Penson Fin. Servs., Inc. v. O'Connell (In re ARBCO Capital Mgmt.)

• Decision Date: 12 July 2012
• Docket Number: No. 11 Civ. 6586(JPO).,11 Civ. 6586(JPO).
• Citation: 479 B.R. 254
• Parties: In re ARBCO CAPITAL MANAGEMENT, LLP, Debtor, Penson Financial Services, Inc., Movant, v. Richard O'Connell, as Chapter 7 Trustee of the estate of Arbco Capital Management, LLP, Respondent.
• Court: U.S. District Court — Southern District of New York

479 B.R. 254

In re ARBCO CAPITAL MANAGEMENT, LLP, Debtor,Penson Financial Services, Inc., Movant,

v.Richard O'Connell, as Chapter 7 Trustee of the estate of Arbco Capital Management, LLP, Respondent.

No. 11 Civ. 6586(JPO).

United States District Court, S.D. New York.

July 12, 2012.

Recognized as Unconstitutional

28 U.S.C.A. § 157(b)(2)(C)

J. Ted Donovan, Goldberg Weprin Finkel Goldstein LLP, New York, NY, for Respondent.

James Ancone, Mark G. Hanchet, Mayer Brown LLP, New York, NY, for Movant.

MEMORANDUM AND ORDER

J. PAUL OETKEN, District Judge.

Penson Financial Services (“Penson”) moves, pursuant to 28 U.S.C. § 157(d), Rule 5011(a) of the Federal Rules of Bankruptcy Procedure, and Rule 5011–1 of the Local Bankruptcy Rules for the Southern District of New York, to withdraw the reference of this proceeding from the United States Bankruptcy Court for the Southern District of New York (“Bankruptcy Court”) to the United States District Court for the Southern District of New York (“District Court”).

For the reasons set forth below, the motion to withdraw the reference is denied.

I. Background ¹

Prior to its involuntary bankruptcy, Arbco Capital Management, LLP (“Arbco”), an investment firm, operated ostensibly to invest money for its clients. In June 2009, Arbco's then-president, Hayim Regensberg, was convicted of seven counts of wire and securities fraud in connection with a Ponzi scheme orchestrated to defraud investors. Regensberg is currently serving a 100–month prison sentence.

Regensberg's investors filed an involuntary Chapter 7 bankruptcy proceeding against Arbco in the Bankruptcy Court in October 2007. See Arbco Capital Management, LLP in Bankruptcy Case No. 07–13283(SCC). Richard O'Connell (the “Trustee”) was appointed as Chapter 7 Trustee of Arbco's estate to investigate Arbco's financial affairs and to attempt to recover monies for distribution to creditors.

Penson, a Texas-based clearing firm, cleared and settled Arbco's trades prior to Arbco's involuntary bankruptcy. On October 15, 2009, the Trustee initiated the instant adversary proceeding against Penson in the Bankruptcy Court. In his complaint, the Trustee alleges that Mr. Regensberg used monies invested in Arbco to engage in highly speculative option and margin trading through Penson. In the two years prior to the filing of its involuntary bankruptcy, Arbco made 37 cash transfers to Penson totaling $10,927,500, which the Trustee now seeks to recover for the bankruptcy estate.

On February 22, 2010, Penson moved to dismiss the Trustee's complaint as factually insufficient. The Bankruptcy Court held a hearing on October 14, 2010, and directed the Trustee to amend the complaint to include more specific factual allegations concerning Penson's role in enabling Regensberg to maintain his Ponzi scheme. The Trustee filed his amended complaint on January 18, 2011.

In the amended complaint, the Trustee asserts seven causes of action against Penson:

1) Intentional fraud under Bankruptcy Code § 548(a)(1)(A);

2) Constructive fraud under Bankruptcy Code § 548(a)(1)(B); 3) Voidable preference under Bankruptcy Code § 547;

4) Aiding and abetting fraud in violation of securities law;

5) Common law breach of fiduciary duty;

6) Breach of contract; and

7) Negligence.

Penson moved in the Bankruptcy Court to dismiss the amended complaint on March 18, 2011.

During an August 4, 2011 conference before the Bankruptcy Court, Judge Shelley Chapman discussed the pending motion to dismiss ² and the impact of the Supreme Court's recent decision in Stern v. Marshall, ––– U.S. ––––, 131 S.Ct. 2594, 180 L.Ed.2d 475 (2011), decided on June 23, 2011. ( See Hearing Transcript; Declaration of Mark G. Hanchet (“Hanchet Decl.”), Dkt. No. 4, ¶ 7.) Penson informed the Bankruptcy Court that it was considering filing a motion to withdraw the bankruptcy reference in light of Stern. The Bankruptcy Court instructed the parties to confer regarding Stern's implications and that, if no agreement could be reached, Penson should notify the Bankruptcy Court as to whether it intended to move to withdraw the reference. ( Id.) On September 6, 2011, Penson notified the Bankruptcy Court that it intended to move to withdraw the reference. ( Id. at ¶ 8.) Penson filed the instant motion to withdraw the reference in this Court on September 20, 2011.

II. Jurisdiction and Adjudicative Power of the Bankruptcy Court

District courts have original jurisdiction over bankruptcy cases and all civil proceedings “arising under” or “related to” cases under Title 11. 28 U.S.C. § 1334. Pursuant to 28 U.S.C. § 157(a), the district court may refer actions within its bankruptcy jurisdiction to the bankruptcy judges of the district. The Southern District of New York has a standing order that provides for automatic reference of bankruptcy cases to the Bankruptcy Court. See In re Standing Order of Reference Re: Title 11, 12 Misc. 32 (S.D.N.Y. Feb. 1, 2012) (“Standing Order”). The Standing Order was recently amended on February 1, 2012 to make clear that the Bankruptcy Court retains jurisdiction to hear matters related to the bankruptcy proceedings and to issue proposed findings of fact and conclusions of law when the Bankruptcy Court lacks constitutional authority to enter a final judgment. Id.³

Notwithstanding the initial automatic reference, a “district court may withdraw, in whole or in part, any case or proceeding referred [to the Bankruptcy Court] under this section, on its own motion or on timely motion of any party, for cause shown.” 28 U.S.C. § 157(d). Prior to Stern, the Second Circuit's decision in In re Orion Pictures Corp., 4 F.3d 1095, 1101 (2d Cir.1993), provided guidance as to whether “cause” for withdrawal of the reference exists. Under the test formulated in Orion, a district court must “first evaluate whether the claim is core or non-core.” Id. Pursuant to 28 U.S.C. § 157, the bankruptcy court has authority to “hear and determine” core matters, but must issue “proposed findings of fact and conclusions of law to the district court” with respect to non-core matters. Id. at 1100–01. Next, under the Orion test, the district court must consider whether the claim is “legal or equitable,” followed by “considerations of efficiency, prevention of forum shopping, and uniformity in the administration of bankruptcy law.” Id. at 1101. No single factor is dispositive.

Post–Stern, the withdrawal analysis may differ. The Supreme Court's decision in Stern at least calls into question the utility of the first prong of the Orion test: the determination of whether the matter is core.

Congress codified the “core” and “non-core” categories in the Bankruptcy Amendments and Federal Judgeship Act of 1984, 28 U.S.C. § 157 (the “1984 Act”), in the wake of another Supreme Court decision, Northern Pipeline Constr. Co. v. Marathon Pipe Line Co., 458 U.S. 50, 102 S.Ct. 2858, 73 L.Ed.2d 598 (1982) (plurality opinion). In Northern Pipeline, as in Stern, the Supreme Court examined the contours of Article III of the U.S. Constitution.

Article III provides:

The judicial power of the United States, shall be vested in one Supreme Court, and in such inferior courts as the Congress may from time to time ordain and establish. The judges, both of the supreme and inferior courts, shall hold their offices during good behaviour, and shall, at stated times, receive for their services, a compensation, which shall not be diminished during their continuance in office.

U.S. Const. art. III § 1. Pursuant to Article III, Congress may not “withdraw from judicial cognizance any matter which, from its nature, is the subject of a suit at the common law, or in equity, or admiralty.” Murray's Lessee v. Hoboken Land & Improvement Co., 59 U.S. 272, 284, 18 How. 272, 15 L.Ed. 372 (1855). Bankruptcy courts, in contrast to Article III courts, are established by Congress pursuant to its power under Article I of the Constitution, to exercise jurisdiction over matters arising under bankruptcy laws. U.S. Const. art. I § 8; see generally Northern Pipeline, 458 U.S. at 63–64, 102 S.Ct. 2858;Collins v. Foreman, 729 F.2d 108, 113 (2d Cir.1984).

In Northern Pipeline, the Supreme Court considered whether it was constitutional for Congress to establish bankruptcy courts, as legislative courts, to exercise jurisdiction over matters arising under bankruptcy laws. A majority of the Supreme Court held that it was unconstitutional for the bankruptcy court to enter a final judgment adjudicating state-law contractclaims against a party who was not otherwise a part of the bankruptcy proceeding. Northern Pipeline, 458 U.S. at 88, 102 S.Ct. 2858;see also id. at 92, 102 S.Ct. 2858 (Rehnquist, J., concurring in judgment). While the plurality in Northern Pipeline recognized that there existed an imprecisely defined category of rights—“public rights” (discussed in section III(A)(2) infra )—that Congress could constitutionally assign for resolution to non-Article III courts, id. at 67–70, 102 S.Ct. 2858 the majority in Northern Pipeline held that any public rights exception did not encompass adjudication by a bankruptcy court of the state-law claim at issue in that case, id. at 71–72, 102 S.Ct. 2858;see also id. at 91, 102 S.Ct. 2858 (Rehnquist, J., concurring in judgment).

In response to Northern Pipeline, Congress enacted the 1984 Act, which revised the statutes governing the bankruptcy courts. The 1984 Act empowers bankruptcy courts to hear, determine, and enter final judgment on core matters, including for example “matters concerning the administration of the estate,” “counterclaims by the estate against persons filing claims against the estate,” “proceedings to determine, avoid, or recover preferences,” and “proceedings to determine, avoid, or recover fraudulent conveyances.” 28 U.S.C. § 157(b)(1)(A), (B), (F), (H). With respect to non-core matters, the 1984 Act requires “any final order or judgment [to] be entered by the district judge after considering the bankruptcy...