Citibank, N.A. v. Morgan Stanley & Co. International

Citations: 724 F. Supp. 2d 398; 2010 U.S. Dist. LEXIS 47368; 2010 WL 1948547Docket: 09 Civ. 8197(SAS)

Court: District Court, S.D. New York; May 12, 2010; Federal District Court

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The case involves a dispute between Citibank, N.A. (plaintiff) and Morgan Stanley Co. International, PLC (defendant) regarding a credit default swap agreement. The central issue is whether Citibank breached the contract by liquidating a security without obtaining Morgan Stanley's written consent. The court ruled that the swap agreement clearly allows Citibank to take such action, leading to the granting of Citibank's motion for judgment on the pleadings and dismissal of Morgan Stanley's original counterclaims. However, Citibank must respond to new counterclaims regarding reformation and equitable estoppel, which were not addressed in the current motions.

The background includes the Capmark VI collateralized debt obligation (CDO), created in July 2006, which is backed by fixed-income assets and organized into tranches governed by an indenture involving Capmark as the issuer and LaSalle Bank as the trustee. In the event of a default, the Controlling Class, comprised of senior stakeholders, can direct the trustee to liquidate the collateral.

Citibank also provided a $366 million revolving credit facility to the Capmark VI CDO, documented in a credit agreement dated July 24, 2006. Citibank functions as both the sole lender and administrative agent for this facility, securing a priority repayment status over other investors, thus making it the primary stakeholder in the Capmark VI CDO.

On July 21, 2006, Citibank and MSIP entered into a credit default swap, obligating MSIP to cover losses incurred by Citibank under the Revolving Facility upon the occurrence of specified "Credit Events," particularly "Failure to Pay Principal." The swap agreement includes a confirmation, an ISDA Master Agreement, and the 2003 ISDA Credit Derivatives Definitions, collectively referred to as the "Swap Agreement," and is governed by New York law. Citibank acts as the "Buyer," and MSIP as the "Seller," with Capmark as the "Reference Entity" and the Revolving Facility as the "Reference Obligation." The swap is set for a three-year term, during which Citibank paid approximately $750,000 to MSIP for this protection.

The Swap Confirmation includes Section 6(d), which restricts Citibank from amending the Reference Obligation without MSIP's prior written consent. An integration clause in the agreement states it constitutes the entire understanding between the parties, superseding all prior communications. Additionally, the Master Agreement allows one party's breach to excuse the other's payment obligations until the default is rectified.

On August 5, 2008, the Capmark VI CDO experienced an Event of Default as its collateral balance fell below $366 million. Following this, Section 5.5(a) of the Indenture required the Trustee to retain the collateral unless directed otherwise by two-thirds of the Controlling Class. Citibank directed the Trustee to liquidate the collateral on March 9, 2009, but the proceeds were insufficient to cover the outstanding balance of the Revolving Facility, resulting in a shortfall of $246,368,966.51.

MSIP's obligations under the Swap Agreement are activated by a Credit Event, specifically a Failure to Pay Principal, as defined by the Swap Confirmation. This event occurs when the Reference Entity, Capmark, fails to pay the Expected Principal Amount on the Final Amortization Date, which is tied to the liquidation and distribution of assets securing the Reference Obligation, namely the Revolving Facility. After the full liquidation of the Collateral on July 13, 2009, the proceeds were insufficient to cover the outstanding principal, prompting Citibank to assert that a Failure to Pay Principal Credit Event had occurred. Citibank sought to transfer the Revolving Facility to MSIP to recover approximately $245 million in losses but faced MSIP's refusal. MSIP argued that Citibank's liquidation of the Collateral without consent violated section 6(d) of the Swap Confirmation, freeing MSIP from any payment obligations to Citibank, an assertion supported by the undisputed fact that Citibank did not obtain MSIP's consent for the liquidation.

Subsequently, in September 2009, Citibank initiated legal action against MSIP for breaching the Swap Agreement by not paying the claimed amount. MSIP responded in November 2009, counterclaiming that Citibank breached the agreement by liquidating the Collateral without consent. Citibank later filed motions for judgment on the pleadings and dismissal of MSIP's counterclaims, while MSIP sought judgment on its own counterclaims.

A party may file a motion for judgment on the pleadings under Rule 12(c) after pleadings close and before trial, provided there are no material factual issues and the party is entitled to judgment as a matter of law. The standard for this motion is identical to that for a Rule 12(b)(6) motion to dismiss for failure to state a claim. The court must accept the non-movant's allegations as true, along with any admissions from the movant's pleading, and draw reasonable inferences in favor of the non-movant. Legal conclusions and opinions presented as factual allegations are not given presumption of truth. A complaint must meet a "plausibility" standard, where factual content allows reasonable inferences for relief; mere consistency with the claim is insufficient. Courts are limited to the facts in the complaint and documents incorporated by reference, which can include those heavily relied upon by the non-movant. Judicially noticeable matters may also be considered. If materials outside the pleadings are presented and not subject to judicial notice, they should be excluded or the motion converted to one for summary judgment.

Under New York contract law, contracts are interpreted based on the parties' intent, with the contract itself serving as the primary evidence of that intent. A contract that is "complete, clear, and unambiguous" must be enforced according to its plain meaning. If the language is unambiguous and reasonable persons agree on its meaning, the court will interpret it as a matter of law. Conversely, if a contract is ambiguous, interpretation becomes a factual question unsuitable for resolution during motions for judgment on pleadings or dismissal. Ambiguity is determined by whether a term can reasonably suggest multiple meanings, evaluated in light of the entire agreement and relevant industry practices. Importantly, extrinsic evidence cannot create ambiguity in a clear and unambiguous contract, and differing interpretations by the parties do not inherently create ambiguity.

The analysis of this dispute relies solely on the contractual documents—the Indenture, Credit Agreement, and Swap Agreement—along with MSIP's admissions. Allegations or evidence outside these documents are not considered. MSIP claims that Citibank violated its consent rights under section 6(d) of the Swap Confirmation when Citibank ordered the liquidation of the Capmark VI CDO, interpreting this action as a consent related to the Revolving Facility. Citibank contends that it merely issued a "direction" under the Indenture, not a consent under section 6(d). 

The crux of the dispute is whether Citibank's actions triggered MSIP's consent rights. MSIP acknowledges that Citibank, acting as the Administrative Agent for the Revolving Facility, directed the liquidation but argues that Citibank's actions required prior authorization under section 6.07 of the Credit Agreement. This section stipulates that the Administrative Agent must receive direction or consent from the Required Lenders before taking action. MSIP posits that Citibank acted in two distinct steps: first, authorizing itself as the Administrative Agent, and second, directing the Trustee to liquidate the collateral.

MSIP contends that Citibank's authorization of the Capmark VI CDO's liquidation constitutes "consent" under section 6(d), thereby activating MSIP's rights. However, the argument is rejected, as Citibank's dual roles as Lender and Administrative Agent do not necessitate it to consent to its own actions. Citibank, as the sole Lender and Controlling Class, merely directed the liquidation, which does not equate to providing consent. The term "direction" is not included in the definition of "consent" in the Master Agreement, where "authorization" can occur through either consent or direction. The contracts consistently differentiate between "direction" and "consent," reflecting their distinct meanings—consent being acquiescence and direction being an action. MSIP's interpretation that "consent" encompasses "direction" via "authorization" is not supported, as sophisticated parties would have explicitly merged the terms if intended. Consequently, Citibank's direction did not require MSIP's consent under section 6(d). Citibank's motion for judgment on the pleadings is granted, dismissing MSIP's original counterclaims, while MSIP's motion is denied. Citibank is required to respond to newly added counterclaims within 20 days, and a conference is scheduled for June 10, 2010.

Collateralized debt obligations (CDOs) structure payments such that senior tranches receive payments before junior and equity tranches. Losses are allocated in reverse order of seniority, protecting senior tranches from losses incurred by junior tranches, which are compensated with higher interest rates due to their increased risk. Key references in the complaint and counterclaims highlight various contractual agreements and obligations between parties, including credit default swaps, where a protection buyer pays a premium for risk protection against a potential default by a third party. Citibank entered an agreement involving a fixed rate payment on a substantial commitment to a revolving facility, with specific terms outlined in swap confirmations and master agreements. Additionally, provisions from the indenture specify that in the event of a default, collateral must be retained and managed according to a priority of payments unless a significant majority of the controlling class directs otherwise. MSIP's counterclaims include a declaration regarding unmet conditions for payment obligations and a claim for breach of contract.

In April 2010, MSIP filed an Amended Answer and Counterclaims, introducing two new counterclaims for reformation and equitable estoppel. Citibank has not responded to this pleading, which is not currently before the Court. The document references various legal precedents that establish the enforceability of written agreements that are clear and unambiguous, without needing to reference extrinsic evidence. MSIP contends that as a condition for entering into a Swap, it required the same voting or consent rights from Citibank as provided under the Credit Agreement for the Swap's duration. Furthermore, MSIP disputes Citibank's distinction between "consent" and "direction," arguing that the distinction is irrelevant to current motions as the Complaint does not include such an allegation. However, the Court can still consider this difference regarding MSIP's claims about Citibank's actions, asserting that Citibank's direction to liquidate is sufficient to address MSIP's argument.

"Required Lenders" are defined as those holding at least two-thirds of the total commitment under the Revolving Facility. Citibank contends that section 6.07 of the Credit Agreement does not apply, arguing that the Revolving Facility was never syndicated, thereby making it impossible for Citibank to consent to itself in a manner contrary to other Lenders' interests, as no other Lenders exist before syndication. The term "Consent" encompasses various forms of approvals and actions, but the Master Agreement does not define "authorization." Definitions from legal dictionaries clarify that "consent" is agreement or approval, while "direction" implies giving orders or guidance. The Credit Agreement differentiates between "authorization" and "direction," indicating that "authorize" grants discretion, whereas "direct" mandates actions. MSIP claims that Citibank and MSIP reached an agreement to amend the Swap Confirmation, transferring Citibank's consent and voting rights under the Credit Agreement to MSIP for the duration of the Swap. If proven, this agreement may indicate a breach of the Swap Agreement by Citibank.