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In re Le-Nature's Inc.

September 16, 2009


The opinion of the court was delivered by: Ambrose, Chief District Judge

MDL Docket no. 2021


Pending before the court is a Motion to Dismiss filed by Defendants Wachovia Capital Markets, LLC d/b/a Wachovia Securities and Wachovia Bank, National Association ("Wachovia") seeking to dismiss all claims asserted against them (Counts One, Two, Five, Six, Nine, Ten, Twelve, Thirteen, Sixteen, Seventeen, Eighteen, Nineteen, Twenty, and TwentyOne)*fn1 in Plaintiff's Complaint. (Docket No. 88 at 8-cv-1518 and Docket No. 65 at 9-mc-162).*fn2

Plaintiff, Marc S. Kirschner ("Kirschner"), in his capacity as Liquidation Trustee of the Le-Nature's Liquidation Trust, filed a Brief in Opposition thereto (Docket No. 108), to which Wachovia, with leave of court, filed a Reply (Docket No. 112). After careful consideration of the same, Wachovia's Motion (Docket No. 88) is granted in part and denied in part as more fully set forth below.


I. Factual Background

Kirschner is a trustee appointed by the bankruptcy court. The debtor is Le-Nature's Inc. ("Le-Nature's" or "the corporation"). Le-Nature's was a beverage manufacturer, bottler and distributor based in Latrobe, Pennsylvania. Gregory Podlucky ("Podlucky") was the chief executive officer of Le-Nature's, its majority shareholder, and the chairman of its board. Complaint ¶¶ 1-34.

Podlucky's brother, Jonathan Podlucky, served as the chief operating officer of Le-Nature's, David Getzik served as the chief financial officer, Robert Lynn was the executive vice president, and Andrew Murin was an advisor to Podlucky. Podlucky's brother, Getzik, Lynn and Murin all were members of Le-Nature's board of directors and all were nominated to the board by Podlucky. Complaint ¶¶ 35-37. At times, these individuals are collectively referred to as "the Insiders."

Le-Nature's produced its first beverage product in 1992, and by 2005, claimed to be producing nearly 60 different products. The growth in the alleged variety of products it sold purportedly spurred growth in its gross sales, net sales and profits. Kirschner, however, has asserted that between 2002 and 2005, due to a fraudulent scheme advanced by Podlucky along with the Insiders, Le-Nature's reported sales were grossly disproportionate to its actual sales. Complaint ¶¶ 42, 44-45.

These inflated sales figures enabled Le-Nature's to raise capital with the assistance of the Defendants, in particular, Wachovia, Krones USA, Krones AG, Volker Kronseder, and Heinz Sommer (hereinafter referred to collectively as "Krones"), CIT Group/Equipment Financing, Inc. (hereinafter "CIT"), Marshall Financial, Inc., and Marshall Investments Corporation (hereinafter "Marshall"). Together with Podlucky and the Insiders, these parties engaged in a form of a "Ponzi" scheme -- constantly raising money and incurring ever-increasing debts to refinance investors whole cultivating the image of a legitimate profit-making business. Complaint ¶¶ 1-2.

Specifically, Kirschner alleges that Krones inflated prices on equipment for new Le-Nature's bottling lines and assisted Podlucky and the Insiders in securing financing based on these inflated prices. Kirschner asserts that CIT and Marshall knew the equipment prices were inflated but still arranged for "synthetic lease" equipment lease financing base on those bogus prices, and Krones, CIT, and Marshall reaped significant fees by using these inflated figures while Podlucky and the Insiders received the excess revenue from the inflated pricing. Complaint ¶¶ 11, 13, 16-18, 134-142.

In addition to the actions of Krones, CIT, and Marshall, from April 2003 through December 2005, Wachovia arranged a series of credit facilities for Le-Nature's. In an effort to secure lenders for each facility, Wachovia assisted Le-Nature's in the preparation and distribution of a "Confidential Information Memorandum," but these memoranda materially misrepresented (among other things) Le-Nature's sales and profits. These credit facilities were supposed to generate funds for the expansion of Le-Nature's production lines. Although Le-Nature's did expand its production lines by expanding the capacity of its Latrobe, Pennsylvania plant in 2003 and by building a new bottling plaint in Phoenix, Arizona in 2005, Kirschner asserts these expansions were unnecessary given the false sales figures. Kirschner further avers the credit facilities were undertaken to finance and prop up Le-Nature's slumping operations. Complaint ¶¶ 42-46, 60, 62, 72, 76, 81, 96.

In May 2006, Le-Nature's minority preferred shareholders (who were represented by three independent directors on the Le-Nature's board), initiated an action in the Delaware Chancery Court against the corporation, Podlucky, his brother, Murin and Lynn.*fn3 In June 2006, the Chancery Court entered a preliminary injunction restraining Le-Nature's from taking certain steps, such as making capital expenditures in amount in excess of $1,000, without minority shareholder approval. Complaint ¶ 48.

In October 2006, Le-Nature's preferred minority shareholders were told that Podlucky had converted funds deposited by one of the corporation's equipment lessors, AIG. This information was passed to the shareholders upon AIG's discovery that Krones had transferred nearly $20 million of AIG's deposit to Le-Nature's based on a forged AIG letter "authorizing" the transfer of funds. On October 20, 2006, following the revelation of the forgery, the Delaware Chancery Court issued a temporary restraining order, and on October 27, 2006, the Court approved the preferred minority shareholders' request for the appointment of a custodian for Le-Nature's, appointing Kroll Zolfo Cooper ("KZC") as custodian.*fn4 On November 1, 2006, the managing director of KZC filed an affidavit with the Chancery Court detailing financial discrepancies at Le-Nature's. Also on November 1, 2006, several of Le-Nature's creditors initiated involuntary bankruptcy proceedings. Complaint ¶¶ 49-53.

Since the initiation of the bankruptcy proceedings, the investigation led by Kirschner has uncovered two separate accounting systems at Le-Nature's: one system ("Navision") tracked actual sales, accounts payable, inventory, etc., while the other system ("Real W orld") contained primarily fraudulent numbers to which only Podlucky and one Le-Nature's employee (Ms. Andreycak)*fn5 had access. In addition, a secret room was discovered at the Latrobe bottling facility which held safes that contained jewelry purchased by Podlucky. Podlucky also purchased over 8,000 Lionel model trains and was building a mansion for his personal residence. Kirschner avers that the jewelry, trains and residence all were paid for with monies Podlucky embezzled from Le-Nature's through the "scheme." Complaint ¶ 54.

II. Legal Analysis

A. Legal Standard

Wachovia filed its Motion to Dismiss pursuant to Rules 9(b) and 12(b)(6) of the Federal Rules of Civil Procedure. W hen deciding whether to grant or deny a 12(b)(6) motion the Supreme Court has held:

While a complaint attacked by a Rule 12(b)(6) motion to dismiss does not need detailed factual allegations, a plaintiff's obligation to provide the grounds of his entitlement to relief requires more than labels and conclusions, and a formulaic recitation of the elements of a cause of action will not do. Factual allegations must be enough to raise a right to relief above the speculative level, on the assumption that all the allegations in the complaint are true (even if doubtful in fact).

Bell Atlantic Co. v. Twombly, 550 U.S. 544, 555 (2007) (citation and footnote omitted); see also Phillips v. County of Allegheny, 515 F.3d 224, 234 (3d Cir. 2008) (a plaintiff's factual allegations must be enough to raise a right to relief above the speculative level).

Most recently, inAshcroft v. Iqbal, ___ U.S.___, 129 S.Ct. 1937 (2009), the Supreme Court held, ". . . a complaint must contain sufficient factual matter, accepted as true, to state a claim to relief that is plausible on its face. A claim has facial plausibility when the plaintiff pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged." Iqbal, 129 S.Ct. at1949 (citations omitted).

In Iqbal, the Court specifically highlighted the two principles which formed the basis of the Twombly decision: First, for the purposes of a motion to dismiss, courts must accept as true all factual allegations set forth in the complaint, but courts are not bound to accept as true any legal conclusions couched as factual allegations. Id. at 1949-50; see also Fowler v. UPMC Shadyside, __ F.3d __, No. 07-4285, 2009 W L 2501662 (3d Cir. Aug. 18, 2009). Second, a complaint will only survive a motion to dismiss if it states a plausible claim for relief, which requires a court to engage in a context-specific task, drawing on the court's judicial experience and common sense. Iqbal, 129 S.Ct. at 1950; Fowler, _ F.3d at _. W here well-pleaded facts do not permit the court to infer more than the mere possibility of misconduct, the complaint has alleged -- but has not shown -- the complainant is entitled to relief. Iqbal, 129 S.Ct. at 1950 (citing Fed. R. Civ. P. 8(a)(2)).

B. RICO and Common Law Claims

1. Cause of Damages

Wachovia's first argument is that Kirschner's claims fail because Wachovia did not cause Le-Nature's to suffer any legally cognizable damages. (Docket No. 89, at 7-13). Specifically, Wachovia asserts that the Complaint attempts to assert two types of damage: (1) "artificial prolongation of [the] failed and insolvent enterprise . . . by being kept afloat with spurious debt," and (2) losses from the theft and active malfeasance of the Insiders. Id. at 8. Wachovia argues that the first allegation is an attempt to assert a "deepening insolvency" theory of recovery that must fail under precedent set by the Court of Appeals for the Third Circuit in In re CitX Corp., 448 F.3d 672 (3d Cir. 2006). Wachovia contends that the second allegation states a claim for damages against the Insiders but not against Wachovia. Id. I address each of these arguments in turn. a. "Deepening Insolvency"

In Official Committee of Unsecured Creditors v. R.F. Lafferty & Co., 267 F.3d 340 (3d Cir. 2001), a matter arising out of the bankruptcy of two lease financing corporations that allegedly were operated as a "Ponzi scheme," the Court of Appeals for the Third Circuit described "deepening insolvency" as a type of "injury to the Debtors' corporate property from the fraudulent expansion of corporate debt and prolongation of corporate life." Id. at 347. In Lafferty, the court of appeals predicted that "where 'deepening insolvency' causes damage to corporate property," the Pennsylvania Supreme Court "would provide a remedy by recognizing" a deepening insolvency cause of action. Id. at 351. In CitX, decided five years after Lafferty, the court of appeals clarified that, although Lafferty recognized deepening insolvency as a valid cause of action in Pennsylvania, the court "never held that it was a valid theory of damages for an independent cause of action." CitX, 448 F.3d at 677; see also id. ("Those statements in Lafferty were in the context of a deepening-insolvency cause of action. They should not be interpreted to create a novel theory of damages for an independent cause of action like malpractice."). The CitX court further held that although Lafferty approved deepening insolvency as a tort for fraudulent conduct, allegations of negligence cannot support a deepening insolvency claim. CitX, 448 F.3d at 680-81.

Although the CitX court held that deepening insolvency is not an independent form of damages, it made clear that

Where an independent cause of action gives a firm a remedy for the increase in its liabilities, the decrease in fair asset value, or its lost profits, then the firm may recover, without reference to the incidental impact upon the solvency calculation.

Id. at 678 (quoting Sabin Willett, The Shallows of Deepening Insolvency, 60 Bus. Law. 549, 575 (2005)). In other words, traditional damages stemming from a given cause of action "do not become invalid merely because they have the effect of increasing a corporation's insolvency." Thabault v. Chait, 541 F.3d 512, 523 (3d Cir. 2008); see also Official Comm. of Unsecured Creditors of Allegheny Health, Educ. & Research Found. v. Pricewaterhouse Coopers, LLP, No. 2:00cv684, 2007 W L 141059, at *7 (W .D. Pa. Jan. 17, 2007) ("AHERF").

Here, Wachovia seeks dismissal of Kirschner's common law and RICO claims against it because, according to Wachovia, the damages Kirschner seeks to recover are similar to a deepening insolvency measure of damages and, thus, are precluded by CitX. (Docket No. 89, at 8-9). I disagree. As an initial matter, as Kirschner makes clear in his opposition brief, the Complaint does not assert an independent "deepening insolvency" claim. (Docket No. 108, at 8-9). Indeed, the term "deepening insolvency" does not appear anywhere in the Complaint. Id. Moreover, Kirschner states in his opposition that he is not seeking deepening insolvency damages for any of his common law or RICO claims. Id. As Kirschner points out and as set forth above, neither Pennsylvania law nor CitX precludes otherwise available recovery simply because a complaint makes reference to "an injury to the Debtor's corporate property from the fraudulent expansion of corporate debt and prolongation of its corporate life." Id. at 9 (quoting Thabault, 541 F.3d at 520). To the contrary, as previously explained, if available under applicable law, damages for an increase in a corporation's liabilities, decrease in fair asset value, or lost profits, remain available regardless of the impact on the solvency calculation.

I agree with Kirschner that, although the Complaint refers to the "artificial prolongation of [the] failed and insolvent enterprise," it also alleges that Wachovia's purported wrongful conduct caused an increase in Le-Nature's liabilities. Wachovia does not argue that such damages are unavailable under Kirschner's common law or RICO claims. Moreover, as CitX and Thabault make clear, such damages do not become unavailable simply because the alleged increase in liabilities also may have deepened Le-Nature's insolvency. Accordingly, W achovia's motion to dismiss Kirschner's common law and RICO claims on deepening insolvency grounds is denied.

See, e.g., AHERF, 2007 W L 141059, at *7 (denying motion for summary judgment where complaint alleged "independent causes of action in the form of professional negligence, breach of contract, and aiding and abetting breach of fiduciary duty, which, if viable, give AHERF a 'remedy for the increase in its liabilities, the decrease in fair market value, or its lost profits'"). b. Proximate Cause -- Insiders' Malfeasance Wachovia argues that to the extent Kirschner properly alleges claims for malfeasance against Podlucky and the Insiders, he does not allege that Wachovia caused that malfeasance or otherwise caused any damage to Le-Nature's resulting therefrom. (Docket No. 89, at 10-11). Wachovia contends that it was merely a lender, and the Complaint does not contain any allegations that Wachovia extended any loans to enable the fraud at Le-Nature's. Id. In Wachovia's view, without such allegations, Kirschner's claims must fail for lack of damages causation. Kirschner responds by stating that he has pled that Wachovia's conduct constituted a substantial factor in bringing about Le-Nature's harm, and, thus, it proximately caused Le-Nature's injury.

As noted by the Court of Appeals for the Third Circuit in the multidistrict litigation matter, In re Orthopedic Bone Screw Products Liability Litigation, 193 F.3d 781 (3d Cir. 1999), "[w]hether plaintiffs have adequately alleged causation depends greatly on the particulars of the state law governing each claim." Id. at 794. Accordingly, I must apply Pennsylvania law to the instant matter. In Lux v. Gerald E. Ort Trucking, Inc., 887 A.2d 1281 (Pa. Super. Ct. 2005), the Pennsylvania Superior Court held:

"Proximate causation is defined as a wrongful act which was a substantial factor in bringing about the plaintiff's harm." Dudley v. USX Corp., 414 Pa. Super. 160, 606 A.2d 916, 923 (1992) (citations omitted). Proximate cause does not exist where the causal chain of events resulting in plaintiff's injury is so remote as to appear highly extraordinary that the conduct could have brought about the harm. Id., 606 A.2d at 923.

887 A.2d at 1286-87.

Kirschner acknowledges that a bank cannot be liable in tort simply for making a loan that it knew, or should have known, the debtor could not repay. (Docket No. 108, at 10-11). He argues, however, that the Complaint alleges that Wachovia did much more than make loans. Among other things, the Complaint avers that Wachovia raised the monies squandered or looted from Le-Nature's through a series of lending transactions based upon financial statements that Wachovia knew or knowingly ignored were materially false; and that Wachovia concealed the true financial condition of Le-Nature's from the Company's innocent decision makers. See, e.g., Complaint ¶¶ 2, 44-48, 68, 71-73, 88, 100-118, 131, 134-142, 144-182. Based on the facts as pled by Kirschner, Wachovia engaged with Podlucky and the Insiders in a scheme to conceal the true nature of Le-Nature's finances from the Company's independent decision makers, resulting in Le-Nature's alleged injuries. Kirschner has adequately pled facts that illustrate Wachovia's alleged wrongful acts, Wachovia's knowledge that its acts would further a fraud, and that Wachovia enabled the fraud. Accordingly, I find Wachovia's actions and inactions (as pled) to be a substantial factor contributing to Le-Nature's alleged injuries. For these reasons, I decline to dismiss the common law claims against W achovia for failure to adequately plead proximate cause. c. Causation -- RICO Claims Wachovia also seeks dismissal of Kirschner's RICO claims against it for failure to plead damages causation. (Docket No. 89, at 11-14). Wachovia argues that RICO requires a plaintiff to plead and prove a "direct causal connection" between the RICO violation and the injury to its business or property. Id. at 11 (citing Anza v. Ideal Steel Supply Corp., 547 U.S. 451, 461 (2006)). W achovia contends that, although courts have used the term "proximate causation" to describe this requirement, the causal link nevertheless must be much more direct than what would suffice to satisfy a common-law proximate cause requirement. Id. at 11-12. Kirschner disagrees and argues that the Complaint clearly alleges damages sufficient to support its RICO claims. (Docket No. 108, at 12-13).

For the same reasons set forth in the immediately preceding subsections, I find that Kirschner has pled damages causation sufficient to support its RICO claims against Wachovia. The Supreme Court in Anza stated that "[w]hen a court evaluates a RICO claim for proximate causation, the central question it must ask is whether the alleged violation led directly to the plaintiff's injuries." 547 U.S. at 461. Here, contrary to Wachovia's assertions, the Complaint describes Le-Nature's as one of the direct victims of the fraudulent scheme. Complaint ¶ 195 ("[T]he . . . predicate acts were performed . . . for the purpose of executing the Fraudulent Scheme and with the intent to defraud Le-Nature's. . . .").

Similar to the common law counts, the Complaint further alleges with respect to the RICO claims that:

Le-Nature's was injured because its operations were needlessly prolonged and it was caused to incur enormous debts that it did not have the ability to repay, thereby greatly dissipating its assets, and thereby greatly increasing its liabilities.

Had the independent decision makers of Le-Nature's known its true financial condition, they would have blocked Podlucky's expansion efforts, moved to stop the needless financings in 2003 through 2006 that were promoted by Wachovia and sought to liquidate a failed enterprise long before October 2006.

Id. ¶ 199; see also id. ¶ 208. Courts have held, and I agree, that "[i]t is reasonably foreseeable that misrepresenting a company's financial condition, and thus hiding from its innocent managers that the company is being driven into the ground, will cause the company harm." In re Parmalat Sec. Litig., 501 F. Supp. 2d 560, 580 (S.D.N.Y. 2007), aff'd sub. nom Pappas v. Bank of Am. Corp., 309 F. App'x 536 (2d Cir. 2009); see also In re Allou Distributs., Inc., 395 B.R. 246, 266 (Bankr. E.D.N.Y. 2008) ("[A]llegations that a corporation's assets were dissipated, diverted, or depleted, without a corresponding benefit, are sufficient to allege damages."). For this reason as well, I find that Kirschner has adequately pled RICO damages causation against Wachovia in this case.

2. Fraud

Wachovia's second argument challenges the sufficiency of Wachovia's pleadings with respect to the requirements of Rule 9(b) of the Federal Rules of Civil Procedure. Rule 9(b) requires particularity when pleading fraud. See Marangos v. Swett, Civ. No. 8-4146, 2009 W L 1803264, at * 3 (3d Cir. June 25, 2009). Specifically, Rule 9(b) provides that:

[i]n all averments of fraud or mistake, the circumstances constituting fraud or mistake shall be pleaded with particularity. Malice, intent, knowledge, and other condition of mind of a person may be averred generally.

Fed. R. Civ. P. 9(b). "The purpose of Rule 9(b) is to provide notice of the 'precise misconduct' with which defendants are charged" in order to allow them the opportunity to respond to the complaint "and to prevent false or unsubstantiated charges." Rolo v. City Investing Co. Liquidating Trust, 155 F.3d 644, 658 (3d Cir. 1998) (citing Seville Indus. Mach. v. Southmost Mach., 742 F.2d 786, 791 (3d Cir. 1984)).

Thus, to satisfy Rule 9(b), Kirschner must "plead with particularity the 'circumstances' of the alleged fraud." Rolo, 155 F.3d at 658. Kirschner need not "plead the 'date, place or time' of the fraud, so long as [he] use[s] an 'alternative means of injecting precision and some measure of substantiation into [his] allegations of fraud." Id. (quoting Seville, 742 F.2d at 791). Further, I am cognizant that, where a party alleges a complex corporate fraud, much of the factual information necessary to describe the details of the fraud may be "peculiarly within the defendant's knowledge and control." See Kaiser Found. Health Plan, Inc. v. Medquist, Inc., Civ. No. 8-4376, 2009 W L 961426, at * 6 (D.N.J. Apr. 8, 2009) (citing In re Craftmatic Sec. Litig., 890 F.2d 628, 645 (3d Cir. 1989) and Shapiro v. UJB Fin. Corp., 964 F.2d 272, 284 (3d Cir. 1992)).

Here, Wachovia argues that the Complaint fails to state a common law fraud claim against it because Kirschner does not allege fraudulent misrepresentation or justifiable reliance. (Docket No. 89, at 14-15). W ith respect to the first part of this argument -- failure to allege a fraudulent misrepresentation -- Wachovia alleges that it was Le-Nature's that defrauded Wachovia, not vice-versa, and that any allegation that Wachovia defrauded third parties (such as lenders or noteholders that extended credit to Le-Nature's) is irrelevant because Kirschner can only bring claims that belong to Le-Nature's. Id. at 14. Wachovia further contends that, to the extent the Complaint makes minimal reference to misrepresentations and reliance, such references do not satisfy the heightened pleading requirements of Federal Rule of Civil Procedure 9(b). Id. Kirschner responds that the Complaint identifies numerous misrepresentations on which Le-Nature's relied as well as concealment of numerous material facts. (Docket No. 108, at 13-16).

The elements of fraud in Pennsylvania are: (1) a material misrepresentation of fact, (2) which is false, and (3) made with knowledge of its falsity, (4) which is intended to induce the receiver to act, and (5) upon which a party justifiably relies. Michael v. Shiley, Inc., 46 F.3d 1316, 1333 (3d Cir. 1995) (citing Mellon Bank Corp. v. First Union Real Estate, 951 F.2d 1399, 1409 (3d Cir. 1991)). It is further well-established in Pennsylvania that fraud consists of anything calculated to deceive, whether by single act or combination, or by suppression of truth, or suggestion of what is false, whether it be by direct falsehood or innuendo, by speech or silence, word of mouth, or look or gesture. W e have held that "fraud is composed of a misrepresentation fraudulently uttered with the intent to ...

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