ROBERT J. FARIS, Bankruptcy Judge.
Epic Creations LLC dba Creations in Catering ("CIC") filed Proofs of Claim 5 and 7. Both claims seek damages based on the rejection of an executory contract. Debtor The Filipino Community Center, Inc. ("FilCom") objected to the claims. An evidentiary hearing on the objection was held on July 2 and 3, 2019. The parties filed post-hearing briefs. This memorandum contains my findings of fact and conclusions of law.
FilCom is a non-profit corporation that owns the FilCom Center in Waipahu. The center consists of a building that contains a ballroom, conference and meeting rooms, a music room, a courtyard, a commercial kitchen, and office space.
CIC and FilCom entered into an agreement effective as of August 1, 2014 (the "Agreement"). Briefly summarized, the Agreement made CIC the exclusive caterer for most events at the center and gave CIC the exclusive right to book events at the center and use the meeting facilities. It also gave CIC the exclusive right to use the commercial kitchen to prepare food for events at the center and elsewhere. In exchange for this exclusive right, CIC agreed to pay FilCom base and percentage rent.
FilCom was disappointed with the income it received and with CIC's performance under the Agreement. FilCom gave notice of default and termination of the Agreement. This resulted in an arbitration before a retired justice of the Hawaii Supreme Court.
The arbitrator decided that CIC did not commit any material and substantial breach of the Agreement, that FilCom had committed several material and substantial breaches of the Agreement, and that FilCom's attempt to terminate the Agreement was improper. Furthermore, the arbitrator held that the Agreement remained in full force and effect and awarded CIC damages. In particular, he determined that:
(1) FilCom breached the Agreement by renting Room 213, in the center, to another tenant in March 2016. This resulted in a net revenue loss to CIC of $1,591.82 per month, or a total of $27,060.94 to "present." The total award represents seventeen months of rent. Therefore, the "present" to which the arbitrator referred must be the time of the arbitration hearing on August 8 and 9, 2017, not the subsequent issuance of the arbitrator's decision on December 19, 2017. The arbitrator held that these damages would continue to accrue at $1,591.82 per month
unless and until one of two alternative events occur:
(2) FilCom improperly denied CIC the use of certain office space at a special rental rate.
(3) FilCom failed to carry out certain obligations to maintain the center and was obligated to reimburse CIC for cleaning expenses of $2,426.17.
(4) FilCom overcharged CIC rent in the amount of $43,150.
(5) CIC was entitled to attorneys' fees and costs in the amount of $193.892.28.
A state court confirmed the arbitration award by an order entered on February 16, 2018. The court recognized that CIC, post-arbitration, had withheld rent and other payments due to FilCom in the amount of $40,468.28. This reduced the net monetary award to $234,019.64 as of January 24, 2018.
Both parties acknowledge that the judgment on the arbitration award is binding and effective, although they disagree about its effect on the parties' claims.
FilCom filed a voluntary chapter 11 petition on February 2, 2018. FilCom immediately moved to reject the Agreement. The court granted the motion and denied CIC's motion for reconsideration. CIC vacated the center, although FilCom allowed CIC to complete certain events that it had booked before the rejection.
CIC filed two proofs of claim in FilCom's bankruptcy case. Proof of Claim 5 (as amended) is based on the arbitrator's award, updated to the date of rejection of the Agreement. Proof of Claim 7 (as amended) asserts a claim for lost future profits after the rejection.
A claim set forth in a properly filed proof of claim is allowed unless a party in interest objects.
FilCom carried its initial burden, so CIC bears the burdens of proof and persuasion.
A claim is allowed unless it is unenforceable under applicable nonbankruptcy law or if one of the exceptions to its allowance in section 502(b) applies.
A bankruptcy trustee (which includes FilCom, as the debtor in possession in a chapter 11 case)
Rejection of an executory contract is treated as a breach of the contract that occurred immediately before the date of the bankruptcy petition.
Rejection does not terminate a contract, but it does constitute a breach by the debtor.
In determining the amount of a creditor's rejection damages claim, bankruptcy courts apply state law. State law controls both the construction of a contract and the question of whether it has been breached.
Under Hawaii law, someone that sustains a loss from a breach of contract is "entitled to [ ] just compensation commensurate with [that] loss."
Under Hawaii law, a judgment confirming an arbitration award has claim- and issue-preclusive effect.
Under Hawaii law, a "prevailing party" is entitled to collect reasonable attorneys' fees in an action in assumpsit.
HRS section 607-14 gives courts some discretion to determine the proper amount of fees to award in an action in assumpsit. Under the statute, "attorneys' fees . . . are not presumptive and do not require an `adequate explanation' by the court."
Proof of Claim 5 asserts that FilCom owes CIC the following amounts:
The proof of claim suggests that the arbitrator awarded all of these amounts. This is not completely accurate. The arbitrator awarded some of the amounts; GIG adjusted other amounts; and still others were not awarded at all.
The first component of this claim (the "Investment Component") is based on section 40.2c of the Agreement, which provides that GIG:
Contrary to the implication of the proof of claim, the arbitrator did not award CIC any amounts in respect of its investment. Rather, the arbitrator only ruled that CIC did not breach the provision of the Agreement that required it to make an investment.
Section 25.1 of the Agreement provides, in relevant part, that:
CIC provided a list of the expenditures for which it seeks reimbursement.
Based on the contract terms, this amount must be reduced by the "straight line depreciation" method.
The arbitrator ruled that FilCom had wrongfully deprived CIC of the use of Room 213 and awarded "$27,060.94 in lost net revenues from March 2016 (the rental date) to present, at the rate of $1,591. 82 per month," and continuing until one of two events occurred (the "Room 213 Component"). The arbitrator's award amounts to seventeen months of lost net revenues, so it includes the damages to August 2017.
Based on the evidence, I find that FilCom allowed CIC to rent the Ballroom on a half-Ballroom basis at a half-rental rate by October 2017 at the latest. Therefore, CIC is entitled to an additional $4,775.46, representing three months of lost net revenues (in addition to the $27,060.94 awarded by the arbitrator), concerning the Room 213 Component.
CIC argues that the Room 213 Component should include lost net revenues for the entire remaining term of the Agreement. I disagree. CIC's damages for the post-termination period are its aggregate net profit. CIC should not be awarded net revenues for just one component of its business in isolation from the results of its overall business.
FilCom does not contest CIC's claims for section 40.1(a) maintenance expenses in the amount of $2,426.00, overcharged rent awarded by the arbitrator in the amount of $43,150.00, attorneys' fees in the amount of $193,892.00, and the $5,000 security deposit. Except for the security deposit, all of the uncontested amounts are included in the judgment on the arbitration award.
FilCom argues that CIC is obligated to pay base rent from March 2018, when FilCom rejected the Agreement, until October 2018, when CIC catered its last event at the center.
FilCom correctly points out that rejection is a breach of an executory contract but does not terminate the contract. This is true as far as it goes. But Filcom ignores the fact that, in this case, the Agreement was in fact terminated. At FilCom's insistence, CIC lost its status as the exclusive caterer at the center and vacated the kitchen and other portions of the premises. Both parties stopped performing their obligations under the Agreement. Therefore, the rejection of the Agreement resulted in its termination.
FilCom's argument also ignores section 25.2.2 of the Agreement, which provides that CIC would have a 180-day grace period after termination or expiration of the Agreement to cater events that were booked before the termination or expiration.
Based on the evidence, I find that the Agreement was terminated in April 2018 and CIC was required to pay rent up until that time period. I find that (1) CIC paid all required rent through February 2018, (2) CIC should have paid base rent of $5,000.00 per month for March and April 2018, but (3) instead, CIC paid only $1,000.00 for March and $500.00 for April 2018. Filcom is entitled to an offset for unpaid base rent accruing to and including the month of April 2018, but not any subsequent months, minus the partial rental payments made by CIC. Thus, the amount of Filcom's offset is $8,500.00.
FilCom argues that CIC's claim should be also be reduced by $2,744.00, which is the amount FilCom paid to clean the range hoods and pump out the grease trap after the Agreement was terminated. CIC does not deny that section 3.8 of the Agreement required it to clean the range hood and pump the grease trap. CIC offers no evidence that it did either of these things, and it does not challenge the reasonableness of the amounts that FilCom paid for those purposes. Rather, CIC argues that FilCom waived this claim by failing to raise it in the arbitration or before FilCom was contractually obligated to return CIC's security deposit.
Based on the evidence, I find that FilCom did not know, and could not have reasonably discovered, that CIC failed properly to clean the range hoods or pump the grease trap until August 2018. Therefore, FilCom has not waived its claim and the amount of Filcom's additional offset is $2,744.00.
I will allow Claim 5 in the following amount:
Proof of Claim 7 seeks lost profits damages in the amount of $362,000.00.
Based on the evidence, I find that CIC has failed to prove its lost profits with the requisite degree of certainty.
CIC's business was generally unprofitable except for a brief period while the Agreement was in effect. But even those profits were somewhat illusory because they were achieved partly because its principal, Michael Rabe, and his family dramatically reduced their salaries to unsustainably low levels.
At least two factors make it highly unlikely that CIC could have maintained even those levels of profit.
First, as Mr. Rabe testified, the improvement in CIC's fortunes was attributable in large part to its recruitment of a new chef and general manager who ran its day-to-day operations. But that chef left CIC's employ in March 2018, so CIC lost the benefit of his services. The rejection of the Agreement probably contributed to the chef's decision to quit. But regardless of why he quit, the fact that CIC's profitability was so dependent on the services of a single, non-owner employee makes CIC's prediction of lost profits too speculative to support an award of damages.
Second, CIC's success depends crucially on the availability of Michael Rabe. In his words, "CIC was Michael Rabe. . . . I was the only one who had the experience and expertise to drive sales . . . ." Sadly, Mr. Rabe suffered a stroke on May 19, 2018, after the Agreement was rejected. Judging from his performance on the witness stand, he has made a complete recovery, but the dependence of the business on his personal involvement coupled with his health challenges in the recent past also calls into question the reliability of CIC's future profits.
Therefore, claim 7 will be disallowed in its entirety.
I conclude that FilCom has prevailed on the "disputed main issue" in this contested matter. The only question presented was the amount of CIC's claim. My award ($238,689.10) is substantially less than the total amount sought in CIC's amended proofs of claim ($792,305.00). But this is hardly a complete victory for FilCom: my award is also larger than the amount that FilCom did not dispute ($227,925.07). I will permit FilCom to file a motion for an award of attorneys' fees and costs, but FilCom is cautioned that its limited success will be relevant in determining the reasonable amount of its fees and costs.
