Process Am., Inc. v. Cynergy Holdings, LLC (In re Process Am., Inc.)

• Decision Date: 08 June 2018
• Docket Number: Case No.: 1:12–bk–19998–MT,Adv No: 1:14–ap–01154–MT
• Citation: 588 B.R. 82
• Court: U.S. Bankruptcy Court — Central District of California
• Parties: IN RE: PROCESS AMERICA, INC., Debtor(s). Process America, Inc., a Nevada corporation, Plaintiff(s), v. Cynergy Holdings, LLC, Defendant(s).

588 B.R. 82

IN RE: PROCESS AMERICA, INC., Debtor(s).Process America, Inc., a Nevada corporation, Plaintiff(s),

v.Cynergy Holdings, LLC, Defendant(s).

Case No.: 1:12–bk–19998–MT

Adv No: 1:14–ap–01154–MT

United States Bankruptcy Court, C.D. California, San Fernando Valley Division.

Date: July 11, 2017

Signed June 8, 2018

John–Patrick M. Fritz, Beth Ann R. Young, Levene, Neale, Bender, Yoo & Brill L.L.P., Los Angeles, CA, for Plaintiff(s).

Robert S. Marticello, Smiley Wang–Ekvall, LLP, Costa Mesa, CA, for Defendant(s).

MEMORANDUM OF DECISION RE (1) CYNERGY'S AMENDED MOTION TO CONFIRM RECOUPMENT RIGHTS; (2) CYNERGY'S MOTION TO DISMISS FIRST AMENDED COMPLAINT; AND (3) DEBTOR'S MOTION FOR IMMEDIATE TURNOVER OF PROPERTY OF THE ESTATE

Maureen A. Tighe, United States Bankruptcy Judge

This memorandum addresses three separate motions pending in this bankruptcy case and related adversary proceeding:

(1) Motion to Dismiss Process America's ("Debtor") First Amended Complaint, filed by Cynergy Holdings, LLC's ("Cynergy") (the "MTD," ad. ECF No. 86);

(2) Debtor's Motion for Immediate Turnover of Property of the Estate (the "Turnover Motion, " ad. ECF No. 77); and

(3) Cynergy's Amended Motion to Confirm Recoupment Rights or for Relief from the Automatic Stay to Effect Setoff (the "Recoupment Motion," bankr. ECF doc. 465).

As all arise from a common nucleus of facts, they will be discussed together.

BACKGROUND

The procedural history is extensive but highly relevant to the issues presented in these three motions, so it will be summarized first in some detail. On or about May 19, 2004, Process America ("Debtor") and Cynergy's predecessor entered into a contract related to credit and debit card processing (the "ISO Agreement"). In September 2009, Cynergy's predecessor filed a voluntary chapter 11 petition in the U.S. Bankruptcy Court for the District of Delaware (the "Cynergy Bankruptcy"). During the Cynergy Bankruptcy, Cynergy's predecessor moved to assume and assign the ISO Agreement (the "Assumption Motion"), within which it also sought to set forth a cure amount as to the ISO Agreement. In June 2010, in connection with the Assumption Motion and the related sale of certain assets by Cynergy's predecessor to Cynergy, the parties entered into a Cure Resolution Notice and Stipulation in Satisfaction of the Objection by Process America to the Debtors' Cure Notice (the "Cure Stipulation").

Cynergy and Process America then continued to do business together under this ISO Agreement. In February 2011, Cynergy sent a letter to Debtor informing it that Cynergy was terminating the ISO Agreement "immediately" based upon its belief that Debtor breached the ISO Agreement (the "Termination Letter"). The Termination Letter also informed Debtor of Cynergy's intent to not renew the ISO Agreement. Thereafter, Cynergy ceased residual payments to Debtor.

On February 16, 2012, Debtor initiated a lawsuit against Cynergy (the "New York Litigation") in the United States District Court for the Eastern District of New York (the "District Court"). On May 30, 2012, Debtor amended its complaint and asserted nine causes of action against Cynergy which included: (1) Trademark Infringement and False Designation of Origin—Lanham Act; (2) Unfair Competition—Lanham Act; (3) Unfair Competition; (4) Breach of Contract; (5) Unjust Enrichment; (6) Quantum Meruit; (7) Tortious Interference of Contract with Merchants; and (9) Indemnification.

In response to Debtor's Complaint, on June 11, 2012, Cynergy filed its amended answer and asserted six counterclaims against Debtor, which included (1) Breach of Contract; (2) Tortious Interference with Contract; (3) Deceptive Practice and Common Law/ Unfair Competition; (4) Defamation; (5) Permanent Injunction; and (6) Indemnification.

The causes of action involve three distinct sources of funds. The first category is the residuals (the "Residuals"), which is the compensation earned by Debtor under the ISO Agreement, less the data fees provided for under Exhibit A of the ISO Agreement. The Court refers to the Residuals earned through December 31, 2012, as the "First Period Residuals" and the Residuals earned from January 1, 2013 forward as the "Second Period Residuals."¹

The second category is known as the EP/ISO Reserves (the "EP/ISO Reserves"). These funds derive from a portion of the Residuals that Cynergy is permitted to retain. The amount of funds retained by Cynergy in the EP/ISO Reserves is determined by a formula provided for in § 3.11(C)(i) of the ISO Agreement.

The third category is the amount held by Cynergy under the "Cure Stipulation." The Cure Stipulation resolved an issue during Cynergy's predecessor's bankruptcy case between Debtor and Cynergy's predecessor about the proper amount of the cure payment to which Debtor would be entitled upon Cynergy's predecessor's assumption of the ISO Agreement under 11 U.S.C. § 365.² The claims and rulings are easier to understand, especially as they relate to the remaining issues to be decided here, if one keeps the different categories of funds in mind.

The parties subsequently filed cross-motions for summary judgment on all causes of action in the District Court. On September 23, 2013, the District Court entered its Decision and Order granting in part and denying in part Cynergy's summary judgment motion and denying Debtor's summary judgment motion, with the balance of the issues proceeding to trial (the "DC MSJ Ruling"). The District Court found that Cynergy retained ownership over the merchant portfolio under the terms of the ISO Agreement. The District Court also ruled that if Debtor breached the ISO Agreement by holding merchant reserve funds in its own account, said breach would be material. There were questions of fact as to whether Debtor's actions constituted a breach.

Meanwhile, on November 12, 2012, Debtor commenced its bankruptcy case by filing a voluntary chapter 11 petition (the "Petition Date") in the Central District of California. Debtor continues to manage its financial affairs and bankruptcy estate as a debtor in possession pursuant to §§ 1107 and 1108 of the Bankruptcy Code.

Tigrent Group Inc. ("Tigrent") is one of Debtor's largest creditors, with a scheduled claim of $8.3 million, comprising approximately 80% of the total amount of $10.1 million scheduled general unsecured claims in the Bankruptcy Case (which excludes Cynergy's recent judgment claim from the New York Litigation). Tigrent has filed suit against Cynergy in New York, alleging certain bad acts of Cynergy related to merchant credit and debit processing. On January 4, 2013, Debtor and Cynergy filed a stipulation for relief from the automatic stay to allow the New York Litigation to continue solely to liquidate the claim.³ Since the petition date, the creditors of the estate have been waiting for Debtor to complete the Cynergy litigation in an attempt to monetize claims for some recovery to Debtor's many creditors.

In April 2014, the District Court ruled on cross-motions for reconsideration of its earlier ruling and summary judgment as to the remaining causes of action (the "Reconsideration Ruling"). The District Court denied Debtor's Motion for Reconsideration of the determination of the ownership of the merchant portfolio, but then granted summary judgment to Debtor as to its claim that Cynergy breached the ISO Agreement by improperly withholding residuals because Cynergy did not comply with the terms of the ISO Agreement that would have given it the right to keep the residuals. The District Court then granted Cynergy summary judgment as to all other claims brought by Debtor. Lastly, the District Court ruled that Debtor had defamed Cynergy. All issues of damages and rights of indemnification were reserved for trial.

On September 4, 2014, Debtor commenced this adversary proceeding, Process America, Inc. v. Cynergy Holdings, LLC (1:14–ap–01154–MT) (the "Adversary Proceeding") against Cynergy, alleging claims of: (1) Declaratory Relief; and (2) Turnover of Property of the Estate. The Declaratory Relief claim seeks a judicial determination as to the rights and interests of the parties in and the EP/ISO Reserve, asserted to be approximately $1,800,000, and for the court to find that the EP/ISO Reserve Account and additional deposits are property of Debtor's estate. Because Debtor alleged that the EP/ISO Reserve Account and additional deposits are estate property, it also sought turnover of these funds under 11 U.S.C. § 542. Pursuant to Section 3.11(C)(iii) of the ISO Agreement, the amount of the EP/ISO Reserve Account is required to be the "greater of either: a) $10,000, or b) 1% of the Merchants' dollar volume of transactions during the month previous to the month of termination," which is approximately $128,000. Thus, Debtor argues that the amount in the EP/ISO Reserve Account is excessive, and not in accord with the terms of the ISO Agreement.

On May 30, 2015, the District Court entered its Findings of Fact and Conclusions of Law (the "Trial Findings") after trial and held that Debtor was liable to Cynergy in the amount of $8,822,000. The District Court determined that Cynergy had breached the ISO Agreement by improperly withholding Residuals owing to Debtor and also by failing to give proper notice and opportunity to Debtor to cure an alleged material breach.⁴ The District Court held that the first clause of the ISO Agreement limited Debtor's award to actual damages, and, thus, consequential damages would not be allowed.⁵ Because Debtor's damage for Cynergy's breach of the ISO Agreement was subject to the damages cap, the District Court offset Cynergy's $8,822,000 damage award by the $300,818 due to Debtor, resulting in a net judgment to Cynergy of $8,521,182. Both parties filed appeals before the Second Circuit Court of Appeals.

On October 16, 2014, Cynergy filed a Motion to Dismiss Complaint or, Alternatively, to Stay Adversary Proceeding (the "MTD") in the bankruptcy court, which was thereafter continued from...