McMahan & Co. v. Wherehouse Entertainment, Inc.

• Decision Date: 10 August 1994
• Docket Number: No. 88 Civ. 0321 (MJL),88 Civ. 9040 (MJL).,88 Civ. 0321 (MJL)
• Citation: 859 F. Supp. 743
• Parties: MCMAHAN & COMPANY, Froley, Revy Investment Co., Inc. and Wechsler & Krumholz, Inc., Plaintiffs, v. WHEREHOUSE ENTERTAINMENT, INC., Louis A. Kwiker, George A. Smith, Michael T. O'Kane, Lawrence K. Harris, Donald E. Martin, Joel D. Tauber, Furman Selz Mager Dietz & Birney Incorporated, Wei Acquisition Corp., Wei Holdings, Inc. and Adler & Shaykin, Defendants. Don THOMPSON, on behalf of himself and all others similarly situated, Plaintiff, v. WHEREHOUSE ENTERTAINMENT, INC., Louis A. Kwiker, George A. Smith, Michael T. O'Kane, Lawrence K. Harris, Donald E. Martin, Joel D. Tauber, and Furman Selz Mager Dietz & Birney Incorporated, Defendants.
• Court: U.S. District Court — Southern District of New York

859 F. Supp. 743

MCMAHAN & COMPANY, Froley, Revy Investment Co., Inc. and Wechsler & Krumholz, Inc., Plaintiffs, v. WHEREHOUSE ENTERTAINMENT, INC., Louis A. Kwiker, George A. Smith, Michael T. O'Kane, Lawrence K. Harris, Donald E. Martin, Joel D. Tauber, Furman Selz Mager Dietz & Birney Incorporated, Wei Acquisition Corp., Wei Holdings, Inc. and Adler & Shaykin, Defendants.

Don THOMPSON, on behalf of himself and all others similarly situated, Plaintiff, v. WHEREHOUSE ENTERTAINMENT, INC., Louis A. Kwiker, George A. Smith, Michael T. O'Kane, Lawrence K. Harris, Donald E. Martin, Joel D. Tauber, and Furman Selz Mager Dietz & Birney Incorporated, Defendants.

Nos. 88 Civ. 0321 (MJL), 88 Civ. 9040 (MJL).

United States District Court, S.D. New York.

August 10, 1994.

COPYRIGHT MATERIAL OMITTED

Abbey & Ellis, New York City, for plaintiff Thompson and Class; by Arthur N. Abbey.

Howard, Darby & Levin, New York City, for McMahan plaintiffs; by Philip K. Howard.

Weil, Gotshal & Manges, New York City, for defendants; by Dennis J. Block.

OPINION AND ORDER

LOWE, District Judge.

Before the Court are motions for partial summary judgment and summary judgment filed by plaintiffs and defendants respectively, and a report and recommendation ("R & R") by a United States Magistrate Judge addressing these motions in part. The motions were referred to Magistrate Judge Kathleen A. Roberts who recommends that this Court grant defendants' motion for summary judgment and dismiss the actions against it. For the reasons below, this Court adopts in part and declines to adopt in part this recommendation. Defendants' motion for summary judgment is granted in part and denied in part. Plaintiffs' motion for partial summary judgment is dismissed as moot.

BACKGROUND

The background of this action is also set forth in the R & R, in prior opinions of this Court, and in an opinion by the Court of Appeals.¹ The plaintiffs in the McMahan action, composed of financial institutions, and individual plaintiff Don Thompson in the Thompson action (collectively, "Plaintiffs") are holders of 6¼% convertible subordinated debentures (the "Debentures") issued in July of 1986 by Wherehouse Entertainment, Inc. ("Wherehouse"), a retailer of home entertainment and information software. The Debentures are due July 1, 2006. The governing indenture (the "Indenture"), between Wherehouse and Trustee Bank of America, provides debentureholders with a right to tender their debentures at 106.25% of par to Wherehouse upon the occurrence of certain "triggering events" listed therein. Indenture, § 5.01. One such event occurs when Wherehouse consolidates or merges with another company, unless that merger was approved by a majority of "Independent Directors," a term described in the Indenture. Indenture, § 5.02. This "right to tender" is also described in the prospectus through which the debentures were advertised.

On November 19, 1987, Shamrock Holdings, Inc. ("Shamrock") announced that it would commence a tender offer for Wherehouse's common stock. Subsequently, defendant Adler & Shaykin, an investment partnership, formed defendants WEI Acquisition Corp. and WEI Holdings, Inc., and bid for the Wherehouse stock. On December 20, 1987, the Board of Directors of Wherehouse unanimously approved, with one abstention, a merger with WEI Acquisition Corp. and WEI Holdings, Inc. The merger was announced the following day. Debentureholders were given the opportunity to tender their securities at 50.72% of par.

Plaintiffs attempted to tender their Debentures to Wherehouse following this merger, seeking a redemption price of 106.25% pursuant to the "right to tender." Wherehouse refused to permit Plaintiffs to exercise this right because the board had approved the merger. Plaintiffs commenced their respective suits against the various defendants, including: Wherehouse, various officers of Wherehouse, Furman Selz Mager Dietz & Birney ("Furman Selz") as the underwriter of the Debentures, the merging companies, and the bank financing the offer (collectively, "Defendants").²

Plaintiffs claim that they were misinformed about the true nature of the right to tender debentures, that the right was illusory, and that the registration statements and the prospectus, as well as oral representations, were materially misleading. They allege that the right was portrayed as valuable to debentureholders, creating a duty to them on the part of the "Independent Directors," but that they were not informed that the right to tender would not be triggered by a friendly acquisition of Wherehouse. They allege federal securities claims arising under the following: Section 11 of the Securities Act of 1933, 15 U.S.C. § 77k, for a misleading registration statement; Section 12(2) of the Securities Act of 1933, 15 U.S.C. § 77l, for a misleading prospectus or oral communication; and Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j, for fraud in connection with a sale of securities. In addition, they assert state-law claims based on breach of contract, interference with contract, breach of the implied duty of good faith, and fraudulent conveyance.

DISCUSSION

The Court will conduct a de novo review of the R & R and the parties' motions addressed therein. See 28 U.S.C. § 636(b)(1)(B); Fed.R.Civ.P. 72(b). A motion for summary judgment must be granted "if the pleadings, depositions, answers to interrogatories, and admissions on file, together with the affidavits, if any, show that there is no genuine issue as to any material fact and that the moving party is entitled to a judgment as a matter of law." Fed.R.Civ.P. 56(c). The facts are to be viewed favorably to the nonmoving party. Adickes v. S.H. Kress & Co., 398 U.S. 144, 158-59, 90 S.Ct. 1598, 1609, 26 L.Ed.2d 142 (1970). The moving party bears the burden of initially demonstrating the absence of a genuine issue of material fact. Id. at 159, 90 S.Ct. at 1609. This burden may be discharged as to issues on which the nonmoving party bears the ultimate burden by showing an absence of evidence in support of essential elements of that party's case. Celotex Corp. v. Catrett, 477 U.S. 317, 323-25, 106 S.Ct. 2548, 2552-54, 91 L.Ed.2d 265 (1986). The nonmoving party must then come forward with "specific facts showing that there is a genuine issue for trial." Fed.R.Civ.P. 56(e); Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 256, 106 S.Ct. 2505, 2514, 91 L.Ed.2d 202 (1986); Celotex, 477 U.S. at 324, 106 S.Ct. at 2553.

I. The R & R.

At the heart of Defendants' motion and the conclusion of the R & R is § 8.06 (the "No Action Clause") of the Indenture. The No Action Clause provides as follows:

Limitation on Suits. A Securityholder may pursue any remedy with respect to this Indenture or the Securities only if:

(1) the Holder gives to the Indenture Trustee written notice of a continuing Event of Default;³

(2) the Holders of at least 25% in principal amount of the Securities make a written request to the Trustee to pursue the remedy;

(3) such Holder or Holders offer to the Trustee indemnity satisfactory to the Trustee against any loss, liability or expense;

(4) the Trustee does not comply with the request within 60 days after receipt of the request and the offer of indemnity; and

(5) during such 60-day period the Holders of a majority in principal amount of the Securities do not give the Trustee a direction inconsistent with the request.

Indenture, § 8.06. Section 14 of the Debentures states in relevant part: "Securityholders may not enforce the Indenture or the Securities except as provided in the Indenture."⁴

In a well-reasoned and thorough report, Magistrate Judge Roberts analyzed the law pertaining to "no action" provisions and applied this law to the instant No Action Clause. Magistrate Judge Roberts found the No Action Clause valid and enforceable as to both Plaintiffs' securities and non-securities claims. Because Plaintiffs failed to comply with the No Action Clause, she recommends that summary judgment be granted in Defendants' favor and that Plaintiffs' entire complaint be dismissed.

A. Plaintiffs' Non-securities Claims.

No action clauses are frequently included in indentures to limit the types of suits arising from those agreements. See UPIC & Co. v. Kinder-Care Learning Ctrs., Inc., 793 F.Supp. 448, 454 (S.D.N.Y.1992) (citing the American Bar Foundation, Commentaries on Model Debenture Indenture Provisions, 232-34 (1971)). "These clauses are strictly construed," Cruden v. Bank of New York, 957 F.2d 961, 968 (2d Cir.1992), and have been enforced in a variety of contexts in both federal and state courts.

No action clauses have been used as a defense to the following types of debenture-related claims: civil claims brought under the Racketeer Influenced and Corrupt Organizations Act and fraudulent conveyance claims, see Victor v. Riklis, 91 Civ. 2897, 1992 WL 122911, at *6 (S.D.N.Y. May 15, 1992) (containing a "no action" clause identical in scope to the instant clause)⁵; actions to accelerate the time of payment on bonds, see Friedman v. Chesapeake and Ohio Ry. Co., 261 F.Supp. 728, 730 (S.D.N.Y.1966), aff'd, 395 F.2d 663 (2d Cir.1968), cert. denied, 393 U.S. 1016, 89 S.Ct. 619, 21 L.Ed.2d 561 (1969); actions to set aside transfers as violative of a trust indenture, see Relmar Holding Co. v. Paramount Publix Corp., 147 Misc. 824, 263 N.Y.S. 776, 778 (1932), aff'd, 237 A.D. 870, 261 N.Y.S. 959 (1933); and actions based on non-payment of coupons on debenture bonds, see Greene v. New York United Hotels, 236 A.D. 647, 260 N.Y.S. 405, 407 (1 Dept.1932), aff'd, 261 N.Y. 698, 185 N.E. 798 (1933) (securities held subject to the underlying trust agreement, which contained a no action clause). The Court will first determine whether the instant No Action Clause is a successful defense to Plaintiffs' state-law claims.

Plaintiffs contend that the No Action Clause does not apply to their situation because an absolute right to payment arose upon the...