Dorf v Knitmedia Inc.

[*1] Dorf v Knitmedia Inc. 2007 NY Slip Op 51583(U) [16 Misc 3d 1126(A)] Decided on July 9, 2007 Supreme Court, New York County Cahn, J. Published by New York State Law Reporting Bureau pursuant to Judiciary Law § 431. This opinion is uncorrected and will not be published in the printed Official Reports.

Decided on July 9, 2007
Supreme Court, New York County

Jerry Dorf, Plaintiff,

against

Knitmedia Inc., Defendant.



603484/2004

Herman Cahn, J.

Defendant Knitmedia moves to dismiss the complaint, based on documentary evidence and for Plaintiff's failure to state a cause of action, CPLR 3211 (a) (1), (7). Plaintiff cross-moves for judgment "against the defendant," without greater specification.

BACKGROUND:

On June 26, 2000, a subordinated unsecured promissory note was executed and delivered (the "Note"), by defendant in favor of Dorf, evidencing a loan from Dorf to Knitmedia of $300,000.00. At the time, Plaintiff was a director and shareholder of Knitmedia. He continues to be a shareholder.

The Note called for an interest rate of 12% per annum, a March 1, 2002 Maturity Date and a Default rate of 15% per annum. Dorf asserts that Defendant failed to pay the Note at its maturity, and thereby defaulted. He further avers that, despite numerous demands, defendant has not made any payments on the Note, and there is no defense for Defendant's default.

Knitmedia now moves to dismiss the complaint, based on documentary evidence and failure to state a cause of action upon which relief can be granted.

DISCUSSION:

On a motion to dismiss made pursuant to CPLR 3211, the Court "must accept as true the facts as alleged in the complaint and submissions in opposition to the motion, accord plaintiff the benefit of every possible favorable inference, and determine only whether the facts as alleged fit within any cognizable legal theory." Sokoloff v Harriman Estates Dev. Corp., 96 NY2d 409, 414 (2001). See also Leon v Martinez, 84 NY2d 83, 87-88 (1994). However, "allegations consisting of bare legal conclusions, as well as factual claims either inherently incredible or flatly contradicted by documentary evidence, are not entitled to such consideration." Franklin v Winard, 199 AD2d 220, 220 (1st Dep't 1993) (citing Mark Hampton, Inc. v Bergreen, 173 AD2d 220 (1st Dep't 1991), lv denied,80 NY2d 788 (1992)).

The motion will be granted if the movant presents documentary evidence that "definitively dispose[s] of the claim." Demas v 325 West End Ave. Corp., 127 AD2d 476, 477 [*2][1st Dep't 1987]. Such a "motion may be appropriately granted only where the documentary evidence utterly refutes plaintiff's factual allegations, conclusively establishing a defense as a matter of law." Goshen v Mutual Life Ins. Co., 98 NY2d 314, 326 (2002).

Similarly, the standard is equally rigorous where the movant bases its request for dismissal on the failure to adequately plead the claims alleged. "The test on a pre-answer motion to dismiss a complaint for failure to state a cause of action (CPLR 3211(a)(7)) is whether a recognizable cause of action can be discerned from the four corners of the complaint, not whether a claim has been properly stated." Blonder & Co., Inc. v Citibank, N.A., 28 AD3d 180, 187 (1st Dep't 2006) (citing, inter alia, Rovello v Orofino Realty Co., 40 NY2d 633, 634, 636, (1976); Dulberg v Mock, 1 NY2d 54, 56 (1956)).

The Subordination Clause:

The Note contains a subordinate clause, which is basically the issue about which this

motion revolves.

Defendant argues that pursuant to the clear language of the Note, Plaintiff agreed that repayment would be subordinate to all other debts.

The subordination clause at issue is as follows:

4. Subordination:

The indebtedness evidenced by the Note is subordinate and junior in right of payment to the prior payment in full of all Senior Indebtedness (as defined below) of Maker. Holder by accepting this Note agrees to and shall be bound by such subordination provisions.

Senior Indebtedness means (a) all indebtedness of the Company (i) for money borrowed (other than that evidenced by this Note), or (ii) which is evidence by a note, debenture or similar instrument including a purchase money mortgage) given in connection with the acquisition of any property or assets (including without limitation, any property or assets acquired by merger, reorganization, purchase of stock or other similar corporate acquisition transaction) and (b) renewals, extensions, refundings, restructurings, amendments and modifications of any such indebtedness or guarantee, including all interest (including, without limitation, any interest accruing subsequent to the filing of a petition or other action concerning bankruptcy or other similar proceedings, whether or not such interest is an allowed claim in such proceeding), fees and expenses with respect to the foregoing, whether presently outstanding or hereafter incurred.

In addition to all other rights of Senior Indebtedness, the Senior Indebtedness shall continue to be Senior Indebtedness and entitled to the benefits of the subordination provisions irrespective of any amendment, modification or waiver of any term of any instrument relating to the Senior Indebtedness or extension or renewal of the Senior Indebtedness.

The clause seems to provide that all other indebtedness of the company will have priority over the Note. Defendant claims that the following senior creditors currently have priority over the Note: Dundee Productions, on a loan dated June 8, 2001, with an unpaid principal balance of [*3]$18,392,000; and John Sayles, on a loan dated June 21, 2000, with an outstanding balance of $232,752, which is currently in default.

Plaintiff argues, however, that the company's primary debt, through Dundee Notes, is distinct in form from that referred in the Note. He contends that, through the Dundee Notes, Defendant intentionally and impermissibly increased its debt, to an amount more than the company's total valuation.[FN1] In doing so, Defendant made it all but impossible for the Note to ever be repaid. Compl ¶ 17. Dorf argues Defendant's actions renders the Dundee Notes the functional equivalent of equity rather than debt, because it is "inconceivable" that Defendant will ever be able to repay the notes in full. Compl ¶ 23. He contends that this makes the Dundee Notes equity in Knitmedia and "not Senior Debt within the meaning of the Note." Compl ¶ 23-24.

Plaintiff further asserts that, if the Dundee debt is, in fact, not senior debt, as defined by

the subordination clause of the Note, Knitmedia has no other debt outstanding that is senior to the Note. Compl ¶ 25. He alleges, "upon information and belief," that Defendant issued three other promissory notes contemporaneously with, and which contained the same terms as, the Note. He alleges that these notes were executed with: Argentum Capital Partners, Gorum LLC and John Sayles. He claims, "upon information and belief," that payment in full has been made on two of these notes, and partial payment has been made on the third. Compl ¶ 27. Plaintiff argues that similar payment must be made on the Note.

Plaintiff also argues that Defendant's actions rendered his stock valueless, as all "conceivable income" will be diverted to the Dundee Notes. Compl ¶ 23-24. Thus, he contends that Defendant has impermissibly diluted his ownership in Knitmedia.

A Subordinate Creditor's Right to Bring Claims:

Defendant argues that, as a subordinate note holder, Plaintiff is barred from bringing a claim to collect the Note until all senior debt is paid. However, even if Plaintiff is incorrect in characterizing the Dundee Notes as equity, and those notes remain senior to the Note, it does not necessarily follow that he is barred from bringing a claim on the Note merely because his priority in collection does not yet permit him to collect. Indeed, any "question in terms of priority as to the rights of the plaintiffs as against other creditors has no bearing upon the plaintiffs' right to judgment as against the individual and corporate defendants." Kornfeld v NRX Technologies, Inc., 93 AD2d 772, 773 (1st Dep't 1983), aff'd 62 NY2d 686 (1984).

As one court found in denying a defendant's motion for summary judgment and rejecting the argument that plaintiff, a subordinate creditor, had no right to sue until defendant paid all his debt to his senior creditor, "a judgment which merely declared that [plaintiff] has the right to the full accelerated amount of the Note as well as court costs and reasonable attorney's fees as provided for in the note, does not preclude [the priority lender] from collecting its debt ahead of [plaintiff]." Minority Equity Capital Co., Inc. Jackson, 798 F Supp 200, 201 (SDNY 1992). In Minority Equity, it was solely the collection on the judgment that was deferred until payment was made to the senior creditor. Id. at 202. Similarly, Plaintiff here may bring his claim, although [*4]even if successful, collection may be postponed until the more senior debt has been paid.

Additionally, Plaintiff argues that he must initiate an action to protect his interests now, as there could come a time when more senior indebtedness no longer has priority over his note. At that time, his claim might be barred by the statute of limitations. Nordberg v South St Seaport Corp., Index No. 60287-05 (NY County February 24, 2006) (Freedman, J.). To protect his interests, Plaintiff must bring his claims on the Note before the statute expires, even if he cannot yet collect on same.

Form of the Subordination Clause:

In its motion to dismiss, Defendant argues that the key issue is whether the subordination clause is "complete" or "inchoate." It asserts that where the subordination clause is inchoate, the senior creditor has priority only with respect to the debtor's assets and is operative only when a distribution is made to creditors. In contrast, a completely subordinated creditor cannot maintain an action against a debtor as long as senior debt remains outstanding. In support of this position, Defendant cites Standard Brands, Inc. v Straile, 23 AD2d 363 (1st Dep't 1965).

Defendant contends that the subordination clause in the Note is complete, and thereby precludes an action by Plaintiff as long as Defendant has senior debt outstanding. Plaintiff, unsurprisingly, argues that the subordination clause in the Note is an "inchoate subordination which does not provide Knitmedia Inc. with a defense." Compl ¶ 11.

However, it is not necessary to determine, at this time, whether the subordination clause at issue is inchoate or complete. Indeed, as one court noted, it

does not follow, however, as [defendant] urges, that in order to give effect to the [document's] subordination provisions the Court necessarily must determine whether those subordination provisions provide for complete' or inchoate' subordination under New York law. The Court declines this invitation to interpret the Subordination Clause under New York law, as the key to construction of the [document] is to be found within the [document] itself.

Upic & Co. v Kinder-Care Learing Centers, Inc., 793 F Supp 448, 457 (SDNY 1992). Here too, it is the specific language of the subordination clause at issue that is the key to interpreting Plaintiff's priority with respect to other creditors.

Additionally, discovery may resolve many of the issues raised by the parties. Certainly, "discovery may produce extrinsic evidence demonstrating the intent of the parties" regarding the subordination clause. Jackson Nat. Life Ins. Co., v Ladish Co., Inc., 1993 WL 43373, at * 8 (SDNY Feb 18, 1993). In the instant matter, the words "complete" or "inchoate" are not found in the subordination clause. As such, if the parties intended the clause to be either complete or inchoate, discovery may aid in proving that intent. Alternatively, discovery could show that neither a complete nor an inchoate subordination clause was intended, but rather that the parties intended the clause to be defined solely by its own language.

As such, Defendant's motion to dismiss is denied.

Plaintiff's Cross-Motion:

Plaintiff's cross-motion is denied. It is unclear from Plaintiff's Notice of Cross Motion what relief is sought, beyond the general prayer for "judgment against the defendant for defendant's failure to comply with this Court's Order, and for such other and further relief as this Court may deem just and proper." Not. of Cross-Mot. In the title to the affirmation in [*5]opposition to Defendant's motion to dismiss and in support of Plaintiff's cross-motion, Plaintiff refers to his cross-motion as one for default judgment. Leitner Aff. Finally, in the wherefore paragraph on this affirmation, the affiant requests "entry be made in favor of the plaintiff against the defendant for the relief demanded in the complaint . . . " Id.

The above is insufficient to sustain Plaintiff's cross-motion. Assuming that what he is seeking through the cross-motion is indeed a default judgment, Plaintiff has failed to meet the requirements for a default judgment under CPLR § 3215.

Accordingly, it is

ORDERED that Defendant's motion denied; and it is further

ORDERED that Plaintiff's cross-motion is denied; and it is further

ORDERED that the clerk shall enter judgment accordingly.

Dated: July 9, 2007

ENTER:

____________/s/___________________J.S.C. Footnotes

Footnote 1:Plaintiff asserts, "upon information and belief," that Defendant's total outstanding debt on the Dundee Notes is approximately $25,000,000, and that this is roughly double the actual value of the assets of the Defendant. Compl ¶ 21-22.