When do treble damages need a passport?  In a Middle District opinion Wednesday, the Court held that a foreign plaintiff may assert an unfair and deceptive trade practices claim in North Carolina under certain circumstances.

Ada Liss Group (2003) v. Sara Lee Corp. (M.D.N.C. No. 06-CV-610) involved a decade-long dispute between North Carolina’s hosiery manufacturer and its exclusive distributor of certain products in Israel.  Under a 1994 Distributorship Agreement, Ada Liss bought the exclusive right to distribute Bali-branded women’s intimate apparel to retailers in Israel.  (Although we at this blog normally include a topically appropriate image with every post, we’ll exercise some restraint and discretion on this one).  Sara Lee agreed not to sell such products to anyone else in Israel or to sell them to anyone whom Sara Lee "knows or has reason to believe is likely to resell or deliver the Products to customers located in the Territory."

Beginning in 2000, Ada Liss noticed Bali imports other than its own in the Israeli marketplace ("parallel imports"), apparently the result of a Sara Lee distributor in Miami who purchased the products from Sara Lee at prices far lower than those charged to Ada Liss.   Later, a New York distributor began distributing the same products in Israel.

Sara Lee and Ada Liss entered into a Settlement Agreement and a 2004 Distributorship Agreement.  Under those agreements, Sara Lee agreed to "mark" products sold to the other distributors in order to determine the source if those products showed up in Israel.  Ada Liss, in turn, released its claims against Sara Lee from 1994 through the date of the Settlement Agreement.

The parallel imports problem continued, however.  Ada Liss sued under various contract and tort theories, alleging that Sara Lee was not marking the products, never intended to do so, and fraudulently induced Ada Liss to enter into the two 2004 agreements only to obtain the release of a multi-million dollar liability.  Ada Liss further alleged that Sara Lee continued to sell Bali products to the other distributors with actual knowledge that those distributors were sending the products to Israel.  The matter came before Judge Tilley on the parties’ respective objections to a report and recommendation of Judge Dixon on Sara Lee’s motion to dismiss and Ada Liss’s motion for partial summary judgment.

Ada Liss asserted a Chapter 75 claim for unfair and deceptive trade practices based on allegations of Sara Lee’s deceptive conduct as well as allegations of common law fraud.  Sara Lee challenged the Court’s subject matter jurisdiction over this claim based on an earlier Middle District decision, The "In" Porters, S.A. v. Hanes Printables, Inc., 663 F. Supp. 494 (M.D.N.C. 1987).  In "In" Porters, Judge Gordon held that a foreign plaintiff may not assert a Chapter 75 claim in North Carolina absent "a substantial state interest in the litigation such that application of North Carolina’s law is ‘neither arbitrary nor unfair,’" which in turn required a showing of "’a substantial effect on the plaintiff’s in-state operations’" (emphasis in original) to trigger the jurisdictional requirements of North Carolina’s long-arm statute.  The dispute in "In" Porters concerned an exclusive distributorship in France for products purchased from a defendant’s Belgian subsidiary.  Although there were negotiations in North Carolina, none of those negotiations were tainted by fraud or gave rise to the Chapter 75 claim.

In Ada Liss, Judge Tilley affirmed that "In" Porters was still good law, but distinguished it on the facts.  As he described the earlier case, "The problem for the ‘In’ Porters plaintiff was that the record showed exclusively foreign misconduct with damages to the plaintiff’s exclusively foreign operations."  In contrast,

where Sara Lee–itself a North Carolina resident–is alleged to have committed fraud in North Carolina against Ada Liss, the question of extra-territorial application of the UDTP statute, which was fatal to the UDTP claim in ‘In’ Porters, is simply not at issue. Because the conduct alleged took place in North Carolina, the court does not have to search for an impact on the Plaintiff’s state operations or a strong state interest. There is no inquiry into the sufficiency of Plaintiff’s relationship to North Carolina in a case involving local acts under 1-75.4(3).

There were four other legal issues of note in the opinion.  First, both the 1994 and 2004 Distributorship Agreements contained an exculpatory clause for incidental or consequential damages and lost profits, but the Court rejected Sara Lee’s attempted application of the clause to willful or intentional conduct.  The clause applied to contractual claims and, under certain circumstances, could have applied to ordinary negligence claims, but an exculpatory provision for intentional wrongdoing "not only lacks clear textual support in the agreement, it also has no basis in contract law and defies sound public policy."  The Court considered the absence of North Carolina case law on the subject to be a function of the clarity of the rule: 

[T]he issue is so obviously contrary to sound law and policy that courts simply have not written opinions on the subject. The precedent created if contracts with exculpatory clauses for intentional torts became enforceable would be noxious. Parties could simply circumvent tort law altogether, eliminating the natural check on intentional misconduct that comes from the potential for extensive tort liability.

Second, the Court held that Ada Liss stated a claim for fraud and negligent misrepresentation in addition to its contract claims.  Although the economic loss doctrine prevents tort recovery for purely contractual claims, the Court concluded that Ada Liss’s allegations were sufficient to support its tort claims because they suggested a fraudulent scheme that commenced before the formation of a contract between the parties.

Third, the Court rejected Ada Liss’s separate claim for breach of the covenant of good faith and fair dealing, holding that there was no "special relationship between the parties" that would give rise to such a claim independent of a breach of contract claim.

Finally, Judge Tilley adopted the Magistrate’s recommendation to award summary judgment to Ada Liss on the issue of breach of the 2004 Settlement Agreement for failure to mark products sold to third parties as required by the agreement.

 

Full Opinion

 

 

It’s not often that the Business Court is called upon to address matters of construction law.  Yesterday, though, the Court held that a general contractor’s lien waiver constituted a waiver both as to the amount and the priority of the contractor’s claims.

In Wachovia Bank, N.A. v. Superior Construction Corp., Wachovia was the construction lender and Superior was the general contractor on "The Preserve," a condominium development in Brunswick County that was owned by Intercoastal Living, LLC, now in receivership.  The project was only partially completed, and litigation ensued.  (A number of lawsuits were filed against Superior and Intercoastal, many of which were designated to Judge Jolly as exceptional cases.  The Wachovia case, however, was designated by the Chief Justice as a complex business case).

Under North Carolina’s materialman’s lien statutes, including N.C.G.S. § 44A-10, a claim of lien relates back to the first furnishing of labor or materials at the site of the improvement.  Such a lien takes priority over encumbrances arising after that "first furnished" date.

Based on the allegations of the complaint, Superior first furnished labor and materials to the site approximately one month before Wachovia obtained a promissory note and deed of trust for over $22 million.  Under the lien statutes and absent any other facts, Superior would have been in good shape.

There were other facts, though:  During the course of construction, Wachovia, like most construction lenders, required Superior to execute lien waivers in order to obtain interim payments.  Superior executed two such lien waivers in connection with payment applications totaling over $850,000.

Wachovia filed a declaratory judgment action, then was substituted out as plaintiff.  Fortunately for the new plaintiff, Wachovia attached the lien waivers to its complaint, which allowed the new plaintiff to move for judgment on the pleadings under Rule 12(c) on the basis of those waivers.

Judge Jolly determined that the pleadings "clearly establish that Defendant Superior executed the Waivers in exchange for consideration from Wachovia."  The question for the Court was the scope of those waivers.

Superior and its bonding company argued that, although a lien waiver reduces the amount that may be claimed in a subsequent lien proceeding, such a waiver cannot alter the date to which a lien relates back.  The Court rejected that argument:

If a party chooses lawfully to change its position on a hierarchy of liens, by contractual waiver or otherwise, the party still remains certain and secure of its new position. While making such a business agreement may not be wise in hindsight, the law does not prevent the parties from doing so.

The Court also ruled that N.C.G.S. § 44A-12, which prohibits lien waivers "made ‘in anticipation of and in consideration for the awarding of a contract . . . for the making of an improvement upon real property,’" was not implicated by the lien waivers at issue.  

 

Full Opinion

In modern business litigation in North Carolina, it is increasingly rare to see a complaint that does not contain a claim under G.S. § 75-1.1 for unfair or deceptive trade practices.  Courts that have prevented the statute from having almost unlimited application have done so by determining that particular activities are not "in or affecting commerce."  The Supreme Court continued that pattern last week, holding that a dispute between partners did not trigger Chapter 75 liability.

In White v. Thompson, partners in a Bladen County fabrication and welding business enjoyed initial success, but "eventually fell victim to disagreements and infighting among the partners."  Two partners filed suit alleging that the third partner started a competing business that diverted the business of the original partnership.  The plaintiffs asserted that their partner’s conduct constituted breach of fiduciary duty and unfair and deceptive trade practices.  The jury found in plaintiffs’ favor and awarded judgment in the amount of $138,195 against the former partner.  The trial court ruled that the acts were unfair and deceptive and trebled the judgment amount pursuant to G.S. § 75-16.

Both defendants appealed, and a divided panel of the Court of Appeals reversed as to the former partner.  (Mack Sperling reported the Court of Appeals’ decision to you last May).  Plaintiff appealed to the Supreme Court as of right based on the dissent in the Court of Appeals.

Justice Newby examined several prior Chapter 75 cases, including HAJMM Co. v. House of Raeford Farms, Inc., 328 N.C. 578, 403 S.E.2d 483 (1991).  HAJMM established that securities transactions and other "capital-raising activities" are not "in or affecting commerce" so as to trigger Chapter 75 liability.  The Court also cited Bhatti v. Buckland, 328 N.C. 240, 400 S.E.2d 440 (1991), for the proposition that the General Assembly intended to regulate conduct between market participants in two categories:  "(1) interactions between businesses, and (2) interactions between businesses and consumers."  (The Business Court has relied on the HAJMM line of cases to reject internally-generated Chapter 75 claims on several occasions,  including J Freeman Floor Co., LLC v. Freeman (May 14, 2009) (unpublished) (usurpation of LLC opportunities, dismissed on basis of Court of Appeals’ opinion in White); Reid Pointe, LLC v. Stevens, 2008 NCBC 15, 2008 WL 3846174 (Aug. 18, 2008) (discharging LLC manager and demanding capital call); Kaplan v. O.K. Technologies, LLC (June 27, 2008) (unpublished) (dispute among LLC members), and Maurer v. Slickedit, Inc., 2005 NCBC 1, 2005 WL 1412496 (May 16, 2005) (dismissal as CEO, denial of board participation, and failure to take action to sell company)).

As the Supreme Court stated, Section 75-1.1 "is not focused on the internal conduct of individuals within a single market participant, that is, within a single business. . . .  As a result, any unfair or deceptive conduct contained solely within a single business is not covered by the Act."  Because the dispute was between partners, the Court affirmed the decision of the Court of Appeals reversing the trial court judgment.

Justice Hudson, joined by Justice Timmons-Goodson, dissented.  She criticized the majority’s holding for relying on an outdated statement of purpose contained in a disco-era version of the statute.  She also distinguished HAJMM  on the grounds that the capital-raising activities in that case were not the core function of the company, whereas the disputes in White involved two partnerships competing for the business of a particular customer.

The bottom line is that, although White doesn’t exactly break new ground given that HAJMM has been the law of North Carolina for nearly 20 years, the Supreme Court declined the opportunity to retreat from HAJMM and expand the scope of the unfair and deceptive trade practices statute.  The upside for North Carolina businesses is that treble damages should continue to be unavailable in internal corporate disputes.

Supreme Court Opinion

Court of Appeals Opinion

Both the North Carolina Uniform Arbitration Act and the Federal Arbitration Act are stacked in favor of the enforcement of arbitration provisions.  That does not mean that a defendant’s motion to compel arbitration is a foregone conclusion, as a Business Court decision from Tuesday reminded us.

In Capps v. Blondeau, the Plaintiff inherited a significant estate from her aunt and used the estate to establish two trusts.  At some point over the next several years, she began to suffer from dementia, and her broker allegedly took advantage of the situation.  Plaintiff’s guardian sued her broker and his brokerage firm, among others, alleging claims including breach of fiduciary duty, constructive fraud, constructive trust, RICO, and Chapter 75 violations.

At issue as a threshold matter was whether a valid arbitration agreement existed between Plaintiff and the brokerage firm.  (The Court permitted a limited discovery period confined to the validity of the arbitration provision).  This was more than a perfunctory challenge by the Plaintiff for several reasons:

  • There was conflicting testimony concerning whether the purported signature was, in fact, Plaintiff’s.  Although Plaintiff testified that the signatures were hers, her testimony overall exhibited aspects of dementia, and she testified that she had never seen the forms before.
  • The brokerage firm was unable to produce the original forms bearing Plaintiff’s signature.  It produced electronic copies, but probably did not help its authenticity argument by tendering "specimen" copies of the forms at issue that differed in format and in language with the forms purportedly bearing the Plaintiff’s signature.
  • The brokerage firm’s document retention procedures (or lack thereof) violated applicable SEC and FINRA regulations.
  • The two affidavits of the broker were rejected by the Court as largely speculative.  In addition, the broker’s concurrent federal indictment and guilty plea to investment advisory fraud ruined his credibility and constituted an admission of a party opponent that he lied to and defrauded the Plaintiff.

The Court determined that securities brokerage agreements implicated interstate commerce and therefore triggered the application of the FAA.  Although the FAA requires doubts to be resolved in favor of arbitration, the existence of an agreement to arbitrate is governed by state common law contract formation principles.  

Judge Jolly held that the moving Defendants failed to meet their burden of proving that the parties agreed to arbitrate disputes between them.  The best evidence rule permits the use of electronic scans or specimens to prove the contents of a writing, but "if a party wishes to rely upon
such evidence, it must do better than what has been presented here."  Because the brokerage firm’s "record keeping with regard to . . . the contended client agreement[] was sloppy and fragmented at best . . . the documentary evidence submitted by the moving Defendants was so problematic as to be inconclusive."  The only two witnesses with the potential to testify that the Plaintiff signed the agreement were the (mentally incompetent) Plaintiff and the (feloniously incredible) broker, neither of whom the Court was willing to rely upon.

Full Order

Discovery disputes are often fought at the margins, and the question for any attorney responding to written interrogatories is how much information is necessary to be responsive.  In an order Tuesday, the Business Court disapproved of one common tactic:  the generalized Rule 33(c) answer.

In case you haven’t answered interrogatories in a while, recall that Rule 33(c) allows a responding party to point the propounding party to responsive business documents rather than the responding party poring over those documents itself to create a written answer:

(c)        Option to produce business records. – Where the answer to an interrogatory may be derived or ascertained from the business records of the party upon whom the interrogatory has been served or from an examination, audit or inspection of such business records, or from a compilation, abstract or summary based thereon, and the burden of deriving or ascertaining the answer is substantially the same for the party serving the interrogatory as for the party served, it is a sufficient answer to such interrogatory to specify the records from which the answer may be derived or ascertained and to afford to the party serving the interrogatory reasonable opportunity to examine, audit or inspect such records and to make copies, compilations, abstracts or summaries.

In Phillips & Jordan, Inc. v. Bostic, the parties already had been through a full round of briefing and a status conference on the plaintiff’s motion to compel.  Plaintiff asserted that the Defendants’ supplemental responses still weren’t enough.  To the Court’s frustration, Plaintiff did not identify specific responses that allegedly remained deficient, but the Court decided to address the issue anyway in order "to avoid further motions practice in a case where counsel cannot agree on the time of day. . . ."

Judge Diaz ruled that the Defendants could not use Rule 33(c) "to foist upon Plaintiff the obligation to comb through the records for materials responsive to the Discovery Requests."  The volume of documents at issue was an important factor for the Court:  over 200 bankers’ boxes of paper documents in a warehouse, plus electronic records.  Also important was that "the records are in total disarray" (which the Court determined based on photographs submitted by the Plaintiff of the inside of the warehouse where the records were stored).

The Court accordingly held that the Defendants were not entitled to use Rule 33(c) because "the burden to derive or ascertain the relevant information from the records is not the same for Plaintiff as for the . . . Defendants."  As a result, the Defendants were ordered to cull through their records to identify responsive documents and to "produce documents in a manner such that Plaintiff (and, if necessary, the Court) can readily identify the set of documents that are responsive to each interrogatory or request for production." (emphasis in original).  The Court also required each Defendant to file an affidavit within 10 days of production specifically setting forth how that Defendant complied with the Court’s order.

This order is not the death knell for Rule 33(c), which remains a valid response to interrogatories.  However, the Business Court appears willing to scrutinize the use of Rule 33(c) and the surrounding circumstances.  Based on this order, Business Court practitioners wanting to avoid being on the wrong end of a motion to compel might consider at least two responses:  (1) identify specific documents that the propounding party needs to review to determine the answer and (2) narrow the universe of those documents to make sure that the burden on the propounding party truly is equal to the burden on the responding party.  Practically, it may be easier just to answer the interrogatory with the information requested.

Full Order

 

What should you do if your firm’s e-mail account is down and you receive no e-mails for at least four days?  The Fourth Circuit says you’d better check your federal court dockets. 

In a published decision released Friday, Robinson v. Wix Filtration Corp., No. 09-1167 (4th Cir. Mar. 26, 2010), the Fourth Circuit affirmed a denial of Rule 59(e) motion to set aside entry of summary judgment against the plaintiff where the plaintiff’s attorney never received notice from the Western District of North Carolina that the summary judgment motion had been filed. 

The WDNC had previously set a deadline for dispositive motions of August 8, 2008.  On that date, defendants filed a motion for summary judgment using the court’s Electronic Case Filing ("ECF") system.  The ECF filing generated a Notice of Electronic Filing (“NEF”) that was emailed to counsel of record and, consistent with the WDNC local rules, no other service was made.  The response deadline passed without any response from plaintiff, and, not surprisingly, the District Court granted the motion on December 3, 2008.  (The District Court treated the facts as undisputed and conducted a full legal analysis of the grounds for the motion.)  Plaintiff then filed a motion under Rule 59(e) and Rule 60(b) seeking to set aside the order.  That motion was denied, and plaintiff appealed.

Plaintiff’s counsel’s explanation for the failure to respond was that his firm’s Internet domain name had expired and thus his e-mail system was down when Defendant filed the motion.  E-mails from the intervening period (at least four days) between expiration and reinstatement were lost in cyberspace, never to be found.  At oral argument in the Fourth Circuit, counsel for plaintiff stated that he knew the summary judgment deadline had passed and that he made a strategic decision not to ask defense counsel whether they had filed a motion.  Judges Duncan and Davis had little sympathy for plaintiff.  Some choice highlights from the majority opinion:

“We can hardly say that the district court abused its discretion in declining to vacate its judgment to prevent ‘manifest injustice’ given that Appellant’s failure to receive notice of the motion resulted from his counsel’s conscious choice not to take any action with respect to his computer troubles.”

“Instead, Appellant’s counsel strategically chose not to call opposing counsel after the deadline for filing dispositive motions had passed because he did not want to alert them to the court’s deadline. More amazingly, he chose not to check with the district court either. In other words, Appellant’s counsel made the affirmative decision to remain in the dark.”

And from Judge Davis’s concurring opinion:

“Our good colleague in dissent laments the possible consequences to an ‘innocent’ litigant from his counsel’s unwise and misplaced strategic choice to litigate, ostrich-like, with his head in the sand."

Judge King’s dissent argued that plaintiff should not be faulted for his counsel’s error and that because the Notice of Electronic Filing did not reach plaintiff’s counsel, service was not complete under Rule 5(e).  (Defense counsel apparently had no indication that plaintiff’s counsel did not receive the filing).

Electronic filing and service have been mandatory in the WDNC since January 1, 2006, and apparently they cannot be ignored.

[Ed. note:  Today’s entry was authored by Jennifer Van Zant, who was unable to post under her own name for technical reasons but who, in the spirit of the Fourth Circuit’s opinion, took prompt action to overcome those electronic issues and bring you this case of note.]

 

I’m not sure we’ve ever had the opportunity to describe a Business Court opinion as "epic" before, but here we are.  On Friday, in State v. Custard, the Court delivered a 70-page, 4-appendix opinion that’s the corporate governance equivalent of The Ten Commandments or Ben-Hur.  In addition to a thorough discussion of directors’ duties under North Carolina and Delaware law, the opinion answers four previously unanswered questions posed in the Robinson on North Carolina Corporation Law treatise that occupies a prominent shelf in every North Carolina business lawyer’s library.

Custard was a breach of fiduciary duty case brought by the Commissioner of Insurance as the liquidator of Commercial Casualty Insurance Company of North Carolina ("CCIC") against three directors of CCIC.  To make a long story short, CCIC focused on "artisan" liability insurance policies for small contractors and tradesmen in California.  For a period of time, it also offered non-standard auto policies in North Carolina and redomesticated itself from Georgia to North Carolina in 2001, thus becoming subject to NCDOI regulation.  In hindsight, CCIC set its premiums too low and wrote too many policies.  As the Court tactfully phrased it, "CCIC’s growth outperformed the Company’s ability to generate policyholder surplus."  It became insolvent in 2004.

Key points from Judge Tennille’s opinion include:

 

Continue Reading Business Court Blockbuster: If You Only Read One Corporate Governance Case This Year, Make It This One

If you have exchanged three-page letters with opposing counsel and held a short teleconference with dueling soliloquies on the scope of discovery relevance, you probably have complied with the meet & confer requirement that is a prerequisite to filing a motion to compel under North Carolina Rule 37 and any motion or objection related to discovery under Business Court Rule 18.6.  The minimum contact to satisfy that requirement may be that exchange; it may even be something short of that.  What does not satisfy the requirement is no contact at all, as a Business Court decision yesterday made clear.

In Northfield Investments, Inc. v. Regions Bank, a developer, Northfield, sued its lender, Regions, in June 2007 to try to enjoin a foreclosure sale, and Regions counterclaimed to collect under the promissory note at issue.  Two years later, in August 2009, Northfield moved to depose Regions’s attorney , Derr, on the grounds that Derr may have "failed to timely transmit the Purchase Agreement to Regions so that Regions could adequately assess the offer, respond in good faith to its customer and agree to have its lien released upon the closing of the Purchase Agreement . . ."  Allegedly, the attorney’s failure may have caused a third-party sale to fall through which otherwise would have maximized the value of the collateral. 

Derr filed a motion for sanctions under Rule 26(g) and attached email correspondence demonstrating that she did transmit the documents at issue to her client.  Northfield then withdrew its motion for leave to depose Derr.

Judge Diaz analyzed the parties’ Rule 26(g) duties by the same objective reasonableness standard used in Rule 11 cases:  "a party’s inquiry is objectively reasonable if, ‘given the knowledge and information which can be imputed to a party, a reasonable person under the same or similar circumstances would have terminated his or her inquiry and formed the belief that the claim was warranted under existing law.’”  He held that Northfield and its attorneys did not satisfy that duty in seeking Derr’s deposition.

The Court rejected Northfield’s proffered good-faith basis: 

9. The fact that Smith may have (during some unspecified timeframe) suggested to
Northfield that Derr was unresponsive to inquiries made in 2007 on the subject of the Purchase Agreement is a thin reed indeed on which to support a motion seeking to depose opposing counsel two years later.

10. Moreover, had Northfield and the Third-Party Defendants (or their new counsel)
spoken with Smith prior to filing the Discovery Motion, it is difficult to believe that Smith would not have refuted the factual premise for taking Derr’s deposition and made the relevant e-mails on the subject available to his former client, particularly since Smith was personally involved on behalf of Northfield in the discussions and e-mails surrounding the settlement negotiations. See N.C. Rev. R. Prof’l Conduct 1.16(d) (“[u]pon termination of representation, a lawyer shall . . . [surrender] papers and property to which the client is entitled[.]”).

11. Similarly, the fact that a Regions officer testified in a deposition that he could not
recall whether he saw the proposed settlement documents does not (without more) provide a good faith basis for believing that Derr in fact did not transmit the documents to her client.

12. The Court holds that the knowledge of Northfield’s prior counsel, including the emails between Smith and Derr refuting the factual basis for taking Derr’s deposition, should be imputed to Northfield and the Third-Party Defendants and their new counsel for purposes of determining whether they undertook a reasonable inquiry. Alternatively, a reasonable inquiry by Northfield and the Third-Party Defendants would have revealed the information contained in the e-mails without the need to file the Discovery Motion, which in turn would have made clear to these parties that their Discovery Motion was unreasonable.

The Court also chastised Northfield for declining Derr’s invitation to discuss the issue, which refusal violated Business Court Rule 18.6:  "’Judges and lawyers should resurrect the original intention of the discovery rules, which was to make discovery a more cooperative and less adversarial system designed to reduce, not increase, the cost of litigation. . . .  Our system of civil justice cannot function effectively and economically unless lawyers . . . make cooperation [and] communication . . . cornerstones’ of discovery."  Order ¶ 14 (quoting Azalea Garden Bd. & Care, Inc. v. Vanhoy, 2009 NCBC 9 ¶¶ 18-19).  On the other hand, the Court also believed that Derr was partly at fault for filing the Motion for Sanctions without first attempting to defuse the situation by producing the emails attached to her motion.

Nevertheless, the Court determined that Northfield bore the primary responsibility due to its failure to conduct a Rule 26(g) reasonableness inquiry and failure to satisfy the meet & confer obligations of Rule 18.6.  The Court allowed Northfield five days to respond on the issue of the reasonableness of Regions’s requested fees.

 Full Order

 [UPDATE:  On July 1, 2010, Judge Diaz entered an Order awarding $10,630 in sanctions.]

Fervent followers of the Business Court may remember the case of Wachovia Bank, N.A. v. Harbinger Capital Partners Master Fund I, L.P., which this blog has discussed before.  Just over two years ago, Wachovia preemptively sued certain defendants whom it accused of trafficking in litigation and obtained an anti-lawsuit injunction against the defendants.  After designation as a Rule 2.1 case, Judge Diaz modified the injunction and stayed the Business Court lawsuit in favor of pending litigation before the Southern District of New York.

Over the two intervening years, three new developments occurred:  the S.D.N.Y. dismissed the lawsuit before it in August 2008, on the grounds that the federal claim was premature and that the court declined to exercise supplemental jurisdiction over the state law claims; some of the New York plaintiffs (but not those that were North Carolina defendants) filed a new lawsuit asserting the state law claims before the New York Supreme Court; and the North Carolina Court of Appeals affirmed Judge Diaz’s injunction modification and stay order.

Given those developments, the North Carolina defendants asked Judge Diaz to modify the injunction so as to permit them to join as plaintiffs in the New York Supreme Court action, and Wachovia asked Judge Diaz to lift the stay so that it could pursue its case in North Carolina.  In a March 15 order, Judge Diaz re-adopted all of the findings of fact from his original order and further found that "(1) the NY State Action is better able to arrive at a more comprehensive resolution of the dispute in this case, given the broader scope of claims and parties before it, and (2) judicial economy counsels again in favor of litigation in New York."  As a result, he granted Defendants’ motion to modify the injunction and denied Wachovia’s request to lift the stay.  He also denied Wachovia’s motion to hold certain defendants in contempt for asserting a RICO claim in the S.D.N.Y. lawsuit, holding that the original injunction did not prohibit the assertion of claims arising under federal law.

 

 

This Empire State Building photo is from jorbasa’s photostream on Flickr, some rights reserved.

Valuing a closely held business is often a debate over hypothetical dollars, particularly when the company’s sole asset is unproven technology.  The Business Court confronted such a situation recently in Vernon v. Cuomo.

The company in question developed a new technology with potential widespread medical application:  silicone-free syringes, which would enable syringes (especially of high-priced medicines) to be pre-filled without risk of contamination.  The potential of the technology, however, was not enough to keep the company together.  Two shareholders asserted dilution and self-dealing claims against the other shareholders.  After a bench trial, the Court concluded that the defendants engaged in self-dealing and breached their fiduciary duty to the plaintiffs.  The Court ordered the judicial dissolution of the company to protect the interests of the complaining shareholders pursuant to N.C.G.S. § 55-14-30(2)(ii).  (Mack wrote about the bench trial opinion last year).

In lieu of dissolution, the defendants exercised their statutory option to purchase the plaintiffs’ shares at fair value under N.C.G.S. § 55-14-31(d).  That statute neither defines fair value nor specifies the procedures for a court to use in arriving at it.  In Vernon, Judge Tennille followed a procedure similar to two previous valuation cases, Garlock v. Hilliard and Royals v. Piedmont Electric Repair Co.:  solicit the opinion of an independent appraiser, "but also [take] into account other equitable and practical considerations based on the arguments and submissions of counsel and matters of record."

The added complication of Vernon was that, with the only asset an unproven technology, there was a high risk of windfall on both sides:  "One of the key problems faced by the Court in this valuation process has been how to protect against a windfall by the majority shareholders if the technology proves to be extremely valuable while not requiring the majority to pay an initial price that may be too high if the technology is not adopted widely in the industry."

The Court approved of the methodology of the appointed appraiser, who had extensive IP valuation experience.  The appraiser’s methodology included:

  • the discounted future economic income method to discern fair value
  • Latin Hypercube simulation algorithms to generate income estimates
  • a Fisher Pry model to project a market adoption rate for the technology
  • Monte Carlo simulation methods to consider uncertainties in the company’s underlying earnings potential

However, because of the uncertainties and the windfall risk, the Court concluded that a royalty sharing arrangement would best capture the value of the technology for both sides.  The Court found that the plaintiff’s shares were worth a specific amount, plus a royalty sharing arrangement of a specified percentage.  (The amounts themselves are redacted in the public version of the Court’s opinion).  The Court ordered the closing to take place within 20 days, with 50% of the purchase price paid at closing and the balance paid in two annual installments with no interest.

Recognizing the novelty of the approach (and the appellate courts’ distrust of novelty), the Court also reached a backup conclusion of the total fair value of the plaintiffs’ shares, which would take effect if an appellate court struck down the royalty sharing arrangement.

 

 

[The photo of the syringe is from Zaldylmg’s photostream on Flickr, some rights reserved.]