In The Moore Charitable Foundation et al. v. PJT Partners, Inc. et al., the New York Court of Appeals reversed the Appellate Division’s decision regarding the sufficiency of a cause of action pleaded against an investment bank for its negligent supervision and retention of an employee.

Background

The Moore Charitable Foundation (Moore) alleged that PJT Partners, Inc. (PJT Partners) was negligent in the supervision of their employee, resulting in the employee defrauding them of $25 million under the guise of his employment as part of scheme to cover up personal trading losses and embezzlements. The Court of Appeals determined that the Appellate Division erred in dismissing Moore’s negligence claim at the pleading stage, holding that PJT Partners was on notice of their employee’s propensity to commit fraud prior to his interactions with Moore and that PJT Partners’ duty of supervision included customers and employees.

The pertinent parts of Moore’s allegations included that PJT Partners hired the subject employee in 2013 to manage its secondary business with the primary duty to start a new business line focusing on “fund recapitalization” work by representing private equity fund managers interested in offering liquidity to their investors. PJT Partners gave the employee significant authority to solicit potential clients by telephone and email using PJT Partners’ brand names and resources. The employee was successful and high-performing, but displayed signs of destructive behaviors by engaging in “high-risk securities trading” from personal accounts during work hours using a variety of devices, including devices provided to him by PJT Partners. In addition, at some point, the employee began to drink excessively, holding meetings with colleagues while inebriated.

Nevertheless, in 2014, the employee landed a major deal for PJT Partners involving the recapitalization of a private equity fund managed by Irving Place Capital, a leading middle-market private equity firm. The employee’s responsibility was to find new investors interested in buying out the fund’s existing equity holders. The employee found a lead buyer in the transaction at the price of $500 million. PJT Partners’ deal fee from that transaction was $8.1 million. When the time came for the transfer, the employee diverted the fee to himself by sending a sham invoice directing Irving Place to send the fee into an account created and controlled by the employee. The employee used the deal fee funds to purchase securities on his personal account, promptly losing all of their value.

A month after closing the deal, some employees of PJT Partners asked the employee about the missing fee, to which the employee responded the fee would not be paid until a “stub closing” was complete. Moore alleged that PJT Partners knew or should have known that this was an implausible explanation because they would have received their fee in connection with the primary closing and there would have been a pro rata portion of the fee attributable to the “stub” part of the deal. Moore alleged that there was no explanation or further inquiry about the delayed payment.

In an effort to cover the missing fee, the employee devised a scheme to obtain replacement funds from Moore. He contacted Moore using PJT Partners’ email and sent financial reports obtained from their data room in order to have them agree to a “risk-free” investment opportunity. PJT Partners alleged that the employee falsely told them that the opportunity was related to the Irving Place transaction.

In November 2015, Moore agreed to invest $25 million. The employee provided instructions to have the funds sent to an account he created but appeared to belong to an Irving Place affiliated entity. Moore alleged that they sent the funds based on PJT Partners’ reputation and the employee’s position. In March 2016, Moore discovered the fraud after they requested and were told that the signatory of the promissory note did not exist. Later that year, the employee was sentenced to four years’ imprisonment after pleading guilty to securities fraud and mail fraud charges, and was ordered to pay restitution. After the employee failed to pay restitution, Moore commenced an action against PJT Partners for negligent supervision and retention of the employee.

Lower Court Rulings

The New York Supreme Court dismissed Moore’s negligent supervision and retention claims based on the failure to adequately plead that PJT Partners were on notice of the employee’s propensity for fraud and failure to consider whether PJT Partners’ duty ran only to customers. The court allowed Moore’s remaining claims to survive. However, on a cross-appeal, the Appellate Division dismissed Moore’s Complaint in its entirety, affirming the dismissal of the negligent supervision and retention claim because Moore did not allege that PJT Partners was aware of the facts that would have put them on notice of the employee’s criminal propensity, and failed to allege that Moore was a customer of PJT Partners.

Rule of Law

Where a claim relates to negligent retention and supervision of an employee, it must plead that (1) the employer had actual or constructive knowledge of the employee’s propensity for the sort of behavior that caused the injured party’s harm, (2) the employer knew or should have known it had the ability to control the employee and of the necessity and opportunity for exercising such control, and (3) the employee engaged in tortious conduct on the employer’s premises or using property or resources available to the employee only through their status as an employee.

Court of Appeals Holding

The Court of Appeals, however, reversed the Appellate Division’s decision, determining that a claim for negligent supervision and retention was properly pleaded and a customer relationship is not a prerequisite to duty in a negligent supervision claim. The Court explained that a negligent supervision and retention claim is not limited to actual knowledge. Rather, it also encompasses when the employer should have known of the facts or events evidencing the employee’s propensity to commit the wrongful act yet still placed the employee in a position to cause foreseeable harm. In other words, notice is established if a reasonably prudent employer exercising ordinary care under the circumstances would have been aware of the employee’s propensity to engage in the injury-causing conduct. If the facts alleged in the Complaint permit an inference that the employer should have been aware, the allegation is sufficiently pleaded and will survive a pre-answer motion to dismiss.

The Court of Appeals disregarded Moore’s allegation that PJT Partners had notice of the employee’s propensity to commit fraud based on his excessive drinking and obsessive personal stock trading during business hours because it was not similar conduct to the “injury-causing act.” However, the Court determined that notice was established based on the employee’s response after PJT Partners’ other employees inquired about the $8.1 million deal fee from Irving Place. The Court stated that PJT Partners’ employees should have recognized the explanation as false or questionable based on their familiarity with Irving Place and the typical payment structure of stub closings, which a reasonable employer would have investigated and uncovered regarding the prior fraud. Moore also alleged that discovery would reveal that the employee engaged in other similar schemes. Therefore, the Court of Appeals held that it could not dismiss the negligent supervision claim under those circumstances.

The Court of Appeals further set forth that it never held that negligent supervision and retention claims can only be maintained by customers of the employer. The Court further explained that the employee’s conduct was not too attenuated from his employment relationship because Moore alleged that they were prospective customers solicited by the employee to participate in a financing arrangement related to PJT Partners’ legitimate business deals, supported by its legitimate documentation and information given to the employee as part of his employment.

Takeaways

The Moore Charitable Foundation et al. v. PJT Partners, Inc. et al. decision sets an important precedent that employers should be aware of, namely, the notice requirements and how far beyond customer relationship does negligent supervision and retention extend. First, the Court explained that the notice pleading requirement for negligent retention and supervision includes constructive notice, which is properly pleaded if it is alleged that there is similar prior conduct to the injury-causing act that the employer did not investigate, and that a reasonable employer would have investigated under the circumstances. Second, negligent supervision and retention is not limited to customers. Instead, it is sufficient if the harm allegedly inflicted stems from an employee’s use of their employer’s product and services to cause the injury-causing act.

This case is a great reminder for employers to ensure that they have procedures in place to investigate questionable conduct of employees that may lead to harm to the general public, and to reinforce prior decisional law on duty in general in causes of action sounding in negligence.