IN RE:
UNITED STATES
BANKRUPTCY COURT
EASTERN DISTRICT
OF KENTUCKY
PIKEVILLE
IN RE:
CANADA COAL COMPANY, INC. CASE NO.
92-70129
DEBTOR
CANADA COAL COMPANY, INC. PLAINTIFF
VS. ADVERSARY
NO. 94-7025
MCCOY ELKHORN COAL CORPORATION DEFENDANT
MEMORANDUM OPINION
The complaint of Canada Coal Company, Inc.
(hereinafter ACanada Coal@), seeks to
recover from the defendant, McCoy Elkhorn Coal Corporation (hereinafter AMcCoy Elkhorn@), royalties in
the amount of $42,346.41 claimed to be due for coal extracted from premises
subleased to McCoy Elkhorn by Canada Coal.
The defendant McCoy Elkhorn is a Kentucky
corporation with its principal place of business in Richmond, Virginia, which
is also the principal place of business of McCoy Elkhorn=s parent
company, James River Coal Corporation.
By answer and counterclaim McCoy Elkhorn seeks to
recover an alleged overpayment of royalties in the amount of $10,586.61.
FINDINGS OF
FACT:
On May 11, 1977, Canada Coal leased tracts of
land from the Scott heirs and the Smith-Rowe heirs. Tract No. 1 leased from the Scott heirs was on one side of a
hollow; Tract No. 2 leased from the Smith-Rowe heirs was on the opposite side
of the hollow. The lease was for five
years, renewable automatically annually until the coal was mined to exhaustion. Beginning in year three of the lease the
annual minimum royalty escalated to $65,000 per year payable up front to the
lessors on May 11 of each year, the anniversary date of the lease. The minimum royalty payment was split 50-50
between the Scott heirs and the Smith-Rowe heirs. Canada Coal could recoup the minimum royalty as a credit on the
royalty of 8% of the gross selling price of each ton of merchantable and
marketable coal removed from the premises.
The lessee=s right of recoupment was retroactive for three
years during which any unused portion of a minimum royalty payment for the
previous two years could be applied as a credit on royalties owed on tonnage
produced during the third year.
Royalties not subject to recoupment were payable on the 25th
day of the month following the month in which the coal was mined.
The base lease is not entirely clear on the
matter of whether the owners of the coal under Tract 2 (the Smith-Rowe heirs)
are to share in the earned, non-recoupable royalties owed for coal mined from
Tract 1. See Article II(a) and
(d) of the May 11, 1977 lease. Article
II(a) provides the minimum annual royalty is to be shared jointly by the
lessors; Article II(d) does not indicate the non-recoupable royalties were to
be shared jointly.
Canada Coal had either used or lost through
non-use all of its recoupment rights for years prior to 1990. It had an unused recoupment right of a
minimum royalty payment of $65,000 made during 1990. On May 11, 1991 Canada Coal made the $65,000 minimum royalty
payment for 1991 and thus had an accrued recoupment right of $130,000.
It appears from the record that Canada Coal was
not mining on the Smith-Rowe heirs= tract and prior
to July 19, 1991 may have ceased mining on the Scott heirs= tract as well.
The base lease between Canada Coal and the Scott
heirs and the Smith-Rowe heirs permitted the lessee to sublet the leasehold in
whole or in part.
On July 19, 1991 Canada Coal sublet the leased
tracts in question to McCoy Elkhorn.
The latter made a minimum royalty payment of $65,000, which reimbursed
Canada Coal for the May 11, 1991 minimum royalty payment. McCoy Elkhorn agreed to make a $65,000
minimum annual royalty payment to Canada Coal on May 1 of each year of the
sublease. Presumably this payment was
to be passed along by Canada Coal to the Scott heirs and Smith-Rowe heirs by
May 11 of each year as required by the base lease. Apparently the parties timely made the lease and sublease minimum
royalty payments for 1992.
McCoy Elkhorn was granted rights of recoupment of
the $65,000 minimum royalty as against Canada Coal. Canada Coal retained its right of recoupment against the lessors
under the base lease.
The sublease required McCoy Elkhorn to pay to
Canada Coal a royalty of 10% of the gross selling price of each ton of
merchantable and marketable coal extracted from the premises. This covered the 8% earned, non-recoupable
royalty Canada might owe to the Scott heirs and the Smith-Rowe heirs, plus a 2%
override to Canada Coal.
At the time of the July 19, 1991 sublease McCoy
Elkhorn was conducting underground mining operations on an adjoining lease, the
Kentland or Kentucky Berwind Land Company lease, previously sublet by Canada
Coal to McCoy Elkhorn. On this adjacent
lease McCoy Elkhorn was mining a seam of coal that extended under the Scott
heirs= property. McCoy Elkhorn was mining this seam and
removing coal therefrom through a portal or mine opening on the adjacent
Kentland or Berwind lease. The
underground mining operation of McCoy Elkhorn on this adjoining lease was
approaching the boundary of Tract 1, the Scott heirs= tract,
subleased from Canada Coal. This may
explain why McCoy Elkhorn entered into the sublease with Canada Coal. Also, the latter was experiencing financial
problems and apparently had ceased mining on the leasehold.
In August of 1992 McCoy-Elkhorn commenced
negotiations for the purchase of the assets of Canada Coal.
On September 3, 1992 Canada Coal filed a petition
for relief under chapter 11 of the Bankrutpcy Code in this court. During the chapter 11 proceeding
representatives of the parties continued to discuss the acquisition of Canada
Coal=s assets by
McCoy Elkhorn, including coal leases, and in particular, the lease of the Scott
heirs and the Smith-Rowe heirs tracts held by Canada Coal. As of January 1993 the terms of the proposed
asset purchase agreement had not been resolved.
In February of 1993 the mining operations of
McCoy Elkhorn on the adjoining Kentland or Berwind lease proceeded underground
into Tract No. 1, the Scott heirs= property, subleased by McCoy Elkhorn from
Canada. This underground mining on the
subleased property was not evident from the surface of the leaseholds and was
not readily discernible because the coal was being removed through the portal
or mine opening on the adjoining lease.
The mining engineers or managers of McCoy Elkhorn
at the mine site were aware of the underground mining on the coal seam
subleased from Canada Coal.
On March 19, 1993 McCoy Elkhorn allegedly mailed
to Canada Coal a Royalty Report for the month of February 1993, which revealed
that during February McCoy Elkhorn had mined 210.34 shippable tons of coal from
the Scott heirs= properties for
which McCoy Elkhorn owed royalties of $612.93.
A check for that amount was issued to Canada Coal by McCoy Elkhorn. The report indicated the recoupable balance
of the $65,000 minimum royalty payment McCoy Elkhorn had made to Canada Coal in
connection with the sublease was $64,387.07.
There is no clear evidence as to when McCoy Elkhorn mailed or Canada Coal received the March 19, 1993
Royalty Report or the $612.93 check for mining that had occurred in February.
Coincidentally, on March 19, 1993, the date of
the foregoing Royalty Report, the parties entered into an AAgreement for
the Sale of Assets@ of Canada Coal to McCoy Elkhorn. Tract 1 (the Scott heirs= property)
described in the Canada Coal lease of May 11, 1977 with the Scott heirs and the
Smith-Rowe heirs was included in the assets covered by the sale agreement.
Tract 2 (the Smith-Rowe heirs= property) was not included. Section 1.07 of the Agreement for the Sale
of the Assets of Canada Coal to McCoy Elkhorn required the debtor to reject the
1977 lease insofar as it related to the Smith-Rowe tract. Pursuant to the agreement the sale was to be
closed after entry of an order by the Bankruptcy Court approving the sale. The agreement was signed by Roy Canada, Vice
President of Canada Coal, and James B. Crawford, Chairman and Chief Executive
Officer of McCoy Elkhorn.
On March 22, 1993 Canada Coal, by counsel, filed
a motion to reject the lease of May 11, 1977 insofar as the lease related to
the Smith-Rowe tract. The motion was
heard by the court on April 2, 1993. On
April 23, 1993 the court entered an order authorizing rejection of the lease of
theSmith-Rowe tract. The order required
the debtor to pay the Smith-Rowe heirs an additional $7,825.00 in connection
with termination of the lease as to their property.
Exhibit 3.5 to the Agreement for Sale of Assets
was as follows:
4. During the term of the Scott Lease through
May, 1992, Assignor paid to the Lessors under the Scott Lease a total of
$1,040,000 in minimum royalties.
Assignor believes, without confirmation from said Lessors, that a total
of $130,000 of the aforesaid total payment remains available for recoupment
under the terms of said Lease. This
recoupable amount constitutes the annual minimum royalty payments paid on May
11, 1991 and May 11, 1992.
The court infers the minimum royalty payment for
1990 had been recouped by Canada Coal.
The agreement for the sale of assets does not refer to recoupment of any
portion of that payment.
It seems clear that the 50% pro rata share of the
May 11, 1991 and May 11, 1992 royalty payments had been paid to the Smith-Rowe
heirs before rejection of the base lease insofar as it related to their
property. Thus, the maximum recoupment
right of Canada Coal with respect to the Scott heirs tract was $65,000.
The court does not consider the representation in
Exhibit 3.5 to the Agreement for Sale of Assets to be particularly
misleading. Because the May 11, 1977
base lease encompassed two tracts owned separately by two sets of heirs the
lease is variously referred to in the record as the AScott@ lease, the ARowe-Scott@ lease, or the ASmith-Rowe@ lease. The lease is a single instrument and the
court concludes that the reference to the Scott lease in Exhibit 3.5 makes
sense only if it is interpreted to refer to the base lease in its entirety. Consequently, the court finds unpersuasive
the testimony of Mr. Crawford to the effect that in executing the Agreement for
Sale of Assets he relied on the representation that the debtor had available
recoupment rights in the amount of $130,000.
This would have been so only if the Smith-Rowe tract had been included in
the assets acquired by McCoy Elkhorn.
Also, it is clear from the evidence that neither
of the signatories to the March 19, 1993 Agreement for the Sale of Assets had
actual knowledge that McCoy Elkhorn had commenced mining during the previous
month of February on the Scott heirs= tract subleased from Canada Coal. James B. Crawford, Chairman and CEO of McCoy
Elkhorn, was on constructive notice that such mining had commenced because the
on-site McCoy Elkhorn personnel and the accounting department employees of
McCoy Elkhorn were aware that royalties were owed for mining conducted in
February on the subleased properties.
On April 2, 1993 this court entered an order
authorizing the proposed sale to McCoy Elkhorn of the assets of the debtor and
assignment to McCoy Elkhorn of the Canada Coal leases covered by the sale
agreement.
The parties set April 20, 1993 as the date for
closing on the sale.
Meanwhile, on April 19, 1993, the day before the
closing, McCoy Elkhorn mailed to Canada Coal a Royalty Report for the month of
March 1993 indicating that 31,331.74 shippable tons of coal had been extracted
during March of 1993 from the Scott heirs= property. The report computed a royalty due of $88,731.49, less a credit of
$64,387.07, representing a recoupable royalty in that amount, leaving a balance
due of $24,344.42, for which a check was issued. When the sale was closed on April 20, 1993 neither of the
signatories for the parties at the closing was aware of this report.
At the closing on April 20, 1993 the parties
executed an assignment and assumption agreement whereby Canada Coal assigned to
McCoy Elkhorn the May 11, 1977 base
lease as to the Scott heirs property, and McCoy Elkhorn assumed all
liabilities under the lease. Defendants
Ex. No. 4. Thereupon the parties
executed a Termination Agreement declaring the sublease between Canada Coal and
McCoy Elkhorn of the Scott heirs= and the Smith-Rowe heirs= property to be
terminated. The sublease was no longer
necessary in view of the acquisition by McCoy Elkhorn of the underlying base
lease by way of assignment. Defendant=s Ex. No. 5.
Thereafter, on May 25, 1993, McCoy Elkhorn mailed
to Canada Coal a Royalty Report for the month of April 1993 showing that
19,381.02 shippable tons of coal had been extracted from the subleased Scott
heirs Tract No. 1 from April 1 through April 19, the day prior to closing. The report computed royalties due as
$10,586.61, for which a check was issued.
This royalty was computed on the basis of 2%, rather than 10% of the
gross sale price. On the basis of 10%
of the gross sales price the royalty should have been computed as follows: 19,361.02 shippable tons x $2.7340 (10% of
the gross sales price of $27.340 per ton) = $52,933.02, less $10,586.61 (the 2%
already paid) = $42,346.41, the amount in dispute.
McCoy Elkhorn contends it did not owe Canada Coal
royalties on any coal mined in April of 1993 and, therefore, is entitled to
recover the $10,588.61 which it alleges was paid in error. This contention is based on the alleged
misrepresentation of Canada Coal in Exhibit 3.05 to the Agreement for the Sale
of Assets signed by the parties on March 19, 1993, which exhibit states AAssignor
believes, without confirmation from said Lessors, that a total of $130,000 ...
remains available for recoupment under the terms of said Lease...@
In view of the fact James B. Crawford, Chairman
and CEO of McCoy Elkhorn, and Roy Canada, Vice President of Canada Coal, were
unaware that McCoy Elkhorn had commenced mining on the Scott heirs= property, there
is little likelihood the Scott heirs would have known of this underground
mining incursion or its effect on royalties due.
Canada Coal officials were not made aware that
McCoy Elkhorn had commenced mining on the subleased premises until receipt of
the February 1993 mining report dated March 19, 1993 in the mail subsequent to
the execution of the March 19, 1993 Agreement for the Sale of Assets.[1]
McCoy Elkhorn used the 10% royalty rate in
accounting for coal mined in the subleased premises during February and March. The failure to use the 10% rate in computing
the royalty on coal mined on the subleased premises from April 1 through April
19, 1993 is inexplicable. Upon
exhaustion of its $65,000 right of recoupment, McCoy Elkhorn owed Canada Coal
$52,933.02 and had paid only $10,586.61, leaving a balance due of $42,346.41.
The 2% override provided for by the sublease
between Canada Coal and McCoy Elkhorn would be meaningless unless Canada Coal
is required to pay the debtor the full 10% royalty for coal mined from Tract 1
during April 1-19, 1993.
The fact the sublease was terminated at closing
on April 20, 1993 verifies the sublease remained in effect until that date, as
did the right of Canada Coal to offset against prepaid royalties the 8% royalty
per ton owed to the Scott heirs for coal extracted prior to that date.
McCoy Elkhorn cannot be heard to complain of
depletion of minimum royalty rights caused by its own mining activities.
It appears from the record of the Canada Coal
chapter 11 bankruptcy case that in April of 1996 the debtor paid the lessors of
the base lease (the May 11, 1977 lease) the sum of $75,000 in settlement of
their claims for royalties, unmined mineral taxes, ad valorem taxes, other
costs, losses, expenses or damages which have resulted or may have resulted
from Canada Coal=s performance or
non-performance of the base lease. The
lessors released any and all claims they may have against the debtor.
The amount the debtor is entitled to receive from
McCoy Elkhorn merely reimburses the debtor in part for the royalty expenditure
made in settlement of the foregoing claims.
Accordingly, the court finds Canada Coal is
entitled to judgment directing McCoy Elkhorn to remit to the debtor unpaid
royalties in the amount of $42,346.41.
The counterclaim of McCoy Elkhorn for an alleged overpayment of
$10,586.61 shall be dismissed.
Dated this _____ day of March 2002
By the court -
________________________________
JOE LEE, U.S.
BANKRUPTCY JUDGE
Copies to:
Albert F.
Grasch, Jr., Esq.
John R. Rhorer,
Jr., Esq.
UNITED STATES
BANKRUPTCY COURT
EASTERN DISTRICT
OF KENTUCKY
PIKEVILLE
IN RE:
CANADA COAL COMPANY, INC. CASE NO.
92-70129
DEBTOR
CANADA COAL COMPANY, INC. PLAINTIFF
VS. ADVERSARY
NO. 94-7025
MCCOY ELKHORN COAL CORPORATION DEFENDANT
JUDGMENT
In conformity with the memorandum opinion of the
court this day entered, IT IS ORDERED AND ADJUDGED that the defendant, McCoy
Elkhorn Coal Corporation shall remit to the plaintiff debtor unpaid royalties
in the amount of $42,346.41. IT IS
FURTHER ORDERED AND ADJUDGED that the counterclaim of McCoy Elkhorn for an
alleged overpayment of $10,586.61 be and the same is hereby DISMISSED.
Dated this _____ day of March 2002
By the court -
_______________________________
JOE LEE, U.S.
BANKRUPTCY JUDGE
Copies to:
Albert F.
Grasch, Jr., Esq.
John R. Rhorer,
Jr., Esq.
[1] As previously
noted it is unclear when, if ever, the debtor received this royalty
report. See testimony of B. Dean
Shafner, the Comptroller of the debtor.