FILED OCT 15 2014 1 NOT FOR PUBLICATION 2 SUSAN M. SPRAUL, CLERK U.S. BKCY. APP. PANEL OF THE NINTH CIRCUIT 3 UNITED STATES BANKRUPTCY APPELLATE PANEL 4 OF THE NINTH CIRCUIT 5 In re: ) BAP Nos. CC-14-1102-DTaSp ) CC-14-1103-DTaSp 6 MORRY WAKSBERG, M.D., ) (Related Appeals) MORRY WAKSBERG, M.D., INC., ) 7 ) Bk. Nos. 06-16096-BB Debtors. ) 06-16101-BB 8 ______________________________) ) 9 THE BANKRUPTCY LAW FIRM, PC, ) ) 10 Appellant, ) ) 11 v. ) M E M O R A N D U M1 ) 12 ALFRED H. SIEGEL, Chapter 7 ) Trustee; MORRY WAKSBERG, MD; ) 13 IDA WAKSBERG, ) ) 14 Appellees. ) ______________________________) 15 Argued and Submitted on September 18, 2014 16 at Pasadena, California 17 Filed - October 15, 2014 18 Appeals from the United States Bankruptcy Court for the Central District of California 19 Honorable Sheri Bluebond, Bankruptcy Judge, Presiding 20 21 Appearances: Kathleen P. March of The Bankruptcy Law Firm, P.C., argued for Appellant The Bankruptcy Law 22 Firm, P.C.; Byron Moldo of Ervin, Cohen & Jessup LLP and Daniel A. Lev of SulmeyerKupetz, APC 23 argued for Appellee Alfred H. Siegel, Chapter 7 Trustee. 24 25 26 1 This disposition is not appropriate for publication. 27 Although it may be cited for whatever persuasive value it may have (see Fed. R. App. P. 32.1), it has no precedential value. 28 See 9th Cir. BAP Rule 8013-1. 1 Before: DUNN, TAYLOR, and SPRAKER,2 Bankruptcy Judges. 2 3 Years after the related chapter 113 cases of an 4 ophthalmologist, Morry Waksberg, M.D., and his corporation, Morry 5 Waksberg, M.D., Inc. ("Corporation"), were converted to 6 chapter 7, the bankruptcy court approved the chapter 7 trustee's 7 motion to consolidate the cases for distribution purposes. The 8 bankruptcy court also approved a settlement which allowed, inter 9 alia, substantial personal exemptions to Dr. Waksberg that he 10 first claimed more than two years after filing his personal 11 bankruptcy case. But for the consolidation, Dr. Waksberg’s 12 personal case apparently would not have sufficient funds to 13 implement the settlement and pay his allowed personal exemptions. 14 The approval of consolidation and the settlement together would 15 deplete the funds of the Corporation's case, such that Appellant, 16 the holder of an unpaid chapter 11 administrative claim in the 17 Corporation's case, no longer would be paid its approved fees in 18 full.4 Hence, these appeals. We AFFIRM the bankruptcy court’s 19 order (“Compromise Order”) approving the settlement, as amply 20 supported by the record before us. However, we VACATE the order 21 22 2 The Honorable Gary A. Spraker, Chief Bankruptcy Judge 23 for the District of Alaska, sitting by designation. 24 3 Unless otherwise indicated, all chapter and section 25 references are to the federal Bankruptcy Code, 11 U.S.C. §§ 101-1532, and all “Rule” references are to the Federal Rules 26 of Bankruptcy Procedure, Rules 1001-9037. 27 4 We granted a stay to preserve the status quo pending 28 disposition of the related appeals.
-2- 1 granting substantive consolidation, as inconsistent with the 2 standard adopted by the Ninth Circuit in Alexander v. Compton 3 (In re Bonham), 229 F.3d 750 (9th Cir. 2000), in the face of 4 substantial opposition from an interested party, and REMAND to 5 the bankruptcy court for further proceedings. 6 I. FACTUAL BACKGROUND 7 The appeals pending before the Panel have their genesis in 8 disputes that arose more than 20 years ago.5 In 2005, 9 Dr. Waksberg and the Corporation entered into a settlement 10 agreement ("Transamerica Settlement Agreement") with Transamerica 11 Insurance Company ("Transamerica"). The Transamerica Settlement 12 Agreement resolved litigation which Dr. Waksberg and the 13 Corporation had filed in 1992 against Transamerica, alleging 14 claims for defamation. The settlement with Transamerica was in 15 the amount of $11 million. Dr. Waksberg and the Corporation also 16 settled litigation pending against the law firm of Skadden, Arps, 17 Slate, Meagher & Flom, LLP ("Skadden Arps Settlement") for the 18 amount of $2.6 million.6 19 20 5 One piece of the litigation is the subject of a DC Circuit Court of Appeals decision in 1997; this decision 21 contains background facts relating to the underlying dispute only 22 tangentially relevant to this disposition. See United States v. Waksberg, 112 F.3d 1225 (D.C. Cir. 1997). In essence, it appears 23 that Dr. Waksberg’s patients were improperly informed in the mid- 24 to late 1980s that he no longer could participate in the Medicare reimbursement program. Transamerica was the federal government’s 25 agent at the time. 26 6 Dr. Waksberg and the Corporation filed a state court 27 action against Skadden Arps, previously their counsel in the Transamerica litigation, seeking damages for legal malpractice, 28 continue...
-3- 1 On November 21, 2006, Dr. Waksberg and the Corporation each 2 filed voluntary petitions for relief under Chapter 11 of the 3 Bankruptcy Code. The cases were converted from chapter 11 to 4 chapter 7 on May 24, 2007. Alfred H. Siegel (“Trustee”) was 5 appointed trustee in both chapter 7 cases. Funds from the 6 Transamerica Settlement7 and the Skadden Arps Settlement8 7 constitute essentially all of the assets of the bankruptcy 8 estates. 9 1. Allocation of the Settlement Proceeds Pursuant to the Settlement Agreements 10 11 Paragraph 6.a. of the Transamerica Settlement Agreement 12 provides: 13 In full settlement of all claims covered herein, and subject to all other terms of this Agreement, 14 Transamerica agrees to pay plaintiffs the amount of Eleven Million Dollars and No Cents ($11,000,000.00). 15 The total consideration of eleven million dollars ($11,000,000.00) shall be promptly paid and disbursed 16 by Transamerica, in the form of seven separate checks (or six separate checks and one wire transfer) as 17 18 6 ...continue 19 breach of fiduciary duty, fraud and deceit, nondisclosure, breach of contract, conversion, replevin, injunction, invasion of 20 privacy, constructive trust, equitable accounting, and unjust 21 enrichment. 7 22 On November 1, 2006, the remaining proceeds of the Transamerica Settlement Agreement (then in the amount of 23 $9,450,000 plus accrued interest) were interpleaded by 24 Transamerica into the California state court ("Interpleader Action") in light of the numerous lien claims being asserted by 25 professionals in the litigation. Dr. Waksberg appears to have had a volatile relationship with a series of attorneys. 26 8 27 In 2006, approximately $1 million was turned over to the law firm of Hoge, Fenton, Jones & Appel, Inc., and thereafter 28 turned over to the Trustee in June of 2007.
-4- 1 provided herein. 2 Paragraph 7 of the Transamerica Settlement Agreement sets 3 forth the specifics of how the six checks were to be issued: 4 - $600,000 payable to the Corporation as compensation for lost earnings (corporate earnings for medical fees 5 not earned) 6 - $2,280,000 payable to the Corporation as compensation for lost earnings (corporate earnings for medical fees 7 not earned) 8 - $2,750,000 payable to the Corporation as compensation for loss of corporate medical practice and related 9 corporate Goodwill 10 - $1 million payable to Dr. Waksberg as compensation for personal injuries which had a physical 11 manifestation 12 - $3 million payable to Dr. Waksberg as compensation for loss of personal name and reputation (Goodwill) in 13 medical and related fields of business 14 - $420,000 payable to the Corporation as compensation for lost earnings (corporate earnings for medical fees 15 not earned) 16 Finally, paragraph 6.c. of the Transamerica Settlement 17 Agreement provides for the payment of $950,000 to the 18 Corporation, either by check or by wire transfer, as compensation 19 for lost earnings (corporate earnings for medical fees not 20 earned). 21 It appears that similar allocations between Dr. Waksberg and 22 the Corporation were made in the Skadden Arps Settlement 23 Agreement. "The amount of $472,727.28 shall be allocated to 24 settlement of claims seeking compensation for personal injuries 25 to [Dr. Waksberg] which had a physical manifestation."9 26 9 27 This quotation was taken from the proposed settlement of the Exemption Objection. No copy of the Skadden Arps 28 continue...
-5- 1 2. The Law Firm's Claim for Unpaid Fees 2 An Official Committee of Unsecured Creditors ("Committee") 3 was appointed in the Corporation's chapter 11 case. An order 4 authorizing the employment of the Bankruptcy Law Firm, PC ("Law 5 Firm"), was entered on May 1, 2007. 6 On September 27, 2007, the bankruptcy court entered an order 7 granting compensation ("Fee Award"), on an interim basis, to the 8 Law Firm in the amount of $69,350.17 in fees and $3,606.40 in 9 expenses for services provided in the Corporation's chapter 11 10 case. The Fee Award thereafter was approved on a final basis by 11 the court's order entered September 23, 2008. The bankruptcy 12 court authorized the payment of 50% of the Fee Award on March 30, 13 2009, from funds being held in the Interpleader Action. It is 14 undisputed that the Law Firm received the 50% payment and that 15 the remaining amount owed is $36,478. 16 3. Dr. Waksberg's Exemption Claims 17 In his personal case, Dr. Waksberg filed his original 18 Schedule B (personal property schedule) on December 21, 2006. He 19 included therein a contingent claim on account of litigation, 20 also identified in Item 4 of his Statement of Financial Affairs. 21 Schedule B stated that the current value of Dr. Waksberg's 22 interest in the litigation was $0.00. As other personal property 23 in which he claimed an interest, Dr. Waksberg included the 24 Transamerica Settlement funds held in the Interpleader Action. 25 Dr. Waksberg asserted the value of his interest in the 26 27 9 ...continue 28 Settlement Agreement is in the record.
-6- 1 Transamerica Settlement proceeds was $3,538,245.60. He also 2 scheduled settlement funds held in a Wells Fargo trust account 3 and asserted the value of his interest in those funds was 4 $437,250.07.10 However, Dr. Waksberg did not claim an exemption 5 in any of the foregoing personal property assets in his 6 Schedule C (property claimed as exempt), also filed on 7 December 21, 2006. Neither did Dr. Waksberg assert an exemption 8 claim in these assets when he amended his Schedules B and C on 9 two occasions: on March 26, 2007 and on May 14, 2007. 10 On November 24, 2008, Dr. Waksberg filed an amended 11 Schedule C in which, for the first time, he claimed an exemption 12 in (a) a personal injury claim, asserting $20,725 as exempt, and 13 (b) loss of future income, asserting $3,600,000 as exempt. 14 Another amended Schedule C was filed on December 3, 2008. It is 15 unclear why this December 3 amendment was made, as it appears to 16 17 10 The Law Firm did not include in the record a copy of 18 the Corporation’s original or amended Schedule B. We have 19 retrieved these documents from the bankruptcy court’s electronic docket and take judicial notice of them. See O’Rourke v. 20 Seaboard Sur. Co. (In re E.R. Fegert, Inc.), 887 F.2d 955, 957-58 (9th Cir. 1988); Atwood v. Chase Manhattan Mortg. Co. 21 (In re Atwood), 293 B.R. 227, 233 n.9 (9th Cir. BAP 2003). 22 The Corporation filed its original Schedule B on December 21, 2006 (docket no. 18). It then filed an amended 23 Schedule B on March 26, 2007 (docket no. 109) and then another amended Schedule B on May 14, 2007 (docket no. 167). The 24 original and amended B schedules appear to contain the same 25 information. The Corporation listed the proceeds from two cash 26 settlements. One was in the amount of $6,290,214.39, located in 27 the registry of the Los Angeles Superior Court. These settlement proceeds were designated “interplead funds.” The other was in 28 the amount of $765,187.62, located in a Wells Fargo account.
-7- 1 contain identical claims of exemption as the November 28 2 amendment. 3 On December 29, 2008, the Trustee objected to the new claims 4 of exemption ("Exemption Objection"). In the Exemption 5 Objection, the Trustee pointed out that the averments of 6 Dr. Waksberg's complaint against Transamerica alleged conduct by 7 Transamerica which directly interfered with, and damaged, his 8 professional reputation and interfered with prospective business 9 opportunities. The Trustee asserted that such allegations are 10 pecuniary in nature and do not give rise to a personal injury 11 claim. The Trustee further asserted that the late claims of 12 exemption were prejudicial to the creditors of Dr. Waksberg's 13 estate. Although Dr. Waksberg appears to have made a verbal 14 claim to the exemptions beginning from the time when the case 15 converted to chapter 7, he failed to assert the exemption claims 16 formally, notwithstanding the Trustee's ongoing position, 17 communicated to Dr. Waksberg, that no exemption claim was 18 appropriate. In the interim, the Trustee settled virtually all 19 secured claims against the Transamerica funds before Dr. Waksberg 20 claimed exemptions in those funds in his amended schedules. 21 Finally, the Trustee suggested that Dr. Waksberg already had 22 received $1.55 million from the Transamerica settlement funds 23 before the bankruptcy cases were filed. 24 In his opposition filed on February 9, 2009, Dr. Waksberg 25 asserted that the Transamerica Settlement Agreement allocated 26 $1 million for his personal injuries for which there was a 27 physical manifestation, and $3 million for his future earnings. 28 Dr. Waksberg further asserted that the $1.55 million prepetition
-8- 1 distributions were paid to the Corporation, not to him. Finally, 2 he asserted that the Trustee was on notice from the beginning of 3 the chapter 7 case of his claim of exemptions, and that the 4 Trustee failed to articulate how paying the exemptions now rather 5 than at the beginning of the case would cause prejudice to the 6 unsecured creditors, where there was not enough money to pay 7 general unsecured claims in the first instance, citing Arnold v. 8 Gil (In re Arnold), 252 B.R. 778, 787 (9th Cir. BAP 2000). 9 In his reply, the Trustee reiterated that the settlement 10 agreements and underlying complaints show no funds were allocated 11 to Dr. Waksberg for "loss of future earnings"; rather, the 12 allocations were for "loss of personal name and reputation," 13 which did not entitle Dr. Waksberg to claim an exemption based on 14 CCP § 703.140(b)(11)(E), as asserted in the most recent 15 iterations of Dr. Waksberg's Schedule C. 16 4. Ida Waksberg's Claims 17 On March 16, 2007, Ida Waksberg, Dr. Waksberg’s mother, 18 filed proof of claim number 33-1 in the Corporation’s bankruptcy 19 case and claim number 49-1 in Dr. Waksberg’s case (hereinafter 20 jointly the “Ida Claim”). The Ida Claim was filed in the amount 21 of $587,000 plus interest. The Ida Claim represented the amount 22 Ida allegedly loaned to both Dr. Waksberg and the Corporation 23 between 1987 and 2006. The Ida Claim expressly reserved the 24 right to file an amendment, after an accounting had been 25 completed, to allocate the Ida Claim between the two cases. 26 The Ida Claim was filed as secured, and it stated that Ida 27 believed the claim was secured by "certain collateral" to be 28 identified in the amended claim to be filed.
-9- 1 On December 23, 2011, the Trustee filed a motion ("Ida Claim 2 Objection") to disallow Ida's claim in the Corporation's case. 3 In the Ida Claim Objection, the Trustee alleged that Ida's claim 4 constituted a false claim against the Corporation's bankruptcy 5 estate. In the four-and-one-half years since she filed her 6 claim, Ida never amended the claim, nor provided any supporting 7 evidence to substantiate the Corporation's liability, attachment 8 or perfection of her security interest, or the specific amount of 9 her claim. 10 5. The Trustee's Compromise of Dr. Waksberg's Exemption Claims and Ida Waksberg's Claims 11 12 Following numerous continuances, the Exemption Objection 13 finally was scheduled to be heard on March 27, 2014. A 14 settlement was negotiated and documented by an agreement 15 (“Compromise Agreement”). On February 7, 2014, the Trustee filed 16 the motion to approve the Compromise Agreement (“Compromise 17 Motion”) to resolve the Exemption Objection. Although the 18 caption of the Compromise Motion specifically identified only the 19 November 24, 2008 amended Schedule C and the December 3, 2008 20 amended Schedule C as the matters that were being compromised, 21 the body of the Compromise Motion contained the following 22 catch-all: "and all of the claims of [Dr. Waksberg] and Ida 23 Waksberg against the estate, including, but not limited to, the 24 two secured claims filed by Ida Waksberg on March 16, 2007 25 against [Dr. Waksberg and the Corporation's] Estates, each in the 26 amount of $587,000." Through the Compromise Motion, the Trustee 27 proposed to pay Dr. Waksberg and Ida Waksberg, jointly, the total 28
-10- 1 sum of $1.6 million.11 2 Dr. Waksberg contested nearly every action of the Trustee 3 throughout the pendency of the chapter 7 cases. Prior to 4 entering into the Transamerica Settlement Agreement and the 5 Skadden Arps Settlement Agreement, Dr. Waksberg and the 6 Corporation filed malpractice actions against no fewer than three 7 of the law firms that had represented them in the ongoing 8 litigation. After the Trustee was appointed, he negotiated 9 resolutions of these law firms’ competing claims to the 10 settlement proceeds. Dr. Waksberg and the Corporation not only 11 opposed the settlements, but also appealed the orders that 12 approved them. 13 Additionally, many professional applications for 14 compensation were filed and approved in the bankruptcy cases. 15 Again, Dr. Waksberg and the Corporation not only opposed approval 16 of the compensation to these professionals, but also appealed the 17 orders that approved their compensation. 18 In total, Dr. Waksberg filed 13 appeals from bankruptcy 19 court orders to the United States District Court for the Central 20 District of California. Each of those appeals ultimately was 21 dismissed either by the District Court or at Dr. Waksberg's 22 request. 23 After the bankruptcy cases were converted to chapter 7, 24 11 25 Attached as Exhibit A to the Compromise Motion is the Compromise Agreement between Dr. Waksberg and Ida Waksberg on the 26 one hand, and the Trustee (on behalf of both estates) on the 27 other. The Compromise Agreement sets out in detail the significant litigation that had taken place to date in the 28 bankruptcy cases, a brief summary of which we include here.
-11- 1 Dr. Waksberg and the Corporation filed litigation in state court 2 against various professionals, alleging causes of action for 3 fraud, negligence, breach of fiduciary duty, breach of contract, 4 etc. The Trustee removed the state court litigation to the 5 bankruptcy court and ultimately resolved all of the asserted 6 claims. 7 Two efforts were made to resolve globally the Exemption 8 Objection, the Ida Claim and other disputes between Dr. Waksberg 9 and the Trustee through the use of mediation conducted by retired 10 bankruptcy judges. Although the first mediation achieved a 11 resolution, Dr. Waksberg later withdrew his agreement. 12 Ultimately, the Compromise Agreement was finalized and 13 presented to the bankruptcy court for approval.12 14 6. Substantive Consolidation Motion 15 Five days after filing the Compromise Motion, the Trustee 16 filed a motion (“Consolidation Motion”) seeking to consolidate 17 the two bankruptcy estates substantively. The Trustee asserted 18 in the Consolidation Motion that by consolidating the two 19 bankruptcy cases, "any uncertainty regarding allocation of the 20 Transamerica settlement proceeds will be eliminated." Further, 21 the Trustee alleged that the assets and the liabilities of each 22 bankruptcy estate were "virtually identical." 23 In his declaration in support of the Compromise Motion, the 24 12 25 Notably, the Compromise Agreement explicitly provides that, after the compromise is approved, with limited exceptions, 26 Dr. Waksberg and Ida no longer have standing to oppose the 27 Trustee’s actions in the bankruptcy cases. This language is not unlike vexatious litigant orders we have on occasion seen 28 trustees request.
-12- 1 Trustee stated he had determined that the assets of the two 2 debtors were substantially commingled and intertwined. He 3 further stated that between them, the debtors had commingled and 4 transferred funds with no apparent corporate formalities or 5 repayment schedule such that it was impossible to determine 6 whether one debtor might be a creditor of the other. He asserted 7 that the Transamerica settlement proceeds were awarded "jointly 8 and severally" to the two debtors. He emphasized that the 9 related cases "share an unusual element where the majority of 10 their respective Bankruptcy Estates consist of the litigation 11 award recoveries that are joint and several as between the 12 Debtors." 13 The Trustee averred that the schedules and statements of 14 financial affairs in the two cases reflected that the Schedule D 15 and F creditors were "virtually identical." He reported that all 16 of the secured claims of attorneys listed on the D schedules of 17 both cases had been resolved through the entry of court orders, 18 each of which provided for partial payment by the Trustee, with 19 the balance allowed as an unsecured claim in both the individual 20 and corporate cases. 21 To conclude his declaration, the Trustee restated that he 22 had entered a tentative settlement with Dr. Waksberg that would 23 resolve the Exemption Objection, and that granting the 24 Consolidation Motion would eliminate any uncertainty regarding 25 allocation of the Transamerica settlement proceeds. Therefore, 26 approving the Compromise Motion and the Consolidation Motion 27 would facilitate the case closing process. 28
-13- 1 7. The Law Firm’s Opposition 2 In a single document, the Law Firm opposed both the 3 Consolidation Motion and the Compromise Motion. As to the 4 Consolidation Motion, the Law Firm asserted that substantive 5 consolidation of the cases was contrary to case law, and was 6 prejudicial to the Law Firm’s right to be paid the balance of its 7 allowed chapter 11 administrative expense claim. The Law Firm 8 opposed the Compromise Motion only to the extent that the trustee 9 intended to reach assets of the Corporation to fund payment to 10 Dr. Waksberg on his claim of personal exemption. The Declaration 11 of Kathleen P. March in support of the opposition includes the 12 following primary assertions: she was advised by the Trustee’s 13 counsel that (1) assets of the Corporation were necessary to fund 14 the Compromise Agreement; and (2) substantive consolidation would 15 render the two cases administratively insolvent past the 16 chapter 7 professionals level. 17 The Law Firm pointed out that the Trustee bore the burden of 18 proving that substantive consolidation is allowable under the 19 circumstances. The Law Firm asserted that it would be contrary 20 to law to consolidate the cases substantively to enable the 21 Trustee to reach corporate assets, otherwise available to 22 claimants against the Corporation, to pay a personal exemption to 23 Dr. Waksberg. The Law Firm contended that the Consolidation 24 Motion contained no evidence establishing that creditors did not 25 rely on the separateness of Dr. Waksberg and the Corporation in 26 extending credit. Nor did the Trustee establish that there was 27 sufficient entanglement of the two debtors’ financial affairs 28 that the time and expense necessary to unscramble them threatened
-14- 1 the realization of net assets to all creditors. The Law Firm 2 asserted that, to the extent there was any commingling, it was 3 done postpetition by the Trustee himself in the payment of 4 attorneys fees. The Law Firm posited that simple math would 5 enable the Trustee to allocate those attorneys fees between the 6 estates. 7 Finally, The Law Firm asserted that, if the bankruptcy court 8 was inclined to approve the Consolidation Motion, equity required 9 a “carve out” for its previously approved fees. 10 The Trustee responded to the Law Firm’s opposition, pointing 11 out that the Law Firm did not oppose the Compromise Motion on any 12 grounds set forth in Martin v. Kane (In re A & C Props.), 13 784 F.2d 1377 (9th Cir. 1986). Rather, the sole opposition was 14 that there would not be funds to implement the Compromise Order 15 absent improper consolidation of the cases. 16 The Trustee argued that if the Law Firm were to prevail in 17 its opposition to the Compromise Motion, he would be forced to 18 litigate the Exemption Objection. In the absence of 19 consolidation, previously paid chapter 11 administrative 20 expenses, and possibly some previously paid chapter 7 21 administrative expenses, in Dr. Waksberg's case would need to be 22 disgorged. Further, there were no funds in Dr. Waksberg's 23 individual case to fund the Exemption Objection litigation. In 24 addition, the Compromise Agreement settled the Ida Claim, 25 asserted as secured against the Corporation in the amount of 26 $587,000. The Trustee pointed out that Dr. Waksberg filed a 27 claim against the Corporation in the amount of $3,857,244, and 28 consolidation would eliminate claims between the two estates for
-15- 1 the benefit of all of the creditors. 2 The Trustee further asserted that he was not bound by the 3 allocation between the Corporation and Dr. Waksberg as set forth 4 in the Transamerica and Skadden Arps settlement agreements. As 5 a consequence, the Law Firm’s attempt to allocate 7/11 of the 6 total settlement funds to the Corporation was not dispositive in 7 a determination as to the funds belonging to each estate. 8 8. The Bankruptcy Court’s Rulings 9 The bankruptcy court heard arguments on the Compromise 10 Motion and the Consolidation Motion on March 5, 2014. In 11 addressing the Law Firm’s contention that the Trustee had not 12 adequately established that creditors did not look to one of the 13 debtors in extending credit, the bankruptcy court made the 14 following findings relevant to the Consolidation Motion: 15 We do have a substantial overlap. We've got 48 of the 80 creditors in the individual case are the same 16 creditors as in the corporate case. The bulk of the parties that we've dealt with, that’s anybody that's 17 ever come into this court, dealt with the debtor and the corporation indistinguishable. 18 I do think that this is a case that as of the petition 19 date was an appropriate case for substantive consolidation. 20 21 Tr. of March 5, 2014 H’rng at 34:8-16. 22 The bankruptcy court also focused on the manner in which the 23 Trustee’s settlements with all of the attorneys who had asserted 24 liens against the litigation settlement proceeds had been paid. 25 Specifically, each of the disputed attorney liens was resolved 26 by: (1) a partial payment from the funds in the Interpleader 27 Action, without an allocation as to which debtor was paying the 28 lien claim; and (2) an unsecured claim allowed in both cases.
-16- 1 The bankruptcy court also noted that the Law Firm’s 2 objection to the Compromise Motion related only to the intended 3 use of the Corporation’s assets to fund the Compromise Agreement, 4 not to approval of the terms of the Compromise Agreement itself. 5 However, at the Hearing, The Law Firm’s counsel asserted that the 6 Compromise Motion only was noticed in Dr. Waksberg’s individual 7 case and not in the Corporation’s case. The Trustee’s counsel 8 responded that he believed all creditors in both cases had been 9 provided with notice of the Compromise Motion. No evidence on 10 this point was introduced at the Hearing. 11 The bankruptcy court granted the Consolidation Motion as 12 well as the Compromise Motion. These appeals followed. 13 II. JURISDICTION 14 The bankruptcy court had jurisdiction under 28 U.S.C. 15 §§ 1334 and 157(b)(2)(A), (B) and (O). We have jurisdiction under 16 28 U.S.C. § 158. 17 III. ISSUES 18 Whether the bankruptcy court abused its discretion when it 19 approved the Compromise Agreement. 20 Whether the bankruptcy court erred when it entered the 21 Consolidation Order. 22 IV. STANDARDS OF REVIEW 23 A bankruptcy court’s decision to approve a compromise 24 settlement is reviewed for abuse of discretion. Martin v. Kane 25 (In re A & C Props.), 784 F.2d 1377, 1380 (9th Cir.), cert. 26 denied, 479 U.S. 854 (1986); Goodwin v. Mickey Thompson 27 Entertainment Group, Inc. (In re Mickey Thompson Entertainment 28 Group, Inc.), 292 B.R. 415, 420 (9th Cir. BAP 2003). A
-17- 1 bankruptcy court abuses its discretion if it applies an incorrect 2 legal standard or misapplies the correct legal standard, or if 3 its fact findings are illogical, implausible or without support 4 from evidence in the record. TrafficSchool.com v. Edriver Inc., 5 653 F.3d 820, 832 (9th Cir. 2011). 6 A substantive consolidation decision presents a mixed 7 question of law and fact that we review de novo. In re Bonham, 8 229 F.3d at 763. A mixed question exists when the relevant facts 9 are established, the legal standard is clear, and the issue is 10 whether the facts satisfy the legal standard. Wechsler v. Macke 11 Int’l Trade, Inc. (In re Macke Int’l Trade, Inc.), 370 B.R. 236, 12 245 (9th Cir. BAP 2007). 13 De novo review requires that we consider a matter anew, as 14 if no decision had been made previously. United States v. 15 Silverman, 861 F.2d 571, 576 (9th Cir. 1988); B-Real, LLC v. 16 Chaussee (In re Chaussee), 399 B.R. 225, 229 (9th Cir. BAP 2008). 17 We may affirm the decision of the bankruptcy court on any 18 basis supported by the record. Shanks v. Dressel, 540 F.3d 1082, 19 1086 (9th Cir. 2008). 20 V. DISCUSSION 21 A. Introduction 22 Unfortunately, this case represents an unhappy tribute to 23 the ability of a difficult and litigious debtor to turn a 24 bankruptcy case into a morass from which no objectively desirable 25 outcomes are possible. Faced with this mess, the bankruptcy 26 court followed the lead of the Trustee in seeking to cut losses 27 and end the pain of metastasizing litigation. We conclude in 28 these circumstances that the bankruptcy court did not abuse its
-18- 1 discretion in approving the Compromise Agreement, consistent with 2 the Ninth Circuit’s A & C Props. standards, but we also conclude 3 that it was inappropriate for the bankruptcy court to approve 4 substantive consolidation under In re Bonham over the material 5 substantive objections of an interested party. Our reasoning 6 follows: 7 B. Approval of the Compromise Agreement 8 Rule 9019(a) authorizes the bankruptcy court to approve a 9 compromise or settlement on motion of the chapter 7 trustee after 10 notice and a hearing. The bankruptcy court must inquire into all 11 “factors relevant to a full and fair assessment of the wisdom of 12 the proposed compromise.” Protective Comm. For Indep. 13 Stockholders of TMT Trailer Ferry, Inc. v. Anderson, 390 U.S. 14 414, 424 (1968). In other words, in order to approve a 15 compromise settlement, the bankruptcy court “must find that the 16 compromise is fair and equitable.” In re A & C Props., 784 F.2d 17 at 1381. And the Trustee, as the party advocating approval of 18 the compromise, bears “the burden of persuading the bankruptcy 19 court that the compromise is fair and equitable and should be 20 approved.” Id. However, bankruptcy courts have broad discretion 21 in considering approval of proposed settlements because they are 22 “uniquely situated to consider the equities and reasonableness 23 [of such settlements] . . . .” United States v. Alaska Nat’l 24 Bank (In re Walsh Constr., Inc.), 669 F.2d 1325, 1328 (9th Cir. 25 1982). “The purpose of a compromise agreement is to allow the 26 trustee and the creditors to avoid the expenses and burdens 27 associated with litigating sharply contested and dubious claims.” 28 In re A & C Props., 784 F.2d at 1380.
-19- 1 In determining whether the standards for approval of a 2 compromise settlement have been met, the bankruptcy court must 3 consider the following four factors: 4 (a) The probability of success in the litigation; (b) the difficulties, if any, to be encountered in the 5 matter of collection; (c) the complexity of the litigation involved, and the expense, inconvenience and 6 delay necessarily attending it; [and] (d) the paramount interest of the creditors and a proper deference to 7 their reasonable views in the premises. 8 Id., citing Flight Transp. Corp. Securities Litigation, 790 F.2d 9 1128, 1135 (8th Cir. 1984), cert. denied, 105 S. Ct. 1169 (1985). 10 See Marlow v. Zamora (In re Marlow), 2011 WL 3299024 (9th Cir. 11 BAP Feb. 1, 2011) (unpublished). 12 In this case, the Trustee addressed all four factors at 13 length in the Memorandum of Points and Authorities filed in 14 support of the Compromise Motion, supported by the Trustee’s 15 declaration. With respect to the probability of success in 16 litigation, the Trustee and his counsel focused on Dr. Waksberg’s 17 exemption claims. The two primary issues to be determined were 18 1) whether Dr. Waksberg was entitled to any exemptions at all, 19 and 2) if so, the amount of exemptions that should be allowed. 20 In light of the bankruptcy court’s determination that the 21 lateness of Dr’s Waksberg’s making the subject exemption claims 22 was not dispositive, the parties had focused on the present value 23 of “subsistence” versus “lifestyle maintenance” for Dr. Waksberg 24 and his aged and infirm mother. In his amended Schedule C, 25 Dr. Waksberg had claimed $3,600,000 as exempt but subsequently 26 had sought much more–between $4,223,543 and $4,631,402 after 27 taxes. The upper end of Dr. Waksberg’s exemption claims exceeded 28 the balance of funds the bankruptcy estates had on hand. The
-20- 1 Trustee’s experts had opinions supporting amounts varying from 2 $170,190 to $776,143. However, the Trustee could not assume that 3 the bankruptcy court would agree with his experts and discount 4 entirely the expert testimony that Dr. Waksberg was prepared to 5 offer. The settlement amount of $1,600,000 was more than 6 $2,000,000 less than Dr. Waksberg had claimed in his most 7 recently amended Schedule C and well more than $3,000,000 less 8 than Dr. Waksberg’s high end claims. 9 Wrapped up in the settlement was resolution of Ida 10 Waksberg’s alleged secured claims against both Dr. Waksberg 11 individually and the Corporation. We note that the record 12 reflects that Ida Waksberg never produced any documentation that 13 her claims ever attached or were perfected. However, at oral 14 argument, counsel for the Trustee noted that Ida Waksberg, 15 age 98, had been a feisty presence in some of the proceedings 16 before the bankruptcy court. The settlement amount appears to 17 represent a compromise amount primarily (if not entirely) 18 relating to the risks associated with litigating Dr. Waksberg’s 19 exemption claims. As to Ida Waksberg’s claims, the Trustee 20 appears to have agreed to give her the sleeves off his vest. If 21 the Trustee needed to provide that the settlement amount was 22 payable jointly to Dr. Waksberg and his mother to reach the 23 Compromise Agreement and thus clothe the nakedness of the absence 24 of any documents to evidence Ida Waksberg’s alleged secured 25 claims without incurring additional settlement costs, we conclude 26 that so agreeing was a reasonable exercise of the Trustee’s 27 business judgment. 28 With respect to potential difficulties in collection, the
-21- 1 Trustee admitted that since he was in possession of the balance 2 of funds from the Transamerica Settlement and the Skadden Arps 3 Settlement, he was not really concerned with collection issues. 4 However, he noted that in the event the bankruptcy court awarded 5 Dr. Waksberg more than the balance of funds held by the 6 bankruptcy estates, such a determination could have costly 7 adverse implications for creditors and other parties that already 8 had received distributions from the estates. 9 With regard to the complexity of open litigation issues and 10 the expense, inconvenience and delay necessarily attending their 11 resolution, the Trustee noted that prosecution to date of his 12 objections to Dr. Waksberg’s exemption claims and Ida Waksberg’s 13 claims already had been very time consuming and extremely costly. 14 Resolving those objections through the evidentiary process would 15 further deplete estate assets and potentially clog the bankruptcy 16 court’s docket “for months and perhaps years to come,” not even 17 considering appeals (of which, to date, Dr. Waksberg had filed 18 many). The settlement would avoid those potentially very 19 expensive, adverse results. 20 Finally, as to the interests of creditors, the Trustee 21 argued that approving the Compromise Motion would “avoid further 22 administrative expenses and . . . facilitate the closure of this 23 case.” At the Hearing, counsel for the Trustee noted that no 24 prepetition creditor had filed an objection to the Compromise 25 Motion. 26 In its opposition to the Compromise Motion, the Law Firm did 27 not contest the Trustee’s showing as to satisfaction of the 28 In re A & C Props. standards but merely argued that it was not
-22- 1 proper to pay Dr. Waksberg’s personal exemption claims out of 2 Corporation assets, an argument we address in discussing the 3 Consolidation Motion. At the Hearing, the Law Firm further 4 asserted that the Compromise Motion had not been noticed in the 5 Corporation’s case, without submitting any supporting evidence. 6 In response, counsel for the Trustee stated, “Notwithstanding 7 Ms. March’s comments, I believe that notice was provided to all 8 creditors in both cases.” 9 The bankruptcy court ultimately concluded that the Trustee 10 had satisfied all relevant requirements for approval of the 11 Compromise Agreement and approved the settlement. On the record 12 before us, we perceive no abuse of discretion by the bankruptcy 13 court in approving the Compromise Motion. 14 C. Substantive Consolidation 15 Approval of the Consolidation Motion is another matter. It 16 is undisputed that the bankruptcy court’s power to order 17 substantive consolidation is part of its general equitable 18 authority. “[C]onsistent with its historical roots, the power of 19 substantive consolidation derives from the bankruptcy court’s 20 general equity powers as expressed in section 105 of the 21 Bankruptcy Code.” In re Bonham, 229 F.3d at 764. However, as 22 recognized by the Ninth Circuit in In re Bonham, “[t]he primary 23 purpose of substantive consolidation ‘is to ensure the equitable 24 treatment of all creditors.’” Id., quoting Union Savings Bank v. 25 Augie/Restivo Baking Co. Ltd. (In re Augie/Restivo Baking Co. 26 Ltd.), 860 F.2d 515, 518 (2d Cir. 1988). 27 There is no dispute that approval of the Consolidation 28 Motion coupled with approval of the Compromise Agreement will
-23- 1 result in no distribution to creditors in either Dr. Waksberg’s 2 individual case or the Corporation’s case. Accordingly, in 3 effect, the dispute before us is among Dr. Waksberg and 4 administrative claimants only. If the Consolidation Order is 5 affirmed, under the approved Compromise Agreement, Dr. Waksberg 6 and his mother will receive the settlement amount, and chapter 7 7 administrative claimants will have their allowed claims paid in 8 part, but chapter 11 administrative claimants with lower 9 priorities, such as the Law Firm, will receive nothing. 10 Substantive consolidation cases tend to be fact specific 11 (see In re Bonham, 229 F.3d at 764), but it is very unusual to be 12 considering substantive consolidation where creditors will see no 13 direct financial benefit from the consolidation. In 14 In re Bonham, the Ninth Circuit adopted the two-factor Second 15 Circuit test to determine whether substantive consolidation is 16 appropriate: 17 (1) whether creditors dealt with the [subject] entities as a single economic unit and did not rely on their 18 separate identity in extending credit; or (2) whether the affairs of the debtor are so entangled that 19 consolidation will benefit all creditors. 20 In re Bonham, 229 F.3d at 766, quoting Reider v. FDIC 21 (In re Reider), 31 F.3d 1102, 1108 (11th Cir. 1994), in turn 22 citing In re Augie/Restivo Baking Co. Ltd., 860 F.2d at 518. 23 Since, as noted above, the creditors will receive nothing 24 from substantive consolidation in terms of distributions, we do 25 not see how the second factor in the Bonham test is satisfied. 26 As to the first factor, while many creditors in the two 27 bankruptcy cases are the same (48 based on the math as discussed 28 by the Law Firm’s counsel and the bankruptcy court at the
-24- 1 hearing), the creditor bodies are not coextensive.13 The 2 bankruptcy court ultimately found that, “[t]he bulk of the 3 parties that we’ve dealt with, that anybody that’s ever come into 4 this Court, dealt with [Dr. Waksberg] and the [Corporation] 5 indistinguishably.” So, the first Bonham factor arguably 6 supported substantive consolidation. 7 However, as noted in Bonham, 229 F.3d at 767, substantive 8 consolidation is a remedy to be used “sparingly,” and if it 9 cannot be applied equitably, should not be applied at all. The 10 Law Firm did not rely on Dr. Waksberg’s credit in seeking 11 employment as counsel to the Committee in the Corporation’s 12 chapter 11 case. As so employed, it had no right to make a call 13 on the assets of Dr. Waksberg’s individual estate to pay its 14 allowed fees. Yet, if the estates are substantively 15 consolidated, the Law Firm will not receive the balance of its 16 finally approved fee award (which, in the absence of substantive 17 consolidation, would be paid) in order to allow for payment of 18 Dr. Waksberg’s compromise exemption claim in part out of 19 Corporation assets that otherwise would not be subject to 20 Dr. Waksberg’s personal exemption claims as a matter of law. 21 That result is not equitable and does not support substantive 22 consolidation in this case in the face of the Law Firm’s 23 opposition. 24 25 13 At the Hearing, the Law Firm’s counsel reported after 26 reviewing the claims registers that 32 proofs of claim filed in 27 Dr. Waksberg’s individual case were not duplicated in the Corporation’s case, and 16 proofs of claim filed in the 28 Corporation’s case were not also filed in the individual case.
-25- 1 VI. CONCLUSION 2 For the foregoing reasons, we AFFIRM the bankruptcy court’s 3 approval of the Compromise Motion, but VACATE the Consolidation 4 Order and REMAND to the bankruptcy court for further proceedings. 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28
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