Opinion
CV-00-1175-ST.
August 31, 2001
FINDINGS AND RECOMMENDATION
INTRODUCTION
Plaintiffs, Frederick O. Paulsell ("Paulsell"), Frederick O. Paulsell III, Michael Paulsell, Leigh Ann Paulsell, and David Paulsell, originally filed this action in Multnomah County Circuit Court, Case No. 0007-07233, alleging claims for fraud and breach of contract against defendants, Edward Cohen, Daniel Cohen, ReadyCash Investment Partners, L.P. ("ReadyCash LP"), Readycash GP Corp. ("ReadyCash Corp"), and John Does 1-10. On August 25, 2000, Defendants ReadyCash LP and ReadyCash Corp filed a Notice of Removal, alleging diversity jurisdiction under 28 U.S.C. § 1332.
On September 7, 2000, plaintiffs filed their First Amended Complaint ("Complaint") alleging claims for common law fraud, securities fraud, breach of contract, and promissory estoppel. This court subsequently dismissed plaintiffs' two fraud claims, which plaintiffs then repled. Plaintiffs filed their Fourth Amended Complaint ("Complaint") on April 9, 2001, and defendants filed their Amended Answer, Affirmative Defenses, and Counterclaims ("Amended Answer") on May 21, 2001.
Defendants' Amended Answer alleges counterclaims against Paulsell for common law fraud (Counts I II) and Oregon securities fraud. Plaintiffs now move to dismiss both counts of the common law fraud counterclaim and to strike paragraphs 43-47 of Count I referring to Paulsell's ability to sell his stock. For the reasons that follow, plaintiffs' Motion to Dismiss Defendants' Common Law Fraud Counterclaim and to Strike Irrelevant Allegations (docket #41) should be granted as to Count I of the common law fraud counterclaim; granted with leave to replead Count II, and denied as moot as to striking paragraphs 43 through 47 of Count I.
ALLEGATIONS
I. Background
Plaintiffs are major stockholders in a company named TRM Corporation ("TRM"), a publicly held Oregon company traded on the NASDAQ stock exchange and headquartered in Portland, Oregon. Prior to 1998, TRM's business focused on copy centers and photocopy services located in retail shops domestically and internationally. TRM was the world's largest provider of convenience photocopier services, and its stock was trading publicly at approximately $10 per share.
Prior to 1998, Paulsell was the chairman of the board of directors of TRM, and the Paulsell family owned approximately 1,500,000 shares of TRM stock. Neither Edward Cohen nor his son, Daniel Cohen, were shareholders of TRM at the time.
Some time prior to 1998, defendants developed a business plan to place ATM machines in retail establishments, much like TRM's strategy of placing copy machines in retail establishments. Defendants approached Paulsell with a proposal to integrate their ATM strategy with TRM's preexisting copy-center infrastructure, to invest in TRM, to participate in its management, and to implement their business strategy.
II. Count II of First Counterclaim
On or about December 4, 1997, defendants Edward and Daniel Cohen had a dinner meeting with Paulsell, among others, at a restaurant in New York City. During that dinner meeting, Paulsell represented that TRM was worth significantly more than the then-current market value of its stock. Defendants allege that Paulsell was aware of, but failed to disclose to defendants, the following material facts about TRM: (a) that TRM was experiencing significant "top account attrition" and "ongoing market erosion;" (b) that TRM had "10,000 improperly deployed machines in North America," which would "strike to the very core of [TRM's] value," and that "future new products would certainly be affected;" and (c) that serious questions had been raised about whether TRM had the "sales talent and depth to penetrate the relatively sophisticated key account markets."
In addition, Paulsell failed to disclose to defendants that he intended to use TRM's "success" in the international markets to "hide" its domestic "problems." These omissions were unknown to defendants but would have been material to their decision to enter into a purchase agreement with TRM and invest $20 million in that company.
III. Count I of the First Counterclaim
On or about March 29, 1998, ReadyCash LP entered into a purchase agreement with TRM, which was approved by TRM's board of directors, including Paulsell. Pursuant to this agreement, ReadyCash LP promised, subject to certain conditions, to invest $20 million in TRM. On or about June 24, 1998, TRM's shareholders approved TRM's participation in the ReadyCash LP transaction, and ReadyCash LP took all steps necessary to close the transaction. As a result, ReadyCash LP has made an investment in TRM in the amount of $20 million.
Between December 1997 and June 1998, Paulsell both explicitly and implicitly represented that he was neither a party to nor bound by any agreements relating to the disposition of his TRM stock and that he had "sole dispositive power" over that stock. These representations were material to ReadyCash LP's decision to invest $20 million in TRM. Paulsell made these representations in his periodic disclosures he filed with the Securities and Exchange Commission ("SEC") between December 1997 and June 1998, in a Voting Agreement dated April 3, 1998, filed with the SEC, and in response to the directors' and officers' questionnaire circulated in connection with the proxy statement used to solicit shareholder approval for ReadyCash LP's $20 million investment in TRM.
In particular, on or about April 3, 1998, Paulsell signed a TRM Voting Agreement and returned that signed agreement to TRM for transmittal to the SEC where it would become a public document available to all. Paragraph 1(b) of the TRM Voting Agreement states:
The Subject Shares. The Stockholder [Paulsell] is the record and beneficial owner of, and has good and marketable title to, the Subject Shares set forth opposite his or its name on Schedule A attached hereto, free and clear of any Encumbrances. The Stockholder does not own, of record or beneficially, any shares of capital stock of the Company other than the Subject Shares set forth opposite his or its name on Schedule A attached hereto. The Stockholder has the sole right to vote, and the sole power of disposition with respect to, such Subject Shares, and none of such Subject Shares is subject to any voting trust or other agreement, arrangement or restriction with respect to the voting or disposition of such Subject Shares, except as contemplated by this Agreement.
(Emphasis added.).
In addition, paragraph 5(c) of the TRM Voting Agreement provides the following integration clause:
Entire Agreement: No Third-Party Beneficiaries. This Agreement (including the documents and instruments referred to herein) (i) constitutes the entire agreement and supersedes all prior agreements and understandings, both written and oral, among the parties with respect to the subject matter hereof and (ii) is not intended to confer upon any Person other than the parties hereto any rights or remedies hereunder.
(Emphasis added.)
However, plaintiffs now claim that defendants agreed to purchase one million shares of the Paulsell family's stock in TRM for $13 million. Defendants allege that they did not enter into any such contract and instead, ReadyCash LP's $20 million investment in TRM was based on the understanding and agreement that defendants' total required investment in TRM would be $20 million.
If Paulsell had disclosed in the documents filed with the SEC that he in fact believed that defendants were contractually obligated to pay Paulsell $13 million for one million shares of his family's stock in TRM, defendants would have learned of that belief from these publicly available documents before ReadyCash invested $20 million in TRM, and ReadyCash LP then would not have invested $20 million in TRM.
IV. Damages
Counts I and II of the First Counterclaim seek $20 million less the current value of ReadyCash's investment and an award of punitive damages.
ANALYSIS
I. Motion to Dismiss the First Counterclaim (Common Law Fraud)
A. Legal Standard
A motion to dismiss under FRCP 12(b)(6) will only be granted if it appears beyond doubt that the plaintiff can prove no set of facts in support of his claim which would entitle him to relief. Gibson v. United States, 781 F.2d 1334, 1337 (9th Cir), cert denied, 479 U.S. 1054 (1987). The review is limited to the complaint, and all allegations of material fact are taken as true and viewed in the light most favorable to the non-moving party. Cassettari v. Nevada County, Cal., 824 F.2d 735, 737 (9th Cir 1987). The court should dismiss a complaint for failure to state a claim only when it appears beyond doubt that the plaintiff can prove no set of facts in support of the claim which would entitle the plaintiff to relief. Conley v. Gibson, 355 U.S. 41, 45 (1957).
B. Statute of Limitations
First, plaintiffs argue that both counts of defendants' counterclaim for common law fraud are barred by Oregon's two year statute of limitations, ORS 12.110, because they are based on conduct that took place over three years ago. With respect to Count I, the latest misrepresentation alleged by defendants took place in June 1998, while with respect to Count II, the alleged misrepresentation(s) took place on December 4, 1997. This action was filed on July 18, 2000, and the filing of the fraud counterclaim relates back to that date. Reiter v. Cooper, 507 U.S. 258, 264 (1993). Thus, both counts of defendants' common law fraud counterclaim arise from conduct occurring more than two years before defendants filed the First Counterclaim.
Defendants respond that: (1) New York's six year statute of limitations, N Y CPLR § 213(8) (1990) controls; and (2) even if Oregon's statute of limitations controls, it did not begin to run until defendants discovered the fraud, which was within the two-year period.
"[A] federal court sitting in diversity must apply the conflict of law rules of the forum." Rosenthal v. Fonda, 862 F.2d 1398, 1400 (9th Cir 1988); Klaxon Co. v. Stentor Electric Mfg. Co., 303 U.S. 487, 496 (1941). This court must therefore apply Oregon's conflict of law rules to the present case. Oregon has traditionally referred to the RESTATEMENT (SECOND) OF CONFLICT OF LAWS as a basis for deciding choice of law questions. Myers v. Cessna Aircraft Corp., 275 Or. 501, 553 P.2d 355 (1975). The Restatement provides that:
In general, unless the exceptional circumstances of the case make such a result unreasonable:
(1) The forum will apply its own statute of limitations barring the claim.
(2) The forum will apply its own statute of limitations permitting the claim unless:
(a) maintenance of the claim would serve no substantial interest of the forum; and
(b) the claim would be barred under the statute of limitations of a state having a more significant relationship to the parties and the occurrence.
RESTATEMENT (SECOND) OF CONFLICT OF LAWS § 142 (1988) (replacing the original §§ 142 and 143).
Comment (f) to § 142 addresses situations, as presented in this case, in which the forum state has a shorter statute of limitations than that of the foreign state and states:
[S]ubject to rare exceptions, the forum will dismiss a claim that is barred by its statute of limitations, including a borrowing provision making applicable the statute of limitations of another state.
Examples of such rare exceptions are when an alternative forum is not available to a plaintiff or where for some reason a judgment obtained in any other state having jurisdiction would be enforceable elsewhere. An exception is also provided for cases in which an alternative forum is extremely inconvenient for the parties.
Defendants have not proffered any reason as to why this case is one of the "rare" exceptions to the general rule of § 142. Thus, Oregon's shorter two year statute of limitations controls.
Nevertheless, with respect to Count I, defendants argue that they did not discover that Paulsell thought that he had a binding agreement with them for a sale of stock until (at the earliest) they received the August 28, 1998 memorandum from Paulsell indicating that the family had decided to "follow through" on the alleged agreement to sell their stock. With respect to Count II, defendants argue that they did not discover the misrepresentations until they were provided a copy of a memorandum during the course of discovery in this case. If defendants alleged these facts in the First Counterclaim, then they may avoid a statute of limitations bar. However, these allegations are not contained in the Amended Answer and therefore do not assist defendants in avoiding a motion to dismiss.
Oregon clearly requires fraud claims filed more than two years after the allegedly fraudulent activity to be supported by factual allegations showing the reasons for the delay in discovering the alleged fraud:
When the pleadings disclose that the action was not commenced within two years after the alleged fraud was consummated, it is necessary for plaintiff to negative lack of diligence in the discovery of the fraud and to set forth the reasons why there was not an earlier discovery of the fraud.
Salem Sand Gravel Co. v. City of Salem, 260 Or. 630, 637, 492 P.2d 271, 275 (1971); see also, Huycke v. Latourette, 215 Or. 173, 177, 332 P.2d 606, 608 (1958) ("[A] complaint filed after the period provided by statute for the bringing of the action must negative lack of diligence in the discovery of the fraud.").
Defendants have clearly failed to meet this requirement in bringing their counterclaims. Without elaboration, defendants now simply allege that they did not know about Paulsell's alleged misrepresentations or omissions. Thus, both counts of defendants' First Counterclaim should be dismissed, with leave to replead to cure the statute of limitations defect. However, as discussed below, defendants should be granted leave to replead only Count II of their First Counterclaim.
C. Failure to State a Claim
The remaining arguments by plaintiffs are directed at Count I of the First Counterclaim. Plaintiffs argue that defendants cannot show that they were misled by Paulsell's alleged misrepresentations between December 1997 and June 1998, that he was not a party to nor bound by any agreements relating to the disposition of TRM stock. This court agrees.
Plaintiffs' argument is based on the following line of reasoning: If there was no oral agreement reached at the December 4, 1997 dinner meeting, then Paulsell made no misrepresentation in the excerpts of the SEC filings relied on by defendants, which state that the Paulsell family shares are not subject to any agreement for their disposition. If, on the other hand, there was such an agreement, then defendants were a party to that agreement and cannot prevail on a claim for fraud because they were not ignorant of the falsity of the statement and could not have relied on the allegedly false statement.
In response, defendants posit that a jury could conclude that there was no meeting of the minds at the December 4, 1997 dinner meeting (and hence no agreement for the sale/purchase of the Paulsell family stock), and also consistently conclude that Paulsell intentionally failed to disclose his (in hindsight, mistaken) belief that defendants had agreed to buy the shares with the intent to later sue defendants to enforce the nonexistent agreement. However, even under defendants' hypothetical, there is still no agreement, and therefore no basis to conclude that the SEC filings constitute an actionable misrepresentation.
At oral argument, defendants' counsel pointed out that this court had allowed plaintiffs to replead to allege a fraud claim arising out of contract. However, defendants simply may not bootstrap a contract claim into a claim for fraud. As discussed previously by this court, a fraud claim must be premised on something more than an allegation that a party entered into an agreement not intending to carry out its end of the bargain:
The fraud claims arising from a decline in TRM's stock price must be premised on some further promise by defendants concerning TRM's future performance or stock price.
* * *
Only if defendants somehow led plaintiffs to believe that TRM's stock price would not decline as a result of defendants' purchase of plaintiffs' stock would a fraud claim be cognizable. However, that is not alleged. In short, the fact allegedly misstated by defendants simply is not "of a nature calculated to bring about [the] result" about which plaintiffs complain. Criqui, 41 Or App at 518, 599 P.2d at 1181, quoting Prosser, LAW OF TORTS, 732 § 110 (4th ed. 1971).
Amended Findings and Recommendation dated November 14, 2000 (docket #18), pp. 8-9, adopted by District Court Judge Ancer L. Haggerty on December 12, 2000 (docket #20).
Following that ruling, plaintiffs amended their pleadings and alleged that defendants "represented in their New York meeting with Paulsell, and in subsequent business meetings, that they had the ATM managerial experience and a business plan which, when implemented, would cause TRM's earnings to soar and therefore increase the value of plaintiffs' remaining shares of TRM stock." Fourth Amended Complaint (docket #37), ¶ 12. In contrast, Count I of defendants' First Counterclaim is premised solely on Paulsell's alleged failure to disclose his belief that he had an oral agreement to sell stock to defendants. While Paulsell's failure to disclose may be used as evidence to establish that, in fact, no agreement to buy/sell the shares existed, it may not be used to convert an otherwise straightforward disagreement over the existence or nonexistence of a binding oral agreement into a claim for fraud. If defendants are correct that Paulsell is suing to enforce an agreement that he knows is nonexistent, then they may be able to recover their attorney fees to defend a frivolous claim.
For these reasons, Count I of Defendants' First Counterclaim should be dismissed with prejudice.
RECOMMENDATION
For the reasons stated above, Plaintiffs' Motion to Dismiss Defendants' Common Law Fraud Counterclaim and to Strike Irrelevant Allegations (docket #41) should be GRANTED in part and DENIED in part. Both counts of defendants' First Counterclaim should be DISMISSED, with leave granted to defendants to replead Count II to cure the statute of limitations problem and the motion to strike should be DENIED AS MOOT.
SCHEDULING ORDER
Objections to these Amended Findings and Recommendation, if any, are due September 21, 2001. If no objections are filed, then the Amended Findings and Recommendation will be referred to a district court judge and go under advisement on that date.
If objections are filed, the response is due no later than October 9, 2001. When the response is due or filed, whichever date is earlier, the Findings and Recommendation will be referred to a district court judge and go under advisement.