KDC Foods, Inc. v. Gray, Plant, Mooty, Mooty & Bennett, P.A.

• Decision Date: 26 September 2014
• Docket Number: No. 13–3678.,13–3678.
• Citation: 763 F.3d 743
• Court: U.S. Court of Appeals — Seventh Circuit
• Parties: KDC FOODS, INC., Plaintiff–Appellant, v. GRAY, PLANT, MOOTY, MOOTY & BENNETT, P.A., et al., Defendants–Appellees.

763 F.3d 743

KDC FOODS, INC., Plaintiff–Appellant,

v.GRAY, PLANT, MOOTY, MOOTY & BENNETT, P.A., et al., Defendants–Appellees.

No. 13–3678.

United States Court of Appeals, Seventh Circuit.

Argued April 1, 2014.

Decided Aug. 15, 2014.

Rehearing Denied Sept. 26, 2014.

Michael Paul Erhard, Erhard & Payette, Madison, WI, for Plaintiff–Appellant.

Claude J. Covelli, Boardman & Clark, Madison, WI, for Defendants–Appellees.

Before TINDER and HAMILTON, Circuit Judges, and KAPALA, District Judge.^*

TINDER, Circuit Judge.

This case is brought by the estate of a bankrupt corporation, KDC Foods, Inc., against former outside counsel Gray, Plant, Mooty, Mooty & Bennett P.A. (“GPM” or “Gray Plant”) and three current or former GPM attorneys, Daniel Tenenbaum, Phillip Bohl, and Jennifer Dasari. Plaintiff–Appellant KDC alleges that the law firm and its attorneys were complicit in an insider conspiracy to bankrupt the company. The district court granted summary judgment against KDC on the grounds that its claims were barred by the statute of limitations. KDC appeals that judgment to our court.

I

In reviewing a grant of summary judgment, we construe all facts and draw all reasonable inferences in favor of the non-moving party. Phillips v. Cont'l Tire The Americas, LLC, 743 F.3d 475, 477 (7th Cir.2014). The facts here are thus recounted in the light most favorable to KDC. “We do not vouch for their truth in any other sense.” Good v. Univ. of Chi. Med. Ctr., 673 F.3d 670, 673 (7th Cir.2012).

A. Engagement and Resignation of GPM

Plaintiff–Appellant KDC Foods, Inc. was founded in 1996 in Eau Claire, Wisconsin to create and sell baking products and related manufacturing techniques. By 2004, KDC had developed various shelf-stable dough products and licensed its technologies. But despite the royalties it was receiving, KDC had cash flow problems. On March 1, 2004, KDC hired Don Johnson as its Chief Financial Officer with the expectation that he would raise capital and pursue corporate restructuring opportunities. Soon after his appointment, Johnson contacted an acquaintance, lawyer and individual Defendant–Appellee Daniel Tenenbaum, to ask whether Tenenbaum's firm, Gray Plant, would represent KDC. The law firm sent KDC an engagement letter on June 22, 2004, which included conflict-waiver language regarding Johnson and Consolidated Interest Corporation, a company affiliated with Johnson for which GPM had done prior work. Gray Plant was ultimately retained by KDC for services relating to restructuring, intellectual property, and recapitalization matters. Unfortunately, KDC's fortunes did not improve with Johnson at the helm. On September 14, 2004, Johnson sent KDC a resignation letter, though he actually left his post on November 5, 2004. Johnson then joined another corporation, First Products, Inc., in Minnesota—but more on that later.

KDC's cash flow problems meant GPM also had difficulty getting paid, as evidenced by an October 1, 2004 letter from the firm demanding payment. More than $20,000 in fees went unpaid, and by letter on November 9, 2004, Gray Plant resigned as KDC's counsel, citing the company's “significant overdue account” with the law firm.

B. KDC's Bankruptcy and Filing of Initial Lawsuit

Shortly thereafter, in early December 2004, KDC's board of directors voted to file for Chapter 11 bankruptcy. KDC's assets were sold at auction, and purchased by First Products, Inc. No other bids were received, and the bankruptcy court approved the sale after a hearing. After the sale, the bankruptcy was converted to a Chapter 7 liquidation proceeding. The bankruptcy trustee, James McNeilly, hired Dennis Sullivan as special counsel for the estate. Sullivan had filed a shareholder derivative action in November of 2004—just before KDC filed for bankruptcy—alleging that Harry Kraklow and Cynthia Kandler, directors and officers of KDC, had conspired to defraud the company of its intellectual property by driving KDC out of business and purchasing its assets at bargain prices. The derivative action was converted to a direct action, with Sullivan pursuing the suit on behalf of KDC. We'll refer to this proceeding as “the initial lawsuit.”

C. GPM Returns KDC's Client File

As part of the initial lawsuit, on March 10, 2006, Sullivan requested that Gray Plant return to him “the complete file that you have concerning KDC Foods, Inc.” He clarified that his request “includes, but is not limited to, correspondence, emails, pleadings, notes, transcripts....” The file sent to Sullivan by GPM on April 7, 2006 contained emails, memoranda, and time records. In particular, the file contained a detailed memorandum on corporate records deficiencies prepared by Defendant–Appellee Jennifer Dasari. The file also included time records showing she had worked on the issuance of 1099 forms and stock certificates. Defendant–Appellee Phillip Bohl, a partner at GPM, had noted in his time sheets that he had emails and discussions with KDC employee Kim Myers about issuing 1099 forms for other shareholders, and the file contained records of the transmission of stock certificates to reflect the sale of KDC stock to Johnson, Kandler, and Myers at $0.01 per share. The file also contained email exchanges between Tenenbaum and Johnson, in which capitalization, financing, and debt-reduction opportunities were discussed. Notably, in a June 7, 2004 email to Tenenbaum prior to GPM's formal engagement, Johnson identified four options for the future of KDC, two of which were to “BK the company” or to “[f]orm as you suggested a new acquisition company and buy the assets.” The file also included a memorandum listing ways to “handle” the shareholders with whom KDC was having trouble, including bringing claims against them for violating the confidentiality provisions of their contracts.

Sullivan noticed several gaps in the file. About a month after GPM had sent over the KDC file, he wrote to the firm that the file included “no emails from Mr. Tenenbaum's mailbox or from the mailbox of Jennifer Dasari,” and requested that GPM recheck its records and produce the correspondence. On November 26, 2006, eight months after GPM had sent over its file, Sullivan requested that Gray Plant reexamine its files to locate an attachment referenced in an email. The law firm produced documents after both requests. Sullivan did not follow up with a request for handwritten notes, but those were largely absent from the file as well: only 4 pages of attorney notes were included. Gray Plant apparently has a policy to not include any handwritten attorney notes in client file transfers. (As part of the disclosures in the present action, Gray Plant produced 77 additional pages of attorney notes, as well as 47 pages of additional documents, including more emails.)

After the initial file transfer on April 7, 2006, Richard Wanke, a KDC shareholder, wrote Sullivan an email that read, in relevant part:

Harry and Gibbs indicated that Gray Plant and Mooty appraised the stock at $0.01. I believe it was Tennenbaulm [sic]. Gee, I wonder what his credentials are? Note also that Phil Bohls [sic] denied that they appraised the stock. My gut feeling is that Tennenbalm [sic], Don's (Consolidated Interests Corporation CIC) personal attorney, said he thought Don could get away with $0.01 per share based on Don's trash talk about the company. Definitely a conflict of interest.

Wanke later testified that he was referring to Johnson's conflict of interest with the company, not to any potential conflict of interest between Tenenbaum and KDC, or GPM and KDC.

D. Resolution of the Initial Suit

After the initial transfer of KDC's client file, Sullivan filed an amended complaint in the initial suit on June 27, 2006, adding Johnson and First Products, Inc. as defendants, and adding charges for fraud and conspiracy. The complaint alleged that Johnson and others had conspired to issue additional voting shares to seize control of KDC, and steal its assets and corporate opportunities and redirect them to First Products, Inc. An element of this conspiracy, the complaint alleged, was the pressuring of Stanley Popko, a stockholder “unfriendly” to the conspiracy, to return his KDC stock by threatening to have the company issue a Form 1099 to Popko based on a valuation of one dollar per share. This valuation was much higher than Popko's basis in the stock, and would have resulted in significant tax liability to him.

In September 2008, KDC deposed Bohl and Tenenbaum as part of the initial lawsuit. During their depositions, Bohl and Tenenbaum testified that in March 2007, Gray Plant had been engaged by First Products, Inc. in matters unrelated to the pending suit. The firm had not contacted either company to obtain a waiver of conflict for this representation. GPM received more than $80,000 in legal fees for its representation of First Products, Inc. These payments were pursuant to the law firm's typical rates, for services rendered.

In January 2010, a Wisconsin state judge entered judgment in the initial lawsuit, finding some of the defendants, including Johnson, had engaged in a civil conspiracy to defraud KDC and steal its assets.

E. Commencement of Suit against GPM

In July 2011, KDC's bankruptcy trustee, McNeilly, was contacted by attorney Michael Erhard, who had been retained by KDC to review the plausibility of pursuing claims against Gray Plant. In an email exchange discussing the potential suit, Erhard wrote that “[a]s it pertains to the applicable statute of limitations, we calculate that if at all possible the suit against Gray, Plant, Mooty should be filed by no later than the end of August [2011].” Six months later, on March 26, 2012, Erhard wrote to Gray Plant enclosing a draft complaint and offering to settle the case for the payment of $6,000,000. The demand letter noted that “[KDC] only learned of Gray Plant Mooty's role in the conspiracy in 2007 [sic—the depositions were in 2008], when Attorneys Tenenbaum and Bohl were...