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Trusa v. Nepo

Court of Chancery of Delaware

April 13, 2017

STEVEN B. TRUSA, individually and Derivatively on behalf of XION Management, LLC, Plaintiff,
v.
NORMAN NEPO, BRYAN COLLINS, and FARHAAN MIR, Defendants,
v.
XION MANAGEMENT, LLC, Nominal Defendant.

          Submitted: January 11, 2017

          Kevin A. Guerke, Esquire, SEITZ, VAN OGTROP & GREEN, P.A., Wilmington, Delaware; Attorney for Plaintiff.

          Paul D. Brown, Esquire and Joseph B. Cicero, Esquire, CHIPMAN BROWN CICERO & COLE LLP, Wilmington, Delaware; Attorneys for Defendant Norman Nepo.

          MEMORANDUM OPINION

          MONTGOMERY-REEVES, Vice Chancellor.

         In this action, a creditor of a limited liability company alleges that the company's managing members lured him into providing a loan to the company through various misrepresentations regarding the company's strategies and omissions of conflicts of interest. The creditor asserts that the managing members then used the loan for inappropriate purposes, including payments to insiders and affiliates, depleted the company's assets, and rendered the company unable to pay back the creditor's loan.

         The creditor asserts claims for breaches of fiduciary duty, fraud, fraudulent transfer, aiding and abetting fraud, and conspiracy to commit fraud. The creditor also seeks dissolution of the company. One of the managing members moves to dismiss the action for lack of standing, duplication, and failure to state a claim. For the reasons discussed herein, I conclude that the creditor lacks standing to bring the fiduciary duty and statutory dissolution claims; he does not state a claim for equitable dissolution; and the declaratory judgment claim is duplicative. I also conclude that the creditor fails to state a claim for fraud, fraudulent transfer, aiding and abetting fraud, or conspiracy to commit fraud. Therefore, I grant the motion to dismiss in its entirety.

         I. BACKGROUND

         The facts are drawn from the Amended Verified Complaint (the "Complaint") and the documents incorporated by reference therein.[1]

         A. Parties

         Plaintiff Stephen B. Trusa is a resident of the State of New York and lender to XION Management LLC ("XION" or the "Company"), formerly known as IIG Management, LLC ("IIG"), a Delaware limited liability company. XION purportedly "specialize[d] in structural finance with a focus on providing corporate debt. It claimed to be in the business of issuing short-term, secured notes to investors and using the proceeds to provide debt funding to U.S. publically traded companies."[2]

         Defendants Norman Nepo, Bryan Collins, and Farhaan Mir are managing members of XION (collectively, the "Managing Members"). Nepo and Collins are residents of the State of Florida, and Mir is a resident of Great Britain.

         B. Facts

         In 2010, the Managing Members approached Trusa to request a loan for XION. In connection with their efforts, the Managing Members allegedly "gave presentations, made sales pitches, and provided other information" to convince Trusa to invest in their company. Trusa claims that these presentations included "material representations" regarding XION's business and the three Managing Members.[3] Specifically, the Managing Members told Trusa that: (1) one hundred percent of Trusa's and other lenders' money would be "invested in bonds convertible into common stock of publicly traded companies"[4]; (2) Nepo was making "significant personal investments in XION" as the "anchor investor"[5]; (3) Trusa and "other lenders would be secured with XION debentures and that their underlying assets would establish multiple cash streams to mitigate risk and ensure high levels of cash reserve to service secured corporate notes"[6]; and (4) Trusa and other lenders "would receive monthly reports showing the securities in the publicly traded companies securing the investment."[7] Additionally, the Managing Members purportedly touted Collins's extensive investment experience and responsibility for "negotiating debenture conversion terms, managing legal drafting, and supervising share liquidation through XION's institutional trading accounts."[8]

         In October of 2010, in reliance on these alleged representations, Trusa executed a Loan and Security Agreement (the "Agreement") and Secured Promissory Note (the "Note, " collectively, with the Agreement, the "Loan") of $200, 000 to XION. The Agreement, with IIG/XION as Borrower and Trusa as Lender, contains a power of attorney provision, which states:

[T]he Borrower hereby irrevocably appoints the Lender, with full power of substitution and revocation, the Borrower's attorney-in-fact effective upon occurrence of an Event of Default, with full authority in the place and stead of the Borrower and in the name of the Borrower or otherwise, from time to time in the Lender's discretion to take any action and to execute any instrument which the Lender may deem reasonably necessary or advisable in pursuing its remedies set forth herein, including, without limitation, to receive, endorse and collect all instruments made payable to the Borrower representing any interest payment, dividend or other distribution in respect of the Collateral of any part thereof. This power of attorney is irrevocable and shall be deemed to be coupled with an interest and shall survive any disability of the Borrower.[9]

         The "Remedies" section of the Agreement provides, in relevant part, that the Lender (1) may, in the event of default, sue in equity for specific performance of any covenant or condition contained in the Agreement, cease disbursing advances under the Note, or declare the unpaid balance of the Note together with all accrued interest payable; (2) may sell all or any part of the collateral at a private sale; (3) may restrict prospective purchasers of the collateral, provide purchasers business and financial information, and offer the collateral for sale with or without first employing an appraiser, investment banker, or broker; and (4) shall have all rights, remedies, and recourse granted pursuant to the Note or existing at common law or equity.[10]

         The Agreement also contains the following pertinent provisions:

2.3 Use of Proceeds. Borrower shall use the proceeds of the Loan to fund and/or purchase direct and/or third party convertible debt, debentures, and bridge loans, as determined by Borrower in its sole discretion.
4.5 Full Disclosure. All information furnished by Borrower to Lender concerning Borrower, its financial condition, or otherwise for the purpose of obtaining credit or an extension of credit, is, or will be, at the time the same is furnished, accurate and correct in all aspects and complete insofar as completeness may be necessary to give lender a true and accurate knowledge of the subject matter.
4.12 Representations True. No representation or warranty by Borrower contained herein or in any certificate or other document furnished by Borrower pursuant hereto contains any untrue statement of material fact or omits to state a material fact necessary to make such representation or warranty not misleading in light of the circumstances under which it was made.[11]

         Attached as Exhibit A to the Agreement is a Borrower's Certificate (the "Borrower's Certificate") executed by Nepo, which states that "all representations and warranties set forth within the Loan Agreement are true and correct as of the date hereof."[12]XION allegedly borrowed a total of $1, 100, 000 from Trusa and other lenders.

         In October 2012, the Loan matured and XION defaulted. After the default, Trusa began to inquire about the activity at XION. "XION, in response, represented to Trusa that it was purportedly pursuing claims against Collins."[13] Trusa learned that at the time of the 2010 representations, Collins owned and controlled Greystone Capital Partners, Inc. ("Greystone") and IBC Funds, LLC ("IBC"), which allegedly created conflicts of interest with XION. Through these other companies, Collins acquired convertible bonds in the same companies as XION-facts of which the Managing Members purportedly were aware but did not disclose to Trusa. Additionally, Trusa alleges that the Managing Members did not use one hundred percent of the Loan to purchase convertible bonds in publicly traded companies as they had represented. Instead, the Managing Members paid themselves and funneled the investment proceeds to entities they owned, controlled, or from which they profited. Trusa asserts that of the $1, 100, 000 loaned to XION, "only $682, 500 [is] observable on documentation in SEC filings."[14] XION also allegedly never "obtained secured collateral backing the Loan nor provided monthly reports identifying the secured collateral."[15] Moreover, the Managing Members allegedly did nothing to protect XION during the economic decline despite the fact that Collins "took action to make money and prevent losses for his other companies, "[16] including negotiating better terms and converting certain bonds for these companies. Consequently, XION's financial position deteriorated.

         On July 2, 2014, counsel for XION informed Trusa that he was "presently reviewing all documents and determining the best course of action."[17] But, on September 9, 2014, the same counsel informed Trusa that he no longer represented XION and that his firm had "worked diligently on an amicable, confidential asset sale/settlement which did not conclude due to the non-performance of the other party."[18] The e-mail also stated that XION was engaging other counsel in order to "review litigation options, prepare legal and accounting reports for its lenders, and recover monies due to XION and its lenders."[19] Trusa subsequently followed up with XION regarding its "pursuit of Collins, " and on October 30, 2014, Mir replied that:

XION's previous attempts to reach an amicable settlement with debtors and third party service providers were unsuccessful, despite being advised by opposing counsel that a deposit was in escrow.
Consequently, XION is currently working with a securities litigation firm in Miami to establish its claim for pursuing remuneration from debtors and third party service providers.
Shortly once the firm completes formulating its proposal, you will be contacted by the firm and it will be presented to you.
This proposal will include XION restating the notes to you and appointing a trustee to work with the attorneys to manage disbursements to all parties.
Going forward lenders will be provided with transparent updates from the trustee on progress. The reports will provide full details on legal and financial issues.
The attorneys and trustee will be working with limited resources so they will be establishing communication protocols to limit fees.[20]

         Mir then told Trusa that XION was "establishing a working relationship" with a commercial litigation specialist who would decide whether to take XION's case. Mir expressed his understanding that "there is a solid path to compensation for XION."[21] On January 19, 2015, Mir told Trusa that XION could not afford the sizable retainer that the Miami litigation law firm required, was "working on alternatives, " and would update Trusa on its completed efforts.[22] By August 2015, XION's registered agent had resigned.

         Nepo's son, David Nepo, allegedly called Trusa on various dates between April and May 2016. In those conversations, David[23] purportedly represented to Trusa that he and his father had "accumulated sufficient evidence to implicate Collins, a broker dealer, and a law firm in the wrongful scheme."[24] David confirmed "Collins' and others' scheme where a broker dealer aided and abetted Collins and others in a scheme where Collins converted various convertible bonds into publicly traded common stock and Collins' affiliated companies . . . benefitted from more favorable allocations than investments Collins made for XION."[25] David represented to Trusa "that he would provide hard evidence of the wrongful conduct he described, "[26] but has failed to do so.

         C. Procedural History

         On April 28, 2015, Trusa filed a complaint in the Delaware Superior Court. XION failed to answer the complaint. On June 3, 2015, the Superior Court entered a default judgment against XION in the amount of $363, 504.74, plus post-judgment interest and costs and fees.[27] On June 26, 2015, Trusa served XION with discovery requests, and XION did not respond. The Superior Court granted Trusa's motion to compel responses to the discovery on September 11, 2015. XION is in contempt of that order.[28]

         Trusa filed this action on March 4, 2016. Thereafter, Nepo filed his initial motion to dismiss on May 23, 2016. Trusa amended the Complaint on July 21, 2016. Nepo filed his motion to dismiss the amended complaint (the "Motion to Dismiss") on August 4, 2016. Following briefing by the parties, this Court held oral argument on the Motion to Dismiss on January 11, 2017.

         D. Parties' Contentions

         Trusa asserts eight counts against the Managing Members. Count I seeks a declaration from the Court that: (1) the Managing Members breached their fiduciary duties to XION; (2) Trusa has standing to pursue breach of fiduciary duty claims against the Managing Members; (3) XION is insolvent; (4) it is not reasonably practicable for XION to carry on the purpose of its existence; (5) XION should be dissolved; and (6) a trustee or receiver should be appointed. Count II alleges that Collins, Nepo, and Mir breached their fiduciary duties. Count III alleges a breach of fiduciary duty against Collins for failing to put XION's best interests above his own. Count IV seeks dissolution of XION because it is insolvent, has been abandoned by the managing members, and cannot carry on the purpose of its existence.

         Count V asserts fraud against the Managing Members for knowingly making false representations and intentionally concealing Collins's conflicts of interest in order to induce Trusa to loan money to XION. Count VI asserts a claim for fraudulent transfer against the Managing Members. Count VII alleges that the Managing Members conspired to commit fraud in their representations to Trusa to attain his loan. Count VIII alleges aiding and abetting against the Managing Members for assisting in the perpetration of the fraud.

         In his Motion to Dismiss, Nepo contends that the entire Complaint should be dismissed. First, Nepo argues that Trusa, as a creditor, lacks standing to assert breach of fiduciary duty claims or seek dissolution of the company. Second, Nepo maintains that the declaratory judgment claim is duplicative of the other claims and should be dismissed. Third, Nepo argues that the Complaint fails to state a claim for fraud, fraudulent transfer, conspiracy to commit fraud, and aiding and abetting fraud. I discuss each in turn below.

         II. ANALYSIS

         Under Court of Chancery Rule 12(b)(6), the Court will dismiss the Complaint if the "plaintiff could not recover under any reasonably conceivable set of circumstances susceptible of proof."[29] The Court will accept all well-pled allegations of fact and draw all reasonable inferences in favor of the plaintiff; but, the Court need not accept factually unsupported, conclusory allegations.[30]

         A. Trusa Does Not Have Standing to Pursue Fiduciary Duty Claims

         Trusa asserts derivative breach of fiduciary duty claims against Collins, Nepo, and Mir on behalf of the Company.[31] Trusa argues he may pursue these claims as a creditor of the Company and through the power of attorney granted to him by the Agreement.[32] For the reasons set forth below, Trusa does not have standing to assert claims for breach of fiduciary duty on behalf of XION.

         1. Trusa does not have standing as a creditor to assert breach of fiduciary duty claims on behalf of XION

         The Delaware Limited Liability Company Act (the "Act") provides the right and outlines the requirements to bring a derivative action. Section 18-1001 entitled "Right to bring action" states:

A member or an assignee of a limited liability company interest may bring an action in the Court of Chancery in the right of a limited liability company to recover a judgment in its favor if managers or members with authority to do so have refused to bring the action or if an effort to cause those managers or members to bring the action is not likely to succeed.[33]

         Section 18-1002, entitled "Proper plaintiff" provides:

In a derivative action, the plaintiff must be a member or an assignee of a limited liability company interest at the time of bringing the action and
(1) At the time of the transaction of which the plaintiff complains; or
(2) The plaintiff's status as a member or an assignee of a limited liability company interest had devolved upon the plaintiff by operation of law or pursuant to the terms of a limited liability company agreement from a person who was a member or an assignee of a limited liability company interest at the time of the transaction."[34]

         Thus, the plain language of the Act provides that only members and assignees may assert derivative claims on behalf of the Company.

         In CML V, LLC v. Bax, this Court addressed the question of whether a creditor had standing to bring derivative breach of fiduciary duty claims on behalf of an insolvent limited liability company.[35] There, creditor CML V, LLC lent money to JetDirect Aviation Holdings, LLC ("JetDirect"). JetDirect subsequently defaulted on its loan obligations, became insolvent, and purportedly began selling its assets to interested managers.[36] CML V, LLC argued that the individual managers breached their duty of care by being inadequately informed about the financial condition of the company, acted in bad faith by failing to create an appropriate system of internal controls, and breached their duty of loyalty by benefiting from self-interested asset sales.[37] The Court of Chancery dismissed the derivative claims for lack of standing and held that "under the plain language of Section 18-1002, standing to bring a derivative action is limited to a 'member or an assignee.'"[38] The statute "denies derivative standing to creditors of an insolvent LLC."[39] The Delaware Supreme Court, in its affirmance of that opinion, also construed the Act's language to be unambiguous and "susceptible of only one reasonable interpretation."[40] "Only LLC members or assignees of LLC interests have derivative standing to sue on behalf of an LLC-creditors do not."[41] Thus, as a creditor, Trusa lacks standing to bring the derivative claims he is attempting to assert.[42]

         2. The power of attorney clause of the Agreement does not grant Trusa a contractual right to assert breach of fiduciary duty claims on behalf of XION

         The Agreement allows Trusa "to take any action and to execute any instrument which the Lender may deem reasonably necessary or advisable in pursuing its remedies set forth herein."[43] Trusa's argues that this includes the ability to assert derivative claims, but that argument ignores the fact that the power of attorney is expressly limited to pursuing remedies provided in the Agreement. Such remedies include, for example, in an event of default, (1) a suit in equity for "specific performance of any covenant or condition contained in any loan document, " (2) the cessation of disbursement of advances under the Note, and (3) a declaration that the unpaid balance of the Loan together with all accrued interest is due and payable.[44]The Agreement additionally provides Trusa with the ability to exercise "all the rights of a secured party under the Code"[45] and sell "all of the Collateral or any part thereof at private sale and at such price or prices as Lender may reasonably deem satisfactory."[46]

         Section 7.2(g) of the Agreement, the power of attorney provision, lists as an example remedy, to "receive, endorse and collect all instruments made payable to the Borrower representing any interest payment, dividend or other distribution in respect of the Collateral or any part thereof."[47] Trusa points to the immediately preceding "including, without limitation" clause in Section 7.2(g) and argues these remedies are not exclusive. Contrary to Trusa's argument, I do not read this clause to grant a broad power of attorney that would allow Trusa to pursue derivative breach of fiduciary duty claims on behalf of XION.[48] And, Trusa does not point to anything in the Agreement that even suggests that the parties intended to provide Trusa with the ability to assert fiduciary duty claims on behalf of the Company. Therefore, Trusa does not have standing to bring the fiduciary duty claims.

         B. Trusa May Not Obtain Dissolution

         Trusa seeks dissolution under Sections 18-801 through 18-806 of the Act or, alternatively, equitable dissolution. For the reasons discussed below, Trusa is not entitled to dissolution of XION.

         1. Trusa does not have standing to pursue a statutory dissolution claim

         A statute that is "clear and unambiguous on its face, need not and cannot be interpreted by a court . . . .'"[49] "If the statute as a whole is unambiguous, there is no reasonable doubt as to the meaning of the words used and the Court's role is then limited to an application of the literal meaning of the words."[50] Section 18-802 of the Act states, "[o]n application by or for a member or manager the Court of Chancery may decree dissolution of a limited liability company whenever it is not reasonably practicable to carry on the business in conformity with the limited liability agreement."[51] Because Trusa is neither a member nor a manager, he may not seek dissolution through Section 18-802.

         Trusa argues that under Section 18-805, Trusa may, in his capacity as a creditor, seek the appointment of a receiver for XION because the Company was canceled as a matter of law under Section 18-203(a). Section 18-805 states:

When the certificate of formation of any limited liability company formed under this chapter shall be canceled by the filing of a certificate of cancellation pursuant to § 18-203 of this title, the Court of Chancery, on application of any creditor, member or manager of the limited liability company, or any other person who shows good cause therefor, at any time, may . . . appoint 1 or more persons to be receivers, of and for the limited liability company.[52]

         Section 18-203(a) provides, in relevant part:

A certificate of formation shall be canceled upon the dissolution and the completion of winding up of a limited liability company, or as provided in § 18-104(d) or (i)(4) or § 18-1108 of this title, or upon the filing of a certificate of merger or consolidation or a certificate of ownership and merger if the limited liability company is not the surviving or resulting entity in a merger or consolidation or upon the future effective date or time of a certificate of merger or consolidation or a certificate of ownership and merger if the limited liability company is not the surviving or resulting entity in a merger or consolidation, or upon the filing of a certificate of transfer or upon the future effective date or time of a certificate of transfer, or upon the filing of a certificate of conversion to non-Delaware entity or upon the future effective date or time of a certificate of conversion to non-Delaware entity. A certificate of cancellation shall be filed in the office of the Secretary of State to accomplish the cancellation of a certificate of formation upon the dissolution and the completion of winding up of a limited liability company. . . .[53]

Section 18-104(d) in turn states that after the limited liability company receives the notice of resignation of its registered agent, the company shall obtain a new registered agent.[54] If the company "fails to obtain and designate a new registered agent as aforesaid prior to the expiration of the period of 30 days after the filing by the registered agent of the certificate of resignation, the certificate of formation of such limited liability company shall be canceled."[55]

         Trusa would have me read any cancellation method under Section 18-203(a) as triggering the rights granted to creditors in Section 18-805, but the statute's plain language does not allow for this interpretation. Instead, the filing of a certificate of cancellation and the automatic cancellation of a certificate of formation are treated differently in this context. The statute lists seven ways in which a certificate of formation may be canceled.[56] But, a certificate of cancellation may only be filed "upon the dissolution and winding up of the company, " not for any of the other reasons listed in Section 18-203(a).[57] And, a certificate of cancellation is a statutory prerequisite to the applicability of Section 18-805.[58] Thus, a creditor may only seek the appointment of a trustee or receiver when a certificate of cancellation is filed after the dissolution and winding up of the company, not where the certificate of formation has been canceled by operation of law for want of a registered agent.[59] Trusa has not alleged ...


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