Mayers v Stone Castle Partners, LLCAnnotate this Case
Decided on February 19, 2014
Supreme Court, New York County
Matthew R. Mayers, Plaintiff,
Stone Castle Partners, LLC, GEORGE SHILOWITZ, JOSHUA S. SIEGEL, CHARLESBANK EQUITY FUND VI, LIMITED PARTNERSHIP, CHARLESBANK EQUITY COINVESTMENT FUND VI, LIMITED PARTNERSHIP, CHARLESBANK COINVESTMENT PARTNERS, LIMITED PARTNERSHIP, CB-SC ACQUISITION, INC., CB-SC II, INC., and CIBC CAPITAL CORPORATION, Defendants.
Jaffe & Asher LLP, for Matthew Mayers.
Quinn Emanuel Urquhart & Sullivan, LLP for the Charlesbank Defendants.
Morrison Cohen LLP, for George Shilowitz.
Shirley Werner Kornreich, J.
Motion Sequence Numbers 001 and 002 are consolidated for disposition.
Defendants Stone Castle Partners, LLC (the Company), Joshua S. Siegel, Charlesbank Equity Fund VI, Limited Partnership, Charlesbank Equity Coinvestment Fund VI, Limited Partnership, Charlesbank Coinvestment Partners, Limited Partnership, CB-SC Acquisition, Inc., and CIBC Capital Corporation (CIBC) (collectively, the Charlesbank Defendants) move for dismissal of the second, fourth, fifth, and sixth causes of action and for partial dismissal of the first cause of action in the Complaint pursuant to CPLR 3211. Seq. 001. Defendant George Shilowitz moves to dismiss the claims in the Complaint asserted against him. Seq. 002. Defendants' motions are granted in part and denied in part for the reasons that follow.
Factual Background & Procedural History
As this is a motion to dismiss, the facts recited are taken from the Complaint and [*2]the documentary evidence.
In 2003, the Company was founded by plaintiff Matthew R. Mayers, defendant Siegel, and non-party David Rosenwaks.[FN1] Complaint ¶¶ 36-38. The Company is a Delaware LLC that, through various subsidiaries, provides investment management services. ¶ 59. Defendant Shilowitz became a member of the Company in 2007. ¶ 36. On May 17, 2012, the Company's operative version of its LLC Agreement (the LLC Agreement) was entered into when CIBC became a member. ¶¶ 39-41. This action concerns whether Mayers' termination from the Company was "for cause", a determination which would result in the forfeiture of half of Mayers' 15.9806% equity in the Company. ¶¶ 3, 18. Prior to his termination, Mayers was the Company's general counsel and chief compliance officer. ¶ 47. He is a member of the Company's board. ¶ 4.
In 2004, the Company began investing its clients' money in collateralized debt obligations (CDOs). ¶ 59. A CDO is a special purpose investment vehicle comprised of debt and equity.[FN2] A CDO derives revenue from a pool of collateral that is pledged to the CDO and held by a trustee. The revenue is paid to the CDO's investors pursuant to a waterfall. In other words, the CDO's revenue is paid out to the CDO's tranches in descending order, with the lower tranches not getting paid until the higher tranches have been paid. The lower tranches as a result, are riskier investments, but provide higher returns. The tranches are known as the CDO's debt. A CDO also has equity, which is the riskiest investment, since it only makes money if all of the debt tranches are paid. CDOs often have collateral managers that are charged with selecting and managing the CDO's collateral. However, some CDOs, such as the CDO at issue in this case, do not have collateral managers. Instead, decision making regarding the collateral is placed in the hands of a supermajority of the CDO's equity holders. Thus, the owners of a supermajority of the equity control the collateral.
In 2009, the Company had invested its clients' money in a CDO called Tropic CDO IV (Tropic). ¶¶ 65-73. The Company, through a subsidiary, purchased a supermajority of Tropic's equity. Id. The Company then attempted to sell Tropic's collateral to other investors at deeply discounted prices in exchange for a fee, called a "consent payment."[FN3] Id. Tropic's investors viewed the Company's actions as a scheme to defraud them by stripping Tropic's collateral in exchange for a bribe. ¶ 74. The Company gave up on this scheme after it was sued. ¶¶ 74-79.
Mayers, however, created a company called TP Investments, LLC (TPI). Starting in 2011, Mayers had TPI buy a supermajority of Tropic's equity and then attempted to sell Tropic's collateral in exchange for consent payments. The Company learned of Mayers' actions [*3]in late 2012, and held a board meeting on December 3, 2012, during which Mayers was confronted about his TPI dealings and told to sell his Tropic equity. Additionally, in a letter dated January 22, 2013, the Company demanded that Mayers divest himself of Tropic equity or else he would be fired for cause. Mayers had two choices: (1) get rid of his Tropic equity at a loss of $750,000; or (2) refuse, get fired for cause, and lose half his equity in the Company, which was worth millions of dollars. Mayers sold his Tropic equity. On January 29, 2013, despite acceding to the Company's demands, Mayers was fired for cause.
Mayers maintains that his involvement with Tropic is not grounds for termination for cause under the LLC Agreement. Section 6.01 of the LLC Agreement requires Mayers to "devote substantially all of his full professional time to the performance of his duties as an employee of the company". However, Mayers is allowed to make passive investments on his own behalf so long as they do not require "any material time." Consequently, Mayers is allowed to trade on his own behalf, so long as doing so does not cause him to neglect his duties to the Company. On this motion, the parties do not dispute the question of whether the time Mayers devoted to his Tropic scheme contravened section 6.01. Rather, there is a dispute about the scope of the parties' fiduciary duties and how such duties are implicated by Mayers' involvement with Tropic.
Section 5.01(h), titled Conflicts of Interest, requires disclosure of board member conflicts. This section expressly recognizes that "rights provided for under this Agreement," such as the right to make personal, proprietary passive investments, are not overridden by this section. But, notwithstanding Mayers' right to make passive investments, Mayers cannot credibly contend that he can pursue an investment strategy, such as with Tropic, which aims to harm the Company's clients. Aside from Mayers' traditional fiduciary duties to the Company and its clients, no investment fund can be expected to employ someone once the fund's clients know that that employee is attempting to undermine their investments. The Company gave up its involvement with Tropic equity once the market got wind of its plan, since such a scheme is fatal to investor trust. Similarly fatal is public knowledge that Mayers was doing the same.
Nonetheless, though Mayers' actions may seem untoward, the only relevant inquiry is if they constitute grounds for termination with cause under section 6.01(b), which provides:The Company may terminate [Mayers] for Cause at any time. Such act shall be taken by the Board. As used herein, "Cause" means any of: (1) [Mayers'] fraud or willful or gross misconduct with respect to the business affairs of the Company; (2) [Mayers'] willful and material breach of any of the covenants and obligations in this Agreement, including the covenants set forth in Article 15; or (3) [a criminal fraud conviction]. With respect to clauses (1) or (2) of the definition of Cause, no act or failure to act by [Mayers] shall be considered Cause unless the Company has given a reasonably detailed written notice thereof to [Mayers] and, where remedial action is reasonably feasible, [Mayers] has failed to remedy the act or omission within  Business Days after receiving such notice. Section 6.01(c) provides that if Mayers is terminated for Cause, he forfeits 50% of his equity.Shilowitz, who is also a board member, voted to terminate Mayers for Cause. However, on December 31, 2009, Mayers and Shilowitz had entered into a contract (the Shilowitz Agreement) in which they agreed to not vote for the other to be terminated without Cause or removed from the board. At the time the Shilowitz Agreement was executed, the Company was operating under its Third Amended and Restated LLC Agreement dated as of March 28, 2008 (the 2008 LLC Agreement). The current LLC Agreement is its fifth iteration, which was executed in 2012. The Shilowitz Agreement, [*4]which is not set to expire until December 31, 2020, refers to the definition of Cause set forth in the 2008 LLC Agreement.
Shilowitz argues that the Shilowitz Agreement became a nullity upon the execution of the Company's fourth LLC agreement and remained a nullity upon the execution of the current LLC Agreement by virtue of the LLC Agreement's integration clause. Mayers contends that the Shilowitz Agreement survives and was violated by Shilowitz when he voted to fire Mayers. Though the Shilowitz Agreement permits Shilowitz to vote for Mayers' termination for Cause, Mayers avers that since, as he maintains in this action, he was fired without cause, Shilowitz has breached.
On February 6, 2013, Mayers commenced this action by filing a Summons with Notice. The Complaint, filed on June 17, 2013, contains nine causes of action: (1) breach of the LLC Agreement for terminating Mayers without Cause and failing to provide proper written notice and opportunity to cure against all defendants; (2) breach of the duty of good faith and fair dealing against all defendants; (3) breach of the Shilowitz Agreement; (4) aiding and abetting breach of the LLC Agreement against all defendants; (5) breach of fiduciary duty against all defendants; (6) aiding and abetting breach of fiduciary duty against all defendants; (7) conversion of personal items after his termination against the Company, Siegel and Shilowitz; (8) bailee liability against the Company, Siegel, and Shilowitz; and (9) declaratory and injunctive relief.
Motions to Dismiss
On a motion to dismiss, the court must accept as true the facts alleged in the complaint as well as all reasonable inferences that may be gleaned from those facts. Amaro v Gani Realty Corp., 60 AD3d 491 (1st Dept 2009); Skillgames, LLC v Brody, 1 AD3d 247, 250 (1st Dept 2003), citing McGill v Parker, 179 AD2d 98, 105 (1992); see also Cron v Harago Fabrics, 91 NY2d 362, 366 (1998). The court is not permitted to assess the merits of the complaint or any of its factual allegations, but may only determine if, assuming the truth of the facts alleged, the complaint states the elements of a legally cognizable cause of action. Skillgames, id., citing Guggenheimer v Ginzburg, 43 NY2d 268, 275 (1977). Deficiencies in the complaint may be remedied by affidavits submitted by the plaintiff. Amaro, 60 NY3d at 491. "However, factual allegations that do not state a viable cause of action, that consist of bare legal conclusions, or that are inherently incredible or clearly contradicted by documentary evidence are not entitled to such consideration." Skillgames, 1 AD3d at 250, citing Caniglia v Chicago Tribune-New York News Syndicate, 204 AD2d 233 (1st Dept 1994). Further, where the defendant seeks to dismiss the complaint based upon documentary evidence, the motion will succeed if "the documentary evidence utterly refutes plaintiff's factual allegations, conclusively establishing a defense as a matter of law." Goshen v Mutual Life Ins. Co. of NY, 98 NY2d 314, 326 (2002) (citation omitted); Leon v Martinez, 84 NY2d 83, 88 (1994).
The Charlesbank Defendants' Motion (Seq. 001)
The Charlesbank Defendants move to dismiss the second (breach of the duty of good faith and fair dealing), fourth (aiding and abetting breach of the LLC Agreement), fifth (breach of fiduciary duty), and sixth (aiding and abetting breach of fiduciary duty) causes of action and for partial dismissal of the first (breach of the LLC Agreement) cause of action. In essence, the Charlesbank Defendants seek to clarify the legal duties they owed Mayers with respect to his [*5]termination. They argue that the LLC Agreement governs and that Mayers may not rely on broader fiduciary or equitable principles. Delaware law applies.
Under Delaware law, when interpreting a contract, the court must "give great weight to the parties' objective manifestations of their intent in the written language of their agreement." In re IBP, Inc. Shareholders Lit., 789 A2d 14, 54 (Del Ch 2001). "If a contract's meaning is plain and unambiguous, it will be given effect." Id. Nonetheless,
In Delaware, the implied covenant of good faith and fair dealing attaches to
every contract by operation of law. It requires contracting parties 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.
Otherwise, parties to a contract could undermine and frustrate every
legal obligation entered into. The implied covenant acts as a way to import
terms into an agreement to address unanticipated developments or to fill
gaps in the contract's provisions. To state a claim for breach of the
implied covenant, a litigant must allege: (1) a specific obligation implied in
the contract; (2) a breach of that obligation; and (3) resulting damages.
Met. Life Ins. Co. v Tremont Group Holdings, Inc., 2012 WL 6632681, at *15 (Del Ch 2012) (citations and quotation marks omitted; emphasis in original); see also Dunlap v State Farm Fire & Cas. Co., 878 A2d 434, 442 n. 25 (Del 2005) (collecting cases).
However, the covenant of good faith and fair dealing
does not provide a [court] with the authority to rewrite or supply omitted provisions to a written contract. Rather, a court should be cautious when implying a contractual obligation and do so only where obligations which can be understood from the text of the written agreement have nevertheless been omitted from the agreement in the literal sense. In this instance, a court's inquiry should focus on what the parties likely would have done if they had considered the issue involved. The express terms of a contract and not an implied covenant of good faith and fair dealing, however, will govern the parties' relations when the terms expressly address the dispute.
Fitzgerald v Cantor, 1998 WL 842316, at *1 (Del Ch 1998) (citations and quotation marks omitted; emphasis added); see also Wiggs v Summit Midstream Partners, LLC, 2013 WL 1286180, at *9 (Del Ch 2013).
Section 6.01(b) of the LLC Agreement expressly governs whether Mayers' termination was for Cause. This bars a good faith claim. If Mayers takes issue with his former business partners previously engaging in the very scheme he is accused of, his recourse, as always, is a derivative claim on behalf of the Company for such wrongs. Mayers cannot, however, justify his bad acts by arguing "they did it too." To be sure, Mayers has every right to challenge whether his conduct is grounds for termination under the express terms of the LLC Agreement. But Mayers cannot evade such terms through a good faith claim.
Mayers also cannot maintain his claim for breach of fiduciary duty. Under Delaware law, a fiduciary duty claim arising from a contract "must be adjudicated within the analytical framework of a breach of contract claim." Nemec v Shrader, 991 A2d 1120, 1129 (Del 2010). "[A]ny fiduciary claims arising out of the same facts that underlie the contract obligations [are] foreclosed as superfluous." Id. The only "narrow" exception to this rule is where the alleged fiduciary duty is owed to the shareholders. Grayson v Imagination Station, Inc., 2010 WL [*6]3221951, at *7 (Del Ch 2010). Here, Mayers simply objects to his termination being labeled for Cause.[FN4] Since this dispute is expressly governed by the LLC Agreement, the fiduciary duty claim is dismissed as duplicative. As a consequence, the claim for aiding and abetting breach of fiduciary duty also is dismissed. See Globis Partners, L.P. v Plumtree Software, Inc., 2007 WL 4292024, at *15 (Del Ch 2007).
As for Mayers' claim for aiding and abetting breach of contract, Delaware law only recognizes such a claim where the subject breach relates to a fiduciary duty. See Gotham Partners, L.P. v Hallwood Realty Partners, L.P., 817 A2d 160, 172 (Del 2002); Feeley v NHAOCG, LLC, 62 A3d 649, 658-59 (Del Ch 2012). Again, the parties' fiduciary duties are not determinative of Mayers' claims; all that matters is whether Mayers' dealings with Tropic allow for his termination to be deemed as one for Cause under section 6.01(b). Thus, this aiding and abetting claim fails.
Finally, with respect to the breach of contract claim, the Charlesbank Defendants ask the court to find the termination letter sufficient and also to dismiss Mayers' claim for recoupment of the $750,000 that he lost when he was "forced" to sell his Tropic equity. The letter's notice is perfectly clear; so clear, in fact, that Mayers knew exactly what to do in response — sell his Tropic equity. Mayers, a highly sophisticated individual, chose to do so without seeking any legally enforceable guarantee from the Company that, if he complied, he would not be terminated for Cause. Mayers chose to sell without better protecting himself. The idea that a businessman of his caliber was "forced" to do anything is simply unbelievable.
Additionally, as the Company understandably maintains, Mayers' involvement with Tropic was not amenable to remedial action. Though selling his Tropic equity was clearly the right thing to do, Mayers' actions constitute a breach of trust — both as to his partners and the Company's investors — that, once lost, is difficult to regain. That being said, regardless of how the court might view Mayers' actions, it is the LLC Agreement itself and, to the extent its terms are unclear, the parties' own intentions that will determine if Mayers forfeits half his equity. See In re IBP, Inc. Shareholders Lit., supra. Discovery is needed to deduce if, notwithstanding the LLC Agreement's allowance of personal passive investments, undermining the Company's clients' investments for personal gain constitutes "willful or gross misconduct with respect to the business affairs of the Company."
[*7]Shilowitz's Motion (Seq. 002)
Shilowitz argues that Mayers' claim for breach of the Shilowitz Agreement fails for two reasons: (1) the subsequent LLC agreements contain integration clauses; and (2) Shilowitz did not breach because he voted to fire Mayers for cause. The Shilowitz Agreement is governed by New York law.
"Under New York law, a subsequent contract regarding the same subject matter supersedes the prior contract." Friedman v Ocean Dreams, LLC, 15 Misc 3d 1146(A), at *10 (Sup Ct, Kings County 2007) (Demarest, J.), quoting Indep. Energy Corp. v Trigen Energy Corp., 944 FSupp 1184, 1195 (SDNY 1996); see also Mandarin Oriental Mgmt, (USA) Inc. v NY Hotel & Motel Trades Council, 2014 WL 345211, at *11 (SDNY 2014) (collecting cases), accord Shubin v Surchin, 27 AD2d 452, 455 (1st Dept 1967). When a subsequent agreement contains an integration clause (and, in some instances, even when such a clause is absent), the prior agreement becomes a nullity and the new agreement governs. See id. However, when the new agreement does not cover the subject of the parties' prior negotiated issues, the new agreement does not subsume the prior agreement. Kramer v Danalis, 49 AD3d 263 (1st Dept 2008); DeSola Group, Inc. v Coors Brewing Co., 199 AD2d 141 (1st Dept 1993) ("the IAS court's reliance on the standard integration clause in the Agreement was misplaced since that clause provides that previous communications concerning only the subject matter of the Agreement (i.e., market research) are superseded").
Here, the Shilowitz Agreement was not superseded by the subsequent LLC agreements. Though the Shilowitz Agreement references the 2008 LLC Agreement, it merely does so out of convenience. In promising not to fire each other without cause, Mayers and Shilowitz wanted to track the LLC agreement's definition of Cause.[FN5] There is no plausible basis to infer that the parties intended for the execution of subsequent LLC agreements to extinguish their personal pact of loyalty, which does not apply to other members of the Company. In fact, it is unclear if the other members even knew about the Shilowitz Agreement and, perhaps, their pact was kept out of the LLC agreements to keep it a secret. Regardless, as their agreement covers a unique loyalty promise beyond the scope of the LLC agreements, its unsurprising lack of inclusion in the subsequent LLC agreements does not nullify it. Shilowitz cannot disclaim his agreement with Mayers based on a strained gloss on the law of integration that contravenes the parties' intentions.
Finally, there is no merit to Shilowitz's argument that a pretextual for-Cause termination vote is not a breach. If this were the case, the parties' bargain would be illusory. New York's good faith doctrine forecloses Shilowitz's argument. See Jaffe v Paramount Communications Inc., 222 AD2d 17, 22-23 (1st Dept 1996) (duty of good faith and fair dealing is breached "when a party to a contract acts in a manner that, although not expressly forbidden by any contractual provision, would deprive the other party of the right to receive the benefits under their agreement."); see also 511 W. 232nd Owners Corp. v Jennifer Realty Co., 98 NY2d 144, 153 (2002). Therefore, if it is ultimately determined that Mayers was fired without cause, Mayers would prevail on liability against Shilowitz. It is unclear, however, what damages Mayers could recover for this breach, since, if Mayers prevails, he will keep his equity. Notably, since part II of the Shilowitz Agreement states that a violation is an irreparable harm warranting injunctive [*8]relief, the parties may have contemplated using this contract merely to preemptively prevent termination, not recover damages afterward. Regardless, the issue of damages is beyond the scope of this motion.[FN6] Accordingly, it is
ORDERED that the motions to dismiss the Complaint by defendants Stone Castle Partners, LLC, Joshua S. Siegel, Charlesbank Equity Fund VI, Limited Partnership, Charlesbank Equity Coinvestment Fund VI, Limited Partnership, Charlesbank Coinvestment Partners, Limited Partnership, CB-SC Acquisition, Inc., CIBC Capital Corporation., and George Shilowitz are granted in part as follows: (1) the second (breach of the duty of good faith and fair dealing), fourth (aiding and abetting breach of the LLC Agreement), fifth (breach of fiduciary duty), and sixth (aiding and abetting breach of fiduciary duty) causes of action are dismissed; (2) the first cause of action (breach of the LLC Agreement) may proceed in accordance with the decision; (3) all breach of contract claims may only proceed against the parties to those contracts; and (4) the motions are otherwise denied; and it is further
ORDERED that within 14 days of the entry of this order on the NYSCEF system, plaintiff Matthew R. Mayers shall file an amended complaint only containing the claims surviving this motion and clearly identifying which claims apply to which defendants.
Dated: February 19, 2014ENTER:
Footnote 1: Rosenwaks sold his equity in 2006.
Footnote 2: See generally Loreley Financing (Jersey) No. 4 Ltd. v UBS Ltd., 40 Misc 3d 323 (Sup Ct, NY County 2013).
Footnote 3: During the financial crisis, many equity holders believed that the only return they would ever see would come from the sale of the CDO's collateral. The court will not opine on the myriad issues surrounding this course of conduct other than to note that managing client money invested in a CDO's debt while also having a proprietary investment in the CDO's equity can lead to a conflict of interest.
Mayers cites no authority for the notion that he can maintain a fiduciary duty claim because defendants' equity increases due to his share forfeiture. This is a foreseeable consequence of forfeiture. All that matters is whether the LLC Agreement permits his termination to be deemed for Cause. Since the LLC Agreement permits termination for Cause "at any time", defendants' motivations are irrelevant. Though the parties dispute whether defendants had prior knowledge of Mayers' alleged scheme or if they sanctioned it, it strains credulity to think that Mayers can continue working for the Company after his personal involvement with Tropic came to light, especially given the Company's prior litigation. Though Mayers may feel he got a raw deal, such is the risk when playing games with a CDO's equity, since the debt holders tend to get quite upset, regardless if they have a viable claim. See, e.g, Fin. Guar. Ins. Co. v Putnam Advisory Co., 2013 WL 5230818 (SDNY Sept. 10, 2013).
Footnote 5: The definition of Cause in the 2008 LLC Agreement is the same as in the current LLC Agreement.
Footnote 6: There also appears to be a causation problem because, even if Shilowtiz did not vote to fire Mayers, a vote by the majority of the rest of the board would suffice.