United States District Court, S.D. New York
January 15, 2015
MEEHANCOMBS GLOBAL CREDIT OPPORTUNITIES FUNDS, LP, RELATIVE VALUE-LONG/SHORT DEBT, A SERIES OF UNDERLYING FUNDS TRUST, SB 4 CF LLC, CFIP ULTRA MASTER FUND, LTD., and TRILOGY PORTFOLIO COMPANY, LLC, Plaintiffs,
CAESARS ENTERTAINMENT CORP. and CAESARS ENTERTAINMENT OPERATING CO., INC., Defendants. FREDERICK BARTON DANNER, individually and on behalf of all others similarly situated, Plaintiffs,
CAESARS ENTERTAINMENT CORP. and CAESARS ENTERTAINMENT OPERATING CO., INC., Defendants
For MeehanCombs Global Credit Opportunities Funds, LP, Relative Value-Long/Short Debt, A Series of Underlying Funds Trust, SB 4 CF LLC, CFIP Ultra Master Fund, Ltd., and Trilogy Portfolio Company, LLC, Plaintiffs: James H. Millar, Esq., Kristin K. Going, Esq., Clay J. Pierce, Esq., Tracy S. Combs, Esq., Drinker Biddle & Reath, LLP, New York, NY.
For Frederick Barton Danner, Plaintiff: Mark C. Gardy, Esq., James S. Notis, Esq., Meagan Farmer, Esq., Gardy & Notis, LLP, New York, NY; Jay W. Eisenhofer, Esq., Gordon Z. Novod, Esq., Elizabeth Shofner, Esq., Grant & Eisenhoffer P.A., New York, NY.
For Caesars Entertainment Corporation, Defendant: Lewis R. Clayton, Esq., Jonathan Hurwitz, Esq., Paul, Weiss, Rifkind, Wharton & Garrison LLP, New York, NY.
For Caesars Entertainment Operating Company, Inc., Defendant: Eric Seiler, Esq., Philippe Adler, Esq., Emily A. Stubbs, Esq., Friedman Kaplan Seiler & Adelman LLP, New York, NY.
OPINION AND ORDER
Shira A. Scheindlin, United States District Judge.
The plaintiffs in these related actions are holders of Notes issued by Caesars Entertainment Operating Company, Inc. (" CEOC" ) pursuant to indentures, and -- until the issuance of supplemental indentures in August 2014 (the " August 2014 Transaction" or the " Amendments" ) -- guaranteed by Caesars Entertainment Corporation (" CEC" ; together with CEOC, " Caesars" ). Plaintiffs allege that the August 2014 Transaction violated the Trust Indenture Act of 1939 (" TIA" ) and breached the governing Indentures as well as the implied covenant of good faith and fair dealing.
Plaintiffs contend that the August 2014 Transaction removed the Guarantees given by the asset-rich parent company, CEC, leaving plaintiffs and the other bondholders with a worthless right to collect principal and interest from the issuer, CEOC, a company divesting itself of assets and holding approximately $17 billion of senior secured debt. The crux of plaintiffs' allegations is that the release of the Guarantees effected a non-consensual change to plaintiffs' payment rights and affected plaintiffs' practical ability to recover payment in violation of section 316 of the TIA and the governing Indentures.
Both defendants moved to dismiss the Complaint for failure to state a claim upon which relief can be granted pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure. On January 13, 2015, holders of Second Lien Notes issued by CEOC filed an involuntary chapter 11 petition against CEOC in the United States Bankruptcy Court for the District of Delaware. As a result, this action is stayed as to CEOC pursuant to section 362(a) of the Bankruptcy Code. However, this action is not stayed as to non-debtor defendant CEC, and for the following reasons CEC's motion to dismiss the Danner Complaint is DENIED in its entirety, and its motion to dismiss the MeehanCombs Complaint is GRANTED in part and DENIED in part.
A. The Notes and Indentures
CEC, formerly known as Harrah's Entertainment, Inc., owns, manages, and operates dozens of casinos throughout the United States. CEOC is a direct operating subsidiary of CEC.
Pursuant to Indentures dated September 28, 2005 and June 9, 2006, CEOC issued $750 million of 2017 Notes and $750 million of 2016 Notes. MeehanCombs is the beneficial holder of approximately $15,318,000 of the 2016 Notes and $5,632,000 of the 2017 Notes. Danner is the beneficial holder of 2016 Notes. Holders of the 2016 Notes are entitled to receive interest payments each year on June 1 and December 1; holders of the 2017 Notes are entitled to receive interest payments on April 1 and October 1 annually. The vast majority of outstanding Notes -- approximately $137 million -- are held by individual investors.
When issued, the 2017 and 2016 Notes were investment grade. The governing Indentures each included unconditional Guarantees by CEC and provisions prohibiting CEOC from divesting its assets.
B. The August 2014 Transaction
In January 2008, Caesars was acquired in a leveraged buyout by two private equity funds, Apollo Global Management, Inc. and TPG Capital, LP. Caesars subsequently entered into a series of transactions aimed at transferring assets away from CEOC to affiliates, and leaving it (CEOC) holding company debt.
CEC's ultimate plan is to push CEOC into bankruptcy while protecting Apollo and TPG from CEOC's creditors. The Amendments effectively left CEC free to transfer CEOC's assets without any obligation to back CEOC's debts. Furthermore, the purchase price paid for the Notes of the noteholders who approved the August 2014 Transaction (the " Favored Noteholders" ) -- par plus accrued interest and transactional fees and costs -- represented an extraordinary one hundred percent premium over market. In exchange for receiving all amounts owed under their Notes, the Favored Noteholders promised to: (1) support any future restructuring proposed by Caesars; (2) consent to " the removal and acknowledgment of the termination of the CEC guarantee of the Securities" ; and (iii) consent to the " modif[ication of] the covenant restricting disposition of 'substantially all' of CEOC's assets to measure future asset sales based on CEOC's assets as of the date of the amendment." 
III. STANDARD OF REVIEW
A. Rule 12(b)(6) Motion to Dismiss
In deciding a motion to dismiss pursuant to Rule 12(b)(6), the court " must accept all non-conclusory factual allegations as true and draw all reasonable inferences in the plaintiff's favor."  " When there are well-pleaded factual allegations, a court should assume their veracity and then determine whether they plausibly give rise to an entitlement for relief."  A claim is plausible " when the plaintiff pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged."  Plausibility requires " more than a sheer possibility that a defendant has acted unlawfully." 
When deciding a motion to dismiss, " a district court may consider the facts alleged in the complaint, documents attached to the complaint as exhibits, and documents incorporated by reference in the complaint."  A court may also consider a document that is not incorporated by reference " where the complaint 'relies heavily upon its terms and effect,' thereby rendering the document 'integral' to the complaint."  In an action under the TIA, a court may refer to the Indenture and its exhibits.
IV. APPLICABLE LAW
A. The Trust Indenture Act
The TIA provides that instruments to which it applies must be issued under an indenture that has been qualified by the Securities and Exchange Commission (" SEC" ). The requirements of such indentures are " designed to vindicate a federal policy of protecting investors." 
Section 316 of the TIA relates to collective action clauses. For example, it is permissible for a majority of noteholders to direct the trustee to exercise its powers under the indenture or for not less than seventy-five percent of noteholders " to consent on behalf of the holders of all such indenture securities to the postponement of any interest payment for a period not exceeding three years from its due date."  Section 316(a)'s terms are permissive -- meaning an indenture can expressly exclude such majority action.
However, section 316(b) is mandatory. It states that:
Notwithstanding any other provision of the indenture to be qualified, the right of any holder of any indenture security to receive payment of the principal of and interest on such indenture security, on or after the respective due dates expressed in such indenture security, or to institute suit for the enforcement of any such payment on or after such respective dates, shall not be impaired or affected without the consent of such holder, except as to a postponement of an interest payment consented to as provided in paragraph (2) of subsection (a) of this section, and except that such indenture may contain provisions limiting or denying the right of any such holder to institute any such suit, if and to the extent that the institution or prosecution thereof or the entry of judgment therein would, under applicable law, result in the surrender, impairment, waiver, or loss of the lien of such indenture upon any property subject to such lien.
Thus, section 316(b) acts to protect a bondholder's right to receive payment of both principal and interest.
Section 316(b) addressed prior practice whereby majority bondholders -- often controlled by insiders -- used collective or majority action clauses to change the terms of an indenture, to the detriment of minority bondholders. As result of section 316(b), a company cannot -- outside of bankruptcy - alter its obligation to pay bonds without the consent of each bondholder. In this way, section " 316(b) was designed to provide judicial scrutiny of debt readjustment plans to ensure their equity." 
B. No-Action Clauses
No-action clauses generally require individual bondholders to satisfy conditions precedent before initiating suit. A " no-action clause . . . protect[s] issuers from the expense involved in defending individual lawsuits that are either frivolous or otherwise not in the economic interest of the corporation and its creditors."  This goal is generally achieved " by delegating the right to bring a suit enforcing rights of bondholders to the trustee, or to the holders of a substantial amount of bonds, and by delegating to the trustee the right to prosecute such a suit in the first instance." 
The terms of no-action clauses are strictly construed. They are regularly enforced by federal and state courts to preclude state law claims. However, when a claim is brought under the TIA, section 316(b) preempts inconsistent indenture provisions, including no-action clauses. Thus, while a noaction clause may bar state law claims, it cannot bar claims under the TIA.
C. Breach of Contract and the Implied Covenant of Good Faith and Fair Dealing
To state a breach of contract claim under New York law, a plaintiff must allege: (1) a valid contract; (2) plaintiff's performance; (3) defendant's failure to perform; and (4) damages resulting from the breach.
" Under New York law, the implied covenant of good faith and fair dealing inheres in every contract."  However, breach of this implied covenant is " merely a breach of the underlying contract," not a separate cause of action. " '[I]f the allegations do not go beyond the statement of a mere contract breach and, relying on the same alleged acts, simply seek the same damages or other relief already claimed in a companion contract cause of action, they may be disregarded as superfluous as no additional claim is actually stated.'" 
A. Plaintiffs' Claims Under TIA Section 316
1. Plaintiffs State a Claim Under TIA Section 316(b)
CEC argues that the Complaint fails to allege impairment of the legal right to payment under the Notes because CEOC is not in default of its obligation to make payments. According to CEC, " the statute does not guarantee that the issuer will be able to meet its obligations. Rather, it protects only a noteholder's legal right to receive payment when due." 
" [T]he starting point in any case of [statutory] interpretation must always be the language itself, giving effect to the plain meaning thereof."  Under section 316(b), a noteholder's right " to receive payment of the principal of and interest on [the] indenture security, on or after the respective due dates expressed in such indenture security, or to institute suit for the enforcement of any such payment on or after such respective dates, shall not be impaired or affected without the consent of such holder[.]"
CEC's narrow reading is not mandated by the statutory text; it is possible for a right to receive payment to be impaired prior to the time payment is due. Nor does CEC's narrow reading follow from the legislative history and purposes of the TIA. Although there is scant case law on point, I find the reasoning of two decisions from this District persuasive, particularly in light of the conduct alleged in the Complaint. Specifically, " the Court finds [ ] unsatisfying the notion that Section 316(b) protects only against formal, explicit modification of the legal right to receive payment, and allows a sufficiently clever issuer to gut the Act's protections through a transaction such as the one at issue here."  As explained in Federated Strategic Income Fund :
By defendant's elimination of the guarantors and the simultaneous disposition of all meaningful assets, defendant will effectively eliminate plaintiffs' ability to recover and will remove a holder's " safety net" of a guarantor, which was obviously an investment consideration from the outset. Taken together, these proposed amendments could materially impair or affect a holder's right to sue. A holder who chooses to sue for payment at the date of maturity will no longer, as a practical matter, be able to seek recourse from either the assetless defendant or from the discharged guarantors. It is beyond peradventure that when a company takes steps to preclude any recovery by noteholders for payment of principal coupled with the elimination of the guarantors for its debt, that such action . . . constitute[s] an " impairment" . . . [of] the right to sue for payment.
Likewise, I find that the Complaint's plausible allegations that the August 2014 Transaction stripped plaintiffs of the valuable CEC Guarantees leaving them with an empty right to assert a payment default from an insolvent issuer are sufficient to state a claim under section 316(b).
For the same reason stated by the court in Marblegate Asset Management, I reject the cases relied on by CEC because " [t]he language and logic of the Northwestern Corp. and YRC Worldwide decisions would suggest that Plaintiffs have no claim" just because they may still be able to " assert a legal claim [for] payment against the soon-to-be judgment-proof Education Management LLC."  CEC's attempt to distinguish the instant cases from Marblegate Asset Management on the ground that CEOC will soon be filing for bankruptcy protection and therefore " the transaction challenged here is not an out-of-court debt restructuring that 'involuntarily disinherits a dissenting minority' of its right to receive payment" is unavailing. CEOC is the putative debtor, not CEC. Had the CEC Guarantees not been improperly removed, CEOC's filing would have had no impact on CEC's liability under the Guarantees. Thus, as alleged in the Complaint, removal of the Guarantees through the August 2014 Transaction is an impermissible out-of-court debt restructuring achieved through collective action. This is exactly what TIA section 316(b) is designed to prevent.
2. MeehanCombs Failed to Adequately Allege Ownership or Control Under Section 316(a)
Section 316(a) permits the holders of a majority of the principal amount of any series of notes governed by the statute to direct the trustee to exercise any power conferred on the trustee by the indenture. However, the statute provides that in determining whether a majority of holders of the securities " have concurred in any such direction or consent," securities held by the issuer " or by any person directly or indirectly controlling or controlled by or under direct or indirect common control" of the issuer shall be disregarded.
MeehanCombs alleges that Caesars either controlled the Favored Noteholders or owned the Favored Noteholders' notes and therefore those notes should not have been counted toward the required majority needed for approval of the August 2014 Transaction. Accordingly, MeehanCombs alleges that the Amendments are invalid.
Because the August 2014 Transaction was structured so that the Favored Noteholders' consents were given before the notes were sold to Caesars, MeehanCombs does not allege ownership. In addition, the control allegations, as pled, are insufficient. The MeehanCombs Complaint " does not allege that the Participating Noteholders were anything other than unaffiliated, independent third parties that entered into an arm's length transaction to provide their consents."  Accordingly, MeehanCombs' claim under TIA section 316(a) is dismissed without prejudice.
B. The No-Action Clauses
CEC argues that plaintiffs' state law claims are barred by the Indentures' no-action clauses. There is no dispute that plaintiffs have not complied with the preconditions set forth in the Indentures' no-action clauses. But plaintiffs argue that under the Indentures they are excused from compliance with the no-action clauses because they are seeking to enforce their right to payment of principal and interest.
CEC contends that the exception to the no-action clause -- which tracks the language of section 316(b) -- is only triggered after a payment default. Thus, CEC argues, " [f]or the same reasons that apply to the [s]ection 316(b) claim, this narrow exception [to the no-action clause] applies only to suits by Noteholders after a payment default, which has not occurred here." 
The starting point is the language of the Indentures. Section 508 of the 2016 Indenture provides:
Unconditional Right of Holders to Receive Principal, Premium and Interest
Notwithstanding any other provision in this Indenture, the Holder of any Security shall have the right, which is absolute and unconditional, to receive payment of the principal of and any premium and (subject to Section 307) interest on such Security on the respective Stated Maturities expressed in such Security (or, in the case of redemption, on the Redemption Date) and to institute suit for the enforcement of any such payment, and such rights shall not be impaired without the consent of such Holder.
Likewise, section 6.8 of the 2017 Indenture states:
Unconditional Right of Holders to Receive Principal and Interest
Notwithstanding any other provision in this Indenture, the Holder of any Notes shall have the right, which is absolute and unconditional, to receive payment of the principal of and interest, if any, on the Notes on the Stated Maturity (or, in the case of redemption, on the Redemption Date) and to institute suit for the enforcement of any such payment, and such rights shall not be impaired without the consent of such Holder.
In other words, both provisions grant an absolute and unconditional right to bring an action to enforce the payment obligations agreed to under the Indentures. This plain language does not limit the applicability of these provisions to suits for past due amounts.
As discussed, the parties were obligated to include these provisions in the Indenture by section 316(b) of the TIA. Section 316(b) states that the bondholder has the right " to institute suit for the enforcement of any [ ] payment on or after [the] respective [due] dates. . . ." This modifying clause is the reason that courts have held that section 316(b) and similarly worded indenture provisions apply only to past due payments. However, the modifying clause has been omitted from the Indentures. Under the doctrine of expressio unius est exclusio alterius, the omission of this language is deemed intentional, lending further support to the conclusion that these provisions are not limited to past due payments.
For this reason, CEC's reliance on cases interpreting indenture provisions that simply repeat section 316(b) is unavailing. In its reply, CEC relies exclusively on Emmet & Co., Inc. v. Catholic Health East, which considered a clause substantially similar to that in Continental Casualty and rejected the federal court's interpretation of New York law.
The trial court explained:
It is true that in Continental Casualty, the district court found this very language to be lacking an express limitation on suits for unpaid interest, though it did not explain the basis for its interpretation. Nevertheless, we find this reading unpersuasive. For one thing, it would be strange to preserve a bondholder's right to " enforce" a certain type of payment without similarly preserving the debtor's obligation to make such a payment. Limiting the scope of the final modifier to apply only to the debtor's obligation produces this somewhat odd, asymmetrical result. Moreover, policy considerations weigh against such a broad reading of the exception. Simply put, allowing lawsuits for unaccrued payment obligations would essentially allow all claims relating to the value of the bond, and would let the payment exception swallow the no-action clause.
The Appellate Division affirmed, writing only that plaintiffs were not " excused from compliance by the indentures' 'principal and interest' clauses, which only authorize actions for past due principal and interest." 
Even assuming the reasoning of the trial court could be attributed to the Appellate Division, Emmet & Co. is still neither persuasive nor controlling authority. First, while similar, the provisions at issue here are materially different from the clauses in Emmet & Co. and Continental Casualty Co. because they are not susceptible to Emmet & Co.'s concern -- the only concern based on the language of the clause -- that " it would be strange to preserve a bondholder's right to 'enforce' a certain type of payment without similarly preserving the debtor's obligation to make such a payment."  The clauses here refer only to the rights of the bondholders, and the modifier occurs in the middle of the clauses, not at the end. Notably, the clauses here are substantially similar to the one at issue in Cendant Corporation Securities Litigation, and Emmet & Co. does not directly address the language of that provision. Moreover, Emmet & Co. involved municipal bond offerings, not TIA registered indentures. Accordingly, the court had no reason to consider the relevance of the parties' modification of the language mandated under section 316(b) of the TIA.
Second, Emmet & Co.'s main disagreement with Continental Casualty was based on policy grounds. But Emmet & Co. arises in a vastly different context. Emmet & Co. concerned municipal bond offerings not TIA qualified indentures. Whereas notice of the partial redemptions was duly given in that case, plaintiffs here allege that the August 2014 Transaction was consummated a mere ten days after the initial disclosure, and " well before Plaintiff could have even complied with the 60 [day] requirement set forth in the" Indentures.
Furthermore, accepting plaintiffs' allegations as true, the applicability of the policy concern articulated in Emmet & Co. -- " preventing expensive lawsuits that do not have the support of a substantial portion of the creditors while also centralizing the prosecution of lawsuits whose benefits should properly accrue to all bondholders" -- is questionable. This is so because of the nature of the conduct alleged and because plaintiffs represent millions of dollars of aggregate principal due on the Notes.
C. The Complaint Adequately Alleges Breach of the Indentures
Each of the enumerated breach of contract claims, along with the claim for breach of the implied covenant of good faith and fair dealing, are ultimately derivative of the claim that section 508 of the 2016 Indenture and section 6.8 of the 2017 Indenture were breached. The Court therefore treats these claims as a single claim for purposes of this motion.
Based on the foregoing, the Complaint adequately alleges a breach in connection with these provisions. The Complaint plausibly alleges that the actions taken by CEC impaired plaintiffs' right to payment under the Notes and therefore plaintiffs' consent to the supplemental indentures was required.
For the foregoing reasons, CEC's motion to dismiss the Danner Complaint is DENIED in its entirety, and CEC's motion to dismiss the MeehanCombs Complaint is GRANTED with respect to the section 316(a) claim, without prejudice, and DENIED in all other respects. MeehanCombs shall have until January 29, 2015 to file an amended complaint. A conference is scheduled for February 3, 2015 at 4:30 p.m. The Clerk of the Court is directed to close these motions [Dkt. No. 16 in No. 14-cv-7091 and Dkt. No. 8 in No. 14-cv-7973].