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RHYTHM & HUES, INC. v. TERMINAL MARKETING COMPANY.

May 4, 2004.

RHYTHM & HUES, INC., Plaintiff, -v.- THE TERMINAL MARKETING COMPANY, INC., Defendant; WELLS FARGO BANK MINNESOTA, NATIONAL ASSOCIATION, Intervenor Defendant and Counterclaim Plaintiff, -v.- RHYTHM & HUES, INC., Counterclaim Defendant


The opinion of the court was delivered by: GABRIEL GORENSTEIN, Magistrate Judge

REPORT AND RECOMMENDATION

In this diversity action, plaintiff and counterclaim defendant Rhythm & Hues, Inc. ("R&H") alleged that defendant The Terminal Marketing Company, Inc. ("Terminal Marketing") violated its obligations to pay R&H's suppliers under an equipment financing agreement secured by various leases. Terminal Marketing did not answer the complaint and R&H has requested its default. Wells Fargo Bank Minnesota, National Association ("Wells Fargo"), to whom the leases were allegedly assigned, intervened. Wells Fargo has counterclaimed against R&H, alleging that R&H improperly refused to make required lease payments to Wells Fargo, as assignee. Both R&H and Wells Fargo have now moved for summary judgment on the issue of the validity of the lease assignments to Wells Fargo. In addition, Wells Fargo has moved for summary judgment with respect to the issue of the enforceability of a waiver-of-defenses clause contained in the leases and R&H has moved for summary judgment on certain of Wells Fargo's counterclaims. For the reasons set forth below, R&H's motions should be denied and Wells Fargo's motion should be granted.

I. INTRODUCTION

  A. Factual History

  The following facts are undisputed, except as otherwise noted:
1. Agreements Between R&H and Terminal Marketing
  R&H is a film production studio that specializes in producing visual effects for motion pictures, television commercials, theme park attractions, music videos, and computer games. Declaration of Richard Castaldo and Exhibits in Support of Rhythm & Hues' Opposition to Wells Fargo's Motion for Partial Summary Judgment, dated November 19, 2001 ("Castaldo Decl.") (reproduced as Ex. S to Declaration of Judith Beall in Opposition to Wells Fargo's Motion for Partial Summary Judgment and in Support of Rhythm & Hues' Cross-Motion for Summary Judgment, filed December 18, 2003 (Docket #69) ("Beall Decl.")), ¶ 3. As part of its business, R&H uses various pieces of highly advanced technical equipment. Id. ¶ 17. From time to time, R&H has financed the purchase of such equipment through Terminal Marketing. Id. Under this arrangement — commonly called a "sale and leaseback" — Terminal Marketing would order the equipment selected by R&H from various suppliers and then lease it back to R&H for an agreed-upon price. Id. ¶ 18. Terminal Marketing would pay the suppliers and R&H would pay Terminal Marketing. Id.

  a. Line of Credit Agreement and Lease No. 3855. In April 2000, R&H and Terminal Marketing entered into an agreement under which Terminal Marketing agreed to extend R&H a line of credit for working capital ("Line of Credit Agreement"). Rhythm & Hues' Local Rule 56.1 Statement of Undisputed Material Facts, filed December 18, 2003 (Docket #68) ("R&H 56.1 I"), ¶ 3; Castaldo Decl. ¶¶ 4-5.*fn1 Under this agreement, R&H was entitled to exercise up to three "take-downs" on the line of credit for a total of $1.5 million. R&H 56.11 ¶ 4; Castaldo Decl. ¶ 4, 11; Hughes Decl. ¶ 10. Payments were due 30 months after each take-down. R&H 56.1 I ¶ 5; Castaldo Decl. ¶ 11; Hughes Decl. ¶ 10. Equipment previously purchased and owned free and clear by R&H was used as collateral for the Line of Credit Agreement. R&H 56.1 I ¶ 14; Castaldo Decl. ¶ 5; Hughes Decl. 110.

  As part of the transaction, R&H executed a number of documents in April and May 2000, including Lease No. 3855 — a standard form agreement for an equipment lease. R&H 56.1 I ¶¶ 9-13, 18-19, 23; see Lease No. 3855, dated May 9, 2000 ("Lease No. 3855") (reproduced as Ex. A1 to Declaration of John C. Weidner, filed January 13, 2004 (Docket #70) ("Weidner Decl.")). Lease No. 3855 calls for R&H to pay 30 monthly rental payments of $57,066.47 to Terminal Marketing. Lease No. 3855 at 1. It states — in what is commonly called a "hell or high water" provision — that "[R&H's] obligation to pay [Terminal Marketing] all amounts due hereunder is absolute and unconditional" and that "[R&H] shall not be entitled to any abatement, reduction, set-off, counterclaim, defense or deduction with respect" to any of this rent. Id. ¶ 5. Lease No. 3855 also states that it "may be assigned by [Terminal Marketing] without notice to [R&H]" and it contains a waiver-of-defenses provision providing that "[t]he assignee's rights . . . shall be free from all defenses, setoffs or counterclaims which [R&H] may be entitled to assert." Id. ¶ 14.

  No commencement date is listed on the lease. See id. at 1. R&H claims that the purpose of Lease No. 3855 was to secure its first take-down on the Line of Credit Agreement and that the lease was not effective until it actually made a take-down. R&H 56.1 I ¶¶ 6, 15-17; Castaldo Decl. ¶ 13; Hughes Decl. ¶¶ 11-12. R&H further claims that it never took any take-down or leased any equipment through Terminal Marketing that would have activated its obligations under Lease No. 3855. R&H 56.1 I ¶¶ 24-25; Castaldo Decl. ¶ 14; Hughes Decl. ¶ 13. R&H states that, on May 3, 2001, it cancelled the Line of Credit Agreement with Terminal Marketing. Castaldo Decl. ¶ 16.

  b. The Equipment Financing Agreement and Lease No. 3989. In addition to the Line of Credit Agreement, R&H and Terminal Marketing entered into an equipment financing agreement. Id. ¶¶ 17-19. Under this "sale and leaseback" arrangement, Terminal Marketing agreed to order equipment from various manufacturers, pay for the equipment, and then lease it to R&H for agreed-upon monthly payments. Id. ¶ 18.

  On June 23, 2000, R&H entered into an agreement with Terminal Marketing to obtain equipment worth $774,375.00. Id. ¶¶ 19, 21-22. Coterminously, R&H executed a number of other documents, including Lease No. 3989 — a standard form agreement for an equipment lease. Id. ¶ 19; see Lease No. 3989, dated June 23, 2000 ("Lease No. 3989") (reproduced as Ex. A2 to Weidner Decl.). Lease No. 3989 calls for 24 monthly payments of $35,078.00 and contains identical wording to Lease No. 3855, including the "hell or high water" clause containing the "absolute and unconditional" language and the waiver-of-defenses provision providing for assignment "free from all defenses, setoffs or counterclaims." Lease No. 3989 at 1 & ¶¶ 5, 14.

  At the time that Lease No. 3989 was entered into, Terminal Marketing allegedly told R&H that it was in sound financial condition and that it would meet its obligations to all equipment suppliers. See Complaint, filed May 31, 2001 (Docket #1) ("Complaint"), ¶ 10. Notwithstanding Terminal Marketing's representation, the company was apparently in a dire financial condition. See id. ¶ 12. Because of this, many of R&H's suppliers have not been paid and have refused to provide any additional equipment to R&H. See Castaldo Decl. ¶¶ 23, 26, 29.

  2. Securitization Agreement

  Wells Fargo is the indenture trustee for the noteholders of a series of contract-backed and lease-backed notes that were issued by a subsidiary of Terminal Marketing, Terminal Finance Corporation II ("Terminal Finance"). Weidner Decl. ¶ 4; Declaration of John Battiloro, dated December 19, 2001 ("Battiloro Decl.") (reproduced as Ex. U to Beall Decl.), ¶ 3. According to Wells Fargo, it engaged in a transaction with Terminal Marketing and Terminal Finance commonly known as a "securitization." Weidner Decl. ¶¶ 5-6. The securitization arrangement called for Terminal Marketing to sell to Terminal Finance the right to payments due from various equipment leases. Id. ¶ 5. Terminal Finance obtained the money necessary to purchase these rights by obtaining loans from the noteholders. Id. ¶¶ 5, 9. To secure re-payment from Terminal Finance on these loans, Wells Fargo allegedly was assigned — as indenture trustee for the noteholders — the right to payments under the leases. Id. ¶¶ 6, 9.

  This transaction was allegedly effectuated through a series of agreements. The first was the sale of certain leases from Terminal Marketing to Terminal Finance by means of lease acquisition agreements. The second was the assignment of those leases from Terminal Finance to Wells Fargo by means of indenture agreements. Neither Lease No. 3855 nor Lease No. 3989 was covered by the original agreements. However, the agreements contained provisions for the assignment of additional leases. Wells Fargo does not dispute that the exact manner by which the assignment of additional leases was to be made under these agreements was not followed. See, e.g., Wells Fargo's Memorandum of Law in Reply to Rhythm & Hues' Opposition to Plaintiff's Motion for Partial Summary Judgment and Opposition to Rhythm & Hues' Cross-Motion for Summary Judgment on Assignment, filed January 13, 2004 (Docket #74) ("Wells Fargo Reply Mem."), at 3. Instead, Wells Fargo argues that documents called "Warehouse Funding Reports" properly effected the assignment of these additional leases. See, e.g., id. at 4.

  Prior to discussing the Warehouse Funding Reports, we will first consider the lease acquisition agreements and the indenture agreements and their provisions for the assignment of additional leases.

  a. Lease Acquisition Agreements Between Terminal Marketing and Terminal Finance.

  The first lease acquisition agreement was entered into in August 1995. See Lease Acquisition Agreement, dated August 1, 1995 ("First Lease Acquisition Agreement") (reproduced as Ex. 3 to Declaration of Aaron Mowbray, filed July 17, 2002 (Docket #43) ("Mowbray Decl. I") and as Ex. E to Beall Decl.). Under this agreement, Terminal Finance acquired Terminal Marketing's interest in certain leases. See id. § 2.02. The agreement also stated that its terms could "not be changed orally but only by an instrument in writing signed by the party against which enforcement is sought." Id. § 7.01.

  The agreement provided that when Terminal Marketing entered into additional leases not contemplated in the agreement, certain steps were required in order to effect an assignment of those additional leases to Terminal Finance. First, any additional lease had to be in full force and effect on the date the lease was to be assigned to Terminal Finance. See id. §§ 3.01(a)(vi), 3.04(b)(2)(i). Second, the equipment relating to the lease had to be delivered as of the date of the assignment. See id. §§ 3.01(a)(xii), 3.04(b)(2)(i). Third, the agreement provided that any additional assignment had to be accompanied by the following:
an Amendment to Lease Acquisition Agreement for New Lease Contracts substantially in the form of Exhibit A hereto subjecting such Lease Contract to the provisions hereof and providing with respect to such . . . Additional Lease Contract, an Amended Lease Schedule (a copy of which will be delivered to the Noteholders).
Id. § 3.04(b)(2)(iv) (emphasis added). The scored phrase has some significance because one of R&H's contentions in this case is that the assignments did not conform to this phrase's requirements. See, e.g., Rhythm & Hues' Memorandum of Law in Opposition to Wells' [sic] Fargo's Motion for Partial Summary Judgment and in Support of Rhythm & Hues' Cross-Motion for Summary Judgment, dated December 16, 2003 (Docket #80) ("R&H Mem. I"), at 14-17.

  "Exhibit A," referenced in the above-quoted section, consisted of a form stating briefly that the leases identified on an attached schedule "are hereby sold, assigned, transferred and delivered by [Terminal Marketing] to [Terminal Finance] in accordance with this Lease Acquisition Agreement." First Lease Acquisition Agreement, Ex. A. The attached "amended lease schedule" provided space for information regarding the new leases thereby assigned. See id.

  Terminal Marketing and Terminal Finance entered into a new lease acquisition agreement in August 2000. See Amended and Restated Lease Acquisition Agreement, dated August 1, 2000 ("Second Lease Acquisition Agreement") (reproduced as Ex. 4 to Mowbray Decl. I and as Ex. G to Beall Decl.).*fn2 Like the First Lease Acquisition Agreement, this agreement contained an identical provision specifying the requirements for assigning additional leases to Terminal Finance and an identical "Exhibit A." See id. § 3.04(b)(2) & Ex. A. The new agreement also contained the same provision requiring a writing to effect any amendment. See id. § 7.01.

  Both of the agreements contained two signature lines, one for Terminal Marketing's President and the other for Terminal Finance's President. See First Lease Acquisition Agreement at 30; Second Lease Acquisition Agreement at 28. The same individual — Sanford Schneiderman — signed the agreements on behalf of both companies. See First Lease Acquisition Agreement at 30; Second Lease Acquisition Agreement at 28.

  b. Indenture Agreements Between Terminal Marketing. Terminal Finance, and Wells Fargo. On July 1, 1998, Terminal Marketing, Terminal Finance, and Wells Fargo entered into an indenture agreement under which Terminal Finance agreed to assign to Wells Fargo all of its rights under the leases Terminal Marketing had assigned to it under the First Lease Acquisition Agreement. See Second Amended and Restated Indenture, dated July 1, 1998 ("Second Indenture Agreement") (reproduced as Ex. 1 to Mowbray Decl. I and as Ex. I to Beall Decl.), at I.*fn3 The agreement also delineated the requirements for the assignment of additional leases not originally covered by the First Lease Acquisition Agreement:
[Terminal Finance] shall comply with the requirements relating to . . . Additional Lease Contracts as set forth in the Lease Acquisition Agreement within the time periods set forth therein. In addition, each acquisition by [Terminal Finance] of any Additional Lease Contract . . . is subject to the satisfaction of the following conditions precedent . . .:
. . . .
(ii) the delivery by [Terminal Finance] to [Wells Fargo] and the Noteholders . . . of an Amended Lease Schedule accompanied by an Amendment to Indenture for New Lease Contractsand [sic] Amendmentto [sic] Lease Acquisition Agreement for New Lease Contracts executed by [Terminal Finance] and [Terminal Marketing], as appropriate.
Id. § 4.05(a). This same provision was included as part of a later indenture agreement between Terminal Marketing, Terminal Finance, and Wells Fargo executed in August 2000. See Third Amended and Restated Indenture, dated August 1, 2000 ("Third Indenture Agreement") (reproduced as Ex. 2 to Mowbray Decl. I and as Ex. M to Beall Decl.), § 4.05(a).*fn4 Included as Exhibit B to both Indenture Agreements was a form document to be utilized for the assignment of additional leases from Terminal Finance to Wells Fargo. The document — captioned "Form of Amendment to Indenture for New Lease Contracts" — stated that it was intended to comply with section 4.05(a)(ii) of the Indenture ...

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