Bernstein v. Kelso & Co., Inc.

• Citation: 659 N.Y.S.2d 276,231 A.D.2d 314
• Court: New York Supreme Court Appellate Division
• Decision Date: 01 July 1997
• Parties: Richard A. BERNSTEIN, etc., Plaintiff-Appellant, v. KELSO & COMPANY, INC., et al., Defendants-Respondents.

Page 276

659 N.Y.S.2d 276

231 A.D.2d 314

Richard A. BERNSTEIN, etc., Plaintiff-Appellant, v. KELSO & COMPANY, INC., et al., Defendants-Respondents.

Supreme Court, Appellate Division,

First Department.

July 1, 1997.

Leon P. Gold, of counsel (Herman L. Goldsmith and Amy M. Held, on the brief, Proskauer Rose Goetz & Mendelsohn LLP, attorneys), for plaintiff-appellant.

Robert E. Zimet, of counsel (Susan L. Saltzstein, Jonathan R. Goldblatt, Helen L. Monaco, on the brief, Skadden, Arps, Slate, Meagher & Flom LLP, attorneys), for defendants-respondents Kelso, Goldberg, General Medical Corp. and GM Holdings.

Michael S. Feldberg, of counsel (Alan R. Glickman and Linda R. Daly, on the brief, Schulte Roth & Zabel LLP, attorneys), for defendants-respondents Nielsen, Robison, Garber and Nedrow.

Before ROSENBERGER, J.P., and WALLACH, NARDELLI and RUBIN, JJ.

NARDELLI, Justice.

Almost 70 years ago, Chief Judge Cardozo of the Court of Appeals set forth a fiduciary standard in words that have resounded down through the decades:

Many forms of conduct permissible in a workaday world for those acting at arm's length, are forbidden to those bound by fiduciary ties. A trustee is held to something stricter than the morals of the market place. Not honesty alone, but the punctilio of an honor the most sensitive, is then the standard of behavior. As to this there has developed a tradition that is unbending and inveterate.

(Meinhard v. Salmon, 249 N.Y. 458, 464, 164 N.E. 545).

As a Court of law and equity, we can do no less than adhere to the unbending tradition upholding this standard of behavior.

Our role in a motion to dismiss pursuant to CPLR 3211(a)(7) is limited to determining whether the complaint states a cause of action, not whether there is evidentiary support for the complaint (LoPinto v. J.W. Mays, Inc., 170 A.D.2d 582, 583, 566 N.Y.S.2d 357). We must liberally construe the complaint in favor of the plaintiff and accept as true all factual allegations (id.).

Applying these principles to the complaint before us, the allegations of plaintiff present a picture of the management employees of a corporation scheming with a potential buyer to sell the corporation at the lowest possible price the principal and other shareholders would accept. It is asserted that the management employees dealt secretly with the buyer, furnishing it confidential information to aid it in making the most favorable offer (for the buyer) in the transaction.

Plaintiff owned shares of Rabco Health Services, Inc. as of August 31, 1993, and instituted this action on behalf of himself and others similarly situated for damages caused by the defendants' purported fraud and breach of fiduciary duty in connection with the acquisition of General Medical Corp. through a purchase of the plaintiff's stock in Rabco, which was the parent corporation of General Medical. In 1993, General Medical was a privately held corporation engaged in the nationwide distribution of medical and surgical supplies. The plaintiff was the Chairman and President of Rabco and was also the Chairman and controlling shareholder of General Medical. The complaint alleges that in order to induce loyalty and provide incentives, Rabco sold General Medical's stock at a nominal price to certain members of its management, including the defendants Nielsen, Robison, Garber and Nedrow. The stock was restricted pursuant to a shareholders' agreement which, absent a public offering or sale of all shares of Rabco, precluded the management defendants from selling their stock to anyone but Rabco for adjusted shareholders' equity. The management defendants also signed voting agreements giving the plaintiff the sole power to direct the voting of their common stock. However, the complaint alleges that in March of 1993 the management defendants secretly conspired with the defendant Kelso & Company, a leveraged buy out firm that raises capital from investors and purchases operating companies, and one of Kelso's principals, the defendant Goldberg, to orchestrate a buyout of the plaintiff and the other shareholders' interests in Rabco, and consequently, General Medical, at an unfairly low price. As alleged by plaintiff, the management defendants did so because, in light of the shareholder restrictions, they could only realize the full potential value of their stock if Rabco were sold or taken public, thereby creating a market for the shares. Thus, it is alleged that the management defendants, unknown to plaintiffs, consulted with an attorney to explore ways to sell their stock in General Medical and then met with the Kelso defendants and disclosed confidential and proprietary information concerning General Medical's financial condition, business strategy, growth prospects and value, including material information withheld from Rabco and General Medical and their Boards. The management defendants also allegedly disclosed confidential information about Rabco and the plaintiff, including the plaintiff's plans for the business, his targeted return on shareholders' investment and what the plaintiff considered to be an acceptable sales price for Rabco. The plaintiff alleged that the management defendants told Goldberg that if plaintiff found out that they had met with Kelso, it would end the possibility of Kelso dealing with the plaintiff or would materially increase the price and could or would result in their employment being terminated for cause, which would allow Rabco to buy their stock for a lesser sum. Consequently, it is alleged that Goldberg pretended to make an "unsolicited" offer on behalf of Kelso to buy General Medical with management participating in the buyout and remaining with the company. Plaintiff alleged that the management defendants then pretended to meet Goldberg for the first time at a meeting arranged by plaintiff.

On July 6, 1993, the plaintiff and Kelso agreed on a price of $225 million in cash, plus an additional amount of $9.5 million, and on August 31, 1993, General Medical was acquired by defendant GM Holdings, Inc., controlled by the management defendants, Goldberg and Kelso. Two Kelso affiliates acquired an 82.8% interest in GM Holdings. All directors and executive officers of General Medical also received 10.6% of GM Holdings. The plaintiff asserted that he first learned of what had taken place in May of 1995 when he read a deposition of defendant Nedrow in an unrelated federal action in Virginia.

The plaintiff therefore instituted this action for common law fraud against all of the defendants, for breach of fiduciary duty against the management defendants, for participation in and inducing the breach of fiduciary duty against Kelso and Goldberg, and sought damages, including punitive damages. The IAS court granted defendants' motions to dismiss the class action complaint, with prejudice, for failure to state a cause of action, failure to state in detail the circumstances constituting the claims for fraud and inducing and participating in a breach of fiduciary duty and for failure to fulfill the prerequisites to bringing a class action.

CPLR 3013 provides:

Statements in a pleading shall be sufficiently particular to give the court and parties notice of the transactions, occurrences, or series of transactions or occurrences, intended to be proved and the material elements of each cause of action or defense.

CPLR 3016, which deals with particularity required in specific actions, provides, in subsection (b), with respect to a cause of action for fraud:

Where a cause of action or defense is based upon misrepresentation, fraud, mistake, wilful default, breach of trust or undue influence, the circumstances constituting the wrong shall be stated in detail.

These provisions, read together, mandate only that the complaint allege the misconduct complained of in sufficient detail to inform the defendants of the substance of the claims. As the Court of Appeals has noted with respect to CPLR 3016(b):

This provision requires only that the misconduct complained of be set forth in sufficient detail to clearly inform a defendant with respect to the incidents complained of and is not to be interpreted so strictly as to prevent an otherwise valid cause of action in situations where it may be "impossible to state in detail the circumstances constituting a fraud" (Jered Contr. Corp. v. New York City Tr. Auth., 22 N.Y.2d 187, 194, 292 N.Y.S.2d 98, 239 N.E.2d 197).

(Lanzi v. Brooks, 43 N.Y.2d 778, 780, 402 N.Y.S.2d 384, 373 N.E.2d 278).

Although the IAS court found that the complaint failed to specify which defendants were involved in the allegedly clandestine meetings, which defendants agreed to keep the meetings separate or who participated in the continuing secret contacts, the gravamen of the complaint was that the defendants secretly conspired to orchestrate a buyout of Rabco at an unfairly low price using wrongfully disclosed and acquired confidential and proprietary information. Under the circumstances, where the facts were "peculiarly within the knowledge of the party against whom the [fraud] is being asserted" (Jered Contr. Corp. v New York City Tr. Auth., supra, at 194, 292 N.Y.S.2d 98, 239 N.E.2d 197), the misconduct complained of was set forth in sufficient detail to apprise defendants of the alleged wrongs. Given that the allegations must be given their most favorable intendment (Arrington v. New York Times Co., 55 N.Y.2d 433, 442, 449 N.Y.S.2d 941, 434 N.E.2d 1319 cert. denied 459 U.S. 1146, 103 S.Ct. 787, 74 L.Ed.2d 994), "it would be impossible for the plaintiff to state the circumstances in more detail because, if the allegations are true, only the defendants would have knowledge of the details" (Grumman Aerospace Corp. v. Rice, 196 A.D.2d 572, 573, 601 N.Y.S.2d 189).

Further, as noted by plaintiff, the IAS court erroneously decided factual issues in deciding the motion to dismiss. Thus, the Court found that plaintiff Bernstein had full access to General Medical's...