Uecker & Associates, Inc. v. Tenet Healthsystem Hospitals, Inc.

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UNITED STATES BANKRUPTCY COURT
NORTHERN DISTRICT OF CALIFORNIA
In re 	No. 06-41774 T
Chapter 9
WEST CONTRA COSTA HEALTHCARE
DISTRICT, etc.,
Debtor.
________________________________/
UECKER & ASSOCIATES, INC., as 	A.P. No. 08-4242 AT
Trustee for the DOCTORS MEDICAL
CENTER TRUST FOR THE BENEFIT OF
CREDITORS,
Plaintiff,
vs.
TENET HEALTHSYSTEM HOSPITALS,
INC.,
Defendant.
________________________________/
MEMORANDUM OF DECISION ON CROSS-MOTIONS FOR SUMMARY JUDGMENT
In 	the 	above-captioned 	adversary 	proceeding, 	plaintiff 	Uecker
& Associates, Inc., as trustee for the Doctor’s Medical Center Trust
for the Benefit of Creditors under a confirmed plan, (the “Trustee”)
seeks to avoid and recover certain lease payments made pre-petition
Signed: March 26, 2010
________________________________________
LESLIE TCHAIKOVSKY
U.S. Bankruptcy Judge
________________________________________
Entered on Docket
March 26, 2010
GLORIA L. FRANKLIN, CLERK
U.S BANKRUPTCY COURT
NORTHERN DISTRICT OF CALIFORNIA
Case: 08-04242 Doc# 46 Filed: 03/26/10 Entered: 03/26/10 15:06:36 Page 1 of
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26 1The Debtor is West Contra Costa Healthcare District, a
political subdivision of the State of California, doing business as
Doctor’s Medical Center.
2
by 	the 	debtor 	(the 	“Debtor”) 1 	to 	defendant 	Tenet 	Healthsystem
Hospitals, 	Inc. 	(“Tenet”) 	and 	to 	object 	to 	its 	claim 	unless 	the
payments 	are 	repaid. 	The 	complaint 	is 	based 	on 	11 	U.S.C. 	§
548(a)(1)(B) which authorizes the avoidance of obligations that are
constructively 	fraudulent: 	i.e., 	not 	made 	with 	actual 	intent 	to
defraud but which have a fraudulent effect on other creditors because
they are incurred when the debtor is insolvent or render the debtor
insolvent.
Defendant filed a motion for summary judgment, contending that
the Trustee was unable to establish a necessary element of the claim:
i.e., 	that 	the 	Debtor 	was 	either 	insolvent 	when 	the 	obligation 	was
incurred or was rendered insolvent by it. 	The Trustee filed a cross-
motion, contending that it was entitled to a summary adjudication in
its 	favor 	on 	the 	issue 	of 	insolvency. 	The 	motions 	were 	heard
together 	on 	March 	4, 	2010 	and 	taken 	under 	submission. 	Thereafter,
without 	leave, 	although 	seeking 	leave, 	the 	Trustee 	filed 	a 	post-
hearing 	brief. 	Tenet 	objected 	to 	the 	post-hearing 	brief 	but 	also
addressed its contentions.
As set forth below, the Court concludes that Tenet is entitled
to summary judgment in its favor. 	The Court has considered both the
post-hearing 	brief 	and 	Tenet’s 	response 	in 	reaching 	its 	decision.
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3
SUMMARY OF FACTS
On or about March 2001, Tenet entered into a lease with Pinole
Medical Development Co. (“Pinole”) of a general acute care hospital
and 	related 	facilities 	located 	in 	Pinole, 	California 	(the 	“Pinole
Facility”). 	In 	August 	2004, 	the 	Debtor 	entered 	into 	a 	sublease 	of
the 	Pinole 	Facility 	from 	Tenet. 	The 	original 	sublease 	did 	not
require 	the 	Debtor 	to 	pay 	monthly 	lease 	payments 	to 	Tenet. 	The
original sublease was amended several times. 	The November 2004 and
April 2005 amendments still did not require the Debtor to make lease
payments. 	However, 	the 	third 	amendment, 	in 	May 	2005, 	required 	the
Debtor to make a lease payment for June 2005.
On 	July 	1, 	2005, 	the 	Debtor 	and 	Tenet 	entered 	into 	a 	new
sublease 	agreement 	for 	the 	Pinole 	Facility 	(the 	“Sublease”). 	The
Sublease 	required 	the 	Debtor 	to 	make 	monthly 	lease 	payments,
beginning 	with 	a 	payment 	of 	$41,000 	in 	July 	2005, 	increasing 	each
month 	thereafter 	to 	$83,333.33 	in 	November 	2005 	and 	continuing 	at
that 	rate 	thereafter 	through 	February 	2021 	unless 	the 	Sublease 	was
terminated sooner. 	As part of the terms of the Sublease, the Debtor
was required to provide Tenet with a letter of credit in the amount
of $1.5 million upon which Tenet was permitted to draw if the Debtor
failed to make the lease payments.
From 	July 	1, 	2005 	through 	September 	30, 	2006, 	the 	Debtor 	paid
Tenet 	$980,000 	in 	lease 	payments. 	On 	October 	1, 	2006, 	the 	Debtor
filed 	its 	chapter 	9 	petition, 	commencing 	the 	above-captioned 	case.
On November 20, 2006, the Court authorized the Debtor to reject the
Sublease. 	Tenet was authorized to draw on the letter of credit and
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did 	so, 	receiving 	$1.5 	million 	from 	the 	issuer 	of 	the 	letter 	of
credit.
DISCUSSION
A. 	APPLICABLE LAW
1. 	Law Applicable to Summary Judgment Motions
Summary judgment motions are governed by Rule 56 of the Federal
Rules of Civil Procedure which is made applicable to this proceeding
by rule 7056 of the Federal Rules of Bankruptcy Procedure. 	Rule 56
provides that summary judgment can and should be provided, either on
all 	or 	a 	part 	of 	a 	claim, 	when 	the 	evidence 	provided 	demonstrates
that 	there 	is 	no 	genuine 	issue 	as 	to 	any 	material 	fact.
Fed.R.Civ.Proc. 	56(c)(2). 	A 	disputed 	fact 	is 	material 	only 	if 	its
resolution 	affects 	the 	outcome 	of 	the 	case. 	Anderson 	v. 	Liberty
Lobby, Inc., 477 U.S. 242, 248 (1986).
An 	issue 	is 	genuine 	if 	the 	evidence 	makes 	it 	possible 	for 	the
trier 	of 	fact 	to 	decide 	in 	favor 	of 	the 	non-moving 	party. 	Id.
However, an inquiry into the materiality of a fact and its potential
significance 	is 	not 	necessary 	where 	a 	party 	fails 	to 	establish 	the
existence 	of 	an 	element 	essential 	to 	that 	party’s 	claim. 	A 	moving
party is entitled to summary judgment on a claim when the non-moving
party, 	in 	opposition 	to 	the 	motion, 	fails 	to 	present 	evidence
sufficient to support a finding in its favor on an essential element
of 	its 	claim. 	Celotex 	Corp. 	v. 	Catrett, 	477 	U.S. 	317, 	322-23
(1986).
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2. 	Law 	Applicable 	to 	Avoidance 	of 	Constructively
Fraudulent Transfers
Section 548 of the Bankruptcy Code provides, in pertinent part,
that a trustee may avoid as fraudulent an obligation incurred by the
debtor 	within 	two 	years 	of 	the 	debtor’s 	filing 	for 	bankruptcy, 	as
fraudulent 	if: 	“the 	debtor 	(i) 	received 	less 	than 	a 	reasonably
equivalent value in exchange for...[the] obligation; and (ii)[I] was
insolvent on the date that...such obligation was incurred, or became
insolvent 	as 	a 	result 	of 	such...obligation[.]” 	11 	U.S.C. 	§
548(a)(1),(b)(i)-(ii). 	A 	debtor 	that 	is 	a 	municipality 	is
“insolvent” 	if 	it 	is 	“(i) 	generally 	not 	paying 	its 	debts 	as 	they
become due unless such debts are the subject of a bona fide dispute;
or 	(ii) 	unable 	to 	pay 	its 	debts 	as 	they 	become 	due.” 	11 	U.S.C. 	§
101(32)(C).
B. 	ARGUMENT
The 	Trustee’s 	complaint 	alleges 	that 	the 	Debtor 	was 	either
insolvent when it entered into the Sublease or was rendered insolvent
by doing so. 	However, the Trustee failed to present any evidence or
argument 	to 	support 	her 	allegation 	that 	entering 	into 	the 	Sublease
caused the Debtor to become insolvent. 	Therefore, the only issue the
Court 	will 	address 	is 	whether 	the 	Debtor 	was 	insolvent 	when 	it
entered into the Sublease.
As noted above, the Bankruptcy Code test for the insolvency of
a 	municipality 	such 	as 	the 	Debtor 	has 	two 	prongs: 	(1) 	whether 	the
debtor was generally paying its undisputed debts as they came due and
(2) 	whether 	the 	debtor 	was 	able 	to 	pay 	its 	debts 	as 	they 	came 	due.
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2The issue of insolvency arose in the Bridgeport case as a
question of eligibility to file a chapter 9 petition. 	It is
arguable that this prospective view of a debtor’s ability to pay
should not be applied in a fraudulent transfer action. 	However,
both parties have assumed that it should apply, and the Court
concludes that its application does not change the outcome the
decision.
6
The 	relevant 	time 	for 	determining 	whether 	the 	Debtor 	was 	insolvent
when 	it 	entered 	into 	the 	Sublease 	is 	July 	1, 	2005, 	just 	before 	the
Sublease was executed. 	The relevant time for determining whether the
Debtor 	was 	rendered 	insolvent 	by 	entering 	into 	the 	Sublease 	is
prospective. 	It 	considers 	the 	Debtor’s 	likely 	ability 	to 	pay 	its
debts during the balance of the fiscal year–i.e., through the end of
2005. 	See In re City of Bridgeport, 129 B.R. 332, 336-38 (Bankr. D.
Conn. 1991). 2
1. 	The 	Debtor 	was 	generally 	paying 	is 	debts 	when 	it 	entered
into the Sublease.
The Trustee’s principal argument in support of its cross-motion
was that the Debtor was not generally paying its debts as they came
due 	in 	2005. 	Her 	evidentiary 	support 	for 	this 	argument 	is 	seven
proofs 	of 	claim 	filed 	in 	the 	bankruptcy 	case, 	reflecting 	debts
incurred during 2005, which remained unpaid when the bankruptcy case
was filed in October 2005. 	This evidence is insufficient as a matter
of 	law 	to 	establish 	that 	the 	Debtor 	was 	not 	generally 	paying 	its
debts as they came due as of July 1, 2005.
The 	Trustee 	concedes 	that 	many 	of 	the 	debts 	reflected 	in 	the
seven proofs of claim were incurred after July 1, 2005. 	She has not
provided 	a 	separate 	figure 	for 	those 	incurred 	up 	to 	July 	1, 	2005.
However, 	even 	if 	all 	of 	the 	debts 	had 	been 	incurred 	before 	July 	1,
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2005, 	they 	would 	not 	be 	sufficient 	to 	establish 	insolvency 	at 	the
time the Debtor entered into the Sublease.
The 	Debtor’s 	financial 	records 	establish 	that 	its 	operating
expenses 	in 	June 	2005 	were 	approximately 	$10 	million 	and 	in 	July
approximately $11 million. 	The Debtor’s failure to pay $1.3 million
of 	those 	expenses 	would 	not 	be 	sufficient 	to 	establish 	that 	the
Debtor 	was 	“generally 	not 	paying 	its 	debts.” 	Moreover, 	as 	Tenet
points 	out, 	the 	Trustee 	has 	failed 	to 	offer 	any 	evidence 	that 	some
or all of the debts were not being paid because they were disputed.
2. 	The Debtor was able to pay its debts as they came due both
before 	entering 	into 	the 	Sublease 	and 	during 	the 	balance
of 2005.
As 	noted 	above, 	the 	Debtor’s 	ability 	to 	pay 	is 	examined
prospectively, taking into account the balance of the Debtor’s fiscal
year. 	The 	Debtor’s 	financial 	records 	clearly 	demonstrate 	that 	it
was 	losing 	money 	every 	month 	and 	that 	its 	financial 	condition 	was
deteriorating. 	However, 	Tenet 	notes 	that 	the 	Debtor’s 	financial
records 	demonstrate 	that, 	even 	at 	the 	end 	of 	December 	2005, 	the
Debtor’s 	cash 	reserves 	exceeded 	the 	amount 	of 	its 	payables. 	Thus,
according to Tenet, it was able to pay its debts by resorting to its
cash reserves.
The 	Trustee 	argued 	that 	the 	cash 	reserves 	should 	not 	be 	taken
into account because the Debtor would not have been exercising good
business judgment if it had exhausted its cash reserves. 	Maybe so.
However, the test for insolvency does not question whether the Debtor
should have done so, simply whether it could have done so.
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3The delay in payment to vendors could have supported a
finding that the Debtor was generally not paying its debts as they
came due if evidence had been provided that the delays occurred
before July 1, 2005 and involved the majority of the Debtor’s
current payables. 	However, given the timing and lack of
specificity of the evidence presented, it does not.
8
In her post-hearing brief, the Trustee argues that the Debtor’s
financial records demonstrated that, as of November 2005, the Debtor
was unable to pay its debts. 	At that time, the total of the Debtor’s
cash and investments and market securities was only approximately $9
million 	whereas 	its 	total 	accounts 	payable 	and 	payroll 	related
liabilities 	were 	approximately 	$9.5 	million. 	The 	shortfall 	in
December 	2005 	was 	even 	larger. 	Moreover, 	she 	notes, 	these 	figures
do not include the Debtor’s current liabilities, which she estimates
exceeded $400,000 in November and December 2005. 	However, as Tenet
responds, the Trustee ignores the approximately $10 million revenue
stream 	that 	the 	Debtor 	received 	each 	month 	and 	used 	to 	pay 	its
operating expenses. 	Thus, this argument is unpersuasive.
The Debtor’s final piece of evidence is the declaration of Dev
Mahadevan 	(“Mahadevan”), 	the 	Debtor’s 	Chief 	Financial 	Officer. 	In
his declaration, Mahadevan notes that, at a meeting of the Board of
Directors 	on 	June 	28, 	2005, 	he 	advised 	the 	Board 	that, 	“if 	[the
Debtor’s] 	losses 	continued 	at 	the 	current 	rate, 	the 	District 	could
exhaust its reserves in four months, by September 2005.” 	As a result
of 	this 	advice, 	the 	Trustee 	notes, 	the 	Debtor 	undertook 	extensive
cost-cutting measures, including delaying payments to those vendors
it believed were not critical or would not respond by discontinuing
shipment of necessary supplies. 3
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4The $50,000 reference in the minutes appears to be a
typographical error. 	Mahadevan’s declaration states that the goal
was to reduce expenses by $500,000. 	This figure appears more
plausible given the amount of the Debtor’s monthly expenses.
9
A 	copy 	of 	the 	minutes 	from 	the 	meeting 	are 	attached 	to
Mahadevan’s declaration. 	The following statements appear immediately
after 	the 	language 	quoted 	by 	the 	Trustee: 	“Administration 	has
reviewed 	each 	department 	and 	has 	met 	nearly 	everyday 	to 	review
opportunities 	for 	saving 	expenses. 	The 	goal 	is 	to 	reduce 	expenses
by $50,000 per month and meet the original budget by the year-end.” 4
As 	discussed 	above, 	clearly, 	the 	Debtor 	was 	successful 	in
reducing its expenses so as to pay its debts generally as they became
due 	through 	the 	end 	of 	2005 	so 	as 	to 	avoid 	exhausting 	its 	cash
reserves. 	By contrast, the City of Vallejo was found to be insolvent
when 	it 	was 	unable 	to 	reduce 	its 	expenses 	without 	endangering 	the
public health and safety. 	See In re City of Vallejo, 408 B.R. 	280,
294 	(Bankr. 	9 th 	Cir. 	2009). 	Thus, 	the 	Court 	concludes 	that, 	even
viewed prospectively, the Debtor had the ability to pay its debts as
they came due.
CONCLUSION
Tenet’s 	motion 	for 	summary 	judgment 	will 	be 	granted, 	and 	the
Trustee’s cross-motion for partial summary judgment will be denied.
The 	Trustee 	has 	not 	presented 	any 	evidence 	nor 	has 	it 	argued 	that
entering into the Sublease caused it to be insolvent. 	In addition,
the 	Trustee 	has 	failed 	to 	present 	sufficient 	evidence 	to 	sustain 	a
finding that either the Debtor was not generally paying its debts as
they 	came 	due 	or 	that, 	viewed 	prospectively, 	it 	would 	be 	unable 	to
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pay its debts on a timely basis during the rest of 2005. 	Since all
of the other claims asserted in the complaint depend on the Trustee’s
success on her claim for avoidance of the obligation represented by
the Sublease, Tenet is entitled to summary judgment on those claims
as 	well. 	Tenet 	is 	directed 	to 	submit 	a 	proposed 	form 	of 	order 	and
judgment in accordance with this decision.
END OF DOCUMENT
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COURT SERVICE LIST
Andrea T. Porter
Friedman Dumas and Springwater
150 Spear St. #1600
San Francisco, CA 94105
Ivan L. Kallick
Manatt, Phelps and Phillips
11355 W Olympic Blvd.
Los Angeles, CA 90064
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