In re Buttes Resources Co., Civ. A. No. 87-293.
| Decision Date | 25 August 1988 |
| Docket Number | Civ. A. No. 87-293. |
| Citation | 89 BR 613 |
| Parties | In re BUTTES RESOURCES COMPANY, Debtor. SECURITY PACIFIC NATIONAL BANK, et al., Plaintiffs, v. ENSTAR PETROLEUM COMPANY, Defendant. |
| Court | U.S. District Court — Southern District of Texas |
Alan S. Gover, Houston, Tex., for plaintiffs.
Roxanne Armstrong, Houston, Tex., for defendant.
MEMORANDUM ON APPEAL
The Security Pacific National Bank, Federal Deposit Insurance Corporation, Bank of California, and Barclay's Bank have appealed the bankruptcy court's order to lift the automatic stay, allowing Enstar Petroleum Company to recoup money owed it by Buttes Resources Company. The bankruptcy court's order will be affirmed.
Background.
Buttes and Enstar are joint owners of working interests in an oil field in Rosebud County, Montana. Buttes and Enstar agreed that Enstar would be the operator of the property. The operator conducts the routine services that keep the wells producing oil. After Buttes filed for protection under Chapter 11, Enstar moved to lift the automatic stay so that it could apply production proceeds to pay production costs. The banks intervened in opposition, claiming that, as creditors with security interests in the production, they had priority to the expense payments Enstar had retained for itself out of the sales proceeds due Buttes.
Facts.
The facts are undisputed, and the banks contest only the bankruptcy court's conclusion that Enstar's right as operator prevails over the banks' security interests.
This single contract governs a recurring transaction; it binds Buttes to pay its share of the field's production costs. Buttes's failure to pay allows Enstar to withhold the proceeds of the oil to cover Buttes's delinquent expense allocations. Essentially the contract is for the payment by Enstar of the net proceeds to Buttes.
Enstar sought to recoup pre-petition and post-petition proceeds payments owed to Buttes against the production costs attributable to Buttes's working interest that were advanced by Enstar before the petition. The banks suggest that Enstar's right to production costs is a setoff which, in the bankruptcy context, would allow only a limited recovery of mutual debts. Setoff elevates a creditor's unsecured claim to a secured status by using the debtor's pre-petition claim against the creditor as collateral. In re Braniff Airways, Inc., 42 B.R. 443, 448 (Bankr.N.D.Tex.1984).
Setoff is limited, however, by 11 U.S.C. § 553. Among those limitations is that pre-petition claims against the debtor cannot be set off against post-petition debts to the debtor. Recoupment, on the other hand, allows the creditor to extinguish the mutual claims irrespective of their bankruptcy status. Lee v. Schweiker, 739 F.2d 870, 875 (3rd Cir.1984).
Buttes, to secure loans to its parent company, granted the banks security interests in its 34.6% interest in the Montana leases. The banks perfected their security interests in the leases in 1976, 1982, and 1984, by filing deeds of trust, security agreements, and assignments in the real property records of Rosebud County. The banks admit that, before they loaned money to Buttes, they had actual knowledge of the operating agreement between Buttes and Enstar.
As its share of the operating expenses, Buttes owes Enstar $9,244.84 for pre-petition costs and $367.66 for post-petition costs. As Buttes's share of the proceeds, Enstar owes Buttes $3,598.28 out of pre-petition production and $1,647.24 out of post-petition production.
The trial court's characterization of Enstar's claim against the estate as a recoupment rather than a setoff is a critical distinction in the context of bankruptcy; under the revised Bankruptcy Act, section 553, the right to set off a counterclaim has been circumscribed. The debate whether the contractually analogous right of recoupment should be treated like a setoff to effectuate the Act's policy of equal treatment to secured creditors predates the 1986 revision of the Act. See Stanolind Oil & Gas Co. v. Logan, 92 F.2d 28, 29 (5th Cir.1937), Walther v. Williams Mercantile Co., 169 F. 270 (6th Cir.1909), "Recoupment is not covered by Section 68." 2 Cowens, Bankruptcy Law and Practice, 121-22 (2d ed. 1978). The drafters who revised the former section 68 of the Chandler Act could have foreclosed the recoupment avenue of recovery for creditors.
In 1984, Congress narrowed the application of setoffs in section 553 to restrict preferences of certain creditors by differentiating between pre-petition and post-petition claims. 4 Collier on Bankruptcy § 553.02. As under the Act of 1898, the right to setoff under section 553 is permissive and rests with the discretion of the court. Cumberland Glass Mfg. Co. v. DeWitt, 237 U.S. 447, 35 S.Ct. 636, 59 L.Ed. 1042 (1914). Collier urges that courts not belabor what was encompassed by the act but focus on the equities of the given case when one transaction gives rise to two related claims, but he says, Collier § 553.03.
When an operator deducts from the proceeds of current production the expenses owed by a working interest owner for earlier production from the same wells, the transaction is characterized as either a recoupment or a setoff based on the terms of the operating agreement and any superseding contracts. The same analysis applies to processors seeking to recover expenses.
Both setoffs and recoupment are counterclaims, but they differ in that the setoff is a claim that arises out of a transaction different from the one sued on. It is asserted to diminish a plaintiff's demand. Frederick v. U.S., 386 F.2d 481 (5th Cir. 1967) citing 3 Moore, Federal Practice, § 13.02 at 8-9 (2d ed. 1966). Recoupment, which is a defense as well as a counterclaim, on the other hand, is a counter demand arising from the same transaction as the plaintiff's claim. Lee v. Schweiker, 739 F.2d 870, 875 (3d Cir.1984).
Examples of creditors prevailing on contractual recoupment rights include: (1) a company paying advance royalties to a musician was allowed to recoup the advances from post-bankruptcy record sales. Waldschmidt v. CBS, Inc., 14 B.R. 309, 314 (M.D.Tenn.1981); (2) a company recouped progress payments on a construction and repair contract which were made in excess of the value of the work performed before bankruptcy and performance continued after bankruptcy. In re Midwest Service and Supply Co., 44 B.R. 262, 265 (D.Utah 1983); and (3) the doctrine was applied to allow the government to recover medicare overpayments from post-bankruptcy reimbursements to a hospital that continued to operate after filing a Chapter 11 petition. In re Yonkers Hamilton Sanitarium, Inc., 22 B.R. 427, 433 (Bankr.S.D.N.Y.1982), aff'd 34 B.R. 385 (S.D.N.Y.1983).
The doctrine of recoupment is recognized under Montana law which governs this case. An agent sued for non-delivery of funds could recoup his unpaid commission. See Francisco v. Francisco, 120 Mont. 468, 191 P.2d 317 (1948).
For a case in which a recoupment was disallowed because the transaction giving rise to a counterclaim was part of a series of separate agreements the essential terms of which could be altered monthly. See In re California Canners and Growers, 62 B.R. 18, 20 (9th Cir. BAP 1986). This result was reached in spite of the existence of a general agreement governing the parties' relationship. Permitting recoupment on a similar set of facts has been criticized as subverting the equality of distribution principles of bankruptcy. Ashland Petroleum v. Appel (In re B & L Oil), 782 F.2d 155 (10th Cir.1986); "Bankruptcy — The Recoupment Doctrine," 17 New Mex.L.R. 421 (1987). The Ashland court did not explicitly determine whether a division order for the purchase of oil and gas was a single executory contract; in fact, one finding that "the obligations were easily separable and independently determinable" suggests that the court could have reached the result of In re California Canners. Slavish adherence to avoiding preferential treatment distracted one court from properly characterizing a counterclaim for overpayment by a refiner against a gas producer as either a recoupment or a setoff. See Republic Supply Co. of California v. Richfield Oil Co., 59 F.2d 35 (9th Cir.1931). The fact that the Buttes operating contract provided for monthly accountings does not negate that it was a continuous agreement, the material terms of which were fixed at the execution in 1974.
Texas courts have been careful to distinguish between defenses that are available from the inception of the contract and asserted to defeat part of the plaintiff's claim from those that do not become available until later during the performance of the agreement. In Morris-Buick v. Davis failure to deliver the premises on time was not a recoupment against the unpaid last month's rent, 127 Tex. 41, 91 S.W.2d 313 (1936). Texas courts have gone so far as to hold that damage to the goods is not a recoupment claim against the freight charges. Southern Pacific RR Co. v. Porter, 160 Tex. 329, 331 S.W.2d 42 (1960); for a less restrictive application of the Texas recoupment doctrine, see Pennsylvania R.R. Co. v....
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