In PMC Aviation 2012-1 LLC et al. v. Jet Midwest Group, LLC et al., No. 654047/2015, BL221447 (Sup. Ct. Jun. 21, 2017), Commercial Division Justice Shirley Kornreich denied a motion to dismiss a fraudulent inducement claim by an LLC member against its business partner.  The court found that it could not find any “controlling, on-point authority” on the issue of reasonable reliance at issue in the case.[1]  The case relates to the scope of due-diligence obligations of LLC members when they rely upon the representations of business partners concerning the affairs of a jointly owned company.

Factual Background

Jet Midwest Group, LLC (“JMG”) and Amur Finance IV LLC (“Amur”) are co-members of PMC Aviation 2012-1 LLC (“PMC”), a Delaware LLC in the aviation industry.[2]  According to JMG, in April 2012, Amur touted its financing expertise to a member of PMC and secured $10 million in financing for PMC to acquire an aircraft.[3]  JMG further alleges that in the summer of 2013, Amur fraudulently induced PMC to refinance the existing loan by falsely claiming that the noteholders of the existing loan “had insisted on being immediately repaid the entire remaining balance on the Initial PMC Loan.”[4]  Amur allegedly offered to step in as a lender and refinance the initial loan at the same interest rate (18%), but required JMG to pledge its majority ownership interest in PMC as collateral.[5]

According to JMG, it reasonably relied on Amur’s representations and agreed to refinance due to Amur’s “stated unique, close and favorable relationship with the Note Holders” of the initial loan.  JMG alleged that it “relied on [Amur] for all information regarding the status of the Initial PMC Loan.”[6]  The refinancing was effectuated in August 2013.

JMG resigned as managing member of PMC in August 2015.  It was replaced by Amur.[7]   Upon taking over as managing member, Amur is alleged to have taken various steps to cause PMC to default on the refinanced loan “for the purpose of taking over JMG’s membership interest in PMC via a foreclosure under the Security Agreement.”[8]  Although Amur withdrew an initial notice of foreclosure, it reserved its rights, and JMG’s ownership interest in PMC remains in jeopardy. 

PMC sued Amur by counterclaim for, among other things, fraudulent inducement, breach of fiduciary duty, and breach of the operating agreement.  Amur sought dismissal of the claims under CPLR 3211.

The Court’s Analysis

Judge Kornreich found that JMG “pleaded sufficient allegations about the reasonableness of its reliance to withstand a motion to dismiss.”[9]  The court observed that “the failure by a sophisticated party to conduct due diligence will ordinarily render a plaintiffs [sic] reliance unreasonable as a matter of law.”[10]  However, on the facts as alleged, “given the relationship between the parties as members of a closely held LLC, with Amur being the finance expert, and the nature of the members’ relationship with the Note Holders, the question of whether JMG was justified in believing Amur’s representation about the Note Holders’ intent to call the Initial PMC Loan is better resolved on a full discovery record.”[11]

According to Justice Kornreich, the parties did “not cite controlling, on-point authority on the issue” of whether “a managing member can reasonably assume its business partner (whose very role in the deal was to provide financing expertise) was not lying about a matter within the scope of such expertise.” [12]  The court noted that the business partner did not have fiduciary duties to the LLC at the time of the alleged misrepresentation.[13]  (Amur became managing member and assumed fiduciary duties to PMC at a later time.)

The court found that JMG had adequately alleged a material misrepresentation, damages from being persuaded to pledge its ownership interest, and a causal link between “the alleged lie about the imminent need to refinance” and JMG’s damages.[14]

JMG’s claims for breach of the operating agreement also withstood Amur’s motion to dismiss. JMG’s claims for breach of fiduciary duty were dismissed as duplicative of the claims under the operating agreement. [15]

Endnotes