Opinion
Case No. 09-12738-A11.
5-4-2010
In re: PACERS, INC., Debtors.
The matter came on for hearing on March 18, 2010, at 10:00 a.m. in Department Two of the above-entitled Court, the Honorable Louise DeCarl Adler, presiding, in two related contested matters: 1) the Debtor-in-Possession's Motion to Assume Certain Unexpired Leases; and 2) the Debtor-in-Possession's Motion to Approve Bid Procedures. Appearances were made by Michael D. Breslauer, Esq., counsel for Pacers, Inc. ("Debtor" or "Pacers"); Jason Mohney ("Mohney"), president and principal of Debtor-in-Possession was also present; William F. Fennell, Esq., counsel for the Official Unsecured Creditors Committee (the "OCC"); Christopher V. Hawkins, Esq., counsel for court-appointed Examiner; Thomas C. Hebrank, the court-appointed Examiner ("Examiner"); Robert Barnes, Esq., counsel for Tollis, Inc. ("Tollis"); David Ortiz, Esq., counsel for the United States Trustee ("UST"); Michael St. James, Esq., counsel for Deja Vu Consulting, by telephone; Robert Biederman, Esq. ("Biederman"), counsel for San Diego Fantasy, LLC ("SDF"), by telephone; also present in the courtroom were Keith Campbell, broker; and Chairperson of the OCC, Lisa Breedlove. There were no other appearances.
FINDINGS OF FACT
Based on the testimonial and documentary evidence in the record in the Debtor's case, as well as argument of counsel at the above hearing, this Court makes the following findings of fact:
Prepetition Events
1. Debtor owns and operates the Pacers bar and strip club located on Midway Drive in San Diego, California. Debtor has operated at that location for over 20 years. In April 2006, Debtor began to use Hustler trademarks and the "Larry Flynt's Hustler Club" name.
2. David Ford was the previous owner and president of both Debtor and Diamond D Equities, Inc. ("Diamond D"), the entity that owned the parking lot adjacent to the Pacers club.
3. In 1999, Mohney purchased 100% of the stock in Debtor from David Ford, and Tollis purchased the adjacent parking lot from Diamond D.
4. Mohney was, and currently is, the Debtor's president and sole shareholder.
5. Harry Mohney is Mohney's father.
6. Harry Mohney is the indirect owner of 100% of the stock in Tollis. Specifically, the stock in Tollis is owned by Imagination, Inc. ("Imagination"), which is owned by Harry Mohney through a revocable family trust. Harry Mohney is the trustee of the trust. Mohney and his siblings, and their children, are the contingent beneficiaries of the trust. Mohney acknowledged his indirect, contingent interest in Tollis after it was revealed to the Court in March 2010.
7. Debtor's customers use the adjacent parking lot, which the Debtor leases from Tollis pursuant to a written lease dated September 1, 1999, as amended (the "Tollis lease"). Debtor currently pays monthly rent of $50,000 ($600,000 annually), to Tollis to use this parking lot.
8. In 2008, Lisa Breedlove ("Ms. Breedlove") filed a suit against the Debtor for sexual harassment and retaliatory termination of her employment. The action was filed in the San Diego Superior Court, but was subject to mandatory arbitration. At least three additional actions have been filed against the Debtor asserting comparable instances of sexual harassment and retaliatory termination (collectively "Tort Claims").
9. On May 12, 2009, Ms. Breedlove received an interim arbitration award against the Debtor. On July 20, 2009, a final arbitration award was entered in favor of Ms. Breedlove, and against the Debtor, in the sum of $940,000 ("Arbitration Award").
10. In July 2009, Mohney formed SDF. Mohney is the sole owner and managing member of SDF. SDF was formed for the purpose of bidding Debtor's assets out of bankruptcy.
11. SDF's attorney and "authorized representative" is Robert Biederman, Esq. Mr. Biederman also represented both Debtor and Tollis in negotiating the Tollis parking lot lease. Mr. Biederman personally represents Mohney, Harry Mohney and many of the Mohney-related entities in other matters.
12. On August 25, 2009, SDF made a written offer ("August Purchase Offer") to purchase substantially all of the Debtor's assets. The August Purchase Offer was made at Mohney's direction, and Mr. Biederman signed the offer for SDF instead of Mohney.
13. The August Purchase Offer contemplates the Debtor would file a chapter 11 petition with the intention of seeking an order approving the sale to SDF pursuant to § 363 free and clear of all liens and other interests to be entered on or before November 1, 2009. Additionally, it required Debtor to assume and assign the Tollis parking lot lease to SDF pursuant to § 365 as a condition to the purchase transaction. The August Purchase Offer was for $300,000 payable to Debtor for its assets, plus SDF's agreement to pay $225,000 to Tollis to cure prepetition defaults owed under the Tollis lease.
Postpetition Events
14. On August 27, 2009 (the "Petition Date"), Debtor filed a voluntary chapter 11 proceeding in the U.S. Bankruptcy Court, Southern District of California, San Diego.
15. Debtor made a First Day Motion to Pay Wages and Salaries ("First Day Motion"). In support of the First Day Motion, Mohney filed a Declaration explaining the Debtor's case was filed after its efforts to settle the Arbitration Award and the Tort Claims were unsuccessful. Mohney described the Debtor's operations as profitable with gross annual income of approximately $ 3,000,000, and in excess of $200,000 in surplus cash. Further, he indicated the Debtor had less than $10,000 in secured debt; no overdue trade debts; and had historically paid its debts as they came due. He explained: "The primary objective for the Chapter 11 filing [is] to preserve the going concern value and ongoing operation of Pacers' business. Reorganization under that model will maximize the funds available for payment of creditors." [D.E. # 11 at 16]
16. The First Day Motion did not disclose Mohney's recent formation of SDF, or that SDF had made a prepetition purchase offer. It did not disclose the Debtor intended to seek a quick sale of its assets. Debtor's failure to disclose this material information at the outset of its case was dishonest.
17. The OCC was appointed on October 6, 2009.
18. On October 30, 2009, SDF renewed its offer ("October Purchase Offer) to purchase the Debtor's assets. The October Purchase Offer was identical to the August Purchase Offer except it set a new deadline of January 15, 2010 to obtain an order approving the sale to SDF, and assumption/assignment of the Tollis lease. Once again, Mr. Biederman signed the purchase offer for SDF instead of Mohney.
19. On November 5, 2009, Debtor filed on regular notice Motions to (1) Pay Related Entities; (2) Extend Time to Assume or Reject Nonresidential Real Property Leases; and (3) Appoint an Examiner with Limited Authority (the "Examiner Motion"). These motions were scheduled for December 3, 2009.
20. The Examiner Motion for the first time disclosed the Debtor's intention to sell its assets to SDF. In the Examiner Motion, Debtor acknowledged the sale to SDF was not arms' length and would be subject to stricter scrutiny because "SDF is an entity which is related to or an affiliate of the Debtor." [D.E. # 48 at 5:9] Debtor indicated it was requesting appointment of an Examiner for the limited purpose of suggesting appropriate bidding procedures to ensure the sale to SDF has a fair and reasonable chance of generating the highest possible price for the Debtor's assets.
See also Examiner Motion at 3:2-4: "SDF is an entity which is related to the Debtor. Specifically, the owners of SDF are related to the owner of the equity interests of Debtor." (Emphasis added.)
21. In the Examiner Motion, Debtor represented the SDF offer ($ 300,000 payable to Debtor) was made in good faith and likely the "highest and best value reasonably obtainable for the Debtor's assets." [Id. at 3:5-6] Debtor indicated it was unlikely to receive a higher offer because "a substantial portion of the value of its Club is associated with the Hustler License and the Deja Vu License," which the Debtor could not continue to use in this bankruptcy case; nor could the Debtor assume and assign these license rights, over the objection of the licensors, Deja Vu (another Mohney-related entity) or LFP Publishing Group ("LFP Publishing"), the holder of the Hustler license. [Id. at 3-4] Because of the license issues, Debtor claimed its chapter 11 case could not be reorganized and had to be of "short duration." Debtor represented it was "guardedly optimistic" that it could persuade the licensors to refrain from taking adverse action through February 2010, giving Debtor time to complete the sale of its assets. [Id.]
22. Mohney filed a Consolidated Declaration in support of the Examiner Motion and the other related motions. [D.E. #51] Mohney's Consolidated Declaration disclosed: "SDF is an entity whose owners are related to me." [Id. at 6:18-19] Similar to the Examiner Motion, Mohney's phrasing gives the false impression that SDF is owned by third persons and/or entities related to him, but not by Mohney himself. Mohney made no further disclosure about SDF, or the purchase offer. This purchase offer, attached as Exhibit "E" to the motion, was the October Purchase Offer, giving the misleading impression it had just surfaced. Since, Mr. Biederman also signed the October Purchase Offer on behalf of SDF, Mohney's direct interest in SDF was concealed.
23. With respect to the license agreements, Mohney's Consolidated Declaration disclosed: The Deja Vu licensing agreement is the "vehicle through which the Debtor acquires `Hustler' themed and trademarked items for sale within the club." [Id. at 3:22-26] His phrasing gave the misleading impression that Deja Vu owned the Hustler trademarks, not Debtor.
24. With respect to the Tollis lease, Mohney's Consolidated Declaration disclosed that Tollis was an entity owned by his father, Harry Mohney. His phrasing is misleading since he was aware that the chain of ownership was through a revocable family trust in which Mohney held a contingent beneficial interest.
25. On November 10, 2009, Mohney testified as the Debtor's responsible officer at the continued § 341(a) meeting of creditors. At that hearing, Mohney was unable to answer any questions about his ownership in SDF; if he was the manager of SDF; or when SDF was created. Given that the Court now knows Mohney formed SDF in July 2009 in contemplation of Debtor's bankruptcy, the Court finds his testimony dishonest.
26. On November 23, 2009, the OCC filed opposition to the Examiner Motion, and on November 24, 2009, it filed a Motion to Appoint a Chapter 11 Trustee ("Trustee Motion") on the ground, among others, that there was a lack of disclosure by Mohney, including his failure to disclose he was sole owner and managing member of SDF. Additionally, the OCC requested and obtained from this Court an order rescheduling the Examiner Motion and the Trustee Motion so they could be heard concurrently.
27. On November 25, 2009, Mohney filed a Declaration responding to the OCC's claim that he had failed to disclose his interest in SDF. In this Declaration, Mohney claimed he owned so many different entities he did not know whether he was the sole direct owner and manager of SDF, or merely held an indirect interest in an entity that held an interest in SDF. Mohney's explanation appeared plausible based upon the facts at that time. Based upon the facts that have now surfaced, the Court finds his explanation dishonest.
28. The Trustee Motion and the Examiner Motion were heard together on December 17, 2009, at which time the Court denied the Trustee Motion without prejudice, but ordered the appointment of an Examiner with expanded powers. In addition to the duties specified in the Examiner Motion (to set bid procedures for the possible sale to SDF), the Court directed the Examiner to review the SDF purchase offer; to investigate whether the Debtor's contracts with its related entities were reasonable and necessary; and to opine on whether the proposed sale to SDF, rather than reorganization, was in the best interests of creditors.
29. The Examiner was appointed by order entered December 27, 2009.
30. On February 5, 2010, the Examiner filed his Initial Report. [D.E. #131] The Examiner found that many of the Debtor's contracts with related entities were reasonable and beneficial to the Debtor. However, the Examiner found the Debtor had mis-characterized its contract with Deja Vu as a single contract. He found the Debtor had two contracts with Deja Vu: A consulting agreement with Deja Vu to provide general management services and a licensing agreement to use Deja Vu trademarks. The Examiner found the Debtor was using Deja Vu's management services, but the Debtor did not use any of the Deja Vu trademarks in its business, and payment of the $1,250 monthly Deja Vu licensing fee was not a necessary or beneficial expense. Further, the Examiner found the Debtor had a separate licensing agreement with LFP Publishing to use the Hustler trademarks, which agreement was not tied to the Deja Vu licensing agreement. He found that although the Debtor used the Hustler trademarks in its operations, like the Deja Vu trademarks, the Hustler trademarks were not necessary or essential to the Debtor's business value. Given the Examiner's findings, the Court finds that many of the representations made in the Debtor's Examiner Motion (e.g., Debtor's major components of value; Debtor's inability to reorganize its successful business due to the licenses; and Debtor's need for a prompt sale), were misleading and dishonest.
The OCC contends that, based upon the facts that have surfaced, the Court should revisit this finding. It contends these related entity contracts are a mechanism to siphon money to the Mohney family. The Court makes no findings on this issue, except to observe that a Chapter 11 trustee will be in the best position to assess the actual benefit of these related entity contracts to Debtor's business operations.
31. Additionally, the Examiner found the Tollis lease to be of material value, and an essential asset to third party purchasers, due to lack of on-street parking or other parking options in the area. The Examiner acknowledged that the OCC contended that the Tollis lease was substantially over-market and not a true lease. He did not express his own opinion except to observe the amount of the monthly lease payment would be material to potential buyers, and a reduction of the lease payments would have a significant effect on the Debtor's reorganization options.
32. Debtor did not contest the Examiner's findings that it does not use the Deja Vu trademarks in its business, and they are not a material component of its value. Debtor promptly rejected the Deja Vu licensing agreement. Debtor has not yet rejected the Hustler licensing agreement. As far as this Court is aware, the Debtor continues to operate under the Hustler name and it continues to sell Hustler products in its business without objection by LFP Publishing.
33. Debtor reserved a hearing date of March 18, 2010 for the Court to approve its proposed sale and assumption and assignment of certain executory contracts and leases to SDF. Debtor argued that the sale of its assets had to be completed and an order entered before March 25, 2010 because, pursuant to § 365 as amended by BAPCPA, March 25, 2010 was the last date the Court could enter an order assuming the Tollis lease, or the Tollis lease would be deemed rejected by operation of law. Debtor represented that Tollis/Harry Mohney would not agree to extend this final deadline to assume their lease.
34. On February 18, 2010 and on February 23, 2010, the Court held hearings to consider the Examiner's Initial Report and to approve the Debtor's bidding procedures for its March 18, 2010 sale hearing. At these hearings, the OCC objected to the Debtor's March 18, 2010, sale date on the grounds that: (1) Debtor had not yet marketed its assets to third parties so a sale was premature; and (2) the SDF offer was too low in relation to the value of the Debtor's assets to approve as a good faith "stalking horse" bid. The OCC's objection was supported by the Examiner who agreed the Debtor had not yet conducted any serious marketing of its assets to third parties.
35. At the February 23, 2010 hearing, the Court found the Debtor's marketing to be inadequate. Accordingly, it directed the Debtor to file an application to employ a business broker to market its assets to third parties, and continued the sale hearing to April 22, 2010. Since Debtor insisted the Court had to enter an order assuming the Tollis lease before March 25, 2010 to preserve this vital asset, and all parties at that time agreed the Tollis lease was a vital asset, the Court agreed to use the March 18, 2010 hearing to consider Debtor's motion to assume the Tollis lease and to the approve bidding procedures for the recalendared April 22, 2010 sale date.
Events Triggering Appointment of a Chapter 11 Trustee
36. On February 25, 2010, Debtor filed its motion to assume the Tollis lease and, on March 8, 2010, Debtor filed its motion to approve the bidding procedures and designate SDF as the "stalking horse" bid.
37. On March 8, 2010, Debtor filed its application to employ Keith Campbell of Exodus Business Solutions as Debtor's Agent/Broker to market the sale of its assets to third parties, which the Court approved.
38. On March 10, 2010, Mohney appeared for a deposition scheduled by the OCC. At this deposition, Mohney still could not recall when SDF was formed. Given the facts that have surfaced, the Court finds his testimony dishonest.
39. On March 10, 2010, Tollis/Harry Mohney filed a response to the Debtor's lease assumption motion confirming that March 25, 2010 was a final deadline. [D.E. #168] At footnote 1 of this response, for the first time it was disclosed that Harry Mohney indirectly owned the stock of Tollis through a revocable trust, and Mohney was a contingent beneficiary of this trust.
40. On March 11, 2010, the OCC filed opposition to the bidding procedures motion and, on March 12, 2010, it filed opposition to the lease assumption motion (collectively "Opposition"). The Opposition brought to light many of the dishonest statements of Debtor/Mohney. Particularly, the Court for the first time learned:
• Mohney formed SDF in July 2009 in response to the Arbitration Award to purchase Debtor's assets out of this bankruptcy case; SDF made the August Purchase Offer, which was not disclosed, signed by Mr. Biederman just two days before the petition date;
• Mr. Biederman represents the Debtor, Mohney, Harry Mohney and their many related entities;
• Mr. Biederman represented both Tollis and the Debtor in negotiating the Tollis lease and there were no negotiations by Debtor to establish reasonable rental rates; and
• Debtor had not obtained a valuation of its assets to establish the reasonableness of SDF's October Purchase Offer to pay $300,000 for Debtor's assets.
41. On March 12, 2010, the Examiner filed a Supplemental Report reversing his initial position that the Tollis parking lot lease was material to the Debtor's business. [D.E. # 175] The Examiner explained his initial conclusion had been based upon his belief that the Debtor had no other parking alternatives. However, he had recently become aware of a smaller, unpaved lot located within 600 feet of the Debtor's business when he saw a "for lease" sign posted on the fence. Given that the monthly rent for this alternate lot was only $3,800 compared to the $50,000 monthly rent under the Tollis lease, he felt the disadvantages of the smaller lot were offset by the substantial monthly rental savings. Further, the Examiner explained why he found no support for the Debtor's argument that the alternate lot could not provide the requisite number of parking spaces due to set-back requirements. He also indicated that Mr. Campbell (Debtor's newly hired business broker) had contacted the broker for the alternate lot to confirm its availability for long term lease, and had requested that the listing broker hold off on accepting another offer for a few days to give the Debtor an opportunity to make an offer.
42. On March 16, 2010, both the Debtor and Tollis/Harry Mohney filed replies to the OCC's opposition and to the Examiner's Supplemental Report. [D.E. ##179 and 180] Tollis/Harry Mohney asked the Court to disregard the alternate lot because it could not be available to provide parking on March 25, 2010. They argued the only "certainty" was that the Tollis lease must be assumed and an order entered before March 25, 2010, otherwise the business would have to "shut down" since Debtor would not have a parking lot. According to Tollis/Harry Mohney, without lease assumption by March 25, 2010, the Debtor would be selling a "shuttered" business which would chill bidding and the purchase price.
43. The Debtor's reply admitted Mohney was aware he had an indirect, contingent trust interest in Tollis. Additionally, it admitted Debtor had been aware of the alternate parking lot for "quite some time." [D.E. #179 (Mohney Declaration filed March 16, 2010 at 16)] Debtor claims it had explored leasing this alternate lot as additional parking for Pacers, but determined it would not be feasible.
44. Additionally, on March 17, 2010, Debtor filed a supplemental declaration stating the broker for the alternate lot had indicated his client would likely not be interested in accepting a one-month cash payment to keep the lease available through the April 22, 2010 sale hearing; his client would not be interested in entering into long term lease; and, as of March 16, 2010, the alternate lot was no longer available because the owner had accepted an offer for a nine month lease, with a four-year option. [D.E. #182]
45. The Court makes no findings concerning the feasibility of using the alternate lot as a parking lot for the Debtor's business; or the reason the lot became unavailable. The Court merely observes that the Debtor had received different information than the Examiner had received a few days earlier. Further, the Court finds the Debtor was dishonest in failing to disclose this alternate lot. Given the material importance of parking to Debtor's business, Debtor should have disclosed all possible parking options even if Debtor deemed them unfeasible.
46. At the March 18, 2010 hearing, the Examiner reported that Mr. Campbell had received a third party offer for $800,000 without the Tollis parking lot lease. Further, he announced that Mr. Campbell anticipated the receipt of other offers shortly, but these anticipated buyers had no interest in the Tollis parking lot lease either. Based upon these newly discovered facts, and because the Examiner now agreed that the Tollis lease was substantially over-market, the Examiner stated on the record his recommendation to reject the Tollis lease.
Mr. Campbell was present in the Court.
47. At the March 18, 2010 hearing, the OCC made an oral motion that the Court appoint a chapter 11 trustee in Debtor's case based upon the facts that had surfaced since the Court had first considered the OCC's Trustee Motion. The OCC's oral motion was supported by the UST and the Examiner, and opposed by the Debtor and Tollis/Harry Mohney.
48. After hearing the arguments in support and against the various motions, the Court announced it was denying the Debtor's motion to assume the Tollis lease for lack of sound business judgment; it was granting the OCC's oral motion to immediately appoint a chapter 11 trustee; and it would be referring the Debtor's case to the United States Attorney to investigate possible Title 18 violations.
49. All Findings of Fact that are Conclusions of Law shall be deemed to be Conclusions of Law.
CONCLUSIONS OF LAW
This Court concludes the following as a matter of law:
50. The Court has the authority pursuant to 11 U.S.C. § 105 and § 1104 to grant an oral motion to appoint a chapter 11 trustee upon "reasonable" notice and an opportunity for hearing to the debtor. See In re Bibo, Inc. 76 F.3d 256 (9th Cir. 1996) (holding a judge's statement at a hearing that she was considering appointing a trustee constituted reasonable notice and an opportunity for hearing where the debtor had the opportunity to argue and present competing evidence concerning the allegations that were the basis for the appointment).
51. Reasonable notice has been afforded to the Debtor because it has been aware of the OCC's position that a chapter 11 trustee should be appointed since the OCC filed its motion to appoint a trustee on November 24, 2009. That motion was denied without prejudice, and an Examiner with expanded powers appointed. Since then, the Examiner's Initial Report and Supplemental Report have been filed bringing to light many new facts, and Debtor has had the opportunity to present competing evidence. Further, the OCC has discovered other facts, some of which Debtor now admits.
52. Cause exists to appoint a chapter 11 trustee due to the Debtor's lack of candor and its repeated dishonesty concerning material facts in this case. 11 U.S.C. § 1104(a)(1). Additionally, cause exists because the Court has no confidence in Mohney's veracity or his ability to carry out the Debtor's duties in a manner consistent with the best interests of the creditors of this estate. 11 U.S.C. §§1104(a)(1)(2). Finally, although the Court does not find any evidence of postpetition mismanagement of Debtor's business to date, "cause" exists to appoint a chapter 11 trustee immediately without a further hearing because the Court has no confidence the Debtor will make a good faith attempt to keep its business open and operating now that the Court has ordered the Tollis lease rejected. Id. It is in the best interests of the creditors of this estate that independent management continue business operations until the Debtor can be sold or otherwise reorganized.
53. All Conclusions of Law that are Findings of Fact shall be deemed to be Findings of Fact.