FINNEGAN v. BAKER (2019)

MEMORANDUM AND ORDER PURSUANT TO RULE 1:28

The defendants-in-counterclaim, J. Brent Finnegan, Kenneth F. Phillips, and Karen W. Finnegan, appeal after a jury verdict finding them liable for malicious prosecution and breach of fiduciary duty. They argue that the judge erred by giving issue preclusive effect to prior judicial findings and by admitting evidence of subsequent litigation conduct. We affirm.

Background. The facts underlying the dispute are set out in detail in an earlier opinion of this court. See Finnegan v. Baker, 88 Mass. App. Ct. 35, 36-39 (2015). We recite only those facts that are uncontested and necessary to understand the issues in this appeal.

Finnegan,⁴ Phillips, Richard Baker, Peter Marcia, and Salvatore Percia founded VBenx Corporation in 2004. At least through June 2011, VBenx was not profitable and relied on loans from shareholders to fund its operations. These loans came primarily from Finnegan and Marcia.

In early 2009 Walter Smith, a friend and former colleague of Marcia, joined VBenx. In April 2009 he made an initial loan of $ 100,000 and in exchange received a promissory note, which was convertible, at the holder's option, to VBenx stock. The note did not specify the price per share.

In May 2009 Smith offered to loan VBenx an additional $ 300,000. The shareholders met on May 18, 2009, and voted to accept Smith's $ 300,000 loan. The same day, Smith sent Baker a draft promissory note, which included the right to convert to VBenx stock at a price of $ 0.1575 per share.

Soon thereafter, Finnegan had a falling out with Marcia and Smith, for reasons that are disputed but not material to this discussion. As a consequence, in late July 2009, Finnegan and Phillips called for a special meeting of the board of directors to discuss VBenx's financial performance and corrective next steps, including changes to the management structure. Upon receiving the meeting agenda, Marcia and Smith promptly converted their outstanding notes to VBenx stock at $ 0.1575 per share; this effectively gave them control of the company.

In September 2009 Finnegan and Phillips filed suit against Baker, Marcia, Smith, and D. Michael Sherman, claiming breach of fiduciary duty, among other claims, in connection with Marcia's and Smith's conversion of their loans.⁵ The essence of the complaint was that the board of directors did not authorize the conversion price of $ 0.1575 per share as set forth in Smith's May 2009 note. Rather, the complaint alleged, the shareholders agreed at the May 18, 2009 meeting that Smith's loan would be secured by a note convertible on terms consistent with “historical practices,” which required that the conversion price be “determined by the most recent internal or external investment.” When Marcia and Smith converted their notes, the most recent internal or external investment, according to the complaint, was Smith's April 2009 loan, the terms of which reset the conversion price to between $ 1.15 and $ 3.03 per share.

Finnegan's and Phillips's claims were tried jury-waived over twenty-five days in 2011. After hearing the testimony of sixteen witnesses, and admitting over 800 exhibits in evidence, the judge (first judge) issued a comprehensive, seventy-seven page written decision finding against Finnegan and Phillips on all claims. Separate and final judgment entered under Mass. R. Civ. P. 54 (b), 365 Mass. 820 (1974), and we affirmed the judgment on appeal. See Finnegan, 88 Mass. App. Ct. at 46.

Meanwhile, Baker, Marcia, and Smith amended their counterclaims to add a claim for malicious prosecution, alleging that Finnegan and Phillips brought the lawsuit for improper purposes and without a reasonable belief that their claims were valid. They then filed what they called a “motion for judicial notice,” asking “the [c]ourt to take judicial notice of certain facts found by [the first judge] in the prior trial.” After a hearing a different judge (second judge) allowed the motion, explaining that he would have ruled the same way whether he treated the question as one of judicial notice, law of the case, or issue preclusion. In allowing the motion, the second judge made clear that, while the parties could not offer evidence “the sole purpose of which would be to counter a finding of fact by [the first judge],” “[i]f [the evidence] ha[d] some other purpose in the case, then it [could] come in.”

After dismissal of some of the counterclaims, the malicious prosecution claim, along with a claim for breach of fiduciary duty, were tried to a jury in May 2017. At the start of trial, the second judge read several of the first judge's findings to the jury, instructing them that “these are facts found in the first case and facts for the purposes of this trial as well.” ⁶ Finnegan's and Phillips's arguments on appeal focus on the following findings:

• “At the May [18, 2009] meeting, ․ the shareholders approved additional capital in the form of a $ 300,000 convertible note from Smith on the same terms as recent notes taken from shareholders, nine-percent interest presently convertible at 15.75 [cents] per share”;

• “No formal determination of the per-share price or value of Smith's $ 100,000 investment [in April 2009] was ever determined”;

• “Not all of the notes either issued or in draft contained the most recent internal or external investment language ․, nor was that language [f]ormally approved or adopted by the [b]oard of [d]irectors”; and

• “By any reasonable measure or evaluation of the company's financial situation, in April of 2009, a value of 15.75 cents per share for the non-[restricted] shares of VBenx was reasonable.”

Nine days of trial ensued, during which twelve witnesses testified and 242 exhibits were admitted in evidence. The jury ultimately returned a verdict against Finnegan and Phillips on both counterclaims.

Discussion.⁷ 1. Issue preclusion. Though the parties' arguments in the trial court varied about what doctrine governed the admissibility of the first judge's findings, they agree on appeal that the operative analysis is issue preclusion. More precisely, this case involves the application of mutual offensive issue preclusion, which requires “identity of issues, a finding adverse to the party against whom [preclusion] is being asserted, and a judgment by a court or tribunal of competent jurisdiction.” Miles v. Aetna Cas. & Sur. Co., 412 Mass. 424, 427 (1992). The issues on which preclusion is sought must also “have been essential to the underlying judgment.” Bellermann v. Fitchburg Gas & Elec. Light Co., 470 Mass. 43, 60 (2014), quoting Matter of Brauer, 452 Mass. 56, 67 (2008). “The central inquiry then becomes whether [those issues were] ‘the product of full litigation and careful decision.’ ” Miles, 412 Mass. at 427, quoting Home Owners Fed. Sav. & Loan Ass'n v. Northwestern Fire & Marine Ins. Co., 354 Mass. 448, 455 (1968).

The defendants raise three arguments why issue preclusion should not apply here: (1) that the issues in the first trial were not identical to those in the malicious prosecution trial; (2) that a shift in the burden of proof triggered an exception to preclusion; and (3) that, even if the conditions for preclusion were met, the second judge should not have treated the first judge's findings as binding because of the risk of jury confusion and unfair prejudice.⁸ As to the first two issues, the defendants contend that our standard of review is de novo, while the plaintiffs say it is abuse of discretion; we do not resolve this disagreement and instead will assume, without deciding, that the defendants are correct. As to the third issue, the parties agree that our review is for abuse of discretion. See Pierce v. Morrison Mahoney LLP, 452 Mass. 718, 731 (2008), quoting Bar Counsel v. Board of Bar Overseers, 420 Mass. 6, 11 (1995) (“we afford the trial judge ‘wide discretion in determining whether’ applying offensive collateral estoppel ‘would be fair to the defendant’ ”).

a. Identity of issues. While acknowledging that the two trials “shared a nucleus of operative facts,” the defendants contend that identity of issues is still lacking because the overarching questions to be answered in each trial were different. As their argument goes, “[t]he question in the first trial ․ was ․ whether Finnegan had adduced sufficient evidence to prevail in his claims that the terms of Smith's $ 300,000 note were not validly approved by the [b]oard [of directors]”; in contrast, “the question in the malicious prosecution trial was merely whether Finnegan reasonably believed in the existence of facts sufficient to make out a colorable claim that Smith's conversion rights were invalid.” Because these questions are different, the defendants posit that “the facts from the first case have no preclusive effect in the second.”

We view the defendants' argument in substance to be that issue preclusion is inapplicable because the two trials involved different overall claims. But that is incorrect. “Courts have repeatedly applied the doctrine of collateral estoppel to a second action asserting a different claim from the first.” Alba v. Raytheon Co., 441 Mass. 836, 843 (2004). See Bellermann, 470 Mass. at 61 (“Issue preclusion may apply where the two adjudications involve the same subsidiary findings, even if they involve different ultimate claims”). Regardless of the claims asserted, the subsidiary findings made by the first judge, and given preclusive effect by the second judge, concerned facts that were common to both trials. The defendants had a full opportunity to litigate in the first trial the factual issues as to which preclusion was applied, including whether the shareholders approved a conversion price of $ 0.1575 per share at the May 18, 2009 meeting, whether Smith's April 2009 loan reset the conversion price because it was “the most recent internal or external investment,” and whether a price of $ 0.1575 per share was reasonable in light of VBenx's financial situation at the time. Issue preclusion operated to bar the defendants from relitigating these same factual issues in the second trial. See Alba, 441 Mass. at 842-843.

b. Shifting burdens of proof. An exception to issue preclusion exists where “[t]he party against whom preclusion is sought had a significantly heavier burden of persuasion with respect to the issue in the initial action than in the subsequent action; the burden has shifted to his adversary; or the adversary has a significantly heavier burden than he had in the first action.” Jarosz v. Palmer, 436 Mass. 526, 532 (2002), quoting Restatement (Second) of Judgments § 28(4) (1982). The defendants argue that this exception applies because, in the first trial, they had the burden to prove by a preponderance of the evidence that Marcia and Smith did not validly convert their notes, whereas, in the malicious prosecution trial, the plaintiffs had the burden to prove by a preponderance of the evidence that the defendants lacked probable cause to believe in the validity of their claims.

We disagree. Even where the burdens have shifted, issue preclusion is still applicable “if the burden of proof did not affect the outcome of the prior determination.” Bellermann, 470 Mass. at 64. There is no indication from the first judge's decision that his factual findings turned on which party bore the burden of proof.⁹ The defendants cannot take advantage of the exception in these circumstances because the difference in burdens had no bearing on the issues that were actually afforded preclusive effect. See id. (despite shift in burden of proof, judge could give preclusive effect to agency's factual findings where “the decision contain[ed] no language suggesting that the [agency's] factual findings rested on [the precluded party's] failure to carry its burden”). See also Lane v. Sullivan, 900 F.2d 1247, 1252-1253 (8th Cir. 1990) (though allocation of burdens different in first and second actions, issue preclusion applicable where first judge made “findings that [were] more definitive than those couched only in terms of the applicable evidentiary standard”).

c. Prejudice. The defendants next argue that, even if the requirements for preclusion were met, the second judge's ruling was still an abuse of discretion because the admission of the first judge's findings “hopelessly confused the jury” and caused unfair prejudice to the defendants. Our review of the record leads us to conclude, however, that the defendants have not shown prejudice, let alone unfair prejudice, resulting from the second judge's ruling.

The second judge's order did not, as the defendants argue, deprive them of the ability to defend themselves against the malicious prosecution claim. The malicious prosecution trial turned on whether the defendants brought the original action without “probable cause,” meaning a “reasonabl[e] belie[f] that a sound chance existed that [their] claim[s] might be held valid on adjudication.” Chervin v. Travelers Ins. Co., 448 Mass. 95, 104-105 (2006). The second judge did not preclude evidence bearing on this issue, stating twice at the hearing on the plaintiffs' motion that he would allow evidence that was relevant for a purpose other than contradicting a finding made by the first judge. The second judge also explained several times during trial that evidence concerning the defendants' state of mind was admissible. For example, when the plaintiffs' counsel objected to the offer of certain promissory notes on grounds that they related to “a precluded issue,” the second judge ruled that “[t]he issue here is whether or not [Finnegan] had a good faith basis to believe in the allegations of the complaint․ If there's stuff in the notes ․ from which the jury can conclude that he had a good [faith] basis, then he can bring it out.” As another example, the second judge attempted at sidebar to focus the attorneys on the issue being tried -- in his words, “whether there was good reason to believe the theory regarding the convertibility of these notes that was advanced in the underlying case” -- and stated that just because the first judge made findings adverse to the defendants “[did not] mean that at the time the case was brought one might not reasonably believe that other facts existed ․ That is what this case is about.”

It is thus clear that the second judge did not preclude the defendants from offering evidence to show that, despite what the first judge found, the defendants reasonably believed in the validity of their claims when they filed the lawsuit. Indeed, the defendants do not point us to where, at any point during the nine-day trial, the second judge ruled evidence inadmissible based on the preclusive effect of the first judge's findings.¹⁰ Though the defendants assert that the first judge's findings prevented them from presenting a defense on three key issues, the record does not bear out their assertion. Regarding the finding that the shareholders approved the terms of Smith's note at the May 18, 2009 meeting, though the defendants were obligated to accept that fact as true, they could still have offered evidence that they reasonably did not believe it to be true when they brought suit.¹¹ Likewise, the defendants could have offered, and did in fact offer, evidence that they reasonably believed that the conversion price was set by “the most recent internal or external investment” based on promissory notes in Finnegan's possession containing that language. And finally, the first judge's finding regarding the reasonableness of the $ 0.1575 conversion price did not preclude the defendants from offering evidence that they had a good faith basis to believe that that price was too low. For instance, nothing in the second judge's order prevented the defendants from introducing evidence that “[i]t is notoriously difficult to value a startup company in its infancy,” as the defendants now argue on appeal.

The defendants point to remarks made by the second judge that the case was “confusing” as indicative of the likelihood that the admission of the first judge's findings confused the jury. But based on our review of the transcript, it is clear to us that most of the confusion to which the second judge referred was a consequence of the manner in which the parties chose to try the case. Despite the second judge's repeated attempts to focus the parties on the question at hand -- i.e., whether the defendants had probable cause to file suit -- the parties offered evidence on numerous matters that were irrelevant or, at best, tangentially relevant to that question. As the second judge noted, the jury “heard a lot of testimony” about issues “having nothing whatsoever [to] do with this case.” A fair reading of the transcript thus reflects that any risk of juror confusion resulted mostly from the way that the case was tried, and not from the admission of the first judge's findings.¹² Indeed, toward the end of the trial, the second judge commented that the first judge's findings were “getting lost in the ether in all of this.”

In the end, “fairness is the decisive consideration in determining whether to apply offensive issue preclusion,” and we conclude that the second judge's order was more than fair to the defendants. Pierce, 452 Mass. at 730, quoting Matter of Goldstone, 445 Mass. 551, 559 (2005). The defendants had ample opportunity, over the course of a twenty-five day trial, to litigate the subsidiary factual issues that were resolved by the first judge. The second judge appropriately precluded the defendants from relitigating the truth of those facts, while putting no limitation on evidence offered for some other purpose, such as to show the defendants' state of mind. We think that the second judge struck the proper balance and discern no abuse of discretion in his ruling. See Pierce, 452 Mass. at 731.¹³

2. Subsequent litigation conduct. Finally, the defendants argue that the second judge abused his discretion by allowing the plaintiffs to present evidence that the defendants engaged in subsequent litigation conduct premised on legal theories that were arguably inconsistent with those in their original complaint. The second judge concluded that the evidence was relevant on the question of attorney's fees, as well as to show circumstantially that the defendants did not have a good faith belief in the truth of the facts that they alleged at the outset of the case. The defendants have failed to demonstrate that the second judge abused his discretion in this respect. Furthermore, even assuming error, the defendants' argument still fails because they have not shown how the judge's ruling prejudiced them in the context of the trial as a whole. See Coady v. Wellfleet Marine Corp., 62 Mass. App. Ct. 237, 244 (2004) (“The admission of evidence injuriously affects the substantial rights of a party where the jury might have reached a different result if the evidence had been excluded”).

Conclusion. We affirm the judgment and the postjudgment orders denying the motions for judgment notwithstanding the verdict and for a new trial.

So ordered.

affirmed in part.

FOOTNOTES

4.   All references to “Finnegan” are to J. Brent Finnegan.

5.   The defendants' counterclaims were stayed pending resolution of Finnegan's and Phillips's claims.

6.   For context, the reading of the first judge's findings spans fourteen pages of the trial transcript, while the transcript overall comprises over 1800 pages. On the eighth day of trial, the second judge read more of the first judge's findings into the record, but this was done at the request of Finnegan and Phillips.

7.   We will refer in our discussion to Baker, Marcia, Smith, Sherman, and VBenx, the plaintiffs-in-counterclaim, as “the plaintiffs” and to Finnegan and Phillips, the defendants-in-counterclaim, as “the defendants.”

8.   We disagree with the plaintiffs' contention that the defendants waived essentially all of their arguments on appeal by not raising them in the trial court. The record shows that, though the defendants did not raise their arguments with precision, this was due at least in large part to the plaintiffs' initially characterizing their motion as one “for judicial notice.” The defendants should not be penalized for the plaintiffs' own lack of precision, as it was the latter's burden to establish that the elements of issue preclusion were met. See Alicea v. Commonwealth, 466 Mass. 228, 236 (2013). We note also that the second judge stated that the defendants were not “waiving any rights of appeal.”

9.   Though the first judge mentioned in his rulings of law that Finnegan and Phillips had the ultimate burden to prove their claim of breach of fiduciary duty, he made no suggestion that the burden of proof affected his factual findings.

10.   We have identified two such instances. The first concerned a peripheral issue that the second judge found irrelevant to “whether there was probable cause for the allegations in the complaint.” The second concerned evidence that the second judge also found irrelevant to probable cause because the evidence was not known to the defendants when they filed their complaint. See Chervin, 448 Mass. at 104 (“We examine the information known to [the defendant] at the time [it] instituted the complaint rather than ․ what may turn out later to have been the actual state of things” [quotations and citations omitted] ).

11.   Contrary to the defendants' suggestion, the second judge did not prevent them from offering evidence that Smith's note was not circulated at the May 18, 2009 meeting and that Finnegan never saw the minutes of the meeting until after Smith had already converted the note. The defendants do not provide any record citations to show that they tried to offer such evidence, but the second judge excluded it. We also note that, at a sidebar discussion, the second judge expressly stated that “[t]he fact that the conversion price was 15 cents per share is a fact in this case” but “[t]hat doesn't mean that somebody at the outset might have ․ a reasonable basis to believe that you could convince a judge otherwise.”

12.   While we agree with the defendants that the plaintiffs' closing argument relied heavily on the first judge's findings, we think that too was a natural consequence of the manner in which the case was tried. Ultimately, though the defendants raise general allegations of unfair prejudice and jury confusion, they offer no record support for their claim that the admission of the first judge's findings deprived them of a fair trial.

13.   The defendants cite cases from other jurisdictions that they say “recognize[ ] the inherent potential for confusion and unfair prejudice ․ where prior judicial findings are admitted as binding facts at a subsequent jury trial.” Those cases are not analogous to this one. Several concerned not the application of issue preclusion, but whether prior judicial findings were admissible in a later action, involving different parties, under the Federal Rules of Evidence. See United States Steel, LLC v. Tieco, Inc., 261 F.3d 1275, 1286-1288 (11th Cir. 2001); Nipper v. Snipes, 7 F.3d 415, 417-418 (4th Cir. 1993); Greycas, Inc. v. Proud, 826 F.2d 1560, 1566-1567 (7th Cir. 1987); Gamble v. Browning, 379 S.W.3d 194, 198-203 (Mo. Ct. App. 2012). Whelan v. Abell, 953 F.2d 663, 668-669 (D.C. Cir. 1992), is distinguishable because it involved review, under an abuse of discretion standard, of a judge's decision not to grant preclusive effect to prior judicial findings. And Comes v. Microsoft Corp., 709 N.W.2d 114, 119-121 (Iowa 2006), involved an error made by a judge in admitting 336 prior judicial findings without analyzing whether those findings were necessary and essential to the earlier judgment. The defendants here raise no such claim of error.