Recently, I had a client who was involved in several real estate investment ventures that did not result in the returns he was promised when his investments were solicited. Upon closer examination, after we demanded an inspection of the books and records of the company, these were not just a few bad investments – they were something much more nefarious. He was induced to invest with promises of returns and plenty of collateral to secure his investments, however the returns never came, his investments were funneled to another entity, and the collateral securing his investments was fraudulent or worthless. To make matters worse, the individual selling the investments had done the same thing to several other individual and trust investors across the Southeast. In these instances, North Carolina law provides for a private, direct cause of action for securities fraud against the inducing offeror/seller and, in some instances, his colleagues and company.
Direct Cause of Action
When a defrauded investor alleges that a fraudulent misrepresentation induced him to invest, he has a direct cause of action against the inducing offeror/seller, as opposed to a derivative claim in the right of the company. This is because the injury suffered is unique to the investor, rather than an injury to the company (like fiduciary duty claims), and because the misrepresentation occurred before the investor gained an interest in the company. The common law principles of agency also provide a claim against the company if the inducing offeror/seller was an officer, director, or manager of the company – the company (the principal) is liable for the actions of the offeror/seller (its agent).
Primary versus Secondary Liability
North Carolina General Statutes Chapter 78A provides two different roads for pursuing a direct securities fraud claim: (1) primary liability; and (2) secondary liability. Primary liability pertains to the offeror/seller himself for making the untrue or misleading statement(s) when selling the security (the investor’s interest in the company). Secondary liability can be imposed on those who have control over the offeror/seller and those who aided him. Primary liability against the offeror/seller must be proven before secondary liability can be proven against other officers, directors, partners, or managers of the company.
Avoiding Liability for Securities Fraud
Both primary and secondary liability for securities fraud can be avoided by showing that the defendants did not know, and with reasonable effort could not have known, the existence of the facts which gave rise to liability. However, in cases where fraud is the crux of the investment, it would be difficult for the offeror/seller to avoid liability.
If you suspect that you may have fallen victim to a similar scheme, it is important to demand an inspection of the company’s books and records to assess the state of the company’s financials and ascertain what has become of your investment. Contact a business litigation attorney with experience in these sorts of cases to assist you in moving forward.