United States District Court, S.D. New York
May 19, 2004.
In re SMART WORLD TECHNOLOGIES, LLC, FREEWWWEB, LLC, and SMART WORLD COMMUNICATIONS, INC., Debtors SMART WORLD TECHNOLOGIES, LLC., et al., Appellants, -against- JUNO ONLINE SERVICES, INC., et al., Appellees
The opinion of the court was delivered by: DENISE COTE, District Judge
This is an appeal from the Bankruptcy Court's approval of a settlement
of an adversary proceeding. For the following reasons, the decision below
is affirmed and the appeal is denied.
Appellants Smart World Technologies, LLC, Freewwweb, LLC and Smart
World Communications, Inc. (collectively, "Smart World") filed voluntary
petitions for relief under chapter 11 of the Bankruptcy Code on June 29,
2000. Smart World was in the business of providing free internet access
to its subscribers and had attempted to locate a purchaser for its
assets, which were essentially a list of subscribers. Juno Online
Services, Inc. ("Juno") was the only bidder and through a term sheet,
also executed on June 29, agreed to pay for each Smart World subscriber
who became a "Qualified Subscriber", which was a subscriber defined in
the term sheet as a person who, among other things, remained a Juno
subscriber for at least a 90 day period. Smart World was required by its
agreement with Juno to file for bankruptcy. On July 19, the Bankruptcy
Court approved the sale to Juno.
Almost immediately, Juno and SmartWorld accused each other of wrongdoing. On August 16, Juno commenced an adversary proceeding
seeking a declaration, inter alia, that it had done no wrong and that
Smart World had breached its obligations under the term sheet. On
December 22, Smart World answered and filed counterclaims. Juno exercised
its right under the term sheet to cease accepting referrals of
subscribers as of December 31.
On February 28, 2001, the Bankruptcy Court stayed the adversary
proceeding upon being advised that a potential settlement was under
consideration. A certain amount of discovery had already occurred by that
time. When the settlement did not materialize, the parties were referred
to mediation. Eventually a settlement was reached between Juno and almost
all of Smart World's creditors.
There are two groups of creditors endorsing the settlement. MCI
WorldCom Network Services, Inc. and UUNET Technologies, Inc.
(collectively "WorldCom") asserts that it has a perfected, senior secured
claim against Smart World of over $10.9 million, and unsecured claims of
approximately $14 million. The Official Committee of Unsecured Creditors
("Committee") estimates claims of at least $20 million. Under the
settlement Juno would pay these creditors $5 million.
Smart World objected to the settlement and has filed this appeal from
the Bankruptcy Court's September 11, 2003 approval of the settlement. As
the foregoing claims of the creditors illustrate, for Smart World's
shareholders to begin to receive any payment whatsoever from Juno, the
litigation between Juno and Smart World would have to yield close to $45 million.
A district court "may affirm, modify, or reverse a bankruptcy judge's
judgment, order, or decree." Rule 8013, F.R.Bankr.P. The Court must
review the Bankruptcy Court's findings of fact for clear error and its
legal conclusions de novo. In re Robert N. Kornfield, 164 F.3d 778, 783
(2d Cir. 1999).
Rule 9019(a), F.R.Bankr.P., provides that
On motion by the trustee and after notice and a
hearing, the court may approve a compromise or
settlement. Notice shall be given to creditors, the
United States trustee, the debtor, and indenture
trustees as provided in Rule 2002 and to any other
entity as the court may direct.
Id. A bankruptcy court has broad discretion to approve settlements
reached under Rule 9019, and need only satisfy itself that the settlement
is "within the range of reasonableness." In re Best Product Co., Inc.,
68 F.3d 26, 33 (2d Cir. 1995). A court should affirm the bankruptcy
court's decision unless it falls below the "lowest point in the range of
reasonableness." In re Teletronics Services, Inc., 762 F.2d 185
, 189 (2d
Cir. 1985) (citation omitted).
The Bankruptcy Court's decision was reasonable. Should Smart World lose
the adversary proceeding, Juno may be relieved of responsibility to pay
anything to the estate and its creditors. Smart World acknowledges that
if it is successful in the litigation it may be entitled to as little as
$4 million. The fact that creditors, who are represented by experienced counsel
and who have substantial claims, are willing to accept $5 million from
the only viable source of recovery is substantial evidence in favor of
the settlement. Finally, the settlement was the result of significant
Smart World contends principally that any motion to settle claims under
Rule 9019(a) must be brought by the bankruptcy trustee or the
debtor-in-possession. As the debtor-in-possession, its consent to the
settlement was required and was not given. It argues, therefore, that the
settlement must be vacated.
None of the parties have been able to point to any case law addressing
this precise point. It is axiomatic, however, that bankruptcy courts are
"courts of equity, empowered to invoke equitable principles to achieve
fairness and justice in the reorganization process." In re Momentum Mfg.
Corp., 25 F.3d 1132, 1136 (2d Cir. 1994); see also In re Dairy Mart
Convenience Stores, Inc., 351 F.3d 86, 92 (2d Cir. 2003). Specifically,
Section 105(a) of the Bankruptcy Code grants bankruptcy courts the
equitable power to
issue any order, process, or judgment that is
necessary or appropriate to carry out the provisions
of this title. No provision of this title providing
for the raising of an issue by a party in interest
shall be construed to preclude the court from, sua
sponte, taking any action or making any determination
necessary or appropriate to enforce or implement court
orders or rules, or to prevent an abuse of process.
11 U.S.C. § 105 (a).
Smart World had a fiduciary obligation to protect the interests of its creditors and maximize recovery for the estate. See In
re Commodore Intern. Ltd., 262 F.3d 96, 99 (2d Cir. 2001); In re
Cybergenics Corp., 226 F.3d 237, 243 (3d Cir. 2000). When it fails to act
as it should, others may act in the best interest of the estate, even in
the absence of explicit authorization in the Bankruptcy Code. For
example, in In re Housecraft Indus. USA, Inc., 310 F.3d 64 (2d Cir.
2002), the Second Circuit reaffirmed that "an unsecured creditor may
initiate an adversary proceeding in the name of a debtor-in-possession if
the debtor-in-possession unjustifiably refuses to bring suit." Id. at
70. See also Official Comm. of Unsecured Creditors of Cybergenics Corp.
ex rel. Cybergenics Corp. v. Chinery, 330 F.3d 548, 568 (3d Cir. 2003)
(creditor's committee has derivative standing to bring an action to
benefit the estate when the debtor who had a fiduciary duty to the estate
refused to do so).
When Smart World opposed the settlement, it put at risk the concrete
opportunity for its creditors to obtain some recovery, acting on what
must be characterized as an unrealistic hope that continued litigation
would be so wildly successful that it might yield some recovery for its
equity holders. In these circumstances, the Bankruptcy Court was entitled
to act and to approve the settlement even without any motion from or the
consent of the debtor-in-possession.
The remaining claims of Smart World have been considered and are
The September 11, 2003 approval of the settlement of the adversary
proceeding in this matter is affirmed. The appeal is denied.
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