Court Opinion

ID: 8212475
Source: CourtListenerOpinion
Date Created: 2022-10-07 00:00:23.822799+00
Date Added: 2024-06-11T16:42:10.553207
License: Public Domain

Case: 22-40371     Document: 00516500074         Page: 1    Date Filed: 10/06/2022

           United States Court of Appeals
                for the Fifth Circuit                            United States Court of Appeals
                                                                          Fifth Circuit

                                                                        FILED
                                                                  October 6, 2022
                                  No. 22-40371                     Lyle W. Cayce
                                                                        Clerk

   In the Matter of J. C. Penney Direct Marketing
   Services, L.L.C.

                                                                             Debtor,

   Klairmont Korners, L.L.C.,

                                                                         Appellant.

                  Appeal from the United States District Court
                      for the Southern District of Texas
                            USDC No. 2:21-cv-139

   Before Higginbotham, Graves, and Ho, Circuit Judges.
   Per Curiam:
          Klairmont Korners, L.L.C. (“Klairmont”) appeals a district court
   order denying its claim that a debtor’s decision to reject a commercial lease
   pursuant to 11 U.S.C. § 365 should not receive deference under the business
   judgment rule because of “bad faith, whim, or caprice” inherent in a third
   party’s negotiations with Klairmont. Because Klairmont’s contentions fail
   under this court’s own standard for overcoming the business judgment rule,
   as well as the “bad faith” test Klairmont encourages us to adopt, we affirm.
Case: 22-40371     Document: 00516500074           Page: 2   Date Filed: 10/06/2022

                                    No. 22-40371

                                         I.
          Klairmont obtained a sublease from J.C. Penney Properties, Inc.
   (“JCP”) for commercial real estate, where the latter acted as a pass-through
   entity between Klairmont and the landowner. In 2020, JCP filed for relief
   under Chapter 11 of the Bankruptcy Code, allowing it to assume or reject
   ongoing commercial leases pursuant to 11 U.S.C. § 365. Given that the lease
   and sublease locked in below-market rates, Klairmont stood to gain from
   assumption, while the landowner would benefit from rejection. A real estate
   agent hired to negotiate with the parties provided Klairmont with false
   information to start a bidding war among interested parties and hindered the
   company’s ability to participate fully in the process, although JCP did
   eventually receive Klairmont’s increased bids. Following negotiations, and
   at the direction of the company purchasing its assets, JCP chose to reject its
   sublease to Klairmont, a decision generally afforded deference under the
   business judgment rule.
          The bankruptcy court acknowledged that the process was “not one
   that we can be proud of” but asserted that the decision to reject the lease
   rested on JCP’s own business judgment regarding the financial benefits of
   each option. Klairmont appealed the bankruptcy court’s order to the district
   court, which affirmed. Klairmont then appealed to this court on two issues:
   (1) whether “bad faith, whim, or caprice” inherent in a third party’s
   negotiation of contract rejection under § 365 overcomes the business
   judgment rule, and (2) whether JCP’s action at the direction of the company
   purchasing its assets insulated it from this “bad faith” standard. Because
   Klairmont’s formulation of its proposed standard lacks merit, we do not
   address the second issue.

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                                            No. 22-40371

                                                  II.
           In bankruptcy cases, this court employs the same standard of review
   as a district court sitting in an appellate capacity. 1 The district court reviews
   a bankruptcy court’s findings of fact under a clearly erroneous standard and
   conclusions of law de novo, so we will do likewise. 2 We review de novo, and we
   have jurisdiction under 28 U.S.C. § 158(d).
           The federal Bankruptcy Code states that a “trustee [or debtor],
   subject to the court’s approval, may assume or reject any executory
   contract.”3 Executory contracts include those agreements under which
   “each side has at least one material unperformed obligation as of the
   bankruptcy petition date,”4 a category that includes the sublease at issue in
   this dispute. A bankruptcy court reviews a debtor’s decision to assume or
   reject an executory contract under the deferential “business judgment”
   standard.5 We have held that “as long as assumption of a lease appears to
   enhance a debtor’s estate,” a bankruptcy court should only withhold
   approval when “the debtor’s judgment is clearly erroneous, too speculative,
   or contrary to the provisions of the Bankruptcy Code.”6 Furthermore, “it is

           1
            In re SI Restructuring, Inc., 542 F.3d 131, 134 (5th Cir. 2008); Richmond Leasing
   Co. v. Cap. Bank, N.A., 762 F.2d 1303, 1309 (5th Cir. 1985).
           2
               Matter of Berryman Prods., Inc., 159 F.3d 941, 943 (5th Cir. 1998).
           3
               11 U.S.C. § 365.
           4
            Matter of Falcon V, L.L.C., 44 F.4th 348, 352 (5th Cir. 2022) (citing In re Weinstein
   Co. Holdings L.L.C., 997 F.3d 497, 504 (3d Cir. 2021)).
           5
           Mission Prod. Holdings, Inc. v. Tempnology, LLC, 139 S. Ct. 1652, 1658 (2019);
   Richmond Leasing Co. v. Cap. Bank, N.A., 762 F.2d 1303, 1308–09 (5th Cir. 1985).
           6
               Richmond Leasing Co., 762 F.2d at 1309.

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                                           No. 22-40371

   the debtor who decides whether to maintain the contract,” rather than any
   third party.7
          In applying the business judgment standard, Klairmont encourages
   this court to additionally ask whether JCP’s decision “is the product of bad
   faith, or whim, or caprice.”8 We do not adopt that test today, but we
   nonetheless demonstrate that Klairmont’s claim fails under both standards.
                                               III.
          Klairmont misapprehends the lens through which courts view the
   business judgment rule. The question is not whether the debtor’s decision
   reasonably protects the interests of other parties, but rather whether the
   decision “appears to enhance a debtor’s estate.”9 This distinction proves
   fatal to Klairmont’s claim, as bankruptcy, by definition, often adversely
   affects the interests of other parties. The long-standing purpose of allowing
   debtors to shed executory contracts is to afford trustees and assignees the
   opportunity to reject “property of an onerous or unprofitable character.” 10
   The correct inquiry under the business judgment standard is whether the
   debtor’s decision regarding executory contracts benefits the debtor, not
   whether the decision harms third parties.
          Klairmont does not contend that JCP’s decision to reject the lease
   failed to enhance its estate. Neither does Klairmont assert that JCP’s action
   on behalf of its estate was clearly erroneous, too speculative, or contrary to

          7
              In re Nat’l Gypsum Co., 208 F.3d 498, 505 (5th Cir. 2000).
          8
              In re Wheeling-Pittsburgh Steel Corp., 72 B.R. 845, 849 (Bankr. W.D. Pa. 1987).
          9
              Richmond Leasing Co., 762 F.2d at 1309.
          10
             Vern Countryman, Executory Contracts in Bankruptcy: Part I, 57 MINN. L. REV.
   439, 440 (1973).

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                                              No. 22-40371

   the Bankruptcy Code. Under this court’s guidance, our inquiry can stop
   there.
            Klairmont’s position is untenable, however, even under the test it
   proposes we adopt from another circuit, under which courts should not defer
   to a debtor’s decision under § 365 that is “the product of bad faith, or whim,
   or caprice.”11 Klairmont misunderstands this standard, urging this court to
   hold that any bad faith involved in the bankruptcy proceedings should prompt
   a bankruptcy court to decline a debtor’s decision regarding an executory
   contract. That is not the test these other courts have adopted. The authority
   Klairmont cites states that the issue is “whether the decision of the debtor
   that rejection will be advantageous is so manifestly unreasonable that it could
   not be based on sound business judgment, but only on bad faith, or whim or
   caprice.”12 Under this standard, too, the question revolves around benefit to
   the debtor, not bad faith affecting third parties.
             The other opinions Klairmont cites do not strengthen its argument.
   To bolster support for its “bad faith” standard, appellant cites In re Pilgrim’s
   Pride Corporation for the assertion that “[t]he business judgment rule does
   not provide [debtors] unfettered freedom to use the power given by Code §
   365(a) however they will.”13 Yet the bankruptcy court in that case
   disapproved of the debtor’s action because the debtor rejected an executory
   contract as retaliation against the third party, which was not a rational

            11
                 In re Wheeling-Pittsburgh Steel Corp., 72 B.R. at 849.
            12
              Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc., 756 F.2d 1043, 1047
   (4th Cir. 1985) (emphasis added). Klairmont quotes text from another case, the full text of
   which reads, “whether the debtor’s decision that rejection will be advantageous to the estate
   is so manifestly unreasonable that it could not be based on sound business judgment, but
   only on bad faith, or whim, or caprice.” In re Wheeling-Pittsburgh Steel Corp., 72 B.R. at 849
   (emphasis added).
            13
                 In re Pilgrim’s Pride Corp., 403 B.R. 413, 426 (Bankr. N.D. Tex. 2009).

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                                            No. 22-40371

   economic decision.14 Klairmont also cites In re Krueger in an attempt to
   ground its contention in this court’s case law.15 That case concerned “bad
   faith” as cause for dismissal of a bankruptcy action under § 707, given that
   the debtor “abused bankruptcy and court processes to retain assets for
   himself and defeat the legitimate claims of his business partners.”16 Those
   circumstances bear little resemblance to the theory Klairmont asserts
   regarding the business judgment rule.
          It is true that bad faith dealing prejudiced Klairmont in its negotiations
   with JCP for assumption of its sublease. There is no dispute in this case that
   the real estate agent lied to Klairmont and impeded its dealings with the
   debtor. Klairmont will not find relief, however, in asserting that JCP’s
   decision deserves no deference under the business judgment rule.
          The district court’s judgment is AFFIRMED.

          14
               Id. at 428.
          15
               In re Krueger, 812 F.3d 365 (5th Cir. 2016).
          16
               Id. at 366–67.

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