Waldman v. Stone

Decision Date26 October 2012
Docket NumberNo. 10–6497.,10–6497.
Citation698 F.3d 910
PartiesRandall Scott WALDMAN; RW Limited, Co.; Stone Machine and Fabrication, LLC; Integrity Manufacturing, LLC, Defendants–Appellants, v. Ronald B. STONE, Plaintiff–Appellee.
CourtU.S. Court of Appeals — Sixth Circuit

OPINION TEXT STARTS HERE

ARGUED: Michael R. Wilson, Wilson and Wilson, Attorneys at Law, PLLC, Louisville, Kentucky, for Appellants. Dennis D. Murrell, Middleton Reutlinger, Louisville, Kentucky, for Appellee. Jeffrey A. Clair, United States Department of Justice, Washington, D.C., for Amicus Curiae. ON BRIEF: Michael R. Wilson, John R. Wilson, Wilson and Wilson, Attorneys at Law, PLLC, Louisville, Kentucky, for Appellants. Dennis D. Murrell, John M. Matter, Loren T. Prizant, Middleton Reutlinger, Louisville, Kentucky, for Appellee. Jeffrey A. Clair, United States Department of Justice, Washington, D.C., for Amicus Curiae.

Before: KETHLEDGE and STRANCH, Circuit Judges; GWIN, District Judge.*

OPINION

KETHLEDGE, Circuit Judge.

Ron Stone, a Chapter 11 debtor-in-possession, brought this adversarial proceeding in bankruptcy court against his principal creditor, Randall Waldman. After a trial, the bankruptcy court found that Waldman had obtained nearly all of Stone's business assets by means of fraud. As relief, the court discharged the debts that Stone owed to Waldman, and awarded Stone more than $3 million in compensatory and punitive damages. Waldman now challenges the bankruptcy court's judgment on several grounds, including that the court lacked constitutional authority to enter it. Although we affirm the bankruptcy court's discharge of Stone's debts, we hold that the court lacked authority to award him damages. We therefore affirm in part, vacate in part, and remand.

I.

Stone was the founder and owner of Stone Tool and Machine, Inc. (“STM”), a Kentucky corporation. Although STM had positive equity, it had limited cash flow. By 2003, STM owed Fifth Third Bank more than $1 million, secured by mortgages and liens on STM's business assets and on Stone's house. Eventually, Stone could not keep up with the payments to Fifth Third.

Stone's attorney, Bruce Atherton, introduced Stone to Waldman as a potential investor in STM. What Stone did not know was that Atherton was himself indebted to Waldman for tens of thousands of dollars that Atherton had no means to repay. Atherton planned to settle up with Waldman by helping him to exploit Stone. Without Stone's knowledge, Atherton gave STM's proprietary business data to Waldman to review.

In August 2004, Atherton filed on behalf of STM a Chapter 11 bankruptcy petition that he said would buy time for STM to acquire new capital from Waldman. In fact, however, Atherton was advancing only Waldman's interests, seeking to preserve as many of STM's assets as possible so that Waldman could later acquire them for himself. Atherton barely prosecuted STM's bankruptcy case and allowed the bankruptcy court's automatic stay to expire on November 3, 2004. Fifth Third, STM's principal creditor, then foreclosed on STM's assets in state court. By early 2005, Fifth Third held judgments against both STM and Stone, a related judgment lien on Stone's house, and a mortgage on the house.

Waldman approached Fifth Third before it took possession of any assets. He offered the bank a deal: he would pay $900,000 to Fifth Third in exchange for the bank's rights as a creditor of Stone and STM. Thus, under this scheme, Waldman rather than Fifth Third would become Stone's principal creditor.

Waldman did not have the $900,000 that he needed to buy Stone's debts, so he sought financing from the Bullitt County Bank. As collateral, Waldman offered STM's assets. The problem was that he did not own them yet. So Waldman and Atherton went back to Stone and offered him a deal: Stone would transfer STM's assets to two companies that Waldman owned; in exchange, Waldman would pay off Stone's debts to Fifth Third, the IRS, and other creditors. Waldman also promised Stone a 40% ownership interest in a new business that Waldman would operate with STM's assets, and a job for at least five years. Stone agreed to the deal.

Soon thereafter, Atherton called Stone and demanded that Stone come to his office right away. When Stone arrived, Atherton and Waldman told Stone to sign the deal's closing documents immediately, without reading them, supposedly to meet a filing deadline. Atherton and Waldman assured Stone that the documents reflected the terms of their deal. Waldman also reiterated his promise to pay off Stone's debts. Stone signed the documents. Atherton said that Stone would receive his own copies later.

In fact, however, the documents reflected a different deal: they transferred all of STM's assets to Waldman in exchange for nothing more than a job for Stone with the new company. The documents made no mention of Stone's 40% interest in the new company or of any obligation on Waldman's part to pay off Stone's debts.

While Stone signed his company away, representatives from Fifth Third sat in the room across the hall. Waldman, with the deed to STM's assets in hand and his loan from Bullitt Bank secured, then completed his deal with Fifth Third. (Neither Bullitt nor Fifth Third was aware that Waldman and Atherton had defrauded Stone.) By the time these transactions were complete, Waldman and his companies owned all of STM's assets. Waldman also owned all of Stone's prior indebtedness to Fifth Third, with no obligation to forgive it.

After the deal closed, Waldman and Stone worked together at the new business—called Stone Machine and Fabrication—for more than a year. During that time, Stone repeatedly tried to obtain copies of the May 20, 2005 closing documents. Atherton refused to provide them and eventually he stopped returning Stone's calls. In October 2006, however, Atherton's assistant finally gave Stone the documents. Stone then figured out that he had been swindled. He confronted Waldman, and a fist-fight broke out. With no equity in his business and all of his debts still in place, including the mortgage on his home, Stone resigned from the company.

Waldman and his companies then filed garnishment actions against Stone in an effort to collect on the Fifth Third judgment. Stone responded by filing his Chapter 11 bankruptcy petition. He identified the Waldman debts in his petition as “Disputed.” Stone then filed an adversarial proceeding in bankruptcy court, alleging that Waldman had acquired Stone's debts and assets by fraud. Stone also sued Atherton, who is not a party to this appeal but who was disbarred for his involvement in the fraud upon Stone.

Stone's complaint against Waldman sought two types of relief. First, Stone asked the bankruptcy court to discharge his debts to Waldman, all of which Waldman had acquired from Fifth Third (the “disallowance claims”). Specifically, Stone asked the court to discharge a judgment against him, a judgment lien on his property, and a mortgage on his residence. Second, Stone sought affirmative relief to enforce Waldman's promises (the “affirmative claims”). Stone asked for damages (or specific performance) that would satisfy a judgment against him held by MBNA Bank, satisfy a federal tax lien, and compensate him for a forty percent share of the Waldman-controlled entity that now owned STM's assets.

Waldman appeared in bankruptcy court and counterclaimed against Stone. He sought a judgment on the Fifth Third debts and relief from the bankruptcy court's automatic stay in order to enforce the liens and mortgages on Stone's residence.

The bankruptcy court held a bench trial in October 2009. At its conclusion, the court found that Waldman and Atherton had perpetrated upon Stone one of the most egregious frauds the court had ever encountered. Consequently, the court invalidated all of Stone's obligations to Waldman on the disallowance claims. It also awarded Stone $1,191,374 in compensatory damages and $2,000,000 in punitive damages on the affirmative claims. The district court affirmed the bankruptcy court's judgment in all respects.

This appeal followed.

II.

Waldman challenges on three grounds the bankruptcy court's power to enter its judgment in this case. First, Waldman argues that Stone's state-law fraud claims are beyond the jurisdiction of any federal court. Second, Waldman argues that the judgment here was beyond the statutory authority of the bankruptcy court in particular. And third, Waldman argues that the judgment was beyond the bankruptcy court's power as limited by Article III of the Constitution. We consider these arguments in turn.

A.

Waldman argues that Stone's claims lie outside the jurisdiction of any federal court. To that end, he first contends that Stone's claims do not “arise under” federal law, and thus are beyond the judicial power that the Constitution confers on the federal courts in Article III, § 2. But Waldman overlooks that a debtor's state-law claim, even for affirmative relief, “may be adjudicated in federal court on the basis of its relationship to the petition for reorganization.” N. Pipeline Constr. Co. v. Marathon Pipe Line Co., 458 U.S. 50, 72 n. 26, 102 S.Ct. 2858, 73 L.Ed.2d 598 (1982) (plurality opinion). Stone's claims were adjudicated on precisely that basis here, so Waldman's first objection is meritless.

Waldman also contends that Stone's claims are beyond the federal courts' statutory jurisdiction. Title 28 U.S.C. § 1334(b) provides that “the district courts shall have original but not exclusive jurisdiction of all civil proceedings arising under title 11, or arising in or related to cases under title 11.” Thus, so long as Stone's claims are at least “related to” his bankruptcy petition—which is itself a case under title 11—the federal courts have jurisdiction over Stone's claims. See Mich. Emp't. Sec. Comm'n v. Wolverine Radio Co. (In re Wolverine Radio Co.), 930 F.2d 1132, 1141 (6th Cir.1991). A claim is “related to” a bankruptcy case if the ...

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