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05/03/90 WASHINGTON MEDICAL CENTER v. HENRY C.

May 3, 1990

WASHINGTON MEDICAL CENTER, INC., ET AL., APPELLANTS
v.
HENRY C. HOLLE, ET AL., APPELLEES. HENRY C. HOLLE, ET AL., APPELLANTS V. WASHINGTON MEDICAL CENTER, INC., ET AL., APPELLEES



Appeals from the Superior Court of the District of Columbia; Hon. Gladys Kessler, Trial Judge

Before Rogers, Chief Judge, and Newman and Farrell, Associate Judges.

The opinion of the court was delivered by: Farrell

FARRELL, Associate Judge : This appeal and cross-appeal arise from the trial court's judgment, following a bench trial, for punitive and compensatory damages against Washington Medical Center (WMC), the managing general partner of an ill-fated limited partnership formed for the purpose of developing certain real property, and its president, Deyerberg, for breach of fiduciary duties to the other partners, including Holle. WMC filed for bankruptcy when the joint venture went awry, and that fact gives rise to two of its primary claims on appeal. It contends that when it filed its bankruptcy petition and was made a "debtor-in-possession" by the bankruptcy court, that status extinguished any fiduciary duties it owed to the other partners and any liability under state law for breach of those duties. WMC also contests the trial court's refusal to apply principles of res judicata and collateral estoppel to bar Holle from litigating issues and claims addressed in WMC's bankruptcy proceeding. It further challenges the award of punitive damages, asserting that the court erred in finding that WMC's filing of an action for an accounting and winding up of partnership affairs, naming as defendant Holle but none of the other partners, was a breach of fiduciary duty and part of a pattern of willful misconduct toward Holle. On his cross-appeal, Holle asserts that the court erroneously denied his claim against WMC for certain rental payments for real property owned by the partnership stemming from WMC's status as assignee of the leasehold.

We reject WMC's argument concerning the effect of WMC's status as debtor-in-possession on its fiduciary duties as managing partner. We find no indication that Congress intended the changes in a corporate debtor's status worked by the filing of a bankruptcy petition to absolve a partner of the duties of good faith and fair dealing owed to fellow partners during the winding up phase. We also reject WMC's arguments of claim and issue preclusion. We further hold that, although a partner indisputably has a right to seek an in-court accounting for legitimate reasons, the trial Judge's finding that WMC's suit was motivated by animus toward Holle and part of a concerted attempt to force Holle to abandon legitimate claims is supported by record evidence and that punitive damages accordingly were proper. Finally, we agree with Holle's contention on cross-appeal that the trial Judge erroneously rejected the claim for unpaid rent. We therefore remand solely for a determination of damages on that issue.

I. The Facts

A. Transactional Background

The facts giving rise to this litigation follow a tortuous path, one the reader unhappily cannot be spared. In late 1969 a group of medical professionals and their friends and relatives formed a real estate investment partnership called Medical Center Associates (MCA), and acquired a parcel of land at 1143 New Hampshire Avenue for the purpose of constructing an apartment building. This project was abandoned shortly after construction began, and MCA hired Holle, an architect, to explore the feasibility of alternatively using the property as an extended care medical facility. After a favorable determination by Holle, MCA sought financing. Wachovia Bank and Trust Company agreed to finance construction and Metropolitan Life Insurance Co. to provide permanent financing. However, because MCA was a partnership and the agreed-upon interest rates exceeded the maximum rates for individual borrowers under District of Columbia law, the project could not go forward.

The interest rate limitations did not apply to corporate borrowers, however, and Washington Medical Center, Inc., a. Virginia real estate investment corporation controlled by Dr. Oscar Hunter, one of the partners of MCA, agreed to obtain the loans and develop the medical facility. On September 2, 1969, a limited partnership called Metropolitan Hospital for Extended Care (MHEC) was formed consisting of WMC, the former partners of MCA (including Dr. Hunter), Holle, and a number of others. *fn1

Under the partnership agreement, WMC was the managing general partner, and at all times it maintained and controlled the partnership's books and records. Holle was denominated a general partner, but the agreement provided that he had no right to control or participate in the management of the partnership. Moreover, he contributed only $90,000 in architectural services, and the partnership agreed to hold him harmless for any liability exceeding the value of that contribution.

By 1975, when MHEC began receiving rent for the facility, Holle had a total ownership interest of 9.06% (1% as a general partner and 8.06% as a limited partner), and WMC had a total ownership interest of 83.44% (5% as a general partner and 78.44% as a limited partner). Eventually WMC acquired the ownership interests of all the other general partners, including Dr. Hunter, except for that of Holle. Pursuant to the partnership agreement, each of the general partners was liable for a certain percentage of MHEC's debts and liabilities. Although Dr. Hunter transferred his ownership interest to WMC, he remained liable for a share of the firm's liabilities. The final allocation of responsibility for firm debts and liabilities was: WMC, 81.541%; Dr. Hunter, 18.459%.

An additional agreement governing financing, construction and operation of the facility was also executed on September 2. It provided that WMC would hold legal title to the 1143 New Hampshire Avenue property as a "straw party" or agent for MHEC, the beneficial owner, until completion of the building, at which time WMC would convey title to MHEC. The partnership would then lease the building to Doctors' Hospital, Inc. (DHI), *fn2 and WMC would guarantee DHI's performance under the lease to the lenders. If WMC made a payment to any lender as guarantor, or otherwise incurred liability, it could seek reimbursement from MHEC and/or its general partners, except for Holle who wad expressly excluded.

Pursuant to the agreement, MHEC authorized WMC to encumber and, in the event the extended care facility was uncompleted, to sell the 1143 New Hampshire Avenue property, subject to MHEC's right of first refusal. WMC obtained a construction loan from the Wachovia National Bank and Trust Company, N.A., and executed a promissory note secured by a deed of trust on the property; Metropolitan Life Insurance Company later purchased this note. On September 22, 1969, WMC obtained another loan from Wachovia that was later purchased by Weaver Brothers, Inc.; this note was also secured by a deed of trust on the New Hampshire Avenue property. WMC, as landlord and agent for MHEC, executed a lease of the property to DHI for a 20-year term.

The building was completed in 1971 and DHI operated it as an extended care medical facility until July 1972. *fn3 Because Medicare, Blue Cross and other insurers refused to reimburse patients for services provided at the facility, the venture was a failure and DHI incurred a $3.3 million loss in the first 1 1/2 years of operation. To avoid further losses, in August 1972 DHI assigned its leasehold interest to WMC, the latter agreeing to assume DHI's lease obligations. These included the payment of rent to MHEC which amounted to an annual payment of $700,000. *fn4 Because WMC stood in the position of both landlord (as MHEC's agent and managing partner) and tenant (as DHI's assignee), these payments were but "paper" transactions in which WMC's books were debited and MHEC's credited each month. Significantly, WMC did not disclose the assignment and assumption of rental obligations to the other MHEC partners.

WMC operated the property at a loss as the Metropolitan Hotel from August 1972 to July 1975. In 1975 WMC subleased the entire building to a hotel management company, which operated a hotel on most of the premises until 1978. When losses continued to mount, WMC turned finally to a plan to convert the premises into an acute medical care facility.

This plan answered two critical needs of WMC: first, to turn the New Hampshire Avenue property to profitable use, and second, to find a new home for Doctors' Hospital (owned and operated by WMC's wholly-owned subsidiary, DHI), which was then being forced out of its I Street location. The plan called for WMC to buy out the minority partners of MHEC, and to sell the property to AHS Management Services, Inc. (AHS), a health care management company, for $8.195 million. AHS would then lease the premises back to Doctors' Hospital for twenty years. Although WMC, through its wholly-owned subsidiary DHI, would thus receive substantial profits from operating the acute care facility, WMC did not inform the other MHEC partners of these projections. To accomplish the conversion of the premises to the new Doctors' Hospital, WMC bought out some of the MHEC partners and obtained $2.25 million in loans from AHS secured in part by further encumbrances on the New Hampshire Avenue property. The existence of these encumbrances also was not disclosed to the remaining MHEC partners. Negotiations with AHS collapsed, and in September 1979 WMC, followed shortly by DHI, filed for bankruptcy and reorganization under federal bankruptcy laws.

The following additional facts relating to the New Hampshire Avenue property are relevant. From 1973 to 1977, WMC incurred losses of nearly $2.262 million in its efforts to convert the property. It carried these as its own losses on internal books and records and tax returns, although it also showed part of them as losses on MHEC's K-1 partnership tax returns. In 1976 WMC began charging MHEC interest on $1.8 million in alleged advances to MHEC during construction of the extended care facility. In 1977 WMC, for the first time, began charging MHEC a fee of 3% on the monthly rent for managing the New Hampshire Avenue property. Because no such fee had been charged from 1971-1977, WMC assessed a "retroactive" fee totaling $137,391.51.

B. Bankruptcy Proceedings

On September 19, 1979, WMC filed for relief under the bankruptcy code in the United States Bankruptcy Court for the District of Columbia. WMC was permitted to continue operating as a debtor-in-possession by the bankruptcy court. See 11 U.S.C. § 1101 (1) (1988). Under the MHEC partnership agreement, the filing of a bankruptcy petition dissolved the partnership. A major asset of WMC's estate in bankruptcy for purposes of chapter 11 was its interest in 1143 New Hampshire Avenue. Under a Plan of Arrangement filed on August 4, 1980, WMC, as debtor-in-possession, proposed to sell 1143 New Hampshire Avenue to the FCH Company and to use the proceeds as part of a fund from which creditors of the corporation would be paid. On May 19, 1980, WMC filed a Complaint to Sell Property Free and Clear of All Liens seeking approval of WMC's contract to sell the property to FCH. *fn5 The bankruptcy court entered an order on June 18, 1980, ratifying the contract and authorizing the sale subject to determination of the amount each of the various named lienholders would receive from the proceeds. On September 17, 1980, WMC sent a letter to Holle advising him that his pro rata distributive share from the sale of 1143 New Hampshire Avenue would be $268,000. WMC sold the property to FCH on November 26, 1980 for $10.1 million, and the proceeds were deposited in an escrow account subject to satisfaction of the liens.

After learning of WMC's petition in bankruptcy through a newspaper article, Holle retained counsel, who attended hearings in the proceeding from late March 1980 forward. At first Holle did not object to the sale of the property, asserting that WMC had agreed to an accounting to determine each partner's share, that the proceeds would remain in escrow pending final resolution, and that any shortfall would be made up with proceeds from the sale of another parcel of real property owned by WMC.

Although projections accompanying WMC's September 17, 1980 letter to Holle anticipated that distribution to the partners would be made on or about November 15, the partners received nothing at that time. After the sale, the $10.1 million was used to pay, first, debts of the partnership in favor of WMC, its principals and others, then the holders of the first trust deeds on the property, and then other creditors of WMC, leaving $3.45 million still in the escrow account. On December 16, 1980, this entire surplus was distributed to AHS (the health care management company) to satisfy the $2.25 million in loans from AHS to WMC which WMC, without disclosure to the MHEC partners, had secured with the partnership's New Hampshire Avenue property. This left nothing to distribute to the partners. *fn6

The court confirmed the Plan of Arrangement on December 3, 1980, releasing WMC from "all dischargeable debts." Also on December 3, WMC wrote to all of the MHEC partners advising them that the property had been sold, and that WMC would be in a position to make distributions to the partners no later than March 15, 1981. On December 12, 1980, Holle filed with the bankruptcy court a Complaint for Injunction and to Determine Priority of Lien, and motions for a temporary restraining order and a preliminary injunction, alleging that the debts underlying the encumbrances in favor of AHS were WMC's and not debts of the partnership. Holle sought to enjoin distribution of any of the $3.45 million surplus to AHS pending the completion of an accounting to determine the respective shares of the MHEC partners in that surplus. On WMC's motion, the bankruptcy court dismissed Holle's complaint and motions as untimely because Holle had failed to raise an objection before confirmation of the plan. The court also held that it had no jurisdiction to entertain objections raised by Holle after confirmation.

Despite the fact that neither Holle, nor any of the partners, had received their distributive shares from the sale, on March 27, 1981, WMC sent Holle a K-1 partnership tax return for 1980 showing a $383,000 capital gain from the sale of the property. On April 24, 1981, Holle filed a motion to set aside WMC's Plan of Arrangement, asserting that WMC had made fraudulent representations to the MHEC partners to obtain their acquiescence in the sale, and to the court to obtain confirmation of the plan.

At a May 22, 1981 hearing on Holle's pending motions, WMC advised the court that it had paid all the partners but Holle their distributive shares, *fn7 but that Holle would receive his check only if he executed a general release of all claims against WMC -- a condition imposed on no other partner. On May 29, 1981, concluding that Holle had failed to carry his burden of proving that confirmation of the plan was procured by WMC's fraud, the bankruptcy court denied Holle's motion to set aside the plan, but ordered WMC to pay within ten days the $285,000 WMC admitted to be Holle's share, an order which WMC appealed. On July 10, 1981, the district court denied WMC's appeal and ordered WMC to pay Holle $270,000, the amount owing which WMC did not then dispute. WMC finally paid Holle $270,000 on July 11, 1981.

On April 29, 1983, United States District Judge Penn entered a Memorandum Opinion addressing three consolidated appeals arising from the WMC bankruptcy proceeding. *fn8 The bankruptcy court had erred, he concluded, in refusing to invoke its jurisdiction to interfere with the confirmed plan on the ground that Holle had failed to object prior to confirmation. Ultimately, however, Judge Penn agreed that the bankruptcy court had correctly ordered WMC to pay the undisputed amount to Holle.

C. Superior Court Proceedings

After an accountant retained by Holle reviewed MHEC's books and records in April and May, on July 21, 1981, Holle's counsel wrote to WMC's counsel detailing a number of alleged breaches of fiduciary duty and contract by WMC, and threatening suit for substantial compensatory and punitive damages unless WMC responded favorably to an invitation to enter settlement negotiations. Not waiting for this action to materialize, on August 10, 1981, WMC filed a suit for an accounting and winding up of MHEC's affairs in Superior Court, naming only Holle as defendant. WMC alleged that the distributions of proceeds made to the partners had been erroneous, because WMC had treated all the losses incurred in operating the 1143 New Hampshire Avenue property -- which should have been carried as MHEC's losses -- as its own. It also alleged that the AHS deeds of trust should have been treated as partnership, not WMC, liabilities. These recently-discovered "errors", WMC asserted, substantially reduced the distributive shares payable to the partners, and accordingly Holle should have received nothing. Holle counterclaimed and independently filed suit against WMC and its president, Deyerberg, setting out allegations of breach of contract and fiduciary duty, and seeking compensatory damages in the amount of $400,000. For WMC's pattern of bad faith in dealing with Holle and the other partners, Holle sought $6 million in punitive damages. WMC in turn counterclaimed, seeking $1 million in punitive damages against Holle.

The two actions were consolidated and on December 21, 1984, the Superior Court ordered that all the partners be made parties. After realignment and substitution of WMC as real party in interest for some of the partners, Holle and two other limited partners remained as plaintiffs, WMC and Deyerberg as defendants, and three additional partners as involuntary plaintiffs.

Following a lengthy bench trial, Judge Gladys Kessler issued a 56-page opinion in which she found that the defendants had acted in bad faith and breached their fiduciary duties to Holle by: (1) failing to pay him his distributive share at the same time all the other MHEC partners were paid, and (2) filing suit against him alone and no one else. The court found that these actions were deliberate and calculated, along with other "malicious and oppressive" actions, to force Holle to abandon his inquiries and claims against WMC, justifying imposition of punitive damages in the amount of $750,000 on the claims of fiduciary breach particular to Holle.

The court further concluded that WMC had breached its fiduciary duties to the partners by: (1) having failed to convey title to MHEC of the New Hampshire Avenue property; (2) encumbering the New Hampshire Avenue property to secure loans by AHS to WMC that were the personal debts of WMC; (3) using the proceeds from the sale of the New Hampshire Avenue property to repay the loans to AHS without first providing the bankruptcy court with a plan of adequate protection for the partners' share of those proceeds; (4) failing to pay interest to the MHEC partners on the delayed distribution of their shares of the proceeds; (5) having charged MHEC management fees and interest on advances in violation of the agreements between the parties; and (6) having failed to adjust retroactively the MHEC partnership shares back to 1969 upon revaluation of the property in 1975, as required by the partnership agreement. The court awarded the former partners, including Holle, nominal and compensatory damages for these breaches based upon their pro rata partnership shares. The court also viewed these actions as "illustrating a clear and consistent pattern of bad faith in [WMC's] dealings with the MHEC partners."

The court denied Holle's claim for unpaid rent for the period after WMC filed its petition in bankruptcy (1979-80), concluding that it was bound by the prior ruling of another Judge of the Superior Court, on a partial motion for summary judgment, that WMC had no duty to disclose to the other partners that it had taken the lease assignment from DHI. Judge Kessler also concluded that WMC's discharge in bankruptcy precluded further litigation of the rental obligation. *fn9

II. Legal Discussion

A. Effect of Status as Debtor-in-Possession on ...


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