In re Donut Queen, Ltd.
| Decision Date | 03 August 1984 |
| Docket Number | Bankruptcy No. 882-81848-18,882-82158-18. |
| Parties | In re DONUT QUEEN, LTD., Debtor. In re BAPAJO, LTD., Debtor. |
| Court | United States Bankruptcy Courts. Second Circuit. U.S. Bankruptcy Court — Eastern District of New York |
Shaw, Goldman, Licitra, Levine & Weinberg, P.C., Garden City, N.Y., for debtors.
Abraham, Pressman & Bauer, P.C., Philadelphia, Pa., for Dunkin' Donuts.
Cullen & Dykman, Garden City, N.Y., for Long Island Trust Co.
Dunkin' Donuts of America, Inc. (hereinafter "Dunkin' Donuts"), a creditor of Donut Queen, Ltd. (hereinafter "Donut Queen"), has moved for a substantive consolidation of the cases of In re Donut Queen, Ltd. and In re Bapajo, Ltd. Long Island Trust Company, N.A. (hereinafter "LIT"), a creditor of both Donut Queen and Bapajo, Ltd. (hereinafter "Bapajo"), has filed papers in opposition to this motion.
On July 16, 1982, Donut Queen filed a voluntary petition for reorganization under Chapter 11 of the Bankruptcy Reform Act of 1978 (hereinafter "Code"). On August 25, 1982, Bapajo filed its petition for reorganization under Chapter 11. Bapajo had been established for the sole purpose of holding the land and building in which Donut Queen operated as a Dunkin' Donuts franchise. See Hearing of May 8, 1984 (hereinafter "Hearing") at pp. 14, 17.
Subsequent to the filing of their petitions, both companies ceased business operations, and their assets were jointly sold pursuant to an order of this court for a combined sum of $364,000.00. The two companies filed separate Plans of Reorganization and Disclosure Statements on January 30, 1984. On May 8, 1984, Donut Queen and Bapajo submitted separate amended plans of reorganization and disclosure statements.
Dunkin' Donuts is a creditor of only Donut Queen. Its claim stems from a judgment obtained in Federal District Court adjudging Donut Queen, Westbury Donuts, Inc. (hereinafter "Westbury Donuts") and Gloria Morrison jointly and severally liable for infringement of certain Dunkin' Donuts trademarks. Damages were assessed in the sum of $72,473.73. Dunkin' Donuts was also awarded $16,847.29 for attorney's fees and other costs. See Westbury Donuts, Inc., Donut Queen, Ltd. and Gloria Morrison v. Dunkin' Donuts of America, Inc., Marco Amoni, and Mada Land Corp., E.D.N.Y., Docket No. 79-C-3103. Although Dunkin' Donuts has filed proofs of claim in both the Donut Queen and Bapajo cases, it seeks inter alia by its motion to consolidate a judicial determination that its claim against Donut Queen in and of itself affords it the right to recover against Bapajo assets as well.
Dunkin' Donuts alleges that the separate legal identities of these two debtors have not been maintained in their dealings with creditors, and that the affairs of Donut Queen and Bapajo have been so entangled that consolidation is necessary to protect the rights of creditors. It contends that the following factors warrant consolidation:
1) A unity of ownership and interest exists between these debtors as Gloria Morrison is the sole stockholder and president of both companies. Hearing at pp. 33, 42-44.
2) Donut Queen and Bapajo were co-guarantors of a loan made by LIT to Westbury Donuts, a third corporation which shares are solely held by Gloria Morrison. Hearing at p. 14.
3) The debtors failed on occasion to observe the formalities of corporate separateness. For example, no corporate resolutions were recorded by Bapajo regarding its guarantor relationship with Donut Queen and Westbury Donuts or its lease arrangement with Donut Queen. Hearing at pp. 37-42. See generally Supplemental Memorandum of Creditor Dunkin' Donuts of America, Inc. in Support of Motion for Consolidation ("Cr.Mem."); see also 5 Collier on Bankruptcy, ¶ 1100.06 (15th Ed. 1983).
LIT is a creditor of both Donut Queen and Bapajo. It has obtained judgments against Donut Queen and Bapajo, as co-guarantors of the loan on which Westbury Donuts defaulted, and has filed proofs of claim against both reflecting these judgments. Although the record is unclear, Dunkin' Donuts asserts that LIT has docketed its judgment within the preference period. Based upon this premise, it further reasons that any lien created by the docketing would appear to be voidable. See Cr. Mem. at p. 3. LIT has not disputed Dunkin' Donuts characterization of when the judgment was docketed.
In opposing the motion for consolidation, LIT asserts that it has consistently treated these debtors as two separate entities, and that the financial affairs and related financial data of each debtor indicate that they are in fact separate. See generally Affidavit in Opposition to Motion for Consolidation, filed by LIT. LIT further contends that consolidation will not be equitable to all creditors because the creditors of Donut Queen and Bapajo are not a uniform creditor body. Hearing at pp. 64, 74-75.
The debtors take no position with respect to the motion.
The power of this court to substantively consolidate separate corporate debtors arises out of its general equity jurisdiction, as authorized under § 105(a) of the Code. In re Richton Intern. Corp., 12 B.R. 555, 557, 7 B.C.D. 1139, 1140 (Bkrtcy. S.D.N.Y.1981). This power has been generally recognized as one to be exercised sparingly and with caution because its use will significantly affect the substantive rights of debtors and creditors. In re Flora Mir Candy Corp., 432 F.2d 1060, 1062 (2d Cir.1970); 12 B.R. at 556.
Substantive consolidation aggregates both the claims existing against the two estates and the assets of the estates. Consequently, when the percentage distribution of assets to claims in one estate is less than that of the estate sought to be consolidated, consolidation will have the effect of reducing dividends paid to creditors of the latter estate. When those creditors have treated the latter debtor as a distinct and separate entity, consolidation would be manifestly prejudicial to such creditors. See In re Snider Bros., Inc., 18 B.R. 230, 234, 8 B.C.D. 1016 (Bkrtcy.D.Mass.1982); 12 B.R. at 558; In re Food Fair, 10 B.R. 123, at 127 (Bkrtcy.S.D.N.Y.1981).
Recent cases have succinctly stated the proposition that a determination of whether or not consolidation is necessary hinges on a balancing of the equities favoring consolidation against the equities favoring continued debtor separateness. 12 B.R. at 558; 10 B.R. at 127; 18 B.R. at 234; In re F.A. Potts & Co. Inc., 23 B.R. 569, 7 C.B.C.2d 415, 9 B.C.D. 846 (Bkrtcy.E.D.Pa.1982); accord Soviero v. Franklin National Bank of Long Island, 328 F.2d 446, (2d Cir.1964); Chemical Bank New York Trust Company v. Kheel, 369 F.2d 845 (2d Cir.1966); 432 F.2d at 1060; In re Continental Vending Machine Corp., 517 F.2d 997, 1 B.C.D. 1064 (2d Cir.1975), cert. denied 424 U.S. 913, 96 S.Ct. 1111, 47 L.Ed.2d 317.
As can thus be expected, the party seeking consolidation bears the burden of proof to demonstrate that any prejudice resulting from consolidation is outweighed by the greater prejudice posed by the continued separation of the estates. 18 B.R. at 234, 238; see also Matter of Lewellyn, 26 B.R. 246, 251-52; 7 C.B.C.2d 1060 (Bkrtcy.S.D.Iowa 1982). A necessary corollary of this proposition is that it is incumbent upon the party seeking consolidation to demonstrate that it would be prejudiced if the estates were to remain as separate.
The Second Circuit cases cited above have articulated many factors that have been considered in determining a motion for consolidation. In In re Vecco Construction Industries, Inc., 4 B.R. 407, 410, 2 C.B.C.2d 216, 6 B.C.D. 461 (E.D.Va.1980), the court summarized these factors (Vecco factors):
1) the presence or absence of consolidated financial statements;
2) the unity of interests and ownership between the various corporate entities;
3) the existence of parent and inter-corporate guarantees on loans;
4) the degree of difficulty in segregating and ascertaining individual assets and liabilities;
5) the existence of transfers of assets without formal observance of corporate formalities;
6) the commingling of assets and business functions;
7) the profitability of consolidation at a single physical location.
Accord, 12 B.R. at 558; In re Food Fair, Inc., 10 B.R. 123, 127 (Bkrtcy.S.D.N.Y. 1981); 328 F.2d at 446, 369 F.2d at 845, 432 F.2d at 1060, 517 F.2d at 997.
The case law reveals that the objective criteria set forth in Vecco should not be mechanically applied in reaching an ultimate finding on the issue of consolidation:
There is no one set of elements which, if established, will mandate consolidation in every instance. Moreover, the fact that corporate formalities may have been ignored, or that different debtors are associated in business in some way, does not by itself lead inevitably to the conclusion that it would be equitable to merge otherwise separate estates.
Rather, the enumerated factors should be evaluated within the larger context of balancing the prejudice resulting from the proposed order of consolidation with the prejudice the moving creditor alleges it suffers from debtor separateness. 432 F.2d at 161-63; 369 F.2d at 848-49 (Friendly, J., concurring); 12 B.R. at 559; 10 B.R. at 127; cf. 369 F.2d at 845; see generally Benjamin Weintraub and Alan N. Resnick, "Consolidation in Bankruptcy Reorganization of Multi-tiered Corporations—Chemical v. Kheel Revisited," (From the Bankruptcy Courts) Vol. 14 U.C.C.L.J. pp. 177-185 (Fall, 1981).
A review of the facts of the case indicates that although Dunkin' Donuts has met its burden with respect to element number 2, demonstrating that a unity of ownership and interest exists between Donut Queen and Bapajo, it has not proven that any of the remaining Vecco factors exist in this case. Moreover, it has failed to demonstrate that it was aware of the debtor's interrelatedness and that it treated the debtors as a unified entity. Thus, it has failed to demonstrate that it will be prejudiced by...
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