Paganelli v. Lovelace

Decision Date28 September 2021
Docket Number2:19 CV 60
PartiesANTHONY PAGANELLI, Plaintiff, v. RICHARD LOVELACE, Defendant.
CourtU.S. District Court — Northern District of Indiana

ANTHONY PAGANELLI, Plaintiff,
v.

RICHARD LOVELACE, Defendant.

No. 2:19 CV 60

United States District Court, N.D. Indiana, Hammond Division

September 28, 2021


OPINION AND ORDER

JAMES T. MOODY JUDGE

This matter is before the court on defendant's motion for partial summary judgment. (DE # 38.) For the reasons that follow, defendant's motion will be granted.

I. BACKGROUND

A. Parties' Agreement

Defendant, and counter-claimant, Richard Lovelace began working as an estimator and project manager for Safe Environmental Corporation (“the Company”) in 2006. (DE # 40-1 at 1.) He eventually became a vice president for the Company, managing operations, but was not involved in the financial side of the business. (Id. at 1, 4.) The Company is an asbestos and lead paint remediation company. (DE # 40-4 at 37.)

In early 2009, plaintiff Anthony Paganelli, the owner of the Company, approached Lovelace about buying the Company from Paganelli. (DE # 40-1 at 2.) Over the next six to nine months, Paganelli and Lovelace held a number of meetings amongst themselves and the Company's accountant. (Id.) The Company's accountant prepared a written Stock Purchase Agreement (“the Agreement”), and the Agreement was signed

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on December 9, 2009. (Id. at 7.) Under the terms of the Agreement, Lovelace would purchase 100% of the Company's shares from Paganelli for: (1) a price of $3 million, to be paid in installments over a period of ten years; and (2) an annual salary to Paganelli of $150, 000 while any portion of the $3 million remained unpaid. (Id. at 2.)

B. Paganelli's Alleged Breaches of the Agreement

Unbeknownst to Lovelace, during the approximately 12 months leading up to the close of the sale, Paganelli used as much as $484, 606.79 in Company funds to pay for personal expenditures. (Id. at 3; DE # 40-2 at 2, 4.) For example, in April and June 2009, Paganelli signed Company checks totaling $11, 628 to pay invoices for hardwood floor installation at a residence he owned. (DE # 40-2 at 6, 35-38; DE # 40-4 at 155-157.) Between October 2009 and December 2009, Paganelli signed Company checks totaling $37, 295 to pay for landscaping and paver installation at that same residence. (DE # 40-2 at 2, 54-57; DE # 40-4 at 156, 162.) Furthermore, it is undisputed that, in March and June of 2009, Paganelli signed checks totaling $133, 926.29 from the Company to pay his personal mortgage. (DE # 40-2 at 2, 74-78; DE # 40-4 at 169-170.)

Except for three payments on Paganelli's home loan, all of these transactions were recorded as Company business expenses. (DE # 40-2 at 3; DE # 40-3 at 3.) The three home loan payments were recorded as shareholder distributions. (Id.) In subsequent journal entries, many of the personal expenses were reclassified as shareholder distributions. (DE # 40-3 at 3.) Paganelli was the sole shareholder. (DE # 40-4 at 17-18.)

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Lovelace argues that these personal payments using Company funds breached the representations and warranties Paganelli made in the Agreement in numerous ways. First, Section 3.3(B)(1) of the Agreement promised that the financial statements attached to the Agreement “conformed to the Corporation's books and records prepared in the ordinary course of business.” (DE # 40-1 at 8.) Lovelace's accounting expert, Kathleen Kolodziej, CPA, opined that the financial statements provided by Paganelli in connection with the Agreement did not conform to the books and records prepared in the ordinary course of business. (DE # 40-3 at 4.)

Second, Section 3.3(B)(2) of the Agreement promised that the financial statements “show Corporation's total expenses during the periods covered” and Section 3.3(B)(3) promised that the financial statements “present fairly Corporation's financial position and the results of operations for the periods those financial statements cover[.]” (DE # 40-1 at 8.) Kolodziej opined that the financial statements provided by Paganelli in connection with the Agreement did not fairly show the financial condition of the Company. (DE # 40-3 at 4.) She noted that the September 2009 financial statements included costs in excess of billings and billings in excess of costs. (Id.) Jobs with estimated costs to complete were noted as being 100% complete, which significantly impacted the revenue recorded. (Id.) For example, one job was noted as 100% complete, but based on the costs to complete the job, it was only 66% complete, which resulted in an additional recorded revenue of approximately $118, 000. (Id. at 5.) She opined that the

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Company's books and records did not accurately record the Company's transactions and did not use sound business practices. (Id.)

Section 3.3(B)(4) of the Agreement promised that the financial statements were “prepared in accordance with U.S. generally accepted accounting princials (sic) consistently applied” except for “any deviations previously disclosed, in writing, to Buyer” and “the interim financial statements . . . which lack footnote disclosure and may change because of normal, immaterial year-end audit adjustments.” (DE # 40-1 at 8.) First, Kolodziej found that the financial statements for 2007 and 2008 did not conform to generally accepted accounting principles. (DE # 40-3 at 2.) Second, Kolodziej found that the 2008 year end financial statements created in May 2009 changed materially from the numbers included in the Business Valuation Report created in February 2009, and revealed a net income decrease of over $600, 000. (Id. at 2, 5.) The Business Valuation Report identified a 2008 net income of $1, 362, 175 and shareholder equity of $1, 843, 990. (Id. at 5.) However, the May 2009 financial statements report a net income for 2008 of $725, 662 and shareholder equity of $1, 207, 477. (Id.) Kolodziej determined that the financial information used to create the Business Valuation Report was substantially overstated, and that these year end adjustments were not immaterial. (Id. at 2, 5.)

Lovelace also argues that Paganelli violated Section 3.5 of the Agreement, which promised that the books and records of the Company “accurately record all transactions of Corporation during the periods they cover and have been consistently maintained

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using sound business practices, ” and Section 3.13 of the Agreement, which promised that none of Paganelli's representations and warranties are false in any material respect. (DE # 40-1 at 9, 12.) Kolodziej opined that: the financial statements provided by Paganelli in connection with the contract were materially false; the Company's books and records did not accurately record the Company's transactions; and the Company did not use sound business practices. (DE # 40-3 at 4.)

Lovelace argues that Paganelli violated Section 3.7 of the Agreement, which promised that since December 31, 2008, the Company has operated “in the ordinary course and consistent with past practice, ” and has not:

(A) experienced any change that could have a material adverse effect on Corporation's condition, business operations, assets or prospects;
(B) entered into any transaction or incurred any liability or obligation except in the ordinary course of business;
(C) incurred any extraordinary loss;
(D) transferred any interest in its assets, except for selling inventory in the ordinary course of business;
(E) incurred any indebtedness, except for trade creditor indebtedness incurred in the ordinary course of business;
(F) declared or paid any dividend or distribution to any Shareholder, other than those issued or declared during the ordinary course of business;
* * *
(I) increased any compensation or benefits to any officer, director, shareholder or employee, except for increases in its employee's annual salaries made in the ordinary course of business consistent with past practices;
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(J) established any new pension plan, welfare plan, or other employee benefit plan, modified any current plan, or incurred under any current plan any obligation or liability materially different from those incurred during similar periods in prior years;
* * *
(N) materially changed how it conducts business or the accounting principals (sic) it employs[.]

(DE # 40-1 at 9-10.)

According to Lovelace, Paganelli violated the provisions of Section 3.7 in two ways. First, Kolodziej found that the Company took on debt to fund shareholder distributions in the year of sale. (DE # 40-3 at 5.) Kolodziej found that shareholder distributions totaled $488, 557 in 2009, totaled $152, 903 in 2008, and totaled $0 in 2007. (Id.) In 2009, the Company borrowed $770, 000, whereas at the end of 2008, the line of credit balance was $0. (Id.) Kolodziej determined that, based on the excess distributions in 2009 compared to earlier years, and the extra borrowing in 2009 compared to earlier years, the Company had not been operated in the ordinary course of business and did not operate consistent with past practices in 2009. (Id.) Moreover, Kolodziej opined that the Company incurred debt other than in the ordinary course of business, and the Company materially changed how it conducted business in 2009. (Id.)

Second, Lovelace argues that Paganelli violated the promises in Section 3.6 and 3.7 in the Agreement that the Company did not have any liability or obligation not already disclosed, and that since December 31, 2008, the Company has not incurred any obligation or liability materially different from those incurred during similar periods in

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prior years. In 2012, the Company settled a lawsuit that the Company's labor union filed against...

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