Eleventh Circuit Respects State Court Litigation by Refusing to Apply a Broad Interpretation of the Relitigation Exception Under the Anti-Injunction Act

In SFM Holdings, Ltd. v. Banc of America Securities, LLC, No. 9:06-cv-80652-KLR (11th Cir. Sept. 4, 2014), the Eleventh Circuit upheld the district court’s injunction barring relitigation of three of the plaintiff’s contract claims and its finding that since these claims had already been litigated in a prior federal proceeding under the exact same facts and theories, the prior proceeding’s findings precluded relitigation in the current suit. However, the circuit reversed the lower court’s injunction that purported to bar relitigation of the plaintiffs’ conspiracy claim and one of its contract claims, holding that since these claims were now brought under a different legal theory, the claims fell under the relitigation exception of the Anti-Injunction Act, 28 U.S.C. § 2283, and could be relitigated in the current suit.

In 2004, plaintiff Dr. Salomon Melgen invested $15,000,000 in an account at defendant Banc of America Securities, LLC (“BAS”). Melgen made his investment through another entity, plaintiff SFM Holdings, Ltd. (“SFM”).  Further, one of Melgen’s friends, Jerome Fisher, advised Melgen to put his assets under John Kim’s management, claiming that Kim had been producing profits for him.  Following Fisher’s advice, Melgen signed a Trading Authorization Form, designating Kim as his agent and permitting Kim to trade securities in his SFM account at BAS. Melgen also signed a Prime Broker Margin Account Agreement (“PBA”) and an Institutional Account Agreement (“IAA”), officially establishing his account at BAS.  However, Fisher failed to inform Melgen that Fisher’s BAS account was experiencing large losses, allegedly due to the poor supervision of Kim and his business partner, Won Lee.  As a result, BAS informed Lee that additional assets were needed to cover the losses. A few months after establishing his BAS account, Melgen realized that his total investment of $15 million held in the SFM account at BAS was gone. Melgen and SFM allege in this current suit that Lee allocated $9 million to cover the losses in Fisher’s account and allocated any trading gains to Fisher’s account and trading losses to SFM. Despite the fact that Lee lacked authorization to trade in Melgen’s account, BAS allowed him. Lee stole Melgen’s remaining funds by transferring them into an entity called Shoreland Trading. BAS executed this transfer by relying on a letter with Melgen’s forged signature.

In 2006, Melgen and SMF filed a complaint (“2006 Federal Complaint”) in federal court against BAS claiming breach of fiduciary duty and constructive fraud. The district court dismissed the complaint with prejudice finding that both claims were flawed; both claims rested on the allegation that BAS owed a fiduciary duty, yet the plain language of the PBA contract specifically stated that BAS did not owe a fiduciary duty. On appeal, the Eleventh Circuit affirmed the district court’s dismissal and denied SFM leave to amend. Prior to the conclusion of this appeal, Melgen and SFM filed a new lawsuit in 2008 against BAS in state court claiming breach of the PBA and IAA contracts and breach of the implied covenant of good faith and fair dealing for both contracts. SFM later amended its complaint in 2012 (“2012 State Complaint”) to include a conspiracy claim as well as four contract-based claims. Afterwards, BAS sought an injunction in federal court asserting that SFM’s state action was precluded by the district court’s dismissal with prejudice of SMF’s first federal case. The district court granted the injunction and SFM appealed, arguing that the injunction was improper under the Anti-Injunction Act. The district court’s injunction is the source of this appeal to the Eleventh Circuit.

The Eleventh Circuit first explained the Anti-Injunction Act, which prohibits a federal court from granting an injunction to stay a state court proceeding. The relitigation exception, however, allows a federal court to grant an injunction “to protect or effectuate its judgments” by “prevent[ing] state litigation of a claim or issue that previously was presented to and decided by the federal court.” 28 U.S.C. § 2283; Smith v. Bayer Corp., 131 S. Ct. 2368, 2375 (2011) (quoting Chick Kam Choo v. Exxon Corp., 486 U.S. 140, 147 (1999))(internal quotation marks omitted). The court emphasized that this exception is to be construed narrowly.

The Eleventh Circuit addressed whether SFM’s 2012 State Complaint addressed the same claims or issues that had been litigated and resolved by SFM’s federal lawsuit. The court first addressed SFM’s conspiracy claim in the 2012 State Complaint, which alleged that “BAS engaged in a conspiracy with Fisher, Kim, Lee, and Shoreland Trading to mislead Dr. Melgen, and conceal the truth from him concerning the fraud and conversion of SFM funds.” SFM Holdings, LTD. at *17 (internal quotation marks omitted). Although the 2006 Federal Complaint did not include a conspiracy claim, a conspiracy claim entails an underlying tort cause of action. Thus, the court reasoned if SFM’s 2012 State Complaint alleged that BAS conspired to commit different torts than were presented in its 2006 Federal Complaint, SFM could pursue its conspiracy claim in the state court proceeding. In comparing the two complaints, the court noted that the 2006 Federal Complaint asserted tort claims of BAS’s breach of fiduciary duty and constructive fraud based on BAS’s failure to inform SFM of Lee’s activities in the account and transfer of SFM’s funds based on the forged letter. In contrast, the 2012 State Complaint “contain[ed] a new narrative, wholly absent from its 2006 Federal Complaint,” because the tort claims underlying the 2012 State Complaint’s conspiracy claim were conversion and concealment. Id. at *22. Further, this “new story” attributed Melgen’s loss to BAS’s conduct before the transfer of funds as SFM claimed that BAS knew Kim and Lee were frauds, but worked with them to facilitate the conversion and conceal it from Melgen. Since these claims rested on a new legal theory, the court determined that the district court erred in enjoining SFM’s conspiracy claims.

SFM’s 2012 State Complaint also included four contract-based claims: breach of implied covenant of good faith and fair dealing for both the PBA and IAA contracts.  The court first held that SFM could not be enjoined from claiming that BAS breached the PBA contract if SFM’s argument was “based on the [new] theory that BAS participated in a scheme to convert SFM’s assets by the mechanism of allocation between accounts.”  Id. at 35. The court, however, concluded that SFM was barred from pursuing this claim if SFM relied on the “original theory of harm” in the 2006 Federal Complaint. Further, the court concluded that SFM’s claims of breach of the IAA contract, breach of implied covenant in IAA, and breach of implied covenant in PBA were foreclosed by the 2006 Federal Complaint since these claims also rested on the original theory of harm rather than the new theory of misallocation.  In conclusion, the Eleventh Circuit reversed the district court’s injunction order as to SFM’s conspiracy claim and one of SFM’s contract claims, yet affirmed the injunction order for the remaining contract claims. The deciding factor in whether to apply the relitigaiton exception was not the similarity of facts, but rather, the different theories presented in both complaints.

The dissent argued that all of SFM’s claims brought in its 2012 State Complaint should be foreclosed by the 2006 Federal Complaint. First, the dissent noted that SFM never alleged that BAS was a conspirator in the conversion. Further, SFM’s “new” theory in their 2012 State Complaint was merely a more detailed version of the original theory of harm found in the 2006 Federal Complaint. In accordance with this reasoning, the dissent concluded that all of SFM’s claims should be foreclosed since they were all based on the original theory of harm.

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