MICHAEL G. WILLIAMSON, Bankruptcy Judge.
The Debtor proposed a chapter 11 plan that provides for the contribution of substantial assets from the principals of the Debtor's parent company, Olympia Investment Group, LLC., who are also the non-debtor guarantors of a debt owed to a creditor, German American Capital Corporation, to help effect a successful reorganization. In exchange for that contribution, the Debtor requested releases for the non-debtor guarantors. The Court, instead, imposed a four-year stay on any actions by German American against the non-debtor guarantors. German American has requested that the Court impose certain "lock-up" restrictions on the reorganized Debtor's business operations and the non-debtor guarantors to prevent the Debtor and the non-debtor guarantors from disposing of assets during the four-year injunction period to thwart any potential future collection efforts.
The Debtor objects to German American's proposed "lock-up" restrictions with respect to the non-debtor guarantors on the basis that they exceed this Court's constitutional authority under the Supreme Court's recent decision in Stern v. Marshall.
Accordingly, this Court has jurisdiction to impose "lock-up" restrictions on the reorganized Debtor's business operations and the non-debtor guarantors.
The Debtor owns and operates a 175-room resort in downtown Safety Harbor, Florida. The Debtor acquired the resort in December 2004 for $25 million. Approximately $17 million of the purchase price was financed through BB & T Bank. In October 2006, the Debtor refinanced its acquisition of the resort through Wells Fargo Bank. The Debtor used the net proceeds from the $29.7 million refinancing for extensive renovations to the guestrooms (and major portions of the common area), as well as capital improvements. Under its loan agreement with Wells Fargo, the Debtor was required to sell or develop 15 acres of undeveloped land adjoining the resort. The principals of the Debtor's parent corporation, Olympia Investment
When the Debtor refinanced its mortgage, the appraised value of the resort fully secured the $29.7 million loan. But revenue generated from the resort was only able to support half of the debt service allocated to resort operations. And since 2008, resort revenues have decreased by over 40%. That decrease in revenues, coupled with the collapse of the real estate market, left the Debtor unable to service the debt and either sell or develop the 15 acres of adjoining land.
As a consequence, the Debtor filed for chapter 11 bankruptcy principally to value the secured portion of its loan with Wells Fargo in hopes of reducing its overall debt service. The Debtor and Wells Fargo were able to agree on a value for the resort: approximately $13.8 million. Wells Fargo later sold its loan to German American. As a consequence of the parties' agreement on value, German American holds a secured claim in this case in the amount of approximately $13.8 million and an unsecured claim for the balance in the amount of approximately $15.9 million.
The Debtor's plan proposes to pay German American's secured claim from three sources. First, Olympia Development Group, Inc. ("Olympia"), an entity that is owned by the non-debtor guarantors, will provide approximately $3 million from the sale of some of its assets. Second, the Debtor also proposes to sell a portion of its undeveloped land and use the proceeds from that sale (net of any outstanding real estate taxes) to further pay down the secured claim. Third, under the Debtor's plan, the Debtor proposes to pay German American's reduced secured claim in full based upon a 25-year amortization with a five-year balloon payment.
As for German American's unsecured claim, the Debtor proposes to pay German American a total of $4 million. That amount will be paid at a rate of $500,000 per year for the first four years of the plan, with a $2 million balloon payment. The $2 million balloon payment will be funded from the sale or refinance of a securities portfolio held by Olympia. Under the Debtor's plan, the $2 million balloon payment is due in four years from the sale of the securities. To further enhance the Debtor's enterprise value and liquidity, the non-debtor guarantors, as Olympia's owners, agree to contribute 100% of their Olympia stock to the Debtor. That stock transfer will produce approximately $200,000 in additional revenue necessary to fund the plan.
In exchange for their stock transfer to the Debtor, Olympia's principals (and German American's non-debtor guarantors) requested a release of their liability to German American under their personal guaranties. German American objected to confirmation, in general, and the proposed third-party releases, in particular. The Court held a lengthy evidentiary hearing on plan confirmation over two days in April 2011. And the Court ultimately determined that the Debtor satisfied the requirements of Bankruptcy Code section 1129. So the Court confirmed the Debtor's plan.
But the Court did not approve the proposed release of the non-debtor guarantors. Instead, the Court entered a limited injunction prohibiting German American from suing the non-debtor guarantors on their personal guaranties for the remainder of the amounts owed by the Debtor (but not paid under the plan) until payment of the final $2 million balloon payment. So long as the Debtor performs under the plan, German American is enjoined from pursuing the non-debtor guarantors
At the conclusion of the confirmation hearing, German American asked the Court to impose restrictions to prevent the non-debtor guarantors from effectively dissipating assets that German American could use to satisfy their obligations under the personal guaranties. The Court asked both parties to submit proposed "lock-up" restrictions on the Debtor's use of the Olympia stock.
German American proposed that the Court, among other things, prohibit the Debtor and Olympia from: (i) issuing additional equity interests to anyone other than the non-debtor guarantors; (ii) borrowing any additional funds; (iii) transferring or encumbering their equity interests in the Debtor; (iv) materially changing their management personnel or the business in which they are engaged; or (v) purchasing other companies. German American also requested that the Court prohibit the non-debtor guarantors from transferring or pledging their equity interests in the Debtor or Olympia, as well as prohibit Olympia from terminating or materially altering certain leases. The Debtor, on the other hand, proposed only that Olympia be prohibited from selling the securities intended to fund the $2 million balloon payment without German American's consent or Court approval, unless Olympia maintains a positive net worth of no less than $12 million.
Then at a June 29, 2011 hearing on the proposed "lock-up" provisions, the Debtor questioned the Court's constitutional authority to impose German American's— and perhaps any—proposed "lock-up" restrictions. The Debtor contends that the Supreme Court's decision in Stern imposes new limitations on bankruptcy courts' jurisdiction. In light of the arguments raised by the Debtor, the Court must first determine whether it has jurisdiction to impose any "lock-up" restrictions on the Debtor or the non-debtor guarantors. To make that determination, the Court must begin by reviewing the Stern decision. It is only after a thorough examination of Stern that the Court can understand the implications of that decision on the Court's constitutional authority to impose the requested "lock-up" restrictions or other restrictions the Court might fashion.
Stern involved a tort claim by Vickie Lynn Marshall (a/k/a Anna Nicole Smith) ("Vickie") against E. Pierce Marshall ("Pierce"), the son of her late husband J. Howard Marshall II. Vickie alleged Pierce tortiously interfered with a substantial inter vivos gift (estimated to exceed $300 million) that her late husband intended to give to her. Vickie brought the tort claim as a debtor-in-possession in her chapter 11 case pending before the bankruptcy court for the Central District of California. She asserted it as a counterclaim to a proof of claim that Pierce filed based on state-law defamation. Because the counterclaim was brought in response to a claim filed in Vickie's case, it was treated as a core proceeding under 28 U.S.C. § 157(b)(2)(C). Accordingly, after the bankruptcy court found for Vickie, it entered a final judgment
Before filing her bankruptcy case, Vickie had also filed an action in a probate court in Texas claiming Pierce fraudulently induced her late husband to sign a living trust that did not include her. While the bankruptcy appeal was pending, but before the district court entered any final judgment, the Texas probate court upheld the validity of J. Howard Marshall's estate plan and entered judgment in favor of Pierce and against Vickie. As a result, there were two inconsistent conclusions reached by two different courts—the California bankruptcy court and the Texas probate court.
If the bankruptcy court judgment was first in time, then under applicable law, it would be given preclusive effect, and the judgment of the Texas probate court would be invalid. If, however, the bankruptcy court did not have the power to enter a valid final judgment on what was in all respects a state law tort claim, then the findings of the Texas probate court would be preclusive, resulting in judgment being entered in favor of Pierce. So Pierce challenged the bankruptcy court's statutory and constitutional authority to enter its final judgment.
At the outset, the Supreme Court discusses generally the basic structure of a bankruptcy court's exercise of the district court's jurisdiction over bankruptcy proceedings under 28 U.S.C. § 1334(b).
Under 28 U.S.C. § 157(b)(1), bankruptcy judges may hear and enter final judgments in "all core proceedings arising under title 11 or arising in a case under title 11."
Next, the Supreme Court focused on whether the bankruptcy court had statutory authority to enter a final judgment on Vickie's counterclaim. At first glance, that issue seems easy enough. After all, section 157(b)(2)(C) provides that counterclaims are core proceedings. And section 157(b)(1), by its terms, authorizes bankruptcy courts to "hear and determine all cases under title 11 and all core proceedings arising under title 11, or arising in a
But nowhere does section 157 specify what bankruptcy courts are to do with the category of core proceedings that Pierce suggests.
Simply put, under the Supreme Court's analysis, there is no such thing as a core matter that is "related to" a case under title 11. Core proceedings are, at most, those that arise in title 11 cases or arise under title 11. According to the Supreme Court, the language of section 157 "simply does not provide for a proceeding that is simultaneously core and yet only related to the bankruptcy case."
Before addressing those constitutional concerns, though, the Supreme Court first disposes of Pierce's alternative argument to reaching them: the bankruptcy court lacked jurisdiction to enter a final judgment on his defamation claim under section 157(b)(5). That section provides that "[t]he district court shall order that personal injury tort and wrongful death claims shall be tried in the district court in which the bankruptcy case is pending, or in the district court in the district in which the claim arose."
First, section 157(b)(5) does not have the hallmarks of a jurisdictional decree. The statutory text does not, in particular, refer to either district court or bankruptcy court "jurisdiction."
The Supreme Court observed that it has recognized "`the value of waiver and forfeiture rules' in `complex' cases, ... and this case is no exception."
It is important to note that the Supreme Court's finding that Pierce, through his course of conduct had consented to the bankruptcy court's resolution of his defamation claim, was made in the context of section 157(b)(5). This provision deals solely with tort claims and provides that they shall be tried by the district court rather than the bankruptcy court. The discussion in this section of the opinion in no way deals with the larger issue of whether a party can consent to a bankruptcy court's entry of final judgments in proceedings that are only "related to" to the bankruptcy case. This will be discussed below.
Having rejected Pierce's alternative argument, the Supreme Court then turns to the constitutional concerns: whether the bankruptcy court had the constitutional authority to enter a final judgment on Vickie's common-law tort claim. To resolve that issue, the Supreme Court reviews generally the basis for Article III judicial jurisdiction, the mandates of its prior pronouncements in the area, the extent and possible application of the public rights doctrine to bankruptcy court jurisdiction, and finally, whether limiting bankruptcy courts' ability to hear state-law counterclaims will have a practical effect on the efficient administration of justice in the bankruptcy courts.
Article III of the United States Constitution mandates that "[t]he judicial Power of the United States, shall be vested in one supreme Court, and in such inferior Courts as the Congress may from time to time ordain and establish."
The Supreme Court then turns to the seminal case on bankruptcy jurisdiction under the Bankruptcy Act of 1978—Northern Pipeline Construction Co. v. Marathon Pipe Line Co.
The Supreme Court initially considers Murray's Lessee v. Hoboken Land & Improvement Co., the first case in which it recognized the public rights doctrine.
The Supreme Court also considers the most recent—and only bankruptcy—case in which it discussed the public rights doctrine: Granfinanciera, S.A. v. Nordberg.
The Supreme Court ultimately concluded that a fraudulent conveyance action filed on behalf of a bankruptcy estate against a noncreditor in a bankruptcy proceeding did not fall within the "public rights" exception. The Supreme Court reasoned that fraudulent conveyance suits were "`quintessentially suits at common law that more nearly resemble state law contract claims brought by a bankrupt corporation to augment the bankruptcy estate than they do creditors' hierarchically ordered claims to a pro rata share of the bankruptcy res.'"
As a consequence, the Supreme Court concluded that fraudulent conveyance actions were "`more accurately characterized as a private rather than a public right as we have used those terms in our Article III decisions.'"
Neither Northern Pipeline nor Granfinanciera involved a defendant who filed a proof of claim. But in Stern, Pierce had filed a claim. So the Supreme Court considers whether the bankruptcy court had authority to adjudicate Vickie's counterclaim under Katchen v. Landy
Katchen arose under the Bankruptcy Act of 1898. Under the 1898 Act, bankruptcy proceedings were divided into two categories—those over which the bankruptcy referee could exercise summary jurisdiction and enter final judgments and those that were considered plenary and could only be decided by the district court. The Katchen Court held that a bankruptcy referee could exercise summary jurisdiction over a voidable preference claim brought by the bankruptcy trustee against a creditor who had filed a proof of claim in the bankruptcy case.
In reaching that conclusion, the Supreme Court reasoned that summary adjudication in bankruptcy was appropriate because it was not possible for the referee to rule on the creditor's proof of claim without first resolving the voidable preference issue.
More recently, the Supreme Court, in Langenkamp, considered whether a creditor who had filed a proof of claim was entitled to a jury trial on a preference claim brought by the trustee. In concluding that there is no Seventh Amendment right to a jury trial in such cases, the Supreme Court reasoned that the filing of the claim by the creditor triggers the process of allowing and disallowing claims, thereby subjecting the creditor to the bankruptcy court's equitable power.
In both Katchen and Langenkamp, the preference actions would necessarily be resolved in ruling on the claims objections. But in Stern, "there was never any reason to believe that the process of adjudicating Pierce's proof of claim would necessarily resolve Vickie's counterclaim."
Another major distinction made by the Supreme Court in Stern is that in both Katchen and Langenkamp, the trustees were asserting rights of recovery created by federal bankruptcy law under Section 60a of the Bankruptcy Act of 1898 and 11 U.S.C. § 547. "Vickie's claim, in contrast, [was] in no way derived from or dependent upon bankruptcy law; it [was] a state court action that exist[ed] without regard to any bankruptcy proceeding."
For those reasons, the Stern Court concluded that the mere filing of a proof of claim is not sufficient to confer on bankruptcy courts authority to enter final judgments on state-law counterclaims under Katchen and Langenkamp. Instead, the Stern Court borrows from Granfinanciera's distinction between actions that seek "to augment the bankruptcy estate" and those that seek "a pro rata share of the bankruptcy res." The Supreme Court refines this conclusion by distinguishing between proceedings that "may have some bearing on a bankruptcy case," such as Vickie's tortious interference claim whose only effect on the bankruptcy case is that it would "augment the bankruptcy estate," and those that either (1) stem from the bankruptcy itself, or (2) would necessarily be resolved in the claims allowance process.
After concluding that Vickie's counterclaim did not fall within the public rights
Last, the Stern Court addresses the practical problems raised by the dissent. Justice Breyer, in his dissenting opinion, predicts that the Court's holding will lead to a "constitutionally required game of jurisdictional ping pong between courts," leading to "inefficiency, increased cost, delay, and needless additional suffering among those faced with bankruptcy."
And in any event, Pierce did not argue that the bankruptcy courts are barred from hearing all counterclaims or proposing findings of fact and conclusions of law on those matters, but rather that it must be the district court that finally decides them. Accordingly, the majority concludes that removal of counterclaims such as Vickie's from core bankruptcy jurisdiction will not "meaningfully change" the division of labor between the bankruptcy judges and district judges in bankruptcy cases. Importantly, the Supreme Court notes that the question presented in Stern is a "narrow" one.
The majority then concludes its discussion with a recap of the decision's important underpinnings: (1) Article III of the Constitution provides that the judicial power of the United States may be vested only in courts whose judges enjoy the protections set forth in that Article; (2) in enacting section 157, Congress exceeded the limitation contained in Article III in "one isolated respect"; and (3) the bankruptcy court in Stern lacked the constitutional authority to enter a final judgment on a state law counterclaim that was not resolved in the process of ruling on a creditor's proof of claim.
Having concluded a review of the opinion in Stern, the Court considers whether Stern's holding limits the Court's jurisdiction to include the "lock-up" provisions in the order confirming the plan with respect to the non-debtor guarantors. In addition, the Court will consider whether, in any event, parties to a bankruptcy proceeding may either expressly or impliedly consent to a bankruptcy court's entry of final judgments or orders in proceedings over which the bankruptcy court only has "related to" jurisdiction. The Court will also consider generally the impact of Stern on the other
The holding in Stern is that the bankruptcy court lacked the constitutional authority to enter a final judgment on a state-law claim that was not resolved in the Process of ruling on a creditor's proof of claim.
The Supreme Court plainly intended to, and in fact did, narrowly limit the scope of its holding in Stern. To begin with, it agreed that the question before it was a "narrow" one.
In fact, the Supreme Court's holding does even not remove all state-law counterclaims from the bankruptcy court's jurisdiction. The Supreme Court recognized in Stern that whether a bankruptcy court can enter a final judgment on a state-law counterclaim has to be decided on a case-by-case basis. And if after such analysis it is concluded that the counterclaim stems from the bankruptcy itself or that nothing remains for adjudication of the counterclaim once the bankruptcy judge resolves the claim objection, then the counterclaim can be tried and finally resolved by the bankruptcy court.
But regardless of bankruptcy courts' jurisdiction over state-law counterclaims, nothing in the Supreme Court's opinion actually limits a bankruptcy court's authority to adjudicate the other "core proceedings" identified in section 157(b)(2). Section 157(b)(2) identifies sixteen examples of core proceedings. Those sixteen examples can be broken down into five categories: matters of administration; avoidance actions; matters concerning property of the estate; omnibus categories; and cases filed under chapter 15 of the Bankruptcy Code.
The first category—"matters of administration"—consists of: matters concerning administration of the estate; allowance or
"There has never been any doubt about the constitutional authority of a nontenured judge to enter final orders in such matters [of administration], which are unique to bankruptcy cases."
Nor does the Stern Court's reliance on Granfinanciera actually limit a bankruptcy court's jurisdiction to finally resolve the other core proceedings identified in section 157(b)(2). Understandably, some bankruptcy courts have expressed concerns about the litigation that may result due to uncertainties created by Stern with respect to other types of proceedings defined as core under section 157(b)(2) that were not at issue in Stern.
But the Stern Court's use of the word "reaffirm" makes clear that nothing has changed. The sole issue in Granfinanciera was whether the Seventh Amendment conferred on petitioners a right to a jury trial in the face of Congress' decision to allow a non-Article III tribunal to adjudicate the claims against them.
In the end, the Granfinanciera Court held that the Seventh Amendment guarantees a right to a jury trial in a fraudulent conveyance action. But the Court did not "express any view as to whether the Seventh Amendment or Article III allows jury trials in such actions to be held before non-Article III bankruptcy judges subject to the oversight provided by the district courts."
Of course, years from now, the Supreme Court may hold that section 157(b)(2)(F) dealing with fraudulent conveyances is unconstitutional, just as it did with section 157(b)(2)(C). But the job of bankruptcy courts is to apply the law as it is written and interpreted today. Bankruptcy courts should not invalidate a Congressional statute, such as section 157(b)(2)(F)—or otherwise limit its authority to finally resolve other core proceedings—simply because dicta in Stern suggests the Supreme Court may do the same down the road. The Supreme Court does not ordinarily decide important questions of law by cursory dicta.
Despite the limitations imposed by Stern, this Court's authority to enter final judgments in the core proceedings identified in section 157(b)(2) is not necessarily diminished as a practical matter. Parties may, even after Stern, consent to bankruptcy courts entering final judgments in non-core matters. In fact, section 157(C)(2) expressly authorizes bankruptcy courts to enter final judgment in non-core proceedings if the parties consent.
Admittedly, the Stern Court did not address that specific issue; there was no need to since, at the time the case was tried, the Supreme Court had not yet held section 157(b)(2)(C) unconstitutional. But the Court, in response to Pierce's argument that bankruptcy courts do not have jurisdiction over defamation claims under section 157(b)(5), held that he consented to the bankruptcy court's resolution of his defamation claim given his conduct before the bankruptcy court.
And this Court can envision no reason why the Supreme Court would abandon that principle and not permit parties to consent to bankruptcy courts entering final judgments in non-core proceedings under section 157(c)(2). Although no court has addressed the constitutionality of that statute, ten circuit courts of appeal have upheld the constitutionality of the Federal Magistrate Statute,
In this case, the "lock-up" provisions are an integral part of the order confirming the plan under which the non-debtor guarantors will receive the benefit of an injunction protecting them from being sued on their guaranties during the term of the plan. Unquestionably, the Court's consideration of such terms falls within this Court's core jurisdiction under section 157(b)(2)(L). Moreover, the Court finds that the non-debtor guarantors, by virtue of their controlling interest in the Debtor as proponent of the plan, have expressly and impliedly consented to this Court's entry of final orders with respect to the lock-up provisions. Accordingly, the objection based on Stern will be overruled.
