VICTORIA S. KAUFMAN, Bankruptcy Judge.
On October 27, 2009, Joseph Fahs, Steven Chapnick, and Elizabeth Tagle ("Petitioning Creditors") filed an involuntary Chapter 11 petition against Georges Marciano ("Marciano"). Petitioning Creditors hold amended judgments ("P.C. Judgments") issued by the Los Angeles Superior Court ("Superior Court") against Marciano aggregating $95.3 million. The Judgments were issued after the Superior Court issued discovery sanctions striking Marciano's answers to Petitioning Creditors' cross complaints. Petitioning Creditors now seek an order for relief against Marciano. Before the Court is an issue of first impression in the Ninth Circuit: are the P.C. Judgments, which are currently on appeal but have not been stayed, the subject of a bona fide dispute within the meaning of 11 U.S.C. § 303(b)(1)
On August 13, 2007, Marciano filed a complaint against his former employee Joseph Fahs in the Superior Court. Marciano subsequently amended the complaint, adding his former employees Steven Chapnick, Miriam Choi, Elizabeth Tagle, and Camille Abat. See Georges Marciano's Request for Judicial Notice No. 1 ("Marciano First RJN") (Doc. No. 123) at Ex. 41 (Verified Second Amended Complaint ("Marciano Complaint"), Case No. BC375824). Fahs worked for Marciano for several months in 2007 as an information technology specialist. Marciano Complaint at ¶ 18. Chapnick worked for Marciano for four years as an administrative assistant. Id. at ¶ 22. Tagle worked for Marciano for nine years as a bookkeeper. Id. at ¶¶ 29, 86. Choi was Marciano's office manager and chief accountant, and had been employed by Marciano for over
Among other things, the Marciano Complaint alleges that while employed by Marciano, Petitioning Creditors Fahs, Chapnick, and Tagle "individually and collectively, engaged in a massive theft, misappropriation, and conversion of [Marciano's] personal and business property, assets, and money," including the theft of "tens of millions of dollars' worth of funds and fine art." Marciano Complaint ¶¶ 15, 83. Petitioning Creditors Fahs, Chapnick, and Tagle each filed separate cross-complaints alleging, inter alia, defamation and intentional infliction of emotional distress.
While prosecuting the Complaint against Petitioning Creditors, Marciano substituted counsel multiple times and conducted multiple depositions. Chapnick submitted to five deposition sessions. Four sessions were conducted by successive counsel for Marciano; the fifth was conducted by Marciano himself. Appellants' Appendix ("AA") at 5,037.
Shortly before the October 20, 2008 deposition, Marciano, now represented by his thirteenth counsel, began requesting a continuance. Id. at 5,038. Chapnick stated that he would agree to a continuance only if Marciano provided alternate deposition dates. Id. Marciano refused to provide any alternative dates, so Chapnick refused to continue the deposition. Id. On Friday, October 17 at 5:21 p.m., Marciano served a Motion for Protective Order upon Chapnick. Id. at 1,098, 5,066.
On November 17, 2008, the Superior Court heard the Motion for Protective Order. The Superior Court denied the Motion and sanctioned Marciano in the amount of $6,750 after finding that the Motion was made "without substantial justification." Id. at 3,443. According to the Superior Court:
Id. at 3,431.
Subsequent to denial of the Motion for Protective Order, Chapnick attempted to negotiate a date for Marciano's deposition, but Marciano refused to provide any dates on which he would be available. Chapnick accordingly renoticed Marciano's deposition for December 3, 2008. Id. at 2,658. At 4:54 p.m. on December 2, 2008, Marciano faxed Chapnick a "Demand for Certified French Interpreter and Objections to Amended Notice of Deposition of Plaintiff Georges Marciano." Id. at 2,663. Marciano did not appear at the December 3 deposition. Id. at 5,040.
On December 3, 2008, Chapnick filed a motion seeking terminating sanctions against Marciano with respect to the Marciano Complaint ("Chapnick Motion"). AA at 2,615-82. Tagle, Fahs, Choi and Abat and subsequently joined the Chapnick Motion. Id. at 2,684-92 (Defendant Elizabeth Tagle's Joinder in the Motion of Steven Chapnick for an Order Granting Terminating Sanctions); id. at 2,750-56 (Defendant Joseph Fahs' Joinder in Defendant Stephen Chapnick's Motion); id. at 5,355 (Superior Court order stating that Choi and Abat had joined the Chapnick Motion). After a hearing, the Superior Court entered an order granting the Chapnick Motion on January 21, 2009. Id. at 5,355 (Order Granting Defendants Steven Chapnick, Joseph Fahs, Miriam Choi, Camille Abat, Elizabeth Tagle and Deborah McCleod's Motion for Terminating Sanctions ("Chapnick Order")).
The Chapnick Order noted that "Marciano's continuing refusal to agree to sit for deposition is indicative of his pattern of discovery abuses," and explained that "terminating sanctions are appropriate in this matter given the extraordinary and flagrant nature of Marciano's refusal to submit to deposition in violation of Code of Civil Procedure Section 2023.010(d)." Id. at 5,363. The Chapnick Order made detailed findings
Id. at 5,356-64 (emphasis in original).
On December 19, 2008, Choi and Abat filed a motion seeking to strike Marciano's answers to Choi and Abat's cross-complaints or, in the alternative, compel Marciano to appear for a deposition on January 6, 2009 ("First Abat Motion"). Id. at 3,401-02. The First Abat Motion sought sanctions based on Marciano's failure to appear at a deposition noticed for December 15, 2008. Id. at 3,398. Abat and Choi served notice of Marciano's deposition on November 26, 2008 after Marciano failed to respond to Abat and Choi's request for dates upon which he would be available. Id. at 3,397-98. On December 12, Marciano served a "Demand for Certified French Interpreter and Objections to Miriam Choi's and Camille Abat's Notice of Deposition" ("Demand"). Id. at 3,475. The Demand incorrectly stated that Abat and
On January 5, 2009, the Superior Court conducted a hearing on the First Abat Motion and ordered Marciano to appear for deposition on January 6. Marciano protested that he was too sick to appear on January 6: "I'm still sick, your honor. If you give me two days, it will be fine. I really apologize for that, but two days will be great." See Notice of Filing of Appellants' Opening Brief and Related Application in the Fahs Appeal (Doc. No. 153) (quoting from Superior Court record), at 14. The Superior Court refused to postpone the deposition: "Mr. Marciano, I'm sorry if you are not feeling well, but it's going forward tomorrow." Id.
Marciano did not appear for the January 6 deposition. Instead, at 8:39 a.m. on January 6, Marciano's counsel sent an e-mail stating that Marciano would not appear. Attached to the e-mail was a letter from Dr. Davis S. Silver stating in relevant part: "Mr. Marciano is not capable of attending his deposition on January 6, 2009 as I believe it would likely cause a worsening of his respiratory condition in his present, weakened state. If he continues to improve at present rate, he should be able to complete his deposition by next week." AA at 4,626. On January 7, Choi and Abat filed an ex-parte application for an order shortening time ("Ex-Parte Application") on a motion to strike Marciano's answer ("Second Abat Motion"). On January 8, the Superior Court denied the Ex-Parte Application but ordered Marciano to appear for deposition on January 12 and 23. The Superior Court's order provided that the January 12 and 23 depositions were to continue "from day to day thereafter until Cross-Complainants determine that the deposition is completed." Id. at 4,683-84. The Superior Court ordered that "[a]ll issues of terminating sanctions on Marciano's Answer [to the cross-complaints] are reserved for a future hearing date of January 27." Id. at 4,684.
On January 12 at 8:44 a.m., Marciano's counsel notified opposing counsel that Marciano would not be appearing for the deposition: "I have just learned that Mr. Marciano had a continuing health issue over the weekend and either has been or is being admitted to the hospital. He will not be appearing for deposition today." Id. at 5,094.
On January 16, 2009, Chapnick filed a motion to strike with prejudice Marciano's answer to Chapnick's cross-complaint and to bar Marciano from defending against the cross-complaint ("Second Chapnick Motion"). Id. at 5,036. On January 27, the Superior Court granted the Second Abat Motion, striking Marciano's answers to the cross-complaints of Choi and Abat. Id. at 6,009. The Superior Court ordered further briefing on the Second Chapnick Motion so that it could determine whether terminating sanctions could be implemented, given that Marciano had not yet filed a response to Chapnick's Third Amended Cross-Complaint. Id. at 6,009. The Superior Court denied Tagle and Fahs' motions to join the Second Chapnick Motion. Id.
On February 4, 2009, Chapnick filed a new motion to strike Marciano's answer to Chapnick's cross-complaint ("Third Chapnick Motion"). The purpose of the Third Chapnick Motion was to resolve a procedural issue:
Id. at 6,147.
Fahs and Tagle filed similar motions to strike Marciano's answers to their respective cross-complaints, also on February 4. Id. at 6,426 (Fahs); 6,443 (Tagle). On March 2, 2009, the Superior Court conducted a hearing on the motions to strike filed by Chapnick, Fahs, and Tagle. The Superior Court struck Marciano's answer as to each cross-complaint and entered Marciano's default.
AA at 7,364-65.
On May 15 and 18, 2009, the Superior Court conducted a default prove-up trial. On July 20, 2009, the Superior Court entered orders finding Marciano liable to the Petitioning Creditors on their respective claims for defamation and intentional infliction of emotional distress.
In addition to the P.C. Judgments, judgments in favor of five other individuals in the amount of approximately $190 million have been entered against Marciano. The aggregate amount of all judgments against Marciano is approximately $260 million. Georges Marciano's Statement of Genuine Issues of Fact and Law ("Marciano SUF") (Doc. No. 130) at ¶ 1.
On July 24, 2009, Marciano filed two Petitions of Mandate/Prohibition/Stay with the California Court of Appeal, seeking an order vacating the trial court's decision to empanel an advisory jury to determine damages. Both petitions were denied. Petitioning Creditors' RJN at Ex. 9; Marciano SUF at ¶ 20. On August 4, 2009, Marciano appealed the P.C. Judgments. Marciano SUF at ¶ 13. On August 10, 2009, Marciano filed with the California Court of Appeal a Petition for a Writ of Supersedeas ("Supersedeas Petition") as well as a Request for Immediate Stay Pending Consideration of Petition for a Writ of Supersedeas with respect to five of the judgments. Petitioning Creditors' RJN at Ex. 7; Marciano SUF at ¶¶ 16-17. On August 13, 2009, the Court of Appeal denied the Supersedeas Petition. Id. On August 14, Marciano filed a Petition for Review with the California Supreme Court seeking to overturn denial of the Supersedeas Petition. The California Supreme Court denied the Petition for Review on August 19. Id. Therefore, although the P.C. Judgments have been appealed, no stay pending appeal is in effect.
Before the involuntary petition was filed, two of the three Petitioning Creditors (Fahs and Chapnick) and the five other judgment creditors tried to enforce their judgments against Marciano. Declaration of Daniel J. McCarthy in Opposition to Petitioning Creditors' Motion for Summary Judgment ("McCarthy Decl.") (Doc. No. 126) at ¶ 19. Chapnick and Fahs employed separate counsel specializing in collection matters. Id. Chapnick obtained charging and assignment orders, as well as orders for third parties to appear for depositions. Id. Judgment creditors Abat and Choi attempted to serve Marciano with an order to appear for a judgment debtor exam. Id. at ¶ 21. Tagle attempted to settle, but joined the involuntary petition after her settlement offer was rejected. Id.
On October 27, 2009, the Petitioning Creditors filed the instant involuntary petition against Marciano (Doc. No. 1). The Petitioning Creditors served the involuntary summons on Marciano on October 31, 2009 (Doc. No. 7). Marciano timely controverted the petition by filing a Motion to Dismiss Involuntary Chapter 11 Petition or, Alternatively, to Quash Service ("Motion to Dismiss") (Doc. No. 8) on November 20, 2009.
On February 1, 2010, Marciano filed an Answer to Involuntary Petition ("Answer") (Doc. No. 28). On May 18, 2010, relying on § 305, he filed a Motion to Dismiss or Stay Involuntary Chapter 11 Case ("Section 305 Motion") (Doc. No. 57). On July 2, 2010, the Court denied the Section 305 Motion (Doc. No. 102), and Marciano timely filed a motion for reconsideration (Doc. No. 105).
On May 20, 2010, the Petitioning Creditors filed a Motion for Summary Judgment to Cause an Order for Relief Under Title 11 of the U.S.Code to be Entered Against Alleged Debtor Georges Marciano (Doc. No. 79). On June 18, 2010, the Petitioning Creditors withdrew that motion (Doc. No. 98); on July 14, 2010, they filed a renewed Motion for Summary Judgment ("Second Motion for Summary Judgment") (Doc. No. 107). The Court set a combined hearing on the Second Motion for Summary Judgment and Marciano's motion for reconsideration.
On October 13, 2010, Marciano filed an opening brief in his appeal of the P.C. Judgments. See Georges Marciano's Supplemental and Restated Status Report on Appeals ("Status Report") (Doc. No. 155) at ¶ 5. On October 29, 2010, the Court of Appeal issued a scheduling order requiring the Petitioning Creditors' briefs to be filed by January 31, 2011. Id. at ¶ 8. Marciano's reply brief will be due twenty days after the Petitioning Creditors' briefs are filed. Id. at ¶ 9. Assuming that the Petitioning Creditors file their briefs on the January 31, 2011 deadline, briefing may not be completed until February 20, 2011. Id.
Section 303(b), which governs the commencement of an involuntary petition, provides in relevant part:
Where a petition is timely controverted, the court must enter an order for relief against the debtor if, after trial, the court determines that "the debtor is generally not paying such debtor's debts as such debts become due unless such debts are the subject of a bona fide dispute as to liability or amount." 11 U.S.C. § 303(h).
The Bankruptcy Reform Act of 1978 made it easier for petitioning creditors to commence an involuntary petition by abolishing the requirement that petitioning creditors prove the debtor had committed one of six specific, highly technical, and narrowly defined "acts of bankruptcy." See Susan Block-Lieb, Why Creditors File So Few Involuntary Petitions and Why the Number Is Not Too Small, 57 Brook. L.Rev. 803, 805 (1991) ("Congress was aware that creditors found the `acts of bankruptcy' too difficult to prove, and adopted the current `general failure to pay'
Bankruptcy Commission Report, Part 1 at 190-91.
Courts have reiterated the reasoning expressed in the Bankruptcy Commission Report. "The central policy behind involuntary petitions," one court explained, is "to protect the threatened depletion of assets or to prevent the unequal treatment of similarly situated creditors." In re Manhattan Indus., Inc., 224 B.R. 195, 200 (Bankr.M.D.Fla.1997); see also In re Letourneau, 422 B.R. 132, 138 (Bankr. N.D.Ill.2010) (same). "Creditors are justified in filing an involuntary bankruptcy against a debtor where exclusive bankruptcy powers and remedies may be usefully invoked to recover transferred assets, to `insur[e] an orderly ranking of creditors' claims' and `to protect against other creditors obtaining a disproportionate share of a debtor's assets.'" In re Hentges, 351 B.R. 758, 772 (Bankr.N.D.Okla.2006) (quoting In re Better Care, Ltd., 97 B.R. 405, 411 (Bankr.N.D.Ill.1989)); see also In re Tichy Elect. Co. Inc., 332 B.R. 364, 372 (Bankr.N.D.Iowa 2005) ("The goal or purpose of an involuntary filing should be the equal distribution of assets among creditors.").
The Petitioning Creditors move for summary judgment on their claims that Marciano is not generally paying his debts as they become due and that the debts are not the subject of a bona fide dispute as to liability or amount. In opposition, Marciano moves for summary judgment in his favor on the grounds that as a matter of law, Petitioning Creditors cannot meet the requirements of § 303.
Fed. R. Civ. Proc. 56 provides that summary judgment is appropriate "if the pleadings, the discovery and disclosure materials on file, and any affidavits show that there is no genuine issue as to any material fact and that the movant is entitled to judgment as a matter of law."
To prevail upon their motion for summary judgment, the Petitioning Creditors must establish the five elements of § 303 by a preponderance of the evidence. See Grogan v. Garner, 498 U.S. 279, 286, 111 S.Ct. 654, 659, 112 L.Ed.2d 755, 764 (1991) (concluding that where the statute fails to prescribe the standard of proof, the preponderance of the evidence standard generally applies in civil actions between private litigants). That is, the Petitioning Creditors must establish that (1) three or more creditors (2) hold claims against the alleged debtor that are not contingent as to liability and (3) are not the subject of a bona fide dispute as to liability or amount (4) in the aggregate amount of at least $13,475, and (5) that the alleged debtor is generally not paying such debtor's debts as such debts become due. See 11 U.S.C. § 303(b), (h).
To be entitled to an order for relief, the Petitioning Creditors must demonstrate that Marciano is generally not paying his debts as they become due unless those debts are the subject of a bona fide dispute. See 11 U.S.C. § 303(h). Reviewing the legislative history of § 303(h), the Second Circuit Court of Appeals quoted the following passage from the Bankruptcy Commission Report:
B.D. Intern. Discount Corp. v. Chase Manhattan Bank, N.A. (In re B.D. Intern. Discount Corp.), 701 F.2d 1071, 1075 (2d Cir.1983), cert. denied, 464 U.S. 830, 104 S.Ct. 108, 78 L.Ed.2d 110 (1983) (quoting
The Bankruptcy Commission Report further stated that the "generally not paying" standard was intended to promote judicial flexibility:
Bankruptcy Commission Report, Part 1 at 190.
"The Ninth Circuit has adopted a `totality of the circumstances' test for determining whether a debtor is generally not paying its debts under 11 U.S.C. § 303(h)." Liberty Tool & Mfg. v. Vortex Fishing Sys., Inc. (In re Vortex Fishing Sys., Inc.), 277 F.3d 1057, 1072 (9th Cir. 2002) (quoting In re Bishop, Baldwin, Rewald, Dillingham & Wong, Inc., 779 F.2d 471, 475 (9th Cir.1985)). "[M]erely establishing the existence of a few unpaid debts" is not sufficient. Semel v. Dill (In re Dill), 731 F.2d 629, 632 (9th Cir.1984). Nonetheless, there is "substantial authority for the proposition that even though an alleged debtor may owe only one debt, or very few debts, an order for relief may be granted where such debt or debts are sufficiently substantial to establish the generality of the alleged debtor's default." Crown Heights Jewish Cmty. Council, Inc. v. Fischer (In re Fischer), 202 B.R. 341, 350-351 (Bankr.E.D.N.Y.1996). For example, courts have entered an order for relief "where the creditors were few in number but a large amount was owed to them." Id. at 351. An alleged debtor's ability or plan to pay creditors is also important. In one instance, the Ninth Circuit Court of Appeals affirmed the bankruptcy court's entry of an order for relief based on the finding that the alleged debtor was "a company that had substantial amounts of unpaid bills and no plans or ability to pay them." Focus Media, Inc. v. Nat'l Broad. Co. (In re Focus Media), 378 F.3d 916, 929 (9th Cir.2004).
Marciano does not dispute that he is not paying the eight judgment creditors. Marciano SUF ¶ 3. The total amount of the judgments is approximately $260 million. Marciano admits that he does not have $260 million in cash or cash equivalents to pay the judgments. Id. at ¶ 22. In the state court action, Marciano filed a declaration from his certified public accountant estimating his net worth at $175 million. Id.
Like the alleged debtor in Focus Media, Marciano has no plan or ability to pay the judgments. See also In re Huggins, 380 B.R. 75, 80-81 (Bankr.M.D.Fla.2007) (concluding that entry of an order for relief was appropriate where the debtor conceded that he had no ability to pay a judgment creditor's debt). The amount owed to Marciano's judgment creditors— $260 million—is substantial. See Fischer, 202 B.R. at 350-51 (holding that "an order for relief may be granted where such ... debts are sufficiently substantial to establish the generality of the alleged debtor's default"). Applying the totality of the circumstances test, the Court determines that Marciano is generally not paying his debts as they become due.
The Court may not enter an order for relief against Marciano if the claims of the Petitioning Creditors are "the subject of a bona fide dispute as to liability or amount." § 303(b)(1), (h)(1). "Establishing the existence or absence of a bona fide dispute involves a shifting burden of proof. A petitioning creditor must establish a prima facie case that no bona fide dispute exists. Once this is done, the burden shifts to the debtor to present evidence demonstrating that a bona fide dispute does exist." In re Biogenetic Technologies, Inc., 248 B.R. 852, 856 (Bankr. M.D.Fla.1999) (internal citation omitted).
By virtue of the P.C. Judgments, Petitioning Creditors have established a prima facie case that no bona fide dispute exists. See Platinum Financial Services Corp. v. Byrd (In re Byrd), 357 F.3d 433, 438 (4th Cir.2004) (existence of unstayed state court judgments in favor of petitioning creditors established prima facie case that no bona fide dispute existed with respect to related claims). Consequently, Marciano must demonstrate that the P.C. Judgments are the subject of a bona fide dispute.
Application of § 303(b) to an unstayed, unpaid final judgments on appeal is an issue of first impression in the Ninth Circuit. Courts addressing the issue have articulated two approaches. The most frequently cited case on the subject, In re Drexler, sets forth the following standard:
In re Drexler, 56 B.R. 960, 967 (Bankr. S.D.N.Y.1986) (internal citations omitted).
An alternative line of cases rejects Drexler's per se rule. In Byrd, the Fourth Circuit Court of Appeals acknowledged that "it will be the unusual case in which a bona fide dispute exists in the face of claims reduced to state court judgments," but added that "[s]uch judgments do not guarantee the lack of a bona fide dispute." 357 F.3d at 438. According to the Byrd court, "the purpose of the `bona fide dispute' provision is to prevent creditors from using involuntary bankruptcy to `coerce a debtor to satisfy a judgment even when substantial questions may remain concerning the liability of the debtor.'" Id. (quoting In re Prisuta, 121 B.R. 474, 476 (Bankr.W.D.Pa.1990)). Therefore, notwithstanding
In interpreting § 303, the Court is mindful that, "where ... the statute's language is plain, the sole function of the courts is to enforce it according to its terms." United States v. Ron Pair Enterprises, Inc., 489 U.S. 235, 241, 109 S.Ct. 1026, 1030, 103 L.Ed.2d 290, 298 (1989) (internal citation omitted). The Bankruptcy Code, however, does not define "bona fide dispute." Where, as here, the language of the statute is ambiguous, the Court may "look to legislative history to aid in the interpretation." Thrifty Oil Co. v. Bank of America Nat'l Trust & Sav. Ass'n, 322 F.3d 1039, 1057 (9th Cir.2003).
The 1978 Code permitted creditors to commence an involuntary petition if the creditors held claims "not contingent as to liability." Bankruptcy Reform Act of 1978, Pub.L. 95-598, 92 Stat. 2549, 2559 (Nov. 6, 1978). In 1984, Congress amended the statute to require that creditors hold claims "not contingent as to liability or the subject of a bona fide dispute." Bankruptcy Amendments and Federal Judgeship Act of 1984 ("BAJFA"), Pub.L. 98-353, Tit. 3, § 426(b)(1), 98 Stat. 333, 369 (July 10, 1984). In 2005, Congress added an additional requirement: creditors must hold claims "not contingent as to liability or the subject of a bona fide dispute as to liability or amount." Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, Pub.L. 109-8, Tit. 3, § 1234(a)(1)(A), 119 Stat. 23, 204 (Apr. 20, 2005).
The 1984 change to § 303(b) arose from an amendment to BAFJA introduced by Senator Max Baucus. Neither the Senate or House Reports explain the reasoning for Senator Baucus' amendment. The only explanation in the legislative record is Senator Baucus' brief floor statement:
130 Cong. Rec. S.7,618 (daily ed. June 19, 1984).
Senator Baucus also was a sponsor of the 2005 amendment to § 303(b), which
148 Cong. Rec. S.11,728 (daily ed. Nov. 20, 2002).
In light of this legislative history, the Court finds the Drexler approach better reasoned and more consistent with the intent of Congress. In California, creditors holding an unstayed judgment may invoke state law remedies to collect upon that judgment, even if the judgment is on appeal.
AMC Investors, 406 B.R. at 487 (quoting Byrd, 357 F.3d at 438).
As noted by the AMC Investors court, the Byrd approach runs counter to the Butner principle. The Butner principle "provides that, in the absence of a specific provision to the contrary, bankruptcy courts take non-bankruptcy rights and laws as they find them." AMC Investors, 406 B.R. at 486. As explained by the Supreme Court:
Butner v. United States, 440 U.S. 48, 55, 99 S.Ct. 914, 918, 59 L.Ed.2d 136, 141-42 (1979).
No one disputes that outside of bankruptcy, the Petitioning Creditors have a right to collect upon the P.C. Judgments. Yet Marciano's position impedes the Petitioning Creditors' ability to collect by using the provisions of the Bankruptcy Code—including those provisions which ensure equality of distribution among similarly situated creditors. A key justification for the Petitioning Creditors' filing of an involuntary petition is "to protect against other creditors obtaining a disproportionate share of a debtor's assets." Hentges, 351 B.R. at 772 (internal citation omitted). More troubling still, Marciano asks this Court to substitute its own views on the validity of the P.C. Judgments for those of the state court.
In addition to avoiding this Court's intrusion into the sphere of the state courts, the Drexler approach facilitates the "prime bankruptcy policy of equal distribution among similarly situated creditors." Danning v. Bozek (In re Bullion Reserve of North America), 836 F.2d 1214, 1217 (9th Cir.1988). It does so by eliminating the uncertainty that would otherwise cause holders of unstayed, unpaid judgments to hesitate before commencing an involuntary petition.
In the absence of an involuntary petition, creditors can collect upon judgments only by invoking state law remedies that contain no provisions for pro rata distribution among competing creditors. In the case of an alleged debtor who lacks sufficient funds to satisfy all judgments, like Marciano, some judgment creditors may obtain a complete recovery to the detriment of others. Such an outcome contravenes the "central policy behind involuntary petitions," which is "to protect the threatened depletion of assets or to prevent the unequal treatment of similar situated creditors. Whenever this situation is implicated, a creditor should be able to compel liquidation or reorganization of the Debtor's estate through an involuntary petition." Manhattan Industries, 224 B.R. at 200.
Absent a per se rule, creditors holding unstayed, unpaid judgments on appeal must engage in expensive litigation to convince the bankruptcy court that the judgments are not the subject of a bona fide dispute. By contrast, without making any additional showing, these same creditors may pursue state law collection remedies. Imposing a more onerous standard for the commencement of a bankruptcy case discourages creditors from taking advantage of the orderly, collective dispute resolution procedures a bankruptcy case provides, and instead encourages them to "rac[e] to the courthouse to dismember the debtor." Bullion Reserve of North America, 836 F.2d at 1217.
Absent a per se rule, judgment creditors undeterred by the burdens of such additional litigation face another threat in the form of § 303(i). Section 303(i) provides:
Although an award pursuant to § 303(i) "is discretionary with the Court," an "involuntary debtor's motion for attorney's fees and costs under § 303(i) raises a rebuttable presumption that reasonable fees and costs are authorized." Higgins v. Vortex Fishing Sys., Inc., 379 F.3d 701, 706-07 (9th Cir.2004) (internal citation omitted). Any "petitioning creditor in an involuntary case ... should expect to pay the debtor's attorney's fees and costs if the petition is dismissed." Id. at 707 (internal citation omitted). Congress drafted § 303(i) "to make an award of costs and fees the norm," and § 303(i)'s predecessor statute, Bankruptcy Rule 115(e), "makes such awards `routine.'" In re Kidwell, 158 B.R. 203, 217 (Bankr.E.D.Cal.1993).
Absent a per se rule, judgment creditors must assess whether a bankruptcy court will hold that the pendency of an appeal renders their unstayed judgments the subject of a bona fide dispute. If they wrongly rely on their judgments, these creditors risk substantial liability under § 303(i). The lack of a per se rule creates a fundamental dilemma. Judgment creditors can pursue state law collection remedies, hoping that they reach the debtor's assets before those assets are seized by other creditors or otherwise dissipated. Or they can file an involuntary petition and risk § 303(i) liability. Although § 303(i) damages will not be awarded in every case, the mere possibility of liability will have a chilling effect on judgment creditors.
Marciano emphasizes that the P.C. Judgments were entered after the Superior Court struck Marciano's answers to the cross-complaints and entered his default. Marciano characterizes the P.C. Judgments as "default judgments" and proffers cases in which courts held that a default judgment may be the subject of a bona fide dispute. See, e.g., In re Henry S. Miller Commercial, LLC, 418 B.R. 912, 921 (Bankr.N.D.Tex.2009) (citing "a default judgment where facts were not actually litigated" as an example of a situation justifying an "inquiry into whether a bona fide dispute exists"); AMC Investors, 406 B.R. at 487 (declining to extend Drexler's per se rule to default judgments); In re Graber, 319 B.R. 374, 379-80 (Bankr. E.D.Pa.2004) (same); Prisuta, 121 B.R. at 476 (concluding that judgments may be the subject of a bona fide dispute based in part on the fact that "no hearings at all were held prior to the entry of the judgments against alleged debtors").
Marciano's categorization of the P.C. Judgments as "default judgments" misses the mark. Unlike the default judgments
In concluding that default judgments may be the subject of a bona fide dispute, Miller Commercial, AMC Investors, Graber, and Prisuta endorse the policy of deciding disputes on the merits. In the context of a sanctions judgment, the policy of deciding disputes on the merits justifies a per se rule that such judgments are not the subject of a bona fide dispute. "One of the principal purposes of the Discovery Act is to enable a party to obtain evidence in the control of his adversary in order to further the efficient, economical disposition of cases according to right and justice on the merits." Fairfield v. Superior Court for Los Angeles Cnty., 246 Cal.App.2d 113, 54 Cal.Rptr. 721, 725 (1966) (internal citations omitted); see also Williams v. Volkswagenwerk Aktiengesellschaft, 180 Cal.App.3d 1244, 226 Cal.Rptr. 306, 310 (1986) (stating that the purpose of the discovery rules is to "enhance the truth-seeking function of the litigation process and eliminate trial strategies that focus on gamesmanship and surprise"). Terminating sanctions are awarded only against parties whose abuse of the discovery process continues notwithstanding the imposition of lesser sanctions. Del Junco v. Hufnagel, 150 Cal.App.4th 789, 60 Cal.Rptr.3d 22, 29 (2007). Therefore, terminating sanctions advance the truth-seeking function of litigation by prodding parties to fulfill their discovery obligations. Determining that a claim based on a sanctions judgment is the subject of a bona fide dispute would reward the party whose conduct thwarted the policy of settling disputes on the merits.
Whether non-appearance default judgments should likewise be subject to such a per se approach is not before this Court. Resolution of that question does not affect the Court's decision to adopt a per se rule that sanctions judgments are not the subject of a bona fide dispute. The conduct giving rise to a sanctions judgment is far more egregious than that giving rise to a non-appearance default judgment. Under California law, a sanctions judgment is imposed only after the offending party disrupts the truth-seeking function of litigation by failing to comply with discovery obligations; by contrast, a non-appearance default judgment is imposed when the defaulted party simply
Finally, applying Byrd and assessing the prospects of a judgment debtor's pending appeal would significantly circumscribe the ability of tort judgment holders to institute an involuntary petition. None of the courts that have examined the state court record in order to assess the presence of a bona fide dispute about a judgment have delved into tort law.
In comparison to damages arising from breach of contract, tort damages involve many factors and considerable discretion by the fact-finder. This is particularly true where, as in this case, the tort damages compensate for emotional injury stemming from defamation and intentional infliction of emotional distress. Tort judgment debtors will always be able to assert that the damages awarded are excessive in comparison to the emotional harm inflicted. Determining whether such assertions create a bona fide dispute "is unnecessarily intrusive into the trial court's ruling and undermines the objective analysis of bona fide disputes." AMC Investors, 406 B.R. at 485. AMC Investors' statement that "Byrd turns the court into an odds maker on appellate decision-making" applies with even greater force in the fact-intensive realm of tort judgments. Id. See also Bertero v. National General Corp., 13 Cal.3d 43, 118 Cal.Rptr. 184, 529 P.2d 608,
Marciano argues that the Superior Court committed error by entering the terminating sanctions and urges the Court to review the Superior Court record to determine whether the terminating sanctions were appropriate. Faced with the same situation, the Drexler court refused to second-guess the state court:
56 B.R. at 969-70.
In a similar vein, the court in In re Ross held that a judgment was not the subject of a bona fide dispute notwithstanding the alleged debtor's post-trial motions: "It is unnecessary and inappropriate for this court to engage in speculation over the possible outcome of Ross' pending motion to vacate the judgment and for a new trial." 63 B.R. at 967. Like those courts, this Court holds that it should not take on the role of the state appellate courts in assessing the propriety of the Superior Court's discovery sanctions against Marciano.
Marciano argues that an order for relief should not be entered because "[t]here is a genuine issue of material fact regarding whether the involuntary Chapter 11 petition was filed in bad faith...." Opposition at 46. Marciano asserts that he is entitled to discovery regarding Petitioning Creditors' subjective reasons for filing the involuntary petition and argues that the involuntary case should be dismissed if the Petitioning Creditors filed it for an improper reason. Id. at 47. As examples of the Petitioning Creditors' alleged bad faith, Marciano contends that Tagle filed the involuntary petition with Chapnick and Fahs after Marciano rebuffed her efforts to settle the matter, that Chapnick and Fahs were two of the most aggressive creditors in pursuing judgment enforcement, that none of the judgment creditors had made a significant recovery, i.e., in excess of $2 million, on his or her unstayed judgment before the involuntary petition was filed and that, after filing the involuntary petition, the Petitioning Creditors opposed Marciano's motion for relief from the automatic stay so that Marciano could pursue his appeals.
Section 303(b), which sets forth the requirements for filing an involuntary petition, does not contain any language regarding the good faith of petitioning creditors. Section 303(i), however, provides that if the court dismisses the involuntary petition "other than on consent of all petitioners and the debtor," the court may grant judgment "against any petitioner that filed the petition in bad faith, for any damages proximately caused by such filing."
At the outset, it is generally inappropriate for the court to consider the good faith or bad faith of petitioning creditors when determining whether to enter the order for relief. See, e.g., Kaplan v.
"[T]here is a presumption of good faith in favor of the petitioning creditor, and thus the alleged debtor has the burden of proving bad faith." Lubow Machine Co. v. Bayshore Wire Products Corp. (In re Bayshore Wire Products Corp.), 209 F.3d 100, 105 (2d Cir.2000) (internal citation omitted). "Whether a party acted in bad faith is essentially a question of fact. Bad faith should be measured by an `objective test' that asks `what a reasonable person would have believed.'" Jaffe v. Wavelength, Inc. (In re Wavelength, Inc.), 61 B.R. 614, 620 (9th Cir. BAP 1986) (internal citation omitted); see also In re Mi La Sul, 380 B.R. 546, 557 (Bankr.C.D.Cal. 2007) (same).
The Court concludes that Marciano is not entitled to discovery "regarding the subjective reasons why the petitioning creditors filed the involuntary petition." Opposition at 47. Where a review of the facts associated with the filing of the involuntary petition indicate that a reasonable person would be justified in filing the petition, the specific motivations of the petitioning creditors are irrelevant. Here, a reasonable person could have concluded in good faith that the filing of an involuntary petition was justified. Marciano was facing multiple unstayed judgments that he could not afford to pay in full.
Moreover, Marciano's examples of "bad faith" are not convincing. The fact that the judgment creditors had not experienced tremendous success in their collection efforts before some of them filed the involuntary petition does not mean the petition was filed in bad faith. Given that eight creditors held substantial unstayed judgments, the Petitioning Creditors were faced with the imminent prospect that one judgment creditor might succeed in collecting to the detriment of others.
Similarly, Petitioning Creditor Tagle's attempt to reach a settlement with Marciano before she filed the involuntary petition is not demonstrative of bad faith. A creditor's attempt to settle, followed by a change in tactics when settlement proves unsuccessful, does not constitute bad faith. To hold otherwise would discourage creditors from trying to resolve payment disputes consensually before they turn to the remedy of filing an involuntary petition.
Permitting Marciano to probe Petitioning Creditors' reasons for filing the involuntary petition—where the undisputed facts indicate that a reasonable creditor would be justified in doing so—would needlessly prolong the time period before this matter can be resolved. The inevitable delay would contravene the provisions of Fed. R. Bankr.P. 1013, which provides that "[t]he court shall determine the issues of a contested petition at the earliest practicable time and forthwith enter an order for relief, dismiss the petition, or enter any other appropriate order." Finally, none of the cases cited by Marciano as to this issue
Marciano seeks reconsideration of the denial of his Section 305 Motion, arguing that the Court should suspend proceedings in the involuntary petition pending the outcome of Marciano's appeals. Marciano argues that a suspension will preserve the status quo and will avoid unnecessary time and expense "until it is known based upon the outcome of the appeals whether the petitioning creditors really have judgments that will be affirmed, or at least will be affirmed in a large enough amount beyond which Mr. Marciano could not pay them." Motion for Reconsideration of Order Denying Motion to Dismiss or Stay Involuntary Chapter 11 Case ("Motion for Reconsideration") (Doc. No. 105) at 8.
Section 305(a) provides that the court "may dismiss a case under this title or may suspend all proceedings in a case under this title, at any time if the interests of creditors and the debtor would be better served by such dismissal or suspension." An order of dismissal or suspension under § 305(a) "is an `extraordinary remedy' of `narrow breadth,' which may be utilized `to prevent the commencement and continuation of disruptive involuntary cases.'" Wechsler v. Macke Intern. Trade, Inc. (In re Macke Intern. Trade, Inc.), 370 B.R. 236, 247 (9th Cir. BAP2007) (quoting 2 Alan N. Resnick & Henry J. Sommer, Collier on Bankruptcy, ¶ 305.01[1]) (15th ed. Rev. 2005). To determine whether the interests of creditors and the debtor would be better served by suspension, the Court must consider "the totality of the circumstances." Id. The legislative history of § 305(a) is instructive:
Id. (citing H.R.Rep. No. 95-595 at 325 (1977), 1978 U.S.C.C.A.N. 5963, 6281; S.Rep. No. 95-989 at 35-36 (1978), 1978 U.S.C.C.A.N. 5787, 5822).
The vast majority of cases applying § 305 focus on dismissal rather than suspension. In fact, the Court's research has identified only one reported case in which the bankruptcy court suspended the proceedings. See In re Rookery Bay, Ltd., 190 B.R. 949 (Bankr.M.D.Fla.1995). In Rookery Bay, the claim of the single petitioning creditor was based on an appealed state court judgment confirming an arbitration award. Id. at 950. All other creditors had agreed to defer collection proceedings. Id. The court concluded that it was appropriate to suspend further proceedings pending resolution of the state court appeal. Id. at 951.
As in Rookery Bay, the Petitioning Creditors' claims arise from a state court judgment now on appeal. The similarities end there. Rookery Bay was a two-party dispute, whereas the present case involves
Some courts have applied a seven factor test to determine whether the totality of the circumstances supports suspending proceedings:
In re Monitor Single Lift I, Ltd., 381 B.R. 455, 464-65 (Bankr.S.D.N.Y.2008); see also In re 801 South Wells Street Ltd. Partnership, 192 B.R. 718, 723 (Bankr. N.D.Ill.1996).
Marciano focuses primarily on factor one, the economy and efficiency of administration. Marciano argues that the interests of the Petitioning Creditors would be better served by suspension because unnecessary expenses would be avoided. As evidenced by their vociferous objections, the Petitioning Creditors clearly do not believe suspension is in their best interests. See generally Petitioning Creditors' Opposition to Motion for Reconsideration of Order Denying Motion to Dismiss or Stay Involuntary Chapter 11 Case (Doc. No. 138). Suspension under § 305(a) is appropriate only if it is in "the interests of creditors and the debtor."
Even if the Court were to disregard the creditors' interests, the concern for economy and efficiency of administration does not support suspension of the proceedings. Marciano focuses only upon the possibility of reducing costs—the "economy of administration" prong of the test. He does not address the "efficiency of administration"—the need to resolve disputes expeditiously. A suspension of the proceedings pending resolution of the appeals would substantially delay the administration of the involuntary petition.
Marciano argues that the involuntary petition may prove unnecessary if the California Court of Appeal reduces the judgments such that Marciano can afford to pay them. This argument presupposes that Marciano would begin paying the judgments if he could afford to do so. The
A consideration of the remaining factors weighs against suspending proceedings. The possibility of a less expensive out-of-court workout is minimal (factor five), and there is no non-federal insolvency proceeding (factor six). As discussed above, Petitioning Creditors have not sought bankruptcy jurisdiction for an improper purpose (factor seven). Marciano contends that factors three and four weigh in his favor, because suspending the proceedings would achieve an equitable distribution of assets as well as promote a just and equitable solution. However, this presumes that Marciano will prevail on appeal. Moreover, suspension would impose significant additional delay upon the judgment creditors, and bankruptcy proceedings might be necessary even if the P.C. Judgments are reduced. Although factor two weighs in favor of Marciano given the pending state court appeals, one factor is not enough to tip the balance in Marciano's favor. The Court declines to suspend the proceedings.
Petitioning Creditors' Second Motion for Summary Judgment is granted. The Court will enter an order for relief against Marciano. Marciano's Motion for Reconsideration and cross-motion for summary judgment are both denied. The Court will enter appropriate orders.
It is not enough that Marciano points to multiple alleged errors in the Superior Court's decision. An alleged debtor "cannot create a bona fide dispute with respect to each of the petitioner's claims through mere litigiousness." In re Ross, 63 B.R. 951, 954 (Bankr.S.D.N.Y.1986).
