A trustee in the Tops Markets bankruptcy case is suing the supermarket chain's former owners, including Morgan Stanley, alleging that they bled Tops dry by loading the company with debt, in large part, to pay themselves $375 million in dividends.
And he wants a jury to decide whether Tops' former owners should be required to pay them back.
The lawsuit, filed by the trustee for the litigation trust in the Tops bankruptcy case, accuses Morgan Stanley of paying itself "lavish and illegal dividends" that enriched the Wall Street firm and the other private-equity firms that owned Tops, while saddling the chain with so much debt that it quickly became insolvent and was forced into bankruptcy two years ago.
That bankruptcy saddled the company's creditors with more than $1 billion in losses and put Tops in such a financial bind that it was unable to adequately fund the pension plan for most of its workers, eventually pushing it into insolvency and leading to benefit cuts for those employees and retirees.
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"In six short years, Morgan Stanley and the other private equity investors bled a once-thriving regional grocery chain dry," said Alan D. Halperin, the trustee for the Tops Holding Litigation Trust, in a lawsuit filed in the U.S. Bankruptcy Court for the Southern District of New York. "Tops was crippled by a series of massive, illegal dividends orchestrated by Morgan Stanley."
By the time Morgan Stanley sold Tops to the chain's management in 2013, the company's private-equity owners were able to walk away with a profit that was more than three times bigger than their investment in the company, the lawsuit alleges.
Yet they left behind a company that was reeling, saddled with too much debt and unable to make the investments that were needed to keep Tops' stores competitive in an upstate New York grocery market that already was challenging because of intense competition that resulted from supermarket chains scrambling to attract customers in a stagnant market.
"Tops was crippled by a series of massive, illegal dividends orchestrated by Morgan Stanley," Halperin said in the complaint. "Morgan Stanley dominated and controlled Tops and treated it like a piggy bank."
A Morgan Stanley spokeswoman declined to comment Friday.
"We are aware of the General Unsecured Litigation Trust filing a lawsuit against former owners Morgan Stanley," Tops spokeswoman Kathy Sautter said. "We are not a party to this suit, as Morgan Stanley no longer owns or controls the company."
Halperin was appointed, as part of the bankruptcy case, to pursue claims against Tops' former owners. A group of Tops' unsecured creditors in June 2018 urged the bankruptcy court to conduct a "full examination" of the dividend payments made following the 2007 acquisition by Morgan Stanley.
The lawsuit seeks a jury trial to determine whether the dividend payments to Morgan Stanley and its partners were fraudulent and illegal. It seeks a judgment requiring the dividend to be repaid, plus unspecified damages.
Litigation trustees are appointed by the bankruptcy court to represent creditors and investigate potential claims against parties that may have involved in actions that contributed to the bankruptcy filing.
Last year, for instance, real estate billionaire Sam Zell and other former officers and directors of Tribune Co. reached a $200 million settlement with the litigation trustee in Tribune's 2008 bankruptcy case over allegations of fraudulent transactions that included "unlawful" dividend payments and fraudulent transfers following its 2007 leveraged buyout.
The Tops lawsuit comes at a time when grocers backed by private-equity firms are facing challenges. Since 2015, nine supermarket chains backed by private-equity firms have filed for bankruptcy protection, including two this year, according to S&P Global Market Intelligence and PitchBook Data.
Tops emerged from bankruptcy in November 2018 after closing 10 unprofitable stores and restructuring its debt to reduce its borrowings and cut its annual interest payments by about $25 million. The company has been investing in its stores again, announcing $40 million in upgrades last year after spending nothing on improvements in 2018.
Morgan Stanley bought Tops for $300 million, using $100 million of its own money and funding the rest of the purchase with $227 million in debt that was issued by the company. That debt offering was the first of several that would eventually saddle Tops with a stifling debt load that, by the time of the bankruptcy, was draining $80 million a year from the company for interest payments on its borrowings.
At the same time, Tops' main pension funds for its employees were already underfunded, and investment losses during the Great Recession caused those deficits to swell sixfold to more than $515 million by 2013 from $85 million in 2007.
With the U.S. economy in its worst financial downturn since the 1930s, Morgan Stanley wasn't able to recoup its investment by selling Tops, so it instead piled $422 million in debt on Tops between 2007 and 2013, the lawsuit said. Most of that debt went to pay $375 million in dividends to Morgan Stanley, which owned 70% of Tops, and the other private-equity firms that held stakes in the supermarket chain.
But by 2009, when it began a series of debt sales over a period of the next four years to fund the dividend payments, Tops already was insolvent, the lawsuit charged. With Tops in such a weakened financial state, it didn't have the money it needed to invest in store upgrades, spending just $24 million on capital projects in 2017.
Yet Morgan Stanley orchestrated $105 million in dividend payments in 2009 and another $30 million in 2010. Two years later, in 2012, Tops paid out $100 million in dividends to its private-equity owners, followed by another $141.9 million payment in 2013.
In three of the four instances where Tops paid a dividend, it hired a different consultant to do a "valuation analysis" to show whether the company could afford the payout. But the lawsuit contends that, in some cases, it omitted important information about pension fund liabilities that, had they been disclosed, would have shown that the value of the chain's assets were less than what it had to pay on its debt and other obligations.
In 2009, for instance, the lawsuit alleges that Tops failed to disclose a $45 million liability at a pension fund for workers who belonged to the Teamsters union. Without that liability, the consultant, accounting firm KPMG, concluded that Tops would have a value of $33 million after paying out the dividend. The lawsuit contends that, had the pension liability been considered, Tops actually was insolvent, with a capital deficit of $13 million, making it unable to support the dividend payment.
With two of the other dividend payments, a different consultant was hired and Morgan Stanley took a different approach to valuing the company. In the 2012 analysis, conducted by Duff & Phelps, the lawsuit contends that Tops provided inflated projections for its sales and operating earnings.
In 2013, when it hired Houlihan Lokey to do a valuation analysis, it failed to disclose the liabilities it faced from both of its pension funds, the lawsuit said. That omission allowed the consultant to conclude that Tops' finances were strong enough to pay out the dividend, when the company really was insolvent when those liabilities were considered.