Source: s3://data.kl3m.ai/documents/govinfo/USCOURTS/USCOURTS-cand-4_06-cv-07949/USCOURTS-cand-4_06-cv-07949-3/pdf.json

Nature of Suit Code: 370
Nature of Suit: Other Fraud
Cause of Action: 28:1332 Diversity-Personal Property

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United States District Court

For the Northern District of California

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IN THE UNITED STATES DISTRICT COURT

FOR THE NORTHERN DISTRICT OF CALIFORNIA

GIA-GMI, LLC, a Florida Limited Liability

Company,

Plaintiff,

v.

DANIEL R. MICHENER, an individual,

JAMES M. MCWALTERS, an individual,

CHARLES D. TOY, an individual, ALLAN

M. DUNN, an individual, LARRY J.

AUSTIN, an individual, W. DENMAN VAN

NESS, an individual, MICHAEL P.

SALUCCI, an individual, COMPUTER AND

SOFTWARE ENTERPRISES, INC., a

California corporation, PANGAEA

HOLDINGS, LLC, a dissolved Delaware

limited liability company, and PANGAEA

TRADING CORPORATION, a Delaware

corporation

Defendants.

_______________________________________

No. C 06-7949 SBA 

ORDER

[Docket Nos. 50 & 52] 

This matter comes before the Court on Defendants’ Motion to Dismiss the First Amended

Complaint [Docket No. 50] and Request for Judicial Notice [Docket No. 52]. Having read and

considered the arguments presented by the parties in the papers submitted to the Court, the Court finds

this matter appropriate for resolution without a hearing. The Court hereby GRANTS IN PART and

DENIES IN PART Defendant’s Motion to Dismiss the First Amended Complaint. The Request for

Judicial Notice is GRANTED.

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BACKGROUND

I. Factual Background

In its First Amended Complaint, filed after the Court dismissed Counts I-III of its original

Complaint, Plaintiff GIA-GMI again asserts claims for common law fraudulent inducement under

Florida law (Count I), for violation of the Florida Securities and Investor Protection Act, Fla. Stat. §

517.01 1, et. seq., ("FSIPA") (Count II), and for violation of the Securities Exchange Act of 1934, §

10(b) (Count III). Plaintiff alleges that defendants Allan Dunn and Daniel Michener fraudulently

induced Plaintiff to enter a the loan transaction with GMI Capital Corporation (“GMICC”) for an initial

$510,000 convertible secured promissory note (“Note”), which Note could be funded up to $750,000.

Later, Michener and defendant James McWalters allegedly induced the funding of another $240,000 in

GMICC under the Note by another company, U.S. Real Estate Consortium, LLC (“USRE”). The USRE

transaction was done pursuant to a participation agreement in the Note, and Plaintiff now brings USRE’s

claims by assignment.

A. Fraud on GIA-GMI

In or about late December of 2003, two of the defendants, Alan Dunn and Dan Michener,

approached Plaintiff about the possibility of investing in GMICC. FAC, ¶ 26. GMICC was a new

venture, whose business plan was to operate as a non-regulated private finance company that would

provide loans to small to medium enterprise technology companies in emerging markets such as

Thailand and Singapore. Id., ¶ 17. One primary source of funds for GMICC to finance such loans was

intended to be the Overseas Private Investment Corporation (“OPIC”). Id., ¶ 18. OPIC is a federal

government corporation whose purpose is to mobilize and facilitate the participation of United States

private capital and skills in the economic and social development of less developed countries and areas.

Id., ¶ 19.

At the time GMICC approached Plaintiff, it had already obtained a conditional commitment

letter from OPIC for a $25 million loan. Id., ¶ 21. Dunn and Michener gave Plaintiff a copy of GMICC’s

private placement memorandum (the “PPM”) dated January 2004, which contained consolidated

projected financial statements for GMICC and its subsidiaries. FAC, ¶ 26, and Exhibit B (the PPM). In

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It appears that the term “virtually certain” is Plaintiff’s characterization of defendants’

representations to it rather than defendants’ own words. While Plaintiff frequently puts the term

“virtually certain” in quotes, implying that it is quoting the words of defendants, the term initially does

not appear in quotes in the FAC, and quoted versions of this term later in the FAC therefore appear to

be references to the initial appearance of the term in the FAC. As explained below, Plaintiff’s

“interpretations” of various statements made by defendants, at odds as they are with the plain meaning

of the statements themselves, is not sufficient for the FAC to withstand dismissal.

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making its investment, Plaintiff relied on the representations in the PPM. Id., ¶ 31. Most significantly,

the PPM expressly warned that failure to obtain OPIC financing would render GMICC unable to execute

its business plan. The PPM stated that “there [was] no assurance that GMICC would be successful in

managing its relationship with OPIC, which would cause GMICC to “be unable to execute [its] business

plan by obtaining low-cost debt....” Id. Exh. B at 12.

In addition, the PPM warned Plaintiff that an investment in GMICC “involves a high degree of

risk and investors must be prepared to withstand the loss of their entire investment.” Id. The PPM also

disclosed that GMICC was “a new company with no significant operating history,” that it was “entering

a market that is highly volatile,” warned that the technology industry in which GMICC intended to

invest was also volatile, and finally, stated “[t]here is no assurance of profit, appreciation, or liquidity”

Id. The PPM also represented that (1) GMICC planned to raise $1.5 million through a Series B equity

offering prior to the receipt of the OPIC loan; (2) to complement the OPIC Loan, GMICC would then

raise another $12.5 million in private capital; and (3) GMICC was projected to have “Cash at Bank” at

the end of 2004 of $1,504,950. FAC, ¶ 27.

After Defendants initially approached Plaintiff’s managing member Richard Blankenship about

the equity investment, Plaintiff informed them that it “was not interested in an equity investment in

GMICC but, instead, was interested in an investment in the form of a secured loan, which would be

repaid with interest, or could be converted into equity at Plaintiff’s sole option based upon certain

pre-conditions.” FAC, ¶ 28. Plaintiff alleges that, “knowing Plaintiff wanted its loan to be repaid in cash

rather than converted into equity,” Defendants expressly represented to Plaintiff in January 2004 that,

notwithstanding the general warnings in the PPM regarding the risk of any investment, the OPIC loan

was “virtually certain”1 given (1) the September 2003 commitment letter; (2) the additional financing

anticipated by Defendants (the Series B and Series C financing) as well as Dunn's personal relationship

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with the President of OPIC. FAC, ¶ 29. Also in January 2004, Dunn and Michener orally represented

to Plaintiff that GMICC would have sufficient cash to repay his loan though the $1.5 million Series B

equity raise, and/or the $12.5 million Series C equity raise and/or through the OPIC loan funds and/or

through funds from business operations. FAC, ¶ 30. On January 23, 2004, defendant Dunn made a

further representation to Plaintiff via an email that Plaintiff could obtain a “cash payment at closing [of

the OPIC Loan] in a in a few months.” FAC, ¶ 38, Ex. E.

Plaintiff alleges that Defendants knew these representations were false and that they had no

intent to honor them when they made these representations to Plaintiff. FAC, ¶ 36. Plaintiff alleges

Defendants knew that they were not going to repay Plaintiffs loan in cash as promised, but instead were

going to “require” Plaintiff to convert the loan into equity in GMICC. FAC, ¶ 40. As evidence of this

intent, Plaintiff offers an internal email which Plaintiff characterizes as demonstrating Defendants’

“belief that cash payment to Plaintiff would be impossible.” FAC, ¶ 40. In an email from Michener to

Dunn, Michener states that “the Series C [investors] won't put $$$ in if there is a clause that allows the

[Plaintiff] to take $500,000 to $600,000 out of the company when the Series C is funded.” FAC, ¶ 37.

Plaintiff alleges that the statements in this email show that “Dunn and Michener knew at the time the

above-described representations to Plaintiff were made that they were not going to repay Plaintiff’s loan

in cash (as required or as they had promised), or maintain sufficient cash in GMICC to do so. . . .” Id.,

¶ 37. Plaintiff further alleges that the emailed statements, if known to Plaintiff, would have revealed the

falsity of both the representations in the PPM and defendants’ oral representations to Plaintiff that

GMICC would have sufficient cash to repay the Note by the end of 2004. Id., ¶¶ 37-38.

Plaintiff further alleges that Defendants did not plan to use any cash assets of GMICC to repay

Plaintiff promised because “they planned to use those assets for, among other things, payments to

themselves as salaries and/or hidden fees.” FAC, ¶ 40. Finally, Plaintiff alleges that Defendants knew

that the viability of the OPIC loan was not “virtually certain” as promised, but was in fact in peril due

to the undisclosed fact that GMICC was then having serious problems raising the requisite financing

for the OPIC Loan. FAC, ¶ 40.

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B. Fraud on USRE

In addition to Defendants' alleged fraudulent inducement of the loan transaction and initial

funding of the Note, Plaintiff also alleges Michener and McWalters fraudulently induced USRE into

funding an additional $240,000 to GMICC pursuant to the terms of the Note. Specifically, Plaintiff

alleges that Michener and McWalters contacted USRE's principal, Javed Nawaz, to attempt to convince

USRE to invest in GMICC by funding the final $240,000 of the Note. FAC, ¶ 46. On April 29, 2004,

Defendants Michener and McWalters met with Vawaz, and the attorney for Nawaz and USRE, in order

to solicit USRE's investment. FAC ¶ 47. During the meeting, Michener and McWalters allegedly orally

represented that (1) GMICC was guaranteed to receive the OPIC loan shortly; (2) GMICC had a back

log of loans and other investment deals which would flow into GMICC once it received the OPIC Loan;

and (3) once GMICC received the OPIC loan the back log of loans and investment deals would start

flowing, so that USRE could convert its loan into equity and obtain a significant return. FAC ¶ 48.

Plaintiff alleges Defendants made these representations to USRE with the intent that USRE

would rely on them and agree to fund the remaining $240,000 to GMICC under the terms of the Note,

however, according to Plaintiff, these representations were false when made. The true facts, according

to Plaintiff, were that, rather than the OPIC loan being guaranteed to come in shortly, the Defendants

knew GMICC still had to raise at least $4 million in equity before the OPIC loan would be made, and

that they had in fact not raised any equity towards the $4 million minimum and had no realistic chance

of doing so. FAC, ¶ 55. In addition, Michener and McWalters knew that, rather than a back log of loans

and other investment deals, GMICC did not in fact have any such deals consummated or even close to

being consummated. FAC, ¶ 56.

II. Procedural Background

In its original Complaint, Plaintiff alleged fraud-based claims for 1) common law fraud, 2)

violation of the Florida Securities Investor Protection Act, Fla. Stat. § 517.01 et seq., and 3) violation

of Securities Exchange Act of 1934, Section 10(b) and Rule 10b-5. Compl., ¶¶ 117-138. Plaintiff’s fraud

claims were premised on the non-disclosure of an internal cash projection that Michener prepared and

emailed to Dunn in January of 2004, which Plaintiff obtained in post-judgment discovery in the Florida

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litigation. Id., ¶ 123. The cash flow projections were attached to and incorporated in the Complaint as

Exhibit C. Plaintiff alleged that on January 19, 2004, Michener emailed to Dunn “some preliminary cash

budgets” based on two scenarios, one with a $500,000 investment by Plaintiff and one with a $750,000

investment. See id.., Exh. C at 1. These preliminary cash budgets were not provided to Plaintiff at the

time it made the $750,000 loan to Defendants. Id., ¶ 35.

Plaintiff alleged that the projections showed that “even if GMICC received the OPIC loan,

GMICC would not have sufficient funds to repay Plaintiff by the end of 2004 as promised” and thus,

the projections constituted material true facts, that if known, would have revealed the falsity of both the

representations in the PPM and Defendants’ oral representations to Plaintiff that GMICC would have

sufficient cash to repay the Note by the end of 2004 if OPIC funded the loan to GMICC. Id., ¶¶ 33, 130

and 138. However, upon reviewing the projections, the Court held that the budget demonstrated that

defendants, contrary to Plaintiff’s allegations, in fact planned to pay back Plaintiff’s loan in full, with

interest. Specifically, the Court stated:

What Plaintiff inexplicably fails to acknowledge, however, is that the $318,371 and

$281,421 amounts in Exhibit C represent GMICC’s projected cash surplus after

repayment of Plaintiff’s Note. The $500,000 projection shows, in the January 2004

column, cash from “Debt” (Plaintiff’s loan) of $500,000. In June 2004 Defendants

project additional cash being received as they receive equity investments totaling $12.5

million from the OPIC loan, and allotting the entity $335,000 in management fees.

However, at this point Defendants project payoff of the entire loan from Plaintiff. This

can clearly be seen from the negative entry ($500,000) in the “Debt” row for cash, which

corresponds to the $500,000 proceeds from Plaintiff in January. Cash, rather than being

increased by proceeds from the Plaintiff as it is in January, is being decreased by the

payoff of the Note in June. In addition to projecting payoff of the principal amount of the

loan from Plaintiff, Defendants also project payment of $22,687 in interest to Plaintiff,

which is based on the 10% rate in the Note, for the approximately five months that the

loan is projected to be outstanding. The $750,000 projection is based on very similar

assumptions, and also shows that the loan from Plaintiff is projected to be paid off in

June 2004. The $318,371 and $281,421 amounts represent total cash remaining after

Plaintiff’s loan is repaid.

April 5, 2007 Order [Docket No. 23], 8:16-18 (emphasis in original). 

In other words, the Court found that Plaintiff had “inexplicably” adopted an “interpretation” of

the budget projections that was simply false, and was plainly belied by an even cursory examination of

the projections themselves. The Court accordingly held that “[a]ll of Plaintiff’s fraud-based claims,

based as they are solely on the non-disclosure of the budget projections at Exhibit C, therefore must

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fail.” Id. The Court dismissed Counts I-III of the Complaint, and granted Plaintiff leave to amend “only

if it can allege, in good faith an adequate factual basis” for its allegations. Id. (emphasis in original).

LEGAL STANDARD

I. Federal Rule of Civil Procedure 12(b)(6)

Under Federal Rule of Civil Procedure 12(b)(6), a motion to dismiss should be granted if the

plaintiff is unable to articulate “enough facts to state a claim to relief that is plausible on its face.” Bell

Atlantic Corp. v. Twombly, 127 S.Ct. 1955,1960 (2007). For purposes of such a motion, the complaint

is construed in a light most favorable to the plaintiff and all properly pleaded factual allegations are

taken as true. Jenkins v. McKeithen, 395 U.S. 411, 421 (1969); Everest & Jennings, Inc. v. American

Motorists Ins. Co., 23 F.3d 226, 228 (9th Cir. 1994). All reasonable inferences are to be drawn in favor

of the plaintiff. Jacobson v. Hughes Aircraft, 105 F.3d 1288, 1296 (9th Cir. 1997). 

The court does not accept as true unreasonable inferences or conclusory legal allegations cast

in the form of factual allegations. Western Mining Council v. Watt, 643 F.2d 618, 624 (9th Cir. 1981);

see Miranda v. Clark County, Nev., 279 F.3d 1102, 1106 (9th Cir. 2002) (“[C]onclusory allegations of

law and unwarranted inferences will not defeat a motion to dismiss for failure to state a claim.”);

Sprewell v. Golden State Warriors, 266 F.3d 979, 987 (“Nor is the court required to accept as true

allegations that are merely conclusory, unwarranted deductions of fact, or unreasonable inferences.”),

as amended by, 275 F.3d 1187 (9th Cir. 2001).

II. Federal Rule of Civil Procedure 9(b)

Federal Rule of Civil Procedure 9(b) provides as follows:

In all averments of fraud or mistake, the circumstances constituting fraud or mistake

shall be stated with particularity. Malice, intent, knowledge, and other condition of mind

of a person may be averred generally.

Fed. R. Civ. P. 9(b).

The Ninth Circuit has interpreted Rule 9(b) to require that “allegations of fraud are specific

enough to give defendants notice of the particular misconduct which is alleged to constitute the fraud

charged so that they can defend against the charge and not just deny that they have done anything

wrong.” Neubronner v. Milken, 6 F.3d 666, 671 (9th Cir. 1993) (quoting Semegen v. Weidner, 780 F.2d

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727, 731 (9th Cir. 1985)). “The pleader must state the time, place, and specific content of the false

representations as well as the identities of the parties to the misrepresentation.” Schreiber Distributing

Co. v. Serv-Well Furniture Co., 806 F.2d 1393, 1401 (9th Cir. 1986) (citing Semegen, 780 F.2d at 731).

III. Pleading Requirements in Securities Fraud Actions

Section 10(b) of the Exchange Act makes it unlawful “for any person . . . to use or employ, in

connection with the purchase or sale of any security . . . any manipulative or deceptive device or

contrivance in contravention of such rules and regulations as the Commission may prescribe[.]” 15

U.S.C. § 78j(b). 

Rule 10b-5, promulgated under the authority of Section 10(b), in turn, provides that “[i]t shall

be unlawful for any person . . . (a) To employ any device, scheme, or artifice to defraud, (b) To make

any untrue statement of a material fact or to omit to state a material fact necessary in order to make the

statements made, in light of the circumstances under which they were made, not misleading, or (c) To

engage in any act, practice, or course of business which operates or would operate as a fraud or deceit

upon any person, in connection with the purchase or sale of any security.” 17 C.F.R. § 240.10b-5. Thus,

the basic elements of a Rule 10b-5 claim are: (1) a material misrepresentation or omission of fact, (2)

scienter, (3) a connection with the purchase or sale of a security, (4) transaction and loss causation, and

(5) economic loss. In re Daou Systems, Inc. 411 F.3d 1006, 1014 (9th Cir. 2005).

In order to survive a motion to dismiss, a Section 10(b) claim must satisfy three pleading

standards. First, it must meet the general requirements established by Federal Rule of Civil Procedure

8(a) that complaints give a short and plain statement of the claim. Second, it must conform with the

particularity requirements of Rule 9(b). Neubronner, 6 F.3d at 671. Third, it must satisfy the

requirements of the Private Securities Litigation Reform Act (“PSLRA”). 

The PSLRA employs heightened pleading standards for claims brought under Section 10(b) and,

similar to Rule 9(b), requires pleading with particularity for two elements in a Section 10(b) claim: (1)

falsity and (2) scienter. See Gompper v. VISX, Inc., 298 F.3d 893, 895 (9th Cir. 2002) (citing Ronconi

v. Larkin, 253 F.3d 423, 429 (9th Cir. 2001)). “If a plaintiff fails to plead either the alleged misleading

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statements or scienter with particularity, the court must dismiss the complaint.” Carol Gamble Trust 86

v. E-Rex, Inc., 84 Fed.Appx. 975, 977 (9th Cir. 2004).

Thus, under both the PSLRA and Rule 9(b), a plaintiff must specify each statement alleged to

have been misleading and the specific reason or reasons why such statement is misleading. See 15

U.S.C. § 78u-4(b)(1); Fed. R. Civ. P. 9(b). This is accomplished by identifying either (1) inconsistent

contemporaneous statements; or (2) inconsistent contemporaneous information (such as an internal

document) that was made by or available to the Defendants. In re Splash Technology Holdings, Inc. Sec.

Litig., 2000 WL 1727377, *13 (N.D. Cal. 1997); see also Nursing Home Pension Fund, Local 144 v.

Oracle Corp., 380 F.3d 1226, 1230 (9th Cir. 2004).

With respect to scienter, the PSLRA also requires that the plaintiff ‘state with particularity facts

giving rise to a strong inference that the defendant[s] acted with the required state of mind’ for each

alleged act or omission. 15 U.S.C. § 78u-4(b)(2). “Deliberate recklessness” is the required state of mind

and will satisfy scienter if it “reflects some degree of intentional or conscious misconduct.” Nursing

Home, 380 F.3d at 1230 (citing In re Silicon Graphics Sec. Litig., 183 F.3d 970, 977 (9th Cir. 1999).

A complaint will not survive if it just relies on generic allegations. See Silicon Graphics, 183 F.3d at

974, 985. To assess whether a plaintiff has sufficiently pled scienter, a court must consider “whether the

total of plaintiff's allegations, even though individually lacking, are sufficient to create a strong inference

that defendants acted with deliberate or conscious recklessness.” Nursing Home, 380 F.3d at 1230.

Additionally, a court must consider “all reasonable inferences, whether or not favorable to the plaintiff.”

Id. (citing Gompper, 298 F.3d at 897).

IV. Florida Securities Investor Protection Act

The elements of a claim under Rule 10b-5 and the elements of a claim the Florida Securities

Investor Protection Act, Fla. Stat. § 517.01 et seq. (“FSIPA”) are similar. To state a cause of action

under Section 517.301, a party must allege and prove: (1) a misrepresentation or omission of a material

fact; (2) that the investor justifiably relied on said misrepresentation or omission; (3) that the

misrepresentation or omission was made in connection with a purchase or sale of securities; (4) with

scienter or reckless disregard as to the truth of the communication; and (5) that the untruth was the direct

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In addition to Exhibit D, Plaintiff argues in its opposition that two other emails, one from

January 23, 2004 (Exhibit E) and one from January 19, 2004 support its allegations in the FAC.

Defendant’s argument with respect to Exhibit E is dependant on the success of its argument that Exhibit

D shows that defendants did not plan to repay Plaintiff in cash. The January 19, 2004 email, referenced

at ¶ 39 of the FAC but not attached to it, is the very email which the Court held in its order on the

previous motion to dismiss actually demonstrate that defendants did intend to pay back Plaintiff in cash,

with interest.

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proximate cause of the investor’s actual loss. First Union Brokerage v. Milos, 717 F.Supp. 1519, 1523

(S.D. Fla.1989), aff'd, 997 F.2d 835 (11th Cir.1993). The primary differences concerning the Florida

statute are that scienter is satisfied by showing a showing of mere negligence, rather than reckless

disregard, and that a plaintiff must plead justifiable reliance. Profilet v. Cambridge Financial Corp., 231

B.R. 373, 381 (S.D. Fla.1999).

ANALYSIS

I. Fraud on GIA-GMI

A. Non-Disclosure of the Matters in the January 15, 2004 Email

As with its original Complaint, Plaintiff’s allegations in the FAC are based on

mischaracterizations of documents which it attaches to the FAC, which mischaracterizations are

contradicted by the plain meaning of the documents on their face. Plaintiff’s case-in-chief with respect

to the fraud allegedly perpetrated on GMI-GIA is that the non-disclosure of the matters discussed in the

Exhibit D email constituted an omission of material fact.2 FAC, ¶ 37. To be actionable, those matters

must demonstrate the falsity of representations that were made to the Plaintiff via the PPM and

otherwise. 

Plaintiff alleges that the statements made in the Exhibit D email are expressly contrary to

defendants’ contemporaneous promises that GMICC would have sufficient cash in December 2004 to

repay the Note. FAC, ¶ 37. In the January 15, 2004 email, Michener states:

The issue of conversion at the note holders option and the mandatory prepayment is key

for us to resolve. The issue is that the Series C won't put $$$ in if there is a clause that

allows [the Plaintiff] to take $500,000 to $600,000 out of the company when the Series

C is funded. They will most likely ask him to change this and convert if the clause

remains. This puts GMI in a precarious position of possibly having to give more

compensation to the Ambassador to remove the clause and convert to get the Series C

in the door and will without doubt cost us time (and time is revenue for us). Therefore,

we really need to get this out of the document or amended so that the Series C dollars are

comfortable that this loan will convert when they fund the deal. I am willing to consider

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a pricing give up to get this changed, if necessary, but prefer to simply negotiate it out

based on logic first. 

FAC, Ex. D. Plaintiff asserts that, contrary to defendants’ representations, this email shows that

defendants did not believe that they would be able to pay back the note when the Series C investment

was funded:

[This email shows that] Defendants Dunn and Michener knew at the time the

above-described representations to Plaintiff were made that they were not going to repay

Plaintiff’s loan in cash (as required or as they had promised), or maintain sufficient cash

in GMICC to do so, but were instead planning on having the debt to Plaintiff converted

into equity – even though they knew that that was not Plaintiff’s desire and that Plaintiff

retained the sole right of such a conversion.

FAC, ¶ 37. Plaintiff argues that although Dunn and Michener purportedly represented that Plaintiff

would be repaid in cash, they in fact believed that repaying Plaintiff in cash “would be impossible”

under their business plan because they believed GMICC’s Series C investors would not put money in

GMICC if GMICC was going to repay Plaintiff’s loan in cash as Defendants had promised. See Opp.

at 9. Instead, Defendants believed that the Series C investors would only invest in GMICC if Plaintiff’s

loan was to be converted into equity rather than repaid. Id.

However, as with the emails attached to its dismissed original Complaint, Exhibit D simply does

not say what Plaintiff says it does. First, as Plaintiff repeatedly alleges in the FAC, defendants

purportedly represented to Plaintiff that it would be able to pay back the Note “either through the $1.5

million raised through Series B equity stock, and/or through the $12.5 million raised through private

capital (the “Series C”), and/or through the funds received through the OPIC loan and/or from funds

through business operations.” FAC, ¶ 30 (emphasis added). The email only relates to the Series C

funding and states nothing about “Series B equity stock,” the OPIC loan, or “funds through business

operations,” all of which were, according to Plaintiff, represented to be potential sources for repayment

of the funds. Thus, according to Plaintiff’s own allegations, the email is entirely consistent with the loan

being repaid from sources other than the Series C.

More importantly, the statement that “ the Series C won't put $$$ in if there is a clause that

allows [the Plaintiff] to take $500,000 to $600,000 out of the company when the Series C is funded”

does not in demonstrate that defendants “knew” that they would not be able to repay the loan. Rather,

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the email suggests that wholly unidentified potential investors would be unlikely to invest an unspecified

sum (“$$$”) if the “mandatory prepayment” provision remained unamended in the Note. This key issue,

which Plaintiff wholly neglects, is that the email does not say that the Series C investors “won't put $$$”

into GMICC if Plaintiff’s loan is repaid; rather, it refers to a mandatory prepayment clause, which

presumably would have required GMICC to repay the Note earlier than the maturity date upon receipt

of additional investment money, i.e. when the “Series C is funded.” See FAC, Exh. D. Thus, the email

only goes to the possibility that mandatory prepayment would hinder Series C investment. It does not

say, contrary to Plaintiff’s representations in the FAC, that the Note could not be repaid by its maturity

date even if the Series C round of investment was unsuccessful. Moreover, the email does not even state

that the mandatory prepayment provision must be wholly excised from the document, rather it suggest

that an “amended” mandatory prepayment provision would be sufficient in the alternative. 

As Defendant points out, any mandatory prepayment provision was in fact ultimately excised

from the Note. FAC, Exh. C. In fact, the only provision concerning prepayment is at B.2, and

specifically prohibits prepayment without the lender’s consent: “Borrower shall not have the right to

prepay all or any portion of the amounts outstanding under this Note, except upon the prior written

consent of Lender.” Thus, the very condition which defendants were concerned would inhibit Series C

investment was ultimately not contained in the Note. Plaintiff’s argument that the email demonstrating

the defendants’ concerns regarding a provision which was not in fact part of the loan entered into

therefore cannot demonstrate that defendant “knew” the loan ultimately could not be repaid.

Moreover, the email actually demonstrates that, at the time, defendants believed they may

ultimately obtain the OPIC loan, and therefore repay Plaintiff even before the supposedly problematic

Series C investment was obtained, as it discussed issues related to the seniority of Plaintiff’s loan in the

event the OPIC loan was signed before the Series C investment closed. The email simply expresses a

desire to negotiate certain terms with the Plaintiff, which, apparently were in fact ultimately successfully

negotiated as evidenced by the terms of the Note. 

Plaintiff’s conclusory allegation that the email demonstrates a nefarious intent is not supported

by the contents of the email. The Court need not accept as true unreasonable inferences or conclusory

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legal allegations cast in the form of factual allegations. See Western Mining, 643 F.2d at 624. Plaintiff’s

failure to allege any facts showing knowing falsity renders all of its fraud claims defective. “[G]eneral

averments of the defendants' knowledge of material falsity will not suffice. Consistent with Fed. R. Civ.

P. 9(b), the complaint must set forth 'specific facts that make it reasonable to believe that defendant[s]

knew that a statement was materially false or misleading.'” Rhodes v. Omega Research, Inc., 38 F. Supp.

2d 1353, 1363 (S.D. Fla. 1999) (citations omitted). See also In re GlenFed, Inc. Sec. Litig., 42 F.3d

1541, 1553 (9th Cir. 1994), superseded by statute on other grounds as stated in Marksman Partners,

L.P. v. Chantal Pharm. Corp., 927 F.Supp. 1297 (C.D. Cal.1996) (complaint that omits allegations

explaining how statements concerning company’s good health were false when made fail to meet FRCP

9(b)’s particularity requirement). Plaintiff cannot sidestep the heightened pleading requirements for

fraud by simply mischaracterizing documents it attaches to the FAC.

C. The Bespeaks Caution Doctrine

Plaintiff read and relied upon the PPM, attached as Exhibit B to the FAC. The PPM contained

numerous warnings about the riskiness of any investment in GMICC, including that “there [was] no

assurance that GMICC would be successful in managing its relationship with OPIC, which would cause

GMICC to “be unable to execute [its] business plan by obtaining low-cost debt....” FAC, Ex. B at 12,

and that an investment in GMICC “involves a high degree of risk and investors must be prepared to

withstand the loss of their entire investment.” Id. The PPM also disclosed that GMICC was “a new

company with no significant operating history,” and stated “[t]here is no assurance of profit,

appreciation, or liquidity” (emphasis added). Id. at 12-13. Specifically, the PPM disclosed that “[i]f the

Series C Preferred offering does not close, management believes that we will run out of funds and have

to cease operating our business, and our stockholders may lose their entire investment.” Id., Ex. B at13.

This warning was headed by a caption in bold stating “No assurance that the Series C Preferred

offering will close.” Id.

Nevertheless, in the face of these explicit statements, Plaintiff alleges that it simultaneously

relied on defendants’ supposed oral statements directly to the contrary that the OPIC loan was “virtually

certain.” FAC, ¶ 40. Defendant argues that under the “bespeaks caution doctrine,” the statements in the

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PPM were sufficiently cautionary that Plaintiff’s alleged reliance on optimistic forward-looking oral

statements by defendants is unreasonable as a matter of law. The bespeaks caution doctrine provides a

mechanism by which a court can rule as a matter of law that a defendant’s forward-looking

representations contained enough cautionary language or risk disclosure to protect the defendant against

claims of securities fraud. Livid Holdings Ltd. v. Salomon Smith Barney, Inc., 416 F.3d 940, 947 (9th

Cir. 2005). The Ninth Circuit has applied the bespeaks caution doctrine in situations where “optimistic

projections coupled with cautionary language ... affect the reasonableness of reliance on and the

materiality of those projections.” Id. (quoting In re Worlds of Wonder Sec. Litig., 35 F.3d 1407, 1414

(9th Cir.1994)). 

Plaintiff respond that the bespeaks caution doctrine does not apply here because the purportedly

false representations alleged are not forward-looking statements and the cautionary language in the PPM

was not sufficiently precise to put Plaintiff on notice of the risk. The bespeaks caution doctrine does not

apply to representations of present or historical facts that were false when made, but only to forwardlooking statements. Livid Holdings, 416 F.3d 940 at 947. Plaintiff curiously argues that the statement

that “the OPIC loan was virtually certain to close shortly” is not a forward looking-statement. Opp at

19-21. Indeed, Plaintiff acknowledges that “this representation does have some forward looking

aspect,” but argues that it also “encompasses” a representation of a present fact, namely, that the “efforts

to obtain the OPIC loan were going so well that the status of the OPIC loan was that it was virtually

certain.” Id. As can be seen, Plaintiff is unable to even formulate a cogent statement of this argument

– to say that “the status of the OPIC loan” was that it was “virtually certain” is simply to say that it was

“virtually certain” that the OPIC loan would be obtained in the future. Plaintiff’s attempt to avoid the

application of the bespeaks caution doctrine therefore fails. 

In order for the bespeaks caution doctrine to apply, the cautionary language must relate directly

to the misrepresentations that forms the basis of the claims. In re Worlds of Wonder, 35 F.3d at 1415

(“the language bespeaking caution [must] relate directly to that [as] to which plaintiffs claim to have

been misled.”). Here, the language in the PPM goes precisely to the issues about which Plaintiff claims

it was misled: while Plaintiff alleges that defendants orally represented that the OPIC loan was “virtually

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certain,”3 the PPM expressly warned that it might not obtain OPIC financing. The PPM stated that “there

[was] no assurance that GMICC would be successful in managing its relationship with OPIC, which

would cause GMICC to “be unable to execute [its] business plan by obtaining low-cost debt....” Id. The

PPM also warns 

we must raise at least $12.5 million in the Series C Preferred Offering to obtain low-cost

debt through our relationship with OPIC. . . . We cannot assure you we will be able to

meet all of these conditions and that the financing will close. If the Series C Preferred

Offering does not close, management believes that we will run out of funds and have to

cease operating our business....

Id. Thus, the warnings in the PPM are highly specific and directly contradictory to the supposed oral

representations regarding the certainty of the loans. This is not the type of generic and boilerplate

cautionary language courts have found insufficient to insulate false representations. See e.g., In re

Arnvlin Pharmaceuticals, Inc. Securities Lit., 2003 WL 21500525, *7 (S.D. Cal. 2003). The bespeaks

caution doctrine therefore precludes Plaintiff from alleging that it was not on notice of the possibility

that the OPIC loan might not be obtained. Accordingly, Plaintiff’s claims based on fraud allegedly

perpetrated against GIA-GMI are dismissed.

II. Fraud on USRE

Plaintiff alleges that defendants told USRE, whose claim Plaintiff pursues by assignment, that

the OPIC loan was “guaranteed to be received shortly,” that “other funds” would flow into GMICC once

the OPIC loan was received, and that when the other funds “flowed in,” the investor could convert the

Note into stock and receive a “significant return.” 

Rule 9(b) requires that Plaintiff allege with particularity all statements of the time, place and

nature of the alleged fraudulent activities, and not merely make conclusory allegations of fraud. Wool,

818 F.2d at 1439. Plaintiff has alleged (1) the time of the fraudulent representations: April 29, 2004; (2)

the place they were made: during a meeting between Michener and McWalters and USRE; and (3) the

nature of the representations: that (a) the GMICC was guaranteed to receive the OPIC Loan shortly; (b)

that GMICC had a back log of loans and other investment deals which would flow into GMICC and (c)

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that once GMICC received the OPIC Loan and the back log of loans and investment deals started

flowing, USRE could convert its loan into equity and obtain a significant return on its investment. FAC,

¶¶ 47-49.

Plaintiff argues that it has alleged specific facts showing why these representations by

Defendants were false when made giving rise to a strong inference of scienter required by the PSLRA.

Specifically, Plaintiff has alleged that contrary to Defendants' representations, GMICC was not

guaranteed to receive the OPIC Loan shortly, but instead the true facts were that GMICC still had to

raise at least $4 million in equity before the OPIC loan would be made, and GMICC had in fact not

raised any equity towards the $4 million minimum and had “no realistic chance of doing so.” Moreover,

GMICC not only did not have a back log of loans and other deals as Defendant's represented to USRE,

but in fact, GMICC “had absolutely no consummated loans or deals, or any even close to being

consummated.” FAC, ¶¶ 54-56.

Unlike Rule 9(b), which does not require the plaintiff to plead scienter, "[tlhe PSLRA raised the

pleading standards for Rule l0b-5 claims by requiring that plaintiffs plead scienter by ‘stat[ing] with

particularity facts giving rise to a strong inference that the defendant acted with the required state of

mind."' Livid Holdings Ltd., 416 F.3d at 946 (quoting 15 U.S.C. § 78u- 4(b)(2) (1997)). In order to plead

scienter under the PSLRA, a plaintiff is required to "plead, in great detail, facts that constitute strong

circumstantial evidence of deliberately reckless or conscious misconduct." Livid Holdings Ltd., 416 F.3d

at 948 (quoting In re Silicon Graphics. Inc. Sec. Litig., 183 F.3d 970, 974 (9th Cir. 1999)). The facts

alleged in the FAC must be taken as true for purposes of Defendants' Motion to Dismiss. As alleged,

they contradict Michener and McWalter's contemporaneous representations to USRE, thereby raising

a strong inference of either deliberately reckless or conscious misconduct by Michener and McWalters,

and therefore satisfy the PSLRA. See In re Dura Pharmaceuticals, 452 F. Supp. 2d at 1017.

Defendants fail to address the fraud with respect to USRE other than to footnote, without

elaboration, the statement that “[t]here are no facts alleged concerning the alleged knowing falsity of

these representations.” Mot. at 14, fn.1. However, as stated above, Plaintiff specifically alleges the

factual basis its claims of the falsity of the statements purportedly made to Plaintiff. Defendants'

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See Opp. at 4-5, fn. 3: “Although Plaintiff respectfully disagrees with the Court's interpretation

of the budgets because it believes the budgets show only a conversion of Plaintiff’s debt into stock, not

a cash repayment as promised, the Court apparently rejected this interpretation, as Plaintiff raised this

argument in its opposition to the original Motion to Dismiss. Thus . . .Plaintiff [still] believes the

budgets were and are evidence of Defendants' intent not to repay Plaintiffs loan in cash as promised ....”

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arguments related to the general cautionary statements in the January 2004 PPM do not apply to

Plaintiff’s fraud claims related to USRE because there is no allegation that USRE was ever provided the

PPM by Defendants or otherwise received or reviewed the PPM prior to the representations or its

investment. Accordingly, Plaintiff’s claims with respect to the representations made to USRE cannot

be dismissed for failure to comply with the pleading standards related to either fraud simpliciter or

securities fraud.

III. Extrinsic Evidence

In support of their Motion to Dismiss, Defendants seek to submit extrinsic evidence by affidavit

in which Michener avers that he sent a particular email to Plaintiff on January 16, 2004, which

demonstrates that certain of the allegations in the FAC are false. Plaintiff objects to defendants’ efforts

to interject extrinsic evidence before the Court on their Motion to Dismiss, and requests that, in the

event the Court considers the extrinsic evidence, it allow Plaintiff a continuance to conduct further

discover pursuant to Federal Rule of Civil Procedure 56(f). As the Court did not consider the extrinsic

evidence in granting in part the motion to dismiss, it did not convert the motion to dismiss into a

summary judgment motion.

CONCLUSION

The Motion to Dismiss the First Amended Complaint is GRANTED with respect to GMI-GIA’s

claims in Counts I-III, and DENIED with respect USRE’s claims, which Plaintiff pursues by

assignment. Plaintiff has now twice based its fraud claims on patently false characterizations of

documents it attached to its complaints. Moreover, even after the incoherence of its prior

“interpretation” was pointed out by the Court, Plaintiff continues to adhere to its unintelligible claims.4

While this “mistake” could initially have been attributed to mathematical ineptitude, continued

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Tellingly, despite the fact that it felt the issue salient enough to mention in its subsequent

opposition, Plaintiff presented absolutely no argument for it in its first opposition, beyond the bald

assertion that the budgets show only a conversion of Plaintiff’s debt into stock and not a cash repayment.

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adherence to this theory once its clear falsity has been pointed out by the Court can only be in bad faith.5

The Court granted Plaintiff leave to amend “only if it can allege, in good faith an adequate factual basis”

for its allegations, and for the second time Plaintiff has based its claims on mischaracterizations of

documents it attaches to its complaint. Accordingly, the Motion to Dismiss is granted with respect to

GMI-GIA’s claims in Counts I-III, this time without leave to amend. Defendant’s Request for Judicial

Notice, requesting that the Court take judicial notice of Docket Nos. 1, 27 and 37 in this matter pursuant

to Federal Rule of Evidence 201 is GRANTED. 

IT IS SO ORDERED.

 

Dated: 7/16/07 SAUNDRA BROWN ARMSTRONG

United States District Judge

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