In re Sentinel Management Group, Inc., 07 B 14987.

417 B.R. 542

In re SENTINEL MANAGEMENT GROUP, INC., Debtor.

No. 07 B 14987.

United States Bankruptcy Court, N.D. Illinois, Eastern Division.

September 30, 2009.

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Catherine Steege, Esq., Vincent E. Lazar, Esq., and Christine L. Childers, Esq., Chicago, IL, for Movant.

Paul M. Bauch, Esq., Kenneth A. Michaels Jr., Esq., Carolina Y. Sales, Esq., and Luke J. Hinkle, Esq., Chicago, IL, for Respondent.

Frederick J. Grede, Liquidation Trustee of the Sentinel Liquidation Trust.

MEMORANDUM OPINION

JOHN H. SQUIRES, Bankruptcy Judge.

This matter comes before the Court on the objection of Frederick J. Grede, the Liquidating Trustee (the "Trustee") for the Sentinel Liquidation Trust and estate representative for the estate of Sentinel Management Group, Inc. ("Sentinel"), to claim number 90 filed by GAMAG Black & White, Ltd. ("GAMAG"). For the reasons set forth herein, the Court sustains the objection and disallows the claim without prejudice to GAMAG's claim in the Lake Shore Proceedings as discussed herein.

I. JURISDICTION AND PROCEDURE

The Court has jurisdiction to decide this matter pursuant to 28 U.S.C. § 1334 and Internal Operating Procedure 15(a) of the United States District Court for the Northern District of Illinois. This matter is a core proceeding under 28 U.S.C. § 157(b)(2)(B).

II. FACTS AND BACKGROUND

Many of the facts are undisputed and are contained in the joint list of stipulated facts filed prior to the evidentiary hearing in this matter. (Docket No. 1429.) On August 17, 2007, Sentinel filed a voluntary petition for relief under Chapter 11 of the Bankruptcy Code. (Stip. of Facts ¶ 4.) On August 28, 2007, the United States Trustee appointed Frederick J. Grede as the Chapter 11 trustee for Sentinel's estate under 11 U.S.C. § 1104. The Trustee's appointment was approved by the Court on August 29, 2007. (Docket No. 105.) GAMAG is a holding company of hedge funds that was organized under the laws of the Bahamas. (Stip. of Facts ¶ 12.) It filed the disputed claim at bar contending that it is owed $646,350 by Sentinel.

GAMAG had dealings with one or more entities involved in the Lake Shore Common Enterprise. The Lake Shore Common Enterprise includes the following entities: Lake Shore Asset Management Limited ("LSAM"), Lake Shore Group of Companies Inc. Ltd., Lake Shore Asset Management Inc. ("LSIII"), Lake Shore Alternative Financial Asset Limited ("LSAFA"), Lake Shore Alternative Financial Asset Account I Limited, Lake Shore Alternative Financial Asset Account II Limited ("LSFL"), Lake Shore Alternative Financial Asset Fund III Limited and Geneva Corp. Funds World Limited (formerly known as Lake Shore Alternative Financial Asset Fund IV Limited), Lake Shore Asset Management Limited, Lake Shore Group of Companies and its subsidiaries and affiliates. (Id. ¶ 1; Trustee Ex. R at Ex. 5, p. 1 n. 2.)

The Lake Shore Common Enterprise was engaged in fraudulent criminal activity, which caused the United States Commodity Futures Trading Commission (the "CFTC") to bring an action in the United States District Court for the Northern District of Illinois, Case No. 07 C 3598 (the "Lake Shore Proceedings"). (Stip. of Facts ¶ 2; Trustee Ex. Q at p. 6, ¶ n.) The CFTC alleged in its one-count complaint filed on June 26, 2007, that LSAM had improperly refused to make its books and records available for inspection or to provide information about its commodity pool participants and trading activity as required by the Commodity Exchange Act. (Stip. of Facts ¶ 2; Trustee Ex. K at p. 1.) On August 8, 2007, the CFTC filed a first amended complaint alleging that LSAM was part of a common enterprise controlled by Philip Baker. (Stip. of Facts ¶ 2; Trustee Ex. K at p. 2.) On June 27, 2007, the District Court entered a restraining order against LSAM that, among other things, froze LSAM's assets. (Stip. of Facts ¶ 3; Trustee Ex. K at p. 1.)

On October 4, 2007, the District Court appointed Robb Evans & Associates LLC (the "Receiver") as temporary equity receiver for the Lake Shore Common Enterprise. (Stip. of Facts ¶ 6; Trustee Ex. H at p. 1.) The District Court entered an amended order appointing that Receiver for the Lake Shore Common Enterprise on April 24, 2008. (Stip. of Facts ¶ 7; Trustee Ex. I.)

The Court confirmed an amended plan of liquidation filed by the Trustee and the Official Committee of Unsecured Creditors on December 15, 2008, which became effective on December 17, 2008. (Stip. of Facts ¶ 8.) As of the effective date, the Trustee has been acting as the Trustee under the agreement establishing the liquidating trust and as the representative for Sentinel's estate. (Id. ¶ 9.)

Sentinel was registered with the Securities and Exchange Commission as an investment adviser and with the CFTC as a futures commission merchant ("FCM"). (Id. ¶ 10.) Sentinel primarily managed investments of short-term cash for various clients, including other FCMs, hedge funds, financial institutions, pension funds, and individuals. (Id.) None of the Lake Shore Common Enterprise entities were FCMs. (Id.)

Sentinel and LSAFA, one of the entities among the Lake Shore Common Enterprise, entered into an Investment Advisory Agreement, dated July 24, 2001 (the "Investment Advisory Agreement"), pursuant to which LSAFA appointed Sentinel, and Sentinel accepted the appointment, as "discretionary investment advisor with respect to those assets ... accepted for investment by Sentinel...." (Id. ¶ 11; Trustee Ex. F ¶ 1.) LSAFA signed the Investment Advisory Agreement on its own behalf and not as an agent of any customer. (Trustee Ex. F at p. 3; Trial Tr. p. 48 lines 13-21.) Thereby, Sentinel was in privity of contract with LSAFA, not GAMAG.

GAMAG, LSIII, and LSAFA entered into a Portfolio Management Agreement (the "Portfolio Management Agreement") pursuant to which GAMAG authorized LSFL to open an account to be maintained with Sentinel and to provide all administrative and other services with respect to that account, and retained LSIII to trade exchange traded financial derivatives contracts and to make and implement all investment decisions for that account. (Stip. of Facts ¶ 13; GAMAG Ex. No. 4.) Sentinel did not enter into this contract as a party. (GAMAG Ex. No. 4; Trial Tr. p. 24 lines 3-8.) In particular, the Portfolio Management Agreement states in pertinent part as follows:

By signing this contract, you hereby retain Lake Shore Asset Management Inc. ("LSIII") with respect to the funds that you provide from time to time for investment in exchange traded financial derivatives contracts (the "Contracts") in accordance with an account (the "Account") to be maintained with Sentinel Management Inc. ("Sentinel") as described below. The Account will be opened for you by Lake Shore Alternative Asset Account II Ltd. ("LSFL"), which will also provide all administrative and other services in relation to the Account except the trading decisions which are made by LSIII.

. . .

You hereby authorize LSIII to make and implement all investment decisions for your Account that LSIII, in its sole discretion, deems proper and advisable, subject to the provisions of Part 2 of this contract below.

. . .

When this contract is fully accepted, LSFL will establish an Account for you. Custody of your assets will be with Sentinel.... All reporting with respect to your Account will be made to you by LSFL, and you acknowledge that if you have any questions concerning your Account, you will direct them to LSFL and its administrative arm ("Lake Shore Administration").

(Stip. of Facts ¶ 14; GAMAG Ex. No. 4 at p. 1.)

With respect to the withdrawal of funds, the Portfolio Management Agreement provides in pertinent part as follows:

You are entitled to require Sentinel to release all or any part of your invested funds at their then current value, less the applicable amount to be retained by LSFL for Profit Incentive Fees earned, each Friday, if you make your request by 4:30 p.m. (New York time E.S.T.) on the previous Thursday....

The request for a withdrawal can be sent at any time by contacting your financial advisor, who completes the Request & Notice for Additions/Withdrawals of Funds form (the "Additions/Withdrawals Form") on your behalf and forwards this form to Lake Shore Administration. You must sign the Additions/Withdrawals Form along with your financial advisor. Your request for funds is considered accepted when received at the administration office of Lake Shore Administration by mail, fax or email....

On each day that withdrawals are permitted, your account is valued as at or about 4:30 p.m. (New York time), the Profit Incentive Fees (if any) owing to LSFL are deducted and the remaining Account balance is determined. The proceeds owing to you are settled in five business days from the day the withdrawal is effected, when those funds will be wired directly to the bank account you specify in this contract....

(Stip. of Facts ¶ 15; GAMAG Ex. No. 4 at p. 4.)

With respect to fees and expenses, the Portfolio Management Agreement provides in relevant part as follows:

No management fee is charged to your Account. LSFL administrates and charges all fees on behalf of this program. The incentive fees charged by LSFL will be used to pay LSIII. LSFL charges your account 25% of the "Net New Appreciation" of your funds, if any, on a monthly basis. Net New Appreciation is defined as the excess, if any, of your net funds (outside of additions to your Account) valued as of the end of any calendar month. However, the incentive fee is payable only on net new appreciation....

The FCM through which Contracts are traded will charge brokerage fees on all transactions for your Account, and these fees will be payable by you out of the assets in your Account. You will not receive any interest on the funds held in your Account.

(Stip. of Facts ¶ 16; GAMAG Ex. No. 4 at p. 4.)

The Portfolio Management Agreement provides that GAMAG was ...