In a 21 page opinion (the “Opinion”) released February 20, 2015, in the Trump Entertainment Resorts, Inc bankruptcy (Case No. 14-12103), Judge Gross, granted the motion of Trump AC Casino Marks, LLC (“Trump AC”) to modify the automatic stay to allow litigation to proceed, which could result in termination of their license with the Debtors.  The Opinion is available here.  Seeking relief from the automatic stay is a topic which frequently appears on this blog.  A couple of posts written by my colleagues that summarize the law are here:

Seeking Relief from the Automatic Stay in Delaware

How does the “automatic stay” of the bankruptcy code apply to landlords?

Background

The Debtors used the Trump name pursuant to a license agreement with Trump AC, and their use required them to comply with certain “standards of quality”.  Opinion at *3.   On August 4, 2014, Trump AC initiated a state court lawsuit seeking to terminate the trademark license for failing to meet the standards of quality.  Opinion at *5.  On September 9, 2014, the Debtors filed for bankruptcy protection, which had the effect of stopping the state court litigation pursuant to the automatic stay of bankruptcy.  The Debtors current plan is for the equity holders of the Debtor to be wiped out, and for current debt-holders to assume all of the equity of the reorganized company, including assumption of the trademark license.  Opinion at *6.

The Opinion

While the analysis is extensive, and I encourage all readers of this blog to review it for themselves, it boils down to one simple concept: Agreements not assignable absent consent under non-bankruptcy law are not assignable under the Bankruptcy Code.  Opinion at *2.  As explained by Judge Gross, “the substantial weight of authority holds that under federal trademark law, trademark licenses are not assignable in the absence of some express authorization from the licensor…”  Opinion at *12.

Judge Gross also cites extensively to In re West Elecs. Inc., 852 F.2d 79 (3d Cir. 1988) in the Opinion.  West is the leading case law in the Third Circuit regarding the assumption of executory contracts and the limitations of such assumption provided by Bankruptcy Code § 365(c)(1).  In fact, the West opinion goes one step beyond just the prohibition of assignment of an unassignable contract, providing that a debtor cannot even assume a contract which cannot be assigned under applicable law.  Opinion at *10 (citing In re Catapult Entm’t, Inc., 165 F.3d 747, 750 (9th Cir. 1999).

Holders of executory contracts need to closely examine whether it is in their interest to allow an assignment of their contract, and whether such an assignment is allowed under applicable non-bankruptcy law.  If it is not, and if they don’t want the agreement assumed, they need to make absolutely clear that they do not consent to an assumption or assignment.  The best way to make that clear — file a motion for relief from stay to terminate the contract.  Opinion at * 15 (“Trump AC clearly does not consent to the assumption or assignment of the Trademark License Agreement, as is evident from its filing of the Stay Motion.”).

Summary

When a company files for bankruptcy, they gain a number of protections under federal law.  One of these protections is the “automatic stay” provided by 11 U.S.C. § 362. The automatic stay makes it illegal to continue prosecuting, or to initiate, an action against the debtor who is in bankruptcy.  Even if that debtor has injured you, it means that you cannot try to recover from them without getting the automatic stay lifted.  As more large bankruptcy cases are filed in Delaware, it becomes increasingly important that persons injured by debtors understand the legal hoops that they have to jump through in order to recover for their injuries.

To aid in discussing this matter, imagine a situation in which a person (the “Injured”) is injured when hit by a truck belonging to the company (the “Debtor”).  The Injured files a lawsuit in state court to recover and the Debtor files for bankruptcy protection in Bankruptcy Court for the District of Delaware (“DE Bankruptcy Court”).  The last important assumption is that the Debtor, like most large companies, has insurance that can compensate the Injured.  While many of the principles of this post will apply in other courts, it will be discussed specifically in the context of this purely hypothetical situation.

The Automatic Stay

11 U.S.C. § 362 (“Section 362”) provides that, with limited exceptions, when the Debtor files for bankruptcy, a stay is placed on actions that could otherwise be brought against it.  Section 362 includes prohibitions against nearly any legal action that could be brought against the Debtor in any court other than the DE Bankruptcy Court.  While there are exceptions, they are very specific and beyond the scope of this post.  Rather, this post will focus on what a person who was injured by a Debtor should do in order to obtain a recovery.

The specific provisions of Section 362(a) which relate to our example are as follows:
“[A] petition filed under … this title … operates as a stay … of –
(1) the commencement or continuation  … of a judicial, administrative, or other action or proceeding against the debtor that was or could have been commenced before the commencement of the case under this title, or to recover a claim against the debtor that arose before the commencement of the case under this title;
(3) any act to obtain possession of property of the estate or of property from the estate or to exercise control over property of the estate;

Thus, the Injured will find it very difficult to recover, since they are prohibited from bringing a new lawsuit against the Debtor or continuing to prosecute the lawsuit that has already begun.  In some instances, a Debtor will declare bankruptcy days before a trial is scheduled to begin, freezing any litigation against it.  While this is certainly frustrating for the Injured, there is a path to obtain recovery.

Relief from the Automatic Stay

In order to resume an existing lawsuit against the Debtor, or start a new lawsuit against the Debtor, the Injured must obtain relief from the automatic stay.  This requires the Injured to file a motion for relief from stay and the judge presiding over the bankruptcy to grant the motion.

The relevant language from the Bankruptcy Code is found in Section 362(d), which provides in pertinent part as follows:
(d) On request of a party in interest and after notice and a hearing, the court shall grant relief from the stay provided under subsection (a) of this section, such as by terminating, annulling, modifying or conditioning such stay –
(1) for cause, including the lack of adequate protection of an interest in property of such party in interest.

Thus, the DE Bankruptcy Court is required to determine if there is “cause” to lift the stay.  In making that determination, the DE Bankruptcy Court follows the analysis of the case Izzarelli v. Rexene Prods. Co. (In re Rexene Prods. Co.), 141 B.R. 574, 577 (Bankr. D. Del. 1992).  The DE Bankruptcy Court places the initial burden on the Injured to establish that cause exists, and allows the Debtor an opportunity to rebut the Injured’s argument.

In the Rexene opinion, the DE Bankruptcy Court cites to the legislative history of Section 362 in its holding that ‘It will often be more appropriate to permit proceedings to continue in their place of origin, when no great prejudice to the bankruptcy estate would result, in order to leave the parties to their chosen forum and to relieve the bankruptcy court from any duties that may be handled elsewhere.’  Rexene Prods., 141 B.R. at 576 (quoting H.R. Rep. No. 95-595, 95th Cong., 1st Sess., 343-344 (1977)).

The DE Bankruptcy Court has adopted a three-prong analysis to determine whether there is cause to grant relief from the automatic stay.  The court determines whether (i) any great prejudice to either the bankruptcy estate or the Debtor will result from continuation of the civil suit; (ii) the hardship to the Injured by maintenance of the stay considerably outweighs the hardship to the Debtor; and (iii) the Injured has a probability of prevailing on the merits.

A bankruptcy estate generally is not considered to have an interest in proceeds of liability insurance policies.  Consequently, the DE Bankruptcy Court typically holds that a Debtor does not suffer prejudice or hardship if the Injured obtains stay relief to liquidate claims that are covered by such proceeds.

With respect to the third prong of the analysis regarding cause, the DE Bankruptcy Court held in Rexene that the required showing is very slight.  The threshold for this third prong is even easier to meet where a movant’s claim would be covered by non-debtor sources. In cases following Rexene, the DE Bankruptcy Court has stated that under such circumstances, a bankruptcy court should not examine the merits of the movant’s claims. Rather, “all that is required is that the movant make more than a ‘vague initial showing’ that he can establish a prima facie case. In a case, [sic] such as this one where the claimant seeks only to liquidate its claims as a predicate to recovering against insurance and other non-debtor sources, to require a merits analysis would defeat the objective of economizing judicial resources and would frustrate the effort to resolve relief from stay motions expeditiously.” Santa Fe Minerals v. BEPCO. L.P. (In re 15375 Memorial Corp.), 382 B.R. 652, 691 (Bankr. D. Del. 2008).

In deciding whether to lift the automatic stay, the Delaware Bankruptcy Court has also considered general policies, including: 1) whether relief would result in a partial or complete resolution of the issues; 2) lack of any connection with or interference with the bankruptcy case; 3) whether the debtor’s insurer has assumed full responsibility for defending it; 4) whether the parties are ready for trial in the other proceeding; and 5) impact of the stay on the parties and the balance of the harms.  While these issues may provide additional support for the motion for relief from stay that the Injured will need to file, the DE Bankruptcy Court will typically consider them within the context of the Rexene analysis, so attorneys for the Injured should always consider the Rexene factors first.

Finally, 28 U.S.C. § 157(b)(5) provides that Personal Injury and Wrongful Death claims shall be tried in the district court.  Thus, even if a bankruptcy court wanted to decide a personal injury matter, such a case cannot be tried in the bankruptcy court.  I have had the opportunity to observe, on multiple occasions, the judges of the Delaware Bankruptcy Court tell debtors’ counsel that they will not decide personal injury matters.  And while past performance is no guarantee of future results, it does provide a level of predictability here in Delaware.

In a 17 page decision entered March 9, 2012, Judge Carey of the Delaware Bankruptcy Court granted a motion for relief from the Bankruptcy Code’s automatic stay to allow an undersecured creditor to exercise its remedies against a debtor’s collateral.  A copy of Judge Carey’s opinion is available here (the “Opinion”).  The Opinion was issued in a case nearly identical to that discussed in this post: Dirt-for-Debt, or Just Dirt: Judge Carey’s Latest Decision in All Land Investments, LLC.

The Debtor is related to that in the Dirt-for-Debt post. The creditor moving for relief from stay is the same.  The experts are the same. Judge Carey’s decision and holdings are the same. If you like the feeling of déjà vu, by all means, read the opinion referenced in the Dirt-for-Debt post and this opinion both.  If you are only going to read one, though, make it the Dirt-for-Debt opinion as Judge Carey provides more information regarding the debtors, and it makes for a better visualization of what happened.

Introduction

As more companies file for bankruptcy, creditors and other interested parties of a debtor must quickly familiarize themselves with the automatic stay.  Section 362(a)(1) of the Bankruptcy Code stays “the commencement or continuation … of a judicial, administrative, or other action or proceeding against the debtor that was or could have been commenced before the commencement” of a bankruptcy proceeding.  Generally speaking, the automatic stay is intended to give the debtor a “breathing spell” from its creditors.  To do so, the stay stops various forms of collection efforts against the debtor.

The automatic stay is not without limitations, however.  In drafting the Bankruptcy Code, Congress carved out exceptions where the automatic stay does not apply.  Further, the Federal Rules of Bankruptcy Procedure provide procedural safeguards for a party seeking relief from the automatic stay.  Given the frequency with which automatic stay issues arise in bankruptcy proceedings, this post is intended to provide a brief summary of the scope of the automatic stay.  Further, the latter part of this post looks at cases frequently cited by parties seeking relief from the automatic stay in the Delaware Bankruptcy Court.

Scope of the Automatic Stay

Section 362(a)(3) of the Bankruptcy Code defines the scope of the automatic stay.  Under this section, the automatic stay bars any “act to obtain possession of property of the estate or of property from the estate or to exercise control over property of the estate.”  In order to have the stay “lifted,”  section 362(d) authorizes a bankruptcy court to “grant relief from the stay provided
under subsection (a) of this section, such as by terminating, annulling, modifying or conditioning such stay …(1.) for cause, including the lack of adequate protection of an interest in property of such party in interest.”

In order to trigger the automatic stay, there must be an act against either the debtor or against property of the debtor or of the estate. The automatic stay does not stay actions taken against non-debtor third parties. The Third Circuit has recognized that although the automatic stay has a broad scope,  the clear language under 362(a) applies only against a debtor.  See McCartney v. Integra Nat’l Bank North, 106 F.3d 506, 509 (3d Cir. 1997).  As a consequence “it is universally acknowledged that an automatic stay of proceedings accorded by § 362 may not be invoked by entities such as sureties, guarantors, co-obligors, or others with a similar legal or factual nexus to the … debtor.”  Id.

Relief from Stay

Under section 362(d)(1) of the Bankruptcy Code, the bankruptcy court “shall” lift the automatic stay for “cause.”  If a creditor seeking relief from the automatic stay makes a prima facie case of “cause” for lifting the stay, the burden going forward shifts to the debtor pursuant to Bankruptcy Code § 362(g). See In re 234-6 West 22nd St. Corp., 214 B.R. 751, 756 (Bankr.S.D.N.Y. 1997).

The Bankruptcy Code does not define “cause.” Instead, whether cause exists to lift the automatic stay should be determined on a case by case basis. See Izzarelli v. Rexene Prod. Co. (In re Rexene Prod. Co.), 141 B.R. 574, 576 (Bankr.D.Del. 1992). See also, In re Texas State Optical, Inc., 188 B.R. 552, 556 (Bankr. E.D.Tex. 1995) (finding that “cause” for modification of the automatic stay is “an intentionally broad and flexible concept that permits … [a] [b]ankruptcy [c]ourt, as a court of equity, to respond to inherently fact-sensitive situations.”) Courts determine what constitutes “cause” based on the totality of the circumstances in each particular case. Baldino v. Wilson (In re Wilson), 116 F.3d 87, 90 (3d Cir. 1997).

In re Rexene provides the “balancing test” to determine whether cause exists to lift the automatic stay. 141 B.R. at 576. Under Rexene, the balancing test looks at three factors to decide whether to lift the automatic stay, including: (a.) whether prejudice will be caused to the estate or the debtor;
(b.) whether hardship to the movant from continuing the stay outweighs any hardship to the debtor; and (c.) whether the movant has a reasonable probability of prevailing on the merits of the suit. Id.

In addition to the factors outlined above, a bankruptcy court may also consider the following general policies when deciding whether to grant a motion to lift the stay. These policies include: (1) whether the court has jurisdiction to hear the underlying claims arising from the underlying action; (2) whether granting movant relief from stay would provide a complete resolution of the issues presented in the underlying action; (3) whether granting the movant relief from the automatic stay would interfere with the debtors’ bankruptcy proceeding; (4) whether the interest of judicial economy and the expeditious and economical resolution of litigation weigh in favor of granting the movant relief from the automatic stay; (5) whether the parties are ready for trial in the underlying action; and, (6) whether the impact the stay has on the movant justifies the relief requested in the motion. In re: SCO Group, Inc., 395 B.R. 852, 857-58 & 859 (Bankr. D. Del. 2007).

Conclusion

Bankruptcy courts consider many factors when deciding whether to lift the automatic stay.  The broad scope of issues that can be considered by the court illustrate the flexibility provided for under the Bankruptcy Code.  Aside from the factors above, the timing of the request to lift the stay (i.e. requesting relief from stay days versus months after the commencement of a bankruptcy proceeding) also plays an important role in whether a court decides to lift the automatic stay.  A future post on this blog will look at recent decisions addressing the automatic stay.

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