ALFRED J. JENNINGS, JUDGE.
This case is a statutory proceeding pursuant to Conn. Gen. Stat. § 52-422 seeking an order pendente lite in aid of an arbitration of a commercial dispute between the parties, currently pending under the auspices of the American Arbitration Association. Section 52-422 provides:
At any time before an award is rendered, pursuant to an arbitration under this chapter the superior court . . . upon application of any party to the arbitration, may make forthwith such order or decree, issue such process, and direct such proceedings as may be necessary to protect the rights of the parties pending the rendering of the award and to secure the satisfaction thereof when rendered and confirmed.
The specific order sought by the plaintiffs is a prejudgment remedy of attachment or garnishment of the Connecticut assets of the three limited liability company defendants and of the two individual defendants to secure a claim in the amount of $21,635,751. The arbitration demand, filed simultaneously with the commencement of this action in November 2007 asserts claims of (a) breach of contract, (b) breach of fiduciary duty, (c) conversion, (d) civil theft, and (e) imposition of a constructive trust. The court heard evidence on July 8 and 9, 2008. To understand the issues presented by this application, a brief review of the factual background is appropriate.
Findings of Fact
The following facts are found by the court. The defendant CRT Capital Group, LLC (the "Company") is a Connecticut limited liability company CT Page 12905 engaged in business in Connecticut and elsewhere at relevant times as a regulated broker-dealer (buying and selling securities, proprietary trades, and investment banking) and as an asset manager. Prior to July 2005 the Company was owned by four member-investors: CRT Principals (current and former professional employees); CRT Investors (outside investors), the defendant C. Michael Vaughn, Jr. ("Vaughn"), and the defendant J. Christopher Young ("Young"). The Company currently has about 145 employees, 135 located at its Stamford office. It is governed under the provisions of its Fourth Amended and Restated Operating Agreement of July 1, 2005 (Exhibit A) under which Vaughn and Young are designated as (and continue to be) the "managing members" who are charged with making the "ordinary and usual decisions concerning the business affairs of the Company" (Ex. A, § 6.1). In July 2005, the plaintiff Savanna Investors, LLC ("Savanna"), a Delaware limited liability company located in Chicago, owned and controlled by the Thomas H. Dittmer Trust, became an investor in the Company and the fifth member of the Company by virtue of an investment of $25,000,000 into the Company. Savanna became a signatory to the Operating Agreement at the time its investment by signing an "Admission Agreement" dated as of July 1, 2005 (Ex. B.) The Operating Agreement contains a provision (Ex. A, § 16.5) mandating binding arbitration (following informal and then formal mediation efforts) of any and all disputes arising under the agreement. Arbitration is to be administered by the American Arbitration Association ("AAA") and decided by a panel of three arbitrators consisting of two party-appointed arbitrators and a third arbitrator appointed by those two. All arbitrators are to be "disinterested person[s] having reasonable knowledge and experience relative to the subject to be arbitrated." The Operating Agreement also has provisions that ". . . no Member shall have the right to withdraw or be repaid any Capital Contribution except as provided in this Agreement" (§ 7.2) and that, except for quarterly distributions of current net profits (§ 9.3(a)), all distributions of assets to members up to the amount of the members entire capital account balance, shall be "in such amounts and at such times as determined by a Majority of Managing Members in its sole discretion." (§ 9.3(b) though (g).) Section 9.3(h) stipulates that "[a]ny such distribution shall be contingent on the Company's net capital compliance status at the time of such distribution (as computed in accordance with 17 CFR 240.15c3-1)." Under Section 12.1, the right of any member to dissociate from the Company without the approval of a majority of the managing members is limited to the happening of certain specified events (bankruptcy, death, or an adjudication of incompetence of a member, etc.) which did not occur. There is a specific provision which permits Savanna to dissociate by giving notice within 180 days of the death of Thomas H. Dittmer, which also did not occur.)
In December 2006 the Company was reorganized to split its lines of business into separate entities. The defendant CRT Capital Holdings, LLC was organized in Delaware to be the holding company for CRT Capital Group, LLC, the broker-dealer, and the defendant Harbor Drive Asset Management, LLC, the asset manager.
The sole grantor, trustee and beneficiary of the Thomas H. Dittmer Trust is Thomas H. Dittmer, who had retired in 1999 as the chairman of the Refco Group, a commodities brokerage firm which he had co-founded.
CT Page 12906 On January 5, 2006 the managing members of the Company issued a letter to its members (Ex. C) advising of a need to restate its financial statements due to an error in the books and records of the Company which resulted in its profit and loss statements failing to reflect an aggregate loss of approximately $6.75 million from late 2003 through December 2005. Savanna had reviewed and relied upon the erroneous profit and loss statements as part of its due diligence in deciding to invest in the company. This led to discussions between Mr. Dittmer of Savanna and the managing members of the Company in the first few months of 2006 about Savanna possibly wanting to withdraw its investment from the Company, but also certain changes in the form of goals and objectives that Dittmer thought the Company should strive to achieve. Following discussions and an exchange of emails involving counsel for Savanna (but not counsel for the Company), the parties entered into a certain letter agreement of March 30, 2006 (Ex. G) (The "Letter Agreement") whereby the Company agreed that it planned to implement seven certain goals and objectives which were spelled in an attachment to the agreement, and that:
If Savanna Investors LLC ("Investor") is not satisfied, in its sole and absolute discretion, with the implementation of the Objectives by December 31, 2006, then, upon written request from the Investor within 30 days thereafter, the Company agrees to use its best efforts to return to the Investor as soon as possible the balance in the Investor's Capital Account. (Ex. G, ¶ 1.)
The consideration for the foregoing agreement was Savanna's agreement that it would continue as a member of CRT (the Company) and not to request a withdrawal of its capital account due to the restatement of the Company's financial statements. (Ex B "Release" attached to the Letter Agreement, Ex. G.) Nine months later, on January 2, 2007 Savanna issued its timely letter of January 2, 2007 to the Company advising that, pursuant to the provisions of the Letter Agreement, ". . . the Investor hereby requests that the Company use its `best efforts' to return to the Investor as soon as possible the balance in the Investor's Capital Account." The balance in Savanna's capital account as of December 31, 2006 was $21,385,751. To this date the Company has failed to return to Savanna any part of that capital account balance. The arbitration and this action in aid of arbitration were commenced in November 2007. Other findings of fact will be made as necessary in the following section of this memorandum of decision.
Discussion and Conclusions of Law CT Page 12907 A. Claims against the Company
The parties have now engaged in three rounds of briefing. Much advocacy has been expended about the meaning of "best efforts" in the context of this case, the SEC Net Capital Rule referenced in the Operating Agreement, whether or not the Company was obliged to refund Savanna's investment without having lined up replacement investor(s) to take out the interest of Savanna, and whether or not the Company has in fact used its "best efforts" to refund Savanna's investment. The court does not reach those issues, however, because, with the exception of plaintiff's request to attach half the proceeds of a home in Norwalk jointly owned by defendant Vaughn and his wife which is scheduled to be sold at a closing scheduled for July 31, 2008, the court concludes that the plaintiff has failed to satisfy the statutory "necessity" requirement of § 52-422 for the issuance of an order for pendente lite relief in aid of a currently pending arbitration proceeding.
In New England Pipe Corporation v. Northeast Corridor Foundation et al., 271 Conn. 329 (2004), the parties were engaged in an arbitration concerning the allocation of liability for a settlement of a personal injury action in which the arbitrating parties had all been defendants. The plaintiff New England Pipe sought an injunctive order of the Superior Court pursuant to § 52-422 which would prevent the enforcement of a ruling of the arbitration panel requiring all parties to make disclosures of their expert witnesses in accordance with the rule of Practice Book § 13-4. The trial court had dismissed the petition for lack of subject matter jurisdiction. The Supreme Court disagreed, and held there was jurisdiction to hear the petition, and then addressed the substantive issue of whether or not the plaintiff was entitled under the statute to the relief it sought. Focusing on the statute's requirement that the court ". . . may make forthwith such order or decree, issue such process, and direct such proceedings as may be necessary to protect the rights of the parties pending the rendering of the award and to secure the satisfaction thereof when rendered and confirmed" (emphasis added), the Supreme Court, in the absence of a statutory definition, went to and adopted the dictionary definition of the term "necessary": "Webster's New International Dictionary defines the term `necessary' as `[something] that cannot be done without: that must be done or had: absolutely required: essential, indispensable . . .'" 271 Conn. at 336. Applying that definition to the dispute at hand the Supreme Court concluded that enjoining the discovery order of the arbitration panel was not "absolutely required" to protect the plaintiff's rights during the pendency of the arbitration, and remanded the case with directions to enter judgment for the defendants on the merits of the plaintiff's claim CT Page 12908 for injunctive relief. In so doing, the Court made it clear that the "necessity" requirement of § 52-422 encompassed more than just a necessity to protect or secure the arbitration petitioner's claim, but is also firmly grounded in the strong public policy favoring arbitration which itself is grounded in the strong public policy of freedom to contract, and that judicial intervention in pending arbitration proceedings is therefore limited to situations of extraordinary circumstances:
The fact that the legislature has authorized judicial intervention under § 52-422 only under extraordinary circumstances is fully consistent with, if not mandated by, the strong public policy favoring arbitration. Arbitration is [a] favored [method of dispute resolution] because it is intended to avoid the formalities, delay, expense and vexation of ordinary litigation.
(Citation and internal quotation marks omitted.) 271 Conn. at 337. It is true, as defendants point out, that New England Pipe involved an arbitration discovery dispute and this case involves an application for prejudgment remedy which is governed by its own statutory probable cause criteria in Conn. Gen. Stat. § 52-278(d). But there is nothing in § 52-422 or the Supreme Court opinion that differentiates between an application for prejudgment remedy in aid of arbitration or any other pendente lite order in aid of arbitration. The probable cause upon hearing requirement of § 52-278(d) continues to be the evidentiary standard for granting any prejudgment remedy in conjunction with a plenary case or any statutory proceeding such as the instant case. Indeed, it is constitutionally required. Connecticut v. Doehr, 501 U.S. 1 (1991). But when the prejudgment remedy is sought in aid of arbitration, there is additionally a threshold requirement of necessity which New England Pipe defines to include a component of necessity for judicial intervention into the domain of the preferred forum — the arbitration panel. That requirement was clearly articulated by the New England Pipe court:
Section 52-278(d) provides, in part: "The defendant shall have the right to appear and be heard at the hearing [on the plaintiff's application for prejudgment remedy]. The hearing shall be limited to a determination of (1) whether or not there is probable cause that a judgment in the amount of the prejudgment remedy sought, or in an amount greater than the amount of prejudgment remedy sought, taking into account any defenses, counterclaims, or setoffs will be rendered in the matter in favor of the plaintiff . . ."
Unless a party to an arbitration proceeding affirmatively can establish that its rights will be lost irretrievably in the absence of judicial intervention, permitting that party to obtain interlocutory judicial review of an unfavorable ruling by an arbitration panel would seriously undermine the essential purpose of arbitration, namely, to avoid the expense and delay of litigation.
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271 Conn. at 337.
The post- New England Pipe jurisprudence on this point has primarily developed in the federal courts applying Connecticut law. The inconsistency of the required "irretrievable loss" of rights without judicial intervention with the arbitration panel's power and authority to grant or preserve those rights became clear in Bahrain Telecommunications Co. v. Discoverytel, 476 F.Sup.2d 176 (D.Conn. 2007), where, as here, the plaintiff was seeking a prejudgment remedy in aid of a pending arbitration. The defendant moved to dismiss the petition without an evidentiary hearing for lack of jurisdiction to entertain the petition, arguing inter alia that the petitioner could not satisfy the § 52-422 burden of showing that its rights would be lost irretrievably in the absence of judicial intervention because the rules of the tribunal administering the parties' arbitration, the London Court of International Arbitration, expressly grant the arbitrator the power to order any party to provide security for all or part of the amount in dispute. Although he characterized the defendant's arguments as "substantial," 476 F.Sup.2d at 185, Judge Kravitz denied the motion to dismiss, permitting the plaintiff to proceed to a hearing, saying:
The plaintiff has cited several Superior Court decisions where petitions for prejudgment remedies in aid of arbitration have been granted solely upon satisfaction of the probable cause requirement of Conn. Gen. Stat. § 52-178(d). Some of those cases were decided prior to the 2004 decision in New England Pipe. In the post- New England Pipe decisions, the requirement of necessity under § 52-422 is simply not raised or discussed. See, e.g., Viggianno v. Yuscano-Moss, Docket No. CV05-4003880S, Superior Court, Judicial District of Middlesex at Middletown (November 22, 2005, Bear, J.) (2005 Conn.Super.LEXIS 3179), and Twin Lakes Indoor Tennis, LTD v. Twin Lakes, Inc., Docket No. CV07-4011311S, Superior Court, Judicial District of Stamford/Norwalk at Stamford (December 26, 2007, Karazin, J.) (2007 Conn.Super.LEXIS 3455).
. . . [T]his court cannot conclude on the present record that Batelco [the petitioner] will be unable to satisfy the standard for relief under § 52-422. Batelco may be able to establish that the circumstances it is facing are indeed extraordinary, that the Arbitrator has no power to effectively attach or affect assets of defendants that reside in Connecticut or outside London, that the arbitrator has indicated an unwillingness to act or act promptly, or that other circumstances exist that make it essential or necessary for this court to act to protect Batelco's rights.
476 F.Sup.2d at 186.
The plaintiff relies on Metal Management, Inc. v. Schiavone, 514 F.Sup. 227 (D.Conn. 2007), where Judge Bryant denied a motion to dismiss an application for a prejudgment remedy and order pendente lite to secure the petitioner's rights under a pending arbitration between the parties, concluding under the particular circumstances of that case that the requested prejudgment remedy was necessary as defined by New England Pipe, in that the petitioner's ability to collect on a potential award might very well be "lost irretrievably" absent a prejudgment remedy. The CT Page 12910 distinguishing feature of Metal Management, decided on a motion without an evidentiary hearing, is that there is nothing at all in the record to indicate that the arbitrators of the dispute between the parties to that case had any power or authority to enter a prejudgment remedy or any form of pendente lite relief. The arbitration clause in the Asset Purchase Agreement between the parties contained a very basic arbitration clause which committed the parties to binding arbitration of any dispute involving non-compliance with any terms of the agreement but did not specify any arbitration tribunal to administer the proceedings or any rules of arbitration to govern. The lack of any indication of access to interim relief from the arbitrators is evident in the court's decision:
Should [plaintiffs] be forced to wait for a final arbitral award and possible subsequent enforcement action before asserting their claim [of security against the assets of the defendant], any creditor getting in the collection line before the plaintiffs would have priority over their claims. In that event, the plaintiffs' right to collect could likewise be lost irretrievably.
514 F.Sup.2d at 236.
If interim arbitral relief were shown to be available under a governing set of rules of arbitration procedure, the plaintiffs obviously would not have had to "wait for a final arbitral award" to secure their claims, and they would have suffered no "irretrievable loss" of their rights. The clear implication is that judicial intervention would not have been found to be "necessary" if there were a tribunal with powers to enter interim relief orders and prejudgment remedies.
The court finds in this case, after a two-day hearing, that the factors found to be missing and requiring a hearing in Bahrain, are not missing from this case and have been established by the evidence. This is a Connecticut arbitration scheduled to be held in Stamford, brought against a Connecticut LLC having its primary office in Stamford where about 93% of its 145 employees work. The individual defendants who manage the Company are both Connecticut residents who own homes and other real property in Connecticut. This arbitration is being conducted under the AAA Commercial Arbitration Rules. Rule 34 ("Interim Measures") provides in part (a) that "The arbitrator may take whatever interim measures he or she deems necessary, including injunctive relief and measures for the protection or conservation of property and disposition of perishable goods"; and in part (b) that "Such interim measures may take the form of an interim award, and the arbitrator may require security for the costs CT Page 12911 of such measures." In cases such as this where there has been delay in appointing the full panel of arbitrators, Rule 13 gives the AAA the power, after certain deadlines have passed to appoint the third arbitrator/chairperson. The Optional Rules, Rule 0-2 gives the AAA the power at the request of a party demonstrating need for emergency relief to appoint a single emergency arbitrator from a special AAA panel of emergency arbitrators designated to rule on emergency applications who may, following an expedited hearing under Rule 0-3 enter an interim award granting emergency relief. The court also finds, relevant to the issue of necessity for judicial intervention into the arbitration process, that the plaintiff, with the consent of the defendants, has already obtained through this litigation substantial pendente lite relief and security in the form of the "Order Modifying Temporary Restraining Order" (No. 108.10) entered by Judge Karazin on November 29, 2007 shortly after this action was commenced. That order which is to remain in effect "pending hearing and determination of Savanna's applications for prejudgment remedy and for temporary injunctions" enjoins the defendants "(a) . . . from using, reducing, diminishing, transferring, disposing of, and/or in any respect dissipating the sums contained in and representing Savanna's capital in CRT Capital Group, LLC; and requires CRT Capital Group, LLC "(b) . . . to hold, preserve, and maintain inviolate, for Savanna's benefit, the sum of $21,635,751." The order furthermore froze plaintiff's capital account in the Company ". . . at its historic September 30, 2007 level of $14,044,871 so that no gains or losses sustained after that date shall be allocated to plaintiff's capital account"(¶ (d)). Since this court today has not "determined" plaintiff's applications on the merits but has, in effect, referred them to the arbitration panel for determination, the injunction and mandates ordered by Judge Karazin on November 29, 2007 shall remain in effect until such determination. The court is also mindful that the plaintiff's applications for prejudgment remedy and temporary injunction were first scheduled to be heard on December 10, 2007, just about seven months prior to the actual hearing days before the undersigned on July 8 and 9, 2008. If there were a genuine "extraordinary circumstance" necessity for judicial intervention and pendente lite relief, it would seem that the plaintiff would not have consented to continuances of the hearing date or would have moved in some fashion for a hearing on an expedited schedule. "Delay of this nature [9-month delay in seeking preliminary injunctive relief] undercuts the sense of urgency that ordinarily accompanies a motion for preliminary relief and suggests that there is, in fact, no irreparable injury." GTE Corp. v. Williams, 731 F.2d 676, 678 (10 Cir. 1984).
In light of the availability of arbitral relief pendente lite under the AAA Commercial Arbitration Rules, and the foregoing findings, the court concludes that the plaintiff has failed to make the requisite CT Page 12912 showing under § 52-422 and the rule of New England Pipe that this case presents an extraordinary situation calling for judicial intervention in the arbitration process or that plaintiff's rights to security in the assets or property of the defendant Company would be irretrievably lost by having to present those claims for interim relief to the arbitration panel which is under Connecticut public policy the preferred tribunal to handle them. Accordingly, the plaintiff's petition for prejudgment remedy and associated injunctive relief against CRT Capital Group, LLC (and the other LLC defendants) is denied.
B. Claims against the Individual Defendants
Plaintiff further requests a prejudgment remedy of attachment or garnishment against assets or property of the individual defendants Young and Vaughn to secure its claim in arbitration that they have violated fiduciary duties as managing members of the Company owed to the plaintiff as a passive investor in the Company. With one exception noted below, the Court's findings and conclusions in Part A, above, applicable to plaintiff's claims against the Company and the other LLC defendants, apply equally to plaintiff's claims against Vaughn and Young, and the applications to garnish or attach their properties are similarly denied.
The one exception is the application to attach or garnish one-half of the net proceeds of sale of the home at 13 Rocky Point Road in Norwalk, owned jointly by defendant Vaughn and his wife. Since that property is under contract to be to be sold at a closing scheduled for tomorrow, July 31, 2008, there is a "necessity" for judicial intervention. The only issue, then, is whether or not the plaintiff has met its burden of showing probable cause on its claim of breach of Vaughn's fiduciary duties to the plaintiff. The specific claim briefed is that Vaughn as a managing member of the Company withdrew from his own capital account at all relevant times the minimum sum of $50,000 per month while at the same time making no refund at all to plaintiff following the January 2, 2007 letter from Savanna to the Company triggering the "best efforts" obligation of the March 30, 2006 Letter Agreement to refund Savanna's capital account balance "as soon as possible." Plaintiff argues that defendant Vaughn has acknowledged that he has fiduciary obligations to Savanna by virtue of the statement in Defendants' Post-Hearing Brief of July 16, 2008 at page 27 that "Savanna offered no evidence that Vaughn or Young breached their fiduciary obligations as managing members." Since the defendants are bound by that statement, and Connecticut law supports the general proposition that a general partner owes fiduciary obligations to the limited partner (a relationship at least comparable to that of a managing member and a passive investor member of a limited liability company — see Conn. Gen. Stat. § 34-141 imposing on an LLC manager the CT Page 12913 obligation to "discharge his duties in good faith, with the care an ordinary prudent person in a like position would exercise . . .) the court will limit its analysis to whether or not there is probable cause to find a breach of those fiduciary duties.
This is not the same factual claim of breach of fiduciary obligation pleaded in the demand for arbitration, Count III, but the plaintiff bases this current claim at least in part on Mr. Vaughn's and Mr. Young's testimony at the hearing on July 9, 2008, and presumably intends to seek to amend the arbitration demand to include this claim. Since this is the claim briefed by the parties, the court will address it herein.
See, Konover Development Corp. v. Zeller, 228 Conn. 206, 220 (1994) ("The court properly charged the jury with respect to the general principles of the fiduciary duty that the plaintiff [general partner] owed to the defendant [limited partner] . . .").
The "probable cause" standard of Conn. Gen. Stat. § 52-278(d) has been held to require . . . "a bona fide belief in the existence of the facts essential under the law for the action and such as would warrant a man of ordinary caution, prudence, and judgment under the circumstances, in entertaining it." Three S Development Co. v. Santore, 193 Conn. 174, 175 1984). The fiduciary duties of a general partner [applied here to the comparable position of an LLC manager] were described in Konover Development, supra, footnote 6, as comparable to those of a trustee ". . . who must act honestly and with the finest undivided loyalty to the trust, and not merely with that standard of honor required of men dealing at arm's length and the workaday world, but with a punctilio of honor the most sensitive." Here, the defendant managers have taken from their own capital accounts in the Company, from January 2, 2007 to date some $900,000 each while permitting the plaintiff to withdraw absolutely nothing from his capital account despite an acknowledged contractual obligation to use their best efforts to refund his full $21,385,751 as soon as possible. Even though the managers justify their withdrawals as authorized under the operating agreement, and taken in lieu of salaries to which they would otherwise be entitled, the plaintiff also has a bona fide belief supported by evidence that the defendants were causing the company to breach its contractual obligations to him under the March 30, 2006 Letter Agreement while simultaneously causing the company to honor its contractual obligation to let them withdraw $50,000 per month from their own capital accounts. Without deciding the merits of defendant's claim that their "best efforts" obligation meant best efforts to find a replacement investor (which shall be left to the arbitrators to decide), the contract on its face does not say that, and plaintiff is entitled at least to maintain a bona fide belief that best efforts were not being used, and that the managers were engaging in self preference inconsistent with the honesty and undivided loyalty required of a trustee.
For these reasons the court finds that there is probable cause to support the request to garnish or attach Mr. Vaughn's one-half of the net proceeds of sale of the house at 13 Rocky Point Road, Norwalk, Connecticut and the court is simultaneously herewith signing an order granting that limited prejudgment remedy. Although Mr. Vaughn testified generally about taxes that will be assessed against him for the capital gain he will accrue upon the sale of this house, there was no calculation or estimate of what those taxes might come to. In any event they are not actually payable on the date of sale, and Mr. Vaughn may have losses from other CT Page 12914 transactions to offset the gain on the house. No allowance has been made for capital gains taxes in calculating the "net" proceeds of sale.
The court grants the application to garnish those net proceeds without bond to be posted by the plaintiff.
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