Opinion ID: 1755180
Heading Depth: 1
Heading Rank: 16

Heading: Dismissal of Westridge and WG Trading for Failure to State Cause of Action

Text: Myers argues that if the contracts are not void ab initio, then the district court erred in concluding that he lacked standing to pursue his breach of contract claim against Westridge. In his final cause of action, Myers alleged that Westridge had breached the agreement because it knew or should have known that the NIC was prohibited from expending public funds on the WG Trading partnership. Similarly, in his third cause of action, Myers alleged that Westridge, WG Trading, Walsh, and Greenwood had breached their fiduciary duty to the State to (1) disclose that the investment contracts with the State were illegal and (2) refrain from investing the State's assets until they had obtained authorization from the Attorney General. Myers' breach of contract allegations mirror his breach of fiduciary duties claim against Westridge and WG Trading because they could only owe fiduciary duties to the NIC through the contracts. On appeal, Myers argues that Westridge and WG Trading had an implied contractual duty to inform the NIC that the investment was illegal. This court has implicitly recognized that a taxpayer's standing on claims of illegal expenditures extends to seeking recovery from private parties contracting with the governmental entities. See, e.g., Lanphier v. OPPD, 227 Neb. 241, 417 N.W.2d 17 (1987); Fulk v. School District, 155 Neb. 630, 53 N.W.2d 56 (1952). But a taxpayer, in pursuing a derivative action on behalf of a governmental entity, has no greater rights against a party contracting with the governmental entity than the entity itself possesses. Lanphier v. OPPD, supra ; Nielsen v. SID No. 229, 208 Neb. 542, 304 N.W.2d 385 (1981). The district court dismissed Myers' third cause of action for failing to state a claim. For Myers to state a claim, the NIC must have a legal claim. Thus, we analyze whether the NIC was entitled to recover from Westridge and WG Trading for failing to inform the NIC that the contracts violated Nebraska statutes. Regarding this claim, the district court concluded: Holsapple represented throughout all of the written agreements that the NIC was able to enter into the investment agreements. There was no duty on WG Trading, Walsh, Greenwood and Westridge . . . to independently verify those representations. We believe that Myers correctly states that Westridge owed fiduciary duties to the NIC under the contract. The issue, however, is whether Myers can state a claim for breach of fiduciary duties. A broker operating a discretionary account, in which the broker determines which investments to make, is viewed as a fiduciary. CFTC v. Heritage Capital Advisory Services, Ltd., 823 F.2d 171 (7th Cir.1987). Both federal regulations and Nebraska statutes define a broker dealer's fiduciary duties as follows: It shall be unlawful for any person, in connection with the offer, sale, or purchase of any security, directly or indirectly: (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 the light of the circumstances under which they are 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. Neb.Rev.Stat. § 8-1102(1) (Reissue 1997). See, also, 15 U.S.C. § 78j(b) (2000); 17 C.F.R. § 240.10b-5 (2006). Under federal law, a broker-dealer may be liable for recommending the purchase of securities that are unsuitable for an investor's, as a violation of § 10(b) of the Securities Exchange Act of 1934 and rule 10b-5 of the federal regulations. O'Connor v. R.F. Lafferty & Co., Inc., 965 F.2d 893, 897 (10th Cir.1992). To sustain an unsuitability claim, the investor must prove: (1) [T]he broker recommended (or in the case of a discretionary account purchased) securities which are unsuitable in light of the investor's objectives; (2) the broker recommended or purchased the securities with an intent to defraud or with reckless disregard for the investor's interests; and (3) the broker exercised control over the investor's account. Id. at 898. A similar claim was recently addressed by the Minnesota Supreme Court in Minneapolis Emp. Ret. v. Allison-Williams, 519 N.W.2d 176 (Minn.1994). In that case, the executive director of the public employees' retirement fund had communicated the funds' investment objectives to one of its broker-dealers. The fund sought higher returns than had been generated by buying privately placed securities. The director approved the purchase of high-yield, high-risk bonds over a period of years, and the broker-dealer could not enter into the transactions without authorization. Eventually, the public corporation sued to recover losses based on claims that the broker-dealer (1) had breached its fiduciary duty, (2) sold unsuitable investments, and (3) failed to disclose material facts. The corporation alleged that the broker had a duty to obtain information regarding the fund's financial situation before recommending speculative securities. Relying on the O'Connor rule, the Minnesota Supreme Court concluded that speculative trading as identified by the fund director was consistent with the corporation's investment objectives. The court determined that the corporation had failed to show a fraudulent intent or reckless disregard for the investor's interests because the director had communicated an objective to obtain greater returns by purchasing riskier securities. Minneapolis Emp. Ret. v. Allison-Williams, supra . This case illustrates that a broker can rely on representations made by the investor in determining whether an investment is suitable to the investor's needs and that investments consistent with those objectives do not constitute fraudulent conduct when the broker makes the investor aware of the risks. In the WG Trading partnership contract, Holsapple represented that (1) the NIC was a sophisticated investor and experienced in business affairs; (2) all documents, records, and books pertaining to this investment were available to its attorney and its accountant; and (3) the NIC has full power and authority to invest in the Partnership and to enter into this Partnership Agreement and to perform its obligations hereunder without the consent of any person or entity which has not heretofore been obtained. Further, the NIC acknowledged in the contract that the Partnership has been organized to invest primarily in arbitrage and other hedged strategies but that this type of investing is speculative and may involve a high degree of risk, including both market and credit risks. Because of these representations, Westridge could conclude that the NIC's investment objective was to engage in speculative investment in the hope of obtaining greater returns. Similarly, the contract refutes any intention to deceive the NIC about the risks of these investments. The WG Trading contract required a limited partner, i.e., the NIC, to represent that it had authority to enter the partnership and that it had made all investment documents available to its attorney. This requirement made the NIC aware that authority was needed to enter into the contract. The district court correctly determined that Westridge could rely on the NIC's representation that it had authority to invest in the WG Trading. Myers relies solely on a case from the New Mexico Supreme Court to argue that Westridge breached its fiduciary duties to the NIC. See State ex rel. Udall v. Colonial Penn, 112 N.M. 123, 812 P.2d 777 (1991). The New Mexico Supreme Court reversed a summary judgment for the investment advisor. There, the investment advisor had recommended the purchase of stock in a company that was incorporated in the Netherlands Antilles. The New Mexico Constitution restricted the investment officer's stock purchases to the stock of businesses incorporated in the United States. After purchasing the stock, the investment officer learned that the company was a foreign corporation and, suspecting that the investment was contrary to New Mexico law, contacted the attorney general's office. After the attorney general issued an opinion that the purchase was illegal, the stock was sold at a $1.2 million loss. The state alleged that the investment advisor knew the limitations on the state's stock purchases and nonetheless advised the investment officer to make the purchase. The Supreme Court concluded that the contract had incorporated New Mexico law and that the investment advisors, as fiduciaries, had a duty to advise the state to make only lawful investments. Because the record revealed factual issues as to whether the investment advisor knew of the state's constitutional limitations, the court reversed summary judgment. We note that the court did not impute knowledge of New Mexico law to the investment advisor. Thus, we read the case as holding that when a broker-dealer has actual knowledge of state law limitations on investing state assets, the broker-dealer has a duty to advise a state investment officer to make only investments within those limits. Here, the district court specifically stated: Assuming, for purposes of argument, that the investment . . . was contrary to state statute, [Myers] does not argue, or plead, that WG Trading, Walsh, Greenwood and/or Westridge . . . knew that the NIC and Holsapple were exceeding their statutory authority by entering into the investment contracts. State ex rel. Udall is inapplicable to Myers' allegations. We conclude that the NIC could not maintain an action against Westridge for breach of a contractual duty because the documents submitted and attached to the pleadings show that Westridge's investments were consistent with the NIC's investment objectives. Also, the investment contracts put the NIC on notice that it needed authorization to enter the contracts, and the NIC represented that it had authority. Because the NIC could not recover from Westridge for breach of a contractual duty, Myers could not recover on behalf of the NIC based on this claim.