Waco Town Square Partners, L.P. and Waco town Square Partners II, L.P.

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IN THE UNITED STATES BANKRUPTCY COURT
FOR THE SOUTHERN DISTRICT OF TEXAS
HOUSTON DIVISION
IN RE: Case No. 11-38928
WACO TOWN SQUARE PARTNERS,
L.P.; dba AUSTIN AVENUE FLATS
and
WACO TOWN SQUARE PARTNERS II,
L.P.,
Chapter 11
WACO TOWN SQUARE PARTNERS II,
LP
CASE NO: 11-38929
CASE NO: 12-03144
Jointly Administered Order
Debtor(s).
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§ Judge Isgur
MEMORANDUM OPINION
Pursuant to the Order Confirming Waco Town Square Partners, LP (“WTSP”) and Waco
Town Square Partners II, LP’s (“WTSP II”) Third Amended Joint Chapter 11 Plan of
Reorganization (“Confirmation Order”), NSJS Limited Partnership (“NSJS”) was required to
amend its First Amended Complaint in Adversary Proceeding 11-06025 to eliminate all
derivative claims. NSJS brought several derivative claims in its First Amended Complaint, but
failed to file its Second Amended Complaint within the deadline set forth in the Confirmation
Order. NSJS did not have a meritorious defense for extending the deadline for filing the Second
Amended Complaint. Based on its failure to meet its obligation under the Confirmation Order,
NSJS’s claims must be dismissed.
Background
Defendant, David Wallace solicited the involvement of Defendant, Michael Wray in the
development of a two-phase revitalization project in Waco, Texas. Case No. 11-38928, ECF No.
117-3 at 3. Phase I was to be used to develop commercial units and residential flats. Mr. Wray
ENTERED
07/24/2013
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approached many local investors, including NSJS, and developed a rapport with a loan officer at
Defendant, Community Bank & Trust, Waco Texas (“Community Bank”). Case No. 11-38928,
ECF No. 117-3 at 4.
Mr. Wray created WTSP as the entity formed to receive and advance capital and bear the
financial risk for developing Phase I. Case No. 11-38928, ECF No. 117-3 at 4. Mr. Wray also
created Waco Town Square Management, LLC (“WTSM”) and named it the general partner in
WTSP. Case No. 11-38928, ECF No. 117-3 at 4. Mr. Wray then formed WTSP II and its
general partner, Waco Town Square Management II, LLC (“WTSM II”) to develop Phase II.
Case No. 11-38928, ECF No. 117-3 at 4.
NSJS was a limited partner in WTSP II. Case No. 11-38928, ECF No. 117-3 at 4. The
terms of the WTSP II Partnership Agreement provided NSJS with a right to redeem its units at
the par amount of its initial investment, plus a preferred return of ten percent per annum
(“Redemption Right”). Case No. 11-38928, ECF No. 117-3 at 4.
Eventually, additional financing was needed to develop Phase I, and Community Bank
required additional security or collateral to lend additional money. Case No. 11-38928, ECF No.
117-3 at 5. Mr. Wray pledged the Phase II property as collateral for the Phase I loan. Case No.
11-38928, ECF No. 117-3 at 5. Phase I construction concluded with a loan value that exceeded
the value of the existing collateral by approximately $5 million. Case No. 11-38928, ECF No.
117-3 at 5. On or about June 30, 2010, Defendants sold the only asset owned by Phase II to
Community Bank for $539,000. Case No. 11-38928, ECF No. 117-3 at 5.
On July 30, 2010, NSJS unsuccessfully attempted to exercise its Redemption Right. Case
No. 11-38928, ECF No. 117-3 at 4-5. The net proceeds of the June 30 sale, which would have
been more than sufficient to pay Phase II’s contractual obligation to NSJS, were instead used to
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pay Community Bank to help with development costs on Phase I. Case No. 11-38928, ECF No.
117-3 at 6.
Procedural History
NSJS initially filed a state court suit against Michael Wray, David Wallace, WTSM II,
WTSP II, and Community Bank for fraud, conversion, breach of contract, breach of fiduciary
duty, defalcation and violations of the Texas Theft Liability Act.1 (“State Court Litigation”).
Case No. 11-06025, ECF No. 1 at 9-19. Debtors removed the State Court Litigation to the
bankruptcy court subsequent to filing Chapter 11 bankruptcy.2 Case No. 11-06025, ECF No. 1 at
1-5.
On February 16, 2012, the bankruptcy court remanded the adversary proceeding to state
court based on the doctrine of mandatory abstention. Case No. 11-06025, ECF No. 13. On
February 23, 2012, Debtors filed a Motion for Reconsideration of Order to Remand. Case No.
11-06025, ECF No. 15.
On May 20, 2012, this Court entered the Confirmation Order. Case No. 11-38928, ECF
No. 89. In pertinent part, it stated that:
“To the extent that NSJS holds any claims, plead or unplead, belonging to it and
not to the Debtors or their respective estates, against any person or entity, other
than the Debtors or their estates, NSJS may pursue such claims and nothing in this
Order shall bar, enjoin, limit or impair NSJS from pursuing such claims. Further
within forty-five (45) days of the entry of this Order, NSJS shall amend its
complaint in Adversary Proceeding No. 11-06025, NSJS Limited Partnership and
Waco Townsquare Partners II, LP v. Waco Town Square Management, II, LLC,
Waco Town Square Partners II, LP and Community Bank & Trust pending in the
United States Bankruptcy Court for the Western District of Texas, Waco Division
(removed Case No. 2010-4220-5 formerly pending in the 414th Judicial District,
McLennan County, Texas) to remove any and all claims and causes of action
arising on or before the Confirmation Date that may be asserted by or on behalf of
1 Wallace Bajjali Development Partners, LP was added as a defendant in the First Amended Complaint.
2 The lawsuit was removed to the United States Bankruptcy Court for the Western District of Texas.
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the Debtors or the Bankruptcy Estates and/or on account of the Debtors’ Cases
(“Amended Complaint”). If an Amended Complaint is not filed within the time
period proscribed in this Order, all claims contained in the NSJS Lawsuit shall be
deemed claims and causes of action arising that may be asserted by or on behalf
of the Debtors or their Bankruptcy Estates and/or on account of the Debtors’
Cases and must be immediately dismissed with prejudice in accordance with
Article 13.9 of the Plan.”
Case No. 11-38928, ECF No. 89 at 11-12.
On June 4, 2012, the Debtors’ Motion for Reconsideration was denied. Case No. 11-
06025, ECF No. 26.
On November 7, 2012, Debtors’ counsel advised NSJS’s counsel that since the complaint
had not been amended, the State Court Litigation must be dismissed with prejudice, and that if
the suit was not dismissed, Debtors would seek contempt sanctions against NSJS. Case No. 11-
38928, ECF No. 106 at 6. On December 14, 2012, Debtors’ counsel received a copy of NSJS’s
Second Amended Complaint. Case No. 11-38928, ECF No. 117-3. Debtors were no longer
listed as a party in the State Court Litigation, but no party had been formally dismissed from the
litigation. Case No. 11-38928, ECF No. 117-3.
On January 1, 2013, Debtors filed their Motion to Hold NSJS in Contempt for Violation
of Confirmation Order and For Sanctions. Case No. 11-38928, ECF No. 106. On February 21,
2013, NSJS filed a response arguing that Debtors were attempting to use the Motion for
Sanctions to get a second bite at the apple regarding whether NSJS’s claims in the State Court
Litigation were derivative causes of action belonging to the Debtors.3 Case No. 11-38928, ECF
No. 110 at 4.
3 This Court, in its Memorandum Opinion issued on April 23, 2013, held that res judicata did not bar the Court from
deciding whether the claims in NSJS’s Second Amended Complaint were derivative causes of action. ECF No. 140.
On May 29, 2013, an evidentiary hearing was held on whether the claims in the second amended complaint were
derivative claims.
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Analysis
The Order was Final
The provisions of a confirmed plan bind the debtor, any entity issuing securities
under the plan, any entity acquiring property under the plan, and any creditor,
equity security holder, or general partner in the debtor, whether or not the claim or
interest of such creditor, equity security holder, or general partner is impaired
under the plan and whether or not such creditor, equity security holder, or general
partner has accepted the plan.
11 U.S.C.A. § 1141. A bankruptcy court's confirmation order is binding and final, and the court
gives it the weight of a final judgment. Eubanks v. F.D.I.C., 977 F.2d 166, 171 (5th Cir. 1992).
A deadline listed in a bankruptcy court’s confirmation order is therefore also binding and final.
Consequently, the deadline to amend the complaint within forty-five days was final and binding
on NSJS.
The Order was unambiguous
The Bankruptcy Court’s Confirmation Order provides as follows:
“Within forty-five (45) days of the entry of this Order, NSJS shall
amend its complaint in Adversary Proceeding No. 11-06025…to
remove any and all claims and causes of action arising on or before
the Confirmation Date that may be asserted by or on behalf of the
Debtors or the Bankruptcy Estates and/or on account of the
Debtors’ Cases (“Amended Complaint”). If an Amended
Complaint is not filed within the time period proscribed in this
Order, all claims contained in the NSJS Lawsuit shall be deemed
claims and causes of action arising that may be asserted by or on
behalf of the Debtors or the Bankruptcy Estates and/or on account
of the Debtor’ Cases and must be immediately dismissed with
prejudice in accordance with Article 13.9 of the Plan.”
ECF No. 89 at 12.
If even one claim was derivative, and NSJS did not amend the complaint within forty-
five days, it would lose all possible claims.
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The First Amended Complaint had derivative claims, and thus needed to be amended
NSJS asserts that the Frist Amended Complaint contained no derivative causes of action,
and therefore it did not need to be amended. NSJS relies on the June 4 Order issued in Case No.
11-06025, for its belief that none of the claims were derivative. The Order provides in pertinent
part that, “despite WTSP’s assertions, this proceeding does not appear to meet the definition of a
derivative action, either in form or in substance.” Case No. 11-06025, ECF No. 26.
This Court found that res judicata did not prevent it from determining whether the causes
of action in the First Amended Complaint were derivative, despite the language in the June 4
Order. See ECF No. 140. At the May 29, 2013 hearing however, the Court noted that although
ultimately wrong, NSJS’ reading of the June 4 Order was not frivolous.4 Regardless, the Court
finds that the First Amended Complaint contained several derivative claims. This means that the
Complaint was required to have been amended within 45 days of entry of the Confirmation
Order. 5
In determining whether each of NSJS’ causes of actions is derivative or direct, the Court
must look to state law to determine whether WTSP II (the partnership itself) could have raised
these causes of action. In re Dexterity Surgical, Inc., 365 B.R. 690, 695 (Bankr. S.D. Tex. 2007)
(citing In re Educators Group Health Trust, 25 F.3d 1281, 1284 (5th Cir. 1994)). If WTSP II
could have raised the claims, they are derivative to claims of the partnership, and should have
been amended out of NSJS’ First Amended Complaint. Id. (citing In re MortgageAmerica
Corp., 714 F.2d 1266, 1276 (5th Cir. 1983)).
4 Because the Court found that NSJS’ failure to amend was not frivolous, WTSP and WTSP II’s Motion for
Sanctions is denied.
5 Even if NSJS did not successfully remove every derivative claim, a good faith attempt to remove all derivative
claims from the complaint would have been sufficient to comply with the Confirmation Order. See ECF No. 89 at
12.
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WTSP II is a Texas Limited Partnership. See NSJS Exhibit 13. The general rule under
Texas corporation law is that a shareholder does not have an independent cause of action for
injury to the corporation, even if the shareholder is harmed by the wrong. Wingate v. Hajdik,
795 S.W.2d 717, 719 (Tex. 1990). A corporate shareholder may have a direct cause of action
where the wrongdoer violates a duty owed directly to the shareholder. Faour, et al. v. Faour,
789 S.W.2d 620, 622 (Tex. App.—Texarkana 1990). While there are no directly applicable
Texas state law cases regarding partnerships, many courts apply this same test to determine
whether suits by partners are derivative or direct. See, e.g. Draper Fisher Jurvetson Mgmt. Co V,
LLC, et al. v. I-Enterprise Co LLC, 2004 WL 2944055, at *7 (N.D. Cal. Dec. 15, 2004) (in
determining whether a cause of action is derivative or direct, courts must determine whether
claimed injury is incidental to, or independent of an injury to the partnership); see also Fulco, et
al. v. Continental Cablevision, Inc., et al., 1990 WL 120689, at *4 (D. Mass. June 19, 1990)
(some provisions of limited partnership agreement can be enforced by individual limited partner
when duty owed primarily to the partner individually).
NSJS’ first cause of action in the First Amended Complaint was for breach of contract.
ECF No. 1 at 65. NSJS asserted that Mr. Wray and Mr. Wallace’s conduct breached the WTSP
II Partnership Agreement. NSJS’ claim for breach of the partnership agreement is both
derivative and direct. NSJS claims that the sale of the Phase II land breached the partnership
agreement. This is a derivative cause of action. The sale of all of the partnerships assets harmed
the partnership itself because the only asset of WTSP II (the Phase II land) was sold for the
benefit of WTSP. NSJS further alleged that Defendants’ breached the partnership agreement by
failing to honor NSJS’ Redemption Right. This is a direct claim because no other partner had
this Redemption Right.
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NSJS’ second cause of action was for conversion. NSJS alleged that Defendants
unlawfully assumed dominion and control over NSJS’ property rights in its partnership units by
failing to redeem the units to NSJS. NSJS’ Redemption Right was unique in that no other
partner in WTSP II possessed a right to redeem its partnership units. Because this cause of
action is held only by NSJS, it is a direct claim.
NSJS’ third cause of action was for fraud. NSJS alleged that it relied on Defendants’
representations and fraudulent concealment of facts, resulting in damage to NSJS. It is not clear
from the First Amended Complaint when the alleged fraudulent conduct occurred. If, for
example, NSJS was alleging that it was fraudulently induced to invest in WTSP II, this would be
a direct cause of action. See Mallia, et al. v. Painewebber, Inc., et al., 889 F. Supp. 277, 282-283
(S.D. Tex. 1995). It is also conceivable however that the specific facts would reveal a derivative
claim. The Court need not reach a determination on this question because the Court finds that at
least one of NSJS’ other causes of action in the First Amended Complaint was derivative.
NSJS’ fourth cause of action alleged a breach of fiduciary duty. NSJS asserted that
WTSP II, WTSM II, Mr. Wray, Mr. Wallace and Mr. Bajjali owed NSJS a fiduciary duty. NSJS
asserted that the Defendants breached their fiduciary duty to NSJS by pledging Phase II property
as security for Phase I loans, refusing to redeem NSJS’ partnership units, reselling the Phase II
property to Defendant Community Bank, and spending the sales proceeds on unidentified
partnership expenses. NSJS further alleged that Community Bank was a joint tortfeasor in these
breaches, because it knowingly participated, or directly controlled the breaches of fiduciary duty.
At least part of this claim is derivative. The pledging of the Phase II property and the use of the
sales proceeds on unidentified partnership expenses is a breach Defendants’ fiduciary duties
owed to WTSP II. Any harm to NSJS is dependent on the harm to the partnership.
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NSJS’ fifth cause of action alleged that Mr. Wray, Mr. Wallace, Mr. Bajjali, WTSP II
and WTSM II committed defalcation by inadequately accounting for monies loaned by NSJS to
WTSP II in breach of their fiduciary duties. Alternatively, NSJS argued that the Defendants
committed defalcation by misapplying NSJS’ investment funds in contravention of the
partnership agreement. The duty to account for monies loaned to the partnership is a duty owed
to all partners, as inadequate accounting harms the partnership itself. The same is true for
misapplication of investment funds. These alternative claims for defalcation are derivative.
NSJS’ sixth and final cause of action was for violation of the Texas Theft Liability Act.
NSJS claimed a possessory right to over $239,287.67 of the $299,000 net proceeds from the sale
of WTSP II’s land to Community Bank. NSJS alleged that WTSP II, WTSM II and Mr. Wray,
Mr. Wallace and Mr. Bajjali unlawfully appropriated, secured or stole NSJS’ initial redemption
amount with the intent to deprive NSJS of such money. NSJS brought this claim for the
Redemption Right it alleges it is owed. As discussed supra, no other partner had a right of
redemption. NSJS’ claim under the Texas Theft Liability Act is a direct claim.
Because the First Amended Complaint contained at least one derivative claim, NSJS was
required to file a second amended complaint within forty-five days.
NSJS failed to amend in time and had no meritorious defenses
NSJS next argues that even if the Court finds some of the claims in the First Amended
Complaint to be derivative causes of action, it would have been impossible for it to comply with
the Confirmation Order. NSJS argues that paragraphs 22 and 23 of the Confirmation Order only
envision a scenario in which the Western District retained jurisdiction over the adversary
proceeding, either by failing to timely rule on the reconsideration motion, or by deciding to
retain the case.
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The Court does not accept this argument. The adversary proceeding had already been
remanded at the time the Confirmation Order was issued. Although there was a pending Motion
for Reconsideration of the remand order, NSJS should have known that the Confirmation Order
referred to the now remanded Adversary Proceeding. NSJS did not object to the language of the
Confirmation Order, nor did it ask that the Order be clarified when the Order Denying Motion
for Reconsideration was denied on June 4, 2012—well within the 45 day period that NSJS had to
amend the complaint in the adversary proceeding. In light of these facts, NSJS cannot meet its
burden on the argument that it failed to amend the complaint in good faith.
NSJS next argues that if it did in fact violate the Confirmation Order, it was due to excusable
neglect. Federal Rule of Bankruptcy Procedure 9006 provides as follows:
“When an act is required or allowed to be done at or within a specified period by
these rules or by a notice given thereunder or by order of court, the court for cause
shown may at any time in its discretion […] on motion made after the expiration
of the specified period permit the act to be done where the failure to act was the
result of excusable neglect.”
Excusable neglect with regards to late filings may be caused by inadvertence, mistake, or
carelessness, as well as by intervening circumstances beyond the party's control. Pioneer Inv.
Servs. Co. v. Brunswick Associates Ltd. P'ship, 507 U.S. 380, 388, 113 S. Ct. 1489, 1495, 123 L.
Ed. 2d 74 (1993).
In determining whether the negligence was excusable, the determination is an
equitable one, taking account of all relevant circumstances surrounding the party's
omission, including (i) the danger of prejudice to the debtor, (ii) the length of the
delay and its potential impact on judicial proceedings, (iii) the reason for the
delay, including whether it was within the reasonable control of the movant, and
(iv) whether the movant acted in good faith.
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Id. at 395. Moreover, the requirement of excusable neglect should be construed so as to “deter
creditors or other parties from freely ignoring court-ordered deadlines in the hopes of winning a
permissive reprieve under Rule 9006(b)(1).” Id. at 403-04.
NSJS presented no evidence that it had committed excusable neglect. NSJS called one
witness, Mr. James Bonnett, a partner in NSJS. Mr. Bonnett provided no testimony supporting
NSJS’ claim of excusable neglect. NSJS proffered its exhibits one through seventeen. Exhibits
one through seventeen were subsequently admitted—none of which support a claim for
excusable neglect. NSJS’ counsel, Mr. Patrick Atkins, merely argued that NSJS committed
excusable neglect, but proffered no evidence to support this argument. Without evidence of
excusable neglect, NSJS does not have a meritorious defense for its untimely filing of the Second
Amended Complaint.
Consequently, pursuant to the Confirmation Order issued May 20, 2012, NSJS’ state
court suit, (Cause No. 2010-4220-5, in the 414th Judicial District Court of McLennan County,
Texas), must be dismissed in its entirety.
Conclusion
The Court will enter an order consistent with this Memorandum Opinion.
SIGNED July 24, 2013.
___________________________________
Marvin Isgur
UNITED STATES BANKRUPTCY JUDGE
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