Pavarini McGovern, LLC v. Waterscape Resort LLC (In re Waterscape Resort LLC)

• Decision Date: 24 November 2014
• Docket Number: Case No. 11-11593SMB,Adv. Proc. No. 11-02248
• Citation: 520 B.R. 424
• Parties: In re: Waterscape Resort LLC, Debtor. Pavarini McGovern, LLC, Plaintiff, v. Waterscape Resort LLC, et al. Defendants.
• Court: U.S. Bankruptcy Court — Southern District of New York

520 B.R. 424

In re: Waterscape Resort LLC, Debtor.Pavarini McGovern, LLC, Plaintiff

v.Waterscape Resort LLC, et al. Defendants.

Case No. 11-11593SMB

Adv. Proc. No. 11-02248

United States Bankruptcy Court, S.D. New York.

Signed November 24, 2014

Barton Barton & Plotkin LLP, Attorneys for Plaintiff, 420 Lexington Avenue, New York, NY 10170, Eric W. Sleeper, Esq., Of Counsel

Medina Law Firm LLC, Attorneys Defendant, Waterscape Resort LLC, The Chrysler Building, 405 Lexington Avenue, Seventh Floor, New York, NY 10174, Eric S. Medina, Esq., John Carlson, Esq., Of Counsel

Lazarus & Lazarus, P.C., Attorney for Defendants, Salim Assa a/k/a Solly Assa and Ezak Assa, 240 Madison Avenue, 8th Floor, New York, New York 10016, Harlan M. Lazarus, Esq., Of Counsel

MEMORANDUM DECISION GRANTING IN PART AND DENYING IN PART MOTIONS FOR LEAVE TO AMEND

STUART M. BERNSTEIN, United States Bankruptcy Judge:

The plaintiff Pavarini McGovern, LLC (“Pavarini”) moves to amend its complaint to assert a claim for punitive damages against the Waterscape Defendants, defined below, and a separate claim against defendant Salim Assa (“Assa”), the debtor's principal, for punitive damages and other relief. The gravamen of the proposed amendments is that Assa diverted to himself certain funds that the defendant Waterscape Resort LLC (“Waterscape”), the debtor in this case, held in trust for Pavarini under the New York Lien Law. Waterscape opposes the motion, and Assa joins in the opposition. The other Waterscape Defendants have remained silent. In addition, Waterscape cross-moves to amend its answer to assert counterclaims against Pavarini sounding in fraud and willful exaggeration of its mechanic's lien. Assa joins in the cross-motion and Pavarini opposes it. For the reasons that follow, Pavarini is granted leave to amend Count II in the complaint to allege a claim for punitive damages, Waterscape is granted leave to assert a counterclaim for fraud, and the motions are otherwise denied.

BACKGROUND

A. The Project

The background to this bankruptcy case is discussed at length in Pavarini McGovern, LLC v. Waterscape Resort LLC (In re Waterscape Resort LLC ), 483 B.R. 601 (Bankr.S.D.N.Y.2012) (“Waterscape I ”) and In re Waterscape Resort LLC, Case No. 11–11593, 2014 WL 1389762 (Bankr.S.D.N.Y. Apr. 9, 2014) (“Waterscape II ”). I assume familiarity with those decisions and discuss the facts relevant to the current dispute.

Waterscape entered into a Construction Management Agreement (“CMA”) with Pavarini pursuant to which Pavarini agreed to act as general contractor to construct a hotel and condominium building on Waterscape's property in Manhattan (the “Project”). Pavarini was responsible for managing and hiring subcontractors, and was entitled to a fee of 2.75% of the entire cost of construction exclusive of the fee itself.

The Project was funded with loans from U.S. Bank, National Association and USB Capital Resources, Inc. f/k/a USB Capital Funding Corp. (collectively “US Bank”).

Pursuant to the loan agreements, U.S. Bank agreed to make advances to Waterscape to fund Project costs based on monthly Draw Requests containing copies of, among other things, invoices of the Project contractors and vendors. The Draw Requests had to be accompanied by a Draw Request Certification containing affirmative representations by Waterscape to U.S. Bank that, among other things, the funds being drawn would be applied to fund the Project as specified in the requisition. Once approved, U.S. Bank transferred the funds to Waterscape.

Disputes between Waterscape and Pavarini arose, and Waterscape unilaterally terminated the CMA in September 2010. Pavarini filed a mechanics lien on December 17, 2010 in the amount of $10,674,440.59. (See Claim no. 38–1, dated June 8, 2011, Ex. C at 8.) A later proof of claim revealed that Pavarinis secured claim consisted of two components: (a) $8,581,289 that it owed its subcontractors, (Claim no. 38–3, dated July 22, 2011, at 5), and (b) $2,251,783.59 that Pavarini contended Waterscape owed it under the CMA. (See Claim no. 38–3, dated July 22, 2011, at 5.) The subcontractors hired by Pavarini also filed mechanics liens against the Property for their unpaid work, and these liens, for the most part, duplicated the portion of the Pavarini mechanics lien that included their unpaid claims.

B. The Bankruptcy Case

1. The Plan

Waterscape commenced this chapter 11 case on April 5, 2011, and filed its initial plan and disclosure statement one month later. The plan proposed to sell the hotel portion of the Project free of liens, claims and interests, and pay all of the proceeds to U.S. Bank. Pavarini objected complaining, inter alia, that hotel sale proceeds constituted trust funds under the New York Lien Law, and the plan proposed to divert these trust funds (as well as future condominium sale proceeds) to U.S. Bank.

After numerous proceedings and significant plan amendments, Waterscape confirmed its Second Amended Plan of Reorganization (“Plan ”) on July 21, 2011. (See Order Approving Disclosure Statement and Confirming Plan of Reorganization, dated July 21, 2011 (“Confirmation Order ”) (ECF/Main Case Doc. # 128).)¹ The Plan represented the product of substantial negotiation and comment from Pavarini, U.S. Bank and the Court. It still contemplated the sale of the hotel portion of the Project free and clear of all liens, claims and interests. (See Confirmation Order at ¶ 18.) However, the Plan carved out $11 million from the hotel sale proceeds and used the carve out to fund a Trust Fund Account for the benefit of the overlapping Class 3 Lien Law /trust fund claimants. (Plan at §§ 4.1(b), 5.3.)² The $11 million number was not random; it was selected because it rounded up Pavarini's approximate $10.8 million claim. All Class 3 claims were deemed disputed, (Plan at § 4.3(b)), and the Class 3 claimants would continue to litigate their rights primarily in non-bankruptcy fora. (Id. at § 5.6(c).) Once a Class 3 Claim was finally resolved, the claim would be allowed and paid from the Trust Fund Account, the Secured Claim Reserve Account, new financing, or general funds of the Debtor. (Id. at § 4.3(c).)³

The Plan also contained various releases and injunctions. To the extent relevant and with certain exceptions that no party has invoked, the Plan enjoined the commencement or continuation of any action against Waterscape to recover any claim that arose before the confirmation date regardless of whether a proof of claim was filed. (Plan at § 7.1.) The releases and injunctions were subject to several exceptions, including the following:

7.9 Release Clarification . No provision in this Plan, including sections 7.1, 7.2 and 7.6 hereof, shall release, waive, enjoin, or limit the liability of the Debtor or the Released Parties with respect to any Claim, cause of action or other proceeding of any kind and in whatever forum, brought or asserted by or on behalf of any of the Claimants classified in Class 3 of the Plan, including Pavarini and Civetta, and all said Claimants' Claims, rights, interests, and defenses are hereby, and within the Plan and its provisions, preserved.

The Confirmation Order, at ¶ 15, repeated the exception contained in § 7.9 of the Plan.

The Plan became effective on January 20, 2012, when the parties closed on the sale of the hotel. (See Debtor's Second Post–Confirmation Report and Notice of Effective Date of the Debtor's Confirmed Second Amended Plan of Reorganization, dated Jan. 20, 2012, at ¶ 3 (ECF/Main Case Doc. # 306).)

2. The Adversary Proceeding

On June 10, 2011, Pavarini commenced this adversary proceeding. (See Complaint, dated June 10, 2011 (ECF Doc. # 1).) The Complaint included seven counts, but the last four were directed at U.S. Bank and have been dismissed by stipulation. The three remaining counts asserted against Waterscape and the “Waterscape Defendants”⁴ centered on the allegations that they had violated Article 3–A of the New York Lien Law by diverting funds that Waterscape was required to hold in trust for the benefit of Pavarini and the subcontractors. (See Complaint at ¶¶ 2, 11, 20(d), 34, 36, 37, 38, 60, 68, 69, 74, 76, 78, 80, 82, 84.) Although the Complaint focused on diversions to U.S. Bank and the John Doe defendants, it also alleged that the “Debtor and/or the Waterscape Defendants divided among themselves or otherwise diverted” the trust funds. (Id. at ¶ 76 (emphasis added).) Count I sought a declaration that the estate held only bare legal title to any and all trust funds, including the Trust Assets,⁵ and had no equitable interest in those funds until the claims of Pavarini and the subcontractors were fully satisfied. (Id. at ¶ 63.) Count II alleged that Waterscape “should be compelled to identify all trust funds that were diverted and/or distributed by them, and all such trust funds should be recovered and returned to the benefit of Pavarini and the Trade Contractors, as the trust beneficiaries.” ( Id. at ¶ 80.) Count III demanded an accounting of all trust funds. (Id. at ¶ 84.)

Pavarini eventually moved for partial summary judgment on Counts I and II. It contended that Waterscape had diverted approximately $14.5 million received from the proceeds of the sale of condominium units, and paid the proceeds to U.S. Bank. Pavarini also maintained that Waterscape had diverted $4,458,616.97 from requisitions funded by U.S. Bank. Waterscape I referred to the latter sum as the “Shortfall.” Waterscape I, 483 B.R. at 606.

The Court granted partial summary judgment to the extent of concluding that the condominium proceeds were trust funds, and Waterscape had diverted the trust funds by paying them to U.S. Bank. Id. at 613. The Court declined, however, to award any monetary relief because Waterscape and U.S. Bank had restored $11 million by funding the Trust Fund Account under the Plan. Id. at 616. The Court denied the motion for partial summary judgment with respect to the Shortfall because Waterscape had failed to demonstrate as a matter of...