Cred Inc. Liquidation Tr. v. Uphold HQ Inc. (In re Cred Inc.)

658 B.R. 783

IN RE: CRED INC., et al., Debtors.

Cred Inc. Liquidation Trust, Appellant, v. Uphold HQ Inc., et al., Appellees.

Case No. 20-12836 (JTD) (Jointly Administered) (Bankr. D. Del.)

C.A. No. 23-461 (MN)

Adv. Proc. No. 22-50398 (JTD)

BAP No. 23-00020

United States District Court, D. Delaware

Signed March 27, 2024

Darren Azman, Andrew B. Kratenstein, Joseph B. Evans, Max J. Kellogg, McDermott Will & Emery LLP, New York, NY; David R. Hurst, McDermott Will & Emery LLP, Wilmington, DE - Attorneys for Appellant Cred Inc. Liquidation Trust.

Douglas W. Greene, Jorian L. Rose, Genevieve G. York-Erwin, Michael A. Sabella, Zachary R. Taylor, Baker & Hostetler LLP, New York, NY; Jeffrey J. Lyons, Baker & Hostetler LLP, Wilmington, DE - Attorneys for Appellees Uphold HQ Inc., et al.

MEMORANDUM OPINION

NOREIKA, United States District Judge

This appeal arises from the chapter 11 cases of Cred Inc. ("Cred") and certain affiliates (together "the Debtors") in an adversary proceeding initiated by the Cred Inc. Liquidation Trust ("the Trust") against defendants-appellees Uphold HQ Inc., Uphold Inc., and Uphold Ltd. (together, "Uphold"), in which the Trust seeks to hold Uphold liable in connection with the loss of hundreds of millions of dollars' worth of cryptocurrency invested in the Debtors' cryptocurrency lending platform. Pending before the Court is the Trust's appeal of the Bankruptcy Court's April 13, 2023 Order (Adv. D.I. 37)¹ ("the Order") and accompanying Opinion, In re Cred Inc., 650 B.R. 803 (Bankr. D. Del. 2023) ("the Opinion"), which granted Uphold's motion to dismiss (Adv. D.I. 5, 6) ("the Motion to Dismiss") the Trust's complaint (Adv. D.I. 3; A00004-A00574) ("the Complaint") for failure to state a claim and dismissed the Complaint in its entirety. The Trust has appealed the Bankruptcy Court's dismissal of Counts I and II, which alleged that Uphold aided and abetted Cred's officers' and directors' breaches of fiduciary duty. The Trust also appeals the Bankruptcy Court's dismissal of the Complaint with prejudice. For the reasons set forth below, the Court will affirm the Order.

I. BACKGROUND

A. Brief Factual Background

Uphold was founded in 2013 by its former CEO Juan Pablo Thieriot "(Thieriot"). (Complaint ¶ 18). Uphold is a multi-asset cryptocurrency exchange, on which users can buy and sell cryptocurrencies, fiat currencies, equities, and precious metals. (Id. ¶ 41). Uphold provides retail customers with a digital money platform ("the Uphold Platform") for transacting and storing cryptocurrency and markets itself as easy to use for new cryptocurrency investors. (Id. ¶ 42).

In February of 2018, Uphold engaged Daniel Schatt ("Schatt") to provide advisory services. (Id. ¶ 19). Shortly thereafter, in April of 2018, Schatt was appointed as a director on the board of Uphold, Ltd. (Id. ¶¶ 43-44). In May of 2018, Schatt, along with Lu Hua ("Hua") organized Cred. (Id. ¶ 19). Cred was a cryptocurrency yield-earning platform. Yield-earning platforms borrow cryptocurrency from their customers with a promise to pay them back at a later date with interest, essentially providing their customers unsecured notes. (Id. ¶ 39). The company seeks to earn a greater yield on the loaned cryptocurrency than it owes the customer, usually through re-lending or cryptocurrency trading strategies. (Id. ¶ 59). Yield-earning platforms are generally risky due to their promises of high returns (often in excess of 8-12%), the volatility of cryptocurrency prices, and a lack of a clearly applicable regulatory scheme. (Id. ¶¶ 40, 122).

Schatt and Hua were fifty percent (50%) co-owners of Cred. (Id. ¶ 54). At all relevant times, Schatt was Cred's CEO and a director on its board. (Id. ¶ 53). Hua was the second of Cred's two directors and was also the founder of a Chinese micro-lending platform called moKredit ("moKredit"). (Complaint at 6, n.10).

In June of 2018, Schatt introduced Thieriot to Hua, and the next month Uphold and Schatt began discussing a joint venture to create a yield earning program and eventually entered into a series of agreements to govern same. (Id. ¶ 57). There were two primary agreements between Uphold (specifically, Uphold HQ) and Cred concerning Uphold's making CredEarn accessible through the Uphold platform. The central agreement between the parties (which governed any subsequent scope of work agreements, or "SOWs") was the Master Services Agreement, dated July 13, 2018 ("the MSA"). (A00667-677); (A00628). The MSA granted each party certain rights as against the other—including the right to terminate the MSA—and clearly delineated the contractual relationship between Uphold HQ and Cred:

Relationship of Parties. The Parties acknowledge that this is a business relationship based on the express provisions of this Agreement and no partnership, joint venture, agency, fiduciary or employment relationship is intended or created by this Agreement.

(A00674). On or around January 16, 2019, Cred and Uphold entered into a Statement of Work ("the SOW #3") which governed the CredEarn offering specifically. (Complaint ¶ 94 & Ex. O). Pursuant to the SOW, Uphold would integrate CredEarn on its website and mobile application and, in exchange, Cred would pay Uphold a commission in the form of a service fee ("the Uphold Fees") for sending its customers to Cred. (Id. ¶¶ 96-98 and Ex. O). The Uphold Fees that Cred was required to pay under the SOW were in addition to the interest it owed to CredEarn customers and were paid to Uphold regardless of whether Cred made a profit from the loan. (Id. ¶ 99). The SOW provided that "all risk of loss of principal loan by [Cred] from [Uphold's customers] shall be borne by [Cred]." (Id. ¶ 120 and Ex. O).

On January 23, 2019, CredEarn launched. All CredEarn's initial customers were driven to CredEarn by Uphold. (Id. ¶ 138). Since only a very small percentage of customers discovered the CredEarn website independently from Uphold, Cred and Uphold primarily targeted customers through jointly created advertisements disseminated by Uphold throughout the lifecycle of CredEarn, starting from its launch in early 2019 up until late 2020. (Id. ¶¶ 102, 140-141, 206). These marketing materials stated that Cred made loans to "reputable companies." (Id. ¶¶ 216-220). Other marketing materials falsely claimed that CredEarn was "safe," "secured," "insured," and "fully hedged." (Id. ¶¶ 270-273).

In order to generate enough yield to satisfy the promised 8-12% return to CredEarn customers and Uphold's commission, Cred took "huge risks." (Id. ¶ 158). The vast majority (90%) of the cryptocurrency Cred received from CredEarn customers was lent to moKredit, who would then loan the funds to its customers, who were primarily video gamers. (Id. ¶¶ 159, 168). Cred and moKredit's relationship was governed by a series of agreements, several of which were not executed until long after Cred had loaned moKredit tens of millions of dollars of customer cryptocurrency. (Id. ¶¶ 171-177). Although the moKredit Agreements (as defined in the Complaint at ¶ 174) granted Cred security interests in moKredit's accounts, inventory, equipment, instruments and securities, Cred never perfected them. (Id. ¶¶ 200-201). Additionally, when moKredit failed to repay principal on its loans as required by the moKredit Agreements, Cred would simply allow moKredit to roll the principal owed to the next tranche. (Id. ¶¶ 198-99).

Whereas Cred and moKredit only transacted with each other in fiat currency or "stable" cryptocurrency—cryptocurrency whose value is pegged to a stable asset such as the U.S. Dollar or gold ("Stablecoins")—Cred owed its customers Bitcoin ("BTC") and other cryptocurrencies. Thus, Cred bore the risk of loss if BTC or other cryptocurrencies increased in value during the life of the CredEarn loan. (Id. ¶ 185). In an effort to mitigate this risk, Cred hired an unlicensed and unregistered trading firm ("the Trading Firm") to enter into options, futures, and perpetual swaps for Cred in order to hedge against an increase in the price of cryptocurrency. (Id. ¶ 192). The Trading Firm enabled Cred to make risky trades that were otherwise unavailable to U.S. persons and entities. (Id. ¶¶ 23-24, 190). "Cred's highly leveraged trading strategy left Cred exposed to having its cryptocurrency positions depleted entirely" due to normal price fluctuations. (Id. ¶¶ 272-73).

Throughout 2019 and 2020, as Cred continued to take on debt, it suffered loss after loss in trading, hacks, and thefts—including by its Chief Capital Officer, James Alexander—which were ultimately more than it could recover from. (Id. ¶¶ 25, 367, 422-427).

B. Additional Well Pled Facts Accepted as True

After addressing the required first step in considering a motion to dismiss—"separating the conclusions from well-pled facts" contained in the Complaint—the Bankruptcy Court's thorough Opinion sets forth the "facts taken from the Complaint" which "are accepted as true for the purposes of the Opinion." In re Cred Inc., 650 B.R. at 814. Those facts include the joint venture discussions between Schatt, Thieriot, Hua; how customers participated in the CredEarn Program; CredEarn's launch; Cred's risky business plan, including its transactions with moKredit and the Trading Agent; and Cred's decline and the resulting losses. See id. at 814-20. Relevant to this appeal, there does not appear to be any dispute as to the well pled facts, only what inferences may be drawn from them. As the Court writes primarily for the parties, those facts are not repeated here. Capitalized terms not otherwise defined herein shall have the meanings ascribed to them in the Opinion.

C. Procedural Background

The Debtors filed these chapter 11 cases on November 7, 2020. On December 23, 2020, the Bankruptcy Court appointed an Examiner to "investigate allegations of fraud, dishonesty, incompetence, misconduct, mismanagement, or irregularity in the management of the affairs of [Cred] of or by current or former management of the...