Cotter v. Gwyn et al
Filing
61
ORDER AND REASONS granting 37 Motion to Dismiss Crossclaims. The Answer filed by Defendant Bruce Gwyn (Doc. 23) is STRICKEN, and Defendant Andrew Reid's cross-claim against Michael Lapat is DISMISSED WITHOUT PREJUDICE. Reid may amend his cross-claim within 15 days of this Order to the extent that he can properly state a claim against Lapat. The remaining 10 , 17 , 18 Motions to Dismiss are DENIED. Signed by Judge Jane Triche Milazzo. (ecm)
UNITED STATES DISTRICT COURT
EASTERN DISTRICT OF LOUISIANA
PATRICK C. COTTER
CIVIL ACTION
VERSUS
No. 15-4823
BRUCE A. GWYN ET AL.
SECTION H
ORDER AND REASONS
Before the Court are Defendants Turn Key Hedge Funds, Inc. (“Turn
Key”) and Michael Lapat’s (“Lapat”) (collectively “TK&L”) Motion to Dismiss
(Doc. 10); Defendant Anne Marie Gwyn’s (“A. Gwyn”) Motion to Dismiss (Doc.
17); Defendant Treaty Energy Corporation’s (“Treaty”) Motion to Dismiss (Doc.
18); and TK&L’s Motion to Dismiss Cross-Claims (Doc. 37). For the following
reasons, TK&L’s Motion to Dismiss Cross-Claims is GRANTED. The
remaining motions are DENIED.
BACKGROUND
I.
General factual and procedural background
This matter arises out of the failure of a “commodity pool,” a type of
hedge fund that trades in commodities futures contracts. “Commodities futures
contracts are instruments that allow parties to agree to buy and sell a
1
particular commodity at a future date.” 1 “A commodity pool is the commodityfutures equivalent of a mutual fund; the investor buys shares in the pool and
the operator of the pool invests the proceeds in commodity futures.” 2 “They are
vehicles through which investors can aggregate their funds, allowing a
commodity pool operator to invest them for a fee.” 3
Level III Trading Partners, L.P. (“Level III” or “the Fund”) was a
commodity pool created in February 2007 by Defendant Bruce A. Gwyn
(“Gwyn”). According to the Complaint, the Fund attracted approximately $ 2.7
million in investments from its inception in 2007 to its filing for bankruptcy in
2013. From 2007 to 2010, the fund successfully and profitably operated as a
commodity pool.
Beginning in 2010, however, Gwyn allegedly began divesting the fund of
commodities futures and investing its assets in companies controlled by Gwyn
and his close business associate, Defendant Andrew V. Reid (“Reid”). The
Complaint claims that “[t]his scheme involved [transfers] in the guise of loans,
purchases of stock, and purchases of limited liability company membership
interests.” 4 These transfers were allegedly part of a larger fraudulent scheme
to artificially inflate the stock prices of two public companies, Defendants
Treaty and Orpheum Properties, Inc. (“Orpheum”).
Gwyn and Reid were
officers and directors of Treaty and Orpheum, and they maintained substantial
W. Capital Design, LLC v. New York Mercantile Exch., 180 F. Supp. 2d 438, 440 (S.D.N.Y.
2001).
2 Rosenthal & Co. v. CFTC, 802 F.2d 963, 965 (7th Cir. 1986).
3 Commodity Futures Trading Comm’n v. Equity Fin. Grp. LLC, 572 F.3d 150, 155 (3d Cir.
2009). Commodity pools in the United States are regulated by the Commodity Futures
Trading Commission and the National Futures Association. See Inv. Co. Inst. v. U.S.
Commodity Futures Trading Comm’n, 891 F. Supp. 2d 162, 169 (D.D.C. 2012); Investopedia,
http://www.investopedia.com/terms/c/commoditypool.asp (last visited May 24, 2016). The
term “commodity pool” is a legal term as set forth by the National Futures Association.
National Futures Association Glossary, https://www.nfa.futures.org/BasicNet/glossary
.aspx?term=C (last visited May 24, 2016).
4 Doc. 1, at 2.
1
2
financial interests in both companies. The Complaint also claims that Gwyn
misappropriated money from the fund by diverting cash for his own personal
use and by improperly charging the fund for fictitious administrative services
purportedly performed by Gwyn and his wife, defendant A. Gwyn.
In order to hide his self-dealing and the depletion of the fund’s assets
from its investors, the Complaint alleges that Gwyn disclosed false investment
performance reports, false asset values, and fraudulent account statements to
the fund’s investors.
Many of these reports to investors were allegedly
prepared and sent by Defendants TK&L. In addition to hiding Level III’s value
and the nature of its investments from current investors, Gwyn allegedly
continued to accept additional investments from current investors, as well as
limited partner subscriptions to the Fund from new investors looking to invest
in a commodity pool.
After Level III’s investors learned of the scheme, they filed an
involuntary petition for relief under Chapter 7 of the Bankruptcy Code on
August 2, 2013. 5
The bankruptcy court later converted the matter into a
voluntary petition for bankruptcy pursuant to Chapter 11. 6 On July 11, 2014,
the bankruptcy court confirmed a Chapter 11 plan for reorganization and
established a “Litigation Trust.”
It appointed Plaintiff, Patrick C. Cotter
(“Cotter” or “the Trustee”) as the “Trustee of the Litigation Trust created by
the plan.” 7
The litigation trustee represents the bankruptcy estate by
assuming the obligation to prosecute the bankruptcy estate’s claims for the
benefit of creditors. 8
The Chapter 11 plan in this case authorizes the
trustee to bring all claims on behalf of the bankrupt debtor’s estate. 9
In re Level III Trading Partners, L.P., No. 13-12120 (Bankr. E.D. La. Aug. 2, 2013).
In re Level III Trading Partners, L.P., No. 13-12120 (Bankr. E.D. La. Oct. 1, 2013).
7 In re Level III Trading Partners, L.P., No. 13-12120, at *2 (Bankr. E.D. La. July 11, 2014).
8 In re Railworks Corp., 325 B.R. 709, 719 (Bankr. D. Md. 2005).
9 In re Level III Trading Partners, L.P., No. 13-12120, at *9 (Bankr. E.D. La. May 27, 2014).
5
6
3
On September 28, 2015, Cotter filed the above-captioned action in this
Court in his capacity as trustee of the Level III Trading Partners, L.P.
Litigation Trust. The Trustee’s Complaint asserts seventeen claims for relief
against eleven defendants, and he seeks to avoid various pre-petition
transactions on behalf of the debtor. The matter was initially referred to the
bankruptcy court, but the referral was withdrawn on March 9, 2016.
Defendants TK&L, A. Gwyn, and Treaty have filed motions to dismiss the
claims against them.
After a more detailed review of the facts of the
Complaint, this Court will address each motion in turn.
II.
Specific allegations against TK&L
The Complaint devotes five-and-a-half pages specifically to allegations
against TK&L, in addition to other scattered references throughout. It states
that “Turn Key was the fund’s third-party administrator and professional
consultant from the fund’s inception in 2007 through March of 2012.” 10 It
alleges that Lapat “is an attorney licensed to practice law in Florida,” “[is] the
president and principal of [Turn Key],” and that he “provided legal services
and advice to the fund through Turn Key and/or his law firm.” 11
The Complaint alleges that Gwyn hired TK&L in February 2007 to
provide all of the necessary hedge fund start-up services, including the
preparation of offering and subscription documents and the partnership
agreement. “Thereafter, pursuant to its contract with Level III, Turn Key
provided hedge fund administration services, investor management services,
accounting management services, and compliance management services to
Level III.” 12
These services included “analyzing Level III’s financial
information and performance, communicating with [Defendant Kaplan &
Doc. 1, at 6.
Doc. 1, at 6.
12 Doc. 1, at 12.
10
11
4
Company (“Kaplan”), a CPA firm,] regarding financial statements, calculating
the fund’s net asset value, and calculating each investor’s capital account
value.” 13 TK&L were then allegedly responsible for distributing much of this
information to the fund’s investors. The Complaint claims that Level III also
engaged the legal services of Turn Key’s president and principal, Lapat, who
provided guidance regarding regulatory compliance and Level III’s purchases
of interests and stock in the companies discussed in the Complaint.
The Complaint states that in late 2009, when Gwyn decided to divest the
fund of commodities futures and make private investments, TK&L advised
Gwyn that Level III’s offering documents did not authorize such investments
and instead limited the fund to commodities futures products. Accordingly, in
order to permit such private investments, “in December 2009, Turn Key
revised the Executive Summary that was provided to potential investors to
state that, in addition to trading futures contracts and options, the fund [could]
also invest 0% to 10% of its assets in private securities and privately held
micro-cap companies.” 14 The Complaint alleges, however, that by the end of
2011 Gwyn had, “with the knowledge and assistance of [TK&L],” used nearly
100% of the Fund’s assets to either invest in small, closely-held companies that
he and Reid owned or controlled or to buy stock in Orpheum and Treaty.
Although the Fund allegedly derived no value from the self-interested
investments and, indeed, the Fund’s value was depleted because of them,
“Turn Key continued to report to the partnership and its investors in 2010 and
2011 that the fund’s net asset value was in the range of $1.3 to $1.6 million,
based on unsupported and inflated values assigned to the fund’s holdings and
interests in these companies.” 15
Doc. 1, at 12.
Doc. 1, at 7.
15 Doc. 1, at 9.
13
14
5
According to the Complaint, TK&L’s agreement with Level III obligated
them to render a number of services for the fund, the performance of which
gave TK&L a thorough understanding of the affairs of Level III. 16
The
Complaint states that TK&L “regularly reviewed Level III’s bank statements
and expense receipts and frequently noted and questioned Gwyn regarding
charges that were unrelated to the fund, issues with the amount of incentive
allocation that was withdrawn by [Level III Management, LLC (“L3M”)] 17
and/or Gwyn, and issues with loans that were made to Gwyn’s affiliates.” 18
TK&L also allegedly reviewed the operating agreements of the companies in
which Level III invested, revised correspondence that Gwyn prepared for the
Fund’s investors and potential investors, reviewed potential stock purchases,
and acted as a liaison between Level III and auditors or regulatory agencies. 19
The Trustee alleges that, as a result of their services, TK&L were aware
of Gwyn’s self-dealing investments, his collection of fraudulent management
fees, his regular use of the Fund’s cash for personal expenses, and the
unsecured and under-collateralized loans to his affiliates. The Trustee also
claims that “[TK&L] knew that the value of the fund’s investments and the
fund’s investment performance were fraudulently inflated and misrepresented
in financial statements that were provided to the partnership and its
investors.” 20 The Trustee alleges that TK&L assisted Gwyn in the self-dealing
transactions on multiple occasions by preparing, reviewing, commenting on,
and editing purchase and loan agreements. 21
Doc. 1, at 12–13.
According to the Complaint, L3M was the general partner that managed Level III, and it
was owned and operated by Gwyn. Doc. 1, at 4.
18 Doc. 1, at 13.
19 Doc. 1, at 13–14.
20 Doc. 1, at 15.
21 The Complaint specifically names several of the agreements on which TK&L allegedly
worked. Doc. 1, at 14.
16
17
6
The Complaint further alleges that during this period Gwyn and/or his
wife charged the fund $3,000 per month for administrative services that were
never actually provided.
“[TK&L] not only expressly authorized these
expenditures despite knowing that they were providing all of the fund’s
necessary administrative services but, at the request of Gwyn, they revised the
partnership agreement specifically to allow for L3M to be reimbursed for
additional alleged administrative costs.” 22 The Complaint states that TK&L
“knew about and authorized” charges to the fund from 2010 through June 2012
of $1,000 per month by Gwyn and/or his wife for rent of their residence. This
amount was allegedly excessive and/or unnecessary, provided less than
reasonably equivalent value to the fund, and caused or contributed to Level
III’s insolvency.
Although the Trustee admits that TK&L occasionally advised Gwyn that
certain charges, advances, and loans were prohibited, he claims that they
otherwise failed to satisfy the standard of care that they owed to Level III.
According to the Complaint, TK&L did not disclose the self-dealing to the
partnership and its limited partners or advise Gwyn that such disclosures were
required despite their duty to do so. In addition, the Complaint claims that
TK&L repeatedly sent financial reports and account statements to the
investors that reflected unsupported values assigned to private investments. 23
It alleges that TK&L did so even though they were responsible for drafting the
fund’s partnership agreement and knew that private investments like those
made in 2010 and 2011 were required to be carried in a side pocket
memorandum and could not be used to calculate the fund’s net asset value.
22
23
Doc. 1, at 9.
Doc. 1, at 15.
7
The Complaint states that TK&L continued to prepare such reports and
facilitate such investments even though, beginning in 2010, Gwyn did not send
them information in a timely manner and continuously provided them “with
inadequate, inaccurate, incomplete, inconsistent, confusing, continually
changing, ambiguous, and/or generally deficient supporting documentation
regarding an increasingly large percentage of the Partnership’s investments
and transactions.” 24
Despite an audit of Level III by the National Futures Association
(“NFA”) in March of 2011, TK&L allegedly continued to provide the abovedescribed services until they permanently terminated their relationship with
Level III in March 2012. In summation of his allegations against TK&L, the
Trustee states in the Complaint:
[TK&L] played an integral role in perpetuating Gwyn’s fraudulent
scheme. [TK&L] assisted and aided Gwyn in misappropriating
investors’ funds and misleading customers regarding the value of
their investments in the fund by preparing monthly statements
which they knew contained false or grossly inflated and
unsupported values. Without their assistance, Level III could not
have operated, and Gwyn could not have succeeded in defrauding
the fund and its investors. [TK&L] were in a position to prevent
or halt the fraud, but they failed to do so. If Turn Key and/or Lapat
had disclosed to the partnership and the fund’s subscribers Gwyn’s
personal interest in Level III’s private investments and
questionable transactions and/or that Level III’s financial
statements were materially misstated and not in accordance with
generally accepted accounting principles, or if Turn Key and/or
Lapat had qualified the disseminated information with a going
concern qualification, the corresponding losses to Level III as a
result of Gwyn’s systematic self-dealing would have been
avoided. 25
Doc. 1, at 15. The trustee claims that this characterization is taken from “[TK&L’s] own
words,” but he does not cite to the source of the alleged quotations.
25 Doc. 1, at 16–17.
24
8
III.
Specific allegations against A. Gwyn and Treaty
a. A. Gwyn
The Complaint alleges that the fund made several fraudulent transfers
to Gwyn and A. Gwyn from August to December 2010 and from January 2011
to June 2012. 26
These transfers were made for, among other things,
“administrative services” that the Trustee claims were never actually
performed and “rent” that the Trustee argues was unreasonably excessive. 27
The transfers totaled approximately $335,000. 28 The Complaint also claims
that several hundred thousand dollars that were allegedly fraudulently
transferred to Defendant GAGA, LLC (“GAGA”) should be deemed transfers to
and for the benefit of Gwyn and A. Gwyn. 29 The Trustee seeks to undo each of
these allegedly fraudulent transactions.
b. Treaty
According to the Complaint, Defendant Reid was CEO, a chairman of the
board, and a major shareholder of Treaty. Gwyn was either co-CEO or COO,
a member of the board, and a major shareholder of Treaty. As referenced
above, Treaty is one of the companies in which Gwyn invested Level III’s assets
without the knowledge and to the detriment of Level III’s investors. The
transfers were allegedly made to artificially inflate the share price of Treaty.
The Complaint also asserts that, as CEO, Gwyn began receiving “substantial
payments from Treaty.” 30 The Trustee seeks to undo these transactions.
Doc. 1, at 21.
Doc. 1, at 9.
28 Doc. 1, at 21.
29 Doc. 1, at 21–22.
30 Doc. 1, at 8.
26
27
9
LEGAL STANDARD
I.
Federal Rule of Civil Procedure 12(b)(6)
To survive a Rule 12(b)(6) motion to dismiss, a plaintiff must plead
enough facts “to state a claim for relief that is plausible on its face.” 31 A claim
is “plausible on its face” when the pleaded facts allow the court to “draw
reasonable inference that the defendant is liable for the misconduct alleged.” 32
A court must accept the complaint’s factual allegations as true and must “draw
all reasonable inferences in the plaintiff’s favor.” 33
The court need not,
however, accept as true legal conclusions couched as factual allegations. 34 To
be legally sufficient, a complaint must establish more than a “sheer possibility”
that the plaintiff’s claims are true. 35 If it is apparent from the face of the
complaint that an insurmountable bar to relief exists and the plaintiff is not
entitled to relief, the court must dismiss the claim. 36 The court’s review is
limited to the complaint and any documents attached to the motion to dismiss
that are central to the claim and referenced by the complaint. 37
II.
Federal Rule of Civil Procedure 9(b)
Pursuant to Rule 9(b) of the Federal Rules of Civil Procedure, when
“alleging fraud or mistake, a party must state with particularity the
circumstances
constituting
fraud or mistake.”
“Pleading fraud
with
particularity in this circuit requires ‘time, place and contents of the false
representations, as well as the identity of the person making the
Ashcroft v. Iqbal, 556 U.S. 662 (2009) (quoting Bell Atl. Corp. v. Twombly, 550 U.S. 544,
547 (2007)).
32 Id.
33 Lormand v. U.S. Unwired, Inc., 565 F.3d 228, 232 (5th Cir. 2009).
34 Iqbal, 556 U.S. at 678.
35 Id.
36 Lormand, 565 F.3d at 255–57.
37 Collins v. Morgan Stanley Dean Witter, 224 F.3d 496, 498 (5th Cir. 2000).
31
10
misrepresentation and what [that person] obtained thereby.’” 38
In other
words, “the who, what, when, and where must be laid out . . . .” 39
“A dismissal for failure to plead fraud with particularity under Rule 9(b)
is treated as a dismissal for failure to state a claim under Rule 12(b)(6). 40
“Rule 9(b) is an exception to Rule 8(a)’s simplified pleading that calls for a
‘short and plain statement of the claim.’ The particularity demanded by Rule
9(b) is supplemental to the Supreme Court’s recent interpretation of Rule 8(a)
requiring ‘enough facts [taken as true] to state a claim to relief that is plausible
on its face.’” 41 As the Fifth Circuit has further explained:
In cases of fraud, Rule 9(b) has long played [a] screening function,
standing as a gatekeeper to discovery, a tool to weed out meritless
fraud claims sooner than later. We apply Rule 9(b) to fraud
complaints with “bite” and “without apology,” [Williams, 112 F.3d
at 178] but also aware that Rule 9(b) supplements but does not
supplant Rule 8(a)’s notice pleading. Rule 9(b) does not “reflect a
subscription to fact pleading” [id.] and requires only “simple,
concise, and direct” allegations of the “circumstances constituting
fraud,” which after Twombly must make relief plausible, not
merely conceivable, when taken as true. 42
III.
Pleading Standard under the Private Securities Litigation
Reform Act of 1995 (the “PSLRA”)
In addition to Rule 9(b)’s heightened pleading requirements, Congress
enacted the PSLRA, 15 U.S.C § 78u et seq., to require an even higher pleading
standard for plaintiffs bringing private securities fraud actions. 43 This PSLRA
Williams v. WMX Techs., Inc., 112 F.3d 175, 177 (5th Cir. 1997).
Id. at 178.
40 U.S. ex rel. Thompson v. Columbia/HCA Healthcare Corp., 125 F.3d 899, 901 (5th Cir.
1997).
41 United States ex rel. Grubbs v. Kanneganti, 565 F.3d 180, 185 (5th Cir. 2009) (quoting
Twombly, 550 U.S. at 570).
42 Id. at 185–86.
43 SEC v. Blackburn, No. 15-2451, 2015 WL 9459976, at *6 (E.D. La. Dec. 28, 2015).
38
39
11
heightened pleading standard is targeted at preventing abusive securities
litigation. 44
The PSLRA provides two distinct pleading requirements, both of which
must be met in order for a complaint to survive a motion to dismiss. 45 First,
under 15 U.S.C. § 78u–4(b)(1), the complaint must specify each allegedly
misleading statement, why the statement was misleading, and, if an allegation
is made on information and belief, all facts supporting that belief with
particularity.
Second, the complaint must, “with respect to each act or
omission alleged to violate this chapter, state with particularity facts giving
rise to a strong inference that the defendant acted with the required state of
mind.” 46
Only the second requirement “alters the usual contours of a Rule 12(b)(6)
ruling.” 47 Instead of drawing all reasonable inferences in the plaintiff’s favor,
the Court “must take into account plausible inferences opposing as well as
supporting a strong inference of scienter.” 48
This includes any “nonculpable
explanations for the defendant’s conduct.” 49 “The inference of scienter must
ultimately be ‘cogent and compelling,’ not merely ‘reasonable’ or ‘permissible,’”
in light of other explanations. 50
In other words, a plaintiff can only satisfy
See Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 313 (2007) (“Private
securities fraud actions . . . if not adequately contained, can be employed abusively to impose
substantial costs on companies and individuals whose conduct conforms to the law.”); Merrill
Lynch, Pierce, Fenner & Smith Inc. v. Dabit, 547 U.S. 71, 81 (2006) (identifying “ways in
which the class–action device was being used to injure the entire U.S. economy” and listing
examples such as “nuisance filings, targeting of deep–pocket defendants, vexatious discovery
requests, and manipulation by class action lawyers of the clients whom they purportedly
represent . . .”) (internal quotations and citations omitted).
45 See Lormand, 565 F.3d at 239; 15 U.S.C. § 78u–4(b)(3)(A).
46 15 U.S.C. § 78u–4(b)(2).
47 Lormand, 565 F.3d at 239.
48 Id.
49 Cent. Laborers’ Pension Fund v. Integrated Elec. Servs., Inc., 497 F.3d 546, 551 (5th Cir.
2007).
50 Lormand, 565 F.3d at 239; see also Cent. Laborers’, 497 F.3d at 551.
44
12
the scienter requirement if the inference of scienter is “at least as compelling
as any opposing inference one could draw from the facts alleged.” 51 While
omissions and ambiguities count against inferring scienter, “the court’s job is
not to scrutinize each allegation in isolation but to assess all the allegations
holistically.” 52
A plaintiff may satisfy this heightened pleading requirement by alleging
facts showing a motive to commit fraud and a clear opportunity to do so, or by
identifying circumstances indicating conscious or reckless behavior by
defendants, so long as the totality of allegations raises a strong inference of
fraudulent intent. 53 “Although the strong-inference pleading standard does
not license courts to resolve disputed facts at the motion to dismiss stage, it
does permit the court to ‘engage in some weighing of the allegations to
determine whether the inferences toward scienter are strong or weak.’” 54
LAW AND ANALYSIS
I.
TK&L’s Motion to Dismiss (Doc. 10)
The Trustee asserts seven claims against Turn Key 55 and five claims
against Lapat. 56 TK&L move to dismiss only the claims against them made
Tellabs, 551 U.S. at 324.
Id. at 326.
53 Firefighters Pension & Relief Fund of the City of New Orleans v. Bulmahn, No. 13-3935,
2015 WL 7454598, at *9 (E.D. La. Nov. 23, 2015) (Vance, J.) (citing Tuchman v. DSC
Commc’ns Corp., 14 F.3d 1061, 1068 (5th Cir. 1994)).
54 Id. (quoting Cent. Laborers’, 497 F.3d at 551).
55 The Complaint makes the following claims against Turn Key: (1) violation of Section 10 of
the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b) et seq., and Rule 10b–5 as promulgated
thereunder, (2) violation of state securities laws, (3) professional malpractice and negligence,
(4) aiding and abetting certain co-defendants’ wrongful actions, (5) breach of contract, (6) civil
conspiracy, and (7) misrepresentations and omissions. Doc. 1, at 26–41.
56 The Complaint makes the following claims against Lapat: (1) violation of Section 20 of the
Exchange Act, (2) violation of state securities laws, (3) professional malpractice and
negligence, (4) aiding and abetting certain co-defendants’ wrongful actions, and (5) civil
conspiracy. Doc. 1, at 26–41.
51
52
13
pursuant to the Securities Exchange Act of 1934 (the “Exchange Act”). The
Trustee has brought claims pursuant Section 10(b) of the Exchange Act against
Turn Key and pursuant to Section 20 of the Exchange Act against Lapat.
Because Section 20 merely seeks to hold Labat jointly liable with Turn Key as
the “control person” of the entity, the Court need only find that the Trustee has
sufficiently alleged an underlying violation of the Exchange Act. Accordingly,
this Court will address the Trustee’s allegations under Section 10.
A. Section 10(b)
“Congress enacted § 10(b) to insure honest securities markets and
thereby promote investor confidence.” 57 Section 10(b) makes it unlawful for a
person to:
use or employ, in connection with the purchase or sale of any
security . . . any manipulative or deceptive device or contrivance in
contravention of such rules and regulations as the [U.S. Securities
and Exchange Commission (“SEC”)] may prescribe as necessary or
appropriate in the public interest or for the protection of
investors. 58
The SEC, pursuant to this section, promulgated Rule 10b–5, which provides:
It shall be unlawful for any person, directly or indirectly, by the
use of any means or instrumentality of interstate commerce, or of
the mails or of any facility of any national securities exchange,
(a) To employ any device, scheme, or artifice to defraud,
(b) To make any untrue statement of a material fact or to omit to
state a material fact necessary in order to make the statements
made, in the light of the circumstances under which they were
made, not misleading, or
(c) To engage in any act, practice, or course of business which
operates or would operate as a fraud or deceit upon any person,
in connection with the purchase or sale of any security. 59
Chadbourne & Parke LLP v. Troice, 134 S. Ct. 1058, 1075 (2014).
15 U.S.C. § 78j(b).
59 17 C.F.R. § 240.10b–5.
57
58
14
TK&L’s motion to dismiss assumes that the only claim the trustee
alleges against them pursuant to Rule 10b–5 is a claim under Rule 10b–5(b).
In his opposition, however, the Trustee clarifies that he is asserting claims
under Rules 10b–5(a) and 10b–5(c), commonly referred to as “scheme liability,”
in addition to his claim under Rule 10b–5(b). 60 The Complaint supports that
assertion. 61 This Court will address each claim in turn.
i.
Rules 10b–5(a) and 10b–5(c)
TK&L allege that the Trustee’s Complaint fails to plead with
particularity any manipulative acts that it performed and the effect those acts
had on the Fund. “To state a claim based on conduct violating Rule 10b–5(a)
and (c), [a] plaintiff must allege (1) that the defendant committed a deceptive
or manipulative act, (2) in furtherance of the alleged scheme to defraud, (3)
with scienter, and (4) reliance.” 62 Thus, a claim of liability for violations of
Rule 10b–5(a) or 10b–5(c) does not require an allegation that the defendant
made a misleading statement, “as liability is premised on a course of deceptive
conduct undertaken by the defendant, rather than on misrepresentations or
omissions.” 63 Courts have explained that “‘courts must scrutinize [a scheme
Doc. 28, at 15.
Indeed, the Complaint mirrors the language of Rule 10b–5:
Turn Key, Kaplan, and Gwyn violated § 10 of the 1934 Act and Rule 10b–5 in
that they:
a. employed devices, schemes and artifices to defraud;
b. made untrue statements of material facts or omitted to state
material facts necessary in order to make the statements made, in
light of the circumstances under which they were made, not
misleading; or
c. engaged in acts, practices and a course of business that operated as
a fraud or deceit upon Level III and its investors.
Doc. 1, at 32.
62 In re Alstom SA, 406 F. Supp. 2d 433, 474 (S.D.N.Y. 2005); see also In re Enron Corp. Sec.,
Derivative & ERISA Litig., No. H-01-3624, 2006 WL 6892915, at *3 n.8 (S.D. Tex. Dec. 4,
2006).
63 In re Alstom SA, 406 F. Supp. 2d at 474.
60
61
15
liability
claim
under
Rule
10b–5(a)
or
10b–5(c)]
to
ensure
that
misrepresentation or omission claims [under Rule 10b–5(b)] do not proceed
under the scheme liability rubric.’” 64 “Courts have ‘not allowed subsections (a)
and (c) of Rule 10b–5 to be used as a back door into liability for those who help
others make a false statement or omission in violation of subsection (b) of Rule
10b–5.’” 65
“Accordingly, where ‘the core misconduct alleged is in fact a
misstatement, it [is] improper to impose primary liability . . . by designating
the alleged fraud a ‘manipulative device’ rather than a ‘misstatement.’” 66
“Scheme liability thus hinges on the performance of an inherently deceptive
act that is distinct from an alleged misstatement.” 67
Claims for liability under Rule 10b–5(a) or 10b–5(c) need not comport
with the PSLRA’s pleading requirement that “a plaintiff set forth each
statement alleged to have been misleading, and facts giving rise to this
belief.” 68 However, claims under Rule 10b–5(a) or 10b–5(c) must satisfy the
PSLRA’s heightened pleading requirement as to scienter.
69
S.E.C. v. Farmer, No. 4:14-CV-2345, 2015 WL 5838867, at *14 (S.D. Tex. Oct. 7, 2015)
(quoting In re Smith Barney Transfer Agent Litig., 884 F. Supp. 2d 152, 161 (S.D.N.Y. 2012)).
65 S.E.C. v. Farmer, 2015 WL 5838867, at *14 (quoting SEC v. Kelly, 817 F.Supp.2d 340, 343
(S.D.N.Y. 2011)); see also Town N. Bank, N.A. v. Shay Fin. Servs., Inc., No. 3:11-CV-3125-L,
2014 WL 4851558, at *12 (N.D. Tex. Sept. 30, 2014) (“Town North’s pleadings . . . focus solely
on alleged misrepresentations and omissions by Defendants [and in spite of Town North’s
contrary arguments] [t]he court therefore construes Town North’s claim as one for alleged
federal securities violations under [Rule 10b–5(b), not 10b–5(a) or 10b–5(c).]”).
66 S.E.C. v. Farmer, 2015 WL 5838867, at *14 (quoting SEC v. KPMG LLP, 412 F.Supp.2d
349, 377–78 (S.D.N.Y. 2006)).
67 Id. (internal quotation and citations omitted); see also WPP Lux. Gamma Three Sarl v. Spot
Runner, Inc., 655 F.3d 1039, 1057 (9th Cir. 2011) (“A defendant may only be liable as part of
a fraudulent scheme based upon misrepresentations and omissions under Rules 10b–5(a)
and (c) when the scheme also encompasses conduct beyond those misrepresentations or
omissions.”); Pub. Pension Fund Grp. v. KV Pharm. Co., 679 F.3d 972, 987 (8th Cir. 2012)
(same).
68 In re Alstom SA, 406 F. Supp. 2d at 475.
69 Id.; see also In re Enron Corp., 2006 WL 6892915 at *3 (“The heightened pleading
requirements of the [PSLRA] apply to the pleading of scienter, while the Rule 9(b) standard
for pleading fraud applies to pleading claims under Rule 10b–5(a) and (c).”).
64
16
The Trustee argues that the Complaint adequately alleges scheme
liability
because
“although
the
Trustee
has
identified
actionable
misrepresentations and false statements regarding Level III’s [net asset value]
that were repeatedly made to investors, the Complaint also outlines in detail
a broader scheme in which [TK&L] participated that allowed Mr. Gwyn to hide
his self-dealing and contributed to the false impression that Level III was
continuing to operate successfully and profitably.” 70
The Court agrees.
Viewing the Complaint in the light most favorable to the Trustee, it alleges
that TK&L performed deceptive acts that were distinct from TK&L’s alleged
misrepresentations to the investors.
For example, the Complaint accuses TK&L of facilitating Gwyn’s selfinterested investments in spite of TK&L’s knowledge that those investments
were prohibited. The Complaint also alleges that TK&L expressly authorized
Gwyn’s expenditures for administrative services that TK&L knew or should
have known were fraudulent. While the Trustee argues that TK&L is liable
for failing to report these transactions to investors, he also faults TK&L with
enabling these transactions in the first place. Thus the Court cannot conclude
at this stage in the proceedings that the Trustee’s Complaint alleges only that
TK&L made material misrepresentation and omissions and did not engage in
other deceptive conduct. The Trustee’s claims pursuant to Rules 10b–5(a) and
10b–5(c) stand.
i.
Rule 10b–5(b)
TK&L next argue that the Trustee’s claims under Rule 10b–5(b) should
be dismissed because (1) the Complaint does not meet the heightened pleading
requirements for scienter as set forth by the PSLRA and (2) TK&L are not
70
Doc. 28, at 16.
17
“makers” within the meaning of Section 10b–5(b). This Court will address each
argument in turn.
1. Scienter
TK&L argue that the Trustee has not pled sufficient facts to give rise to
a strong inference that their actions were intentionally malevolent or
constituted an extreme departure from the standard of ordinary care. They
also argue that the Trustee fails to identify “a specific corporate officer or
employee who acted with the requisite mental state in relation to each
Where the
purported misrepresentation attributed to the company.” 71
Complaint
does
occasionally
attribute
to
Turn
Key
a
particular
misrepresentation or omission by Lapat, TK&L argue that the Complaint does
not provide sufficient detail to infer that Lapat possessed the necessary mental
state.
In response, the Trustee argues that “[i]f the Court takes a holistic view
of the Complaint’s allegations regarding Mr. Lapat’s conduct, knowledge, and
state of mind, those collective allegations give rise to a strong plausible
inference of scienter on behalf of Turn Key.” 72 “When these allegations are
read together and accepted as true,” the Trustee alleges, “the only inference
that can be drawn is that Turn Key, through Mr. Lapat, at a minimum, acted
with severe recklessness as Mr. Lapat had to know of the obvious danger that
investors were being misled by Turn Key’s conduct, omissions, and statements
regarding the fund’s value in 2010 and 2011.” 73
In order to state a claim under Rule 10b–5(b) the Trustee must allege:
(1) a material misrepresentation or omission by the defendant; (2) scienter; (3)
a connection between the misrepresentation or omission and the purchase or
Doc. 10-1, at 9.
Doc. 28, at 18.
73 Doc. 28, at 21.
71
72
18
sale of a security; (4) reliance upon the misrepresentation or omission; (5)
economic loss; and (6) loss causation. 74 The complaint must also satisfy the
heightened pleading requirement of the PSLRA, which, inter alia, mandates
that the complaint allege facts giving rise to a strong inference that the
defendant acted with the required state of mind. A plaintiff may satisfy the
PSLRA’s heightened pleading requirement by alleging facts showing a motive
to commit fraud and a clear opportunity to do so, or by identifying
circumstances indicating conscious or reckless behavior by defendants, so long
as the totality of allegations raises a strong inference of fraudulent intent. 75
The Fifth Circuit has stated that:
For purposes of determining whether a statement made by the
corporation was made by it with the requisite Rule 10(b) scienter
we believe it appropriate to look to the state of mind of the
individual corporate official or officials who make or issue the
statement (or order or approve it or its making or issuance, or who
furnish information or language for inclusion therein, or the like)
rather than generally to the collective knowledge of all the
corporation’s officers and employees acquired in the course of their
employment. 76
A complaint must allege particular facts giving rise to a “strong inference” that
the defendant made misrepresentations or omissions with “not merely simple
or even inexcusable negligence” but rather with the “intent to deceive,
manipulate, or defraud” or with “severe recklessness in which the danger of
misleading buyers or sellers . . . is either known to the defendant or is so
obvious that the defendant must have been aware of it.” 77 “The inference of
scienter must ultimately be ‘cogent and compelling,’ not merely ‘reasonable’ or
Amgen Inc. v. Connecticut Ret. Plans & Trust Funds, 133 S. Ct. 1184, 1207 (2013).
See Tuchman, 14 F.3d at 1068.
76 Southland Sec. Corp., 365 F.3d at 366.
77 Southland Sec. Corp., 365 F.3d at 366.
74
75
19
‘permissible,’” in light of other explanations. 78 In other words, a plaintiff can
only satisfy the scienter requirement if the inference of scienter is “at least as
compelling as any opposing inference one could draw from the facts alleged.” 79
Here, the Trustee alleges that TK&L acted with the requisite fraudulent
intent because their extensive involvement with Level III meant that they
must have known that the information they were reporting to investors on
behalf of Gwyn was false. He also alleges that TK&L facilitated Gwyn’s selfinterested transactions despite TK&L’s knowledge that they were fraudulent.
These allegations, which are outlined in significant detail in the Complaint,
give rise to a strong inference of scienter that is at least as compelling as any
opposing inference that one could draw from the facts alleged. Even if TK&L
did not intentionally engage in deceptive conduct, the allegations are sufficient
to indicate reckless disregard in reporting false information to investors.
Defendants’ argument that the Trustee failed to meet the heightened pleading
requirements for scienter therefore fails.
2. “Makers” under Rule 10b–5(b)
TK&L next argue that the Trustee cannot succeed on its 10b-5(b) claim
against them because they are not “makers” of a material misstatement within
the meaning of Section 10b–5(b). To be liable under Rule 10b–5(b), a defendant
“must have ‘made’ the material misstatement” at issue. 80 As the U.S. Supreme
Court explained in Janus Capital Group, Inc. v. First Derivative Traders, “[f]or
purposes of Rule 10b–5, the maker of a statement is the person or entity with
ultimate authority over the statement, including its content and whether and
how to communicate it.” 81 “One who prepares or publishes a statement on
Lormand, 565 F.3d at 239.
Tellabs, 551 U.S. at 324.
80 Janus Capital Grp., Inc. v. First Derivative Traders, 564 U.S. 135, 141 (2011).
81 Id. at 142.
78
79
20
behalf of another is not its maker.” 82 A speechwriter, for example, cannot be
held liable under Rule 10b–5(b) because “[e]ven when a speechwriter drafts a
speech, the content is entirely within the control of the person who delivers
it.” 83 “[I]t is the speaker who takes credit—or blame—for what is ultimately
said.” 84 “[A]ttribution within a statement or implicit from surrounding
circumstances is strong evidence that a statement was made by. . . the party
to whom it is attributed.” 85
In Janus, the Supreme Court held that a mutual fund investment
advisor that “was significantly involved in preparing [a client’s] prospectuses”
did not “make” the statements contained therein. 86 Only the client had the
“statutory obligation to file the prospectuses” and nothing in the document
“indicate[d] that any statements . . . came from” the defendant rather than its
client. 87
The Supreme Court cautioned that a “broader reading of ‘make’”
would “substantially undermine” the rule prohibiting private suits against
aiders and abettors of Rule 10b–5 violations.
Relying on Janus, TK&L argue that they were not the “makers” of any
actionable misrepresentations because they had “no authority over [the]
statements, their content, or when they were made.” 88 They assert that the
allegations, taken as a whole, “create the impression that to the extent Turn
Key or Lapat aided in the preparation of false material statements, it was at
the direction of Gwyn and Level III, who ultimately controlled the statements
and to whom the statements were attributable.” 89
Id.
Id. at 143.
84 Id. at 143.
85 Id. at 143–43.
86 Id. at 147-48.
87 Id.
88 Doc. 10-1, at 12.
89 Doc. 10-1, at 12.
82
83
21
In opposition, the Trustee argues that Defendants ignore key
distinctions between this case and Janus. 90 Most notably, he claims that the
Supreme Court’s decision in Janus “turned primarily on the fact that the
statements in the prospectuses were publicly attributed only to the fund itself,
such that there could be no reliance by the plaintiff-investors on the advisor’s
participation, which would be unknown to the investors.” 91
Thus, in the
Trustee’s view, “Janus does not preclude liability of parties who participate in
the making of statements when the statements are attributed to them.” 92
As support, the Trustee cites to an opinion from the Southern District of
New York, In re Puda Coal Sec. Inc., Litig., 30 F. Supp. 3d 261, 266 (S.D.N.Y.
2014), which held that the defendant-underwriters were the makers of alleged
misstatements where the underwriters actively participated in creating the
prospectus, the underwriters were required to approve the prospectus before
its dissemination to investors, and the underwriters’ names appeared
prominently on the prospectuses. 93
The court held that these facts were
sufficient to cause the statements within the prospectus to be attributable to
the underwriters. 94 A more recent opinion discussing Puda found that the
complaint’s allegations regarding the involvement of the defendant in the
creation and dissemination of the misleading statement must be “specific and
particularized.” 95
Doc. 28, at 22.
Doc. 28, at 22.
92 Doc. 28, at 22.
93 Doc. 28, at 22–23. The Trustee also cites several other district court opinions that are cited
in Puda as opinions having reached a similar result. See Scott v. ZST Digital Networks, Inc.,
896 F.Supp.2d 877, 890 (C.D. Cal. 2012); In re Nat’l Century Fin. Enters., Inc., 846 F.Supp.2d
828, 861 (S.D. Ohio 2012); In re Allstate Life Ins. Co. Litig., No. cv–09–8162 (GMS), 2012 WL
176497, at *5 (D. Ariz. Jan. 23, 2012).
94 In re Puda Coal Sec. Inc., Litig., 30 F. Supp. 3d at 266.
95 Sharette v. Credit Suisse Int'l, 127 F. Supp. 3d 60, 93 (S.D.N.Y. 2015).
90
91
22
Although neither the Fifth Circuit nor this Court have yet had the
opportunity to apply Janus, the Court concludes that TK&L may be considered
“makers” under that decision. The allegations in the Complaint indicate that
Turn Key may have been more than a mere “speechwriter” for Level III.
Indeed, Turn Key was responsible for analyzing information provided by Level
III and then distributing the results of that analysis to investors.
The
Compliant alleges that Turn Key was responsible for calculating Level III’s net
asset value and it specifically alleges that the net asset value was fraudulently
inflated to mislead investors.
Turn Key was therefore at least partially
responsible for the misleading statements disseminated to investors because it
conducted the net asset value analysis included therein. Furthermore, there
may have been some confusion among the investors regarding the extent of
Turn Key’s responsibilities. 96
Under Janus and Puda, investor confusion
regarding the source of the information weighs in favor of finding Turn Key to
be a “maker” because it suggests that the investors attributed the content of
the communications to Turn Key and not to Level III. While it is admittedly a
close question, the Court concludes that the Complaint contains sufficient
allegations to state a claim against TK&L as makers under the Rule 10b–5(b).
B. Section 20
Section 20(a), codified at 15 U.S.C. § 78t(a), provides: “Every person who,
directly or indirectly, controls any person liable under any provision of this
chapter . . . shall also be liable jointly and severally with and to the same extent
as such controlled person.” 97 “Control person” liability under section 20(a)
requires an underlying violation of the Exchange Act. 98
Accordingly, because
See Doc. 1-6 (“Hopefully, this [email] will serve to clear up any misunderstandings
regarding what it is our company does for Level III and why the accounting for certain
months has not yet been completed, resulting in the delay of certain withdrawals.”).
97 See also Bulmahn, 2015 WL 7454598 at *31.
98 Spitzberg v. Houston Am. Energy Corp., 758 F.3d 676, 680 n.1 (5th Cir. 2014).
96
23
the Court finds that the Trustee alleges an Exchange Act violation, TK&L’s
motion to dismiss the Trustee’s Section 20 claim for lack of an underlying
violation must be denied.
3. Motion to dismiss the claims against A. Gwyn and Treaty
A. Gwyn argues in her motion that the Louisiana state law claims
against her should be dismissed because: (1) the bankruptcy court has already
held that Louisiana law does not apply to this action; (2) because those claims
have prescribed; and (3) because the Complaint fails to name an indispensable
party.
She also argues that (1) the Alabama state law claims should be
dismissed as time-barred; (2) the claims pursuant to 11 U.S.C. § 548 fail as a
matter of law; and (3) any claims to annul contracts should fail as a matter of
law because there are no contracts to annul. Treaty’s motion is substantively
identical.
The Trustee has filed a single opposition to both motions. In addition,
Defendant Kaplan has filed a brief asserting that, although it “takes no
position as to the merits of the [motions to dismiss],” it believes that the
bankruptcy court’s holding with respect to the choice of law issue was only that
Alabama law governs relations among the partners of Level III and between
the partners and Level III. 99 Thus, “Kaplan agrees that Alabama law may
govern Level III’s claims against partners and limited partners of Level III,
but believes that the Bankruptcy Court’s ruling is limited to these classes of
defendants and does not apply to all claims related to Level III.” 100 For the
following reasons, the Court concludes that A. Gwyn and Treaty’s motions
should be denied.
99
Doc. 20, at 1.
Doc. 20, at 1.
100
24
A. Claims under Louisiana law
First, the Court agrees with the Trustee and Kaplan that the bankruptcy
court’s holding regarding choice of law, to the extent that it may limit this
Court’s choice of law determinations, cannot be read as broadly as A. Gwyn
and Treaty suggest. The bankruptcy court decision stated that “Alabama law
‘governs the relations among the parties of [the] limited partnership and
between the partners and the limited partnership.’” 101 That holding does not
support the proposition that Alabama law must govern all state law claims in
this proceeding. A. Gwyn and Treaty are not, and have never been, limited
partners of Level III. This Court need not engage in a choice of law analysis
to determine that this basis for defendants’ motions to dismiss is without
merit.
Second, the Court agrees with the Trustee that the Louisiana state law
claims are timely. All parties agree that Louisiana Civil Code article 2041
establishes the applicable prescriptive period for the Trustee’s state law
claims. Article 2041 provides, in pertinent part:
The action of the obligee must be brought within one year from the
time he learned or should have learned of the act, or the result of
the failure to act, of the obligor that the obligee seeks to annul, but
never after three years from the date of that act or result. 102
Doc. 17-2, at 7.
The final line of Article 2041 states: “The three year period provided in this Article shall
not apply in cases of fraud.” However, the Trustee does not contest A. Gwyn and Treaty’s
assertion that the fraud exception provided in the final line of Article 2041 does not apply in
this case because it was added to the statute on August 1, 2013 and was a substantive change
in the law. See Doc. 17-1, at 7 (citing La. Civil Code Art. 6; Thomassie v. Savoie, 581 So.2d
1031, 1033–34 (La. App. 1st Cir. 1991) (new prescriptive period for revocatory actions that
went into effect in 1984 did not apply retroactively because amendment created liabilities
where none existed before and was, thus, substantive)).
101
102
25
The Complaint alleges that fraudulent transfers were made from Level III to
Defendants from 2010 through June 2012. 103
This action was filed on
September 28, 2015—clearly outside of the three year peremptive period.
Plaintiff argues, however, that “upon commencement of the bankruptcy case,
the Bankruptcy Code determines the prescriptive and preemptive periods of
avoidance actions.” 104 This Court agrees.
Pursuant to 11 U.S.C. § 544(b), a trustee succeeds to the rights of the
bankruptcy estate’s creditors to avoid transactions under non-bankruptcy law.
“The trustee’s successor rights arise under federal law, but the extent of those
rights depends entirely on applicable state law.” 105
However, a separate
provision in the Bankruptcy Code, 11 U.S.C. § 546(a), “is designed to give the
trustee ‘some breathing room’ to determine which claims to bring under section
544.” 106 Pursuant to 11 U.S.C. § 546(a)(1)(A), the trustee may assert any claim
that existed as of the date of the involuntary bankruptcy petition, so long as
that claim is filed within two years of the date of the bankruptcy court’s order
for relief. In other words, “[i]f an actual, unsecured creditor can, on the date of
the bankruptcy, reach property that the debtor has transferred to a third party,
the trustee may use § 544(b) to step into the shoes of that creditor and ‘avoid’
the debtor’s transfer” provided that the trustee files the claim within two years
of the order for relief. 107
The petition for bankruptcy was filed August 2, 2013, and the
bankruptcy court’s order for relief was issued October 1, 2013. The parties
agree that the Trustee’s filing of the above-captioned matter on September 28,
Doc. 17-1, at 7 (citing to the Complaint, Doc. 1, at 9–10).
Doc. 27, at 7.
105 In re Moore, 608 F.3d 253, 260 (5th Cir. 2010).
106 Smith v. Am. Founders Fin., Corp., 365 B.R. 647, 677–79 (S.D. Tex. 2007).
107 In re Moore, 608 F.3d at 260.
103
104
26
2015 was within two years of the bankruptcy court’s order for relief. 108 They
also do not dispute that the Louisiana state law claims were timely on the date
the bankruptcy petition was filed. Nevertheless, A. Gwyn and Treaty argue
that because the three-year period created by Louisiana Civil Code article 2041
is considered peremption, § 546(a) could not prevent the period from expiring
prior to the commencement of this action.
As several courts have recognized, however, §§ 544 and 546 preempt
state law. 109 Preemption is possible under the Supremacy Clause because §§
544 and 546 are a creation of the Bankruptcy Code, derived from the federal
government’s congressional powers listed in Article I, Section 8, of the
Constitution. 110 Accordingly, the peremptive period set forth by state law is
preempted by §§ 544 and 546 of the Bankruptcy Code. In this case, it appears
that the earliest allegedly fraudulent transfers to A. Gwyn and Treaty occurred
within three years of the filing of the bankruptcy petition. Therefore, those
claims existed, and were not yet perempted, at the time of the involuntary
bankruptcy petition.
Defendants’ claim that the Trustee’s claims were
untimely fails.
Third, the Court agrees with the Trustee that he did not fail to include a
required party to this litigation by omitting Level III as a defendant. Rule
19(a)(1) defines a “required” party:
A person who is subject to service of process and whose joinder will
not deprive the court of subject matter jurisdiction must be joined
as a party if: (A) in that person’s absence, the court cannot accord
complete relief among existing parties; or (B) that person claims
See Doc. 27, at 8; Doc. 36, at 4.
See, e.g., Andres Holding Corp. v. Villaje Del Rio, Ltd., 2011 WL 860529, at *11 (W.D. Tex.
Mar. 8, 2011) (gathering cases).
110 See Stanley ex rel. Estate of Hale v. Trinchard, 579 F.3d 515, 519 (5th Cir. 2009) (“The
subject of bankruptcy falls within the express constitutional powers of Congress, and
bankruptcy law therefore takes precedence over state laws under the Supremacy Clause.”)
(citing U.S. Const., art. VI).
108
109
27
an interest relating to the subject of the action and is so situated
that disposing of the action in the person’s absence may: (i) as a
practical matter impair or impede the person’s ability to protect
the interest; or (ii) leave an existing party subject to a substantial
risk of incurring double, multiple, or otherwise inconsistent
obligations because of the interest.
As A. Gwyn and Treaty correctly point out, Louisiana Civil Code article 2042
states that “[i]n an action to annul either his obligor’s act, or the result of his
obligor’s failure to act, the obligee must join the obligor and the third persons
involved in that act or failure to act.” Accordingly, they argue that Level III,
the transferor in the allegedly fraudulent transactions at issue, must either be
added as a party or else the claims against them must be dismissed for failure
to include a required party. 111 As the Trustee explains, however, he filed this
lawsuit in his capacity as the court-appointed trustee of the Level III Trading
Partners, L.P. Litigation Trust.
The litigation trustee represents the bankruptcy estate by assuming the
obligations to prosecute the bankruptcy estate’s claims for the benefit of
creditors. 112 “Section 541 of the Bankruptcy Code provides that virtually all of
a debtor’s assets, including causes of action belonging to the debtor at the
commencement of the bankruptcy case, vest in the bankruptcy estate upon the
filing of a bankruptcy petition.” 113
“Thus, a trustee, as the representative of
the bankruptcy estate, is the real party in interest, and is the only party with
standing to prosecute causes of action belonging to the estate once the
bankruptcy petition has been filed.” 114 Accordingly, Level III is a party to this
action through the Trustee, and it need not be joined as a required party.
Doc. 18-1, at 8–9.
Railworks Corp., 325 B.R. at 719.
113 Kane v. Nat’l Union Fire Ins. Co., 535 F.3d 380, 385 (5th Cir. 2008) (citing 11 U.S.C. §
541(a)(1)).
114 Id. (citations omitted).
111
112
28
Accordingly, Defendants’ arguments for dismissal of the Trustee’s Louisiana
state law claims fail. 115
B. Claims under Alabama law
A. Gwyn and Treaty argue that claims made pursuant to the Alabama
Fraudulent Transfer Act § 8-9A-1, et seq. (“AFTA”) should likewise be
dismissed as prescribed. Specifically, they argue that a one-year statute of
limitations is applicable to such claims, and that more than one year has
passed since the most recent allegedly fraudulent transfers in 2012 and the
filing of this lawsuit in 2015. 116 The Trustee again responds that 11 U.S.C. §
546 preserves for the bankruptcy trustee any claim that existed as of the date
of the involuntary bankruptcy petition. He also argues that the appropriate
statute of limitations for the trustee’s claims under the AFTA is four years, not
one year as Defendants propound. 117
For the reasons provided earlier in this opinion, pursuant to 11 U.S.C. §
546 the Trustee timely filed whatever claims were viable as of the date of the
bankruptcy petition. 118 The only question is, therefore, whether the Trustee’s
claims pursuant to the AFTA expired prior to the date that the bankruptcy
petition was filed.
“The [AFTA] . . . provides that certain transfers ‘made by a debtor’ may
be found void or voidable as to creditors.” 119 “The [AFTA] statutory scheme
includes four different types of ‘fraudulent transfers’ upon which liability may
The Court notes that in addressing defendants’ arguments for dismissal of the Trustee’s
Louisiana state law claims, it does not decide whether Louisiana law applies to this action.
116 Doc. 18-1, at 10.
117 Doc. 27, at 9–11.
118 See In re Moore, 608 F.3d at 260.
119 Peacock Timber Transp., Inc. v. B.P. Holdings, LLC, 115 So. 3d 914, 918 (Ala. 2012).
115
29
be predicated.” 120 Different limitations periods are established for each of
these types:
A claim for relief with respect to a fraudulent transfer under this
chapter is extinguished unless action is brought:
(1) Under Section 8-9A-4(a) within 10 years after the transfer of
real property was made.
(2) Under Section 8-9A-4(a) within six years after the transfer of
personal property was made.
(3) Under Section 8-9A-4(c) or 8-9A-5(a), within four years after the
transfer was made when the action is brought by a creditor
whose claim arose before the transfer was made.
(4) Under Section 8-9A-4(c), within one year after the transfer was
made when the action is brought by a creditor whose claim
arose after the transfer was made; or
(5) Under Section 8-9A-5(b), within one year after the transfer was
made. 121
All parties concede that subsections (1) and (2) do not apply. Defendants
argue that subsection (4) or (5) applies because the Complaint does not allege
that the AFTA claim arose before the allegedly fraudulent transfers were
made.
The Trustee argues that subsection (3) applies but provides no
explanation to support his position. The Complaint does not specify the section
under which the Trustee is asserting his AFTA claim.
That said, even if this Court determined that the shorter period applied,
it could not dismiss the Trustee’s AFTA claims on timeliness grounds because
there remains an issue as to when the limitation period on his AFTA claims
began to run. Fraud claims under Alabama law do not accrue “until the
discovery by the aggrieved party of the fact constituting the fraud” or the cause
SE Prop. Holdings, LLC v. Braswell, No. 13-0267-WS-N, 2013 WL 4498700, at *2 (S.D.
Ala. Aug. 21, 2013) (citations omitted).
121 Ala. Code § 8–9A–9.
120
30
of action fraudulently concealed. 122 In this case, the bankruptcy petition was
filed only shortly after the NFA instituted emergency action against Level III,
and it appears from the Complaint that such emergency action was the trigger
that alerted Level III’s investors to the alleged fraud. It follows then that, at
the very least, an issue exists with respect to when the AFTA claims were
discovered. Dismissal of the trustee’s claims pursuant to the AFTA is therefore
unwarranted. 123
C. Claims pursuant to 11 U.S.C. § 548
Section 548 of the Bankruptcy Code allows a trustee to recover
fraudulent transfers made by the debtor prior to bankruptcy. 124 A. Gwyn and
Treaty argue that the Trustee’s claims pursuant to 11 U.S.C. § 548 must be
dismissed for two reasons. First, they argue that because such claims are
limited to transfers that occurred within two years of the filing of the
bankruptcy petition, the Trustee’s claims as to transfers before August 2, 2011
are time barred. Second, Defendants summarily allege that the Trustee fails
to provide sufficient factual content “to support a plausible claim that Treaty
should be deemed a transferee of funds it never received and now be ordered
to return those funds to the Litigation Trust,” and so his claims must be
dismissed. 125
The Trustee responds by accurately pointing out that his Complaint
“expressly pleads [that] those transactions that should be avoided pursuant to
Section 548 are limited to those that occurred within two years of the
Ala. Code § 6–2–3; see In re Vioxx Products Liab. Litig., 478 F. Supp. 2d 897, 908 (E.D. La.
2007) (Fallon, J.) (quoting Rutledge v. Freeman, 914 So.2d 364, 369–71 (Ala. Civ. App. 2004)
(cited with approval in Jett v. Wooten, 110 So. 3d 850, 855 (Ala. 2012)).
123 Again, the Court emphasizes that in addressing Defendants’ arguments it has not made a
finding as to the applicability of Alabama law.
124 In re Positive Health Mgmt., 769 F.3d 899, 901 (5th Cir. 2014) (citing 11 U.S.C. § 548(a)).
125 Doc. 18-1, at 11.
122
31
Involuntary Petition.” 126
Having reviewed his Complaint, the Court also
concludes that it provides sufficient factual content to support these
allegations. 127 A. Gwyn and Treaty’s motions to dismiss these claims are
therefore denied.
D. Claims to annul contracts
Finally, Defendants argue that the claims to annul several allegedly
gratuitous contracts asserted in claim four of the Complaint should be
dismissed for failure to identify even a single contract between Level III and
A. Gwyn and Treaty. 128 The Trustee asserts in response that “the Complaint
clearly identifies the following contracts [with A. Gwyn] and transactions made
nominally [with A. Gwyn] pursuant to such contracts: incentive payments
under the partnership agreement, payments for ‘administrative services’
under a contract for the provision of administrative services, and rent paid
under a contract of lease.” 129 He bolsters his response with citations to the
record. With respect to Defendants’ arguments as to Treaty, the Trustee states
that the Complaint nowhere seeks to annul contracts between Level III and
Treaty, hence Treaty is attempting to dismiss a claim that the Complaint does
not purport to allege.
The Trustee is correct that the Complaint does not seek annulment of
any contracts with Treaty, and the motion to dismiss with respect to such
claims should therefore be denied as moot. With respect to A. Gwyn, the
Complaint does sufficiently identify the contracts that the Trustee seeks to
Doc. 27, at 12 (citing Doc. 1, at 28 (“The transfers set forth in this petition that occurred
within two years of the date of the Involuntary Petition, August 2nd, 2013, caused or
increased the debtor’s insolvency. . . .”)).
127 See Doc. 1, at 21–24.
128 Doc. 18-1, at 12.
129 Doc. 27, at 12.
126
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undo. Accordingly, the motion to dismiss the claims to annul those contracts
must also be denied.
4. TK&L’s Motion to Dismiss Cross-Claims
Finally, Defendants TK&L move for dismissal of cross-claims asserted
against them by Bruce Gwyn and Andrew Reid. TK&L contend that Gwyn and
Reid’s cross-claims should be dismissed for three reasons. First, they argue
that they are in default for failure to defend the cross-claims. Second, they
argue that their claims do not satisfy the pleading rules required by Rule 8.
Finally, they argue that the claims are procedurally improper pursuant to Rule
13(g) and amount merely to affirmative defenses. No opposition was filed to
this Motion.
First, TK&L correctly point out that prior to the withdrawal of the
reference, the bankruptcy court had entered default against Gwyn for failure
to file an answer or otherwise defend the case. 130 Gwyn has not sought relief
from default from either this court or the bankruptcy court, nor has he asked
this court to review the bankruptcy court’s entry of default. The filing of an
answer cannot cure a default. 131 Accordingly, Defendant Bruce Gwyn’s answer
is stricken from the record.
Having stricken Gwyn’s answer, this Court will address TK&L’s
remaining arguments only as they related to Reid. TK&L next argue that the
cross-claims filed by Reid do not satisfy the requirements of Federal Rule of
Civil Procedure 8(a), requiring “a short and plain statement of the claim
showing that the pleader is entitled to relief.”
Cotter v. Gwyn et al., No. 15-01057, Doc. 18 (Bankr. E.D. La. Dec. 3, 2015).
Directv, Inc v. Young, 195 F. App'x 212, 215 (5th Cir. 2006); U.S. ex rel. Mid State Const.
Co. v. Travelers Cas. & Sur. Co. of Am., No. 5:11-CV-169, 2013 WL 4787378, at *2 (S.D. Miss.
Sept. 6, 2013).
130
131
33
The cross-claims brought by Reid against TK&L state, in their entirety,
the following:
Gwyn and Reid cross-claim pursuant to Rule 13(g) of the Federal
Rules of Civil Procedure against the following parties for the
following reasons:
1.) Turnkey, in that all actions by Gwyn were based on assurances by
Turnkey that said transactions were permissible and should it
eventuate that Turnkey was wrong, the Gwyn is entitled to
judgment-over against Turnkey; . . .
3.) Without suggesting that Lapat has any liability to the plaintiffs,
Gwyn and Reid claim the right to a judgment-over against Lapat
should it eventuate that Lapat did anything that he should not
have done, or omitted to do something he should have done. 132
The cross-claim against Turnkey seeks relief only on behalf of Gwyn and
therefore that claim has already been stricken as discussed above. The crossclaim by Reid against Lapat falls woefully below the standard required by the
federal rules. Reid’s cross-claim against Lapat is among the vaguest and most
deficient this Court has seen. A complaint must “give the defendant fair notice
of what the . . . claim is and the grounds upon which it rests.” 133 An allegation
that the defendant may have done “something he should not have done” does
not meet this basic threshold. Accordingly, Reid’s cross-claim against Lapat is
dismissed, and Reid is given leave to amend his cross-claim to the extent that
he can state a claim.
CONCLUSION
For the foregoing reasons, TK&L’s Motion to Dismiss the Trustee’s
claims pursuant to Sections 10 and 20 of the Exchange Act is DENIED; A.
Gwyn and Treaty’s Motions to Dismiss are likewise DENIED; and TK&L’s
Motion to Dismiss Cross-claims is GRANTED. The Answer filed by Defendant
132
133
Doc. 23.
Twombly, 550 U.S. at 555.
34
Bruce Gwyn (Doc. 23) is STRICKEN, and Defendant Andrew Reid’s crossclaim against Michael Lapat is DISMISSED WITHOUT PREJUDICE. Reid
may amend his cross-claim within 15 days of this Order to the extent that he
can properly state a claim against Lapat.
New Orleans, Louisiana this 25th day of August, 2016.
_______________________________________
JANE TRICHE MILAZZO
UNITED STATES DISTRICT JUDGE
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