Ferry v. DF Growth REIT, LLC

• Court: District Court, S.D. California
• Decided: March 26, 2024
• Docket: 3:22-cv-02001
• Status: Unknown

Opinion

1 2 3 4 5 6 7 8 UNITED STATES DISTRICT COURT 9 SOUTHERN DISTRICT OF CALIFORNIA 10 11 MARK FERRY, VALERIE Case No.: 22-cv-02001-AJB-VET HAMERLING, IGOR KOROSTELEV 12 and RYAN KRAUSE, on behalf of ORDER GRANTING DEFENDANTS’ 13 themselves and all others similarly MOTION TO DISMISS WITH situated, LEAVE TO AMEND 14

15 Plaintiffs, (Doc. No. 14)

16 v. 17 DF GROWTH REIT, LLC, 18 DF GROWTH REIT II, LLC, 19 DIVERSYFUND, INC., CRAIG CECILIO, and ALAN LEWIS, 20

21 Defendants. 22 23 24 25

26 Before the Court is DF Growth REIT, LLC, DF Growth REIT II, LLC, DiversyFund, 27 Inc., Craig Cecilio, and Alan Lewis’s (collectively, “Defendants”) motion to dismiss Mark 28 1 Ferry, Valerie Hamerling, Igor Korostelev, and Ryan Krause’s (collectively, “Plaintiffs”) 2 First Amended Complaint (“FAC”) pursuant to Federal Rules of Civil Procedure (“Rule”) 3 12(b)(1) and 12(b)(6). (Doc. No. 14.)1 The motion is fully briefed. (Doc. Nos. 16. 17.) For 4 the reasons set forth below, the Court GRANTS Defendants’ motion to dismiss with leave 5 to amend. 6 I. BACKGROUND2 7 This is a putative securities fraud class action brought by Plaintiffs against 8 Defendants: DF Growth REIT, LLC (“REIT I), DF Growth REIT II (“REIT II”), LLC, 9 DiversyFund, Inc. (“DiversyFund”), Craig Cecilio (“Cecilio”), and Alan Lewis (“Lewis”). 10 The FAC is the operative complaint. According to the FAC, REIT I and REIT II are 11 “blind pool” companies that invest the proceeds of their securities offerings in real estate 12 projects. REIT I’s and REIT II’s offerings are permitted under SEC Regulation A, which 13 allows companies to offer and sell securities to the public without having to register the 14 offerings with the SEC so long as the issuer fully complies with the regulation’s 15 requirements. REIT I offered such securities from 2018 to November 2021. REIT II offered 16 such securities from August 2020 into 2022. 17 DiversyFund serves as the sponsor of REIT and REIT II and owns 100% of REIT I 18 and REIT II’s manager, DF Manager, LLC (“DF Manager”).3 Cecilio and Lewis founded 19 and own DiversyFund. They also co-own DF Manager. Cecilio is the Chief Executive 20 Officer of DiversyFund and DF Manager. Lewis is the Chief Investment Officer of REIT 21 I, REIT II, DiversyFund, and DF Manager. Plaintiffs allege that Cecilio and Lewis have 22 complete de facto control of REIT I and REIT II. 23

24 1 In their motion to dismiss, Defendants also request that in the event the Court allows Plaintiffs to amend the FAC, the Court should “strike and disallow in any amendment certain time-barred or otherwise futile 25 matters.” (Doc. No. 14 at 9.) 26 2 The following facts are taken from the FAC and assumed true for purposes of this motion. See Cahill v. 27 Liberty Mut. Ins. Co., 80 F.3d 336, 337–38 (9th Cir. 1996).

28 1 The FAC raises two causes of action under the California Corporations Code. (Id.) 2 Plaintiffs allege that REIT I and REIT II violated Section 25401 of the California 3 Corporations Code “by making statements of material fact regarding (i) the 4 interdependency between REIT I and REIT II; (ii) the fees charged by REIT I and REIT 5 II; (iii) the background of management; and (iv) REIT I and REIT II’s lack of a need to 6 raise a minimum amount of capital.” 7 As to interdependency, Plaintiffs claim that REIT I and REIT II misrepresented 8 themselves as separate investment vehicles because “if REIT II did not co-invest in certain 9 real estate deals alongside REIT I, the deals will fall through and REIT I will suffer a loss.” 10 As to fees charged, Plaintiffs allege that REIT I and REIT II represented that there would 11 be no management fees even though REIT II did collect such fees, and that REIT I and 12 REIT II were subject to developer and acquisition fees in excess of what was represented. 13 As to the management’s background, Plaintiffs claim that REIT I and REIT II 14 misrepresented their management’s expertise by failing to disclose certain SEC 15 investigations, as well as the California’s Bureau of Real Estate’s (“BRE”) regulatory 16 sanctions against Cecilio in 2017. As to the no-minimal-capital-amount misrepresentation, 17 Plaintiffs allege that REIT II represented to investors that there was no minimum amount 18 that it needed to raise even though it needed to raise more than $10 million to be viable. 19 The second cause of action is against DiversyFund, Cecilio, and Lewis. Plaintiffs 20 allege that DiversyFund, Cecilio, and Lewis are each jointly and severally liable as control 21 persons under Section 25504 of the California Corporations Code because they materially 22 aided in REIT I’s and REIT II’s Section 25401 violations. 23 II. LEGAL STANDARD 24 A. Rule 12(b)(1) 25 A motion to dismiss pursuant to Rule 12(b)(1) tests whether the court has subject 26 matter jurisdiction. Lack of Article III standing requires dismissal for want of subject 27 matter jurisdiction. Maya v. Centex Corp., 658 F.3d 1060, 1067 (9th Cir. 2011). To 28 establish Article III standing, a plaintiff must show (1) an injury in fact, (2) that is fairly 1 traceable to the defendant’s challenged action; and (3) that is likely to be redressed by a 2 favorable decision. Id. 3 “A Rule 12(b)(1) jurisdictional attack may be facial or factual.” Safe Air for 4 Everyone v. Meyer, 373 F.3d 1035, 1039 (9th Cir. 2004).4 “In a facial attack, the challenger 5 asserts that the allegations contained in a complaint are insufficient on their face to invoke 6 federal jurisdiction.” Id. The court “resolves a facial attack as it would a motion to dismiss 7 under Rule 12(b)(6): accepting the plaintiff’s allegations as true and drawing all reasonable 8 inferences in the plaintiff's favor, the court determines whether the allegations are sufficient 9 as a legal matter to invoke the court’s jurisdiction.” Leite v. Crane Co., 749 F.3d 1117, 10 1121 (9th Cir. 2014). 11 B. Rule 12(b)(6) 12 A motion to dismiss pursuant to Rule 12(b)(6) tests the legal sufficiency of the 13 complaint. Navarro v. Block, 250 F.3d 729, 732 (9th Cir. 2001). “To survive a motion to 14 dismiss, a complaint must contain sufficient factual matter, accepted as true, to ‘state a 15 claim to relief that is plausible on its face.’” Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009) 16 (citation omitted). Facial plausibility is satisfied “when the plaintiff pleads factual content 17 that allows the court to draw the reasonable inference that the defendant is liable for the 18 misconduct alleged.” Id. To determine the sufficiency of the complaint, the court must 19 assume the truth of all factual allegations and construe them in the light most favorable to 20 the plaintiff. Cahill v. Liberty Mut. Ins. Co., 80 F.3d 336, 337–38 (9th Cir. 1996). Although 21 a court must take all factual allegations in a complaint as true, it is not required to accept 22 conclusory statements. Iqbal, 556 U.S. at 678. 23 III. DISCUSSION 24 Defendants move the Court to dismiss the entirety of the FAC, arguing that: (A) 25 Plaintiffs have failed to allege Article III standing because Plaintiffs have not pled any 26

27 4 Unless otherwise indicated, internal citations, quotation marks, and alterations are omitted from the case 28 1 injuries resulting from the alleged statutory violations; and (B) Plaintiffs fail to state their 2 Section 25401 claims because they are time-barred and implausible. 3 A. Rule 12(b)(1) – Lack of Article III Standing 4 Article III of the Constitution “confines the federal judicial power to the resolution 5 of ‘Cases’ and ‘Controversies.’ TransUnion LLC v. Ramirez, 594 U.S. 413, 423 (2021). 6 Article III standing to sue “is a doctrine rooted in the traditional understanding of a case or 7 controversy.” Spokeo, Inc. v. Robins, 578 U.S. 330, 338 (2016). The doctrine developed 8 “to ensure that federal courts do not exceed their authority as it has been traditionally 9 understood.” Id. The Supreme Court has explained the ‘“irreducible constitutional 10 minimum’ of standing consists of three elements.” Id. A plaintiff must have (1) suffered 11 an injury in fact, (2) that is fairly traceable to the challenged conduct of the defendant, and 12 (3) that is likely to be redressed by a favorable judicial decision. Id. At the pleading stage, 13 “the plaintiff must clearly allege facts demonstrating each element.” Id. Moreover, 14 “standing is not dispensed in gross; rather, plaintiffs must demonstrate standing for each 15 claim that they press and for each form of relief that they seek (for example, injunctive 16 relief and damages).” TransUnion LLC, 594 U.S. at 431. “[T]he risk of future harm on its 17 own does not support Article III standing for [a] plaintiffs’ damages claim.” Id. at 441. 18 At issue is whether Plaintiffs have alleged an “injury in fact”, the “first and foremost 19 of standing’s three elements.” Spokeo, 578 U.S. at 338. “To establish injury in fact, a 20 plaintiff must show that he or she suffered ‘an invasion of a legally protected interest’ that 21 is ‘concrete and particularized’ and ‘actual or imminent, not conjectural or hypothetical.”” 22 Id. at 339 (quoting Lujan v. Defs. of Wildlife, 504 U.S. 555, 560 (1992)). Defendants 23 contend that Plaintiffs have not pled injuries resulting from each of the alleged statutory 24 violations. In response, Plaintiffs argue that they have “properly plead damages and other 25 actionable injuries throughout the FAC” and refer to paragraphs 6, 46, 64, 65, 66, and 159 26 of the FAC. (Doc. No. 16 at 22–25.) 27 To begin, the Court finds that Plaintiffs’ citation to paragraphs 6 and 159 of the FAC 28 are unavailing. Paragraph 6 alleges that Plaintiffs purchased securities at various times, and 1 paragraph 159 alleges: “As a result of the sale of REIT I and REIT II securities to the 2 Plaintiffs and the Class by means of written and oral untrue statements of material fact, and 3 omissions of material fact, Defendants REIT I and REIT II are each liable to Plaintiffs 4 under § 25501 of the Cal. Corp. Code.” (Doc. No. 13 at ¶¶ 6, 159.) These allegations do 5 not establish an injury in fact. They allege merely that statutory violations occurred. The 6 Supreme Court “has rejected the proposition that ‘a plaintiff automatically satisfies the 7 injury-in-fact requirement whenever a statute grants a person a statutory right and purports 8 to authorize that person to sue to vindicate that right.’” TransUnion, 594 U.S. at 426 9 (quoting Spokeo, 578 U.S. at 341). A bare allegation of a statutory violation, “divorced 10 from any concrete harm,” is not enough to establish injury in fact.5 Spokeo, 578 U.S. at 341 11 (“Article III standing requires a concrete injury even in the context of a statutory 12 violation.”). 13 1) Misrepresentation re Separateness of REIT I and REIT II and No 14 Minimum Capital Amount Required 15 Next, paragraphs 64, 65, and 66 concern Plaintiffs’ alleged misrepresentations 16 concerning the separateness of REIT I and REIT II and REIT II’s representation that there 17 would be no minimum amount required to meet capital needs. The allegations state that 18 “the loss of REIT II’s ability to raise funds pursuant to Regulation A ‘will cause significant 19 and irreparable harm to DiversyFund and their 30,000 investors’ including investors in 20 both REIT I and REIT II.” (Doc. No. 13 at ¶ 65 (quoting Lewis’ court filing in the petition 21 to stay the SEC’s order temporarily disqualifying REIT II’s Regulation A exemption).) The 22

23 5 Plaintiffs also appear to argue that they need not satisfy Article III standing because a Section 25401 24 violation does not require proof of reliance or causation. (Doc. No. 16 at 12–13, 23.) The argument is without merit. Article III standing is a constitutional—not statutory—requirement to bring a claim in 25 federal court. As the party invoking federal jurisdiction, Plaintiffs bear the burden of demonstrating 26 constitutional standing to bring their claims in this court. See TransUnion, 594 U.S. at 430–31. The elements of Plaintiffs’ statutory claims are irrelevant to the Court’s Article III’s standing analysis. See 27 Spokeo, 578 U.S. at 339 (“Injury in fact is a constitutional requirement, and it is settled that Congress cannot erase Article III’s standing requirements by statutorily granting the right to sue to a plaintiff who 28 1 FAC also contains allegations that indicate that harm “would befall REIT II and its 2 investors (closure of the business and losses to all investors) if it were unable to continue 3 to raise additional funds in reliance on its Regulation A exemption.” (Id. at ¶ 68.) 4 While these allegations reveal a risk of future harm, the Supreme Court has 5 explained that the mere risk of future harm, without more, does not suffice to demonstrate 6 Article III standing in a suit for damages. TransUnion, 594 U.S. at 437. As Plaintiffs do 7 not allege that that the risk of loss due to the alleged misrepresentations has materialized, 8 they have not established a concrete harm. See id. at 436 (“If the risk of future harm 9 materializes and the individual suffers a concrete harm, then the harm itself, and not the 10 pre-existing risk, will constitute a basis for the person’s injury and for damages. If the risk 11 of future harm does not materialize, then the individual cannot establish a concrete harm 12 sufficient for standing.” (emphasis in original)). Thus, the Court finds Plaintiffs have not 13 satisfied Article III standing to bring these claims. 14 2) Misrepresentation re Excessive Developer and Acquisition Fees 15 Turning to paragraph 46, that allegation states that “REIT I and REIT II made 16 incomplete partial disclosures concerning the right of DiversyFund to collect acquisition 17 and developer fees when the REITs acquired interests in property” and that “DiversyFund 18 then collected exorbitant acquisition fees that appear to have exceeded what Defendants 19 had represented DiversyFund would collect from REIT I and REIT II.” (Doc. No 13 at 20 ¶ 46.) 21 The Court finds (and Defendants concede) that Plaintiffs have adequately pled an 22 injury in fact with respect to the exorbitant fees misrepresentation because Plaintiffs were 23 charged more money than what REIT I and REIT II represented. Plaintiffs have thus 24 demonstrated monetary harm flowing from this alleged wrongdoing. Because Plaintiffs 25 have alleged that they suffered monetary harm (a recognized concrete injury) that is 26 traceable to REIT I’s and REIT II’s conduct and can likely be redressed by a favorable 27 decision, they have satisfied Article III standing to bring this claim. 28 1 3) Misrepresentation re No Management Fees 2 Similarly, with respect to the claim that REIT II misrepresented that there would be 3 “no management fees”, Plaintiffs have sufficiently pled standing because they allege that 4 “DiversyFund collected management fees from REIT II.” (Doc. No. 13 at ¶ 80.) Because 5 the FAC indicates that Plaintiffs were charged management fees even though REIT II 6 represented they would not, Plaintiffs have demonstrated a recognized concrete injury 7 (monetary harm), that is traceable to REIT II’s conduct and can likely be redressed by a 8 favorable decision. Accordingly, Plaintiffs have satisfied Article III standing to bring this 9 misrepresentation claim against REIT II. 10 Although Plaintiffs allege that REIT I also misrepresented that there would be no 11 management fees, the FAC is silent as to whether any such fees were, in fact, ever collected 12 from REIT I. Because the risk of future harm on its own does not support Article III 13 standing for damages, Plaintiffs have not established a concrete harm from this alleged 14 misrepresentation. See TransUnion, 594 U.S. at 441. Accordingly, Plaintiffs do not have 15 Article III standing to bring the no-management-fees claim against REIT I. 16 4) Misrepresentation re Management’s Background and Expertise 17 Lastly, as to the alleged misrepresentations about the management’s background and 18 expertise, Plaintiffs raise no argument and point to no allegations showing that they 19 suffered an injury in fact resulting from the failure to disclose the SEC’s investigations or 20 Cecilio’s 2017 BRE sanctions. As Plaintiffs allege no concrete harm resulting from these 21 alleged wrongdoings, the Court finds they have failed to establish Article III standing for 22 these claims. 23 * * * 24 Based on the foregoing, the Court finds Plaintiffs have not sufficiently alleged an 25 injury in fact as to their alleged misrepresentation about the separateness of REIT I and 26 REIT II, no minimum amount required to meet capital needs for REIT II, no management 27 fees for REIT I, and management’s background and expertise. See Spokeo, 578 U.S. at 338 28 (“Where, as here, a case is at the pleading stage, the plaintiff must clearly allege facts 1 demonstrating each element.”). Accordingly, the Court DISMISSES these claims for lack 2 of Article III standing. 3 Because Plaintiffs have adequately pled Article III standing with respect to the 4 misrepresentations concerning excessive fees, as well as management fees for REIT II, the 5 Court does not dismiss these claims on constitutional standing grounds. As more fully 6 explained below, however, the Court dismisses the entirety of the FAC for lack of statutory 7 standing pursuant to Rule 12(b)(6). 8 B. Rule 12(b)(6) – Failure to State a Claim 9 Here, Plaintiffs allege that REIT I and REIT II violated Section 25401 and seek to 10 hold them liable in this civil action pursuant to Section 25501. (Doc. No. 13 at ¶ 159.) 11 Albeit not raised by the parties, the Court considers, as a threshold matter, whether 12 Plaintiffs’ FAC adequately alleges statutory standing. See Omar v. Sea-Land Serv., Inc., 13 813 F.2d 986, 991 (9th Cir. 1987) (“A trial court may dismiss a claim sua sponte under 14 Fed. R. Civ. P. 12(b)(6).”); Maya, 658 F.3d at 1067 (“lack of statutory standing requires 15 dismissal for failure to state a claim”). 16 Section 25401 of the California Corporations Code makes it illegal “for any person 17 to offer or sell a security in this state, or to buy or offer to buy a security in this state, by 18 means of any written or oral communication that includes an untrue statement of a material 19 fact or omits to state a material fact necessary to make the statements made, in the light of 20 the circumstances under which the statements were made, not misleading.” Cal. Corp. 21 Code § 25401. Although Section 25401 is penal in nature, the corresponding Section 25501 22 “establishes a private remedy for damages.” California Amplifier, Inc. v. RLI Ins. Co., 113 23 Cal. Rptr. 2d 915, 921 (Cal. Ct. App. 2001). Section 25501 provides that “[a]ny person 24 who violates Section 25401 shall be liable to the person who purchases a security from, or 25 sells a security to, that person, who may sue either for rescission or for damages (if the 26 plaintiff or the defendant, as the case may be, no longer owns the security).” Cal. Corp. 27 Code § 25501 (emphasis added). 28 1 In this case, Plaintiffs do not seek the remedy of rescission, but rather, damages. 2 (Doc. No. 13 at 60–61.) The allegations in the FAC, however, indicate that Plaintiffs 3 continue to own the securities at issue. (Id. at ¶ 6 (alleging that Plaintiffs invested in the 4 securities between various times “and the present”.) (See also id. at 56 (defining the class 5 as all persons who purchased REIT I and/or REIT II shares “between November 13, 2018 6 and March 16, 2022” but not including a sale or loss of ownership date.) 7 Accepting these allegations as true, it would appear Plaintiffs lack statutory standing 8 to assert their claims. Indeed, the FAC is devoid of any allegation that Plaintiffs have sold 9 or no longer own the shares they purchased from REIT I or REIT II, and the Court cannot 10 assume facts not alleged. See Assoc. Gen. Contractors of California, Inc. v. Cal. State 11 Council of Carpenters, 459 U.S. 519, 526 (1983) (“It is not . . . proper to assume that the 12 [plaintiff] can prove facts that it has not alleged.”). Because the express language of Section 13 25501 provides a private right of action for damages only “if the plaintiff or the defendant, 14 as the case may be, no longer owns the security,” Cal. Corp. Code § 25501, and the FAC 15 contains no indication that such circumstances have occurred, Plaintiffs have not 16 adequately stated a claim for relief under the statute. See, e.g., Viterbi v. Wasserman, 123 17 Cal. Rptr. 3d 231, 237 (Cal. Ct. App. 2011) (“Thus, under section 25501, because plaintiffs 18 still own the securities at issue in this action, their sole potential remedy is rescission.”). 19 As currently pled, Plaintiffs’ FAC reveals a lack of statutory standing and thus 20 cannot give rise to a plausible claim for relief pursuant to Section 25501. Moreover, 21 because Plaintiffs have failed to adequately plead a claim for primary liability under 22 Section 25501 against REIT I and REIT II, they cannot prevail on their secondary claim 23 for control person liability under Section 25504 against DiversyFund, Cecilio, and Lewis. 24 See, e.g., Jackson v. Fischer, 931 F. Supp. 2d 1049, 1064 (N.D. Cal. 2013) (“in the absence 25 of a viable claim of primary liability, plaintiff cannot state a claim against the D & O 26 defendants for control person liability under § 25504.”) 27 Based on the foregoing, the Court sua sponte dismisses the FAC in its entirety under 28 Rule 12(b)(6) for failure to state a claim. See Omar v. Sea-Land Serv., Inc., 813 F.2d at 991 1 ||(a sua sponte dismissal under Rule 12(b)(6) “may be made without notice where the 2 |}claimant cannot possibly win relief.”) Because the Court dismisses the entirety of 3 || Plaintiffs’ FAC for lack of statutory standing, the Court need not and does not consider 4 || Defendants’ arguments that most of Plaintiffs’ claims are barred by the statute of limitation, 5 any time-barred claims should be stricken from any subsequent amendment, and that 6 || the alleged misrepresentations are immaterial and implausible. 7 CONCLUSION 8 Accordingly, for the reasons stated herein, the Court DISMISSES Plaintiffs’ FAC. 9 || Considering leave should be freely given and Plaintiffs may be able to allege additional 10 || facts to establish constitutional and statutory standing, the Court GRANTS Plaintiff 11 || LEAVE TO AMEND the FAC. 12 Plaintiff's Second Amended Complaint must be filed, along with a redline version 13 || attached, no later than April 9, 2024. Failure to file a SAC will result in dismissal of the 14 for failure to prosecute. Moreover, in accordance with Rule 1’s call “[t]o secure the 15 ||just, speedy, and inexpensive determination of every action and proceeding,” the Court 16 || DIRECTS that Plaintiffs’ SAC should address not only the constitutional and statutory 17 ||standing defects found in this Order, but also all arguments raised in Defendants’ motion 18 || to dismiss. Further, the Court directs that prior to filing any subsequent motion to dismiss, 19 |}counsel must meet and confer and discuss the intended motion, in an attempt to resolve 20 issues without court intervention, as appropriate. 21 IT IS SO ORDERED. 22 Dated: March 26, 2024 © ¢ 23 Hon, Anthony J.Battaglia 24 United States District Judge 25 26 27 28