In re Wheatfield Business Park LLC

• Decision Date: 22 November 2002
• Docket Number: No. LA 02-21691-SB.,No. LA 02-22988-SB.,No. LA 02-21693-SB.,LA 02-21691-SB.,LA 02-21693-SB.,LA 02-22988-SB.
• Citation: 286 B.R. 412
• Parties: In re WHEATFIELD BUSINESS PARK LLC, Debtor.
• Court: U.S. Bankruptcy Court — Central District of California

286 B.R. 412

In re WHEATFIELD BUSINESS PARK LLC, Debtor.

No. LA 02-21691-SB.

No. LA 02-21693-SB.

No. LA 02-22988-SB.

United States Bankruptcy Court, C.D. California.

November 22, 2002.

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COPYRIGHT MATERIAL OMITTED

Michael H. Weiss, Berkowitz, Black & Zolke, Beverly Hills, CA, for debtor.

John A. Graham, Bethann R. Young, Jeffer, Mangels, Butler & Marmaro, Los Angeles, CA, for The Capital Company of America LLC.

Russell Clemeson, Assistant United States Trustee.

First Amended Opinion on Notice re Conflicts of Interest in Employment of Counsel

SAMUEL L. BUFFORD, Bankruptcy Judge.

I. INTRODUCTION

The three debtors in these administratively consolidated cases have moved for the appointment of Berkowitz, Black & Zolke and its predecessor Weiss & Spees, LLP (collectively "BBZ") as counsel for each of them. Because employment in all three cases poses several potential conflicts of interest, consent of the relevant parties must be obtained. For a debtor in a bankruptcy case, which is presumptively insolvent, such consent must be obtained from the creditors. The court finds that, despite the lack of explicit provision in § 327(a)¹ authorizing consent to the representation of potentially conflicting interests resulting from the representation of related chapter 11 debtors, such consent can be effectively given in appropriate circumstances. Actual conflicts of interest, in contrast, cannot be authorized. The court further finds that the failure to object, after appropriate notice and opportunity to be heard, constitutes consent to the employment under § 327.

The court holds that consent of the creditors is given if the creditors do not object after they are given notice and an opportunity to be heard. However, in these cases the court lacks evidence that sufficient notice of the application, including notice of possible conflicts of interest, has been given to the creditors. Accordingly, the court cannot act on the employment application until it receives evidence that such notice has been given.

II. RELEVANT FACTS

Wheatfield Business Park, LLC ("Wheatfield"), Hebron Business Park, LLC ("Hebron"), and Poughkeepsie Business Park, LLC ("Poughkeepsie") are chapter 11 debtors in these procedurally consolidated cases. The sole asset of each debtor is a warehouse and light industrial business complex. Wheatfield's property is located in Wheatfield, New York (near Buffalo). Poughkeepsie's property is located in Poughkeepsie, New York. Hebron's property is located in Hebron, Ohio, some 30 miles east of Columbus. Each debtor is a limited liability corporation, and is part of a business group that includes collective parent business entities and numerous other entities that are not in bankruptcy. The managing member of each debtor is Industrial Realty Group, Inc. ("IRG"), which also owns one percent of each debtor.

In addition to collective business parents, the debtors have also engaged in business transactions between themselves that raise potential conflicts of interest. It remains to be determined whether these transactions must be investigated as part of the bankruptcy process.

The relationship between Capital Corporation of America ("CCA") and these debtors arose from a common plan to acquire and develop the properties involved in these cases as well as other properties. The business plan of Stuart Lichter, the principal behind these debtors and a number of other business entities, was to acquire distressed commercial properties with substantial vacancies, to rehabilitate the properties, and to lease them to new tenants. To finance the acquisitions, Lichter obtained a credit line from CCA's predecessor, which was amended from time to time. The general terms were that CCA would fund up to 100% of the purchase price of any single property, provided that its overall lending exposure was limited to 85% of the collective value of the properties. The parties contemplated that each property would be owned by a separate business entity, and a portion of the overall outstanding loan would be allocated to each. There was no requirement that each property would have at least 15% excess value — only that the entire enterprise would meet this test. The loans were cross-collateralized by the various entities to protect CCA's interest in this overall ratio.

Pursuant to this plan, Lichter acquired approximately a dozen properties and proceeded to develop them. The debt was refinanced and reallocated among the various business entities several times during the course of the business. In due course, most of the properties were refinanced separately or sold, and the CCA indebtedness was paid down. Eventually, only the three properties remained that are involved in these chapter 11 cases. However, because of the recent downturn in the economy and in industrial property values, the overall 15% equity cushion has eroded.

IRG retained BBZ on behalf of the debtors, and agreed that IRG would guaranty the debtors' legal fees and costs. The retention agreement did not purport to create an attorney-client relationship between IRG and BBZ. In addition, IRG acknowledged the possibility that its interests may be adverse to the debtors and agreed to retain separate counsel as to any such matters. Each debtor has given its consent to the joint representation in this case.

Each debtor has applied for the appointment of BBZ as its counsel in each of the three cases. The applications include a disclosure of potential conflicts of interest. BBZ also discloses that IRG paid the firm a retainer of $25,830 on behalf of each debtor.

BBZ has given separate notice to the creditors in each case that it seeks employment in that case. However, there is no evidence that the creditors have been given notice of any of the potential conflicts of interest that have emerged. Indeed, there is no evidence before the court that the creditors have even been notified that the other related debtors have applied for the appointment of BBZ in their cases as well.

CCA objected to debtors' motion to employ BBZ. However, pursuant to a settlement between the debtors and CCA, it has withdrawn its objections.

III. DISCUSSION

A. Governing Law

The employment of counsel in a bankruptcy case is governed by § 327, Rule 2014, and the applicable rules of professional conduct.

The legal regime governing bankruptcy cases is a mixture of federal and state law. Federal bankruptcy law determines some rights of the parties. Where bankruptcy law does not govern, the underlying non-bankruptcy law (usually state law) determines the rights of the parties. See, e.g., In re Plitt Amusement Co. of Washington, Inc., 233 B.R. 837, 840-41 (Bankr.C.D.Cal.1999); cf. Butner v. United States, 440 U.S. 48, 54-55, 99 S.Ct. 914, 59 L.Ed.2d 136 (1979) (holding that property interests are created and defined by state law; unless some federal interest requires a different result, there is no reason why such interest should be analyzed differently simply because an interested party is involved in a bankruptcy proceeding).

1. Section 327(a)

Section 327(a) specifies the qualification standards for professionals, including attorneys, who are employed in a bankruptcy case. This statute provides:

[T]he trustee, with the court's approval, may employ one or more attorneys, accountants, appraisers, auctioneers, or other professional persons, that do not hold or represent an interest adverse to the estate, and that are disinterested persons, to represent or assist the trustee in carrying out the trustee's duties under this title.

Section 327 is rooted in the "congressional intention to hold professionals performing duties for the estate to strict fiduciary standards." See, e.g., In re Envirodyne Indus., Inc., 150 B.R. 1008, 1016 (Bankr.N.D.Ill.1993). The section's main policy objective is to assure that a professional employed in the case will devote undivided loyalty to the client. See In re Lee, 94 B.R. 172, 178 (Bankr.C.D.Cal.1988). "Conflicting loyalties produce inadequate representation, which threatens the interests of both the debtor and the creditors, and compromises the ability of the court to mete out justice in the case." Id. Furthermore, "what may be acceptable in a commercial setting, where all of the entities are solvent and creditors are being paid, is not acceptable when those entities are insolvent and there are concerns about intercompany transfers and the preference of one entity and its creditors at ... the expense of another." Envirodyne, 150 B.R. at 1018; see also In re Amdura Corp., 121 B.R. 862, 866 (Bankr.D.Colo.1990). Debtor's counsel must be able to act in the best interests of the bankruptcy estate, free of any prior or ongoing commitments. Envirodyne, 150 B.R. at 1018. "Because of these limitations, a chapter 11 debtor does not have an absolute right to counsel of its choice." Id.

Although the language of § 327(a) refers only to professionals employed by a trustee, the section also applies to professionals employed by a chapter 11 debtor in possession² pursuant to § 1107(a), which provides in relevant part, "a debtor in possession shall have all the rights ... and powers, and shall perform all the functions and duties ... of a trustee serving in a case under this chapter." See, e.g., In re Diamond Mortgage Corp., 135 B.R. 78, 88 (Bankr.N.D.Ill.1990) (stating that § 327(a) applies to professionals retained by a chapter 11 debtor in possession).

Section 327(a) imposes a two-pronged test for the employment of professionals. The professional (1) must not hold or represent any interest adverse to the estate, and (2) must be a "disinterested person." See, e.g., In re Granite Partners, L.P., 219 B.R. 22, 32 (Bankr.S.D.N.Y.1998) (interpreting § 327(a) to impose these two express requirements); In re Perry, 194 B.R. 875, 878 (E.D.Cal.1996) (same); In re Lee, 94 B.R. 172, 177 (Bankr.C.D.Cal.1988) (same). But see In re Martin, 817 F.2d 175, 180 (1st Cir.1987) ...