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Kevin Schlosser Authors, "First Department Offers More Guidance on Pecuniary Damages in Fraud Claims"

Mar 2, 2017Litigation & Dispute Resolution
Source: The New York Appellate Division, First Department, continued its instructive elucidation of the need to show pecuniary damages in fraud claims, affirming the dismissal of all fraud-related claims in Norcast v Castle Harlan, Inc. 2017 NY Slip Op 01479, (1st Dep’t Feb. 23, 2017) “because the damages sought were impermissibly speculative.” Norcast was consistent with the First Department’s recent decision in Kumiva Group, LLC v. Garda USA Inc., 2017 N.Y. Slip. Op. 00235 (1st Dep’t Jan. 12, 2017), which was the subject of my earlier post. No Recoverable Pecuniary Damages “In a fraud action, a plaintiff may recover only the actual pecuniary loss sustained as a direct result of the wrong.” Continental Cas. Co. v PricewaterhouseCoopers, LLP, 15 NY3d 264, 907 NYS2d 139, 933 NE2d 738 (2010). I have elaborated on this rule in my posts. In Norcast, “Plaintiffs claim[ed] that defendant fraudulently induced them to sell [their] business for the deflated purchase price of $190 million by concealing the true identity of the buyer, a competitor business.” Plaintiffs’ fraud-based claims included fraud, conspiracy to defraud, fraud in the inducement, negligent misrepresentation, and aiding and abetting fraud. On defendant’s motion to dismiss all of these claims, Justice Saliann Scarpulla of the New York County Commercial Division dismissed each of the claims “because the damages sought were impermissibly speculative.” The First Department affirmed. The First Department acknowledged the well-accepted rules for alleging damages in fraud actions: “Damages for fraud are calculated according to the ‘out-of-pocket’ rule and must reflect ‘the actual pecuniary loss sustained as the direct result of the wrong’ (Lama Holding Co. v Smith Barney, 88 NY2d 413, 421 [1996]). Damages may only properly compensate plaintiffs for ‘what they lost because of the fraud, not . . . for what they might have gained,’ and ‘there can be no recovery of profits which would have been realized in the absence of fraud’ (id.).” Plaintiffs’ problem was that they did not properly articulate how they were damaged by virtue of not knowing that the real buyer of their business was actually one of their competitors. Thus, in affirming dismissal, the First Department honed in on this gaping omission: “Here, plaintiffs seek to recover the profits they might have gained had the true identity of the buyer been revealed. But there is no way of knowing what purchase price would have been agreed upon had the buyer’s identity been known. Nor is there any suggestion that the agreed price was unfair, as it was voluntarily accepted by plaintiffs, who had their own financial advisors, as the result of a competitive bidding process and was $20 million higher than the next highest bid.” Unreasonable Reliance As an additional basis for affirming dismissal, the First Department found fault with another necessary element of fraud claims – the need to allege and prove that plaintiff reasonably relied on the false information provided by defendant to its detriment. The Court found it significant that plaintiffs claimed that the identity of the true buyer was critical to their decision to accept the $190 million purchase price, yet they did not even ask defendant for a representation regarding the identity of the buyer: “Plaintiffs did not press defendant for a contractual warranty regarding the purchaser’s identity, or even for direct answers to their questions on this subject, despite their awareness of defendant’s close relationship with their competitor and suspicions regarding its involvement. ‘[W]hen the party to whom a misrepresentation is made has hints of its falsity, a heightened degree of diligence is required’ and ‘[i]t cannot reasonably rely on such representations without making additional inquiry to determine their accuracy’ (Global Mins. & Metals Corp. v Holme, 35 AD3d 93, 100 [1st Dept 2006], lv denied 8 NY3d 804 [2007]). Where, as here, ‘a party fails to make further inquiry or insert appropriate language in the agreement for its protection, it has willingly assumed the business risk that the facts may not be as represented’ (id.).” Lessons Learned For those wishing to assert fraud claims or preserve rights: Be prepared to substantiate the damages you claim you sustained from the fraud, identifying and proving your out of pocket losses. And if you believe information is relevant to your decision to enter into the contract, get that information in writing in the form of a specific representation and don’t disclaim reliance on that same information. Fully investigate all suspicious questions or issues of concern before entering into the contract and document what is uncovered through protective contractual provisions.