E*Trade Financial Corp. v. Deutsche Bank Ag, 05 Civ. 0902(RWS).

• Citation: 631 F.Supp.2d 313
• Decision Date: 01 June 2009
• Docket Number: No. 05 Civ. 0902(RWS).,05 Civ. 0902(RWS).
• Parties: E*TRADE FINANCIAL CORPORATION and E*TRADE Bank, a Federally Chartered Savings Bank, Plaintiffs, v. DEUTSCHE BANK AG, Defendant.
• Court: U.S. District Court — Southern District of New York

631 F.Supp.2d 313

E*TRADE FINANCIAL CORPORATION and E*TRADE Bank, a Federally Chartered Savings Bank, Plaintiffs, v. DEUTSCHE BANK AG, Defendant.

No. 05 Civ. 0902(RWS).

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

June 1, 2009.

COPYRIGHT MATERIAL OMITTED

Cooley Godward Kronish LLP, by: Douglas P. Lobel, Robert T. Cahill, Reston, VA, Celia Goldwag Barenholtz, New York, NY, for Plaintiffs.

Skadden, Arps, Slate, Meagher & Flom LLP, by: Scott D. Musoff, Jeremy A. Berman, New York, NY, for Defendants.

OPINION

SWEET, District Judge.

                TABLE OF CONTENTS
                I. PRIOR PROCEEDINGS.............................................................317
                II. FINDINGS OF FACT.............................................................317
                    A. The Parties and Related Entities..........................................317
                    B. The Securitizations.......................................................318
                       1. Accounting Treatment ..................................................320
                       2. Tax Treatment..........................................................320
                       3. Temporary Differences..................................................320
                

                    C. The Negotiations Leading to SPA...........................................323
                    D. The SPA...................................................................326
                    E. The Ganis Closing.........................................................331
                    F. The Negotiations Leading to the DRAFCO Closing............................333
                    G. The DRAFCO Closing........................................................345
                    H. The Dispute Following the DRAFCO Closing..................................349
                    I. The Accounting Treatment of the DTA ......................................365
                       1. The Experts............................................................365
                       2. The Servicing Fee Deduction ...........................................366
                       3. State Taxes............................................................371
                    J. The Liquidation Expense ..................................................372
                III. CONCLUSIONS OF LAW..........................................................373
                    A. Jurisdiction, Venue and the Applicable Law Have Been Established..........373
                    B. Deutsche Bank Breached the Contract.......................................373
                       1. The Failure To Deduct the Service Fee Expense..........................374
                          a. Breach of §§ 2.06.........................................374
                          b. The Breach of §§ 3.06 and 3.07 Arising Out of the Reference
                              Balance Sheet......................................................376
                          c. The Breach of § 3.14...........................................377
                       2. Deutsche Bank Has Not Established an Affirmative Defense to the
                           Contract Claims.......................................................377
                          a. Timely Notice.......................................................377
                          b. Compliance with § 2.06.........................................378
                          c. Waiver..............................................................379
                          d. Application of Article VII..........................................380
                          e. Estoppel, Laches, and Standing .....................................380
                       3. Deutsche Bank Did Not Breach SPA §§ 5.01 and 5.02............380
                    C. Deutsche Bank Did Not Commit Fraud........................................381
                       1. Deutsche Bank Knowingly Misrepresented the Tax Rate Applicable
                            to the DTA...........................................................381
                       2. E*TRADE reasonably relied upon Deutsche Bank's representations.........382
                       3. Intent to Defraud by Use of the 39.55% State Tax Rate Has Not
                           Been Established......................................................385
                        4. Deutsche Bank Did Not Fraudulently Conceal the Failure to Deduct
                            the Servicing Fee Expenses...........................................386
                    D. Deutsche Bank Did Not Commit Constructive Fraud...........................387
                    E. Deutsche Bank Did Not Breach Its Duty of Good Faith and Fair Dealing......388
                    F. E*TRADE Has Proven Its Damages............................................389
                    G. E*TRADE Is Entitled to Prejudgment Interest ..............................390
                    H. E*TRADE Is Not Entitled to Punitive Damages...............................390
                    I. E*TRADE Is Entitled to Attorneys' Fees....................................390
                IV. CONCLUSION...................................................................392
                

Plaintiffs E*TRADE Financial Corporation ("E*Trade Financial") and E*TRADE Bank ("E*Trade Bank") (collectively, the "Plaintiffs" or "E*TRADE") seek to recover over $11.5 million in damages for breach of contract and fraud, as well as prejudgment interest, costs and attorneys' fees, from defendant Deutsche Bank AG ("Deutsche Bank" or the "Defendant") arising from the sale of two Deutsche Bank subsidiaries, Ganis Credit Corporation ("Ganis") and Deutsche Recreational Asset Funding Corporation ("DRAFCO") to E*TRADE, pursuant to a Stock Purchase Agreement (the "SPA") entered into by the parties on November 25, 2002.

The parties are highly sophisticated entities, very well represented at the time of the transactions at issue and during this litigation. Through the pointillism of facts found below emerges the key issue—the proper accounting treatment for a complicated securitization. The difficulty and uncertainty of tax and accounting treatment for somewhat exotic securities that underlies our present national economic dilemma is presented paradigmatically in this action.¹ Although expert accountants, lawyers and executives differ, through diligence and persistence it is hoped that both the challenge of this action and of the present economic dilemma can be overcome.

In accordance with the Findings of Fact and Conclusions of Law set forth below, E*TRADE is entitled to judgment in its favor in the amount of approximately $18 million, including prejudgment interest, plus costs and attorneys' fees, Deutsche Bank having breached the SPA as a result of its failure to take certain significant tax deductions.

I. PRIOR PROCEEDINGS

On January 26, 2005, E*TRADE filed a complaint asserting claims for breach of contract, breach of the implied covenant of good faith and fair dealing, and unjust enrichment, alleging that Deutsche Bank breached its obligations under the SPA by overstating the value of a deferred tax asset on the DRAFCO closing balance sheet, resulting in an overpayment in the purchase price paid by E*Trade Bank.

Deutsche Bank answered the complaint on April 18, 2005, and on June 20, 2005, moved for judgment on the pleadings. On August 15, 2005, E*TRADE moved for leave to file the First Amended Complaint ("FAC"). The motions were heard together on November 23, 2005. On March 6, 2006, the motion for judgment on the pleadings was denied, and the motion for leave to amend was granted. See E*Trade Financial Corp. v. Deutsche Bank AG, 420 F.Supp.2d 273 (S.D.N.Y.2006) (the "March 6 Opinion"). The FAC was filed March 9, 2006 alleging fraud (Count I), fraudulent inducement (Count II), fraudulent concealment (Count III), constructive fraud (Count IV), negligent misrepresentation (Count V), unjust enrichment (Counts VI and VII), violation of California Unfair Competition law (Count VIII), breach of contract (Count IX), breach of implied covenant of good faith and fair dealing (Count X), and quantum meruit (Count XI).

On November 7, 2007, Deutsche Bank moved for summary judgment, and on June 13, 2008, the Court dismissed the claims in Counts VI, VII, VIII, and XI, but otherwise denied the motion. See E*Trade Financial Corp. v. Deutsche Bank AG, No. 05 Civ. 902(RWS), 2008 WL 2428225 (S.D.N.Y. June 13, 2008) (the "June 13 Opinion").

In limine motions were filed on September 29, 2008, and a thirteen-day bench trial commenced October 14, 2008. Post-trial briefs were filed on December 23, 2008, and post-trial argument was heard February 19, 2009.

II. FINDINGS OF FACT

A. The Parties and Related Entities

Plaintiff E*Trade Financial is a Delaware corporation with its principal place of business in New York, New York. E*Trade Financial provides online consumer financial services including securities trading, banking services, and originating mortgages and loans for retail, corporate, and institutional customers. June 13 Opinion at *1; Tr. 64 (B. Montgomery); Def. Ex. 291, 293.² E*Trade Financial was formerly known as E*TRADE Group ("E*Trade Group"). E*Trade Group changed its name to E*Trade Financial around 2003. Tr. 60 (B. Montgomery), 996 (Mackay). E*Trade Financial is, and E*Trade Group was, the parent company of all E*TRADE entities, including E*Trade Bank. Tr. 60 (B. Montgomery); June 13 Opinion at *1.

Plaintiff E*Trade Bank is a federally chartered savings bank with its principal place of business in Arlington, Virginia. E*Trade Bank offers a full range of consumer banking products and services including online banking and mortgage loans. June 13 Opinion at *1; Def. Ex. 291. E*Trade Bank is a wholly-owned subsidiary of E*Trade Financial. June 13 Opinion at *1.

Defendant Deutsche Bank is a German corporation with its principal place of business in Frankfurt, Germany. June 13 Opinion at *1. Its stock is traded on the New York Stock Exchange. At all relevant times it had approximately 300-400 subsidiaries in the United States. Tr. 1543 (Ferino), 1922 (H. Montgomery).

Before October 31, 2002, Ganis was a wholly-owned subsidiary of Deutsche Financial Services ("DFS"), which itself was a wholly—owned subsidiary of Deutsche Bank. Tr. 553-54 (Staffeldt); Def. Ex. 70 at ET-DB 93241. Ganis originated and serviced consumer loans on recreational vehicles, boats, and trailers sold to consumers (the "Loans"). Between October 31, 2002, and December 23, 2002, Ganis was owned by...