Evans et al v. Armenta et al
Filing
73
MEMORANDUM OPINION AND ORDER: (1) Dfts Ruel Morton's and Anover, Inc.'s 70 Motion to Join the Motion to Dismiss is GRANTED. (2) Dfts' 32 Motion to Dismiss is DENIED. Signed by Judge Gregory F. VanTatenhove on September 30, 2015. (AWD) cc: COR
UNITED STATES DISTRICT COURT
EASTERN DISTRICT OF KENTUCKY
CENTRAL DIVISION
LEXINGTON
ROBB EVANS, et. al.,
Plaintiffs,
v.
RAMIRO ARMENTA, et al.,
Defendants.
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Civil No. 14-329-GFVT
MEMORANDUM OPINION
&
ORDER
*** *** *** ***
This action has been brought to recover monies allegedly received from the operation of
“an unlawful multilevel marketing ‘pyramid’ scheme which collectively generated gross
revenues of approximately $252 million from January 1, 2009 through December 31, 2012.” [R.
13 at ¶ 37.] Plaintiff (hereinafter, “Receiver”) has been appointed Receiver for Fortune Hi-Tech
Marketing, Inc., FHTM, Inc., Alan Clark Holdings, LLC, FHTM Canada, Inc. and Fortune
Network Marketing (UK) Limited, and their affiliates, subsidiaries, divisions, or sales or
customer service operations (individually and collectively referred to as the “Receivership
Entities”).1 [R. 13 at ¶¶ 1, 8.] That appointment took place in a related civil enforcement action
that is also before this Court, Federal Trade Commission, et al, v. Fortune Hi-Tech Marketing,
Inc., et. al., Case No. 13-cv-123. Pursuant to Orders entered in that case, the Receiver herein, “is
authorized to institute actions or proceedings in federal courts as the Receiver deems necessary
These entities are referred to by the parties as “Receivership Defendants.” For purposes of clarity and in an
effort to distinguish them from the Defendants in this action, the Court has elected to refer to them as
“Receivership Entities.”
1
or advisable to preserve or recover the assets of the Receivership Defendants or that the Receiver
deems necessary or advisable to carry out the Receiver’s duties under the Receivership Orders,
including instituting actions challenging fraudulent or otherwise voidable transfers.” [R. 13 at ¶
8.] Subsequently, the Receiver was granted express authority to “commence litigation, in the
Receiver’s discretion, against highly compensated representatives of the Receivership
Defendants to recover commission and bonus payments made by the Receivership Defendants.”
[R. 13-4.] Pursuant to this authority, the Receiver now sues Defendants for the recovery of
monies received from Fortune Hi-Tech Marketing and its related entities.2
I
In its amended complaint, the Receiver explains in great detail how the pyramid scheme
worked. Broadly speaking, the:
Receivership Defendants’ business ostensibly offered interested persons the
opportunity to become “Independent Representatives” (“IRs”) who paid fees to the
Receivership Defendants to enroll in the sales force in order to be able to sell
products, including health and beauty products, and services provided by third party
companies and earn income through those sales and through bonuses paid for
recruiting new IRs into the Receivership Defendants’ network.
[R. 13 at ¶ 38.] In compensation for recruiting new members, representatives would receive
Customer Acquisition Bonuses (CAB) and in compensation for the sale of products and services,
representatives received Customer Generated Usage (CGU) commission payments. [Id. at ¶ 3940.] According to the Receiver, the business was structured so as to incentivize the “recruitment
of new representatives rather than the actual selling of products and services.” [Id. at ¶ 41.]
2
The Receivers have also instituted suit in Robb Evans and Robb Evans & Associates LLC as Receiver etc., et
al., v. Anna Burrell, et al., Case No. 14-cv-00330 GFVT (“Burrell Action.”). As noted by the Receiver, a
substantially identical motion to dismiss is pending in that case. Due to the parallel nature of the proceedings
and the identical pending motions, the Court will enter a substantially identical Order in that case.
2
What resulted was a two-tiered system where “the vast majority of active IRs did not obtain
payments sufficient to cover their enrollment fees and earned commissions totaling $1,000 or
less.” [Id. at ¶ 45.] During one four-year time period, “more than 88% of the IRs active during
that time period did not obtain payments sufficient to recover their enrollment fees, and 98% of
the active IRs during that time frame earned commissions totaling $1,000 or less.” [Id.] These
IRs receiving less than $1,000 during their association have suffered losses in excess of $169
million and are referred to as “injured consumers” herein. [Id. at ¶ 52.] In contrast to the injured
consumers’ meager returns, a small number of IRs fared much better, with “approximately 50 of
the highest paid representatives generated commissions and bonuses totaling more than $46
million.” [Id. at ¶ 47.] These IRs are referred to as “Highly Compensated IRs,” and it is the
Receiver’s contention that they “fueled the Pyramid Scheme operated by the Receivership
Defendants for their personal gain…” [Id. at ¶ 50.] According to the Receiver, the “business
was inherently unsustainable” as “profits were insufficient to fund the payments which were
offered to all IRs.” [Id. at ¶ 48.]
In this action, the Receiver charges the Defendants with acting as Highly Compensated
IRs who:
helped perpetuate and implement the Pyramid Scheme by continuing to recruit new
IRs who would pay enrollment fees to the Receivership Defendants and encouraging
IRs to continue to renew their association with the Receivership Defendants and pay
their renewal fees to the Receivership Defendants in order to continue the operation
of the Pyramid Scheme and for the Highly Compensated IRs’ personal gain with
knowledge or reckless disregard of the fact that the vast majority of the IRs would
not recover the monies they paid to participate in the Receivership Defendants'
program and would lose money and be damaged as a result of their association with
the Receivership Defendants.
3
[R. 13 at ¶ 56.] The Receiver sues for the recovery of monies transferred from the Receivership
Entities to Defendants herein. The specific sum sought from each of the Defendants is
specifically laid out in paragraph 58 of the Amended Complaint. [Id. at ¶ 58.]
Defendants challenge3 whether the Receiver sufficiently pled its claims in its First
Amended Complaint, whether the Receiver has standing to prosecute this action, and whether the
Receiver should be prohibited from pursuing its claims under the in pari delicto or unclean
hands doctrine. [R. 32.] The motion has been fully briefed [R. 55; R. 63] and is now ripe for the
Court’s consideration. For the reasons stated herein, the Defendants’ motion is DENIED.
II
A
Federal Rule of Civil Procedure 12(b)(6) allows a defendant to seek dismissal of a
complaint which fails to state a claim upon with relief can be granted. Fed.R.Civ.P. 12(b)(6).
“The purpose of a Rule 12(b)(6) motion is to test whether, as a matter of law, the plaintiff is
entitled to legal relief even if everything alleged in the complaint is true.” Campbell v.
Nationstar Mortgage, 611 F. App'x 288, 291 (6th Cir. 2015) (internal quotations omitted). In
reviewing a Rule 12(b)(6) motion, the Court “accept[s] all the Plaintiffs' factual allegations as
true and construe[s] the complaint in the light most favorable to the Plaintiffs.” Hill v. Blue Cross
& Blue Shield of Mich., 409 F.3d 710, 716 (6th Cir. 2005). To properly state a claim, a
complaint must contain a “short and plain statement of the claim showing that the pleader is
3
The following Defendants filed the instant motion to dismiss [R. 32]: Michael Misenheimer; MB Team,
Inc.; Robert Rivera; Terry Walker; Global Wealth, Inc.; Susan Frank; Susan and Josh, Inc.; Joanne
McMahon; Blessed Life, LLC; Joel McNinch; Kevin Mullens; Catch the Vision, LLC; Todd Rowland;
and Todd and Ashley, Inc. Subsequently, Defendants Ruel Morton and Anover, Inc. moved to join in the
other Defendants’ Motion to Dismiss, and the Court will GRANT that motion. [R. 70.]
4
entitled to relief.” Fed.R.Civ.P. 8(a)(2).
As is now well known, “[t]o survive a motion to dismiss, a complaint must contain
sufficient factual matter, accepted as true, to ‘state a claim to relief that is plausible on its face.’”
Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009) (citing Bell Atlantic Corp. v. Twombly, 550 U.S. 544,
570 (2007)). In amassing sufficient factual matter, plaintiffs need not provide “detailed factual
allegations,” but must advance “more than an unadorned, the-defendant-unlawfully-harmed-me
accusation,” or “a formulaic recitation of the elements of a cause of action.” Id. (citing Twombly,
550 U.S. at 555). Though courts must accept all factual assertions as true, they “are not bound to
accept as true a legal conclusion couched as a factual allegation.” Id. (citing Twombly, 550 U.S.
at 556). Thus, it is incumbent upon the Court to first sort through the plaintiff’s complaint and
separate the factual allegations, which are accepted as true and contribute to the viability of the
plaintiff’s claim, from the legal conclusions that are only masquerading as facts and need not be
accepted.
Once the Court has discarded the legal conclusions, the question becomes whether the
actual remaining facts state a plausible claim for relief. Plaintiffs do not succeed in making a
claim plausible by adorning their complaints with facts creating a “sheer possibility that a
defendant has acted unlawfully” or facts that are “merely consistent with a defendant’s liability.”
Id. (citing Twombly, 550 U.S. at 557). Instead, “[a] claim has facial plausibility when the
plaintiff pleads factual content that allows the court to draw the reasonable inference that the
defendant is liable for the misconduct alleged.” Id. (citing Twombly, 550 U.S. at 556).
5
B
1
Defendants argue that the Receiver has failed to adequately plead its claims in light of the
pleading standards articulated in Iqbal, 556 U.S. 662, and Twombly, 550 U.S. 544. They argue
that the claims are largely “limited to legal conclusions” and also complain that the claims are
based only on the Receiver’s “information and belief.” [R. 32-1 at 5.]
First, the suggestion that the complaint rests solely on legal conclusions is unfounded. As
was articulated, supra I, the Receiver lays out the factual predicate supporting their claims in
great detail. In arguing that the complaint only contains legal conclusions, the Defendants glance
over nearly thirty paragraphs of factual content contained within the Receiver’s complaint. [See
R. 13 at ¶¶ 37-63.] Defendants also fail to recognize the Receiver incorporated by reference both
the preliminary and permanent injunctions entered in the FTC action.4 [Id. at ¶ 6-7; R. 13-2; R.
13-3.] The amended complaint explains the marketing scheme, how the IRs were compensated,
and the financial harm that the scheme caused to injured consumers. It also contains specific
allegations about the total sum of payments and transfers of funds attributable to each Defendant.
[See R. 13 at ¶ 58.] Defendants complain specifically that the Receiver provides few details
about the specifics surrounding the transfers between the Receivership Entities and the
Defendants herein, and also asserts that additional information needed to be pled to support the
4
It is permissible to incorporate documents by reference into a complaint. See In re Omnicare, Inc. Sec.
Litig., 769 F.3d 455, 467 (6th Cir. 2014); Fed. R. Civ. P. 10 (“A statement in a pleading may be adopted by
reference elsewhere in the same pleading or in any other pleading or motion.”); Wuliger v. Manufacturers Life
Ins. Co., 567 F.3d 787, 795-96 (6th Cir. 2009) (“Although the Receiver did not expressly state that his claim
was one that could have been brought by a receivership entity, the Receiver did incorporate by reference the
court's prior orders establishing the receivership.”)
6
Receiver’s claim that the transfers were made without valuable consideration. [R. 32-1 at 5.]
The Receiver did not, however, need to include these details in its complaint. See Iqbal, 556
U.S. at 678 (citing Twombly, 550 U.S. at 555) (Plaintiffs need not provide “detailed factual
allegations,” but must advance “more than an unadorned, the-defendant-unlawfully-harmed-me
accusation,” or “a formulaic recitation of the elements of a cause of action.”) The Receiver has
put forth “sufficient factual matter, accepted as true, to ‘state a claim to relief that is plausible on
its face.’” Id. (citing Twombly, 550 U.S. at 570).
Second, Defendants suggest that any complaint which utilizes the words “information
and belief” is inherently insufficient. [R. 32-1 at 5-6.] In support of this proposition they cite to
16630 Southfield Ltd. P'ship v. Flagstar Bank, F.S.B., 727 F.3d 502 (6th Cir. 2013) and In re
Darvocet, Darvon, & Propoxyphene Products Liab. Litig., 756 F.3d 917, 931 (6th Cir. 2014),
two cases where the Sixth Circuit has looked unfavorably upon such pleading. In Flagstar Bank,
the Plaintiff, who was of Iraqi origin, sued a lender alleging that he had been discriminated
against on the basis of his national origin when the lender refused to refinance his loan. After
noting that the allegations were rendered on “information and belief,” the Court said the
following:
These are precisely the kinds of conclusory allegations that Iqbal and Twombly
condemned and thus told us to ignore when evaluating a complaint's sufficiency.
No doubt disparate treatment of similarly situated people may support an inference
of discrimination. See, e.g., Keys v. Humana, Inc., 684 F.3d 605, 610 (6th
Cir.2012). But the plaintiffs have not identified any similarly situated individuals
whom Flagstar treated better. They have merely alleged their “belief” that such
people exist. These “naked assertions devoid of further factual enhancement”
contribute nothing to the sufficiency of the complaint. Iqbal, 556 U.S. at 678, 129
S.Ct. 1937 (internal quotation marks and alteration omitted).
7
Flagstar Bank, 727 F.3d at 506. In affirming the district court’s dismissal, the Sixth Circuit
found that the Plaintiff’s claims were “merely consistent with liability,” but not plausible—
making dismissal appropriate. Id. at 505.
In Darvocet, the Sixth Circuit dismissed a “Failure-to-Update” claim at least in part
because it was pled upon “information and belief.” Id. at 931-392. In so doing, the Court
depended in part on its earlier holding in Flagstar:
To survive a motion to dismiss, a complaint must plead “facts” that create a
“plausible inference” of wrongdoing. Iqbal, 556 U.S. at 682, 129 S.Ct. 1937. The
mere fact that someone believes something to be true does not create a plausible
inference that it is true. See, e.g., Twombly, 550 U.S. at 551, 127 S.Ct. 1955 (finding
a complaint insufficient even though it said, “Plaintiffs allege upon information and
belief that [defendants] have entered into a contract, combination or conspiracy to
prevent competitive entry....”); 16630 Southfield Ltd. P'ship v. Flagstar Bank, 727
F.3d 502, 506 (6th Cir.2013) (finding a series of “upon information and belief”
claims insufficient, because the plaintiffs “have merely alleged their ‘belief’ ”).
Darvocet, 756 F.3d at 931. The Court went on to further consider whether any exceptions to this
principle saved the claim pled on information and belief, and ultimately concluded that “[e]ven
putting aside the words ‘upon information and belief,’ [that] the complaint still fail[ed].” Id.
The Receiver argues, first, that its use of the words “information and belief” are not fatal
to its complaint. The Court agrees. While pleading on information and belief cannot necessarily
insulate a plaintiff at the 12(b)(6) stage, Iqbal did not render pleading on information and belief
entirely ineffectual. E.g., Arista Records, LLC v. Doe, 604 F.3d 110, 120 (2d Cir.2010) (“The
Twombly plausibility standard, which applies to all civil actions, does not prevent a plaintiff from
“pleading facts alleged ‘upon information and belief’” where the facts are peculiarly within the
possession and control of the defendant, see, e.g., Boykin v. KeyCorp, 521 F.3d 202, 215 (2d
Cir.2008), or where the belief is based on factual information that makes the inference of
culpability plausible, see Iqbal, 129 S.Ct. at 1949 (“A claim has facial plausibility when the
8
plaintiff pleads factual content that allows the court to draw the reasonable inference that the
defendant is liable for the misconduct alleged.”)). The Court will address whether facts are
within the Defendants’ possession infra, but the point is really rendered moot by the fact that the
Receiver set forth sufficient factual information in support of its allegations to allow the Court to
reasonably infer that the Defendants are liable to the Receivership Entities.
To the extent the Court finds its allegations made on “information and belief” are
insufficient, the Receiver alternatively argues its complaint still survives because of two
exceptions to the general preference against pleading on information and belief. First,
Bankruptcy trustees are permitted to plead facts on information and belief because they normally
only have secondhand knowledge of the facts they plead. Receiver argues that it should receive
the same treatment, but cites no case law to support this argument. Defendants point out that
“[a] bankruptcy receiver's duties and functions are different from those of an equity receiver,
particularly because the scope of a bankruptcy receiver's power is set forth in statutes.” Liberte
Capital Grp., LLC v. Capwill, 248 F. App'x 650, 667 (6th Cir. 2007) (citations omitted). Second,
the Receiver argues that its information and belief pleadings should be accepted because the facts
alleged are in the Defendants’ possession. While the facts are doubtless in Defendants’
possession, the Receiver does little to explain why those facts are “peculiarly” in their
possession. See Arista Records, LLC v. Doe, 604 F.3d 110, 120 (2d Cir.2010) (“The Twombly
plausibility standard, which applies to all civil actions, does not prevent a plaintiff from
“pleading facts alleged ‘upon information and belief’” where the facts are peculiarly within the
possession and control of the defendant.”); In re Darvocet, 756 F.3d at 931 (The Generic
Manufacturers are not “peculiarly” in possession of the facts about whether a box of
9
propoxyphene contains a package insert bearing the updated Black–Box warnings.)
Accordingly, neither exception applies.
“A claim has facial plausibility when the plaintiff pleads factual content that allows the
court to draw the reasonable inference that the defendant is liable for the misconduct alleged.”
Iqbal, 556 U.S. at 678 (citing Twombly, 550 U.S. at 556). While it is understandable that
complaints pled on information and belief often will not meet this threshold, that is not always
the case. Here, the Receiver’s allegations are certainly not the “formulaic recitation of the
elements of a cause of action” that were found to be inadequate in Iqbal, 556 U.S. at 678. As
noted supra, the Receiver pleads nearly thirty paragraphs of factual content. [See R. 13 at ¶¶ 3763.] While most of that content explains how the pyramid scheme operated as opposed to the
particularities surrounding the transfers to the Defendants herein, the Defendants cannot argue
that they are without notice of the charges against them. As noted by the Supreme Court in
Iqbal, “[d]etermining whether a complaint states a plausible claim for relief will . . . be a contextspecific task that requires the reviewing court to draw on its judicial experience and common
sense.” 556 U.S. at 679. In this case, it is understandable that the Receiver does not have firsthand knowledge of all the facts asserted in his complaint. Notwithstanding, the Receiver has
pled “factual content that allows the court to draw the reasonable inference that the defendant is
liable for the misconduct alleged.” Id. (citing Twombly, 550 U.S. at 556).
2
Next, Defendants challenge whether the Receiver has standing to prosecute these claims.
A receiver, like any party seeking relief, is “inherently limited by the jurisdictional constraints of
Article III and all other curbs on federal court jurisdiction.’” Liberte Capital Grp., LLC v.
10
Capwill, 248 F. App'x 650, 655 (6th Cir. 2007) (quoting Scholes v. Schroeder, 744 F.Supp. 1419,
1421 (N.D.Ill.1990)).
To satisfy the “case” or “controversy requirement” of Article III, which is the
“irreducible constitutional minimum” of standing, a plaintiff must, generally
speaking, demonstrate that he has suffered “injury in fact,” that the injury is “fairly
traceable” to the actions of the defendant, and that the injury will likely be redressed
by a favorable decision.
Id. (quoting Bennett v. Spear, 520 U.S. 154, 162 (1997) (citation omitted)). “The general rule is
that a receiver acquires no greater rights in property than the debtor had,” or put another way, a
receiver “stand[s] in the shoes of the entity in receivership.” Wuliger v. Manufacturers Life Ins.
Co., 567 F.3d 787, 793 (6th Cir. 2009) (quoting Javitch v. First Union Sec., Inc., 315 F.3d at 625
(6th Cir. 2003)). Accordingly, a receiver “lack[s] standing to bring suit unless the receivership
entity could have brought the same action.” Id. (quoting Javitch, 315 F.3d at 625 (citations
omitted). Even though “the stated objective of a receivership may be to preserve the estate for
the benefit of creditors, that does not equate to a grant of authority to pursue claims belonging to
the creditors.” Javitch, 315 F.3d at 627 (citing Jarrett v. Kassel, 972 F.2d 1415, 1426 (6th
Cir.1992)).
Defendants now argue that the Receiver lacks standing because the claims asserted
actually belong to the creditors of the Receivership companies, as opposed to the Receivership
companies themselves. The Receiver disagrees, arguing that the complaint alleges injury against
the Receivership Entities, and that the fact that creditors will benefit from the Receivership
Entities’ recovery is really incidental.
a
Because the Receiver “stand[s] in the shoes of the entity in receivership” and is permitted
11
to assert any claim that the receivership entity could independently assert, Wuliger, 567 F.3d at
793 (quoting Javitch, 315 F.3d at 625), the question presented is whether the Receivership
Entities could themselves assert a claim under Kentucky’s fraudulent conveyance statutes. The
starting point for this analysis are the state statutes in question. KRS 378.010 provides that:
Every gift, conveyance, assignment or transfer of, or charge upon, any estate, real
or personal, or right or thing in action, or any rent or profit thereof, made with the
intent to delay, hinder or defraud creditors, purchasers or other persons, and every
bond or other evidence of debt given, action commenced or judgment suffered, with
like intent, shall be void as against such creditors, purchasers and other persons.
This section shall not affect the title of a purchaser for a valuable consideration,
unless it appears that he had notice of the fraudulent intent of his immediate grantor
or of the fraud rendering void the title of such grantor.
Ky. Rev. Stat. Ann. § 378.010 (emphasis added). The second statute upon which the Receiver
depends is KRS 378.020, which provides that “[e]very gift, conveyance, assignment, transfer or
charge made by a debtor, of or upon any of his estate without valuable consideration therefor,
shall be void as to all his then existing creditors…” Ky. Rev. Stat. Ann. § 378.020. According
to Defendants, these statutes provide a cause of action for creditors, not for a receiver standing in
the shoes of the Receivership Entities. [R. 32-1 at 9-10.] The Court has not been made aware of
any Kentucky case that addresses this question.
In support of its argument that the Receiver does not fall within the statutes’ class of
potential claimants, the Defendants direct the Court to Eberhard v. Marcu, 530 F.3d 122 (2d Cir.
2008), a Second Circuit case that interpreted New York’s fraudulent conveyance statute. The
New York statute provided that “[e]very conveyance made and every obligation incurred with
actual intent. . . to hinder, delay, or defraud either present or future creditors, is fraudulent as to
both present and future creditors.” Id. at 129. (quoting N.Y. Debt. & Cred. Law § 276
(emphasis added)). Considering both the statute’s plain language and its legislative history, the
12
Second Circuit concluded that only creditors were permitted to set aside fraudulent conveyances.
Id. at 130-31. After the Court decided that the statute only extended to creditors, they proceeded
to consider whether the receiver represented a creditor or the wrongdoer himself. For a number
of reasons, the Second Circuit’s conclusion in Eberhard is inapposite here. First, Kentucky’s
fraudulent conveyance statute is broader than the statute presented in Eberhard. The New York
statute limits actions solely to creditors, whereas KRS § 378.010 refers to “creditors, purchasers
or other persons.” KRS § 378.010. As recognized by the Eberhard Court, “some federal
receivers have enjoyed the benefit of state statutes imposing looser standing requirements [than
that of New York]. Eberhard, 530 F.3d at 134-35 (citing e.g., Stenger v. World Harvest Church,
Inc., 2006 WL 870310, at *4 n. 6 (N.D.Ga. Mar. 31, 2006) (allowing receiver to pursue
fraudulent conveyance claim under former Ga.Code. Ann. § 18–2–22 which provided that
fraudulent conveyances were “null and void” as to “creditors and others.” (emphasis added)).
This is just such a case. Second, Eberhard is also distinct as the receiver in that case was
appointed to stand solely in the shoes of an individual wrongdoer, not a corporate receivership
entity. The Eberhard Court discussed this distinction in great detail, and suggested that its
outcome could have been different if the receiver stepped into the shoes of both Eberhard and
related corporate entities. Id. at *132-133. The Court’s holding was, in essence, that an
investment entity or corporation represented by a receiver is a creditor for purposes of recovering
under a fraudulent conveyance statute. Ironically, in coming to this conclusion, the Second
Circuit relied on, and applied Scholes v. Lehmann, 56 F.3d 750 (7th Cir. 1995) — a case which
the Defendants take great issue with. This conclusion is consistent with that of other courts who
have held that “a receiver in a Ponzi case is defined as a creditor for the purposes of establishing
13
standing,” rendering the reference to “other persons” irrelevant. Wing v. Hammons, 2009 WL
1362389, at *3 (D. Utah May 14, 2009) (citing Scholes, 56 F.3d at 753–55).
As articulated by the Receiver, courts across the nation have held that “receivers of
corporate entities have standing to sue to recover funds or assets fraudulently transferred by
those entities prior to the receivership.” [R. 55 at 20.] See Scholes v. Lehmann, 56 F.3d 750 (7th
Cir. 1995), cert. denied sub nom. African Entr. Inc. v. Scholes, 516 U.S. 1028 (1995)5; Donell v.
KowelI, 533 F. 3d 762 (9th Cir. 2008) (“The Receiver has standing to bring this suit because,
although the losing investors will ultimately benefit from the asset recovery, the Receiver is in
fact suing to redress injuries that Wallenbrock suffered when its managers caused Wallenbrock
to commit waste and fraud.”); Janvey v. Democratic Senatorial Campaign Committee, Inc., 712
F. 3d 185 (5th Cir. 2013); Wing v. Dockstader, 482 Fed. Appx. 361, 363 (10th Cir. 2012); In re
Burton Wiand, 2007 WL 963165, at *2 (M.D.Fla. Mar.27, 2007) (“Because the corporation was
injured by the diversion of its assets, the receiver, standing in the shoes of the corporation, had
standing to set aside the fraudulent transfers.”); Wing v. Hammons, 2009 WL 1362389 at *3 (D.
Utah May 14, 2009); Terry v. June, 432 F. Supp. 2d 635 (W.D. Va. 2006); Stenger v. World
Harvest Church, 2006 WL 870310, at *6 (N.D. Ga. March 31, 2006) (Court evaluates Plaintiff’s
fraudulent conveyance claim “with the understanding that Plaintiff brings suit, not as an
individual or as a representative of the defrauded investors . . . but rather, “standing in the
shoes,” so to speak, of those persons and entities in receivership.”); Quilling v. Cristell, 2006 WL
316981, at *5 (W.D.N.C. Feb. 9, 2006); Obermaier v. Arnett, 2002 WL 31654535 at *4 (M.D.
5
Defendants argue that the Sixth Circuit parted ways with Scholes in Wuliger v. Manufacturers Life Ins. Co.,
567 F.3d 787 (6th Cir. 2009), but the Sixth Circuit’s discussion of Scholes was limited to the applicability of
the in pari delicto defense, a topic discussed infra.
14
Fla. Nov. 20, 2002) (“It is settled that an equity receiver has the power to bring ancillary actions
to recover assets which were fraudulently transferred to investors in a Ponzi scheme.”) The
Court has been provided with no convincing reason why this should not also be the case here.
b
In Count IV of the amended complaint, the Receivers assert that the Defendants were
unjustly enriched by receiving the subject transfers from the Receivership Entities, which in turn
were funds paid by injured consumers. [R. 13 at ¶¶ 87-92.] Contained within this charge, the
Receiver asserts that the subject transfers “constitute ill-gotten gains and the proceeds of illegal
and fraudulent activities obtained in violation of applicable law, including without limitation the
FTC Act, the FTC rules and regulations and applicable Kentucky consumer protection
statutes….” [R. 13 at ¶ 89.]
Defendants attack the Receivership Entities’ standing to prosecute this unjust enrichment
claim because (1) no private cause-of-action exists within the FTC Act, and (2) the Receivers
have provided no basis for asserting standing under the Kentucky Consumer Protection Act. [R.
32-1 at 12.] The Receiver does not assert claims under those statutes, but only cites to those
statutes to demonstrate why the gains are ill-gotten. [R. 55 at 21.] As the Receiver needs not
have standing to sue under either of those Acts to bring an unjust enrichment claim, these
arguments fail.6
6
Defendants also argue that Counts III and V should be dismissed because they are dependent on the Receiver
succeeding on Counts I, II, and IV. [R. 32-1 at 12-13.] Because the Court has elected not to dismiss those
claims, it follows that the Defendants’ arguments fail as to Counts III and V.
15
3
In Pari Delicto means “equally at fault.” Black's Law Dictionary (10th ed. 2014.) This
doctrine stands for the proposition that a defendant may be able to escape liability as a result of
the “plaintiff's participation in the same wrongdoing as the defendant.” Bubis v. Blanton, 885
F.2d 317, 321 (6th Cir. 1989) (quoting Memorex Corp. v. Int'l Business Machines Corp., 555
F.2d 1379, 1382 (9th Cir. 1977)).7 Kentucky Courts have long applied the doctrine, and further
found that in select circumstances, it can apply to corporations just as it might apply to an
individual.
But, where the parties are in pari delicto - and the parties to a fraudulent
conveyance, nothing else appearing, are usually so regarded - the maxim guards
and bars the portals of the court against both participants. We perceive no essential
difference between the status occupied by appellee corporation and that of an
individual grantee in a fraudulent deed. The corporate shell is not impenetrable to
the eye of the court when it is shown that it was adopted as a shield against the light
of truth. In such cases, the existence or absence of corporate formalities will be
disregarded and the incorporators subjected to the rules of law governing
individuals.
Pursifull v. Interstate Oil & Gas Corp., 293 Ky. 152, 168 (1942).
The parties cannot agree about whether the doctrine applies. Defendants argue that the
Receivership Entities’ unclean hands bar the levied claims. The Receiver argues that the unclean
hands doctrine does “not apply to a receiver for a corporation who is seeking to avoid a
fraudulent transfer of corporate assets.” [R. 55 at 26.] As noted by the Receiver, and made
abundantly clear by a review of the case law, the seminal case is Scholes v. Lehmann, 56 F.3d
750 (7th Cir. 1995), cert. denied sub nom. African Entr. Inc. v. Scholes, 516 U.S. 1028 (1995).
7
In Bubis, the Sixth Circuit distinguished in pari delicto from the similar doctrine of unclean hands, which
“refers to the plaintiff's wrongdoing against a third party with respect to the subject matter of the suit.” 885
F.2d at 321 (quoting Memorex Corp., 555 F.2d at 1382).
16
Defendants argue that the Sixth Circuit disavowed Scholes in Wuliger v. Manufacturers Life Ins.
Co., 567 F.3d 787 (6th Cir. 2009). It is to this disagreement and these cases that the Court now
turns.
In Scholes, a man by the name of Douglas was the “mastermind” behind a Ponzi scheme
that sold limited partnerships in three shell corporations to investors who operated under the
belief that the partnerships traded commodities, and yielded a return based on the sale of those
commodities. 56 F.3d 750. In fact, the majority of the money used to pay investors actually
came from the sale of limited-partner interests, instead of commodities. Id. The Securities and
Exchange Commission (SEC) brought a civil suit against Douglas, and a receiver (Scholes) was
subsequently appointed to recover what assets he could. The relevant issue presented was
whether Scholes had standing to sue under an Illinois fraudulent conveyance statute (which is
very similar to Kentucky’s statute). Id. at 753-755. As here, the Defendants’ primary claim in
Scholes was that the Receiver, occupying Douglas’s shoes, lacked standing to recover those
fraudulent conveyances due to lack of injury. Writing for the Court, Chief Judge Richard Posner
framed the issue:
How, the defendants ask rhetorically, could the allegedly fraudulent conveyances
have hurt Douglas, who engineered them, or the corporations that he had created,
that he totally controlled and probably (the record is unclear) owned all the common
stock of, and that were merely the instruments through which he operated the Ponzi
scheme?
Id. at 754. The Court answered its own question. While normally “the maker of [the] fraudulent
conveyance and all those in privity with him—which certainly includes the corporations—are
bound by it,” the justification for this rule disappears where the wrongdoer has been replaced by
a Receiver. Id. (citations omitted). As Posner explained:
17
[T]he reason [for this rule]. . . is that the wrongdoer must not be allowed to profit
from his wrong by recovering property that he had parted with in order to thwart
his creditors. That reason falls out now that Douglas has been ousted from control
of and beneficial interest in the corporations. The appointment of the receiver
removed the wrongdoer from the scene. The corporations were no more Douglas's
evil zombies. Freed from his spell they became entitled to the return of the
moneys—for the benefit not of Douglas but of innocent investors—that Douglas
had made the corporations divert to unauthorized purposes. McCandless v.
Furlaud, supra, 296 U.S. at 159–61, 56 S.Ct. at 47; Texas & Pacific Ry. v. Pottorff,
291 U.S. 245, 260–61, 54 S.Ct. 416, 420, 78 L.Ed. 777 (1934); Southmark Corp. v.
Cagan, 999 F.2d 216, 222 (7th Cir.1993). That the return would benefit the limited
partners is just to say that anything that helps a corporation helps those who have
claims against its assets. The important thing is that the limited partners were not
complicit in Douglas's fraud; they were its victims.
Put differently, the defense of in pari delicto loses its sting when the person who is
in pari delicto is eliminated. *755 McCandless v. Furlaud, supra, 296 U.S. at 160,
56 S.Ct. at 47; Albers v. Continental Illinois Bank & Trust Co., 296 Ill.App. 596,
17 N.E.2d 67 (1938).
Id. at 754-755. Accordingly, pursuant to Scholes, a receiver may recover fraudulent
conveyances made by the bad actors whose shoes he fills because the traditional defense that the
maker of a fraudulent conveyance is bound by it loses its justification after the bad actor is
replaced.
Defendants argue that Scholes was rejected by the Sixth Circuit in Wuliger, 567 F.3d 787
(6th Cir. 2009). In Wuliger an investment company (Liberte Capital Group) “purchased life
insurance policies from ‘viators’—policyholders who are terminally ill or who are elderly and in
poor health—in exchange for paying the viators an up-front lump sum.” Id. at 790. Liberte then
sold investments in its operations to investors who were recruited by independent brokers, and
used the investors’ payments to pay the premiums on the procured insurance policies. Id.
Eventually, the SEC discovered the fraudulent scheme and a receiver was appointed to manage
Liberte. Id. Relevant here, the receiver asserted fraudulent conveyance claims against the
insurance company, demanding a return of the premiums paid by Liberte. Id. The district court
18
found the unclean hands defense inapplicable because Liberte’s chief executive had been
removed, freeing Liberte of all wrongdoing. Id. at 798. The Sixth Circuit reversed, finding that
the district court had incorrectly applied Scholes. Id. at 798. The Court distinguished the cases
from one another:
Unlike in Scholes, where the corporation's culpability could be foisted onto one
individual who appeared to have single-handedly created these shell corporations
and the ensuing Ponzi scheme, there is no evidence in the record that Liberte's fraud
can be attributed in its entirety to Jamieson.
Id. at 798. Without specific evidence in the record of Liberte’s chief executive’s role in the
scheme, the Court declined to conclude that removing the chief executive “wiped Liberte's slate
clean.” Id. at 798. The Court, instead, found that “as Liberte's successor-in-interest, the
Receiver [was] precluded by Liberte's unclean hands from bringing the rescission claims.” Id. at
799.
The question for the Court is whether the facts of this case make it more like Scholes or
Wuliger. In support of its argument that the case is more like Wuliger, Defendants note that the
Receiver fails to identify any single individual responsible for its alleged fraudulent activity in its
amended complaint. Instead, Defendants point out that the Receiver blames the fraudulent
activity on the “Receivership Defendants.” [R. 13 at ¶ 37 (“the Receivership Defendants
engaged in a common enterprise by which they conducted an unlawful multilevel marketing
“pyramid” scheme”).]
The Court notes two occasions where wrongdoers were referenced, albeit somewhat
indirectly. First, in the amended complaint, the Receiver notes that the “eight owners and
shareholders of the Receivership Defendants received dividends and payments from the
Receivership Defendants…” [R. 13 at ¶ 51.] While there is no elaboration on the identities of
19
these persons, this reference highlights an important fact—real people were at the corporate
entities’ helm. Those persons were pulling the strings and the corporations, like marionettes,
responded. Second, as noted supra, the amended complaint incorporated both the preliminary
and permanent injunctions by reference. [See R. 13 at ¶ 6-7; R. 13-2 (Stipulated Preliminary
Injunction); R. 13-3 (Permanent Injunction).] The Permanent Injunction specifically
distinguished between “Corporate Defendants” (described herein as “Receivership Defendants”
or “Receivership Entities”) and “Individual Defendants” Paul C. Orberson, and Thomas Mills.
[R. 13-3 at 6.] That permanent injunction appointed the Receiver to stand in the shoes of the
“Corporate Defendants,” but not for the “Individual Defendants.” [R. 13-3 at 18.] The
Individual Defendants were removed so, to quote Scholes, “[t]he corporations were no more [the
individual Defendant’s] evil zombies.” 56 F.3d at 754.
The Receiver provides the Court with a few more reasons to distinguish (or disregard)
Wuliger. First, the Wuliger Court did not consider Scholes in the context of a fraudulent
conveyance claim. Instead, the Wuliger Court was evaluating a rescission claim. Second, the
Sixth Circuit in Wuliger was considering the district court’s decision granting a motion for
summary judgment, not a motion to dismiss. Third, the claim was analyzed under Ohio law.
Fourth, the the Court’s discussion of Scholes was not necessary to the resolution of the claims in
that case. The Sixth Circuit had already concluded that “Ohio’s courts [had] already spoken with
[ ] clarity on the issue,” rendering the Court’s discussion of the unclean hands dicta. Finally,
Receivers also point out that the Defendants do not cite to a single case where a fraudulent
transfer suit filed by a federal equity receiver over a corporate receivership entity was either
20
barred or dismissed because of the doctrine of in pari delicto. [R. 55 at 22.] This point is welltaken.
Public policy also supports permitting this case to survive beyond this stage of the
litigation. As the Court in Pursifull put it, the in pari delicto defense “is a creation of the courts
to purify the stream of justice, and is never employed to pollute it.” 293 Ky. 152 at 168 (1942).
To apply the doctrine in this case would not punish the persons who were truly the alleged
wrongdoers who were in charge of the Corporate Defendants, but would have the incidental
effect of harming the poorly compensated investors in their scheme.
III
Accordingly, for the aforementioned reasons, it is hereby ORDERED as follows:
1.
Defendants Ruel Morton’s and Anover, Inc.’s Motion to Join the Motion to Dismiss
[R. 70] is GRANTED; and
2. The Defendants’ Motion to Dismiss [R. 32] is DENIED.
This 30th day of September, 2015.
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