U.S. District Court, Maryland Case Summaries: October 30, 2011 [Daily Record, The (Baltimore, MD)]

Civil Procedure

Discovery deficiencies

BOTTOM LINE: Plaintiff's motion to compel discovery was denied because plaintiff failed to follow FRCP 37 or the local discovery rules before filing his motion with the court.

CASE: Anderson v. Reliance Standard Life Insurance Co., No. WDQ- 11-1188 (decided Oct. 11, 2011) (Judge Grimm).

FACTS: On Oct. 3, 2011, Brian Anderson filed a motion to compel discovery, pursuant to FRCP 37. Anderson informed the court that he had served interrogatories and requests for production of documents on Reliance Standard Life Insurance Co. who provided incomplete and evasive responses to Anderson's discovery requests.

The district court denied Anderson's motion without prejudice to re-filing the motion, in compliance with the rules, if the discovery conflicts remain after the parties made sincere attempts to resolve them.

LAW: Litigants have an obligation to cooperate with respect to planning and executing discovery or resolving discovery disputes. See Mancia v. Mayflower Textile Servs. Co., 253 F.R.D. 354, 357-58 (D.Md.2008). See Guideline 1.a of the Discovery Guidelines for the United States District Court for the District of Maryland, D. Md. Loc. R.App. A (July 1, 2011).

A party cannot file a motion to compel without first working cooperatively with the other party to resolve the dispute. See FRCP 37(a)(1); Loc. R. 104 .7; Guideline 1.a. Specifically, a party must either confer with the other party and make "sincere attempts to resolve the differences between them," or make a sincere effort to confer that the other party rebuffs. Loc. R. 104.7; see FRCP 37(a)(1).

Attorneys "are expected to communicate with each other in good faith throughout the discovery process to resolve disputes without the need for intervention by the Court, and should do so promptly after becoming aware of the grounds for the dispute." Guideline 1.e; see Kemp v. Harris, 263 F.R.D. 293, 297 (D.Md.2009). Counsel "may bring unresolved discovery disputes to the Court's attention for resolution by filing a letter, in lieu of a motion, that briefly describes the dispute, unless otherwise directed by the Court." Guideline 1.e.

When the time is ripe to file a motion to compel, a certificate attesting to the conference -- or "counsel's attempts to hold such a conference without success" -- must accompany the motion. Loc. R. 104.7; see FRCP 37(a)(1).

Anderson neither filed a certificate nor suggested that he made any effort to communicate with Reliance about the deficiencies in Reliance's discovery responses.

Moreover, when a party asserts that the opposing party provided substantially inadequate discovery responses, the party must follow the procedures set out in Local Rule 104.8; Jayne H. Lee, Inc. v. Flagstaff Indus., 173 F.R.D. 651, 655 (D.Md.1997).

As one facet of the duty to cooperate, Local Rule 104.8 requires that the parties try to resolve disputes regarding the adequacy of discovery responses informally, without involving the court. Loc. R. 104.8.b. If the informal communications do not resolve the dispute, the requesting party may serve a motion to compel on the opposing party (not the court), receive a response, and serve a reply. Loc. R. 104 .8.a-b. Only after this exchange may the requesting party file the papers with the court, and only if the dispute still remains despite the parties' sincere efforts to resolve it. Loc. R. 104.8.c.i. At that time, "the party seeking to compel discovery shall file the certificate required by L.R. 104.7, and shall append thereto a copy of the motion and memoranda previously served by the parties under L .R. 104.8.a." Id.

Anderson filed his motion directly with the court, unaccompanied by the required certificate or Reliance's response. Therefore, the issue of whether Reliance's responses were complete and non- evasive, as required by FRCP(a)(4), was not ripe for decision.

While Anderson's motion was not a model of clarity, Reliance's responses were largely boilerplate objections. Boilerplate objections are expressly prohibited by FRCP 33(b)(4), which provides that "[t]he grounds for objecting to an interrogatory must be stated with specificity." See also Loc. R. 104.6.

Moreover, objections to discovery, including Rule 33 interrogatories and Rule 34 document production requests, must be specific, non-boilerplate, and supported by particularized facts where necessary to demonstrate the basis for the objection. Hall v. Sullivan, 231 F.R.D. 468, 470 (D.Md.2005); Thompson v. U.S. Dep't of Hous. & Urban Dev., 199 F.R.D. 168, 173 (D.Md.2001). "[F]ailure to do so may constitute a waiver of grounds not properly raised." Hall, 231 F.R.D. at 474.

Additionally, in some instances, Reliance asserted privilege without particularizing its assertion. Objections based on attorney- client privilege or the work product doctrine must be particularized. FRCP 26(b)(5). The failure to do so to be a waiver of the privilege or work product protection. Victor Stanley, Inc. v. Creative Pipe, Inc., 250 F.R.D. 251, 267 (D.Md.2008).

Accordingly, the district court ordered all counsel to conduct discovery in accordance with the principles set forth in Mancia, 253 F.R.D. at 358, which includes an obligation to cooperate during the conduct of discovery, as well as to limit the cost of discovery so that it is proportional to what is at issue in the case.

COMMENTARY: If an emergency discovery dispute arises that counsel cannot resolve, despite good faith efforts to do so, the court ordered counsel to follow the procedure adopted in July 2010. A dispute is only an emergency if failure to address it immediately will result in substantial burden, expense, or prejudice.

Counsel must make good faith attempts to resolve the dispute themselves. If counsel cannot resolve the dispute, they should notify the judge and demonstrate why the matter is an emergency and that they have made good faith efforts to resolve it.

PRACTICE TIPS: If a party refuses to provide discovery on the basis of attorney--client privilege or work product immunity, and if providing separate designations for each document in the privilege log would be excessively burdensome or expensive, the party may designate categories of documents instead, provided that each document in the category is within the privilege or protection claimed and shares common characteristics with the others in the category. Guideline 10.d.iii, iv.

Civil Procedure

Discovery sanctions

BOTTOM LINE: Where defendants in a products liability suit served plaintiffs' counsel with written requests for interrogatories and production of documents, agreed to plaintiffs' request for an extension of time, made repeated attempts over ensuing months to obtain the materials, and then filed a motion to compel discovery and impose sanctions on plaintiffs for discovery violations, the motion to compel was rendered moot by plaintiffs' subsequent production of the responses, but the motion to impose sanctions was granted.

CASE: Windsor v. Spinner Industry Col, Ltd., Civil No. JKB-10- 114 (filed Oct. 6, 2011) (Judge Bredar).

FACTS: Plaintiffs, Robert and Diana Windsor and their child, Tyler, filed suit against Defendants Spinner Industry Co. Ltd., Raleigh America, Inc., Dick's Sporting Goods, Inc., J & B Importers, Inc., and Joy Industrial Co., Ltd. for breach of contract, negligence, products liability, and breach of warranty. The case arose from alleged defects in the design, manufacture, or assembly of a bicycle purchased by the Plaintiffs, which, they alleged, caused the bicycle's front wheel to dislodge while they were riding it, resulting in injuries, and that each of the Defendants was involved in the design, manufacture, assembly, or sale of the bicycle or its components.

Defendants alleged that on Sept. 7, 2010, they served the Plaintiffs' counsel with written requests for interrogatories and production of documents. Although Plaintiffs' responses would ordinarily have been due within 30 days, Plaintiffs' counsel requested an extension of this deadline to Jan. 1, 2011, and Defendants agreed. However, according to Defendants, as of Jan. 19, 2011, Plaintiffs still had not responded to their discovery requests. Defendants' counsel therefore sent a letter to Plaintiffs' counsel inquiring about the status of the requests.

By April 5, 2011, Plaintiffs still had not responded either to the discovery requests or to the correspondence from Defendants' counsel. Defendants therefore renewed their discovery requests. After Defendants mailed their renewed requests, Plaintiffs' counsel telephoned Defendants' counsel and explained that his paralegal was in the process of completing Plaintiffs' responses, which would be forthcoming within a few weeks. However, Defendants alleged that as of Aug. 19, 2011, they had still not received the requested discovery responses, and that, in addition, they had not received Plaintiffs' Rule 26(a)(2) expert disclosures, which were due on July 18, 2011.

In August 2011, Defendants Raleigh America and Dick's Sporting Goods filed the motion now before the Court, seeking an order compelling Plaintiffs to respond to their discovery requests and imposing sanctions on Plaintiffs for alleged violation of their discovery obligations. Several days later, on Aug. 24, 2011, Plaintiffs moved for leave to file their Rule 26(a)(2) disclosures out of time, explaining that they had been preoccupied with complicated service and discovery problems relating to two foreign defendants and had inadvertently neglected to seek an extension of discovery deadlines. The Court granted this motion.

On Sept. 7, 2011, Plaintiffs filed a response to the instant motion. In it, Plaintiffs' counsel apologized to the Court and to Defendants, and averred that Plaintiffs would, that day, be serving complete responses to the discovery referenced in the Defendants' motion to compel. Following Plaintiffs' response, more than 17 days elapsed, and Defendants did not file a reply.

The district court granted in part and denied in part Defendants' Motion for Sanctions and to Compel Discovery.

LAW: Federal Rule of Civil Procedure 37(a) authorizes the basic motion for enforcing discovery obligations. CHARLES ALAN WRIGHT, ET AL., 8B FED. PRAC. & PROC. CIV. [section]2285 (3d ed.1998). Among other things, where a party has failed to make its required Rule 26(a) disclosures or to respond to properly served interrogatories or requests for production of documents, the Rule allows the opposing party to move for an order compelling the disclosure or response. Fed.R.Civ.P. 37(a)(3). The moving party must certify in the motion that it has conferred, or attempted to confer, in good faith with opposing counsel in an effort to obtain the desired material without court involvement. Fed.R.Civ.P. 37(a)(1).

District courts enjoy substantial discretion in managing discovery, including granting or denying motions to compel. Lone Star Steakhouse & Saloon, Inc. v. Alpha of Virginia, Inc., 43 F.3d 932, 929 (4th Cir.1995). If a court grants a motion pursuant to Rule 37(a), it generally must require the party whose conduct necessitated the motion to pay the reasonable costs incurred by the moving party, including attorney's fees. Fed.R.Civ.P. 37(a)(5). Thus, in this case, it was appropriate to award Defendants their attorneys' fees and costs in connection with the efforts to obtain responses to their discovery requests. Plaintiffs' counsel was not entitled to make his opponents chase him for months in order to obtain discovery which the Rules clearly entitled them to receive.

Further, dilatory conduct during the discovery process only makes the litigation process less efficient and more expensive. Imposition of sanctions would mitigate the expense unfairly imposed on Defendants, and could serve to deter Plaintiffs and their lawyers from similar foot-dragging in the future.

Accordingly, the Court granted Defendants' motion for sanctions.

COMMENTARY: Defendants' motion was, in large part, mooted by developments subsequent to its filing. The issue of Plaintiffs' Rule 26(a)(2) disclosures was mooted in its entirety by the Court's granting of Plaintiffs' motion for leave to file the disclosures out of time and the Court's finding that Defendants would not be prejudiced thereby. Further, Defendants' motion to compel Plaintiffs' responses to their other discovery requests was moot because Plaintiffs' counsel represented that he had since served the responses, and Defendants made no claim to the contrary despite ample opportunity to do so.

For these reasons, the Court denied as moot the part of Defendants' motion relating to Plaintiffs' Rule 26(a)(2) disclosures and the motion to compel Plaintiffs' response to Defendants' interrogatories and requests for document production.

PRACTICE TIPS: Even if a court grants a motion to compel discovery responses pursuant to Federal Rule of Civil Procedure 37, the court may not order payment of the reasonable costs incurred by the moving party if the moving party failed to confer in good faith with opposing counsel before filing the motion, if the opposing party's non-cooperation was substantially justified, or if ordering the payment would be otherwise unjust.

Civil Procedure

Untimely motion to dismiss

BOTTOM LINE: Bankruptcy court did not err in denying defendant's untimely motion to dismiss for failure to state a claim, which was filed after defendant filed his answer to plaintiff's complaint, even though bankruptcy judge noted in his opinion that plaintiff's complaint did not contain sufficient factual matter to state a claim plausible on its face sufficient to meet the pleading test.

CASE: Stevens v. Showalter, LLC, Civil No. PJM 11-060 (filed Aug. 30, 2011) (Judge Messitte</person>).

FACTS: In late 2004, Stephen Stevens and Stephen Showalter entered into a contract, whereby Stevens agreed to purchase Showalter's ownership interest in two corporations, Building Specs, Inc. and Building Specs of Annapolis, Inc., for the price of $1,000,000. Pursuant to the agreement, Stevens was to pay $50,000 at the time of contract formation, an additional $250,000 by Jan. 15, 2005, and the remaining balance of $700,000 over an agreed-upon timeframe. The money owed was secured by a promissory note and a deed of trust on real property owned by Stevens in Upper Marlboro, Maryland.

The contract also included a stock pledge agreement for the two companies, a life insurance policy for the benefit of Showalter, and UCC financing statements to secure the amount owed. Stevens eventually defaulted under the terms of the note. On Oct. 29, 2008, Showalter entered a confessed judgment against Stevens in a Maryland circuit court in the amount of $854,514.

On Jan. 5, 2009, Stevens filed for Chapter 13 bankruptcy protection in Bankruptcy Court. He subsequently moved to convert the case to Chapter 7. On Dec. 18, 2009, Showalter instituted an adversary proceeding against Stevens in the Bankruptcy Court, in which he appeared to allege that Stevens had been unlawfully concealing or depleting assets in order to deprive Showalter and other creditors of their respective interests in the bankruptcy estate.

In the complaint he filed against Stevens in the Bankruptcy Court, Showalter alleged that Stevens had been funneling, transferring, or otherwise appropriating assets in an effort to intentionally hide, deplete, and dissipate funds in which Showalter and others held an interest. The complaint expressly invoked 11 U.S.C. [section]727, which provides, in relevant part, that a discharge shall not be granted where the debtor, with intent to hinder, delay, or defraud a creditor, has transferred, removed, destroyed, mutilated, or concealed property of the debtor, within one year before the date of the filing of the petition, or property of the estate, after the date of the filing of the petition.

Stevens filed an answer on Jan. 28, 2010. The Bankruptcy Court then issued a scheduling order, and the parties proceeded to discovery. On July 9, 2010, more than five months after he answered the complaint, Stevens filed a motion to dismiss, pursuant to Federal Rule of Civil Procedure 12(b)(6), in which he argued that Showalter's complaint was virtually devoid of factual allegations and therefore failed to comply with the requisite plausibility standard. Showalter opposed the motion, arguing that it was untimely and that, in any event, his allegations were sufficiently pled. The Bankruptcy Court denied the motion to dismiss without a hearing and without offering any explanation.

The matter later proceeded to trial, after which the bankruptcy judge issued a decision denying Stevens a discharge on the grounds that Stevens had taken numerous steps within the year preceding the filing of his bankruptcy petition to remove property from his control so as to put such property out of Showalter's reach. At the outset of his opinion, the bankruptcy judge wrote in a brief footnote that while the complaint did not contain sufficient factual matter to state a claim plausible on its face sufficient to meet the pleading test, this issue was not raised by the defendant and that, therefore, the case was tried under "the old rules" of notice pleading.

Stevens appealed to the district court, which affirmed the decision of the Bankruptcy Court.

LAW: Stevens argued that the Bankruptcy Court committed reversible error when it denied his motion to dismiss and thereby declined to dismiss Showalter's complaint for failing to meet the pleading requirements of Federal Rule of Civil Procedure 8(a)(2). Thus, the issue raised in this case was a question of law -- specifically, whether the Bankruptcy Court erred when it declined to dismiss Showalter's complaint for failure to state a claim.

The plain language of Federal Rule of Civil Procedure 12(b) establishes that a Rule 12(b)(6) motion to dismiss is untimely after an answer has been filed. However, a failure to submit a 12(b)(6) defense before pleading is not necessarily fatal because a defendant retains the right to raise the defense of failure to state a claim: (1) by filing a motion for judgment on the pleadings, pursuant to Rule 12(c), after the pleadings are closed but early enough not to delay trial; or (2) by raising the defense at trial. See Fed.R.Civ.P. 12(h)(2)(B); see also Fed.R.Civ.P. 12(h)(2)(C).

Thus, many courts have concluded that a court may construe an untimely Rule 12(b)(6) motion as a Rule 12(c) motion for judgment on the pleadings. See, e.g., Edwards v. City of Goldsboro, 178 F.3d 231, 243 (4th Cir.1999).

It is equally true that, where a plaintiff's complaint fails to state a claim upon which relief can be granted, courts routinely grant leave to amend to provide the plaintiff with an opportunity to cure the errors in his complaint. See Hayden v. Paterson, 594 F.3d 150, 161 n. 9 (2d Cir.2010). Indeed, leave to amend should be denied only when amendment would be prejudicial to the opposing party, there has been bad faith on the part of the party seeking to amend, or amendment would be futile. Matrix Capital Mgmt. Fund, LP v. BearingPoint, Inc., 576 F.3d 172, 193 (4th Cir.2009).

Further, it is undeniable that, at some point, a defendant no longer retains the right to claim that he has been prejudiced by deficiencies in a plaintiff's complaint. See Eberhardt v. Integrated Design & Constr., Inc., 167 F.3d 861, 870-71 (4th Cir.1999). After all, the primary purpose of allowing disposal of lawsuits at the motion to dismiss stage is not to foreclose meritorious claims through resort to technicalities, but rather to prevent a defendant from having to endure the time and expense of litigation in defense of a dubious claim. See Francis v. Giacomelli, 588 F.3d 186, 193 & n. 2 (4th Cir.2009).

In this case, it was beyond dispute that Stevens' motion to dismiss, which was expressly brought pursuant to Rule 12(b)(6), was presented after the filing of his answer and was, therefore, untimely. See Fed.R.Civ.P. 12(b). Stevens did not deny this fact, choosing instead to conveniently ignore it in his brief on appeal. In light of Rule 12(b)'s clear command, the Bankruptcy Court did not commit any reversible error in denying his motion to dismiss. Therefore, the Bankruptcy Court did not commit reversible error in declining to dismiss Showalter's Complaint for failure to state a claim.

Accordingly, the decision of the Bankruptcy Court was affirmed.

COMMENTARY: Even if the Bankruptcy Court had erred in denying Stevens' motion to dismiss (which it did not), any such error was harmless since Stevens suffered no prejudice as a result. Stevens at all times retained the right to raise the defense of failure to state a claim by filing a Rule 12(c) motion or by asserting the defense at trial. See Fed.R.Civ.P. 12(h)(2). He also retained the right to challenge the sufficiency of Showalter's claims by filing, at any time, a motion for summary judgment pursuant to Federal Rule of Civil Procedure 56, or by filing, at the close of Showalter's case-in-chief at trial, a motion for judgment on partial findings pursuant to Federal Rule of Civil Procedure 52(c). Given the multifarious options available to Stevens, none of which he chose to pursue, it was impossible to conclude that Stevens was in any way prejudiced by the denial of his motion to dismiss.

Furthermore, even if the Bankruptcy Court had granted the motion to dismiss, the Court would have given Showalter leave to amend his complaint, and the case almost certainly would have thereafter proceeded to the same end - namely, a final judgment in Showalter's favor.

Tellingly, Stevens did not attack the sufficiency of the evidence presented at trial, nor did he otherwise contest the merits of the Bankruptcy Court's ultimate decision. Instead, having failed to exhaust the several remedies available to him pursuant to Rules 12(c), 12(h)(2), 56, and 52(c), Stevens now asked the Court to undo the entire case, including an extensive trial on the merits, and to enter judgment in his favor. The Court, without the least hesitation, denied the requested relief.

PRACTICE TIPS: While a court considering an untimely Rule 12(b)(6) motion to dismiss may choose to construe the motion as a Rule 12(c) motion for judgment on the pleadings, there is no binding authority explicitly requiring that a court must do so, nor is there any authority demonstrating that a court's failure to do so necessitates the undoing of a trial on the merits where the defendant fails to re-assert his defense in subsequent proceedings.

Commercial Law

Small Business Investment Act

BOTTOM LINE: Pursuant to the Small Business Investment Act of 1958, the Small Business Administration possessed the authority to re-determine and subordinate the management fee of a Small Business Investment Company because the SBA held Participating Securities Leverage.

CASE: United States v. ECC Partners, L.P., Civil No. PJM 09-1973 (filed Aug. 25, 2011) (Judge Messitte).

FACTS: Pursuant to the Small Business Investment Act of 1958 (the "Act"), the Small Business Administration ("SBA") can provide financing to a Small Business Investment Company ("SBIC") through what is known as Participating Securities Leverage ("PS Leverage"). By issuing a PS Leverage instrument, the SBA becomes a Preferred Limited Partner of the SBIC.

This case involved ECC Partners L.P, a limited partnership licensed as an SBIC.

In August 2000, the SBA licensed ECC Partners' predecessor, ECentury Capital Partners, L.P., as an SBIC. Thereafter, the SBA provided ECC Partners with $39.5 million in PS Leverage and became ECC Partners' Preferred Limited Partner.

ECentury was ECC Partners' manager, pursuant to an Investment Advisory Agreement between it and ECC Partners. Under that Agreement, ECentury's management fee was to be equal to 2.5% of Combined Capital.

Among its responsibilities, the SBA monitors the operation of all SBICs, in the course of which it undertakes annual reviews of the SBIC's financial statements. In 2006, after receiving ECC Partners' financial statement for the quarter ending Sept. 30, 2006, the SBA determined that ECC Partners had a "capital impairment condition."

Accordingly, on Jan. 19, 2007, the SBA sent ECC Partners a letter directing ECC Partners to cure the impairment within 15 days, or certain described consequences would follow.

ECC Partners did not cure the condition of capital impairment as directed. Therefore, as of Feb. 5, 2007, the SBA placed ECC Partners in Restricted Operation status and reduced ECentury's management fee to 50 percent of what had been approved in the original agreement.

ECC Partners, in correspondence with the SBA, asked that the management fee be reduced by only 34%, but the SBA declined to accept this request. In July 2007, ECC Partners acknowledged that ECentury's management fee would be reduced in the amount directed by the SBA.

ECC Partners' impairment persisted, and by letter dated Feb. 4, 2008, the SBA notified ECC Partners that, effective Jan. 29, 2008, it had been transferred from restricted operation status to liquidation status.

Thereafter, in September 2008, the SBA and ECC Partners entered into a wind-down Agreement under which ECC Partners would be allowed to liquidate its assets, provided it met certain requirements established by the SBA. By September 2009, the SBA had become concerned about the ability of ECC Partners to self-liquidate and sought appointment as liquidating Receiver of ECC Partners.

The United States of America, on behalf of the SBA, filed a Complaint for Receivership and Injunction against ECC Partners L.P. The Complaint alleged that ECC Partners was violating the Act and Regulations in respect to capital requirements for SBICs of ECC Partners' type. Pursuant to 15 U.S.C. [section]687c, the SBA sought preliminary and permanent injunctive relief restraining ECC Partners, its managers, general partners, directors, officers, agents, employees, and others from making any disbursements of ECC Partners assets or otherwise using those assets.

The SBA also asked the Court to take exclusive jurisdiction over all ECC Partners' assets and to appoint the SBA as receiver of ECC Partners for the purpose of marshaling and liquidating assets and satisfying the claims of creditors as determined by the Court.

The Court granted the requested relief and appointing the SBA as ECC Partners' Receiver.

ECentury, ECC Partners' former management company, sought to recover $2,570,977 in unpaid management fees under its Investment Advisory Agreement with ECC Partners.

Eventually, the Receiver filed a Recommended Disposition of Claims and a Motion for Entry of an Order Approving the Receiver's Recommended Disposition of Claims, Authorizing Payment of Approved Claims and Establishing Summary Disposition Procedures. The Receiver recommended that $84,139 of ECentury's claim be paid immediately and that $2,486,838 of the claim be deferred and subordinated until the leverage owed the SBA as a Preferred Limited Partner was satisfied.

No objection was taken with regard to the payment of the $84,139. As to the remaining $2,486,838, ECentury filed an Opposition asking the Court to approve payment of that amount prior to the SBA's preferred limited partnership interest.

The Court approved the recommended disposition, subject to any claimant's filing of an opposition. ECentury Capital Corporation, ECC Partners' former management company, filed a Motion in Opposition to the Receiver's Recommended Disposition of Claims.

The district court confirmed the SBA's Recommended Disposition of Claims, and denied ECentury's Motion in Opposition to the Receiver's Recommended Disposition of Claims.

LAW: The Receiver concluded that ECentury's claim for unpaid management fees was subordinated to amounts owed to the SBA. ECentury argued that the SBA lacked authority to unilaterally subordinate a licensee's approved management expenses in favor of its own equity interest.

A receivership created under 15 U.S.C. [section]687c is governed by principles applicable to federal equitable receivers generally. United States v. Royal Bus. Funds Corp., 724 F.2d 12, 16 (2d Cir.1983). In a receivership proceeding, the district court has broad powers and wide discretion in crafting relief. Quilling v. Trade Partners, Inc., 572 F.3d 293, 298 (6th Cir.2009).

Where a petitioner seeks relief from a receivership, the receiver ordinarily has no power to adjudicate that claim. Instead, that authority lies within the sound discretion of the appointing court. United States v. Penny Lane Partners, L.P., No. 06-1894(GEB), 2010 WL 5796465, at * 5 (D.N.J. Oct.26, 2010).

Under the Small Business Investment Act of 1958, when the SBIC is licensed, the licensee agrees to abide by the provisions of the Act and accompanying Regulations. The Regulations provide that some or all of the licensee's rights may be forfeited if the SBA determines that the licensee has been noncompliant in some way, including when a Restricted Operation Condition has occurred.

The SBA has the right to impose certain remedies if a Restricted Operation Condition and is not cured to its satisfaction in a timely fashion. If the condition is not timely cured, SBA's remedies include the right to review and re-determine the licensee's approved Management Expenses. 13 C.F.R. [section]107.1820(f)(4).

Among other things, a licensee is not allowed to have a condition of capital impairment greater than that allowed under 13 C.F.R. [section]107.1830(c); if it does, the SBA has the right to re- determine the management fee. See 13 C.F.R. [section]107.1820(f)(4).

In this case, in the early part of 2007, the SBA determined that ECC Partners had a capital impairment rate greater than the percentage allowed under the Regulations (74% as opposed to 60%). The SBA's Jan. 19, 2007 letter gave ECC Partners 15 days to cure the problem. When the condition was not cured, the SBA placed ECC Partners in Restricted Operation status and reduced ECentury's management fee to 50% of the previously approved amount. The letter gave ECC Partners the option of deferring that portion of the fee that exceeded the Reduced Amount, so long as the deferred portion would be subordinated to the SBA's claims. ECC Partners requested that the approved management fee be reduced by only 34%, but that proposal was rejected by the SBA after its review as of June 2007, and ECC Partners accepted the 50% reduction.

The Regulations are explicit as to the SBA's authority, which includes reducing the licensee's management fees and expenses; indeed, the SBA would, most likely, have the right to extinguish a licensee's management fee altogether. And certainly, the SBA may remediate a capital impairment condition by reducing the management fee and offering the licensee the option of carrying the portion in excess of the reduced amount on its balance sheet such that, should things eventually turn around, the licensee would have the opportunity to recover up to the originally approved management fee once the SBA's preferred limited partnership claim has been paid.

As such, ECentury's argument that the SBA lacked authority to subordinate the fee was unpersuasive. There was nothing inherently unreasonable or unfair about a preferred equity partner (which, after all, provided financing for the business) to require that satisfaction of its equity interest come before payment of a portion of the management fee. Accordingly, the Court confirmed the SBA's Recommended Disposition of Claims.

COMMENTARY: ECentury also argued that to enforce the subordination clause, ECC Partners and/or ECentury needed to have separately consented to it. However, no consent requirement was built into the Act and the Regulations.

When it was licensed as an SBIC, ECC Partners accepted the SBA's right to reduce the management fee under certain circumstances. Thus, the SBA did not need to obtain separate consent from ECC Partners or from ECentury to reduce the approved management fee to 50%, nor was it obliged to offer the option of deferring and subordinating the portion of the management fees in excess of that amount.

PRACTICE TIPS: Capital impairment is the degree to which the Regulatory Capital of an SBIC has deteriorated because of accumulated losses. Generally speaking, the Capital Impairment Percentage ("CIP") is calculated by adding the SBIC's undistributed net realized loss and net unrealized depreciation and dividing the result by the SBIC's private capital. A Capital Impairment Condition exists if the CIP exceeds permitted levels set forth in the Regulations and varies depending on the percentage of equity capital investments made by the SBIC.