Opinion
C. A. PC-2023-02605
08-27-2024
AVCORR MANAGEMENT LLC, Plaintiff v. CENTRAL FALLS DETENTION FACILITY CORPORATION, and UMB BANK, N.A., as Trustee, Defendants.
For Plaintiff: Bruce Gladstone, Esq. Matthew J. Pimental, Esq. For Defendant: Brian J. Lamoureux, Esq. Joel K. Goloskie, Esq. William E. O'Gara, Esq. For Interested Party: Robert M. Duffy, Esq.
For Plaintiff: Bruce Gladstone, Esq. Matthew J. Pimental, Esq.
For Defendant: Brian J. Lamoureux, Esq. Joel K. Goloskie, Esq. William E. O'Gara, Esq.
For Interested Party: Robert M. Duffy, Esq.
DECISION
STERN, J.
Before the Court is Defendants, Central Falls Detention Facility Corporation (CFDFC) and UMB Bank, N.A., as Trustee's (UMB or the Bond Trustee) (collectively, Defendants) Motions to Dismiss Avcorr Management, LLC's (Plaintiff) Amended Complaint. Jurisdiction is pursuant to G.L. 1956 § 9-30-1 and Rule 12(b)(6) of the Superior Court Rules of Civil Procedure.
The following facts are assumed true for purposes of the instant motion to dismiss. See Narragansett Electric Co. v. Minardi, 21 A.3d 274, 278 (R.I. 2011).
Plaintiff is a Rhode Island limited liability company that entered into a consulting agreement with CFDFC (the Agreement) to provide operational and management services to the Wyatt Detention Facility (Wyatt). (Am. Ver. Compl. (Compl.) ¶¶ 1, 11.) CFDFC is a quasi-public corporation that operates Wyatt in Central Falls, Rhode Island. Id. ¶ 2. Wyatt is a maximum-security housing facility that houses up to 730 adult male and 40 adult female detainees. Id. ¶ 20. UMB, principally located in Kansas City, Missouri, is "Successor Indenture Trustee for the Central Falls Detention Facility Refunding Bonds Series 2005A issued by the [CFDFC] pursuant to that certain Indenture of Trust [(the Indenture)], dated as of June 1, 2005 . . . ." Id. ¶ 3. UMB succeeds U.S. Bank National Association as bond trustee. Id. ¶ 9.
On June 30, 2005, CFDFC issued bonds to expand Wyatt and refinance prior bonds. Id. ¶¶ 7-8. "The Bonds were issued pursuant to an Indenture of Trust dated June 30, 2005 . . . by and between the CFDFC and" UMB. Id. ¶ 7. UMB is the bond trustee for the secured bondholders. Id. ¶ 10. Plaintiff and CFDFC entered into the Agreement on January 1, 2008 with the purported consent of the Bond Trustee. Id. ¶ 11. On April 20, 2009, CFDFC terminated the Agreement with Plaintiff. Id. ¶ 12. Due to the termination, Plaintiff brought an action for breaches of contract, fiduciary duty, and the implied covenant of good faith and fair dealing, as well as quantum meruit on October 24, 2012 in Kent County Superior Court (the Kent Case). Id. ¶¶ 13-14. On June 13, 2014, while the Kent Case was pending, the Chairman of the Board of Directors of CFDFC filed a petition to appoint Attorney Jonathan Savage (Attorney Savage) as Temporary Receiver of CFDFC. Id. ¶¶ 15-16.
Plaintiff avers that, as of early 2015, "the outstanding principal amount of the Bonds was $97,300,000.00 and the accrued interest on the Bonds . . . was $5,591,081.86." (Compl. ¶ 8.) At present, Plaintiff contends that the bonds are currently worth $150,000,000. Id. n.2.
On July 30, 2014, Attorney Savage was appointed Temporary Keeper of CFDFC with the consent of the Bond Trustee, later becoming Permanent Keeper on September 22, 2014. Id. ¶¶ 18-19. Attorney Savage took charge of the CFDFC's assets during the Keepership and retained the CFDFC's Warden and Chief Financial Officer to assist him with review of financial books and records. Id. ¶¶ 20-21. Attorney Savage negotiated a forbearance agreement (the Forbearance Agreement) with the City of Central Falls and the Bond Trustee to resolve the Keepership. Id. ¶ 22. On April 2, 2015, Attorney Savage's Final Report was approved, and the Keepership was dismissed with prejudice. Id. ¶ 23.
On October 18, 2019, Plaintiff and CFDFC were ordered to appear before Rhode Island Superior Court Justice Daniel Procaccini for mediation, with CFDFC required to obtain settlement authority from the Bond Trustee. Id. ¶ 24. Subsequently, on July 1, 2020, Plaintiff obtained a stipulated judgment (the Judgment) for $1,200,000 with 6 percent post-judgment interest against CFDFC. Id. ¶ 25. The Judgment remains unsatisfied to date, as CFDFC refuses demands for payment. Id. ¶ 26. As of May 26, 2023, the Judgment has grown to $1,408,931.51 with daily interest accruing at $197.26 per day. Id. ¶ 27.
Plaintiff argues that the CFDFC had to obtain the Bond Trustee's approval prior to entering into the Judgment. Id. ¶¶ 29-30. Plaintiff further avers that the Bond Trustee, despite approving the Judgment, misrepresented to Plaintiff that CFDFC and the Bond Trustee would pay the Judgment. Id. ¶¶ 30, 33. Plaintiff labels the Bond Trustee and CFDFC's failure to pay Plaintiff as "bad faith" and "inequitable." Id. ¶ 35. Plaintiff implores the Court to use equitable subordination to force the CFDFC to pay Plaintiff out first on its claims. Id. ¶ 36.
On April 10, 2019, the Bond Trustee filed an action in the United States District Court for the District of Rhode Island (the District Court) against the CFDFC, members of the board of directors, the mayor, and members of the city council seeking the appointment of a receiver due to concerns over viability of Wyatt (the Federal Action). Id. ¶¶ 37-38. The District Court appointed Deming Sherman as Special Master on April 26, 2019, to ensure the CFDFC board did not take action that would impact the CFDFC's assets or revenue. Id. ¶¶ 39-40.
Later, Plaintiff sought to intervene in the Federal Action to collect its Judgment on September 29, 2022. Id. ¶¶ 41-42. Both the CFDFC and the Bond Trustee objected to Plaintiff's intervention into the Federal Action. Id. ¶ 43. On December 7, 2022, the District Court denied Plaintiff's motion to intervene. Id. ¶ 44. Plaintiff submits that the District Court "recognized" Plaintiff's right to be paid by noting that Plaintiff could petition the Superior Court for the appointment of a receiver. Id. ¶ 45 (citing Ex. J, at 4.)
Plaintiff purports to have done due diligence on the CFDFC's ability to pay the Judgment by engaging Catherine M. Parente, CPA (Parente) to conduct a forensic analysis of financial documents acquired through an Access to Public Records Act request. Id. ¶ 46. Parente reviewed documents from 2017 to 2022 and communicated with Anthony Ventetuolo, Jr., the CFDFC's executive director from 2008 to 2009 as part of her analysis. Id. ¶¶ 47-48. Parente found that Wyatt's Average Daily Population (ADP) drove its revenue. Id. ¶ 49. The ADP has been on the rise since 2017 with a slight, temporary dip attributable to the COVID-19 pandemic. Id. ¶ 50.
Plaintiff obtains its revenue from an agreement with the United States Marshal Service (USMS), which pays a "per detainee rate." Id. ¶ 51. The rate was $101.76 per detainee in 2017, with an increase to $114.87 in 2018, and $180.97 per detainee as of 2022. Id. In 2022, the CFDFC guaranteed the USMS bed space of 550 beds at any given time for a monthly fee of $2,986,005 "for acceptable performance" Id. ¶ 52. This monthly arrangement resulted in increased revenues of $1,256,292 per month upon its commencement in June of 2022. Id. ¶ 54. Despite these increased revenues, expenses stayed low, resulting in a monthly average net operating income of $809,832.00 from June 2022 to December 2022. Id. ¶ 55. The CFDFC also received $2,903,400 and $2,000,000 in forgiven PPP loans. Id. ¶ 59.
Plaintiff alleges that the CFDFC has refused to list Plaintiff on its list of creditors. Id. ¶ 60. Plaintiff further accuses the CFDFC of wasting its revenue and assets. Id. ¶ 61. These instances of waste include donations and impact fees to the City of Central Falls, and over $2,500,000 in legal fees paid from 2017 to 2022. Id. Plaintiff acknowledges that it is aware of the forbearance agreement that exists between the CFDFC and the Bond Trustee. Id. ¶ 62. The amount owed to Plaintiff purportedly is 3.6 percent of the CFDFC's 2022 revenues. Id. ¶ 64.
On June 2, 2023, Plaintiff sought the appointment of a receiver for the CFDFC to pay the Judgment. Id. ¶ 65. The Bond Trustee objected to the proceedings and asserted that it required payment in full prior to any payment to Plaintiff. Id. ¶ 66. Plaintiff later sought to amend its petition for receivership to file a verified amended complaint, adding the Bond Trustee and stating three counts against the CFDFC. Id. ¶ 70. Those counts included: (1) declaratory judgment on whether the CFDFC could avoid payment of the Judgment to Plaintiff based on the Bond Trustee's objection, (2) equitable subordination, and (3) debt of judgment with a mandatory injunction request to pay Plaintiff. Id.
Defendants both filed their Motions to Dismiss on February 14, 2024. (Docket.) Plaintiff submitted their Objection and corresponding memorandum on March 5, 2024, and Defendants replied to the same on March 12, 2024. Id. The parties convened before the Court for hearing on March 19, 2024. Id. After the hearing, supplemental briefing was provided by the parties on March 29, 2024 to address the Court's questions regarding identified case law. Id. The Court's decision follows.
II
Standard of Review
Rule 12(b)(6)
A motion to dismiss under Rule 12(b)(6) of the Superior Court Rules of Civil Procedure "has a narrow and specific purpose: 'to test the sufficiency of the complaint.'" Mokwenyei v. Rhode Island Hospital, 198 A.3d 17, 21 (R.I. 2018) (quoting Multi-State Restoration, Inc. v. DWS Properties, LLC, 61 A.3d 414, 416 (R.I. 2013)). A trial justice "'must look no further than the complaint, assume that all allegations in the complaint are true, and resolve any doubts in a plaintiff's favor.'" Multi-State Restoration, Inc., 61 A.3d at 416 (quoting Laurence v. Sollitto, 788 A.2d 455, 456 (R.I. 2002)) (internal citations omitted). The Court will grant a motion to dismiss "if it 'appears beyond a reasonable doubt that a plaintiff would not be entitled to relief under any conceivable set of facts.'" Laurence, 788 A.2d at 456 (quoting Rhode Island Affiliate, ACLU, Inc. v. Bernasconi, 557 A.2d 1232, 1232 (R.I. 1989)). Importantly, "'the tenet that a court must accept as true all of the allegations contained in a complaint is inapplicable to legal conclusions.'" Chhun v. Mortgage Electronic Registration Systems, Inc., 84 A.3d 419, 422 (R.I. 2014) (quoting Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009)).
III
Analysis
A
Extrinsic Documents
"Ordinarily, when ruling on a motion to dismiss . . . 'a court may not consider any documents that are outside of the complaint, or not expressly incorporated therein, unless the motion is converted into one for summary judgment.'" Chase v. Nationwide Mutual Fire Insurance Company, 160 A.3d 970, 973 (R.I. 2017) (quoting Alternative Energy, Inc. v. St. Paul Fire & Marine Insurance Co., 267 F.3d 30, 33 (1st Cir. 2001)). '"There is, however, a narrow exception for documents the authenticity of which are not disputed by the parties; for official public records; for documents central to plaintiffs' claim; or for documents sufficiently referred to in the complaint."' Id. Here, Plaintiff references all of its exhibits in its Amended Complaint. See generally Am. Compl.
The Court did not consider the other exhibits proffered by the parties because they were unnecessary in adjudicating the instant motion.
B Rule 60(b)(3) of the Superior Court Rules of Civil Procedure
Defendants' briefs raise the issue of whether Plaintiff's Amended Complaint constitutes a Rule 60(b)(3) motion by challenging a judgment on the basis of fraud. (CFDFC Mot. 4-8; UMB Mot. 15.) Both Defendants point out that under a Rule 60 motion, Plaintiff would be time-barred from bringing the present claim alleging fraud in the inducement of the Judgment. (CFDFC Mem. 7; Bond Trustee Mem. 15; Am. Comp. ¶ 86.) Rule 60 provides that "[o]n motion and upon such terms as are just, the court may relieve a party or a party's legal representative from a final judgment, order, or proceeding" on the basis of "[f]raud, misrepresentation, or other misconduct of an adverse party[.]" Super. R. Civ. P. 60(b)(3). Rule 60 precludes a motion after more than one year after the judgment was entered. Id. Despite Defendants' claims that Plaintiff's complaint runs afoul of the one-year limitation, our Supreme Court notes that '"Rule 60(b) of the Superior Court Rules of Civil Procedure permits a party to seek relief from a judgment by filing a separate independent action-even if it files the independent action more than one year after the entry of the judgment."' Sloat v. City of Newport ex rel. Sitrin, 19 A.3d 1217, 1222 (R.I. 2011) (quoting Allstate Insurance Co. v. Lombardi, 773 A.2d 864, 869 (R.I. 2001) (citing Reynaud v. Koszela, 473 A.2d 281, 285 (R.I. 1984))).
Therefore, even though Plaintiff's Amended Complaint comes more than a year after the Judgment was entered and the Amended Complaint contains the hallmarks of a Rule 60 motion- namely, the allegations of fraud in the inducement of the judgment (Am. Compl. ¶ 86), the Court will consider the sufficiency of the independent complaint under the motion to dismiss standard.
C Count I: Declaratory Judgment
"The threshold determination when confronted with a claim under the [Uniform Declaratory Judgments Act] UDJA is whether the Superior Court is presented with an actual case or controversy[; w]ithout making this initial determination, the court does not have jurisdiction to entertain the claim." N & M Properties, LLC v. Town of West Warwick ex rel. Moore, 964 A.2d 1141, 1144-45 (R.I. 2009). "Where a concrete issue is present and there is a definite assertion of legal rights coupled with a claim of a positive legal duty with respect thereto which shall be denied by an adverse party, then there is a justiciable controversy calling for the invocation of the declaratory judgment action." Key v. Brown University, 163 A.3d 1162, 1169 (R.I. 2017) (internal quotation omitted). "In an action for declaratory relief, a justice of the Superior Court has discretion to grant or deny declaratory relief under the Uniform Declaratory Judgments Act." Cigarrilha v. City of Providence, 64 A.3d 1208, 1212 (R.I. 2013) (internal quotation omitted).
The actual case or controversy the Court is being asked to determine is whether a subordinate lien creditor can enforce their judgment without the permission of the senior creditor. Plaintiff's complaint seeks declaratory judgment and presents a "Central Question of Law" that asks: "can the CFDFC refuse to pay a Stipulated Judgment, which was agreed to by its Bondholders, . . . although the secured creditor Bondholders have not exercised their rights under their security interest (i.e. have not taken possession of the CFDFC's assets) and the CFDFC continues to operate in the ordinary course of business[.]" (Am. Compl. 2.)
To determine whether Plaintiff's declaratory judgment claim survives the motions, the Court will conduct a two-part analysis. First, the Court will apply the Uniform Commercial Code (UCC) both to Plaintiff and the Bond Trustee's interest in the CFDFC to determine who retains greater priority in the collateral. Second, the Court will evaluate the merits of the "Central Question of Law" and the arguments presented by Plaintiff in its memorandum in support of its objection to Defendants' motions.
1 Priority
The UCC governs secured transactions in Rhode Island. U.C.C. § 6A-9-101. Under the UCC, a perfected security interest takes priority over a later perfected security interest or an unperfected security interest. Section 6A-9-322(a)(1)-(2). In addition, a secured creditor with a prior perfected security interest has "superior rights to any subsequent lien creditors[.]" McFarland v. Brier, 850 A.2d 965, 977 (R.I. 2004). Our Supreme Court has explained that "[a]lthough not expressly stated, the code clearly implies that a secured party with a perfected security interest is entitled to priority over a creditor who has obtained a later lien on the collateral by attachment, garnishment, levy, or the like." Id.
However, the UCC outlines that "[a] security interest . . . is subordinate to the rights of . . . a person that becomes a lien creditor before the earlier of the time . . . the security interest . . . is perfected." U.C.C. § 9-317(a)(2)(i). That is, if a secured creditor is perfected before a lien creditor (judgment creditor) comes into existence, the secured creditor takes priority over the lien creditor. See § 9-317(a)(2)(i).
In evaluating a security interest, the Court must first determine whether the creditor's interest has attached. Attachment is governed by § 6A-9-203(b), which in relevant part provides:
"a security interest is enforceable against the debtor and third parties with respect to the collateral only if:
"(1) Value has been given;
"(2) The debtor has rights in the collateral or the power to transfer rights in the collateral to a secured party; and
"(3) One of the following conditions is met:
"(i) The debtor has authenticated a security agreement that provides a description of the collateral and, if the security interest covers timber to be cut, a description of the land concerned . . . ." U.C.C. § 6A-9-203.
The statute defines "security agreement" as "an agreement that creates or provides for a security interest." Section 6A-9-102(a)(74).
Here, it can hardly be disputed that both Plaintiff and the Bond Trustee have attached security interests in the CFDFC's assets. (Pl.'s Exs. A-B, D1-7.) Specifically, Plaintiff became secured upon obtaining the Judgment and filing a Writ of Execution on CFDFC's goods, chattels, and real estate. Id. at A-B. Likewise, the Bond Trustee's security interest is evidenced by the Indenture document, which provides:
"The Corporation hereby grants and pledges all of its right, title and interest in (i) the Revenues and (ii) all Funds and Accounts created or established by or maintained pursuant to this Indenture and any other property pledged to the payment of any Bonds in the granting clauses hereof, to secure the payment of the principal, Redemption Price, if any, and interest on the Bonds in accordance with the terms and provisions of this Indenture, and the performance by the Corporation of all of its obligations under this Indenture and the Bonds, and the Trustee is hereby granted a security interest therein, subject only to the provisions of this Indenture permitting the application thereof for the purposes and on the terms and conditions set forth in this Indenture." Id. at Ex. D1, at 28.
Moreover, the Bond Trustee has perfected its security interest in the CFDFC's collateral. Pursuant to § 6A-9-310(a), "a financing statement must be filed to perfect all security interests and agricultural liens." Section 6A-9-310(a). The Bond Trustee's financing statement was filed on June 30, 2005, at 2:24 PM, showing the CFDFC as the debtor and U.S. Bank National as the creditor.The financing statement includes a detailed description of the CFDFC's assets that serve as the Bond Trustee's collateral. Id.
The financing statement can be verified by using the following link: https://business.sos.ri.gov/CorpWeb/UCCSearch/UCCSearchViewPDF.aspx?Path=DRIVE1/200 5/0630/000006757/0002/200502483990_1.pdf.
As to Plaintiff's interest in the CFDFC's assets, our Supreme Court has remarked "[t]he only time a lien creditor takes priority over a secured creditor is when the lien attaches before the secured creditor can perfect its security interest in the collateral." McFarland, 850 A.2d at 977-78. Plaintiff admits that the Judgment did not enter until July 1, 2020, with the Writ of Execution generated on July 29, 2020. (Pl.'s Compl. Exs. A-B.)
McFarland is the seminal Rhode Island case addressing priority disputes between secured parties and lien creditors. See McFarland, 850 A.2d at 973-74. There, the plaintiff lien creditor obtained a judgment against a bank and debtor after the debtor was declared liable for various acts of unfair competition and trade secret disclosure. Id. at 970. Prior to the issuance of the judgment and aware of ongoing litigation between the plaintiff and the debtor, the bank entered into a $500,000 security agreement with the debtor, pledging a $200,000 CD held at the bank as its collateral. Id. Shortly thereafter, the plaintiff obtained a prejudgment attachment on the bank for any of the debtor's assets held there, including the CD. Id.
Soon, the debtor became deficient on its loan from the bank, and the debtor successfully requested that the bank apply the CD to the loan. Id. at 970-71. The plaintiff finally obtained an entry of final judgment after several posttrial motions and an appeal. Id. at 971. Plaintiff asked the trial court to charge the bank as a garnishee, a request the court later granted for the full value of the CD because the bank never declared the loan in default and only applied the CD balance upon the debtor's request. Id.
Our Supreme Court reversed the trial court's decision and determined that the bank could properly apply the CD's balance to the delinquent loan balance. Id. at 972. The Court first disagreed with the trial court's finding that the debtor and the bank rescinded their loan agreement, instead determining that the debtor's suggestion to apply the CD balance merely waived the bank's notice requirement that it was doing so. Id. at 972-73. Next, the Court held that plaintiff's writ of attachment must take a backseat to the bank's perfected interest in the CD. Speaking of Article 9, the Court stated "[a]lthough not expressly stated, the code clearly implies that a secured party with a perfected security interest is entitled to priority over a creditor who has obtained a later lien on the collateral by attachment, garnishment, levy, or the like." Id. at 977. Further, "[t]he only time a lien creditor takes priority over a secured creditor is when the lien attaches before the secured creditor can perfect its security interest in the collateral." Id. at 977-78 (citing § 6A-9-301(1)(b)).
Each of the parties addressed McFarland, with the CFDFC and the Bond Trustee arguing it should be applied to this matter and Plaintiff asserting it is distinguishable. The Bond Trustee submits that McFarland should be followed, and that Plaintiff is incorrect in its claims that the Bond Trustee must take possession of the collateral to protect its senior secured position. (Bond Trustee's Mem. 8.) Likewise, the CFDFC implores the Court to adhere to McFarland because it is "squarely on point." (CFDFC Mem. 10.) The CFDFC contends that permitting Plaintiff to leapfrog the Bond Trustee and collect its judgment would "turn commercial lending on its head" and make lenders wary to make loans. Id. at 10-11.
In response, Plaintiff avers that McFarland is inapplicable to the instant matter because there the bank had "no ties" to the litigation between the plaintiff and the debtor and the writ of attachment had not matured into a right of garnishment. (Pl.'s Mem. 18.) Plaintiff also suggests that the McFarland Court refused to recognize the superior of the prejudgment attachment because there were no allegations of fraud made by the plaintiff there. Id. In the present matter, Plaintiff advances that, by agreeing to the Judgment and refusing to pay out the same, the Bond Trustee has engaged in fraud. Id. at 18-19.
Plaintiff's interpretation of McFarland is incorrect. See id. Specifically, Plaintiff's attempt to harp on the Court's language that the plaintiff there "has not alleged fraud, collusion, or any other type of improper conduct that would allow us to declare that the bank's security interest in the CD was void" is a sleight of hand that misrepresents the Court's premise. McFarland, 850 A.2d at 973. When discussing fraud and its effect on the attachment, McFarland referred to the underlying agreement between the bank and debtor and whether it was tainted by some sort of wrongdoing. Id. In fact, the very next sentence clarifies that this is exactly what the Court intended. Id. (citing Read & Lundy, Inc. v. Washington Trust Co. of Westerly, 840 A.2d 1099, 1102 (R.I. 2004) ("we recently held . . . that the bank did not act improperly in loaning money to [the debtor], even if it actually used information acquired from a previous loan application when it did so"). Therefore, the Court holds that McFarland's conclusion that senior perfected secured interests take over lien creditors applies notwithstanding fraud allegations that appear in Count II of the Amended Complaint. See McFarland, 850 A.2d at 973.
Following the logic articulated above by our Supreme Court in McFarland, the Court determines that Plaintiff cannot have priority over the Bond Trustee's interest because the Bond Trustee perfected its interest fifteen years prior to Plaintiff obtaining the Judgment and Writ of Execution. See id. However, Plaintiff has presented a distinct legal argument that warrants further examination, a question it has dubbed in its Complaint as the "Central Question of Law." (Pl.'s Compl. 2.)
2 The Central Question of Law, Marshaling, and Frierson
The "Central Question of Law," according to Plaintiff, asks:
"can the CFDFC refuse to pay a Stipulated Judgment, which was agreed to by its Bondholders, claiming that [its] secured creditor bondholders now prohibit the CFDFC from paying the Stipulated Judgment, although the secured creditor Bondholders have not exercised their rights under their security interest . . . and the CFDFC continues to operate in the ordinary course of business." Id.
For the reasons stated below, the Court answers this question in the affirmative. The UCC provides creditors with certain rights upon borrower default. Section 6A-9-601(a). While default is not a defined term in Article 9, Comment 3 of § 6A-9-601 states that a default is whatever the parties contractually agree constitutes such in the security agreement. Id. cmt. 3. Taking the facts in the Complaint as true, Plaintiff alleges that CFDFC has been in default of its obligations to the bondholders since 2014. (Compl. ¶ 62.) Section 6A-9-601(a) explains that a "secured party [m]ay reduce a claim to judgment, foreclose, or otherwise enforce the claim, security interest, or agricultural lien by any available judicial procedure" and also that the secured party has those rights "provided by agreement of the parties." Section 6A-9-601(a). The collection of "rights of a secured party to enforce its security interest in collateral after the debtor's default are an important feature of a secured transaction." Id. cmt. 2.
Ultimately, upon default, it is left to the secured creditor to determine the proper course of action, whether that be to "foreclose, or otherwise enforce the claim." Section 6A-9-601(a)(1). Article 9 allows secured creditors to take simultaneous and cumulative action to obtain full recovery of the debt. Section 6A-9-601(c). One action permitted by Article 9 is that "[i]f so agreed, and in any event after default, a secured party . . . may notify an account debtor or other person obligated on collateral to make payment or otherwise render performance to or for the benefit of the secured party[.]" Section 6A-9-607(a)(1). Section 607 "applies not only to collections from account debtors and obligors on instruments but also to enforcement more generally against all persons obligated on collateral." Id. cmt. 3.
Another right granted by Article 9 is the secured party's right, but not the obligation, to take possession after default. Section 6A-9-609. After default, a secured party "may take possession of the collateral" through either a judicial or non-judicial process. Section 6A-9-609(a)(1); § 6A-9-609(b). If there are multiple secured parties, Article 9 explains that "more than one secured party may be entitled to take possession of collateral under this section" but that "[c]onflicting rights to possession among secured parties are resolved by the priority rules of this Article." Section 6A-9-609 cmt. 5. Going further, because "a senior secured party is entitled to possession as against a junior claimant," a junior claimant "who refuses to relinquish possession of collateral upon the demand of a secured party having a superior possessory right to the collateral would be liable in conversion." Section 6A-9-609 cmt. 5.
Secured creditors are also allowed to determine how best to dispose of the collateral after a default. Section 6A-9-610. "After default, a secured party may sell, lease, license, or otherwise dispose of any or all of the collateral in its present condition or following any commercially reasonable preparation or processing." Section 6A-9-610(a). Any disposal of the collateral must be "commercially reasonable" as to "the method, manner, time, place, and other terms." Section 6A-9-610(b). Similar to the discretionary right to possess the collateral after default, a secured creditor is not obligated to dispose of collateral by any particular time. Section 6A-9-610 cmt. 3.
Likewise, Article 9 contemplates disposition of collateral by a junior creditor, and while that is not prohibited, "[t]he holder of a senior security interest is entitled, by virtue of its priority, to take possession of collateral from the junior secured party and conduct its own disposition, provided that the senior enjoys the right to take possession of the collateral from the debtor." Section 6A-9-610 cmt. 5. The result of a junior seizure and disposition of collateral would be that any buyer of the collateral from a subordinate security interest is acquiring the collateral subject to the senior security interest. Section 6A-9-615.
Between a default and the time for disposition of collateral "[t]he borrower can attempt to continue operating the business" and, in fact, "[a] lender may very well want the business of their defaulting borrower to continue[.]" Ethan Cohen and Jonathan P. Friedland, Dealing With Defaults Under Article 9 of UCC, 50 No. 3 UCC L. J. ART 2. The result is that a senior secured creditor has significant ability to prevent a junior creditor from obtaining satisfaction of a debt from a borrower. See Timothy G. Hayes, Secured Creditors Holding Lien Creditors Hostage: Have a Little Faith in Revised Article 9, 81 Indiana L. J. 733 (2006). The Court views Mr. Hayes' Note (the Note) as falling directly in line with the conundrum presented by this case, so much so that the Court asked the parties for supplemental briefing directed to the Note and a case citing the Note, System Soft Technologies., L.L.C. v. Artemis Technologies, Inc., 837 N.W.2d 449, 455 (Mich. 2013).
In System Soft Technologies, the Court of Appeals of Michigan held that Michigan's version of the UCC, a provision substantially similar to the one adopted in Rhode Island, "does not require a secured party to foreclose, to order an account debtor to pay the secured party, or to enforce the claim by judicial procedure." Id. While analyzing a provision adopted verbatim in Rhode Island, the court determined that a creditor had the option to '"reduce a claim to judgment, foreclose, or otherwise enforce the claim, security interest, or agricultural lien by any available judicial procedure."' Id. (quoting MCL 440.9601(1)(a)); see also § 6A-9-601.
Most pertinent to this matter, the lender in System Soft Technologies entered into a forbearance agreement with the debtor-in lieu of other remedies under the security agreement- after declaring the underlying loan in default. System Soft Technologies, 837 N.W.2d at 455. The forbearance agreement allowed the borrower to operate its business so as to raise capital to repay its loan. Id. A liquidation at the time the forbearance agreement was executed would have netted the debtor just 20 percent of what it was owed. Id.
In this case, Plaintiff argues both the Note and System Soft Technologies stand for the proposition that discovery is needed to adjudicate outstanding issues of material fact. (Pl.'s Suppl. Mem. 1.) Plaintiff also avers that the Bond Trustee has waived their priority position and that marshaling should apply. Id. at 2. Specifically, Plaintiff accuses the Bond Trustee of refusing to exercise its rights under the Indenture and allowing the facility to remain open. Id. Plaintiff asks the Court to use the marshaling doctrine to ensure the over secured Bond Trustee does not prevent Plaintiff from being paid. Id.
Further, Plaintiff faults System Soft Technologies for not distinguishing Frierson v. United Farm Agency, Inc., 868 F.2d 302, 303-05 (8th Cir. 1989) and asserts that Frierson should be applied to this case because the debt was not accelerated. Id. at 2-3 (citing Frierson, 868 F.2d at 303-05). Finally, Plaintiff submits that the Note points out that a lack of good faith could serve as a barrier to a secured creditor holding their priority interest over a lien creditor if the secured party allows the business to continue operating in the ordinary course of business. (Pl.'s Suppl. Mem. 3-4.)
In response, the Bond Trustee and the CFDFC both submit that the Note and System Soft Technologies reinforce their respective positions that Plaintiff cannot receive an immediate payout. See generally CFDFC's Suppl. Mem.; Bond Trustee's Suppl. Mem. The Bond Trustee argues that the Note and System Soft Technologies each support a strong preference amongst courts to protect the interests of secured creditors against lien creditors. (Bond Trustee's Suppl. Mem. 2-4.) CFDFC's brief implores the Court to take the same approach and also notes that marshalling would not apply to this scenario. (CFDFC's Suppl. Mem. 1-2.)
Here, the Court finds that the Note and System Soft Technologies provide the Court with persuasive authority worth applying to this matter. Preliminarily, the Bond Trustee has, at least at some point, declared its security agreement with the CFDFC in default. See Am. Compl. ¶¶ 37-40; see also UMB Bank v. City of Central Falls et al., No. 19-182 WES, Compl. ¶ 155 ("Events of Default have occurred under the Indenture."). Not only did the Bond Trustee enter into a forbearance agreement with the CFDFC, the Bond Trustee filed the Federal Court action to protect its interest in the collateral through the appointment of a receiver in an action filed in April of 2019. See generally id.
The Court may rely on this document in the adjudication of this 12(b)(6) motion because it is a judicial record. See Goodrow v. Bank of America, N.A., 184 A.3d 1121, 1126 (R.I. 2018) (quoting Curreri v. Saint, 126 A.3d 482, 485-86 (R.I. 2015)) ("'a court may take judicial notice of court records'").
Pursuant to § 6A-9-601, the Bond Trustee "has the rights provided in this part and . . . those provided by agreement of the parties." Section 6A-9-601(a). The Indenture broadly expands the scope of remedies available to the Bond Trustee in the event of a default, like the security agreement in System Soft Technologies. The Indenture provides:
In System Soft Technologies, the security agreement stated:
"Other Rights and Remedies. Lender . . . shall have all the rights and remedies of a secured creditor under the provisions of the Uniform Commercial Code, as may be amended from time to time. In addition, Lender shall have and may exercise any or all other rights and remedies it may have available at law, in equity, or otherwise." Systems Soft Technologies, L.L.C., 837 N.W.2d at 455.
"Section 11.8 Remedies Not Exclusive. No remedy herein conferred upon or reserved to the Trustee or to the Owners of the Bonds is intended to be exclusive of any other remedy or remedies, and each and every such remedy shall be cumulative and shall be in addition to any other remedy given hereunder or now or hereafter existing at law or in equity or by statute." (Pl.'s Compl. Ex. D1, at 69.)
"[A]n agreement to forbear to enforce rights under an original obligation is, under the proper circumstances, recognized as good consideration for a new obligation." Phenix National Bank of Providence v. Raia, 68 R.I. 348, 28 A.2d 20, 22 (1942); see also System Soft Technologies, 837 N.W.2d at 455 ("A forbearance agreement is an agreement between a defaulting party and a lender regarding the manner in which the parties intend to handle the default.") (citing Dimmit & Owens Financial, Inc. v. Deloitte & Touche (ISC), LLC, 752 N.W.2d 37 (Mich. 2008)).
The Bond Trustee's continued support for the ongoing business operating of Wyatt is consistent with the secured creditor in System Soft Technologies. See UMB Bank, No. 19-182 WES, Compl. ¶ 160 ("The value of the Collateral is not sufficient to discharge the amount of the indebtedness owed to the Trustee."). Both the secured creditor there and the Bond Trustee here recognized that continued operation of the collateral businesses were in their best interests as secured creditors and permitted under the respective security agreements. See id.; see also System Soft Technologies, 752 N.W.2d at 456 ("it appears that [the senior creditor] opted for the remedy that gave it the best chance of collecting the total balance due"). Therefore, the Court rejects Plaintiff's argument that the Bond Trustee waived its rights and finds that the Bond Trustee properly exercised its rights under the Indenture.
The Court also declines to apply the doctrine of marshaling as Plaintiff requests. See Pl.'s Suppl. Mem. 2. "Marshaling is an equitable doctrine which 'rests upon the principle that a creditor having two funds to satisfy his debt may not, by his application of them to his demand, defeat another creditor, who may resort to only one of the funds.'" In re Robert E. Derecktor of Rhode Island, Inc., 150 B.R. 296, 299 (Bankr. D.R.I. 1993) (internal quotation omitted). Of marshaling, the System Soft Technologies court stated:
'"[W]here a senior creditor has a lien against two funds or parcels and the junior lienor has a lien against only one of those properties, a court of equity may compel the former to satisfy its claim out of the property that is encumbered by only its lien. However, application of the doctrine is limited in that it will not be allowed if it cannot be invoked without prejudicing or injuring the rights of the senior creditor or where it would harm the interests of a third party."' System Soft Technologies L.L.C., 837 N.W.2d at 456 (citing SCD Chemical Distributors, Inc. v. Maintenance Research Laboratory, Inc., 477 N.W.2d 434 (Mich. 1991)).
Plaintiff, however, has failed to plead facts suggesting that the Bond Trustee has two funds to draw from, a basic prerequisite of marshaling. See generally Am. Compl.; see also In re Robert E. Derecktor of Rhode Island, Inc., 150 B.R. at 299 (marshaling "'rests upon the principle that a creditor having two funds to satisfy his debt may not, by his application of them to his demand, defeat another creditor, who may resort to only one of the funds'") (internal quotation omitted). After all, "[e]quity requires the senior creditor to look first to property which cannot be reached by the junior creditor . . . ." Id. (citing Meyer v. United States, 375 U.S. 233, 237 (1963)). Here, since Plaintiff has not alleged another fund the Bond Trustee has access to that Plaintiff does not, the doctrine of marshaling cannot be applied. See id.
Additionally, Plaintiff cites to Frierson and claims that, like the Frierson court held, a senior secured creditor cannot allow a business to operate "as a going concern, while it impairs the status of [other creditors] by preventing it from exercising its valid . . . lien[s]." (Pl.'s Suppl. Mem. 3) (citing Frierson, 868 F.2d at 305). Here, unlike the secured creditor in Frierson, the Bond Trustee has exercised its rights under the Indenture on two separate occasions by entering the Forbearance Agreement filing the Federal Action. See generally UMB Bank, No. 19-182 WES, Compl. ¶ 160; see Am. Compl. ¶¶ 37-40. Moreover, the Court sees no relevance of the acceleration discussed in Frierson and System Soft Technologies to this matter given that a cursory review of the Indenture does not reveal that the Bond Trustee can accelerate the CFDFC's outstanding debt.(Pl.'s Am. Compl. Ex. D1.)
Moreover, based on the Court's reading of Frierson, the Court views the senior secured creditor's rights as both allowing for it to declare the loan in default and accelerate the debt. Put differently, declaring a loan in default is not mutually exclusive with acceleration. Black's Law Dictionary defines an acceleration clause as "[a] clause written into financial agreements that allows the lender to demand a full payment at any time. This is only done when the [debtor] does not pay." Black's Law Dictionary (online ed.) (emphasis added). In conclusion, the Court does not view Frierson as articulating a separate requirement for acceleration upon a default but rather permitting the lender to do so after the debtor does not pay.
In sum, the Note and System Soft Technologies assist the Court in resolving the "Central Question of Law" presented by Plaintiff. Specifically, the Bond Trustee, as the senior secured creditor, has exercised its rights under the Indenture by entering into a forbearance agreement with the CFDFC and filing the Federal Action seeking the appointment of a receiver. See Am. Compl. ¶¶ 37-40; see also UMB Bank v. City of Central Falls et al., No. 19-182 WES, Compl. ¶ 155. Following this and the premise articulated in McFarland that senior creditors defeat subsequent lien creditors, the Court finds that Count I must be dismissed. See McFarland, 850 A.2d at 973.
Plaintiff does, however, raise a persuasive argument about the Note's offerings on the good faith standard present in Article 9 within the context of equitable subordination. (Pl.'s Suppl. Mem. 3-4.) That position warrants further exploration.
D Count II: Equitable Subordination
In support of its equitable subordination argument, Plaintiff references Jacob Licht, Inc. v. Capco Steel, LLC, No. PB 2012-4739, 2014 WL 6075972 (R.I. Super. Nov. 10, 2014). Plaintiff states that "[t]he Superior Court essentially equated the claim for equitable subordination to that of the instrumentality theory of lender liability . . . ." (Pl.'s Mem. 20.)
In HNY Holding Co., Inc. v. Danis Transportation Co., Inc., No. PB-02-6561, 2004 WL 2075158, at *6 (R.I. Super. Sept. 9, 2004), Justice Michael Silverstein (Judge Silverstein) discussed the equitable subordination doctrine that he later applied in Jacob Licht, and stated:
"It is well-settled that in order to establish a claim for equitable subordination, a party must prove the following three elements: (1) '[t]he claimants must have engaged in some type of inequitable conduct; (2) [t]he misconduct must have resulted in injury to creditors or conferred an unfair advantage on the claimant and (3) [e]quitable subordination of the claim must not be inconsistent with the provisions of the Bankruptcy Code.'" Id. (quoting In re Hyperion Enterprise, 158 B.R. 555, 560 (D.R.I. 1993)).
"[T]he third element of the equitable subordination test 'recognizes that the doctrine is not a mechanism to be used by courts to alter the statutory scheme in an effort to reach a result the court considers more equitable than the distribution scheme provided for in the Bankruptcy Code."' HNY Holding Co., Inc., 2004 WL 2075158, at *6 (quoting In re Sunbeam Corp., 284 B.R. 355, 364 (Bankr. S.D.N.Y. 2002)). Importantly, "[i]n general, whether a factual situation merits the application of the doctrine of equitable subordination presents a question of law." HNY Holding Co., Inc., 2004 WL 2075158, at *6 (citing In re United States Abatement Corp., 39 F.3d 556, 559 (5th Cir. 1994)).
In Jacob Licht, Inc., Judge Silverstein offered that theories of lender liability can exist outside of the bankruptcy context, such as claims "where lender's control over borrower renders lender the real party in interest for borrower's debts[.]" Jacob Licht, Inc., 2014 WL 6075972, at *5 (citing Pearson v. Component Technology Corp., 247 F.3d 471, 492 (3rd Cir. 2001)). '"[T]here are situations in which a corporation may be held liable for the debts of another corporation under a theory known in corporate law as the instrumentality theory doctrine."' Jacob Licht, Inc., 2014 WL 6075972, at *6 (quoting F.C. Imports, Inc. v. First National Bank of Boston, N.A., 816 F.Supp. 78, 91 (D.P.R. 1993), abrogated on other grounds).
'"The instrumentality theory is akin to the piercing of the corporate veil doctrine, and has generally been used by third party creditors seeking to hold a lender liable for the debts of the borrower."' Jacob Licht, Inc., 2014 WL 6075972, at *6 (quoting FAMM Steel, Inc. v. Sovereign Bank, 571 F.3d 93, 104 (1st Cir. 2009)) (emphasis omitted). Importantly, '"[m]erely taking an active part in the management of the debtor corporation does not automatically constitute control, as used in the 'instrumentality' doctrine, by the creditor corporation."' Jacob Licht, Inc., 2014 WL 6075972, at *6 (quoting Krivo Industries Supply Co. v. National Distillers & Chemical Corp., 483 F.2d 1098, 1105 (5th Cir. 1973)).
The Jacob Licht court offered that, as part of its instrumentality analysis, a court should weigh '"the sum of [the secured creditor's] conduct with respect to [the debtor], total up all the indicia of control, and determine whether the cumulative conduct has tipped the scales."' Jacob Licht, Inc., 2014 WL 6075972, at *6 (quoting Schwan's Sales Enterprises, Inc. v. Commerce Bank & Trust Co., 397 F.Supp.2d 189, 195 (D. Mass. 2005)). "[T]here are two essential elements for liability under the instrumentality doctrine: 'the dominant corporation must have controlled the subservient corporation,' and 'the dominant corporation must have proximately caused plaintiffs' harm through the misuse of its control.'" Jacob Licht, Inc., 2014 WL 6075972, at *6 (quoting F.C. Imports, 816 F.Supp. at 91)).
Here, at this preliminary motion to dismiss juncture, the Court finds that Plaintiff has met the low threshold for alleging facts that may support liability under the instrumentality theory. See Jacob Licht, Inc., 2014 WL 6075972, at *6. Specifically, Plaintiff has alleged that the Bond Trustee has exercised control in the management of Wyatt and made critical operational, financial, and strategic decisions alongside the CFDFC. See generally Am. Compl. These facts, which must be taken as true, could support a finding that the Bond Trustee has prevented the CFDFC from paying the Judgment. See Jacob Licht, Inc., 2014 WL 6075972, at *6 (quoting F.C. Imports, 816 F.Supp. at 91)).
First, Plaintiff averred in the Amended Complaint that the Bond Trustee consented to the Agreement between the CFDFC and Plaintiff. (Am. Compl. ¶ 11.) Plaintiff also alleged that the Bond Trustee consented to the appointment of Attorney Savage as Permanent Keeper of Wyatt. Id. ¶ 19. Second, the CFDFC entered into the Judgment with Plaintiff after receiving settlement authority from the Bond Trustee. Id. ¶ 24. More generally, Plaintiff alleged that "the Bond Trustee has exercised material control over the CFDFC in relation to its entry of the . . . Judgment and its subsequent failure to pay the . . . Judgment. Id. ¶ 28.
While the Court acknowledges these broad allegations may not ultimately result in liability under an instrumentality theory, Plaintiff has alleged control that could be the proximate cause of the failure to pay the Judgment. See Jacob Licht, Inc., 2014 WL 6075972, at *6 (quoting F.C. Imports, 816 F.Supp. at 91); but see Schwan's, 397 F.Supp.2d. at 195 (determining that limited control over a corporation is not "the exercise of such total control over the debtor as to have essentially replaced its decision-making capacity with that of the lender[,]" a requirement for the instrumentality theory). Accordingly, the Court cannot find, beyond a reasonable doubt, that Plaintiff's Amended Complaint should be dismissed. See Laurence, 788 A.2d at 456.
E Count III: Mandatory Injunction
"An injunction is a remedy, not a cause of action." Long v. Dell, Inc., 93 A.3d 988, 1004 (R.I. 2014) (citing Thompson v. JPMorgan Chase Bank, N.A., 563 Fed.Appx. 440, 442 n.1 (6th Cir. 2014)). Importantly, "[i]t is axiomatic in equity law that a claim for monetary damages will ordinarily not invite injunctive relief, as there is an adequate remedy at law." In re State Employees' Unions, 1991 WL 789773, at *4, aff'd 587 A.2d 919, 926 (R.I. 1991) (emphasis added).
Plaintiff points to Whipple v. Wales, 47 R.I. 487, 134 A. 22, 23-24 (1926), concluding that Rhode Island has "long-recognized" debt on judgment as a cause of action. (Pl.'s Mem. 22.) The Whipple Court offered "[d]ebt on judgment is capable of and requires definite and exact proof. It is not enough that one or all of the parties to the partition proceedings assume that a debt has been created." Whipple, 47 R.I. 487, 134 A. at 23. The judgment a plaintiff is seeking to recover cannot be "too indefinite to create a fixed personal debt for costs[,]" and it must contain specific language of a debt owed to a plaintiff. Id. at 23-24.
In Count III, which is alleged solely against the CFDFC, Plaintiff asks the Court to issue a "mandatory injunction requiring the CFDFC to pay the Stipulated Judgment on a date certain[.]" (Am. Compl. ¶ 97.) However, the Court has determined that Count I cannot proceed because no debt is currently owed to Plaintiff under the UCC and the "Central Question of Law." See § III.A. The lone surviving count of the Complaint, Count II, which is alleged just against the Bond Trustee and not the CFDFC, is based on an equitable doctrine that creates liability on the part of a creditor if sufficient control can be shown. Id. § III.D. Therefore, Plaintiff cannot obtain relief under this claim. Additionally, the Court must dismiss this claim for injunctive relief under Long, given that an injunction is a remedy and not a cause of action. See Long, 93 A.3d at 1004.
IV Conclusion
For the reasons set forth herein, Defendants' Motion to Dismiss is GRANTED in part as to Counts I and III and DENIED in part as to Count II against the Bond Trustee. Plaintiff's counsel shall submit the appropriate order for entry.