Riley et al v. KeyCorp
Filing
51
Memorandum Opinion and Order that for the reasons contained in this entry, defendant's 15 motion to dismiss Counts 2 and 3 of plaintiff' complaint is Denied. Plaintiffs are directed to file an amended complaint in accord ance with this Order by February 24, 2012. Further for the reasons contained in this entry, plaintiffs' 29 motion to dismiss or strike defendant's counterclaims is Denied. Because the Court has already ruled on the parties' R ule 12 motions on substantive grounds, the Court will not entertain additional motions to dismiss from either side. This case is presently the subject of a case management plan, which remains in effect. See ECF 22 . Signed by Judge David D. Dowd, Jr. on 2/16/2012. (M,De)
DOWD, J.
UNITED STATES DISTRICT COURT
NORTHERN DISTRICT OF OHIO
EASTERN DIVISION
Charles W. Riley, et al.,
Plaintiffs,
v.
KeyCorp,
Defendant.
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CASE NO. 1:11 CV 1150
MEMORANDUM OPINION AND
ORDER
I. INTRODUCTION
This breach of contract case is presently before the Court on cross-motions for Rule 12
dismissal. Briefly, defendant KeyCorp purchased a financial management firm, Austin Capital
Management (ACM) from plaintiffs pursuant to a purchase and sale agreement (PSA) in 2006.
KeyCorp purchased ACM for an “aggregate price” of $35 million dollars at closing, and a future
“Contingent Consideration,” the payment and amount of which are subject to certain conditions
under the PSA.
KeyCorp has operated ACM in a manner which plaintiffs allege is contrary to the terms
of the PSA and has not paid plaintiffs the Contingent Consideration. Plaintiffs allege in Count 1
of the complaint that KeyCorp has breached the PSA by not paying the Contingent
Consideration. In Count 2,1 plaintiffs allege that KeyCorp breached the PSA’s implied duty of
1
ECF 1, par. 80: KeyCorp breached the implied covenant of good faith and fair dealing
when it liquidated the Funds. . . . KeyCorp took opportunistic advantage of ACM when it
liquidated the Funds to appease certain client-consultants. KeyCorp also breached the implied
covenant of good faith and fair dealing by causing the Liquidation as part of its plan to argue that
(continued...)
(1:11 CV 1150)
good faith and fair dealing when it liquidated ACM’s funds in 2009, and by causing the
liquidation as part of a plan not to pay plaintiffs’ Contingent Consideration. And in Count 3,2
plaintiffs allege that KeyCorp breached the PSA’s implied duty to employ reasonable efforts to
generate revenues for ACM. ECF 1.
In its amended counterclaim,3 KeyCorp seeks a declaration that: 1) (a) a “material
adverse effect” occurred under the PSA which excuses KeyCorp’s payment of Continent
Consideration, or alternatively, (b) any Contingent Consideration to which plaintiffs may be
entitled must be calculated on ACM’s actual revenues during the Measurement Period; 2)
plaintiffs have accepted as accurate KeyCorp’s statement of revenues earned by ACM during the
Measurement Period; 3) liquidation of ACM’s funds and cessation of operations was proper
under the PSA; and 4) to the extent KeyCorp has any liability to plaintiffs, that liability is limited
under the PSA to $12.5 million. ECF 24.
Defendant KeyCorp has moved to dismiss Counts 2 and 3 of the complaint pursuant to
Rule 12(b)(6) of the Federal Rules of Civil Procedure for failure to state a claim upon which
relief can be granted. ECF 15. Plaintiff has opposed the motion (ECF 28) and defendant has
replied (ECF 33).
1
(...continued)
it did not have to pay the Contingent Consideration.
2
ECF 1, par. 87: KeyCorp breached this implied duty in the PSA [to employ reasonable
efforts to generate revenues] by causing an unnecessary and unreasonable liquidation of ACM’s
Funds.
3
Defendant voluntarily dismissed its third-party complaint. ECF 50. Plaintiffs’ motion
to dismiss or strike defendant’s third-party complaint is moot and the Court will only consider
plaintiffs’ motion as to defendant’s counterclaims.
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Also pending before the Court is plaintiffs’ motion to pursuant to Rules 12(b)(6) and
12(f) to strike or dismiss defendant KeyCorp’s counterclaims. ECF 29. KeyCorp has opposed
plaintiffs’ motion (ECF 34) and plaintiff has replied (ECF 35).
For the reasons contained herein, defendant’s Rule 12(b)(6) motion to dismiss Counts 2
and 3 of plaintiffs’ complaint is DENIED.
Further for the reasons contained herein, plaintiffs’ Rules 12(b)(6) and 12(f) motion to
dismiss or strike defendant’s counterclaims is DENIED.
II. FACTS
The facts summarized below are as alleged in plaintiffs’ complaint.
A.
Sale of ACM to KeyCorp
Plaintiffs in this case formed ACM in 1993, a company which managed various
investment funds. According to the complaint, ACM became “one of the most successful and
respected fund-of-fund asset managers in the United States.” By 2006, ACM had almost $900
million dollars under management. ECF 1, par. 2 and 10.
As an asset manager, ACM created various investment products that were managed by
fund managers. ACM’s investment funds were diversified with thirty-five different managers so
that no more than 7.5 % of funds were managed by a single manager. ECF 1, par. 10.
KeyCorp acquired ACM from plaintiffs in 2006 pursuant to a Purchase and Sale
Agreement (PSA). Prior to acquisition, KeyCorp performed extensive due diligence of ACM’s
business, including current investments and past investment losses. Among the investments
upon which KeyCorp performed due diligence was ACM’s investment in a fund managed by
3
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Tremont Partners, Inc, a Madoff feeder fund, which at the time was approximately a $50 million
or 5% position for ACM’s funds. In addition, ACM’s personnel “were careful to explain to
KeyCorp” about “severe losses” suffered by ACM in 2002 as a result of its investment in a fund
managed by Beacon Hill Asset Management, which was revealed to be a “massive fraud.” ECF
1, par. 12-13.
KeyCorp paid plaintiffs $35 million at closing for ACM on April 1, 2006. The PSA also
provided for the possibility of another payment after five years, subject to various terms and
conditions set out in the PSA, which included the financial performance of ACM during a five
year period after closing.4 ECF 1, par. 14 and 17.
The plaintiffs and certain key ACM employees entered into employment agreements with
KeyCorp and Victory Capital Management (Victory) to continue to work for ACM after the
closing. Victory was a subsidiary of KeyCorp, and KeyCorp’s in-house investment management
firm. Post-closing, plaintiffs reported to the chief executive officer of Victory, and KeyCorp,
through Victory, controlled ACM. ECF 1, par. 11, 17 and 18.
At the time of the sale of ACM to KeyCorp, Victory had approximately $56 billion in
managed assets and accounts. ACM’s assets5 continued to grow after acquisition by KeyCorp.
4
“[I]f ACM’s net revenues during the Measurement Period exceeded $93 million, the
Back-end Payment would increase incrementally, up to $60 million at net revenues over
$200.000. Conversely, the Back-end Payment decreased incrementally at revenue targets less
than $93 million and was reduced to zero if net revenues failed to reach $35 million during the
Measurement Period.” ECF 1, par. 15.
5
Plaintiffs’ complaint frequently describes ACM’s funds as ACM’s “assets” and
therefore the Court, for the purposes of this factual summary, will use the same nomenclature.
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By the end of the third quarter of 2008, ACM’s assets under management grew to about $2.8
billion. ECF 1, par. 18 and 19.
B.
Financial Market Declines
“In late 2008, the worldwide financial system began to crumble. . . . In early October
2008, alone, the S & P 500 lost 22% of its value in six consecutive trading sessions. . . . On
December 11, 2008, in the midst of persistent falling markets, the world learned that Bernard
Madoff had been running a multibillion-dollar Ponzi scheme through his investment company,
Bernard L. Madoff Securities LLC.”6
At that time, ACM’s funds had about 7.5 % of the funds’ assets invested in the Rye
Select Broad Market Prime Fund (Rye Fund). The Rye Fund was managed by Tremont Partners,
Inc. (Tremont).7 Tremont had retained Madoff to invest the assets of the Rye Fund. ECF 1, par.
21.
As a consequence of Madoff’s crimes, financial markets experienced significant losses.
In 2008, the S & P 500's annual returns were down 41%, and the Dow Jones’ annual returns
were down 36%. ACM’s funds also experienced losses as a consequence of Madoff, but those
losses were less than the financial markets in general. ACM’s largest funds experienced
6
ECF 1, par. 20-21.
7
“Tremont was considered by many to be the leading hedge fund management and
consulting firm in the world. . . .[ACM’s f]unds’ investment with Tremont pre-dated the sale to
KeyCorp by almost a decade and all aspects of Tremont’s management was fully disclosed to
and examined by KeyCorp during pre-sale due diligence.” ECF 1, par. 21-22.
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negative returns of -23% in 2008, and ACM’s smaller funds experienced negative returns of 26%.8
Paragraphs 24 - 26 of plaintiffs’ complaint describes the overall effect of Madoff’s
crimes on ACM, financial markets, and the hedge-fund industry:
24.
In short, because if its highly diversified investment strategy, the Madoff
Losses were not material to ACM’s business, operations, assets or financial conditions.
25.
Nonetheless, in 2008, market losses and Madoff’s scheme reverberated
throughout the hedge-fund industry, contributing to more funds shutting down than
opening in both 2008 and 2009. The Wall Street Journal called 2008 the worst year for
hedge funds since 1990, attributing the underlying cause to “falling markets and record
redemption requests.” According to Hedge Fund Research, Inc., investors withdrew a
record $155 billion from the hedge-fund industry in 2008, only the second time in which
the industry experienced a net outflow of investor capital over a full-year period.
Various media outlets covering the hedge fund industry attributed the exodus of funds
from the hedge-fund industry to market losses and the reputational damage inflicted by
the Madoff Ponzi scheme.
26.
In sum, Madoff’s schemes harmed the reputation of the entire hedge-fund
industry.
ECF 1.
While AMC’s funds experienced losses, ACM “fared better than many, if not most, of
their peers.” ECF 1, par. 27. “Victory’s traditional investments, on the other hand, performed
far worse that [sic] ACM’s Funds, producing bleak returns roughly on par with the broader
securities markets. For example, Victory’s ‘Institutional Diversified Stock’ Fund produced a
total return of -37.16% in 2008; Victory’s ‘Large Cap Growth A’ Fund had a total return of 44.74%.” ECF 1, par. 28.
8
ECF 1, par. 23.
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C.
Investor and KeyCorp Responses to Financial Market Declines
Plaintiffs’ complaint describes how the investors in the ACM funds became increasingly
concerned about the continued declines in their investments and desired to redeem their interests
in the ACM funds.
29.
In late December, investors in the [ACM] Funds (the “Fund Investors”),
along with the general investing public, became increasingly concerned about continued
declines in their investments. Given the prevailing market uncertainty, a number of Fund
Investors indicated that they desired to redeem their interests in the Funds. Many Fund
Investors, however, were still subject to a one-year lockup period during which no
redemption was allowed. Thus, only Fund Investors no longer subject to the lockup
could redeem their interest at the next-quarter-end and even these longstanding investors
were required to give 65 days’ advance notice of their intent to redeem. Still, overriding
the redemption rights of all Fund Investors, ACM could, at any time and in its sole
discretion, suspend fund redemptions altogether.
30.
The unilateral discretion to suspend redemptions is a power given to most
hedge fund managers. During the grim markets of late 2008 and 2009, when investor
confidence (along with market indices) remained persistently low, many hedge fund
managers invoked this power to prevent an irrational flurry of panic-driven redemptions.
Often, by the time markets recover, hedge fund performance has improved and
previously disgruntled investors find themselves no longer desiring to redeem their
interests.
ECF 1.
Plaintiffs were confident that ACM could weather the grim financial market and
advocated for KeyCorp to suspend redemptions in ACM’s funds until the financial storms had
passed. Plaintiffs made these recommendations based on their prior experience in 2002 with
losses resulting from fraud by an ACM investment fund manager, Beacon Hill. ACM recovered
from the Beacon Hill fraud, and plaintiffs were confident that ACM could also recover from the
losses triggered by the Madoff fraud. ECF 1, par. 31. Many of ACM’s largest and longest-
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(1:11 CV 1150)
standing investors also expressed confidence in ACM and stated their intention to keep their
investments in ACM. ECF 1, par. 32.
However, KeyCorp did not share plaintiffs’ confidence.
33.
But from the beginning of its relationship with ACM, KeyCorp had been
wary of hedge-fund investors and the risk associated with their investment strategies.
Thus, following the Madoff Losses, KeyCorp and Victory were angry that ACM linked
their names to Madoff and wanted nothing other than to disassociate with AMC. Further,
Victory’s clients and client-consultants (collectively, the “Victory Clients”) began
indicating they did not share the confidence of ACM’s legacy investors. After ACM’s
sale to KeyCorp, many longstanding Victory Clients began investing in ACM’s funds.
These Victory Clients, as more recent ACM investors, had made their investment with
ACM at the height of the market. Therefore, many of these Victory Clients wanted out
of [ACM’s] Funds - they had experienced all the market turmoil and the Madoff Losses,
but not all of the dramatic success that preceded it in the 2006 to 2007 time frame.
Consequently, Victory temporarily suspended some [ACM] Fund redemptions while
determining how to move forward.
ECF 1.
However, KeyCorp discontinued suspending redemptions and instead, by letter dated
January 26, 2009, KeyCorp gave ACM Fund Investors two choices going forward: (i) agree to a
new one-year lockup and receive a discounted management fee; or (ii) redeem their interest in
the ACM Funds, regardless of any pre-existing lockup. “With market sentiment what it was in
the first quarter of 2009 and the increasing desire for redemptions throughout the hedge-fund
industry, KeyCorp’s forcing of a new, artificial lockup period for all non-redeeming investors . .
. only added momentum to a growing interest [to redeem positions in ACF funds].” ECF 1, par.
35. However, investors representing about one-third of the assets under ACM management were
willing to maintain their positions in ACM funds despite the “artificial lockup.” ECF 1, par. 38.
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Plaintiffs allege that in the spring of 2009,9 KeyCorp and Victory determined that ACM
had suffered a “material adverse effect” on its business, and that KeyCorp’s correspondence with
ACM fund investors sought to gain acknowledgment that ACM had suffered a material adverse
effect, all in order to avoid making the possible payment to plaintiffs contemplated by the PSA
based on revenues five years after KeyCorp’s acquisition of ACM. See ECF 1, par. 39.
Plaintiffs’ disputed KeyCorp’s conclusion that ACM had suffered a material adverse effect,
pointing out that in the spring of 2009, ACM still had over $2 billion in assets under
management, had just earned over $6 million in net revenues for the first quarter of 2009, and
had many investors who were willing to retain their investments with ACM. ECF 1, par. 40.
Notwithstanding plaintiffs’ efforts to persuade KeyCorp to the contrary, KeyCorp
decided to liquidate ACM’s funds and wind down ACM’s affairs. ACM notified its investors of
this decision by e-mail dated May 5, 2009. The e-mail stated that:
“The decision to liquidate the Funds is based on our determination that given the
level of assets under management, we believe it would be difficult to continue to
make the appropriate investments in our firm (people, technology, etc.) to ensure
its long-term survival and difficult to continue to properly manage the Austin
Capital Funds and fulfill our obligations to our investors. . . . We are deeply
saddened that the events following the discovery of the Madoff fraud on
December 11, 2008 have led to this unfortunate turn of events.”
ECF 1, par. 42.
Plaintiffs allege that KeyCorp “blamed” the Madoff fraud and ACM fund investors who
decided to redeem their investments in the ACM funds in order to disassociate KeyCorp with
9
Plaintiffs also alleged that as early as January 2009, KeyCorp had already determined
that ACM had suffered a “material adverse effect” on its business. See ECF 1, par. 40.
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ACM and to serve as a pretext for KeyCorp’s ultimate refusal to pay the Contingent
Consideration contemplated by the PSA. Plaintiffs alleged that the decision to liquidate ACM
and ACM’s funds was “unnecessary” and an “unreasonable and unwise product of KeyCorp’s
conflicted decision-makers.” ECF 1, par. 43.
Several lawsuits have been filed against ACM, the plaintiffs, KeyCorp and others in
connection with the losses experienced by the ACM funds (Investor Litigation). Most of the
Investor Litigation was eventually consolidated into a multi-district litigation class action
pending in the Southern District of New York. Plaintiffs allege that KeyCorp has asserted a
defense in the Investor Litigation that the Madoff losses were not material, and that this defense
is contrary to the position taken by KeyCorp’s position in the instant case that those same losses
constitute a material adverse effect under the PSA which supports KeyCorp’s decision not to pay
the Contingent Consideration under the PSA. ECF 1, par. 52-54.
By letter dated August 4, 2010, KeyCorp advised the plaintiffs that ACM’s investments
in a Madoff feeder fund “have clearly had a material adverse effect” and that the $100 million
sought in the Investor Litigation, and the losses to ACM’s funds due to the Madoff investments,
resulted in KeyCorp’s decision to liquidate ACM and the ACM funds, thereby “eliminating
KeyCorp’s obligation to pay any Contingent Compensation.” ECF 1, par. 54.10 It is plaintiffs’
position that there had not been a “material adverse effect” on ACM’s business that would
eliminate KeyCorp’s obligation to pay the Contingent Consideration under the PSA. ECF 1, par.
55.
10
The Court notes that there are two paragraphs numbered “54” in plaintiffs’ complaint.
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D.
Purchase and Sale Agreement
The dispute in this case revolves around payment of the Contingent Consideration
provision of the Purchase and Sale Agreement between defendant KeyCorp and plaintiffs.
Section 2.2 of the PSA provides for the Purchase Price for the KeyCorp acquisition of
ACM from plaintiffs:
2.2
Purchase Price
(a)
The aggregate price (the “Purchase Price”) for all the Shares will be:
(i)
subject to the adjustment in accordance with Sections 2.2(b) and
2.6 hereto, $34,000,000 (such amount, as adjusted in accordance with Sections
2.2(b) and 2.6 hereto, the “Initial Purchase Price) . . . ; plus
(ii)
subject to the conditions set forth in Section 2.5(c), the amount
determined in accordance with Section 2.5 (the “Contingent Consideration”),
which amount shall be allocated among the Sellers in accordance with Section
2.5(a).
Section 2.5 of the PSA provides for the payment of Contingent Consideration. That
section provides as follows:
2.5
Contingent Consideration: Special Compensation Bonus Pool
(a) Subject to Section 2.5(e), within three Business Days after the final
determination of the amount of the Contingent Consideration and the Special
Bonus Pool Amount in accordance with Sections 2.5(c) and (d), the Buyer will (i)
pay to the Sellers the portion of the Contingent Consideration allocable to each of
them in accordance with Schedule 2.5(a)(i), if any, in each case by wire transfer
of immediately available funds to an account or accounts which are designated by
Sellers’ Representative on behalf of each of them within two Business Days prior
to the date of such payment, and (ii) create a compensation bonus pool (the
“Special Compensation Bonus Pool”) for certain employees of the Companies as
of such date (each a “Designated Employee Recipient” and, collectively, the
“Designated Employee Recipients”) and pay from the Special Compensation
Bonus Pool to such Designated Employee Recipients the portion of the Special
Bonus Pool Amount allocable to each of them in accordance with Schedule
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2.5(b)(ii), less any applicable Taxes; it being noted that such payments by the
Buyer from the Special Compensation Payment Pool to the Designated Employee
Recipients shall be treated as compensation for services rendered for U.S. federal
income tax purpose.
(b) The aggregate amount of Contingent Consideration shall be equal the amount
set forth on Schedule 2.5(b)(i)11 hereto which corresponds to a portion of the Five
Year Net Revenues determined in accordance with Sections 2.5(c) and (d) for the
five-year period beginning on the Closing Date (the “Measurement Period”). The
aggregate amount of the Special Compensation Bonus Pool (the “Special Bonus
Pool Amount”) shall equal the amount set forth on Schedule 2.5(b)(ii) hereto
which corresponds to a portion of the Five Year Net Revenues determined in
accordance with Sections 2.5(c) and (d) for the Measurement Period.
...
(e) The Buyer’s obligation to pay any Contingent Consideration or any amounts
from the Special Compensation Bonus Pool shall, in each case, be subject to the
conditions that (i) the Closing shall have occurred and (ii) no event shall have
occurred or circumstances exist during the final twelve weeks of the Measurement
Period that has had, or is reasonably likely to result in, a Material Adverse
Effect.12
11
Schedule 2.5(b)(i) to the PSA is a table which correlates Five Year Net Revenues on a
sliding scale with the Aggregate Amount of Contingent Consideration. At the high end of Five
Year Net Revenues of $200,000,000 or more, the Aggregate Amount of Contingent
Consideration is stated as $32,076,000. At the low end of Five Year Net Revenues of
$35,000,000 or less, the Aggregate Amount of Contingent Consideration is $0.
12
The PSA defines a Material Adverse Effect in “Annex A - Definitions” as follows:
“Material Adverse Effect” means an event or events, whether individually or
taken together, which have a material adverse effect upon or which the
cumulative effect of which is to have a material adverse effect upon the business,
operations, assets or financial condition of the Companies taken as a whole;
provided, however, that Material Adverse Effect shall exclude any change or
effect due to general economic, securities markets or hedge fund industry-wide
conditions.
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Section 11.8(a) of the PSA addresses the future operations and performance of ACM
after acquisition by KeyCorp as follows:
11.8 Future Operations and Performance
(a) Except as otherwise expressly set forth in this Agreement, neither the
Buyer nor any of its representatives has made, and the Sellers the Companies
and Sellers’ Representative specifically disclaim reliance on, any representation,
warranty, agreement or other statement made by the Buyer or any of its
representatives with respect to how the Buyer shall operate the business of the
Companies [ACM], whether or how the Buyer shall maintain existing lines of
business or enter into new lines of business of the Companies or any other fact
that Sellers might deem material to their ability to earn any or all of the
Contingent Consideration or whether the Companies will meet or exceed financial
performance expectations.
(b) Except as otherwise expressly set forth in this Agreement, Sellers shall not be
deemed to have made any representation or warranty or agreed to any covenant or
obligation with respect to the future financial performance of the business of the
Companies. Except as otherwise expressly set forth in this Agreement, neither
the Companies nor any of their representatives, including without limitation the
Sellers, has made, and the Buyer hereby specifically disclaims reliance on, any
representation, warranty agreement or other statement made by the Companies or
any of their representatives, including without limitation the Sellers, with respect
to any projections or other indications of future financial performance that the
Buyer might deem material to its acquisition of the Companies.
The parties disagree as to the meaning of the language of Section 11.8. KeyCorp argues
that Section 11.8 constitutes plaintiffs’ agreement that KeyCorp was free to operate ACM in any
manner it saw fit. Plaintiffs contend that the language of Section 11.8 only reflects plaintiffs’
disclaimer as to extra-contractual representations by KeyCorp with respect to the operation of
ACM, and that the PSA is silent with respect to KeyCorp’s obligations regarding the operation
of ACM during the Measurement Period.
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Section 11.7 of the PSA addresses the agreement between the parties and schedules as
follows:
11.7 Entire Agreement; Schedules
This Agreement, including the Schedules, Exhibits, Annexes, certificates
and documents referred to herein, and any agreements or other documents
executed by the parties simultaneously herewith or pursuant thereto, constitute the
entire understanding and agreement of the parties hereto with respect to the
subject matter hereof and supersede all other prior agreements and
understandings, written or oral, between the parties with respect to such subject
matter. The disclosure of any matter in the Schedules hereto shall not be deemed
to constitute an admission by any party hereto, or to otherwise imply, that any
such matter is material for purposes of this Agreement.
III. MOTIONS TO DISMISS
A.
Defendant’s Motion to Dismiss Counts 2 and 3 of Plaintiffs’ Complaint
Count 1 of plaintiffs’ complaint alleges that KeyCorp breached the PSA because
KeyCorp did not pay plaintiffs the Contingent Consideration on the grounds that the Madoff
situation constituted a Material Adverse Effect on ACM. KeyCorp has not moved to dismiss
Count 1 of the complaint and that question is not before the Court on defendant’s motion to
dismiss Counts 2 and 3.
In Count 2, plaintiffs allege that the PSA includes an implied duty of good faith and fair
dealing and that KeyCorp had a duty not to take opportunistic advantage of plaintiffs in a way
that could not have been contemplated at the time of the PSA’s drafting, and that KeyCorp
breached that duty when it liquidated ACM’s funds. And in Count 3, plaintiffs allege that PSA
imposed on KeyCorp an implied duty to generate reasonable revenues for ACM and that
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KeyCorp breached that implied duty by causing the unnecessary and unreasonable liquidation of
ACM’s funds.
KeyCorp moves to dismiss Counts 2 and 3 of plaintiffs’ complaint pursuant to Rule
12(b)(6) of the Federal Rules of Civil Procedure for failure to state a claim upon which relief can
be granted. KeyCorp advances two arguments in support of its motion. First, KeyCorp argues
that plaintiffs’ claim for breach of implied duties should be dismissed because plaintiffs have
already asserted a breach of contract claim in Count 1 and Ohio law does not recognize
independent causes of action for breaches of implied duties separate from a claim for breach of
contract. Second, KeyCorp argues that plaintiffs’ claims that KeyCorp breached its implied
contractual duties by liquidating ACM’s funds are contrary to the express language of the PSA,
which gives KeyCorp the exclusive authority to manage ACM.13 ECF 15.
In opposing defendant’s motion to dismiss Counts 2 and 3, plaintiffs argue that under
Ohio law every contract contains an implied duty for the parties to act in good faith and to deal
fairly with each other, but concedes that a claim for breach of contract subsumes any
accompanying claim for breach of implied duties. According to plaintiff, that implied duty
imposed on KeyCorp an obligation to use reasonable efforts to enhance the revenues of ACM
because Ohio law imposes an obligation on a purchaser to use reasonable efforts to bring
13
Citing Section 11.8 of the PSA, KeyCorp argues in support of its motion to dismiss that
the express language of that section provides KeyCorp with the absolute and unrestricted right to
operate ACM as KeyCorp saw fit following acquisition, notwithstanding the effect such
decisions might have on ACM’s net revenues or the amount of Contingent Consideration
potentially due plaintiffs. In light of the express contract language of Section 11.8, defendant
contends that any claim by plaintiff that KeyCorp had a duty to operate ACM in any particular
way must fail as a matter of law.
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revenues into existence in sales contracts with earn-out provisions, and that a purchaser breaches
its implied duties to a seller when a purchaser acts with ulterior economic motives to reduce or
deny a seller’s earn-out payments, which plaintiff alleges was KeyCorp’s motive in liquidating
ACM’s funds during the Measurement Period.
Further, plaintiffs opposes KeyCorp’s argument that Counts 2 and 3 should be dismissed
as contrary to the express language of Section 11.8 of the PSA. Plaintiffs dispute that Section
11.8 gives KeyCorp absolute authority with respect to ACM, and argues that the language of
Section 11.8 only pertains to extra-contractual representation, warranties, statements and
agreements by KeyCorp relative to ACM’s operation and does not negate KeyCorp’s implied
duties under Ohio contract law. Second, plaintiffs argue that the liquidation of ACM’s funds
during the Measurement Period was not contemplated by the parties at the time of drafting, and
that language of Section 11.8 does not specifically address that issue. In any event, it is
plaintiffs’ position that the language of Section 11.8 is subject to interpretation and is at least
ambiguous with respect to whether KeyCorp had the contractual right to liquidate ACM’s funds
during the Measurement Period. Plaintiff also alleges that the meaning of “material adverse
effect” in the PSA is ambiguous.
B.
Plaintiffs’ Motion to Strike or Dismiss KeyCorp’s Counterclaims
Plaintiffs have moved pursuant to Rules 12(b)(6) and 12(f) of the Federal Rules of Civil
Procedure on the grounds that KeyCorp’s claims 1 through 3 for declaratory judgment are
duplicative and merely restate issues already before the Court, and because claim 4 for
declaratory judgment is in direct contradiction of the PSA. Defendant has opposed the motion
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on the grounds that KeyCorp has pled valid counterclaims that go beyond the scope of the
complaint.
IV. LAW AND ANALYSIS
A.
Rule 12 Motions
1.
Rule 12(b)(6)
The parties have filed cross-motions to dismiss pursuant to Federal Rule of Civil
Procedure 12(b)(6). The Court may grant a motion to dismiss when the claims, which are the
subject of the motion, fail to state a claim upon which relief may be granted.
When considering a motion to dismiss, the Court must assume well-pleaded factual
allegations as true, but need not accept conclusory allegations in the pleading as true. Only
facts alleged in the pleadings and documents attached as exhibits to the pleadings.14 In addition,
when documents are referred to in the pleadings and are integral to the claims, then the
documents may be considered with respect to a motion to dismiss without converting a motion to
dismiss into a motion for summary judgment. Commercial Money Center, Inc. v. Illinois Union
Ins. Co., 508 F.3d at 335-36 ; Weiner v. Klais and Co., 108 F.3d 86, 89 (6th Cir. 1997)
(documents attached to a motion to dismiss are considered part of the pleadings if referred to in
plaintiff’s complaint and central to plaintiff’s claim). In this case, the Court may consider the
PSA between the parties, which is attached to defendant’s motion to dismiss and is central to
14
Documents attached to the pleadings become part of the pleadings and may be
considered on a motion to dismiss without converting a Rule 12 motion to a motion for summary
judgement. Commercial Money Center, Inc. v. Illinois Union Ins. Co., 508 F.3d 327, 335-36 (6th
Cir. 2007)(citing Fed. R. Civ. P. 10(c)).
17
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plaintiffs’ claims, without converting the motions to dismiss into motions for summary
judgment.
In order to survive a motion to dismiss, the claims in the pleading must contain sufficient
factual matter, which if accepted to be true, states a claim for relief that is plausible on its face.
The plausibility requirement requires more than a sheer possibility that the defendant acted
unlawfully. Ashcroft v. Iqbal, 120 S.Ct. 1937, 1949-51 (2009); Bell Atlantic v. Twombly, 550
U.S. 544, 570 (2007). 550 U.S. 544, 570 (2007). Dismissal of claims in plaintiff’s complaint is
appropriate if plaintiff fails to state a claim upon which relief can be granted.
2.
Rule 12(f)
Motion to Strike. The court may strike from a pleading an
insufficient defense or any redundant, immaterial, impertinent,
or scandalous matter.
B.
28 U.S.C. § 2201 et seq. (Declaratory Judgment Actions)
KeyCorp’s counterclaims seek various declarations from the Court pursuant to
28 U.S.C. § 2201 et seq. The Court’s exercise of jurisdiction over declaratory judgment actions
is discretionary. In deciding whether to exercise jurisdiction over a declaratory judgment claim,
the Sixth Circuit has adopted a five-factor test:15
(1) whether the judgment would settle the controversy; (2) whether the
declaratory judgment action would serve a useful purpose in clarifying the legal
relations at issue; (3) whether the declaratory remedy is being used merely for the
purpose of “procedural fencing” or “to provide an arena for a race for res
judicata”; (4) whether the use of a declaratory action would increase the friction
15
U.S. Fire Ins. Co. v. Albex Aluminum, Inc., 161 Fed. Appx. 562, 564 (6th Cir.
2006)(citing Grand Trunk Western Co. v. Consolidated Rail Corp., 746 F.2d 323, 326 (6th Cir.
1984)).
18
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between our federal and state courts and improperly encroach on state
jurisdiction; and (5) whether there is an alternative remedy that is better or more
effective.
C.
Ohio Contract Law
Section 11.2 of the PSA provides that “[t]his Agreement shall be governed by and
construed in accordance with the laws of the State of Ohio without giving effect to the principles
of conflict of laws thereof.” Accordingly, the Court will apply the laws of the State of Ohio to
the parties’ dispute over the PSA, which is the subject of both the complaint and counterclaim,
and at the core of the parties’ motions to dismiss.
Ohio law imposes an implied duty of good faith on the parties to a contract. Wendy’s
International, Inc. v. Saverin, 337 Fed. Appx. 471, 476 (6th Cir. 2009)(citing Ed Schory & Sons,
Inc. v. Francis, 75 Ohio St. 2d 433, 666 N.E.2d 1074, 1082-83 (1996)); Agilysys, Inc. v. Gordon,
2008 WL 5188278 at * 10 (N.D. Ohio) (quoting Thomas & Maker Constr. Co. v. Wal-Mart
Stores, Inc., 2008 WL 4279860 (S.D. Ohio Dept. 15, 2008) (citing Littlejohn v. Parrish,163 Ohio
App. 3d 456, 839 N.E.2d 49, 54 (Ohio Ct. App. 2005))). However, that duty of good faith and
fair dealing does not create an independent cause of action. Wendy’s International, Inc. v.
Saverin, 337 Fed. Appx. at 476-77 (citing Thomasville Furniture Indus., Inc. v. JGR Inc., 3 Fed.
Appx. 467, 472 (6th Cir. 2001)(quoting Bolling v. Clevepak Corp., 20 Ohio App. 3d 113, 484
N.E. 2d 1367, 1376 (1984))); Agilysys, Inc. v. Gordon, 2008 WL 5188278 at * 10 (quoting
Thomas & Maker Constr. Co. v. Wal-Mart Stores, Inc., 2008 WL 4279860 (citing Littlejohn v.
Parrish,163 Ohio App. 3d 456, 839 N.E.2d at 54)).
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The implied covenant of good faith and fair dealing is “implicated by acts or omissions
‘that could not have been contemplated at the time of drafting,’ and which therefore were not
resolved explicitly by the parties.’” Wendy’s International, Inc. v. Saverin, 337 Fed. Appx. at
477 (emphasis in original)(quoting Ed Schory & Sons, Inc. v. Francis, 75 Ohio St. 2d 433, 666
N.E.2d at 1082-83 (emphasis added)); Agilysys, Inc. v. Gordon, 2008 WL 5188278 at * 10
(quoting Thomas & Maker Constr. Co. v. Wal-Mart Stores, Inc., 2008 WL 4279860 (quoting Ed
Schory & Sons, Inc. v. Francis, 75 Ohio St. 2d 433, 666 N.E.2d 1074 (1996))). The implied
covenant of good faith and fair dealing does not apply to enlarge existing contractual terms or
create new contractual terms between the parties,16 to create an obligation inconsistent with the
express terms of the agreement,17 or where a party has absolute authority to make the decision at
issue.18
D.
Analysis
1.
Defendant’s Motion to Dismiss Counts 2 and 3 of Plaintiffs’ Complaint
KeyCorp has moved to dismiss Counts 2 and 3 of the complaint on the grounds that
breaches of implied duties of good faith are not separate causes of action under Ohio law.
Plaintiff concedes that Ohio law does not recognize an independent cause of action for breach of
16
Agilysys, Inc. v. Gordon, 2008 WL 5188278 at * 10-11 (citations and quotations
omitted).
17
Adams v. LCI International Telecom Corporation, 2000 WL 1006043 at * 2 (Ohio
App. 10 Dist.).
18
Davco Acquisition Holding, Inc. v. Wendy’s International, 2008 WL 755283 at * 6-7
(S.D. Ohio) (obligation of good faith and fair dealing is not an invitation to the court to decide
whether a party ought to have exercised a privilege expressly reserved in the document).
20
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an implied duty of good faith that is separate from a claim for breach of contract where a
contract exists that governs the relationship between the parties. Agilysys, Inc. v. Gordon, 2008
WL 5188278 at * 10.
Plaintiffs have asserted a breach of contract claim in connection with payment of the
Contingent Consideration under the PSA in Count 1. Count 1 is not the subject of a motion to
dismiss by KeyCorp.
The complaint is somewhat confusing in that Counts 2 and 3 are separately captioned as
breach of contract claims, however, the breach alleged in those counts are those of KeyCorp’s
implied covenants and duties. In their opposition to defendant’s motion to dismiss, plaintiffs
argue that because Counts 2 and 3 are captioned “breach of contract,” the allegations of breach
of implied covenants and duties in Counts 2 and 3 are in fact, breach of contract claims which
have simply been separated out into express and implied claims. If the Court does not agree with
that characterization, plaintiffs have requested leave to re-plead these claims under Count 1 for
breach of contract. KeyCorp opposes plaintiffs’ request to amend their complaint on the grounds
that an amendment would be futile because Section 11.8 of the PSA expressly disclaims the
implied duties alleged by plaintiffs.
Because of the somewhat confusing manner in which plaintiffs captioned and pled the
express and implied claims, it is a close call as to whether plaintiffs have actually pled
stand-alone claims for breach of the implied covenants of good faith and fair dealing. For that
reason, defendant’s motion to dismiss Counts 2 and 3 on the grounds that plaintiffs have pled
21
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their claims for breach of implied duties as independent causes of action is DENIED. However,
plaintiffs are ordered to file the amended complaint for which they requested leave by
February 24, 2012.
Defendant’s alternative argument in support of the Rule 12(b)(6) motion for failure to
state a claim upon which relief can be granted is that the implied duties alleged by plaintiffs are
contradictory to the express language of Section 11.8 of the PSA, which therefore requires
Counts 2 and 3 to be dismissed as a matter of law. However, plaintiffs allege in the complaint
that the language of Section 11.8 does not specifically address, and is ambiguous with respect to,
KeyCorp’s authority to operate ACM, and in particular, KeyCorp’s authority to liquidate ACM’s
funds during the Measurement Period.
When considering a motion to dismiss, the Court must accept the plaintiffs’ well-pleaded
allegations as true. In this case, the Court does not find plaintiffs’ allegations regarding the
meaning or ambiguity of Section 11.8 to be merely conclusory. Therefore for the purpose of this
analysis, the Court finds that plaintiffs’ allegations regarding KeyCorp’s implied duties under the
PSA do not fail to state a claim as a matter of law.
Accordingly, defendant’s motion to dismiss on the grounds that plaintiffs’ claims
regarding KeyCorp’s implied duties under the PSA are negated by the express language of the
PSA is DENIED.
2.
Plaintiffs’ Motion to Dismiss or Strike Defendant’s Counterclaim
In applying the Sixth Circuit’s five-factor test to defendants’ counterclaims, the Court
finds it is appropriate to exercise jurisdiction over defendant’s claims for declaratory judgment.
22
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The issues advanced in defendant’s counterclaims are not entirely redundant of the breach of
contract claims in plaintiffs’ complaint, and deciding the counterclaims will both settle the
controversy between the parties and clarify the legal relationships between the parties with
respect to the PSA and related events at issue in this case. Further, resolution of all parties’
claims in a single action will reduce procedural fencing in favor of a complete resolution of the
case. The fourth factor is not applicable in this case. With respect to the fifth factor, there are no
alternative, more effective, methods of resolution that are apparent at this time.19
Accordingly the Court concludes that it is appropriate to exercise jurisdiction over
defendant’s counterclaims for declaratory judgment. Having determined that defendant’s
counterclaims are not entirely redundant of the claims in plaintiffs’ complaint, plaintiffs’ Rule
12(f) motion to strike is DENIED.
Further, it is clear to the Court from the facts alleged by the parties in their pleadings and
the responsive briefs to the Rule 12 motions that the parties’ views of the meaning of the terms
of the PSA are quite different. For the purpose of ruling on plaintiffs’ motion to dismiss
defendant’s counterclaim pursuant to Rule 12(b)(6), the Court must accept defendant’s wellpleaded factual allegations as true. On that basis and for the purpose of this analysis, plaintiffs’
motion to dismiss for failure to state a claim is DENIED.
19
The Court notes that self-resolution of disputes through mediation is always an
alternative method of resolution that is more effective than judicial resolution. It is apparent to
the Court that mediation at this time may not be possible. However, if in the future the parties
jointly wish to pursue an alternative form of dispute resolution, they should so notify the Court.
23
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V. CONCLUSION
For the reasons contained herein, defendant’s motion to dismiss Counts 2 and 3 of
plaintiffs’ complaint is DENIED. Plaintiffs are directed to file an amended complaint in
accordance with this Order by February 24, 2012.
Further for the reasons contained herein, plaintiffs’ motion to dismiss or strike
defendant’s counterclaims is DENIED.
Because the Court has already ruled on the parties’ Rule 12 motions on substantive
grounds, the Court will not entertain additional motions to dismiss from either side.
This case is presently the subject of a case management plan, which remains in effect.
See ECF 22.
IT IS SO ORDERED.
February 16, 2012
Date
s/ David D. Dowd, Jr.
David D. Dowd, Jr.
U.S. District Judge
24
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