Obstetric and Gynecologic Associates of Iowa City
MEMORANDUM OF DECISION
(date entered on docket: March 29, 2023)
Before
FINDINGS OF FACT
In 2019 a medical malpractice suit2 was filed in state court against the Debtor and other defendants. The Debtor had malpractice insurance coverage under a policy issued by MMIC.3 Prior to trial, offers were extended by the plaintiffs’ attorneys to resolve the pending dispute for the policy limits of $12 million in exchange for a full release for the Debtor and Defendant Dr. Jill Goodman.4 MMIC apparently refused to negotiate or make any settlement offer to the plaintiffs, which was expressly contrary to the position taken by the Debtor, its insured.5 The case was tried March 2022 and resulted in a verdict in favor of plaintiffs and a judgment against the Debtor and other defendants of approximately $97 million.6 Post-trial motions eventually reduced the damage award to $75,642,549 against the Debtor, the only remaining defendant.7 Debtor appealed the verdict and requested that a stay be imposed pending appeal without posting the required bond or allowing a bond in a reduced amount. On October 4, 2022 the Iowa Supreme Court denied these requests.8
A series of emails submitted to the Court detail the parties’ pre-bankruptcy postures and the ongoing efforts to resоlve the dispute and judgment.9 Allegedly, MMIC again refused to make an offer of settlement or to engage in settlement negotiations. Eventually, Debtor‘s counsel was informed that collection efforts, including execution against the Debtor‘s assets, would be pursued unless its settlement demands were met.10 These included: payment of the policy limits; dismissal of the state court appeal; assignment of all potential causes of action; and Debtor‘s cooperation in any suits related to legal
When settlement did not occur, the Conservator issued a general execution on October 10, 2022 to levy against the Debtor‘s assets, and also identifying MMIC as surety for the Debtor.12 The sheriff arrived at the Clinic on October 19, 2022.13 On October 31, 2022 the Debtor filed a voluntary chapter 11 bankruptcy petition believing this was its only option to protect its assets, remain in business and serve its patients. The Debtor‘s Chapter 11 petition was executed by Dr. Jill C. Goodman, one of its principals.14 The required schedules were filed later and were signed by Jeffrey T. Varsalone, one of the Debtor‘s bankruptcy professionals.15
Within days of its petition the Debtor filed a Motion for Relief from Stay to allow the pending appeal to continue before the Iowa Supreme Court and a Joint Motion with MMIC16 to escrow the $12 million policy proceeds. The Conservator objected to both. The Court granted the stay relief.17 The request to escrow funds was withdrawn before decision.18 Meanwhile, in state court, the Conservator filed an order to show cause against MMIC for payout of the policy proceeds. In response, the Debtor filed an emergency motion for sanctions, seeking both compensatory and punitive damages, against the Conservator for violation of the automatic stay.19
The Debtor‘s Motion was denied and MMIC was found to be without standing, both decisions have been appealed.20
On January 20, 2023 the Conservator filed the pending Motion alleging bad faith as cause for the Debtor‘s chapter 11 case to be dismissed or converted asserting the following grounds:
- Debtor does not believe the bankruptcy filing is beneficial to the creditor body, had non-bankruptcy options and does not understand the costs and burdens associated with its chapter 11 case;
- The bankruptcy filing is a litigаtion tactic to avoid payment of the bond;
- Debtor is financially healthy;
- There is no potential for reorganization;
- The case involves a two-party dispute;
- There is an appearance of impropriety between MMIC and the Debtor.
Later, the Conservator filed a “support document” that expanded upon the facts underlying its original Motion to Dismiss.21
At the hearing, the Conservator called Eric Brewer as a witness to testify on the financial condition of the clinic. The Debtor objected raising a Daubert24 issue to Brewer‘s qualification as an expert and the information he relied upon in reaching his conclusions. The Court sustained the objection to allow the Debtor time to submit a formal Daubert objection and argument.25 At the conclusion of the hearing the Motion to Dismiss was placed under advisement.
The financial condition and solvenсy issues were scheduled for hearing on April 5, 2023.
LEGAL STANDARDS
Bankruptcy Code §1112(b)(1) provides that: “[O]n request of a party in interest, and after notice and a hearing, the court shall convert a case under this chapter to a case under chapter 7 or dismiss a case under this chapter, whichever is in the best interests of creditors and the estate, for cause....” Multiple examples of “cause” are identified within the statute.26 There is an implied element of good faith in the filing of any bankruptcy petition. Many courts, including the Eighth Circuit, have recognized that bad faith is “cause” for dismissal or conversion under the statute.27 “Once lack of good faith is raised as an issue of cause for dismissal, the debtor bears the burden of proving that the filing was made in good faith.”28
“The use of the term ‘bad faith’ in many cases is unfortunate. It carries with it a connotation that someone had a sinister purpose and has subjectively attempted to abuse the bankruptcy process ....”29 A finding of malevolent intent or other similar subjective conduct are not required to establish a lack of good faith. Rather, the determination rests on whether a debtor‘s filing is an effort to “unreasonably
“There is no single test for determining when a debtor has filed in bad faith. Rather, courts consider the totality of the circumstances, including . . . “the court‘s evaluation of the debtor‘s financial condition, motives, and the local financial realities.”32 Various factors have developed to guide this analysis.33 Such lists are helpful, but are not exhaustive. There are a multitude оf inquiries that may be related to a thorough examination under the identified standard because, by its very nature, the totality of the circumstances occurs on a case-by-case basis.34
DISCUSSION
The bases for the Motion to Dismiss alleged by the Conservator and the Debtor‘s objections under the applicable standards can be summarized, and in some instances combined, into a few categories.
1. Purpose of Filing
An important inquiry in a good faith analysis is whether the petition was filed with a valid bankruptcy purpose.35 The Supreme Court has identified two of the basic purposes of Chapter 11 as: (1) “preserving going concerns;” and (2) “maximizing property available to satisfy creditors.”36 To demonstrate a proper purpose, both elements must be established. Although the Debtor mechanically recites these grounds the record reflects alternative motivations that lie outside these acceptable purposes.
Statements made by, or on behalf of, the Debtor establish that it disagrees with the jury‘s verdict. In explaining the pending appeal, the record specifically includes the following statements: “We want the State Court to proceed because wе do
Based upon the Debtor post-petition conduct an additional motivation is protecting MMIC from the Conservator‘s collection efforts while the appeal is pending. The policy proceeds are one of the single most important sources for payment of the judgment. As previously stated, the Conservator filed an order to show cause against MMIC in the state court action seeking payment of the policy proceeds.40 In response, the Debtor filed an emergency Motion for Sanctions against Conservator for violation of the automatic stay seeking both compensatory and punitive damages.
At the hearing41 the Debtor withdrew its request for damages and proceeded to arguе that: 1) the policy proceeds were property of the estate; 2) the automatic stay prevented any action to collect against the policy or MMIC; and 3) the judgment was not technically final for purposes of payment under the policy.42 With no damage request before the court, the Debtor‘s pending Motion essentially transformed into either a request for declaratory relief or a request to extend the automatic stay for the benefit of MMIC. After limited evidence and legal argument it was obvious that the Debtor‘s primary motivation was to obtain thе benefit of a stay to protect MMIC and the policy proceeds in the pending state court action. Most telling is the following exchange:
COURT: . . . it seems to me . . . what you‘re essentially asking me to do is extend the automatic stay to any ability of the conservator to collect on its judgment for the time period of the appeal. Isn‘t that what you‘re asking me to do?
COUNSEL: Your Honor, I think that is the practical effect of what‘s being requested today.43
In its bench ruling the Court held: 1) the payable insurance policy proceeds were not “property of the estate” entitled tо protection under the automatic stay; 2) Conservator did not violate the automatic stay because the state court action was filed solely against MMIC, a non-debtor; and 3) the judgment was final and enforceable.44
This misguided effort to expand the protections of the automatic stay beyond what is generally permissible under the bankruptcy code is an indication that the Debtor‘s
Of additional concern is the relationship between the Debtor and MMIC in the context of settlement and what has transрired in the bankruptcy filings. After careful consideration, the Court has determined that under the totality of the circumstances standard these facts are relevant to a determination of whether this case meets the element of good faith, not only in filing the petition, but in its planning and how the case is being administered. The record reflects that: 1) MMIC paid pre-petition fees to Debtor‘s bankruptcy professionals,45 and it has offered to finance those fees post-petition; 2) MMIC has offered the Debtor favorable terms on its current insurance coverage when no onе else would;46 and 3) MMIC has offered to extend credit to the Debtor in exchange for a security interest in its personal property and perhaps the single most valuable asset -- the potential bad faith claim against MMIC.47 Dr. Goodman‘s testimony highlights the conflict related to the Conservator‘s demand for settlement and its implications for MMIC:
. . . take the bad faith claim, make everything go away but then as soon as we got close to like, okay, maybe we do that, the hard part is is like, MMIC‘s representing us so they‘re paying all these things and now we‘re like, oh, yeah, you guys can take this bad faith claim and go against the company that‘s been representing us and paying for my defense . . .48
A question arises about whether the bankruptcy was motivated by a proper purpose or to obtain financial advantages from MMIC in exchange for filing bankruptcy to attempt to protect it from making payment under the policy.49
The Debtor supplies little evidence to establish its good faith. No detail is provided to demonstrate that maintaining the business as a “going concern” benefits anyone but the principals of the Debtor. The message has clearly been conveyed that the Debtor wishes to continue its business, as usual, and serve its patients and the community. Payment to creditors is an afterthought to those primary goals, at least until the appeal is decided. The record contains no evidence to establish a bankruptcy filing to reorganize or liquidate as a going concern, will in any way (large or small) maximize the estate for the benefit of creditors.
The record supports a finding that the Debtor‘s filing was not undertaken in good faith. Instead, the purpose integral to its decision to seek the protections afforded in bankruptcy was to serve the self-interests of the Debtor аnd the interests of MMIC.
2. 11 U.S.C. §1112(b)(4)(A)
For purposes of this subsection, the term “cause” includes “substantial or continuing loss to or diminution of the estate
The Debtor repeatedly informs the Court that it has and continues to explore whether it should propose reorganization or liquidation.51 The lack of progress in making this choice is puzzling. These same two options have been available since the judgment was entered and should have been under discussion since before the petition date. Notwithstanding the passage of time and the involvement of multiple professionals, a decision has not been reached on how to advance this “relatively simple” case.52 The Debtor has asked to further delay a decision by requesting an extension of the exclusivity period.53 Throughout the life of the case, there has been no justification, for why reaching a decision is so difficult and elusive on the primary purpose of a chapter 11 bankruptcy case: the plan.
The Debtor‘s objectiоn infers that it is inappropriate to predict the outcome of a plan that has yet to be filed. Not only does this argument render application of § 1112(b)(4)(A) superfluous, but it also is unsupported by any legal analysis.54 Based upon the bankruptcy code and the Debtor‘s schedules it is not difficult to surmise that confirmation of a plan of reorganization, or a liquidating plan, under the requirements of §1129 is unlikely. Under the circumstances of this case, the size of the Conservator‘s claim renders the possibility of reorganization unreasonable, if not entirely, impossible. One court has addressеd the eventual outcome when one large creditor holds the majority of the total debt owed.
Given the economic dominance of Albertsons’ claim, there appears to be no opportunity for Paolini to craft a plan of reorganization with an accepting impaired class, which precludes any possibility of this Court confirming a plan of organization for Paolini over the objection of Albertsons. As such, Paolini‘s efforts to reorganize under Chapter 11 of the Bankruptcy Code given his present composition of creditors is doomed to failurе. With the certainty of this fate, it is pointless to attempt confirmation of the existing Plan and this Court can now conclude that the reorganization attempts of Paolini are futile.55
The above example, in the context of this case, serves to predict that any plan proposed by the Debtor would not meet its goal of being of benefit to all of its creditors. The most basic understanding of any plan that could be drafted results in the Conservator being entitled to nearly all proceeds. Dr. Goodman testified that the Debtor‘s physical assets are worth
The payment scenario worsens for the creditors when the loan from MMIC to the Debtor is considered. MMIC provided $75,000 to the bankruptcy estate that is secured by its personal property and must be repaid before any distribution to secured creditors from the liquidated assets.57
Preserving any vаlue of the Debtor through liquidation as a going concern is also problematic in the implementation. To say that liquidation under Chapter 11 maximizes the value of an entity is to say that there is some value that otherwise would be lost outside of bankruptcy. “Two empirically based economic assumptions underlie the attempt to preserve the value of a failing company: (1) orderly liquidation is likely to produce more value--or to avoid more loss--than piecemeal liquidation; and (2) going-concern value is likely to be higher than liquidation value.”58
Under the current scenario, the Debtor has offered no credible evidence that its plan to sell the business as a going concern will maximize the value of the estate. No detail has been supplied as to how the Debtor intends to meet the goal of maximizing the value of its estate. Even if the Debtor could provide convincing scenarios that it could obtain confirmation of a plan, or liquidation would somehow increase the amount of proceeds available to creditors, the continuing delay and administrative expenses involved in achieving this outcome would likely result in less рroceeds to distribute to creditors, not more.
3. Two Party Dispute
“Petitions in bankruptcy arising out of a two-party dispute do not per se constitute a bad-faith filing by the debtors.”59 However, such a circumstance is a relevant factor under the totality of the circumstances.60 “[W]here a debtor‘s reorganization effort involves essentially a two-party dispute which can be resolved in state court, and the filing for relief under Chapter 11 is intended to frustrate or delay the legitimate efforts of creditors to enforce their rights against the debtor, dismissal for cause is warranted.”61 Both the Debtor and MMIC contend that even if there is a two-party dispute it is between MMIC and the Conservator.62 As noted above, actions undertaken by the Debtor have attempted to frustrate or delay the Conservator‘s attempts to collect the judgment against its assets and from the insurance proceeds under the policy issued by MMIC. MMIC‘s involvement in this contested matter and the parties’ identical argument on this issue are curious. The
If a debtor “faces no threat from any of its other purported creditors, [its] financial problems are a two-party dispute suitable for resolution” which supports a finding of bad faith.63 Of importance, other than the judgment, the schedules do not include the requested detail about when specific obligations were incurred with the listed creditors which prevents any analysis as to the age of the listed debts. Dr. Goodman‘s testimony was that on the petition date no threat of collection enforcemеnt had been undertaken by its other creditors.64 Accordingly, it is more than possible that the debts owed were either within normal payment terms or slightly overdue. There is no indication that long term defaults existed on vendor payments.
Courts have also relied upon “[t]he lack of a meaningful number of unsecured creditors in relation to the indebtedness owed to one major creditor [as] a factor in deciding whether the Chapter 11 case was filed in bad faith.”65 In this case, the Debtor‘s schedules reflect that, other than the Conservator, it owes relatively modest obligations to a small number of creditors. Both Schedule D66 and Dr. Goodman‘s Affidavit67 confirm that the Debtor owed no secured debt on the petition date. Schedule E/F indicates tax claims in the amount of $20,321.87 and unsecured creditor obligations (excluding Conservator‘s judgment) totaling $190,429. A simple calculation utilizing the obligation amounts reported by the Debtor reflect that 99.9% of its scheduled debt is owed to the Conservator.
Under the totality of the circumstances this factor weighs in favor of a determination that the Debtor‘s bankruptcy filing lacked good faith.
4. Other Factors
Having reviewed these factors in the context of the record the Court concludеs neither of the following allegations raised by Conservator weigh in favor of Debtor‘s bad faith.
a. Appeal Bond
Courts are divided in whether filing bankruptcy instead of obtaining a supersedeas bond amounts to a lack of good faith. Cases that resulted in dismissal include: In re Karum Group Inc., 66 B.R. 436 (Bankr. W. D. Wash.1986); In re Wally Findlay Galleries, Inc., 36 B.R. 849, 851 (Bankr. S.D.N.Y. 1984); In re Smith, 58 B.R. 448 (Bankr. W.D. Ky. 1986). “The cases granting dismissal on bad faith grounds, with the exception of Karum, dealt with smaller judgments where the debtor had the ability to satisfy the judgment without losing the ability to stay in business.”68 Other courts have concluded that dismissal was not warranted where larger judgments which would result in a debtor‘s inability to operate would be at risk.69
Standing alone, the failure to post a bond in the state court action does not rise to the level of bad faith under the circumstances of this case.
b. Financial Condition and Insolvency
The Conservator asserts that the Debtor‘s business was financial healthy because it was conducting business operations and rеgularly paying its bills at the time it filed its petition in bankruptcy, which constitutes bad faith.
The Court has reviewed the record before it and concludes that evidence as to the financial condition or solvency of the Debtor is not necessary to reach a conclusion under the totality of the circumstances. The amount of the judgment and Dr. Goodman‘s testimony serves to establish that the Debtor did not have the ability to pay its outstanding obligations on the date of filing.
Having considered the record, further hearing or evidence on the issues of financial condition or insolvency is unnecessary because it would not result in a different outcome on the Motion to Dismiss.
CONCLUSION
The burden to show cause for dismissal of a Chapter 11 bankruptcy rests on the movant by a preponderance of the evidence.71 Once a movant has made a prima facie showing of bad faith, the burden shifts to the debtor to establish that the bankruptcy was filed in good faith.72
Having reviewed all the evidence and the record the Court concludes that the Conservator has established a prima facie case for dismissal.73 Due to a lack of evidence and legal authority to support its arguments, the Debtor has failed to meet its burden to establish that its bankruptcy was filed in good fаith, that the value of its estate is not diminishing and that it can obtain confirmation of a plan. Accordingly, cause exists to dismiss or convert the Debtor‘s bankruptcy case and the Court is mandated to select one of these options.74
Converting the case would accrue additional administrative and professional fees beyond those incurred in during the chapter 11 proceeding. The Debtor‘s personal property is subject to a security interest held by MMIC and the insurance policy proceeds cannot be used to pay creditors other than the Conservator. The value or ability to pursue any contingent claims in a chapter 7 case are not a predictable source of funds to pay unsecured creditors. Allowing a chapter 7 case to proceed in an effort to pay obligations owing to a small number of unsecured creditors which hold insubstantial claims in
IT HEREBY ORDERED:
- The Motion to Dismiss is granted;
- The Objection to the Motion to Dismiss is overruled;
- The case is dismissed, and;
- The hearing scheduled for April 5, 2023 is canceled.
/s/ Anita L. Shodeen
Anita L. Shodeen
U.S. Bankruptcy Judge
Parties receiving this Memorandum of Decision from the Clerk of Court: Everyone in this Chapter Case
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