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B.E. Capital Management Fund LP v. Fund.Com Inc.

Court of Chancery of Delaware

October 4, 2017

B.E. CAPITAL MANAGEMENT FUND LP, Petitioner,
v.
FUND.COM INC., Respondent.

          Date Submitted: August 9, 2017

          Julia B. Klein, KLEIN LLC, Wilmington, Delaware; Jeffrey Chubak, STORCH AMINI PC, New York, New York; Attorneys for Receiver.

          Philip Gentile; Claimant Pro Se.

          OPINION

          LASTER, V.C.

          On October 21, 2016, petitioner B.E. Capital Management Fund LP sought the appointment of a receiver for respondent Fund.com Inc. (the "Company") on the grounds that the Company had abandoned its business. The Company did not respond to the petition. Nor did anyone else. By order dated November 29, 2016, the court entered a default judgment and appointed Thomas Braziel as receiver of the Company (the "Receiver").

         The Receiver commenced a process for marshalling the Company's assets, determining its liabilities, and winding up its affairs. The court set a bar date of April 14, 2017, for creditors to file claims. Nonparty Philip Gentile submitted a claim for $497, 739. Gentile had served as the Company's CEO from March 1, 2008, until June 18, 2010. He contended that he was entitled to recover the amount sought as a result of various breaches of his employment agreement with the Company (the "Employment Agreement"). Among other breaches, he contended that the Company "stopped making payments in February 2009."[1]

         The Receiver rejected Gentile's claim as time-barred. The Receiver reasoned as follows:

Pursuant to Section 13.1 of the Employment Agreement, the agreement is governed by New York law. The statute of limitations for a breach of contract claim under N.Y. C.P.L.R. § 213 is six years. Mr. Gentile acknowledges in his claim that the Company stopped paying him in February 2009 and did not take legal action against the Company to enforce contractual rights under his Employment Agreement within sex years following accrual of his claim.[2]

         Gentile noticed a timely appeal from the Receiver's determination. The Receiver responded by moving to confirm his determination. This decision denies Gentile's appeal and adopts the Receiver's determination as a decision of this court.

         Section 296(b) of the Delaware General Corporation Law states:

Every creditor or claimant who shall have received notice from the receiver or trustee that such creditor's or claimant's claim has been disallowed in whole or in part may appeal to the Court of Chancery within 30 days thereafter. The Court, after hearing, shall determine the rights of the parties.[3]

         The Court of Chancery Rules contain a series of provisions that govern receivers. Rule 156 provides that "[e]xceptions to claims shall . . . be heard by the Court upon such notice to the receiver, creditor and exceptant as may be ordered by the Court."[4] Rule 157 states that "[a]t the hearing of exceptions to claims and to accounts, the testimony of witnesses shall be taken in the same manner as is provided for in other causes pending in this Court."[5]

         Section 296 "does not purport to establish the standard by which the court shall allow or disallow a particular claim . . . ."[6] The rules do not specify a standard either. Nor is there any authoritative precedent from the Delaware Supreme Court.

         While practicing as an attorney before joining the bench, Vice Chancellor and later Justice Jack B. Jacobs authored two articles on Delaware receiverships that remain authoritative.[7] In one, he simply noted that "[a] creditor is given the statutory right of appeal to the court of chancery from any adverse determination by the receiver."[8] In the other, he observed that "[t]he statute and rules do not specify whether an appeal to the court of chancery is de novo or on the record."[9] He went on to state:

In practice most of the hearings on appeal are on the record. However, the reference in section 296 to a "hearing" and the provision in rule 157 that at the hearing of the exceptions to claims "the testimony of witnesses shall be taken in the same manner as is provided for in other causes pending in this Court" suggest that de novo hearings are permissible.[10]

         Justice Jacobs' articles did not otherwise discuss the standard of review. Moreover, answering the question of whether review is de novo or on the record does not fully determine the standard of review. Although "[d]e novo review generally means a new trial or hearing on questions of fact, " it is equally possible "to conduct a review de novo on the record."[11] This is what the Delaware Supreme Court does when it reviews appeals from decisions that have granted motions for summary judgment or judgment on the pleadings or that dismiss a pleading for failure to state a claim.[12] And to the extent a reviewing court conducts a review "on the record" using a deferential standard, the court may deploy standards involving varying degrees of deference.[13]

         The few extant Delaware authorities suggest that the correct standard is de novo review with the court having the ability to consider additional evidence. In Lasker v. McDonnell & Co., Inc., then-Chancellor, later-Justice William T. Quillen considered an appeal from a receiver's preliminary determination rejecting a creditor's claim.[14] The parties agreed to forego a further hearing before the receiver, so the court conducted "a judicial hearing . . . as if on appeal from the Receiver's decision."[15] The court reviewed the creditor's arguments, contention by contention, and analyzed the relevant facts and law, effectively conducting de novo review.[16] A more oblique authority is Hannigan v. Italo Petroleum Corp. of America.[17] There, after a corporation emerged from receivership, the assignee of a corporate debt filed suit, even though the receiver for the corporation had disallowed the claim. The question presented was whether the doctrine of res judicata barred the creditor from pursuing its claim after the company emerged from receivership.[18]Consistent with Justice Jacobs' observation that the court reviewing the receiver's determination would have discretion to consider additional evidence, the Delaware Superior Court observed that a claimant in a receivership could seek to present evidence beyond "a mere notice of his claim" and could seek to have "his rights in the fund in controversy adjudicated by bringing the matter directly before the court in some appropriate manner."[19]

         These decisions indicate that when a court considers an appeal from a receiver's disallowance of a claim pursuant to Rule 296(b), the standard of review is de novo, and the court has discretion as to whether to go beyond the record presented to the receiver by conducting an evidentiary hearing. This interpretation finds support in the common law procedures that predated Section 296. At common law, a creditor who wished to dispute a receiver's determination had to move to intervene in the receivership action.[20] If the court permitted intervention, then the creditor litigated the claim before the court as if it were an ordinary civil proceeding.[21] Effectively, under the common law system, the court conducted a de novo review on a potentially different record. Section 296 and the related Court of Chancery Rules streamlined the exceptions process by replacing the formality of intervention with a more straightforward procedure.[22] There is no indication, however, that the simplified procedure altered the standard of review that prevailed at common law.

         Finally, de novo review of a receiver's ruling on a claim comports with the standard of review that the Delaware Supreme Court has directed trial courts to use when reviewing a master's report. "The standard of review for a master's findings-both factual and legal-is de novo."[23] "When a receiver by order of court hears testimony and proof and rejects or allows a claim his action is closely analogous to that of a master."[24] It follows that the same standard of review would apply when a trial court review the determinations of a receiver.[25]

         This decision therefore concludes that a de novo standard of review applies when this court considers an appeal from a receiver's determination of a creditor's claim. It bears noting that allowing or disallowing claims is only one of many tasks that a receiver or custodian may perform.[26] This decision has no cause to determine whether the de novo standard of review would apply in other contexts. To the contrary, in a situation where a receiver or custodian has exercised judgment regarding the business and affairs of a corporation, such as when selling assets or settling a claim, a more deferential standard of review would seem warranted.[27] Indeed, where the receiver or custodian has exercised the powers that otherwise would rest with the board of directors, a strong argument could be made that the standard of review should be at least as deferential as the standard that would apply to the board's decision in the same context. To that end, decisions appointing receivers or custodians frequently establish a standard of review that will govern particular types of actions.[28] This decision has not addressed any context other than an appeal from a receiver's decision disallowing a claim. A ruling on the standard of review that would apply in a different context must await a concrete case where that issue is presented.

         Having determined that de novo review of the Receiver's decision is warranted, the next step is to address the substance of the claim. In my view, the Receiver reached the right conclusion for the wrong reasons.

         In rejecting Gentile's claim, the Receiver relied on the statute of limitations for contract claims under New York law. As a court of equity, the Court of Chancery is not bound by statutes of limitation.[29] Instead, it applies the doctrine of laches. That said, "[i]n determining whether an action is barred by laches, the Court of Chancery will normally, but not invariably, apply the period of limitations by analogy as a measure of the period of time in which it is reasonable to file suit."[30] Consequently, "[a] filing after the expiration of the analogous limitations period is presumptively an unreasonable delay for purposes of laches."[31] "[I]f unusual conditions or extraordinary circumstances make it inequitable to allow the prosecution of a suit after a briefer, or to forbid its maintenance after a longer period than that fixed by the statute" then the court may "determine the extraordinary case in accordance with the equities which condition it."[32]

         To determine the applicable statute of limitations for a breach of contract claim, a Delaware court looks first to the terms of the contract.[33] The Receiver applied New York's statute of limitations because the contract selected New York law. That was logical, but incorrect. "[C]hoice-of-law provisions in contracts do not apply to statutes of limitations, unless a provision expressly includes it. If no provision expressly includes it, then the law of the forum applies because the statute of limitations is a procedural matter."[34] The choice-of-law provision in the Employment Agreement states: "This Agreement shall be governed and construed in accordance with the laws of the State of New York, without reference to principles of conflict of laws thereunder."[35] Because it does not expressly apply New York's statute of limitations, the contract provision is not dispositive.

         Absent a specific contractual statute of limitations provision, a Delaware court follows a multistep process to identify the applicable statute of limitations. Relevant factors include the nature of the claim and where it arose. The analysis begins with Delaware's Borrowing Statute.[36] In substance, it states that if claim arose in a jurisdiction that has a shorter statute of limitations than Delaware, then the court should use the shorter period. The Borrowing Statute does not apply here, ...


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