Eldridge v. Gordon Bros. Grp. LLC

• Decision Date: 04 August 2011
• Docket Number: CIVIL ACTION NO. 08-11254-DPW
• Parties: DAVID KAY ELDRIDGE, RAY ELDRIDGE, JR., D. CHRIS ELDRIGE, as trustee, not individually, of the C. ELDRIDGE 1994 GST TRUST, PATRICIA K. SAMMONS, as trustee, not individually, of the P.K. SAMMONS 1994 GST TRUST, C. ELDRIDGE 1994 GST TRUST, P.K. SAMMONS 1994 GST TRUST, and K'S MERCHANDISE MART, INC. Plaintiffs. v. GORDON BROTHERS GROUP, LLC, WILLIAM WEINSTEIN, FRANK MORTON, Defendants.
• Court: U.S. District Court — District of Massachusetts

DAVID KAY ELDRIDGE, RAY ELDRIDGE, JR., D. CHRIS ELDRIGE, as trusteenot individually, of the C. ELDRIDGE 1994 GST TRUST, PATRICIA K. SAMMONS as trustee, not individually, of the P.K. SAMMONS 1994 GST TRUSTC. ELDRIDGE 1994 GST TRUST, P.K. SAMMONS 1994 GST TRUST and K'S MERCHANDISE MART, INC.Plaintiffs. v.GORDON BROTHERS GROUP, LLC, WILLIAM WEINSTEIN, FRANK MORTON, Defendants.

CIVIL ACTION NO. 08-11254-DPW

UNITED STATES DISTRICT COURT DISTRICT OF MASSACHUSETTS

Dated: August 4, 2011

MEMORANDUM AND ORDER

Plaintiffs, K's Merchandise Mart, Inc.("Old K's") and its shareholders, brought this action against Gordon Brothers Group, LLC("Gordon") and two of its executives, William Weinstein and Frank Morton, (collectively, "Defendants") following the liquidation of Old K's assets.Plaintiffs contend Defendants made several misrepresentations, including that they planned to save the company from liquidation, when in fact they had no intention to do so.Defendants have moved for partial summary judgment.For the reasons stated below, I will grant Defendants' motion.

I.BACKGROUND

A.Old K's Structure and Challenges

Old K's, was a Delaware-based retail business founded by the Eldridge family in the 1950's.The company offered general merchandise products, including furniture and jewelry across the country.David Kay Eldridge("Kay") and his brother, Ray, were respectively the President and the Vice-President of Old K's and each held almost 50% of Old K's shares.Kay Eldridge's children, Patricia Sammons and Chris Eldridge, were also involved in the family business, as co-trustees of a trust that owned a small amount of the company's shares.

For many years, Old K's was a successful family business.Starting in 2000 however, the company began to face intense pressure from large discount retailers such as Wal-Mart and Target, or "category killer" specialty stores, such as Best Buys and Toys "R"Us.This competition had a negative impact on the company's sales, resulting in a net loss of $1.8 million in 2004.Old K's sales did not constitute its only source of financing.The company also benefitted from a revolving loan obtained in 2001 from LaSalle Bank National Association("LaSalle").¹

B.Reports Recommending the Liquidation of Old K's

Due to the company's poor performance, Old K's consulted inMay 2005 with William Blair & Co.("Blair"), an investment firm, about the prospect of selling the family business within a year.Blair stressed that the prospect of a strategic buyer was unlikely and that "liquidation was the most logical approach for the owners."Shortly thereafter, Blair introduced Old K's Chief Financial Officer, Richard Powers, and Old K's attorney, John Cobb, to Gordon.By agreement dated July 20, 2005, Old K's retained Gordon to "provide preliminary advice and consultation to [Old K's] in connection with a possible orderly liquidation of [Old K's]'big box' format stores . . . [and] develop a plan for the disposition of all inventory in the [s]tores with reference to the optimal timing of a 'store closing' or similar themed sale."The purpose of retaining Gordon was, in Kay Eldrige's view, to obtain "different viewpoints and evaluate [Old K's] options" in the event they"decide[d] to liquidate."

At the end of August 2005, Gordon extended an offer to buy Old K's business for $25 million.Kay Eldridge refused Gordon's offer, on the assumption that the company was worth much more.Nevertheless, Old K's performance continued to decline in the months following Gordon's offer.Despite the holiday season, Old K's suffered a much higher loss in the fiscal year ending in January 2006 than in the previous year.²Shortly thereafter,LaSalle sent Old K's a notice of default for violation of the financial performance covenants, reduced its line of credit by $4 million, and stopped honoring checks to Old K's vendors, thereby putting the company in a dire financial situation.Robert Barnhard of LaSalle met with representatives of Old K's in February 2006.During this meeting, Barnhard openly disagreed with the company's intention to reduce its inventory to improve profitability, and requested the production of a 13-week cash flow projection and business plan.Because Old K's was unable to comply with this request, LaSalle retained Alliance Management, Inc.("Alliance"), a consulting firm, to evaluate Old K's performance.

Alliance issued a report on February 28, 2006.Noting that the accumulated loss had "exceeded $8 million dollars for the 3 year period," Alliance found that Old K's was "facing significant liquidity challenges that [we]re material to the continuing business operations."Alliance also noted that Old K's "business model does not appear to be feasible given the current configuration of the company and its capital structure."Following the issuance of this report, LaSalle demanded that Old K's be liquidated by the end of April 2006.

In an effort to ease the pressure from LaSalle, Old K's hired a consulting firm, Buccino & Associates("Buccino").Like Alliance, Buccino concluded that Old K's was facing a liquidity crisis and "would be out of cash by October [2006], possibly as early as July [2006]."The role of Buccino soon shifted to assisting Old K's in preparing a plan to sell substantially all of the assets of the company.In Buccino's view, "[i]t was very quickly understood that there wasn't time or money to effect a turnaround."

LaSalle and Old K's entered into a forbearance agreement on April 5, 2006, in which Old K's admitted defaults with regard to its coverage ratio and confirmed its intention to file a voluntary bankruptcy notice on April 17, 2006.To this end, Old K's retained bankruptcy counsel, Mayer Brown, LLP, and a bankruptcy communications consultant, Sitrick & Company.In addition, Old K's sought proposals to conduct a nationwide liquidation sale from the major liquidation firms, including Gordon, Hilco, American Group, and Tiger Capital.

C.The Representations Made by Gordon and the Letter of Intent

Meanwhile, Gordon remained interested in acquiring Old K's.In an email sent to several Gordon's employees on March 30, 2006, Weinstein described his strategy as follows:

Guys, we felt like there was $20ml of equity in the deal 6 months ago.It did not erode that quickly.We need to see in our numbers how much of the real estate is company owned versus outside the company.We think most is in thecompany which is good.This case could be a classic out of court deal.We guarantee the bank to shut them up.We go to a creditor rights lawyer and hire them to represent the trade in an out of court.We either propose a plan or percentage plan distribution at less than 100% and more than a bankruptcy would pay them.We pick up the 'equity' in the discount.We run through x-mas out of court.

So we had $6.0ml over the debt before any costs, losses, fees etc.Not so great.Here is the upside though.If we can cash the trade for let's say 70% (should be a no brainer in today's market)we pick up $6.0ml.If we can get to a x-mas sale with augment, I think the net is close to 100 cents on cost if not more.

In early April, Weinstein and Morton met with representatives of Old K's to discuss the prospect of guaranteeing the loan with LaSalle and acquiring the company.During this meeting, Defendants made several representations, which are at the core of the present matter.Defendants represented that, upon completion of the creditor composition, they planned to operate Old K's as a going concern at least through the Christmas selling season before making a decision on whether to continue the operations, sell or liquidate the company.They assured Old K's management that they had the expertise and experience to do so.Further, Defendants stated that Gordon would guarantee payment for future shipments from suppliers within a week, that they would consult with Old K's management prior to making any major decisions with regard to the company's operations, and that Weinstein would rent an apartment in Decatur, where Old K's headquarters were located, in an attempt to keep the company running.

Based on these representations, Old K's and [Gordon] entered into a letter of intent on April 5, 2006.Pursuant to this letter, [Gordon] became Old K's "exclusive agent in connection with the continued operation and/or liquidation of the Company's business operations and disposition of assets of the Company . . . all in Gordon's sole discretion (but [Gordon] will use best efforts to keep the Company's officers reasonably informed of [Gordon]'s decision-making process)."The letter also provided that "it may be necessary to restructure the Company entity in order to accomplish the foregoing as well as the economic equivalent of the [t]ransaction."

Shortly thereafter, Defendants attempted to convince LaSalle to continue financing Old K's outside of a bankruptcy proceeding, but LaSalle insisted on being paid in full.As a result, on April 12, 2006, Gordon Retails Partners, LLC advanced approximately $40 million necessary to pay LaSalle off in full and became Old K's lender.During the same time period, Defendants and Old K's attorneys prepared a draft moratorium letter to be sent to all Old K's creditors.As part of that process, Weinstein sent an email on April 28, 2006 to Old K's attorneys, copying Richard Powers, Old K's CFO, suggesting that the draft should make clear the following:

Where it says [Gordon] desires to run this as a going concern, I would rather soften this to say that we will do so as we evaluate whether a restructuring of the company is feasible.Something like this.I do not wantto sound like we are committing to this.

Along the same lines, Weinstein again reminded Old K's attorneys and its CFO on May 1, 2006 that the draft should not overstate Gordon's intention:

It is clearly our intention to run the company for a period of time while we determine what the right configuration/make-up of the business is.We

...