Giuliano v. Schnabel (In re Dsi Renal Holdings, LLC)

• Citation: 574 B.R. 446
• Decision Date: 20 July 2017
• Docket Number: Adv. Proc. No. 14–50356 (KJC),Case No. 11–11722 (KJC)
• Parties: IN RE: DSI RENAL HOLDINGS, LLC, et al., Debtors. Alfred T. Giuliano, as Chapter 7 Trustee, Plaintiff, v. Michael Schnabel, et al., Defendants.
• Court: U.S. Bankruptcy Court — District of Delaware

574 B.R. 446

IN RE: DSI RENAL HOLDINGS, LLC, et al., Debtors.Alfred T. Giuliano, as Chapter 7 Trustee, Plaintiff,

v.Michael Schnabel, et al., Defendants.

Case No. 11–11722 (KJC)

Adv. Proc. No. 14–50356 (KJC)

United States Bankruptcy Court, D. Delaware.

Signed July 20, 2017

Matthew Barry Lunn, Justin H. Rucki, Young, Conaway, Stargatt & Taylor LLP, Wilmington, DE, for Debtors.

Andrew J. Belli, Steven M. Coren, Benjamin M. Mather, Kaufman, Coren & Ress, P.C., Philadelphia, PA, Austin C. Endersby, Seth A. Niederman, Vincent J. Poppiti, Fox Rothschild LLP, Wilmington, DE, for Plaintiff.

Andrew R. Remming, Eric D. Schwartz, Morris, Nichols, Arsht & Tunnell LLP, Jennifer Catherine Wasson, Potter Anderson & Corroon LLP, Wilmington, DE, Edward D. Kutchin, Kerry R. Northup, Berluti McLaughlin & Kutchin LLP, Boston, MA, J. Mark Fisher, Michael W. Ott, Schiff Hardin LLP, Chicago, IL, Robert H. Pees, Steven M. Pesner, Akin Gump Strauss Hauer & Feld LLP, Thomas P. Battistoni, Schiff Hardin LLP, New York, NY, Stan Chiueh, J. Matthew Evans, for Defendants.

OPINION

BY: KEVIN J. CAREY, UNITED STATES BANKRUPTCY JUDGE

BACKGROUND

On June 3, 2011 (the "Petition Date"), Debtors DSI Renal Holdings LLC ("DSI Renal Holdings"), DSI Hospitals, Inc. ("DSI Hospitals"), and DSI Facility Development, LLC ("DSI Facility"), filed voluntary petitions for relief under Chapter 7 of the United States Bankruptcy Code¹ in the United States Bankruptcy Court for the District of Delaware.² On May 20, 2013, Alfred T. Giuliano, as Chapter 7 Trustee for the jointly administered Chapter 7 estates of the Debtors (the "Trustee"), filed an adversary complaint (the "Complaint") in the United States District Court for the Eastern District of Pennsylvania (the "Pennsylvania District Court") against Apollo Investment Corporation ("Apollo"), Ares Capital Corporation ("Ares"), the Centre Defendants,³ the Director and Officer Defendants (the "D & O Defendants"),⁴ and The Northwestern Mutual Life Insurance Company, for itself and for its Group Annuity Separate Account (in either capacity, the "NML Defendants")⁵ seeking, among other things, to recover in excess of $425 million in alleged fraudulent transfers.⁶ On August 5, 2013, the Defendants filed motions to dismiss the Complaint for failure to state a claim and, with regard to Count 8, lack of subject matter jurisdiction (the "Motions to Dismiss"),⁷ and motions to dismiss for improper venue or, in the alternative, to transfer the action to the United States District Court for the District of Delaware (the "Delaware District Court") for referral to this Court (the "Improper Venue Motions").

On March 17, 2014, the Pennsylvania District Court entered an order transferring the case to the Delaware District Court.⁸ The Delaware District Court referred the case to this Court,⁹ commencing this adversary proceeding (Adv. Proc. No. 14–50356 ). Subsequently, I heard oral argument on the Motions to Dismiss. For the reasons set forth herein, the Motions to Dismiss will be denied in part, granted in part, and deferred in part.

The following chart presents the counts from the Complaint, and states whether the Motions to Dismiss are denied, granted or deferred as to each Count, for reasons discussed in this Opinion.

 Count Claim Motion to Defendants
                Number Dismiss
                denied or
                granted
                     1      Avoidance of Transfers Pursuant      Denied             All Defendants
                             to 11 U.S.C. § 548(a)(1)(A)
                     2      Avoidance of Transfers Pursuant      Deferred           All Defendants
                            to 11 U.S.C. § 548(a)(1)(B)
                     3      Avoidance of Transfers Pursuant      Deferred           All Defendants
                            to 6 Del. C. §§ 1304 & 1305, and
                                     11 U.S.C. § 544
                     4      Recovery of Transfers under 11       Denied in          All Defendants
                                    U.S.C. § 550               part; Deferred
                                                                   in part
                     5        Breach of Fiduciary Duty             Denied       D&O Defendants and Centre
                                                                                      Defendants
                     6      Aiding and Abetting Breach of          Denied            All Defendants
                                   Fiduciary Duty
                     7             Corporate Waste              Granted in      D&O Defendants and Centre
                                                               part, Denied           Defendants
                                                                  in part
                     8            Declaratory Judgment            Granted
                     9      Equitable Subordination under 11   Withdrawn10           All Defendants
                                     U.S.C. § 510(c)
                

[Editor's Note: The preceding image contains the reference for footnote¹⁰]

JURISDICTION

The Court has jurisdiction over this matter pursuant to 28 U.S.C. § 1334 and § 157(a). Counts 1 through 4 are core proceedings pursuant to 28 U.S.C. § 157(b)(1) and (b)(2)(H). The remaining counts are non-core. The Trustee demands a jury trial for all claims, and does not consent to the entry of final judgment or adjudication by this Court. Compl. ¶ 4.

The Bankruptcy Court may enter an order on a motion to dismiss even if the matter is non-core or it has no authority to enter a final order on the merits.¹¹ To the extent parties do not agree that this Court may enter a final order for non-core related proceedings, or if any court determines that a final order or judgment in this matter by this Court is not consistent with Article III of the United States Constitution, then this Opinion and Order are submitted as proposed findings of fact and conclusions of law in accordance with the District Court's Amended Standing Order of Reference dated February 29, 2012.¹²

FACTUAL ALLEGATIONS

This case is somewhat unusual in that, before filing his Complaint, the Trustee had the benefit of extensive discovery through (a) numerous documents in the Trustee's possession, including company board minutes, internal and external company emails, insider emails and internal notes and emails of the Debtors' prior counsel; and (b) sworn deposition testimony taken in connection with the Trustee's investigation and examinations under Fed. R. Bankr. P. 2004, including those of (i) the Debtors' former outside counsel, (ii) Defendant Murphy, (iii) Defendant Yalowitz, and (iv) Defendant Schnabel. Compl. ¶ 89. A summary of the factual allegations in the Complaint follows.

The Debtors (DSI Renal Holdings, DSI Hospitals, and DSI Facility), are the empty shells of a healthcare conglomerate that once comprised more than twenty-five companies. Compl. ¶ 35. On the Petition Date, DSI Renal Holdings and DSI Facility were Delaware limited liability companies, and DSI Hospitals was a Delaware corporation. Compl. ¶ 7. Prior to the Petition Date, the Debtors' ultimate parent, DSI Holding Company, Inc. ("DSI Holding"), a Delaware corporation, was merged into DSI Renal Holdings during a restructuring in 2010, with DSI Renal Holdings as the surviving company. Compl. ¶ 7, 83–85.

The crux of the Trustee's Complaint is that the Defendants orchestrated a restructuring of the DSI entities through a complex series of agreements, transfers and transactions that, ultimately, stripped DSI Renal Holdings (formerly DSI Holding) of its valuable assets by diluting its 100% ownership of the operating subsidiaries to less than one-thousandth of a percent of an interest (i.e., 1 share of a total of 138,154.275 shares) in the post-restructuring entity. Compl. ¶¶ 71–85. The Trustee alleges that, as a result of the restructuring, the Debtors were left as insolvent shells, with liabilities in excess of $40 million and assets as little as $300,000. Compl. ¶ 86a. When the Renal Business (defined infra. ) was sold in February 2011 for more than $700 million to DaVita, Inc. (the "DaVita Merger Transaction") (Compl. ¶¶ 1, 100), the Debtors remained insolvent, while the Defendants shared sale proceeds of more than $425 million. Compl. ¶ 86b.

The Pre–Petition Companies

DSI Holding, the prepetition parent company, through its 100% ownership of DSI Renal Holdings, DSI Renal, Inc. ("DSI Renal") and its operating subsidiaries, was the fifth-largest provider of outpatient dialysis clinics in the United States, owning and operating 106 clinics and providing services to twenty-six acute care facilities (the "Renal Business"). Compl. ¶¶ 36, 74(b). As of October 31, 2009, the Debtors' clinics treated approximately 7,800 patients in twenty-three states and generated annual revenues of approximately $350 million. Id.

The Trustee alleges that the Debtors and their subsidiaries operated as a single entity, with millions of dollars routinely transferred among the companies without regard to which company generated the cash or which company incurred the expense being paid. Compl. ¶ 44.

For the year ending December 31, 2008, the Debtors—who had filed consolidated tax returns—suffered a write-down of more than $100 million in the value of accounts receivable. Compl. ¶ 37. Around October 2008, Defendant Lief Murphy was hired to serve as CEO and implement a turnaround plan. Compl. ¶ 38.

Debtor DSI Hospitals (a subsidiary of DSI Holding) owned a specialty breast cancer

treatment hospital in Bensalem, Pennsylvania—Bucks County Oncoplastic Institute, LLC (the "Bucks County Hospital" or "Bucks County"). Compl. ¶ 39. Because the Bucks County Hospital was never profitable and incurred tens of millions of dollars of losses, Defendant Murphy recommended closure of the Bucks County Hospital. Compl. ¶¶ 40–41.

After unsuccessful negotiations with secured creditor MPT of Bucks County, L.P. ("MPT"), DSI Hospitals closed the Bucks County Hospital. Compl. ¶¶ 45–46. According to an email authored by DSI Holding's former CEO, DSI Holding guaranteed between $7–9 million of claims owing to creditors of the Bucks County Hospital (MPT and Siemens). Compl. ¶ 90(c).

The Tennessee Bankruptcy Case

The Trustee alleges that, to avoid DSI Holdings' liability for the debts of the Bucks County Hospital, the...