No. 93-6946-BCommonwealth of Massachusetts Superior Court CIVIL ACTION SUFFOLK, SS.
September 4, 1996
MEMORANDUM OF DECISION AND ORDER ON PHASE I
BOTSFORD, JUSTICE.
This action is brought by the administrative trustee in bankruptcy (trustee) for Towers Financial Corporation (Towers), a Nevada corporation, to recover monies the trustee claims are due under contractual factoring agreements between Towers and seven health care facilities named as defendants.
Since the action was filed in December, 1993, the complaint has been amended three times, and a variety of parties have been added as defendants. Discovery was intense and lasted for almost two years. At some point during discovery, there was agreement reached that the claims would be tried in phases. Phase I, at issue here, concerns the interpretation of the contractual agreement between Towers and each of the seven health care facility defendants, a necessary foundation to determining what, if any, monies the trustee is entitled to recover.
Phase I was tried before me without a jury over the course of many days between October, 1995 and March, 1996. Set forth below are my findings of fact and then a discussion of legal issues presented which relate to those findings.
Findings of FactA. General Background.
1. The seven health care facilities concerned in the current phase of this action are the following: Long Island Rehabilitation Center of Nassau, Inc.(Nassau); New Medico Holding Co., Inc. d/b/a South Bay Community Re-Entry Services (South Bay); Community Re-Entry Services of Tennessee, Inc.(Tennessee); Valley Living Corp. a/k/a new Medico Community Re-Entry Center at Apple Valley (Apple Valley); Community Re-Entry Services of Louisiana, Inc. (Louisiana); New Medico Associates, Inc. d/b/a New Medico Rehabilitation Center of Philadelphia a/k/a Community Re-Entry Services, Inc. (Philadelphia); and Hilltop Manor of Niskayuna, Inc. (Hilltop). The facilities were or are all corporations owned or controlled by Charles Brennick and various of his family members, operating primarily through two other corporations, New Medico Associates, Inc. and New Medico Holding Co., Inc.
2. With the exception of Hilltop, which is a licensed nursing home facility, and Nassau, which offered some day treatment services, up until June of 1993 the New Medico facilities offered post-acute rehabilitation services, primarily for persons with closed head injuries. The services in the post-acute facilities were specialized, but generally not subject to any form of health facility licensure by governmental authorities. The seven New Medico facilities were located in a variety of states, but at the height of the New Medico operations — 1990 to early 1992 — they represented only a portion of the 50 facilities comprising the New Medico enterprise.
3. At all times relevant to this case, Charles Brennick, the founder and principal owner of New Medico, made the final decisions concerning all financial matters relating to the New Medico facilities and indeed all the New Medico operations. Gerald Tulman, who worked for New Medico from 1974 to 1993, was the president and chief financial officer of New Medico Associates or New Medico Holding Co., Inc., or both, and an officer of several of the facilities. Tulman was in charge of arranging all lending relationships for New Medico, subject to the approval of Brennick. The comptroller and treasurer of New Medico Associates, and New Medico generally, was Paul Dolan, an accountant who worked for New Medico from 1976 through June, 1993. Dolan was in charge of all bookkeeping and accounting operations for the facilities and New Medico as a whole.
All financial operations of the New Medico entities other than Hilltop were conducted out of the corporate offices of New Medico Associates and New Medico Holding Co. in Boston and in Lynn, Massachusetts. Hilltop’s financial operations were located primarily at the Hilltop facility in New York State.
4. Towers was a financial services company with corporate offices in New York City. Originally, Towers offered collection as well as factoring services to a variety of businesses, but originally not health care entities. By 1990, Towers was seeking to provide accounts receivable factoring services to hospitals, nursing homes and other health care facilities.
B. Negotiations Leading to the Factoring Contracts Between Towers and New Medico.
5. In 1990, New Medico was still expanding, and in the view of its principal officers, constantly in need of new money to finance its operations. For its part, Towers was looking for new health care factoring clients. In the summer of 1990, Steven Hoffenberg, president of Towers, approached Gerald Tulman of New Medico to test his interest in Towers factoring program. One or two meetings were held in Boston between Hoffenberg and the New Medico representatives — Charles Brennick, Tulman and Dolan — at which Hoffenberg reviewed the program. He explained that Towers would purchase selected accounts receivable of a health care provider, and then undertake collection work with respect to the receivables, contacting third party insurers on a continuing basis and generally working the receivables until they were paid.
6. Brennick was primarily interested in a financing arrangement, in which New Medico’s accounts receivable would be pledged as security for loans, but not sold. This preference was explained to Hoffenberg, who said in effect that loaning funds was not within the realm of possibility; under Towers program, Towers was required to purchase the receivables.
The New Medico representatives, still Brennick, Tulman and Dolan, then indicated that if the accounts receivable were to be sold, it was essential that notwithstanding the sale, New Medico alone would handle all collection of the accounts. In particular, New Medico alone would make contact with the insurance companies providing coverage for New Medico’s patients. Brennick and the other two made it clear that the services offered by the New Medico facilities were special if not unique, and it had taken a long time for New Medico to explain those services to and generally to educate and cultivate relationships with the patients insurers in order to ensure payment of the bills; the representatives foresaw disaster if Towers employees, not as familiar with the distinct services New Medico offered and without any relationships with the pertinent insurers, were to assume primary responsibility for collections.
7. Ultimately, Hoffenberg agreed to the condition that New Medico alone would do the insurer contact and collection work on its accounts receivables, but the summer meeting(s) did not end directly with a deal; in addition to the collection issue, New Medico was very concerned about the high interest rate that Towers was requiring the facilities to pay with respect to the cash advances made by Towers on uncollected accounts. Another meeting between Tulman of New Medico and Hoffenberg of Towers took place, and Hoffenberg finally agreed to an annual interest rate on the cash advance balances of 16 percent, rather than the 30 percent Towers had originally proposed. At this meeting, Tulman also strongly emphasized New Medico’s insistence on handling collections of the accounts receivable completely by itself.
8. Having the health care facility in sole charge of collection efforts was different, as the New Medico representatives were aware, from how Towers generally conducted its business. Generally, Towers took over responsibility for working the accounts from the providers.
9. With the interest rate and handling of collections resolved as issues, Brennick and Tulman of New Medico representatives concluded there was agreement on the business terms of the deal, and the plan for Towers to purchase selected accounts receivable from designated New Medico facilities could go forward. Working out the language of the contract provisions was left to the lawyers for New Medico and Towers.
10. The first New Medico facility to contract with Towers was Nassau. The actual contract terms are in large part taken from a form health care factoring contract that Towers had drafted before it began doing business with New Medico. However, negotiations between New Medico and Towers, carried on principally by their respective lawyers, resulted in some changes in the form language.
In particular, Towers sent the proposed Nassau contract to New Medico for signature on or about October 5, 1990. During the next month, it appears that Stanley Glickman, Esquire, then New Medico’s attorney, reviewed the contract, crossed certain provisions out and ultimately proposed changes which were included in a retyped version that was signed by Tulman on behalf of New Medico and sent back to Towers on November 5, 1990. This retyped document deleted a sentence in Paragraph 7 of the Towers-proposed contract which had required the health care provider to notify each of its patients insurers that Towers owned the accounts and had directed all payments be made to Towers. I infer that the deletion proposed by Glickman was designed to memorialize the parties agreements that (a) New Medico alone would be in contact with insurers, and (b) as specifically negotiated by Tulman, all insurance payments would be made directly to New Medico rather than to Towers.
The second change was made to Paragraph 5 of the Towers-proposed contract, which deals with rejected accounts. The paragraph provides, inter alia, that the New Medico facility agrees to cure defects relating to an account purchased by Towers that is a rejected account, and if the defects are not cured, to substitute another account for the rejected account. Glickman proposed lengthening the time periods the paragraph set for cure of and substitution for rejected accounts from five (for cure) and three (or substitution) days to seven and five days, respectively.
Towers accepted and executed the Nassau contract sent by New Medico with these changes. In addition, there was an exchange of side letters between New Medico and Towers which dealt with, inter alia, the 16 percent interest rate.
11. Between October, 1990 and February, 1991, Towers entered into a total of seven contracts with New Medico — one for each of the seven New Medico facilities listed at the beginning of these findings. The contracts were known (and are referred to in this memorandum) as health care purchase contracts (HCPCs). Each of the seven New Medico facility HCPCs is identical to the contract executed by Towers and Nassau, and thus each differs in some respects from the provisions of Towers form HCPC.
12. As indicated above, Tulman was a principal participant in the negotiations between New Medico and Towers which led to the factoring arrangement between the two. He was directly involved in forging the commitment on Steven Hoffenberg’s part to permit New Medico alone to handle collections of its own accounts receivable. He agreed on behalf of New Medico that collections would be New Medico’s responsibility, to be carried on principally at its Lynn office, and he negotiated with Hoffenberg that all payments by insurance companies were not to be sent directly to Towers but rather to New Medico’s Lynn office, where accountants retained by Towers would pick them up on a daily basis. Tulman understood that under the agreement with Towers, New Medico was standing behind the representations and warranties it made in the HCPCs, and that generally if a representation or warranty is breached, the warranting party must make good on it.
Charles Brennick, the person ultimately responsible for approving New Medico’s agreement to enter into a factoring relationship with Towers, only gave his approval when Towers agreed that New Medico would keep sole control over collection of its accounts receivable, including those sold to Towers; Towers role, in Brennick’s view, was to purchase the accounts and then, after New Medico did the collection work, to pick up the checks ultimately received from the insurers. Brennick understood that under this arrangement, if a particular account receivable was not paid, New Medico would have to make good the advance from Towers, or provide new accounts to Towers without an advance, in exchange for the uncollected accounts.
C. The HCPCs between Towers and the New Medico Facilities.
13. The HCPC between Towers and each New Medico facility provides at the outset that the subject matter of the agreement is the purchase and sale of certain accounts receivable of the facility. In very general terms, the agreement calls for Towers to select and buy eligible accounts receivable from each New Medico facility and to pay at the time of purchase an advance amounting to 50 percent of the collectible value of the account. When the account is ultimately paid by the insurer (in the words of the HCPC, the Third Party Obligor) — assuming the account is paid in full — Towers recoups its 50 percent advance as well as a fee equal to 5 percent of the account’s value, and remits the remaining 45 percent to New Medico. Towers is also entitled to interest on the outstanding cash advance balances; as indicated above, the parties negotiated the interest rate to be 16 percent. The contract also includes a detailed set of representations and warranties which the New Medico facility gives to Towers; many of these address issues concerning the ultimate collectibility of accounts. In addition, in Paragraph 5 the contract has terms that in substance are akin to default provisions.
The specific provisions of the HCPC which are at issue in Phase I of this case are quoted and considered in some detail in the discussion section of this memorandum of decision.
D. Implementation of the HCPCs: The Parties Conduct. Purchase of accounts receivable
14. In October, 1990, Towers began to purchase accounts receivable from Nassau. In the first instance, officials at New Medico sent to Towers selected agings for Nassau, reports which listed, inter alia, selected patients at the facility by name; dates of service; the total or gross amount of the billings previously booked by New Medico; the collectible amount of billings, which represented New Medico’s estimate of what portion of the total billings would be paid; the type of funding whether this was to be covered financially by insurance or some other method of payment; and the age of the account. As the additional New Medico facilities executed HCPCs, the same process was followed: New Medico sent the agings for the particular facility down to Towers in New York to enable Towers to make its initial purchase.
15. After Towers made its beginning purchase of accounts for each facility, New Medico no longer proffered new accounts by agings, but instead sent Towers sales reports for each facility. These reports contained much the same information as the agings, and were tied to particular patients and dates of service. New Medico billing cycles were generally ten days, and accordingly, the sales reports were generated approximately every ten days.
As time went on, and New Medico’s need for cash became more intense, New Medico would sometimes send Towers estimates of sales it anticipated making in the next billing cycle, and Towers would make a purchase based on the estimates. (Later, at the end of the billing cycle, New Medico did substitute the sales report for the estimates.)
16. Although Towers had the contractual right to reject proffered accounts, in practice Towers appeared not to have done so; it purchased virtually every account that New Medico presented, whether by way of agings, sales reports or estimates. Many of the proffered accounts indicated they were to be paid by an insurance company. However, New Medico also presented accounts the payment of which depended on the success of a lien placed on a potential recovery by the patient against an alleged tort feasor. These accounts were referred to by the parties as lien accounts. Such lien accounts did not qualify as reimbursable accounts as that term is defined in the HCPC, but Towers nevertheless purchased many if not all that New Medico presented. When Towers made a purchase of accounts (lien or otherwise), it immediately forwarded to New Medico by Federal Express a check for 50 percent of the accounts listed. The turn-around time for Towers purchases of accounts and transmittal of the cash advances appears to have been about one day.
Collections
17. In accordance with the understanding between New Medico and Towers, from the beginning of the relationship New Medico continued to handle totally on its own all collection efforts with respect to the accounts sold to Towers. New Medico’s director of collections for accounts receivable pertaining to post-acute facilities — which included six of the seven New Medico facilities — was Mabeth Richards. The director of collections for acute facilities (which included the seventh facility, Hilltop) was Leo Ramirez. According to Richards, whose testimony I credit, before New Medico’s factoring relationship with Towers, all decisions about whether and when to effect an adjustment or even a write-off of an account for any post-acute facility was done in her department, or by a group called the corporate collections task force. These adjustments would necessarily change the collectible value of an account. After Towers and New Medico were working together, Richards continued to handle collections on the New Medico accounts sold to Towers in the same way she always had, and her department or the task force continued to make all allowances and write-offs to these accounts. No one at New Medico ever instructed Richards to consult with Towers before making any of these types of adjustments to accounts sold to Towers, and neither she nor (to her knowledge) any of her staff ever did so. I also infer Leo Ramirez continued to handle adjustments or write-offs to Hilltop accounts in the same way before and after Hilltop executed its HCPC with Towers.
18. At all times relevant to the relationship between New Medico and Towers, Towers had a health care factoring collections division within the company, headed by John Alario. There were approximately 25 people working under Alario on collections. Their job was to contact insurance companies to inquire about, resolve outstanding issues concerning, and ultimately secure payment of the accounts receivable they were seeking to collect. Neither Alario nor to his knowledge any of the people under him ever worked on any New Medico accounts to collect them.
Moreover, Charles Chugerman, the executive vice president of Towers, made it clear to all Towers employees that there was to be no contact between or among Towers staff and New Medico — that any and all dealings with New Medico were to be handled by Chugerman or by Steven Hoffenberg, the president of Towers. The Towers employees involved in collections and credit information saw New Medico as occupying a unique position among Towers factoring clients — other than Medicare and Medicaid accounts, New Medico accounts were the only ones that Towers collectors had no connection with at all.
19. Although Towers personnel were thus not involved in the regular collection activity concerning New Medico accounts, Towers and New Medico nevertheless did exchange some information about the status of accounts. Anthony Bruzzese, who worked as a billing and sales manager for New Medico, was the person responsible for providing the sales reports from New Medico to Towers after every billing cycle. He or someone working for him also may have supplied certain other financial information to Towers from time to time when it was requested. The requests may have been for items such as individual client reports, which showed a history of dates of service, billings and payments for a particular patient; information about certain account adjustments or changes in funding source; and aging reports on accounts receivable for a particular facility. The requested information was sent to Charles Chugerman, the executive vice president of Towers or to Ted Widmayer, who worked on financial issues for Towers from 1990 into 1991. There was no evidence of what Chugerman or Widmayer did with any information supplied. Nor was there persuasive evidence that New Medico, through Bruzzese or any other person, sent financial information to Towers about New Medico’s operations on any regular basis.
20. During the period of the New Medico-Towers relationship, New Medico continued to receive all checks from insurers or other payors on accounts sold to Towers. With the possible exceptions of Hilltop and Nassau, the checks came in to the Lynn office. Towers retained a Massachusetts accounting firm, Gillis Kelly, to make daily collections of checks pertaining to the Towers-purchased accounts from New Medico.
With respect to its check collection activities, Gillis
Kelly would pick up from New Medico all checks relating in whole or in part to Towers-purchased accounts, and would also take copies of the insurers explanation of benefit forms (EOBs) which accompanied the checks. Each EOB contained information which might include the dates of service for the patient that the check was intended to cover, whether the check was a payment in full or in part for the services rendered, and the reason(s) for any less than full payment. Some of this information, including the codes which would provide an explanation of reasons for insurer adjustments, might well appear on the reverse side of the EOB and the evidence did not establish whether Gillis Kelly obtained copies of both sides of each EOB, or just the front side listing the check amount. Nor was it shown that Gillis Kelly copied or even saw any EOBs that may have been sent by an insurance company in connection with a complete denial of benefits — that is, EOBs which were not accompanied by a check of some amount.
Tracking what New Medico owed: New Medico’s performance
21. From the outset of Towers purchases of New Medico receivables, New Medico accounted for the advances made by Towers as indebtedness — a short-term loan payable. Early on, New Medico developed under Dolan’s direction a very detailed and thorough method to follow the funds involved in this loan, that is, the cash represented by Towers advances on purchased accounts. For each New Medico facility dealing with Towers, New Medico generated separate records and reports for the Towers-purchased accounts, tracking, on a patient by patient basis (1) the advances made by Towers; (2) checks received from the insurance company; (3) the checks so received that were transmitted to Towers; (4) amounts received back from Towers after Towers recouped its advance(s); (5) the outstanding principal balance owed to Towers with respect to the patient; and (6) the outstanding interest balance. These various reports reflected what balance New Medico considered to be owed to Towers by the facility involved.
22. New Medico represented in all audited financial statements for the individual facilities as well as combined financial statements for the New Medico enterprise that its relationship with Towers was a short-term loan payable, secured by accounts receivable as collateral. These statements were prepared over the years by independent auditors — Ernst
Young and an accounting firm in New York State called Urbach, Kahn Werlin. The characterization of the Towers relationship as indebtedness in these statements, by the terms of the statements themselves, represented the views and judgment of New Medico management. The statements in question cover the years 1991 through 1993 in connection with the six facilities that went out of business in 1993, and at least through 1994 for Hilltop, which remained in business through the time of trial.
23. New Medico from time to time conveyed to Towers its views of what it owed Towers. In the first year of the Towers-New Medico relationship, Pamela Bourque of New Medico prepared at least two reports for Towers which compared account information New Medico generated on the Towers-purchased accounts with similar data prepared by Towers, and tried to explain and resolve differences; Bourque’s reports expressly presented information on what New Medico considered due to Towers. In addition, New Medico periodically sent Chugerman of Towers reports identified as summaries of loan activity, which also purported to convey what New Medico considered to be due Towers at any point in time.
The preparation of New Medico’s audited financial statements also involved the transmittal of information from New Medico to Towers on amounts considered owed by New Medico. In connection with each audited report, Dolan, in his capacity as New Medico’s treasurer, sent letters to Towers asking Towers to confirm that the enclosed information reflecting New Medico’s current indebtedness was accurate.
24. All of the reports, charts, financial statements, and other documents described in paragraphs 21 through 23 of these findings, insofar as they identify or reflect information about individual patient accounts, treat all accounts in the same manner; there is no distinct or separate category identified as rejected accounts. Nor do any of the financial statements make any mention of rejected accounts.
25. In May, 1993, New Medico’s financial condition was critical. It was negotiating a very large loan with the Meditrust entities. In connection with the negotiations and the transaction generally, Charles Brennick asked Dolan to provide information about New Medico’s outstanding liabilities to Towers. Dolan did so. The document reporting the information projected that New Medico owed Towers $10,000,000 as of May 17, 1993. (Ex. 429.) Brennick in turn informed a representative of Meditrust that New Medico owed about $10 million to Towers.
Tracking what New Medico owed: Towers performance
26. Towers retained the accounting firm of Gillis Kelly, both to pick up third party obligor checks on a daily basis from New Medico (see Paragraph 20 above), and to inspect periodically New Medico’s books and records. The basic inspection focused on making sure that New Medico was properly handling payroll taxes for its employees, and also involved from time to time spot reviews of a few randomly selected accounts receivable for each facility to compare the New Medico information about the age and amount of the accounts with Towers records. Pamela Bourque’s report(s) on this comparison (see paragraph 23 above) was or were requested of New Medico in connection with the Gillis Kelly reviews.
27. Following Towers receipt of Pamela Bourque’s report(s), Towers engaged Gillis Kelly to perform a special audit of every outstanding New Medico account on which Towers had made an advance. The audit took place in June and July, 1991. After its completion, Gillis Kelly returned to the less intensive spot checks of accounts receivable.
28. The Gillis Kelly accountants reported to Towers the results of their periodic inspections. Intermittently, Chugerman of Towers sent to Tulman of New Medico reports or schedules which reflected what Towers believed New Medico owed to Towers in connection with the factoring relationship. The latest of these reconciliation reports is dated February 18, 1993. Tulman received these reconciliation reports from Chugerman on at least a few occasions between 1991 and 1993.
Offsets and recoupment
29. During the years that Towers and New Medico did business together, from time to time New Medico took steps unilaterally to reimburse Towers for advances on accounts that it knew would not be paid by the insurance company because of problems with the particular account (rather than the insurer’s inability to pay). In these instances, New Medico would notify Towers to short change New Medico on an upcoming advance for newly purchased accounts so that Towers advance on the past problematic account(s) could be recovered. It appears Towers complied with these requests. New Medico never sought to deal with an account it recognized as not payable by the insurer by seeking to cure the problem or by substituting a valid account for the invalid one.
30. Gerald Tulman of New Medico stated to the credit manager of Towers, Larry Leone, near the beginning of the parties factoring relationship that New Medico would be responsible for telling Towers if an account would not be paid, and then Towers could take action to recover the advance for that account; this was a corollary to new Medico’s insistence that it alone would have contact with insurers.
31. Throughout the period of the factoring relationship, Towers also undertook periodic efforts of its own to recoup its advances on accounts that it determined would not be paid by the insurer. Towers from time to time would do what New Medico was just described as having done: Towers would unilaterally reduce its total advance on a set of new purchases to recover for one or more previous advances relating to accounts that for which an insurer denied payment in whole or in part.
In addition, Towers sometimes sent documents to New Medico entitled invoices, which appeared to seek directly reimbursement for advances made on accounts that would not be paid by the insurer. Either simultaneously with the sending of the invoice or at a later time, Towers would offset the invoiced amount against other advances to recover the sum.
32. Towers effected these offsets on its own, without any notice to New Medico that it had deemed or determined a particular account to be a rejected account as defined in the HCPC. Nor did Towers give New Medico any notice of opportunity either to cure the problem(s) giving rise to the unpaid accounts, or to substitute one or more new accounts for the unpaid accounts. While Tulman may have been frustrated or angry about receiving less in an overall remittance or advance from Towers to a facility than he had anticipated as a result of Towers offsets, there is no evidence that New Medico ever raised with Towers any objection to these recoupment efforts. In particular, New Medico never took the position with Towers that the offset procedure violated the HCPC in any way.
E. Master Sale and Servicing Agreement and the Bond Funds.
33. Towers purchased accounts receivable from many different health care providers in addition to New Medico. By no later than November, 1990, Towers had put into place a large-scale program to sell the health care accounts receivable that it purchased, in order to acquire a source of available funds to purchase more such accounts. Thus, Towers entered into a Master Sale and Servicing Agreement (master agreement) dated November 1, 1990, with a separate, wholly-owned subsidiary named Towers Healthcare Receivables Funding Corporation-II (Towers Funding), pursuant to which Towers sold to Towers Funding the accounts receivable it purchased from different health care providers. Towers Funding issued bonds backed by these health care accounts receivable, and entered into an indenture agreement with the Connecticut National Bank (later Shawmut Bank) as trustee, under which the accounts receivable which had been purchased by Towers Funding were pledged to the trustee to secure payment of principal and interest on the bonds. Under the indenture agreement, funds were released to Towers Funding upon the pledging of the accounts receivable, and these funds were then used by Towers to purchase additional accounts from health care providers.
New Medico was not a party to either the master agreement or the indenture, and there is no evidence New Medico was ever aware of either. The accounts receivable which Towers purchased from New Medico, however, were included in those pledged as security by Towers Funding.
34. The master agreement and the indenture each provide that the contracts between Towers itself and the providers from whom or which it purchases accounts receivable are to be in the form of the standard HCPC. The master agreement and the indenture also have specific default provisions. Under the master agreement, Towers agrees, in connection with a defaulted account that also qualifies as a rejected account under the HCPC, to notify the affected health care provider that the account is a rejected account within three business days after Towers receipt of notification that the account is a defaulted account. (Master agreement, ¶ 2.06.) There is no evidence either that Towers was notified in writing by Towers Funding or any other entity that a particular account receivable sold to it by New Medico was a defaulted account under the master agreement, or that Towers in turn notified New Medico that any particular account was a rejected account.
F. Towers Decline, Fall and Bankruptcy; Subsequent Events
35. During the years it did business with New Medico, Towers was engaged in some fraudulent activities with respect to its bond funds. One of its practices was to reage accounts receivable that it had purchased from providers for purposes of sale to the bond funds or of record keeping for Towers funding and the indenture trusts, so that on Towers books — or at least one set of Towers books — the accounts appeared to be newer than they actually were. Towers reaged a number of New Medico accounts. When it did so, Towers did not make a new advance to New Medico, and New Medico’s own records reflected the original date of purchase — at least in the sense of recording when the cash advance from Towers was actually received. New Medico did not have knowledge of the reaging practices of Towers and these practices had no effect on the ongoing relationship between New Medico and Towers.
36. The activities of Towers and some of its principal officers, including Steven Hoffenberg and Charles Chugerman, led to an investigation by the Securities and Exchange Commission (S.E.C.), followed by civil complaints which the S.E.C. brought against Towers and certain of its officers. There were investigations as well by United States Attorneys in New York and Illinois.
37. Towers filed for bankruptcy protection under Chapter 11 of the Bankruptcy Code on or about March 23, 1993. Alan Cohen was appointed trustee.
38. In late 1993, Chugerman was charged with conspiracy to violate regulations of the S.E.C. (conspiracy to commit securities fraud), mail fraud, and conspiracy to obstruct S.E.C. proceedings. In September, 1994, he pleaded guilty to these charges, but apparently had not been sentenced at the time of trial in this case. In early 1994, Hoffenberg was charged with conspiring to violate S.E.C. regulations (conspiracy to commit securities fraud), mail fraud, conspiracy to obstruct the S.E.C.’s investigatory proceedings, and tax evasion. In the spring of 1995, he pleaded guilty to these charges.
39. As of February 28, 1993, Towers stopped buying any accounts receivable from New Medico. At that point, when New Medico received checks from insurers relating to patients whose accounts that previously been sold to Towers, New Medico no longer sent the entire check to Towers. Rather, it deposited each check in the bank account for the appropriate facility, and then transmitted to Towers funds representing the 5 percent fee that the HCPC provided Towers was entitled to receive. New Medico followed this course pursuant to telephoned instructions from Robert Brown at Towers.
As of June, 1993, New Medico ceased sending Towers any of the monies New Medico received from insurance companies in connection with accounts receivable that Towers had previously purchased. However, New Medico continued to track on its books and in its records the checks received and more generally the status of what it considered as its liability to Towers in relation to the purchased accounts.
40. As previously indicated (see note 5 above), at some time in 1992, for reasons unrelated to Towers, New Medico began receiving adverse publicity which in turn led to substantial losses in business. By June, 1993, six of the seven New Medico facilities had closed their doors; only Hilltop remained open.
41. On December 1, 1993, counsel for Alan Cohen, then the trustee of Towers, sent a written demand to each of the seven New Medico facilities for payment of amounts claimed due pursuant to the HCPC between the facility and Towers. The total amount of the demand for the seven facilities was $12,974,583.25. When no payment was made by New Medico in response to the demand, the trustee filed this action.
Discussion
1. At issue in Phase I is the proper construction of the factoring agreement, the HCPC, entered into by Towers and each of the New Medico facilities. The heart of the parties dispute concerns Paragraph 5 of the HCPC (Paragraph 5), but an initial review of Paragraph 5 and the key provisions of the contract together is useful.
At the outset, it is clear from the HCPC as a whole that the factoring agreement between Towers and New Medico was one that involved the purchase and sale of accounts receivable, not simply a loan by Towers with the accounts serving as collateral. The terms of the agreement could not be more explicit that purchase and sale was intended.
Paragraph 1 of the HCPC defines the accounts which qualify for purchase by Towers — referred to as Reimbursable Accounts. These are accounts which are payable by a Third Party Obligor: a governmental entity, insurance company or other entity or individual approved by [Towers].
Paragraph 3 of the HCPC defines the purchase price of a reimbursable account, and discusses when and how it is to be paid. In particular, Towers agrees to pay 95 percent of the Reimbursable Value of each account it purchases, the Reimbursable Value being defined as the amount stated by the contracting New Medico facility to be collectible, or due and payable by an insurer, on that account. Towers is to pay 50 percent of the purchase price at the time of purchase, and the remaining 45 percent
will be paid upon the earliest of (i) receipt by us [Towers] of good funds in payment of the Account, (ii) thirty (30) days after we receive notice that the [insurer] will not pay the amount owed for reasons other than breach of the representations and warranties [made by the contracting facility] set forth in Paragraph 8 below or (iii) three hundred sixty-five (365) days after the date we purchase the Account.
In substance, the quoted provision obligates Towers to pay the facility 95 percent of a purchased account by an outside date of a year from purchase regardless of whether the insurance company has paid, provided that any nonpayment by the insurer is due to its own financial problems and not due to a dispute between the insurer and the facility, or to some other breach of contractual representations and warranties by the facility. Put another way, Towers is assuming the risk of the financial inability of the insurance company to pay the account, but not the risk of the facility’s own inability to live up to its contractual commitments either to the insurer or to Towers.
Paragraph 5 of the HCPC, the major focus here, deals with Rejected Accounts. It represents in substance the default provision of the HCPC and is quoted in full below.
Paragraph 7 of the HCPC deals with several aspects of the relationship between and among Towers, the contracting New Medico facility, and insurance companies. Under the paragraph’s terms, the facility gives Towers a power of attorney to undertake collection activities with respect to all purchased accounts.
The final pertinent provision of the HCPC is Paragraph 8 Paragraph 8), which concerns representations and warranties to be given by the New Medico facility to Towers. There are fifteen separate representations and warranties, which include the following:
You [the New Medico facility] hereby represent, warrant and agree to and with us [Towers] that, as of each date we purchase an Account, (i) each Account purchased by us is based on an actual and bona fide rendition of services to a patient by you . . . and each such Account is payable, in whole or in part, by a Third Party Obligor (in an amount equal to the Reimbursable Value of the Account) which you have identified as being financially obligated to do so; (ii) each Account . . . is your exclusive property and is not and shall not be subject to any other sale, lien, security interest or financing statement whatsoever; (iii) your patient has received the services represented in each Account . . . (iv) the services provided and reflected in each Account . . . were therapeutically or medically necessary for the patient . . . (v) the fees charged for such services were the usual, customary and reasonable fees . . for the same or similar services; (vi) fees for services which are subject to limitations imposed by workers compensation regulations or by contracts for reimbursement from Third Party Obligors do not exceed the imitations so imposed and each Account representing services the fees for which are so restricted has been clearly identified as being subject to such restriction; . . . (viii) the Third Party Obligors identified by you as being financially obligated to pay each Account purchased by us are obligated to pay the full Reimbursable Value without dispute, reduction in an amount for any reason whatsoever, offset, defense or counterclaim; (ix) you will do nothing to impair our right in any Account purchased by us; (x) each Account purchased by us is a Reimbursable Account . . . and (xiv) you will make all payments to Third Party Obligors necessary to prevent [them] from offsetting an earlier overpayment to you against any amount such Third Party Obligor owes on any Account purchased by us. . . .
(Emphasis supplied.)
2. Paragraph 5 of the HCPC, concerning rejected accounts, provides as follows:
Rejected Accounts. [1] For purposes of this Agreement, a Rejected Account is one that does not conform with the representations and warranties set forth in Paragraph 8 below. [2] You [the New Medico facility] agree to notify us [Towers] promptly of any disputes, offsets, deductions, defenses or counterclaims which are or may be asserted by a Third Party Obligor against its obligation to pay an Account. [3] You agree to cure all defects with respect to a Rejected Account within seven (7) business days of notification to you that the Account is a Rejected Account. [4] If all such defects are not so cured, you agree to substitute one or more Reimbursable Accounts for the Rejected Account within five (5) business days of notification to you that the Account is a Rejected Account. [5] In addition to any other rights we have, your failure to effect such a cure or substitution with respect to a Rejected Account will give rise to indebtedness by you to us in an amount equal to [the 50 percent advance Towers paid to the facility on the Account, plus 5 percent, and less any funds received by Towers in payment of the Account.] [6] All such indebtedness will be payable by you upon demand by us and will bear interest at eighteen (18) percent per annum from the date of such demand. [7] In addition to all other remedies available to us at law or in equity, we may offset any such indebtedness from the balance of the purchase price we owe you with respect to other Accounts we have purchased from you. [8] Upon the satisfaction of you obligations with respect to a Rejected Account, as set forth above, we will, upon your request, transfer such Account and the related file back to you and you may retain us to assist in further collection activity with respect to such Account pursuant to a separate agreement.
Focusing on the provisions in the third and fourth sentences stating that cure of or substitution for a rejected account is to occur within seven or five days, respectively, of notification to you that an Account is a Rejected Account, New Medico has argued that Paragraph 5 requires Towers to give specific notice to New Medico that a particular account is a rejected account, and if no such notice is given, then the account does not have rejected account status, and Towers in turn has no rights to claim any indebtedness on New Medico’s part in relation to that account.
The trustee, on the other hand, looking at the first sentence of Paragraph 5, argues that a rejected account is simply defined as an account that does not conform with the representations and warranties given by New Medico in Paragraph 8 of the HCPC; and if an account does not so conform, it qualifies as a rejected account whether or not Towers takes any steps formally to deem or identify it as such. The trustee further contends that consistent with this self-defining status of rejected accounts, the notification provisions in the third and fourth sentences of Paragraph 5 decline to provide expressly that notification should be by Towers. Rather, notification is put in the passive tense, and could be by Towers, but could (and usually would) be provided by the insurance company responsible for payment of the account. Once New Medico as the provider obtains the information of an account’s rejected status from whatever source the trustee’s argument proceeds, then New Medico’s obligations to cure or substitute come into play; if neither is effected, New Medico is indebted to Towers for the unpaid portion of Towers advance plus the five percent fee and interest from the date of demand.
At the time the parties presented cross-motions for summary judgment, I concluded that the disputed language in Paragraph 5 is ambiguous on the point of whether notice of rejected account status by Towers must be given to trigger New Medico’s indebtedness. I continue to be of the view that the meaning of the language is less than transparent. Accordingly, the circumstances surrounding and leading the execution of the HCPCs become relevant as sources of insight into the intentions of the parties and thereby the meaning of the contractual provision. Hubert v. Melrose-Wakefield Hosp. Ass’n, 40 Mass. App. Ct. 172, 177 (1996), and cases cited. See Robert Indus., Inc. v. Spence, 362 Mass. 751, 754 (1973) (if the meaning of a contract is in any way uncertain when applied to the subject matter, extrinsic evidence concerning circumstances of the transaction may be considered). Accord, Keating v. Stadium Management Corp., 24 Mass. App. Ct. 246, 249-250 (1987). In addition, to resolve contractual ambiguity, it is appropriate to take into account the course of the parties performance. There is no surer way to find out what the parties meant, than to see what they have done. Id. at 250 (citations omitted). Accord, Parrish v. Parrish, 30 Mass. App. Ct. 78, 87 (1991). See Den Norske Bank AS v. The First National Bank of Boston, 75 F.3d 49 (1st cir. 1996).
3. Before turning to the circumstances surrounding the parties execution of the contracts, it is useful to consider the words they used in the contract itself. See Shea v. Bay State Gas Co., 383 Mass. 218, 222-223 (1981). See also Massachusetts Municipal Wholesale Elec. Co. v. Danvers, 411 Mass. 39, 45-46
(1991) (words used by contracting parties should be considered in ascertaining their intent). The trustee is correct that by its terms, the HCPC defines a rejected account in a manner that does not require any action by Towers in order to bring it into being; a rejected account is simply one that fails to comply with the representations and warranties in Paragraph 8 of the HCPC.
Following the definition of the term rejected account in the first sentence of Paragraph 5, the second sentence in plain language puts an affirmative obligation on New Medico to notify Towers of disputes or defenses that an insurer is raising or may raise in opposition to an obligation to pay a particular account. If one examines the representations and warranties in Paragraph 8, however, it becomes clear that any account against which an insurer is raising a dispute, offset, deduction, etc., is by definition one that does not comply with Paragraph 8. See Paragraph 8 (viii), providing that New Medico represents and warrants that
. . . the Third Party Obligors identified by you as being financially obligated to pay each Account purchased by us are obligated to pay the full Reimbursable Value without dispute, reduction in an amount for any reason whatsoever, offset, defense or counterclaim . . . .
In effect, therefore, the second sentence imposes on New Medico a duty to notify Towers about certain types of rejected accounts, and not the other way around.
The third and fourth sentences of Paragraph 5, containing the disputed notification provisions, may be read as following naturally from the second that is, provisions giving New Medico time to correct or replace an account which has become a rejected account because of a dispute, reduction, or other problem raised by the insurance company that was originally responsible for payment. If no such action is taken, then, as provided in the fifth and sixth sentences, New Medico becomes indebted to Towers for the unpaid advance, its fee, and 18 percent interest from the date of Towers demand for payment. And in that situation, as specified in the seventh sentence, one of the remedies available to Towers to recover the indebtedness is the ability to offset it against other accounts Towers purchases.
Thus the actual words of Paragraph 5 and its structure suggest that insofar as rejected accounts are concerned, the only notice requirements imposed on the parties are (1) New Medico’s obligation to notify Towers when an insurer disputes an account receivable it is supposed to pay; and (2) Towers obligation to notify New Medico of a demand for repayment of an advance on a rejected account in order to start the 18 percent interest running. The language therefore supports an interpretation in which formal or affirmative notice by Towers of an account’s status as a rejected account is not a condition precedent to the creation of an indebtedness or obligation to pay on the part of New Medico.
4. The parties negotiations which led to their agreement to do business together, insofar as they reflect the parties understandings and intentions, also support this reading of Paragraph 5. See Shea v. Bay State Gas Co., supra, 383 Mass. at 222-223 (we . . . construe the contract with reference to the situation of the parties when they made it and the objects sought to be accomplished [citations omitted]). Those negotiations were crystal clear about one critical aspect of the parties proposed relationship: if there was to be any deal between New Medico and Towers, New Medico had to retain total control over the collection of all its accounts receivable, including those sold to Towers. As the evidence demonstrated, each of the New Medico officers involved in the negotiations Charles Brennick, Tulman and Dolan made this point, and adamantly so. The two principal officers responsible for the agreement with Towers both understood that in part as a result of New Medico’s retention of full control over its accounts, if an account sold to Towers ultimately were not paid by the insurer, New Medico would be responsible for reimbursing Towers for the advance. The evidence also showed that Towers accepted New Medico’s position about collections on the New Medico accounts, even though Towers general practice was to use its own collection staff to work with insurers and essentially manage the collection process for the providers with whom it contracted.
Given the parties shared understanding about New Medico’s sole responsibility for collection of its accounts, it makes sense to interpret the notification provisions in the third and fourth sentences of Paragraph 5 to mean that the notice of a rejected account which puts into play New Medico’s chance to cure or substitute is not necessarily to come from Towers, but from any source, and as a practical matter, most probably the insurer. This would be so because New Medico’s exclusive relationship with its insurers meant, and the parties understood it to mean, that every insurer would be in direct contact with New Medico but not with Towers, and thus would be in a position to notify New Medico, but not Towers, of any disputes, offsets, etc. that would turn a reimbursable account into a rejected account. And it follows that if Towers itself is not required to provide the rejected account notice, then notice from Towers is not a prerequisite for imposing liability on New Medico for any unpaid portion of the advance made on that account to come into play. Rather, the clear language of the fifth through seventh sentences of Paragraph 5 imposes that liability whenever New Medico fails to cure or substitute for the problematic account.
5. The parties conduct in implementing their factoring agreement is also consistent with a construction of Paragraph 5 that renders New Medico liable for unpaid advances on nonconforming or rejected accounts without prior notice by Towers. In particular, as the facts found above indicate, (1) Towers never provided New Medico with formal or express notice that it was designating or deeming one or more accounts to be rejected accounts which New Medico would need to cure, replace, or stand indebted in the amount of Towers unpaid advance; (2) Even when it sent invoices showing amounts due Towers, Towers still unilaterally recouped monies owed by New Medico because of rejected accounts through offsets against new purchases. (3) New Medico never objected to the recoupment steps taken by Towers; and (4) In any event, both New Medico and Towers considered New Medico’s liability to be the full amount of unpaid advances plus their accompanying fees and interest.
With respect to Towers recoupment efforts, New Medico argues that every recovery of an advance made by Towers represented a charge back, and with respect to each, Towers provided notice to New Medico in the form of an invoice. A close look at the invoices sent, however, reveals that in substance they seem to adhere to the provisions in Paragraph 5 concerning New Medico’s indebtedness and demand for payment by Towers, and Towers right to offset. Thus, many of the invoices reflect that as of the invoice date, Towers had already recouped some advances by deductions taken from previous remittances, that is, previous purchases of new accounts receivable. (See ex. 1373, 6358, invoices dated 6/18/91, 7/10/91, 10/14/91, 3/11/92, 5/6/92, 6/10/92, 8/17/92.) These deductions constitute a form of offset, a remedy for existing indebtedness that the seventh sentence of Paragraph 5 spells out. Insofar as the bottom line of each invoice sets out an amount due Towers, the document appears to serve as a demand for payment of an already-existing indebtedness (see Paragraph 5, fifth and sixth sentences), and not an advance notice that Towers would consider New Medico to be indebted in the future if no cure or substitution took place. This conclusion is supported by the undisputed fact that Towers unilaterally offset the invoiced amounts, either simultaneously with the sending of the invoice or at a later time; again, offset is a remedy for existing indebtedness.
Finally, the parties consistent treatment of the debt owed by New Medico to consist of all unpaid advances on the accounts receivable purchased by Towers deserves emphasis. From the beginning of their relationship to well after its end, New Medico’s internal records and external financial statements reflected this characterization of the debt; Towers own communications to New Medico followed suit. New Medico told Meditrust in 1993 that its indebtedness to Towers was $10 million dollars, a sum again premised on the view that the debt was all unpaid advances (plus fees and interest), not just advances relating to accounts Towers had somehow designated as rejected accounts. Only after Towers brought this lawsuit, and specifically after Meditrust assumed for all practical purposes the defense of New Medico, has New Medico asserted its current and changed interpretation of the parties rights and obligations under their agreement. The consistent past conduct is more persuasive. See Keating v. Stadium Management Corp., supra, 24 Mass. App. Ct. at 251-252 (consistent performance of realty trust under contract from 1976 to 1982 resolved any doubt about meaning of disputed contract terms, and called for rejection of new interpretation offered by defendant, trust’s successor in interest).
In sum, the words of Paragraph 5 of the HCPC, the parties negotiations concerning their respective obligations under their contractual agreement, and the parties performance all point to the same two-pronged conclusion: first, Paragraph 5 does not require Towers itself to give New Medico advance or affirmative notice either that an account is a rejected account because it fails to comport with the contractual representations and warranties or that Towers intended to charge back the account unless cured or replaced; and, second, the paragraph is properly read to create an indebtedness on the part of New Medico with respect to every unpaid rejected account that New Medico does not cure or replace, regardless of who is the source of information that the account qualifies as rejected. Towers may make a demand for repayment of the indebtedness and must do so in order to recover interest at 18 percent but no time is specified for the demand to be made.
6. New Medico asserts that there are several key reasons why Paragraph 5 must be interpreted to impose a notice requirement on Towers before any indebtedness is created in New Medico’s part. While they have surface appeal, each of the reasons deserves rejection.
a. New Medico points out that Towers factoring agreements with providers like New Medico were only one side of the Towers coin; on the other side were Towers contractual agreement with Towers Funding and the indenture between the Towers Funding and the trustee bank. Under the master agreement between Towers and Towers Funding, Towers is to notify a health care provider like New Medico that a particular account is a rejected account within three days of Towers receipt of written notification that the account qualifies as a defaulted account under the master agreement. New Medico argues that under the master agreement, Towers was therefore compelled to give written notice to New Medico about its rejected accounts. (Meditrust post-trial brief, p. 27.)
The evidence, however, failed to establish that Towers ever received written notice from Towers Funding or indeed any source that particular New Medico accounts receivable were defaulted accounts under the master agreement. Therefore, even if one were to read the master agreement and the HCPC together as New Medico suggests, there is no factual basis relating to the master agreement on which to hold Towers responsible for giving written notice to New Medico about a rejected account.
More fundamentally, the position taken by New Medico flies in the face of the reality that insofar as Towers relationship with New Medico was concerned, the master agreement, Towers Funding (the bond funds) and the indenture were wholly irrelevant. There was no evidence that Towers ever informed New Medico about its bond funds or the resale of accounts purchased from New Medico to Towers Funding, or that New Medico had any knowledge of the funds or sales of accounts from any other source. In these circumstances, there is no reason to construe the agreements as an integrated whole. Contrast Chelsea Indus., Inc. v. Florence, 358 Mass. 50, 55-56 (1970).
b. In New Medico’s view, the HCPC is a standard contract, and should be interpreted in accordance with the construction that Towers officials have given it in other contexts. In particular, New Medico points to arguments made by the trustee in proceedings entitled Towers Financial Corp. v. Kenneth B. Love, et al., No. SA CV 92-206 GLT (C.D. Cal. 1992) (College Hospital). This was a case which involved a factoring agreement between Towers and College Hospital under which Towers purchased the hospital’s accounts receivable in bulk, but the actual contract document was the same HCPC as executed by Towers and New Medico, except for the changes to Paragraphs 5 and 7 discussed above.
On the surface, the trustee’s representations in College Hospital are troubling because they do appear different from those he advances in this case; the trustee’s pre-trial and summary judgment memoranda state in fairly straightforward terms that under the HCPC with College Hospital, Towers would give notice of a rejected account, and once that happened, College Hospital had to cure or substitute, or become indebted. (See ex. 5605, 5607). Nevertheless, I cannot conclude that the College Hospital case and what the trustee represented there controls the interpretation of the HCPC here.
First, in College Hospital, the parties basically disputed whether charge backs could be made on an individual account basis at all because of the bulk purchase aspect of the contractual arrangement. The details of how an individual charge back was to be accomplished was not directly put in issue, nor was there any argument by either side that Towers was required to give notice to the provider that an account qualified as a rejected account. The fact that in College Hospital the trustee represented Towers did give notice of rejected accounts does not provide much insight into whether Towers considered it had to do so under the terms of the contract. Second, and more important, from all that appears in the evidence here, Towers relationship to and conduct towards College Hospital was distinctly different from the way Towers conducted itself in relation to the New Medico facilities. Towers did not make bulk purchases of accounts receivable from New Medico, and there was no indication that College Hospital retained exclusive or indeed any control over its relations with its third party obligors payors or over the collection of its accounts. As the discussion above indicates, I consider this aspect of Towers relationship with New Medico to be highly significant to a proper understanding of their contract.
It is true that much of the HCPC between Towers and each New Medico facility is taken from the form contract that Towers used with virtually all its health care factoring clients. But in this case, the evidence shows that (1) Towers and New Medico were sophisticated business enterprises, (2) they had a highly special and perhaps unique relationship, (3) they bargained over the business terms of their factoring arrangement, and (4) New Medico’s lawyer reviewed the written contract language and made changes to it. In the circumstances, it is not reasonable to treat the Towers-New Medico HCPC as a uniform, standardized contract of the type intended to govern the relationship between an institution and many different but similarly situated individuals. Compare, e.g., Carpenter v. Suffolk Franklin Savings Bank, 370 Mass. 314, 322 (1976); Restatement (Second) of Contracts, § 211(2)(1981).
7. New Medico would bar the trustee from recovering any amount under the HCPCs on the ground that Towers contract performance was tainted with illegality. It argues that both Steven Hoffenberg and Charles Chugerman, key officers of Towers, pleaded guilty to fraud-related crimes relating in part to their handling of health care receivables purchased from providers like New Medico and sold to the bond funds; the specific focus of New Medico’s claim is the re-aging of receivables in which Towers engaged.
The complained-of conduct of Towers and its officers does not preclude the trustee from recovering in this case whatever monies may be owed by New Medico to Towers. Unquestionably the crimes committed by Hoffenberg and Chugerman were serious and implicated Towers, but that is not the question. The two individuals have been prosecuted, convicted and will be punished. At issue here is whether enforcement of New Medico’s contractual obligations to Towers in the circumstances should be barred on grounds of public policy. While courts will not generally enforce a contract where the performance was in fact illegal, see Tocci v. Lembo, 325 Mass. 707 (1950), if the illegality was merely an incidental part of the performance of the agreement[,] enforcement is not barred.
To find a proper answer [to whether recovery of compensation should be precluded], all the circumstances are to be considered and evaluated: what was the nature of the subject matter of the contract; what was the extent of the illegal behavior; was that behavior a material or only an incidental part of the performance of the contract (were the characteristics which gave the plaintiff’s act its value to the defendant . . . the same as those which made it a violation . . . of law); what was the strength of the public policy underlying the prohibition; how far would effectuation of the policy be defeated by denial of an added sanction; how serious or deserved would be the forfeiture suffered by the plaintiff, how gross or undeserved the defendant’s windfall. . . .
Town Planning Eng’r Assocs., Inc. v. Amesbury Specialty Co., Inc., 369 Mass. 737, 745-746 (1976) (footnotes omitted).
Here, the illegal acts of Hoffenberg and Chugerman and, derivatively, Towers had nothing to do with Towers performance of its contracts with the New Medico facilities. The illegality solely related to Towers conduct towards the bond funds, and more particularly the bond holders and their trustee. As mentioned above, New Medico itself had no connection with the bond funds or Towers Funding. Towers reaging of accounts receivable in connection with the bond funds did not change anything as far as New Medico was concerned: Towers had paid the advance due on all such accounts at the time of purchase, and collection was up to New Medico. While the doings of Towers and its officers are not to be condoned, to impose the sanction of non-recovery on the trustee because of the illegal conduct would confer on New Medico a true windfall: an escape from potentially significant liability because of misconduct that had no relation to or impact on the operation of its facilities. The case New Medico relies on, Nathan v. Tenna Corp., 560 F.2d 761, 764-765
(7th Cir. 1977), in which a manufacturer’s representative sought to recover for himself certain commissions under the same contract he had illegally performed in part, is inapposite to the facts here.
8. New Medico also claims that the trustee has lost all rights that he might otherwise have had to recover against the New Medico facilities for breach of contract because of action taken in the Towers bankruptcy proceedings. Specifically, the argument is that (1) the HCPCs between Towers and the facilities constituted executory contracts which were rejected by Towers in its approved plan of reorganization; and (2) therefore the trustee cannot seek to reap executory benefits, namely, the ability now to identify and charge back rejected accounts receivable.
I will assume, without deciding, that the seven HCPCs were executory contracts under bankruptcy law, and that the now-confirmed joint plan of reorganization filed by the official committee of unsecured creditors and the trustee in effect rejected those contracts. Nevertheless, New Medico’s argument fails.
Under Paragraph 6.6.1 of the joint plan, all claims or causes of action belonging to Towers before the confirmation date of the joint plan shall be preserved for the benefit of the Debtors estates . . . . The contract claims pursued by the trustee here represent claims that arose before the confirmation date, and indeed probably also before the bankruptcy filing date of March 23, 1993.
Section 365 of the Bankruptcy Code, which concerns the rejection of executory contracts, addresses only future performance obligations of the parties. It does not have any impact upon the executed portions of a contract. Matter of Executive Technology Data System, 79 B.R. 276, 282 (Bankr. E.D. Mich. 1987). Moreover, [r]ejection has absolutely no effect upon the contract’s continued existence; the contract is not canceled, repudiated, rescinded or in any fashion terminated. In re Drexel Burnham Lambert Group, Inc., 138 B.R. 687, 708
(Bankr. S.D.N.Y. 1992).
The trustee here seeks to recover the indebtedness of the New Medico facilities that accrued when the accounts receivable in question became rejected accounts. As the discussion above shows, I have concluded that Paragraph 5 of the HCPC does not obligate Towers affirmatively to reject an account in order to establish or create New Medico’s indebtedness for any unpaid advances; the liability follows as a matter of course from any failure of an account to comply with the representations and warranties in Paragraph 8, to the extent that New Medico does not cure the failure or replace the nonconforming account with a conforming one.
It is not the object of this phase of the case to determine the exact amount of New Medico’s indebtedness, or when it arose. The trustee will be required to prove these issues hereafter. But from all that appears to date, the trustee’s claims concern pre-bankruptcy or at least pre-confirmation actions and conduct. State contract law applies to the trustee’s claims and any defenses New Medico may raise, see In re Walnut Associates, 145 B.R. 489, 492-495 (Bankr. E.D. Penn. 1992), but the trustee is not barred from pursuing the claims by reason of any rejection that may have occurred with respect to future obligations of the parties under the HCPCs.
9. New Medico challenges the timeliness of the trustee’s demand for payment, contending that both under the terms of the HCPCs and on equitable grounds, the lateness of demand precludes recovery. Again, the argument fails.
With respect to the contract terms, New Medico bases its claim on Paragraph 3 of the HCPC. This paragraph defines the purchase price of an account receivable as 95 percent of the reimbursable value of the account, provides that 50 % of the price is to be paid at the time of purchase, and further provides for the balance to be paid upon the earliest of certain events, the outside event being the passage of 365 days. However, Paragraph 3 makes it very clear that the full purchase price is due only if the account is fully paid by the responsible third party obligor (insurer) or the insurer does not pay the full account for reasons that would not constitute a breach of the representations and warranties set forth in Paragraph 8 [of the HCPC]. In other words, the 365 day provision for payment has no application where the insurer does not pay the account because of alleged conduct by the health care provider that, if true, would breach the HCPC representations and warranties. Since the trustee’s claims in this case are premised on his contention that all unpaid accounts at issue were not paid for reasons constituting breaches of the Paragraph 8 warranties by New Medico, the 365 day limit in Paragraph 3 is irrelevant.
The other portion of New Medico’s timeliness argument is equitable. New Medico asserts that by the time the trustee made his demand for payment of New Medico’s alleged indebtedness in December, 1993, and particularly in light of the purportedly improper posting of accounts and reaging engaged in by Towers, New Medico could no longer effectively undertake to cure any of the accounts in issue: too much time had passed to retrieve the necessary information to prove the validity of the account and to reconstruct essential records. Therefore, considerations of fairness bar any attempt by the trustee to recover at this time.
The trouble with this claim is that it is grounded on a construction of Paragraph 5 that I have not adopted, namely, one that would require Towers to notify New Medico that it was rejecting an account receivable so that New Medico could know it was time to initiate efforts to cure or substitute. For reasons previously discussed, Towers had no such obligation. Rather, Paragraph 5 directs New Medico to notify Towers about problems with accounts, and New Medico could have, and should have, undertaken to cure or substitute at the time it became aware of the problems. The sole notification requirement for Towers in Paragraph 5 relates to its ability to receive 18 percent interest on unpaid indebtedness: the 18 percent begins to run from the date of demand for payment. There is no time period set for this notification, and in any event, New Medico is better served by a late rather than an early notice.
10. The final point raised by New Medico is one of waiver, for at least some of the accounts receivable at issue. New Medico argues that the trustee should not be entitled to collect any unpaid advances on accounts constituting lien accounts as well as those which were designated zero collectible by New Medico on its sales reports or agings. This is so, the argument goes, because Towers knew at the time of purchase that these accounts did not qualify as reimbursable accounts under the HCPC, but proceeded with the purchase nonetheless.
That Towers knew the lien status of accounts it bought, or knew that New Medico considered an account to have little or no chance of being paid, does not prevent the trustee from seeking recovery here. The trustee claims that New Medico breached the HCPCs in failing to pay back unpaid advances on rejected accounts, and by definition, he bases the claim in significant part on New Medico’s alleged breach of the express warranties set forth in Paragraph 8.
An express warranty serves in substance as an agreement on the part of the warrantor to indemnify the other party if the fact or condition guaranteed to be true turns out not to be so. See Carolet v. Garfield, 339 Mass. 75, 78 (1959). See also Metropolitan Coal Co. v. Howard, 155 F.2d 780, 784 (2d Cir. 1946). As the trustee argues, the warranties were an integral and important part of the bargain between Towers and New Medico in entering into the HCPC; New Medico does not claim otherwise. The trustee is not required to establish that in connection with a specific account receivable it purchased, Towers relied on the factual truth of each of the representations and warranties; what must be shown is that Towers relied on the fact of the warranties, that is, the promise itself that the representations and warranties were true, and New Medico would stand behind them. See CBS, Inc. v. Ziff-Davis Publishing Co., 75 N.Y.2d 496, 503-504 (1990) (buyer was entitled to enforce seller’s warranties about financial condition of businesses being sold where the warranties were part of the bargain, even though buyer had reason to know the representations about the financial condition were false at the time of purchase), and cases cited. Accord, Metromedia Co. v. Fugazy, 983 F.2d 350, 360 (2d Cir. 1992). See also Richards v. Saveway Oil Co., Inc., 2 Mass. App. Ct. 514, 517-518 (1974) (buyer of stock and real estate entitled to recover damages for seller’s breached warranty concerning ownership of certain personal property involved in transaction, even though buyer’s lawyer knew property was not owned as warranted at the time of stock purchase). Cf. Downey v. Levenson, 247 Mass. 358, 363-364 (1924) (seller must convey title in accordance with terms of purchase and sale agreement or answer in damages, even though buyer knew of nonconforming encumbrances on title at the time purchase and sale agreement signed).
Accordingly, in the case of lien accounts, although the information was available to Towers at the time of purchase that the accounts were not payable by an insurance company and also were not payable without dispute, in apparent violation of Paragraph 8(I) and (viii)of the HCPC, Towers was still entitled to rely on New Medico’s promise that the facts were to be deemed otherwise in other words, its promise to indemnify Towers if either of those conditions should prevent payment of the accounts. Again, the trustee must prove that the warranties were breached that the accounts in question were rejected accounts under Paragraph 5. However, if he does that, he may recover even though Towers knew of the lien or zero collectible status when the purchases were made.
ORDER
1. For the foregoing reasons, it is ordered and declared as follows:
a. Paragraph 5 of the Health Care Purchase Contract between Towers Financial Corporation and each of the seven defendant New Medico facilities does not obligate Towers to notify the facility either that (a) an account receivable previously purchased by Towers constitutes or qualifies as a rejected account; or (b) Towers intends to charge back the account, as a prerequisite to holding the facility liable for any unpaid advance and associated fees and interest on that account. Rather, under Paragraph 5, New Medico might receive notification from any source that an account receivablable is a rejected account because it fails to comply with the contractual representations and warranties; and once New Medico obtains such notice, it must cure or replace the account within seven or five days, respectively, or stand indebted to Towers for any unpaid portion of the advance made on the account plus the contractual fee and interest.
b. The plaintiff administrative trustee in bankruptcy is not barred from seeking contract damages in this action from New Medico facilities on grounds of illegal contract performance, actions taken in Towers bankruptcy proceedings, untimeliness of demand, or waiver.
2. Counsel for the parties are to schedule with the clerk a status conference concerning further proceedings in this case.
__________________________________ Margot Botsford Justice of the Superior Court
Dated: September 4, 1996