MEMORANDUM OPINION AND ORDER
This action, and a related action brought by the Securities Exchange Commission, relate to the operation a hedge fund through which defendant Angelo Haligian-nis allegedly perpetrated a “Ponzi scheme,” a species of fraud whereby an investment fund that is unprofitable uses money from new investors to pay “false profits” to old investors in order to encourage further investment and sustain the scheme. Plaintiffs, certain limited partners in the hedge fund, have sued Angelo Haligiannis, the hedge fund, Sterling Wat-ters Group Limited Partnership (“Sterling Watters Partnership” or the “Partnership”), and its general partners, Sterling Watters Capital Management, Inc, Sterling Watters, Inc., and Sterling Watters Capital Advisors, LLC (collectively, the “defrauding defendants”) alleging securities fraud in violation of section 10(b) of the Securities Exchange Act, 15 U.S.C. § 78j(b), and Rule 10b-5 promulgated thereunder, 17 C.F.R. § 240.10b-5, fraud by an investment adviser, in violation of sections 206(l)-(2) and 217 of the Investment Advisers Act, 15 U.S.C. §§ 80b-6(l)-(2), 80b-17, and state law causes of action for breach of contract, breach of fiduciary duty, common law fraud, conversion, unjust enrichment, and for an accounting.
Haligiannis was indicted, fled the jurisdiction and remains a fugitive; in addition Sterling Capital, Sterling Watters, Inc., and Sterling Watters Partnership are all now defunct entities. Faced with this situation, plaintiffs have also sued certain other limited partners in the Partnership, Evanthia Tsagoulis, Michael Capul, Maria Haligiannis, Alex Sklias, Chris P. Pavlatos, Chris B. Pavlatos, Dominique Pavlatos, Marilyn Biasucci, Sloan Bruan, Walter Scott Bruan, Corina Buruiana, Charles Darwish, Peter Derby, Jonathan Gatti, Linda Gatti, Peter Georgatos, Isabella Griffin, Dennis Kirincich, Charles Kyria-cou, Anthony Maraño, Robert Marini, Frank Michel, Howard Moore, Helene Moore, Stuart Adler, Joseph Ferri, Jr., Robert Schneiner, Linón Home Décor Products, Inc., and Ardantz Associates, LP (collectively, the “false profits defendants”) alleging causes of action for fraudulent conveyance, in violation of sections 273 to 276 of New York’s Debtor and Creditor law, N.Y. Debt. & Cred. Law §§ 273-76 (McKinney 2001), and seeking relief under section 278 of the same chapter. Specifically, plaintiffs seek to recover transfers of partnership assets to the extent the transfers exceeded each false profit defendant’s capital contribution. (See Pis.’ Opp’n Mem. 9.)
Certain of the false profits defendants have now moved to dismiss [68][98]
1
the claims for fraudulent conveyance against them pursuant to Rules 12(b)(6) and 9(b).
BACKGROUND
The following facts relevant to this motion are derived from the First Amended Complaint (“FAC”) and are taken as true for the purposes of this motion. Sterling Watters Partnership was created in or about 1995 for the stated purpose of seeking above average economic returns on investments primarily through investing in publicly traded securities. Instead, the entire arrangement was a Ponzi scheme, 2 whereby subsequent capital contributions were used to make distributions to prior limited partners.
1. Allegations Underlying Plaintiffs’ Claims against the Defrauding Defendants
The facts and circumstances of the alleged fraud perpetrated by the defrauding defendants is more fully described in the FAC, but a brief recounting of the alleged Ponzi scheme perpetrated by Haligiannis is appropriate, and follows here.
Investment in the Partnership was limited to ninety-nine limited partners, each of whom was required to be qualified as an “accredited investor” as defined by the rules promulgated by the Securities and Exchange Commission. (FAC ¶ 51.) Plaintiffs and the False Profits Defendants were among those who invested in the Partnership. In March 2000, plaintiffs received an “investor kit” from the defrauding defendants, including a “Private Placement Memorandum” that included the partnership agreement. (FAC ¶ 56.) The investor kit contained documents representing,
inter alia,
that the Partnership had obtained an annual return of over eighty-six percent in 1999 and a return of over eighty-six percent during the first two quarters of 2000. The investor kit also represented that investments in Sterling Watters had cumulative returns in excess of 1073% between the first quarter of 1996 and the second quarter of 2000.
(Id.)
Ignoring the old saw that “anything too good to be true usually is,” plaintiffs and the false profits defendants all entered into Partnership Agreements.
(Id.
¶¶ 57-63.) Between August 2000 and February 2004, plaintiffs invested, in aggregate, a total of $7,782,910 in the Partnership.
(Id.
¶ 64.) During this same period, plaintiffs received distributions from the defrauding defendants totaling $732,500, representing roughly ten percent of plaintiffs’ total investments in the partnership, and falling far short of the amounts specified in the defrauding defendants’ distribution schedule.
(Id.
¶ 65.) Plaintiffs’ remaining investment in the Sterling Watters Partnership, after subtracting these distributions,
While reporting to investors that its assets had grown by approximately 41.45% for the year, the Partnership in fact suffered over $17 million in trading losses in 2000 alone. Plaintiffs allege that by January 2003, and as a result of mounting trading losses and payments made mainly to the false profit defendants, Sterling Watters had virtually no assets and did virtually no trading whatsoever. (Id. ¶ 67.) By the third quarter of 2003, when Sterling Watters’s promotional material reported that it had approximately $180 million in assets, the Partnerships’ assets allegedly totaled less than $150,000. (Id. ¶ 68)
By early 2000, the defrauding defendants allegedly used new contributions almost exclusively to: (i) make distributions to (or to liquidate the interests of) existing limited partners; or (ii) fund withdrawals made by Angelo Haligiannis for personal expenses. By 2003, the Partnership was only able to make distributions or liquidate its limited partners’ interests if it had received corresponding contributions. Beginning in or about 2003, the defrauding defendants began to refuse to make distributions or liquidate plaintiffs’ Partnership interests. (Id. ¶ 70.)
Most of the various entities named as defrauding defendants in this action are no longer viable corporate entities. Sterling Capital is no longer in existence and is not in good standing under the laws of the State of Delaware as of March 1, 2003; Sterling Watters, Inc. was dissolved by proclamation by the Secretary of State of New York on December 31, 2003; and the Sterling Watters Partnership is no longer in existence and is not in good standing under the laws of the State of Delaware, having been cancelled by the Secretary of State of Delaware on June 1, 1998 for neglect, refusal, or failure to pay its annual taxes. (Id. ¶ 77; FAC Ex. H.)
2. Allegations Underlying Plaintiffs’ Claims against the False Profit Defendants
Not all limited partners lost their shirts in Haligiannis’s scheme. Indeed, according to plaintiffs each of the false profits defendants received “distributions” that exceeded each of their respective contributions. (FAC ¶ 80.) These payments were not a return on legitimate investment activity, and the conveyance of these payments to the false profits defendants was not predicated on fair consideration. (Id. ¶81.) In the aggregate, these payments allegedly exceeded the false profits defendants’ contributions by $10,449,176.94, representing a seventy-three percent return above their aggregate contribution. By contrast, plaintiffs have lost nearly ninety percent of their contributions to the Sterling Watters partnership. (Id. ¶ 82.)
STANDARD OF REVIEW
In a motion to dismiss under Rule 12(b)(6), the Court “must accept as true the factual allegations in the complaint, and draw all reasonable inferences in favor of the plaintiff.”
Bolt Elec., Inc. v. City of New York,
For purposes of a motion to dismiss, a complaint is deemed to include “any written instrument attached to it as an exhibit or any statements or documents incorporated in it by reference.”
Rothman v. Gregor,
When alleging fraud, a plaintiff must comply with Rule 9(b) of the Federal Rules of Civil Procedure, which provides that “[i]n all averments of fraud or mistake, the circumstances constituting fraud or mistake shall be stated with particularity”
DISCUSSION
The moving defendants offer four reasons why the claims for fraudulent conveyance alleged against them should be dismissed. First, defendants contend that plaintiffs’ claims are improperly pleaded under the New York Debtor and Creditor Law, N.Y. Debt. & Cred. Law §§ 270-81 (McKinney 2001). Second, they argue that because plaintiffs do not have the status of “creditors” they do not have standing to pursue claims for fraudulent conveyance under Delaware law (or, for that matter, under New York law). Third, defendants claim that plaintiffs’ fraudulent conveyance claims are subject to the Rule 9(b) requirement that fraud be pleaded with particularity and that the complaint fails to do so. Finally, defendants contend that even if the fraudulent conveyance claims are well pled, they must be dismissed as premature because an action may not be brought by one limited partner against another for a claim arising out of the partnership until there has been a complete accounting. The Court will address each argument below.
1. Plaintiffs’ Fraudulent Conveyance Claims Are Properly Pleaded under New York Law.
A federal court adjudicating supplemental state law claims applies the choice-of-law rules of the forum state.
North Atl. Instruments, Inc. v. Haber,
As an initial matter, defendants argue that Delaware law should apply because the Partnership Agreement contains a clause stating that the agreement is governed by Delaware law. It is true that New York recognizes the right of contracting parties to agree to the choice of law.
Roselink Investors, L.L.C. v. Shenkman,
The choice-of-law provision in the Sterling Watters Partnership Agreement states: “This Agreement shall be governed by, and construed in accordance with, the laws of the State of Delaware.” (Partnership Agreement ¶ 10.1, FAC Ex. A.) In
H.S.W. Enterprises,
broad choice-of-law clauses that apply to disputes “arising out of or relating to” the contract distinguished from narrow clauses that simply apply to the construction of the contract and dictate under what law the agreement will be “construed.”
Turning to the application of New York’s choice-of-law rules, “[t]he first step ... is to determine whether there is an actual conflict between the laws of the jurisdictions involved.”
In the Matter of Allstate Ins. Co.,
Typically where there is a conflict of law in cases involving tort claims, “New York applies an ‘interest analysis’ to identify the jurisdiction that has the greatest interest in the litigation based on the occurrences within each jurisdiction, or contacts of the parties with each jurisdiction, that relate to the purpose of the particular law in conflict.”
Pension Comm. of Univ. of Montreal Pension Plan v. Banc. of Am. Secs., LLC,
Courts may still apply the interest analysis even when, as here, a defendant invokes the “internal affairs doctrine.”
Id.
This doctrine generally “recognizes that only one State should have the authority to regulate a corporation’s internal affairs&emdash; matters peculiar to the relationships among or between the corporation and its current officers, directors, and shareholders&emdash;because otherwise a corporation could be faced with conflicting demands.”
Edgar v. MITE Corp.,
In this case, application of the New York interest analysis test reveals that New York’s interest in seeing its fraudulent conveyance law applied outweighs the interest of the Partnership in having its internal relationships governed by the law under which it is organized, especially in light of the fact that plaintiffs, though limited partners, are suing in their capacities as tort creditors. The alleged torts largely occurred in New York; all plaintiffs and the vast majority of the false profit defendants are domiciled in New York. None are domiciled in Delaware. In light of the foregoing, and considering the strong interest New York has in seeing its law applied when one of its domiciliaries alleges it has been defrauded,
see, e.g., Marenyi v. Packard Press Corp.,
90 Civ. 4439(CSH),
2. Plaintiffs Have Creditor Standing Under New York Debtor and Creditor Law.
As noted above, fraudulent conveyance under New York law is governed by the New York UFCA, N.Y. Debt. & Cred. Law §§ 270-81. “The UFCA ‘is a set of legal rather than equitable doctrines, whose purpose is not to provide equal distribution of a debtor’s estate among creditors, but to aid specific creditors who have been defrauded by the transfer of a debtor’s property.’ ”
A.J. Heel Stone, L.L.C. v. Evisu Int'l S.R.I.,
03 Civ. 1097(DAB),
Plaintiffs here are tort creditors of the Partnership by virtue of their claims against the defrauding defendants in the pending action, and therefore have standing within the meaning of the New York Debtor and Creditor Law to avoid fraudulent transfers made by the Partnership.
3. Plaintiffs Have Adequately Pleaded Their Claims for Fraud under Rule 9(b).
Moving defendants argue that plaintiffs have not pleaded fraud with particularity under Rule 9(b) because of their failure to identify the amount and timing of each alleged fraudulent transfer to the false profit defendants.
As noted, plaintiffs bring claims for fraudulent conveyance under New York Debtor and Creditor Law sections 273, 274, 275, as well as section 276. In order to state a claim for fraudulent conveyance under New York Debtor and Creditor Law §§ 273, 274, 275, a plaintiff must allege that there is a conveyance without fair consideration and that (1) the transferor is insolvent at the time of the conveyance or will be rendered insolvent by the transfer in question (§ 273); or (2) as a result of the transfer in question, the transferor is left with unreasonably small capital to conduct its business (§ 274); or (3) as a result of the transfer in question, the transferor intends or believes that it will incur debt beyond its ability to pay (§ 275). N.Y. Debt. & Cred. Law §§ 273-75. Because intent to defraud is not an element under these previsions, such claims are not subject to Rule 9(b)’s heightened pleading requirements. Sec.
Inv. Prot. v. Stratton Oakmont, Inc.,
Section 276 of New York Debtor and Creditor Law, however, states that “Every conveyance made and every obligation incurred with actual intent, as distinguished from intent presumed in law, to hinder, delay, or defraud either present or future creditors, is fraudulent as to both present and future creditors.” N.Y. Debt. & Cred. Law § 276. “To prove actual fraud under § 276, a creditor must show intent to defraud on the part of the trans-feror. Where actual intent to defraud is proven, the conveyance will be set aside regardless of the adequacy of the consideration given.”
In
re
Sharp Int’l Corp.,
3. Plaintiffs’ Claims Are Premature Absent an Accounting.
Although, as discussed in detail to this point, plaintiffs’ claims for fraudulent conveyance are well pleaded and potentially meritorious, these claims are premature because there has not been an accounting. Both New York and Delaware follow the common law rule that a pre-suit accounting is a condition precedent to maintaining an action at law between partners, and, as such, there is no material conflict of law. Because the parties have briefed this issue with reference to both New York and Delaware case law, some discussion of both states’ jurisprudence necessarily follows. However, if there were discrepancies between New York and Delaware law, Delaware law would be applicable under the “internal affairs doctrine.” Whether a pre-suit accounting is a condition precedent to an action at law by one limited partner against another is inarguably a matter peculiar to governing the relationships among partners. Therefore it should be resolved with reference to the law of the state under which the partnership is organized.
See Edgar,
The accounting rule was transported to the United States from England, where separate courts existed for equity and law. The rule has been stated as followed: “It is the universally accepted rule that, in the absence of statutory permission, or express promise, or fraud, an action ex con-tractu at law, as distinguished from an action in equity, is not maintainable between partners with respect to partnership transactions, unless there has been accounting or settlement of the partnership affairs.” K.A. Drechsler,
Actions at Law between Partners and Partnerships,
168 A.L.R 1088 (1947). While some jurisdictions no longer follow this rule,
see, e.g., Sertich v. Moorman,
In the absence of an accounting, partners may sue each other at law in only limited circumstances. Exceptions exist when there has been an adjustment, settlement, or balance struck and a promise to pay so that no complex accounting is required, or where only one fully closed but unadjusted transaction is involved.
See
15A N.Y.Jur.2d § 1506 (1996);
Agrawal v. Razgaitis,
Plaintiffs argue that the rule requiring an accounting only applies to derivative actions filed on behalf of a partnership, and not to direct claims asserting a partner’s individual rights such as plaintiffs’ fraudulent conveyance claims. However, this position is not supported by the case law cited by plaintiffs. The primary ease cited by plaintiffs to support the proposition that an accounting is only a prerequisite in a derivative suit does not even discuss the issue of an accounting and simply decides whether the claim at issue was in fact direct or derivative.
Litman v. Prudential-Bache Props., Inc.,
Plaintiffs also argue that “the accounting rule should not be read as saying that a limited partner cannot bring an action against the partnership when the general partners have ‘disabled themselves,’ ” citing
Klebanow v. N.Y. Produce Exchange,
The Court recognizes that in recent years the accounting rule has fallen into relative disrepute.
See Sertich,
CONCLUSION
For the foregoing reasons, moving defendants’ motions to dismiss [68][98] are GRANTED without prejudice. Inasmuch as it appears plaintiffs have a valid cause of action for an accounting, plaintiffs are granted leave to amend to add all limited partners to the accounting cause of action presently asserted only against defrauding defendants.
SO ORDERED.
Notes
. By letter endorsement dated December 15, 2005[100] the Court ordered that a separately filed motion to dismiss [98] filed by false profit defendant Marilyn Biasucci be joined with the consolidated motion to dismiss [68].
.
"A Ponzi scheme is a scheme whereby a corporation operates and continues to operate at a loss. The corporation gives the appearance of being profitable by obtaining new investors and using those investments to pay for the high premiums promised to earlier investors. The effect of such a scheme is to put the corporation farther and farther into debt by incurring more and more liability and giving the corporation the false appearance of profitability in order to obtain new investors.”
Hirsch v. Arthur Andersen & Co.,
. Section 115 reads: "Parties to Actions. A contributor, unless he is a general partner, is not a proper party to proceedings by or against a partnership, except where the object is to enforce a limited partner’s right against or liability to the partnership.” N.Y. P’ship Law § 115.