In re Zota Petroleums, LLC

• Decision Date: 01 October 2012
• Docket Number: No. 11–35079–DOT.,11–35079–DOT.
• Citation: 482 B.R. 154
• Parties: In re ZOTA PETROLEUMS, LLC, Debtor.
• Court: U.S. Bankruptcy Court — Eastern District of Virginia

482 B.R. 154

In re ZOTA PETROLEUMS, LLC, Debtor.

No. 11–35079–DOT.

United States Bankruptcy Court,

E.D. Virginia,

Richmond Division.

Oct. 1, 2012.

Douglas Scott, Douglas A. Scott, PLC, Richmond, VA, Leonard E. Starr, III, Sandston, VA, for Debtors.

Ellen L. Valentine, Loc Pfeiffer, Peter Barrett, Kutak Rock LLP, Keith L. Phillips, Richmond, VA, for Trustee.

Robert B. Van Arsdale, Office of the U.S. Trustee, Richmond, VA, for U.S. Trustee.

MEMORANDUM OPINION

DOUGLAS O. TICE JR., Chief Judge.

Before the court is the motion of D & MRE, LLC, for recognition of its sublessee rights under a sublease rejected by debtor. The motion is opposed by LAP Petroleum, LLC, which argues that it purchased the underlying lease from debtor free and clear of any interest asserted by D & MRE. Resolution of the issue requires an analysis of the interplay between §§ 363 and 365(h) of the Bankruptcy Code.

The court finds that in this case, the provisions of § 365(h), which give the sublessee the right to retain its rights under the lease, apply, and D & MRE is entitled to the quiet enjoyment of those rights.

Facts and Issues Presented. The facts in this case are largely undisputed. Debtor Zota Petroleums, LLC, was the lessee under a lease agreement with Kelmont, LLC, for certain real property located in King William County, Virginia. In turn, Debtor leased its interest in that same property to D & MRE, LLC.

Debtor leased sixteen gas stations and convenience stores in central Virginia. The trustee appointed in this case, originally filed under chapter 11 of the Bankruptcy Code,¹ filed his motion (“the Sale and Assumption Motion”) for entry of orders authorizing the sale of substantially all of debtor's assets, establishing bid procedures for the sale of the assets, and authorizing the assumption and assignment of leases and executory contracts, among them the lease between Kelmont and debtor. The Sale and Assumption Motion was granted by order entered October 21, 2011.

On October 24, 2011, in connection with the proposed sale and assumption and assignment of leases, the trustee filed his notice of the assumption and assignment of fifteen leases, as well as various subleases and executory contracts, and setting forth the proposed cure amounts for those contracts and leases. The Kelmont lease was included in the leases that the trustee proposed to be assumed. On November 22, 2011, the trustee also filed a motion to reject certain leases and executory contracts (“the Rejection Motion”). Among the leases sought to be rejected was the sublease between debtor and D & MRE.

In accordance with the Sale and Assumption Motion and the order granting it, an auction was subsequently held, and LAP Petroleum, LLC, was the successful bidder. The transaction was styled in the same manner as was the Sale and Assumption Motion, including both the sale of assets and the assumption and assignment of executory contracts and leases. The asset transaction was approved by order entered by the court on November 30, 2011. The order approving the transaction provided in part that “[t]o the extent of applicable law, the sale of the Assets shall vest LAP with good title to the Assets, and the Assets shall be free and clear of any and all liens encumbrances and any and all ‘claims' as defined in § 101(5) of the Bankruptcy Code) ... other than as provided in the [Asset Purchase Agreement].” (The Asset Purchase Agreement is referred to from time to time in this opinion and in other relevant documents as the “APA.”)

The order approving the asset transaction further authorized the trustee to assume and assign the sixteen leases and executory contracts listed in the order, including the Kelmont lease, to LAP at the closing of the asset sale. Paragraph 8 of the order provided that:

Each of the Assumed and Assigned Contracts set forth on Schedule 1 to this Order constitute executory contracts or unexpired leases within the meaning of section 365 of the Bankruptcy Code and will be assumed without further order of the Court by the Trustee and assigned to LAP effective upon the Closing. The assumption of any liabilities under the Assumed and Assigned Contracts by LAP shall constitute a legal, valid and effective delegation of all liabilities thereunder to LAP and shall divest the Trustee and the Debtor of all liability with respect to such Assumed and Assigned Contracts.

The order also provided that LAP would pay the cure amounts due for the assumption and assignment of each lease. The order recites that “LAP is a buyer in good faith, as that term is used in the Bankruptcy Code and the decisions thereunder, and is entitled to the protections of sections 363(m) and (n) of the Bankruptcy Code with respect to the sale, all of the Assets and the Assumed and Assigned Contracts.” [sic]

The APA contained the following relevant language:

Subject to the terms and conditions of this Agreement and the Sale Order, Seller shall sell, convey, transfer, assign and deliver to Buyer or to one or more of its Affiliates as Buyer may designate, free and clear of all Liabilities, and Buyer or one or more of its designated Affiliates shall purchase and acquire from Seller, all of Debtor's right, title and interest in (a) all the assets set forth or referred to in Schedule 1.1(a) (the “Assets”) and (b) all the Contracts and Leases set forth in Schedule 1.1(b) (as may otherwise be amended by agreement of the parties) (collectively, the “Assumed and Assigned Contracts”), wherever located, in all cases only to the extent of the Debtor's interests and only to the extent transferable (collectively, the “Purchased Assets”). Schedule 1.1(b) sets forth a list of all Contracts to be assumed and the estimated Cure Amount for such Contract set forth opposite its name.

Exhibit A, attached to the APA, was titled “Assignment and Assumption of Contracts” and provided for the consummation of the assumption and assignment of, among other things, twelve leases and five fuel supply agreements, including the Kelmont lease. Exhibit A purported to be in satisfaction of the obligation of the trustee to execute the assumption and assignment, as that obligation was set out in Sections 3.3.2 and 3.4.2 of the APA.² The leases and contracts set forth in Exhibit A were identical to the leases and contracts set forth in Schedule 1.1(b) to the APA.

The Rejection Motion was granted by the court by separate order on the same date that the asset sale was approved.

D & MRE has filed a motion seeking a determination that § 365(h)(1)(A) of the Bankruptcy Code gives it, as sublessor, the ability to retain its rights under the rejected sublease.³ That section provides that:

(h)(1)(A) If the trustee rejects an unexpired lease of real property under which the debtor is the lessor and—

(i) if the rejection by the trustee amounts to such a breach as would entitle the lessee to treat such lease as terminated by virtue of its terms, applicable nonbankruptcy law, or any agreement made by the lessee, then the lessee under such lease may treat such lease as terminated by the rejection; or

(ii) if the term of such lease has commenced, the lessee may retain its rights under such lease (including rights such as those relating to the amount and timing of payment of rent and other amounts payable by the lessee and any right of use, possession, quiet enjoyment, subletting, assignment, or hypothecation) that are in or appurtenant to the real property for the balance of the term of such lease and for any renewal or extension of such rights to the extent that such rights are enforceable under applicable nonbankruptcy law.

D & MRE further pleads that it elects to retain its rights pursuant to the provisions of § 365(h)(1)(A)(ii). LAP objects to the motion, arguing that the asset purchase agreement provides that “Buyer shall assume no liability or obligation of the debtor” [¶ 2.2] and asserting that the sale of debtor's assets free and clear pursuant to § 363 of the Bankruptcy Code makes § 365(h) inapplicable. LAP also argues that D & MRE's motion is an impermissible attack on the November 30, 2012, order approving the asset transaction. Finally, it argues that the D & MRE motion is barred by the doctrines of res judicata and collateral estoppel.

Additional finding of fact may be contained in the discussion of law that follows.

Conclusions of law. The issue may be distilled to whether the assignment of the assumed Kelmont lease extinguished the § 365(h) rights of D & MRE, debtor's sublessee, when that assignment was made as part of a transaction including both the sale of assets free and clear pursuant to the provisions of § 363 of the Bankruptcy Code and the assumption and assignment of various leases and executory contracts pursuant to § 365 of the Bankruptcy Code. LAP argues that because of the “sale free and clear” provisions of the APA, it obtained the Kelmont lease free and clear of D & MRE's interest.

The court, in evaluating the arguments put forth by the parties, first examines the transactions among the parties. It seems beyond dispute that the trustee and LAP, in structuring the transaction at issue, intended to transfer all of the assets of debtor and all of the interests of the debtor in the leases and executory contracts to LAP. The Sale and Assumption Motion and the order approving it were executed to combine the sale and the assumption and assignment aspects in one document. The APA and the order approving the final sale and the assumption and assignment were structured similarly, with all elements of both sale and assumption and assignment being combined in a single document.

Regardless of the unitary nature of the documents, however, the documents are all quite specific that certain assets were to be sold and certain leases and executory contracts were to be assumed and assigned. Schedule 1 attached to the order approving the sale and assignment listed the cure amounts required for sixteen leases and executory contracts;...