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Greenstar IH Rep, LLC v. Tutor Perini Corporation

Court of Chancery of Delaware

October 31, 2017

GREENSTAR IH REP, LLC and GARY SEGAL, Plaintiffs,
v.
TUTOR PERINI CORPORATION, Defendant. TUTOR PERINI CORPORATION, Counterclaimant,
v.
GARY SEGAL, Counterclaim-Defendant.

          Date Submitted: July 31, 2017

          Kenneth J. Nachbar, Esquire and Lauren Neal Bennett, Esquire of Morris, Nichols, Arsht & Tunnell LLP, Wilmington, Delaware, and Ira Lee Sorkin, Esquire and Amit Sondhi, Esquire of Mintz & Gold LLP, New York, New York, Attorneys for Plaintiff/Counterclaim-Defendant Gary Segal.

          Brian C. Ralston, Esquire, Aaron R. Sims, Esquire, and Kwesi Atta-Krah, Esquire of Potter Anderson & Corroon LLP, Wilmington, Delaware, and Nomi L. Castle, Esquire and Matthew J. Luce, Esquire of Castle & Associates, PLC, Beverly Hills, California, Attorneys for Defendant/Counterclaimant Tutor Perini Corporation.

          MEMORANDUM OPINION

          SLIGHTS, VICE CHANCELLOR

         This action arises out of the sale of GreenStar Services Corporation ("Greenstar") to Tutor Perini Corporation ("Tutor Perini") in 2011 (the "Acquisition"). The merger and acquisition agreement that memorialized the Acquisition, dated July 1, 2011 (the "Merger Agreement""), provided Plaintiff, Greenstar IH Rep, LLC ("IH Rep"), in its capacity as interest holder representative, a right to receive post-closing earn-out consideration from Tutor Perini in the event certain pre-tax profit milestones were achieved. Tutor Perini made Earn-Out Payments in the First and Second Earn-Out Years but declined IH Rep's demand for Earn-Out Payments in the Third, Fourth and Fifth Earn-Out Years.[1] According to Tutor Perini, Gary Segal, Greenstar's former CEO and an Interest Holder under the Merger Agreement, submitted knowingly false information to Tutor Perini that caused Tutor Perini to calculate its Pre-Tax Profit incorrectly. This, in turn, resulted in inflated Earn-Out Payments to IH Rep.

         IH Rep has brought an eight-count complaint against Tutor Perini in which it seeks damages and declaratory judgments relating inter alia to Tutor Perini's failure to make Earn-Out Payments as required by the Merger Agreement. Segal joined in the complaint to seek declaratory relief with respect to the arbitrability of certain controversies between the parties that have arisen following the sale of Greenstar. The Court resolved the arbitrability issues by Memorandum Opinion dated February 23, 2017.[2] Thus, all that remains of the complaint are IH Rep's claims of breach under the Merger Agreement.

         Tutor Perini's answer raises thirteen affirmative defenses[3] and two counterclaims. Count I of the counterclaims alleges fraud against Segal; Count II asserts a right to offset any harm caused by Segal's fraud against any earn-out payments the Court may declare Tutor Perini owes to IH Rep.

         IH Rep has moved for judgment on the pleadings as to Counts I, II and III of its complaint in which it asserts breach of contract claims against Tutor Perini relating to the Earn-Out Payments for the Third, Fourth and Fifth Earn-Out Years (the "Earn-Out Claims"). Segal has moved to dismiss both counts of the counterclaims.

         After carefully reviewing the Merger Agreement, and viewing the facts alleged in the light most favorable to Tutor Perini, I have determined that IH Rep is entitled to the Earn-Out Payments it seeks as a matter of law based on the clear and unambiguous terms of the Merger Agreement. I have also determined that Tutor Perini is not entitled to offset these payments to IH Rep based on any alleged wrongdoing by Segal. Finally, I am satisfied that Tutor Perini has failed to plead fraud against Segal with the particularity required by our law. Accordingly, the motion for judgment on the pleadings and the motion to dismiss must be granted in their entirety.

         I. BACKGROUND

         I have drawn the facts from the well-pled allegations in the pleadings as well as all documents incorporated by reference.[4] As I must for both the motion for judgment on the pleadings and the motion to dismiss, I accept as true the denials and the well-pled facts in Tutor Perini's answer and counterclaims, respectively, and draw all reasonable inferences therefrom.[5]

         A. The Parties

         Plaintiff, IH Rep, is a Delaware limited liability company representing certain interest holders (the "Interest Holders") under the Merger Agreement.[6] "The Interest Holders have assigned their right to bring this action to IH Rep."[7]

         Plaintiff and Counterclaim-Defendant, Gary Segal, is a resident of New York and one of the Interest Holders represented by IH Rep.[8] At the time of the Acquisition, Segal was the Chairman and CEO of Greenstar.[9] He was also the President and CEO of Five Star Electric Corporation ("Five Star"), [10] one of three affiliated companies comprising Greenstar.[11] Upon consummation of the Acquisition, Five Star became a subsidiary of Tutor Perini.[12] Segal remained Five Star's President and CEO following the Acquisition until Tutor Perini suspended his employment in January 2016.[13]

         Defendant, Tutor Perini, is a Massachusetts corporation with its principal place of business in Sylmar, California. It "is a leading international civil and building construction company."[14]

         B. The Relevant Provisions of the Merger Agreement

         Under the Merger Agreement, Tutor Perini committed to pay as consideration not only cash at closing but also additional amounts to be distributed to the Interest Holders over a five-year period following the closing (the "Earn-Out Payments").[15] Section 2.14 of the Merger Agreement defines the Earn-Out Payments as:

an amount equal to 25% of Pre-Tax Profit that exceeds Seventeen Million Five Hundred Thousand Dollars ($17, 500, 000.00) (the "Yearly Earn-Out Payment"); provided that any Yearly Earn-Out Payment shall not exceed Eight Million Dollars ($8, 000, 000.00) in the aggregate (the "Yearly Earn-Out Cap"). If it is finally determined that a Yearly Shortfall has occurred, Parent shall pay to the Interest Holders (simultaneously with the payment of the Yearly Earn-Out Payment, if any) the Yearly Excess (if any) from any or all previous Earn-Out Years (to the extent not already paid to the Interest Holders) in an amount equal to such Yearly Shortfall. If it is finally determined that a Yearly Excess has occurred, Parent shall pay to the Interest Holders (simultaneously with the payment of the Yearly Earn-Out Payment, if any) such Yearly Excess in an amount equal to the aggregate Yearly Shortfall from any previous Earn-Out Year (to the extent not already paid to the Interest Holders). [16]

         As stated in the definition, the calculation of the Earn-Out Payments depends on Tutor Perini's Pre-Tax Profit.[17] Pre-Tax Profit is defined under the Merger Agreement as:

the profit of the Company and its Subsidiaries . . . prior to reduction for income taxes of the Company and its Subsidiaries for such Earn-Out Term, calculated in accordance with past practices and based upon financial statements (prepared in accordance with GAAP consistently applies) of the Company.[18]

         Once Tutor Perini has calculated Pre-Tax Profit, it is required to disclose that amount to IH Rep in a Pre-Tax Profit Report along with supporting work papers.[19]The Merger Agreement then sets forth the process by which the parties are to determine any Earn-Out Payments due based on the Pre-Tax Profit Report:

Within ninety (90) days after each twelve-month period in the Earn-Out Term, [Tutor Perini] shall in good faith prepare (or cause to be prepared) and deliver to the Interest Holder Representative a report . . . The Pre-Tax Profit Report and the Pre-Tax Profit for the twelve-month period reflected thereon, shall be binding upon the Interest Holder Representative, Stockholders and Parent upon the approval of such Pre-Tax Profit Report by the Interest Holder Representative or the failure of the Interest Holder Representative to object in writing within thirty (30) days after receipt thereof by the Interest Holder Representative. If the Interest Holder Representative does not agree with the Pre-Tax Profit Report and the calculation of the Pre-Tax Profit stated thereon, and Parent and the Interest Holder Representative cannot mutually agree on the same, then within forty-five (45) days following receipt by the Interest Holder Representative of the Pre-Tax Profit Report, Parent and the Interest Holder Representative shall engage the Neutral Accountant to resolve such dispute.

         "In the event a Yearly Earn-Out Payment or Yearly Excess is due but not paid . . . the amount shall accrue interest at a rate of four percent (4%) per annum."[20]

         C. The Earn-Out Payments

         Tutor Perini prepared the Pre-Tax Profit Report disclosing $70, 440, 184 in Pre-Tax Profit for the First Earn-Out Year and $65, 570, 837 for the Second Earn-Out Year.[21] Based on those Pre-Tax Profits and the $8 million Yearly Earn-Out Cap, Tutor Perini made Earn-Out Payments of $8 million for the first two Earn-Out Years.[22] The remainder of the amounts that would otherwise be due but for the Yearly Earn-Out Cap (approximately $9.25 million) accumulated as Yearly Excess for both of the First and Second Earn-Out Years.

         In the Third and Fourth Earn-Out Years, Tutor Perini issued a Pre-Tax Profit Report but did not make Earn-Out Payments.[23] The reported Pre-Tax Profit was $31, 564, 617 for year three and $43, 946, 950 for year four.[24] This should have yielded Earn-Out Payments of $8 million in both years.[25] Tutor Perini did not issue a Pre-Tax Profit Report for the Fifth Earn-Out Year nor did it make Earn-Out Payments for that year.[26]

         IH Rep calculates that it is owed at least $19, 380, 646, plus interest, based on the amounts disclosed by Tutor Perini in its Pre-Tax Profit Reports but not paid as Earn-Out Payments.[27] It seeks this amount as damages for breach of contract.

         D. The Fraud Allegations

         As noted, Segal remained as President and CEO of Five Star following the Acquisition.[28] Tutor Perini alleges that Five Star's finances have a "significant impact" on the Pre-Tax Profit used to determine the Earn-Out Payments and that Segal was or should have been aware of this fact.[29] According to Tutor Perini, to his benefit and Tutor Perini's detriment, Segal exploited his position with Five Star "to cause Five Star to provide inaccurate information for purposes of calculating the Yearly Earn-Out Payments."[30] This alleged inaccurate information included erroneous assumptions regarding the outcome of disputes related to projects in which Five Star was involved with Hudson Yards C-Core & Shell, Baccarat Hotel, and Carnegie 57.[31] Tutor Perini alleges that it relied on the information provided by Segal with respect to these projects when calculating the Pre-Tax Profits it disclosed in the Pre-Tax Profit Reports. This, in turn, caused inflated calculations of earn-out amounts IH Rep has already received and is attempting to extract from Tutor Perini in this action.[32]

         E. Procedural Posture

         On March 29, 2017, IH Rep filed this motion for judgment on the pleadings on Counts I, II and III of the Complaint and Segal filed a motion to dismiss the counterclaims. The motion for judgment on the pleadings turns on whether Section 2.14 of the Merger Agreement imposes a condition that the amounts calculated as Pre-Tax Profits and disclosed to IH Rep in the Pre-Tax Profit Reports will be based on accurate financials before they will be binding upon Tutor Perini when calculating Earn-Out Payments. If the answer to this query is yes, then IH Rep is not entitled to judgment on the pleadings because, at the very least, there is a factual dispute regarding the accuracy of the information Tutor Perini relied upon in preparing its Pre-Tax Profit Reports. If the answer is no, meaning the parties did not bargain for an accuracy condition, then IH Rep is entitled to judgment on the pleadings since there is no dispute that Tutor Perini has failed to make the Earn-Out Payments called for based on its Pre-Tax Profit Reports for the Third and Fourth Earn-Out Years, and has failed to prepare a Pre-Tax Profit Report as required for the Fifth Earn-Out Year.

         Segal's motion to dismiss Tutor Perini's offset counterclaim presents the question of whether Tutor Perini may deny Earn-Out Payments otherwise due the Interest Holders to account for Segal's alleged wrongdoing.[33] While Tutor Perini brings this claim as a counterclaim against Segal, it also raises offset as an affirmative defense to IH Rep's claim of breach relating to the Earn-Out Payments.[34]As for Segal's motion to dismiss the fraud claim, the question quite simply is whether Tutor Perini's allegations of fraud meet the particularity requirements embodied in Court of Chancery Rule 9(b) as interpreted by our courts. I address each motion in turn below.

         II. LEGAL ANALYSIS

         When a plaintiff brings a motion for judgment on the pleadings under Court of Chancery Rule 12(c), the court generally must accept the non-moving party's denials as fact and must view the facts and reasonable inferences from those facts in the light most favorable to the non-moving party.[35] The court is not, "however, required to accept as true conclusory assertions unsupported by specific factual allegations, " particularly when those assertions do no comport with the terms of a clear and unambiguous contract.[36] Indeed, "[j]udgment on the pleadings is a proper framework for enforcing unambiguous contracts because there is no need to resolve material disputes of fact."[37]

         Similarly, in considering a motion to dismiss a counterclaim under Court of Chancery Rule 12(b)(6), the court must accept as true the well-pled allegations in the counterclaim and "afford the party opposing the motion the benefit of all reasonable inferences."[38] As with motions under Rule 12(c), however, the court "need not accept inferences or factual conclusions unsupported by specific allegations of fact."[39]

         A. The Earn-Out Payments Under Section 2.14

         At the heart of IH Rep's motion for judgment on the pleadings lies Section 2.14 of the Merger Agreement, the detailed provision in which the parties set forth IH Rep's right to Earn-Out Payments and the process by which such payments will be calculated and made. Section 2.14(a) requires Tutor Perini to pay IH Rep an annual amount, defined as the Yearly Earn-Out Payment, of "25% of Pre-Tax Profit that exceeds [] $17, 500, 000.00[]." The Yearly Earn-Out Payment is not to exceed $8 million annually in the aggregate (the Earn-Out Cap).[40] Section 2.14(a) further requires that, in any year where the Yearly Earn-Out Payment due to IH Rep is less than $8 million, Tutor Perini must pay IH Rep both the Yearly Earn-Out Payment due and any amount of Earn-Out Payments due in previous years that were in excess of the Earn-Out Cap (defined as Yearly Excess) up to the Earn-Out Cap for that year. Specifically, in the event of a Yearly Excess in a particular Earn-Out Year, Tutor Perini "shall pay to the Interest Holders . . . such [excess] in an amount equal to the aggregate [shortfalls] from any previous Earn-Out Year (to the extent not already paid to the Interest Holders)."[41]

         Under Section 2.14(b), Tutor Perini must prepare, in good faith, and deliver to IH Rep a Pre-Tax Profit Report (with supporting documents) within ninety days of each twelve-month period in which it discloses the Pre-Tax Profit. "The Pre-Tax Profit Report and the Pre-Tax Profit . . . shall be binding upon [IH Rep], Stockholders and [Tutor Perini] upon the approval of such Pre-Tax Profit Report by [IH Rep] or the failure of [IH Rep] to object in writing within thirty (30) days after receipt [of the Report]."[42] In the event IH Rep lodges an objection, the parties are to engage a neutral accountant to resolve any resulting disputes.[43]

         Based on Section 2.14's clear and unambiguous terms, IH Rep argues that the amounts disclosed by Tutor Perini as Pre-Tax Profit become binding on all parties if IH Rep approves the Pre-Tax Profit Report or fails to object to the report within thirty days. Since Tutor Perini is not contesting that it calculated and disclosed the Pre-Tax Profit in its Pre-Tax Profit Reports for Earn-Out Years One through Four, [44]and IH Rep did not object to those reports, [45] IH Rep argues that the reports are binding on the parties and provide the bases upon which the Earn-Out Payments in dispute must be calculated. As for the Fifth Earn-Out Year, IH Rep asserts that the Merger Agreement clearly requires Tutor Perini to prepare a Pre-Tax Profit Report for that year and that it is entitled to payments in at least the amount of the prior years' Yearly Excess.[46] Once it is determined that Tutor Perini owes the disputed Earn-Out Payments, IH Rep asserts that Tutor Perini cannot then avoid its payment obligations by seeking an offset for fraud allegedly committed by Segal, a nonparty to the Merger Agreement.

         Tutor Perini, on the other hand, argues that, while the amounts it disclosed in the Pre-Tax Profit Reports presented its calculations at the time the disclosures were made, the calculations were based on inaccurate information provided by Segal, as Five Star's CEO, and, therefore, cannot bind Tutor Perini.[47] This result, Tutor Perini contends, is supported by the plain language of the Merger Agreement which states that the Earn-Out amounts are to be based on the Pre-Tax Profits rather than the Pre-Tax Profit Reports. Those Pre-Tax Profits, according to the Merger Agreement's Definitions Section, are to be based on financials prepared in compliance with GAAP and thus free of material inaccuracies. According to Tutor Perini, the PreTax Profit Reports are merely the means by which it is to inform IH Rep of the PreTax Profits so that IH Rep may determine whether to challenge the amounts disclosed. Since the profits disclosed in Tutor Perini's Pre-Tax Profit Reports did not reflect Tutor Perini's actual Pre-Tax Profits, those amounts could not be the basis for the Earn-Out Payments contemplated by the Merger Agreement.[48]

         Tutor Perini further asserts that, if the Court determines the Merger Agreement does not address the required accuracy of the Pre-Tax Profit calculations with respect to Earn-Out Payments, then the Court should find a gap in the agreement and imply the missing term under the implied covenant of good faith and fair dealing. Tutor Perini supports this argument by again pointing to the definition of Pre-Tax Profit, which, as stated, requires the financials on which the calculations are based to be GAAP compliant.[49] This, Tutor Perini argues, reveals the parties' intent that the information upon which Earn-Out Payments are calculated will be accurate. Finally, Tutor Perini asserts that judgment on the pleadings is inappropriate when its thirteen affirmative defenses and two counterclaims have not yet been adjudicated.

         When interpreting a contract, I am bound by the language within the contract unless that language is ambiguous.[50] Stated differently, "the role of a court [in contract construction] is to effectuate the parties' intent. In doing so, [the court is] constrained by a combination of the parties' words and the plain meaning of those words . . . ."[51]

         The Merger Agreement, at Section 2.14(a), spells out unambiguously how the Earn-Out Payments for each of the five Earn-Out Years are to be calculated.[52] This calculation is expressly dependent upon Tutor Perini's calculation of Pre-Tax Profit as disclosed in its Pre-Tax Profit Reports.[53] At Section 2.14(b), the parties evidenced their intent to streamline the Earn-Out Payments by agreeing to a process by which they would settle earn-out related disputes in an expedited and extra-judicial manner.[54] If the parties do not invoke this process, then "[t]he Pre-Tax Profit Report and the Pre-Tax Profit for the twelve-month period reflected [on the report], shall be binding upon the Interest Holder Representative, Stockholders and Parent."[55]Thus, reading Section 2.14(a) and Section 2.14(b) together, the terms unambiguously provide that the Pre-Tax Profits Tutor Perini disclosed in its Pre-Tax Profit Reports, having not been disputed, are binding upon both IH Rep and Tutor Perini and the required Earn-Out Payments must be calculated and paid from these amounts. To accept Tutor Perini's construction of Section 2.14 would be to render the language "shall be binding" superfluous-a result, under our law, that must be "avoided."[56]

         Tutor Perini's argument that it does not owe Earn-Out Payments whenever it can demonstrate that it calculated Pre-Tax Profits for an Earn-Out Year based on financial statements that were not GAAP compliant fails at the threshold.[57] Nothing in the Definitions Section reasonably can be read to negate or qualify Section 2.14's mandate that if IH Rep does not object within thirty days of receiving a Pre-Tax Profit Report, the report and the Pre-Tax Profit stated therein are binding on all parties. Instead, the Definitions Section simply defines how Tutor Perini must calculate Pre-Tax Profit-it must do so "in accordance with past practices and based upon financial statements (prepared in accordance with GAAP consistently applied) of the Company."[58] Section 2.14 makes no reference to this Definition, nor do the express terms of the provision even hint that the parties intended to relieve Tutor Perini of its earn-out obligations in the event Tutor Perini is later able to demonstrate that it failed properly to calculate Pre-Tax Profit by relying on inaccurate financial statements that it prepared.[59] What Section 2.14 does make clear is that once Tutor Perini prepares the Pre-Tax Profit Report, and provides it to IH Rep, if IH Rep does not timely object, the report and the Pre-Tax Profit disclosed therein are "binding."[60]

         B. The Implied Covenant of Good Faith and Fair Dealing

         Faced with Section 2.14's unambiguous language, Tutor Perini argues that there is a gap in the Merger Agreement with respect to the accuracy of the Pre-Tax Profits as related to Earn-Out Payments. Accordingly, it urges the Court to imply a term that would require Tutor Perini to make Earn-Out Payments based only on accurate Pre-Tax Profit calculations.[61] This, Tutor Perini argues, would surely have been the agreement of the parties had they considered the issue of accurate Pre-Tax Profit numbers, and any contrary interpretation would be "unreasonable and absurd."[62]

         To be sure, "the implied covenant of good faith and fair dealing attaches to every contract by operation of law and requires a party in a contractual relationship to refrain from arbitrary or unreasonable conduct which has the effect of preventing the other party to the contract from receiving the fruits of the bargain."[63] The covenant exists, however, solely to fulfill the reasonable expectations of the parties; it cannot be employed to circumvent the parties' bargain.[64] Therefore, in order for the implied covenant to apply, the contract's language must not address the obligation asserted and the obligation to be implied must not contradict "the purposes reflected in the express language of the contract."[65] Our courts are reluctant to imply terms based on the covenant of good faith and fair dealing "when a contract easily could have been drafted to expressly provide for [the missing terms]."[66]

         There are no gaps to fill here. Section 2.14 clearly reflects the parties' intent to impose a definitive timeline within which the accuracy of the Pre-Tax Profit, as presented in the Pre-Tax Profit Report, could be challenged.[67] Such challenges are to be brought before a neutral accountant for summary resolution.[68] Had the parties intended to allow Tutor Perini to withhold Earn-Out Payments whenever it believed it had calculated Pre-Tax Profits based on inaccurate information, they easily could (and surely would) have provided such language as part of the bespoke process they agreed to in Section 2.14.[69] They did not. Therefore, I will not imply a term that is inconsistent with the intent of the parties as evidenced by the express terms of the agreement.[70]

         C. Tutor Perini's Affirmative Defenses and ...


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