On August 18, 2015, Judge Laurie Selber Silverstein of the Delaware Bankruptcy Court issued her first written opinion in the bankruptcy case Scarborough-St. James Corporation.  In her 17 page opinion, Judge Silverstein addressed a long-running dispute between a landlord and the debtor.

Neither the Landlord nor the Debtor were original parties to the lease agreement.  However, since they had both assumed their respective positions, they had engaged in extensive litigation concerning the payment of rent.  The parties had eventually engaged in arbitration, as required by their contract.  Following a lengthy arbitration process, in which the arbitrator issued both an initial ruling and a final award, the litigation between the parties continued.  The arbitration award was challenged in the New York state courts; the Landlord sought to evict the Debtor and collect on rent due through litigation in Michigan; and ultimately, the Debtor filed for bankruptcy in the Delaware Bankruptcy Court.  The Debtor listed total debts of $740,323.18, $720,204.80 of which is the Landlord’s claim.  Opinion at *8.

The standard arguments were made under Rexene, as that is the controlling precedent for lift-stay motions.  The Rexene opinion has been discussed multiple times in this blog – click here to see prior posts related to Rexene.

Ultimately, as the Debtor had not been highly engaged in the bankruptcy process and there had already been extensive litigation prior to the bankruptcy filing, Judge Silverstein held that the Debtor would not suffer great prejudice if the stay was lifted.  Opinion at *10.  Judge Silverstein also held that all of the other Rexene factors weighed against the Debtor.  Opinion at *11-13.  Additionally, Judge Silverstein held that the injunction previously entered by the Michigan State Court, which severely limited the Debtor’s ability to use rents, acted as adequate protection of the Landlord’s interests and so declined to grant the Landlord’s motion for additional adequate protection.  Opinion at *6 & 16.

My $.02

One of the Debtor’s arguments against the motion for relief from stay is that it would distract the Debtor’s principals, harming their reorganization efforts.  To this Judge Silverstein responded, “based on the docket to date, the Court concludes that continuation of the Michigan Litigation will in no way impact the administration of the estate…. in the five months since this case was commenced, Debtor has not sought assistance from this Court in administering these cases.”  If you are going to argue that the bankruptcy case is distracting your principals, you need to, at a minimum, be pursuing your bankruptcy.

Judge Silverstein’s first published decision may not be groundbreaking, but it does not contain any surprises and upholds the Delaware Bankruptcy Court’s reputation for publishing well reasoned decisions.  I’m sure all the members of the bar join me in wishing the best for Judge Silverstein as she rules on the matters before her.

KB Toys filed for chapter 11 bankruptcy protection this morning in the United States Bankruptcy Court, District of Delaware (read the KB Toys Bankruptcy Petition here).  According to its affidavit in support of its bankruptcy motions,  KB operates 277 shores in shopping malls, 40 stores in strip malls and 114 outlet stores (read the KB Affidavit in Support of bankruptcy motions here).  KB lists its annual sales at $480 million.

KB previously filed for bankruptcy in 2004.  During its 2004 bankruptcy, it reduced the number of stores from 1,200 to 650.  I suspect you will see similar store-closings in this bankruptcy.  Whether KB rejects store leases, or assumes the leases,  landlords need to pay close attention to this bankruptcy.  Attached is a link to a previous post I prepared titled "Ten Things Every Commercial Landlord Should Know About a Tenant in Bankruptcy."  This link provides a brief summary of some of the issues landlords should consider when a commercial tenant such as KB files for bankruptcy.

As the economy fluctuates, tenant bankruptcies become a greater risk for commercial landlords. Yet some landlords are not familiar with the rights provided to them under the Bankruptcy Code, nor are they aware of the protections provided to a tenant in bankruptcy. For example, certain lease provisions are unenforceable once a tenant files for bankruptcy. Should a landlord attempt to exercise its rights under the lease without first seeking approval from the bankruptcy court, the landlord may be subject to strong sanctions. The purpose of this article is to provide landlords with the questions and answers they should consider when a commercial tenant files for bankruptcy.

1. What effect does a tenant’s bankruptcy have on the lease?

Once a tenant files for bankruptcy, it has three options regarding the lease: it can assume the lease and continue performing all obligations, or assume and assign the lease to a third party, or reject the lease and surrender the premises and terminate performance. The Bankruptcy Code gives the debtor-tenant 120 days to decide whether to assume or reject the lease. During this period, the tenant can request one 90 day extension to decide what to do with the lease.

If the debtor-tenant fails to assume or reject the lease within the 120 day period, and no extension is granted, the lease is deemed rejected. This is a significant provision for landlords. To be proactive, landlords should review all pleadings filed in the tenant’s bankruptcy proceeding to see if the debtor-tenant sought an extension of time to assume or reject. Additionally, landlords should review the tenant’s motions to assume, motions to assume and assign, as well as motions to reject leases. The exhibits to these motions often contain schedules identifying the leases affected by the motion.

2. How does the “automatic stay” of the Bankruptcy Code apply to landlords?

The automatic stay is one of the most powerful protections provided to debtors in a bankruptcy proceeding. The stay acts as an injunction that prohibits creditors (including landlords) from commencing or continuing any proceeding against the debtor which could have been commenced prior to the bankruptcy. Before a landlord seeks to enforce its rights under the lease (such as through eviction, termination or foreclosure), the landlord should seek “relief” from the automatic stay by filing a motion with the bankruptcy court.

It is important for landlords to realize that the automatic stay becomes effective without notice or a hearing. Were a landlord to be found in violation of the automatic stay, the debtor-tenant may be able to recover actual damages from the landlord, including attorneys’ fees. If the violation is found to be intentional, the debtor-tenant may recover punitive damages.

Continue Reading Ten Things Every Commercial Landlord Should Know About a Tenant in Bankruptcy