In re Energy Systems Equip. Leasing Sec. Litigation

• Decision Date: 05 August 1986
• Docket Number: No. MDL-637.,MDL-637.
• Citation: 642 F. Supp. 718
• Parties: In re ENERGY SYSTEMS EQUIPMENT LEASING SECURITIES LITIGATION.
• Court: U.S. District Court — Eastern District of New York

642 F. Supp. 718

In re ENERGY SYSTEMS EQUIPMENT LEASING SECURITIES LITIGATION.

No. MDL-637.

United States District Court, E.D. New York.

August 5, 1986.

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Goodkind, Wechsler, Labaton & Rudoff By Joseph Steinberg, New York City, Sachnoff, Weaver & Rubenstein, Ltd. By Fay Clayton, Chicago, Ill., co-lead counsel for plaintiffs; Shea & Gould By Richard Spinogatti, New York City, Lord, Bissell & Brook By David D. McLaughlin, Chicago, Ill., colead counsel for defendants.

MEMORANDUM AND ORDER

WEXLER, District Judge.

This litigation, consisting of seven cases consolidated before this Court for purposes of all pretrial and discovery proceedings pursuant to 28 U.S.C. § 1407 and an Order of the Judicial Panel on Multidistrict Litigation,¹ arises out of the lease and sale of energy conservation systems, allegedly designed for the primary purpose of providing tax shelters to investors. In accordance with the Court's Orders, plaintiffs have filed a single Consolidated Class Action Complaint ("Consolidated Complaint") covering five of these cases.² Additionally, there are before the Court the individual complaints filed in the two remaining cases, Duco v. OEC Leasing Corp. and Horn v. OEC Leasing Corp.,³ which, although in front of this Court for all pretrial and discovery matters, will ultimately be returned for trial to the forums in which they were originally commenced.⁴ The Court now must consider motions to dismiss filed by a number of the defendants and plaintiffs' motion for class certification.

I. FACTUAL BACKGROUND

A. The Basic Scheme

For the purposes of deciding the motions currently pending, the Court must take as true the facts alleged by plaintiffs in the complaints. In considering a motion to dismiss, a court must view the material allegations of a complaint, along with such reasonable inferences as might be drawn in the plaintiffs' favor, as admitted. Garguil v. Tompkins, 704 F.2d 661 (2d Cir.1983), vacated on other grounds, 465 U.S. 1016, 104 S.Ct. 1263, 79 L.Ed.2d 670 (1984); Murray v. City of Milford, 380 F.2d 468 (2d Cir.1967). A court may dismiss a complaint only if it is clear that no relief could be granted under any set of facts that could be proved consistent with the allegations. Hishon v. King & Spalding, 467 U.S. 69, 104 S.Ct. 2229, 81 L.Ed.2d 59 (1984). Furthermore, when a defendant seeks to dismiss a complaint, the court is restricted to evaluating the legal sufficiency of the pleadings. Scheuer v. Rhodes, 416 U.S. 232, 94 S.Ct. 1683, 40 L.Ed.2d 90 (1974). The motion is addressed to the face of the pleadings and the court may look only within the four corners of the complaint or to statements or documents attached as exhibits to or clearly incorporated by reference in the pleadings. Fed.R. Civ.P. 10(c); Goldman v. Belden, 754 F.2d 1059 (2d Cir.1985); Ryder Energy Distribution Corp. v. Merrill Lynch Commodities, Inc., 748 F.2d 774 (2d Cir.1984).

A complaint's substantive allegations must also be accepted as true upon consideration of a class certification motion. Blackie v. Barrack, 524 F.2d 891 (9th Cir. 1975), cert. denied, 429 U.S. 816, 97 S.Ct. 57, 50 L.Ed.2d 75 (1976). A court may not examine the merits of plaintiffs' claims when deciding such a motion. Eisen v. Carlisle & Jacquelin, 417 U.S. 156, 94 S.Ct. 2140, 40 L.Ed.2d 732 (1974); In re Scientific Control Corp. Securities Litigation, 71 F.R.D. 491 (S.D.N.Y.1976); Steinmetz v. Bache & Co., 71 F.R.D. 202 (S.D.N.Y.1976).

Plaintiffs allege that the defendants in the consolidated cases jointly developed, participated in, and aided and abetted a sophisticated nationwide tax shelter scheme which systematically defrauded investors of tens of millions of dollars. Plaintiffs allege that defendants grossly inflated the fair market value of so-called "Energy Control Systems" ("Systems") through a series of sham sales transactions entered into among affiliated defendants. The Systems are essentially electronic switches which can turn electricity on or off according to a schedule established by a user. Defendants valued the systems at prices ranging, depending on the specific System, between $65,000 and $280,000. Other defendants then supplied "expert opinions" purporting to support the claimed value of the Systems.

The Systems were marketed to investors as tax shelters. Essentially, the investor would purchase what plaintiffs define as an "investment contract" security consisting of two separate agreements. The investor would enter into a long term lease agreement with one of the promoter defendants. The investor also had the option of signing a service agreement with another defendant company, often operated by the same individuals who controlled the promoter defendants, which would undertake to locate an appropriate end-user of the leased energy conservation device and install and maintain the System. Plaintiffs allege that defendants led investors to believe that leasing of the Systems would entitle them to large investment tax credits and depreciation deductions based upon the stated market value of the Systems. Furthermore, investors were led to believe that additional financial gains would result from a revenue sharing arrangement with regard to a large income stream that was to be generated by the energy savings which an end-user would purportedly achieve upon installing the System.

Plaintiffs claim that, in reality, the Systems are worth, at most, $3,000 apiece, and are totally incapable of generating an income stream even remotely approximating that which defendants represented would be available. The Internal Revenue Service has notified numerous investors that the claimed investment tax credit will be challenged and in fact already disallowed the tax shelter claimed by certain investors. The United States Department of Justice has instituted litigation on behalf of the Internal Revenue Service against several of the defendants, including a lawsuit currently pending in this Court.⁵ The Attorney General of the State of New York is also currently investigating the alleged scheme.⁶ Moreover, according to plaintiffs, the vast majority of the Systems has yet to be delivered or installed in an end-user's premises, and plaintiffs are unaware of any System which has been installed and is currently functioning in a manner consistent with the representations contained in defendants' offering materials and related documents.

The various complaints filed in the actions consolidated before the Court designate a multitude of individuals and companies as parties to the litigation. Additionally, although there is a significant overlap between the defendants named in the Consolidated Complaint and the complaints filed in the Duco and Horn actions ("Duco Complaint" and "Horn Complaint," respectively), the named defendants in each of the actions are not completely identical. Furthermore, the complaints vary to some degree in the specific claims alleged. Accordingly, the Court will separately discuss the particular parties named and counts contained in each of the three complaints.

B. Parties

1. Consolidated Complaint

a. Defendants

Defendants First Energy Leasing Corporation ("FELC") and OEC Leasing Corporation ("OEC") issued and promoted the System investment securities at issue in this litigation. First American Capital Corporation ("First American") allegedly provided FELC and OEC with their initial capitalization, office space, telephones, furniture, and overhead expenses. Plaintiffs contend that due to its controlling relationship with FELC and OEC, First American also constitutes an issuer and promoter of the System investment securities.

James Marci was the sole shareholder and President of FELC, Salesman Vice President of OEC, and an officer and President of First American during the periods relevant to the litigation. Jerome Cadden was a Vice President of FELC. Lee Rosenberg was FELC's Vice President, Marketing and appeared on a videotape used to promote the sale of the Systems. Mark Williams was a salesman for FELC. William Medina was President and a major stockholder of OEC. Additionally, Medina was an organizer, along with Frank Giuffrida, of defendant Franklin New Energy Corporation, ("FNEC"), which supplied Systems to OEC and possibly FELC. Guiffrida was FNEC's President and a major stockholder of that company. Michael Enden and Kenneth Carstow were OEC Vice Presidents. John Oster was an OEC employee.

Irwin Berman has been President of First American since December, 1983. Furthermore, at all times relevant to this litigation, Berman was a director and 20% shareholder of defendant Encon Enterprises, Inc. ("Encon"), which supplied equipment, including Systems, to FELC. Berman organized Encon along with defendants Lee Tobin, John DeRaffele, Estelle Cleary, and Virginia Marci, the wife of James Marci. Tobin was President of Encon, as well as a director of the company and a 20% shareholder. DeRaffele was Encon's Secretary, a director, and a 20% shareholder. Cleary and Virginia Marci were each directors and 20% shareholders of the company.

Besides FNEC and Encon, plaintiffs also name as defendants three other companies that purportedly supplied Systems and other equipment to FELC and OEC, at least indirectly. Plaintiffs allege that Energy Minder Corporation ("Energy Minder") supplied equipment to FNEC, which in turn resold it to OEC and possibly FELC to be leased to investors. Vanguard Energy Conservation Products, Inc. ("Vanguard") contracted to supply equipment to Encon, which in turn contracted to resell the equipment to FELC. Eckard Engineering, Inc. ("Eckard Engineering") designed and supervised the assembly of Systems for FNEC, Encon, and Vanguard.

Plaintiffs contend that DeRaffele and Robert Cleary, the husband of Estelle Cleary, control Energy Minder, either directly or indirectly. William Eckard was and is one of...