Eclectic Properties East, LLC et al v. The Marcus & Millichap Company et al

Filing 321

TENTATIVE ORDER regarding motions to dismiss. Signed by Judge Whyte on 4/12/2011. (rmwlc2, COURT STAFF) (Filed on 4/12/2011)

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E-FILED on 4/12/2011

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IN THE UNITED STATES DISTRICT COURT

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FOR THE NORTHERN DISTRICT OF CALIFORNIA

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SAN JOSE DIVISION

United States District Court
For the Northern District of California

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ECLECTIC PROPERTIES EAST, LLC, a
California Limited Liability Company, et al.,

No. C-09-00511 RMW

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Plaintiffs,
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v.

[TENTATIVE] ORDER GRANTING
MOTIONS TO DISMISS

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THE MARCUS & MILLICHAP COMPANY,
a California corporation, et al.,

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[Re Docket Nos. 267, 268, 269, 271, 272, 273
and 277]

Defendants.

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On June 11, 2010, the court heard six motions to dismiss the First Amended Complaint

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("FAC") brought by, or joined by, all defendants who have appeared in this action, as well as a

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motion to strike plaintiffs' jury demand. This is plaintiffs' second attempt to plead a RICO claim

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arising out of the seventeen plaintiffs' individual purchases of twenty-two commercial real estate

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properties in New York, Pennsylvania, Georgia and Florida in distinct transactions. The alleged

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scheme involves thirty-one defendants; the FAC now numbers 231 pages and 820 paragraphs. The

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FAC continues to assert the same seven causes of action:

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1.

RICO (18 U.S.C. §1962(c)-(d));

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2.

Negligent Misrepresentation;

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3.

Fraudulent Concealment under California Civil Code §1710;

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4.

Unjust enrichment and imposition of a constructive trust;

[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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5.

Money had and received;

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6.

Violation of California Business and Professions Code Section 17500; and

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7.

Violation of California Business and Professions Code Section 17200.

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The court's subject matter jurisdiction is based solely on the RICO claim.
Plaintiffs' overarching theory is that defendants defrauded each of the plaintiffs into investing
in a commercial property that was subject to a long-term lease. As described by plaintiffs, the

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scheme took place in three stages: first, defendant Paul Morabito or Jack Waelti (or one of their

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respective companies) sold a commercial property to an entity (generally, one of the Sovereign

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defendants) at an inflated price and immediately entered into a leaseback transaction, with the lease

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United States District Court
For the Northern District of California

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payments set significantly higher than fair rental value. These long-term leases made each property

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appear to be worth significantly more than its alleged true market value. Second, the purchasing

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entity then marketed the properties for sale (through the Broker defendants) to real estate investors,

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such as plaintiffs, using allegedly sham appraisals (only some of which are alleged to have been

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prepared by defendant PGP) to support the artificially high values. Third, after a plaintiff's

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purchase, the underlying tenant walked away from the lease, causing the value of the property to

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plummet. Plaintiffs contend that through this scheme, each plaintiff was defrauded into paying

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significantly more than the properties were actually worth.

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Various defendants moved to dismiss the original complaint for failure to state a claim. On

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January 29, 2010, the court granted the motions and found that the complaint did not plead the RICO

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claim with the required degree of particularity. Specifically, the complaint did not allege facts

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demonstrating that each defendant conducted or participated in the conduct of the enterprise's

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affairs, i.e. participated in the operation or management of the enterprise itself, nor did it allege facts

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demonstrating a common purpose. The court also found that the complaint's alter ego allegations

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were unsupported by facts and therefore deficient. The other asserted claims, which relied on the

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same underlying fraudulent conduct, failed to provide the degree of factual specificity required by

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Rule 9(b). The court granted the motions to dismiss with leave to amend.

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The present motions seek to dismiss the FAC filed on March 22, 2010. Once again, the
RICO claim is the primary target of the motions, although the state law claims are also challenged.
[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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Most of the arguments raised by the parties revisit arguments made in the earlier motions to dismiss,

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with the defendants making the additional argument that plaintiffs have not cured the defects

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identified by the court's prior order, and that because plaintiffs have already been given one

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opportunity to amend, this time the dismissal should be with prejudice.

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At the hearing on the motions, the court asked plaintiffs' counsel to identify new factual

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allegations in the First Amended Complaint that addressed the deficiencies of the dismissed

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complaint. Following argument, the court took the motions under submission and informed counsel

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that the matter would likely be set for further argument after the court analyzed the FAC and the

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parties' motions. The court has now done so and tentatively finds that the FAC lacks the pleading

United States District Court
For the Northern District of California

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specificity required for fraud-based RICO claims. The RICO claim of the FAC is therefore

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tentatively dismissed with leave to make a final attempt to successfully amend.

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FACTS
Plaintiffs allege a purported conspiracy involving 32 co-conspirators and 22 properties–14

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containing Jiffy Lube franchises run by defendant Paul Morabito or companies he allegedly

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controlled, and eight containing Church's Chicken franchises run by Jack Waelti or companies he

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allegedly controlled. Plaintiffs allege that Sovereign Investment financed Morabito and Waelti's

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purchases of Jiffy Lube and Church's Chicken franchises, respectively. ¶ 97. Next,

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[e]ither immediately thereafter, or simultaneously, Morabito and Waelti (through one
of their alter ego companies) then sold each property to one of the Sovereign Entities
and immediately leased back the business at an artificially high lease rate. The saleleaseback agreements between the Sovereign Entities and Morabito's and Waelti's
alter ago entities were, in each case, set at rental rates that were dramatically higher
(usually by more than 50%) than the reasonable, fair market, arms-length rental rate.

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¶ 98. Plaintiffs allege that the rents Morabito and Waelti agreed to pay were more "more than
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double the fair market lease rates for similarly situated franchises." ¶ 3. Since "commercial rental
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property is appraised using the value of any long-term lease on the property, the sham leases had the
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direct and intended effect of inflating the apparent values of the Properties significantly higher than
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their legitimate fair market values." ¶ 4. Moreover, plaintiffs allege that the brokers who facilitated
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their purchases told them that the "listing price of the property was based on the rental income that
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would be generated from the property–not the value of the underlying property itself." ¶ 240. After
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months or years of paying rent, Morabito and Waelti allegedly defaulted, and plaintiffs were forced
[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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to re-rent the properties at much lower rates. ¶¶ 7-8, 27. In particular, plaintiffs allege that "[o]nce

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the sales were completed and Defendants had Plaintiffs' monies in hand, all Defendants had to do to

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accomplish their goal of defrauding Plaintiffs was to walk away." ¶ 108. Yet plaintiffs also allege

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that the tenants operated the businesses for up to four years, ¶ 108, and that tenants paid $8,192,938

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in rent to the plaintiffs before walking away from the leases. ¶ 27.

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United States District Court
For the Northern District of California

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The FAC describes the commercial investments involved in this case as "Sub-Credit Tenant
Leases" or "SCTLs." Plaintiffs define SCTLs as follows:
The seller/business operator sells the real estate at a multiple of the actual market
value and the seller/business operator usually agrees to pay an even greater multiple
of market rent to compensate the purchaser for the risk that the seller/business
operator will default on the SCTL. If the seller/business operator defaults, the
purchasers is typically only able to re-let the property at a small portion of what the
SCTL had agreed to pay. In SCTLs, "Sub-Credit" refers to the fact that the tenant has
not been rated by a credit rating agency, and there is thus no available independent
analysis of the risk of bankruptcy and default.

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¶ 12. Plaintiffs go on to explain the basis of their claims as follows:
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Had Defendants revealed to Plaintiffs that they were selling complex real estate/debt
hybrids in which a significant portion of the value of the purchase price was secured
not by real estate, but only by a promise to pay from a Sub-Credit grade debtor,
Plaintiffs never would have purchased the Properties.

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¶ 14. Plaintiffs do not, however, allege that any defendant gave them any reason to believe that the

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tenants had been rated by a credit agency.

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REQUEST FOR JUDICIAL NOTICE

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Defendants request judicial notice of the purchase sale agreements and leases for the

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properties at issue in deciding defendants' motion to dismiss. In particular, defendants wish to

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introduce portions of the agreements in which plaintiffs purportedly disclaimed relying on anything

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anyone told them about the properties in question, and instead promised to rely only on their own

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independent investigation, as well as portions of the agreements disclosing risks inherent in

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purchasing the properties.

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In ruling on a Rule 12(b)(6) motion to dismiss, the court "may generally consider only

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allegations contained in the pleadings, exhibits attached to the complaint, and matters properly

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subject to judicial notice." Outdoor Media Group, Inc. v. City of Beaumont, 506 F.3d 895, 899 (9th

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Cir. 2007) (citation and quotation marks omitted). The court may take judicial notice of matters of
[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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public record, but it "may not take judicial notice of a fact that is 'subject to reasonable dispute.'" Lee

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v. City of Los Angeles, 250 F.3d 668, 689 (9th Cir. 2001) (citing Fed. R. Evid. 201(b)). Under the

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"incorporation by reference" doctrine, a court may also review documents "'whose contents are

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alleged in a complaint and whose authenticity no party questions, but which are not physically

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attached to the [plaintiff's] pleading.'" Knievel v. ESPN, 393 F.3d 1068, 1076 (9th Cir. 2005)

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(quoting In re Silicon Graphics Inc. Sec. Litig., 183 F.3d 970, 986 (9th Cir. 1999)). That doctrine

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also applies "to situations in which the plaintiff's claim depends on the contents of a document, the

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defendant attaches the document to its motion to dismiss, and the parties do not dispute the

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authenticity of the document, even though the plaintiff does not explicitly allege the contents of that

United States District Court
For the Northern District of California

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document in the complaint." Id.
Defendants contend that the court should take judicial notice of the documents under the

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incorporation by reference doctrine, because the FAC purportedly references the purchase sale

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agreements and leases numerous times and pleads that every single one of the transactions at issue is

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governed by the purchase sale agreements and leases. They cite allegations that defendants entered

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into "sham leases with dummy corporations" for each property; that "[i]n every single one of the 22

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transactions" at issue, defendants failed to honor the terms of the leases; and that plaintiffs entered

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into the purchase sale agreements "in reliance on [defendants'] representations." FAC ¶¶ 2, 110,

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790. But these references do not constitute allegations of the contents of the documents; at most,

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they refer to the fact that sale and lease contracts existed, and they do not support taking judice

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notice of the contents of the contracts and leases in the context of a motion to dismiss.

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Defendants further argue that the court should take judicial of the purchase sale agreements

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and leases because plaintiffs' claims "depend[] on the content" of the documents. Knievel v. ESPN,

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393 F.3d at 1076. If plaintiffs had not signed the purchase sale agreements and assumed the leases,

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defendants contend, there would be no litigation. The documents are plainly relevant to the ultimate

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determination of liability. Nonetheless, unlike a claim for breach of contract, fraud-based claims do

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not legally depend on the contracts governing allegedly fraudulent transactions. To consider the

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documents would impermissibly convert this motion to one for summary judgment. The request for

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judicial notice is denied.
[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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DISCUSSION
In evaluating the complaint, the court must identify and eliminate allegations "that, because

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there are no more than conclusions, are not entitled to the assumption of truth." Ashcroft v. Iqbal,

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129 S. Ct. 1937, 1950 (2009). The court must then evaluate the remaining, non-conclusory

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allegations "to determine if they plausibly suggest an entitlement to relief." Id. at 1951. "A claim

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has facial plausibility when the plaintiff pleads factual content that allows the court to draw the

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reasonable inference that the defendant is liable for the misconduct alleged." Id. at 1949.

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Federal Rule of Civil Procedure 9(b) requires that fraud be pled with particularity, and

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provides: "In all averments of fraud . . ., the circumstances constituting fraud . . . shall be stated with

United States District Court
For the Northern District of California

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particularity. Malice, intent, knowledge, and other condition of mind of a person may be averred

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generally." Rule 9(b) "requires the identification of the circumstances constituting fraud so that the

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defendant can prepare an adequate answer from the allegations." Odom v. Microsoft Corp., 486

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F.3d 541, 553 (9th Cir. 2007) (en banc) (quoting Schreiber Distrib. Co. v. Serv-Well Furniture Co.,

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806 F.2d 1393, 1400 (9th Cir. 1986). "[T]he pleader must state the time, place, and specific content

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of the false representations as well as the identities of the parties to the misrepresentation." Id.

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(citing Schreiber Distrib. Co., 806 F.2d at 1401). Plaintiffs' fraud-based RICO claims must meet

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both the standard articulated in Iqbal and Rule 9(b).

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I. The Marcus & Millichap Company

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The Marcus & Millichap Company ("M&M") argues that it is in this case only because it is a

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corporate parent of other defendants, and that plaintiffs have not adequately alleged that M&M is an

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alter ego of Sovereign, Marcus & Millichap Real Estate Investment Services ("M&M Investment"),

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or Marcus & Millichap Real Estate Investment Brokerage Company ("M&M Real Estate").

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Plaintiffs contend that they have alleged M&M's "direct involvement" in the alleged RICO

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scheme. The allegations plaintiffs cite, however, fail to address M&M directly or with particularity,

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other than to argue that M&M is indirectly liable as an alleged alter ego. See ¶¶ 1-2, 16, , 19-23, 98,

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443, 466, 510, 537, 684, 723-27. Moreover, in the section of the complaint describing the alleged

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"predicate acts," plaintiffs attribute no predicate acts of mail or wire fraud directly to M&M. ¶¶

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708-31. Although plaintiffs need not allege that each defendant personally used the mail or wires,
[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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they must allege facts showing the existence of a fraudulent scheme and that each defendant

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"knowingly cause[d]" use of the mails or wires to further that alleged scheme. 18 U.S.C. § 1341; see

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also, e.g. Craig Outdoor Adver., Inc. v. Viacom Outdoor, Inc., 528 F.3d 1001, 1027 (8th Cir. 2008).

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They have not done so. Plaintiffs argue that the use of the mail or wires was foreseeable in the

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course of defendants' business generally, but that also is insufficient to allege M&M's direct

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involvement.

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Nor do plaintiffs adequately allege that acts of mail or wire fraud may be attributed to M&M

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under an alter ego theory. In order to plead alter ego liability, plaintiffs must allege facts showing

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that (1) there is such a unity of interest and ownership between the corporation and its subsidiary

United States District Court
For the Northern District of California

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that the two no longer exist as separate entities, and (2) honoring corporate separateness would result

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in fraud or injustice. See Seymour v. Hull & Moreland Eng'g, 605 F.2d 1105, 1111 (9th Cir. 1979);

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Matter of Christian & Porter Aluminum Co. 584 F.2d 326, 338 (9th Cir. 1978).

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Plaintiffs allege a unity of interest and ownership between all of the M&M and Sovereign

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companies based on the alleged facts that they occupy the same company headquarters, share the

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same principals, share many of the same employees and agents, and share the same corporate

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philosophy and operating principles. ¶¶ 748-750. M&M owns 100% of the stock of both M&M

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Investment and Sovereign Investment. ¶ 748. In addition, plaintiffs allege that the co-founders and

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co-chairmen of M&M, George Marcus and William Millichap, are the registered principals of both

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M&M Investment and Sovereign Investment. Id.

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Plaintiffs further allege that M&M Real Estate is the alter ego of M&M Investment and

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M&M, and that these entities also occupy the same corporate headquarters, share many of the same

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employees and agents, and share the same corporate philosophy and operating principles. ¶ 752. In

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addition, the M&M Brokers allegedly identified themselves to plaintiffs as employees of "Marcus

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and Millichap," although many of them were employed by one of the subsidiaries. ¶ 753. Plaintiffs

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allege that the marketing materials refer to the companies interchangeably, and that as a result,

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plaintiffs had no way of knowing with which M&M entity they were dealing. ¶¶ 753, 755.

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These allegations are not sufficient to plead alter ego liability. In Katzir's Floor & Home
Design, Inc. v. M-MLS.com, the Ninth Circuit held that "the injustice that allows a corporate veil to
[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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be pierced is not a general notion of injustice; rather, it is the injustice that results only when

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corporate separateness is illusory." 394 F.3d 1143, 1149 (9th Cir. 2004) (internal citations omitted).

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The court noted that factors signaling it would be inequitable to respect separate corporate identities

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included "inadequate capitalization, commingling of assets, [or] disregard of corporate formalities."

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Id. None of these factors has been alleged in this case. Plaintiffs' allegations regarding common

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principals do not plausibly demonstrate alter ego liability, because "it is entirely appropriate for

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directors of a parent corporation to serve as directors of its subsidiary." United States v. Bestfoods,

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524 U.S. 51, 69 (1998) (quoting Am. Protein Corp. v. AB Volvo, 844 F.2d 56, 57 (2d Cir. 1988)).

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With respect to the alleged failure of the marketing materials to distinguish among the corporate

United States District Court
For the Northern District of California

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defendants, such ambiguities do not provide a basis for piercing the corporate veil. See, e.g.,

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Ministry of Def. of Islamic Republic v. Gould, Inc., 969 F.2d 764, 770 (9th Cir. 1992) ("a few

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instances where Hoffman's relationship to Gould, Inc. was mislabeled do not create a genuine issue

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as to Gould, Inc.'s separateness from Hoffman and its successors"). Nor does 100% control through

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stock ownership or the fact that companies share the same offices necessarily make companies alter

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egos. See Harris Rutsky & Co. Ins. Servs. v. Bell & Clements Ltd., 328 F.3d 1122, 1135 (9th Cir.

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2003). Plaintiffs do not allege any facts showing that an inequitable result would follow from

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respecting corporate separateness.

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Plaintiffs cite a New Jersey district court case and a California state trial decision that they

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contend held that the plaintiff could proceed against M&M on an alter ego theory. See Smith v.

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Marcus & Millichap Real Estate Inv. Brok. Co., No. 06-cv-1968, 2006 WL 3043127 (D.N.J. Oct. 24,

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2006); Ozuna v. Marcus & Millichap Co., Case No. 1-09-CV-149708 (Santa Clara County Superior

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Court). In Smith, the court did not conduct an alter ego analysis and instead applied a specialized

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Title VII test for determining when a parent company can be liable for a subsidiary's corporate acts.

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Id. at *2. In Ozuna, the court gave no reasoning as to the basis of the ruling overruling a demurrer.

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The decisions are not helpful.

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The claims against M&M are dismissed without prejudice. Facts must be alleged showing
that separate entities do not exist and why honoring separation would result in an injustice.
II. Racketeer Influenced and Corrupt Organizations
[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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To state a claim for conducting a RICO enterprise under 18 U.S.C. § 1962(c), a plaintiff must

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allege (1) the conduct (2) of an enterprise (3) through a pattern (4) of racketeering activity (5)

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causing injury to plaintiffs' business or property. See Sedima, S.P.R.L. v. IMREX Co., 473 U.S. 479,

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496 (1985). The term "racketeering activity" is defined to include various predicate acts, including

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"any act which is indictable under . . . section 1341 (relating to mail fraud)." § 1961(1)(B).

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The upshot is that RICO provides a private right of action for treble damages to any
person injured in his business or property by reason of the conduct of a qualifying
enterprise's affairs through a pattern of acts indictable as mail fraud. Mail fraud, in
turn, occurs whenever a person, "having devised or intending to devise any scheme or
artifice to defraud," uses the mail "for the purpose of executing such scheme or
artifice or attempting so to do. § 1341. The gravaman of the offense is the scheme to
defraud, and any "mailing that is incident to an essential part of the scheme satisfies
the mailing element," Schmuck v. United States, 489 U.S. 705, 712 (1989) (citation
and internal quotation marks omitted), even if the mailing itself "contain[s] no false
information," id., at 715.

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United States District Court
For the Northern District of California

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Bridge v. Phoenix Bond & Indem. Co., 553 U.S. 639, 647 (2008).
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Section 1962(c)'s requirements must be established as to each individual defendant. Craig
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Outdoor Advertising, Inc. v. Viacom Outdoor, Inc., 528 F.3d 1001, 1027 (8th Cir. 2008).
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A.

Conducted the Affairs

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The conduct requirement under § 1962(c) means that "[i]n order to 'participate, directly or
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indirectly, in the conduct of such enterprise's affairs,' one must have some part in directing those
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affairs." Reves v. Erst & Young, 507 U.S. 170, 183 (1993); see also Walter v. Drayson, 538 F.3d
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1244, 1247-48 (9th Cir. 2008). An enterprise "also might be 'operated' or 'managed' by others
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'associated with' the enterprise who exert control over it as, for example, by bribery." Reves, 507
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U.S. at 184. Sovereign Investment, M&M Investment, and the M&M Brokers contend that the FAC
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fails to allege with particularity that they conducted the affairs of the alleged enterprise.
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The complaint alleges that Sovereign Investment agreed to provide financing on unusually
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favorable terms to Morabito and Waelti in 2004 to enable them to purchase Jiffy Lube and Church's
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Chicken properties. The complaint also alleges that the Sovereign Subsidiaries furthered the
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fraudulent scheme by executing the artificially inflated sale-leaseback agreements and selling the
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overvalued properties to plaintiffs. These allegations are sufficient to plead that Sovereign
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Investment and the Sovereign Subsidiaries conducted the affairs of the alleged enterprise within the
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meaning of § 1962(c).
[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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The complaint also alleges that the M&M Investment furthered the fraudulent scheme by

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executing the artificially inflated sale-leaseback agreements and selling the overvalued properties to

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plaintiffs. These allegations are sufficient to plead that M&M Investment conducted the affairs of

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the alleged enterprise within the meaning of § 1962(c). The court also rejects M&M's Investment's

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argument that plaintiffs have not adequately pled a continuing unit with a common purpose. The

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FAC alleges that M&M Investment and M&M Brokers were involved in every transaction. That is

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sufficient at this stage.

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B.

Common Purpose
Under RICO, "an associated-in-fact enterprise is 'a group of persons associated together for a

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United States District Court
For the Northern District of California

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common purpose of engaging in a course of conduct.'" Odom v. Microsoft Corp., 486 F.3d 541, 552

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(9th Cir. 2007) (quoting United States v. Turkette, 452 U.S. 576, 583 (1981). The FAC alleges that

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all defendants shared the common purpose of defrauding real estate investors into purchasing

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properties at artificially inflated prices with unsustainable lease terms. ¶¶ 677-679, 681-701. Since

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the court dismissed the original complaint for failure to plead common purpose with specificity,

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plaintiffs have added the following allegation:

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As demonstrated through their ongoing conduct, M&M Real Estate, M&M,
Muirhead, Kunofsky, Sovereign Scranton, Sovereign Investment, Morabito, and the
various other members of the M&M Enterprise shared the common purpose of luring
investors like Etemad into purchasing triple net properties with artificially inflated
prices and unsustainable lease terms.

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¶ 147. Although the court previously found that plaintiffs had not adequately alleged common

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purpose, in light of the added allegation and upon further consideration, the court finds that plaintiffs

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have adequately alleged that defendants have associated for " a common purpose of engaging in a

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course of conduct." Odom, 486 F.3d at 552 (9th Cir. 2007). In Odom, the Ninth Circuit found

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plaintiffs adequately alleged that defendants Best Buy and Microsoft had the common purpose of

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increasing the number of people using Microsoft's Internet service through fraudulent means, where

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Best Buy had furthered the common purpose by distributing internet trial CD's and conveying

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customers' debit and credit card information to Microsoft, and Microsoft used the information to

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activate customer accounts. Id.

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[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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Here, plaintiffs have adequately alleged that the defendants acted for the common purpose of

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defrauding investors into purchasing triple net properties with artificially inflated prices.

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C.

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Pattern of Racketeering Activity
Plaintiffs must allege that defendants engaged in a "pattern" of racketeering activity. "[T]wo

isolated acts of racketeering activity do not constitute a pattern. As the Senate Report explained:

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'The target of [RICO] is not sporadic activity. The infiltration of legitimate business normally

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requires more than one 'racketeering activity' and the threat of continuing activity to be effective. It

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is this factor of continuity plus relationship which combines to produce a pattern.'" Sedima, 105 S.

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Ct. at 3285 n.14. "A 'pattern' of racketeering activity also requires proof that the racketeering

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United States District Court
For the Northern District of California

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predicates are related and 'that they amount to or pose a threat of continued criminal activity.'"

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Turner v. Cook, 362 F.3d 1219, 1229 (9th Cir. 2004).

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The alleged pattern of racketeering activity in this case consists of acts of mail fraud.

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Plaintiffs contend that the FAC describes a cohesive, overarching scheme to market and sell an

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artificially inflated portfolio of Jiffy Lube and Church's Chicken properties, not a series of isolated

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transactions. They point out that all 22 transactions were initiated and carried out by M&M brokers,

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and that the brokers misrepresented the financial stability of the tenants and the risk of the

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investment. ¶ 6.

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The M&M Brokers argue that they could not have participated in a pattern of racketeering

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activity because each broker was involved in only a handful of the underlying transactions. The

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FAC alleges that the Brokers were responsible for marketing the properties to plaintiffs; they

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allegedly misrepresented and concealed the true financial characteristics of the properties. They

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allegedly made similar representations that the properties were "safe" and "secure" investments, that

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they would generate high capitalization rates. To allege a pattern of racketeering activity, plaintiffs

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must show that the predicate acts are related–that they have the "same or similar purposes, results,

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participants, victims, or methods of commission." Northwestern Bell, 492 U.S. at 240. The court

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agrees that the FAC merely cobbles together a disparate group of twenty-two distinct property

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transactions, rather than the well-orchestrated conspiracy plaintiffs purport to allege. The

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[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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connections among those transactions are alleged in conclusory fashion, and plaintiffs fail to allege

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that each individual defendant engaged in a pattern.

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In addition, brokers Muirhead and Emas argue that their alleged conduct, which occurred
over the course of six to nine months, did not occur over a significant enough period of time to

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establish a pattern. Plaintiffs argue that in determining whether there is a pattern, courts must look

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at the scheme as a whole and all acts of racketeering–the alleged scheme was carried out from 2003

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to 2008. However, Section 1962(c)'s requirements must be established as to each individual

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defendant. Craig Outdoor Advertising, Inc. v. Viacom Outdoor, Inc., 528 F.3d 1001, 1027 (8th Cir.

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2008). For purposes of establishing individual liability under 1962(c), plaintiffs must allege that

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United States District Court
For the Northern District of California

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Muirhead and Emas personally committed acts constituting a pattern of racketeering. They have

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failed to do so.

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D.

Proximate Causation

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RICO provides a civil remedy only to those persons injured "by reason of" the defendants'

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predicate acts. Defendants argue that because plaintiffs admit that they were alerted to the risks of

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so-called SCTLs before they decided to invest, plaintiffs have failed to allege that defendants

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proximately caused any injury.1 This contention is unpersuasive in light of the fact that plaintiffs

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specifically allege that they did not know that they were investing in a debt/real estate hybrid and

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did not understand the risks of the investment. Even though plaintiffs now define SCTLs as

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investments whose value is partially based on rental income from a "Sub-Credit" tenant–i.e., one

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which "has not been rated by a credit rating agency" and about which there was "no available

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independent analysis of the risk of bankruptcy and default," ¶ 12, those allegations do not

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necessarily demonstrate that plaintiffs' alleged injury is due to deliberate investment choices because

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they knew or should have known that the investments they were pursuing carried a high rate of

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return to offset the significant risks.
Plaintiffs' allegations regarding proximate causation and injury are conclusory and

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implausible in light of plaintiffs' chart of purported "true fair market values." Plaintiffs' conclusions

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Defendants also argue that plaintiffs disclaimed reliance on representations by third parties in their
purchase and sale agreements. For the reasons stated above, the court declines to take judicial notice
of the purchase and sale agreements.

[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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about "true fair market values" are implausible in light of the fact that they represent a 45.01%

2

decrease from the prices the Tenants paid in arm's-length transactions with third parties. Plaintiffs

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allege that when a long-term tenant signs a lease agreeing to pay a high rent, that typically increases

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a property's fair market value by "a multiple of the actual market value." ¶ 12. When the Tenants

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originally purchased the properties, they did not include long-term leases. Those commitments were

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added before plaintiffs bought the properties.

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This case is similar to First Nationwide Bank v. Gelt Funding Corp., 27 F.3d 763 (2nd Cir.

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1994). There, the Second Circuit upheld dismissal of an amended complaint which included a

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schedule purporting to set out the approximate amount by which the defendants had overstated

United States District Court
For the Northern District of California

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property values. Id. at 770. The court found that the plaintiff failed to "adequately account for the

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contribution of external market factors to the loss," and that the allegations were implausible

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because they predicted a large increase in value "despite the fact of a general decline in the real

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estate market." Id. at 771. Unlike the plaintiffs in First Nationwide, plaintiffs have not even

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attempted to explain how they derived their conclusory allegations of true fair market value. More

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importantly, plaintiffs implausibly suggest very substantial declines in the properties' value despite

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the fact that their own theory implies an increase in value. The numbers do not make sense, and

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they demonstrate that plaintiffs' allegation fall "short of the line between possibility and plausibility

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of entitlement to relief." Iqbal, 129 S. Ct. at 1949.

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E.

Failure to Plead Predicate Acts of Mail and Wire Fraud With Specificity

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Plaintiffs' conclusory allegations of predicate acts by the Sovereign Subsidiaries are
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insufficient under Rule 9(b). "No dates are given, and no acts are specified from which it would be
22
inferred that the mails or interstate communications were involved." Allwaste, Inc. v. Hecht, 65 F.3d
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1523, 1530 (9th Cir. 1995). Plaintiffs simply repeat the identical allegations against each defendant.
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As in the original complaint, the FAC does not adequately allege the misrepresentations and
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omissions that form the foundation of the fraud and knowledge of falsity by the defendants who are
26
alleged to have made them. Plaintiffs' RICO claim rests on the allegation that the Sovereign
27
Subsidiaries knew that the Tenants intended to abandon their leases. ¶¶ 725-27. Yet Plaintiffs have
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pleaded no particular facts to support the conclusion that the Sovereign Subsidiaries knew of
[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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Tenants' alleged intentions. In their opposition, plaintiffs contend that the "FAC also alleges in

2

detail the authors and content of the false statements and misrepresentations made during the course

3

of the sale of each of the properties," but the cited portions of the complaint provide no such detail.

4

M&M Investment argues that the plaintiffs impermissibly seek to hold M&M Investment
liable based on its brokerage of a potentially risky type of commercial real estate investment.

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Brokering the sale of a high risk investment without intent to defraud does not constitute a RICO

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predicate offense of mail or wire fraud. See Schreiber Distrib. Co. v. Serv-Well Furniture Co., 806

8

F.2d 1393, 1399-1400 (9th Cir. 1986). The mail fraud statute requires intent. The FAC remains

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silent with regard to each individual brokers' knowledge that the offered sales price was artificially

10
United States District Court
For the Northern District of California

5

inflated, that the underlying lease which purportedly supported the sales price was a sham, or that

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the tenant intended to walk away from the underlying lease after a plaintiff purchased the property.

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Individual broker defendants are alleged to have been involved in only one transaction or a couple of

13

transactions in a short period of time. The allegations are inadequate to sustain plaintiffs' claim.

14

With respect to defendant Paul Morabito, the FAC alleges that Morabito and his agents and

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alter ego companies created and executed sham sale-leaseback agreements for the purpose of

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artificially inflating the values of the properties beyond their fair market value, falsely portrayed

17

Morabito as a profitable and long-term Jiffy Lube operator/franchisee, and abandoned the properties

18

on which his franchises were located, which left plaintiffs with devalued investments. The FAC also

19

alleges that Morabito and BMI directly engaged in numerous acts of mail and wire fraud. ¶ 721.

20

These allegations would be sufficient–were it not for the numerous other deficiencies in plaintiffs'

21

FAC.

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III. State Law Claims
Because plaintiffs' RICO claim fails, the pendent state-law claims are dismissed. See United

24

Mine Workers of Am. v. Gibbs, 383 U.S. 715, 726 (1966). Plaintiffs do not dispute that Rule 9(b)

25

applies to every one of their state-law claims; nor do they argue that their state claims succeed under

26

Rule 9(b) if their RICO claims fail.

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ORDER

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[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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This is a tentative order dismissing the RICO claim against all defendants, with leave to

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make a final attempt to successfully amend. The parties are to appear on April 29, 2011 at 9:00 to

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discuss the ruling unless the parties agree and notify the court that no further argument is necessary.

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DATED:

4/12/2011
RONALD M. WHYTE
United States District Judge

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United States District Court
For the Northern District of California

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[TENTATIVE] ORDER GRANTING MOTIONS TO DISMISS—No. C-09-00511 RMW
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