Citations
- 305 F. Supp. 3d 486
Full opinion text
GEORGE B. DANIELS, United States District Judge:
The Securities and Exchange Commission ("SEC") brings this action against Defendants Yorkville Advisors, LLC ("YA"), Mark Angelo, and Edward Schinik (collectively, "Defendants"), asserting eight causes of actions in its complaint for alleged violations of: (1) Sections 17(a)(1), 17(a)(2), and 17(a)(3) of the Securities Act (against all Defendants); (2) Section 10(b) of the Exchange Act and Rule 10b-5 (against all Defendants); (3) control-person liability under Section 20(a) of the Exchange Act (against Defendant Angelo); (4) Sections 206(1) and 206(2) of the Investment Advisers Act (the "Advisers Act") (against YA and Defendant Angelo); (5) Section 206(4) and Rule 206(4)-8 of the Advisers Act (against YA and Defendant Angelo); (6) aiding and abetting liability under Section 10(b) of the Exchange Act and Rule 10b-5 (against Defendants Angelo and Schinik); (7) aiding and abetting liability under Sections 206(1) and 206(2) of the Advisers Act (against Defendants Angelo and Schinik); and (8) aiding and abetting liability under Section 206(4) and Rule 206(4)-8 of the Advisers Act (against Defendants Angelo and Schinik).
The SEC asserts that, mainly between 2008 and 2009, Defendants fraudulently misrepresented the value of fifteen of YA's investments and made a series of other fraudulent misrepresentations concerning YA's internal procedures and financial health. On December 17, 2012, Defendants moved to dismiss the SEC's complaint under Federal Rule of Civil Procedure ("FRCP") 12(b)(6). (Mot. to Dismiss, ECF No. 15.) Defendants' motion was denied. (See Mot. to Dismiss Order, ECF No. 38.) Defendants now move for summary judgment under FRCP 56, (Mot. for Summ. J. ("MSJ"), ECF No. 189), and to preclude the testimony of the SEC's expert witness under Federal Rules of Evidence 702 and 403. (Mot. to Preclude, ECF No. 186.)
Defendants' motion to preclude is GRANTED with respect to those portions of the expert's testimony that constitute opinions of value, and DENIED in all other respects.
Defendants' motion for summary judgment is GRANTED in part and DENIED in part. Defendants' motion for summary judgment is DENIED with respect to all claims against Defendant Schinik. However, the SEC may only proceed against Defendant Schinik for the Pluris Engagement Representation (see infra Section IV.C.ii.a.) Defendants' motion for summary judgment is GRANTED with respect to all claims against Defendant Angelo, except those claims requiring merely proof of negligence (Sections 17(a)(2), 17(a)(3), 206(4), and Rule 206(4)-8) (collectively, the "Negligence-Based Claims"). However, the SEC may only proceed against Defendant Angelo for the December 2 Cash Statement (see infra Section V.B.iii.) and the Pluris Engagement Representation. Defendants' motion for summary judgment is DENIED with respect to all claims against YA. However, because YA's liability derives from that of Defendants Schinik and Angelo, the SEC may only proceed against YA on the same bases, as provided for in this Order, as it may against both Defendants Schinik and Angelo.
I. FACTUAL BACKGROUND
A. Yorkville Advisors
YA is a New Jersey-based investment manager of a series of funds: (i) YA Global Investments, L.P. (the "Fund"); (ii) YA Global Investments (U.S.) LP ("LP"); and (iii) YA Offshore Global Investment, Ltd. ("Ltd."). (Defs.' Rule 56.1 Statement ("Defs.' 56.1 Stmt."), ECF No. 191 ¶ 15; Pl.'s Rule 56.1 Statement ("Pl.'s 56.1 Stmt."), ECF No. 206 ¶¶ 316, 319-20.) The Fund operates as the main fund, with LP and the Ltd. acting as the "feeder funds" that invest substantially all of their investment capital in the Fund. (Pl.'s 56.1 Stmt. ¶ 321.) Yorkville Advisors GP, LLC ("GP") functions as the general partner of the Fund and LP. (Id. ¶¶ 317, 319.)
Defendant Angelo co-founded YA in January 2001, and has been its President and portfolio manager ever since. (Id. ¶ 322; Defs.' 56.1 Stmt. ¶ 17.) As portfolio manager, Defendant Angelo "is responsible for overseeing all aspects of the Fund's day-to-day operations from deal structuring, to investment decisions, to business development to trading, while continuing his emphasis on the preservation of the Fund's capital with low volatility." (Decl. of Caryn Schecthman in Support of MSJ ("Schecthman Decl."), ECF No. 192-24, at YAHV 000620.) Defendant Angelo is also the President and the Managing Member of the GP. (Pl.'s 56.1 Stmt. ¶ 371.) In the period relevant to this action (2008 and 2009) (the "Relevant Period"), Defendant Angelo owned approximately 70% of YA and the GP. (Defs.' 56.1 Stmt. ¶ 18; Pl.'s 56.1 Stmt. ¶ 317.) Defendant Schinik joined YA in December 2005 and selves as its Chief Financial Officer, Chief Operating Officer, and Chairman of its Valuation Committee ("VC"). (Defs.' 56.1 Stmt. ¶ 19, 21.) He is also responsible for YA's accounting department and operational infrastructure. (Pl.'s 56.1 Stmt. ¶ 329.)
During the Relevant Period, other key employees of YA included Jerry Eicke (Managing Member, responsible for YA's transaction pipeline and its team of corporate finance professionals), Troy Rillo (Senior Managing Director, involved in all aspects of portfolio management, deal structuring, and business development), Les Garrett (Managing Director and Head of YA's energy group), and James Carr (Vice President assigned to YA's special situations group). (See Pls.' 561. Stmt. ¶¶ 330, 331, 333, 335.)
B. YA's Investment Strategy
YA focuses "primarily on providing alternative funding options for micro-cap and small-cap publicly traded companies, and to a lesser extent, private companies ...." (Schechtman Decl., Ex. 1 ("YA 2007 Private Placement Memorandum (PPM)"), ECF No. 192-1, at YAHV 003549.) The companies that YA generally invests in are either "start-up" companies or distressed public companies whose stocks are not regularly traded on securities exchanges. (See id. at YAHV 003564-68.) YA typically provides loans to these companies in exchange for straight equity, debt, and/or convertible instruments, including warrants, convertible debentures, and convertible preferred securities. YA profits from this strategy primarily by realizing return from the interest on the loans, and exercising its warrants and convertible instruments and selling them in the market. (See id. ) Because YA's investment strategy centers on investing in distressed businesses in exchange for illiquid securities, its business inherently entails substantial valuation and financial risk, which YA makes known to prospective investors through numerous disclosures. (See, e.g., id. )
In exchange for managing the Fund, YA receives a management fee of 2% of the net worth of the Fund, and an incentive fee of 20% of the Fund's net income, which is paid to the GP. (Pl.'s 56.1 Stmt. ¶ 326.) The Fund's net worth is equal to the value of the Fund's investments, cash and other assets, less its accrued liabilities and expenses. (YA 2007 PPM at YAHV 003556.) As a 70% owner of the GP, Defendant Angelo is entitled to receive 70% of the incentive fee. (See, e.g. , Schechtman Decl., Ex. 24 ("YA 2008 Due Diligence Questionnaire (DDQ)"), ECF No. 192-24, at YAHV 000617.) Defendant Schinik is paid a salary and a biannual discretionary bonus based on the performance of the Fund. (Id. )
During the Relevant Period, YA's investment process proceeded in the following manner: first, YA's in-house bankers would identify and source investment opportunities for the Fund, which they would then present to the Investment Committee. (Id. at YAHV 000629.) If the Investment Committee approved an opportunity, YA's legal team would conduct due diligence. (Id. ) The Executive Committee would then review the opportunity and make the final determination as to whether YA should invest in the opportunity. (Id. ) Defendants Angelo and Schinik were members of the Executive Committee, but not the Investment Committee. (Id. at YAHV 000627, 000629.)
C. The Fund's Fifteen Positions
During the Relevant Period, the Fund represented that it had investments in approximately 265 different companies ("Portfolio Companies") with close to $1 billion in assets under management. (Defs.' 56.1 Stmt. ¶ 16.) At the heart of this dispute are fifteen of those 265 positions (the "15 Positions") that the SEC claims YA fraudulently overvalued. (See generally Compl.; Pl.'s Opp'n to MSJ ("Opp'n"), ECF No. 196.) The 15 Positions accounted for approximately 7% of the total number of positions in the Fund, but 33% of the YA's total assets during the Relevant Period. (See Defs.' 56.1 Stmt. ¶¶ 24-25.)
During the Relevant Period, the majority of the Fund's investments, including the 15 Positions, were comprised of privately negotiated, customized securities ("Hard-to-Value Assets"), such as convertible debentures, that were difficult to value because they were not publicly traded and had little to no market activity. (Defs.' 56.1 Stmt. ¶¶ 39-40.) Some of the 15 Positions were secured by collateral, while others were not. (Id. ¶ 41.)
D. YA's Valuation Committee
The VC had "overall responsibility for [YA's] valuation policy, determining pricing sources, pricing practices, including any reviews and re-pricing practices to help insure fair, accurate and current valuations." (Schechtman Decl., Ex. 39 ("YA 2008 Compliance Manual"), ECF No. 192-39, at VI-4; see also Schechtman Decl., Ex. 40 ("YA 2009 Compliance Manual"), ECF No. 192-40, at VI-4.) During the Relevant Period, Defendant Schinik was the Chairman of the VC, which also included Eicke and, at different times, either David Fine or Eric Hansen (YA's Senior Legal Counsel). (Defs.' 56.1 Stmt. ¶ 56.) YA's Chief Compliance Officer, Steven Goldstein, also attended VC meetings as an observer. (Pl.'s 56.1 Stmt. ¶ 355.) Defendant Angelo, however, was not a member of the VC.
In its compliance manuals, which were provided to investors and made available for access in a data room on YA's website, YA represented that the VC "meet[s] periodically but at least once a quarterly [sic] to review and monitor [YA's] valuation of its client's accounts." (YA 2008 and 2009 Compliance Manuals at VI-4.) In its DDQs, YA also represented that the VC "meets each month to re-evaluate the asset value of the underlying collateral of each of the Fund's positions ...." (See, e.g., YA 2008 DDQ, at YAHV 000630.) The VC did, in fact, meet on a monthly basis to review at least a third of the Fund's positions, including the 15 Positions, and reviewed all of its positions at least quarterly. (Defs.' 56.1 Stmt. ¶ 63.) All VC members attended every meeting of the VC, and the VC took regular minutes of its meetings. (Id. ¶¶ 68-69.)
YA's compliance manuals also stated that the Chairman of the VC (Defendant Schinik) would "be responsible for the day-to-day monitoring of compliance with the pricing policy." (YA 2009 and 2009 Compliance Manuals at VI-4.) For securities for which independent pricing information was readily available, "[YA] w[ould] utilize one or more independent pricing services [such as a securities exchange or national securities market] ... [i]n obtaining the necessary values to calculate each client's Net Asset Value ('NAV')[.]" (Id. )
For securities for which market quotations were not available, reliable, or reflective of the security's market value, or where the agreed-upon valuation methodology for the security was not appropriate, the Chairman and/or Portfolio Manager would request a revaluation of the security. (Id. at VI-6.) Whenever such a special valuation was necessary, the "Committee [would] convene or appoint a third party valuation consultant to revalue the holdings in accordance with its policies and procedures and such factors as they deem relevant ...." (Id. at VI-6.)
E. YA's Valuation Policy for the Fifteen Positions
Prior to 2008, YA valued its assets at the "lower of cost or market [value] until gains [were] realized." (Defs.' 56.1 Stmt. ¶ 80.) This meant that YA recognized unrealized losses but not unrealized gains in the value of its securities. (Id. ¶ 81.) Upon the adoption of the Financial Accounting Standards Board Statement of Financial Accountant Standard 157-Fair Value Measurements ("FAS 157") in 2008, the Fund changed its valuation policy to value its investments at "fair [market] value." (Id. ¶ 82.) YA's updated valuation policy was reflected in YA's 2008 and 2009 financial statements. (See id. ¶ 88.) But valuing the majority of the Fund's positions, including the 15 Positions, at fair value was more of an art rather than a science, due to their low to non-existent market activity. (Pl.'s 56.1 Stmt. ¶ 378.) It required significant management judgment and estimation, which YA disclosed to investors through, for example, its financial statements. (Defs.' 56.1 Stmt. ¶¶ 87-88.) FAS 157 required YA to use the "best information [available] in the circumstances" to value these types of securities. (Id. ¶ 86.)
In valuing the Fund's positions, the VC considered information from a variety of sources, including the Fund's unrealized gains and losses reports, third-party appraisals, internal and third-party financial models, third-party valuation reports, and public filings. (Id. ¶¶ 93-94, 97.) All members of the VC had the opportunity to provide input, and valuations were agreed upon by consensus. (Id. ¶¶ 74, 76.) As a result of its review, the VC regularly impaired and wrote down many of the Fund's positions. (Id. ¶ 105.) During the Relevant Period, the VC wrote down sixty-six of its 265 different Portfolio Companies, including six of the 15 Positions. (Id ¶ 106.)
The value of the Funds' assets were listed and described in various documents distributed to investors. These included "one-pagers," which were distributed monthly and provided an overview of the Fund's previous month's performance, quarterly letters, annual audited financial statements, and DDQs, which were provided to potential as well as current investors. (Pl.'s 56.1 Stmt. ¶¶ 344-50.) These documents listed the overall value of the Funds' assets, but never listed the value of the 15 Positions individually. (See id. )
Defendant Schinik never discouraged discussion of any valuation decisions; nor did he instruct anyone to withhold material information from the VC. (Id. ¶ 78.) Defendant Schinik did not instruct anyone to delay any write downs of any positions or to inflate the valuations for any of the 15 Positions. (Id. ) Defendant Angelo, who was not on the VC, did not determine the valuations for any of the 15 Positions or any other Fund portfolio position. (Id. ¶ 72.) He also did not instruct anyone to delay any write downs or inflate the valuations for any of the 15 Positions, (Id. ¶ 73.)
F. Pluris
In order to assist the VC in valuing the Fund's Hard-to-Value Assets, YA engaged several third-party valuation consultants, including Pluris Valuation Advisors, LLC ("Pluris"). YA first retained Pluris in 2007 to value the Fund's warrant portfolio. (Id. ¶ 120.) YA rejected Pluris's first attempt at valuing the warrant portfolio because YA believed that Pluris's valuation of the warrants were too high. (Id. ¶ 121.) Pluris then adjusted its model and came back with a substantially lower valuation, which the VC accepted. (Id. ¶ 123.)
In August 2007, YA decided to expand Pluris's engagement to valuing the Fund's convertible debentures. (Id. ¶ 124.) Over the next several months, Pluris attempted to value the debentures using its warrants model. (Id. ¶ 125.) While Pluris did not provide YA with any completed valuations, it provided YA with several draft valuation reports. (Id. ¶ 126; Pl.'s 56.1 Stmt. ¶ 126.) In or around July 2008, Pluris determined that its model could not effectively derive estimations of fair value for YA's convertible debentures. (Id. ¶ 129.) Shortly thereafter, YA independently determined that Pluris's model was not effective. (Decl. of Todd Brody ("Brody Decl."), Ex. 743 ("Defendant Schinik Nov. 2010 Dep. Tr."), ECF No. 210-167, at 77:13-78:8.)
G. Valuation Research Corporation
In 2009, YA began foreclosing on some of the Fund's secured Hard-to-Value assets and exercising its rights to take over public (and some private) companies and operate them privately. (Defs.' 56.1 Stmt. ¶ 142.) As a result of this process, the Fund came to own a number of private companies ("Foreclosed Private Assets"). (Id. ¶ 143.)
In the fall of 2009, the VC decided to retain Valuation Research Corporation ("VRC"), an independent global valuation firm, to independently value certain portfolio positions, primarily the Foreclosed Assets. (Id. ¶ 146.) The retainer agreement for VRC stated that:
In arriving at its conclusions, VRC will assume and rely upon, without independent verification, the accuracy and completeness of all financial and other information and data publically available or furnished to VRC, or otherwise obtained by VRC, or discussed with VRC by knowledgeable employees and other representatives and advisors of [YA].
(Brody Decl., Ex. 36, ECF No. 207-43, at VRC0034302.)
The VC selected twelve portfolio positions for VRC to independently value, five of which were among the 15 Positions. (Defs.' 56.1 Stmt. ¶ 147.) The VC tasked Carr with being the primary "point person" responsible for providing VRC with the information and documents that it needed to provide fair value opinions. (Id. ¶¶ 149, 151.) Carr was not required to-and did not-seek approval from anyone at YA before providing information or documents to VRC. (Id. ¶ 152.) Neither Defendant Angelo nor Defendant Schinik prevented Carr, or anyone else at YA, from exchanging information or documents with VRC. (Id. ¶¶ 154-56.)
During the Relevant Period, VRC provided the VC with several valuation reports, which included discounted cash flow models, weighted average cost of capital calculations, competitor information, and various other analyses. (Id. ¶ 159.) VRC always provided its indications of fair value as a range, with low, middle, and high numbers. (Id. ¶ 161.) The VC never used the "high" valuations provided by VRC. (Id. ¶ 163.) By December 2009, VRC was valuing approximately 65% of the Fund's portfolio (in terms of dollar value of assets under management). (Id. ¶ 164.) VRC continues to serve as YA's third-party valuation consultant to this day. (Id. ¶ 164.)
H. McGladrey & Pullen LLP
During the Relevant Period, YA retained McGladrey & Pullen LLP ("McGladrey") to audit the Fund's 2008 and 2009 financial statements in accordance with Generally Accepted Auditing Standards in the United States ("GAAS"). (Id. ¶ 173.) YA's engagement letters with McGladrey stated that YA was responsible "for making all financial records and related information available to [McGladrey]." (Brody Decl., Ex. 12 ("2008 McGladrey Engagement Letter"), ECF No. 207-19, at M&P 010560; id. , Ex. 17 ("2009 McGladrey Engagement Letter"), ECF No. 207-14, at M&P 016603.) ) The letters also stated that McGladrey and YA would Inform each other of any fraud that would cause a material misstatement of the financial statements. (2008 McGladrey Engagement Letter at M&P 010559-60; 2009 McGladrey Engagement Letter at M&P 016602-03.)
As part of its auditing procedures, and in accordance with GAAS, McGladrey selected certain investments for testing, which included the majority of the 15 Positions (collectively, "Test Investments").
(See Defs.' 56.1 Stmt. ¶ 176; Schechtman Decl., Ex. 47, ECF No. 192-47, at 51:10-52:16.) McGladrey was granted access to YA's employees, including analysts/bankers, the accounting department, and third parties, including Pluris and VRC. (Defs.' 56.1 Stmt. ¶ 178.) McGladrey also received and reviewed numerous documents, including valuation memoranda, deal documents, documents relating to collateral, and others. (Id. ¶ 179.) In conducting its audits, McGladrey gained an understanding of the Fund, including its internal controls, and tested the valuation opinions reached by the VC for the Test Investments to determine whether they reflected fair value. (Id. ¶¶ 184, 186.)
After spending months on each audit, McGladrey ultimately opined that the Fund's 2008 and 2009 financial statements conformed with US Generally Accepted Accounting Principles ("GAAP"). (Id. ¶¶ 175, 197.) As a result, McGladrey issued "clean" (i.e., not qualified, adverse, or disclaimed) audit opinions. (Id. ¶ 197.) McGladrey's work papers for the two audits spanned over seven thousand pages. (Id. ¶¶ 190-91, 197.)
I. Subsequent Review by McGladrey
In August 2009, the SEC launched its investigation into YA, which ultimately gave rise to the current lawsuit. (Id. ¶ 198.) In late 2010 and early 2011, the SEC learned from McGladrey personnel that McGladrey had not been aware of: (i) the existence of certain reports about the Fund's interests in the collateral of certain Portfolio Companies; and (ii) that YA had retained Pluris to provide valuations of the Fund's convertible debentures during the Relevant Period. (Id. 1205.)
After the SEC informed McGladrey of this information in early 2011, McGladrey performed supplemental reviews and audit procedures that it believed were required under GAAS. (Id. ¶¶ 200, 205.) With respect to the collateral reports, McGladrey concluded that they did not impact its existing audit reports. (Id. ¶ 206.) With respect to Pluris, McGladrey concluded that YA's engagement of Pluris "was essentially a work in progress and did not affect the previously issued audit opinions." (Id. ¶ 207 (quoting Schechtman Decl., Ex. 90 ("Feeney Dep. Tr."), ECF No. 192-90, at 91:16-18).)
As part of its supplemental review process, McGladrey also reviewed its working papers to determine whether its work was sufficient to support its previously issued audit opinions. (Defs.' 56.1 Stmt. ¶ 208.) McGladrey concluded that it was. (Id. ¶ 211.) As a result, at the conclusion of its audit procedures in September 2011, McGladrey did not withdraw or change its audit opinions. (Id. ¶ 219.)
J. Rothestein & Kass
In 2011, YA retained a new auditing firm, Rothestein & Kass ("R&K"), to audit its 2010 financial statements. (Id. ¶ 223.) R&K's audit began with an initial review of some of McGladrey's 2009 working papers, but R&K decided not to conduct any further testing once it determined that it was sufficiently comfortable with McGladrey's audit. (See id. ¶ 224.) R&K ultimately concluded that McGladrey "had performed proper procedures in accordance with GAAS" for the 2009 audit. (Id. ¶ 226 (quoting Schechtman Decl., Ex. 95 (Natilli Dep. Tr.). ECF No. 192-95, at 19:8-20:10).)
R&K issued its audit opinion for YA's 2010 financial statements on November 8, 2011. (Defs.' 56.1 Stmt. ¶ 225.) In connection with its audit, R&K required YA to mark down a number of its investments for 2010. (Id. ¶ 227.) However, R&K did not require YA to mark down any investments for the Relevant Period. (Id. ¶ 228.)
K. SEC's Allegations
The SEC's case against Defendants centers around two categories of misrepresentations: (i) misrepresentations concerning the valuations of the Fund's 15 Positions (the "Valuation Statements"); and (ii) one-off misrepresentations concerning the Fund's internal procedures and financial health (the "One-Off Statements").
With respect to the Valuation Statements, the SEC alleges that Defendants Schinik and Angelo were engaged in a scheme to defraud third parties, particularly YA's investors and auditors, by valuing the 15 Positions at cost (i.e., face value) rather than fair value so that they could inflate the value of the 15 Positions. (See generally Compl.) The SEC alleges that, had Defendants Schinik and Angelo adhered to fair value accounting principles, they would have had to mark down the value of these positions significantly. (See id. ) In support of this claim, the SEC has offered the expert testimony of Mark Berenblut to demonstrate the extent to which the 15 Positions were overvalued. ( (Decl. of Patrick Smith in Support of Mot. to Preclude, Ex. 1 ("Berenblut Report"), ECF No. 188-1.) With respect to its One-Off Statements, the SEC claims that, during the Relevant Period, Defendants Schinik and Angelo made fraudulent misrepresentations concerning; (i) the Fund's collateral; (ii) the VC's policies and procedures; (iii) the age of the Fund's portfolio; (iv) the Fund's liquidity; and (v) Pluris's engagement by YA.
II. MOTION TO PRECLUDE
Courts may make evidentiary determinations, including determinations of the admissibility of expert testimony, on a motion for summary judgment. See Raskin v. Wyatt Co., 125 F.3d 55, 66 (2d Cir. 1997). The admissibility of expert testimony is governed by Federal Rule of Evidence 702, which provides:
A witness who is qualified as an expert by knowledge, skill, experience, training, or education may testify in the form of an opinion or otherwise if: (a) the expert's scientific, technical, or other specialized knowledge will help the trier of fact to understand the evidence or to determine a fact in issue; (b) the testimony is based on sufficient facts or data; (c) the testimony is the product of reliable principles and methods; and (d) the expert has reliably applied the principles and methods to the facts of the case.
Fed. R. Evid. 702.
Rule 702 incorporates the principles enunciated in both Daubert v. Merrell Dow Pharmaceuticals, Inc., 509 U.S. 579, 113 S.Ct. 2786, 125 L.Ed.2d 469 (1993), and Kumho Tire Co. v. Carmichael, 526 U.S. 137, 119 S.Ct. 1167, 143 L.Ed.2d 238 (1999), which collectively held that trial courts have a "gatekeeping" function to ensure that not only scientific testimony, but any testimony based on technical or other specialized knowledge, is both relevant and reliable. See Tchatat v. City of New York, 315 F.R.D. 441, 443-44 (S.D.N.Y. 2016).
In determining whether the proffered testimony is sufficiently reliable, "the district court should consider the indicia of reliability identified in Rule 702, namely, (1) that the testimony is grounded on sufficient facts or data; (2) that the testimony 'is the product of reliable principles and methods'; and (3) that 'the witness has applied the principles and methods reliably to the facts of the case.' " Amorgianos v. Nat'l R.R. Passenger Corp., 303 F.3d 256, 265 (2d Cir. 2002) (quoting Fed. R. Evid. 702 ).
The party seeking to introduce the expert testimony bears the burden of establishing by a preponderance of the evidence that the proffered testimony is admissible. Daubert, 509 U.S. at 592, 113 S.Ct. 2786. There is a presumption that expert testimony is admissible, Borawick v. Shay, 68 F.3d 597, 610 (2d Cir. 1995), and "the rejection of [such] testimony is the exception rather than the rule." Fed. R. Evid. 702 advisory committee's note to 2000 amendment. Where there is "[a] minor flaw in an expert's reasoning or a slight modification of an otherwise reliable method ... an expert's opinion [is not] per se inadmissible." Amorgianos, 303 F.3d at 267. "Disputes as to the strength of [an expert's] credentials, faults in his use of differential etiology as a methodology, or lack of textual authority for his opinion, go to the weight, not the admissibility, of his testimony." McCullock v. H.B. Fuller Co. , 61 F.3d 1038, 1044 (2d Cir. 1995) (citation omitted).
However, expert testimony that rests on merely subjective belief or unsupported speculation is inadmissible and should be precluded. Atl. Specialty Ins. v. AE Outfitters Retail Co., 970 F.Supp.2d 278, 291 (S.D.N.Y. 2013) (quoting In re Rezulin Prods. Liab. Litig., 309 F.Supp.2d 531, 543 (S.D.N.Y. 2004) ). "If a proffer of expert testimony is excluded as inadmissible pursuant to Rule 702, the court must make the summary judgment determination on a record that does not include that evidence." Molina ex rel. Colon v. BIC USA, Inc., 199 F.Supp.2d 53, 68 (S.D.N.Y. 2001) (citing Raskin, 125 F.3d at 66 ).
Berenblut produced an expert report at the SEC's request in which he opines on whether the Fund's investments were valued appropriately. In his expert report, Berenblut notes that YA valued the 15 Positions "at amounts that were materially greater than their Fair Value during some or all of the period from 2008 through 2010." (Berenblut Report at 4.)
Defendants move to preclude Berenblut's testimony as unreliable on two grounds; first, that Berenblut failed to adhere to the Uniform Standards of Professional Appraisal Practice ("USPAP") in offering an opinion of value (as opposed to an opinion of quality) regarding the accuracy of YA's valuations of its investments; and second, that Berenblut's opinions lack adequate factual foundations. (Mot. to Preclude at 14-23.) Defendants also move to preclude Berenblut from offering any testimony regarding the oil-and-gas industry due to his lack of qualification and expertise in that industry. (Id. at 24-25.) Defendants' motion to preclude is GRANTED, but only with respect to those portions of Berenblut's testimony that consist of opinions of value, rather than opinions of quality.
A. Berenblut's Compliance with USPAP
Those portions of Berenblut's testimony that consist of opinions of value are precluded because Berenblut failed to comply with USPAP standards in reaching them. Where an expert is bound by, or purports to be bound by, established standards for arriving at conclusions in a particular field, courts have looked to the extent of the expert's compliance with such standards in assessing the expert's reliability. See, e.g., Davis v. Carroll, 937 F.Supp.2d 390, 415-17 (S.D.N.Y. 2013) (assessing compliance with the USPAP in determining the reliability of an expert's testimony); In re Methyl Tertiary Butyl Ether (MTBE) Prods. Liab. Litig., MDL No. 1358 (SAS), 2008 WL 2324112, at *4 (S.D.N.Y. June 5, 2008) (same). Here, Berenblut certified that he prepared his expert report in accordance with USPAP standards, and Defendants' principal objection to Berenblut's testimony is his failure to comply with such standards. (See Berenblut Report at 177.) Accordingly, USPAP standards, and the extent of Berenblut's adherence to them, represent a logical starting point for assessing the reliability of Berenblut's report.
USPAP Standard 3 sets forth the relevant criteria an appraiser should follow when reviewing another appraiser's work. Under USPAP Standard 3, a reviewer may offer either an opinion of quality or opinion of value regarding another appraiser's work. Advisory Opinion 20 issued by the Appraisal Board offers guidance for determining whether an opinion constitutes an opinion of value or an opinion of quality. (Decl. of Dugan Bliss in Opp'n to Mot. to Preclude, Ex. 4 ("Advisory Opinion 20"), ECF No. 197-5.) An opinion of quality relates to the overall adequacy, reasonableness, or credibility of the work under review. (See id. at 137.) An opinion of value relates to a specific numeric value or range of values for the work under review. (See id. at 138.) Advisory Opinion 20 lists several examples of statements that qualify as opinions of value:
• I concur (or do not concur) with the value.
• I agree (or disagree) with the value.
• In my opinion, the value is (the same).
• In my opinion, the value is incorrect and should be $XXX.
• In my opinion, the value is too high (or too low).
(Id. )
It also lists several examples of statements that qualify as opinions of quality:
• the value opinion stated in the appraisal report is (or is not) adequately supported;
• The value conclusion is (or is not) appropriate and reasonable given the data and analyses presented;
• the value opinion stated in the report under review was (or was not) developed in compliance with applicable standards and requirements;
• the content, analyses, and conclusions stated in the report under review are (or are not) in compliance with applicable standards and requirements;
• I reject the value conclusion as lacking credibility due to the errors and/or inconsistencies found;
• the value conclusion is not appropriate due to (for example) a significant math error in the Sales Comparison Approach-if calculated properly, the value conclusion would change to $XXX;
• I accept (or approve) the appraisal report for use by XYZ bank (or agency).
(Id. at 137.)
Where a reviewer expresses an opinion of value regarding a business interest or an intangible asset, he must comply with USPAP Standards Rule 9. (Smith Decl., Ex. 3. ("USPAP Standards"), ECF No. 188-3, at 32 (Rule 3-3(c)(i) ).) Under USPAP Standards Rule 9, a reviewer must, inter alia , "be aware of, understand, and correctly employ those recognized approaches, methods and procedures that are necessary to produce credible appraisal" and "develop value opinion(s) and conclusion(s) by use of one or more [such] approaches ...." (Id. at 62 (Rule 9-1(a) ), 64 (Rule 9-4(a) ).) As Berenblut outlined in his report, (see Berenblut Report at 22-23), and testified during his deposition, (Berenblut Dep. Tr. at 158:15-159:3), the three recognized and generally accepted approaches to measuring the fair value of an asset are: (1) the market approach; (2)
the income approach; and (3) the cost approach.
In offering an opinion of quality, the reviewer must, inter alia, comply with USPAP Standards Rule 3-3, which provides that:
(a) When necessary for credible assignment results in the review of analyses, opinions, and conclusion, the reviewer must:
(i) develop an opinion as to whether the analyses are appropriate within the context of the requirements applicable to that work
(ii) develop an opinion as to whether the opinions and conclusions are credible within the context of the requirements applicable to that work; and
(iii) develop the reasons for any disagreement.
(USPAP Standards at 31 (Rule 3-3(a) ).)
Here, Berenblut states several times in his report that YA's valuations of various investments were too high and overstated, along with what the correct value should have been. For example, Berenblut states that "[YA] carried each of its investments in the 15 companies ... at amounts that were materially greater than their Fan Value during some or all of the period from 2008 through 2010," and later provides the dollar amounts by which those investments were overvalued. (Berenblut Report ¶¶ 4, 11; see also, e.g., id. ¶¶ 58 ("[T]his carrying amount overstates the Fair Value of [YA]'s investment by [x amount]."), 83, 91, 135.) In summarizing his findings, Berenblut concludes, "[YA] did not have a reasonable basis to support the amounts at which it carried these investments, and in many cases had information that indicated that the Fair Value ... was significantly less than the carrying value." (Id. ¶ 16.)
But in reaching these conclusions, Berenblut did not apply any established methodology. While Berenblut outlines the definition of fair value and the three generally accepted methodologies used to calculate it in his report, he never discusses, or even mentions, whether he used any of those methodologies, or his own methodology, in determining the dollar amount by which YA overvalued the 15 Positions. In fact, Berenblut admitted during his deposition that "[t]here [was] no generally applicable overall valuation rule that [he could] apply" to his review because his assignment was "so specific." (Berenblut Dep. Tr. at 243:23-244:18.)
On multiple occasions during his deposition, Berenblut also stated that he did not perform a separate valuation of the assets or state the precise methodology used in his report because he believed that his conclusions did not constitute opinions of value. (See, e.g., id. at 114:15-115:3, 117:25-118:9, 119:8-17, 177:18-178:2.) When asked if he had applied the income approach, cost approach, or market approach to each of the 15 Positions, Berenblut acknowledged that he had done so only "implicitly." (Id. at 176:16-177:2.) Accordingly, because Berenblut failed to apply a sufficiently reliable method in forming his opinions of value, those opinions are precluded from consideration in deciding Defendants' motion for summary judgment. See Davis, 937 F.Supp.2d at 415-18 (excluding expert's opinions of value in deciding a motion for summary judgment because expert "did not apply any established methodology" pursuant to, among other standards, USPAP.)
However, not all of Berenblut's analyses and conclusions involve opinions of value. Many of them constitute opinions of quality. For example, Berenblut states in his report that YA's 2008 valuations of its convertible debentures in BlueCreek Energy, Inc. ("BlueCreek") do not accurately reflect their fair value because several of BlueCreek's underlying assets were valued inappropriately. (See Berenblut Report ¶¶ 68-73.) Berenblut then proceeds to list four distinct pieces of information that YA failed to consider in calculating the fair value of BlueCreek's oil-and-gas reserves, including a conflicting third-party report and certain risk factors. (Id. ¶ 73.) Berenblut provides numerous other reasons throughout his report as to why "[YA] did not have a reasonable basis to support the amounts at which it carried [its various] investments." (Id. ¶ 16; see, e.g., id. ¶¶ 61, 69, 73, 101, 112, 123.)
In arriving at these conclusions, Berenblut followed the standards set forth in USPAP Standard 3 by developing an opinion as to whether YA's analyses were appropriate and credible within the context of the requirements applicable to that work, along with the reasons for any disagreement with such analyses. During his deposition, Berenblut testified: "I looked at what had been done by others. I had the benefit of the work of others and was able to determine what basis they used and able to interpret it using that information [in what would be understood as a review appraisal under USPAP Standard 3]." (Berenblut Dep. Tr. at 125:22-126:2-5.) Berenblut further explained:
I think it's applying valuation knowledge to a specific circumstance. This is-this is a specific exercise whereby a fair value has been arrived at. It is supported-it is allegedly supported by documents and other valuations, and it is looking at those and saying do they adequately support the number that has been arrived at or not; and, if not, what-what has to change in order to reflect what is in those documents.
(Id. at 241:19-242:4.)
Because Berenblut followed a reliable methodology in expressing opinions of quality that was guided by USPAP Standard 3, only those portions of Berenblut's report that constitute opinions of value lack sufficient reliability and are precluded in deciding Defendants' motion for summary judgment.
B. Berenblut's Factual Foundations
Defendants argue that even if Berenblut's opinions of quality comply with USPAP, his testimony should nonetheless be precluded because it lacks adequate factual foundations. (See Mot. to Preclude at 20-23.) Defendants point to a number of missteps that they allege Berenblut committed in arriving at his conclusions regarding YA's various investments. For example, Defendants allege that in assessing the fair value of YA's investment in Falcon Natural Gas Corp. ("Falcon"), Berenblut "admittedly did no investigation to determine whether, as a legal matter, [Falcon's oil and gas] leases had in fact expired, and did not know whether, under GAAP, the ability to control the asset, rather than legal ownership, matter for purposes of accounting for the asset." (Id. at 10.) Similarly, Defendants argue that in evaluating the fair value of YA's investment in Compass Resources, Ltd. ("Compass"), Berenblut rejected YA's valuation of its investment without being aware that YA eventually became an equity holder in Compass. (Id. at 11.)
However, these challenges go to the weight rather than the admissibility of Berenblut's opinion and, in turn, are properly reserved for the fact-finder to resolve, not this Court. See Bank Brussels Lambert v. Credit Lyonnais (Suisse) S.A. , Nos. 93 Civ. 6876 (LLM), 94 Civ. 2713 (LMM), 2000 WL 1694321, at *2 (S.D.N.Y. Nov. 13, 2000) (finding that objections to the scope of an expert's review go to the weight of the evidence rather than its admissibility); Johnson & Johnson Vision Care, Inc. v. CIBA Vision Corp., No. 04 Civ. 7369 (LTS), 2006 WL 2128785, at *7 (S.D.N.Y. July 28, 2006) (finding that objections to an expert's assumptions go to weight rather than admissibility). Courts should exclude expert testimony if it is based on assumptions that are "so unrealistic and contradictory as to suggest bad faith or to be in essence an apples and oranges comparison." Boucher v. U.S. Suzuki Motor Corp. , 73 F.3d 18, 21 (2d Cir. 1996) (citation and quotation marks omitted). However, "other contentions that the assumptions are unfounded go to the weight, not the admissibility, of the testimony." Id. (citation and quotation marks omitted). As such, Defendants' argument that Berenblut's testimony should be precluded because it lacks adequate factual foundations is unavailing.
C. Berenblut's Qualifications in the Oil-and-Gas Industry
Defendants argue that Berenblut should, at minimum, be precluded from testifying about any of the six oil-and-gas companies discussed in his report because he is not qualified to offer any opinion on oil-and-gas assets. (Mot. to Preclude at 24.) Defendants point to Berenblut's lack of formal education in areas relevant to oil-and-gas, lack of membership in any professional oil-and-gas organizations, inability to recall ever having completed his own valuation of an oil-and-gas asset, and lack of qualification to opine on technical aspects of the oil-and-gas valuation process. (Id. at 25.)
Defendants' arguments rest on an unduly narrow view of expert qualifications. Courts have liberally construed the expert qualification requirement. See United States v. Brown , 776 F.2d 397, 400 (2d Cir. 1985). An expert is not unqualified "merely because he or she does not possess experience tailored to the precise product or process that is the subject matter of the dispute." Peretz v. Home Depot, No. 08 Civ. 4106 (BMC), 671 F.Supp.2d 386, ----, 2009 WL 4281486, at *2 (E.D.N.Y. Sept. 29, 2009) (citing Stagl v. Delta Air Lines, Inc., 117 F.3d 76 (2d Cir. 1997) ) (reversing trial court's preclusion order despite the fact that the expert had no experience designing the specific kind of system at issue). "In considering a witness's practical experience and educational background as criteria for qualification, the only matter the court should be concerned with is whether the expert's knowledge of the subject is such that his opinion will likely assist the trier of fact in arriving at the truth." Valentin v. City of New York, No. 94 Civ. 3911 (CLP), 1997 WL 33323099, at *17 (E.D.N.Y. Sept. 9, 1997) (citation omitted). "As a result, one may be an expert solely based on one's practical experience notwithstanding a lack of professional education or one's formal education despite a lack of practical experience." Mahoney v. J J Weiser & Co., Inc., No. 04 Civ. 2592 (VM) (HBP), 2007 WL 3143710, at *7 (S.D.N.Y. Oct. 25, 2007).
Here, while Berenblut may not have knowledge specific to the oil-and-gas industry, Berenblut has provided his expert opinion concerning the value of businesses and securities in the oil-and-gas industry before, as indicated in his curriculum vitae. (Berenblut Report (Appendix A) at 7, 8, 10.) To the extent that Defendants are "able to point to areas where [Berenblut's] experience is less robust, those concerns go to the testimony's weight and credibility-not its admissibility." Lion Oil Trading & Tramp., Inc. v. Statoil Mktg. & Trading (US) Inc. , Nos. 08 Civ. 11315 (WHP), 09 Civ. 2081 (WHP), 2011 WL 855876, at *2 (S.D.N.Y. Feb, 28, 2011) (citation omitted); see also McCulloch, 61 F.3d at 1043 (expert's lack of experience performing or interpreting air quality studies was "properly explored on cross-examination and went to his testimony's weight or credibility-not its admissibility"). Therefore, Berenblut's testimony regarding [YA's] investments in the six oil-and-gas companies is not precluded from consideration in considering Defendants' motion for summary judgment.
III. MOTION FOR SUMMARY JUDGMENT
A. Motion for Summary Judgment Legal Standard
Summary judgment is appropriate when there is no genuine issue of material fact and the moving party is entitled to judgment as a matter of law. See Fed. R. Civ. P. 56(a). "An issue of fact is 'genuine' if 'the evidence is such that a reasonable jury could return a verdict for the nonmoving party.' " Gayle v. Gonyea, 313 F.3d 677, 682 (2d Cir. 2002) (quoting Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 248, 106 S.Ct. 2505, 91 L.Ed.2d 202 (1986) ). A fact is material when "it 'might affect the outcome of the suit under the governing law.' " Gayle, 313 F.3d at 682 (quoting Anderson, 477 U.S. at 248, 106 S.Ct. 2505 ).
The party seeking summary judgment has the burden of demonstrating that no genuine issue of material fact exists. See Marvel Characters, Inc. v. Simon, 310 F.3d 280, 286 (2d Cir. 2002). In turn, to defeat a motion for summary judgment, the non-moving party must raise a genuine issue of material fact. To do so, the non-moving party "must do more than simply show that there is some metaphysical doubt as to the material facts," Caldarola v. Calabrese, 298 F.3d 156, 160 (2d Cir. 2002) (quoting Matsushita Elec. Indus. Co. v. Zenith Radio Corp., 475 U.S. 574, 586, 106 S.Ct. 1348, 89 L.Ed.2d 538 (1986) ), and it "may not rely on conclusory allegations or unsubstantiated speculation," Fujitsu Ltd. v. Fed. Express Corp., 247 F.3d 423, 428 (2d Cir. 2001) (quoting Scotto v. Almenas, 143 F.3d 105, 114 (2d Cir. 1998) ). Rather, the non-moving party must produce admissible evidence that supports its pleadings. See First Nat'l Bank of Ariz. v. Cities Serv. Co., 391 U.S. 253, 289-90, 88 S.Ct. 1575, 20 L.Ed.2d 569 (1968). In this regard, "[t]he 'mere existence of a scintilla of evidence' supporting the non-movant's case is also insufficient to defeat summary judgment." Niagara Mohawk Power Corp. v. Jones Chem., Inc., 315 F.3d 171, 175 (2d Cir. 2003) (quoting Anderson, 477 U.S. at 252, 106 S.Ct. 2505 ).
In determining whether a genuine issue of material fact exists, the court must construe the evidence in the light most favorable to the non-moving party and draw all inferences in that party's favor. See Niagara, 315 F.3d at 175. The court's task is not to "weigh the evidence and determine the truth of the matter but to determine whether there is a genuine issue for trial." Anderson, 477 U.S. at 249, 106 S.Ct. 2505. Summary judgment is therefore "improper if there is any evidence in the record that could reasonably support a jury's verdict for the non-moving party." Marvel, 310 F.3d at 286.
B. Section 10(b), Rule 10b-5, and Section 17(a)
Section 10(b) of the Exchange Act and Rule 10b-5 prohibit fraudulent conduct in connection with the purchase or sale of a security. See 15 U.S.C. § 78j(b) ; 17 C.F.R. §§ 240.10b-5(a), (b) and (c). To state a claim under Section 10(b) and Rule 10b-5, the plaintiff must allege that defendants; "(1) made a material misrepresentation or a material omission as to which he had a duty to speak, or used a fraudulent device; (2) with scienter; (3) in connection with the purchase or sale of securities." SEC v. Monarch Funding Corp., 192 F.3d 295, 308 (2d Cir. 1999).
Section 17(a) of the Securities Act prohibits fraud in the offer or sale of securities using the mails or the instrumentalities of interstate commerce. Section 17(a) contains three subsections which forbid: (1) the direct or indirect use of any device, scheme, or artifice to defraud; (2) obtaining money or property through misstatements or omissions of material facts; and (3) any transaction or course of business that operates as a fraud or deceit upon a purchaser of securities. 15 U.S.C. §§ 77q(a). Claims under Section 17(a) of the Securities Act have essentially the same elements as those under Exchange Act Section 10(b) and Rule 10b-5. However, the mens rea elements of Section 17(a)'s three subsections differ. Claims brought under Section 17(a)(1) require proof of scienter, while claims brought under Sections 17(a)(2) or (3) only require proof of negligence. See Monarch, 192 F.3d at 308.
C. Section 206 of the Advisers Act
Section 206(1) of the Advisers Act prohibits "any investment adviser" from "employ[ing] any device, scheme, or artifice to defraud any client or prospective client," and Sections 206(2) and (4) and Rule 206(4)-8 prohibit fraudulent and deceptive practices by investment advisers. Scienter is a required element of proof for a violation of Section 206(1), but Sections 206(2) and 206(4) only require proof of negligence. SEC v. Moran , 922 F.Supp. 867, 897 (S.D.N.Y. 1996).
D. Aiding and Abetting Liability
For aiding and abetting liability for securities violations, the plaintiff must prove: "(1) the existence of a securities law violation by the primary (as opposed to the aiding and abetting) party; (2) knowledge of this violation on the part of the aider and abettor; and (3) substantial assistance by the aider and abettor in the achievement of the primary violation." SEC v. DiBella, 587 F.3d 553, 566 (2d Cir. 2009) (citation and quotation marks omitted).
"Satisfaction of the [knowledge] requirement will ... depend on the theory of primary liability[,] and ... there may be a nexus between the degree of [knowledge] and the requirement that the alleged aider and abettor render 'substantial assistance.' " Id. (citation and quotation marks omitted). However, the plaintiff must at least demonstrate recklessness to satisfy the knowledge requirement. See SEC v. Wey, 246 F.Supp.3d 894, 926 (S.D.N.Y. 2017) (noting the split in authority in this Circuit regarding whether actual knowledge or recklessness is required for aiding and abetting claims arising before the Dodd-Frank Act took effect on July 21, 2010). Mere negligence does not suffice. Id. ; see also Katz v. Realty Equities Corp. of N.Y., 406 F.Supp. 802, 805 (S.D.N.Y. 1976).
E. Control-Person Liability
To establish control-person liability under Section 20(a) of the Exchange Act, the plaintiff must prove: (1) a primary violation by the controlled person; (2) control of the primary violator by the defendant, and (3) that the defendant was a culpable participant in the controlled person's fraud. ATSI Commc'ns, Inc. v. Shaar Fund Ltd., 493 F.3d 87, 108 (2d Cir. 2007). Among the district courts in this Circuit, the weight of well-reasoned authority requires the plaintiff to prove "some level of culpable participation at least approximating recklessness in the section 10(b) context." Plumbers & Pipefitters Local Union No. 630 Pension-Annuity Trust Fund v. Arbitron Inc., 741 F.Supp.2d 474, 492 (S.D.N.Y. 2010) (citing Edison Fund v. Cogent Inv. Strategies Fund, Ltd., 551 F.Supp.2d 210, 231 (S.D.N.Y. 2008) ).
IV. MOTION FOR SUMMARY JUDGMENT: SCHINIK
Defendants' motion for summary judgment as to the SEC's claims against Defendant Schinik is DENIED. However, the SEC may only proceed against Schinik on the basis of the Pluris Engagement Representation (see infra Section IV.C.ii.a.).
Scienter is a mental state "embracing intent to deceive, manipulate, or defraud." Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 n.12, 96 S.Ct. 1375, 47 L.Ed.2d 668 (1976). At the summary judgment stage, the SEC "must produce evidence '(1) showing that the defendants had motive and opportunity to commit fraud, or (2) constituting strong circumstantial evidence of conscious misbehavior or recklessness.' " Shenk v. Karmazin, 868 F.Supp.2d 299, 305 (S.D.N.Y. 2012) (quoting Shaar Fund, Ltd. , 493 F.3d at 95 ). Motive entails "concrete benefits that could be realized by one or more of the false statements and wrongful nondisclosures alleged." Novak v. Kasaks , 216 F.3d 300, 307 (2d Cir. 2000). Opportunity consists of "the means and likely prospect of achieving concrete benefits by the means alleged." Id.
Conscious misbehavior is conduct that is "highly unreasonable" and "represents an extreme departure from the standards of ordinary care to the extent that the danger was either known to the defendant or so obvious that the defendant must have been aware of it." Kalnit v. Eichler, 264 F.3d 131, 139 (2d Cir. 2001). An "egregious refusal to see the obvious, or to investigate the doubtful" can also establish recklessness. Novak , 216 F.3d at 308 (citation and quotation marks omitted). Actual knowledge of or conscious disregard of numerous red flags can establish scienter. See Stephenson v. Citco Group Ltd., 700 F.Supp.2d 599, 622 (S.D.N.Y. 2010). However, general allegations of red flags are insufficient to demonstrate scienter. Id. at 623.
To survive a motion for summary judgment, the plaintiff must provide admissible evidence that defendants were aware of facts or had access to (i) information contradicting their statements, or (ii) facts demonstrating that defendants failed to review or check information that they had a duty to monitor. See Novak, 216 F.3d at 308. Plaintiff must identify specific information that defendants knew, had access to, or had a duty to review. See Plumbers & Steamfitters Local 773 Pension Fund v. Canadian Imperial Bank of Commerce, 694 F.Supp.2d 287, 299 (S.D.N.Y. 2010) (broad reference to raw data, without identification of specific reports or statements that defendants knew contained contrary information insufficient for scienter); Steinberg v. Ericsson LM Tel. Co., No. 07 Civ. 9615 (RPP), 2008 WL 5170640, at *13-14 (S.D.N.Y. Dec. 10, 2008) (generic identifications of adverse information insufficient). Mere allegations that a defendant knew or should have known of fraudulent conduct based solely on his or her corporate title or position are insufficient. See In re Sotheby's Holdings, Inc., Sec. Litig., No. 00 Civ. 1041 (DLC), 2000 WL 1234601, at *7 (S.D.N.Y. Aug. 31, 2000). It is also insufficient to allege that a defendant "ought to have known" of the fraud. Hart v. Internet Wire, Inc., 145 F.Supp.2d 360, 368 (S.D.N.Y. 2001) (quotation marks omitted).
A. Motive and Opportunity
The SEC advances three theories as to why Defendants Angelo and Schinik had both motive and opportunity to commit fraud. However, all three theories fail to establish scienter as a matter of law because the SEC fails to point to any evidence that Defendants Angelo or Schinik could have derived a concrete or personal benefit from their alleged fraud.
The SEC attempts to allege motive based on YA's fee structure, under which "[YA] received a Management Fee of 2% of the net worth of each fund," and "the Funds paid an incentive fee of 20% of their income (including net unrealized gains), of which 70% was paid to Defendant Angelo." (Compl. ¶¶ 23-24.) The SEC argues that "Defendants employed a fraudulent scheme to increase [YA's] net worth, and thus the fees charged ...." (Id. ¶ 25.)
However, as mentioned earlier, the Second Circuit has made it clear that motive requires a demonstration of "concrete benefits that could be realized by one or more of the false statements and wrongful nondisclosures alleged." Kalnit, 264 F.3d at 139 (internal quotation marks omitted); SEC v. Treadway, 430 F.Supp.2d 293, 331 (S.D.N.Y. 2006) ("This potential gain must be a 'concrete and personal benefit to the individual defendants resulting from the fraud' beyond desire for the corporation to appear profitable or desire to keep stock prices high to increase officer compensation.") (citing Kalnit, 264 F.3d at 139 ). The mere "desire to earn management fees ... does not suffice to allege a 'concrete and personal benefit' resulting from the fraud. To accept a generalized allegation of motive based on a desire to continue to obtain management fees would read the scienter requirement out of the statute." Edison Fund, 551 F.Supp.2d at 227 (S.D.N.Y.) (internal citation omitted).
Here, the SEC's theory of motive based merely on YA's compensation incentives plainly fails as a matter of law to establish scienter. Furthermore, Defendant Angelo's status as majority owner of YA is insufficient for purposes of establishing opportunity. See Police & Fire Ret. Sys. of Detroit v. SafeNet, Inc., 645 F.Supp.2d 210, 234-35 (scienter cannot be inferred "solely from the fact that, due to the defendants' board membership or executive managerial position, they had access to the company's internal documentation as well as any adverse information"). Therefore, the SEC cannot rely on YA's fee structure to establish scienter for their misrepresentation claims.
The SEC also alleges that Defendants Angelo and Schinik had motive and opportunity to defraud due to the economic downturn in the Relevant Period and YA's increasingly distressed financial situation. (Opp'n at 35.) The SEC claims that during this period, "YA was caught in a death spiral" in which "YA was both hemorrhaging current investor money and was also not attracting sufficient new money because its returns weren't high enough." (Id. at 36.) However, it is not enough to assert that Defendants were motivated "to raise money that [was] 'desperately needed' or necessary 'to protect the very survival' of a company." In re PXRE Grp., Ltd., Sec. Litig. , 600 F.Supp.2d 510, 532 (S.D.N.Y. 2009) (holding that "[t]he alleged motivation of a corporation to raise money to prevent the negative ramifications of a resultant drop of a credit rating or a stock price-even if such a drop would allegedly threaten the 'survival' of a company-is far too generalized (and generalizable) to allege the proper 'concrete and personal' benefit required by the Second Circuit") (citation omitted). As such, the SEC's theory of motive and opportunity based on the general financial status of the economy and YA in the Relevant Period is also insufficient as a matter of law to establish scienter.
Lastly, the SEC alleges that motive and opportunity can be inferred by Defendants Angelo and Schinik's attempts to redeem their investments from YA and "sell their own interests in the funds at [an] inflated value." (Opp'n at 37.) The SEC points to evidence that in October 2008, Defendant Angelo submitted a $10 million redemption request, while Defendant Schinik likewise made a full redemption request in January 2009. (Id. ) Cases in this Circuit have held that the "motive" showing may be met by allegations that corporate insiders allegedly engaged in misrepresentations in order to sell their own shares at inflated prices. See, e.g., ECA, Local 134 IBEW Joint Pension Trust of Chi. v. JP Morgan Chase Co., 553 F.3d 187, 198 (2d Cir. 2009) (citing Novak, 216 F.3d at 308 ). However, the SEC's theory-that Defendants Angelo and Schinik engaged in misrepresentations so that they could redeem and sell their own investments in YA at inflated prices-is belied by the record. Defendants Angelo and Schinik made their redemption requests when YA was actively marking the Fund down by approximately $33 million (or 3.4% of the NAV) in October, November, and December 2008. (Schechtman Decl. Ex. 36, ECF No. 192-36.) The theory that Defendants Angelo and Schinik were somehow attempting to redeem and sell their investments at inflated values is not supported by the circumstances in existence at the time, and, in turn, fails for purposes of establishing scienter.
B. Defendant Schinik's Scienter as to the Valuation Statements
The SEC alleges that Defendant Schinik demonstrated an intent to overvalue and misrepresent the value of the Fund's 15 Positions based on his failure to disclose "key" documents to McGladrey during its audit of YA in the Relevant Period, and his affirmative misrepresentations regarding the 15 Positions to investors and McGladrey. However, the SEC fails to offer sufficient evidence that Defendant Schinik knew, had access to, or had a duty to review (aside from the duties imposed by his corporate responsibilities) contrary information that he consciously disregarded.
First and foremost, internal and external reviews of YA's valuations of the 15 Positions never showed any evidence of fraud or deceit. YA's VC met