Cadle Co. v. Moore (In re Moore), 13–10325.

• Court: United States Courts of Appeals. United States Court of Appeals (5th Circuit)
• Writing for the Court: EMILIO M. GARZA
• Citation: 739 F.3d 724
• Parties: In the Matter of James H. MOORE, III, Debtor. The Cadle Company, Appellant v. James H. Moore, III; Elizabeth A. Moore; JHM Properties, Incorporated; Brunswick Homes, L.L.C., Appellees.
• Docket Number: No. 13–10325.,13–10325.
• Decision Date: 09 January 2014

739 F.3d 724

In the Matter of James H. MOORE, III, Debtor.
The Cadle Company, Appellant
v.
James H. Moore, III; Elizabeth A. Moore; JHM Properties, Incorporated; Brunswick Homes, L.L.C., Appellees.

No. 13–10325.

United States Court of Appeals,
Fifth Circuit.

Jan. 9, 2014.

[739 F.3d 725]

Bruce K. Thomas, Law Office of Bruce K. Thomas, Dallas, TX, for Appellant.

David Mark Pyke, Pyke & Associates, Amanda Christine Bullington, Pyke & Associates, John T. Palter, Kimberly M.J. Sims, Attorney, Palter Stokley Sims Wright, P.L.L.C., Dallas, TX, for Appellees.

Appeal from the United States District Court for the Northern District of Texas.
Before DAVIS, GARZA, and DENNIS, Circuit Judges.

[739 F.3d 726]

EMILIO M. GARZA, Circuit Judge:

The Cadle Company (“Cadle”) is a creditor of the bankruptcy estate of James H. Moore, III (“Moore”). Cadle originally brought suit against Moore in state court. After Moore filed for bankruptcy, Cadle removed its action to the bankruptcy court and allowed the estate's trustee to assert its claims. Over Cadle's protests, the trustee sought to settle the claims, and Cadle ultimately re-acquired them at auction. But the bankruptcy court then found that Cadle had paid the trustee's attorney's fees even after the two had become adverse over the settlement issue, and dismissed the adversary proceeding based on its inherent power to sanction a party for abuse of judicial process. The district court affirmed, and Cadle appeals. We reverse the district court, vacate the order of dismissal, and remand to the bankruptcy court.

I

Cadle, an Ohio corporation, is the largest creditor of Moore's bankruptcy estate. Prior to Moore's filing for bankruptcy, Cadle sued Moore, Brunswick Homes, LLC (“Brunswick”), Moore's spouse, and JHM Properties (collectively, “defendants”) in Texas state court. Under state-law theories of fraudulent conveyance, constructive trust, and reverse veil piercing, Cadle alleged that Moore had used Brunswick and the other entities to shield assets and avoid payment of debts. The law firm of Bell Nunnally & Martin LLP (“BNM”) represented Cadle in this suit.¹

Moore subsequently filed for bankruptcy. Cadle then removed its action to the bankruptcy court, where Cadle and Brunswick each filed proofs of claim. Cadle allowed the estate's trustee to assert the company's claims; the trustee was substituted as plaintiff in the adversary proceeding (“avoidance action”) and engaged Cadle's counsel at BNM to serve as special counsel. Accordingly, Attorney Bruce Akerly (“Akerly”) of BNM filed a special employment application indicating that BNM would represent the trustee on a contingency basis and that BNM owed fiduciary duties to only the trustee, not Cadle. Yet soon thereafter, in November 2006, BNM sent Cadle a letter confirming that Cadle would pay BNM's fees for its representation of the trustee, which fees would be reimbursed by BNM in the event of a positive outcome.

Also at this time, BNM began representing Cadle in a separate, ultimately successful action to deny Moore's discharge (“discharge action”). See11 U.S.C. § 727. Toward the end of the discharge action, BNM filed a motion to withdraw as special counsel to the trustee in the avoidance action. BNM's stated reason was that Cadle had refused to pay certain expenses—namely, fees for retaining an expert forensic accountant. As the bankruptcy court later noted, BNM's claim that Cadle had a duty to cover expenses in the avoidance action was inconsistent with both the special employment application, which stated that BNM would work only on a contingent-fee basis, and the (yet undisclosed) November 2006 letter, which obligated Cadle to pay only BNM's fees, not expenses. At the hearing on BNM's motion to withdraw, a BNM attorney explained that “Cadle instructed [BNM] that they didn't want [BNM] to do anything that would benefit the trustee from a cost and expense standpoint.” The bankruptcy court denied BNM's motion to withdraw, noting the absence of any agreement obligating Cadle to pay either BNM's fees or litigation expenses,

[739 F.3d 727]

and expressing suspicion that Cadle cared more about success in the discharge action than in the avoidance action.²

A half-year later, the trustee announced a settlement agreement in the avoidance action. Under the agreement, the defendants would collectively pay the trustee $37,500. Subsequently, Cadle, through a new attorney, objected to the settlement and offered to buy back its claims for $50,000. At a hearing on the settlement motion, a Cadle employee testified about Cadle's $60,000 fee payments to BNM for its representing the trustee. The trustee later testified that he was “shocked” at learning about the fees and promptly requested Akerly to disclose the arrangement. Akerly never did so, and the issue was not explored further at the time.

The bankruptcy court approved the settlement, and the district court affirmed. On appeal, BNM represented the trustee, and the new, non-BNM attorneys represented Cadle. Akerly departed BNM, and in his stead, a first-year BNM associate presented oral argument on behalf of the trustee before the panel. The panel reversed the district court's judgment and remanded, holding that the bankruptcy court erred by refusing to consider as an available option the sale of the claims to Cadle for an amount greater than the settlement offer. Mims, 608 F.3d at 266. On remand, the bankruptcy court permitted an auction, and Cadle acquired the claims for $41,500.

At the sale order hearing following the auction, the bankruptcy court's suspicions about conflicts of interest resurfaced. Akerly, purportedly on behalf of the trustee, sought a continuance in the adversary proceeding's trial date. The trustee had not instructed Akerly to seek a continuance, which appeared to benefit Cadle, who wanted more time to prepare for trial as the new plaintiff. The bankruptcy court approved the sale but ordered a short continuance and requested that Cadle address the apparent conflict of interest. At a hearing later that month, a Cadle employee testified that the company had continued to pay BNM's fees for approximately one year after becoming adverse to the trustee on the settlement issue. The employee explained that, in December 2008, a Cadle manager had discovered the payments and informed BNM that they would stop, and that the last payments were made in February 2009.

Thereafter, Moore and Brunswick filed a motion to dismiss on grounds of abuse of judicial process. They alleged, in addition to the improper fee payments, that BNM might have taken a “dive” during oral arguments on the previous appeal by having the first-year associate present oral argument. After a three-day evidentiary hearing, the bankruptcy court dismissed the adversary proceeding based on its inherent power to sanction a party for abuse of judicial process. The district court affirmed, and Cadle now appeals.

II

Cadle first contends that the bankruptcy court had no constitutional authority to enter final judgment in this case.

“We review a district court's affirmance of a bankruptcy court decision by applying the same standard of review to the bankruptcy court decision that the district court applied.” In re Frazin, 732 F.3d 313, 317 (5th Cir.2013) (citation omitted). We review conclusions of law de

[739 F.3d 728]

novo and factual findings for clear error. Id.

Article III of the Constitution places certain constraints on the statutory powers of bankruptcy courts. The Supreme Court recently clarified these Article III constraints in Stern v. Marshall, ––– U.S. ––––, 131 S.Ct. 2594, 180 L.Ed.2d 475 (2011). The Court held that notwithstanding the bankruptcy court's statutory authority under § 157(b)(2)(C) to adjudicate an estate's counterclaim against a creditor, the bankruptcy court had no constitutional authority to enter final judgment on a state-law counterclaim because it would “not [be] resolved in the process of ruling on a creditor's proof of claim.” Id. at 2620;see also In re Frazin, 732 F.3d at 317–320.

Cadle contends that under Stern, the bankruptcy court lacked constitutional authority to enter final judgment because the avoidance action originated from and is based entirely upon state law and is thus wholly independent of the bankruptcy proceeding. We disagree. The bankruptcy court had authority to enter final judgment because Cadle's state-law claims “would necessarily be resolved in the claims allowance process.” Id. at 2618. In Stern, the trustee asserted counterclaims to augment the estate apart from the bankruptcy proceeding. Here, Cadle is a creditor who has filed a proof of claim for debts owed by the debtor, and resolving the state-law claims is necessary to adjudicating its proof of claim. Such claims by creditors against debtors are the very reason the claims allowance process exists. Cf. In re Frazin, 732 F.3d at 320–24 (concluding that two of three counterclaims would necessarily be resolved in bankruptcy court's award of attorney's fees and were therefore within court's constitutional authority under Stern ).

Contrary to Cadle's submission, the state-law basis of the claims is not dispositive. Here, while Cadle's claims rest on state-law theories and were originally brought in state court, after Moore's filing for bankruptcy, the Bankruptcy Code governed the avoidance action. See, e.g.,11 U.S.C. §§ 544 (strong-arm powers), 548 (fraudulent transfers by debtor). Accordingly, the bankruptcy court had constitutional authority to enter final judgment in this adversary proceeding.

III

Cadle next contends that the bankruptcy court erred by not abstaining from hearing the avoidance action under the mandatory abstention provision of 28 U.S.C. § 1334(c)(2).

We review a bankruptcy court's decision not to abstain under § 1334(c)(2) for abuse of discretion. In re TXNB Internal Case, 483 F.3d 292, 299 (5th Cir.2007). § 1334(c)(2) explains the conditions under which a district court must abstain from hearing a...