277 F.3d 838 (6th Cir. 2002), 00-5624, In re In re Cannon v. J. C. Bradford & Co.

Docket Nº:00-5624, 00-5895
Citation:277 F.3d 838
Party Name:In re: William Dunlap Cannon III, Debtor. George W. Stevenson, Trustee for William Dunlap Cannon III, Plaintiff-Appellant, v. J.C. Bradford & Company; J.C. Bradford Futures, Inc.; Charles Ross, Defendants-Appellees.
Case Date:January 18, 2002
Court:United States Courts of Appeals, Court of Appeals for the Sixth Circuit
 
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277 F.3d 838 (6th Cir. 2002)

In re: William Dunlap Cannon III, Debtor.

George W. Stevenson, Trustee for William Dunlap Cannon III, Plaintiff-Appellant,

v.

J.C. Bradford & Company; J.C. Bradford Futures, Inc.; Charles Ross, Defendants-Appellees.

Nos. 00-5624, 00-5895

United States Court of Appeals, Sixth Circuit

January 18, 2002

Argued: August 10, 2001

Appeal from the United States District Court for the Western District of Tennessee at Memphis. Nos. 99-02400; 99-02605--Julia S. Gibbons, District Judge.

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Michael P. Coury (argued and briefed), Saul C. Belz (briefed), Quitman R. Ledyard (briefed), Waring Cox, PLC, Memphis, TN, for Plaintiff-Appellant.

William J. Nissen (argued and briefed), R. Rene Pengra (briefed), Sidley & Austin, Chicago, IL, for Defendants-Appellees.

Before: KEITH, KENNEDY, and BATCHELDER, Circuit Judges.

OPINION

BATCHELDER, Circuit Judge.

In this opinion we address two separate appeals from judgments of the district court in an adversary proceeding commenced in the bankruptcy of William Dunlap Cannon III. In the first (No. 00-5624), George W. Stevenson in his capacity as trustee of the estate in bankruptcy sought to avoid certain fraudulent transfers pursuant to 11 U.S.C. § 548 (the "core proceeding"). See generally Stevenson v. J.C. Bradford & Co. (In re Cannon), 230 B.R. 546 (Bankr. W.D. Tenn. 1999). Following a bench trial the bankruptcy court entered judgment in favor of the trustee for $1,137,500 plus prejudgment interest. Id. at 599-600. See also Stevenson v. J.C. Bradford & Co. (In re Cannon), 232 B.R. 701, 709 (Bankr. W.D. Tenn. 1999). On appeal the district court ruled that the trustee had failed to establish that funds Cannon held in trust for clients constituted "an interest of the debtor in property" within the meaning of section 548(a) and reversed the judgment of the bankruptcy court.

In the second (No. 00-5895), the trustee asserted several claims under federal and

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state law against the defendants (the "non-core proceeding"). After trial the bankruptcy court made proposed findings of fact and conclusions of law recommending that the district court enter judgment in favor of the trustee for $2,361,736 in compensatory damages, $5 million in punitive damages, prejudgment interest, and reasonable attorneys' fees and costs. Stevenson, 230 B.R. at 601; 232 B.R. at 708-09. The district court sustained the defendants' objection that the trustee lacked standing to bring the non-core proceeding because the debtor could not have brought suit against the defendants. Accordingly, the district court dismissed the non-core proceeding. Stevenson timely filed notices of appeal from both judgments of the district court, and we consolidated the appeals for purposes of oral argument. For the reasons that follow, we will affirm the judgments of the district court.

I. Statement of Facts

William Dunlap Cannon III practiced law in Memphis, Tennessee, for over twenty years before filing for bankruptcy in February 1994. Cannon's practice consisted almost entirely of real estate closings, and during the time periods relevant to this suit he averaged between 120 and 150 closings per month. Cannon maintained several escrow accounts to hold clients' funds deposited in connection with real estate transactions. His principal escrow account was at United American Bank ("UAB") and titled "William Dunlap Cannon III--Real Estate Escrow Account II." Cannon also maintained at least two similarly titled escrow accounts with First Tennessee Bank ("First Tennessee"). As a result of the volume of Cannon's closings, between $5 million and $10 million per month flowed through these accounts. Cannon understood that he was a fiduciary with respect to the funds deposited in escrow and that the accounts served the sole purpose of receiving and disbursing funds in connection with real estate transactions. As a matter of practice, Cannon collected his legal fees earned in connection with closings by depositing checks drawn on the escrow accounts into his law office's separate account maintained at First Tennessee.

By the mid-1980s, Cannon had begun to use funds in his escrow accounts to pay various personal and business expenses. Initially, Cannon misappropriated the "float" in the escrow accounts.1 By the Fall of 1986, the escrow accounts had a deficiency of approximately $400,000 to $500,000; but, the size of the float generated by the volume of Cannon's real estate closing business concealed the shortfall.

In October 1986 Cannon opened a brokerage account with J.C. Bradford Futures, Inc., a wholly owned subsidiary of J.C. Bradford & Co. (collectively "Bradford"), to trade commodity futures. Prior to opening his account with Bradford, Cannon met with Charles Ross, the head of Bradford's Memphis office, and Freddie Norman, who discussed with Cannon a system the two had developed while at Merrill Lynch for forecasting trends in commodities markets and timing trades. At their meeting Ross and Norman explained their system, showed Cannon an impressive hypothetical annual rate of return of 100% to 200%, advised Cannon to take every trade recommended by the system, and informed Cannon that he might

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incur substantial short-term losses that he could readily recoup by sticking with the system for a long period of time.

On the basis of these representations, Cannon opened an account and gave Ross and Norman discretion to enter into commodities transactions within the parameters recommended by the system. Cannon's application for the Bradford commodity account shows that Cannon had an annual income of more than $250,000 and a net worth, excluding the value of his home, of between $500,000 and $1 million. It also reveals that Cannon had no prior experience in trading commodities. Although Bradford had a policy of not accepting corporate checks, the record reflects that all of the checks that Cannon deposited into his brokerage account with Bradford came from one of his escrow accounts with UAB or First Tennessee.

By early 1987 Cannon's account had lost over 50% of the funds invested. After increasing the size of his positions, Cannon recovered these losses over the next two years. In September 1990 Cannon ceased trading in his Bradford commodity account. By this point in time, Cannon had realized a profit of $12,454, representing an annual rate of return of approximately 3.3%.

As losses from Cannon's business ventures and other investments mounted, the deficiency in the escrow accounts reached approximately $1.5 million by the Spring of 1992. Cannon could no longer rely on float to conceal the shortfall in the escrow accounts, so he began to take more aggressive measures. First, Cannon held closing checks to generate float.2 As the deficiency increased and Cannon became increasingly dependent on new funds to cover the checks being held on prior closings, Cannon began kiting checks to increase the balance in the escrow accounts.3 In addition to kiting between accounts with UAB and First Tennessee, Cannon opened accounts with several out-of-town banks.

Desperate for a way out of his predicament, Cannon resumed commodities trading in March 1992 based on representations that Ross and Norman had improved their system. As Cannon again sustained losses, he made margin calls and covered positions with checks drawn on the escrow accounts at UAB and First Tennessee. Cannon realized the impropriety and illegality of using the escrow accounts in this way, and he depended upon deposits from new closings to pay off the parties to earlier transactions. At various points when Cannon experienced large losses, Ross and other managers with Bradford sought explanations for Cannon's use of checks drawn on the escrow accounts, but never confirmed Cannon's verbal assurances that

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the accounts contained his own money, even though Cannon had previously indicated to Ross that he was trading with borrowed funds. By February 1994 Cannon had sustained gross trading losses of $2.36 million and net trading losses of more than $1 million. In turn, the losses increased the pressure on Cannon's practice to make up the deficit in the escrow accounts by delaying payments on closings and kiting checks. Cannon's trades generated brokerage commissions of $286,876 for Bradford.

Cannon's scheme came to an end when UAB informed Cannon on February 3, 1994, that it would no longer cover overdrafts, immediately credit his account upon presentation of a check, or transfer funds among his accounts. See Lawyers Title Ins. Corp. v. United Am. Bank of Memphis, 21 F.Supp.2d 785, 790-91 (W.D. Tenn. 1998) (stating the facts in a related civil case). Shortly thereafter Cannon bounced two checks at First Tennessee, which then returned all checks presented for payment on Cannon's accounts and terminated Cannon's accounts on February 17, 1994. See First Tenn. Bank, N.A. v. Stevenson (In re Cannon), 237 F.3d 716, 718 (6th Cir. 2001) (stating the facts in a related case in which the trustee sought to avoid a preferential transfer). As a result of these actions, Cannon voluntarily suspended his license to practice law and filed a voluntary petition for bankruptcy under Chapter 7 on February 25, 1994. See Lawyers Title Ins. Corp., 21 F.Supp.2d at 791. The Supreme Court of Tennessee disbarred Cannon effective August 1, 1994. Id. In 1995 Cannon pleaded guilty in federal court to charges of embezzlement, mail fraud, wire fraud, and bank fraud and began serving a sentence of forty-two months imprisonment.4

A. The Condition of the Escrow Accounts When Cannon Filed for Bankruptcy

At the time Cannon filed his...

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