Lionel Corp., In re, 517

• Citation: 722 F.2d 1063,11 Bankr.Ct.Dec. 553
• Decision Date: 29 November 1983
• Docket Number: D,No. 517,517
• Parties: 9 Collier Bankr.Cas.2d 941, 11 Bankr.Ct.Dec. 553, Bankr. L. Rep. P 69,510 In re the LIONEL CORPORATION, Lionel Leisure, Inc., Consolidated Toy Company, Debtors. The COMMITTEE OF EQUITY SECURITY HOLDERS, Appellant, v. The LIONEL CORPORATION, Applicant-Appellee, Peabody International Corporation, Committee of Unsecured Creditors and Securities and Exchange Commission, Appellees. ocket 83-5060.
• Court: United States Courts of Appeals. United States Court of Appeals (2nd Circuit)

Page 1063

722 F.2d 1063

9 Collier Bankr.Cas.2d 941, 11 Bankr.Ct.Dec. 553,

Bankr. L. Rep. P 69,510

In re the LIONEL CORPORATION, Lionel Leisure, Inc.,

Consolidated Toy Company, Debtors.

The COMMITTEE OF EQUITY SECURITY HOLDERS, Appellant, v. The LIONEL CORPORATION, Applicant-Appellee,

Peabody International Corporation, Committee of Unsecured

Creditors and Securities and Exchange Commission, Appellees.

No. 517, Docket 83-5060.

United States Court of Appeals, Second Circuit.

Argued Oct. 31, 1983.

Decided Nov. 29, 1983.

Laurence J. Kaiser, Kronish, Lieb, Shainswit, Weiner & Hellman, New York City (Richard Lieb, New York City, of counsel), for respondent-appellant The Committee of Equity Security Holders.

Leonard J. Connolly, Olwine, Connelly, Chase, O'Donnell & Weyher, New York City, for applicant-appellee Lionel Corp.

Gary Blum, Finley, Kumble, Wagner, Heine, Underberg, Manley & Casey, New York City (Michael V. Blumenthal, David M. Friedman, New York City, of counsel), for respondent-appellee Peabody Intern. Corp.

Alan B. Miller, Weil, Gotshal & Manges, New York City (Marcia L. Goldstein, Tonny K. Ho, New York City, of counsel), for respondent-appellee Committee of Unsecured Creditors.

Jerome Feller, New York City, Asst. Regional Administrator, S.E.C. (Paul Gonson, Sol., Anne E. Chafer, Asst. Gen. Counsel, Ruth S. Epstein, Sp. Counsel, Bruce Kohn, Atty., S.E.C., Washington, D.C., of counsel), for appellee, S.E.C.

Before MANSFIELD, CARDAMONE and WINTER, Circuit Judges.

CARDAMONE, Circuit Judge:

This expedited appeal is from an order of United States District Judge Dudley B. Bonsal dated September 7, 1983, approving an order entered earlier that day by the United States Bankruptcy Court for the Southern District of New York (Ryan, J.). The order authorized the sale by Lionel Corporation, a Chapter 11 debtor in possession, of its 82% common stock holding in Dale Electronics, Inc. to Peabody International Corporation for $50 million. ¹

I--FACTS

On February 19, 1982 the Lionel Corporation--toy train manufacturer of childhood memory--and two of its subsidiaries, Lionel Leisure, Inc. and Consolidated Toy Company, filed joint petitions for reorganization under Chapter 11 of the Bankruptcy Code. Resort to Chapter 11 was precipitated by losses totalling $22.5 million that Lionel incurred in its toy retailing operation during the two year period ending December 1982.

There are 7.1 million shares of common stock of Lionel held by 10,000 investors. Its consolidated assets and liabilities as of March 31, 1983 were $168.7 million and $191.5 million, respectively, reflecting a negative net worth of nearly $23 million. Total sales for 1981 and 1982 were $295.1 million and $338.6 million. Lionel's creditors hold approximately $135.6 million in pre-petition claims, and they are represented in the ongoing bankruptcy proceedings by an Official Creditors' Committee whose 13 members hold $80 million of those claims. The remaining $55 million is scattered among thousands of small creditors.

Lionel continues to operate its businesses and manage its properties pursuant to 11 U.S.C. Secs. 1107-1108, primarily through its wholly-owned subsidiary, Leisure. Leisure operates Lionel's presently owned 56 specialty retail stores, which include a number of stores formerly managed by Lionel's other subsidiary, Consolidated Toy. In addition to the stock of Leisure and Consolidated Toy, Lionel has other assets such as the right to receive royalty payments relating to the manufacture of toy trains.

Lionel's most important asset and the subject of this proceeding is its ownership of 82% of the common stock of Dale, a corporation engaged in the manufacture of electronic components. Dale is not a party to the Lionel bankruptcy proceeding. Public investors own the remaining 18 percent of Dale's common stock, which is listed on the American Stock Exchange. Its balance sheet reflects assets and liabilities as of March 31, 1983 of $57.8 million and $29.8 million, respectively, resulting in shareholders equity of approximately $28.0 million. Lionel's stock investment in Dale represents approximately 34 percent of Lionel's consolidated assets, and its interest in Dale is Lionel's most valuable single asset. Unlike Lionel's toy retailing operation, Dale is profitable. For the same two-year period ending in December 1982 during which Lionel had incurred its substantial losses, Dale had an aggregate operating profit of $18.8 million.

On June 14, 1983 Lionel filed an application under section 363(b) seeking bankruptcy court authorization to sell its 82% interest in Dale to Acme-Cleveland Corporation for $43 million in cash. Four days later the debtor filed a plan of reorganization conditioned upon a sale of Dale with the proceeds to be distributed to creditors. Certain issues of the reorganization remain unresolved, and negotiations are continuing; however, a solicitation of votes on the plan has not yet begun. On September 7, 1983, following the Securities and Exchange Commission's July 15 filing of objections to the sale, Bankruptcy Judge Ryan held a hearing on Lionel's application. At the hearing, Peabody emerged as the successful of three bidders with an offer of $50 million for Lionel's interest in Dale.

The Chief Executive Officer of Lionel and a Vice-President of Salomon Brothers were the only witnesses produced and both testified in support of the application. Their testimony established that while the price paid for the stock was "fair," Dale is not an asset "that is wasting away in any sense." Lionel's Chief Executive Officer stated that there was no reason why the sale of Dale stock could not be accomplished as part of the reorganization plan, and that the sole reason for Lionel's application to sell was the Creditors' Committee's insistence upon it. The creditors wanted to turn this asset of Lionel into a "pot of cash," to provide the bulk of the $70 million required to repay creditors under the proposed plan of reorganization.

In confirming the sale, Judge Ryan made no formal findings of fact. He simply noted that cause to sell was sufficiently shown by the Creditors' Committee's insistence upon it. Judge Ryan further found cause-- presumably from long experience--based upon his own opinion that a present failure to confirm would set the entire reorganization process back a year or longer while the parties attempted to restructure it.

The Committee of Equity Security Holders, statutory representatives of the 10,000 public shareholders of Lionel, appealed this order claiming that the sale, prior to approval of a reorganization plan, deprives the equity holders of the Bankruptcy Code's safeguards of disclosure, solicitation and acceptance and divests the debtor of a dominant and profitable asset which could serve as a cornerstone for a sound plan. The SEC also appeared and objected to the sale in the bankruptcy court and supports the Equity Committee's appeal, claiming that approval of the sale side-steps the Code's requirement for informed suffrage which is at the heart of Chapter 11.

The Creditors' Committee favors the sale because it believes it is in the best interests of Lionel and because the sale is expressly authorized by Sec. 363(b) of the Code. Lionel tells us that its ownership of Dale, a non-operating asset, is held for investment purposes only and that its sale will provide the estate with the large block of the cash needed to fund its plan of reorganization.

From the oral arguments and briefs we gather that the Equity Committee believes that Chapter 11 has cleared the reorganization field of major pre-plan sales--somewhat like the way Minerva routed Mars--relegating Sec. 363(b) to be used only in emergencies. The Creditors' Committee counters that a bankruptcy judge should have absolute freedom under Sec. 363(b) to do as he thinks best. Neither of these arguments is wholly persuasive. Here, as in so many similar cases, we must avoid the extremes, for the policies underlying the Bankruptcy Reform Act of 1978 support a middle ground--one which gives the bankruptcy judge considerable discretion yet requires him to articulate sound business justifications for his decisions.

II--DISCUSSION

The issue now before this Court is to what extent Chapter 11 permits a bankruptcy judge to authorize the sale of an important asset of the bankrupt's estate, out of the ordinary course of business and prior to acceptance and outside of any plan of reorganization. Section 363(b), the focal point of our analysis, provides that "[t]he trustee, after notice and a hearing, may use, sell, or lease, other than in the ordinary course of business, property of the estate." 11 U.S.C. Sec. 363(b) (Supp. V 1981).

On its face, section 363(b) appears to permit disposition of any property of the estate of a corporate debtor without resort to the statutory safeguards embodied in Chapter 11 of the Bankruptcy Code, 11 U.S.C. Sec. 1101 et seq. (Supp. V 1981). Yet, analysis of the statute's history and over seven decades of case law convinces us that such a literal reading of section 363(b) would unnecessarily violate the congressional scheme for corporate reorganizations.

A. Bankruptcy Act of 1867--the "Perishable" Standard

An early statutory reference providing for the sale of a debtor's property prior to final liquidation of the estate in limited circumstances was Section 25 of the Bankruptcy Act of 1867 (Act of March 2, 1967, 14 Stat. 517). Congress there stated:

"And be it further enacted, That when it appears to the satisfaction of the court that the estate of the debtor, or any part thereof, is of a perishable nature, or liable to deteriorate in value, the court may order the same to be sold, in such manner as may be deemed most expedient, under the direction of the messenger or assignee, as the case may be, who shall hold the funds received in place of the estate disposed of ...." (emphasis added and in original).

The 1867 Act did not...