GERALDINE MUND, Bankruptcy Judge.
Defendants Andrews Kurth LLP, Michael D. Jewesson & Jon L. Dalberg ("Defendants") bring this motion for summary judgment ("MSJ") on grounds of in pari delicto.
Although the parties have a filed a significant amount of paper disputing what are "uncontroverted facts", most of the essential factual background for this motion is not in dispute:
Quality Home Loans, Inc. ("QHL") was formed in 2001 by John and Kitty Gaiser (the "Gaisers"), who each owned 50% of QHL. Its business was originating, servicing, buying and selling sub-prime mortgages.
To fund its business, QHL formed the plaintiffs in this adversary proceeding, QHL Holdings, Fund Ten, LLC ("Fund Ten") and Golden State T.D. Investments, LLC ("Golden State" and, with Fund Ten, the "Funds"). QHL was the initial Member and initial Manager of each Fund. See Amended and Restated Operating Agreement of Fund Ten dated 5/3/05 and Amended and Restated Operating Agreement of Golden State dated 3/31/05 (the "Operating Agreements"), which are Defendants' Exhibits A & B and Plaintiffs"
The Funds' stated purposes were "to acquire, hold and liquidate promissory notes secured by deeds of trust and mortgages to real property in the United States of America, and to distribute to the Members the Available Cash therefrom." Operating Agreements ¶ 2.4 (the "liquidate" purpose was only in Golden State's Operating Agreement.)
The Funds had no employees and were managed by QHL (which remained the only manager of each Fund through the events described herein) under the terms of Operating Agreements. The Operating Agreements gave QHL, as manager, authority to "manage and direct" the Funds (¶ 5.3), but required approval of a majority of member shares before the manager could act with respect to:
Operating Agreements ¶ 5.4 (provision C in brackets is only in Fund Ten's Operating Agreement).
In May and June of 2007 QHL and the Funds entered into three separate transactions: one with Silar Advisors, L.P., one with Pacificor, LLC and one with Bayview Financial, LP (the "Transactions"). Andrews Kurth was special counsel to QHL and the Funds (as well as another related entity) in the Transactions and issued opinions that were conditions to closing in each Transaction.
The particulars of these Transactions are not clear from the papers and the harm to the Funds arising from these transactions is a disputed fact that is the crux of this MSJ. Plaintiffs have presented some evidence that the Transactions sold, pledged or otherwise put the assets of the Funds at risk, in transactions that benefitted QHL, but not the Funds. In early 2007, QHL was experiencing cash flow difficulties and was trying to "shore up" with the Silar Transaction and possibly the Pacificor transaction. Miller Dec. at ¶ 9; 5/17/07 e-mail of Michael Jewesson, which is Plaintiffs' Exhibit 10. The Funds were not experiencing cash flow difficulties, at least through March 2009. Miller Dec. at ¶ 9. The Pacificor Transaction gave Pacificor the right to pursue remedies against QHL and the Funds upon default by any of them. See Draft Repurchase Agreement with accompanying e-mails, which is Plaintiff's Exhibit 7; Notice of Motion and Motion of Pacificor, LLC for Order Confirming
On 8/21/07 QHL and the Funds filed for chapter 11 relief.
On 8/14/09, the Funds commenced an action against the Defendants in Los Angeles Superior Court (# BC419791), which was removed to this court and became this adversary proceeding. In this proceeding, Plaintiffs allege that the Transactions damaged the Funds and would not have occurred without the opinion of Andrews Kurth. (The individually named defendants are Andrews Kurth attorneys who worked on the Pacificor transaction.) Plaintiffs assert claims against the Defendants for malpractice and breach of fiduciary duty. In essence, their claims allege (i) Andrews Kurth had a conflict of interest representing both QHL and the Funds and (ii) the Andrews Kurth opinion did not accurately reflect the terms of the Operating Agreements.
[REDACTED] The Bonds indemnified the Funds for, among other things, "Loss resulting solely and directly from one or more dishonest or fraudulent acts by an employee...." Complaint dated 4/15/10 commencing the Bond Action ¶ 9 (Defendants' Exhibit F).
Defendants have brought this MSJ on grounds of in pari delicto: that the Funds engaged in misconduct directly related to Defendants' alleged wrongdoing. In essence, they argue that the Funds admit to QHL's wrongdoing and QHL's misconduct should be imputed to the Funds (i) under principles of corporation and agency law and (ii) as a matter of judicial estoppel.
Defendants first allege that the Funds have admitted a laundry list of wrongdoing by Gaiser and QHL including falsifying documents, having the Funds make investments in worthless assets and assets that were not authorized under the Funds' Operating Agreements, theft of money from the Funds by QHL and amendment of the Funds' operating documents without the requisite member consent. The three 2007 Transactions were merely a continuation of this same fraudulent and dishonest scheme.
Defendants argue two grounds for imputing QHL's misconduct to the Funds. One, QHL's acts should be imputed to the Funds under principles of corporation and agency law that impute wrongful conduct of a corporate officer to a corporation that is wholly-controlled by that officer. Two, the Funds admitted in their Bond Action against Lloyd's that John Gaiser and other QHL employees were employees of the Funds when they committed their wrongful and fraudulent acts, so that judicial estoppel bars the Funds from denying that such employees acted for the Funds.
Under either of these imputation theories, QHL's misconduct must be directly
Plaintiffs' opposition to the MSJ initially argues their underlying case for breach of fiduciary duty by Defendants, which is not relevant to this MSJ.
The Funds next argue that QHL's misconduct should not be imputed to the Funds. Applicable law will not impute corporate officer wrongdoing to a corporation if the officer was acting against the interests of the corporation, as here. The "sole actor exception," which would impute liability notwithstanding such an adverse interest, should not be applied because QHL is not sole owner of the Funds and QHL was not the sole party with control over the Funds. The Funds also argue imputation is inappropriate against LLCs (as opposed to corporations) or as a shield to benefit wrongdoers such as the Defendants.
The Funds argue that their "admissions" in the Bond Action that QHL employees were employees of the Funds was in the limited context of their lawsuit against Lloyd's and should not be used to invoke judicial estoppel.
Defendants argue that any conflict of interest on the part of Andrews Kurth, as well as the fact that the Funds are LLCs and not corporations, are irrelevant to this MSJ.
They reassert that in pari delicto should be applied to this situation where wrongdoer Gaiser controlled the Funds through QHL and cite a "phalanx" of cases for this proposition. Defendants argue that the adverse interest exception should not apply because it requires the agent to "totally abandon" or be "entirely adverse" to the principal's interest. Furthermore, Plaintiff's have not presented admissible evidence of any such "adverse interest" and to the extent the money went to QHL, it benefited the Funds by providing them with management.
Finally, Defendants argue that Plaintiffs cannot admit that QHL employees are employees of the Funds for one purpose in the Bond Action, but not another in this proceeding.
The central issue in this MSJ is whether misconduct of QHL and its directors, officers and employees can be imputed to the Funds where the Funds had no employees, but, pursuant to their Operating Agreements, were managed by QHL, as the sole manager.
California follows the well-established principle that the acts and knowledge of an officer/agent can be attributed to a corporation/principal. Imputation may be appropriate even though the Funds are LLCs rather than corporations and QHL is a manager rather than the officer. Courts do not differentiate LLCs from more traditional corporations in this context. See, e.g., Elder v. Greer (In re Sand Hill Capital Partners III, LLC), 2010 WL 4269622, 2, 2010 Bankr.LEXIS 3785, 6 (Bankr.N.D.Cal. Oct. 22, 2010); 546-552 W. 146th St. LLC v. Arfa, 54 A.D.3d 543, 863 N.Y.S.2d 412, 415 (1st Dep't 2008). Furthermore, imputation of officer acts to the corporation is simply an application of more general agency law.
This attribution or imputation rule is subject to the "adverse interest" exception, which is in turn subject to the "sole actor" exception:
McHale v. Silicon Valley Law Group, 2011 WL 6990187, 5-6, 2011 U.S. Dist. LEXIS 151680, 17-18 (N.D.Cal. Dec. 14, 2011); see also Peregrine Funding, Inc. v. Sheppard Mullin Richter & Hampton LLP, 133 Cal.App.4th 658, 679-680, 35 Cal.Rptr.3d 31 (Cal.Ct.App. 1st Dist.2005); see generally Official Comm. of Unsecured Creditors v. R.F. Lafferty & Co., 267 F.3d 340, 358-359 (3d Cir.2001) (under Pennsylvania law); USACM Liquidating Trust v. Deloitte & Touche, LLP, 764 F.Supp.2d 1210, 1222 (D.Nev.2011)(under Nevada law).
While New York courts have required that the agent has "totally abandoned" the principal's interests and other courts have required "total" or "complete" adversity for the "adverse interest" exception to apply (see numerous authorities cited by Defendants in Reply at 9), California courts and the Ninth Circuit do not appear to require this heightened standard of self-dealing. See, e.g., O'Melveny, 969 F.2d at 750 ("there can be no attribution, and therefore no estoppel, when the insiders, rather than the corporation, benefit from the wrongdoing"); McHale, 2011 WL 6990187 at 5-6, 2011 U.S. Dist. LEXIS 151680 at 17 ("officer is engaged in an activity that is adverse to the interest of the corporation").
Defendants' argument that there is no evidence that QHL acted adversely to the Funds flies in the face of facts that Defendants rely on to initially establish QHL wrongdoing that should be imputed to the Funds. Defendants rely on this statement from the complaint: "It is abundantly clear from the Proof of Loss that John Gaiser, via the vehicle of his alter ego, QHL, recklessly and wantonly engaged in activities that directly caused the Funds, and, indirectly, their respective members, a financial loss of at least 58,000,000 [sic] via the financial collapse of the Funds." Defendants' Statement of Uncontroverted
While Plaintiff's evidence that QHL benefitted from the Transactions at the expense of the Funds is not strong, it is sufficient to raise a triable issue of fact that QHL acted adversely to the interests of the Funds, so QHL's misconduct should not be imputed to the Funds (unless the sole actor exception to the adverse interest exception applies.)
The fact that QHL is not the sole shareholder in the Funds does not necessarily prevent application of the "sole actor" exception. The weight of authority applies the exception if the agent/officer was either the sole shareholder or the sole manager of the corporation. See, e.g., Lafferty, 267 F.3d at 359-60 (sole ownership or domination grounds for the exception); USACM Liquidating Trust, 764 F.Supp.2d at 1220 ("The sole actor rule is most easily applied when the wrongdoer was also the corporate principal's sole shareholder or when all the corporation's management participated in the wrongdoing.") California law on this point is not entirely clear. In Peregrine, which the Funds rely on for the proposition that sole ownership is required for the exception to apply, the court's language is ambiguous: "Because Hillmann, one of the primary architects of the Ponzi scheme, was also the owner and sole person in control of Peregrine, his fraud is properly imputed to Peregrine." 133 Cal.App.4th at 679, 35 Cal.Rptr.3d 31. In this context, the phrase "owner and sole person in control" could mean that both ownership and control were necessary for the "sole actor" exception to apply, but it could also be read to mean that either sole ownership or control were sufficient to trigger the exception although both happened to be present in Peregrine.
Defendants' "phalanx" of authority that the adverse interest exception should not be applied to these facts is inapposite: the cases cited by Defendants usually involve corporations used by their principals to steal from outsiders, while QHL's wrongdoing was "theft" from the Funds themselves. And that distinction is crucial in the case law. Defendants point out the many similarities between this case and the facts underlying both Peterson v. Winston & Strawn, LLP, 2012 WL 4892758, 2012 U.S. Dist. LEXIS 147653 (N.D.Ill. Oct. 10, 2012) and Peterson v. McGladrey & Pullen, 676 F.3d 594 (7th Cir.2012) in which both courts imputed to several hedge funds the fraud of their corporate manager — thereby allowing the accounting firm and law firm involved an in pari delicto defense against an action by the hedge funds' bankruptcy trustee. Notwithstanding these similarities, the differences
McGladrey, 676 F.3d at 599. (The Northern District of Illinois in Winston & Strawn relied on the 7th Circuit's decision McGladrey to conclude that the principal was not acting adversely to the hedge funds. 2012 WL 4892758 at 4-5, 2012 U.S. Dist. LEXIS 147653 at 11-12.) QHL stole from the Funds, whereas the hedge funds in McGladrey and Winston & Strawn were used to steal from others. Likewise, in Cobalt Multifamily Investors I, LLC v. Arden, 857 F.Supp.2d 349 (S.D.N.Y.2011), the securities violations by the principals benefited the corporations they controlled, at the expense of outsiders. Knauer v. Jonathon Fin. Group, Inc., 348 F.3d 230 (7th Cir.2003) also involved a Ponzi scheme in which the corporations were used to bilk money from investors and the defendants' involvement in the Ponzi scheme was quite minor. Mosier v. Callister, Nebeker & McCullough, 546 F.3d 1271 (10th Cir.2008)(operation of debtor as Ponzi scheme was not an "adverse interest" where wrongdoing management pursued advantages for debtor).
In addition to the adverse interest exception, California courts also refuse to impute the acts or knowledge of an officer in a situation where that officer has no power to bind the corporation. Peregrine, 133 Cal.App.4th at 679, 35 Cal.Rptr.3d 31; McHale, 2011 WL 6990187 at 5-6, 2011 U.S. LEXIS 151680 at 17; Meyer v. Glenmoor Homes, Inc., 246 Cal.App.2d 242, 264, 54 Cal.Rptr. 786 (Cal.Ct.App. 1st Dist.1966), reh'g denied, 246 Cal.App.2d 242, 55 Cal.Rptr. 502 (Cal Ct.App. 1st Dist. 1966). QHL's lack of authority under the Operating Agreements to bind the Funds to the Transactions also raises this exception to imputation.
Finally, the Funds argue that the Defendants should not be able to shield themselves from liability using this imputation theory in the face of their own wrongdoing. In a remarkably similar set of circumstances, the Ninth Circuit stated:
FDIC v. O'Melveny & Myers, 969 F.2d 744, 751 (9th Cir.1992). Thus, the court ruled that O'Melveny could not attribute fraud committed by a bank's sole shareholders to the bank itself and thereby use an "unclean hands" defense to bar the bank's receiver's professional negligence action against O'Melveny. The precedential
This court does not need to determine whether O'Melveny offers the Funds an additional defense against in pari delicto. It is a matter of disputed fact whether QHL had the sole authority, or in fact any authority, to enter into the Transactions. Accordingly, both the "adverse interest" and "no authority to act" exceptions prevent imputation of QHL's wrongful actions in the Transactions to the Funds for the purposes of this summary judgment motion.
Judicial estoppel "prohibit[s] parties from deliberately changing positions according to the exigencies of the moment" and so "where a party assumes a certain legal position in a legal proceeding, and succeeds in maintaining that position, he may not thereafter, simply because his interests have changed assume a contrary position." New Hampshire v. Maine, 532 U.S. 742, 749-50, 121 S.Ct. 1808, 149 L.Ed.2d 968 (2001). It has been applied not only to where the party has won the previous action, but also to where the party obtained a favorable settlement. Rissetto v. Plumbers and Steamfitters Local 343, 94 F.3d 597, 604-06 (9th Cir.1996). [REDACTED]
The Supreme Court has provided the following guidelines for the decision to invoke judicial estoppel:
New Hampshire v. Maine, 532 U.S. at 749-751, 121 S.Ct. 1808 (citations omitted).
Defendants cite the following "admissions" by the Funds in the context of their attempts to recover from Lloyd's. (Italicized language was left out of quotations in Defendants' Memorandum of Points and Authorities. The Court notes that some of these omissions change the meaning of the quoted language in a manner favorable to Defendants.)
10/23/09 Letter by Jay Robinson, counsel to the Funds, sending a Proof of Loss to Scott Schmookler, counsel to Lloyd's (Defendants' Exhibit X) at 7.
Complaint dated 4/15/10 (Defendants' Exhibit F) ¶ 9.
Plaintiffs" (the Funds) Opposition to Defendants' (Lloyd's) Motion to Strike in the Bond Action (Defendants' Exhibit H) at 1:20-29. This sentence is simply quoting the Complaint, which Defendants have already quoted.
Plaintiffs' (the Funds) Responses to Requests for Admissions (Defendants' Exhibits L & N) at 15.
Plaintiffs' (the Funds) Responses to Form Interrogatories (Defendants' Exhibits O & P) at 10.
1/23/10 Letter by Jay Robinson, counsel to the Funds, to Scott Schmookler, Esq. (Defendants' Exhibit Z) at 2.
Motion denied.
Plaintiff objections to Defendants' statements of uncontroverted fact (whether as irrelevant, immaterial, a misstatement of the evidence, lacking foundation or otherwise) are not objections to evidence and will not be considered.
Although Plaintiff has not cited the Federal Rules of Evidence underlying its objections and objections without such citations may be deemed waived under LBR 9013-1(0(2), I will consider the remaining objections:
Sustained to the extent witness lacks personal knowledge.
Overruled.
FDIC v. O'Melveny & Myers, 969 F.2d 744, 750-51 (9th Cir.1992) (citing numerous authorities for this proposition). Courts have framed this issue as who is the primary beneficiary. See, e.g., Baena v. KPMG LLP, 453 F.3d 1 (1st Cir.2006); FDIC v. Ernst & Young, 967 F.2d 166, 171 (5th Cir.1992), reh'g denied 976 F.2d 732, 1992 U.S.App. LEXIS 26696 (5th Cir. Oct. 1, 1992).