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In re Classicstar Mare Lease Litigation

United States District Court, E.D. Kentucky, Central Division, Lexington

January 19, 2019

IN RE CLASSICSTAR MARE LEASE LITIGATION
v.
CLASSICSTAR, LLC, et al., Defendants. and PREMIERE THOROUGHBREDS, LLC, et al., Plaintiffs,

          MEMORANDUM OPINION & ORDER

          JOSEPH M. HOOD, SENIOR U.S. DISTRICT JUDGE

         This matter is before the Court upon Defendant John Parrott's Joint Motion to Dismiss Fourth Amended Complaint pursuant to Fed.R.Civ.P. 12(b)(6) & 9(b) [DE 200, 216, 219].[1] For the reasons that follow, his Motion will be denied.

         I. Factual Averments

         Plaintiffs allege that ClassicStar, LLC, and a number of subsidiaries and related entities operated a thoroughbred breeding business on farms belonging to ClassicStar's wholly owned subsidiary, ClassicStar Farms, LLC. [Complaint ¶¶ 43-44.] ¶ 2001, ClassicStar was acquired by GeoStar Corporation, a limited liability company owned by Ferguson, Robinson, and Parrott. [Complaint ¶ 42.] From that point forward, Ferguson actively managed both ClassicStar and GeoStar in relation to those portions of their business of which Plaintiffs complain while Robinson and Parrott negotiated with salespeople and professionals and took other actions which facilitated offering for participation Mare Lease Programs. [Complaint ¶¶ 59-60.]

         Prior to its acquisition of ClassicStar, GeoStar had operated as an energy development company with interests in various mineral reserves, primarily coal bed methane beds, located throughout North America. GeoStar had raised funds for its development of these properties primarily through the sale of working interests in various wells to be drilled on the properties. It undertook this development through various subsidiaries, including a public traded company, Gastar Exploration, Ltd. (“Gastar”), which was wholly controlled by GeoStar and its members Ferguson, Robinson, and Parrott. [Complaint ¶¶ 53-56.] After its acquisition of ClassicStar, GeoStar designed the Mare Lease Programs as an alternative means of raising funds for its mineral development. [Complaint ¶ 46.] Throughout this period, it continued to maintain and exercise control over a substantial portion of ClassicStar and its finances. [Complaint ¶ 44-45.] Plaintiffs aver that the Mare Lease Programs themselves were operated by ClassicStar and by numerous of its subsidiaries including CFI and ClassicStar Thoroughbreds without regard to the separate existence of those companies. [Complaint ¶ 44.]

         As the Programs matured, GeoStar and Ferguson, Robinson, and Parrott formed various other entities to facilitate the sales and enlisted other entities to further the scheme. NELC, a company financed by ClassicStar and operated by ClassicStar's accountant, existed to provide financing to parties transacting with ClassicStar. [Complaint ¶¶ 89, 91.] Additionally, entities such as GFS and FEEP were used to disguise the shortfall of breeding pairs available for the Programs. [Complaint ¶¶ 36, 48, 61-68.] Ferguson, Robinson, and Parrott served as either officers or directors of GEEI, FEEP's managing member, and as members of its advisory committee. [Complaint ¶ 12, 25, 48, 67.]

         Beginning in 2001, ClassicStar generated hundreds of millions of dollars from the ClassicStar Mare Lease Programs. [Complaint ¶¶ 1, 83.] ClassicStar marketed its Programs to individuals and companies having an interest in the thoroughbred horse industry. [Complaint ¶ 2.] The Programs allowed participants to lease a mare belonging to ClassicStar, for the duration of one breeding season, at a cost set at 30% of the fair market value of the mare. [Complaint ¶¶ 79-82.] In addition, the Programs provided for breeding of the mare with a selected stallion and board for the mare and the resulting foal. [Complaint ¶¶ 77-78.]

         Much of ClassicStar's marketing featured the Kentucky properties owned by its subsidiary, ClassicStar Farms, and promoted ClassicStar's success in the thoroughbred industry. In addition, ClassicStar encouraged participants to participate in the Program despite the high price by arranging for the financing of at least half of the cost through a lender selected by ClassicStar. [Complaint ¶ 89.] The participants were offered further inducement in the form of several subsequent business opportunities, each involving GeoStar or its affiliates, which would eventually allow participants to retire this note and convert a number of their equine interests into a less labor-intensive business opportunity. [Complaint ¶¶ 81, 128, 134.] Finally, ClassicStar represented that it had structured the Programs so as to allow participants to claim a tax deduction in the full price of the Package, including the loan. [Complaint ¶ 79.] ClassicStar reaped the benefits of the tax savings thus generated, when participants transferred the refunded funds to ClassicStar/NELC and or to participate in the Program, and ClassicStar passed these benefits along to its controlling parent GeoStar, which utilized the Programs to raise tens of millions of dollars to fund its own operations. [Complaint ¶¶ 93, 156.]

         From 2001 through at least 2005, ClassicStar promoted the Programs itself and through a number of related entities which Plaintiffs claim had no function or existence separate from ClassicStar, including ClassicStar 2004, which took over the Mare Lease Program Sales from 2004 forward, and CFI, which contracted with personnel to promote and offer to participants the Programs. [Complaint ¶ 44.] These personnel, such as Doug Anderson, David Plummer and Spencer Plummer and ClassicStar's marketing materials represented to the Plaintiffs and others that monies transferred to participate in the Mare Lease Programs bore a relationship (in the amount of 30%) to the value of the underlying mares owned by ClassicStar and that the full cost of the Program could be tax deducted by qualified individuals participating in a breeding business. [Complaint ¶¶ 79-80.]

         In fact, the breeding pairings for which participants paid tens of millions of dollars consisted primarily of quarter horses owned by David Plummer, not ClassicStar, and assigned such grossly inflated values. [Complaint ¶ 87.] ClassicStar resorted to this tactic because it consistently offered far more Programs to participants than supported by thoroughbred interests owned by ClassicStar. [Complaint ¶ ¶ 88-90.] GeoStar, and Ferguson, Robinson, and Parrott specifically approved this substitution of overvalued quarterhorses for the thoroughbreds that the contracts and marketing materials represented that participants would own.

         Plaintiffs aver that, had a truly disinterested lender financed the transaction, its investigation would almost certainly have uncovered this deception prior to Plaintiffs' payment. Therefore, to conceal the fraud, ClassicStar placed the loans with NELC, a company formed by persons affiliated with ClassicStar and one which would not insist on independent confirmation of the horses' value. [Complaint ¶¶ 89, 92.] Because NELC lacked the resources to actually finance such a large volume of transactions, ClassicStar transferred the amounts needed to fund the loans to NELC, and NELC transferred them back to ClassicStar as loan proceeds. [Complaint ¶ 91.]

         Unfortunately, the connection between NELC and ClassicStar called into question the deductibility of the loan, a major marketing point of the Programs, because the applicable regulations do not allow for the deduction of debt owed to interested parties. [Complaint ¶ 92.] Knowing that Plaintiffs and other contributors relied on NELC's status as a third party lender, both NELC and ClassicStar did not disclose this fact and actively cooperated in structuring the loan portion of the transaction in such a way as to conceal the fraud. [Complaint ¶¶ 89-91.]

         In the same manner, had participants actually needed to liquidate a portion of their Programs to repay NELC, they would have quickly discovered the inflated values. To forestall this eventuality, GeoStar, the ultimate beneficiary of the proceeds, proposed a number of secondary transactions which would allow the largely fictional portions of the Programs to be exchanged for some asset provided by or associated with GeoStar. [Complaint ¶¶ 81, 83, 84.] These included stock in Gastar, a publicly traded Canadian company controlled by GeoStar, working interests in coal bed methane fields operated by GeoStar, and units in companies managed by GeoStar affiliates, including GEEI which purported to manage a limited liability company called First Equine Energy Partnership ("FEEP") whose units Plaintiffs obtained in exchange for their quarter horse interests. [Id.] NELC would accept some portion of these interests in repayment of the loan, thus perpetuating the fraud. [Complaint ¶¶ 129, 134.]

         FEEP, which was managed by GEEI, served one such secondary transaction. FEEP involved the exchange of participants' largely fictional equine interests for FEEP units. [Complaint ¶¶ 61-67.] FEEP's assets purportedly consisted of the contributed breeding rights as well as working interests in a number of coal bed methane wells contributed by the manager and owner of the common units, GEEI. [Complaint ¶ 63.] According to the FEEP prospectus, these working interests would generate cash sufficient ...


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