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Tidbits From The Delaware Bankruptcy Court On In Pari Delicto and Equitable Subordination

Lightsway Litig. Servs., LLC v. Yung (In re Tropicana Enter., LLC), Adv. No. 10-50289 (KJC), 2014 WL 6704445 (Bankr. D. Del. Nov. 25, 2014)

In this Memorandum, the Honorable Kevin J. Carey disposes of certain claims against William J. Yung III (“Yung”), the former director and CEO of Tropicana Entertainment LLC (with its affiliated entities, the “Debtors”) and certain entities controlled by Yung, Wimar Tahoe Corporation (“Wimar”), the parent corporation of the Debtors, and Columbia Sussex Corporation (“Columbia” and together with Wimar and Yung, the “Defendants”).  Notably, the Court discusses—albeit briefly—two developing legal concepts in the Third Circuit and elsewhere:  the in pari delicto defense and equitable subordination.

The phrase in pari delicto comes from the Latin expression in pari delicto potior est conditio defendentis, meaning where both parties are equally in the wrong, the position of the defendant is the stronger.  The doctrine bars recovery by a plaintiff if the plaintiff participated in the wrongdoing that was a substantial cause of the alleged damages.  In the context of a breach of fiduciary duty claim, Yung argued that the in pari delicto defense barred recovery by plaintiff Lightsway Litigation Services, LLC, the trustee appointed to pursue certain insider causes of action (the “Plaintiff”).  Here, the Court did not delve into a deep analysis of the doctrine because in pari delicto does not apply to claims against corporate insiders.  See Official Comm. of Unsecured Creditors v. Lafferty & Co., 267 F.3d 340, 354 (3d Cir. 2001); Miller v. McCown De Leeuw & Co. (In re The Brown Schools), 386 B.R. 37, 55-56 (Bankr. D. Del. 2008).  It was undisputed that Yung was an insider of the Debtors.  Yung succeeded, however, in getting the fiduciary duty claims dismissed because the Plaintiff failed to submit a plausible claim of insolvency, and under Delaware law, creditors do not have standing to bring derivative claims on behalf of a solvent corporation for breaches of fiduciary duties.

The Court also discussed, and disposed of, the Plaintiff’s claim for equitable subordination.  As a general rule, a predicate to relief under Bankruptcy Code § 510(c) is that there must first be an allowed claim from which a party seeks to subordinate.  Thus, while claims are deemed allowed if not objected to, objections had been filed to Defendants’ administrative and priority claims, such that they were not allowed claims subject to equitable subordination.  Nevertheless, the Court noted a decision of the Delaware Bankruptcy Court wherein it had previously permitted equitable subordination prior to any determination as to whether a claim may be allowed.  See In re MidAmerican Waste Sys., Inc., 284 B.R. 53, 68 (Bankr. D. Del. 2002).  But even under that precedent, the Court ruled that the equitable subordination claim asserted here was too vague and too broad to be considered at this juncture.  The Court dismissed the claim without prejudice, and allowed the Plaintiff to raise the issue in connection with the claims objection.