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In re Creekside Vineyards

UNITED STATES DISTRICT COURT EASTERN DISTRICT OF CALIFORNIA


October 16, 2009

IN RE: CREEKSIDE VINEYARDS, INC., DEBTOR,
KATHLEEN LAGORIO JANSSEN, CHRIS LAGORIO, AND JOSEPH DONDERO, PLAINTIFFS,
v.
DAVID A. HIRSCH, AND DONALD F. HIRSCH, DEFENDANTS.

BK. No. 02-30522-B-11 ADV. PRO. No. 09-02085-B

MEMORANDUM AND ORDER RE: MOTION TO WITHDRAW REFERENCE

Plaintiffs Kathleen Lagorio Janssen, Chris Lagorio, and Joseph Dondero brought this action seeking a permanent injunction and order prohibiting defendants David A. Hirsch and Donald F. Hirsch from further litigating their pending state court suit against plaintiffs as precluded by the bankruptcy court's previous orders in Chapter 11 proceedings that were dismissed in January 2006. Defendants filed counterclaims against plaintiffs alleging breach of fiduciary duty, conspiracy to commit breach of fiduciary duty and breach of contract, intentional infliction of emotional distress, breach of California Corporations Code § 309, and breach of 18 U.S.C. § 154. Defendants now move to withdraw the reference of this adversarial action to bankruptcy court and transfer the matter to this court pursuant to 28 U.S.C. §§ 157(d)-(e).

I. Factual and Procedural Background

This dispute originates from protracted litigation over the corporate control of Creekside Vineyards, Inc. ("Creekside Inc."), a closely held corporation, and Creekside Vineyards, LP ("Creekside LP"), a related partnership. Defendants David A. Hirsch and Donald F. Hirsch own fifty shares of Creekside Inc. stock each, giving them one-third control of Creekside Inc. (Defs.' Req. Judicial Notice Ex. E.)*fn1 Plaintiffs Kathleen Lagorio Janssen ("Janssen") and Chris Lagorio ("Lagorio") together are also one-third owners of Creekside Inc., while the remaining shares were issued to Patrick N. McCarthy ("McCarthy"). (Id.) On August 18, 2001, at a shareholder meeting to elect directors and officers for Creekside Inc., Janssen asserted that McCarthy was in default on a promissory note to the corporation and was therefore not entitled to vote his stock. (Id. Ex. B. ¶¶ 3-5.) Janssen then voted the McCarthy stock to elect plaintiffs as Directors of the Corporation and Janssen as President, with defendants dissenting. (Id. Ex. E.) Defendants and McCarthy each filed lawsuits in state court in San Joaquin County seeking to determine the validity of the election of the Creekside Inc. Board. (See Id. Ex. C.)

On September 20, 2002, the same day as the state court indicated that it would likely grant defendants' request for an order directing that a special shareholder meeting to elect a new Board be held where McCarthy was eligible to vote his stock, plaintiffs filed for protection on behalf of Creekside Inc. and Creekside LP under Chapter 11 of the Bankruptcy Code in federal bankruptcy court. (Id. Ex. E.) Defendants moved to dismiss the Chapter 11 proceedings for bad faith and lack of jurisdiction, but their motion was denied. (Pls.' Req. Judicial Notice Ex. A.)*fn2 Defendants objected to the subject matter jurisdiction of the court and the illegitimacy of plaintiffs' bankruptcy petition because of their disputed election as Directors several times throughout the Chapter 11 proceeding. (Id.) Defendants additionally objected to motions authorizing the sale of the remaining assets of Creekside Inc. and Creekside LP and to authorize a compromise made with Creekside's landlord on the grounds that the bankruptcy petitions were unauthorized. (Id.) These objections were overruled. (Id.)

On June 17, 2005, while the Chapter 11 cases were still pending, defendants filed an action against plaintiffs in state court in San Joaquin County, alleging breach of fiduciary duty, conspiracy to commit breach of fiduciary duty and breach of contract, intentional infliction of emotional distress, breach of California Corporations Code § 309, and breach of 18 U.S.C. § 154. (Id.) On January 24, 2006 the bankruptcy court dismissed the Chapter 11 cases of both Creekside entities. (Id.) The court issued an order which stated that "[d]ismissal shall not affect the validity or enforcability of the following orders: (A) Order Approving Compromise of Controversy Related to Assumption of Real Property Leases (Dkt. No. 262); (B) Order Approving Debtors' Joint Verified Motion to Assume Non-Residential Property Leases and Approving Assignment of Same." (Id.)

On March 3, 2006, the Superior Court of San Joaquin County sustained demurrers to defendants' complaint on the ground that defendants' claims were barred by the doctrines of res judicata and collateral estoppel. (Id.) The California Third Appellate District reversed the Superior Court's decision on December 20, 2007, finding that the bankruptcy court was not a court of competent jurisdiction to make a final determination as to the legitimacy of plaintiffs' control of Creekside Inc. and Creekside LP and had not clearly "actually determined" that plaintiffs' control was legitimate. (Defs.' Req. Judicial Notice Ex. E 15.)

As the state litigation continued, plaintiffs requested that the bankruptcy court reopen bankruptcy proceedings to enforce their earlier orders in accordance with the January 2006 dismissal order. On November 3, 2008, plaintiffs' obtained an order from the bankruptcy court to reopen bankruptcy proceedings. (Defs.' Mem. Supp. Mot. Withdraw Reference 5:20-28.) Plaintiffs filed this action on February 2, 2009, asking the bankruptcy court to enjoin the continuation of defendants' state court litigation. (Pls.' Objection Mot. Withdraw Reference 3:8-10.)

On June 22, 2009, in response to the action, defendants filed an Answer and Counterclaims alleging the same claims as the lawsuit in San Joaquin County Superior Court. (Pls.' Req. Judicial Notice Ex. A.) Defendants demanded a jury trial on the counterclaims, and refused to consent to a jury trial in bankruptcy court. (Id.) The parties agreed to resolve the dispute by cross-motions for summary judgment based on the Amended Joint Final Agreed Statement of Facts. (Id.) Defendants filed this Motion to Withdraw along with their cross-motion for summary judgment on August 17, 2009.

II. Discussion

Congress enacted the Bankruptcy Amendments and Federal Judgeship Act of 1984 in response to the Supreme Court case Northern Pipeline Construction Co. v. Marathon Pipe Line Co., 458 U.S. 50 (1982), which held that the Bankruptcy Reform Act of 1978 "impermissibly shifted essential attributes of judicial power from the Article III district court to its non-Article III adjunct, the bankruptcy court." Sec. Farms v. Int'l Bhd. of Teamsters, Chauffers, Warehousemen & Helpers, 124 F.3d 999, 1008 (9th Cir. 1997). Under the 1984 law, district courts now have original jurisdiction over all cases arising under title 11 of the Bankruptcy Code, but may "'refer' bankruptcy cases to the bankruptcy judges for the district automatically. This authority [is] tempered, however, with a provision that the reference may or shall be withdrawn in certain situations." In re Casimiro, No. 07-1218, 2008 WL 4482851, at *1 (E.D. Cal. Sept. 29, 2008) (Ishii, J.) (quoting In re Vicars Ins. Agency, Inc., 96 F.3d 949, 951 (7th Cir. 1996)). Pursuant to 28 U.S.C. § 157(d), [t]he district court may withdraw, in whole or in part, any case or proceeding referred under this section, on its own motion or on timely motion of any party, for cause shown. The district court shall, on timely motion of a party, so withdraw a proceeding if the court determines that resolution of the proceeding requires consideration of both title 11 and other laws of the United States regulating organizations or activities affecting interstate commerce.

This language "contains two distinct provisions: the first sentence [for cause shown] allows permissive withdrawal, while the second sentence [United States laws affecting interstate commerce] requires mandatory withdrawal in certain situations." In re Coe-Truman Technologies, Inc., 214 B.R. 183, 185 (N.D. Ill. 1997). "The burden of demonstrating both mandatory and discretionary withdrawal is on the movant." In re U.S. Airways Group, Inc., 296 B.R. 673, 667 (E.D. Va. 2003).

A. Right to a Jury Trial

Pursuant to 28 U.S.C. § 157(e), "[i]f the right to a jury trial applies in a proceeding that may be heard under this section by a bankruptcy judge, the bankruptcy judge may conduct the jury trial . . . with the express consent of all the parties." Defendants filed counterclaims against plaintiffs and filed a timely demand for a jury trial. Defendants refused to consent to a jury trial before a bankruptcy court, and therefore contend that the court must immediately withdraw the reference to bankruptcy court under § 157(e) because they have a Seventh Amendment right to a jury trial.

It is uncontested that defendants have a right to a jury trial for their counterclaims because they have only sought damages unique to them as shareholders, rather than damages for Creekside Inc. as a whole. Jones v. H. F. Ahmanson & Co., 1 Cal.3d 93, 107-08 (1969). Defendants counterclaims only state claims for damages at law, entitling defendants to a jury trial under the Seventh Amendment. See DePinto v. Provident Sec. Life Ins. Co., 323 F.2d 826, 836-37 (9th Cir. 1963). However, as the Ninth Circuit pronounced in In re Healthcentral.com, "a Seventh Amendment jury trial right does not mean the bankruptcy court must instantly give up jurisdiction and that the case must be transferred to the district court. Instead, the bankruptcy court is permitted to retain jurisdiction over the action for pre-trial matters." 504 F.3d 775, 787 (9th Cir. 2007) (citations omitted).

The Ninth Circuit found that automatic withdrawal is not required first because "allowing the bankruptcy court to retain jurisdiction over pre-trial matters, does not abridge a party's Seventh Amendment right to a jury trial." Id. The court explained, "even if a bankruptcy court were to rule on a dispositive motion, it would not affect a party's Seventh Amendment right to a jury trial, as these motions merely address whether trial is necessary at all." Id. (citing Diamond Door Co. v. Lane-Stanton Lumber Co., 505 F.2d 1199, 1203 & n.6 (9th Cir. 1974)). Second, the court also found that "requiring that an action be immediately transferred to [the] district court simply because of a jury trial right would run counter to our bankruptcy system," a system that "promotes judicial economy and efficiency by making use of the bankruptcy courts unique knowledge of Title 11 and familiarity with the actions before them." Id. at 787-88. "Only by allowing the bankruptcy court to retain jurisdiction over the action until trial is actually ready do we ensure that our bankruptcy system is carried out." Id. at 788.

Here, both parties have drafted an Agreed Statement of Facts and are awaiting resolution of cross-motions for summary judgment on the limited issue of whether the bankruptcy court should issue an injunction requiring defendants to dismiss their state litigation. Plaintiffs answered defendants' counterclaims on July 13, 2009, and no further action has been taken on the counterclaims. Clearly, any jury trial on the counterclaims is distant and defendants' Seventh Amendment right to a jury trial is not harmed by the bankruptcy court's determination of pre-trial motions. Accordingly, defendants' motion to withdraw the reference on the basis of a Seventh Amendment right to jury trial is premature.

B. Mandatory Withdrawal

Withdrawal of the reference to bankruptcy court is mandatory if "resolution of the proceeding requires consideration of both title 11 and other laws of the United States regulating organizations or activities affecting interstate commerce." 28 U.S.C. § 157(d). The Ninth Circuit has followed other circuits and stated in dictum that mandatory withdrawal hinges "on the presence of substantial and material questions of federal law." Sec. Farms, 124 F.3d at 1008 n.4; see e.g., In re Vicars, 96 F.3d at 952; In re Iconosphere Clubs, Inc., 922 F.2d 984, 995 (2d Cir. 1990), cert. denied, 502 U.S. 808 (1991). The mandatory withdrawal provision should be construed narrowly to avoid creating an "'escape hatch' by which bankruptcy matters could easily be removed to the district court." Stratton v. Garcia, No. CIV-F-06-1495 AWI, 2007 WL 512506, at *1 (E.D. Cal. Feb. 12, 2007) (Ishii, J.) (quoting In re Vicars, 96 F.3d at 952). Accordingly, "the issues in question [should] require more than the mere application of well-settled . . . non-bankruptcy law." In re Vicars, 96 F.3d at 953.

Under the plain meaning of the statute, the substantial and material question of non-bankruptcy federal law must also be regarding a federal law "regulating organizations or activities affecting interstate commerce." See 28 U.S.C. § 157(d). "If Congress intended all actions involving constitutional issues to be subject to mandatory withdrawal it could have so provided . . . [i]nstead, Congress in § 157(d)'s mandatory withdrawal provision requires district courts to withdraw the reference only for those cases involving the interpretation of federal laws regulating organizations or activities affecting interstate commerce." In re Roman Catholic Bishop of San Diego, No. 07cv1355-IEG(RBB), 2007 WL 2406899, at *3 (S.D. Cal. Aug. 20, 2007); see United States v. One Parcel of Real Property, 137 B.R. 802, 805 (D. Or. 1992).

Defendants contend that a number of jurisdictional and constitutional issues are substantial and material questions of federal law that warrant mandatory withdrawal of the reference. Defendants argue that four jurisdictional issues mandate withdrawal. First, defendants claim that the propriety of any injunction from the bankruptcy court requiring dismissal of their state proceedings turns on the Younger doctrine, which cautions federal courts to refrain from exercising jurisdiction over matters where they interfere with state court proceedings. See Younger v. Harris, 401 U.S. 37, (1971). Second, defendants argue that there is a serious question as to whether the ongoing proceedings in bankruptcy court violate the Anti-Injunction Act, 28 U.S.C. § 2283, which prohibits a federal court from granting an injunction to state proceedings in a State court unless authorized by Congress or if necessary to protect and effectuate its judgments. Third, defendants contend that there is a substantial question whether the bankruptcy court must abstain from the proceedings because of the mandatory or discretionary provisions of 28 U.S.C. § 1334(c), which authorize federal courts to refrain from hearing a particular proceeding in the interest of comity with state courts or out of respect of state law. Finally, defendants argue that there is a question as to whether the proceedings must be dismissed to give full faith and credit to the ruling of the California Court of Appeals rejecting plaintiffs' res judicata and collateral estoppel defenses in state court pursuant to 28 U.S.C. § 1738.

None of these jurisdictional issues require the interpretation of any federal law that regulates organizations or activities affecting interstate commerce. The court cannot find that these questions come within the narrow confines of § 157(d) without a demonstration that this action requires interpretation of a federal law that regulates activities affecting interstate commerce. The jurisdictional issues presented are not related to statutes regulating activities that affect interstate commerce. Were the court to hold otherwise, literally any case tangentially touching upon any federal statute or involving individuals engaged in interstate commerce would have to be withdrawn to federal district court. This would create the exact "escape hatch" Congress wished to avoid when it enacted § 157. See In re Vicars, 96 F.3d at 952; Stratton v. Garcia, 2007 WL 512506 at *1.

Regardless, defendants' jurisdictional issues do not involve "substantial and material" questions of federal law. The federal issues invoked by defendants involve well-settled statutory and common law doctrines relating to federal jurisdiction. The contours of these doctrines are well defined. Defendants have not provided a reason to believe that resolution of these issues would require "'significant interpretation' of the non-Code statute[s]," rather this appears to be a case that would require mere application of "'hornbook' non-bankruptcy law." In re Vicars, 96 F.3d at 953. None of the questions presented involve novel or intricate federal law questions that require the expertise of the court.

Defendants also raise a number of constitutional issues that they argue necessitate mandatory withdrawal. Defendants first contend that this action presents the question of whether Article III prohibits a bankruptcy court from reopening Chapter 11 proceedings for the purposes of hearing adversary proceedings by non-debtors against third parties seeking to enjoin pending state proceedings. Second, defendants argue that the Fifth Amendment procedural due process provisions may prohibit the bankruptcy court's previous order dismissing the Chapter 11 cases without a final appealable order of plan of reorganization.

Defendants' constitutional questions also fail to establish a case for mandatory withdrawal. First, "[a]n action alleging a violation of the federal constitution does not rely, as a source of authority, upon the Commerce Clause." In re Roman Catholic Bishop of San Diego, 2007 WL 2406899 at *3. Defendants have not demonstrated that the Article III and Fifth Amendment challenges they argue are material to the judgment are related to interstate commerce, and therefore their claims cannot provide a basis for withdrawal under § 157(d). Second, defendants have not demonstrated that the constitutional issues they raise are "substantial and material." A bankruptcy court's ability to reopen proceedings is well-established, and the contours of the Fifth Amendment due process in the area of bankruptcy litigation are similarly well-settled. See In re Shondel, 950 F.2d 1301, 1307-09 (7th Cir. 1991); In re Roman Catholic Bishop of San Diego, 2007 WL 2406899 at *2. The constitutional issues presented by defendants are not the kind of issues that give rise to mandatory withdrawal under § 157(d).

C. Permissive Withdrawal

Although defendants' assertion of its right to a jury trial is premature and withdrawal is not mandatory, this conclusion does not end the court's inquiry; where a withdrawal of reference is not required, a district court may still withdraw "any case or proceeding referred [to the bankruptcy court] . . . for cause shown." 28 U.S.C. § 157(d). To determine whether "cause" for withdrawal exists, a district court considers several factors, including "the efficient use of judicial resources, delay and costs to the parties, uniformity of bankruptcy administration, the prevention of forum shopping, and other related factors." Sec. Farms, 124 F.3d at 1008 (citing In re Orion Pictures Corp., 4 F.3d 1095, 1101 (2d Cir. 1993)). In this inquiry, the court "should first evaluate whether the claim is core or non-core, since it is upon this issue that questions of efficiency and uniformity will turn." Orion, 4 F.3d at 1101; accord In re Daewoo Motor Am., Inc., 302 B.R. 308, 311 (C.D. Cal. 2003).

In general, a claim is "core" if it "invokes a substantive right provided by title 11 or . . . by its nature, could arise only in the context of a bankruptcy case." In re Gruntz, 202 F.3d 1074, 1081 (9th Cir. 2000) (quoting In re Wood, 825 F.2d 90, 97 (5th Cir. 1987)). In contrast, "non-core" claims "are those not integral to the restructuring of debtor-creditor relations and not involving a cause of action arising under title 11." Id. (citing In re Windsor Commc'ns Group, 75 B.R. 713, 721 (E.D. Pa. 1985)). Under 28 U.S.C. § 157(b)(3), "[t]he bankruptcy judge shall determine, on the judge's own motion or on timely motion of a party, whether a proceeding is a core proceeding under this subsection or is a proceeding that is otherwise related to a case under title 11."

Courts in the Third Circuit have held that, "in the context of a motion to withdraw the reference, . . . § 157(b)(3) requires the bankruptcy judge to make the initial determination of whether a proceeding is core or non-core." Thomason Auto Group, LLC v. China Am. Co-op. Auto., Inc., No. 08-3365, 2009 WL 512195, at *5 n.6 (D.N.J. Feb. 27, 2009); accord Certain Underwriters At Lloyd's of London v. Otlowski, No. 08-3998, 2009 WL 234957, at *2 (D.N.J. Jan. 29, 2009); see Travellers Int'l AG v. Robinson, 982 F.2d 96, 97-98 (3d Cir. 1992). After closer examination, however, this court agrees with certain district courts in the Ninth Circuit that the plain language of § 157(b)(3) simply describes "the scope of authority for bankruptcy courts under section 157 once federal jurisdiction is found to exist" and "does not prohibit the district court from determining whether a proceeding is core or non-core where . . . there has been no prior determination." In re Don's Making Money, LLLP, No. 07-319, 2007 WL 1302748, at *4 (D. Ariz. May 1, 2007).

Nonetheless, several decisions from the Ninth Circuit Court of Appeals have interpreted § 157(b)(3) to express, at a minimum, a clear preference for the bankruptcy judge to initially determine whether a claim is properly characterized as core or non-core. See, e.g., In re Coupon Clearing Serv., Inc., 113 F.3d 1091, 1097 (9th Cir. 1997) ("The bankruptcy court makes the initial determination whether a case is a core proceeding or an otherwise related proceeding." (citing 28 U.S.C. § 157(b)(3))); In re Int'l Nutronics, Inc., 28 F.3d 965, 969 (9th Cir. 1994) ("We need not decide whether Robertson's antitrust claim would have qualified as a core proceeding, a determination to be made in the first instance by the bankruptcy court." (citing 28 U.S.C. § 157(b)(3))). Decisions from this district bolster this interpretation as well. See Williams v. Sanderson Cmtys., Inc., No. 07-2366, 2009 WL 728464, at *1 (E.D. Cal. Mar. 19, 2009) (Karlton, J.) ("[S]section 157 requires that the determination of whether a matter is a core proceeding be performed by the bankruptcy judge . . . . When the bankruptcy court has not made that determination, remand to that court is appropriate.")

At this time, the bankruptcy court has yet to determine whether this adversarial proceeding is core or non-core. Ultimately, because the bankruptcy court has been administering the underlying bankruptcy proceeding in this case since September 2002, permitting that court to first determine whether this adversarial proceeding is core or non-core would be solicitous not only of that court's "unique knowledge of Title 11," but also to its "familiarity with the action[]." In re Healthcentral.com, 504 F.3d at 787-88. Accordingly, the court will decline to exercise its discretion to permissively withdraw the reference until the bankruptcy court has had an opportunity to make an initial determination of whether the action is core or non-core. See Williams, 2009 WL 728464, at *2.

IT IS THEREFORE ORDERED that defendants' motion to withdraw reference be, and the same hereby is, DENIED without prejudice.


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