Lead Opinion
OPINION
This case presents a question of first impression in this court: Under § 303(b)(1) of the Bankruptcy Code, 11 U.S.C. § 303(b)(1), is an unstayed state judgment on appeal per se a “claim against [the debtor] that is not contingent as to liability or the subject of a bona fide dispute as to liability or amount?” Our answer to that question is “yes.”
I.
In 2007, Georges Marciano sued five of his former employees in California Superi- or Court, alleging theft. Three employees — Joseph Fahs, Steven Chapnick, and Elizabeth Tagle (the “Petitioning Creditors”)^ — cross-complained, alleging defamation and intentional infliction of emotional distress. As a sanction for a pattern of discovery abuses, the state trial court struck Marciano’s answers to the cross-claims. After a jury trial on damages, the trial court entered judgments in favor of Fahs, Chapnick, and Tagle for $55 million, $35 million, and $15.3 million, respectively.
Marciano appealed the three judgments to the California Court of Appeal but did not post a bond to stay them during appeal. See Cal.Civ.Proc.Code § 917.1(1) (“Unless an undertaking is given, the perfecting of an appeal shall not stay enforcement of the judgment or order in the trial court if the judgment or order is for ...
In addition to the Petitioning Creditors, five others had obtained judgments against Marciano totaling approximately $190 million. While the appeals of the Petitioning Creditors’ judgments were pending, various judgment creditors began collection efforts. The Petitioning Creditors then filed an involuntary petition, pursuant to § 303(b)(1) of the Bankruptcy Code, against Marciano in the United States Bankruptcy Court for the Central District of California.
Marciano moved to dismiss the petition for defective service of process. The bankruptcy court denied the motion. The bankruptcy court subsequently rejected Marciano’s efforts to conduct discovery as to whether the involuntary petition had been filed in bad faith and granted the Petitioning Creditors’ motion for summary judgment. In re Marciano,
This appeal followed. We have jurisdiction pursuant to 28 U.S.C. § 1291 and 28 U.S.C. § 158.
II.
Marciano’s first argument on appeal&emdash;that the bankruptcy court erred in denying his motion to dismiss for defective service of process-need not detain us long. Bankruptcy Rule 7004(b) permits serviee of the summons and complaint by first class mail “to the individual’s dwelling house or usual place of abode or to the place where the individual regularly conducts a business or profession.” Fed. R. Bankr.P. 7004(b)(1). The petition and summons here were served at a Beverly Hills address. At the time of service, Marciano had listed that address with the California Secretary of State as the place where he could be served with process as the agent for four of his businesses. Marciano’s designation of the Beverly Hills address for service of process was a certification that he either lived at or regularly conducted business there, see Cal. Corp. Code § 1502(b), and the bankruptcy court therefore did not err in denying the motion to dismiss.
III.
Marciano’s second argument, however, requires more extended discussion. He contends that, because the judgments obtained by the Petitioning Creditors were on appeal when the involuntary petition was filed, the bankruptcy court should have dismissed the petition as not meeting the requirements of § 303(b)(1) of the Bankruptcy Code.
Under § 303(b)(1), an involuntary bankruptcy may be commenced against a debtor by the filing of a petition
by three or more entities, each of which is either a holder of a claim against such person that is not contingent as to liability or the subject of a bona fide dispute as to liability or amount, or an indenture trustee representing such a holder, if such noncontin-*1126 gent, undisputed claims aggregate at least $14,425 more than the value of any lien on property of the debtor securing such claims held by the holders of such claims[J
11 U.S.C. § 303(b)(1) (footnote omitted). The bankruptcy court and the BAP successively held that an unstayed non-default state judgment is a claim not in bona fide dispute as to liability or amount under § 303(b)(1). In re Marciano,
Perhaps because the Bankruptcy Code does not define “bona fide dispute,” interpretation of § 303(b)(1) has divided courts. The majority view — the “Drexler ” rule — is that unstayed non-default state judgments on appeal are not subject to bona fide dispute for purposes of § 303(b)(1).
The minority approach — the “Byrd ” rule — holds that, although “it will be the unusual case in which a bona fide dispute exists in the face of claims reduced to state court judgments!,] [s]uch judgments do not guarantee the lack of a bona fide dispute.” Platinum Fin. Servs. Corp. v. Byrd (In re Byrd),
With appropriate deference to our sister circuit, we conclude that the Drexler rule is correct as a matter of both statutory interpretation and federalism.
Section 303(b)(1) requires that a petitioning creditor hold a “claim” against the debtor. Under § 101(5)(A) of the Bank
Although conceding that the Petitioning Creditors were free under California law to collect the amounts owed under the judgments at the time the involuntary petition was filed, Marciano nonetheless claims that the bankruptcy court should have evaluated the merits of the pending appeals before determining that the claims were not in bona fide dispute. His argument relies heavily on Liberty Tool & Manufacturing v. Vortex Fishing Systems, Inc. (In re Vortex Fishing Systems, Inc.), which posed the relevant inquiry under § 303(b)(1) as “whether there is an objective basis for either a factual or legal dispute as to the validity of the debt.”
The argument is not persuasive. Vortex dealt with contract claims not yet reduced to judgment. Id. at 1062-63. Under those circumstances, § 303(b)(1) compelled an inquiry by the bankruptcy court as to the validity of the alleged debt in order to prevent the debtor from being forced into involuntary bankruptcy on the basis of a naked allegation of debt by a Petitioning Creditor. Id.; see also In re Byrd,
In these circumstances, allowing the bankruptcy court to inquire further as to the validity of the Petitioning Creditor’s claims, rather than establishing an objective basis for evaluating § 303(b)(1) claims, instead “turns the court into an odds maker on appellate decision-making.” In re AMC Investors,
Congress could, of course, have modified the historic recognition of state sovereignty in § 1738 (which has its roots in the First Congress, see 1 Stat. 122 (May 26, 1790)), in adopting the Bankruptcy Code, but we discern no such intent in the current statute or its history. Section 63a of the Bankruptcy Act of 1898, the predecessor to § 303(b), required that a creditor filing an involuntary bankruptcy petition have a claim based upon a “fixed liability, as evidenced by a judgment or an instrument in writing, absolutely owing at the time of the filing of the petition against [the debtor].” In interpreting § 63a, we held almost a century ago:
Where a judgment has not been paid, or has not been superseded on appeal by a bond ... surely the judgment debtor cannot avoid the effect of levy and execution. And here the effect of the appeal ... did not itself operate to stay execution or to stay proceedings or to make the judgment any the less an obligation absolutely owing by the bankrupt. ... If the debt was then a fixed liability in the form of a judgment the right to file the claim existed.
Moore v. Douglas (In re Berlin Dye Works & Laundry Co.),
Moreover, the Drexler approach well serves a central purpose of the involuntary bankruptcy laws — to “protect the threatened depletion of assets or to prevent the unequal treatment of similarly situatfed] creditors.” In re Manhattan Indus., Inc.,
We thus hold that an unstayed non-default state judgment is not subject to bona fide dispute for purposes of § 303(b)(1). The bankruptcy court did not err in finding that the Petitioning Credi
IV.
Finally, Marciano contends that the bankruptcy court erred in entering an order precluding discovery as to the Petitioning Creditors’ alleged bad faith in filing the involuntary petition because (1) two Petitioning Creditors were the most aggressive of his creditors in their collection efforts, (2) the third Petitioning Creditor joined in the involuntary petition only after her settlement overtures were rebuffed, and (3) the Petitioning Creditors opposed Marciano’s various stay applications. We review the entry of a protective order for abuse of discretion. Foltz v. State Farm Mut. Auto. Ins. Co.,
The Bankruptcy Code does not expressly provide for dismissal of an otherwise proper involuntary petition because of the subjective “bad faith” of the filers. But even assuming the theoretical availability of such a defense, we cannot perceive the benefit of discovery on the issue here, where each of the Petitioning Creditors held a substantial judgment against Marciano. The bankruptcy court did not abuse its discretion in concluding that further discovery would have been unlikely to produce any evidence material to the pending summary judgment motions. See Fed. R.Civ.P. 26(b)(2)(C)(iii) (requiring a protective order if the “burden or expense of the proposed discovery outweighs its likely benefit”); Fed. R. Bankr.P. 7026 (providing that Fed.R.Civ.P. 26 applies in adversarial bankruptcy proceedings).
AFFIRMED.
Notes
. The jury originally returned verdicts in the amount of $74,044,000 in favor of each Petitioning Creditor. The trial court reduced the jury awards so that the damages did not exceed the amount demanded in each cross-complaint.
. Upon Marciano's motion, we granted a stay pending appeal, subject to appropriate conditions to be established by the BAP. The BAP then issued an order establishing such conditions and giving Marciano thirty days to satisfy them. Rather than comply, Marciano filed a motion to vacate or modify the conditions in this court. We denied that motion and dissolved the stay.
. When a claim, arises from a default judgment, the bankruptcy court may determine whether the court entering the judgment lacked personal jurisdiction. See In re AMC Investors, LLC,
. Shortly before oral argument, the California Court of Appeal affirmed the three judgments held by the Petitioning Creditors, but reduced each to $10 million. Gottlieb v. Fahs, No. B218087,
Dissenting Opinion
dissenting:
The initiation of an involuntary bankruptcy case can have substantial consequences for a debtor, including “loss of credit standing, inability to transfer assets and carry on business affairs, and public embarrassment.” In re Reid,
I
A
In this case, a state court awarded some $95.3 million in damages to three of Marciano’s former employees for defamation and intentional infliction of emotional distress. See Fahs v. Marciano, No. BC 375824
Marciano argues, as he did before the bankruptcy court and bankruptcy appellate panel, that at the time the involuntary petition was filed, the claims arising from these judgments were “the subject of a bona fide dispute as to liability or amount” for purposes of § 303(b). Both bankruptcy courts rejected Marciano’s argument without undertaking the case-specific inquiry required by our precedent. See Marciano I,
B
Section 303(b) of the Code specifies the circumstances in which creditors can place a debtor into involuntary bankruptcy.
In Vortex, we adopted “the objective test used by the other circuits”' for determining whether there is a “bona fide dispute” under § 303(b).
The Fourth Circuit reached the same conclusion in Byrd. In considering “whether an unstayed state court judgment that is pending appeal can constitute a ‘bona fide dispute’ for purposes of the Bankruptcy Code,”
Byrd’s reasoning is clearly applicable here. Given the circumstances of the $95 million judgments against Marciano, the bankruptcy court was at least bound to consider whether there were legitimate questions regarding Marciano’s liability and the amount of damages, as well as whether the trial court’s conclusion was contrary to the rulings of other state courts. See, e.g., id. As later events showed, Marciano’s contention that the employees’ claims were subject to a bona fide dispute as to amount was well justified: the state appellate court ultimately reduced the amount of each award to $10 million. See Gottlieb v. Fahs, No. B218087,
II
Instead of adhering to our precedent and following the Fourth Circuit’s well-reasoned lead, the majority adopts a shortcut solution that skips over the safeguard of scrutinizing claims carefully before placing a debtor in involuntary bankruptcy. None of the majority’s reasons for enunciating this new per se rule withstands scrutiny.
A
First, the majority errs in concluding that an immediately enforceable judgment is equivalent to an undisputed claim. Maj. op. at 1126-27. The majority’s reasoning seems to be that once a claim is reduced to judgment, the judgment is a “claim,” and because an unstayed state court judgment is immediately enforceable, there can be no objective basis for dispute as to the “claim’s” liability or amount. Id. Both parts of this analysis are wrong. First, the Code’s definition of “claim” does not include “judgment.” Section 101(5) of Title 11 defines “claim” to mean a “right to payment, whether or not such right is reduced to judgment.” Id. (emphasis added). As this language makes clear, a claim is a “right to payment,” not a “judgment,” and it is irrelevant whether the right to payment has been reduced to judgment. Reading § 101(5) and § 303(b) together, therefore, the bankruptcy court must de
Once this error is corrected, it is clear that the immediate enforceability of an unstayed judgment has no bearing on whether there is “an objective basis for either a factual or a legal dispute as to the validity of the debt.” Vortex,
Because an unstayed state judgment is not a “claim,” and because the immediate enforceability of a judgment is irrelevant to the § 303(b) inquiry, neither argument justifies the majority’s per se rule.
B
The majority likewise errs in ignoring the objective test we enunciated in Vortex. Although the majority claims that Vortex is distinguishable on its facts, and should be read as applying only to “contract claims not yet reduced to judgment,” Maj. op. at 1127, this purported distinction is plainly wrong. We first noted in Vortex that “[t]his Circuit has not defined a ‘bona fide dispute’ ... nor is it defined by statute.” Vortex,
Alternatively, the majority asserts that its per se rule is consistent with Vortex, because a per se rule is even more “objective” than the Vortex test. Maj. op. at 1127. This makes little sense. The Vortex test does not require courts to be “objective” in some unspecified manner, but rather to “determine whether there is an objective basis for either a factual or a
C
The majority also argues that “the Byrd approach runs counter to principles of federalism,” Maj. op. at 1128, by failing to give state court judgments “full faith and credit” in accordance with the Full Faith and Credit Act, see 28 U.S.C. § 1738.
The Full Faith and Credit Act requires federal courts to give state court judgments the same “full faith and credit” they would receive in courts of that state. See Matsushita Elec. Indus. Co. v. Epstein,
But giving effect to the language of § 303(b) does not require federal courts to reassess liability or the amount of a state court judgment. As Byrd explained in rejecting a similar argument, the question whether the parties could relitigate liability or amount is not related to the question whether the debtor’s appeals “themselves constituted genuine disputes.” Byrd,
D
The majority’s legislative history argument likewise fails. The majority asserts that legislative history shows that the Bankruptcy Reform Act “was designed to lighten the burden for creditors seeking to file an involuntary bankruptcy petition.” Thus, according to the majority, § 303(b)(1) “should not be read as sub silentio lowering the status of unstayed state court judgments.” Maj. op. at 1128.
Yet, as is so often the case, different portions of the same legislative history point in the other direction, and suggest that the “bona fide dispute” language was added to protect debtors from threats of involuntary bankruptcy by creditors holding claims of questionable validity. See 130 Cong. Rec. S.7,618 (daily ed. June 19, 1984) (statement of Sen. Baucus) (“I believe this amendment, although a simple one, is necessary to protect the rights of debtors and to prevent misuse of the bankruptcy system as a tool of coercion.”); 148 Cong. Rec. S.11,728 (daily ed. Nov. 20, 2002) (statement of Sen. Baucus) (“[A]n involuntary bankruptcy action should not be employed by litigants seeking to gain more leverage than they would have if they disputed contract performance in the proper judicial forum.”); see also Lawrence Ponoroff, Involuntary Bankruptcy and the Bona Fides of a Bona Fide Dispute, 65 Ind. L. J. 315, 335 (1990) (noting that these “remarks evince a revived concern about the potentially ruinous consequences which the initiation of an involuntary proceeding can have on a debtor’s business.”). At best, the evidence we have about Congress’s intentions and purposes with respect to the “bona fide dispute” language is limited and ambiguous. The majority thus falls into the dangerous trap of “allowing ambiguous legislative history to muddy clear statutory language.” Milner v. Dep’t of the Navy, —U.S.-,
E
Finally, the majority turns to policy, and asserts that its per se “approach well serves a central purpose of the involuntary bankruptcy laws — to ‘protect the threatened depletion of assets or to prevent the unequal treatment of similarly situated creditors.’ ” Maj. op. at 1128 (quoting In re Manhattan Indus., Inc.,
Ill
Under Vortex, the majority should have examined whether there was an objective basis for Marciano’s contention. By ignoring this case-specific inquiry in favor of a per se rule, the majority has erroneously elevated judicial efficiency above Congress’s clear commands, ignored our own
We could have avoided these problems merely by following the language of the statute as interpreted by our precedent. Because we failed to do so, I respectfully dissent.
. Subsection (b), in relevant part, states:
(b) An involuntary case against a person is commenced by the filing with the bankruptcy court of a petition under chapter 7 or 11 of this title—
(1) by three or more entities, each of • which is either a holder of a claim against such person that is not contingent as to liability or the subject of a bona fide dispute as to liability or amount, or an indenture trustee representing such a holder, if such noncontingent, undisputed claims aggregate at least $14,425 more than the value of any lien on property of the debtor securing such claims held by the holders of such claims
11 U.S.C. § 303(b)(1) (emphasis added).
. 28 U.S.C. § 1738 states, in relevant part:
The records and judicial proceedings of any court of any such State, Territory or Possession, or copies thereof, shall be proved or admitted in other courts within the United States and its Territories and Possessions by the attestation of the clerk and seal of the court annexed, if a seal exists, together with a certificate of a judge of the court that the said attestation is in proper form.
Such Acts, records and judicial proceedings or copies thereof, so authenticated, shall have the same full faith and credit in every court within the United States and its Territories and Possessions as they have by law or usage in the courts of such State, Territory or Possession from which they are taken.