Novarus Capital Holdings, LLC v. AFG ME West Holdings, LLC
C.A. No. 2020-0331-JRS
| Del. Ch. | Jun 23, 2021Background
- Novarus (Kenealys' holding company) sold 18 Massage Envy clinics to a new Company in April 2019 in exchange for ~$16M cash and a 20% membership interest; Atticus/Drum control 80% and were designated Manager.
- Operating Agreement §8.06 (signed April 5) provided the Manager could take up to 10% of the Company’s “gross operating revenue”; Novarus alleges parties intended and agreed to 10% of “net operating revenue.”
- On April 4, Novarus’ counsel emailed Atticus’ counsel asking to change Section 8.06 to “net”; Atticus’ counsel circulated a clean version reflecting that change the same day, but the executed agreement used “gross.”
- After closing, Atticus continued to take fees based on gross revenue and allegedly diverted new clinic acquisitions to affiliates, excluding the Company/Novarus; Novarus sued asserting reformation, declaratory relief, willful misconduct, unjust enrichment, fraudulent inducement, and breach of the implied covenant.
- Defendants moved to dismiss; the Court (applying Georgia substantive law) denied dismissal for reformation, declaratory relief, willful-misconduct (fee overdrawing) and implied-covenant claims, but dismissed claims for corporate-opportunity misappropriation and all claims against Drum for unjust enrichment and fraudulent inducement.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Reformation of §8.06 (net v. gross) | Parties mutually intended 10% of net; April 4 emails show agreed correction; instrument contains scrivener mutual mistake. | The executed term is clear; no meaningful difference alleged between net and gross; no prejudice/windfall shown. | Denied dismissal — plausible mutual mistake; reformation claim survives. |
| Declaratory judgment: meaning of “net operating revenue” | “Net operating revenue” should mean the defined “Net Income” in the Agreement; an actual controversy exists because defendants equate net and gross. | Term is ambiguous but court should reject plaintiff’s novel conversion of revenue to net income as unreasonable. | Denied dismissal — actual controversy exists and term’s meaning cannot be resolved as a matter of law on this record. |
| Willful misconduct — charging fees (Manager) | Atticus knew of the mistake and still charged 10% of gross, intentionally enriching itself; conduct was willful and reckless. | Fees comply with the written agreement; no willful misconduct. | Denied dismissal — allegation that Atticus continued to take inflated fees after notice supports a willful-misconduct claim. |
| Willful misconduct — corporate opportunities | Atticus/AFG breached duties by diverting opportunities/closings to affiliates, depriving Company/Novarus. | Operating Agreement expressly permits AFG and affiliates to pursue other businesses and renounces Company’s interest in such opportunities. | Granted dismissal on this theory — the contract’s provisions (Sections 8.05/13.01) permit affiliates to pursue and keep other opportunities. |
| Claims against Drum (unjust enrichment & fraudulent inducement) | Drum personally misled Novarus and was personally enriched by Atticus’ excess fees; made oral promises to induce the deal. | Merger clauses in MIPA/Operating Agreement bar extra-contractual fraud claims; unjust enrichment unavailable where contract governs direct relationship. | Granted dismissal — unjust enrichment duplicative of contract remedy; fraudulent inducement barred because Novarus affirmed written agreements containing comprehensive merger clauses. |
| Breach of implied covenant of good faith and fair dealing | Company abused discretion and acted in bad faith by knowingly using the wrong metric to maximize fees; fees far exceed historical/ reasonable management costs. | §8.06 grants discretion; no implication of bad-faith claim as a matter of law. | Denied dismissal — language allows an implied duty; factual allegations suffice to infer bad faith at pleading stage. |
Key Cases Cited
- Curry v. Curry, 473 S.E.2d 760 (Ga. 1996) (reformation available where mutual mistake of instrument exists)
- Ledford v. Smith, 618 S.E.2d 627 (Ga. App. 2005) (discussing reformation and mutual mistake standards)
- First Data POS, Inc. v. Willis, 273 Ga. 792 (Ga. 2001) (comprehensive merger clause can bar fraud claims based on prior representations)
- WirelessMD, Inc. v. Healthcare.com Corp., 610 S.E.2d 352 (Ga. App. 2005) (merger clause precludes extracontractual fraudulent-inducement claims even when alleged promise is future performance)
- Automatic Sprinkler Corp. v. Anderson, 257 S.E.2d 283 (Ga. 1979) (contrast between contracts that displace implied covenant by granting absolute discretion and those that do not)
- Abry P’rs V, L.P. v. F & W Acq. LLC, 891 A.2d 1032 (Del. Ch. 2006) (governing choice-of-law and fraudulent-inducement/integration clause discussion)