Long, In re, 84-5211

• Citation: 13 C.B.C.2d 1036,774 F.2d 875
• Decision Date: 02 October 1985
• Docket Number: No. 84-5211,84-5211
• Parties: 13 Collier Bankr.Cas.2d 1036, 13 Bankr.Ct.Dec. 915, Bankr. L. Rep. P 70,773 In re Jesse H. LONG, Debtor. BARCLAYS AMERICAN/BUSINESS CREDIT, INC., Appellant, v. Jesse H. LONG, Appellee.
• Court: United States Courts of Appeals. United States Court of Appeals (8th Circuit)

Page 875

774 F.2d 875

13 Collier Bankr.Cas.2d 1036, 13 Bankr.Ct.Dec. 915,

Bankr. L. Rep. P 70,773

In re Jesse H. LONG, Debtor.

BARCLAYS AMERICAN/BUSINESS CREDIT, INC., Appellant, v. Jesse H. LONG, Appellee.

No. 84-5211.

United States Court of Appeals,

Eighth Circuit.

Submitted June 12, 1985.

Decided Oct. 2, 1985.

Katherine Constantine, St. Paul, Minn., for appellant.

James M. Strother, Minneapolis, Minn., for appellee.

Before LAY, Chief Judge, ARNOLD, Circuit Judge, and SACHS, ^* District Judge.

SACHS, District Judge.

Over a period of several years, Barclays American/Business Credit, Inc. (Barclays), as successor in interest to Aetna Business Credit, Inc., loaned substantial sums of money to A & C Johnson Co. (A & C). The loans were calculated as a percentage of inventory, which ranged from $1.3 to $1.7 million, and were secured by A & C's accounts receivable. Proceeds from the accounts were to be deposited in a special "collateral" account maintained by A & C. Long, president and majority stockholder in A & C, was also guarantor on the loans. A & C and Long both filed for bankruptcy and Barclays now seeks to prevent discharge of debts resulting from Long's guaranty by alleging (1) misconduct in obtaining some $90,000 worth of additional loans by inflating inventory valuation and (2) misconduct in diverting $139,120.97 worth of collateral (i.e. accounts receivable proceeds) to a new corporate account. Long used the diverted proceeds for attorneys' fees and other expenditures to keep A & C functioning as an active business, an effort which quickly failed when Barclays refused further credit while A & C was in Chapter 11 reorganization.

The case was heard by Bankruptcy Judge Kenneth G. Owens, who died prior to rendering an opinion. By consent of the parties, Bankruptcy Judge Robert J. Kressel decided the case on the written record, and allowed discharge of the debt in a reported opinion. In Re Long, 44 B.R. 300 (Bkrtcy.D.Minn.1983). On review in the district court, Judge Diana E. Murphy affirmed in an unreported opinion. We also affirm.

I. ALLEGATIONS OF FRAUDULENT BORROWING

Barclays contends that A & C obtained excessive loans by misrepresenting the value of its inventory. The allegation concerns the financial condition of A & C and is thus governed by 11 U.S.C. Sec. 523(a)(2)(B). ¹

Barclays contends that it relied on representations that A & C's inventory was valued at "cost or market, whichever is less." These representations appeared in a footnote to a 1979 financial statement and also in monthly certifications supplied by A & C. There was testimony, however, that it was A & C's practice to establish a cost for an inventory item when the item was originally purchased. If additional quantities of the item were purchased later, the new quantities were entered into the computer records but the per item cost of the original purchases became the assigned or constructive cost of the new purchases. Assuming that this method of record keeping was actually used, as the bankruptcy judge found, there was an inherently inflationary effect on the valuation of inventory on any occasions when items were purchased at discounted prices. Thus, when A & C purchased 30,000 rolls of wallpaper at a discount of some 90%, its assigned cost was the supplier's full list price of $5.50 per roll, the price at which A & C had previously purchased 15-17,000 rolls of the same item.

Although the parties discuss the issue as though it involved an erroneous use of market valuation, that does not seem to be the case. Barclays essentially contends that A & C was representing that its inventory was carried at actual cost for each item, and that the use of a constructive cost, based on the list price of the same type of merchandise, was a fraudulent misrepresentation.

Apart from the accounting issues raised, there is no showing that the inventory as a whole was overvalued for going-concern purposes. On the other hand, large portions of the inventory (including that carried at actual list-price cost) seem to have been overvalued for liquidation sale purposes. Barclays asserts a total loss of approximately $550,000, and other creditors have also suffered major losses.

Discharge is barred under Sec. 523(a)(2)(B) only if, inter alia, the debtor acted with an "intent to deceive." 11 U.S.C. Sec. 523(a)(2)(B)(iv). The bankruptcy judge, as well as the district judge, found that Barclays failed to prove Long acted with the requisite intent. 44 B.R. at 310. Despite Barclays' request for what amounts to de novo review, the lower courts' findings, even though not based on observation of witnesses, are binding upon this court unless clearly erroneous. Anderson v. Bessemer City, --- U.S. ----, 105 S.Ct. 1504, 1511-12, 84 L.Ed.2d 518 (1985). See also In re Hunter, 771 F.2d 1126 (8th Cir. 1985) (reaffirming the clearly erroneous standard of review for bankruptcy judge decisions). Recognizing that the factual inferences are debatable, ² Barclays does not convince us that the findings below are clearly erroneous.

Barclays also argues that the bankruptcy judge should have been reversed because he relied excessively on the noninvolvement of Long personally in the corporate record-keeping or in the monthly certifications. A subsequent decision of this court establishes a rule of responsibility for fraud perpetrated by the debtor's agent if the debtor knew or should have known of the fraud. In re Walker, 726 F.2d 452 (8th Cir.1984). Judge Murphy did consider the effect of the Walker case, and concluded that the bankruptcy judge's findings sufficiently established that Long neither knew of nor should have known of fraud. We agree. Walker, unlike this case, involved the debtor's unincorporated business. His wife was clearly acting as his personal agent, while it is not at all clear that A & C employees were personal agents of Long. Moreover, Judge Kressel found no fraudulent conduct by any of A & C's employees, and Barclays does not identify any employee whose personal misconduct allegedly exceeds that of Long. Absent such a contention, there is nothing to reevaluate in light of Walker. Long's discharge from the debt to Barclays is not barred by fraud in borrowing.

II. ALLEGATIONS OF DEFALCATION BY A FIDUCIARY

Barclays contends that the channeling of income from a segregated "collateral" account to a corporate bank account, and the subsequent distribution, constitutes defalcation or fraud by a fiduciary, and therefore bars discharge of Long's debts pursuant to 11 U.S.C. Sec. 523(a)(4). The contention is founded on a document to which Barclays and A & C were parties, and in which A & C agreed to become trustee of an "express trust." The corpus of the trust was to consist of moneys obtained from accounts receivable, which were to be placed in a segregated bank account, payable to Barclays.

It has long been established that the Bankruptcy Act reference to "fiduciaries" applies only to trustees of express trusts. Davis v. Aetna Acceptance Co., 293 U.S. 328, 333, 55 S.Ct. 151, 153, 79 L.Ed. 393 (1934). Long, however, was not an express fiduciary because the document purportedly creating the trust named A & C, rather than Long, as trustee. See In re Levitan, 46 B.R. 380, 386-87 (Bkrtcy.E.D.N.Y.1985). The Code does not reach constructive trustees, designated as such because of misconduct. We recognize that there are cases charging individuals, by virtue of their corporate officer status, with the corporation's fiduciary duties. In re Interstate Agency, Inc., 760 F.2d 121, 124-25 (6th Cir.1985); Matter of Whitlock, 449 F.Supp. 1383, 1390 (W.D.Mo.1978). To the extent these cases hold that a statute or other state law rule may create fiduciary status in an officer which is cognizable in bankruptcy proceedings, we agree. ³ We question, however, the propriety of imposing a corporation's fiduciary duties on a stockholder-employee in the absence of such a local rule, and decline to do so outside the special contexts in which the doctrine arose.

Moreover, even if Long personally had been named as trustee, or if we chose to impose the corporation's fiduciary duties on him by virtue of his officer status, we hold that he was not a trustee in the "strict and narrow sense," as required to bar discharge under Sec. 523(a)(4). See Davis, 293 U.S. at 333, 55 S.Ct. at 153. It is the substance of a transaction, rather than the labels assigned by the parties, which determines whether there is a fiduciary relationship for bankruptcy purposes. Davis, 293 U.S. at 334, 55 S.Ct. at 154. Under this analysis, many cases have held that the type of relationship which existed between A & C and Barclays is intrinsically more contractual than fiduciary. Davis, 293 U.S. at 334, 55 S.Ct. at 154. In re Levitan, 46 B.R. 380, 385 (Bkrtcy.E.D.N.Y.1985); In re Gallaudet, 46 B.R. 918, 925 (Bkrtcy.D.Vt.1985); In re Miles, 5 B.R. 458, 460 (Bkrtcy.E.D.Va.1980).

We therefore agree with the courts below that Barclays cannot soundly invoke the fiduciary bar against discharge of Long's obligation.

III. ALLEGATIONS OF WILLFUL AND MALICIOUS CONVERSION

The most challenging legal issue in this case is whether Long's conduct should disqualify him from discharge by reason of willful and malicious conversion of Barclays' property. The statutory bar against discharge for "willful and malicious conversion," per se (former 11 U.S.C. Sec. 35(a)(6) ), was deleted in the current revision of the Bankruptcy Code, but has been reinstated by interpretation of Congressional intent in enacting 11 U.S.C. Sec. 523(a)(6). In re Kimzey, 761 F.2d 421, 424 (7th Cir.1985). Guided by the understanding that statutory exceptions to discharge are to be narrowly construed, Kimzey, 761 F.2d at 424; In re Rahm, 641 F.2d 755, 756-57 (9th Cir.), cert. denied sub. nom., Gregg v. Rahm, 454 U.S. 360, 102 S.Ct. 313, 70 L.Ed.2d 157 (1981), we preface our discussion of the exception's applicability to Long with a brief survey of its...