I made two observations coming out of Grand Central Station during my morning commute last week. First, the city really stinks after a string of oppressively hot and humid summer days. Second, there appears to be a temporary taxi stand, perhaps occasioned by the ongoing construction of the new One Vanderbilt building, just outside the south entrance of Grand Central Terminal on 42nd Street under the Park Avenue Viaduct.

This latter observation was rather rudely forced upon me when the precarious position of one such cab nearly caused me to traverse its front-end Bo and Luke Duke style. The site of the mangled NYC taxi medallion fastened to the cab’s dented hood was a striking metaphor for the current state of the taxi industry given the increasing popularity of ride-sharing services like Uber and Lyft.

The plight of the cabbie was on display in a recent decision from the Honorable O. Peter Sherwood of the Manhattan Commercial Division in a case called Capital One Equip. v Deus, in which the cabbie-defendants, after defaulting on a promissory note representing more than $400,000 borrowed to purchase a taxi medallion, attempted to rest on the traditional contractual defense of impracticability or impossibility of performance in a summary proceeding under CPLR 3213.

The essence of Defendants’ claim was that “due to the economic change in the medallion and taxi industry of New York by ride sharing applications like Uber and Lyft, there is an impossible hurdle for the defendants to overcome, making the repayment of the loan impossible.”

Readers may recall from their law-school hornbook days that the impossibility defense contemplates truly unexpected circumstances. As the plaintiff-lender in the Deus case put it, “the impossibility defense . . . only excuses a party’s contractual performance where there has been destruction or obstruction by God, a superior force, or by law.”

The cabbies, however, likened their situation to the kind of critical condition contemplated by the traditional defense, describing the industry as being “on life support with little to no chance for a reversal of its current dire situation.”

“At the heart of the problems facing the NYC Taxi industry,” cried the cabbies, “is the emergence of companies such as Uber and Lyft which are exempt from the regulatory framework burdening the medallion owners.” As a result, “ridership in New York City yellow taxi cabs has dropped almost 30%” and “NYC taxi medallions, which were selling for in excess of $1,000,000 as recently as 2013, have plummeted in market value” – all of which has led to a “collapse of unprecedented proportions.”

A creative argument to be sure, but the court wasn’t buying it. Citing New York case law going back to the late 1960’s, the court ultimately held for the plaintiff-lender, finding that “performance of a contract is not excused where impossibility or difficulty of performance is occasioned only by financial difficulty or economic hardship. Economic hardship alone cannot excuse performance; the impossibility must be produced by an unanticipated event that could not have been foreseen or guarded against in the contract.”

Coming on the heels of several driver suicides in recent months, the Deus decision is just more bad news for the NYC taxi industry. While market forces created by the advent of ride-sharing services may not be “superior” enough to satisfy the impossibility defense, one thing’s for sure: it’s a difficult time to be a taxi driver in New York City.

**UPDATE**  Perhaps the cabbies are seeing a little light after all. Around the time this post was published last week, news broke that the New York City Council had tugged the reigns of the Uber/Lyft ride-sharing industry by passing minimum-wage requirements for drivers, as well as a one-year freeze on the licensing of participating vehicles in the city. The first-of-their-kind bills, particularly the cap on e-hail cars, was driven in large part by increased problems related to city-street congestion. Today, Mayor de Blasio signed the bills into law.

 

The Appellate Division, in a short but direct ruling, reminds the bench and bar that courts cannot simply “search the record” and grant summary judgment on claims or defenses that are not the subject of the motion.  It did so this time in the context of an LLC judicial dissolution action pending in the Commercial Division of Nassau Supreme in Philogene v. Duckett.  This follows another recent decision by the same court two weeks earlier in  Singletary v. Alhalai Rest., Inc., a personal injury action.

The procedural setting in Philogene is somewhat unusual.  Plaintiff and defendant are 50/50 members of Verity Associates, LLC (“Verity”), which publishes cookbooks and recipes, such as America’s Most Wanted Recipes and Tried and True Recipe Secrets, through the internet.  Plaintiff commenced the action in his “individual” capacity, as well as “suing in the right” of Verity.  In his complaint, he asserted various claims, including breaches of fiduciary duty and contract, where he sought injunctive relief, damages and an accounting.  In turn, defendant counterclaimed for judicial dissolution and moved for summary judgment on that claim.  The motion court denied defendant’s motion for dissolution since it found that the stated purpose of the entity was being met and that it was financially feasible to continue Verity.  The court then “searched the record” concluding that “no further adjustment in their interests is necessary” and dismissed the complaint.

So what is the reach of a court’s authority to “search the record” and grant reverse summary judgment?

We’re all familiar with CPLR 3212(b) which empowers a court to “search the record” and award judgment to the non-movant.  In fact, if a court searches the record and concludes the non-movant should win, then the court has both the “power” and “responsibility” to render judgment accordingly, see Merritt Vineyards, Inc. v. Windy Heights Vineyard, Inc.  This authority, however, is not boundless.  The leading case from the Court of Appeals on the scope of this power is Dunham v. Hilco Constr. Co., where Chief Judge Kaye observed that, “[a]part from considerations of simple fairness, allowing a summary judgment motion by any party to bring up for review every claim and defense asserted by every other party would be tantamount to shifting the well-accepted burden of proof on summary judgment motions.”  Some courts have expressed  frustration with this limitation (e.g.,  “Although the Court would like nothing better than to put this case out of its misery, given Dunham . . . the Court will decline defendant’s invitation to search the record.”)  But by now, the law is clear that CPLR 3212(b) permits “searching the record” in the context of summary judgment is only appropriate on issues or claims raised by the motion, and nothing more.

Notwithstanding the narrow authority courts have to “search the record” in the context of a dispositive motion, this should not be confused with a court’s authority to decide non-dispositive motions (such as discovery related) on grounds other than those advanced by the parties in the motion papers, see, e.g., Tirado v. Miller (granting discovery related motion on grounds not argued by the parties).  For a good discussion of this distinction, the First Department’s ruling in Rosenblatt v. St. George Health and Racquetball Assocs., LLC is instructive.

 

In a recent decision, Justice Scarpulla of the New York County Commercial Division declined to exercise personal jurisdiction over several Japanese entities, and even imposed sanctions on the plaintiff for attempting to relitigate its already-decided claims in New York.

Defendant ANA Aircraft Technics, Co., Ltd. (“ANA Technics”) maintained a fleet of airplanes owned and operated by its parent, All Nippon Airways, Co., Ltd. (“ANA”).  In early 2003, ANA Technics entered into a Memorandum of Understanding (“MOU”) with plaintiff Kyowa Seni, Co., Ltd. (“Kyowa”), pursuant to which Kyowa agreed, among other things, to manufacture seat covers for ANA Technics.

After Kyowa began manufacturing the seat covers, ANA Technics allegedly directed Kyowa to: (1) affix TSO C127a labels onto the seat covers, demonstrating that the seat covers had been flammability tested in accordance with U.S. Federal Aviation Administration (“FAA”) regulations, and (2) execute certificates affirming the seat covers had been flammability tested.

Kyowa alleged it initially executed the certificates because it believed the required testing was performed, but subsequently requested confirmation that ANA Technics had conducted all of the necessary fire tests and possessed the certifications necessary to obtain the FAA labels. When ANA Technics failed to respond to Kyowa’s requests, Kyowa informed ANA Technics that it would not execute any additional certificates until it received confirmation that the testing was performed.

On October 1, 2004, ANA Technics terminated the MOU, claiming that Kyowa’s work was “substandard.” Kyowa brought an action in Japan (the “Japanese Action”) alleging, among other things, that ANA Technics terminated the MOU to conceal the unlawful TSO C127a labeling. Ultimately, the Japanese Action was dismissed, and that dismissal was upheld on appeal.

Kyowa then brought an action against ANA Technics and other related entities (collectively, the “ANA Companies”) in New York Supreme Court for fraud based on the same acts and transactions set forth in the Japanese Action. The ANA Companies moved to dismiss arguing, among other things, lack of personal jurisdiction. The ANA Companies also moved for sanctions against Kyowa on the ground that Kyowa’s lawsuit was an attempt to relitigate the same claims which were dismissed in the Japanese Action.

First, Justice Scarpulla rejected Kyowa’s argument that the ANA Companies were subject to general jurisdiction merely because the defendant companies were registered in New York and appointed the Secretary of State as their agent for service of process. According to the Court, the ANA Companies’ “simple registration in New York is an insufficient ground for this Court to exercise general jurisdiction over them.” Moreover, the fact that the ANA Companies, which are all incorporated and headquartered in Japan, derive some revenue from their New York flight operations “is plainly insufficient to render the ANA Companies ‘essentially at home’ in New York”.

Second, the Court declined to exercise specific jurisdiction over the ANA Companies under either CPLR §§ 302(a)(1) (transaction of business) or 302(a)(2) (tortious acts committed within the state). Specifically, the Court held there was no “articulable nexus” or “substantial relationship” between New York and Kyowa’s claims arising out of ANA Technics’ termination of the MOU.  And, the Court noted that Kyowa failed to allege any tortious act that the ANA Companies committed in New York. Indeed, the MOU was executed in Japan, any alleged misrepresentations occurred in Japan, the seat covers were manufactured in Japan, and any alleged harm to Kyowa occurred in Japan.

Last, the Court agreed that sanctions were warranted under 22 NYCRR § 130-1.1 because the “action is meritless and without a good faith basis.” According to the Court, “there is simply no basis for a New York court to assert jurisdiction over a dispute between Japanese entities, a dispute which has no specific connection to New York or its citizens.” Importantly, the Court noted that Kyowa’s claims were already fully litigated and disposed of in the Japanese Action.

As demonstrated in Kyowa Seni, Justices in the Commercial Division have very little patience for litigants who assert frivolous arguments and attempt to relitigate previously decided claims.  While the result in this case may seem harsh to some, a full reading of the Court’s decision reveals that Justice Scarpulla gave plaintiff the opportunity to withdraw its action and avoid sanctions.  Despite fair warning, Plaintiff declined to do so.

For those unfamiliar with what today’s young kids are listening to, Aubrey “Drake” Graham is one of the most commercially-successful recording artists of all time, with multiple multiple-platinum records to his credit. For frame of reference, Drake’s recent album “Scorpion,” on its first day of release, was streamed over 300 million times on Apple Music and Spotify alone. In other words, Drake generates enough revenue to rap about his taxes: “Nowadays it’s six-figures when they tax me/ Oh well, guess you lose some and win some, long as the outcome is income.

Aspire Music Group (“Aspire”) was the fortunate record label with the foresight to enter into an Exclusive Recording Artist Agreement with Drake in 2008, when he was still relatively unknown. In 2009, Aspire provided Drake’s services to a joint venture between Cash Money Records (“Cash Money”) and Dwayne Carter’s (aka rapper “Lil Wayne”) company Young Money Entertainment (“Young Money”), in exchange for a third of net profits from Drake’s albums and a third of the copyrights, and for monthly accounting statements.

The sordid history between Cash Money and Lil Wayne is a story for another blog, but suffice it to say that by 2015, Cash Money’s principals were short on both cash and money. Lil Wayne sued Cash Money and its principals for $51 million in January 2015. Universal Music Group (“Universal”) stepped in. Since its inception in 1998, Universal Music Group (“Universal”) had served as Cash Money’s music distributor. However, as alleged by Aspire, in 2015 Universal advanced large sums of money to Cash Money and agreed to take on certain of Cash Money’s liabilities in exchange for unfettered control over a significant portion of Cash Money’s business operations.

Aspire filed a lawsuit in New York County Supreme Court in April 2017 against Cash Money and its principals, Young Money, and Universal. According to Aspire, Cash Money and Young Money had failed to pay Enough Money to Aspire for Drake-related profits, and Universal was liable as Cash Money’s alter ego.

Universal moved to dismiss, arguing that (i) Universal did not own Cash Money, so could not be its alter ego; (ii) Universal was not alleged to be the alter ego of Young Money and therefore not responsible for Young Money’s actions; (iii) Aspire’s rights are governed by a contract to which Universal was not a party; and (iv) Aspire’s allegations of domination and control are conclusory.

In an Order entered on July 3, 2018, Justice Barry R. Ostrager denied Universal’s motion to dismiss. Although recognizing that New York courts do not apply alter-ego liability on non-owners, the court found that Aspire had sufficiently alleged facts suggesting that Universal had obtained “equitable ownership” over Cash Money. Aspire had alleged that, pursuant to contracts, Universal shared offices with Cash Money, operated its website, intermingled its business affairs, and kept Cash Money undercapitalized and entirely dependent on advances and direct payments from Universal. Citing the First Department’s 2000 decision in Trans. International Corp. v. Clear View Technologies, Ltd., the court found that such allegations were sufficient to confer equitable ownership, and thus alter-ego liability, on a non-owner.

It is not clear that the Clear View Technologies decision involved a non-owner, non-director defendant. In its reply brief, Universal cited allegations in the complaint that “each invidividual defendant is and at all relevant times, was an officer, director and shareholder of Clear View.” After acknowledging a long line of New York decisions declining to impose alter ego liability against non-owners, Justice Ostrager concluded that such liability was nonetheless permitted under New York law. However, the court cited only federal cases from the Second Circuit in support.

As for Universal’s other arguments, the court held that Cash Money was liable for Young Money’s acts in furtherance of their joint venture partnership, and therefore Universal need not be alleged to be Young Money’s alter-ego. And Universal’s absence from Aspire’s contract with the joint venture was irrelevant, because Universal did not become Cash Money’s alter ego until 2015. Aspire did not know of Universal’s role at the time it entered the contract with Cash Money.

It remains to be seen whether sufficient evidence exists of Universal’s alleged control over Cash Money. Either way, be forewarned: too much contractual control over a borrower can potentially give rise to liability for that borrower’s obligations.

In May 2013, professional golfer Vijay Singh (“Singh”) brought suit against PGA Tour, an organizer of the leading men’s professional golf tours and events in North America, in Vijay Singh v. PGA Tour, Inc. PGA Tour enacted an Anti-Doping Program, which prohibits golfers from using certain substances. The list of prohibited substances was adopted from the list maintained by the World Anti-Doping Agency (“WADA”). A few years after the Anti-Doping Program was enacted, Singh began using a performance-enhancing substance, deer antler spray, for his knee and back problems.

Although Singh tested negative for any banned substance, PGA Tour, which sent the spray for testing, determined that the spray contained prohibited substances. As a result, PGA Tour concluded that Singh violated the Anti-Doping Program and, as a result, suspended him from activities related to PGA Tour’s organization. PGA Tour subsequently dropped its disciplinary action and revoked Singh’s suspension after WADA announced that deer antler spray is not a prohibited substance.

Singh sued PGA Tour in the New York County Commercial Division for, among other things, breach of the implied covenant of good faith and fair dealing, and conversion. Nearly three years later, Singh moved for partial summary judgment on his breach of the implied covenant of good faith and fair dealing cause of action. PGA Tour moved for summary judgment on the causes of action for conversion and breach of the implied covenant of good faith and fair dealing.

In May 2017, Justice Eileen Bransten granted in part and denied in part PGA Tour’s motion for summary judgment. She dismissed Singh’s claim for breach of the implied covenant of good faith and fair dealing and denied in part Singh’s motion for partial summary judgment on that claim. The Court determined there were issues of fact regarding whether PGA Tour breached the implied covenant of good faith by failing to consult with the WADA, upon which PGA Tour clearly relied in issuing its list of prohibited substances, prior to suspending Singh. The Court also concluded there were issues of fact pertaining to what, if any, damage Singh suffered as a result of his suspension and PGA Tour’s making public statements regarding his use of the substance. Justice Bransten also dismissed Plaintiff’s cause of action for conversion on the basis that PGA Tour demonstrated compliance with the Anti-Doping Program, thus establishing that PGA Tour was entitled to escrow Plaintiff’s funds from the date of Singh’s alleged violation to the end of his suspension.

Recently, the Appellate Division, First Department affirmed Justice Bransten’s decision. PGA Tour’s motion for summary judgment dismissing Singh’s cause of action for breach of the implied covenant of good faith and fair dealing was denied. The Court held that the determination as to whether PGA Tour exercised discretion “arbitrarily, irrationally or in bad faith by failing to confer with or defer to” the WADA prior to suspending Singh and making public statements regarding his use of the deer antler spray is an issue of fact for the jury to determine. The First Department relied on Dalton v. Educational Testing Serv., which held that “[w]here a contract contemplates the exercise of discretion, this pledge includes a promise not to act arbitrarily or irrationally.” Indeed, the Court went on to determine that within the obligation to exercise good faith are “promises which a reasonable person in the position of the promisee would be justified in understanding were included.” In that regard, the Court held that issues of fact exist on whether the public statements made by PGA Tour representatives implicating Singh’s substance use were a breach of the implied covenant of good faith and fair dealing, and whether and what damage Singh suffered as a result thereof. The Court also affirmed the earlier decision dismissing the claim to the extent it relied on Singh’s allegation that he was treated differently than other similarly situated professional golfers.

 Commercial Division litigators often hope that mediation will lead to a negotiated settlement, but their expectation – based on their prior experience –  is that it will not.  In this sense, mediation seems to have significant unrealized potential as a settlement tool in the Commercial Division.

 

A new proposal of the ADR Committee of the Commercial Division Advisory Council, put out for public comment on June 22nd by OCA, seeks to tap into some of that unrealized potential in a relatively simple way: by encouraging parties to Commercial Division litigation who are going to mediation to select jointly their preferred mediator.  Could this simple idea make a difference?  Evidence cited by the ADR Committee- both anecdotal and statistical – suggests that mediation is much more likely to be successful when the parties agree on their mediator.

 

In its proposal, the ADR Committee noted that joint selection of a mediator is a factor consistently cited by Bar Associations for enhancing the effectiveness of mediation in Commercial Division cases but noted that because of the current language of Commercial Division Rule 3(a) – that “[a]t any stage of the matter, the court may direct or counsel may seek the appointment of an uncompensated mediator” (emphasis added) – the process of some court annexed mediation programs is for a mediator to be appointed from a roster instead of first giving the parties the opportunity to agree upon their neutral.  The proposal quoted the analysis by the former Co-Chairs of the New York State Bar Association’s Dispute Resolution Section’s Committee on ADR in the Court on the benefit of party-appointed mediators, which explained that historically, settlement rates from the EDNY (67%) and WDNY (72%) mediation programs, which afford the parties the initial opportunity to jointly choose their mediator, are significantly higher than in the New York County Commercial Division (34%) where mediators are selected for the parties by the ADR Coordinator.

 

The ADR Committee proposal would modify Rule 3(a) to include the following sentence: “Counsel are encouraged to work together to select a mediator that is mutually acceptable, and may wish to consult any list of approved neutrals in the county where the case is pending.”  The ADR Committee also pointed out that Nassau and Westchester County Commercial Divisions currently give parties five business days to attempt to agree on a mediator before the process of appointment reverts to the court and suggested that including such a time period in Rule 3(a) “would be optimal.”  Recognizing that there are local rules governing ADR administration, the ADR Committee further recommended that instead of proposing an immediate change to the Commercial Division Rules, OCA and the Statewide ADR Coordinator consult with the ADR Administrators in each Commercial Division location to determine whether their ADR Rules can be revised to include an initial five-day period for the parties to jointly select a mediator.

 

For those interested, the public comment period is open until August 20, 2018, and comments are to either be: emailed to rulescomments@nycourts.gov; or sent to John W. McConnel, Esq., Counsel, Office of Court Administration, 25 Beaver Street, 11th Fl., New York, New York 10004.

Several weeks ago we remarked on the Commercial Division’s renowned efficiency and innovativeness when it comes to proposing and adopting new and amended practice rules. But this isn’t the only area in which the Commercial Division is on the cutting edge of innovation.

Last week, members of the Commercial and Federal Litigation Section’s Committee on the Commercial Division, along with Westchester County Commercial Division Justices Linda S. Jamieson and Gretchen Walsh, presented a CLE program entitled “21st Century Courtroom: Using Integrated Courtroom Technology in the Commercial Division.” The program featured a mock traverse hearing during which the participating judges, lawyers, and witnesses showcased in “how-to” fashion the newly-implemented Integrated Courtroom Technology (ICT) in the Commercial Division courtroom, Courtroom 105, located in the Westchester County Courthouse Annex in White Plains.

As described in a recent NYSBA Journal article co-written by former Westchester County Commercial Division Justice Alan D. Scheinkman, in January of this year, the Westchester Commercial Division became the first civil court in the state to implement ICT, “enabling all courtroom participants – judges, clerks, attorneys, litigants, witnesses, jurors, and members of the public – to take fullest advantage of modern evidence presentation systems.” The stated goal of the ICT initiative “was to obtain the latest and best courtroom technology and to tailor it to fit the needs of the Commercial Division.”

Some of the hi-tech features showcased during last week’s mock hearing included:

  • High definition monitors for the bench, counsel tables, witnesses, jurors, and the gallery, which are controlled by the judge or clerk in terms of what is displayed, when, and on which monitors.
  • An “ELMO” document camera, fixed at the podium, which can be used to display evidence on all courtroom monitors.
  • Touch-screen witness monitors, on which witnesses can annotate evidence using their finger or a stylus.  Annotated evidence can then be captured, saved, and printed for consideration by the judge and/or jury.
  • Courtroom cameras, one facing the bench and another facing counsel tables and the gallery, can be utilized for remote appearances via Skype or other video-conferencing technologies.
  • Enhanced audio-conferencing integrated into the courtroom’s sound system, complete with a “white noise” function allowing for confidential, side-bar communications between attorney and client or attorney and judge.
  • Real-time transcription of court proceedings, which can be displayed on all courtroom monitors.
  • Charging stations available at counsel tables with standard AC outlets and wireless charging for compatible smart phones and tablets.

As advised by Justice Jamieson at the outset of the program, counsel need only bring with them to court their laptop or tablet, a USB flash drive, and their own HDMI cable.  Counsel must also schedule a dry-run and equipment test in advance of the proceedings to ensure compatibility and that everything is in working order.  In short, gone are the days of hauling in banker’s boxes of trial exhibits and binders duplicated multiple times over for the judge, witnesses, and opposing counsel — at least in the Westchester County Commercial Division.

Attention all current and future Westchester County Commercial Division practitioners: If you missed the program last week but want to familiarize yourself with the ICT features in Courtroom 105 in preparation for appearing before Justices Jamieson or Walsh, never fear. The Commercial and Federal Litigation Section’s Committee on Continuing Legal Education was on hand to film the presentation, which will be spliced and packaged for distribution on NYSBA’s “CLE Online and On-Demand” site later this year.

Failure to raise an issue at the trial court level is generally considered a waiver of that issue on appeal.  Notwithstanding, state courts recognize certain circumstances when raising an issue for the first time on appeal does not prejudice the adversary because the legal issue is “apparent on the face of the record.”  26th LS Series Ltd. v. Brooks.   Some defenses may be raised even though not raised below, such as where a contract is void against public policy, see 159 MP Corp. v. Redbridge Bedford, LLC.   There are others.  For example, the Second Department in Franklin v. Hafftka held that an issue of whether fiduciary tolling applied in that action could nevertheless be reached by the appellate court “since it involves a question of law which appears on the face of the record and which could not have been avoided”.  Similarly, in Glasheen v. Long Island Diagnostic Imaging, the Appellate Division there held that an issue of “proximate cause” under the circumstances of that case presented an unavoidable issue of law that could be raised even though not preserved.

Recently, the First Department considered an appeal from a Commercial Division order and had to determine whether the doctrine of in pari delicto is one of those defenses that could be raised on appeal even though not raised below.  The answer?  Yes.

In  Matter of Wimbledon Fin. Master Fund, Ltd. v. Wimbledon Fund SPC the court affirmed Justice Shirley Werner Kornreich’s decision denying the respondent’s motion to dismiss a petition to set aside a fraudulent conveyance.  Justice Kornreich ordered respondent to pay $700,000, plus attorney’s fees.  Many issues were presented on appeal.  Of note, however, was the one defense that was not raised below:  in pari delicto.  Recognizing that in pari delicto is a defense grounded in “unclean hands” the appellate panel concluded that indeed, this is one of those defenses that may be raised for the very first time on appeal.  However, in that case, the court considered the defense but ultimately concluded that the defense does not apply to a fraudulent conveyance claim.

Preservation of issues for appeal can be a minefield for the appellate practitioner.  If on appeal, you are faced with the “it wasn’t preserved below” argument, consider whether the issue (i) presents a legal issue “apparent on the face of the record”, (ii) is an “unavoidable issue of law” presented by the record, or (iii) falls within those categories of defenses that the courts have recognized cannot be waived (e.g., public policy, unclean hands, to name a few).

 

 

On June 5, 2018, in RKA Film Financing, LLC v. Kavanaugh et al., the First Department unanimously affirmed the Supreme Court, New York County’s decision absolving the United States Secretary of the Treasury, Steven Mnuchin, of fraud claims brought by RKA Film Financing LLC (“RKA”), a media financing company.

By way of background, in 2014, RKA, a media financing company, lent money to Relativity, a global media company. RKA alleged that it was misled into believing that it was investing in a low-risk lending facility and that the funds would be used for print and advertising expenses related to the release of motion picture films by special purpose entities (“SPE”). Specifically, RKA alleged that certain representatives of Relativity caused certain SPEs to enter into a print and advertising funding agreement with RKA (“Funding Agreement”). RKA alleged that the Funding Agreement contained misrepresentations, including that the funds would be used for print and advertising expenses for specific movies, to induce RKA to invest large sums of money. However, unbeknownst to RKA, Relativity used the funds to pay for general corporate expenses.

Mnuchin joined Relativity’s board as a non-executive director and chairman in October of 2014 after his private investment firm invested $104 million in Relativity. Mnuchin also served as the CEO and Chairman of OneWest, a commercial lender that lent millions to Relativity. RKA alleged that by way of Mnuchin’s position at OneWest, he was privy to the “inner-workings” of Relativity’s finances.

On April 10, 2015, in response to RKA’s request, members of Relativity informed RKA that only “$1.7 million had actually been spent” on print and advertising. On April 13, 2015, Relativity admitted that it misappropriated RKA’s funds.

Mnuchin, who did not participate in the execution or performance of the Funding Agreement, resigned from the Relativity board on May 29, 2015. Thereafter, on May 30, 2015, after Relativity defaulted on a loan from OneWest, Mnuchin began seizing $50 million from Relativity’s account to recoup OneWest’s loan.

RKA commenced suit against several defendants, including Mnuchin, alleging that they misled RKA into lending Relativity millions of dollars for print and advertising of major movie releases. Mnuchin moved to dismiss. The Supreme Court, New York County dismissed RKA’s claims against Mnuchin.

The Court held that RKA failed to establish its claim for fraud because “absent substantive allegations that Mnuchin was responsible for, aware of, or participated in the purported fraud surrounding the Funding Agreement, liability cannot attach.” Specifically, a plaintiff seeking to recover for fraud must “set forth specific and detailed factual allegations that the defendant personally participated in, or had knowledge of any alleged fraud.” To allege a cause of action for fraud, a plaintiff must also establish causation, showing that “defendant’s misrepresentations were the direct and proximate cause of the claimed losses.” Accordingly, Justice Charles E. Ramos concluded that despite allegations that Mnuchin had inside access to the way in which Relativity used the funds, that was insufficient to establish fraud absent evidence of representations made by Mnuchin.

Similarly, Justice Ramos held that RKA’s negligent misrepresentation claim fails because of an absence of a privity-like relationship between Mnuchin and RKA. To plead a claim for negligent misrepresentation, a plaintiff must show: “(1) the existence of a special or privity-like relationship imposing a duty on the defendant to impart correct information to the plaintiff; (2) that the information was incorrect; and (3) reasonable reliance on such information.” In that regard, the Court also held that RKA failed to allege a relationship between RKA and Mnuchin or that Mnuchin owes a fiduciary duty to RKA.

Finally, Justice Ramos dismissed RKA’s fraudulent inducement claim because it was impossible for Mnuchin to have fraudulently induced RKA to enter into the Funding Agreement, as he had not joined Relativity’s board until months after RKA and Relativity entered into their agreement. To prevail on a fraudulent inducement claim, a plaintiff must establish: 1) a misrepresentation of material fact, 2) known to be false, 3) made with the intention of inducing reliance, 4) that is justifiably relied upon, and 5) results in damages. In light of that, Justice Ramos further held that the Complaint was silent as to any allegations that Mnuchin was involved in the execution of the Funding Agreement or made any representations to RKA.

The First Department came to the same conclusions as the lower court.

First, the Court held that the allegations that the board of directors of Relativity was involved in the financial transactions and the daily operations of the company are not enough to conclude that Mnuchin personally participated in, or had knowledge of, the fraud as a result of his position on Relativity’s board.

Second, the Court determined that the fact that Mnuchin became aware of the fact that RKA’s funds were used for working capital and not solely for print and advertising expenses was insufficient to establish that he was aware that misrepresentations were made by the other defendants or that the other defendants were part of the fraud scheme.

The First Department also affirmed the Supreme Court’s holding that RKA’s negligent misrepresentation claim against Mnuchin was insufficient, because RKA failed to allege any direct contact between Mnuchin and RKA, giving rise to the requisite special relationship.

 

In sum, mere knowledge or awareness of a company’s finances, without more information, is insufficient to establish that a company’s board member is liable for a fraud committed by the company.

In the opening scene of the 2008 “stoner action comedy” Pineapple Express, as Eddy Grant’s “Electric Avenue” pumps out of the car’s stereo speakers, the film’s protagonist, Dale Denton (Seth Rogen), in various disguises serves subpoenas on unsuspecting defendants. A real-world outtake from this film recently played out in the New York County Supreme Court, Commercial Division, in Lenox NY LLC v. Goldman.

The defendant, James Goldman, was alleged to have defaulted on personal guarantees for the payment of rent due to the plaintiff landlord under two commercial leases. Plaintiff commenced the action by notice of motion for summary judgment pursuant to CPLR § 3213 and attempted to serve the defendant at the Pleasant Valley, New York address listed on the guarantees.

When the process server arrived at the Pleasant Valley address on September 29, 2017, the defendant did not answer the door. “Bill” did. According to the process server’s affidavit of service, “Bill” refused to provide his last name, but claimed to be a “friend” of the defendant. A short, slender middle-aged man whose hair color is best described as “shaved,” little else is known about Bill Doe.

The defendant filed an affidavit stating that he does “not know who ‘Bill Doe’ refers to, but it is certainly not me, a member of my family, nor any of my friends, nor anyone employed by me.” The defendant was “never contacted by a person named ‘Bill’ about this action.”

Was service proper?

CPLR 308(2) provides for service upon “a person of suitable age and discretion at the actual place of business, dwelling place or usual place of abode of the person to be served,” if followed by a mailing and filing of proof of service. A process server’s affidavit which attests to delivery to “a person of suitable age and discretion” is apparently sufficient to make a prima facie showing of proper service. The burden then shifts to the defendant to submit a “sworn denial of receipt of service” that contains “specific facts to rebut the statements in the process server affidavits.” See Indymac Federal Bank FSB v Quattrochi, 99 AD3d 763 (2d Dept 2012). The matter would then be referred for an evidentiary hearing. Id.

Applying this standard, the court (Sherwood, J.) held that the defendant had failed to rebut the process server’s affidavit of service because the defendant’s affidavit did not contain enough factual detail. In addition, the defendant’s affidavit did not address the process server’s affidavit, but instead focused on whether “Bill Doe” had ever forwarded the service to defendant. The final nail in the coffin was the defendant’s assertion that he was not at home on “August 29, 2017” (a month earlier than the process server’s visit).

Many other defendants have met with similar difficulty in refuting a process server’s affidavit. For example, in Indymac, the agent allegedly served with process swore that she did not recall being served and had no record of being served. However, the disorderly records of the agent’s “Subpoena Case Record” book negated her affidavit and no evidentiary hearing was required. The Second Department also took issue with the defendant’s affidavit in C&H Import & Export, Inc. v. MNA Global, Inc., 79 AD 3d 784, for failing to include an affidavit from the individual allegedly served or a denial that the individual was an agent of the defendant. Therefore, be forewarned—absent facts specifically refuting the process server’s affidavit, such efforts are likely to be futile.