Batlan v. Transamerica Commercial Finance Corp., Civil No. 99-400-JO. Bankruptcy No. 395-35704-elp7. Adversary No. 97-3390.
| Decision Date | 17 August 1999 |
| Docket Number | Civil No. 99-400-JO. Bankruptcy No. 395-35704-elp7. Adversary No. 97-3390. |
| Citation | 237 BR 765 |
| Parties | Michael B. BATLAN, Trustee for the Bankruptcy Estate of Smith's Home Furnishings, Plaintiff, v. TRANSAMERICA COMMERCIAL FINANCE CORPORATION, Defendant. |
| Court | U.S. District Court — District of Arizona |
Johnston A. Mitchell, Bullivant, Houser, Bailey, Pendergrass & Hoffman, Portland, OR, Kenneth N. Klee, K. John Shaffer, Stutman, Treister & Glatt, Los Angeles, CA, for Plaintiff.
Jennifer L. Palmquist, Garvey, Schubert & Barer, Portland, OR, for Defendant.
Plaintiff-appellant Michael Batlan ("trustee"), the trustee of the debtor's bankruptcy estate in In re Smith's Home Furnishings, Inc., Bankr.Ct. Case No. 395-35704-elp7, appeals a final decision by the bankruptcy court in favor of defendant-appellee Transamerica Commercial Finance Corporation ("TCFC") in an adversary proceeding, Batlan v. Transamerica Commercial Finance Corporation, B.C. Adv. Pro. No. 97-3390-elp7. Pursuant to 28 U.S.C. § 158(c)(1), TCFC elected to have the appeal heard by this court instead of the bankruptcy appellate panel; consequently, this court has jurisdiction over the appeal pursuant to 28 U.S.C. § 158(a)(1).1
The debtor, Smith's Home Furnishings, Inc. ("Smith's"), filed a petition for relief under chapter 11 of the Bankruptcy code on August 22, 1995 (the "Petition Date"). Smith's attempt to reorganize failed, and on October 11, 1995, the bankruptcy case was converted to a chapter 7 liquidation and the trustee was appointed.
Through his investigation, the trustee learned that during the 90 days before the Petition Date (a period referred to as the "preference period"), Smith's had reduced its debt to TCFC, one of its primary secured creditors, by making 36 separate payments totaling $12,842,438.96. On March 12, 1997, the trustee demanded return of the money. When TCFC refused, on July 29, 1997, the trustee commenced an adversary proceeding, seeking to avoid the transfers as preferential under Bankruptcy Code section 547(b)(5), and to recover the preferential transfers for the benefit of Smith's other creditors under Bankruptcy Code 550(a).
Before trial, the parties stipulated to a Joint Statement of Agreed Facts. The effect of the stipulation was to eliminate any dispute of fact as to four of the five elements necessary to demonstrate a preferential transfer under section 547(b)(5). The case proceeded to trial on the fifth element (discussed below), and (as relevant) on TCFC's one remaining affirmative defense, the "improvement of position" defense under section 547(c)(5).
A two-day trial was held May 6 and 7, 1998, before Judge Perris. In a letter opinion issued September 10, 1998, Judge Perris ruled that the trustee failed to prove that TCFC received a greater percentage as a result of the 36 payments and that, therefore, the transfers were not "preferential" within the meaning of section 547(b)(5). In so ruling, Judge Perris found TCFC to be a secured creditor; that the TCFC's collateral should be valued based upon its liquidation value; and that although the cost of liquidation should be deducted, the trustee had failed to produce evidence from which the costs of liquidation could be determined. Based upon these findings, Judge Perris ruled that the trustee had failed to prove the 36 payments were preferential and, consequently, that she need not consider TCFC's affirmative defense.
On September 16, 1998, the trustee filed a motion for reconsideration. As a result of the motion, the bankruptcy court amended the findings to correct certain typographical and calculation errors, but otherwise confirmed the judgment in favor of TCFC. The trustee timely filed a notice of appeal of the bankruptcy court judgment on October 16, 1998.
Smith's was in the business of selling electronic goods, furniture, appliances, and related accessories. Smith's had 19 retail stores and two distribution warehouses located in Oregon, Washington, and Idaho. In the fiscal year ending January 31, 1995, Smith's sales exceeded $261 million. In the seven months that culminated in Smith's chapter 11 filing, Smith's had sales of approximately $122.5 million.
TCFC was one of Smith's primary lenders for nearly a decade. TCFC financed Smith's purchases of a variety of brand name retail merchandise consisting primarily of electronic goods and appliances, including televisions, stereo equipment, and computers (the "Prime Inventory"). TCFC held a first priority lien in the Prime Inventory and the proceeds from it. TCFC also held a blanket lien on Smith's other assets, junior only to the prime collateral liens of Smith's other secured creditors. Because TCFC held a "floating lien" and made frequent advances to Smith's, the value of TCFC's collateral and the amount of Smith's debt were constantly changing.
Under the terms of its loan documents, TCFC advanced credit to Smith's by granting approval to various manufacturers. After receiving approval from TCFC, the manufacturer would ship products to Smith. When Smith's sold products financed by TCFC, Smith's would pay TCFC the wholesale invoice cost of each product sold. However, Smith's did not earmark its receipts or segregate funds for payment of any of its creditors. Instead, at the end of each day Smith's deposited the proceeds of the day's sales into commingled bank accounts. First Interstate Bank ("FIB"), Smith's revolving line of credit financier, would sweep the commingled bank accounts daily, leaving them with zero overnight balances. If sufficient collateral were available the next day, FIB would advance new funds to Smith's. From these advances, Smith's obtained funds to pay its operating expenses and its creditors, including TCFC. Thus, Smith did not make the disputed 36 payments to TCFC directly from proceeds of sale of TCFC's collateral.
Beginning in 1994, Smith's fortunes began to change for a variety of reasons, including rapid expansion, increased competition, bad publicity, and unskilled management, and Smith's sales continually fell short of projections. Smith's financial problems were aggravated by "ever-tightening" credit terms imposed by its major creditors. During the fiscal year ending January 31, 1995, Smith's suffered pre-tax losses of nearly $14 million. During the next seven months, Smith's suffered additional pre-tax losses of more than $16.5 million.
TCFC began to express serious concerns about Smith's financial condition in late 1994. In March 1995, TCFC notified Smith's that it had reduced Smith's line of credit from $25 million to $20 million. TCFC further reduced Smith's line of credit to $15 million in May 1995, and to $13 million by August 1995. During this same time period, TCFC demanded substantial pay downs of Smith's obligations. Smith's complied, paying TCFC essentially all of its available cash. In all, Smith's made 36 payments totaling $12,842,438.96 to TCFC during the period from May 26, 1995, through August 21, 1995.
On August 18, 1995, TCFC declared a final default, accelerated the entire debt Smith owed, and sought a receiver for the company. In the receivership action, TCFC also sought, for the first time, to require Smith's to segregate the proceeds from the sale of TCFC's collateral.
On August 22, 1995, Smith's filed a petition for relief under chapter 11. The bankruptcy filing left thousands of creditors holding in excess of $57 million in scheduled claims, including over a million dollars in unpaid taxes, employee wages, and customer deposit claims.
All of Smith's stores closed on the Petition Date, and many never reopened. Smith's continued to operate some stores for about a month after filing the chapter 11 petition. On October 5, 1995, Smith's closed its doors permanently and ceased operations. On October 11, 1995, the case was converted to a chapter 7 liquidation, and the trustee was appointed.
As of the Petition Date, Smith's had reduced its outstanding obligation to TCFC to $10,728,809.96. During the few weeks Smith's operated under chapter 11, Smith's paid TCFC an additional $1,568,659.47 from sales of TCFC's collateral. After the October 11 conversion, the trustee allowed TCFC and the other collateralized creditors to liquidate their collateral. TCFC obtained relief from the automatic stay and took possession of the Prime Inventory and the remaining collateral that was subject to TCFC's blanket security interest. TCFC then liquidated substantially all of its collateral, yielding additional gross proceeds of $9,254,351.11. TCFC asserted a deficiency of $412,633 after receiving the proceeds of the liquidation.
Smith's bankruptcy case currently is "administratively insolvent" in that there are insufficient assets in the estate to pay chapter 11 administrative expenses in full. Further, no distributions will be made on account of any pre-petition claims, unless the trustee were to recover the disputed amounts paid to TCFC during the 90 day preference period. Hence, the present appeal.
As stated, the parties entered into a Joint Statement of Agreed Facts for purposes of trial. See Appellee's Excerpts of Record, Tab 6. As pertinent to the issues on appeal, the parties stipulated that:
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