Summary

In an 20 page decision signed July 1, 2011, Judge Shannon of the Delaware Bankruptcy Court partially granted a motion to dismiss, holding that the allegations of fraud in the complaint were insufficiently pled as to one of the defendants. Judge Shannon’s opinion is available here (the “Opinion”).  It seems that claims of fraud appear with some regularity in Delaware’s Bankruptcy Court, so this post will focus on the Opinion’s discussion of pleading claims for fraud. Below are links to two recent blog posts concerning opinions in which fraud was discussed:

Decision in DBSI Inc., Holds that the "Particularity" Requirement of F.R.C.P. 12(b)(6) and 9(b) was Satisfied, Notwithstanding the Number of Alleged Fraudulent Transfers

Decision in In Re: Donna K. Brady Holds: Officers Aren't Contractors

Background

ProxyMed was a Florida corporation that provided services to healthcare companies. It filed for bankruptcy on July 23, 2008, and had a plan of liquidation confirmed on July 15, 2009. In 2002, well before it started having financial troubles, a private investment firm, General Atlantic LLC (“GA”), purchased roughly 28.9 percent of ProxyMed’s stock. As a part of its purchase agreement, GA appointed Braden Kelly (“Kelly”) to ProxyMed’s board of directors.

To summarize a lengthy background, Kelly had represented to ProxyMed that GA would continue to invest in ProxyMed. Opinion at *4-5. Ultimately, however, GA found an opportunity that it decided to pursue instead of continuing to invest in ProxyMed and ceased infusing capital into ProxyMed. Opinion at *6. ProxyMed was unable to secure alternative financing, leading to a liquidity crisis and its bankruptcy.

ProxyMed’s Liquidating Trustee (the “Trustee”) filed a complaint alleging (1) that GA and Kelly (together the “Defendants”) breached their fiduciary duties to ProxyMed and (2) that GA defrauded ProxyMed. GA and Kelly together filed a motion to dismiss under rule 12(b)(6), which was decided by the Opinion.

Judge Shannon’s Opinion

Judge Shannon started his discussion of the requirements of pleading fraud so as to survive a motion to dismiss on *7 of the Opinion. He cites many of the usual cases in an analysis of a motion to dismiss, including Bell Atl. Corp. v. Twombly, 550 U.S. 544 (2007), Scheuer v. Rhodes, 416 U.S. 232 (1974), Phillips v. County of Allegheny, 515 F.3d 224, 231 (3d Cir. 2008), Kost v. Kozakiewicz, 1 F.3d 176 (3d Cir. 1993), as well as two cases which discuss the heightened requirements of pleading fraud: Seville Indus. Machinery Corp. v. Southmost Machinery Corp., 742 F.2d 786 (3d Cir. 1984), Official Comm. Of Unsecured Creditors of Fedders North America, Inc. v. Goldman Sachs Credit Partners (Fedders I), 405 B.R. 524 (Bankr. D. Del. 2009).

As provided by Twombly, “on a Rule 12(b)(6) motion, the facts alleged must be taken as true and a complaint may not be dismissed merely because it appears unlikely that the plaintiff can prove those facts or will ultimately prevail on the merits.” Opinion at *7. Additionally, all reasonable inferences are drawn in favor of the plaintiff while legal conclusions are not entitled to a presumption of truth. Opinion at *7. Rule 8(a) of the Federal Rules of Civil Procedure (“FRCP”) mandates that a complaint contain “a short and plain statement of the claim showing that the pleader is entitled to relief” such that the defendant has fair notice of what the claim is and the grounds upon which it rests. Opinion at *7-8. Additionally, because fraud was alleged, the Trustee must meet the elevated pleading requirement of Rule 9(b), which states, “In alleging fraud or mistake, a party must state with particularity the circumstances constituting fraud or mistake. Malice, intent, knowledge, and other conditions of a person’s mind may be alleged generally.” Opinion at *8 (citing FRCP 9(b)).

Judge Shannon opined that “It is not a defendant’s fraudulent intent that must be pled with particularity, but the circumstances constituting fraud.” Opinion at *9. Citing Fedders I, he then allowed that the pleading standards are relaxed in the case of a trustee because a trustee “inevitably lacks knowledge concerning acts of fraud previously committed against the debtor, a third party.” Opinion at *9. Regardless of the slight relaxation provided to trustees, Judge Shannon ultimately held that the Trustee's complaint was lacking in the details necessary to show fraud, and thus did not fulfill the requirements of FRCP 9(b).  He thus dismissed the charges of fraud against both Defendants.

  In addition to his analysis of fraud pleading requirements, Judge Shannon discusses the claimed breach of fiduciary duty, which, thanks to the Chancery Court, is a common theme in Delaware jurisprudence. Additionally, the Opinion provided a detailed discussion of how a choice of law conflict is analyzed under Delaware law. It’s a fairly detailed analysis and provides an excellent template for any lawyer’s analysis and argumentation of the same. Put simply, Delaware choice of law precedent provides that a judge consider how each of the proffered jurisdictions would rule on the "conflict" and only decide which controls if a different outcome would be obtained in each jurisdiction.