In re Montgomery Ward, LLC

Summarized by John Eggum , Foran Glennon Palandech Ponzi & Rudloff
14 years 12 months ago

Citation:

Nos. 09-1735/1736 (3d Cir., March 9, 2011)

Tag(s):

3rd Circuit

Ruling:

Plan Administrator in liquidating chapter 11 case was not barred by res judicata from challenging a "Lease/Sublease Agreement" as a structured financing transaction (rather than a true lease), notwithstanding the fact that lease had been the subject of a settlement and stipulation in Debtor's prior chapter 11 reorganization. The primary issue was whether the Plan Administrator (acting pursuant to a confirmed plan) in the Debtor's second chapter 11 case was the same party as, or privy of, the DIP in the first chapter 11 case. The Third Circuit explained that in a successful chapter 11, there are three parties: (1) the pre-bankruptcy debtor, (2) the estate, and (3) the post-bankruptcy business. Now, generally, res judicata may apply to a successor in interest notwithstanding that there exists a general rule against non-party preclusion, as explained by the Supreme Court in Taylor v. Sturgell. 553 U.S. 880 (2008). However, a trustee/DIP in bankruptcy is not simply the successor in interest to the Debtor; rather, the trustee/DIP represents the interests of all creditors of the Debtor's estate. A successor to the DIP - like the Plan Administrator - may therefore challenge a lease or agreement where the challenge may result in increased returns to general unsecured creditors. Under the circumstances, the Plan Administrator does not have a "substantive legal relationship" with the Debtor of the type contemplated by Taylor. Bankruptcy court's order vacated in part and remanded to permit Plan Administrator to challenge lease.

Procedural context:

Appeal from district court's decision affirming the judgment of the bankruptcy court that Plan Administrator was precluded by res judicata from challenging whether a lease was a true lease, rather than a structured financing transaction, and that Montgomery Ward was not personally liable under the terms of a mortgage and ancillary agreement.

Facts:

In connection with the construction of a mall in Joliet, Illinois, Montgomery Ward leased land that it owned to a contractor ("Jolward"). Jolward obtained financing for the construction by giving a mortgage to State Farm. Montgomery Ward joined in the execution of the mortgage, but assumed no personal liability (the mortgage was without recourse to Montgomery Ward). Jolward then subleased the land and Department Store back to Montgomery Ward (the "Lease/Sublease Agreement). More than 20 years later, in 1997, Montgomery Ward filed its first chapter 11 bankruptcy proceeding ("Ward I"), the purpose of which was to reorganizae and continue business operations. The Ward I DIP assumed the Lease/Sublease Agreement, and, after a dispute over amounts owed to State Farm and Jolward, entered into a settlement (the "Ward I Stipulation"). Less than 18 months later, the reorganized Montgomery Ward filed a second bankruptcy case - a liquidating chapter 11 ("Ward II"). In Ward II, the Plan Administrator for Montgomery Ward challenged the Lease/Sublease Agreement, arguing that it was merely a structured financing arrangement and not a true lease. An entity named Dika-Ward (which had acquired State Farm's interest in the mortgage and Lease/Sublease Agreement), argued that the validity of the Lease/Sublease Agreement was res judicata on account of the Ward I Stipulation and this prevented the Plan Administrator from challenging the lease. This appeal followed. Note also that Dika-Ward argued that 1111(b) turned the orginally non-recourse liability of Montgomery Ward into a recourse liability, but this argument was rejected by the bankruptcy court, district court, and court of appeals.

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