Opinion
12CVH-01-250
05-11-2012
IN RE DISSOLUTION OF HOGGS IN CLEVELAND, LLC
Strip, Hoppers, Leithart, McGrath & Terlecky Co., L.P.A., James A. Coutinho and A.C. Strip for receiver Jack Harris Singerman, Mills, Desberg & Kauntz Co., L.P.A. and Michael R. Stavnicky for landlord AFU, L.L.C. Ice Miller L.L.P., and Daniel R. Swetnam, for secured party Buckeye Note Acquisition Company, L.L.C.
Strip, Hoppers, Leithart, McGrath & Terlecky Co., L.P.A., James A. Coutinho and A.C. Strip for receiver Jack Harris
Singerman, Mills, Desberg & Kauntz Co., L.P.A. and Michael R. Stavnicky for landlord AFU, L.L.C.
Ice Miller L.L.P., and Daniel R. Swetnam, for secured party Buckeye Note Acquisition Company, L.L.C.
OPINION
Frye, Judge.
I. Introduction
{¶1} This is a receivership for the owner of a Hoggy's Restaurant and Catering facility. Until earlier this year, seven such restaurants in Ohio and Kentucky featured a full-service menu serving barbeque in a distinctive barn-like structure. This location (and all but one other Hoggy's) closed abruptly on or about January 9, 2012; the original location near New Albany remains open for business. Reportedly it continues to perform well.
{¶2} Three related receivership proceedings were filed in this court pursuant to R.C. 1705.44 and 2735.01. Hoggs in Cleveland, L.L.C. ("Hoggs") was dissolved as part of this particular case, leaving behind few assets other than a remaining nine-year term (and potential extensions) under a Ground Lease from property owner AFU, LLC ("Landlord"). Hoggs erected a new building under its Lease. Now, Hoggs' landlord seeks to lift the receivership stay and not only reclaim land but also the barn-like restaurant building without further delay. In response, the secured party and the court's Receiver seek further opportunity to market the remaining term on the Ground Lease and to do so as a package with the restaurant building, furniture, and a liquor license.
{¶3} Landlord neither constructed (nor technically yet owns) the relatively new restaurant building. Instead, restaurant operator Hoggs obtained bank financing and erected its own building. However, if the court recognizes the Ground Lease was terminated by the filing of this case, by Hoggs' dissolution or for other reasons, the Lease may be unassignable by the Receiver, depriving the estate of Hoggs' substantial investment in that building estimated to be worth more than $500,000. Testimony established that removing restaurant furniture and other property and, to some extent, the liquor license from the site - by lifting the receivership stay and returning the Lease to the Landlord - leaves Hoggs estate much less valuable than if everything could be transferred in place to a new restaurateur.
{¶4} Leasing arrangements originally accepted by Hoggs were strongly slanted to favor the Landlord. For instance, the 2001 Ground Lease permitted transfer or assignment of the tenant's rights under only limited circumstances. Given that the parties structured a divided ownership between land and building, moreover, Landlord always had the enviable position that whenever the Ground Lease ended it retained the building. Now that some months have elapsed in receivership, moreover, one cannot ignore the fact that no significant funds have become available to pay rent or property taxes advanced by the Landlord in January 2012. To be sure, Landlord's uncooperative position has hampered the receivership too. But, regardless of fault, the Receiver for this particular site has been unable to identify any potential subtenant or assignee and apparently no prospect is in sight. While the sole secured party seeks to prolong the receivership (because it has the most to gain financially if the restaurant retains value by sublease or assignment) it has not committed to invest any sum certain in "new" money to underwrite the receivership going forward.
{¶5} All counsel view the situation as one to be resolved in equity. Receiverships are inherently equitable proceedings, so that is a logical starting point. However, difficult legal issues also must be examined as well. They include the impact of non-assignment and lease termination provisions in the Ground Lease; whether termination was irrevocably triggered by by this receivership or Hoggs dissolution as a legal entity; and whether notice of purported termination (a condition precedent under an Estoppel Certificate) was properly given. The interplay between purely equitable considerations on one hand and the contractual rights of the parties on the other demands more than a simplistic analysis.
II. Procedural Background
{¶6} A two-day hearing was held last month on the Landlord's motion to lift the receivership stay.
{¶7} While giving lip-service to the need to maximize recovery for all creditors, the Landlord asserts that the stay should be lifted because its Ground Lease, agreed upon years ago by Hoggs, contains a myriad of provisions in its favor and, more generally, because whenever it ended the restaurant building would invariably revert to the Landlord. If the stay is lifted now, the remaining nine year term of the Ground Lease (and potential extensions) effectively are worthless. Both the Receiver and the sole secured creditor (whose security runs only against the leasehold and interior restaurant property, not the land or the liquor license) oppose granting relief from stay. They argue for a more prolonged, orderly opportunity for the Receiver to exercise unchallenged control, to advertise the property widely, find a prospective replacement tenant, and potentially realize far more than the pittance available if the Landlord retakes the real property and building now.
{¶8} Although cooperating in some respects with the receivership since it learned about this proceeding, Landlord aggressively sought to protect itself. Arguably it acted inequitably by changing locks and marketing the property in competition with the Receiver. This court's Receiver has broad restaurant experience, and has gained positive results in marketing several other Hoggy's locations, where no interference occurred. But, it must be acknowledged that each location, commercial situation, and lease differ, so meaningful predictions about a site are difficult to make. All things considered, the equities evident in past conduct by the parties are relatively evenly balanced, and are not dispositive.
Once everyone learned two cases were pending in separate venues, the Cuyahoga County Common Pleas Court stayed its case in deference to this one. As a general rule, once a receiver takes possession of property it is deemed to be controlled by the court itself, precluding another court from exercising authority. Proceeding to take a judgment with notice of a receivership may expose a party to a finding of contempt, and any such judgment will be deemed null and void. United States v. Capital Across America, L.P., Case No. 08-6447, 369 Fed.Appx. 674, 678, 2010 U.S. App. LEXIS 5457, fn. 5 (6th Cir. 2010) (not for publication op.) and cases cited.
III. Summary of Additional Facts
{¶9} The Ground Lease was made in November 2001 before any building was erected. It contemplated a two story structure containing between 6, 000 and 12, 000 square feet. As opened in November 2003, Hoggy's had roughly 6, 400 square feet of restaurant space. According to the testimony, original construction cost roughly $1.6 million. The most recent tax bill from Cuyahoga County reflects an appraised value of $1.5 million, of which the value of the building alone was set at $542,000. Oral testimony also valued the building at around $525,000.
{¶10} This restaurant was located on a 1.9 acre lot on Canal Road in Valley View, Ohio. That location is in a south-Cleveland suburb near the intersection of Interstates 480 and 71. As Hoggs configured it, the building seated 154 patrons.
{¶11} The site is in close proximity to a 24-30 screen Cinemark theater, a "Quaker State and Lube"® restaurant (said to specialize in serving chicken wings) and a "Champs" restaurant. Testimony from the landlord revealed that the movie theater is the largest in northeastern Ohio. All four adjacent properties are managed by Stark Enterprises. In turn, Stark's principals own AFU, LLC, which is a single purpose entity holding title to the land in question here. The other three businesses at the site remain in operation on parcels whose ownership overlaps with ownership of AFU, LLC.
{¶12} Even allowing for "puffing" by the Landlord, its 2012 marketing material suggests this restaurant location has a very high potential value. Multiple "destination" businesses are adjacent to one large, common parking area, so it seems logical to infer the collection of businesses creates synergy and reinforces traffic for all of them. This conclusion is also supported in Hoggs' Ground Lease. It included use restrictions coordinating business operations at all three restaurants. Hoggs was permitted to operate only a "first-class, theme-type family restaurant selling alcoholic beverages" as part of a chain having at least four other units in operation. No more than twenty percent of food sales at the Hoggy's Restaurant could be derived from sale of chicken wings (in order to protect Quaker State's primary product offering.) The upscale image of the entire site was explicitly protected against "fast-food" businesses like McDonald's, "adult" restaurants like Hooters, or cafeterias. (Ground Lease §n(a).)
{¶13} Hoggs obtained financing to build the restaurant by giving security against the Ground Lease. This is the basis of Buckeye Note Acquisition Co., L.L.C.'s ("Buckeye" or "Secured Party") interest in the building, furniture, and equipment as asserted in this case. (No security interest was given in the liquor license because, according to testimony, liquor licenses may not be the subject of such liens.) Over time, the security interest had passed from the original lender (Fifth Third Bank) to Advantage Bank, and earlier this year reached Buckeye. Buckeye was formed by two individuals who guaranteed the indebtedness due Advantage Bank and received its security interest once Advantage Bank was paid-off. Buckeye is now the sole secured creditor. The unsecured creditors include a food vendor holding a $300,000 claim. Even in a best case resolution, the prospect that funds will ultimately be available to pay any unsecured claims appears slim.
{¶14} If the stay is lifted, Landlord has committed to allow the Receiver a reasonable opportunity to remove equipment that does not qualify as true fixtures. However, removing such property not only will incur moving expense for the estate but greatly reduce the realizable value of property as compared to its value in place. At the hearing it was estimated the restaurant equipment could bring $80 - 100, 000 on-site; but taken off-site by the Receiver the value will drop to $40 - 50, 000, if not less. The D-5-I liquor permit has an estimated value in place of $25,000 and apparently is subject to fairly prompt transfer to a new operator by state authorities. It has little value at another site.
{¶15} If it can reclaim both the land and the relatively new restaurant building by having the receivership stay lifted, Landlord appears likely to obtain higher rent. It was receiving rent of roughly $10,500 per month, plus common area maintenance, reimbursement for real property taxes ($15,300 per half year), and any late fees or interest that accrued. Substantial performance continued until close to the end. Now with Hoggy's closed, the Landlord has actively marketed the property at an asking price of $28 - $30 per square foot on a triple-net lease, versus Hoggs' existing rent of about $22 a square foot triple-net. (Hearing Exhibit "C") Some potential increase in rent sought was rationalized at the hearing as simply Landlord's negotiating room. Beyond that, Landlord anticipates a prospective tenant may want the red barn-like building reconfigured so that it loses its distinctive design. It is unknown whether any such potential changes would be minimal or expensive; but, raising the price per square foot permits the Landlord to finance reconstruction cost (and build it into the new rent) if a new tenant were incapable of financing reconstruction work itself.
As of December 1, 2011, only about $11,250 was owed to Landlord. On January 9, 2012 when active restaurant operations ceased, Hoggs was further behind at roughly $19,500 total. However, no monetary default under the Lease had been declared as of the date the restaurant closed.
IV. Receivership authority
{¶16} Ohio courts have broad equitable authority in receiverships. R.C. 2735, 04; State ex re. Celebrezze v. Gibbs, 60 Ohio St.3d 69, 74, 573 N.E.2d 62 (1991) ("We interpret this statute as enabling the trial court to exercise its sound judicial discretion to limit or expand a receiver's powers as it deems appropriate.") "R.C. Chap. 2735 does not contain any restrictions on what the court may authorize when it issues orders regarding receivership property." Quill v. Troutman Ent., Inc., Case No. 20536, 2005-Ohio-2020, at If 34 (2nd Dist.). Likewise, federal law recognizes that trial courts enjoy broad discretion when crafting relief in receiverships. U.S. v. Capital Across America, L.P., 369 Fed.Appx. 674, 678 (6th Cir. 2010) (not for publication op.) "[A] primary purpose of both receivership and bankruptcy proceedings is to promote the efficient and orderly administration of estates for the benefit of creditors." Fidelity Bank, NA. v. MM. Group, Inc., 77 F.3d 880, 882 (6th Cir. 1996).
{¶17} Nevertheless, consistent with the general law in many jurisdictions Ohio holds that a mortgagee (or mortgaged property) is not liable for the expenses of carrying on or continuing a business in receivership (at the behest of someone other than the mortgagee) in a receivership proceeding in which it has not joined or in which it has never acquiesced. Press & Plate, Co. v. Cincinnati Freie Presse, Co., 71 Ohio App. 35, 48 N.E.2d 870 (1st Dist. 1943). A more recent decision summarized the rule as follows: a court in equity may award a receiver fees and expenses from property securing a claim only if the receiver's acts benefitted that property. This means that "those who benefit from a receivership should pay for that benefit." S.E.C. v. Elliott, 953 F.2d 1560, 1576 (11th Cir. 1992). The Elliott decision also acknowledged that in trying to charge a secured creditor for maintenance of collateral it often is difficult to ascertain what type of benefit a receiver actually bestows on receivership property. But, "benefits to a receivership estate may take 'more subtle forms than a bare increase in monetary value'." S.E.C. v. Byers, 590 F.Supp.2d 637, 644 (S.D. N.Y.2008). Stated simply, these rules demand that the court give consideration to Landlord's right to be paid rent, or other consideration for tying up its property.
{¶18} The Landlord, Buckeye, and the Receiver all see high potential value in this property. Yet, their differing views on how to capture that value - colored by individual self interest - offer no path sure to protect everyone. Future uncertainty is heightened because the Secured Party declines to invest "new" money and underwrite receivership expense or the cost of keeping this stay in force. In the end, that lack of financing is dispositive on the facts presented here.
{¶19} Buckeye argues the receivership stay should remain in effect indefinitely, though conceding that it ought to be conditioned upon some arrangement protecting the reasonable financial interests of Landlord. Hypothetically, "rent" due the Landlord could be treated as part of the administrative expense of this receivership and come off-the-top of proceeds realized through a sublease. As such, it would reduce ultimate recovery by Buckeye based on its security interest somewhat, but Buckeye would still gain more recovery than it will if the stay is lifted and the building immediately reverts to the Landlord. The difficulty with Buckeye's approach is that no one can assure that, in the end, any new tenant will appear even if the stay remains in force. The prospect of any legitimate business assuming this aggressively-drawn lease, with an uncooperative Landlord and potentially ongoing litigation, surely is dim, particularly in a depressed real estate market in which rental property elsewhere may be available at remarkably low prices. Beyond those factors, any new tenant must confront the challenge of competition from the two existing restaurants already at the site. Given those and other challenges, Buckeye's invitation that the court press ahead, and merely include some potential for payment to the Receiver and/or Landlord as condition to keeping the receivership stay in force offers little assurance of a successful outcome. Indeed, Buckeye has not even committed to accept any specific terms to continue the stay, much less to invest any new money. The Receiver otherwise has insufficient funds. If this restaurant truly has value to the Secured Party it ought to have offered to do more.
V. Competing Arguments about the Ground Lease
{¶20} The basic Ground Lease (not including addenda and so-called rules and regulations for the property) is 34 single-spaced pages in length. Counsel recognize it is strongly slanted in favor of the Landlord. In addition to limitations on the type of business that is acceptable at the site, it includes restrictions on a tenant's right to assign the Lease or sublease the premises without Landlord's consent. One remarkable provision even says that if at any time the tenant requests consent to assign the lease, it is obligated to identify the proposed assignee or sublessee to Landlord, provide "complete financial statements" for it, and disclose the rent and other terms of the proposed sublease or assignment. In lieu of agreeing to it, the Landlord is contractually authorized to use all that information itself by simply terminating the Ground Lease, and dealing directly with the now-known proposed assignee or sublessee. (Ground Lease §2i(c).)
{¶21} Prominent among provisions relied upon by Landlord is §24, "Landlord's Remedies Upon Default." In part it provides that: "if a receiver of any property of Tenant be appointed in any action, suit or proceeding by or against Tenant Landlord in addition to all other remedies given to Landlord in law or in equity may terminate this Lease." Beyond that, §24 also provides that "[u]nder no circumstances is this Lease to be an asset for Tenant's creditors by operation of law or otherwise."
{¶22} The Secured Party responds to many arguments of the Landlord by pointing out that the Lease must be read in tandem with a 2010 "Ground Lessor Consent, Non-Disturbance Agreement and Estoppel Certificate" given by AFU, LLC to Advantage Bank (in connection with refinancing the building.) (It is referenced as the "Estoppel Certificate.") AFU agreed in § 7 of the Estoppel Certificate that "Ground Lessor will not terminate the Ground Lease without giving Lender a Notice of such intended action." The court finds no proper notice of termination in compliance with the Estoppel Certificate was given to the then-secured party (Advantage Bank) in January 2012 by Landlord. However, that is not dispositive in the situation presented here.
{¶23} In determining whether to keep this stay in force, the court need not definitively adjudicate the parties' rights under all the provisions in the complex Ground Lease. It is sufficient for present purposes to find that arguments made that the Lease was terminated or is not assumable through a receivership cast a pall over the court's ability to fashion relief as sought by Buckeye and the Receiver. That is particularly true absent some infusion of "new" money.
VI. Ipso Facto Provisions and Lease Forfeiture
{¶24} Buckeye points out that under 11 U.S.C. §§ 365 (of the United States Bankruptcy Code) a trustee may disregard provisions in an unexpired lease that purport to trigger termination whenever a bankruptcy occurs, so that an otherwise ongoing lease may retain value through assignment to a new tenant. However, this can only occur when adequate assurance of future performance is available. Termination clauses triggered solely because of the filing of some form of insolvency proceeding are termed ipso facto provisions. While the Bankruptcy Code applies only by analogy in this state proceeding, Buckeye essentially argues the common law equivalent of § 365. Ipso facto provisions are also not necessarily enforceable in Ohio receiverships.
11 U.S.C. §365 ("Executor Contracts and Unexpired Leases") provides in part:
(e) (1) Notwithstanding a provision in an *** unexpired lease, or in applicable law, an *** unexpired lease of the debtor may not be terminated or modified, and any right or obligation under such contract or lease may not be terminated or modified, at any time after the commencement of the case solely because of a provision in such contract or lease that is conditioned on—
(A) the insolvency or financial condition of the debtor at any time before the closing of the case;
(B) the commencement of a case under this title; or
(C) the appointment of or taking possession by a trustee in a case under this title or a custodian before such commencement.***
(f) (1) Except as provided in subsections (b) and (c) of this section, notwithstanding a provision in an unexpired lease of the debtor, or in applicable law, that prohibits, restricts, or conditions the assignment of such *** lease, the trustee may assign such *** lease under paragraph (2) of this subsection.
Provided certain conditions are met, ipso facto provisions are not enforceable under the Bankruptcy Code. "Prior to the enactment of the Bankruptcy Code of 1978, clauses that allowed for termination of a contract in the event of a bankruptcy filing were enforceable. In re B. Siegel Co., 51 B.R. at 164. Many courts noted that the enforcement of such clauses 'worked substantial injustice and frustrated the salutary purpose of the reorganization provisions.' Id. (citing Queens Blvd. Wine & Liquor Corp. v. Blum, 503 F.2d 202, 207 (2d Cir. 1974)). In the 1978 Code, the ipso facto provision of § 365(e) was added to invalidate ipso facto termination clauses in executory contracts. Id. Congress acknowledged that the enforcement of ipso facto clauses 'frequently hampers rehabilitation efforts. If the trustee may assume or assign the contract under the limitations imposed by the remainder of the section, the contract or lease may be utilized to assist in the debtor's rehabilitation or liquidation.*** [citations to Senate Rep. on bill eliminated]. In re: Ernie Haire Ford, Inc., 403 B.R. 750, 758 (Bankr. M.D. Fla. 2009). Moreover, sometimes other discretionary provisions deemed a 'de facto ipso facto provision' may be "an impermissible exercise of discretion [that] violates the common law covenant of good faith and fair dealing" or "the contracting parties' expectations." Id. at 759. See also, In re: LA. Dodgers LLC, 465 B.R. 18, 31-32 (D. Del. 2011) discussing the enforceability of "no shop" provisions that bind debtors by requiring that for some predetermined period (i.e. 45 days) they negotiate the sale of rights only with a single entity, and "no-call provisions that precluded (or imposed penalties for) early repayment of debt."
{¶25} "[A]ppointment of a receiver amounts to an equitable execution, and his seizure of the property to an equitable levy." Doyle v. The Yoho Hooker Youngstown Co., 130 Ohio St. 400, 200 N.E. 123 (1936) (Syllabus paragraph 3). The Doyle decision, and several other older decisions appear to mirror § 365, and permit capture of commercial property for a receivership estate so long as the receiver then fully performs all obligations owed in the underlying legal agreement. A1935 decision, In re Wend Inn, 3 Ohio Supp. 114, 1935 WL1462 (Tuscarawas Co. Probate Ct.) held a lessor was not able to forfeit a lease provided the receivership for the former tenant took possession and affirmed that lease. In that court's view, a receiver in effect became an assignee of the lease and held title by privity of estate. That court made clear, however, that under common law a receiver is only allowed a reasonable time to accept or reject a lease, and that acceptance brought with it an obligation to pay the rent called for in the lease during its entire term, including unpaid rent that had accrued even before the receiver was appointed. See also, Andrews v. Beigel, Receiver, 6 Ohio App. 427 (1st Dist. 1915).
{¶26} Buckeye also argues that the Landlord essentially seeks a forfeiture of rights under the lease by seeking to so strictly enforce it. The Ohio Supreme Court recognizes that "the law does not favor forfeiture." State ex. rel. Pizza v. Rezcallah, 84 Ohio St.3d 116, 131, 702 N.E.2d 81 (1998). Because "equity abhors a forfeiture, " an Ohio court may sometimes "balance the equities of the case and relieve the forfeiture where the equities favor the lessee." Zanetos v. Sparks, 13 Ohio App.3d 242, 244, 468 N.E.2d 938 (10th Dist. 1984). Hence, forfeiture clauses for nonpayment of rent in a nonresidential lease are not strictly construed under Ohio law, but instead viewed merely as security for payment of rent. In re: 1345 Main Partners, Ltd., 215 B.R. 536, 541 (Bankr. S.D. Ohio 1997).
{¶27} To be sure, courts do not invariably find forfeiture inequitable. Joseph J. Freed & Assoc, Inc. v. Cassinelli Apparel Corp., 23 Ohio St.3d 94, 491 N.E.2d 1109 (1986), upheld a trial court's order of forfeiture. The court held that because a commercial leasehold was at issue in which "the parties appear to have entered an agreement in equal bargaining positions" and the lease provided that any default could result in forfeiture upon written notice followed by a failure to cure within a time frame set forth in the agreement, and because that lessee did not attempt to get approval to shorten business hours in compliance with the lease, forfeiture was not unreasonable, arbitrary or unconscionable. Id. at 97.
VII. Conclusion.
{¶28} In an appropriate case, an Ohio court will not enforce an ipso facto clause or other one-sided provision in a commercial lease against a receiver Likewise, termination will not be recognized if the receivership lien attached before proper termination notice was given in compliance with the underlying lease or contract. However, those rules are not dispositive here. Instead, because insufficient assets exist in this receivership to carry it forward and because no commitment of new money has been offered by the Secured Party to protect the Landlord, the matter must be brought to an end without further delay. The court declines to allow its Receiver to embark on what seems likely to be a quixotic journey when the Secured Party, having the most to gain, will not guarantee to underwrite it.
{¶29} The Landlord's request to lift the receivership stay, insofar as it precludes action by the Landlord to re-take the restaurant building, is GRANTED. The Receiver shall cease all marketing efforts. Receiver and Landlord shall work out suitable arrangements to allow removal of interior furniture and other property belonging to the estate within the next fourteen days.
IT IS SO ORDERED.