Case Title: Plaintiff v. Defendant

Citation: 

Docket Number: 42, 2016

State: delaware

Court: Delaware Supreme Court

Date: 2016-11-14T00:00:00Z

Document:
IN THE SUPREME COURT OF THE STATE OF DELAWARE 
 
FINGER LAKES CAPITAL 
 
  § 
PARTNERS, LLC, 
 
 
  § 
No. 42, 2016  
 
 
 
 
 
 
  § 
 
Plaintiff and Counterclaim 
  § 
 
Defendant Below,  
 
  § 
 
Appellant,  
 
 
  §  
 
 
 
 
 
 
  § 
Court Below—Court of Chancery 
 
v. 
 
 
 
 
  § 
of the State of Delaware 
 
 
 
 
 
 
  § 
 
HONEOYE LAKE ACQUISITION,   §  
C.A. No. 9742 
LLC, and LYRICAL OPPORTUNITY § 
PARTNERS, L.P.,  
 
 
  § 
 
 
 
 
 
 
 
 
 
 
 
 
  § 
 
Defendants and Counterclaim   § 
 
Plaintiffs Below,  
 
  § 
 
 
Appellees.  
 
 
  § 
 
 
 
  
 
 
 
Submitted:  October 13, 2016 
Decided:     November 14, 2016 
 
Before STRINE, Chief Justice; HOLLAND, VALIHURA, VAUGHN, and 
SEITZ, Justices, constituting the Court en Banc. 
 
Upon appeal from the Court of Chancery: AFFIRMED in part, REVERSED in 
part, and REMANDED.   
 
Andrew D. Cordo, Esquire and Toni-Ann Platia, Esquire, Ashby & Geddes, 
Wilmington, Delaware; Stuart Kagen, Esquire (argued) and Kyla Grant, Esquire, 
Kagen Law Firm, New York, New York, for Plaintiff and Counterclaim 
Defendant, Appellant, Finger Lakes Capital Partners LLC. 
 
David A. Jenkins, Esquire, Smith Katzenstein & Jenkins LLP, Wilmington, 
Delaware; Bijan Amini, Esquire (argued) and John W. Brewer, Esquire, Storch 
Amini & Munves PC, New York, New York, for Defendants and Counterclaim 
Plaintiffs, Appellees, Honeoye Lake Acquisition, LLC and Lyrical Opportunity 
Partners, L.P. 
 
SEITZ, Justice: 
2 
I. 
 
 
In 2003, Zubin Mehta and Gregory Shalov formed Finger Lakes Capital 
Partners as an investment vehicle to own several operating companies.  Mehta and 
Shalov contacted Lyrical Partners L.P. to participate in their venture.  Lyrical was 
the money partner, and Mehta and Shalov would manage the investments.  The 
parties signed a term sheet covering their overall relationship, as well as topics 
relating to two specific investments.  On the advice of counsel, Finger Lakes held 
each of its portfolio companies as separate limited liability companies with 
separate operating agreements.    As is often the case when things start out friendly, 
the parties’ financial relationship was less than perfectly documented.   
 
Over the course of a decade, the portfolio companies did not perform as 
expected.  Finger Lakes’ need for additional capital from Lyrical grew, and thus 
the parties agreed to allow Lyrical to “clawback” its investment money as added 
protection for its continued investment in the enterprise.     
Only one investment performed well and generated a substantial return when 
it was sold.  The others failed or incurred substantial losses.  The parties disagreed 
about how the proceeds from the one profitable investment should be distributed 
under the network of agreements governing their business relationship.  It then fell 
to the Court of Chancery to sort things out among the various agreements.     
3 
 
In an October 26, 2015 post-trial decision, the Court of Chancery held that 
the proceeds should be distributed first in accordance with the operating agreement 
governing the investment in the profitable portfolio company.  The term sheet and 
clawback agreement would then be applied to reallocate the distribution under their 
terms.  The effect of the court’s ruling was to distribute substantially all of the 
profits from the one successful portfolio company to Lyrical.  
 
 Finger Lakes argues on appeal that the profitable investment entity’s 
operating agreement superseded the overarching term sheet and clawback 
agreement; even if the clawback agreement was not superseded, the Court of 
Chancery applied it incorrectly; Lyrical cannot recover its unpaid management fees 
through a setoff or recoupment; and, the Court of Chancery improperly limited 
Finger Lakes’ indemnification to expenses incurred until Finger Lakes was 
awarded a partial judgment on the pleadings, instead of awarding indemnification 
for all expenses related to these proceedings.   
 
With one exception, we affirm the Court of Chancery’s judgment for the 
reasons stated in its decisions.  The court correctly held that the operating 
agreement did not supersede the term sheet or clawback agreement, because the 
parties intended that both agreements would govern their overall relationship, 
whereas the portfolio company operating agreements governed only the particular 
investment.  In other words, the operating agreement was intended to govern the 
4 
distribution from that investment entity, but the distribution from the specific 
investment entity would then be subject to the overarching term sheet and 
clawback agreement.  Further, the Court of Chancery’s application of the clawback 
agreement, although contrary to the position Lyrical took at trial, was supported by 
the record and will not be disturbed on appeal.  The court also correctly interpreted 
the operating agreement to limit Finger Lakes’ indemnification rights to expenses 
incurred up until the point that it obtained a partial judgment on the pleadings.  
After that point, the proceedings did not relate to Finger Lakes’ status as a member 
in that company and thus did not permit further indemnification.     
 
But, for the reasons set forth below, the Court of Chancery erred when it 
held that Lyrical could use setoff or recoupment to recover time-barred 
management fees.  Delaware statutory law, 10 Del. C. § 8120, precludes setoff for 
amounts owed outside the statute of limitations.  Further, Lyrical cannot assert its 
time-barred claims by way of recoupment because the defensive claims did not 
arise from the same transaction as Finger Lakes’ claims.   
 
We therefore affirm in part and reverse in part the judgment of the Court of 
Chancery, and remand to the court to amend its judgment in conformance with this 
opinion.  
 
 
5 
II. 
 
 
The Court of Chancery set forth the extensive facts that bear on this dispute.1  
Relevant to the one issue we address on appeal, the limited liability companies 
holding each portfolio company paid management fees to Finger Lakes.  The term 
sheet signed by Mehta, Shalov and Lyrical required them to split the management 
fees at the Finger Lakes’ level in an amount dependent on the source of the fees.  
After relations soured and Mehta and Shalov filed suit, Lyrical filed a counterclaim 
seeking to recover not only its share of management fees within the three years 
prior to filing its August 15, 2014 counterclaim, but also fees that were due more 
than three years before Lyrical filed its counterclaim—what the Court of Chancery 
called the “earlier amounts.”   
 
Finger Lakes argued that laches barred recovery of the earlier amounts.  The 
Court of Chancery rejected this argument, and held instead that “Lyrical can rely 
on the earlier amounts, which total $2,509,889, to support its affirmative defenses 
of recoupment and setoff, to which laches does not apply.”2  The court reasoned 
that the statute of limitations does not apply to these affirmative defenses.  On 
appeal, we review the Court of Chancery’s conclusions of law de novo.3 
                                                 
1 Finger Lakes Capital Partners, LLC v. Honeoye Lake Acquisition, LLC, 2015 WL 6455367 
(Del. Ch. Oct. 26, 2015). 
2 Id. at *21. 
3 SV Inv. Partners, LLC v. ThoughtWorks, Inc., 37 A.3d 205, 209-10 (Del. 2011). 
6 
 
Setoff and recoupment are related but different defenses.  “Set-off is a mode 
of defense by which the defendant acknowledges the justice of the plaintiff’s 
demand, but sets up a defense of his own against the plaintiff, to counterbalance it 
either in whole or in part.”4  Recoupment, on the other hand, “is a species of 
defense somewhat analogous to set-off in its character, the chief distinction, 
however, being that the defense of set-off arises out of an independent transaction, 
but the defense of recoupment goes to the reduction of the plaintiff’s damages for 
the reason that he, himself, has not complied with the cross obligations arising 
under the same contract.”5 
 
 
By statute, setoff is subject to a three year statute of limitations, and cannot 
be used to raise from the dead the earlier amounts.6  This makes sense, as a claim 
unrelated to the suit brought by the plaintiff should not gain new life from the 
                                                 
4 1 Victor B. Woolley, Practice in Civil Actions And Proceedings in the Law Courts of the State 
of Delaware § 492 (1906).  
5 Id. § 503. 
6 10 Del. C. § 8120 (“This chapter shall apply to any debt alleged by way of setoff or 
counterclaim on the part of a defendant. The time of limitation of such debt shall be computed in 
like manner as if an action therefor had been commenced at the time when the plaintiff’s action 
commenced.”).  Lyrical argues that the Court of Chancery’s opinion in Delaware Chems., Inc. v. 
Reichhold Chems., Inc., 121 A.2d 913, 918 (Del. Ch. 1956) suggests that a claim for setoff is not 
subject to statutes of limitations.  But the counterclaim in that case arose from the same 
transaction as the plaintiff’s claim.  Thus, if the defendant did seek leave to replead his claim 
defensively, as the Chancellor indicated he could, his claim would have been a recoupment 
claim, and therefore, would not have been time-barred.  See NVF Co. v. New Castle Cnty., 276 
B.R. 340, 353 (D. Del. 2002), aff’d, 61 Fed.Appx. 778, 2003 WL 328428 (3d Cir. Jan. 21, 2003) 
(Table) (noting that Delaware Chemicals involves recoupment and not setoff). 
7 
happenstance of the plaintiff having sued the defendant on an unrelated matter.  
Thus, Lyrical cannot rely on setoff to pursue the earlier amounts.    
 
Although Lyrical did not raise recoupment as an affirmative defense,7 time-
barred claims can be considered for recoupment when they arise out of the same 
factually-related transaction as the plaintiff’s claim.8  But the Court of Chancery’s 
decision in TIFD III–X LLC v. Fruehauf Production Co., L.L.C.9 explains why 
great care should be used before allowing a party to assert a stale claim as a basis 
to reduce its liability for a judgment in a suit brought by a party asserting timely 
claims.  The Court of Chancery explained that:  
[W]here the plaintiff’s claim and the defendant’s “defense” are 
factually unrelated, the defendant should not be permitted to assert 
that defense under the rubric of recoupment.  To hold otherwise would 
permit defendants to avoid statutes of limitation by creative pleading 
without serving the efficiency concerns underlying the doctrine, and 
would turn a narrow equitable doctrine designed to permit a summing 
up of liabilities in a tightly connected factual dispute into a wide-
ranging license to revive a relationship’s worth of stale grievances, 
which long predate the fresh dispute that brings the parties to court. 
                                                 
7 See App. to Opening Br. at 355: 
Defendants’ right to set off bars all or part of Plaintiff’s claims because of 
Plaintiff’s failure to acknowledge and abide by its contractual obligations to 
Defendants arising under the Clawback Agreement and Allocation Agreement, as 
well as potential non-compliance with its obligations under the HLA Agreement.  
8 TIFD III–X LLC v. Fruehauf Prod. Co., L.L.C., 883 A.2d 854, 859 (Del. Ch. 2004) (citing 80 
C.J.S. SET-OFF AND COUNTERCLAIM § 37 (2000)); Edgemoor Iron Co. v. Brown Hoisting Mach. 
Co., 62 A. 1054, 1055 (1906) (“Recoupment rests on the principle of the desirability of avoiding 
circuity and multiplicity of actions by allowing the defendant, at his election, to give in evidence 
matters growing out of the same transaction by way of defense. . . .”). 
9 883 A.2d 854 (Del. Ch. 2004). 
8 
To sanction such inefficiency and inequity in the name of recoupment 
is inadvisable.10 
 
 
In the TIFD III–X LLC case, the plaintiff sought a declaration for the 
interpretation of a distribution provision of a partnership agreement following the 
partnership’s dissolution, and in response, the defendant asserted stale recoupment 
claims based on the plaintiff’s alleged breaches of the partnership agreement over 
the life of the partnership.11  The Court of Chancery refused to allow consideration 
of the stale recoupment claims that would have affected the final distribution to the 
parties, holding that the plaintiff’s claim and the defendant’s recoupment “defense” 
were not factually related and thus did not arise out of the same transaction.12  That 
reticence was sound, and suggests that TIFD III–X LLC should be read, as we do, 
to require the transactional nexus requirement under recoupment to be tightly 
constrained. 
 
Here, we do not view as factually related Lyrical’s stale defense attempting 
to use the earlier amounts arising from the management of multiple portfolio 
companies, and Finger Lakes’ claim for a distribution of the proceeds from the sale 
of the portfolio company.  Like the Court of Chancery’s reasoning why the specific 
investment company agreements did not deal with the subject matter of the term 
                                                 
10 Id. at 865. 
11 Id. at 855-65.  
12 Id. 
9 
sheet and clawback agreement, we do not view the parties’ contest over the 
distribution of profit from the sale of one investment under the specific operating 
agreement, term sheet, and clawback agreement as factually related to Lyrical’s 
alleged failure to receive management fees owed to it under the term sheet, which 
Lyrical had a right to receive “no less often than annually” from 2004 to 2011.13  
Because the two issues are factually unrelated, Lyrical can only assert the earlier 
amounts as a setoff, which, as explained previously, is time-barred.   
 
Therefore, we affirm in part, and reverse in part, the judgment of the Court 
of Chancery.   On remand, the January 22, 2016 Final Order and Judgment of the 
Court of Chancery shall be amended to delete paragraphs 5.e. and 6.  Jurisdiction is 
not retained.        
                                                 
13 App. to  Opening Br. at 330.