RTI Holding Company, LLC

IN THE UNITED STATES BANKRUPTCY COURT

FOR THE DISTRICT OF DELAWARE

In re: ) Ch. 11

)

RTI HOLDING COMPANY, LLC, et al., ) Case No. 20-12456

) (Jointly Administered)

Reorganized Debtors. )

) Re: D.I. 1288 & 1290

OPINION AND ORDER

Ruby Tuesday Operations LLC (“RTO”), successor-in-interest to Ruby Tuesday, Inc.

(“RTI”), one of the reorganized debtors, objected to proofs of claim 10877 and 10878 filed by

Powell Anderson Capital, L.P (“Powell”)1 and proofs of claim 10103, 10104 and 10105 filed by

Quadre Investments, L.P. (“Quadre”)2 (collectively, the “Claims”). The Objections are made

pursuant to sections 105(a), 502(b), 510(b), 1122(a) and 1141(a) of the Bankruptcy Code, and

Rule 3007 of the Federal Rules of Bankruptcy Procedure, and as contemplated by the Order

Confirming the Debtors’ Second Amended Chapter 11 Plan, as Modified, entered on February

17, 20121 (the “Confirmation Order”).3 RTO objects because the Claims were classified under

the Plan as shareholder claims that are subordinated pursuant to Bankruptcy Code section 510(b)

and did not and will not receive a Plan distribution. Powell and Quadre (collectively the

“Claimants”) argue that, in connection with a prepetition merger, their shares were cancelled

and that, under Georgia law, the remaining appraisal rights are the equivalent of a judgment that

does not fall within the purview of section 510(b) of the Code. A hearing was held on June 23,

2021. For the reasons set forth below, the Objections to the Claims are sustained.

1 D.I. 1288.

2 D.I. 1290 (together with D.I. 1288, the “Objections”).

3 D.I. 1144.

BACKGROUND

Claimants were shareholders of RTI that exercised their rights under Georgia law to

dissent from RTI’s 2017 merger with a subsidiary of RTI Holding Company, LLC, through

which RTI became a private company (the “Merger”). The merger agreement provided for each

outstanding shareholder of RTI at the time of the Merger to receive $2.40 per share. On

November 20, 2017, RTI sent shareholders, including Claimants, a Proxy Statement soliciting

shareholder votes for the proposed merger, describing why its board of directors thought $2.40

per share was fair, and including a fairness opinion from RTI’s financial advisor.

On January 24, 2018, Quadre rejected RTI’s offer and made a demand for payment for its

3,000,000 shares of common stock at a price of $5.91 per share and deposited its certificates as

required by Georgia statute. On February 2, 2018, RTI sent an offer of payment (of $2.40 per

share plus interest) as required by Georgia law. On February 16, 2018, Powell rejected RTI’s

offer and made a demand for payment for its 74,000 shares of common stock at a price of $5.06

per share and deposited its certificates as required by Georgia statute.4

On April 19, 2018, as required by the Georgia Code, RTI commenced an appraisal action

in Georgia Superior Court.5 The Appraisal Petition sought an order of the Georgia Court: (a)

determining the fair value of Claimants’ and other respondents’ shares to be at or less than the

4 Objections, D.I. 1288, 1290. While Claimants’ initial demands valued the shares at these prices, the Claims filed

in these cases each attach an addendum that describes the claims as ones for fair value of RTI’s shares at $4.00 per

share, plus interest. See Exhibit 4 to the Request for Judicial Notice, D.I. 1289 and 1291.

5 See Petition for Appraisal and Other Relief (the “Appraisal Petition”), attached as Exhibit 2 to the Request for

Judicial Notice, D.I. 1289, at 3-6. The Appraisal Petition was filed in the Georgia Superior Court (Fulton County)

(the “Georgia Court”), in the matter captioned Ruby Tuesday, Inc. v. Cede & Co., No. 2018-cv-304101 (the

“Dissenters Action”). See also O.C.G.A § 14-2-1330(a) (“If a demand for payment under Code Section 14-2-1327

remains unsettled, the corporation shall commence a proceeding within 60 days after receiving the payment demand

and petition the court to determine the fair value of the shares and accrued interest.”).

merger price of $2.40 per share; (b) awarding a fair and equitable interest rate; and (3) assessing

costs and expenses, including reasonable attorneys’ and experts’ fees, in favor of RTI.6

On October 7, 2020 (the “Petition Date”), the Debtors filed their voluntary chapter 11

petitions. Upon filing, the Dissenters’ Action was automatically stayed.

Claimants timely filed their Claims in these bankruptcy cases, asserting nonpriority

general unsecured claims. All the dissenters’ claims were classified in Class 7 of the Debtors’

Second Amended Chapter 11 Plan (the “Plan”) which contains all claims subordinated under

section 510(b).7 Class 7 claims did not and will not receive a Plan distribution. The

Confirmation Order was entered on February 17, 2021, and on February 24, 2021, the Plan

became effective (the “Effective Date”).8

In its Objections, RTO argues that the Claims arise from rescission of a purchase or sale

of a security of the debtor and are therefore subordinated to Class 4 general unsecured claims

under the Plan pursuant to Bankruptcy Code section 510(b).9

Claimants argue that the Claims are not subject to subordination because (1) under

Georgia law their shares were cancelled as of the closing date of the Merger; and (2) their right

to payment under Georgia law is not the type of claim that section 510(b) encompasses.

JURISDICTION

This Court has jurisdiction over this Objection pursuant to 28 U.S.C. §§ 157 and 1334.

Venue is proper pursuant to 28 U.S.C. §§ 1408 and 1409.

6 Appraisal Petition at 8.

7 D.I. 1135.

8 D.I. 1163.

9 RTO alternatively argues that the Claims are unsubstantiated. As I have resolved the Objections on the first

argument, I do not need to consider this issue.

DISCUSSION

Section 510(b) of the Bankruptcy Code provides, in part, that, “[f]or purposes of

distribution …, a claim arising from rescission of a purchase or sale of a security of the debtor or

of an affiliate of the debtor, for damages arising from the purchase or sale of such a security …

shall be subordinated to all claims or interests that are senior to or equal the claim or interest

represented by such security ….” 11 U.S.C. § 510(b). The Third Circuit had the opportunity to

construe section 510(b) in Baroda Hill Inv. v. Telegroup, Inc. (In re Telegroup, Inc.), 281 F.3d

133 (3d Cir. 2002).

In Telegroup, the Court considered whether “a claim for breach of a provision in a stock

purchase agreement requiring the issuer to use its best efforts to register its stock and ensure that

the stock is freely tradeable ‘arises from’ the purchase of the stock for purposes of section 510(b)

and therefore must be subordinated.” Id. at 136. Finding the phrase “arising from” in section

510(b) to be ambiguous, the Court observed that “[f]or a claim to ‘arise from’ the purchase or

sale of . . . a security, there must obviously be some nexus or causal relationship between the

claim and the sale of the security, but § 510(b)’s language alone provides little guidance in

delineating the precise scope of the required nexus.” Id. at 138. Examining the legislative

history, the Court found that:

[w]hile the legislative history fails to define explicitly the intended scope

of §510(b), [it] sheds light on the policies animating §510(b), which provide

guidance in deciding whether the claims in this case arise from the purchase of

Telegroup’s stock. Ultimately, the [] proposal that inspired §510(b) appears

intended to prevent disappointed shareholders from recovering the value of their

investment by filing bankruptcy claims predicated on the issuer’s unlawful

conduct at the time of issuance, when the shareholders assumed the risk of

business failure by investing in equity rather than debt instruments.

Section 510(b) thus represents a Congressional judgment that, as between

shareholders and general unsecured creditors, it is shareholders who should bear

the risk of illegality in the issuance of stock in the event the issuer enters

bankruptcy.

Id. at 140-41 citing John J. Slain and Homer Kripke, The Interface Between Securities

Regulation and Bankruptcy -- Allocating the Risk of Illegal Securities Issuance Between Security

Holders and the Issuer's Creditors, 48 N.Y.U. L. Rev. 261 (1973). The Court then went on to

hold that section 510(b) could be read to encompass the claims in that case:

The policy considerations underlying the Congressional judgment in § 510(b) that

those who purchase the debtor’s stock, rather than general unsecured creditors,

should bear the risk of loss caused by illegality in the issuance of the stock, seem

to us to apply equally to the claims in this case. In both cases, the claim would not

exist but for claimants’ purchase of debtor’s stock. In both cases, the claim seeks

compensation for a decline in the stock’s value caused by actionable conduct on

the debtor’s part. And in both cases, because the stockholder, as an equity

investor, assumed the risk of business failure, the stockholder must bear the risk,

in the event of bankruptcy, of any unlawful conduct on the debtor’s part that

causes the stock’s value to drop.

Id. at 143.

The parties here agree that Telegroup controls, but they disagree about what it requires.

RTO argues that Telegroup requires application of a strict “but for” rule: if the claim would not

arise “but for” stock ownership, it must be subordinated. Claimants agree that Telegroup

requires “some nexus or causal relationship” between a shareholder’s purchase of the securities

and their claims, but they argue that that “does not mean every claim by a former shareholder, or

a former shareholder whose claim derives from an intermediary non-equity interest, should be

subordinated.” I find that neither characterization accurately describes Telegroup’s mandate.

While the Telegroup Court did state that a causal nexus was required, it applied a “but

for” test in determining whether that nexus was present in the case before it. Subsequent

opinions applying Telegroup agree, including a later one from the Third Circuit. See In re Int’l

Wireless Communications Holdings, Inc., 68 Fed. Appx. 275, 278 (3d Cir. 2003) (stating that

Telegroup held that because “plaintiffs’ damages claim would not exist ‘but for’ plaintiffs’ stock

ownership, it is subordinated” and affirming subordination of claims where claimant “would not

have filed the proof of claim but for their purchase of the IWCH shares.”); In re Spectrum

Alliance, 609 B.R. 11, 18 (E.D. Pa. 2019) (describing Telegroup as “utilizing a ‘but for’

causation analysis to answer the question of whether a claim arises from the purchase or sale of a

security, the Court of Appeals found the broader reading of § 510(b) ‘more comfortable.’”).

Applying this “but for” analysis here, I find that the necessary causal nexus is present.

The Claims arise under a provision of the Georgia corporate code that provides relief to

dissenting stockholders and Claimants’ right to assert a claim under that statute is one that is only

given to those who have purchased shares. Therefore, the Claims would not exist but for

Claimants’ status as shareholders.

Claimants make multiple arguments as to why the Claims are not encompassed by

section 510(b), but I am not persuaded. Claimants argue that (1) under Georgia law they are no

longer shareholders, but rather only holders of narrow statutorily granted rights under Georgia’s

corporate code; and (2) even if they were shareholders, the Claims are not ones for “damages” as

section 510(b) requires. While I disagree,10 it is of no consequence. Regardless of how

Claimants characterize their Claims on the petition date, the relief they were seeking is

10 Claimants argue that when they dissented from the Merger they lost all benefits and rights of equity holders and

instead became creditors whose debts were fixed on the Merger date. They further argue that the award in the

appraisal proceeding does not constitute damages but instead is merely a “statutory right to payment” in a “nonjury

equitable valuation proceeding.” I disagree. Dissenting to a merger does not convert one’s equity to debt. This is

evident from the face of the statute, which provides that an appraisal proceeding will result in a judgment that

represents “Each dissenter . . . is entitled to judgment for the amount which the court finds to be the fair value of his

shares. . . .”). O.C.G.A. § 14-2-1330 (emphasis added). See also O.C.G.A. § 14-2-1323, cmt. (“A shareholder who

deposits his shares retains all other rights of a shareholder until those rights are modified by effectuation of the

proposed corporate action. To conclude from these provisions that dissenters lose their status as shareholders after a

merger and are suddenly converted to creditors would be absurd. The District Court for the District of Colorado

reached this conclusion in interpreting a similar statute in California DHI, Inc. v. Erasmus:

inextricably bound to their stock purchase and the Claims are therefore encompassed by section

510(b). See In re Tristar Esperanza Properties, LLC, 782 F.3d 492, 497 (9th Cir. 2015)

(rejecting argument that because claimant was not a shareholder on the petition date her claims

should not be subordinated, stating “[s]ection 510(b) does not ask what the claim is, but what it

arises from.”) (emphasis in original).

However, while the existence of a causal nexus is necessary, it is not always sufficient.

See Telegroup, 281 F.3d 133, 144 n.2 (“Nothing in our rationale would require the subordination

of a claim simply because the identity of the claimant happens to be a shareholder, where the

claim lacks any causal relationship to the purchase or sale of stock and when subordinating the

claims would not further the policies underlying § 510(b).”). Accordingly, in determining

whether subordination is required, I must also ensure that subordination furthers the policy goals

of section 510(b). If subordination would not serve the purpose of section 510(b) -- specifically

preventing shareholders from recovering their equity investment – then it may not be necessary.

In Telegroup, the Court found that subordination was appropriate because:

To suggest that, upon invoking dissenter's rights, a shareholder can leap from equity holder to

general creditor would be to entitle the dissenter to a priority status above other shareholders. It

would allow the dissenting shareholder to escape the effect of the accumulated debts of the

corporation on the value of his/her shares (and saddle the remaining shareholders with a

disproportionate burden of existing corporate debt), and simultaneously grant a windfall to a

dissenter who chooses to abandon an insolvent or undercapitalized company. This is clearly not

the social policy that the dissenter's rights statute was intended to encourage. By contrast, reading

the statute to ensure that the dissenter receives his share of the corporate value after all corporate

debts are accounted for avoids creating perverse incentives and ensures that a dissenter receives

precisely that which his shares entitle him to: a portion of whatever excess equity exists in the

corporation.

2008 U.S. Dist. LEXIS 101444, *10-11 (D. Colo. Dec. 15, 2008), aff’d by 393 F. App’x 554 (10th Cir. 2020).

Though Erasmus was not a bankruptcy case and the Court did not consider section 510(b), I find its reasoning on

this point of corporate law persuasive and, to the extent necessary to my holding, conclude that Claimants have not

converted their equity to debt here.

Since claimants in this case are equity investors seeking compensation for a

decline in the value of Telegroup’s stock, we believe that the policies underlying

§ 510(b) require resolving the textual ambiguity in favor of subordinating their

claims. Put differently, because claimants retained the right to participate in

corporate profits if Telegroup succeeded, we believe that § 510(b) prevents them

from using their breach of contract claim to recover the value of their equity

investment in parity with general unsecured creditors. Were we to rule in

claimants’ favor in this case, we would allow stockholders in claimants’ position

to retain their stock and share in the corporation’s profits if the corporation

succeeds, and to recover a portion of their investment in parity with creditors if

the corporation fails.

Telegroup, 281 F.3d at 142.

Like the claimants in Telegroup, the Claimants here are seeking to recover their equity

investment. As they state in their briefs, Claimants purchased the shares of RTI knowing that

they would be cashed out by the Merger.11 While Claimants argue this distinguishes them from

the claimants in Telegroup, I find the opposite to be true. The fact that Claimants purchased

shares in view of the Merger demonstrates an intention to take on the risk and return expectations

of a shareholder rather than those of a creditor. Claimants affirmed this intention when they

chose to exercise dissenters’ rights. On the upside, the court conducting the appraisal might have

found that the fair value of Claimants’ stock far exceeded the merger price (issuing a judgment

that would, in essence, allow Claimants to share in the corporation’s profits). On the downside,

the court might have found that the fair value was far below the merger price (issuing a judgment

that would reflect Claimants’ share of the corporation’s losses). If I rule here that the Claims are

not subordinated, I would effectively be removing that downside risk by allowing Claimants to

recover their investment in parity with creditors following the corporation’s demise. This is

precisely the result that section 510(b) was designed to prevent. See In re Int’l Wireless

11 D.I. 1359, at 15 n.9; D.I. 1360 at 16 n.9.

Communications Holdings, Inc., 68 Fed. Appx. 275, 278 (3d Cir. 2003) (“To allow shareholders

to become creditors when they assert fraud claims would (improperly) give them the best of both

worlds: a claim to their stock’s appreciation in the upside case and creditor-like protection on the

downside.”).

Claimants cite to several cases for the proposition that their claims are not of the type

intended to be subordinated by section 510(b). But each of those cases is distinguishable either

because the claimants had converted their equity interests to debt prepetition or because

subordination would not serve the policy interests of section 510(b). See, e.g., In re CIT Group

Inc., 460 B.R. 633, 639 (Bankr. S.D.N.Y. 2011) (subordination not required despite existence of

causal nexus because purposes of the statute would not be served by subordination where

claimant “contracted for the status of a creditor and not a holder of equity”); In re Mobile Tool

Int’l, Inc., 306 B.R. 778, 782 (Bankr. D. Del. 2004) (subordination not required where claimants

exchanged their stock for promissory notes, thereby removing the variable nature of their

investment and placing themselves in the position of general creditors); In re DirectTV Latin

America, LLC, 2004 WL 302303, at *4 (D. Del. Feb. 4, 2004) (reversing bankruptcy court’s

decision to subordinate because “while [claimant] held equity in name, it possessed few of the

characteristics consistent with that status[,]” such that subordination would not serve the

intended purpose of section 510(b)”); In re MarketXT Holdings Corp., 361 B.R. 369, 389-90

(Bankr. S.D.N.Y. 2007) (subordination not necessary where there was an insufficient causal

nexus between the stock purchase and the claim and where subordination would not further the

policies underlying section 510(b)). As I discussed above, the same cannot be said of the

Claims here. Accordingly, section 510(b) requires their subordination.

It is therefore ORDERED that the Objections are SUSTAINED and the Claims shall be

treated as Class 7 shareholder claims and subordinated under 11 U.S.C. § 510(b) to the claims of

Class 4 general unsecured creditors.

Dated: August 4, 2021 ~f

J T. DORSEY, Uf/s.B.J.

10