Kovacs v. Moradi

Background

Plaintiffs David Kovacs, Russell Alesi, Julian Ducheine, and Demian Lichtenstein sued David Moradi, Carr Bettis, Jason Humble, AudioEye, Inc., and other named and unnamed defendants. The complaint asserted civil RICO, securities fraud, whistleblower retaliation under the Sarbanes-Oxley Act and Dodd-Frank Act, claims under the Employee Retirement Income Security Act (ERISA), breach of fiduciary duty, unjust enrichment, malicious prosecution, abuse of process, intentional infliction of emotional distress, and other common-law torts.

The complaint alleged that Moradi and Bettis led an enterprise involving promising companies, including AudioEye, Formulus Black, First Contact Entertainment, and Eternal Sources Tech Partners. It alleged that Kovacs refused to assist an alleged securities-fraud scheme, reported the alleged conduct, was fired, lost restricted stock units, and faced lawsuits and threats. The complaint also alleged that Humble tried to persuade Julian Ducheine to support a different account of an alleged murder-for-hire plot.

Motions to Dismiss

The court dismissed all claims asserted against AudioEye, Moradi, Bettis, and Humble. The court treated several claims as abandoned because plaintiffs did not respond to the arguments for dismissal. As to Humble, plaintiffs preserved only the civil RICO claim. As to AudioEye, Moradi, and Bettis, plaintiffs abandoned the malicious-prosecution, abuse-of-process, and various-common-law-torts claims.

The court dismissed the derivative claims asserted on behalf of AudioEye, Formulus Black, First Contact, and ESTP. A derivative claim is brought by an owner on behalf of a company. The court found that the complaint did not allege a prior demand on the companies’ boards or particularized reasons why such a demand would have been futile. The court also found additional problems with standing, abandonment, the statute of limitations, and ESTP’s certificate of cancellation.

The court held that Kovacs’s civil RICO, fiduciary-duty, unjust-enrichment, and intentional-infliction-of-emotional-distress claims against AudioEye, Moradi, and Bettis were barred by claim preclusion. Claim preclusion prevents a party from bringing a later action based on the same transaction or series of transactions when the earlier action was resolved on the merits or on claim-preclusion grounds. The court concluded that Kovacs’s prior state-court actions covered, or could have covered, the same central events, including the alleged fraud, his termination, alleged retaliation, and the seizure of his equity awards. The court also concluded that later alleged events were largely continuations of the earlier conduct and did not create new claims.

The court dismissed the securities-fraud claims under the Exchange Act. Alesi acquired AudioEye shares after the alleged fraud period and therefore was not eligible to bring the claim. As to Kovacs, the court found that the complaint alleged only equity awards received through employment and did not adequately allege that he purchased or sold securities in connection with the alleged misrepresentations. The related control-person claims were also dismissed because they depended on an underlying securities violation.

The court dismissed Kovacs’s Dodd-Frank retaliation claim because the alleged retaliatory actions occurred after his termination and were not related to his employment with AudioEye. Kovacs’s Sarbanes-Oxley retaliation claim was abandoned, and the court stated that he had not exhausted the required administrative process.

The court dismissed Kovacs’s ERISA claims because the restricted stock units were issued under equity incentive plans, not an employee benefit plan governed by ERISA. The court explained that the plans contemplated vesting during employment and were not designed to provide retirement income or welfare benefits such as health care, disability, vacation, or unemployment benefits.

Ducheine’s intentional-infliction-of-emotional-distress claim against Moradi and Bettis was dismissed as abandoned because plaintiffs’ opposition addressed only Kovacs’s claim. Kovacs’s own claim was already barred by claim preclusion.

As to Humble, the court held that a settlement release barred claims based on conduct occurring before the release’s effective date. The court then considered only the alleged later conduct. It concluded that the allegations about recording a call with Ducheine, communications about the recording, and attempts to influence Ducheine did not plausibly allege federal witness tampering. The court also found that the complaint did not allege a concrete financial injury caused by Humble’s post-release conduct. The civil RICO claim against Humble was therefore dismissed.

Leave to Amend

The court denied plaintiffs’ motion for leave to amend as to all of Kovacs’s proposed claims. It found amendment futile because the proposed civil RICO claims against AudioEye and Moradi remained precluded, the proposed claim against Humble still relied on conduct barred by the release or insufficiently alleged, and the proposed Dodd-Frank claim still did not adequately connect the alleged retaliation to employment.

The proposed amended complaint added Daniel Kovacs and attempted to address the derivative-claim problems. The court stated that adding him might resolve the standing issues and that the proposed complaint attempted to allege why a demand on the board would have been futile. The court deferred decision on leave to amend the proposed derivative claims and ordered defendants to respond only on that issue, followed by a reply period for plaintiffs.

Sanctions and Other Motions

The court denied AudioEye and Moradi’s motion for sanctions under Rule 11. Although the court criticized the tone of Kovacs’s recorded statements and cautioned Kovacs and his counsel that their conduct came close to being sanctionable, it found that the claims were not entirely frivolous and that the legal positions did not have no chance of success.

The court denied plaintiffs’ motions to file deposition transcripts and to compel AudioEye to retain separate, unconflicted counsel. It also ordered plaintiffs to state within fourteen days whether good cause existed for failing to serve the remaining named and unnamed defendants. The court stated that, if good cause was not shown, it would dismiss the complaint as to those defendants under the federal service rule. The order did not make that later dismissal at this time.