Dloogatch v. Brincat

• Decision Date: 16 December 2009
• Docket Number: Nos. 1-08-0168, 1-08-0281.,s. 1-08-0168, 1-08-0281.
• Citation: 920 N.E.2d 1161,336 Ill. Dec. 571
• Parties: Michael DLOOGATCH, David Birnbaum, Herbert Lederer, and Victor R. Fernitz, on Behalf of Themselves and All Others Similarly Situated, Plaintiffs-Appellants, v. John N. BRINCAT, John N. Brincat, Jr., James A. Doyle, William C. Croft, Mercury Finance Company, and KPMG Peat Marwick, L.L.P., Defendants-Appellees (Terra Foundation For The Arts, Intervening Class Member and Separate Appellant).
• Court: United States Appellate Court of Illinois

920 N.E.2d 1161

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336 Ill. Dec. 571

Michael DLOOGATCH, David Birnbaum, Herbert Lederer, and Victor R. Fernitz, on Behalf of Themselves and All Others Similarly Situated, Plaintiffs-Appellants, v. John N. BRINCAT, John N. Brincat, Jr., James A. Doyle, William C. Croft, Mercury Finance Company, and KPMG Peat Marwick, L.L.P., Defendants-Appellees (Terra Foundation For The Arts, Intervening Class Member and Separate Appellant).

Nos. 1-08-0168, 1-08-0281.

Appellate Court of Illinois, First District, Third Division.

December 16, 2009.

Bellows and Bellows, P.C., of Chicago (Joel J. Bellows and Christopher L. Gallinari, of counsel), for Appellant Terra Foundation.

William J. Harte, Ltd., of Chicago (William J. Harte and Dana M. Pesha, of counsel); Lawrence Walner & Assoc., Ltd., of Chicago (Lawrence Walner and Michael S. Hilicki, of counsel); Prickett, Jones & Elliot, of Wilmington, DE (Ronald A. Brown, of counsel); Weltman Law Firm, of Chicago (Stewart M. Weltman, of counsel); and Futterman, Howard, Watkins, Wylie & Ashley Chtd., of Chicago (Charles Watkins, of counsel), for Appellants.

Sidley Austin LLP, of Chicago (Linton J. Childs, Hille R. Sheppard and Ian M. Ross, of counsel), for Appellee.

Justice COLEMAN delivered the opinion of the court:

Plaintiffs, a class of individual investors, appeal from an order of the circuit court of Cook County granting defendant KPMG's motion to dismiss pursuant to section 2-615 of the Illinois Code of Civil Procedure (735 ILCS 5/2-615 (West 2006)) for failing to state a claim upon which relief may be granted. This appeal was consolidated with the separately filed appeal by Terra Foundation for the Arts (Terra), a purported intervening class member. Plaintiffs claim that they retained their stock in Mercury Finance Company (Mercury) based on fraudulent financial reports prepared by Mercury's auditor, KPMG, and suffered pecuniary damage as a result of the fraud. KPMG is the only remaining defendant. On appeal, plaintiffs argue that the trial court erred in dismissing their fourth amended complaint because they adequately plead reliance and damage to maintain their common law fraud claim; they are not required to plead the precise method to be used at trial to calculate damages; and the fourth amended complaint does pled a method of calculating damages. Terra joined in plaintiffs' arguments and wrote separately to further argue in support of an alternate measure of out-of-pocket damages articulated by plaintiffs. Defendant contends that plaintiffs' theories for calculating damages are invalid, reliance has not sufficiently been pled, and the complaint only asserts derivative claims.

The instant appeal presents a case of first impression in Illinois. Our courts have never considered whether the "holder" of securities may bring a common law fraud claim and what the pleading requirements are for such a claim, as well as which method of calculating damages is appropriate. For the reasons set forth below, we affirm the trial court's order dismissing the complaint.

PROCEDURAL BACKGROUND

Prior to February 23, 1994, the members of the class purchased publicly traded common stock in Mercury Finance Company. Mercury was a consumer finance company engaged in the business of purchasing individual installment sales finance contracts from automobile dealers, extending short-term installment loans to consumers, and selling credit insurance. Defendant KPMG is an accounting firm that Mercury hired to perform audits of Mercury's financial statements from 1993 to 1997. On January 29, 1997, Mercury publicly reported that the financial reports from 1993 to 1996 had been overstated due to accounting errors. That same day the New York Stock Exchange suspended trading on Mercury stock. On January 28, 1997, the stock was trading at $14.875 per share. When trading of Mercury stock reopened on January 31, 1997, the price had dropped to $2.125 per share.

On July 16, 1996, plaintiffs filed a class action complaint against Mercury's chief executive officer and directors, Mercury, and KPMG alleging negligence, negligent misrepresentation, breach of fiduciary duty (except against KPMG), and common law fraud. The original complaint was dismissed and plaintiffs filed a first amended complaint alleging negligence, negligent misrepresentation, and common law fraud as well as a count against KPMG for aiding and abetting the perpetration of a fraud. William C. Croft, one of Mercury's outside directors, was dismissed. Mercury was also dismissed after filing for bankruptcy protection.

KPMG filed a motion to dismiss the first amended complaint. During argument on the motion, the trial court sua sponte raised the issue of federal preemption based upon the Securities Exchange Act of 1934. Although all the parties agreed that plaintiffs' claims were not preempted, the trial court dismissed on that basis.

Plaintiffs appealed the order dismissing the first amended complaint and this court reversed and remanded after concluding that the claim was not preempted by federal law. In Dloogatch v. Brincat, No. 1-98-3139 (1999) (unpublished order under Supreme Court Rule 23), this court explicitly stated that it expressed no opinion on whether any of plaintiffs' allegations were sufficient to withstand a motion to dismiss.

Following remand to the trial court, defendant filed another motion to dismiss, which was denied as to negligence, negligent misrepresentation and fraud, but was granted on the count KPMG for aiding and abetting a fraud.

On December 7, 1999, plaintiffs reached a settlement with Mercury's bankruptcy estate and the directors and officers. Plaintiffs filed a motion to certify the class. Judge McGann granted the motion and certified the class.¹ In the order certifying the class, Judge McGann stated that the court need not determine the appropriate measure of damages at that instant, but the "benefit of the bargain" was not the appropriate measure in this case.

KPMG filed a motion to dismiss plaintiffs' second amended complaint, which the trial court granted. The trial court directed plaintiffs to replead certain allegations to make it clear that they were only being pled to preserve the record. The trial court also instructed plaintiffs that Baughman needed to specify the value of his stock at the time the fraud began and the price at which he sold it. The trial court rejected the "benefit of the bargain" and the "yardstick" alternative as appropriate measures of damages. In its order dismissing the second amended complaint, the trial court stated generally that in "holder claims" plaintiffs could plead damage through "allegations that demonstrate out of pocket damages proximately caused by the fraudulent inducement to refrain from selling."

On September 20, 2005, plaintiffs filed the third amended complaint. Defendants filed a motion to dismiss, which the trial court denied in substantial part with directions to further comply with the previous order to "clean up" the complaint. In its order, the trial court noted that plaintiffs complied with the court's previous directions regarding pleading damage by alleging two methods of measuring "out-of-pocket" damages. The trial court also ruled that "benefit of the bargain" was an inappropriate measure of damages based on the Illinois Supreme Court's then-recent decision in Price v. Philip Morris, Inc., 219 Ill.2d 182, 302 Ill.Dec. 1, 848 N.E.2d 1 (2005). The trial court further directed the parties to brief the issue of whether Merrill Lynch, Pierce, Fenner & Smith v. Dabit, 547 U.S. 71, 126 S.Ct. 1503, 164 L.Ed.2d 179 (2006), preempted plaintiffs' claim based on the Securities Litigation Uniform Standards Act (SLUSA) (15 U.S.C. § 78bb (2000)).

Plaintiffs filed their fourth amended complaint on February 27, 2007. Defendants filed a motion to dismiss the complaint. In the motion, defendants acknowledged that plaintiffs had complied with the trial court's instructions for amending the complaint, but argued that substantively the complaint was the same and still did not state a cause of action. KPMG further argued that plaintiffs' claims were preempted by SLUSA.

On December 19, 2007, the trial court granted KPMG's motion to dismiss. The trial court rejected the argument that SLUSA preempted plaintiffs' claims because plaintiffs had filed the cause of action prior to the enactment of SLUSA and, therefore, it did not apply. The trial court found that although plaintiffs had complied with previous pleading instructions, under no circumstances could plaintiffs adequately plead "any damage that was proximately caused by KPMG's misrepresentations." Plaintiffs' current appeal is from this order dismissing their fourth amended complaint.

DISCUSSION

As a preliminary note, plaintiffs' proposed cause of action, the "holder claim," would be preempted by the SLUSA, which prohibits class action lawsuits under state law that allege fraudulent misrepresentations or omissions in connection with the purchase or sale of a security, and which the United States Supreme Court held in Merrill Lynch, Pierce, Fenner & Smith Inc. v. Dabit, 547 U.S. 71, 89, 126 S.Ct. 1503, 1515, 164 L.Ed.2d 179, 194 (2006), applies equally to "holder claims." Not only was the present case filed prior to the enactment of SLUSA, it is unclear from the record whether the purported class has 50 or more members. Thus, had the present cause of action accrued after the enactment of SLUSA and the class had more than 50 members, it would be preempted.

Pursuant to section 2-615 of the Illinois Code of Civil Procedure (735 ILCS 5/2-615 (West 2006)), a motion to dismiss challenges the legal sufficiency of the complaint. On review, the question is "whether the allegations of the complaint, when construed in the light most favorable to the plaintiff, are sufficient to establish a cause of action upon which relief can be granted." Vitro v. Mihelcic, 209 Ill.2d 76, 81, 282 Ill.Dec. 335, 806 N.E.2d 632 (2004...