It’s always exciting when the New York Court of Appeals, the state’s highest court, addresses fraud claims. The latest case is Connaughton v Chipotle Mexican Grill, Inc., 2017 NY Slip Op 03445, May 2, 2017.
In Connaughton, the Court of Appeals affirmed the dismissal of a complaint alleging fraudulent inducement because the plaintiff had not adequately alleged in the complaint recoverable, out-of-pocket, pecuniary loss resulting from the alleged fraud. The decision severely limits, if not precludes altogether, lost opportunity damages in fraud claims, although the plaintiff did not do much to help his own cause, or others seeking such damages. The decision is yet another warning that great care should be taken in articulating pecuniary damages that are not speculative.
Plaintiff’s Fraudulent Inducement Theory and Alleged Damages
The plaintiff in Connaughton was a well-known chef who became employed by Chipotle to pursue a new restaurant concept. The defendants were Chipotle Mexican Grill (“Chipotle”) and its Chief Executive Officer, Steven Ells. Before becoming employed by Chipotle, plaintiff prepared a business plan and actively pursued potential buyers for his concept for a ramen restaurant chain until Ells showed interest in the concept. Plaintiff then turned his efforts to developing ideas specifically for Chipotle’s restaurant platform. Thereafter, Ells offered to purchase the concept, and plaintiff, with the assistance of legal counsel, negotiated an agreement whereby he would work on the restaurant design for Chipotle with the title of Culinary Director based out of New York City.
While plaintiff was working on staffing for the new restaurant project, he learned from Chipotle’s Chief Marketing Officer (CMO) that Ells had a non-disclosure agreement (NDA) with another well-known chef, who previously worked with defendants on a ramen restaurant concept, similar to plaintiff’s. Although that prior project fell apart when that chef and defendants failed to agree on financial terms, defendants remained subject to the NDA with the other chef. Chipotle’s CMO told plaintiff that the chef would sue under the NDA if Chipotle opened the ramen restaurant that it planned with plaintiff. Plaintiff further alleged that defendants converted, without authorization, the other chef’s design for what became the Washington, D.C. flagship restaurant for one of Chipotle’s other brands.
When plaintiff confronted Ells about the NDA, Ells told him to continue with the work on the ramen restaurant, but plaintiff refused. Soon thereafter, Ells fired plaintiff, whose employment was “at-will.”
As relevant to the appeal, plaintiff sued defendants for fraudulent inducement, claiming that he reasonably relied on Ells’ failure to inform him about the business arrangement with the other chef, thereby fraudulently inducing him to work for Chipotle and to share his restaurant concept to his detriment. He alleged that he would not have entered into the agreement with defendants had he known about the prior business arrangement. He further asserted that the ideas the Chipotle staff contributed to plaintiff’s design for the restaurant concept actually belonged to the other chef, and that using those ideas to launch plaintiff’s project would subject plaintiff to legal action. Plaintiff claimed he was “damaged in an amount to be determined at trial, including, but not limited to, the value of his Chipotle equity and lost business opportunities in connection with his ramen concept.”
Defendants’ Motion to Dismiss
Defendants moved to dismiss, arguing in relevant part that a cause of action for fraudulent inducement may be maintained only where a party has suffered out-of-pocket pecuniary loss, not, as in plaintiff’s case, where damages are speculative or consist of lost business opportunities. The IAS Court granted the motion and the Appellate Division affirmed with two justices dissenting (135 AD3d 535 [1st Dep’t 2016]). The majority held that plaintiff’s damages were speculative and the facts alleged did not support an inference of calculable damages.
In affirming the dismissal, the Court of Appeals addressed the issue of damages in a rather black and white manner, even though the law is not so straightforward. The Court emphasized the need to allege that an actual loss was sustained as a result of the alleged fraud. Specifically, the Court observed:
In New York, as in multiple other states, “ ‘[t]he true measure of damage is indemnity for the actual pecuniary loss sustained as the direct result of the wrong’ or what is known as the ‘out-of-pocket’ rule” (Lama Holding, 88 N.Y.2d at 421, quoting Reno v. Bull, 226 N.Y. 546, 553 [1919] ). Under that rule, “[d]amages are to be calculated to compensate plaintiffs for what they lost because of the fraud, not to compensate them for what they might have gained…. [T]here can be no recovery of profits which would have been realized in the absence of fraud” (id. at 421, citing Foster v. Di Paolo, 236 N.Y. 132 [1923], AFA Protective Sys. v. American Tel. & Tel. Co., 57 N.Y.2d 912 [1982], and Cayuga Harvester, Inc. v. Allis–Chalmers Corp., 95 A.D.2d 5 [4th Dept 1983] ). Moreover, this Court has “consistent[ly] refus[ed] to allow damages for fraud based on the loss of a contractual bargain, the extent, and indeed … the very existence of which is completely undeterminable and speculative” (Dress Shirt Sales v. Hotel Martinique Assocs., 12 N.Y.2d 339, 344 [1963] ).
From that foundation, the Court had little trouble finding that plaintiff had not sufficiently alleged recoverable fraud damages. The Court noted that the “complaint alleges that in reliance on defendants’ fraudulent omissions, plaintiff stopped soliciting potential buyers,” without alleging that plaintiff “rejected another prospective buyer’s offer to purchase the concept.” In fact, plaintiff admitted that “once Ells showed an interest in his ramen restaurant idea, plaintiff turned to selling the concept to Chipotle.” The Court concluded: “These are factual assertions of the quintessential lost opportunity, which are not a recoverable out-of-pocket loss (see Lama Holding, 88 N.Y.2d at 422). As this Court has repeatedly stated, such damage is ‘disallowed as too speculative a recovery’ (Dress Shirt Sales, 12 N.Y.2d at 344; see also Lama Holding, 88 N.Y.2d at 422).”
Ways of Alleging Damages from Lost Opportunities
Plaintiff did not help his own cause by failing to allege a sufficient basis for claiming that his idea had independent value that he gave up and lost by relying upon the fraud that induced him to choose Chipotle. There is case law that would support such a theory. The cases show that the determinative factor should be whether the loss in opportunity is determinable or merely speculative. As the Court of Appeals noted in pointing out that plaintiff in Connaughton had not alleged actual opportunities or offers that he turned down, courts permit the recovery of the value of lost alternative opportunities so long as the alleged damages are determinable. See, e.g., Rather v. CBS Corp., 886 N.Y.S.2d 121, 127-28 (1st Dep’t 2009) (holding that plaintiff failed “to satisfy the Lama standard” where he “never identified a single opportunity with specified terms that was actually available to him and which he declined to accept because of” the defendant’s alleged fraud); Manas v. VMS Assocs., 863 N.Y.S.2d 4, 7 (1st Dep’t 2008) (“[T]he damages recoverable for being fraudulently induced to enter a contract are meant to ‘indemnify for the loss suffered through that inducement’ … , e.g., damages for foregone opportunities.”); In re Marketxt Holdings Corp., No. 04-12078 (ALG), 2006 WL 2864963, at *21 (Bankr. S.D.N.Y. Sept. 29, 2006) (under Lama, a fraud plaintiff may recover for “the loss of an alternative contractual bargain” so long as the loss is not “undeterminable and speculative,” and finding such a loss to be adequately plead).
While plaintiff in Connaughton could not allege that he actually turned down any offers from others in favor of Chipotle, he did lose the opportunity to pursue his idea and then lost any potential gain when Chipotle allegedly frustrated that opportunity. Plaintiff could have engaged a valuation expert to place a value on his idea, so as to avoid the purely speculative assertion, without any support, that it would have been valuable. If he alleged a reasonable value for his opportunity, he may have been in a better position to argue that his actual loss was not speculative, but calculable with reasonable certainty – the standard courts apply to lost profits claims. See, e.g., Kenford Co. v. Erie County, 67 NY 2d 257 (1986).
No Nominal Damages in Fraud
Finally, the Court of Appeals in Connaughton rejected the dissenting opinion below that the cause of action for fraudulent inducement should have been sustained because the plaintiff could recover nominal damages, relying upon Kronos, Inc. v. AVX Corp., 81 N.Y.2d 90, 95 (1993). The Court held: “Nominal damages are not available when actual harm is an element of the tort … [s]ince actual harm is an element of fraudulent inducement … and there is no compelling reason to carve out an exception for such cause of action, as a general matter or specifically in this case, plaintiff is not entitled to nominal damages.” (internal citations omitted).