Camilo et al v. Nieves et al

Filing 111

OPINION AND ORDER adopting Report and Recommendation re 101 Report and Recommendation. The Court hereby ADOPTS IN TOTO the Report and Recommendation entered by Magistrate Judge Bruce J. McGiverin. IT IS SO ORDERED. Signed by Judge Daniel R. Dominguez on 12/16/2013. (JR) Modified on 12/17/2013 as to title (er).

UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF PUERTO RICO

NOMAR CAMILO, et. al.,
Plaintiffs

Civil No. 10-2150 (DRD)

v.
ALBERT NIEVES, et. al.,
Defendants

OPINION AND ORDER
ADOPTING REPORT AND RECOMMENDATION

Pending before the Court are Defendants’ Nominal Defendants’ Motion to Dismiss
Plaintiffs’ Verified Shareholder Derivative Action Complaint or, in the Alternative, for Judgment
on the Pleadings (Docket No. 87), and Motion in Request of Judgment on the Pleadings (Docket
No. 88). The Court referred all pretrial motions to Magistrate Judge Bruce J. McGiverin for a
Report and Recommendation (Docket No. 85), which was issued on November 1, 2013 (Docket
No. 101).
In the Report and Recommendation, Magistrate Judge McGiverin recommends that
Defendants’ motions be granted. The Magistrate Judge reasoned that Plaintiffs’ claim must be
dismissed because they failed to allege factual assertions that would demonstrate the element
of scienter required in a securities fraud action. Id.
Plaintiffs’ opposed the conclusions reached in the Report and Recommendation, alleging
that they have sufficiently pleaded the requisite of scienter and that the verified complaint states
a plausible claim as to the allegations under the Securities and Exchange Act. (Docket No.
103).
Defendant Nieves responded to Plaintiffs’ opposition addressing the requisite of scienter
and the effect of its lacking in a case for alleged violation of the Securities and Exchange Act

(Docket No. 108). Nieves further stressed that he did not act with scienter, nor violated the
antifraud provisions with intent to deceive or defraud Plaintiffs. Id. at ¶15.
Upon

the

Court’s

de

novo

review

of

the

Magistrate

Judge’s

Report

and

Recommendation, pursuant to the standard discussed in Section I, infra, the Court hereby
ADOPTS IN TOTO the Report and Recommendation as discussed herein.

I.

MAGISTRATE’S REPORT AND RECOMMENDATION

The Court may refer dispositive motions to a United States Magistrate Judge for a
Report and Recommendation pursuant to 28 U.S.C. § 636(b)(1)(B). See also Fed.R.Civ.P.
72(b); D.P.R. Civ. R. 72(a); and Mathews v. Weber, 423 U.S. 261 (1976). Nonetheless, an
adversely affected party may contest the Magistrate Judge’s Report and Recommendation by
filing its objections to the recommendations made. Fed.R.Civ.P. 72(b). In such respect, 28
U.S.C. § 636(b)(1), in pertinent part, provides that
any party may serve and file written objections to such proposed findings and
recommendations as provided by rules of court. A judge of the court shall
make a de novo determination of those portions of the report or specified
proposed findings or recommendations to which objection is made. A judge
of the court may accept, reject, or modify, in whole or in part, the findings or
recommendations made by the magistrate judge.
“Absent objection, ... [a] district court ha[s] a right to assume that [the affected party]
agree[s] to the magistrate's recommendation.” Templeman v. Chris Craft Corp., 770 F.2d 245,
247 (1st Cir. 1985), cert. denied, 474 U.S. 1021 (1985). Additionally, “failure to raise objections
to the Report and Recommendation waives that party’s right to review in the district court and
those claims not preserved by such objections are precluded upon appeal.”

Davet v.

Maccarone, 973 F.2d 22, 30-31 (1st Cir. 1992); see also Henley Drilling Co. v. McGee, 36 F.3d
143, 150-51 (1st Cir. 1994) (holding that objections are required when challenging findings
actually set out in a magistrate’s recommendation, as well as the magistrate’s failure to make
additional findings); Lewry v. Town of Standish, 984 F.2d 25, 27 (1st Cir. 1993) (stating that
“[o]bjection to a magistrate’s report preserves only those objections that are specified”); Borden

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v. Sec. of H.H.S., 836 F.2d 4, 6 (1st Cir. 1987) (holding that appellant was entitled to a de novo
review, “however he was not entitled to a de novo review of an argument never raised”).
The Court, in order to accept an unopposed portion of the Magistrate Judge's Report
and Recommendation, needs only satisfy itself that there is no “plain error” on the face of the
record. See Douglass v. United Servs. Auto, Ass'n, 79 F.3d 1415, 1419 (5th Cir. 1996) (en
banc) (extending the deferential “plain error” standard of review to the un-objected to legal
conclusions of a magistrate judge); see also Nettles v. Wainwright, 677 F.2d 404, 410 (5th Cir.
1982) (en banc) (appeal from district court’s acceptance of un-objected to findings of magistrate
judge reviewed for “plain error”); Nogueras–Cartagena v. United States, 172 F.Supp.2d 296,
305 (D.P.R. 2001) (finding that the “Court reviews [unopposed] Magistrate's Report and
Recommendation to ascertain whether or not the Magistrate's recommendation was clearly
erroneous”) (adopting the Advisory Committee note regarding FED. R.CIV. P. 72(b)); Garcia v.
I.N.S., 733 F.Supp. 1554, 1555 (M.D.Pa. 1990) (finding that “when no objections are filed, the
district court need only review the record for plain error”).
An adversely affected party may “contest the [m]agistrate [j]udge's report and
recommendation by filing objections ‘within ten1 days of being served’ with a copy of the order.”
United States v. Mercado Pagan, 286 F.Supp.2d 231, 233 (D.P.R. 2003) (citing 28 U.S.C. §
636(b)(1)). If objections are timely filed, the district judge shall make a de novo determination of
those portions of the report or specified findings or recommendation to which an objection is
made. See Bonefont-Igaravidez v. International Shipping Corp., 659 F.3d 120 (1st Cir. 2011);
and Iverson v. City of Boston, 452 F.3d 94, 98 (1st Cir. 2006).
In the instant case, Plaintiffs object the conclusions reached by the Magistrate Judge as
to Plaintiffs’ failure to sufficiently plead the elements of scienter required in a securities fraud

1

Per Local Rule 72(d), parties may object a magistrate judge’s report and recommendation within fourteen
(14) days after being served with the order.

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action under the Securities and Exchange Act. Hence, the Court will review the Report and
Recommendation de novo as to the challenged reason.

II.

FACTUAL AND PROCEDURAL BACKGROUND2

Plaintiffs Nomar Camilo and Roberto Ubiñas are business partners in the
Puerto Rico telecommunications industry. They jointly own and operate Kryonyx
Corporation, a company that specializes in the installation of computer networks
and securities systems, and other communications related services. Compl. 5.
Defendant Link Distributors Corporation (“Link”) is a corporation
organized under Puerto Rico law; defendant Albert Nieves is Link’s President
and sole manager. Id. at 2. Nieves was previously employed at ECS Electric, an
electronics sales and distribution company, when he met Camilo and Ubiñas in
2006. Camilo and Ubiñas purchased equipment from ECS for their business,
and through these transactions, they learned that Nieves was unsatisfied with his
job, and wished to set up his own business to sell and distribute
telecommunications equipment. Id. at 6. The three individuals began to
communicate consistently via telephone starting in 2005 and throughout 2006.
They discussed plans to set up Link, whereby Camilo and Ubiñas would provide
the start-up capital for the corporation in exchange for 66% of the company’s
shares. Id. at 8. As the President and business administrator of Link, Nieves
would be responsible for its operations and management, and all major business
decisions would be approved by a majority of the shareholders. Id. at 9. They
further agreed that Nieves would provide to Camilo and Ubiñas regular
operations reports, dividend payments, access to Link’s clients and suppliers
lists, and the codes for the alarm system and operations site. Id. at 10.
In June 2006, the plaintiffs and Nieves opened a bank account to keep
track of all expenditures related to setting up Link. The initial deposit of $7,400
was paid for by plaintiffs. Four other bank accounts were opened by the parties
between 2006 and 2009. Although plaintiffs had access to these bank accounts,
Nieves was responsible for the use and administration of the funds therein. Id. at
12-13.
On September 27, 2006, Nieves incorporated Link at the Puerto Rico
Department of State as a domestic for-profit corporation, with a business volume
not to exceed three million dollars. Docket No. 1-2. Link never issued any
corresponding stock certificates to Camilo and Ubiñas. Compl. 10. Nieves, with
assistance and guidance from Ubiñas, began to operate Link, which grew at a
healthy pace from 2006 to 2009. Id. at 14-15. Kryonyx also began to purchase
supplies from Link.
Starting in 2009, the relationship between plaintiffs and Nieves began to
sour. Plaintiffs started to question Nieves’s management and administration of
Link’s finances. They learned that cash deposits from daily sales were not being

2

The Court hereby incorporates the facts as stated in the Report and Recommendation (Docket No. 101) and
will only supplement the same with additional information should it be considered necessary.

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made, and there appeared to be inadequate price controls, as Kryonyx was
being charged higher prices than its competitors. Id. at 16. Plaintiffs requested
Nieves provide them with access to Link’s accounting and payroll records so they
could assist in correcting perceived deficiencies. Nieves provided some of the
information in early 2010 but refused to comply further with their requests.
The relationship continued to deteriorate in 2010. In late April, Nieves
was spotted at one of Link’s banks, and plaintiffs later determined that Nieves
visited the bank to remove their access to Link’s bank accounts. Id. at 21. The
parties began communicating through counsel in May 2010. In a letter from
counsel, Nieves denied plaintiffs’ rights to Link’s financial information, and stated
that he was Link’s sole stockholder. Id. at 22. Nieves took the position that
plaintiffs never purchased Link stock, that the funds provided to start Link was a
loan, and not for the purchase of Link stock. Plaintiffs filed this action against
Nieves on November 24, 2010.
In the verified complaint, plaintiffs assert claims for (1) violation of federal
securities laws, Section 10(b) and Rule 10b-5 of the SEA; (2) breach of plaintiffs’
rights as stockholders to inspect Link’s corporate books; (3) breach of fiduciary
duty; (4) past and future dividends; (5) a declaratory judgment of Link’s business
fair value; (6) preliminary and permanent injunctions; (7) unjust enrichment; and
alternatively (8) rescission of the stock purchase.
(Docket No. 101, pages 3-5).
After various procedural incidents, the Court issued an Opinion and Order denying
Plaintiff’s motion for injunctive relief (Docket No. 35). In the opinion and order, the Court found
that the parties had entered into a verbal subscription agreement for the purchase of Link’s
stock; that the Corporations Act requires that subscription agreements be executed in writing to
uphold their validity and enforceability; and that the record did not include evidence showing that
Plaintiffs had purchased Link’s stock certificates.

For such reasons, the Court held that

Plaintiffs had failed to prove that they were Link’s shareholders.

Thus, the Court denied

Plaintiffs’ request for injunctive relief and entered an order to show cause as to why the case
should not be dismissed for lack of a written subscription agreement required by state law.
(Docket No. 35).
On reconsideration moved by Plaintiffs, the Court deemed as plausible Plaintiffs’
allegations that the parties entered in to a valid subscription agreement for the purchase of 66%
of the shares of Link, as provided in Santiago-Aponte v. Rodríguez Martínez, 181 D.P.R. 204

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(2011) (Docket No. 55). Nonetheless, the Court affirmed its position denying the injunctive relief
for Plaintiffs’ failure to prove that they are likely to succeed on the merits of a case under
Section 10(b) of the 1934 Act. The Court’s conclusion was based on its finding that Plaintiffs
failed to plead with sufficient particularity four of the seven elements necessary in a securities
fraud case,3 as follows: (a) the defendant made a misrepresentation; (b) scienter; (c) reasonable
or justifiable reliance; and (d) transaction causation and loss causation.
Subsequently, the Court ordered the parties to show cause as to why the case should be
dismissed for Plaintiffs’ failure to meet the requirements of a private action for securities fraud
under Section 10(b) of the Securities and Exchange Act of 1934 and/or Rule 10b-5 (Docket No.
56). Notwithstanding the above, the case continued to run its course for Defendants did not file
a motion to dismiss.
After holding the Initial Scheduling Conference, the Court referred the case to Magistrate
Judge McGiverin for him to preside over all case management and pretrial motions (Docket No.
85). Next, Link filed a motion to dismiss or, in the alternative, for judgment on the pleadings and
Nieves filed a motion requesting judgment on the pleadings (Docket Nos. 87 and 88,
respectively).

Magistrate Judge McGiverin recommended the Court grant Link’s motion to

dismiss (Docket No. 101).

3

To establish a prima facie case of securities fraud based upon a misrepresentation in violation of Section
10(b) of the 1934 Act and/or Rule 10b-5 such as the instant case, the plaintiff must plead and prove that: (a)
the defendant made a misrepresentation; (b) the misrepresentation concerned one or more material fact(s);
(c) the defendant made the misrepresentation knowingly, or with reckless disregard for the truth thereof, and
with the intent to deceive or defraud (scienter); (d) the defendant made the misrepresentation in connection
with a purchase or sale of securities; (e) the defendant made the misrepresentation by means of the mails or
some other device or instrumentality of interstate commerce, or of any facility of any national securities
exchange; (f) the plaintiff relied upon defendant's misrepresentation; and, as a consequence of plaintiff's
reliance, purchased (or sold) the security in question; and (g) the defendant's material misrepresentation
proximately caused plaintiff to suffer some monetary damage. See Erica P. John Fund, Inc. v. Halliburton
Co., 131 S.Ct. 2179, 2184 (2011) (quoting Matrixx Initiatives, Inc. v. Siracusano, 131 S.Ct. 1309, 1317
(2011). In addition, a majority of the federal circuits further require that plaintiff prove that reliance on the
defendant's misrepresentation was “justifiable.” Thus, to prevail on a claim in a typical private action for
securities fraud, the defendant must prove all such elements. See Matrixx Initiatives, Inc. v. Siracusano, 131
S.Ct. at 1317-1318.

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III.

DISCUSSION

Having reviewed the Magistrate Judge’s Report and Recommendation de novo, as we
must, and the record of the instant case the Court concludes that, as to the element of scienter,
Plaintiffs failed to proffer or allege with sufficient particularity that Nieves made the alleged
misrepresentations knowingly, with reckless disregard for the truth, and with the intent to
deceive or defraud Plaintiffs. In fact, the Court had already made a ruling in this particular issue
in its Amended Opinion and Order regarding Plaintiffs’ motion for reconsideration. See Docket
No. 55. Below is an excerpt of the Court’s discussion and analysis on the element of scienter:
“Scienter” has been defined as “a mental state embracing intent to
deceive, manipulate, or defraud.” See Maldonado v. Domínguez, 137 F.3d 1, 9
(1st Cir. 1998) (citing Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 n. 12
(1976). Section 10(b) and Rule 10b-5 require proof that the defendant (1) knew
the representation was false or that the omission would tend to make those facts
that were disclosed untrue or (2) made the misrepresentation or omission with
reckless disregard of its truthfulness or falsity. See Ernst, supra. However, it is
not enough that the allegation for scienter be based solely on financial interest or
motive and opportunity to mislead, because such a finding would expose
“virtually every company in the United States that experiences a downturn in
stock price” to liability under Section 10(b) or Rule 10b-5. See Acito v. IMCERA
Group, Inc., 47 F.3d 47, 54 (2d. Cir 1995).
In determining whether securities fraud complaints plead scienter, the
First Circuit “has been clear and consistent in holding that, under Section 10(b),
plaintiffs must plead specific facts giving rise to a ‘strong inference’ of fraudulent
intent.” Maldonado v. Domínguez, supra (citing Greenstone v. Cambex Corp.,
975 F.2d 22, 25 (1st Cir.1992) (“Courts have uniformly held inadequate a
complaint’s general averment of the defendant’s ‘knowledge’ of material falsity
unless the complaint also sets forth specific facts that make it reasonable to
believe that defendant knew that a statement was false or misleading.”). A
district court can dismiss a claim under Section 10(b) of the 1934 Act if it finds
that plaintiff’s claim failed to plead scienter with sufficient particularity.
Maldonado v. Domínguez, supra.
In this case, Plaintiffs aver that Defendant Nieves had the “intention of
deceiving Plaintiffs in order to obtain startup money” so as to take advantage of
“Plaintiffs’ technical knowledge and years of experience in the
telecommunications market” because Nieves “never [intended] to honor their
agreements.” (Docket Nos. 1 and 2, pages 10 and 18, respectively). On the
contrary, the transcript of the instant messaging communication provided by
Plaintiffs (Docket No. 43-1) shows that Nieves may have been confused as to the
nature of the moneys contributed by Plaintiffs because Nieves acknowledges
Plaintiffs’ status as stockholders, but at the same time refers to the moneys as a
debt payable from Link to Plaintiffs. (Docket No. 43-1, page 2). Upon such

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circumstance, the Court cannot reasonably conclude Nieves had the intent to
deceive Plaintiffs, at least not during the first years of the parties’ business
relationship.
There are no further allegations or evidence as to Defendant Nieves’
intent to deceive, manipulate or defraud Plaintiffs into investing in Link that would
satisfy the “sufficient particularity” requirement necessary for the scienter element
in a securities fraud case under Section 10(b) of the 1934 Act or Rule 10(b)-5.
Consequently, Plaintiffs have failed to proffer or allege with sufficient particularity
that Nieves made the alleged misrepresentations knowingly, with reckless
disregard for the truth, and with the intent to deceive or defraud Plaintiffs.
(Docket No. 55, pages 18-20).
The Magistrate Judge reached the same conclusion, and very eloquently reasoned that
“failure to perform on a promise alone cannot serve as a basis for finding fraudulent intent.”
(Docket No. 101, pages 7-8).

IV.

CONCLUSION

For the foregoing reasons, the Court hereby ADOPTS IN TOTO the Magistrate Judge’s
Report and Recommendation (Docket No. 101). Thus, the Court hereby GRANTS Defendants’
motion to dismiss Plaintiffs’ causes of action, DISMISSING WITH PREJUDICE Plaintiff’s federal
causes of action and DISMISSING WITHOUT PREJUDICE Plaintiff’s causes of action under
Puerto Rico law. Judgment shall be entered accordingly.

IT IS SO ORDERED.
In San Juan, Puerto Rico this 16th day of December, 2013.

/s/ Daniel R. Dominguez
Senior U.S. District Judge

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