$425M DSI Renal Ch. 7 Recovery Suit Can Proceed
July 24, 2017 | By Ryan Boysen | Law360.com
The court-appointed trustee of defunct DSI Holdings LLC can pursue a $425 million suit against insiders and investors in the dialysis provider who he says abused the bankruptcy process to cheat creditors out of proceeds from the company's lucrative sale, as a Delaware bankruptcy court mostly denied requests last week to toss the case.
Chapter 7 trustee Alfred T. Giuliano says DSI's insiders and private equity investors like Centre Partners Management and Apollo Global Management conspired to dump all of the corporate family's liabilities into a holding company before selling the operating company to Da Vita Inc. for $700 million in 2011, pocketing the proceeds and leaving the holding company's more than 200 creditors out in the cold.
U.S. Bankruptcy Judge Kevin J. Carey said in his ruling, handed down Thursday, that there was plenty of evidence to support most of Giuliano's charges, which include avoidance actions and breach of fiduciary duty, among others.
"The trustee alleges that [DSI Renal Holdings] was left an empty shell; its highly profitable [operating company] stripped away, in exchange for" a miniscule stake in the operating company, Judge Carey said. "The complaint cites to internal documents showing that, at the time the transaction was undertaken, insiders knew that the renal business was returning to profitability and that defendants did not want trade creditors or non-insider shareholders to benefit from those conditions."
The complaint seeks to recover $425 million from two new holding companies that Giuliano says were set up just to wall off the operating company from DSI Renal Holdings' debts. It also names the companies that invested in them, which include Centre Partners, Ares Capital Corp., Northwestern Mutual and Apollo, according to court documents, as well as various DSI insiders.
The suit stems from DSI Renal Holdings' Chapter 7 bankruptcy in 2011, the same year the operating company, known simply as DSI Renal, was sold to dialysis giant DaVita for $700 million.
Just before that sale DSI's directors, officers and major investors carried out a major reshuffle of the company's corporate structure that Giuliano says was aimed to cut DSI Renal Holdings' creditors out of the sale and keep the profits for themselves.
DSI had struggled since its inception in 2006, and the company was hit with a $100 million write-down of its accounts receivables in 2008. That year Lief Murphy was brought in as CEO to orchestrate a turnaround, however, and by the next year his efforts had begun to bear fruit, the complaint says.
In 2009 DSI hired Goldman Sachs to gauge outside interest in buying the company, but Giuliano says this was just a "ruse to appease its leaders," since "Goldman Sachs did not use updated earning projections as part of the sale process," Judge Carey wrote.
After a few "low-ball offers" came in, the sale process was abruptly terminated and DSI carried out the corporate restructuring in 2010, valuing the entire company at $477 million partly based on those offers. The trustee labeled the entire effort "a prematurely terminated sham meant to justify the restructuring based on an artificially depressed valuation," Judge Carey wrote.
DSI Renal Holdings had owned the operating company outright since both were established in 2006, but as part of the restructuring two new holding companies were created, CDSI I and CDSI II.
Those companies issued nearly all of their shares to the defendants and then assumed ownership of the operating company, according to court documents, leaving DSI Renal Holdings with "less than one-thousands of a percent" of a share in CDSI I and II, which now controlled "the business it formerly had owned in full," Judge Carey said.
The $425 million the defendants received in the Da Vita sale would have been enough to pay off all of DSI Renal Holdings' creditors, Giuliano says, but the restructuring meant that only a few hundred thousand was available to satisfy its liabilities after the sale. Hence the Chapter 7 filing.
Giuliano brought the adversary proceeding in 2013 and the motion to dismiss was filed the next year, but Judge Carey didn't rule on it until last week. The reason for the three-year gap wasn't immediately clear from the available court filings.
Centre Partners, DSI's largest shareholder, controlled "a majority of the boards of the debtors and their subsidiaries" at the time of the restructuring, Judge Carey said.
A 2009 email written by an unnamed restructuring counsel for DSI and uncovered in discovery states that "Centre wants to liquidate just the holding company and do their new equity investment at a level below that [CDSI I and II], wiping out the claims of the creditors at holdings," according to court documents.
Giuliano's adversary proceeding was "somewhat unusual in that, before filing his complaint, the trustee had the benefit of extensive discovery through" various documents in his possession as trustee, as well as sworn testimony taken in a separate investigation, Judge Carey said.
From those sources, Giuliano produced several more emails, statements and other documents detailing DSI insiders and investors discussing the possibility of walling off the liabilities held by DSI Renal Holdings from a future sale.
On the basis of that evidence, Judge Carey denied motions to dismiss on avoidance and recovery actions, as well as breach of fiduciary duty and other counts, but dismissed a request for a declaratory judgment that CDSI I and II had been used to perpetrate a fraud, finding the trustee didn't have standing to ask for it.
He deferred a ruling on motions to dismiss other avoidance actions however, saying the outcome would depend on the U.S. Supreme Court's ruling in FTI Consulting Inc. v. Merit Management Group LP, which is expected to resolve lingering questions about whether avoidance actions can be brought if the money in question was routed through a financial institution intermediary.
DaVita, which is not named in the suit, declined to comment on Monday. None of the other parties involved responded to requests for comment.
Giuliano is represented by Andrew J. Belli, Steven M. Coren and Benjamin M. Mather of Kaufman Coren & Ress PC and Austin C. Endersby, Seth A. Niederman, Vincent J. Poppiti of Fox Rothschild LLP.
Centre Partners, Northwestern Mutual and several individual defendants are represented by Andrew R. Remming and Eric D. Schwartz of Morris Nichols Arsht & Tunnell LLP. Northwestern Mutual is also represented by Michael W. Ott of Schiff LLP.
Ares Capital is represented by Stan Chiueh, J. Matthew Evans, Robert H. Pees and Steven M. Pesner of Akin Gump Strauss Hauer & Feld LLP and Jennifer C. Wasson of Potter Anderson & Corroon LLP.
Apollo is representing itself.
The case is Alfred Thomas Giuliano v. Michael Schnabel et al., case number 14-50356, in the U.S. Bankruptcy Court for the District of Delaware.
