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BankDirect Capital Finance, LLC v. Capital Premium Financing, Inc.

United States District Court, N.D. Illinois, Eastern Division

November 29, 2017




         In November 2015, BankDirect Capital Finance, LLC (“BankDirect”) filed suit against Capital Premium Financing, Inc. (“Capital Premium” or “CPFI”) alleging breach of contract. Capital Premium responded by filing a counterclaim against BankDirect, and the litigation proceeded in relatively typical fashion until May 1, 2017, when BankDirect seized control of certain of Capital Premium's bank accounts and took (or threatened to take) a number of further actions that, according to Capital Premium, are unauthorized and will drive it out of business. Before the court is Capital Premium's motion to enjoin BankDirect's actions. For the reasons explained below, the motion is granted.[1]

         I. Background

         BankDirect and Capital Premium are in the business of financing commercial insurance premiums. Essentially, they loan money to businesses who wish to pay their insurance premiums in a single lump sum. BankDirect specializes in lending money to large businesses; Capital Premium makes loans to small and mid-sized businesses. The parties were introduced to each other in 2010, at a time when Capital Premium was searching for new funding sources. After several months of negotiating, the parties settled on an arrangement according to which BankDirect would finance Capital Premium's growth for a period of five years (“the five-year period”) by purchasing loan originated by Capital Premium. After the five-year period, BankDirect would have the option of purchasing Capital Premium's assets.[2]

         This arrangement, which the parties refer to as the “transaction facility, ” was enshrined in several agreements executed by the parties in December 2010. The broader aspects of the parties' relationship were governed by a Master Transaction Agreement (“MTA”). See Pl.'s 3d Am. Compl., Ex. A, ECF No. 160-1. Various specific aspects of their relationship were governed by several subsidiary agreements. For purposes of this motion, the relevant agreements are the following:

Loan Purchase, Sale, and Servicing Agreement (“LPSSA”): this agreement sets forth the terms according to which BankDirect was obligated to buy loans originated by Capital Premium, and the terms according to which Capital Premium would act as the servicer of those loans. See Pl.'s 3d Am. Compl., Ex. C, ECF No. 160-3.
Option Agreement: this agreement specified the terms according to which BankDirect would have the right to purchase Capital Premium's assets at the end of the five-year period. Attached to the Option Agreement was a draft Asset Purchase Agreement (“APA”), which set the purchase price for Capital Premium's assets based on a multiple of its earnings during particular years. See Pl.'s 3d Am. Compl., Ex. B, ECF No. 160-2.
Marketing Collaboration Agreement: the MTA required BankDirect and Capital Premium to enter into a Marketing Collaboration Agreement within ninety days of the MTA's execution that would enable the parties to use their respective resources efficiently during the five-year period (by, for example, avoiding duplication of each other's efforts, and using each other's personnel to market one another's products).
Participation Agreement: this agreement permitted Capital Premium to purchase an interest in the loans that it had originated and sold to BankDirect. Capital Premium made these purchases using cash from its Agency Funding Participation Program (“AFP Program”), which allowed Capital Premium's clients (principally retail insurance agencies) to purchase an interest in Capital Premium's loan portfolio. See Pl.'s 3d Am. Compl., Ex. E, ECF No. 160-5.
Acknowledgment Agreement: this agreement was entered into in July 2011, after Texas Capital Bank National Association (“TCB”), which owns a majority interest in BankDirect, created a “BankDirect-related division” (“the BDCF Division”). The Acknowledgement Agreement provided that BankDirect could cause either BankDirect or TCB's BDCF Division to purchase CPFI's loans. See CPFI Answer & Counterclaim, Ex. 5, ECF 11-1.

         By all accounts, both parties profited substantially during the five-year period, and in late 2014 or early 2015, BankDirect notified Capital Premium of its intention to exercise its right to purchase Capital Premium's assets under the Option Agreement. However, Capital Premium refused to execute the Asset Purchase Agreement. In June 2015, Scott Crowley (“Crowley”), Capital Premium's Chief Financial Officer, sent an email to Stephen Gentry (“Gentry”), BankDirect's Executive Senior Vice President and Chief Financial Officer, listing various respects in which it alleged BankDirect's performance during the five-year period had negatively affected Capital Finance's growth. See Pl.'s 3d Am. Compl., Ex. I, Email from S. Crowley to S. Gentry (June 23, 2015), ECF No. 160-9.

         First, Crowley cited BankDirect's obligation under the MTA to execute a Marketing Collaboration Agreement with Capital Premium. Capital Premium claims that after the parties entered into the MTA, it made presentations to BankDirect's sales representatives designed to help them promote Capital Premium's loan volume, but that BankDirect never took these measures (or any others) to increase Capital Premium's business, and refused to cooperate with Capital Premium's attempts to develop a Marketing Collaboration Agreement. Second, Crowley cited BankDirect's acquisition of Standard Funding Corporation (“Standard Funding”) in 2011. Capital Premium claims that Standard Funding is one of its direct competitors and asserts that BankDirect's purchase of the company conflicted with its obligation to promote Capital Premium's growth. Capital Premium additionally alleges that BankDirect was negotiating its purchase of Standard Funding during the same period that it was negotiating the MTA with Capital Finance. According to Capital Premium, BankDirect deliberately concealed its intention to acquire Standard Funding, and Capital Premium insists that it would not have entered into the MTA if it had known of BankDirect's plan. Third, Crowley claimed that Capital Premium experienced additional administrative burdens as a result of the Acknowledgment Agreement. According to Capital Premium, the fact that its loans could now be purchased by either BankDirect or TCB's BDCP Division meant that Capital Premium was required under the U.S. Bank Secrecy Act to collect the federal taxpayer identification numbers of its customers. Crowley stated that this and other requirements put Capital Premium at a disadvantage vis à vis commercial premium lenders who were not subject to these regulations.

         According to Capital Premium, BankDirect's conduct was part of a concerted effort to stifle Capital Premium's growth during the five-year period, thereby ensuring that it would pay a lower price for Capital Premium's assets. Capital Premium contends that the Asset Purchase Agreement's purchase price formula significantly understated the company's market value, and claims that it nevertheless agreed to the formula based on BankDirect's representations that it would take aggressive steps to increase Capital Premium's earnings during the five-year period. BankDirect claims that Capital Premium had never raised the complaints in Crowley's June 2015 email (or any other complaints), at any time before BankDirect indicated its intention to exercise its purchase option. According to BankDirect, Capital Premium invented these complaints in an attempt to renegotiate a more favorable asset purchase price.

         BankDirect regarded Capital Premium's refusal to consummate the Asset Purchase Agreement as an anticipatory breach of the parties' agreement and filed this suit in November 2015. BankDirect's complaint originally asserted a claim for breach of contract seeking specific performance of the Asset Purchase Agreement. It also sought a declaratory judgment that the Option Agreement and MTA were enforceable and that BankDirect had performed all of its obligations under the agreements. Lastly, BankDirect alleged a claim for breach of contract based on Capital Premium's failure to indemnify it for the legal expenses it had incurred as a result of Capital Premium's refusal to consummate the APA. See Compl., ECF No. 1. BankDirect subsequently amended the complaint to assert a breach of contract claim for money damages in the alternative to its claim for specific performance. See Pl.'s 2d Am. Compl., ECF No. 40. In November 2017, BankDirect amended its complaint once more to assert a claim for breach of the implied duty of good faith. See Pl.'s 3d Am. Compl., ECF No. 160. In addition, BankDirect has withdrawn its claim for specific performance. Id.

         Capital Premium responded by filing a counterclaim against BankDirect and TCB. See CPFI Answer Counterclaims, ECF No. 11. Originally, Capital Premium sought a declaratory judgment rescinding the Option Agreement. It also asserted claims for breach of contract; breach of the covenant of good faith and fair dealing; unjust enrichment; fraud in the inducement; and tortious interference with contract. Capital Premium later dropped its claim for tortious interference and added claims for misappropriation of trade secrets (alleging that BankDirect used Capital Premium's proprietary customer information in attempting to steal Capital Premium's customers), and conversion. See CPFI Answer & 2d Am. and Supp. Countercl., ECF No. 128.[3]

         In February 2016, BankDirect sent Capital Premium a demand letter stating that pursuant to the MTA's indemnification provisions, Capital Premium was obligated to reimburse BankDirect for its legal expenses within ten days. See BD Post-Hr'g Br., Ex. E, BankDirect-CPFI Master Transaction Agreement: Indemnification Demand Letter, J. Shockey to S. Crowley (Feb. 19, 2016), ECF No. 147-5. Capital Premium did not respond to the letter. See Tr. at 117:21-118:3. BankDirect sent several additional demand letters, which also received no response. Tr. at 118:6-11; BD Post-Hr'g Br., Exs. F-H, ECF Nos. 147-6 to 147-8. On May 1, 2017, asserting that Capital Premium's refusal to pay its legal expenses constituted an event of default under the MTA, BankDirect: (1) seized control of Capital Premium's primary cash management account; (2) transferred $1 million from Capital Premium's account to its own account; (3) seized control of a separate $20 million account in which Capital Premium maintains contributions by participants in its AFP Program (the “Participation Interest Account”); and (4) stated that it intended to terminate the parties' loan-servicing arrangement. See CPFI Mem. Supp. PI Mot., Ex. A, Letter from Shockey to Crowley (May 1, 2017), ECF No. 89-1. On May 3, BankDirect sent a letter demanding an additional $5, 000, 000 from Capital Premium to cover a portion of the $125 million in damages it seeks in the suit. See CPFI Mem. Supp. PI Mot., Ex. D, Letter from S. Gentry to S. Crowley at 2-3 (May 3, 2017), ECF No. 89-4. (The foregoing actions are referred to collectively as the “May 1 actions”).

         One week later, Capital Premium filed the instant motion seeking to enjoin BankDirect's actions. See ECF No. 89. The parties entered into an agreement preserving the status quo pending the motion's resolution. See Minute Entry, ECF No. 91. Capital Premium continues to originate loans; BankDirect continues to purchase the loans and pay Capital Premium to service them; and BankDirect releases funds on a daily basis from the accounts it has seized so that Capital Premium is able to cover its expenses. On June 14, 2017, the court heard the testimony of Capital Premium CFO Scott Crowley; and on September 21, 2017 (following an unsuccessful settlement conference), the court heard the testimony of Joseph Shockey (“Shockey”), BankDirect's President and CEO. In addition to the briefing submitted in advance of the hearing, the parties were given leave to file opening post-hearing briefs and response briefs.

         II. Discussion

         A. Legal Standard

         “A party seeking to obtain a preliminary injunction must demonstrate: (1) its case has some likelihood of success on the merits; (2) that no adequate remedy at law exists; and (3) it will suffer irreparable harm if the injunction is not granted.” Ty, Inc. v. Jones Grp., Inc., 237 F.3d 891, 895 (7th Cir. 2001). “If the court is satisfied that these three conditions have been met, then it must consider the irreparable harm that the nonmoving party will suffer if preliminary relief is granted, balancing such harm against the irreparable harm the moving party will suffer if relief is denied.” Id. “Finally, the court must consider the public interest (non-parties) in denying or granting the injunction.” Id. “The court then weighs all of these factors, ‘sitting as would a chancellor in equity, ' when it decides whether to grant the injunction.” Id. (quoting Abbott Labs. v. Mead Johnson & Co., 971 F.2d 6, 12 (7th Cir. 1992)). “This process involves engaging in what we term the sliding scale approach; the more likely the [movant] will succeed on the merits, the less the balance of irreparable harms need favor the [movant's] position.” Id.

         In its pre-hearing brief in response to Capital Premium's motion, BankDirect pointed out that the MTA includes a choice-of-law clause providing that disputes between the parties are to be governed by New York law. See, e.g., MTA § 9.10(a) (“This agreement shall be governed by, and construed in accordance with, the law of the State of New York, without regard to the principles of conflicts of laws thereof.”) (capitalization removed). As a result, BankDirect argued that the court should apply the preliminary injunction standard supplied by New York law- which according to BankDirect, is more onerous than the standard under federal law. For example, BankDirect contended that under New York law, reputational injury alone is insufficient to establish irreparable harm. See BD Resp. to PI Mot. 20, ECF No. 92 (citing Litho Prestige, Div. of Unimedia Grp., Inc. v. News Am. Pub., Inc., 652 F.Supp. 804, 808 (S.D.N.Y. 1986)).

         BankDirect does not press this argument in its post-hearing briefs (indeed, its post-hearing submissions do not discuss the applicable standard at all), and thus appears to have abandoned it. Cf. Boecherer v. Burling Bank, No. 08 C 1332, 2009 WL 4544695, at *7 (N.D. Ill.Dec. 1, 2009) (party was deemed to have abandoned argument advanced in its opening brief by failing to address it in its reply brief); Contorno v. Grasser, No. 08 C 2737, 2009 WL 1292737, at *4 (N.D. Ill. May 7, 2009) (same). In any case, BankDirect is incorrect: given that the court's jurisdiction is based on diversity of citizenship, the parties' choice-of-law provision requires that New York law be applied to substantive legal questions, but federal law governs the preliminary injunction standard. See, e.g., Arthur J. Gallagher Serv. Co. v. Egan, No. 12-80361-CIV, 2012 WL 12839373, at *10 (S.D. Fla. June 29, 2012) (“[T]he Court finds that even though the parties included a choice of law provision in the Executive Agreement whereby Florida law applies, such does not govern the considerations of whether a preliminary injunction will issue.”); Seda Specialty Packing Corp. v. Am. Safety Closure Corp., No. 95 CIV. 4745 (LMM), 1995 WL 404821, at *2 (S.D.N.Y. July 7, 1995) (“[T]he standard for granting a preliminary injunction is provided by federal law, not by New York state law, even in a diversity action, and even though the parties specified New York law in a ‘choice of law' provision in their escrow agreement.”); see also TP Grp.-Ci, Inc. v. Smith, No. 16 C 7463, 2016 WL 6647947, at *8 (N.D. Ill. Nov. 10, 2016) (“Federal courts sitting in diversity apply state substantive law and federal procedural law. So while federal law supplies the test for the availability of a preliminary injunction, the Court applies substantive Delaware law pursuant to the choice-of-law clause.”) (citation and quotation marks omitted).[4]

         B. Likelihood of Success on the Merits

         The court first considers whether Capital Premium has shown a likelihood of success on the merits. “A party moving for preliminary injunctive relief need not demonstrate a likelihood of absolute success on the merits. Instead, he must only show that his chances to succeed on his claims are ‘better than negligible.'” Whitaker By Whitaker v. Kenosha Unified Sch. Dist. No. 1 Bd. of Educ., 858 F.3d 1034, 1046 (7th Cir. 2017) (quoting Cooper v. Salazar, 196 F.3d 809, 813 (7th Cir. 1999)). The Seventh Circuit has consistently characterized this threshold as a “low” one. Id.

         As traditionally formulated, the moving party is required to show a likelihood of success on the merits of “at least one of its claims.” Girl Scouts of Manitou Council, Inc. v. Girl Scouts of U.S. of Am., Inc., 549 F.3d 1079, 1096 (7th Cir. 2008). Typically, this inquiry focuses on the merits of the claims asserted in the underlying litigation. In this case, however, the merits of the causes of action asserted in the parties' pleadings are not directly at issue. This is because BankDirect's purported justification for the May 1 actions is not the claim asserted in its complaint-i.e., that Capital Premium defaulted under the MTA by failing to consummate the Asset Purchase Agreement. Instead, BankDirect maintains that its actions were authorized due to Capital Premium's rejection of its demands for indemnification.

         To be sure, BankDirect brought this suit, and thus incurred its legal expenses, based on its contention that Capital Premium breached the MTA by refusing to execute the APA. It might thus appear that whether BankDirect is entitled to indemnification turns on the ultimate question of whether Capital Premium was obligated to execute the APA. However, as is discussed more fully below, BankDirect took the May 1 actions based on the proposition that Capital Premium committed an event of default under the MTA by refusing to pay BankDirect's legal expenses within ten days of its demand-i.e., prior to any independent adjudication of whether Capital Premium was obligated to consummate the sale of its assets. Hence, to determine whether the May 1 actions were authorized or whether they may be enjoined, the relevant question is whether Capital Premium was indeed required to indemnify BankDirect upon its demand at this stage of the litigation.[5] The parties are in fact in agreement on this point. See BD PI Resp. Br. 22 n.3 (“For purposes of responding to the Injunction Motion, BankDirect relies upon, and thus the Court need only consider, the Events of Default related to CPFI's Indemnity obligations.”); CPFI PH Br. 13 (“Thus, the only issue on the likelihood of success on the merits is whether Capital Premium has shown some likelihood that BankDirect was not entitled unilaterally to demand the payment of its legal fees with no support and no oversight.”).[6] To this question the court now turns.

         1. The MTA's Indemnification Provisions

         Capital Premium's indemnification obligations under the MTA are set forth in § 9.05, which provides that the parties will generally cover their own expenses, except that “CPFI shall pay all reasonable fees, costs and expenses incurred by BankDirect (including, without limitation, all reasonable fees, charges and disbursements of counsel), in connection with any Default or the enforcement or protection of its rights … under or in connection with this Agreement and the other Transaction Documents, including its rights under this section.” MTA § 9.05(a). BankDirect further contends that Capital Premium's failure to fulfill its indemnification obligations constitutes an “Event of Default” under the MTA, and that under the MTA, this permits it to terminate Capital Premium's right to service loans and to seize Capital Premium's accounts and funds. For its part, Capital Premium does not dispute BankDirect's right to take such measures if an event of default has occurred. However, it denies that it committed an event of default by refusing to pay BankDirect's legal expenses up front. More specifically, Capital Premium challenges BankDirect's authority to decide unilaterally whether Capital Premium is required to indemnify it.

         BankDirect points out that there is no language in § 9.05(a) requiring it to obtain any formal ruling or independent determination before declaring a default and demanding indemnification. BankDirect also points out that the separate indemnity provision in the Asset Purchase Agreement is quite lengthy and spells out in great detail the procedures a party must follow before claiming a default. According to BankDirect, the omission of such language from the MTA shows that the parties expressly decided not to impose any restrictions on BankDirect's ability to demand indemnification under the MTA. Rather, BankDirect insists, the MTA's indemnity obligations are “self-executing.”

         The problem with this reading of § 9.05 is that, taken to its logical conclusion, it would permit BankDirect to demand indemnification from Capital Premium whenever it wished, no matter how frivolous the grounds, and no matter how extravagant the cost, based on nothing more than its ipse dixit. See, e.g., Pl.'s Resp. to PI Mot. 28 (asserting that “BankDirect is not required to demonstrate the reasonableness of its attorneys' fees in order for an Event of Default to exist”). In short, this reading of the MTA would essentially leave Capital Premium at BankDirect's mercy. New York law, like the law of other jurisdictions, disfavors interpretations that lead to such commercially unreasonable results. See, e.g., AAR Allen Servs. Inc. v. Feil 747 Zeckendorf Blvd LLC, No. 13 CIV. 3241 JMF, 2014 WL 1807098, at *5 (S.D.N.Y. May 6, 2014) (“[I]t is black-letter contract law that ‘a construction of a contract that would give one party an unfair and unreasonable advantage over the other, or that would place one party at the mercy of the other, should, if at all possible, be avoided.'”) (quoting 16W Ltd. P'Ship v. Xanadu Mezz Holdings LLC, 95 A.D.3d 498, 503 (N.Y.App.Div. 2012)); Rubinger v. Int'l Tel. & Tel. Corp., 193 F.Supp. 711, 721 (S.D.N.Y. 1961) (“A construction placing one of the parties to a contract at the mercy of the other is to be avoided.”); Pearce v. Knepper, 53 N.Y.S.2d 845, 846 (Sup. Ct. 1945) (“[T]he court wherever possible will endeavor to avoid a construction which would result in placing one party to a contract at the mercy of another.”); see also XCO Int'l Inc. v. Pac. Sci. Co., 369 F.3d 998, 1005 (7th Cir. 2004) (“Contract interpretations that produce commercially unreasonable results are disfavored, not as a matter of policy but simply because they are implausible to impute to the parties.”).[7]

         Putting aside BankDirect's interpretation of § 9.05(a), Capital Premium contends that BankDirect's position fails under § 9.05(b). Section 9.05(b) elaborates on the indemnity obligations mentioned in § 9.05(a) and applies them to all costs “arising out of, in connection with … any actual or prospective claim, litigation, investigation or proceeding relating to any of the foregoing, whether based on contract, tort or any other theory, whether brought by a third party or ...

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