Underwood v. Benefit Express Services, LLC

Filing 49

REPORT AND RECOMMENDATIONS re 24 DENYING In Part and GRANTING In Part the MOTION to Dismiss filed by LLR Equity Partners Parallel IV, L.P., LLR Equity Partners IV, L.P., Michael Sternklar, Benefit Express Services, LLC, Scott Evans. Plea se note that when filing Objections pursuant to Federal Rule of Civil Procedure 72(b)(2), briefing consists solely of the Objections (no longer than ten (10) pages) and the Response to the Objections (no longer than ten (10) pages). No further briefing shall be permitted with respect to objections without leave of the Court. Objections to R&R due by 1/11/2019. Signed by Judge Mary Pat Thynge on 12/28/18. (kjk)

IN THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF DELAWARE

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Plaintiffs,
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V.
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BENEFIT EXPRESS SERVICES, LLC;
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LLR EQUITY PARTNERS IV, L.P.; LLR _ )
EQUITY PARTNERS PARALLEL IV, LP. )
MICHAEL STERNKLAR; SCOTT EVANS, )
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Defendants.
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TROY UNDERWOOD and TRANSCEND
TECHNOLOGIES GROUP, INC.,

C.A. No. 18-347-RGA-MPT

__________
BENEFIT EXPRESS SERVICES, LLC,
Counterclaim-Plaintiff,
V.

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TROY UNDERWOOD and TRANSCEND )
TECHNOLOGIES GROUP, INC.,
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Counterclaim-Defendants
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REPORT AND RECOMMENDATION

I.

INTRODUCTION
This matter arises from plaintiffs' Troy Underwood and Transcend Technologies
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Group, lnc.'s (collectively, "Plaintiffs") First Amended Complaint against defendants
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Benefit Express Services, LLC; LLR Equity Partners, IV, L.P., LLR Equity Partners [
Parallel IV, L.P., Michael Sternklar, and Scott Evans (collectively, "Defendants"). T.he
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initial complaint was filed on March 5, 2018 against Benefit Express, Services, LL9.
The First Amended Complaint was filed on May 21, 2018 against Benefit Express

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Services, LLC, LLR Equity Partners, IV, LP., LLR Equity Partners Parallel IV, LP.\
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Michael Sternklar and Scott Evans. The First Amended Complaint alleges that certain
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of Defendants made false representations that were relied upon by Plaintiffs, and i
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alleges breach of contract claims against Defendants. On June 26, 2018, Defendants
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filed a partial motion to dismiss Counts I, II, and Ill of the First Amended Complaint,
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which is pending before the court.
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This Report and Recommendation addresses whether Plaintiffs adequatelyi pied
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their allegations of fraud, aiding and abetting fraud, and negligent misrepresentation.
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For the reasons stated below, it is recommended that Defendants' partial motion t6
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dismiss be granted as to Count II, and denied as to Counts I and Ill.

II.

BACKGROUND

A. Parties
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Plaintiff Troy Underwood is a citizen of the State of Nevada, residing in Ren'o.
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Plaintiff Transcend Technologies Group, Inc. is a California corporation with its pri~cipal
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place of business in Sacramento County, California.
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Defendant Benefit Express Services, LLC, is an Illinois limited liability comp~ny
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with its principal place of business in Schaumberg, Illinois. Defendants LLR EquitX
Partners IV, LP. and LLR Equity Partners Parallel IV, LP. are Delaware limited
partnerships with their principal places of business·in Philadelphia, Pennsylvania.

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Defendant Michael Sternklar is Chief Executive Officer and Chairman of Defendant
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Benefit Express Services, LLC. Defendant Scott Evans is Chief Pr0duct Officer ofi
Benefit Express Services, LLC.

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B. Background
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Underwood founded Transcend Technologies Group, Inc. in 2002.

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In 2007,

Transcend Technologies Group, Inc. began doing business as BenefitsCONNEC""J:. 2
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BenefitsCONNECT is an online benefits enrollment and administration system that
connects employer groups, insurance carriers, third party administrators, payroll
vendors, and brokers. 3 In addition to managing BenefitsCONNECT, Unde·rwood was
working on a new venture named Aurora, which would function as an employee

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benefits agency. 4 In 2015, Aurora entered into a licensing agreement with
BenefitsCONNECT that would give Aurora the right to use the BenefitsCONNECT
source code (the "Source Code") on its own platform, once that platform became :
operational. 5
In 2016, Plaintiffs and Defendants began negotiating a potential sale of
BenefitsCONNECT to Benefit Express Services, LLC ("Benefit Express"). 6 During:
negotiations and due diligence, Underwood worked closely with Sternklar regarding the
transaction. 7 An asset purchase agreement was executed on August 4, 2016 (the j
"APA") between Plaintiffs and Benefit Express. 8 Per the APA, Plaintiffs agreed to sell

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3

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5
6

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0.1. 15 at 5.
Id.
Id.
Id. at 6.
Id..
Id.
Id.
0.1. 25 at 2.
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all assets of BenefitsCONNECT to Benefit Express, including all intellectual prope~y
and source coding. 9 On the same day the parties entered into the APA, and per I

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Defendants' request, Underwood terminated the licensing agreement between Aurrora

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and BenefitsCONNECT. 10
On May 21, 2018, Plaintiffs filed their First Amended Complaint against
Defendants for alleged fraud, negligent misrepresentation and breach of contract.'

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Count I alleges fraud against Sternklar and Benefit Express. 12 Count II avers claims of
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aiding and abetting fraud against LLR Equity Partners IV, LP. and LLR Equity Pa~ners
Parallel IV, LP. (collectively, "LLR") and Evans. 13 Count Ill asserts negligent

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misrepresentation against Sternklar and Benefit Express. 14 Count IV alleges breatjh of
contract against Benefit Express, and Count V avers breach of the covenant of goJd
faith and fair dealing against Benefit Express. 15

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Plaintiffs allege Sternklar misrepresented via an oral promise that he would I
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license the Source Code to Underwood for use in the Aurora venture after the salej of
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BenefitsCONNECT to Benefit Express.

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Approximately three weeks after the APA was
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executed, Plaintiffs contend Sternklar informed Underwood that he had "changed liis
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mind" and would not execute a renewed licensing agreement with Plaintiffs. 17 Plai~tiffs

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15 at 8.
at 3.
at 2.
at 14.
ld.at15.
Id. at 16.
Id. at 17-18.

D.I.
Id.
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Id.
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Id.
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Id. at 9.
Id.

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allege that their reliance on this oral promise resulted in their agreement to a loweJ sale
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price and the termination of the licensing agreement between Aurora and
BenefitsCONNECT. 18 Plaintiffs further maintain Defendants are breaching their
agreement by withholding a $2.9 million payment due to Plaintiffs under the APA. 1

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On June 25, 2018, Defendants filed the instant partial motion to dismiss Counts
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I, II and Ill of the First Amended Complaint pursuant to Fed. R. Civ. P. 9 and 12(b~(6).20
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Defendants allege Plaintiffs' fraud and misrepresentation claims are insufficient in light
of the APA's integration clause, and Plaintiffs failed lo sufficiently plead the eleme~ts of
the aiding and abetting fraud claim. 21

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Ill.

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STANDARD OF REVIEW

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A. Fed. R. Civ. P. 12(b)(6)

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Fed. R. Civ. P. 12(b)(6) governs a motion to dismiss a complaint for failure tb
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state a claim upon which relief can be granted. The purpose of a motion under Ru,le
12(b)(6) is to test the sufficiency of the complaint, not to resolve disputed facts or

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decide the merits of the case. 22 "The issue is not whether a plaintiff will ultimately
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prevail, but whether the claimant is entitled to offer evidence to support the claims.'j23 A

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Id. at 2.
Id. at 3.
20
D.I. 24.
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D.I. 25 at 2.
22
Kost v. Kozakiewicz, 1 F.3d 176, 183 (3d Cir. 1993).
23
In re Burlington Coat Factory Sec. Litig., 114 F.3d 1410, 1420 (3d Cir. 19~7)
(internal quotations and citations omitted); see also Bell Atlantic Corp. v. Twombly, :550
U.S. 544,563 n.8 (2007) ("[W]hen a complaint adequately states a claim, it may nqt be
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dismissed based on a district court's assessment that the plaintiff will fail to find
evidentiary support for his allegations or prove his claim to the satisfaction of the
factfinder. ").
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motion to dismiss may be granted only if, after "accepting all well-pleaded allegations in
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the complaint as true, and viewing them in the light most favorable to the plaintiff, i
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plaintiff is not entitled to relief." 24 While the court draws all reasonable factual

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inferences in the light most favorable to a plaintiff, it rejects unsupported allegatioris,
"bald assertions," and "legal conclusions.';25
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To survive a motion to dismiss, a plaintiffs factual allegations must be suffiGient
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to "raise a right to relief above the speculative level .... "26 Plaintiffs are therefore I
required to provide the grounds of their entitlement to relief beyond mere labels an!d
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conclusions.

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A claim must allege, "enough facts to state a claim to relief that is

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plausible on its face." 28 A claim has facial plausibility when a plaintiff pleads factuJ1
content sufficient for the court to draw the reasonable inference that the defendant! is
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liable for the misconduct alleged. 29 Once stated adequately, a claim may be supported
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24

Maio v. Aetna, Inc., 221 F.3d 472, 481-82 (3d Cir. 2000) (citing Burlington\, 114
F.3d at 1420).
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25
Morse v. Lower Merion Sch. Dist., 132 F .3d 902, 906 (3d Cir. 1997) (citations
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omitted); see also Schuylkill Energy Res., Inc. v. Pa. Power & Light Co., 113 F.3d 405,
417 (3d Cir. 1997) (citations omitted) (rejecting "unsupported conclusions and
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unwarranted inferences"); Associated Gen. Contractors of Cal., Inc. v. Cal. State
Council of Carpenters, 459 U.S. 519, 526 (1983) ("It is not ... proper to assume I
[plaintiff] can prove facts that it has not alleged or that the defendants have violated the
... laws in ways that have not been alleged.").
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26
Twombly, 550 U.S. at 555 (citations omitted); see also Victaulic Co. v. Tieman,
499 F.3d 227, 234 (3d Cir. 2007) (citing Twombly, 550 U.S. at 555).
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27
See Twombly, 550 U.S. at 555 (citing Papasan v. Allain, 478 U.S. 265, 28~
(1986)).
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28
Twombly, 550 U.S. at 570; see also Phillips v. County of Allegheny, 515 Ft.3d
224, 233 (3d Cir. 2008) ("In its general discussion, the Supreme Court explained th~at
the concept of a 'showing' requires only notice of a claim and its grounds, and
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distinguished such a showing from 'a pleader's bare averment that he wants relief and
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is entitled to it.'") (quoting Twombly, 550 U.S. at 555 n.3).
29
Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009) (citing Twombly, 550 U.S. at 5p6).
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by showing any set of facts consistent with the allegations in the complaint. 3° Courts
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generally consider only the allegations contained in the complaint, exhibits attache~ to
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the complaint, and matters of public record when reviewing a motion to dismiss. 31

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8. Fed. Rule Civ. P. 9(b)

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Federal Rule of Civil Procedure 9(b) requires that "[i]n alleging fraud or mist1ke,
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a party must state with particularity the circumstances constituting [the] fraud or
mistake."32 In doing so, "[m]alice, intent, knowledge, and other conditions of a person's
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mind may be alleged generally." 33 The purpose of this heightened standard is "to ~lace
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the defendants on notice of the precise misconduct with which they are charged, ahd to
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safeguard defendants against spurious charges of immoral and fra~dulent behavidr." 34

IV.

ANALYSIS
A. Count I - Fraud Against Sternklar and Benefit Express

The elements of a fraud claim under Delaware law are as follows:
(1) Defendant made a false representation; usually one of fact; (2)
Defendant knew or believed that the representation was false, or was
made with reckless indifference to the truth; (3) Defendant intended to
induce Plaintiff to act or to refrain from acting; (4) Plaintiff's action or
inaction was taken in justifiable reliance upon the representation; and (5)
there was damage to Plaintiff as a result of such reliance. 35
Plaintiffs allege that Sternklar made an intentional false oral promise that

30

Twombly, 550 U.S. at 563.
Pension Benefit Guar. Corp. v. White Consol. Indus., Inc., 998 F.2d 1192,
1196 (3d Cir. 1993), cert. denied, 510 U.S. 1042 (1994).
32
FED. R. CIV. P. 9(b).
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Seville Indus. Mach. Corp. v. Southmost Mach. Corp., 742 ·F.2d 786, 791 ~3d
Cir.1984).
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Gaffin v. Teledyne, Inc., 611 A.2d 467, 475 (Del. 1992).
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Plaintiffs would be able to license back the Source Code after the APA was execuied
when Defendants had no intention of doing so. 36 Specifically, Plain~iffs allege Sterhklar
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promised that if Plaintiffs terminated the licensing agreement between Aurora and
BenefitsCONNECT prior to the execution of the APA, after the sale, Benefit Express
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would license the Source Code back to Plaintiffs for use in the Aurora venture, as 1'ong
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as Plaintiffs retained no ownership rights and Aurora did not compete with BenefitJ
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Express. 37

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Plaintiffs further allege that Sternklar knowingly made this false promise wit~ the
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intent of inducing Plaintiffs to cancel the licensing agreement with BenefitsCONNECT
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and to sell BenefitsCONNECT for a lower price.

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Plaintiffs contend, they reasonabJy

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relied on these false misrepresentations and promises when they entered into the
with Defendants, and maintain they would not have sold BenefitsCONNECT to

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Defendants, particularly at the amount they did, and would not have terminated thd
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licensing agreement had they known they would not be able to license back the Source

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Code after execution of the APA. 39

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Defendants allege that Plaintiffs cannot maintain a fraud claim because as ~
party represented by counsel, they could not have reasonably relied on any oral

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promises that were not memorialized in the heavily negotiated APA.

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to the integration clause and other language in the APA to show that the parties

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37
38
39

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0.1. 15 at 14.
0.1. 29 at 3.
0.1. 15 at 14.
/d.at15.
0.1. 25 at 6.
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Defendants point

expressly agreed that the APA contained all of the terms of the sale of

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BenefitsCONNECT to Benefit Express, and such terms could only ~e modified in.

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writing, signed by both parties.

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Defendants further assert that (assuming solely for the purpose of this motion
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that the allegation of the existence of Sternklar's oral statement is true) Plaintiffs d~ not
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sufficiently plead that Sternklar, at the time the alleged oral promise was made, kn¢w
the statement to be false, since it is alleged that Sternklar simply "changed his minb"
about licensing the Source Code to Plaintiffs after the APA was executed. 42

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Assuming for the purposes of this motion that Plaintiffs' alleg·ations are true,
Plaintiffs have adequately pied enough facts and specificity with respect to a fraud
claim. While Delaware courts generally "disfavor allegations of fraud when the
underlying utterances take the form of unfulfilled promises of future performance,"

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complaint that alleges facts with sufficient particularity may "support. a reasonable [
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inference that Defendants made promises they had no intention of keeping when t~ey
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made them."

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Further, it is recognized that "less particularity is required when the facts

lie more in the knowledge of the opposing party than of the pleading party:"44

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Delaware courts have held that integration clauses may not preclude a plaintiff's
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reasonable reliance on a fraudulent misrepresentation. 45 Whether Plaintiffs' reliance on
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the oral statement was reasonable given the integration clause of the APA is a queistion

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42

Id. at 7-8.
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43
TrueBlue, Inc. v. Leeds Equity Partners, IV, LP, C.A. No. N:14C-12-112 WCC
CCLD, 2015 WL 5968726, at *6 (Del. Super. Ct. Sept. 25, 2015). !
44 Id.
45
Id. at 9.
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of fact that is "generally not suitable for resolution on a motion to dismiss."46
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Here, Plaintiffs provide enough facts for an inference that Sternklar had
motivation to make the statements alleged in order to gain an adva~tage in negoti~tion
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of the APA. Further, since Sternklar alone made the statements about the Source
Code both before and after the execution of the APA, the facts lie more within the
knowledge of Defendants.
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Therefore, this court recommends that the partial motion to dismiss as to C~unt
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I be denied.

8. Count II - Aiding and Abetting Fraud Against LLR and Scott Evans
Under Delaware law, to prove a claim of aiding and abetting, Plaintiffs must
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demonstrate that "(1) a wrongful act was committed; (2) the defendant had knowle~ge
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of the act; and (3) the defendant knowingly and substantially partici~ated in or provided
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substantial assistance of the wrongful act."47

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Plaintiffs allege LLR and Evans knew fraud was being committed, and gave
substantial assistance and encouragement to Benefit Express and Sternklar in

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effectuating such fraud. 48 Specifically, Plaintiffs allege LLR aided in negotiations fj ,
and funded the entire purchase of BenefitsCONNECT, and Evans, as a former

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employee of Plaintiffs, communicated with a third party technician regarding an Auriora
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incomplete server installation, and attempted to turn allegedly innocuous statemen~s by
the technician into "ammunition for Defendants to use against Plaintiffs."49

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:: ~~;!:1iza-T Sociedad De Responsabilidad Limitada De Capital Variable I
Wachovia Bank of Delaware Nat'/ Ass'n, 2011 WL 864421, at *4 (D. Del. Mar. 9, 2011).
48
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D .. 15at16.
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D.I. 29 at 5.
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Defendants allege there is no basis for aiding and abetting fraud claims agairst
either Evans or LLR. 50 Defendants assert Plaintiffs do not allege any connection

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between Evans and the alleged fraudulent statements about the licensing of the So~rce
Code, and do not offer anything other than their information and belief that solely bY,
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negotiating and funding the purchase of BenefitsCONNECT, LLR was aware of the :fraud
and thus gave assistance in effectuating fralid. 51
Assuming Plaintiffs' allegations against Evans and LLR are true, it is difficult to
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find a connection between Evan's conversations with a software technician, LLR's :
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negotiation of and funding of the BenefitsCONNECT purchase, and Sternklar's alle~ed
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promise to license back to Aurora the Source Code and later reneging on that promise.
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Plaintiffs fail to allege sufficient facts for the court to reasonably infer that Evans andI
LLR knew of the fraudulent statements and provided substantial assistance for
Sternklar's statements.
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Therefore, this court recommends that the partial motion to dismiss Count II ~e
granted.

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C. Count Ill - Negligent Misrepresentation Against Sternklar and Benefit
Express
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In order to sustain a claim for negligent misrepresentation under Delaware law,
plaintiffs must prove "(1) a pecuniary duty to provide accurate information, (2) the
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supplying of false information, (3) failure to exercise reasonable care in obtaining or!
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communicating information, and (4) a pecuniary loss caused by justifiable reliance Jpon

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0.1. 25 at 10.

51

Id.
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the false information."52
Plaintiffs allege Sternklar made a promise regarding Plaintiff's: relationship with
Benefit Express (specifically that Plaintiffs would be allowed to license back the soJce
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Code after the APA execution) that was false and misleading. 53 Further, Plaintiffs allege
they reasonably relied on the promise as they were unaware of its falsity. 54 As statJd
previously, Plaintiffs allege that had they known Defendants would not license back lthe
Source Code after the execution of the APA, Plaintiffs would not have sold
BenefitsCONNECT to Benefit Express for the agreed upon price, and would not have
cancelled the licensing agreement with BenefitsCONNECT. 55 Plaintiff alleges damJges
due to these actions. 56

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Similar to the fraud claim, Defendants allege Plaintiffs cannot state a cause

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action for negligent misrepresentation because they could not reasonably and justifibbly
rely upon Defendant's alleged oral promise regarding the licensing of the Source cdde
when the APA makes no reference to that alleged agreement. 57 Defendants also
contend that Plaintiffs did not sufficiently articulate how Defendants acted without
reasonable care when they conclude that Defendants never intended to fulfill their
alleged oral promise to allow Plaintiffs to license back the Source Code. 58 Additiom~lly,
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Defendants argue that Plaintiffs did not establish that the requisite duty was created!
52

Outdoor Technologies, Inc. V. Al/first Financial, Inc., No. 99C-09-151 (JRS),
2001 Westlaw 541472 at *5 (Del. Super. Ct. 2001).
53
D. I. 15 at 16-17.
54
Id. at 17.
55 Id.
5s Id.
57
Id. at 11.
5a Id.
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between the parties. 59
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Assuming for the purposes of this motion that Plaintiffs' allegations are true,
Plaintiffs sufficiently pied all of the elements of a claim of negligent misrepresentation.
Plaintiffs allege that the business relationship between the parties in 'negotiating the APA
created a pecuniary duty sufficient to allege negligent misrepresentation. Delaware
common law contemplates a duty of disclosure "will arise when the parties are in the
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midst of a 'business relationship' from which they expect to derive 'pecuniary benefits' .''60
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A duty exists under Delaware common law to "provide accurate information."

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HerJ,
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Piaintiffs allege reliance on information they received during negotiation of a transadtion
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from which they expected to benefit financially, and the information allegedly changkd
abruptly after the APA was executed, when Sternklar purportedly changed is mind.
Therefore, this court recommends that the partial motion to dismiss with respect
to Count Ill be denied.

V.

RECOMMENDATION DISPOSITION
Consistent with the findings herein, it is recommended that:
Defendants' partial motion to dismiss (D.I. 24) be denied with respects to Counts I
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and Ill, and granted with respect to Count II.
This Report and Recommendation is filed pursuant to 28 U.S.C.
§ 636(b)(1)(B), FED. R. CIv. P. 72(b)(1), and D.Del. LR 72.1. The parties may serve [and
file specific written objections within fourteen ( 14) days after being served
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acopy offhis
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D. I. 24 at 11 .
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[
Outdoor Technologies, Inc. V. Al/first Financial, Inc., No. 99C-09-151 (JRS) at

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Id.

*5.

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Report and Recommendation. 62 These objections and response to the objections are
limited to ten (10) pages each.
The parties are directed to the Court's standing Order in Non-Pro Se
matters for Objections Filed under FED. R. C1v. P. 72, dated October 9, 2013, a

cop1 of

which is available on the Court's website, www.ded.uscourts.gov.

Isl Mary Pat Thynge
Chief U.S. Magistrate Judge

Date: December 28, 2018

62

FED.

R. CIv. P. 72(b)(2).

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