                                                                     FILED
                                                                      FEB 19 2015
 1                          NOT FOR PUBLICATION
 2                                                                SUSAN M. SPRAUL, CLERK
                                                                    U.S. BKCY. APP. PANEL

 3                  UNITED STATES BANKRUPTCY APPELLATE PANEL
 4                            OF THE NINTH CIRCUIT
 5   In re:                        )       BAP No. CC-14-1307-PaTaKu
                                   )
 6   MARK CHRISTIAN TARCZYNSKI,    )       Bankr. No. 13-38642-BB
                                   )
 7                  Debtor.        )       Adv. Proc. 14-01149-BB
     ______________________________)
 8                                 )
     1100 WILSHIRE BLVD., LLC,     )
 9                                 )
                    Appellant,     )
10                                 )
     v.                            )       M E M O R A N D U M1
11                                 )
     MARK CHRISTIAN TARCZYNSKI;    )
12   1100 WILSHIRE PROPERTY OWNERS )
     ASSOCIATION,                  )
13                                 )
                    Appellees.     )
14   ______________________________)
15                  Argued and Submitted on November 20, 2014
                            at Los Angeles, California
16
                            Filed - February 19, 2015
17
              Appeal from the United States Bankruptcy Court
18                for the Central District of California
19      Honorable Sheri Bluebond, Chief Bankruptcy Judge, Presiding
20
     Appearances:      Joshua Ruben Furman argued for appellant 1100
21                     Wilshire Blvd., LLC; Mark M. Sharf of Merritt,
                       Hagen & Sharf LLP argued for appellee Mark
22                     Christian Tarczynski.
23
     Before: PAPPAS, TAYLOR, and KURTZ, Bankruptcy Judges.
24
25
26        1
             This disposition is not appropriate for publication.
27   Although it may be cited for whatever persuasive value it may
     have (see Fed. R. App. P. 32.1), it has no precedential value.
28   See 9th Cir. BAP Rule 8013-1.
 1        1100 Wilshire Blvd., LLC (“Appellant”) appeals the order of
 2   the bankruptcy court dismissing its § 523(a)2 adversary
 3   proceeding against chapter 7 debtor Mark Tarczynski (“Debtor”)
 4   for failure to state a claim for relief.   We REVERSE that order
 5   and REMAND this matter to the bankruptcy court for further
 6   proceedings.
 7                                    FACTS
 8        The building known as 1100 Wilshire Boulevard is a thirty-
 9   eight story structure located in downtown Los Angeles, consisting
10   of mixed-use residential and commercial condominium units (the
11   “Property”).   Management of the Property is controlled by the
12   1100 Wilshire Property Owners’ Association (the “POA”), a
13   California mutual benefit corporation composed of the owners of
14   the condominium units in the Property.   The POA acts through a
15   five-member board of directors (the “POA Board”).
16        Appellant, a California limited liability company owned by
17   Joel and Spencer Kassimir, owns two residential condominium units
18   situated on the south side of the thirty-seventh and thirty-
19   eighth floors of the Property.    At all relevant times Appellant
20   was a member of the POA but not a member of the POA Board.
21        Debtor is a real estate consultant and a former member of
22   the POA Board.   Adam Tischer is a former member of the POA Board.
23   John Mackey is a current member of the POA Board.   Debtor and
24
25
          2
             Unless otherwise indicated, all chapter and section
26   references are to the Bankruptcy Code, 11 U.S.C. §§ 101–1532, all
27   Rule references are to the Federal Rules of Bankruptcy Procedure,
     Rules 1001–9037, and all Civil Rule references are to the Federal
28   Rules of Civil Procedure 1–86.

                                       -2-
 1   Mackey together own Wilshire Commercial, LLC, a corporation that
 2   owns a commercial condominium unit in the Property, and is a
 3   member of the POA.
 4        In June 2013, JP Morgan Chase Bank (“Chase”) announced that
 5   it would open a branch office on the first floor of the Property
 6   in space leased from Wilshire Commercial.     Shortly thereafter,
 7   the POA Board and Chase announced that Chase would install a
 8   large sign on the exterior of the Property.     Among other
 9   features, the sign would spell out “CHASE” in nine-foot
10   illuminated letters mounted directly outside Appellant’s units.
11   The lease for placement of the sign provided for approximately
12   $3.5 million in annual payments from Chase to 1100 Wilshire
13   Boulevard.
14        Concerned with these developments, on June 18, 2013, counsel
15   for Appellant sent to the POA Board president a “Pre-litigation
16   Demand for Action by the Board” (the “Demand Letter”).     Among
17   other things, the Demand Letter requested that the POA Board not
18   grant any signage rights on the Property without an authorizing
19   vote of the POA membership and that the POA Board investigate
20   certain allegedly improper self-dealings by some POA Board
21   members regarding the Property.
22        Counsel for the POA Board provided a lengthy response to the
23   Demand Letter on July 5, 2013.    In it, he defended the POA
24   Board’s authority to enter into, and their strategy in
25   negotiating, the Chase sign lease.      He pointed out that without
26   the lease income, the POA members’ “assessments would need to
27   increase substantially in order to pay for necessary repairs and
28   improvements to the building.”    As to Appellant’s allegations

                                       -3-
 1   about improper activities by POA Board members, POA counsel
 2   demanded proof of Appellant’s claims and cautioned Appellant’s
 3   counsel that these allegations could be considered “defamatory
 4   and subject both you and your clients to damages for such
 5   defamation.”
 6        Apparently dissatisfied with this response, Appellant filed
 7   a lawsuit against the POA, Tischer, Tarczynski, and Chase in Los
 8   Angeles Superior Court on August 20, 2013 (the “State Court
 9   Action”).    In its original complaint, Appellant sought a
10   declaratory judgment that, because of the conflicting interests
11   of POA Board members, the lease for the sign between the POA and
12   Chase was void.    Appellant also requested that a restraining
13   order and an injunction be entered preventing construction of the
14   sign.3   It also sought an order directing the election of a new
15   POA Board.
16        Appellant’s application for a temporary restraining order
17   and preliminary injunction to stop construction of the sign was
18   denied by the state court on September 4, 2013.    Thereafter,
19   Appellant filed a First Amended Complaint deleting the request
20   for injunctive relief, but now asserting, as a representative of
21   the POA, several derivative causes of action against Debtor and
22   Tischer as POA Board members for their alleged breach of
23   fiduciary duty, conspiracy to breach fiduciary duty, intentional
24
25
          3
             Three successive versions of the complaint were filed in
26   state court, in each of which Appellant argues that the POA Board
27   and Debtor were not properly elected, and alleging other
     violations of the Davis-Sterling Common Interest Development Act,
28   Cal. Civ. Code §§ 4000-4070 (2013).

                                      -4-
 1   interference with prospective economic advantage, and
 2   constructive fraud.
 3        On December 2, 2013, Debtor filed a petition for relief
 4   under chapter 7 of the Bankruptcy Code.   As a result, the State
 5   Court Action was stayed as to Debtor.   Appellant, ostensibly
 6   acting as a representative on behalf of the POA under
 7   Rule 7023.1/Civil Rule 23.1, filed an adversary complaint against
 8   Debtor seeking an exception to discharge under § 523(a)(2)(A),
 9   (a)(4), and (a)(6) for the debts arising from the claims asserted
10   in the State Court Action (the “First Adversary Complaint”).
11        On April 10, 2014, Debtor filed a motion to dismiss the
12   First Adversary Complaint under Rule 7012/Civil Rule 12(b)(6).
13   In the motion, Debtor argued that Appellant was not an adequate
14   representative of the POA for purposes of pursuing the discharge
15   exception action because Appellant had sued the POA in the State
16   Court Action.   Debtor also alleged that the First Adversary
17   Complaint failed to allege fraud with specificity as required by
18   Rule 7009/Civil Rule 9.   Appellant responded to the motion, and
19   on April 9, 2014, filed an amended adversary complaint (the
20   “Amended Adversary Complaint”) pleading more facts regarding
21   Debtor’s alleged improper conduct.4
22
23        4
             On April 16, 2014, Appellant also filed a Second Amended
     Complaint in the State Court Action, adding Mackey and Wilshire
24
     Commercial as defendants, adding new causes of action against the
25   POA and Chase for public nuisance (i.e., diminishing the value of
     the individual owner's interests in the Property) and private
26   nuisance (i.e., for light pollution and excessive electromagnetic
27   radiation) (the “Second Amended State Complaint” or “SASC”). The
     Amended Adversary Complaint indicates that a copy of the SASC was
28                                                      (continued...)

                                     -5-
 1        The bankruptcy court heard Debtor’s motion to dismiss on
 2   May 13, 2014.   Before the hearing, the court had issued a
 3   tentative ruling indicating that it was inclined to:
 4        [g]rant [the] motion without leave to amend.
          [Appellant] lacks standing to prosecute this action and
 5        cannot do so in a derivative capacity. [Appellant] is
          not an appropriate representative in light of
 6        antagonism between the interests of the plaintiff and
          the homeowners association. Further, directors are
 7        entitled to exercise their business judgment as to
          whether or not to sue on behalf of the corporation and
 8        it appears that they have done so and have concluded
          that no action against the debtor is appropriate or
 9        warranted. Further, [the Amended Adversary Complaint]
          fails to state a claim under sections 523(a)(2)(A), (4)
10        or (6). What representations did the debtor make to
          the plaintiff on which the plaintiff relied? Amended
11        complaint pleads that debtor was not a member of the
          board of directors at the time the signage lease was
12        signed. How did the debtor owe the plaintiff a
          fiduciary duty? What did he do that breached it? If
13        debtor was not on the board when the lease was signed,
          what did he do that was a wrongful, intentional and
14        malicious act?
15        After hearing arguments from counsel for Appellant and
16   Debtor, the bankruptcy court granted the motion to dismiss,
17   explaining:
18        Well, I’m going to grant the motion to dismiss because
          I don’t think it works for you to assert these claims
19        derivatively, particularly not when you’re also
          alleging that the corporation was controlled by parties
20        who were in conspiracy with this. . . . You’ve got to
          have misrepresentation that was relied on to the
21        detriment [of the POA] — and if you’re making these
          . . . misrepresentations [to] parties he’s conspir[ing]
22        with, then he didn’t defraud Mackey and the gang. . . .
          I don’t think this works to have you step into those
23        shoes derivatively on these facts. And, as I say, I
          don’t think the corporation has got a claim in light of
24        the way you’ve framed the nature of the misconduct
          here. So I’m going to grant the motion without leave
25
26        4
           (...continued)
27   attached as an exhibit. It was not. However, a copy of the SASC
     was attached to the Debtor’s reply brief in support of the motion
28   to dismiss.

                                     -6-
 1        to amend[.]
 2   Hr’g Tr. 23:19-24:11, May 13, 2014.
 3        The bankruptcy court entered an order dismissing Appellant’s
 4   Amended Adversary Complaint without leave to amend on May 30,
 5   2014 “for the reasons set forth on the record at the time of the
 6   hearing on the motion and other good cause appearing therefor.”
 7        Appellant filed a timely appeal on June 12, 2014.
 8                               JURISDICTION
 9        The bankruptcy court had jurisdiction under 28 U.S.C.
10   §§ 1334 and 157(b)(2)(I).   We have jurisdiction under 28 U.S.C.
11   § 158.
12                                   ISSUES
13        Whether the bankruptcy court erred in dismissing the
14   Appellant’s Amended Adversary Complaint under Rule 7012/Civil
15   Rule 12(b)(6).
16        Whether the bankruptcy court abused its discretion in
17   deciding that Appellant was not an adequate representative of the
18   POA for the purposes of Rule 7023.1/Civil Rule 23.1.
19                          STANDARDS OF REVIEW
20        A trial court’s dismissal of an action under Civil
21   Rule 12(b)(6) for failure to state a claim is reviewed de novo.
22   N.M. State Inv. Council v. Ernst & Young, LLP, 641 F.3d 1089,
23   1094 (9th Cir. 2011); Barnes v. Belice (In re Belice), 461 B.R.
24   564, 572 (9th Cir. BAP 2011).    A trial court's determination as
25   to the adequacy of representation under Civil Rule 23.1 is
26   reviewed for abuse of discretion.       Kayes v. Pac. Lumber Co.,
27   51 F.3d 1449, 1464 (9th Cir. 1995).       A bankruptcy court abuses
28   its discretion if it applies an incorrect legal standard, or

                                       -7-
 1   misapplies the correct legal standard, or if its factual findings
 2   are illogical, implausible, or without support from evidence in
 3   the record.   United States v. Hinkson, 585 F.3d 1247, 1262 (9th
 4   Cir. 2009) (en banc)).
 5                               DISCUSSION
 6        Under Civil Rule 12(b)(6), made applicable in adversary
 7   proceedings by Rule 7012, a bankruptcy court may dismiss an
 8   adversary complaint if it fails to "state a claim upon which
 9   relief can be granted."   In reviewing Debtor’s Civil
10   Rule 12(b)(6) motion, the bankruptcy court was required to accept
11   as true all facts alleged in Appellant’s Amended Adversary
12   Complaint and to draw all reasonable inferences in Appellant’s
13   favor.   Newcal Indus., Inc. v. Ikon Office Solutions, 513 F.3d
14   1038, 1043 n.2 (9th Cir. 2008).     An inference is reasonable “in
15   light of the competing inferences” that might show contrary
16   results.    Matsushita Elec. Indus. Co. v. Zenith Radio Corp.,
17   475 U.S. 574, 588 (1986).   However, the bankruptcy court was not
18   required to accept as true conclusory allegations in Appellant’s
19   complaint, nor to accept any legal characterizations cast in the
20   form of factual allegations.   Bell Atl. Corp. v. Twombly,
21   550 U.S. 544, 555-56 (2007); Warren v. Fox Family Worldwide,
22   Inc., 328 F.3d 1136, 1139 (9th Cir. 2003).
23        To survive a Civil Rule 12(b)(6) dismissal motion, a
24   complaint must present cognizable legal theories and sufficient
25   factual allegations to support those theories.    See Johnson v.
26   Riverside Healthcare Sys., LP, 534 F.3d 1116, 1121-22 (9th Cir.
27   2008).   As the Supreme Court has explained:
28        a complaint must contain sufficient factual matter,

                                       -8-
 1        accepted as true, to state a claim to relief that is
          plausible on its face. . . . A claim has facial
 2        plausibility when the plaintiff pleads factual content
          that allows the court to draw the reasonable inference
 3        that the defendant is liable for the misconduct
          alleged. . . . Threadbare recitals of the elements of
 4        a cause of action, supported by mere conclusory
          statements, do not suffice.
 5
 6   Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009).   By definition, a
 7   claim cannot be plausible when it lacks any legal basis.   Cedano
 8   v. Aurora Loan Servs. (In re Cedano), 470 B.R. 522, 528 (9th Cir.
 9   BAP 2012).   A dismissal under Civil Rule 12(b)(6) may be based on
10   either the lack of a cognizable legal theory, or on the absence
11   of sufficient facts alleged under a cognizable legal theory.
12   Johnson v. Riverside Healthcare Sys., 534 F.3d at 1121.
13        In deciding a Civil Rule 12(b)(6) motion to dismiss, the
14   trial court may consider the existence and content of documents
15   attached to and referenced in the complaint.   Lee v. City of
16   L.A., 250 F.3d 668, 688 (9th Cir. 2001).   Even when a document is
17   not physically attached to the complaint, the court may consider
18   its existence and contents when its authenticity is not contested
19   and when it necessarily is relied upon by the plaintiff in its
20   complaint.   See United States v. Ritchie, 342 F.3d 903, 907–08
21   (9th Cir. 2003).
22        Here, the bankruptcy court dismissed Appellant’s Amended
23   Adversary Complaint because it concluded that the claims it
24   asserted had no legal basis.   The bankruptcy court determined
25   that the legal theory espoused in that complaint — that Appellant
26   could prosecute a § 523(a) exception to discharge action against
27   Debtor as a representative under Rule 7023.1/Civil Rule 23.1 on
28   behalf of an alleged creditor, the POA — lacked merit because

                                     -9-
 1   Appellant was antagonistic to the interests of the other members
 2   of the POA.   Hr'g Tr. 3:22–4:2.5    In the alternative, the
 3   bankruptcy court concluded that dismissal was justified because:
 4   (1) The “Business Judgment Rule” supported the apparent decision
 5   by the POA Board not to prosecute a § 523(a) claim in its own
 6   right, Hr’g Tr. 4:2-7; and (2) assuming that Appellant’s claim
 7   that the POA Board members conspired with Debtor were true, then
 8   Appellant’s derivative claims against Debtor were barred by the
 9   equitable doctrine of in pari delicto, Hr’g Tr. 23:1-5.
10        After a de novo review of the record, we disagree with the
11   bankruptcy court’s determination that dismissal of Debtor’s
12   complaint was appropriate.
13                                   I.
14         The bankruptcy court erred in granting the motion to
       dismiss by drawing inferences in favor of Debtor to conclude
15     that Appellant was not an adequate representative of the POA.
16        It is not disputed in this appeal that, because Appellant is
17   not a creditor of Debtor, it lacks standing to prosecute an
18   exception to discharge action against him in its own right.    See
19   § 523(c)(1) (providing that a debt excepted from discharge under
20   subsections (2), (4) or (6) shall be discharged “unless, on
21   request of the creditor to whom such debt is owed” the bankruptcy
22   court determines such debt to be excepted from discharge);
23   Rule 4007(a) (providing that “[a] debtor or any creditor may file
24
          5
25           The bankruptcy judge recited the full text of the
     tentative decision on the record at the hearing. Although the
26   bankruptcy judge did not expressly indicate that she intended to
27   adopt the tentative, we assume, as have the parties in their
     briefs in this appeal, that the tentative ruling explains the
28   reasons for its ruling.

                                     -10-
 1   a complaint to obtain a determination of the dischargeability of
 2   any debt).   Rather, Appellant’s action is based on its alleged
 3   capacity to sue Debtor as a representative of the POA under
 4   Rule 7023.1.   Rule 7023.1 makes Civil Rule 23.1 applicable in
 5   adversary proceedings.    Civil Rule 23.1 provides in relevant
 6   part:
 7        Derivative Actions
 8        (a) Prerequisites. This rule applies when one or more
          shareholders or members of a corporation or an
 9        unincorporated association bring a derivative action to
          enforce a right that the corporation or association may
10        properly assert but has failed to enforce. The
          derivative action may not be maintained if it appears
11        that the plaintiff does not fairly and adequately
          represent the interests of shareholders or members who
12        are similarly situated in enforcing the right of the
          corporation or association.
13
          (b) Pleading Requirements. The complaint must be
14        verified and must: (1) allege that the plaintiff was a
          shareholder or member at the time of the transaction
15        complained of, or that the plaintiff's share or
          membership later devolved on it by operation of law;
16        (2) allege that the action is not a collusive one to
          confer jurisdiction that the court would otherwise
17        lack; and (3) state with particularity: (A) any effort
          by the plaintiff to obtain the desired action from the
18        directors or comparable authority and, if necessary,
          from the shareholders or members; and (B) the reasons
19        for not obtaining the action or not making the effort.
20        The Ninth Circuit recently discussed the history and purpose
21   of derivative suits under Civil Rule 23.1:
22        The derivative form of action permits an individual
          shareholder to bring “suit to enforce a corporate cause
23        of action against officers, directors, and third
          parties." Kamen v. Kemper Fin. Servs., Inc., 500 U.S.
24        90, 95, 111 S. Ct. 1711, 114 L. Ed. 2d 152 (1991)
          (quoting Ross v. Bernhard, 396 U.S. 531, 534, 90 S. Ct.
25        733, 24 L. Ed. 2d 729 (1970)) (emphasis omitted).
          "Devised as a suit in equity, the purpose of the
26        derivative action [is] to place in the hands of the
          individual shareholder a means to protect the interests
27        of the corporation from the misfeasance and malfeasance
          of 'faithless directors and managers.'" Id. (quoting
28        Cohen v. Beneficial Loan Corp., 337 U.S. 541, 548,

                                      -11-
 1        69 S. Ct. 1221, 93 L. Ed. 1528 (1949)).
 2   Rosenbloom v. Pyott, 765 F.3d 1137, 1147-48 (9th Cir. 2014).
 3        In its Amended Adversary Complaint, Appellant alleges that
 4   it is and was at all relevant times a member of the POA, and that
 5   it “will adequately and fairly represent the interests of the POA
 6   and members in enforcing and prosecuting its rights.”   The
 7   complaint asserts that Appellant made a demand on the POA Board
 8   to take action against Debtor and other parties, and the POA
 9   Board “has taken no steps to enforce its rights against these
10   Board members and former Board members.”   Appellant then alleges
11   in the complaint, with particularity, the reasons why the POA
12   Board was so dominated by Debtor that any further demand on the
13   POA Board to take action against Debtor would be futile.    Based
14   upon these allegations, Appellant asserts that it should be
15   allowed to pursue an exception to discharge of the POA’s claims
16   against Debtor under § 523(a)(2)(A), (a)(4), and (a)(6).
17        Neither the bankruptcy court nor Debtor disputes Appellant’s
18   status as a member of the POA, nor that the POA has not pursued
19   an exception to discharge action in Debtor’s bankruptcy case.
20   However, Debtor hotly disputes the factual assertions in the
21   complaint.   To support its dismissal motion, Debtor focuses on
22   its procedural objections under Civil Rule 23.1:   that, based
23   upon this record, Appellant cannot appropriately act as a
24   representative of the interests of the POA in the adversary
25   proceeding; that Appellant did not make an adequate demand on the
26   POA Board to act in advance of commencing this action; and that
27   the business judgment rule applies to foreclose Appellant’s
28   action.   Appellant disagrees with these contentions.

                                     -12-
 1        In our view, the issues raised by Debtor in its motion to
 2   dismiss all present fundamentally factual disputes.    In general,
 3   a trial court may not rule on disputed factual matters in
 4   resolving a Civil Rule 12(b)(6) dismissal motion.    Penilla v.
 5   City of Huntington Park, 115 F.3d 707, 710 (9th Cir. 1997).     As
 6   discussed below, in resolving the motion to dismiss, the
 7   bankruptcy court appears to have drawn several critical
 8   inferences in favor of Debtor, the moving party, something which
 9   is not appropriate in this context.    Ikon Office Solutions,
10   513 F.3d at 1043 n.2.   We must therefore reverse the bankruptcy
11   court’s order.
12        A.   Adequate Representation.
13        For purposes of Civil Rule 23.1, "[a]n adequate
14   representative must have the capacity to vigorously and
15   conscientiously prosecute a derivative suit and be free from
16   economic interests that are antagonistic to the interests of the
17   class."   Larson v. Dumke, 900 F.2d 1363, 1367 (9th Cir. 1989)
18   (citing Lewis v. Curtis, 671 F.2d 779, 788-89 (3rd Cir. 1982)).
19   The Ninth Circuit has held that a disqualifying conflict does not
20   necessarily exist when a party asserts both a derivative claim on
21   behalf of a corporation, and a personal claim against the
22   corporation.   Pareto v. FDIC, 139 F.3d 696, 699 (9th Cir. 1988)
23   ("The mere presence of an injury to the corporation does not
24   negate the simultaneous presence of an individual injury . . .
25   [because] an action may lie both derivatively and individually
26   based on the same conduct").   While a trial court must consider
27   any conflicts of interest in determining the adequacy of
28   representation, "[t]he prevailing view appears to be that there

                                     -13-
 1   is no per se rule prohibiting shareholders from simultaneously
 2   bringing both direct and derivative actions," and that the
 3   better-reasoned and predominant rule is to look behind the
 4   surface duality of the two types of actions, and to allow them to
 5   proceed unless an actual conflict emerges.   Natomas Gardens Inv.
 6   Group, LLC v. Sinadinos, 2009 WL 1363382, *15 (E.D. Cal. 2009)
 7   (applying both California and federal derivative law); see also
 8   Field Turf Builders, LLC v. Fieldturf USA, Inc., 2010 WL 817628,
 9   at *12 (D. Ore. 2010) (no per se rule); In re Rasterops Corp.
10   Sec. Litig., 1993 WL 476651, at *13 (N.D. Cal Sept. 10,
11   2010)(same); First Am. Bank and Trust by Levitt v. Frogel, 726 F.
12   Supp. 1292, 1298 (S.D. Fla. 1989) (simultaneous direct and
13   derivative claims could proceed); Keyser v. Commonwealth Nat.
14   Fin. Corp., 120 F.R.D. 489, 492 n.8 (M.D. Pa. 1988) (in holding
15   that the plaintiff's simultaneous direct and derivative claims
16   could proceed, the court stated, "[i]f and when plaintiffs prove
17   their allegations and the remedy stage is reached, the court may
18   take corrective measures to resolve any actual conflicts which
19   arise at that time").   In short, the case law instructs that a
20   derivative claim should not be dismissed solely because the
21   plaintiff is also asserting direct claims against the
22   corporation.
23        In granting Debtor’s motion to dismiss, the bankruptcy court
24   noted in its tentative ruling that Appellant could not adequately
25   and fairly represent the POA “in light of [the] antagonism
26   between the interests of the plaintiff and the homeowners
27   association.”   However, the bankruptcy court did not explain in
28   its tentative ruling or final order the conflict or antagonism to

                                     -14-
 1   which it was referring.    The relief sought in the Amended
 2   Adversary Complaint is an exception to Debtor’s ability to
 3   discharge what Appellant alleges are $3,471,814 in cumulative
 4   damages owed to the POA.    Plaintiff seeks no relief in the
 5   Amended Adversary Complaint against the POA or the POA Board.
 6        Apparently, the bankruptcy court was concerned that, given
 7   the claims being asserted by Appellant in the State Court Action,
 8   its interests were antagonistic to the POA.    In particular,
 9   Appellant’s SASC asserts three non-derivative claims: one to void
10   the sign lease between the POA and Chase; another in favor of
11   both Appellant and the POA to recover $5 million in public
12   nuisance damages from Debtor; and another to recover $200,000 in
13   damages from the POA and Debtor for private nuisance.6   Of these,
14   it is a matter of disputed fact whether voiding the sign lease
15   would prejudice the interests of the POA and its members.      And
16   the claim for $5 million for public nuisance also arguably favors
17   all POA members, not just Appellant.
18
19        6
             Cal. Civ. Code § 3479 defines a nuisance as "anything
20   which is injurious to health, or is indecent or offensive to the
     senses, or an obstruction to the free use of property, so as to
21   interfere with the comfortable enjoyment of life or property
22   . . . ." Newhall Land & Farming Co. v. Super. Ct., 19 Cal. App.
     4th 334, 341 (1993). A nuisance may be a public nuisance, a
23   private nuisance, or both. Venuto v. Owens-Corning Fiberglas
     Corp., 22 Cal.App.3d 116, 124 (1971). "A public nuisance is one
24
     which affects at the same time an entire community or
25   neighborhood, or any considerable number of persons, although the
     extent of the annoyance or damage inflicted upon individuals may
26   be unequal." Cal. Civ. Code § 3480. Every other nuisance is
27   private. Cal. Civ. Code, § 3481. However, "[a] private person
     may maintain an action for a public nuisance, if it is specially
28   injurious to himself, but not otherwise." Cal. Civ. Code § 3493.

                                      -15-
 1          Of the causes of action asserted in the SASC, only
 2   Appellant’s private nuisance claim against the POA and Debtor, on
 3   its face, potentially favors Appellant to the detriment of the
 4   POA.       But even this is disputed.      At oral argument, counsel for
 5   Appellant explained that the POA was named as a defendant as to
 6   the nuisance claims in state court only because it was the owner
 7   of the Property.       Hr'g Tr. 17:2–5.7     If that is correct, whether
 8   the private nuisance claim gives rise to a disqualifying conflict
 9   of interest between Appellant and the POA is matter for debate
10   and proof.       Instead, the bankruptcy court concluded that
11   Appellant’s assertion of the nuisance claim against the POA
12   prevented Appellant from fairly and adequately representing the
13   POA in the adversary proceeding.           While such a conclusion may
14   ultimately prove correct after a fuller development of the
15   relevant facts, it was premature for the bankruptcy court to
16   adopt that conclusion based solely on inferences drawn from the
17   allegations of the Amended Adversary Complaint and the SASC.
18          In sum, here, the bankruptcy court appeared to determine
19   that Appellant was not an adequate representative of the POA
20   under Civil Rule 23.1 to prosecute the § 523(a) exception to
21   discharge claims against Debtor by relying upon disputed facts,
22   and by drawing inferences from the alleged facts against
23
24          7
             The owner of real property is ordinarily a necessary
25   party to be joined in any litigation affecting that property.
     However, this is a discretionary rule of fairness under
26   California law and may not be applicable where the owner’s
27   interest is adequately represented by another party. People ex
     rel. Lungren v. Cmty. Redevelopment Agency, 56 Cal.App.4th 868,
28   876 (1997).

                                         -16-
 1   Appellant.    This was impermissible in resolving a motion to
 2   dismiss and, as a result, an abuse of discretion.
 3          B. The Business Judgment Rule and Demand Futility
 4          The United States Supreme Court has described the Business
 5   Judgment Rule as a "deferential” common law principle applicable
 6   in most states that implements "the basic principle of corporate
 7   governance that the decisions of a corporation — including the
 8   decision to initiate litigation — should be made by the board of
 9   directors or the majority of shareholders."    Kamen, 500 U.S. at
10   101.    The California Supreme Court has explained that "[t]he
11   common law business judgment rule has two components — one which
12   immunizes [corporate] directors from personal liability if they
13   act in accordance with its requirements, and another which
14   insulates from court intervention those management decisions
15   which are made by directors in good faith in what the directors
16   believe is the organization's best interest."    Lamden v. LaJolla
17   Clubdominium Homeowners Ass'n, 980 P.2d 940, 948 (Cal. 1999).
18          The Business Judgment Rule is implemented in this context by
19   the "demand requirement" set forth in Civil Rule 23.1(b)(3).
20   Kamen, 500 U.S. at 101.    That Rule requires that a
21   representative's complaint "state with particularity: (A) any
22   effort by the plaintiff to obtain the desired action from the
23   directors or comparable authority and, if necessary, from the
24   shareholders or members; and (B) the reasons for not obtaining
25   the action or not making the effort."    The Supreme Court has
26   instructed that the demand requirements for a derivative suit are
27   determined by the law of the state of incorporation.    Kamen,
28   500 U.S. at 96-97.    In this case, California's law nearly

                                      -17-
 1   duplicates Civil Rule 23.1(b)(3), providing in relevant part
 2   that:
 3        No action may be instituted or maintained in right of
          any domestic or foreign corporation by any holder of
 4        shares . . . of the corporation unless both of the
          following conditions exist: . . . (2) The plaintiff
 5        alleges in the complaint with particularity plaintiff's
          efforts to secure from the board such action as
 6        plaintiff desires, or the reasons for not making such
          effort[.]
 7
 8   Cal. Corp. Code § 800 (b).   California case law links the
 9   reasoning for this requirement to the Business Judgment Rule.
10        Where a board of directors, in refusing to commence an
          action to redress an alleged wrong against a
11        corporation, acts in good faith within the scope of its
          discretionary power and reasonably believes its refusal
12        to commence the action is good business judgment in the
          best interest of the corporation, a stockholder is not
13        authorized to interfere with such discretion by
          commencing the action.
14
15   Findley v. Garrett, 109 Cal.App.2d 166, 174 (1952).
16        Appellant, in the Amended Adversary Complaint, asserted that
17   it made a demand on the POA Board to pursue actions against
18   Debtor and his alleged accomplices, and that the POA Board had
19   taken no action.   Appellant then alleged with particularity
20   several reasons that it would be a futile gesture for it to
21   request any further action from the POA Board.   In our view,
22   assuming the facts asserted by Appellant were proven to be true,
23   the Amended Adversary Complaint satisfied the pleading
24   requirements of Civil Rule 23.1(b) and Cal. Corp. § 800 (b).
25        The bankruptcy court, as an alternative grounds for
26   dismissal, explained its view that the POA Board was entitled to
27   exercise its business judgment to conclude that no action against
28   Debtor was “appropriate or warranted.”   Hr’g Tr. 4:2-7.   Based on

                                     -18-
 1   this record, however, it is difficult to understand whether the
 2   POA Board actually took any action on the Demand Letter.    Indeed,
 3   since there is no evidence in the record regarding any board
 4   action, it was error for the bankruptcy court to infer that the
 5   POA Board “concluded that no action against the debtor is
 6   appropriate or warranted.”
 7        More specifically, the Demand Letter was sent by Appellant’s
 8   lawyer to counsel for the POA Board on June 18, 2013, and
 9   provided a four-page litany of grievances by Appellant against
10   the POA Board.   The specific allegations of conflicts of interest
11   among the POA Board members is contained in Paragraph 8.
12        8. Conflict of interest among the board members who
          retain significant personal interest in the commercial
13        property and/or the profitability of the commercial
          property. The Board has been dominated by persons
14        whose interests are intertwined with the commercial
          lots. Not surprisingly, the Board has made innumerable
15        decisions that favor the commercial owners over the
          interests of the residential owners — and i[n] many
16        cases to the detriment of the residential owners. The
          Board has continued to perpetuate the unconscionable
17        cost-splitting agreement in the CC&Rs between
          commercial and residential owners, and the
18        unconscionable nature of the commercial owners’
          guaranteed board positions and voting powers.
19
               These concerns are serious. The conduct by the
20        Board described herein demonstrates repeated, reckless
          breaches of the Board’s fiduciary duties to the
21        residential owners. While all parties recognize that
          the building includes commercial use, and that
22        commercial uses may sometimes be less convenient for
          residents, that does not permit the property rights and
23        safety of the residential owners to be compromised in
          the name of total commercial exploitation. . . . We
24        further demand that the Board immediately . . .
          investigate those Board members involved in the
25        aforementioned commercial dealings, and take such legal
          action against those persons as is necessary to
26        preserve the rights of the Association.
27        Although the Demand Letter was sent to counsel for the POA
28   Board, neither the Demand Letter nor other excerpts of the record

                                     -19-
 1   indicate that the POA Board members were provided with copies of
 2   the Demand Letter.   Counsel for the POA responded to the Demand
 3   Letter twice.   The first response was on June 21, 2013 (the
 4   "First Response Letter").   In the Demand Letter, counsel for
 5   Appellant had indicated that he and his client would attend an
 6   “open board meeting” on June 24, 2013.   In the First Response
 7   Letter, counsel for the POA Board forbade Appellant’s counsel to
 8   attend the meeting because the POA Board’s counsel could not
 9   attend.   There is no indication in the record that Appellant
10   attended the open meeting without counsel.   Further, the First
11   Response Letter does not indicate if the members of the POA Board
12   were copied.
13        Counsel for the POA provided a more detailed response on
14   July 5, 2013 (the “Second Response Letter”).   Counsel’s specific
15   response concerning Appellant’s allegations about the alleged
16   conflict of interest by members of the POA Board was:
17        You state that the board is “dominated by persons whose
          interests are intertwined with the commercial lots.” I
18        have no idea where you are taking this information
          from. It is true that the commercial owner, who is
19        guaranteed representation and a single space on the
          board, has elected a representative to the board.
20        However, to my knowledge, no other member of the board
          has any financial interest in the commercial owner.
21        Since the board is composed of five individuals,
          elected by the entire Association, exactly how is it
22        that the commercial owner is dominating the decisions
          of the board of directors? The CC&Rs pre-date each and
23        every owner’s interest in the building and bind each
          and every owner. The CC&Rs are clear that the board of
24        directors has no right to interfere with the commercial
          owners’ lawful use of the commercial spaces in the
25        building. Moreover, the CC&Rs state that they may not
          be amended to change the commercial owners’ interest in
26        the building without the commercial owners’ approval.
          This is simply a fact; this does not show any sort of
27        conflict of interest. . . .
28              You state that the Association should recover any

                                     -20-
 1        funds “misappropriated or improperly disposed of by the
          relevant board members.” However, you have never
 2        stated once in your letter that any funds were
          misappropriated or “improperly disposed of.” The board
 3        knows of no such instance, and I know of no such
          instances. If you have evidence of misappropriation,
 4        then I hereby demand that you provide them to me, in
          writing, immediately. If you do not, then I strongly
 5        suggest that you cease this spurious claim since it is
          defamatory and subjects both you and your clients to
 6        damages for such defamation.
 7        Fairly interpreted, the letters show that Debtor made demand
 8   on the POA Board as required by Civil Rule 23.1 (“The complaint
 9   must be verified and must . . . (3) state with particularity:
10   (A) any effort by the plaintiff to obtain the desired action from
11   the directors or comparable authority and, if necessary, from the
12   shareholders or members)[.]”); and Cal. Civ. Code 800(b)(2) (“The
13   plaintiff alleges in the complaint with particularity plaintiff's
14   efforts to secure from the board such action as plaintiff
15   desires[.]”).
16        After further proceedings, Debtor may be able to demonstrate
17   sufficient facts to show that the POA's actions justify the
18   protections of the Business Judgment Rule.   However, here the
19   bankruptcy court inferred that the POA made a business decision
20   not to pursue a § 523(a) action against Debtor based solely on
21   the POA Board's failure to join in Debtor's action or to file its
22   own action.   In resolving the motion to dismiss, on this record,
23   such an inference was improper under Civil Rule 12(b)(6).
24        Debtor thus satisfies the first part of the federal and
25   California procedural rules for derivative actions.   However, as
26   noted, the POA Board does not appear to have taken any action in
27   state court against Debtor, nor has it sought a claim against
28   Debtor in this appeal.   Appellant has not sought any further

                                     -21-
 1   action from the POA Board because, as argued in the First Amended
 2   Complaint, such requests would be “futile.”    Thus, the second
 3   part of the federal and California derivative rules attach: Civil
 4   Rule 23.1(b)(2)(B) (“The complaint must . . . state with
 5   particularity: . . . (B) the reasons for not obtaining the action
 6   or not making the effort.”); Cal. Corp. Code § 800(b)(2) (“The
 7   plaintiff alleges in the complaint with particularity plaintiff's
 8   efforts to secure from the board such action as plaintiff
 9   desires, or the reasons for not making such effort[.]”).
10        The “reasons for not making such effort” is known as the
11   demand futility rule.   "Although jurisdictions differ widely in
12   defining the circumstances under which demand on directors will
13   be excused, demand typically is deemed futile when a majority of
14   the directors have participated in or approved the alleged
15   wrongdoing, or are otherwise financially interested in the
16   challenged transactions."   Kamen, 500 U.S. at   101–102 (citations
17   and quotation marks omitted).    In California, courts look to the
18   derivative law of Delaware for instruction.    Bader v. Anderson,
19   179 Cal.App.4th 775 (2009).
20        The test commonly employed in determining the adequacy of
21   the pleading of demand futility was articulated in Aronson v.
22   Lewis, 473 A.2d 805 (Del. 1984); see Bader, 179 Cal.App.4th at
23   482 (citing Aronson).   The Aronson court observed that "the
24   entire question of demand futility is inextricably bound to
25   issues of business judgment and the standards of that doctrine's
26   applicability."   Id. at 812.   Aronson held that a court, in
27   deciding whether a plaintiff will be excused from making a demand
28   on the board, must evaluate "whether, under the particularized

                                      -22-
 1   facts alleged, a reasonable doubt is created that: (1) the
 2   directors are disinterested and independent and (2) the
 3   challenged transaction was otherwise the product of a valid
 4   exercise of business judgment."     Id. at 814;   Oakland Raiders v.
 5   NFL, 93 Cal.App.4th 572, 587 (2001) (applying the Aronson test].)
 6   "[F]utility is gauged by the circumstances existing at the
 7   commencement of a derivative suit."      Aronson, 473 A.2d at 810.
 8   And the two-prong test under Aronson is disjunctive; thus, demand
 9   is excused if either prong is satisfied.      Brehm v. Eisner,
10   746 A.2d 244, 256 (Del. 2000).
11        Appellant pleaded sufficient facts in the Amended Adversary
12   Complaint, which we must accept as true under Civil
13   Rule 12(b)(6), to establish that Debtor and his alleged co-
14   conspirators controlled a majority of the POA Board at the time
15   of the lease signing and at the time Appellant asserted the
16   derivative claims in the bankruptcy court.      From the allegations
17   of the Amended Adversary Complaint, the bankruptcy court could
18   infer that a majority of the POA Board members would favor the
19   commercial interests represented by Debtor and would be adverse
20   to the requests for the POA Board to prosecute an action against
21   Debtor in either the state or bankruptcy courts.      Because the
22   Business Judgment Rule is unavailable to the POA Board when a
23   demand is made on the board and the futility of a further demand
24   is shown, the bankruptcy court erred in dismissing the Amended
25   Adversary Complaint on the basis of the Business Judgment Rule.
26        C. In Pari Delicto.
27        Based upon the Amended Adversary Complaint, the bankruptcy
28   court concluded, as a matter of law,, that application of the

                                       -23-
 1   doctrine of in pari delicto barred Appellant’s claims against
 2   Debtor.    We disagree.
 3          The Supreme Court discussed the doctrine’s application:
 4          The common-law defense at issue in this case derives
            from the Latin, in pari delicto potior est conditio
 5          defendentis: "In a case of equal or mutual fault . . .
            the position of the [defending] party . . . is the
 6          better one." The defense is grounded on two premises:
            first, that courts should not lend their good offices
 7          to mediating disputes among wrongdoers; and second,
            that denying judicial relief to an admitted wrongdoer
 8          is an effective means of deterring illegality of
            wrongdoing as defendants.
 9
10   Bateman Eichler, Hill Richards, Inc. v. Berner, 472 U.S. 299, 303
11   (1985).    The Ninth Circuit has endorsed the application of the
12   in pari delicto doctrine in civil litigation.    See Kardoh v.
13   United States, 572 F.3d 697, 700 (9th Cir. 2009) (although a
14   criminal case, the doctrine was applied to resolve a civil issue,
15   that a party could not seek approval from the district court to
16   recover fees voluntarily paid in furtherance of an illegal
17   agreement).    Application of in pari delicto is governed by state
18   law.    Hagan v. Baird (In re B&P Baird Holdings, Inc., 2015 U.S.
19   App. LEXIS 30, at *15 (6th Cir. Jan. 2, 2015).    California
20   recognizes in pari delicto as an equitable defense in civil
21   litigation.    Mailand v. Burckle, 572 P.2d 1142, 1147 (Cal. 1978).
22          Traditionally, the defense was limited to situations where
23   both parties bore "at least substantially equal responsibility”
24   for their acts."    Berner, 472 U.S. at 307; 1 J. Story, Equity
25   Jurisprudence 399-400 (14th ed. 1918).    This requirement of equal
26   responsibility for the wrong continues in current California case
27   law.    Mountain Air Enterprises, LLC v. Sundowner Towers, LLC,
28   231 Cal.App.4th 805, 847 (2014) (explaining that in pari delicto

                                      -24-
 1   applies when parties are in "equal wrong").
 2        Here, the bankruptcy court reasoned that, accepting the
 3   allegations of Appellant’s Amended Adversary Complaint as true,
 4   the POA and the POA Board were in pari delicto with Debtor in
 5   entering into the lease, and Appellant, as the representative of
 6   the POA, could not seek relief for what amounted to the
 7   collective misconduct of Debtor and the POA Board.   Again,
 8   however, this conclusion is founded upon inferences.
 9        In dismissing it, the bankruptcy court relied upon the
10   allegations in the Amended Adversary Complaint, which included
11   that: (1) Debtor and his “co-conspirators” on the POA Board set
12   up the governing documents of the POA so as to allow them to
13   leach from the residential owners; (2) Debtor and these members
14   of the Board acted with the express intention to damage the POA
15   and to enrich themselves; (3) “The [POA Board] that made the
16   decision to enter into the sign lease was elected through a
17   flawed election that did not conform with the constitutional
18   documents of the POA, because, in part, Debtor and his
19   coconspirators orchestrated undisclosed changes in the voting
20   rules . . . in order to stack the board with directors whom he
21   and his coconspirators could control”; and (4) “The board is
22   dominated by Debtor and his co-conspirators.”
23        Standing alone, these allegations do not support application
24   of the equitable doctrine.   At worst, the allegations suggest
25   that Debtor and the POA Board were possibly in pari delicto.
26   There are no facts alleged in the Amended Adversary Complaint or
27   otherwise appearing in the record to support the bankruptcy
28   court’s inference that the POA, as opposed to the POA Board,

                                     -25-
 1   participated in the alleged wrongdoing.   We have located no case
 2   law that would allow the bankruptcy court to attribute the
 3   wrongdoing of a board to the corporation for purposes of a
 4   derivative action.8   On the other hand, the well-pled facts of
 5   the Amended Adversary Complaint support an inference that the POA
 6   was a victim of the fraud and fiduciary breaches of Debtor and
 7   members of the POA Board.   It was therefore error for the
 8   bankruptcy court to infer that the claims alleged in the Amended
 9   Adversary Complaint were barred by in pari delicto.
10                               CONCLUSION
11        The bankruptcy court erred in dismissing Debtor’s Amended
12   Adversary Complaint under Civil Rules 12(b)(6) and 23.1.     We
13   therefore REVERSE the bankruptcy court’s order and REMAND this
14   matter to the bankruptcy court for further proceedings.9
15
16
17
18
19        8
             Indeed, we have found no published cases where a
20   bankruptcy court has considered the in pari delicto defense in
     the context of a Civil Rule 23.1 or Rule 7023.1 action. However,
21
     district courts considering shareholder derivative actions under
22   Civil Rule 23.1 have allowed the in pari delicto defense when the
     corporation is in equal fault with its board. Miller v.
23   Interfirst Bank Dallas, N.A., 608 F. Supp.169, 171-72 N.D. Tex
24   1985) (“fault of the parties must be clearly mutual,
     simultaneous, and relatively equal”). Here, as discussed above,
25   there is nothing in the record to show that the POA participated
     in the alleged wrongdoing by the Debtor and the POA Board.
26
          9
27           Because we reverse the dismissal order, we need not
     address whether the bankruptcy court erred in dismissing
28   Appellant’s Amended Adversary Complaint without leave to amend.

                                     -26-
