Opinion
Cases (Jointly Administered) Case No. 02-41729 (REG), Adv. Pro. No. 02-8051 (REG), No. 04 Civ. 2817 (GEL).
September 29, 2004
Philip C. Korologos, George F. Carpinello, Boies, Schiller Flexner, LLP, Armonk, New York, for plaintiff-appellant Adelphia Communications Corp.
Lawrence G. McMichael, Christie M. Callahan, Dilworth Paxson LLP, Philadelphia, Pennsylvania, for defendants-appellees and cross-appellants John J. Rigas, Timothy Rigas, Michael Rigas and James Rigas.
CORRECTED OPINION AND ORDER
This is an appeal by chapter 11 debtor Adelphia Communications Corporation ("Adelphia") and a cross-appeal by defendants John Rigas, Timothy Rigas, Michael Rigas and James Rigas (collectively, the "Rigases") from a March 9, 2004, Order by the Honorable Robert E. Gerber, United States Bankruptcy Judge, which was a further modification to a November 2002 Temporary Restraining Order that had earlier been modified on August 7, 2003. The original TRO placed a freeze on all of the assets of the Rigases and any entities owned or controlled by them (the "Rigas Family Entities"), with the proviso that reasonable living expenses and legal expenses were to be carved out as necessary. The March 9 Order allowed the Rigases access to an additional $12.8 million to pay the lawyers and consultants that were assisting in the criminal defense of the Rigases, and directed Adelphia, as manager, to pay the granted amount out of a set of entities that both sides refer to as the Managed Entities. Adelphia sought a stay pending appeal, which was denied by this Court in a ruling from the bench on March 22, 2004. Adelphia's appeal on the merits will be granted in part and denied in part, and the March 9 Order vacated and remanded for further proceedings not inconsistent with this opinion. The Rigases' cross-appeal will be denied.
BACKGROUND
I. History of Adelphia
Adelphia was founded by John Rigas in 1952 and grew into the fifth largest cable company in the United States. Until May 2002, John Rigas and members of his family held a majority of the voting shares of Adelphia and formed a majority of Adelphia's Board of Directors. The Rigases also held nearly all of the senior executive positions in the company. The Rigases also owned or controlled a number of other entities (the "Rigas Family Entities") that were not directly part of Adelphia, including a set of private cable companies known in this litigation as the Managed Entities. The Managed Entities are a subset of the whole group of Rigas Family Entities.
Adelphia's cash management system ("CMS") operated as a centralized depository for Adelphia receipts and as primary payor of Adelphia obligations. The CMS was used for receipts and payments not only for Adelphia and its subsidiaries, but also for the Rigases and Rigas Family Entities, thus creating one centralized pool of cash for all Rigas-controlled businesses. Following Adelphia's bankruptcy filing in June 2002, the estate retained Price Waterhouse Coopers ("PWC") to conduct an examination of Adelphia's book and records, including the CMS. PWC concluded that, between January 1, 1999, through May 10, 2002, the Rigases used the CMS to transfer in excess of $55 million from Adelphia to Rigas Family Entities for further transfer to the Rigases personally. (R. 486-87.)
PWC also concluded that the Rigases used Adelphia funds for the purchase of Adelphia stock in their own names through the use of "co-borrowing" facilities that had been entered into by certain Adelphia subsidiaries and the Managed Entities. (R. 488-89.) Under these facilities, any borrower could draw on the facility up to the lending limit, and all borrowers would be jointly and severally liable on the full amount outstanding under the facility. (R. 488.) According to the PWC report, the Rigases, through various creative uses of these co-borrowing facilities, used over $1.3 billion in borrowed funds, on which Adelphia or a subsidiary was jointly and severally liable, to purchase Adelphia stock, which they registered in their own names. (R. 489-90.) PWC also concluded that the Rigases had drawn on over $200 million in cash belonging to Adelphia to meet margin calls on their personal stock holdings beginning in early 2000, as the market value of Adelphia's stock began a precipitous decline. (R. 490.) PWC calculated that the approximate loss to Adelphia from either direct cash transfers to the Rigases or Rigas Family Entities, or withdrawals under co-borrowing facilities for which Adelphia or its subsidiaries are fully liable, amounted to over $3 billion between January 1, 1999, and May 31, 2002. (R. 491.)
On April 3, 2002, Adelphia announced that the Securities and Exchange Commission was conducting an inquiry into Adelphia's co-borrowing facilities, and on April 17, 2002, Adelphia announced that the SEC had issued a formal order of investigation. Following these developments, John Rigas resigned as Chairman and CEO of Adelphia on May 15, 2002, and the following day Adelphia announced that a special committee of the Board, consisting of three independent non-Rigas directors, would conduct an internal investigation of transactions between Adelphia, the Rigases, and the Rigas Family Entities. All of the Rigases resigned their seats on Adelphia's Board, as well as their officer positions at Adelphia, shortly after this investigation commenced. On June 25, 2002, Adelphia and its subsidiaries filed a voluntary chapter 11 bankruptcy petition in the bankruptcy court for this district.
On July 24, 2002, the Rigases, as well as James Brown and Michael Mulcahey, former officers of Adelphia, were arrested by federal agents and charged with fraud, self-dealing and conspiracy to commit fraud in connection with their management of Adelphia. The SEC filed an action against the same defendants on the same day. On September 23, 2002, the Rigases, Brown and Mulcahey were indicted for conspiracy to commit securities fraud, wire fraud and bank fraud. See S.D.N.Y. Case No. 02 Cr. 1236 (LBS). Brown pled guilty to certain of these charges on November 4, 2002, admitting as part of a plea agreement that he had participated in a scheme to defraud Adelphia's creditors and investors by falsifying Adelphia's public financial disclosures, filing false statements with the SEC concerning Adelphia's business and finances, falsifying Adelphia's books and records, providing false and misleading information to Adelphia's auditors, and concealing the conversion and misappropriation of Adelphia's assets by various Adelphia officers. (R. 352-58.) On January 10, 2003, Timothy Werth, Adelphia's former director of accounting, also pled guilty to similar charges, admitting that he had falsified Adelphia's books and records, in concert with others.
The criminal trial of the Rigases and Mulcahey commenced before Judge Leonard Sand in this district in March 2004. On July 8, 2004, the jury found John Rigas and Timothy Rigas not guilty on the wire fraud counts and guilty on all other counts, and found Mulcahey not guilty on all counts. The jury found Michael Rigas not guilty on the wire fraud and conspiracy counts, and could not reach a unanimous verdict on the remaining counts against him.
II. Procedural History and the Record Below
A. The November 2002 TRO
In August 2002, Adelphia sought injunctive relief from the Bankruptcy Court to protect what it contended were estate assets. On September 10, 2002, following a hearing on August 26, 2002, Judge Gerber entered an order preliminarily enjoining the Rigases and any Rigas Family Entities from selling, transferring or encumbering any real property assets, based on a showing by Adelphia that such property may be part of the Adelphia bankruptcy estate. (R. 165-229; R. 230-32.) On November 25, 2002, after learning that the Rigases were exercising certain timber rights on some of the property covered by the September 10 Order, Adelphia moved the Bankruptcy Court for an emergency order restraining all assets of the Rigases and Rigas Family Entities, on the grounds that it appeared that some or all of such assets may properly be property of the Adelphia estate, and that the Rigases' non-compliance with discovery requests for information regarding those assets made a further accounting impossible. (R. 233-45.) Judge Gerber granted the requested relief ex parte for 24 hours, and a hearing was held on November 26, 2002, with all affected parties present. At the November 26 Hearing, Adelphia argued that, because the Rigases refused to provide an accounting of their assets based on an assertion of their Fifth Amendment privileges, an appropriate balancing of the interests of the estate with the interests of the Rigases would require an order freezing all Rigas and Rigas Family Entity assets, with appropriate carveouts on request for reasonable living expenses and attorneys' fees for their criminal and civil defense. (R. 527-45.)
In his oral ruling at the November 26 Hearing, Judge Gerber found that the affidavits submitted with Adelphia's November 25 Motion established a prima facie case that the Rigases used the Adelphia CMS to transfer hundreds of millions of dollars from Adelphia to themselves or to Rigas Family Entities and that the Rigases used co-borrowing facilities to make Adelphia jointly and severally liable for loans that primarily benefitted the Rigases personally. (R. 587-88.1.) Judge Gerber noted, however, that these factual findings were not "definitive" and were "certainly not of the type that could ever be used for any purpose other than the TRO application" before him, but that they were sufficient to support the entry of preliminary injunctive relief. (R. 588.1.) Finding that Adelphia had demonstrated a likelihood of success on the merits, a likelihood of irreparable injury absent the requested relief, and the balance of hardships tipping in favor of the debtors, at least if the requested relief were appropriately narrowed, Judge Gerber concluded that a TRO freezing all assets of the Rigases and Rigas Family Entities would be appropriate to protect the Adelphia bankruptcy estate, except that any "working property" such as office buildings or agricultural property would be permitted to use proceeds of the properties to pay ordinary course expenses, and the Rigases would be entitled to use whatever funds were necessary for reasonable living expenses and for their criminal and civil defense costs. (R. 588.3-88.6.) Judge Gerber directed counsel for Adelphia and for the Rigases to agree on a proposal for the use of authorized funds, and provided that, if agreement could not be reached, the Rigases were entitled to seek relief on "three hours notice" — in particular for any expenses related to their criminal defense. (R. 588.6.)
B. The August 2003 Modification
On July 16, 2003, in response to a letter from the Rigases' counsel (R. 589-97), Judge Gerber held a hearing to determine whether the Rigases were entitled to a modification of the TRO to permit the use of $15 million for their criminal and civil defense costs. At that hearing, counsel to the Rigases represented, without presenting evidence, that the Rigases had no cash assets to fund defense costs, that any real estate assets were insufficiently liquid to fund the immediate needs of the Rigases, and that they were seeking the $15 million from the cash flow of the Managed Entities — cable companies that the Rigases owned, but which were managed by Adelphia and which Adelphia claims are actually estate property. (R. 622-24, R. 650.) The Rigases argued that, first, the Managed Entities are owned by the Rigases and thus are assets covered by the TRO entered in November 2002; and, second, that because Adelphia manages the Managed Entities and controls their cash flow, Judge Gerber had the power to order Adelphia to release funds authorized by the Board of Directors of the Managed Entities. (R. 670-73.) The Rigases further argued that the emergency nature of the financial need obviated any requirement for briefing or evidentiary hearings on the obligations of Adelphia as manager of the Managed Entities, or the propriety of Adelphia's refusal, as manager, to carry out the directions of the record owners of the Managed Entities, as the management agreements allegedly provided. (R. 676.) Finally, the Rigases argued that, since the TRO covered all Rigas and Rigas Family Entity assets, if (as Adelphia claimed) other assets existed and ultimately all Rigas assets would be found to be property of the estate, no harm accrued to Adelphia from paying defense costs out of one pool rather than another. (R. 679-70.) In opposition, Adelphia argued that the Managed Entities were not cash-flow positive, after debt service payments and operating expenses, and that, since the Managed Entities participated in the Adelphia CMS, any money ordered to be paid from the Managed Entities to the Rigases would actually come out of the cash flow of Adelphia entities that also were part of the CMS. (R. 681-82.) Judge Gerber identified two legal issues presented by the Rigases' request for the $15 million: first, did he have the power to modify the TRO to allow the Rigases to pay defense costs from the cashflow of the Managed Entities; and, second, did he have the power to order Adelphia, as manager, to honor the Rigases' directions as owners. (R. 690.2-90.3.)
In briefing submitted after the hearing, the Rigases essentially repeated the arguments made at the July 16 Hearing (R. 691-704), and Adelphia supported its arguments by providing evidence that the Managed Entities did not have positive cashflow, and that, because of the interlocking nature of the CMS and the co-borrowing agreements, Adelphia would be essentially funding any withdrawal made by the Rigases, because any cash used for the Rigases would not be available for debt service payments, which would have to be made up by Adelphia. (R. 798-816.) Adelphia also argued that the Rigases should be required to make a greater showing of "need" for the requested funds — with "need" defined not as "need for funding," but as "inability to fund from other sources." (Id.) Numerous lending institutions and the Adelphia Creditors' Committee either joined in Adelphia's opposition to the Rigases' motion or filed their own briefs arguing that the motion should be denied.
On August 1, 2003, Judge Gerber held a further hearing and asked the parties to address five issues: (i) the split, if any, between funds of the Adelphia estate and funds of the Managed Entities in providing the requested $15 million; (ii) the extent to which he could or should address any corporate or partnership governance issues of the Managed Entities; (iii) whether granting the requested $15 million involved anything more than modifying the original TRO; (iv) whether the Rigases should be required to provide disclosure of their assets and to seek other sources of funding before drawing on the Managed Entities; and (v) whether certain defense costs should be covered and others should not. (R. 1682-83.)
The Rigases argued that the cashflow of the Managed Entities does not belong to Adelphia, that the court has no power to interfere with the governance of the Managed Entities, that relief beyond simply modifying the TRO was required, that the Court should not require any asset disclosure because it was irrational to believe that the Rigases had other assets for their defense but weren't using them, and, finally, that if costs had to be prioritized then criminal defense costs should come first. (R. 1698-1706.) In opposition, Adelphia noted that it was subsidizing the Managed Entities in the amount of approximately $13 million a month, because Adelphia was paying the Managed Entities' portion of the interest owed on co-borrowing facilities (although Adelphia acknowledged that it was jointly and severally liable for those payments such that they would have to be paid by Adelphia in any event, if the Managed Entities were unable to pay their share). (R. 1726-27, 1731.) Adelphia also argued that the Rigases' claim for payment or indemnity from the Managed Entities was not supported by the organizational documents of those entities, and that Adelphia's refusal thus far to release the requested funds should be challenged by the Rigases in Pennsylvania state court or Delaware Chancery Court as a corporate or partnership law matter, rather than ordered by the Bankruptcy Court as a bankruptcy law matter. (R. 1735-36.) As at previous hearings, counsel for Adelphia's bank lenders and its Creditors Committee supported Adelphia's position.
Judge Gerber ruled from the bench, following a recess. (R. 1808.) He concluded that the commitment made when entering the original TRO — that the order would not prejudice the Rigases' rights to defend themselves in the criminal and civil actions against them — required granting the Rigases' motion in material part. (R. 1809-11.) Judge Gerber rejected the primary arguments made by Adelphia — first, he ruled that the fact that Managed Entity cash flow runs through the CMS does not render that cash property of the estate (R. 1813-14); second, he concluded that the existence of liabilities owed by the Managed Entities does not alter the ownership of Managed Entity assets and the allocation of co-borrowing obligations pro rata to the Managed Entities does not mean that Adelphia is making payments on their behalf that it would not otherwise be obligated to make (R. 1814-17); third, he found that, since funds from the Managed Entities are not property of the estate, payment to the Rigases from those entities does not violate Adelphia's Debtor-in-Possession financing agreements (R. 1818); fourth, he ruled that no claim of breach of fiduciary duty by the Rigases with respect to the Managed Entities was properly before him (R. 1819-20); and, finally, he agreed, in part, with Adelphia's arguments regarding the Rigases' insufficient efforts at liquidating other possible assets, and required that they immediately list for sale or aggressively pursue mortgaging their real estate assets (R. 1821), but concluded that there was no need to override the Rigases' invocation of their Fifth Amendment rights and require full disclosure of their assets before granting the motion. (R. 1822-23.) After making these findings and conclusions, Judge Gerber modified the TRO to permit the Rigases to request money from the Managed Entities, and ordered Adelphia, as manager, to release the funds, relying as authority on the Bankruptcy Court's equitable powers over the debtor and its in rem power over funds in the debtors' custody. (R. 1826-27, 1829.) Judge Gerber then listed the purposes for which funds could be drawn on by the Rigases (primarily criminal defense costs, with some allowance for certain civil legal fees) (R. 1831-32), and admonished all parties that the order would be subject to reconsideration in the future if there were a material change in facts or a new need for additional funding, but not for any re-argument or reconsideration of the conclusions reached (R. 1830).
C. The September 2003 Stipulation
An order embodying the oral rulings at the August 1 Hearing was entered on August 7, 2003, and stayed for ten days to allow Adelphia to appeal the order to the district court. Adelphia did appeal that order on August 12, 2003, and the matter was assigned to Judge Denise Cote of this Court. Judge Cote held an initial conference on August 13, 2003, where Adelphia requested a stay pending appeal of the August 7 Order. (R. 1853.) Judge Cote set a briefing schedule and extended the stay until August 26, 2003. (R. 1863.) However, before Judge Cote issued any ruling, all parties agreed to a Stipulation, which was approved and so-ordered by Judge Gerber on September 2, 2003. (R. 1964-77.) The Stipulation provided that, as the Rigases, Adelphia, the Creditors' Committee and the pre-petition lenders wished to avoid further litigation regarding the use of Managed Entity funds to pay the Rigases' defense costs, (i) the Rigases could draw on Managed Entity funds for defense costs up to $15 million, consistent with the August 7 Order; (ii) the Managed Entities would have no further obligation to release funds to the Rigases, unless and until the August 7 Order was modified by the Bankruptcy Court; (iii) Adelphia would have full authority, "in its sole reasonable discretion," to manage the Managed Entities and would be granted an irrevocable appointment as attorney-in-fact for the Managed Entities to act on their behalf for all purposes, with certain exceptions not relevant here, until Adelphia emerged from bankruptcy; and (iv) Adelphia would withdraw its appeal of the August 7 Order. (Id.) The Stipulation also provided that "[n]othing herein shall be construed as an admission by any party of the validity of any claim, whether legal or factual, underlying the September 10, 2002 TRO, the November 26, 2002 TRO, the May 12, 2003 Stipulation and Order, or the August 7, 2003 Order, [and] the rights of [any party] to seek further relief in connection therewith are not prejudiced." (R. 1971.)
D. The March 2004 Modification
On January 30, 2004, the Rigases moved the Bankruptcy Court to modify the August 2003 Order to permit them to draw an additional $15 million from the Managed Entities in light of new developments that allegedly increased the costs of the Rigases' defense. (R. 1865-71.) Adelphia, as well as its Creditors' Committee and pre-petition lenders, opposed the motion. (R. 1884-2140.) Essentially the same arguments were made on both sides that were made in the prior briefing, except that Adelphia now argued that the September Stipulation vitiated the Rigases' previous argument that, but for Adelphia's control of the purse strings as manager and but for the asset freeze in the TRO, they would have been able to draw on the cash of the Managed Entities without court approval. (R. 1919-20.) Adelphia reiterated its previous positions that the Rigases had made no significant efforts to comply with the court's previous directives regarding disposition of other assets, and that, as the Managed Entities do not have positive cash flow, any payments are in effect coming out of the Adelphia estate. (R. 1923-27.)
Judge Gerber held a hearing on the Rigases' motion on February 18, 2004. After hearing argument from all sides, primarily concerning the need for additional funding for defense costs, Judge Gerber issued an oral ruling. (R. 2141-72.) He found, again, that the cashflow of the Managed Entities is not property of the Adelphia estate, although it is subject to various claims that Adelphia may have as to both the co-borrowing facilities and any alleged improper use of Adelphia funds by the Rigases to purchase or operate the Managed Entities. (R. 2172.) He granted the motion to further loosen the TRO to allow the Rigases to draw up to $12.8 million for criminal defense costs from the Managed Entities, and issued "what amounts to a mandatory injunction" to Adelphia, as manager, to release the funds. (Id.) Judge Gerber explicitly incorporated the findings and conclusions of the August 1 Hearing in his ruling on this motion, and noted that the present motion presented the same issues — specifically, whether the court could exercise its discretion to modify the TRO to unfreeze certain assets, and whether, as a matter of law, the court could order Adelphia to release the requested funds, although the latter issue was now complicated by the September Stipulation. (R. 2173.) Judge Gerber concluded that the Rigases had established, as contemplated by the August 2003 Order, a need for additional funds for criminal defense costs, given the changed circumstances. (Id.) He then concluded that, while the September Stipulation did eliminate any rights the Rigases may have had to direct Adelphia, as manager, to release funds from the Managed Entities, it did not prevent the Rigases from petitioning the court to so direct Adelphia. (R. 2175-76.) The oral ruling was embodied in an order dated March 9, 2004 (R. 2186-87), from which Adelphia appealed on the same date (R. 2188-92.)
E. The Stay Application
The appeal of the March 9 Order came before this Court first as a request for a stay pending appeal. In an oral ruling on March 22, 2004, the Court denied the stay request. As to the modification of the TRO's asset freeze, the Court held that Adelphia had not established a likelihood of success on the merits, and that the balance of harms weighed strongly in favor of the Rigases' need to defend themselves against serious criminal charges. (R. 2407-15.) As to the March 9 Order's direction to Adelphia, as manager, to release funds from the Managed Entities for those defense costs, the Court found that, although Adelphia had demonstrated a substantial possibility of success on the merits, the balance of equities and injuries, and the likelihood of irreparable harm, weighed even more strongly in the Rigases' favor, given the pressing and immediate need for criminal defense funds, and given the TRO's freeze of all other Rigas assets. (R. 2415-19.) The Court permitted the parties to file additional briefing on the merits of the appeal. Before the Court are Adelphia's appeal, and also a cross-appeal by the Rigases, arguing that Judge Gerber abused his discretion in limiting the March 9 Order to criminal defense costs and refusing to authorize additional funding for civil defense costs.
DISCUSSION
I. Standard of Review
The Court reviews the Bankruptcy Court's conclusions of law de novo and its findings of fact for clear error. See, e.g., In re Cody, 338 F.3d 89, 94 (2d Cir. 2003); In re 139-141 Owners Corp., 313 B.R. 364, 367 (S.D.N.Y. 2004); Fed.R.Bankr.P. 8013. In the context of reviewing the issuance of a preliminary injunction, or modifications thereto, the standard of review is abuse of discretion — which may be found where the Bankruptcy Court, in granting injunctive relief, has relied on clearly erroneous findings of fact or on an error of law. See, e.g., In re Baldwin-United Corp., 770 F.2d 328, 334 (2d Cir. 1985); In re Commodore Business Machines, 246 B.R. 476, 487 (S.D.N.Y. 2000).
Although Adelphia briefed the issue, there is no serious dispute that the March 2004 Order is a final order for purposes of the well-known standards for appeal of orders from the Bankruptcy Court, articulated by the Second Circuit in In re Integrated Resources, Inc., 3 F.3d 49 (2d Cir. 1993), among other cases.
II. Scope of Appeal
The appeal here is limited to Judge Gerber's March 2004 Order and does not include the original TRO or any previous modifications, for which the time to appeal has long passed. Furthermore, in the September Stipulation Adelphia expressly waived its right to appeal Judge Gerber's order directing it to release up to $15 million from the Managed Entities to the Rigas for payment of defense costs. The Rigases are thus correct when they argue that the August 2003 Order modifying the TRO and directing Adelphia to release those funds is now law of the case. (Rigas Mem. 16-18.) However, that limitation applies only to the $15 million authorized by the August 2003 Order. Contrary to the Rigases' contentions, the September Stipulation expressly preserves the parties' rights to challenge the validity of any legal or factual conclusion underlying any of the previous orders regarding the freezing or unfreezing of Rigas assets. (R. 1971.)See Coughlin v. Regan, 768 F.2d 468, 470 (1st Cir. 1985) (party may consent to a judgment while reserving rights on the underlying issues, provided the reservation of rights is explicit). In addition, Judge Gerber expressly incorporated the findings and conclusions underlying the August 2003 Order in his findings and conclusions regarding the March 2004 Order, many of which were considered anew in light of the assertions of changed circumstances because of the Managed Entities' cashflow, the September Stipulation, and the developments in various legal proceedings both civil and criminal. (R. 2173.) Accordingly, Adelphia is not barred from arguing that Judge Gerber abused his discretion in releasing funds from the Managed Entities to the Rigas in the March 2004 Order, and the Rigases are not barred from arguing that limiting the release to criminal defense costs only was an abuse of discretion.
III. The Merits
As Judge Gerber recognized, the March 2004 Order rests on two discrete, though related, conclusions, and thus presents at least two issues on Adelphia's appeal. (R. 2173.) First, whether Judge Gerber properly used his discretion to modify the TRO to release an additional $12.8 million from the total freeze on all Rigas and Rigas Family Entity assets, to be used by the Rigases solely for expenses directly related to their criminal defense (e.g., attorneys fees and expert and litigation consultant costs). Second, whether it was within the Bankruptcy Court's power, and correct as a matter of law, to designate the Managed Entities as the source of the funds intended to satisfy the $12.8 million carve-out, and to direct Adelphia, as manager, to release the designated funds. The Rigases, in their cross-appeal, raise a third issue: whether, assuming that each of the first two questions are answered in the affirmative, Judge Gerber abused his discretion by limiting the release of assets to criminal defense costs only, and not allowing any release of funds for civil defense costs. Each of these issues will be addressed in turn.
A. Authority to Modify the TRO
As to the first issue, it is clear that Judge Gerber did not abuse his discretion by modifying the asset freeze of the TRO to permit the Rigases access to an additional $12.8 million in assets to be used for their criminal defense. Although both sides' views of the issues on appeal seem to expand and contract somewhat depending on the implications for their position on the substantive issues at stake, neither party appears to question, at least on this appeal, the authority of the Bankruptcy Court to enter the original TRO freezing all Rigas and Rigas Family Entity assets. The release of $12.8 million in the March 2004 Order simply modifies the prior injunctive order, and does so in a way that was expressly contemplated by the prior order. In the context of the entire record here, this modification, taken alone, does not even approach abuse of discretion.
Bankruptcy courts, with the opportunity to observe closely the factual intricacies of complex cases such as this, and the frequent need to act quickly on matters of substantial importance to the parties in interest, are traditionally accorded great flexibility in the exercise of their legitimate powers over matters that affect a bankruptcy estate. Here, in September and November 2002, Judge Gerber decided to balance the equities between Adelphia and the Rigases in favor of Adelphia by imposing a TRO that froze all assets of the Rigases and any Rigas Family Entities. Both parties acknowledge that this type of total asset freeze is an extraordinary and dramatic provisional remedy.See, e.g., Grupo Mexicano v. Alliance Bond Fund, 527 U.S. 308 (1999). But Judge Gerber was explicit, in granting that remedy, that his order was not intended to deny the Rigases adequate funds for their reasonable living expenses and for the costs of defending themselves against the many pending civil and criminal actions against them. The August 2003 Order recognized this reservation in exempting $15 million for civil and criminal defense costs from the original TRO's asset freeze. The $12.8 million carveout authorized by the March 2004 Order is simply further recognition, consistent throughout the Bankruptcy Court's orders, findings and conclusions, that the original TRO was not intended to preclude the use of assets by the Rigases for criminal defense costs.
Decisions about the scope and enforcement of the original TRO's asset freeze are within the legitimate discretion of the Bankruptcy Court, marked by a complicated weighing of disputed facts and a careful balancing of the equities to all parties. The original asset freeze, as noted above, was an extraordinary action. Judge Gerber deemed such strong action necessary and appropriate to protect Adelphia and its creditors, with an explicit assumption that the rights of the Rigases to use assets to defend themselves not be infringed by the need to protect and preserve the Adelphia bankruptcy estate. In modifying the TRO, the Bankruptcy Court was not acting on a blank slate, but was addressing a request, based on allegedly changed circumstances regarding the unexpected cost of the defense, to increase the amount reserved for such costs. The principle, however, that such a carveout was appropriate was established from the time of the original order, and further established in August 2003, when the freeze was lifted as to the initial $15 million in defense costs.
Adelphia argues that Judge Gerber erred in not demanding a stronger showing to support the Rigases' purported need for additional funding for defense costs. But this Court cannot engage in a flyspecking review of every subsequent modification of the extraordinary protection granted to Adelphia in the original TRO, particularly, as here, where the availability of such modification is part of the original justification for the protective injunction; indeed, the TRO might not have been granted at all — a decision that would also have been within the Bankruptcy Court's discretion — without the reservation.
Adelphia appears to define the required "need" for any modification of the TRO as a showing that the Rigases have no "personal" assets to draw on for defense costs, or, at a minimum, a full accounting and disclosure of all available assets, before the granting of any carveout from the TRO. This argument conveniently ignores several salient facts: first, the plain language of the original TRO covers all assets owned or held by the Rigases or Rigas Family Entities, and thus any need for any assets to pay defense costs would require an application to Judge Gerber for a modification of the original TRO; and, second, the Rigases did present evidence to Judge Gerber, in the form of testimony by a number of the Rigases' attorneys, of their need for the requested carve-out, with "need" defined by Judge Gerber as "need for additional funds to pay for defense." (E.g., R. 2155-60.)
It would certainly have been within the Bankruptcy Court's discretion to demand additional information from the Rigases before modifying the TRO to release assets for their use. The Rigases have asserted their Fifth Amendment right not to respond to discovery seeking additional information about the nature and location of their assets. Although that is indeed their right, the Bankruptcy Court would have been perfectly entitled, for these purposes, to draw an adverse inference about the ability of the Rigases to pay the defense costs from other funds. See Baxter v. Palmigiano, 425 U.S. 308 (1976). Judge Gerber thus could have declined to modify the TRO in the absence of a more substantial showing that the Rigases were in compliance with the Bankruptcy Court's order and had no secreted assets.
Nevertheless, Judge Gerber's definition of "need" was not inappropriate, given the scope of the original TRO's freeze of assets. The Rigases made a strong showing that an expansion of the Government's criminal case against them accounted for the need to expand the sum originally provided. While Adelphia presents reasonable grounds to question this conclusion, it declined Judge Gerber's offer of an evidentiary hearing at which it could have further explored the legitimacy of that request. On the record here, the Court cannot conclude that Judge Gerber's factual finding as to the Rigases' need for an additional $12.8 million for their criminal defense was clearly erroneous.
Adelphia also argues that Judge Gerber's decision to grant the carveout without requiring asset disclosure was incorrect as a matter of law, and cites numerous cases in support of that proposition. (Adelphia Mem. 31-32.) However, these cases do not establish an ironclad rule that, as a matter of law, asset freezes may not be modified to release funds for legal expenses absent full disclosure — they merely demonstrate that other judges in other situations have balanced the equities in the matters before them and reached a different conclusion than that reached by Judge Gerber here. Judge Gerber evaluated the very serious circumstances facing the Rigases in their criminal case, considered the testimony of various legal counsel as to the nature of the legal services being provided, and, in the absence of contrary testimony, decided that the balance of equities weighed in favor of the Rigases. Considering all the circumstances here, the decision to grant a carveout from the TRO without additional disclosure, in the face of a Fifth Amendment claim, does not constitute reversible legal error.
As noted by this Court at the March 22 Hearing, this conclusion in no way diminishes the serious nature of the charges that the Rigases looted Adelphia at the expense of its legitimate creditors and investors. At least some of those charges have now been found true beyond a reasonable doubt by a jury in a criminal trial. However, despite the assertions by Adelphia in its briefing and at oral argument on March 17 that such allegations are "undisputed," Judge Gerber was quite clear at the time of the original TRO that his factual findings as to the need for and basis for the freeze of all Rigas assets were "not definitive" and "were certainly not of the type that could ever be used for any purpose other than the TRO application." (R. 588.1.)
Accordingly, on the issue of the March 2004 Order's carve-out of an additional $12.8 million from the original TRO's freeze of all assets, Adelphia has not established that Judge Gerber abused his discretion and this portion of the Order will be affirmed.
B. The Designation of the Managed Entities as the Source of Funds
The second issue raised on Adelphia's appeal is the designation of the Managed Entities as the source of the $12.8 million and the issuance of a mandatory injunction to Adelphia, as manager, to release the funds to the Rigases. Adelphia argues that this portion of the March 2004 Order either improperly orders the release of estate funds to the Rigases, or exceeds the jurisdiction of the Bankruptcy Court by ordering the release of non-estate property. (Adelphia Mem. 28-31, 43-44.) These arguments miss the heart of the issue. As noted above in Part III.B., the Bankruptcy Court did not abuse its legitimate discretion by releasing Rigas or Rigas Family Entity assets to be used for the payment of criminal defense costs. Furthermore, if Adelphia held such funds as custodian, it was within the Bankruptcy Court's broad jurisdiction over matters affecting the administration of the estate, and the enforcement of its own orders, to order debtors to release property that is in their custody to its rightful owners, particularly to the extent that, as here, such property was already subject to the control of the Bankruptcy Court under the original TRO. See 11 U.S.C. § 105(a); see also In re Casse, 198 F.3d 327, 336 (2d Cir. 1999) (section 105(a) is the basis for a broad exercise of power in the administration of a bankruptcy case, and was intended by Congress as the bankruptcy equivalent of the All Writs Act). Indeed, Adelphia, having sought and been granted the extraordinary relief of a total freeze of all Rigas assets on the grounds that those assets may ultimately be part of the Adelphia estate, is ill-placed to complain now that Judge Gerber has no authority to manage the consequences of that order by directing it to release certain non-estate assets.
However, Adelphia is not without recourse or argument on the specifics of the March 2004 Order. While the Bankruptcy Court had the discretion to alter the TRO and the authority to issue the injunction to Adelphia, it is far less clear that the basis for issuing that injunction was correct. The designation of the Managed Entities as the source for the $12.8 million carveout, and the direction to Adelphia to release those designated funds, can only be proper if the Rigases are legally entitled to those funds from that source. Reaching that conclusion requires that the Bankruptcy Court make several findings that, with a few exceptions, are either totally absent from the record here or lack a sufficient basis to be sustained on appeal.
First, the exceptions: Judge Gerber found as a factual matter that the Managed Entities and their cashflow are not, at present, property of the Adelphia bankruptcy estate; they are covered by the TRO as a means of preserving assets that may ultimately be claimed by Adelphia, but at the time of the March 2004 Order (as well as the August 2003 Order), they had not been determined to be property of the estate. (R. 1813-17, 2172.) This factual finding is not clearly erroneous — indeed, as narrowly construed it is not even challenged by Adelphia — and therefore must be accepted by this Court. Likewise, the finding that the Managed Entities' pro rata interest payments on the co-borrowings should not be counted when evaluating the existence of positive cashflow is not clearly erroneous. (Id.) When pressed, Adelphia's counsel acknowledged repeatedly in front of Judge Gerber that Adelphia is jointly and severally liable on these interest payments, and that Adelphia would have to pay the entirety of the interest owed if the Managed Entities did not pay their pro rata share, for whatever reason, subject only to a contribution claim that Adelphia may have against co-borrowers. (R. 1726-27, 1731.) This finding likewise will be left undisturbed on appeal.
However, these findings alone are not sufficient to support the designation of the Managed Entities as the source of payment on the $12.8 million, or the direction to Adelphia as manager to release the funds. All parties acknowledge that the Rigases are not entitled to have their defense costs paid out of Adelphia assets, and the Bankruptcy Court has no authority to alter property rights or other rights or duties under applicable non-bankruptcy law, except where such alteration is authorized by the Bankruptcy Code. See, e.g., In re Dairy Mart Convenience Stores, Inc., 351 F.3d 86, 92 (2d Cir. 2003) (although equitable powers are broad, section 105(a) "does not authorize the bankruptcy courts to create substantive rights that are otherwise unavailable under applicable law, or constitute a roving commission to do equity.") (internal citations omitted). Accordingly, in order to properly conclude that the Rigases were legally entitled to draw the $12.8 million from the Managed Entities, the Bankruptcy Court was required to reach at least two conclusions that are lacking in the present record.
First, the Bankruptcy Court should have determined whether the Managed Entities have sufficient cashflow to fulfill the $12.8 million demand without drawing on Adelphia assets. Because of the consolidated CMS, the cash of the Managed Entities is commingled with the cash of Adelphia and its subsidiaries, and the Managed Entities can thus continue to write checks from that CMS even if the businesses are in the red based solely on their own revenues and expenditures. Although there is some consideration of this issue in the record (R. 1926-27, 2143), the evidence provided is wholly insufficient to support a finding that the cashflow of the Managed Entities can satisfy the $12.8 million order without drawing on estate assets.
Second, the Bankruptcy Court should have determined whether the Rigases have some legal entitlement to the cashflow of the Managed Entities to pay their personal legal defense costs, either because of some dividend right available on account of their ownership interests or because of a right to indemnification for legal fees as officers and directors of those entities. Judge Gerber specifically rejected any obligation to reach these issues, suggesting that parties who objected to the release of funds to the Rigases should pursue their remedy in Pennsylvania state court or Delaware Chancery Court, and the parties at various times have agreed or disagreed with this position, as it suited their interests. (E.g., R. 1819-22, R. 2163.)
While the Court is sympathetic to the time-sensitive nature of the relief requested by the Rigases, at least as it was presented to the Bankruptcy Court, that sympathy does not obviate the need to at least examine the organizational documents of the Managed Entities to determine whether the Rigases had any legal entitlement whatsoever to cash withdrawals from their revenue. It is one thing to hold that the TRO must be modified to permit the Rigases to expend funds from their personal assets to defend themselves in litigation, and quite another to direct the management of various entities to cut checks to pay for that defense, where it is contested whether the Rigases have any right to those assets, and whether those entities have any obligation to indemnify the Rigases for those defense costs. Although, as Judge Gerber suggested, in the abstract another court may be better suited to resolve such disputes, if the Bankruptcy Court is going to use its discretionary equitable powers to exercise the fullest possible extent of its control over the debtor, it must first determine that, under the relevant contracts and applicable corporate or partnership law, it is awarding property only to those with a legitimate claim to it, and not using those equitable powers, in effect, to rewrite contracts and reorder property relations among non-debtor entities in a manner that is wholly unauthorized by the Bankruptcy Code. Failure to conduct such an inquiry is reversible error.
Furthermore, as Judge Gerber did not reach this issue, the thinness of the record does not permit this Court to resolve it, even if it were appropriate to do so. At present, the record largely consists of counsel for the Rigases saying "yes they do" and counsel for Adelphia saying "no they don't," with both sides at times attaching partial documentation of their positions and only addressing some portion of the relevant issues.
Accordingly, the portion of the March 2004 Order designating the Managed Entities as the source of the $12.8 million carveout and directing Adelphia, as manager, to release those funds to the Rigases are vacated and remanded to the Bankruptcy Court for further proceedings not inconsistent with this opinion.
C. Restriction of the Carveout to Criminal Defense Costs
Finally, the Rigases argue on their cross-appeal that Judge Gerber abused his discretion in limiting the amount of the carveout in the March 2004 Order to funds necessary to pay criminal defense costs, without providing any funds for civil defense costs. (April 2 Mem. 10-13.) This argument is meritless. The record reveals that the Rigases repeatedly failed to provide disclosure of assets requested by Adelphia, repeatedly failed to comply with Judge Gerber's clear directives to immediately liquidate or mortgage the hundreds of real estate assets that the public record reveals are owned by the Rigases or Rigas Family Entities, and, when pressed to explain the need for Managed Entity funds, elected to rely solely on the arguments of their counsel that it was "illogical" or "irrational" to believe the Rigases had other assets available because that would require believing that the Rigases would willingly commit "legal suicid[e]." (R. 1696-97, 1924-25, 2012, 2178.)
The Court recognizes that the Rigases justified many of these positions by invoking their Fifth Amendment rights against self-incrimination, and the Court does not question those rights or the Rigases' entitlement to exercise them. However, the exercise of one's Fifth Amendment privilege is not without consequences, as many courts have recognized in similar situations. See, e.g., Securities Exchange Comm'n v. Cherif, 933 F.2d 403, 417 (7th Cir. 1991) (court may draw adverse inferences in civil context from invocation of Fifth Amendment rights, and denial of request for civil defense funding from frozen assets not an abuse of discretion where defendant has refused to provide requested information pursuant to the Fifth Amendment); United States v. Ianniello, 824 F.2d 203, 208 (2d Cir. 1987) (negative inference from invocation of Fifth Amendment rights is permissible in context of civil proceedings). Here, Judge Gerber used his discretion to protect the Rigases from many of the possible negative consequences of exercising those privileges, and heavily weighted his balancing of the equities in this case toward providing the Rigases whatever funds they requested for the best criminal defense that money could buy. This Court has denied Adelphia's appeal on those issues. However, on similar reasoning, the Court cannot conclude that Judge Gerber's decision not to extend this ruling to provide additional funding of civil defense costs, in the face of the Rigases' continued refusal to make full disclosure of their assets or to comply with the Bankruptcy Court's directives regarding liquidity, was an abuse of discretion. The Rigases' argument that Judge Gerber "misapprehended" the nature of the civil defense request, which they assert was actually tied to the need for additional funding for criminal defense costs, is unconvincing. Nothing in the record indicates that Judge Gerber was in any way confused by the requests made. Accordingly, the Rigases' cross-appeal will be denied, without prejudice to their rights to make future requests to Judge Gerber for further modification of the TRO asset freeze.
CONCLUSION
For the reasons stated above, on Adelphia's appeal, the March 2004 Order is affirmed in part and vacated in part and remanded for further proceedings not inconsistent with this opinion. The Rigases' cross-appeal is denied.
SO ORDERED.