Magic Circle Corp. v. Crowe Horwath, LLP

• Decision Date: 08 March 2017
• Docket Number: Court of Appeals Case No. 71A03-1607-PL-1520
• Citation: 72 N.E.3d 919
• Parties: MAGIC CIRCLE CORP., d/b/a Dixie Chopper, Arthur Evans, Wesley Evans, and Jeffrey Haltom, Appellants–Plaintiffs, v. CROWE HORWATH, LLP, Appellee–Defendant.
• Court: Indiana Appellate Court

72 N.E.3d 919

MAGIC CIRCLE CORP., d/b/a Dixie Chopper, Arthur Evans, Wesley Evans, and Jeffrey Haltom, Appellants–Plaintiffs,

v.CROWE HORWATH, LLP, Appellee–Defendant.

Court of Appeals Case No. 71A03-1607-PL-1520

Court of Appeals of Indiana.

March 8, 2017

Attorney for Appellant : R. William Jonas, Jr., Hammerschmidt, Amaral, & Jonas, South Bend, Indiana

Attorneys for Appellee : Caesar A. Tabet, Mark H. Horwitch, John M. Fitzgerald, Tabet DiVito & Rothstein LLC, Chicago, Illinois, Michael A. Trippel, Phillip A. Garrett, Thorne Grodnik, LLP, Mishawaka, Indiana

Bailey, Judge.

Case Summary

[1] Magic Circle Corporation d/b/a Dixie Chopper ("Magic Circle") and several of its shareholders filed a multi-count complaint against numerous parties, including Magic Circle's former auditing firm, Crowe Horwath LLP ("Crowe"). The trial court dismissed several counts, and this Court affirmed that decision on appeal, leaving only two counts against Crowe. Subsequent to the appeal, Crowe filed a motion to dismiss the remaining counts against it, and the trial court granted Crowe's motion on the grounds that the claims were barred by the economic loss rule and several exculpatory provisions. Magic Circle now appeals the trial court's order.

[2] We reverse and remand for further proceedings.

Issues

[3] Magic Circle raises two issues for our review, which we restate as whether the trial court erred when it dismissed the complaint because:

1. The economic loss rule is inapplicable in this case; and

2. The exculpatory provisions in the engagement agreements between Magic Circle and Crowe do not operate to relieve Crowe of all liability for the professional malpractice as alleged in the Second Amended Complaint.¹

Facts and Procedural History

[4] Consonant with the standard of review, we take as true the facts as alleged in Magic Circle's second amended complaint.

[5] Magic Circle was experiencing business and financial difficulty in late 2008 and 2009, and it hired Simon Wilson ("Wilson") and Gary Morgan ("Morgan") to lead the business through a turnaround effort.

In 2008, Crowe was retained to provide auditing services for Magic Circle. Crowe continued in this role until 2013. Wilson and Morgan provided Crowe with inaccurate financial information, and did not accurately represent the company's financial condition to the board and shareholders.² Though Morgan departed Magic Circle in 2011, the financial problems went largely undiscovered until 2013, when Crowe's year-end audit of 2012's financial records disclosed a $14 million loss for Magic Circle.

[6] Subsequent to this discovery, Magic Circle retained another auditing firm, which confirmed that Morgan and Wilson had not provided proper financial records, that Crowe's audit reports were incorrect, and that Crowe had not discovered these problems until 2013. The financial state of the business was sufficiently dire that a recovery of the business became impossible, and Magic Circle was sold at a substantial loss to a private investment firm.

[7] Magic Circle and three of its shareholders filed suit against Wilson, Morgan, and Crowe. With leave of the trial court, Magic Circle filed its Second Amended Complaint on December 15, 2014. On February 17, 2015, Wilson filed a motion to dismiss the complaint, alleging that Magic Circle had failed to plead fraud with the specificity required by our trial rules. The trial court agreed and, on May 15, 2015, the trial court dismissed with prejudice all of Magic Circle's claims against Wilson and Morgan, as well as those of the three shareholders who had joined the suit. This court affirmed that judgment in an unpublished memorandum opinion on December 30, 2015, Magic Circle Corp. v. Wilson , 44 N.E.3d 841 (Ind. Ct. App.2015), and on June 23, 2016, the Indiana Supreme Court denied a petition for transfer.

[8] After this Court's affirmance of the trial court's order of dismissal, on January 19, 2016, Crowe filed a motion to dismiss the remaining claims in the Second Amended Complaint, namely, Magic Circle's claims that Crowe aided and abetted fraud and committed accountant malpractice. After a hearing, on June 6, 2016, the trial court entered its order dismissing all of Magic Circle's remaining claims against Crowe.

[9] This appeal ensued.

Discussion and Decision

Standard of Review

[10] Magic Circle argues that the trial court erred when it dismissed for failure to state a claim under Trial Rule 12(B)(6) the company's claim that Crowe had committed accountant malpractice. Our Indiana Supreme Court has announced the standard of review for appeals from orders of dismissal under Rule 12(B)(6) :

A motion to dismiss for failure to state a claim tests the legal sufficiency of the claim, not the facts supporting it. Charter One Mortgage Corp. v. Condra, 865 N.E.2d 602 (Ind. 2007). Thus, our review of a trial court's grant or denial of a motion based on Trial Rule 12(B)(6) is de novo. Id. When reviewing a motion to dismiss, we view the pleadings in the light most favorable to the nonmoving party, with every reasonable inference construed in the nonmovant's favor. City of New Haven v. Reichhart, 748 N.E.2d 374 (Ind. 2001). Inasmuch as motions to dismiss are not favored by the law, they are properly granted only "when the allegations present no possible set of facts upon which the complainant can recover." Mart v. Hess, 703 N.E.2d 190, 193 (Ind. Ct. App. 1998). Put another way, a dismissal under Rule 12(B)(6) will not be affirmed "unless it is apparent that the facts alleged in the challenged pleading are incapable of supporting relief under any set of circumstances." Couch v. Hamilton County, 609 N.E.2d 39, 41 (Ind. Ct. App. 1993).

City of E. Chicago, Indiana v. E. Chicago Second Century, Inc ., 908 N.E.2d 611, 617 (Ind. 2009).

Economic Loss Rule

[11] We address first one of the bases upon which the trial court rested its dismissal of Magic Circle's claims, the economic loss doctrine. Generally, the economic loss rule states:

damage from a defective product or service may be recoverable under a tort theory if the defect causes personal injury or damage to other property, but contract law governs damage to the product or service itself and purely economic loss arising from the failure of the product or service to perform as expected.

Indianapolis–Marion Cnty. Pub. Library v. Charlier Clark & Linard, P.C. , 929 N.E.2d 722, 728 (Ind. 2010) (citation omitted).

[12] In explaining the rule, the Indiana Supreme Court has stated that "the economic loss rule reflects that the resolution of liability for purely economic loss caused by negligence is more appropriately determined by commercial rather than tort law." Id. at 729. Limiting a recovery of such purely pecuniary losses to commercial law serves to ensure the application of warranty and other commercial rules, whereas a remedy at tort would allow a plaintiff buyer " ‘to circumvent the seller's effective limitation or exclusion of warranties under [the Uniform Commercial Code], and subject[ ] manufacturers to liability for damages of unknown and unlimited scope.’ " Id. (quoting Reed v. Central Soya Co., Inc. , 621 N.E.2d 1069, 1075 (Ind. 1993) ). The economic loss rule serves a second purpose related to the question of unlimited scope of damages: use of tort remedies may create " ‘a potential for liability so uncertain in time, class, or amount that [a defendant should not be] fairly or practically expected to account for the potential liability when undertaking the conduct that gives rise to it.’ " Id. at 730 (quoting Restatement (Third) of Economic Torts and Related Wrongs § 8, cmt. d(2) (Council Draft No. 2, 2007)).

[13] However, our supreme court has made clear that the economic loss rule is a general rule, and thus certain purely economic losses fall within exceptions that permit recoveries at tort. Id. Among the exceptions articulated by the Indiana Supreme Court are "lawyer malpractice, breach of a duty of care owed to a plaintiff by a fiduciary, breach of a duty to settle owed by a liability insurer to the insured, and negligent misstatement." Id. at 736. Magic Circle argues that the nature of its negligence claim—accountant malpractice—is among the exceptions to the rule.

[14] We have found no Indiana case that addresses directly the question of whether the economic loss rule applies to bar actions at tort for accountant malpractice. We note, however, that courts in our sister State of Illinois, as well as federal courts, have held that the economic loss rule does not preclude an action against accountants for professional negligence. The Illinois Supreme Court confronted the applicability vel non of the economic loss rule to accountant malpractice claims in Congregation of the Passion, Holy Cross Province v. Touche Ross & Co. , 159 Ill.2d 137, 201 Ill.Dec. 71, 636 N.E.2d 503 (1994), cert. denied . In Congregation of the Passion , the plaintiff, an order of the Roman Catholic Church that met operating expenses through the use of contributions and investment income, sued its accounting firm for professional negligence in the preparation of financial statements. Id. , 201 Ill.Dec. 71, 636 N.E.2d at 505. Congregation of the Passion prevailed at trial and the Touche Ross & Company appealed. Id. 201 Ill.Dec. 71, 636 N.E.2d at 509. Among the claims of error was that the lower courts had erred in awarding damages at tort for purely economic losses associated with Touche Ross & Company's professional negligence. Id.

[15] Addressing Touche Ross & Company's claims, the Illinois Supreme Court observed that the economic loss rule prevents an outcome "that tort law would, if allowed to develop unchecked, eventually envelop contract law." Id. 201 Ill.Dec. 71, 636 N.E.2d at 513. The Illinois Supreme Court observed that though it had held that the economic loss rule applied to certain contracts for services, the rule operated to preclude a tort recovery "only where the duty of the party performing the service is defined by the contract...