Matter of Garofalo's Finer Foods, Inc., Bankruptcy No. 90 B 8112. No. 94 C 1157. No. 92 A 108.
| Decision Date | 18 August 1995 |
| Docket Number | Bankruptcy No. 90 B 8112. No. 94 C 1157. No. 92 A 108. |
| Citation | 186 BR 414 |
| Parties | In the Matter of GAROFALO'S FINER FOODS, INC., Debtor. Philip V. MARTINO, as Trustee, Plaintiff/Appellee and Cross-Appellant, v. FIRST NATIONAL BANK OF HARVEY, Defendant/Appellant and Cross-Appellee. |
| Court | U.S. District Court — Northern District of Illinois |
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Richard W. Burke, Gerard Dennis Ring, Burke, Warren & MacKay, Chicago, IL, Earle S. Rappaport, Jr., Richard T. Reibman, Paul Joseph Gaynor, Schwartz, Cooper, Greenberger & Krauss, Chicago, IL, for First National Bank of Harvey.
Faye B. Feinstein, Keith Adam Goldberg, John McGinnis, Altheimer & Gray, Chicago, IL, for Philip V. Martino.
Philip V. Martino, Trustee, Rudnick & Wolfe, Chicago, IL.
The defendant/appellant/cross-appellee First National Bank of Harvey ("FNB-Harvey") has appealed the February 17, 1994 decision of the bankruptcy court wherein that court concluded that FNB-Harvey violated 11 U.S.C. sections 364(b), (c) and (d) by extending post-petition overdraft credits to debtor Garofalo's Finer Foods, Inc. ("Garofalo's") outside of the ordinary course of business as contemplated in 11 U.S.C. section 364(a). The bankruptcy court further concluded that FNB-Harvey violated the terms of certain cash collateral orders. The court therefore entered judgment in favor of plaintiff/appellee/cross-appellant Trustee Philip V. Martino ("Trustee") and against FNB-Harvey in the amount of $2,315,901.22, plus costs. FNB-Harvey appeals this judgment, and the Trustee has filed a cross-appeal of the bankruptcy court's denial of his motion for attorney's fees.
This court has jurisdiction pursuant to 28 U.S.C. section 151(a).
On May 2, 1990, the debtor Garofalo's Finer Foods, Inc. filed a voluntary chapter 11 petition. On and prior to May 2, 1990, Garofalo's obtained much of the inventory and equipment it needed to operate its two neighborhood grocery stores from Scot Lad Foods, Inc. and the Midland Grocery Company (collectively, the "Suppliers"). Scot Lad Foods also leased the two store properties to Garofalo's. Scot Lad Foods and Midland Grocery Company are both subsidiaries of Roundy's, Inc.
As of the petition date, Garofalo's was indebted to its secured creditors in excess of $1.7 million: it owed approximately $1.3 million to the Suppliers; $400,000 to Beverly Bank Matteson ("Beverly Bank"); and $10,000 to FNB-Harvey on an automobile installment loan. Garofalo's was further indebted to FNB-Harvey on an unsecured note in the amount of $102,000, and owed its other unsecured creditors an additional $1.4 million. Garofalo's obligations to the Suppliers were secured by its then owned and thereafter acquired inventory, supplies, cash, accounts, accounts receivable, furniture fixtures, equipment, and proceeds thereof (the "collateral"); this collateral also secured its obligation to Beverly Bank, a junior lienholder.
On and prior to May 2, 1990, Garofalo's had a long standing banking relationship with FNB-Harvey, where it maintained its principal checking account. In the seventeen (17) months preceding its bankruptcy petition, Garofalo's overdrew its checking account fifty (50) different times. On each of those occasions, FNB-Harvey extended overdraft protection to Garofalo's and honored the otherwise insufficiently funded checks. The amount of overdraft credit extended varied from a low of $431.93 to a high of $58,384.01; the aggregate amount of overdraft credit extended during this time period totalled $780,070.21. Garofalo's customarily repaid the credit within one or two days after it was extended.
After filing its bankruptcy petition, Garofalo's operated its business as a debtor-in-possession pursuant to 11 U.S.C. sections 1107 and 1108. To do so, Garofalo's negotiated and the court entered two series of "cash collateral orders" which authorized Garofalo's to use its creditors' cash collateral on a limited basis, subject to strict controls and operating budgets submitted to the court. The cash collateral orders provided adequate protection for the Suppliers and Beverly Bank in connection with Garofalo's use of their cash collateral by, inter alia, granting them continuing priority liens and security interests in and to all of Garofalo's post-petition assets, whether then existing or thereafter acquired (including proceeds, products and assessions thereof), to the same extent and priority as their pre-petition liens and security interests.
The bankruptcy court entered the final cash collateral order on November 13, 1990, and thereby authorized Garofalo's use of the cash collateral through either the confirmation or rejection of its amended plan of reorganization. Like the prior orders, the November 13, 1990 cash collateral order ratified and approved the terms of the loan documents that granted the Suppliers and Beverly Bank first priority liens and security interests in the collateral. In addition, the order provided that the Suppliers and Beverly Bank's pre-petition security interests created valid, perfected liens and security interests in and to Garofalo's pre-petition assets, not subject to any defenses. The order also granted the Suppliers an administrative expense priority claim under section 364(c)(1), with priority over all costs and expenses of administration, including those arising under chapter 7 of the Bankruptcy Code.
In further conformity with the prior orders, the November 13, 1990 order stated that its provisions would survive any order of confirmation or conversion and that the liens and security interests held by the Suppliers and Beverly Bank would maintain their priority until their claims were satisfied. Finally, the order stated that it "shall be binding upon . . . the other parties in interest in this Proceeding. . . .", which included FNB-Harvey. The bankruptcy court found that FNB-Harvey had actual notice and knowledge of the bankruptcy proceedings, and that counsel for FNB-Harvey was involved to a limited extent in the hearings that led to the entry of the cash collateral orders.
FNB-Harvey continued to honor Garofalo's overdrawn checks during the time period governed by the cash collateral orders. Garofalo's used the overdraft credit to pay its ordinary operating expenses. FNB-Harvey used funds subsequently deposited by Garofalo's into its checking account to repay the extended overdraft credit. For example, if on Monday, Garofalo's had a $1,000 balance in its checking account at FNB-Harvey and a check drawn on that account was presented at the bank in the amount of $1,900, FNB-Harvey would honor the check by covering the $900 difference with its own funds. Garofalo's would thus be indebted to FNB-Harvey in the amount of $900. If, on the following Tuesday morning, Garofalo's deposited $2,000 into its checking account, FNB-Harvey would apply $900 of the deposited funds to repay the overdraft debt and would credit the remaining $1,100 to Garofalo's checking account balance. Assuming no other transactions, Garofalo's account balance at the close of business on Tuesday would total $1,100.
Despite the strict controls and operating budgets required by the cash collateral orders, neither Garofalo's nor FNB-Harvey disclosed the overdraft credits to the bankruptcy court during the hearings preceding the entry of any of the cash collateral orders. Consequently, the cash collateral orders did not address Garofalo's acceptance of overdraft credit, its repayment of the credit or the impact of the credit on other creditors' claims.
On November 5, 1990, Garofalo's filed its plan of reorganization and disclosure statement. It failed, however, to file its required monthly operating reports with the United States Trustee's Office until the eve of the plan's confirmation. Garofalo's bookkeeper, Greg Joseph ("Joseph"), was responsible for filing these monthly reports. Joseph was actually employed by Roundy's, the parent corporation of the Suppliers, and had been appointed Garofalo's bookkeeper prior to May 1990 at Roundy's behest. As bookkeeper, Joseph prepared and kept Garofalo's books and records; prepared the projections that Garofalo's and the Suppliers presented in support of their agreed motions for issuance of cash collateral orders; and prepared the disclosure statements which were distributed to all creditors. However, Joseph did not disclose the overdraft credits to his employer or the Suppliers.
The monthly operating reports filed on the eve of confirmation revealed that Garofalo's checking account often had a negative ending monthly balance, but did not affirmatively disclose the overdraft credits extended by the bank. Garofalo's Second Amended Plan of Reorganization was confirmed by consent on March 4, 1991. During the intervening five month period, FNB-Harvey continued to extend overdraft credits to Garofalo's and honor its insufficiently funded checks. The bankruptcy court, however, was not apprised of the overdraft credits or repayment process prior to confirming the plan of reorganization.
In April 1991, approximately five weeks after confirmation, Garofalo's filed a motion to vacate the confirmation order because it was unable to meet its projections and could not make the proposed plan payments. The bankruptcy court denied the motion to vacate and converted the case into a Chapter 7 proceeding on April 11, 1991. The United States Trustee subsequently appointed Martino as Chapter 7 Trustee.
At the court's request, the Trustee conducted an investigation to determine why Garofalo's sought to vacate the reorganization order so soon after the reorganization plan had been confirmed. The bankruptcy court further instructed the Trustee to determine whether any improprieties, including criminal misconduct, were involved.
The Trustee's investigation revealed that FNB-Harvey had extended...
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