In re Sherman

• Decision Date: 23 March 2006
• Docket Number: No. 03-56601.,03-56601.
• Citation: 491 F.3d 948
• Parties: In re Richard G. SHERMAN; In re Andrea Pearl Sherman, Debtors, Richard G. Sherman; Andrea Pearl Sherman, Appellants, v. Securities and Exchange Commission, Appellee.
• Court: U.S. Court of Appeals — Ninth Circuit

491 F.3d 948

In re Richard G. SHERMAN; In re Andrea Pearl Sherman, Debtors,

Richard G. Sherman; Andrea Pearl Sherman, Appellants, v. Securities and Exchange Commission, Appellee.

No. 03-56601.

United States Court of Appeals, Ninth Circuit.

Argued and Submitted April 5, 2005.

Filed March 23, 2006.

Amended July 3, 2007.

Arthur A. Greenberg, Harold Gutenberg, and Don Lanson, Greenberg & Bass, Encino, CA, for the appellants.

Giovanni P. Prezioso, Jacob H. Stillman, Katharine B. Gresham, and Hope Hall Augustini, Securities and Exchange Commission, Washington, DC, for the appellee.

Appeal from the United States District Court for the Central District of California; Christina A. Snyder, District Judge, Presiding. D.C. No. CV-02-05571-CAS.

Before: SIDNEY R. THOMAS and MARSHA S. BERZON, Circuit Judges, and JAMES C. MAHAN,^* District Judge.

BERZON, Circuit Judge:

AMENDED OPINION

Richard Sherman (Sherman) was the attorney for several defendants in an enforcement action brought by the Securities and Exchange Commission (SEC) and in other actions in which those defendants were parties. Sherman and his wife, Andrea Sherman, filed a Chapter 7 bankruptcy petition. The SEC brought a motion to dismiss the Shermans' Chapter 7 bankruptcy petition pursuant to 11 U.S.C. § 707(a), maintaining that there was "cause" for dismissal. Although the bankruptcy court denied the SEC's motion, the district court reversed.

We are presented with three questions on appeal. First, we must consider whether the SEC has standing. The SEC has an interest in the Shermans' bankruptcy petition because part of the debt that the Shermans sought to discharge resulted from orders against Sherman issued in the SEC enforcement action. Before the district court decided the appeal, however, Sherman and Thomas Lennon, the receiver appointed in the SEC action (Receiver), entered into a settlement agreement. We must initially decide whether the SEC had an interest in the Shermans' bankruptcy petition sufficient to confer standing. We must then decide whether the settlement agreement extinguished any interest the SEC initially had in the Shermans' bankruptcy petition, divesting the SEC of standing to proceed. Second, we address whether this appeal is moot because the bankruptcy court has already granted the Shermans a discharge. Finally, we are presented with a merits question: Did the bankruptcy court err in denying the SEC's motion to dismiss the petition for cause?

We hold that the SEC has standing because it retained a pecuniary interest as a creditor in some of the Shermans' debt an interest not extinguished by the settlement agreement between Sherman and the Receiver. In addition, we conclude that this case is not moot, because the grant of the motion to dismiss could have had an impact on the parties despite the grant of a discharge order while the appeals were pending. Finally, we decide that the bankruptcy court did not err in denying the SEC's motion to dismiss the petition for cause. Other provisions of the Bankruptcy Code address the misconduct that the SEC argued constituted "cause" justifying dismissal. Thus, under Neary v. Padilla (In re Padilla), 222 F.3d 1184 (9th Cir.2000), the petition could not be dismissed for "cause" under 11 U.S.C. § 707(a).

I. Factual and Procedural Background

The current appeal arises from a somewhat Byzantine set of events:

In 1997, the SEC commenced a securities fraud action against Whitworth Energy Resources, Ltd., Williston Basin Holding Corp., and Amerivest Financial Group, Inc., along with their principals (Whitworth action), in the United States District Court for the Central District of California. The complaint alleged, among other things, that the defendants operated a Ponzi-like scheme by representing that investors were receiving income from oil and gas production when, in fact, distributions were made from receipts obtained from new investors or assessments of existing investors. The district court entered an order freezing the corporate entities' assets and appointing Thomas Lennon as permanent receiver for the defendant entities and their subsidiaries and affiliates, including Oxford Oil and Gas, Inc. and the Oxford Group of Companies, Ltd.¹ The district court ordered that the Receiver was to have

full powers of an equity receiver, including, but not limited to, full power over all funds, assets, property, securities, premises (whether owned, leased, occupied, or otherwise controlled), choses in action, books, records, and other property belonging to or in the possession of or control of Whitworth, Williston, Amerivest, and any of their subsidiaries and affiliates.²

The district court granted the SEC's partial summary judgment motion, concluding that the principal defendants had violated section 17(a) of the Securities Act of 1933, 15 U.S.C. § 77q(a), section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), and Rule 10b-5 promulgated thereunder, 17 C.F.R. § 240.10b-5.³ In 1999, the district court entered final judgment. The relief ordered included an injunction and provisions requiring the principal defendants to disgorge specified amounts of ill-gotten gains to the Receiver and pay civil penalties.

Appellant Richard Sherman, an attorney for several of the defendants in the Whitworth action, violated the Whitworth district court's freeze order by withdrawing a total of $54,980 from the companies' litigation trust account and soliciting additional funds from investors. The SEC and the Receiver sought a judgment of civil contempt against Sherman from the Whitworth district court. In February 2000, that court found Sherman in contempt and ordered him to disgorge "to the Receiver" $54,980 plus prejudgment interest.⁴ We affirmed. SEC v. Whitworth Energy Res. Ltd., 243 F.3d 549 (9th Cir.2000) (unpublished table decision).

In separate proceedings, commenced before the Whitworth action, the Oxford companies had filed, in state court, several suits concerning the ownership rights to various natural gas assets in Texas (contingency suits).⁵ Sherman represented the Oxford companies' investors in these actions, pursuant to a contingency fee agreement. The agreement provided that Sherman was to receive forty percent of the amount of benefits paid to the plaintiffs after deducting litigation-related costs and disbursements. Also, the Oxford companies were to pay Sherman periodically throughout the litigation as an advance against his contingency fees, and any money Sherman retained in excess of his fees would be treated as an interest-free loan.

In early 2001, the Receiver settled the contingency suits. A year later, the Receiver filed a motion in the Whitworth suit seeking an order requiring Sherman to disgorge money he had received and retained, but not earned, in connection with his representation in the contingency suits. The SEC joined the motion shortly thereafter. Four days before the hearing on the disgorgement motion, Sherman and his wife, Andrea Sherman, filed a voluntary Chapter 7 bankruptcy petition with the bankruptcy court. Sherman did not file an opposition to the disgorgement motion with the Whitworth district court, nor did he appear at the hearing on the motion.

In March 2002, the Whitworth district court issued its decision on the disgorgement motion. It found that the Receiver was subject to the automatic stay provisions of 11 U.S.C. § 362(a)(1), but that, under § 362(b)(4), the SEC was not.⁶ On the merits, the district court found that the Receiver had settled the contingency suits for $750,000, and that Sherman was therefore entitled to $300,000 in fees. The court also found that as of the time of the settlement, Sherman had collected $881,313.43 in advances. Thus, pursuant to the contingency fee agreement, Sherman owed the Oxford companies $581,313.43, the difference between the advances Sherman had received and retained and the actual fee for his representation. The district court granted the motion for disgorgement (disgorgement judgment) and ordered Sherman to pay $581,313.43 plus interest. The disgorgement order did not specify to whom Sherman was to remit this money.

In May 2002, the SEC filed a motion in bankruptcy court to dismiss the Shermans' Chapter 7 petition pursuant to 11 U.S.C. § 707(a). The Receiver joined the motion shortly thereafter. A few weeks later, the Receiver independently filed an action (nondischarge action) against Sherman in bankruptcy court, seeking a determination that the debt Sherman owed the Receiver for the contempt judgment and the retention of money in excess of his fees in connection with the contingency suits, totaling $636,293.43, was nondischargeable.⁷

The bankruptcy court denied the SEC's motion to dismiss the bankruptcy in June 2002, stating that "[t]his is just a run-of-the-mill bankruptcy." The SEC filed a notice of appeal in July 2002. The appeal was heard by the Whitworth district court. On October 1, 2002, while the appeal was pending in the district court, the bankruptcy court entered an order granting the Shermans a discharge under 11 U.S.C. § 727.

In December 2002, Sherman and the Receiver entered into a settlement agreement (Agreement). As part of the Agreement, Sherman "agree[d] to execute a Stipulation for Entry of Judgment in the amount of $636,293.43 plus interest." The bankruptcy court entered an order shortly thereafter granting the stipulation for entry of judgment.

In relevant part, the stipulation stated the following:

A. On February 28, 2000, the U.S. District Court, Central District of California (the "District Court") in SEC v. Whitworth Energy Resources entered a contempt judgment against Defendant [Sherman] and various other individuals (the "Contempt Judgment"). The Contempt Judgment found that Defendant received $54,980 in violation of a TRO and Preliminary Injunction previously issued by the District Court.

B. In addition, the Receiver has asserted a claim against Defendant for...