March 27, 2006

New York State Supreme Court grants summary judgment dismissing all causes of action against Warburg and its affiliates arising from Warburg’s investment in QoS Networks Limited.

Willkie litigators, led by partner Roger Netzer, recently led private equity firm Warburg Pincus to victory in a series of actions heard before the New York State Supreme Court.  In a recent decision, Justice Herman Cahn granted summary judgment dismissing all causes of action against Warburg and its affiliates arising from Warburg’s investment in QoS Networks Limited, an Internet start-up that went bankrupt in 2002.  The former management team of QoS, Lawrence Daniel O’Neill, James Valentine and Michael Keane, together with QoS’s non-management shareholders, had sued Warburg for fraud, breach of fiduciary duty and breach of contract alleging that Warburg, the majority stockholder of QoS, had caused the failure of the company and its eventual bankruptcy.

The Court dismissed the claims for fraud by an earlier decision in 2005.  Plaintiffs’ remaining claims alleged that Warburg had prevented a capital restructuring in 2001 that would have permitted QoS’s survival and eventual success.  The Court dismissed all these remaining claims, stating “The record shows that the Warburg defendants, in refusing to vote in favor of the restructuring (the alleged misconduct upon which plaintiffs have based their claim), were exercising their specific and expressly bargained-for rights contained in their Subscription and Shareholder agreements and the Articles of Association, in a manner clearly contemplated by all the parties to those agreements.”   The Court held further, “plaintiffs have produced no evidence which might suggest that defendants voted their shares against the resolutions for an illegitimate purpose or in bad faith. . . . Indeed, it would appear that under such circumstances, defendants’ insistence that any restructuring be contingent upon a firm offer of new investment sufficient to keep the Company going as a viable concern, was neither illegitimate nor imprudent.”

The Court also found that the shareholder plaintiffs lacked standing because the alleged damage was suffered by the corporation itself rather than by its shareholders and that such claims must be asserted derivatively for the benefit of the corporation.

The Court dismissed all claims of the management shareholders, including those based  on Warburg’s alleged breach of its loan contracts with them, stating, “As plaintiffs have neither established that they performed their obligations under the contracts, nor identified the specific obligations breached by defendants, this cause of action must fail.”  The Court noted that Warburg had previously  won judgments against each of the management shareholders for their own breach of the same agreements, “after necessarily finding that the Warburg defendants had  fully performed their obligations under the agreements, and that each of the plaintiffs herein had breached.”  Each of the previous judgments that Warburg had won against the management shareholders has been affirmed by the Appellate Division, First Department.  Warburg’s counterclaims against the management shareholders were unaffected by the Court’s rulings and remain pending.

In addition, the Court dismissed plaintiffs’ claim for damages based on lost profits of $150 million on the grounds that recovery for lost profits would be speculative in light of the fact that QoS had no proven track record of profitability.

In a related victory, last month the Appellate Division, First Department, reversed and vacated a stay that QoS had won against Warburg before a judge other than Justice Cahn.   The stay had  prevented Warburg from pursuing its claims against QoS until the resolution of related proceedings in the State of Georgia.  The First Department vacated the stay,  observing that “but for QoS’s failure to disclose the numerous and pending related cases this matter should and would have been assigned to Justice Cahn . . . .”

Warburg’s outside counsel in the QoS matters have been partners Roger Netzer and Steven Gartner, and associates Mary Eaton, Dan Kozusko and Vivian Schiebel.     The matters were also handled by Warburg General Counsel Managing Director Scott A. Arenare. 

Willkie’s role in this case was featured in an article in the February 16 edition of the New York Law Journal.

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