Smith v. Buoy



Filed 10/19/12 Smith v. Buoy CA1/1

>NOT TO BE PUBLISHED IN OFFICIAL REPORTS

>

California
Rules of Court, rule 8.1115(a), prohibits courts and parties from citing or
relying on opinions not certified for publication or ordered published, except
as specified by rule 8.1115(b). This
opinion has not been certified for publication or ordered published for
purposes of rule 8.1115.

IN
THE COURT OF APPEAL OF THE STATE OF CALIFORNIA



FIRST
APPELLATE DISTRICT



DIVISION
ONE




>

SCOTT SMITH et al., Cross-Complainants and Appellants, v. SCOTT BUOY, Cross-Defendant and Respondent.	A131351 (San Francisco City & County Super. Ct. No. CGC-09-494425)
SCOTT SMITH et al., Cross-Complainants and Appellants, v. WENDELL BROWN, Cross-Defendant and Respondent.	A131352 (San Francisco City & County Super. Ct. No. CGC-09-494425)

This
litigation arises from the failure of a start up company, Demeter Energy
Corporation (Demeter), and a falling out between the members of its board of
directors. Demeter commenced litigation
against appellant Scott Smith, one of the three directors, and other entities
not involved with this appeal. Smith and
a related entity, Mix Sonoma, filed a first amended cross-complaint against the
other two directors, respondents Scott Buoy and Wendell Brown, and Demeter,
which is also not a party to this appeal.
Buoy and Brown successfully demurred to the first amended
cross-complaint. Brown successfully
demurred to a single cause of action in Smith’s second amended
cross-complaint. The trial court denied
leave to amend and entered judgments of dismissal for Buoy and Brown. Smith and Mix Sonoma claim they have
successfully pleaded causes of action for breach of fiduciary duty and
violation of Corporations Code section 25401.
We agree and reverse.

I.>
FACTS & PROCEDURAL BACKGROUND

A. Facts

1.
Introduction

In reviewing the
sufficiency of a complaint challenged by demurrer, we must provisionally accept
as true all properly pleaded material facts alleged in the complaint. (Pacific
Gas & Electric Co. v. Bear
Stearns & Co. (1990) 50 Cal.3d 1118, 1125; Blank v. Kirwan (1985) 39
Cal.3d 311, 318 (Blank).) When a demurrer is sustained without leave to
amend, “we decide whether there is a reasonable possibility that the defect can
be cured by amendment: if it can be, the
trial court has abused its discretion and we reverse; if not, there has been no
abuse of discretion and we affirm.
[Citations.]” (>Blank, supra, at p. 318.) The burden of showing a reasonable
possibility of curing the defect “is squarely on the plaintiff. [Citation.]”
(Ibid.)

As a reviewing
court viewing a complaint at the demurrer stage, we are obligated to give the
complaint “a reasonable interpretation, reading it as a whole and its parts in
context.” (Blank, supra, 39 Cal.3d at p. 318.)
We must examine the complaint’s factual allegations to determine whether
they state a cause of action on any
available legal theory―even if that theory was not explicitly
advanced or properly labeled in the pleading.
(See, e.g., Barquis v. Merchants
Collection Assn. (1972) 7 Cal.3d 94, 103; Saunders v. Cariss (1990) 224 Cal.App.3d 905, 908.)

The primary
operative pleading in the appellate record, from which we take the
provisionally admitted facts, is Smith’s first amended cross-complaint
(FACC). Before we discuss the factual
allegations of the FACC, we must provide some factual background by describing
the beginning of this litigation―the complaint filed by
Demeter―with the understanding that the factual allegations of that
complaint have been tested neither by demurrer nor by a trier of fact.href="#_ftn1" name="_ftnref1" title="">[1]

On
November 13, 2009, Demeter
filed a complaint against Smith, Viant Group LLC (a company owned by Smith) and
DLA Piper LLP and Scott (Demeter’s former counsel). Demeter alleged that Smith, with the help of
former counsel, attempted to take over or destroy Demeter. The complaint alleged causes of action for
breach of contract, breach of fiduciary duty, conspiracy, and breach of oral
contract against Smith.

On March 12, 2010, Demeter filed a first
amended complaint, adding as defendants two other companies owned by
Smith: Viant Asset Management LLC and
Viant Capital LLC. The new pleading alleged
eight new causes of action against Smith and his three companies, including
fraud, concealment, conspiracy, aiding and abetting fraud, breach of the
implied duty of good faith and fair dealing, and intentional interference with
prospective economic advantage. The
three companies owned by Smith successfully demurred to the first amended
complaint. Demeter filed a second
amended complaint on June 7, 2010,
alleging many of the same causes of action against Smith and two of his
companies―who proceeded to file an answer to the second amended
complaint.

On
April 22, 2010, Smith filed
a cross-complaint naming Demeter, Buoy, and Brown as cross-defendants. It set forth causes of action arising from
Smith’s alleged wrongful ouster from Demeter and other alleged wrongs. We need not discuss this pleading in detail
because it was soon superseded by the FACC, the primary operative pleading in
this matter.

2. The
Factual Allegations of the FACC

Smith
filed the FACC on June 9, 2010. Respondents’ demurrers provisionally admit
the material facts adequately pleaded, which are the principal facts of this
case. We set them forth as follows.

In
or near the Fall of 2007, Smith introduced Buoy and Brown to the idea of
forming a corporation to explore growing the Jatropha plant, which can be
converted to biodiesel fuel, in Central and South America.href="#_ftn2" name="_ftnref2" title="">[2] Both Buoy and Brown were eager to participate
in the project. Buoy offered to write
the business plan and be the “labor” behind the project. Brown offered to provide the necessary
capital. It was understood by all three
men that Smith was the “idea man.”

The
three men formed Demeter as the corporate vehicle for the Jatropha
project. Demeter was founded in January
2008 as a Delaware corporation by
Smith, Buoy, and Brown. These three
founders became Demeter’s Board of Directors:
Smith was CEO, Buoy was President, and Brown was Chairman of the Board. The three men executed a Founder Stock Purchase
Agreement (Founders Agreement), whereby each man received one-third of the
founder shares in Demeter.

The
parties contemplated an initial round of financing called “Series A.” Apparently, Brown was supposed to provide the
initial $300,000 to be raised by Series A, so Smith suggested each of the three
founders be responsible for contributing $100,000 to Series A. By Spring 2008, Smith had raised his portion
from Mix Sonoma LLC (Mix Sonoma), an investment fund established by Smith and
two other investors to invest in various projects, plus $20,000 from an
individual donor.

In
March 2008, Smith and Demeter executed an Investor Rights Agreement with regard
to Smith’s investment in Demeter through his investment fund, Mix Sonoma. Brown raised or invested $100,000, and Buoy
raised $75,000, for Series A, which closed in June 2008.

In
the late spring and early summer of 2008, Brown and Buoy “wasted corporate
resources” by making “numerous fruitless trips” to Mexico to look for land
“while Smith successfully continued courting investors.” By the summer of 2008, Smith concluded the
two had “grossly overstated the ease with which Demeter could acquire land in
Mexico.” The three agreed to shift
Demeter’s primary focus to Brazil.

In
June 2008, the three directors flew to Washington D.C. to meet with the founder
of Hampden Kent Group, LLC (HKG), a “purported” project development, financing,
and management company. Buoy and Brown
developed a relationship with HKG, and Smith trusted they had performed due
diligence on the company. HKG, through a
German utility, could secure a 20-year off-take agreement for oil made from the
Jatropha plant. With this agreement, HKG
could secure $200 million or more in bonds to fund the development of Demeter’s
Jatropha plantations.

Demeter
needed to pay HKG $140,000 up front as a retainer, and an additional $250,000
or more as milestones were met. Demeter
also needed to raise about $3 million to secure options on the land. To obtain funding, Demeter had to identify
actual tracts of land and secure the tracts under binding contracts―thus,
there was “tremendous pressure to raise $3 million in equity and secure tracts
of land.”

When
the time came to pay HKG’s retainer, Demeter had only $80,000. Smith agreed to invest $50,000 in Demeter
through Mix Sonoma; Brown agreed to match it so they could pay the retainer,
which was sent to HKG in August or September 2008. The money was advanced to Demeter as part of
a proposed $3 million Series B financing, which was never secured or closed due
to Buoy and Brown allegedly terminating Smith’s role with Demeter.

As
of the time of filing the FACC, “Demeter, under the mismanagement of Buoy and
Brown, has yet to raise the necessary capital to continue with any transactions
or business, including the HKG [d]eal.”

Buoy
and Brown again “wasted corporate resources on numerous fruitless trips to
. . . looking for land,” this time in Brazil. Smith introduced Buoy and Brown to two
businessmen who wanted to help Demeter find land in Brazil. Buoy and Brown aggravated the businessmen,
who told Smith they would never work with Smith or Demeter again “because of
Buoy’s ethics.”

In
August 2008, Smith brought two investors from Sustainable Palm Resources (SPR)
to Demeter, who were interested in joining forces with the company to grow
Jatropha in Nicaragua. The investors
would provide land that was “identified, secured, and shovel-ready.” They would provide “C-level officers” and “in-country
infrastructure” so the Nicaragua project could be immediately financed. They would also provide additional capital
for Demeter; under one proposal SPR would invest $600,000 in Demeter, and Smith
$300,000. In all, the investors “brought
money and good land, but most important they brought financeable management.”

Buoy
and Brown initially refused to meet with SPR.
Buoy then met “reluctantly” with SPR after Smith reminded him Demeter
had no money. The SPR deal fell through
“after Buoy and Brown refused to proceed with discussions with SPR.”

Smith
concluded Buoy and Brown “were completely unable to raise capital,
unreferenceable in the investment community, and incapable of securing land
. . . .” Accordingly, he
hired Jay Fudemberg to run Demeter.
Fudemberg promised to invest $75,000 in the company. Fudemberg summarily quit within weeks, citing
purported financial regularities involving Buoy and forming a negative view of
Buoy’s honesty. Fudemberg refused to
invest the $75,000.

In
August or September 2008, Brown hired private counsel to draft a “side
agreement letter,” clarifying points regarding his relationship with Demeter
and limiting Demeter’s areas of business operations to Mexico and Brazil. Brown sent the letter to Robb Scott,
Demeter’s attorney, who advised Smith to sign it even though Scott thought the
letter was unnecessary because its contents were generally understood by all
parties. Brown’s purpose was to limit
the area of operations to Mexico and Brazil, confirm that he was not being paid
by Demeter and confirm Brown could work on energy projects outside of the scope
of Demeter’s business. Buoy was informed
of the letter and approved of its contents.

Smith signed the
side agreement letter September 4, 2008.href="#_ftn3" name="_ftnref3" title="">[3] Within six weeks, Brown reversed his position
and demanded to be provided with what he called the “secret” letter when >Smith supposedly unilaterally limited
the scope of business operations to Mexico and Brazil. Scott provided Brown with copies of Brown’s
attorney’s original draft of the letter.
“Brown continued to feign ignorance and continued to point to the letter
as evidence of Smith’s wrongdoing.”

Smith
formulated proposals by which he would invest heavily in Demeter along with
some of his friends, and thereby “salvage” the company. Smith was reluctant to invest with Demeter so
long as Buoy and Brown remained as officers and retained control of Demeter’s
board, and Smith believed no financing could go forward with Buoy and Brown
still controlling the company. “Smith
concluded the only basis upon which he would invest was to have them resign and
forfeit some of their stock in the event they failed to raise an equal third of
the money.”

Accordingly,
Smith proposed two plans in September 2008, which he describes as “favorable to
every constituent of Demeter, including its creditors and stockholders, and
only unfavorable to Buoy and Brown if they failed to assist raising capital for
Demeter.”

Smith
sent the first proposal to Buoy and Brown on September 17, 2008. It provided Buoy and Brown would immediately
resign from the board and forfeit to Smith a fraction of their Demeter shares
if they failed to successfully raise capital for Demeter. “Given Brown and Buoy’s mismanagement and
inability to independently find investors, this plan was entirely favorable to
Demeter.” Buoy and Brown refused the
proposal and did not make a counter proposal.

Smith
sent the second proposal to Buoy on September 20, 2008. Smith describes this proposal as favorable to
Demeter, and favorable to Buoy if he succeeded in raising capital for the
company. “Smith insisted that the
company and its officers come to grips with the financial reality of
Demeter.” Buoy refused the proposal and
did not make a counter proposal.

In
September or October of 2008, Demeter’s counsel, DLA Piper, terminated its
attorney-client relationship with Demeter for nonpayment, failure of the board
of directors to heed advice, and failure to provide complete and honest
information. DLA Piper’s termination
decision was based on a “disingenuous” e-mail from Brown denying his knowledge
of the side agreement letter, and on harassing calls from a woman, claiming to
be Demeter’s attorney, who was purportedly hired by Buoy and Brown to
investigate Smith’s actions and conclude there was cause to remove Smith as a
director.

Demeter,
Buoy and Brown drafted a Written Consent of Majority Shareholders (Written
Consent) dated October 10, 2008 approving Smith’s removal as a director for
cause. The Written Consent was sent to
selected, but not all, shareholders. The
allegations of the Written Consent were based on Smith’s alleged breaches of
the Founders Agreement and the Employee Non-Disclosure and Assignment Invention
Agreement; Smith’s two proposals of September 2008 regarding Buoy’s and Brown’s
resignation; an “independent” report prepared by Buoy and Brown―which
they have purportedly refused to produce―and an opinion from a law firm
hired by Buoy and Brown “to advance their own interests in the dispute.”

The
allegations of the Written Consent “are that Smith wrongfully threatened to
bankrupt [Demeter], solicited Buoy to abandon [Demeter], demanded an additional
5 % post-Series B ownership, and signed a letter limiting the business of
Demeter to Mexico and Brazil.” Smith
“denies any wrongdoing.”

On
the basis of these allegations, the Written Consent states that directors Buoy
and Brown: “determined that (A) Smith
amongst other wrongful acts (i) engaged in actions to harm and injure
[Demeter]; (ii) engaged in acts of self-dealing; (iii) failed to obtain board
approval before signing a letter that purported to limit the scope of
[Demeter’s] business; (B) Smith is in material violation of his obligations
under the Founder’s [sic] Agreement;
(C) Smith has materially failed and continued to fail to perform his duties of
a director of [Demeter] with the diligence and care required by applicable law;
(D) Smith materially and continually failed to perform the functions of
director and officer of [Demeter] and he failed to exercise the diligence and
attention of a reasonable director and officer in his position; (E) Smith
wrongfully, solicited, encouraged and attempted to cause Buoy to terminate his
employment with [Demeter]; and (F) Smith failed to devote his best efforts to
the interests of [Demeter] and engaged in conduct that was a direct conflict
with [Demeter’s] interests and resulted in a material and substantial
disruption to [Demeter.]”

“[T]he
key bases for terminating Smith were his alleged execution of agreements not
authorized by the board and his alleged transfer of shares in violation of
[Demeter’s] agreements. These
allegations were false and manufactured by Brown and Buoy to justify their
actions They were shown to other
stockholders. Buoy and Brown were acting
out of complete self-interest. Smith’s
proposals―had they been approved―would have saved Demeter. Brown and Buoy contrived false reasons for
terminating Smith so that they preserved their positions and ownership.” They also demanded Smith pay a large sum of
cash to Demeter.

Under
the Founders Agreement, Demeter had a “declining right” to purchase shares of
stock in the event a founder was terminated, resigned, or was not
reappointed. After Smith was removed
from the board, Demeter sent notice to Smith that the company was exercising
its repurchase rights since Smith was removed for cause. Demeter exercised its repurchase rights for
$562. Demeter also refused Smith’s
request to inspect Demeter’s records.

The
FACC alleges Buoy and Brown “dominated and controlled” Demeter and rejected
opportunities Smith brought to the company to further their own interests. The FACC also alleges Buoy and Brown used
their “complete control of Demeter” to destroy the company. It also alleged that the Nicaragua deal which
Smith brought to the company was a “potential godsend for Demeter,” which was
virtually out of money, but Buoy and Brown “allowed their own personal interest
to blind them” because the deal was a threat to their control of the company.

3. Procedural
Background

The
FACC, with Smith and Mix Sonoma as cross-complainants, set forth three causes
of action against Buoy and Brown: unjust
enrichment on behalf of Mix Sonoma, based on Mix Sonoma’s September 2008
investment of $50,000 for which it never received corresponding shares of stock
(fourth cause of action); defamation on behalf of Smith, based on the
allegation of the Written Consent that damaged Smith’s reputation “as a
trustworthy and ethical businessman” (fifth cause of action); and violation of
Delaware common law on behalf of Smith, for removing Smith without “service of
specific charges, adequate notice, and a full opportunity to defend himself
against the charges” (sixth cause of action).
The FACC set forth an additional cause of action on Smith’s behalf
against Brown for equitable indemnity based on negligent misrepresentation,
claiming the side letter misrepresented a managerial desire to limit business
operations to Mexico and Brazil, causing the Nicaragua deal to fall through
(third cause of action).href="#_ftn4"
name="_ftnref4" title="">[4]

Buoy
and Brown filed separate demurrers to the FACC, apparently in late July 2010.

On
August 13, 2010, Smith and Mix Sonoma opposed the demurrers of Buoy and Brown,
but only to the third cause of action (negligent representation against Brown
only) and the fourth cause of action (unjust enrichment against Buoy and
Brown). Smith and Mix Sonoma explicitly
did not oppose the demurrers as to the fifth and sixth causes of action, thus
effectively conceding the demurrers’ merit as to those claims against both
cross-defendants.

The trial court
issued tentative rulings on August 26, 2010. The tentative rulings sustained the demurrers
without leave to amend as to the fourth, fifth, and sixth causes of action as
to both defendants, and sustained the demurrer with leave to amend as to Brown
regarding the third cause of action.

The procedural history
of this case following the tentative rulings is somewhat convoluted. We first describe the history as to Buoy, and
then as to Brown.

On September 14,
2010, Buoy served and submitted to the court two proposed orders: one sustaining Buoy’s demurrer without leave
to amend and the other dismissing Buoy and entering judgment in his favor.

On
November 4, 2010, the trial court entered an order sustaining Buoy’s demurrer
without leave to amend. The court did
not enter a judgment of dismissal concurrently with the demurrer order. Thus, Buoy filed a motion for dismissal and
entry of judgment. The court granted the
motion December 22, 2010.

On
January 21, 2011, the trial court entered judgment of dismissal in favor of
Buoy and against Smith and Mix Sonoma.
Smith and Mix Sonoma appeal from this judgment of dismissal.

Meanwhile,
the trial court filed an order as to Brown on September 21, 2010, sustaining
his demurrer without leave to amend on the fourth, fifth, and sixth causes of
action, but granting leave to amend on the third cause of action.

On
September 23, 2010, Smith―not joined by Mix Sonoma―filed a second
amended cross-complaint (SACC) against Demeter and Brown. The only allegation against Brown was the
third cause of action for negligent misrepresentation.

Brown demurred to
the SACC on October 8, 2010. Smith did
not oppose Brown’s demurrer to the SACC.
On December 2, 2010, the trial court entered an order sustaining Brown’s
demurrer to the SACC without leave to amend.

The court granted
Brown’s motion for dismissal on the ground that his demurrers to both the FACC
and the SACC had been sustained without leave to amend.

The trial court
entered judgment for Brown on February 7, 2011.
Smith and Mix Sonoma appeal from this judgment.href="#_ftn5" name="_ftnref5" title="">[5]

II. DISCUSSION

Smith
and Mix Sonoma argue they adequately pleaded causes of action for breach of
fiduciary duty and violation of Corporations Code section 25401.href="#_ftn6" name="_ftnref6" title="">[6] The parties engage in a considerable round of
detailed briefing, but as we untangle the pleadings, we find the issue
straightforward under demurrer law. A
fair reading of the FACC leads us to conclude that Smith and Mix Sonoma have
adequately pleaded a cause of action for breach of fiduciary duty under
California law―and, as we have noted, even if they failed to explicitly
label such a cause of action in the FACC.

“[M]ajority
shareholders, either singly or acting in concert to accomplish a joint purpose,
have a fiduciary responsibility to the minority and to the corporation to use
their ability to control the corporation in a fair, just, and equitable
manner. Majority shareholders may not
use their power to control corporate activities to benefit themselves alone or
in a manner detrimental to the minority.
Any use to which they put the corporation or their power to control the
corporation must benefit all shareholders proportionately and must not conflict
with the proper conduct of the corporation’s business. [Citations.]”
(Jones v. H.F. Ahmanson & Co. (1969)
1 Cal.3d 93, 108 (Jones).) “[T]he comprehensive rule of good faith and
inherent fairness to the minority in any transaction where control of the
corporation is material properly governs controlling shareholders in this
state.” (Id. at p. 112 [fn. omitted].)href="#_ftn7" name="_ftnref7" title="">[7]

The
California Supreme Court reaffirmed these principles in Stephenson v. Drever (1997) 16 Cal.4th 1167, 1178. The Courts of Appeal have followed suit. (See, e.g., Jara v. Suprema Meats, Inc. (2004) 121 Cal.App.4th 1238, 1254–1256;
Smith v. Tele-Communication, Inc. (1982)
134 Cal.App.3d 338, 345 [breach of fiduciary duty when majority deprives a
minority shareholder of a proportionate share of the corporation’s value]; >Crain v. Electronic Memories & Magnetics
Corp. (1975) 50 Cal.App.3d 509, 524.)

In
our view, Smith and Mix Sonoma have adequately pleaded a breach of fiduciary
duty under these authorities. According
to the FACC, Buoy and Brown took control of Demeter; ignored its precarious
financial situation; failed to raise adequate capital; wasted corporate funds
on fruitless trips to Mexico and Brazil; refused to consider the Nicaragua deal
which could have made Demeter a successful and profitable venture; failed to
give Mix Sonoma the stock it deserved for its $50,000 investment; and forced
Smith from his directorship. These
allegations show a breach of fiduciary duty by the majority in control of the
corporation, depriving the minority of their potential share in corporate
profits.

Mix
Sonoma also claims it has properly pleaded a cause of action for violation of
Corporations Code section 25401. That
statute states: “It is unlawful for any
person to offer or sell a security in this state or buy or offer to buy a
security in this state by means of any written or oral communication which
includes an untrue statement of a material fact or omits to state a material
fact necessary in order to make the statements made, in the light of the
circumstances under which they were made, not misleading.” Corporations Code section 25504 makes
officers and directors of a corporation liable for violations of Corporations
Code section 25401.

Mix
Sonoma alleges that Demeter offered to sell it Series B stock for Mix Sonoma’s
investment of $50,000; that by terminating Smith, Buoy and Brown made it
impossible for the Series B financing to occur; and that Mix Sonoma paid
Demeter the $50,000, but did not receive the promised stock. At the demurrer stage of a lawsuit, these
allegations on their face are sufficient to state a cause of action under
Corporations Code section 25401 for misrepresentation.href="#_ftn8" name="_ftnref8" title="">[8]

Buoy and Brown’s
main argument is they did not garner any pecuniary gain because Demeter was
broke and its stock worthless. Apart
from the fact they are alleged to have been the architects of Demeter’s
financial demise, an actionable breach of fiduciary duty does not require
pecuniary gain to the majority. “A
breach of a fiduciary relationship does not depend upon the certainty of
profits and the fact that losses may result instead of profits in no way
changes the fact that there was such a breach.” (Bank
of America v. Ryan (1962) 207 Cal.App.2d 698, 708, fn. 5, 715, fn. 5.) The argument about lack of pecuniary gain is
for a later stage and not by way of a demurrer.

III. DISPOSITION

The judgment of dismissal entered January 21, 2011, in favor of Buoy,
and the judgment of dismissal entered February 7, 2011, in favor of Brown, are
reversed. The cause is remanded to the
trial court with instructions to overrule the demurrers of Buoy and Brown to
the FACC, and for further proceedings consistent with this opinion.







______________________

Marchiano, P.J.





We concur:





______________________

Dondero, J.



______________________


Banke, J.