Friedman et al v. JPMorgan Chase & Co. et al
Filing
91
OPINION AND ORDER. The Court has considered all of the remaining arguments of the parties. To the extent not specifically addressed above, they are either moot or without merit. For the foregoing reasons, the defendants' motion to dismiss is gra nted. The Clerk is directed to enter judgment dismissing this action and closing the case. The Clerk is also directed to close all pending motions. re: 66 MOTION to Transfer Case Notice of Motion for an Order pursuant to 28 USC 1404(A) Tran sferring this Action to the Middle District of Florida or, Alternatively, Re-Transferring this Action to the United States District Court of New Jersey filed by Carla Hirschhorn, et al, Richard Friedman, 70 MOTION to Dismiss Second Amended Class-Action Complaint filed by J.P. Morgan Securities Ltd., JPMorgan Chase Bank N.A., JPMorgan Chase & Co., Richard Cassa, J.P. Morgan Securities LLC, John Hogan. (Signed by Judge John G. Koeltl on 5/18/2016) (rjm)
UNITED STATES DISTRICT COURT
SOUTHERN DISTRICT OF NEW YORK
_______________________________
RICHARD FRIEDMAN and CARLA HIRSCHORN,
ET AL.,
15-cv-5899 (JGK)
OPINION AND ORDER
Plaintiffs,
-againstJP MORGAN CHASE & CO., JP MORGAN CHASE
BANK, N.A., J.P. MORGAN SECURITIES LLC,
and J.P. MORGAN SECURITIES LTD.; JOHN
HOGAN and RICHARD CASSA,
Defendants.
__________________________________
JOHN G. KOELTL, District Judge:
This is a class action brought by Richard Friedman and
Carla Hirschorn on behalf of investors in Bernard L. Madoff’s
Ponzi scheme who withdrew more money from the Ponzi scheme than
they invested (the “plaintiffs” or “net winners”). The
plaintiffs bring the case against JP Morgan Chase & Co., JP
Morgan Chase Bank, J.P. Morgan Securities LLC, and J.P. Morgan
Securities, Ltd. (together “JP Morgan”), and two JP Morgan
employees, John Hogan and Richard Cassa (the “individual
defendants”). On March 28, 2014, the plaintiffs filed this
action in the District of New Jersey, alleging that the
defendants were actively complicit in the illegal conduct of
Madoff and Bernard L. Madoff Investment Securities LLC
(“BLMIS”). This case was transferred to the Southern District of
New York on July 28, 2015. The defendants now move to dismiss
all the claims.
The Second Amended Complaint (“SAC”), filed October 3,
2014, Dkt. No. 33, alleges that Madoff and BLMIS violated
Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C.
§ 78j(b) (the “Exchange Act”), and Rule 10b-5 promulgated
thereunder, 17 C.F.R. § 240.10b-5, and asserts that the
defendants, as control persons of BLMIS and Madoff, are liable
for BLMIS’s and Madoff’s Section 10(b) and Rule 10b-5 violations
pursuant to Section 20(a) of the Exchange Act, 15 U.S.C. §
78t(a) (“Count 1” or the “Section 20(a) claim”) and the New
Jersey Uniform Securities Law, N.J.S.A. §§ 49:3-47, et seq.
(“Count 2” or the “NJUSL claim”). The SAC also asserts several
additional state law causes of action against the defendants:
Counts 3 through 8 allege claims of aiding and abetting Madoff’s
embezzlement and breach of fiduciary duty, unjust enrichment,
breach of fiduciary duty, commercial bad faith, and gross
negligence. The plaintiffs also allege that the defendants
violated the Federal Racketeer Influenced and Corrupt
Organizations Act, 18 U.S.C. §§ 1961 et seq. (“Count 9” or the
“Federal RICO Claim”) and New Jersey’s Racketeer Influenced and
Corrupt Organizations Act, N.J.S.A. 2C:41-2 et seq. (“Count 10”
or the “New Jersey RICO Claim”).
2
This court has subject matter jurisdiction pursuant to 15
U.S.C. § 78aa, 18 U.S.C. § 1964, 28 U.S.C. § 1331, and 28 U.S.C.
§ 1367. Pursuant to Federal Rules of Civil Procedure 9(b), 12
(b)(1), and 12(b)(6), the Private Securities Litigation Reform
Act of 1995, 15 U.S.C. §§ 78u-4 et seq. (“PSLRA”), and the
Securities Litigation Uniform Standards Act of 1998, 15 U.S.C. §
78bb(f)(1) et seq. (“SLUSA”), the defendants move to dismiss the
SAC. 1 The defendants argue, among other bases for dismissal, that
the federal claims are time-barred and fail to state a claim,
and that the state claims are barred by SLUSA and that the Court
should, in any event, decline to exercise supplemental
jurisdiction over them. For the reasons explained below, the
motion is granted.
I.
In deciding a motion to dismiss pursuant to Rule 12(b)(6),
the allegations in the complaint are accepted as true, and all
reasonable inferences must be drawn in the plaintiff’s favor.
McCarthy v. Dun & Bradstreet Corp., 482 F.3d 184, 191 (2d Cir.
2007). The Court’s function on a motion to dismiss is “not to
1
While the defendants have brought a motion to dismiss pursuant to Federal
Rule of Civil Procedure 12(b)(1) for lack of subject matter jurisdiction,
there is plainly subject matter jurisdiction to decide whether the
allegations in the SAC have properly alleged causes of action under federal
statutes. The only plausible motion under Rule 12(b)(1) is that if the
federal causes of action are dismissed, the Court should decline to exercise
supplemental jurisdiction pursuant to 28 U.S.C. § 1367 over the state causes
of action.
3
weigh the evidence that might be presented at a trial but merely
to determine whether the complaint itself is legally
sufficient.” Goldman v. Belden, 754 F.2d 1059, 1067 (2d Cir.
1985). A complaint should not be dismissed if the plaintiff has
stated “enough facts to state a claim to relief that is
plausible on its face.” Bell Atl. Corp. v. Twombly, 550 U.S.
544, 57 (2007). “A claim has facial plausibility when the
plaintiff pleads factual content that allows the court to draw
the reasonable inference that the defendant is liable for the
misconduct alleged.” Ashcroft v. Iqbal, 556 U.S. 662, 678
(2009). While factual allegations should be construed in the
light most favorable to the plaintiff, “the tenet that a court
must accept as true all of the allegations contained in a
complaint is inapplicable to legal conclusions.” Id.
Claims under the Exchange Act that sound in fraud must meet
the pleading requirements of Rule 9(b) of the Federal Rules of
Civil Procedure and of the PSLRA, 15 U.S.C. § 78u–4(b). Rule
9(b) requires that the complaint “(1) specify the statements
that the plaintiff contends were fraudulent, (2) identify the
speaker, (3) state where and when the statements were made, and
(4) explain why the statements were fraudulent.” ATSI Commc’ns,
Inc. v. Shaar Fund, Ltd., 493 F.3d 87, 99 (2d Cir. 2007). The
PSLRA similarly requires that a complaint in a private action in
4
which the plaintiff may recover damages based on the defendant’s
state of mind “specify each statement alleged to have been
misleading [and] the reason or reasons why the statement is
misleading,” and it adds the requirement that “if an allegation
regarding the statement or omission is made on information and
belief, the complaint shall state with particularity all facts
on which that belief is formed.” 15 U.S.C. § 78u–4(b)(1)-(2);
ATSI, 493 F.3d at 99.
When presented with a motion to dismiss pursuant to Rule
12(b)(6), the Court may consider documents that are referenced
in the complaint, documents that the plaintiff relied on in
bringing suit and that are either in the plaintiff’s possession
or that the plaintiff knew of when bringing suit, or matters of
which judicial notice may be taken. See Chambers v. Time Warner,
Inc., 282 F.3d 147, 153 (2d Cir. 2002); see also Plumbers &
Pipefitters Nat’l Pension Fund v. Orthofix Int’l N.V., 89 F.
Supp. 3d 602, 607-08 (S.D.N.Y. 2015).
II.
The following facts alleged in the SAC are accepted as true
for purposes of the defendants’ motion to dismiss.
The SAC incorporates, among other things, the Statement of
Facts from JP Morgan’s global settlement with the United States
Attorney’s Office for the Southern District of New York. As part
5
of the global settlement, JP Morgan entered into a Deferred
Prosecution Agreement to resolve charges against JP Morgan
brought under the Currency and Foreign Transactions Reporting
Act of 1970, 31 U.S.C. § 5311 et seq. (also known as the “Bank
Secrecy Act”). SAC, Ex. C.
A.
It is now common knowledge that Madoff ran the largest
Ponzi scheme in history through BLMIS and its predecessors and
affiliates. At the time of its collapse in December 2008, BLMIS
maintained more than 4,000 investment advisory client accounts
and purported to have a balance of approximately $65 billion
under management. In reality, BLMIS only had approximately $300
million in assets, including $234 million in a JP Morgan bank
account. SAC, Ex. C ¶ 7. Madoff and BLMIS had a continuous
banking relationship with JP Morgan and its predecessor
institutions. SAC, Ex. C ¶ 8. Madoff originally opened an
account at Chemical Bank, a JP Morgan predecessor, in 1986, and
for decades in the course of the Ponzi scheme, Madoff and BLMIS
deposited billions of dollars from investors in an account at JP
Morgan known as the 703 Account. SAC ¶¶ 5, 184; SAC, Ex. C ¶ 9.
The funds in the 703 Account were not used for the purchase and
sale of stocks, bonds, options or other securities. SAC, Ex. C.
¶ 10.
6
JP Morgan Chase is a financial holding company incorporated
under Delaware law with its principal place of business in New
York. SAC ¶ 17. The other JP Morgan defendants are subsidiaries
of JP Morgan Chase: (1) JP Morgan Chase Bank has its principal
place of business in Ohio, SAC ¶ 18; (2) J.P. Morgan Securities
LLC is organized under Delaware law and is the principal nonbank subsidiary of JP Morgan Chase, SAC ¶ 19; (3) J.P. Morgan
Securities Ltd. is organized under English law and is the
investment banking arm of JP Morgan Chase in the United Kingdom,
SAC ¶ 21. John Hogan is a JP Morgan employee who held several
positions in which he oversaw the risk of Chase’s Investment
Bank’s credit business, rising to the level of Chief Risk
Officer and later Chairman of Risk for all JP Morgan Chase. SAC
¶ 22. Richard Cassa was the sponsor or Client Relationship
Manager for one of the Madoff and BLMIS accounts from 1993 to
March 2008 when he retired. SAC ¶ 23.
The SAC alleges that Cassa received reports from other JP
Morgan employees that revealed irregularities in the Madoff
account, including unexplained checks between Norman Levy and
Madoff for huge sums of money, and that Cassa was aware of
misrepresentations made by BLMIS in reports to the SEC. SAC ¶
23. The SAC also alleges that Hogan knew Madoff was rumored to
be operating a Ponzi scheme and that Cassa knew that the BLMIS
7
account did not hold as much money as it was purported to hold.
SAC ¶ 23.
The SAC alleges that JP Morgan had certain obligations
under the Bank Secrecy Act, to monitor customer transactions,
report suspicious activities, and guard against money
laundering. SAC ¶ 66; 31 U.S.C. § 5318(a)(2). The Bank Secrecy
Act provides that banks must implement a compliance program to
monitor customer transactions and report suspicious transactions
relevant to a possible violation of law or regulation. Id.
§ 5318(g)(1), (h)(1). The SAC alleges that JP Morgan failed to
comply with its duties under the Bank Secrecy Act, and did not
file suspicious activity reports related to Madoff’s business
until after Madoff was arrested in December 2008. SAC ¶ 112. The
SAC also enumerates the different settlements JP Morgan has
entered into with the United States Government, other regulatory
agencies and governments, and private litigants, arguing that
these settlements show that JP Morgan has a corporate culture of
thievery. SAC ¶¶ 69-97.
According to the SAC, Madoff and BLMIS deposited funds in
the 703 JP Morgan Account, and embezzled billions of dollars
until December 2008. SAC ¶ 98. The SAC alleges that JP Morgan
was aware that BLMIS and Norman Levy, a JP Morgan and BLMIS
customer, were engaged in illegal transfers. SAC ¶¶ 101-02. Levy
8
and BLMIS repeatedly transferred large sums of money to each
other on a daily basis, and the transfers were allegedly eight
times greater than the combined transfers of all other BLMIS
customers. SAC ¶¶ 104-05, 109. The amount of the transfers in
December 2001 reached $6.8 billion. SAC ¶ 165. The transfers had
the effect of making the BLMIS balance in the JP Morgan account
appear much larger than it actually was.
The practice continued
until 2002 when Hogan told Madoff the transfers had to stop. SAC
¶ 106. The SAC alleges, however, that JP Morgan did not report
the illegal transactions or take steps to shut down BLMIS’s and
Madoff’s accounts because it profited from the transactions. SAC
¶¶ 110-11, 114.
The SAC further alleges that BLMIS was required under SEC
Rule 17a-5 to file quarterly Financial and Operational Combined
Uniform Single (“FOCUS”) reports with the SEC. SAC ¶ 118. JP
Morgan allegedly received the FOCUS reports, and would have
allegedly known that the funds disclosed in the FOCUS reports
differed from the funds BLMIS held at JP Morgan. SAC ¶ 119.
According to the SAC, JP Morgan made a loan to BLMIS in the
amount of $95 million and would have known that the FOCUS report
falsely reflected that BLMIS had no outstanding bank loans. SAC
¶ 120. JP Morgan Chase made several additional loans to the
BLMIS account, and earned more than $3.4 million in interest on
9
the loans from November 2005 to May 2006. SAC ¶¶ 124-30. None of
these loans were reflected in the FOCUS Reports, and the SAC
alleges that JP Morgan allegedly knew that BLMIS and Madoff were
not reporting all assets and liabilities as required by the SEC.
SAC ¶ 133; see also SAC ¶ 173.
The SAC further alleges that BLMIS underreported its cash
on hand in the FOCUS Reports, and that JP Morgan was in a
position to know that BLMIS did not disclose the full amount of
its cash on hand. SAC ¶¶ 135-36, 169. JP Morgan also allegedly
failed to conduct due diligence on BLMIS before approving a
request for a collateralized $100 million loan. SAC ¶¶ 140-41.
The SAC alleges that JP Morgan’s banking relationship with
Madoff was a necessary part of the scheme by Madoff and BLMIS
and that JP Morgan “ignored the fact that the activity in
BLMIS’s 703 Account could not have been linked to a legitimate
business.” SAC ¶ 155. The SAC alleges that if JP Morgan believed
the 703 Account was used for market making and was part of
Madoff’s purported business of structuring trades for the BLMIS
customers, then JP Morgan should have seen transactions with
other brokerage firms. But JP Morgan allegedly only saw “massive
outflows” of money that were not linked to stock or options
trading. SAC ¶¶ 157-58.
10
The SAC also alleges that JP Morgan knew that Madoff and
BLMIS were fiduciaries, and that JP Morgan profited from its
business with BLMIS and Madoff in various ways. According to the
SAC, several JP Morgan individuals, including Hogan, were
responsible for reviewing JP Morgan’s structured financial
products related to BLMIS feeder funds. SAC ¶¶ 192-203. JP
Morgan invested in several BLMIS feeder funds and used these
funds for issuing its own financial products. SAC ¶¶ 209-15. The
SAC alleges that JP Morgan performed due diligence on BLMIS
prior to investing in feeder funds, and would have known of the
illegal activities by BLMIS at some point between 2006 and 2007
because, among other things, the BLMIS returns were “too good to
be true,” BLMIS was audited by an obscure firm, and there were
rumors that Madoff was running a Ponzi scheme. SAC ¶ 216. JP
Morgan allegedly explored deals with other BLMIS feeder funds
and conducted only preliminary due diligence into the funds and
BLMIS’s investment strategy. SAC ¶¶ 222-23. The SAC alleges that
JP Morgan failed to receive full responses after making due
diligence requests of the feeder funds. SAC ¶¶ 258, 260-61.
The SAC alleges that in the fall of 2008, JP Morgan began
withdrawing its investments from BLMIS feeder funds. JP Morgan
withdrew several millions of dollars, about 80% of its
investment, leaving only about $35 million in BLMIS feeder
11
funds. SAC ¶¶ 276-79, 284; SAC, Ex. C ¶ 66. Between September
2008 and December 11, 2008, the height of the economic crisis,
the balance of the 703 Account began to decrease as investors
withdrew their funds. SAC ¶ 290. The SAC points to statements
made by other JP Morgan employees after Madoff’s arrest in which
the employees indicated they had been fortunate and correct in
withdrawing JP Morgan’s investments and had “got[ten] this one
right.” SAC ¶ 307. The SAC alleges that employees at JP Morgan
touted their refusal to invest with BLMIS to JP Morgan clients
and indicated they had been alarmed by several red flags. SAC ¶¶
315-16.
The plaintiffs bring their action on behalf of a proposed
class consisting of persons or entities who “directly, had
capital invested with BLMIS, as of December 12, 2008, and who
were ‘net winners.’” SAC ¶ 328. The SAC alleges that there are
approximately 2,500 members in the proposed class. SAC ¶ 330.
B.
The SAC outlines the history of actions by other former
BLMIS investors that bear upon important issues in this case.
The plaintiffs point out that in Picard v. JP Morgan Chase &
Co., 721 F.3d 54 (2d Cir. 2013) the Court of Appeals concluded
that only customers of BLMIS, not the Trustee, could assert
claims against JP Morgan. SAC ¶ 37. Two class actions, on behalf
12
of BLMIS investors, were brought against JP Morgan in the
Southern District of New York and were consolidated in December
2012, the Hill and Shapiro cases. Shapiro v. JP Morgan Chase &
Co., No. 11-cv-8331 (CM)(MHD), Dkt. No. 6 (S.D.N.Y. Dec. 5,
2011). The SAC alleges that the actions were brought on behalf
of a proposed class that included both net winners and net
losers of the Ponzi scheme. SAC ¶ 38. According to the SAC, the
class was subsequently redefined in March 2014, to include only
net losers, and the Southern District of New York approved a
class settlement. SAC ¶ 40. Net winners were excluded from the
settlement. SAC ¶ 40. The Southern District of New York approved
the settlement over the objections of the net winners. The Court
concluded that the net winners did not have standing to opt out
of a class that did not include them. SAC ¶ 41.
This case, the Friedman case brought against JP Morgan and
the individual defendants on behalf of net winners of the Madoff
Ponzi scheme, was filed in the District of New Jersey on March
28, 2014, four days after the Shapiro settlement was finalized.
See Dkt. No. 1; Shapiro v. JP Morgan Chase & Co., No. 11–cv–
8331(CM)(MHD), 2014 WL 1224666 (S.D.N.Y. Mar. 24, 2014). Also on
March 28, 2014, another case on behalf of net winners of the
Madoff Ponzi scheme was filed in the Middle District of Florida
against JP Morgan and the individual defendants. Dusek v. JP
13
Morgan Chase & Co., No. 2:14-CV-184-FTM-29CM, Dkt. No. 1. (M.D.
Fla. Mar. 28, 2014). The Friedman case was transferred to the
Southern District of New York on July 28, 2015. Dkt. No. 52. The
District Court for the Middle District of Florida declined to
transfer the Dusek case to the Southern District of New York.
Dusek, No. 2:14-CV-184-FTM-29CM, Dkt. No. 68 (M.D. Fla. Jan. 16,
2015).
On September 11, 2015, the defendants in the Friedman case
moved to dismiss the SAC. On September 11, 2015, the plaintiffs
moved to transfer the Friedman case to the Middle District of
Florida. Dkt. No. 66. 2 On September 17, 2015, the District Court
for the Middle District of Florida dismissed all the claims in
Dusek v. JP Morgan Chase & Co., 132 F. Supp. 3d 1330 (M.D. Fla.
2015), appeal pending, 15-14463 (11th Cir. 2016). As a result,
the defendants submitted a letter on September 18, 2015, a day
after Dusek was issued and a week after filing their moving
papers, explaining the import of the Dusek decision and
proposing to elaborate on its impact on the SAC in the Reply.
See Dkt. No. 72. The plaintiffs addressed the Dusek decision in
their Brief in Opposition to the Motion to Dismiss. In their
Reply, the defendants argued that the Friedman plaintiffs’
claims are barred by collateral estoppel, and that the Friedman
2
The plaintiffs withdrew the motion on October 7, 2015, after the Dusek case
had been dismissed in Florida. Dkt. No. 78.
14
plaintiffs cannot relitigate the merits of their federal claims
because those claims were dismissed in Dusek. Arguments raised
for the first time in a reply are generally not considered. The
reason the defendants raised this argument so late is that the
district court in Dusek rendered a decision after the defendants
had initially made their motion to dismiss. Although the
plaintiffs had the opportunity to address the Dusek decision in
their papers, they did not have an opportunity to respond to the
defendants’ collateral estoppel argument. It would therefore be
inappropriate to dismiss the plaintiffs’ claims on collateral
estoppel grounds. This Court will, however, consider the Court’s
reasoning in the Dusek opinion. The parties agree that the Dusek
and Friedman cases raise similar or identical claims and issues
arising from the same set of facts and allegations.
III.
The gist of the Friedman class complaint is that JP Morgan
was aware, or should have been aware, that Madoff and BLMIS were
not conducting a legitimate investment advisory business because
JP Morgan had access to BLMIS’s bank accounts and would have
realized that BLMIS was not using customer funds to execute
trades. The main claim asserted in the SAC seeks to hold the
defendants liable as control persons under the federal
securities laws because JP Morgan could have allegedly put an
15
end to the Madoff Ponzi scheme by terminating its banking
relationship with Madoff and BLMIS. The SAC alleges that JP
Morgan knew about the fraud in view of all the red flags that
were apparent to JP Morgan. The state law claims for breach of
fiduciary duty, aiding and abetting embezzlement, state law RICO
violations, and federal RICO violations are premised on the
allegation that JP Morgan was not only aware of the fraud but
also facilitated BLMIS’s and Madoff’s activities by investing in
BLMIS feeder funds and by failing to report suspicious banking
activity to the Securities and Exchange Commission (“SEC”).
A.
(1)
The defendants move to dismiss Count One, the plaintiffs’
Section 20(a) Control-Person claim, as untimely.
The plaintiffs allege that the defendants are liable under
Section 20(a) of the Exchange Act because they controlled Madoff
and BLMIS, and Madoff and BLMIS violated Section 10(b) and Rule
10b-5. Section 20(a) provides that:
Every person who, directly, or indirectly,
controls any person liable under any
provision of this chapter or of any rule
or regulation thereunder shall also be
liable jointly and severally with and to
the same extent as such controlled person
to any person to whom such controlled
person is liable . . . unless the
controlling person acted in good faith and
did not directly or indirectly induce the
16
act or acts constituting the violation or
cause of action.
15 U.S.C. § 78t(a). “To establish a prima facie case of control
person liability, a plaintiff must show (1) a primary violation
by the controlled person, (2) control of the primary violator by
the defendant, and (3) that the defendant was, in some
meaningful sense, a culpable participant in the controlled
person’s fraud.”
ATSI, 493 F.3d at 108; see also Plumbers, 89
F. Supp. 3d at 621.
Private actions under Sections 10(b) and 20(a) of the
Exchange Act are subject to a two-year statute of limitations
and a five-year statute of repose. In re Bear Stearns Cos., Inc.
Sec., Derivative, & ERISA Litig., 995 F. Supp. 2d 291, 299
(S.D.N.Y. 2014) (collecting cases); Pro Bono Invs., Inc. v.
Gerry, No. 03-cv-4347 (JGK), 2005 WL 2429787, at *7 n.5
(S.D.N.Y. Sept. 30, 2005); Marcus v. Frome, 329 F. Supp. 2d 464,
475 (S.D.N.Y. 2004). The Sarbanes-Oxley Act of 2002 (“SOX”),
codified at 28 U.S.C. § 1658(b), provides that
a private right of action that involves a claim of
fraud, deceit, manipulation, or contrivance in
contravention of a regulatory requirement concerning
the securities laws . . . may be brought not later
than the earlier of (1) 2 years after the discovery of
facts constituting the violation; or (2) 5 years after
such violation.
28 U.S.C. § 1658(b) (emphasis added); Dekalb Cty. Pension Fund
17
v. Transocean Ltd., 817 F.3d 393, 398 (2d Cir. 2016), as amended
(Apr. 29, 2016). “[C]ourts in this district have treated Section
1658(b)(2) as a statute of repose and [ ] stated that the fiveyear period begins to run from the time that the allegedly
fraudulent representations were made.” In re Longtop Fin. Techs.
Ltd. Sec. Litig., 939 F. Supp. 2d 360, 378 (S.D.N.Y. 2013)
(internal quotation marks omitted). SOX extended from three to
five years the statute of repose that previously applied to
securities violations, including violations of Sections 9(f) and
18(a) of the Exchange Act, and which had been held to apply by
analogy to implied private rights of action under Section 10(b).
Dekalb, 817 F.3d at 401-02.
The plaintiffs contend that the statute of repose in
Section 1658(b)(2) does not apply to their Section 20(a) claim
because Section 1658(b)(2) applies only to a “private right of
action that involves a claim of fraud, deceit, manipulation, or
contrivance.” According to the plaintiffs, their control-person
claim under Section 20(a) is not a fraud claim and is not
subject to the statute of repose. The plaintiffs contend that
the four-year general statute of limitations period in 28 U.S.C.
§ 1658(a) for federal claims should apply instead.
The plaintiffs’ argument that the Section 20(a) claim is
not subject to the five-year statute of repose in 28 U.S.C.
18
§ 1658(b)(2) has no merit. Section 1658(b)(2), by its plain
terms, applies to “a private right of action that involves a
claim of fraud.” 28 U.S.C. § 1658(b)(2)(emphasis added). The SAC
alleges that “[t]he Defendants were culpable participants in
Madoff’s and BLMIS’[s] wrongful, manipulative, and deceptive
conduct.” SAC ¶ 360. In Dekalb, the Court of Appeals for the
Second Circuit concluded that Section 1658(b) applies to claims
under Section 9(f) of the Exchange Act for manipulation of stock
prices, and to claims under Section 18(a) of the Exchange Act
for misleading statements in a registration statement, because
both sections created essentially fraud claims. Dekalb, 817 F.3d
at 403-07.
However, the Court of Appeals held that Section
1658(b) did not apply to claims under Section 14 of the Exchange
Act for misleading statements in a proxy statement, because
liability can be imposed under Section 14(a) for negligence in
drafting a proxy statement; fraud is not required. Id. at 408-09
& n.95. Like Section 9(f) and 18(a) claims, a Section 20(a)
claim “involves a claim of fraud.” A Section 20(a) claim
requires fraudulent conduct by the primary wrongdoer and
culpable participation by the alleged control person. ATSI, 493
F.3d at 108. Thus, a Section 20(a) claim “is a private right of
action that involves a claim of fraud, deceit, manipulation, or
contrivance” and is governed by the statute of repose in Section
19
1658(b). See Dusek, 132 F. Supp. 3d at 1347-48; In re Keithley
Instruments, Inc., Derivative Litig., 599 F. Supp. 2d 875, 902
n.22 (N.D. Oh. 2008) (“Plaintiffs’ claims for control person
liability under Section 20(a), which assert derivative liability
for other violations of the Exchange Act, are subject to the
same statute of repose as the Rule 10b–5 claims. In re MBIA Inc.
Sec. Litig., No. 05-cv-03514(LLS), 2007 WL 473708, at *9
(S.D.N.Y. Feb. 14, 2007).”).
Under the five-year statute of repose in 28 U.S.C.
§ 1658(b), the plaintiffs’ claims against the defendants are
time-barred. The Madoff arrest took place on December 11, 2008,
the last date on which there could have been a securities
violation giving rise to control person liability. Under Section
1658(b)(2), the plaintiffs’ right to bring a control-person
claim against the defendants expired on December 11, 2013.
The plaintiffs argue, however, that the five-year statute
of repose should be tolled under American Pipe & Construction
Co. v. Utah, 414 U.S. 538 (1974). In American Pipe, the Supreme
Court held that “the commencement of a class action suspends the
applicable statute of limitations as to all asserted members of
the class who would have been parties had the suit been
permitted to continue as a class action.” Id. at 554. The
plaintiffs argue that they were members of the Shapiro class in
20
the case filed in 2011, while the clock for the statute of
repose was otherwise ticking, and that as a result, the statute
of repose should be tolled during the pendency of the Shapiro
action. However, as the defendants point out, the Court of
Appeals for the Second Circuit held that the American Pipe
tolling rule does not apply to statutes of repose because
statutes of repose, unlike statutes of limitations, “affect the
underlying right, not just the remedy, and thus they run without
interruption once the necessary triggering event has occurred,
even if equitable considerations would warrant tolling or even
if the plaintiff has not yet, or could not yet have, discovered
that she has a cause of action.” Police & Fire Ret. Sys. of City
of Detroit v. IndyMac MBS, Inc., 721 F.3d 95, 106 (2d Cir.
2013)(internal citation omitted). 3 “In other words, while
statutes of limitations are often subject to tolling principles,
a statute of repose extinguishes a plaintiff’s cause of action
after the passage of a fixed period of time, usually measured
from one of the defendant’s acts.” Id. (internal quotation marks
3
Although IndyMac analyzed the three-year statute of repose in Section 13 of
the Securities Act of 1933 (“Securities Act”), 15 U.S.C. § 77m, 721 F.3d at
100, “the Second Circuit’s reasoning in IndyMac was based on general
principles applicable to all statutes of repose.” See In re Bear Stearns, 995
F. Supp. 2d at 300 (applying IndyMac’s rule against tolling to the statute of
repose for a Section 10(b) claim). The Supreme Court granted a petition for
certiorari in IndyMac, but the Court dismissed the writ as improvidently
granted on September 29, 2014. Pub. Emps.’ Ret. Sys. of Mississippi v.
IndyMac MBS, Inc., 134 S. Ct. 1515 (Mar. 10, 2014), cert. dismissed as
improvidently granted, 135 S. Ct. 42 (Sept. 29, 2014).
21
and citations omitted). The plaintiffs’ argument that the
statute of repose on their Section 20(a) claim was tolled by the
class action in Shapiro is therefore foreclosed by IndyMac. 4
The plaintiffs acknowledge that their position on tolling
the statute of repose is contrary to binding Second Circuit
precedent, but they argue that pursuant to Van Dusen v. Barrack,
376 U.S. 612, 639 (1964), this Court should apply the law of the
Third Circuit, rather than the law of the Second Circuit. This
argument is unavailing. 5 Although this case was originally
4
In Dusek, the district court for the Middle District of Florida considered a
virtually identical claim against JP Morgan under Section 20(a) of the
Exchange Act. 132 F. Supp. 3d at 1347-48. The district court concluded that
the Section 20(a) claim was untimely because the final violation occurred on
or before December 11, 2008, and the right to bring the claim expired on
December 11, 2013, under 28 U.S.C. § 1658(b). Id. at 1348. The district court
also concluded that the American Pipe tolling rule did not apply to toll the
statute of repose. Id. at 1349-50. The court reasoned that the Supreme Court
and nearly all the Courts of Appeals to have considered the issue, have
described American Pipe tolling as an equitable doctrine and therefore it
does not extend a statute of repose. Id. at 1350. In Indy Mac, the Court of
Appeals for the Second Circuit stated that the American Pipe tolling does not
apply to statutes of repose regardless of whether the tolling rule is
equitable or legal in nature. IndyMac, 721 F.3d at 109; see Dekalb, 817 F.3d
at 414.
5 In any event, the plaintiffs do not point to any cases from the Third
Circuit Court of Appeals that are inconsistent with the approach of the
Second Circuit Court of Appeals. A district court in the District of New
Jersey analyzed a Section 20(a) claim under 28 U.S.C. § 1658(b)(2),
concluding, as this Court did above, that the five-year period was a statute
of repose and that it applied to a control person liability claim. N. Sound
Capital LLC v. Merck & Co., No. 3:13-CV-7240 (FLW) (DEA), 2015 WL 5055769, at
*5 (D.N.J. Aug. 26, 2015), appeal filed, (3d Cir. Jan. 15, 2016). However,
that court went on to find that the tolling rule under American Pipe is a
legal tolling rule, not an equitable tolling rule, and does apply to a
statute of repose. Id. at *6-*8. This issue is presently on appeal to the
Third Circuit Court of Appeals. As explained in the preceding footnote, the
issue of whether American Pipe tolling is legal or equitable is not
dispositive in this Circuit and the North Sound Capital decision is contrary
to the IndyMac and Dekalb decisions from the Court of Appeals for the Second
Circuit.
22
transferred from the District of New Jersey, the Van Dusen rule
provides that a transferee court is obligated to apply “the
state law that would have been applied if there had been no
change of venue.” Id. The Van Dusen rule does not apply to
federal law.
Although federal courts sometimes arrive at different
constructions of federal law, federal law (unlike
state law) is supposed to be unitary. Thus, the rule
of Van Dusen does not apply by analogy where a case
is transferred under § 1407 to a federal court that
has a different construction of relevant federal law
than the federal court in which the action was filed.
Menowitz v. Brown, 991 F.2d 36, 40 (2d Cir. 1993) (per curiam).
The plaintiffs contend that Menowitz does not apply to this case
because the transfer was made pursuant to Section 1404, not
Section 1407. But in the Section 1404 context, courts also have
concluded that the transferee court should apply its own
interpretation of federal law. See Ctr. Cadillac, Inc. v. Bank
Leumi Tr. Co. of N.Y., 808 F. Supp. 213, 224 (S.D.N.Y. 1992),
aff’d, 99 F.3d 401 (2d Cir. 1995). When an action is transferred
pursuant to Section 1404(a), “the weight of well-reasoned
authority supports the application of the substantive federal
law of the transferee court. . . . Federal courts are competent
to decide issues of federal law and should not be placed in the
awkward position of having to apply the federal law of another
circuit when it conflicts with their own circuit’s
23
interpretation.” Id.; see also Sharette v. Credit Suisse Int’l,
127 F. Supp. 3d 60, 74 (S.D.N.Y. 2015); Nw. Mut. Life Ins. Co.
v. Bank of Am. Sec. LLC, 254 F. Supp. 2d 390, 396-97 (S.D.N.Y.
2003) (collecting cases). Therefore, the precedent from the
Court of Appeals for the Second Circuit is controlling in this
case. Accordingly, the five-year statute of repose bars the
plaintiffs’ Section 20(a) claim because the statute expired in
December 2013, the claim was not filed until March 2014, and the
statute of repose cannot be tolled under Indymac. Therefore, the
Section 20(a) claim should be dismissed as untimely.
Moreover, American Pipe tolling would not help the
plaintiffs in this case. The plaintiffs’ Section 20(a) claim
would still be time-barred. Tolling is available only when the
earlier-filed class action “involved exactly the same cause of
action subsequently asserted” in the latter action. In re Bear
Stearns, 995 F. Supp. 2d at 303 (internal quotation marks and
citations omitted); see also Johnson v. Ry. Express Agency.,
Inc., 421 U.S. 454, 467 (1975); Card v. Duker, 122 F. App’x 347,
349 (9th Cir. 2005) (“The Supreme Court has thus not extended
tolling due to class litigation beyond American Pipe’s narrow
allowance for identical causes of action brought where the class
was decertified.”).
24
The Shapiro putative class asserted several state law
causes of action for breach of trust, aiding and abetting
embezzlement, aiding and abetting breach of fiduciary duty,
conversion, aiding and abetting conversion, unjust enrichment,
breach of fiduciary duty, commercial bad faith, and gross
negligence. Chaitman Decl., Ex. C. The plaintiffs in this case,
the Friedman plaintiffs, argue that their Section 20(a) claim is
“substantially similar” to the claims of the Shapiro plaintiffs
because the claims in Shapiro and the claims in this case are
premised on fraud. But the Shapiro action did not allege that JP
Morgan controlled BLMIS, did not assert any federal claims, and
did not name Cassa or Hogan as defendants. Therefore, the
Section 20(a) claim is not “substantially similar” much less
identical to the claims in Shapiro.
The plaintiffs are also not helped by American Pipe tolling
because they were never members of the Shapiro class and thus
had no basis to rely on the pendency of that lawsuit to avoid
bringing their own claims. The defendants point out that the
Shapiro class included only so-called “net losers” of the Madoff
Ponzi scheme, investors who withdrew less money than they had
originally invested with Madoff and BLMIS, as opposed to net
winners, investors, like the Friedman plaintiffs, who over time
withdrew more money than they had invested. The Friedman
25
plaintiffs argue that the Shapiro complaint defined the class as
a “proposed nationwide class consisting of all persons or
entities who, directly, had capital invested with [BLMIS], as of
December 12, 2008” and was broad enough to include net winners
and net losers. Chaitman Decl., Ex. C ¶ 289.
The plaintiffs’ contention that they were members of the
Shapiro class is without merit. The Shapiro complaint sought $19
billion in damages. Id. ¶¶ 362, 370. By contrast, in this case,
the SAC seeks $64.8 billion in damages, an amount that clearly
was not covered by the Shapiro class complaint. SAC ¶ 3. The
plaintiffs seek to recover the value of the securities listed on
their November 2008 Statements including all the fictitious
profits that Madoff fraudulently represented were in the
investors’ accounts. SAC ¶ 16.
The record of the Shapiro settlement conference further
supports the defendants’ position that the Friedman plaintiffs
were never part of the Shapiro class. A class was never
certified for all purposes in Shapiro. Judge McMahon in Shapiro
issued an order preliminarily approving a settlement – the court
certified the Consolidated Class Action as a class action on
behalf of a settlement class comprised of “All BLMIS customers,
. . . who directly had capital invested with BLMIS as of the
Filing Date and thus, under the net investment method upheld by
26
the United State Court of Appeals for the Second Circuit, had
net losses (“Net Losses”) as of the Filing Date, (“Net
Losers”)[.]” Shapiro v. JP Morgan Chase & Co., No. 11-cv-8331,
Dkt. No. 52, at 2-3 (S.D.N.Y. Jan. 10, 2014).
Attorney Helen Davis Chaitman, representing net winners,
objected to the settlement in the Shapiro case. 6 In response to
the net winners’ objection to the settlement, Judge McMahon
indicated that the net winners could not “object to a settlement
that by its terms d[id] not include [them].” Id., Dkt. No. 68,
Transcript, at 10 (S.D.N.Y. Mar. 21, 2014). She also stated
that:
The law is pretty clear that the statute of
limitations on absent class members tolls with the
filing of a complaint. If the definition of a class
member is broad enough in the complaint to include
you, you certainly have a very good argument to make
to whatever judge gets that case that it relates
back, and that you're not time-barred.
Id. In her written memorandum opinion and order approving the
final settlement, Judge Mahon noted that a “decision was made
not to include [the net winners] in the definition of the class”
after the Bankruptcy Court and the Second Circuit Court of
Appeals concluded that net winners should not be allowed to
recover the money they thought they had earned from their BLMIS
6
Ms. Chaitman is also representing the plaintiffs in this case.
27
investments. Shapiro, 2014 WL 1224666, at *9 (citing In re
Bernard L. Madoff Inv. Sec. LLC, 654 F.3d 229, 242 (2d Cir.
2011)). There was “nothing for [the net winners] to ‘opt out’
of, because any claims [the net winners] might have against JP
Morgan are by definition not compromised by the settlement.” Id.
The Shapiro class complaint, filed November 17, 2011, was
filed nearly three years after the last securities violations on
December 8, 2008, the day of Madoff’s arrest and after the
decision of the Court of Appeals on August 16, 2011, in In re
Bernard L. Madoff Investment Securities LLC that would have
alerted the net winner Friedman plaintiffs that they were not
similarly situated to the net loser plaintiffs. Nevertheless,
the Friedman plaintiffs filed their complaint on March 28, 2014,
far outside the period permitted by the statute of repose.
Because the Friedman plaintiffs are not net losers, they were
never part of the conditional class that was approved for
settlement purposes. The Friedman plaintiffs’ argument that they
were part of the original class described in the Shapiro
complaint, pre-settlement, ignores the clear import of the class
complaint in Shapiro, filed after the Second Circuit Court of
Appeals concluded that net winners were not similarly situated
to net losers—the class on whose behalf the Shapiro action was
brought. Therefore, for this additional reason, the Friedman
28
plaintiffs cannot rely on the pendency of the Shapiro class
action for tolling purposes.
Therefore, the Section 20(a) claim must be dismissed
because it is time-barred.
(2)
The defendants also argue that the plaintiffs’ Section
20(a) claim fails because the SAC does not allege that the
defendants controlled BLMIS or that they were culpable
participants in Madoff’s Ponzi scheme.
“To establish a prima facie case of control person
liability, a plaintiff must show (1) a primary violation by the
controlled person, (2) control of the primary violator by the
defendant, and (3) that the defendant was, in some meaningful
sense, a culpable participant in the controlled person’s
fraud.” ATSI, 493 F.3d at 108.
“The weight of well-reasoned authority is that to
withstand a motion to dismiss a section 20(a) controlling person
liability claim, a plaintiff must allege some level of culpable
participation at least approximating recklessness in the section
10(b) context.” Edison Fund v. Cogent Inv. Strategies Fund.,
Ltd., 551 F. Supp. 2d 210, 231 (S.D.N.Y. 2008) (internal
quotation marks omitted).
While a plaintiff can satisfy the
pleading requirement of control by alleging sufficient facts to
29
state a plausible claim of control, the heightened pleading
standards of Rule 9(b) and the PSLRA apply to the pleading of
culpable participation. Special Situations Fund III QP, L.P. v.
Deloitte Touche Tohmatsu CPA, Ltd., 33 F. Supp. 3d 401, 437-39
(S.D.N.Y. 2014) (“‘culpable participation’ is an element of a
Section 20(a) claim that must be pleaded with the same
particularity as scienter”), aff’d, No. 15-1813 (2d Cir. Apr. 8,
2015); Floyd v. Liechtung, No. 10-cv-4254 (PAC), 2013 WL
1195114, at *6 (S.D.N.Y. Mar. 25, 2013); McIntire v. China
MediaExpress Holdings, Inc., 927 F. Supp. 2d 105, 122 (S.D.N.Y.
2013); Cohen v. Stevanovich, 722 F. Supp. 2d 416, 435 (S.D.N.Y.
2010).
Control is the sine qua non for Section 20(a) liability.
“[A] determination of [Section] 20(a) liability requires an
individualized determination of a defendant’s control of the
primary violator, as well as of the defendant’s particular
culpability.” Boguslavsky v. Kaplan, 159 F.3d 715, 720 (2d Cir.
1998). “Control over a primary violator may be established by
showing that the defendant possessed the power to direct or
cause the direction of the management and policies of a person,
whether through the ownership of voting securities, by contract,
or otherwise.” SEC v. First Jersey Sec., 101 F.3d 1450, 1472-73
(2d Cir. 1996) (internal quotation marks and citation omitted).
30
“[E]xercise of influence, without power to direct or cause the
direction of management and policies through ownership of voting
securities, by contract, or in any other direct way, is not
sufficient to establish control for purposes of Section 20(a).”
In re Alstom SA, 406 F. Supp. 2d 433, 487 (S.D.N.Y. 2005). To
establish control person liability, actual control is essential,
namely actual control over the transactions in question. Id.
(collecting cases).
In this case, the SAC alleges that the BLMIS 703 Account,
housed at JP Morgan, received deposits and transfers of
approximately $150 billion, almost exclusively from BLMIS
investors, but the funds were not used for the purchase or sale
of stocks, bonds, or other securities as Madoff had promised.
SAC, Ex. C ¶ 10. The SAC alleges that the defendants had “the
power and ability and the obligation to terminate their banking
relationship” with BLMIS, Madoff, and Madoff’s associates. SAC ¶
351. The SAC also alleges that the defendants’ control over
BLMIS and Madoff is evident because JP Morgan was “essential to
the survival” of the Ponzi scheme, the defendants successfully
forced Madoff and Levy to stop their illegal round-trip checking
transactions, and the defendants had the “ability to shut Madoff
down at any point in time.” SAC ¶ 355. But these allegations do
not point to any of the typical indicia of control such as
31
showing that JP Morgan was an owner of BLMIS, participated in
BLMIS management, or directed any of the fraudulent activities.
See First Jersey Sec., 101 F.3d at 1472-73; Patriot Expl., LLC
v. SandRidge Energy, Inc., 951 F. Supp. 2d 331, 362 (D. Conn.
2013). To the extent the SAC alleges that JP Morgan could have
ended the Ponzi scheme by investigating BLMIS’s fraud and that
JP Morgan was essential to the Ponzi scheme, allegations that a
“scheme to defraud would not have succeeded but-for Defendants’
involvement,” are insufficient because “even significant
participation in [a primary violator’s] scheme to defraud is not
equivalent to directing [the primary violator] to engage in that
scheme.” See Floyd, 2013 WL 1195114, at *6 (internal quotation
marks and citation omitted).
The court in Dusek similarly noted that the plaintiffs’
allegations that JP Morgan was “indispensable to Madoff’s
fraudulent scheme” were “insufficient to show that defendants
had power to control the general affairs of BLMIS or that they
had the requisite power to directly or indirectly control or
influence the specific corporate policy which resulted in the
primary violations.” Dusek, 132 F. Supp. 3d at 1351.
The SAC also alleges that as part of the longstanding
banking relationship between JP Morgan and BLMIS and Madoff, the
defendants “substantially assisted the crimes of Madoff and
32
BLMIS” by “funneling approximately $250 million into BLMIS” by
way of investments into feeder funds and lending $100 million to
BLMIS. SAC ¶ 379. But alleging that the defendants were
investors in the Ponzi scheme does not show that the defendants
had the “power to direct” management and policies or exercise
control in any way, beyond the mere exercise of influence. See
Alstom, 406 F. Supp. 2d at 487. And the allegation that JP
Morgan provided commercial lending services is insufficient to
plead control liability. See Paracor Fin., Inc. v. Gen. Elec.
Capital Corp., 96 F.3d 1151, 1162 (9th Cir. 1996) (collecting
cases where courts “have been very reluctant to treat lenders as
controlling persons of their borrowers”); Schlifke v. Seafirst
Corp., 866 F.2d 935, 949 (7th Cir. 1989) (“[T]he fact that the
Bank extended a loan to a company to finance its investment
programs and took measures to secure its loans does not
establish actual exercise of control.”).
Moreover, the complaint does not plausibly allege any facts
that show JP Morgan had specific control over the actions that
are the basis of the securities violations by BLMIS and Madoff.
In similar cases, courts have looked to specific indicia of
control over the securities violations such as approval of the
means of raising investment capital and participation in making
false disclosures to investors, which are not alleged in this
33
case. See Poptech, L.P. v. Stewardship Credit Arbitrage Fund,
LLC, 792 F. Supp. 2d 328, 339-40 (D. Conn. 2011); In re Beacon
Associates Litig., 745 F. Supp. 2d 386, 411 (S.D.N.Y. 2010)
(individual executives of a Madoff feeder fund were alleged to
be control persons because they had discretion over investment
advice, oversight, and administrative services that the fund
provided to clients and the complaint identified specific false
statements to clients that were attributable to the directors);
Anwar v. Fairfield Greenwich Ltd., 728 F. Supp. 2d 372, 413
(S.D.N.Y. 2010). Moreover, as the Dusek court noted, allegations
that Madoff refused to allow JP Morgan to conduct due diligence
further undercut the plaintiffs’ allegations that JP Morgan
controlled BLMIS. See Dusek, 132 F. Supp. 3d at 1351; SAC ¶¶
258, 260-61.
With respect to the culpable participation element of the
Section 20(a) claim, although the SAC pleads that JP Morgan had
an ongoing banking relationship with Madoff and BLMIS, the SAC
fails to allege facts that show that JP Morgan was a culpable
participant in the primary violations of BLMIS and Madoff.
“[P]laintiffs must plead with particularity facts giving
rise to a strong inference that the controlling person knew or
should have known that the primary violator, over whom the
person had control, was engaging in fraudulent conduct.” In re
34
Glob. Crossing, Ltd. Sec. Litig., No. 02-cv-910 (GEL), 2005 WL
1907005, at *5 (S.D.N.Y. Aug. 8, 2005). “Because Section 20(a)
liability requires an individualized determination . . . of the
defendant [control person’s] particular culpability, it stands
to reason that an allegation of culpable participation requires
particularized facts of the controlling person’s conscious
misbehavior or recklessness.” Special Situations, 33 F. Supp. 3d
at 438 (internal quotation marks and citation omitted).
In this case, the SAC alleges that the defendants had
certain obligations under federal laws and regulations to
monitor and report suspicious activity, particularly activity
related to possible money laundering of funds derived from
illegal activities. SAC ¶ 67; SAC, Ex. C ¶¶ 5-6. JP Morgan did
not make any reports of suspicious activity to the government
until after Madoff was arrested. SAC ¶ 112. The SAC alleges that
JP Morgan could have discovered the Ponzi scheme and that Madoff
was not investing the customers’ funds. SAC ¶¶ 349-50 (“At any
point in time from the early 1990s through 2008, the Defendants
were confronted on a daily basis with documentary evidence that
Madoff was not purchasing securities for his customers . . .”);
SAC ¶¶ 157-58, 179-80.
These allegations, at most, support an inference that JP
Morgan had constructive, not actual, knowledge of the Madoff
35
Ponzi scheme and that JP Morgan and its employees were
negligent, not fraudulent. The capacity to prevent the
fraudulent conduct is, without more, insufficient to plead
culpable participation in a scheme. Belmont v. MB Inv. Partners,
Inc., 708 F.3d 470, 486 (3d Cir. 2013) (“[C]ontrary to the
Investors’ contention, there is no support for the proposition
that reckless inaction without knowledge of the underlying fraud
is sufficient to establish culpable participation for purposes
of a § 20(a) claim.”).
The plaintiffs also argue that JP Morgan directly
participated in BLMIS’s and Madoff’s Ponzi scheme by
“effectuat[ing] every single fraudulent transfer” of funds to
Madoff’s coconspirators, and that JP Morgan made “exorbitant
profits” through its use of the funds in the 703 Account. Pls.’
Opp. at 20. These allegations, however, do not raise an
inference that the defendants were culpable participants in the
fraud by Madoff and BLMIS for the same reasons courts have
rejected similar allegations of fraud and 10b-5 violations
against banks. As Judge Schwartz explained, “the Second Circuit
has repeatedly held that routine and general benefits that are
derived in the ordinary course of business do not constitute the
type of ‘concrete benefit’” necessary to raise an inference of
36
fraudulent intent. Schmidt v. Fleet Bank, No. 96-cv-5030 (AGS),
1998 WL 47827, at *9 (S.D.N.Y. Feb. 4, 1998).
[G]iven that all Ponzi schemes are doomed to
collapse, . . . and that a bank cannot reasonably
expect to retain the proceeds of a Ponzi scheme as
can an individual, logic defeats the inference that
[a bank] would expose itself to substantial
financial liability and reputational harm by
participating in [the] scheme simply for the shortterm benefit of having access to additional
deposits.
Id. at *10 (internal citation omitted). The more cogent and
compelling inference is that Madoff’s fraud went undetected, and
that the defendants had an “inaccurate understanding” of BLMIS
and Madoff’s business. SAC, Ex. C ¶ 20; see Meridian Horizon
Fund, LP v. KPMG Cayman, 487 F. App’x 636, 641 (2d Cir. 2011)
(summary order) (noting Madoff’s “proficiency in covering up his
scheme and deceiving . . . financial professionals”).
Therefore, in addition to being dismissed because it is
untimely, Count 1 should also be dismissed because the SAC does
not sufficiently allege that the defendants controlled BLMIS and
Madoff and that the defendants were culpable participants in
Madoff’s Ponzi scheme. 7
7
The Dusek court also concluded that the Section 20(a) claim should be
dismissed because the plaintiffs, who were net winners, had insufficiently
alleged that they suffered actual damage. Dusek, 132 F. Supp. 3d at 1352-53
(“[P]laintiffs did not suffer any loss with respect to the imaginary profits
listed on their account statements.”). The Friedman plaintiffs claim that, at
the very least, they were deprived of the use of their funds for the years
while the funds were invested with BLMIS. It is unnecessary to reach this
alternative asserted ground for dismissing Count 1.
37
B.
The defendants move to dismiss Count 9, the Federal RICO
claim, arguing that the claim is barred by the PSLRA. Section
107 of the PSRLA provides that “no person may rely upon any
conduct that would have been actionable as fraud in the purchase
or sale of securities to establish a violation of section 1962.”
18 U.S.C. § 1964(c). This provision of the PSRLA creates a bar
to RICO claims that are predicated on the same conduct that can
be the basis for a securities fraud action.
The plaintiffs contend that their RICO claim is exempt from
the PSLRA bar because the RICO claim is pleaded only in the
alternative. They argue that if their allegations do not state a
claim for a violation of Section 20(a), then the PSLRA bar
cannot apply because they have not alleged “conduct that would
have been actionable as fraud.” This argument, however, is
specious. In MLSMK Investment Co. v. JP Morgan Chase & Co., 651
F.3d 268 (2d Cir. 2011), the Court of Appeals addressed the
issue of whether the PSLRA bar to RICO claims applies to “claims
based on conduct that could be actionable under the securities
laws even when the [particular] plaintiff
. . . cannot bring a
cause of action under the securities laws.” Id. at 274 (internal
quotation marks and citation omitted). The Court of Appeals held
that the PSLRA bar applied to a plaintiff who was unable to
bring a securities fraud claim against a defendant because the
38
plaintiff asserted a claim for aiding and abetting liability, a
ground of liability for which there is no private right of
action. The Court of Appeals held that “section 107 of the PSLRA
bars civil RICO claims alleging predicate acts of securities
fraud, even where a plaintiff cannot itself pursue a securities
fraud action against the defendant.” Id. at 277 (emphasis
added).
The plaintiffs’ RICO claim in this case is based on
allegations of mail and wire fraud, in violation of 18 U.S.C. §§
1341 and 1343. SAC ¶ 428. The plaintiffs allege that Madoff and
BLMIS sent misleading communications through the mails to the
BLMIS customers. SAC ¶ 426. This is the same conduct that the
plaintiffs alleged was part of the underlying alleged primary
violation of Section 10(b) of the Exchange Act that the
plaintiffs alleged the defendants were responsible for as
control persons. SAC ¶¶ 335-45. Stripped of these allegations of
securities fraud by Madoff and BLMIS, which the plaintiffs
cannot rely upon as a result of the PSLRA bar, the plaintiffs
have no RICO claim. The fact that the plaintiffs have not stated
a claim for Section 20(a) control-person liability is irrelevant
in the same way that it was irrelevant that the MLSMK plaintiff
could not state an aiding and abetting claim. The plaintiffs
claim in this case, even if pleaded in the alternative, is
39
foreclosed by the MLSMK holding. See MLSMK, 651 F.3d at 279
(noting that RICO bar came into existence in response to the
concern over gamesmanship in pleadings and that the RICO bar
applied both when RICO claims were pleaded in the alternative
and when a plaintiff pleaded only a civil RICO claim); Dusek,
132 F. Supp. 3d at 1353-54 (dismissing the Federal RICO claim as
barred by the PSLRA). Therefore, the RICO claim should be
dismissed because it is barred by the PSLRA.
The plaintiffs’ RICO claim should also be dismissed because
it is time-barred. The statute of limitations for a civil RICO
claim is four years. In re Merrill Lynch Litig., 154 F.3d 56, 58
(2d Cir. 1998). The limitations period begins to run when the
plaintiff discovers or should have discovered the RICO injury.
Id. The plaintiffs argue that the RICO claim only accrued on
February 3, 2011, when the Madoff Trustee filed the unsealed
complaint against JP Morgan in In re Bernard L. Madoff Inv. Sec.
LLC, 654 F.3d 229 (2d Cir. 2011). But the plaintiffs discovered
their injury—that they did not have the funds Madoff had
purported to invest for them—arising from the Madoff Ponzi
scheme on December 11, 2008, when Madoff was arrested, not three
years later. 8 Therefore, the Federal RICO claim should be
8
For the reasons explained above, particularly because the Friedman
plaintiffs were never part of the Shapiro class and the Shapiro complaint did
not include a RICO claim, the statute of limitations on the RICO claim was
not tolled during the pendency of the Shapiro class action.
40
dismissed on this ground as well. See Koch v. Christie’s Int’l
PLC, 699 F.3d 141, 149-51 (2d Cir. 2012).
C.
The defendants move to dismiss the plaintiffs’ state law
claims, Counts 2 to 8 and Count 10, because they are barred by
SLUSA. The SAC alleges that the defendants violated the NJUSL,
SAC ¶¶ 363-66; aided and abetted embezzlement by Madoff and
BLMIS, SAC ¶¶ 367-81; aided and abetted breach of fiduciary
duty, SAC ¶¶ 382-94; were unjustly enriched by receiving
property that they acquired as result of participating in
Madoff’s Ponzi scheme, SAC ¶¶ 395-402; breached a fiduciary duty
to the plaintiffs to prevent misappropriation of funds the
defendants knew that BLMIS held in the 703 Account, SAC ¶¶ 40308; acted in commercial bad faith by facilitating the Ponzi
scheme, SAC ¶¶ 409-13; were grossly negligent because despite
having knowledge of how Madoff and BLMIS were using the 703
Account, the defendants did not investigate BLMIS or close the
account, SAC ¶¶ 414-18; and violated the New Jersey RICO
statute, N.J.S.A. § 2C:41-2(c). The gist of the state law claims
is that the defendants knew that Madoff and BLMIS were not
purchasing securities with the customers’ money and were instead
embezzling funds and did nothing to intervene despite an
obligation to do so. See, e.g., SAC ¶ 384.
41
SLUSA provides that “[n]o covered class action based upon
the statutory or common law of any State or subdivision thereof
may be maintained in any State or Federal court by any private
party alleging . . . a misrepresentation or omission of a
material fact in connection with the purchase or sale of a
covered security.” 15 U.S.C. § 78bb(f)(1). There is no dispute
that the current complaint alleges a “covered class action” and
that none of the exceptions in the statute apply. SLUSA
precludes state-law class action claims that are predicated on
allegations of fraudulent securities transactions that would be
actionable under the Exchange Act. In re Herald, 730 F.3d 112,
119 (2d Cir. 2013). In Herald, the plaintiffs, investors in the
Madoff Ponzi scheme, brought a class action against JP Morgan
and Bank of New York, the banks where the BLMIS’s accounts were
held. Id. at 116-17. The Court of Appeals concluded that
The complaints, fairly read, charge that JP Morgan
and BNY knew of the fraud, failed to disclose the
fraud, and helped the fraud succeed—in essence,
that JP Morgan and BNY were complicit[] in Madoff’s
fraud. These allegations are more than sufficient
to satisfy SLUSA’s requirement that the complaint
allege a “misrepresentation or omission of a
material fact in connection with the purchase or
sale of a covered security.”
Id. at 119. The Court of Appeals held that even claims “sounding
in negligence, breach of fiduciary duty, and the like” were
precluded under SLUSA because “it is obvious that the banks’
42
liability, under any claim, is premised on their participation
in, knowledge of, or, at minimum, cognizable disregard of Madoff
Securities’ securities fraud.” Id. at n.7.
In this case, the plaintiffs acknowledge that “some” of
their claims are precluded under SLUSA but contend that other
claims that are “not fraud-based” are not precluded. Pls.’ Opp.
at 32. Although the plaintiffs seek to avoid incorporating the
facts alleged in connection with the Section 20(a) claim and
NJUSL claim into their state law claims, see, e.g., SAC ¶ 367,
this attempt at artful pleading does not take the state law
claims outside the scope of SLUSA. See Herald, 730 F.3d at 119;
In re Kingate Mgmt. Ltd. Litig., 784 F.3d 128, 149 (2d Cir.
2015) (“[P]laintiffs do not evade SLUSA by camouflaging
allegations that satisfy this standard in the guise of
allegations that do not. When the success of a class action
claim depends on a showing that the defendant committed false
conduct conforming to SLUSA’s specifications, the claim will be
subject to SLUSA, notwithstanding that the claim asserts
liability on the part of the defendant under a state law theory
that does not include false conduct as an essential element—such
as breach of a contractual right to fair dealing.”). Therefore,
the defendants’ motion to dismiss the state law claims as
precluded by SLUSA is granted. Any further amendment would be
43
futile. Accordingly, Counts 2 to 8 and Count 10 are dismissed
with prejudice.
The state law claims should also be dismissed for lack of
jurisdiction. The federal claims have been dismissed, and the
Court would decline to exercise supplemental jurisdiction over
the state law claims. See 28 U.S.C. § 1367(c); Lawtone-Bowles v.
City of New York, Dep’t of Sanitation, 22 F. Supp. 3d 341, 35253 (S.D.N.Y. 2014); Nat’l Westminster Bank, PLC v. Grant
Prideco, Inc., 343 F. Supp. 2d 256, 258 (S.D.N.Y. 2004). 9
9 The plaintiffs conceded at the argument of the current motion that they do
not contend that there is jurisdiction under the Class Action Fairness Act
(“CAFA”), 28 U.S.C. § 1332(d)(9)(A).
44
CONCLUSION
The Court has considered all of the remaining arguments of
the parties. To the extent not specifically addressed above,
they are either moot or without merit. For the foregoing
reasons, the defendants’ motion to dismiss is granted. The Clerk
is directed to enter judgment dismissing this action and closing
the case. The Clerk is also directed to close all pending
motions.
SO ORDERED.
Dated:
New York, New York
May 18, 2016
___________/s/______________
John G. Koeltl
United States District Judge
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