Opinion ID: 444219
Heading Depth: 1
Heading Rank: 4

Heading: Res Judicata--The Trustee in Bankruptcy

Text: 50 Neither Parsons-Montgomery nor the trustee in bankruptcy for Parsons-Montgomery (Trustee) was a party to the BHCA action. Viewing the federal and state actions based on the Bank's presale activities as frivolous, the Trustee declined to participate in either action. In the state court action, however, he was involuntarily joined as a party plaintiff. The Trustee later amended the state complaint to join the UCC claim. He was delightfully surprised with a two million dollar judgment in the state suit, and is now arguing vigorously that the federal district court injunction was an abuse of discretion. 51 In addition to arguing most of the issues previously addressed in this opinion, the Trustee also asserts that the BHCA judgment cannot be res judicata as to him, because he was not a party to that suit. The district court in this injunction proceeding found that the Trustee was bound by res judicata because he was in privity with the plaintiffs in the BHCA action. Under the federal law of res judicata, a person may be bound by a judgment even though not a party if one of the parties to the suit is so closely aligned with his interests as to be his virtual representative. Aerojet-General Corporation v. Askew, 511 F.2d 710, 719 (5th Cir.1975), cert. denied, 423 U.S. 908, 96 S.Ct. 210, 46 L.Ed.2d 137 (1975). The question of whether a party's interests in a case are virtually representative of the interests of a non-party is one of fact for the trial court. 511 F.2d at 719. 52 The district court found that the Trustee was in privity with the Parsons as to all claims that were or should have been raised in the federal action and therefore the Trustee was barred by res judicata to the same extent as the Parsons. We may reverse the district court's findings of privity only if clearly erroneous. 53 A finding of privity is no more than a finding that all of the facts and circumstances justify a conclusion that non-party preclusion is proper. Wright, Miller, & Cooper, 18 Federal Practice and Procedure Sec. 4459, at p. 418 (1981). Modern decisions search directly for circumstances that justify preclusion... This process often leads to a conclusion that preclusion is justified as to some matters but not others. Id., at p. 419. In order to determine whether the district court was clearly erroneous in its finding of privity we must examine the facts and circumstances surrounding both the fraud and the UCC claims.
54 The district court found that the cause of action asserted in the BHCA action belonged primarily to Parsons-Montgomery. That corporation would have been entitled to all or part of the damages awarded if the Parsons had prevailed on the liability question. The Parsons' interests in the BHCA action were therefore virtually representative of Parsons-Montgomery. In determining that the Trustee for Parsons-Montgomery was also virtually represented by the Parsons in the BHCA action, the district court relied on In re Four Corners Enterprises, 17 B.R. 156 (Bkrtcy.M.D.Tenn.1982), which rejected the argument that a trustee in bankruptcy who was not a party to a federal action should not be barred by res judicata principles from bringing a state court action. The district court opinion included the following quotation from In re Four Corners: 55 The trustee was well aware of these proceedings (the prior federal action) and made no effort to intervene as an interested party. The trustee's inaction inveighs against now allowing him to relitigate the same issue previously decided in the federal district court proceeding. [citations omitted] Furthermore, the trustee has employed as attorney to pursue this action the same attorney who represented the Fields in their suit against the defendant in federal district court. Under these circumstances, the trustee cannot complain that he lacked a full and fair opportunity to litigate the issue in question at the federal district court proceeding. Collateral estoppel thus precludes the trustee from relitigating this issue. Four Corners, supra, at 160. (parenthetical expression added). 56 Also of value in this analysis is the district court's quotation taken from Paradise v. Vogtlandishe Maschinen-Fabrik, 99 F.2d 53, 55 (3rd Cir.1938): 57 It is settled that a pending action will not abate merely because of the bankruptcy of the plaintiff. [citations omitted] In such a case the trustees in bankruptcy may either assume prosecution of the action with the court's approval, consent to its continued prosecution by the bankrupt for their benefit, or decline to prosecute it because it is likely to involve them in fruitless expense. [citations omitted] If the trustees decline or fail to prosecute the action the bankrupt may continue its prosecution to judgment. [citations omitted] Furthermore if the suit is thus continued by the bankrupt the trustees will be concluded by the judgment. [citation omitted]. 58 The federal suit alleged that the Bank's actions in negotiating the loan and in conspiring with Michael Orange violated the BHCA. The BHCA action was pending in federal court when Parsons-Montgomery was adjudicated bankrupt. The Trustee was aware of the federal court proceeding and was free to intervene on the bankrupt corporation's behalf. Instead, he declined to get involved because he felt the suit was frivolous and would be a waste of money for the unsecured creditors he represents. The facts that allegedly constituted a violation of the BHCA in the federal action were identical to the facts that allegedly constituted fraud in the state action, and, in both cases, the entity primarily wronged by the Bank's alleged activities was Parsons-Montgomery, the bankrupt corporation. The district court found that if recovery were warranted under either of these theories--BHCA or fraud--Parsons-Montgomery, and thus the Trustee, would be the party entitled to most of the damages. The district court therefore correctly found that the Trustee had an identity of interests with the plaintiffs in the BHCA action and that the Trustee was virtually represented by the Parsons as to the issues litigated in that action. As to the fraud claim, therefore, the district court did not err in its finding of privity. Since the fraud claim could and should have been raised in the federal action as an alternate theory of recovery for the same wrong, the Trustee is barred by res judicata from bringing the fraud claim in the state court.
59 After the Trustee was involuntarily joined in the state action, and almost a year after the federal court judgment in the Bank's favor, the Trustee amended his complaint to include the UCC claim that the foreclosure sale was commercially unreasonable. Until that point in the litigation, the state action against the Bank was based on factual allegations which had been fully adjudicated in the BHCA action. With the addition of the UCC claim, however, the state action began to involve fact questions which the district court found were part of the federal complaint, but which were not reached in the federal litigation. The district court correctly held that the Parsons are barred from litigating the UCC claim in state court because they should have raised it in the BHCA action. The unique facts of this case, however, cause us to be reluctant to automatically find the Trustee was in privity with the Parsons as to the UCC claim. 60 The district court found that the federal BHCA action and the state actions for fraud and commercial unreasonableness were based on the same factual allegations. The record clearly supports this finding as to the fraud claim. The record on appeal is insufficient however, to determine whether this finding is correct as to the UCC claim. As noted in footnote 11, supra, the record on appeal is not clear as to whether the claim of commercial unreasonableness rests on allegations of improprieties in the handling of the sale itself or whether it rests on the same allegations of pre-sale improprieties that formed the basis of the fraud and BHCA claims. As to the Parsons, this distinction is of no consequence--regardless of the basis of the UCC claim, the events leading up to the sale and the sale itself constituted a series of connected transactions, and the Parsons should have raised commercial unreasonableness in the federal action. We believe, however, that as to the Trustee, the basis of the UCC claim must be determined. A finding of privity as to one claim does not necessarily and automatically extend that finding to all claims. Since the Trustee was not a party to the federal action and since the reasonableness of the sale price was not adjudicated in that action, we believe that equity demands we examine the basis of the UCC claim in order to determine whether a finding of privity as to that claim is justified in light of the circumstances. 61 If the UCC claim merely alleges that improprieties involving the Bank and Michael Orange prior to the sale resulted in the receipt of an unfairly low price for the company's assets, then the district court was correct in finding privity and barring the Trustee from asserting the UCC claim in state court. The Bank has already been required to defend its relationship with Michael Orange and OSI, Inc. and its role in the events leading up to the sale. These are the facts underlying the BHCA and fraud claims. The Trustee is in privity with the Parsons as to the adjudication of those facts and is bound by the federal adjudication of those matters. 62 If, however, the UCC claim is based on alleged improprieties connected with the conduct of the foreclosure sale itself (separate and apart from any of the events leading up to the sale), under the facts of this case equity dictates that the Trustee be allowed to pursue this narrow claim in state court. The record shows that the Trustee made a conscious decision not to join in the federal suit because the suit was based solely on a federal cause of action involving solely the pre-sale events, and the Trustee correctly believed the action to be without merit. He did not believe there was a meritorious action based on those facts and he did not voluntarily join the state court fraud action based on those same facts. When he was involuntarily joined in the state suit he raised the claim he did believe had merit--the state law UCC claim. Neither the reasonableness of the handling of the foreclosure sale nor the sufficiency of the sale price had been adjudicated in the federal action. Moreover, the claims originally pursued by the Parsons--the BHCA and the fraud claim--allowed the possibility of their recovering treble or punitive damages, respectively. The UCC claim presumably leads only to an award of damages amounting to the difference between a fair price for the company assets and the price actually received. The Parsons showed no interest in pursuing a UCC claim until it was added by the Trustee in the state court. Assuming that the Trustee's UCC claim is based on factual allegations different from those underlying the fraud and BHCA claims, the parties' interests were not so closely aligned as to say the Parsons virtually represented the Trustee as to this narrow claim that the Parsons did not raise in the federal action. 63 The above considerations lead us to conclude that the unique circumstances of this case do not justify preclusion of a UCC claim based on facts involving solely the conditions of the sale itself and the Trustee should not be found to be in privity with the Parsons as to such a claim. A finding of privity in these circumstances would be clearly erroneous. 64 It is therefore necessary to remand the case for findings of fact regarding what allegations form the basis of the Trustee's UCC claim. If the UCC claim is found to be based solely on the actual handling of the foreclosure sale (method, time, place, manner, etc.), the injunction should be modified to allow the Trustee to pursue this claim. Forcing the Bank to litigate this particular issue is not as inequitable as allowing relitigation of the events leading up to the foreclosure sale, since facts involving the actual sale were not developed in the federal action. Because the state judgment was a general verdict, the district court's injunction against the enforcement of the entire judgment must stand. If the Trustee does have a separate cause of action based on the actual sale, he must pursue it in a separate proceeding. 65 We therefore hold that, in general, the injunction was not an abuse of discretion. We remand the case 16 for further fact findings to determine whether the injunction should be modified to allow the Trustee to pursue his UCC claim based only on the actual foreclosure sale. 66 AFFIRMED IN PART and REMANDED IN PART, with costs of appeal assessed against appellants.