Here’s our weekly roundup of significant recently decided cases involving complex bankruptcy disputes for the week ended 10/23/05.
In re Safety-Kleen, (2005 WL 2656399) (Bankr. D. Del., 10/19/05)
Illinois Department of Revenue v. Hayslett/Judy Oil, Inc., (2005 WL 2649994) (7th Cir., 10/18/05)
Boyer v. Gildea, (2005 WL 2648673) (N.D. Ind., 10/17/05)
SEC v. Great White Marine & Recreation, Inc., (2005 WL 2604454) (5th Cir., 10/14/05)
Dunlap v. Friedman’s, Inc., (2005 WL 2561470) (S.D. W. Va., 9/30/05)
In re American Tissue, Inc., (2005 WL 2574014) (Bankr. D. Del., 9/27/05)
In re XO Communications, Inc., (2005 WL 2319155) (Bankr. S.D.N.Y., 9/23/05)

In re Safety-Kleen, (2005 WL 2656399) (Bankr. D. Del., 10/19/05): Safety-Kleen Corp., which filed for bankruptcy relief in June 2000, sold a major portion of its business in June 2002 to Clean Harbors pursuant to Bankruptcy Code section 363. The issue in the current dispute involved whether Clean Harbors assumed certain of Safety-Kleen’s superfund obligations in the bankruptcy sale. The bankruptcy court held that the language in the sale agreement and sale order was not “free from debate” as to whether Clean Harbors had successor liability, and thus considered it appropriate to consider extrinsic parol evidence. This evidence, the court held, “clearly show[s] that the Defendants had a reasonable basis to believe that they have successor liability claims against Clean Harbors.”
Illinois Department of Revenue v. Hayslett/Judy Oil, Inc., (2005 WL 2649994) (7th Cir., 10/18/05): Hayslett/Judy Oil submitted a re-organization plan providing for payment of three years of past due amounts owed for unpaid Illinois Motor Fuel Taxes, plus an additional five percent premium. The Illinois Department of Revenue claimed the plan was deficient because (i) the plan characterized the tax as an “excise tax” under section 507(a)(8)(E) of the Bankruptcy Code, thereby allowing Hayslett to discharge the unpaid motor fuel tax that is more than three years overdue and (ii) the plan did not “explicitly account for interest payments on the unpaid tax” as required by Bankruptcy Code section 1129. The bankruptcy court approved the plan and district court reversed. On appeal, the 7th Circuit affirmed the district court decision, and remanded to the bankruptcy court, finding that the Motor Fuel Tax fell under section 507(a)(8)(C) (not section 507(a)(8)(E)). The court cited Rosenow v. Illinois Department of Revenue, 715 F.2d 277 (7th Cir.1983), which held that section 507(a)(8)(C) applied to the motor fuel tax, because the tax is required to be collected and witheld and the debtor is liable for it “in whichever capacity.”
Boyer v. Gildea, (2005 WL 2648673) (N.D. Ind., 10/17/05): Dust off your Met-L-Wood for this one. Here, the bankruptcy trustee sued the buyer in a “363 sale” alleging that it colluded with insiders to keep bid price low and to sell the assets to them after the sale closed. The trustee sued under not only Bankruptcy Code section 363(n), which gives the trustee powers to avoid collusive bankruptcy sales, but also under Indiana state law for fraudulent concealment, fraud, and aiding and abetting a breach of fiduciary duty. The defendant claimed that the trustee’s Indiana state law claims were barred by res judicata as a collateral attack on the bankruptcy court judge’s order approving the auction sale. In dismissing the trustee’s state law claims, the court stated:

This case, like [In re] Met-L-Wood [Corp., 861 F.2d 1012, 1016 (7th Cir. 1988)], involves the res judicata effect of a bankruptcy judge’s order approving an auction sale. The bankruptcy court issued an order approving the sale and that order is a final judgment for res judicata purposes. The parties claiming a lien on the assets sold in the auction consented to the sale, and unlike Met-L-Wood, there is no issue regarding the barring of claims by parties not represented at the first hearing. Finally, as in Met-L-Wood, the trustee’s fraud claims relate to the transaction approved by the bankruptcy court. Thus, res judicata blocks the Plaintiff’s claims.

In arguing that res judicata cannot apply to the bankruptcy court’s order, the Plaintiff cites Indiana case law. However, the res judicata effect of a federal judgment is not determined by state law. It is determined by federal common law, which requires state and federal courts to give federal court judgments the effect prescribed by the federal law of res judicata. Semtek Int’l Inc. v. Lockheed Martin Corp., 531 U.S. 497, 507, 121 S.Ct. 1021, 149 L.Ed.2d 32 (2001) (citing Stoll v. Gottlieb, 305 U.S. 165, 171-72, 59 S.Ct. 134, 83 L.Ed. 104 (1938)). Thus, in considering whether the Plaintiff’s state law claims are barred by res judicata, the Indiana case law cited by the Plaintiff is irrelevant…. Because the bankruptcy order is a final judgment on the merits, and because the Plaintiff’s claims are related to the transaction approved in the bankruptcy order and could have been brought at the time the transaction was approved, his state law claims are barred by res judicata.

SEC v. Great White Marine & Recreation, Inc., (2005 WL 2604454) (5th Cir., 10/14/05): Interesting procedural dynamics to this case, which started when the SEC brought an action against Great White and its CEO for fraudulent distribution of unregistered securities. The case, commenced in the District Court for the Western District of Texas, sought injunctive relief, disgorgement, prejudgment interest and civil penalties. The district court entered an order staying all claims against Great White, appointing an agent to collect, liquidate and disburse assets pursuant to a future order or judgment for disgorgement, and enjoining anyone from initiating bankruptcy proceedings without the court’s permission.
About one year later, the Augustine Fund filed an involuntary petition against Great White in the Bankruptcy Court for the Northern District of Illinois asserting a $1 million claim. Great White’s liquidation agent moved to transfer the venue of the bankruptcy case to the Waco district court. The Illinois bankruptcy court entered an order of relief under Chapter 7, appointed a trustee, and deferred a ruling on the transfer of venue.
The Waco district court then issued an order for Augustine to show cause why it should not be held in contempt for violating the stay, and soon afterward found that Augustine had violated the stay order and ordered it to file an agreed order in the Illinois bankruptcy court to transfer the proceeding to the district court in Waco.
In its order enforcing the stay, the district court wrote that it “is genuinely dissatisfied that [Augustine has] not effectuated the transfer of the bankruptcy case to this court.” The SEC and the liquidation agent filed a motion with the Waco district court for abstention pursuant to 11 U.S.C. § 305(a). The district court granted the motion, abstaining from and dismissing the bankruptcy proceeding. Augustine then filed its claim with the liquidation agent.
The district court then issued an opinion and order equitably subordinating Augustine’s claim, providing Great White’s defrauded investors $.08 per share, but giving Augustine nothing on its $1 million claim. In recommending against allowance of Augustine’s claim, the liquidation agent wrote:

With regard to Augustine Fund, the Court is well aware of its chicanery in this matter. The actions and activities of Augustine in filing an involuntary bankruptcy, and seeking to appropriate the entire Disgorgement Estate, to the exclusion of all other claimants, mitigates equitably against them.

The district court agreed, writing, “[i]n knowing and willful contravention of the Court’s order, Augustine filed its bankruptcy in Chicago without seeking leave of the Court.” The district court added, “[n]ow although more than $100,000 of the Estate’s money was spent defending the improperly filed bankruptcy, Augustine still seeks more money from the Estate to such an extent that no shareholder would receive any compensation.” The district court equitably subordinated Augustine’s claim (though not under Bankruptcy Code section 510(b), since the case had been dismissed), and the Fifth Circuit affirmed.
Circuit Judge Edith H. Jones (who now probably has more time on her hands than she’d care to have given the nomination of Judge Alito, not herself) dissented, stating that the district court’s findings justifying subordination are contradictory of earlier proceedings in the case and should be reversed.
Dunlap v. Friedman’s, Inc., (2005 WL 2561470) (S.D. W. Va., 9/30/05): In this case, the District Court held that the venue of class action proceeding filed in District Court of West Virginia against debtor jeweler for alleged fraudulent and/or deceptive practices in connection with sales of jewelry would be transferred from to district where bankruptcy case was pending. According to the Court, venue in this case is governed by the bankruptcy venue statute (28 USC § 1412), not the general venue provision (28 USC § 1404). The Court held that the term “proceedings” in 28 USC § 1412, was not limited to “core” proceedings, but was broad enough to include class action consumer fraud claims over which court exercised only “related to” jurisdiction.
In re American Tissue, Inc., (2005 WL 2574014) (Bankr. D. Del., 9/27/05): A claims agent hired on a contingency basis to assist in preparation of antitrust claims filings did not qualify as a “professional” whose employment had to be approved by the court as its work did not require “specialized knowledge or skill and was not work which the trustee, if so inclined, could have performed without the company’s assistance.” The claims agent, therefore, was entitled to recover its one-third contingent fee that trustee had agreed to pay it as an actual and necessary cost of preserving the estate without the need for prior Court approval.
In re XO Communications, Inc., (2005 WL 2319155) (Bankr. S.D.N.Y., 9/23/05): The issue before the Court was whether a federal securities action pursuant to Section 16(b) of the Securities Exchange Act of 1934 to obtain disgorgement of short-swing insider trading profits for the benefit of the reorganized debtor is subject to (1) the release, discharge, and injunction provisions of the debtor’s plan of reorganization, (2) the plan’s confirmation order, (3) a stipulated settlement entered in a state court shareholder class action, (4) a state court final order and judgment approving such stipulated settlement, or (5) the Court’s order approving such stipulated settlement, and if the section 16(b) action is subject to any of the foregoing, whether the action is thereby precluded or barred.
In a lengthy, methodical opinion that carefully dissected each separate potential source of release, Judge Arthur Gonzalez ruled that plaintiff’s section 16(b) action is not subject to, or precluded or barred by, any of the foregoing. Surely this result came as a huge shock to the insiders subject to short-swing profit liability, and is a good lesson to practitioners on how careful one must be to specify the actions that are being released in a plan or settlement> Lawyers who assume that “catch-all” provisions of reorganization plans and settlement agreements will encompass actions that are within the contemplation of the parties, but not specifically disclosed, do so at their peril.
© Steve Jakubowski 2005