Kelley v. Eide Bailly, LLP (In re Petters Co.)

• Decision Date: 12 October 2012
• Docket Number: Court File No. 08–45327 (GFK).,Court File No. 08–45258 (GFK).,Court File No. 08–45371 (GFK).,Court File No. 08–45331 (GFK).,Court File No. 08–45392 (GFK).,Bankruptcy No. 08–45257.,Court File No. 08–45328 (GFK).,Court File No. 08–45329 (GFK).,Court File No. 08–45326 (GFK).,Adversary No. 12–4008.,Court File No. 08–45330 (GFK).
• Citation: 480 B.R. 346
• Parties: In re PETTERS COMPANY, INC., et al., Debtors. (includes: Petters Group Worldwide, LLC; PC Funding, LLC; Thousand Lakes, LLC; SPF Funding, LLC; PL Ltd., Inc.; Edge One LLC; MGC Finance, Inc.; PAC Funding, LLC; Palm Beach Finance Holdings, Inc.). Douglas A. Kelley, in his capacity as the court-appointed Chapter 11 Trustee of Debtor Petters Company, Inc., PC Funding, LLC, Thousand Lakes, LLC, and PAC Funding, LLC, Plaintiff, v. Eide Bailly, LLP, Defendant.
• Court: U.S. Bankruptcy Court — District of Minnesota

480 B.R. 346

In re PETTERS COMPANY, INC., et al., Debtors.(includes: Petters Group Worldwide, LLC; PC Funding, LLC; Thousand Lakes, LLC; SPF Funding, LLC; PL Ltd., Inc.; Edge One LLC; MGC Finance, Inc.; PAC Funding, LLC; Palm Beach Finance Holdings, Inc.).Douglas A. Kelley, in his capacity as the court-appointed Chapter 11 Trustee of Debtor Petters Company, Inc., PC Funding, LLC, Thousand Lakes, LLC, and PAC Funding, LLC, Plaintiff,

v.Eide Bailly, LLP, Defendant.

Bankruptcy No. 08–45257.

Court File Nos. 08–45258 (GFK), 08–45326 (GFK), 08–45327 (GFK), 08–45328 (GFK), 08–45329 (GFK), 08–45330 (GFK), 08–45331 (GFK), 08–45371 (GFK), 08–45392 (GFK).

Adversary No. 12–4008.

United States Bankruptcy Court, D. Minnesota.

Oct. 12, 2012.

Adam C. Ballinger, Daryle L. Uphoff, James A. Lodoen, James P. McCarthy, Mark D. Larsen, Lindquist & Vennum PLLP, Minneapolis, MN, for Plaintiff.

Peter A. Koller, Sarah E. Doerr, Thomas J. Shroyer, Moss & Barnett, Minneapolis, MN, for Defendant.

ORDER REQUIRING ARBITRATION AND STAYING FURTHER PROCEEDINGS

GREGORY F. KISHEL, Chief Judge.

This adversary proceeding came before the Court on the motion of the Plaintiff (“the Trustee”) for an order to compel the Defendant to participate in arbitration, and to stay further proceedings in this Court pending the completion of arbitration. The Trustee appeared by his attorneys, James A. Lodoen, James P. McCarthy, and Adam C. Ballinger. The Defendant (“Eide Bailly”) appeared by its attorneys, Peter A. Koller and Thomas J. Shroyer. Connie A. Lahn appeared for the Committee of Unsecured Creditors in the underlying cases. The following order is based on the moving and responsive documents and the arguments of counsel.

BACKGROUND AND CONTEXT

This adversary proceeding was sued out in a group of Chapter 11 cases that were commenced after the failure of the enterprise structure of Thomas J. Petters.¹ The plaintiff is the trustee who is administering the estates in the cases.

Technically, this lawsuit is not part of the Trustee's “clawback” effort, i.e., avoidance litigation commenced under bankruptcy law against investor-lenders, employees, and business associates who received substantial sums from the Petters entities during the active operation of the fraudulent scheme purveyed by Tom Petters and his associates.² Rather, the Trustee's main theory of suit against Eide Bailly is malpractice; he alleges that the Defendant failed to comply with professional duties, as to accounting and audit functions that Eide Bailly performed in 2008 under engagement agreements.³ Eide Bailly was engaged to do audits for debtors PC Funding, LLC and Thousand Lakes, LLC, and a “review” of PAC Funding, LLC.

The gravamen of this theory is that Eide Bailly failed to follow professional standards in evaluating the assets and financial statements for these entities; and that had it followed standards, the incidents of the fraud (a nearly complete absence of real, contracted transactions, hard inventory assets, and bona fide, collectible accounts receivable within Tom Petters's operation) would have come to light.

The signatory-clients under the written documentation were the three entities just named. All of them were so-called “special purpose entities” (“SPEs”), subsidiaries of Debtor Petters Company, Inc. (“PCI”). They had been formed as the vehicles for financing, cash-flow management, and debt repayment in connection with the business of “diverting” in which PCI was ostensibly engaged, i.e., the intermediation of bulk lots of consumer goods, facilitating their sale between wholesalers or retailers that held them as excess inventory and retailers that would want to acquire them for resale.⁴

The Trustee has sued Eide Bailly on behalf of the bankruptcy estates of those three SPEs (which are debtors in their own right under Chapter 11), plus the bankruptcy estate of PCI. Under common factual assertions, he has pleaded alternative theories of liability against Eide Bailly. They include malpractice and the failure to meet an auditor's professional responsibilities (Counts II and III of the complaint); aiding and abetting breaches of fiduciary duty by Tom Petters (Count IV); and breach of contract (Count V).

For its part, Eide Bailly denies any breach of duty or failure to comply with standards of care, as to the services it rendered for any of the debtor-entities. It categorically denies that it had any legal relationship with PCI under which it could be held liable to PCI in consequence of the engagements.

As affirmative defenses, Eide Bailly pleads unclean hands and in pari delicto. The gravamen of these affirmative defenses is that the Trustee, as successor-holder of these causes of action, is barred from recovery because Tom Petters and the business entities and persons in knowing cohort with him were the purveyors of a fraud that they actively concealed from Eide Bailly. As Eide Bailly would have it, its contracted clients were utterly complicit in the creation of any harm otherwise traceable to Eide Bailly's action or inaction, so the Trustee as successor-plaintiff is barred from recovery.⁵

Eide Bailly took the engagements under written letter-agreements. It used its own standard forms, which it required of Tom Petters for his business entities. There were three such agreements, each one signed by Deanna Coleman. (At that time, Coleman was one of the officers of PCI. Each letter-agreement identifies her as “VP Operations.”) The statement “ACCEPTED BY [the particular SPE]” appears above her signature on each.⁶

Each one included a so-called “arbitration clause,” worded as follows:

DISPUTE RESOLUTION

The following procedures shall be used to resolve any disagreement, controversy or claim that may arise out of any aspect of our services or relationship with you, including this engagement, for any reason (“Dispute”). Specifically, we agree to first mediate and, if unsuccessful, then arbitrate all Disputes between us, including without limitation any issue concerning the extent to which any Dispute is subject to arbitration, any Dispute concerning this agreement, the limitations of remedy provided by this agreement, or claims for breach of contract, negligence, fraud, fraud in the inducement, breach of fiduciary duty, violation of statute and any other cause of action or remedy.

...

Waiver of Jury V. Arbitration Clauses

Choice of Venue and Waiver of Jury Trial

We both agree to waive our legal right to a trial by jury for any Dispute, and to instead submit any unresolved Dispute to trial by a federal or state court venued in Fargo, North Dakota. We also both agree that the federal or state courts venued in Fargo, North Dakota shall have jurisdiction and exclusive jurisdiction over any Dispute.

Arbitration

If any Dispute has not been resolved within ninety (90) days after the written mediation notice, the mediation shall terminate and the Dispute will be settled by arbitration. The arbitration will be conducted in accordance with the procedures in this document and the Arbitration Rules of the Dispute Resolution Rules for Professional Accounting and Related Services Disputes of the American Arbitration Association, except where this agreement differs.

The arbitration will be conducted in Fargo, North Dakota before a panel of three (3) neutral arbitrators, two (2) of whom shall be practicing certified public accountants.

Any issue concerning the extent to which any Dispute is subject to arbitration, or concerning the applicability, interpretation, or enforceability of these procedures, including any contention that all or part of these procedures are invalid or unenforceable, shall be governed by the Federal Arbitration Act and resolved by the arbitrators.⁷

Through Count I of the Trustee's complaint, he seeks to have Eide Bailly compelledto submit to arbitration under the authority of these terms, and to have the litigation of this adversary proceeding stayed pending the completion of that arbitration. He filed this motion early in the litigation, demanding the benefit of the arbitration clause now as to all claims in suit.

Eide Bailly strenuously opposes the request, on a number of different legal arguments. Its attorneys make no bones about their client's motivation: they believe that an early assertion of the in pari delicto defense via a motion for dismissal or summary judgment would terminate the litigation in Eide Bailly's favor. They insist that such an outcome would be virtually mandated on the relevant pleadings and facts.⁸

The parties' arguments involve several layers of issues. All of them entail the body of law that regulates arbitration as a form of alternative dispute resolution. They arise solely from the text of the contractual clause in question, the posture of the various parties-in-suit as to the underlying engagement agreements, and the effect of the Federal Arbitration Act, 9 U.S.C. § 1, et seq, on that structure. No evidentiary development is necessary; this motion can be decided on the documentary record and the very thorough argument presented by counsel.

JURISDICTION AND JUDICIAL AUTHORITY

The matter of jurisdiction—and more pointedly, judicial authority—is an issue in this adversary proceeding, and for the motion at bar.

For the threshold issue of jurisdiction, it can be said safely that all of the Trustee's pleaded causes of action are either core proceedings in the Debtors' bankruptcy cases, 28 U.S.C. § 157(b)(2), or proceedings related to those cases, 28 U.S.C. § 157(c)(1). Hence, the bankruptcy jurisdiction of the district court lies, 28 U.S.C. § 1334(a)-(b). The underlying cases and this adversary proceeding are before the undersigned pursuant to reference from the district court, 28 U.S.C. § 157(a) and Loc. R. Bankr. P. (D. Minn.) 1070–1.⁹

After that, it gets a little more involved. For the allocation of judicial authority to order judgment, the counts of the Trustee's complaint, as addressed by Eide Bailly's answer, are of three...