Rekor Systems, Inc. v. Loughlin

Background

Rekor Systems, Inc. alleged that Suzanne Loughlin, Harry Rhulen, and James Satterfield fraudulently induced Keystone Solutions, Rekor’s predecessor, to buy the defendants’ interests in Firestorm Solutions LLC and Firestorm Franchising LLC. Rekor alleged that the defendants misrepresented Firestorm’s franchise fees and expected business, including a prospective deal with Beazley Insurance Company. Rekor sought, in the alternative, either rescission—cancellation of the purchase agreement—or damages for fraudulent omission.

Rekor also alleged that, after the purchase, the defendants deleted corporate emails and failed to return company records. Those allegations supported claims for breach of fiduciary duty, violation of the Computer Fraud and Abuse Act, conversion, and trespass.

The defendants moved under Federal Rule of Civil Procedure 12(c) for judgment on the pleadings dismissing the rescission claim. They also sought advancement of attorney’s fees under Rekor’s bylaws and, for Satterfield, under the Firestorm Franchising operating agreement. Advancement means paying qualifying legal expenses before the underlying case ends, usually subject to repayment if indemnification is ultimately unavailable.

Judgment on the Pleadings and Rescission

The court denied the motion for judgment on the pleadings. Under New York law, rescission is an extraordinary remedy, but the court held that the defendants’ arguments depended on factual questions that could not be resolved at the pleading stage.

First, Rekor was allowed to plead damages and rescission as alternatives to one another. Rekor therefore did not have to establish from the complaint alone that damages would be inadequate. Second, the defendants argued that the parties could no longer be returned substantially to their prior positions because of the passage of time, the defendants’ employment, stock sales, and alleged changes to Firestorm. The court held that determining whether the prior position could be restored required factual development. Third, the court held that whether Rekor waited too long to seek rescission was also a fact-intensive question.

Advancement Under Rekor’s Bylaws

The court granted in part the defendants’ request for advancement under Rekor’s bylaws. It denied advancement for defending Rekor’s fraudulent-omission claim because the alleged conduct occurred before the defendants entered their employment agreements and because Firestorm Solutions LLC and Firestorm Franchising LLC were not absorbed into Rekor through a merger or consolidation. The court concluded that they therefore were not “predecessor corporations” within the meaning of the bylaws as interpreted together with the Delaware General Corporation Law.

The court granted advancement for defending counts two through five of the Second Amended Complaint, which concerned the alleged deletion of emails and files. The court reasoned that the alleged conduct had a sufficient connection to the defendants’ corporate positions because their positions gave them access to and control over the corporate email accounts and files. The allegations of bad faith, intentional misconduct, or knowing violations of law did not defeat advancement at this stage because those issues concerned ultimate indemnification, not the separate preliminary right to advancement. The advances required appropriate undertakings to repay the amounts if a final judgment established that the defendants were not entitled to indemnification.

Advancement Under the Firestorm Operating Agreement

The court granted Satterfield’s request for advancement from Firestorm Franchising LLC for fees incurred defending the fraudulent-omission claim. The court found that the complaint alleged that Satterfield made the relevant statements as an officer of Firestorm Franchising and that the operating agreement required advancement for expenses incurred in defending a proceeding, subject to repayment if indemnification was ultimately unavailable.

Advancement for Counterclaims

The court granted in part the defendants’ request for advancement for their counterclaims. It treated the counterclaims concerning the warrants and promissory notes issued under the purchase agreement—counterclaims two, three, and five—as compulsory in relation to Rekor’s fraudulent-omission claim and as claims advanced to defeat or offset that claim. Because the defendants were not entitled to advancement under Rekor’s bylaws for the fraudulent-omission claim, however, only Satterfield was entitled to advancement for litigating those counterclaims under the Firestorm operating agreement.

The court denied advancement for the other counterclaims because they were not compulsory counterclaims connected to Rekor’s claims. These included the claims for breach of an employment agreement, libel, breach of contracts involving Crisis Risk Strategies and Satterfield, and the remaining indemnification-related counterclaims, except that the defendants could recover reasonable “fees on fees”—fees incurred successfully enforcing their advancement rights—to the extent they prevailed on the motion.

Other Dispositions and Conclusion

The court noted that counterclaim four had been voluntarily withdrawn. Counterclaims four and six were dismissed as to the Additional Individual Counterclaim Defendants, and the motion to dismiss those counterclaims was denied as moot.

The final order denied the defendants’ motion for judgment on the pleadings; denied as moot the Counterclaim Defendants’ motion to dismiss counterclaims four and six; granted in part the defendants’ claim for advancement under Rekor’s bylaws; awarded advancement for counts two through five upon execution of an appropriate undertaking; awarded Satterfield advancement under the Firestorm operating agreement for count one and counterclaims two, three, and five upon execution of an appropriate undertaking; and allowed recovery of fees incurred in bringing the advancement motion to the extent it was successful. Judge Lewis J. Liman directed the Clerk of Court to close the listed docket entries.