On Appeal from the United States District Court for the Eastern District of Pennsylvania (D.C. Civ. No. 2-11-cv-00184) Honorable Timothy J. Savage, District Judge
The opinion of the court was delivered by: Greenberg, Circuit Judge.
BEFORE: McKEE, Chief Judge, and FUENTES and GREENBERG, Circuit Judges
Jestyn G. Payne, successor custodian for shares of stock owned by L.L., a minor, appeals from an order of the District Court affirming the Bankruptcy Court‟s order dismissing an adversary proceeding that Payne brought against the debtor, Harold C. Lampe, Jr. ("Harold"), the prior custodian for the shares, and sustaining Harold‟s objections to Payne‟s proof of claim. In the Bankruptcy Court, Payne sought to recover $345,000 from Harold, claiming that Harold breached his fiduciary duties owed to L.L. when he secured and retained that sum in partial satisfaction of a judgment that he obtained against WEL Management, Inc. ("WEL"), a family business of which he was a director and in which he and L.L. were the shareholders of record. In particular, Harold held one WEL share and was the custodian for L.L. of nine WEL shares, the remaining 90% of its outstanding shares. Despite the potentially conflicting interests between his role both as a WEL director and custodian of L.L.‟s shares on the one hand, and his status as a creditor of WEL on the other, the District Court and the Bankruptcy Court determined that Harold did not breach his fiduciary duties either as a WEL director or as the custodian for L.L.‟s shares when he secured the judgment and partially obtained satisfaction for it from the sale of WEL‟s assets. For the following reasons, we will reverse.
II. FACTS AND PROCEDURAL HISTORY
A. The Lampe Family Businesses
In approximately 1983, Harold, a paper salesman for a company not involved in this case, wrote a book about problems associated with the use of paper in commercial printing operations. About two years later, Harold and his son William Lampe ("William") started Paper Complaints, Inc. ("PCI-1"), a Pennsylvania corporation, to market Harold‟s book and to provide consulting services to the printing industry. Harold and William were PCI-1‟s sole shareholders. After they formed PCI-1, Harold continued to work as a paper salesman while William ran PCI-1‟s day-to-day operations. Between 1985 and 1991, Harold made loans to PCI-1 to assist its business, either by writing checks to PCI-1 or paying bills on its behalf. Although there were no written agreements memorializing the terms of the loans, Harold testified in the Bankruptcy Court that he and William agreed that PCI-1 would repay the loans with around nine or ten percent interest.
Around 1985 William married Theresa Lampe ("Theresa") and during the marriage, L.L. was born. In 1991 William told Harold that Theresa wanted to start a new company, Printing Consulting, Inc. ("PCI-2"), that Theresa and William would own equally, to replace PCI-1. Harold agreed to the arrangement on the condition that the loans he had made to PCI-1 were repaid. In 1992, as agreed, PCI-1 ceased operating and William and Theresa formed PCI-2, another Pennsylvania corporation to take its place. Nevertheless, Harold‟s loans were not repaid. PCI-2 engaged in the same kind of business as PCI-1 but it differed to the extent that it focused more on consulting services than on selling Harold‟s book. Between 1991 and 2003, Harold made loans to PCI-2, both to help with the formation of the company and with its ongoing operations. As had been the case with Harold‟s loans to PCI-1, there was no documentation evidencing his loans to PCI-2. Harold testified at the adversary proceeding, however, that he made the loans with the understanding that, like his loans to PCI-1, they would be repaid at nine or ten percent interest. In total, Harold lent almost $300,000 to PCI-1 and PCI-2.
In addition to forming PCI-2, between 1991 and 2003 William and Theresa formed or acquired a number of other closely-held Pennsylvania corporations as well as substantial real estate holdings. As significant here, in 1991 William and Theresa formed WEL to provide a variety of services to the couple‟s other businesses. William, Theresa, and Harold were WEL‟s directors. WEL made intercompany financial transfers, provided accounting services to PCI-2, and made investments. Theresa was primarily responsible for running WEL and served as its president, while William devoted his time to PCI-2 and GTP Plastics, another company that he and Theresa owned. As we stated above, WEL issued one share of stock to Harold around the time that it was formed,*fn1 and, in addition, issued a certificate dated January 14, 1993-soon after L.L.‟s birth-that certified that it had issued nine shares of stock to Harold as custodian for L.L. under the Pennsylvania Uniform Gifts to Minors Act, the predecessor to the Pennsylvania Uniform Transfers to Minors Act.
B. Harold‟s Lawsuits and Judgment Against WEL
Eventually Harold came to believe that WEL was using and managing some of the money he was lending to PCI-2.*fn2
The evidence in the Bankruptcy Court adversary proceeding showed that PCI-2 made significant payments to WEL marked as "loans," but there was no evidence that WEL ever repaid PCI-2 for any loans. Notably, the Bankruptcy Court found that PCI-2 transferred income to WEL for the purpose of making payments to Royal Bank on a loan that the bank made to a Lampe company, apparently GTP Plastics.*fn3
In September of 2002, Harold filed a state court action against WEL, PCI-2, William, Theresa, and several other entities, seeking repayment of his loans. Theresa retained separate counsel to represent her and WEL in this litigation. Harold, however, dismissed the 2002 lawsuit without prejudice. At the adversary proceeding, Harold offered several reasons to the Bankruptcy Court explaining why he dismissed the 2002 lawsuit, including one explanation that Harold‟s lawyer was "in over her head," and another that William told him that the lawsuit was interfering with divorce proceedings then pending between Theresa and him. App. at 208.
On December 8, 2003, Harold and William held a WEL directors‟ meeting to remove Theresa as its president though they did not remove her as a director at that time. Harold testified that he called the meeting because Theresa had defaulted on all of WEL‟s bank loans and he and William needed to regain access to company records. The Bankruptcy Court found that "there is no evidence in the record that [Harold] agreed to vote Theresa out as President of WEL so that he could obtain a judgment against WEL for the loans that had [been] made to [PCI-1] or [PCI-2]." *fn4 App. at 35.
On May 28, 2004, Harold filed a second loan repayment lawsuit against WEL and PCI-2 in the Court of Common Pleas of Berks County, Pennsylvania. Harold alleged in this action that PCI-2 owed him over $800,000, consisting of nearly $300,000 in loan principal and over $500,000 in interest calculated at ten percent per year. Harold asserted that he also had lent WEL $31,000 by borrowing from his personal line of credit and that WEL now owed him over $96,000, a figure that included accrued interest. Though Harold acknowledges that he had made the bulk of the loans to PCI-2, as we have indicated he claimed that William and Theresa diverted PCI-2‟s funds to WEL and thus PCI-2‟s and WEL‟s funds were commingled. He therefore contended that PCI-2 and WEL were alter egos so that the court should pierce the corporate veil between them and regard them as a single entity. William, who by this time was running WEL‟s affairs, accepted service of process in Harold‟s action on behalf of both PCI-2 and WEL, but he did not take any action to defend either corporation in the case. In the adversary proceeding, William testified that he did not defend the corporations against the lawsuit "because there was no means [by] which even [to] try to defend it. There was no money." App. at 254.
Ultimately, Harold obtained default judgments in the state court against PCI-2 and WEL in the amounts of $1,107,550.09 and $1,204,439.12, respectively. Though William has contended otherwise, the Bankruptcy Court believed that Theresa was not aware of the case when Harold initiated the Berks County lawsuit and did become aware of it until late in 2004 after Harold obtained the judgments. She testified in the Bankruptcy Court that if she had known about Harold‟s lawsuit, she would have hired counsel separately to defend against it. This testimony seems credible because she had retained counsel to defend against Harold‟s earlier action.
On March 25, 2005, Harold commenced execution proceedings on his
judgment against property that WEL owned on Reading Avenue in
Boyertown, Pennsylvania, and on July 8,
2005, Harold purchased the parcel at a sheriff‟s sale.*fn5
resold the property for $345,000, and retained approximately $320,000
in net proceeds. Thus, his judgment was partially
C. The Present Litigation
On August 6, 2008, by order of the Court of Common
Pleas of Berks County, Orphan‟s Court Division, Payne
succeeded Harold as custodian for L.L‟s shares in WEL.*fn7
After conducting an investigation, Payne concluded that
Harold wrongfully deprived L.L. of the value of her shares when he
sued WEL and secured a judgment against it and then obtained partial
satisfaction of the judgment from a sale of its assets.
On October 24, 2008, Payne, as custodian for L.L.‟s shares, commenced an action in the Berks County Court of Common Pleas against Harold, William, WEL, and other Lampe family businesses. This lawsuit included claims against Harold for breach of his fiduciary duties as the previous custodian for L.L.‟s shares and as a WEL director, alleging that Harold engaged in self-dealing and other malfeasance when he sued WEL and secured partial satisfaction of the judgment that he obtained from the sale of its assets, particularly to the extent that it was PCI-2 that was the obligor on the debt owed Harold. Payne stated that Harold‟s allegation in his 2004 litigation that led to the judgment against WEL that WEL and PCI-2 were alter egos was a sham. He further contended that he could demonstrate that if the officers and directors of WEL had exercised reasonable care, they could have defended WEL successfully against Harold‟s case insofar as Harold sought to hold WEL liable for his loans to PCI-2. It is obvious that the recognition of WEL and PCI-2 as alter egos was significant for, as WEL‟s ownership of the Reading Avenue property demonstrated, WEL owned substantial assets, unlike PCI-2.
On December 4, 2008, less than two months after Payne
initiated his litigation, Harold filed a Voluntary Petition for Relief
under Chapter 11 of the Bankruptcy Code in the Bankruptcy Court that
automatically stayed Payne‟s Berks County litigation.*fn8
See 11 U.S.C. § 362. In his schedules in the bankruptcy case,
Harold listed Payne as a creditor with a disputed claim in the amount
of $345,000. On January 15, 2009, Payne filed an unsecured claim in
the bankruptcy case for $500,000 and, on the same day, he commenced an
adversary proceeding largely tracking his stayed Berks County action.
The adversary complaint sought: (1) a judgment in the amount of
$345,000 against Harold; (2) the allowance of a claim in the same
amount based on the judgment that Payne sought; and (3) a
determination that the debt underlying the claim was not dischargeable
because Harold engaged in fraud or defalcation while acting in a
fiduciary capacity. See 11 U.S.C. § 523(a)(4). Harold filed objections
to Payne‟s proof of claim and contended that the claim was not
entitled to be treated as prima facie valid under Federal Rule of
Bankruptcy Procedure 3001(c) and (f). Harold predicated this
contention on the circumstance that the proof of claim did not include
any attachments or factual explanation for the claim other than a
generalized allegation that Harold had engaged in "fraud and breach of
fiduciary duties." App. at 48.
The Bankruptcy Court consolidated the adversary proceeding and Harold‟s objections to Payne‟s proof of claim and held a bench trial in the consolidated proceedings on April 9 and 12, 2010. On November 19, 2010, the Court issued an opinion and order upholding Harold‟s objection to Payne‟s claim and entering judgment on the adversary complaint in Harold‟s favor.
At the threshold of its opinion, the Bankruptcy Court concluded that Payne‟s proof of claim was not entitled to prima facie validity as it agreed with Harold that Payne did not file documentation to establish his connection to Harold or to support the claim. The Court also noted:
In any event, even if Payne‟s claim was given prima facie effect, the Court would rule in the same manner on the Objection. The Debtor [Harold] provided evidence which refutes Payne‟s contention that he breached his fiduciary duties. ...