Here's Novell's and its
subsidiary, SUSE Linux GmbH's, Notice of Motion and Motion for Conversion [PDF], asking that SCO's cases in Chapter 11 bankruptcy be converted to Chapter 7. What would that mean in real life terms? Novell explains. It means SCO executives will no longer steer the Great Ship SCO, replaced by a rational and reasonable trustee as captain of the litigation decisions, to be appointed by the court. Some of you might feel, after reading Novell's account, that it's a bit late to worry, since the current captain and crew have already run the ship straight into the dreaded Shoals of Litigation Disaster and onto the notorious Rocks of Financial Destruction.
Well. Better late than never, eh?
Aside from learning what Novell *really* thinks of SCO's management, as in not much, we also learn a bit more about what happened at the last hearing:
26. At the March 30 hearing, moreover, the Debtors made yet another statement that shows they cannot be entrusted with continued management of these cases. Novell and IBM argued that it is time for the appointment of a trustee — a neutral not bound to pursuing the litigation at all costs to the bitter end. (See, e.g., 3/30/09 Tr. 19:16-20:20; 21:16-23:5; 31:2435:8; 36:11-37:13.). In response, the Debtors declared that it was their affirmative decision to both pursue the litigation and continue operations. (3/30/09 Tr. 44:22-45-16.) In embracing this decision at the hearing, the Debtors displayed not the slightest thought that it might have been, or might now be, an unwise choice.
27. Although it denied without prejudice the March 30, 2009 oral motions of Novell and IBM for conversion to chapter 7, the Court also denied the Debtors' request for an extension of exclusivity. The Court found that the Debtors had misused Local Bankruptcy Rule 9006-2 preserving exclusivity during the pendency of a motion to extend by relying on the filing of January 2009 Amended Plan they had essentially abandoned by mid-February and that in any
case the Debtors lacked cause to extend exclusivity. (3/30/09 Tr. 53:22-54:19; Order Denying Fourth Motion [etc.] (filed April 21, 2009).)
Why does Novell feel SCO management can't be trusted? Because, Novell says, what they care about is gambling on the litigation in a single-minded quest for a hoped-for future payday, however remote such a possibility now appears: In the 19 months since they filed these cases, debtors
and debtors in possession The SCO Group, Inc. ("SCO"), and its
operating subsidiary, SCO Operations, Inc. ("Operations" and,
together with SCO, the "Debtors"), have lost millions of dollars
and prejudiced the payment prospects for their creditors by making
one ill-considered and futile step after another in their
single-minded pursuit of what they believe to be a big payday in
litigation against Novell, IBM Corporation ("IBM") and others. It
is time to shut down the Debtors' highly-unprofitable operations
and place a reliable neutral in charge of making thoughtful
decisions that are in the best interests of creditors (and even, if
there is anything left for them, the Debtors' shareholders)....
6. These cases have been characterized by the Debtors'
precipitous and ultimately wasteful actions arising from their
singular focus on retaining control of and prosecuting their
lawsuits, especially the one against Novell that they already have
lost at the trial court. To serve this end, the Debtors have
continued to claim that they have a business with breathtaking
prospects, thus justifying preserving their plan exclusivity and
case management authority. Unfortunately for everyone else, those
operations have generated steady, material losses. Now, Novell argues, it's time to turn off the spigot before there is nothing left at all for creditors, and then turn off the lights.
*************************************
NOTICE OF MOTION
TO: (I) THE OFFICE OF THE UNITED STATES TRUSTEE; (II) ALL KNOWN
CREDITORS, AND (III) THOSE PARTIES REQUESTING NOTICE PURSUANT TO
BANKRUPTCY RULE 2002, IN ACCORDANCE WITH DEL. BANKR. L.R.
20021(B)
PLEASE TAKE NOTICE that Novell, Inc. ("Novell"), and its
subsidiary, SUSE Linux GmbH ("SUSE" and together with Novell the
"Novell Parties") filed their Motion for Conversion (the
"Motion"). Copies of the Motion are available upon request to
parties in interest by contacting the undersigned counsel.
PLEASE TAKE FURTHER NOTICE that objections to the Motion must be
filed on or before June 5, 2009 at 4:00 p.m. (ET)
(the "Objection Deadline") with the United States Bankruptcy Court
for the District of Delaware, 824 Market Street, 3rd Floor,
Wilmington, Delaware 19801. At the same time, you must serve a copy
of the objection upon the Debtor's undersigned counsel so as to be
received on or before the Objection Deadline.
PLEASE TAKE FURTHER NOTICE THAT A HEARING ON THE MOTION WILL BE
HELD JUNE 12, 2009 AT 2:00 P.M. (ET) BEFORE THE
HONORABLE KEVIN GROSS, UNITED STATES BANKRUPTCY JUDGE, AT THE
UNITED STATES BANKRUPTCY COURT FOR THE DISTRICT OF DELAWARE, 824
MARKET STREET, 6TH FLOOR, WILMINGTON, DELAWARE 19801.
(1)
PLEASE TAKE FURTHER NOTICE that, if you fail to respond on or
before the Objection Deadline, the Court may grant the relief
requested in the Motion without further notice or hearing.
Dated: May 11, 2009
Wilmington, Delaware
YOUNG CONAWAY STARGATT & TAYLOR, LLP
/s/ Sean T. Greecher
James L. Patton (No. 2202)
Michael R. Nestor (No. 3526)
Sean T. Greecher (No. 4484)
[address]
[phone]
-- and --
MORRISON & FOERSTER LLP
Adam A. Lewis
[address]
[phone]
-- and --
MORRISON & FOERSTER LLP
Larren M. Nashelsky
Counsel for Novell, Inc. and SUSE GmbH
2 (2)
UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF DELAWARE
In re:
The SCO Group, Inc., et al.,
Debtors.
Chapter 11
Case No. 07-11337 (KG)
(Jointly Administered)
Objection Deadline: , 2009 at 4:00 p.m.
(prevailing Eastern time)
Hearing: June 12, 2009 at 2:00 p.m. (prevailing Eastern
time)
NOVELL'S MOTION FOR CONVERSION
Novell, Inc. ("Novell"), and its subsidiary, SUSE Linux GmbH
("SUSE" and together with Novell the "Novell Parties") move the
Court to convert these cases to chapter 7 (or to appoint a chapter
11 trustee). In the 19 months since they filed these cases, debtors
and debtors in possession The SCO Group, Inc. ("SCO"), and its
operating subsidiary, SCO Operations, Inc. ("Operations" and,
together with SCO, the "Debtors"), have lost millions of dollars
and prejudiced the payment prospects for their creditors by making
one ill-considered and futile step after another in their
single-minded pursuit of what they believe to be a big payday in
litigation against Novell, IBM Corporation ("IBM") and others. It
is time to shut down the Debtors' highly-unprofitable operations
and place a reliable neutral in charge of making thoughtful
decisions that are in the best interests of creditors (and even, if
there is anything left for them, the Debtors' shareholders).
(3)
I. BACKGROUND
A. The Novell Litigation
1. Before filing these chapter 11 cases, SCO was involved in
litigation against various parties, including both Novell and SUSE.
(See Memorandum Opinion (filed herein November 27, 2007)
(the "Opinion") 1-2.)1
2. On August 10, 2007, Novell won important rulings against SCO
on summary judgment in the District Court. (Opinion 3-4.)
3. The trial on the issues left by the summary judgment was set
for September 14, 2007, a Monday. (Opinion 4.) The Debtors filed
their voluntary chapter 11 petitions before this Court on September
11, 2007, the preceding Friday. The filing stayed the District
Court litigation.
4. In late November of 2007, Novell obtained stay relief —
over the Debtors' opposition — to complete the litigation.
(Dkt. Nos. 232, 233.) Ultimately, in late 2008, Novell obtained a
judgment for over $3.5 million, including about $625,000 that SCO
was to hold in trust for Novell. (See Final Judgment (a true
and correct copy of which is attached as Exhibit A to Novell's
Objection to the Debtors' Amended Disclosure Statement (Dkt. No.
704, filed February 18, 2009); Agreed Order Resolving Novell's
Motion [etc.] (filed December 29, 2008, Dkt. No. 644.)
5. SCO thereafter appealed the District Court's judgment to the
United States Tenth Circuit Court of Appeals, where the appeal is
now pending. (See Disclosure Statement in Connection with
Debtors' Amended Joint Plan of Reorganization (the "Amended
Disclosure Statement") (Dkt. No. 655, filed January 8, 2009) 14.)
The Tenth Circuit has set oral argument on May 6, 2009. (Transcript
of March 30, 2009 Hearing ("3/30/09 Tr.") 8:4-9.)
2 (4)
B. Other Proceedings in the Case
6. These cases have been characterized by the Debtors'
precipitous and ultimately wasteful actions arising from their
singular focus on retaining control of and prosecuting their
lawsuits, especially the one against Novell that they already have
lost at the trial court. To serve this end, the Debtors have
continued to claim that they have a business with breathtaking
prospects, thus justifying preserving their plan exclusivity and
case management authority. Unfortunately for everyone else, those
operations have generated steady, material losses.
1. The York Sale Motion and Its Aftermath
7. Just two months after filing the case, the Debtors moved to
sell substantially all their assets to York Capital Management
("York"). (Emergency Motion of Debtors [etc.] (filed October 23,
2007, Dkt. No. 149 (the "York Sale Motion").) Though a proposed
sale of substantially all of the Debtors' assets, the York Sale
Motion specifically excluded from the sale the Debtors' litigation
against Novell and IBM. Clearly, the Debtors were prepared to
sacrifice their other assets to fund the litigation.
8. The Court refused to approve the York Sale Motion in the face
of substantial opposition focusing on, among other things, the
motion's lack of definitive documents and other information.
(See, e.g., Novell's Objection to the Debtors' Proposed
Disclosure Statement (filed March 26, 2008) (the "Novell DS Obj.")
2-3.) The Debtors withdrew the York Sale Motion altogether on
November 20, 2007, just days after Novell and others filed
objections to it. (Dkt. No. 225.)
9. Notwithstanding their misstep in the York Sale Motion, the
Debtors nevertheless subsequently asked the Court to authorize them
to pay York a gratuitous breakup fee even though there was no sale
to York or anyone else, nor even any prior approval of any breakup
fee. (Dkt. No. 367, filed February 29, 2008.) The Debtors withdrew
this motion (the "York Compensation Motion"), too, in the face of
substantial objections to it, though the Debtors plainly have not
abandoned the idea of conferring this gift on York. (See,
e.g., Novell's
3 (5)
Objection to the Debtors' Request to Approve an Expense
Reimbursement to York (Dkt. No. 411, filed March 26, 2008; Dkt. No.
472, filed May 12, 2008; Dkt. No. 492, filed June 12, 2008; Dkt.
No. 710, Dkt. No. 515.)
2. The Original Plan
10. On February 29, 2008, the Debtors filed the Debtors' Joint
Plan of Reorganization (the "Original Plan") and the related
proposed Disclosure Statement in Connection with Debtors' Joint
Plan of Reorganization (the "Original Disclosure Statement").
11. The outcome of this foray by the Debtors was
déjà vu of the York Sale Motion. In the face
of extensive objections filed by Novell and others (See,
e.g., Novell DS Obj.), many of which again focused on the lack
of transparency and the categorical absence of any documentation of
the underlying arrangements, the Debtors withdrew the Original Plan
and Original Disclosure Statement. (Transcript of April 2, 2008
Hearing ("4/2/08 Tr."), 8:9-12:17.) In short, the Original Plan was
another improvident step by the Debtors that was incompatible with
judicious use of estate resources and the goal of
reorganization.
12. But the Debtors' new round of bad judgment was not limited
to the Original Plan. Reminiscent of the York Compensation Motion,
the Debtors separately also asked the Court to approve potentially
lucrative compensation for the Original Plan's contemplated sponsor
(known as "SNCP") via a contemporaneous motion (the "SNCP
Compensation Motion"). This was to be SNCP's reward just for SNCP's
willingness to be a plan sponsor, that is, regardless of whether
the Court confirmed that plan. The compensation scheme, as did the
Original Plan, focused on the litigation against Novell and others.
(SeeDebtors' Motion to Approve Settlement Compensation
[etc.] (filed February 14, 2008, Dkt. No. 346.) Once again, it was
clear that the Debtors were willing to offer significant value to a
party simply because that party gave Debtors some hope of
controlling the Novell and related litigation.
13. In the face of objections to the SNCP Compensation Motion
(See, e.g., Novell's Objection to the Debtors' Motion to
Approve Settlement Compensation or Sale Compensation
4 (6)
and Expense to Plan Sponsor, filed March 26, 2008, Dkt. No.
410), the Debtors dropped this request. (SeeDkt. Nos. 425,
437.) But that was only after, as with the Sale Motion, the York
Motion and the Original Plan, both the Debtors and other parties
needlessly had to spend resources on proceedings that were plainly
flawed from their inception.
3. The First Three Exclusivity Extensions
14. The Debtors have had an ample opportunity to propose and
confirm a plan. In the first place, they obtained three
formal extensions of their exclusive right to try to confirm a
plan. Novell did not oppose the Debtors' first request for an
extension. It did oppose the next two. Each time the Debtors
explained that they needed the extension in order to file a
real plan, lamenting that they could not do so in the
meantime for various reasons (e.g., first, the Debtors needed to
know the results of the Novell trial they previously had attempted
to avoid through opposing Novell's stay relief motion; then, when
the Debtors had the trial results, they suddenly needed to
get their appeal filed to attract plan sponsors before they could
file a plan). Each time, the Debtors assured the Court they would
file a real plan when the time came.
4. The Debtors' De Facto Fourth Exclusivity Extension, the
Amended Plan and Related Proceedings
15. The final formal exclusivity extension, granted by this
Court in July, was to expire on December 31, 2008. True to form, to
beat this deadline the Debtors filed their fourth motion to extend
on December 30, 2008 (Dkt. No. 649), relying on the filing of the
motion to effect a de facto extension under Local Bankruptcy
Rule 9006-2. In early January, they filed their Debtors' Amended
Joint Plan of Reorganization (the "Amended Plan") (Dkt. No. 654,
filed January 8, 2009) and accompanying Amended Disclosure
Statement. A month later, the Debtors also filed a motion (the
"Auction Sale Motion") (Dkt. No. 695, filed February 4, 2009) to
obtain procedures for an "auction" of their assets, allegedly in
support of the Amended Plan but in fact inconsistent with it. The
Debtors set a hearing on the Amended Disclosure Statement and
Auction Sale Motion for February 25, 2009. (Dkt. Nos. 654, 655,
656, 695.)
5 (7)
16. As with every prior major initiative of the Debtors in these
cases, the real focal point of the Amended Plan and Auction Sale
Motion was to generate money for the litigation and to get
something on file before exclusivity ran out so that the
Debtors could remain in control of their cases. And equally as with
the Debtors' prior filings, the Amended Plan, Amended Disclosure
Statement and Auction Sale Motion therefore suffered from sweeping
defects.
17. Accordingly, in a reprise of the past, the three filings
drew substantial objections from both Novell and IBM. The
objections, eventually in essence acknowledged by the Debtors, were
familiar ones: woefully inadequate disclosure and documentation,
unsubstantiated factual claims, internal and external inconsistency
if not outright conflicts, and unconfirmability of the Amended Plan
on its face. (SeeNovell's Objection to the Debtors' Proposed
Amended Disclosure Statement (Dkt. No. 704, filed February 18,
2009); Novell's Objections to Debtors' Motion for an Order
Establishing Sale and Bid Procedures and Related Relief (Dkt. No.
706, filed February 18, 2009); Objection of International Business
Machines Corporation to Debtors' Motion to Approve Disclosure
Statement (Dkt. No. 703, filed February 18, 2009); IBM's Objection
to Debtor's [sic] Motion for an Order [etc.] (Dkt. No. 702, filed
February 18, 2009).)
18. Faced with these objections, the Debtors at first tried to
buy more time by simply continuing the hearings, representing that
they would make such revisions as were necessary to correct the
problems. (Dkt. No. 712; 3/30/09 Tr. 6:10-7:2.) However,
ultimately, the Debtors took the Auction Sale Motion off calendar
altogether (Dkt. Nos. 717, 718), and on March 30 they admitted that
after 18 1/2 months of exclusivity they were nowhere close to a
plan or any other kind of deal:
Those talks [with potential plan partners] have not
come to the level that would be necessary for me to make any
changes to the [January 2009 plan] documents . . . . and I promised
your Honor some time ago with — in the wake of another
fiasco that I would not burden this Court any further with
plans or disclosure statements based on L[etters] O[f] I[ntent[]
and that's what we've been offered, and I've told that to our
negotiating partners on the other side, saying, you know, LOI
doesn't — isn't worth anything. Well pointed out [by Novell
and IBM, among others] a year ago in one transaction.
6 (8)
So since I don't have such definitive documents, we
don't have an amended disclosure statement, and that's because we
don't have our negotiating partners at the place we want them. The
deal isn't at a point that we want to close a deal.
(3/30/09 Tr. 7:3-19 (emphasis added).)
19. The "fiasco" to which the Debtors' counsel was referring in
the prior quotation was actually several other fiascos, not
merely one: the Original Plan and the York Sale Motion (exacerbated
by the York Compensation Motion and the SNCP Compensation Motion),
both of which the Debtors filed before they had a real deal, let
alone definitive documents. Recognizing the shortcomings of these
earlier proceedings at that time, the Debtors explained in April of
2008 at the demise of the Original Plan, "And we're working now
with a new MOU and . . . new definitive documents will be prepared.
And we promise -- we promise we won't file it in pieces
anymore." (4/2/08 Tr. 9:2-5 (emphasis added).) The Debtors
repeated this commitment at the third exclusivity motion hearing a
half year later, stating, "We promised Your Honor that we
wouldn't come in again with a half-baked or quarter-baked plan. We
would make sure everything is there." (Transcript of September 16,
2008 ("9/16/08 Tr.") 96:24-97:1 (emphasis added).) The Amended Plan
did not live up to these promises.
5. The Debtors' Most Recent Adventures
20. Lacking even the semblance of a plan on March 30, 2009, the
Debtors offered yet another apologia for why they still had not
fulfilled their promises to file a real plan.2 (3/30/09 Tr. 5:14-7:2.) The
Debtors then asked for a further extension of their exclusivity
deadline to the statutory limit of mid-May. In making that request,
the Debtors lauded the prospects of their Tenth Circuit appeal,
made speculative predictions about its outcome and asserted that
their underlying business was prospering. (See, e.g.,
3/30/09 Tr. 8:4-16:13.)
7 (9)
21. As Novell and others pointed out, however, despite their
repeated promises to propose a confirmable plan, the Debtors not
only have failed to do so, but have lost $8.65 million since the
Debtors filed these cases on business operations alone.3 (See,
e.g., 3/30/09 Tr. 17:1221; 20:3-9; 32:20-34:1; Operations
Monthly Operating Report for 3/31/09 (Dkt. No. 743), Statement of
Operations, Net Profit (Loss) Before Reorganization
Items, Cumulative Filing to Date: "($8,652,612)" (emphasis
added).)4
22. Astonishingly, the Debtors denied these losses even though
the Debtors themselves have reported them in their Monthly
Operating Reports ("MOR"). Its counsel claimed that, "I'm assured
by Mr. McBride very recently that the company on an operating basis
. . .is in the black. It's the reorganization expenses overlay that
makes it a loss." (3/30/09 Tr. 45:18-21.)
23. Novell's counsel observed at the March 30 hearing that these
losses mean that unless the Debtors some day achieve a fantastic
win in the Novell litigation, the Debtors will be unable to pay
creditors in full. (3/30/09 Tr. 20:3-21.) That is because the
Debtors now show total assets of $8.3 million, of which the most
important (Unrestricted Cash of $728,537, net Accounts Receivable
of $1.4 million) total but $2.1 million; by contrast the Debtors
state that prepetition liabilities (without the
still-unliquidated claims of IBM or others in litigation with them)
total $6.9 million and postpetition liabilities total $4.84
million. (March 31, 2009 MOR, Balance Sheet.) Similarly, the
Debtors report that their assets have declined almost 50% since the
filing of the cases from $15 million to the present $8.3 million,
while their prepetition liabilities have increased
almost fourfold from $1.9 million to the present $6.9 million
(evidently, the Debtors have chosen not to reflect large
unliquidated liabilities in their reporting). (Id.)
24. This grim situation is in stark contrast to the Debtors'
categorical claims a year before that only their shareholders had
any real stake in the plan process since all creditors would be
8 (10)
paid in full (4/2/08 Tr. 11:6-10 ("The only people who should
care about these metrics and the other things will be the
stockholders and perhaps Mr. McMahon or the U.S. Trustee because
creditors will be getting cash on the barrel at the point of
confirmation, so why do they care?")) and again just last September
on the Debtors' third motion to extend exclusivity (9/16/08 Tr.
88:19-25 ("We always have intended to pay them [the creditors,
including Novell] in full. We still can pay them in full, [even] if
the worse [sic] should happen.")).
25. Now, the Debtors' only "plan" to honor that goal appears to
be to spend more on its money-losing operations in the hope that
they thereby can retain control the litigation until some day,
somehow they score a big win. The Debtors added an appeal to what
they depicted as the promising prospects of negotiations with
potential partners, but these are the very discussions that the
Debtors themselves had just described as virtually meaningless a
few minutes earlier in the hearing. (3/30/09 Tr. 47:9-49:1.) Of
course, while that "strategy" may suit the Debtors, it is abysmal
for Debtors' creditors, as the Debtors' resources will continue to
shrink until there is nothing left.
26. At the March 30 hearing, moreover, the Debtors made yet
another statement that shows they cannot be entrusted with
continued management of these cases. Novell and IBM argued that it
is time for the appointment of a trustee — a neutral not
bound to pursuing the litigation at all costs to the bitter end.
(See, e.g., 3/30/09 Tr. 19:16-20:20; 21:16-23:5; 31:2435:8;
36:11-37:13.). In response, the Debtors declared that it was their
affirmative decision to both pursue the litigation and continue
operations. (3/30/09 Tr. 44:22-45-16.) In embracing this decision
at the hearing, the Debtors displayed not the slightest thought
that it might have been, or might now be, an unwise choice.
27. Although it denied without prejudice the March 30, 2009 oral
motions of Novell and IBM for conversion to chapter 7, the Court
also denied the Debtors' request for an extension of exclusivity.
The Court found that the Debtors had misused Local Bankruptcy Rule
9006-2 preserving exclusivity during the pendency of a motion to
extend by relying on the filing of January 2009 Amended Plan they
had essentially abandoned by mid-February and that in any
9 (11)
case the Debtors lacked cause to extend exclusivity. (3/30/09
Tr. 53:22-54:19; Order Denying Fourth Motion [etc.] (filed April
21, 2009).)
II. THE COURT SHOULD CONVERT THE CASES
A. Applicable Law and Standards
28. Code section 1112(b) provides, in part, that:5
(1) [O]n request of a party in interest, and after
notice and a hearing, absent unusual circumstances specifically
identified by the court that established that the requested
conversion or dismissal is not in the best interests of creditors
and the estate, the court shall convert a case under this
chapter to a case under chapter 7 or dismiss a case under this
chapter, whichever is in the best interests of creditors and the
estate, if the movant establishes cause.
(4) For purposes of this subsection, the term "cause" includes
—
(A) substantial or continuing loss to or diminution of the estate
and the absence of a reasonable likelihood of
rehabilitation;
* * *
(B) Gross mismanagement of the estate; [or]
* * *
(J) Failure to file a disclosure statement, or to file or confirm a
plan, within the time fixed by this title or by an order of the
court[.]
(Emphasis added.) Section 1112(b)(1) permits the court
alternatively to appoint a chapter 11 trustee in lieu of conversion
or dismissal under section 1104(a)(3).
29. In applying section 1112(b)(1), the Court must
dismiss or convert if it finds that "cause" exists under section
1112(b)(4). In re Products Int'l Co., 395 B.R. 101, 107-09
(Bankr. D. Ariz. 2008); see also In re Nelson, 343
B.R. 671, 675 (9th Cir. BAP 2006) (applying identical chapter 11
standards in chapter 13 case); In re Gateway Access Solutions,
Inc., 374 B.R. 556, 560-61 (Bankr. M.D. Pa. 2007). The party
opposing the motion to dismiss or convert has the
10 (12)
burden of proof to show unusual circumstances. Id. at
561. Though Novell therefore will not now address the defense of
unusual circumstances, it is worth noting now that "[t]he phrase
'unusual circumstances' contemplates conditions that are not common
in chapter 11 cases. In re Fisher, 2008 WL 1775123 (Bankr.
D. Mont. 2008)." Products International, 395 B.R. at 109
(citing to 7 COLLIER ON BANKRUPTCY, ¶ 1112,04[3], p.
1112-26-1112-27 (15th ed. rev.). In any case, if "cause" is present
"unusual circumstances" are not an exception to appointment of a
chapter 11 trustee, only to conversion or dismissal. Products
International, 395 B.R. at 107.
30. Section 1112(b)(4) sets forth various sufficient species of
"cause" for conversion or dismissal, and Novell is relying
specifically on the three it excerpts above: continuing
loss/diminution and unlikely rehabilitation; gross mismanagement;
and failure to confirm a plan within the time set by statute or the
Court. However, "cause" is a flexible standard and the section
1112(b)(4) criteria are non-exclusive. Products
International, 395 B.R. at 107. See also Gateway Access
Solutions, 374 B.R. at 561; In re The AdBrite Corp., 290
B.R. 209, 216-17 (Bankr. S.D.N.Y. 2003); Santa Fe Minerals, Inc.
v. BEPCO, L.P. (In re 15375 Memorial Corp.), 382 B.R. 652, 682
(Bankr. D. Del. 2008); § 102(3) (in the Code, "'includes' and
'including' are not limiting"). Since the Court may apply section
1112(b)(1) sua sponte, In re Starmark Clinics, LP,
388 B.R. 729, 735 (Bankr. S.D. Tex. 2008), the Court here may
convert the case on any ground specified in section 1112(b)(4) or
other sufficient "cause" that it finds even if not set forth in
this motion.
B. The Essential Facts
31. Before turning to the specific grounds upon which Novell
seeks conversion of these cases to chapter 7, it is useful to recap
the essential facts in the history of the cases that Novell has
recounted above:
11 (13)
-
The Debtors have faced relatively little interference from the
creditors, whose occasional involvement the Debtors' usual retreat
in those instances reflects was justified.
-
Despite four extensions of exclusivity, the Debtors have failed
to propose a confirmable plan or to accomplish any other material
step towards their reorganization, let alone their
rehabilitation.
-
The Debtors have instead subordinated everything else to finding
ways for them to retain exclusive control over the litigation that
they (want to) believe will afford them a rich payday some day.
-
In service of their objective of retaining personal control over
the litigation, the Debtors have wasted everyone's time and
resources with a number of ill-conceived and premature steps.
-
The Debtors repeatedly have promised but failed to advance their
reorganization. What the parties have seen instead are proceedings
involving incomplete transactions, potential giveaways of
substantial value, obscure information, and unsubstantiated
predictions and projections.
-
As a result of their continuing operations, the Debtors have
lost millions of dollars, are continuing to lose money, are unlikely
to reverse that trend in the foreseeable future (if it all), and
have, consequently, materially prejudiced the interests of
creditors in getting a meaningful dividend on their claims.
C. Conversion for Diminution/Rehabilitation; Section
1112(b)(4)(A)
32. The purpose of section 1112(b)(4)(A)'s test for conversion
of whether the estate is being diminished and the debtor has a
prospect of rehabilitation "is to prevent the debtor-inpossession
from gambling on the enterprise at the creditors' expense when
there is no hope of rehabilitation." AdBrite, 290 B.R. at
215 (citation omitted). In applying section 1112(b)(4)(A), "the
inquiry here is twofold. First, the Court must look at the track
record of the debtor to
12 (14)
determine if it is suffering losses or making gains. Second, the
Court must determine whether rehabilitation is likely given the
evidence presented at the hearing." Gateway Access Solutions, 374
at 562.
33. Clearly, the estates have been sorely diminished. As Novell
has demonstrated above, the Debtors' own financial reporting
establishes that they have lost substantial amounts of money
through operations since they filed these cases even without
consideration of the reorganization costs; additional losses
through reorganization costs have been exacerbated by the Debtors'
repeated initiation of ill-conceived proceedings in the cases.
Thus, the Debtors almost surely will continue to drain their
financial tanks going forward. By the same token, the Debtors' net
worth has tumbled dramatically. Even now, absent a big win in the
Novell litigation at some undetermined time in the future, there is
no chance that general unsecured creditors will get a
meaningful dividend, let alone payment in full, contrary to what
the Debtors asserted as essentially automatic as recently as last
September. And as time goes on and the Debtors continue to operate
at a loss, the situation for creditors will only worsen. The first
prong of section 1112(b)(4)(A) is, therefore, satisfied beyond
genuine dispute.
34. What, then, of the Debtors' chances at "rehabilitation", the
second part of "cause" for conversion under section 1112(b)(4)(A)?
The concept of rehabilitation is more than a question of whether
the debtor can confirm a plan of reorganization (which might
include a liquidation). "It means to put back in good condition and
reestablish on a sound basis. . . . . It signifies that the debtor
will be reestablished on secured [sic] financial basis, which
implies establishing a cash flow from which its current obligations
can be met." AdBrite, 290 B.R. at 216 (citations omitted);
see also Santa Fe Minerals, 382 B.R. at 683; In re
Schriock Constr. Co., Inc., 167 B.R. 569, 576 (Bankr. D.N.D.
1994) (negative postpetition cash flow, cram down plan not
feasible, case converted). The Debtors' prospects must be more than
"visionary schemes" or "unsubstantiated hopes." Gateway Access
Solutions, 374 B.R at 562 (citing to In re Brown, 951
F.2d 564, 572 (3d Cir. 1991) and finding that decision to be
relevant to the standard of section 1112(b)(4)(A)).
13 (15)
35. In these cases, despite all their costly activity, the
Debtors have made no progress towards a financial resolution
of these cases, let alone towards "rehabilitation." The Debtors'
only gestures towards some proceeding resolving the cases have been
ill-starred and wasteful, and their unprofitable operations during
that time have only intensified the problem.
36. The Debtors have managed to keep the litigation alive, it is
true, litigation that might some day benefit the creditors
(although the Debtors' loss to Novell at trial bodes ill for them
whatever they may say about their hopes on appeal). But the
preservation of the litigation could have been done in a chapter 7
case from the outset just as well but without the severe
deterioration in the Debtors' finances that has prevailed in the 19
months of these cases. A chapter 11 case was not essential to the
litigation then, and it is even less so now. All the chapter 11 has
done is allow the Debtors' management to keep the Debtors' in
control of the litigation by sacrificing every other prospect of
financial benefit for the creditors.
37. These cases parallel the pattern of several reported cases
in which the court has granted motions under section 1112(b)(4)(A)
because management has jeopardized the prospects of creditor
recovery by wasting time and resources through putting its inflated
views of the debtor's future above the interests of creditors
without ever consummating the plan or deal that always seems to be
"just around the corner." See, e.g., Gateway Access Solutions,
supra (case converted to chapter 7) (case filed in January of
2007, deadline for plan expired in November of 2007 without the
filing of any plan; court rejects debtor's appeal to the court to
focus on the alleged value of its assets that it proposes to sell
rather than its continuing losses, finding that the debtor's
"unsupported speculation," lack of real deals and absence of
support for its projections cannot be overlooked); In re Forest
Hill Funeral Home & Mem'l Park, 364 B.R. 808, 823 (Bankr.
D. Okla. 2007) (case dismissed because no reasonable likelihood of
rehabilitation, in part because sale only solution and "there is
nothing to indicate that a sale is in prospect . . . .[or that] the
Debtor's precarious cash flow [will improve]").
38. Similarly, after considering the 15 months the debtor had
been in chapter 11, the debtor's failure to accomplish sale of key
assets as promised, the debtor's continuing poor
14 (16)
relations with key creditors on crucial issues, and the decline
in prospective recovery for unsecured creditors the court in
Tiana Queen Motel, Inc. v. A. Illum Hansen, Inc. (In re Tiana
Queen Motel, Inc.), 749 F.2d 146 (2d Cir. 1984), affirmed the
district court's order converting the case. It wrote:
We cannot say that the judge's conclusion that cause
for conversion existed was unjustified. In light of the proven
record for overestimating their chances of success, the judge could
conclude that the 'best interests of creditors and the estate[s],'
§ 1112(b) would be served by conversion. The purpose of §
1112(b) is not to test a debtor's good faith; it is to provide
relief where the debtor's efforts, however heroic, have proven
inadequate to the task of reorganizing his affairs within a
reasonable amount of time.
Id., 749 F.2d at 152.
39. A further negative for the Debtors' prospects of paying
creditors is the Debtors' management, as Novell will cover more
extensively in the next section. Be it noted here, however, that
management has been characterized by bad decisions, exuberant
claims about the Debtors' affairs and a focus on litigation to the
exclusion of every other important interest. Conversion to chapter
7 (or the appointment of a chapter 11 trustee if the Court thinks
that the Debtors should continue their money-losing operations)
will place in charge a neutral who is not bound by preconceptions
or governed by historic the fond hopes of the management.
40. In sum, contrary to the teaching of AdBrite, supra,
the Debtors have been "gambling" at the expense of their creditors,
the very evil that section 1112(b)(4)(A) is to prevent. The next
section of this brief will further underscore this point.
Conversion is necessary.
D. Gross Mismanagement; Section 1112(b)(4)(B)
41. In Products International, 395 B.R at 110, the court
appointed a chapter 11 trustee after finding "gross mismanagement"
under section 1112(b)(4)(B). In ruling, the court concluded that
the debtor failed to maintain an "effective management team" and
"lacks a focused reorganization management team" in part because
that team was more interested in its own concerns than its
fiduciary duties to creditors. See also Gateway Access
Solutions, 374 B.R.
15 (17)
at 564-65 (also endorsing the need for effective and focused
management team). The reason that the Products International
court appointed a chapter 11 trustee rather than converting or
dismissing was that, unlike in this case, the debtor still had
successful operations and valuable assets despite the debtor's
ineffective management.
42. Here, the Debtors have materially prejudiced the interests
of creditors through a regime of devotion to retaining the control
of the litigation that has produced one false and wasteful start
after another and 19 months of unsuccessful operations. All the
while, the Debtors have been telling the Court and creditors how
promising things are. It is time to replace the Debtors'
management. And since the Debtors are likely to continue to lose
money, both because their business is weak and because their
management's judgment is unlikely to improve, it is appropriate to
serve the estate's interests by replacing management through a
mechanism that will also result in the termination of those
operations: conversion of this case to a chapter 7.
E. Failure to File Disclosure Statement or Confirm Plan;
Section 1112(b)(4)J)
43. The grounds for conversion in section 1112(b)(4)(J) are the
easiest to meet in this motion. The Debtors have filed two
purported "plans" and "disclosure statements". However, as the
oppositions and the Debtors' own responses thereto in each instance
demonstrated, none of these was even close to being approvable or
confirmable. In essence, the filing of these documents served as a
placeholder for the Debtors in their attempt to preserve their
control over the litigation by preserving exclusivity based the
continued appearance of a viable business and "progress" towards a
plan. And, of course, the Debtors said after the Original Plan
fiasco that they would never file a "half-baked" plan again, but
that is, of course, just what they did when they finally filed
another plan eight months later to again try to preserve
exclusivity.
44. In any case, the Debtors have no plan or disclosure
statement on file now, but their exclusivity has run out (and even
their statutory outside exclusivity deadline of mid-May of this
year would have expired before this motion is heard had they been
able to get a further extension
16 (18)
on March 30). If these circumstances do not satisfy the criteria
of section 1112(b)(4)(J), it is hard to imagine what would.
F. Cause Generally
45. Even were the Court to find that the facts and circumstances
that Novell has marshaled in support of conversion under sections
1112(b)(4)(A), (b)((4)() and (b)(4)(J) fail to add up to grounds
for conversion under those specific provisions of the Code, Novell
submits that the facts and circumstances together, as discussed at
length in Part I of this motion and summarized in part IIA,
supra, constitute "cause", which is not limited to the
criteria specifically delimited in section 1112(b)(4).
III. CONCLUSION
46. The Debtors have had an ample chance to reorganize in this
chapter 11 case. Through their decisions and judgments, they have
altogether fumbled whatever opportunity they had to propose and
confirm a plan. In the process, they have done (and demonstrated
they will do) irreparable harm to the creditors if they are left in
charge of these cases. It is time to rebalance the playing field by
converting the cases to chapter 7, thereby placing a trustee in
charge of making decisions and stemming the loss of the estate's
remaining precious resources.
17 (19)
Dated: May 11, 2009
Wilmington, Delaware
YOUNG CONAWAY STARGATT & TAYLOR, LLP
/s/ Sean T. Greecher
James L. Patton (No. 2202)
Michael R. Nestor (No. 3526)
Sean T. Greecher (No. 4484)
[address]
[phone]
-- and --
MORRISON & FOERSTER LLP
Adam A. Lewis
[address]
[phone]
-- and --
MORRISON & FOERSTER LLP
Larren M. Nashelsky
[address]
[phone]
Counsel for Novell, Inc. and SUSE GmbH
18 (20)
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At the same time, an international arbitration (the
"Arbitration") was set for December of 2007 between SCO and SUSE
that related to certain issues that the District Court had agreed
should be decided in the Arbitration. (Debtor The SCO Group, Inc.'s
Motion to Enforce the Automatic Stay (filed September 28, 2007, Dkt
No. 69) (the "Arbitration Stay Motion")); Transcript of Hearing of
November 6, 2007, Dkt. No. 207) 34:19-36:20; 60:15-64:21.) SCO
asked this Court to determine that the automatic stay barred
continuation of the Arbitration. (Arbitration Stay Motion.) The
Court granted the Arbitration Stay Motion as requested by SCO.
(Order Granting The SCO Group, Inc.'s Motion to Enforce the
Automatic Stay (filed November 14, 2007, Dkt. No. 204).) |
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The most prominent such excuse was that having set an auction,
the Debtors learned from alleged potential bidders that the latter
preferred a private sale, not an auction. Having supposedly been in
close contact with bidders throughout the case, the Debtors'
management failed yet again in not discerning this reputed
preference before the Debtors filed the Auction Sale
Motion. |
|
Absent the Debtors' nearly $500,000 profit from the prepetition
sale of a patent by their Cattleback subsidiary that this Court
approved and was consummated postpetition (See Dkt. Nos.
194, 272), the Debtors' postpetition losses would be over $9
million. |
|
At the time of the March 30 hearing, the Debtors had not
actually filed their February or March MORs. However, those MORs
reported an additional loss for those two months of about $450,000,
so even at the time of the hearing the Debtors had reported a loss
of over $8 million on operations alone. (SeeDkt. Nos. 721,
737.) |
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The "Code" is the Bankruptcy Code, 11 U.S.C. §§
101-1532. Unless otherwise stated, all statutory references in the
balance of this motion are to the Code. |
|