In re United Air Lines, Inc.

• Decision Date: 06 July 2006
• Docket Number: No. 05-1459.,05-1459.
• Citation: 453 F.3d 463
• Parties: In re: UNITED AIR LINES, INC., Debtor. United Air Lines, Inc., Plaintiff-Appellant, v. Hsbc Bank USA as paying agent, and City and County of Denver, Defendants-Appellees.
• Court: U.S. Court of Appeals — Seventh Circuit

453 F.3d 463

In re: UNITED AIR LINES, INC., Debtor United Air Lines, Inc., Plaintiff-Appellant, v. Hsbc Bank USA as paying agent, and City and County of Denver, Defendants-Appellees.

No. 05-1459.

United States Court of Appeals, Seventh Circuit.

Argued February 16, 2006.

Decided July 6, 2006.

Harold L. Kaplan, Gardner, Carton & Douglas, Chicago, IL, William W. Kannel, Timothy J. Langella (argued), Mintz, Levin, Cohn, Ferris, Glovsky & Popeo, Boston, MA, Douglas W. Jessop, Jessop & Company, Denver, CO, for Appellees.

James H.M. Sprayregen, Marc Kieselstein (argued), Colby Kingsbury, Kirkland & Ellis, Chicago, IL, for Debtor-Appellant.

Before BAUER, EASTERBROOK, and MANION, Circuit Judges.

MANION, Circuit Judge.

In 1992, to operate at the then-new Denver International Airport, United Air Lines, Inc., entered an agreement entitled the "Special Facilities and Ground Lease" with the City and County of Denver (collectively "Denver"). Through this agreement, United leased ground space and also certain, to-be-built facilities at the airport. Instead of building the facilities at issue itself, Denver agreed to have United build the facilities that United would be using. To fund this construction by United, Denver issued tax-exempt municipal bonds, raising $261,415,000 for the project. United services these bonds indirectly through the payment of "facilities rentals" under the lease. After United entered bankruptcy in 2002, the true nature of this agreement became a point of dispute. In an adversary proceeding before the bankruptcy court, United sought to have the bond-related portions of the agreement severed from the rest of the agreement and treated as a loan rather than a lease for purposes of § 365 of the Bankruptcy Code, 11 U.S.C. § 365. The bankruptcy court ruled that the agreement could not be severed, and it further concluded that, taken as a whole, the agreement was a lease. The district court affirmed. United appeals, and we affirm.

I.

To set the stage for the background and analysis that follows, it is helpful to explain briefly the importance of the lease-versus-loan distinction in this bankruptcy context. When a debtor's lease is at issue, "[a] lessee must either assume the lease and fully perform all of its obligations, or surrender the property. 11 U.S.C. § 365. A borrower that has given security, by contrast, may retain the property without paying the full agreed price. The borrower must pay enough to give the lender the economic value of the security interest; if this is less than the balance due on the loan, the difference is an unsecured debt. See 11 U.S.C. § 506(a) and § 1129(b)(2)(A)." United Airlines, Inc. v. HSBC Bank USA, N.A., 416 F.3d 609, 610 (7th Cir.2005).¹

With that, we turn to the more important details of the Denver-United agreement, the "Special Facilities and Ground Lease." Signed on October 1, 1992, the agreement is for a thirty-one-year term expiring on October 1, 2023, with an optional nine-year extension to October 1, 2032. The primary purpose of the agreement was to facilitate United moving into and operating at the then-new Denver International Airport for the aforementioned term. To that end, Denver, as owner of the underlying ground, leased forty-five acres to United and also leased certain, to-be-built facilities, including a terminal/concourse facility, an aircraft maintenance facility, a ground equipment maintenance facility, a flight kitchen, and an air freight facility. Throughout, the agreement refers to the ground and facilities jointly as the "leased property."

United's payments for its use of the ground are straightforward. United pays monthly "ground rentals," which are based upon a per-square-foot rate and the cost of common-use items that Denver provides for the entire airport, e.g., trash removal, snow removal, law enforcement, etc. United pays the ground rentals directly to Denver, the landlord. This portion of the agreement, as United admits, has all the hallmarks of a true lease for purposes of § 365.

United's payments for the facilities are slightly more involved, which is primarily due to the fact that, at the inception of the lease, the facilities still had to be built. To construct the facilities at issue, Denver conceivably could have raised bond money, used that money to build the facilities itself, and then charged United a traditional form of rent for United's use of the facilities. Denver did not do that. Instead, it raised bond money—which, as municipal bonds, paid tax-exempt interest—and then turned that money, totaling $261,415,000, over to United so that United could build the facilities that United would be using for the term of the lease. Still, the ownership and title of the facilities rest with Denver, and, when the lease ends, possession of the facilities reverts to Denver.

To all this, there is an additional layer of intricacy. Theoretically, Denver could have collected traditional rental payments from United for the use of the facilities and then used that source of income to service the bonds itself. That did not happen here. Instead, Denver forwent that revenue stream and, in lieu of traditional rental payments, had United make payments to service the bonds, albeit indirectly. The parties' agreement refers to these bond-related payments as "facilities rentals." The amount and timing of the facilities rentals correspond to the amounts and deadlines associated with the payment of interest and principal on the bonds. Denver does not collect the facilities rentals. Rather, United pays the facilities rentals to a third party, called the "paying agent." The current paying agent is HSBC Bank USA, N.A. Consistent with the parties' framework, United's payments to the paying agent are "for the account of" (on behalf of) Denver as the municipality that issued the bonds. The paying agent is then tasked with making the necessary distributions to the underlying bondholders.

These arrangements appear to have been working smoothly until United entered bankruptcy in 2002. Then, to avoid having the bond-related facilities rentals treated like lease obligations under § 365, United instituted an adversary proceeding against Denver and the paying agent, seeking a declaratory judgment in its favor. After discovery, each side moved for summary judgment. The bankruptcy court first determined that the bond-related portions of the agreement could not be severed from the agreement. That determination required the bankruptcy court to view the agreement as one integrated whole, and, in that light, the bankruptcy court concluded that the agreement had to be treated as a lease for § 365 purposes. The bankruptcy court thus granted summary judgment to Denver and the paying agent. The district court affirmed, and United appeals.

II.

United's objective as debtor here is to avoid having its bond-related, facilities obligations in the agreement treated as lease obligations under § 365. There is no dispute that, to reach such a result in the context of this case, United must clear two hurdles. First, the bond-related portions of the agreement must be severable from the rest of the agreement, which, with its traditional ground rentals, is indisputably a lease. Second, the substance of the agreement's facilities provisions must genuinely be that of a loan and not a lease.

As followers of the United bankruptcy saga will know, we confronted an issue similar to the second point above in each of our two prior published opinions concerning United's airport leases. The first two opinions of what is now a trilogy pertained to the San Francisco International Airport, United Airlines, 416 F.3d at 609, and the Los Angeles International Airport, In re United Air Lines, Inc., 447 F.3d 504 (7th Cir.2006).² While the cases share similarities, a critical distinction is the fact that the parties in the present case cemented their deal into one document. In the San Francisco and Los Angeles cases (in which we held two supposed lease arrangements to be secured loans), the underlying ground leases were addressed in separate documents. See United Airlines, 416 F.3d at 611, 618; In re United Air Lines, 447 F.3d at 505-06. Not so here. As recounted above, Denver and United tied their ground and facilities arrangements into a single contract. Therefore, the first order of business in this opinion is to determine if this knot should, or even can, be untied.

Contract severability, as the bankruptcy and district courts correctly pointed out, is a question of state law. See United Airlines, 416 F.3d at 615 (citing Butner v. United States, 440 U.S. 48, 99 S.Ct. 914, 59 L.Ed.2d 136 (1979)); see also, e.g., In re Payless Cashways, 203 F.3d 1081, 1084-85 (8th Cir.2000); Stewart Title Guar. Co. v. Old Republic Nat'l Title Ins. Co., 83 F.3d 735, 739 (5th Cir.1996); In re Qintex Entm't, Inc., 950 F.2d 1492, 1496 (9th Cir. 1991); In re Gardinier, Inc., 831 F.2d 974, 975-76 (11th Cir.1987). The choice-of-law clause in the Denver-United agreement indicates that the state law to be applied here is that of Colorado, and the parties agree that Colorado contract law governs the severability issue at hand.

The next matter to address is the standard of appellate review, a point raised at oral argument. To do so, we must determine if we are confronting a question of law or fact or some mixture thereof. Some Colorado appellate opinions, as discussed at oral argument, have treated contract-severability rulings as questions of fact, reviewing those rulings in a manner akin to the federal clearly-erroneous standard. See John v. United Adver., Inc., 165 Colo. 193, 439 P.2d 53, 54, 56 (1968); Peterson v. Colo. Potato Flake & Mfg. Co., 164 Colo. 304, 435 P.2d 237, 238 (1967); L.U. Cattle Co. v. Wilson, 714 P.2d 1344, 1346, 1349 (Colo.Ct.App.1986). However, those opinions were reviewing bench trials in which the severability dispute turned on the trial court's factual findings. By contrast, when trial...