UNITED STATES BANKRUPTCY COURT
EASTERN DISTRICT OF KENTUCKY
RUSSELL CAVE COMPANY, INC. f/k/a
The J. Peterman Company
DEBTOR CASE NO. 99-50142
THE OFFICIAL COMMITTEE OF
UNSECURED CREDITORS PLAINTIFF
VS. ADV. NO. 01-5036
DONALD M. STALEY and
STALEY, FOX, INC. DEFENDANTS
This matter is before the court on the defendants= motion for summary judgment and the plaintiff=s response. The defendants maintain that they are entitled to judgment on the plaintiff=s fraud, breach of contract, and unjust enrichment claims as well as its preference claim. This court has jurisdiction of this matter pursuant to 28 U.S.C. ' 1334(b); it is a core proceeding pursuant to 28 U.S.C. ' 157(b)(2)(F).
The parties herein have previously been before this court on the plaintiff=s objection to defendant Donald M. Staley=s (AStaley@) claim in the bankruptcy case. In the course of that matter the parties entered into extensive joint stipulations of fact. They have referred to these joint stipulations in the matter now before the court, and they are hereby incorporated by reference.
Staley, an advertising copywriter, had been associated with the debtor, a clothing and fine goods retailer, since helping to found it (as The J. Peterman Company) in 1987. Staley and his firm Staley, Fox, Inc. (AStaley, Fox@) produced the debtor=s signature catalogs from his apartment in New York City. Up until July 23, 1997, Staley was a member of the debtor=s Board of Directors. Further, there was no formal, written agreement between Staley or Staley, Fox and the debtor concerning the advertising services provided prior to that time. In June 1997, two venture capital firms agreed to invest in the debtor, and in connection therewith required that Staley enter into a written consulting agreement (Athe Consulting Agreement@).
Under the Consulting Agreement, Staley agreed to provide advertising services to the debtor for three years and agreed to a non-compete clause which prohibited him from providing services to a catalog retail competitor of the debtor for a year after the termination of the Consulting Agreement. The investors further required that Staley resign from the Board of Directors. In connection therewith, he submitted a letter on July 23, 1997, resigning from the Board effective that day. The date of execution of the Consulting Agreement appears to be July 25, 1997.
Staley never had federal, state or local taxes, health insurance costs or pension contributions deducted from his consulting fees. He was responsible for paying taxes on all amounts he received from the debtor. He could not participate in any of the benefits programs available to principals of the debtor John Peterman, Arnold Cohen and John Rice. Further, these principals received salaries without the submission of invoices. Staley never had an office at the debtor=s headquarters in Lexington, Kentucky, although he attended meetings there. Until December 1998, the debtor paid $524.20 per month in life insurance premiums for Staley. The debtor did not own the life insurance policy.
The plaintiff alleges in Count I of its complaint that the defendants made false, material representations in certain invoices submitted to the debtor every month from July 19, 1996 through January 18, 1999 for payment of services and expenses. Specifically, the plaintiff alleges that each invoice lists $900.00 in expense items for which there is no documentary support. In Count II, the plaintiff alleges that the submission of these invoices without supporting documentation was a breach of the Consulting Agreement, and in Count III that the defendants received a benefit from these payments to which they were not entitled and so were unjustly enriched. All three counts allege that the defendants overcharged the debtor in the total amount of $26,100.00.
The plaintiff=s preference claim is contained in Count IV which alleges that the defendants were insiders of the debtor during the one-year period immediately preceding the filing of the debtor=s petition on January 25, 1999, and that during that period the defendants received certain transfers of property of the debtor totaling $1,290,139.51. Count IV further alleges that these transfers are avoidable pursuant to 11 U.S.C. ' 547(b). Finally, Count IV alleges that defendant Staley, Fox is the Ainitial transferee@ of these transfers from the debtor as that term is used in 11 U.S.C. ' 550(a), and that defendant Staley is an Aimmediate or mediate transferee@ as that term is used in ' 550(a), who took in bad faith or with knowledge of the voidability of the transfers.
The defendants= answer denies the allegations of the complaint and asserts the affirmative defenses of ordinary course of business and new value pursuant to 11 U.S.C. ' 547(c)(2) and (4) respectively. The defendants also assert a counterclaim for the allowance of an unsecured claim against the debtor in the event judgment is entered for the plaintiff. The defendants now seek summary judgment on all the claims asserted against them by the plaintiff.
Pursuant to FRCP 56(c), summary judgment is appropriate Aif the pleadings, depositions, answers to interrogatories, and admissions on file, together with the affidavits, if any, show that there is no genuine issue as to any material fact and the moving party is entitled to judgment as a matter of law.@ The standard for summary judgment has been articulated many times. In Anderson v. Liberty Lobby, Inc., 477 U.S. 242, at 247, 106 S.Ct. 2505, at 2509 (1986), the Supreme Court stated that A... at the summary judgment stage the judge=s function is not himself to weigh the evidence and determine the truth of the matter but to determine whether there is a genuine issue for trial. .... [T]here is no issue for trial unless there is sufficient evidence favoring the nonmoving party for a jury to return a verdict for that party.@ (Citations omitted.) A material fact is one which will affect the outcome of the suit under governing law. Id.
When considering a motion for summary judgment, the court must view the evidence, all facts, and any inferences that may be permissibly drawn from the facts in a light most favorable to the nonmoving party. See Matsushita Elec. Indus. Co., Ltd. v. Zenith Radio Corp., 475 U.S. 574, 106 S.Ct. 1348 (1986). However, Awhen ruling on a defendant=s motion for summary judgment ..., [a] mere scintilla of evidence in support of the plaintiff=s position will not be sufficient; there must evidence on which the jury could reasonably find for the plaintiff.@ Anderson v. Liberty Lobby, Inc., 477 U.S. 242, at hn. 11.
In regard to the plaintiff=s claims of fraud, breach of contract and unjust enrichment in the total amount of $26,100.00, the defendants rely solely on the affidavits of John Peterman and Dian Staley to the effect that the $900.00 monthly payments were authorized by John Peterman on behalf of the debtor in 1996, and knowingly paid by the debtor thereafter. The defendants do not address the question of John Peterman=s authority to unilaterally commit the debtor to such payments. The defendants further reference the Consulting Agreement which states at &6.3 that Staley was Aentitled to receive ... reimbursement for all reasonable consulting-related expenses incurred by [Staley] upon the Company=s receipt of accountings in accordance with practices, policies and procedures applicable to independent contractors of the Company.@ The defendants then point to the fact that the parties have already stipulated that the defendants were never required to, and did not, provide supporting documentation for their expense invoices.
The plaintiff responds that the affidavits offered by the defendants are inadmissible as parol evidence which seeks to vary the terms of a written contract, i.e. the Consulting Agreement. While a written contract may be varied by a subsequent oral agreement, a prior or contemporaneous oral agreement Aon the same subject matter, varying, modifying, contradicting or enlarging the written agreement is incompetent, in the absence of an allegation of fraud or mistake.@ M.R. Kopmeyer Co. v. Barnes, 276 S.W.2d 21, at 23-24, Ky.App. (1956); see also Smith v. Cloyd, 85 S.W.2d 873, Ky.App. (1935) and Marks v. Grace, 266 S.W. 30, Ky.App. (1924). Since the affidavits of John Peterman and Dian Staley purport to give evidence of an oral agreement entered into prior to the execution of the Consulting Agreement, they are inadmissible as parol evidence.
The defendants reply that parol evidence may be employed where the written contract is silent on a subject or where it does not embody the entire agreement between the parties. While the Consulting Agreement is silent on the subject of whether Staley might be paid an additional $900.00 per month which he would then apply toward his medical insurance expense, it does state at &6.2 that Staley was not entitled to participate in any of the Awelfare benefits@ offered by the debtor. As set out in John Peterman=s employment contract, Awelfare benefits@ include the payment of health insurance premiums. As to the argument that the Consulting Agreement does not embody the entire agreement between the parties, &9.2 states: AThis Agreement forms the entire agreement between the parties hereto with respect to any severance payment and with respect to the subject matter contained within the Agreement.@ (Emphasis added.)
In looking at the evidence before the court in the light most favorable to the non-moving party, it appears that the defendants have not carried forward their burden of demonstrating that there is no genuine issue as to any material fact in regard to the plaintiff=s claims of fraud, breach of contract and unjust enrichment, and that they are not entitled to judgment as a matter of law on these issues. Their motion for summary judgment on these issues should therefore be overruled.
The defendants next contend that they are entitled to judgment as a matter of law on the plaintiff=s preference claim in regard to the $1,290,139.51 paid to the defendants between January 29, 1998 and December 28, 1998. The defendants first argue that the preference period should be 90 days, rather than the one-year period applied to insiders pursuant to 11 U.S.C. ' 547(b)(4)(B). They maintain that Staley was not an insider after July 23, 1997 (the date he resigned from the debtor=s Board of Directors), and that Staley, Fox was never an insider. The plaintiff=s only response is that this court has previously concluded that Staley was an insider of the debtor as that term is used in 11 U.S.C. ' 101(31). In re Russell Cave Co., Inc., 253 B.R. 815, 821 (Bankr.E.D.Ky. 2000).
The court=s determination of insider status in the prior proceeding was made in the context of the objection of the plaintiff herein to Staley=s claim (evidenced by his proof of claim) in the amount of $1,240,595.87. One of the criteria applied by the court in making that determination was Staley=s membership on the Board of Directors until July 23, 1997. The defendants apparently seize on this as the defining criterion, arguing that Staley could not have been an insider after July 23, 1997, because he had been removed from the Board. The court=s determination was based more, however, on Staley=s unique position in, and influence upon, the debtor:
Staley was a founder of the J. Peterman Company. He considered himself the voice and conscience of the company. He produced the signature catalogs that were the foundation of the business, and had unfettered control over every aspect of their production. He sat on the Board of Directors until 1997, when the investors required that he be removed. At the same time they required that he enter into a written Consulting Agreement, to guarantee that his crucial services remained devoted to the debtor. It is clear that he was an insider[.]
In re Russell Cave Co., Inc., 253 B.R. at 821. This court believes that its determination in the prior proceeding is applicable here, and that Staley=s removal from the Board of Directors does not define his status as an insider. As concerns the status of Staley, Fox, Staley himself has previously stated that neither he nor the debtor ever differentiated between himself and his agency. This court therefore concludes that, for purposes of this motion for summary judgment, the court must assume that the defendants were insiders after, as well as before, Staley left the board of directors.
The defendants= motion for summary judgment on the preference issue is based on the affirmative defenses of ordinary course of business and new value. They do not dispute the preferential nature of the transfers, despite the fact that the plaintiff does not establish that it has met the criteria of 11 U.S.C. '547(b) in its response. This section provides that
the trustee may avoid any transfer of an interest of the debtor in property -
(1) to or for the benefit of a creditor;
(2) for or on account of an antecedent debt owed by the debtor before such transfer was made;
(3) made while the debtor was insolvent;
(4) made -
(A) on or within 90 days before the date of the filing of the petition; or
(B) between 90 days and one year before the date of the filing of the petition, if such creditor at the time of such transfer was an insider; and
(5) that enables such creditor to receive more than such creditor would receive if -
(A) the case were a case under Chapter 7 of this title;
(B) the transfer had not been made; and
(C) such creditor received payment of such debt to the extent provided by the provisions of this title.
The plaintiff maintains that each of these elements was demonstrated by the affidavit of Elizabeth Woodward, a CPA who was appointed the Certified Representative of the debtor in April 2000. However, the affidavit of Ms. Woodward filed in this proceeding does not address this issue.
Assuming that the defendants must provide a defense to ' 547(b), however, in order to determine if the ordinary course of business defense applies, the court must engage in a Apeculiarly factual analysis.@ Waldschmidt v. Ranier (In re Fulghum Construction Corp.), 872 F.2d 739, 743 (6th Cir. 1989). Section 547(c)(2) provides:
(c) The trustee may not avoid under this section a transfer B
(2)to the extent that such transfer was -
(A) in payment of a debt incurred by the debtor in the ordinary course of business or financial affairs of the debtor and the transferee;
(B) made in the ordinary course of business of the debtor and the transferee; and
(C) made according to ordinary business terms;
In order to prevail, the defendant must prove each element by a preponderance of the evidence.
The application of 11 U.S.C. '547(c) has been the subject of much debate, and has generated several significant cases from the Sixth Circuit. The requirements for demonstrating the exception were set out in Logan v. Basic Distribution Corp. (In re Fred Hawes Organization, Inc.), 957 F.2d 239 (6th Cir. 1992). A transferee may not use the same standard to prove all the elements of '547(c)(2). Subsection (A) is demonstrated relatively easily by a showing that each party was engaged in its usual business when the debt was incurred and the transfer took place. Subsection (B) has been determined to be the Asubjective@ prong, while subsection (C) is the Aobjective@ prong.
The subjective prong requires proof that the transaction between the debtor and the transferee was ordinary as to them; the objective prong requires proof that the transaction was ordinary in relation to standards prevailing in the relevant industry. See also Jones v. United Sav. and Loan Ass=n (In re U.S.A. Inns of Eureka Springs, Arkansas, Inc.), 9 F.3d 680, 682 (8th Cir. 1993)(transferee must prove the three statutory elements by a preponderance of the evidence); WJM, Inc. v. Massachusetts Dept. of Pub. Welfare, 840 F.2d 996, 1010-11 (1st Cir. 1988) (each of the three elements must be satisfied by the creditor); J.P. Fyfe, Inc. v. Bradco Supply Corp., 891 F.2d 66, 69 (3rd Cir. 1989) (creditor must prove all three Astatutory conjunctive elements@); Hovis v. Stambaugh Aviation, Inc. (In re Air South Airlines, Inc.), 247 B.R. 165 (Bankr.D.S.C. 2000) (Subsections (B) and (C) provide subjective and objective tests which require separate analyses).
The Fred Hawes court elaborated on the elements required to establish subsection (B), noting that such a determination required a fact specific analysis as set out in Fulghum, supra. The court further noted that in making such an analysis, courts examine several factors, Aincluding timing, the amount and manner a transaction was paid and the circumstances under which the transaction was made.@ (quoting from Yurika Foods Corp. v. UPS (In re Yurika Foods Corp.), 888 F.2d. 42, at 45 (6th Cir. 1989)). See also Brown v. Shell Canada, Ltd. (In re Tennessee Chem. Co.), 112 F.3d 234, 237 (6th Cir. 1997). As concerns late payments the court stated that a Alate payment will be considered >ordinary= only upon a showing that late payments were the normal course of business between the parties.@ At 244, citing Yurika Foods and Fulghum.
At issue are 26 payments made to the defendants by the debtor after January 29, 1998, for fees owed to the defendants and/or expenses incurred by them, all in regard to the production of the debtor=s catalogs. As such, there is no doubt that the requirements of subsection (A) have been satisfied. As concerns subsection (B), the Asubjective prong,@ the defendants must show that the course of dealing was ordinary as between them and this debtor. The defendants maintain that the evidence before the court concerning invoices submitted and checks issued to pay them is sufficient to demonstrate that subsection (B) has been satisfied. The chart at defendants= Exhibit 6 which sets out these transactions summarizes transfers in 1997 and 1998, and shows that multiple invoices were paid with single checks.
The plaintiff contends that an average difference in payment time from the pre-preference period to the preference period of less than four days constitutes a Asubstantial departure from the prior course of dealing@ between the debtor and the defendants. This average does not, in and of itself, demonstrate a Asubstantial departure.@ However, inspection of the individual chart entries shows that the longest payment interval during the pre-preference period was eighteen days (invoice no. 3607 dated December 26, 1997, was paid January 13, 1998). During the preference period, however, there are several instances of payment intervals longer than eighteen days including two of more than 30 days (invoice no. 3661 dated November 12, 1998, and no. 3662 dated November 16, 1998, were both paid December 18, 1998).
There is, therefore, a genuine issue of material fact concerning what the ordinary course of dealing was between this debtor and these defendants under ' 547(c)(2)(B). Since they must demonstrate that they have satisfied each element of ' 547(c)(2) by a preponderance of the evidence in order to prevail, this defense will not support their motion for summary judgment even if they could satisfy ' 547(c)(2)(C). Their motion for summary judgment on this issue should be overruled.
Finally, the defendants contend that they are entitled to judgment on their new value defense. The new value exception of 11 U.S.C. ' 547(c)(4) provides that a transfer may not be avoided if that transfer was:
(4) to or for the benefit of a creditor, to the extent that, after such transfer, such creditor gave new value to or for the benefit of the debtorB
(A) not secured by an otherwise unavoidable security interest; and
(B) on account of which new value the debtor did not make an otherwise unavoidable transfer to or for the benefit of such creditor[.]
ANew value@ is Amoney or money=s worth in goods, services, or new credit ....@ 11 U.S.C. ' 547(a)(2). Specifically, the defendants contend that they furnished a total of $152,605.42 in advertising services which constituted new value to the debtor. Apparently, the defendants do not seek to apply this defense to the entire amount sought as a preference by the plaintiff, because they maintain that all payments actually made are subject to the ordinary course of business defense. The plaintiff=s response, however, addresses the new value defense as a defense to the entire preference amount.
In order to be eligible for the new value defense, transfers of new value must be shown to be prior to the filing of the debtor=s petition, but subsequent to the debtor=s preferential payments. In that sense, ' 547(c)(4) is a subsequent advance rule. In re Fulghum Const. Corp., 872 F.2d at 742. The transfer must not deplete the estate to the disadvantage of other creditors. Fitzpatrick v. Rockwood Water, Wastewater and Natural Gas Sys. (In re Tennessee Valley Steel Corp.), 201 B.R. 927, 939 (Bankr.E.D.Tenn. 1996). Further, the giving of new value alone is not sufficient to establish the defense; the creditor must show that subsections (A) and (B) have been satisfied as well. Id. New value may be netted against all preceding transfers and not just the immediately preceding transfer. Id., at 940.
The defendants= new value analysis is contained in a chart found in their Exhibit 13. They show invoices dating from December 1, 1998 through February 15, 1999. As stated above, new value must be provided prior to the filing of the debtor=s petition. Therefore, any invoices which demonstrate billing for services provided after the petition date, January 25, 1999, may not even be considered. Even invoices dated before the petition date show billing for fees owed or services to be provided (full or partial) after the petition date. Some invoices do not state when services were, or were to be, provided.
According to the cases set out above, the point in establishing a new value defense is to demonstrate that preferential payments were made and that new value was then provided which offset those payments, all prior to the filing of the petition. The court is of the opinion that the defendants have failed to demonstrate that they are entitled to claim $152,605.42 in new value by the evidence they have presented here. It is, in fact, unclear to the court what amount, if any, may be claimed. The defendants have therefore failed to carry their burden of demonstrating that there is no genuine issue as to any material fact on the issue of whether and to what extent the new value defense applies, and their motion for summary judgment in that regard should be overruled.
In consideration of all of the foregoing it is the opinion of this court that the defendants= motion for summary judgment should be overruled in all respects. An order in conformity with this opinion will be entered separately.
By the Court -
Judge William S. Howard
Paige L. Bendel
Randy D. Shaw