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Interpharm, Inc. v. Wells Fargo Bank

April 1, 2010


The opinion of the court was delivered by: Richard J. Holwell, District Judge


In this action, a now-defunct generic pharmaceutical company, Interpharm, Inc. ("Interpharm"), is suing its lender, Wells Fargo Bank, N.A. ("Wells Fargo" or the "Bank") for breach of contract and related claims. Wells Fargo has moved to dismiss the action on the ground that Interpharm waived all claims against it in a release it signed on May 14, 2008. For the reasons below, Wells Fargo's motion is granted in part and denied in part.


For the purposes of this motion, the following allegations are taken as true. Until the sale of substantially all of its assets and property in June 2008, Interpharm was in the business of manufacturing and selling generic pharmaceutical drugs. (Compl. ¶ 11.) Among its major customers were three large drug wholesalers, McKesson, AmerisourceBergen, and Cardinal Health. (Id. ¶ 12.) In 2006, the company was planning to expand its business, and it needed more credit. (Id. ¶ 15.) Wells Fargo had expressed interest in financing Interpharm, and on February 9, 2006, the parties entered into a Credit and Security Agreement (the "Credit Agreement") whereby Wells Fargo agreed to make certain secured loans and advances to Interpharm. (Id. ¶ 16.) This included a revolving line of credit*fn1 of up to $22.5 million (the "Revolving Line") secured by collateral in Interpharm's "accounts receivables, rights to payment, general intangibles, inventory, and equipment." (Id. ¶ 17.) The amount of credit available to Interpharm in the Revolving Line-its "borrowing base"-was variable. (Id. ¶ 18.) It depended on, among other things, the total amount of its eligible accounts and the value of its eligible inventory. (Id.) For example, the borrowing base included 85 percent of Interpharm's "eligible accounts," which the Credit Agreement defined as "all unpaid Accounts arising from the sale or lease of goods or the performance of services, net of any credits, but excluding" accounts with certain specified characteristics. (Id. ¶ 19; Wurst Decl. Ex. A at 5.) Thus if Interpharm was owed $10,000 in an eligible account from a wholesaler, its borrowing base would go up by $8,500. (Compl. ¶ 19.) Similarly, Interpharm's borrowing base included some percentage of its "eligible inventory" (another term specifically defined in the Credit Agreement), which, in general terms, was defined as 50 percent of its cost "or such lesser rate as [Wells Fargo] in its reasonable discretion may deem appropriate from time to time." (Id.) The Credit Agreement allowed Wells Fargo to exclude inventory as ineligible "in its commercially reasonable discretion," and to apply different advance rates (as opposed to the specified rate of 50 percent) to eligible inventory if it deemed such rates "appropriate" "in its reasonable discretion." (Id. ¶ 20.)

In 2007, Interpharm suffered lower-than-expected sales and high expenses, and its net income declined from the previous fiscal year. (Id. ¶ 22.) The complaint cited increased development costs and increased competition as culprits. (Id.) Still, through June of that year, Interpharm had "significant unused available credit in the Revolving Line." (Id.) As of the end of June, availability exceeded $5.9 million. (Id. ¶ 23.) In the third quarter of 2007, however, revenue fell, which "put Interpharm in default." (Id. ¶ 25.) Under the Credit Agreement, this entitled Wells Fargo to, among other things, "declare the Obligations to be forthwith due and payable, whereupon all Obligations shall become and be forthwith due and payable, without presentment, notice of dishonor, protest or further notice of any kind, all of which the Borrower expressly waives." (Wurst Aff. Ex A. at 57.) Wells Fargo was also entitled to exercise and enforce any and all rights and remedies available upon default to a secured party under the UCC, including the right to take possession of Collateral, or any evidence thereof, proceeding without judicial process or by judicial process . . . and the right to sell, lease or otherwise dispose of any or all of the Collateral (with or without giving any warranties as to the Collateral, title to the Collateral or similar warranties) and, in connection therewith, the Borrower will on demand assemble the Collateral and make it available to the Lender at a place to be designated by the Lender which is reasonably convenient to both parties . . . . (Id.)

In August 2007, notwithstanding Wells Fargo's right to exercise default remedies under the Credit Agreement, it "began to negotiate with" Interpharm to allow it more time to "get back on its feet." (Compl. ¶ 26.) In October 2007, while negotiations went on, Wells Fargo began to exclude the receivables of Cardinal Healthcare from eligible accounts. (Id. ¶ 27.) The exclusion reduced plaintiff's borrowing base under the Revolving Line, which Interpharm perceived as part of Wells Fargo's strategy to strong-arm Interpharm into agreeing to the Bank's onerous proposed terms. (Id. ¶¶ 27, 28.)

Whether that was the Bank's strategy or not, the parties did enter into a Forbearance Agreement on October 26, 2007 (the "October 2007 Agreement"). (Id. ¶¶ 27, 28.) Wells Fargo agreed to add two million dollars to the Revolving Line*fn2 and to forbear from exercising its rights against Interpharm until December 31, 2007. (Id.) In turn, Interpharm acknowledged that it owed Wells Fargo the principal amount of $30,032,630.29 plus interest and costs*fn3 and that it was in default; agreed to raise additional capital*fn4 and $8 million in subordinated debt by November 15, 2007; and released all claims against Wells Fargo arising at or prior to the date of the October 2007 Agreement. (Id.; Wurst Decl. Ex. C, October 2007 Agreement, at ¶¶ 4(a), 4(d), 6, 10, 11(c), 14.) The October 2007 Agreement was amended a few weeks later, on November 13, 2007 (the "November 2007 Amendment"), to reflect that Interpharm had raised $3 million of subordinated debt and would raise another $5 million of the same by November 15, 2007. (Wurst Decl. Ex. C, November 2007 Agreement, at 1.) Substantively, however, all other "terms and conditions of the [October 2007] Forbearance Agreement [were to] remain in full force and effect." (Id.)

The October 2007 Agreement added certain terms to the Credit Agreement, including a requirement that Interpharm achieve a before-tax net income of at least $500,000 and a net cash flow of at least $600,000 for the last quarter of 2007. (Wurst Decl. Ex. C, October 2007 Agreement, at ¶ 11(a), (b).) The complaint sees these and other terms of the October 2007 Agreement as unfair. (Compl. ¶ 29.) It points to "exorbitantly high" interest rates and fees. (Id.) And it asserts that Wells Fargo knew the net income and cash flow requirements for November 2007 and the fourth quarter of 2007 were unrealistic-Interpharm had said during negotiations that the income targets were "unattainable" and "unreasonable" and that it could not promise it would meet them-and made Interpharm agree to them anyway, by "vaguely propos[ing] to negotiate new financial covenants for the first half of 2008." (Id. ¶¶ 29, 30, 31, 32.) Notably, the complaint does not allege that this "vague propos[al]" was actually part of the October 2007 Agreement's terms-just that it trusted "Wells Fargo's good faith" to renegotiate the 2008 financial covenants.*fn5 (Id. ¶ 32.)

In early January of 2008, Interpharm notified Wells Fargo it would not meet its 2007 income targets and would be in what it called "technical non-compliance" with the October 2007 Agreement. (Compl. ¶ 34.) Although Interpharm claims that Wells Fargo should have known the income targets were unrealistic, the Bank treated its non-compliance as a default on the October 2007 Agreement and began charging Interpharm higher interest and costs-actions it calls "were commercially unreasonable and inconsistent with the intentions of the parties when entering into the [October 2007] Agreement."*fn6 (Id.)

That same month, Wells Fargo said it "wanted out" of the loan. (Id. ¶¶ 35, 45.) On January 20, without any "commercially reasonable basis," it began to treat the Cardinal Health, AmerisourceBergen, and McKesson accounts, which comprised more than 20 percent of its accounts receivables that month, as ineligible accounts for the purpose of calculating Interpharm's borrowing base. (Id. ¶ 36.) The Bank based its decision on these wholesalers' right to "charge back" Interpharm money on certain transactions. (See id. ¶ 38.) But this, says Interpharm, ignored the fact that charge-backs are a standard practice in the pharmaceutical industry, where drug-makers like Interpharm sell their products to both wholesalers and retailers. (Id. ¶ 37.) Interpharm's wholesalers frequently sold their products to retailers who also did business directly with (and had negotiated their own prices with) Interpharm. (Id.) In such cases, the wholesalers could charge Interpharm for the difference between what they paid Interpharm and any lower price that the retailers had negotiated to pay them. (Id.)

With its available credit depleted, Interpharm found itself unable to pay its suppliers and therefore unable to generate enough product to fill its customers' orders. (Id. ¶ 41.) Meanwhile, Wells Fargo continued to ask out of the loan, demanding that Interpharm refinance its debt or sell its assets. (Id. ¶ 45.) Investment bankers assured Interpharm that it could sell the company for more than $100 million if Interpharm continued to operate as "a going concern with viable supply and customer relationships." (Id.) But to do that, Interpharm needed more working funds. And Wells Fargo refused to expand its borrowing base; refused to deem Interpharm's wholesaler accounts eligible; and on January 29, 2008 decided to exclude from eligibility another account, that of Watson Pharmaceuticals, even though Watson was paying its bills on time. (Id. ¶ 48.)

On February 1, 2008, Wells Fargo refused to advance Interpharm enough money to make payroll unless it agreed to a new, interim forbearance agreement on Wells Fargo's terms. (Id. ¶ 52.) Faced with a choice between signing the interim agreement and bankruptcy, Interpharm signed the interim agreement on February 1 (the "February 2008 Interim Agreement"). In the February 2008 Interim Agreement, Interpharm acknowledged that it was in default of the Credit Agreement and the October 2007 Agreement, and Wells Fargo agreed to forbear from exercising its right till February 4, 2008. (Wurst Decl. Ex. C, February 2008 Interim Agreement, at 3, 8.) Interpharm promised to retain a "Chief Restructuring Officer," "acceptable to Wells Fargo in its sole discretion," who would be authorized to prepare a budget under which Interpharm would operate; request advances from Wells Fargo; make payments on Interpharm's behalf; and administer the budget. (Id. at 8--9). It also gave Wells Fargo a security interest in certain of its property and waived all claims against the Bank. (Id. at 11.) Significantly, the February 2008 Interim Agreement amended the definition of "Eligible Accounts" in the Credit Agreement to exclude "Accounts owed by AmeriSource Bergen, McKesson, Cardinal Health, Watson Pharmaceutical, or any other wholesaler, to the extent accrued after January 21, 2008." (Id. at 9.)

On February 5, the parties executed another forbearance agreement (the "February 2008 Agreement"). (Wurst Decl. Ex. C, February 2008 Agreement.) Under its terms Wells Fargo agreed to forbear from exercising its rights against Interpharm through June 30, 2008, provided that there was no default under the February 2008 Agreement or any new default under the Credit Agreement. (Id. at 9.) Interpharm agreed to waive all claims against Wells Fargo (id. at 6, 14), to reduce its payroll expenses by twenty percent, and to put its real estate on the market. (Compl. ¶¶ 53, 54.)

According to the complaint, a critical-though unstated-premise of the February 2008 Agreement was that Wells Fargo would continue to include 50 percent of the cost of eligible inventory in calculating its borrowing base. (Id. ¶ 61.) But on March 6, 2008, Wells Fargo reduced the rate to 39.6 percent after a third-party vendor offered a poor assessment of the inventory's liquidation value. (Id.) By "unilateral[ly]" reducing the advance rate, Wells Fargo is said to have materially breached the February 2008 Agreement. (Id. ¶ 64.) The relevant provision in the Credit Agreement in fact permitted Wells Fargo to unilaterally reduce the inventory advance rate below 50 percent to "such lesser rate as the Lender in its reasonable discretion may deem appropriate from time to time." (Wurst Decl. Ex. A, at 2.) In any event, the reduction in the advance rate had the effect of shrinking Interpharm's available credit even ...

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