Pinnacle Rest. At Big Sky, LLC v. CH SP Acquisitions, LLC (In re Spanish Peaks Holdings Ii, LLC)

• Decision Date: 13 July 2017
• Docket Number: No. 15-35572.,15-35572.
• Citation: 872 F.3d 892
• Parties: In the MATTER OF SPANISH PEAKS HOLDINGS II, LLC, Debtor. Pinnacle Restaurant at Big Sky, LLC; Montana Opticom, LLC, Plaintiffs-Appellants, v. CH SP Acquisitions, LLC; Ross P. Richardson, Ch. 7 Trustee, Defendants-Appellees.
• Court: U.S. Court of Appeals — Ninth Circuit

872 F.3d 892

In the MATTER OF SPANISH PEAKS HOLDINGS II, LLC, Debtor.Pinnacle Restaurant at Big Sky, LLC; Montana Opticom, LLC, Plaintiffs-Appellants,

v.CH SP Acquisitions, LLC; Ross P. Richardson, Ch. 7 Trustee, Defendants-Appellees.

No. 15-35572.

United States Court of Appeals, Ninth Circuit.

Argued and Submitted April 6, 2017—Seattle, Washington

Filed July 13, 2017

Amended September 12, 2017

Mark A. Lindsay (argued) and David W. Ross, Babst Calland Clements and Zomnir P.C., Pittsburgh, Pennsylvania, for Plaintiffs-Appellants.

James F. Wallack (argued) and Peter D. Bilowz, Goulston & Storrs PC, Boston, Massachusetts; Steven M. Johnson, Church Harris Johnson & Williams P.C., Great Falls, Montana; for Defendants-Appellees.

Before: Alex Kozinski and William A. Fletcher, Circuit Judges, and Frederic Block, District Judge.^*

OPINION

BLOCK, Senior District Judge:

The primary function of the Bankruptcy Code is to set out the rules for dividing up assets that are insufficient to pay a debtor's creditors in full. One such rule, contained in 11 U.S.C. § 363(f), authorizes a trustee in bankruptcy to sell—with some exceptions and limitations—a debtor's assets free and clear of third-party interests. Another, contained in 11 U.S.C. § 365(h), empowers the trustee to "reject"—that is, in effect, to breach—an unexpired lease of the debtor's property, but allows the lessee to retain any existing rights, including possession of the property.

In this case, we are called upon to decide what happens when property that the trustee proposes to sell is subject to unexpired leases. We hold that, on the facts of this case, section 363 applies and section 365 does not. We therefore affirm the bankruptcy court's conclusion that the sale was free and clear of the leases.

I

A. Pre-Bankruptcy Background

Spanish Peaks was a 5,700-acre resort in Big Sky, Montana, the brainchild of James J. Dolan, Jr., and Timothy L. Blixseth. The project was financed by a $130 million loan, which was secured by a mortgage and assignment of rents, from Citigroup Global Markets Realty Corp. ("Citigroup"). Citigroup later assigned the note and mortgage to Spanish Peaks Acquisition Partners, LLC ("SPAP").

A collection of interrelated entities owned the resort and managed its amenities, including a ski club, a golf course, and residential and commercial real-estate sales and rentals. At issue here are two leases of commercial property at the resort.

In 2006, Spanish Peaks Holdings, LLC ("SPH"), leased restaurant space to Spanish Peaks Development, LLC ("SPD"), for $1,000 per month. Dolan was an officer of both companies, and signed the lease for both lessor and lessee. A year later, SPH and SPD replaced the 2006 lease with a lease under which SPD received a 99-year leasehold in the restaurant property in exchange for $1,000 per year in rent. In 2008, SPD assigned its interest to The Pinnacle Restaurant at Big Sky, LLC ("Pinnacle"), a company specially created for that purpose.

In 2009, SPH leased a separate parcel of commercial real estate at the resort to Montana Opticom, LLC ("Opticom"), of which Dolan was the sole member. The lease had a term of sixty years and an annual rent of $1,285.

B. Bankruptcy Proceedings

Facing a shrinking real-estate market and mounting operational losses, SPH began to default on its loan payments. On October 14, 2011, SPH and two related entities—The Club at Spanish Peaks, LLC, which managed the resort's ski and golf facilities, and Spanish Peaks Lodge, LLC, which managed its real-estate sales—petitioned for bankruptcy protection under Chapter 7 of the Code.¹ The petitions were filed in Delaware, but the proceedings were transferred to the Bankruptcy Court for the District of Montana, where they were consolidated for joint administration.

SPH's largest creditor was, by far, SPAP, which had a valid claim of more than $122 million secured by the mortgage on the property. SPAP subsequently assigned its interest to CH SP Acquisitions, LLC ("CH SP").

The trustee and SPAP agreed to a plan for liquidating "substantially" all of the debtors' real and personal property. Their stipulation contemplated an auction with a minimum bid of $20 million. It further stated that the sale would be "free and clear of all liens."

The trustee then moved the bankruptcy court for an order authorizing and approving the sale.² The trustee represented that the proposed sale would be "free and clear of any and all liens, claims, encumbrances and interests," except for certain specified encumbrances, and that other specified liens would be paid out of the proceeds of the sale or otherwise protected.

The Pinnacle and Opticom leases were not mentioned in either the list of encumbrances that would survive the sale or the list of liens for which protection would be provided. Noting the omission, both companies objected to "any effort to sell the Debtors['] assets free and clear of [their] leasehold interests." They argued that the Code gave them the right to retain possession of the property notwithstanding the sale.

After a hearing, the bankruptcy court authorized the sale. It did not rule on Pinnacle's and Opticom's objection. Instead, further discussion of the claimed right to possession was deferred to the hearing on the motion to approve the sale.

Both the auction and the approval hearing took place on June 3, 2013. CH SP won the auction with a bid of $26.1 million. At the approval hearing, Pinnacle and Opticom renewed their claim that they were entitled to retain possession pursuant to their leases, and argued that language in the proposed approval order providing that the sale would be free and clear of those interests was inconsistent with their claimed right. In response, CH SP's principal testified that its bid was contingent on the property being free and clear of the leases, while the trustee testified that he did not "t[ake] a position" on that issue.

On June 13, 2013, the bankruptcy court entered an order approving the sale. Paragraph I of the order held that the sale was free and clear of any "Interests," a term defined to include any leases "(except any right a lessee may have under 11 U.S.C. § 365(h), with respect to a valid and enforceable lease, all as determined through a motion brought before the Court by proper procedure)."

Both sides moved for clarification of the approval order. Pinnacle and Opticom sought clarification that the order preserved their rights under the leases, while CH SP sought clarification that the order approved a sale free and clear of those interests. The bankruptcy court denied having ruled one way or the other, explaining that it would not consider the issue until the parties had "file[d] an appropriate motion, notice[d] the matter for hearing, and present [ed] their evidence."

The trustee then offered his version of an "appropriate motion," seeking leave to reject the Pinnacle and Opticom leases on the ground that the subject property was no longer property of the estate. CH SP, meanwhile, formally moved for a determination that the property was free and clear of the leases. Pinnacle and Opticom did not object to the trustee's motion, which was granted. They did, however, renew their previous arguments as objections to CH SP's motion.

After a two-day evidentiary hearing on that motion, the bankruptcy court made the following findings of fact:

• Pinnacle had not operated a restaurant on the property since 2011;

• Pinnacle's rent was far below the property's fair market rental value of $40,000 to $100,000 per year;

• Opticom's lease was not recorded;

• the leases were executed "at a time when all parties involved were controlled by James J. Dolan";

• the leases were the subject of bona fide disputes;

• Citigroup's mortgage was senior to the leases; and

• the leases were not protected from foreclosure of the underlying mortgage by subordination or non-disturbance agreements.

It further observed that Pinnacle and Opticom had not requested adequate protection for their leasehold interests prior to sale, and had at no time provided any evidence that they would "suffer any economic harm if their possessory interests [we]re terminated."

Based on those findings, the bankruptcy court—applying what it called a "case-by-case, fact-intensive, totality of the circumstances, approach"—held that the sale was free and clear of the Pinnacle and Opticom leases. Pinnacle and Opticom appealed to the district court, which affirmed.³ In a brief opinion, the district court held that the sale extinguished the leases because the foreclosure of a mortgage would, under Montana law, terminate any leasehold interests junior to the mortgage. This appeal followed.

II

The principal issue is whether the Pinnacle and Opticom leases survived the sale of the property to CH SP.⁴ Because that issue is ultimately one of statutory interpretation, we review the bankruptcy court's decision de novo. See Simpson v. Burkart (In re Simpson) , 557 F.3d 1010, 1014 (9th Cir. 2009) ; Robertson v. Peters (In re Weisman) , 5 F.3d 417, 419 (9th Cir. 1993) ("We independently review the bankruptcy court's decision and do not give deference to the district court's determinations.").

As we noted at the outset, the issue brings two sections of the Code into apparent conflict. Section 363 authorizes the trustee to sell property of the estate, both within the ordinary course of business, see 11 U.S.C. § 363(c), and outside it, see id. § 363(b).⁵ Sales may be "free and clear of any interest in such property of an entity other than the estate," id. § 363(f), but only if

(1) applicable nonbankruptcy law permits sale of such property free and clear of such interest;

(2) such entity consents;

(3) such interest is a lien and the price at which such property is to be sold is greater than the aggregate value of all liens on such property;

(4) such interest is in bona fide dispute; or

(5) such entity could be compelled, in a legal or equitable proceeding, to accept a money satisfaction of such interest.

Id. Upon the request of...