Opinion
Case No. 3:99-CV-2953-R, Bankruptcy No. 398-35100-HCA
August 14, 2001
MEMORANDUM OPINION AND ORDER
Presently before the Court are Defendant Lary McGee's Original and Supplemental Objections to Proposed Findings of Fact and Conclusions of Law, and the Trustee and Plaintiffs' Response thereto. McGee did not file a Reply. For reasons discussed herein, McGee's Objections are GRANTED IN PART and DENIED IN PART.
I. BACKGROUND HISTORY
Defendant Lary McGee (McGee) is the sole shareholder of Millenium Logistics, Inc., a California corporation. Rolanda and Bill Whelpley (the Whelpleys) are the principals of World Trade Cargo Logistics, Inc. (WTCL — Dallas), a Texas corporation. In May and June, 1998, McGee and the Whelpleys began negotiating toward merging their companies. Once the companies merged, McGee was to transfer Millenium's freight forwarding business (including accounts payable and receivable) to the new corporation. The parties dispute whether a valid contract outlining the business transaction was ever formed. A handwritten memo authored by Rolanda Whelpley, however, stated that if the deal was consumated, McGee was to become an employee of WTCL-Dallas and receive 49% of the stock of the new company (which was apparently meant to be a California company). The Whelpleys, in turn, would put up operating capital for the new company and provide capital to allow Millenium to stay in operation before the merger. The transfers were to have an effective date of May 1, 1998.
On May 7, 1998, the Whelpleys filed Articles of Incorporation for World Trade Cargo of Los Angeles (WTCLA) in California. No shares of WTCLA were issued to anyone at the time the Articles were filed. The Whelpleys claim that under the agreement, Millenium was to cease operations on May 1, 1998 and begin conducting its business as WTCLA. During May, 1998, McGee continued to operate a freight forwarding business out of his office in Los Angeles. McGee contends that the business was conducted by Millenium (and not WTCLA) during May and June of 1998. He argues that proceeds of Millenium's accounts receivable during that time belong solely to Millenium. The Whelpleys claim that the companies merged on May 1, 1998, as evidenced by the fact that WTCLA, through WTCL-Dallas, subleased Millenium's spare office space, hired and paid various Millenium employees, and paid McGee a salary.
WTCLA subsequently changed its name to LATCLF. On June 10, 1998, LATCLF filed a bankruptcy petition through its officers and shareholders, the Whelpleys. On or about June 10, counsel for McGee and Millenium informed the Whelpleys that Millenium was to collect approximately $243,000 worth of receivables and turn the money over to its law firm, Sherman, Nathanson Miller (SNM), for disbursement to Millenium's creditors and to Millenium itself. On June 11, Dayrunner (a client of Millenium and/or LATCLF), issued a check for $243,000 and delivered it to McGee. McGee forwarded the Dayrunner check to SNM, which deposited it in its client trust account. McGee also tendered other checks to SNM, including checks payable to "World Trade Cargo." The Bankruptcy Court found that the funds collected by McGee were facially property of the bankruptcy estate and subject to the automatic stay. (R. at 9). SNM held approximately $249,000 in funds forwarded by McGee in its client trust account.
McGee knew of the bankruptcy filing by the Whelpleys. He admits that prior to June 11, 1998, he requested advice from SNM regarding the distribution of the funds. SNM consulted with a "bankruptcy expert" in California, and concluded that the funds were not property of WTCLA's bankruptcy estate and therefore not subject to the automatic stay. On June 17, 1998, the Trustee, having previously met with the Whelpleys, contacted SNM to request that the funds held by SNM be turned over to the Trustee or retained in SNM's trust account until ownership could be determined. SNM refused this request. The Trustee reiterated his position in a letter to SNM dated June 17, 1998. On June 18, however, SNM disbursed the funds in its trust account pursuant to instructions from McGee. SNM did not inform the Trustee of this action until June 22, 1998.
McGee's Supplemental and Amended Objections to Proposed Findings of Fact and Conclusions of Law at 5. The Bankruptcy Court found that McGee had knowledge of the bankruptcy filing prior to his violation of the stay. (R. at 10).
The $249,000 in funds were disbursed as follows: $141,608.15 to pay various accounts payable involved with the Dayrunner account; $7,000.00 to SNM for legal fees; $6,000.00 to the bankruptcy expert for legal fees; $15,000 retained in the trust account; and $68,000.00 paid to Millenium. Thereafter, the Trustee moved to have Millenium, McGee and SNM held in contempt. The Bankruptcy Court issued three separate show cause orders directing McGee and SNM to appear and show cause why they should not be held in contempt for violation of the automatic stay. The Court also directed McGee to file an accounting of the funds in question. McGee did not file the accounting.
The show cause hearing was held on November 18, 1998, January 7, 1999, and June 9, 1999. The Bankruptcy Court found that both SNM and McGee had violated the automatic stay, and issued Proposed Findings of Fact and Conclusions of Law as to both parties. With regard to McGee, the relevant findings of the Bankruptcy Court were that: 1) McGee had notice and knowledge of the bankruptcy filing, the automatic stay and the Trustee's claim to the monies forwarded to SNM; 2) McGee's actions violated the automatic stay; 3) McGee committed fraud with respect to the customers who issued checks to Millenium and/or LATCLF; 4) McGee converted the Dayrunner payment; 5) McGee "maliciously stonewalled" the Bankruptcy Court; 6) McGee breached his fiduciary duty to the Debtor; and 7) McGee converted the funds he collected from customers, forwarded to SNM and instructed SNM to disburse. (Findings of Fact and Conclusions of Law at 2-4). The Bankruptcy Court ordered McGee to pay the sum of $500,000 to the bankruptcy estate and to pay the reasonable attorneys' fees incurred by the Trustee up to an aggregate amount of $125,000. ( Id. at 4).
The Bankruptcy Court ordered that SNM be held in contempt for disbursing approximately $102,000 in funds held in its trust account to parties who were not creditors of Millenium. SNM objected to the Bankruptcy Court's findings, and this Court upheld those findings in its April 14, 2000 order (Case No. 3:99-CV-0839-R).
The Bankruptcy Court found that McGee's actions resulted in $250,000 damages to the bankruptcy estate, and ordered restitution of this amount. (R. at 10). The Court further fined McGee an additional $250,000 "to prevent further abuse of the judicial process." (R. at 11).
II. STANDARD OF REVIEW
"A bankruptcy court's findings of fact are subject to review for clear error, and its conclusions of law are reviewed de novo." In re GGM. P.C., 165 F.3d 1026, 1029 (5th Cir. 1999). The court's rulings may be upheld if there are any grounds in the record to support them, including grounds not considered by the Bankruptcy Court. Besing v. Hawthorne, 981 F.2d 1488, 1494 (5th Cir.), cert. denied, 510 U.S. 821 (1993). McGee raises several objections to the Bankruptcy Court's Findings.III. ANALYSIS
1. Whether the Contempt Proceeding was a Core Proceeding
McGee asserts that the contempt proceeding was not a core matter. Issues that arise solely due to the bankruptcy context of a case are core matters. Southmark v. Coopers Lybrand, 163 F.3d 925, 930 (5th Cir. 1999). Civil contempt proceedings are core matters in bankruptcy cases. Kellogg v. Chester, 71 B.R. 36, 37 (N.D. Tex. 1987). This contempt proceeding arose out of the violation of the automatic stay under the Bankruptcy Code. Accordingly, the Bankruptcy Court correctly found that the contempt proceeding was a core proceeding. 2. Allocation of the Burden of Proof and Ownership of Funds
McGee next argues that the Bankruptcy Court erred in finding that the Trustee sustained its burden of proving that McGee violated the § 362 automatic stay. The movant in a civil contempt proceeding must show by clear and convincing evidence that: 1) a court order was in effect; 2) the order required certain conduct by the respondent; and 3) that the respondent failed to comply with the order. Petroleos Mexicanos v. Crawford Enterprises, Inc., 826 F.2d 392, 400 (5th Cir. 1987).
McGee contends that the court misapplied the burden of proof by requiring McGee to show that the funds did not belong to the bankruptcy estate. In its Show Cause Order, the Bankruptcy Court directed McGee to show that the funds in question did not belong to the bankruptcy estate. Later in the proceedings, however, the court shifted the burden to properly rest upon the Trustee, a fact acknowledged by McGee. (Supplemental and Amended Objections at 7). The court explicitly found "by clear and convincing evidence" that McGee violated the automatic stay. (Findings and Conclusions at 10). Implicit in this finding are the Bankruptcy Court's findings that: 1) the automatic stay was in effect and applied to the funds collected by McGee for the Dayrunner account; 2) McGee was required to abide by the stay with regard to those funds; and 3) McGee violated the stay.
McGee contends that the Bankruptcy Court erred by not making a finding of ownership of the funds in dispute. He argues that the automatic stay did not apply to the funds because their ownership was disputed. This is incorrect. The property of a bankruptcy estate "includes all rights of action the debtor may have arising from contract." 1 Norton Bankr. L. Prac. § 20.07. When a party asserts ownership of disputed funds that may possibly be property of the estate, the proper practice is to ask the bankruptcy court for an adjudication of the competing interests. See Georgia Pacific Corp v. Sigma Service Corp., 712 F.2d 962, 968 (5th Cir. 1983) (stating that the determination of ownership of disputed assets properly rests with the Bankruptcy Court). In this case, the Bankruptcy Court found that the funds in question were part of the bankruptcy estate. That finding was adopted by this Court in its Order of April 17, 2000 in cause number 3:99-CV-0839, the companion to the instant case. The Bankruptcy Court also found that McGee converted these funds. The bankruptcy estate may have had an interest in the funds arising from contracts with McGee or customers. The automatic stay therefore applied to the funds. Rather than petitioning the Bankruptcy Court for determination of the status of the funds in question, McGee willfully violated the stay by directing his attorneys to disburse the funds. Evidence of these actions was before the Bankruptcy Court during the show cause hearings. The contempt finding is therefore supported by clear and convincing evidence.
3. Validity of the Corporate Entity and the Bankruptcy Filing
McGee asserts that the debtor entity WTCLA was not a valid corporation at the time it filed for bankruptcy, making its bankruptcy filing impermissible and the automatic stay invalid. (Supplemental and Amended Objections at 11). Notably, McGee offers no evidence in support of his argument that WTCLA was not a valid corporate entity at the time it filed for bankruptcy. The Trustee notes that documents evidencing WTCLA's corporate existence were before the Bankruptcy Court. This Court finds no merit in McGee's assertions regarding the validity of the corporate entity. Nor does it find merit in McGee's unsubstantiated contention that the bankruptcy filing was impermissible or made in bad faith. 4. Procedural Defects
McGee complains that the Bankruptcy Court gave him insufficient notice of the contempt proceeding under Bankruptcy Rule 9020(b) in that it failed to inform him of the essential facts charged. McGee did not raise this issue in front of the Bankruptcy Court. Furthermore, the same objection was made by SNM in its Objection to the Bankruptcy Court's findings. That objection was overruled by this Court in its Order of April 18, 2000. The Bankruptcy Court's Show Cause order notified McGee and SNM that they were to show cause for violating the automatic stay with regard to the funds in question. Additionally, three hearings were held on the Show Cause order over a period of six months. This Court finds that adequate notice was given under Bankruptcy Rule 9020(b).
Finally, McGee complains that the Bankruptcy Court erred in failing to require the Trustee to produce a certain document (an invoice issued by McGee for Millennium) at the January 7, 1999 hearing. McGee did not complain of this error at the hearing and does not show the possible relevance the document may have had. This Court finds no error in the Bankruptcy Court's actions with respect to the document. To the extent that McGee complains of additional errors of law, those arguments are DENIED.
Apparently, SNM did request production of the document at the hearing. The Bankruptcy Court denied its request. SNM objected to the Court's ruling; this Court overruled the objection in its Order of April 18, 2000.
5. Findings of Fact
McGee contends that the Bankruptcy Court improperly curtailed the testimony of Ken Nathanson, an attorney with SNM. He further argues that the court erred in deeming testimony by both Nathanson and McGee not credible. (Supplemental and Amended Objections at 9). A review of the record indicates that Nathanson was allowed to testify at length, but that he repeatedly showed little personal knowledge of the events in question. The Bankruptcy Court explicitly found neither Nathanson nor McGee to be credible witnesses. (Findings and Conclusions at 4). The Bankruptcy Court's findings as to witness credibility are entitled to considerable deference due to its position as fact finder. Ham Marine. Inc. v. Dresser Industries, Inc., 72 F.3d 454, 461 (5th Cir. 1995). This Court finds that the Bankruptcy Court's credibility determinations were not clearly erroneous and overrules McGee's objections. To the extent that McGee complains of additional erroneous findings of fact, those arguments are DENIED.
6. Remedies
Finally, McGee complains that the Bankruptcy Court erred in imposing contempt sanctions against him in the following amounts: 1) $250,000 in compensatory damages to the estate for McGee's conversion of funds subject to the automatic stay, payable to the Trustee; 2) Reasonable attorney's fees up to an aggregate amount of $125,000; and 3) $250,000, payable to the Trustee, for McGee's breach of the automatic stay and to prevent further abuse of the judicial process (Findings and Conclusions at 4-5). McGee argues that the $250,000 assessed "to prevent further abuse of the judicial process" was punitive in nature and was therefore beyond the scope of the Bankruptcy Court's contempt powers. (Supplemental and Amended Objections at 12).
Title 11 U.S.C. § 362 provides authority for the Bankruptcy Court to award compensatory damages and awards of attorneys' fees and costs for violations of the automatic stay. 11 U.S.C. § 362(a). Awards of punitive damages are provided in appropriate cases under section 362(h). To be entitled to punitive damages under section 362(h), a plaintiff must show that: 1) defendant had notice of the bankruptcy; 2) defendant took actions in violation of the stay; 3) defendant's actions were willful (to obtain compensatory damages and costs); and 4) defendant's actions were in bad faith (to obtain punitive damages). Gullett v. Continental Cas. Co., 230 B.R. 321, 331 (S.D. TX. 1999), reversed on other grounds, 253 B.R. 796 (S.D. TX. 1999). In the instant case, the Bankruptcy Court specifically found that McGee acted in bad faith and awarded $250,000 in punitive damages to the bankruptcy estate based on those findings. (Findings of Fact and Conclusions of Law at 2-5). This award was in error. While there is ample support in the record for the finding that McGee knew of the automatic stay and acted in bad faith by violating it, this Court finds that the debtor estate of LATCLF is not entitled to punitive damages under section 362(h) because it is not a natural person. Debtors who are not natural persons are not entitled to punitive damages under section 362(h). In re Cateaugay Corp., 920 F.2d 183, 186-87 (2nd Cir. 1990). The result obviously would have been different had McGee violated the stay of an individual debtor afforded additional protection under section 362(h). In this case, however, the Bankruptcy Court acted pursuant to section 362(a) and did not have authority to award punitive damages to the debtor estate. Accordingly, this Court ADOPTS the Bankruptcy Court's award of: 1) $250,000 in compensatory damages to the estate; and 2) attorney's fees up to $125,000; but REVERSES the Bankruptcy Court's award of: 3) $250,000 "to prevent further abuse of the judicial process." (Findings and Conclusions at 5).