Surprise dismissal of bankruptcy case seemingly prompted by change in claim ownership

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Surprise dismissal of bankruptcy case seemingly prompted by change in claim ownership

On Thursday, the Supreme Court took the unusual step of dismissing PEM Entities v. Levin, a bankruptcy case that had been scheduled to be heard this coming term. Occasionally, the court dismisses previously granted cases as “improvidently granted” before reaching the merits. This can happen when a party shifts its argument in its merits brief, when it becomes clear that a dispute is highly fact-bound, or when the justices discover that the case involves so-called “vehicle problems” that may prevent the court from reaching the merits.

Such dismissals are fairly rare, but yesterday’s was particularly unusual, because it came merely six weeks after the grant and before the parties had filed their briefs on the merits. As is customary, the court’s order did not explain the reasoning behind the dismissal. The dismissal appears, however, to have been prompted by a joint motion that was filed on July 21 by the petitioner, PEM Entities, and another party, Province Grande Olde Liberty, LLC, which was attempting to step into the shoes of the respondents. This being a bankruptcy case, the various parties and their relative interests were already quite complex; post-grant changes to those interests revealed in the motion appear to have spooked the court.

PEM Entities had purchased a large secured claim against PGOL at a steep discount, after PGOL had defaulted on the loan. Although PGOL was in default, PEM Entities did not move to foreclose on the loan immediately. PGOL was nonetheless unable to resolve its financial distress and ultimately filed for bankruptcy under Chapter 11, with its sole asset – a golf course and accompanying development – encumbered by PEM’s loan. The respondents in the Supreme Court, Eric M. Levin and Howard Shareff, were junior claims-holders who could recover from the bankruptcy estate only if the court did not treat PEM Entities’ loan as secured debt. Accordingly, Levin and Shareff brought an adversary proceeding against PEM Entities and PGOL seeking to “recharacterize” PEM Entities’ secured claim as equity. Although it was named as a defendant, PGOL, as the debtor facing the loss of its only asset to its secured creditor, unsurprisingly did not oppose Levin and Shareff’s recharacterization claim and did not participate in the appellate process.

The bankruptcy court, following precedent of the U.S. Court of Appeals for the 4th Circuit, applied a “federal test” for recharacterizing the claim, which allowed it to consider both the discounted price at which PEM Entities purchased the loan as well as the fact that PEM Entities had decided not to foreclose immediately upon default. A number of other federal courts of appeals apply state-law-based tests for recharacterization that consider different factors. The district court and the 4th Circuit affirmed the bankruptcy court’s ruling based on precedent. PEM Entities filed a petition for certiorari; with an acknowledged circuit split over the competing tests for recharacterization, the case was a logical grant.

But, as is typical of bankruptcy cases, the particular dispute between the parties that formed the basis of the petition for certiorari was only one of several disputes among competing groups of claimants. After the case was granted, a member of PGOL acquired Levin and Shareff’s financial interest in the case as part of the settlement of a different case in state court. That settlement gave PGOL the right to defend Levin and Shareff’s recharacterization claim. That is, although it was originally one of the defendants in the case, PGOL, the debtor, assumed the plaintiff’s position in the dispute that the Supreme Court had agreed to hear. Just shy of a month after the Supreme Court granted the petition, PEM Entities and PGOL filed a joint “Motion to Confirm Party Status” explaining this change and asking the court “to confirm that PGOL … is a respondent in [the case], with a right to defend in this Court the judgment of the court of appeals.”

Although the parties changed, the merits of the case remained the same; PGOL appeared ready to champion the position that the court had been expecting the original respondents, Levin and Shareff, to take. Nonetheless, the court appeared to find the unexpected change a reason to dismiss the writ of certiorari. The Supreme Court seems to have become particularly wary of vehicle problems in recent years – as exemplified by a relatively new policy of relisting cases before granting certiorari noted on this blog by John Elwood. The justices seem to have decided that this case was not worth the risk of hearing argument if there was some chance it might have to be dismissed later.

Whether or not they intended it, the original respondents may have found a clever way to preserve their victory below: They made the case an intolerably complex vehicle after PEM Entities had prevailed in obtaining certiorari. Given how common and easy it is for parties in bankruptcy cases to sell their interests in particular claims, it remains to be seen whether this technique could become an effective strategy respondents in future bankruptcy cases can use to defeat certiorari after a grant.

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