Saw Plastic, LLC v. Sturrus

Saw Plastic, LLC v. Sturrus, 2017 NCBC 75.

STATE OF NORTH CAROLINA IN THE GENERAL COURT OF JUSTICE
SUPERIOR COURT DIVISION
COUNTY OF WAKE 16 CVS 10068

SAW PLASTIC, LLC and STEVE A.
WORDSWORTH,

Plaintiffs,

v. OPINION AND ORDER
ON DEFENDANTS’ MOTION
ANTHONY STURRUS, GALLATIN TO DISMISS
EQUITY PARTNERS, LP,
GALLATIN EQUITY PARTNERS,
GP, LLC, JULIAN ALEXANDER,
and AIMET TECHNOLOGIES, LLC
f/k/a AIMET ACQUISITION, LLC,

Defendants.

THIS MATTER comes before the Court on Defendants Anthony Sturrus,

Gallatin Equity Partners, LP, Gallatin Equity Partners GP, LLC, Julian Alexander,

and Aimet Technologies, LLC’s Motion to Dismiss (“Motion to Dismiss”).1

THE COURT, having considered the Motion to Dismiss, the briefs in support

of and in opposition to the Motion to Dismiss, the arguments of counsel at the hearing,

and other appropriate matters of record, concludes that the Motion to Dismiss should

be DENIED for the reasons set forth below.

Ward and Smith, P.A. by Michael J. Parrish, Esq., Gary J. Rickner, Esq.,
for Plaintiffs Saw Plastic, LLC and Steve A. Wordsworth.

Stark Law Group, PLLC by Thomas H. Stark, Esq., Seth A. Neyhart,
Esq., Brycen Williams, Esq. for Defendants Gallatin Equity Partners,
L.P., Gallatin Equity Partners, GP, LLC, Julian Alexander, and Aimet
Technologies, LLC.

1 On August 3, 2017, the Court issued an Order on Motion for Sanctions in which it struck

the Motion to Dismiss to the extent it was made on behalf of Defendant Anthony Sturrus
(“Sturrus”) and entered default against Sturrus. Accordingly, Gallatin Equity Partners, LP,
Gallatin Equity Partners GP, LLC, Julian Alexander, and Aimet Technologies, LLC are
referred to hereinafter as “Defendants.”
Anthony Sturrus, pro se.

McGuire, Judge.

FACTUAL AND PROCEDURAL BACKGROUND

1. The Court does not make findings of fact on motions to dismiss under

Rule 12(b)(6), but only recites those facts included in the complaint that are relevant

to the Court’s determination of the Motion. See e.g., Concrete Serv. Corp. v. Inv’rs

Grp., Inc., 79 N.C. App. 678, 681, 340 S.E.2d 755, 758 (1986).

2. Saw Plastic, LLC (“SAW”) is a North Carolina limited liability company.

Steve A. Wordsworth (“Wordsworth”) is a member and manager of SAW (collectively,

SAW and Wordsworth are referred to as “Plaintiffs”).

3. Gallatin Equity Partners, LP (“Gallatin LP”) is a Delaware limited

partnership. Gallatin Equity Partners GP, LLC (“Gallatin GP”) is a Delaware limited

liability company (Ver. Compl. ¶¶ 5–6.) (collectively, Gallatin LP and Gallatin GP are

referred to as “Gallatin.”)2 Gallatin GP, Sturrus, and Julian Alexander (“Alexander”)

are partners in Gallatin LP and members and managers of Gallatin GP (Ver. Compl.

¶¶ 15–18.)

4. Aimet Technologies, LLC (“Aimet”), a Delaware limited liability

company with its principal place of business in Wake County, North Carolina, was

formed in 2014 and is formally known as Aimet Acquisition, LLC (Ver. Compl. ¶

8―12.). Aimet is in the business of custom injection molding for plastic products and

2 There is some dispute as to which Gallatin entity is the appropriate Defendant in this

action. However, this issue is not currently before the Court in its determination of the
Motion to Dismiss.
related services. At all relevant times, Defendant Sturrus was an officer, director,

president, member, Chair of the Board of Managers, and Chief Executive Officer of

Aimet. (Ver. Compl. ¶¶ 13–16.)

5. In October 2014 Sturrus began to solicit Wordsworth and SAW to

purchase debt securities in Aimet by touting “Aimet’s business prospects and his

optimistic vision for Aimet.” (Ver. Compl. ¶¶ 28–30.) At all times when soliciting

Wordsworth and SAW, Sturrus “was acting as both an officer and director of Aimet

and also a partner, manager, and owner of Gallatin.” (Ver. Compl. ¶¶ 37–38.)

6. Sturrus purchased debt securities from Aimet in December 2014, and

February, March, and April, 2015. SAW later converted part of the debt securities

into equity securities in Aimet. (Ver. Compl. ¶ 34.) On February 13, 2015,

Wordsworth and Aimet executed a Loan Agreement and Promissory Note, in the

original principal amount of $1,000,000.00. (Ver. Compl. ¶ 35; Defs.’ Mot. Dismiss,

Exs. A, D, hereinafter “February 2015 Note.”) Aimet also executed a Security

Agreement giving Wordsworth a security interest in certain of Aimet’s assets. (Ver.

Compl. ¶ 36; Defs.’ Mot. Dismiss, Ex. E.)

7. During late 2014 and early 2015, Sturrus also proposed that SAW and

Gallatin make equal equity investments in Aimet in exchange for equal ownership

and rights in Aimet. (Ver. Compl. ¶¶ 40–43.) Sturrus provided SAW with proposed

capital tables that showed that Gallatin and SAW would make equal cash

contributions to Aimet. (Ver. Compl. ¶¶ 43–44.) Sturrus indicated that it was

Gallatin’s intent to invest in Aimet before, or contemporaneously with, its receipt of
its ownership interest and voting rights in Aimet and on equal terms with SAW’s

investment. (Ver. Compl. ¶¶ 45―48.) Sturrus told Wordsworth and SAW that

Gallatin’s contribution would be funded one-half by Sturrus and one-half by

Alexander. (Ver. Compl. ¶ 41.)

8. On or about April 1, 2015, the initial members of Aimet executed the

Operating Agreement of Aimet Acquisition, LLC. (Ver. Compl. Ex. A, hereinafter,

“Operating Agreement.”) Schedule A to the Operating Agreement contains a table

titled “Members, Initial Capital and Membership Interests” (“Capital Table”). The

Capital Table provided that SAW and Gallatin would each provide a capital

contribution of $375,000.00 in exchange for 375,000 Class A Units, a 37.152% voting

interest in Aimet, and a 35.294% membership interest in Aimet. (Operating

Agreement, Schedule A.) The Capital Table indicated that SAW and Gallatin were to

make a “cash contribution.” The Capital Table also provided that the other members

of Aimet would make their respective capital contributions through a combination of

cash and a promissory note, or through non-cash contributions made to Aimet. (Ver.

Compl. ¶ 58; Operating Agreement, Schedule A.)

9. SAW made its full $375,000.00 contribution to Aimet. (Ver. Compl. ¶

66.)

10. Gallatin did not make its full cash contribution, and “paid substantially

less than $375,000.00” because “while Alexander funded certain amounts of the

purchase price for Gallatin’s equity securities in Aimet, Sturrus did not fund or did

not fully fund his share of the purchase price.” (Ver. Compl. ¶¶ 59–60.) Despite not
making its full contribution, Gallatin received its 37.152% voting interest and

35.294% membership interest in Aimet. (Ver. Compl. ¶ 59.)

11. Plaintiffs allege that Sturrus’s representations that Gallatin would

make a capital contribution to Aimet of $375,000 were false and misleading and were

made to induce SAW to purchase its membership interest in Aimet. (Ver. Compl. ¶

67.) Plaintiffs further allege:

Had SAW known that its investment in Aimet would not
be on equal terms with Gallatin; that Gallatin would not
immediately pay for its equity securities; or that Aimet or
Sturrus would convey to Gallatin its equity securities
without receiving Gallatin’s full payment, SAW would not
have purchased equity securities from Aimet or would have
required different pricing, terms, or conditions for any
purchase of equity securities . . . .

(Ver. Compl. ¶ 73.)

12. On or about September 29, 2015, while soliciting Wordsworth for

additional capital for Aimet, Sturrus disclosed that Gallatin had not fully paid its

capital contribution. Nevertheless, Sturrus also “expressly represented” that Gallatin

would make its full capital contribution in Aimet on or before October 31, 2015. (Ver.

Compl. ¶¶ 79, 81.) In reliance on this representation, Wordsworth agreed to enter

into an Amended and Restated Loan Agreement, Promissory Note, and Security

Agreement with Aimet for the maximum principal amount of $1,550,000.00. (Ver.

Compl. ¶ 82; Defs.’ Mot. Dismiss, Exs. B, F, G, collectively the “Amended Note”). The

Amended Note replaced the February 2015 Note. The Amended Note had a maturity

date of December 31, 2017, and provided for Aimet to pay monthly interest on

borrowed amounts equal to the prime rate established by Providence Bank plus 5%,
but not to exceed 9.5%. (Defs.’ Mot. Dismiss, Ex. F.) The Amended Note gave

Wordsworth a security interest in, inter alia, Aimet’s accounts receivable, inventory,

and fixtures and equipment. (Defs.’ Mot. Dismiss, Ex. F.)

13. Wordsworth would not have executed the Amended Note “but for the

assurances and representations by Sturrus that Gallatin would pay its obligations to

Aimet by October 31, 2015.” (Ver. Compl. ¶ 84.)

14. In January 2016, Aimet defaulted on the Amended Note. (Ver. Compl. ¶

85.)

15. Sturrus continued to solicit Wordsworth for additional capital in early

2016. On February 19, 2016, Sturrus asked Wordsworth to make a personal loan to

Sturrus so that he could provide Aimet with “much needed cash.” (Ver. Compl. ¶¶

87―88.) Later that same day, Wordsworth was informed that Aimet’s bank account

would be overdrawn unless substantial funds were received immediately. (Ver.

Compl. ¶ 90.) In addition, on February 19, 2016, Sturrus and Aimet revealed to

Wordsworth that Gallatin still had not paid the full $375,000.00 capital contribution

to Aimet. (Ver. Compl. ¶ 91.) Wordsworth declined to make the personal loan to

Sturrus, and instead executed a Due on Demand Promissory Note to Aimet, dated

February 19, 2016 in the amount of $75,000.00. (Ver. Compl. ¶¶ 92―94; Defs.’ Mot.

Dismiss, Ex. C, the “Demand Note”; collectively the Amended Note and Demand Note

are referred to hereinafter as “the Notes”). The Demand Note provided for Aimet to

pay simple interest of 8% on the borrowed amount, but 15% interest upon a default.
16. Wordsworth made demand for payment of the Demand Note, but Aimet

failed to pay the note. (Ver. Compl. ¶ 96.)

17. On August 10, 2016, Plaintiffs initiated this lawsuit by filing the

Verified Complaint. On September 15, 2016, this case was designated a mandatory

complex business case by Order of the Chief Justice of the North Carolina Supreme

Court, pursuant to N.C. Gen. Stat. § 7A-45.4(b) (hereinafter, references to the North

Carolina General Statutes will be to “G.S.”), and assigned to the undersigned Special

Superior Court Judge for Complex Business Cases by Order of Chief Judge James L.

Gale on September 16, 2016.

18. The Verified Complaint asserts claims against Sturrus, Aimet, and

Gallatin for violations of the North Carolina Securities Act, G.S. § 78A-56(a) and (c)

(“NCSA”), common law fraud, and unlawful solicitation of unregistered securities

under G.S. § 78A-24.3 The Verified Complaint also asserts claims for vicarious

liability against Gallatin and Aimet and partnership liability against Sturrus,

Alexander, and Gallatin GP.4

3 The NCSA applies “to persons who sell or offer to sell [securities] when (i) an offer to sell is

made in this State, or (ii) an offer to buy is made or accepted in this State.” G.S § 78A-63(a).
Although Plaintiffs have not alleged that the offers or acceptances of the transactions at issue
occurred in North Carolina, Defendants do not contest the NCSA would apply if the
transactions involve securities.

4The Verified Complaint contains two separate claims labeled “Third Claim for Relief” (¶¶

133–34, titled “Fraud―Sturrus, Gallatin, Aimet,” and ¶¶ 135–42, titled “Unlawful Sale of
Solicitation of Unregistered Securities”), and two separate claims labeled “Fourth Claim for
Relief” (¶¶ 143–51, titled “Vicarious Liability―Gallatin, Aimet,” and ¶¶ 152–54, titled
“Partnership Liability―Sturrus, Alexander, Gallatin Equity Partners GP, LLC”).
Accordingly, where appropriate, the Court will refer to the claims by reference to the
paragraph numbers in the Verified Complaint alleging the claim.
19. On October 11, 2016, Defendants filed the Motion to Dismiss, and on

October 31, 2016, Plaintiffs responded in opposition to the Motion to Dismiss.

20. The Court subsequently stayed this case until February 7, 2017.

Following the stay, new counsel appeared on behalf of Defendants, except Sturrus.

Sturrus opted to proceed pro se in this matter.

21. On May 8, 2017, Defendants’ new counsel filed a reply in support of the

Motion to Dismiss. Sturrus did not file a reply brief.

22. The Motion to Dismiss is fully briefed, the Court held a hearing on the

Motion to Dismiss, and it is now ripe for disposition.

ANALYSIS

I. 12(b)(6) Standard

23. In ruling on a motion to dismiss pursuant to Rule 12(b)(6), the Court’s

inquiry is “whether, as a matter of law, the allegations of the complaint, treated as

true are sufficient to state a claim upon which relief may be granted under some legal

theory, whether properly labeled or not.” Harris v. NCNB Nat’l Bank, 85 N.C. App.

669, 670, 355 S.E.2d 838, 840 (1987). Our appellate courts frequently reaffirm that

North Carolina is a notice pleading state. See, e.g., Feltman v. City of Wilson, 238

N.C. App. 246, 252, 767 S.E.2d 615, 620 (2014) (quoting Wake Cty. v. Hotels.com, L.P.,

762 S.E.2d 477, 486 (2014)). “Under notice pleading, a statement of claim is adequate

if it gives sufficient notice of the claim asserted to enable the adverse party to answer

and prepare for trial, to allow for the application of the res judicata, and to show the

type of case brought.” Id.
24. Dismissal of a claim pursuant to Rule 12(b)(6) is proper “(1) when the

complaint on its face reveals that no law supports plaintiff’s claim; (2) when the

complaint reveals on its face that absence of fact sufficient to make a good claim; [or]

(3) when some fact disclosed in the complaint necessarily defeats the plaintiff’s

claim.” Oates v. JAG, Inc., 314 N.C. 276, 278, 333 S.E.2d 222, 224 (1985). Otherwise,

“a complaint should not be dismissed for insufficiency unless it appears to a certainty

that plaintiff is entitled to no relief under any state of facts which could be proved in

support of the claim.” Sutton v. Duke, 277 N.C. 94, 103, 176 S.E.2d 161, 166 (1970)

(emphasis omitted). The Court construes the complaint liberally and accepts all

allegations as true. Laster v. Francis, 199 N.C. App. 572, 577, 681 S.E.2d 858, 862

(2009). However, the Court is not required “to accept as true allegations that are

merely conclusory, unwarranted deductions of fact, or unreasonable inferences.”

Good Hope Hosp., Inc. v. N.C. Dep’t of Health & Human Servs., 174 N.C. App. 266,

274, 620 S.E.2d 873, 880 (2005).

25. The Court may consider documents which are the subject of plaintiff’s

complaint and to which the complaint specifically refers, including the contract that

forms the subject matter of the action. Oberlin Capital, L.P. v. Slavin, 147 N.C. App.

52, 60, 554 S.E.2d 840, 847 (2001).

26. Plaintiffs allege that Sturrus, acting as an agent of Gallatin and Aimet,

induced Plaintiffs to invest in Aimet through SAW’s capital contribution to Aimet and

the Notes. Plaintiffs contend Sturrus induced the investments by falsely representing

that Gallatin intended to make the same $375,000.00 cash contribution to Aimet that
SAW made, and by failing to tell Plaintiffs that Gallatin had not made the full

contribution but had received the benefits of ownership in Aimet. Plaintiffs allege

that SAW’s capital contribution and the Notes are “securities” under the NCSA, and

that Sturrus’s misrepresentations and omissions constitute securities fraud under

G.S. § 78A-56, and common law fraud. (Ver. Compl. ¶¶ 102–134.) Plaintiffs also allege

that Sturrus, Gallatin, and Aimet unlawfully failed to register the investments they

were seeking in Aimet as a security under the NCSA. (Ver. Compl. ¶¶ 135–142.)

Finally, Plaintiffs allege that Gallatin and Aimet are vicariously liable for Sturrus’s

conduct and that Alexander and Gallatin GP are liable as partners for Sturrus’s

conduct. (Ver. Compl. ¶¶ 143–154.)

27. Defendants first move to dismiss the claims under G.S. § 78A-56 and for

failure to register securities on the grounds that SAW’s capital contribution to Aimet

and the Notes are not securities under the NCSA.

A. Saw Plastic’s Capital Contribution and Membership Interest in Aimet

28. The NCSA is a state-law scheme which is complementary to federal

securities law schemes. Piazza v. Kirkbride, 785 S.E.2d 695, 707, 2016 N.C. App.

LEXIS 371, *34 (Apr. 5, 2016), cert. granted, 794 S.E.2d 316, 2016 N.C. LEXIS 664

(Aug. 18, 2016). “[T]he NCSA parallels federal antifraud acts,” such that North

Carolina Courts “use federal courts’ interpretation of analogous federal actions as

persuasive authority.” Id. at 708, 2016 N.C. App. LEXIS 371 at *35. (citing State v.

Davidson, 131 N.C. App. 276, 282–83, 506 S.E.2d 743, 748 (1998)). “[T]his Court

previously has found guidance in interpreting the NCSA’s definition of ‘security’ in
decisions interpreting the strikingly similar federal definition of “security” found in

the Securities Exchange Act of 1934.” Vestlyn BMP, LLC v. Balsam Mt. Grp., LLC,

2016 NCBC LEXIS 48, *31 (N.C. Super. Ct. June 22, 2016). In making this

determination, courts “are not bound by legal formalisms, but instead take account

of the economics of the transaction under investigation.” Reves v. Ernst & Young, 494

U.S. 56, 61 (1990).

29. Defendants argue that Plaintiffs’ capital contribution to, and resulting

membership interest in, Aimet is not a security. The NCSA defines a “security,” in

relevant part, as

any note; stock; treasury stock; bond; debenture; evidence
of indebtedness; certificate of interest or participation in
any profit sharing agreement . . . investment contract . . .
or, in general any interest or instrument commonly known
as a “security,” or any certificate of interest or participation
in, temporary or interim certificate for, receipt for
guarantee of, or warrant or right to subscribe to or
purchase, any of the foregoing.

G.S. § 78A-2(11).

30. Defendants contend that the membership interest in Aimet must be

analyzed as an “investment contract” after applying the test developed in SEC v. W.J.

Howey, 328 U.S. 293, 298–99 (1946). (Defs.’ Mem. Supp. Mot. Dismiss 13–15.) In

Howey, the United States Supreme Court held that “an investment contract for

purposes of the Securities Act means a contract, transaction or scheme whereby a

person invests his money in a common enterprise and is led to expect profits solely

from the efforts of the promoter or a third party . . . .” Id. at 298–99. This Court has

held “[t]he Howey definition encompasses four elements: “(1) an investment of money,
(2) in a common enterprise, (3) an expectation of profits, and (4) the expectation that

profits will arise solely from the efforts of the promoter or a third party.” NNN

Durham Office Portfolio 1, LLC v. Highwoods Realty Ltd. P’ship., 2013 NCBC LEXIS

11, *25 (N.C. Super. Ct. Feb. 19, 2013).

31. Defendants concede that “[w]ith respect to SAW’s Membership and

Capital Contribution in Aimet, Plaintiffs have alleged the first three factors of the

Howey test.” (Defs.’ Mem. Supp. Mot. Dismiss 13.) Defendants, however, contend that

Plaintiffs have failed to allege facts showing an expectation that profits in Aimet will

arise “solely” from the efforts of Sturrus and Gallatin. Because SAW is one of the

largest owners of Aimet, controls two of the six seats on Aimet’s Board of Managers,

and manages Aimet through its representatives on Aimet’s Board of Managers,

Defendants contend SAW exercises meaningful control over Aimet’s business, and

therefore cannot allege that it expected profits to arise solely from the efforts of

Sturrus and Gallatin. (Defs.’ Mem. Supp. Mot. Dismiss 14 (citing Operating

Agreement §4.2).)

32. Plaintiffs argue that the Howey test is not applicable here because North

Carolina law controls, and regulations adopted under the NCSA provide both a

broader definition of “investment contract” than Howey and a rebuttable presumption

that a membership interest in a limited liability company is a security under the

NCSA. (Pls.’ Mem. Opp. Defs.’ Mot. Dismiss 9―11 (citing 18 NCAC 06A.1104(8), 18

NCAC 06A.1510).) Under 18 NCAC 06A.1104(8) the definition of an investment

contract includes the following:
(a) Any investment in a common enterprise with the
expectation of profit to be derived through the essential
managerial efforts of someone other than the investor. In
this Subparagraph a “common enterprise” means an
enterprise in which the fortunes of the investor are
interwoven with and dependent upon the efforts and
success of those seeking the investment or of a third
party[.]

33. Section 6A.1510 provides in relevant part as follows:

(a) Membership interest . . . in a limited liability company
shall be presumed to be securities within the meaning of
G.S. 78A-2(11) in either of the following circumstances: (1)
where the articles of organization of the limited liability
company provide that all members of the limited liability
company are not necessarily managers by virtue of their
status as members; or (2) where all members by virtue of
their status as members are managers of the limited
liability company and the number of members is greater
than 15.
(b) Among the factors that will be considered . . . as
evidence offered to rebut or support the presumption in
Paragraph (a) of this Rule are: (1) whether investors retain,
under the limited liability company’s operating agreement,
the right to exercise practical and actual control over the
managerial decisions of the enterprise . . . .

34. Plaintiffs contend that they are entitled to the presumption created by

this rule because SAW is a member, but not a manager, of Aimet. Plaintiffs argue

that Defendants must show that SAW had “practical and actual control” over Aimet

in order to rebut the presumption that the membership interest is a security. (Pls.’

Mem. Opp. Defs.’ Mot. Dismiss 10.) The Operating Agreement provides that a Board

of Managers consisting of six (6) members “shall direct, manage, and control the

business of the Company to the best of its ability and shall have full and complete

authority, power, and discretion” subject to certain Member rights, “to make any and
all decisions, and to do any and all things which the Board of Managers deems

necessary or desirable for that purpose.” (Operating Agreement § 4.1(a).) The Board

of Managers makes decisions by majority vote. (Operating Agreement § 4.1(b).) Saw

Plastic elected two members to the Board of Managers, including Wordsworth.

Plaintiffs contend that even if SAW controls two members of the Board of Managers,

it has only a minority voting interest and is not able to control Aimet’s business

decisions. (Pls.’ Mem. Opp. Defs.’ Mot. Dismiss 14.) Finally, Plaintiffs expressly

allege that “neither SAW nor Wordsworth is actively engaged, on a regular basis, in

the management of Aimet’s business.” (Ver. Compl. ¶ 138.)

35. The Court concludes that Plaintiffs have alleged facts that would

support a claim that SAW’s capital contribution to Aimet was an “investment

contract” within the meaning of the NCSA, and that the membership interest in

Aimet was a security. Aimet was a “common enterprise” between SAW, Gallatin, and

the other members. SAW’s fortunes in Aimet were interwoven with the efforts of

Sturrus on behalf of Aimet since Sturrus was Aimet’s CEO and President. It also is

clear from the allegations that Sturrus was the primary principal behind Aimet’s

operations. Plaintiffs allege that SAW invested in Aimet, based at least in part, on

Sturrus’s optimistic business projections for Aimet’s future profitability. The

Operating Agreement anticipated a distribution of profits from Aimet’s operations.

(Operating Agreement §§ 10.1–10.9.)

36. In addition, neither the allegations in the Verified Complaint nor the

terms of the Operating Agreement establish that SAW or its representatives had
actual control over the managerial decisions of Aimet. “[C]ontrol must be actual

rather than theoretical, and must take economic realities into consideration.” NNN

Durham Office Portfolio 1 LLC, 2016 NCBC LEXIS 95 at *50. Restricting its

consideration to the pleadings and the documents properly considered, the Court

cannot say at this stage of the litigation that SAW’s membership interest in Aimet is

not a security subject to the NCSA. Accordingly, Defendants’ motion to dismiss

Plaintiffs’ claims under G.S. §78A-56 and Plaintiffs’ claim for unlawful solicitation of

unregistered securities in violation of the NCSA on the grounds that the membership

interest in Aimet is not a security should be DENIED.5

B. The Amended Note and Demand Note

37. Defendants next argue the Notes are not securities under the NCSA.

Both parties agree that determination of whether the Notes are securities requires

application of the United States Supreme Court’s holding in Reves v. Ernst & Young,

494 U.S. 56, 63 (1990). In Reves, the Supreme Court rejected application of the Howey

test to the determination of whether a note is a security under the Securities

Exchange Act. 494 U.S. 56 at 64. Instead, the Court adopted the “family resemblance”

test used by the Second Circuit Court of Appeals. Id. at 64–65 (citing Exchange Nat.

Bank of Chicago v. Touche Ross & Co., 544 F.2d 1126, 1137–38 (2nd Cir. 1976)).

5 Plaintiffs also argue that the membership interest in Aimet is a security under the NCSA

because Aimet is a “Direct Participation Program” under the definition in 18 NCAC
06A.1104(3), and that the membership interest meets the standard for a security under the
Howey test. (Defs.’ Mem. Supp. Mot. Dismiss 11, 13–14.) Since the Court concludes that
Plaintiffs sufficiently alleged that the membership interest in Aimet is a security for other
reasons, it need not address these arguments.
38. Since the statutory definition of security under the Security Exchange

Act includes “any note,” the family resemblance test starts “with a presumption that

every note is a security.” Id. at 65. That presumption, however, is rebuttable. If the

note bears a resemblance to certain types of financial instruments that are recognized

not to be securities, then the note is not a security. Id. Included among notes that

are not securities are “the note delivered in consumer financing, the note secured by

a mortgage on a home, the short-term note secured by a lien on a small business or

some of its assets, the note evidencing a ‘character’ loan to a bank customer, short-

term notes secured by an assignment of accounts receivable, or a note which simply

formalizes an open-account debt incurred in the ordinary course of business[.]” Id.

(quoting Exchange Nat. Bank of Chicago, 544 F.2d at 1138.)

39. In Reves, the Court held that in order to determine whether a particular

note bears a family resemblance to those notes that are not securities, courts should

engage in a four factor analysis of: (1) the motivations that would prompt a reasonable

seller and buyer to enter into the note; (2) the “plan of distribution” of the note, to

determine whether it is an instrument in which there is ‘common trading for

speculation or investment’”; (3) “the reasonable expectations of the investing public”;

and (4) “whether some factor such as the existence of another regulatory scheme

significantly reduces the risk of the instrument, thereby rendering application of the

Securities Acts unnecessary.” 494 U.S. at 66–67 (citations omitted). Here, Defendants

and Plaintiffs both argue that application of these four factors supports their

respective positions.
40. Defendants do not squarely frame their argument with regard to each

of the four Reves factors, but instead argue that the Notes strongly resemble notes

that are recognized as not being securities, such as short-term notes secured by a lien

on a small business or its assets or accounts receivable. (Defs.’ Mem. Supp. Mot.

Dismiss 15–17.) Defendants contend that the Notes are “short term,”6 and the

Amended Note is secured by Aimet’s assets, including its accounts receivable. The

Notes were extended to assist Aimet with is business expenses and cash flow

problems. (Defs.’ Mem. Supp. Mot. Dismiss 16.); Reves, 494 U.S. 56 at 66. (“If the note

is exchanged to . . . correct for the seller’s cash-flow difficulties, or to advance some

other commercial or consumer purpose . . . the note is less sensibly described as a

‘security.’”). Defendants also argue that the Notes are not like an investment in a

security because “Wordsworth’s entitlement to interest [on the Notes] is an economic

expectation that is independent from Aimet’s profits, or lack thereof.” (Defs.’ Mem.

Supp. Mot. Dismiss 16.) Finally, Defendants contend that Plaintiffs have not alleged

that Sturrus had a “plan of distribution” for the Notes because Plaintiffs do not allege

that the Notes were offered to the public and were traded. (Defs.’ Reply 7–8.) Rather,

Plaintiffs allege only that “Sturrus made targeted solicitations for Wordsworth or

SAW to purchase debt securities and equity securities from Aimet.” (Ver. Compl. ¶

30.)

41. Plaintiffs expressly address the Reves factors. Plaintiffs argue that the

first factor, the motivations of the buyer and seller, favors the position that the Notes

6 Defendants’ argument that since the demand note is for a term of less than nine months it

cannot be a security was expressly rejected by the Court in Reves. 494 U.S. at 70–73.
are securities because Wordsworth executed the Notes “in response to Sturrus’

requests to raise additional capital for Aimet.” (Pls.’ Mem. Opp. Defs.’ Mot. Dismiss

18 (citing Ver. Compl. ¶¶ 75, 77, 86–88, 93).) “If the seller’s purpose is to raise money

for the general use of a business enterprise or to finance substantial investments and

the buyer is interested primarily in the profit the note is expected to generate, the

instrument is likely to be a ‘security.’” Reves, 494 U.S. at 66. Plaintiffs also contend

that the advantageous interest rates on the Notes demonstrate Wordsworth’s profit

motive in extending the loans to Aimet. SEC v. Thompson, 732 F.3d 1151, 1162 (10th

Cir. 2013) (“attractive interest rate . . . provides strong evidence that holders were

interested primarily in . . . profit”); Stoiber v. SEC, 161 F.3d 745, 750 (D.C. Cir. 1998)

(“a favorable interest rate indicates that profit was the primary goal of the lender.”)

42. With respect to the second factor, Plaintiffs do not contend that they

have alleged that Sturrus had a plan of distribution for the Notes beyond soliciting

Wordsworth.

43. Plaintiffs contend that the Notes satisfy the third Reves factor because

“[t]he investing public would view substantial infusions of money by an individual

(Wordsworth) to an entity in its infancy to assist with working capital at a premium

rate of interest as an investment, rather than as a typical commercial loan

transaction.” (Pls.’ Mem. Opp. Defs.’ Mot. Dismiss 19.)

44. Plaintiffs argue that the fourth factor supports the conclusion that the

Notes are securities because no specific statutory scheme exists that reduces the risk

associated with the Notes, but do not address the fact that the Amended Note is
protected by a security lien on Aimet’s assets. (Pls.’ Mem. Opp. Defs.’ Mot. Dismiss

19.)

45. Given the broad protective purposes of the NCSA, and mindful that

Plaintiffs are required only to provide “notice of the transactions or occurrences . . .

intended to be proved,” the Court concludes that the allegations in the Verified

Complaint are minimally sufficient to support the claim that the Notes are securities

for purposes of surviving Defendants’ motion to dismiss. G.S. §1A-1, Rule 8(a)(1);

Sutton v. Duke, 176 S.E.2d 161, 165, 277 N.C. 94, 102 (1970) (“Under the ‘notice

theory of pleading’ a statement of claim is adequate if it gives sufficient notice of the

claim asserted ‘to enable the adverse party to answer and prepare for trial, to allow

for the application of the doctrine of res judicata, and to show the type of case brought.

. . .’”). The Verified Complaint alleges that Aimet was seeking “investments,” and that

Sturrus solicited the investments by providing Wordsworth with optimistic business

forecasts for Aimet, and “encouraged Wordsworth or SAW to convert any debt

securities . . . into equity securities at a future date.” (Ver. Compl. ¶¶ 29―33.)

Plaintiffs also allege that Wordsworth “only purchased the Debt Securities to protect

SAW’s equity interest in Aimet.” (Ver. Compl. ¶ 111.) Accordingly, Defendants’

Motion to Dismiss Plaintiffs’ claims under G.S. §78A-56 and Plaintiffs’ claim for

unlawful solicitation of unregistered securities in violation of the NCSA on the

grounds that the Notes are not securities should be DENIED.

46. Defendants also argue that Wordsworth must elect his remedy and

cannot seek damages under the NCSA in this lawsuit because he obtained a judgment
on the promissory notes in a separate action. The Court believes this argument is

untimely. Election of remedies is an affirmative defense which must be pleaded by

defendants who bear the burden of proof. Accordingly, this doctrine is “not an

appropriate basis for dismissal upon a Rule 12(b)(6) motion, since defendants have

not yet filed an answer and asserted any defenses.” Tucker v. Fayetteville State Univ.,

No. COA10-726, 2011 N.C. App. LEXIS 613, *4–5 (Apr. 5, 2011).

C. Unlawful Sale or Solicitation of Unregistered Securities

47. As a separate cause of action, Plaintiffs allege that Defendants violated

G.S. § 78A-24, which provides that “[i]t is unlawful for any person to offer or sell any

security . . . unless (i) it is registered under this Chapter, (ii) the security or

transaction is exempted [under this Chapter], or (iii) it is a security covered under

federal law. (Ver. Compl. ¶¶ 135–42.) Plaintiff alleges that SAW’s capital contribution

and membership in Aimet and the Notes “were required to have been registered by

Chapter 78A (Section 78A-24) of the North Carolina General Statutes and by Federal

law, but were not registered [or exempted].” (Ver. Compl. ¶¶ 136–37.)

48. Since the Court concludes that Plaintiffs have sufficiently alleged that

the capital contribution to Aimet and the Notes are securities under the NCSA,

Plaintiffs’ claim that Sturrus, Gallatin, and Aimet violated the NCSA through the

unlawful solicitation and sale of unregistered securities also must survive.

Accordingly, Defendants’ motion to dismiss Plaintiffs’ fourth claim for relief (Ver.

Compl. ¶¶ 135―42) should be DENIED.

D. Fraud
49. Defendants seek dismissal of Plaintiffs’ claims for fraud in violation of

G.S. § 78A-56(1),7 and common law fraud. (Ver. Compl. ¶¶ 120–32, 133–34.) Plaintiffs

allege that Sturrus fraudulently represented that Gallatin would make its full

$375,000 capital contribution to Aimet, at the same time SAW made its capital

contribution. Plaintiffs allege that Sturrus represented that Gallatin would make

the full contribution by October 31, 2015, to induce Wordsworth’s execution of the

Amended Note. Defendants contend that Plaintiffs have not alleged fraud with the

particularity as required by Rule 9(b), that Sturrus’s representations were

statements of future intent and cannot be the basis of a fraud claim, and that

Plaintiffs could not reasonably have relied on Sturrus’ statements in executing the

Notes because Plaintiffs were members of Aimet and had access to Aimet’s books and

records. (Defs.’ Mem. Supp. Mot. Dismiss 17―21.)

50. An action under G.S. § 78A-56(1) “sounds in fraud, comparable to

common law fraud” and “must include allegations and proof typical of common law

fraud claims.” Highwoods Realty Ltd., 2013 NCBC LEXIS 11 at **29, 30. The

elements of a claim under G.S. § 56(a)(1) “closely parallel[] the Rule 10b-5 antifraud

7 Although Plaintiffs titled this claim “Violation of N.C. Gen. Stat. § 78A-56(2),”they appear

to have intended to invoke G.S. § 78A-56(1), alleging that “Sturrus, Aimet, and Gallatin . . .
employed a device, scheme, or artifice to defraud SAW and Wordsworth and induced them to
purchase equity securities and the Debt Securities, respectively”; that Sturrus’s statements
were known to be false and intended to deceive Plaintiffs; and the statements were “relied
upon” by Wordsworth (Ver. Compl. ¶¶ 121, 122, 127); Stanback v. Stanback, 297 N.C. 181,
202, 254 S.E.2d 611, 625 (1979) (“when the allegations in the complaint give sufficient notice
of the wrong complained of an incorrect choice of legal theory should not result in dismissal
of the claim if the allegations are sufficient to state a claim under some legal theory”); N.C.
State Ports Auth. v. Lloyd A. Fry Roofing Co., 32 N.C. App. 400, 407–08, 232 S.E.2d 846, 852
(1977), aff’d, 294 N.C. 73, 240 S.E.2d 345 (1978) (holding that a court may grant any relief to
which a party is entitled, regardless of whether it has been demanded in the pleadings, for
“it is not a crucial error to demand the wrong relief”).
provision of the Securities Exchange Act.” Id. at *33. “[T]he elements of a cause of

action under Rule 10b-5 include: (1) the making of a false statement or omission of

material fact or the use of a fraudulent device in connection with the purchase or sale

of any security; (2) made with scienter; (3) upon which the purchaser justifiably relies;

and (4) proximate causation.” Id.; see also Piazza v. Kirkbride, 785 S.E.2d at 709, 2016

N.C. App. LEXIS 371, at *38–39.

51. Under North Carolina common law, “[t]o state a claim for fraud, the

complainant must allege with particularity: (1) that defendant made a false

representation or concealment of a material fact; (2) that the representation or

concealment was reasonably calculated to deceive plaintiff; (3) that defendant

intended to deceive plaintiff; (4) that plaintiff was deceived; and (5) that plaintiff

suffered damage resulting from defendant’s misrepresentation or concealment.”

Claggett v. Wake Forest Univ., 126 N.C. App. 602, 610, 486 S.E.2d 443, 447 (1997).

52. A claim under G.S. § 78A-56(1), like common law fraud, must be alleged

with particularity as required by Rule 9(b). Highwoods Realty Ltd., 2013 NCBC

LEXIS 11 at *35. The particularity requirement is “met by alleging time, place and

content of the fraudulent representation, identity of the person making the

representation and what was obtained as a result of the fraudulent acts or

representations.” Terry v. Terry, 302 N.C. 77, 85, 273 S.E.2d 674, 678 (1981). “Malice,

intent, knowledge, and other condition of mind . . . may be averred generally.” G.S. §

1A-1, Rule 9(b).
53. As a preliminary matter, Plaintiffs do not allege or argue that Sturrus

or anyone else made false representations or omissions in inducing Wordsworth to

provide the Demand Note. To the contrary, Wordsworth provided the Demand Note

despite being informed that Gallatin still had not made its full capital contribution

to Aimet. (Ver. Compl. ¶¶ 88–94.) Accordingly, to the extent Plaintiffs claim that the

Demand Note was induced by fraud, that claim should be dismissed.

54. With regard to Plaintiffs’ claims for fraud in inducing SAW’s capital

contribution in Aimet and Wordsworth’s execution of the Amended Note, the Court

concludes that Plaintiffs have alleged their claims for fraud with the required

particularity to survive dismissal. Plaintiffs alleged that Sturrus made the false

misrepresentations, the dates or approximate dates on which the misrepresentations

were made, and the content of those misrepresentations. While Plaintiff did not allege

the specific locations at which the misrepresentations were made, it can be implied

that they were made in and around Eastern North Carolina. Finally, Plaintiffs allege

that the misrepresentations induced SAW to make the equity investment in Aimet

and induced Wordsworth to execute the Amended Note for Aimet’s benefit.

55. Defendants also argue that Sturrus never represented that Gallatin had

made its full capital contribution but only that it would make the contribution, and,

accordingly, “the ‘false’ statement related to Gallatin’s future performance, not a then

existing fact.” (Defs.’ Mem. Supp. Mot. Dismiss 19.) In connection with soliciting

SAW’s capital contribution to Aimet, however, Plaintiffs allege that Sturrus

represented that Gallatin would make an “equal investment in Aimet on equal terms”
with SAW. (Ver. Compl. ¶ 40.) Plaintiffs further provide that Sturrus did not disclose

“that Gallatin’s purchase . . . would be delayed, would not be on a cash basis, or that

Gallatin would receive its ownership interest or voting rights in Aimet without first

paying the amount shown on the capital tables . . . [i]nstead all of Sturrus’

communications and all documentation . . . reflected Gallatin’s intent and obligation

to purchase its equity securities from Aimet before or contemporaneously with its

receipt of its ownership interest or voting interest in Aimet.” (Ver. Compl. ¶¶ 46–47.)

In addition, Plaintiffs allege the capital tables presented by Sturrus to Plaintiffs,

including the final table in the Operating Agreement, indicated that Gallatin was

making a cash contribution. (Ver. Compl. ¶¶ 44, 56–57.) These allegations sufficiently

allege statements of existing fact, and not future intent, to survive dismissal at this

stage of the litigation.

56. Even if Sturrus’s representations were characterized as statements

regarding future events, Plaintiffs have alleged that Sturrus made the statements

knowing that they were false and with no intention that Gallatin would make its full

capital contribution. (Ver. Compl. ¶¶ 122, 126―27.) “As a general rule, a mere

promissory representation will not support an action for fraud. However, a

promissory misrepresentation may constitute actual fraud if the misrepresentation

is made with intent to deceive and with no intent to comply with the stated promise

or representation.” Braun v. Glade Valley Sch., Inc., 77 N.C. App. 83, 87, 334 S.E.2d

404, 407 (1985) (citations omitted); McKee v. James, 2013 NCBC LEXIS 33, *26 (N.C.
Super. Ct. July 24, 2013). Plaintiffs’ allegations regarding the misrepresentations

would support a claim for fraud.

57. Defendants next argue that Plaintiffs could not reasonably have relied

on representations that Sturrus made after SAW became a member of Aimet and

Wordsworth became a member of Aimet’s Board of Managers because Plaintiffs had

access to Aimet’s books and records and could have discovered that Gallatin had not

made its full contribution. (Defs.’ Mem. Supp. Mot. Dismiss 20–21.) This argument

would only apply to Plaintiffs’ fraud claim based on Wordsworth’s execution of the

Amended Note on October 30, 2015, and not the capital contribution to Aimet.

Although Defendants make scant argument in support of this contention and cite to

no authority, they apparently are relying on the principal that “when the party

relying on the false or misleading representation could have discovered the truth

upon inquiry, the complaint must allege that he was denied the opportunity to

investigate or that he could not have learned the true facts by exercise of reasonable

diligence.” Hudson-Cole Dev. Corp. v. Beemer, 132 N.C. App. 341, 346, 511 S.E.2d

309, 313 (1999). Plaintiffs’ allege Wordsworth executed the Amended Note on October

30, 2015, based on Sturrus’s statement that Gallatin would make its full contribution

by October 31, 2015. Wordsworth could not have discovered that Sturrus’s

representation was false by reviewing Aimet’s books on or before October 30, 2015.

Defendants’ argument based on Plaintiffs’ alleged lack of reasonable diligence must

fail at this stage of the case.
58. Based on the foregoing, the Court concludes that Defendants’ Motion to

Dismiss Plaintiff’s claims for fraud in violation of the NCSA (Ver. Compl. ¶¶ 120–32)

and common law fraud (Ver. Compl. ¶¶ 133–34) should be DENIED.

D. Vicarious Liability

59. Plaintiffs allege as a separate “claim” that Gallatin and Aimet should

be vicariously liable for Sturrus’s conduct. (Ver. Compl. ¶¶ 143–51.)8 Under common

law, “a principal will be liable for its agent’s wrongful acts under the doctrine of

respondeat superior when the agent’s act (1) is expressly authorized by the principal;

(2) is committed within the scope of the agent’s employment and in the furtherance

of the principal’s business; or (3) is ratified by the principal.” White v. Consol.

Planning, Inc., 166 N.C. App. 283, 296, 603 S.E.2d 147, 157 (2004). Plaintiffs allege

repeatedly that at all times Sturrus was acting as a partner and agent of Gallatin,

and as an officer, employee, and agent of Aimet. (See, e.g., Ver. Compl. ¶¶ 144–46.)

60. Plaintiffs also allege that Gallatin is liable under G.S. § 78A-56(c), which

imposes secondary liability on, inter alia, (1) persons who “control” a person found

liable under G.S. §§ 78A-56(a) or (b), including “every partner, officer, or director of

the person,” and (2) those who “materially aid[] in the transaction giving rise to the

liability.” (Ver. Compl. ¶ 117.) Plaintiffs do not expressly allege that Gallatin or Aimet

had “control” over, or provided any material aid, to Sturrus in soliciting the

8 To the extent Plaintiffs allege common law vicarious liability against Gallatin and Aimet,

such liability apples only to Plaintiffs’ claim for common law fraud. As discussed infra, the
claims under the NCSA are controlled by the statutory requirements for imposing secondary
liability. See G.S. § 78A-56(c). Plaintiffs do not argue that Gallatin and Aimet can be liable
for violations of the NCSA under common law vicarious liability.
transactions with Plaintiffs. Plaintiffs, however, do allege that Sturrus was a

principal in both Gallatin and Aimet; that both entities “knew of the false and/or

misleading nature of Sturrus’s actions, inactions, conduct, and representations”; and,

both entities benefitted from and ratified Sturrus’s actions. (Ver. Compl. ¶¶ 148, 150.)

The Court, under a liberal construction, finds that the Verified Complaint “broadly

but adequately alleges” that Gallatin and Aimet controlled Sturrus and “put

Defendants on notice of Plaintiffs’ claim for secondary liability” against them under

§ 78A-56(c). Atkinson v. Lackey, 2015 NCBC LEXIS 21, **27–28 (N.C. Super. Ct. Feb.

27, 2015).

61. The Court concludes that Plaintiffs have sufficiently alleged grounds for

imposing common law vicarious liability on Gallatin and Aimet on the claim for

common law fraud, and for secondary liability against Gallatin and Aimet under G.S.

§ 78A-56(c). Defendants’ Motion to Dismiss Plaintiffs’ claims for vicarious liability

against Gallatin and Aimet should be DENIED.

E. Partnership Liability

62. Plaintiffs also allege a claim for “partnership liability” against

Alexander and Gallatin GP based on Sturrus’s conduct. (Ver. Compl. ¶¶ 152–54.) “It

is fundamental that ‘[e]very partner is an agent of the partnership for the purpose of

its business,’ and that a partnership is generally bound by acts of a partner done to

further the business of the partnership.” Hedgecock Builders Supply Co. v. White, 92

N.C. App. 535, 543, 375 S.E.2d 164, 170 (1989) (quoting G.S. §59-39(a)). Partnership

liability may lie when (1) the partner was acting on behalf of the partnership and was
authorized to so act; or (2) the partners, with knowledge of the transaction, thereafter

ratified the acts of their partner. Id. at 543–44, 375 S.E.2d 164, 170.

63. Plaintiffs allege that “Sturrus, Alexander, and [Gallatin GP], as

partners of [Gallatin LP], are liable to SAW and to Wordsworth to the same extent as

[Gallatin LP].” (Ver. Compl. ¶ 153.) Defendants make no substantial argument in

support of dismissal of the allegations of partnership liability.

64. The Court finds it premature to determine whether Alexander and

Gallatin GP are liable to the same extent as Sturrus under a theory of partnership

liability. Defendants’ Motion to Dismiss Plaintiffs’ claim for partnership liability

against Alexander and Gallatin GP should be DENIED.

THEREFORE, IT IS ORDERED that:

65. To the extent Plaintiffs allege claims for fraud in violation of the NCSA

(Ver. Compl. ¶¶ 120–32) and common law fraud (Ver. Compl. ¶¶ 133–34) based on

Wordsworth’s execution of the Demand Note, Defendants’ Motion to Dismiss is

GRANTED.

66. Except to the extent granted herein, Defendants’ Motion to Dismiss

Plaintiffs’ Verified Complaint is DENIED.

This the 25th day of August, 2017.

/s/ Gregory P. McGuire
Gregory P. McGuire
Special Superior Court Judge
for Complex Business Cases