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Capital Finance, LLC v. Rosenberg

United States District Court, D. Maryland

January 23, 2019

OSCAR ROSENBERG, et al., Defendant.



         On July 1, 2015 Plaintiff Capital Finance, LLC (“Capital Finance”) and a group of eight skilled nursing facilities and long term acute care hospitals (collectively, the “Borrower”), controlled by Defendants Josef Neuman (“Neuman”) and Oscar Rosenberg (“Rosenberg”) (collectively, “Defendants”), entered into a Credit and Security Agreement (the “Credit Agreement”) and a Revolving Loan Note. Pursuant to these contracts, Capital Finance agreed to furnish capital financing to these long-term care facilities, thereby insuring that they could maintain a source of working capital while experiencing significant delays between rendering healthcare services and receiving payments for these services. Neuman and Rosenberg personally guaranteed this financing.

         As a condition precedent for obtaining additional loan advances under these contracts, Neuman, as the Manager of Borrower, submitted one-page Borrowing Base Certificates which warranted that the facilities were in accordance with the terms of the loan documents and had paid all state and federal payroll taxes. Additionally, the Credit Agreement required Borrower to deposit the proceeds from its collateral into bank accounts at Banco Popular protected by a deposit account control agreement (“DACA”). Included among these proceeds were Medicare funds and intergovernmental transfer payments (“IGT” payments).

         To secure loans from Capital Financing, Rosenberg and Neuman executed so-called “bad boy” guaranties, which required them to satisfy all outstanding obligations under the Credit Agreement upon Borrower's commission of “fraud or illegal acts.” These guaranties were triggered when Borrower failed to pay payroll taxes, a violation of federal law. Neuman doubled-down on this illegal activity by submitting, as manager of Borrower, Borrowing Base Certificates which falsely represented that Borrower had paid these taxes when in fact the payroll taxes had not been paid.

         Between December 2016 and January 2017, Neuman further violated the terms of the loan agreement by diverting Medicare and IGT payments from DACA-controlled accounts to a Chase account over which Capital Finance had no control. Later, on June 20, 2017, Neuman made another attempt to divert funds by instructing a hospital to direct $160, 179.80 in IGT payments to a non-DACA controlled account at Santander Bank. A Show Cause Order entered by the United States District Court for the Northern District of Texas with respect to the diversion attempt was resolved by Defendants paying money to Plaintiff.

         After a two-day bench trial on January 9, 2019 and January 10, 2019, and for the reasons set forth below, this Court concludes as follows:

1. By submitting false Borrowing Base Certificates to obtain loan advances, Neuman committed fraud and caused Capital Finance to incur 575, 705.65 in actual damages.[1]Plaintiff is further awarded pre-judgment interest at the rate of six percent (6%) per annum and post-judgment interest at the rate of ten percent (10%) per annum. Punitive damages are warranted in the amount of $200, 000.00.
2. Neuman diverted IGT payments and Medicare payments from the DACA-controlled accounts at Banco Popular, causing Borrower actual damages of $414, 427.22.[2] Plaintiff is awarded pre-judgment interest at the rate of six percent (6%) per annum and post-judgment interest at the rate of ten percent (10%) per annum.
3. Rosenberg and Neuman are obligated to pay Capital Finance the outstanding obligations under the Guaranty agreements. As of January 8, 2019 that amount is $1, 304, 731.37, representing the sum of $575, 705.65 in unpaid principle; $255, 144.55 in default interest; $235, 440.82 in legal fees (excluding fees associated with this litigation); $173, 359.88 for field exam work; and $65, 080.47 for lenders' monthly fees. Interest, at the default rate, continues to accrue on the unpaid balance at a per diem rate of $200.22. Plaintiff is further awarded post-judgment interest at the rate of ten percent (10%) per annum.
4. Judgment shall be ENTERED in favor of Capital Finance on Counts III and IV (Breach of Contract); Count V (Fraud); and Count VI (Conversion).
5. Rosenberg and Neuman SHALL PAY to Capital Finance a total of $1, 304, 731.37.
6. Neuman SHALL PAY to Capital Finance $200, 000.00 in punitive damages, over and above the total amount of $1, 304, 731.37.

         Pursuant to Federal Rule of Civil Procedure 52(a), the following memorandum constitutes this Court's findings of fact and conclusions of law.


         On July 26, 2017 Capital Finance initiated this lawsuit by filing a Complaint for Confession of Judgment against Rosenberg and Neuman pursuant to Local Rule 108 (D. Md. 2018). (ECF No. 1.) On July 28, 2017, this matter was referred to Magistrate Judge A. David Copperthite for his review pursuant to 28 U.S.C. § 636 and Local Rules 301 and 302. (ECF No. 3.) On September 6, 2017, Judge Copperthite entered an Order directing Confession of Judgment in favor of Plaintiff against Defendants. (ECF No. 8.) In an accompanying Memorandum Opinion, the Magistrate Judge found that Borrower had breached its Credit Agreement with Capital Finance by “divert[ing] significant funds from being deposited into the AR Deposit Account and instead allocat[ing] said funds to an account not subject to its deposit account agreement with Capital [Finance].” (ECF No. 7, at 5.) As a result of this breach, Capital Finance was entitled to a confession of judgment against Rosenberg and Neuman pursuant to the guaranty agreements it had reached with Defendants. (Id. at 3-4, 5-6.)

         On October 4, 2017, Rosenberg and Neuman filed a Motion to Open, Modify, or Vacate Judgment by Confession, arguing that liability had not attached to Rosenberg and Neuman because three necessary conditions enumerated in Section 1(d) of the guaranties had not occurred. (ECF No. 11.) Rosenberg and Neuman's primary argument had been, and remains, that they are not liable under the guaranties unless Borrower committed no less than three acts of egregious misconduct: collude to undergo an involuntary bankruptcy proceeding, improperly file a voluntary bankruptcy petition, and commit fraud. (Id. at 6.)

         On November 1, 2017, Magistrate Judge Copperthite recommended that this Court deny Rosenberg and Neuman's Motions. (ECF No. 17.) He concluded that Defendants' interpretation of the contract, which they still maintain today, “makes no sense.” (Id. at 6.) This Court adopted the Magistrate Judge's Report and Recommendation. (ECF No. 19.) On December 4, 2017, Defendants filed a Motion to Alter or Amendment Judgment, or, in the Alternative, for Relief from Judgment and Request for Stay of Execution. (ECF No. 20.) A notice of Appeal to the United States Fourth Circuit Court of Appeals followed. (ECF No. 23.)

         On April 3, 2018, this Court conducted a telephone conference with all parties. Following the telephone conference, this Court issued a Letter Order GRANTING the Defendant's Motion to Alter or Amend Judgment (ECF No. 20), VACATING the Confession of Judgment, and permitting Defendants to file a Response to Plaintiff's Complaint. (ECF No. 27.) On the following day, Defendants withdrew their Notice of Appeal. (ECF Nos. 23, 29.) In September 2018, Defendants filed an Amended Complaint (ECF No. 42), adding breach of contract claims against Rosenberg and Neuman (Counts III and IV), a fraud claim against Neuman (Count V) and a claim of conversion against Neuman (Count VI).

         This Court conducted a two-day bench trial on January 9, 2019 and January 10, 2019. After the conclusion of Plaintiff's case, Defendants moved for judgment on partial findings pursuant to Rule 52(c), which this Court GRANTED IN PART and DENIED IN PART. Specifically, this Court granted Defendants' motion to dismiss the Confession of Judgment claims against Rosenberg and Neuman (Counts I and II) because this Court had previously vacated the Confession of Judgment against Defendants and permitted them to respond to the Complaint. (ECF Nos. 8, 20.) The Motion was denied with respect to the remaining claims.

         The following claims proceeded to trial:

(1) Capital Finance's breach of contract claim against Rosenberg (Count III);
(2) Capital Finance's breach of contract claim against Neuman (Count IV);
(3) Capital Finance's fraud claim against Neuman (Count V);
(4) Capital Finance's conversion claim against Neuman (Count VI).


         I. The Borrower's Business.

         In early August 2015, Rosenberg and Neuman acquired eight groups of skilled nursing facilities consisting of Plano Specialty Hospital Operator LLC, Plano Healthcare Residence Operator LLC, Mesa Hills Specialty Hospital Operator LLC, Mesa Hills Healthcare Residence Operator LLC, Plum Creek Specialty Hospital Operator LLC, Plum Creek Healthcare Residence Operator LLC, Midwest City Healthcare Residence Operator LLC, and Specialty Hospital of Midwest City Operator LLC (collectively, the “Borrower”). (Stip. 1.)[3]

         Rosenberg and Neuman had a 50/50 ownership interest in the Borrower. (Pl.'s Ex. 1, at CAPFI 127.) While Rosenberg and other investors advanced funds to acquire these properties, Neuman did not contribute financially. (ECF No. 100, at 43:19-24.)[4] Instead, Neuman assumed the day-to-day operations of the company, drawing on his years of experience in the industry. (ECF No. 102, at 64:2-10; 97:21-23.) He acted as the Borrower's main point of contact with Capital Finance; Jeffrey Stein, its Executive Managing Director, spoke with him regularly. (ECF No. 101, at 50:3-4; 67:7-11.)

         Government programs like Medicare and Medicaid constituted significant payor sources for the services that Borrower rendered. (ECF No. 100, at 7:1-8.) Payments from the Medicare program flowed into the bank account designated by the facilities. (ECF No. 99, at 8:19-25.) Pursuant to a government program, the Borrowers received intergovernmental transfer payments (“IGT” payments) through its partnership with Childress County Hospital. (ECF No. 101, 54:2-6.) Mr. Young testified that the appropriate government entity would remit these payments to a bank account associated with Childress County Hospital, which would in turn disburse these funds to the Borrowers. (ECF No. 101, at 58:11-18.)

         II. Capital Finance's Services in the Healthcare Industry.

         Capital Finance provides working capital financing to healthcare service providers through revolving lines of credit. (ECF No. 99, at 50:14-15.) Because skilled nursing facilities experience significant delays between billing for services and receiving Medicare and Medicaid payments, revolving lines of credit ensure that these facilities have the working capital necessary to support their operations. (Id. at 50:15-51:1.) To ensure the that its loans are repaid, Capital Finance assumes the facilities' accounts receivable and related assets as collateral. (Id. at 51:5-9.) In practice, Capital Finance designates bank accounts to which the proceeds of its collateral must be paid, so that it may perfect its interests in these funds. (Id. at 51:9-14). When these funds enter the protected accounts, they are used to pay down the borrower's loan obligations. (Id. at 51:15-18.)

         III. The Credit Agreement and its Terms.

         On July 1, 2015, Capital Finance entered into a Credit and Security Agreement (the “Credit Agreement”) with Borrower (Stip. 1; Pl.'s Ex. 1.) The Credit Agreement provided for a revolving credit financing facility to Borrower for operation of Borrower's facilities (Pl.'s Ex. 1), which is evidenced by a Revolving Loan Note (as amended) in a maximum amount of $9, 000, 000.00 (Stip. 2). As the manager of each Borrower, Neuman executed the Credit Agreement and the Revolving Loan Note on their behalf. (Pl.'s Exs. 1, 2.) Capital Finance's Executive Managing Director, Jeffrey Stein, negotiated the terms of this credit agreement with Mr. Neuman. (ECF No. 99, at 55:8-15.) Both parties were represented by counsel. (Id. at 55:16-19.)

         Pursuant to Section 9.1 of the Credit Agreement, Borrower granted Plaintiff a lien and security interest in, inter alia, all of Borrower's accounts and money (the “Collateral”). (Pl.'s Ex. 1; ECF No. 100, at 44:6-25.) Borrower agreed, in Section 2.9(a) and (f) of the Credit Agreement, to ensure that all Collateral would be paid directly from its account debtors into designated accounts controlled by a deposit account control agreement (“DACA”). Borrower was prohibited from using any other bank account for collection of its accounts. (ECF No. 99, at 59:5-17, 61:24-62:7; Pl.'s Ex. 1, at CAPFI-31 § 2.9(a).) Mr. Neuman testified that he understood this requirement. (ECF No. 100, at 45:18-21.)

         The Credit Agreement contained many additional provisions designed to ensure the repayment of Capital Finance's loans and protect Plaintiff in the event of default. Mr. Neuman, who had years of experience in this industry, indicated that he reviewed this document “very carefully.” (ECF No. 100, at 44:3-5.) At trial, he expressed familiarity with its terms. (Id. at 44:6-22.)

         Capital Finance of course charged interest for its loans. Under the Credit Agreement, it assigned a base interest rate tied to the LIBOR rate.[5] (ECF No. 99, at 58:9-24.) In the event of default, the contract penalizes the Borrower with a heightened interest rate of an extra five percent (5%) per annum above the base rate. (Id. at 64:1-6; Pl.'s Ex. 1, CAPFI 70 § 10.3.)

         Article 4 of the Credit Agreement contains numerous affirmative covenants governing Borrower's use of funds. More than one provision explicitly requires Borrow to pay its taxes. Section 4.2, titled “Payment and Performance of Obligations” requires Borrower to “pay and discharge, and cause each Subsidiary to pay and discharge, at or before maturity, all of their respective obligations and liabilities, including tax liabilities.” (Pl.'s Ex. 1, at CAPFI 43.) Section 4.4(b) similarly governs the payment of taxes, providing that “Borrower will, and will cause each subsidiary to, pay or cause to be paid all Taxes at least five (5) days prior to the date upon which any fine, penalty, interest or cost for nonpayment is imposed.” (Pl.'s Ex. 1, at CAPFI 43.) Mr. Stein testified that it was “critical” that Borrowers remain current on their obligations, including payroll taxes, because the IRS could “prime” Capital Finance's liens. (ECF No. 99, at 52:16-21, 60:23-61:5, 73:25-74:7.) In other words, tax liens by the IRS can assume priority over the liens of secured creditors, potentially limiting creditors' ability to collect on their collateral in the event of default.

         Article 10 governs events of default and is designed to ensure that Borrower used its capital wisely and protected Capital Finance's ability to enforce its contract. Section 10.5, “Application of Proceeds” governs the borrower's ability to direct payments following an event of default. (Pl.'s Ex. 1, at CAPFI 70.) Capital Finance understood this provision to require Borrowers to continue proper billing and collection processes in accordance with the credit agreement. (ECF No. 99, at 64:13-17.)

         Article 11, Section 11.1 holds Borrower liable for all costs and expenses incurred by Plaintiff in connection with any litigation, dispute, suit or proceeding relating to the Credit Agreement and the guaranties and in connection with any workout, collection, bankruptcy, insolvency and other enforcement proceedings under the Credit Agreement and/or the guaranties. (Pl.'s Ex. 1, at CAPFI-73 § 11.1(c)-(d); ECF No. 99, at 65:9-15.)

         Finally, Section 12.2, “No Waivers” provides that:

No failure or delay by Agent or any Lender in exercising any right, power, or privilege under any Financing Document shall operate as a waiver thereof nor shall any single or partial exercise thereof preclude any other or further exercise thereof or the exercise of any other right, power or privilege.

(Pl.'s Ex. 1, at CAPFI 75.)

         Mr. Stein testified that this provision acted as another means of ensuring that Capital Finance had not waived any right by waiting to enforce its remedies. (ECF No. 99, at 65:16-23.)

         Pursuant to the Credit Agreement, funds were advanced to Borrower based on its representations that it was in compliance with the Credit Agreement and had paid all applicable taxes. With these conditions satisfied, Capital Finance would advance funds representing a percentage of the Borrower's eligible collateral, which included the Borrowers' eligible accounts receivable. (ECF No. 99, at 73:2-11.) This process is memorialized in the Credit Agreement, which explicitly requires Borrower to submit Borrowing Base Certificates as a condition precedent to receiving loans. (ECF No. 99, at 57:8-58:1; Pl.'s Ex. 1, at 7.) Specifically, the contract provides that a “Responsible Officer of Borrower” must execute a certificate “appropriately completed and substantially in the form of Exhibit A” to the agreement. (Pl.'s Ex. 1, at CAPFI 6; ECF No. 99, at 57:8-15.) Page three of this form contains a disclaimer of personal liability. (Pl.'s Ex. 1, Ex. A, at CAPFI 109.)

         Although the parties had the option to use an exact duplication of Exhibit A as the Borrowing Base Certificate, they opted to use a one-page form instead. The disclaimer language does not appear in the form that Borrower and Capital Finance exchanged throughout the life of the loan. (compare Pl.'s Ex. 1, Ex. A, at CAPFI 109 with Pl.'s Exs. 15, 16.) Consistent with the parties' choice to use an alternative form, Mr. Stein testified that he would not ...

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