Opinion
00 Civ. 619 (RWS)
May 10, 2002
JOHN P. CAMPO, ESQ., THEODORE J. FISCHKIN, ESQ., ALISON J. CHEN, ESQ., LeBOEUF, LAMB, GREENE, MacRAE, L.L.P., New York, NY, Attorneys for Plaintiff.
CHESTER B. SALOMON, ESQ., ALEC P. OSTROW, ESQ., NICHOLAS F. KAJON, ESQ. WALTER BENZIJA, ESQ., SALOMON GREEN OSTROW, P.C., New York, NY, MICHAEL C. SILBERBERG, ESQ., ELKAN ABRAMOWITZ, ESQ., MORVILLO, ABPAMOWITZ, GRAND, IASON SILBERBERG, New York, NY, Attorneys for Defendant, Marshall S. Cogan.
SHALOM JACOB, ESQ., SWIDLER, BERLIN, SHEREFF, FRIEDMAN, New York, NY, Attorneys for Defendant Saul S. Sherman.
ROBERT A. MEISTER, ESQ., PIPER MARBURY RUDNICK WOLFE, LLP, New York, NY, Attorneys for Defendants Robert H. Nelson, Philip Smith, Karl Winters, and Tambra King.
OPINION
Plaintiff John S. Pereira, as Chapter 7 Trustee (the "Trustee") of Trace International Holdings, Inc. ("Trace International") and Trace Foam Sub Inc. (collectively "Trace") has moved to strike the defendants' demand for a jury trial with respect to Counts II, IV and V of the Trustee's second amended complaint.
For the following reasons, that motion is granted.
Parties
Trace International is a Delaware corporation. It and its subsidiary Trace Foam filed for protection under Chapter 11 of the Bankruptcy Code on July 21, 1999. The cases were converted into proceedings under Chapter 7 on January 24, 2000, and the Trustee was appointed on January 25, 2000.
The Trustee's complaint contains six counts against Marshall S. Cogan ("Cogan") and seven other former Trace directors and/or officers: Saul S. Sherman, Andrea Farace, Frederick Marcus, Robert H. Nelson, Philip Smith, Karl Winters, and Tambra King.
Prior Proceedings
The parties and events discussed herein are described in greater detail in previous opinions, including Pereira v. Cogan, No. 00 Civ. 619, 2001 WL 243537 (S.D.N.Y. March 8, 2001) and Pereira v. Cogan, 267 B.R. 500 (S.D.N.Y. 2001), familiarity with which is presumed.
The Trustee filed this instant motion on February 13, 2002. A hearing was held on March 13, 2002, and the motion was considered fully submitted at that time.
The Complaint
In Count I, the Trustee seeks recovery against Cogan on his promissory notes to Trace. Summary judgment has been entered on this Count holding Cogan liable with respect to eight of the outstanding promissory notes.Pereira, 267 B.R. at 508.
In Count II, the Trustee alleges that Cogan engaged in self-dealing in breach of his fiduciary duties. As a result, the Trustee seeks to void Cogan's Employment Agreement as automatically renewed in 1997 and recover the excessive compensation Cogan received. Summary judgment has been granted in favor of the Trustee voiding the renewal of the Cogan Employment Agreement, leaving only the claim to recover the excessive compensation pending. Pereira, 267 B.R. at 509. In Count III, the Trustee seeks the same relief as in Count II under a fraudulent conveyance theory.
In Count IV, the Trustee seeks recovery against all defendants for breach of their fiduciary duties of due care stemming from their failure to carry out their duties as directors and officers in a manner that served the best interests of Trace and Trace's creditors. The Trustee alleges that these duties were subordinated to the personal interests of Cogan.
In Count V, the Trustee seeks damages from Cogan and the other directors and/or officers of Trace for approving the payment of dividends and the redemption of shares of preferred common stock while Trace's capital was impaired. The Trustee in Count VI seeks to pierce the corporate veil and hold Cogan individually liable on the theory that the Debtors were mere instrumentalities of Cogan and functioned as his alter ego.
Defendants Cogan, Sherman, Farace, and Marcus demanded a jury trial in their answers to the complaint. The Trustee does not deny that defendants are entitled to a jury trial on Counts I, III, and VI, although the Trustee does plan to drop Count III if this motion is granted because of its similarity to Count II.
Discussion I. The Legal Standard
The Federal Rules of Civil Procedure contemplate that a jury trial will be conducted on all issues properly triable before a jury once a demand has been made:
unless (1) the parties or their attorneys of record, by written stipulation made in open court and entered in the record, consent to trial by the court sitting without a jury or (2) the court upon motion or of its own initiative finds that a right to a trial by jury of some or all of those issues does not exist under the Constitution or statutes of the United States.
The defendants rest their claim to a jury trial on the Constitution. The Seventh Amendment to the United States Constitution guarantees the right to trial by jury only for "[s]uits at common law." U.S. Const. Amend. VII. The phrase "[s]uits at common law" refers to "suits in which legal rights [are] to be ascertained and determined, in contradistinction to those where equitable rights alone [are] recognized, and equitable remedies were administered." Granfinanciera, S.A. v. Nordberg, 492 U.S. 33, 41 (1989) (quoting Parsons v. Bedford, 28 U.S. (3 Pet.) 433, 447 (1830)). See also Wm. Passalacqua Builders Inc. v. Resnick Developers South, Inc., 933 F.2d 131, 135 (2d Cir. 1991) (jury required for alter ego claim).
Whether a suit is legal or equitable is determined by federal law, even while the cause of action is created by state law. Simler v. Conner, 372 U.S. 221, 222 (1963) ("characterization of state-created claim as legal or equitable for purposes of whether a right to jury trial is indicated must be made by recourse to federal law"); see also McGuire v. Wilson, 1988 WL 45627, at *1-*2 (S.D.N.Y. May 4, 1988) (denying motion to strike jury demand). Application of federal law is required so that the right to jury trial will be exercised uniformly as demanded by the Seventh Amendment. Id.
To determine whether a particular action will resolve legal rights, courts look first to the nature of the issues involved by comparing the action to the 18th century action brought in the courts of England prior to the merger of the courts of law and equity, and second to the nature of the remedy sought. German v. Connecticut Nat'l Bank, 988 F.2d 1323, 1328 (2d Cir. 1993) (citing Granfinanciera, 492 U.S. at 42). The second stage of this analysis is more important than the first. Granfinanciera, 492 U.S. at 42.
II. Historical Analysis
Counts II and IV are common law claims for breach of fiduciary duty. Count V, while brought under a Delaware statute, has as its analog common law breach of fiduciary claim. Thus, the first step is to determine the historical treatment of such claims.
The general rule is that "actions for breach of fiduciary duty, historically speaking, are almost uniformly actions in equity' — carrying with them no right to trial by jury." Page Mill Asset Mgmt. v. Credit Suisse First Boston Corp., 2001 WL 863552 (S.D.N.Y. July 27, 2001) (quoting In re Evangelist, 760 F.2d 27, 29, 31 (1st Cir. 1985)); see also In re Lands End Leasing Inc., 193 B.R. 426, 433 (Bankr. D.N.J. 1996).
It is true that several courts have attempted to expand this narrow view of breach of fiduciary duty claims in order to provide for a jury trial on the issue. Thus far only one court in this district has subscribed to this view. Page Mill, 2001 863552 at *4 (denying motion to strike jury demand because of holding that breach of fiduciary duty was legal).
This view recognizes a "dual aspect" to the suit: "the alleged breach of fiduciary obligation, which is a traditionally equitable matter, and the underlying claim giving rise to the breach, which, if legal, carried the right to a jury trial." In re Lands End, 193 B.R. at 433 (citing DePinto v. Provident Security Life Ins. Co., 323 F.2d 826, 837 (9th Cir. 1963) (holding that plaintiffs were entitled to jury trial on claim of breach of fiduciary duty where underlying claim was common law negligence action), cert. denied, 376 U.S. 950 (1964)).
Under this theory, any breach of fiduciary duty claim that is predicated upon acts that may be challenged in a direct suit at law is an issue for the jury. Courts have considered breach of fiduciary claims to be legal where they were based, inter alia, on acts constituting breach of contract, Page Mill, 2001 863552 at *4; fraud, In re Lands End, 193 B.R. at 433; fraudulent transfer, In re Leeway Holding Co., 118 B.R. 544, 549 (Bankr. S.D. Ohio 1990); and negligence. In re Globe Parcel Serv. Inc., 75 B.R. 381, 385 n. 9 (Bankr. E.D. Pa. 1987); Holmstrom v. Coastal Indus., Inc., 645 F. Supp. 963, 995 (N.D. Ohio 1984) ("Specifically, the Court's review of plaintiff's complaint leads the Court to conclude that plaintiff seeks damages for alleged conduct on the part of the defendants which, albeit not expressly characterized by the plaintiff as such, amounts to gross negligence in redeeming the stock in question.")
Under this theory, defendants argue that the "underlying claim" is one of negligence because Delaware applies a "gross negligence" standard to claims for breach of fiduciary duty of due care. Havens v. Attar, 1997 WL 55957, at *11 (Del.Ch. Jan. 30, 1997). As negligence is an historic legal claim, they argue, their breach of fiduciary claims share this attribute.
As this court noted earlier, "[a]lthough some commentators have observed that `[g]ross negligence is probably the law of Delaware' in this context, . . . the Court of Chancery, after analyzing the Delaware case law in depth, has applied an ordinary negligence standard to a claim alleging director abdication or neglect of managerial duties." Pereira, 2001 WL 243537 at *14, n. 17 (citing R. Franklin Balotti and Jesse A. Finkelstein, The Delaware Law of Corporations and Business Organizations § 4.8 (1988) (emphasis added)). See also Aronson v. Lewis, 473 A.2d 805 (Del. 1984), overruled on other grounds by Brehm v. Eisner, 746 A.2d 244, 253 (Del. 2000) (collecting cases).
This case presents an all-or-nothing situation. Under the theory that defendants posit, it is difficult to imagine that any breach of fiduciary duty claim would not be premised on some action that could be tried at law and parties seemingly would be entitled to a jury trial on any and all breach of fiduciary duty claims. On the other hand, if the so-called "dual aspect" of breaches of fiduciary duty is not recognized, then parties would never be entitled to a jury trial on breach of fiduciary duty claims.
In staring down the horns of this dilemma, it is important to keep in mind the historical nature of the first step of the Granfinanciera test. Courts are asked to look to the historical treatment of a claim. Breach of fiduciary duty has not historically been divided into its equitable and legal parts, but treated as a single equitable cause of action. In light of the consequences of a different rule, so it should remain. Thus, all three Counts are historically equitable.
III. Character of Relief Sought
The Trustee claims that Counts IV and V seek restitution and that Count II seeks disgorgement, another form of restitution. Further the Trustee alleges that restitution constitutes equitable relief. In re Gartenberg, 636 F.2d 16, 17 (2d Cir. 1980) (citing Atlantic Coast Line R.R. v. Florida, 295 U.S. 301, 309 (1935)), cert. denied, 451 U.S. 910 (1981). See also Merex A.G. v. Fairchild Weston Sys., Inc., 29 F.3d 821, 825 (2d Cir. 1994); Schuyt v. Rowe Price Prime Reserve Fund, Inc., 835 F.2d 45, 46 (2d Cir. 1987) (holding there was no right to jury trial in action seeking to recover allegedly excessive management fees paid to a mutual fund), cert. denied 485 U.S. 1034 (1988); SEC v. Commonwealth Chem. Sec. Inc., 574 F.2d 90, 95 (2d Cir. 1978) (holding no right to jury trial in action brought by SEC seeking disgorgement of profits on the basis of alleged violations of federal securities laws).
The defendants rightly point out that the Trustee appeared to characterize the remedy sought as one for money damages in his complaint, and a demand for money damages is a legal remedy. E.g., Great-West Life Annuity Inc. Co. v. Knudson, 534 U.S. 204, 122 S. Ct. 708, 714 (2002) (finding remedy legal when a plaintiff "sought `to obtain a judgment imposing a merely personal liability upon the defendant to pay a sum of money'"); Mertens v. Hewitt Assocs., 508 U.S. 248, 255 (1993) ("Money damages are, of course, the classic form of legal relief."). In the complaint, the Trustee stated that Count IV "seeks recovery of damages for multiple breaches." (Compl. ¶ 2) and that he "is entitled to an award of compensatory damages from all defendants". Compl. ¶ 57. Further, he stated that "Count V seeks damages for these illegal acts [approving dividends and redemption of stock when Trace was insolvent]" (Compl. ¶ 2), and that defendants "are liable for all damages caused by these unlawful dividend payments and redemptions . . . ." Compl. ¶ 62. Nonetheless, the Court must look beyond these characterizations to what the claim for relief actually is.
It is true that restitution may be legal if ordered in a case at law.Great-West Life Annuity Inc. Co. v. Knudson, 534 U.S. 204, 122 S.Ct. 708, 714 (2002) (restitution "is a legal remedy when ordered in a case at law and an equitable remedy . . . when ordered in an equity case."). This is an equity case and therefore the restitution is equitable.
The defendants also attempt to argue that the relief sought in Count IV and V is not in fact restitution because the officers and directors never personally possessed any of the disputed funds themselves. The claim is nonetheless equitable as demonstrated in Reich v. Continental Casualty Co., 33 F.3d 754, 756 (7th Cir. 1994), cert. denied 513 U.S. 1152 (1995). In Reich, the Department of Labor sued an insurance company and the trustees of a union pension fund for breach of a fiduciary duty stemming from the trustees' decision to extend the term of a directors and officers liability policy for one year. The contract extension cost $970,000 but only provided $1 million in coverage. The Department of Labor sued the trustees and the insurance company for breach of fiduciary duty, with the trustees being asked to make restitution and the insurance company being asked to disgorge its profits. Id. at 755. The trustees inReich did not profit directly from their actions, yet the Honorable Richard Posner noted that had the case gone to trial "neither party would have been entitled to a jury trial." Id. at 756.
Although a small part of the damages sought in Counts IV and V are for alleged breaches of fiduciary duty in making loans of $600,000 to defendant Nelson and an alleged $50,000 loan to defendant King, the Trustee brought other proceedings to recover them. In re Trace Int'l Holdings, Chapter 7 Case Nos. 99-B 10425 (SMB) and 99-B 10426 (Jointly Administered); see also Pereira v. King, Adversary Proceeding No. 99-2405 (Bankr. S.D.N.Y.); Pereira v. Nelson, Adversary Proceeding No. 00-2040 (Bankr. S.D.N.Y.).
The defendants also argue that the Trustee has an adequate remedy at law in Count III and so cannot seek an equitable remedy for a similar claim in Count II. This ignores that fact that the scope of relief in Counts II and III is not the same. Count II covers the six-year time period immediately prior to the filing of Trace's bankruptcy petition (that is, dating back to July 21, 1993). The fraudulent conveyance claim remedy in Count III, on the other hand, is tied to Trace's insolvency and thus covers the period from 1995 forward only. Further, the defendants misapply the adequate-remedy-at-law principle. The principle embodies a determination that, in some circumstances, extraordinary or "coercive" remedies, such as an injunction, should not be ordered when ordinary or "noncoercive" remedies will suffice, such as money damages. 1 Dan D. Dobbs, Law of Remedies 128-29 (2d ed. 1993). Here, the relief sought is the same. The mere fact that a legal claim seeks the same relief as an equitable claim is insufficient to entitle a party to a jury trial on the equitable claim. G.A. Modafine S.A. v. Burlington Coat Factory Warehouse Corp., 888 F. Supp. 44, 45-46 (S.D.N.Y. 1995) (where parallel legal claims were omitted from amended complaint leaving only equitable claims, parties had no right to jury trial).
Because Counts II, IV and V are equitable, the defendants have no constitutional right to a jury trial.
Conclusion
The Trustee's motion is granted and the defendant's jury demand is stricken as to Counts II, IV and V.