‘Sketchy Activity' Gets Bankruptcy Case Dismissed

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By Stephanie Cumings

Jan.8 — A company president's “gross mismanagement and frankly sketchy activity” during the company's bankruptcy resulted in a dismissal of the case that was upheld by the district court.

Even though the debtor supposedly had a plan to pay creditors in full, Judge Richard Seeborg found that there was ample evidence that the debtor had failed to follow court orders and hadn't provided credible evidence of the debtor's income and expenses, which easily warranted a dismissal.

Throwing Subpoena as Service?

Nathanial Sobayo, president of Kingsway Capital Partners, LLC, had a dispute with Kingsway's landlord over rain damage to the company's building. When the landlord wouldn't fix the damage, Sobayo withheld rent, resulting in dueling lawsuits.

Kingsway filed for bankruptcy shortly thereafter, and the bankruptcy court granted the landlord permission to send an insurance inspector to the property. But Sobayo barricaded the door and wouldn't let the inspector enter the property. He later tried to serve the inspector with a subpoena, which resulted in what the court described as “an unfortunate incident that ended with the process server throwing the subpoena at the inspector's back.”

‘Indignance' and ‘Further Obfuscation'

The court ordered Sobayo to show cause why the case shouldn't be dismissed. Sobayo responded by submitting a plan to repay all creditors in full, but the court said there were still “serious issues,” including suspicious transactions in the monthly operating reports.

The court eventually dismissed the case “for cause” pursuant to Section 1112(b)(1) of the Bankruptcy Code because the debtor had continually failed to follow court orders and had failed to provide credible evidence of income and expenses. The court also noted that the debtor had “inspire[d] mistrust” by purchasing property without disclosing those transactions to the court or the creditors.

The court also condemned Sobayo's behavior, saying that Sobayo “believe[d] that he [could] use [Kingsway's] assets in whatever manner he [saw] fit ... And when the [c]ourt rightfully ask[ed] questions, it receive[d] indignance, further obfuscation, and little detail in response.”

Gross Mismanagement

A dismissal “for cause” under the Bankruptcy Code can include “gross mismanagement of the estate” and “failure to comply with an order of the court.”

The debtor first argued that the court lacked the authority to dismiss the case sua sponte, meaning on its own authority without a motion from an interested party. But the court quickly dismissed this argument, noting that the Bankruptcy Code explicitly states that “[n]o provision of this title providing for the raising of an issue by a party in interest shall be construed to preclude the court from, sua sponte, taking any action or making any determination necessary or appropriate to enforce or implement court orders or rules, or to prevent an abuse of process.”

Sloppy Accounting

Next, the debtor said the case couldn't have been grossly mismanaged because there was a plan to pay creditors in full. The debtor also claimed its compliance, albeit sloppy compliance, with the reporting requirements precluded a finding of gross mismanagement.

“The definition of ‘gross mismanagement of the estate,' is not so limited,” the court said. “More to the point, here, the bankruptcy court did not limit its findings of gross mismanagement to sloppy accounting. The bankruptcy court stated that information regarding the nature of Kingsway's business and source of income remained elusive throughout the bankruptcy proceedings.” There was also evidence that Sobayo was using the debtor to pay his personal expenses.

The court also found that the debtor had disobeyed court orders, despite the debtor's claims that the bankruptcy court was simply ignoring or refusing to believe the evidence the debtor provided about the nature of its business.

“Rather than ignoring or disbelieving uncontradicted and unquestionable evidence, the court confronted evidence which it found to be seriously lacking,” the court said.

Creditors' Best Interests

Finally, the debtor argued that the bankruptcy court failed to consider which of its three options, dismissal, conversion, or the appointment of a trustee or examiner, was in the best interests of the creditors, but the court said that “[t]he record belies that assertion.”

The court noted that the debtor had explicitly said it preferred dismissal to conversion. The court said that the bankruptcy court was aware of the available options and “specifically found that continuing the bankruptcy proceedings was not in the creditors' best interests.”

The debtor was represented by Charles Alex Naegele of C. Alex Naegele, A Professional Law Corporation, San Jose, Calif.

To contact the reporter on this story: Stephanie Cumings in Washington at sacree@bna.com

To contact the editor responsible for this story: Jay Horowitz at jhorowitz@bna.com