Sometimes transactions may seem shady and/or produce an inequitable result, but the strict and demanding elements of a cause of action for fraud just do not fit. As Judge William H. Pauley III of the United States District Court for the Southern District of New York observed in a recent decision, “what occurred here, although unfortunate and unfair, does not constitute fraud.”
Christie’s Talking Out of Two Sides of its Mouth
In Waran v. Christie’s Inc., 16 cv 1386 (USDC SDNY May 31 2018), Judge Pauley granted the defendant summary judgment dismissing fraud claims because the plaintiff had not established that the representation he was relying upon was actually false or that the defendant had the requisite scienter to commit fraud.
The Waran case is a good example of something that just smells bad and is unfair, but does not amount to fraud. In Waran, a pediatric neurologist from Morristown, NJ sued the auction house Christie’s trying to assert fraud claims involving sculptures he purchased and was then seeking to sell — both through Christie’s (see report of case when it was instituted with pictures of the sculptures in question).
The case involves Christie’s procedures for authenticating the provenance of the items it accepts for sale. The plaintiff had purchased from Christie’s two Asian sculptures that were listed and described in Christie’s catalogues. In the catalogues, Christie’s represented the specific provenances of both pieces. Unfortunately, before plaintiff’s purchase, Christie’s policy was to accept at face value information regarding provenance that it received from its consignors. Thus, at that time, Christie’s made representations in its catalogues about the actual provenance of the items marketed for sale, but would not verify the information given to it by those who offered the pieces for sale.
Years after plaintiff purchased his two pieces from Christie’s for over $100,000 allegedly relying upon the representations in the catalogue, he sought to offer them for sale through Christie’s. Between the time of his original purchases and the time he sought to sell them, Christie’s had made several changes to its verification procedures, ultimately requiring consigners to provide actual documentation supporting the claims of provenance of the pieces. When plaintiff and Christie’s then sought to verify the provenance of these two pieces that plaintiff wanted to sell, the original consigner from whom Christie’s and plaintiff bought the pieces could not provide any evidence of such and in fact simply claimed he did not remember them. Christie’s then refused to accept the pieces from plaintiff for sale through Christie’s because the provenance of the items was not established in conformance with its stricter requirements.
Apparently the plaintiff was justifiably miffed, in effect thinking “how can you sell me sculptures representing that they are real and authentic and then refuse to sell them for me by claiming I have not given you proof they are authentic?” Figuring this must amount to fraud, plaintiff sued Christie’s. On May 31, 2018, Judge Pauley granted Christie’s summary judgment dismissing the case.
Demanding Standards of Proof
Judge Pauley started his analysis emphasizing the demanding standards in fraud cases:
“At the summary judgment stage, a party must proffer enough proof to allow a reasonable jury to find by clear and convincing evidence the existence of each of the elements necessary to make out a claim for fraud in the inducement.” Woo v. Times Enter., Inc., 2000 WL 297114, at *4 (S.D.N.Y. Mar. 22, 2000) (citation and quotation marks omitted).
“Clear and convincing proof is highly probable and leaves no substantial doubt.” Dongguk Univ. v. Yale Univ., 734 F.3d 113, 123 (2d Cir. 2013). “The clear and convincing evidence standard demands a high order of proof and forbids the awarding of relief whenever the evidence is loose, equivocal, or contradictory because fraud will not be assumed on doubtful evidence or circumstances of mere suspicion.” Hindsight Solutions, LLC v. Citigroup Inc., 53 F. Supp. 3d 747, 772 (S.D.N.Y. 2014) (citation and quotation marks omitted).
Judge Pauley then reviewed the requirement for proving an actual false statement was made:
Fraud requires a misstatement. See Sado v. Ellis, 882 F. Supp. 1401, 1406 (S.D.N.Y. 1995); Lovett v. Allstate Ins. Co., 446 N.Y.S.2d 65, 67 (N.Y. App. Div. 1982) (“In proving an allegation of fraud, an essential element is that the representation must have been false when it was made.”); 60A N.Y. Jur. 2d Fraud & Deceit §120 (2018) (“It is fundamental in the law of fraud that in order for a representation to furnish the basis for relief, it must be false.”). Waran has the burden to establish that the provenance guarantees were false, and this showing must be unequivocal. See Altman v. Casale, 270 N.Y.S.2d 509, 510 (N.Y. App. Div. 1966) (“Fraud is established only where facts are provided from which it results as an unavoidable inference.”)
Judge Pauley then found that there was no proof that the provenance that Christie’s had represented in its catalogue for the two pieces (when it did not require verification) was actually false. While the original consigner could not provide any information when later asked, that did not show the information initially supplied was false. (So, ironically, plaintiff could not show that the provenance was false, but at the same time, Christie’s did not accept the pieces for sale by plaintiff because the provenance could not be verified.)
Scienter
Judge Pauley also found that plaintiff had not proven another necessary element of fraud – that Christie’s intended to defraud him when it sold the pieces. As to the element of scienter, Judge Pauley observed:
“[C]ommon law fraud…require[s] the [p]laintiff to plead scienter.” Saltz v. First Frontier, LP, 782 F. Supp. 2d 61, 75 (S.D.N.Y. 2010). “The standard for evaluating whether [a] plaintiff[] ha[s] presented sufficient evidence of scienter is the same under New York common law as it is under Section 10(b) of the Securities Exchange Act of 1934….” King Cty., Wash. v. IKB Deutsche Industriebank AG, 916 F. Supp. 2d 442, 447 (S.D.N.Y. 2013). Other than showing intent to deceive or knowledge of falsity, a plaintiff may establish scienter by showing a defendant acted recklessly. See De Sole v. Knoedler Gallery, LLC, 139 F. Supp. 3d 618, 641 (S.D.N.Y. 2015).
As scienter is generally a question of fact, “[t]he Second Circuit has been lenient in allowing scienter issues to withstand summary judgment based on fairly tenuous inferences.” Press v. Chem. Inv. Servs. Corp., 166 F.3d 529, 538 (2d Cir. 1999). But summary judgment is nevertheless appropriate “where a plaintiff has failed to make a showing of wrongful intent on the part of defendant sufficient for a reasonable jury to find for plaintiff on that issue.” Lawford v. N.Y. Life Ins. Co., 739 F. Supp. 906, 913 (S.D.N.Y. 1990).
Judge Pauley rejected plaintiff’s argument that Christie’s acted so recklessly in not verifying anything it received from its consignors, that it satisfied the element of intent to defraud:
Waran does not contend that Christie’s intentionally or knowingly misled him. Instead, he argues that its due diligence before guaranteeing provenance was so deficient as to constitute recklessness. “A refusal to see the obvious, a failure to investigate the doubtful, if sufficiently gross, may furnish evidence leading to an inference of fraud….” Rolf v. Blyth, Eastman Dillon & Co., 570 F.2d 38, 46 n.13 (2d Cir. 1978). While Waran may have an argument that Christie’s should have done more, that amounts to negligence, not recklessness. “Reckless conduct is, at the least, conduct which is ‘highly unreasonable‘ and which represents ‘an extreme departure from the standards of ordinary care…to the extent that the danger was either known to the defendant or so obvious that the defendant must have been aware of it.’” Rolf, 570 F.2d at 47 (citation omitted) (emphasis added). There is no indication that the consignors’ provenance information raised any red flags that Christie’s should have but failed to notice.
Further, Waran offers no evidence Christie’s practices were so deficient that they constitute “an extreme departure from the standards of ordinary care.” See Rolf, 570 F.2d at 47 (citation omitted). Importantly, Christie’s head of Group World Art explained that it was Christie’s practice to request more information if it “flagged anything that caused worry.” (Robinson Dep., at 12:23-13:3; see also Cobden Dep., at 173:14-16 (“[T]his is what the departments do, is they talk to the consignor and understand from the consignor the story….”).) Waran provides nothing showing this course of conduct was less than the industry standard.4
Waran contends that the due diligence Christie’s conducted was “so flimsy as to lead to the conclusion that there was no genuine belief in its truth.” See State St. Trust Co. v. Ernst, 15 N.E.2d 416, 419 (N.Y. 1938). In making this argument, Waran mainly relies on Rolf. There, the Second Circuit held that a broker committed fraud by reassuring his client that trades were lawful “without investigation and with utter disregard for whether there was a basis for the assertions.” Rolf, 570 F.2d at 47-48. Waran asserts that Christie’s engaged in the same “heedlessness and reckless disregard of consequences” by parroting the consignors’ representations without further investigation. See Rolf, 570 F.2d at 46 n.13.
But Rolf arose in the context of a fiduciary relationship. See S. Cherry St., LLC v. Hennessee Grp. LLC, 573 F.3d 98, 114 (2d Cir. 2009). And in Rolf, the broker “actively lulled the investor by expressing confidence in the advisor without bothering to investigate whether these assurances were well-founded.” See Rolf v. Blyth Eastman Dillon & Co., Inc., 1978 WL 4098, at *1 (2d Cir. May 22, 1978) (per curiam).
Notably, no fiduciary relationship existed between Waran and Christie’s. And Christie’s did not “actively lull” Waran “by expressing confidence in [the consignors].” See Rolf, 1978 WL 4098, at *1. Moreover, the Second Circuit has explained that the recklessness required for fraud is akin to “defendants’ knowledge of facts or access to information contradicting their public statements.” Novak v. Kasaks, 216 F.3d 300, 308 (2d Cir. 2000); see also Chill v. Gen. Elec. Co., 101 F.3d 263, 269 (2d Cir. 1996) (“[R]ecklessness must in fact approximate an actual intent to aid in the fraud being perpetrated[.]” (citation omitted)). Finally, in Rolf, the broker made assurances without any basis. See Rolf, 570 F.2d at 48. In contrast, Christie’s had a general policy to obtain whatever information was available, and while it certainly could have done more, its failure does not amount to recklessness.
Waran’s reliance on Eaves v. Designs for Finance, 785 F. Supp. 2d 229, 253 (S.D.N.Y. 2011) is also misplaced. First, Eaves was at the motion to dismiss stage. And on the merits, the Eaves court held the plaintiffs’ fraud claims were actionable because the defendant “did not actually believe its opinions when it communicated them.” Eaves, 785 F. Supp. 2d at 253. Waran does not contend, nor does the evidence show, that Christie’s did not believe the pieces’ provenance to be legitimate before representing that they were.
Edward Tyler Nahem Fine Art, LLC v. Barral, 24 N.Y.S.3d 634 (N.Y. App. Div. 2016) is more on point for a fraud claim regarding artwork. There, the First Department affirmed the dismissal of a claim regarding “representations as to good title of…artwork [that] all proved to be false.” Edward Tyler Nahem Fine Art, 24 N.Y.S.3d at 635. The First Department held that even though the defendant’s representations were false, “[t]he evidence d[id] not show that defendant had reason to doubt the veracity of its representation [and] failed to investigate before making it….” Edward Tyler Nahem Fine Art, 24 N.Y.S.3d at 635. Like Edward Tyler Nahem Fine Art, nothing in this record demonstrates that Christie’s doubted the veracity of its representations but failed to investigate. See In re Doral Fin. Corp. Sec. Litig., 563 F. Supp. 2d 461, 466 (S.D.N.Y. 2008) (holding that plaintiff’s evidence “may raise an inference that [defendant] was negligent in not following up on [] discussions, but it certainly d[id] not show the conscious turning away from the true facts required for recklessness” (emphasis added)).
Commentary
Each element of a cause of action for fraud must be proved by clear and convincing evidence. A case can be dismissed if any element is not so established. At summary judgment, the focus is on the proof that the plaintiff has proffered, not simply the allegations of the complaint as on a motion to dismiss at the pleadings stage. Not every unfair or questionable transaction will fit within the elements of fraud.