Facciola, et al v. Greenberg Traurig, LLP, et al

Filing 200

ORDER granting 102 Quarles' Motion to Dismiss; granting 103 Accountant Defendants' Motion to Dismiss; granting in part and denying in part 104 Greenberg's Motion to Dismiss. ORDER granting Greenberg's Motion to Dismiss Counts 4, 6, and 7 on their entirety, granting the Motion to Dismiss Counts 1 and 5 with respect to the RB Plaintiffs, and denying the Motion to Dismiss Counts 1 and 5 with respect to the ML Plaintiffs. Signed by Judge Frederick J Martone on 6/9/11.(TLJ)

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1 WO 2 3 4 5 6 IN THE UNITED STATES DISTRICT COURT 7 FOR THE DISTRICT OF ARIZONA 8 9 Robert Facciola, et al., Plaintiffs, 10 11 vs. 12 Greenberg Traurig LLP, et al., 13 Defendants. 14 ) ) ) ) ) ) ) ) ) ) ) ) No. CV-10-1025-PHX-FJM ORDER 15 16 17 This action was reassigned to the undersigned on March 31, 2011 (doc. 161). It came 18 with fully briefed, ripe motions, all of which were over-sized, repetitious, needlessly complex 19 and burdensome. They are defendant Quarles & Brady LLP’s (“Quarles”) motion to dismiss 20 (doc. 102), plaintiffs’ response (doc. 106), and Quarles’ reply (doc. 136); defendant 21 Greenberg Traurig LLP’s (“Greenberg”) motion to dismiss (doc. 104), plaintiffs’ response 22 (doc. 105), and Greenberg’s reply (doc. 135); plaintiffs’ supplemental citation in support of 23 opposition to motions to dismiss (doc. 144), Greenberg’s response (doc. 145), and Quarles’ 24 response (doc. 146); defendant Mayer Hoffman McCann, P.C., CBIZ Inc., and CBIZ MHM, 25 LLC’s (collectively “Accountant Defendants”) motion to dismiss (doc. 103), plaintiffs’ 26 response (doc. 107), and the Accountant Defendants’ reply (doc. 134). 27 28 I. Background Plaintiffs filed this action on behalf of individuals who purchased investment products 1 offered by Mortgages, Ltd. (“ML”) and Radical Bunny, LLC (“RB”) between 2005 and 2 2008. One set of plaintiffs invested through ML (“ML Plaintiffs”), which gave them pass- 3 through interests in the loans that ML made to real estate developers. The other set of 4 plaintiffs invested in RB (“RB Plaintiffs”), an entity that loaned funds to ML. Both RB and 5 ML allegedly made false and misleading statements to Plaintiffs by failing to disclose, among 6 other things, that ML had adopted a “Ponzi” scheme allowing it to hide its insolvency and 7 remain in business by finding new investors to pay existing debt. Plaintiffs seek to recover 8 their lost investments from former managers of the two companies, as well as Quarles, legal 9 counsel for RB, Greenberg, legal counsel for ML, and the Accountant Defendants, outside 10 auditors for ML 11 According to the Complaint,1 ML was a private mortgage lender based in Arizona and 12 in the business of making high-interest bridge loans to real estate developers. Complaint ¶ 13 56.2 To finance these loans, ML raised money from private investors, who initially received 14 fractional interests, or “pass-through interests” in the secured promissory notes executed by 15 the developers who had borrowed money from ML. 16 Defendants Tom Hirsch, Howard and Berta Walder, and Harish Shah formed RB in 17 1999. RB solicited investors for various real estate projects, including investors in pass- 18 through interests in loans originated by ML. Beginning in late 2005, ML’s CEO Scott Coles 19 proposed a new relationship under which RB stopped investing in ML’s pass-through 20 investments, and instead lent money directly to ML at high-interest rates. ¶ 60. This new 21 “direct-loan program” eased ML’s growing liquidity problems by providing the company 22 with what amounted to an unsecured line of credit. ¶ 61. Although RB purported to sell 23 mortgage-backed securities under documents called Directions to Purchase, the investments 24 were in reality unsecured, the securities were not registered, and the principals of RB were 25 26 27 28 1 The facts described are as alleged in the Complaint and are taken as true for purposes of these motions to dismiss. 2 All ¶ symbols refer to the Complaint. -2- 1 not licensed to sell securities—all in violation of Arizona securities law. ¶¶ 92-93. During 2 the period from September 1, 2005 through June 3, 2008, ML and RB together raised over 3 $900 million from more than 2,000 investors nationwide. ¶ 83. 4 Precipitated by the collapse of the real estate market and ML’s inability to continue 5 funding loans, ML experienced financial collapse in 2008. ML CEO Scott Coles committed 6 suicide in June 2008, and ML filed bankruptcy two weeks later. RB filed bankruptcy in 7 October 2008. ¶ 123. 8 II. The Claims 9 Plaintiffs assert six counts3 against Quarles and Greenberg: Count 1 (primary liability 10 under the Arizona Securities Act, A.R.S. §§ 44-1991(A) and 44-2003(A); Count 3 (aiding 11 and abetting violation of the Arizona Securities Act); Count 4 (aiding and abetting breach of 12 fiduciary duty); Count 5 (negligent misrepresentation); Count 6 (primary violation of the 13 Arizona Investment Management Act (AIMA”), A.R.S. § 44-3241; and Count 7 (aiding and 14 abetting violation of the AIMA). 15 Plaintiffs also name Mayer Hoffman in Count 1 (violation of Arizona Securities Act), 16 Count 3 (aiding and abetting securities fraud), Count 5 (negligent misrepresentation), Count 17 6 (violation of the AIMA), and Count 7 (aiding and abetting violation of the AIMA).4 18 Plaintiffs also allege in Count 2 that CBIZ, Inc. and CBIZ MHM, LLC, acting as statutory 19 control persons, are liable for Mayer Hoffman’s violations of the Arizona Securities Act, and 20 in Count 8 are liable for all claims against Mayer Hoffman under a joint venture theory. 21 22 23 24 25 26 27 28 3 Plaintiffs clarify that they do not assert statutory control person liability claims against Greenberg or Quarles. See Response to Greenberg Motion at 3; Response to Quarles Motion at 7 n.3. 4 Plaintiffs concede that the Complaint mistakenly lists the Accountant Defendants in Count 3, aiding and abetting securities fraud. Response at 17. Moreover, Plaintiffs do not respond to the Accountant Defendants’ motion to dismiss Count 7, aiding and abetting violation of the AIMA, thereby waiving the claim. See LRCiv 7.2(i). Therefore, Counts 3 and 7 are dismissed as against the Accountant Defendants. -3- 1 A. Arizona Securities Act, A.R.S. § 44-1991(A) 2 Greenberg, Quarles, Mayer Hoffman 3 4 The Arizona Securities Act, A.R.S. § 44-1991(A), makes it unlawful for a person, in connection with the sale or purchase of securities, to do any of the following: 5 (1) Employ any device, scheme or artifice to defraud. 6 (2) Make any untrue statement of material fact, or omit to state any material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading. 7 8 (3) Engage in any transaction, practice or course of business which operates or would operate as a fraud or deceit. 9 A.R.S. § 44-1991(A). Section 44-2001(A) creates a private cause of action for rescission or 10 damages for violations of § 44-1991(A). The Act extends private civil liability beyond the 11 parties to the sale, but only to persons “ who made, participated in or induced the unlawful 12 sale or purchase.” A.R.S. § 44-2003(A). Plaintiffs allege that Quarles, Greenberg, and 13 Mayer Hoffman are primarily liable under A.R.S. § 44-1991(A) and 44-2003(A) by 14 participating in or inducing the unlawful sale of securities to Plaintiffs. 15 To “participate in” means “to take part in something” or “have a part or share in 16 something.” Grand v. Nacchio, 222 Ariz. 498, 500-01, 217 P.3d 1203, 1205-06 (Ct. App. 17 2009) (Grand I) (quoting Standard Chartered PLC v. Price Waterhouse, 190 Ariz. 6, 21, 945 18 P.2d 317, 332 (Ct. App. 1996)). “Participation” under A.R.S. § 44-2003(A) requires 19 something more than activities that are merely “tangentially related to and concurrent with 20 [an] ongoing sale.” Standard Chartered, 190 Ariz. at 21, 945 P.2d at 332. 21 “Induce” under the Act means to “persuade” or “prevail.” Id. However, the statute 22 is not so broad as to encompass “any outsider to a securities transaction–no matter how 23 remote from the transaction–who provided information that foreseeably contributed to, and 24 thereby influenced, a buyer or seller’s decision to engage in the transaction.” Id. (emphasis 25 in original). Instead, some “purposeful persuasive effort” is required. Id. at 22, 945 P.2d at 26 333. 27 Claims arising under § 44-1991(A) must also satisfy § 44-2082(A) and (B), which 28 -4- 1 contain a heightened pleading standard similar to Rule 9(b), Fed. R. Civ. P.5 Section 44- 2 2082(A) requires that a plaintiff alleging misrepresentations or omissions “specify each 3 alleged untrue statement or material omission and the reason or reasons why the statement 4 or omission is misleading or the omission is material.” To the extent that scienter is an 5 element of the offense, a complaint must also plead with particularity “facts giving rise to a 6 strong inference that the defendant acted with the required state of mind.” Id. § 44-2082(B). 7 Scienter is an element of claims raised under A.R.S. § 44-1991(A)(1) only—not § 44- 8 1991(A)(2) or (3). See Orthologic Corp. v. Columbia HCA Healthcare Corp., 2002 WL 9 1331735, at *5 (D. Ariz. Jan. 7, 2002) (citing State v. Gunnison, 127 Ariz. 110, 113, 618 10 P.2d 604, 607 (1980)). 1. Greenberg 11 12 Greenberg was retained as legal counsel by ML in April 2006, ¶¶ 17, 131. Robert 13 Kant was the senior Greenberg lawyer responsible for the overall representation of ML ¶ 14 131. Plaintiffs allege that Greenberg participated directly or indirectly in the ML-RB 15 fraudulent scheme by preparing false and misleading private offering memoranda6 (“POMs”) 16 used to solicit investors, and by providing securities advice to both ML and RB in order to 17 further ongoing securities sales. Beginning with a May 15, 2006 POM and ending with a 18 February 11, 2008 POM, Kant prepared a series of 11 POMs without disclosing that (1) RB 19 and its managers were illegally acting as unlicensed securities dealers in violation of state 20 and federal securities law, ¶ 135; and (2) that ML’s business was rapidly failing. ¶ 211. 21 In December 2006, Kant arranged a meeting with ML and RB senior management and 22 explained that RB’s securities sales violated state and federal securities laws. Kant knew that 23 24 25 26 5 Plaintiffs do not argue that the state pleading standard is only procedural and therefore not applicable to these diversity claims. We therefore, assume, but do not decide, that the state pleading standard applies. 6 27 28 A POM, by its nature, is a solicitation to invest. They are “designed to induce outside investors” to buy securities. See FDIC v. O’Melveny & Myers, 969 F.2d 744, 746 (9th Cir. 1992). -5- 1 ML was using RB as an unlicensed dealer to sell interests in notes that ML issued to RB, ¶ 2 135, and that ML’s ongoing business was dependent on obtaining funds from RB. ¶¶ 133-34. 3 Therefore, ML management was interested in devising a strategy to remedy RB’s past and 4 continuing securities violations without disrupting ML’s source of funds. ¶ 139. In January 5 2007, as part of a remedial strategy, Kant arranged for RB to retain Quarles as counsel and 6 proposed that Tom Hirsch, RB’s manager, register as a securities dealer under ML’s 7 securities license. ¶¶ 141-42. 8 By at least mid-January 2008, Greenberg knew that ML borrowers had defaulted on 9 over $100 million in ML development loans. Greenberg lawyers prepared default notices 10 for ML to send to defaulting borrowers. ¶¶ 213-15. Kant also knew that ML was becoming 11 increasingly incapable of honoring investors’ redemption requests. He advised ML CEO 12 Scott Coles to invoke language in governing documents giving ML discretion to reject 13 redemption requests. ¶ 212. Despite his knowledge of ML’s insolvency, Kant prepared 14 POMs for two new 2008 securities offerings, without disclosing the risks associated with 15 ML’s inability to fund loan commitments, or the growing defaults on the loans held by ML. 16 ¶ 217. Instead, the POM disclosures from May 15, 2006 through February 2008 are virtually 17 identical, despite the dramatic decline in ML’s financial stability. ¶¶ 202, 205. One of the 18 2008 offerings was a new product that Kant helped structure, called a Value-to-Loan 19 Opportunity Fund (“VLT Fund”), allegedly designed to cover up ML’s inability to pay its 20 debts as they came due. ML raised over $7 million through the VLT Fund. More than 55% 21 of the money was used to pay interest on money owed to earlier ML investors. ¶ 222. 22 During 2007, ML raised approximately $127 million from its investors, and in 2008 raised 23 another $70 million, all solicited by POMs drafted by Kant. ¶ 203. 24 The Complaint also alleges that Greenberg actively participated in concealing RB and 25 ML’s fraud. In March and April 2008, Kant and a Greenberg employment lawyer devised 26 a plan to terminate ML’s managing director Robert Furst for “misrepresenting his 27 credentials” when he sought to expose Mortgages, Ltd’s securities violations.” ¶¶ 235-39. 28 We conclude that, based on these allegations and others, Plaintiffs have adequately -6- 1 pled facts showing that Greenberg either participated in or induced securities transactions in 2 violation of A.R.S. § 44-1991(A) and § 44-2003(A). We need not decide whether this 3 conduct is better classified as “participation in” or “inducement” under A.R.S. § 44-2003(A). 4 See Grand v. Nacchio, 225 Ariz. 171, 174, 236 P.3d 398, 401 (2010) (Grand II) (“[C]ourts 5 are not ordinarily required to parse whether a person violating § 44-1991(A)(3) should be 6 separately characterized under § 44-2003(A) as having ‘made,’ ‘participated in,’ or ‘induced’ 7 the unlawful purchase or sale.”). 8 In so holding, we reject Greenberg’s argument that it is entitled to immunity under the 9 safe harbor provision of A.R.S. § 44-2003(A), which provides that “[n]o person shall be 10 deemed to have participated in any sale or purchase solely by reason of having acted in the 11 ordinary course of that person’s professional capacity in connection with that sale or 12 purchase.” A.R.S. § 44-2003(A). This case is distinguishable from Standard Chartered, 190 13 Ariz. at 21, 945 P.2d at 332, where the court held that an accounting firm did not “participate 14 in” the sale of securities by preparing a negligent audit when it prepared the audit in the 15 normal course of its professional duties, and would have prepared the audit without regard 16 to securities transactions. In contrast, Greenberg was retained in large part to prepare 17 documents that were primarily designed to solicit investors. This work is not merely 18 “tangentially” related to the sale of the securities, but instead is a key component to the 19 investor solicitation. See id. We reject Greenberg’s argument that § 44-2003(A) immunizes 20 any lawyer when acting as a lawyer, even if he participates in his client’s fraudulent scheme. 21 Allegations that Greenberg knowingly assisted in ML’s fraud are obviously acts beyond the 22 ordinary course of Greenberg’s professional duties. A lawyer may not continue to provide 23 services to a client when the lawyer knows that the client is engaged in a course of conduct 24 designed to deceive others, and where it is obvious that the lawyer’s compliant legal services 25 may be a substantial factor in permitting the deceit to continue. Rules of Prof. Conduct, ER 26 1.16. Greenberg’s alleged participation in the fraudulent scheme does not fit within the safe 27 harbor of A.R.S. § 44-2003(A). 28 Greenberg also argues that it cannot be liable for nondisclosures because it had no -7- 1 duty to non-client investors. Generally, to the extent that fraud is based on nondisclosure, 2 it must be shown that the defendant had a duty to disclose. Dunahay v. Struzik, 96 Ariz. 246, 3 248, 393 P.2d 930, 932 (1963). However, a party may be liable for nondisclosures if he 4 “substantially participated” in the preparation of a materially false or misleading statement. 5 Howard v. Everex Sys., 228 F.3d 1057, 1061 n.5 (9th Cir. 2000). Plaintiffs allege that 6 Greenberg played a substantial role in drafting, preparing, and reviewing the allegedly 7 misleading statements in the ML POMs. Greenberg, as the primary drafter of the language 8 in the POMs, had a duty to exercise reasonable care to ensure that the statements it made, or 9 substantially participated in making, were not false or misleading. FDIC v. O’Melveny & 10 Myers, 969 F.2d 744, 749 (9th Cir. 1992) (“An important duty of securities counsel is to 11 make a ‘reasonable, independent investigation to detect and correct false or misleading 12 materials.’”). Therefore, to the extent Greenberg knew those statements to be false or 13 misleading Greenberg had a duty not to make them and to disclose facts undermining those 14 statements. 15 We also conclude that Plaintiffs have adequately pled sufficient facts giving rise to 16 a strong inference that Kant acted with the requisite degree of scienter. There are more than 17 sufficient well-pled facts to infer that Kant was aware of the ongoing securities violations, 18 knew the representations made in the POMs were both false and misleading, and nevertheless 19 continued to participate in the fraudulent scheme. 20 Finally, Greenberg argues that it cannot be liable to RB Plaintiffs because the 21 Complaint “contains no factual allegations that Greenberg had any involvement in the sale 22 of securities to RB investors.” We agree that the allegations with respect to Greenberg’s 23 involvement in RB securities transactions are insufficient to state a claim under A.R.S. § 44- 24 1991(A). The Complaint alleges that in December 2006, Kant warned RB managers that 25 their conduct violated federal and state securities laws, and in September 2007, Kant tried 26 to remedy RB’s ongoing securities violations by negotiating with RB a $20,000 fee to 27 prepare an RB POM. ¶¶ 164-70, 268. Kant prepared drafts of RB POMs in September and 28 October 2007 that were circulated to Quarles and senior management of both ML and RB. -8- 1 ¶ 267. However, the draft RB POMs were never completed or shared with any RB investor. 2 ¶ 172. Based on these scant allegations, we conclude that the RB Plaintiffs have failed to 3 allege sufficient conduct by Greenberg to support a claim under § 44-1991(A) or § 44- 4 2003(A). 5 6 We deny Greenberg’s motion to dismiss § 1991(A) claims by ML plaintiffs and grant Greenberg’s motion to dismiss § 1991(A) claims by RB investors. 7 2. Quarles 8 The allegations asserted against Quarles are more attenuated. Quarles was retained 9 by RB in February 2007 upon the recommendation of Greenberg lawyer Robert Kant in order 10 to address RB’s presumed securities violations. ¶ 149. Quarles quickly confirmed that RB’s 11 business raised serious securities compliance concerns. On May 2, 2007, Quarles advised 12 RB’s management (the “Hirsch Defendants”) that RB was engaging in the unlicensed sale 13 of unregistered securities and had falsely represented that RB investors had a perfected 14 security interest in ML’s assets. ¶¶ 152-53, 252. Quarles lawyers advised the Hirsch 15 Defendants to retain criminal counsel. Quarles’ lawyer Christian Hoffman told the Hirsch 16 Defendants that they should disclose the securities violations to regulators, and comply with 17 the securities registration regulations before any new sales occurred. ¶¶ 153, 254. He also 18 claims to have told RB to immediately stop selling securities until they were compliant. 19 ¶ 153. Plaintiffs dispute this allegation. ¶ 153. At all events, RB responded that it had no 20 intention of making any disclosures to investors or regulators regarding past violations, but 21 that it wanted to retain Quarles’ assistance in order to be “compliant going forward.” ¶¶ 22, 22 154-55, 255. 23 Quarles lawyers began work by attempting to structure a perfected security interest 24 for RB in ML’s assets ¶ 265, discussing plans to legalize RB’s securities offerings, ¶ 266, 25 and preparing various disclosure documents for use with future investors, ¶¶ 180, 265. For 26 example, in mid-May 2007, Quarles prepared draft interim risk disclosures to be “used with 27 new investors.” ¶ 259. Quarles lawyer Hoffman claims that he assumed, based on his 28 discussion with the Hirsch Defendants, that RB had stopped selling securities. ¶ 255. -9- 1 According to Plaintiffs, RB, on its own initiative, revised its investor forms using the interim 2 risk disclosure language drafted by Quarles. ¶ 259 3 ML CEO Scott Coles killed himself on June 2, 2008. The next day Hirsch told 4 Quarles lawyer Bornhoft that he expected a “run on the bank.” ¶ 292. On June 9, 2008, 5 “Hoffman and Hirsch both acknowledged that [RB] had continued to sell securities on behalf 6 of [ML] since the time Quarles began representing [RB] more than a year earlier.” ¶ 294. 7 On June 10, 2008, Quarles sent a letter to RB terminating their representation. ¶ 295. 8 Plaintiffs allege in Count 1 that Quarles is primarily liable under A.R.S. §§ 44- 9 1991(A) and 44-2003(A) by participating in or inducing the unlawful sale of securities to 10 Plaintiffs. To “induce” a purchase or sale of securities under § 44-2003(A), a defendant must 11 engage in a purposeful effort to “persuade” or “prevail upon” the plaintiff to purchase 12 securities. Standard Chartered, 190 Ariz. at 21, 945 P.2d at 332. Collateral involvement in 13 a securities transaction is not enough to show inducement. Id. There is no allegation that 14 Quarles ever met or communicated with any RB or ML investor, or that any document 15 prepared by Quarles was ever finalized, provided to, or relied upon by investors in deciding 16 to purchase securities. Accordingly, Plaintiffs have not sufficiently alleged that Quarles 17 “induced” a securities transaction. 18 Instead, the crux of Plaintiffs’ claim under §§ 44-1991(A) and 44-2003(A) is that 19 Quarles “participated in” RB’s illegal sales of securities. We conclude that Plaintiffs’ have 20 not asserted sufficient allegations that Quarles “took part in [an enterprise] in common with 21 others,” or “ha[d] a part in or share in something.” Standard Chartered, 190 Ariz. at 21, 945 22 P.2d at 332. 23 Plaintiffs allege that Quarles worked with Greenberg to restructure the ML-RB 24 relationship in an attempt to “legalize” the earlier securities sales by evaluating ways to 25 create a registration exemption for RB, ¶ 196, and to retroactively collateralize the earlier 26 investments. ¶¶ 277-86. Investigating ways to allow RB to conduct its business legally does 27 not amount to participation in securities fraud. 28 Quarles also “prepared documents for RB to use in soliciting new investors,” ¶ 196, - 10 - 1 reviewed “materials currently being used” by RB,” ¶ 184, and provided RB with interim 2 disclosure language “that could be used with new investors,” ¶¶ 259-60. Plaintiffs argue that 3 these allegations are sufficient to show that Quarles knew that RB was continuing to 4 unlawfully sell securities. But the question remains whether Quarles reviewed the documents 5 and drafted the language as part of its assessment of RB’s past conduct and efforts to help 6 RB become compliant going forward, or whether Quarles was knowingly participating in 7 RB’s ongoing fraud. Conclusory allegations of law, unwarranted deductions of fact, and 8 unreasonable inferences are insufficient to defeat a motion to dismiss. Cholla Ready Mix, 9 Inc. v. Civish, 382 F.3d 969, 973 (9th Cir. 2004). A complaint must allege enough facts to 10 state a claim that is “plausible on its face.” Bell Atl. Corp. v. Twombly, 550 U.S. 544, 570, 11 127 S. Ct. 1955, 1974 (2007). “The plausibility standard is not akin to a ‘probability 12 requirement,’ but it asks for more than a sheer possibility that a defendant has acted 13 unlawfully.” Ashcroft v. Iqbal, 129 S. Ct. 1937, 1949 (2009). 14 The Complaint acknowledges that Quarles was retained specifically “to address 15 [RB’s] noncompliance with the securities laws,” ¶ 141, and to help RB become “compliant 16 going forward,” ¶ 22. Allegations relying on the meaning of “new investors” or “currently 17 being used” suggest nothing more than a “sheer possibility” that Quarles was knowingly 18 participating in securities fraud. These allegations are insufficient to satisfy the heightened 19 pleading standards required for securities fraud. 20 Plaintiffs also allege that Quarles participated in the fraudulent scheme by allowing 21 RB to announce at a May 2007 investors’ meeting that Quarles was acting as securities 22 counsel for RB, and in doing so benefitted from Quarles’ name and reputation in order to 23 solicit investors. ¶ 262. These allegations do not support a claim of primary liability for 24 securities fraud. 25 Finally, Plaintiffs allege that Quarles “participated in” the fraudulent scheme by 26 failing to either blow the whistle on or withdraw from representing RB when RB refused to 27 inform investors and regulators of past and ongoing securities laws violations. ¶¶ 196-97. 28 But this argument presumes that Quarles knew that RB was continuing to sell securities - 11 - 1 unlawfully. 2 Mandatory withdrawal is required when “the attorney knows the client is engaged in 3 a course of conduct designed to deceive others, and where it is obvious that the attorney’s 4 compliant legal services may be a substantial factor in permitting the deceit to continue.” In 5 re American Cont’l Corp, 794 F. Supp. 1424, 1452 (D. Ariz. 1992). There are insufficient 6 facts pled to show that Quarles knew that RB was continuing to sell securities illegally. 7 There is no allegation, for example, that RB ever discussed with Quarles that it was still 8 selling securities or that Quarles knowingly participated in any aspect of an ongoing sale. 9 Instead, Plaintiffs plead Quarles’ knowledge by alleging that during the course of its 10 representation, Quarles was aware that the sums raised by RB for ML continued to grow. 11 ¶¶ 152, 162, 179. But the Complaint also alleges that the debt was growing by virtue of the 12 “the [$22.4 million] annual interest expense” on ML’s debt. ¶ 118. Although close, these 13 allegations are insufficient to show “a strong inference that [Quarles] acted with the required 14 state of mind.” A.R.S. § 44-2082(B) (emphasis added). 15 We conclude that the allegations asserted against Quarles do not rise to the level of 16 inducement or participation in RB’s fraudulent sale of securities. Quarles’ motion to dismiss 17 Count 1 is granted. 18 3. Mayer Hoffman 19 Mayer Hoffman, the outside auditor for ML, is alleged to have issued three clean 20 audits for the years 2005, 2006, and 2007, notwithstanding that ML was insolvent throughout 21 this period. It is alleged that ML attached the audited financials to the POMs used to solicit 22 investors, and also gave the audited financials to RB managers, but not to RB Plaintiffs. ¶ 23 99. According to Plaintiffs, the 2006 and 2007 audit reports, as well as the restated 2005 24 audit, included financial statements that falsely represented that RB’s notes were 25 collateralized by ML’s assets, ¶ 99, and that the audit reports were prepared in conformity 26 with GAAP, ¶ 24. However, none of the reports included a going-concern qualification or 27 disclosure, despite information that ML was experiencing delays in meeting its loan 28 commitments, which exceeded $130 million for 2008. ¶ 25. Three months after the 2007 - 12 - 1 audit was issued, ML was forced into bankruptcy. ¶ 26. Plaintiffs also allege that contrary 2 to GAAP, the audited financials did not disclose the contingent liability that existed because 3 of the potential criminal, regulatory, and civil litigation associated with illegal sales of 4 securities by RB on behalf of ML. ¶ 24. 5 Although Mayer Hoffman was ML’s auditor, it employed no audit CPAs. Instead all 6 of the CPAs who performed audits under the Mayer Hoffman name were CBIZ7 employees. 7 Under an administrative services agreement, CBIZ provided Mayer Hoffman with personnel, 8 equipment, office space and billing services, and in return CBIZ received 85% of Mayer 9 Hoffman’s gross revenue. ¶¶ 379, 383. 10 We first reject Mayer Hoffman’s argument that Plaintiffs’ claims must be dismissed 11 as improperly derivative. According to Mayer Hoffman, because Plaintiffs invested in LLCs 12 that in turn bought pass-through interests in ML, Plaintiffs’ claims are derivative and must 13 be brought by the LLCs on behalf of all the investors. An action is derivative “if the 14 gravamen of the complaint is injury to the corporation, or to the whole body of its stock or 15 property.” Funk v. Spalding, 74 Ariz. 219, 223, 246 P.2d 184, 186 (1952). Here, however, 16 Plaintiffs do not complain of injury to the corporation as a whole or damage arising from 17 corporate mismanagement. Instead, Plaintiffs’ losses were caused by a fraud directed against 18 them individually. The claim that one was fraudulently induced to make an investment is an 19 individual claim, properly brought in a direct action. See id. 20 Plaintiffs claim that Mayer Hoffman violated A.R.S. § 44-1991(A), and participated 21 in or induced the unlawful securities sales within the meaning of § 44-2003(A). They allege 22 that, with Mayer Hoffman’s consent, ML attached the audited financials to the POMs used 23 to solicit investors, and also gave the audited financials to RB managers. With broad, 24 conclusory statements, Plaintiffs allege that Mayer Hoffman knew that ML and RB used the 25 audit reports to solicit investors. ¶¶ 69, 301. 26 In Standard Chartered, the court held that an auditor does not “participate in” or 27 28 7 We refer to both CBIZ, Inc. and CBIZ MHM, LLC as “CBIZ.” - 13 - 1 “induce” sales even if it knows that investors are relying on its audits. 190 Ariz. at 21-22, 2 945 P.2d at 332-33. Individuals “who neither financially participate, nor promote or solicit 3 the transaction, but merely provide information that contributes to a buyer or seller’s 4 decision,” are not liable under the Act. Id. “[P]erforming professional services, without 5 actively soliciting a purchase of the underlying securities, does not give rise to liability.” 6 Moore v. Kayport Package Express, Inc., 885 F.2d 531, 537 n.5 (9th Cir. 1989). 7 Like the auditing firm in Standard Chartered, Mayer Hoffman had no active role in 8 the sale of securities beyond the performance of its professional services. There was no 9 “purposeful, persuasive effort” alleged on the part of Mayer Hoffman. Id. at 22, 945 P.2d 10 at 333. Mayer Hoffman prepared the audit reports independent of any securities transactions. 11 This collateral involvement falls within the safe harbor protection of § 44-2003(A). Mayer 12 Hoffman’s motion to dismiss Count 1 is granted. 13 B. Aiding and Abetting Securities Fraud 14 Greenberg and Quarles 15 Defendants first argue that aiding and abetting securities fraud should no longer be 16 considered a cognizable claim under Arizona law. Because the federal anti-fraud securities 17 statutes no longer allow for aiding and abetting liability, defendants argue that Arizona courts 18 would similarly conclude that such a claim is no longer viable under state law. See Central 19 Bank v. First Interstate Bank, 511 U.S. 164, 114 S. Ct. 1439 (1994). 20 The Arizona Supreme Court has recognized a cause of action for aiding and abetting 21 securities fraud under the Arizona Securities Act. State v. Superior Court, 123 Ariz. 324, 22 331, 599 P.2d 777, 784 (1979), overruled on other grounds by State v. Gunnison, 127 Ariz. 23 110, 618 P.2d 604 (1980). Neither the Arizona Supreme Court nor legislature has overturned 24 that conclusion. With respect to state claims, we are bound to follow the decisions of a 25 state’s court of last resort in interpreting state law. Sitting in diversity, we are not free to 26 develop state law based on the predictive effect of changes in federal law. 27 To state a claim for aiding and abetting fraud under Arizona law, a plaintiff must 28 plead (1) a primary violation has occurred; (2) defendant’s knowledge of or a duty of inquiry - 14 - 1 with regard to the primary violation; and (3) the defendant “substantially assisted or 2 encouraged” the primary actor’s violation. Wells Fargo Bank v. Ariz. Laborers, Teamsters 3 & Cement Masons, 201 Ariz. 474, 485, 38 P.3d 12, 23 (2002). “[M]ere knowledge of 4 suspicious activity is not enough.” Stern v. Charles Schwab & Co.., No. CV-09-1229-PHX- 5 DGC, 2010 WL 1250732 (D. Ariz. Mar. 24, 2010). However, “[a] showing of actual and 6 complete knowledge of the [fraud]” is not necessary to establish aiding and abetting liability. 7 Wells Fargo, 201 Ariz. at 488, 38 P.3d at 26. Instead, a “general awareness of the fraudulent 8 scheme” is enough. Id. Greenberg and Quarles claim that Plaintiffs have failed to 9 sufficiently allege both knowledge and substantial participation. 1. Greenberg 10 11 Plaintiffs allege that Greenberg engaged in the fraudulent securities scheme by 12 knowingly creating POMs containing false and misleading statements, drafting POMs for 13 RB, participating in the termination of a potential whistleblower, and orchestrating a plan to 14 have RB’s manager register as a securities dealer under ML’s securities license, all for the 15 purpose of hiding ML’s failing financials and keeping ML in business. ¶¶ 109-10, 142. 16 Although Greenberg characterizes its alleged conduct as “silence, inaction, and 17 nondisclosure,” Greenberg Motion at 26, the Complaint alleges that Greenberg actively and 18 substantially participated in the fraudulent scheme by preparing multiple POMs for the 19 purpose of soliciting investors. See Oster v. Kirschner, 905 N.Y.S.2d 69, 70, 72 (N.Y. 2010) 20 (holding that lawyer’s material omissions in a POM establishes both the knowledge and 21 substantial assistance elements of an aiding and abetting claim). Plaintiffs have adequately 22 alleged that Greenberg knew of and substantially assisted in the ongoing fraud. Greenberg’s 23 motion to dismiss Count 3 is denied. 24 2. Quarles 25 Plaintiffs do not plead facts sufficient to establish that Quarles knew that RB was 26 continuing to unlawfully sell securities after it began its representation. Quarles’ presence 27 at meetings and receipt of reports obliquely referring to increases in the amount of 28 outstanding loans from RB to ML, while perhaps properly characterized as suspicious - 15 - 1 activity, is not sufficient to show that Quarles knew that RB was continuing to sell securities. 2 Nor do Plaintiffs’ allegations against Quarles rise to the level of “substantial 3 assistance.” Proof of substantial assistance requires a showing that Quarles’ conduct was “a 4 substantial factor in causing the plaintiff’s harm.” In re American. Cont’l Corp., 794 F. 5 Supp. at 1434-35. The allegations in the Complaint do not show that Quarles’ conduct was 6 a substantial factor in causing Plaintiffs to purchase the securities, or that Quarles played any 7 material role in the securities transactions. There is no allegation that any Plaintiff relied on 8 any representation by Quarles in deciding to invest, or that any document prepared by 9 Quarles was ever finalized or provided to any investor. 10 Because the Complaint does not sufficiently plead that Quarles was aware of the 11 ongoing fraudulent scheme or substantially assisted or encouraged RB’s fraud, Quarles’ 12 motion to dismiss Count 3 is granted.8 13 C. Aiding and Abetting Breach of Fiduciary Duty 14 Greenberg 15 In order to state a claim for aiding and abetting breach of a fiduciary duty, Plaintiffs 16 must plead sufficient facts to show that (1) ML and RB owed a fiduciary duty to investors, 17 (2) Greenberg knew that ML and RB’s conduct constituted a breach of that fiduciary 18 relationship, and (3) Greenberg provided substantial assistance in the breach. A fiduciary 19 relationship is a “confidential relationship whose attributes include great intimacy, disclosure 20 of secrets, or intrusting of power.” Standard Chartered, 190 Ariz. at 24, 945 P.2d at 335. 21 The fiduciary “holds superiority of position over the beneficiary,” such that the beneficiary 22 agrees to substitute the will of the fiduciary for its own. Id. 23 Plaintiffs broadly allege that ML and RB owed a fiduciary duty to Plaintiffs because 24 25 26 27 28 8 Plaintiffs’ claims for aiding and abetting breach of a fiduciary duty (Count 4) and aiding and abetting violation of the Arizona Investment Management Act (Count 7) also require a showing of substantial assistance. For the same reasons that Plaintiffs have failed to state a claim against Quarles for aiding and abetting securities fraud, we dismiss Plaintiffs claims against Quarles in Counts 4 and 7. - 16 - 1 they acted as their “manager,” “agent,” or “promoter” in connection with their investments. 2 ¶ 421. While Plaintiffs allege that the Directions to Purchase represented that RB was acting 3 as the investor’s “agent” in the loan placement, ¶ 90, no specific allegation explains ML’s 4 fiduciary obligation. These conclusory labels are insufficient to show that a fiduciary 5 relationship existed between ML and RB and their investors. 6 conclusory allegations that Defendants had exclusive authority on certain matters relating to 7 the loans and superior knowledge to the individual investors are insufficient to show that 8 Greenberg knew that ML and RB’s conduct constituted a breach of a fiduciary duty. The 9 allegations are simply too attenuated to support this claim. We grant Greenberg’s motion to 10 Moreover, Plaintiffs’ dismiss the claim for aiding and abetting breach of a fiduciary duty (Count 4).9 11 D. Negligent Misrepresentation 12 Greenberg, Quarles, Mayer Hoffman 13 Negligent misrepresentation occurs when a person negligently supplies false 14 information intended for the guidance of another, and the other party justifiably relies on this 15 false information, resulting in damages. PLM Tax Certificate Program 1191-92, L.P. v. 16 Schweikert, 216 Ariz. 47, 50, 162 P.3d 1267, 1270 (Ct. App. 2007). To be liable for 17 negligent misrepresentation, the defendant must owe a duty to the injured party. Id. The 18 general rule is that a professional owes a duty to a third party only if that third party is within 19 the “limited group of persons for whose benefit and guidance [the defendant] intends to 20 supply the information or knows that the recipient intends to supply it.” Standard Chartered, 21 190 Ariz. at 29, 945 P.2d at 340 (quoting Restatement (Second) of Torts § 552(2)(a)). 22 23 Each of the Defendants contends that the negligent misrepresentation claim must be dismissed because there is no showing of duty or reliance. 1. Greenberg 24 25 26 27 28 9 We note that this conclusion is contrary to a holding in the Order dated March 31, 2011 (doc. 160 at 15). Pursuant to Rule 54(b), Fed. R. Civ. P., we now revise that ruling to conclude that Plaintiffs have insufficiently pled the existence of a fiduciary relationship between ML and RB and their investors. - 17 - 1 Greenberg is alleged to have drafted false and misleading POMS for the purpose of 2 soliciting ML investors. Therefore, ML Plaintiffs are within the limited group of persons to 3 whom Greenberg owed a duty. Plaintiffs have not sufficiently pled, however, that RB 4 Plaintiffs were the intended recipient of the misleading POMs or that RB Plaintiffs actually 5 relied on the misleading information to their detriment. Therefore, the RB Plaintiffs have 6 failed to state a claim for negligent misrepresentation against Greenberg. 7 8 9 Greenberg’s motion to dismiss the negligent misrepresentation claim (Count 5) is granted with respect to RB Plaintiffs and denied with respect to ML Plaintiffs. 2. Quarles 10 Plaintiffs allege that “Quarles negligently gathered, compiled, and authorized the 11 distribution of information used in the investor meetings and materials through which 12 Radical Bunny unlawfully offered, sold, or described securities to Plaintiffs,” ¶ 429, and that 13 Plaintiffs were injured by their “justifiable reliance upon the information,” ¶ 433. These 14 conclusory allegations are insufficient to state a claim of negligent misrepresentation against 15 Quarles. Quarles’ motion to dismiss Count 5 is granted. 16 3. Mayer Hoffman 17 Mayer Hoffman also argues that Plaintiffs are not within the “limited group of 18 persons” to whom it owed a duty, and thus the negligent misrepresentation claim must be 19 dismissed. We agree. Plaintiffs have not sufficiently pled that Mayer Hoffman knew that 20 Plaintiffs were the intended beneficiaries of the audit reports. Indeed, the Complaint 21 acknowledges that Mayer Hoffman served as ML’s general auditor for 10 years, providing 22 annual audits of ML’s financial statements for general purposes every year. ¶¶ 298-300. 23 Plaintiffs’ conclusory allegations that Mayer Hoffman “knew” that its audit reports were used 24 to attract investors, ¶¶ 304, 430, are insufficient to plead scienter. See Ashcroft v. Iqbal, 129 25 S. Ct. 1937, 1949 (2009) (“Threadbare recitals of the elements of a cause of action, supported 26 by mere conclusory statements, do not suffice.”). The only specific allegation related to 27 knowledge is Mayer Hoffman’s acknowledgment in risk-assessment documents that ML’s 28 “financial statements are used to secure additional funding and to provide evidence of - 18 - 1 financial stability to investors interested in purchasing mortgage backed securities.” ¶ 301. 2 But that allegation shows at best that Mayer Hoffman knew that “financial statements . . . 3 may be relied upon by lenders, investors, shareholders, creditors, purchasers and the like.” 4 See Restatement (Second) of Torts § 552, illus. 10. The “limited group” requirement cannot 5 be expanded so broadly as to include the general investing public. Id. 6 Even if all investors were properly within the “limited group of persons” to whom 7 Mayer Hoffman owed a duty, we would nevertheless dismiss the claim for Plaintiffs’ failure 8 to adequately allege that they relied on the audit reports in making their decision to purchase 9 the securities. RB Plaintiffs concede that they never received the audit reports. Therefore, 10 a fortiori they could not have relied on them. ML Plaintiffs allege only that reliance should 11 be presumed or inferred because their claims are based on the omission of material facts. 12 Response at 22. But this is not strictly an omissions claim. Plaintiffs assert numerous 13 allegations of affirmative misrepresentations. ¶¶ 327, 342-43, 374, 431. 14 Because Plaintiffs have not adequately pled that they are within the limited group to 15 whom Mayer Hoffman owed a duty, or that they relied on Mayer Hoffman’s 16 misrepresentations, we grant Mayer Hoffman’s motion to dismiss Count 5. 17 18 E. Arizona Investment Management Act (Counts 6 and 7) 19 Greenberg, Quarles, Mayer Hoffman 20 Plaintiffs assert primary and aiding and abetting liability claims against Greenberg, 21 Quarles, and Mayer Hoffman under the Arizona Investment Management Act (“AIMA”), 22 A.R.S. § 44-3241(A). The AIMA prohibits a person from committing fraud in connection 23 with a transaction “involving the provision of investment advisory services.” Id. Plaintiffs 24 claim that the Defendants are liable for (1) “employ[ing] any device, scheme or artifice to 25 defraud, (2) mak[ing] any untrue statement or material fact, or fail[ing] to state any material 26 fact necessary in order to make the statement made . . . not misleading, and (4) engag[ing] 27 in any transaction, practice or course of business that operates or would operate as a fraud 28 or deceit.” Id. These substantive provisions largely duplicate the claims for fraudulent - 19 - 1 conduct under the Arizona Securities Act but apply to “investment advisory services.” 2 Defendants argue that plaintiffs have failed to state a claim under the AIMA because 3 none of them provided investment advisory services to anyone, either directly or indirectly. 4 We agree. The Complaint alleges only generally that Plaintiffs “received investment 5 advisory services” from Greenberg through the POMs, from Mayer Hoffman through audit 6 reports, and from Quarles through “incomplete and misleading information.” ¶¶ 438, 441. 7 Plaintiffs’ claim for aiding and abetting a violation of the AIMA mirrors these allegations. 8 ¶ 445. These conclusory allegations are insufficient to meet the heightened pleading 9 requirements of Rule 9(b) for claims brought under § 44-3241(A). See Williamson v. 10 Allstate Ins. Co., 204 F.R.D. 641, 644 (D. Ariz. 2001). The Complaint does not identify the 11 transactions involving investment advisory services, or allege that any Defendant received 12 compensation for investment advice. The Complaint alleges that ML and RB sold securities, 13 not investment advice. The AIMA does not fit the allegations raised in this Complaint. 14 Counts 6 and 7 are dismissed as against all Defendants. 15 F. Statutory Control Liability (Count 2); Joint Venture Liability (Count 8) 16 CBIZ, Inc., CBIZ MHM, LLC 17 Plaintiffs allege that CBIZ, Inc. and CBIZ MHM, LLC (collectively CBIZ) are 18 “jointly and severally liable” for Mayer Hoffman’s violation of the Arizona Securities Act, 19 A.R.S. § 44-1991(A), because they controlled Mayer Hoffman within the meaning of A.R.S. 20 § 44-1999(B). They also assert, under a joint venture theory, that CBIZ is liable for Mayer 21 Hoffman’s violations of the Arizona Securities Act, the AIMA and negligent 22 misrepresentation. Because we have dismissed all primary liability claims against Mayer 23 Hoffman, these vicarious liability claims also fail. We grant the Accountant Defendants’ 24 motion to dismiss Count 2 and 8. III. Conclusion 25 26 27 28 Based on the foregoing IT IS ORDERED GRANTING Quarles’ motion to dismiss (doc. 102). IT IS FURTHER ORDERED GRANTING the Accountant Defendants’ motion to - 20 - 1 2 dismiss (doc. 103). IT IS FURTHER ORDERED GRANTING IN PART AND DENYING IN PART 3 Greenberg’s motion to dismiss (doc. 104). 4 Greenberg’s motion to dismiss Counts 4, 6, and 7 in their entirety, GRANTING the motion 5 to dismiss Counts 1 and 5 with respect to the RB Plaintiffs, and DENYING the motion to 6 dismiss Counts 1 and 5 with respect to the ML Plaintiffs. 7 DATED this 9th day of June, 2011. 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 - 21 - Specifically, it is ordered GRANTING

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