Big Shoulders Capital LLC v. San Luis & Rio Grande Railroad

Case Type:
Case Status:
19-3234; 19-3428; 19-3516; 20-1053; and 20-1503 (7th Circuit, Sep 03,2021) Published
Resolving a "labyrinth of appeals" stemming from a prepetition breach of contract claim brought by one company against two subsidiaries of an admitted "single enterprise" in federal court based on ostensibly diverse citizenship, the U.S. Court of Appeals for the Seventh Circuit dismissed all but one entity's appeal as moot due to the expiration of the offending injunction (and for reliance on generalized assertions by one) and remanded to the district court to apply diversity's "nerve center test" to the defendant subsidiaries "in the first instance."
Procedural context:
The underlying case was commenced by Big Shoulders Capital LLC (Big Shoulders) against San Luis & Rio Grande Railroad Inc. (SLRG) and Mt. Hood Railroad Co. (Mt. Hood), two financially distressed operators of railroads in the United States ultimately owned by Iowa Pacific Holdings LLC (Iowa Pacific), for breach of contract in the United States District Court for the Northern District of Illinois (district court). According to Big Shoulders, this matter was a seemingly standard diversity action, as it was a a citizen of Illinois, and SLRG and Mt. Hood were then citizens of Colorado and Delaware and Oregon, respectively. Whatever the accuracy of these assertions, an expanded receivership with control over certain entities held by Iowa Pacific--and in which other Iowa Pacific subsidiaries, including Sandton Rail Company LLC (Sandton), held interests--had been appointed in this first case--and challenged by Sandton, among others, whose motion to dismiss, but not his motion to intervene, failed to win judicial favor. It was in this case that the district court approved receivership agreements that contained language expressly barred any party from "commencing, prosecuting, continuing or enforcing any suit or proceeding against or affecting Defendants or any part of the Receivership Assets" (anti-litigation injunction or the rec). Meanwhile, a second federal case began with the filing of an involuntary bankruptcy petition on behalf of SLRG in the U.S. Bankruptcy Court for the District of Colorado (bankruptcy court), by certain creditors (Petitioning Creditors), such as San Luis Central Railroad Co.; Ralco LLC; South Middle Creek Road Assoc.; and the Board of Commissioners, Rio Grande County. Later, this first coterie's key points would be echoed by another group of creditors (the Ad Hoc Committee), consisting of Kenneth Bitten; Mid America Railcar Leasing, LLC; Johns Trains, Inc.; Protection Development Inc.; and Steam Services of America & Star Trak Inc., with claims totaling around $1.7 million. The bankruptcy court granted the Petitioning Creditors' request for relief based purely on SLRG's already precarious--and spectacularly eroding--financial position. Now, the scene of the action returned to district court. Upon learning of the petition, the receiver had objected; after the bankruptcy court had entered its order for relief, the receiver made an emergency motion in the Northern District of Illinois district court to consider the effect of the anti-litigation injunction on the SLRG bankruptcy. Stressing the prepetition nature of the receivership agreements and with them, their anti-litigation injunction, the district court initially concluded that the filing of the bankruptcy petition (and therefore the petition itself) was void. On reconsideration prompted by the Petitioning Creditors' motion, the district court concluded it lacked the power to void the bankruptcy but that the anti-litigation injunction remained legitimate. Having done so, however, the district court declined not only to officially authorize the Petitioning Creditors to continue with the bankruptcy but also to hold them in contempt for violating the anti-litigation injunction. In essence, its decision allowed it to retain jurisdiction over the receivership and the receivership property, but left the Petitioning Creditors undeterred and unpunished. When, as a result of the bankruptcy, Big Shoulders refused to fund the receivership, the district court then terminated the receivership, ordered fees to be paid to the receiver and its agents, and terminated the injunction. A bevy of parties appealed a variety of issues: (1) Sandton brought the main appeal against Big Shoulders, claiming the district court lacked subject matter jurisdiction based on lack of diversity, while Big Shoulders argued in its cross-appeal that Sandton has not demonstrated that it has standing; (2) the collective appeals of Petitioning Creditors, the Ad Hoc Committee, the receiver (Novo Advisors), and the receiver's law firm (Fox Rothschild) concerned the district court's handling of the Colorado bankruptcy petition; (3) the Petitioning Creditors also objected to the district court's initial order holding the bankruptcy void, arguing that the court lacked authority to enjoin a bankruptcy proceeding; (4) the Ad Hoc Committee separately argued that, after the district court reversed course and determined that the bankruptcy was not void, it simply lacked jurisdiction over the receivership; and (5) both Novo Advisors and Fox Rothschild contended in their cross-appeal that the Ad Hoc Committee lacks standing to bring this claim and that the district court never lost jurisdiction due to the inherent invalidity of the Petitioning Creditor's bankruptcy petition under the collateral bar doctrine. Reaching only "jurisdictional issues," the opinion focused on three issues: standing; mootness; and diversity jurisdiction.
Originally, Big Shoulders sued SLRG and Mt. Hood for more than $4.6 million in damages for breach of contract in the district court. That contract was a loan agreement between Big Shoulders, certain defendants, Iowa Pacific, and yet other subsidiaries of Iowa Pacific. In its complaint, Big Shoulders contended that federal jurisdiction existed because there was complete diversity of citizenship between the parties. Pursuant to its request, the district court appointed a receiver, with Big Shoulders promising to fund the receivership to keep the railroads operational during the lawsuit. Subsequently, however, Big Shoulders did nothing to prosecute the action, and neither SLRG or Mt. Hood answered. Either when the district court first appointed the receiver or after it had expanded the receivership at the receiver's' request five days later, Sandton moved to intervene and to dismiss for lack of subject matter jurisdiction. Sandton was one of several creditors with interests in entities in the same corporate group as SLRG and Mt. Hood, and Sandton, the Petitioning Creditor, and the Ad Hoc Committee also held interests in several other entities within the expanded receivership, all of which were also subsidiaries of Iowa Pacific. "All in all, the receivership eventually included more than 20 companies." It operated pursuant to agreements that included the anti-litigation injunction and empowered the receiver the power to formally reject certain leases. Ultimately, the district court granted Sandton's motion to intervene but denied its motion to dismiss. Thereafter, the receiver undertook two actions that formed the focus of the parties' appeal. First, the receiver rejected a lease that Sandton had with Heritage Rail Leasing, LLC (Heritage), another Iowa Pacific subsidiary, to provide railcars and other track equipment. Second, it entered into an agreement with the Internal Revenue Service (IRS), which allowed the latter to treat Iowa Pacific and its subsidiaries as one enterprise for tax purposes. To support this accord, the receiver submitted a declaration from David Michaud, Iowa Pacific's general counsel, that would soon loom large in Sandton's appeal (Michaud Dec.). Essentially, this document described the receivership entities as a single enterprise, averred that Iowa Pacific made all decisions and that only its interest were considered in corporate governance decisions, that most of the receivership entities were headquartered in Chicago and shared management, and that all the subsidiaries did not maintain separate records or books, did not transact with each other at arm's length, and did not hold separate board meetings for several years. In the midst of the receivership action, the Petitioning Creditors filed an involuntary bankruptcy petition on behalf of SLRG in the bankruptcy court, triggering the chain of events limned above.
Michael B. Brennan; Michael Y. Scudder; and Thomas Kirsch

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