United States District Court, District of Columbia
RANDOLPH D. MOSS UNITED STATES DISTRICT JUDGE.
case raises the question whether a party to a stock purchase
agreement and corresponding promissory note and security
agreement may decline to make payments due under those
agreements based on a defense of fraudulent inducement, while
simultaneously affirming the stock purchase agreement and
treating the acquired stock as his own. As explained below,
the Court concludes that, at least in the circumstances of
this case, he may not do so, and that his remedy for
fraudulent inducement lies, if at all, in an action for
parties to this action are Plaintiffs Richard and Jonita
Carter, who were the sole shareholders in Urban Service
Systems Corporation (“Urban Systems”) prior to
the transaction at issue, and Defendants Urban Systems and
William Keating. In 2016, the Carters decided to retire, and
they agreed to sell their interest in Urban Systems to
Keating. But because Keating lacked the funds to purchase the
company outright, the sale was made, in effect, on credit.
Richard Carter returned all of his shares to Urban Systems in
exchange for a promise, secured by those shares, that Urban
Systems would make monthly payments to him over a period of
almost five years, for a total of $1, 032, 246. Jonita Carter
also returned most of her shares to Urban Systems on similar
terms requiring monthly payments totaling $137, 175, and she
sold her remaining shares to Keating in return for a promise,
again secured by the corresponding shares, that Keating would
pay her $68, 579, plus interest, over a similar period of
time. Pursuant to these agreements, Keating would become the
sole shareholder in Urban Systems; Urban Systems would pay
the Carters the bulk of the purchase price from the
company's profits over a period of about five years; and
Keating would acquire the company, along with its new debt to
the Carters, for $68, 579. In theory, all would gain from the
transaction. The Carters would receive $1, 238, 000 for the
company, and Keating would acquire the company for a
relatively modest upfront amount.
theory, however, turned on the assumption that the company
would earn a substantial profit on its sole contract, which
was with the District of Columbia Water and Sewer Authority
(“D.C. Water”). When it failed to do so, the
company and Keating stopped making the required payments to
the Carters. The Carters, in response, eventually notified
Urban Systems and Keating that they were in default under the
promissory notes, and the Carters exercised their rights
under the security agreements to demand the return of their
shares. When Urban Systems and Keating failed to cure their
defaults or to return the stock, the Carters commenced this
action. Subsequently, they moved for a preliminary
injunction, seeking to compel Urban Systems and Keating to
return their shares.
the agreement of the parties, the Court consolidated
Plaintiffs' motion for a preliminary injunction with
briefing and argument on summary judgment, set a further
briefing schedule, and held a hearing on the consolidated
motions. Urban Systems and Keating answered the Carters'
motions, and Keating filed counterclaims against the Carters
alleging fraudulent inducement and negligent
misrepresentation. Neither Urban Systems nor Keating disputes
the Carters' allegations of nonpayment of the amounts
specified in the payment schedules. They do, however, dispute
that Plaintiffs are entitled to relief, arguing that Richard
Carter fraudulently induced Keating to enter into the
transaction by misrepresenting the profitability of Urban
Systems' D.C. Water contract. According to Keating, he is
the injured party; neither he nor Urban Systems should be
required to return the shares; and the Carters are liable to
him for compensatory damages. Finally, Urban Systems and
Keating contend that, in any event, the entry of a
preliminary injunction or summary judgment is premature
because they have not yet had the opportunity to conduct
discovery relating to their fraudulent inducement and
negligent misrepresentation defenses.
explained below, the Court agrees that it is premature to
resolve Keating's counterclaims. That does not mean,
however, that it is premature to decide whether the Carters
are entitled to the return of their shares under the
promissory notes and security agreements. Those agreements
are clear: The promissory notes are payable “without
offset, ” and, in the event of a default, Urban Systems
and Keating agreed to return the shares to the Carters. To be
sure, fraudulent inducement may, at times, provide a basis
for rescinding a contract. But the party asserting fraudulent
inducement must elect either to rescind the contract-which,
here, would result, among other things, in the return of the
shares to the Carters-or to affirm the contract and to sue
for damages. Although Keating would like to have it both
ways, he is not entitled to do so; he cannot affirm the
portion of the contract that grants him ownership of Urban
Systems, while disaffirming the portion that requires that he
and Urban Systems make monthly payments to the Carters.
Having continued to exercise control of Urban Systems to this
day, his sole recourse is to return the shares, as required
by the agreements, and then, if appropriate, to sue for
Court will, accordingly, grant partial summary judgment in
favor of Plaintiffs and deny Plaintiffs' motion for a
preliminary injunction as moot.
purposes of resolving Plaintiffs' motion for partial
summary judgment, the Court takes “the facts in the
record and all reasonable inferences derived therefrom in the
light most favorable” to Defendants. Coleman v.
Duke, 867 F.3d 204, 209 (D.C. Cir. 2017) (quoting
Al-Saffy v. Vilsack, 827 F.3d 85, 89 (D.C. Cir.
Richard and Jonita Carter are the former owners and operators
of Urban Systems, a waste collection, disposal, and
processing company. Dkt. 11-18 at 2 (Carter Decl. ¶ 3).
In February 2016, Richard Carter (hereinafter
“Carter”) proposed to sell Urban Systems to
Defendant William Keating, Dkt. 20 at 113-14, who had served
as President of the company from 2005 to 2013, id.
at 85. Because Keating lacked the capital to purchase the
company outright, Carter suggested that Urban Systems fund
the bulk of the purchase price from the company's future
profits on its contract with D.C. Water. Id. at 114
(“[Carter] said that the [company's] contract would
. . . pay the cost of the purchase and still have some profit
remaining.”). That contract-known as the Grit
Contract-dated back to approximately 2005 and was Urban
Systems' sole existing contract (and source of revenue)
at the time of the negotiations and sale. Id. at 13,
63-64; Dkt. 14-1 at 1 (Keating Decl. ¶¶ 3-5).
the Grit Contract, Urban Systems disposed of heavy solid
materials-or “grit”- removed from wastewater on
behalf of D.C. Water. Id. (Keating Decl. ¶ 3);
Dkt. 20 at 12-13. The company picked up the grit from D.C.
Water's wastewater treatment plant and transported it to
a disposal site, and, in return, received a per-ton fee. Dkt.
20 at 74. Given the nature of the contract, however, both the
revenue and costs were subject to fluctuation. Id.
at 18. Because Urban Systems was paid on a per-ton basis, the
revenue varied based on the amount of grit generated each
month. Id. at 74. Likewise, Urban Systems'
costs-and, in particular, its disposal costs-also varied.
Id. at 28. As Eunice Liu, the company's former
comptroller, explained, different disposal sites charged
different amounts; those that are further away from the
District of Columbia charged less for disposal, but travel to
those more distant sites resulted in larger transportation
costs. See Id. at 95. Urban Systems negotiated
separate per-ton disposal rates with the various disposal
sites. Id. at 88.
to Keating, when Carter proposed in February 2016 that
Keating purchase Urban Systems, Carter represented that the
Grit Contract would generate sufficient profits to cover the
purchase price, while still leaving some return for Keating.
Id. at 114; Dkt. 14-1 at 1 (Keating Decl. ¶ 5)
(“Mr. Carter represented to me that he would submit . .
. a bid for the [c]ontract at sufficient profit margins to
enable the [c]ompany to pay him approximately $1 million in
monthly increments of approximately $20, 000 over a period of
approximately five years.”). Carter backed this
representation up with a spreadsheet, which he asked Liu to
send to Keating, “reflect[ing] the expenses and . . .
[profit] margins associated with servicing the
[c]ontract.” Id. at 2 (Keating Decl. ¶
11). The spreadsheet, which is captioned “Grit Hauling
Cost Proposal, ” includes a separate page for each of
the five years of the contract. See Dkt. 17-1. Each
page includes a series of costs, including driver wages,
payroll taxes, fringe benefits, fuel, registration,
insurance, repairs, and maintenance. Dkt. 17-1 at 2-6. Most
significantly, the spreadsheet reflects the proposed weekly,
monthly, and annual disposal costs at an initial rate of
$18.50 per ton and growing by approximately 3% each year of
the contract. Id.; Dkt. 20 at 28. The projected
disposal cost was, by far, the largest cost included in the
spreadsheet, and the profitability of the contract turned on
managing that significant cost. See Dkt. 17-1 at
2-6; Dkt. 20 at 28 (“Th[e] [landfill rate] is the
single most [important] line item in bidding this contract in
order for it to be profitable.”); id. at 93
(explaining that the $18.50 per ton landfill rate indicated
that “th[e] contract [would] be very
profitable”). Notably, the spreadsheet also projected
that an alternative disposal site would charge $55.00 per
ton, Dkt. 17-1 at 2-4, and Carter conceded in his testimony
that the Grit Contract would be a losing proposition at that
rate, Dkt. 20 at 77. The spreadsheet, however, projected that
all of the grit would go to the less expensive site, known as
the King & Queen Landfill. See Dkt. 17-1 at 2-6;
Dkt. 20 at 77, 123.
and Keating had several follow-up meetings at which they
negotiated the terms of the sale. During one meeting in March
2016, Keating presented Carter with his own spreadsheet of
projected costs and revenue, which “reflected [the
profit] margins [from] the spreadsheet Mr. Carter had Eunice
Liu send to [Keating], along with additional details and
assumptions, ” and Keating “asked [Carter] to
confirm . . . the accuracy of the cost assumptions and
revenue margins.” Dkt. 14-1 at 3 (Keating Decl.
¶¶ 15-16). In their conversations about that
spreadsheet, Carter did not “at any point tell”
Keating “that the costs that he assumed . . . were
inaccurate.” Dkt. 20 at 71. By April 2016, Carter and
Keating reached an agreement for the sale of Urban Systems.
Dkt. 11-18 at 3 (Carter Decl. ¶ 4).
sale of Urban Systems was accomplished through a series of
agreements. The first agreement-the Stock Purchase and
Redemption Agreement (“Purchase Agreement”)-set
forth the overall structure and terms of the transaction.
Dkt. 11-3. Under that agreement, Urban Systems redeemed all
of Richard Carter's shares in exchange for a promise to
pay him $1, 032, 246, and it redeemed roughly two-thirds of
Jonita Carter's shares in exchange for a promise to pay
her $137, 175. Id. at 3. Keating, in turn, agreed to
purchase Jonita's remaining shares, representing all of
the outstanding post-acquisition shares of the company, in
exchange for a promise to pay her an additional $68, 579.
Id. at 2-4. To ensure payment of the agreed-upon
amounts, Urban Systems further agreed to execute a note
promising to pay Richard Carter the principal amount of $1,
032, 246, and to execute a second note promising to pay
Jonita Carter the principal amount of $137, 175. Id.
at 3. The company also agreed to grant the Carters security
interests in their respective redeemed shares as collateral
for those payments and to enter into corresponding security
agreements. Id. at 3-4. Keating, likewise, agreed to
enter a note promising to pay Jonita Carter the principal
amount of $68, 579, to grant her a security interest in the
shares he acquired under the agreement, and to enter into a
corresponding security agreement. Id. at 3.
Purchase Agreement also specified the source of funding for
the amounts payable under the promissory notes and provided a
further guarantee of payment. Recognizing that the Grit
Contract was the company's sole source of revenue, the
agreement specified that the payments due under the
promissory notes would come from the revenue generated by the
Grit Contract and that Urban Systems would establish an
escrow account “with its primary banking institution to
ensure that the appropriate amount of payments under the
[Grit] contract [were] deposited into a separate account for
[the Carters] to cover the [p]romissory [n]ote
[p]ayments.” Id. at 4. Finally, the parties
also included an integration clause in the Purchase Agreement
specifying that “all of the promises, agreements,
conditions, understandings, covenants, warranties and
representations among the parties” were reflected in
the agreement to the exclusion of any “prior agreements
or understandings.” Id. at 8. The parties
entered into a separate agreement establishing the escrow
account and requiring Urban Systems to deposit
“approximately $900, 000” into the account
annually. Dkt. 11-13; see also Dkt. 11-18 at 5
(Carter Decl. ¶ 17).
the three promissory notes (“Promissory Notes”)
took a similar form. Under the first, Urban Systems agreed to
pay Richard Carter $1, 032, 246 plus interest, Dkt. 11-4 at
2; under the second, Urban Systems agreed to pay Jonita
Carter $137, 175 plus interest, Dkt. 11-5 at 2; and under the
third, Keating promised to pay Jonita Carter $68, 579 plus
interest, Dkt. 11-6 at 2. Each provided for 58 consecutive
monthly payments of principal and interest; each further
reflected the same security interests granted in the Purchase
Agreement; each included an acceleration clause in case of
default; and each included the following language:
This Note is payable without offset, and is subject to no
other terms, conditions, defenses or offsets. No. setoffs or
counterclaims shall be asserted or brought by the Maker or
any other party at any time liable hereunder in any suit or
action for the collection of any sum due hereunder.
Dkt. 11-4 at 2, 4; Dkt. 11-5 at 2, 4; Dkt. 11-6 at 2, 4. An
amortization schedule, reflecting the required payments of
principal and interest, was attached to each note. Dkt. 11-4
at 6-8; Dkt. 11-5 at 6-8; Dkt. 11-6 at 6-8. The parties later
agreed to modify the amortization schedules in minor
respects. See Dkt. 11-7; Dkt. 11-8; Dkt. 11-9.
three security agreements (“Security Agreements”)
also took a similar form. Under the first, Urban Systems
granted Richard Carter a security interest in the shares the
company redeemed from him and specified that, “[i]n the
event of [d]efault, ” the company would “issue to
[Richard Carter] the 59, 951 shares of” the
company's stock. Dkt. 11-10 at 2. Under the second, Urban
Systems granted Jonita Carter a security interest in the
shares it redeemed from her and specified that, “[i]n
the event of [d]efault, ” the company would
“issue to [Jonita Carter] 7, 967 shares of” the
company's stock. Dkt. 11-11 at 2. And, under the third,
Keating granted Jonita Carter a security interest in (1) the
shares that she transferred to him, (2) “all earnings
attributable to th[ose] shares, ” and (3) “all
proceeds attributable to the [s]hares.” Dkt. 11-12 at
parties anticipated that the profits Urban Systems would earn
on the Grit Contract would be sufficient to pay the Carters
the amounts due under the agreements described above.
According to Keating, however, that expectation-and, in
Keating's view, Carter's representations about the
profitability of the contract-did not meet with reality. The
parties differ about why this came to pass, but, for purposes
of the Carters' motion for summary judgment, the Court
must accept Keating's version of events. He points to a
variety of factors.
Keating asserts that the wage, payroll tax, and employee
benefit cost projections set forth in the spreadsheet that
Carter gave him were inaccurate because they accounted for
only one driver, even though “[i]t t[ook] two to three
people to make the contract work to the satisfaction of D.C.
Water.” Dkt. 20 at 119. Previously, Carter had used
personnel from his other company, Carter & Carter Inc.,
to “supervis[e] and assist on the Urban contract,
” but that labor cost was not reported in the
spreadsheet. Id. at 144. Keating testified that he
needed to spend “double” the amount projected in
the spreadsheet on wages-about $140, 000 in wages per year-in
addition to incurring increased payroll taxes and benefits.
Id. at 120-21.
Keating contends that delivering the services required under
the Grit Contract required more equipment than the company
owned, resulting in additional expenses that were not
included in the spreadsheet. When Keating acquired Urban
Systems, it owned one vehicle, but, according to Keating, the
company needed two vehicles to deliver the required
services-“one that's running” and “one
as a backup.” Id. at 121-22; see also
Id. at 143 (“We needed additional equipment,
because the equipment we had wasn't sufficient to do the
job.”). This, in turn, raised the company's
insurance costs. Id. at 121-22. The equipment that
Urban Systems did have, moreover, was ...