Panos v. Sullivan

OCR transcription for search; preserved printed pages are authoritative

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UNITED STATES BANKRUPTCY COURT
DISTRICT OF MASSACHUSETTS

(teehee A tA Lt Ate tet te te ae ta a daa a da da da den do

In re
SABINE, INC., f/k/a
ROWECOM, INC., ET AL., Chapter 11
Debtor. Case No. 03-10668-JNF

YO EOE ERI RR EI ERIE EEE EERIE NN

CHRISTOPHER J. PANOS, TRUSTEE
OF THE ROWECOM LIQUIDATING TRUST,

Plaintiff,
v. Adv. P. No. 05-1019-JNF

JUDE M. SULLIVAN,

Defendant.

OL OL OL OL OL OI OI I OSLO OO I OO OI OE OE ERIE I RIO

MEMORANDUM OF DECISION

I. INTRODUCTION

The contested matters before the Court are the following: (1) “Defendant Jude
Sullivan’s Motion to Dismiss” (the “Motion to Dismiss”) the Complaint of Christopher J.
Panos, as the Trustee of the RoweCom Liquidating Trust (the “Plaintiff”) in which
defendant Jude Sullivan (“Sullivan”) seeks to dismiss the Plaintiff's Complaint against him
in its entirety; and (2) the Plaintiff's opposition thereto contained in “Plaintiff's

Memorandum in Support of His Opposition to Defendant Jude Sullivan’s Motion to

AUTHENTICATED
U.S. GOVERNMENT
INFORMATION

GPO

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Dismiss.” Both parties have filed memoranda of law and reply briefs.
On September 21, 2005, the Court conducted a hearing after which it took the
Motion to Dismiss under advisement, the Court directed that the parties file further briefs

addressing the Third Circuit Court of Appeals’ recent decision in Stanziale v. Nachtomi (In

re Tower Air, Inc.), 416 F.3d 229 (3d Cir. 2005), and established a briefing schedule

regarding issues raised by the Motion to Dismiss. In compliance with that order, the
Plaintiff filed a “Memorandum of Plaintiff on Caselaw Post-Dating Motion to Dismiss
Briefing Period” and Sullivan filed “Defendant Sullivan’s Supplemental Brief in Support
of His Motion to Dismiss.”
Il. THE PLAINTIFF'S COMPLAINT

The Court accepts the following facts alleged in the Complaint as true for purposes

of this decision. See Warth v. Seldin, 422 U.S. 490, 501, 95S. Ct. 2197, 2206-07, 45 L. Ed. 2d

343 (1975).

The Debtor, Sabine, Inc., f/k/a RoweCom, Inc. (“RoweCom”), was a Delaware
corporation and a business-to-business provider of e-commerce solutions for purchasing
and managing the acquisition of magazines, journals, books and other printed sources of
commercial, scientific and general interest information and analysis. RoweCom generated

the majority of its revenue through the receipt of payments from its customers for

periodicals ordered by those customers, most of which were the libraries of colleges and
universities. Typically, RoweCom would receive subscription orders from its customers

before it received payment for the orders. RoweCom would then place the customers’

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orders with various publishers and pay the publishers for those orders. As a general rule,
the annual subscription payments to the publishers were typically due in December or
January. The publishers would then ship the orders to the customers, who would then, in
turn, pay RoweCom the subscription price. Because RoweCom advanced publication
payments for its customers, it would have a large cash deficit at year end.

divine, inc., also a Delaware corporation (“Divine”)’, also was engaged generally in
business-to-business e-commerce through a group of companies in which it had invested.
Effective on November 6, 2001 (the “ Acquisition Date”), RoweCom merged witha wholly-
owned subsidiary of Divine. As a result of this transaction (the “ Acquisition”), RoweCom
became a wholly-owned subsidiary of Divine. It continued to use the name RoweCom. As
part of the Acquisition price, Divine agreed to assume all of RoweCom’s existing debt
obligations and pay its future operating expenses. On the Acquisition Date, Divine
appointed Sullivan, the general counsel, vice president and secretary of Divine, as the vice
president, secretary and sole director of RoweCom. As such, he had the authority to
supervise, manage, and control RoweCom. While holding these positions at RoweCom,
Sullivan maintained his positions at Divine.

RoweCom had a negative net worth of at least $19 million on the Acquisition Date
and its financial condition was perilous. It was either unable to pay its obligations when

due, or, at a minimum, there was serious risk that it would be unable to meet its future

' Divine is also a Chapter 11 debtor in this Court in Case No. 03-11472 filed on
February 25, 2003.

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obligations when they became due. RoweCom, therefore, was either insolvent or was
within the zone of insolvency as of the Acquisition Date.

In the Spring of 2002, Divine required RoweCom to implement two pre-payment
programs relative to its collection of subscription money from its customers. Under these
Payment Programs, customers were required to bring their accounts current before
RoweCom would place their orders with publishers and customers who pre-paid their
orders by certain deadlines were given discounts on their orders (the “ Payment Programs’).
RoweCom began receiving money from customers under one or both of these Payment
Programs as early as April 1, 2002. RoweCom’s customers delivered the funds under these
programs with the understanding that those funds would eventually be paid to publishers
on their behalf.

Between April and December 2002, Divine transferred over $73 million in RoweCom
customer payments from RoweCom’s accounts to Divine’s accounts. Although Divine
claims that it used such funds to satisfy certain RoweCom loan obligations or operating
expenses, the Plaintiff alleges that Divine had no right to use RoweCom customer prepaid
funds to pay those liabilities because Divine had assumed responsibility for the payment
of these obligations in connection with the Acquisition. Additionally, the Plaintiff alleges,
Divine used certain RoweCom customer funds to pay for expenses related to other Divine
operations which were unrelated to RoweCom’s business. Sullivan was aware of the
transfers and had authorized, or allowed without objection, Divine personnel to exercise

authority over RoweCom bank accounts. Sullivan took no steps to oversee or control

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Divine’s use of RoweCom’s funds.

Notwithstanding RoweCom’s receipt of certain pre-paid funds from its customers
under the Payment Programs, the Plaintiff alleges that Divine and Sullivan knew that
RoweCom would need a sizeable cash infusion, in the form of bank loans or otherwise, in
the last quarter of 2002 in order to pay publisher obligations and for customers to receive
their publications. The Plaintiff further alleges that Sullivan failed to undertake or oversee
efforts to secure such financing while he simultaneously allowed Divine to use RoweCom
customer funds for Divine’s own purposes.

In mid to late December 2002, at least $68 million in payments became due to
publishers from RoweCom on behalf of its customers. At that time, Divine notified
RoweCom employees that it would not fund any of these obligations. On December 20,
2002, Divine announced its intent to divest the content subscription business delivered
through RoweCom. Thereafter, Divine refused to repay any of the more than $73 million
that it had previously transferred to itself from RoweCom’s accounts.

In early 2003, Divine and RoweCom attempted to sell RoweCom asa going concern.
Before a sale could be cffectuated, however, several RoweCom customers initiated lawsuits
against RoweCom for its failure to place subscription orders with publishers. Faced with
a number of customer lawsuits, RoweCom and a number of its subsidiaries followed suit
and filed petitions under Chapter 11 of the Bankruptcy Code (the “Code”) on January 27,

2003. Divine and several of its subsidiaries also filed petitions for relief under Chapter 11

of the Code on February 25, 2003.

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The Plaintiff alleges that Sullivan, based solely on his allegiance to Divine, breached
his fiduciary duties to RoweCom and its creditors by delegating all RoweCom decision
making to Divine personnel without oversight or management and engaged in corporate
waste by allowing RoweCom to make a series of fund transfers to Divine at a time when
RoweCom was insolvent. Asa result of these breaches, the Plaintiff alleges RoweCom and
its bankruptcy estate were wrongfully deprived of funds that would otherwise be available
to creditors.

Through Count I of the Complaint, the Plaintiff alleges that Sullivan breached his
fiduciary duty of care by, inter alia: (1) delegating control of RoweCom to Divine and failing
to monitor Divine’s management of RoweCom,; (2) allowing or failing to prevent the
transfer of RoweCom funds by Divine and failing to reclaim those misappropriated funds;
(3) failing to retake managerial control over RoweCom in light of Divine’s obvious
mismanagement and misappropriation of funds; and (4) failing to plan for RoweCom’s
significant cash needs in late 2002. The Plaintiff alleges that these actions and inactions
constituted gross negligence.

Through Count II of the Complaint, the Plaintiff alleges that Sullivan breached his
duty of loyalty to RoweCom and its creditors by, inter alia: (1) acting or failing to act solely
based on his allegiance to Divine; (2) failing to remain independent from Divine’s influence;
and (3) failing to make business decisions with a good faith belief that those decisions were

in the best interest of RoweCom and its creditors.

Finally, through Count II] of the Complaint, the Plaintiff alleges that Sullivan is liable

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for waste of corporate assets because he authorized or allowed the transfer of $73 million
from RoweCom accounts to Divine accounts without any benefit to RoweCom.
Ill. THE MOTION TO DISMISS

Sullivan filed his Motion to Dismiss pursuant to Fed. R. Civ. P. 12(b)(6), made
applicable to this proceeding by Fed. R. Bankr. P. 7012. He seeks dismissal of Counts I and
II of the Complaint because he asserts: 1) certain protective provisions in RoweCom’s
corporate charter exempt him from liability; 2) the Delaware business judgment rule
protected his actions; and 3) the allegations that he engaged in self-dealing or otherwise
lacked independence were insufficient. Sullivan seeks dismissal of Count III because he
asserts that the Plaintiff failed to allege the RoweCom funds transfers were not supported
by consideration. Moreover, Sullivan argues, all of the claims in the Complaint are barred
by judicial estoppel and release.

The issue presented is whether the Plaintiff has pled sufficient facts in the Complaint
to survive dismissal. For the reasons stated below, the Court finds that the Plaintiff has
alleged sufficient facts to overcome the Motion to Dismiss.

IV. DISCUSSION

A. Standard for Dismissal Pursuant to Fed. R. Civ. P. 12(b)(6)

When reviewing a Rule 12(b)(6) motion, the court must accept as true all allegations
of the complaint and construe the complaint in a light most favorable to the plaintiff. See

Warth v. Seldin, 422 U.S. 490, 501, 95 S. Ct. 2197, 2206-07, 45 L. Ed. 2d 343 (1975). The

Federal Rules of Civil Procedure “do not require a claimant to set out in detail the facts

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upon which he bases his claim.” Conley v. Gibson, 355 U.S. 41, 47, 78S. Ct. 99, 103, 2 L. Ed.

2d 80 (1957). “To the contrary, all the Rules require is ‘a short and plain statement of the
claim’ that will give the defendant fair notice of what the plaintiff's claim is and the grounds

upon which it rests.” Id. (quoting Fed. R. Civ. P. 8(a)(2)). See also Trump Hotels & Casino

Resorts, Inc. v. Mirage Resorts, Inc., 140 F.3d 478, 483 (3d Cir. 1998) (“A complaint should
be dismissed only if, after accepting as true all of the facts alleged in the complaint, and
drawing all reasonable inferences in the plaintiff's favor, no relief could be granted under

any set of facts consistent with the allegations of the complaint.”).

In contrast to the federal notice pleading standard, Delaware courts have long
imposed a more restrictive pleading standard which requires specific allegations of fact to

support a plaintiff’s demand for relief. In Stanziale v. Nachtomi (In re Tower Air, Inc.), 416

F. 3d 229 (3d Cir. 2005), the Court of Appeals for the Third Circuit recently set forth the
applicable federal pleading standards for a suit against a Delaware corporation’s directors

and officers for breaches of fiduciary duties.? In Tower Air, the Chapter 7 trustee of a

bankrupt airline sued former directors and officers of the debtor for breach of fiduciary
duties under Delaware law. The district court granted the defendants’ Rule 12(b)(6) motion

and dismissed all counts of the complaint. The Third Circuit reversed, in part, holding that

* Although Tower Air is not binding on this Court, the Court finds it to be
persuasive authority as the Third Circuit is the Court of Appeals which most frequently
deals with Delaware law. Notwithstanding this view, the Court will address the
sufficiency of the Plaintiff's Complaint under both the notice pleading standard

articulated in Tower Air as well as under the Delaware cases contained in the parties’
briefs.

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the district court erred in applying Delaware’s Chancery Rule 8 rather than the more lenient
federal notice pleading standard of Federal Rule of Civil Procedure 8. The court noted that,
although Delaware courts interpret Delaware Chancery Rule 8 to require the plaintiff to
plead facts with specificity, this is not the federal notice pleading standard. Id. at 237.
According to the Third Circuit, under Federal Rule 8, the plaintiff need only plead the “basic
facts” necessary to provide the defendant with fair notice of the plaintift’s claims and the
general factual background upon which it rests, and should not, therefore, be deprived of
the opportunity to pursue claims on a Rule 12(b)(6) motion for lack of detailed facts. Id. at
237 (citing Conley at 47). “To hold otherwise would be effectively to transform Rule 12(b)(6)

motions into multi-purpose summary judgment vehicles.” Id. at 238.

B. Sufficiency of the Complaint

1. Count I

Sullivan argues that the claims in Count I of the Complaint, captioned Breach of
Fiduciary Duty of Care, in which the Plaintiff alleges that Sullivan’s conduct constituted
“gross negligence” are foreclosed as a matter of law because of an exculpatory provision in
RoweCom’s corporate charter. Article Eighth of RoweCom’s Amended and Restated
Certificate of Incorporation, which was attached to the Motion to Dismiss, provides: “The
personal liability of the directors and officers of the Corporation is hereby eliminated to the
fullest extent permitted by the [General Corporation Law of Delaware].” (the “Exculpatory
Clause”). Sullivan asserts that this Exculpatory Clause affords officers and directors of

RoweCom the same liability protection as that provided in Delaware General Corporation

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Law § 102(b)(7).° Section 102(b)(7) permits Delaware corporations to adopt provisions in
their certificates of incorporation which exculpate directors from liability for damages
arising out of the breach of the duty of care, but not claims based on breach of the duty of
loyalty, intentional misconduct or knowing violation of the law. Notably, Article Eighth of
the RoweCom charter does not refer to or contain the statutory language of § 102(b)(7). The
Plaintiff argues that such omission renders the clause ineffective for the purpose of limiting

Sullivan’s liability in this case.

Sullivan argues that the practical effect of the Exculpatory Clause is that claims of
gross negligence and ordinary negligence, such as the duty of care claim in Count I of the
Complaint, fall far short of the necessary allegations of intentional misconduct or knowing
violation of the law required to overcome the Exculpatory Clause, and, therefore, do not

survive a motion to dismiss. He relies on Continuing Creditors’ Comm. of Star Telecom.

* Del. Code Ann. Tit. 8, § 102(b)(7) provides, in pertinent part:

(b) In addition to the matters required to be set forth in the certificate of
incorporation by subsection (a) of this section, the certificate of incorporation
may also contain any or all of the following matters:

(7) A provision eliminating or limiting the personal liability of a director
to the corporation or its stockholders for monetary damages for breach of
fiduciary duty as a director, provided that such provision shall not
eliminate or limit the liability of a director: (i) For any breach of the
dircctor’s duty of loyalty to the corporation or its stockholders; (ii) for acts
or omissions not in good faith or which involve intentional misconduct or
a knowing violation of law; (iii) under § 174 of this title; or (iv) for any
transaction trom which the director derived an improper personal benefit.
No such provision shall eliminate or limit the liability of a director for any

act or omission occurring prior to the date when such provision becomes
effective.

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Inc. v. Edgecomb, 385 F. Supp. 2d 449, 464 (D. Del. 2004) and Malpiede v. Townson, 780

A.2d 1075, 1094-95 (Del. 2001) (both holding that exculpatory charter provisions shield
directors from claims of gross negligence). The Plaintiff counters that the Exculpatory
Clause is invalid because it does not include the statutory language of 8 Del. Code §

102(b)(7), and therefore the clause does not protect Sullivan from the Plaintiff's breach of the

duty of care claims.

The validity of the Exculpatory Clause and the extent of any immunity it affords
Sullivan is premature at this tirme because the question of whether the protective provisions
of Delaware General Corporation Law § 102(b)(7) were properly incorporated by reference
into RoweCom’s charter is a legal one which will be determined at the summary judgment
stage of these proceedings. In light of the Court’s deferred consideration of the validity of
the Exculpatory Clause, the Court also defers consideration of Sullivan’s argument that the
Plaintiff failed to plead specific facts supporting bad faith or intentional misconduct in

Count I of the Complaint. Accordingly, the Court denies Sullivan’s Motion to Dismiss with

respect to Count I.
2. Count II

Sullivan argues that the claims in Count II of the Complaint, captioned Breach of
Fiduciary Duty of Loyalty, should be dismissed because the Plaintiff failed to overcome the
business judgment rule by alleging with sufficient particularity that Sullivan had a self-
interest in the challenged transactions or that he lacked independence. The business

judgment rule “is a presumption that in making a business decision the directors of a

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corporation acted on an informed basis, in good faith and in the honest belief that the action

taken was in the best interests of the company.” Aronson v. Lewis, 473 A. 2d 805, 812 (Del.

1984), overruled on other grounds by Brehm v. Eisner, 746 A.2d 244 (Del. 2000). “Asa general

matter, the business judgment rule presumption that a board acted loyally can be rebutted
by alleging facts which, if accepted as true, establish that the board was either interested in the
outcome of the transaction or lacked the independence to consider objectively whether the
transaction was in the best interest of its company and all of its shareholders.” Orman v.
Cullman, 794 A.2d 5, 22 (Del. Ch. 2002)(emphasis in original). With respect to the first
element, interest“... means that directors can neither appear on both sides of a transaction
nor expect to derive any personal financial benefit from it in the sense of self-dealing, as

opposed to a benefit which devolves upon the corporation or all stockholders generally.”

Aronson 473 A.2d at 812 (citations omitted).

On the separate question of independence, “[i]ndependence means that a director's
decision is based on the corporate merits of the subject before the board rather than
extraneous considerations or influences.” Aronson 473 A.2d at 816. Independence ”. . .
involves an inquiry into whcther the director’s decision resulted from that director being

controlled by another.” Orman, 794 A.2d at 25 n.50 (emphasis in original). Control may be

demonstrated by a showing that the director is dominated by that other party, whether

* The Plaintiff concedes that he does not allege that Sullivan received a financial
benefit in connection with the disputed transactions, see p 5., n. 2 to “Plaintiff's
Memorandum in Support of His Opposition to Defendant Jude Sullivan’s Motion to
Dismiss.” Therefore, the Court will only address whether the Plaintiff has pled
sufficient facts alleging lack of independence.

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through close personal or familial relationship or through force of will. Id. A director can
also be controlled by another if the challenged director is beholden to the allegedly controlling
entity. Id. A director may be considered beholden to another when the allegedly controlling
entity has the unilateral power to decide whether the challenged director continues to receive
a benefit, financial or otherwise. Id. Sullivan argues the Trustee fails to allege any benefit
that Sullivan received from Divine and that he merely alleges that Sullivan was an officer of
Divine. Sullivan contends that a business relationship with an interested party, including

employment, without more, is insufficient to overcome the presumption of independence,

citing Orman 794 A.2d at 27 n.55 (emphasis added).

The Court finds that the Plaintiff has pled sufficient facts to demonstrate Sullivan's lack
of independent decision making as a result of Divine’s domination and control to withstand
dismissal of Count II and that no allegation of a financial benefit is necessary. The following

pleaded facts exemplify allegations of Divine’s domination and control over Sullivan in his

capacity as an officer and the sole director of RoweCom:

(1) “. . . during the entire time that he was an officer and the sole director of RoweCom,
Sullivan either authorized, or allowed without objection, each material decision relating to
RoweCom’s operations and finances to be made by Divine personnel.” (Compl. at $48); (2)
“... during the entire time that he was an officer and the sole director of RoweCom, Sullivan
either authorized, or allowed without objection, Divine personnel to exercise authority over
RoweCom bank accounts and maintain approval control over all RoweCom expenditures.”

(Id. at { 49); (3) “Throughout Sullivan’s tenure as officer and as sole director of RoweCom,

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all business planning for RoweCom, to the extent any was done, was performed by Divine
personnel.” (Id. at {| 50); (4) “At no time after he became RoweCom’s director, did Sullivan
do anything to determine whether, from RoweCom’s perspective, [Divine’s new business
plan for RoweCom] was a viable business plan or one that was in [RoweCom’s] or its
creditors’ best interests.” (Id. at §[ 52); and (5) “... as director of RoweCom, Sullivan took no
steps to oversee and control Divine’s use of RoweCom’s funds and further took no steps to
ensure that Divine did not use the RoweCom customer funds for purposes unrelated to the
publisher payments.” (Id. at § 68). The Court notes that the above cited examples of
domination and control alleged by the Plaintiff are founded more upon Divine’s relationship
with RoweCom rather than Sullivan’s relationship with and employment by Divine.
The Tower Air court also addressed the business judgment rule and the requirement

that a plaintiff “plead around it.” Tower Air, 416 F.3d 229 at 238. Under the standard

articulated in Tower Air, a plaintiff must plead that he overcomes the presumption created
by that rule by setting forth a simple and brief statement of claims of either irrationality or
inallention on the part of the director such that the director has fair notice of the grounds of
those claims. Id. At 239. To show irrationality, a plaintiff must demonstrate that no
reasonable business person could possibly authorize the action in good faith, Id. At 238

(citing Gagliardi v. TriFoods Int'l, Inc., 683 A.2d 1049, 1053-54 (De. Ch. 1996)), such that the

only explanation for the decision is bad faith. Id. (citing Parnes v. Bally Entm’t Corp., 722 A.2d

1243, 1246 (Del. 1999)). Alternatively, the plaintiff may overcome the presumption that the

directors and officers acted on an informed basis by establishing that the decision was the

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product of an irrational process or that directors failed to establish an information and
reporting system reasonably designed to provide the senior management and the board with
information regarding the corporation’s legal compliance and business performance, resulting

in liability. Id. (citing Inre Caremark Int'l Inc. Derivative Litig., 698 A.2d 959, 967-70 (Del. Ch.

1996)).

With respect to Claim II of the Complaint for breach of the duty of loyalty, the Court
finds that the Plaintiff's Complaint does set forth, at the very least, a simple and brief
statement of claims of irrationality or inattention and gives Sullivan fair notice of the grounds
of those claims. The following pleaded facts exemplify allegations of irrationality and/or
inattention on the part of Sullivan: (1) “... during the entire time he was a director, Sullivan
never asked any RoweCom executive or other employee to prepare or present to him, as
director and an officer of RoweCom, any financial or operational projections, budgets or
historical reports.” (Compl. at 47); (2) “Sullivan ... . failfed] to exercise any oversight over the
financial and operational management of RoweCom, such that Divine personnel were able
to make seventy-one (71) separate transfers of RoweCom’s customers’ funds... ., to Divine for
no legitimate business purpose of RoweCom.” (Id. at 495); (3) “Sullivan ... fail[ed] to prevent
Divine personnel from either using those customer funds for things other than RoweCom
publisher payments or wrongfully retaining the customer funds for Divine’s sole benefit.” (Id.
al 96); (4) “.. . Sullivan did absolutely nothing to prevent future transfers [of RoweCom
funds] or to compel the return of the earlier transferred funds for the benefit of [RoweCom]

or its creditors.” (Id. At 99); and (5) “Sullivan . . . failfed] to exercise any oversight over the

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planning for RoweCom’s continued business operations, including, but not limited to his
failing to plan for RoweCom’s significant cash need in late 2002, when he knew that tens of
millions of dollars would need to be available to pay publishers so that RoweCom’s
customers could receive the subscription orders they had placed with RoweCom throughout

2002.” (Id. At $101).

The Court finds that the Plaintiff has sufficiently set forth allegations in the Complaint
which, if true, indicate that no reasonable business person could have authorized the above
described conduct in good faith, that such conduct was the product of an irrational process
or, at the very least, inattention. See Tower Air at 238. Accordingly, the Court denies the

Motion to Dismiss with respect to Count II.

3. Count III

With respect to Count III of the Complaint, captioned Breach of Fiduciary Duty-Waste
of Corporate Assets, Sullivan argues that to establish a corporate waste claim, the Plaintiff
was required to have alleged sufficient facts to establish that the transfer of funds was so
completely bereft of consideration that the transfer was, “in effect a gift,” relying on Criden

y. Steinberg, No. 17082, 2000 WL 354390, at *3 (Del. Ch. 2000)(citing Lewis v. Vogelstein, 699

A.2d.327, 336 (Del. 1997)). Sullivan adds that the Plaintiff essentially alleges that Divine’s use
of RoweCom funds was a poor business decision and that the Plaintiff is, in essence, trying
to substitute his business judgment for Sullivan’s. The Court disagrees and finds that the
Plaintiff has pled more than a hindsight evaluation of Sullivan’s decisions with regard to the

customer funds transfers and has alleged a total lack of consideration.

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The Plaintiff alleges that Sullivan allowed Divine to use certain RoweCom customer
funds to pay for expenses related to other Divine operations, for purposes which were
unrelated to RoweCom’s business, and that RoweCom did not receive any benefit from the
funds transfers to Divine. See, Compl. at, inter alia, §§ 66,67 and 120. The Court finds that
these allegations, if true, would establish that Sullivan authorized a series of exchanges which
were “so one sided that no business person of ordinary, sound judgment could conclude that

[RoweCom] . . . received adequate consideration.” Criden, 2000 WL 354390 at *3. The Court

rejects Sullivan’s characterization of the Trustee’s allegations as a reflection of “a difference

in business judgment” and finds that reasonable, informed minds would not disagree on the

adequacy of consideration if the Plaintiff's allegations prove true. See Glazer v. Zapata Corp.,

658 A.2d 176, 183 (Del. 1993).

Sullivan further contends that the corporate waste claim must fail because it rests
completely on the Complaint’s false characterization of the transfers of RoweCom funds as
a one-way flow of funds from RoweCom to Divine. The Plaintiff alleges in the Complaint that
Divine paid certain post-merger obligations and expenses of RoweCom and that Divine was
obligated to do so because such payments were part of the consideration for the Acquisition.
Sullivan argues that such payments were not part of the Acquisition consideration, and he
cites provisions of the Agreement and Plan of Merger and Reorganization between the parties
(the “Merger Agreement”) to establish that RoweCom remained obligated for all of its pre-
merger liabilities. Accordingly, Sullivan asserts, the $73 million in transfers was not “in

effect a gift,” but rather was indicative of a reciprocal flow of funds between the companies

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and evidence that the Divine-RoweCom ledger had another side. Resolution of this issue
requires the interpretation of the Merger Agreement and the application of that analysis to
the facts alleged in the Complaint. Sullivan’s argument is a legal one and inappropriate for
a motion to dismiss where the court assumes as true the well pleaded allegations of a

complaint. See Warth v. Seldin, 422 U.S. 490, 501, 95 S. Ct. 2197, 2206-07, 45 L. Ed. 2d 343

(1975). The Court denies the Motion to Dismiss with respect to Count III.

C. Judicial Estoppel

Sullivan refers the Court to a “Motion for Substantive Consolidation of the RoweCom
Debtors to Facilitate Liquidating Plan” (the “Motion to Consolidate”), filed by RoweCom on
May 23, 2003, which the Court approved on July 8, 2003, in support of his Motion to Dismiss
on the grounds of judicial estoppel. Through this motion, RoweCom sought to substantively
consolidate its Chapter 11 case with certain of its wholly owned subsidiaries (the
“Subsidiaries”) which were also debtors in this Court. Sullivan highlights the following
representations made by RoweCom in the Motion to Consolidate: (1) Since November 6, 2001,
RoweCom and the Subsidiaries did not maintain separate corporate minutes or any other
semblance of individual corporate identities (Motion to Consolidate at § 22); (2) “All of
[RoweCom’s and the Subsidiaries’] invoices and purchase orders contained Divine’s name

and logo and not that of any of [them individually]” (Id. at { 28); (3) RoweCom and the
Subsidiaries held themselves out to their subscription customers and publishers as either
Divine/faxon library services, Divine information services or simply as Divine. (Id. at 4 23);

and (4) [I]t is unlikely that holders of unsecured claims reasonably relied on the fact that

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[RoweCom and the Subsidiaries] were distinct entities at the time credit was extended. Most
creditors believed that they were extending credit to a single entity.” (Id. at § 24).
Sullivan argues that the Plaintiff, as the successor of the RoweCom debtor, cannot
enjoy the benefits received from the allowance of the Motion to Consolidate which contained
representations that there was no distinction between RoweCom and Divine, and now pursue
breach of fiduciary duty claims against Sullivan which are predicated upon Sullivan’s
treatment of RoweCom and Divine asa single entity. Sullivan argues that the Plaintiff should
be barred from doing so under the doctrine of judicial estoppel which ”. . . takes effect when
the proponent has shown that the party to be estopped ‘succeeded previously witha position

directly inconsistent with the one [it] currently espouses.’” Fleet Nat’l Bank v. Gray (In re

Bankvest Capital Corp.), 375 F.3d 51, 60 (1st Cir. 2004)(quoting Lydon v. Boston Sand &

Gravel Co., 175 F.3d 6, 13 (1st Cir. 1999)). See also, Payless Wholesale Distributors, Inc., v.

Alberto Culver (P.R.) Inc., 989 F.2d 570 (1st Cir. 1993).

Assuming, arguendo, that the defense of judicial estoppel based upon representations
in the Motion to Consolidate is properly before the Court in the context of a Rule 12(b)(6)
Motion’, the Court finds that the portions of the Motion to Consolidate referenced by Sullivan
are not inconsistent or at odds with the claims advanced by the Plaintiff in this adversary
proceeding. The above cited provisions of the Motion to Consolidate simply conveyed the

internal billing and marketing practices of RoweCom and its Subsidiaries and the marketplace

> See Watterson v. Page, 987 F.2d 1, 3 (1st Cir. 1998)(”. . . any consideration of
documents not attached to the complaint...is forbidden...[h]owever, courts have made
narrow exceptions for...official public records. . . .”).

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perception of those entities. The presence of the Divine logo on RoweCom invoices and
marketing materials and the RoweCom entities’ representations to customers under different
names, including the Divine name, are incidental and secondary to the primary objective of
the Motion, which was to consolidate the bankruptcy cases of RoweCom and its Subsidiaries,
not RoweCom and Divine. The provisions of the Motion to Consolidate cited by Sullivan do
not contradict the Plaintiff's allegations that Sullivan was essentially, at best, a passive officer
and director of RoweCom, and they do not assert that RoweCom and Divine were the same
entity or that they should be treated as such. Accordingly, the Court finds nothing in the
Motion to Consolidate which warrants judicial estoppel of the Plaintiff's claims that Sullivan

breached his fiduciary duties to RoweCom and its creditors.

D. Release

Lastly, Sullivan argues that the Complaint should also be dismissed because RoweCom
settled and released its claims against Sullivan in a previously filed stipulation (the
“Stipulation”) through which RoweCom and Divine settled certain claims against each other.

The last sentence of Paragraph 1 of the Stipulation provides:

he terms and consideration provided for in this Agreement shall be in
full and final satisfaction of any and all Settled RoweCom Claims and any
and all Claims held by any Entity arising from or based in any material

way upon the facts and circumstances giving rise to the Settled RoweCom
Claims.

Stipulation at 41.

By releasing Divine in that Stipulation, Sullivan argues, RoweCom released Sullivan

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for any claims arising under the same facts. Sullivan further argues that the Plaintiff's claims
against Sullivan constitute “Settled RoweCom Claims,”as defined in the Stipulation, and,
therefore, were released against him when the Court approved the Stipulation. As an
alternative ground to argue release, Sullivan refers the Court to an indemnification agreement
entered into between Sullivan and Divine in 2000, prior to the RoweCom and Divine
bankruptcy filings, under which Divine agreed to indemnify Sullivan for any claims arising
out of his actions on behalf of Divine and its subsidiaries. Sullivan argues that because the
Plaintiff's claims assert that he was favoring his obligations to Divine over those to RoweCom
and because Divine agreed to indemnify Sullivan for such claims, the Complaint is essentially

a claim against Divine which has been released under the Stipulation.

The Plaintiff counters that the release provided in the Stipulation contained a carve-out
for any D&O Claims’ and that the claims now asserted against Sullivan constitute a preserved
D&O Claim. The Plaintiff cites Section 5(f) of the Stipulation which provides, in pertinent

part:

Nothing in this Agreement nor in the recitation of the asserted facts and arguments
concerning the underlying basis for this Agreement, is intended to diminish, impair,
constitute an election of remedy, waive or affect in any fashion whatsoever any Claims,
any Causes of Action, any D&O Claims or any of the Examiner’s Rights (each such
term as defined in the Divine Plan), or any D&O Claims (as defined in the RoweCom
Plan) arising out of the Divine Settled Claims and/or the RoweCom Settled Claims.

° D&O Claims are defined in the Sabine, Inc., £/k/a RoweCom, Inc. Third
Amended Joint Plan of Liquidation as “. . . any and all claims against any director or
officer of the Debtor [RoweCom] or of Divine, or any of their affiliates or subsidiaries,
including without limitation all claims that are the subject of the Order appointing the
Examiner.” See p. 4 of such Plan.

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Stipulation at § 5(f). With respect to the Sullivan indemnity agreement, the Plaintiff argues
that any pre-petition indemnity obligation of Divine has no bearing on the Plaintiff's claims
against Sullivan and that any rights Sullivan may have under such agreement are limited to

filing a claim against the bankruptcy estate of Divine.

The Court finds that the Plaintiffs claims against Sullivan, which are claims against a
director and officer of RoweCom, fall squarely within the definition of D&O Claims set forth
in the Plan and thus are excluded from the release provided in the Stipulation by virtue of
Section 5(f) thereof. The existence of a pre-petition indemnity agreement between Sullivan
and Divine does not provide Sullivan the means to circumvent the clear intention of the

Stipulation to preserve claims against former officers and directors.

IV. Conclusion

For all of the above reasons, the Court shall enter an order denying Sullivan’s Motion

to Dismiss. A pre-trial order shall issue.

By the Court,

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Joan N. Feeney,
a United States Bankruptcy Judge

Dated: February 27, 2006

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