In re Fbi Distribution Corp.

• Decision Date: 27 May 2003
• Docket Number: No. 02-2054.,02-2054.
• Parties: In re: FBI DISTRIBUTION CORP., f/k/a Filene's Basement, Inc.; FBC Distribution Corp., f/k/a Filene's Basement Corp., Debtors. Kathleen Mason, Appellant, v. Official Committee of Unsecured Creditors, for FBI Distribution Corp. and FBC Distribution Corp., Appellee.
• Court: U.S. Court of Appeals — First Circuit

Page 36

330 F.3d 36

In re: FBI DISTRIBUTION CORP., f/k/a Filene's Basement, Inc.; FBC Distribution Corp., f/k/a Filene's Basement Corp., Debtors.

Kathleen Mason, Appellant, v. Official Committee of Unsecured Creditors, for FBI Distribution Corp. and FBC Distribution Corp., Appellee.

No. 02-2054.

United States Court of Appeals, First Circuit.

Heard January 8, 2003.

Decided May 27, 2003.

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Robert M. Trien, with whom Victor G. Milione, P.C., and Nixon Peabody, LLP, were on brief, for appellant.

Ronald R. Sussman, with whom Christopher A. Jarvinen, Kronish, Lieb, Weiner & Hellman, LLP, Joseph S.U. Bodoff, and Bodoff & Associates, were on brief, for appellees.

Before TORRUELLA, Circuit Judge, CAMPBELL and STAHL, Senior Circuit Judges.

STAHL, Senior Circuit Judge.

This case requires us to decide whether the Chapter 11 debtor in possession must pay in excess of $1.2 million in severance pay, pursuant to the terms of two prepetition contracts, as an administrative expense to an executive who was terminated after rendering postpetition services. We affirm the bankruptcy court's grant of summary judgment, denying administrative priority status to the executive's claim.

I

On May 17, 1999, Filene's Basement, Inc. (n/d/b/a FBI Distribution Corp.), then a wholly owned subsidiary of Filene's Basement Corp. (n/d/b/a FBC Distribution Corp.) (collectively, "debtors" or "debtor in possession"),¹ hired Kathleen Mason as President of Filene's Basement Division and Chief Merchandising Officer. Mason left a high-paying position as President of Home Goods, Inc., a subsidiary of TJX Companies, to join Filene's at a time when it was already experiencing financial difficulty.² As a prelude to her employment, the parties signed two written agreements: the Employment Agreement and the Retention Agreement. The Employment Agreement set the initial term of employment at three years and entitled Mason to an annual base salary of $400,000, in addition to fringe benefits, stock options, and bonuses, including a signing bonus of $100,000. It also provided that in the event Mason was terminated without cause, she was entitled to receive three years' salary and other fringe benefits. The Retention Agreement was essentially a golden parachute, which, in general terms, provided that should Mason's employment terminate following a qualifying "Change in Control," she would receive three years' salary plus other benefits, including legal fees and expenses.³

On August 23, 1999, Filene's Basement, Inc. and Filene's Basement Corp. filed for relief under Chapter 11 and continued to operate pursuant to sections 1107 and 1108 of the Bankruptcy Code, 11 U.S.C §§ 1107, 1108, as debtor in possession.⁴ Following the filing, Mason continued to render services pursuant to the prepetition Employment Agreement, for which she received her full salary and benefits owed thereunder. According to Mason, she was induced to remain with the company by the debtor in possession's postpetition promise that her two agreements "were in effect and would be honored." Mason also queried her counsel about the status of the two agreements; her counsel recommended that the debtor in possession seek formal bankruptcy court approval of the agreements. When Mason relayed her counsel's recommendation to the debtor in possession, she was allegedly told that both agreements had already been approved by them and that only the paperwork needed to be done before seeking court sanction.

In the meantime, the operations were quickly downsized: 35 of the 55 stores were closed shortly after the petition date, and in the wake of these closures, on November 9, 1999, Mason was notified that she was being put on "administrative leave," with pay, pending a motion to reject both agreements under 11 U.S.C. § 365. While the motion was under advisement, on February 2, 2000, the debtor in possession sold substantially all of its remaining assets to another corporation.

On February 25, 2000, the bankruptcy court granted the motion to reject the Employment Agreement but ruled that the Retention Agreement could not be rejected because that agreement was nonexecutory.⁵ The court agreed with Mason that the "Retention Agreement [could not] be considered executory because she ha[d] no performance obligations thereunder." Neither party appealed these rulings. Four days later, on March 1, 2000, Mason was terminated.

Mason then filed a "Request for Payment of Chapter 11 Expense," in which she claimed that her termination benefits specified in both agreements, including legal fees and expenses, were entitled to first priority as administrative expenses under 11 U.S.C. §§ 507 and 503(b)(1) because she was terminated after rendering postpetition services and after a qualifying change in control had taken place during the reorganization. In addition, she maintained that because the debtor in possession induced her to continue working by promising to honor the two agreements, they were bound by the terms of those agreements. The appellees, the Official Committee of Unsecured Creditors (the "Committee") for the estate, opposed the request, and both parties filed motions for summary judgment.

In a thorough, well-written opinion, the bankruptcy court granted summary judgment in favor of the Committee on the ground that the consideration supporting the termination clauses — Mason's agreement to forgo her employment opportunities at Home Goods, Inc. — was supplied to the debtors when Mason signed the two agreements; consequently, she had only a general unsecured claim for damages not entitled to administrative priority. The court also rejected her inducement argument as "implausible" given Mason's distrust of the debtor in possession and her consultations with counsel about the status of the two agreements. Finally, the court held that the general unsecured claim under the Employment Agreement was subject to the one-year cap pursuant to 11 U.S.C. § 502(b)(7).⁶ As for the Retention Agreement, the court held that Mason was entitled to benefits under the agreement since she was terminated subsequent to a qualifying change in control, but because the contract was nonexecutory, the rights springing from the agreement were prepetition general unsecured claims not entitled to administrative priority. Unlike the claim under the Employment Agreement, however, the claim was not subject to the one-year cap.⁷ On appeal, the United States District Court for the District of Massachusetts affirmed on a different ground, holding that Mason had failed to show that her postpetition services were "necessary to preserve the estate" under 11 U.S.C. 503(b)(1).

II

Our review of the district court's decision amounts to review of the bankruptcy court's decision in the first instance. Printy v. Dean Witter Reynolds, Inc., 110 F.3d 853, (1st Cir.1997); Hope Furnace Assocs., Inc. v. FDIC, 71 F.3d 39, 42-43 (1st Cir.1995). Because this case comes to us on a grant of summary judgment, we review the rulings de novo. Magarian v. Hawkins, 321 F.3d 235, 236 (1st Cir.2003).

A

The paramount objective of a Chapter 11 reorganization is to rehabilitate and preserve the value of the financially distressed business. Bildisco, 465 U.S. at 528, 104 S.Ct. 1188; Otte v. United States, 419 U.S. 43, 53, 95 S.Ct. 247, 42 L.Ed.2d 212 (1974). To accomplish this objective, subsection 507(a)(1) of the Bankruptcy Code, 11U.S.C. § 507(a)(1), grants first priority in the distribution of the limited assets of the estate to administrative expenses allowed under section 503, 11 U.S.C. § 503, which include "the actual, necessary costs and expenses of preserving the estate, including wages, salaries, or commissions for services rendered after the commencement of the case," 11 U.S.C. § 503(b)(1)(A). Congress recognized that granting first priority to administrative expenses would encourage creditors, otherwise wary of dealing with Chapter 11 businesses, to provide the goods and services required for successful rehabilitation. H.R.Rep. No. 595, 95th Cong., 1st Sess. 186, 186-87 (1977), U.S.Code Cong. & Admin.News 1978 at p. 5963; Cramer v. Mammoth Mart, Inc. (In re Mammoth Mart, Inc.), 536 F.2d 950, 954 (1st Cir. 1976). And since the estate's creditors who have pre-bankruptcy claims will presumably benefit more from rehabilitation than from liquidation, it is not surprising that those creditors bear the costs of the rehabilitation. Granting priority status, however, is contrary to the fundamental principle of bankruptcy law that the debtor's limited resources are to be distributed equally among similarly situated creditors, see H.R.Rep. No. 595, 95th Cong., 1st Sess. 186, (1977), U.S.Code Cong. & Admin.News 1978 at p. 5963; thus, statutory priorities are narrowly construed, and the burden of proving entitlement rests with the party seeking it. In re Hemingway Transp., Inc., 954 F.2d 1, 5 (1st Cir.1992).

B

In general, for a claim to qualify as an administrative expense under subsection 503(b)(1), (1) it must have arisen from a transaction with the trustee or debtor in possession, rather than from a prepetition transaction with the debtor, and (2) the consideration supporting the claim must have benefitted the estate in some demonstrable way. Id. at 5; Mammoth Mart, 536 F.2d at 954. Here, there was no postpetition agreement between Mason and the debtor in possession. As Mason stated, "it is undisputed that her postpetition services were rendered pursuant to her pre-petition employment agreement." In such circumstances, we need to explore the interplay between subsection 503(b)(1) and the Code's treatment of executory contracts under 11 U.S.C. § 365.

C

Subsection 365(a) allows a debtor in possession⁸, subject to the court's approval, to assume or to reject a prepetition executory contract. 11 U.S.C. § 365(a). The debtor in possession may make this decision at any time prior to the confirmation of the plan, unless ...