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Commercial Division Blog

Current Developments in the Commercial Divisions of the
New York State Courts
Posted: February 12, 2014

Fourth Department Declares Florida Law Regarding the Enforcement of Non-Compete Agreements Unenforceable on Public Policy Grounds

On February 7, 2014, the Fourth Department issued a decision in Brown & Brown, Inc. v. Johnson, 2014 NY Slip Op. 00822, declaring unenforceable on public policy grounds a Florida statute providing that in determining the enforceability of a non-compete agreement, a court “shall not consider any individualized economic or other hardship that might be caused to the person against whom enforcement is sought.”

In Brown & Brown, the plaintiff sued a former employee for breach of restrictive covenants in an employment agreement that prohibited her from soliciting customers or employees for a two-year period following the termination of her employment.  As the Fourth Department noted, under New York law, non-compete agreements are “almost uniformly disfavored and are sustained only to the extent that they are reasonably necessary to protect the legitimate interests of the employer and not unduly harsh or burdensome to the one restrained.”  The courts apply a three-part test to assess the reasonableness of a restrictive covenant under which the party moving to enforce the agreement must show that the restraint “(1) is no greater than is required for the protection of the legitimate interest of the employer, (2) does not impose undue hardship on the employee, and (3) is not injurious to the public.”  The employment agreement at issue, however, was governed by Florida law, which “expressly forbids courts from considering the hardship imposed upon an employee in evaluating the reasonableness of a restrictive covenant.”  The Fourth Department found that Florida law conflicts with New York public policy and is therefore unenforceable:

[W]e conclude that Florida law prohibiting courts from considering the hardship imposed on the person against whom enforcement is sought is “truly obnoxious” to New York Public Policy, inasmuch as under New York law, a restrictive covenant that imposes an undue hardship on the employee is invalid and unenforceable for that reason. Furthermore, while New York judicially disfavors such restrictive covenants, and New York courts will carefully scrutinize such agreements and enforce them only to the extent that they are reasonably necessary to protect the legitimate interest of the employer and not unduly harsh or burdensome to the one restrained, Florida law requires courts to construe such restrictive covenants in favor of the party seeking to protect its legitimate business interests.

This decision demonstrates the strong New York public policy disfavoring non-compete agreements and the unwillingness of the New York courts to enforce foreign laws that contravene that policy.

Posted: February 11, 2014

Breach of Contract With Which Promissory Note Was Inextricably Intertwined Creates Defense to Payment of the Note

On January 21, 2014, Justice Demarest of the Kings County Commercial Division issued a decision in Zamore, Zamore & Zamore v. Aloyts, 2014 NY Slip Op. 50139(U), denying a motion for summary judgment in lieu of complaint for payment of a promissory note.

Zamore was “an action to recover monies owed on a promissory note” related to an earlier dispute over the failed sale of co-op shares. The court denied the plaintiff’s motion for summary judgment in lieu of a complaint. While the case had several complicating factors, here we focus on the narrow question of the plaintiff’s entitlement to summary judgment on their promissory note.  The court explained:

Since the note was obtained as a purchase money note in connection with the Contract of Sale and the entry into the leases for the intended purpose of building and operating a medical office, which was interfered with and frustrated and never occurred, the breach of the lease is inextricably intertwined with the amounts owed under the note. Therefore, with respect to plaintiff’s action to enforce the note, the court must make reference to the Contract of Sale, the lease for the basement space, and the actions taken by plaintiff’s general partner, Zamore, which, defendants assert, constituted bad faith.

It is true that a breach of a related contract is generally not a defense to nonpayment of an instrument for money only. However, where the note and the contract are inextricably intertwined as part of the same transaction, a breach of the related contract may create a defense to payment on the note. Thus, while generally the breach of a related contract cannot defeat a motion for summary judgment on an instrument for money only, that rule does not apply where the contract and instrument are intertwined.

(Internal quotations and citations omitted) (emphasis added).

This decision shows an important exception to the rules regarding the enforceability of promissory notes.

Posted: February 10, 2014

Court of Appeals Arguments of Interest for the Weeks of February 10 and 17, 2014

Arguments this month in the Court of Appeals that may be of interest to Commercial Division practitioners include:

  • Docket No. 24: Melcher v. Greenberg Traurig, LLP (To be argued February 14, 2014) (addressing when plaintiff’s claim for “attorney deceit” under Judiciary Law § 487 accrued and therefore whether the claim was timely under the applicable 3-year statute of limitations). See First Department decision here.
  • Docket No. 63: Matter of Kapon v. Koch (To be argued February 19, 2014) (considering whether a court ruling on a motion, under CPLR 3119(e), to quash an out-of-state subpoena to a non-party witness should apply the generally applicable standards under CPLR Article 31, or should instead review the subpoena with “solicitude” to ensure that a New York resident with no stake in the litigation is not unduly burdened). See First Department decision here.
  • Docket No. 54: Mashreqbank PSC v. Ahmed Hamad Al Gosaibi & Brothers Company (To be argued February 19, 2014) (considering whether a motion to dismiss a third-party action on forum non conveniens grounds, under CPLR 327(a), empowers the court to dismiss the main action on the same ground, even though no party to that action moved for that relief). See First Department decision here.
Posted: February 9, 2014

Party Waives Right to Arbitrate by Litigating Same Issues

On February 5, 2014, Justice Kornreich of the New York County Commercial Division issued a decision in Matter of Guttman v. Diamond, 2014 NY Slip Op. 50138(U), denying a motion to compel arbitration.

In Guttman, one of the respondents, Brown, moved to compel arbitration challenging a settlement agreement. The court denied the motion because, among other reasons, Brown had waived the right to demand arbitration, explaining

The Federal Arbitration Act (the FAA) governs the determination of whether the instant dispute is subject to arbitration because the Settlement affects multi-state litigation concerning storage faculties located in multiple states. Though federal policy strongly favors arbitration, and waiver is not to be lightly inferred, a party may waive its right to compel arbitration where prejudice to the other party is demonstrated. While courts consider certain factors in determining whether the right to arbitration has been waived, there is no bright-line rule as the determination of waiver depends on the particular facts of each case. That being said, it is well settled that the key to a waiver analysis is prejudice. Waiver of the right to compel arbitration due to participation in litigation may be found only when prejudice to the other party is demonstrated.

It is well established that prior litigation of the same legal and factual issues as those the party now wants to arbitrate results in the waiver of the right to arbitrate. Though there is no wavier where a party has previously litigated an unrelated yet arbitrable dispute, wavier occurs when a party has previously litigated the same claims it now seeks to arbitrate.

(Internal quotations and citations omitted) (emphasis added). The court, in a strongly worded opinion, went on to find both waiver and prejudice, as well as laches.

This decision shows the unwillingness of courts to let parties to arbitration agreements use them to try to get a second bite at the apple.

Posted: February 8, 2014

Justice Kapnick Gives Qualified Approval to $8.5 billion Settlement of Mortgage-Backed Securities Claims

On January 31, 2014, former New York County Commercial Division Justice Barbara Kapnick (now sitting on the First Department) issued a long-awaited decision in Matter of Bank of New York Mellon, 2014 NY Slip Op. 30309(U), approving in most respects an $8.5 billion settlement between Bank of New York Mellon, as trustee of trusts holding mortgage-backed securities issued by Countrywide Financial Corp., and Bank of America, which acquired Countrywide in 2008.

Upon reaching the settlement, which resolved claims for breaches of representations and warranties concerning the underlying mortgages and violations of prudent loan servicing obligations, Bank of New York sought judicial approval of the settlement under Article 77 of the CPLR, which authorizes a special proceeding “to determine a matter relating to any express trust.” A group of institutional investors intervened to support the settlement, and various other investors intervened in opposition and/or to obtain more information about the settlement. (Our firm represented a group of investors who intervened in the proceeding and participated in discovery.) Following extensive discovery and motion practice, Justice Kapnick, on her final day in the Commercial Division, largely approved the settlement as within the bounds of the trustee’s “reasonable judgment.” She did, however, find that the trustee abused its discretion on one point—settling without adequate investigation of potential repurchase claims for modified mortgage loans. This caveat has created significant uncertainty, since the original settlement was contingent on Bank of New York obtaining judicial approval of its actions. The proceeding is now assigned to Justice Scarpulla, who, Reuters reports, has stayed Justice Kapnick’s decision from taking effect until February 19. Given the amounts at stake, further litigation in the trial court and on appeal can be expected.

Posted: February 7, 2014

Defendants Succeed in Limiting Most of the Categories of Damages in Lawsuit; Punitive Damages Claim Survives

On January 23, 2014, Justice Marks of the New York County Commercial Division issued a decision in Johnson v. Rose, 2014 NY Slip Op. 30262(U), limiting the categories of damages available in that action.

In Johnson, the plaintiffs brought “fraud, legal malpractice and other claims” against a law firm and two of its partners “arising from plaintiffs’ participation in a failed tax shelter.” Among the issues addressed in the defendants’ motion to dismiss was the extent of the damages the plaintiffs could claim. While the court did not dismiss the plaintiffs’ fraud claim, it did limit the categories of damages available on that claim, explaining:

Plaintiffs assert a wide variety of damages in connection with their fraud claim, including a return of the fees they paid to engage in the transaction, and reimbursement of the penalties assessed against them by the IRS. Defendants move to dismiss or strike plaintiffs’ request for back taxes and interest, lost opportunity, lost dividends, stock appreciation and punitive damages in connection with the [fraud claim].

In a fraud action, a plaintiff may recover only the actual pecuniary loss sustained as a direct result of the wrong. In other words, under New York’s longstanding out-of-pocket rule, damages for fraud are intended to compensate plaintiffs for what they lost because of the fraud, not for what they might have gained absent the fraud.

Plaintiffs cannot obtain a recovery of back taxes. Plaintiffs have had the use and benefit of the proceeds from selling their stock, and presumably owe taxes on whatever profit they have made. They are not entitled to the windfall of reimbursement for back taxes. Nor may plaintiffs obtain reimbursement for interest they paid to the IRS, as interest on taxes untimely paid does not constitute damages sustained by plaintiff but represents merely a payment to the IRS for his use of the money during the period of time when he was not entitled to it. Accordingly, plaintiffs’ request for back taxes and interest is disallowed. Compl., 160-161, l65(iii), and l66(b). The Court notes that these paragraphs are not to be stricken in their entirety, as they also contain a request for penalties imposed by state and federal tax authorities.

Plaintiffs’ claims for damages stemming from other speculative uses of their monies, such as lost opportunities for investment, stock appreciation and dividends, are also unavailable. Accordingly, these requests are disallowed and paragraphs 162 through 164, and subparagraphs 165(iv), 165(v), 166(d), and 166(e) are stricken.

Punitive damages are not available in the ordinary fraud and deceit case. It is not sufficient that a defendant’s wrongdoing was intentional; it must also evinc[e] a high degree of moral turpitude that demonstrates such wanton dishonesty as to imply a criminal indifference to civil obligations. For the purposes of a motion to dismiss, the Court must take the allegations of the
complaint as true. Plaintiffs have sufficiently alleged that defendants’ conduct was not directed solely at plaintiffs, but was part of a larger fraudulent tax shelter scheme targeting hundreds of clients to whom defendants owed a fiduciary duty. Moreover, construed in the light most favorable to plaintiffs, the allegations further suggest that defendants took advantage of confidential financial information of clients in selecting their targets, actively sought to dissuade clients from seeking independent legal or financial advice about the transaction, and used their status as attorneys to cloak the scheme in seeming legality. At this stage of the litigation, it is not necessary for plaintiffs to prove that they will be entitled to punitive damages; it is sufficient that plaintiffs have adequately alleged morally culpable conduct directed at the public. The Court therefore declines to strike plaintiffs’ request for punitive damages at this time.

(Internal quotations and citations omitted) (emphasis added).

This decision is yet another example of the use of a motion to dismiss to limit the potential damages in a lawsuit. Here, the defendants were not able to get the claim for punitive damages stricken at the motion to dismiss stage, but otherwise they were able significantly to limit their downside in the litigation.

Posted: February 6, 2014

Motion to Dismiss May be Used to Limit Damages Theories Even if Claims Survive

On February 5, 2014, the Second Department issued a decision in Hecht v. Andover Associates Management Corp., 2014 NY Slip Op. 00632, discussing the dismissal of damages claims on a motion to dismiss.

Hecht is one of the myriad cases relating to the Bernard Madoff Ponzi scheme. One of the defendants in Hecht, an independent auditor, moved to dismiss, including moving to dismiss the claims to the extent they sought certain damages. The Second Department explained that

damages may properly be limited on a motion to dismiss. When a party seeks damages for lost profits, the profits may not be imaginary. It is undisputed that the profits reported by Madoff were completely imaginary. The fictitious profits never existed and, thus, [the plaintiff] did not suffer any loss with respect to the fictitious sum.

(Internal quotations and citations omitted).

This decision reminds us of the option of using a motion to dismiss to limit the potential damages for which a defendant might be liable.

Posted: February 5, 2014

New York County Case Assignment Changes

The elevation of New York County Commercial Division Justice Kapnick to the First Department has resulted not just in the assignment of Justice Scarpulla to the Commercial Division, it also has resulted in the reassignment of Commercial Division and general assignment cases. The Court’s notice regarding these changes is summarized below:

  • Justice Kapnick began her assignment to the First Department effective February 3, 2014.
  • Justice Kapnick has been succeeded in Commercial Division Part 39 by Justice Scarpulla. Commercial Division cases in Part 39 assigned to Justice Kapnick will be reassigned Justice Scarpulla. Unless parties are notified otherwise, Justice Scarpulla will maintain all dates previously scheduled by Justice Kapnick.
  • General Assignment cases assigned to Justice Scarpulla in Part 19 shall be reassigned as soon as possible to Justices Bannon (Part 42), Moulton (Part 57), and Wright (Part 47).
  • General Assignment cases assigned to Justice Kapnick in Part 39 and to Justice Oing in Part 48 are being reassigned to General Assignment Justices generally.