Avery v. West (In re Noram Resources, Inc.)

• Decision Date: 07 November 2011
• Docket Number: Case No. 08-38222,Adversary No. 10-03701
• Parties: In re: NORAM RESOURCES, INC., et al, Debtor(s). MARK AVERY, et al, Defendant(s). v. WILLIAM G. WEST, Plaintiff(s)
• Court: U.S. Bankruptcy Court — Southern District of Texas

IN RE: NORAM RESOURCES, INC., et al, Debtor(s).MARK AVERY, et al, Defendant(s).

v.WILLIAM G. WEST, Plaintiff(s)

Adversary No. 10-03701

Case No. 08-38222

UNITED STATES BANKRUPTCY COURT FOR THE SOUTHERN DISTRICT OF TEXAS HOUSTON DIVISION

SIGNED November 7, 2011

Judge Isgur

Chapter 7

MEMORANDUM OPINION

William West, the chapter 7 Trustee for Debtors Ausam Energy Corp. and Noram Resources, Inc., has sued Mark Avery, Ralph Davis, Robert Eriksson, William Hitchcock, Richard Lummis, and Alastair Robertson (collectively, "Directors"), alleging that they breached their duty of care as officers and directors of Ausam. The Directors have filed motions to dismiss all of the Trustee's claims for failure to state a claim on which relief can be granted. ECF Nos. 34 & 43. The Court grants, in part, the Directors' motions to dismiss. As to the claims against Hitchcock, Eriksson, and Davis, the Court converts the motions to dismiss to motions for summary judgment and requires the parties to file stipulations. The Court will issue an order on all claims after the parties have filed stipulations.

Background

The Trustee alleges that the Directors acted negligently as officers and directors of Ausam. The allegations center around three major events. The Court does not assume the truthof the allegations and reports them solely for the purposes of determining whether the Trustee has stated claims.

First, the Directors allegedly caused the purchase of a large number of oil and gas leases ("SKH Leases") from SKH Management L.P.; SKH Management II, L.P.; SKH Management III, L.L.C.; SKH Energy Fund, L.P.; and Antares Exploration Fund, L.P. (collectively, "SKH") without sufficient investigation or safeguards. Ausam executed an Asset Purchase Agreement ("APA") with SKH for the purchase of the SKH Leases. The Directors did not hire title counsel before the purchase, relying instead on the services of a landman. When the landman alerted the Directors to potential title problems, the Directors did not investigate. According to the Trustee, the Directors could have acquired the SKH Leases at a reduced price if they had adequately investigated. The Directors also could have required SKH to correct the title defects. After the execution of the APA, the Directors did not pursue legal remedies against SKH.

Second, the Directors allegedly caused Ausam to invest in the Rice University No. 1, A-393 IH well ("Rice Well") at a time when Ausam was experiencing financial difficulties. The well turned out to have numerous mechanical problems, and ultimately it was a commercially dry well.

Finally, the Directors allegedly caused Ausam to pay excessive salaries and bonuses at a time when Ausam was already losing money. Many of Ausam's executives' salaries were significantly higher than national averages.

The Trustee is suing the Directors for breach of the duty of care. ECF No. 33, at 19. The Court construes the Trustee's claims as negligence claims and analyzes the sufficiency of the Trustee's allegations with respect to each of the three major events: the purchase of the SKH Leases, the investment in the Rice Well, and the executive compensation decisions. ¹

Bankruptcy Court's Authority

This Court may not issue a final order or judgment in matters that are within the exclusive authority of Article III courts. Stern v. Marshall, 131 S.Ct. 2594, 2620 (2011). The Court may, however, issue interlocutory orders, even in proceedings in which the Court does not have authority to issue a final judgment.

The Court may also exercise authority over essential bankruptcy matters under the "public rights exception." Under Thomas v. Union Carbide Agricultural Products Co., a right closely integrated into a public regulatory scheme may be resolved by a non-Article III tribunal. 473 U.S. 568, 593 (1985). The Bankruptcy Code is a public scheme for restructuring debtor-creditor relations, necessarily including "the exercise of exclusive jurisdiction over all of the debtor's property, the equitable distribution of that property among the debtor's creditors, and the ultimate discharge that gives the debtor a 'fresh start' by releasing him, her, or it from further liability for old debts." Central Va. Cmty. College v. Katz, 546 U.S. 356, 363-64 (2006); see Northern Pipeline Constr. Co. v. Marathon Pipe Line Co., 458 U.S. 50, 71 (1982) (plurality opinion) (noting in dicta that the restructuring of debtor-creditor relations "may well be a 'public right'"). But see Stern, 131 S.Ct. at 2614 ("We noted [in Granfinanciera, S.A. v. Nordberg, 492 U.S. 33, 56 n.11 (1989)] that we did not mean to 'suggest that the restructuring of debtor-creditor relations is in fact a public right.'").

Many bankruptcy proceedings likely fall outside the public rights exception. The Supreme Court has held that a fraudulent conveyance suit, filed under § 548 of the Bankruptcy Code against a party that had not filed a claim against the estate, fell outside the public rights exception. Granfinanciera, 492 U.S. at 55-56. The public rights exception is likely even more limited when claims are asserted under non-bankruptcy law. After Stern, the Court's authority over state-law matters (or, in this case, foreign-law matters) is particularly questionable.

Final adjudication of this adversary proceeding likely does not fall within the Bankruptcy Court's constitutional authority. The Trustee asserts that his claims are core proceedings under 28 U.S.C. § 157(b)(2)(A), (B), (C), and (O). Even if the Trustee's claims fall within the statutory core authority of the Bankruptcy Court, the statutory grant of authority is likely unconstitutional under Stern.

Three of the Directors filed proofs of claim in the Debtors' bankruptcy cases. Avery and Davis filed claims against Ausam and Noram for salary and severance. Claim Nos. 33-1 & 34-1. Davis claims $310,820.82, of which $43,000.00 is the 2008 bonus allegedly due under his employment contract. Avery claims $361,303.08, of which $41,250.00 is the 2008 bonus allegedly due under his employment contract. These claims are closely connected to the Trustee's claims relating to executive compensation and bonuses. The factual issues involved in the Trustee's claims could also be involved in a challenge to Avery and Davis' claims against the estate. However, the larger issue of whether the Directors breached the duty of care through their compensation decisions would not necessarily be resolved through the adjudication of Avery and Davis's claims against the estate, and the executive compensation claims do not fall within the Court's authority. See Stern, 131 S.Ct. at 2618 ("Congress may not bypass Article III simply because a proceeding may have some bearing on a bankruptcy case; the question iswhether the action at issue stems from the bankruptcy itself or would necessarily be resolved in the claims allowance process.").

Hitchcock filed a claim for "monies loaned." Claim No. 55-1. He asserts that Noram owes him $1,020,713.33. Hitchcock's claim against the estate does not appear to be intertwined with any of the Trustee's claims against the Directors. The other Directors did not file claims against the estate.

This proceeding is not integrally bound up in the bankruptcy process. The Trustee's claims against the Directors are based entirely on Canadian law, and the Canadian-law character of the claims is in no way altered by bankruptcy law. Cf. Germain v. Conn. Nat'l Bank, 988 F.2d 1323, 1330 (2d Cir. 1993) (holding that, with respect to jury rights, a creditor's consent to a bankruptcy court's in rem jurisdiction transforms the character of the claim from legal to equitable, but that this transformation does not affect "disputes that are only incidentally related to the bankruptcy process"). Under Stern, the Bankruptcy Court probably does not have constitutional authority to enter a final judgment in this adversary proceeding.

However, the Court has the authority to decide a motion to dismiss. The Court does not enter a final judgment with respect to any claim; the constitutional limitations on the Court's authority to enter final judgments are not implicated.

Procedural History

Ausam and Noram filed chapter 11 bankruptcy petitions on December 30, 2008. Case Nos. 08-38222 & 08-38223. The bankruptcy cases are jointly administered. The cases were converted to chapter 7 cases on February 26, 2009. ECF No. 70. William West was appointed chapter 7 Trustee ("Trustee") on February 27, 2009.

The Trustee filed this adversary proceeding against the Directors on December 29, 2010, asserting claims for breach of the duty of care and seeking both actual and punitive damages. ECF No. 1. The Trustee filed the First Amended Complaint on February 15, 2011. ECF No. 14. Avery, Davis, Hitchcock, and Lummis filed a motion to dismiss on March 2, 2011. ECF No. 22. The Trustee filed a response on April 5, 2011. Eriksson and Robertson joined in the motion to dismiss on April 18, 2011. ECF No. 24. The Directors filed a supporting reply on April 19, 2011. ECF No. 25.

At a hearing on April 20, 2011, the Court noted that the First Amended Complaint likely did not state a claim with respect to executive compensation decisions because it did not plead any facts regarding specific salaries or bonuses. ECF No. 40, at 29-30. The Court stated that it would allow the Trustee to replead the executive compensation claim. ECF No. 40, at 29, 61 & 63. The Court expressed doubt about whether the Rice Well claim was sufficiently stated. ECF No. 40, at 63.

The Court and the parties also discussed the application of Canadian law to this case. The Court gave the parties time to file additional briefs on the standards governing the Trustee's claims under Canadian law. The Trustee and the Directors filed extensive additional briefing. ECF Nos. 26, 27, 28 & 29.

On May 23, 2011, the Court signed an order extending the Trustee's time to file amendments to the pleadings until May 31, 2011. The Directors were given until July 1,...