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In re FBI Wind Down, Inc.

United States District Court, D. Delaware

May 16, 2017

In re FBI WIND DOWN, INC. (f/k/a Furniture Brands Int'l, Inc.), et al., Debtors.
v.
HERTIAGE HOME GROUP, LLC f/k/a FBN Acquisition Holdings, LLC, et al., Defendants/Appellants. FBI WIND DOWN, INC. LIQUIDATING TRUST, by and through Alan D. Halperin, as Liquidating Trustee Plaintiff/Appellee, Bank. No. 13-12329 (CSS) Adv. Pro. No. 15-51899 (CSS)

          Michael J. Merchant, Esquire and Robert C. Maddox, Esquire, of Richards, Layton & Finger, P.A., Wilmington, Delaware. Counsel for Appellants Heritage Home Group, LLC f/k/a FBN Acquisition Holdings, LLC, KPS Capital Partners, LP, KPS Special Situations Fund III, LP, KPS Special Situations Fund III (A), LP, KPS Special Situations Fund III (Supplemental), LP, KPS Special Situations Fund III (Supplemental - AIV), LP, and KPS Offshore Investors, Ltd.

          Michael B. Schaedle, Esquire and Victoria A. Guilfoyle, Esquire, of Blank Rome LLP, Wilmington, Delaware. Counsel for Appellee FBI Wind Down, Inc. Liquidating Trust, by and through Alan D. Halperin, as Liquidating Trustee.

          MEMORANDUM OPINION

          ROBINSON, Senior District Judge

         I. INTRODUCTION

         This is an appeal by Heritage Home Group, LLC, era/, (together, "HHG") from a bankruptcy court opinion (Adv. D.I. 41)[1] ("Opinion") and order (Adv. D.I. 42) ("Order") denying HHG's motion to compel the arbitration of several claims in an adversary proceeding. For the reasons that follow, the court will affirm the Order.

         II. BACKGROUND

         A. The APA and Sale Order

         This appeal arises from the chapter 11 cases of Furniture Brands International, Inc. (together with its subsidiaries, "Debtors"). The following facts appear to be undisputed. The adversary proceeding arose out of the sale by Debtors of substantially all of their assets to HHG pursuant to an asset purchase agreement dated October 2, 2013 (as amended, the "APA") for a fixed price - approximately $280 million, plus HHG's assumption of certain liabilities.[2] (HHG8 at ¶ 27) Because certain of the assets and liabilities subject to the sale could not be immediately quantified and allocated on the date of the closing, the proposed sale of Debtors' businesses for a fixed price presented certain logistical problems, including two critical issues.[3]

         Cash and Cash Equivalents as Excluded Assets - APA § 3(a). First, HHG was acquiring Debtors' operations with the expectations that it was acquiring a "turnkey" business and that the proposed sale would proceed with no disruption in business operations. To ensure a seamless transition, the APA provided that HHG would acquire Debtors' infrastructure and cash management systems as part of the sale, including taking control of Debtors' physical bank accounts immediately following the closing of the sale on Monday, November 25, 2013, at 12:01 a.m. (See HHG74, § 2.1(a)(iv)) However, the APA also provided that Debtors would retain their "cash and cash equivalents, " which assets were excluded from the sale ("Excluded Assets").[4] (HHG75-77, § 2.2) The parties anticipated that there would be millions of dollars in transit over the weekend prior to closing and that it would not be possible to quantify and allocate the value of the excluded cash and cash equivalents at the moment the sale closed on Monday morning. (HHG11-12, ¶ 41) Specifically, certain cash, bank deposits, wires, and checks in hand ("Cash Amounts in Transit") that were initiated, transmitted, received, or otherwise related to the activity of Debtors prior to the sale closing would not actually hit Debtors' cash management system until after that system came under HHG's exclusive control. (See HHG75-77, § 2.2(a)(x); HHG11-12, ¶ 41) Similarly, the APA provided that certain outstanding liabilities, including checks outstanding but not yet cleared, incurred by Debtors prior to the closing would remain obligations of Debtors post-closing, but those items also would not hit Debtors' cash management system until after that system came under HHG's exclusive control. (HHG12-13, ¶ 42) In an attempt to address these issues prior to closing, the parties entered into an amendment to the APA ("Amendment No. 2") and established an adjustment mechanism whereby the parties would estimate and then true-up post-closing the "cash and cash equivalents." (See HHG375-76, § 3(a)) This was not a "purchase price adjustment" but rather a "cash component adjustment" meant to ensure that the aggregate purchase price remained fixed at $280, 000, 000.

         Accounts Payable Obligations - APA § 3(b). Second, the parties recognized the potential for significant post-closing disputes over what type of bankruptcy administrative (i.e., post-petition) expenses constituted "trade payable obligations" under the APA, which obligations HHG had agreed to assume up to a certain cap (with any excess remaining the Debtors' obligation). (HHG15-16, ¶¶ 48-51; HHG372, § 2(e)) These obligations also could not be immediately quantified and allocated between Debtors and HHG at the moment of the closing, given that business operations were continuing before, during, and after the sale. In an attempt to address these issues prior to closing, Amendment No. 2 added the definition of "Accounts Payable Obligations."[5] Similar to § 3(a), § 3(b) also contained an adjustment mechanism whereby the parties would estimate and then true-up post-closing all Accounts Payable Obligations. (See HHG371-72 & 376, §§ 2(a), 2(e) & 3(b))) Section 3(b), therefore, was designed to handle another difficulty in achieving a fixed purchase price at closing.

         Arbitration Provisions. Sections 3(a) and 3(b) of Amendment No. 2 each include an identical arbitration provision, [6] whereby the parties agreed that any "disputed items" not mutually resolved in connection with the post-closing adjustments would be submitted to an accounting firm for final resolution:

To the extent the parties are unable to come to a final resolution of the foregoing adjustments, the parties shall submit to a mutually acceptable "big four" accounting firm for resolution any disputed items in accordance with the procedures (including allocation of fees and expenses) provided by such accounting firm.

(HHG375-76, §§ 3(a), 3(b) (emphasis added)) On November 22, 2013, the parties executed Amendment No. 2 containing the adjustment mechanisms and arbitration provision discussed above and, later that day, the bankruptcy court entered an order approving the sale and "all of the terms and conditions" of the APA "in all respects." (HHG4O3, § 4) ("Sale Order") The Sale Order further provided that the bankruptcy court retained jurisdiction over issues of interpretation under the APA:

The Court shall retain jurisdiction to, among other things, interpret, implement, and enforce the terms and provisions of this [Sale] Order and the [APA], all amendments thereto, any waivers and consents thereunder, and each of the agreements executed in connection therewith to which the Debtors are a party or which has been assigned by the Debtors to [HHG], and to adjudicate, if necessary, any and all disputes concerning or relating in any way to the Sale or Transaction.

(HHG429 at ¶ 68 (emphasis added)) Both the Sale Order and APA were heavily negotiated and jointly proposed by the parties. (See HHG706-07; HHG710)

         B. Post-Closing Disputes

         The sale closed on November 25, 2013. Thereafter, the parties attempted to complete the post-closing adjustments required under Amendment No. 2 but were ultimately unsuccessful with respect to reconciliation of Excluded Assets and Accounts Payable Obligations.

         With respect to Excluded Assets, the parties dispute: (1) whether the definition of Cash Amounts in Transit in § 3(a) of Amendment No. 2 includes "Auction Clearing House Electronic Receipts and Deposits" ("ACHE-R/D") earned by Debtors shortly before closing; and (2) whether ACHE-R/D are "cash and cash equivalents" and, therefore, "Excluded Assets" retained by Debtors in the sale. (See HHG21, ¶ 66(a)) In short, Trustee[7] believes HHG's true-up and adjustment of Cash Amounts in Transit improperly omits ACHE-R/D that constitute cash and cash equivalents retained by Debtors.

         Regarding Accounts Payable Obligations, the parties have several disputes. First, the parties dispute whether Debtors' prepayments to vendors should be characterized as (1) a reduction against Accounts Payable Obligations, or (2) an "Acquired Asset" purchased by HHG in the sale. (See HHG21-22, ¶ 66(b)) Second, the parties dispute whether deposits made by customers of Debtors should be treated as (1) a credit against accounts receivables, or (2) Accounts Payable Obligations. (See id.) Third, the parties dispute whether Accounts Payable Obligations should include expenses "accrued" at the time of closing. (See id.) With respect to the merits, the parties do not appear to dispute the bankruptcy court's understanding. According to Trustee, the definition of Accounts Payable Obligations in Amendment No. 2 specifically requires a calculation applying the same accounting practices used by Debtors in their ordinary course of business, and that Debtors' long-standing accounting practice was (1) to apply prepayments to vendors as reductions against accounts payable, (2) to credit customer deposits against accounts receivables, and (3) to capture accrued expenses in ledger accounts beginning 23xxx or 24xxx. (HHG25-27, ¶ 78) Trustee asserts that were an arbitrator to apply Debtors' long-standing accounting practice, to which the post-closing mechanisms were meant to conform, the arbitrator would fully agree with Trustee's calculations. Conversely, HHG believes that GAAP accounting principles must be used to calculate Accounts Payable Obligations, and that applying GAAP: (1) prepayments to vendors are an asset; (2) customer deposits are accounts payable; and (3) accrued expenses are accounts payable. HHG asserts that were an arbitrator to apply GAAP accounting methodology, the arbitrator would fully agree with HHG's calculations.

         C. Adversary Proceeding

         Under the arbitration provision, any disputed items that remain unresolved with respect to the post-closing adjustments must be submitted to arbitration. (HHG 375-76) Trustee took the position that, before arbitration of those disputed items may proceed, the bankruptcy court must decide two threshold issues of contract interpretation: (1) whether the APA's plain language should be interpreted to include ACHE-R/D as "cash and cash equivalents" that were "Excluded Assets" retained by Debtors, or as an "Acquired Asset" sold to HHG; and (2) whether the APA's plain language should be interpreted to include the concept of GAAP, by implication or otherwise, to the narrow definition of "Accounts Payable Obligations." (See D.I. 10 at 17, 19-20; HHG39 at ¶ 109(a)-(d)) Trustee concedes that there may still be a need for arbitration before an accounting firm, but only after the bankruptcy court has resolved these "threshold legal issues" requiring interpretation of the APA. (See HHG595) Because interpretation of the APA was expressly reserved for the bankruptcy court's determination in the Sale Order, Trustee filed this adversary proceeding on November 11, 2015, seeking, inter alia, the bankruptcy court's adjudication of the threshold issues of interpretation. (See HHG38-40)

         D. Motion to Compel Arbitration

         Relying on the arbitration provisions set forth in the APA, HHG moved for an order compelling arbitration of all claims relating to the post-closing reconciliation disputes. (See HHG565-86) HHG argued that these disputes clearly fell within the scope of the APA's arbitration provisions, which covered "any disputed items" not resolved in connection with the post-closing adjustments. HHG argued that, regardless of how they are framed, these issues are "disputed items" subject to arbitration and not determination by the bankruptcy court. On July 7, 2016, the bankruptcy court heard extensive oral argument before taking the matter under advisement. (See HHG646-88)

         On September 15, 2016, the bankruptcy court entered the comprehensive Opinion and Order determining that the core issues of the parties' dispute did not fall within the scope of the arbitration provision and denying HHG's motion to compel arbitration. (HHG693-718) Consistent with Third Circuit law construing the Federal Arbitration Act, 9 U.S.C. § 1, et seq. ("FAA"), the bankruptcy court first examined the scope of the arbitration clause and then turned to the factual underpinnings of Trustee's claims to determine whether those claims fell within the scope of the arbitration provision.

         In examining the scope of the arbitration provision, the bankruptcy court determined that its unambiguous text and structure required a finding that it was narrow in scope and applied only to the post-closing adjustments required by § 3(a) and § 3(b) of Amendment No. 2. (See HHG705-06) The bankruptcy court interpreted "disputed items" as a limitation on the scope of the provision, rejecting as "unreasonable" HHG's argument that "any disputed items" should be interpreted synonymously with "any dispute, " and determining that the use of specific language by sophisticated commercial parties, negotiating at arms' length, was intentional and meaningful. (See HHG7O7) Because the arbitration clause "'states that 'the parties shall submit... for resolution any disputed items'" - and does "not state that the parties shall submit for resolution 'any dispute'" - the bankruptcy court determined that the "only reasonable interpretation is that 'disputed items' is a sub-category of 'disputes'" potentially arising under the post-closing reconciliation procedures. (See id.) (emphasis in original) The bankruptcy court further observed that, in "the accounting field, 'item' is a term of art meaning individual entries in a firm's ledger book, " and use of this language provided a strong basis for interpreting the arbitration provision as covering accounting disputes; thus, "to the extent the parties dispute specific accounting entries they must submit their dispute" to arbitration - which is consistent with Amendment No. 2's specific reference to certain account balances in Debtors' general ledger and the overall context of submitting post-closing price adjustment disputes to an accounting firm. (HHG708-09) (emphasis in original)

         The bankruptcy court noted that its interpretation rendered the arbitration provision harmonious with the retention provision in the Sale Order, pursuant to which the parties agreed that the bankruptcy court retained "jurisdiction to, among other things, interpret, implement, and enforce" the terms and provisions of the Sale Order and APA "and all amendments thereto..." (See HHG710 (emphasis in original) (quoting HHG429, ¶ 68)). The bankruptcy court determined that the arbitration provision was a "validly agreed to provision of the APA" and that the language of the Sale Order was also significant for several reasons. (See HHG709-10) The Sale Order's retention provision was not court-imposed but rather drafted by the parties - "a provision that the parties agreed to as part and parcel of the [s]ale" - and the provision was also explicit: "There is not silence on the other side of the Arbitration Clause [with respect to interpretive issues], but instead an all-encompassing provision that explicitly states the Court has the power to interpret, implement and enforce the APA." (HHG710) The bankruptcy court declined to read a conflict between the provisions of the APA and Sale Order, as HHG urged; rather, the bankruptcy court chose an interpretation which "render[ed] the Arbitration Clause harmonious with [retention provision of] the Sale Order, such that the bankruptcy court "'performs contractual interpretation" and the "Accounting Arbitrator determines the accuracy of the parties' records and calculations." (See id.) This interpretation validates both provisions, giving effect to the plain language of the arbitration provision and also the parties' agreement that the bankruptcy court retain jurisdiction over any contract interpretation disputes. (See id.)

         Having determined the scope of the arbitration provision, the bankruptcy court turned to a detailed and thorough analysis of the factual underpinnings of Trustee's claims to determine whether they fell within the scope of the provision. (See HHG710-16) The bankruptcy court explained that "[t]he parties' dispute regarding ACHE-R/D [is] plainly legal in nature and require[s] only the interpretation of defined terms in the APA." (HHG710) Similarly, the bankruptcy court further explained that "the question of what accounting principles must be applied by the Accounting Arbitrator is clearly a threshold legal dispute" and "[t]he disagreement between the parties over the calculation of Accounts Payable Obligations is clearly a dispute about the meaning of a provision in the APA." (HHG711) The bankruptcy court noted that, while an accounting arbitrator is not barred from deciding issues of law, that fact alone did not support a finding that the parties intended or agreed to have an accounting arbitrator decide issues of contract interpretation under the APA. (HHG713) Based on its analysis, the bankruptcy court determined that "[t]he parties' current disputes are, at their core, disputes over the proper interpretation of the APA and not disputes over accounting items or methodology." (HHG710) "Because the disputes raised by the Trustee are clearly disputes about interpreting the APA and defined terms within the APA, " the bankruptcy court concluded there was "no basis for compelling arbitration of Trustee's claims . . ." (HHG717), and denied HHG's motion to compel arbitration. (HHG718) HHG timely appealed the bankruptcy court's decision. (See D.I. 1)

         III. ...


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