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Lengthy Service Oversight Causes the Bankruptcy Court to Dismiss Preference Claims

Forman v. Mentor Graphics Corp. (In re Worldspace, Inc.), Adv. No. 10-53286 (PJW), (Bankr. D. Del. June 5, 2014)

On June 5, 2014, Judge Walsh granted a motion to dismiss filed by a preference defendant, holding that the amended complaint which added the defendant to the proceeding could not relate back to the date of the original complaint under Federal Rule of Civil Procedure 15(c)(1)(C) so as to avoid the expiration of the applicable statute of limitations.  In rendering his decision, Judge Walsh found significant the plaintiff’s failure to properly serve the original defendant with five of its nine motions to extend time to serve process of the original complaint.  While the Court does not condemn the use of extension motions to facilitate a reorganization or to serve an equitable or procedural purpose, this Opinion serves as a warning to plaintiffs’ counsel who delay effectuating service of a complaint until after the expiration of the applicable statute of limitations.

Debtor Worldspace, Inc. filed its chapter 11 in 2008 and initiated this adversary proceeding in 2010 to avoid and recover certain preferential transfers from Mentor Graphics (Ireland) Limited (“Mentor Ireland”).  The chapter 11 proceeding was subsequently converted to one under chapter 7.  In total, Worldspace and the chapter 7 trustee sought and gained approval of nine motions to extend time to serve process.  Contrary to representations made to the Court, Mentor Ireland was not served with the third, fourth, fifth, sixth, or seventh motions to extend.  Between service of the second and eighth motions, the statute of limitations on the underlying action expired.  Service of the summons was effectuated on Mentor Ireland in December 2013 and, in late January 2014, the trustee amended the complaint to substitute Mentor Ireland with its parent, Mentor Graphics Corporation (“Mentor Oregon”).  Upon amendment, Mentor Oregon filed a motion to dismiss.

For an amended complaint changing the named defendant to relate back to the date of the original under Federal Rule of Civil Procedure Rule 15(c)(1)(C), a plaintiff has the burden of showing that:  (1) the claim asserted in the amended complaint arises out of the same conduct, transaction, or occurrence as the original pleading; and (2) within the meaning of Federal Rule of Civil Procedure 4(m), the new party (i) received such notice of the action that it will not be prejudiced defending the action on the merits, and (ii) knew or should have known that the action would have been brought against it but for the plaintiff’s mistake.  Although these requirements may seem complex, they are required to ensure fair notice to the newly named defendant.  “[N]otice…is inextricably intertwined with…prejudice,” and parties without notice would be placed at a disadvantage, given no opportunity to take pre-litigation measures and preserve evidence.

The Court in Mentor Graphics held the requirements of Rule 15(c)(1)(C) unfulfilled given that Mentor Oregon did not receive notice (actual or constructive) of the preference action prior to the expiration of the relevant Rule 4(m) period.  Such period was determined by the Court to be the service date of Worldspace’s second motion to extend time because this was the last notice received by Mentor Ireland prior to the expiration of the statute of limitations.  No actual service of the complaint (on Mentor Ireland or Mentor Oregon) was effectuated before the statute of limitations ran.  Nor did Mentor Oregon have imputed notice.  Such notice in the Third Circuit requires shared counsel or an identity of interest, proof of which was not proffered by the trustee.  In addition to the foregoing, the trustee failed to provide any evidence that Mentor Oregon had reason to believe it was incorrectly omitted as defendant from the action.  Although it was Mentor Ireland’s parent, Mentor Oregon had a separate business relationship with Worldspace.  Moreover, the complaint against Mentor Ireland was never served and, importantly, did not provide sufficient details as to the underlying transactions giving rise to the preference action.  Accordingly, given these facts, the Court held that Mentor Oregon did not know nor have reason to know that the action should have been brought against it rather than Mentor Ireland.  For all of these reasons, the Court dismissed the action.