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Commercial Division Blog

Current Developments in the Commercial Divisions of the
New York State Courts by Schlam Stone & Dolan LLP
Posted: June 7, 2014

Attorney has no Liability to Third Parties for Negligence in Performing Legal Services for Client

On May 20, 2014, Justice Bransten of the New York County Commercial Division issued a decision in Goldin v. Tag Virgin Islands Inc., 2014 NY Slip Op. 31308(U), dismissing an attorney malpractice claim where there was no attorney-client relationship between the plaintiffs and the defendant attorney.

In Goldin, the plaintiffs were the beneficiaries or co-trustees of an investment fund that was allegedly defrauded by an investment advisory firm and its principals (“TAG”). The complaint included a malpractice claim against an attorney (Feiner) who represented TAG in drafting certain convertible notes that plaintiffs claim “were a fiction designed by the TAG Defendants and Feiner to defraud the Plaintiffs.” The court dismissed the malpractice claim, inter alia, on the grounds that “a cause of action for legal malpractice cannot be stated in the absence of an attorney-client relationship,” noting that Feiner was not representing the plaintiffs, but, to the contrary, a counterparty (TAG) in preparing the notes. The court rejected the plaintiffs’ attempt to fit their claim within two narrow exceptions to that fundamental rule:

While conceding that they were not Feiner’s clients, and were not in privity with him, Plaintiffs nevertheless argue that a malpractice claim may lie since the harm caused to Plaintiffs was the result of the attorney’s fraud. However, the fraud alleged by Plaintiffs is the alleged malpractice committed by Feiner. Thus, Plaintiffs present the circular argument that a malpractice claim is stated because a near-privity relationship exists and the fraud giving rise to that near-privity relationship exists because Feiner committed malpractice. This argument does not state the fraud, collusion, malicious acts or other special circumstances necessary in order to maintain an attorney malpractice claim absent privity.

Finally, Plaintiffs contend that even in the absence of fraud allegations, they still state a claim for attorney malpractice since Feiner was representing their interests when drafting the notes at issue. However, this theory of liability has been rejected by the First Department. In Fortress Credit Corp. v. Dechert LLP, 89 A.D.3d 615, 616-17 (1st Dep’t 2011), the Court dismissed a legal malpractice claim, concluding that the parties had no attorney-client relationship. In Fortress, attorney Marc Dreier proposed to plaintiffs that they participate in short-term note program to finance real estate purchase where the borrower would be Dreier’s clients and Dreier was the guarantor. Plaintiff asked Dreier and his client to get an opinion letter from independent counsel before entering into transaction. Plaintiff later sued the independent counsel, arguing that it relied on counsel’s legal opinion that certain loan documents were duly executed and that the loan was a valid and binding obligation. The First Department rejected Plaintiff’s legal malpractice claim, concluding that Plaintiff had no attorney-client relationship with counsel, even though “plaintiffs were meant to benefit by defendant’s actions.” The Court stated that “while plaintiffs were meant to benefit by defendant[-attorney]’s actions on behalf of [client] Solow Realty, that circumstance does not give rise to a duty to plaintiffs on the part of the attorney.” Id. at 616. The same holds true here. To hold otherwise potentially would render any transactional attorney liable for legal malpractice to all parties to a contract that he or she drafted where the contract somehow inured to the other parties’ benefit.

The parties to a complex commercial transaction may be injured by errors made by other parties’ attorneys. However, as this decision demonstrates, subject to very narrow exceptions, a claim for attorney malpractice does not lie absent an attorney-client relationship.

Posted: June 6, 2014

Failure to Issue Litigation Hold Not Per Se Gross Negligence

On June 5, 2014, a divided panel of the First Department issued a decision in Pegasus Aviation I, Inc. v. Varig Logistica S.A., 2014 NY Slip Op. 04047, reversing a decision sanctioning defendants for spoliation of evidence.

In Pegasus Aviation, a group of defendants (collectively, the “MP defendants”) who were the sole shareholders of the primary defendant, Varig Logistica (“VarigLog”) appealed the trial court’s sanction order.  VarigLog, although also subject to the order, had filed for bankruptcy and did not appeal.

The sanctions order involved the loss of VarigLog’s electronically stored information (“ESI”). VarigLog did not implement a formal litigation hold of its ESI, but did install backup systems a month after the litigation commenced. However, due to crashes of the backup system, all of VariLog’s ESI was lost. Plaintiffs did not allege that the MP defendants were to blame for the crashes or that anyone intentionally destroyed ESI. The MP defendants properly preserved all of their own ESI.

The motion court nonetheless found the MP defendants (and VarigLog itself) culpable and ordered a series of adverse inferences against them. The motion court’s ruling stated that (1) the MP defendants acquired sufficient control over VarigLog to oblige them to ensure that VarigLog’s ESI was preserved and that VarigLog issued a litigation hold, (2) following a ruling by Judge Scheindlin in the S.D.N.Y., failure to issue a written litigation hold is gross negligence per se, and (3) gross negligence that results in the destruction of evidence creates a presumption that relevant evidence was destroyed.

A three-judge majority opinion reversed, with one judge concurring in part and dissenting in part, and one judge dissenting.

The majority first considered the issue of control, and found based upon the particular facts that “VarigLog’s ESI was sufficiently under the MP defendants’ ‘practical control’ to trigger a duty on their part to ensure that those materials were adequately preserved.” This standard does not require “a finding that VarigLog was the alter ego of the MP defendants.”

Next, the majority rejected the motion court’s per se rule, finding that the facts—including the lack of evidence that any litigation hold would have protected the ESI from the subsequent crashes—”negate[d] any inference that [the MP defendants] deliberately sought to defeat plaintiffs’ right to disclosure or were reckless as to that possibility,” and accordingly their conduct amounted at most to simple negligence.

And because plaintiffs failed to show gross negligence, they retained the burden of proving that “the lost ESI would have supported their claims.” Plaintiffs failed to meet this burden, because the missing evidence they alleged was either available elsewhere or relied merely upon speculation.

Justice Andrias concurred that no per se rule should be imposed but would have held that the question of whether plaintiffs had been prejudiced by the MP defendants’ negligence should be addressed by the motion court. The majority rejected this argument on the grounds that a full record already existed.

Justice Richter also agreed that a per se rule was inappropriate but would have found gross negligence based upon “MP Global’s failure to take even the most rudimentary steps to ensure that potentially relevant evidence was preserved, including, but not limited to, instructing that a litigation hold be put in place.” The majority also rejected this argument, saying that the VarigLog was in litigation before the MP defendants acquired control, and that the MP defendants’ assumption that VarigLog had already put adequate retention policies in place was negligent but not grossly negligent or reckless.

This opinion shows that the Appellate Division appears to be retreating from the S.D.N.Y.’s more draconian spoliation rules. Finding gross negligence for spoliation caused in large part by an entirely inadvertent computer crash would be a very harsh outcome. And all five justices rejected the per se rule, meaning that any finding of gross negligence must be based on the particular facts of the case. Finally, though, it must also be noted that all five justices also ruled that under certain circumstances a parent can be held responsible for spoliation by a subsidiary.

Posted: June 6, 2014

SECOND UPDATE: Guest Post: New York County Commercial Division Grants TRO Enforcing Restrictive Covenants Pending FINRA Arbitration with Departing Employees

On June 3, 2014, we posted about dueling requests for “emergency” interim relief in a dispute concerning a Deutsche Bank investment advisory team joining the investment advisory and private wealth management firm HPM Partners. Here is an update:

There has been little rest for the lawyers engaged in the battle over non-compete clauses and other restrictive covenants allegedly covering Deutsche Bank’s departing discretionary portfolio management team. Last Friday, Justice Marcy Friedman entered a TRO enforcing post-employment restrictive covenants against six departing Deutsche Bank employees, including Benjamin Pace, formerly Deutsche Bank’s chief investment officer for wealth management in the Americas. On Tuesday morning, Pace sought interim vacatur of that TRO (insofar as it applied to him personally) by application to the First Department. Pace’s brief to the First Department (available here) relies principally on the absence of any restrictive covenants from his written employment agreement with Deutsche Bank predecessor, Bankers’ Trust. Pace evidently never signed any agreement directly with Deutsche Bank, and insists that the restrictive covenants contained in Deutsche Bank’s employee handbook are unenforceable because the handbook, by its own terms, does not create a binding contract of employment.

Justice Leland DeGrasse granted Pace’s request for emergency interim relief from the TRO. The order is merely an endorsement on Pace’s application for interim relief and does not set forth any reasoning (or effect any defendant other than Pace himself). The order is here. Justice DeGrasse’s vacatur of the TRO as to Pace seems to accept at least implicitly that covenants in written employment agreements are to be distinguished from those contained in employee handbooks — at least where, as here, the handbook contains disclaimer language to the effect that it does not create a written contract of employment.

This guest post was written by Isaac B. Zaur of Clarick Gueron Reisbaum LLP.

Posted: June 5, 2014

UPDATE Guest Post: New York County Commercial Division Grants TRO Enforcing Restrictive Covenants Pending FINRA Arbitration with Departing Employees

On June 3, 2014, we posted about dueling requests for “emergency” interim relief in a dispute concerning a Deutsche Bank investment advisory team joining the investment advisory and private wealth management firm HPM Partners. Here is an update:

On June 3, 2014, the two most senior departing Deutsche Bank employees, Benjamin Pace and Lawrence Weissman, filed notices of appeal in both actions. The pre-argument statements are available here and here. The principal asserted grounds for reversal are: (1) the absence of any agreement between Deutsche Bank and Pace; and (2) the theory that both were constructively discharged without cause – rendering any restrictive covenants unenforceable.

Also on June 3, HPM moved by order to show cause for expedited document and deposition discovery in anticipation of the scheduled June 24 hearing on the parties’ respective requests for preliminary injunctions. The discovery sought focuses on the relevant employees’ personnel files (and hence the existence or non-existence of applicable covenants in written employment agreements) and Deutsche Bank’s conduct with respect to the investment instruments that Pace and Weissman claim they were being pressured to sell their clients. HPM’s brief in support of its motion for discovery is here.

This guest post was written by Isaac B. Zaur of Clarick Gueron Reisbaum LLP.

Posted: June 4, 2014

Notwithstanding Internal Affairs Doctrine, Some Claims in Derivative Action Governed by New York Law

On June 3, 2014, the First Department issued a decision in Culligan Soft Water Co. v. Clayton Dubilier & Rice LLC, 2014 NY Slip Op. 03955, holding that notwithstanding the internal affairs doctrine, New York law applied to some of the derivative plaintiff’s claims.

In Culligan, the plaintiff brought a derivative action on behalf of Culligan, Ltd., a Bermuda company. The First Department reversed in part the trial court’s dismissal of the complaint, holding that notwithstanding the internal affairs doctrine, some of the plaintiff’s claims were governed by New York, not Bermuda, law, explaining:

[T]he internal affairs doctrine . . . recognizes that only one State should have the authority to regulate a corporation’s internal affairs — matters peculiar to the relationships among or between the corporation and its current officers, directors, and shareholders. Since the internal affairs doctrine does not apply to those defendants who are not current officers, directors, and shareholders of Culligan Ltd., namely, Angelo, Gordon & Co., L.P., Silver Oak Capital, L.L.C., Centerbridge Special Credit Partners, L.P., CCP Credit Acquisition Holdings, L.L.C., CCP Acquisition Holding, L.L.C., and Clayton Dubilier & Rice LLC, Bermuda law does not apply to claims asserted against them.

Nor does the internal affairs doctrine apply to claims based on sections of the Business Corporation Law (BCL) enumerated in BCL §§ 1317 and 1319. BCL § 1319(a)(1) expressly provides that BCL § 626 (shareholders’ derivative action) shall apply to a foreign corporation doing business in New York. Thus, the issue of plaintiffs’ standing to bring a shareholder derivative action is governed by New York law, not Bermuda law. We note that Matter of CPF Acquisition Co. v. CPF Acquisition Co. (255 AD2d 200 [1st Dept 1998]) held that the plaintiff’s standing to sue was governed by Delaware law because Delaware was the State of the corporation’s incorporation. However, there is no indication that the plaintiff in that case raised BCL § 1319.

Pursuant to German-American Coffee Co. v. Diehl (216 NY 57, 62-64 [1915]) and BCL §§ 1319(a)(1), 719(a)(1), and 510, New York law applies to the second cause of action, which alleges that the directors of Culligan Ltd. declared illegal dividends.

To the extent plaintiffs allege violations of BCL § 720 (e.g. waste and unlawful conveyance), which is made applicable to foreign corporations doing business in New York by BCL § 1317(a)(2), those claims are also governed by New York law. However, to the extent plaintiffs allege a violation of a section of the Business Corporation Law not enumerated in BCL § 1317 (e.g. § 717, which is part of plaintiffs’ breach of fiduciary duty claim), New York law does not apply. Those claims are governed by Bermuda law and were thus correctly dismissed.

BCL § 1317 permits plaintiffs to sue Culligan Ltd.’s directors and officers. However, defendant Clayton Dubilier & Rice Fund VI Limited Partnership (CDR Fund VI) is neither a director nor an officer of Culligan Ltd.; it is Culligan Ltd.’s majority shareholder. Hence, there is no basis for applying New York law to the claims against CDR Fund VI. It is undisputed that, under Bermuda law, plaintiffs’ claims against CDR Fund VI, as currently pleaded, were correctly dismissed.

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

One of the challenges in a derivative action is the proper application of the law of the jurisdiction of incorporation, not New York, to claims under the internal affairs doctrine. As this decision illustrates, however, the internal affairs doctrine might not apply to all claims in an action. Thus, a plaintiff needs to do a claim-by-claim analysis to determine which law applies to which claim.

Posted: June 3, 2014

Guest Post: New York County Commercial Division Grants TRO Enforcing Restrictive Covenants Pending FINRA Arbitration with Departing Employees

This guest post was written by Isaac B. Zaur of Clarick Gueron Reisbaum LLP.

Last week saw rapid-fire briefing and argument before Justice Marcy Friedman of New York County’s Commercial Division over dueling requests for “emergency” interim relief in a dispute concerning the departure of a Deutsche Bank investment advisory team. Three days after the first action was commenced, the Court entered partial interim relief in favor of Deutsche Bank. The dispute sits at the intersection of the substantive law concerning the enforceability of restrictive covenants in employment agreements and the phenomenon of injunctive relief “in aid of arbitration.”

On Friday, May 16, 2014, ten New York-based members of Deutsche Bank’s “discretionary portfolio management” division, including that division’s two most senior members, handed in letters of resignation. Over the next several days, another eight Deutsche Bank employees resigned. The resigning personnel have indicated an intention to join an investment advisory and private wealth management firm named HPM Partners, but apparently are continuing to appear for work each day at Deutsche Bank. (more…)

Posted: June 2, 2014

Agreement Term Shortening Limitations Period Applies to Claims Arising From the Agreement

On May 27, 2014, the First Department issued a decision in Smile Train, Inc. v. Ferris Consulting Corp., 2014 NY Slip Op. 03785, enforcing an agreement term shortening the limitations period to bring a claim relating to the agreement.

In Smile Train, the defendants moved to dismiss the plaintiff’s claims based on a contract term shortening the limitations period in which to make a claim. The First Department affirmed the trial court’s decision granting the motion, explaining:

An agreement which modifies the Statute of Limitations by specifying a shorter, but reasonable, period within which to commence an action is enforceable provided it is in writing. In addition, it must not be so vague and ambiguous that it is unenforcible. . . . .

We . . . disagree with plaintiff’s contention that [the limitations provision in the parties’ contract] does not apply to its claim for breach of the implied covenant of good faith and fair dealing. It is true that I.C.C. Metals v Municipal Warehouse Co. (50 NY2d 657 [1980]) says that a party may not limit its liability for an intentional tort. However, breach of the implied covenant of good faith and fair dealing is not a tort; rather, it is a contract claim. A claim for breach of the implied covenant of good faith and fair dealing may not be used as a substitute for a nonviable claim of breach of contract. It would be anomalous if plaintiff’s contract claim were subject to a three-month statute of limitations but its claim for breach of the implied covenant were not.

(Internal quotations and citations omitted).

The decision to agree to a shortened limitations period might seem small when an agreement is signed, but transactional counsel should remember that such agreements will be enforced, sometimes with significant consequences.

Posted: June 1, 2014

Motion for Summary Judgment in Lieu of Complaint Denied Because Right to Payment Not Ascertainable from Document

On May 20, 2014, Justice Sherwood of the New York County Commercial Division issued a decision in Goddard Investors II, LLC v. Goddard Development Partners II, LLC, 2014 NY Slip Op. 31335(U), denying a motion for summary judgment in lieu of complaint based on a guaranty because the plaintiff’s right to payment could not be ascertained from the face of the guaranty.

In Goddard Investors II, the plaintiff “move[d] pursuant to CPLR 3213 for summary judgment in lieu of complaint on a note and guaranty.” The court denied the motion with respect to the guaranty, explaining:

A claim on an instrument for the payment of money is established by proof of the instrument and a failure to make the payments called for by its terms. Proof of the fulfillment of the condition precedent to the obligation to repay, comes within this limited category of elements of proof which may be established by extrinsic evidence without rendering accelerated treatment unavailable.

The fact that defenses may be asserted against the instrument sued upon does not preclude the use of CPLR § 3213 as long as the right to payment can be ascertained from the face of the document without regard to extrinsic evidence, other than simple proof of nonpayment or a similar de minimis deviation from the face of the document. Determining the amount to be paid under the guaranty by reference to a note or a mortgage to which the Guaranty relates is a de minimis deviation in CPLR § 3213 actions for payment.

An unconditional guaranty is an instrument for the payment of money only. A guaranty is not an instrument for the payment of money only when it is relates to a stock purchase agreement which did not specify a sum certain or a series of purchase orders with separately issued invoices. The same result is reached when the guaranty is conditioned upon creditor refraining from disparaging comments about her former employer, because it requires investigation into whether the condition was respected or not.

The Note [is not] an instrument for the payment of money only because the right to payment cannot be ascertained from the face of the document. Although the Note reads that the GDP promises to pay the principal amount of $500,000 with an annual 8% interest, the payment is expressly conditional on the acquisition and sale of property. This is not the sort of de minimus deviation from the face of document that CPLR 3213 contemplates.

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

CPLR 3213 is a powerful tool for resolving commercial disputes. As this decision shows, however, its scope is limited.

Posted: May 31, 2014

Covenant of Good Faith and Fair Dealing Breached When Plaintiff’s Rights Under an Agreement are Frustrated

On May 29, 2014, the First Department issued a decision in Pleiades Publishing, Inc. v. Springer Science + Business Media LLC, 2014 NY Slip Op. 03917, affirming that the plaintiff had stated a claim for breach of the implied covenant of good faith and fair dealing.

In Pleiades Publishing, the plaintiff, “a publisher of English-language versions of Russian-language scientific, technical, and medical journals,” sued the defendant, the “plaintiff’s exclusive distributor pursuant to an agreement that required it to use ‘commercially reasonable efforts’ to promote the Russian-language journals and to market and promote them as ‘offerings in its online database,” alleging “that [the] defendant incorporated its journals into a bundle of available ‘non-subscribed’ journals, which disguised from customers the ‘separate identity, value proposition, and pricing approach for the” database. The First Department affirmed the trial court’s refusal to dismiss the plaintiff’s claim for breach of the implied covenant of good faith and fair dealing, explaining:

These allegations state a cause of action for breach of the implied covenant of good faith and fair dealing. While the agreement granted defendant the discretion to decide how to market and promote the [database], defendant did not have the right to exercise that discretion in such a way as to frustrate plaintiff’s rights under the agreement, deprive plaintiff of the value of its journals, or benefit itself at plaintiff’s expense.

(Internal quotations and citations omitted).

Claims for breach of the implied covenant of good faith and fair dealing are often dismissed because of the narrow circumstances in which the covenant applies. This decision illustrates how successfully to plead such a claim.