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Terramar Retail Centers, LLC v. Marion #2-Seaport Trust U/A/D June 21

Court of Chancery of Delaware

May 22, 2019

TERRAMAR RETAIL CENTERS, LLC, Plaintiff,
v.
MARION #2-SEAPORT TRUST U/A/D JUNE 21, 2002 Defendant.

          Date Submitted: March 26, 2019

          Kenneth J. Nachbar, Lauren Neal Bennett, Coleen W. Hill, MORRIS, NICHOLS, ARSHT & TUNNELL LLP, Wilmington, Delaware; Edward C. Walton, PROCOPIO, CORY, HARGREAVES & SAVITCH LLP, San Diego, California; Attorneys for Plaintiff Terramar Retail Centers, LLC.

          Thad J. Bracegirdle, Andrea S. Brooks, WILKS, LUKOFF & BRACEGIRDLE, LLC; Ben D. Whitwell, Melissa C. McLaughlin, VENABLE LLP, Los Angeles, CA; Attorneys for Defendant Marion #2-Seaport Trust U/A/D June 21, 2002.

          MEMORANDUM OPINION

          LASTER, V.C.

         This case concerns the dissolution of Seaport Village Operating Company, LLC (the "Company"), a privately held, manager-managed Delaware limited liability company. When the events giving rise to this litigation unfolded, the Company had three members: (i) Terramar Retail Centers, LLC, (ii) Marion #2-Seaport Trust U/A/D June 21, 2002 (the "Trust"), and (iii) San Diego Seaport Village, Ltd. ("Limited"). Terramar served as the Company's manager.

         The Company's LLC agreement gave Terramar the right to exit by offering its member interest to the other members. If the other members did not purchase Terramar's interest within six months, then Terramar could dissolve the Company. In a dissolution, Terramar could sell "all of the property and assets of the Company . . . on such terms and conditions as shall be determined by [Terramar] in its sole and absolute discretion."

         In December 2015, Terramar exercised its exit right. The other members failed to purchase Terramar's interest, and Terramar exercised its dissolution right.

         The other members disputed whether Terramar had validly exercised its exit right. Terramar responded by filing this action, in which it seeks a declaration that it may dissolve the Company and unilaterally sell its assets to a third party. Terramar also seeks a declaration that it has correctly determined the allocation of the sale proceeds.

         After filing this action, Terramar settled with Limited, purchased Limited's member interest, and dismissed Limited from the case. The litigation proceeded against the Trust. This post-trial decision rules in favor of Terramar on all claims.

         I. FACTUAL BACKGROUND

         The facts are drawn from the record that the parties crafted during a two-day trial. It consists of 350 exhibits, live testimony from four fact witnesses and two experts, and lodged testimony in the form of twelve deposition transcripts. The parties also agreed to thirty-seven stipulations of fact.[1]

         As the party seeking declaratory judgments, Terramar bore the burden of proving the facts necessary to support its claims by a preponderance of the evidence. See, e.g., San Antonio Fire & Police Pension Fund v. Amylin Pharms., Inc., 983 A.2d 304, 316 n.38 (Del. Ch. 2009). At the same time, the Trust asserted affirmative defenses and bore the burden of establishing any additional facts necessary to support them, again by a preponderance of the evidence. See, e.g., Empls.' Liab. Assurance Corp. v. Madric, 183 A.2d 182, 184 (Del. 1962). Although the competing burdens could complicate fact-finding in theory, the reality is simpler. When the preponderance standard applies, "the burden becomes relevant only when a judge is rooted on the fence post and thus in equipoise . . . ." In re S. Peru Copper Corp. S'holder Deriv. Litig., 52 A.3d 761, 792 (Del. Ch. 2011) (Strine, C.), aff'd sub nom. Ams. Mining Corp. v. Theriault, 51 A.3d 1213 (Del. 2012). In this case, the evidence was not in equipoise, and the preponderance-of-the-evidence standard would result in the same findings of fact regardless of which party bore the burden of proof.

         A. Seaport Village, Limited, and Cohen

         Seaport Village is a tourist attraction and specialty shopping center in San Diego, California. The Port of San Diego owns the ground where Seaport Village sits. In 1978, Limited leased the ground from the Port for a period of forty years (the "Seaport Lease"). After securing the Seaport Lease, Limited and its affiliates developed Seaport Village.

         To finance the development, Limited borrowed $40 million from Yasuda Trust & Banking Co. Ltd. In 1998, Limited defaulted on the Yasuda loan. For help with a refinancing, Limited turned to non-party Michael A. Cohen and his real estate advisory firm, M.A. Cohen & Company. At trial, Cohen carefully distinguished between himself personally and his firm. For purposes of the facts underlying this case, the distinction is not important. For simplicity, this decision refers simply to Cohen.

         With Cohen's assistance, an affiliate of Limited-San Diego Seaport Lending Co., LLC ("Lending")-bought the Yasuda loan for approximately $25 million. As compensation for his services, Cohen received a 50% interest in the net cash flows from Limited and Lending, plus a 50% interest in the net proceeds from any sale of those companies. Through this structure, Cohen obtained the cash-flow rights associated with a 50% equity interest without taking a formal ownership stake.

         B. Terramar and the Company

         In 2002, Seaport Village needed more financing. Cohen and Limited approached Terramar, a commercial real estate firm. At the time, Terramar was known as GMS Realty. For simplicity, this opinion refers to the entity as "Terramar."

         As part of a larger restructuring of Seaport Village, the parties formed the Company. The business and affairs of the Company are governed by its LLC agreement dated September 1, 2002 (the "LLC Agreement").

         In return for a 50% member interest, Limited subleased the land for Seaport Village to the Company. Limited allocated half of its member interest to Cohen, consistent with the effective split of the cash-flow rights from Limited and Lending. Cohen formed the Trust to hold his 25% member interest. Although the Trust is a separate entity, Cohen makes decisions for the Trust. Under the LLC Agreement, Cohen also received an exclusive right to broker any future financing for the Company. See JX 3 § 5.4(b).

         In return for the other 50% member interest, Terramar contributed $7 million in capital, guaranteed half of Lending's outstanding loan, and took over the management of Seaport Village. Terramar also became the Company's manager, with "full, exclusive, and complete discretion to manage and control the business affairs of the Company . . . ." Id. § 5.1(a). In this capacity, Terramar committed to seek to renew the Seaport Lease and to seek a lease for an adjacent property called Old Police Headquarters (the "Headquarters Lease"), which the parties planned to develop into a shopping center. The LLC Agreement referred to the redevelopment of Old Police Headquarters as "Phase Two."

         The LLC Agreement entitled Terramar to receive a priority return of 11.5% per year on its initial capital contribution of $7 million (the "Terramar Priority Return") if (i) the Port failed to approve an extension of the Seaport Lease within thirty months after the Company took possession of Seaport Village and (ii) the extension did not cover at least twenty-five additional years. Id. § 4.1(c). If the Terramar Priority Return was triggered, then the Company could not make any pro rata distributions to its members until after the Terramar Priority Return was paid. Id.

         The LLC Agreement allowed Terramar to make capital calls on the Company's members (including itself) if Terramar was unable to obtain third-party financing after "a good faith effort." Id. § 3.2(a). The LLC Agreement also gave Terramar the "sole discretion" to cause the Company to obtain a loan from any member (a "Member Loan"), subject to a maximum interest rate of 12%. Id. § 3.3.

         In the LLC Agreement, Terramar obtained the right to request that the other members buy out its member interest at fair market value at any time after January 1, 2006 (the "Put Right"). Id. § 9.5. If the other members did not purchase Terramar's interest within six months, then Terramar could dissolve the Company and receive a contractually determined payout (the "Dissolution Right"). Id. § 9.5(d). The LLC Agreement provided that upon Terramar's exercise of the Dissolution Right, "all of the property and assets of the Company shall be sold on such terms and conditions as shall be determined by [Terramar] in its sole and absolute discretion . . . ." Id.

         In a dissolution, the distribution of proceeds to the Company's members would depend on the applicable contractual waterfall. If Terramar exercised the Dissolution Right after the Terramar Priority Return kicked in, then the waterfall called for distributions to be made as follows:

• First, to repay any interest on any Member Loan;
• Second, to repay the principal of any Member Loan;
• Third, to pay any unpaid priority return of 12% per year on additional capital contributions;
• Fourth, to the members in proportion to the members' additional capital contributions, less any repayments;
• Fifth, to Terramar until the satisfaction of the Terramar Priority Return;
• Sixth, pro rata to the members other than Terramar, in an amount equal to the Terramar Priority Return; and
• Seventh, pro rata to the members based on their member interest.

Id. § 4.1(c).

         C. The 2010 Capital Call

         After the restructuring that brought Terramar into the picture, the Company obtained a $25 million loan from Wells Fargo with a three-year term. On multiple occasions, Wells Fargo agreed to extend the loan, but ultimately declined to extend it beyond 2010. Beginning in 2008, the Company sought to refinance the loan.

         In 2010, rather than agreeing to extend the loan, Wells Fargo offered to provide a new loan of $12-15 million, but Wells Fargo conditioned its proposal on receiving a guarantee from Terramar for up to half of the loan amount. See JX 34. Other financing sources offered less attractive terms. See JX 33. Terramar had no obligation to provide a guarantee and declined to do so.

         On July 30, 2010, with bank financing unavailable, Terramar made a capital call on the Company's members. The Trust and Limited refused to participate. Terramar funded the entire capital call, contributing $20, 080, 000.

         D. Terramar Seeks to Extend the Seaport Lease and Commences Phase Two.

         In 2003, 2007, and 2010, Terramar tried unsuccessfully to obtain an extension of the Seaport Lease. After striking out for a third time in 2010, Terramar asked the Port to clarify its objectives for Seaport Village. In September 2011, the Port adopted seven visioning goals for redeveloping the property. JX 47 at 1. Terramar responded with a revised plan, and in December 2011, the Port adopted a resolution declaring Terramar's proposal "consistent with the [Port's] visioning goals." PTO ¶ 13.

         Around the same time, Terramar secured a forty-year Headquarters Lease and began Phase Two-the redevelopment of Old Police Headquarters. In September 2012, the Company retained Cohen to secure a construction loan for Phase Two.

         E. The Limited Action

         Meanwhile, in April 2012, Limited sued Terramar in the Superior Court of the State of California for the County of San Diego, seeking the dissolution of the Company (the "Limited Action"). Limited alleged that Terramar failed to diligently pursue an extension of the Seaport Lease. Limited also alleged that Terramar provided financing to the Company on unfair terms. The Trust was not a party to the Limited Action.

         The Limited Action moved forward in California until August 2013, when the California court held that Limited's claim for dissolution had to proceed in Delaware. Limited promptly refiled its claims in this court.

         While the Limited Action was pending, Cohen secured a term sheet from Bank of America, N.A. for a construction loan for Phase Two in the amount of $33.5 million. Bank of America withdrew its offer in February 2013 after Limited and Terramar failed to resolve the Limited Action through mediation. JX 62; see Cohen Tr. 269.

         In June 2013, Cohen secured another term sheet for a construction loan for Phase Two, again in the amount of $33.5 million, but this time from BMO Harris Bank N.A. Unlike other financing sources, BMO offered to lend notwithstanding the pendency of the Limited Action, as long as Terramar agreed to indemnify BMO for "any costs or losses" resulting from the litigation. JX 70 at '072; see Cohen Tr. 332-33. Terramar had no obligation to provide indemnification and declined. The BMO loan fell through.

         At this point, there was no third-party financing available to the Company, and Terramar supplied the Company with Member Loans totaling $16.3 million. The Company used the Member Loans and cash flows from Seaport Village to redevelop Old Police Headquarters, expending a total of $46.5 million for construction.

         Old Police Headquarters opened for business in November 2013. Its tenants have included the Cheesecake Factory, Sunglass Hut, and Starbucks.

         F. Renewed Financing Efforts

         In March 2014, the Company retained Cohen to help refinance the outstanding Members Loans. Cohen contacted approximately two dozen lenders. Most were uninterested, citing some combination of the Limited Action, the expiring Seaport Lease, and the Company's request for a non-recourse loan. One lender asked Terramar to guarantee the loan, which Terramar declined to do.

         In July 2015, Cohen secured a term sheet from NorthStar Realty Finance for a loan in the amount of $36.65 million on attractive terms. NorthStar insisted on modifications to the Headquarters Lease that the Port refused to accept, and the refinancing fell apart.[2]

         G. The Port Changes Its Mind.

         In June 2015, Terramar completed a long-term project to update its redevelopment plan for Seaport Village. Terramar and Cohen believed that the updated proposal was even better than the one the Port had endorsed in 2011.

         But the Port opted for a different path. The Board of Port Commissioners invited Terramar to present its proposal at a hearing on October 6, 2015. Four days before the hearing, the Port staff informed Terramar that they would recommend that the board reject Terramar's proposal. Terramar responded with a six-page rebuttal letter, which a Terramar representative read into the record at the hearing. The board nevertheless decided not to extend the Seaport Lease, and the board formally rescinded the visioning goals on which Terramar's proposal had relied. The Port instead endorsed a new vision to redevelop the broader waterfront.

         H. The Trust Settles With Terramar.

         After Limited refiled the Limited Action in 2013, the Trust threatened to assert similar claims against Terramar. See JX 68. In June 2014, Cohen offered to settle the Trust's claims for $2 million, but the parties could not agree on terms. JX 89; see JX 92.

         In August 2015, the Limited Action went to trial in this court. After trial, the Trust and Terramar reached a settlement (the "Settlement Agreement"). See JX 138. In exchange for a payment of $400, 000 and a reciprocal release, Cohen released Terramar from all claims relating to the Company that existed as of the Settlement Agreement's effective date of October 2, 2015. The release carved out a claim against Terramar for allocating phantom income to the Trust, which had not been tried in the Limited Action. By settling, Cohen made a tactical decision to release challenges that seemed likely to fail based on the trial in the Limited Action, while preserving the untried claim.

         On November 9, 2015, this court rendered its post-trial decision in the Limited Action, ruling in favor of Terramar on all claims. Seaport Village Ltd. v. Terramar Retail Ctrs., LLC, C.A. No. 8841-VCL, at 85-101 (Del. Ch. Nov. 9, 2015) (TRANSCRIPT), aff'd, 148 A.3d 1170, 2016 WL 5373085 (Del. Sept. 26, 2016) (ORDER).

         I. Terramar Exercises the Put Right.

         By the end of 2015, Terramar had decided that the Company was no longer an attractive investment. See Zwieg Tr. 42, 55-67. Under Section 9.5 of the LLC Agreement, Terramar could exercise the Put Right by sending "a notice . . . indicating to all other Members and to the Company that [Terramar] desires to have its interest purchased by the other Members of the Company." This decision refers to that document as the "Terramar Buy-Out Notice."

         Section 9.5(a) specified that the Terramar Buy-Out Notice had to contain "a statement of [Terramar's] opinion" of the following two items:

(i) the fair market value of the Company (the "Company Fair Market Value") taking into account the fair market value of the Project [i.e., the Seaport Lease and the Headquarters Lease] (as determined, if necessary, in the manner set forth below) and all other assets of the Company, and all liabilities thereof, including the Yasuda Loan, and hypothetical sales expenses of three percent (3%) of the gross value, and
(ii) the amount (the "[Terramar] Purchase Price") equal to
(A) the amount that would be distributed to [Terramar] pursuant to Section 4.1(b) and/or 4.1(c), as applicable, if a hypothetical cash sale of the assets of the Company subject to such liabilities resulted in net proceeds to the Company equal to the Company Fair Market Value, plus
(B) an amount equal to the value of the Percentage Fee Amount reasonably anticipated to be received by [Terramar] from and after the date of the [Terramar] Buy-Out Notice in accordance with the provisions of Section 4.8 hereof, which the parties hereto agree shall be equal to the average Percentage Fee Amount for the three consecutive twelve (12) month periods ending on the last day of the month immediately preceding the month in which the [Terramar] Buy-Out Notice is delivered by [Terramar], divided by the "cap rate" applied by the parties in determining the Company Fair Market Value (or if the parties cannot agree on a cap rate, the rate selected by the Appraiser (as described below), and if there is more than one Appraiser, the average cap rate selected by all Appraisers), plus
(C) would be paid [sic] to [Terramar] or its affiliates upon repayment of any loan to the Company by [Terramar] or its Affiliates.

JX 3 § 9.5(a) (formatting added). This decision uses "Company Fair Market Value" and "Terramar Purchase Price" as defined in Section 9.5(a) of the LLC Agreement.

         On December 18, 2015, Terramar sent the Terramar Buy-Out Notice to Limited and the Trust. The notice stated:

The purpose of this letter is to advise you that pursuant to Section 9.5 of the [LLC Agreement], [Terramar] desires to have its membership interest in [the Company] purchased by [Limited] and [the Trust]. Pursuant to the terms of Section 9.5(a) of the [LLC Agreement], the following information is provided:
1. The "Company Fair Market Value" is $42, 932, 927.
2. The "[Terramar] Purchase Price" equals $55, 445, 552.
Please refer to Section 9.5 of the [LLC Agreement] for the specific requirements and time constraints it imposes.

         JX 147. A key component of the Terramar Purchase Price was the amount that Terramar would receive under the waterfall provisions in the LLC Agreement if the Company sold all of its assets for an amount equal to Company Fair Market Value (the "Waterfall Amount").[3] Terramar believed its waterfall priorities were greater than the Company Fair Market Value. Terramar thus specified a Waterfall Amount equal to Company Fair Market Value.[4] Another key component of the Terramar Purchase Price was the balance on Terramar's Member Loans. Tracking the definition of the Terramar Purchase ...


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