In re Grayhall Resources, Inc.

• Decision Date: 18 July 1986
• Docket Number: Bankruptcy No. 86 B 3547 E.
• Citation: 63 BR 382
• Parties: In re GRAYHALL RESOURCES, INC., Debtor.
• Court: U.S. Bankruptcy Court — District of Colorado

63 B.R. 382 (1986)

In re GRAYHALL RESOURCES, INC., Debtor.

Bankruptcy No. 86 B 3547 E.

United States Bankruptcy Court, D. Colorado.

July 18, 1986.

Michael H. Bynum, Kyle B. Usrey, Boulder, Colo., for Grayhall Resources, Inc.

Munsel St. Clair, Denver, Colo., Robert T. Cummins, Helena, Mont., for Judith Gold Corp.

MEMORANDUM OPINION AND ORDER

CHARLES E. MATHESON, Bankruptcy Judge.

THIS MATTER came on for hearing on the application of Grayhall Resources, Inc. ("Debtor") to assume a certain mining lease entered into by a predecessor in interest of the Debtor with Judith Gold Corporation ("Judith Gold", or "Lessor"). Pursuant to the terms of the lease, the Lessee was granted a lease of the surface and subsurface and all minerals, except oil, gas and coal, contained in certain load mining claims located in the State of Montana which were owned by Judith Gold. The lease which was entered into on June 9, 1981, has a basic term of ten years and continues thereafter so long as minerals in a "substantial amount" are produced by the Lessee from the leased premises. Under the lease, the Debtor, as the assignee of the original Lessee's interest, has the right to the exclusive possession and control of the mining property, together with the right to develop, work, and mine and extract and remove the ores and minerals from the property.

Under the lease, the Lessee has sole discretion concerning the conduct of mining operations. There are no obligations imposed under the lease on the Lessee to mine the property. However, the Lessee must pay fixed advance royalty payments on a periodic basis and must, as well, pay a royalty based on actual production. In addition, the Lessee is required to expend "in the working and development of the property" $100,000 during the calendar year 1981, and $200,000 each year thereafter during the term of the lease for any year in which production royalties do not exceed the amount of the fixed advance minimum royalty. Amounts expended for "working and development" are cumulative and carryover from year to year so that for example, out of an expenditure of $400,000 in one year, $200,000 can be carried forward as a credit against the next year's work.

The lease gives to the Lessor the right to inspect the property from time to time, and the Lessee is to furnish the Lessor with copies of maps and information concerning the mining activities. The Lessor is also to be notified and allowed to be present when free gold is gathered by the Lessee. There are other covenants in the lease for the protection of the Lessor, such as:

a. The Lessee is required to pay all property taxes.

b. The Lessee must comply with state and federal laws "relating to the Lessee's operations" and must save "Lessor harmless from any claims for damages or liability" by reason of violations of such laws or regulations.

c. The Lessee must conduct its work in a "good workmanlike and minerlike manner, so as to develop said properties as a mine for permanent future mining operations" and all of such work is to be at the sole cost of the Lessee "without cost, charge, liability or expense to Lessor or to said properties." d. The Lessee must keep the property free of liens; however, if mechanics liens do attach, the existence of such liens does not constitute a default if the Lessee, in good faith, disputes the validity of the lien claim in which event the existence of the lien does not constitute a default until such time as the validity of the lien has been affirmatively adjudicated.

e. The Lessee is required to "indemnify and save the Lessor harmless" from any suit which may be brought charging air or stream pollution or other environmental damage.

The failure of the Lessee to perform its obligations can result in the termination of the lease at the election of the Lessor. However, written notice must be provided to the Lessee, which notice must specify the particular default or defaults relied upon for termination, and the Lessee has thirty (30) days after receipt of such notice to cure the default. The Lessee has the right to terminate the lease at any time upon thirty (30) days written notice, but such termination does not release the Lessee from any obligations or liabilities theretofore incurred by him under the terms of the lease. Finally, the Lessee is free to assign the lease to another party or parties, but such assignment is to be effective only upon written notice to the Lessor.

The Debtor herein failed to pay the quarterly royalty payment which was due for the second quarter of 1986 in the amount of $3,337.06, and the Lessor gave notice of such failure and of its election to terminate. The nonpayment of the royalty was the only specified event of default. Within thirty days of the giving of the notice the Debtor filed this Chapter 11 proceeding, thereby staying the termination of the lease.

The mining lease and the related mining equipment are the only assets of any significance owned by the Debtor. Without the lease the Debtor has no prospects for reorganization and no basis upon which to finance its operations or the repayment of its creditors. Accordingly, the Debtor gave notice of its intention to assume the lease. The Lessor objected to the assumption and, in filing its objection, raised a series of purported defaults which had not previously been asserted.

The Debtor does not dispute the fact that it failed to pay the second quarter advance royalty payment when due. Thus, the lease was in default when the Chapter 11 petition was filed. Since the lease was in default, the right of the Debtor to assume must be predicated on both Section 365(a) of the Bankruptcy Code, which gives the Debtor the right to assume the lease, subject to this Court's approval, and on Section 365(b)(1) which imposes conditions to assumption in circumstances where a default has occurred.

Code Section 365(a), as noted, permits the Debtor to assume the lease, subject to the approval of this Court. No limitations or conditions on assumption are imposed by that section of the Code. Cases arising under that section have held that the question before the Court is whether the assumption represents a sound business judgment on the part of the Debtor and will not be prejudicial to the interest of the creditors. In re Natco Industries, Inc., 54 B.R. 436 (Bkrtcy.S.D.N.Y.1985); In re Currivan's Chapel of the Sunset, 51 B.R. 217 (N.D.Calif.1985). In the present case, if the Debtor does not assume this contract, there is no business left to reorganize. Further, there is a need to assume the lease at the present time in order for the Debtor to arrange its financing and to formulate a plan. If the lease is assumed and the Debtor subsequently defaults, such default will not be injurious to the interest of the creditors, even if a significant administrative claim results, because there will be no assets with which to pay the creditors in any event. Thus, the Court concludes that assumption of the lease represents sound business judgment, would not be detrimental to the interest of the creditors, and assumption should be allowed. The Court must, therefore, consider whether the conditions imposed under Section 365(b)(1) have or can be met.

Section 365(b)(1) places conditions on the assumption for the purpose of protecting the interests of the Lessor. It provides that the Debtor may not assume the lease unless, at the time of the assumption, the Debtor

(A) cures, or provides adequate assurance that the trustee will promptly cure, such default;

(B) compensates, or provides adequate assurance that the trustee will promptly compensate, a party other than the debtor to such contract or lease, for any actual pecuniary loss to such party resulting from such default; and

(C) provides adequate assurance of future performance under such contract or lease.

The Court must examine each requirement and be assured of compliance therewith before the Debtor can be permitted to assume the lease.

The Debtor argued at the time of trial that the issues concerning default and the requirement of cure imposed by § 365(b)(1)(A) should be limited to the default as to which formal notice was given before the filing of the Chapter 11 case; i.e., the failure to pay the second quarter advance royalty payment. The Court does not agree. The Code does not speak in terms of defaults as to which notice has been given. Section 365(b)(1)(A) states that if there has been a default, the debtor must cure or provide adequate assurance that the debtor will cure the default. It is this Court's opinion that the language of the statute fairly includes all defaults under the lease regardless of whether notice of such default was given prior to the filing of the Chapter 11.

The Lessor, in its filed objection to the Debtor's requested assumption, has asserted that the Debtor is in default under the lease for a variety of reasons. The Court must consider and rule on each of the grounds of asserted default and apply the test of § 365(b)(1) as to each default before allowing assumption.

The first asserted default was the failure to pay the second quarter minimum royalty payment. The Debtor gave formal notice of that default electing to terminate the lease if the payment was not made within thirty (30) days as provided for in the lease. It was within that 30-day period that the Debtor filed the within Chapter 11 proceeding. At the hearing on the Debtor's application to assume, the Debtor tendered to the Lessor the full amount of the defaulted lease payment in the form of a certified check. The Lessor declined to accept the tender; however, the Debtor has established its ability to cure the defaulted payment and has the availability of funds to do so promptly after assumption of the lease.

The Lessor claims that the Debtor is in default for its failure to expend $200,000.00 in development expenses at the mine and mill site during the last year. However, the president of the Debtor...