Dig. Media Sols. v. S. Univ. of Ohio
| Decision Date | 07 February 2023 |
| Docket Number | 21-4014 |
| Parties | Digital Media Solutions, LLC, Plaintiff, v. South University of Ohio, LLC, et al., Defendants, Emmanuel Dunagan; Jessica Muscari; Robert J. Infusino; Stephanie Porreca, Intervenor Plaintiffs-Appellants, Mark E. Dottore, Receiver-Appellee. |
| Court | U.S. Court of Appeals — Sixth Circuit |
Argued: July 19, 2022
Appeal from the United States District Court for the Northern District of Ohio at Cleveland. No. 1:19-cv-00145-Dan A Polster, District Judge.
ARGUED:
Matthew W.H. Wessler, GUPTA WESSLER PLLC, Washington, D.C for Appellants.
Robert T. Glickman, MCCARTHY, LEBIT, CRYSTAL &LIFFMAN CO., LPA, Cleveland, Ohio, for Appellee.
ON BRIEF:
Matthew W.H. Wessler, GUPTA WESSLER PLLC, Washington, D.C., Eric Rothschild, NATIONAL STUDENT LEGAL DEFENSE NETWORK, Washington, D.C., for Appellants.
Robert T. Glickman, Hugh Berkson, MCCARTHY, LEBIT, CRYSTAL &LIFFMAN CO., LPA, Cleveland, Ohio, Mary K. Whitmer, James W. Ehrman, WHITMER &EHRMAN LLC, Cleveland, Ohio, for Appellee.
David A. Castleman, RAINES FELDMAN LLP, New York, New York, for Amicus Curiae.
Before: GIBBONS, ROGERS, and MURPHY, Circuit Judges.
Before the modern bankruptcy laws, federal courts had long reorganized distressed corporate debtors using an equitable remedy: the appointment of a receiver in an "equity receivership" to gather and safeguard the debtor's assets for a fair division among its creditors. These receiverships, although rare, continue to exist today. Receivers must administer the debtor's property in accordance with the "historical practice" of courts of equity. Fed.R.Civ.P. 66. In this case, the receiver and several non-receivership parties entered into a settlement that was contingent on the district court's issuance of a "bar order" that would permanently bar non-settling third parties from pursuing personal-liability claims against nondebtors who were not in the receivership. The district court approved this settlement and entered the requested bar order. This case therefore raises the question of whether historical principles of equity allowed the court to issue an injunction that protected the non-receivership assets of nonreceivership parties. Because that type of non-debtor relief amounts to a remedy "previously unknown to equity jurisprudence," the district court lacked the authority to issue the bar order. Grupo Mexicano de Desarrollo S.A. v. All. Bond Fund, Inc., 527 U.S. 308, 332 (1999). We thus reverse and remand for proceedings consistent with this opinion.
The path to this appeal starts in 2017 when the Dream Center Foundation, a California non-profit corporation, formed a subsidiary named Dream Center Education Holdings, LLC. To distinguish these two entities, we will refer to the parent as the "Foundation" and the subsidiary as "Dream Center." Seeking to participate in higher education as part of its religious mission, the Foundation created Dream Center to purchase three university systems with locations across the country: South University, Argosy University, and the Art Institutes. State attorneys general had recently brought consumer-protection lawsuits against the seller of these universities, a for-profit entity named Education Management Corporation, challenging its tactics in recruiting students. After entering into consent judgments to settle those suits, Education Management fell on financially hard times and sought to divest the universities. Dream Center planned to convert them into non-profits. Education Management and Dream Center closed their transaction in early 2018, at which point Dream Center took over management of the three university systems.
From the outset, Dream Center struggled to operate them. According to Dream Center, Education Management had overrepresented the universities' revenues by millions and underestimated their expenses by large amounts too. The universities' precarious financial position forced Dream Center to close thirty campuses in 2018.
By the end of that year, Dream Center had failed to turn things around. Unpaid landlords, vendors, and other creditors began to file a deluge of lawsuits against it. Most relevant here, four students who attended the Illinois Institute of Art (the "Art Students") brought a class-action suit in an Illinois court against this art school, Dream Center, the Foundation, and the directors and officers of these entities. According to the complaint, the Higher Learning Commission had stripped the Illinois Institute of Art of its accreditation in early 2018, but the school's officials had falsely told students for many months that it remained accredited. In July 2018, Dream Center decided to close the Institute by the end of the year. The Art Students brought fraud-based claims against Dream Center and the other defendants.
Finding itself unable to pay millions of dollars of liabilities, Dream Center faced a legal quandary. It did not want to seek bankruptcy protection because it feared that a bankruptcy filing would cut off its main source of income (funding from federal student loans) under the federal education laws. Dream Center began to consider, as an alternative to bankruptcy, the possibility of an equity "receivership" and the appointment of a receiver in one of the suits filed against it.
This possibility came to pass in January 2019 when Digital Media Solutions sued Dream Center and two of its university systems in the District Court for the Northern District of Ohio. Digital Media alleged that it had agreed to help Dream Center recruit students, but that Dream Center had not paid any of its invoices-which had grown to $252,737. Digital Media filed a motion with its complaint seeking the appointment of a receiver-Mark Dottore-to oversee Dream Center's operations. Dream Center quickly consented to the request. The district court appointed Dottore (whom we will call the "Receiver") to operate Dream Center and many of its universities and subsidiaries. (Because the differences between Dream Center and the other receivership entities do not matter now, we will generally refer to them all as "Dream Center" for simplicity.) The district court's order gave the Receiver the right to manage Dream Center and control its property, including its cash accounts and its claims against third parties. The order also stayed all pending actions seeking to obtain Dream Center's property. In the Illinois suit, the Art Students filed a notice of stay of their claims against Dream Center (but not against the Foundation or the directors and officers).
After operating Dream Center for over two years, the Receiver decided that the potential claims against it greatly exceeded its potential assets. Among the potential liabilities, Dream Center's debts to its secured lenders had ballooned to well over $100 million. In addition, the federal government had discharged the student-loan debts of many students who attended a Dream Center university (including the Art Students). The Receiver estimated that the government's claims against Dream Center had likewise grown to over $100 million. Many other students also asserted claims against Dream Center. Dream Center lastly had failed to fund its employee health-care plan, so former employees had claims against it for unpaid medical bills.
Among the potential assets, Dream Center possessed several insurance policies with a maximum value of $60 million. This appeal concerns the primary and excess insurance policies issued by National Union Fire Insurance Company of Pittsburgh. These two policies had a maximum combined payout of $20 million. They protected Dream Center's directors and officers against liabilities and defense costs arising from covered claims brought against them for their conduct managing Dream Center. Yet the high cost of the legal defense in the existing suits (including the Art Students' suit) had already depleted the total payout available to cover any actual liability judgment.
Although the insurance policies provided coverage for liabilities against Dream Center's directors and officers (and, according to the Receiver, the Foundation and its directors and officers), the policies did not protect Dream Center itself (that is, the receivership entity). At the same time, the Receiver believed that Dream Center had legal claims against the directors and officers that the policies would cover. He thus sent them a "confidential" demand letter raising these purported claims and proposing a settlement. Mot., R.674, PageID 15380. As far as we can tell, the Receiver has not produced this letter or identified the nature of these "claims" in any detail.
After months of negotiations, the Receiver reached a settlement with the directors and officers, the Foundation, and National Union to bring the proceeds from National Union's insurance policies into Dream Center's receivership estate. The Receiver released Dream Center's purported claims against its directors and officers and the Foundation. The directors and officers and the Foundation likewise released any claims that they had against Dream Center and the Receiver. And these parties all released National Union from any further obligations. In exchange, National Union agreed to pay $8.5 million into Dream Center's estate from the primary policy. This amount allegedly reached that policy's $10-million cap when adding in the defense costs that the directors and officers had already incurred.
Critically the settlement hinged on the district court's entry of a "Bar Order" that would affect the rights of others who were not parties to the agreement. The Bar Order would "bar" third parties (including the Art Students) from pursuing their claims against not just Dream Center (the entity whose property...
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