Ema Financial, LLC v. Vystar Corp.

Background

Ema Financial, LLC sued Vystar Corp. for claims involving a securities purchase agreement and a convertible note. The note provided for an $80,000 loan with 12% annual interest, and the agreement allowed Ema to convert the loan into Vystar shares. Ema completed nine conversions between September 2018 and January 2019. The parties disputed whether Vystar had fully paid its obligations and whether Ema’s later conversion notice was effective.

Vystar’s amended answer asserted six counterclaims and several defenses. One counterclaim and one defense alleged that Ema had acted as an unregistered broker-dealer in violation of Section 15(a)(1) of the Securities Exchange Act. Vystar argued that, under Section 29(b), the agreements were void or could be rescinded. Ema moved for summary judgment and moved to dismiss Vystar’s counterclaims under Rules 9(b) and 12(b)(6). Ema separately moved to stay discovery while those motions were pending.

Scope of the Discovery Stay

The court explained that filing a motion to dismiss does not ordinarily stop discovery, but a court may stay discovery for good cause. In deciding whether to do so, courts consider the breadth of the requested discovery, the prejudice a stay would cause, and the strength of the underlying motion.

The court had already allowed discovery concerning three subjects related to the breach-of-contract claim: the loan principal, the interest calculation, and whether legal fees were paid. Vystar also conceded that it would not be entitled to discovery on its manipulation counterclaim because the Private Securities Litigation Reform Act automatically stays such discovery when a motion to dismiss is filed. The motion before the court therefore concerned discovery about the broker-dealer issue.

Court’s Analysis

The court addressed the merits of the broker-dealer-related counterclaim and defense only to assess the strength of Ema’s pending motions. It accepted Vystar’s allegations that Ema was not registered as a broker-dealer and that Ema converted shares at a discount and generally sold them afterward.

The court concluded that Vystar could pursue rescission based on an alleged violation of the Exchange Act without pleading fraud. But it held that rescission under Section 29(b) is available only when the contract itself violated the statute or could not be performed without violating it. A later transaction that is separate from the contract is not enough.

The court found that the note and securities purchase agreement required Ema to provide the loan and allowed Ema to convert the balance into shares. They did not require Ema to act as a broker-dealer or to sell the converted shares. Therefore, even accepting Vystar’s allegations about Ema’s later conduct, the agreements could have been performed lawfully when made. The court concluded that Ema had made a strong showing that it was likely to succeed on its motions to dismiss the broker-dealer-related claim and to strike the related defense.

The court also found that the requested discovery would impose a significant burden, including discovery from third parties concerning 37 unrelated transactions. Vystar did not explain why delaying the discovery would cause actual prejudice, and briefing on Ema’s motions had already been completed.

Disposition

Judge Gabriel W. Gorenstein held that all of the stay factors favored Ema. The court granted Ema Financial, LLC’s motion to stay discovery pending disposition of Ema’s motions to dismiss and for summary judgment. The opinion did not decide those underlying motions themselves.