Commercial Division Blog
Fraudulent Inducement Claim Survives Despite Defendant's Argument That Plaintiff Failed to Exercise Due Diligence
On May 25, 2021, the First Department issued a decision in VXI Lux Holdco, S.A.R.L. v. SIC Holdings, LLC, 2021 NY Slip Op. 03294, upholding a fraudulent inducement claim despite the defendant's argument that the plaintiff failed to exercise due diligence, explaining:
Plaintiff alleges that the $3 million tax underpayment, which was an unaccounted expense, had the effect of inflating Symbio's earnings before interest, taxes, deductions, and amortization (EBITDA) by the same amount. Thus, when Symbio presented its books to plaintiff, they contained several misrepresentations — expenses and tax liabilities were understated and EBITDA was overstated. The inflation of the EBITDA likewise inflated Symbio's apparent growth rate, which in turn inflated the company's market valuation.
Even though plaintiff inspected Symbio's financial statements and other corporate records during due diligence, plaintiff claims, given the nature of the deception, the fraud was essentially undetectable. Thus, plaintiff alleges, even though it retained a major accounting firm, that accounting firm was also duped and issued a report which did not find the social insurance tax fraud.
The social insurance tax fraud allegedly inflated Symbio's EBITDA, from about $3 million to a projected $8.8 million. The apparent EBITDA growth inflated the company's revenue prospects, resulting in plaintiff overpaying for Symbio S.A. Plaintiff alleges that, had it known all of the facts, it would have offered much less, and the resulting overpayment caused plaintiff to suffer significant financial loss.
On these allegations, plaintiff has sufficiently pleaded a cause of action for fraud against defendants. In particular, plaintiff adequately pleaded that it justifiably relied on the documents presented by Symbio during due diligence, taking diligent steps including retention of an accounting firm for review. Moreover, in addition to allegations that defendants Hsu and Lu directly participated in the fraud, defendants' knowledge can be inferred from its alleged pervasiveness.
Similarly, the key additional element of a claim for fraudulent concealment — duty to disclose — is met here, given the hidden nature of the fraud, which turned on falsified records and bribed auditors, and the practical impossibility of discovering the fraud through ordinary diligence.
(Internal citations omitted).
Commercial litigation frequently involves fraud-based claims. Such claims have special pleading requirements or rules, including the rule that a sophisticated businessperson's reliance on a false statement must be reasonable. Contact Schlam Stone & Dolan partner John Lundin at firstname.lastname@example.org if you or a client think you have been defrauded, or if someone has accused you or a client of defrauding them.