Old Carco LLC and RJM I, LLC, as Liquidation Trustee for Old Carco L

UNITED STATES BANKRUPTCY COURT
SOUTHERN DISTRICT OF NEW YORK
__________________________________________
:
In re 	: 	Chapter 11
:
OLD CARCO LLC, f/k/a CHRYSLER LLC, et al., : 	Case No. 09 B 50002 (AJG)
:
Debtors. 	: 	(Jointly Administered)
:
__________________________________________:
OPINION DENYING MOTION OF RAMIREZ CHRYSLER JEEP DODGE, INC.
FOR ALLOWANCE OF ADMINISTRATIVE EXPENSES
PURSUANT TO 11 U.S.C. §§ 503(b)(1) AND 507(a)(2)
APPEARANCES:
HUGHES, WATTERS, ASKANASE, L.L.P.
Counsel for Ramirez Chrysler Jeep Dodge, Inc.
Houston, Texas
By: 	Wayne Kitchens, Esq.
Heather McIntyre, Esq.
JONES DAY
Counsel for the Debtors
New York, New York
By: 	Corinne Ball, Esq.
-and -
Atlanta, Georgia
By: 	Jeffrey B. Ellman, Esq.
ARTHUR J. GONZALEZ
UNITED STATES BANKRUPTCY JUDGE
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1On May 19, 2009, an additional affiliate of Chrysler LLC filed a petition for relief under title 11 of the
Bankruptcy Code.
2
Before the Court is a motion seeking administrative expense priority for damages
sustained by an automobile dealer as a result of the voluntary termination by the dealer of its
sales and service agreements with the automobile manufacturer.
The Court concludes that any claim for damages sustained by the dealer stems from the
applicable pre-petition executory contracts. Therefore, any such claim is a pre-petition general
unsecured claim not entitled to administrative expense priority.
FACTS
On April 30, 2009, Old Carco LLC f/k/a Chrysler LLC and 24 of its domestic direct and
indirect subsidiaries, including Old Carco Motors LLC f/k/a Chrysler Motors LLC (“Chrysler
Motors”) 1 (collectively, the “Debtors”) filed for protection under title 11 of the United States
Code (the “Bankruptcy Code”). The Debtors’ cases are being jointly administered for
procedural purposes, pursuant to Rule 1015(a) of the Federal Rules of Bankruptcy Procedure.
On May 5, 2009, an Official Committee of Unsecured Creditors (the “Creditors’ Committee”)
was formed.
On June 1, 2009, an order was entered, pursuant to section 363 of the Bankruptcy Code,
granting the Debtors’ motion to approve the sale of substantially all of the Debtors’ operating
assets. Thereafter, on June 9, 2009, an order was entered authorizing the Debtors, pursuant to
sections 105 and 365 of the Bankruptcy Code, to reject executory contracts and unexpired leases,
including 789 sales and service agreements with domestic car dealerships. The sales and
servicing agreements at issue in the instant matter were not included among the 789 rejected
agreements. On June 10, 2009, the sale of the Debtors’ assets closed.
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2The Dealer Agreements incorporated certain terms and conditions contained in the Chrysler Corporation
Sales and Service Agreement Additional Terms and Conditions.
3
Prior to the filing by the Debtors for bankruptcy protection, Ramirez Chrysler Jeep
Dodge, Inc. (the “Dealer”) operated as a dealer for each of the Debtors’ three separate lines of
automobiles. In 2002, the Dealer entered into separate sales and servicing agreements (the
“Dealer Agreements”) 2 with Chrysler Motors for each of those lines of automobiles. Paragraph
28(a) of each of the separate Dealer Agreements provided that the Dealer could “terminate this
Agreement on not less than 30 days written notice.” Each Dealer Agreement also provided that,
for certain delineated reasons, Chrysler Motors could terminate the Dealer Agreement on 60
days’ notice. Although Chrysler Motor’s right to terminate was limited to certain situations, the
Dealer’s right to terminate was not restricted, other than with respect to the requirement that it
provide at least 30 days’ notice. The Dealer Agreements also provided that within ninety days of
any effective termination under paragraph 28 of the applicable Dealer Agreement, Chrysler
Motors would buy, and the dealer would sell, among other things, vehicle inventory and
automobile parts, signs, tools, and equipment (the “Repurchase Obligations”).
On March 31, 2009, the Dealer sent a Notice of Termination of Dealer Sales and Service
Agreement by Ramirez Chrysler Jeep Dodge, Inc. (the “Termination Notice”). In the
Termination Notice, the Dealer expressly referenced its claim based upon Chrysler Motor’s
Repurchase Obligations.
In response to the Termination Notice, Chrysler Motors sent a letter, dated May 4, 2009,
to the Dealer acknowledging the termination and stating that such termination was “effective
April 30, 2009.” In the letter, Chrysler Motors also acknowledged that the termination imposed
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3At the time of the May 15, 2009 e-mail, the amount of vehicle inventory for which the Dealer was
asserting a claim was $1,879,963. Since that date, the Dealer has sold various portions of the automobile inventory
to other dealers. At the time it filed its motion on August 27, 2009, the Dealer alleged that the vehicle inventory
claim had been reduced to $810,060. In addition, as of August 27, 2009, the Dealer asserts that its claim for the
Repurchase Obligations related to automobile parts, signs, tools, and equipment is approximately $500,000, resulting
in a total alleged claim of approximately $1,310,060.
4
certain Repurchase Obligations upon it. In addition, Chrysler Motors sought certain details
concerning the vehicles subject to the Repurchase Obligations. The Dealer replied by sending an
e-mail, dated May 15, 2009, with a chart attached providing information concerning the
vehicles.3
On August 27, 2009, the Dealer filed a motion in these bankruptcy cases seeking
administrative expense priority, pursuant to sections 503(b)(1) and 507(a)(2) of the Bankruptcy
Code, for its claim for $1,310,060 allegedly arising from the Repurchase Obligations. The
Debtors oppose the Dealer’s motion. A hearing on this matter was held before the Court on
October 22, 2009.
Parties’ Contentions
The Dealer argues that it is entitled to an administrative expense priority for its claim
arising from the termination of the Dealer Agreements and the resulting Repurchase Obligations
imposed on Chrysler Motors by the Dealer Agreements. Initially, the Dealer asserted that the
claim was entitled to priority under traditional administrative expense priority standards, arguing
that the Dealer bestowed a benefit upon the estates. First, the Dealer alleged that it conferred a
benefit upon the estates by voluntarily terminating the Dealer Agreements and sparing the estates
the cost of having to reject the Dealer Agreements in the Debtors’ administration of those
estates. In addition, the Dealer argued that the estates received a separate benefit because the
Dealer worked diligently to continue to sell inventory to reduce the Debtors’ Repurchase
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Obligations. The Dealer also argued that the vehicles were property of the Debtors’ estates,
which estates were benefitted when the Dealer preserved such property.
Subsequently, the Dealer asserted that its claim is entitled to administrative priority
pursuant to either (i) 28 U.S.C. § 959(b), which requires a trustee or debtor-in-possession to
manage or operate its business in compliance with state law, or (ii) a line of cases that accord
administrative priority to certain obligations incident to the operation of a debtor’s business. In
support of this argument the Dealer argues that because the state in which the dealership is
located has enacted a comprehensive regulatory scheme (the “Dealer Law”) pursuant to its
police powers, which scheme was intended to address the disparity in bargaining power between
automobile manufacturers and dealers, and because 28 U.S.C. § 959(b) requires a debtor to
operate its business in accordance with the requirements of state law, the Debtors were required
to operate their business in accordance with the Dealer Law. In addition, the Dealer cites a line
of cases that hold that actual and necessary costs warranting administrative priority include costs
ordinarily incident to the operation of a business. The Dealer asserts that it is ordinarily incident
to an automobile manufacturer’s business to comply with state dealer laws.
The Debtors argue that the origin of the Repurchase Obligation claim is the parties’ entry
into the Dealer Agreements in 2002. The Debtors assert that the terms of the Dealer Agreements
provided for the Repurchase Obligations to occur upon the subsequent termination of such
agreements. The Debtors contend that when a debtor-in-possession has post-petition termination
obligations under a pre-petition contract or lease, such obligations are generally found to be pre-
petition obligations even if the right to payment arises post-petition. As such, the Debtors assert
that the claim is a pre-petition claim, which is accorded general unsecured status.
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The Debtors further argue that even if the Repurchase Obligations were deemed to have
arisen upon termination, that termination occurred pre-petition. According to the Debtors, even
if the termination date itself is relevant, such date occurred either on March 30, 2009, when the
Dealer sent the Termination Notice, or on April 29, 2009, when the 30 day period after the notice
lapsed, or at the latest, April 30, 2009, the date that Chrysler Motors - in its May 4, 2009 letter -
acknowledged as the termination date. Inasmuch as the Debtors filed for bankruptcy in the
afternoon of April 30, 2009, the Debtors assert that all of those periods occurred pre-petition.
In addition, the Debtors assert that the inventory at issue is not property of the estates as
evidenced by the repurchase requirements contained in the Dealer Agreements. The Debtors
assert that if the Debtors owned the property, there would not be a requirement for them to
“repurchase” such property. Moreover, the Debtors observe that if the property were the
Debtors’ property as asserted by the Dealer, the Dealer’s exercise of control over such property
would have violated the automatic stay imposed by section 362 of the Bankruptcy Code. The
Debtors also assert that, in the context of their having rejected 789 contracts, any incremental
cost associated with addressing the rejection of these few additional leases would have been
nominal.
The Debtors contend that the claim does not warrant administrative priority status under
either (i) the traditional criteria for administrative priority, (ii) application of 28 U.S.C. § 959(b),
or (iii) any case law exceptions to the traditional administrative expense priority standard that
allow administrative priority.
The Debtors maintain that 28 U.S.C. § 959(b) only applies to an ongoing business, as
does the line of cases concerned with costs ordinarily incident to the operation of a business.
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The Debtors assert that from the start of these bankruptcy cases, it was clear that the Debtors
were ceasing business operations in anticipation of selling their operating assets. The Debtors
note that from the commencement of the cases, the Debtors’ intent was to liquidate the assets and
make a distribution to creditors. At or prior to the commencement of the cases, the Debtors idled
most operations pending the sale of the Debtors’ assets to the purchaser. The Debtors ceased all
manufacturing operations and only held the business enterprise intact until a sale of the assets
could be concluded.
In addition, the Debtors argue that the Dealer’s claim only seeks to effectuate its private
economic interests and rights under the Dealer Law, not any interest the state may have in
protecting public health and safety, and especially not any interest in avoiding an imminent
threat to public health and safety.
DISCUSSION
Administrative Expense Priority
Traditional Criteria
Section 503(b)(1)(A) of the Bankruptcy Code provides a priority for “the actual,
necessary costs and expenses of preserving the estate . . . for services rendered after the
commencement of the case.” Pursuant to section 507(a)(1) of the Bankruptcy Code, these
expenses for administering the estate are afforded a first priority. Thus, expenses incurred by the
debtor-in-possession during the reorganization effort are afforded a first priority. See In re
Jartran, 732 F.2d 584, 586 (7th Cir. 1984).
This priority is based upon the premise that the operation of the business by a debtor-in-
possession benefits pre-petition creditors; therefore, any claims that result from that operation
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are entitled to payment prior to payment to “creditors for whose benefit the continued operation
of the business was allowed.” Cramer v. Mammoth Mart, Inc. (In re Mammoth Mart, Inc.), 536
F.2d 950, 954 (1st Cir. 1976). Although Mammoth Mart was decided under the former
Bankruptcy Act, its analysis remains applicable under the Bankruptcy Code. See In re Drexel
Burnham Lambert Group Inc., 134 B.R. 482, 489 (Bankr. S.D.N.Y. 1991).
Administrative expenses are afforded this priority to facilitate the reorganization effort by
encouraging third parties, who might otherwise be reluctant to deal with a debtor-in-possession,
to transact such business. See Amalgamated Ins. Fund v. McFarlin’s Inc., 789 F.2d 98, 101 (2d
Cir. 1986) (citing Mammoth Mart, 536 F.2d at 954). Absent this incentive, third parties would
refrain from dealing with the debtor-in-possession, thereby inhibiting the reorganization effort
and harming pre-petition creditors. Id.
Nevertheless, in light of the bankruptcy goal of providing equal distribution of a debtor’s
assets to all creditors, “statutory priorities, such as those resulting from administrative expense
treatment, are narrowly construed.” Ames, 306 B.R. at 54 (citing Amalgamated Ins. Fund, 789
F.2d at 101). Strictly construing the terms “actual” and “necessary” minimizes administrative
expense claims, thereby preserving the estate for the benefit of all creditors. See Drexel, 134
B.R. at 488. If claims not intended to have priority were afforded such, the value of the priority
for those creditors Congress intended to prefer would be diluted. See Mammoth Mart, 536 F.2d
at 953. It is important to note that any dispute between a provider of goods or services and the
solvent recipient for such goods or services based upon an ordinary contract becomes, once the
recipient becomes a debtor in bankruptcy, a contest among the debtor’s creditors to share in the
distribution of the debtor’s assets. See General American Transportation Corp. v. Martin (In re
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Mid Region Petroleum, Inc.), 1 F.3d 1130, 1133 (10 th Cir. 1993). Any priority given to one
creditor is effected to the detriment of other creditors. See In re Patient Education Media, Inc.,
221 B.R. 97, 101 (Bankr. S.D.N.Y. 1998).
Ordinarily, an expense will be accorded administrative status
1) if it arises out of a transaction between the creditor and the bankrupt’s trustee or
debtor-in-possession; and
2) only to the extent that the consideration supporting the claimant’s right to payment
was both supplied to and beneficial to the debtor-in-possession in the operation of the
business.
Amalgamated Ins. Fund, 789 F.2 at 101; see also Mammoth Mart, 536 F.2d at 954.
The services performed by the claimant must have been “induced” by the debtor-in-
possession, not the pre-petition debtor. See Jartran, Inc., 732 F.2d at 587 (citing Mammoth
Mart, 536 F.2d at 587). Considering inducement by the debtor-in-possession to be a crucial
element comports with the policy reason for allowing the priority, which is to encourage third
parties to supply the debtor-in-possession with goods and services with the goal of achieving a
reorganization to benefit all creditors. See Jartran Inc., 732 F.2d at 588, 590. Thus, benefit to
the debtor-in-possession alone, without its having induced the performance, is not sufficient to
warrant entitlement to an administrative claim priority, as it would contradict this policy reason
for allowing the priority. See Jartran, Inc., 732 F.2d at 590.
Where a “debtor-in-possession elects to continue to receive benefits from the other party
to an executory contract pending a decision to assume or reject the contract, the debtor-in-
possession is obligated to pay for the reasonable value of those services.” Patient Education
Media, 221 B.R. at 101 (quoting NLRB v. Bildisco & Bildisco, 465 U.S. 513, 531, 104 S. Ct.
1188, 1199, 79 L. Ed.2d 482 (1984)); see also In re Continental Airlines, Inc., 146 B.R. 520, 526
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(Bankr. D.De. 1992). Therefore, the claims of third parties who are induced to supply goods or
services to a debtor-in-possession pursuant to a contract that has not been rejected are afforded
administrative priority to the extent that the consideration supporting the claim was supplied
during the reorganization. See Jartran, Inc., 732 F.2d at 588. The claimant has the burden of
establishing entitlement to the priority. See Drexel, 134 B.R. at 489.
Priority, however, is not afforded a claim merely because the right to payment arises
post-petition. See Amalgamated Ins. Fund, 789 B.R. at 101. Thus, where there is a pre-petition
contract or lease, and the consideration supporting the claim is supplied pre-petition, court have
determined that those claims are not entitled to administrative priority, even if the right to
payment arises post-petition. See Amalgamated Ins. Fund, 789 B.R. at 101-104 (holding that a
required lump sum payment, imposed as liability to withdraw from a multi-employer pension
fund, is not entitled to administrative priority even where the payment was due post-petition
because the consideration supporting the withdrawal liability is the past (pre-petition) labor of
the covered employee).
The Reading Line of Cases
An exception to the requirement that there be an actual benefit to the estate before a
claim can be accorded administrative priority has developed in the context of torts committed by
the trustee or debtor-in-possession during the course of a chapter 11 proceeding. See In re
Puerto Rican Food Corp., 41 B.R. 565, 572-73 (Bankr. E.D.N.Y. 1984) (citing Reading Co. v.
Brown, 391 U.S. 471, 482, 88 S. Ct. 1759, 1765, 20 L. Ed.2d 751 (1968)) (other citations
omitted).
In Reading, which concerned an arrangement under Chapter XI of the Bankruptcy Act,
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the Supreme Court reasoned that if a party were injured by negligence in the operation of an
“insolvent business thrust upon it by operation of law,” it was “fairer” to compensate the injured
party upon whom the arrangement had been imposed before compensating those for whose
benefit the arrangement was being effected. See Reading, 391 U.S. at 478-79, 88 S. Ct. at 1763-
64. Thus, the Supreme Court held that a tort arising during the arrangement is treated as an
“actual and necessary expense[ ]” of the estate. Id. at 482, 88 S. Ct. at 1765. The concept has
since been applied in chapter 11 reorganization cases under the Bankruptcy Code. See Puerto
Rico Food Corp, 41 B.R. at 572-73 (citing cases). The justification is that it is “more natural and
just” to compensate those who were injured by the operation of the business during the
reorganization effort ahead of those for whose benefit the business was allowed to continue to
operate. Reading, 391 U.S. at 482, 88 S. Ct. at 1765. Thus, “costs ordinarily incident to
operation of a business” can be afforded administrative priority. Reading Co., 391 U.S. at 483,
88 S.Ct. at 1766.
In Spunt v. Charlesbank Laundry, Inc. (In re Charlesbank Laundry, Inc.), 755 F.2d 200,
202-03 (1st Cir. 1985), the fairness rationale of Reading was extended to a debtor-in-possession’s
intentional act that violated the law, where the estate’s actions injured innocent parties. In
Charlesbank Laundry, a temporary injunction was issued that enjoined the operation of a laundry
in violation of a zoning ordinance, which operation would create a public nuisance. Id. at 201.
The Charlesbank Laundry court granted administrative expense priority to a compensatory civil
fine that was levied because of the debtor-in-possession’s violation of the temporary injunction.
Id. at 202-03. The Charlesbank Laundry court noted that
[i]f fairness dictates that a tort claim based on negligence should be paid ahead of
pre-reorganization claims, the a fortiori, an intentional act which violates the laws
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and damages others should be so treated.
Id. at 203.
In addition, courts have accorded administrative priority to certain claims to further the
goal of environmental protection. See Alabama Surface Mining. Comm. v. C. Michael Stilson (In
re N.P. Mining Co., Inc.) 963 F.2d 1449, 1457-59 (11th Cir. 1992) (discussing cases). In that
regard, a trustee’s effort “to marshall and distribute” estate assets is subject to the governmental
interest in public health and safety. Id. at 1457 (citing Midlantic Nat’l Bank v. New Jersey Dept.
of Environmental Protection, 474 U.S. 494, 501-02, 106 S. Ct. 755, 759-60, 88 L. Ed.2d 859
(1986)). Thus, administrative priority has been accorded for the post-petition costs incurred for
prompt cleanup of health hazards. Id. (citing Lancaster v. Tennessee (In re Wall Tube & Metal
Prods. Co.), 831 F.2d 118, 123 (6th Cir. 1987)). Allowing an administrative priority for a state’s
clean-up costs associated with an ongoing health hazard was deemed necessary to ensure that the
bankruptcy estate complied with state law and “to protect the health and safety of a potentially
endangered public.” Id. at 1457-58 (citing Wall Tube, 831 F.2d at 124).
28 U.S.C. § 959(b)
There is a federal policy concern with ensuring compliance by trustees with state law,
and 28 U.S.C. § 959(b) provides, in relevant part, that
[A] trustee . . . appointed in any cause pending in any court of the United States,
including a debtor in possession, shall manage and operate the property in his
possession as such trustee . . . according to the requirements of the valid laws of
the State in which such property is situated, in the same manner that the owner or
possessor would be bound to do if in possession thereof.
The N.P. Mining case concerned the strip-mining business, which is highly regulated due
to environmental concerns that affect public health and safety. The N.P. Mining court noted that
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because an entity operating a business similar to that of the debtor’s outside of bankruptcy would
be required to pay fines for failure to abate violations of environmental laws, “the policy of
section 959(b) that state law govern the actions of a trustee mandates that [such] fines be paid”
by an entity operating under bankruptcy protection. See N.P. Mining, 963 F.2d at 1458. Thus,
“[w]hen a trustee or debtor-in-possession operates a bankruptcy estate, compliance with state
law should be considered an administrative expense.” Id. The policy is enforced to preclude
affording a bankruptcy estate “an unfair advantage over non-bankrupt competitors.” Id.
Several courts have concluded that 28 U.S.C. § 959(b) does not apply when a business is
not operating and its assets are being liquidated. See N.P. Mining, 963 F.2d at 1460 (citing
cases). Indeed, the plain language of section 959(b) provides that a trustee or debtor-in-
possession “shall manage and operate the property” in compliance with state law. Moreover,
the focus of section 959(b) is preventing an unfair advantage for businesses under the protection
of bankruptcy as against their non-bankrupt competitors. Id. at 1458. Thus, the N.P. Mining
court concluded that once a trustee or debtor-in-possession ceases business operations, section
959(b) does not apply. Id. at 1460. Moreover, the N.P. Mining court also concluded that once
business operations ceased, the language employed in Reading no longer applied. Id. Thus,
once a trustee is not “operating” the estate,
neither the policy of 28 U.S.C. § 959(b) that a trustee “manage and operate a
property” in compliance with state law nor the language of Reading that “costs
incident to operation of a business” is implicated.
Id.
In N.P. Mining, while the trustee had ceased all mining operations, the trustee continued
to administer a coal-brokering contract. Id. Nevertheless, the N.P. Mining court concluded that
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although the trustee’s administration was not entirely inactive, the continuance of the coal-
brokering contract was an effort to protect an estate asset for future distribution to creditors. Id.
The court viewed it as merely a way to maintain the status quo. Id. at 1461. The N.P. Mining
court quoted Judge Learned Hand’s interpretation of 28 U.S.C. § 125, the predecessor section to
28 U.S.C. § 959, to the effect that
[m]erely to hold matters in the status quo; to mark time, as it were; to do only
what is necessary to hold the assets intact; such activities are not a continuance of
the business.
Id. at 1460 (quoting Vass v. Conron Bros. Co., 59 F.2d 969, 971 (2d Cir. 1932)). Similarly, costs
“incurred when a trustee is merely maintaining an estate for later distribution of assets cannot be
considered ‘costs ordinarily incident to the operation of a business.’” Id. at 1460-1461.
Applying Law to the Dealer’s Claim
The Dealer’s claim arises out of the terms of the pre-petition Dealer Agreements. The
claim does not arise from a transaction between the Dealer and the Debtors. Further, the Dealer
did not provide any benefit to the Debtors’ estates. The Debtors correctly assert that the Dealer
had an obligation to continue to sell inventory to mitigate damages against the estates and, in
addition, that the Dealer itself benefitted from any such sales. Whatever benefit the Debtors’
estates received in terms of a reduction of the Repurchase Obligations, the Dealer was fully
compensated as it received payment in that amount. Moreover, the Dealer was preserving its
own property, not the Debtors’ property; otherwise, the Debtors would not have had an
obligation to “repurchase” such property. Indeed, paragraph 29(a) of each Dealer Agreement
provides that Chrysler Motors’ Repurchase Obligations applied to vehicles that were
“purchased” by the Dealer from Chrysler Motors and “that are on the effective date of
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4Paragraphs 29(b) and 29(c) of the Dealer Agreements concerning the Repurchase Obligation for parts and
accessories, respectively, have similar references. In addition, paragraph 29(d) references signs “belonging to
Dealer,” and paragraph 29(e) references tools “purchased by Dealer.”
15
termination the property of . . . Dealer.” 4 In addition, if the property at issue were the Debtors’
property, the Dealer would have been subject to the section 362 automatic stay. Nor was any
meaningful benefit conferred upon the estates as a result of the elimination of the obligation to
reject the contract.
The traditional standard for administrative claim priority as set forth in Mammoth Mart
is not met because the claim did not arise out of a transaction between the Dealer and the
Debtors; nor was a benefit conferred upon the estates in the operation of their businesses.
The Dealer argues that the Debtors did induce performance by the Dealer because the
Debtors required the Dealer to respond to their inquiry and provide detail concerning the
inventory subject to the Repurchase Obligations. The Debtors’ request for such detail, however,
merely reflected the basic fact that a claim for damages under a contract would normally need to
be substantiated with relevant details. No inducement of the type contemplated in Mammoth
Mart was implicated.
The Debtors did not receive any benefit from the Dealer “pending a decision to assume or
reject the contract.” In fact, by sending the Termination Notice, the Dealer set into motion its
contractual right to terminate the contract. As the Debtors note, once the Dealer sent the
Termination Notice, all that remained for the termination to be effective was the passage of time.
There were no meaningful obligations to perform.
The Court recognizes that the Dealer has a claim against the Debtors based upon the
Repurchase Obligations contained in Dealer Agreements and relevant state law. However,
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because that claim arises out of the pre-petition contracts, and because no cognizable benefit was
conferred on the Debtors’ estates in connection therewith, any such claim is a pre-petition
general unsecured claim.
The Court agrees with the premise that had the Debtors continued in business, they may
have been subject to a continuing obligation under state law to perform the Repurchase
Obligations. The Court concludes, however, that the facts presented do not implicate either the
Reading line of cases or 28 U.S.C. § 959(b). As set forth in the cases cited in In re Old Carco,
LLC, (Slip Op. No. 09-50002 January 5, 2010) ___ B.R. ___ (Bankr. S.D.N.Y. 2010), the
reasoning of the Reading line of cases has been applied in the context of a debtor’s negligence, a
debtor’s intentional misconduct, or injury to an innocent third party with no prior relationship to
the debtor. There is no allegation that the Debtors were negligent or that they committed an
intentional tort. Further, in the instant case, the Dealer was not an unrelated third party adversely
affected by the Debtors’ actions. Instead, it had a pre-petition contractual relationship with the
Debtors and its claim stems from the breach of the very contracts that engendered that
relationship. Although the due date for payment of the Repurchase Obligations may occur post-
petition, the obligations stem from a pre-petition relationship. The Reading exception does not
include a right to payment emanating from a pre-petition contract with a debtor. The Court
reiterates that the Dealer is allowed a claim against the Debtors’ estates for any entitlement it
may have to payment of the Reimbursement Obligations. That claim, however, is a general
unsecured claim, similar to that of other claimants who have claims against the Debtors arising
from the breach of a pre-petition contract.
Following Reading, courts have accorded administrative priority to certain claims to
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further the goal of environmental protection. See N.P. Mining, 963 F.2d at 1457-59 (discussing
cases). In that regard, a trustee’s effort “to marshall and distribute” estate assets is subject to the
governmental interest in public health and safety. Id. at 1457 (citing Midlantic Nat’l Bank v.
New Jersey Dept. of Environmental Protection, 474 U.S. 494, 501-02, 106 S. Ct. 755, 759-60, 88
L. Ed.2d 859 (1986)). Thus, administrative priority has been accorded for the post-petition costs
incurred for prompt cleanup of health hazards. Id. (citing Lancaster v. Tennessee (In re Wall
Tube & Metal Prods. Co.), 831 F.2d 118, 123 (6th Cir. 1987)). Allowing an administrative
priority for a state’s clean-up costs associated with an ongoing health hazard was deemed
necessary to ensure that the bankruptcy estate complied with state law and “to protect the health
and safety of a potentially endangered public.” Id. at 1457-58 (citing Wall Tube, 831 F.2d at
124).
In the Opinion approving the rejection of the sales and servicing agreements entered into
between Chrysler Motors and other dealers, this Court concluded that state laws governing the
relationship between automobile manufacturers and dealers constitute primarily commercial and
economic regulation as applied to the dealers and are not intended to protect the health and
safety of the general public. See Old Carco, 406 B.R. at 204. As such, here the Dealer is
attempting to advance its private interests and rights under the Dealer Law, as opposed to an
effort to advance a state’s interest in protecting the health and safety of the general public.
Therefore, the analysis of the cases that extended the Reading rationale to situations involving
environmental hazards is not applicable. The Dealer Law afford the Dealer certain rights by
virtue of the pre-petition contracts that the Dealer entered into with the Debtors. The claim is
not independent of those contracts and stem from the breaches of those pre-petition contracts.
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The Dealer is merely advancing its own economic interests similar to those interests of any other
creditor who has a claim based upon a breach of a pre-petition contract.
Moreover, even if the general purpose of the Dealer Law includes some concern for
public health and safety, in the present case, there is no allegation of an imminent and
identifiable hazard. In Old Carco, 406 B.R. at 191, this Court declined to apply a heightened
standard for the rejection of dealer agreements in the absence of an imminent identifiable harm.
In its analysis, the Court cited to Midlantic, in which the Supreme Court noted that although a
trustee was precluded from abandoning property, pursuant to Bankruptcy Code section 554, if
such abandonment violated a state law designed to protect public health and safety, any such
exception to the abandonment power was to be construed narrowly and only applied where the
law at issue was “reasonably calculated to protect the public health or safety from imminent and
identifiable harm.” Old Carco, 406 B.R. at 204 (citing, Midlantic, at 474 U.S. at 507 fn.9, 106
S.Ct. 755). Similarly, an imminent and identifiable hazard would be a prerequisite to affording
administrative expense priority to a claim based upon a breach of a related obligation The
Bankruptcy Code expressly provides that claims based upon breaches of pre-petition contracts
are pre-petition claims, which are not entitled to administrative priority. The rationale of the
Reading line of cases does not justify affording the Dealer’s claim administrative priority.
As this Court held in In re Old Carco, LLC, (Slip Op. No. 09-50002 January 5, 2010) ___
B.R. ___ (Bankr. S.D.N.Y. 2010), the analysis of the Reading line of cases and 28 U.S.C.
§ 959(b) apply in the context of a debtor’s ongoing business operations. Here, however, the
Debtors ceased production and operations as an automobile manufacturer upon filing of the
petitions. The Debtors directed their efforts to maintaining the status quo until the conclusion of
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a sale of substantially all of the assets to a purchaser, which occurred within several weeks of the
filing.
Further, the justification for requiring a trustee or debtor-in-possession to comply with
costs incident to and incurred in the operation of a business is to preclude the estate’s business
from obtaining an unfair advantage over a competing business. Here, as set forth in the
Affidavit, dated April 30, 2009 (the “Kolka Affidavit”) of Ronald E. Kolka, in support of First
Day Pleadings, the Debtors ceased manufacturing operations upon the filing of their petitions
and were in liquidation from the first day of the case. See Kolka Affidavit ¶ 89. Therefore, the
unfair advantage rationale does not apply. As the N.P. Mining court concluded, these
circumstances implicate “neither the policy of 28 U.S.C. § 959(b) that a trustee ‘manage and
operate a property’ in compliance with state law nor the language of Reading that ‘costs incident
to operation of a business’ [are entitled to administrative priority].” N.P. Mining, 963 F.2d at
1460. The Dealer’s claim stems from the pre-petition Dealer Agreements. The claim is not
entitled to administrative expense priority.
CONCLUSION
Any claim that the Dealer has against the Debtors’ estates based upon the Repurchase
Obligations arises out of the pre-petition Dealer Agreements. Inasmuch as any such claim arises
out of the pre-petition contracts, and because no benefit was conferred on the Debtors’ estates,
that claim is a pre-petition general unsecured claim that is, therefore, not entitled to
administrative expense priority.
The rationale of the Reading line of cases does not justify affording this claim
administrative priority. Further, the circumstances herein do not implicate the policy of 28
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U.S.C. § 959(b) concerning a trustee managing and operating a business in compliance with state
law because the Debtors were not conducting an ongoing business. Nor is the language of the
Reading line of cases concerning “costs incident to operation of a business” implicated.
The Debtors are to submit a proposed order, consistent with this Opinion.
Dated: New York, New York
January 5, 2010
s/Arthur J. Gonzalez
UNITED STATES BANKRUPTCY COURT
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