NONPRECEDENTIAL DISPOSITION
To be cited only in accordance with
Fed. R. App. P. 32.1
United States Court of Appeals
For the Seventh Circuit
Chicago, Illinois 60604
Submitted May 25, 2011*
Decided May 25, 2011
Before
RICHARD A. POSNER, Circuit Judge
JOHN L. COFFEY, Circuit Judge
JOEL M. FLAUM, Circuit Judge
No. 10‐3637
In the Matter of: USA BABY, INC., Appeal from the United States District
Debtor. Court for the Northern District of Illinois,
Eastern Division.
Appeal of: SCOTT WALLIS No. 09 C 4989
Joan Humphrey Lefkow,
Judge.
O R D E R
Creditors forced USA Baby, a closely held corporation, into bankruptcy, and a
trustee was appointed. The trustee declined to pursue unliquidated, speculative claims, a
decision that was opposed by no one except Scott Wallis, the company’s president and a 5%
stockholder. Wallis, acting on his own and not as an officer of USA Baby, moved for
permission to stand in for the trustee to pursue those claims. The bankruptcy court denied
Wallis’s motion, and the district court upheld that decision. Wallis has now appealed to this
court, and we affirm the decision of the bankruptcy court.
*
After examining the briefs and record, we have concluded that oral argument is
unnecessary. Thus, the appeal is submitted on the briefs and record. See FED. R. APP. P.
34(a)(2)(C).
No. 10‐3637 Page 2
USA Baby was formed in 2003 to franchise stores selling furniture and other
products for babies and children. It operated no stores of its own. Wallis served in various
roles, including chief financial officer, chief operating officer, and eventually as USA Baby’s
president. The corporation quickly developed problems with its franchisees; both sides
alleged breaches of duties and obligations, particularly after Wallis gained greater
management control. See generally, Janet Sparks, USA Baby woes, FRANCHISE TIMES, March
2009, http://www.franchisetimes.com/content/story.php?article=01249; Janet Sparks, USA
Baby founder sues CEO for violation of shareholders’ agreement, FRANCHISE TIMES, Sept. 2007,
http://www.franchisetimes.com/content/story.php?article=00518. Two of USA Baby’s
minority shareholders won a derivative action against management in 2007. And a number
of the franchisees also filed an arbitration demand, alleging gross mismanagement, which
was stayed by the bankruptcy. By 2008, Wallis concedes, approximately 38 of the remaining
44 franchisees (at one point USA Baby had 68 franchisee stores, some already had gone out
of business by 2008) had stopped paying franchise royalties, an amount totaling
approximately $300,000 per month.
In September 2008 creditors filed an involuntary petition under Chapter 11 of the
Bankruptcy Code. See
11 U.S.C. § 303(b). Soon afterward, Wallis began submitting pro se
filings, not in his capacity as a corporate officer, but as an interested party holding an equity
stake in the company. See
id. § 1109(b). The bankruptcy court entered an order for relief,
leaving USA Baby in possession of the bankruptcy estate, but the corporation did not file
the required bankruptcy schedules or statements. See id. § 521(a)(1). A group of franchisees,
citing that failure and alleging a history of prepetition mismanagement by Wallis and the
majority shareholder, asked the bankruptcy court to appoint a trustee, see id. § 1104(a), and
convert the case to Chapter 7, id. § 1112(b)(1). While those motions were pending, the
company filed a statement of affairs and the required schedules.
The bankruptcy court appointed Barry Chatz as trustee but denied the franchisees’
motion for conversion to Chapter 7. Days later, though, Chatz filed his own motion for
conversion to Chapter 7. He explained that he had met (or would soon meet) with counsel
to the lenders, former and current franchisees, and the landlord of USA Baby’s premises.
Those discussions, said Chatz, had left him uncertain that funding to maintain a Chapter 11
reorganization could be obtained. USA Baby did not oppose this motion, nor did any
interested party other than Wallis. The bankruptcy court converted the case but also
allowed Chatz to continue operations for a limited time. See
11 U.S.C. § 721.
According to its bankruptcy schedules, USA Baby owed approximately $2.6 million
to its creditors, including almost $1.2 million to Commerce Capital, LP. That debt was
secured by virtually all of the company’s assets, including its trademarks, franchise
No. 10‐3637 Page 3
agreements, and royalty payments. The company valued its trademarks and franchise
agreements at $750,000, and its tangible personal property at $71,000. It had virtually no
cash. USA Baby also listed receivables of $3.1 million, principally from royalties, although
without giving a breakdown by amount or payor. The company listed no other assets,
except for contingent and unliquidated claims purportedly worth over $10 million. These
are described broadly as “monies due” from the 38 nonpaying franchisees and for
unspecified “indemnification claims,” as well as “possible” legal claims against 62
“potential” claimants, mostly franchisees. No estimated value or description is given for any
claim against any person. Commerce Capital, rather than wait for its payout in the
bankruptcy, sought and obtained relief from the automatic stay. It planned to foreclose on
its lien through a sale of USA Baby’s personal property; it later purchased substantially all
of USA Baby’s assets for $1 million and eventually sold the company’s trademarks and
franchise agreements to an association of 28 former USA Baby franchisees that were still
operating. Wallis had voiced the only opposition, but his objection was denied as untimely.
All the while, Wallis continued to file motions and objections. Those included a
motion to dismiss the bankruptcy and, when that failed, a demand that franchisees be
compelled to remit unpaid royalties to USA Baby. He opposed the appointment of a trustee
and the conversion to Chapter 7. At the hearing on the conversion motion, Wallis explained
that he believed the company was still capable of recovery because, he asserted, he could
raise $200,000 to $2 million from investors within a few months. Then after the bankruptcy
court had lifted the stay for Commerce Capital, Wallis filed a motion to permit himself “in
the name and place of trustee, Barry Chatz, to pursue USA Baby’s assets.” In that motion,
which underlies the matter before this court, Wallis asserted that, through legal action and
otherwise, he could “collect those monies owed to him and USA Baby.” Wallis accused
Chatz of neglecting his duties as trustee and cooperating with Commerce Capital to divest
USA Baby of its assets.
The bankruptcy court held two hearings, both in June 2009, on Wallis’s motion to
stand in for Chatz. The court initially denied Wallis’s motion on the understanding that the
Bankruptcy Code did not authorize him to step into the role of a trustee. Upon further
consideration the court vacated its ruling and conducted a second hearing. Chatz did not
appear at the second hearing, apparently because he already had submitted a final report
stating that USA Baby had no assets to distribute and asking to be discharged. See FED. R.
BANK. P. 5009(a). Commerce Capital was present and explained that Chatz had gauged its
interest in funding litigation to collect on the claims Wallis wanted pursued, in particular
amounts due from franchisees, but the investment company was unwilling and said so to
Chatz. Commerce Capital had concluded that the likely recovery from the franchisees
would not justify the cost of pursuing the claims, especially since it knew that the
franchisees would resist and anyway doubted their ability to satisfy a favorable judgment.
No. 10‐3637 Page 4
The investment bank shared Chatz’s view that the claims should be abandoned unless a law
firm was willing to prosecute them on a contingency basis, and Chatz had found no takers.
Wallis countered that Chatz and Commerce Capital were part of a conspiracy to sell USA
Baby’s assets to a franchisee that had withheld royalty payments and thus driven USA Baby
to bankruptcy in the first place. Wallis insisted that he would file a racketeering suit against
Commerce Capital and Chatz (which he did later without success). But the bankruptcy
court concluded that Wallis had not shown any misfeasance by Chatz and, thus, saw no
reason to allow Wallis to act on Chatz’s behalf: “[F]ocusing simply on the judgment that the
trustee made not to pursue these matters, in light of the secured claim, in light of the
repeated conclusions the trustee made regarding the ability to fund counsel or financing to
pursue those matters, I can’t find that the trustee’s decision was unjustified.” Wallis
appealed that decision to the district court, which upheld the bankruptcy court’s ruling in
September 2009.
The Chapter 7 case remains open, and Chatz continues to serve as trustee. And while
this appeal from the bankruptcy court’s June 2009 decision has been making its way to us,
Wallis has continued to litigate other issues in the bankruptcy and district courts. He filed,
among others, motions for equitable relief, to disqualify the bankruptcy judge, for
examination of Chatz as trustee under Federal Rule of Bankruptcy Procedure 2004, and for
leave to sue Chatz. The bankruptcy court denied all of these, and Wallis appealed each
ruling to the district court. None of these appeals affects the matter before us, but in early
2011, Wallis filed yet another motion, this time to compel Chatz to abandon to him “all legal
claims” of USA Baby. The bankruptcy court granted that unopposed motion. See
11 U.S.C.
§ 554(b).
Wallis’s appeal from the bankruptcy court’s June 2009 order has now reached us, but
we must first assess whether we have jurisdiction to consider it. Section 158(d)(1) of Title 28
gives us jurisdiction over appeals “from all final decisions, judgments, orders, and decrees”
entered under § 158(a) and (b). The district court exercised jurisdiction under subsection (a),
which authorizes appeals from final judgments of the bankruptcy court, so our jurisdiction
depends on whether the bankruptcy court’s order was sufficiently final. That depends, in
turn, on whether the challenged decision of the bankruptcy judge resolved “‘a discrete
dispute that, but for the continuing bankruptcy, would have been a standalone suit by or
against the trustee.’” In re McKinney,
610 F.3d 399, 402 (7th Cir. 2010) (quoting Zedan v.
Habash,
529 F.3d 398, 402 (7th Cir. 2008)); see In re Computer Learning Centers, Inc.,
407 F.3d
656, 659‐60 (4th Cir. 2005); In re Palm Coast, Matanza Shores Ltd. P’ship,
101 F.3d 253, 255‐56
(2d Cir. 1996). The order definitively resolves Wallis’s attempt to challenge Chatz’s business
decision to pursue potential assets of the estate on behalf of the trustee, which could have
been an independent action against Chatz for breach of his duties as a trustee. See In re
Kizzee‐Jordan,
626 F.3d 239, 242 (5th Cir. 2010); In re Resource Tech. Corp.,
528 F.3d 467, 474
No. 10‐3637 Page 5
(7th Cir. 2008); In re Northwood Properties, LLC,
509 F.3d 15, 21 (1st Cir. 2007); In re AroChem
Corp.,
176 F.3d 610, 619‐20 (2d Cir. 1999). Thus our jurisdiction is secure.
Still, Chatz argues that the bankruptcy court’s February 2011 order directing him to
abandon USA Baby’s remaining legal claims moots this appeal. (Chatz asserts that those
claims have been abandoned to USA Baby, but in fact the bankruptcy court ordered them
abandoned to Wallis. It is an open question whether a bankruptcy court may direct that
assets be abandoned to a person other than the debtor, see Patrick A. Jackson and Elizabeth
L. Dunn, The Limits of Targeted Abandonment ‘to’ a Secured Creditor Under § 554, 29 AM.
BANKR. INST. J. 22 (2010), but we need not decide that issue for the purposes of this appeal.)
Our ability to provide a least partial relief precludes a finding of mootness. See In re Kmart
Corp.,
359 F.3d 866, 869 (7th Cir. 2004). What Wallis has now—any residual legal claims—is
less than what he might have pursued on behalf of USA Baby if his motion to stand in for
Chatz had been granted in June 2009. Commerce Capital has long since settled a number of
claims with franchisees in connection with its sale of the trademarks and franchise
agreements, so the value of any royalty receivables has been compromised if not
extinguished. See Commerce Capital, LP v. United Storeowners Assoc. of Baby Stores, LLC,
No. 09‐07229 (N.D. Ill. Apr. 2, 2010). Though it would admittedly be difficult to fashion
complete relief, by unwinding Commerce Capital’s acquisition and sale of USA Baby’s
assets, courts “can and do order divestiture and damages in such situations.” See In re
Resource Tech. Corp.,
430 F.3d 884, 886‐87 (7th Cir. 2005). We may therefore reach the merits.
In this court Wallis argues, again, that he should have been permitted to act for
Chatz in collecting obligations to USA Baby that the trustee was unwilling to pursue. He
maintains that Chatz breached his fiduciary duties to the estate, was not disinterested, and
now adds that Chatz also was negligent. Because our review in a bankruptcy appeal is
plenary, we apply the same standard that the district court did in reviewing the bankruptcy
court’s decision. Kovacs v. United States,
614 F.3d 666, 672 (7th Cir. 2010). But like the district
judge, we conclude that the bankruptcy court properly exercised its discretion in denying
Wallis’s motion to pursue the assets of USA Baby.
Wallis argues that he did not seek to remove Chatz; instead, he wanted only to
pursue an action on his behalf. There are limited circumstances under which a creditor may
bring an action in place of, and in the name of, the trustee. See Fogel v. Zell,
221 F.3d 955, 965‐
66 (7th Cir. 2000); In re Perkins,
902 F.2d 1254, 1258 (7th Cir. 1990); see also In re Trailer Source,
Inc.,
555 F.3d 231, 244‐45 (6th Cir. 2009); In re Racing Srvcs., Inc.,
540 F.3d 892, 898 (8th Cir.
2008); In re Smart World Techs., LLC,
423 F.3d 166, 176 (2d Cir. 2005). We have permitted this
relief only when the trustee has failed to honor the creditor’s priority and “unjustifiably
refused” to bring an action to enforce a claim of a creditor. Fogel,
221 F.3d at 965. Although
the bankruptcy court initially based its decision on the lack of authority allowing Wallis to
No. 10‐3637 Page 6
“step in” for Chatz, it ultimately rested its decision on the lack of evidence of unjustifiable
action on behalf of the trustee, as do we.
We cannot conclude from this record that Chatz failed to exercise sound business
judgment in his decision not to pursue the claims Wallis envisions against the franchisees
and others. A trustee must exercise reasonable diligence to preserve and protect estate
property. See
11 U.S.C. § 704(a)(1); Cent. States, S.E. & S.W. Areas Pension Fund v. Cent.
Transp., Inc.,
472 U.S. 559, 572 (1985); In re First Cent. Fin. Corp.,
377 F.3d 209, 216‐17 (2d Cir.
2004). Chatz elected not to pursue the claims because USA Baby did not have the money or
a backer to finance collection activity, and because no law firm would take the claims on a
contingency basis given the remote possibility of success. Commerce Capital, the creditor
that would benefit most from receivables that USA Baby might recover, agreed with Chatz
that the risk of pursuing these claims was too great. No other creditors, or USA Baby itself,
objected to Commerce Capital’s request for relief from the stay or to Chatz’s no asset
statement. While Wallis continues to assert that he believes he could collect on the accounts
receivable, he offered the bankruptcy court no basis to rely on this assessment. Indeed,
nowhere in this record do we see any evidence that Wallis ever has tried to quantify specific
amounts due from particular persons, or identify bases for making claims against those
persons, or assess the likelihood of recovery. Nor is there any evidence even remotely
supporting his allegations of a conspiracy or conflicts of interest by Chatz.
AFFIRMED.
