When employees cause harm to third parties, those parties often seek to hold the employer responsible. Employees often rely upon the names and reputations of their employers to open doors to client relationships and to create an assumption of skill and trust. If an employee abuses that access, the employer may be held liable to third parties who are defrauded by the employee under two legal theories. As discussed in a prior post, a plaintiff may bring a claim for negligent hiring. Another option is suing for negligent supervision and retention of an employee. Liability is difficult to establish under this theory, but a recent New York Court of Appeals decision in Moore Charitable Foundation v. PJT Partners, Inc. illustrates when such a claim may be permissible.  

The facts of Moore, as set forth in the complaint, are as follows: The defendants were an investment bank and one of its divisions. One of the bank managers had a known reputation for drinking excessively and engaging in extensive high-risk securities trades for his personal accounts during work hours. Despite this, he still proved to be a productive employee, who brought in a $500 million transaction, for which the investment bank was to receive a fee of approximately $8 million. However, when the deal closed, the employee used the bank’s letterhead and email addresses to instruct the client to wire the $8 million to his personal account. The bank later asked the employee what happened to the fee. The employee told them that it was not going to be received until a “stub closing” occurred at a later date (meaning the fee would be paid after a smaller part of the deal closed after the primary closing). The bank accepted this explanation without further investigation, even though it was familiar with both the general timing of fee payments on transactions of this type and the terms of this deal in particular.

This manager’s actions left him with the problem of where to get the $8 million to repay his employer. He again used the bank’s letterhead, confidential documentation and other materials to solicit the plaintiff Charitable Foundation to invest in a purported debt financing transaction with a “15% no risk guaranteed return.” The charitable foundation ultimately invested $25 million, which was likewise diverted by the employee, and lost in speculative personal investment transactions. When the charity learned what had happened, it sued the bank as the employer for negligent supervision and retention of the employee.

The trial court dismissed the complaint holding that the employer did not have notice of the employee’s propensity to commit fraud.  The New York Appellate Division affirmed on those grounds and also because the plaintiff was not a former client of the bank before the incident, and therefore, the defendant had no duty to it. The plaintiff appealed to the Court of Appeals which reversed the dismissal.

The Court’s decision reviewed the elements of a claim for negligent supervision and retention which require the following:

• The employer had actual or constructive knowledge of the employee’s propensity for the sort of behavior which caused the injured party’s harm;
• The employer knew it had the ability to control the employee and the need to exercise such control; and
• The employee engaged in tortious conduct on the employer’s premises or using property/resources only available to the employee because of his status as employee.

The Court agreed with the two lower courts that the allegations of workday drinking and speculative personal trading were not evidence of the propensity to commit fraud. However, it disagreed on the other points. The Court held that the employer had a duty to further investigate the circumstances around the stolen $8 million fee, and therefore “should have known” of the employee’s propensity to commit fraud. The decision makes clear that actual knowledge is not a requirement.

As to the second grounds for dismissal, that the defendant had no duty to the plaintiff, the Court of Appeals held that no privity or special relationship between the harmed party and the employer was required. Typically, there is a requirement of privity because of a concern that it would open defendants to excessive potential liability to an unknown group of plaintiffs. However, the Court noted this was not a concern in negligent supervision and retention claims because of these factors:

• Employers generally have a duty to supervise employees;
• Employers must have already had knowledge of an employee’s fraudulent tendencies;
• The employer’s only duty is to act as a prudent and reasonable employer; and
• The need to show that the employer’s negligent acts were the proximate cause of the harm protected against liability that was too attenuated.

Accordingly, the Court held that the plaintiff’s claim should not have been dismissed and sent the case back to the trial court.

If you are considering bringing an action against an employer based on negligent hiring, supervision or retention or you are an employer defending against such a claim, contact one of our attorneys to discuss how we can help.