Opinion
Civil Action Nos. 7888, 7844.
Decided February 27, 1987.
Kevin Gross, Esquire of MORRIS and ROSENTHAL, P.A., Wilmington, Delaware, and Michael P. Fuchs, Esquire, of WOLF, POPPER, ROSS, WOLF JONES, New York, New York, Attorneys for Plaintiff in Civil Action No. 7844.
Robert K. Payson and Richard L. Horwitz, Esquires, of POTTER, ANDERSON CORROON, Wilmington, Delaware; Harold L. Kaplan, Kelly R. Welsh and Locke E. Bowman III, Esquires, of MAYER, BROWN PLATT, Chicago, Illinois, Attorneys for Continental Illinois National Bank and Trust Company of Chicago.
John H. Small, James L. Holzman, Vernon R. Proctor, and Norman L. Pernick, Esquires, of PRICKETT, JONES, ELLIOTT, KRISTOL and SCHNEE, Wilmington, Delaware; SHANK, IRWIN CONANT, Dallas, Texas, of counsel, Attorneys for Planet Investment Corporation and the Individual Defendants.
R. Franklin Balotti and Gregory P. Williams, Esquires, of RICHARDS, LAYTON FINGER, Wilmington, Delaware; Melvin L. Cantor and Thomas C. Rice, Esquires of SIMPSON, THACHER BARTLETT, New York, New York, Attorneys for Defendant Manufacturers Hanover Corporation.
Lawrence C. Ashby and Stephen E. Jenkins, Esquires, of ASHBY, M.C. KELVIE GEDDES, Wilmington, Delaware, Attorneys for HIRCO Trustee.
MEMORANDUM OPINION
Presently pending are motions to dismiss Count III of the complaint in Civil Action No. 7888 and to amend the complaint in Civil Action No. 7844. These two separate but related civil actions arise out of a default on interest payments on Series A Subordinated 9 7/8% Debentures due December 31, 2004 (the "Debentures"), issued by Hunt International Resource Corporation ("HIRCO") pursuant to an Indenture Agreement between HIRCO and Continental Illinois National Bank and Trust Company of Chicago ("Continental").
The first action, Charles Dimston, et al. v. Planet Investment Corporation, et al., C. A. No. 7844 (the "Dimston action"), filed on November 15, 1984, is a class action on behalf of all holders of the Debentures against HIRCO, its corporate parent, Planet Investment Corporation ("Planet"), Manufacturers Hanover Corporation ("MHC"), and HIRCO's directors, most of whom were also directors of Planet. The Dimston complaint charges that the defendants, aided and abetted by MHC, caused HIRCO to make fraudulent conveyances of its assets to its parent company, Planet, and that as a result, HIRCO became financially unable to make semiannual interest payments on the Debentures. The Dimston plaintiffs seek, essentially, to recover the unpaid interest and principal on the Debentures.
The second action, Civil Action No. 7888 (the "Continental action"), filed on December 14, 1984, is brought on behalf of all the Debenture holders, by Continental as Trustee under the Indenture. Named as defendants are the persons and corporations that were named as defendants in the Dimston action, excluding MHC. The Continental complaint alleges that HIRCO breached the Indenture agreement (Count I), that the defendants caused HIRCO's assets to be fraudulently conveyed to Planet (Count II), that the defendants committed breaches of their fiduciary duties and fraud (Count III), and that the individual defendants caused dividends to be illegally declared (Count IV). Continental seeks recovery of the unpaid principal and interest on the debentures, plus money damages.
Between December 1984 and March 1985, discovery was conducted in both actions on a consolidated basis. On March 26, 1985, an involuntary petition for reorganization was filed against HIRCO in the United States Bankruptcy Court for the Northern District of Texas, Dallas Division, under Chapter 11 of the United States Bankruptcy Code. (In re Hunt International Resources Corporation, Case No. 385-30831-M-11). Initially, the Bankruptcy Court stayed both the Dimston and the Continental actions under Section 362 of the Bankruptcy Code. On July 29, 1985, that court confirmed its prior stay of those two actions, except that with respect to the Continental action. the stay order provided that the stay "[will] not apply to the claims asserted by Continental in Count III [which alleges breach of fiduciary duty and fraud] against defendants other than HIRCO. . . ."
Prompted by that provision of the stay order, the Dimston plaintiffs sought leave from this Court to file an amended complaint that, in essence, would track Count III of the Continental complaint. The defendants in the Dimston action oppose that motion. After briefing was completed on the Dimston plaintiffs' motion to amend, but before oral argument was held, the individual defendants and Planet moved to dismiss Count III of the Continental complaint. After additional briefing, both pending motions — defendants' motion to dismiss Count III of the Continental complaint and the Dimston plaintiffs' motion for leave to amend their complaint — were argued. This is the decision of the Court on those motions.
I. What next follows is a summary of the pertinent facts alleged in the Dimston and Continental complaints. HIRCO, a Delaware corporation, issued the Debentures on February 22, 1978 in connection with a merger of HIRCO and Great Western United Corporation ("GWU"). In the 1978 merger, the former shareholders of GWU became holders of the Debentures, which were issued pursuant to an Indenture Agreement between HIRCO and Continental, as Indenture Trustee.
On October 2, 1979, a second merger took place, as a result of which HIRCO became a wholly-owned subsidiary of Planet. In the 1979 merger, a newly formed subsidiary of Planet ("Newco") was caused to merge with HIRCO, which became the surviving corporation. The consideration for the merger was $47 million in cash and 3,000 shares of HIRCO $3.00 preferred stock, which Planet contributed to HIRCO to fund the merger. Of the $47 million, $37 million was financed by a loan from Manufacturers Hanover Trust Company ("Manufacturers"), a subsidiary of MHC, which was guaranteed by defendants Nelson and William Hunt. By the terms of that loan, Planet was obligated to make twelve semiannual repayment installments beginning in April, 1981.
Planet's sole asset is its 100% common stock interest in HIRCO. All of Planet's outstanding common stock is owned by nine testamentary trusts of which the children of defendants Nelson Bunker Hunt and William H. Hunt are the primary life beneficiaries. Defendants Nelson Bunker Hunt and William H. Hunt own all of Planet's outstanding nonvoting 10% cumulative preferred stock.
It is alleged that between 1980 and 1984, the individual defendants caused assets of HIRCO to be periodically transferred to Planet in exchange for promissory notes of Planet, to enable Planet to meet its repayment obligations to Manufacturers. Plaintiffs charge that the transfers of HIRCO assets to Planet were for inadequate consideration, were concealed by the individual defendants, and were the cause of HIRCO's inability to pay the interest on the Debentures which fell due on June 30, 1984. HIRCO's continuing failure to make interest payments allegedly caused HIRCO to be in default under the terms of the Indenture, and caused Continental, as Indenture Trustee, to accelerate the principal amount due on the Debentures.
II. Three arguments are advanced as to why Count III of the Continental complaint should be dismissed. First, the Continental defendants assert that as a matter of law no fiduciary duty is owed to the Debenture holders or to Continental as Indenture Trustee. Second, they contend that Count III fails to state a claim for fraud. Finally, defendants argue that a "No Recourse" provision in the Indenture bars the claims asserted in Count III.
The Dimston defendants argue that the aforementioned grounds for dismissal should apply equally to preclude the Dimston plaintiffs from filing a proposed amended complaint that would be virtually identical to Count III of the Continental action. MHC (which is named as a defendant only in the Dimston action) joins in that opposition, on the ground that since no fiduciary duty is owed to the Debenture holders, MHC could not have aided and abetted a breach of any such duty. MHC also argues that the proposed amended complaint fails to state a cognizable claim against it, and that insofar as the amended Dimston complaint seeks to level charges against MHC, it violates the Bankruptcy Court's stay order.
At oral argument counsel for the Dimston plaintiffs advised the Court that a "Second Proposed Amended Complaint" had been prepared and submitted with the expectation that if the first Amended Complaint were found legally insufficient, the Court would see fit to consider the second proposed amended complaint. Briefing and oral argument, however were directed only toward the first proposed amended complaint. Accordingly, in deciding this motion, it is only that complaint which the Court has considered. Transcript of Oral Argument, at 64-65.
A. I first turn to the defendants' argument that the fiduciary duty claim in Count III of the Continental complaint should be dismissed because no fiduciary duty is owed to the Debenture holders. In support of that argument the defendants rely upon Norte Co. v. Manor Healthcare Corp., Del. Ch., C. A. Nos. 6827 and 6831, Berger, V. C. (November 21, 1985), reargument denied, May 30, 1986, wherein the Court dismissed a claim brought on behalf of debenture holders for "lack of entire fairness" arising out of a merger involving the corporation that had issued the debentures. In arriving at that result, the Court in Norte Co. relied upon Harff v. Kerkorian, Del. Supr., 347 A.2d 133 (1975) (per curiam). In Harff, then-Chancellor Quillen held that the duty owed by an issuing corporation and its directors to the holders of convertible debentures was not a fiduciary duty, and that the rights of debenture holders were contractual and confined to the terms of the indenture. Harff v. Kerkorian, Del. Ch., 324 A.2d 215, 222 (1974), aff'd in part and rev'd in part, 347 A.2d 133 (1975).
On appeal the Delaware Supreme Court reversed a grant of summary judgment to the defendants, but it did so on the ground that fraud had been sufficiently alleged in the complaint to give rise to a triable issue of fact. Harff, 347 A.2d at 134 . In its opinion the Supreme Court observed that the debenture holders had been found not to have stated a valid claim for breach of fiduciary duty, "because the right upon which the plaintiffs rely is not within the terms of the Indenture to which the plaintiffs are confined in the absence of `fraud, insolvency, or a violation of a statute.'" 347 A.2d at 134. (Citation omitted).
In Norte Co., Vice Chancellor Berger analyzed the Supreme Court's decision in Harff as follows:
The Supreme Court's choice of language [in Harff] strongly suggests that it was not disturbing the trial court's holding that convertible debenture holders may not state a claim for breach of fiduciary duty. Moreover, given the fundamental distinctions between stockholders and creditors, highlighted above, I must assume that the Supreme Court would have explained the basis for its holding if it had determined that plaintiffs had standing to maintain a breach of fiduciary duty claim.
Norte Co., supra, at 13-14.
Continental argues that the defendants' reliance upon Norte Co. is misplaced. It urges that the correct interpretation of the Supreme Court's decision in Harff is that a debenture holder's claim for breach of fiduciary duty is not dismissible where (as here) fraud is also alleged. Continental insists that Norte Co. does not hold to the contrary, because in Norte Co. (unlike Harff and the instant case) the debenture holders had not alleged fraud in conjunction with their breach of fiduciary duty claim. Alternatively, Continental argues that Norte Co. misinterpreted the Supreme Court's decision in Harff, which, if properly understood, holds that the debenture holders were entitled to pursue a claim for breach of fiduciary duty.
In support of its reading of Norte Co., Continental points out that on reargument in Norte Co., the plaintiff was granted leave to file an amended complaint which set forth a fraud claim. Continental attempts to distinguish Katz v. Oak Industries, Inc., Del. Ch., 508 A.2d 873 (1986), and MacAndrews Forbes v. Revlon, Inc., Del. Ch., 501 A.2d 1239 (1985), aff'd, Del. Supr., 506 A.2d 1973 (1986) on that same basis (i.e., failure to allege fraud). In those cited cases, standing was denied to debenture holders to maintain a claim for breach of fiduciary duty against the issuer corporation and its directors.
In my opinion neither of Continental's positions is tenable. As I read Harff, that case holds that (i) a debenture holder has no independent right to maintain a claim for breach of fiduciary duty, and (ii) in the absence of fraud, insolvency or a statutory violation, a debenture holder's rights are defined by the terms of the indenture. See Harff 347 A.2d at 134 . I therefore concur in the interpretation of Harff in Norte Co., viz., that a debenture holder may not maintain a claim for breach of fiduciary duty (as distinguished from fraud) against the issuing corporation and its directors. The proposition — announced in Harff and followed in Norte — that the relationship between a corporation and its directors and debenture holders is contractual, not "fiduciary," in nature, is well settled in this state. See Jebwab v. MGM Grand Hotels, Inc., Del. Ch., 509 A.2d 584, 593 n. 5 (1986); Katz v. Oak Industries Inc., Del. Ch. 508 A.2d 873, 879 (1986); Revlon, Inc. v. MacAndrews Forbes Holdings, Del. Supr., 506 A.2d 173, 182 (1986); Mann v. Oppenheimer Co., Del. Supr., 517 A.2d 1056, 1061 (1986).
Accordingly, to the extent that Count III of Continental's complaint alleges a claim for breach of fiduciary duty it must be dismissed.
B. Next, the defendants argue that Count III of the Continental complaint is barred by the "No Recourse" provision of Article Nine of the Indenture between HIRCO and Continental, which provides:
Section 9.01. No recourse whatsoever, either directly or through the Company or any trustee, receiver or assignee, shall be had in any event or in any manner against any past, present or future stockholder, director or officer of the Company by virtue of any past, present or future constitution, statute or rule of law or equity or by the enforcement of any assessment or penalty or by any legal or equitable proceeding or otherwise for the payment of the principal of or premium or interest on the Debentures or any of them or for any claim based thereon or otherwise in respect to the Debentures or of the Indenture; the Indenture and each of the Debentures being each a corporate obligation only, all individual liability of whatsoever kind or nature of, and all rights and claims against, such stockholders, directors and officers founded in any way directly or indirectly upon the Indenture or the Debentures or growing out of the issue thereof or out of the indebtedness evidenced thereby are expressly waived and released by the acceptance of the Debentures by each of the holders thereof and as a condition of a part of the consideration for the issue thereof and the execution and delivery of the Indenture.
Continental responds that although Article Nine of the Indenture might bar a contract claim for principal and interest on the Debentures, it does not bar a tort claim against the individual defendants based on fraudulent conduct.
The Delaware case law is supportive of Continental's argument. In Harff v. Kerkorian, supra, the defendants argued that a class action, brought on behalf of debenture holders pursuant to an indenture, was barred by the "no action" clause of the indenture. The plaintiffs countered that the "no action" clause was inapplicable, because their claim was for an alleged breach of fiduciary duty, totally outside of the indenture. On that issue the Chancellor held:
It is apparent that unless there are special circumstances which affect the rights of the debenture holders as creditors of the corporation, e.g., fraud, insolvency, or violation of a statute, the rights of the debenture holders are confined to the terms of the Indenture Agreement pursuant to which the debentures were issued.324 A.2d at 222. Because he found that the plaintiffs had not alleged insolvency, a statutory violation, or fraud, and also because he found that no fiduciary duty was owed, it became unnecessary for the Chancellor to address the "no action" clause defense. See 324 A.2d at 221-22.
In reversing and remanding the case for trial on the issue of fraud, the Supreme Court stated:
The claim of fraud is thus clearly sounded in the complaint; and it permeates the plaintiffs' position vis-a-vis the Indenture limitations. . . .347 A.2d at 134. By recognizing that the debenture holders were entitled to proceed on a claim of fraud independent of the terms and limitations of the Indenture, the Supreme Court in Harff implicitly ruled that the no-action clause of the indenture would not bar an action for fraud.
More recently, in Mann v. Oppenheimer Co., Del. Supr., 517 A.2d 1056 (1986) the Supreme Court again implicitly recognized that a debenture holder may proceed on the basis of common law fraud, independent of the terms and limitations of the indenture, including its "no recourse" clause. Mann was a class action by debenture holders who alleged that the defendant, Oppenheimer Co. ("Oppenheimer") had committed violations of Sections 17(a) and 12(2) of the Securities Act of 1933, as well as common law fraud, in an exchange offer involving subordinated debentures. The indenture contained a "no action" clause similar to the one involved in Harff. Relying upon that clause, Oppenheimer argued that the debenture holders were barred from pursuing their claims, because they had failed to satisfy the requirement of the no-action clause, that debenture holders give notice to the indenture trustee before filing suit. See Mann v. Oppenheimer Co., Del. Ch. No. 7275, Walsh, V. C. (April 4, 1985), at 5-6. Relying upon this Court's decision in Harff, the Vice Chancellor rejected that argument, holding that "[e]ven though [the] dispute may implicate the terms of the Indenture, the allegations of fraud and Federal security law violations are sufficient to support an independent action." Id. at 6. (Citation omitted). The Court proceeded to grant summary judgment in favor of Oppenheimer, on the ground that the plaintiff had shown no basis for either the alleged violation of 8 Del. C. 8 Del. C. § 12(2) of the 1933 Act or the claim of common law fraud. Id. at 14-15.
On appeal, the Delaware Supreme Court reversed on the ground that the plaintiffs should have been permitted to take discovery in connection with the common law fraud claims. Mann, 517 A.2d 1056, 1060-61, 1063 (1986). In so doing, the Supreme Court again recognized the right of a debenture holder to maintain a claim for common law fraud independent of the terms and limitations of the indenture.
Based upon the foregoing authorities, I conclude that the "no recourse" clause involved here, even if perhaps broader in scope than those involved in Harff and Mann, does not operate to bar Continental from maintaining an action for common law fraud.
C. The final issue relating to Count III of the Continental complaint (captioned "Breach of Fiduciary Duty and Fraud") is whether Continental has pleaded with requisite particularity a legally sufficient claim for fraud under Court of Chancery Rules 9(b) and 12(b). The defendants contend that Continental has not.
In Delaware, "[t]he elements of `actionable fraud' consist of a false representation of a material fact knowingly made with intent to be believed to one who, ignorant of its falsity, relies thereon and is thereby deceived." Harman v. Masoneilan International, Inc., Del. Supr., 442 A.2d 487, 499 (1982), citing Twin Coach Co. v. Chance Vought Aircraft, Inc., Del. Super, 163 A.2d 278 (1960). Chancery Rule 9(b) requires that the complaint state with particularity the circumstances constituting the alleged fraud. Ch. Ct. R. 9(b). That requirement appears to be satisfied where sufficient circumstances are alleged so as to fairly apprise the defendant of the basis for the claim. See Halpern v. Barran, Del. Ch., 313 A.2d 139, 143 (1973); Dann v. Chrysler Corporation, Del. Ch., 174 A.2d 696, 700 (1961).
The defendants first argue that Count III fails to allege that the asserted misstatements or omissions were made with intent that they be believed. While Count III does not specifically use the word "intent", paragraph 35 does allege that the defendants "made knowingly, or with reckless disregard for the truth, untrue statements of material fact. . . ." That is legally sufficient. See In Re National Student Marketing Litigation, 413 F. Supp. 1156, 1158, and n. 9 (D. DC 1976), quoting 2A Moore's Federal Practice para. 9.03 (the requirement that fraud be stated with particularity does not require particularization of allegations of fraudulent intent). Similarly, the requirement that the plaintiff and the debenture holders must have been "ignorant of the falsity" of the representations is sufficiently pleaded in paragraph 39, which alleges that the defendants "deceived Continental and the Debenture holders as to the facts of this diversion."
With respect to the other elements of fraud, however, the complaint is wanting. In particular, Count III fails to allege circumstances showing specifically how Continental and the Debenture holders relied to their detriment upon the misstatements and/or omissions. Similarly, the complaint is barren of particularized factual allegations as to how the alleged fraud proximately caused Continental to suffer damages.
The Court is mindful that in pleading common law fraud under Rule 9(b), a plaintiff need not allege evidentiary details. Strasburger v. Mars Inc., Del. Super., 83 A.2d 101, 104 (1951) (interpreting identical Superior Court Rule 9(b)); Nutt v. A.C. S., Inc., Del. Super., 466 A.2d 18, 23 (1983) (same). However, "it is essential that the precise theory of fraud with supporting specifics appear in the complaint." Nutt, 466 A.2d at 23 . In that respect, and for the reasons previously noted, Count III of the Continental complaint is deficient under Rule 9(b). The defendants' motion to dismiss will be granted, with leave to Continental to file an amended Count III in conformity with this Opinion.
III. What remains to be decided is the Dimston plaintiffs' motion for leave to file an amended complaint. The defendants, including MHC, argue that the Dimston plaintiffs' proposed amended complaint violates the Dallas Bankruptcy Court's stay order, which pertinently provides:
1. That the plaintiffs Dimston, et al, are stayed from any further action in the Delaware Court that would bind or obligate Hunt International Resources Corp. ("HIRCO") as to any liability claimed by the plaintiffs, or would finally determine any recovery for the benefit of HIRCO from its directors, controlling persons, or parent, on the theory of fraudulent conveyance or the payment of illegal dividends, as alleged in paragraphs 28, 29, 33, and 34 of the Dimston complaint.
2. The stay does apply to (i) the commencement or continuation of any proceeding or action against the Debtors and (ii) the commencement of any proceeding or action against any and all past and present officers, directors and affiliates of the Debtors to the extent that such proceedings or actions assert claims based upon the "corporate trust fund" doctrine, the "denuding the corporation" theory (as those terms are described in In re Mortgage America Corp., 714 F.2d 1266 (5th Cir. 1983) and as that doctrine and theory are applied to the Debtors), or an alleged fraudulent conveyance or transfer by the Debtors (collectively, the "barred claims").
The directors and corporate defendants urge that the proposed amended complaint in Dimston asserts claims based on the "corporate trust fund" doctrine and "on the theory of fraudulent conveyance," both of which are barred by the stay order. MHC contends that insofar as the proposed amended complaint levels allegations against it, the allegations amount to a claim of fraudulent conveyance and, thus, are likewise violative of the stay order.
Counsel have cited authority for the proposition that this court has the power to interpret the Bankruptcy Court's stay order to determine whether its terms would be violated by the proposed amended complaint. In deference to the Bankruptcy Court, I feel that the opportunity to make that determination should be afforded in the first instance to the court that issued the stay. There being no procedural obstacle to the Dimston plaintiffs' seeking such a determination, I will refrain from ruling on the Dimston plaintiffs' motion in order to permit the Bankruptcy Court to determine that issue. Continental should likewise seek leave of the Bankruptcy Court to proceed in this Court, in the event that it seeks to amend Count III of its present complaint.
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Counsel shall confer upon, and submit, an appropriate form of order implementing the rulings contained in this Opinion.