Bear Communications, LLC

Bank

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SO ORDERED. a) ea re □□□ □□

Ae CUT □□

SIGNED this 19th day of October, 2021. Oe eS) Zi a

istrict

Dale L. Somers

United States Chief Bankruptcy Judge

Designated for online use but not print publication

IN THE UNITED STATES BANKRUPTCY COURT

FOR THE DISTRICT OF KANSAS

In re:

Bear Communications, LLC, Case No. 21-10495-11

Debtor.

Memorandum Opinion and Order

Granting Motion for Derivative Standing

The Official Committee of Unsecured Creditors (the “Committee’”) of

Debtor Bear Communications, LLC seeks derivative standing as an exercise

of its powers under 11 U.S.C. § 1108(c)(5)! to assert claims on behalf of

Debtor’s bankruptcy estate against Debtor’s primary secured creditor The

1 Future statutory references are to title 11, the Bankruptcy Code, unless otherwise

stated.

Central Trust Bank (“Central Bank”).2 The Court follows the majority

position in the case law that derivative suits are available in certain

circumstances and concludes the Committee has met its burden to show those

circumstances are present here. As a result, the Court grants the

Committee’s motion.?

I. Procedural Background

Debtor, a telecommunications company, filed its Chapter 11

bankruptcy petition on May 28, 2021. Brett Niles is the 100% equity owner

and chief executive officer of Debtor.4 On June 29, 2021, the United States

Trustee formed the Committee under § 1102.5 Central Bank is Debtor’s

primary secured lender, and Debtor reports Central Bank is secured in “all”

its assets. The Small Business Administration (“SBA”) holds a relatively

small secured interest as well.

2 Central Bank notified the Court of a reorganization and merger on October 12,

2021, changing its name from Central Bank of the Midwest to The Central Trust

Bank. Doc. 349.

3 Doc. 280. The Committee appears by James R. Irving of Dentons Bingham

Greenbaum LLP. Central Bank appears by Paul Croker and Erin Edelman of

Armstrong Teasdale LLP.

4 Doc. 1 p. 61; Doc. 4; Doc. 80 p. 158. The parties reported on September 27, 2021,

in connection with a dispute about the use of cash collateral, that Mr. Niles would

be resigning as chief executive officer.

5 Section 1102 directs the United States Trustee to “appoint a committee of

creditors holding unsecured claims” in Chapter 11 cases and provides the procedure

for that process.

8 Doc. 80 p. 17.

Debtor did not file its Schedules until June 11, 2021, and therein

disclosed ten vehicles valued at $302,734.27" and forty-four trailers valued at

$270,993.27.8 The Committee alleges based upon a production of documents

by Central Bank that there are five additional trailers that were not listed.

The Committee also believes there are additional undisclosed motor vehicles.

Debtor’s Schedules also disclosed two checking accounts at filing: one at

Central Bank with a balance of $10,000 and one at Bank of America with a

balance of $200,640.03.

Throughout the case the parties have litigated Debtor’s use of cash

collateral. A Fifth Interim Order Authorizing the Use of Cash Collateral and

Granting Adequate Protection was entered August 17, 2021 (“Fifth Interim

Order’), granting use of cash collateral through October 29, 2021.!° Under the

terms of the Fifth Interim Order the parties agreed to certain positions

regarding security. The Fifth Interim Order states, in pertinent part:

The [Committee], or other party in interest, as applicable, shall

have until September 6, 2021 (the “Challenge Deadline”) to

investigate and, if necessary, challenge the priority, validity,

amount, or secured status of any prepetition security and liens

eranted to [Central Bank] or the SBA by the Debtor (the

“Challenge”). The [Committee], or other party in interest, as

applicable, may commence a Challenge by initiating a contested

matter or adversary proceeding asserting a Challenge, or by filing

7 Id. p. 6 and p. 7.

8 Id. p. 6 and p. 7-8.

9 p. 1.

10 Doc. 212.

a motion for standing to pursue such a proceeding. Upon a motion

to the Court by the [Committee], the Challenge Deadline may be

extended by 30 days. [Central Bank] and the SBA reserve their

right to object to such extension motion. The Challenge Deadline

may otherwise be extended only for cause or by the agreement of

[Central Bank], the SBA, and the [Committee]. After the

expiration of the Challenge Deadline and to the extent no

Challenge proceeding is timely commenced or remains pending,

the [Committee], the Debtor, and all parties in interest shall be

barred and enjoined from contesting the priority, validity, amount,

and secured status of any prepetition security and liens granted to

[Central Bank] or the SBA by the Debtor, and such prepetition

liens granted to [Central Bank] or the SBA by the Debtor shall be

deemed valid, binding, and enforceable.!!

On August 30, 2021, Central Bank filed a proof of claim asserting a

secured claim of $5,899,295.15.!2 On September 2, 2021, the Committee

demanded—by letter to Debtor—that Debtor file a complaint challenging the

perfection of Central Bank’s liens on vehicles, trailers, and Debtor’s Bank of

America bank account, avoiding those liens, and recovering the avoided liens.

The Committee also demanded Debtor file a complaint seeking turnover of

property of the estate from Central Bank, recovery of preferential payments,

and relief under the equitable doctrine of marshaling, also naming Big Bear

Leasing, Inc. and Brett Niles as potential defendants on the marshaling

ll Jd. p. 16-17. The Fifth Interim Order is the subject of further litigation, for

reasons not pertinent here, and modification of it is pending. See Doc. 302 and

responses thereto.

12 Proof of Claim No. 81-1.

claim. The Committee gave Debtor until September 5, 2021 to file a

complaint.'? Debtor did not pursue a complaint in its own name.

The Committee then filed the motion for derivative standing that is

now under consideration. In the proposed complaint attached to that motion,

the Committee alleges Debtor, Big Bear Leasing, Inc, and Big Bear

Investments entered into a loan agreement, commercial security agreement,

and promissory note with Central Bank on March 8, 2016, with an original

principal amount of $12 million. Under these loan documents, Debtor granted

Central Bank a security agreement in substantially all of its assets. A

separate security agreement was also entered by Big Bear Leasing, Inc,

granting a security interest in its assets. And then on January 5, 2021, Brett

Niles executed a guaranty agreement for the debt in favor of Central Bank,

secured by Mr. Niles’ personal assets.

The Committee alleges Central Bank filed UCC-1 financing statements

for Debtor’s assets but failed to perfect its security agreement in certain of

Debtor’s motor vehicles! and in Debtor’s Bank of America account.!© Some of

13 Doc. 315-1 p. 2.

14 The Committee alleges certain motor vehicles titled in Kansas, Ohio, Alabama,

Missouri, Arizona, and Tennessee are unperfected because of no notation on the

certificate of title; namely, six vehicles with a total value of $142,519.27 and thirty-

one trailers with a total value of $176,415.97. Doc. 280-1 p. 19.

15 The Committee alleges there is no deposit account control agreement concerning

the Bank of America account that would grant Central Bank control over the

account.

these vehicles were not identified on Debtor’s Schedules. Central Bank

conducted both prepetition and postpetition sweeps of the Bank of America

account.

The Committee also alleges that Mr. Niles is not only the equity owner

and executive officer of Debtor but is also the 100% equity owner of Big Bear

Leasing, Inc. and Big Bear Investments and the officer exercising control of

all these entities. The Committee claims the three business entities (Debtor,

Big Bear Leasing, Inc and Big Bear Investments) are all alter egos of Mr.

Niles and of each other. Neither Big Bear Leasing, Inc. nor Big Bear

Investments maintain corporate formalities and the funding, accounting, and

operations of both are commingled with Debtor’s operations, as evidenced by:

- Big Bear Leasing, Inc. and Big Bear Investments have no

employees. Both entities utilize Debtor’s employees for operations.

Debtor’s funds are used for both entities’ costs and expenses,

including, for example, property taxes and operating expenses

incurred by Big Bear Investments in connection with an investment

in The Oaks game ranch. Debtor’s funds are also used to pay

personal expenses of Mr. Niles.

- There are no management agreements or cost sharing agreements

in place between the various entities to compensate or reimburse

Debtor for such costs or expenses.

- Debtor, Big Bear Leasing, Inc. and Big Bear Investments do not

accurately track or account for intercompany loans or transfers.

The Committee claims that certain assets identified on Debtor’s Schedules

are actually titled to Big Bear Leasing, Inc.

The Committee alleges that a little over two months prepetition, on

March 16, 2021, Mr. Niles cause Debtor to transfer to him $1 million. At

Debtor’s § 341 meeting of creditors, Mr. Niles testified he did not remember

what he did with the $1 million. At a subsequent Rule 2004 exam, Mr. Niles

testified that he used $600,000 of the funds to purchase a new home and the

remainder was used for personal expenses, a repayment of a personal loan,

and payment back to Debtor. The Committee alleges the $1 million transfer

was made with the actual intent to hinder, delay, or defraud creditors, and

that Debtor did not receive reasonably equivalent value in exchange.

Finally, the Committee alleges Mr. Niles is also the 75% equity owner

in, and officer exercising control over, an entity called Open Country LLC.

This entity was formed March 11, 2021—five days prior to the $1 million

transfer. The entity—like Debtor—provides long haul fiber construction

services. The Committee alleges Mr. Niles capitalized Open Country LLC

with approximately $750,000 shortly after receiving the $1 million transfer

from Debtor. Prepetition, Debtor was performing on contracts to

Midcontinent Communications and ImOn. The Committee alleges Mr. Niles

caused Debtor to assign or transition Debtor’s prepetition contracts with

these companies to Open Country LLC and that Open Country LLC is now

not only performing on these or similar contracts but also utilizing Debtor’s

employees to do so and the expenses of these employees is being borne by

Debtor postpetition.

The Committee’s proposed complaint alleges multiple causes of action,

as follows:

- Count 1: Against Central Bank, challenging Central Bank’s

perfection of its security interest in Debtor’s Bank of America

account.

- Count 2: Against Central Bank, challenging Central Bank’s

perfection of a security interest in the contested motor vehicles.

- Count 3: Against Central Bank, seeking avoidance of the

unperfected liens on the Bank of America account and motor

vehicles pursuant to § 544(a).

- Count 4: Against Central Bank, seeking preservation of the

unperfected liens and security agreements for the bankruptcy estate

under § 551.

- Count 5: Against Central Bank, seeking avoidance as a preferential

transfer under § 547 the prepetition sweeps of the Bank of America

account done within ninety days of the petition date due to the

avoidable prepetition lien of Central Bank on that account.

- Count 6: Against Central Bank, seeking recovery of the transfers

avoided under § 544 and § 547.

- Count 7: Against Central Bank, seeking turnover of the amount

taken by Central Bank in its postpetition sweeps of the Bank of

America account under § 542(a).

- Count 8: Against Central Bank, Big Bear Leasing, Inc., and Mr.

Niles, requesting application of the equitable doctrine of marshaling

such that Central Bank is required to satisfy the amounts due from

Debtor under the parties’ loan agreements by first exhausting

recovery on collateral belonging to Big Bear Leasing, Inc. and Mr.

Niles.

Central Bank is the only party who has filed an opposition to the motion for

derivative standing.

II. Analysis

Matters concerning the “administration of the estate” are core

proceedings under 28 U.S.C. § 157(b)(2)(A), over which this Court may

exercise subject matter jurisdiction. □□

A. Case Law about Derivative Standing

The Committee’s motion for derivative standing seeks authority from

this Court to assert causes of action that include statutory claims that would

generally be asserted by Debtor’s bankruptcy estate. A committee of creditors

is authorized by the Code to:

(1) consult with the trustee or debtor in possession concerning the

administration of the case;

(2) investigate the acts, conduct, assets, liabilities, and financial

condition of the debtor, the operation of the debtor’s business and

the desirability of the continuance of such business, and any other

matter relevant to the case or to the formulation of a plan;

(3) participate in the formulation of a plan, advise those

represented by such committee of such committee’s

determinations as to any plan formulated, and collect and file with

the court acceptances or rejections of a plan;

16 This Court has jurisdiction pursuant to 28 U.S.C. § 157(a) and §§ 1334(a) and (b)

and the Amended Standing Order of the United States District Court for the

District of Kansas that exercised authority conferred by § 157(a) to refer to the

District's Bankruptcy Judges all matters under the Bankruptcy Code and all

proceedings arising under the Code or arising in or related to a case under the Code,

effective June 24, 2013. D. Kan. Standing Order 13-1 printed in D. Kan. Rules of

Practice and Procedure (March 2018).

(4) request the appointment of a trustee or examiner under section

1104 of this title; and

(5) perform such other services as are in the interest of those

represented.!7

The Code therefore grants a committee of creditors significant powers, but

does not directly address the power of a committee to bring claims that would

typically be asserted by the debtor in possession; the statutes creating the

claims in the Committee’s proposed complaint grant power to bring the

causes of action to the trustee or debtor in possession.!® Many courts have

considered whether a committee of creditors has an implied right, through

derivative standing, to pursue claims that would typically be pursued by a

trustee or debtor in possession.

The discussion of case law in this area generally begins with the

Supreme Court’s decision in Hartford Underwriters Ins. Co. v. Union Planters

Bank, N.A.'9 In that case, the Supreme Court analyzed the language of §

506(c), which grants power to “the trustee” to recover from “property securing

17 11 U.S.C. § 1103(¢).

18 F.g., 11 U.S.C. § 542(a) (requiring entities to “deliver to the trustee” property that

is beneficial to the estate), § 544 (giving “the trustee” certain rights and powers to

avoid voidable transfers of property), § 547 (permitting “the trustee” to avoid certain

statutorily defined preferential transfers) and § 1107(a) (giving a Chapter 11 debtor

in possession the rights and powers of a trustee).

19 §30 U.S. 1 (2000).

10

an allowed secured claim” the costs of preserving that property,2° and

whether an administrative claimant could recover under that provision or

only the trustee.?! The Supreme Court concluded that because the statute

specified the party to take action, exclusivity to that party was intended,

especially where the Code overall granted the specified party a unique role in

bankruptcy proceedings.”? In a footnote, the Supreme Court noted it was not

addressing whether a bankruptcy court could “allow other interested parties

to act in the trustee’s stead” or the practice of “allowing creditors or creditors’

committees a derivative right to bring avoidance actions when the trustee

refuses to do so, even though the applicable Code provisions, see 11 U.S.C. §§

544, 545, 547(b), 548(a), 549(a), mention only the trustee.”2? The Supreme

Court limited its holding to rejecting the ability of the administrative

claimant to assert “an independent right” to use the statute.?4

Shortly after the decision in Hartford Underwriters Ins. Co., the Tenth

Circuit BAP considered the issue of derivative standing for a claim under §

20 Section 506(c) states: “The trustee may recover from property securing an

allowed secured claim the reasonable, necessary costs and expenses of preserving,

or disposing of, such property to the extent of any benefit to the holder of such

claim, including the payment of all ad valorem property taxes with respect to the

property.”

21 §30 U.S. at 6.

22 Id. at 6-7.

23 Id. at 13 n.5.

24 Id.

11

548 in United Phosphorus, Ltd. v. Fox (In re Fox).”> In Fox, the Tenth Circuit

BAP addressed whether creditors may bring derivative suits on behalf of the

bankruptcy estate in light of Hartford Underwriters Ins. Co. and concluded

the Supreme Court’s analysis foreclosed the derivative suit. The Tenth

Circuit BAP reasoned that the Code was “explicit, unambiguous and

absolute” that “the trustee” could bring an action under § 548, and therefore

the Hartford Underwriters Ins. Co. decision required the plain language to be

followed.26 The Tenth Circuit BAP noted the footnote from Hartford

Underwriters Ins. Co. recognizing the practice of derivative suits after

obtaining bankruptcy court permission when a trustee refuses to act, but

concluded the Supreme Court’s language used in assessing the plain

language of § 506(c) was “so clear and compelling” that the BAP “was

convinced it would apply the same reasoning” and “reach the same

conclusion” regarding derivative actions under § 548 if the question had been

presented.?7

25 305 B.R. 912 (10th Cir. BAP 2004). Section 548(a)(1) states: “The trustee may

avoid any transfer (including any transfer to or for the benefit of an insider under

an employment contract) of an interest of the debtor in property, or any obligation

(including any obligation to or for the benefit of an insider under an employment

contract) incurred by the debtor, that was made or incurred on or within 2 years

before the date of the filing of the petition|.]”

26 305 B.R. at 914-16.

27 Id. at 915.

12

The Tenth Circuit has not itself directly addressed derivative suits. A

few years after the BAP’s decision in Fox, the Tenth Circuit noted the issue,

but not the Fox case, in Hill v. Akamai Technologies, Inc. (In re MS55).?8 In

the MS55 case, the Tenth Circuit considered a bankruptcy case converted

from Chapter 11 to Chapter 7 and whether the waiver by the then Chapter

11 debtor-in-possession to bring avoidance actions against a secured creditor

survived the conversion to Chapter 7 such that the trustee was barred from

suit.29 The prior waiver reserved the right of the Chapter 11 unsecured

creditors’ committee to bring suit, but the committee did not so act.?°

Addressing the Chapter 7 trustee’s argument that he inherited the

unexhausted right retained by the creditors’ committee to bring an avoidance

action—which it rejected because the trustee succeeded only to the debtor’s

rights, not the committee’s rights—the Tenth Circuit noted that “courts have

permitted creditors’ committees to bring actions in the name of the debtor,

usually only in connection with actions against insiders or other persons that

the debtor in possession has refused or is reluctant to sue,” and concluded

that because of this, “any rights the creditors’ committee has to an avoidance

action are derivative of the debtor and the estate’s claims.”?! Despite this

A477 F.3d 1131 (0th Cir. 2007).

29 Td. at 1134-35.

30 Td. at 1134.

31 Jd. at 1139 Gnternal quotations omitted).

13

statement, the Tenth Circuit then noted in a footnote, however, that a

“committee’s right to bring an avoidance action is not without question,”

citing the Hartford Underwriters Ins. Co. decision.*2 Ultimately, the Tenth

Circuit declined to decide the issue: “Because we conclude the trustee does

not succeed to the committee’s rights ... we need not discuss the availability

of these rights since Hartford. It is enough to note that to the extent the

creditors’ committee has a right to initiate an avoidance action, its right is

derivative of the debtor-in-possession’s right and is exercised on behalf of the

bankruptcy estate.”°°

The Tenth Circuit has not addressed derivative actions since the In re

MS55 case. Despite this, there is a plethora of case law from other circuits,

and the other circuits who have squarely addressed the issue post-Hartford

Underwriters Ins. Co. have all permitted creditors or creditors’ committees to

maintain derivative suits when the trustee or debtor in possession has

refused and the creditor or committee obtains the permission of the

bankruptcy court. Some of those circuit court decisions have reached this

decision without addressing the Hartford Underwriters Ins. Co. case.*4 Other

32 Id. at 1139 n.9.

33 Td,

34 See, e.g., Wooley v. Haynes & Boone, L.L.P. dn re SI Restructuring Inc.), 714 F.3d

860, 863 (5th Cir. 2013) (noting the “general rule” that a creditor “has the right to

seek authority to pursue causes of action on behalf of a debtor-in-possession” and

citing prior Fifth Circuit authority in La. World Exposition v. Fed. Ins. Co., 858

F.2d 233, 247 (5th Cir. 1988), for this “well-settled” law); Jones v. Phillip

14

circuit courts have directly addressed Hartford Underwriters Ins. Co. and

determined it does not control.*° For example, as the Sixth Circuit explained:

[A]voidance provisions—make no reference to derivative standing

and state only that “the trustee may” bring certain avoidance and

recovery actions. If these were the only relevant sections of the

Code, Hartford Underwriter’s interpretation of “the trustee may”

in § 506(c) would weigh strongly against derivative standing given

the “natural presumption that identical words used in different

parts of the same act are intended to have the same meaning.”

Schlosberg, a Profil Corp. (In re Jones), 178 Fed. App’x 662, 664 (9th Cir. 2006)

(“The district court properly held that the bankruptcy court did not err in allowing

[the creditor] to bring the avoidance action after the trustee refused to do so.”);

Enodis Corp. v. Emp’rs Ins. of Wausau (In re Consol. Indus. Corp.), 360 F.3d 712,

716-17 (7th Cir. 2004) (“Bankruptcy law does allow a creditor to bring a derivative

claim on behalf of the estate, but only in limited circumstances. To do so, a creditor

must show that the trustee has unjustifiably refused the creditor’s demand to

pursue a colorable claim and obtain leave from the bankruptcy court to proceed.”

(citing Fogel v. Zell, 221 F.3d 955, 965-66 (7th Cir. 2000))).

35 See, e.g., Hyundai Translead, Inc. v. Jackson Truck & Trailer Repair, Inc. (In re

Trailer Source, Inc.), 555 F.3d 231, 245 (6th Cir. 2009) (‘we reaffirm the continued

vitality after Hartford Underwriters of granting derivative standing to creditors to

pursue avoidance actions on behalf of the estate and hold that this practice is

available in both Chapter 11 and Chapter 7 proceedings”); PW Enters., Inc. v. N.D.

Racing Comm'n (In re Racing Servs., Inc.), 540 F.3d 892, 898, 898 n.7 (8th Cir.

2008) (“derivative standing is available to a creditor to pursue avoidance actions

when it shows that a Chapter 7 trustee (or debtor-in-possession in the case of

Chapter 11) is ‘unable or unwilling’ to do so”; noting in a footnote that “We agree

with the Third Circuit that the Supreme Court’s decision in Hartford Underwriters

Ins. Co... . does not foreclose derivative standing under the Bankruptcy Code’);

Smart World Techs., LLC v. Juno Online Servs., Inc. (In re Smart World Techs.,

LLC), 423 F.3d 166, 177-78, 181-82 (2d Cir. 2005) (noting that under Hartford

Underwriters Ins. Co. a creditors’ committee cannot rely on § 1109(b) for

independent standing but holding that a creditors’ committee may be granted

standing to pursue a cause of action when debtor-in-possession’s refusal to do so

was unjustifiable); Official Comm. of Unsecured Creditors v. Chinery (In re

Cybergenics Corp.), 330 F.3d 548, 553, 558 (8d Cir. 2003) (en banc) (finding Hartford

Underwriters Ins. Co. “markedly different” than a derivative action to pursue an

avoidance action for the benefit of the bankruptcy estate and concluding derivative

standing was available to a creditors’ committee when a debtor-in-possession’s

refusal to pursue an avoidance action was unreasonable).

15

However, our analysis is not so cribbed, because other provisions

of the Bankruptcy Code, as well as pre-Code practice, clearly

contemplate the equitable power of bankruptcy courts to authorize

creditors, in appropriate instances, to bring claims on behalf of the

bankruptcy estate.°6

The Sixth Circuit concluded that because § 503(b)(8)(B) provides that

creditors may be compensated on a priority basis for efforts in recovering

property “for the benefit of the estate,”*’ it shows Congressional approval of

“the practice of permitting creditors, with court authorization, to pursue

claims on behalf of bankruptcy debtors.”#8 In addition, the Sixth Circuit

reasoned that Congress was aware of the practice of derivative standing at

the time § 503(b)(3)(B) was incorporated into the Code and that the Code

section would be meaningless unless derivative standing existed.*? Finally,

the Sixth Circuit reasoned that a bankruptcy court has the authority as an

exercise of its equitable power to ensure the Code’s provisions for the

recovery of assets to maximize the bankruptcy estate.‘°

36 In re Trailer Source, Inc., 555 F.3d at 240 Gnternal citation omitted).

37 Section 503(b)(3)(B) states: “After notice and a hearing, there shall be allowed

administrative expenses... including... (3) the actual, necessary expenses, other

than compensation and reimbursement specified [for reasonable compensation for

professional services], incurred by .. . (B) a creditor that recovers, after the court's

approval, for the benefit of the estate any property transferred or concealed by the

debtor.”

38 In re Trailer Source, Inc., 555 F.3d at 240.

39 Td. at 242; In re Cybergenics Corp., 330 F.3d at 567 (“when they are paired with §

503(b)(3)(B), it becomes unmistakably clear that Congress approved of creditors’

committees suing derivatively to recover property for the benefit of the estate’).

40 In re Trailer Source, Inc., 555 F.3d at 242, 242-43 (“this equitable remedy

effectuates Congress’s intent that fraudulently transferred property be recovered for

16

Other circuit courts have reasoned that § 1103(c)(5), which as noted

above, says that creditors’ committees may “perform such other services as

are in the interest of those represented” grants permission for derivative

standing to a committee.*! One BAP court noted that § 1107(a), which states

that a debtor-in-possession “shall perform all the functions and duties” of a

trustee, subject to “such limitations or conditions as the court prescribes,”

also provides support for derivative standing.*? Other circuits and BAP’s also

rely at least in part on § 1109(b), which states that creditors’ committees

“may raise and may appear and be heard on any issue in a case” under

Chapter 11.4? Suffice to say most bankruptcy courts and appellate courts

considering the issue have concluded the practice of granting derivative

the bankruptcy estate”); In re Cybergenics Corp., 330 F.3d at 568 (“We believe that

the ability to confer derivative standing upon creditors’ committees is a

straightforward application of bankruptcy courts’ equitable powers.”).

41 In re Smart World Techs., LLC), 423 F.3d at 183 n.27 (‘This court has previously

recognized that § 1103(c)(5) provides a statutory basis for granting derivative

standing in some cases.”); In re Cybergenics Corp., 330 F.3d at 563 (stating that §

1103(c)(5) provides “clear evidence that Congress envisioned a central role for

creditors’ committees in Chapter 11” and “indirect evidence that Congress granted

bankruptcy courts the power to confer derivative standing upon those committees”).

42 Jefferson County Bd. of County Commissioners v. Voinovich Un re The V

Companies), 292 B.R. 290, 295 (6th Cir. BAP 2003).

43 In re Cybergenics Corp., 330 F.3d at 566 (“Sections 1109(b) and 1103(c)(5), taken

together, evince a Congressional intent for committees to play a robust and flexible

role in representing the bankruptcy estate, even in adversarial proceedings.”);

Unsecured Creditors Committee of Debtor STN Enterprises, Inc. v. Noyes In re STN

Enterprises), 779 F.2d 901, 904 (2d Cir. 1985) (“Most bankruptcy courts that have

considered the question have found an implied, but qualified, right for creditors’

committees to initiate adversary proceedings in the name of the debtor in

possession under 11 U.S.C. §§ 1103(¢)(5) and 1109(b).”); In re The V Companies, 292

B.R. at 295.

17

standing in appropriate circumstances was not foreclosed by Hartford

Underwriters Ins. Co.“

This court addressed derivative standing in Village of Overland Pointe,

LLC v. Terra Bentley Il, LLC (In re Terra Bentley II, LLC).*° In Terra Bentley

IT, LLC, a creditor sought to bring an adversary action against the debtor

under the Kansas Uniform Fraudulent Transfer Act to avoid a mortgage the

debtor gave to a separate creditor prepetition.4¢ This Court recognized the

“many courts” that had permitted derivative standing under certain

circumstances for creditors to pursue claims otherwise belonging to a trustee

or debtor-in-possession, although it concluded the factual predicate for

derivative standing had not been satisfied in that case.47 The Court stated:

“The Tenth Circuit has apparently not yet ruled on the question. No Circuit

court appears to have concluded derivative standing for creditors is never

permissible, though, and the Court sees no reason to believe the Tenth

Circuit would disagree with the unanimous view of the Circuits that have

decided the question.”48

44 See, e.g., In re Roman Catholic Church of Archdiocese of Santa Fe, 621 B.R. 502,

506-08 (Bankr. D.N.M. 2020) (providing extensive summary of development of case

law and citing cases).

45 No. 09-23107, 2011 WL 808190 (Bankr. D. Kan. Mar. 2, 2011).

46 Td. at *1.

47 Td. at *4.

48 Td. Admittedly, the Court did not address the Tenth Circuit BAP’s position in

Fox.

18

The Court continues to believe that the Tenth Circuit would join with

other circuits in recognizing derivative standing suits in limited

circumstances where the trustee or debtor-in-possession has unjustifiably

refused to pursue the proposed claims. The decision by the Tenth Circuit BAP

in Fox is a minority position, provided shortly after Hartford Underwriters

Ins. Co. was decided and without the benefit of the more than twenty years of

case law development that has since occurred.*? As a result, if the Committee

can carry its burden to show it petitioned Debtor to bring the claims, Debtor

unjustifiably refused, and its claims are colorable,®° this Court will grant

permission to bring a derivative suit.

B. Has the Committee Established Derivative Standing

The Committee demanded Debtor bring the claims now stated in its

proposed complaint, thereby satisfying the requirement that it first petition

49 In In re Quick, the Court indicated it considered Tenth Circuit BAP decisions to

be persuasive authority that “should be followed in the absence of compelling

reasons to depart.” In re Quick, No. 07-2191, 2008 WL 474266, at *3 (Bankr. D.

Kan. Feb. 14, 2008). As described in the text, the Court believes compelling reasons

are present here.

50 In re Racing Servs., Inc., 540 F.3d at 900 (“We therefore hold, to establish

derivative standing, a creditor must show: (1) it petitioned the trustee to bring the

claims and the trustee refused; (2) its claims are colorable; (3) it sought permission

from the bankruptcy court to initiate an adversary proceeding; and (4) the trustee

unjustifiably refused to pursue the claims. We expect in most cases creditors will

readily satisfy the first three elements without much difficulty—petitioning the

trustee and bankruptcy court ought to be mere formalities.”). By filings its motion,

the Committee has satisfied the requirement that it seek permission from the

bankruptcy court prior to bringing the derivative action.

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Debtor to bring the claims.®! The remaining questions are whether Debtor’s

refusal to pursue the claims was unjustifiable and whether the claims are

colorable.

Claims are colorable if they would survive a motion to dismiss. Under

the familiar motion to dismiss standards, “a complaint must contain

sufficient factual matter, accepted as true, to ‘state a claim to relief that is

plausible on its face.”5? A claim is facially plausible if the factual content

plead, as opposed to legal conclusions made, allow a court to draw the

reasonable inference that the stated claim is present.54 The Court does not

“weigh potential evidence that the parties might present at trial” but instead

assesses whether the proposed complaint “is legally sufficient to state a claim

for which relief may be granted” if the factual allegations are “accepted as

true and viewed in the light most favorable” to the movant.*

51 The Committee’s correspondence to Debtor demanding claims be brought is

located at Doc. 315.

52 In re Racing Servs., Inc., 540 F.3d at 900 (“a creditor’s claims are colorable if they

would survive a motion to dismiss”).

53 Williams v. Meyer (In re Williams), 438 B.R. 679, 683 (Oth Cir. BAP 2010)

(quoting Bell Atl. Corp. v. Twombly, 550 U.S. 544 (2007) and Ashcroft v. Iqbal, 556

U.S. 662 (2009)).

54 Td. (internal quotations omitted); see also Iqbal, 556 U.S. at 678 (“A claim has

facial plausibility when the plaintiff pleads factual content that allows the court to

draw the reasonable inference that the defendant is liable for the misconduct

alleged.”).

55 In re Expert South Tulsa, LLC, 522 B.R. 634, 651 (10th Cir. BAP 2014) Gnternal

quotations omitted). In its initial response to the Committee’s motion, Central Bank

responds simply that it “possesses valid and perfected liens” and that the doctrine of

marshaling is limited and it has already employed methods to recover against Big

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Counts 1 through 4 of the Committee’s proposed complaint challenge

Central Bank’s perfection of security interests in Debtor’s Bank of America

account and certain motor vehicles, avoidance of those unperfected liens

under § 544(a), and preservation of the unperfected liens for the bankruptcy

estate under § 551. For each alleged unperfected security interest, the

Committee identifies the facts leading it to believe the security interest is not

perfected, the state law upon which it relies that controls perfection of a

security interest in the items, and the benefit to the bankruptcy estate of

avoiding those transfers. This is sufficient to state colorable claims.*¢

Regarding the Bank of America account, Central Bank presents a factual

dispute about the source of the funds in the account,°” but again, the Court

does not weigh evidence at this point.

Bear Leasing, Inc. and Mr. Niles with a state court action. Doc. 301 p. 3-4. But

again, as stated above, at this point, the Court is asking whether the stated claims

are colorable. The merits of those claims beyond what the Court would typically

employ at the motion to dismiss stage is left for development through the adversary

proceeding that would be filed after the motion for derivative standing is granted.

56 k.g., Hamilton v. Wash. Mut. Bank FA (In re Colon), 563 F.3d 1171, 1173-74

(10th Cir. 2009) (describing the § 544(a) cause of action); AG New Mexico v. Borges

Un re Borges), 510 B.R. 306, 323 (10th Cir. BAP 2014) (detailing a cause of action

for a Chapter 11 debtor in possession under § 544(a)).

57 Doc. 321 p. 3 (arguing that Central Bank has a perfected security interest in the

funds because the funds in the Bank of America account were proceeds of accounts

receivables in which Central Bank had a perfected security interest); Doc. 333 p. 4

(arguing “the testimony at the meeting of creditors and Bankruptcy Rule 2004

examinations suggests that all of the amounts in the BOA Account may not have

been payments on accounts receivable but that they could have come from other

sources as well”).

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Count 5 seeks avoidance as preferential transfers the amounts swept

from Debtor’s Bank of America account by Central Bank in the ninety days

prepetition. Here, the Committee’s proposed complaint alleges Central Bank

took money belonging to Debtor to satisfy its loan with Debtor despite having

no property interest in the funds, in the ninety days prior to filing, when

Debtor was insolvent. Again, this is sufficient to state a colorable claim.**

Central Bank argues the Committee failed to provide specificity regarding

the amounts transferred, dates transferred, and the identity of the transferor

and transferee,°*” but the Court concludes that a fair reading of the proposed

complaint indicates that the Committee has stated colorable claims that can

and should be developed factually through the litigation of those claims.

Count 6 simply alleges that the transfers avoided under § 544 or § 547

be recovered for the benefit of Debtor’s bankruptcy estate. Section 550 makes

the initial transferee of an avoided transfer strictly liable for the value of the

58 H.g., Bailey v. Big Sky Motors, Ltd. (In re Ogden), 314 F.3d 1190, 1196 (10th Cir.

2002) (“Under the terms of § 547, a transfer is avoidable if it: (1) is of an interest of

the debtor in property; (2) is for the benefit of a creditor; (3) is made for or on

account of an antecedent debt owed by the debtor before the transfer was made; (4)

is made while the debtor is insolvent; (5) is made on or within ninety days before

the date the bankruptcy petition was filed; and (6) allows the creditor to receive

more than the creditor would otherwise be entitled to receive from the bankruptcy

estate.”).

59 Doc. 321 p. 2.

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property transferred,®° and the Committee alleges Central Bank is an initial

transferee. Again, this count states a colorable claim.

Count 7 of the proposed complaint seeks turnover of the amount taken

by Central Bank in its post petition sweeps of the Bank of America account

under § 542(a). The Committee alleges Central Bank conducted regular

sweeps of the Bank of America account after Debtor’s bankruptcy filing,

taking funds that were properly part of Debtor’s bankruptcy estate, upon

which Central Bank had no property interest. The Committee alleges the

amounts taken were not of inconsequential value. These allegations support

a claim for turnover under § 542(a),®! and therefore the turnover claim is

colorable.

Finally, Count 8 of the Committee’s proposed complaint is against

Central Bank, Big Bear Leasing, Inc., and Mr. Niles, requesting application

of the equitable doctrine of marshaling such that Central Bank is required to

satisfy the amounts due from Debtor under the parties’ loan agreements by

first exhausting recovery on collateral belonging to Big Bear Leasing, Inc.

and Mr. Niles. Marshaling is an equitable doctrine, and its purpose “is to

60 Jd. at 1202 (describing recovery under § 550 and the defenses thereto).

61 k.g., In re Rosales, 621 B.R. 903, 917 (Bankr. D. Kan. 2020) (“The trustee must

establish the following elements of turnover under § 542(a): (1) the property sought

to be turned over is property of the estate; (2) the party against whom turnover is

sought is an ‘entity; (3) the entity was in possession, custody, or control of the

property during the case; and (4) the trustee may use or sell the property.”).

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prevent the arbitrary action of a senior lienor from destroying the rights of a

junior lienor or a creditor having less security.”®? To invoke the doctrine of

marshaling, the following elements must be shown: “(1) the existence of two

or more creditors competing against the same debtor; (2) the existence of two

or more funds belonging to the debtor; and (3) the legal right of at least one

creditor to satisfy its claim against either of the funds, when the other

creditor has access to only one fund.”6? The Committee alleges Debtor has the

rights and powers of a judgment lien and execution creditor under § 544, and

that therefore Debtor has the powers of a junior creditor compared to Central

Bank as senior creditor. The Committee also alleges Central Bank has

interests in collateral that is property of the bankruptcy estate and in

collateral that is property of Big Bear Leasing, Inc. and Mr. Niles. The

Committee argues Central Bank should be required to exhaust its recovery

on assets belonging to non-debtor entities Big Bear Leasing, Inc. and Mr.

Niles, prior to recovering against collateral that is property of the bankruptcy

estate, due to alleged inequitable conduct and actual or constructive fraud

described above. The Committee argues this Court should follow cases

extending the application of the marshaling doctrine to situations where a

62 In re Blagg, 372 B.R. 502, 506 (Bankr. D. Kan. 2007) (internal quotation

omitted).

63 Redmond v. Carson (In re Carson), 374 B.R. 247, 249 (10th Cir. BAP 2007).

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non-debtor entity is an alter ego of the debtor or where the non-debtor has

engaged in inequitable conduct.®

Central Bank challenges whether the marshaling doctrine should be

applied on the facts present herein. Central Bank argues that extension of

the marshaling doctrine to the circumstances the Committee alleges are

present should not be permitted, and that it would be prejudiced by the

application of the marshaling doctrine.® The Court readily acknowledges

that these are difficult questions that will have to be resolved, but concludes

it is too early to resolve them at this juncture, without the benefit of further

factual development. Again, at this point, the question is whether the

Committee has stated a colorable claim, and the Court concludes it has. And

further, even without the marshaling claim, the conclusion is inescapable

that the Committee has alleged colorable claims that would benefit the estate

if proven after full development of the record.

The Court therefore concludes the Committee has satisfied the

prerequisite for derivative standing that the claims sought to be undertaken

are colorable, and the remaining requirement for derivative standing

requires the Committee to show Debtor’s refusal to bring these claims was

unjustifiable. Some circuits conclude that if the claims to be brought via

64 Doc. 280 p.14-15.

6 Doc. 321 p. 3-4.

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derivative standing are colorable, then the refusal to pursue them makes it

unjustified.®¢ In other circuits, more is required, and the movant seeking

derivative standing must show “specific reasons” why the refusal to bring the

claims is unjustified.®” This Court previously sided with the courts requiring

a movant to give these “specific reasons.”®®

Regardless of which standard is used to determine if Debtor’s refusal to

bring claims is unjustified, the standard is met here. The Court has already

concluded the proposed clams are colorable. The clams are not frivolous and if

successful will benefit the bankruptcy estate by bringing funds back into the

estate for distribution to creditors. Debtor refused to pursue the actions, and

in fact, Debtor agreed in the Fifth Interim Order on cash collateral that it

66 B.g., In re Canadian Pac. Forest Prods., Lid., v. J.D. Irving, Ltd. (In re Gibson

Grp., Inc.), 66 F.3d 1436, 1439—40 (6th Cir. 1995) (“[W]e believe that a creditor need

not plead facts alleging the debtor-in-possession’s reason or motive for the inaction,

but may meet its burden to allege unjustified inaction through notice pleading by

alleging the existence of an unpursued colorable claim that would benefit the estate.

If the debtor-in-possession gives no reason for its inaction when a demand is made,

the bankruptcy court may presume that its inaction is an abuse of discretion

(unjustified’) if the complaint alleges a colorable claim.”).

67 B.g., In re Racing Servs., Inc., 540 F.3d at 900 (“To satisfy its burden, the

creditor, at a minimum, must provide the bankruptcy court with specific reasons

why it believes the trustee’s refusal is unjustified. A creditor thus does not meet its

burden with a naked assertion that ‘the trustee’s refusal is unjustified.’ If presented

with nothing more than this, the bankruptcy court may properly deny a creditor’s

motion without explanation. The creditor, not the bankruptcy court, has the onus of

establishing the trustee unjustifiably refuses to bring the creditor’s claim.”).

68 In re Terra Bentley I, LLC, 2011 WL 808190, at *4 (concluding that “to show

that the trustee or debtor-in-possession abused its discretion by unjustifiably

refusing to pursue the proposed claims,” a committee must give “specific reasons

why the refusal is unjustified”).

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would waive pursuit of any claims as a condition of Central Bank agreeing to

that Order. Debtor’s management is in flux with the recent resignation of Mr.

Niles. The Court concludes the Committee has carried its burden to show the

refusal to bring the claims was unjustified, and also concludes the cost-

benefit analysis of bringing the claims weighs in favor of granting the motion.

Ill. Conclusion

The Committee’s motion for derivative standing is granted.®? The

Committee is authorized to bring its proposed complaint and litigate those

claims to final judgment.

It is so Ordered.

HEF

69 Doc. 280. To the extent the Committee seeks additional relief in its motion

beyond authority to file its claims via derivative standing, including the

disallowance of Central Bank’s claims under § 502(c), the Court concludes that

relief is premature and inappropriate at this juncture.

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