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Nester v. O'Donnell

May 22, 1997

HARRY NESTER AND MARY NESTER, PLAINTIFFS-APPELLANTS, AND MDN, INC., PLAINTIFF,
v.
JAMES D. O'DONNELL, SR. AND CROSS WIRE CLOTH AND MANUFACTURING COMPANY, INC., A NEW JERSEY CORPORATION, DEFENDANTS-RESPONDENTS. AND JAMES D. O'DONNELL, IRA, AND DEFINED PENSION PLAN, THIRD-PARTY PLAINTIFFS- RESPONDENTS, -V- MDN, INC., THIRD-PARTY DEFENDANT, AND HARRY W. NESTER AND MARY NESTER, THIRD-PARTY DEFENDANTS-APPELLANTS, JAMES D. O'DONNELL, SR., PLAINTIFF-RESPONDENT, -V- HARRY W. NESTER AND MARY T. NESTER, DEFENDANTS-APPELLANTS AND MDN, INC., DEFENDANT.



On appeal from the Superior Court of New Jersey, Law Division, Camden County.

Approved for Publication May 26, 1997.

Before Judges Shebell, Baime and P.g. Levy. The opinion of the court was delivered by P.g. Levy, J.A.D.

The opinion of the court was delivered by: Levy

The opinion of the court was delivered by

P.G. LEVY, J.A.D.

Plaintiffs (the Nesters) purchased defendants' (O'Donnell and/or Cross Wire) wire mesh business in 1985 for more than $1 million. Terms of the sale were stated in a contract made on October 15, 1985. The buyer's obligations were secured by two promissory notes and one mortgage note. Shortly before the two promissory notes were set to balloon on December 15, 1992, Harry Nester attempted to restructure the financing. When negotiations failed, plaintiffs ceased making payments and sued defendants for breach of contract on January 13, 1993.

They allege they discovered, some seven years later, that defendants had regularly engaged in a practice of substituting lower grades of stainless steel than was ordered by customers, while billing for the more expensive material originally ordered. They sued defendants in January 1993, seeking to rescind the various contracts and promissory notes related to the original purchase and compensatory damages. Defendants raised the six year statute of limitations for contractual claims as an affirmative defense and counterclaimed for payment of the balances on the first promissory note and the balance due on the mortgage notes. Included in the answer was a third-party complaint for the unpaid balance on the second promissory note due to O'Donnell's succeeding interest in Cloth Wire's pension plan fund. The three notes each provided that a default on one would accelerate the balance due on the others. Plaintiffs answered the counterclaim and third-party complaint by asserting the fraudulent acts alleged in their complaint as well as the right of setoff. Later they moved to amend their answer to also claim the right of recoupment.

Two years later, O'Donnell filed a separate action for foreclosure of a purchase money mortgage. Defendants answered claiming nothing was due because they had a right to setoff what was owed them for O'Donnell's fraud in the inducement of the original contract. They also counterclaimed for discharge of the mortgage on the basis that they were only accommodation makers. The two actions were consolidated.

Defendants moved for summary judgment on the original complaint based on the statute of limitations. The General Equity Judge held a hearing, expressed his rulings in a written opinion and dismissed the complaint by order of May 2, 1995. In October 1995, defendants moved for partial summary judgment on the remaining issues, based of O'Donnell's June 1995 amendment of his complaint in foreclosure and counterclaim and third-party complaint to the original action; the motion was for judgment on the unpaid balances on the three notes in default. The Nesters filed a cross-motion seeking to amend the pretrial order to clarify the nature of their claims and include the defense of recoupment. On December 21, 1995, an order was entered in favor of O'Donnell, specifying that the Nesters were not accommodation makers but primary obligors on the two promissory notes, the counterclaim to the foreclosure complaint was dismissed, the Nesters were held in default under the mortgage note and both of the promissory notes, and the cross-motion to amend the pretrial order was denied. The Judge reasoned that the time limit barring plaintiffs from asserting their direct claims against defendants also barred them from asserting the defenses of setoff and recoupment to the counterclaim. On March 26, 1996, final judgment of $539,370.43 plus post-judgment interest and attorneys fees was entered against Harry and Mary Nester, individually. *fn1

On appeal, plaintiffs contend they should have been permitted to assert the affirmative defenses of setoff and recoupment and they were only accommodation makers of the notes, not direct borrowers, and therefore not personally liable. Additionally, they claim the Judge erred in applying the six-year time limit, since they could not have discovered the basis of their claim for fraud until after the statute of limitations had expired. We agree with the Judge that plaintiffs were not accommodation makers, and we also conclude the record supports the Judge's ruling that applied the statute of limitations and dismissed their complaint. However, we disagree with the Judge's finding as to the right of plaintiffs to defend the separate claims for default on the promissory notes asserted in O'Donnell's counterclaim and third-party complaint by seeking recoupment. Therefore we affirm in part and reverse in part.

I. The Period of Limitations

The essence of plaintiffs' claim is that defendants engaged in fraud by overstating the value of the business at the time of the sale. This occurred because defendants failed to inform plaintiffs that they regularly substituted one type of metal for another when they shipped goods to their customers, without the customers' consent. As a result, customers were overcharged, leading to inflated revenues and profits.

Before the contract was finalized and executed, Harry Nester engaged in a due diligence process. Nester and O'Donnell had numerous Discussions as to what the business was, how it operated, who they sell to, how many customers there are, where they get their materials, what they do with the materials, what the costs are in operating the business, how things are inventoried, and other financial information as to what costs and sales and profits would be. Nester learned some of this information orally and some in writing. The due diligence activities were conducted on Sundays and after hours because O'Donnell did not want his employees or customers to know the business was for sale. Nester testified he felt competent investigating the financial records on his own rather than hiring an accountant to do so. He reviewed a sampling of invoices "to test to see if it was reasonable to assume that the gross profit stated on Mr. O'Donnell's financial statements was reasonable." He looked at the invoices and the job file and cataloged the information on a spreadsheet on his computer. Nester's on-site investigation lasted for seven days.

Plaintiffs acknowledge the limitations period for fraud is six years. N.J.S.A 2A:14-1. However, they claim they did not become aware of defendants' fraudulent activity until November 1992, and under the discovery rule, the ...


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