GARY SPRAKER, United States Bankruptcy Judge.
Hearings on approval of debtors Kenneth Bellows' and Fly-In-Fish, Inc.'s joint Disclosure Statement, confirmation of the debtors' Plan of Reorganization, and First Bank's Motion for Relief From Stay, were held on March 8 and 16, 2016. The court has thoroughly considered the evidence presented and the arguments of counsel. For the reasons stated below, the court will deny final approval of the debtors' Disclosure Statement and confirmation of the Plan. The court will also deny First Bank's Motion for Relief From Stay, and shall set a status conference to discuss how the case should proceed in light of this decision.
On August 17, 2015, debtors Kenneth Bellows and Fly-In-Fish Inn, Inc., separately filed voluntary chapter 11 petitions. An order for joint administration was subsequently entered, and the debtors now seek confirmation of a joint Plan of Reorganization. Their major secured creditor, First Bank, opposes confirmation and seeks relief from stay. All other classes of creditors, including the general unsecured creditors in Class 1, support confirmation of the Plan.
The debtors' business revolves around the Fly-In-Fish Inn ("the Inn"), a mixed use property located on the waterfront in Sitka, Alaska, that includes a small hotel, a restaurant and bar, and some rental apartments.
Mr. Bellows, his sister, Marlys Dee Hanson, and their brother Ronald D. Bellows, created the debtor entity Fly-In-Fish Inn, Inc. ("FIFII"), for the purpose of running the hotel. The Inn also operates a restaurant, which serves alcohol under a liquor license held by the Pilot House. The Inn was built, and the business was opened, roughly ten years ago. First Bank provided the funds to construct the Inn. Presently, the real property on which the Inn is located is jointly owned by Mr. Bellows and his sister, Marlys Dee Hanson.
The debtors' schedules, and Disclosure Statement, reflect that Ken Bellows is the sole shareholder and owner of all three corporate entities involved in the Inn's operation — corporate debtor FIFII, Air Sitka, and the Pilot House, the entity that owns the liquor license used in the Inn's restaurant and bar. First Bank has challenged these representations.
Ms. Hanson is not only a co-owner of the Inn. She also managed the Inn until September of 2012.
The debtors' Plan proposes to continue operation of the Inn while marketing the business for sale, with the ultimate goal of selling the Inn by January 31, 2021. With
Other secured creditors, junior to First Bank, are individually separated into Classes 3, 4, 5, and 6. They receive similar treatment, e.g., their claims are allowed as filed, but the interest rate and/or payment terms have been adjusted. Further, the Plan does not guarantee full payment to these creditors; their recovery depends on the price at which the Inn is ultimately sold, and is capped by the available proceeds net of closing costs, taxes, and First Bank's debt. These creditors have not objected to their proposed treatment under the Plan, however.
The joint debtors also have $154,391.00 in priority tax debt that they propose to pay, with interest, over a five year term, or whenever the Inn is sold. Finally, the general unsecured creditors, placed in Class 1, are to receive four annual payments, commencing January 1, 2018, and continuing until January 1, 2021. The first two payments will be equal to 2% of the Inn's gross revenue for the preceding year, and the second two payments will increase to 4% of the Inn's gross revenue. The annual payments will be prorated among the allowed claims within Class 1, but will terminate if the Inn is sold before 2021. On sale of the Inn, the Class 1 unsecured claims will receive a pro-rata distribution of 50% of the net proceeds, after payment of closing costs, and of all secured, administrative, and priority claims. The Plan explains that unsecured creditors could potentially receive 100% of their claims, if the Inn and tidelands lease can be sold for at least $2.8 million.
First Bank is the only creditor who voted to reject the Plan, and objected to final approval of the Disclosure Statement and confirmation.
Under § 1125(b), a debtor cannot solicit acceptance of a plan unless its disclosure statement is first approved by the court as having "adequate information," which is:
The debtor bears the ultimate burden of proving the adequacy of its disclosure statement.
Both Mr. Bellows and FIFII are small business debtors. The Disclosure Statement was conditionally approved by this court in accordance with § 1125(f)(3), by Order entered at ECF No. 61, with final approval to be considered contemporaneously with plan confirmation. First Bank is the only party who has objected to the adequacy of the Disclosure Statement.
"[T]he determination of what is adequate information is subjective and made on a case by case basis. This determination is largely within the discretion of the bankruptcy court."
The debtors' ability to perform its obligations under Plan ultimately depends
The existence of Ms. Hansen's interests, and her expectations from any sale of the Inn, are significant to the success of the Plan. The Disclosure Statement fails to adequately disclose the basis for the debtors' belief that they are entitled to apply 100% of the proceeds from sale of the Inn towards plan payments. Assuming Mr. Bellows is correct, and Ms. Hanson wants nothing from the sale, this arrangement should be formalized, or at the very least somehow verified. If he is incorrect, however, the Disclosure Statement misrepresents the projected plan distribution to junior secured creditors, as well as priority and general unsecured creditors, because her one-third interest will detrimentally affect the payout to these classes of claims. The court finds this omission to be material, and cannot approve the Disclosure Statement absent a discussion of Ms. Hanson's interests and their impact on any potential distribution.
Absent final approval of the Disclosure Statement, the court cannot confirm the Plan as proposed. However, the court will also address First Bank's objections to confirmation, because this will likely affect how the parties proceed, and the issues raised are intertwined with First Bank's Motion for Relief from Stay.
The bankruptcy court has an affirmative duty to ensure that a plan satisfies all the confirmation requirements found in § 1129.
The debtors, as plan proponents, have the burden of proving, by a preponderance of the evidence, that the Plan complies with all of the statutory requirements for confirmation found in § 1129.
First Bank specifically challenges the feasibility of the Plan. It argues that the debtors lack functioning management and have failed to demonstrate sufficient earning power and capital structure to perform under the Plan. First Bank also objects to the Plan's proposed cram down of its claim, arguing that the debtors have failed to establish that the plan is fair and equitable as to it.
A plan cannot be confirmed unless it is feasible, meaning that confirmation "is not likely to be followed by the liquidation, or need for further financial reorganization, of the debtor."
The feasibility of the pending Plan depends upon two components: the debtors' ability to continue operations over a five year period, and their ability to sell the Inn at a sufficient price to make all of the payments required under the Plan. In essence, the Plan is a delayed liquidation with a term of five years. First Bank contends that the debtors do not have sufficient revenues to continue their operations pending the sale, and that the Inn cannot be sold for enough to make all required payments.
The parties have presented disparate valuations of the Inn, discussed in greater detail below. However, the valuation experts agree that the existing business is the highest and best use of the property, assuming the business operation is viable. The appraisers also agreed that the property is well maintained. Mr. Bellows offered his opinion that the Inn has the cleanest rooms, restaurant, and kitchen of any hotel in Sitka, and that the Inn has a good reputation with several repeat customers. No evidence to the contrary was presented.
The court has reviewed the debtors' federal tax returns for 2013 and 2014, as well as an unaudited 2015 P & L Statement. The tax returns reflect an increase of roughly $57,000.00 in gross profit in 2014 over 2013. The debtors' profit and loss statement for 2015 describes a jump in gross profit of roughly $190,000.00 from 2014, though it resulted in net profits of only $8,400.00.
Addressing the debtors' expenses, Mr. Bellows testified in some detail regarding the efforts undertaken since late 2015 to reduce expenses. He anticipates a dramatic drop in professional expenses upon plan confirmation. He has also taken steps to maximize the Inn's rental revenue, and is no longer subsidizing housing for family or employees.
As for revenue, Mr. Bellows explained how the Inn's revenue has been depressed due to poor seasons for the Alaska herring fishery. He said the success of the annual herring season impacts the demand for his rooms. The fishery was depressed in 2015, but he anticipates that the upcoming and future years would see improvement.
Mr. Bellows also testified that he recently hired a new chef and new manager, who would free his time from the management of the Inn, and allow him to focus on growing the air taxi business. The new manager is familiar with the business operation, because she previously worked at the Inn as a bartender. The new chef, who is her husband, is an experienced chef who specializes in catering, and the Inn has started catering events to supplement its revenue. Mr. Bellows testified that the Inn brought in $10,000.00 in revenue in December 2015 from this new source, and he anticipates at least $30,000.00 in additional catering revenue in 2016. While not projected to add a substantial amount of revenue, the catering operation will enable the Inn to supplement its restaurant business.
The court credits Mr. Bellows' explanation for his income and expense projections. His testimony establishes that:
The evidence supports a finding that the Inn will generate sufficient income to fund the payments required under the Plan. Gross income for the Inn has increased annually since Mr. Bellows took over management of the Inn from Ms. Hanson in late 2012. The more recent changes to business operations, set out above, support the debtors' projections for increased revenue and decreased expenses in the future. This evidence also adequately addresses the concerns expressed by First Bank as to the debtors' management and prospective earning power.
The debtors' plan, and payment of First Bank's secured claim, depend upon the sale of the Inn. When evaluating the feasibility of the sale of a business, courts are tasked to ensure that the debtors' plan is not "a visionary scheme which promises more than the [debtors] can deliver."
In her income approach to valuation, Ms. Dinneen estimated the debtors' annual income at $1,069,769.00,
First Bank contends the fair market value of the Inn is limited to $1,750,000.00. Its valuation is based on an October 2015 appraisal performed by Ken Wold, MAI, of Alaska Appraisal Associates, Inc. Mr. Wold has also appraised the property previously.
Both Ms. Dinneen and Mr. Wold testified regarding their appraisals at the March 8, 2016 hearing. First Bank also introduced the appraisal review report and testimony of Erik Bjorn-Roli, MAI, with reference to Ms. Dinneen's updated valuation of the Inn. Mr. Bjorn-Roli's testimony and appraisal review report highlighted legitimate areas of concern with respect to the credibility and reliability of Ms. Dinneen's
The opinions of value offered by the parties are constrained by reality. The Inn has been listed for sale for several years. Mr. Bellows testified that he originally listed it with a realtor at $3.6 million, and dropped the list price to $3.2 million before switching realtors and dropping the list price to $2.8 million. In May, 2015, Mr. Bellows further reduced the list price for the Inn to $2.4, though this excludes the tidelands property.
The evidence presented at the hearing supports a finding that the Inn is worth more than Mr. Wold's appraised value of $1,750,000.00.
All the valuation experts acknowledged the difficulty in valuing the Inn, given its unique market and location. Fortunately, the court is not being asked to determine the specific value for the property, but rather to test the feasibility of the debtors' projection that they can sell the Inn for a sufficient price to fund the obligations under the Plan. This is an easier task, and one that the debtors have met. Given the overall testimony, and considering the interest expressed in purchasing the business since First Bank initiated foreclosure, the court finds that the Inn has a value greater than the $1,750,000.00 attributed by Mr. Wold. Rather, this figure represents low liquidation value for the business, in a distress sale. The property is well maintained, and functioning at its highest and best use, in a stabilizing tourist market. The recent, positive changes in the Inn's operation can only serve to improve the viability of the business and increase its value as a going concern. Ms. Dinneen's valuation is similarly not supported by the facts, including the debtors' inability to sell the Inn at $2.4 million while listing the tidelands for $400,000.
The court accepts Mr. Bellow's opinion that the "the whole operation" might sell for $2.4 million to $2.5 million, given the time sought in the Plan. Given the uniqueness of this property, however, a sale at this price in today's market would require a perfect set of circumstances. The court, therefore, finds the current value for the property and business to be $2.2 million.
A sale of the Inn today at $2.2 million, or even $2.5 million, would be problematic. Assuming Ms. Hanson intends to enforce her interest, such a sale would not generate sufficient funds to pay all secured creditors. And even if she intends to "walk away," as Mr. Bellows asserts, a sale at either price today would be insufficient to pay not only the junior secured creditors in full, but also all priority debt as required by 11 U.S.C. § 1129(a)(9)(C)(ii).
Based upon the present value of the Inn, the court finds the Plan to be feasible as a five year plan that pays off all priority debt, provides First Bank with a realistic balloon payment that is adequately secured by its collateral, and provides opportunities for the junior secured and general unsecured creditors to be paid. If the debtors perform as projected, the value of the Inn should increase over the Plan term. The court finds this projection realistic. It agrees with Mr. Bellows that, ultimately, the Inn may well sell for $2.4 million or more. Looking at the totality of the evidence, the court finds that the Plan satisfies the feasibility requirement.
The other points raised by First Bank as to feasibility are not significant. The bank notes that the debtors' Plan proposes to disallow the insider claim of Mr. Bellows'
First Bank also takes issue with the treatment of Carla Green's secured claim. Ms. Green is Mr. Bellow's former girlfriend, and managed the Inn for a period of time. She has not filed a claim in this bankruptcy, but she is scheduled as a secured creditor. Mr. Bellows testified that Ms. Green was not paid for a period of the time that she managed the Inn. Her secured claim is for this unpaid work, and Mr. Bellows said documents, including a deed of trust, evidence her claim. First Bank's Motion for Relief from Stay supports this assertion; it indicates that Ms. Green's deed of trust, to secure the sum of $68,000.00, was recorded on the Inn property on May 19, 2014, more than a year prior to the bankruptcy filings.
Class 2, consisting of First Bank, is an impaired class that has not accepted the Plan. Consequently, the debtors' Plan must satisfy the "cramdown" requirements found in § 1129(b), specifically, that "the plan does not discriminate unfairly, and is fair and equitable, with respect to each class of claims or interests that is impaired under, and has not accepted, the plan."
For a secured creditor, the fair and equitable requirement is satisfied if any one of the three alternatives set out in § 1129(b)(2)(A) is satisfied.
The Plan satisfies the first requirement. First Bank will retain the liens securing its claim, and the Plan proposes to pay its claim in full. First Bank objects, however, because the Plan proposes to reduce the applicable interest rate on its loan from 7% to 6%, reduce the monthly payment amount from $18,500.00 to $18,000.00, and
The debtors, as plan proponents, bear the burden of proof on all elements required for confirmation.
The appropriate interest rate is to be determined on a case-by-case basis.
In a reorganization context, it is not unreasonable to extend the loan for an additional 26 months, as provided under the Plan. Nor is it unreasonable to adjust the payment schedule in this situation. The loan payments already skip for the months of January through March. The change only affects which months are skipped — December through February — rather than the number of months of payments. In the instant case, however, the
First Bank seeks relief from stay under § 362(d)(2), on the ground that there is no equity in the debtors' property and, since the debtors ultimately seek to sell the property in any event, the property is not necessary for a reorganization. In light of the above findings regarding valuation and feasibility within the confirmation context, the court finds that there is equity in First Bank's collateral, and that the property is necessary to the debtors' reorganization. Accordingly, the court will deny the Motion for Relief From Stay.
The Disclosure Statement fails to address Marlys Hanson's interests in the real property, the debtor entity FIFII, and the Pilot House. Nor does the Disclosure Statement discuss Ms. Hanson's expectations on sale, or explain how her interests and expectations would affect any distribution on sale of these assets. For these reasons, the court must deny final approval of the Disclosure Statement.
Although denial of the Disclosure Statement precludes confirmation, the court finds that the Plan as proposed would be feasible based on the current valuation of the Inn at $2.2 million. The debtors' business projections are supported by the record, and there is a realistic prospect that the Inn would sell at a sufficiently higher price at the end of five years to pay all necessary obligations under the proposed Plan. These findings require denial of First Bank's Motion for Relief from Stay. The court also notes that First Bank has objected to its treatment and the debtors have offered no evidence to support the cramdown interest rate provided in the Plan for the bank's claim.
For these reasons, the court will deny final approval of the Disclosure Statement, and confirmation of the debtors' Plan. First Bank's Motion for Relief from Stay is also denied. A status conference will be promptly scheduled to determine how the parties would like to proceed.
An order will be entered consistent with this Memorandum.
