Opinion
Nos. 96 Civ. 7601 (DAB) and 97 Civ. 6710 (DAB).
March 15, 2001
Opinion Memorandum and Order
The United States Trustee brings this appeal from the Bankruptcy Court's decision and order retaining the firm of Deloitte and Touche ("Deloitte") to perform work for Debtor Andover Toggs, Inc. and awarding compensation. Retention was approved despite Deloitte's pre-petition claim against Andover for unpaid fees resulting from previous completed work. For the reasons set forth below, the Bankruptcy Court erred in retaining and compensating Deloitte, and the decision of the Bankruptcy Court is therefore REVERSED.
I. Background
The facts are not in dispute. Andover Toggs, Inc. and its subsidiaries ("The Debtor") filed for bankruptcy protection pursuant to Chapter 11 of the Bankruptcy Code on March, 19, 1996, and has continued to operate its business as a debtor in possession pursuant to Bankruptcy Code §§ 1107, 1108. (Appl. Retention of Deloitte, D-3, Dkt. 43.) Prior to filing for bankruptcy, the Debtor had retained the firm of Deloitte and Touche ("Deloitte") to complete an audit in connection with the firm's required 10K filing with the Securities and Exchange Commission ("S.E.C."). (Id., P5) As a result of the auditing work Deloitte had performed at the time of the filing, the Debtor had incurred a pre-petition general unsecured claim of $126,331. (Kaye Aff. P 5., D-3, Dkt. 43). Deloitte was and is not willing to waive this pre-petition claim. (Id. at P 6.)
"D-" is used to refer to document numbers as they are listed in the Designation of the Contents of the Record on Appeal and Statement of Issues, dated September 23, 1996. "Dkt." corresponds to the document numbers contained in the Bankruptcy Court Docket.
On April 17, 1996, the Debtor filed an application seeking to employ Deloitte as accountants to finish the auditing work it had already substantially completed at the time of the bankruptcy petition. (Appl., D-3, Dkt. 43). The Debtor was advised by Deloitte that the cost of completing the audit would be approximately $15,000. (Id. at P 5.)
The other creditors in the bankruptcy action did not object to the retention of Deloitte for the limited purpose of completing the 10K audit. However, the U.S. Trustee filed an objection to the application, arguing that, pursuant to 11 U.S.C. § 327, Deloitte, as a pre-petition creditor, could not be retained by the Debtor to perform work during the bankruptcy. (Trustee Objection, D-4, Dkt. 51). The Debtor subsequently filed a Renewed Application seeking to Retain Deloitte (Renewed Appl., D-5, Dkt. 87). The Debtor argued that the cost of hiring another accounting firm would have been approximately $100,000, as a new firm would be unable to utilize the work already performed by Deloitte. (Memo of Law in Support of Renewed Application, D-5, Dkt. 87). In an August 5, 1996 decision, the Bankruptcy Court approved retention of Deloitte, pursuant to 11 U.S.C. § 327(e) providing a limited exception to 327(a), and permitted Deloitte to serve as accountants for the special purpose of completing the 1995 audit notwithstanding its status as a creditor. In re Andover Togs, 199 B.R. 4, 6 (Bankr.S.D.N.Y. 1996).
The Bankruptcy Court then signed a final order, dated September 5, 1996, which authorized the retention of Deloitte and limited their professional fees to an amount not to exceed $30,000 without further order of the Court. (D-8, Dkt. 219). On September 12, 1996, the U.S. Trustee appealed the retention order to this Court. (D-9, Dkt. 229.) The appeal was placed in abeyance at the request of the parties. See Order dated November 26, 1996. Thereafter, Deloitte completed the auditing work and, in an order dated August 5, 1997, the Bankruptcy Court awarded final compensation of $12,912 in fees and $382 in expenses. (DD-3, Dkt. 469.) On August 8, 1997, the United States Trustee brought a second appeal opposing the compensation award. (DD-4, Dkt. 470.) The appeals were consolidated and this motion followed. See Stipulation and Order Consolidating Appeals dated January 7, 1998.
"DD" is used to refer to document numbers as they are listed in the Designation of the Contents of the Record on Appeal and Statement of Issues, dated September 18, 1997 (the Designation of Record for the appeal of the compensation award.)
Although the Bankruptcy Court has awarded compensation to Deloitte, the parties have agreed not to pursue the argument that the compensation award renders this appeal moot. Stip at 4, P2.
The two questions presented on this appeal are 1) whether the Bankruptcy Court erred in approving retention of Deloitte and Touche as accountants to the Debtor, notwithstanding its status as a pre-petition creditor and 2) whether the Bankruptcy Court erred in authorizing retention pursuant to 11 U.S.C. § 327(e) and 11 U.S.C. § 105(a).
II. Discussion A. Standard of Review
Orders issued by a bankruptcy court are subject to appellate review pursuant to Federal Rule of Bankruptcy Procedure 8013. The district court reviews the bankruptcy court's findings of fact under a clearly erroneous standard, and any conclusions of law de novo. In re Momentum Mfg. Corp., 25 F.3d 1132, 1136 (2d. Cir. 1994); In re Gollomp, 198 B.R. 433, 436 (S.D.N.Y. 1996). Deference is given to the original fact finder because of that court's expertise and superior position to make determinations of credibility. Id.; Fed.R.Bankr.P. 8013. Under the clearly erroneous standard, a lower court's choice between two permissible views of the facts cannot be held to be clearly erroneous. Anderson v. City of Bessemer, N.C., 470 U.S. 564, 573, 84 L.Ed.2d 518, 105 S.Ct. 1504 (1985); In re Grant Assoc., 154 B.R. 836, 840 (S.D.N.Y. 1993). "To be clearly erroneous, a decision must strike [the court] as more than just maybe or probably wrong; it must . . . strike [the court] as wrong with the force of a five-week-old unrefrigerated dead fish." Parts and Elec. Motors, Inc. v. Sterling Elec., Inc., 866 F.2d 228, 233 (7th Cir. 1988),cert. denied, 493 U.S. 847, 110 S.Ct. 141, 107 L.Ed.2d 100 (1989).
Review of a Bankruptcy Court's retention order is limited to abuse of discretion. In re Federated Dept. Stores, Inc., 44 F.3d 1310, 1315 (6th Cir. 1995). A retention order involves an interpretation of law, and, thus, is reviewed de novo. Id. On appeal, an abuse of discretion may only be found where (1) the decision was based on an erroneous conclusion of law; (2) the record contains no evidence on which a judge could have based his decision; or (3) supposed facts found are erroneous as found.In re Integrated Resources, Inc., 157 B.R. 66, 72 (S.D.N.Y. 1993).
B. Retention of Deloitte and Touche
1. Retention under § 327(e) and § 105(a)
It is crucial that professionals employed during the administration of a bankruptcy proceeding be free from any conflict of interests. "By regulating the trustee's ability to hire professionals, section 327 serves the important policy of ensuring that all professionals appointed to represent the trustee tender undivided loyalty and provide untainted advice and assistance in furtherance of their fiduciary responsibilities." In re Arochem Corp. 176 F.3d 610, 621 (2d Cir. 1999).
Bankruptcy Code § 327(a) permits the trustee of an estate to employ attorneys, accountants or other professional persons who ". . . do not hold or represent an interest adverse to the estate, and that are disinterested persons . . ." A creditor is not disinterested, 11 U.S.C. § 101(14)(A), and is therefore ordinarily excluded from providing professional services. It is undisputed that Deloitte held a pre-petition claim against the Debtor, thus Deloitte was clearly not a "disinterested person" as the term is defined by the Bankruptcy Code. Nevertheless, the Bankruptcy Court approved the retention of Deloitte finding the estimated cost of hiring new accountants would be approximately $100,000, and that Deloitte, while not disinterested, did not hold any interest adverse to the estate. Andover Togs, 199 B.R. at 6.
11 U.S.C. § 1107(a) makes clear that § 327, although referencing only "trustees," is applicable to debtors in possession.11 U.S.C. § 1107(a) provides in relevant part:
. . . a debtor in possession shall have all the rights, other than the right to compensation under section 330 of this title, and powers, and shall perform all the functions and duties, except the duties specified in sections 1106(a)(2),(3), and (4) of this title, of a trustee serving in a case under this chapter. See also 3 L. King, Collier on Bankruptcy, P 327.0 (same).
The Bankruptcy Court applied an exception to the general rule excluding interested professionals, when approving retention of Deloitte. Andover Togs, 199 B.R. at 6-8. The Bankruptcy Court relied upon Bankruptcy Code § 327(e), which allows for the retention of an otherwise interested attorney for a "specified special purpose."11 U.S.C. § 327(e). Reasoning by analogy, the Court found that, as § 327(e) permitted retention of special counsel "notwithstanding the Code's disinterestedness requirement," so too § 327(e) authorized retention of an accountant for a special limited purpose. Id. at 6-7.
The text of 11 U.S.C. § 327(e) provides: The trustee, with the court's approval, may employ, for a specified special purpose, other than to represent the trustee in conducting the case, an attorney that has represented the debtor, if in the best interest of the estate, and if such attorney does not represent or hold any interest adverse to the debtor or to the estate with respect to the matter on which such attorney is to be employed.
As noted by the Bankruptcy Court, the special counsel exception of § 327(e) "permit[s] the utilization of special knowledge and experience which may be of substantial benefit to the estate." Andover Togs, 199 B.R. at 6 (quoting 2 L. King, Collier on Bankruptcy, P327.03 (15th ed. 1996)). Although the court recognized that § 327(e) makes no mention of accountants, it reasoned that ". . . the policy objective behind section 327(e) is as applicable in this case as it is with respect to the retention of special counsel." Id. at 6. The Court further reasoned that Congress likely made no mention of accountants in the language of the statute because accountants typically perform work that is central to all aspects of the bankruptcy process. Id. The Court then found that the "unusual situation" in the instant case called for an exception to this general rule. Id.
The Bankruptcy Court relied on its general power under11 U.S.C. § 105(a) to issue any order that is ". . . necessary and appropriate to carry out the provisions of the code." 11 U.S.C. § 105(a). In so holding, the Court relied upon In re Palm Coast: Matanza Shores Ltd. Partnership, 188 B.R. 741, 743 (S.D.N.Y. 1995) (affirming bankruptcy court's expansive reading of § 327 in the absence of an "express statutory limitation" on the trustee's ability to do so). Notably, Palm Coast, was reversed by the Second Circuit only a few months after the bankruptcy decision was rendered. See In re Palm Coast, 101 F.3d 253 (2d Cir. 1996) (applying a narrow reading of § 327(a);(d)).
While this Court recognizes the inefficiency that will result if Deloitte cannot be retained, the Bankruptcy Court's decision is nevertheless at odds with the subsequent holding of the Second Circuit inIn re Palm Coast, which declined to expand the application of § 327 beyond its plain wording. 101 F.3d 253. Palm Coast concerned11 U.S.C. § 327(d), which allows a court to authorize the trustee to act as an attorney or an accountant for the estate if this is in the estate's best interest. Thus, 327(d), like 327(e), the focus of the instant matter, creates an exception to 327(a)'s general requirement that retained professionals be disinterested. Relying, inter alia, upon the maxim expressio unius est exclusio alternius ("the mention of one thing implies the exclusion of the other"), the court in Palm Coast declined to extend the reach of § 327(d) beyond the plain language, which referenced only attorneys and accountants. 101 F.3d at 258. Accordingly, the Second Circuit reversed the bankruptcy court's decision expanding the Code to permit the trustee to hire his real estate firm.Id.
More recently, in In re Arochem Corp., 176 F.3d 610, 622 (2d Cir. 1999), the Second Circuit rejected the reasoning of a bankruptcy court that applied an expanded reading of § 327(e), the exception to11 U.S.C. § 327(a) at issue here. In Arochem, the Second Circuit held that § 327(e), which permits retention of a debtor's attorney, could not be utilized to allow the retention of a creditor's attorney.
Given the holdings in Palm Coast and Arochem, requiring a narrow reading of the exceptions to 11 U.S.C. § 327(a) and in light of § 327(a)'s clear prohibition against retention of interested professionals, this Court, while sympathetic to the sound reasoning of the Bankruptcy Court and aware of the financial implications for the Debtor, is constrained by the rulings of the Second Circuit, and cannot extend the reach of 327(e) beyond its express exception for attorneys. See United States Trustee v. Price Waterhouse (In re Sharon Steel Corp.), 19 F.3d 138, 142 (3rd Cir. 1994) (finding the language of § 327(a) to be unambiguous and rejecting a "flexible approach" in determining whether a party who is not disinterested may be retained).
The Bankruptcy Court's power under 11 U.S.C. § 105(a) does not change this result. While § 105(a) does allow the Bankruptcy Court some latitude in interpreting the Bankruptcy Code, it cannot be used to ignore specific and unambiguous provisions of the Code. See Matter of Johns-Manville Corp., 26 B.R. 405, 414 (Bankr.S.D.N.Y. 1983) aff'd 40 B.R. 219 (S.D.N.Y. 1984) (§ 105 does not "have a life of its own");In re Federated Department Stores, Inc., 44 F.3d 1310, 1318 (6th Cir. 1995) (equitable powers of bankruptcy judge "must be exercised within the confines of the Bankruptcy Code.").
A narrow reading of § 327(e) is in accord with the decision in In re South Shore Golf Club Holding Co., 182 B.R. 94 (Bankr.W.D.N.Y 1995), which held that § 327(e) could not be extended to include the appointment of a special accountant to assist in the preparation of the Disclosure Statement and Plan of Reorganization. The Court reasoned that ". . . with the legislature having so clearly defined the requirements for employment, this Court is not at liberty to hold otherwise." Id. at 95. Accordingly, the Bankruptcy Court decision expanding 327(e) to permit the Debtor to employ its interested accountant, even for a limited purpose, was in error.
2. Retention under § 1107(b)
The Debtor urges this Court to consider the alternative argument that11 U.S.C. § 1107(b) authorizes retention of Deloitte in this case. Although the Bankruptcy Court declined to base its ruling upon § 1107(b) of the Code, because this Court considers the legal conclusions of the Bankruptcy Court de novo, the Court may affirm the decision on alternative grounds. In re Chateaugay Corp., 94 F.3d 772, 780 (2d Cir. 1996).
11 U.S.C. § 1107(b) provides:
Notwithstanding section 327(a) of this title, a person is not disqualified for employment under section 327 of this title by a debtor in possession solely because of such person's employment by or representation of the debtor before the commencement of the case.
While 11 U.S.C. § 1107(b) makes no express exception to the general provisions of § 327(a) to permit retention of the debtor's pre-petition who are also pre-petition creditors, the Debtor argues that a number of courts have extended the statute's reach to include such instances. See, e.g., In re Best Western Heritage Inn Partnership, 79 B.R. 736 (Bankr.E.D.Tenn. 1987) (holding that an attorney was not precluded from representing a debtor in possession solely because he held a pre-petition claim for services).
This court declines to extend the reach of § 1107(b) in this way. The approach urged by the Debtor is the minority view and has been flatly rejected by appellate courts in both the Sixth and Ninth Circuits. See Federated Department Stores, 44 F.3d at 1319 (rejecting lower court's finding that § 1107(b) provided any exception to 327(a)'s prohibition on hiring interested professional persons); In re CIC Inv. Corp., 175 B.R. 52 (B.A.P. 9th Cir. 1994) (Bankruptcy Appellate Panel decision rejecting the position of a "minority of courts" that a professional firm with a pre-petition claim may represent the debtor). The Debtor does not cite and this Court is unaware of any case in this Circuit that subscribes to this expanded reading of § 1107(b).
The decision in CIC Investment Corp. calls into doubt the validity of the holding in In re Viking Ranches, Inc., 89 B.R. 113 (Bankr.C.D.Ca., 1988), one of the cases cited by the Debtor in support of a § 1107(b) exception.
In addition, the Debtor's proposed expansive reading of § 1107(b) is in direct conflict with the plain language of the statute, which makes no mention of an exception to § 327(a) for parties who are not disinterested. Thus, just as the holding in Palm Coast prohibits the expanded reading of § 327(e) urged by the Debtor, it must also prohibit the expanded reading proposed here.
In sum, the retention of Deloitte is prohibited by the plain language of § 327(a) of the Bankruptcy Code, and the Bankruptcy Court erred in retaining the firm. "If it is thought that Section 327(a) should allow trustees and debtors in possession under some circumstances to employ professionals who are not `disinterested,' an amendment of that provision should be sought from Congress." Sharon Steel Corp., 19 F.3d at 142. See also In re Eastern Charter Tours, Inc., 167 B.R. 995, 998 (Bankr.M.D.Georgia 1994) ("the faithful application of the plain language of the [Bankruptcy] Code, where there is no ambiguity, in addition to being the sworn duty of a judicial officer, is much more likely to motivate Congress to consider remedial legislation if it is warranted.").
C. The Award of Compensation
As the retention of Deloitte was improper, the decision of the Bankruptcy Court to award compensation pursuant to Bankruptcy Code §§ 330-331 was also in error. See In re Federated Department Stores, 44 F.3d at 1320 (holding a valid appointment under § 327(a) is required to award compensation under the Bankruptcy Code.)
The Trustee has not requested that fees actually awarded to Deloitte, if any, be disgorged. Moreover, as Deloitte had no way of knowing of the Bankruptcy Court's error, equitable considerations dictate that Deloitte should be paid for the services it rendered. See Federated Department Stores, 44 F.3d at 1320 (allowing firm to retain fees earned during period of time when it had no way of knowing that such fees were awarded in error.)
III. Conclusion
For the foregoing reasons, the Bankruptcy Court erred in retaining Deloitte and Touche for the purpose of completing the Securities and Exchange Commission 10K filing and erred in awarding compensation to Deloitte. Accordingly, the decision of the Bankruptcy Court is REVERSED.SO ORDERED.