IN THE UNITED STATES DISTRICT COURT FOR THE NORTHERN DISTRICT OF ILLINOIS EASTERN DIVISION
December 19, 2011
FIRST PREMIER CAPITAL LLC N/K/A COMMEND CAPITAL, LLC, APPELLANT,
WILLIAM A. BRANDT, JR., ACTING SOLELY UNITED STATES IN HIS CAPACITY AS PLAN ADMINISTRATOR EQUIPMENT ACQUISITION RESOURCES, INC., APPELLEE. IN RE: EQUIPMENT ACQUISITION RESOURCES, INC. DEBTOR.
On appeal from the Bankruptcy Court, for Northern District of Illinois Bankruptcy Case No. 09 B 399937
The opinion of the court was delivered by: Elaine E. Bucklo United States District Judge
MEMORANDUM OPINION AND ORDER
In 2008, Equipment Acquisition Resources, Inc. ("EAR") entered into five equipment leases with Alliance Commercial Capital, Inc. ("Alliance"). Alliance subsequently assigned all of its rights, title and interest in the leases and equipment to Republic Bank of Chicago ("Republic Bank"). In 2009, EAR and Republic Bank entered into agreements to modify each of the leases (the "Lease Modifications"). In the Lease Modifications, EAR agreed to pay approximately $4.6 million due under the leases and the parties agreed that EAR would give Republic Bank a blanket security interest in all of EAR's assets. The parties acknowledge that, despite this agreement, the Lease Modifications each contained a typographical error which stated that EAR granted Republic Bank, as Assignee, a security interest in Republic Bank's own assets, rather than EAR's assets. In any event, Republic Bank filed UCC financing statements with the Illinois Secretary of State claiming it had a blanket security interest in EAR's assets.
On October 23, 2009, EAR petitioned the bankruptcy court for relief pursuant to Chapter 11 of the Bankruptcy Code.*fn1 William A. Brandt, Jr. ("Brandt") was appointed Plan Administrator. On December 10, 2009, EAR abandoned its assets and the abandoned equipment was subsequently sold at auction. There is currently an action pending in the Circuit Court of Cook County wherein nearly all of EAR's creditors are engaged in a process to divide the sale proceeds among them. First Premier Capital LLC ("First Premier") is one of EAR's creditors and is a party to the Cook County litigation.
On December 20, 2010, EAR filed an adversary action against VonLehman & Company, Inc. ("VonLehman") and Brian Malthouse, EAR's outside auditors, for accounting malpractice/negligence. EAR had previously agreed to settle its claims against VonLehman and Malthouse through a settlement agreement, but the bankruptcy court denied EAR's request to approve the settlement due to the objections of First Premier and other creditors. Republic Bank had also filed a lawsuit against VonLehman based on representations made by VonLehman to Republic Bank.
On January 7, 2011, EAR filed an adversary proceeding against Republic Bank seeking the avoidance and recovery of an alleged fraudulent transfer, a declaratory judgment rejecting Republic Bank's assertion of a lien over EAR's assets and an injunction against Republic Bank's prosecution of its lawsuit against VonLehman. Brandt subsequently filed an amended complaint, and Republic Bank moved to dismiss all counts of EAR's amended adversary complaint.
On May 25, 2011, Brandt filed a motion to approve a settlement between Republic Bank and the bankruptcy estate. The Settlement Agreement provided that (1) EAR and Republic Bank will continue to prosecute their respective lawsuits against VonLehman but will cooperate with one another in the prosecution; (2) the proceeds of either of those lawsuits (the "VL Proceeds") will be divided up between EAR and Republic Bank; (3) Brandt has no objection to the allowance of Republic Bank's filed Proof of Claim, but Republic Bank waives its claim to post-petition interest and attorney's fees; and (4) the language of the Lease Modifications will be corrected to reflect that EAR granted Republic Bank a blanket lien on EAR's assets, subject to a "Lien Carve-Out." The parties further agreed that the "Lien Carve-Out includes, but is not limited to, any and all claims which EAR and/or Brandt have against (i) the United States of America, Internal Revenue Service; (ii) Rio Properties, Inc., Harrah's Entertainment, Inc., Luxor Hotel and Casino, and Wynn Las Vegas LLC or any other casinos; (iii) governmental or other entities which received restitution payments; and (iv) FTI Consulting Inc." ROA 2-19, p. 8.
First Premier filed objections to the motion to approve the settlement. On July 12, 2011, the Bankruptcy Court granted Brandt's motion over First Premier's objections.
First Premier now appeals the bankruptcy court's decision to grant the motion to approve the settlement. The first issue I must address is the proper standard of review I must employ. Brandt and Republic Bank assert that the applicable standard of review is abuse of discretion. In re Doctors Hospital of Hyde Park, 474 F.3d 421, 426 (7th Cir. 2007) (a bankruptcy court's approval of a settlement is reviewed "deferentially, for abuse of discretion"). Under this type of review, factual findings are reviewed for clear error and legal conclusions are reviewed de novo. Id. Conversely, although acknowledging that this is, in fact, an appeal from the approval of a settlement, First Premier argues that a de novo standard is appropriate here. In a rather creative argument, First Premier argues that the bankruptcy judge, in approving the settlement, effectively awarded Republic Bank an allowed secured claim. Thus, according to First Premier's logic, this appeal actually flows from the bankruptcy court's denial of First Premier's objection to Republic Bank's claim under Federal Rule of Bankruptcy Procedure 3007(a).
Despite First Premier's attempt at artful advocacy, I do not agree that this action is an appeal from the denial of a claim objection. First Premier could have filed on objection to Republic Bank's claim, but chose not to. As discussed more fully below, I reject First Premier's assertion that the bankruptcy judge "allowed a secured claim," as the record reflects that the judge did not rule on any legal issues relating to the reformation of the Lease Modifications. Instead, he properly ruled on a motion to approve a settlement. Thus, this appeal cannot be characterized as an objection to a "claim." Because this is an appeal of the bankruptcy court's approval of a settlement, the applicable standard of review is abuse of discretion. Doctors Hospital, 474 F.3d at 426. An abuse of discretion occurs when a court's decision "is premised on an incorrect legal principle or a clearly erroneous factual finding, or when the record contains no evidence on which the court rationally could have relied." In re Airadigm Comm., Inc., 616 F.3d 642, 652 (7th Cir. 2010).
The paramount question in approving a bankruptcy settlement is whether the compromise is in the best interests of the estate. Doctors Hospital, 474 F.3d at 426. "The linchpin of the 'best interests of the estate' test is a comparison of the value of the settlement with the probable costs and benefits of litigating." Id. (citing In re Energy Coop., 886 F.2d 921, 927-29 (7th Cir. 1989)). Factors that the court should consider are the litigation's probability of success, complexity, expense, inconvenience, and delay, "including the possibility that disapproving the settlement will cause wasting of assets." Id. (quoting In re Am. Reserve, 841 F.2d 159, 161 (7th Cir. 1987)). "As part of this test, the value of the settlement must be reasonably equivalent to the value of the claims surrendered. This reasonable equivalence standard is met if the settlement falls within the reasonable range of possible litigation outcomes." Id. In conducting such an analysis, "a precise determination of likely outcomes is not required, since 'an exact judicial determination of the values in issue would defeat the purpose of compromising the claim.'" In re Telesphere Communications, Inc., 179 B.R. 544, 553 (Bankr. N.D. Ill. 1994) (quoting In re Energy Coop., 886 F.2d at 927). Further, when the bankruptcy court has a thorough understanding of the case, reviewing courts should show deference. "If the decision demonstrates a command of the case, we will not engage in second-guessing; the bankruptcy court is in a better position to 'consider the equities and reasonableness of a particular compromise.'" Doctors Hospital, 474 F.3d at 426 (quoting In re Am. Reserve, 841 F.2d at 162).
First Premier argues that the bankruptcy court "erred by purporting to refuse to rule on the question of law of whether the Modification Agreements could be reformed." Appellant's Br. at 23. First Premier acknowledges that the bankruptcy judge maintained that he was not conclusively ruling on the issue of whether the Lease Modifications could be reformed, but instead concluded that reformation was "possible." The bankruptcy judge stated:
The objections raised . . . are predicated on essentially reducing Republic Bank's claim to virtually completely unsecured status. That appears to be less than likely.
I do think reformation would be possible. And, in fact, that was one of the things, I think, sought from the pleadings in the case under the Illinois law cited by the bank and the administrator, which I have considered.
So it's my view that there would be a likely successful resolution of that, after trial, if I were required to sit through all the evidence of what I know at this point in time because of what Mr. Darcy [on behalf of First Premier] has candidly indicated was a mistake in one paragraph of the lease amendments[.]
ROA 2-23, p. 18. The judge went on to make clear that he was not, in fact, making a legal ruling on the issue of reformation: "Since it is without prejudice to any of the contentions the parties may raise in other litigation in other fora in which the state or some other court may take a different view whether or not the amendments could be appropriately reformed. . . . I'm not making any final determination in that regard." ROA 2-23, p. 20. Despite the judge's statement, First Premier argues that the court's "granting of the Settlement Motion and approval of the settlement agreement's terms -- which allowed for the reformation of the Modification Agreements, thereby giving Republic [Bank] an allowed secured claim -- clearly belie that contention." First Premier Appellant's Br. at 24.
I do not agree that the bankruptcy court erred in "purporting to refuse to rule" on the legal issue of the reformation of the Lease Modifications. To the contrary, in determining whether a settlement is in the best interest of the estate, "a precise determination of likely outcomes is not required, since 'an exact judicial determination of the values in issue would defeat the purpose of compromising the claim.'" In re Telesphere Communications, Inc., 179 B.R. at 553 (quoting In re Energy Coop., 886 F.2d at 927). Thus, the court was under no obligation to issue a definitive legal ruling on the reformation question. Rather, in determining the risk of an adverse outcome for the estate in the lawsuit with Republic Bank, he considered the case law cited by the parties, including case law from Illinois which supported the notion that reformation was possible in the event of a scrivener's error or mutual mistake. Against this, First Premier offered multiple cases (all of which were distinguishable in some way from the present case) which it claimed supported the notion that an inadvertent error in a security agreement prevents the security interest from attaching to the collateral. In considering whether the settlement was in the best interest of the estate, and with these two competing sets of authorities in mind, the bankruptcy court concluded that reformation was at least a "possible" outcome, thus indicating that the outcome of any litigation was uncertain. Keeping in mind that the judge was not required to -- and, indeed, did not -- make a "precise determination" concerning the issue, I see no error in the judge's statements regarding reformation.
Nor am I convinced that the judge's conclusion that reformation was
"possible" is directly foreclosed by Martin Grinding.*fn2
In Martin Grinding, the bank loaned the debtor funds in
exchange for the debtor's grant of a security interest in the debtor's
machinery, equipment, furniture, fixtures, inventory and accounts
receivable. 793 F.2d at 593. The security agreement, however,
inadvertently omitted inventory and accounts receivable from its
description of the secured collateral. In addition to the security
agreement, the debtor executed other loan documents which included
inventory and accounts receivable as secured property. The Seventh
Circuit held that the narrower security agreement
controlled. The court noted that a subsequent creditor that is
considering extending credit to a debtor needs to rely on the public
documents reflecting any security interests.
While Martin Grinding certainly supports First Premier's argument against reformation, it is not identical to this case, and therefore certain of its characteristics make it distinguishable. In his oral ruling, the bankruptcy judge distinguished this case from Martin Grinding by noting that this case did not involve an omission of a class or category or collateral. Martin Grinding involved the omission of certain assets in a security agreement, and did not address whether a lease could be reformed. Addressing a point made in Martin Grinding that creditors need to be able to rely on statements made in public documents, the bankruptcy judge pointed out that the public statements filed by Republic Bank reflected the fact that Republic Bank had a blanket security interest in EAR,*fn3 thus reducing the potential that any creditor of EAR's would get duped. Granted, some of these differences are minor but they do support the notion that a reasonable jurist could consider Martin Grinding and not be 100 percent convinced that Republic Bank would lose, especially when that jurist was not tasked with making a definitive legal conclusion on the issue. In light of these differences, and in light of the fact that the judge also considered Illinois law which allowed for the reformation of contracts where there was "mutual mistake," I conclude that the bankruptcy judge did not err in concluding that the outcome of the litigation was uncertain and that reformation was at least a "possible" outcome if the matter proceeded to litigation.*fn4
In granting the motion approving the settlement, the bankruptcy judge considered the factors deemed important by the Seventh Circuit, including the litigation's probability of success, expense and delay, and the possibility that disapproving the settlement will cause wasting of assets. The bankruptcy judge, having presided over the case, was in an excellent position to consider the relevant factors in determining that the settlement was in the best interest of the estate. The judge was very familiar with EAR, the reasons it filed for bankruptcy and all possible litigation recoveries. The oral ruling given by the judge demonstrated his understanding of the case. In particular, the judge recognized the importance of the lien carve-out on recoveries. With the lien carve-out, the estate would be allowed to keep any recoveries from its suits against the IRS, four casinos, and FTI for the benefit of the creditors. Further, the judge demonstrated that he understood how the sharing agreement between Brandt and Republic Bank relating to the VL Proceeds would benefit the estate. The judge made clear that it was concerned that fighting over adversary cases could deplete the estate entirely. The judge also made clear that the settlement would relieve the estate of the substantial costs which would have been incurred in litigation against Republic Bank. He also noted that any dispute with Republic Bank would undoubtedly be heated, costly and protracted. In addition, the judge considered the possible litigation outcomes and concluded that settlement was appropriate. In light of the above, I reject First Premier's assertion that there was no support in the record for the judge's decision.
While Premier Capital did not specifically address this issue, the settlement is also within the range of outcomes. The law is clear that only if a settlement "falls below the low end of possible litigation outcomes will it fail the reasonable equivalence standard." Doctors Hospital, 474 F.3d at 426. Under this test, the settlement is within the range of possible outcomes. In the end, the benefits to the estate were substantial. While the estate gave up its $4.6 million fraudulent transfer claim against Republic Bank, the lien carve-out has resulted in an additional $3.2 million for the estate and the estate also has a judgment against the United States Internal Revenue Service for an additional $871,608.00. In addition, Brandt has filed approximately sixty new lawsuits which have potential recoveries in the millions of dollars. The collections from those lawsuits, pursuant to the settlement, would directly benefit the estate. In addition, the estate will share in any recoveries by Republic Bank against VonLehman. This is significant for the estate because Republic Bank's lawsuit against VonLehman was filed first and VonLehman has a "wasting insurance policy." Thus the settlement makes it much more likely that the estate will share in any recoveries from VonLehman. With respect to the reformation issue, the estate did not lose any value in agreeing to amend the Lease Modifications, as it had already abandoned its assets. Finally, while not given a value by the bankruptcy judge, the estate benefitted greatly by avoiding the time, effort and expense of protracted litigation against Republic Bank.*fn5
In conclusion, the decision of the bankruptcy court to grant Brandt's motion to approve the settlement is affirmed.