In Re Victory Const. Co., Inc.
3 Collier Bankr. Cas. 2d 655, 1981 Bankr. LEXIS 5047, 9 B.R. 549 (1981)
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Rule of Law:
A Chapter 11 bankruptcy petition filed without a genuine intent to reorganize an existing business, but solely as a litigation tactic to delay foreclosure on a single, newly acquired asset, constitutes a lack of good faith. This lack of good faith is sufficient "cause" under § 362(d)(1) of the Bankruptcy Code to lift the automatic stay.
Facts:
- Victory Construction Co., Inc. ('Victory'), a dormant corporation owned entirely by Fred Roven, was reactivated in late 1979.
- In December 1979, Roven, through Victory, entered into an option to purchase a single parcel of real property that was fully encumbered with approximately $2.9 million in defaulted liens.
- Roven was fully aware that the property was part of another bankruptcy proceeding and that the secured creditors were actively seeking to foreclose.
- Victory's objective was to acquire the property subject to the existing low-interest loans, without having to secure new, more expensive financing.
- Before exercising the option on March 24, 1980, Victory failed to secure any enforceable agreements with the lienholders to extend payment terms or halt foreclosure.
- Victory acquired a quitclaim deed to the property on May 8, 1980, using funds borrowed from Roven. At the time, Victory had no other assets, no significant business operations, and no income stream to service the property's debt.
- After acquiring the property, Victory made no payments to any of the lienholders who were party to the subsequent complaint.
- Roven formed an unwritten partnership with another investor, Ashkenazy, to develop the property, but Ashkenazy's financial contributions were contingent on Victory refinancing the very loans it sought to preserve through bankruptcy.
Procedural Posture:
- After Victory acquired the property, a lienholder, John Hadley, was released from the prior bankruptcy's stay and initiated foreclosure proceedings.
- Victory filed a lawsuit in the California Superior Court seeking an injunction to stop Hadley's foreclosure sale.
- On July 18, 1980, the Superior Court denied Victory's request for an injunction.
- Hadley scheduled the foreclosure sale of the property for August 12, 1980.
- On August 11, 1980, one day before the scheduled sale, Victory filed a petition for reorganization under Chapter 11 of the Bankruptcy Code, which triggered an automatic stay against all creditor actions.
- On August 20, 1980, several secured creditors, including Hadley, filed a complaint in the U.S. Bankruptcy Court seeking relief from the automatic stay or, alternatively, dismissal of the Chapter 11 case.
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Issue:
Does a debtor's lack of good faith in filing a Chapter 11 petition constitute "cause" to vacate the automatic stay under § 362(d)(1) of the Bankruptcy Code?
Opinions:
Majority - Robert L. Ordin
Yes, a debtor's lack of good faith in filing a Chapter 11 petition constitutes cause to vacate the automatic stay. The court held that while the 1978 Bankruptcy Code does not contain an express good faith filing requirement for Chapter 11, such a requirement is implicit and inherited from nearly a century of bankruptcy law and jurisprudence. This implied requirement is an equitable tool to prevent the abuse of the bankruptcy process. A lack of good faith provides an independent 'cause' under § 362(d)(1) to lift the automatic stay, separate from the issue of adequate protection. Applying this principle, the court found Victory's filing was a quintessential example of bad faith. Victory was a shell corporation, reactivated for the sole purpose of acquiring a single, distressed asset on the eve of foreclosure. The petition was not filed to reorganize or rehabilitate an existing business but was a litigation tactic to delay creditors and improperly leverage their low-interest financing. This 'new debtor syndrome' is a misuse of the reorganization process, justifying relief from the stay for the secured creditors.
Analysis:
This decision is significant for establishing that an implicit 'good faith' filing requirement exists for Chapter 11 petitions under the 1978 Bankruptcy Code, even though the statute lacks explicit language to that effect. It empowers bankruptcy courts to look beyond the face of a petition and examine the totality of the circumstances to prevent abuse of the reorganization process. The case provides a key precedent for creditors facing 'new debtor syndrome' cases, where a shell entity is created or used to shield a single asset from foreclosure. By defining lack of good faith as 'cause' to lift the automatic stay, the ruling gives creditors a powerful tool to challenge filings that are primarily litigation tactics rather than genuine attempts at business rehabilitation.
