The opinion of the court was delivered by: Dean D. Pregerson United States District Judge
ORDER DENYING DEFENDANT'S MOTION TO DISMISS COMPLAINT [Docket No. 9]
Presently before the court is Defendant Nixon Peabody LLP's Motion to Dismiss Complaint ("Motion"). Having reviewed the parties' moving papers and heard oral argument, the court denies the Motion, and adopts the following Order.
A. SEC Action and Receivership Order
This action is related to a January 2010 lawsuit that the Securities and Exchange Commission ("SEC") filed against John Farahi ("Farahi"), his corporation NewPoint Financial Services ("NewPoint"), and various other defendants, which is still pending before this court. The SEC accuses Farahi, NewPoint, and the other defendants of defrauding investors, in violation of various federal securities laws.
Pursuant to a joint stipulation by the parties in that action, the court issued a February 2010 Order ("Receivership Order") appointing current Plaintiff James H. Donell ("Receiver") as permanent receiver of NewPoint and various related entities. The Order grants the Receiver "full power over," among other things, all "choses in action . . . belonging to" NewPoint. (Receivership Order at 1.) The Order also authorizes the Receiver "to employ attorneys, accountants and others to investigate, and where appropriate, to institute, pursue, and prosecute all claims and causes of action of whatever kind and nature which may now or hereafter exist as a result of the activities of present or past employees or agents of NewPoint." (Id. at 2.)
B. Allegations Against Nixon Peabody
On May 10, 2012, the Receiver filed the present action against Defendant Nixon Peabody LLP ("Nixon Peabody"), alleging that Nixon Peabody, after being retained by NewPoint, instead helped Farahi "to loot the assets of NewPoint, to cause NewPoint to violate the federal securities laws, and to attempt to conceal Farahi's embezzlement of funds and NewPoint's numerous violations of the federal securities laws." (Compl. ¶ 1.) Based on this alleged misconduct by Nixon Peabody, the Receiver brings state law claims on behalf of NewPoint for breach of fiduciary duty, professional negligence, and constructive fraud. According to the Receiver, these actions damaged Newpoint by: 1) enabling "Farahi to loot even more funds from NewPoint"; 2) causing "NewPoint to incur additional liabilities to investors"; 3) deepening "NewPoint's already obvious insolvency"; and 4) causing "NewPoint to commit multiple violations of the federal securities laws." (Id. ¶ 64.)
Specifically, the Receiver alleges in his Complaint that attorney David Tamman ("Tamman") started providing legal services to NewPoint in 2003, while working at another law firm. In particular, Tamman had drafted a revised "Private Placement Memorandum" ("PPM") for NewPoint, claiming a "Reg. D" exemption under Rule 506. A Rule 506 exemption requires that an offering be sold to no more than 35 non-accredited investors, all of whom must be "sophisticated investors," as defined by the Rule. The revised PPM also expressly stated that investor funds would not be used to make investments in securities. Farahi, however, filed a "Form D" earlier in 2004, making clear that investor funds would be used for such securities investments. According to the Receiver, Tamman therefore already knew or should have known that Farahi was operating NewPoint in violation of its PPM as of 2004, by improperly investing in securities.*fn1 The Receiver further alleges that this knowledge can be imputed to Nixon Peabody, once Tamman joined the firm as a partner in February 2007. (Id. ¶¶ 9, 17-21.)
Shortly after joining the firm, Tamman began providing legal services to NewPoint on behalf of Nixon Peabody as well, pursuant to a written retainer agreement. Among other things, in March 2007, Tamman asked an associate to determine whether NewPoint's sale of debentures complied with the Reg. D securities exemptions set forth in Rules 504, 505, and 506. According to the Receiver, however, Tamman knew or should have known that NewPoint could not qualify for any of these exemptions. As discussed, the revised PPM that Tamman had prepared at his prior law firm claimed an exemption under Rule 506, which precludes sales to unsophisticated investors. Tamman, however, received emails on behalf of NewPoint in March and July 2007, which appeared to divide its investors into both "sophisticated" and "not sophisticated" categories. The Receiver also alleges that Tamman knew or should have known that Farahi was soliciting investments for NewPoint through a Farsi language radio program, which precluded NewPoint from qualifying under any of the Reg. D exemptions. (Id. ¶¶ 9-21.)
In sum, the Receiver contends that by 2007, Nixon Peabody, through Tamman, knew or should have known that Farahi was improperly operating NewPoint by: 1) making offerings not exempt under Reg. D; and 2) investing in securities, in violation of its PPM. Thus, according to the Receiver, "if Nixon Peabody had done its job . . ., it would have cut short by two years Farahi's looting of NewPoint Funds, and it would have ended NewPoint's continued violations of federal securities laws." (Id. ¶ 23.)
The Receiver further alleges that Tamman and Nixon Peabody then continued to work with Farahi, drafting a new PPM and offering. According to the Receiver, by claiming the same Reg. D exemption when it still clearly did not apply, Nixon Peabody again violated its professional duties. The new PPM prepared by Nixon Peabody also allegedly provided descriptions of prior debenture offerings by NewPoint that were contradicted by information previously provided to Nixon Peabody by NewPoint. (Id. ¶¶ 24-33.)
Then, in 2008, Farahi allegedly lost more than $30 million in personal trading, and covered some of those losses using NewPoint funds. According to the Receiver, Nixon Peabody continued assisting Farahi in other ventures, separate from and sometimes in competition with NewPoint, during this time, but billing NewPoint. Nixon Peabody also allegedly learned by late 2008 that Farahi had lost between $7 and $11 million of NewPoint funds. Nixon Peabody then concluded that NewPoint could use a new offering and the proceeds therefrom to cover the losses, so long as it made proper disclosures. Nixon Peabody therefore allegedly continued working on the new PPM and, at the request of Farahi, increased the amount of the offering to $30 million. The new PPM also stated that NewPoint had "experienced significant losses in the last 60 days due in part to current negative market conditions." According to the Receiver, Tamman at least knew or should have known that these losses were inconsistent with the existing PPMs, and likely knew the real reason for the ...