KANDIS A. WESTMORE, Magistrate Judge.
The Family Trust of Kimberly and Alfred Mandel, Richard "Dick" Taylor, 2000 Jackson Family Trust, James Fisher, and Christine Williams ("Defendants")
INSITEsource Corporation ("Insite") was founded in 2012 to exploit the assets of another company, Blue Hawk, Inc., which were owned by Montage Capital LLC ("Montage"). (Am. Compl. ("FAC") ¶¶ 10, 11, Dkt. No. 12.) On April 13, 2012, Insite signed a promissory note with Montage for $925,000. (Id. ¶ 12.) Insite then raised over $500,000 from a number of investors, including some of the defendants. (Id. ¶ 13.) Each investor, including Defendants Taylor, Jackson, and Mandel, were informed of Montage's senior debt. (Id. ¶ 14.) Each investor signed a subordination agreement, which states, in pertinent part:
Insite and Montage then entered into a loan and security agreement providing that "Event[s] of Default" would occur upon "any `change in management, or if any senior level manager or `c' level officer of the Borrower ceases to devote substantially all of his or her time to Borrower's business and operations.'" (Id. ¶ 16.) Defendants were aware of the loan security agreement and the secured nature of the debt Insite owed Montage at all times. (Id.)
Beginning in the fall of 2014, investors and signatories to the subordination agreement, including Defendants Fisher and Williams "engaged in a plan to `seize' control of Insite by absconding with the Company's passwords, business assets, and other properties and to the software system Insite was providing to multiple paying customers." (Id. ¶ 17.) One investor and signatory to the subordination agreement, Gregory Rossmann, "also purported to fire Peter Nordberg, the CEO, in direct breach of the [agreement]." (Id.) The attempted seizure of Insite's assets and the change in management triggered a default under the secured promissory note and the loan security agreement. (Id. ¶ 19.) Insite filed suit in San Francisco Superior Court on October 31, 2014, seeking clarification as to its legal rights and return of its assets. (Id. ¶ 18.)
On February 13, 2015, Defendants, among others, filed a cross-complaint against Montage, Insite, and affiliates. (Id. ¶ 20.) Plaintiffs allege that the filing of the cross-complaint "was a repudiation and breach of the Subordination Agreement and was further cause of a default on the Secured Promissory Note and the LSA owned by Montage and to which Defendants, and each of them, were subordinated by contractual obligation, fiduciary duty, and applicable law." (Id.) Montage, in turn, was forced to incur substantial legal fees and costs, had to sell debt for a fraction of its worth, and gave "notice to the investors in Montage that write-down[s] had occurred of over $800,000 on their investment in Montage[,] reflecting a small portion of the damages Montage has actually suffered." (Id. ¶ 21.) Plaintiff asserts that it is the assignee of the claims arising out of the damages to Montage. (Id. ¶ 4.)
Plaintiff commenced this action on December 4, 2015. (Compl., Dkt. No. 1.) Defendants filed a motion to dismiss on December 23, 2015. (Defs.' Mot., Dkt. No. 7.) Plaintiff filed a response to the motion on January 6, 2016, and on January 19, 2016, Plaintiff filed an amended complaint, asserting claims for breach of contract, tortious interference with contract, and declaratory relief. (Pl.'s Opp'n, Dkt. No. 10; FAC ¶¶ 22-26, 27-33.) Defendants then filed a second motion to dismiss on February 2, 2016. (Defs.' Mot., Dkt. No. 13.) Because it appeared that Defendants were treating the amended complaint as the operative complaint, the Court terminated the motion filed on December 23, 2015. (Feb. 3, 2016 Order, Dkt. No. 15.) Plaintiff filed its opposition to the instant motion to dismiss on February 16, 2016. (Pl.'s Opp'n, Dkt. No. 16.) Defendants' reply followed on February 23, 2016. (Defs.'s Reply, Dkt. No. 17.) The Court held a hearing on the motion on April 7, 2016.
Under Federal Rule of Civil Procedure 12(b)(6), a party may file a motion to dismiss based on the failure to state a claim upon which relief may be granted. A motion to dismiss under Rule 12(b)(6) tests the legal sufficiency of the claims asserted in the complaint. Navarro v. Block, 250 F.3d 729, 732 (9th Cir. 2001).
In considering such a motion, a court must "accept as true all of the factual allegations contained in the complaint," Erickson v. Pardus, 551 U.S. 89, 94 (2007) (per curiam) (citation omitted), and may dismiss the case or a claim "only where there is no cognizable legal theory" or there is an absence of "sufficient factual matter to state a facially plausible claim to relief." Shroyer v. New Cingular Wireless Servs., Inc., 622 F.3d 1035, 1041 (9th Cir. 2010) (citing Ashcroft v. Iqbal, 556 U.S. 662, 677-78 (2009); Navarro, 250 F.3d at 732) (internal quotation marks omitted).
A claim is plausible on its face when a plaintiff "pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged." Iqbal, 556 U.S. at 678 (citation omitted). In other words, the facts alleged must demonstrate "more than labels and conclusions, and a formulaic recitation of the elements of a cause of action will not do." Bell Atl. Corp. v. Twombly, 550 U.S. 544, 555 (2007).
"Threadbare recitals of the elements of a cause of action" and "conclusory statements" are inadequate. Iqbal, 556 U.S. at 678; see also Epstein v. Wash. Energy Co., 83 F.3d 1136, 1140 (9th Cir. 1996) ("[C]onclusory allegations of law and unwarranted inferences are insufficient to defeat a motion to dismiss for failure to state a claim."). "The plausibility standard is not akin to a probability requirement, but it asks for more than a sheer possibility that a defendant has acted unlawfully . . . When a complaint pleads facts that are merely consistent with a defendant's liability, it stops short of the line between possibility and plausibility of entitlement to relief." Iqbal, 556 U.S. at 678 (quoting Twombly, 550 U.S. at 557) (internal citations omitted).
Generally, if the court grants a motion to dismiss, it should grant leave to amend even if no request to amend is made "unless it determines that the pleading could not possibly be cured by the allegation of other facts." Lopez v. Smith, 203 F.3d 1122, 1127 (9th Cir. 2000) (citations omitted).
To state a breach of contract claim under California law, a plaintiff must establish "(1) the existence of a contract; (2) performance by the plaintiff; (3) breach by the defendant; and (4) damage resulting from breach." Reichert v. Gen. Ins., 68 Cal.2d 822, 830 (1968).
Here, Plaintiff alleges that Defendants entered into a subordination agreement with Montage, that Defendants breached the agreement by filing a cross-complaint in state court and supporting Rossmann's efforts to seize control of Insite, that Montage performed its obligations under the agreement, and that the material breaches by Taylor, Jackson, and Mandel have caused Plaintiff to suffer damages in excess of $800,000. (FAC ¶¶ 22-26.)
Plaintiff's breach of contract claim rests on the provision of the subordination agreement that contains the following language: "nor will such Creditor . . . commence, or cause to commence, prosecute or participate in any administrative, legal or equitable action against Borrower." (Id. ¶ 15.)
Defendants challenge the third element of Plaintiff's breach of contract claim, that is, whether the filing of the cross-complaint constitutes a breach of the subordination agreement. (Defs.' Mot. at 7.) Defendants argue that the above provision of the agreement bars actions to enforce the subordinated debt, not all actions outright. (Id.) Based on this reading, Defendants contend that the filing of a cross-complaint in state court does not constitute a breach of the subordination agreement, and as such, is not a viable basis for Plaintiff's breach of contract claim.
In its opposition, Plaintiff argues that the clause barring legal actions is clear such that "no claims may be brought because they will harm Insite and prevent payment of the debt, consistent with the total purpose of that agreement." (Pl.'s Opp'n at 1.)
Contract interpretation is a question of law to be determined by the court. See TRB Investments, Inc. v. Fireman's Fund Ins. Co., 40 Cal.4th 19, 27 (2006). California law makes clear that "[t]he fundamental rules of contract interpretation are based on the premise that the interpretation of a contract must give effect to the `mutual intention' of the parties." Id. The intent of the parties "at the time the contract is formed" governs, and this intent is to be ascertained, if possible, solely from the written provisions of the contract. Cal. Civ. Code §§ 1636, 1639.
"Generally subordination agreements may be classified as being one of two types: debt subordinations or property interest subordinations." Three Rivers Bank of Mont. v. North End Timber Prods., LLC (In re North End Timber Prods., LLC), Ch. 11 Case No. 06-60440-7, Adv. No. 07-00014, 2007 WL 4468706, *7 (Bankr. D. Mont. Dec. 17, 2007).
Id. at *8 (quoting In re Lantana Motel, 124 B.R. 252, 255 (Bankr. S.D. Ohio 1990)).
Consistent with the goals of such subordination agreements, the parties' agreement contained the following recitals:
(Defs.' Mot., Ex. A at 1.) As Defendants argue, these recitals reflect the general intent of the subordination agreement—prioritizing Insite's debt and obligations to Montage over Insite's debt and obligations to the other creditors (including Defendants). (Defs.' Mot. at 9.)
Plaintiff's proposed interpretation of the subordination agreement is an improper attempt to reformulate the parties' intent. Under Plaintiff's reading of the agreement, "[n]othing in the Subordination Agreement bars any claims by anyone—it simply requires such claims to be put on hold until the Secured Debt has been paid." (Pl.'s Opp'n at 2.) Adopting this reading, however, requires the Court to expand the purpose of the agreement, and necessarily, the definition of Subordinated Debt, to include actual and potential claims that may be asserted against Insite, irrespective of whether the claim concerned a debt or security interest, such that the cross-complaint Defendants filed in state court would constitute the type of "administrative, legal or equitable action" contemplated by paragraph 3. This Court declines to transform the creditors' agreement that "they would delay and defer any rights they have to monies from Insite until after the senior, secured debt was paid," see Pl.'s Opp'n at 1, into an agreement to delay and defer any rights (even if unrelated to the collection of the subordinated debt) to seek redress for wrongful conduct.
As Plaintiff concedes, "the first three clauses are more specific in reference to collections of the new debt":
(Pl.'s Opp'n at 2, Defs.' Mot., Ex. A at 1.) The Court cannot simply ignore these first three clauses in interpreting the meaning of the fourth clause, which provides: "nor will such Creditor . . . commence, or cause to commence, prosecute or participate in any administrative, legal or equitable action against Borrower." (Defs.' Mot., Ex. A at 1.) Rather, "[t]he whole of a contract is to be taken together, so as to give effect to every part, if reasonably practicable, each clause helping to interpret the other." Cal. Civil Code § 1641. Thus, this Court reads the fourth clause as prohibiting a creditor from commencing any administrative, legal or equitable action against the Borrower concerning the Subordinated Debt, a term which the agreement expressly defines as "all of Borrower's [Insite's] indebtedness and obligations to such Creditor, whether presently existing or arising in the future," and not any and all potential claims Creditor may have against Insite.
At the hearing, however, Plaintiff suggested two new theories for its breach of contract claim that were not alleged in the complaint and were not briefed in the opposition to Defendants' motion to dismiss. First, Plaintiff argued that Defendants breached the subordination agreement by failing to obtain Montage's consent prior to filing suit. Assuming that the subordination agreement requires such consent, Plaintiff may be able to allege facts that, if true, would show that Defendants breached the agreement by not obtaining such consent. Second, Plaintiff argued that the cross-complaint is the functional equivalent of an action to collect on Defendants' subordinated debt. If Plaintiff can allege facts establishing that the cross-complaint constitutes such an action, it may have a viable basis for its breach of contract claim.
Accordingly, Plaintiff's breach of contract claim is DISMISSED WITH LEAVE TO AMEND.
The elements of a tortious interference with contract claim are: "(1) a valid contract between plaintiff and a third party; (2) defendant's knowledge of the contract; (3) defendant's intentional acts designed to induce breach or disruption of the contract; (4) actual breach or disruption; and (5) resulting damage." Name.Space, Inc. v. Internet Corp. for Assigned Names & Numbers, 795 F.3d 1124, 1133 (9th Cir. 2015).
Plaintiff alleges that Defendants were aware of the loan security agreement, that the agreement required that there be no changes to "c" level management, and that Defendants made performance of the agreement more expensive and difficult by supporting the attempt to oust Insite's CEO. (FAC ¶¶ 27-29.) Plaintiff further alleges that Defendants intended to disrupt the performance of the loan security agreement and knew that such disruption was certain or substantially certain to occur. (Id. ¶ 30.)
Defendants argue that Lesa's claim for intentional interference with contract must be dismissed. (Defs.' Mot. at 4.) Defendants specifically contend that the claim is personal to Montage, the aggrieved party, and Lesa, though the assignee of the claim, is not the real party in interest. (Id.) It moves for dismissal of the claim on this ground. (Id.)
Relying on California Civil Code § 954, which provides that "[a] thing in action, arising out of the violation of a right of property, or out of an obligation, may be transferred by the owner[,]" Plaintiff asks that Defendants' motion be denied. (Pl.'s Opp'n at 3.) It offers three arguments in support. First, Plaintiff argues that "the mere fact that Defendants could not cite authority to support the argument that interference claims are not assignable defeats their argument of non-assignability."
The general rule of assignability set forth in California Civil Code § 954 applies to causes of action such as breach of contract or damages to personal or real property. Martin v. Bridgeport Cmty. Ass'n, Inc., 173 Cal.App.4th 1024, 1032 (2009). "Exceptions to the general rule of assignability under section 954 are choses in action for wrongs done to the person, the reputation or the feelings of the injured party, and to contracts of a purely personal nature." Id. These include "slander, assault and battery, negligent personal injuries, criminal conversation, seduction, breach of marriage promise, malicious prosecution, and others of like nature." Reichert, 68 Cal. 2d at 834. With this framework in mind, the Court must decide whether a cause of action for tortious interference with contract may be assigned. This turns on whether it is a wrong of a purely personal nature. See id.
Defendants would have the Court classify a claim for tortious interference with contract as a wrong of a purely personal nature. (Defs.' Mot. at 5.) To support their position, Defendants cite Applied Equipment Corporation v. Litton Saudi Arabia Limited, 7 Cal.4th 503, 515 (1994). In that case, the California Supreme Court held that a contracting party cannot be held liable in tort for conspiracy to interfere with its own contract. Id. at 507. In reaching that holding, the Court acknowledged, "California recognizes a cause of action against noncontracting parties who interfere with the performance of a contract. It has long been held that a stranger to a contract may be liable in tort for intentionally interfering with the performance of the contract." Id. at 513 (citation and quotations omitted). "In this way, the expectation that the parties will honor the terms of the contract is protected against officious intermeddlers." Id. (citation and quotations omitted). The Court clarified that:
Id. at 514.
This duty, Defendants argue, "is similar to the non-assignable tort of malicious prosecution." (Defs.' Mot. at 5.) According to Defendants, "[m]alicious prosecution involves a duty not to bring an action against a person without probable cause and in bad faith." (Id.) Defendants also argue that this duty is "similar to the non-assignable tort of fraud[, which] involves a duty not to make misrepresentations of fact that are intended to, and do, result in the detrimental reliance of the person to whom the fraud is directed." (Id.)
Defendants' attempt to analogize these causes of action to Plaintiff's claim for tortious interference with contract fails. The case law discussing the rationale behind the nonassignability of a different claim, legal malpractice, illustrates why.
"California courts have consistently held legal malpractice claims are nonassignable to protect the integrity of the uniquely personal and confidential attorney-client relationship." Fireman's Fund Ins. Co. v. McDonald, Hecht & Soldberg, 30 Cal.App.4th 1373, 1383 (1994). "The attorney-client relationship (although containing contractual elements) is unique and involves a highly personal and confidential relationship, making the relationship more analogous to a contract of a personal nature than to an ordinary commercial contract, and rendering claims for negligent breach thereof nonassignable." Id. at 1381-82 (internal quotations, citations, and modifications omitted). Thus, "although choses in action for property or pecuniary losses are generally assignable, a claim for legal malpractice is more akin to those types of claims which are not assignable, i.e., claims for personal injury, wrongs of a purely personal nature (such as injuries to the reputation or feelings of the injured party) or breaches of contracts of a purely personal nature (such as promises of marriage)." Id. at 1381. As one appellate court explained in the seminal decision on the nonassignability of legal malpractice claims:
Goodley v. Wank & Wank, Inc., 62 Cal.App.3d 389, 397 (1976).
A stranger's duty not to interfere with a contract between two other parties is more attenuated than the duty a lawyer owes to his client. Along these lines, the policy considerations underpinning the rule of nonassignability of legal malpractice claims are not implicated here.
The Court must now consider how Plaintiff's prayer for punitive damages factors into the analysis. In its opposition, Plaintiff describes its claim for tortious interference with contract as one that "does not seek personal or emotional damages, but economic damages." (Pl.'s Opp'n at 4.) It relies on Timed Out, LLC v. Youabian, Inc., 229 Cal.App.4th 1001 (2014) for the proposition that a claim involving purely pecuniary interests are assignable. (Pl.'s Opp'n at 4.) Plaintiff asserts that it, like the plaintiffs in Timed Out, "seeks economic damages related to pecuniary interests, namely the harm done to the contractual relationship between Insite and its secured creditor."
This characterization does not save Plaintiff's prayer for punitive damages associated with tortious interference. Punitive damages, however, are a type of relief, not a cause of action in itself. Defendants argue that Plaintiff's prayer for punitive damages reflects the personal nature of Plaintiff's claim for intentional interference with contract. (Defs.' Mot. at 6; Defs.' Reply at 5 n.1.) Not so. At least in the context of damages arising from a claim for breach of the covenant of good faith and fair dealing, claims for punitive damages are unassignable even when the underlying claim can be assigned. Murphy v. Allstate Ins. Co., 17 Cal.3d 937, 942 (1976). Courts have applied this principle to acknowledge the general rule favoring assignment of claims but also to prevent an assignee from seeking punitive damages. See Dorroh v. Deerbrook Ins. Co., 612 Fed. App'x 424, 426 (9th Cir. 2015) (bankruptcy trustee could only transfer economic aspect of debtor's bad faith claim against insurer); GATX/Airlog Co. v. Evergreen Int'l Airlines, Inc., 52 Fed. App'x 940, 942 (9th Cir. 2002) (assignee could not seek punitive damages "under California law, which bars the assignment of claims for punitive damages"); Drazan v. Atlantic Mut. Ins. Co., No. C 10-01371 SI, 2010 WL 2629576, at *4 (N.D. Cal. June 29, 2010) (plaintiffs asserting claims for breach of contract, breach of the implied covenant of good faith and fair dealing, fraud, and unfair competition could not recover punitive damages as assignees); McColm v. Foremost Ins. Co., No. C 09-04132 SI, 2010 WL 1691681, at *2 (N.D. Cal. Apr. 23, 2010) (assignees' claims for punitive damages and emotional distress failed as a matter of law); Ham v. Cont'l Ins. Co., No. 08-1551 S.C. 2008 WL 4287563, at *3 (N.D. Cal. Sept. 17, 2008) ("It is undisputed, and Plaintiffs do not argue otherwise, that under California law, punitive damages may not be assigned."). The Court follows these decisions here. Therefore, while Plaintiff may assert Montage's claim for tortious interference with contract as an assignee, Plaintiff may not recover punitive damages in that capacity.
Accordingly, Plaintiff's prayer for punitive damages is dismissed.
Plaintiff alleges a claim for declaratory relief as its third and final cause of action. (FAC ¶ 34-37.) It seeks a declaration as to the parties' rights and obligations under the subordination agreement and the loan and security agreement. (Id. ¶ 35.)
Defendants argue that Plaintiff's claim for declaratory relief is moot because its first two claims for relief are subject to dismissal for failure to state a claim upon which relief can be granted. (Defs.' Mot. at 11.) As discussed above, however, Plaintiff is granted to leave amend its breach of contract claim, and Plaintiff's tortious interference with contract claim survives the instant motion. Accordingly, Defendants' motion to dismiss Plaintiff's claim for declaratory relief is DENIED.
For the reasons set forth above, Defendants' motion to dismiss is GRANTED IN PART AND DENIED IN PART. Plaintiff's breach of contract claim is DISMISSED WITH LEAVE TO AMEND. Plaintiff's claim for punitive damages is DISMISSED WITHOUT LEAVE TO AMEND. Defendants' motion is otherwise DENIED. Plaintiff shall file its amended complaint within 14 days.
