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In re Flagstaff Foodservice Corp.

July 10, 1984


Appeal from an Order of the United States District Court for the Southern District of New York (Broderick, J.) Affirming a Bankruptcy Court Order Which Awarded Appellees Interim Fees and Related Expenses for Professional Services, Payable from Assets of the Debtors in Possession in which Appellant had a Security Interest.

Lumbard, Van Graafeiland, Circuit Judges, and Re.*fn*

Author: Van Graafeiland


General Electric Credit Corporation (GECC) appeals from an order of the United States District Court for the Southern District of New York (Broderick, J.) which affirmed a bankruptcy court order awarding appellees interim compensation for professional services and disbursements and directing that payment thereof be made from assets of the debtors in possession in which GECC had a security interest. For reasons hereafter discussed, we reverse.

On July 21, 1981, Flagstaff Foodservice Corporation and its related companies (Flagstaff) filed petitions for reorganization under chapter 11 of the Bankruptcy Reform Act of 1978 (the Code), 11 U.S.C. §§ 1101 et seq. As permitted by the Code, 11 U.S.C. §§ 1107, 1108, the companies continued to operate their businesses as debtors in possession.

GECC had been financing Flagstaff's operations since 1978 by making loans and advances on accounts receivable and inventory. As of July 21, 1981, Flagstaff owed GECC approximately $22 million, which was secured by assets worth $42 million. Shortly before commencement of the chapter 11 proceedings, Flagstaff's attorneys met with representatives of GECC to obtain immediate short-term financing in order to maintain sufficient cash flow to support Flagstaff's operations. These negotiations resulted in an order which permitted Flagstaff to use up to $750,000 of GECC's collateral for the limited period of five days. Flagstaff's attorneys also prepared an application for a more permanent financing arrangement with GECC. An order (the "Financing Order") was issued by the bankruptcy court authorizing Flagstaff to borrow additional money from GECC, the loans to be secured by a super-priority interest in all present and future property of the estate. In pertinent part, the order provided that:

any and all obligations and Liabilities of Borrowers and debtors in possession to GECC (as defined in the Loan Agreement and the Security Agreement) shall have priority in payment over any other debts or obligations now in existence or incurred hereafter of Borrowers and debtors in possession and over all administrative expenses of the kind specified in Sections 503(b) or 507(b) of the Bankruptcy Code, and said Liabilities and obligations of Borrowers and debtors in possession to GECC shall be secured by a first and prior lien on all property of whatever kind and nature of the Borrowers and debtors in possession, and proceeds thereof, until all such obligations and Liabilities of the Borrowers and debtors in possession to GECC shall have been paid in full.

By December 21, 1981, Flagstaff had generated enough income from its accounts receivable to pay all of GECC's pre-petition liabilities. However, during the chapter 11 proceedings, GECC advanced an additional $9 million to Flagstaff pursuant to the Financing Order. Despite this infusion of funds, the Flagstaff reorganization ultimately failed. No chapter 11 plan ever was proposed; no bulk purchaser appeared; and no buyer emerged to take over any of the debtor companies. Accordingly, although Flagstaff's indebtedness to GECC had been reduced substantially, the realizable value of the collateral which remained was insufficient to satisfy the unpaid balance.

The issue before us is whether, despite the super-priority lien given GECC in the Financing Order, the bankruptcy court subsequently might direct that interim fees and disbursements of attorneys and accountants be paid from the encumbered collateral. The bankruptcy court awarded Levin & Weintraub, attorneys for the debtor, $57,403.57; Bell, Wolkowitz, Kalnick, Klee, Green & Beckman, co-counsel to the Levin firm, $130,479.77; Angel & Frankel, attorneys for the Committee of Unsecured Creditors, $38,388.40; and Ernst & Whinney, the Committee's accountants, $22,966. In each instance, the award was 70% of the amount claimed. These awards were affirmed by the district court. We hold this to be error.

Section 364(c)(1) of the Code authorizes the issuance of a financing order, such as the one secured by Flagstaff, which will have "priority over any or all administrative expenses of the kind specified in section 503(b) or 507(b) of [the Code]." Among the administrative expenses listed in section 503(b), and thus reduced in priority by the Flagstaff Financing Order, are "compensation and reimbursement awarded under section 330 of [the Code]." Section 330 is the section that authorizes the bankruptcy court to make awards for services and expenses to attorneys and professional persons representing debtors or creditors' committees, which awards may be made on an interim basis pursuant to section 331.

Looking to the plain language of these sections, as we are bound to do, Caminetti v. United States, 242 U.S. 470, 485, 61 L. Ed. 442, 37 S. Ct. 192 (1917), we conclude that GECC's security interest has priority over appellees' claims for professional services, In re Malaspina, 30 Bankr. 267, 270 (Bankr. W.D. Pa. 1983); 3 Collier on Bankruptcy P507.05, at 507-44 (15th ed. 1984). To the extent that In re Callister, 15 Bankr. 521 (Bankr. D. Utah 1981), appeal dismissed, 673 F.2d 305 (10th Cir. 1982), relied upon by appellees, is to the contrary, we decline to follow it. Where, as here, the statutory language clearly expresses the congressional intent, a court may not read another meaning into the statute in order to arrive at a result which the court deems preferable. Central Trust Co. v. Official Creditors' Committee of Geiger Enterprises, Inc., 454 U.S. 354, 359-60, 70 L. Ed. 2d 542, 102 S. Ct. 695 (1982); In re Fidelity Mortgage Investors, 690 F.2d 35, 39-40 (2d Cir. 1982). Attorneys may, as Levin & Weintraub did here, secure a portion of their fee in advance. See Matter of Arlan's Dep't Stores, Inc., 615 F.2d 925, 935-37 (2d Cir. 1979). If attorneys need more encouragement than this to participate in chapter 11 proceedings, Congress, not the courts, must provide it. Under the law as it presently exists, knowledgeable bankruptcy attorneys must be aware that the priority ordinarily given to administration expenses may "prove illusive in light of the various provisions in the Code for competing or super-priorities." 2 Collier on Bankruptcy P364.02, at 364-6 (15th ed. 1984). Section 364(c)(1) is such a provision.

We conclude that the district court erred in holding that section 330 "empower[ed] the Bankruptcy Judge to make awards without reference to any schedule of priorities, without reference to any contractual agreement with respect to those priorities and on the basis of his assessment in the course of supervising the bankruptcy proceeding that if actual and necessary services have been rendered, they should be compensated for." We hold, instead, that any fees payable from GECC's collateral must be for services which were for the benefit of GECC rather than the debtor or other creditors. See Matter of Trim-X, Inc., 695 F.2d 296, 301 (7th Cir. 1983). Provision for such allowance is made in section 506(c), which provides: "The trustee [debtor in possession] may recover from property securing an allowed secured claim the reasonable, necessary costs and expenses of preserving, or disposing of, such property to the extent of any benefit to the holder of such claim." Congress's express intent in enacting section 506(c) was to ensure that, any time a debtor in possession "expends money to provide for the reasonable and necessary cost and expenses of preserving or disposing of a secured creditor's collateral, the . . . debtor in possession is entitled to recover such expenses from the secured party or from the property securing an allowed secured claim held by such party." 124 Cong. Rec. H11089 (daily ed. Sept. 28, 1978) (Statement of Rep. Edwards), reprinted in 1978 U.S. Code Cong. & Ad. News 6436, 6451. That is not the situation disclosed in appellees' affidavits.

It is undisputed that the chapter 11 proceedings were initiated with the hope of effectuating Flagstaff's rehabilitation and with optimism that this could be accomplished. Indeed, a less forthright purpose in seeking chapter 11 relief might preclude the awarding of any fees at all. See In re Casco Fashions, Inc., 490 F.2d 1197, 1204 (2d Cir. 1973). Such benefits as might be said to have accrued to GECC from the attempt to reorganize were incidental to the reorganization efforts and did not fall within the intended scope of section 506(c). See Matter of Trim-X, supra, 695 F.2d at 301; In re Codesco, Inc., 18 Bankr. 225, 228-30 (Bankr. S.D.N.Y. 1982).

As a matter of fact, it requires rather strained logic to conclude that GECC actually benefited from appellees' services. At the outset of the chapter 11 proceedings, GECC's $22 million claim against Flagstaff was secured by $42 million in collateral. When the chapter 11 proceedings aborted, the indebtedness had been reduced to $4 million, but this balance was substantially under-collateralized. In return for this "benefit", appellees now ...

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