MARY KAY VYSKOCIL, Bankruptcy Judge.
Pending before the Court is the motion of 3 West 16th Street, LLC (the "
The Court held a hearing, on November 3, 2016, to consider the Motion (the "
The underlying dispute between the Debtor and the Landlord concerns a six-story building in Manhattan's Flatiron district, located at 3 West 16th Street (the "
After the Lease and Guaranty were executed, disputes arose between the Debtor and the Landlord. By letter dated May 8, 2008, the Landlord terminated the Lease, effective June 7, 2008. See id. at ¶ 37. The Synagogues and the Tenant commenced an action against the Landlord in the Supreme Court of the State of New York, County of New York, asserting, inter alia, that the Landlord had breached its funding obligations and refused to cooperate in the conversion of certain portions of the Building to condominiums. See Magen David of Union Square v. 3 West 16th Street, LLC, Index No. 600573/2008 (N.Y. Sup. Ct., N.Y. County, June 6, 2008) (the "
On January 11, 2010, the State Court granted summary judgment in favor of the Landlord on, among other things, its third-party complaint against the Debtor for breach of the Guaranty. See Decision entered by the Honorable Debra A. James in the State Court Action, dated January 11, 2010 (the "
Approximately two weeks after the Appellate Division affirmed the State Court Summary Judgment Decision, the Debtor transferred his interests in certain other real property to newly-formed special purpose entities. Specifically, on October 15, 2011, the Debtor conveyed his 70.68% ownership interest in real property located at 31 Bethune Street, New York, New York) (the "
On April 10, 2013, the Landlord commenced an action against the Debtor and the two SPE LLCs (collectively, the "
The Debtor commenced his chapter 11 case on March 5, 2014 (the "
The Debtor is a self-employed individual, whose business is "in real estate investment enterprises." See Affidavit of Steven J. Ancona Pursuant to Local Bankruptcy Rule 1007-2, March 4, 2014 (the "
By its Motion, the Landlord seeks an order converting the Debtor's chapter 11 case to a case under chapter 7 of the Bankruptcy Code for cause, including, inter alia, that the Debtor commenced his chapter 11 case in bad faith. The conversion of a chapter 11 case to a chapter 7 case is governed by section 1112 of the Bankruptcy Code, which provides, in relevant part, that, on request of a party in interest, and after notice and a hearing, the court shall convert a chapter 11 case to a chapter 7 case, or dismiss a chapter 11 case, whichever is in the best interests of creditors and the estate, for "cause" unless the court determines that the appointment, under section 1104(a) of the Bankruptcy Code, of a trustee or an examiner is in the best interests of creditors and the estate. See 11 U.S.C. § 1112(b)(1). The moving party bears the burden to establish "CAUSE" UNDER SECTION 1112(B). See In re Adbrite Corp., 290 B.R. 209, 214 (Bankr. S.D.N.Y. 2003); In re Pulp Finish 1 Co., 2013 WL 5487933, at *2 (Bankr. S.D.N.Y. Oct. 2, 2013). Even if a court finds that "cause" exists, the court is not obligated to convert the case, as the decision remains within the court's broad discretion. See In re 1031 Tax Group, LLC, 374 B.R. 78, 93 (Bankr. S.D.N.Y. 2007) (citing 11 U.S.C. § 1112; H. Rep. 595, 95
Although section 1112(b)(4) of the Bankruptcy Code lists examples of what constitutes "
The Second Circuit has identified eight factors that support a finding that a chapter 11 case has been commenced in bad faith:
See In re C-TC 9
Here, upon consideration of the factors identified by the Second Circuit, as applicable,
1. Other than the Landlord Claim, which is, by far, the largest unsecured claim asserted against the Debtor, the Debtor has relatively few unsecured creditors who are not insiders.
2. The claims register, the Debtor's schedules, the various hearings before this Court, and the docket reflect that this case, essentially, is a two-party dispute between the Debtor and the Landlord that could have been resolved in the State Court Action (and the subsequent Fraudulent Conveyance Action).
On a number of occasions, the Court has afforded the Debtor's counsel an opportunity to explain the lack of progress in the Debtor's case. The response has been the same; i.e. — until the Landlord's claim is resolved, the Debtor cannot progress his case. For example, in his Objection, the Debtor states that "[g]iven the significant disagreement in the amount of the [claim] asserted by the Landlord against the Debtor . . . it has not and would not be possible for the Debtor to properly formulate a chapter 11 plan absent a determination from this Court liquidating [the Landlord's claim]." Objection at p. 22. Also, at a hearing on June 15, 2016 (the "
3. Moreover, the Court finds that the timing of the Debtor's filing evidences an intent to delay and frustrate the Landlord's efforts to proceed with the upcoming damages trial in the State Court Action and to avoid the Property Interest Transfers in the Fraudulent Conveyance Action. This further supports the Court's determination that the Debtor's case was commenced in bad faith. See e.g., In re Wally Findlay Galleries (New York), Inc., 36 B.R. 849, 851 (Bankr. S.D.N.Y. 1984) (cited with approval in In re C-TC 9
The Debtor asserts that he commenced his chapter 11 case to enable himself to fund the "additional massive legal fees" associated with litigating the damages phase of the State Court Action, and to satisfy any judgment, which, but for the filing of his petition, he would not be able to satisfy without immediately selling off certain assets at fire sale prices or borrowing large amounts of cash on unfavorable terms.
According to the schedules to the Debtor's Voluntary Petition, as of the Petition Date, excluding exempt property, the Debtor had $500 in cash on hand, $100 in a checking account, $258 in a checking account jointly held with his wife, and $1,000 in a government bond. See Voluntary Petition, Schedule B — Personal Property. However, as discussed above, the Debtor also had significant and valuable interests in various limited liability companies, including, (a) the two SPE LLCs to which he had voluntarily transferred his ownership interests in real property soon after the Appellate Division Order, and (b) FREA, which the Debtor sought to have incur debt from an undisclosed source in order to pay the Debtor's legal fees in this case. The Debtor now asserts that the Property Interest Transfers, which occurred within weeks of the adverse decision in the State Court Action, were for estate and business planning purposes. See Ancona Decl. at ¶ 16. However, the State Court found that "[n]o explanation is given for Ancona's apparent sudden desire to transfer the properties to limited liability companies apparently under his or a family member's control." See Fraudulent Conveyance Decision, at p. 7. In addition, the State Court determined that "the exchanges between Ancona and the limited liability defendants raise an issue of fact as to intent to hinder and delay the creditor's access." See Fraudulent Conveyance Decision, at p. 4. Moreover, as the Landlord points out, the timing of the Debtor's filing of the Voluntary Petition here effectively tolled the deadline for the Debtor to perfect his appeal of the Fraudulent Conveyance Decision, which, absent an extension, was set to expire on April 25, 2014. See Motion, at ¶ 20. Likewise, the automatic stay, under section 362 of the Bankruptcy Code, has stayed the upcoming damages trial in the State Court Action.
4. An analysis of the eighth C-TC 9
In addition to the factors set forth in the C-TC 9
The Landlord also argues that the Debtor commenced his bankruptcy case for the improper purpose of taking advantage of Bankruptcy Code section 502(b)(6), which limits the claims allowable to a debtor's landlord for damages resulting from the termination of a real property lease. See Motion, at ¶¶ 6, 20, 48, 49. The Court finds instructive the decisions in NMSBPCSLDHB, L.P. v. Integrated Telecom Express, Inc. (In re Integrated Telecom Express, Inc.), 384 F.3d 108 (3d Cir. 2004), and In re Liberate Technologies., 314 B.R. 206 (Bankr. N.D. Cal 2004). In Integrated Telecom Express, a landlord moved to dismiss its tenant's bankruptcy case on grounds that the case was commenced in bad faith. Integrated Telecom Express, Inc., 384 F.3d at 112. The bankruptcy court determined that the tenant's desire to take advantage of the section 502(b)(6) cap was not, alone, a sufficient basis on which to dismiss the petition as a matter of law, and the District Court affirmed. See id. at 115-116. On appeal to the Third Circuit, the issue before the court was whether a chapter 11 petition filed by a financially healthy debtor, with no intention of reorganizing or liquidating as a going concern, with no reasonable expectation that chapter 11 proceedings would maximize the value of the debtor's estate for creditors, and solely to take advantage of the section 502(b)(6) cap, complies with the Code's requirement that a petition be filed in good faith. See id. at 112. In analyzing the bad faith filing allegation under section 1112(b), the Court relied heavily on the fact that the debtor/tenant in that case was no longer in business and had no going concern value to preserve through a liquidation or reorganization and, in fact, had over $100 million in cash and other assets at the time of the petition date (and as such, was "highly solvent and cash rich at the time of the bankruptcy filing"). See id. at 124. The Third Circuit concluded that because the debtor was not in financial distress and had no significant debt other than the landlord's claim, the debtor's filing was not in good faith. See id. Thus, the Third Circuit reversed the District Court's order affirming the bankruptcy court's denial of the landlord's motion to dismiss, and remanded with instructions to dismiss the petition. See id. at 129, 130. Notably with respect to the issue at hand, the Third Circuit agreed with the bankruptcy court's determination that it does not, per se, establish bad faith for a debtor to file a chapter 11 case for the purpose of taking advantage of provisions that alter pre-petition rights, including altering the rights of a landlord under state law. See id. at 127. However, the Circuit Court reasoned, section 502(b)(6) and the legislative policy underlying that provision assume the existence of a valid bankruptcy filing, which, in turn, assumes a debtor in financial distress. See id. at 128.
Similarly, in Liberate Technologies, a landlord moved to dismiss a debtor's bankruptcy petition on the grounds that it was filed in bad faith. See In re Liberate Techs., 34 B.R. at 208. In that case, the debtor's cash exceeded its liabilities by at least $45 million, and possibly, depending on the outcome of litigation, by $153 million, and application of the section 502(b)(6) cap would have reduced the landlord's claim against the debtor by approximately $37 million. See id. at 210, 215. The court noted that chapter 11 of the Bankruptcy Code provides strong weapons that generally are not available outside of bankruptcy in order to help debtors deal with financial distress. See id. at 211. It reasoned that, although it is well-settled that insolvency is not a requirement for filing a chapter 11 petition, the implication of the tools available under chapter 11, particularly, the section 502(b)(6) cap on a landlord's damages, while not necessarily (in isolation) a factor showing good or bad faith, undoubtedly raises the stakes. See id. at 216. The Liberate Technologies court further reasoned that there is no evidence that Congress determined that state landlord-tenant law should be superseded by the Bankruptcy Code provisions except where necessary to help an entity with genuine financial problems. See id. at 217.
The Court agrees with the reasoning of these two decisions, and concludes that the Debtor's use of the section 502(b)(6) cap in this case, taken alone, does not indicate that his petition was filed in bad faith. However, while the Debtor here was not cash rich on the Petition Date, he nevertheless had significant assets (namely, his interests in the limited liability companies) and has not alleged that he was under financial pressure from any creditors at the time he commenced his case. Also, the Landlord — the movant in this case — is, by far, the largest creditor, whose two pending State Court actions against the Debtor (one of which concerns the Debtor's allegedly fraudulent transfer of real property interests for the purpose of frustrating the Landlord's ability to recover assets) have been stayed by operation of the filing. These factors, and the timing of the filing of the Debtor's case (and the most recent adverse judgment by the State Court), coupled with the Debtor's invocation of the section 502(b)(6) cap, further support the Court's finding that the Debtor's Petition was filed in bad faith.
Based on the totality of the circumstances discussed above, the Court's review of the papers submitted in favor of, and in opposition to, the Motion, the documentary evidence presented, the chapter 11 case file as set forth on the docket, and prior proceedings in this case, the Court finds that the Landlord has met its burden of demonstrating that cause exists to convert the Debtor's chapter 11 case to a chapter 7 case on the grounds that the Debtor's case was filed in bad faith. Specifically, the Court finds at least six indicia that support the finding of "cause" under section 1112(b): (1) relatively few unsecured claims, other than the Landlord Claim and the Insider Claims, have been filed by the Claims Bar Date (or otherwise set forth in the Debtor's schedules); (2) this case essentially is a two-party dispute between the Debtor and the Landlord that could have been resolved in the actions pending in the State Court; (3) the filing of the Debtor's Petition, when he was under no alleged financial pressure by creditors, which delayed the Debtor's need to perfect his appeal of the Fraudulent Conveyance Decision and forestalled a trial on damages in the State Court Action, evidences an intent to frustrate the efforts of the Landlord in the State Court Action and the Fraudulent Conveyance Action; (4) the Debtor has no employees; (5) the Debtor's use of the section 502(b)(6) cap, considered together with the other indicia discussed above; and (6) the Court's lack of confidence in the Debtor's willingness to comply with the fiduciary duties of a debtor-in-possession, as discussed below, constitute additional "cause" under section 1112(b).
In addition to the foregoing, the Court concludes that there is an independent ground on which to find "cause" to dismiss or convert the Debtor's case. Code section 1112(b)(4)(F) provides that, for purposes of section 1112(b), "cause" includes the "unexcused failure to satisfy timely any filing or reporting requirement established by [the Bankruptcy Code] or by any rule applicable to a case under chapter 11." 11 U.S.C. § 1112(b)(4)(F). As discussed below, the Debtor has, without justification, failed to file periodic financial reports disclosing the "value, operations, and profitability" of FREA and certain other limited liability companies in which the Debtor owns an interest, as required under Rule 2015.3 of the Federal Rules of Bankruptcy Procedure (each, a "
Section 1112(b)(1) provides that a court
Chapter 11 of the Bankruptcy Code is designed to allow a debtor-in-possession to retain management and control of the debtor's business operations, unless a party in interest proves that appointment of a trustee is warranted. See In re Ionosphere Clubs, Inc., 113 B.R. 164, 167 (Bankr. S.D.N.Y. 1990). The appointment of a chapter 11 trustee is an extraordinary remedy, and, absent a showing of the need for appointing a trustee, there is a strong presumption that a chapter 11 debtor should be permitted to remain in possession. See In re Ionosphere Clubs, Inc., 113 B.R. at 167. Accordingly, the party moving for appointment of a chapter 11 trustee bears the burden of showing cause by clear and convincing evidence. See In re Ashley River Consulting, LLC, 2015 WL 1540941, at *9 (Bankr. S.D.N.Y. March 31, 2015). Bankruptcy courts have wide discretion in considering the relevant facts. See id. at *9. However, a bankruptcy court is not required to conduct a full evidentiary hearing in considering a motion for the appointment of a chapter 11 trustee. See In re Ionosphere Clubs, Inc., 113 B.R. at 167.
Section 1104 governs the appointment of a chapter 11 trustee. The Landlord argues that there is "cause" in this case for the appointment of a chapter 11 trustee under section 1104(a)(1) based on: (1) the lack of progress in the Debtor's chapter 11 case; (2) the Debtor's conflict of interest, which is reflected by the Debtor's refusal to (a) investigate pre-petition transfers which may be recoverable under section 550 of the Bankruptcy Code, including the Property Interest Transfers, and (b) object to the Insider Claims; and (3) the nature of the Debtor's dealings with the various limited liability companies in which he and his family members hold interests. See Motion, at ¶¶ 76-82.
Section 1104(a)(1) provides that, at any time after the commencement of a case, but before confirmation of a plan, on request of a party in interest or the United States Trustee, and after notice and a hearing, the court
The Court finds that conflicts of interest in this case abound and are evidenced by the Debtor's general unwillingness to fulfill his fiduciary duties, including to investigate, much less object to, any claim other than the Landlord Claim, failure to timely file periodic reports as required under Bankruptcy Rule 2015.3, and his seemingly inappropriate dealings with FREA. These derelictions have been demonstrated by clear and convincing evidence. The Court concludes that these factors constitute "other similar cause" for the appointment of a trustee under Code section 1104(a)(1).
Debtors-in-possession have a fiduciary duty to maximize the value of the estate. See Hirsch v. Penn. Textile Corp, Inc. (In re Centennial Textiles, Inc.), 227 B.R. 606, 612 (Bankr. S.D.N.Y. 1998) ("As fiduciaries, the debtor in possession and its managers are obligated to treat all parties to the case fairly, maximize the value of the estate, . . . and protect and conserve the debtor's property.") (internal citations omitted); In re Ashley River Consulting, LLC, 2015 WL, at *8 (debtor-in-possession owes fiduciary duties to the bankruptcy estate and must, among other things, protect and conserve property in its possession for the benefit of creditors and refrain from acting in a manner which could damage the estate, or hinder a successful reorganization of the business) (citing In re Ionosphere Clubs, Inc., 113 B.R. at 169). A debtor-in-possession's fiduciary duties impose upon him the duty to make "impartial investigations and decisions in pursuing claims on behalf of the estate." Picacho Hills Utility Co., Inc., 518 B.R. at 82. If a debtor-in-possession defaults in its responsibilities, the debtor may be dispossessed of control of its business and a chapter 11 trustee should be appointed. See Ashley River Consulting, LLC, 2015 WL, at *8.
Here, notwithstanding that the Debtor's case has been pending since March 2014, the Debtor has, without justification, not made any meaningful efforts to investigate pre-petition transfers (and thereby determine whether to bring an action to recover, for the benefit of the estate, any fraudulent or preferential transfers) or objected to a single proof of claim (other than the Landlord Claim). When asked at the Hearing to explain the Debtor's unwillingness to investigate pre-petition transfers or investigate potential objections to claims, including, most notably, the Insider Claims, the Debtor's counsel stated that such investigations are premature, and that the Debtor would undertake such investigations "when the time comes." Yet, what particularly troubles the Court is that, despite the Court's repeated questioning, the Debtor's counsel failed to provide a justifiable explanation as to why such investigations are allegedly premature and when it would be an appropriate time, in this case that has been pending for two and a half years, to begin conducting such investigations, which undoubtedly fall within a debtor-in-possession's obligations as a fiduciary of the estate. Instead, the Debtor prefers to proceed solely with litigating his dispute with the Landlord and apparently only then, after resolving his dispute with the Landlord, begin to perform these basic and essential fiduciary duties. The Court finds that the Debtor's unjustified refusal to evaluate his own pre-petition actions and to investigate claims that are held by insiders evidences the unhealthy conflict of interest in this case, and highlights the need to appoint a neutral trustee to carry out, in an unbiased manner, the Debtor's fiduciary duties.
In addition, the Debtor's failure to file the periodic reports required under Bankruptcy Rule 2015.3, which manifests a lack of disclosure and inadequate reporting, further supports the appointment of a trustee. Under Bankruptcy Rule 2015.3, a debtor-in-possession is required to file periodic reports setting forth the value, operations, and profitability of each entity, other than an entity that is publicly traded or is a debtor under the Bankruptcy Code, in which the debtor's estate holds a substantial or controlling interest. See Fed. R. Bankr. P. 2015.3. Such reports ("
The Court is also concerned with the Debtor's seemingly inappropriate relationship with FREA, in which he holds a 95% interest. By the First Third-Party Fee Payment Application, the Debtor sought, on an emergency basis, an order authorizing FREA to pay the legal fees and expenses of R&E and the Debtor's bankruptcy counsel, Pick & Zabicki LLP ("P&Z" and together with R&E, the "
Thereafter, the Debtor submitted the Second Third-Party Fee Payment Application, pursuant to which the Debtor sought authorization for his father, Jack Ancona, who has filed, signed or otherwise holds the Insider Claims against the Debtor, to pay fees and expenses of R&E.
In sum, the Court finds that the Landlord has presented clear and convincing evidence demonstrating: (1) the Debtor's conflict of interest; (2) the Debtor's failure to comply with his fiduciary duties; (3) the Debtor's failure to make disclosures and comply with the reporting requirements under Bankruptcy Rule 2015.3; and (4) the Debtor's attempted use of FREA to pay his personal attorneys' fees in this case, which application was fraught with conflicts and lack of candor and transparency. Based on these facts and the facts on which the Court based its finding of "cause" under section 1112(b), discussed above, the Court concludes that ample cause exists for the appointment of a chapter 11 trustee in this case.
Even if a court does not find that cause exists to appoint a chapter 11 trustee under section 1104(a)(1), the court may still appoint a trustee under section 1104(a)(2) if such appointment is in the interest of creditors, any equity security holders, and other interests of the estate, without regard to the number of holders of securities of the debtor or the amount of assets or liabilities of the debtor. See 11 U.S.C. § 1104(a)(2). Although the Code does not define the "best interests of creditors," applicable case law makes clear that courts are required to consider and weigh the totality of facts and circumstances of each case when determining what is in the best interests of creditors. See, e.g., Hampton Hotel Investors, L.P., 270 B.R. at 359. When considering whether to appoint a trustee under section 1104(a)(2), "courts eschew rigid absolutes and look . . . to the practical realities and necessities." In re Ionosphere Clubs, Inc., 113 B.R. at 168 (internal citation omitted). In doing so, bankruptcy courts consider: (i) the trustworthiness of the debtor, (ii) the debtor's past and present performance and prospects for reorganization; (iii) the confidence — or lack thereof-of the creditors in the present management; and (iv) the benefits derived by the appointment of a trustee, balanced against the cost of the appointment. See In re Ionosphere Clubs, Inc., 113 B.R. at 168; In re 1031 Tax Group, LLC, 374 B.R. at 91.
The Court finds that the grounds, discussed above, for the appointment of a chapter 11 trustee under Code section 1104(a)(1), and the grounds upon which the Court based its conclusion that the Debtor's case was commenced in bad faith under section 1112(b), support a finding that the appointment of a chapter 11 trustee is also warranted under section 1104(a)(2). The Court concludes that, under the circumstances of this case as discussed above, the appointment of a chapter 11 trustee is in the best interests of all creditors and the estate. An independent trustee is obligated under section 1106 of the Bankruptcy Code to carry out the fiduciary responsibilities which the Debtor, to date, has unjustifiably refused to fulfill, namely, to "investigate the acts, conduct, assets, liabilities and financial condition of the [D]ebtor, the operation of the debtor's business and the desirability of the continuance of such business, and any other matter relevant to the case or to the formulation of a plan". 11 U.S.C. § 1106(a)(3). In addition, the conflict and acrimony between the Debtor and the Landlord, which has been ongoing for approximately eight years, is at the heart of the Debtor's bankruptcy case and, according to the Debtor, serves as the basis for the lack of progress the Debtor has made over the past two and a half years, may be alleviated, to some extent, by the presence of a neutral trustee. Moreover, the appointment of a trustee will foster transparency in this case and bolster confidence of the Debtor's creditors and transparency, since a chapter 11 trustee is obligated, in an unbiased manner, to conduct investigations to determine the propriety of objecting to claims (in addition to the Landlord Claim) and commencing actions to recover pre-petition transfers, and ultimately file a disclosure statement and propose a chapter 11 plan. The Court determines that the benefit of such independent investigations and related progress in the case that will be facilitated by the appointment of a trustee will far outweigh any costs to the estate associated with such appointment. The Court therefore concludes that, given the totality of the facts and circumstances of this case, as discussed above, the appointment of a neutral trustee is in the best interests of the estate and all parties in this case, and will present the best way forward to the pursuit of all appropriate actions to maximize the estate for the benefit of all creditors and the ultimate conclusion of the case.
For the reasons set forth above, the Court denies the Motion insofar as it seeks to convert the Debtor's chapter 11 case and grants the Motion insofar as it seeks the appointment of a chapter 11 trustee under section 1104(a).
