Citations
- 652 F. Supp. 2d 495
Full opinion text
OPINION AND ORDER
SHIRA A. SCHEINDLIN, District Judge.
1. INTRODUCTION
A group of investors brings this action to recover losses stemming from the liquidation of two British Virgin Islands based hedge funds in which they held shares: Lancer Offshore, Inc. (“Lancer Offshore”) and OmniFund Ltd. (together with Lancer Offshore, the “Lancer Funds” or the “Funds”). Plaintiffs bring various claims under the federal securities laws and New York common law against the former directors and administrators of the Funds, the auditor, as well as the prime broker and custodian of the Funds, Banc of America LLC (“BAS”). Relevant to this motion, plaintiffs allege that BAS aided and abetted the Funds’ management in deceiving plaintiffs as to the net asset values (“NAVs”) of the Funds by falsifying values of the Funds’ holdings. BAS now moves for summary judgment with respect to the two claims against it. For the reasons that follow, BAS’s motion for summary judgment is denied.
II. BACKGROUND
A. Facts
1. Parties and Claims
This action involves the claims of twenty investors who allege damages in connection with their purchase and retention of shares in the Lancer Funds. In July 2003, the Funds were placed into receivership in the Southern District of Florida. Plaintiffs allege that almost all of the capital invested in the Funds — totaling over $550 million — has been lost. The Lancer Funds were managed by Lancer Management Group LLC (“Lancer”) and its principal, Michael Lauer.
Lancer, through Lauer, was responsible for all investment decisions for the Funds. Nevertheless, plaintiffs claim that Lancer and Lauer provided BAS with fraudulently inflated stock and warrant prices that BAS then included in reports and account statements issued to the Funds’ accountant and administrators even though BAS knew that these prices were fraudulent.
2. Lancer and the Lancer Funds
From around 2000, the Funds’ holdings were in largely illiquid companies. Many of the securities in which Lancer invested were thinly traded or private. As a result, the securities often were subject to dramatic price volatility or had no publicly available price. The Private Placement Memoranda (“PPMs”) for the Lancer Funds contemplated that “when no market exists for an investment” or - when the Funds and the board “determine[] that the market price does not fairly represent the value of the investment,” Lauer, along with each of the Funds’ Board of Directors, would be responsible for assigning a value to the securities. The PPMs further stated that “[i]n connection with the determination of the Net Asset Value of Shares, the Board of Directors may consult with and is entitled to rely upon the advice of the Fund’s Investment Manager and Prime Broker.”
3. The Fraud and Breaches of Fiduciary Duty of Lauer and Lancer
Beginning in 2000, the Funds began to lose money, but such losses were hidden from investors through a scheme allegedly perpetrated by Lauer and Lancer. Under the scheme, known as “marking the close,” Lancer would buy substantial positions for the Lancer Funds in companies whose common shares were thinly traded on the open market, paying only pennies or less per share. This concentrated trading in an otherwise infrequently traded stock was designed to artificially increase the market price of the stock. After purchasing a large amount of the thinly traded stock over the course of a month, Lauer would purchase a comparatively small number of shares of the same companies at the end of the month at the artificially inflated price Lauer’s trades had created. In its month-end reports, Lancer would then value all of the Funds’ shares of the company at the artificially inflated month-end market price. In addition, Lancer instructed BAS to record a private stock or warrant purchase at a value substantially higher than its actual worth. BAS then reported the false values to the Funds’ accountant and administrators responsible for conducting audits and calculating NAVs, respectively.
4. BAS’s Role
From 1999 until October 2008, Lancer was a customer of BAS’s prime brokerage unit. As a prime broker, BAS cleared and settled trades for Lancer and the Funds and served as the central custodian for some of the securities held by the Funds. Account executives served as the primary liaison between BAS and its prime brokerage customers. During the time Lancer was a client of BAS, it had three account executives. Lancer’s first account executive, from 1997 until 1999, was Penn Miller-Jones. David Newman then took over as Lancer’s account executive. In June 2000, Newman left BAS to work for Lancer. Upon his departure, Andrew Pennecke replaced him as Lancer’s account executive. Pennecke remained in that role until October 2008, when the BAS prime brokerage business was sold. Roman Krawciw was a managing director and daily operations director for account executives in the prime brokerage group at BAS during the relevant period. Krawciw’s role was to supervise and monitor the performance of all BAS account executives, including Pennecke and Newman.
BAS primarily acquired information regarding the Lancer Funds’ position in two ways. The first was through BAS’s own involvement in settling a trade for Lancer Funds’ positions housed at BAS. The second was through information communicated to the account executive directly by Lancer regarding positions housed outside of BAS. By settling trades for the Lancer Funds’ positions housed at BAS, BAS received information from both Lancer and from the executing brokers with whom Lancer traded. At the end of the trading day, Lancer would relay trade data to BAS by facsimile or electronic feed, referred to at BAS as “trade sheets” or “trade blotters.” These trade sheets were addressed to Lancer’s BAS account executive — namely, Newman and then Pennecke. The account executives then gave the trade sheets to other BAS employees, called “keypunchers.” The keypunchers entered the trade data into one or both of BAS’s trade databases — -Automatic Data Processing, Inc. (“ADP”), a third-party system, and Global Investment Management (“GIM2”), BAS’s internal database. Account executives could also enter trade data into GIM2. Account executives could enter trade data, but not price data, into ADP.
BAS also kept track of Lancer’s positions that were not housed at BAS — i.e., positions housed at other prime brokers or at Lancer itself. These positions are referred to as “away” positions Away positions could consist of assets such as private placements, warrants, and unregistered or restricted shares of publicly-traded stocks. BAS, at Lancer’s request, listed the Lancer Funds’ away positions on reports available at primebroker.com, including Position Reports (described below). Because BAS was not involved in settling the Funds’ away positions, BAS relied on Lancer to provide BAS with the pertinent information regarding these trades. Such information included the name and ticker of the company, the number of shares purchased or sold, the cost of the purchase, and the current price. Lancer would send this information to the account executive, who would then input the data into GIM2. By contrast, ADP— the system used to record the Lancer Funds’ positions housed at BAS — used a pricing feed to verify the price of every publicly-traded position entered into its system. Neither BAS employees nor others could override ADP prices. Typically, where a price feed could not be verified for ADP, such as in the case of privately-placed shares, the price was to register as “N/A.”
BAS generated two types of reports for Lancer at issue here — account statements reflecting the Lancer Funds’ positions housed at BAS (“Account Statements”) and position reports reflecting both the Lancer Funds’ positions housed at BAS and those housed at other prime brokers or at Lancer itself (“Position Reports”). Data from ADP was used to create the Account Statements. Data from GIM2 was used to create the Position Reports.
Account Statements were generated monthly and yearly and were used, among other things, by the Funds’ accountant, PricewaterhouseCoopers (Netherlands Antilles) (“PwC”), for accounting purposes, including the year-end audit. As with many prime brokers, BAS also provided Lancer with the option to track its entire portfolios, including away positions, through reports available on BAS’s password protected website, “primebroker.com.” BAS’s Position Reports were among the reports that could be found on primebroker.com. As noted, GIM2 provided the values in the Position Reports. After Account Statements generated from ADP were sent out to customers, they too were posted on primebroker.com. Lancer could access primebroker.com to view its own portfolio, but had to expressly grant access to others. BAS account executives and supervisors knew that Lancer granted permission to PwC for auditing purposes and to the Lancer Funds’ administrator, Citco Fund Services (Curacao) N.V. (“CFS-Curacao”), for purposes of calculating the Lancer Funds’ NAVs. In addition to the Position Reports available on primebroker.com, Lauer fabricated position reports and provided them to investors as though they were position reports generated by BAS.
B. Procedural History
Plaintiffs filed their Second Amended Complaint on August 25, 2006, bringing federal and common law claims against, among others, BAS, PwC, the Citco Defendants, and International Fund Services (Ireland) Ltd. (“IFSI”). Plaintiffs’ claims against BAS include aiding and abetting fraud and breaches of fiduciary duty. BAS now moves for summary judgment. Plaintiffs, as well as the Citco Defendants, oppose the motion.
III. LEGAL STANDARD
A. Summary Judgment
Summary judgment is appropriate “if the pleadings, depositions, answers to interrogatories, and admissions on file, together with the affidavits, if any, show that there is no genuine issue as to any material fact and that the moving party is entitled to judgment as a matter of law.” “ ‘An issue of fact is genuine if the evidence is such that a reasonable jury could return a verdict for the nonmoving party. A fact is material if it might affect the outcome of the suit under the governing law.’ ” “[T]he burden of demonstrating that no material fact exists lies with the moving party....”
In turn, to defeat a motion for summary judgment, the non-moving party must raise a genuine issue of material fact. “When the burden of proof at trial would fall on the nonmoving party, it ordinarily is sufficient for the movant to point to a lack of evidence to go to the trier of fact on an essential element of the nonmovant’s claim.” To do so, the non-moving party must do more than show that there is “ ‘some metaphysical doubt as to the material facts,’ ” and it “ ‘may not rely on conclusory allegations or unsubstantiated speculation.’ ” However, “ ‘all that is required [from a non-moving party] is that sufficient evidence supporting the claimed factual dispute be shown to require a jury or judge to resolve the parties’ differing versions of the truth at trial.’ ”
In determining whether a genuine issue of material fact exists, the court must “constru[e] the evidence in the light most favorable to the non-moving party and draw all reasonable inferences” in that party’s favor. However, “[i]t is a settled rule that ‘[credibility assessments, choices between conflicting versions of the events, and the weighing of evidence are matters for the jury, not for the court on a motion for summary judgment.’ ” Summary judgment is therefore “appropriate only if there is no genuine issue of material fact and the moving party is entitled to judgment as a matter of law.”
B. Aiding and Abetting Common Law Fraud and Breach of Fiduciary Duty
“To establish liability for aiding and abetting fraud, the plaintiffs must show ‘(1) the existence of a fraud; (2)[the] defendant’s knowledge of the fraud; and (3) that the defendant provided substantial assistance to advance the fraud’s commission.’ ” Under New York law, a defendant must be shown to possess actual knowledge of the underlying fraud.
Aiding and abetting a breach of fiduciary duty has three elements under New York Law. “The first element is a breach by a fiduciary of obligations to another of which the aider and abettor had actual knowledge[;][t]he second element is that the defendant knowingly induced or participated in the breach; and the third element is that plaintiff suffered damage as a result of the breach.”
“The ‘knowledge’ element of an aiding and abetting fraud claim is not identical to the scienter required for the underlying fraud.” While a strong inference of scienter can be satisfied by a showing of “ ‘facts that constitute strong circumstantial evidence of ... recklessness,’ ” aiding and abetting requires a reasonable inference of actual knowledge. The “substantial assistance” requirement is satisfied where “ ‘a defendant affirmatively assists, helps conceal or fails to act when required to do so, thereby enabling the breach [or fraud] to occur.’ ” “[T]he mere inaction of an alleged aider and abettor constitutes substantial assistance only if the defendant owes a fiduciary duty directly to the plaintiff.”
IV. DISCUSSION
Both of plaintiffs’ aiding and abetting claims require evidence from which a jury could reasonably infer that BAS actually knew of Lancer’s fraudulent scheme. Because BAS did not have a duty to monitor or verify the information disseminated by Lauer and Lancer, a question of fact must be raised as to actual knowledge; evidence that BAS merely ignored obvious warning signs of fraud will not suffice. Plaintiffs must also provide sufficient evidence from which a jury could reasonably conclude that BAS substantially assisted Lauer and Lancer in their fraud. Because BAS did not have a confidential or fiduciary relationship with plaintiffs, plaintiffs must prove that BAS affirmatively assisted Lauer and Lancer in their fraud.
A. No Admission of Actual Knowledge
BAS argues that summary judgment is warranted because “every key BAS employee who worked on the Lancer account has consistently and steadfastly denied any actual knowledge of the fraud.” While it may be true that every BAS employee has denied actual knowledge, these statements are subject to an assessment of credibility. BAS further contends that because there is no email, memorandum, or other BAS document that expressly admits knowledge of the fraud, BAS is entitled to summary judgment. Such an argument ignores the remaining evidence that plaintiffs have provided which, for the reasons discussed below, would permit a reasonable jury to infer that BAS had actual knowledge of the underlying fraud. As a result, the lack of admissions of knowledge does not entitle BAS to summary judgment.
B. Actual Knowledge that the Funds’ Core Holdings Were Reported at Inflated Values 1. Position Reports
Plaintiffs provide at least six examples of instances where Pennecke or another BAS account executive was instructed to purchase or wire the funds to purchase a stock or warrant and record it in BAS’s GIM2 system at a much higher value than its purchase price. The result was that instant or near instant gains of between 1,000 and 5,000 percent were recorded in the Funds’ portfolio.
For example, on August 31, 2000&emdash;just two months after he moved from BAS to Lancer&emdash;Newman emailed Pennecke instructions to record a transaction for Lancer Offshore for the acquisition of 750,-000 privately-placed warrants for EDV Corp. exercisable at $0.01 per share and expiring on July 31, 2005. The email indicated that the warrants were acquired at no cost, but Newman instructed Pennecke to price them at ten dollars each, resulting in an immediate gain in BAS’s Position Reports of approximately 7.5 million dollars. Similarly, on March 31, 2001, Lauer faxed Pennecke a Letter of Authorization (“LOA”) instructing Pennecke to purchase five million shares of Nu-D-Zine, Inc. (“NUDZ”) “@10