Railyard Company, LLC A New Mexico Limited Liabili and Associated Case in US District Court

UNITED STATES BANKRUPTCY COURT
DISTRICT OF NEW MEXICO
In re: RAILYARD COMPANY, LLC
a New Mexico Limited Liability Company
Debtor Case No. 15-12386-j11
MEMORANDUM OPINION ON MOTION TO APPOINT TRUSTEE
THIS MATTER is before the Court on the Motion to Appoint Chapter 11 Trustee, or in
the Alternative to Require Debtor to Employ a Property Manager (Docket No. 24) (the “Motion”)
filed by Thorofare Asset Based Lending Fund III, L.P. (“Thorofare”). Santa Fe Railyard
Community Corporation (“SFRCC”) filed a Statement of No Objection to the Motion (Docket No.
52) and Recreational Equipment, Inc. (“REI”) filed a Joinder in the Motion (Docket No. 54).
Debtor filed an Objection to the Motion (Docket No. 51). The Court held a final hearing on the
Motion on February 17, 18, 19, and 26, 2016 and March 8, 2016, and took the matter under
advisement. Thorofare was represented by Sutin, Thayer & Browne P.C. (Benjamin E. Thomas,
Katharine C. Downey, and Jacqueline Ortiz). Debtor was represented by William F. Davis &
Associates, P.C. (William F. Davis and Christopher Dvorak). REI was represented by Rodey,
Dickason, Sloan, Akin & Robb, P.A. (Charles R. Hughson and Henry M. Bohnhoff).
After considering the evidence, the arguments of counsel and applicable law, the Court
finds and concludes that cause exists to appoint a Chapter 11 trustee under 11 U.S.C. § 1104(a)(1).
Accordingly, the Court must grant the Motion insofar as it requests appointment of a trustee and
order that a trustee be appointed.
FINDINGS OF FACT
In accordance with Fed.R.Civ.P 52(a)(1), made applicable by Fed.R.Bankr.P. 9014, the
Court finds the following facts by clear and convincing evidence.
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Background
A group of local businessmen in Santa Fe, New Mexico formed Debtor in 2004 for the
purpose of bidding to obtain the development rights for a portion of a master planned public/private
development located at an abandoned rail station near downtown Santa Fe, New Mexico, and to
develop the project if the bid was successful. Debtor’s founding members were Richard Jaramillo,
Steve Duran, David Duran, Allen Branch, and Marco Gonzalez. The members’ planed for Mr.
Jaramillo to manage the property and perform maintenance on the property through his company
T.R. Power Maintenance; Steve Duran to perform construction work as needed through his
company, Southwest Structural Services; and David Duran to perform electrical work as needed
through his company, Builders Electric Inc.
On September 1, 2005, Debtor entered into a ground sublease with SFRCC, which granted
Debtor the rights to develop multiple parcels of the railyard project. On October 1, 2007, Debtor
and SFRCC entered into an Amended and Restated Ground Lease (the “Ground Lease”). See
REI’s Exhibit 1. SFRCC leased the ground from the City of Santa Fe (the “City) and subleased it
to Debtor. Pursuant to the Ground Lease, Debtor obtained development rights for the Market
Station building, which is a two-story superstructure on top of a three-story subterranean parking
garage. As this was a public/private venture, the City would continue to own the land and the
subterranean parking structure, while Debtor obtained a long term ground sublease and the rights
to build and own the two-story Market Station building. The City began development of the
subterranean parking garage sometime in 2006. Debtor’s construction of the Market Station
building superstructure began the following year. As planned, Mr. Jaramillo acted as the property
manager for the Market Station building from the time Debtor was awarded the project to the
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present, which included being the primary contact between Debtor and other parties, including
potential tenants, current tenants, creditors, and service providers.
The Sublease
On January 12, 2007, Debtor entered into a Retail Sublease with REI (the Retail Sublease,
as amended from time to time by the parties, is hereafter referred to as the “Sublease”). See REI’s
Exhibit 2. Under the Sublease, REI would occupy an approximate 28,300 square foot anchor
tenant location on the ground floor of the Market Station building. The Sublease provided for a
base rent of $622,600.00 per year. REI is Market Station’s anchor tenant.
The Sublease provided for additional rent in the form of REI’s share of common area
maintenance expenses (“CAM”) and real property taxes (“RPT”). See REI’s Exhibit 2, pp. 13 –
17. The purpose of this additional rent was for REI to compensate Debtor for a portion of expenses
actually incurred for upkeep and other routine expenses of beautification and maintenance of the
common areas, property insurance, and real property taxes. As such, Debtor and REI anticipated
that the actual amount of CAM and RPT that REI should pay would vary from year to year.
Initially, REI’s share of CAM and RPT was estimated at 21.6% of the entire CAM and RPT
expenses for the Market Station building and surrounding common areas. This estimate was based
on REI’s leased area divided by the total leasable square footage of the Market Station building.
See REI’s Exhibit 2, p. 8. Prior to execution of the Sublease, no real property taxes had been
assessed against the property because the improvements were newly constructed and the City is
exempt from property taxes. Nor was there a prior history of actual CAM expenses. In the
Sublease, Debtor estimated annual CAM and RPT in the amounts of $106,125.00 and $72,165.00,
respectively. See REI’s Exhibit 2, p. 8.
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Section 5 of the Sublease addresses the obligations of both parties relating to CAM and
RPT charges. See REI’s Exhibit 2, pp. 13 – 17. Under Section 5.1, Debtor must, within 60 days
of the close of each lease year (defined to end each December 31), provide REI with (1) a notice
of Debtor’s reasonable estimate of REI’s share of CAM and RPT for the current lease year; and
(2) an annual reconciliation (i.e., an accounting in reasonable detail, together with supporting
documentation, of all CAM and RPT charges for the prior lease year compared to the estimate).
Until Debtor provides REI notice of the estimated CAM and RPT for a particular year, the Sublease
provides that REI is to pay CAM and RPT each month based on the previous lease year’s CAM
and RPT estimate. Debtor may also charge an administrative fee not to exceed 10% of CAM
charges, excluding RPT, other taxes, utilities, and CAM charges under the Ground Lease. REI’s
share of CAM, excluding insurance and utilities, for any particular lease year cannot exceed 105%
of REI’s share of CAM for the previous lease year. All estimates Debtor provides must be
reasonable and, upon REI’s request, Debtor must provide REI with evidence of the reasonable
basis for the estimate. REI is then obligated to pay the estimated amount on a monthly basis
through the duration of the lease year. Within 30 days of Debtor providing REI a reconciliation
for the previous lease year, either Debtor must refund REI amounts REI overpaid for the previous
year’s CAM and RPT, or REI must pay the difference between the amount paid and its actual
CAM and RPT charges for the previous year.1
1 Section 5.1 of the Sublease further provides that if REI underpaid Debtor for CAM charges for more than one
consecutive lease year based on the most recent CAM estimate Debtor provided REI, then REI would be required to
pay Debtor the difference only for the immediately preceding lease year. Section 5.1 gives the following example to
illustrate how this works:
For example, Tenant receives a CAM estimate for 2008 and pays monthly amounts accordingly,
Landlord then fails to timely provide an updated CAM estimate for 2009 and 2010. Tenant continues to
pay monthly amounts based upon the 2008 CAM estimate throughout 2009 and 2010. Landlord later
provides an updated CAM estimate in 2011. Under such example and based upon the preceding
language contained in this Section 5.1, Tenant shall pay the “catch-up” amounts for the immediately
preceding Lease Year (2010) only, and Landlord is precluded from collecting any “catch-up” amounts
for Lease Year 2009.
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Section 7 of the Sublease provides REI with the right to examine Debtor’s books and
records relating to the Sublease upon seven days’ written notice to verify the accuracy of Debtor’s
calculations of base rent and REI’s share of CAM and RPT. See REI’s Exhibit 2, p. 17. Section
7 provides two penalty provisions. First, if an audit reveals that REI overpaid its share of CAM
and RPT by more than 5%, or Debtor’s books and records are inadequate to provide an accurate
accounting of CAM and RPT, Debtor must pay for the audit and refund all overpayments to REI.
Second, if the audit reveals “willful inaccuracies,” Debtor must pay REI an amount equal to eight
months of REI’s share of CAM and RPT charges.
Section 9.8(a) of the Sublease provides the opening co-tenancy requirement and states that
REI is not obligated to open for business unless at least 50% the Market Station building is
occupied and open for business. See REI’s Exhibit 2, pp. 21 – 22. Section 9.8(b) of the Sublease
provides an ongoing co-tenancy requirement under which REI’s base rent is reduced and/or REI
may terminate the Sublease if Debtor does not meet specified occupancy targets for the Market
Station building in specified circumstances. See REI’s Exhibit 2, p. 22.
Debtor’s Relationship with REI
Contention between Debtor and REI began early in their relationship. REI held a grand
opening on September 12, 2008. By early December 2008, Debtor and REI were already
embroiled in a contentious dispute regarding the delivery date of the leased premises, the date of
commencement of the Sublease term, and the co-tenancy requirements. On December 2, 2008,
Mr. Jaramillo sent a strongly worded email to an REI employee regarding the disputes threatening
to apply legal and political pressure on REI and to air the matter in the press. See REI’s Exhibit
19. 2 This tone would become a hallmark of several of Mr. Jaramillo’s communications with REI.
REI’s Exhibit 2, pp. 13 – 14.
2 Specifically, Mr. Jaramillo wrote:
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By late December 2008, REI and Debtor entered into a Standstill Agreement on these issues.
Approximately three months later, Debtor and REI entered into a Settlement Agreement resolving
the disputes. See REI’s Exhibit 30. In August 2009, REI and Debtor entered into a First
Amendment to Retail Sublease (the “First Amendment”), which, among other amendments,
lowered the ongoing co-tenancy requirement from 70% to 45%. See REI’s Exhibit 2, pp. 68 – 80.
The initial rockiness of the relationship between Debtor and REI smoothed to some extent
through 2009 and 2010. However, what transpired during this time eventually contributed to a
breakdown of the relationship between Debtor and REI for years to come. As described more fully
below, Debtor did not provide REI with a single “annual” reconciliation for CAM and RPT charges
until mid-2012, while continuing to collect CAM and RPT payments based on Debtor’s original
CAM and RPT estimate when the Sublease was executed in 2007. As a result, REI paid CAM and
RPT greatly in excess of its share of the actual expenses. And although no taxes were assessed
against the Market Station building until 2013, Debtor continued to collect RPT payments from
REI during 2009, 2010 and 2011 without informing REI that no real property taxes had been
assessed. Debtor collected RPT during this period because tax assessments would be applied
retroactively.
In 2011, further problems began to surface. In early 2011, REI sent a letter to Debtor
asserting that Debtor was in violation of the co-tenancy requirements under the Sublease, resulting
in reduced base rent since July 1, 2010. See Debtor’s Exhibit K. REI’s letter invited Debtor to
discuss the matter if it disagreed. Mr. Jaramillo responded two days later with an angry letter
We are prepared to approach this situation on many fronts including legal, political, and public
relations (a press release and press conference for tomorrow at Market Station).
We will not take this matter on the chin as you suggested to me. We will dig in and fight for our
rights in every manner possible. We would much rather see REI prosper in our great City, however,
the clock is running and time is short – the ball is in your court.
REI’s Exhibit 19.
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characterizing REI’s letter as “an aggressive attack by our corporate anchor tenant REI on our
local company . . . border[ing] on contractual interference with business relations” because Debtor
was then negotiating issues with the City and its lender. See Debtor’s Exhibit T. REI withdrew
its claim of breach of the co-tenancy requirement based on additional information Debtor provided.
Later that year, issues relating to the fire alarm system surfaced. In July 2011, REI
conducted a series of tests of its fire alarm system, to which the Santa Fe Fire Department did not
respond. REI informed Mr. Jaramillo of this concern at that time. In August 2011, the Santa Fe
Fire Department inspected the fire alarm system and determined it was disconnected from the
central station. The Santa Fe Fire Department gave a 10 day notice to fix the problem, which
Debtor did. Additionally, around this time, REI became irritated by frequent and disruptive fire
alarms. The problem of frequent fire alarms has lessened but, as of the date of trial, the problem
remains and neither the Debtor nor REI seem to know what is causing the frequent alarms. It is
unclear from the evidence whether the problem triggering the fire alarms originates in the
underground parking garage, which the City owns and maintains, or in the Debtor’s two story
superstructure.
Mr. Jaramillo’s apparent temper got the better of him again in December 2011 when an
REI employee attempted to send an email to him complaining about the accumulation of salt on
the sidewalks outside of its store. The REI employee incorrectly addressed the email (to
rickjaramillo@yahoo.com instead of rickxaramillo@yahoo.com) and it was received by someone
other than Mr. Jaramillo who responded to REI. When Mr. Jaramillo was notified of the email
and the response, he became irate, asserted that it was “an apparent set up by somebody at REI to
cause problems for us,” and stated that he would likely call the police. See REI’s Exhibit 43, p. 2.
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The tension began to reach a boiling point after REI asked in April 2012 to audit Debtor’s
books and records. At that time, REI had not received a CAM and RPT reconciliation for 2008,
2009, 2010, 2011 or 2012. Pursuant to the audit provisions of Section 7.1 of the Sublease, REI
requested CAM and RPT reconciliations for 2009, 2010 and 2011 together with property tax bills
and insurance bills, and requested that Debtor make available all statements, books, records and
contracts relating to the Sublease and the operating expenses. See REI’s Exhibit 41. The letter
stated that REI’s retention of an auditor was a normal business decision, and that REI would “work
cordially with your team.” By mid-2012, Debtor provided REI with CAM and RPT reconciliations
for 2010 and 2011 but not for 2009. However, despite several requests, Debtor provided only a
few documents to REI’s auditor to support the CAM charges from 2009 to 2011. As a result,
REI’s auditor eventually discontinued its effort without issuing an audit report.
REI notified Debtor in July 2012 that REI determined from its audit that it had overpaid
Debtor $161,828.55 for RPT because no property taxes had yet been assessed against Market
Station, and that it would offset this overpayment against future rent per the Sublease. See REI’s
Exhibit 42. In the midst of the dispute relating to CAM and RPT charges, on October 24, 2012,
Debtor declared REI in default under the Sublease for delivering a fraudulent lien waiver and
retaining an unlicensed contractor to perform tenant improvements, and demanded the return of
tenant improvement funds Debtor paid REI. REI disputed both claims. By a letter dated
November 11, 2012, Debtor gave REI 30 days to cure the default. See Debtor’s Exhibit U.
On November 30, 2012, REI’s attorney sent a letter to Debtor declaring Debtor in default
under the Sublease, and demanding reimbursement of $216,292.56, representing (according to
REI) all CAM payments REI made for 2008 and 2009 based on Debtor’s failure to provide CAM
reconciliations for those years despite prior demand. See REI’s Exhibit 8. REI also stated that it
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would begin offsetting CAM overcharges for 2010 and 2011 because Debtor had not reimbursed
REI for the overcharges per a prior demand letter.
On January 30, 2013, in-house counsel for REI sent Debtor a letter stating that it was going
to pay all unsubstantiated CAM charges into REI’s attorneys trust account, and all future CAM
and RPT charges into the trust account until Debtor’s estimated charges are substantiated. In the
letter counsel also expressed dismay about the degree to which REI had overpaid CAM charges
based on Debtor’s estimates and suggested Debtor was inappropriately using the overpayments to
funds its operations. Through January 19, 2016, REI has deposited a total of $295,066.61 in its
attorneys’ trust account per REI’s accounting provided to Debtor, consisting of three initial
deposits totaling $158,242.74 and monthly deposits of $4,413.67 beginning in July 2013.
On February 11, 2013, Allen Branch, a founding member of Debtor, who was involved in
litigation related to Debtor’s purchase of his interest in Debtor, sent a letter to REI “as Principal
Member” of Debtor. See REI’s Exhibit 13. In the letter he purported to provide a CAM and RPT
reconciliation for 2012 and an estimate for 2013 but did not attach any invoices or other
documentation. He also asserted that REI for years had failed to pay any base rent to Debtor. REI
responded in a letter dated February 28, 2013. See REI’s Exhibit 10. REI also pointed out the
gross disparity between the 2010 and 2011 CAM numbers reported by Mr. Branch and the CAM
numbers Debtor previously reported to REI for those years. REI pointed out that no documentation
accompanied the 2012 lease year reconciliation as required. REI further explained it was paying
base rent into a lock box as directed.
In May 2013, Debtor provided CAM and RPT reconciliations to REI for 2009. The CAM
and RPT reconciliation Debtor provided for 2009, and the 2010 and 2011 reconciliations it had
provided earlier, showed that REI had paid Debtor $534,888.00 for CAM and RPT during those
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years and that its actual share of such CAM and RPT was $222,905.79, resulting in an overpayment
of $311,982.21 – meaning that REI had paid about 240% of its share of the actual expenses for
2009-2011 according to Debtor’s figures. In May 2013, Mr. Jaramillo sent packages to REI
containing some backup documentation for 2009-2011 CAM charges. Mr. Jaramillo followed up
with an email acknowledging $311,982.21 for CAM and RPT overpayments by REI in those years,
and asserting that the offsets REI already had taken against rent had exceeded the amount of the
overpayments. See REI Exhibit 14.
The following chart summarizes Debtor’s later statement of the amount of CAM and RPT
overpayments for 2009-2012: 3
2009 2010 2011 2012 Totals
CAM & RPT Paid $178,296.00 $178,296.00 $178,296.00 $148,580.00 $683,468.00
Actual CAM & RPT $70,168.19 $76,317.91 $76,419.69 $95,768.55 $318,674.34
Overpayment $108,127.81 $101,978.09 $101,876.31 $52,811.45 $364,793.66
The overpayments reflected in the chart were more than a mere honest mistake by Debtor. Debtor
knew or should have known of the gross discrepancy between the amounts REI paid Debtor and
the REI’s actual share of CAM and RPT at least by sometime in 2010. Instead of annually issuing
reasonable estimates of CAM and RPT charges and informing REI of Debtor’s initial overestimate
made in 2007, Debtor simply kept accepting overpayments from REI until REI made demand and
began recouping the overpayments by offsetting rent.
Notwithstanding the fact that REI was paying CAM and RPT charges into its attorneys’
trust account, Debtor did not provide CAM and RPT reconciliations to REI for 2013 and 2014
until on or about December 8, 2015, over 21 months late for 2013 and 9 months late for 2014. The
3 REI asserts the amount of overpayments may be higher, and also asserts there were overpayments in 2008.
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documentation supporting Debtor’s 2013 and 2014 CAM and RPT reconciliations was incomplete:
it included approximately 50% of the supporting documentation for 2013 and approximately 80%
for 2014.
The industry standard for a project such as Market Station is for a landlord to provide all
or substantially all supporting documentation for CAM and RPT charges to a tenant who requests
the documents under a lease provision entitling the tenant to the documents. In addition, CAM
reconciliations should be provided timely. As of the date of the hearing on the Motion to Appoint
a Trustee, Debtor had provided reconciliations and supporting documentation to REI for CAM and
RPT charges, as follows:
Year Date
Reconciliation Due
Date
Reconciliation Provided
Percentage of CAM
Charges
Documented to Date
2008 March 1, 2009 Not Provided 0%
2009 March 1, 2010 May 22, 2013 28.2%
2010 March 1, 2011 Mid-2012 75.4%
2011 February 29, 2012 Mid-2012 68.9%
2012 March 1, 2013 Not Provided4 0%
2013 March 1, 2014 On or about
December 8, 2015
50.3%
2014 March 1, 2015 On or about
December 8, 2015
81.2%
2015 February 29, 2016 March 1, 2016 Unknown
Debtor’s laptop computer crashed in August 2015, corrupting the hard drive on which
Debtor kept its business records. Debtor did not backup the information. Debtor has been unable
to find hard copies of its records. Debtor’s loss of its business records explains neither its
consistent delinquency in providing CAM and RPT reconciliations to REI, nor its failure to provide
REI with adequate supporting documentation before it lost the records. In an attempt to recover
4 The February 11, 2013 letter from Allen Branch to REI purports to provide a 2012 CAM and RPT reconciliation.
The Court finds that the letter is not a reconciliation because Mr. Branch’s authority to act on behalf of Debtor at that
time is seriously questionable; the letter was sent without the knowledge or consent of the other members of Debtor;
expenses were not detailed and no supporting documentation was provided. See REI Exhibit 13.
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the information on the hard drive, Debtor enlisted the services of the Best Buy Geek Squad, whose
efforts were unsuccessful. Debtor then inquired about data recovery services to perform a more
sophisticated recovery effort at a cost of approximately $1,600.00. Thorofare refused to consent
to use of cash collateral to fund the cost. Debtor chose not to seek court approval of the
expenditure, and Debtor’s principals refused to provide the funds. Debtor’s efforts to recover the
data were inadequate.
Other actions by Debtor and Mr. Jaramillo have contributed to the rocky relationship
between the Debtor and REI. For example, on June 15, 2015, Mr. Jaramillo left a voicemail
message for REI’s CEO hoping to convince REI to resolve the disputes between REI and Debtor
relating to CAM and RPT charges. See Thorofare’s Exhibit 55, p. 000733. In the voice message,
Mr. Jaramillo threatened to “post a big sign saying ‘Notice of Default’” on REI’s store, which he
suggested would result in newspaper coverage and “picket signs that say ‘Please REI Corporate
Monster, please pay your fair share of water – please pay your fair share of rent - please pay your
fair share of property taxes and insurance.’” At trial, Debtor entered into evidence letters of intent
with Trek Retail Corporation (which, like REI, sells bicycles) and Harvest Foundation (a medical
marijuana dispensary), each of which arguably violate the Sublease. See Debtor’s Exhibits H and
I. Debtor did not seek input from REI before entering into these letters of intent. Debtor lacks
competence to mend the broken business relationship between it and REI.
The CAM and RPT dispute still lingers, as well as the dispute regarding whether an REI
retained contractor constructed tenant improvements without the required license. REI is
continuing to deposit estimated CAM and RPT amounts in its attorneys’ trust account.
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Debtor’s Relationship with Thorofare
Debtor has also had a tumultuous relationship with its lender, Thorofare. On April 29,
2008, Debtor obtained a loan in the amount of $14,000,000.00 from Market Station Railway
Properties, LLC (“MSRP”), a subsidiary of Ambit Funding, LLC. Debtor executed a Promissory
Note to evidence the loan (the “Promissory Note”). To collateralize the loan, among other things,
Debtor executed an Assignment of Leases, Rents and Profits and a Leasehold Mortgage and
Security Agreement (the “Mortgage”). Debtor’s principals personally guaranteed the loan. By
late 2014, Debtor had defaulted on the Promissory Note and was operating under a forbearance
agreement with MSRP while it searched for alternate financing. In December 2014, Thorofare
refinanced the Debtor’s Market Station project. It purchased MSRP’s interest in the Promissory
Note and obtained an assignment of the related documents, including the Mortgage and
Assignment of Leases, Rents and Profits. In connection with the refinance, on December 12, 2014
Debtor executed an Amended and Restated Promissory Note in the original principal amount of
$9,670,000.00 (the “Amended Promissory Note”) specifying new repayment terms and finance
charges, an Amended and Restated Loan Agreement (the “Amended Loan Agreement”), a Cash
Management Agreement (the “Cash Management Agreement”), a Holdback and Disbursement
Agreement (the “Holdback Agreement”), and other documents (collectively the “Loan
Documents”). See Thorofare’s Exhibits 14-20. Debtor did not inform Thorofare about the extent
of its disputes with REI, who then accounted for approximately 65% of all revenue Debtor
collected from its tenants,5 before Thorofare refinanced the loan.
The Amended Promissory Note requires Debtor to make monthly interest only payments
of $80,883.33 to Thorofare at the non-default rate of interest. See Thorofare’s Exhibit 14. The
5 See Debtor’s Cash Flow Statement Profit and Loss, p. 2.
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monthly interest accrual increases after a default. The Amended Loan Agreement obligates Debtor
to maintain complete and accurate records for its operations and for Debtor to provide
documentation to Thorofare, including a certified monthly rent roll containing specified
information within 10 days after the end of each calendar month.6 The Amended Loan Agreement
contains several representations and warranties made by Debtor, including a representation that
there were no defaults on any of Debtor’s leases with its tenants at that time.7
The Cash Management Agreement provides that Debtor must deposit all payments
received from Debtor’s tenants into a lockbox account maintained by Thorofare and further
provides that, in the event of default, Debtor must direct its tenants to deposit rent and other
payments directly into the lockbox account. To obtain money from the lockbox account to pay for
operating expenses, Debtor must obtain Thorofare’s approval, which requires a detailed
accounting and Debtor’s certification. See Thorofare’s Exhibit 17, p. 4.
6 The Section 16 of the Amended Loan Agreement provides, in part, as follows:
(a) Borrower will maintain full, accurate and complete books of accounts and other
records, reflecting the results of the operations of the Property as well as its other operations and
will furnish, or cause to be furnished, to lender the following: . . .
(ii) within ten (10) days after the end of each calendar month and within
forty-five (45) days after the end of each fiscal year, a certified current rent roll, which
shall include, among other things, tenant names, lease commencement and expiration dates,
square footage, annual rent, annual operating expense and real estate tax contributions, a
statement as to whether or not there are any purchase options and/or co-tenancy
requirements, and any and all other fees paid by tenants and security deposits currently
held, . . .
(v) within ten (10) days after the end of each calendar month, a certified
profit and loss statement for Railyard Brewing Company, . . .
(b) Borrower shall deliver to Lender such additional information regarding
Borrower, their business, and the Property within five (5) days after Lender’s request therefor.
Borrower shall permit Lender to examine such records, books and papers of Borrower which reflect
upon its financial condition and the income and expenses of the Project. . . .
Thorofare’s Exhibit 15, pp. 19-20.
7 Section 18 of the Amended Loan Agreement provides, in part, as follows:
Borrower represents, warrants and covenants as follows: . . .
(d) . . . Except as otherwise disclosed in writing to Lender, the current Lender, the current
Leases are in full force and effect and there are no defaults thereunder by either party and there are no
conditions that, with the passage of time or the giving of notice, or both, would constitute defaults thereunder.
. . .
Thorofare’s Exhibit 15, p. 21.
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The financing arrangement between Thorofare and Debtor contemplated cash shortfalls
from operations until Debtor achieved higher occupancy of the Market Station building. The
Holdback Agreement provided for a $265,000.00 set aside of the loan amount as a “Delta Interest
Reserve Holdback” to help debtor service its debt to Thorofare while it was leasing more space.
See Thorofare’s Exhibit 18, pp. 1 – 3. The Holdback Agreement also provided for a $520,000.00
set aside of the loan amount to fund tenant improvements. See Thorofare’s Exhibit 18, pp. 3 – 4.
Under the Holdback Agreement, Debtor could not use more than $300,000.00 of the tenant
improvement set aside for improvements to the second floor space leased to Railyard Brewing
Company, LLC. See Thorofare’s Exhibit 18, p. 3. Railyard Brewing Company, LLC and Debtor
have common ownership. Debtor’s concept is for Railyard Brewing Company, LLC to open a
brew pub and bowling alley on the second floor of the Market Station building
Debtor defaulted on the Loan Documents in several respects. Within five months after
Thorofare refinanced Debtor’s project, the Delta Interest Reserve Holdback was depleted to
approximately $18,000.00. Following that, Debtor failed to make any loan payments to Thorofare.
Debtor only intermittently provided Thorofare with monthly rent rolls as required under the
Amended Loan Agreement. Debtor failed to provide Thorofare with adequate records of its
operations as required under the Amended Loan Agreement despite repeated requests from
Thorofare. Debtor failed to deposit all rental payments received in May 2015 into the lockbox
account. Debtor leased additional space to Railyard Brewing Company, LLC without the prior
consent of Thorofare.
The relationship between Debtor and Thorofare soured further after Thorofare sent a letter
to Debtor on June 18, 2015 declaring Debtor in default in numerous respects, including those listed
above. See Thorofare’s Exhibit 88. In addition to Debtor’s defaults, Debtor’s relationship with
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Thorofare was strained over a dispute relating to disbursement of tenant improvement funds.
Thorofare approved the expenditure of approximately $216,000.00 for improvement to the
Railyard Brewing Company, LLC space. Thorofare did not approve disbursement of the
remaining funds within the $300,000.00 limit for the following reasons: (1) Debtor was already in
default under the Loan Documents; (2) Debtor refused to certify its request for funds; and (3)
Thorofare was aware of over $90,000.00 in outstanding invoices for improvements to the Railyard
Brewing Company, LLC space, and Thorofare did not believe the remaining funds would be
sufficient to complete the tenant improvements. In fact, Mr. Jaramillo estimated at trial that Debtor
would need over $120,000.00 to complete the Railyard Brewing Company, LLC space.
Nonetheless, Thorofare’s denial angered Mr. Jaramillo, who accused Thorofare of “attempt[ing]
to steal our property and charge rapacious fees and costs in bad faith.” Thorofare’s Exhibit 80.
Mr. Jaramillo’s Relationship with the City
As found above, the Market Station building is a private/public joint project between the
City of Santa Fe and private businesses. Mr. Jaramillo’s relationship with the City has been
marked with contention. In May 2012, a dispute arose between the City and Debtor resulting in a
Settlement Agreement, under which the City purchased a condominium unit from Debtor that
comprised approximately 26% of the Market Station building. See REI’s Exhibit 6. At the time
of the City’s purchase of the condominium unit, the City and Debtor became members of a
condominium association. See REI Ex. 5. The condominium association is primarily managed by
Mr. Jaramillo. Disputes have arisen between the City and Mr. Jaramillo about whether Mr.
Jaramillo has paid condominium association fees; Mr. Jaramillo’s failure to keep condominium
association funds separate from Debtor’s funds; Mr. Jaramillo’s failure to timely pay condominium
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association expenses; Mr. Jaramillo’s failure to maintain adequate records of condominium
association expenses; and Mr. Jaramillo’s failure to provide documentation when requested.
Debtor’s Relationship with Other Tenants
Debtor has had a total of five tenants who have been open for business for a period of time
since opening the Market Station to the public in September 2008: REI; Flying Star Café;
Daniella’s Closet, Inc.; Marvelous Hair Designs; and Go Wireless. Debtor has had significant
disagreements with all but one of these tenants at least once during their tenancy. In one instance
the disagreement was so severe that the tenant, Daniella’s Closet, Inc., filed a Complaint for
Rescission of Lease, for Restitution and Special Damages in state court. See Thorofare’s Exhibit
70. While the disagreement between Debtor and Daniella’s Closet, Inc. that led to litigation was
settled, other disagreements have lingered and continued as late as May 2015. See Thorofare’s
Exhibits 36 and 56. Flying Star Café, the project’s junior anchor tenant, operated a restaurant in
Market Station from 2009-2015 that was second only to REI in terms of square footage at Market
Station. Flying Star Café filed a Chapter 11 bankruptcy case in which it rejected its lease with
Debtor and closed its Market Station location in in 2015. The president of Flying Star Café
described its relationship with Debtor as “conflictive,” “contentious,” and “exhausting.” Finally,
Marvelous Hair Designs has not paid rent in over a year due to its dispute with Debtor over an
alleged failure to adequately ameliorate smoke damage to its space.
Debtor’s Business with Related Entities
Debtor has frequently conducted business with entities sharing some common ownership
with members of the Debtor. Mr. Jaramillo’s company, T.R. Power Maintenance, performs routine
maintenance work for Debtor. David Duran’s company, Builder’s Electric Inc., performs
electrical work for Debtor. Steve Duran’s company, Southwest Structural Services, performs
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substantial construction work for Debtor. T.R. Power Maintenance and Builder’s Electric Inc.
perform common area maintenance for which Debtor charges REI and other tenants. Debtor has
never bid out any of the work performed by these related entities to test whether the prices charged
are competitive in the marketplace. This has further fostered the suspicion and degradation of trust
between REI and Debtor.
Additionally, Debtor entered into a lease with Railyard Brewing Company, LLC owned by
Mr. Jaramillo, David Duran, and Steve Duran, to operate a brewpub and bowling alley in the space
above REI at the Market Station. Railyard Brewing Company, LLC leases the entire portion of
the second floor of the Market Station building not occupied by the City. Debtor expended
$216,719.15 of the tenant improvement funds set aside by Thorofare to provide improvements for
the space to be occupied by Railyard Brewing Company, LLC. However, to date, Railyard
Brewing Company, LLC has not opened for business and has never paid rent.
The Court is not finding that Debtor has given any related entities a sweetheart deal or is
favoring related entities to the detriment of the tenants. However, Debtor’s continuing transactions
with related entities remains a source of suspicion and distrust by Debtor’s lender and its anchor
tenant.
Current Status of the Market Station Building
Presently, the portion of the Market Station building owned and managed by Debtor is less
than 50% occupied by rent paying tenants. Debtor is receiving $57,851.92 in monthly rent,
$50,272.17 of which is paid by REI. Debtor has ongoing acrimonious disputes with REI,
Marvelous Hair Designs, and Thorofare. Railyard Brewing Company, LLC occupies a 21,100
square foot space on the second floor of the building as well as the 6,596 square foot space on the
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first floor formerly occupied by Flying Star Café. Railyard Brewing Company, LLC is not open
for business in either space.
Cause to Appoint a Chapter 11 Trustee
Base on the forgoing, the Court finds cause for the appointment of a Chapter 11 trustee,
including, in part, gross mismanagement of the affairs of Debtor by current management.
DISCUSSION
Thorofare moves the Court for the appointment of a Chapter 11 Trustee under 11 U.S.C. §
1104(a)(1) and (2) alleging that: (1) cause exists for the appointment of a trustee due to Debtor’s
gross mismanagement, incompetency, fraud, dishonesty, and the acrimony between Debtor and
Thorofare and its tenants; and (2) the appointment of a trustee would be in the best interest of
Debtor’s creditors, equity security holders, and Debtor’s other interest holders. REI joins in the
request to appoint a trustee based on Debtor’s failure to produce complete and accurate financial
records as required. REI echoes Thorofare’s assertion that appointment of a trustee is in the best
interest of Debtor’s creditors and interest holders. Debtor objects to the Motion and asserts that it
has managed the Market Station building competently and reasonably under the circumstances and
that it has been neither dishonest nor fraudulent. Because the Court will order the appointment of
a trustee under 11 U.S.C. § 1104(a)(1), it need not address whether grounds exist under §
1104(a)(2).
11 U.S.C. § 1104(a)(1) provides:
(a) At any time after the commencement of the case but before confirmation of a
plan, on request of a party in interest or the United States trustee, 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;
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Appointment of a trustee in a chapter 11 case is an extraordinary remedy. It strips a debtor
of the rights, powers and duties of a debtor in possession. Courts begin with a strong presumption
that the debtor should remain a debtor in possession with the power to continue to control and
manage the bankruptcy estate.8 The movant bears the burden of proof, but the standard of proof
the movant must meet is disputed. A clear majority of courts addressing the issue hold that the
movant must meet this burden by a clear and convincing standard of proof.9 However, a sizeable
minority of courts hold that the standard of proof is the preponderance of the evidence.10 While
the Tenth Circuit has yet to resolve this controversy, the evidence and testimony admitted at the
final hearing meets the more exacting standard of clear and convincing proof, so, the Court need
not address this dispute.
The determination of whether cause exists for the appointment of a trustee under §
1104(a)(1) lies within the sound discretion of the bankruptcy court giving due consideration to the
various interests affected by the decision.11 However, once the court determines cause exists, the
8 In re Celeritas Techs., LLC, 446 B.R. 514, 518 (Bankr. D. Kan. 2011) (“The appointment of a Chapter 11 trustee is
an extraordinary remedy based on a strong presumption in favor of leaving the debtor in possession.”); In re H & S
Transp. Co., Inc., 55 B.R. 786, 790 (Bankr. M.D. Tenn. 1982) (“[T]here is a strong presumption that the debtor in a
Chapter 11 case should continue in control and possession of the business.”).
9 See e.g., In re Marvel Entm't Grp., Inc., 140 F.3d 463, 471 (3d Cir. 1998) (“The party moving for appointment of a
trustee, in this case the Lenders, must prove the need for a trustee under either subsection by clear and convincing
evidence.”); In re Mako, Inc., 102 B.R. 809, 811-12 (Bankr. E.D. Okla. 1988) (“For ‘cause’ to be found by this Court,
the movant must prove its existence by a clear and convincing burden of proof.”); In re Colorado-Ute Elec. Ass'n,
Inc., 120 B.R. 164, 173 (Bankr. D. Colo. 1990) (“The burden is on the movant to show by clear and convincing
evidence that there is cause to appoint a trustee.”).
10 See e.g., In re Keeley & Grabanski Land P'ship, 455 B.R. 153, 163 (B.A.P. 8th Cir. 2011) (“[W]e conclude that the
proper standard for a party seeking the appointment of a Chapter 11 trustee is preponderance of the evidence.”); In re
Golden Park Estates, LLC, No. 14-12253 T11, 2015 WL 3643479, at *5 (Bankr. D.N.M. June 11, 2015) (“The Tenth
Circuit has not adopted such a standard, and likely would use a preponderance of the evidence standard.”).
11 See In re G-I Holdings, Inc., 385 F.3d 313, 321 (3d Cir. 2004) (applying an abuse of discretion standard of appellate
review); Claimants v. A.H. Robins Co., 838 F.2d 239, 242 (4th Cir. 1987) (“due consideration must be given to the
various interests involved in the bankruptcy proceeding.”). See also In re H & S Transp. Co., Inc., 55 B.R. 786, 790
(Bankr. M.D. Tenn. 1982) ("The final decision as to whether to appoint a trustee rests within the sound discretion of
the bankruptcy judge."); In re Sullivan, 108 B.R. 555, 556 (Bankr. E.D. Pa. 1989) ("[T]he decision to appoint a trustee
is within the discretion of the bankruptcy court.").
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court must appoint a trustee.12 Section 1104(a)(1) provides that “cause” includes fraud,
dishonesty, incompetence, and gross mismanagement, but the list is not exhaustive.13 The Court
must consider current management’s actions either before or after the commencement of the case.
11 U.S.C. § 1104(a)(1). The decision whether cause exists is fact intensive, and should be made
on a case by case basis.14
The requirement of “gross mismanagement” contained in § 1104(a)(1) means that simple
mismanagement or the mere exercise of poor business judgment alone is insufficient for
appointment of a trustee.15 “After all, it is reasonable to assume that the majority of businesses
that arrive in chapter 11 have exercised a certain degree of incompetence or mismanagement.”16
Generally a debtor should be given an opportunity to address problems caused by past mistakes.17
In determining the existence of cause, courts should consider enumerated and similar
grounds in the context of the totality of the circumstances, including such things as management’s
competence and the quality of its business decisions, strategies and tactics; the debtor’s policies,
procedures and accounting practices; any financial improprieties; failure to maintain adequate
records or to provide timely reports; the debtor’s business with related parties; conflicts of interest;
the actual or perceived dishonesty of debtor’s management; and acrimony or loss of trust and
confidence between the debtor and its creditors or employees or other parties with whom the debtor
12 See In re Oklahoma Ref. Co., 838 F.2d 1133, 1136 (10th Cir. 1988) (“Once the court has found that cause exists
under § 1104, it has no discretion but must appoint a trustee.”).
13 See In re Ford, 36 B.R. 501, 504 (Bankr. W.D. Ky. 1983) (“[J]udicial considerations in determining the issue of
whether to appoint a trustee are not limited to such cause as enumerated specifically in § 1104(a)(1).”).
14 In re Golden Park Estates, LLC, 2015 WL 3643470, *6.
15 See In re Mako, Inc., 102 B.R. 809, 812 (Bankr.E.D.Okla.1988) (simple mismanagement is not enough); In re St.
Louis Globe–Democrat, Inc., 63 B.R. 131, 138 (Bankr. E.D. MO. 1985) (poor business judgment alone is not enough).
16 St. Louis Globe–Democrat, 63 B.R. at 138.
17 See Resnick and Sommer, Collier on Bankruptcy, ¶ 1104.02[3][c] at 1104-11 (16th ed. 2015) (discussing the same).
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does business.18 No single circumstance is necessarily determinative, and the importance ascribed
to any particular circumstance must be considered in light of the whole.19
The Court has carefully considered the totality of circumstances relevant to whether cause
exists to appoint a Chapter 11 trustee in light of the strong presumption that a debtor should remain
a debtor in possession. It is clear to the Court that Debtor’s management of the Market Station
project is well below industry standards, that Debtor has grossly mismanaged the project, and that
other factors support appointment of a trustee.
Debtor’s management has fallen short with respect its obligations to REI in the
administration of the CAM and RPT provisions of the Sublease and its recordkeeping and
reporting obligations to Thorofare. Debtor’s management fostered a relationship with its lender,
anchor tenant, former junior anchor tenant, and other tenants characterized by distrust and
acrimony. It took Debtor only about five months after the Thorofare refinance in December 2014
18 In the following decisions the court relied upon one or more of the factors listed above to find cause to appoint a
trustee under 11 U.S.C. § 1104(a)(1): In re Oklahoma Ref. Co., 838 F.2d 1133 (the debtor’s business transactions with
related parties, failure to keep adequate records, and failure to make timely and complete reports); In re Marvel
Entertainment Group, Inc., 140 F.3d 463 (acrimony between debtor, conflicts of interest); Matter of Cajun Elec.
Power Co-op., Inc., 69 F.3d 746, 751 (5th Cir. 1995) (Emilio M. Garza, dissenting in part) opinion withdrawn in part
on reh'g, 74 F.3d 599 (5th Cir. 1996) (Judge Garza’s dissent was adopted in place of Part IV of the majority opinion)
(the debtor’s conflicts of interest); In re Celeritas Techs., LLC, 446 B.R. 514 (acrimony between the debtor and its
creditor, failure to satisfy duties of disclosure and transparency, the debtor’s management’s competence); Tradex
Corp. v. Morse, 339 B.R. 823, 834 (D. Mass. 2006) (perceived dishonesty of the debtor, failure to make timely and
complete reports, and the debtor’s business transactions with related parties); In re Golden Park Estates, LLC, 2015
WL 3643479, at *5 (failure to maintain adequate records, failure to make prompt and complete reports, and perceived
dishonesty of the debtor); In re Plaza de Retiro, Inc., 417 B.R. 632, 641 (Bankr. D.N.M. 2009) (perceived dishonesty
of the debtor, acrimony between debtor and its creditors); In re Colorado-Ute Elec. Ass'n, Inc., 120 B.R. 164 (the
debtor’s management’s competence, loss of confidence in the debtor’s management, the debtor’s conflicts of interest);
In re La Sherene, Inc., 3 B.R. 169, 175 (Bankr. N.D. Ga. 1980) (the debtor’s management’s competence, the debtor’s
management’s financial improprieties, the debtor’s management’s poor policies, procedures, and accounting
practices).
19 See In re Sharon Steel Corp., 871 F.2d 1217, 1228 (3d Cir. 1989) (“Under the discretionary determination of cause
required by 11 U.S.C. § 1104(a)(1) and the flexible standard embodied in (a)(2), the court acted within its discretion
in concluding that the totality of the circumstances signaled the need for a trustee.”). See also In re Plaza de Retiro,
Inc., 417 B.R. at 640 (“The Court's task is to determine whether the totality of the circumstances warrant appointment
of a trustee.”).
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to cease paying debt service to Thorofare, after Debtor burned through the interest reserve created
as a cushion to allow Debtor to continue to make debt service while leasing more of its space. It
took Debtor less time than that to default in its reporting obligations to Thorofare. In August 2015,
Debtor’s management lost Debtor’s computerized business records to a corrupted hard drive, did
not keep a back-up, and cannot find the hard copies. Debtor has not made an appropriate effort to
recover the lost data. Debtor failed to competitively bid any of the services provided by its insiders
for which Debtor passes on costs to tenants in the form of common area maintenance charges.
After more than seven years, there remains a low occupancy rate in the Market Station building
by paying tenants. Debtor’s monthly revenue is not nearly enough to pay interest only on the
Thorofare loan at the non-default rate, even if Debtor paid none of its other operating expenses.
Debtor’s actions relating to its obligation to provide its anchor tenant REI with CAM and
RPT estimates and reconciliations are particularly egregious. Currently, REI accounts for about
85% of Debtor’s monthly revenue. Although the Sublease required REI to continue to pay its
share of CAM and RPT expenses based on Debtor’s last reasonable estimate, this did not excuse
Debtor from failing to give a new estimate each year when it became apparent that its last estimate
was grossly overstated. Nor is there any excuse for Debtor failing to provide timely annual CAM
and RPT reconciliations. Debtor waited until REI demanded an audit to issue its first three CAM
and RPT reconciliations, for 2009, 2010 and 2011, years after they were due, which showed
according to Debtor’s numbers that it had been collecting some 240% of REI’s actual share of the
expenses for those three years. Even then, Debtor failed to support the reconciliations with the
required documentation. And even now, the documentation Debtor has provided REI to support
its 2009, 2010 and 2011 CAM charges is grossly deficient. Debtor has still provided no supporting
documentation for CAM charges in 2008 and 2012, and its documentation supporting its 2013 and
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2014 “annual” CAM reconciliations provided in December 2015 is incomplete. Had Debtor
provided the documentation timely, it would not be in its current predicament, scrambling to obtain
records from third parties after having lost its own records.
Debtor’s failure to properly administer it obligations regarding CAM and RPT charges has
resulted in REI offsetting substantial amounts against base rent, and its continued payment of
estimated CAM and RPT amounts into its attorney trust account, which now totals some $295,000.
Instead of accepting responsibility for its shortcomings, Debtor’s management threated REI with
going to the press and applying political pressure.
Giving particular weight to management’s competence; the quality of Debtor’s business
decisions; Debtor’s failure to maintain adequate records or provide timely reports; Debtor’s
business with related parties; and the acrimony and loss of trust and confidence between Debtor
and its lender and anchor tenant, the Court has determined that there exists cause to appoint a
Chapter 11 trustee.
CONCLUSION
Based on the foregoing, the Court will enter an order (1) granting the Motion insofar as it
requests appointment of a trustee and (2) ordering that a trustee be appointed.
_______________________________
ROBERT H. JACOBVITZ
United States Bankruptcy Judge
Date entered on docket: March 30, 2016
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Copy to:
Henry M. Bohnhoff
Rodey, Dickason, Sloan, Akin & Robb, P.A
P.O. Box 1888
Albuquerque, NM 87103
William F. Davis
6709 Academy NE, Suite A
Albuquerque, NM 87109
Katharine C. Downey
Sutin Thayer & Browne, A.P.C.
PO Box 1945
Albuquerque, NM 87103-1945
Christopher D. Dvorak
6709 Academy NE, Suite A
Albuquerque, NM 87109
Charles R. Hughson
Rodey, Dickason, Sloan, Akin & Robb, P.A
P.O. Box 1888
Albuquerque, NM 87103-188
Jacqueline Ortiz
Sutin Thayer & Browne
Post Office Box 1945
Albuquerque, NM 87103-1945
Alice Nystel Page
Office of U.S. Trustee
PO Box 608
Albuquerque, NM 87103-0608
Benjamin E. Thomas
Sutin, Thayer & Browne
PO Box 1945
Albuquerque, NM 87103
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