Judge: Daniel S. Murphy, Case: 23STCV22561, Date: 2024-02-26 Tentative Ruling

Case Number: 23STCV22561    Hearing Date: February 26, 2024    Dept: 32

BACKGROUND

            On September 18, 2023, Plaintiffs Jonathan Martin and Paul Scott filed this action against Defendant Curative, Inc. Plaintiffs filed the operative First Amended Complaint (FAC) on November 16, 2023, adding Defendant Fred Turner. The FAC asserts causes of action for (1) fraudulent inducement, (2) breach of contract, and (3) breach of the implied covenant of good faith and fair dealing.

            The dispute stems from a joint venture to distribute COVID tests in 2020. Plaintiffs owned KorvaLabs, Inc., a laboratory with the capability and infrastructure to develop and distribute COVID tests. Defendant Curative, whose CEO is Defendant Turner, partnered with KorvaLabs, and the two formed the joint venture known as Curative-Korva LLC. Plaintiffs allege that after Turner visited Washington, D.C. to discuss a potential billion-dollar deal with the U.S. military, Defendants sought to reap the profits for themselves and proposed to amend the joint venture accordingly. Because Defendants’ interests no longer aligned with Plaintiffs’, the parties agreed for Curative to buy out Plaintiffs’ interest in KorvaLabs.  

            Defendants allegedly proposed a reduction in the sales price in exchange for providing Plaintiffs with shares or stock options. These representations were allegedly false and induced Plaintiffs into signing the Stock Purchase Agreement (SPA) containing a lower sales price. Plaintiffs further allege that Defendants breached the agreement by failing to issue shares or stock options.

            On December 18, 2023, Defendants filed the instant demurrer to the FAC. Plaintiffs filed their opposition on February 9, 2024. Defendants filed their reply on February 16, 2024.

LEGAL STANDARD

A demurrer for sufficiency tests whether the complaint states a cause of action. (Hahn v. Mirda (2007) 147 Cal.App.4th 740, 747.) When considering demurrers, courts read the allegations liberally and in context. (Taylor v. City of Los Angeles Dept. of Water and Power (2006) 144 Cal.App.4th 1216, 1228.) In a demurrer proceeding, the defects must be apparent on the face of the pleading or by proper judicial notice. (Code Civ. Proc., § 430.30, subd. (a).) A demurrer tests the pleadings alone and not the evidence or other extrinsic matters. (SKF Farms v. Superior Court (1984) 153 Cal.App.3d 902, 905.) Therefore, it lies only where the defects appear on the face of the pleading or are judicially noticed. (Ibid.) The only issue involved in a demurrer hearing is whether the complaint, as it stands, unconnected with extraneous matters, states a cause of action. (Hahn, supra, 147 Cal.App.4th at 747.)

MEET AND CONFER

Before filing a demurrer or a motion to strike, the demurring or moving party is required to meet and confer with the party who filed the pleading demurred to or the pleading that is subject to the motion to strike for the purposes of determining whether an agreement can be reached through a filing of an amended pleading that would resolve the objections to be raised in the demurrer. (Code Civ. Proc., §§ 430.41, 435.5.) The Court notes that Defendants have complied with the meet and confer requirement. (See Kumar Decl.)

DISCUSSION

I. Breach of Contract

            a. Delaware Law on Breach of Contract

The SPA contains a choice-of-law provision selecting Delaware law. (FAC, Ex. 1, § 8.8.) Under Delaware law, breach of contract requires (1) a contractual obligation, (2) a breach of that obligation, and (3) a resulting damage. (Great Hill Equity Partners IV, LP v. SIG Growth Equity Fund I, LLLP (Del. Ch., Dec. 3, 2018, No. CV 7906-VCG) 2018 WL 6311829, at *45.) “Unless there is ambiguity, Delaware courts interpret contract terms according to their plain, ordinary meaning.” (Daniel v. Hawkins (Del. 2023) 289 A.3d 631, 645.) A contract is ambiguous “when we may reasonably ascribe multiple and different interpretations” to it. (Estate of Osborn v. Kemp (Del. 2010) 991 A.2d 1153, 1160.) However, an interpretation is not reasonable if it “produces an absurd result or one that no reasonable person would have accepted when entering the contract.” (Ibid.)

b. The Contractual Provision at Issue

            The contractual provision at the heart of this dispute is Section 5.9 of the SPA, which provides as follows:

“Subject to the approval of its board of directors, the Buyer will recommend that each Stockholder receive an option to purchase a number of shares of Common Stock of the Company equal to $2,000,000 multiplied by their pre-Closing ownership in the Company divided by (x) the price per share of the Buyer’s Series A Preferred Stock minus (y) the exercise price (the “Option”), with (A) fifty percent (50%) of the shares subject to the Option vesting immediately and (B) the remaining fifty percent (50%) will vest on June 15, 2020. The Option will be issued with an exercise price equal to the fair market value per share of the Common Stock on the date of grant, as determined by the Company’s Board of Directors. The Option will be subject to the terms and conditions of the Company’s 2020 Equity Incentive Plan and a stock option agreement between such Stockholder and the Company, including vesting requirements. Each Stockholder can alternatively elect to receive the Option as a grant of Common Stock, which such Stockholders acknowledges will be fully taxable upon grant.” 

(FAC, Ex. 1.)

            c. Defendants’ Purported Breach

Here, the FAC alleges that “Defendant materially breached the SPA by failing to provide Plaintiffs with the opportunity to receive and exercise the promised Stock Options/Shares.” (FAC ¶ 114.) The FAC further alleges that while Defendant purported to present such an opportunity to Plaintiffs, “what Defendant actually did was try and create a new agreement rather than adhere to the terms that had already been agreed to in the SPA.” (Id., ¶ 115.) Specifically, “Defendants presented a stock option agreement with a termination date. The actual, bargained-for agreement had no such termination date. Further, the termination date had already passed by the time it was presented to Plaintiffs.” (Ibid.) The FAC alleges that Defendants set up “technical barriers” that made it impossible for Plaintiffs to exercise the option and that “[t]he limited stock options presented were seemingly unlike the Stock Options/Shares that had been bargained for and agreed to within the SPA.” (Id., ¶¶ 116-117.) 

            d. Equity Incentive Plan and Stock Option Agreement

            Defendants argue that under the SPA, the options would be governed by the 2020 Equity Incentive Plan (EIP) and a stock option agreement (SOA), and Plaintiffs cannot now allege that their options were not subject to these agreements. The EIP provides that Curative would “determine the terms and conditions” of any issued options, including “the time or times when [an option] may be exercised.” (Kumar Decl., Ex. 1, § 4(b)(v).) The SOA provides that the options would terminate three months after Plaintiffs ceased being Service Providers. (FAC, Ex. 3.)

Defendants contend that Plaintiffs ceased being Service Providers on October 13, 2020, the date the SOA was sent, because the letter accompanying the SOA confirmed that Plaintiffs “have completed those services [related to the transition of KorvaLabs] and concluded all other services as of the date of this letter.” (Ibid.) According to the FAC, Plaintiffs attempted to exercise their options in September 2021 and September 2023, more than three months after October 13, 2020. (FAC ¶¶ 71-72.) As a result, Defendants argue that they did not breach the SPA by failing to provide an option; instead, Defendants provided the option and Plaintiffs failed to exercise it on time.  

                        1. Judicial Notice of the EIP

First, the Court cannot consider the purported EIP, which Defendants present as extrinsic evidence attached to the declaration of their counsel. Nor can the Court take judicial notice of the document under Evidence Code section 452(h), as claimed in Defendants’ Request for Judicial Notice. Section 452(h) allows judicial notice of “[f]acts and propositions that are not reasonably subject to dispute and are capable of immediate and accurate determination by resort to sources of reasonably indisputable accuracy.” This does not apply to the purported EIP, which is reasonably subject to dispute and cannot be immediately verified by a source of indisputable accuracy.

While a court may take judicial notice of a contract or document referenced in the complaint (Salvaty v. Falcon Cable TV (1985) 165 Cal.App.3d 798, 800, fn. 1), the agreement that is referenced here (the SPA) is already incorporated into the FAC and attached in its entirety. Plaintiffs have not left out any portion of the SPA that needs to be judicially noticed. Although the SPA mentions the 2020 EIP, it cannot be indisputably determined at the pleading stage that the document attached to defense counsel’s declaration is the true 2020 EIP. Defendants point out that under Delaware law, a document that is expressly incorporated by reference into another contract becomes a binding part of that contract. However, Delaware law on the interpretation of contracts does not affect California procedural law on judicial notice and demurrers. (See Mave Enters. v. Travelers Indem. Co. (2013) 219 Cal.App.4th 1408, 1429 [California courts apply California procedural laws absent an express agreement to the contrary].)

            Furthermore, the EIP alone does not defeat Plaintiffs’ claim. The EIP at most authorizes Defendants to impose conditions on the issuance of an option. Defendants rely on the purported SOA sent in October 2020 as the document imposing such conditions. Therefore, the issue is whether the October 2020 SOA constitutes a proper option satisfying Section 5.9 of the SPA. As discussed below, this is a factual dispute unsuited for resolution on demurrer.    

            2. Dispute Regarding the October 2020 SOA

On a demurrer, the Court must assume the allegations are true, not the version of events presented by Defendants. Reasonable inferences are drawn in Plaintiffs’ favor, not Defendants’. Here, Plaintiffs allege that they ceased being Service Providers in May 2020, when they signed their resignation letters. (FAC ¶ 57.) Contrary to Defendants’ assertion, Section 5.7 of the SPA does not expressly or indisputably require Plaintiffs’ continued services after their resignations. The provision is reasonably subject to interpretation. And the definition of “Service Provider” in the EIP is not necessarily binding because the EIP is disputed, as discussed above.

Thus, for pleading purposes, it is assumed true that Plaintiffs ceased being service providers in May 2020. Under the three-month deadline imposed by the purported SOA, Plaintiffs’ options would have expired in August 2020, before the SOA was issued. (FAC ¶ 58.) Therefore, Plaintiffs allege that they never signed the SOA and that the SOA is not a contract. (Id., ¶¶ 60-61.) The purported SOA attached to the complaint is indeed unsigned. (Id., Ex. 3, 4.) Plaintiffs attached the document to the FAC, not as an admission that the SOA is a binding contract or that the representations made therein are true, but as an exhibit to show how Defendants sent them a purported option that was impossible to exercise. Even if the SPA provides that any option would be governed by an SOA, it cannot be determined on a demurrer that the October 2020 document constitutes the actual SOA that governed Plaintiffs’ options.

Defendants’ remaining arguments based on the October 2020 SOA necessarily fail at this stage because the October 2020 SOA has not been determined as a valid binding contract between the parties, or a valid document at all. Therefore, there is a factual issue over whether Defendants tendered an option in compliance with the SPA.  

II. Implied Covenant of Good Faith and Fair Dealing

“The implied covenant of good faith and fair dealing inheres in every contract and requires ‘a party in a contractual relationship to refrain from arbitrary or unreasonable conduct which has the effect of preventing the other party to the contract from receiving the fruits’ of the bargain.” (Kuroda v. SPJS Holdings, L.L.C. (Del.Ch. 2009) 971 A.2d 872, 888.) “The implied covenant seeks to enforce the parties' contractual bargain by implying only those terms that the parties would have agreed to during their original negotiations if they had thought to address them.” (Gerber v. Enter. Prods. Holdings, LLC (Del. 2013) 67 A.3d 400, 418.) If “the language of the contract expressly covers a particular issue, . . . the implied covenant will not apply.” (Cygnus Opportunity Fund, LLC v. Wash. Prime Grp., LLC (Del.Ch. 2023) 302 A.3d 430, 458.) Nevertheless, “even the most carefully drafted agreement will harbor residual nooks and crannies for the implied covenant to fill.” (Gerber, supra, 67 A.3d at p. 419.)

Defendants argue that the implied covenant claim is wholly derivative of the breach of contract claim because the basis for both claims is Defendants’ alleged failure to provide stock options. The FAC alleges that the implied obligation was to grant the stock options or shares in accordance with Section 5.9 of the SPA and that Defendants breached that obligation by not providing the stock options or shares. (FAC ¶ 127.) This is precisely the breach of contract claim. Plaintiffs have failed to articulate an implied obligation separate from the express obligations imposed by Section 5.9 of the SPA. Therefore, the implied covenant claim is inadequately pled.

III. Fraud

Fraud must be pleaded with specificity rather than with general and conclusory allegations. (Small v. Fritz Companies, Inc. (2003) 30 Cal.4th 167, 184.) The specificity requirement means a plaintiff must allege facts showing how, when, where, to whom, and by what means the representations were made. (Lazar, supra, 12 Cal.4th at p. 645.)

Defendants argue that the FAC fails to plead fraud with specificity because it does not allege specific facts showing how Defendants knew their representations to be false. However, at the pleading stage, “it is not necessary to allege the circumstantial evidence from which it may be inferred that the representation or promise was false -- these are evidentiary matters which give rise to the misrepresentation. The only essential allegation is the general statement that the representation or promise was false and that the defendant knew it to be false at the time it was made.” (Universal By-Products, Inc. v. City of Modesto (1974) 43 Cal.App.3d 145, 151.) Knowledge of falsity is an ultimate fact sufficient for pleading. The evidentiary facts demonstrating knowledge should be left for discovery. Therefore, Plaintiffs have adequately pled fraud.

CONCLUSION

            Defendants’ demurrer is SUSTAINED with leave to amend as to the third cause of action and OVERRULED in all other respects.