The opinion of the court was delivered by: CARTER
ROBERT L. CARTER, District Judge.
The Securities and Exchange Commission ("SEC"), by order to show cause, moved, pursuant to Section 328 of the Bankruptcy Act, 11 U.S.C. § 728, for leave to intervene in the pending Chapter XI proceedings of Arlan's Department Stores (the "debtor") and to dismiss the Chapter XI petitions filed by the debtor and the proceedings under Chapter XI and to require proceedings in compliance with Chapter X. This court issued the order on January 3, 1974, with a stay requiring that no steps should be taken in the pending Chapter XI proceeding which might be prejudicial to a potential Chapter X trustee, without leave of the court. To suit the convenience of counsel a hearing on the motions was postponed until February 4, 1974, at which appearances were made by the Assistant Regional Administrator of the SEC and counsel for the various interests, including the debtor in possession, the Official Creditors Committee, the Debenture Holders Protective Committee, the Successor Trustee for Debenture Holders, the Institutional Lender Committee, and the Retail Clerks International Association and Local Affiliates.
The issue to be resolved is whether the debtor's attempted corporate rehabilitation under the Bankruptcy Act may be conducted under Chapter XI of the Act, 11 U.S.C. § 701, et seq., or whether dismissal of the Chapter XI proceedings and transfer to proceedings under Chapter X, 11 U.S.C. § 501, et seq. are required.
Arlan's Department Stores and its wholly-owned subsidiaries make up a retail store chain spread over several states, selling wearing apparel as well as hardlines of various sorts. It is a large public company. Arlan's has three major classes of unsecured creditors whose rights would be affected by whatever arrangement is ordered. As of the filing of the original petition there existed approximately 15,000 trade creditors having claims totalling approximately $35,000,000. Lending institutions are creditors of the debtor in the sum of approximately $21,000,000, $6,000,000 of which is on a par with trade creditors, the balance having been subordinated to the trade pursuant to certain loan agreements. The debtor has issued to the public 6% convertible subordinated debentures in the sum of $15,000,000. Those debentures are subordinated to the lending institution debt by virtue of the provisions of the trust indenture. In addition, as a result of the debtor's breach of lease obligations to landlords in connection with stores it formerly operated, there may be an additional $15,000,000 liability.
Arlan's has outstanding the following issues of securities: (1) the 6% convertible subordinated debentures held by approximately 725 widely dispersed public investors, (2) 3,702 shares of preferred stock held by six banks and insurance companies, and (3) 2,775,414 shares of common stock held by approximately 6,000 persons.
For several years Arlan's appeared to be reasonably profitable and expanded rapidly. Its expansion was financed by bank creditors, public investors and retained earnings. It paid virtually no dividends. However, during fiscal 1970, the year in which the debentures were issued, Arlan's profits declined markedly and in fiscal 1971 it began suffering substantial losses which have continued unabated. For the three months ended April 29, 1973, Arlan's reported unaudited net losses aggregating close to $8,000,000. The debtor surmises that it is the heavy debt load of the company which led to economic decline and a modification of that load, streamlining its operations, and an infusion of new funds would rehabilitate it.
As a result of the substantial losses incurred during the fiscal year ended January 30, 1971, Arlan's determined to halt further expansion and to dispose of certain stores. At that time, Arlan's operated 119 stores, including 16 "Play World" stores. During the year ended January, 1972, Arlan's opened two new stores and closed, leased or sold 41 stores. During the year ended January, 1973, Arlan's disposed of seven additional stores, so that as of the date of the filing of the original petition for an arrangement, May 14, 1973, it operated 73 stores. Since then it has eliminated approximately another 38 stores.
The Proposed Arrangement :
A proposed Chapter XI arrangement was promulgated by the various creditor representative groups, among which were representatives of the debenture holders. In general, the plan provides as follows: the claims of the administration and priority creditors were to be paid in full upon terms agreed upon between the debtor and such creditors. General creditors (including but not limited to trade creditors, senior institutional debt and landlords with breach of lease claims) were to receive 15% of their respective claims in cash, payable in percentages varying from 1% to 5% over a number of years, as well as one share of common stock of Arlan's for each $40 of debt. The subordinated institutional lenders and bankers were to receive one share of the common stock of the debtor for each $27.50 of the indebtedness. The preferred stock owned by those institutional lenders was to be surrendered and exchanged for 66,000 shares of Arlan's common stock. The subordinated debenture holders were to receive one share of common stock for each $27.50 of indebtedness. Present management was to receive common stock equal to 10% of the issued and outstanding common stock of Arlan's, and an outside independent investor was to receive common stock equal to 33 1/3% of the issued and outstanding shares of common stock.
Application of Controlling Principles :
At the February 4, 1974 hearing, the court announced that if it determined, after a study of the case law, that it had a wide range of discretion in making the choice between proceedings in Chapter X or XI, the final determination would be based upon the court's view of what would be best for the company and best for the public. It appeared at that point that there were substantial factors here that would favor the choice of Chapter XI. The debtor, being a retail store chain, is highly dependent upon trade credit and there was reason to believe that if it went into Chapter X such credit would not be forthcoming, resulting in the serious possibility of Arlan's complete collapse. Generally, proceedings under Chapter X are slower and more costly and this debtor does have a somewhat urgent need for the infusion of new capital. The proposed Chapter XI arrangement did appear to be acceptable to all segments of the debtor's creditors and was the result of a private investigation of the company's problems and negotiations among the interested parties. Finally, it is asserted that the public debenture holders were in fact being put in a more advantageous position by the proposed plan than they could ever be under Chapter X. Since they are subordinated to the $21,000,000 of lending institutional debt, under a strict priority doctrine, as often mandated under Chapter X, they could not receive their share until the senior creditors were paid in full. Under the proposed plan, despite their subordinated status, they would receive the same compensation as the senior debt -- one share of stock for each $27.50 of indebtedness.
Despite the initial predilection for a proceeding under Chapter XI, I must now conclude that Chapter X is the appropriate context for the rehabilitation of this debtor. While retaining concern for doing what is best for the company and the public, I must adhere to and rely upon the thought-out principles set forth by the Supreme Court and our Circuit, which require that in a situation such as the immediate one, the interests of the public will be studied, ascertained and best served under Chapter X.
The Supreme Court has made it clear that neither this court, nor any other district court, has unbridled discretion in deciding between a ...