Team Systems International, LLC

IN THE UNITED STATES BANKRUPTCY COURT

FOR THE DISTRICT OF DELAWARE

Chapter 7

In re:

Case No. 22-10066 (CTG)

TEAM SYSTEMS INTERNATIONAL

LLC, Related Docket No. 174

Debtor.

MEMORANDUM OPINION

In a case under chapter 7, the U.S. Trustee is directed to appoint an “interim

trustee” promptly after the entry of the order for relief.1 That interim trustee becomes

the permanent trustee unless, at the meeting of creditors held under § 341 of the

Bankruptcy Code, the creditors elect, under the procedures set out in § 702(b) & (c),

a different person as the permanent trustee.2

Section 702, however, imposes restrictions on which creditors may call for an

election. In particular, it provides that the holders of claims that are disputed, or

creditors that hold an interest adverse to the estate, may neither call for nor vote in

an election. When there is a dispute about the election arising out of the § 341

meeting, Bankruptcy Rule 2003(d)(2) provides that the U.S. Trustee is to make a

report to the Court. If a motion seeking a resolution is timely filed, the Court is to

resolve the dispute.

1 11 U.S.C § 701(a)(1).

2 Id. § 702(d).

That is what has happened here. For the reasons set forth below, the Court

concludes that: (a) where an election is contested because of a dispute regarding the

allowance of a creditor’s claim, the court has the discretion (which the Court will

choose to exercise here) first to resolve the claims allowance dispute and then resolve

the election based on the outcome of the claims allowance dispute; (b) by operation of

ordinary issues of preclusion, the holders of claims that have been reduced to

judgment hold allowed claims; (c) the judgment creditors3 do not hold interests that

are materially adverse to the estate under § 702(a)(2), which would otherwise prevent

them from either calling for an election or voting; (d) while the judgment creditors

here (who hold a majority of the debt) are entitled to choose a trustee, the trustee

they have chosen is not eligible to serve as trustee under § 321 of the Bankruptcy

Code; (e) the language of § 702(d), which provides that if “a trustee is not elected

under this section, then the interim trustee shall serve as trustee,” carries with it the

implication that an elected trustee must be eligible under § 321; accordingly, the

judgment creditors’ failure to elect a qualified trustee means that the interim trustee

remains as the trustee.

Factual Background

The debtor was a government contractor that filed this bankruptcy case in

January 2022. The bankruptcy filing was precipitated by two creditors having

obtained judgments in the U.S. District Court for the Northern District of Florida

3 GPDEV, LLC and Simons Exploration, Inc. are referred to collectively as the “judgment

creditors.”

that together total almost $6.3 million. The debtor appealed those judgments to the

Eleventh Circuit. The debtor, however, failed to post a bond, which would have

stayed enforcement of the judgment. The debtor’s further efforts to obtain a stay of

the enforcement of the judgments were unsuccessful. The creditors then began

exercising creditor remedies, which precipitated the bankruptcy filing.

The creditors moved to dismiss the bankruptcy case as a bad faith filing under

§ 1112(b). After holding an evidentiary hearing that spanned three days, this Court

found that there was cause to convert or dismiss but that conversion to chapter 7

would best serve the interests of creditors and the estate.4 The Court accordingly

entered an order converting the case.5 It bears note that because the judgment

creditors’ claim of bad faith relied on much of the same evidence that was presented

to the district court in the underlying lawsuits, over the course of that three-day

hearing the Court had occasion to review much of the record submitted to the district

court and became familiar with the trial court record.

Following the entry of the order converting the case, the U.S. Trustee

appointed George L. Miller as the interim trustee.6 The interim trustee provided

notice of the § 341 meeting.7

4 The Court’s opinion is reported at In re Team Systems International LLC, No. 22-10066

(CTG), 2022 WL 961567 (Bankr. D. Del. Mar. 30, 2022).

5 D.I. 151.

6 D.I. 152.

7 D.I. 154.

Following the § 341 meeting, the U.S. Trustee filed a report of contested

election, which was admitted into evidence and describes what transpired at the

meeting.8 The report explains that the debtor’s schedules, as amended, list a total of

eight claims, which total $7,878,435.45. Of that amount, the two judgment creditors’

claims were (together) scheduled in the amount of $6,246,075.78, and were listed as

contingent, unliquidated, and disputed. In addition, a claim by Bering Straits

Logistic Services was scheduled in the amount of $1.5 million and listed as being

contingent.9

The report notes that four proofs of claim were filed before or during the 341

meeting – one by the IRS (which was not scheduled) for $24,360, one by Bering Straits

for $1,516,745.69 (approximately $16,745.69 more than the claim as scheduled), and

two by the judgment creditors that were consistent with the scheduled amounts. The

proofs of claim thus increased the claim pool by $41,105.69 – to $7,919,541.14. The

interim trustee filed objections, immediately prior to the 341 meeting, to the claims

filed by Bering Straits and the judgments creditors.10

At the 341 meeting, which was held telephonically, the judgment creditors

requested an election of a permanent trustee.11 The interim trustee and the debtor

both objected to the right of the judgment creditors to vote on various grounds, the

most substantial of which are that the judgment creditors’ claims are disputed and

8 See D.I. 167.

9 Id. ¶ 9.

10 Id. ¶¶ 10-13.

11 Id. ¶ 15.

that the judgment creditors hold interests that are materially adverse to those of

other general unsecured creditors.12

During the election, the judgment creditors voted to elect Donald Workman as

the trustee. The other creditors participating in the election voted against.13 Because

certain creditors did not participate in the election, the total value of the claims of

creditors who participated was $7,865,252.47. While the U.S. Trustee’s report

identifies a handful of other disputes, the only issue that turns out to be material is

whether the judgment creditors are entitled to request an election and vote.14 If they

are, then the judgment creditors’ claims of $6,246,075.79 would make up at least 79

percent of the total claims participating in the election, in which case Workman would

be elected trustee (subject to resolving the question of his eligibility).15 If the

judgment creditors are not eligible to request an election or vote, the interim trustee

would become the trustee. The other disputes noted in the U.S. Trustee’s report

accordingly do not require further consideration.

Jurisdiction

As a dispute arising under § 702 of the Bankruptcy Code, this motion is within

the district court’s “arising under” jurisdiction set forth in 28 U.S.C. 1334(b). As a

12 Id. ¶ 27.

13 Id. ¶ 31.

14 Id. ¶ 32. The leading case setting forth the methodology governing the calculation of which

creditors’ claims count for the purpose of a contested election is Judge Gregg’s decision in In

re Michelex Ltd., 195 B.R. 993 (W.D. Mich. 1996). Because the “math” of the election is not

disputed in this case, those issues are not addressed in this Memorandum Opinion.

15 The interim trustee noted during the 341 meeting that it reserved objection to Workman’s

eligibility. See D.I. 167 at 2 n.1.

case falling within the 1334(b) jurisdiction, the district court’s February 29, 2012

standing order refers this matter, as 28 U.S.C. § 157(a) provides, to this Court.

Analysis

I. A court may, in resolving a trustee election that is disputed on the

ground that the creditor’s claims are disputed, resolve the disputed

claim on the merits.

Section 701 of the Bankruptcy Code directs the United States trustee to

appoint a member of its panel of private trustees, “[p]romptly after the order for relief

under this chapter,”16 to “serve as interim trustee in the case.”17 In a case that has

been converted from chapter 11, as this one was, the entry of the order for relief occurs

upon the court’s entry of the conversion order.18 Here, the case was converted on

March 31, 202219 and the U.S. Trustee appointed Miller as interim trustee later that

same day.20

Section 702 addresses the election of trustee by a creditor. The statutory text

is set out in full in the margin.21 In broad strokes, § 702(a) identifies the universe of

16 11 U.S.C. § 701(a)(1).

17 Id.

18 11 U.S.C. § 348(a).

19 D.I. 151.

20 D.I. 152.

21 It provides:

(a) A creditor may vote for a candidate for trustee only if such creditor—

(1) holds an allowable, undisputed, fixed, liquidated, unsecured claim

of a kind entitled to distribution under section 726(a)(2), 726(a)(3),

726(a)(4), 752(a), 766(h), or 766(i) of this title;

(2) does not have an interest materially adverse, other than an equity

interest that is not substantial in relation to such creditor’s interest

creditors eligible to vote in an election – essentially the holders of fully liquidated

claims that are not disputed, do not hold an interest materially adverse to the estate,

and are not insiders. Section 702(b) provides that an election should take place if the

holders of twenty percent of the liquidated and undisputed debt ask for one. Section

702(c) says that a candidate is elected if at least 20 percent of the holders of liquidated

and undisputed claims actually vote in the election, and the candidate receives a

majority of the votes cast. And § 702(d) says that if a trustee is not elected under this

section, the interim trustee becomes the trustee.

as a creditor, to the interest of creditors entitled to such distribution;

and

(3) is not an insider.

(b) At the meeting of creditors held under section 341 of this title, creditors

may elect one person to serve as trustee in the case if election of a trustee

is requested by creditors that may vote under subsection (a) of this section,

and that hold at least 20 percent in amount of the claims specified in

subsection (a)(1) of this section that are held by creditors that may vote

under subsection (a) of this section.

(c) A candidate for trustee is elected trustee if—

(1) creditors holding at least 20 percent in amount of the claims of a

kind specified in subsection (a)(1) of this section that are held by

creditors that may vote under subsection (a) of this section vote; and

(2) such candidate receives the votes of creditors holding a majority in

amount of claims specified in subsection (a)(1) of this section that

are held by creditors that vote for a trustee.

(d) If a trustee is not elected under this section, then the interim trustee shall

serve as trustee in the case.

11 U.S.C. § 702.

In this case, the interim trustee filed objections to the claims of the judgment

creditors immediately before the § 341 meeting. The interim trustee’s position is that

this is an easy case. As the interim trustee tells it, the fact that he objected to the

claims means the claims are disputed. Because their claims are disputed, the

judgment creditors are not eligible to ask for an election. The interim trustee thus

becomes the permanent trustee. The role of the court, according to the interim

trustee, begins and ends with determining that the objection was on file as of the

§ 341 meeting. If the objection to the claim was in fact properly filed, the interim

trustee argues, there is nothing left for the court to decide.

There is (apparent) support in the case law for the interim trustee’s position.

It is certainly the case that a claim to which an objection has been filed is a disputed

claim.22 That support comes in the form of language, in various opinions, stating that

an objection to a creditor’s claim as of the § 341 meeting stands as an absolute bar to

the creditor’s right to call an election or to vote. In re Ocean 4660, from the District

Court for the Southern District of Florida, is an example.23 “Appellants do not dispute

that Trustee Yip objected to their claims. That fact alone disqualifies Appellants from

22 See 11 U.S.C. § 502(a) (a “claim or interest, proof of which is filed …, is deemed allowed,

unless a party in interest … objects.”). See also Fed. R. Bankr. P. 2003(b)(3) (creditor that

has filed a proof of claim is entitled to vote “unless objection is made to the claim or the proof

of claim is insufficient on its face.”).

23 In re Ocean 4660, LLC, No. 15-60732-CIV (WJZ), 2016 WL 8650434 (S.D. Fla. Mar. 30,

2016).

participating in an election of the trustee.”24 The court goes on to cite four other cases

in support of that proposition.25

But despite its sweeping language, the Ocean 4660 decision, and each of the

four cases it cites, does consider, at least to some extent, the merits of the objection

to the claim. In Ocean 4660, for example, the court concludes that “Trustee Yip had

rational and legitimate bases to object to Appellants’ claims,” finding the objections

to be “meritorious.”26

In fact, a fair reading of the cases on which Ocean 4660 relies makes clear that

they stand not for the proposition that the mere filing of an objection to a claim is

sufficient for the claim to be treated as disputed. To the contrary, these cases go on

to explain that “[i]t is not enough, however, to merely object to a creditor’s claim in

order to disqualify that creditor from participation in the selection of a permanent

chapter 7 trustee. The objection cannot be frivolous. It must be supported by more

than mere suspicion and may not be interposed for an improper purpose.”27 Judge

24 Id. at *2.

25 Id. at **2-3. (citing In re San Diego Symphony Orchestra Ass’n, 201 B.R. 978 (Bankr. S.D.

Cal. 1996); In re TBR USA, Inc., No. 2:07 CV 170 (JTM), 2009 WL 9057729 (N.D. Ind. Mar.

12, 2009); In re Amherst Technologies, LLC, 335 B.R. 502 (Bankr. D.N.H. 2006); and In re

Williams, 277 B.R. 114 (Bankr. C.D. Cal. 2002)).

26 Ocean 4660, 2016 WL 8650434 at *3.

27 Amherst Technologies, 335 B.R. at 509 (internal citations omitted). See also San Diego

Symphony Orchestra, 201 B.R. at 983 (indicating that a claim may not count as disputed

unless there are “genuine issues of law or fact” – the test for whether a claim is subject to

“bona fide dispute” under § 303, though suggesting that the test “may well be even less than

that”); In re Williams, 277 B.R. at 120 (“If the dispute is easy to resolve, complete resolution

is appropriate. If, as in this case, the matter is complex or the court would normally defer to

the ruling of the state appellate court, the test should be whether the debtor's objection to

the claim is frivolous.”).

Lifland put the point slightly differently: “An unsupported allegation of a dispute

regarding a claim is insufficient to disqualify a creditor’ claim for qualifying a request

for an election, or for voting.”28 Or as the Bankruptcy Court for the District of

Colorado put it, “this Court … believes that, at a minimum, a dispute must not be

groundless, frivolous or interposed for improper purposes.”29

So, despite the language of some of the opinions, no case actually stands for

the proposition that the analysis begins and ends with the bankruptcy court asking

whether an objection to the proof of claim was filed on the court’s docket. All of the

cases engage some further enquiry into the nature of the dispute, with the consensus

view approximating that of the Bankruptcy Court of the District of Colorado – the

filing of an objection should not render the claim disputed if the objection is

groundless, frivolous, or interposed for an improper purpose.

But where does this standard come from? None of the cases of which this Court

is aware even purports to engage that question. At best, it is a judicial gloss on the

term “disputed.” Otherwise put, these courts have presumably concluded that when

Congress disqualified creditors whose claims are “disputed” from voting in a trustee

election, it could not have intended to disqualify creditors whose claims were subject

only to a “groundless” or “frivolous” objection, or one “interposed for improper

purposes.” And while there is certainly some sense in that construction, it is also true

that when Congress wanted to distinguish between claims that were subject to a real

28 In re Centennial Textiles, Inc., 209 B.R. 31, 34 (Bankr. S.D.N.Y. 1997).

29 In re USA Capital, LLC, 251 B.R. 883, 889 (Bankr. D. Colo. 2000).

and legitimate dispute from those that were merely “disputed,” it knew exactly how

to do that, and did so in § 303(b)(1) when it identified the universe of creditors that

may file an involuntary petition – those whose claims are “not subject to bona fide

dispute.”30

In this Court’s view, however, the Bankruptcy Rules offer an alternative

avenue to what may be the same destination, but one that does not require the same

degree of judicial gloss on the statutory language. Specifically, Bankruptcy Rule

2003(b)(3) states that “[i]n the event of an objection to the amount or allowability of

a claim for the purpose of voting, unless the court orders otherwise, the United States

trustee shall tabulate the votes for each alternative presented by the dispute and, if

resolution of such dispute is necessary to determine the result of the election, the

tabulations for each alternative shall be reported to the court.”31

The clear implication of this rule is that the U.S. Trustee’s report should (as

the report now before the Court certainly does) set out the tabulation of votes with

sufficient clarity that after the Court decides whether or not a claim counts, it will be

easy enough to do the math and then decide who has won the election. The Advisory

Committee Note to the 1991 Amendment to Bankruptcy Rule 2003 makes this point

very clearly. “If an election is disputed, the United States trustee shall not resolve

the dispute.… [T]he United States trustee shall tabulate the results of the election

for each alternative presented by the dispute.… If a motion is made for resolution of

30 11 U.S.C. § 303(b)(1).

31 Fed. R. Bankr. P 3002(b).

the dispute in accordance with subdivision (d) of this rule, the court will determine

the issue and another meeting to conduct the election may not be necessary.”32

All of this makes perfectly clear that it is up to the bankruptcy court to resolve

the disputed election. But is that exercise merely one of reviewing the docket to see

whether an objection was filed to a claim? Or does the court have the discretion, in

connection with resolving a disputed election, to resolve an underlying claims dispute

and determine the winner of the election based on that resolution?

This Court concludes that the bankruptcy court does have the discretion to

resolve a disputed election by resolving an underlying claims dispute. The court in

Williams seemed to hint at such an approach when it suggested that “[i]f the dispute

is easy to resolve, complete resolution is appropriate.”33 The Williams court went on

to add that if resolution of the claims dispute will be complex, the court should not

conduct a “mini-trial” that would unduly delay administration of the estate.34 This

Court agrees with that analysis.

The court in Ocean 4660 cited to the second part of what was said in Williams

as support for the proposition that the “court may not resolve the underlying dispute

to the claim.”35 But that is directly contrary to the first part of the statement in

Williams that if the underlying dispute is easy to resolve, the court should go ahead

and resolve it. And the court in Ocean 4660 cites no other authority for the

32 1991 Advisory Committee Note to Fed. R. Bankr. P. 2003.

33 277 B.R. at 120.

34 Id. at 120 n.8.

35 2016 WL 8650434 at *3.

proposition that a court “may not” resolve the underlying claims allowance dispute

as part of resolving a disputed election. This Court therefore respectfully concludes

that this statement in Ocean 4660 is incorrect and declines to follow it.

This Court finds further support for that conclusion from a sentence that was

in a prior version of Bankruptcy Rule 2003(b) but was since deleted. Specifically, the

version of Rule 2003(b)(3) that was promulgated in 1983 stated that

“[n]otwithstanding objection to the amount of allowability of a claim for the purpose

of voting, the court may, after such notice and hearing as it may direct, temporarily

allow it for purpose in an amount that seems proper to the court.”36

As the Court in San Diego Symphony Orchestra explained, this sentence

created a difficulty in that it rendered the rule inconsistent with the statute itself.

The entire notion of temporary allowance “presupposes that the claim is disputed in

some manner.”37 And because the statute makes clear that a claim that is disputed

may not vote, a rule providing for the temporary allowance of the claim for voting

purposes – but otherwise left the claim “disputed” for purposes of distribution – could

not be squared with the statute itself, and therefore was invalid.38

That much makes perfect sense. A court may not, in connection with resolving

a disputed trustee election, temporarily allow a claim for purposes of voting. But the

prior inclusion of that rule certainly suggests an answer to the question now before

36 Fed. R. Bankr. P. 2003(b)(3) (1983). See also Darrell Dunham, Election of Chapter 7

Trustees under the Bankruptcy Code, 47 CLEV. ST. L. REV. 371, 387-388 (1999).

37 201 B.R. at 980.

38 Id. at 981.

the Court – whether in connection with a disputed election a court is limited to asking

whether the claim was disputed as of the time of the § 341 meeting, or whether it

may resolve such a dispute as part of resolving the contested election. The drafters

of the rule appeared to believe that a court could temporarily allow a claim and

resolve the election based on the amount in which the claim was temporarily allowed.

And if a court could do that, it is very difficult to see why a court could not (assuming

that doing so would not delay the administration of the estate) resolve the claims

dispute in its entirety.

As noted above, this articulation of the principle likely lands somewhere

similar, in substance, to the rule articulated in USA Capital under which a filed

objection is sufficient to render a claim disputed so long as it is not “frivolous,”

“unfounded,” or “interposed for an improper purpose.” Finding an objection to a claim

to be “frivolous” or “unfounded” is, at bottom, no different from concluding that the

claim should be allowed. And if the claim is frivolous or unfounded, it should not take

a long or drawn-out hearing for the Court to reach that conclusion. The point is that

if a court can quickly and easily reach the judgment that the claim should be allowed,

it may do so, and resolve the disputed election on that basis. For the reasons

described in Part II of this Memorandum Opinion, this Court concludes that the

objection asserted to the judgment holders’ claims is one that can be resolved quickly

and easily without conducting a further proceeding that would delay the

administration of the case. While the Court is disinclined to describe the objection as

“frivolous” or “unfounded,” it does not believe anything in the law (aside from the

“gloss” on the statutory language applied by some of the cases) requires it to affix

such an adjective to the objection. As this Court construes the statute and rules, it is

sufficient to say that the Court believes the objection is subject to quick and efficient

resolution without delaying the administration of the estate, and that in the

circumstances of this case, it has determined to exercise its discretion to do so.

This articulation of the standard is also consistent with the principle set forth

in the case law that courts should not conduct extensive trials on a claims dispute in

a way that would delay the administration of the estate. But unlike the court in

Ocean 4660, this Court views it as a matter of judicial discretion. If it is apparent

that there is a genuine dispute that will require substantial time and effort to resolve,

a court can (and probably should) simply conclude that the claim is disputed, and that

the creditor therefore may not vote under § 702(a)(1). But if the court believes it can

resolve the dispute quickly, it also has the discretion to do so.

That leaves only the final category of objection contemplated by the court in

USA Capital – those interposed for an improper purpose. The truth of the matter is

that the structure of §§ 701 and 702 invite some measure of gamesmanship. An

interim trustee is appointed promptly after the entry of the order for relief. That

trustee will become the trustee unless he or she is replaced by an election at a § 341

meeting. But creditors whose claims are disputed may not call for or vote in an

election. So an interim trustee who wants to retain the position can subvert the

creditors’ statutory right to elect a trustee of their own choosing by filing a claims

objection, before the § 341 meeting, whenever the trustee gets wind of a creditor’s

intention to call for an election.

This Court has no trouble concluding that an objection filed for that reason

would be, in the words of USA Capital, “interposed for an improper purpose.” But

like any legal standard that requires a showing of an actor’s subjective intent, it is a

matter that is difficult to prove and subject to the reality that a human’s motive for

taking any given action can at times be a confluence of different factors, some of them

legitimate and others improper.39 Moreover, nothing in the language in § 702 of the

Bankruptcy Code calls for the bankruptcy court to conduct a trial on the objector’s

unstated motives for filing a claims objection. Thus, rather than articulating a

standard that require the court to make a finding regarding a party’s subjective

intent, this Court believes it more appropriate for the court to consider the

circumstances surrounding the filing of the objection as a factor that the Court may

weigh in exercising its discretion whether to resolve a claims objection as part of

resolving a contested election.

On this approach, unlike under the standard articulated in USA Capital, if the

creditor’s claim would properly be disallowed on the merits, the creditor would not be

permitted to call for an election or vote, even if a party-in-interest objected to that

claim “for an improper purpose.” Such an outcome, in this Court’s view, is more

consonant with the text of § 702 of the Bankruptcy Code than one in which the claims

39 See generally Price Waterhouse v. Hopkins, 490 U.S. 228 (1989) (establishing framework

for establishing liability under Title VII of the Civil Rights Act of 1964 in cases in which an

illegitimate factor (such as race or sex) played some role in the employment decision).

objection is discarded on the ground that the bankruptcy court concludes that the

objection was filed for some improper or nefarious purpose.

This Court thus makes no determination one way or the other regarding the

propriety of the interim trustee’s motives for filing the claims objection here. Based

on the approach set forth above, the nature of the claims objection as raising a pure

issue of law that is readily resolvable would lead the Court, in any event, resolve it

on the merits as part of resolving the claims election. The trustee’s motive for filing

the objection therefore turns out not to bear on the Court’s analysis.40

II. As the holders of unstayed judgments against the debtor that are

entitled to preclusive effect, the judgment creditors’ claims should be

allowed.

As noted above, this Court views the merits of the claims objections as

presenting a straightforward legal issue that is susceptible to prompt resolution. The

creditors in this case hold judgments, issued by the U.S. District Court for the

Northern District of Florida, against the debtor. The judgments have not been

stayed. While the debtor appealed the judgments to the U.S. Court of Appeals for the

40 This Court appreciates that the analysis set forth above does differ, in some respects, from

that of a line of cases (cited above) decided by bankruptcy and district courts from outside

this circuit. The core difference is that while those courts conclude that certain claims

objections, in effect, are insufficient to render the claim “disputed,” this Court believes the

more appropriate approach is to acknowledge that the court is resolving the objection (and

thus rendering the claim undisputed) as part of resolving the contested election. While this

Court does not lightly depart from (even non-binding) authority articulated by other

bankruptcy courts, the Court is persuaded that it is appropriate to do so here in view of the

fact that (a) the two approaches yield very similar results; and (b) the alternative approach

relies heavily – too heavily, in this Court’s view – on a judicial gloss that is untethered from

the text of the Bankruptcy Code.

Eleventh Circuit, that appeal is subject to the automatic stay.41 Neither the debtor

nor the interim trustee has moved to lift the stay to prosecute that appeal.

The trustee is certainly entitled to object to the claims. But that objection can

and should be resolved by ordinary application of principles of preclusion. This basic

principle was articulated by the Supreme Court in Heiser v. Woodruff.42 While Heiser

is a pre-Code case, there is no doubt that the principles it articulates remain vital

today.

There, a trustee in bankruptcy argued that a prepetition judgment obtained

against the debtor in a federal district court had been procured by fraud.43 The debtor

had tried, and failed, to persuade the district court to set aside the judgment on that

basis.44 When the trustee sought to disallow the claim on that basis, the Supreme

Court made clear that the prior judgment of the district court was entitled to

preclusive effect. “[W]e are aware of no principle of law or equity which sanctions the

rejection by a federal court of the salutary principle of res judicata, which is founded

upon the generally recognized public policy that there must be some end to litigation

and that when one appears in court to present his case, is fully heard, and the

41 See Borman v. Raymark Indus., Inc., 946 F.2d 1031, 1033 (3d Cir. 1991) (automatic stay

“extends to appeals in actions that were originally brought against the debtor, regardless of

whether the debtor is the appellant or the appellee.”).

42 327 U.S. 726 (1946).

43 Id. at 728.

44 Id. at 729-730.

contested issue is decided against him, he may not later renew the litigation in

another court.”45

The Court noted a potential exception to the ordinary principles of preclusion

because there was an allegation that the judgment had been procured by fraud.

“Undoubtedly, since the Bankruptcy Act authorizes a proof of claim based on a

judgment, such a proof may be assailed in the bankruptcy court on the ground that

the purported judgment is not a judgment because of want of jurisdiction of the court

which rendered it over the persons of the parties or the subject matter of the suit, or

because it was procured by fraud of a party.”46 But where the question of fraud had

itself been fully litigated, that allegation cannot be resurfaced as a basis to disallow

the claim.47 “Nor can an attack be sustained on a judgment allegedly procured by

fraudulent representations of the plaintiff, when the charge of fraud has been rejected

in previous litigations by the parties to the suit in which the judgment was rendered,

or their representatives.”48

The Court went on to explain that while Pepper v. Litton49 held that res

judicata did not preclude a bankruptcy court from equitably subordinating a claim

reflected in a prior judgment, that is only so in which the basis for equitable

subordination (there, the wrongful effort of an insider to award himself a claim

45 Id. at 733.

46 Id. at 736.

47 Id. at 736, 739-740.

48 Id. at 736.

49 308 U.S. 295 (1939).

against the company in order to dilute the recoveries of legitimate creditors) had not

itself been previously litigated.50 “[T]he theory relied upon as requiring disallowance

or subordination of the contested claim rested upon grounds not previously

adjudicated, and we explicitly noted that the state court did not adjudicate it.”51

There is no question but that the application of ordinary preclusion principles

require the allowance of claims that are reflected in a judgment, notwithstanding the

fact that the judgment is on appeal. The Wright & Miller treatise explains this point.

The rule in “federal courts [is] that the preclusive effects of a lower court judgment

cannot be suspended simply by taking an appeal that remains undecided.”52 That

rule applies regardless of whether the subsequent court believes that the pending

appeal may have merit.53

To be sure, this rule may cause practical challenges. What happens to the

order allowing the claim if the judgment on which it depended is later reversed on

appeal? One suggestion offered by Wright & Miller, outside the claims allowance

process, is for the party challenging the judgment to file “a protective appeal in the

second action that is held open pending determination of the appeal in the first

action.”54 To the extent the initial judgment is reversed on appeal, the second

judgment can be reversed and remanded so that the issue is reconsidered in light of

50 Heiser, 327 U.S. at 738-740 (citing Pepper, 308 U.S. at 302).

51 Id. at 738.

52 CHARLES ALAN WRIGHT & ARTHUR MILLER, FEDERAL PRACTICE & PROCEDURE § 4433 (3d

ed. 2022).

53 Id. (“res judicata does not depend on the correctness of the judgment”).

54 Id.

the reversal. In the context of claims allowance in bankruptcy, however, such an

elaborate procedure may be unnecessary, as § 502(j) of the Bankruptcy Code provides

that a “claim that has been allowed or disallowed may be reconsidered for cause.”55

There can be little doubt that the reversal of a judgment on which a claims allowance

decision was premised would constitute cause for its reconsideration.

These principles are sufficient to address the trustee’s objection to the claims

held by the judgment creditors. The claims are reflected in a valid judgment of a

federal district court. That judgment is controlling. The claims are therefore allowed.

If and when that judgment is reversed on appeal, the Court would entertain a motion

under § 502(j) either to disallow the claims or to allow them in some reduced amount.

But until then, the judgment of the district court is preclusive in this Court, and the

claims are to be treated as allowed in the amounts reflected in the judgments. The

judgment creditors were thus entitled to call for an election and to vote to elect a

trustee.

It is true that the Bankruptcy Court for the Central District of California

concluded, in In re Williams, that a claim was “disputed” under § 702(a)(1) on the

ground that the judgment was the subject of an appeal.56 The central basis for the

court’s conclusion, though, was that the creditor “should not be in a position to choose

her opponent.”57 That reasoning, however, has nothing to do with whether a claim is

55 11 U.S.C. § 502(j).

56 277 B.R. 114.

57 Id. at 120.

“disputed.” Rather, it is presumably the reason that Congress adopted § 702(a)(2),

which bars a creditor from voting if that creditor has an interest that is materially

adverse to those of other creditors. While that question is discussed below, for the

purposes of §702(a)(1), this Court does not believe that the policy concern on which

the Williams court relied provides a basis for disregarding established principles

regarding the preclusive effect of a judgment on appeal.

III. The judgment creditors do not hold interests that are materially

adverse to the estate.

Section 702(a)(2) provides that a creditor can only vote to elect a trustee (and

can therefore call for such an election) only if the creditor “does not have an interest

materially adverse … to the interest of creditors entitled to such distribution.”58 The

caselaw construing this provision explains that in order to determine whether

potential adversity is “material,” courts employ a totality-of-the-circumstances test.

“Relevant factors include the nature of the adverse interest, the size of the interest,

and the degree to which it is adverse.”59

The interim trustee points to several bases on which he contends that the

judgment creditors are adverse to unsecured creditors more generally. The principal

basis for this conclusion is the fact that the judgment is subject to appeal. Based on

this Court’s familiarity with the trial court record developed in connection with

58 11 U.S.C. § 702(a)(2).

59 In re Mirabile, 456 B.R. 109, 111 (Bankr. M.D. Fla. 2009). See also In re Metro Shippers,

Inc., 63 B.R. 593, 598 (Bankr. E.D. Pa. 1986) (rejecting argument that creditors alleged to

have received a preference are ineligible to vote because “mere suspicion that an unsecured

creditor has been given a preference is insufficient to brand the creditor as the holder of a

materially adverse interest”).

consideration of the motion to dismiss the bankruptcy, the Court views the likelihood

that the judgments will be reversed on appeal as exceedingly remote. The Court

therefore does not view the appeal as sufficiently material to render the judgment

creditors as having a material adverse interest.

While the trustee asserts that the district court judgment conflicts with “the

plain language of the Consulting Agreement,”60 a jury has already reached precisely

the opposite conclusion. On appeal, the Eleventh Circuit precedent instructs that the

court will view “the evidence in the light most favorable to” the jury’s verdict and

draw “all reasonable inferences in favor” of that verdict.61 And here, the district court

expressly found (in denying a stay pending appeal) that the jury “could hardly have

reached a contrary conclusion.”62

Nor is the Court persuaded that the arguments regarding the calculation of

damages are sufficient for the appeal to be treated as material. As the Court

explained in its motion to dismiss opinion, after TSI was either unwilling or unable

to produce documents supporting its claims regarding the revenues and expenses

associated with the contract, in order to avoid sanctions it stipulated to the judgment

creditors’ calculations, thus, in the district court’s words, putting “all its ... eggs in

the liability basket.”63 The district court specifically found, in this ruling, that TSI

60 D.I. 177 ¶ 30.

61 St. Luke’s Cataract and Laser Institute, P.A. v. Sanderson, 573 F.3d 1186, 1207 (11th Cir.

2009).

62 The relevant district court order was admitted into evidence, as Exhibit 34, at the hearing

on the motion to dismiss. See Motion to Dismiss Ex. 34 at 5.

63 Motion to Dismiss Ex. 32 at 4.

would not “contest[] the amount that will be due if the jury resolves [the question of

liability] in the plaintiffs’ favor.”64 This Court accordingly does not view a potential

appeal based on the calculation of damages as sufficiently material to disqualify the

judgment creditors from calling for, or voting in, a trustee election.65

The interim trustee next suggests the possibility that the estate may hold an

affirmative claim against the judgment creditors, which he contends would be

sufficient for them to be treated as holding interests adverse to those of unsecured

creditors. But the claim the trustee seeks to assert is one for overpayment under the

contract that was the subject of the district court litigation. The trustee’s ability to

assert such a claim, then, depends entirely on the trustee prevailing in its Eleventh

Circuit appeal, and thus adds nothing to the preceding analysis.

The most serious argument the trustee advances is that judgment creditors

retained the right to seek an administrative claim. The context of that claim was

that, in connection with the litigation over the motion to dismiss, the judgment

creditors sought sanctions against the debtor under Federal Rule of Civil Procedure

37 on account of its failure to produce certain documents. While the Court denied

64 Id.

65 This Court notes that it is required to determine, for purposes of § 702(a)(2) of the

Bankruptcy Code, whether the appeal is sufficiently meritorious that the judgment creditors,

who would be the appellees in such an appeal, have interests that are materially adverse to

those of other creditors. This Court’s determination that the arguments on appeal are

insubstantial are for this purpose only. The actual adjudication of the appeal, if a trustee

ultimately determines to pursue it (a decision committed to the trustee’s business judgment,

which should not be affected by this decision), is a matter within the exclusive jurisdiction of

the United States Court of Appeals for the Eleventh Circuit. Nothing expressed herein can

or should affect that court’s consideration of those matters.

that motion, it did indicate that the judgment creditors might be able to recover their

attorneys’ fees (which was the sanction they sought under Rule 37) as an

administrative claim on the ground that they made a “substantial contribution”

under § 503(b)(3)(D). At the hearing on the disputed election, however, counsel for

the judgment creditors agreed to disclaim the right to pursue the administrative

claim, thus resolving this basis for asserting that the judgment creditors were

materially adverse to other creditors.66

For these reasons, applying the “totality of the circumstances” test articulated

by the court in Mirabile, this Court does not believe that the potential adversity

between the judgment creditors and other unsecured creditors is sufficiently material

to disqualify the judgment creditors, under § 701(a)(2) of the Bankruptcy Code,

calling for an election for a trustee or voting in such an election.

66 The interim trustee argues that the question of holding an adverse interest must be viewed

as of the § 341 meeting, such that the judgment creditors’ subsequent agreement to forego

recovery on a potential administrative claim should be disregarded. D.I. 205 at 3 n.1. The

Court disagrees. This contention is a variant of the argument, rejected above, that the

question whether the claim is disputed must be viewed as of the § 341 meeting. For the

reasons set forth above, the Court concluded that in connection with resolving the disputed

election, the Court could resolve the claims dispute and, on that basis, resolve the disputed

election. The Court sees no reason why the same reasoning should not be applicable to a

claim that a creditor holds a materially adverse interest: such an interest can be resolved in

connection with the court’s resolution of the election dispute.

The Court also notes that in view of its ultimate resolution of this matter, the Court believes

it appropriate to release the judgment creditors from their disclaimer of a potential

substantial contribution claim. If circumstances warrant, the Court would be prepared to

consider a motion, on the merits, to allow an administrative claim for substantial

contribution arising out of the judgment creditors’ work in connection with the ultimate

conversion of the case to chapter 7.

IV. The trustee selected by the judgment creditors is not qualified to serve

under § 321.

For the foregoing reasons, the judgment creditors were entitled to call for an

election. The judgment creditors selected Don Workman of Baker Hostetler to serve

as chapter 7 trustee.67 The interim trustee argues, however, that Workman is not

statutorily eligible, under § 321 of the Bankruptcy Code, to serve as trustee.68

Section 321 provides that a “person may serve as trustee in a case under this

title only if such person … resides or has an office in the judicial district within which

the case is pending, or in any judicial district adjacent to such district.”69 The record

before the Court indicates that Workman lives in Washington, D.C. and that his

principal office is also located in the District of Columbia. The Court takes judicial

notice of the fact that the District of Maryland is located between the District of the

District of Columbia and the District of Delaware, such that Workman neither resides

nor has his principal office in the district within which the case is pending or in an

adjacent district.

67 The interim trustee makes the curious argument that a majority (in number) of the

creditors who voted in the election voted to elect Miller, rather than Workman, as trustee.

D.I. 177 ¶¶ 47-49. That is factually true but legally irrelevant. The text of § 702 is crystal

clear that the election does not depend at all on the number of creditors who vote. It turns

instead on which candidate “receives the votes of creditors holding a majority in amount of

claims.” 11 U.S.C. § 702(c)(2) (emphasis added). And where Congress wanted to require the

support of a majority of creditors in number, it of course knew exactly how to do that. See 11

U.S.C. § 1126(c) (providing that acceptance by a class of a plan of reorganization requires

acceptance by a majority of creditors in number and two-thirds in amount).

68 While not in the record, the Court notes that the undersigned judge knows Workman to be

a highly capable bankruptcy practitioner, whom the Court has every confidence would

perform the duties of chapter 7 trustee with diligence, skill, and care. That, however, is

irrelevant to the question now before the Court.

69 11 U.S.C. § 321(a)(1).

The judgment creditors’ response, however, is that Baker Hostetler,

Workman’s law firm, has an office in Wilmington, Delaware and in Philadelphia,

Pennsylvania (which is located in an adjacent district), and that Workman is

qualified to serve as trustee on that basis. From first principles, is not obvious (one

way or the other) whether a lawyer at a firm that has an office in a particular location,

but who is not principally based there, is himself or herself a person who “has an

office” in that city. And as a matter of policy, a fair argument can be made, based on

the experience that many have had with remote work over the course of the pandemic,

that one can effectively perform professional services without regard to one’s physical

location.

But the Court is not faced in this case with a question of first principles. Nor

is it free, as a matter of public policy, to update the Bankruptcy Code in light of recent

experience with remote work. Instead, the question is to make sense of the language

in the existing Code in light of the applicable case law. And the difficulty for the

judgment creditors is that case law, while sparse, appears to be uniformly on the

interim trustee’s side of the argument.

The parties point to only two cases that address the question whether an

individual who has access to an office in a particular judicial district, but where the

record does not indicate that the individual regularly works there, is someone who

“has an office” in the relevant district. The first case was a pre-Code case, In re

Drummond,70 which involved the construction of § 45 of the Bankruptcy Act,71 which

required trustees to “reside or have an office in the judicial district within which they

are appointed.”

Drummond held that a trustee was not eligible to serve as a trustee in the

Eastern District of California. The trustee there had his principal office in Eureka,

located in the Northern District of California, but “employed a secretary who was

present in the Redding office, in the Eastern District of California, on an irregular

schedule” – typically 15 to 20 hours per week.72 The trustee himself, in the months

leading up to the dispute, spent two to four days per month in the Redding office.73

The Ninth Circuit held that this was insufficient to qualify him to serve as a

trustee. “The Referee … concluded that [the trustee’s] opening of the office in Redding

did not conform to the requirements of § 45 of the Bankruptcy Act.”74 The Ninth

Circuit affirmed, emphasizing that the purpose of the requirement was to ensure that

“a person qualifying under the section would be sufficiently … available for

consultation and advice.”75

The only other case identified by the parties is In re Martech.76 That case

involved a bankruptcy case pending in the District of Alaska. At the § 341 meeting,

70 416 F.2d 931 (9th Cir. 1969).

71 This provision was then codified at 11 U.S.C. § 73.

72 Drummond, 416 F.2d at 932.

73 Id.

74 Id.

75 Id.

76 188 B.R. 847 (9th Cir. BAP 1995).

creditors elected a trustee whose principal office was in New York but had an

arrangement to lease an office in the offices of his Alaska counsel.77 The elected

trustee “visited his office in Anchorage for the first time on the morning of the trustee

election, and as of the date of the bankruptcy court’s hearing had hired no staff for

that office.”78 The Ninth Circuit Bankruptcy Appellate panel concluded that it was

bound to follow Drummond. Writing in 1995, it explained that while Drummond (a

decision from 1969) “was decided before the advent of facsimile machines,

[improvements in commercial air travel] and other modern devices[,]” it concluded

that the “fact that new technology has made communication and travel easier is not

significant.”79 The point of the statutory requirement, Martech explained, was to

ensure that a trustee regularly be physically present in the jurisdiction.80 And if the

invention of the fax machine provided no basis to disregard this statutory

requirement, nor can the recent experience with Zoom meetings.

In this case, it bears note, the judgment creditors presented no admissible

evidence at all of how much time Workman spent in his firm’s offices in Wilmington

or Philadelphia. In that regard, the case is weaker than either Drummond or

Martech, both of which included at least some evidence of the trustee’s presence in

the relevant district.

77 Id. at 850.

78 Id.

79 Id. at 851-852.

80 Id. at 851.

While neither Drummond nor Martech is formally binding on this Court, the

Court finds it significant that they are the only cases addressed to this issue. In

addition, the fact that Drummond was the only case addressed to the issue when

Congress, in 1978, wrote language into § 321 of the Bankruptcy Code that closely

tracked § 45 of the prior Act, is also of some significance.81

Thus, while this Court may have its doubts about the continued need for a

provision like § 321, that is not a question within this Court’s cognizance. Congress

has made that decision. This Court will follow the uniform caselaw applying that

provision and hold that Workman, despite being a skilled practitioner whom the

Court believes would do an excellent job as trustee, is not statutorily eligible (based

on the record developed in this case) to serve as a chapter 7 trustee in a case in this

district.

V. The judgment creditors are not entitled to a second chance to elect a

qualified trustee.

The final question presented in this case is whether the judgment creditors,

who were entitled (by virtue of this Court’s conclusions) to elect a trustee, but whose

81 When statutory language is reenacted after a definitive construction of the language by the

Supreme Court, case law explains that Congress is presumed to ratify the prior judicial

construction. See Shapiro v. United States, 335 U.S. 1, 16 (1935). See also Helsinn Healthcare

S.A. v. Teva Pharmaceuticals USA, Inc., 139 S.Ct. 628, 633-634 (2019) (“In light of this settled

pre-AIA precedent on the meaning of ‘on sale,’ we presume that when Congress reenacted

the same language in the AIA, it adopted the earlier judicial construction of that phrase.”).

While the Ninth Circuit’s decision is Drummond is not the kind of definitive decision that

would require a conclusion that § 321 ratified its construction, the fact that it appears to be

the only case on the issue at the time the 1978 Code was adopted should at least provide some

reason to pause before adopting a different reading of § 321.

first choice turns out not to be eligible to serve under § 321, should be granted another

opportunity to choose someone who is eligible to serve.

The statute itself does not provide a clear answer to that question. Section

702(b) sets out the procedure for creditors to elect a trustee at the § 341 meeting;

while § 702(d) states that if “a trustee is not elected,” then “the interim trustee shall

serve as trustee.”82 This language does not address, at least not expressly, what

happens if the trustee who is elected is not qualified to serve under § 321(a). Section

703 does address what happens if a trustee fails to qualify under § 322 (which

requires a trustee to post an appropriate bond) – creditors are permitted to elect a

successor trustee. The judgment creditors suggest that the Court should follow a

similar procedure if the trustee is not eligible under § 321.83 The interim trustee, on

the other hand, argues that one should draw a negative inference from the express

determination to give creditors another chance to elect a trustee who fails to qualify

under § 322.84 In other words, the fact that Congress said expressly that creditors get

to conduct another election if their chosen candidate does not qualify under § 322

shows that it knew exactly how to give creditors such a second chance, and thus the

failure to include such a provision when the trustee is ineligible under § 321 must be

viewed as an intentional decision not to grant one.

82 11 U.S.C. § 702(d).

83 D.I. 204 at 5-6.

84 D.I. 205 at 4.

In view of that uncertainty, it is perhaps not surprising that the older

authorities viewed this as an unresolved question. “In cases where the bankruptcy

court rules that the elected trustee is not qualified, the law is unsettled as to whether

the court should appoint the standing trustee or order a new election.”85

But while the language itself is perhaps indeterminate, the Court is moved by

the fact that the caselaw on this issue appears to be uniform: every case cited by the

parties and identified by the Court ‘s research has found that, when the trustee

elected by the creditors is not qualified, the interim trustee becomes the trustee.86

In the absence of any case in which a court has given a “second chance” to

creditors who have elected a trustee who turned out not to be eligible under § 321,

this Court is disinclined to break with the uniform body of law concluding that

creditors’ failure to elect a qualified trustee means that the interim trustee becomes

the trustee.87 Accordingly, the Court believes the straightforward application of

established legal principles to the facts of this case provides that the interim trustee

is to become the trustee.

85 Dunham, 47 CLEV. ST. L. REV. at 378 n.35.

86 See In re Frederick Petroleum Corp., 92 B.R. 273 (Bankr. S.D. Ohio 1988) (interim trustee

became trustee when elected trustee lacked the requisite expertise); In re Martech, 188 B.R.

at 849 & n.3 (interim trustee became trustee when elected trustee became trustee; court

accordingly did not address whether creditors were entitled to request an election); In re Mid

Atlantic Retail Group, Inc., No. 07-81745 (WLS), 2008 WL 2491627 (Bankr. M.D.N.C. June

18, 2008) (interim trustee became permanent trustee when elected trustee failed to qualify

under § 321).

87 As noted above, see n. 40, this Court is reluctant to break with uniform caselaw, even when

not binding, unless the Court concludes that the cases cannot be squared with statutory text

or are otherwise wrongly decided.

Counsel for the trustee is directed to settle an order, on certification of counsel,

so providing.

4?

Dated: July 15, 2022

CRAIG T. GOLDBLATT

UNITED STATES BANKRUPTCY JUDGE

33