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In re Sharon Steel Corp.

filed: April 7, 1989.

IN RE SHARON STEEL CORPORATION, DEBTOR. DWG CORPORATION AND VICTOR POSNER, APPELLANTS


On Appeal from the United States District Court for the Western District of Pennsylvania, Civil Nos. 88-0579; 88-0827; 88-0828.

Gibbons, Chief Judge, Scirica and Nygaard, Circuit Judges.

Author: Gibbons

Opinion OF THE COURT

GIBBONS, Chief Judge:

DWG Corporation and Victor Posner appeal from a district court decision affirming a bankruptcy court order appointing a trustee-in-bankruptcy for debtor Sharon Steel ("the debtor" or "Sharon") pursuant to 11 U.S.C. § 1104. DWG and Posner contend that the bankruptcy court should have denied the committee of unsecured creditors' ("the committee") petition for a trustee because the request violated contractual obligations between the committee and the debtor-in-possession.*fn1 In the alternative, they assert that the district court erred as a matter of law in affirming the appointment of a Chapter 11 trustee both because the postpetition corrective measures taken by the debtor's management should have defeated the petition and because the debtor's alleged acts of postpetition mismanagement fail to satisfy the clear and convincing burden of proof required for appointment of a trustee. Because no binding agreement existed to prevent the committee from petitioning for appointment of a trustee and because the bankruptcy court did not err in appointing a trustee for Sharon, we will affirm.

I.

Sharon Steel Corporation manufactures steel in a facility located near Sharon, Pennsylvania. The Sharon facility includes two blast furnaces. By April, 1987, only one of these -- number 3 -- was operational. Sharon's most efficient blast furnace, number 2, was shut down pending $18 million in repairs. Furthermore, furnace number 3, which was three years overdue for relining, faced imminent shutdown. On April 17, 1987, confronted with $742 million in liabilities, only $478 million in assets, and pressing creditors, Sharon filed a voluntary petition for reorganization under Chapter 11 of the Bankruptcy Code. 11 U.S.C. §§ 1100-1174 (1982 & Supp. IV 1986).

Sharon management remained in control of the corporation's operations as debtor-in-possession. At all times relevant to this case, appellant Victor Posner served as Sharon's chairman, president, and chief executive officer. Appellant DWG, under common control with Sharon, provided financial management services to Sharon and other Posner-controlled companies. It operated out of a Miami office building owned by Posner and provided 13,000 square feet of office space to Sharon to house its executive offices, charging Sharon $24 per square foot.

Some five months after Sharon filed for reorganization, the committee, dissatisfied with the progress -- or lack thereof -- made by Sharon's management, petitioned the bankruptcy court for appointment of a trustee pursuant to 11 U.S.C. § 1104. On the following day, September 29, 1987, the court approved an $18 million loan package to enable the debtor to reline blast furnace number 2.*fn2 The bankruptcy court held hearings on the committee's petition on October 15 and November 3, 1987. On that second day of hearings, the bankruptcy court informed the parties that it considered "independent management . . . essential to maintain the viability of the business." App. 2119. The court, however, apparently at the committee's request, see App. 2119, gave the parties forty-eight hours to negotiate a stipulation providing for independent management and thus obviate the need for a trustee.

Because early negotiations seemed promising, the court extended the deadline.*fn3 The parties reached some sort of agreement on a stipulation, however, for they moved on to negotiate an order to enforce it. The order was to secure court approval of the stipulation and to settle "various other pending matters." App. 1559. The negotiations foundered,*fn4 however, and the committee requested a ruling on the trustee motion in a letter faxed to the court on January 7.

On January 11, 1988, the bankruptcy court entered an order appointing a trustee. Meanwhile, the parties renewed their negotiations. Sharon owed a $2 million installment on the relining job on January 19. Failure to pay would stop all work. Thus, the possibility of quick access to $4.4 million owed Sharon by Posner as reimbursement for amounts spent by Sharon on Posner's defense in a personal criminal matter,*fn5 apparently lured the committee back to the table.*fn6 The two sides finally reached agreement on a loan agreement*fn7 between Posner and Sharon for $4.4 million and an order approving the stipulation. On January 13, they jointly requested a hearing on a motion for reconsideration of the trustee's appointment. As part of their motion, they submitted a "completed" stipulation. The parties also filed a companion motion seeking authorization of the loan agreement between Sharon, Posner, and DWG. The bankruptcy court held a hearing the following day and entered an order approving the appointment of James W. Toren as trustee, which had the effect of denying the parties' motion to approve the stipulation and vacate the order authorizing a trustee.

On January 21, Posner and DWG filed a motion to reconsider or, in the alternative, to stay the appointment pending appeal. Sharon later joined in this motion, which was opposed by the committee and the trustee. The bankruptcy court held yet another hearing and, on March 4, 1988, denied the motions to reconsider or to stay. App. 1769-70. Posner and DWG then appealed this last decision to the United States District Court for the Western District of Pennsylvania pursuant to 28 U.S.C. § 158(a) (1982 & Supp. VI 1986). The district court affirmed the denial of the stay. It also ordered the bankruptcy court to file findings of fact and conclusions of law for its January 15 order. App. 2099.

The bankruptcy court's Opinion on Appointment of a Trustee, dated May 2, 1988, sets forth its reasons for granting the motion for appointment of a trustee and denying the motion to vacate that order and approve the stipulation. It relied on 11 U.S.C. § 1104, which provides:

(a) At any time after the commencement of the case but before confirmation of a plan, on request of a party in interest . . .,*fn8 and after notice and a hearing, the court shall order the appointment of a trustee --

(1) for cause, including fraud, dishonesty, incompetence, or gross mismanagement of the affairs of the debtor by current management, either before or after the commencement of the case, or similar cause, but not including the number of holders of securities of the debtor or the amount of assets or liabilities of the debtor; or

(2) if such appointment is in the interests of creditors, any equity security holders, and other interests of the estate, without regard to the number of holders of securities of the debtor or the amount of assets or liabilities of the debtor.

11 U.S.C. § 1104 (1982 & Supp. IV 1986) (footnote added). The facts before the court, it found, satisfied both subparts. It cited numerous prepetition transfers of Sharon assets that amounted at best to voidable preferences and at worst to fraudulent conveyances, none of which had been questioned by the debtor-in-possession.*fn9 Not only had Sharon failed to sue for recovery of these transfers, but the bankruptcy court questioned the current management's ability to fulfill its fiduciary duty to pursue these claims since Sharon shares common management with the recipients of the transfers, who also owe conflicting fiduciary duties to the recipients. Disclosure of the transfers did not cure the preferential or fraudulent transfers.

The bankruptcy court also faulted Sharon's day-to-day management of the estate. Sharon, which continued to rely on DWG for financial services, had not yet closed out its books for the period preceding reorganization. Thus, not only was the debtor continuing to hemorrhage money at an estimated $2 million per month at a time when steel prices were rising, but the debtor could not even measure the precise size of these losses since it had no postpetition profit and loss statements.

Similarly, the court also criticized Sharon's failure to renegotiate its $30 million working capital loan from the 28% to 30% interest rate originally agreed to to a reasonable 14% to 15% -- an action that would save Sharon $4 million a year. It also impugned the wisdom (and the propriety) of Sharon's repayment during 1985 and 1986 of $294 million in secured bank loans "in order to facilitate new loans from those banks to other Posner companies." App. 2113. Given Sharon's blast furnace crisis and the fact that the payments left Sharon so cash-poor that it was ...


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