MidCap Funding XLII Tr. v. Birch Hill Real Estate, LLC, Case No. 19-C-376
| Decision Date | 19 July 2019 |
| Docket Number | Case No. 19-C-376 |
| Parties | MIDCAP FUNDING XLII TRUST, Plaintiff, v. BIRCH HILL REAL ESTATE, LLC, et al., Defendants. |
| Court | U.S. District Court — Eastern District of Wisconsin |
DECISION AND ORDER DENYING MOTION TO DISMISS
Plaintiff MidCap Funding XLII Trust (MidCap) filed this foreclosure action under the court's diversity jurisdiction, 28 U.S.C. § 1332, on March 13, 2019. MidCap seeks to foreclose on mortgages encumbering real property owned by Defendants,1 a group of limited liability companies that lease the mortgaged property to be operated by Atrium Health and Senior Living (the Atrium Tenants) as senior living facilities. See Dkt. No. 1. Prior to this action, on September 7, 2018, MidCap Funding IV Trust and MidCap Funding VII Trust commenced a receivership against the Atrium Tenants pursuant to Chapter 128 of the Wisconsin Statutes in the Circuit Court for Wood County, Case No. 2018CV328. At MidCap's request a receiver was appointed and given authority to, among other things, manage and operate the senior living facilities. On December 14, 2018, also prior to this action, Defendants filed a separate action in Outagamie County Circuit Court, Case No. 18CV1190, against MidCap Funding VII Trust, MidCap Financial Services, LLC, and the guarantors of the Atrium Tenants' obligations. The Outagamie County action, which raisescontract, fraud, tort, and statutory claims, was removed to this court on March 25, 2019, and on July 8, 2019, the court denied Defendants' (identified in that action as Landlord) motion to remand the case to state court. See Case No. 19-CV-426 (E.D. Wis.). Noting the interplay between these three pending cases, Defendants have filed in the instant action a Rule 12(b)(1) motion to dismiss based on the prior exclusive jurisdiction and Colorado River abstention doctrines. Defendants also contend that MidCap failed to sufficiently allege diversity jurisdiction. For the reasons provided below, Defendants' motion will be denied.
BACKGROUND2
For over 40 years, Larry Rice and members of his family (the Rice Family) were the owners and operators of 22 skilled nursing, rehabilitation, and assisted and independent senior living residences located in Wisconsin and Michigan through 22 separate operating entities (the Operating Entities). The facilities themselves and the underlying real estate are owned through 17 separate Real Estate Entities, the Defendants herein. In 2014, Rice, contemplating retirement, decided to sell the 22 facilities to Kevin Breslin, a trusted consultant who owned and operated similar facilities in New Jersey. On December 31, 2014, Breslin, on behalf of a limited liability company he controlled (apparently doing business as the Atrium Tenants), executed a series of agreements whereby Atrium (a) purchased the 22 Operating Entities for $1; and (b) executed a lease for the facilities owned by the Rice Family. Under the terms of the lease, the Atrium Tenants were to pay rent and all costs of operating the facilities, including taxes, maintenance, and repairs, and then eventually purchase the real estate for $90 million.
The financing for the transaction was provided by MidCap with whom Breslin had a prior relationship. MidCap was to refinance existing debt, with the understanding that rent payments by the Atrium Tenants would serve as Defendants' payments on the loan. MidCap was also to provide a line of credit for the Atrium Tenants' operations. Defendants executed a Credit and Security Agreement (Credit Agreement) by and among Defendants, MidCap Funding VII Trust (f/k/a MidCap Funding VII, LLC), as agent for the lenders, and MidCap Funding VI Trust (f/k/a/ MidCap Funding VI, LLC), as the sole lenders, through which the MidCap entities were granted a security interest in Defendants' accounts, assets, and contract rights, among other things, as collateral for the transaction (the Collateral). Compl., Dkt. No. 1, ¶¶ 23-25. Since its initial execution, the parties amended the Credit Agreement several times, and MidCap accepted and assumed the transacting MidCap entities' rights, titles, interests, and obligations under the Credit Agreement. Id. ¶¶ 26-29.
In accordance with the Credit Agreement, Defendants executed and delivered to MidCap Funding VI, LLC a note (Original Note) under which they agreed to pay MidCap Funding VI, LLC the principal amount of $50 million with interest. Id. ¶ 30. On or about February 4, 2015, Defendants executed two replacement notes (collectively, the Notes) for the same total amount as in the Original Note. Id. ¶¶ 34-35. All rights, titles, and interests in the Notes were later assigned to MidCap. Id. ¶¶ 37-39. To secure their obligations as defined in the Credit Agreement, and as part of the same transaction, Defendants executed mortgages (the Mortgages), assignments of leases and rents (AORs), security agreements, and fixture filings in the principal amount of $50 million covering, among other things, each entity's real property (collectively, the Property). Id. ¶¶ 41-55. The Defendant Borrowers also executed subordination and attornment agreements (Subordinations)under which MidCap would be recognized as the owner of the Property in case of foreclosure. Id. ¶¶ 90-105. The Mortgages, AORs, and Subordinations were later assigned to MidCap. Id. ¶¶ 106-27.
Unfortunately, shortly after his purchase of the Operating Entities, Breslin engaged in a scheme to divert the income they generated to enrich and benefit himself. Defendants allege that "[b]eginning in 2015 and through 2018, Breslin caused $11.8 million to be siphoned out of the Operating Entities." Case No. 19-CV-426, Outagamie Cty. Am. Compl., Dkt. No. 1-1, at 12, ¶ 12. As a result of Breslin's conduct, the operations of the various facilities fell into severe financial distress. Utilities were under threat of being shut off, vendor payables were severely stretched so that food deliveries were in jeopardy, and general and professional liability insurance, as well as workers' compensation coverage, had lapsed because of nonpayment of premiums. There was no health coverage for employees, and the therapy vendor had threatened to pull therapists from the facilities and notify the state. Case No. 19-CV-376, Hr'g Tr., Dkt. No. 31, at 29. It was these facts that led MidCap to commence the action for the Atrium Receivership in September 2018 in an effort to preserve and protect the continued operations of the facilities.
MidCap's petition was granted without objection by the Circuit Court for Wood County, and Michael Polsky, an attorney experienced in business insolvency and, in particular, as a receiver for licensed healthcare facilities, was appointed. Polsky found the operations of Atrium Senior Living were more at risk than any other case with which he has been involved. He noted that Atrium and its principals are the subject of federal and state criminal investigations in Wisconsin and New Jersey. Because of the condition of the operations, Polsky brought in a national management firm to immediately take over operations. It took a great amount of work to determine the financialcondition of the Operating Entities, to develop a budget, and to restore credibility with vendors. Polsky, as receiver, also stepped into the shoes of Atrium and began drawing on the line of credit for operations. Because the income generated by the facilities did not cover the cost of operations, Polsky was not paying Defendants rent as called for by the leases. Even without paying rent, Polsky testified that the receivership was losing about $1 million a month, which MidCap is paying under the line of credit it originally established with the Atrium Tenants. Then, on May 7, 2019, the Atrium Receivership court granted the Defendant Landlord's motion to compel rent payments and ordered the State Court Receiver to pay the Atrium Tenants' rent payments due Defendant Landlord, thereby presumably increasing the amounts MidCap must pay to continue operations. While the funds advanced by MidCap to the Atrium Receiver under the line of credit increases the indebtedness to MidCap, the Rice Family did not guarantee the loans and thus are not responsible for any deficiency balance if a sale of the property generates proceeds less than the loan balance. The Receiver Court's order directing the Atrium Receiver to make rent payments to the Defendant Landlord is currently on appeal, with the rental payments being held in the trust account of counsel for the Defendant Landlord pending further order of the court.
In the case before this court, MidCap alleges that Defendants are in default under the Loan Documents, which comprise the Credit Agreement, Notes, Mortgages, AORs, Subordinations, and related documents. Specifically, MidCap alleges that Defendants are in default by reason of: "(a) failure to pay amounts due and owing upon the Loan Documents commencing with the regular monthly payment due on October 1, 2018, and each payment thereafter; (b) the failure to furnish financial statements for numerous calendar months as required pursuant to Section 4.1 of the Credit Agreement; (c) the failure to satisfy financial covenants for numerous calendar quarters as requiredpursuant to Section 6.3 of the Credit Agreement; and (d) the failure to satisfy and comply with other operation and performance requirements. Dkt. No. 1, ¶ 128. Given these defaults, MidCap now seeks to foreclose on the Mortgages and recover the amounts due under the Loan Documents.
On April 30, 2019, MidCap filed a motion to appoint a receiver to manage the real property owned by the Defendant Borrowers and encumbered by the Mortgages (the Mortgaged Property) in an effort to avoid further losses and preserve the value of the property by insuring the continued operation of the facilities. Dkt. Nos. 8; 30-1. After considering the parties' briefs and the evidence presented in a May 29, 2019 motion hearing, the court granted MidCap's motion and entered an order appointing a...
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