. 2d 308, 320-21 (S.D.N.Y. 2002). The court rejected DynCorp’s fraud claim because DynCorp, having agreed to a disclaimer that specifically limited the amount of information it would receive from GTE, knew that “it had not received any warranty that the information was representative of the business” DynCorp intended to purchase. DynCorp, 215 F. Supp. 2d at 321. Further, DynCorp, as a sophisticated party to a major transaction, “could not avoid its disclaimer by complaining that it had received less than full information.” Id. at 321-22. In Banque Arabe, the Second Circuit found that the parties’ participation agreement “operate[d] as a waiver absolving [defendant] of responsibility to make affirmative disclosures concerning the financial risks of the . . . Loan.” Banque Arabe, 57 F.3d at 155; see also Banco Espanol de Credito v. Security Pacific Nat’l Bank, 973 F.2d 51, 56 (2d Cir. 1992) (same). And finally, the court in Unicredito Italiano SPA v. JPMorgan Chase Bank, J.P., 288 F. Supp. 2d 485, 498 (S.D.N.Y. 2003), dismissed plaintiffs’ fraud claims because “the contracts pursuant to which they made their Enron loan investments preclude them from establishing essential elements of those claims, namely, that the Defendant

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DISCLAIMER This memorandum may be considered advertising under applicable state laws. This memorandum is provided by Richards Kibbe & Orbe LLP for educational and information purposes only and is not intended and should not be construed as legal advice.

© 2009 Richards Kibbe & Orbe LLP, One World

Financial Center, New York, NY 10281, 212.530.1800,

http://www.rkollp.com. All rights reserved. Quotation with

attribution is permitted. If you would like to add a colleague to

our mailing list or if you need to change or remove your name

from our mailing list, please email publications@rkollp.com.

Any advice concerning United States Federal tax issues

provided in this memorandum is not intended or written to be

used, and cannot be used by any taxpayer, for the purpose of

(i) avoiding penalties that may be imposed on the taxpayer or

(ii) promoting, marketing or recommending to another party

any transaction or matter addressed herein.

QUESTIONS If you have questions regarding the matters discussed in this memorandum, please call your usual contact at Richards Kibbe & Orbe LLP or one of the persons listed below. Brian S. Fraser New York, N.Y. 212.530.1820 bfraser@rkollp.com Click here to view additional publications on related topics.

New York

Washington

London

WWW.RKOLLP.COM

“New York court

enforces Big Boy

provisions to

dismiss fraud

claims in credit

default swap

transaction.”

Memorandum

April 22, 2010

New York Court Enforces “Big Boy” Disclaimers in Credit Default Swap Transaction but Permits Novel Credit Rating Claim to Proceed By Brian S. Fraser, Charles D. Thompson II and Tamala E. Newbold

A New York trial court recently enforced contractual disclaimers of reliance (“Big Boy” provisions) in a credit default swap (“CDS”) context. In MBIA Insurance Corp. v. Merrill Lynch, Pierce, Fenner & Smith Inc., No. 09- 601324 (N.Y. Sup. Ct. Apr. 7, 2010), the court granted Merrill Lynch’s motion to dismiss plaintiffs’ fraudulent inducement, fraudulent omission and negligent misrepresentations claims.1 The court, however, let stand a breach of contract claim in which it was alleged that promised AAA-rated securities were not truly AAA-rated (even though they were so rated) – because they did not deserve the AAA rating.

BIG BOY In earlier articles, we concluded that although a duty to disclose may arise in certain situations among sophisticated parties to an arms-length transaction, particularly where one party possesses superior knowledge that is not readily available to its counterparty, New York state and federal courts permit parties to contractually modify disclosure obligations. Superior Knowledge and the Duty to Disclose, October 8, 2009. We also examined the enforceability of “Big Boy” provisions in cases in which sophisticated parties specifically disclaim reliance on any representations by their counterparties and agree to conduct independent investigations prior to entering a transaction. Non-Reliance Provisions and Claims Of Insider Trading, November 2006. The decision in MBIA Insurance Corp. v. Merrill Lynch pits MBIA’s argument that Merrill Lynch had a duty to disclose arising from its superior knowledge against Merrill Lynch’s defense based on the parties’ “Big Boy” provisions. The decision reaffirms our view that courts in New York will enforce specific disclaimers of reliance in arms-length transactions between sophisticated parties, particularly where the parties (1) disclaim both reliance and duty to disclose and (2) represent that each party will conduct its own independent investigation of the underlying transaction. The court in this case, however, did not address the precedent in which disclaimers were not enforced because the court found willful misconduct or intentional wrongdoing.2

1 See Order on Motion to Dismiss, MBIA Insurance Corp. v. Merrill Lynch, Pierce, Fenner and Smith, Inc., No. 09-601324 (N.Y. Sup. Ct.

Apr. 7, 2010), available at http://www.mbia.com/investor/legal_proceedings.html.

2 See generally Sommer v. Federal Signal Corp., 79 N.Y.2d 540, 554 (1992); Kalish-Jarcho, Inc. v. City of New York, 58 N.Y.2d 377, 385

(1983).

RK&O 2

exposed to an immediate risk of loss. MBIA claimed that as a result of Merrill Lynch’s alleged fraud, MBIA faced expected losses nearing a half-billion dollars. The gist of plaintiffs’ duty to disclose argument was that Merrill Lynch, “as the arranger, broker-dealer, and warehouse provider for each of the CDOs at issue” had loan-level data that provided it with “real-time information concerning the declining credit quality of the collateral,” but that “Merrill Lynch did not disclose this superior knowledge to MBIA but instead marketed the CDS Contracts based on ratings, and related indicia of credit quality, that it knew to be false and misleading. Merrill Lynch did not disclose to MBIA that it knew the ratings were false or that it used alternative indicia of credit quality for its own books. In effect, Merrill Lynch sold the deals to MBIA based on one set of values—the ratings of the wrapped tranches and collateral—while marking its own books based on materially different valuations derived from loan-level performance data.”4

Moreover, plaintiffs argued that “Merrill Lynch knew that it had procured the ratings on the basis of inadequate information—including its nondisclosure of the problems in loan-level performance—and that the ratings did not fairly reflect the actual credit quality of either the CDO tranches or the collateral.”5 As a result of Merrill Lynch’s alleged foregoing superior knowledge, plaintiffs claimed the offering materials fraudulently misrepresented (1) the “A- or above” credit quality of the collateral underlying the CDOs; (2) the “senior” or “super-senior” subordination protection of the insured CDO tranches; (3) the “AAA” ratings of the CDO tranches; and (4) the historical default rates of comparable CDOs. The court granted Merrill Lynch’s motion to dismiss the fraudulent inducement, fraudulent omission and negligent misrepresentation claims based on the specific disclaimers in the parties’ agreements and the

The facts in MBIA v. Merrill Lynch are as follows: MBIA’s subsidiary, LaCrosse Financial Products LLC (“Protection Seller”), entered into eleven credit default swaps with various counterparties (“Protection Buyers”) pursuant to which it sold protection on eleven purportedly “senior” and “super senior” tranches of four collateralized debt obligations (“CDOs”) with a total notional value of approximately $5.7 billion. With respect to each CDS contract, MBIA (“Financial Guarantor”) executed a Financial Guaranty Insurance Policy pursuant to which it guaranteed Protection Seller’s payment obligations to Protection Buyer under the related CDS contract. This is a standard structure for financial guarantees of structured products. The documents that created each CDS included an ISDA Master Agreement, Schedule and a swap confirmation referencing the indenture pursuant to which the wrapped notes of the relevant CDO were issued. The Protection Seller had access to the offering circulars, pitch books and other material Merrill Lynch issued as arranger and marketer of the CDOs. Merrill Lynch also procured letters from rating agencies assigning credit ratings to each debt tranche of the CDOs. MBIA and LaCrosse Financial sued Merrill Lynch seeking money damages and rescission of the credit default swaps, claiming that they relied, to their detriment, on various materials in entering the CDSs and guarantees that turned out to be false. In their First Amended Complaint, MBIA and LaCrosse Financial alleged that Merrill Lynch engaged in a fraudulent scheme to “offload billions of dollars of deteriorating U.S. subprime mortgages and other collateral that Merrill held on its books by packaging them into CDOs or hedging their exposure through swaps with insurers” and then marketing those “toxic assets” to plaintiffs.3 The truth, according to plaintiffs, was that by the closing date of the CDOs, the underlying collateral had degraded so significantly that MBIA, the Protection Seller, was

3 Unless otherwise noted, the quotations herein relate to the Court’s Order entered April 7, 2010.

4 See First Amended Complaint at ¶ 15, MBIA Insurance Corp. v. Merrill Lynch, Pierce, Fenner and Smith, Inc., No. 09-601324 (N.Y. Sup. Ct. May 15, 2009), available at http://www.mbia.com/investor/

legal_proceedings.html.

5 First Amended Complaint at ¶ 14.

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reasonable because “it was not customary, and would have been very unusual, for any buyer or any credit protection provider at the super-senior level to value complex CDOs by assessing the thousands of underlying securities and the tens or hundreds of thousands of underlying loans, in order to verify whether the arranger’s representations of credit quality were truthful.”6 Plaintiffs further alleged that the “buyside industry standard approach to evaluating senior debt tranches of complex and illiquid CDOs . . . was (1) due diligence of the expertise and integrity of the arranger and collateral manager...”7

The court rejected plaintiffs’ reliance arguments based on long-standing precedent,8 holding that to allow MBIA and LaCrosse Financial “to now disavow their express and specific promise not to raise the affirmative defense of fraud would be to allow them to condone [their] own fraud in deliberately misrepresenting their true intention when putting their signatures to their “absolute and unconditional” guarantee.” In addition, the court cited precedent9 which held that a specific disclaimer in a guarantee bars the guarantor’s claim for fraud in the inducement where the guarantor specifically disclaims reliance on the information it claims caused it to be misled. The court also stressed that clauses that declare an agreement unconditional and absolute and waive affirmative defenses (such as those in the Guaranty) “reinforc[e] the specificity of the disclaimer.” The court found the disclaimers in the Guaranty sufficiently specific to withstand challenge, especially in light of the fact that the disclaimers “were the product of intensive negotiations among the parties, whose sophistication and business acumen and experience cannot be overstated.” Ultimately, the court dismissed plaintiffs’ claims for fraud in the inducement, fraud by omission and negligent misrepresentation, “all of which require a claim of reasonable reliance on representations plaintiffs expressly stated they were not relying on.”

offering materials. First, in each Financial Guaranty Insurance Policy (collectively, the “Guaranty”), MBIA waived all defenses to payment and also represented that it unconditionally and irrevocably guaranteed to Protection Buyer the full payment on behalf of LaCrosse Financial of any insured amount “without the assertion of any defenses to payment, including fraud in the inducement or fact.” Paragraph 12 of the Guaranty also contained a “sweeping disclaimer of reliance on, among other things, any assertion that MBIA (A) was not acting for its own account, (B) was not capable of assessing or understanding (on its own behalf or through independent professional advice) and accepting the terms, conditions and risks of issuing the Policy, (C) was not capable of assuming the risks of the Policy.” LaCrosse Financial likewise specifically disclaimed reliance on Merrill Lynch and represented that it was capable of assessing and evaluating the transaction. For instance, the Schedule to the ISDA Master under which the swap confirmations between LaCrosse Financial and Merrill Lynch were executed specifically provided that LaCrosse Financial was “not relying on any advice, statements or recommendations (whether written or oral) of the other party regarding the Transaction, other than the written representations expressly made by that other party in this Agreement and in the Confirmation,” and that LaCrosse Financial had “the capacity to evaluate (internally or through independent professional advice) the Transaction (including decisions regarding the appropriateness or suitability of the Transaction) and has made its own decision to enter into the Transaction[.]” LaCrosse Financial further represented that it “acknowledges and agrees that [Merrill Lynch] is not acting as a fiduciary or advisor to it in connection with the Transaction.” Notwithstanding the various disclaimers in their agreements and offering materials, plaintiffs argued that their reliance on Merrill Lynch was justified and

6 First Amended Complaint at ¶ 10.

7 First Amended Complaint at ¶¶ 10, 62.

8 Danann Realty Corp. v. Harris, 5 N.Y.2d 317, 323 (1959).

9 Citibank, N.A. v. Paplinger, 66 N.Y.2d 90, 94-5 (1985).

RK&O 4

QUESTIONS If you have questions regarding the matters discussed in this memorandum, please call your usual contact at Richards Kibbe & Orbe LLP or the person listed below. Brian S. Fraser New York, N.Y. 212.530.1820 bfraser@rkollp.com Click here to view additional publications on related topics.

DISCLAIMER This memorandum may be considered advertising under applicable state laws. This memorandum is provided by Richards Kibbe & Orbe LLP for educational and information purposes only and is not intended and should not be construed as legal advice. © 2010 Richards Kibbe & Orbe LLP, One World Financial Center, New York, NY 10281, 212.530.1800, http://www.rkollp.com. All rights reserved. Quotation with attribution is permitted. If you would like to add a colleague to our mailing list or if you need to change or remove your name from our mailing list, please email publications@rkollp.com. Any advice concerning United States Federal tax issues provided in this memorandum is not intended or written to be used, and cannot be used by any taxpayer, for the purpose of (i) avoiding penalties that may be imposed on the taxpayer or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein.

“UNDERSERVED” AAA RATINGS One important aspect of MBIA’s complaint remains viable. MBIA claimed that Merrill, through its subsidiary Merrill Lynch International (“MLI”), breached promises in the CDS contracts to deliver securities that were AAA rated with senior or super senior subordination characteristics. Specifically, plaintiffs alleged that although the securities were rated AAA, the credit-quality of the collateral underlying the securities “did not warrant their AAA-ratings and did not have the levels of subordination represented by Defendant MLI.”10 The court held that plaintiffs stated a claim for breach of contract on the “bogus” credit ratings because“ plaintiffs had a right to expect that the AAA ratings were backed by intelligence which could verify that the notes were actually of the “credit quality” an AAA rating implied.” As far as we know, this is the first time a court has held that a defendant faces potential liability for stating that securities were AAA rated when they were in fact AAA rated but it later turns out that the third-party rating agency should not have rated them AAA. Finally, the court held that plaintiffs failed to plead breach of contract on the subordination issue because none of the documents that formed the parties’ agreements contained an express right to any fixed level of subordination. The court dismissed the remaining causes of action as duplicative, or for failure to state a recognizable cause of action. Plaintiffs are appealing the decision.

10 First Amended Complaint at ¶ 96.

New York

Washington

London

WWW.RKOLLP.COM

“A recent decision

reaffirms the

reluctance of New

York courts to

enforce Big Boy

agreements

between

sophisticated

parties where it is

alleged that the

non-disclosing

party itself

engaged in

fraudulent

conduct or actively

concealed

information.“

Memorandum

September 24, 2010

Big Boy Update: Recent New York Case Demonstrates Limits of Big Boy Provisions Where Affirmative Acts of Concealment Are Alleged By Brian S. Fraser and Tamala E. Newbold

C ourts in New York routinely dismiss complaints alleging fraud in

connection with transactions between sophisticated parties where the

parties have agreed, pre dispute, to a specific disclaimer of reliance on

any misrepresentations or omissions by either party in the course of

negotiating or entering into the transaction. Such disclaimers are commonly known

as “Big Boy” provisions. See generally Brian S. Fraser and Tamala E. Newbold,

Who’s a Big Boy? Non-Reliance Provisions And Claims Of Insider Trading In

Securities And Non-Securities Markets. New York courts, however, will not enforce

such disclaimers of reliance where the complaining party can demonstrate that its

claims are based on facts peculiarly within the knowledge of the non-disclosing party,

so that reasonable diligence could not have uncovered the undisclosed information.

Who’s a Big Boy? at 12. Courts applying New York law generally hold that

knowledge is “peculiar” where (among other circumstances) the defendant withholds

facts about its own fraudulent transactions or conduct that affect the value of the

subject matter. Brian S. Fraser and Tamala E. Newbold, Who’s a Big Boy II: Superior

Knowledge and the Duty to Disclose at 6.

The recent decision in Harbinger Capital Partners v. Wachovia Capital Markets LLC,

27 Misc.3d 1236(A), 2010 WL 2431613 (N.Y. Sup. May 10, 2010) reaffirms the

reluctance of New York courts to enforce disclaimers of reliance, even between

sophisticated parties and even where the disclaimer is specific, where it is alleged

that the non disclosing party itself engaged in fraudulent conduct or actively

concealed the information alleged to have been withheld. The Plaintiffs in Harbinger

sued Wachovia Capital Markets LLC (“WCM” or “Wachovia”) in connection with a

$285 million syndicated loan for beverage manufacturer Le Nature’s, Inc. (“Le

Nature’s”) in September 2006. Wachovia arranged the loan just two months before

Le Nature’s’ creditors placed the company in involuntary bankruptcy. Le Nature’s’

2005 financial statements reported net sales of more than $275 million. However, a

bankruptcy trustee subsequently determined that actual revenues were almost 90%

lower than what had been reported.

The Plaintiffs were sophisticated lenders who purchased an interest in the loans

either directly from Wachovia or in the secondary market. Plaintiffs alleged that

Wachovia knew that Le Nature’s was engaged in fraud; specifically that Wachovia

RK&O 2

certain Enron-related syndicated credit facilities for

which Citigroup and Chase served as co-administrative

agents. The loan agreement precluded plaintiffs from

claiming that they relied on any alleged representations

by Chase or Citigroup, and absolved defendants of any

responsibility to make disclosures regarding the financial

risks of the transaction. The court dismissed plaintiffs’

fraud and negligent misrepresentation claims on

grounds that “the contracts pursuant to which they

made their Enron loan investments preclude them from

establishing essential elements of those claims, namely,

that the Defendant banks had a duty to disclose

information regarding or gained from their business

dealings with Enron, and that any reliance by Plaintiffs

on misrepresentations by the Defendants was

reasonable.” Id. The UniCredito court likewise refused

to apply the peculiar knowledge exception, holding that

“[e]xtension of the peculiar knowledge exception to

defeat contractual allocation of risks away from

Defendant banks in this case because the principal

(Enron) was so adept at concealment of its fraud would

require at a minimum some factual basis for finding

reasonable Plaintiffs’ reliance on parties on whom it

agreed it would not rely in any respect in making the

operative decisions.” Id. at 501.

The Harbinger court, however, rejected the comparison

with the UniCredito case and, on May 10, 2010, denied

Wachovia’s motion to dismiss plaintiffs’ fraud claim. The

court held that, although the disclaimers in the credit

agreement were sufficiently specific, dismissal was

inappropriate because plaintiffs’ complaint adequately

invoked the “peculiar knowledge” and “superior

knowledge” doctrines. The court declined to apply

UniCredito and other New York cases like it because

Plaintiffs alleged that Wachovia, through its affiliate

Wachovia Bank, “actively prevented any possibility that

lenders could have discovered Le Nature’s’ true financial

condition” by covertly fronting Le Nature’s’ interest

payments to syndicate lenders in order to conceal the

fact that Le Nature’s was not able to make timely interest

payments. Harbinger Capital Partners LLC, 2010 WL

2431613, at *7. Accepting the allegations as true, as it

knew (i) that Le Nature’s was unable to make timely

interest payments; (ii) that Le Nature’s’ reported sales

data was inaccurate; (iii) that a special committee’s

investigation into the abrupt resignation of Le Nature’s

CFO and several other senior officers identified serious

issues with the company’s financial reporting; and (iv)

that Le Nature’s’ products were being pulled from

stores.

Most importantly, however, Plaintiffs alleged that, in an

effort to conceal Le Nature’s’ inability to pay interest on

its existing credit facilities, Wachovia, through its affiliate

Wachovia Bank, “fronted” interest payments to

syndicate lenders by paying out interest without having

received payment from Le Nature’s. Plaintiffs claimed

that this “fronting” constituted a misrepresentation of Le

Nature’s financial condition, that it was peculiarly within

Wachovia’s knowledge, and that they would not have

made or acquired the loans had Wachovia disclosed the

information.

Wachovia moved to dismiss on grounds that plaintiffs’

purported reliance on the alleged misrepresentations or

omissions was unreasonable as a matter of law, based

on the express disclaimers in the parties’ credit

agreement. Wachovia also argued that it had no duty to

disclose information about Le Nature’s financial

condition to lenders because, in addition to the

disclaimers of reliance, the credit agreement also

disclaimed any duty or responsibility on Wachovia’s part

“to provide any Lender with any credit or other

information concerning the business, operations,

condition (financial or otherwise), prospects or

creditworthiness” of Le Nature’s which may come into

the possession of Wachovia or its affiliates.

In support of its motion to dismiss the complaint,

Wachovia relied heavily on UniCredito Italiano SPA v.

JPMorgan Chase Bank, 288 F. Supp. 2d 485, 498

(S.D.N.Y. 2003), in which plaintiffs, sophisticated Italian

and Polish financial institutions, alleged that JP Morgan

Chase ("Chase") and Citigroup had defrauded them in

connection with the formation of and payment under

RK&O 3

QUESTIONS If you have questions regarding the matters discussed

in this memorandum, please call your usual contact at

Richards Kibbe & Orbe LLP or one of the persons listed

below.

Brian S. Fraser

New York, N.Y.

212.530.1820

bfraser@rkollp.com

Tamala E. Newbold

New York, N.Y.

212.530.1851

tnewbold@rkollp.com

DISCLAIMER This memorandum may be considered advertising under

applicable state laws.

This memorandum is provided by Richards Kibbe & Orbe

LLP for educational and information purposes only and is not

intended and should not be construed as legal advice.

© 2010 Richards Kibbe & Orbe LLP, One World Financial

Center, New York, NY 10281, 212.530.1800,

http://www.rkollp.com. All rights reserved. Quotation with

attribution is permitted. If you would like to add a colleague to

our mailing list or if you need to change or remove your name

from our mailing list, please email publications@rkollp.com.

Any advice concerning United States Federal tax issues

provided in this memorandum is not intended or written to be

used, and cannot be used by any taxpayer, for the purpose of

(i) avoiding penalties that my be imposed on the taxpayer or (ii)

promoting, marketing or recommending to another party any

transaction or matter addressed herein.

must on a motion to dismiss, the court found that even

though plaintiffs were sophisticated investors to whom

the Credit Agreement granted broad access to

Le Nature’s’ financial information and employees, it was

not apparent at the motion to dismiss stage whether

“the true nature of the situation” would have been

revealed even upon inspection, and there was no way of

knowing the degree of effort necessary to discern the

truth. Id.

New York state and federal courts have held many times

that the peculiar knowledge exception does not apply in

situations where a sophisticated party agrees to perform

its own due diligence and knows that it is not receiving

full information. Courts in New York also hold, however,

that information about a defendants’ own fraudulent

transactions or conduct that affects the value of the

subject matter of the transaction must be disclosed

because “[b]y its nature, this information is of the type

that was in defendants’ possession, not at plaintiff’s

fingertips, and which, one can envision, defendants

would have desired to keep close to the chest.” See

Nomura Sec. Int’l, Inc. v. E*Trade Sec., Inc., 280 F. Supp.

2d 184, 206 (S.D.N.Y. 2003). The Harbinger plaintiffs’

allegations, at least at the pleading stage, arguably meet

this standard.

Wachovia has filed a Notice of Appeal and seeks to have

the trial court’s decision reversed. Whatever the

outcome after an appeal, the Harbinger case should not

affect current practices regarding Big Boy letters

between sophisticated parties. Specific, detailed

disclaimers that closely track the terms of a transaction

remain useful in most non-securities transactions.

Harbinger simply reinforces the long held view in New

York that contractual disclaimers of reliance cannot serve

to shield intentionally fraudulent conduct.

308 215 FEDERAL SUPPLEMENT, 2d SERIES

trademark infringement in violation of Sec-tion 32 of the Lanham Act, 15 U.S.C.§ 1114, false designation of origin in viola-tion of Section 43(a) of the Act, 15 U.S.C.§ 1125(a), common law trademark in-fringement and unfair competition, and theviolation of New York General BusinessLaw Sections 360–l and 349, for which theCourt awards GTFM $5,304,387 represent-ing Solid’s profits for its infringing salesand $1,419,459 representing GTFM’s lostprofits, for a total of $6,723,846. A verdictis given for the defendant on the plaintiff’sremaining claims.

GTFM’s motion to preclude certain evi-dence is denied. A verdict is rendered infavor of the plaintiffs on Solid’s counter-claim seeking the cancellation of GTFM’sregistration of the ‘‘05’’ trademark.

GTFM shall submit within two weeks ofthe date of this Opinion an application forthe amount of its fees and costs, a requestfor prejudgment interest, and an appropri-ate Order of injunction. Solid shall submitany opposition to that submission withintwo weeks of plaintiffs’ submission.

SO ORDERED.

,

DYNCORP, Plaintiff,

v.

GTE CORPORATION, Defendant.

No. 01 Civ. 7445(AKH).

United States District Court,S.D. New York.

July 17, 2002.

Buyer of corporation providing tele-communications and information servicessued guarantor of seller, alleging breach of

contract and fraud. Guarantor moved todismiss. The District Court, Hellerstein, J.,held that: (1) buyer would be given addi-tional opportunity to allege it had madeclaims prior to expiration of contractuallimitations periods; (2) contractual liabilitylimitations provisions were valid, despitebuyer’s claim that breaches were intention-al rather than involuntary; (3) guarantor’sliability was limited to breaches of repre-sentations, warranties and covenants ofagreement; (4) contractual disclaimers ofreliance on any warranties or representa-tions not contained in contract precludedfraud in inducement claims; (5) no fraudclaims could be based on breaches of ex-press representations and warranties, dueto exclusivity of contract remedies; (6)fraud claims could be maintained for peri-od between signing of contract and closing;and (7) there was no negligent misrepre-sentation.

Complaint dismissed with permissionto replead.

1. Limitation of Actions O14Under New York law, the parties to a

contract may agree to shorten the periodof limitations within which an action mustbe commenced.

2. Damages O76Under New York law, sophisticated

parties with equal bargaining power canagree to limit the liability that the othermay recover from a breach of contract.

3. Damages O85Limitations of liability for breach of

contract, governing purchase of corpora-tion providing telecommunications and in-formation services, were applicable underNew York law despite claim that breachesby seller and its guarantor were willfulrather than involuntary.

4. Guaranty O36(5)Limitation of liability of seller’s guar-

antor, to breaches of representations and

309DYNCORP v. GTE CORP.Cite as 215 F.Supp.2d 308 (S.D.N.Y. 2002)

warranties and breaches of covenants con-tained in agreement for purchase of corpo-ration providing telecommunications andinformation services, precluded breach ofcontract claims under New York law basedon other allegedly wrongful behavior onpart of seller or guarantor.

5. Fraud O23Buyer could not show reliance neces-

sary for fraudulent inducement claim onalleged precontractual misrepresentationswhen purchase agreement stated sellermade no express or implied representationor warranty with respect to business beingsold or information provided to seller, andbuyer acknowledged that seller would notbe liable for any information made avail-able to seller.

6. Fraud O23, 36Buyer could not recover for fraud

based on alleged misrepresentations con-cerning facts of which seller had peculiarknowledge, when buyer knew informationprovided to it by seller was selective, buy-er did not receive any warranty that infor-mation seller provided was representativeof business, buyer disclaimed reliance oninformation it received from seller, andbuyer could have negotiated more com-plete representations.

7. Fraud O14Under New York law, a claim of fraud

for breaching representations and warran-ties provided by a contract is not legallysufficient unless the complaining party can(1) demonstrate a legal duty separate fromthe duty to perform under the contract, (2)demonstrate a fraudulent misrepresenta-tion or breach collateral or extraneous tothe contract, or (3) seek special damagesthat are caused by the misrepresentationsand breaches and are unrecoverable ascontract damages.

8. Fraud O14, 32Under New York law, buyer of corpo-

ration providing telecommunications and

information services could not maintainfraud claims based on breaches of repre-sentations and warranties contained inpurchase agreement; no legal duties wereasserted other than those rising undercontract, there were no allegations offraudulent misrepresentation or breachcollateral or extraneous to contract, andcontract barred any special damages whichcould sustain fraud claim.

9. Fraud O32Buyer of corporation providing tele-

communications and information servicescould maintain fraud claims, under NewYork law, arising from alleged misrepre-sentations contained in financial reportsand management discussions and analysesof acquired corporation’s business, re-quired by contractual covenant to be fur-nished to buyer during period betweensigning of purchase agreement and closingdate; purchase contract did not prohibitreliance on information and reports provid-ed during period in question.

10. Fraud O36Buyer of corporation providing tele-

communications and information servicescould not maintain negligent misrepresen-tation suit, under New York law, againstseller and guarantor; contractual provisionlimiting liability for misrepresentations tothose expressly contained in agreementbarred liability for misrepresentationsmade prior to signing of purchase contract,and absence of required special relation-ship between parties barred any claimarising from alleged misrepresentationsmade between signing of contract and clos-ing.

William J. McSherry, Jr., Daniel C. Sav-itt, Arent, Fox, Kintner, Plotkin & Kahn,PLLC, New York City, for Plaintiff.

310 215 FEDERAL SUPPLEMENT, 2d SERIES

OPINION AND ORDER PARTIALLYGRANTING MOTION TO DISMISSAND GRANTING LEAVE TOAMEND

HELLERSTEIN, District Judge.

Plaintiff DynCorp filed this suit againstdefendant GTE Corporation, claimingfraud, breach of contract, and otherwrongs in connection with defendant’s saleof a business to plaintiff, and seeking re-covery in excess of $100 million in compen-satory damages, and punitive damages.GTE Corporation moves to dismiss thecomplaint and for related relief pursuantto Federal Rule of Civil Procedure12(b)(6), on the ground that the parties arebound by the terms and conditions of theirPurchase Agreement dated as of October29, 1999. I hold that the agreement madeby the parties, which defined and allocatedtheir rights, obligations, risks and limits ofrecovery in the event of breach of therepresentations, warranties and covenantscontained in the Agreement, provides thegrounds upon which plaintiff may sue andrecover, and I dismiss the complaint inso-far as it exceeds those grounds. I grantplaintiff leave to amend its complaint toconform to the rulings expressed in thisOpinion and Order.

I. The Purchase Agreement of October29, 1999

In June 1999, GTE sold most of theassets of its wholly owned subsidiary, GTEGovernment Systems Corporation, to Gen-eral Dynamics Corporation, and spun-offand separately organized the remainingassets. GTE contributed the (spun-off)assets, those not sold to General Dynam-ics, to a limited liability company, GTEInformation Systems LLC (‘‘GTE Infor-mation’’). In September 1999, GTE trans-ferred its ownership interests in GTE In-formation to Contel Federal Systems, Inc.(‘‘Contel’’), another wholly-owned subsid-iary of GTE. The business of GTE Infor-

mation was to provide telecommunicationsand information services to governmentand commercial customers, domesticallyand internationally.

Contel then sold GTE Information toDynCorp. As of October 29, 1999, Dyn-Corp and Contel entered into a PurchaseAgreement, whereby DynCorp agreed tobuy, and Contel agreed to sell, all Contel’sownership interests in GTE Information.GTE Corporation (‘‘GTE’’), the defendant,agreed to ‘‘join in’’ the transaction to theextent set forth in a schedule to the agree-ment: essentially, GTE agreed not to com-pete with DynCorp in relation to the busi-ness being sold, and to guarantee Contel’sperformance of certain indemnification ob-ligations that were set out in Article IX ofthe Purchase Agreement. The transactionwas to close on November 29, 1999, subjectto various conditions set out in Article VIIof the Purchase Agreement: notably, theabsence of a governmental restraint, theobtaining of necessary regulatory approv-als and, important to this case, complianceby Contel as Seller with Section 7.2 of thePurchase Agreement. Section 7.2 provid-ed:

(a) TTT the representations and war-ranties of Seller contained [in the Pur-chase Agreement] TTT shall be true andcorrect in all material respects TTT onthe date of [the Purchase Agreement]and on the Closing DateTTTT

(b) TTT Seller shall have in all materi-al respects performed all obligations andcomplied with all covenants set forth in[the Purchase Agreement] which are re-quired to be performed or complied withby it at or prior to the ClosingTTTT

(e) TTT there shall not have been anychange in or event affecting the Compa-ny [GTE Information] that constitutes aMaterial Adverse CircumstanceTTTT

Material Adverse Circumstance was de-fined as ‘‘any fact, circumstance or condi-

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tion’’ that would ‘‘(a) have a material ad-verse effect on the Business, or on theoperations, assets, or financial condition of[GTE Information]’’ or ‘‘(b) TTT result in aloss, liability or obligation TTT having amonetary effect greater than $500,000.’’

The representations and warranties ofthe Seller, Contel, referenced in Section7.2(a), were set out in Article II of thePurchase Agreement. Pursuant to Section2.3, Contel represented and warranted:

(a) the audited balance sheet TTT andthe related statements of income, parentcompany investment, and cash flows forthe year ended December 31, 1998 TTT

have been prepared from the books andrecords of the Company [GTE Informa-tion] and Government Systems [theGTE Division prior to the sale of assetsto General Dynamics and the contribu-tion of assets to GTE Information] inaccordance with GAAP and present fair-ly, in all material respects, the financialcondition and the results of operations ofthe Business as of the date, and for theperiod, thereon referenced.1

(b) Except as set forth on Schedule2.3(b), since December 31, 1988, therehas not been, occurred or arisen anychange or event affecting [GTE Infor-mation] that constitutes a Material Ad-verse CircumstanceTTTT

(c) TTT Except as set forth on Sched-ule 2.3(c), as of the date hereof, [GTEInformation] has not incurred any [ ]liabilities in excess of $100,000TTTT

(d) TTT The Adjusted Net Assets of[GTE Information], determined in accor-dance with GAAP consistently appliedTTT shall be no less than $41,000,000 asof the Closing Date.

Contel also represented and warranted,with respect to GTE Information’s con-tracts with the government, that no notice

of termination for default, or notice forcure or show cause was in effect or threat-ened. (Purchase Agreement, § 2.20).

In Article III of the Purchase Agree-ment, setting out the representations andwarranties of the Buyer, DynCorp dis-claimed reliance on any representations orwarranties by Contel or its affiliates (in-cluding GTE) other than those provided inthe Purchase Agreement. Thus, DynCorprepresented and warranted that it relied,in entering into the Purchase Agreement,not on the mix of data and informationsupplied to it by GTE and Contel withrespect to which it performed its investi-gating and due diligence work, but only onthe ‘‘representations and warranties con-tained in [the Purchase] Agreement.’’Section 3.8, reflecting DynCorp’s disclaim-ers, provides:

Except for the representations and war-ranties contained in this Agreement,Buyer acknowledges that [the] SellerTTT makes [no] express or implied rep-resentation or warranty with respect tothe TTT Company [GTE Information],the Business [the business that Contel isselling and that DynCorp is buying] orotherwise or with respect to any otherinformation provided to Buyer, TTT in-cluding as to (a) merchantability or fit-ness for any particular use or purpose,(b) the operation of the Business byBuyer after the Closing in any mannerother than as used and operated by Sell-er or (c) the probable success or profita-bility of the ownership, use or operationof the Business by Buyer after the Clos-ing.

Section 3.8 provided also that GTE andContel were not to be liable to DynCorpbecause of representations made, or infor-mation or data given, before DynCorp and

1. The financial statements were for GTE Gov-ernment Systems Corporation as of December31, 1998, prior to the sale of most of its assets

to General Dynamics, and prior to the spin-offof the remaining business and assets to GTEInformation and Contel.

312 215 FEDERAL SUPPLEMENT, 2d SERIES

Contel entered into the Purchase Agree-ment:

Neither Seller nor any other Person willhave or be subject to any liability orindemnification obligation to Buyer orany other Person resulting from the dis-tribution to Buyer, or Buyer’s use of,any such information, including the Con-fidential Offering Memorandum datedJuly 1999 TTT related to the Businessand any information, documents or ma-terial made available to the Buyer incertain ‘‘data rooms,’’ management pre-sentations, functional ‘‘break-out’’ dis-cussions, responses to questions submit-ted on behalf of Buyer, whether orallyor in writing, or in any other form inexpectation of the transactions contem-plated by this agreement.

Article IV of the Purchase Agreementadded covenants relating to the period be-tween the effective date of the PurchaseAgreement, October 29, 1999, and theClosing, expected to occur a month later,on November 29, 1999.2 Pursuant to Sec-tion 4.1, Contel covenanted that DynCorpand its experts would have access to thebooks and records of the business beingsold, ‘‘and all other information with re-spect to the Business as [DynCorp] mayfrom time to time reasonably requestTTTT’’Pursuant to Section 4.2, Contel covenantedto make available to DynCorp monthlyunaudited balance sheets and incomestatements for GTE Information, and ‘‘awritten management discussion and analy-sis of the Company’s financial conditionand results of operations consistent withthe Company’s and its predecessor’s pastpractices TTT prepared in accordance withthe past practices of the Company consis-tently applied.’’ Pursuant to Section 5.7 ofthe Purchasing Agreement, as a ‘‘Continu-ing Covenant,’’ Contel covenanted to deliv-er audited balance sheets and relatedstatements of income and cash flows for

the GTE Information Systems Division forthe year ended December 31, 1997 (twoyears before the transaction with GeneralDynamics and the separate organization ofGTE Information), and an unaudited bal-ance sheet and related statements of in-come and cash flows for the InformationSystems Division for the nine months end-ed September 30, 1999.

Article IX of the Purchase Agreementprovided the parties’ rights and obli-gations, and limited the remedies, withrespect to ‘‘Indemnifiable Losses,’’ definedbroadly by the Purchase Agreement as‘‘any cost, damage, disbursement, expense,liability, loss, deficiency,’’ etc. Pursuant toSection 9.1, Contel, joined by GTE, agreedto ‘‘defend, indemnify and hold harmless’’DynCorp (and associated companies andemployees) against ‘‘any and all Indemnifi-able Losses based upon or arising from:’’(a) ‘‘any inaccuracy in any of the represen-tations and warranties made by Seller onthe Closing Date in or pursuant to [thePurchase] Agreement,’’ and (b) ‘‘anybreach or nonperformance of any of thecovenants of Seller contained in [the Pur-chase] AgreementTTTT’’

Section 9.4 limited the duration of therepresentations and warranties, and of thecovenants, with respect to which indemnifi-cation claims may be made, to 545 days inthe case of representations and warranties,and one year in the case of covenants. If,however, a claim had been asserted andremained unresolved, the duration periodwas to be extended. Thus, Section 9.4provided:

Any matter as to which a claim has beenasserted by notice to the other partythat is pending or unresolved at the endof any applicable limitation period shallcontinue to be covered by this Article IXTTT until such matter is finally terminat-

2. The Closing actually occurred December 10, 1999.

313DYNCORP v. GTE CORP.Cite as 215 F.Supp.2d 308 (S.D.N.Y. 2002)

ed or otherwise resolved by the partiesunder [the Purchase] AgreementTTTT

Notices and communications called for bythe agreement were to be in writing.(Purchase Agreement, § 10.14).

Section 9.5 limited potential recoveries.Section 9.5 provided that Contel and GTEwere not required to pay any Indemnifia-ble Loss which, in the aggregate, was lessthan 1.5% or that exceeded 15% of thePurchase Price of $165 million—damages,that is, had to exceed a threshold of$2,475,000 and could not exceed$24,750,000:

Seller shall not be required to indemnifyany Person under Section 9.1(a) unlessthe aggregate of all amounts for whichindemnity would otherwise be payableby Seller exceeds 1.5% of the PurchasePrice, and in such event, Seller shall beresponsible for only the amount in ex-cess of such 1.5% of the PurchasePriceTTTT In no event shall the totalindemnification to be paid by Seller un-der this Article IX exceed 15% of thePurchase PriceTTTT

Recoveries were further limited to ‘‘actualdamages sustained by the IndemnifiedParty by reason of such breach or nonper-formance TTT, net of any insurance pro-ceeds and Net Tax Benefits.’’ The Pur-chase Agreement provided that the limitedindemnification remedy of Article IX wasto be ‘‘the sole and exclusive remedy forany post-Closing claims TTT made forbreach of a representation or warranty,’’but was not to be the ‘‘exclusive remedyfor claims arising out of TTT any covenantunder this Agreement.’’ (Purchase Agree-ment, § 9.7). And there could be no re-covery for consequential, special or puni-tive damages, or loss of future income orbusiness opportunity. Thus, Section 10.12provided:

Notwithstanding anything to the con-trary elsewhere in [the Purchase]Agreement, no party (or its Affiliates)

shall, in any event, be liable to the otherparty (or its Affiliates) for any conse-quential, special or punitive damages,including loss of future revenue or in-come, or loss of business reputation oropportunity relating to the breach oralleged breach of [the Purchase] Agree-ment.

The governing law was to be New Yorklaw (Purchase Agreement, § 10.5), and anylitigation ‘‘arising under or in connectionwith [the Purchase] Agreement’’ was to bebrought in the state or federal courts inthe County of New York (Purchase Agree-ment, § 10.21). The Purchase Agreementalso contained an integration clause:

the [Purchase] Agreement, the Confi-dentiality Agreement and the RelatedAgreements, together with the sched-ules and exhibits thereto, (i) constitutethe entire agreement among the partiespertaining to the subject matter hereofand (ii) supersede all prior agreementsand understandings of the parties inconnection therewithTTTT

II. Plaintiff’s Allegations of Negotiationsand Breach

The complaint, covering 24 pages, 64paragraphs and 16 exhibits, alleges a nar-rative relating the origin of GTE Informa-tion, its organization, the negotiations be-tween GTE, Contel, and DynCorp, and theultimate sale to DynCorp of GTE Informa-tion. Plaintiff alleges that defendant de-ceived it at every turn, and that plaintiffshould therefore recover damages thatcompensate it for its loss, and reward itwith punitive damages because of the egre-gious nature of defendant’s conduct.Plaintiff alleges three theories that autho-rize a recovery—contract, fraud and negli-gence—and alleges and realleges each andall the allegations of its narrative as thebasis of each of its three claims of relief.

314 215 FEDERAL SUPPLEMENT, 2d SERIES

A. Background of Sale

In mid–1999, DynCorp and GTE begannegotiations to purchase and sell GTE In-formation. GTE gave DynCorp an Offer-ing Memorandum, dated July 1999, whichdiscussed its contracts, customers, resultsof operations, and projected revenues andprofit margins. GTE also gave DynCorpaccess to a ‘‘data room’’ containing selectedfinancial and other information about thebusiness, and employees of GTE added tothis information by discussions of the ac-tivities, revenues and future prospects ofthe business. On September 1, 1999, GTEtransferred ownership of GTE Informationto Contel Federal Systems, Inc. (‘‘Contel’’),a wholly owned subsidiary of GTE with noemployees. On October 29, 1999, Dyn-Corp and Contel entered into the PurchaseAgreement.

B. GTE’s Alleged Pre–Contract Mis-representations

DynCorp alleges that GTE misled itabout the current and future values andprofitability of GTE Information. In par-ticular, DynCorp alleges that GTE inten-tionally misrepresented the value of a ma-jor contract it had with the United StatesBureau of Prisons to provide telephoneservice to inmates (‘‘the BOPITS II con-tract’’), representing that BOPITS II wasand would continue to be profitable, andconcealing information which would haveshown that BOPITS II was unprofitableand experiencing serious problems. Dyn-Corp alleges that as of the end of August1999, GTE Information had installed only17 of 54 scheduled sites, that call volumeand revenues were lower than expected,and that an internal review found seriouscustomer dissatisfaction, poor managementand inadequate personnel resources. Dyn-Corp alleges that GTE Information man-agement had determined, by November10, 1999, that the BOPITS II contractcould not be profitable unless concessionswere negotiated with the Bureau of Pris-

ons concerning call volume and pricing.DynCorp alleges that these adverse condi-tions were not disclosed to it, neither atthe time the Purchase Agreement was exe-cuted nor prior to closing, and that GTEthroughout represented that the BOPITSII contract was and would continue to beprofitable and provided misleading finan-cial information to substantiate its falserepresentations.

C. GTE’s Alleged Breaches of Warran-ties and Covenants

DynCorp alleges that GTE’s represen-tations and warranties provided in thePurchase Agreement—that the financialstatements pertaining to GTE Informationfairly reflected its financial condition andresults of operations, that there were nomaterial adverse changes or material un-disclosed liabilities, and that adjusted netvalue at closing would be $41 million—were false and fraudulent, that GTE knewthat when it executed the contract, andthat DynCorp relied to its detriment.

D. GTE’s Alleged MisrepresentationsPost–Contract and Prior to Closing

DynCorp alleges that GTE continued toprovide false information about GTE In-formation and the BOPITS II contractafter the Purchase Agreement was execut-ed and prior to closing. DynCorp allegesthat the October Financial Summary as ofOctober 31, 1999, provided by GTE onNovember 24, 1999, failed to disclose loss-es associated with the BOPITS II contractand overstated net worth, and that GTE’sexplanations for poorer than expected per-formance were also false. DynCorp alleg-es also that information GTE was requiredto provide under Sections 4.1 and 4.2 ofthe Purchase Agreement—monthly unau-dited balance sheets and income state-ments and management discussions andanalyses of GTE Information’s financial

315DYNCORP v. GTE CORP.Cite as 215 F.Supp.2d 308 (S.D.N.Y. 2002)

condition and results of operations—werealso false in material respects, masked fur-ther undisclosed losses, and misstated thebusiness and financial condition of GTEInformation.

E. DynCorp’s Theories of Action andAlleged Damages

DynCorp alleges three claims for relief,and realleges all its allegations of fact ineach count, not making any effort to cate-gorize them according to materiality orlegal effect. Count One, for breach ofcontract, alleges that GTE’s misrepresen-tations concerning BOPITS II and theoverall value of GTE Information consti-tuted material breaches of the representa-tions and warranties of Section 2.3 of thePurchase Agreement, and of the covenantsof Sections 4.1 and 4.2 of the PurchaseAgreement. Count Two, for fraud, allegesthat GTE knowingly and fraudulentlymade its misrepresentations, before and atthe time the Purchase Agreement was exe-cuted and again, prior to and at closing,that the misrepresentations were material,and that DynCorp relied on them. CountThree, for negligent misrepresentation, al-leges that GTE made its misrepresenta-tions negligently.

DynCorp alleges that it suffered, andclaims to recover, damages of $100 million,including the costs of restructuring GTEInformation’s debt, $1.8 million of noteprepayment costs, $10 million in surren-dered shares, $11 million in transactionalexpenses, $8 million in additional interestcosts, $2.5 million in advisory services, and$24.5 million in interest paid. DynCorpalso seeks punitive damages.

GTE’s motion attacks the legal sufficien-cy of DynCorp’s claims, even assumingthat they can be proved.

III. Discussion

A. Rule 12(b)(6) Standards

On a motion to dismiss under Rule12(b)(6), Fed.R.Civ.P. 12(b)(6), all materialallegations of the complaint are to be ac-cepted as true, and all reasonable infer-ences are to be drawn in favor of thenonmoving party. D’Alessio v. New YorkStock Exchange, Inc., 258 F.3d 93, 99 (2dCir.2001). However, if ‘‘it appears beyonddoubt that the plaintiff can prove no set offacts in support of his claim that wouldentitle him to relief,’’ the complaint shouldbe dismissed. Id. The court may considerdocuments referenced in the complaint, aswell as its allegations. Brass v. AmericanFilm Technologies, Inc., 987 F.2d 142, 150(2d Cir.1993). Furthermore, since the in-terpretation of a contract generally is aquestion of law to be determined by thecourt, United States v. Liranzo, 944 F.2d73, 77 (2d Cir.1991), the court may dismissa complaint based on a contract if thecontract unambiguously shows that theplaintiff is not entitled to the requestedrelief. Marketing/Trademark Consul-tants, Inc. v. Caterpillar, Inc., No. 98 Civ.2570(AGS), 2000 WL 648162, at *3(S.D.N.Y. May 19, 2000).

B. The Breach of Contract ClaimsAgainst GTE

DynCorp alleges its claim of breach ofcontract, not against Contel, the party withwhich DynCorp is in privity, but againstGTE, Contel’s parent. In the absence of aclaim that GTE is liable for the acts of itssubsidiary, GTE’s may be liable only onthe extent it joined the Purchase Agree-ment. It ‘‘joined’’ ‘‘solely TTT for the pur-pose of guaranteeing the performance bySeller [Contel] of its obligations under Ar-ticle IX of [the Purchase] Agreement.’’

Article IX, Section 9.1, requires Contelto indemnify DynCorp from ‘‘any and allIndemnifiable Losses,’’ that is, for Dyn-

316 215 FEDERAL SUPPLEMENT, 2d SERIES

Corp’s damages and expenses (a) ‘‘basedon or arising from any inaccuracy in any ofthe representations and warranties madeby Seller [Contel] on the Closing Date inor pursuant to [the Purchase] Agreement’’or (b) ‘‘based upon or arising from anybreach or nonperformance of any of thecovenants of Seller contained in [the Pur-chase] Agreement.’’ GTE guaranteedthose obligations of Contel. However, therepresentations, warranties, and covenantsbinding Contel and GTE are time limited.The representations and warranties expireon ‘‘11:59 p.m. on the 545th day followingthe closing date;’’ that is, on June 7, 2001,while the Article IV covenants are timelimited ‘‘for one year’’ that is, until Decem-ber 10, 2000. These limits do not apply,however, to ‘‘any matter’’ as to which aclaim has been asserted and remains‘‘pending or unresolved.’’ (PurchaseAgreement, §§ 9.4, 9.7). The immediateissue, therefore, is whether or not the con-tractual time limitations expired beforeDynCorp made claim or filed suit.

1. The Issue of Timeliness

[1] Under New York law, the partiesto a contract may agree to shorten theperiod of limitations within which an actionmust be commenced. See IncorporatedVillage of Saltaire v. Zagata, 280 A.D.2d547, 547–48, 720 N.Y.S.2d 200 (2d Dep’t2001). Although a defendant may raisethe affirmative defense that the plaintiff’sclaim is time-barred on a 12(b)(6) motionto dismiss, a court may grant such a mo-tion only if it is clear from the face of thecomplaint that the action was not timely-filed. Ghartey v. St. John’s Queens Hosp.,869 F.2d 160, 162 (2d Cir.1989). SinceDynCorp filed this suit on August 10,2001—two months after the Section 2.3representations and warranties and eightmonths after the Section 4.1 and 4.2 cove-nants appear to have expired—and did notallege that it previously made claim thatany such representations, warranties or

covenants had been breached and thatsuch claim remained unresolved, thebreach of contract action against GTEmust be dismissed.

However, DynCorp has requested leaveto amend its complaint to allege that itmade timely claim that the representationsand warranties provided by Section 2.3,and the covenants provided by Sections 4.1and 4.2, were breached. DynCorp propos-es to allege that ‘‘in a series of extensivecommunications, both written and oral TTT

beginning as early as December 1, 2000,DynCorp timely gave notice to GTE con-cerning the matters as to which a claimhas been asserted in this lawsuitTTTT’’DynCorp also refers to its letter to GTE ofMarch 8, 2001, enclosing a draft complaint,and argues that this also constituted time-ly notice of claim. GTE disputes the legalsufficiency of DynCorp’s submissions, andargues that notice was not sufficiently spe-cific, for Section 9.4 provides for an en-largement of time, beyond the 545 andone-year period provided by Article IX ofthe Purchase Agreement, only as to ‘‘mat-ter[s]’’ as to which a claim was assertedand remains ‘‘pending or unresolved.’’

I grant leave to DynCorp to add allega-tions of timely notice to an amended com-plaint. Since Section 9.4 provides differ-ent periods of limitation for claims ofbreach of Section 2.3 representations andwarranties, and for Sections 4.1 and 4.2covenants, DynCorp shall allege, specifical-ly for each such section, such notices as itclaims to have given. And since Section10.14 provides that notice shall be given inwriting, DynCorp’s amendment shall clear-ly allege and attach the written noticesthat it alleges were timely given. Defen-dant’s argument relating to inadequacy ofnotice is premature at this early stagebecause it depends on factual allegationsnot referenced in the complaint, see Cham-bers v. Time Warner, Inc., 282 F.3d 147,

317DYNCORP v. GTE CORP.Cite as 215 F.Supp.2d 308 (S.D.N.Y. 2002)

153–54 (2d Cir.2002), but may be raised bymotion at a later time.3

DynCorp argues that since Section 9.7of the Purchase Agreement provides thatthe remedy provided by Article IX is the‘‘sole and exclusive’’ remedy for ‘‘post-Closing claims TTT made for breach of arepresentation or warranty’’, but is not the‘‘exclusive’’ remedy for breach of ‘‘any cov-enant under this Agreement,’’ the shortperiod of limitations provided by Section9.4 of Article IX should not bar its claim.The argument lacks merit. GTE, since itis not in contractual privity with DynCorp,is potentially liable to it for breach ofcontract only to the extent that GTE‘‘joined’’ the DynCorp/Contel PurchaseAgreement, and GTE ‘‘joined’’ only to theextent of guaranteeing Contel’s obligationsunder the Indemnification provisions ofArticle IX, including the provisions of Arti-cle IX with regard to time limits and no-tice. (Purchase Agreement, Schedule‘‘Joinder’’ (‘‘GTE Corporation hereby joinsin this Purchase Agreement solely TTT forthe purpose of guaranteeing the perfor-mance by Seller of its obligations underArticle IX of this Agreement.’’)).

2. Limitation of Potential DamagesRecoveries

DynCorp seeks to recover $100 millionin compensatory damages and an unspeci-fied amount of punitive damages pursuantto its breach of contract claim againstGTE. The Purchase Agreement, however,limits Article IX indemnification to$24,750,000: 15% of the purchase price of$165 million. (Purchase Agreement,

§ 9.5).4 In addition, the damages must be‘‘actual damages,’’ sustained ‘‘by reason ofsuch breach or nonperformance’’ of theSection 2.3 representations and warrantiesand Sections 4.1 and 4.2 covenants, (id.)and not ‘‘consequential, special or punitivedamages.’’ (Id., § 10.12).

[2] Under New York law, sophisticatedparties with equal bargaining power canagree to limit the liability that the othermay recover from a breach of contract.Metropolitan Life Ins. Co. v. NobleLowndes Int’l, Inc., 84 N.Y.2d 430, 436,618 N.Y.S.2d 882, 643 N.E.2d 504 (1994);Peluso v. Tauscher Cronacher Prof’lEng’rs, P.C., 270 A.D.2d 325, 325, 704N.Y.S.2d 289 (2d Dep’t 2000); Scott v.Palermo, 233 A.D.2d 869, 870, 649N.Y.S.2d 289 (4th Dep’t 1996); AT & T v.New York City Human Resources Admin.,833 F.Supp. 962, 989 (S.D.N.Y.1993); see 5Corbin on Contracts § 1068, at 386 (1964).‘‘A limitation of liability provision in a con-tract represents the parties’ agreement onthe allocation of the risk of economic lossin the event that the contemplated transac-tion is not fully executed, which the courtsshould honor’’ if the limitation is not theresult of unconscionable conduct or un-equal bargaining power between the par-ties. Metropolitan Life, 84 N.Y.2d at 436,618 N.Y.S.2d 882, 643 N.E.2d 504; 5 Cor-bin on Contracts § 1068, at 386 n. 84.5.

[3] DynCorp argues that the limitationof liability provisions should not be en-forced if the breach was fraudulent, willfulor grossly negligent, citing AT & T, 833F.Supp. at 989–90, Ally Gargano/MCA Ad-

3. The advisability of early, limited discoveryon the issue of notice may be taken up withme at a Case Management Conference. Seethe last section of this Opinion.

4. The language of Section 9.5 of the Agree-ment is ambiguous as to whether it limitsindemnification to 15% of the total purchaseprice ($24,750,000), or to the difference be-

tween 15% of the total purchase price and1.5% percent of the total purchase price($22,275,000). GTE does not argue for thelatter interpretation, and I decline to decideat this point which interpretation of the dam-ages limitation is correct. Some limited dis-covery concerning the parties’ intent concern-ing this issue may be appropriate.

318 215 FEDERAL SUPPLEMENT, 2d SERIES

ver. v. Cooke Properties, Inc., No. 87 Civ.7311(RWS), 1989 WL 126066 (S.D.N.Y.Oct.13, 1989), and Williamsburg Food Spe-cialties, Inc. v. Kerman Protection Sys,Inc., 204 A.D.2d 718, 719, 613 N.Y.S.2d 30(2d Dep’t 1994). However, the decision ofthe New York Court of Appeals in Metro-politan Life is authoritative, and it holdsthat an allegation that a breach of contractwas willful rather than involuntary doesnot allow a court to disregard an unambig-uous limitation of liability provision agreedto by parties of equal bargaining power.Metropolitan Life, 84 N.Y.2d at 435, 618N.Y.S.2d 882, 643 N.E.2d 504. DynCorpand Contel, both sophisticated parties rep-resented by sophisticated counsel, unam-biguously provided the limit of recovery inthe event of breach, and I may not re-write how the parties defined their rightsand obligations, allocated their risks, andlimited their liabilities and rights of recov-ery.

I therefore dismiss DynCorp’s allega-tions seeking recovery in contract againstGTE in excess of $24,750,000, and seekingdamages that are not ‘‘actual,’’ or whichare ‘‘consequential, special or punitive,’’damages. I also dismiss paragraph 52 ofthe complaint, alleging that GTE may notrely on the limitation of liability sections ofArticle IX because ‘‘of the fraudulent orgrossly negligent breaches of contract.’’

3. Allegations Immaterial to Breachof Contract

[4] DynCorp’s breach of contract claimagainst GTE is not limited to allegations ofbreaches of Section 2.3 representationsand warranties and Sections 4.1 and 4.2.DynCorp’s claims of breach of contractalso reallege, in Count One of the com-plaint, the entire history of GTE Informa-tion, replete with numerous incidents ofalleged wrongful behavior on the part ofGTE.

DynCorp’s narrative is immaterial. Itsclaim against GTE can proceed only underArticle IX, and the specific portions of thePurchase Agreement incorporated in Arti-cle IX.

A claim for relief is supposed to bestated by ‘‘a short and plain statement ofthe claim showing that the pleader is enti-tled to relief.’’ Fed.R.Civ.P. 8. Failure toabide by this standard can produce greatmischief in a case as complex as this one.Unnecessary allegations promote discov-ery abuse, contentiousness and difficultiesin understanding and treating the case formotions, legal sufficiency and trial. Ac-cordingly, paragraph 47 of DynCorp’s com-plaint, realleging its entire narrative, isstricken. DynCorp may reallege onlythose paragraphs directly relevant to itsbreach of contract claim against GTE:breach, that is, of the Section 2.3 represen-tations and warranties and the Sections 4.1and 4.2 covenants, alleged in paragraphs48 through 51 of the complaint.

C. Fraud Claims

DynCorp alleges, as Count Two of itscomplaint, that GTE and Contel madefraudulent and misleading representationsconcerning the value, current operations,and future profitability of GTE Informa-tion, during negotiations and due diligencebefore the Purchase Agreement was exe-cuted, in the Purchase Agreement itself,and between the execution of the PurchaseAgreement and the closing of the transac-tion. DynCorp claims that it has stated aclaim for fraud under New York law: (1)that GTE made representations of materi-al facts, (2) that were false, (3) with theintention to defraud, (4) that DynCorp rea-sonably relied on GTE’s misrepresenta-tions, and (5) that DynCorp suffered re-sulting damages. See Small v. LorillardTobacco Co., Inc., 94 N.Y.2d 43, 57, 698N.Y.S.2d 615, 720 N.E.2d 892 (1999);

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Bridgestone/Firestone, Inc. v. RecoveryCredit Servs., Inc., 98 F.3d 13, 19 (2dCir.1996).

1. Fraud Claims Based on Pre–Con-tractual Misrepresentations

[5] DynCorp alleges that GTE fraudu-lently induced it to enter into the PurchaseAgreement of October 29, 1999 with Contelby misrepresenting the financial conditionand results of operations of GTE Informa-tion and the projected revenues of theBOPITS II contract, in the 1999 OfferingMemorandum given to DynCorp in July1999, in presentations to DynCorp in Au-gust 1999, and in other written materialsdescribing untrue high ratings for its ser-vice to customers and its technical exper-tise.

DynCorp expressly acknowledged, how-ever, in Section 3.8 of the PurchaseAgreement, that the ‘‘Seller TTT makes[no] express or implied representation orwarranty’’ with respect to ‘‘the business’’being sold ‘‘or otherwise,’’ or its ‘‘probablesuccess or profitability,’’ ‘‘or with respectto any other information’’ provided toDynCorp. DynCorp acknowledged, fur-ther, that ‘‘[n]either Seller nor any otherPerson will have or be subject to anyliability or indemnification obligation’’ re-sulting from the distribution to DynCorpor its use of ‘‘the Confidential OfferingMemorandum’’ or ‘‘any information, docu-ments or material made available TTT incertain ‘data rooms,’ management presen-tations, functional ‘break-out’ discussions,responses to questions TTT, or in any oth-er formTTTT’’ DynCorp thus disclaimedreliance on the pre-contractual representa-tions which form the basis of its claim offraudulent inducement to enter the Pur-chase Agreement. The only exceptions toDynCorp’s disclaimers are ‘‘the represen-tations and warranties contained in theAgreement.’’ (Purchase Agreement,§ 3.8).

DynCorp’s particularized disclaimersmake it impossible for it to prove one ofthe elements of a claim of fraud: that itreasonably relied on the representationsthat it alleges were made to induce it toenter into the Purchase Agreement. Dan-ann Realty Corp. v. Harris, 5 N.Y.2d 317,320–21, 184 N.Y.S.2d 599, 157 N.E.2d 597(1959). A party to a contract cannot allegethat it reasonably relied on a parol repre-sentation when, in the same contract, it‘‘specifically disclaims reliance upon [that]particular representation.’’ Harsco Corp.v. Segui, 91 F.3d 337, 345 (2d Cir.1996).

Danann Realty involved the sale of thelease to a building. Plaintiff alleged that itwas induced to enter into the contract ofpurchase and sale by the seller’s misrepre-sentations of the operating expenses of thebuilding and the profits to be derived fromthe investment, and sued for damages re-sulting from the fraudulent misrepresenta-tions. In the contract, however, the buyerhad acknowledged that the seller was notmaking any representations as to ‘‘rents,leases, expenses, operation or any othermatter or thing affecting or related to theaforesaid premises, except as herein spe-cifically set forth,’’ and that it entered intothe contract ‘‘after full investigation, nei-ther party relying upon any statement orrepresentation, not embodied in this con-tract, made by the other.’’ Id. at 320, 184N.Y.S.2d 599, 157 N.E.2d 597. The NewYork Court of Appeals, reversing the Ap-pellate Division and reinstating the orderof Special Term, ordered the complaintdismissed. Judge Burke, writing for a six-out-of-seven majority, ruled that whereplaintiff, ‘‘in the plainest language an-nounced and stipulated that it is not rely-ing on any representations as to the verymatter as to which it now claims it wasdefrauded,’’ the plaintiff’s fraud claimshould be dismissed. Id. at 320, 184N.Y.S.2d 599, 157 N.E.2d 597.

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Such a specific disclaimer destroys theallegations in plaintiff’s complaint thatthe agreement was executed in relianceupon these contrary oral representa-tions.

Id. at 320–21, 184 N.Y.S.2d 599, 157N.E.2d 597. Businessmen dealing atarm’s length should be able to agree,Judge Burke ruled, ‘‘that the buyer is notbuying in reliance on any representationsof the seller as to a particular fact.’’ Id. at323, 184 N.Y.S.2d 599, 157 N.E.2d 597.And the ruling on the legal sufficiency of acomplaint based on such representationsmay properly be made on the complaintand contract alone, without waiting for dis-covery.

Judge Fuld, dissenting, argued that thedisclaimer clause was essentially ‘‘boiler-plate,’’ and that regardless and in view ofcases traced back to the English Chancel-lor, ‘‘no one [should be able to] escapeliability for his own fraudulent statementsby inserting in a contract a clause that theother party shall not rely upon them.’’ Id.at 326–28, 184 N.Y.S.2d 599, 157 N.E.2d597 (Fuld, J., dissenting). The majoritynevertheless rejected Judge Fuld’s discus-sion, and affirmed the contract, and theability of contracting parties under NewYork law to allocate their respectiverights, obligations and risks, and to dis-claim or limit the ability of one to sue theother for untrue or fraudulent misrepre-sentations.

In Harsco Corp. v. Segui, 91 F.3d 337,345 (2d Cir.1996), the Second CircuitCourt of Appeals applied the rule of Dan-ann Realty to the purchase and sale of abusiness. Harsco Corp. was interested toexpand its production and marketing ofsteel products internationally by purchas-ing the stock of MultiServ, a Netherlandscompany. MultiServ’s representativesrepresented that a set of projections, giv-en to Harsco to induce it to enter into acontract of purchase, ‘‘reflected conserva-

tive economic assumptions and accountedfor the prospects of ‘questionable plants.’ ’’In additional negotiations, Harsco askedfor further details from MultiServ’s chieffinancial officer, but did not receive all theMultiServ documents that it had request-ed. The contract of purchase and salebetween Harsco and MultiServ’s ownersprovided that this due diligence was forthe purpose of ‘‘confirming the accuracy ofthe representations and warranties of the[sellers],’’ and that Harsco had the rightto terminate the deal during a fourteen-day period if it determined that the sell-er’s representations were not true and ac-curate in all material respects. Theagreement provided that Harsco dis-claimed representations by the sellers thatwere not provided in the agreement, andacknowledged that the sellers were notwarranting ‘‘projections, estimates or bud-gets TTT of future revenues, expenses orexpenditures, future results of operations,TTT or any other information or docu-ments made available’’ to Harsco. Id. at342. A merger clause provided that thewritten agreement was the entire agree-ment and superseded all prior arrange-ments or understandings.

Harsco, after its due diligence, deter-mined to proceed, and paid the cash andassumed the debt necessary to close thetransaction. Later, it determined that thebusiness it purchased was not the businessthat had been represented to it; the statusof MultiServ’s plant construction, the fi-nancial prospects for its operations, andthe status of its intellectual property rightshad all been misrepresented. Harsco suedfor breach of contract and alleged a vari-ety of fraud and misrepresentation theo-ries, much like DynCorp’s suit here.

The district court dismissed the com-plaint, on the complaint and contract andbefore discovery, and the court of appealsaffirmed. The Second Circuit ruled thatbecause the buyer had disclaimed all but

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the representations and warranties explic-itly provided by the written contract, thebuyer could not show that it reasonablyrelied on the misrepresentations on whichit based its claim. ‘‘We think,’’ the courtof appeals ruled, ‘‘that Harsco should betreated as if it meant what it said when itagreed in Section 2.05 that there were norepresentations other than those containedin Sections 2.01 through 2.04 that werepart of the transaction.’’ Id. at 346.

Harsco, like the DynCorp case beforeme, involved a claim that not all documentswere produced in response to the buyer’srequest, and that the documents not pro-duced would have shown that the picturepresented by the sellers was not a truepicture. The Court of Appeals dismissedHarsco’s claim, ruling that ‘‘it cannot besaid that denial of a request to see docu-ments could constitute fraud, unless thatdenial suggested falsely and deceitfullythat those documents did not exist (ofwhich there is no suggestion here).’’ Id. at347; see also Grumman Allied Indus.,Inc. v. Rohr Indus., Inc., 748 F.2d 729, 735(2d Cir.1984) (‘‘where the parties to anagreement have expressly allocated risks,the judiciary shall not intrude into theircontractual relationship;’’ a party cannotcomplain of having been misled if ‘‘thesubstance of the disclaimer provisionstracks the substance of the alleged misrep-resentations, notwithstanding semanticaldiscrepancies’’).

DynCorp’s disclaimers, expressed inSection 3.8 of the Purchase Agreement,match the representations on which it bas-es its claim of pre-contractual fraud. Un-der the rule of Danann Realty and Har-sco, those aspects of its claim must bestricken.

2. The Peculiar Knowledge Excep-tion is not Applicable

[6] DynCorp argues that even thoughit disclaimed reliance on representations

made by the seller outside the contract, itnevertheless should have the right to suefor fraud because it was misled by misrep-resentations concerning facts of whichGTE had ‘‘peculiar knowledge.’’ The in-formation that GTE gave it, DynCorp al-leges, was ‘‘selective,’’ painting an inaccu-rate picture of the current and futureprofitability of the BOPITS II contract.DynCorp alleges that GTE withheld infor-mation that its implementation of theBOPITS II contract was behind schedule,plagued with technical difficulties and los-ing money. DynCorp argues that it couldnot reasonably have discovered this infor-mation by its investigations. DynCorp re-lies on a dictum of Danann Realty Corp.:

[I]f the facts represented are not mat-ters peculiarly within the party’s knowl-edge, and the other party has the meansavailable to him of knowing, by the exer-cise of ordinary intelligence, the truth orthe real quality of the subjective repre-sentation, he must make use of thosemeans, or he will not be heard to com-plain that he was induced to enter intothe contract by misrepresentations.

Id., 5 N.Y.2d at 322, 184 N.Y.S.2d 599, 157N.E.2d 597.

DynCorp was aware, however, that theinformation it had received had been se-lected, and that it had not received anywarranty that the information was repre-sentative of the business it was interestedto purchase. Indeed, DynCorp disclaimedreliance on the mix of information that ithad received, for Section 3.8 of the Pur-chase Agreement specifically provided thatthe Seller would not be liable to DynCorpbased on claims arising from the informa-tion provided to it, but only for the specificrepresentations, warranties and covenantsof the Purchase Agreement. The disclaim-er was broad, and related to all informa-tion given to DynCorp: the ‘‘ConfidentialOffering Memorandum’’, the ‘‘documents

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or material made available to the Buyer incertain ‘data rooms,’ ’’ ‘‘management pre-sentations, functional ‘breakout’ discus-sions, responses to questions,’’ and ‘‘anyother form in expectation of the transac-tions contemplated by this agreement.’’As DynCorp acknowledged in its com-plaint, GTE gave it some, not all, theinformation that DynCorp requested.(Complaint, at ¶ 43 & Exs. J, K).

Sophisticated parties to major transac-tions cannot avoid their disclaimers bycomplaining that they received less thanall information, for they could have negoti-ated for fuller information or more com-plete warranties. Thus, in Rodas v. Mani-taras, 159 A.D.2d 341, 552 N.Y.S.2d 618(1st Dep’t 1990), the buyer of a restaurantbusiness complained that the seller hadmisrepresented its weekly income andthat, even though it had disclaimed reli-ance on representations of ‘‘past, presentor prospective income or profits,’’ it shouldbe allowed to sue for fraud. The buyerargued that because the seller refused toallow access to its books and records, thefacts misrepresented were peculiarly with-in the knowledge of the seller. The courtrejected the seller’s argument, holdingthat since the seller had proceeded withthe transaction ‘‘without securing theavailable documentation or inserting ap-propriate language in the agreement forhis protection, he may truly be said tohave willingly assumed the business riskthat the facts may not be as represented.’’Id., at 343, 552 N.Y.S.2d 618; see alsoGrumman Allied Indus., Inc. v. Rohr In-dus., Inc., 748 F.2d 729, 737 (2d Cir.1984)(‘‘The principle that access bars claims ofreliance on misrepresentations has beenexpressly recognized by this CourtTTTT

Where sophisticated businessmen engagedin major transactions enjoy access to criti-cal information but fail to take advantageof that access, New York courts are partic-ularly disinclined to entertain claims ofjustifiable reliance.’’).

In Lazard Freres & Co. v. ProtectiveLife Ins. Co., 108 F.3d 1531, 1543 (2dCir.1997), the buyer of a pool of bank debtrefused to close the transaction, contend-ing that it had been misled by the seller’soral representations of its qualities. Inthe portion of the decision discussingwhether the buyer’s reliance on the seller’srepresentation was justifiable, the Court ofAppeals, following Grumman and Rodas,held that the buyer could not take advan-tage of the ‘‘peculiar knowledge’’ excep-tion.

As a substantial and sophisticated playerin the bank debt market, Protective [thebuyer] was under a further duty to pro-tect itself from misrepresentation. Itcould easily have done so by insisting onan examination of the Scheme Report [areport upon which the seller based itsrepresentations] as a condition of clos-ing.

Lazard Freres, at 1543.

In the case before me, DynCorp specifi-cally disclaimed reliance on pre-contractualrepresentations or the mix of informationprovided to it. It relied on specific repre-sentations and warranties set out in Sec-tion 2.3, and covenants set out in Sections4.1 and 4.2, of the Purchase Agreement.It could have negotiated for further accessor more complete representations, but iteither declined, or was unable, to do so. Itis not the role of the courts to relievesophisticated parties from detailed, bar-gained-for contractual provisions that allo-cate risks between them, and to provideextra-contractual rights or obligations forone side or the other. See GrummanAllied Indus., 748 F.2d at 735 (followingDanann Realty Corp.; ‘‘where parties toan agreement have expressly allocatedrisks, the judiciary shall not intrude intotheir contractual relationship.’’).

This is not a case where it is claimedthat GTE’s alleged fraud was hidden in its

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accounting records, requiring extraordi-nary effort and sophisticated consultantsto unmask. Cf. Dimon Inc. v. Folium,Inc., 48 F.Supp.2d 359 (S.D.N.Y.1999). InDimon, the plaintiffs claimed that theywere fraudulently induced to overpay for acorporate acquisition by a ‘‘carefullymasked accounting scheme’’ orchestratedby the defendant sellers to misrepresentand overstate the value of the acquiredcompany, and which went undetected evenby the company’s public auditors. Id. at362. Although the contract in Dimon alsocontained disclaimers that the sellers madeno ‘‘representation or warranty, either ex-press or implied, as to the accuracy orcompleteness of any of the informationmade available’’ to the plaintiffs, and fur-ther relieved the sellers of liability for any‘‘information provided TTT or statementsmade’’ to the purchasers except to theextent of express representations and war-ranties made in the contract itself, id. at367, there was nothing that the buyercould practically do to investigate thestatements made to it and uncover theimbedded fraud. This impracticality of de-tection led United States District JudgeLewis A. Kaplan to distinguish Dimonfrom the cases cited above, and to allowplaintiff’s fraud claim to proceed beyondthe pleadings stage.

The plaintiff in Dimon was suing, notbecause the disclosed mix of informationfailed to tell a fair and complete story, butbecause of imbedded fraud in the verybooks and records and audited financialstatements of the company to which it wasgiven access. Judge Kaplan found, in Di-mon, that the buyer’s further investigationcould not have uncovered that fraud. Sim-ilarly, in Tahini Investments Ltd. v. Bo-browsky, 99 A.D.2d 489, 490, 470 N.Y.S.2d431 (2d Dep’t 1984), the buyer of a parcelof land could not reasonably have discover-ed that 15 drums of hazardous materialwere buried underneath the property.Here, however, DynCorp knew that it had

not received full information concerningGTE Information and the BOPITS II con-tract when it signed the Purchase Agree-ment. Nevertheless, DynCorp acceptedthe disclaimers of Section 3.8, the limita-tions of damage recoveries provided byArticle IX, and the short limitations peri-ods also provided by Article IX, and reliedon the sufficiency of the Section 2.3 repre-sentations and warranties and the Sections4.1 and 4.2 covenants. Where there is nosuggestion that unequal bargaining powercoerced contractual disclaimers or otherconcessions, a court should not rewrite theallocations of risks, rights and obligationsagreed to by the parties.

3. Whether Claims of Fraud may bePursued if also ConstitutingBreaches of the Representationsand Warranties Provided by thePurchase Agreement

DynCorp complains that GTE’s breach-es of the representations and warrantiesprovided by the Purchase Agreement werewillful and fraudulent, and that it shouldtherefore be able to sue GTE for fraud aswell as for breach of contract. DynCorpalleges that, contrary to the representa-tions and warranties of Section 2.3 andwillfully and fraudulently, GTE Informa-tion had incurred (a) Material AdverseCircumstances since December 31, 1998and (b) material undisclosed liabilities, and(c) its Adjusted Net Assets were less than$41 million at closing. DynCorp claimsthat it reasonably relied upon GTE’s falsewarranties and representations in enteringinto the Purchase Agreement.

The issue before me is whether claimsfor fraud may be maintained independent-ly of a claim for breach of contract, when itappears that the party’s agreement wasintended to preclude such claims. Thisintent of the parties is reflected in severalsections of the Purchase Agreement,

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among them: Section 3.8, which providesthat the Seller ‘‘makes [no] express orimplied representation or warranty,’’ andwill have ‘‘no liability or indemnificationobligation to Buyer,’’ ‘‘[e]xcept for the rep-resentations and warranties contained inthis Agreement;’’ Sections 9.1 and 9.5,which provide that GTE’s potential liabilityis to be limited to ‘‘any inaccuracy in anyof the representations and warrantiesmade by Seller on the Closing Date in orpursuant to [the Purchase] Agreement,’’and which limits potential liability to ‘‘In-demnifiable Losses’’ under the PurchaseAgreement which do not in the aggregateexceed 1.5% of the Purchase Price and areless than 15% of the Purchase Price; Sec-tion 9.7, which provides that the remediesprovided by Article IX were the ‘‘sole andexclusive’’ remedies for ‘‘breach of repre-sentation or warranty under this Agree-ment’’; and Section 10.21, which providesthat the Purchase Agreement (and otheragreements not relevant to this dispute)‘‘constitute the entire agreement’’ and ‘‘su-persede all prior agreements and under-standings.’’

[7] Under New York law, a claim offraud for breaching representations andwarranties provided by a contract is notlegally sufficient unless the complainingparty can ‘‘(i) demonstrate a legal dutyseparate from the duty to perform underthe contract; or (ii) demonstrate a fraudu-lent misrepresentation or breach collateralor extraneous to the contract; or (iii) seekspecial damages that are caused by themisrepresentations and breaches and areunrecoverable as contract damages.’’Bridgestone/Firestone, Inc. v. RecoveryCredit Servs., Inc., 98 F.3d 13, 20 (2dCir.1996) (restating New York law).

[8] GTE’s duty to DynCorp was de-fined entirely by their contractual relation-ship, as the discussion in the previous sec-tions of this opinion makes clear. GTEowed no duty to DynCorp except as pro-

vided in the Purchase Agreement thatContel and DynCorp executed as of Octo-ber 29, 1999. DynCorp cannot satisfy thefirst criterion of Bridgestone/Firestone.

The second and third criteria of Bridge-stone/Firestone are less easily resolved.DynCorp argues that since GTE’s allegedfraudulent misrepresentations were ofpresent facts rather than future promises,the misrepresentations may be considered‘‘collateral or extraneous’’ to the contract.DynCorp also argues that since the Pur-chase Agreement capped damage recover-ies against GTE to 15% of the $156 millionpurchase price (Purchase Agreement,§ 9.5), its damages in excess of that differ-ence may be considered ‘‘special damages’’that are ‘‘unrecoverable as contract dam-ages.’’ For the reasons discussed below, Ihold that DynCorp’s arguments lack merit,and I therefore dismiss DynCorp’s fraudclaims based on the breach of contractualwarranties and representations in the Pur-chase Agreement itself as duplicative of itsclaims for breach of contract.

In Bridgestone/Firestone, the plaintiffhad contracted with a collection agency toobtain collection of delinquent credit cardaccounts, to remit collected funds bi-week-ly, to maintain records of collection efforts,and to submit monthly reports. The col-lection agency, however, destroyed recordsdespite contractual and subsequent prom-ises not to do so, and stole money from thefunds that it had collected. The districtcourt held that these activities amountedto fraud on the part of the collection agen-cy and its principal, and granted a recov-ery to plaintiff in the amount that it esti-mated was stolen and for attorneys’ fees.The Court of Appeals reversed the findingof fraud and the award of attorneys’ fees.The Court of Appeals held that the repre-sentations of defendants were not ‘‘collat-eral or extraneous to the terms of theparties’ agreement,’’ that defendants did

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not owe a duty to plaintiff ‘‘distinct fromtheir obligation to perform under the col-lection agreement,’’ and that the award ofattorneys’ fees, not having been clearlyauthorized by the parties’ agreement,could not be sustained. Id. at 20–21.

DynCorp’s claims of fraud also are not‘‘collateral or extraneous to the terms ofthe parties’ agreement,’’ since the falserepresentations that they allege are therepresentations and warranties that areprovided in Section 2.3 of the PurchaseAgreement. DynCorp argues, however,that there is a distinction between a repre-sentation and warranty of a present fact,and a covenant or promise to do somethingin the future, during the pendency of acontract. DynCorp thus argues that itmay claim both fraud and breach of con-tract for misrepresentations of presentfacts, even if such representations werealso contractual warranties. Its argumentconcedes, however, that part of its claim isbased on breaches of promises concerningfuture events: the representation thatGTE Information’s Adjusted New Worthwill not be less than $41 million at closing.(Purchase Agreement, §§ 2.3(d)). Dyn-Corp’s argument is therefore confined tothe representations and warranties re-garding the fairness of the financial state-ments incorporating GTE Information’sbusiness and assets for the year endedDecember 31, 1998, the year prior to thePurchase Agreement, and the non-occur-rence since that date of undisclosed Mate-rial Adverse Circumstances. (Id.,§§ 2.3(a), (b)).

Deerfield Communications Corp. v. Che-sebrough–Ponds, Inc., 68 N.Y.2d 954, 956,510 N.Y.S.2d 88, 502 N.E.2d 1003 (1986),cited and distinguished by Bridge-stone/Firestone, involved parol representa-tions concerning geographic restrictionslimiting product resales that were not con-tained in the contract, but which were notnegatived by the contract; hence, the par-

ol representations were held ‘‘collateral orextrinsic’’ to the contract, and were thusenforceable. Similarly, in Cohen v. Koe-nig, 25 F.3d 1168, 1170, 1172 (2d Cir.1994),sellers of the assets of a business wereallowed to sue the buyers for fraudulentlymisrepresenting their financial conditionand thereby inducing the sellers to acceptpart of the purchase price in credit. TheCourt of Appeals held that since the mis-representations were made before the for-mation of the contract and were ‘‘extrane-ous to the contract,’’ the sellers had stateda legally sufficient claim of fraud.

The sellers in Chase v. Columbia Nat’lCorp., 832 F.Supp. 654, 660 (S.D.N.Y.1993), aff’d, 52 F.3d 312 (2d Cir.1995),overstated the book value of the businessbeing sold by overstating and double-counting closing inventory of scrap metaland accounts receivable in a manner thatmade their fraud extremely difficult to de-tect. The contract provided that the sell-ers guaranteed the business’ net worth,and limited damages to the reduced networth, or indemnification of the buyer’sloss. The contract also provided a shortperiod within which suit could be brought.The district court held that the buyerscould sue in tort as well as contract, andthat the contract’s short period of limita-tions would not bar the action in tort. Thecourt found that the contract did not ne-gate reliance by the buyers on the seller’spre-contractual representations, that is, onrepresentations that were collateral andextraneous to the representations providedby the contract, thus justifying the actionfor fraud. See, generally, Four FingerArt Factory, Inc. v. Dinicola, No. 99 Civ.1259, 2000 WL 145466, at *4 (S.D.N.Y.Feb.9, 2000) (discussing the ‘‘apparent ten-sion’’ between different strains of NewYork cases in applying the ‘‘collateral orextraneous’’ rule discussed in Bridge-stone/Firestone ); VTech Holdings Ltd. v.Lucent Techs., Inc., 172 F.Supp.2d 435,

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440–41 (S.D.N.Y.2001) (same); compareVaro, Inc. v. Alvis PLC, 261 A.D.2d 262,691 N.Y.S.2d 51 (1st Dep’t 1999) (oral war-ranty regarding absence of environmentalhazards on property being sold, held, not‘‘collateral’’ to contractual provisions of in-demnity; thus, contract, and not fraud,statute of limitations applied to cause dis-missal of suit), with Thomas Kernaghan &Co. v. Global Intellicom, Inc., No. 99 Civ.3005, 2000 WL 640653 (S.D.N.Y. May 17,2000) (oral representation regarding ab-sence of adverse claims and suits, held,‘‘collateral’’ to similar warranty in writtencontract).

In the case at bar, unlike other casescited by plaintiff, the Purchase Agreementmade clear that GTE would have ‘‘no lia-bility or indemnification obligation to Buy-er,’’ ‘‘[e]xcept for the representations andwarranties contained in this Agreement.’’This condition of exclusivity was soundedthroughout the Purchase Agreement, inthe sections providing DynCorp’s disclaim-ers, in the sections limiting damage recov-eries, and generally, as my citations a fewpages earlier make clear. DynCorp’sclaims of fraud concerning the breach ofcontractual warranties are not ‘‘collateralor extraneous’’ to these terms and condi-tions; rather, they contradict them. If Iwere to rule otherwise, the strong NewYork policy, giving autonomy to contract-ing parties to allocate risks, and rights,obligations, warranties and disclaimers, asthey see fit, would be compromised. SeeDanann Realty Corp. v. Harris, 5 N.Y.2d317, 320–21, 184 N.Y.S.2d 599, 157 N.E.2d597 (1959) (discussed supra ). DynCorpcannot satisfy the second criterion ofBridgestone/Firestone.

The third criterion of Bridgestone/Fire-stone involves the question whether Dyn-Corp has alleged, or can allege, ‘‘specialdamages’’ that are ‘‘unrecoverable as con-tract damages’’ as the proximate result ofGTE’s fraudulent representations. Dyn-

Corp alleges that it suffered damage be-cause (a) the value of GTE Informationwas significantly less than it should havereceived; (b) it refinanced its debt, payinga prepayment penalty of $1,834,986, andsurrendered its shares having a fair mar-ket value of $10 million in order to gainfunds with which to pay the purchase priceof $165 million; (c) it incurred transaction-al expenses related to the financing, ofapproximately $11 million; (d) it paid $2.5million for advisory services and, since theclosing, (e) it paid incremental interest inexcess of $24.5 million and higher interestcost on its new debt in the amount ofapproximately $8 million, and (f) it hasbeen bearing losses associated with theperformance of the BOPITS II contract.(Compl., ¶ 46)

Special damages, in the context of com-mercial fraud, arise in consequence of abreach and seek to compensate a plaintifffor losses other than the diminished valueof the promised performance. Bibeault v.Advanced Health Corp., No. 97 Civ. 6026,2002 WL 24305, *6 (S.D.N.Y. Jan.8, 2002)(citing New York cases). The circum-stances giving rise to such damages mustreasonably be anticipated at the time thecontract was made. Id. In Deerfield Com-munications Corp., 68 N.Y.2d 954, 510N.Y.S.2d 88, 502 N.E.2d 1003 (1986), theseller was forbidden to sell certain aerosolproducts because of federal regulations,and was interested to sell the products to acompany that represented it would sell theproducts in overseas markets other thanthose specifically proscribed. The repre-sentation did not became a covenant of thecontract, and the buyer disregarded itsrepresentation that it would not sell theproducts in the proscribed areas. TheNew York Court of Appeals held that afraud action could be maintained, rulingthat the representation was neither ‘‘collat-eral’’ nor ‘‘duplicative’’ of the contract, andthat the seller was seeking, not the dimin-

327DYNCORP v. GTE CORP.Cite as 215 F.Supp.2d 308 (S.D.N.Y. 2002)

ished value of the contract, but specialdamages arising from its need to locate,repurchase and destroy the offending mer-chandise. Id. at 956, 510 N.Y.S.2d 88, 502N.E.2d 1003. Cf. VTech Holdings Ltd. v.Lucent Tech. Inc., 172 F.Supp.2d 435, 440–41 (S.D.N.Y.2001) (damages flowing fromwilfulness of breach allowed to exceed con-tract limitations where contract provisionso allows).

The damages pleaded by DynCorp wereincurred either to enable it to acquireGTE Information, or because GTE Infor-mation did not turn out to be as profitableas DynCorp hoped. Damages such as thisdo not qualify for ‘‘special damages.’’They are not specially required expensesintended to eliminate a condition which thecontracting party had promised either toeliminate or not to bring about. Rather,DynCorp’s damages result from the dimin-ished value of the assets it contracted topurchase.

There is, additionally, another reasonwhy DynCorp’s allegation of damage is notlegally sufficient. DynCorp agreed, pursu-ant to Section 10.12 of the PurchaseAgreement:

Notwithstanding anything to the con-trary elsewhere in this Agreement, noparty (or its Affiliates) shall, in anyevent, be liable to the other party (or itsAffiliates) for any consequential, specialor punitive damages, including loss offuture revenue or income, or loss ofbusiness reputation, or opportunity re-lating to the breach or alleged breach ofthis Agreement.

DynCorp is unable to satisfy the thirdcriterion, as well as the first two criteria,of Bridgestone/Firestone, as to its claimsthat the representations and warranties inthe Purchase Agreement itself constitutedfraudulent misrepresentations. Accord-ingly, the fraud claims based on the al-leged breach of the warranties and repre-sentations in Section 2.3 of the Purchase

Agreement, like the fraud claims based onalleged pre-contractual misrepresentationsby GTE, are dismissed.

4. Liability for Fraud, Post–Con-tract and Prior to Closing

[9] DynCorp alleges that after thePurchase Agreement was executed, andbefore closing, GTE gave it monthly finan-cial reports and management discussionsand analyses of the business of GTE Infor-mation. The covenants of Sections 4.1 and4.2 of the Purchase Agreement requiredsuch information and materials to be givenas a condition of the closing. DynCorpalleges that the reports, the managementdiscussions and analyses, and, generally,the information provided by GTE duringthis period were intentionally false andmisleading, and that DynCorp relied uponthis information in proceeding to close onthe transaction. DynCorp alleges thatGTE therefore should be liable for fraudas well as for breach of the contractualcovenants. I hold that DynCorp may haveleave to state such a fraud claim in anamended complaint.

Article IV of the Purchase Agreementsets out the covenants with respect to theperiod after the Agreement was executedand prior to closing. Under Section 4.1,Contel agreed to provide DynCorp accessto GTE Information’s ‘‘properties, books,records TTT and all other information’’ withrespect to GTE Information as DynCorp‘‘may from time to time reasonably re-quest’’ after the Purchase Agreement wassigned and prior to closing. Under Sec-tion 4.2, between the date of the PurchaseAgreement and the Closing Date, Contelagreed to provide monthly unaudited bal-ance sheets and income statements forGTE Information, and written manage-ment discussions and analyses of its finan-cial condition and results of operations,consistent with past practices. DynCorp

328 215 FEDERAL SUPPLEMENT, 2d SERIES

alleges that GTE employees gave it falseand misleading information pursuant tothese access and disclosure obligations,and misrepresented the reasons for Dyn-Corp’s poorer than expected performance.

This fraud claim concerning post-con-tract representations by GTE and Conteldiffers from DynCorp’s other fraud claimsin two important respects. First, Dyn-Corp did not expressly disclaim reliance onthe post-contract information and reportsprovided by GTE. (Purchase Agreement,§ 3.8). And, second, the representationsand warranties provided by the PurchaseAgreement, even though extending in partto the closing date (Purchase Agreement,§ 7.3(a)), do not by their terms extend to,or preclude reliance on, the informationand reports provided by GTE pursuant toSections 4.1 and 4.2.

The Seller’s obligations to provide ac-cess to its books and records, and to pro-vide monthly unaudited financial reportsand management discussions and analyses,were express preconditions of closing (Pur-chase Agreement, § 7.2(b)). Clearly, Dyn-Corp relied on the fairness and accuracy ofthat which Contel and GTE provided.Furthermore, DynCorp is not limited tothe remedies provided Article IX of thePurchase Agreement for breach of theSections 4.1 and 4.2 covenants, for, unlikea breach of Section 2.3 representations andwarranties, the remedies provided by thePurchase Agreement are not ‘‘sole andexclusive.’’ (Purchase Agreement, § 9.7).

Accordingly, the Purchase Agreement it-self does not preclude DynCorp from suingGTE for making allegedly false and mis-leading representations and disclosures in-cident to closing, for these were collateraland extraneous to the express warrantiesand representations provided by the Pur-chase Agreement. See Bridgestone/Fire-stone, 98 F.3d at 20.

I therefore hold that DynCorp may haveleave to allege a claim of fraud based on

post-contract and pre-Closing events, notinconsistent with the preceding discussion.In all other respects, DynCorp’s fraudclaim—Count Two of the complaint—isdismissed.

D. Negligent Misrepresentation

[10] In addition to its fraud claimsbased on GTE’s alleged misrepresenta-tions concerning GTE Information and theBOPITS II contract, DynCorp alternative-ly pleads a claim for negligent misrepre-sentation based on the same alleged mis-representations. For the reasons statedbelow, the negligent misrepresentationcount of the complaint, Count Three, isalso dismissed.

1. No Reasonable Reliance on Pre–Contract Misrepresentations

In order to plead a claim for negligentmisrepresentation, just as for fraud, aplaintiff must adequately plead reasonablereliance upon the alleged misrepresenta-tions by the defendant. Heard v. City ofNew York, 82 N.Y.2d 66, 74, 603 N.Y.S.2d414, 623 N.E.2d 541 (1993). As I havediscussed earlier in this decision, the lan-guage in Section 3.8 of the PurchaseAgreement absolving GTE from liabilityfor essentially all of its pre-contractualrepresentations obviates any claim byDynCorp that it reasonably relied uponthose representations or information. SeeHarsco Corp. v. Segui, 91 F.3d 337, 342–43(2d Cir.1996) (contractual disclaimers pre-cluded reasonable reliance resulting in dis-missal of fraud and negligent misrepresen-tation claims); Goodman Manuf. Co. v.Raytheon Co., No. 98 Civ. 2774(LAP), 1999WL 681382, at *16 (S.D.N.Y. Aug.31, 1999)(same).

2. No ‘‘Special Relationship’’ Be-tween the Parties

While DynCorp did not disclaim relianceon the representations and warranties

329THOMAS v. CITY OF MOUNT VERNONCite as 215 F.Supp.2d 329 (S.D.N.Y. 2002)

made by Contel or GTE in the PurchaseAgreement itself or after the PurchaseAgreement was executed but before clos-ing, the lack of a ‘‘special relationship’’between it and GTE requires dismissal ofthese negligent misrepresentation claimsas well. ‘‘Under New York law, there isno cause of action for negligent misrepre-sentation absent a ‘special relationship oftrust or confidence between the parties.’ ’’St. Paul Fire & Marine Ins. Co. v. HeathFielding Ins. Broking Ltd. 976 F.Supp.198, 204 (S.D.N.Y.1996) (quoting AmericanProtein Corp. v. AB Volvo, 844 F.2d 56,63–64 (2d Cir.1988)). Such a special rela-tionship of trust generally does not existbetween sophisticated commercial entitiesentering into arms-length business trans-actions, United Safety of America, Inc. v.Consolidated Edison Co. of New York, 213A.D.2d 283, 286, 623 N.Y.S.2d 591 (1stDep’t 1995), and none is alleged here. Ac-cordingly, DynCorp’s negligent misrepre-sentation claims are dismissed.

IV. Conclusion

With respect to DynCorp’s first count,for breach of contract, GTE’s motion todismiss is granted, with leave to DynCorpto replead to show that its claim is nottime-barred. GTE’s motion to dismissDynCorp’s claim for contract damages inexcess of $24,750,000, and its claims forconsequential and punitive damages, isgranted.

With respect to DynCorp’s second count,for fraud, GTE’s motion to dismiss isgranted, with leave to DynCorp to repleadonly those fraud claims concerning postcontract, preclosing conditions and events.

With respect to DynCorp’s third count,for negligent misrepresentation, GTE’smotion to dismiss is granted.

DynCorp is given leave to serve and filean amended complaint, not inconsistentwith my rulings in this opinion, by August19, 2002. GTE’s Answer will be due Sep-

tember 18, 2002. I will meet with counselfor a Case Management Conference onSeptember 27, 2002, at 9:30 a.m., in Court-room 14D, 500 Pearl Street, to discuss allmatters relating to the pleadings, motionsand discovery, including whether to limitinitial discovery thereunder to support anygood faith intention to serve and file anydispositive motion directed to the amendedpleadings. Either party desiring such lim-itation shall arrange for service and filingof supporting and opposition submissions,in a single submission jointly prepared toshow supporting and opposing positions,three days in advance of said date.

SO ORDERED.

,

Joy THOMAS, Plaintiff,

v.

CITY OF MOUNT VERNON,et al., Defendants.

No. 01 Civ. 8644(CM)(LMS).

United States District Court,S.D. New York.

July 18, 2002.

Domestic violence victim filed § 1983action alleging that county officials andcommunity college employees failed totake adequate measures to protect herfrom former boyfriend. On defendants’ mo-tion to dismiss, the District Court, McMa-hon, J., held that: (1) officials and employ-ees did not have constitutional duty toprotect victim; (2) district attorney’s fail-ure to timely process paperwork after shefiled domestic violence complaint did not

Effective:[See Text Amendments]

Code of Federal Regulations CurrentnessTitle 17. Commodity and Securities Exchanges

Chapter II. Securities and ExchangeCommission

Part 240. General Rules and Regulations,Securities Exchange Act of 1934 (Refs &Annos)

Subpart A. Rules and RegulationsUnder the Securities Exchange Act of 1934

Manipulative and Deceptive Devicesand Contrivances

§ 240.10b5–1 Trading “on thebasis of” material nonpublicinformation in insider trading cases.

Preliminary Note to § 240.10b5–1: Thisprovision defines when a purchase or saleconstitutes trading “on the basis of” materialnonpublic information in insider trading casesbrought under Section 10(b) of the Act and Rule10b–5 thereunder. The law of insider trading isotherwise defined by judicial opinions construingRule 10b–5, and Rule 10b5–1 does not modify thescope of insider trading law in any other respect.

(a) General. The “manipulative and deceptivedevices” prohibited by Section 10(b) of the Act (15U.S.C. 78j) and § 240.10b–5 thereunder include,among other things, the purchase or sale of asecurity of any issuer, on the basis of materialnonpublic information about that security or issuer,in breach of a duty of trust or confidence that isowed directly, indirectly, or derivatively, to theissuer of that security or the shareholders of thatissuer, or to any other person who is the source ofthe material nonpublic information.

(b) Definition of “on the basis of.” Subject to the

affirmative defenses in paragraph (c) of thissection, a purchase or sale of a security of an issueris “on the basis of” material nonpublic informationabout that security or issuer if the person makingthe purchase or sale was aware of the materialnonpublic information when the person made thepurchase or sale.

(c) Affirmative defenses.

(1)(i) Subject to paragraph (c)(1)(ii) of thissection, a person's purchase or sale is not “onthe basis of” material nonpublic information ifthe person making the purchase or saledemonstrates that:

(A) Before becoming aware of theinformation, the person had:

(1) Entered into a binding contract topurchase or sell the security,

(2) Instructed another person topurchase or sell the security for theinstructing person's account, or

(3) Adopted a written plan for tradingsecurities;

(B) The contract, instruction, or plandescribed in paragraph (c)(1)(i)(A) of thisSection:

(1) Specified the amount of securitiesto be purchased or sold and the priceat which and the date on which thesecurities were to be purchased orsold;

17 C.F.R. § 240.10b5–1 Page 1

© 2014 Thomson Reuters. No Claim to Orig. US Gov. Works.

(2) Included a written formula oralgorithm, or computer program, fordetermining the amount of securitiesto be purchased or sold and the priceat which and the date on which thesecurities were to be purchased orsold; or

(3) Did not permit the person toexercise any subsequent influence overhow, when, or whether to effectpurchases or sales; provided, inaddition, that any other person who,pursuant to the contract, instruction, orplan, did exercise such influence mustnot have been aware of the materialnonpublic information when doing so;and

(C) The purchase or sale that occurred waspursuant to the contract, instruction, orplan. A purchase or sale is not “pursuant toa contract, instruction, or plan” if, amongother things, the person who entered intothe contract, instruction, or plan altered ordeviated from the contract, instruction, orplan to purchase or sell securities (whetherby changing the amount, price, or timingof the purchase or sale), or entered into oraltered a corresponding or hedgingtransaction or position with respect tothose securities.

(ii) Paragraph (c)(1)(i) of this section isapplicable only when the contract, instruction,or plan to purchase or sell securities was givenor entered into in good faith and not as part of aplan or scheme to evade the prohibitions of thissection.

(iii) This paragraph (c)(1)(iii) defines certainterms as used in paragraph (c) of this Section.

(A) Amount. “Amount” means either aspecified number of shares or othersecurities or a specified dollar value ofsecurities.

(B) Price. “Price” means the market priceon a particular date or a limit price, or aparticular dollar price.

(C) Date. “Date” means, in the case of amarket order, the specific day of the yearon which the order is to be executed (or assoon thereafter as is practicable underordinary principles of best execution).“Date” means, in the case of a limit order,a day of the year on which the limit orderis in force.

(2) A person other than a natural person alsomay demonstrate that a purchase or sale ofsecurities is not “on the basis of” materialnonpublic information if the persondemonstrates that:

(i) The individual making the investmentdecision on behalf of the person to purchase orsell the securities was not aware of theinformation; and

(ii) The person had implemented reasonablepolicies and procedures, taking intoconsideration the nature of the person'sbusiness, to ensure that individuals makinginvestment decisions would not violate thelaws prohibiting trading on the basis ofmaterial nonpublic information. These policiesand procedures may include those that restrictany purchase, sale, and causing any purchase orsale of any security as to which the person hasmaterial nonpublic information, or those thatprevent such individuals from becoming awareof such information.

17 C.F.R. § 240.10b5–1 Page 2

© 2014 Thomson Reuters. No Claim to Orig. US Gov. Works.

Effective: July 22, 2010

United States Code Annotated CurrentnessTitle 15. Commerce and Trade

Chapter 2B. Securities Exchanges (Refs & Annos)§ 78cc. Validity of contracts

(a) Waiver provisions

Any condition, stipulation, or provision binding any person to waive compliance with any provision of thischapter or of any rule or regulation thereunder, or of any rule of a self-regulatory organization, shall be void.

(b) Contract provisions in violation of chapter

Every contract made in violation of any provision of this chapter or of any rule or regulation thereunder, andevery contract (including any contract for listing a security on an exchange) heretofore or hereafter made, theperformance of which involves the violation of, or the continuance of any relationship or practice in violation of,any provision of this chapter or any rule or regulation thereunder, shall be void (1) as regards the rights of anyperson who, in violation of any such provision, rule, or regulation, shall have made or engaged in theperformance of any such contract, and (2) as regards the rights of any person who, not being a party to suchcontract, shall have acquired any right thereunder with actual knowledge of the facts by reason of which themaking or performance of such contract was in violation of any such provision, rule, or regulation: Provided,(A) That no contract shall be void by reason of this subsection because of any violation of any rule or regulationprescribed pursuant to paragraph (3) of subsection (c) of section 78o of this title, and (B) that no contract shallbe deemed to be void by reason of this subsection in any action maintained in reliance upon this subsection, byany person to or for whom any broker or dealer sells, or from or for whom any broker or dealer purchases, asecurity in violation of any rule or regulation prescribed pursuant to paragraph (1) or (2) of subsection (c) ofsection 78o of this title, unless such action is brought within one year after the discovery that such sale orpurchase involves such violation and within three years after such violation. The Commission may, in a rule orregulation prescribed pursuant to such paragraph (2) of such section 78o(c) of this title, designate such rule orregulation, or portion thereof, as a rule or regulation, or portion thereof, a contract in violation of which shall notbe void by reason of this subsection.

(c) Validity of loans, extensions of credit, and creation of liens; actual knowledge of violation

Nothing in this chapter shall be construed (1) to affect the validity of any loan or extension of credit (or anyextension or renewal thereof) made or of any lien created prior or subsequent to the enactment of this chapter,unless at the time of the making of such loan or extension of credit (or extension or renewal thereof) or the

15 U.S.C.A. § 78cc Page 1

© 2014 Thomson Reuters. No Claim to Orig. US Gov. Works.

creating of such lien, the person making such loan or extension of credit (or extension or renewal thereof) oracquiring such lien shall have actual knowledge of facts by reason of which the making of such loan orextension of credit (or extension or renewal thereof) or the acquisition of such lien is a violation of theprovisions of this chapter or any rule or regulation thereunder, or (2) to afford a defense to the collection of anydebt or obligation or the enforcement of any lien by any person who shall have acquired such debt, obligation, orlien in good faith for value and without actual knowledge of the violation of any provision of this chapter or anyrule or regulation thereunder affecting the legality of such debt, obligation, or lien.

CREDIT(S)

(June 6, 1934, c. 404, Title I, § 29, 48 Stat. 903; June 25, 1938, c. 677, § 3, 52 Stat. 1076; Oct. 15, 1990, Pub.L.101-429, Title V, § 507, 104 Stat. 956; July 21, 2010, Pub.L. 111-203, Title IX, §§ 927, 929T, 124 Stat. 1852,1867.)

HISTORICAL AND STATUTORY NOTES

Revision Notes and Legislative Reports

1990 Acts. House Report Nos. 101-616 and 101-617, see 1990 U.S. Code Cong. and Adm. News, p. 1379.

References in Text

This chapter, referred to in text, in the original read “this title”. See References in Text note under § 78a of thistitle.

Amendments

2010 Amendments. Subsec. (a). Pub.L. 111-203, §§ 927, 929T, struck out “an exchange required thereby” andinserted “a self-regulatory organization,”.

1990 Amendments. Subsec. (b). Pub.L. 101-429 substituted in cl. (A) “paragraph (3)” for “paragraph (2) of (3)”and in cl. (B) “paragraph (1) of (2)” for “paragraph (1)” and inserted provision that the Commission may, in arule or regulation prescribed pursuant to such paragraph (2) of such section 78o(c) of this title, designate suchrule or regulation, or portion thereof, as a rule or regulation, or portion thereof, a contract in violation of whichshall not be void by reason of this subsection.

1938 Amendments. Subsec. (b). Act June 25, 1938 added the proviso clause.

Effective and Applicability Provisions

15 U.S.C.A. § 78cc Page 2

© 2014 Thomson Reuters. No Claim to Orig. US Gov. Works.

174 325 FEDERAL REPORTER, 3d SERIES

IV.

CONCLUSION

For the reasons discussed above, we willvacate the order of the District Courttransferring Olabode’s § 2255 motion tothis court for authorization to file it pursu-ant to § 2244 and remand for further pro-ceedings.

,

AES CORP., Appellant

v.

THE DOW CHEMICAL COMPANY;Dynegy Power Corporation f/k/a

Destec Energy Inc.

No. 01–3373.

United States Court of Appeals,Third Circuit.

Argued May 23, 2002.

Filed April 14, 2003.

Buyer of corporation brought securi-ties fraud action against majority share-holder of parent of acquired corporation,alleging misrepresentations concerningvalue of acquired corporation, and assert-ing various state-law claims. The UnitedStates District Court for the District ofDelaware, 157 F.Supp.2d 346, Joseph J.Farnan, J., granted majority shareholder’ssummary judgment motion, and buyer ap-pealed. The Court of Appeals, Stapleton,Circuit Judge, held that: (1) federal lawgoverned issue of whether buyer had anti-

cipatorily waived federal securities fraudclaims, and (2) non-reliance clauses in con-fidentiality and asset purchase agreementscould not be enforced so as to bar as amatter of law buyer’s securities fraudclaims.

Reversed and remanded.

Wallace, Senior Circuit Judge, filedconcurring and dissenting opinion.

1. Securities Regulation O60.18

To state a valid claim under Rule 10b-5, plaintiff must show that defendant: (1)made misstatement or omission of materialfact; (2) with scienter; (3) in connectionwith purchase or sale of security; (4) uponwhich plaintiff reasonably relied; and (5)that plaintiff’s reliance was proximatecause of his or her injury. Securities Ex-change Act of 1934, § 10(b), 15 U.S.C.A.§ 78j(b); 17 C.F.R. §240.10b–5.

2. Securities Regulation O60.48(1)

‘‘Reasonable reliance’’ element of Rule10b-5 claim requires showing of causalnexus between misrepresentation andplaintiff’s injury, as well as demonstrationthat plaintiff exercised diligence that rea-sonable person under the circumstanceswould have exercised to protect his owninterests. Securities Exchange Act of1934, § 10(b), 15 U.S.C.A. § 78j(b); 17C.F.R. §240.10b–5.

3. Securities Regulation O60.48(1)

Factors in determination of whethersecurities fraud plaintiff’s reliance on al-leged misrepresentations was reasonableinclude: (1) whether fiduciary relationshipexisted between parties; (2) whether plain-tiff had opportunity to detect fraud; (3)sophistication of plaintiff; (4) existence of

was, at most, dictum. Barnes, 324 F.3d 135,2003 WL 1467580, at *2. The issue we raisedin that case was our jurisdiction. We do not

regard the court’s passing statement as bind-ing precedent in a case where the issue is notsquarely raised.

175AES CORP. v. DOW CHEMICAL CO.Cite as 325 F.3d 174 (3rd Cir. 2003)

long standing business or personal rela-tionships; and (5) plaintiff’s access to rele-vant information. Securities ExchangeAct of 1934, § 10(b), 15 U.S.C.A. § 78j(b);17 C.F.R. §240.10b–5.

4. Securities Regulation O60.48(1)What constitutes reasonable reliance

in context of Rule 10b-5 claim is governedby federal law, although terms of anyagreement between parties may be amongcircumstances relevant to reliance and ma-terial dispute about what parties agreed tomay be resolved by state contract law.Securities Exchange Act of 1934, § 10(b),15 U.S.C.A. § 78j(b); 17 C.F.R. §240.10b–5.

5. Securities Regulation O60.49Federal rather than state law gov-

erned issues of whether buyer of corpora-tion had anticipatorily waived federal secu-rities fraud claim against seller andwhether purported anticipatory waiverwas enforceable. Securities Exchange Actof 1934, § 10(b), 15 U.S.C.A. § 78j(b); 17C.F.R. §240.10b–5.

6. Securities Regulation O60.48(1),60.49

Under Securities Exchange Act provi-sion prohibiting waiver of substantive obli-gations imposed by Act, non-reliance claus-es in confidentiality and asset purchaseagreements between buyer of corporationand seller, whereby seller disclaimed anyrepresentations not contained in definitiveagreements, could not be enforced so as tobar as a matter of law buyer’s Rule 10b-5securities fraud claims against seller aris-ing from alleged misrepresentations con-cerning value of acquired corporation;rather, clauses were among circumstancesto be considered in determining reason-

ableness of any reliance upon alleged mis-representations. Securities Exchange Actof 1934, § 10(b), 15 U.S.C.A. § 78j(b); 17C.F.R. §240.10b–5.

Dennis E. Glazer, James W.B. Benkard(Argued), Frances E. Bivens, Davis, Polk& Wardwell, New York, and Michael D.Goldman, Stephen C. Norman, Potter,Anderson & Corroon, Wilmington, for Ap-pellant.

Herbert L. Zarov, Michele L. Odorizzi(Argued), Daniel J. Delaney, Mayer,Brown, Rowe & Maw, Chicago, and DavidC. McBride, John W. Shaw, Young, Cona-way, Stargatt & Taylor, Wilmington, forAppellee.

Before McKEE, STAPLETON andWALLACE,* Circuit Judges.

CLIFFORD, Senior Circuit Judge,concurring and dissenting.

OPINION OF THE COURT

STAPLETON, Circuit Judge.

I. Introduction

The AES Corporation (‘‘AES’’) operatespower facilities. AES alleges that DowChemical Company (‘‘Dow’’) and its sub-sidiary, Destec Energy, Inc. (‘‘Destec’’),1

violated Sections 10(b) and 20(a) of the Se-curities Exchange Act of 1934 (the ‘‘Ex-change Act’’) in connection with a transac-tion in which AES purchased the stock ofone of Destec’s subsidiaries, Destec Engi-neering, Inc. (‘‘DEI’’). DEI’s sole assetwas a contract to design and construct apower plant in The Netherlands (the ‘‘Els-

* Honorable J. Clifford Wallace, United StatesCircuit Judge for the Ninth Circuit, sitting bydesignation.

1. Destec has since changed its name to Dyne-gy Power Corporation.

176 325 FEDERAL REPORTER, 3d SERIES

ta Plant’’). According to AES, Dow andDestec conspired to sell DEI at an artifi-cially inflated price by making misrepre-sentations material to an evaluation ofDEI.

During the pendency of this case in theDistrict Court, AES and Destec enteredinto a settlement agreement. Thus, onlythe claims against Dow remain. There hasbeen no discovery. Dow moved for sum-mary judgment, relying solely on docu-ments relating to the transactions in whichAES acquired DEI’s stock. In response,AES filed a Rule 56(f) affidavit requestingdiscovery in identified areas. The DistrictCourt nevertheless granted Dow’s sum-mary judgment motion. The DistrictCourt held that certain clauses in thetransaction documents rendered AES’s re-liance on the alleged misrepresentationsunreasonable as a matter of law.

II. Background

Dow formed Destec to build and runpower plants that would supply power toDow Chemical facilities and third-partyusers. In 1996, after determining that itcould not profitably run Destec as its sub-sidiary, Dow retained Morgan Stanley toperform a valuation of Destec in order toinitiate a public sale.

Morgan Stanley issued a ConfidentialOffering Memorandum on behalf of Des-tec. As a precondition to receiving theOffering Memorandum, AES signed aConfidentiality Agreement that provided inpart:

We [AES] acknowledge that neither you[Destec], nor Morgan Stanley [Destec’sInvestment Banker] or its affiliates, noryour other Representatives, nor any ofyour or their respective officers, di-rectors, employees, agents or controllingpersons within the meaning of section 20of the Securities Exchange Act of 1934,as amended, make any express or im-

plied representation or warranty as tothe accuracy or completeness of the In-formation, and we agree that no suchperson will have any liability relating tothe Information or for any errors there-in or omissions therefrom. We furtheragree that we are not entitled to rely onthe accuracy or completeness of the In-formation and that we will be entitled torely solely on any representations andwarranties as may be made to us in anydefinitive agreement with respect to theTransaction, subject to such limitationsand restrictions as may be containedtherein.

App. at 197, ¶ 5. Dow was not a party tothe Confidentiality Agreement but is al-leged to have been a ‘‘controlling person’’of Destec within the meaning of § 20(a) ofthe Exchange Act.

The Offering Memorandum includedprojections and estimates about the futureperformance of Destec’s businesses, in-cluding DEI and the Elsta Plant. Likethe Confidentiality Agreement, the Offer-ing Memorandum warned readers thatthey were not to rely on the accuracy orcompleteness of information containedtherein. It further stated:

[o]nly those particular representationsand warranties which may be made to apurchaser in a definitive agreement,when, as, and if executed, and subject tosuch limitations and restrictions as maybe specified in such definitive agree-ment, shall have any legal effect.

App. at 7 (alteration in original).

Dow and Destec provided informationabout Destec to potential bidders in sever-al other ways. First, Destec officers gavea presentation to potential bidders, whichAES representatives attended. Dow andDestec also sent certain documents to po-tential bidders and made others availablein a room at a Destec facility in Houston,

177AES CORP. v. DOW CHEMICAL CO.Cite as 325 F.3d 174 (3rd Cir. 2003)

Texas. Further, Dow and Destec gavepotential bidders a computer model to val-ue the Destec assets. This model includedassumptions about the expenses and reve-nues of the Elsta Plant. Lastly, Dow andDestec allowed AES, as part of its duediligence, to visit the Elsta Plant.

AES contacted Dow about the possibili-ty of purchasing the international assets ofDestec. Dow responded that it would pre-fer to sell all of Destec, rather than dis-pose of it piecemeal. As a result, AESapproached NGC Corporation (‘‘NGC’’) topropose submitting a joint bid for all ofDestec, and a joint bid was subsequentlymade.

The AES/NGC joint bid was accepted byDow. The transaction took place in twosteps. First, NGC acquired all of thestock of Destec pursuant to an Agreementand Plan of Merger (the ‘‘Merger Agree-ment’’) entered into by Dow, Destec, andNGC. Second, AES purchased all of theinternational assets of Destec, including allof DEI’s outstanding stock, pursuant to anAsset Purchase Agreement between AESand NGC.

Section 4.6 of the Merger Agreement,to which AES was not a party, provided asfollows:

Except for the representations and war-ranties contained in this Article IV, nei-ther Dow nor any other person makesany other express or implied representa-tion or warranty on behalf of Dow.

App. at 235. Article IV of the MergerAgreement contained two pages of repre-sentations and warranties of Dow. It war-ranted that it was duly organized as acorporation; that it was authorized to en-ter the agreement; that the execution andconsummation of the agreement would notviolate the terms of any court order orDow contract; that no government approv-al was necessary; and that no broker wasentitled to a fee in connection with the

transaction. Article IV contained no rep-resentation or warranty with respect tothe Elsta Plant.

Similarly, Section 3.4 of the Asset Pur-chase Agreement, signed by NGC andAES, states that ‘‘except for the represen-tations and warranties contained in thisArticle III, neither NGC nor any otherperson (as defined in the Merger Agree-ment) makes any other express or impliedrepresentation or warranty on behalf ofNGC.’’ App. at 280–81, Section 3.4. TheMerger Agreement defines ‘‘Person’’ to‘‘mean an individual, partnership, jointventure, trust, corporation, limited liabilitycompany or other legal entity or Govern-mental Entity.’’ App. at 216. Article IIIof the Asset Purchase Agreement containslimited representations and warranties byNGC very similar to those made by Dowin the Merger Agreement.

The Merger Agreement provided that‘‘[t]his Agreement and the ConfidentialityAgreement, and certain other agreementsexecuted by the parties hereto as of thedate of this Agreement, constitute the en-tire agreement, and supersedes (sic) allprior agreements and understandings(written and oral), among the parties withrespect to the subject matter hereof.’’App. at 265, Section 9.9.

According to AES, shortly after pur-chasing DEI and Destec’s other interna-tional assets, it realized that the ElstaPlant would cost far more to complete thanits due diligence investigation had indicat-ed and would open for operation muchlater than Dow and Destec had represent-ed it would. Instead of providing the pre-dicted $31 million in profit, the projectultimately occasioned a $70 million loss.AES contends that Dow knew specificfacts about the Elsta Plant that contradict-ed the representations it had made prior toand during due diligence. Its complaint

178 325 FEDERAL REPORTER, 3d SERIES

alleges fourteen affirmative misrepresenta-tions and eight material omissions uponwhich it relied. Some involved profit andcost projections, but others involved cur-rently existing facts. Further, AES con-tends that, as part of the scheme to de-fraud, Dow concealed the true state of theElsta Plant and frustrated its due dili-gence efforts by causing Destec and itsemployees to provide false and misleadinginformation to AES.

The District Court’s opinion refers to allof the above quoted provisions of thetransaction documentation and ‘‘concludesthat the ‘no representation/non-reliance’clauses in the agreements between Dowand AES are enforceable.’’ App. at 15.The reference to ‘‘agreements betweenDow and AES’’ is not clear to us, but weassume for present purposes that AES’scommitment in the Confidentiality Agree-ment was made for the benefit of Dow and,if enforceable, is enforceable by it. In thatdocument, AES ‘‘acknowledge[d]’’ that no‘‘express or implied representations orwarranty as to the accuracy or complete-ness of the Information’’ had been madeand agreed (1) that Destec and Dow wouldnot have ‘‘any liability relating to the In-formation’’ and (2) that AES would beentitled to rely solely on the representa-tions and warranties it would be able tosecure in ‘‘any definitive agreement.’’App. at 197, ¶ 5. In order to avoid furtherrepetition of this acknowledgment andagreement, we will refer to them hereafteras the ‘‘non-reliance’’ clause.

III. Analysis

A. The Federal Law

[1] Section 10(b) of the Exchange Actprohibits the ‘‘use or employ, in connectionwith the purchase or sale of any security[,]TTT [of] any manipulative or deceptive de-vice or contrivance in contravention ofsuch rules and regulations as the Commis-

sion may prescribe.’’ 15 U.S.C. § 78j(b).Rule 10b–5, which was promulgated to im-plement Section 10(b), makes it unlawfulfor anyone engaged in the purchase or saleof a security to:

(a) To employ any device, scheme, orartifice to defraud,

(b) To make any untrue statement of amaterial fact or to omit to state a mate-rial fact necessary in order to make thestatements made, in the light of thecircumstances under which the weremade, not misleading, or

(c) To engage in any act, practice, orcourse of business which operates orwould operate as a fraud or deceit uponany person[.]

17 C.F.R. § 240.10b–5. ‘‘To state a validclaim under Rule 10b–5, a plaintiff mustshow that the defendant ‘made a misstate-ment or an omission of a material fact (2)with scienter (3) in connection with thepurchase or the sale of a security (4) uponwhich the plaintiff reasonably relied and(5) that the plaintiff’s reliance was theproximate cause of his or her injury.’ ’’Semerenko v. Cendant Corp., 223 F.3d 165,174 (3d Cir.2000).

[2, 3] The ‘‘reasonable reliance’’ ele-ment of a Rule 10b–5 claim requires ashowing of a causal nexus between themisrepresentation and the plaintiff’s inju-ry, as well as a demonstration that theplaintiff exercised the diligence that a rea-sonable person under all of the circum-stances would have exercised to protect hisown interests. Straub v. Vaisman andCo., Inc., 540 F.2d 591, 597–98 (3d Cir.1976). In Straub, we identified a non-exclusive set of factors to aid in determin-ing whether a party’s reliance was reason-able under all of the circumstances. Wenoted that courts may consider (1) whethera fiduciary relationship existed betweenthe parties; (2) whether the plaintiff had

179AES CORP. v. DOW CHEMICAL CO.Cite as 325 F.3d 174 (3rd Cir. 2003)

the opportunity to detect the fraud; (3) thesophistication of the plaintiff; (4) the exis-tence of long standing business or personalrelationships; and (5) the plaintiff’s accessto the relevant information. See id. at 598.

The District Court held that as a resultof AES’s contractual commitment not torely on any representations other thanthose incorporated in the final agreements,its alleged reliance was unreasonable as amatter of law. AES insists that this hold-ing is incorrect in light of Section 29(a) ofthe Exchange Act, 15 U.S.C. § 78cc(a).Section 29(a) provides: ‘‘Any condition,stipulation, or provision binding any per-son to waive compliance with any provisionof this title or of any rule or regulationthereunder, or of any rule of an exchangerequired thereby shall be void.’’ 15 U.S.C.§ 78cc(a). That is, by its terms, Section29(a) ‘‘prohibits waiver of the substantiveobligations imposed by the Exchange Act.’’Shearson/American Express, Inc. v.McMahon, 482 U.S. 220, 228, 107 S.Ct.2332, 96 L.Ed.2d 185 (1987). The underly-ing concern of this section is ‘‘whether the[challenged] agreement weakens [the] abil-ity to recover under the Exchange Act.’’Id. at 230, 107 S.Ct. 2332 (quotation omit-ted).

B. The Applicable Law

[4] AES emphasizes that the Mergerand Asset Purchase agreements stipulatedthat Delaware law would govern their in-terpretation and insists that we must lookto that law to determine the effect to begiven the non-reliance clause. While wewill not rule out the possibility that statelaw may play a role in some situationsinvolving a Rule 10b–5 claim, we concludethat it has no role here. Reasonable reli-

ance is an element of a federal law claimand what constitutes such reliance is amatter of federal law. Federal law callsfor the determination of reasonableness tobe made on a case-by-case basis based onall of the surrounding circumstances. Theterms of any agreement between the par-ties may be among these relevant circum-stances and, if there is a material disputeabout what the parties agreed to, relianceon state contract law may be appropriateto resolve that dispute.

[5] The Delaware cases relied upon byAES, however, do not involve rules of con-tract interpretation. Primary reliance, forexample, is placed upon Norton v. Poplos,443 A.2d 1 (Del.1982), which involved acontract to sell commercial real estate inwhich the parties had represented thatthey ‘‘do not rely on any written or oralrepresentations not expressly written inthe contract.’’ Id. at 6. The DelawareSupreme Court held that Delaware lawwill not enforce such a clause to bar acommon law rescission claim based onfraudulent, or ‘‘innocent but material[,]misrepresentation by a seller.’’ Id. AESand Dow dispute whether this is an across-the-board rule of Delaware law or whetherits application is limited to non-negotiatedcontracts between unsophisticated parties.2

We need not resolve that issue; the issuesof what constitutes an anticipatory waiverof a federal securities claim and whether apurported anticipatory waiver of such aclaim is enforceable are matters of federallaw. See Newton v. Rumery, 480 U.S. 386,107 S.Ct. 1187, 94 L.Ed.2d 405 (1987) (‘‘theagreement purported to waive a right tosue conferred by a federal statute. Thequestion whether the policies underlyingthat statute may in same circumstance

2. Compare, e.g., Progressive InternationalCorp. v. E.I. duPont deNemours & Co., 2002WL 1558382, 2002 Del. Ch. LEXIS 91 (Del.Ch., July 9, 2002), and Great Lakes Chem.

Corp. v. Pharmacia Corp., 788 A.2d 544 (Del.Ch.2001), with S.C. Johnson & Son, Inc. v.Dowbrands, Inc., 167 F.Supp.2d 657, 674(D.Del.2001).

180 325 FEDERAL REPORTER, 3d SERIES

render that waiver unenforceable is aquestion of federal law.’’).

C. The Role of the Non–Reliance Clause

[6] This brings us back to Section 29(a)of the Exchange Act which forecloses anti-cipatory waivers of compliance with theduties imposed by Rule 10b–5. We believethe conclusion inescapable that enforce-ment of the non-reliance clauses to barAES’s fraud claims as a matter of lawwould be inconsistent with Section 29(a).

As we have noted, reliance is an essen-tial element of a Rule 10b–5 claim. Itnecessarily follows that, if a party commitsitself never to claim that it relied on repre-sentations of the other party to its con-tract, it purports anticipatorily to waiveany future claim based on the fraudulentmisrepresentations of that party. Thesame is true if the commitment is morelimited, e.g., a promise not to claim reli-ance on any representation not set forth inthe agreement. The scope of the anticipa-tory waiver is more limited, but it is never-theless an anticipatory waiver of potentialfuture claims under Rule 10b–5.

We, thus, find ourselves in agreementwith the conclusion of the Court of Appealsfor the First Circuit in Rogen v. Ilikon,361 F.2d 260 (1st Cir.1966). There, astockholder and former officer and di-rector of the defendant company broughtsuit alleging that during negotiations forthe sale of his stock after his separationfrom the company, officers and directors ofthe defendant corporation failed to disclosematerial information about the possibilityof new prospects for the company. In theagreement to sell his stock, plaintiff repre-sented that he was familiar with the busi-ness of the company and that he was notrelying on any representations of the pur-chaser or its agents. In addressing thepropriety of this type of contractual provi-

sion under the Exchange Act, the Courtconcluded:

This [type of contract clause] is not, inits terms, a ‘‘condition, stipulation, orprovision binding TTT [plaintiff] to waivecompliance’’ with the Securities Act of1934 as set forth in Section 29(a) of theAct, (15 U.S.C. § 78cc(a)). But, on anal-ysis, we see no fundamental differencebetween saying, for example, ‘‘I waiveany rights I might have because of yourrepresentations or obligations to makefull disclosure’’ and ‘‘I am not relying onyour representations or obligations tomake full disclosure.’’ Were we to holdthat the existence of this provision con-stituted the basis (or a substantial partof the basis) for finding non-reliance as amatter of law, we would have gone fartoward eviscerating Section 29(a).

361 F.2d at 268 (alterations in original).

As the Rogen court noted, this is not tosay that a plaintiff’s declaration in a con-tract of an intent not to rely may not beevidence that he or she did not rely onrepresentations of the defendants. Thatdeclaration, alone or in conjunction withother evidence of non-reliance, may estab-lish an absence of reliance and, when unre-butted, may even provide a basis for sum-mary judgment in the defendant’s favor.Thus, in this case, the non-reliance clausesare some evidence of an absence of reli-ance. However, the District Court did notfind that the evidence of non-reliance wasunrebutted. Indeed, Dow does not con-tend that the information provided by itand its associates played no material rolein AES’s decision to enter the agreement.

Dow does contend, and we understandthe District Court to have held, that thenon-reliance clauses establish as a matterof law that any reliance of AES was unrea-sonable reliance. We find the same ten-sion between Section 29(a) and this argu-ment, however, as we have found between

181AES CORP. v. DOW CHEMICAL CO.Cite as 325 F.3d 174 (3rd Cir. 2003)

Section 29(a) and the argument that thenon-reliance clauses foreclose an assertionby AES that it relied. If all of the evi-dence bearing on the reasonableness ofAES’s reliance does not entitle Dow tosummary judgment under traditional sum-mary judgment principles, it would offendSection 29(a) to bar its claim based solelyon a contractual commitment not to claimreliance.

IV. The Issue for Decision on Remand

This leaves for resolution the issue ofwhether, viewing all of the relevant cir-cumstances and applying the reasonablereliance standard set forth in Straub, areasonable trier of fact could only concludethat AES failed to exercise ordinary carein protecting its own interest. We declineto address that issue, however, because weconclude that it is premature to do so.

Dow did not argue to the District Courtthat it was entitled to summary judgmentbecause an application of the principles ofStraub to all of the relevant circumstancesof this case could lead only to one conclu-sion. It candidly acknowledged that therecord was undeveloped with respect toAES’s investigation and its failure to dis-cover the facts it learned after settlement.It insisted, however, that the record hadestablished the only fact necessary to re-quire summary judgment in its favor – theexistence of the non-reliance clause. Stat-ed otherwise, Dow’s argument is that it isimpossible for a buyer to show reasonablereliance in any case where there is a non-reliance clause. Faced with this argu-ment, AES understandably did not file af-fidavits or verify its complaint, although itdid file a Rule 56(a) affidavit pointing outthe need for discovery.

The non-reliance clauses are, of course,among the circumstances to be consideredin determining the reasonableness of anyreliance here. Importantly, they reflect

the fact that the seller was unwilling tovouch for the accuracy of the informationit was providing and the fact that thebuyer was willing to undertake to verifythe accuracy of that data for itself. Clear-ly, in such circumstances, a buyer whorelies on seller-provided information with-out seeking to verify it has not acted rea-sonably. Clearly, a buyer in a non-reli-ance clause case will have to show more tojustify its reliance than would a buyer inthe absence of such a contractual provi-sion. For this reason, cases involving anon-reliance clause in a negotiated con-tract between sophisticated parties will of-ten be appropriate candidates for resolu-tion at the summary judgment stage. Weare unwilling, however, to hold that theextraction of a non-reliance clause, evenfrom a sophisticated buyer, will alwaysprovide immunity from Rule 10b–5 fraudliability.

AES’s complaint alleges that Dow andits subsidiaries were in exclusive control ofthe information necessary to accuratelyevaluate the Elsta Plant. It further alleg-es that, as a part of its fraudulent schemeto sell DEI to someone at a price far aboveits worth, Dow controlled release of therelevant information to AES both initiallyas well as during the period that it wasconducting its investigation to determinethe accuracy of the information initiallydisclosed. Much of that information in-volved projections and other ‘‘soft’’ datathat a seller dealing in good faith wouldunderstandably be unwilling to guarantee.According to AES, it conducted a diligentinvestigation that was reasonably calculat-ed to determine the reliability of Dow’srepresentations but revealed no reason tosuspect that Dow was intentionally mis-leading it. Dow allegedly saw to it that allinformation received by AES would reas-sure it of the reliability of the earlier sup-plied data; Dow allegedly also prevented

182 325 FEDERAL REPORTER, 3d SERIES

AES from securing the data in Dow’s andDestec’s files that would have disclosed thefraud.

In its Rule 56(e) affidavit, AES seeksdiscovery of information in the exclusivepossession of Dow to support AES’s claimthat Dow and Destec intentionally con-cealed their fraudulent conduct, restrictedits access to truthful information, and ac-celerated the transaction to prevent AESfrom discovering the true status of theconstruction at the Elsta Plant.

With this as background, AES points toour observation in Straub:

[A] sophisticated investor is not barred[from] reliance upon the honesty ofthose with whom he deals in the absenceof knowledge that the trust is misplaced.Integrity is still the mainstay of com-merce and makes it possible for an al-most limitless number of transactions totake place without resort to the courts.

Straub, 540 F.2d at 598 (citations omitted).AES argues that a reasonable investor, inits position, trusting in the integrity of theseller, would have understood the seller’sunwillingness to guarantee the truth of thesupplied data as something other than awarning that it was unreliable 3 and wouldhave been willing to rely upon an unimped-ed investigation of its own.

While AES may have an uphill battlehere and summary judgment for the de-fendants may be appropriate at somepoint, we decline to give controlling signifi-cance to the existence of a non-reliance

clause in a vacuum. We fully appreciatethat the avoidance of costly discovery isone of the objectives of negotiating suchclauses. Nevertheless, to hold that a buy-er is barred from relief under Rule 10b–5solely by virtue of his contractual commit-ment not to rely would be fundamentallyinconsistent with Section 29(a). Given thislegislative directive, parties in Dow’s posi-tion will have to rely upon discovery man-agement and the summary judgment pro-cess to ameliorate the discovery burden.

In reaching this conclusion, we have notbeen unmindful of the decision of theCourt of Appeals for the Second Circuit inHarsco Corp. v. Segui, 91 F.3d 337 (2dCir.1996). The court there affirmed thedismissal of a Rule 10b–5 security fraudclaim based on a stipulation in the stockpurchase agreement that the sellers were‘‘not [to] be deemed to have made TTT anyrepresentation or warranty other than asexpressly made by’’ the sellers in theagreement. Id. at 342. The Harsco courtrejected the purchaser’s argument that theDistrict Court’s dismissal had violated Sec-tion 29(a). Although acknowledging that‘‘the underlying concern of § 29(a) is‘whether the agreement weakens the abili-ty to recover under the Exchange Act’ ’’and that the agreement before it couldaccurately be described as doing preciselythat, the Court nevertheless found the ‘‘noother representation’’ clause enforceable:

Thus, the Agreement can be describedas weakening Harsco’s ability to recover

3. In Semerenko, 223 F.3d at 181, we upheldthe dismissal of some of the plaintiffs’ Rule10b–5 claims against the accounting firm ofErnst & Young on the ground that the plain-tiffs could not reasonably have relied upon itsaudit opinions after the company publicly an-nounced the discovery of accounting irregu-larities and warned investors not to rely on itsprior financial statements and audit reports.Dow cites Semerenko for the proposition thatthere is no need here to consider all of the

circumstances in determining the reasonable-ness of plaintiff’s reliance. The cases are notanalogous, however. Dow was not saying topotential investors that it was supplying unre-liable data that should not be relied upon.Rather, it was communicating only that it wasnot willing to absorb the risk of guaranteeingthe data it was tendering to potential inves-tors for use in evaluating DEI without havingbeen paid for doing so as part of the contractprice.

183AES CORP. v. DOW CHEMICAL CO.Cite as 325 F.3d 174 (3rd Cir. 2003)

under § 10(b) of the Exchange Act. Wethink, however, that in the circum-stances of this case such a ‘‘weakening’’does not constitute a forbidden waiver ofcompliance. Here there is a detailedwriting developed via negotiationsamong sophisticated business entitiesand their advisors. That writing, weconclude, defines the boundaries of thetransaction. Harsco brings this suitprincipally alleging conduct that fallsoutside those boundaries.

* * * * * *

Harsco bought Section 2.04’s fourteenpages of representations. Unlike a con-tractual provision which prohibits a par-ty from suing at all, the contract herereflects in detail the reasons why Harscobought Multi–Serv–in essence, Harscobought the representations and, accord-ing to Sections 2.05 and 7.02, nothingelse. This means that there are four-teen pages of representations, any ofwhich, if fraudulent, can be the basis ofa fraud action against the sellers. ButHarsco specifically agreed that repre-sentations not made in those fourteenpages were not made. Thus, it is notfair to characterize Sections 2.05 and7.02 as having prevented Harsco fromprotecting its substantive rights. Har-sco rigorously defined those rights inSection 2.04.

This analysis becomes a question ofdegree and context. Harsco has notwaived its rights to bring any suit re-sulting from this deal. Each representa-tion in Section 2.04 is a tooth which addsto the bite of Sections 2.05 and 7.02. Indifferent circumstances (e.g., if therewere but one vague seller’s representa-tion) a ‘‘no other representations’’ clause

might be toothless and run afoul of§ 29(a). But not here.

Id. at 343, 344.

We find Harsco’ s reasoning unpersua-sive. Section 29(a) is not intended to pro-tect substantive rights created by contract.It is designed to protect rights created bythe Exchange Act, and it expressly fore-closes contracting parties from ‘‘defin[ing]the boundaries of the[ir] transaction’’ in away that relieves a party of the dutiesimposed by that Act. We do not disputethat there may be economic efficiency inallowing private parties the freedom tofashion their own bargains. But Congresshas made a decision to limit that freedomwhen it comes to anticipatory waivers ofExchange Act claims. Accordingly, weconclude that we must side with the FirstCircuit Court of Appeals in Rogen ratherthan with the Harsco court.4

In addition to Harsco, Dow relies onOne–O–One Enters., Inc. v. Caruso, 848F.2d 1283 (D.C.Cir.1988), Jackvony v.RIHT Finan. Corp., 873 F.2d 411 (1stCir.1989), and Rissman v. Rissman, 213F.3d 381 (7th Cir.2000). None of thesecases address § 29(a). Moreover, as weread them, each provides some support forthe approach we hold that the DistrictCourt should have taken here – treat theexistence of the non-reliance clause as oneof the circumstances to be taken into ac-count in determining whether the plain-tiff’s reliance was reasonable. See theanalysis of these decisions in Rissman, 213F.3d at 387–389 (Rovner, J., concurring).As the District of Columbia Court of Ap-peals has observed in commenting on One–O–One, a contrary reading ‘‘would leaveswindlers free to extinguish their victims’

4. The Harsco court distinguishes Rogen on thegrounds that it did not involve sophisticatedparties or as detailed an agreement as thatbefore it. We do not understand Rogen to

turn on these factors. Nor do we believe§ 29(a) to be susceptible of reading thatwould make an exception for sophisticatedparties and detailed agreements.

184 325 FEDERAL REPORTER, 3d SERIES

remedies simply by sticking in a bit ofboilerplate.’’ Id. at 388.

V. Conclusion

The judgment of the District Court willbe reversed and this matter will be re-manded for further proceedings consistentwith this opinion.

CLIFFORD, Senior Circuit Judge.

I agree the case should be reversed, butdisagree on the evidentiary use of the stip-ulations and waivers on remand.

Section 29(a), 15 U.S.C. § 78cc(a),states, ‘‘Any TTT stipulation TTT bindingany person to waive compliance with [theSecurities Exchange Act] TTT shall bevoid.’’ AES and Dow’s stipulations arewaivers of compliance, and under the ex-press terms of section 29, they are ‘‘void.’’The majority holds that the void stipula-tion can nonetheless be evidence of thereasonableness of AES’s reliance. I writeseparately because I cannot join in themajority’s interpretation of the word‘‘void.’’

A void clause is ‘‘of no effect whatsoev-er.’’ BLACK’S LAW DICTIONARY 1568 (7thed.1999). It is ‘‘an absolute nullity.’’ ID. Itis ‘‘ineffective,’’ ‘‘useless,’’ ‘‘having no legalforce or validity.’’ THE AMERICAN HERITAGE

DICTIONARY 911 (4th ed.2001). If we per-mit the void stipulation to have evidentiaryvalue, it is no longer a nullity, ineffective,or useless. Instead, it becomes a verypotent weapon in the 10b–5 defendant’sarsenal. This is precisely what section29(a) prohibits.

At its core, section 29 seeks to preventparties from contractually avoiding the re-quirements of Rule 10b–5. If the voidstipulation may be evidence in a later Rule10b–5 claim, how likely is it that the sellerof securities will lose the 10b–5 claim?Imagine the mountains of evidence the10b–5 plaintiff will need to compete with

the evidence of the stipulation. Realis-tically, how will a plaintiff convince a rea-sonable juror that he reasonably relied ona representation when he signed a provi-sion that stated otherwise? To permit thevoid stipulation to serve as evidence of alack of reasonable reliance would be totake the teeth out of section 29. It wouldmake a 10b–5 claim logically possible, butessentially hopeless. Congress meantmore when it enacted section 29(a).

,

Derek J. OATWAY Appellant

v.

AMERICAN INTERNATIONALGROUP, INC., Plan Administrator ofStock Option Plan; American Inter-national Group, Inc., a DelawareCorporation; 1987 Employee StockOption Plan, an employee welfarebenefit plan.

No. 02–1699.

United States Court of Appeals,Third Circuit.

Submitted pursuant to Third CircuitLAR 34.1(a) Nov. 4, 2002.

Filed April 14, 2003.

Former employee brought actionagainst employer as administrator of em-ployee stock option plan, alleging violationof the Employee Income Retirement Secu-rity Act (ERISA) based on employer’s re-fusal to allow employee to exercise stockoptions. The United States District Courtfor the District of Delaware, Gregory

DDJ Mgt., LLC v Rhone Group L.L.C.15 N.Y.3d 147, 905 N.Y.S.2d 118

NY,2010.

15 N.Y.3d 147, 931 N.E.2d 87, 905 N.Y.S.2d 118,2010 WL 2516811, 2010 N.Y. Slip Op. 05603

DDJ Management, LLC, et al., Appellantsv

Rhone Group L.L.C. et al., Respondents, et al.,Defendants.

Court of Appeals of New York

Argued June 2, 2010Decided June 24, 2010

CITE TITLE AS: DDJ Mgt., LLC v Rhone GroupL.L.C.

SUMMARY

Appeal, by permission of the Court of Appeals,from an order of the Appellate Division of theSupreme Court in the First Judicial Department,entered March 5, 2009. The Appellate Divisionorder, insofar as appealed from, (1) reversed somuch of an order of the Supreme Court, New YorkCounty (Helen E. Freedman, J.; op 19 Misc 3d1124[A], 2008 NY Slip Op 50839[U]), as haddenied a motion by defendants Scott Duncan, JohnJendrzejewski, Quilvest S.A., Quilvest AmericanEquity Ltd., Three Cities Holdings Limited, RhoneGroup L.L.C., Rhone Capital I L.L.C., RhoneOffshore Partners L.P., Rhone Partners L.P., CCTLoan Acquisition L.L.C., Car ComponentTechnologies Delaware Holdings, LLC, RhoneCapital L.L.C., M. Steven Langman, Robert W.Chambers, Alexander Dulac, Three CitiesResearch, Inc., Three Cities Fund II, L.P., ThreeCities Offshore II, C.V., Willem F.P. de Vogel, andJ. William Uhrig to dismiss plaintiffs' fraud causeof action as against them; (2) granted the motions;and (3) dismissed the fraud cause of action.

DDJ Mgt., LLC v Rhone Group L.L.C., 60 AD3d421, reversed.

HEADNOTESFraudRelianceWritten Representations and Warranties RegardingAccuracy of Financial Statements

(1) In a fraud action brought by plaintiff lendersafter defendant remanufacturer and its affiliatedcompanies failed to repay the loan plaintiffs madeto them, plaintiffs alleged facts from which a jurycould find that plaintiffs were justified in relying onthe misrepresentations defendants made to them.Plaintiffs alleged that the remanufacturer's financialstatements presented by defendants were designedto inflate the accuracy of the remanufacturer'searnings before interest, taxes, depreciation andamortization. Although the statements containedsome features that might have aroused concern in askeptical reader who examined them carefully, theremanufacturer, at plaintiffs' insistence, representedand warranted in the loan agreement that thefinancial statements were accurate. Where aplaintiff has taken reasonable steps to protect itselfagainst deception, it should not be denied recoverymerely because hindsight suggests that it mighthave been possible to detect the fraud when itoccurred. In particular, where a plaintiff has gone tothe trouble to insist on a written representation thatcertain facts are true, it will often be justified inaccepting that representation rather than making itsown inquiry. Here, plaintiffs made a significanteffort to protect themselves against *148 thepossibility of false financial statements: theyobtained representations and warranties to theeffect that nothing in the financials was materiallymisleading. Whether plaintiffs were required to domore—either to conduct their own audit or tosubject the preparers of the financial statements todetailed questioning—was a question to be resolvedby the trier of fact.

15 N.Y.3d 147 Page 1

15 N.Y.3d 147(Cite as: 15 N.Y.3d 147, 931 N.E.2d 87)

© 2014 Thomson Reuters. No Claim to Orig. US Gov. Works.

FraudFraud in InducementLiability of Companies Affiliated with CompanyProviding False Financial Statements

(2) In a fraud action brought by plaintiff lendersafter defendant remanufacturer failed to repay aloan, plaintiffs stated a fraud cause of action againstthe defendants who owned and controlled theremanufacturer based upon written representationsand warranties by the remanufacturer in the loanagreement regarding certain financial statements.Although plaintiffs could not recover against thosedefendants as a contractual matter if plaintiffsproved only that the warranties were false, recoverywould be possible under a claim for fraud ifplaintiffs proved that those defendants knew thatthe financial statements gave an untrue picture ofthe remanufacturer's financial condition. It could beinferred from the allegations of the complaint thatplaintiffs believed those defendants would notknowingly cause a company they controlled tomake false representations in a loan agreement as tothe accuracy of financial statements. It cannot besaid as a matter of law that this was an unjustifiablebelief.

RESEARCH REFERENCESAm Jur 2d, Fraud and Deceit §§ 2, 23, 26, 239, 245,248, 263, 279, 468.

NY Jur 2d, Fraud and Deceit §§ 87, 147, 156, 232–235.

Prosser and Keeton, Torts (5th ed) §§ 105–108.

Williston on Contracts (4th ed) §§ 69:3, 69:33.

ANNOTATION REFERENCESee ALR Index under Fraud and Deceit.

FIND SIMILAR CASES ON WESTLAWDatabase: NY-ORCS

Query: fraud /s justifi! /3 reliance rely! & financial/2 statement /p represent! /s warrant!

POINTS OF COUNSEL

Law Offices of Arnold M. Weiner (Arnold M.Weiner of the Maryland bar, admitted pro hac vice,and Barry L. Gogel of counsel), Epstein Becker &Green, P.C., New York City (Barry A. Cozier andRalph A. Berman of counsel), and Whiteford,Taylor & Preston, L.L.P., Baltimore, Maryland (William F. Ryan, Jr., Edward M. Buxbaum andDwight W. Stone, II, of counsel), for appellants.I. The Appellate Division erred in performing its*149 review of the sufficiency of the complaint onmotions to dismiss under CPLR 3211 (a). (KnightSec. v Fiduciary Trust Co., 5 AD3d 172;Sokoloff vHarriman Estates Dev. Corp., 96 NY2d 409;Nonnon v City of New York, 9 NY3d 825.)II. Thereis no support in existing New York case law for theAppellate Division's harsh bright-line rule. (Metropolitan Coal Co. v Howard, 155 F2d 780;CBS Inc. v Ziff-Davis Publ. Co., 75 NY2d 496;National Conversion Corp. v Cedar Bldg. Corp., 23NY2d 621;Jo Ann Homes at Bellmore v Dworetz,25 NY2d 112;Merrill Lynch & Co. Inc. v AlleghenyEnergy, Inc., 500 F3d 171;Faller Group, Inc. vJaffe, 564 F Supp 1177;Emergent Capital Inv. Mgt.,LLC v Stonepath Group, Inc., 343 F3d 189;LazardFreres & Co. v Protective Life Ins. Co., 108 F3d1531;Turkish v Kasenetz, 27 F3d 23;Spyder Enters.,Inc. v Ward, 872 F Supp 8.) III. The decision of theFirst Department threatens to have a chilling effectupon commercial lending and is thereforeinconsistent with sound public policy. (Abu DhabiCommercial Bank v Morgan Stanley & Co., 651 FSupp 2d 155.)Wachtell, Lipton, Rosen & Katz, New York City (Herbert M. Wachtell, Ben M. Germana, Emil A.Kleinhaus and Adam P. Schleifer of counsel), andSullivan & Cromwell LLP (Brian T. Frawley andNaomi D. Johnson of counsel) for Rhone GroupL.L.C. and others, respondents.I. The complaint fails to allege facts showingreasonable reliance. (Global Mins. & Metals Corp.v Holme, 35 AD3d 93, 8 NY3d 804;Abrahami vUPC Constr. Co., 224 AD2d 231;Schumaker v

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Mather, 133 NY 590;Danann Realty Corp. vHarris, 5 NY2d 317;Sylvester v Bernstein, 283 AppDiv 333, 307 NY 778;Lanzi v Brooks, 54 AD2d1057, 43 NY2d 778;Dragon Inv. Co. II LLC vShanahan, 49 AD3d 403;Valassis Communicationsv Weimer, 304 AD2d 448;UST Private Equity Invs.Fund v Salomon Smith Barney, 288 AD2d 87;Orlando v Kukielka, 40 AD3d 829.)II. Appellants'and amici's “public policy” arguments aremeritless. (CBS Inc. v Ziff-Davis Publ. Co., 75NY2d 496.)Nixon Peabody LLP, New York City (ChristopherM. Mason and Leah R. Threatte of counsel), forQuilvest S.A. and others, respondents.I. Plaintiffs did not plead or offer facts showingreasonable reliance as to Quilvest S.A., QuilvestServices Ltd., and Quilvest American Equity Ltd. (Global Mins. & Metals Corp. v Holme, 35 AD3d93, 8 NY3d 804;Wendel v Wendel, 30 App Div 447;Daly v Kochanowicz, 67 AD3d 78;Dragon Inv. Co.II LLC v Shanahan, 49 AD3d 403;Lusins v Cohen,49 AD3d 1015;Orlando v Kukielka, 40 AD3d 829;*150Permasteelisa, S.p.A. v Lincolnshire Mgt.,Inc., 16 AD3d 352;Barrett v Huff, 6 AD3d 1164;Valassis Communications v Weimer, 304 AD2d448;UST Private Equity Invs. Fund v SalomonSmith Barney, 288 AD2d 87.)II. Public policy doesnot favor allowing a lender to conclude a largefinancial transaction without conductingappropriate due diligence.Dorsey & Whitney LLP (Juan C. Basombrio, of theCalifornia bar, admitted pro hac vice) and Dorsey& Whitney LLP, New York City (Marc S. Reiner ofcounsel), for Scott Duncan, respondent.The claim against Scott Duncan fails for thereasons set forth in the briefs submitted by the otherdefendants-respondents. (Walton v New York StateDept. of Correctional Servs., 8 NY3d 186;Schiavone v City of New York, 92 NY2d 308;Ziecker v Town of Orchard Park, 75 NY2d 761;McCain v Koch, 70 NY2d 109.)Holland & Knight LLP, New York City (Christelette A. Hoey of counsel), and Holland &Knight LLP, Chicago, Illinois (Robert H. Lang ofcounsel), for John Jendrzejewski, respondent.

The unanimous decision of the Appellate Divisionshould be affirmed. (Dragon Inv. Co. II LLC vShanahan, 49 AD3d 403;Zanett Lombardier, Ltd. vMaslow, 29 AD3d 495;Permasteelisa, S.p.A. vLincolnshire Mgt., Inc., 16 AD3d 352.)Wilmer Cutler Pickering Hale and Dorr LLP, NewYork City (James H. Millar and Janet R. Carter ofcounsel), Wilmer Cutler Pickering Hale and DorrLLP, Boston, Massachusetts (Tristan C. Snell ofcounsel), Elliot Ganz, New York City, Otterbourg,Steindler, Houston & Rosen, P.C., New York City (Jonathan N. Helfat and Richard G. Haddad ofcounsel), Goldberg Kohn Bell Black Rosenbloom &Moritz, Ltd., Chicago, Illinois (Richard M. Kohn ofcounsel), and Joseph R. Alexander, New York City,for Loan Syndications and Trading Association andothers, amici curiae.I. The First Department's proposed rule is contraryto long-standing public policy governingcommercial transactions. (Credit Francais Intl. vSociedad Fin. de Comercio, 128 Misc 2d 564;Metropolitan Coal Co. v Howard, 155 F2d 780;CBS Inc. v Ziff-Davis Publ. Co., 75 NY2d 496;Pramco III, LLC v Partners Trust Bank, 16 Misc 3d351;Merrill Lynch & Co. Inc. v Allegheny Energy,Inc., 500 F3d 171.)II. The First Department's harshbright-line rule is not supported by its prior casesand conflicts with persuasive Second Circuit caselaw. (UST Private Equity Invs. Fund v SalomonSmith Barney, 288 AD2d 87;Global Mins. & MetalsCorp. v Holme, 35 AD3d 93, 8 NY3d 804;*151Abrahami v UPC Constr. Co., 224 AD2d 231;Permasteelisa, S.p.A. v Lincolnshire Mgt., Inc., 16AD3d 352;Merrill Lynch & Co. Inc. v AlleghenyEnergy, Inc., 500 F3d 171;Metropolitan Coal Co. vHoward, 155 F2d 780;Mallis v Bankers Trust Co.,615 F2d 68.)

OPINION OF THE COURT

Smith, J.We hold that plaintiffs in this action for fraud havealleged facts from which a jury could find that theywere justified in relying on the representationsdefendants made to them.**2

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I

Plaintiffs are four companies that loaned a total of$40 million in March of 2005 to AmericanRemanufacturers Holdings, Inc. and affiliatedcompanies (ARI). ARI was a remanufacturer ofautomobile parts; it purchased used parts, brokethem down into their components, and used thecomponents to make new parts. ARI's stock wasowned 45% by entities affiliated with Rhone GroupL.L.C., and 55% by entities affiliated with QuilvestS.A.

After ARI failed to repay the loan, plaintiffsbrought a number of claims against Rhone,Quilvest, companies and individuals associatedwith them, members of ARI management, andARI's outside accountants. Only the first claim is inissue here. It asserts in essence that Rhone andQuilvest, their corporate affiliates and individualsacting on their behalf (hereafter defendants)defrauded plaintiffs into making the loans.

Plaintiffs allege, among other things, thatdefendants presented them with ARI financialstatements that were false and misleading. Morespecifically, they allege that the financialstatements were designed to inflate the number withwhich plaintiffs were most concerned—ARI'searnings before interest, taxes, depreciation andamortization (EBITDA). The allegations on thissubject are lengthy, and include some strikingdetails. An e-mail sent to one of the defendants byan ARI executive about two months before the loanclosing says: “I understand the financial reason tomanipulate earnings.” Another e-mail, sent somethree weeks later by the same officer to the samerecipient says: “I realize we needed to makeEBITDA for banks but we should understand . . .what our true EBITDA is.”

We need not describe defendants' allegedmisconduct fully; we may assume, for purposes ofthis appeal, that the complaint *152 adequatelyalleges that defendants made materialmisrepresentations. The question for us is whether,

if the complaint's allegations are true, a jury couldfind that plaintiffs justifiably relied on thosemisrepresentations. Defendants argue that plaintiffsfailed to make a reasonable inquiry into the truth ofwhat defendants said, and we will describe in moredetail the alleged facts that are relevant to thatargument.

The complaint alleges that plaintiffs were firstsolicited to loan money to ARI in July 2004, andthat over the next several months they received anumber of written presentations by ARI'sinvestment banker, containing financial and otherinformation that later proved to be false ormisleading. At the time of the solicitation—andindeed until the day the loan closed—ARI's outsideauditors had not completed their audit for the yearending December 31, 2003, and it was part of theoriginal proposal that the loans would be“conditioned upon, and made after, the borrowerhad provided the lenders” with audited financialstatements for 2003. It was later agreed thatunaudited financial statements for 2004 would alsobe provided.

During the months before those financialstatements were completed, plaintiffs **3 hadseveral conversations with ARI representatives inwhich they were given reassuring information, andmade two calls to participants in the industry to getinformation about ARI's management, which wasalso reassuring. In December 2004 and January2005, plaintiffs were sent drafts of the audit reportfor 2003, and on March 2, 2005 they were sent theunaudited financial statements for 2004. The finalversion of the 2003 audit report was provided onMarch 22, 2005, and the loan closed on the sameday.

ARI's unaudited 2004 statements, plaintiffs allege,grossly inflated EBITDA, in significant partthrough a manipulation of ARI's inventory reserves.Plaintiffs say that they could not have detected this,but, as defendants point out, the 2004 statementscontained some features that might have arousedconcern in a skeptical reader who examined them

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carefully. They showed a significant increase in thevalue of ARI's inventory over the previous year; amodest amount of cash on hand, equal to theamount of ARI's bank overdraft; and a remarkableincrease in the company's apparent profitability inthe last month of the year. Though December 2004revenues were below the year's monthly average,gross profit was higher than average, and grossmargin was shown as 17.9% for the month,compared to 13.5% for the year as a whole.

*153 The complaint does not allege that plaintiffsasked questions about these or other aspects of thefinancial statements, or that they asked to look atARI's underlying records. Plaintiffs did, however,insist that ARI represent and warrant, in substance,that the financial statements were accurate.Specifically, ARI represented and warranted in theloan agreement (as summarized in the complaint)that the 2004 financial statements “present fairly inall material respects the financial position of ARI asat December 31, 2004 and the results of ARI'soperations and cash flows for the period thenended”; that the statements were prepared inaccordance with generally accepted accountingprinciples; that “between December 31, 2003 andMarch 22, 2005 [the closing date], no event hasoccurred, which alone or together with other events,could reasonably be expected to have a MaterialAdverse Effect” on ARI's business, assets,operations or prospects or its ability to repay theloans; and that “no information contained in theloan agreement, the other loan documents or thefinancial statements being furnished to thePlaintiffs contains any untrue statement of amaterial fact or omits to state a material factnecessary to make the statements contained thereinnot misleading in light of the circumstances underwhich they were made.” All of theserepresentations and warranties, plaintiffs say, laterproved to be false.

The loan agreement, as defendants emphasize, alsoprovided for a high interest rate: ARI agreed to payplaintiffs the lower of 10% above the LIBOR rate

or 9% above an index rate derived from the “baserate” charged by United States banks to corporateborrowers.**4

As we mentioned above, plaintiffs' claim for fraudagainst defendants was one of several in thecomplaint. On motions pursuant to CPLR 3211,Supreme Court dismissed all the others, butallowed this claim to stand (19 Misc 3d 1124 [A],2008 NY Slip Op 50839[U]). The AppellateDivision modified Supreme Court's decision anddismissed the claim, emphasizing that “plaintiffsnever looked at ARI's books and records” andconcluding that, having failed to do so, they“cannot now properly allege reasonable reliance onthe purported misrepresentations” (DDJ Mgt., LLCv Rhone Group L.L.C., 60 AD3d 421, 424 [1st Dept2009]). We granted leave to appeal (13 NY3d 710[2009]), and now reverse.

II

The rule defendants rely on was stated more than acentury ago in Schumaker v Mather (133 NY 590,596 [1892]):*154 “[I]f the facts represented are not matterspeculiarly within the party's knowledge, and theother party has the means available to him ofknowing, by the exercise of ordinary intelligence,the truth or the real quality of the subject of therepresentation, he must make use of those means,or he will not be heard to complain that he wasinduced to enter into the transaction bymisrepresentations.” (See also Danann RealtyCorp. v Harris, 5 NY2d 317, 322 [1959].)

This rule has been frequently applied in recentyears where the plaintiff is a sophisticated businessperson or entity that claims to have been taken in.In some cases, the rule serves to rid the courts ofcases in which the claim of reliance is likely to behypocritical. Thus in Global Mins. & Metals Corp.v Holme (35 AD3d 93 [1st Dept 2006]), theplaintiff had fired an officer whom it found to beuntrustworthy, and given him a general release.

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Later, it claimed to have trusted, without verifying,the officer's assurances as to the innocent nature ofa particular transaction. The Appellate Divisionheld such trust to be unjustified. In other cases, therule rejects the claims of plaintiffs who have beenso lax in protecting themselves that they cannotfairly ask for the law's protection. In Lampert vMahoney, Cohen & Co. (218 AD2d 580, 582 [1stDept 1995]), the Appellate Division dismissed theclaim of a plaintiff who said “that he loaned some$3 million to a corporate entity and its principalwithout ever investigating the financial condition ofthe business beyond obtaining some vague verbalassurances from its accountant.” In cases likeGlobal Minerals and Lampert, the plaintiff “maytruly be said to have willingly assumed the businessrisk that the facts may not be as represented” (Rodas v Manitaras, 159 AD2d 341, 343 [1st Dept1990]).

Where, however, a plaintiff has taken reasonablesteps to protect itself against deception, it shouldnot be denied recovery merely because hindsightsuggests that it might have been possible to detectthe fraud when it occurred. In particular, where aplaintiff has gone to the **5 trouble to insist on awritten representation that certain facts are true, itwill often be justified in accepting thatrepresentation rather than making its own inquiry.Indeed, there are many cases in which the plaintiff'sfailure to obtain a specific, written representation isgiven as a reason for finding reliance to beunjustified (see e.g. Curran, Cooney, Penney vYoung & Koomans, 183 AD2d 742, 743-744*155[2d Dept 1992]; Rodas v Manitaras, 159 AD2d at343;Emergent Capital Inv. Mgt., LLC v StonepathGroup, Inc., 343 F3d 189, 196 [2d Cir 2003][applying New York law]). It is harder to find casesholding that a plaintiff who did obtain such arepresentation could not justifiably rely on it; onesuch case is Ponzini v Gatz (155 AD2d 590 [2dDept 1989]), in which the plaintiff's attorneyactually knew that the warranty in question wasfalse. In National Conversion Corp. v Cedar Bldg.Corp. (23 NY2d 621 [1969]) —a case admittedly

much different in its facts from this one—we heldthat it was reasonable for the plaintiff to rely on awritten representation as a substitute for making aninvestigation of the facts represented.

“The question of what constitutes reasonablereliance is always nettlesome because it is so fact-intensive” (Schlaifer Nance & Co. v Estate ofWarhol, 119 F3d 91, 98 [2d Cir 1997]). No twocases are alike in all relevant ways. However,several federal cases applying New York law bear anoticeable resemblance to this one—and all of themhold that the plaintiffs' claims of justifiable reliancewere legally sufficient (Merrill Lynch & Co. Inc. vAllegheny Energy, Inc., 500 F3d 171, 181-182 [2dCir 2007]; Barron Partners, LP v Lab123, Inc.,2008 WL 2902187, 2008 US Dist LEXIS 56899[SD NY 2008]; JP Morgan Chase Bank v Winnick,350 F Supp 2d 393 [SD NY 2004]; Faller Group,Inc. v Jaffe, 564 F Supp 1177 [SD NY 1983]).

JP Morgan is perhaps the case most similar to ours.Plaintiffs there were banks that had extended creditto Global Crossing, Ltd. (GC). After it becameinsolvent, the banks sued GC's officers, directorsand employees for fraud. The District Court denieddefendants' motion for summary judgment on thefraud claims, rejecting the argument “that theplaintiffs cannot demonstrate reliance on thealleged misrepresentations” (350 F Supp 2d at 404).The court emphasized that plaintiffs had bargainedfor a provision in their credit agreement with GC tothe effect that “each loan request was ‘deemed’ a‘representation and warranty’ by GC that no ‘eventof default’ had occurred” (id. at 396). Examiningthe facts of several state and federal cases applyingNew York law, the court concluded that they “donot support the interpretation that a duty to inquireis necessarily triggered as soon as a plaintiff has theslightest ‘hints' of any ‘possibility’ of falsehood” (id. at 408). The court said:“It is undisputed that the Banks expressly bargained*156 not only for the right to examine GC's booksand records, but also for the provision of theAgreement deeming each borrowing request to be a

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representation that GC remained in compliancewith its debt **6 covenants at the time the requestwas made. Under these circumstances, it cannot beargued that the Banks failed to bargain for adequatesafeguards to establish, at least initially, the basisfor their reliance on the defendants'representations” (id. at 409).

Noting the defendants' argument “that GC's . . .financial statements . . . were so transparentlyfalse—or at least, that the assumptions on whichthey were based were so apparentlyquestionable—that no reasonable banker wouldhave lent GC a penny without conducting furtherinquiry into their accuracy” (id.), the court foundthat the question it presented was for the jury. Thecourt was unable to say as a matter of law that “areasonable lender of equivalent experience shouldhave inquired further” into GC's financialstatements (id. at 411).

(1) We reach a similar conclusion here. It is fair tosay that there were hints from which plaintiffsmight have been put on their guard in thistransaction. Some aspects of the 2004 financialstatements—particularly the sudden improvementin profitability in the last month of the year—mighthave seemed too good to be true; the fact that ittook an auditor until March of 2005 to complete anexamination of the 2003 financial statements washardly encouraging; and the high interest rate itselfdemonstrates that plaintiffs knew the transactioncarried considerable risk. But plaintiffs made asignificant effort to protect themselves against thepossibility of false financial statements: theyobtained representations and warranties to theeffect that nothing in the financials was materiallymisleading. We decline to hold as a matter of lawthat plaintiffs were required to do more—either toconduct their own audit or to subject the preparersof the financial statements to detailed questioning.If plaintiffs can prove the allegations in thecomplaint, whether they were justified in relying onthe warranties they received is a question to beresolved by the trier of fact.

(2) Defendants emphasize that the warranties weregiven only by ARI, and suggest that they cannotsupport a claim against Rhone, Quilvest and others.But this argument blurs the distinction betweenclaims for breach of warranty and claims *157 forfraud. It is true that, as a contractual matter, theonly rights plaintiffs acquired under the warrantieswere against ARI. If plaintiffs prove only that thewarranties were false, they cannot recover againstRhone and Quilvest. But if they can prove thatRhone and Quilvest knew the facts represented andwarranted were false—in other words, that Rhoneand Quilvest knew the financial statements gave anuntrue picture of ARI's financial condition—thecase is different. It can be inferred from theallegations of the complaint that plaintiffs believedRhone and Quilvest would not knowingly cause acompany they controlled to make falserepresentations in a loan agreement as to the **7accuracy of financial statements. We cannot say asa matter of law that this was an unjustifiable belief.

Accordingly, the order of the Appellate Division,insofar as appealed from, should be reversed withcosts, and the case remitted to the AppellateDivision for consideration of questions raised butnot determined on the appeal to that court.

Chief Judge Lippman and Judges Ciparick, Graffeo,Read, Pigott and Jones concur.

Order, insofar as appealed from, reversed, withcosts, and case remitted to the Appellate Division,First Department, for consideration of issues raisedbut not determined on the appeal to that court.

Copr. (c) 2014, Secretary of State, State of NewYork

NY,2010.DDJ MGT. v RHONE GROUP15 N.Y.3d 147, 931 N.E.2d 87578905 N.Y.S.2d1186022010 WL 25168119992010 N.Y. Slip Op.056034603, 931 N.E.2d 87578905 N.Y.S.2d1186022010 WL 25168119992010 N.Y. Slip Op.056034603, 931 N.E.2d 87578905 N.Y.S.2d1186022010 WL 25168119992010 N.Y. Slip Op.

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056034603, 931 N.E.2d 87578905 N.Y.S.2d1186022010 WL 25168119992010 N.Y. Slip Op.056034603

END OF DOCUMENT

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China Dev. Indus. Bank v Morgan Stanley & Co.Inc.

86 A.D.3d 435, 927 N.Y.S.2d 52NY,2011.

86 A.D.3d 435, 927 N.Y.S.2d 52, 2011 WL2637606, 2011 N.Y. Slip Op. 05871

China Development Industrial Bank, Respondentv

Morgan Stanley & Co. Incorporated et al.,Appellants, et al., Defendants.

Supreme Court, Appellate Division, FirstDepartment, New York

July 7, 2011

CITE TITLE AS: China Dev. Indus. Bank vMorgan Stanley & Co. Inc.

HEADNOTESPleadingSufficiency of PleadingFraud—Scienter

PleadingSufficiency of PleadingFraudulent Inducement

PleadingSufficiency of PleadingFraudulent Concealment

Davis Polk & Wardwell LLP, New York (James P.Rouhandeh of counsel), for appellants.Robbins Geller Rudman & Dowd LLP, Melville(Jason C. Davis of counsel), for respondent.Order, Supreme Court, New York County (MelvinL. Schweitzer, J.), entered February 28, 2011,which, to the extent appealed from, denied theMorgan Stanley defendants' (collect *436 ively,Morgan) motion to dismiss the complaint pursuantto CPLR 3211 (a) (1) and (7) and 3016 (b), and

denied that branch of the motion seeking to strikeplaintiff's demand for a jury trial in connection withplaintiff's fraudulent inducement cause of action,unanimously affirmed, with costs.

In this action alleging common-law fraud, fraud inthe inducement and fraudulent concealment in thesale of an investment product (credit defaultswaps), plaintiff purchaser (China) alleges thatdefendant seller Morgan falsely promoted collateraldebt obligations as having specified credit ratings,which Morgan knew to be overstated andmisleading. Specifically, the ratings were allegedlygenerated with grandfathered models and protocolsand assumptions that were no longer applicable.Such ratings for Morgan's products were allegedlyprocured by way of Morgan's financial influenceover the rating agencies. We recognize that asophisticated business entity, like China, thatalleges it was fraudulently induced to enter acontract because of false representations as to aproduct's quality, may nonetheless be precluded bycontractual disclaimers from pursuing such a claim(see MBIA Ins. Corp. v Merrill Lynch, 81 AD3d419 [2011]). Nevertheless, such rule is notdeterminative in this case. China has sufficientlyalleged that Morgan possessed peculiar knowledgeof the facts underlying the fraud, and thecircumstances present would preclude anyinvestigation by China conducted with duediligence (see generally Jana L. v West 129th St.Realty Corp., 22 AD3d 274 [2005]). The element ofscienter can be reasonably inferred from the factsalleged (see Pludeman v Northern Leasing Sys.,Inc., 10 NY3d 486, 492-493 [2008]), including e-mails, which support a motive by Morgan, at thetime of the subject transaction, to quickly disposeof troubled collateral (i.e., predominantlyresidential mortgage-backed securities) which itowned at the time.

China also adequately alleged facts in support of itsfraudulent concealment claim to indicate thatMorgan had a duty to disclose, inasmuch as

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Morgan allegedly had peculiar **2 knowledge ofthe application of grandfathered ratings, theunstable collateral which was sold, and itsmisstatements regarding the investment risksinvolved (see generally King County, Washington vIKB Deutsche Industriebank AG, 751 F Supp 2d652 [SD NY 2010]).

China's allegations were sufficiently particularizedto support a claim for fraudulent inducement. Asthe validity of the parties' 2007 investmenttransaction is challenged by the allegations, themotion court properly concluded that the jurywaiver provision in the agreement was inapplicableto the fraudulent *437 inducement cause of action (see generally Wells Fargo Bank, N.A. v StargateFilms, Inc., 18 AD3d 264 [2005]).

Morgan argues that China ratified the parties' 2007transaction agreement when, in May 2009, itexecuted an amendment to the 2007 agreement.Morgan claims that at such time, China should havebeen on inquiry notice of the alleged fraudulentconduct. However, because China claimed it signedthe amendment under economic duress, and damageattributable to the fraud may already have accrued (see e.g. Braddock v Braddock, 60 AD3d 84, 94-95[2009]), there are issues of fact which precludejudgment for Morgan. Concur—Mazzarelli, J.P.,Catterson, DeGrasse, Abdus-Salaam and Román,JJ.

Copr. (c) 2014, Secretary of State, State of NewYork

NY,2011.China Dev. Indus. Bank v Morgan Stanley & Co.Inc.86 A.D.3d 435, 927 N.Y.S.2d 526022011 WL26376069992011 N.Y. Slip Op. 058714603, 927N.Y.S.2d 526022011 WL 26376069992011 N.Y.Slip Op. 058714603, 927 N.Y.S.2d 526022011 WL26376069992011 N.Y. Slip Op. 058714603

END OF DOCUMENT

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[**1] Basis Yield Alpha Fund (Master), Plaintiff-Respondent, v Goldman SachsGroup, Inc., et al., Defendants-Appellants.

652996/11, 10150

SUPREME COURT OF NEW YORK, APPELLATE DIVISION, FIRSTDEPARTMENT

2014 N.Y. App. Div. LEXIS 580; 2014 NY Slip Op 587

January 30, 2014, DecidedJanuary 30, 2014, Entered

NOTICE:

THE LEXIS PAGINATION OF THIS DOCUMENTIS SUBJECT TO CHANGE PENDING RELEASE OFTHE FINAL PUBLISHED VERSION. THISOPINION IS UNCORRECTED AND SUBJECT TOREVISION BEFORE PUBLICATION IN THEOFFICIAL REPORTS.

PRIOR HISTORY: Basis Yield Alpha Fund (Master) v.Goldman Sachs Group, Inc., 37 Misc. 3d 1212(A), 961N.Y.S.2d 356, 2012 N.Y. Misc. LEXIS 4960 (2012)

CASE SUMMARY:

OVERVIEW: HOLDINGS: [1]-A trial court properlydenied a finance company's motion to compel arbitrationbecause there was a substantial question as to whether theparties agreed to arbitrate and it was shown that thebuying fund never signed the document containing themandatory arbitration clause; [2]-The court held that themotion court properly declined to dismiss the fraudclaims since the disclaimers and disclosures in theoffering circulars did not preclude, as a matter of law, thebuying fund's claim of justifiable reliance; [3]-Themotion court should have dismissed the negligentrepresentation claim because there was no allegation of arelationship of trust and confidence between the parties,

the unjust enrichment claim since the transactions weregoverned by written agreements, and the rescission claimbecause the complaint failed to allege the absence of anadequate remedy at law.

OUTCOME: Order modified to the extent of grantingthat part of the motion seeking to dismiss the causes ofaction for negligent misrepresentation, unjust enrichmentand rescission; otherwise, the order was affirmed.

LexisNexis(R) Headnotes

Civil Procedure > Alternative Dispute Resolution >Arbitrations > ArbitrabilityCivil Procedure > Alternative Dispute Resolution >Validity of ADR MethodsContracts Law > Contract Conditions & Provisions >Arbitration Clauses[HN1] A party will not be compelled to arbitrate absentevidence which affirmatively establishes that the partiesexpressly agreed to arbitrate their disputes. Theagreement must be clear, explicit and unequivocal. Anarbitration clause in an unsigned agreement may beenforceable but only when it is evident that the partiesintended to be bound by the contract.

Page 1

Civil Procedure > Pleading & Practice > Defenses,Demurrers & Objections > Failures to State ClaimsCivil Procedure > Pleading & Practice > Defenses,Demurrers & Objections > Motions to DismissCivil Procedure > Pleading & Practice > Pleadings >Rule Application & Interpretation[HN2] The contention that a court is limited to thepleadings, when reviewing a motion to dismiss pursuantto CPLR 3211(a)(7), is not a completely accuratestatement of the law. What the New York Court ofAppeals has consistently said is that evidence in anaffidavit used by a defendant to attack the sufficiency of apleading will seldom if ever warrant the relief thedefendant seeks unless such evidence conclusivelyestablishes that plaintiff has no cause of action. A CPLR3211(a)(7) motion may be used by a defendant to test thefacial sufficiency of a pleading in two different ways. Onthe one hand, the motion may be used to dispose of anaction in which the plaintiff has not stated a claimcognizable at law. On the other hand, the motion may beused to dispose of an action in which the plaintiffidentified a cognizable cause of action but failed to asserta material allegation necessary to support the cause ofaction. As to the latter, the Court of Appeals has madeclear that a defendant can submit evidence in support ofthe motion attacking a well-pleaded cognizable claim.

Civil Procedure > Pleading & Practice > Defenses,Demurrers & Objections > Failures to State ClaimsCivil Procedure > Pleading & Practice > Pleadings >Complaints > RequirementsCivil Procedure > Pleading & Practice > Pleadings >Rule Application & Interpretation[HN3] When documentary evidence is submitted by adefendant, the standard morphs from whether the plaintiffhas stated a cause of action to whether it has one. CPLR3211(A)(7). If the defendant's evidence establishes thatthe plaintiff has no cause of action, for example, that awell-pleaded cognizable claim is flatly rejected by thedocumentary evidence, dismissal would be appropriate.

Civil Procedure > Pleading & Practice > Pleadings >Heightened Pleading Requirements > Fraud ClaimsTorts > Business Torts > Fraud & Misrepresentation >Actual Fraud > ElementsTorts > Business Torts > Fraud & Misrepresentation >Nondisclosure > Elements[HN4] To make a prima facie claim of fraud, a complaintmust allege misrepresentation or concealment of a

material fact, falsity, scienter on the part of thewrongdoer, justifiable reliance and resulting injury. Evenin the absence of any affirmative misrepresentation orany fiduciary obligation, a party may be liable fornondisclosure where it has special knowledge orinformation not attainable by the plaintiff, or when it hasmade a misleading partial disclosure.

Torts > Business Torts > Fraud & Misrepresentation >Actual Fraud > Elements[HN5] The law is abundantly clear in New York that abuyer's disclaimer of reliance cannot preclude a claim ofjustifiable reliance on the seller's misrepresentations oromissions unless (1) the disclaimer is made sufficientlyspecific to the particular type of fact misrepresented orundisclosed; and (2) the alleged misrepresentations oromissions did not concern facts peculiarly within theseller's knowledge. Accordingly, only where a writtencontract contains a specific disclaimer of responsibilityfor extraneous representations, that is, a provision that theparties are not bound by or relying upon representationsor omissions as to the specific matter, is a plaintiffprecluded from later claiming fraud on the ground of aprior misrepresentation as to the specific matter. In otherwords, in view of the disclaimer, no representations existand that being so, there can be no reliance.

Torts > Business Torts > Fraud & Misrepresentation >Actual Fraud > ElementsTorts > Business Torts > Fraud & Misrepresentation >Nondisclosure > Elements[HN6] Even if the disclaimers and disclosures were to beviewed as sufficiently specific, a purchaser may not beprecluded from claiming reliance on misrepresentationsof facts peculiarly within the seller's knowledge.

Contracts Law > Remedies > Equitable Relief >Quantum MeruitContracts Law > Types of Contracts > Implied-in-LawContracts[HN7] The theory of unjust enrichment is one created inlaw in the absence of any agreement.

COUNSEL: [*1] Boies, Schiller & Flexner LLP, NewYork (Philip M. Bowman, Jonathan D. Schiller andThomas Ling of counsel), for appellants.

Lewis Baach PLLC, New York (Bruce R. Grace, Eric L.

Page 22014 N.Y. App. Div. LEXIS 580, *; 2014 NY Slip Op 587, **1

Lewis and Courtney L. Weiner of counsel), forrespondent.

JUDGES: Peter Tom, J.P. Rolando T. Acosta, Dianne T.Renwick, Leland G. DeGrasse, Rosalyn H. Richter, JJ.

OPINION BY: RENWICK

OPINION

Defendants appeal from the order of the SupremeCourt, New York County (Shirley Werner Kornreich, J.),entered October 19, 2012, which, insofar as appealedfrom, denied their motion to compel arbitration or, in thealternative, to dismiss the causes of action for fraud,fraudulent inducement, fraudulent concealment, negligentmisrepresentation, unjust enrichment, and rescission.

RENWICK J. [**2]

This is a case of a Wall Street firm (Goldman Sachs)being accused of selling mortgage-backed securities itknew to be "junk" and then betting against the samesecurities as the 2007 financial crisis unfolded.Specifically, plaintiff, Basis Yield Alpha Fund (Basis), afund managed by an Australian hedge fund, Basis CapitalFund Management, commenced this action againstseveral Goldman Sachs-related entities over investmentsin subprime mortgage-linked securities that [*2]contributed to the fund's demise1. The transactions tookplace on April 17 and June 13, 2007, with the sale of asecurity issued by a collateralized debt obligation (CDO)known as Point Pleasant 2007-1, Ltd., as well as Basis'sentry into two credit default swaps that referencedsecurities from a similar CDO known as Timberwolf2007-1, Ltd. Basis, which financed these transactionswith loans from Goldman, reportedly lost $67 millionwhen the bank began making margin calls on theproducts shortly after selling them to Basis. The margincalls quickly forced Basis into insolvency.

1 Plaintiff brings this action against defendantsGoldman Sachs Group, Inc., Goldman Sachs &Co., Goldman Sachs International and GoldmanSachs & Partners Australia Pty. Ltd. (collectivelyreferred to as Goldman).

Initially, in 2010, Basis commenced an action forfederal securities fraud and common law fraud againstGoldman in the U.S. District Court for the SouthernDistrict of New York. In an order dated July 21, 2011, the

court dismissed the case on the ground that theunderlying transactions were not domestic securitiestransactions and, therefore, are not subject to federalsecurities laws. The District Court [*3] declined toexercise supplemental jurisdiction over the remainingstate law claims and dismissed the case withoutprejudice. In late 2011, Basis commenced this actionagainst Goldman for: (1) common law fraud; (2)fraudulent inducement; (3) fraudulent concealment; (4)breach of contract; (5) negligent misrepresentation; (6)breach of the implied covenant of good faith and fairdealing; (7) unjust enrichment; and (8) rescission. Thefactual allegations in the complaint are similar to thosemade in the federal action.

In lieu of answering the complaint, Goldman movedfor an order compelling arbitration pursuant to the NewYork Convention and CPLR 7503(a) or, in thealternative, dismissing the complaint for failure to state acause of action (CPLR 3211[a][7]). Supreme Courtdenied the motion to compel arbitration, as well as themotion to dismiss with respect to the causes of actionsalleging fraud, negligent misrepresentation, unjustenrichment and rescission.2

2 The court granted that portion of defendants'motion seeking to dismiss the claims of breach ofcontract and breach of the implied covenant ofgood faith and fair dealing, which are not at issueon this appeal.

As a threshold consideration, [*4] we examineGoldman's contention that the motion court improperlydenied its motion to compel arbitration. Goldman doesnot challenge the motion [**3] court's refusal to compelarbitration pursuant to the New York Convention3. Wenote, however, that the motion court properly held thatthe purported document containing an arbitration clausedid not meet the writing requirements of the New YorkConvention, which defines an "agreement in writing" toinclude "an arbitral clause in a contract or an arbitrationagreement, signed by the parties or contained in anexchange of letters or telegrams (see New YorkConvention, Article II[2])). The document, which wasattached to an e-mail, was never signed by Basis, norreferred to in any exchange of correspondence betweenthe parties.

3 The New York Convention is formally knownas the 1958 United Nations Convention on theRecognition and Enforcement of Foreign Arbitral

Page 32014 N.Y. App. Div. LEXIS 580, *1; 2014 NY Slip Op 587, **1

Awards. The United States acceded to the NewYork Convention in 1970 and implemented itsprovisions by enacting Chapter 2 of the FederalArbitration Act. (Federal Arbitration Act, 9 USC§ 201-208 [1980]).

Goldman also fails to satisfy the heavy burden ofdemonstrating that arbitration should [*5] be compelledpursuant to CPLR Article 75. As the Court of Appeals hasstated, [HN1] "[A] party will not be compelled toarbitrate . . . absent evidence which affirmativelyestablishes that the parties expressly agreed to arbitratetheir disputes. The agreement must be clear, explicit andunequivocal" (Matter of Waldron (Goddess), 61 NY2d181, 183, 461 N.E.2d 273, 473 N.Y.S.2d 136 [1984][internal quotation marks and citations omitted]). Anarbitration clause in an unsigned agreement may beenforceable but only "when it is evident that the partiesintended to be bound by the contract" (God's Battalion ofPrayer Pentecostal Church, Inc. v Miele Assoc., LLP, 6NY3d 371, 373, 845 N.E.2d 1265, 812 N.Y.S.2d 435[2006]).

Here, there is a substantial question as to whether theparties agreed to arbitrate. In support of its motion tocompel arbitration, Goldman relied on a mandatoryarbitration clause set forth in a document entitled"General Terms and Conditions" that was attached to aNovember 10, 2006 email. Goldman claims to have sentthe email to Basis in connection with the latter's openingof a trading account with Goldman. It is, however,undisputed that the document was never signed byanyone from Basis. More importantly, the director ofBasis's managing entity [*6] swore in an affidavit thatBasis never entered into the arbitration agreementGoldman proffers.

Since the record does not affirmatively establish avalid obligation to arbitrate the issues raised herein, wemust examine Goldman's alternative argument seekingdismissal of the action. With regard to the fraudallegations, Goldman argues that plaintiff failed to state acause of action because the element of reasonablereliance is precluded as a matter of law by the disclaimerand disclosure in the offering circulars. We do not findthat such argument is procedurally precluded by the factthat "Goldman's motion was made under CPLR3211(a)(7)." The concurring opinion incorrectlymaintains that Goldman cannot rely on documentaryevidence (the disclaimer and disclosure in the offering

circulars) because a CPLR 3211(a)(7) motion is limitedto a review of the pleadings.

The motion court examined the purporteddocumentary evidence, albeit over plaintiff's objections,but concluded that it did not bar the fraud claims.Plaintiff, however, has abandoned [**4] such proceduralargument by failing to raise it on appeal (see Matter ofRaqiyb v Fischer, 82 AD3d 1432, 1433, 919 N.Y.S.2d543, n [3rd Dept 2011], citing Matter of Ifill v Fischer,72 AD3d 1367, 901 N.Y.S.2d 723, [*7] n [3rd Dept2010]). Instead, in its opening paragraph of the argumentsection opposing Goldman's motion to dismiss the fraudclaims, plaintiff simply comments:

"Goldman's argument on appeal straysfar beyond addressing the sufficiency ofthe allegations. Instead, Goldman seeks toplay on a field of disputed issues of fact.But this provides no basis for dismissingthis Complaint. That is particularly thecase here when this Complaint is basednot just on well-pleaded allegations, buton inculpatory Goldman documentsdisclosed in prior proceedings [emphasisadded]."

Thus, on this appeal, plaintiff does not claim that thisCourt is "procedurally" precluded from examining thedocumentary evidence at issue because Goldman movedto dismiss under CPLR 3211(a)(7). Rather, plaintiffappears to be arguing that the documentary evidencesimply raises "disputed issues of fact," which, as plaintiffcorrectly asserts, is not enough for a dismissal underCPLR 3211(a)(7).

In any event, [HN2] the concurrence's contentionthat this Court is limited to the pleadings, whenreviewing a motion to dismiss pursuant to CPLR3211(a)(7), is not a completely accurate statement of thelaw. What the Court of Appeals has [*8] consistentlysaid is that evidence in an affidavit used by a defendant toattack the sufficiency of a pleading "will seldom if everwarrant the relief [the defendant] seeks unless [suchevidence] conclusively establishes that plaintiff has nocause of action" (Rovello v Orofino Realty Co, Inc, 40NY2d 633, 636, 357 N.E.2d 970, 389 N.Y.S.2d 314[1976] [emphasis added]; see also Guggenheim vGinzburg, 43 NY2d 268, 372 N.E.2d 17, 401 N.Y.S.2d182 [1977]).

Page 42014 N.Y. App. Div. LEXIS 580, *4; 2014 NY Slip Op 587, **3

A CPLR 3211(a)(7) motion may be used by adefendant to test the facial sufficiency of a pleading intwo different ways. On the one hand, the motion may beused to dispose of an action in which the plaintiff has notstated a claim cognizable at law. On the other hand, themotion may be used to dispose of an action in which theplaintiff identified a cognizable cause of action but failedto assert a material allegation necessary to support thecause of action. As to the latter, the Court of Appeals hasmade clear that a defendant can submit evidence insupport of the motion attacking a well-pleadedcognizable claim (see Rovello, 40 NY2d 633, 357 N.E.2d970, 389 N.Y.S.2d 314; Guggenheim, 43 NY2d 268, 372N.E.2d 17, 401 N.Y.S.2d 182; see also Board ofManagers of Fairways at N. Hills Condominiums vFairways at N. Hills, 150 AD2d 32, 545 N.Y.S.2d 343 [2dDept 1989]).4 [**5]

4 In his concurring opinion, [*9] JusticeDeGrasse argues that factual allegations presumedto be true on a CPLR 3211(a)(7) motion may beproperly negated by an affidavit but not bydocumentary evidence. This distinction makes nosense. On a motion, the only possible way thatdocumentary evidence can be submitted to thecourt is by way of affidavit. Thus, an affidavitfrom an individual, even if the person has nopersonal knowledge of the facts, may properlyserve as the vehicle for the submission ofacceptable attachments which provide evidentiaryproof in admissible form, like documentaryevidence. In such situations, the affidavit itself isnot considered evidence; it merely serves as avehicle to introduce documentary evidence to thecourt. Our judgment as to the conclusive nature ofthe adduced evidence should not depend on suchan artificial distinction. The key should bewhether the evidence adduced conclusivelynegates an element of the cause of action. Here,the documentary evidence defendants allege isdispositive was in fact submitted via affidavit.Thus, even under the concurrence's view, it wasproperly considered.

[HN3] When documentary evidence is submitted bya defendant "the standard morphs from whether the [*10]plaintiff has stated a cause of action to whether it hasone" (John R. Higgitt, CPLR 3211[A][7]: Demurrer orMerits-Testing Device?, 73 Albany Law Review 99, 110[2009]). As alleged here, if the defendant's evidence

establishes that the plaintiff has no cause of action (i.e.,that a well-pleaded cognizable claim is flatly rejected bythe documentary evidence), dismissal would beappropriate (see e.g. Constructamax, Inc. v DodgeChamberlin Luzine Weber, Assoc. Architects, LLP, 109AD3d 574, 971 N.Y.S.2d 48 [2d Dept 2013]; Rabos v R &R Bagels & Bakery, Inc., 100 AD3d 849, 851--852, 955N.Y.S.2d 109 [2d Dept 2012]; Skillgames, LLC v Brody,1 AD3d 247, 250, 767 N.Y.S.2d 418 [1st Dept 2003];Kliebert v McKoan, 228 AD2d 232, 643 N.Y.S.2d 114[1st Dept 1996], lv denied 89 NY2d 802, 675 N.E.2d1232, 653 N.Y.S.2d 279 [1996]; Board of Managers ofFairways at N. Hills Condominiums, 150 AD2d 32, 545N.Y.S.2d 343).

Thus, there is no procedural impediment toevaluating the merits of Goldman's motion to dismiss thefraud claims. [HN4] To make a prima facie claim offraud, a complaint must allege misrepresentation orconcealment of a material fact, falsity, scienter on thepart of the wrongdoer, justifiable reliance and resultinginjury (see Dembeck v 220 Cent. Park S., LLC, 33 AD3d491, 492, 823 N.Y.S.2d 45 [1st Dept 2006]). Even in theabsence [*11] of any affirmative misrepresentation orany fiduciary obligation, a party may be liable fornondisclosure where it has special knowledge orinformation not attainable by plaintiff, or when it hasmade a misleading partial disclosure (see Williams vSidley Austin Brown & Wood, L.L.P., 38 AD3d 219, 220,832 N.Y.S.2d 9 [1st Dept 2007]; L.K. Sta. Group, LLC vQuantek Media, LLC, 62 AD3d 487, 493, 879 N.Y.S.2d112 [1st Dept 2009]).

In this case, plaintiff's theory of fraud does not restupon a single decisive event which manifestlydemonstrates Goldman's wrongdoing, but on a series ofinterrelated events which, viewed as whole, portray thealleged fraudulent scheme. In essence, plaintiff allegesthat in 2007, the Point Pleasant and Timberwolf securitieswere designed primarily not just as instruments to earnreturns for Goldman's clients but to solve a huge internalproblem Goldman then faced: its enormous financialexposure to residential mortgage-backed securities(RMBS). Specifically, the complaint asserts:

"By no later than late 2006, based on itsextensive involvement in and detailedknowledge of the subprime residentialhome mortgages market, Goldman, at itshighest levels, had arrived at the informed

Page 52014 N.Y. App. Div. LEXIS 580, *8; 2014 NY Slip Op 587, **4

and firm view [*12] that the value ofsecurities in this market would likely gointo sharp decline in the near future. Thissituation presented both a problem and[**6] an opportunity for Goldman. Theproblem was that Goldman held a largeportfolio of such securities, which woulddecline in value as the market fell, andGoldman needed to offload thesesecurities onto third parties. Theopportunity was the potential profit thatGoldman could make by shorting suchsecurities. Goldman devised a plan thatboth addressed its problem and tookadvantage of its opportunity. Puttingprofits before integrity and acting to thedetriment of its own clients, Goldmanconstructed a number of new CDOofferings in early 2007 based on securitiesGoldman deliberately selected for theirpoor quality and likely failure -- manyfrom its own inventory -- and marketedthem aggressively to its clients while atthe same time shorting the market in orderto profit at its clients' expense. Goldmanused these new CDOs as one vehicle forshorting the market. The Point Pleasantand Timberwolf offerings were a key partof this Goldman strategy, and provided avehicle for Goldman to unload its toxicinventory and to profit from the decline[*13] in value of the very securities it wasrecommending that its clients purchase."

On these facts, plaintiff claims that Goldmanengaged in a fraudulent scheme. The fraud claimssufficiently detail the allegations relating to Goldman'sinternal valuation of the securities and the independenceof the underlying asset selection process. They also allegethat Goldman's interests were not really aligned with thefund's interests. Goldman does not dispute that theseallegations, as amplified in the thirty-page complaint, aresufficiently detailed to state a fraud cause of action ofcommon law fraud (affirmative representation andinducement) and fraudulent concealment. Instead,Goldman argues that plaintiff cannot establish theelement of reasonable reliance (an element of bothaffirmative representation and concealment) as a result ofthe disclosures and disclaimers in the offering circulars

for the Point Pleasant and Timberwolf securities.

[HN5] The law is abundantly clear in this state that abuyer's disclaimer of reliance cannot preclude a claim ofjustifiable reliance on the seller's misrepresentations oromissions unless (1) the disclaimer is made sufficientlyspecific to the particular type [*14] of factmisrepresented or undisclosed; and (2) the allegedmisrepresentations or omissions did not concern factspeculiarly within the seller's knowledge (Danann RealtyCorp. v Harris, 5 NY2d 317, 323, 157 N.E.2d 597, 184N.Y.S.2d 599 [1959]; MBIA Ins. Corp v Merryl Lynch, 81AD3d 419, 916 N.Y.S.2d 54 [1st Dept 2011]; Capital ZFin. Servs. Fund II, L.P. v Health Net, Inc., 43 AD3d 100,111, 840 N.Y.S.2d 16 [1st Dept 2007]). Accordingly,only where a written contract contains a specificdisclaimer of responsibility for extraneousrepresentations, that is, a provision that the parties are notbound by or relying upon representations or omissions asto the specific matter, is a plaintiff precluded from laterclaiming fraud on the ground of a prior misrepresentationas to the specific matter (see e.g. Silver Oak CapitalL.L.C. v UBS AG, 82 AD3d 666, 667, 920 N.Y.S.2d 325[1st Dept 2012]; Steinhardt Group v Citicorp, 272 AD2d255, 256, 708 N.Y.S.2d 91). In other words, in view of thedisclaimer, no representations exist and that being so,there can be no reliance (HSH Nordbank AG v UBS AG,95 AD3d 185, 201, 941 N.Y.S.2d 59 [1st Dept 2012]).

In this case, Goldman argues that the disclaimers anddisclosures in the offering circulars are sufficientlyspecific and applicable to information that was eithermisrepresented [*15] or [**7] undisclosed. First,Goldman points out that the offering circulars requiredthe purchaser to disclaim reliance on "any advice, counselor representation "whether oral or written of [the sellers] .. . other than in this offering circular" and concomitantlyadvised the purchaser to "consider and assess forthemselves the likely rate of default of the referencesobligations. . . ." Secondly, Goldman points out that theoffering circulars disclose that "[a]ccording to recentreports, the residential mortgage in the United States hasexperienced a variety of difficulties and change ineconomic conditions that may adversely affect theperformance and Market of RMBS." Thirdly, Goldmanpoints out that the offering circulars disclosed that anaffiliate "will act as the sole Synthetic Securitycounterparty," which would "create a conflict of interest,"and that it would be purchasing credit protection from theCDOs.

Page 62014 N.Y. App. Div. LEXIS 580, *11; 2014 NY Slip Op 587, **5

These disclaimers and disclosures, in our view, fallwell short of tracking the particular misrepresentationsand omissions alleged by plaintiff. As indicated, plaintiffalleges that Goldman structured, marketed and sold thePoint Pleasant and Timberwolf CDOs with the intent[*16] of reducing its long term exposure to subprime riskby betting against them. The complaint further allegesthat Goldman not only knew that it was selling toxicassets (based upon Goldman's internal valuation of thesecurities and its involvement in the underlying assetselection process) to its clients and failed to disclosethose sales to investors, but that Goldman also sought toprofit from its own actions. Yet, the aforementioneddisclosures simply provide boilerplate statementsregarding the speculative and risky nature of investing inmortgaged-backed CDOs and the possibility of marketturns. If plaintiff's allegations are accepted as true, thereis a "vast gap" between the speculative picture Goldmanpresented to investors and the events Goldman knew hadalready occurred.

Nor did Goldman's disclosure that it was taking a"short" position5 in the securities (as indicated by thedisclosure that an affiliate would be acting as a "CDOcounterparty" and purchasing credit protection from theCDOs) remedy this "vast gap" of information.Undoubtedly, such disclosures would have beensufficient to alert a purchaser of mortgage-backedsecurities that the seller would attempt to earn a [*17]profit by exploring "arbitrage" positions in the market6.Plaintiff, however, is alleging more than the fact thatGoldman was a mere [**8] "contrarian" looking tocapitalize on over-priced long RMBS bets that would beunprofitable when the housing prices collapsed, contraryto the general belief at the time that prices wouldcontinue to perpetually rise. Again, plaintiff claims thatGoldman had more than a profit motive. As exhaustivelyexplained in the complaint, plaintiff claims that Goldmannot only structured, marketed and sold Point Pleasant andTimberwolf CDOs, but that it did so with the intent to riditself of long term exposure to subprime mortgages, andto profit by selling them to its clients and betting againstits own long term position.

5 In economics and finance, arbitrage is thepractice of taking advantage of a price differencebetween two or more markets: striking acombination of matching deals that capitalizeupon the imbalance, the profit being thedifference between the market prices (see The

Limits of Arbitrage, Andrei, Robert, Shleifer andVishny, Journal of Finance 52: 35--55 [1977];Convergence Trading with Wealth Effects, Weiand Xiong, The Journal of Financial Economics[*18] 62: 247--292 [2001]).6 Short selling is a method of profiting whensecurity prices fall. If you are "short" a security, itmeans that you expect the price to go down. Thus,in practical terms, going short can be consideredthe opposite of the conventional practice of"going long," whereby an investor profits from anincrease in the price of the asset (see Larry Harris,Trading and Exchange: Market Microstructurefor Practitioners, 41 [2012]).

[HN6] Even if the disclaimers and disclosures wereto be viewed as sufficiently specific, "a purchaser maynot be precluded from claiming reliance onmisrepresentations of facts peculiarly within the seller'sknowledge" (Steinhardt Group Inc., 272 AD2d at 256,citing Tahini Invs. v Bobrowsky, 99 AD2d 489, 490, 470N.Y.S.2d 431 [2d Dept 1984]; see Danann, 5 NY2d at322; China Dev. Indus. Bank v Morgan Stanley & Co.,Inc., 86 AD3d 435, 436, 927 N.Y.S.2d 52 [1st Dept2011]; Swersky v Dreyer & Traub, 219 AD2d 321, 328,643 N.Y.S.2d 33 [1st Dept 1996]).

In this case, plaintiff alleges that because of whatGoldman knew from its role as an underwriter andbecause of what the mortgage investigations conductedon its behalf (Clayton report) revealed, Goldman hadaccess to nonpublic information regarding thedeteriorating [*19] credit quality of subprime mortgages.These allegations are supported by quotes fromGoldman-authored documents, complete with dates andnames, expressing derogatory remarks about the CDOs.These allegations are more than adequate to allege thepeculiar knowledge exception to the disclaimer bar.While evidence may ultimately demonstrate thatGoldman did not have any special knowledge upon whichit relied or which plaintiff could have ascertained byexercising reasonable diligence, "these are issues whichare inappropriate to determine, as a matter of law, basedsolely on the allegations of the complaint" (P.T. BankCent. Asia, N.Y. Branch v ABN AMRO Bank N.V., 301AD2d 373, 378, 754 N.Y.S.2d 245 [1st Dept 2003]); seeMBIA Ins. Corp. v Merrill Lynch, 81 AD3d 419, 916N.Y.S.2d 54 [1st Dept 2011]).

The principal case upon which Goldman relies in

Page 72014 N.Y. App. Div. LEXIS 580, *15; 2014 NY Slip Op 587, **7

support of its disclaimer bar argument, HSH NordbankAG v UBS AG (95 AD3d 185, 941 N.Y.S.2d 59), does notmandate a different result. Nordbank involved a plaintiff,HSH, that entered into a credit default swap with thedefendant, UBS, in which, like here, the plaintiff assumedthe risk of losses on a $2 billion portfolio ofmortgaged-backed securities related to the U.S. market.

Nordbank is inapposite [*20] here for twosignificant reasons. First, unlike here, in Nordbank thedisclaimers and disclosures were sufficiently specific tothe particular type of information allegedlymisrepresented. In Nordbank "the core subject of thecomplained-of-representations was the reliability of thecredit ratings used to define the permissible compositionof the reference pool" (Nordbank, 95 AD3d at 196). Yet,the disclaimers and disclosures "relate directly orindirectly to the reliability of credit ratings in the relevantmarket" (id. at 199). In [**9] view of the disclaimer,this Court held that no representation existed, and thus,there could not have been any reliance (id.).

Secondly, in Nordbank, this Court found that thealleged misrepresentation did not concern facts peculiarlywithin the seller's knowledge. On the contrary, thereliability of the credit ratings could have beenascertained from reviewing market data or other publiclyavailable information (id.). Indeed, the allegations of thecomplaint itself established that HSH could haveuncovered any misrepresentation of the risk of thetransaction through the exercise of reasonable duediligence within the means of a financial institution of[*21] its size and sophistication (id.).

Here, however, neither the complaint nor thedocumentary evidence establishes plaintiff's peculiarknowledge of the misrepresentations and omissions. Inthis regard, this case is more akin to China Dev. Indus.Bank v Morgan Stanley & Co., Inc. (86 AD3d 435, 927N.Y.S.2d 52). There, the plaintiff's fraud claims werebased on facts strikingly similar to those alleged herewith regard to mortgage-backed securities. The plaintiffalleged that the seller of credit default swaps, MorganStanley, fraudulently disposed of "troubled collateral(i.e., predominantly residential mortgage-backedsecurities)" (China Dev., 86 AD3d at 436). This Courtrefused to dismiss the fraud claims based on certaindisclaimers because, like here, the pleadings sufficientlyalleged that the seller possessed peculiar knowledge ofthe facts underlying the fraud (id.; cf. MBIA Ins. Corp. v

Countrywide Home Loans, Inc., 87 AD3d 287, 291-292,928 N.Y.S.2d 229 [1st Dept 2011] [court sustained thesufficiency of a fraud claim based on allegedmisrepresentations "concerning the origination andquality of the mortgage loans underlying"mortgage-backed securities]).

In sum, we find that the motion court properlydeclined [*22] to dismiss the fraud claims since thedisclaimers and disclosures in the offering circulars donot preclude, as a matter of law, plaintiff's claim ofjustifiable reliance on Goldman's misrepresentations andomissions. Of course, discovery will flesh out whetherGoldman's misrepresentations and omissions were thereasons plaintiff invested in Point Pleasant CDOs andTimberwolf credit default swaps, or instead whetherplaintiff merely entered into a bad deal.

We find, however, that the remaining claims shouldhave been dismissed. The negligent representation causeof action should have been dismissed because there is noallegation in the complaint of a relationship of trust andconfidence between the parties (see Mandarin TradingLtd. v Wildenstein, 16 NY3d 173, 180-181, 944 N.E.2d1104, 919 N.Y.S.2d 465 [2011]). Likewise, the unjustenrichment cause of action should have been dismissedbecause the Point Pleasant and Timberwolf transactionswere governed by written agreements. [HN7] The theoryof unjust enrichment is one created in law in the absenceof any agreement (see Goldman v Metropolitan Life Ins.Co., 5 NY3d 561, 572, 841 N.E.2d 742, 807 N.Y.S.2d 583[2005]). Finally, the motion court should have alsodismissed the rescission cause of action because [*23]the complaint fails to allege the absence of "a completeand adequate remedy at law" (see Rudman v CowlesCommunications, 30 NY2d 1, 13, 280 N.E.2d 867, 330N.Y.S.2d 33 [1972]).

Accordingly, the order of the Supreme Court, NewYork County (Shirley Werner Kornreich, J.), enteredOctober 19, 2012, which, insofar as appealed from,denied defendants' motion to compel arbitration or, in thealternative, to dismiss the causes of action for fraud,fraudulent inducement, fraudulent concealment, negligentmisrepresentation, unjust enrichment, and rescission,should be modified, on the law, to the extent of grantingthat part of the motion [**10] seeking to dismiss thecauses of action for negligent misrepresentation, unjustenrichment and rescission, and otherwise affirmed,without costs.

Page 82014 N.Y. App. Div. LEXIS 580, *19; 2014 NY Slip Op 587, **8

All concur except DeGrasse, J. who concurs in aseparate Opinion:

CONCUR BY: DEGRASSE

CONCUR

DEGRASSE, J. (concurring)

This appeal is from an order denying a dispositivemotion by defendants Goldman Sachs Group, Inc.,Goldman Sachs & Co., Goldman Sachs International, andGoldman Sachs & Partners Australia Pty. Ltd.(collectively referred to as Goldman). As relevant to thisappeal, the motion was for an order compellingarbitration, or, in the alternative, dismissing [*24] theclaims for fraud, negligent misrepresentation and unjustenrichment for failure to state a cause of action (CPLR3211[a][7]). Although I have no quarrel with the resultreached by the majority, I write separately primarilybecause, for reasons discussed later in this writing, themajority opinion employs an inapt analysis in itsdiscussion of the facial sufficiency of the fraud cause ofaction.

Plaintiff, Basis Yield Alpha Fund (Master)(BYAFM), alleges that it was defrauded by Goldman'smaterially false statements and omissions in connectionwith an April 17, 2007 sale of a security issued by acollateralized debt obligation (CDO) known as PointPleasant 2007-1, Ltd. as well as BYAFM's June 13, 2007entry into two credit default swaps that referencedsecurities from a similar CDO known as Timberwolf2007-1, Ltd. BYAFM claims to have lost approximately$10 million in the Point Pleasant transaction and $56million in the Timberwolf credit default swaps as a resultof Goldman's conduct.

Preliminarily, I agree that the motion court properlydenied the application to compel arbitration pursuant toCPLR 7501. For reasons outlined by the majority, therecord supports the conclusion that [*25] there was nowritten agreement to arbitrate within the contemplation ofCPLR 7501. Goldman, as the party seeking arbitration,has the burden of establishing an agreement to arbitrate(see e.g. Siegel v 141 Bowery Corp., 51 AD2d 209, 212,380 N.Y.S.2d 232 [1st Dept 1976]). As BYAFM argues,Goldman fails to lay a foundation for the "General Termsand Conditions (GTC)," the document which it profferedas an agreement to arbitrate. Goldman submitted the GTCas an exhibit to the affirmation of its counsel who did not

claim to have personal knowledge of the document, itssource or its significance. Nor was the GTC qualified as abusiness record. As such, there is no evidentiaryfoundation for the GTC and, for that matter, any of thedocuments submitted in support of Goldman's motion.Therefore, the unsworn documents proffered by Goldmanhave no probative value given the absence of such anevidentiary foundation (cf. J.K. Tobin Constr. Co. Inc. vDavid J. Hardy Constr. Co., 64 AD3d 1206, 883 N.Y.S.2d681 [4th Dept 2009]). Goldman correctly cites Olan vFarrell Lines (64 NY2d 1092, 479 N.E.2d 229, 489N.Y.S.2d 884 [1985]), for the proposition that anattorney's affidavit may be used as a vehicle forsubmitting evidence. Such evidence, however, must be inadmissible form (see Zuckerman v City of New York, 49NY2d 557, 562, 404 N.E.2d 718, 427 N.Y.S.2d 595[1980]). [*26] For example, the proof found sufficient inOlan consisted of "evidentiary proof in admissible form"that happened to be "placed before the court by way of anattorney's affidavit" (Olan, 64 NY2d at 1093). Contrary toGoldman's argument, a document lacking evidentiaryfoundation does not become admissible by [**11] mereattachment to an attorney's affirmation. Although themajority finds "a substantial question as to whether theparties agreed to arbitrate," I would go further by sayingthat Goldman failed to make a prima facie showing onthis issue on the basis of the lack of an evidentiaryfoundation for the GTC.

I now turn to the motion to dismiss the fraud claimfor failure to state a cause of action. In sustaining thecomplaint, the court held as follows:

"There are two categories ofrepresentations at issue: representations offact and expressions of opinion. Therepresentations of fact include Goldman'srepresentations to BYAFM about itsinternal marks, the manner in which thereference securities were selected, andGoldman's position as a real counterparty.BYAFM has properly pled all elements offraud as to these representations withsubstantial detail."

The thrust of Goldman's argument [*27] regarding thesufficiency of the fraud claim is based on our holding inHSH Nordbank AG v UBS AG (95 AD3d 185, 941N.Y.S.2d 59 [1st Dept 2012]), a case cited or referenced68 times in the briefs before us. In its opening brief,

Page 92014 N.Y. App. Div. LEXIS 580, *23; 2014 NY Slip Op 587, **10

Goldman argues:"In HSH Nordbank, this Court,

addressing substantively identicalallegations, held that a CDO investorfailed to state a claim because reasonablereliance was precluded as a matter of lawby substantially identical expressdisclaimers of reliance and disclosures inthe offering materials [emphasis added].The trial court erred in failing to followthis binding precedent."

The disclaimers and disclosures referred to by Goldmanare set forth in offering circulars that it claims wereissued to BYAFM.

In HSH, we dismissed a fraud cause of actionpursuant to CPLR 3211(a)(1) and (7), citing undisputeddocumentary evidence that the plaintiff in that case didnot rely on the defendant's advice, assented to inherentconflicts of interest and was warned of risks in theunderlying transaction (HSH, 95 AD3d at 188). It shouldbe noted that HSH involved a motion to dismiss thecomplaint on the basis of a defense founded upondocumentary evidence (CPLR 3211[a][1]) and for failure[*28] to state a cause of action (CPLR 3211[a][7]; HSH,95 AD3d at 192). In this case, Goldman's motion wasmade under CPLR 3211(a)(7) only. The difference issignificant and should be dispositive of Goldman'schallenge to the fraud causes of action.

CPLR 3211(a)(1) may be invoked where it isclaimed that "documentary evidence utterly refutesplaintiff's factual allegations conclusively establishing adefense as a matter of law" (see Goshen v Mut. Life Ins.Co. of N.Y., 98 NY2d 314, 326, 774 N.E.2d 1190, 746N.Y.S.2d 858 [2002] [citation omitted]). On the otherhand, as recently stated by the Court of Appeals, a motionunder CPLR 3211(a)(7) "limits us to an examination ofthe pleadings to determine whether they state a cause ofaction" (Miglino v Bally Total Fitness of Greater N.Y.,Inc., 20 NY3d 342, 351, 985 N.E.2d 128, 961 N.Y.S.2d364 [2013], citing Rovello v Orfino Realty Co., 40 NY2d633, 357 N.E.2d 970, 389 N.Y.S.2d 314 [1976]).Therefore, contrary to what the majority holds today, thedisclaimers and disclosures in the offering circulars andother documents Goldman relies upon are of no momentfor purposes of this CPLR 3211(a)(7) motion. AsBYAFM aptly argued [**12] below, there was no basisfor the motion court to consider documents outside the

complaint at this stage of the proceeding.

Contrary [*29] to what the Court held in Miglino,the majority posits that it "is not a completely accuratestatement of the law" to say "that this Court is limited tothe pleadings, when reviewing a motion to dismisspursuant to CPLR 3211(a)(7) . . ." The majority goes onto partially quote Rovello as saying that "evidence in anaffidavit used by a defendant to attack the sufficiency of apleading will seldom if ever warrant the relief [thedefendant] seeks unless [such evidence] conclusivelyestablishes that plaintiff has no cause of action'" (seeRovello, 40 NY2d at 636). It is unclear how this partialquotation supports the majority's position. It does,however, distort what the Court of Appeals said inRovello by conflating evidence with affidavits. To beprecise, the Rovello Court said: "It seems that after theamendment of 1973 affidavits submitted by the defendantwill seldom if ever warrant the relief he seeks unless toothe affidavits establish conclusively that plaintiff has nocause of action [emphases added]" (id.). Here, themajority overlooks the fact that affidavits anddocumentary evidence have two different roles forpurposes of CPLR 3211(a) motions (see Regini v Boardof Mgrs. of Loft Space Condominium, 107 AD3d 496,497, 968 N.Y.S.2d 18 [1st Dept 2013]; [*30] Fontanettav John Doe 1, 73 AD3d 78, 85, 898 N.Y.S.2d 569 [2dDept 2010]). As stated by the Court of Appeals:

"Under CPLR 3211(a)(1), a dismissal iswarranted only if the documentaryevidence submitted conclusivelyestablishes a defense to the asserted claimsas a matter of law (see e.g. Heaney vPurdy, 29 NY2d 157, 272 N.E.2d 550, 324N.Y.S.2d 47). In assessing a motion underCPLR 3211(a)(7), however, a court mayfreely consider affidavits submitted by theplaintiff to remedy any defects in thecomplaint (Rovello v Orfino Realty Co.,supra, at 635) . . . (Leon v Martinez, 84NY2d 83, 88, 638 N.E.2d 511, 614N.Y.S.2d 972 [1994])"1

1 It is unfortunate for stare decisis that thisdistinction, articulated by the Court of Appeals,"makes no sense" to the majority. Moreover, themajority's thesis that a CPLR 3211(a)(7) motion

Page 102014 N.Y. App. Div. LEXIS 580, *27; 2014 NY Slip Op 587, **11

may be supported by documentary evidence isunsupported, if not belied, by the cases it cites.For example, the underlying motions, like themotion in HSH, were made under CPLR3211(a)(1) as well as (a)(7) in Constructamax,Inc. v Dodge Chamberlin Luzine Weber, Assoc.Architects, LLP (109 AD3d 574, 971 N.Y.S.2d 48[2nd Dept 2013]), Rabos v R & R Bagels &Bakery (100 AD3d 849, 955 N.Y.S.2d 109 [2ndDept 2012]) and Kliebert v McKoan (228 AD2d232, 643 N.Y.S.2d 114 [1st Dept 1996], lv denied89 NY2d 802, 675 N.E.2d 1232, 653 N.Y.S.2d 279[1996]). [*31] Board of Managers of theFairways of N. Hills Condominiums v Fairwaysat N. Hills (150 AD2d 32, 545 N.Y.S.2d 343 [2ndDept 1989] involves a motion for summaryjudgment. The motion in Skillgames, LLC v Brody(1 AD3d 247, 767 N.Y.S.2d 418 [1st Dept 2003])was made on the basis of an affidavit as opposedto documentary evidence.

The majority also sidesteps a threshold issueregarding the purported Timberwolf offering [**13]circular that it has decided to consider with respect to theinstant CPLR 3211(a)(7) motion. As stated in its brief,BYAFM categorically denies that it ever entered into anycontract that references or incorporates the Timberwolfoffering circular and it does not reference or rely upon thesame in its complaint. Goldman, in no position to argueotherwise, does not touch upon BYAFM's assertion in itsreply brief. Like the GTC submitted in support of themotion to compel arbitration, the offering circular lacksan evidentiary foundation because it is merely annexed tocounsel's affirmation (cf. J.K. Tobin Constr. Co., Inc. vDavid J. Hardy Constr. Co., Inc., 64 AD3d at 1206,1206). Nevertheless, without resolving the issue, themajority unnecessarily passes upon the legal effect of adocument that lacks foundation in the [*32] record.

As the majority notes, BYAFM's objection to the useof documentary evidence was waived because it was notset forth in its respondent's brief. The discussion,however, does not end there. The issue is not beyond ourreview since it was briefed before the motion court.

"The fact that a party abandons or failsto urge a particular line of reasoning doesnot prevent an appellate court fromsustaining such contention for that veryreason. The appellate court is not required

to reject a contention sound in its ultimateconclusion because the path followed inreaching it is different from the onemarked out in the argument of counselbefore it" (10A Carmody-Wait 2d §70:490, citing Morris Plan Co. of NewYork v Globe Indem. Co., 253 NY 496, 171N.E. 756 [1930]).

As we stated in Fenton v Consolidated Edison Co. of N.Y.(165 AD2d 121, 566 N.Y.S.2d 227 [1st Dept 1991], lvdenied 78 NY2d 856, 580 N.E.2d 409, 574 N.Y.S.2d 937[1991]), "[T]he fact that [the appellant] limited the scopeof its appeal is of no moment since [the respondent] isentitled to have the determination affirmed on any groundhe properly raised before the IAS court" (id. at 125). AsBYAFM challenged Goldman's use of purporteddocumentary evidence below, our review is notcircumscribed [*33] by the arguments made in itsrespondent's brief. In this case, the better course wouldhave been to disregard the proffered documentaryevidence and construe CPLR 3211(a)(7) as narrowly asthe Court did in Miglino. This is especially true becauseno foundation for the Timberwolf offering circular hasbeen established (see Miglino, 20 NY3d at 351).

In my view, the complaint is sufficient to withstandGoldman's CPLR 3211(a)(7) motion insofar as it allegesa scheme devised and executed for the specific purposeof defrauding BYAFM by selling the Point Pleasantsecurity and the Timberwolf credit default swaps formore than they were worth (see e.g. CPC Int'l Inc. vMcKesson Corp., 70 NY2d 268, 286, 514 N.E.2d 116,519 N.Y.S.2d 804 [1987]). The fraud cause of action isalso sustainable to the extent that it is alleged thatGoldman falsely stated that it had only one mark (opinionof value) for each of its securities in response toBYAFM's inquiry regarding same. Notwithstanding thearm's length nature of the transactions described in thecomplaint, such a false representation is actionable sinceGoldman, having assumed to respond to BYAFM'sinquiry, was "under a duty to speak fully and truthfully'"(see e.g. Atlantic Bank of N.Y. v Carnegie Hall Corp., 25AD2d 301, 305, 268 N.Y.S.2d 941 [1st Dept 1966]).[*34] I am in accord with the dismissal of the negligentmisrepresentation, unjust enrichment and rescissioncauses of [**14] action for the reasons given by themajority.

Order, Supreme Court, New York County (Shirley

Page 112014 N.Y. App. Div. LEXIS 580, *30; 2014 NY Slip Op 587, **12

Werner Kornreich, J.), entered October 19, 2012,modified, on the law, to the extent of granting that part ofthe motion seeking to dismiss the causes of action fornegligent misrepresentation, unjust enrichment andrescission, and otherwise affirmed, without costs.

Opinion by Renwick, J. All concur except DeGrasse,J. who concurs in a separate Opinion.

Tom, J.P., Acosta, Renwick, DeGrasse, Richter, JJ.

THIS CONSTITUTES THE DECISION ANDORDER OF THE SUPREME COURT, APPELLATEDIVISION, FIRST DEPARTMENT.

ENTERED: JANUARY 30, 2014

Page 122014 N.Y. App. Div. LEXIS 580, *34; 2014 NY Slip Op 587, **14

[**2] HSH NORDBANK AG, et al., Plaintiffs, -against- THE GOLDMAN SACHSGROUP, INC., et al., Defendants.

Index No. 652991/12

SUPREME COURT OF NEW YORK, NEW YORK COUNTY

2013 N.Y. Misc. LEXIS 5531; 2013 NY Slip Op 33015(U)

November 26, 2013, Decided

NOTICE: THIS OPINION IS UNCORRECTED ANDWILL NOT BE PUBLISHED IN THE PRINTEDOFFICIAL REPORTS

JUDGES: [*1] PRESENT: MELVIN L.SCHWEITZER, Justice.

OPINION BY: MELVIN L. SCHWEITZER

OPINION

DECISION AND ORDER

MELVIN L. SCHWEITZER, J.:

In this action, HSH Nordbank AG, HSH NordbankAG, Luxembourg Branch, HSH Nordbank AG, NewYork Branch, HSH Nordbank Securities S.A., andCarrera Capital Finance Limited (collectively Nordbank)assert various claims against The Goldman Sachs Group,Inc., Goldman Sachs Real Estate Funding Corp., GSMortgage Securities Corp., Goldman Sachs MortgageCompany, Goldman, Sachs & Co., and Goldman SachsInternational (collectively Goldman Sachs) in connectionwith the sale of residential mortgage-backed securities.Nordbank alleges that Goldman Sachs violated the lawsof New York and is liable for fraud, fraudulentconcealment, negligent misrepresentation, and aiding andabetting fraud. In the alternative, Nordbank alleges thatthe sale of the securities should be rescinded on the

grounds of mutual mistake. Goldman Sachs has moved todismiss the complaint pursuant to CPLR 3016 (b), 3211(a) (1), 3211 (a) (5) and 3211 (a) (7).

Background

The following facts are drawn from the complaint,and are taken as true with all reasonable inferences drawnin favor of Nordbank for the purposes of this motion [*2]to dismiss.

[**3] HSH Nordbank AG is a financial institutionincorporated in Germany with offices around the world,including in New York. Between 2005 and 2006,Nordbank purchased securities, known as Certificates, insix different residential mortgage-backed securities(RMBS) offerings. The Certificates were the outcome ofa complex securitization process. Before it made eachpurchase, Nordbank received information from GoldmanSachs about the Certificates and the securitization processin registration statements, prospectuses, prospectussupplements, free writing prospectuses, term sheets, andvarious other materials (the Offering Materials).

The Goldman Sachs Group, Inc. is the ultimateparent company of the various Goldman Sachs entitiesand the seller of the Certificates. Goldman Sachsparticipated in all aspects of the securitization process,including acting as the depositor, sponsor and leadunderwriter on all but one of the offerings.1 GoldmanSachs also prepared the Offering Materials, which

Page 1

included various metrics and representations regardingthe quality and nature of the various pools of loans thatcollateralized the Certificates. The gravamen of thecomplaint is that Goldman [*3] Sachs knew that thesemetrics and representations were false, but did not alertNordbank.

1

Nordbank asserts its fraud claimswith respect to only the followingfive offerings: GSAMP 2005-HE4;GSAMP 2006-HE2; GSAMP2006-HE3; GSAMP 2006-NC1;and GSAMP 2006-NC2.

Nordbank alleges that Goldman Sachs knew thatloan originators had systematically abandonedunderwriting guidelines described in the OfferingMaterials. It alleges that Goldman Sachs knowinglyreported false credit ratings, owner-occupancypercentages, appraisal amounts, and loan-to-value ratios.It alleges that although Goldman Sachs representedotherwise in the Offering Materials, Goldman Sachsnever intended to properly effectuate transfer of theunderlying notes and mortgages that collateralized theCertificates.

[**4] Discussion

Goldman Sachs moves to dismiss the claims astime-barred under German law. Goldman Sachsadditionally argues that Nordbank has not adequatelypleaded justifiable reliance, scienter, or loss causation, orany actionable material misrepresentations. GoldmanSachs further asserts that Nordbank has failed to state aclaim for mutual mistake or for negligentmisrepresentation. The motion is granted as to the claim[*4] for negligent misrepresentation as well as to thefraud claims for statements regarding credit ratings andassignment and transfer, but is otherwise denied.

On a motion to dismiss for failure to state a cause ofaction, the court accepts all factual allegations pleaded inplaintiff's complaint as true, and gives plaintiff the benefitof every favorable inference. CPLR 3211 (a) (7); SheilaC. v Povich, 11 AD3d 120, 781 N.Y.S.2d 342 (1st Dept2004). The court must determine whether "from the[complaint's] four corners[,] 'factual allegations arediscerned which taken together manifest any cause of

action cognizable at law." Gorelik v Mount Sinai Hosp.Ctr., 19 AD3d 319, 797 N.Y.S.2d 497 (1st Dept 2005)(quoting Guggenheimer v Ginzburg, 43 NY2d 268, 275,372 N.E.2d 17, 401 N.Y.S.2d 182 (1977)). Vague andconclusory allegations are not sufficient to sustain a causeof action. Fowler v American Lawyer Media, Inc., 306AD2d 113, 761 N.Y.S.2d 176 (1st Dept 2003).

On a motion to dismiss on the ground that defensesare founded upon documentary evidence, the evidencemust be unambiguous, authentic and undeniable. CPLR3211 (a) (1); Fontanetta v Doe, 73 AD3d 78, 898N.Y.S.2d 569 (2d Dept 2010). "To succeed on a [CPLR3211 (a) (1)] motion . . . a defendant must show that thedocumentary evidence upon [*5] which the motion ispredicated resolves all factual issues as a matter of lawand definitively disposes of the plaintiff's claim."Ozdemir v Caithness Corp., 285 AD2d 961, 963, 728N.Y.S.2d 824 (3d Dept 2001), leave to appeal denied 97NY2d 605, 762 N.E.2d 930, 737 N.Y.S.2d 52. In otherwords, "documentary evidence [must] utterly refuteplaintiff's factual [**5] allegations, conclusivelyestablishing a defense as a matter of law." Goshen vMutual Life Ins. Co. of New York, 98 NY2d 314, 326, 774N.E.2d 1190, 746 N.Y.S.2d 858 (2002).

I. Statute of Limitations

As an initial matter, Goldman Sachs argues thatNordbank's claims are barred by the applicable three-yearGerman statute of limitations. Limitations-basedarguments in RMBS fraud actions have not generallybeen accepted at the motion to dismiss phase. See e.g.Capital Ventures Intern. v J.P. Morgan MortgageAcquisition Corp., 2013 U.S. Dist. LEXIS 19227, 2013WL 535320, at *7 (D Mass 2013); In re Countrywide FinCorp Mortgage-Backed Secs., 2012 U.S. Dist. LEXIS59620, 2012 WL 1322884, at *4 (CD Cal 2012]); AllstateIns Co v Morgan Stanley, No. 651840/2011, 2013 N.Y.Misc. LEXIS 2238, 2013 WL 2369953, at *9 (NY Sup Ct2013). As Judge Pfaelzer aptly explained in Allstate:

Defendants have cited a number ofarticles from 2007 that either make or hintat this same connection. As in Allstate it ispossible, perhaps [*6] probable, thatDefendants will ultimately demonstratethat a reasonable investor was on inquirynotice by August 31, 2007. However,2007 was a turbulent time during which

Page 22013 N.Y. Misc. LEXIS 5531, *2; 2013 NY Slip Op 33015(U), **3

the causes, consequences, and interrelatednatures of the housing downturn andsubprime crisis were still being workedout. The Court cannot, based solely on theFAC and judicially noticeable documents,conclude that by August 31, 2007 areasonably diligent investor should havelinked increased defaults anddelinquencies in the loan pools underlyingthe Certificates with both a failure tofollow the underwriting and appraisalguidelines specified in the OfferingDocuments and the possibility that thetranches purchased by MassMutual wouldsuffer losses. That is the link that areasonable investor would have needed tomake in order to know that somethingmaterial was amiss with the OfferingDocuments for the particular tranches thatare at issue in this case. Accordingly, theCourt DENIES Defendants' motions todismiss based on the statute of limitations.

Allstate v Morgan Stanley, 2013 N.Y. Misc. LEXIS 2238,2013 WL 2369953, at *8 (quoting In re Countrywide FinCorp Mortgage-Backed Secs, 2012 U.S. Dist. LEXIS59620, 2012 WL 1322884, at *4). Judge Pfaelzer alsonoted that [*7] in a fraud case involving a scienterelement, plaintiffs would have a difficult task inobtaining sufficient notice [**6] of the facts underlyingtheir claims. In re Countrywide Fin CorpMortgage-Backed Secs, 2012 U.S. Dist. LEXIS 59620,2012 WL 1322884, at *4

Under section 195 of the German Civil Code, thelimitation period for contract-based claims and claims forfraud is three years and exists primarily to protect thedefendant from "unjustified, unknown, or unexpectedclaims." According to Uwe Schneider, a professor ofGerman corporate and securities law:

The limitations period commences at theend of the first calendar year by whichtime both (a) the claim arose and (b) theclaimant obtains knowledge of thecircumstances giving rise to the claim andthe identity of the defendant, or wouldhave obtained such knowledge if he or shehad not shown gross negligence.

Based on a tolling agreement both parties executed in2011, Goldman Sachs argues the claims are time-barredif Nordbank had knowledge of the circumstances givingrise to the claims by December 31, 2007.

As evidence that Nordbank had such knowledge,Goldman Sachs has provided the court with a number ofpress reports, lawsuits and other information that wasavailable [*8] to the public in 2007. Goldman Sachsclaims this information "demonstrate[s] that Nordbankknew, or was grossly negligent in not knowing, of itsclaims by the end of 2007." Nordbank responds thatinformation available in 2007 did not put Nordbank onnotice that "Goldman Sachs knowingly failed to excludebad loans from the securitizations at issue, or thatGoldman Sachs intentionally or recklessly misdescribedthe loans in the Offering Materials."

The court is unable to determine whether Nordbankhad sufficient notice of its claims in 2007 at this stage ofthe proceedings. Goldman Sachs largely relies on newsreports from the fall of 2007 that indicate that Germanbanks and investors were "already considering whether toturn to the U.S. courts to seek restitution." Information ofthis nature does not establish as a [**7] matter of lawthat Nordbank was grossly negligent in not learning of itsclaims against Goldman Sachs before the end of 2007.The court agrees with Nordbank's argument that thislanguage is essentially speculative, and does not indicatethat Nordbank could have deduced facts sufficient tosupport its claims for fraud with respect to the sale ofspecific Certificates at issue [*9] in this lawsuit.

While Nordbank may have had notice in 2007 thatloan originators were not following their underwritingguidelines, there is nothing to suggest that Nordbankknew or should have known that the Offering Materialsfor each of the Certificates it had purchased containedfalse statements, and critically, that Goldman Sachs knewabout them. See Allstate, 2013 N.Y. Misc. LEXIS 2238,2013 WL 2369953, at *9 ("The collapse of the variousloan originators . . . would not necessarily appriseplaintiffs that Morgan Stanley was complicit in theirwrongdoing").

In any case, Goldman Sachs will be given theopportunity to fully develop a factual record that willmore clearly indicate whether Nordbank in fact hadsufficient notice under German law that it had viableclaims against Goldman Sachs in 2007.

Page 32013 N.Y. Misc. LEXIS 5531, *6; 2013 NY Slip Op 33015(U), **5

II. Fraudulent Misrepresentation

The elements of a claim of fraud under New Yorklaw are "(1) a material misrepresentation of a fact, (2)knowledge of its falsity, (3) an intent to induce reliance,(4) justifiable reliance by the plaintiff, and (5) damage."Eurycleia Partners, LP v Seward & Kissel, LLP, 12 NY3d553, 559, 910 N.E.2d 976, 883 N.Y.S.2d 147 (2009).Under CPLR 3016(b), these elements must be stated indetail. As discussed below, Nordbank [*10] hasadequately alleged each element of its fraud claim withrespect to certain alleged misrepresentations, but not as toall of the alleged misrepresentations.2

2

Nordbank's fraud claims includeseach of the securities listed inTable 1 of the complaint, exceptthe FBR Securitization Trust(FBRSI) 2005-2.

[**8] 1. Misrepresentations

The complaint alleges the Offering Materialscontained a number of false or misleading statements.Nordbank accuses Goldman Sachs of falsely representingthat the mortgages backing the securities complied withthe originators underwriting standards and conformed tocertain metrics including appraisal values, loan-to-valueratios and owner occupancy rates. Nordbank also allegesthat Goldman Sachs knowingly made falserepresentations concerning the accuracy of theCertificate's credit ratings, as well as the schedule onwhich the mortgages would be assigned and transferredto the respective issuers of the securities. Goldman Sachsmoves to dismiss the complaint on the grounds that noneof the various alleged misrepresentations are actionable.

Compliance with Underwriting Guidelines

With respect to allegations that it falsely representedthat the mortgages in the pools [*11] collateralizing theCertificates were underwritten in compliance withoriginators' own guidelines, Goldman Sachs argues thatthe representations were in fact not false. Goldman Sachsasserts that the Offering Materials indicated thatstandards were only followed "generally" and that theyfurther disclosed that originators could depart from

guidelines based on certain exceptions.

Allegations of widespread abandonment ofunderwriting guidelines have been found sufficient tosustain a claim for fraudulent misrepresentation evenwhere the pre-deal representations included generaldisclaimers that exceptions could occur in the presence ofcertain compensating factors. See e.g. In re IndyMacMortgage-Backed Sec Litig, 718 F Supp 2d 495, 509(SDNY 2010) ("The crux of plaintiffs' claims, however, isthat IndyMac Bank ignored even those watered-downunderwriting standards, including the standards forgranting [**9] exceptions . . . . disclosures regarding therisks stemming from the allegedly abandoned standardsdo not adequately warn of the risk the standards will beignored."); Stichting Pensioenfonds ABP v Credit SuisseGroup AG, 38 Misc. 3d 1214[A], 966 N.Y.S.2d 349, 2012NY Slip Op 52433[U], 2012 WL 6929336, at *8 (NY SupCt Nov. 30, 2012).3 Accordingly, [*12] Nordbank'sallegations of widespread abandonment of underwritingguidelines are sufficient to withstand a motion to dismiss.

3

See also New Jersey CarpentersVacation Fund v Royal Bank ofScotland Grp, PLC, 720 F Supp 2d254, 270 (SDNY 2010)("Disclosures that describedlenient, but nonetheless existingguidelines about risky loancollateral, would not lead areasonable investor to concludethat the mortgage originators couldentirely disregard or ignore thoseloan guidelines."); Tsereteli vResidential Asset SecuritizationTrust 2006-A8, 692 F Supp 2d 387,392 (SDNY 2010) (allegations of"widespread abandonment ofunderwriting guidelines atIndyMac Bank during the period oftime at issue and that thepercentage of 'defaulting' loansrose dramatically shortly after theCertificates were issued . . . createa sufficient nexus between thealleged underwriting standardabandonment and the loansunderlying the Certificates");

Page 42013 N.Y. Misc. LEXIS 5531, *9; 2013 NY Slip Op 33015(U), **7

Allstate v Morgan Stanley, 2013N.Y. Misc. LEXIS 2238, 2013 WL2369953, at *13 ("defendants havemerely identified boilerplatedisclaimers and disclosures in therelevant offering documents thatdid not disclose the risk of asystematic disregard forunderwriting standards" (internalquotations [*13] omitted)).

Appraisal Values, Loan-to-Value Ratios, andOwner-Occupancy Rates

The alleged misrepresentations regarding appraisalvalues, loan-to-value ratios and owner-occupancy ratesalso stand. Nordbank's own investigation and loan-levelanalysis 4 yielded materially different information thanwhat was represented in the Offering Materials. TheOffering Materials represented that none of themortgages for each security had combined loan-to-value(CLTV) ratios above 100%. Mortgages with CLTV ratioshigher than 100% have been referred to as "underwater"and are far more likely to default. Nordbank alleges thatbetween 10.08% and 28.81% of the loans it sampled in itsinvestigation had CLTV ratios over 100%.Owner-occupancy statistics are also of critical importancein evaluating the risk of [**10] securitization ofresidential mortgages as occupied houses are significantlyless likely to default. Nordbank's investigation revealedthat between 12.2% and 17.9% of the mortgages backingthe Certificates had owner-occupancy circumstances thatwere allegedly misstated in the Offering Materials.

4

Goldman Sachs's attempt toundermine Nordbank's forensicinvestigation is premature at thisstage. See Capital Ventures Int'l vUBS Sec LLC, CIV.A.11-11937-DJC, 2012 U.S. Dist.LEXIS 140663, 2012 WL 4469101(D. Mass. Sept. 28, 2012) [*14] ;Bank Hapoalim BM v Bank of AmCorp, 12-CV-4316-MRP MANX,2012 U.S. Dist. LEXIS 184540,2012 WL 6814194 (C.D. Cal. Dec.

21, 2012) ("the Court must assumethat the AVM accurately reflectsthe ultimate sales prices of thehomes."). Whether themethodology used by Nordbank toshow that loan-to-value ratios wereinaccurate and to show thatborrowers did not in fact live in thehomes that were designatedowner-occupied is an evidentiaryissue and a question of fact. SeeAllstate Ins Co v Ace Sec Corp,2013 N.Y. Misc. LEXIS 3531, 2013WL 4505139, at * 13.

The statements regarding appraisal values andloan-to-value ratios and owner-occupancy rates are onlyactionable if Goldman Sachs did not believe therepresentations to be accurate at the time they were made.The court finds that Nordbank has sufficiently allegedthat Goldman Sachs had knowledge that originators weredeliberately inflating appraisal values to artificially obtainunderstated CLTV ratios that corresponded with lowerrisk. As evidence of Goldman Sachs's knowledge,Nordbank alleges that Goldman Sachs negotiateddiscounts for defective loans based on information itreceived before and during [*15] the preparation of theOffering Materials. The information was allegedlyprovided to Goldman Sachs by a diligence provider thathad scrutinized many aspects of the underwriting process,including loan-to-value ratios and owner-occupancyrates.5

5

See Part II, sec. 2, infra("Scienter").

Because Nordbank alleges that Goldman Sachs madethese representations with knowledge of their falsity, thecomplaint sufficiently describes actionablemisrepresentations regarding appraisal values,loan-to-value ratios, and owner-occupancy rates. See e.g.MBIA Ins Corp v Countrywide Home Loans, Inc, 87A.D.3d 287, 294, 928 N.Y.S.2d 229 (1st Dept 2011); In reBear Stearns Mortg Pass-Through Certificates Litig, 851F Supp 2d 746, 769 (SDNY 2012); Bank Hapoalim BM vBank of Am Corp, 2012 U.S. Dist. LEXIS 184540, 2012

Page 52013 N.Y. Misc. LEXIS 5531, *12; 2013 NY Slip Op 33015(U), **9

WL 6814194, at *6; Capital Ventures v JP Morgan, 2013U.S. Dist. LEXIS 19227, 2013 WL 535320, at *5 [**11]Allstate v Ace Sec Corp, 2013 N.Y. Misc. LEXIS 3531,2013 WL 4505139, at *13 (misrepresentations regardingthe appraisal process, owner-occupancy rates andloan-to-value ratios were adequately alleged).

Assignment and Transfer of the Notes and Mortgages

The alleged misrepresentations regarding theassignment and transfer of the notes and mortgages arenot pleaded with sufficient particularity to survive [*16]the motion to dismiss. Because the representation totransfer the notes and mortgages was obviously astatement of future intent, a claim for fraud must bepremised on the fact that Goldman Sachs knew at thetime it issued the Certificates that proper transfer wouldnot be effectuated. Fatally, the allegations regardingGoldman Sachs's knowledge in this regard are whollyinsufficient.

Nordbank alleges that Goldman Sachs knowinglyengaged in a continuing and deliberate practice of noteffectuating transfers of notes and mortgages to theissuers of the Certificates. But Nordbank only offersconclusory allegations that Goldman Sachs had such apractice and that Goldman had a present but undisclosedintention to continue that practice. The complaint fails tosupply any factual allegations indicating that GoldmanSachs engaged in any such deliberate practice. Cf. W & SLife Ins Co v Countrywide Fin Corp, No.11-CV-7166-MRP, 2012 U.S. Dist. LEXIS 184429 (C.D.Cal. June 29, 2012) (Investors' remedy for allegedviolations of the purchase and sale agreement is to sue thetrusts for breach of contract and breach of fiduciaryduties.).

The allegations regarding the transfer andassignment representations fail to satisfy the [*17]requirements of CPLR 3016(b). Accordingly, the courtgrants the motion to dismiss with respect to thestatements regarding assignment and transfer.

Credit Ratings

Similarly, Nordbank's allegations concerningrepresentations about the accuracy of the credit ratingsare not pleaded with sufficient particularity. Nordbankalleges that Goldman Sachs [**12] knew at the time therepresentations were made that the ratings were notaccurate because it had essentially fed inaccurate data

into the ratings system. Nordbank does not identify theinaccurate data that was allegedly provided to the ratingagencies, much less how and when such information wasprovided. Without particular factual allegations thatGoldman Sachs provided false or incomplete informationto the credit agencies such that it knew the ratings wereinaccurate, Nordbank cannot state a claim for fraudulentmisrepresentation. Compare In re Nat'l CenturyInvestment Litig., 2008 WL 2872279 (S.D. Ohio July 22,2008) with M&T Bank Corp v Gemstone CDO VII, Ltd,68 A.D.3d 1747, 1749, 891 N.Y.S.2d 578 (4th Dept 2009)(sustaining claim for fraudulent nondisclosure wherecomplaint identified specific relevant information thatwas withheld from ratings agencies); [*18] Stichting,2012 NY Slip Op 52433[U], 2012 WL 6929336, at *9(same).

2. Nordbank has Adequately Pleaded Scienter.

Goldman Sachs disputes the adequacy of Nordbank'sallegations of scienter. To state a claim for fraud, aplaintiff must allege some "rational basis for inferringthat the alleged misrepresentations were knowinglymade." Houbigant, Inc v Deloitte & Touche LLP, 303AD2d 92, 93, 753 N.Y.S.2d 493 (1st Dept 2003). Theseallegations must meet the heightened pleading standardof CPLR 3016(b), but this "requirement should not beconfused with unassailable proof of fraud." Pludeman v NLeasing Sys Inc, 10 NY3d 486, 492, 890 N.E.2d 184, 860N.Y.S.2d 422 (2008). This is a more lenient test than theSecond Circuit's "strong inference of fraud" test, andrequires only that the complaint include "facts fromwhich it is possible to infer defendant's knowledge of thefalsity of its statements." Houbigant, 303 AD2d at 99;Stichting, 2012 NY Slip Op 52433[U], 2012 WL 6929336,*9.

"In a case involving RMBS', 'the allegations of themortgage loans material and pervasive non-compliancewith the Seller's underwriting Guide and the mortgageloan representations are sufficient non-compliance fromwhich Defendant's scienter can be inferred.'" Allstate vMorgan Stanley, 2013 N.Y. Misc. LEXIS 2238, 2013 WL2369953, at *10 [**13] (quoting [*19] MBIA Ins Co vMorgan Stanley, 2011 N.Y. Misc. LEXIS 6827, 2011 WL2118336, at *4-5 (NY Sup Ct May 26, 2011)). Thecomplaint alleges widespread abandonment ofunderwriting guidelines by a number of loan originators,including MILA, Inc., Fremont Investment and Loan,New Century Financial Corporation, Meritage Mortgage

Page 62013 N.Y. Misc. LEXIS 5531, *15; 2013 NY Slip Op 33015(U), **10

Corporation, Aames Investment Corporation, ResMAE.

To further establish that Goldman Sachs knowinglymisrepresented that loan originators complied withunderwriting standards, the complaint includesallegations regarding Goldman Sachs's use of athird-party due diligence provider to review the quality ofunderlying loans. Nordbank alleges that this diligenceprovider furnished Goldman Sachs with "detailedreports" regarding the quality of the underlyingmortgages "prior to and during the preparation of theOffering Materials." In 2007, the diligence providerinformed Goldman Sachs that a significant portion of thesoon-to-be-securitized loans did not meet underwritingstandards.6 Nordbank alleges that the due diligenceprovider provided Goldman Sachs with knowledge thatCLTV ratios, owner-occupancy rates, and appraisalvalues represented in the Offering Materials for each ofthe securities were false. [*20] But instead of informingits investors of these deficiencies or asking the originatorsto repurchase the loans, Nordbank alleges that GoldmanSachs instead negotiated discounts of the purchase priceand waived these loans into the pool.

6

Goldman Sachs's argument thatthis exact due diligence reportcannot support an inference that itacted with fraudulent intent hasalready been explicitly rejected byone court. See Fed Hous FinAgency v JPMorgan Chase & Co,902 F Supp 2d 476, 492 n 15(SDNY 2012). Although GoldmanSachs may not have had access tothe report itself when theymarketed the Certificates, thereport did serve as evidence ofinformation that wascommunicated to Goldman Sachs"on a rolling basis between the firstquarter of 2006 and the secondquarter of 2007." Id. Similarly,Nordbank alleges that GoldmanSachs received information fromits due diligence provider duringthis period. Accordingly, the courtadopts the sound reasoning ofFHFA v JPMorgan and finds that

the due diligence report in questionmay in fact serve to supportNordbank's allegations offraudulent intent with respect tothe Certificates purchased duringand after the first quarter of 2006.

[**14] These allegations [*21] allow a reasonableinference that Goldman Sachs acted with fraudulentintent when it represented that loan originators compliedwith underwriting guidelines. Goldman Sachs not onlyallegedly had access to information indicating a"wholesale abandonment of underwriting standards," seePlumbers Union Local No 12 Pension Fund v NomuraAsset Acceptance Corp, 632 F3d 762, 773 (1st Cir 2011),but it also had both the motive and a clear opportunity torealize greater profits by negotiating discounts for loansthat did not meet underwriting standards. See alsoStichting, 2012 NY Slip Op 52433[U], 2012 WL 929336,at *10 (finding reasonable inference of scienter based on,inter alia, defendant's demand for extra compensationfrom originators for poor quality loans); Phoenix LightSF Ltd v Ace Secs Corp., 39 Misc. 3d 1218[A], 2013 N.Y.Slip Op. 50653[U], 2013 WL 1788007, at *2 (NY Sup CtApr 24, 2013) (denying motion to dismiss fraud claimswhere defendant negotiated a lower purchase pricebecause underlying loans did not comply with statedunderwriting guidelines).

Nordbank alleges that the relationship betweenGoldman Sachs and the loan originators was such thatGoldman knew or should have known that therepresentations in the Offering Materials regarding thequality [*22] of the pooled mortgages were false. Courtshave found that scienter can be adequately pleaded byalleging that the issuer of securities was also a loanoriginator with "knowledge of the true characteristics andcredit quality of the mortgage loans." Fed Hous FinAgency ("FHFA") v JP Morgan, 902 F Supp 2d at 492;see also Stichting, 2012 NY Slip Op 52433[U], 2012 WL929336, at * 10.

Here, although Goldman Sachs was not technically aloan originator, Goldman's role as a warehouse lenderstrongly suggests it had access to information regardingthe "true characteristics and credit quality of themortgage loans." FHFA v JP Morgan, 902 F Supp 2d at492. For example, Goldman Sachs served as a majorwarehouse lender for MILA, Inc., an [**15] originator

Page 72013 N.Y. Misc. LEXIS 5531, *19; 2013 NY Slip Op 33015(U), **13

of residential loans that were ultimately securitized byGoldman Sachs and sold to Nordbank. Goldman Sachs'sclose relationship with originators like MILA, Inc. putGoldman Sachs in the unique position to observeoriginators' lax lending practices before the mortgageswere pooled and securitized.

Goldman Sachs's role as a warehouse lender wouldhave provided a strong incentive to quickly securitizefraudulent loans and not reveal their dismal quality. If theoriginators that [*23] Goldman Sachs financed had everdefaulted, Goldman Sachs would presumably be saddledwith the bad loans that secured the warehouse loans. Bysecuritizing the loans and selling the resulting securitiesas fast as possible, Goldman Sachs could instead unloadthe risk that the loans would default while they were stillon its books. See China Dev Indus Bank v MorganStanley & Co, 86 AD3d 435, 436, 927 N.Y.S.2d 52 (1stDept 2011) ("The element of scienter can be reasonablyinferred from the facts alleged including e-mails, whichsupport a motive by Morgan, at the time of the subjecttransaction, to quickly dispose of troubled collateral (i.e.,predominantly residential mortgage-backed securities)which it owned at the time." (citation omitted)).Accordingly, Goldman Sachs's role as a warehouselender reasonably supports an inference of scienter.

Finally, the complaint alleges that two separateCongressional investigations concluded that at the time itwas marketing two of the securities presently at issue,Goldman Sachs had knowledge that the underlying loansdid not meet the underwriting guidelines included in theOffering Materials.7 The United States Senate'sPermanent Subcommittee on Investigations (the [*24][**16] "PSI Report") found that "Goldman was aware ofthe poor quality of at least some of Fremont's loans," andthat "Goldman initiated a detailed review of its Fremontloan inventory . . . and found that on average about 50%of about 200 files" did not meet loan quality standards.Nordbank also alleges that a different governmentinvestigation report revealed that "Goldman Sachsemployees routinely used terms such as 'monstrosities,''dogs,' 'junk' and other such disparaging descriptors whendiscussing their own mortgage-backed productsinternally."

7

Plaintiff is entitled to rely ongovernment investigations in

support of its allegations and allreasonable inferences drawntherefrom. See e.g. NJ CarpentersHealth Fund v Residential Capital,LLC, 2010 U.S. Dist. LEXIS32058, 2010 WL 1257528, at *6(allegations based on FTC andWest Virginia Attorney GeneralInvestigations sufficient to create a"reasonable inference" thatoriginator completely disregardedmortgage underwriting guidelines).

Taken together, these allegations state with sufficientparticularity that Goldman Sachs intended to deceiveNordbank by falsely indicating that the residential loansmet underwriting guidelines. Based on informationallegedly gleaned [*25] from its third-party due diligenceprovider and its role as a warehouse lender, GoldmanSachs had both knowledge of and a motive to disregardthe loan originators' substantial noncompliance withunderwriting guidelines. Goldman Sachs's allegedknowledge concerning the abandonment of underwritingguidelines is further supported by the fact that Goldmanactually benefitted from securitizing substandard loans bynegotiating a lower purchase price. Finally, theallegations regarding the results of the variousgovernment investigations serve as further support ofGoldman Sachs's fraudulent intent.

At this stage, the court must reject Goldman Sachs'sargument that Nordbank's scienter allegations "defyeconomic reason." Goldman Sachs contends that becauseit exposed itself to greater financial risk by purchasingthe same securities, Nordbank's scienter theory iseconomically irrational and must be rejected as a matterof law. Not only is this is a factual dispute inappropriatefor resolution at this stage, see FHFA v Morgan Stanley,2012 U.S. Dist. LEXIS 165896, 2012 WL 5868300, at *2(SDNY 2012), but the court is skeptical of this line ofreasoning. See Phoenix Light, 2013 N.Y. Slip Op.50653[U], 2013 WL 1788007, at *6 ("for a bank tocontend that [*26] it did not act with scienter with[**17] respect to touting the safety of RMBS because thebank stood to sustain a net loss if the RMBS were badinvestments[] defies the reality of the situation").

3. Nordbank has Adequately Pleaded Justifiable Reliance.

Goldman Sachs next argues that the claims for fraud

Page 82013 N.Y. Misc. LEXIS 5531, *22; 2013 NY Slip Op 33015(U), **15

fail because Nordbank has not pleaded that it justifiablyrelied on the alleged misstatements in the OfferingMaterials. "New York law imposes an affirmative dutyon sophisticated investors to protect themselves frommisrepresentations made during business acquisitions byinvestigating the details of the transaction." GlobalMinerals & Metals Corp v Holme, 35 AD3d 93, 100, 824N.Y.S.2d 210 (1st Dept 2006). But if the allegedlymisrepresented facts are "peculiarly within themisrepresenting party's knowledge," reliance will bejustified. Dallas Aerospace, Inc v CIS Air Corp, 352 F3d775, 785 (2d Cir 2003). As the Court of Appealsexplained:

"[I]f the facts represented are not matterspeculiarly within the party's knowledge,and the other party has the meansavailable to him of knowing, by theexercise of ordinary intelligence, the truthor the real quality of the subject of therepresentation he must make use [*27] ofthose means, or he will not be heard tocomplain that he was induced to enter intothe transaction by misrepresentations."

DDJ Mgmt, LLC v Rhone Grp LLC, 15 NY3d 147, 154,931 N.E.2d 87, 905 N.Y.S.2d 118 (2010).

The issue of justifiable reliance generally implicatesquestions of fact which are not to be resolved at this earlystage in the proceedings. See e.g. DDJ Mgmt, 15 NY3d at156 ("If plaintiffs can prove the allegations in thecomplaint, whether they were justified in relying on thewarranties they received is a question to be resolved bythe trier of fact."); Knight Secs, LP v Fiduciary Trust Co,5 AD3d 172, 173, 774 N.Y.S.2d 488 (1st Dept 2004) ("ona motion to dismiss for failure to state a cause of action, aplaintiff . . . need only plead that he relied onmisrepresentations made by the defendant . . . since thereasonableness of his reliance [generally] implicatesfactual issues whose resolution would be inappropriate atthis early stage."); MBIA Ins Corp v Countrywide, 39Misc. 3d 1220[A], 2013 NY Slip Op 50677[A], 2013 WL1845588, at *5 (NY Sup Ct Apr 29, 2013) ( [**18]"[W]hether MBIA's due diligence review was sufficientand whether MBIA's review made adequate use of themeans available to it, at bottom, are disputed issues offact.").

Goldman Sachs argues that Nordbank [*28] failed to

conduct even a "minimal pre-purchase investigation."Goldman Sachs further argues that to adequately pleadjustifiable reliance, the complaint must allege thatNordbank evaluated the quality of the underlying loans.Finally, Goldman Sachs argues that Nordbank shouldhave requested access to the underlying loan files, oralternatively, should have requested access to GoldmanSachs' own diligence reports.

As long as it otherwise conducted a reasonableinvestigation, Nordbank was under no duty to request theunderlying loan files. See CIFG v Goldman Sachs, 106AD3d 437, 437, 966 N.Y.S.2d 369 (1st Dept 2013).Goldman Sachs' efforts to distinguish CIFG areunavailing. Although Nordbank did not commission apre-purchase third party due diligence report as CIFGdid, it did engage in other methods of investigation thatmay render its reliance on the alleged misstatementsjustifiable. Determining whether the totality ofNordbank's efforts was reasonable is a question of fact.Id.

Similarly, the court cannot determine as a matter oflaw that Nordbank failed to conduct a reasonableinvestigation by failing to request access to GoldmanSachs's own due diligence reports. The underwriter ofsecurities adds [*29] value by efficiently pricing theoffering after assisting the issuer in marshaling factsrequired for disclosure in a prospectus. It engages in adue diligence process aimed at ensuring the correctnessof disclosed facts. Traditionally, the underwriter's internalnotes, memoranda, and other file material are closelyguarded work product, no more available for review bysecurities purchasers than the work papers of auditorswho opined on the issuer's financial statements. The courtis highly skeptical that a request here [**19] to viewthese internal materials would have been fruitful.Goldman Sachs's point that failure to make this requestnegatively impacts justifiable reliance borders onmeritless. Whether Nordbank knew before the transactionthat Goldman Sachs had such information, whetherNordbank should have asked for the information, andwhether Goldman Sachs would have provided theinformation upon request are all questions of factinappropriate for resolution at this stage.

In arguing that reliance was not justifiable, GoldmanSachs points to a recent case in which the FirstDepartment affirmed the dismissal of a different RMBScomplaint also filed by Nordbank. See HSH Nordbank v

Page 92013 N.Y. Misc. LEXIS 5531, *26; 2013 NY Slip Op 33015(U), **17

UBS, 95 AD3d 185, 195, 941 N.Y.S.2d 59 (1st Dept2012). [*30] Importantly, Nordbank's fraud claimsagainst UBS were predicated on publicly-availableinformation. Id. ("[H]ere, the true nature of the risk beingassumed could have been ascertained from reviewingmarket data or other publicly available information"). Inthe present case, however, Nordbank alleges that it reliedon Goldman Sachs' characterization of the underlyingloans because it did not have the ability to obtain samplesof these loans. Simply put, the information was notpublicly-available. See id. at 208 n15 (citing cases wheredenial of a motion to dismiss was warranted because "thematter allegedly misrepresented--whether the mortgageloans backing the securities that the plaintiff insured weremade in compliance with applicable standards--was amatter peculiarly within the knowledge of thedefendants").8

8

Because the Offering Materialsstated, "[y]ou should rely on theinformation incorporated byreference or provided in thisprospectus or any prospectussupplement," the cases cited byGoldman Sachs in which theplaintiff failed to obtain contractualwarranties are inapposite. See e.g.ACA Fin Guar Corp v Goldman,Sachs & Co, 106 AD3d 494, 494,967 N.Y.S.2d 1 (1st Dept 2013)("plaintiff fails [*31] to plead thatit exercised due diligence byinquiring about the nonpublicinformation regarding the hedgefund with which it was in contactprior to issuing the financialguaranty, or that it inserted theappropriate prophylactic provisionto ensure against the possibility ofmisrepresentation"); DDJ Mgmt,15 NY3d at 154 ("Where a plaintiffhas gone to the trouble to insist ona written representation that certainfacts are true, it will often bejustified in accepting thatrepresentation rather than makingits own inquiry.")

[**20] Viewing the allegations in the light mostfavorable to Nordbank, the complaint adequately allegesjustifiable reliance. Nordbank alleges that it conducteddue diligence by evaluating the structure of eachCertificate according to criteria based on appraisal values,CLTV ratios and owner occupancy rates. Based onrepresentations made by Goldman Sachs concerning thequality of the underlying loans, Nordbank applied"rigorous investment criteria" in determining whichCertificates to purchase. Nordbank further alleges that it"conducted due diligence with respect to the efficiencyand cost of foreclosures by various services." Takentogether, these allegations serve [*32] to defeat GoldmanSachs' motion to dismiss on the grounds that Nordbankfailed to conduct an adequate pre-purchase investigation.

4. Nordbank has Adequately Pleaded Loss Causation

As the final element of its claim of fraud, Nordbankmust plead "that the misrepresentations directly causedthe loss about which plaintiff complains." Laub vFaessel, 297 AD2d 28, 31, 745 N.Y.S.2d 534 (1st Dept2002); see also Citibank, NA v K-H Corp, 968 F2d 1489,1495 (2d Cir 1992). Goldman Sachs asserts thatNordbank cannot establish that the decline in the value ofthe securities was proximately caused by their allegedmisrepresentations. Courts have consistently rejected thisargument as premature. See e.g. MBIA Ins Corp vCountrywide Home Loans, Inc, 87 AD3d 287, 294 (1stDept 2011) ("It cannot be said on this pre-answer motionto dismiss, that [plaintiffs'] losses were caused, as amatter of law, by the 2007 housing and credit crises.");MBIA Ins Co v Morgan Stanley, 2011 N.Y. Misc. LEXIS6827, 2011 WL 2118336, at *5 (NY Sup Ct May 26,2011) ("whether MBIA's losses were caused by MorganStanley's representations or the economic down[turn] is aquestion of fact for trial."); Allstate v Morgan Stanley,2013 N.Y. Misc. LEXIS 2238, 2013 WL 2369953, at *12(same). "Untangling [*33] the effect of the allegedmisrepresentations from the effects of the broaderfinancial crisis will present a complicated issue of fact . . .. better saved for a more complete [**21] factualrecord." Dexia Holdings, Inc v Countrywide Fin Corp,2012 U.S. Dist. LEXIS 71374, 2012 WL 1798997, at *6(CD Cal Feb 17, 2012). Where the plaintiff pleads somecausation between the defendant's misstatements and theloss, and the defendant claims some other mechanism ofcausation such as a market downturn, causation "is amatter of proof at trial and not to be decided on a . . .motion to dismiss." Emergent Capital Inv Mgmt, LLC v

Page 102013 N.Y. Misc. LEXIS 5531, *29; 2013 NY Slip Op 33015(U), **19

Stonepath Group, Inc, 343 F3d 189, 197 (2d Cir 2003).

Nordbank alleges that it has suffered losses totalingmore than $1.5 billion as a result of the allegedmisrepresentations regarding the loans' conformity withoriginators' underwriting guidelines. Specifically,Nordbank alleges that it has been unable to transfer notesand mortgages that have declined in value because of thepoor quality of the underlying loans. The representationsat issue allegedly resulted in higher rates of default, animpaired ability to obtain forecloses, and ultimately, alower cash flow to Certificate-holders like Nordbank.[*34] Because Nordbank has sufficiently alleged a chainof causation leading from the alleged abandonment ofunderwriting standards to a decline in the market value ofthe Certificates, the complaint cannot be dismissed forfailure to allege lost causation.

III. Negligent Misrepresentation

To state a claim for negligent misrepresentation inconnection with a commercial transaction, a plaintiffmust plead that the defendant "possess[ed] unique orspecialize expertise, or [was] in a special position ofconfidence and trust with the injured party." Greenberg,Trager & Herbst, LLP v HSBC Bank USA, 17 NY3d 565,578, 958 N.E.2d 77, 934 N.Y.S.2d 43 (2011). A cause ofaction for negligent misrepresentation can only stand inthe presence of a special relationship of trust orconfidence, which creates a duty for one party to impartcorrect information to another. United Safety of America,Inc v Consolidated Edison Co of New York, Inc, 213AD2d 283, 285-86, 623 N.Y.S.2d 591 (1st Dept 1995)[**22] . An arm's length relationship is not of aconfidential or fiduciary nature and thus does not supporta cause of action for negligent misrepresentation. MBIA vCountrywide, 87 AD3d 287, 296 (1st Dept 2011); RiverGlen Assocs, Ltd v Merrill Lynch Credit Corp, 295 AD2d274, 275, 743 N.Y.S.2d 870 (1st Dept 2002).

Superior [*35] knowledge of the particulars of itsown business practices is insufficient to sustain a cause ofaction for negligent misrepresentation. MBIA vCountrywide, 87 AD3d at 297. "The knowledge of theinformation in the loan files is not specialized knowledgebecause the details of those loan files constitute theparticulars of [its own] business." MBIA Ins Co v GMACMortgage LLC, 30 Misc. 3d 856, 914 NYS2d 604, 611(Sup Ct 2010)

Goldman Sachs's exclusive access to the underlying

loan files does not constitute the type of unique orspecialized knowledge necessary to state such a claim.See e.g. Allstate v Morgan Stanley, 2013 N.Y. Misc.LEXIS 2238, 2013 WL 2369953, at * 16; CIFG Assur NAm, Inc v Bank of Am, NA, 41 Misc. 3d 1203[A], 2013NY Slip Op 51565[U], 2013 WL 5459468 [NY Sup Ct2013]; Stichting, 2012 NY Slip Op 52433[U], 2012 WL6929336, at *13; MBIA Ins Corp v Residential FundingCo, 26 Misc. 3d 1204[A], 906 N.Y.S.2d 781, 2009 NYSlip Op 52662[U], 2009 WL 5178337, at *6 [NY Sup Ct2009]. Because there is no other allegation that suggeststhat Nordbank's purchase of the Certificates was anythingother than an "ordinary arm's length businesstransaction," the claim for negligent misrepresentationmust be dismissed.

IV. Mutual Mistake

In alternative to its fraud-based claims, Nordbankalleges a claim for rescission based [*36] upon mutualmistake with respect to the subject matter of the purchaseand sale transaction. Nordbank argues that if GoldmanSachs did not know that the notes and mortgages wouldbe properly transferred, then there was no "meeting of theminds."

[**23] To bring a claim for rescission based onmutual mistake, it must be alleged that "the parties havereached an oral agreement and, unknown to either, thesigned writing does not express that agreement." ChimartAssoc v Paul, 66 NY2d 570, 573, 489 N.E.2d 231, 498N.Y.S.2d 344 (1986). A claim for mutual mistake must bepleaded with particularity pursuant to CPLR 3016(b).Simkin v Blank, 19 NY3d 46, 52, 968 N.E.2d 459, 945N.Y.S.2d 222 (2012). A claim for rescission based onmutual mistake can be pleaded in the alternative to afraud theory in an RMBS suit. See M&T Bank Corp vGemstone CDO VII, Ltd, 23 Misc. 3d 1105(A), 881NYS2d 364 (Sup Ct Erie Cnty 2009), affd as mod., 68AD3d 1747, 891 N.Y.S.2d 578 (4th Dept 2009)

Goldman Sachs argues that the claim for mutualmistake fails because the Offering Materials themselvescontemplated contractual remedies in the case loans werenot properly transferred. While it is correct that there canbe no claim for mutual mistake where the parties made anexpress provision regarding a contingency, only theOffering [*37] Materials for the FBRSI 2005-2 securityexpressly discusses the potential "breach . . . by the Sellerin the Transfer and Servicing Agreement that materiallyand adversely affects the Indenture Trustee's or the

Page 112013 N.Y. Misc. LEXIS 5531, *33; 2013 NY Slip Op 33015(U), **21

Noteholders' interest." Id. With respect to the othersecurities, the disclaimers in the Offering Materialsconcerning "missing," "defective" and "unrelated"documents are insufficient to show that the parties'agreement contemplated improper transfer.

Goldman Sachs also argues that the alleged mistakecannot merely relate to the value of the Certificates. Thatis a correct statement of the law in New York. HighmountOlympic Fund, LLC v Pipe Equity Partners, LLC, 93AD3d 444, 940 N.Y.S.2d 49 (1st Dept 2012). However,Nordbank alleges that the failure to transfer the notes andmortgages resulted in their purchase of what wasessentially unsecured subprime debt. Fed Home LoanBank of Chicago v Banc of Am Funding Corp, No.10CH45033, 2012 WL 4364410 (I11 Cir Ct Cook CntySept 19, 2012) ("Defendants' claim that the OfferingDocuments never said the notes would be validlytransferred insinuates [**24] that Defendants wish thecourt to believe that investors bought securities knowingthat the underlying [*38] assets could not be enforced").Nordbank's clear position is that the parties weremistaken as to the subject matter of the exchange. Forinstance, Nordbank argues that failed transfers affectedthe ability to initiate foreclosure proceedings, an essentialpart of a mortgage-backed security.9

9

Nordbank points to an academicstudy suggesting that loanoriginators are more reluctant toinitiate foreclosure proceedingswhere proper loan transferprocedures were not followedbecause the trusts would not beable to establish ownership of thedelinquent mortgage loans. SeeOpp. (citing Linda Allen, StavrosPeristiani & Yi Tang, Bank Delaysin Resolution of DelinquentMortgages: The Problem of LimboLoans (June 2013)).

This goes to the heart of the bargain as to the natureof the property being sold. The facts here are analogousto those in Sherwood v Walker, 66 Mich 568, 33 N.W.919 (1887), which has instructed generations of first yearlaw students. There, the seller and purchaser of a cow

believed her to be sterile in setting the sales price. Beforedelivery, it was determined she was fertile and worth tentimes the sales price. The court ruled the transactionvoidable, saying "Yet the mistake was not [*39] the merequality of the animal, but went to the very nature of thething. A barren cow is substantially a different creaturethan a breeding one. There is as much difference betweenthem . . . as there is between an ox and a cow."Sherwood, 66 Mich at 577.

Two noted commentators, citing 7 Corbin § 28.35(Perillo) and Palmer, Mistake and Unjust Enrichment, §926 n. 4 write:

"One explanation for the decision is thatin any contract parties take certain risks,but do not take risks of the existence offacts materially affecting their bargainwhich both shared as a commonpre-supposition. In deciding which factsare vital and basic to their bargain onemust search the facts for unexpected,unbargained-for gain on the one hand andunexpected, unbargained-for loss on theother. . . . Here the buyer sought to retain again that was produced, not by asubsequent change in circumstances, norby the favorable resolution of knownuncertainties when the contract was made,but by the presence of facts quite [**25]different from those on which the partiesbased their bargain." Calamari and Perilloon Contracts at 363, 364 (5th Edition2003).

The court is not persuaded by Goldman Sachs'sargument that the [*40] transfer of notes and mortgageswas not the subject of the parties' exchange.

The claim that the Certificates should be rescindedbased on an alternate theory of mutual mistake issustained. See M&T Bank, 881 NYS2d 364, affd as mod.,68 AD3d 1747, 891 N.Y.S.2d 578. Nordbank will beentitled to prove that both parties were sufficientlymistaken about the transfer and assignment provisions towarrant rescission.

ORDERED that the motion to dismiss the third causeof action for negligent misrepresentation is granted; and itis further

Page 122013 N.Y. Misc. LEXIS 5531, *37; 2013 NY Slip Op 33015(U), **23

ORDERED that the motion to dismiss the first, second,and fourth causes of action with respect to the statementsregarding credit ratings and the transfer of the notes andmortgages is granted; and it is further

ORDERED that the motion to dismiss the first,second, and fourth causes of action with respect to thestatements regarding loan-to-value ratios,owner-occupancy rates, appraisal values andunderwriting guidelines is denied; and it is further

ORDERED that the motion to dismiss the fifth causeof action for rescission based upon mutual mistake isdenied.

Dated: November 26, 2013

ENTER:

/s/ Melvin L. Schweitzer

J.S.C.

Page 132013 N.Y. Misc. LEXIS 5531, *40; 2013 NY Slip Op 33015(U), **25

986 541 FEDERAL SUPPLEMENT, 2d SERIES

the Indians in subsequent treaties. Butthe language in the Treaty of 1831 is dis-tinct from and more specific than thataddressed in Mille Lacs. Here, ArticleXVII states ‘‘the privileges of every de-scription TTT shall forever cease and de-termine.’’ The omission and ambiguity of‘‘whatsoever the nature the same may be’’that was present in Mille Lacs is notpresent in this treaty. Plaintiff’s rightsgranted under the Treaty of Detroit andthe Treaty of the Maumee Rapids, includ-ing the privilege to fish on Lake Erie,were terminated by the explicit languagein the Treaty of 1831.

CONCLUSION

The hardship brought upon the OttawaTribe following their removal from Ohiowas severe. Despite the Tribe’s identifiedhardships, the delay in asserting treatyrights to hunt and fish in Ohio is unreason-able. This delay in asserting hunting andinland fishing rights is also prejudicial toDefendant, and as such laches bars recov-ery of these claims. Plaintiff has, howev-er, established a dispute of material factssurrounding the prejudice to Defendant ofasserting treaty rights to fish in LakeErie, specifically the impact of commercialfishing on current conservation levels.Nevertheless, after examining all treatiesidentified by the parties, the Treaty of1831 extinguished any treaty-based rightfor the Ottawa Tribe to fish in Lake Erie.Therefore, Defendant’s Motion for Sum-mary Judgement is granted and this caseis dismissed.

IT IS SO ORDERED.

,

In re NATIONAL CENTURY FINAN-CIAL ENTERPRISES, INC., IN-

VESTMENT LITIGATION.

No. 2:03–md–1565.

United States District Court,S.D. Ohio,

Eastern Division.

Dec. 20, 2007.

Background: Institutional investors filedsecurities fraud actions against investmentbank that underwrote bond issuancesthrough securitization programs. After ac-tions were consolidated, bank moved todismiss.

Holdings: The District Court, James L.Graham, J., held that:

(1) alleged misrepresentations in offeringmaterials were attributable to bank;

(2) complaints supported strong inferenceof scienter; and

(3) disclaimers in offering materials andparticipation agreement did not pre-clude institutional investors from show-ing that they justifiably relied onbank’s alleged misrepresentations.

Motions granted in part and denied inpart.

1. Securities Regulation O60.18To state securities fraud claim under

§ 10(b) and Rule 10b–5(b), plaintiffs mustallege, in connection with purchase or saleof securities: (1) misstatement or omission,(2) of material fact, (3) made with scienter,(4) justifiably relied on by plaintiffs, and(5) proximately causing them injury. Se-curities Exchange Act of 1934, § 10(b), 15U.S.C.A. § 78j(b); 17 C.F.R. § 240.10b–5(b).

2. Fraud O3, 16Elements of fraud claim are: (1) rep-

resentation or, where there is duty to dis-

987IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

close, concealment of fact, (2) which ismaterial to transaction at hand, (3) madefalsely, with knowledge of its falsity, orwith such utter disregard and recklessnessas to whether it is true or false that knowl-edge may be inferred, (4) with intent ofmisleading another into relying upon it, (5)justifiable reliance upon representation orconcealment, and (6) resulting injury prox-imately caused by reliance.

3. Federal Civil Procedure O636

To comply with rule requiring thatfraud be pled with particularity, plaintiff,at minimum, must allege time, place, andcontent of alleged misrepresentation onwhich he or she relied; fraudulent scheme;defendants’ fraudulent intent; and injuryresulting from fraud. Fed.Rules Civ.Proc.Rule 9(b), 28 U.S.C.A.

4. Securities Regulation O60.51

Scienter required to establish securi-ties fraud claim may be averred generallyand inferred from circumstantial evidence.Private Securities Litigation Reform Actof 1995, § 101(b)(2), 15 U.S.C.A. § 78u–4(b)(2).

5. Securities Regulation O60.40

Alleged misrepresentations in offer-ing materials were attributable to initialpurchaser of securities in question, de-spite language indicating that issuer pre-pared materials, where purchaser’s namewas displayed on front page of all offeringmaterials, which identified it as initialpurchaser, and purchaser’s own internalpapers showing that it helped draft andreview offering materials. Securities Ex-change Act of 1934, § 10(b), 15 U.S.C.A.§ 78j(b); 17 C.F.R. § 240.10b–5(b).

6. Fraud O17

Party to business transaction has dutyto disclose only when special relationshipexists.

7. Securities Regulation O60.27(1)Party who chooses to speak in securi-

ties transaction assumes duty to speaktruthfully and completely about matters onwhich he speaks. Securities Exchange Actof 1934, § 10(b), 15 U.S.C.A. § 78j(b); 17C.F.R. § 240.10b–5(b).

8. Securities Regulation O60.28(2.1)Even though party in securities

transaction may not always be under inde-pendent duty to volunteer information, heassumes duty to provide complete andnonmisleading information with respect tosubjects on which he undertakes to speak.Securities Exchange Act of 1934, § 10(b),15 U.S.C.A. § 78j(b); 17 C.F.R. § 240.10b–5(b).

9. Securities Regulation O60.28(2.1)Institutional investors’ allegations

that bank undertook, through offering ma-terials, sales presentations, and otherwritten materials, to speak about materialaspects of securitization programs weresufficient to impose duty on bank underfederal securities laws to provide completeand nonmisleading information regardingall subjects on which bank spoke. Securi-ties Exchange Act of 1934, § 10(b), 15U.S.C.A. § 78j(b); 17 C.F.R. § 240.10b–5(b).

10. Securities Regulation O60.45(1)To establish liability under § 10(b)

and Rule 10b–5, plaintiff must prove thatdefendant acted with scienter, that is,mental state embracing intent to deceive,manipulate, or defraud. Securities Ex-change Act of 1934, § 10(b), 15 U.S.C.A.§ 78j(b); 17 C.F.R. § 240.10b–5(b).

11. Securities Regulation O60.45(1)‘‘Recklessness’’ required to establish

scienter necessary to support securitiesfraud claim under § 10(b) is mental statefalling somewhere between intent andnegligence, and is characterized by highly

988 541 FEDERAL SUPPLEMENT, 2d SERIES

unreasonable conduct that is extreme de-parture from standards of ordinary care.Securities Exchange Act of 1934, § 10(b),15 U.S.C.A. § 78j(b); 17 C.F.R. § 240.10b–5(b).

See publication Words and Phras-es for other judicial constructionsand definitions.

12. Securities Regulation O60.51In analyzing whether securities fraud

complaint sufficiently pleads scienter,court must: (1) accept all factual allega-tions in complaint as true; (2) considercomplaint in its entirety; and (3) take intoaccount plausible opposing inferences. Se-curities Exchange Act of 1934, § 10(b), 15U.S.C.A. § 78j(b); 17 C.F.R. § 240.10b–5(b).

13. Securities Regulation O60.51Institutional investors’ complaints

against investment bank that underwrotebond issuances through securitization pro-grams supported strong inference of scien-ter required to state securities fraudclaims under § 10(b), where complaints al-leged that bank performed due diligenceand received and reviewed informationproviding it with knowledge of materialaspects of purported fraud, including spe-cific red flags that would have alerted rea-sonable person in bank’s position of fraud,and that bank, having become deeply in-volved in fraudulent enterprise and withhundreds of millions of dollars of unsoldnotes on its hands, reduced its exposure byselling notes to unsuspecting investors.Securities Exchange Act of 1934, § 10(b),15 U.S.C.A. § 78j(b); Private SecuritiesLitigation Reform Act of 1995, § 101(b)(2),15 U.S.C.A. § 78u–4(b)(2); 17 C.F.R.§ 240.10b–5(b).

14. Securities Regulation O60.45(1)If defendant did not know or reckless-

ly disregard statement’s falsity at time itwas made, then § 10(b) liability cannot beimposed even if statement turns out to befalse in hindsight. Securities Exchange

Act of 1934, § 10(b), 15 U.S.C.A. § 78j(b);17 C.F.R. § 240.10b–5(b).

15. Securities Regulation O60.45(1)

Mere access to information is notenough to establish scienter required tosupport securities fraud claim under§ 10(b). Securities Exchange Act of 1934,§ 10(b), 15 U.S.C.A. § 78j(b); 17 C.F.R.§ 240.10b–5(b).

16. Securities Regulation O60.48(1)

General disclaimers in offering mate-rials and participation agreement did notpreclude institutional investors from show-ing that they justifiably relied on invest-ment bank’s alleged misrepresentationsabout bond issuances that it underwrote,where investors knew that bank hadhelped devise note programs, helped draftoffering materials, and had purchasedhundreds of millions of dollars of notes inits role as initial purchaser, bank’s nameappeared prominently on every page ofprivate placement memorandum, and doc-uments stated that bank was issuer’s au-thorized agent and that all inquiries byinvestors were to be directed to bank.Securities Exchange Act of 1934, §§ 10(b),29(a), 15 U.S.C.A. §§ 78j(b), 78cc(a); 17C.F.R. § 240.10b–5(b).

17. Limitation of Actions O95(1)

Under Arizona law, statute of limita-tions is subject to discovery rule wherebyclaim accrues when plaintiff knows, or byexercise of due diligence should know, ofdefendant’s wrongful conduct. A.R.S.§§ 12–542, 12–543.

18. Federal Civil Procedure O1831

Issue of when investors could havereasonably discovered investment bank’swrongful conduct in connection with bondissuances that it underwrote involved factquestions that could not be resolved onmotion to dismiss investors’ common law

989IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

fraud claims against bank on limitationsgrounds. A.R.S. §§ 12–542, 12–543.

19. Securities Regulation O242Buyer’s purchase of bond notes did

not have sufficient nexus with New Jerseyto assert claim under New Jersey’s bluesky law against bond underwriter, wherebuyer was British public limited companywith its principal place of business in Eng-land, underwriter was Delaware limitedliability company with its principal place ofbusiness in New York, and broker-dealerthat allegedly had role in note offering wasincorporated in Delaware, with it principalplace of business in Illinois. N.J.S.A.49:3–51(a).

20. Limitation of Actions O58(1) Securities Regulation O305

Under Ohio law, claim under blue skylaw is subject to two-year statute of limita-tions, which may be tolled, and four-yearstatute of repose, which may not be tolled.Ohio R.C. § 1707.43(B).

21. Limitation of Actions O6(9)Under Ohio law, amendment extend-

ing period of repose for bringing claimsunder blue sky law did not apply retroac-tively to revive claims that were time-barred at time complaint was filed. OhioR.C. §§ 1.48, 1707.43(B).

22. Limitation of Actions O104.5Under Nebraska law, statute of re-

pose for bringing claims under blue skylaw was not subject to equitable tolling.Neb.Rev.St. § 8–1118.

23. Action O3 Securities Regulation O291.1

There is no private right of actionunder provisions of New Jersey’s and Ore-gon’s blue sky laws describing prohibitedconduct. N.J.S.A. 49:3–52, 49:3–71; West’sOr.Rev. Stat. Ann. §§ 59.115, 59.135.

24. Securities Regulation O269Under Arizona, California, Massachu-

setts, Nebraska, New Jersey, and Ohio

law, state blue sky laws were applicable toprivate placement memoranda. A.R.S.§ 44–1991(A); West’s Ann.Cal.Corp.Code§ 25401; Mass. Gen. Laws ch. 110A,§ 410(a)(2); Neb.Rev.St. § 8–1118(1);N.J.S.A. 49:3–71(a)(2); Ohio R.C.§ 1707.41(A).

25. Securities Regulation O269Under Connecticut law, blue sky laws

applied to private placement memoranda.C.G.S.A. § 36b–29(a).

26. Securities Regulation O300Under California law, investors who

purchased securities from someone otherthan investment bank lacked privity neces-sary to assert claim against bank for viola-tion of blue sky law. West’s Ann.Cal.Corp.Code § 25501.

27. Securities Regulation O246Under Oregon law, amendment to

blue sky law expanding primary liability topersons who solicited sale of security wasnot retroactively applicable to securitiespurchases before amendment. West’s Or.Rev. Stat. Ann. § 59.115(1)(a).

28. Securities Regulation O302Under Connecticut, Louisiana, Minne-

sota, Ohio, and Pennsylvania law, invest-ment bank that drafted offering materialsin connection with bond issuances was sub-ject to primary liability under blue skylaws, despite bank’s contention that it didnot solicit sales of notes, where bank alleg-edly played key role in devising note pro-grams and in soliciting investors nation-wide, and it allegedly had financial interestin existence of strong and active secondarymarket for notes.

29. Securities Regulation O302Under California, Connecticut, Louisi-

ana, Ohio, and Oregon law, investmentbank that drafted offering materials inconnection with bond issuances was sub-

990 541 FEDERAL SUPPLEMENT, 2d SERIES

ject to secondary liability under blue skylaws. West’s Ann.Cal.Corp.Code§ 25504.1; C.G.S.A. § 36b–29(a)(2); OhioR.C. § 1707.43(A); West’s Or.Rev. Stat.Ann. § 59.115(3).

30. Torts O133Under Ohio law, elements of aiding

and abetting claim are: (1) knowledge thatprimary party’s conduct is breach of duty,and (2) substantial assistance or encour-agement to primary party in carrying outtortious act.

31. Torts O133, 141Under Ohio law, plaintiff asserting

aiding and abetting claim need not allegethat aider and abettor had actual knowl-edge of all details of primary party’sscheme; it is enough for aider and abettorto have general awareness of his role inother’s tortious conduct for liability to at-tach.

32. Federal Civil Procedure O1831Issue of whether investment bank that

drafted offering materials in connectionwith bond issuances had actual knowledgeof issuer’s fraud involved fact questionsthat could not be resolved on motion todismiss investors’ aiding and abettingclaims against bank.

33. Federal Civil Procedure O1831Issue of whether notes that invest-

ment bank delivered to buyers conformedto representations made in sales contractsinvolved fact questions that could not beresolved on motion to dismiss buyers’breach of contract claims against bank.

34. Conspiracy O1.1Under Ohio law, ‘‘civil conspiracy’’ is

malicious combination of two or more per-sons to injure another in person or proper-ty, in way not competent for one alone,resulting in actual damages.

See publication Words and Phras-es for other judicial constructionsand definitions.

35. Conspiracy O1.1Under Ohio law, elements of civil con-

spiracy claim are: (1) malicious combina-tion; (2) two or more persons; (3) injuryto person or property; and (4) existence ofunlawful act independent from actual con-spiracy.

36. Conspiracy O2Under Ohio law, malicious combina-

tion element of civil conspiracy claim doesnot require showing of express agreementbetween defendants, but only common un-derstanding or design, even if tacit, tocommit unlawful act.

37. Conspiracy O2Under Ohio law, plaintiff asserting

civil conspiracy claim need not show thatco-conspirators made agreement as to ev-ery detail of their plan; rather, plaintiffmust show that co-conspirators shared ingeneral conspiratorial objective.

38. Federal Civil Procedure O1831Issue of whether investment bank

marketed and sold debt securities issuedto finance purchase of accounts receivablefrom healthcare providers, knowing of is-suer’s deepening insolvency and under-standing that funds invested would be mis-appropriated by issuer and its principalsinvolved fact questions that could not beresolved on motion to dismiss investors’civil conspiracy claim against bank.

39. Antitrust and Trade RegulationO131

In determining whether conduct oc-curred primarily and substantially in state,for purposes of Massachusetts’s unfaircompetition statute, court should consider:(1) where defendant engaged in unfair orunscrupulous conduct; (2) where plaintiffwas on receiving end of unfair or unscru-pulous conduct; and (3) situs of plaintiff’slosses due to unfair and unscrupulous con-duct. Mass. Gen. Laws ch. 93A, § 11.

991IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

40. Antitrust and Trade RegulationO131

Investors sufficiently alleged thatconduct occurred primarily and substan-tially in state, and thus warranted invoca-tion of Massachusetts’s unfair competitionstatute in their action against investmentbank, where investors claimed that theirprincipal place of business was in Massa-chusetts, that representatives of bank andissuer of debt securities made sales pres-entations in their offices in Massachusetts,that they were provided with offering ma-terials in Massachusetts, that they madedecision to purchase notes in Massachu-setts, and that they suffered losses inMassachusetts.

41. Damages O91.5(1)Under Ohio law, award of punitive

damages in tort case may be made onlyupon finding of actual malice, fraud, op-pression, or insult on defendant’s part.

Kathy D. Patrick, Jeffry J. Cotner, ScottHumphries, Gibbs & Bruns, LLP, Hous-ton, TX, David L. Elsberg, Miller & Wru-bel P.C., New York, NY, A. William Urqu-hart, Quinn Emanuel Urquhart Oliver &Hedges, Los Angeles, CA, Rex Lee, KevinJanus, Quinn Emanuel Urquhart Oliver &Hedges LLP, New York, NY, George E.Ridge, Cooper Ridge & Lantinberg, Jack-sonville, FL, Robert N. Kaplan, Jeffrey P.Campisi, Kaplan Fox & Kilsheimer LLP,New York, NY, James Edward Arnold,Clark Perdue Arnold & Scott, Columbus,OH, Harold G. Levison, Richard B. Har-per, McCarter & English, Newark, NJ,Jeffrey P. Campisi, Kaplan Fox & Kil-sheimer LLP, New York, NY, Kenneth J.Vianale, Kaplan Fox & Kilsheimer LLP,Boca Raton, FL, Steven E. Fineman, Hec-tor D. Geribon, Lieff Cabraser Heimannand Bernstein LLP, New York, NY, Bar-bara Poulsen, John Edward Haller, Katie

L. Tournoux, Shumaker Loop & KendrickLLP, Colulmbus, OH, Robert H. B. Ca-wood, Roy L. Mason, Mason, Cawood &Hobbs, P.A., Annapolis, MD, for Plaintiffs.

R. Eric Bilik, C. Todd Willis, David M.Wells, Eric C. Roberson, Brian EdwardDickerson, John Edward Haller, ThomasFellig, Robert Frederic Brown, Ulmer &Berne LLP, Cincinnati, OH, Luan K.Phan, Paz & Phan LLP, Los Angeles, CA,William A. Escobar, William Chester Wil-kinson, John M. Callagy, Stanley H.Wakshlag, Kenny Nachwalter, PA, Miami,FL, Samantha J. Kavanaugh, Brian PaulMiller, Akerman Senterfitt, Miami, FL,Matthew B. Andelman, Williams & Con-nolly, Washington, DC, Barry Ostrager,Mary Kay Vyskocil, Simpson Thacher &Bartlett LLP, New York, NY, Jessica L.Davis, Roetzel & Andress, Columbus, OH,Lara Turcik, Shazeb Lari, Israel David,Fried Frank Harris Shriver & JacobsonLLP, New York, NY, Julia Tarver Mason,Martin Flumenbaum, Andrew James Ehr-lich, Tobias J. Stern, Paul, Weiss, Rifkind,Wharton & Garrison, New York, NY, Ja-son M. Koral, William J Schwartz, CooleyGodward Kronish LLP, New York, NY,Mina Audrey Kim, Kronish Lieb Weiner &Hellman LLP, New York, NY, Robert Col-by Allsbrook, King & Spalding LLP, NewYork, NY, James M. Garland, Covington &Burling LLP, Washington, DC, DavidWarren Alexander, Squire Sanders &Dempsey, Columbus, OH, for Defendants.

OPINION AND ORDER ON CERTAINMOTIONS TO DISMISS FILED BYLEAD UNDERWRITER CREDITSUISSE FIRST BOSTON

JAMES L. GRAHAM, District Judge.

This matter is before the Court on mo-tions filed by Credit Suisse First BostonLLC (now Credit Suisse Securities LLC)to dismiss the claims made against it inthis multi-district litigation. Credit Suisse

992 541 FEDERAL SUPPLEMENT, 2d SERIES

served as lead underwriter of the NPF VI,Inc. and NPF XII, Inc. securitization pro-grams. The Court finds that the com-plaints put Credit Suisse at the center ofthe alleged scheme to defraud NationalCentury Financial Enterprise’s investors,and, thus, Credit Suisse’s motions to dis-miss are largely denied.

I. BACKGROUND

A. Factual Allegations against Cred-it Suisse

This order concerns the complaints filedby the following plaintiffs: MetropolitanLife Insurance Company and MetropolitanInsurance and Annuity Company (collec-tively ‘‘MetLife’’); Lloyds TSB Bank PLC;the State of Arizona, the City of Chandler,and Crown Cork & Seal Company (collec-tively the ‘‘Arizona Noteholders’’); theNew York City Pension Funds; and Pha-ros Capital Partners, L.P. Though the alle-gations vary somewhat from complaint tocomplaint, below is a summary of what thePlaintiffs allege against Credit Suisse.

Plaintiffs allege that Credit Suisse un-derwrote and managed the notes issued byNational Century through the NPF VI andNPF XII securitization programs. Be-tween 1998 and 2002, NPF VI made atleast 10 bond issuances and NPF XIImade at least 12 bond issuances. Duringthis time, National Century issued approx-imately $3 billion of debt securities to fi-nance the purchase of accounts receivablefrom healthcare providers.

The notes were sold to institutional in-vestors who could invest millions, if nothundreds of millions, of dollars in notes.Credit Suisse was the initial purchaser andplacement agent for each note issuance.Credit Suisse then created a secondarymarket for the notes by actively solicitinginstitutional investors, who were providedwith various offerings materials and givensales presentations. Credit Suisse alleg-edly authored the offering materials in

substantial part, and Credit Suisse’s repre-sentatives allegedly participated in thesales presentations.

Plaintiffs allege that Credit Suisse madenumerous misrepresentations and materialomissions in the offering materials andsales presentations. These misrepresenta-tions went to the financial soundness of thenote programs, the quality of the notes,and, hence, the security of Plaintiffs’ in-vestments. According to Plaintiffs, CreditSuisse represented that NPF VI and NPFXII would use the note proceeds to pur-chase only high-quality accounts receiv-able, which would serve as collateral forthe notes. Further, Credit Suisse repre-sented that indenture trustees would main-tain reserve accounts for NPF VI andNPF XII according to strict standardsdesigned to offset the risks associated withbuying receivables. Credit Suisse furtherrepresented that NPF VI and NPF XIIwould not engage in related-party transac-tions; that is, they would refrain frompurchasing accounts receivable fromhealthcare providers in which NationalCentury or its principals held a financialinterest.

Plaintiffs contend that Credit Suisse’srepresentations were false and that theNPF VI and NPF XII note programs,though perhaps at one time legitimate, hadbecome a sham by the time Plaintiffs in-vested in them. In a nutshell, the com-plaints allege that National Century usedPlaintiffs’ money to purchase low-qualityor even non-existent receivables fromhealthcare companies that National Centu-ry’s principals (Lance Poulsen, Donald Ay-ers, and Rebecca Parrett, collectively ‘‘theFounders’’) controlled or had some finan-cial interest in. These healthcare compa-nies became overfunded because NationalCentury paid them for receivables that hadlittle or no value. The Founders allegedlyused their control of the healthcare compa-

993IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

nies to gain access to the overfundedamounts. In time, the reserves at NPF VIand NPF XII became severely depleted,the alleged wrongdoing was uncovered,and National Century filed for bankruptcyin November 2002, with an alleged aggre-gate loss to investors of at least $2.6 bil-lion.

The complaints put Credit Suisse along-side National Century’s Founders as beingat the center of a scheme to defraud inves-tors. Beginning in 1995, National Centuryselected Credit Suisse to serve as its finan-cial advisor at-large. The Arizona Note-holders’ complaints characterize NationalCentury and Credit Suisse as having a‘‘close, broad, and multifaceted relation-ship’’ whereby Credit Suisse ‘‘continuouslyenjoyed extensive access to inside informa-tion regarding [National Century], its fi-nances, and its operations.’’ See State ofArizona Second Am. Compl., ¶ 96A. CreditSuisse allegedly conducted numerous ex-aminations of National Century’s financesand reviewed the results of due diligenceinvestigations performed by third partyprofessionals.

According to the complaints, CreditSuisse’s relationship with National Centu-ry was lucrative. Credit Suisse allegedlyreceived millions of dollars in investmentbanking and placement fees for its ser-vices. The complaints therefore allegethat Credit Suisse had a strong financialincentive to promote NPF VI and NPFXII notes to institutional investors.

Plaintiffs allege that as early as January1998 Credit Suisse had knowledge that theNPF VI and NPF XII note programswere not operating in the manner de-scribed by the offering materials. Thedetails of how Credit Suisse allegedlygained this knowledge will be reviewedbelow in the Court’s discussion of CreditSuisse’s scienter, but Plaintiffs allege thatCredit Suisse gained extensive knowledgeof National Century’s operations. The

complaints allege that Credit Suisse knewin particular that National Century waspurchasing ineligible accounts receivable,not properly maintaining reserve accounts,and engaging in related-party transactions.

Despite this knowledge, Credit Suisseallegedly proceeded to sell notes to Plain-tiffs and other investors. When rumors orreports surfaced that there were problemswith the NPF VI and NPF XII note pro-grams, Credit Suisse is alleged to haveacted swiftly to undermine the reports andreassure investors that their money wassafe, even though Credit Suisse allegedlyknew NPF VI and NPF XII were a fraud.The complaints allege that in order topreserve its lucrative position and protectthe unsold notes it had on its hands, CreditSuisse went so far as to make unsecuredloans to National Century when NPF VI’sand NPF XII’s reserves were depleted.

B. The Plaintiffs

1. MetLife and Lloyds

Metropolitan Life Insurance Company isa New York corporation with its principalplace of business in New York. BetweenJune 2001 and July 2002, MetLife pur-chased a total of $102.6 million of NPF XIInotes. In August 2002, MetLife’s affiliate,Metropolitan Insurance and Annuity Com-pany, purchased $18.46 million of NPF XIInotes.

Lloyds is a British public limited compa-ny with its principal place of business inLondon, England. Lloyds purchased a to-tal of $60 million of NPF XII notes inMarch 2001. It separately purchased $68million of NPF XII notes in November2002 under a Participation Agreement withCredit Suisse.

MetLife and Lloyds filed separate suitsin New Jersey federal court but have filedjoint briefs and motions since their actions

994 541 FEDERAL SUPPLEMENT, 2d SERIES

have been consolidated in this multi-dis-trict litigation.

MetLife asserts the following claimsagainst Credit Suisse: violations of Section10(b) of the Securities Exchange Act, vio-lations of Ohio’s and New Jersey’s bluesky laws, fraud, negligent misrepresenta-tion, and negligence.

Lloyds asserts those same claimsagainst Credit Suisse in relation to itsinitial note purchase and to the Partic-ipation Agreement. Lloyds also asserts abreach of contract claim with respect tothe Participation Agreement.

2. The Arizona Noteholders

The Arizona Noteholders are a largecollection of investors who filed three sepa-rate lawsuits in Arizona state court. Someof the Arizona Noteholders lack any directconnection to Arizona, but they are includ-ed in the group because they joined in thelawsuits originally filed in Arizona. TheArizona Noteholders include governmentalentities from Arizona and other states, aswell as businesses incorporated in variousstates and foreign countries. The ArizonaNoteholders collectively purchased about$1.4 billion of NPF VI and NPF XII notesbetween 1998 and 2002. Attached to theircomplaints are detailed lists of when andhow much each Noteholder invested inNPF VI and NPF XII.

The Arizona Noteholders assert the fol-lowing claims against Credit Suisse: viola-tions of the blue sky laws of numerousstates, unfair competition under Massachu-setts state law, fraud, negligent misrepre-sentation, aiding and abetting fraud, aidingand abetting breach of fiduciary duty, con-spiracy, unjust enrichment, and breach ofcontract.

3. The New York City PensionFunds

The New York City Pension Funds area group of public pension funds in charge

of managing the assets of various NewYork City employees and retirees. TheNew York Funds purchased $89 million ofNPF XII notes in October 2000 and May2002.

The New York Funds originally filedsuit in New York federal court. Theyassert the following claims against CreditSuisse: violations of Section 10(b) of theSecurities Exchange Act, fraud, aiding andabetting fraud, negligent misrepresenta-tion, and negligence.

4. Pharos Capital Partners

Pharos is a limited partnership orga-nized under the laws of Delaware. Pharosdescribes itself as being in the business ofmaking equity investments on behalf of itslimited partner investors. Pharos pur-chased $12 million worth of National Cen-tury preferred stock on July 8, 2002.

Pharos brought suit in the SouthernDistrict of Ohio and asserts the followingclaims against Credit Suisse: violations ofOhio’s blue sky law, fraud, negligent mis-representation, aiding and abetting, andconspiracy.

Because the claims of Pharos, who pur-chased preferred stock in National Centu-ry, are slightly different than the claims ofthe noteholder Plaintiffs, Pharos’s claimswill be discussed separately below.

II. MOTION TO DISMISS STANDARDOF REVIEW

When considering a motion to dismissunder Fed.R.Civ.P. 12(b)(6), a court mustconstrue the complaint in the light mostfavorable to the plaintiff and accept allwell-pleaded material allegations in thecomplaint as true. Scheuer v. Rhodes, 416U.S. 232, 236, 94 S.Ct. 1683, 40 L.Ed.2d 90(1974); Roth Steel Prods. v. Sharon SteelCorp., 705 F.2d 134, 155 (6th Cir.1982). Acomplaint may be dismissed for failure tostate a claim only where ‘‘it appears be-

995IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

yond a doubt that the plaintiff can proveno set of facts in support of his claimwhich would entitle him to relief.’’ Conleyv. Gibson, 355 U.S. 41, 45–46, 78 S.Ct. 99, 2L.Ed.2d 80 (1957). A motion to dismissunder Rule 12(b)(6) will be granted if thecomplaint is without merit due to an ab-sence of law to support a claim of the typemade or of facts sufficient to make a validclaim, or where the face of the complaintreveals that there is an insurmountablebar to relief. Rauch v. Day & Night Mfg.Corp., 576 F.2d 697 (6th Cir.1978).

Because a motion under Rule 12(b)(6) isdirected solely at the complaint itself, thecourt must focus on whether the claimantis entitled to offer evidence to support theclaims, rather than whether the plaintiffwill ultimately prevail. Scheuer, 416 U.S.at 236, 94 S.Ct. 1683; Roth Steel Prods.,705 F.2d at 155; see also Bell AtlanticCorp. v. Twombly, ––– U.S. ––––, 127 S.Ct.1955, 1965, 167 L.Ed.2d 929 (2007) (Rule 8‘‘does not impose a probability require-ment at the pleading stage’’). A complaintmust contain either direct or inferentialallegations with respect to all material ele-ments necessary to sustain a recovery un-der some viable legal theory. Weiner v.Klais & Co., Inc., 108 F.3d 86, 88 (6thCir.1997). The court is not required toaccept as true unwarranted legal conclu-sions or factual inferences. Morgan v.Church’s Fried Chicken, 829 F.2d 10, 12(6th Cir.1987). Though the complaintneed not contain detailed factual allega-tions, the factual allegations must beenough to raise the claimed right to reliefabove the speculative level and to create areasonable expectation that discovery willreveal evidence to support the claim. BellAtlantic, 127 S.Ct. at 1964–65, 167 L.Ed.2d929; Associated Gen. Contractors of Cal.,Inc. v. Carpenters, 459 U.S. 519, 526, 103S.Ct. 897, 74 L.Ed.2d 723 (1983). Plaintiffmust provide more than labels and conclu-sions, or a formulaic recitation of the ele-ments of a cause of action, Bell Atlantic,

127 S.Ct. at 1965, 127 S.Ct. 1955, and thecourt is not ‘‘bound to accept as true alegal conclusion couched as a factual alle-gation.’’ Papasan v. Allain, 478 U.S. 265,286, 106 S.Ct. 2932, 92 L.Ed.2d 209 (1986);accord Morgan, 829 F.2d at 12.

III. THE NOTEHOLDERS’ SECTION10(B), FRAUD, AND NEGLIGENTMISREPRESENTATION CLAIMS

A. Elements

1. Section 10(b)

[1] Plaintiff MetLife, Lloyds, and theNew York Funds have brought claimsagainst Credit Suisse for violating Section10(b) of the Securities Exchange Act, 15U.S.C. § 78j(b), and Rule 10b–5(b) promul-gated thereunder, 17 C.F.R. § 240.10b–5(b). Section 10(b) prohibits any personfrom making ‘‘fraudulent, material mis-statements or omissions in connection withthe sale or purchase of a security.’’ Morsev. McWhorter, 290 F.3d 795, 798 (6th Cir.2002); see 15 U.S.C. § 78j(b); 17 C.F.R.§ 240.10b–5(b). To state a claim underSection 10(b) and Rule 10b–5(b), plaintiffsmust allege, in connection with the pur-chase or sale of securities: ‘‘(1) a misstate-ment or omission, (2) of a material fact, (3)made with scienter, (4) justifiably relied onby plaintiffs, and (5) proximately causingthem injury.’’ Helwig v. Vencor, Inc., 251F.3d 540, 554 (6th Cir.2001); see also In reComshare, Inc. Sec. Litig., 183 F.3d 542,548 (6th Cir.1999).

The Private Securities Litigation andReform Act (‘‘PSLRA’’) requires com-plaints asserting a claim of federal securi-ties fraud to ‘‘specify each statement al-leged to have been misleading, the reasonor reasons why the statement is mislead-ing, and, if an allegation regarding thestatement or omission is made on informa-tion and belief, the complaint shall statewith particularity all facts on which that

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belief is formed.’’ 15 U.S.C. § 78u–4(b)(1).Moreover, ‘‘the complaint shall, with re-spect to each act or omission alleged toviolate this chapter, state with particulari-ty facts giving rise to a strong inferencethat the defendant acted with the requiredstate of mind.’’ 15 U.S.C. § 78u–4(b)(2).

2. Fraud

[2] MetLife, Lloyds, the New YorkFunds, and the Arizona Noteholders haveasserted claims for common law fraudagainst Credit Suisse. The elements of afraud claim are: (1) a representation or,where there is a duty to disclose, conceal-ment of a fact, (2) which is material to thetransaction at hand, (3) made falsely, withknowledge of its falsity, or with such utterdisregard and recklessness as to whetherit is true or false that knowledge may beinferred, (4) with the intent of misleadinganother into relying upon it, (5) justifiablereliance upon the representation or con-cealment, and (6) a resulting injury proxi-mately caused by the reliance. Russ v.TRW, Inc., 59 Ohio St.3d 42, 49, 570N.E.2d 1076, 1083–84 (Ohio 1991).1

[3, 4] Under Rule 9(b), Fed.R.Civ.P.,averments of fraud and the circumstancesconstituting the fraud must be stated with‘‘particularity.’’ To comply with Rule 9(b),‘‘a plaintiff, at a minimum, must ‘allege thetime, place, and content of the allegedmisrepresentation on which he or she re-lied; the fraudulent scheme; the fraudu-lent intent of the defendants; and theinjury resulting from the fraud.’ ’’ Wal-burn v. Lockheed Martin Corp., 431 F.3d966, 972 (6th Cir.2005) (quoting Coffey v.Foamex L.P., 2 F.3d 157, 161–62 (6th Cir.1993)). Scienter may be averred generallyand inferred from circumstantial evidence.See Fed.R.Civ.P. 9(b); S.E.C. v. Blackwell,291 F.Supp.2d 673, 696 (S.D.Ohio 2003).

3. Negligent Misrepresentation

MetLife, Lloyds, the New York Funds,and the Arizona Noteholders have alsobrought claims against Credit Suisse fornegligent misrepresentation. The OhioSupreme Court has defined negligent mis-representation as follows:

One who, in the course of his business,profession or employment, or in any oth-er transaction in which he has a pecuni-ary interest, supplies false informationfor the guidance of others in their busi-ness transactions, is subject to liabilityfor pecuniary loss caused to them bytheir justifiable reliance upon the infor-mation, if he fails to exercise reasonablecare or competence in obtaining or com-municating the information.

Delman v. Cleveland Hts., 41 Ohio St.3d 1,4, 534 N.E.2d 835, 838 (Ohio 1989) (quoting3 Restatement of the Law 2d, Torts (1965),Section 552(1)).

4. Summary of Credit Suisse’s Argu-ments

Credit Suisse opposes the Section 10(b),fraud, and negligent misrepresentationclaims on the same grounds. In its mo-tions to dismiss, Credit Suisse first arguesthat it made no misrepresentations toPlaintiffs and owed no duty of disclosure.Credit Suisse next argues that the com-plaints fail to sufficiently plead scienter.Finally, Credit Suisse contends that theoffering materials contained disclaimersthat precluded Plaintiffs from claimingthey justifiably relied on Credit Suisse’salleged misrepresentations.

B. The Alleged Misrepresentations

Plaintiffs allege that they received offer-ing materials from Credit Suisse in con-nection with their purchase of NPF VI and

1. The Court has refrained from makingchoice-of-law determinations until the factsare further developed. Unless otherwise not-

ed, the parties and the Court look primarily toOhio law.

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NPF XII notes. These materials includedprivate placement memoranda, supplemen-tal private placement memoranda, and theMaster Indenture governing the NPF XIInote program. MetLife and Lloyds allegethat Credit Suisse, as initial purchaser andlead underwriter of the notes, was ‘‘inti-mately involved with the drafting’’ of theoffering materials. See MetLife FourthAm Compl., ¶ 34; Lloyds Fourth Am.Compl., ¶ 36. The New York Funds simi-larly allege that Credit Suisse, as primaryseller of the notes and as National Centu-ry’s financial advisor, had ‘‘active involve-ment in drafting, editing and/or approving’’the offering materials. See New YorkFunds Second Am. Compl., ¶ 143. TheArizona Noteholders make the same alle-gations that Credit Suisse played a signifi-cant role in drafting the offering materials.

Plaintiffs contend that the offering ma-terials contained material misstatementsand omissions regarding how NPF VI andNPF XII operated, including that the noteprograms:

1 maintained separate books and rec-ords from other National Century en-tities;

1 had on their boards of directors anindependent director unaffiliated withNational Century;

1 restricted their business to purchasingeligible receivables and issuing notes;

1 provided certain credit enhancementsfor the notes in accordance with theMaster Indenture governing the noteprograms;

1 were capitalized by National Centuryin accordance with the Indenture;

1 maintained segregated reserve ac-counts;

1 used proceeds from issuing notes topurchase eligible receivables;

1 did not purchase receivables in excessof payor concentration limitations setforth in the Indenture; and

1 did not engage in related party trans-actions.

Plaintiffs contend that these misrepresen-tations were material because they went toassuring that National Century’s businessmodel was financially sound and that thenotes were a good investment.

Plaintiffs allege that Credit Suisse re-peated many of the same misrepresenta-tions during sales presentations given toPlaintiffs. For instance, MetLife allegesthat Credit Suisse gave a sales presenta-tion at MetLife’s offices on October 11,2000. During this presentation, CreditSuisse allegedly misrepresented that thenotes were of high quality and the noteprograms had strong credit controls andenhancements. The New York Funds al-lege that Credit Suisse made a sales pres-entation to them in October 2000 in whichCredit Suisse made the same or similarmisrepresentations as were contained inthe offering materials. The Arizona Note-holders likewise allege that during salespresentations and telephone calls, repre-sentatives of Credit Suisse reiterated themisrepresentations made in the offeringmaterials and made false assurances aboutthe quality of the notes.

Plaintiffs further allege that CreditSuisse made material misrepresentationsand omissions in other written materials.For instance, MetLife alleges that CreditSuisse sent it a ‘‘Salespoints’’ document onDecember 18, 2000. This Salespoints doc-ument allegedly made the same or similarmisrepresentations as were contained inthe offering materials, namely that NPFXII was operating in compliance with thematerial terms of the Master Indenture.In June 2001, Credit Suisse sent to Met-Life an email misrepresenting that thereserve accounts were being properlymaintained and that the accounts receiv-able being purchased were of high quality.

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Lloyds similarly alleges that CreditSuisse sent it a document in January 2001containing misrepresentations regardingthe nature and quality of the receivables,the nature of the collateralization of thenotes, and the maintenance of the reserveaccounts. In July 2002, after the NPFXII notes were downgraded by ratingsagency Fitch, Inc., Lloyds contacted Cred-it Suisse, who responded by sending a‘‘Research Report’’ containing the same orsimilar misrepresentations.

The New York Funds likewise allegethat Credit Suisse issued the July 2002Research Report, which misrepresentedthat there were no problems with the NPFXII note program. And the Arizona Note-holders allege that Credit Suisse sentthem a number of ‘‘Salespoints’’ documentsthat repeated the same misrepresentationsas were made in the offering materials.

[5] In the face of these allegations,Credit Suisse argues that it made no mis-representations to Plaintiffs. Selectivelyquoting language from the offering materi-als stating that National Century preparedthe materials, Credit Suisse contends thatany misrepresentations in those materialsbelonged to National Century and not toCredit Suisse. This argument is unper-suasive. Credit Suisse’s name is displayedon the front page of all the offering mate-rials, which identify Credit Suisse as theinitial purchaser of the notes. The com-plaints allege that Credit Suisse draftedthe materials and provided them to Plain-tiffs when marketing the notes. Indeed,the complaints go so far as quoting CreditSuisse’s own internal papers showing thatCredit Suisse helped draft and review theoffering materials. See MetLife Compl.,¶ 34, Lloyds Compl., ¶ 36, New YorkFunds Compl., ¶ 148. In Gabriel Capital,L.P. v. NatWest Finance, Inc., 94F.Supp.2d 491, 502 (S.D.N.Y.2000), thecourt rejected a similar argument made bytwo underwriters in a motion to dismiss:

‘‘[T]he cover of the Offering Memorandumprominently lists both NatWest and Mc-Donald as two of the four initial purchas-ersTTTT In addition, NatWest and Mc-Donald gave the Offering Memorandum toplaintiffs as part of their sales pitchTTTT

At this stage of the proceedings, that is asufficient basis to conclude that the allegedmisrepresentations were attributable toNatWest and McDonald.’’

[6–9] Credit Suisse next argues that itowed no duty of disclosure to Plaintiffs.Generally, a party to a business transac-tion has a duty to disclose only when aspecial relationship exists, which CreditSuisse contends was not the case here.See Interim Healthcare of Northeast Ohio,Inc. v. Interim Services, Inc., 12F.Supp.2d 703, 712 (N.D.Ohio 1998).However, a party who chooses to speak ina securities transaction assumes a duty tospeak truthfully and completely about thematters on which he speaks. See Rubin v.Schottenstein, Zox & Dunn, 143 F.3d 263,268 (6th Cir.1998) (en banc). Even thougha party ‘‘in a securities transaction maynot always be under an independent dutyto volunteer information TTT he assumes aduty to provide complete and nonmislead-ing information with respect to subjects onwhich he undertakes to speak.’’ Rubin,143 F.3d at 268. Here, the complaintsadequately allege that Credit Suisse un-dertook, through the offering materials,sales presentations, and other written ma-terials, to speak about the material aspectsof the NPF VI and NPF XII note pro-grams. These allegations are sufficient toimpose a duty on Credit Suisse to providecomplete and nonmisleading informationregarding all the subjects on which CreditSuisse spoke.

Finally, Credit Suisse argues that theclaims of the New York Funds and theArizona Noteholders must be dismissedbecause the complaints fail to identify

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which, if any, of the various plaintiffs whomake up the New York Funds and ArizonaNoteholders received and reviewed the of-fering materials. This argument too iswithout merit. The New York Funds spe-cifically allege that they made investmentdecisions through their agents Citibank,N.A. and Lincoln Capital, LLC and thatthese agents received and reviewed theoffering materials from Credit Suisse.Each of the Arizona Noteholders allegethat Credit Suisse provided the offeringmaterials either directly to them or totheir investment advisors.

C. Scienter

1. Pleading Standard

The Sixth Circuit has described thePSLRA’s provisions as ‘‘[a]dding to theFederal Rules of Civil Procedure 9(b) re-quirement that fraud must be stated withparticularity.’’ In re Ford Motor Co. Secs.Litig., 381 F.3d 563, 567 (6th Cir.2004).‘‘[N]ot only must the complaint make par-ticular factual allegations, but the infer-ence of scienter which those allegationsgenerate must be strong.’’ PR Diamonds,Inc. v. Chandler, 364 F.3d 671, 682 (6thCir.2004).

[10, 11] To establish liability underSection 10(b) and Rule 10b–5, a plaintiffmust prove that the defendant acted withscienter, ‘‘a mental state embracing intentto deceive, manipulate, or defraud.’’ Ernst& Ernst v. Hochfelder, 425 U.S. 185, 193–94, n. 12, 96 S.Ct. 1375, 47 L.Ed.2d 668(1976). In the Sixth Circuit, reckless be-havior may suffice for liability under Sec-tion 10(b). Robert N. Clemens Trust v.Morgan Stanley DW, Inc., 485 F.3d 840,847 (6th Cir.2007); Helwig v. Vencor, Inc.,251 F.3d 540, 548 (6th Cir.2001) (en banc).Recklessness is a mental state falling‘‘somewhere between intent and negli-gence’’ and is characterized by ‘‘highly un-reasonable conduct which is an extremedeparture from the standards of ordinary

care.’’ Mansbach v. Prescott, Ball & Tur-ben, 598 F.2d 1017, 1025 (6th Cir.1979).‘‘While the danger need not be known, itmust at least be so obvious that any rea-sonable man would have known of it.’’ Id.

The United States Supreme Court re-cently discussed Section 10(b)’s scienterrequirement in Tellabs, Inc. v. Makor Is-sues & Rights, Ltd., ––– U.S. ––––, 127S.Ct. 2499, 168 L.Ed.2d 179 (2007). TheCourt was called on to interpret thePSLRA’s requirement that the allegationsgive rise to a ‘‘strong inference that thedefendant acted with the required state ofmind.’’

In the case before us, the Court of Ap-peals for the Seventh Circuit held thatthe ‘‘strong inference’’ standard wouldbe met if the complaint ‘‘allege[d] factsfrom which, if true, a reasonable personcould infer that the defendant acted withthe required intent.’’ 437 F.3d 588, 602(2006). That formulation, we conclude,does not capture the stricter demandCongress sought to convey in§ 21D(b)(2) [of the PSLRA]. It doesnot suffice that a reasonable factfinderplausibly could infer from the com-plaint’s allegations the requisite state ofmind. Rather, to determine whether acomplaint’s scienter allegations can sur-vive threshold inspection for sufficiency,a court governed by § 21D(b)(2) mustengage in a comparative evaluation; itmust consider, not only inferences urgedby the plaintiff, as the Seventh Circuitdid, but also competing inferences ra-tionally drawn from the facts alleged.An inference of fraudulent intent may beplausible, yet less cogent than other,nonculpable explanations for the defen-dant’s conduct. To qualify as ‘‘strong’’within the intendment of § 21D(b)(2), wehold, an inference of scienter must bemore than merely plausible or reason-able-it must be cogent and at least as

1000 541 FEDERAL SUPPLEMENT, 2d SERIES

compelling as any opposing inference ofnonfraudulent intent.

127 S.Ct. at 2504–05.

[12] The Supreme Court set the fol-lowing guidelines for analyzing whether acomplaint sufficiently pleads scienter.‘‘First, faced with a Rule 12(b)(6) motion todismiss a § 10(b) action, courts must, aswith any motion to dismiss for failure toplead a claim on which relief can be grant-ed, accept all factual allegations in thecomplaint as true.’’ 127 S.Ct. at 2509.‘‘Second, courts must consider the com-plaint in its entiretyTTTT The inquiry, asseveral Courts of Appeals have recognized,is whether all of the facts alleged, takencollectively, give rise to a strong inferenceof scienter, not whether any individual al-legation, scrutinized in isolation, meetsthat standard.’’ Id. (citing cases). ‘‘Third,in determining whether the pleaded factsgive rise to a ‘strong’ inference of scienter,the court must take into account plausibleopposing inferences.’’ Id. With respect tothis last point, the Court explained:

The strength of an inference cannot bedecided in a vacuum. The inquiry isinherently comparative: How likely is itthat one conclusion, as compared to oth-ers, follows from the underlying facts?To determine whether the plaintiff hasalleged facts that give rise to the requi-site ‘‘strong inference’’ of scienter, acourt must consider plausible nonculpa-ble explanations for the defendant’s con-duct, as well as inferences favoring theplaintiff. The inference that the defen-dant acted with scienter need not beirrefutableTTTT Yet the inference ofscienter must be more than merely ‘‘rea-sonable’’ or ‘‘permissible’’—it must becogent and compelling, thus strong inlight of other explanations. A complaintwill survive, we hold, only if a reasonableperson would deem the inference ofscienter cogent and at least as compel-

ling as any opposing inference one coulddraw from the facts alleged.

Id. at 2510.

2. Plaintiffs’ Allegations of Scienter

Plaintiffs allege at length that CreditSuisse knew that its representations con-cerning the note programs were false.Below is a summary of the numerous alle-gations of Credit Suisse’s scienter.

MetLife and Lloyds allege that CreditSuisse became aware of the fraud at Na-tional Century no later than 1999 whenCredit Suisse performed a due diligencereview of National Century’s operations.Credit Suisse performed the review as apart of National Century’s ultimately un-successful efforts to arrange an initial pub-lic stock offering, which Credit Suisse wasset to underwrite. During the due dili-gence, Credit Suisse allegedly reviewed, orat least had access to, documents inform-ing it that National Century’s operationswere fraudulent. For instance, CreditSuisse had access to draft audit reportsdating back to 1995. These reports direct-ly stated that National Century had notcomplied with the Master Indenture’s re-quirements for purchasing accounts receiv-able because it had purchased receivablesthat were ‘‘significantly aged’’ and‘‘deemed uncollectible.’’ Moreover, CreditSuisse allegedly had access to a June 25,1999 document authored by PriceWater-houseCoopers LLP reporting that Nation-al Century had improperly done the fol-lowing: purchased receivables older than180–day limit set by the Master Indenture;listed ineligible receivables as collateral;and commingled or transferred funds be-tween note programs. MetLife andLloyds further allege that Credit Suissereceived and reviewed an April 27, 1999document authored by Kaye, Scholer, Fi-erman, Hays & Handler stating that Na-tional Century had not complied with cer-

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tain documentary and reporting provisionsof the Master Indenture.

MetLife and Lloyds allege that CreditSuisse continued to receive information in-forming it of problems at National Centu-ry. For instance, they allege that in July2000 representatives from Credit Suisseand Fitch met to discuss Fitch’s concernsabout the note programs. Fitch allegedlytold Credit Suisse that it had found evi-dence of a surprising amount of relatedparty transactions, meaning that NationalCentury was purchasing receivables fromhealthcare providers in which NationalCentury or its Founders held a financialinterest. MetLife and Lloyds further al-lege that Credit Suisse received documentsfrom April and May 2001 indicating thatNational Century was over-advancingmoney to healthcare providers and thatthe reserve accounts had dropped belowthe required levels. Credit Suisse alleged-ly received a March 7, 2002 letter fromLance Poulsen, one of National Century’sFounders, indicating that National Centu-ry was kiting funds between note pro-grams in order to create the appearancethat the reserve level requirements werebeing met. Further, an October 15, 2002internal memorandum written by Poulsenallegedly stated that he had met withCredit Suisse about artificially boostingthe reserve accounts.

The New York Funds and the ArizonaNoteholders also make extensive allega-tions of scienter. They allege that, as partof the due diligence, Credit Suisse re-viewed a draft registration statement stat-ing that National Century had engaged inrelated party transactions. The draftidentified by name several of the health-care providers in which National Centuryor its Founders held interests, and it stat-ed that related party transactions account-ed for 36.3% of National Century’s grossrevenues in 1998. These Plaintiffs furtherallege that in 1998 one of Credit Suisse’s

financial clients, Freenius, contacted Cred-it Suisse about selling a healthcare busi-ness, NMC Homecare, to National Centu-ry. Credit Suisse helped arrange the saleof NMC Homecare and its receivables toNational Century. In the process, CreditSuisse allegedly learned that NationalCentury was buying NMC Homecare’s re-ceivables even though they did not meetthe eligibility standards described in theoffering materials and Master Indenture.

The New York Funds and the ArizonaNoteholders additionally allege that CreditSuisse knew of large shortfalls in the re-serve accounts. In September 2000, Cred-it Suisse allegedly loaned $300 million toNational Century for the specific purposeof using the money to hide the shortfalls inthe reserve accounts of NPF VI and NPFXII. The New York Funds and the Ari-zona Noteholders also cite a July 15, 2002report issued by Credit Suisse in which itadmitted that it knew for several yearsthat the note programs had violated theconcentration limits set forth in the MasterIndenture. Those concentration limitswere supposed to restrict the note pro-grams from purchasing too many of thesame class of receivables and from pur-chasing too many receivables from any oneprovider.

The complaints also contain numerousindirect allegations of scienter. Accordingto Plaintiffs, the alleged fraud at NationalCentury was so great in magnitude, withlosses between $2 and $3 billion, that insid-ers like Credit Suisse had to have knownof the fraud. The complaints further al-lege the existence of many ‘‘red flags’’ thatshould have alerted Credit Suisse to thealleged fraud. Some of the red flags in-cluded: (1) Credit Suisse’s receipt of anon-ymous letters raising specific concernsabout the operation of the note programs;(2) Deutsche Bank, which at one timeserved as an underwriter, abruptly termi-

1002 541 FEDERAL SUPPLEMENT, 2d SERIES

nating its relationship with National Cen-tury in 2000; (3) PriceWaterhouseCoopers,which served as National Century’s audi-tor, abruptly terminating its relationshipwith National Century in 1999; (4) unex-plained delays in the issuing of audits; (5)Deloitte & Touche, which replaced Price-Waterhouse as auditor, failing to completeits audit in 2001 and stating that therewere concerns about the quality of thereceivables; and (6) Fitch downgrading itsrating of the NPF VI and NPF XII notes.

Each of the Plaintiffs further allege thatCredit Suisse had financial motives forcontinuing to market the notes and misre-present their quality, despite knowing thatthe note programs had repeatedly commit-ted material violations of the Master In-denture. Plaintiffs allege that CreditSuisse collected significant investmentbanking and placement fees in its role asplacement agent. In addition, Plaintiffs al-lege that Credit Suisse stood to lose mil-lions of dollars if it, the initial purchaser ofthe notes, could not transfer the notes tothe secondary market before NationalCentury’s alleged fraud was exposed.

3. Discussion

Credit Suisse offers four main reasonsfor why Plaintiffs’ allegations of scienterare insufficient. First, Credit Suisse inter-prets the allegations as showing that itdiscovered the fraud after the fact—afterit had already sold the notes to Plaintiffs.Second, Credit Suisse contends that thecomplaints allege that it merely had accessto information. Third, Credit Suisse ar-gues that the allegations concerning duediligence support nothing more than aninference that Credit Suisse performed thedue diligence review negligently. Finally,Credit Suisse argues that the allegationsof motive are nonsensical because CreditSuisse would not have increased its expo-sure to National Century after havinglearned of the alleged fraud.

[13, 14] Upon review of the complaints,the Court finds that each complaint sup-ports a strong inference of scienter that ismore compelling than the competing infer-ences suggested by Credit Suisse. CreditSuisse contends that scienter cannot beestablished through allegations of ‘‘fraudby hindsight.’’ As a legal principle, this istrue. If a defendant did not know orrecklessly disregard the falsity of thestatement at the time it was made, thenSection 10(b) liability cannot be imposedeven if the statement turns out to be falsein hindsight. See Sinay v. Lamson &Sessions Co., 948 F.2d 1037, 1042 (6thCir.1991) (holding that allegations of fraudby hindsight are insufficient to withstand amotion to dismiss). But Credit Suisse con-fuses how this principle applies here. Itdoes not matter, as Credit Suisse seems tobelieve it does, that the complaints areunable to trace Credit Suisse’s allegedknowledge of the fraud to the time thealleged scheme to defraud investors wasconceived. What matters for purposes ofSection 10(b) liability is that Credit Suisseis alleged to have known of the fraudulentscheme by the time it made misrepresen-tations to Plaintiffs. See Sinay, 948 F.2dat 1040 (the issue is ‘‘whether the state-ment was false when made’’). The com-plaints here thoroughly allege that CreditSuisse knew of the material aspects of thefraud—including the purchase of ineligiblereceivables, the related-party transactions,and the depletion and manipulation of re-serve accounts—before it solicited and soldnotes to Plaintiffs.

[15] In an argument directed particu-larly at MetLife and Lloyds, Credit Suisseargues that the complaints allege only thatCredit Suisse had access to information.For instance, MetLife and Lloyds allegethat Credit Suisse had access to draft au-dit reports and a PriceWaterhouseCoopersdocument when it performed the due dili-

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gence review. Credit Suisse correctlynotes that mere access to information isnot enough to establish scienter. See Fi-del v. Farley, 392 F.3d 220, 229–30 (6thCir.2004); PR Diamonds, Inc. v. Chan-dler, 364 F.3d 671, 688 (6th Cir.2004). InFidel and PR Diamonds, the complaintsalleged in conclusory fashion that the de-fendants, because of their positions withthe companies committing the fraud, hadaccess to information that would have giv-en them knowledge of the fraud. Thecomplaints failed to allege what documentsin particular the defendants had access toor what information they would havelearned from reviewing the documents.

In contrast to the plaintiffs in Fidel andPR Diamonds, MetLife and Lloyds de-scribe exactly what documents CreditSuisse had access to, why Credit Suisselikely would have reviewed them, andwhat Credit Suisse would have learned byreviewing them. More importantly, asdiscussed in Part III.C.2 above, the com-plaints of MetLife and Lloyds go beyondallegations of mere access and describewhat information Credit Suisse did reviewand know. The complaints allege thatCredit Suisse knew—based on the KayeScholer memo, information from the meet-ing with Fitch, documents dated fromApril and May 2001, and correspondencewith Lance Poulsen—that National Centu-ry was purchasing ineligible receivables,making related-party transactions, andmanipulating its depleted reserve ac-counts. Thus, even putting aside the alle-gations of access, the complaints suffi-ciently allege that Credit Suisse reviewedinformation giving it knowledge of the al-leged fraud.

Credit Suisse next contends that thecomplaints portray its performance of thedue diligence review as negligent at best,and negligence is not sufficient to imposeSection 10(b) liability. See Ernst & Ernstv. Hochfelder, 425 U.S. 185, 210, 96 S.Ct.

1375, 47 L.Ed.2d 668 (1976) (holding thatSection 10(b) ‘‘cannot be extended, consis-tently with the intent of Congress, to ac-tions premised on negligent wrongdoing’’).But the thrust of the complaints is not thatCredit Suisse negligently performed thedue diligence. Rather, it is that CreditSuisse did perform the due diligence anddid receive and review information provid-ing it with knowledge of the material as-pects of the alleged fraud. The ArizonaNoteholders, for instance, quote CreditSuisse’s own statement to investors that ithad done ‘‘lots of due diligence.’’ See, e.g.,State of Arizona’s Second Am. Compl.,¶ 108. Even if the allegations about thedue diligence review, standing alone, donot create a strong inference of scienter,the Court must consider each complaint asa whole. Each complaint contains addi-tional allegations of post-due diligence in-formation Credit Suisse actually receivedand knew, as well as specific allegations ofnumerous red flags that would have alert-ed a reasonable person in Credit Suisse’sposition of the fraud. See PR Diamonds,364 F.3d at 686 (‘‘Specific factual allega-tions that a defendant ignored red flags, orwarning signs that would have revealedthe accounting errors prior to their inclu-sion in public statements, may support astrong inference of scienter.’’). All ofthese allegations, when combined with thedue diligence allegations, create a stronginference of scienter.

Finally, Credit Suisse attacks the allega-tions of motive as being nonsensical.Credit Suisse questions why it would con-tinue to serve as the initial purchaser ofthe notes if it knew of the fraud. Noreasonable business, according to CreditSuisse, would expose itself to such a highrisk of loss. Though Credit Suisse mayultimately be able prove this to be thecase, the Court at this stage must acceptthe allegations in the complaints as true.The complaints allege that Credit Suisse

1004 541 FEDERAL SUPPLEMENT, 2d SERIES

continued its involvement in National Cen-tury because that was the best way forCredit Suisse to reduce its exposure.Plaintiffs allege that Credit Suisse, havingbecome deeply involved in the fraudulententerprise and with hundreds of millions ofdollars of unsold notes on its hands, re-duced its exposure by selling the notes tounsuspecting investors. And by sellingthe notes, Credit Suisse generated enoughfunds to keep the note programs goingawhile longer.

In summary, the Court finds that eachcomplaint alleges facts that, when taken astrue and considered collectively, give riseto a strong inference of scienter. CreditSuisse has challenged isolated portions ofthe complaints but does not offer any com-peting explanations of the pleaded factsthat are as plausible as Plaintiffs’ explana-tions. The complaints portray CreditSuisse as an insider to the scheme todefraud. They describe a complete pic-ture of Credit Suisse’s participation,knowledge, and motivation regarding Na-tional Century’s alleged scheme to defraudinvestors—a fraud so great in magnitudethat the most plausible inference is thatCredit Suisse almost surely had to know ofit. See PR Diamonds, 364 F.3d at 684–85(finding that fraud of great magnitude, incombination with other factors, may sup-port a strong inference of fraud).

D. Reliance

Credit Suisse next argues that Plaintiffscould not have justifiably relied on thealleged misrepresentations. Credit Suissepoints to several disclaimers contained inthe offering materials, including that: (1)Credit Suisse did not do ‘‘any independentinvestigation’’ of the statements in the of-fering materials; (2) Credit Suisse madeno ‘‘representations or warranties as to theaccuracy or completeness of the informa-tion’’ contained in the offering materials;(3) prospective purchasers ‘‘must rely ontheir own examination’’ of the issuer and

note offering; and (4) no person, apartfrom those ‘‘specifically designated,’’ was‘‘authorized to give any information or tomake any representations other than thosecontained in [the memoranda].’’ See Pri-vate Placement Memoranda and Supple-mental Private Placement Memoranda, pp.3–4. Credit Suisse argues that no reason-able investor could have relied on any mis-representations in the offering materialsafter seeing the disclaimers.

Credit Suisse contends that the Partic-ipation Agreement between it and Lloydscontained similar disclaimers to the ones inthe offering materials. The Agreementstated that Credit Suisse had not madeany representations or warranties toLloyds and that Lloyds was responsiblefor conducting its own examination of theNPF XII note program. See ParticipationAgr., § 12.

[16] The Court finds that the dis-claimers in the offering materials andParticipation Agreement do not precludePlaintiffs from showing that they justifi-ably relied on Credit Suisse’s alleged mis-representations. The reasons why this isso are fully explained in Plaintiffs’ briefs,and the Court will discuss them onlybriefly. The issue of whether a party’sreliance was justifiable is largely a ques-tion of fact inappropriate for resolution ona motion to dismiss. See Bass v. JanneyMontgomery Scott, Inc., 210 F.3d 577, 590(6th Cir.2000) (‘‘[T]he question of whether[plaintiff’s] reliance was reasonable is be-yond doubt a question of fact for a juryto decide, and not a fit subject for judg-ment as a matter of law.’’). This is par-ticularly true here because the purporteddisclaimers were undermined or contra-dicted by other information allegedlyavailable to potential investors. For in-stance, the disclaimer stating that CreditSuisse had done no independent investiga-tion would seem beyond credulity to po-

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tential investors who knew that CreditSuisse, a major financial institution, hadhelped devise the note programs, helpeddraft the offering materials, and had pur-chased hundreds of millions of dollars ofnotes in its role as initial purchaser.

Other disclaimers stated that CreditSuisse was not making any representationsof accuracy and that potential investorsshould rely on their own examinations.But those disclaimers were contradictedby a statement on the second page of theoffering materials telling potential inves-tors, ‘‘You should rely only on the informa-tion contained in this document.’’ Thevery documents that Credit Suisse put intothe hands of investors told them to rely onthe statements made in those documents.

The last disclaimer—the one in the of-fering materials stating that no person,apart from those ‘‘specifically designated,’’was authorized to make representationsother than those in the private placementmemoranda—on its face did not apply torepresentations made in the offering mate-rials. Moreover, the offering materials no-where made a specific designation of whowas authorized to make representations.In the absence of a specific designationotherwise, investors dealing with CreditSuisse, who served as placement agent forthe notes and whose name appeared prom-inently on the front page of the offeringmaterials, certainly had reason to believethat Credit Suisse was authorized to makerepresentations.

Courts have long held that general dis-claimers of accuracy do not shield sellerswho knowingly make false statements.‘‘[I] f a deliberate fraud may be shieldedby a clause in a contract that the writingcontains every representation made byway of inducement, or that utterancesshown to be untrue were not an induce-ment to the agreement, sellers of bogussecurities may defraud the public with im-punity, through the simple expedient of

placing such a clause in the prospectuswhich they put out, or in the contractswhich their dupes are asked to sign.’’ Ar-nold v. Nat’l Aniline & Chemical Co., 20F.2d 364, 369 (2d Cir.1927). As Plaintiffsargue, it would defeat the securities laws ifparties could escape liability for their owndeliberate misrepresentations by insertingboilerplate disclaimers into offering mate-rials. See Milman v. Box Hill SystemsCorp., 72 F.Supp.2d 220, 231 (S.D.N.Y.1999) (‘‘[N]o degree of cautionary languagewill protect material misrepresentations oromissions where defendants knew theirstatements were false when made.’’); Ja-doff v. Gleason, 140 F.R.D. 330, 335(M.D.N.C.1991) (‘‘[U]pholding such dis-claimers of reliance would give a 10b–5defendant license to make any representa-tions he desired with impunity.’’).

Indeed, Section 29(a) of the SecuritiesExchange Act prohibits the waiver of thesubstantive obligations of the Act. It pro-vides, ‘‘Any condition, stipulation, or provi-sion binding any person to waive compli-ance with any provision of this title or ofany rule or regulation thereunder, or ofany rule of an exchange required therebyshall be void.’’ 15 U.S.C. § 78cc(a); seeAES Corp. v. Dow Chemical Co., 325 F.3d174, 179 (3d Cir.2003). ‘‘[A] party cannotdisclaim liability for fraudulent misrepre-sentations by placing a disclaimer to thateffect in a contractTTTT This is especiallytrue of fraud in securities transactions. 15U.S.C. § 78cc voids any contract whichpurports to release an individual from obli-gations under the federal securities laws,or to waive any claims under those stat-utes before those claims accrue.’’ Katz v.First of Mich., No. K87–264 CA4, 1989WL 62196, at * 10 (W.D.Mich. March 13,1989). Thus, the Court finds that CreditSuisse’s purported disclaimers do not pre-clude Plaintiffs from pleading justifiablereliance.

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E. Statute of Limitations Challengeto Arizona Noteholders’ FraudClaims

Credit Suisse argues that a significantnumber of the Arizona Noteholders filedtheir fraud claims, as well as the rest oftheir common law claims, after Arizona’sstatute of limitations had run. The Ari-zona Noteholders filed two of their law-suits on May 23, 2003 and the third suit onAugust 9, 2003. Credit Suisse argues thatthe common law claims accrued upon thepurchase of the notes, some of which hadpurchase dates in 1998, 1999, and early2000. Arizona law has a three-year stat-ute of limitations for fraud-based claimsand a two-year statute of limitations forother common law claims. See Ariz.Rev.Stat. Ann. §§ 12–542, 12–543.

[17, 18] The Court must reject CreditSuisse’s argument. The Arizona Note-holders have alleged at length that CreditSuisse concealed its conduct. They con-tend that the offering materials did notdisclose the fraudulent nature of NationalCentury’s operations, and when they ap-proached Credit Suisse with concerns,Credit Suisse allegedly issued false assur-ances about the health of the NPF VI andNPF XII programs. The statute of limita-tions is subject to a discovery rule where-by a claim accrues when a plaintiff knows,or by the exercise of due diligence shouldknow, of the defendant’s wrongful conduct.See Taylor v. State Farm Mut. Auto. Ins.,Co., 913 P.2d 1092, 1095, 185 Ariz. 174, 177(Ariz.1996); Gust, Rosenfeld & Hendersonv. Prudential Ins. Co. of Am., 898 P.2d964, 966–67, 182 Ariz. 586, 588–89 (Ariz.1995). The complaints sufficiently allegethat the Arizona Noteholders could nothave reasonably discovered the wrongfulconduct until the time of National Centu-ry’s collapse in October 2002.

F. Summary

For the reasons discussed above, theCourt finds that the complaints of MetLife,Lloyds, and the New York Funds satisfythe pleading standard of the PSLRA andsufficiently state claims against CreditSuisse under Section 10(b). Those samecomplaints, as well as the complaints of theArizona Noteholders, satisfy the standardof Rule 9(b) in stating claims for fraud andnegligent misrepresentation.

IV. STATE BLUE SKY LAW CLAIMS

MetLife, Lloyds, and the Arizona Note-holders have asserted claims under theblue sky laws of various states. Theselaws prohibit the use of misrepresentationsand material omissions in connection withthe sale of securities. Typically, a state’sblue sky law will have provisions imposingprimary liability on sellers or solicitorswho make untrue statements in connectionwith a sale, and it will have provisionsimposing secondary liability on personswho materially aid the seller and on per-sons who control the seller. See e.g., OhioRev.Code § 1707.41(A) (primary liability),§ 1707.43(A) (secondary liability).

Credit Suisse opposes the blue sky lawclaims for the same reasons that it op-posed the Section 10(b) and fraud claims.It contends that it made no misrepresenta-tions, did not have a duty to disclose, didnot act with the requisite scienter, andthat the disclaimers precluded reasonablereliance by Plaintiffs. As discussed inPart III above, those arguments are notpersuasive.

Credit Suisse additionally argues thatthe blue sky law claims fail for the follow-ing reasons: (1) certain plaintiffs have notalleged any nexus to the particular stateswhose blue sky laws they invoke; (2) theclaims of certain Arizona Noteholders aretime-barred; (3) the Arizona Noteholderswho are governmental entities lack stand-

1007IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

ing to assert a claim; (4) there is noprivate right of action under the blue skylaws of New Jersey and Oregon; (5) thelaws of several states do not apply toprivate placements; (6) the laws do notprotect certain Arizona Noteholders whopurchased notes from Credit Suisse in theaftermarket; (7) Credit Suisse did not sellor solicit the sale of notes to certain Ari-zona Noteholders who purchased notesfrom someone other than Credit Suisse;and (8) Credit Suisse did not materiallyassist or aid the sale of notes to thoseArizona Noteholders who purchased notesfrom someone other than Credit Suisse.

A. Nexus with Certain States

1. Lloyds

[19] Credit Suisse first contends thatLloyds has not alleged a sufficient nexuswith New Jersey to assert a claim underthe blue sky law of that state. This iscorrect. In its May 7, 2007 Opinion con-cerning the Outside Directors, the Courtfound:

[T]he complaint of Lloyds (a Britishpublic limited company with its principalplace of business in London, England),makes no allegations about where it wasoffered, or where it accepted an offer, topurchase notes. The complaint allegesthat Credit Suisse First Boston LLCserved as lead underwriter for the notes.According to the complaint, CreditSuisse First Boston LLC is a Delawarelimited liability company, with its princi-pal place of business in New York. BancOne Capital Markets, a broker-dealerthat allegedly had a role in the noteoffering, is incorporated in Delaware,with it principal place of business inIllinois.

The Court finds that the complaint ofLloyds fails to contain any allegationsthat would bring the Outside Directors’alleged conduct within the scope of NewJersey’s Blue Sky law. On the face of

the complaint, there is no connectionbetween New Jersey and the OutsideDirectors’ actionable conduct. Lloydshas amended its complaint four times,and despite the Outside Directors rais-ing this issue from the outset, the com-plaint fails to allege any connection toNew Jersey. Accordingly, Lloyds’sclaim under New Jersey’s Blue Sky lawis dismissed.

May 7, 2007 Opinion, p. 35. Lloyds’s com-plaint likewise fails to allege any connec-tion between New Jersey and CreditSuisse’s actionable conduct, and, thus,Lloyds’s claim under New Jersey’s bluesky law is dismissed.

2. Certain Arizona Noteholders

Credit Suisse next argues that four ofthe Arizona Noteholders have not allegeda sufficient nexus with the state whoseblue sky law they invoke. Those plaintiffsand states are: the State of Indiana PublicEmployees’ Retirement Fund (Indiana);Mellon Investor Services LLC (New Jer-sey); Crown, Cork & Seal Company Mas-ter Retirement Trust (Pennsylvania); andthe Metropolitan Government of Nashvilleand Davidson County (Tennessee). Eachof these plaintiffs reside in the state whoselaw they invoke. Credit Suisse arguesthat residency is not enough; rather, theremust be a purchase or an offer to buy orsell in a particular state before that state’sblue sky law may be invoked.

According to the complaints, the State ofIndiana Public Employees’ RetirementFund and the Metropolitan Government ofNashville and Davidson County actedthrough an investment advisor in Illinois.The Crown, Cork & Seal Company MasterRetirement Trust acted through an invest-ment advisor in Minnesota. The complaintis not entirely clear about Mellon InvestorServices, but it groups Mellon with otherplaintiffs from New York in a way suggest-ing that it acted through an advisor in

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New York. Credit Suisse does not chal-lenge the claims these plaintiffs make un-der the laws of the states where theirinvestment advisors were located or underthe law of Ohio, where National Centurywas headquartered. It challenges only theresidency-based claims.

Each of the blue sky laws at issue applyto the ‘‘offer, sale, or purchase’’ of a securi-ty in that state. See Ind.Code § 23–2–1–12; N.J. Stat. Ann. § 49:3–51(a); 70 Pa.Cons.Stat. § 1–401; Tenn.Code Ann.§ 48–2–121(a). Credit Suisse argues thatthe sales here occurred in the state wherethe plaintiff’s agent was located, not whereplaintiff resided. Plaintiffs counter thateach state has an interest in protecting itsresidents and that the blue sky laws mayvalidly be applied to protect residents whohave been defrauded in purchasing securi-ties.

The Court finds that these blue sky lawclaims should survive the motion to dis-miss. Typically, a defrauded buyer of asecurity may assert a blue sky claim underthe law of his own state. In A.S. Goldmen& Co., Inc. v. New Jersey Bureau of Secu-rities, 163 F.3d 780, 787 (3d Cir.1999), theThird Circuit recognized that securitiestransactions often are not confined to onestate. Courts should look to where the‘‘elements of the transaction have oc-curred.’’ Id. Thus, a ‘‘contract between [aseller] in New Jersey and a buyer in NewYork does not occur ‘wholly outside’ NewJersey, just as it does not occur ‘whollyoutside’ New York. Rather, elements ofthe transaction occur in each state, andeach state has an interest in regulating theaspect of the transaction that occurs withinits boundaries.’’ Id. Here, the plaintiffsassert claims under the laws of their ownstate, the state of the seller, and the statewhere their investment advisors were lo-cated. At this early stage, the Court can-not say that the laws of the states whereplaintiffs resided do not apply.

B. Statute of Limitations

Credit Suisse argues that the claims ofcertain Arizona Noteholders are barred bythe applicable statutes of limitations. TheArizona Noteholders filed two of their law-suits on May 23, 2003 and the third suit onAugust 9, 2003. The complaints allegethat notes were purchased in 1998 andearly 1999 by the Asset Allocation & Man-agement Plaintiffs, Bayerische Landes-bank, Mutual of New York, SanPaolo IMI,and United of Omaha Insurance Company.Credit Suisse argues the Ohio blue sky lawclaims being asserted on those notes aretime-barred under the applicable two-yearstatute of limitations. Credit Suisse alsoargues that United of Omaha’s Nebraskalaw claim is barred by Nebraska’s three-year statute of limitations. See Neb.Rev.Stat. § 8–1118(4).

[20] The Noteholders argue that thestatute of limitations should be tolled be-cause Credit Suisse fraudulently concealedits conduct until October 2002. The Courtagrees that the complaints amply allegethat Credit Suisse concealed the fraud;however, Ohio law sets a cut-off of fouryears for bringing a blue sky claim. Atthe time the Noteholders filed suit, Ohio’sblue sky law provided that no action couldbe brought ‘‘more than two years after theplaintiff knew, or had reason to know, ofthe facts by reason of which the actions ofthe person or director were unlawful, ormore than four years from the date of suchsale or contract for sale, whichever is theshorter period.’’ Ohio Rev.Code§ 1707.43(B) (2003). Thus, § 1707.43(B)has a two-year statute of limitations, whichmay be tolled, and a four-year statute ofrepose, which may not be tolled. See Wys-er–Pratte Mgmt. Co., Inc. v. Telxon Corp.,413 F.3d 553, 561 n. 7 (6th Cir.2005); Cainv. Mid–Ohio Secs., Inc., No. 06CA008933,2007 WL 2080553, at *2 (Ohio Ct.App. July23, 2007). Claims must be brought within

1009IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

two years after the discovery of facts con-stituting the violation or within four yearsfrom the date of the sale or contract forsale, ‘‘whichever is the shorter period.’’Cf. Bovee v. Coopers & Lybrand, 216F.R.D. 596, 603–04 (S.D.Ohio 2003) (dis-cussing similar language in 15 U.S.C.§ 78i(e) and noting that actions broughtunder Section 10(b) ‘‘are subject to a one-year statute of limitations and a three-yearstatute of reposeTTTT Securities fraudclaims must be brought within one yearafter the discovery of the facts constitutingthe violation and within three years afterthe violation.’’). Four years will be theshorter period where, as alleged here, thefraud was concealed for more than twoyears. The claims based on the 1998 andearly 1999 note purchases were not assert-ed within four years of sale or contract forsale.

[21] On September 16, 2003, anamendment became effective that changedthe four-year period of repose to fiveyears. Ohio Rev.Code § 1707.43(B)(2004). The Noteholders argue that theirclaims should be covered by the amended,five-year period, which went into effectshortly after they filed suit. The issuepresented is whether claims that weretime-barred when filed can be revived by alater extension of the limitations period.The general rule, including in Ohio, is thatlaws do not have retroactive effect absentexpress legislative directive otherwise.See Ohio Rev.Code § 1.48 (‘‘A statute ispresumed to be prospective in its opera-tion unless expressly made retrospec-tive.’’); Van Fossen v. Babcock & WilcoxCo., 36 Ohio St.3d 100, 105, 522 N.E.2d489, 495 (Ohio 1988). In the securitiescontext, courts have refused to applylengthened statutes of limitations retroac-tively unless the legislature says other-wise. See In re Wright Enterprises, 76Fed.Appx. 717, 723, 2003 WL 22232919, at*5 (6th Cir.2003) (holding that lengthenedlimitations period for Kentucky blue sky

law claim did not apply retroactively); Aet-na Life Ins. Co. v. Enter. Mortgage Accep-tance Co., 391 F.3d 401, 409–11 (2d Cir.2004) (holding that Sarbanes–Oxley did notrevive federal securities claim alreadytime-barred prior to the effective date ofthe amendment). Here, there is no lan-guage in § 1707.43 expressing a legislativeintent for the five-year period to applyretroactively. Accordingly, the Ohio bluesky law claims based on note purchasesmade in 1998 and early 1999 are time-barred. This means that the Asset Alloca-tion & Management Plaintiffs and SanPao-lo IMI, who made all of their note pur-chases in 1998 and early 1999, have noclaims remaining under Ohio’s blue skylaw. Bayerische Landesbank, Mutual ofNew York, and United of Omaha madeother note purchases in 2000, 2001, and2002, and they still may pursue claimsunder Ohio’s blue sky law for those latertransactions.

[22] Turning to Nebraska’s blue skylaw, the result is the same for United ofOmaha. Section 8–1118 provides that‘‘[n]o person may sue under this sectionmore than three years after the contract ofsale or the rendering of investment ad-vice.’’ Neb.Rev.Stat. § 8–1118(4).Though case law is scarce, courts haveheld that ‘‘equitable tolling principles areno part of section 8–1118.’’ Farr v. De-signer Phosphate and Premix Intern.,Inc., 804 F.Supp. 1190, 1199 (D.Neb.1992);see also DeSciose v. Chiles, Heider & Co.,Inc., 239 Neb. 195, 207, 476 N.W.2d 200,207 (Neb.1991). Thus, United of Omaha’sNebraska law claim for its 1998 note pur-chase is time-barred. United of Omahamay still pursue claims based on its notepurchases in 2001 and 2002.

C. Standing

Credit Suisse next argues that the Ari-zona Noteholders who are governmental

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entities lack standing to assert a claim. Inthis litigation, there are 110 local govern-mental entities who are part of an invest-ment pool managed by the treasurer of theState of Arizona. Under Arizona law, ‘‘thestate treasurer may maintain one or morepooled investment funds for the collectiveinvestment of monies in this state.’’ Ariz.Rev.Stat. Ann. § 35–326.A. The treasurerdirects how the investment pool is invest-ed, regularly accounts for the funds in thepool, ensures that records are audited, dis-burses or reinvests mature securities, andallocates pooled income earnings on a prorata basis. Ariz.Rev.Stat. Ann. § 35–327.Credit Suisse argues that the individualgovernmental entities never purchasednotes; only the treasurer purchased notes,and only the treasurer, as trustee of theinvestment pool, has standing to sue onbehalf of the investment pool.

The Court finds that the standing issueraised by Credit Suisse is moot. CreditSuisse acknowledges that a trustee of atrust generally has the authority to pursuea cause of action for injury to the trustproperty. In the complaint captionedState of Arizona, et al., v. Credit SuisseFirst Boston, et al., Case No. CIV03–1618–PHX (D.Ariz.), the first plaintiff listed isthe State of Arizona, ex rel. TreasurerDavid A. Peterson, in his official capacityon behalf of the local government invest-ment pool. Even if Credit Suisse is rightthat the individual governmental entitiesdo not have standing, the state treasurerdoes and he is named as a plaintiff.

D. Private Right of Action

[23] Credit Suisse argues that there isno private right of action under certainprovisions of New Jersey’s and Oregon’sblue sky laws. In both cases, there is aprovision describing the prohibited con-duct, see N.J. Stat. Ann. § 49:3–52, Or.Rev.Stat. § 59.135, and a provision autho-rizing a civil remedy for any violations, seeN.J. Stat. Ann. § 49:3–71, Or.Rev.Stat.

§ 59.115. And in both cases, courts haveheld that there is no private right of actionunder the provision describing the prohib-ited conduct. See Resolution Trust Corp.v. del re Castellet, No. 92–4635, 1993 WL85973, at *5–6 (D.N.J. March 8, 1993) (‘‘[A]private cause of action for defrauded sell-ers was not intended under N.J.S.A. 49:3–52.’’); Rolex Employees Retirement Trustv. Mentor Graphics Corp., No. 90–726–CR,1991 WL 45714, at *3 (D.Or. Mar. 26,1991) (‘‘A private right of action does notexist under [O.R. S. 59.135] independently,but rather may only be maintainedthrough O.R.S. 59.115(1)(a).’’).

MetLife has asserted claims againstCredit Suisse under §§ 49:3–52 and 49:3–71 of New Jersey law. Oregon InsuranceGuaranty Association, one of the ArizonaNoteholders, has asserted claims againstCredit Suisse under §§ 59.115(3) and59.135 of Oregon law. The Court will dis-miss MetLife’s claim under N.J. Stat. Ann.§ 49:3–52 and Oregon Insurance GuarantyAssociation’s claim under Or.Rev.Stat.§ 59.135, but their claims under the re-spective civil remedy provisions may goforward.

E. Private Placements

Credit Suisse next contends that theblue sky laws of six states do not apply toprivate placements. Those states are theones whom Credit Suisse claims have mod-eled their laws after Section 12(2) of theSecurities Act of 1933, 15 U.S.C. § 77l(a)(2): Arizona, California, Massachusetts,Nebraska, New Jersey, and Ohio. CreditSuisse argues that the blue sky laws ofthese states should be interpreted thesame as courts have interpreted Section12(2). In Gustafson v. Alloyd Co., Inc.,513 U.S. 561, 569–70, 115 S.Ct. 1061, 131L.Ed.2d 1 (1995), the United States Su-preme Court held that Section 12(2) ap-plies to public offerings of securities and

1011IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

not to private agreements to sell securi-ties. Credit Suisse believes that the statelaws should also not apply to private sales,such as the ones to MetLife, Lloyds, andthe Arizona Noteholders.

The Court rejected this argument whenit was raised by the Outside Directors inthe context of Ohio’s blue sky law. SeeMay 7, 2007 Opinion, pp. 27–29. Section12(2) imposes liability for misstatements ina ‘‘prospectus’’ or an oral communicationrelated to a prospectus. 15 U.S.C. § 77l(a)(2). In Gustafson, the Supreme Courtheld that a prospectus ‘‘is confined to docu-ments related to public offerings by anissuer or its controlling shareholders.’’513 U.S. at 569, 115 S.Ct. 1061. In reach-ing this conclusion, the Supreme Courtlooked to the definition of ‘‘prospectus’’ inother provisions of the Securities Act andlooked to the traditional understanding ofthe word as referring to a public offering.Id. at 568–71, 575–76.

[24] The state blue sky laws at issueare not limited in application to a prospec-tus. In fact, the California, Massachu-setts, Nebraska, and New Jersey laws donot use the word ‘‘prospectus.’’ See Cal.Corp.Code § 25401 (applying to ‘‘any writ-ten or oral communication’’); Mass. Gen.Laws ch. 110A, § 410(a)(2) (applying to‘‘any untrue statement’’); Neb.Rev.Stat.§ 8–1118(1) (applying to ‘‘any untrue state-ment’’); N.J. Stat. Ann. § 49:3–71(a)(2)(applying to ‘‘any untrue statement’’).And as discussed in the May 7, 2007 Opin-ion, Ohio’s law applies to statements in aprospectus and to statements in a ‘‘circu-lar,’’ a term the Ohio Supreme Court hasinterpreted as including private placementmemoranda. See Ohio Rev.Code§ 1707.41(A); Arpadi v. First MSP Corp.,68 Ohio St.3d 453, 454, 628 N.E.2d 1335,1336 (Ohio 1994); see also Black’s LawDictionary (8th ed.2004) (defining an ‘‘of-fering circular’’ as a ‘‘document, similar toa prospectus, that provides information

about a private securities offering’’) (em-phasis added).

This leaves only Arizona’s blue sky lawsin question. The Arizona Noteholdersconcede that one provision regulating theofferings of securities, Ariz.Rev.Stat. Ann.§ 44–1998(A), is restricted to untrue state-ments ‘‘by means of a prospectus,’’ and acourt has held that § 44–1998(A) does notapply to private placements. See Ortho-logic Corp. v. Columbia/HCA HealthcareCorp., No. CIV 01–0006–PHX–SRB, 2002WL 1331735, at *8 (D.Ariz. Jan. 7, 2002).However, the complaints of the ArizonaNoteholders also assert a claim under an-other provision regulating the purchase orsale of securities, Ariz.Rev.Stat. Ann.§ 44–1991(A). This provision applies to‘‘any untrue statement,’’ and courts haveapplied it to private placements. See, e.g.,MacCollum v. Perkinson, 185 Ariz. 179,186–87, 913 P.2d 1097, 1104–05 (Ariz.Ct.App.1996). Accordingly, the ArizonaNoteholders may pursue a claim againstCredit Suisse under § 44–1991(A).

F. Aftermarket

A limited number of the Arizona Note-holders purchased notes several months oryears after the initial offering date. Forexample, in May 2002 Mellon Investor Ser-vices purchased from Credit Suisse securi-ties that were issued in March 1999. Theother Noteholders who made aftermarketpurchases from Credit Suisse are: theAmerUs Plaintiffs, Bristol CDO I Ltd., theDreyfus Plaintiffs, the GMO Plaintiffs,Mutual of New York Life Insurance Com-pany, Oregon Insurance Guaranty Associa-tion, and Phoenix Life Insurance Compa-ny.

Credit Suisse challenges the claims be-ing asserted by these aftermarket Note-holders under the laws of Connecticut,Massachusetts, New Jersey, and Ohio.Credit Suisse raises the same argument

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that it made about private placements. Itargues that under Gustafson’s interpreta-tion of the word ‘‘prospectus,’’ courts havelimited the application of Section 12(2) ofthe Securities Act of 1933 to initial publicsecurities offerings. See First Union Dis-count Brokerage Services, Inc. v. Milos,997 F.2d 835, 843 (11th Cir.1993); In reFirstEnergy Corp. Sec. Litig., 316F.Supp.2d 581, 602 (N.D.Ohio 2004). Ac-cording to Credit Suisse, the blue sky lawsshould also be limited to initial offerings.

[25] Again, however, the laws at issuehere are not limited in scope to a prospec-tus. Rather, the laws of Connecticut, Mas-sachusetts, and New Jersey apply to ‘‘anyuntrue statement,’’ and Ohio law applies toboth a prospectus and a circular. SeeConn. Gen.Stat. § 36b–29(a); Mass. Gen.Laws ch. 110A, § 410(a)(2); N.J. Stat.Ann. § 49:3–71(a)(2); Ohio Rev.Code§ 1707.41(A). Credit Suisse has not citedany statutory language or case law sug-gesting that the state laws at issue do notapply to aftermarket transactions. Absentsuch authority, Credit Suisse’s position iscontrary to the principle that courts shouldliberally construe state blue sky laws. SeeConnecticut Nat’l Bank v. Giacomi, 242Conn. 17, 78, 699 A.2d 101, 133 (Conn.1997); Zendell v. Newport Oil Corp., 226N.J.Super. 431, 439, 544 A.2d 878, 882(N.J.Super.Ct.1988); In re Columbus Sky-line Securities, Inc., 74 Ohio St.3d 495,498, 660 N.E.2d 427, 429 (Ohio 1996).

G. Primary Liability as a Seller orSolicitor

A limited number of the Arizona Note-holders allege that they purchased all oftheir notes from someone other than Cred-it Suisse. These Noteholders and the bluesky law claims they assert are: Abu DhabiInvestment Company (Ohio), the Clifton

Group Plaintiffs (Minnesota, Pennsylvania,Ohio), Louisiana Corporate Credit Union(Louisiana, Ohio), Oregon Insurance Guar-anty Association (Oregon, Ohio), and selectmembers of the Pacific Investment Man-agement Company Plaintiffs 2 (California,Ohio). Two other Noteholders—Bayer-ische Landesbank (Ohio) and Phoenix LifeInsurance Company (Connecticut, Ohio)—purchased some, but not all, of their notesfrom someone other than Credit Suisse.

1. Privity

[26] Credit Suisse argues that theclaims for primary liability under Califor-nia and Oregon law must be dismissedbecause those laws require strict privity,such that liability does not extend to aparty who solicits the sale of a security butdoes not pass title. The Court agrees thatthe claims for primary liability under Cali-fornia and Oregon law must be dismissedfor lack of privity. California Corpora-tions Code § 25501 limits primary liabilityto a person who ‘‘sells a security.’’ Cal.Corp.Code § 25501; see also Scognamillov. Credit Suisse First Boston LLC, No.C03–2061 2005 WL 645446, at *11(N.D.Cal. March 21, 2005); CaliforniaAmplifier, Inc. v. RLI Ins. Co., 94 Cal.App.4th 102, 109, 113 Cal.Rptr.2d 915, 921(Cal.Ct.App.2001). Privity is not allegedto have existed between Credit Suisse andselect members of the Pacific InvestmentManagement Company Plaintiffs; thus,their claims for primary liability underCalifornia’s blue sky law are dismissed.

[27] Oregon law also required privityat the time of the alleged actionable con-duct. See Or.Rev.Stat. § 59.115(1)(a)(2002) (imposing liability on a person who‘‘sells a security’’). Only after the ArizonaNoteholders filed their complaints was the

2. The members of the Pacific InvestmentManagement Company Plaintiffs who did notpurchase notes directly from Credit Suisse

are listed in Exhibit 1 to the Arizona Note-holders’ complaints.

1013IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

law amended to expand liability to personswho solicit the sale of a security. SeeOr.Rev.Stat. § 59.115(1)(a) (2004) (expand-ing liability but not indicating a retroactiveeffect). Privity is not alleged to have ex-isted between Credit Suisse and the Ore-gon Insurance Guaranty Association whenthe note purchase was made in 2002; thus,the claim for primary liability under Ore-gon’s blue sky law is dismissed.

2. Solicitor Liability

The remainder of the blue sky laws atissue lack a privity requirement and thusextend liability to persons who solicit thesale of a security. The Noteholders allegethat Credit Suisse is liable as a solicitorbecause it drafted the offering materials,which all of the Noteholders are alleged tohave received. Credit Suisse countersthat merely drafting the offering materialsdoes not count as soliciting the sale of thenotes.

In determining the scope of primaryliability, state courts have looked to Pinterv. Dahl, 486 U.S. 622, 108 S.Ct. 2063, 100L.Ed.2d 658 (1988), a case in which theUnited States Supreme Court interpretedSection 12(1) of the Securities Act. Section12(1), like the blue sky laws here, appliesto any person who sells or offers to sell asecurity. See 15 U.S.C. § 77l (a)(1). TheCourt held that primary liability can beimposed on the person who passes titleand on ‘‘the person who successfully soli-cits the purchase, motivated at least inpart by a desire to serve his own financialinterests or those of the securities owner.’’Pinter, 486 U.S. at 647, 108 S.Ct. 2063. ‘‘Anatural reading of the statutory languagewould include in the statutory seller statusat least some persons who urged the buyerto purchase.’’ Id. at 644, 108 S.Ct. 2063.

[28] The Court finds that the com-plaints sufficiently allege that CreditSuisse solicited the sale of the notes.Even where Credit Suisse was not the

immediate seller, it is alleged to have par-ticipated in drafting and circulating theoffering materials received by all of theArizona Noteholders and their investmentadvisors. Credit Suisse allegedly played akey role in devising the NPF VI and NPFXII note programs and in soliciting inves-tors nationwide, and it allegedly had afinancial interest in the existence of astrong and active secondary market forthe notes. As the Arizona Noteholdersargue in their brief, courts have held thatdrafting, circulating, or presenting writtensales material may, in the right circum-stances, be enough to impose liability.See, e.g., Capri v. Murphy, 856 F.2d 473,478 (2d Cir.1988) (finding liable a defen-dant who prepared and circulated a pro-spectus to plaintiffs); In re Prof’l Fin.Mgmt., Ltd., 692 F.Supp. 1057, 1064(D.Minn.1988) (finding liable a defendantwho was ‘‘the creator and principal propo-nent of the [securities] program national-ly’’ and who ‘‘assisted with financial ap-praisals and helped draft a prospectuswhich was distributed to prospective buy-ers’’).

H. Secondary Liability

[29] Finally, Credit Suisse challengesthe secondary liability claims of the sameNoteholders who purchased their notesfrom someone other than Credit Suisse.The blue sky laws at issue impose second-ary liability on persons who participate inor materially assist or aid the fraudulentsale of securities. See, e.g., Cal. Corp.Code § 25504.1; Conn. Gen Stat. § 36b–29(a)(2); Ohio Rev.Code § 1707.43(A); Or.Rev.Stat. § 59.115(3). The Court findsthat the complaints sufficiently allege thatCredit Suisse participated in and material-ly assisted the sales to the Noteholders.The complaints allege that Credit Suisseplayed a material role in inducing theNoteholders to buy notes because it draft-ed and circulated the offering materials

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that were received and relied on by theNoteholders when they decided to pur-chase notes. See Federated Mgmt. Co. v.Coopers & Lybrand, 137 Ohio App.3d 366,391, 738 N.E.2d 842, 860 (Ohio Ct.App.2000) (noting that liability extends to anyperson who participates in or aids the sale,including ‘‘inducing the purchaser to in-vest’’).

V. NEGLIGENCE

MetLife, Lloyds, and the New YorkFunds assert claims for negligence. Cred-it Suisse argues that the negligence claimsshould be dismissed because they are in-distinguishable from Plaintiffs’ negligentmisrepresentation claims. Upon review ofthe complaints, the Court agrees that thenegligence claims are indistinguishablefrom the claims for negligent misrepresen-tation. The complaints allege that CreditSuisse breached its duty of care by mis-representing and failing to disclose materi-al facts concerning the NPF VI and NPFXII note programs. This is the same con-duct that forms the basis of the negligentmisrepresentation claims. The Court willtherefore will treat the negligence claimsas claims for negligent misrepresentation.See Northwestern Mut. Life Ins. Co. v.Banc of Am. Sec. LLC, 254 F.Supp.2d 390,401 (S.D.N.Y.2003) (‘‘The Complaint alleg-es negligence TTT but makes no specificallegations other than the alleged oral mis-representations and omissions and the al-leged misstatements in the Offering Mem-oranda.’’); Vanguard Mun. Bond Fund,Inc. v. Cantor, Fitzgerald L.P., 40F.Supp.2d 183, 188 (S.D.N.Y.1999) (‘‘[T]heCourt does not find any substantial differ-ence between Vanguard’s negligence andnegligent misrepresentation claims andwill address them together as a claim fornegligent misrepresentation.’’).

VI. AIDING AND ABETTING

The Arizona Noteholders and the NewYork Funds have asserted claims for aid-

ing and abetting fraud against CreditSuisse. The Arizona Noteholders addi-tionally assert a claim for aiding and abet-ting breach of fiduciary duty. Though thecase law is unclear about whether a causeof action exists in Ohio for civil aiding andabetting, see Pavlovich v. National CityBank, 435 F.3d 560, 570 (6th Cir.2006) (‘‘Itis unclear whether Ohio recognizes a com-mon law cause of action for aiding andabetting tortious conduct.’’), this Court hasheld in prior orders that it will decline todismiss the aiding and abetting claims on aRule 12(b)(6) motion, because it cannot besaid conclusively that Ohio law does notrecognize such a cause of action. See May7, 2007 Opinion, p. 58; Oct. 3, 2006 Opin-ion, pp. 15–17.

[30, 31] Credit Suisse argues that theArizona Noteholders and the New YorkFunds have failed to allege the elements ofan aiding and abetting claim. Those ele-ments are: ‘‘(1) knowledge that the pri-mary party’s conduct is a breach of dutyand (2) substantial assistance or encour-agement to the primary party in carryingout the tortious act.’’ Andonian v. A.C. &S., Inc., 97 Ohio App.3d 572, 574–75, 647N.E.2d 190, 191–92 (Ohio Ct.App.1994);see also Aetna Cas. and Sur. Co. v. LeaheyConstr. Co., 219 F.3d 519, 533 (6th Cir.2000). Courts have interpreted the firstelement as requiring actual knowledge ofthe underlying tortious conduct. See Aet-na, 219 F.3d at 533; Javitch v. First Mon-tauk Fin. Corp., 279 F.Supp.2d 931, 946(N.D.Ohio 2003); see also In re Sharp Int’lCorp., 403 F.3d 43, 49 (2d Cir.2005). Aplaintiff, however, need not allege that theaider and abettor had actual knowledge ‘‘ofall of the details of the primary party’sscheme.’’ Aetna, 219 F.3d at 536. ‘‘[I]t isenough for the aider and abettor to have ageneral awareness of [his] role in the oth-er’s tortious conduct for liability to attach.’’Id. at 534 (citing Camp v. Dema, 948 F.2d

1015IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

455, 460 (8th Cir.1991)). A plaintiff mayuse circumstantial evidence to support aninference of actual knowledge. Id. at 535.

[32] Credit Suisse argues the com-plaints do not allege that it had actualknowledge of the fraud. But as discussedabove in relation to the scienter require-ment of the Section 10(b) and fraud claims,the complaints of the Arizona Noteholdersand the New York Funds allege at lengththat Credit Suisse had actual knowledge ofthe purchase of ineligible receivables, re-lated-party transactions, the depletion andmanipulation of reserve accounts, and vio-lations of the Master Indenture. Sufficeto say, the complaints support an inferencethat when Credit Suisse offered to sell thenotes to potential investors, it had actualknowledge that the notes were not thehigh-quality investment Credit Suisse al-legedly made them out to be.

With respect to the Arizona Notehold-ers’ claim for aiding and abetting breach offiduciary duty, Credit Suisse similarly ar-gues that it did not have actual knowledgeof the Founders’ purported breaches. Inan earlier order, the Court found that theArizona Noteholders had stated a claim forbreach of fiduciary duty against theFounders. See Feb. 27, 2006 Order, pp.24–27. The Founders allegedly breachedtheir duties to the company and to credi-tors by wasting corporate assets when Na-tional Century was insolvent. Here, theCourt finds that the Arizona Noteholderssufficiently allege that Credit Suisse hadactual knowledge of the Founders’ breach-es. The complaints allege that CreditSuisse knew the Founders were wastingcorporate assets by purchasing ineligiblereceivables and by purchasing receivablesfrom related parties.

Credit Suisse next argues that the com-plaints fail to allege that it substantiallyassisted the tortious conduct. This argu-ment is without merit, for the complaintsplainly allege that Credit Suisse helped

devise the note programs, helped draft andreview the offering materials, and soldnotes to investors.

VII. BREACH OF CONTRACT

The Arizona Noteholders and Lloyds as-sert claims for breach of contract. TheArizona Noteholders allege that they en-tered into sales contracts with CreditSuisse. The terms of the contracts alleg-edly were the same as the representationscontained in the offering materials. Theycontend that Credit Suisse breached thesales contracts because the notes it deliv-ered did not conform with the representa-tions made in the offering materials.

Lloyds alleges that it entered into aParticipation Agreement in which it pur-chased $68 million of NPF XII notes fromCredit Suisse. Lloyds alleges that, inbreach of the Agreement, Credit Suissedelivered notes that were not properly se-cured and were worth far less than whatLloyds paid.

Credit Suisse argues that the only obli-gation that it had under the sales contractsand Participation Agreement was to deliv-er the notes, which it did. It furtherargues that the complaints do not specifyhow the contracts were breached and thatthe contracts cannot be rewritten to incor-porate the language of the offering materi-als.

[33] It is true that the exact nature ofthe breach of contract claims are not en-tirely clear. The Arizona Noteholders al-lege that the terms of the sales contractswere the same as those of the offeringmaterials. Lloyds alleges that the Partic-ipation Agreement required the notes tobe properly secured and of a certainworth. Nonetheless, applying the liberalstandard of Fed. Rule Civ. P. 8(a), thecomplaints allege each element of a breachof contract claim: (1) the existence of acontract between the parties, (2) perform-

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ance by the Plaintiffs, who paid the con-tract amounts for the notes; (3) a breachby Credit Suisse, who did not deliver notesof a certain type or quality, and (4) dam-ages to the Plaintiffs. See Lawrence v.Lorain County Cmty. Coll., 127 OhioApp.3d 546, 549, 713 N.E.2d 478, 480 (OhioCt.App.1998). These allegations are suffi-cient to survive a motion to dismiss.

Credit Suisse next argues that Plaintiffscannot consistently assert their breach ofcontract claims and tort claims. ‘‘[T]heexistence of a contract action generallyexcludes a cause of action based upon thesame conduct sounding in tort.’’ Hanlinv. Ohio Builders and Remodelers, Inc.,196 F.Supp.2d 572, 579 (S.D.Ohio 2001).Credit Suisse points out that the allegedbreaches seem to be based on the sameconduct on which the tort claims arebased, namely, the misrepresentations inthe offering materials. The Court findsthat dismissing the tort claims for thisreason would be premature. Under therules of civil procedure, a party may assertinconsistent claims at the pleading stage.See Fed.R.Civ.P. 8(d)(3). Development ofthe facts will show whether pursuit of thecontract claims would operate to excludePlaintiffs’ tort claims.

VIII. THE ARIZONA NOTEHOLD-ERS’ OTHER CLAIMS

A. Conspiracy

[34, 35] The Arizona Noteholders al-lege that Credit Suisse conspired with Na-tional Century and the Founders to de-fraud investors. A civil conspiracy is ‘‘ ‘amalicious combination of two or more per-sons to injure another in person or proper-ty, in a way not competent for one alone,resulting in actual damages.’ ’’ Kenty v.Transamerica Premium Ins. Co., 72 OhioSt.3d 415, 419, 650 N.E.2d 863, 866 (Ohio1995) (quoting LeFort v. Century 21–Mait-land Realty Co., 32 Ohio St.3d 121, 126,512 N.E.2d 640, 645 (Ohio 1987)). The

elements of a civil conspiracy claim are:‘‘(1) a malicious combination; (2) two ormore persons; (3) injury to person orproperty; and (4) existence of an unlawfulact independent from the actual conspira-cy.’’ Universal Coach, Inc. v. New YorkCity Transit Auth., Inc., 90 Ohio App.3d284, 292, 629 N.E.2d 28, 33 (Ohio Ct.App.1993).

[36, 37] Credit Suisse argues that thecomplaints fail to allege that it enteredinto an agreement with another party.The element of a malicious combination‘‘does not require a showing of an expressagreement between defendants, but only acommon understanding or design, even iftacit, to commit an unlawful act.’’ Gosdenv. Louis, 116 Ohio App.3d 195, 219, 687N.E.2d 481, 496 (Ohio Ct.App.1996). Be-cause ‘‘conspirators seldom make recordsof their illegal agreements,’’ United Statesv. Short, 671 F.2d 178, 182 (6th Cir.1982),the existence of an agreement is often‘‘provable only through circumstantial evi-dence.’’ Aetna Cas. and Sur. Co. v. Leah-ey Constr. Co., 219 F.3d 519, 538 (6thCir.2000) (discussing a conspiracy claimunder Ohio law). A plaintiff need notshow that co-conspirators made an agree-ment as to every detail of the plan; rather,plaintiff must show that the co-conspira-tors ‘‘ ‘shared in the general conspiratorialobjective.’ ’’ Id. (quoting Hooks v. Hooks,771 F.2d 935, 944 (6th Cir.1985)); see alsoSwartz v. KPMG LLP, 476 F.3d 756, 764(9th Cir.2007); Borden, Inc. v. Spoor Beh-rins Campbell & Young, Inc., 828 F.Supp.216, 225 (S.D.N.Y.1993) (‘‘[T]o demonstratea conspiracy, plaintiffs need not show thateach conspirator agreed to every detail ofthe conspiracy but only that each agreedon the ‘essential nature of the plan.’ ’’).

Courts are not in unison as to whetherRule 8 or Rule 9 applies to pleading theexistence of an agreement to commitfraud. Compare Southern Union Co. v.

1017IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

Southwest Gas Corp., 165 F.Supp.2d 1010,1020 (D.Ariz.2001) (requiring plaintiff toallege with particularity that defendantsreached an understanding or agreement),with In re Methyl Tertiary Butyl EtherProds. Liab. Litig., 175 F.Supp.2d 593, 634(S.D.N.Y.2001) (applying Rule 8 and recog-nizing that, because conspiracies are bytheir nature often clandestine, it is typical-ly difficult to plead with specificity thefacts necessary to show the existence of anunlawful agreement). The Sixth Circuithas not addressed which pleading standardshould be applied. Out of caution, thisCourt will apply Rule 8. Cf. Bell AtlanticCorp. v. Twombly, ––– U.S. ––––, 127 S.Ct.1955, 1964–65, 167 L.Ed.2d 929 (2007) (ap-plying Rule 8 to conspiracy claim under§ 1 of the Sherman Act and requiring thatthe complaint plead ‘‘plausible grounds toinfer an agreement’’).

[38] The Court finds that the com-plaints adequately allege the existence of acommon understanding between CreditSuisse and the Founders. The ArizonaNoteholders allege that Credit Suisse andthe Founders conspired to effect thefraudulent sale of NPF VI and NPF XIInotes. Credit Suisse is alleged to havehad a strong relationship with the Found-ers and National Century, beginning withthe selection of Credit Suisse as NationalCentury’s financial advisor. Representa-tives of Credit Suisse allegedly accompa-nied Lance Poulsen on sales presentationsthroughout the country. The complaintsallege that Credit Suisse had access toNational Century’s financial informationand knew that National Century was pur-chasing ineligible receivables from health-care providers in which the Founders hada financial interest. Further, CreditSuisse is alleged to have known that thereserves of the NPF VI and NPF XII noteprograms were dwindling and that morenotes had to be issued and sold to keep theprograms afloat. In sum, the complaintsallege that Credit Suisse marketed and

sold notes, knowing of National Century’sdeepening insolvency and understandingthat the funds invested would be misappro-priated by National Century and theFounders. The Court finds that these al-legations are sufficient to state a claim forconspiracy.

B. Unfair Competition

A group of the Arizona Noteholdersnamed the GMO Plaintiffs assert a claimunder Massachusetts’s unfair competitionstatute, which prohibits unfair methods ofcompetition and deceptive practices occur-ring ‘‘primarily and substantially withinthe commonwealth.’’ Mass. Gen. Laws ch.93A, § 11. Credit Suisse argues that thisclaim must be dismissed because the un-fair conduct is not alleged to have occurredprimarily and substantially within Massa-chusetts.

[39, 40] The Court finds that the com-plaint sufficiently invokes the unfair com-petition statute. ‘‘In determining whetherthe conduct occurred ‘primarily and sub-stantially’ in Massachusetts, we will lookto three factors: (1) where the defendantengaged in unfair or unscrupulous con-duct; (2) where the plaintiff was on thereceiving end of the unfair or unscrupu-lous conduct; and (3) the situs of plaintiff’slosses due to the unfair and unscrupulousconduct.’’ KPS & Associates, Inc. v. De-signs By FMC, Inc., 318 F.3d 1, 24 (1stCir.2003) (citing cases). The GMO Plain-tiffs have their principal place of businessin Boston, Massachusetts. They allegethat representatives of National Centuryand Credit Suisse made sales presenta-tions at GMO’s offices in Boston in May2001. They further allege that Massachu-setts is where they were provided withoffering materials, where they made thedecision to purchase notes, and where theysuffered losses. Thus, the GMO Plaintiffshave adequately alleged that the unfair

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conduct occurred primarily and substan-tially in Massachusetts.

C. Unjust Enrichment

The Arizona Noteholders allege thatCredit Suisse wrongly benefitted from itsrole in the securities offerings, to the harmof the Noteholders. Though Credit Suisseargues that the complaints fail to allegehow it was unjustly enriched, the Courtfinds that the complaints clearly allegethat Credit Suisse unjustly received signif-icant investment banking and placementfees in its role as lead underwriter.

D. Punitive Damages

[41] The Arizona Noteholders’ com-plaints contain a demand for punitive dam-ages. Credit Suisse argues that the com-plaints do not allege the requisite mentalstate. ‘‘Under Ohio law, an award of puni-tive damages in a tort case may be madeonly upon a finding of actual malice, fraud,oppression, or insult on the part of thedefendant.’’ Estate of Schmidt v. Derenia,158 Ohio App.3d 738, 740, 822 N.E.2d 401,404 (Ohio Ct.App.2004). The Court findsthat the Arizona Noteholders have stated aclaim for fraud and are therefore entitledto an opportunity to pursue punitive dam-ages.

IX. PHAROS

A. Background

Pharos is differently situated from theother Plaintiffs because it was not a note-holder in the NPF VI and NPF XII pro-grams. Rather, it purchased $12 millionworth of National Century preferred stockin 2002. As an investor, though, Pharosbrings some of the same claims assertedby the noteholders: fraud, negligent mis-representation, violations of Ohio’s bluesky law, aiding and abetting, and conspira-cy.

Pharos alleges that it was approachedby Credit Suisse in early 2002 about possi-

bly investing in National Century pre-ferred stock. Credit Suisse provided Pha-ros with offering materials, including aprivate placement memorandum, financialstatements, and audit reports. CreditSuisse allegedly arranged meetings andphone calls among Pharos, Credit Suisse,and National Century’s management.Along the way, Credit Suisse allegedlymade false assurances to Pharos about thefinancial soundness of National Century’soperations. On July 8, 2002, Pharos en-tered into a Stock Purchase Agreementwhereby it purchased $12 million of pre-ferred stock.

Like the other Plaintiffs, Pharos allegesthat National Century engaged in fraudand deliberately abandoned the businessmodel described in the offering materials.Pharos alleges that National Centuryraised $3 billion from investors and used70% of those funds to purchase receivablesthat failed to meet the eligibility standardsestablished for the NPF VI and NPF XIIprograms. Pharos contends that most ofthe money went to healthcare providers inwhich the Founders held an undisclosedfinancial interest.

B. Fraud and Negligent Misrepre-sentation

According to the complaint, CreditSuisse prepared a private placement mem-orandum and provided it to Pharos. Thememorandum allegedly contained materialmisrepresentations and omissions, includ-ing that National Century would purchaseeligible receivables, would refrain fromself-interested transactions, and wouldmaintain certain levels of reserves as secu-rity for the notes. The complaint allegesthat Pharos relied on those misrepresenta-tions regarding the financial soundness ofNational Century’s operations when it de-cided to purchase stock.

1019IN RE NATIONAL CENTURY FINANCIAL ENTERPRISES, INC.Cite as 541 F.Supp.2d 986 (S.D.Ohio 2007)

Credit Suisse’s primary challenge to theclaims for fraud and negligent misrepre-sentation is that the offering materialscontained disclaimers precluding Pharosfrom justifiably relying on them. Thesedisclaimers stated that Credit Suisse wasnot making any representations or warran-ties and that investors should not rely onstatements made in the materials. Forthe reasons discussed in Part III.D above,this argument is not persuasive. CreditSuisse’s name appeared prominently onthe first page, and indeed every page, ofthe private placement memorandum givento Pharos. Further, the memorandumstated that Credit Suisse was the author-ized agent of National Century and that allinquiries by investors were to be directedto Credit Suisse.

Credit Suisse next contends that Pharoshas failed to allege scienter with particu-larity. Importantly, Pharos is not assert-ing a Section 10(b) claim, for which thecomplaint must state with particularityfacts giving rise to a strong inference thatthe defendant acted with the requiredstate of mind. Pharos is asserting a com-mon law fraud claim, and, though the cir-cumstances constituting the fraud must bestated with particularity, ‘‘intent, knowl-edge, and other condition of mind of aperson may be averred generally.’’ Fed.R.Civ.P. 9(b). Upon review of the com-plaint, the Court finds it adequately alleg-es that Credit Suisse knew or should haveknown that its representations were false.

C. Other Claims

Credit Suisse argues that the claim un-der Ohio’s blue sky law should be dis-missed because the law does not apply toprivate placements. But, as discussed inPart IV.E above, the Court finds thatOhio’s blue sky law does apply to privateplacements. See Ohio Rev.Code§ 1707.41(A); Arpadi v. First MSP Corp.,68 Ohio St.3d 453, 454, 628 N.E.2d 1335,1336 (Ohio 1994).

As to the aiding and abetting claim,Credit Suisse contends that the complaintdoes not allege how Credit Suisse materi-ally assisted the fraud. However, thecomplaint plainly alleges that CreditSuisse assisted National Century’s fraudby drafting the private placement memo-randum, soliciting Pharos to purchasestock, and arranging meetings among theparties.

Finally, Credit Suisse argues that theallegations of a conspiracy are deficient.The Court agrees with this argument.The complaint alleges that the conspiracyexisted among the named defendants.Neither National Century nor the Found-ers are named as defendants. The nameddefendants beside Credit Suisse are Na-tional Century’s legal counsel, accountingfirm, and outside directors, as well as theentities allegedly controlling the outsidedirectors. The complaint is devoid of anyallegations that Credit Suisse had anagreement or tacit understanding with anyof the other named defendants. Thus,Pharos’s claim for conspiracy is dismissed.

X. CONCLUSION

Credit Suisse’s motions to dismiss thecomplaints filed by MetLife, Lloyds, theArizona Noteholders, the New YorkFunds, and Pharos (docs. 177, 242, 735, 743in Case No. 03–md–1565; doc. 115 in CaseNo. 03–cv–362) are GRANTED IN PARTand DENIED IN PART.

The motions to dismiss are GRANTEDas to the following claims:

1 Lloyds’s claim under New Jersey’s bluesky law (no nexus);

1 the Ohio blue sky law claims based onnote purchases made in 1998 and early1999 by the Asset Allocation & Manage-ment Plaintiffs, Bayerische Landesbank,Mutual of New York, SanPaolo IMI, andUnited of Omaha (time-barred);

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1 United of Omaha’s Nebraska blue skylaw claim based on its November 1998note purchase (time-barred);

1 MetLife’s claim under § 49:3–52 of NewJersey’s blue sky law (no private right ofaction);

1 Oregon Insurance Guaranty Associa-tion’s claim under § 59.135 of Oregon’sblue sky law (no private right of action);

1 the Arizona Noteholders’ claims under§ 44–1998(A) of Arizona’s blue sky law(does not apply to private placements);

1 Pacific Investment Management Compa-ny Plaintiffs’ claims for primary liabilityunder California’s blue sky law (lack ofprivity);

1 Oregon Insurance Guaranty Associa-tion’s claim for primary liability underOregon’s blue sky law (lack of privity);

1 MetLife’s, Lloyds’s, and the New YorkFunds’ negligence claims (duplicative oftheir negligent misrepresentationclaims); and

1 Pharos’s claim of conspiracy (no allegedagreement or understanding).

The motions to dismiss are DENIED as toall other claims asserted against CreditSuisse by MetLife, Lloyds, the ArizonaNoteholders, the New York Funds, andPharos.

,

HORNBECK OFFSHORETRANSPORTATION,

LLC, Plaintiff,

v.

MANITOWOC MARINE GROUP,LLC, Defendant.

No. 06–C–4386.

United States District Court,N.D. Illinois,

Eastern Division.

Feb. 11, 2008.

Background: Purchaser transportationcompany brought action against ship build-er alleging breach of contract, negligence,and strict liability. Builder brought motionfor summary judgment.

Holdings: The District Court, David H.Coar, J., held that:

(1) contractual clauses disclaiming liabilitywith respect to all implied warranties,pump motor problems falling underwarranties of third-party manufactur-er, and problems caused by purchas-er’s specifications were valid and en-forceable insofar as they limited shipbuilder’s potential liability to problemsrelated to installation;

(2) builder was liable for ensuring thatinstallation of pump motors satisfiedrequirements of Institute of Electricaland Electronics Engineers (IEEE)Standard 45;

(3) contractual provision that effectivelynullified ship builder’s express and im-plied warranties with respect to ‘‘mate-rial or equipment specified and/or fur-nished by [purchaser] including, butnot limited to, design, specifications,and/or installation’’ applied to designdetermination made by purchaser withregard to how pumps and motors wereto be arranged and purchaser’s choiceof motors;

814 905 FEDERAL SUPPLEMENT, 2d SERIES

exception applies, through the Clerk’s Of-fice. See E.D. Mich. LR 5.1. A copy ofany objections is to be served upon thismagistrate judge but this does not consti-tute filing. See E.D. Mich. LR 72.1(d)(2).Once an objection is filed, a response isdue within fourteen (14) days of service,and a reply brief may be filed within seven(7) days of service of the response. E.D.Mich. LR 72.1(d)(3), (4).

,

In re NATIONAL CENTURY FINAN-CIAL ENTERPRISES, INC., IN-

VESTMENT LITIGATION.

Pharos Capital Partners,L.P., Plaintiff,

v.

Deloitte & Touche, L.L.P.,et al., Defendants.

Case Nos. 2:03–md–1565, 2:03–cv–362.

United States District Court,S.D. Ohio,

Eastern Division.

Oct. 26, 2012.

Background: Investor brought actionagainst co-placement agent, for fraud, neg-ligent misrepresentation, and violations ofOhio Securities Act, alleging that agentfailed to tell investor that company inwhich investor purchased preferred stockwas not operating its business in mannerconsistent with what was represented toinvestor. Agent moved for summary judg-ment.

Holdings: The District Court, James L.Graham, J., held that:

(1) any reliance by investor on any mis-representations of agent was not justi-fiable, and agent thus was not liable forfraud or negligent misrepresentation;

(2) justifiable reliance is an element of aclaim under the Ohio Securities Actprovision governing civil liability of aseller for fraud;

(3) company did not violate Ohio Securi-ties Act provision governing civil liabil-ity of a seller for fraud, for purposes ofinvestor’s secondary liability claim;

(4) investor could not withstand summaryjudgment by relying on certain provi-sions of Ohio Securities Act, where itscomplaint had identified another provi-sion as the provision the company hadviolated;

(5) Ohio law applied to claim for aidingand abetting fraud; and

(6) claim for aiding and abetting tortiousconduct is not cognizable under Ohiolaw.

Motion granted.

1. Fraud O20Under New York or Ohio law, justifi-

able reliance is an element of both a fraudand a negligent misrepresentation claim.

2. Fraud O23Under New York or Ohio law, in de-

termining whether reliance is justifiable ina fraud or negligent misrepresentation,courts consider such factors as the sophist-ication of the parties, the nature of theirrelationship, their access to information,whether the plaintiff initiated the transac-tion or sought to expedite it, the nature ofthe alleged misrepresentation, and the con-tent of any agreement they entered into.

3. Brokers O34Under New York or Ohio law, any

reliance by investor on any misrepresenta-tions of co-placement agent, concerning op-eration of company in which investors pur-chased preferred stock, was not justifiable,and agent thus was not liable for fraud ornegligent misrepresentation, where inves-

815NAT. CENTURY FINANCIAL ENTERS., INC., INV. LIT.Cite as 905 F.Supp.2d 814 (S.D.Ohio 2012)

tor was private equity fund with about$160 million in committed capital, it wasinvestor who first approached agent, inves-tor told agent that it already knew ‘‘quite abit about the healthcare receivables busi-ness,’’ investor knew that an investmentbank had decided not to serve as leadinvestor, investor had signed letter agree-ment, which was product of negotiations,indicating that investor was a ‘‘sophisticat-ed institutional investor’’ who was ‘‘relyingexclusively’’ on its own due diligence inves-tigation, its own sources of information,and its own credit analysis.

4. Federal Civil Procedure O2515 Fraud O20

In fraud or negligent misrepresenta-tion cases brought under New York orOhio law, the issue of reasonableness ofreliance depends on context, but cases in-volving a non-reliance clause in a negotiat-ed contract between sophisticated partieswill often be appropriate candidates forresolution at the summary judgment stage.Fed.Rules Civ.Proc.Rule 56, 28 U.S.C.A.

5. Contracts O95(1)Under New York or Ohio law, to avoid

a contract on the basis of duress, a partymust prove coercion by the other party tothe contract; it is not enough to show thatone assented merely because of difficultcircumstances that are not the fault of theother party.

6. Contracts O95(1)Under New York or Ohio law, exert-

ing financial or business pressures doesnot constitute duress, warranting avoid-ance of a contract.

7. Contracts O95(1)Under New York law, a defense of

duress cannot be sustained by a contract-ing party who has simply been bested incontract negotiations by the hard bargain-ing of another contracting party, evenwhen the hard bargainer knowingly takes

advantage of his counterpart’s difficult fi-nancial circumstances.

8. Securities Regulation O278Justifiable reliance is an element of a

claim under the Ohio Securities Act provi-sion governing civil liability of a seller forfraud. Ohio R.C. § 1707.41(A).

9. Securities Regulation O278Company in which investor purchased

preferred stock did not violate Ohio Secu-rities Act provision governing civil liabilityof a seller for fraud, for purposes of inves-tor’s secondary liability claim against co-placement agent, notwithstanding thatcompany committed massive fraud againstsome investors, where there were no falsestatements in private placement memoran-dum (PPM) on which investor relied. OhioR.C. §§ 1707.41, 1707.43.

10. Securities Regulation O278The Ohio Securities Act provision gov-

erning civil liability of a seller for fraud isnot violated unless there is reliance upon afalse statement in written offering materi-als. Ohio R.C. § 1707.41.

11. Federal Civil Procedure O2552On a motion for summary judgment,

the District Court has no duty to comb therecord for facts to support a claim. Fed.Rules Civ.Proc.Rule 56, 28 U.S.C.A.

12. Federal Civil Procedure O2554A court is entitled to rely, in deter-

mining whether a genuine issue of materialfact exists on a particular issue, only uponthose portions of the verified pleadings,depositions, answers to interrogatories andadmissions on file, together with any affi-davits submitted, specifically called to itsattention by the parties. Fed.Rules Civ.Proc.Rule 56, 28 U.S.C.A.

13. Federal Civil Procedure O2554Investor could not withstand co-

placement agent’s motion for summary

816 905 FEDERAL SUPPLEMENT, 2d SERIES

judgment in investor’s Ohio Securities Actaction by relying on legal theory thatcompany in which investor purchased pre-ferred stock violated provisions of Actprohibiting false representations in pro-spectuses, engaging in certain illegal prac-tices, and publishing false statementsabout value of securities, for purposes ofinvestor’s secondary liability claim againstagent, even though investor had men-tioned one such provision in responding tomotion to dismiss, where investor’s com-plaint had identified Act’s provision gov-erning civil liability of a seller for fraudas the provision the company had violat-ed. Ohio R.C. §§ 1707.41, 1707.44(B)(4),(G); Fed.Rules Civ.Proc.Rule 56, 28U.S.C.A.

14. Torts O133New York recognizes a cause of action

for aiding and abetting tortious conduct.

15. Federal Courts O157Ohio’s choice-of-law rules applied to

question of whether Ohio or New York lawapplied to investor’s claim against co-place-ment agent for aiding and abetting fraud,where investor’s action, though consolidat-ed by Judicial Panel on Multidistrict Liti-gation, was originally filed in federal courtin Ohio.

16. Torts O103Ohio has adopted the Restatement

(Second) of Conflict of Laws in makingchoice-of-law determinations in tort ac-tions.

17. Torts O103Under Ohio law, the primary inquiry

in a making a choice-of-law decision for atort claim is which state has the mostsignificant relationship to the occurrenceand the parties, and factors to be consid-ered are: (1) the place where the injuryoccurred; (2) the place where the conductcausing the injury occurred; (3) the domi-cil, residence, nationality, place of incorpo-ration and place of business of the parties;

and (4) the place where the relationship, ifany, between the parties is centered. Re-statement (Second) of Conflict of Laws§ 145(1, 2).

18. Fraud O1.5

Under Ohio law, in making a choice-of-law decision in the context of a fraud-based tort, the court may, in addition toother factors, consider: (1) the place, orplaces, where the plaintiff acted in relianceupon the defendant’s representations; (2)the place where the plaintiff received therepresentations; (3) the place where thedefendant made the representations; (4)the domicil, residence, nationality, place ofincorporation and place of business of theparties; (5) the place where a tangiblething which is the subject of the transac-tion between the parties was situated atthe time, and (6) the place where theplaintiff is to render performance under acontract which he has been induced toenter by the false representations of thedefendant. Restatement (Second) of Con-flict of Laws § 148(2).

19. Brokers O20

Under Ohio’s choice-of-law rules, Ohiolaw, not New York law, applied to inves-tor’s claim against co-placement agent foraiding and abetting fraud, arising frominvestment in Ohio company, even thoughagent dealt with investor from agent’sNew York office, where investor allegedthat company made misrepresentationsand deceived investor about nature of com-pany and its operations, alleged deceptionincluded site visit by investor to Ohio, in-vestor wired $12 million to company inOhio, and agent’s alleged assistance infraud came in its role as conduit for Ohiocompany to convey false information toinvestor. Restatement (Second) of Con-flict of Laws §§ 145(1, 2), 148(2).

817NAT. CENTURY FINANCIAL ENTERS., INC., INV. LIT.Cite as 905 F.Supp.2d 814 (S.D.Ohio 2012)

20. Torts O133A claim under the Restatement (Sec-

ond) of Torts for aiding and abetting tor-tious conduct is not cognizable under Ohiolaw. Restatement (Second) of Torts§ 876.

Joseph F. Murray, Murray MurphyMoul & Basil, Columbus, OH, AlexanderD. Widell, Bickel & Brewer, New York,NY, James S. Renard, Kenneth N. Hickox,Jr., Robert M. Millimet, William A. Brew-er, III, Bickel & Brewer, Michael JosephCollins, Dallas, TX, for Plaintiff.

Andrew L. Goldman, Bartlit Beck Her-man Palenchar & Scott, Chicago, IL, Shar-on Katz, Davis Polk & Wardwell, JeffreyQ. Smith, Steven G. Brody, BinghamMcCutchen LLP, New York, NY, John K.Villa, Matthew B. Andelman, Robert M.Cary, Craig D. Singer, Williams & Connol-ly LLP, Washington, DC, Michael RoySzolosi, Sr., McNamara and McNamara,Thomas Leslie Long, Baker & Hostetler,Matthew L. Fornshell, Ice Miller LLP,Michael Proctor Graney, Simpson Thacher& Bartlett, Columbus, OH, for Defendants.

OPINION AND ORDER

JAMES L. GRAHAM, District Judge.

Plaintiff Pharos Capital Partners, L.P.brings this action against defendant CreditSuisse Securities LLC for fraud in connec-tion with a failed $12 million equity invest-ment. In 2002 Pharos purchased pre-ferred stock in National Century FinancialEnterprises, Inc. Credit Suisse acted as aco-placement agent on the stock offering,and, according to Pharos, should have toldPharos that National Century was not op-erating its business in a manner consistentwith what was represented to Pharos.

Credit Suisse moves for summary judg-ment on the grounds that the parties en-

tered into a Letter Agreement in whichPharos acknowledged that it was ‘‘a so-phisticated institutional investor’’ who was‘‘relying exclusively’’ on its own due dili-gence investigation and who would bearthe risk of ‘‘an entire loss’’ of its invest-ment. The Agreement further stated thatany non-public information known byCredit Suisse about National Century‘‘need not be provided’’ to Pharos.

Though Pharos offers many purportedreasons for discounting the plain languageof the Agreement, ‘‘what matters whenlitigation breaks out is what the partiesactually signed.’’ Rissman v. Rissman,213 F.3d 381, 385 (7th Cir.2000). Thecourt finds as a matter of law that Pharoscould not have justifiably relied on thealleged misrepresentations and omissionsmade by Credit Suisse and thus grantssummary judgment to Credit Suisse.

I. BACKGROUND

Pharos is a limited partnership thatmakes private equity investments for itslimited partner investors. In 2002 Pharoshad four managing partners, whose unani-mous consent was required for any pro-posed investment. Credit Suisse (‘‘CS’’)Ex. 73 at PHAROS00002030; Pharos(‘‘Ph.’’) Ex. 22, Crants Dep. at 49. Thosemanaging partners were Bob Crants, MikeDevlin, Dale LeFebvre, and KneelandYoungblood. Ph. Ex. 22, Crants Dep. at49–50. Crants, a Princeton graduate, andDevlin, a Duke Law School graduate, firstmet while working at Goldman Sachs. Ph.Ex. 22, Crants Dep. at 20–22; Ph. Ex. 34,Devlin Dep. at 14–15. Before formingPharos, they formed several other firmstogether. Ph. Ex. 22, Crants Dep. at 20–22. LeFebvre graduated from HarvardLaw School and Harvard Business School,and worked for Morgan Stanley beforejoining Pharos. CS Ex. 73 at PHA-ROS00002022. Youngblood came to Pha-

818 905 FEDERAL SUPPLEMENT, 2d SERIES

ros with several years of private equityand capital markets experience. Id. atPHAROS00002021.

On February 25, 2002, Bob Crants sentthe following email to Heather Nicolau ofCredit Suisse,

We haven’t seen any deals from you in awhile and were wondering what youwere working on and what is in thepipeline. Clearly, we are looking forhealthcare primarily, but we would liketo see anything that is over $10 MM inrevenues. I look forward to hearingfrom you. Thanks. Bob

CS Ex. 76.

At the time of the email, Credit Suissewas acting as a co-placement agent forNational Century in connection with a $190million private placement of securities.Credit Suisse and National Century hadentered into an Engagement Letterwhereby Credit Suisse agreed to act asplacement agent, along with the ShattanGroup, LLC, and use reasonable efforts toarrange for the private placement of equi-ty securities. CS Ex. 54.

Nicolau responded to Crants,We are currently raising equity andmezzanine for a company called NCFE.It is a profitable healthcare receivablescompany. Would you be interested inparticipating in a transaction for thistype of company? I can send you someinformation.We are also working with a number ofpublic companies. Do you invest in pub-lic companies in addition to private?

CS Ex. 76.

Crants explained to Nicolau that Pharosdid not invest in public companies, andadded,

[W]e actually know quite a bit about thehealthcare receivables business & wouldlove to take a look. I look forward togetting some materials on it.

Id. Nicolau then sent Pharos a privateplacement memorandum (‘‘PPM’’) for thepreferred stock offering. CS Ex. 78, Nico-lau Dep. at 115; Ph. Ex. 21.

After receiving the PPM, Pharos re-quested that Credit Suisse send any ‘‘easyto forward due diligence materials.’’ Ph.Ex. 292. A ‘‘data room’’ of due diligencematerials was maintained for potential in-vestors in the private placement offering.Ph. Ex. 299, Nicolau Dep. at 66. CreditSuisse directed the Shattan Group to sendthree boxes of the data room materials toPharos on March 1, 2002. Ph. Exs. 52,241. The materials included: yearly finan-cial audits; unaudited financial data, in-cluding income statements and balancesheets; operational materials for NationalCentury and its note-issuing entities, NPFVI and NPF XII; PPMs for note issu-ances by NPF VI and NPF XII; and debtinformation. CS Exs. 82–84.

Pharos reviewed the due diligence mate-rials and had follow-up communicationswith Credit Suisse. Ph. Ex. 22, CrantsDep. at 104. Dale LeFebvre emailedCredit Suisse’s David Hurwitz on March 5,2002 asking if the National Century dealwas ‘‘all it’s cracked up to be.’’ CS Ex.213. Hurwitz responded,

I do believe NCFE is what it is crackedup to be. It’s extremely profitable andhas been for many years. They are thedominant player in the industry and stillhave great growth opportunities. I donot remember our group (and we’veraised over $5 billion in equity) everhaving worked with a company that gen-erates as much cash flow as NCFE. Ithink there are some initiatives the com-pany needs to undertake regardingsystematizing their business, but I be-lieve the company has already madesome important steps forward in thisregard.

819NAT. CENTURY FINANCIAL ENTERS., INC., INV. LIT.Cite as 905 F.Supp.2d 814 (S.D.Ohio 2012)

Id. In Bob Crants’s view, Hurwitz project-ed a ‘‘positive, very bullish outlook onNCFE.’’ Ph. Ex. 22, Crants Dep. at 123.

Also in March 2002, Crants had a tele-phone conversation with Credit Suisse’sTodd Fasanella, who responded to severallines of inquiry. Crants asked about howthe NPF reserve accounts worked; Fasa-nella gave an answer consistent with whatthe PPM described. Ph. Ex. 22, CrantsDep. at 124. Crants asked about the mar-ket for the NPF notes, and Fasanella saidthe market had ‘‘infinite depth’’ for AAA-rated notes. Id. at 125. Fasanella statedthat ‘‘there would be a cost’’ if the noteswere downgraded because there would beless demand for sub-AAA notes. Id.Crants confirmed with Fasanella that Na-tional Century itself was not rated andthat the NPF trusts were bankruptcy re-mote. Id. at 125–27. When Crants askedabout what would happen if one of Nation-al Century’s clients went bankrupt, Fasa-nella gave an ‘‘incomplete answer.’’ Id. at126.

Pharos reported to Credit Suisse onMarch 12, 2002 that it had completed itsdue diligence investigation, and had threeremaining items to attend to: (1) conduct-ing a site visit at National Century’s of-fices in Columbus, Ohio; (2) obtaining alist from National Century of three cus-tomer references; and (3) reviewing thefinal terms of equity financing. Ph. Ex.30. Pharos also stated that it would beable to close on the deal as early as thenext week. Id.

At the request of Pharos, Credit Suissehelped arrange a site visit on March 19,2002, see Ph. Ex. 30, and forwarded toNational Century a list of questions forwhich Pharos wanted ‘‘to hear the respons-es directly from management.’’ CS Ex.81. Three Pharos representatives met di-rectly with three National Century repre-sentatives, including CEO Lance Poulsen,for two to three hours. CS Ex. 70, Devlin

Dep. at 77–78. They toured National Cen-tury’s offices and were shown a Power-Point presentation. No one from CreditSuisse was present, although David Hur-witz listened on the phone while the par-ties met in the conference room. Id.

The next day, Mike Devlin emailedDavid Hurwitz to say that Pharos ‘‘lovedthe company and the management team’’and was ready to close the deal at quar-ter’s end. Ph. Ex. 251. Devlin also sentan email that day to Lance Poulsen sayingthat Pharos was ‘‘deeply impressed’’ withNational Century, ‘‘want[ed] to be a partof it,’’ and would be ready to close byquarter’s end, pending review of closingdocuments. CS Ex. 112. On March 25,2002, Crants informed Hurwitz that Pha-ros had completed its due diligence andwas ‘‘enthusiastic about closing.’’ Ph. Ex.252.

The deal between Pharos and NationalCentury did not close as quickly as Pharoshad anticipated. Investment bank Gold-man Sachs had been considering sinceMay 2001 whether to serve as lead inves-tor on the private equity offering. Pharoswas aware of Goldman’s potential involve-ment. CS Ex. 120. Indeed, co-investorstypically rely on the presence of a leadinvestor in private equity transactions.CS Ex. 121, Expert Report of John A.Krasznekewicz at ¶ 68. After conductingdue diligence, Goldman decided not to in-vest in the National Century offering. CSEx. 122, DeLuise Dep. at 33, 41.

Pharos continued update its due dili-gence during April, May, and June of 2002.Ph. Ex. 22, Crants Dep. at 117. Pharoshad direct contact with Lance Poulsen dur-ing this time. Poulsen emailed Mike Dev-lin on May 10, 2002 to explain that Gold-man likely would pull out as an investor.CS Ex. 113. Devlin responded, ‘‘Notwith-standing Goldman, our commitment andenthusiasm towards NCFE remains un-

820 905 FEDERAL SUPPLEMENT, 2d SERIES

changed.’’ Id. A week later, Poulsen sentDevlin a letter enclosing National Centu-ry’s responses to a series of inquiries Gold-man had posed about potential areas ofconcern it had with National Century. CSEx. 110. Devlin emailed Poulsen on May24:

Thanks for the material. The numberslook great, congratulations. RegardingGoldman’s questions, we’ve wadedthrough all of that and just don’t see amaterial issue. Clearly there’s beensome complex deals done with some cur-rent and former clients, but from ourpoint of view, that’s somewhat to beexpected, and certainly justifiable whenthe primary beneficiary is NCFE!

CS Ex. 111. Poulsen and Devlin had an-other email exchange in early June evi-dencing that the parties were preparing toclose on the deal. CS Ex. 114; see alsoPh. Exs. 37, 80, 129 (showing that Pharosand National Century were negotiatingclosing documents in late May and earlyJune of 2002).

On June 12, 2012, Heather Nicolau ofCredit Suisse emailed Mike Devlin a ‘‘stan-dard letter’’ that she requested Pharos tosign. Ph. Ex. 294. The letter stated thatPharos was ‘‘relying exclusively’’ on itsown due diligence and would bear the riskof an entire loss and that Credit Suissehad made no representations as to Nation-al Century or the credit quality of thesecurities and had no duty to disclose non-public information to Pharos. Id. Devlinforwarded the letter to Bob Crants, say-ing, ‘‘Clearly we’re not signing this [as is].It’s an odd and obnoxious concept really.’’Ph. Ex. 20. Pharos referred the matter toits legal counsel, who drafted a versionthat struck out much of the proposedagreement and contained some other mi-nor revisions. Ph. Ex. 296; CS Ex. 60,Franck Dep. at 159. Counsel’s versionstruck out the language stating that Pha-ros was relying exclusively on its own duediligence and would bear the risk of an

entire loss. Ph. Ex. 296. It also struckout the language stating that Credit Suissehad made no representations about Na-tional Century and owed no duty to dis-close non-public information. Id.; see alsoPh. Ex. 22, Crants Dep. at 178–85.

On July 8, 2002, Pharos signed a LetterAgreement that incorporated some of therevisions proposed by Pharos but retainedthe language regarding reliance, risk, rep-resentations, and disclosure. Ph. Ex. 293.The Agreement provided that in connec-tion with the purchase of preferred stockin National Century, Pharos representedto and agreed with Credit Suisse (‘‘theAgent’’):

(a) that we are a sophisticated institu-tional investor and have such knowledgeand experience in financial and businessmatters and expertise in assessing cred-it risk, that we are capable of evaluatingthe merits, risks and suitability of in-vesting in the Securities, that we haveconducted our own due diligence investi-gation of the Company, that we are re-lying exclusively on our due diligenceinvestigation and our own sources of in-formation and credit analysis with re-spect to the Securities and that we areable to bear the economic risks of andan entire loss of our investment in theSecurities;

(b) that (i) neither the Agent nor anyAffiliate (as defined herein) has beenrequested to or has provided us with anyinformation or advice with respect to theSecurities nor is such information oradvice necessary or desired, (ii) neitherthe Agent nor any Affiliate has made ormakes any representation as to Compa-ny or the credit quality of the Securities,and (iii) the Agent and any Affiliate mayhave acquired, or during the term of theSecurities may acquire, non-public infor-mation with respect to the Company,

821NAT. CENTURY FINANCIAL ENTERS., INC., INV. LIT.Cite as 905 F.Supp.2d 814 (S.D.Ohio 2012)

which we agree need not be provided tous;TTT

(f) that, in connection with the issue andpurchase of Securities, neither theAgent nor any of its Affiliates have act-ed as our financial advisor or fiduciaryTTTT

Ph. Ex. 293.Mike Devlin signed the Agreement for

Pharos. He formerly had served as atransactional attorney at a Wall Street lawfirm and also a vice president of a businessdevelopment group at Goldman Sachs. CSEx. 70, Devlin Dep. at 13–15, 35–37. Dev-lin testified that he had reviewed theAgreement carefully before signing it andhad worked with counsel in connectionwith the Agreement. Id. at 294. Despitebelieving the Agreement to be factuallyinaccurate, ‘‘we certainly decided to signitTTTT To do this transaction and to havean ongoing relationship with CSFB.’’ Id. at303. Bob Crants testified that thoughPharos ‘‘questioned quite considerably’’whether to sign the Agreement, ‘‘the dis-cussion about signing it stopped becausewe did want to close.’’ Ph. Ex. 22, CrantsDep. at 186.

National Century and Pharos enteredinto a Preferred Stock Purchase Agree-ment on July 8, 2002 whereby Pharos pur-chased $12 million worth of National Cen-tury Series B Convertible Preferred Stock.Ph. Ex. 304. Credit Suisse received aplacement fee of $450,000 in connectionwith the Pharos investment. Ph. Ex. 297.It is undisputed that the stock fully lost itsvalue when National Century filed forbankruptcy on November 18, 2002. It isfurther undisputed that National Centurycommitted a massive fraud, as has beendescribed in full detail in several courtopinions. See, e.g., U.S. v. Poulsen, 655F.3d 492, 498–99 (6th Cir.2011); U.S. v.Faulkenberry, 614 F.3d 573, 577–79 (6thCir.2010); In re Nat’l Century Fin. Enter-

prises, Inc., Inv. Litig., 617 F.Supp.2d 700,705–07 (S.D.Ohio 2009); U.S. v. Poulsen,568 F.Supp.2d 885, 890–912 (S.D.Ohio2008); In re Nat’l Century Fin. Enterpris-es, Inc., Inv. Litig., No. 2:03–md–1565,2006 WL 469468 at **1–6 (S.D.Ohio Feb.27, 2006); In re Nat’l Century Fin. Enter-prises, Inc., 341 B.R. 198, 209–10 (Bankr.S.D.Ohio 2006).

Pharos originally filed suit against Cred-it Suisse and other defendants in March2003 in this court. The Pharos actionlater became consolidated with many othercases as part of the National Centurymultidistrict investment litigation. CreditSuisse is the only defendant remaining inthe Pharos action. Pharos alleges thatCredit Suisse had knowledge of the mate-rial aspects of National Century’s fraudand misrepresented to Pharos how Nation-al Century ran its operations. These mis-representations allegedly were made in of-fering materials Pharos received and intwo communications Credit Suisse hadwith Pharos in March 2002 (the Hurwitzemail and the Fasanella phone call). Pha-ros further alleges that Credit Suisseshould have disclosed facts about NationalCentury’s fraud when Pharos conducted itsdue diligence investigation. In an earlierorder, the court dismissed the conspiracyclaim brought by Pharos against CreditSuisse, but allowed the fraud-based claimsand Ohio Securities Act claims to surviveCredit Suisse’s motion to dismiss. See Inre Nat’l Century Fin. Enterprises, Inc.,Inv. Litig., 541 F.Supp.2d 986 (S.D.Ohio2007).

This matter is now before the court onCredit Suisse’s motion for summary judg-ment.

II. STANDARD OF REVIEW

Under Fed.R.Civ.P. 56(c), summaryjudgment is proper ‘‘if the pleadings, thediscovery and disclosure materials on file,

822 905 FEDERAL SUPPLEMENT, 2d SERIES

and any affidavits show that there is nogenuine issue as to any material fact andthat the movant is entitled to judgment asa matter of law.’’ See Longaberger Co. v.Kolt, 586 F.3d 459, 465 (6th Cir.2009).The moving party bears the burden ofproving the absence of genuine issues ofmaterial fact and its entitlement to judg-ment as a matter of law, which may beaccomplished by demonstrating that thenonmoving party lacks evidence to supportan essential element of its case on which itwould bear the burden of proof at trial.See Celotex Corp. v. Catrett, 477 U.S. 317,322–23, 106 S.Ct. 2548, 91 L.Ed.2d 265(1986); Walton v. Ford Motor Co., 424F.3d 481, 485 (6th Cir.2005).

The ‘‘mere existence of some allegedfactual dispute between the parties will notdefeat an otherwise properly supportedmotion for summary judgment; the re-quirement is that there be no genuineissue of material fact.’’ Anderson v. Lib-erty Lobby, Inc., 477 U.S. 242, 247–48, 106S.Ct. 2505, 91 L.Ed.2d 202 (1986) (empha-sis in original); see also Longaberger, 586F.3d at 465. ‘‘Only disputed materialfacts, those ‘that might affect the outcomeof the suit under the governing law,’ willpreclude summary judgment.’’ Daughertyv. Sajar Plastics, Inc., 544 F.3d 696, 702(6th Cir.2008) (quoting Anderson, 477 U.S.at 248, 106 S.Ct. 2505). Accordingly, thenonmoving party must present ‘‘significantprobative evidence’’ to demonstrate that‘‘there is [more than] some metaphysicaldoubt as to the material facts.’’ Moore v.Philip Morris Cos., Inc., 8 F.3d 335, 340(6th Cir.1993).

A district court considering a motion forsummary judgment may not weigh evi-dence or make credibility determinations.Daugherty, 544 F.3d at 702; Adams v.Metiva, 31 F.3d 375, 379 (6th Cir.1994).Rather, in reviewing a motion for sum-mary judgment, a court must determinewhether ‘‘the evidence presents a sufficient

disagreement to require submission to ajury or whether it is so one-sided that oneparty must prevail as a matter of law.’’Anderson, 477 U.S. at 251–52, 106 S.Ct.2505. The evidence, all facts, and anyinferences that may permissibly be drawnfrom the facts must be viewed in the lightmost favorable to the nonmoving party.Matsushita Elec. Indus. Co. v. Zenith Ra-dio Corp., 475 U.S. 574, 587, 106 S.Ct.1348, 89 L.Ed.2d 538 (1986); Eastman Ko-dak Co. v. Image Technical Servs., Inc.,504 U.S. 451, 456, 112 S.Ct. 2072, 119L.Ed.2d 265 (1992). However, ‘‘[t]he mereexistence of a scintilla of evidence in sup-port of the plaintiff’s position will be insuf-ficient; there must be evidence on whichthe jury could reasonably find for theplaintiff.’’ Anderson, 477 U.S. at 252, 106S.Ct. 2505; see Dominguez v. Corr. Med.Servs., 555 F.3d 543, 549 (6th Cir.2009).

III. CLAIMS FOR PRIMARY LIABIL-ITY

Pharos alleges that primary liabilitymust be placed on Credit Suisse for theloss of its equity investment in NationalCentury. This is so, Pharos argues, be-cause it relied on Credit Suisse’s misrepre-sentations and material omissions aboutNational Century and how the NPF note-issuing programs were operated. Pharosadvances three causes of action againstCredit Suisse for primary liability: fraud,negligent misrepresentation, and violationsof the Ohio Securities Act.

A. Fraud and Negligent Misrepresen-tation

The parties argue at length over wheth-er the law of New York or Ohio shouldapply to the fraud and negligent misrepre-sentation claims. Credit Suisse believesthat New York law should apply because itdealt with Pharos from its New York of-fices and because the Letter Agreement

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has a New York choice of law provision.Pharos, which has offices in Tennessee andTexas, counters that Ohio law should applybecause it was the central site of the Na-tional Century fraud. Though CreditSuisse has pointed to some areas whereNew York and Ohio law might differ (suchNew York’s clear and convincing evidencestandard, compare In re Vivendi Univer-sal, S.A. Sec. Litig., 765 F.Supp.2d 512,534 (S.D.N.Y.2011), with Cornwell v. N.Ohio Surgical Ctr., 185 Ohio App.3d 337,345, 923 N.E.2d 1233, 1239–40 (Ohio Ct.App.2009)), the court finds that a choice oflaw determination is unnecessary with re-spect to these claims because Pharos can-not clear a fundamental hurdle under thelaw of either state—that of justifiable reli-ance.

[1, 2] Justifiable reliance is an elementof both a fraud and a negligent misrepre-sentation claim. See Lama Holding Co. v.Smith Barney Inc., 88 N.Y.2d 413, 421,646 N.Y.S.2d 76, 668 N.E.2d 1370, 1373(N.Y.1996); Russ v. TRW, Inc., 59 OhioSt.3d 42, 49, 570 N.E.2d 1076, 1083–84(Ohio 1991); Delman v. Cleveland Hts., 41Ohio St.3d 1, 4, 534 N.E.2d 835, 838 (Ohio1989). In determining whether reliance isjustifiable, courts consider such factors asthe sophistication of the parties, the natureof their relationship, their access to infor-mation, whether the plaintiff initiated thetransaction or sought to expedite it, thenature of the alleged misrepresentation,and the content of any agreement theyentered into. See Brown v. EarthboardSports USA, Inc., 481 F.3d 901, 921 (6thCir.2007) (federal securities law context);Merrill Lynch & Co. Inc. v. AlleghenyEnergy, Inc., 500 F.3d 171, 181 (2nd Cir.2007) (applying New York law); Johnsonv. Church of the Open Door, 179 OhioApp.3d 532, 539, 902 N.E.2d 1002, 1007(Ohio Ct.App.2008). Many courts declineto adopt a per se rule that a no-relianceprovision forecloses recovery, see Brown,481 F.3d at 921 (citing cases), but the

existence of such a provision can be ‘‘afairly convincing [factor] in many cases.’’Rissman v. Rissman, 213 F.3d 381, 388(7th Cir.2000) (Rovner, J., concurring).

[3] After examining the relevant fac-tors, the court finds as a matter of lawthat Pharos cannot establish justifiablereliance. Pharos was a private equityfund with about $160 million in committedcapital in 2002. CS Ex. 77. It was Pha-ros who first approached Credit Suisse,looking for an investment deal in thehealthcare sector. When Credit Suissementioned that it was raising equity forNational Century, Pharos said it alreadyknew ‘‘quite a bit about the healthcarereceivables business’’ and wanted to takea look. CS Ex. 76. Pharos, which con-siders itself skilled at doing due diligence,had access to ‘‘bankers boxes full of mate-rials,’’ conducted ‘‘extensive due dili-gence,’’ communicated directly with Na-tional Century’s management, and metwith them in person during a site visit.Ph. Ex. 22, Crants Dep. at 78, 103; CSEx. 64, Pl.’s First Am. Answer to Inter-rog. No. 4.

This is not a case where Pharos wasshielded from adverse information aboutNational Century. Pharos knew thatGoldman Sachs had decided not to serve aslead investor. It received a lengthy docu-ment outlining some of the areas of con-cern that Goldman had, particularly Na-tional Century’s practice of engaging inrelated-party transactions, and Pharosstated that it did not see a ‘‘material is-sue.’’ CS Exs. 110, 111. Pharos admitsthat it also learned, during its due dili-gence, that National Century had failed tomaintain reserve accounts in the NPF pro-grams at the levels required by the MasterIndentures governing those programs.Ph. Ex. 22, Crants Dep. at 90–94. Pharosknew as well that National Century’s equi-ty offering sought to raise $190 million and

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that without a lead investor, National Cen-tury would be raising only $12 million fromPharos and another $10–12 million fromNational Century’s management. DaleLeFebvre felt the financial risk of proceed-ing without Goldman was too great, but hiscolleagues overrode his objection. CS Ex.71, LeFebvre Dep. at 40, 125. Even in theface of Fitch, Inc. putting certain NPFnotes on a ‘‘Ratings Watch Negative’’ andNational Century being overdue in issuingits audited financial statement for 2001,Pharos remained enthusiastic about invest-ing. CS Ex. 96, at PHAROS00001159; CSEx. 108, Pl.’s Response to Request forAdmission No. 7.

The Letter Agreement was the productof negotiations between the parties.When Credit Suisse circulated a proposedagreement, Pharos found it to be ‘‘obnox-ious’’ and engaged counsel to craft revi-sions. Ph. Ex. 20. After Credit Suisseincorporated some of the revisions, Pharos‘‘elected to sign the document’’ and closeon the deal with National Century. Ph.Ex. 22, Crants Dep. at 173, 186 (‘‘[O]urchanges were not takenTTTT And at thatpoint the discussion about signing itstopped because we did want to close.’’).Pharos confesses that it does not ‘‘offer upsignatures unnecessarily’’ and that it was‘‘quite confident that [Credit Suisse] hadinformation that [Pharos] didn’t have.’’Id. at 118, 186.

The language of the Letter Agreementis clear. It states that Pharos is a ‘‘sophis-ticated institutional investor’’ who was ‘‘re-lying exclusively’’ on its own due diligenceinvestigation, its own sources of informa-tion, and its own credit analysis in decidingto invest in National Century preferredstock. Ph. Ex. 293. Indeed, Pharos rep-resented in the Agreement that CreditSuisse’s information and advice was not‘‘necessary or desired,’’ that Credit Suisse

had made no representations about Na-tional Century or the credit quality of thesecurities, and that any non-public infor-mation Credit Suisse possessed about Na-tional Century ‘‘need not be provided’’ toPharos. Id. The parties referred to theLetter Agreement as a ‘‘big boy’’ agree-ment because Pharos in essence said thatit knew what it was doing and could takecare of itself. See Extra Equipamentos EExportacao Ltda. v. Case Corp., 541 F.3d719, 724 (7th Cir.2008) (‘‘as in ‘we’re bigboys and can look after ourselves’ ’’). Tounderscore the point, the Agreement stat-ed that Pharos would bear the risk of an‘‘entire loss’’ of its investment. Ph. Ex.293.

Thus, the clear language of the LetterAgreement and the surrounding factorsrender any claimed reliance by Pharos un-justifiable. The case law strongly sup-ports this conclusion in the context of so-phisticated parties who have agreed to no-reliance language.1 See Jackvony v.RIHT Fin. Corp., 873 F.2d 411, 416–17(1st Cir.1989) (reliance unreasonablewhere sophisticated plaintiff received writ-ten proxy statement directing him not torely on it); Harsco Corp. v. Segui, 91 F.3d337, 343 (2d Cir.1996) (reliance unreason-able where sophisticated business entitiesnegotiated an agreement containing a ‘‘noother representations’’ clause); ExtraEquipamentos, 541 F.3d at 724–26 (reli-ance unreasonable where large companysigned a no-reliance clause and was repre-sented during negotiations by attorneyswho were experienced in commercialtransactions); Paracor Fin., Inc. v. Gener-al Elec. Capital Corp., 96 F.3d 1151, 1159–60 (9th Cir.1996) (reliance unreasonablewhere investors were expected to do theirown due diligence and signed an agree-ment saying that they were making their

1. Pharos does not argue that the ‘‘relyingexclusively’’ language in the Letter Agreement

has any less import than the ‘‘no-reliance’’language enforced in the cases cited below.

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own decision and not relying on other per-sons).

To allow Pharos to proceed any furtherwith its fraud and negligent misrepresen-tation claims would upset the risk alloca-tion the parties bargained for. Pharosagreed that it was relying exclusively onits own investigation and analysis and thatit would bear, as to Credit Suisse, 100% ofthe risk of loss. The Seventh Circuit inRissman emphasized that securities trans-actions would be ‘‘impossibly uncertain’’ ifcourts fail to protect the primacy of writ-ten agreements entered into by sophisti-cated parties. 213 F.3d at 383. The courtthus rejected plaintiff’s attempt to setaside a no-reliance clause and shift the riskin a way the ‘‘could not conceivably havebeen the outcome of bargaining.’’ Id. at385. So too here Pharos’s attempt to shiftrisk onto Credit Suisse must be rejected.See also Grumman Allied Indus., Inc. v.Rohr Indus., Inc., 748 F.2d 729, 735 (2dCir.1984) (‘‘[W]here the parties to anagreement have expressly allocated risks,the judiciary shall not intrude into theircontractual relationship.’’); DynCorp v.GTE Corp., 215 F.Supp.2d 308, 322(S.D.N.Y.2002) (‘‘It is not the role of thecourts to relieve sophisticated parties fromdetailed, bargained-for contractual provi-sions that allocate risks between them, andto provide extra-contractual rights or obli-gations for one side or the other.’’).

[4] Pharos offers a number of reasonswhy its claims should survive summaryjudgment. Each reason is unavailing. Itargues that the reasonableness of relianceis a fact-intensive issue that cannot beresolved at the summary judgment stage.The court agrees that the issue depends oncontext, see Brown, 481 F.3d at 921, but‘‘cases involving a non-reliance clause in anegotiated contract between sophisticatedparties will often be appropriate candi-dates for resolution at the summary judg-ment stage.’’ AES Corp. v. Dow Chemical

Co., 325 F.3d 174, 181 (3d Cir.2003); seealso Extra Equipamentos, 541 F.3d at 725(holding that the reliance issue can besettled on summary judgment where par-ties have signed valid no-reliance clause);Paracor, 96 F.3d at 1160 (resolving theissue on summary judgment).

Pharos next contends that Credit Suissehad an independent duty to disclose mate-rial information to Pharos because CreditSuisse chose to act as National Century’splacement agent. Picking up from lan-guage in this court’s order on CreditSuisse’s motion to dismiss, Pharos con-tends that Credit Suisse assumed a duty todisclose because it chose to speak by pro-viding the PPM to Pharos. See In reNat’l Century Fin. Enterprises, Inc., Inv.Litig., 541 F.Supp.2d 986, 998 (S.D.Ohio2007) (citing Rubin v. Schottenstein, Zox& Dunn, 143 F.3d 263, 268 (6th Cir.1998)).However, the court in the earlier orderhad to accept as true the allegations Pha-ros made in its complaint. The court didnot have before it the Letter Agreement,which states that Pharos neither needednor desired any information or advice fromCredit Suisse about National Century andthat Credit Suisse had no obligation toprovide such information. The Agreementfurther states that Credit Suisse was not afinancial advisor or fiduciary of Pharos.This unmistakable language defeats anyargument Pharos now makes about a dutyto disclose and renders unreasonable anyexpectation Pharos may have had aboutinformational parity. See HarborviewMaster Fund, LP v. Lightpath Technolo-gies, Inc., 601 F.Supp.2d 537, 547–48(S.D.N.Y.2009) (party in securities transac-tion cannot recover for ‘‘omissions to whichit contractually agreed’’); DynCorp, 215F.Supp.2d at 320 (under New York lawcontracting parties are able to limit therepresentations made and the dutiesowed); Blon v. Bank One, Akron, N.A., 35Ohio St.3d 98, 101, 519 N.E.2d 363 (Ohio

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1988) (presumption in business transac-tions is that parties have no duty to dis-close absent a fiduciary duty or some otherspecial relationship).

Again citing this court’s opinion on themotion to dismiss, Pharos argues that dis-claimers are not enforceable when the par-ty making them is engaged in fraud. SeeNat’l Century, 541 F.Supp.2d at 1005(holding that boilerplate disclaimers inPPMs did not necessarily protect CreditSuisse if it knew the disclaimers were falsewhen made). But again discovery has dis-proved the complaint’s allegations and theissue is no longer whether Pharos canstate a claim for fraud. Credit Suisse hasproved the existence of language havinggreater force than a boilerplate disclaimerin a PPM. It has proved that the partiesentered into a bargained-for, retrospectivestatement of their dealings. Their Agree-ment establishes that Pharos agreed not torely on Credit Suisse and agreed thatCredit Suisse had no duty to provide infor-mation to Pharos.

Pharos next argues under New York lawthat disclaimers are enforceable only ifthey track the substance of the allegedmisrepresentation. See Danann RealtyCorp. v. Harris, 5 N.Y.2d 317, 320–21, 184N.Y.S.2d 599, 157 N.E.2d 597, 599 (N.Y.1959). Pharos argues that the language ofthe Letter Agreement is too general to beenforced, but the line of cases Pharos citesis not applicable. Those cases hold thatgeneral disclaimers do not preclude aclaim for fraud in the inducement. See,e.g., Manufacturers Hanover Trust Co. v.Yanakas, 7 F.3d 310, 316 (2d Cir.1993)(‘‘[I]n order to be considered sufficientlyspecific to bar a defense of fraudulent in-ducement under Danann, a guaranteemust contain explicit disclaimers of theparticular representations that form thebasis of the fraud-in-the-inducementclaim.’’); In re CINAR Corp. Sec. Litig.,186 F.Supp.2d 279, 313 (E.D.N.Y.2002).

But Pharos does not claim that it wasfraudulently induced to sign the LetterAgreement. If Pharos was fraudulentlyinduced to enter into a contract, it wouldhave been the Preferred Stock PurchaseAgreement—a contract to which CreditSuisse was not a party.

Also under New York law, Pharos con-tends that disclaimers do not preclude aparty from claiming reliance on an allegedmisrepresentation of a fact that is peculiar-ly within the other party’s knowledge. SeeDIMON Inc. v. Folium, Inc., 48 F.Supp.2d359, 368 (S.D.N.Y.1999). This facet of lawlikewise has no application here. The pe-culiar knowledge exception was recognizedto protect those parties who have ‘‘no inde-pendent means of ascertaining the truth.’’Lazard Freres & Co. v. Protective LifeIns. Co., 108 F.3d 1531, 1542 (2d Cir.1997).Pharos is not such a party.

As a prospective equity investor, Pharoshad access to boxes of data room materi-als, conducted extensive due diligence, andcommunicated directly with National Cen-tury’s management. After becomingaware that Goldman had withdrawn aslead investor, Pharos received a detailedlisting of Goldman’s concerns and NationalCentury’s responses, and Pharos told Na-tional Century that it did not see a materi-al issue with the related-party transac-tions. See Tr. of Nov. 16, 2009 Hearing at158 (counsel for Pharos admitting that ithad knowledge of certain related-partytransactions). Pharos moreover knew ofthe Fitch downgrade and the delayed 2001audited financial statement, yet it re-mained unwavering in its enthusiasm toinvest in National Century. Pharos thenrepresented in the Letter Agreement thatit, being a sophisticated investor, had the‘‘knowledge and expertise’’ to independent-ly conduct due diligence and assess themerits and risks of the equity investment.Pharos further stated in the Agreement

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that information known by Credit Suissewas not ‘‘necessary or desired’’ and ‘‘neednot be provided.’’ Pharos cannot now seekreprieve in the peculiar knowledge excep-tion, regardless of what it claims CreditSuisse knew. See DIMON, 48 F.Supp.2d at368 (noting that for a sophisticated partythat ‘‘has the means of learning the factsand disclaims reliance on the defendant’srepresentations, there simply is no reasonto relieve it of the consequences of both itsfailure to protect itself and its bargain toabsolve the defendant of responsibility’’);DynCorp, 215 F.Supp.2d at 321–22 (declin-ing to apply the peculiar knowledge excep-tion because plaintiff was aware ‘‘that theinformation it had received had been se-lectedTTTT Sophisticated parties to majortransactions cannot avoid their disclaimersby complaining that they received lessthan all information, for they could havenegotiated for fuller information or morecomplete warranties.’’).

[5–7] Finally, Pharos argues that theLetter Agreement should be disregardedbecause it was not signed until ‘‘late’’ inthe process and Pharos was led to believethat the Agreement was ‘‘standard’’ andhad to be signed in order to complete thestock purchase. Pharos fails to cite anylegal basis for why these considerationswould invalidate the Agreement, but theycould charitably be construed as an argu-ment that Pharos was under duress. ‘‘Toavoid a contract on the basis of duress, aparty must prove coercion by the otherparty to the contract. It is not enough toshow that one assented merely because ofdifficult circumstances that are not thefault of the other party.’’ Blodgett v. Blod-gett, 49 Ohio St.3d 243, 246, 551 N.E.2d1249, 1251–52 (Ohio 1990); see also 805Third Ave. Co. v. M.W. Realty Associates,58 N.Y.2d 447, 451, 461 N.Y.S.2d 778, 448N.E.2d 445, 447 (N.Y.1983) (duress claimrequires the existence of a threat or coer-cion that precludes the exercise of freewill). The factual record at most shows

that Credit Suisse exerted financial orbusiness pressures on Pharos, but thisdoes not constitute duress. See GartechElec. Contracting Corp. v. Coastal Elec.Const. Corp., 887 N.Y.S.2d 24, 40, 66A.D.3d 463, 485 (N.Y.App.Div.2009); SheetMetal Workers Nat’l Pension Fund v.Bryden House Ltd. P’ship, 130 OhioApp.3d 132, 141, 719 N.E.2d 646, 652–53(Ohio Ct.App.1998). As one court aptlystated, ‘‘A defense of duress cannot besustained by a contracting party who hassimply been bested in contract negotia-tions by the ‘hard bargaining’ of anothercontracting party, TTT even when the hardbargainer knowingly takes advantage ofhis counterpart’s difficult financial circum-stances.’’ Regent Partners, Inc. v. ParrDev. Co., Inc., 960 F.Supp. 607, 612(E.D.N.Y.1997) (internal citations omitted).

Thus, the court finds that Credit Suisseis entitled to summary judgment as to thefraud and negligent misrepresentationclaims.

B. Ohio Revised Code Section1707.41

The Ohio Securities Act provides,

[A]ny person that, by a written or print-ed circular, prospectus, or advertise-ment, offers any security for sale, orreceives the profits accruing from suchsale, is liable, to any person that pur-chased the security relying on the circu-lar, prospectus, or advertisement, forthe loss or damage sustained by therelying person by reason of the falsity ofany material statement contained there-in or for the omission of material facts,unless the offeror or person that re-ceives the profits establishes that theofferor or person had no knowledge ofthe publication prior to the transactioncomplained of, or had just and reason-able grounds to believe the statement to

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be true or the omitted facts to be notmaterial.

O.R.C. § 1707.41(A). Pharos asserts thatCredit Suisse violated this provision be-cause the PPM Credit Suisse supplied toPharos contained material misrepresenta-tions.

Pointing again to the Letter Agreement,Credit Suisse argues that the § 1707.41claim fails because Pharos cannot establishjustifiable reliance. Pharos responds, inpassing in its response brief, that relianceneed not be justifiable; Pharos clarified atoral argument that its position is based onthe absence of the words ‘‘reasonably’’ or‘‘justifiably’’ in front of ‘‘relying’’ in§ 1707.41(A). See Tr. of Nov. 16, 2009Hearing at 167.

The court has found little case law onthe issue, but the cases do not favor Pha-ros’s interpretation. Two Ohio courts ofappeals, though not directly ruling on theissue, have imposed a reasonableness re-quirement. In Federated Mgmt. Co. v.Coopers & Lybrand, the court held thatsummary judgment could not be grantedagainst a § 1707.41 claim because theplaintiff had demonstrated that a jurycould find both that the plaintiff had reliedon a prospectus and that ‘‘the reliance wasreasonable.’’ 137 Ohio App.3d 366, 396,738 N.E.2d 842, 864 (Ohio Ct.App.2000).In an unpublished case, a court of appealsheld that a purchaser could not prevail onhis § 1707.41 claim because, among otherthings, his reliance was not reasonable.Citizens Nat’l Bank v. Barge–In, Inc., No.CA83–07–008, 1984 WL 3429, at *6 (OhioCt.App. Sept. 28, 1984).

Courts interpreting Ohio securities lawhave often looked to parallel provisions offederal law. See, e.g., In re ColumbusSkyline Securities, Inc., 74 Ohio St.3d 495,499–500, 660 N.E.2d 427, 429–30 (Ohio1996); Baker v. Conlan, 66 Ohio App.3d454, 462, 585 N.E.2d 543, 548 (Ohio Ct.App.1990); Roddy v. Alexander, No.

18503, 2001 WL 1174276, at *2 (Ohio Ct.App. Oct. 5, 2001); see also Booth v. Veri-ty, Inc., 124 F.Supp.2d 452, 460 (W.D.Ky.2000) (‘‘To interpret provisions of Blue SkyLaws patterned after the Uniform Securi-ties Acts, other state courts have looked todecisions construing parallel federal secu-rities laws.’’). It is therefore appropriateto note that federal courts have held thatjustifiable reliance is an essential elementof a claim for securities fraud under 15U.S.C. § 78j(b) even though that require-ment is not expressly stated in the statute.See Ley v. Visteon Corp., 543 F.3d 801, 806(6th Cir.2008); Helwig v. Vencor, Inc., 251F.3d 540, 554 (6th Cir.2001) (en banc); seealso Harrison v. Dean Witter Reynolds,Inc., 79 F.3d 609, 618 (7th Cir.1996) (‘‘Thefact of reliance in this case, however, is notenough by itself; that reliance must bejustifiable, or reasonable.’’).

[8] Pharos has not cited any authorityfor why a party whose reliance is unjustifi-able should still have recourse under§ 1707.41(A). Putting aside a fraud-on-the-market theory, the requirement of rea-sonable reliance is an important one forclaims of primary liability under securitieslaw. See Aschinger v. Columbus Show-case Co., 934 F.2d 1402, 1410 (6th Cir.1991); Banca Cremi, S.A. v. Alex. Brown& Sons, Inc., 132 F.3d 1017, 1028 (4thCir.1997); Teamsters Local 282 PensionTrust Fund v. Angelos, 762 F.2d 522, 529–30 (7th Cir.1985); Zobrist v. Coal–X, Inc.,708 F.2d 1511, 1516 (10th Cir.1983). ‘‘Be-cause the justifiable reliance requirement‘requir[es] plaintiffs to invest carefully,’ it‘promotes the anti-fraud policies’ of thesecurities acts by making fraud morereadily discoverable.’’ Banca Cremi, 132F.3d at 1028 (quoting Dupuy v. Dupuy,551 F.2d 1005, 1014 (5th Cir.1977)); accordAschinger, 934 F.2d at 1410. Further, itserves as a critical limitation to ensurethat a causal connection exists between the

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misrepresentation and the plaintiff’s harm,Zobrist, 708 F.2d at 1516, and precludes aninvestor from ‘‘clos[ing] his eyes.’’ Team-sters Local 282, 762 F.2d at 530. Forthese reasons, the court finds that justifi-able reliance is an element of a§ 1707.41(A) claim.

As discussed above in connection withthe fraud and negligent misrepresentationclaims, Pharos cannot establish justifiablereliance; thus, summary judgment isgranted on the § 1707.41(A) claim.

IV. CLAIMS FOR SECONDARY LIA-BILITY

A. Ohio Revised Code Section 1707.431. Predicate Violation Based

on Section 1707.41

Ohio law imposes joint and several liabil-ity on any person who ‘‘has participated inor aided the seller in any way’’ in making asale that violates Chapter 1707. O.R.C.§ 1707.43(A). Secondary liability cannotbe imposed if the plaintiff fails to establisha primary violation of Chapter 1707. Inthe complaint, Pharos alleged that Nation-al Century committed a primary violationof § 1707.41 by issuing a PPM containingmisrepresentations about how NationalCentury operated.

[9] Credit Suisse’s motion for sum-mary judgment contends that Pharos can-not prove a predicate violation of § 1707.41by National Century because discoveryfailed to uncover any false statements inthe PPM on which Pharos relied. AfterPharos initially received the PPM, it pro-ceeded to conduct extensive due diligenceand had numerous direct interactions withNational Century’s management. Certainaspects of what Pharos claims was misrep-resented in the PPM, such as the related-party transactions and the failure to main-tain reserve accounts at certain levels,were later disclosed by National Century.See Ph. Ex. 22, Crants Dep. at 88–94 (ac-knowledging that Pharos knew of related-

party transactions and of reserve accountsdipping below required levels). CreditSuisse argues that Pharos, having learnedso much, cannot show that it relied on anyalleged misrepresentations made in the ini-tial document. Credit Suisse challengesPharos to ‘‘identif[y] a single false state-ment in the PPM that it reasonably reliedon’’ when it finally bought the stock. CSMot. for Summ. J. at 90.

Pharos has no good answer to CreditSuisse’s challenge. Indeed Pharos devotesa single paragraph to the matter and con-tends that Credit Suisse admitted in itsbriefs that Pharos relied on the PPM. Butthis mischaracterizes what Credit Suissesaid about the PPM. Credit Suisse con-cedes that it sent the PPM to Pharos andargues that Pharos read certain disclaim-ers in the PPM (that Credit Suisse was notguaranteeing the accuracy of the informa-tion in the PPM, that investors shouldconduct their own due diligence, and thatthey should rely only on representationsmade in a final purchase agreement). SeeCS Ex. 57; CS Ex. 61, Crants Dep. at 72–73; CS Ex. 70, Devlin Dep. at 265–66.However, nowhere has Credit Suisse con-ceded that Pharos reasonably relied onfalse statements in the PPM.

[10] Pharos also points to the fact thatNational Century committed a massivefraud—a point Credit Suisse does not dis-pute. See CS Mot. for Summ. J. at 36–42.Even so, the fact that National Centurydefrauded some investors does not meanthat it defrauded Pharos in particular or inthe manner proscribed by § 1707.41. Thatsection is not violated unless there is reli-ance upon a false statement in writtenoffering materials. Pharos has failed todirect the court to any evidence fromwhich a jury could reasonably find thatPharos justifiably relied on a false state-ment made by National Century in thePPM.

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[11, 12] The court has no duty to combthe record for facts to support Pharos’sclaim. See InterRoyal Corp. v. Sponseller,889 F.2d 108, 111 (6th Cir.1989). ‘‘Thus, acourt is entitled to rely, in determiningwhether a genuine issue of material factexists on a particular issue, only uponthose portions of the verified pleadings,depositions, answers to interrogatories andadmissions on file, together with any affi-davits submitted, specifically called to itsattention by the parties.’’ Books A Mil-lion, Inc. v. H & N Enterprises, Inc., 140F.Supp.2d 846, 853 (S.D.Ohio 2001).Again, Pharos has failed to direct thecourt’s attention to any evidence in therecord that would support its claim that itrelied on a misrepresentation by NationalCentury in the PPM. Nonetheless, thecourt has examined certain documents—among the 850 exhibits submitted by theparties—that would seem to be the mostlikely to speak to the issue of reliance onspecific misstatements in the PPM. Thesedocuments include the depositions of themanaging partners of Pharos, their con-temporaneous communications about theinvestment, and Pharos’s answers to inter-rogatories.

The court is unable to locate facts fromwhich a jury could reasonably find thatPharos, in making its decision to invest,relied on a misrepresentation by NationalCentury in the PPM. Pharos sometimescites the PPM as a document that it re-ceived and reviewed. See, e.g., Ph. Ex. 34,Devlin Dep. at 264; CS Ex. 71, LeFebvreDep. at 174. However, Pharos does notpinpoint any specific alleged misrepresen-tations by National Century in the PPMon which it relied. For instance, in re-sponse to interrogatories asking Pharos on

which documents it relied, Pharos statedthat it received the PPM but cited otherdocuments (a legal opinion letter, unaudit-ed financial forecasts attributed to CreditSuisse, the Hurwitz email) as the particu-lar ones it relied on when deciding toinvest. CS Ex. 63, Pl.’s Answer to Inter-rog. Nos. 4 and 5; CS Ex. 64, Pl.’s FirstAm. Answer to Interrog. No. 4. Pharosalso relied on the strength of NationalCentury’s management, see Ph. Ex. 251(Devlin saying the day after the site visitthat ‘‘we loved the company and the man-agement team’’), and took comfort in thefact that Poulsen himself was putting hisown money in the deal, see Ph. Ex. 23,Crants Dep. at 242. Managing partnerBob Crants, who was Pharos’s Rule30(b)(6) corporate representative, stated inhis deposition that Pharos relied on thePPM. Ph. Ex. 22, Crants Dep. at 65–66.Yet his testimony went no further thanthis—a general statement that Pharos re-lied on the PPM. Crants did not identifyany allegedly false representation withinthe PPM, and attributable to NationalCentury, on which Pharos reasonably re-lied.2

It is appropriate at the summary judg-ment stage for the court to expect Pharosto demonstrate reliance with a greater de-gree of specificity than a general state-ment that it relied on the PPM. Indeed,more than that is required at the pleadingstage. See Fed.R.Civ.P. 9(b) (complaintmust ‘‘state with particularity the circum-stances constituting fraud’’); U.S. ex rel.Marlar v. BWXT Y–12, L.L.C., 525 F.3d439, 444 (6th Cir.2008) (‘‘To satisfy Rule9(b), a complaint of fraud, at a minimum,must allege the time, place, and content of

2. Crants did testify that he believed the PPMfailed to disclose the extent or magnitude ofthe related-party transactions and the failureto maintain reserve accounts. Ph. Ex. 23,Crants Dep. at 254–56. Crants, however, ad-mitted to Pharos having learned of these

problem areas during its due diligence and ofhaving had follow-up communications withPoulsen, who downplayed the seriousness ofthese issues. Any reliance, thus, would havebeen on Poulsen’s later statements and notthe PPM.

831NAT. CENTURY FINANCIAL ENTERS., INC., INV. LIT.Cite as 905 F.Supp.2d 814 (S.D.Ohio 2012)

the alleged misrepresentation on which theplaintiff relied TTTT’’) (internal citationsomitted). The PPM is nearly 100 pageslong and Pharos has never claimed thatthe whole document is false. After havinghad several years to prepare its case andhaving conducted substantial discovery,Pharos must do more than what it hasdone to create a genuine issue of factconcerning an essential element of itsclaim. When, as here, the moving partymeets its initial burden of showing theabsence of a genuine issue of material fact,the burden shifts to the nonmoving partyto ‘‘set forth specific facts showing there isa genuine issue for trial.’’ Anderson v.Liberty Lobby, Inc., 477 U.S. 242, 250, 106S.Ct. 2505, 91 L.Ed.2d 202 (1986) (quotingFed.R.Civ.P. 56(e)). Rule 56(e) ‘‘requiresthe nonmoving party to go beyond the[unverified] pleadings’’ and offer admissi-ble evidence supporting its position. Celo-tex Corp. v. Catrett, 477 U.S. 317, 324, 106S.Ct. 2548, 91 L.Ed.2d 265 (1986). Pharoshas failed to do so.

The court thus finds that Pharos hasfailed to establish a primary violation of§ 1707.41 for purposes of its § 1707.43secondary liability claim against CreditSuisse.

2. Predicate Violation Basedon Section 1707.44

Pharos argues that even if it cannotestablish a primary violation of § 1707.41,it can still show that National Centuryviolated paragraphs (B)(4), (G), and (J) of§ 1707.44, which provide:

(B) No person shall knowingly make orcause to be made any false representa-tion concerning a material and relevantfact, in any oral statement or in anyprospectus, circular, description, applica-tion, or written statement, for any of thefollowing purposes: TTT (4) Selling anysecurities in this state;(G) No person in purchasing or sellingsecurities shall knowingly engage in any

act or practice that is, in this chapter,declared illegal, defined as fraudulent, orprohibited;(J) No person, with purpose to deceive,shall make, issue, publish, or cause to bemade, issued, or published any state-ment or advertisement as to the value ofsecurities, or as to alleged facts affectingthe value of securities, or as to the finan-cial condition of any issuer of securities,when the person knows that the state-ment or advertisement is false in anymaterial respect.

O.R.C. § 1707.44(B)(4), (G), and (J).

[13] Credit Suisse protests that thecomplaint does not allege predicate viola-tions of § 1707.44 and that a party maynot present a legal theory for the first timeafter the close of discovery and in responseto a properly-supported motion for sum-mary judgment. The Sixth Circuit hasmade clear that a party may not ‘‘expandits claims to assert new theories’’ in re-sponse to a motion for summary judgment.Bridgeport Music, Inc. v. WM MusicCorp., 508 F.3d 394, 400 (6th Cir.2007); seealso Priddy v. Edelman, 883 F.2d 438, 446(6th Cir.1989) (holding that ‘‘[a] party isnot entitled to wait until the discoverycutoff date has passed and a motion forsummary judgment has been filed on thebasis of claims asserted in the originalcomplaint before introducing entirely dif-ferent legal theories’’); Tucker v. Union ofNeedletrades, Industrial and Textile Em-ployees, 407 F.3d 784, 788 (6th Cir.2005)(holding that a plaintiff may not raise anew claim in response to summary judg-ment); Desparois v. Perrysburg ExemptedVillage Sch. Dist., 455 Fed.Appx. 659, 666(6th Cir.2012); Yanovich v. Zummer Aus-tin, Inc., 255 Fed.Appx. 957, 970 (6th Cir.2007). District courts have thus held thata plaintiff may not offer new theories insupport of a claim in response to a motionfor summary judgment. See, e.g., Sweitzer

832 905 FEDERAL SUPPLEMENT, 2d SERIES

v. Am. Express Centurion Bank, 554F.Supp.2d 788, 797 (S.D.Ohio 2008) (hold-ing that a plaintiff could not expand thetheory of its negligence claim in responseto a motion for summary judgment); Saadv. City of Dearborn Heights, 876F.Supp.2d 925, 941–42 (E.D.Mich.2012)(holding that a plaintiff could not expandthe theory of a Monell claim in response toa motion for summary judgment).

In Count Two of the Second AmendedComplaint, Pharos specifically identified§ 1707.41 as the section that National Cen-tury violated and as underpinning its sec-ondary liability claim against CreditSuisse. See Sec. Am. Compl. at ¶¶ 99–105.The complaint made no mention of§ 1707.44, which differs from § 1707.41 inimportant ways. As applied to this case,§ 1707.44 has a broader imposition of lia-bility than does § 1707.41. Section 1707.41contains a reliance requirement, but para-graphs (B)(4), (G), and (J) of § 1707.44 donot appear to require a plaintiff to provereliance upon a false statement. See Wil-son v. Ward, 183 Ohio App.3d 494, 502, 917N.E.2d 821, 827 (Ohio Ct.App.2009); Fer-ritto v. Alejandro, 139 Ohio App.3d 363,368, 743 N.E.2d 978, 982 (Ohio Ct.App.2000). Further, § 1707.41 is limited tofalse statements in written materials oradvertisements, but paragraph (B)(4),which prohibits any written or oral misrep-resentations, and paragraph (G), whichprohibits any fraudulent acts or practices,have a greater sweep. And § 1707.44(J) isdifferent still, being directed at statementsas to the value of securities or the financialcondition of the issuer. The effect of thesedifferences is that Credit Suisse has pre-pared a defense—focusing on reliance andon the PPM—that is different from thedefense it would have likely prepared hadit been given notice of an alleged violationof § 1707.44.

The court has reviewed Pharos’s re-sponses to interrogatories and has revisit-

ed the briefing associated with CreditSuisse’s earlier motion to dismiss. Noth-ing in those materials gave notice to CreditSuisse that Pharos would assert that Na-tional Century had committed a violationof paragraphs (G) or (J) of § 1707.44.Even now that Pharos has attempted toraise those paragraphs in opposition to themotion for summary judgment, it does soonly in passing. It quotes those statutoryprovisions in footnotes and makes no effortto match the language of the provisions torecord evidence that would support a find-ing that paragraphs (G) and (J) were vio-lated.

Pharos did mention paragraph (B)(4) of§ 1707.44 in responding to Credit Suisse’soriginal motion to dismiss. Pharos citedboth § 1707.41 and § 1707.44(B)(4) in ar-guing that its § 1707.43 should claimshould survive dismissal. (Doc. 63 in CaseNo. 2:03–cv–362 at 32–33). After filingthis brief, Pharos twice was granted leaveto amend its complaint; however, Pharoschose not to allege a primary violation of§ 1707.44(B)(4) in either its first or secondamended complaints. Instead, it expresslyclaimed a primary violation of § 1707.41,alleging that defendants had aided unlaw-ful sales ‘‘in violation of Chapter 1707.41’’and had aided ‘‘National Century’s mis-deeds under Chapter 1707.41.’’ (Doc. 105in Case No. 2:03–cv–362 at ¶¶ 90, 93; doc.64 in Case No. 2:03–md–1565 at ¶¶ 100,103).

The court finds that the operative plead-ing, the Second Amended Complaint, doesnot give Credit Suisse notice of an allegedprimary violation of § 1707.44(B)(4).Credit Suisse has tailored its defense tothe elements of § 1707.41. Pharos may notnow avoid summary judgment by expand-ing its § 1707.43 claim to include the newalleged violation. See Bridgeport Music,508 F.3d at 400; Sweitzer, 554 F.Supp.2dat 797. Moreover, as it did with para-

833NAT. CENTURY FINANCIAL ENTERS., INC., INV. LIT.Cite as 905 F.Supp.2d 814 (S.D.Ohio 2012)

graphs (G) or (J) of § 1707.44, Pharos’sbrief simply cites paragraph (B)(4) withoutproviding any legal analysis or directingthe court to record evidence supporting afinding that paragraph (B)(4) was violated.

The court thus finds that Credit Suisseis entitled to summary judgment againstPharos’s claim under O.R.C. § 1707.43.

B. Aiding and Abetting Fraud

[14] The Restatement (Second) ofTorts § 876 provides for liability for per-sons acting in concert with a wrongdoer.In particular, it imposes liability on onewho: (1) knows that the primary party’sconduct constitutes a breach of duty and(2) substantially assists or encourages theprimary party’s conduct. See Restatement(Second) of Torts § 876(b). Many states,New York included, expressly recognize acause of action for aiding and abettingtortious conduct. See Lerner v. FleetBank, N.A., 459 F.3d 273, 292 (2d Cir.2006) (discussing New York law). But, aswill be discussed below, it recently becameclear that Ohio does not. See DeVriesDairy, L.L.C. v. White Eagle Coop. Ass’n.,Inc., 132 Ohio St.3d 516, 974 N.E.2d 1194(Ohio 2012). This makes a choice of lawdetermination necessary for this claim.The parties have argued that either Ohioor New York law applies.

[15, 16] The Pharos action, thoughconsolidated by the Judicial Panel on Mul-tidistrict Litigation into the National Cen-tury MDL, was originally filed in thiscourt and Ohio’s choice-of-law rules apply.See generally Rosen v. Chrysler Corp., 205F.3d 918, 921 n. 2 (6th Cir.2000); In reTemporomandibular Joint (TMJ) Im-plants Prods. Liab. Litig., 97 F.3d 1050,1055 (8th Cir.1996). Ohio has adopted theRestatement (Second) of Conflict of Lawsin making choice-of-law determinations intort actions. See Morgan v. Biro Mfg. Co.,Inc., 15 Ohio St.3d 339, 341–42, 474 N.E.2d286, 288–89 (Ohio 1984).

[17, 18] The primary inquiry in a mak-ing a choice-of-law decision for a tort claimis which state ‘‘has the most significantrelationship to the occurrence and the par-ties.’’ Restatement (Second) of Conflict ofLaws § 145(1); Morgan, 15 Ohio St.3d at342, 474 N.E.2d at 289. Factors to beconsidered are:

(a) the place where the injury occurred,(b) the place where the conduct causingthe injury occurred,(c) the domicil, residence, nationality,place of incorporation and place of busi-ness of the parties, and(d) the place where the relationship, ifany, between the parties is centered.

Restatement § 145(2). In the context of afraud-based tort, the court may also con-sider:

(a) the place, or places, where the plain-tiff acted in reliance upon the defen-dant’s representations,(b) the place where the plaintiff receivedthe representations,(c) the place where the defendant madethe representations,(d) the domicil, residence, nationality,place of incorporation and place of busi-ness of the parties,(e) the place where a tangible thingwhich is the subject of the transactionbetween the parties was situated at thetime, and(f) the place where the plaintiff is torender performance under a contractwhich he has been induced to enter bythe false representations of the defen-dant.

Restatement § 148(2).

[19] From the outset, the parties ac-knowledge that several of the factors donot favor either the application of Ohio orNew York law. Pharos is a Delawarelimited partnership whose partners main-tained offices in Tennessee and Texas atthe time of the investment in NationalCentury. See CS Ex. 70, Devlin Dep. at

834 905 FEDERAL SUPPLEMENT, 2d SERIES

64–65; CS Ex. 71, LeFebvre Dep. at 69.Thus, the places of injury, reliance, anddomicile of the plaintiff do not favor apply-ing either Ohio or New York.

Looking to the remaining factors, thecourt finds that Ohio has the most signifi-cant relationship to the occurrence andparties relevant to the aiding and abettingclaim 3 As Pharos argues, the subject ofthe claim is a primary fraud based in Ohio.Pharos invested in an Ohio company andthis private equity investment counted onthe integrity and skill of those who ranNational Century. CS Ex. 73 at PHA-ROS00002028 (Pharos memo explainingthat the ‘‘most important determinant ofsuccess’’ to its investment approach was‘‘the strength of the management team’’ ofthe private companies in which it invest-ed). Pharos alleges that National Centurymade misrepresentations and deceivedPharos about the nature of the companyand its operations. The deception includ-ed a site visit made by Pharos to NationalCentury’s offices in Dublin, Ohio in March2002, as well as direct communications be-tween Lance Poulsen and Pharos. See CSEx. 61, Crants Dep. at 104–06; CS Exs.109–16; Ph. Exs. 251, 282. The deceptionculminated in Pharos rendering perform-ance of the stock purchase by wiring $12million to National Century in Ohio in July2002. See Ph. Ex. 284.

Credit Suisse allegedly aided NationalCentury’s fraud in several ways: it intro-duced Pharos to the potential investmentopportunity, sent Pharos a PPM, arrangedfor Pharos to receive data room materials,answered Pharos’s questions about the in-vestment, and set up the site visit. See,e.g., Sec. Am Compl. at ¶¶ 76–78; Ph.Mem. in Opp’n at 16–26. Though CreditSuisse was based in New York, its alleged

assistance in the fraud came in its role as aconduit for an Ohio company to conveyfalse information to Pharos.

In certain other actions in the NationalCentury MDL, this court held that NewYork law applies to fraud claims made bynoteholder investors against Credit Suisse.See In re Nat’l Century Fin. Enterprises,Inc., Inv. Litig., 846 F.Supp.2d 828, 852–56(S.D.Ohio 2012). It is important to distin-guish those investors, many of whom hadplaces of business in New York and whopurchased notes directly from CreditSuisse in New York, from Pharos, who hasno such New York connections and whomade its stock purchase directly from Na-tional Century. In those other actions,Credit Suisse was a party to the allegedlyfraudulent securities transactions. Here itwas not. And in those other actions,Credit Suisse allegedly made direct mis-representations on which the investors re-lied. Here, the Letter Agreement estab-lishes that Credit Suisse did not.

The court thus finds that Ohio lawshould apply to the claim for aiding andabetting fraud. Until recently the issue ofwhether Ohio recognizes such a cause ofaction has been murky. State courts re-peatedly expressed doubt about whether aclaim for aiding and abetting tortious con-duct was cognizable. See Andonian v.A.C. & S., Inc., 97 Ohio App.3d 572, 574,647 N.E.2d 190, 191 (Ohio Ct.App.1994)(‘‘Ohio has not definitively adopted thissection [Restatement(Second) of Torts§ 876] and few Ohio cases have applied it.The Supreme Court of Ohio has neverexpressly approved Section 876TTTT’’);Whelan v. Vanderwist of Cincinnati, Inc.,No. 2010–G–2999, 2011 WL 6938600, at *4(Ohio Ct.App. Dec. 30, 2011) (‘‘[I]t remainsunclear whether The Supreme Court of

3. The court reached the same conclusion withrespect to Pharos’s claims against other de-fendants. See In re Nat’l Century Fin. Enter-prises, Inc., Inv. Litig., No. 2:03–md–1565,

2008 WL 1995216, at *4 (S.D.Ohio May 5,2008) (holding that ‘‘Ohio has the most signif-icant relationship to the claims againstJPMorgan and the Beacon Entities’’).

835HICKAM v. SEGARSCite as 905 F.Supp.2d 835 (M.D.Tenn. 2012)

Ohio would adopt the doctrine of liabilityfor civil aiding and abetting as derivedfrom the Restatement of the Law 2d,Torts (1979), Section 876(b).’’). Somecourts flatly refused to recognize such aclaim. See Federated Mgmt. Co. v. Coo-pers & Lybrand, 137 Ohio App.3d 366, 382,738 N.E.2d 842, 853 (Ohio Ct.App.2000)(‘‘Ohio does not recognize such a claim forrelief [for civil aiding and abetting].’’); Col-lins v. Nat’l City Bank, No. 19884, 2003WL 22971874, at *5 (Ohio Ct.App. Dec. 19,2003) (‘‘[A]iding and abetting common lawfraud is not cognizable in law.’’). But seeKelley v. Buckley, 193 Ohio App.3d 11, 36,950 N.E.2d 997, 1016 (Ohio Ct.App.2011)(holding that a civil aiding and abettingclaim is cognizable).

Federal court decisions have reflectedthis uncertainty. The Sixth Circuit twicenoted that it was unclear whether Ohiowould recognize a claim for aiding andabetting tortious conduct. See Aetna Cas.and Sur. Co. v. Leahey Constr. Co., 219F.3d 519, 533 (6th Cir.2000); Pavlovich v.National City Bank, 435 F.3d 560, 570(6th Cir.2006). This court in the NationalCentury MDL previously denied CreditSuisse’s motion to dismiss aiding and abet-ting claims because it could not be saidconclusively that Ohio law did not recog-nize such a cause of action. See In reNat’l Century Fin. Enterprises, Inc., Inv.Litig., 541 F.Supp.2d 986, 1014 (S.D.Ohio2007). See also William D. MundingerTrust U/A v. Zellers, 473 B.R. 222, 231–32(N.D.Ohio 2012).

[20] The Ohio Supreme Court just re-cently settled the issue by holding thatOhio does not recognize a cause of actionunder Restatement (Second) of Torts§ 876. The matter was presented by wayof a question certified by the United StatesDistrict Court for the Northern District ofOhio: ‘‘does Ohio recognize a cause ofaction for tortious acts in concert underthe Restatement (2d) of Torts, § 876?’’

The Ohio Supreme Court answered: ‘‘Thecertified question is answered in the nega-tive. This court has never recognized aclaim under 4 Restatement 2d of Torts,Section 876 (1979), and we decline to do sounder the circumstances of this case.’’DeVries Dairy, L.L.C. v. White EagleCoop. Ass’n., Inc., 132 Ohio St.3d 516, 517,974 N.E.2d 1194, 1194 (Ohio 2012). TheCourt did not elaborate further, but it isclear now that a claim under § 876 foraiding and abetting tortious conduct is notcognizable under Ohio law.

Thus, summary judgment is granted toCredit Suisse on the claim asserted byPharos for aiding and abetting fraud.

V. CONCLUSION

Accordingly, Credit Suisse’s motion forsummary judgment (doc. 1547) is granted.The court denies as moot Credit Suisse’smotions to strike evidence and exclude anexpert report (docs. 1714, 1729).

The Clerk shall enter judgment in favorof Credit Suisse in Case No. 2:03–cv–362and shall close Case No. 2:03–md–1565.

,

Wade HICKAM, as Owner of the 2004See–Doo, for Exoneration from orLimitation of Liability, Plaintiff,

v.

Terry SEGARS, Jr. and All OtherPotential Parties,

Defendants.

Civil No. 3:12–cv–00964.

United States District Court,M.D. Tennessee,

Nashville Division.

Nov. 27, 2012.

Background: Owner of a personal water-craft involved in an accident sued the acci-

PHAROS CAPITAL PARTNERS, L.P., Plaintiff-Appellant, v. DELOITTE &TOUCHE, Deloitte & Touche LLP c/o Lawrence A. Hilsheimer, Statutory Agent;

CREDIT SUISSE FIRST BOSTON CORPORATION, c/o Prentice Hall CorpSystem, Statutory Agent; PURCELL & SCOTT CO LPA, c/o Peggy A. Scott,

Statutory Agent; HAROLD W. POTE, Defendants-Appellees.

No. 12-4381

UNITED STATES COURT OF APPEALS FOR THE SIXTH CIRCUIT

13a0909n.06; 535 Fed. Appx. 522; 2013 U.S. App. LEXIS 21912; 2013 FED App.0909N (6th Cir.)

October 23, 2013, Filed

NOTICE: NOT RECOMMENDED FORFULL-TEXT PUBLICATION. SIXTH CIRCUIT RULE28 LIMITS CITATION TO SPECIFIC SITUATIONS.PLEASE SEE RULE 28 BEFORE CITING IN APROCEEDING IN A COURT IN THE SIXTHCIRCUIT. IF CITED, A COPY MUST BE SERVED ONOTHER PARTIES AND THE COURT. THIS NOTICEIS TO BE PROMINENTLY DISPLAYED IF THISDECISION IS REPRODUCED.

PRIOR HISTORY: [**1]ON APPEAL FROM THE UNITED STATES

DISTRICT COURT FOR THE SOUTHERN DISTRICTOF OHIO.Pharos Capital Partners, L.P. v. Touche, L.L.P. (In reNat'l Century Fin. Enters.), 905 F. Supp. 2d 814, 2012U.S. Dist. LEXIS 154042 (S.D. Ohio, 2012)

COUNSEL: For PHAROS CAPITAL PARTNERS,L.P., Plaintiff - Appellant: William A. Brewer, III,Michael Joseph Collins, Kenneth N. Hickox, Jr., RobertM. Millimet, Bickel & Brewer, Dallas, TX; Joseph F.Murray, Murray, Murphy, Moul & Basil, Columbus, OH.

For DELOITTE & TOUCHE, Deloitte & Touche LLPc/o Lawrence A Hilsheimer, Statutory Agent, Defendant -Appellee: Andrew L. Goldman,Bartlit, Beck, Herman,

Palenchar & Scott, Chicago, IL.

For CREDIT SUISSE FIRST BOSTONCORPORATION, c/o Prentice Hall Corp System,Statutory Agent, Defendant - Appellee: Jeffrey Q. Smith,Laila Abou-Rahme, Steven G. Brody, Susan FeliceDiCicco, Colleen J. O'Loughlin, Bingham McCutchen,New York, NY; Sherri B. Lazear, Thomas L. Long,Baker & Hostetler, Columbus, OH.

For PURCELL & SCOTT CO LPA, c/o Peggy A Scott,Statutory Agent, Defendant - Appellee: Matthew B.Andelman, Delaney McKinney, Chevy Chase, MD;Robert M. Cary, Craig D. Singer, John K. Villa, Williams& Connolly, Washington, DC; Matthew L. Fornshell, IceMiller, Columbus, OH.

For HAROLD W. POTE, Defendant - Appellee: PhilipMirrer-Singer, Simpson, Thacher & Bartlett, Washington,DC; [**2] Mary Kay Vyskocil, Simpson, Thacher &Bartlett, New York, NY.

JUDGES: Before: COOK, GRIFFIN, andKETHLEDGE, Circuit Judges.

OPINION

Page 1

[*522] PER CURIAM. In this chapter of themulti-district National Century Financial Enterprises,Inc., Investment Litigation, MDL No. 2:03-md-1565,which arises from National Century's fraudulent businesspractices and stock offerings, investor Pharos CapitalPartners, L.P., sued one of National Century's stockplacement agents, alleging primary and secondaryliability under Ohio securities law, fraud, and negligentmisrepresentation for its role in facilitating Pharos'snow-worthless $12-million equity investment in NationalCentury stock. The district court granted summaryjudgment to the placement agent, Credit Suisse Securities(USA) LLC, finding in pertinent part that: (i) Pharosunjustifiably relied on Credit Suisse's representations inlight of the parties' "big boy agreement" in which Pharoseschews reliance on Credit Suisse in favor of its own duediligence, and (ii) Pharos failed to present evidence of apredicate violation of Ohio securities law to support itssecondary liability claim against Credit Suisse. Aftercarefully reviewing the record, the applicable law, [**3]the parties' briefs, and having had the benefit of oralargument, we find that the district court's opiniondiligently and correctly sets [*523] out the undisputedfacts and the governing law.

During oral argument, Pharos defended its failure todesignate evidence supporting the secondary liabilityclaim by denying that Credit Suisse's motion forsummary judgment challenged its reliance on NationalCentury's Private Placement Memorandum (PPM). Therecord reveals otherwise. (Appellee App. vol. 1 at 11175,CS Summ. J. Br. at 90 ("As a threshold matter, Pharoshas not established a primary violation of Section1707.41, as required to recover under Section 1707.43.For example, Pharos has not identified a single falsestatement in the PPM that it reasonably relied on tosupport its claim.").) Pharos makes much of the fact thatCredit Suisse's motion brief states that "Pharos admits itreviewed and relied on the PPM in connection with itsinvestment decision." (Id. at 11109-10, Br. at 24-25.) But,as the district court noted, this generic statement ofPharos's legal position concedes nothing in terms ofjustifiable reliance.

The district court thoroughly reviewed the record forevidence that Pharos [**4] reasonably relied on materialmisstatements appearing in the PPM, finding nothingmore than a handful of vague assertions of reliance on the

PPM. Indeed, the court granted Pharos more review thanits proffer required. See, e.g., Wimbush v. Wyeth, 619F.3d 632, 638 n.4 (6th Cir. 2010) ("[I]t was [thenon-movant's] job to point to the evidence withspecificity and particularity in the relevant brief ratherthan just dropping a pile of paper on the district judge'sdesk and expecting him to sort it out."); Tucker v.Tennessee, 539 F.3d 526, 531 (6th Cir. 2008) (explainingthat the district court has no "duty to search the entirerecord to establish that it is bereft of a genuine issue ofmaterial fact" (quotation omitted)). We discern no errorwith its judgment that Pharos failed to present evidencedemonstrating justifiable reliance. See Guarino v.Brookfield Twp. Trs., 980 F.2d 399, 405 (6th Cir. 1992)("[I]f the non-moving party fails to discharge [thesummary judgment] burden--for example, by remainingsilent--its opportunity is waived and its case wagered.").

Pharos attempts to remedy this evidentiaryshortcoming on appeal, pointing to deposition testimonyfrom its managing partners [**5] stating that it relied onthe PPM's performance forecasts and its failure todisclose National Century's asset-shifting practices. Buteven if we were to accept these forfeited statements ofreliance as properly before us, they suffer from the samelack of particularity as those discovered by the districtcourt.

Finally, the district court correctly held that Pharoscould not justifiably rely on any statement by CreditSuisse because Pharos was a sophisticated investor, hadsubstantial adverse information about National Century,and, most critically, signed an agreement disclaimingreliance on any statement by Credit Suisse. On appeal,Pharos argues that Credit Suisse had knowledge ofmaterial information about National Century's fraud thatoutside investors--like Pharos--could not discover. Evenassuming that this scenario could make Pharos's reliancejustifiable, Pharos has not demonstrated that any materialinformation was truly unavailable to a sophisticatedinvestor like Pharos.

Because this court's issuance of a full opinion wouldbe duplicative and serve no jurisprudential purpose, weAFFIRM for the reasons stated in the district court'swell-reasoned opinion and order of October [**6] 26,2012.

Page 2535 Fed. Appx. 522, *; 2013 U.S. App. LEXIS 21912, **2;

2013 FED App. 0909N (6th Cir.)