Corporations Code Section 25401 is the general anti-fraud provision of the Corporate Securities Law of 1968. Section 25504.1 makes a person jointly and severally liable for a violation of Section 25401 if that person “materially assist in [the] violation of Section . . . 25401 . . . with the intent to deceive or defraud”. Does this mean that a person is liable if she provided material assistance in a larger scheme to defraud but had no role in the violation of Section 25401? Yesterday, the First District Court of Appeal said “no”. AREI II Cases, Cal. Ct. Appeal Case No. A130447 (May 29, 2013).

The plaintiffs in AREI II purchased from Asset & Real Estate Investment (AREI) Company tenancy in common (aka TIC) interests in a senior housing facility. AREI allegedly violated Section 25401 by failing to disclose that its sole owner was a convicted felon and concealing the fact that the property was grossly over leveraged. The defendant was an investment banking firm that had structured financing for AREI. The trial court sustained the investment banker’s demurrer because “[p]laying an instrumental role in these legitimate transactions between seller and lenders did not involve [the investment banker] in materially assisting ARIA in the violation“ (emphasis in the original). Justice William R. McGuiness writing for the Court of Appeal agreed, holding that because the complaint did not allege that the investment banker had materially assisted in the securities law violation, it failed to state a cause of action under Section 25504.1.

The investment banker also argued that there could be no cause of action under Section 25504.1 because there was no privity between the plaintiffs and itself. Readers of this blog will recall that the Courts of Appeal are split on this issue. See Second DCA Takes Issue With Fourth DCA Over Privity. The First District Court of Appeal declined to weigh in because of its interpretation of Section 25504.1 and because the plaintiffs had disposed of their TIC interests.

The case isn’t over, however, because the Court of Appeal held that the complaint was sufficient to support a cause of action for common-law fraud based upon a conspiracy theory.