Tavenner v. ULX Partners, LLC (In re LeClairRyan PLLC)

In re: LECLAIRRYAN PLLC, Debtor.

LYNN L. TAVENNER, as Chapter 7 Trustee, Plaintiff, v. ULX PARTNERS, LLC and UNITED LEX CORPORATION, Defendants.

Case No. 19-34574-KRH

Adv. Pro. No. 20-03142-KRH

UNITED STATES BANKRUPTCY COURT FOR THE EASTERN DISTRICT OF VIRGINIA Richmond Division

July 20, 2021

Chapter 7

MEMORANDUM OPINION

On October 26, 2020, Lynn L. Tavenner (the "Trustee"), in her capacity as Chapter 7 trustee for the bankruptcy estate of LeClairRyan PLLC ("LeClair," or the "Debtor"), commenced the above-captioned adversary proceeding (the "Adversary Proceeding") by filing a fourteen-count Complaint [ECF No. 4] (the "Complaint") against ULX Partners, LLC ("ULXP") and UnitedLex Corporation ("UnitedLex," and, together with ULXP, the "Defendants") in the United States Bankruptcy Court for the Eastern District of Virginia (this "Court"). Presently before the Court is the Defendants' ULX Partners, LLC's and UnitedLex Corporation's Motion to Partially Dismiss the Complaint [ECF No. 17] (the "Motion"). The Trustee filed a response [ECF No. 25] (the "Response") to the Motion. Defendants filed a reply [ECF No. 26] (the "Reply") to the Trustee's Response. The Court conducted a hearing (the "Hearing") on the Motion on June 24, 2021, at which the Court heard argument on behalf of the Defendants and the Trustee. At the conclusion of the Hearing, the Court took the Motion under advisement. After due consideration of the pleadings, the arguments of counsel at the Hearing, and the authorities cited by the parties in their memoranda of law, the Motion will be granted in part and denied in part. This Memorandum Opinion sets forth the Court's findings of fact and conclusions of law in accordance with Rule 7052 of the Federal Rules of Bankruptcy Procedure (the "Bankruptcy Rules").¹

Jurisdiction and Venue

The Court has subject matter jurisdiction under 28 U.S.C. § 1334 and the general order of reference from the District Court dated August 15, 1984. This is a core proceeding under 28 U.S.C. § 157(b)(2)(A), (B), (C), (F), (H), (K), and (O).² Venue is appropriate pursuant to 28 U.S.C. § 1409(a).

Legal Standard

By their Motion, the Defendants seek to dismiss Counts I through III and Counts V through XI of the Complaint pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure (the "Civil Rules"), made applicable hereto by Bankruptcy Rule 7012(b), on the grounds that, with respect to these counts, the Complaint "fail[s] to state a claim upon which relief can be granted." Fed. R. Civ. P. 12(b)(6); Fed. R. Bankr. P. 7012(b). A complaint must contain "a short and plain statement of the claim showing that the pleader is entitled to relief." Fed. R. Civ. P. 8(a)(2); Fed. R. Bankr. P. 7008. To survive a motion to dismiss under Civil Rule 12(b)(6), "a complaint need only 'give the defendant fair notice of what the . . . claim is and the grounds upon which it rests.'" Tobey v. Jones, 706 F.3d 379, 387 (4th Cir. 2013) (alteration in original) (quoting Bell Atl. Corp. v.Twombly, 550 U.S. 544, 555 (2007)). "A motion to dismiss under [Civil Rule] 12(b)(6) tests the sufficiency of a complaint; importantly, it does not resolve contests surrounding the facts, the merits of a claim, or the applicability of defenses."³ Republican Party of N.C. v. Martin, 980 F.2d 943, 952 (4th Cir. 1992). "Because only the legal sufficiency of the complaint, and not the facts in support of it, are tested under a [Civil Rule] 12(b)(6) motion, [the Court] assume[s] the truth of all facts alleged in the complaint and the existence of any fact that can be proved, consistent with the complaint's allegations." Fessler v. Int'l Bus. Machs. Corp., 959 F.3d 146, 152 (4th Cir. 2020). "Ultimately, '[t]o survive a motion to dismiss, a claim must contain factual matter, accepted as true, to state a claim to relief that is plausible on its face.'" Edley-Worford v. Va. Conf. of United Methodist Church, 430 F. Supp. 3d 132, 139 (E.D. Va. 2019) (alteration in original) (quoting Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009)).

Factual Allegations

LeClair was a national law firm founded in 1988 and headquartered in Richmond, Virginia. Compl. ¶ 21, ECF No. 4 at 4. Beginning in at least 2014, LeClair's financial position began to decline as revenue consistently fell short of projections. Id. ¶ 23, ECF No. 4 at 5. By 2017, LeClair was searching for a lifeline. Id. ¶ 25, ECF No. 4 at 5. In or around October of 2017, LeClair began negotiations with UnitedLex, a non-legal services provider for law firms and legal departments, concerning a joint venture, ULXP. Id. ¶¶ 26-32, ECF No. 4 at 5-6. LeClair would contribute its non-legal intellectual property as well as back office and certain other non-legal staff to ULXP,which would then contract with LeClair to provide an array of services to the firm. Id. ¶ 34, ECF No. 4 at 7. LeClair would pay a monthly fee for these services to be provided by ULXP. Id. Initially, the parties contemplated an arrangement in which UnitedLex would control ULXP, but members of the LeClair leadership team would hold senior leadership positions at ULXP. Id. ¶ 33, ECF No. 4 at 6. LeClair would also receive a significant equity interest in ULXP and at least one multimillion dollar loan from ULXP. Id. ¶¶ 34-37, ECF No. 4 at 7. Finally, LeClair's shareholders would receive financial incentives, including an immediate full redemption of their shares in LeClair, the elimination of shareholder capital contribution requirements, and the possibility of receiving equity interests in UnitedLex through either annual or performance-based options. Id. ¶ 38, ECF No. 4 at 7.

During the winter and spring of 2018, the parties engaged in due diligence for the joint venture. Id. ¶ 44, ECF No. 4 at 8. This process revealed to UnitedLex for the first time the financial troubles faced by LeClair. See id. ¶¶ 47-54, ECF No. 9-10. Upon learning the true extent of LeClair's financial woes, UnitedLex expressed serious reservations about the joint venture, and the parties restructured the proposed transaction. Id. ¶¶ 73-74, ECF No. 13. The Defendants would not make any loans to LeClair due to concerns about LeClair's liquidity and earning potential. Id. ¶ 75, ECF No. 4 at 14. As a result, UnitedLex provided no new money to LeClair as part of the transaction. Id. ¶ 76, ECF No. 4 at 14. LeClair's equity stake in ULXP was reduced to 1%. Id. ¶ 77, ECF No. 4 at 14.

As a condition precedent to entering into the joint venture, ULXP required LeClair to convert its corporate form from a professional corporation to a professional limited liability company in order to avoid double taxation. Id. ¶¶ 94, 96, ECF No. 4 at 17. LeClair effected this conversion on March 31, 2018. Id. ¶ 95, ECF No. 4 at 17. This conversion allowed LeClair toreduce its cash burn by approximately $450,000 per month in 2018 and to pay approximately $30 million in partner draws on a tax-deferred basis. Id. ¶¶ 97-98, ECF No. 4 at 18. The latter consequence created a significant retention incentive for LeClair's attorneys, which was a key requirement of the joint venture for UnitedLex. Id. ¶¶ 98-99, ECF No. 4 at 18.

Also in connection with the ULXP transaction, LeClair's board of directors voted to terminate the firm's deferred compensation and supplemental retirement plans, effective December 29, 2017. Id. ¶ 102, ECF No. 4 at 19. As a result of these terminations, the plan balances of at least $12 million became eligible to be transferred to shareholders beginning on or about December 28, 2018. Id. ¶ 103, ECF No. 4 at 19. The ensuing payments would have ordinarily been taxable to the shareholders receiving payments from the terminated plans, but the tax savings realized from LeClair's conversion from a professional corporation to a professional limited liability company were passed through to the individual shareholders, who were able to use net operating losses to offset the taxes that would have been owed on these distributions. Id. ¶ 104, ECF No. 4 at 19.

After LeClair terminated its deferred compensation and supplemental retirement plans and converted to a PLLC, in April 2018, LeClair and the Defendants entered into the joint venture. See id. ¶ 89, ECF No. 4 at 16-17. As part of the joint venture, on or about April 4, 2018, LeClair and ULXP entered into a Master Services Agreement (the "MSA"),⁴ pursuant to which ULXP took control of certain delineated responsibilities of LeClair, including legal operations and administration, client relations and business development, marketing and communications, conflicts and engagement management, value pricing and legal project management, human resources, talent development, and technology, data, and security. Id. ¶¶ 78-80, ECF No. 4 at 14.Under the MSA, LeClair would compensate ULXP for these services, in part, based on net profits of LeClair from its provision of legal services. Id. ¶¶ 83-86, ECF No. 4 at 16.

Through the joint venture, the Defendants accessed LeClair's financial and other confidential information essential to its operation and incurred expenses on LeClair's behalf. Id. ¶¶ 112-113, ECF No. 4 at 20. The Defendants also made decisions regarding LeClair's personnel. Id. ¶ 114, ECF No. 4 at 20. In particular, ULXP employees held high-ranking positions at LeClair, such as chief operating officers/chief client services officers, senior vice president of human resources, director of engagement management, director of practice management and attorney integration, and director of marketing and business development. Id. ¶ 115, ECF No. 4 at 20. These employees regularly held themselves out to the public as employees and decision-makers of LeClair. Id. ¶ 116, ECF No. 4 at 21. Ultimately, UnitedLex's goal was to integrate ULXP and LeClair fully into UnitedLex's systems and processes. Id. ¶ 118, ECF No. 4 at 21. Through implementation of the foregoing, the Trustee asserts that the ULXP joint venture effectively gave control of LeClair to a non-lawyer. See id. ¶ 288, ECF No. 4 at 43.

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