United States Bankruptcy Appellate Panel of the Ninth Circuit
In re: Colusa Regional Medical Center, Debtor.
J. Michael Hopper, Chapter 7 Trustee, Appellee. United States Department of Agriculture, Appellant,
and Submitted on June 20, 2019 at Sacramento, California
from the United States Bankruptcy Court for the Eastern
District of California Honorable Christopher D. Jaime,
Bankruptcy Judge, Presiding
Jeffrey James Lodge, Assistant United States Attorney, argued
Kristen Renfro of Desmond, Nolan, Livaich & Cunningham
argued for appellee.
Before: Taylor, Brand, and Spraker, Bankruptcy Judges.
TAYLOR, BANKRUPTCY JUDGE:
Colusa Regional Medical Center provides the only hospital and
emergency medical services to thinly-populated Colusa County,
California. Facing financial problems, it ceased operations
in 2016 and initiated a chapter 7 case. The majority of
its assets were over encumbered by liens, including those
held by the United States Department of Agriculture (the
Michael Hopper was appointed trustee. He successfully
orchestrated a sale of a substantial portion of Debtor's
assets, and the record supports that the hospital thereafter
reopened and hospital medical services resumed. The Trustee
achieved excellent results in the case that benefitted both
creditors and the citizens of Colusa County.
present appeal concerns the question of who should pay a
substantial portion of the Trustee's attorney's fees
and his entire interim statutory commission. By way of a
surcharge motion, the Trustee argued that many of his fees
and costs were devoted to preserving and protecting the
USDA's collateral, that the USDA saw considerable benefit
(including achievement of its expressed desire that Colusa
County not be without hospital services), and, thus, that the
USDA should shoulder these significant expenses. The USDA
disagrees; it suggests that the estate (and, derivatively,
other creditors) should cover these administrative costs. The
bankruptcy court agreed with the Trustee.
determine that the bankruptcy court clearly erred in finding
surcharge objectively appropriate; it did not employ the test
required by Ninth Circuit precedent and, thus, it failed to
make factual findings that support surcharge. It also erred
when it considered evidence introduced only on reply and
found that the USDA impliedly consented to surcharge or
caused the administrative expenses that form the basis for
the Trustee's surcharge request.
we VACATE and REMAND for further proceedings.
was a nonprofit public benefit corporation that opened in
2001. It was the principal health care facility in Colusa
County, California, and consisted of its only hospital, three
family medical clinics, and a women's health center.
Facing a financial crisis, it halted operations in April 2016
and filed a chapter 7 petition two months later.
disputes that Colusa County had a critical need for reopening
of the hospital. The County argued that as of the petition
date Colusa County residents faced a 30 to 45 minute
ambulance ride to reach an emergency room, sometimes in
situations where time was a factor in survival. Thus, the
public interest overwhelmingly favored a chapter 7
liquidation that allowed the hospital to resume operations.
for all concerned, the Trustee received an offer to purchase
the assets necessary to reopen the hospital almost
immediately. The billing statements in the case evidence that
the Trustee and his attorney met with the eventual purchaser
approximately three weeks after the Trustee's appointment
and filed an initial motion to approve a sale to American
Specialty Healthcare, Inc. ("American Specialty") a
little more than a week later. There were hurdles, but the
American Specialty sale closed, and the hospital reopened to
the benefit of many.
assets and liabilities.
assets included real and personal property leases and
commercial real property. The estate also held other personal
property, including licenses relating to its operations;
various non-leasehold furniture, fixtures, and equipment;
$565, 000 in cash or cash equivalents; approximately $11,
000, 000 in accounts receivable; and a claim for recovery of a
preference in the approximate amount of $160, 000.
USDA's lien encumbered many of these assets and secured
an approximately $3, 000, 000 debt. In particular, the USDA
held a first priority lien on accounts receivable and their
proceeds, the real property lease between Colusa County and
the Debtor,  as well as the equipment and other
tangible and intangible personal property related to
operation of the hospital.
USDA, however, did not hold a lien against Debtor's fee
simple interest in the "Williams Family Health
Center", a real property asset valued in Debtor's
schedules at $861, 164 (the "Williams Property").
Another creditor held a lien on this asset that secured a
debt in the approximate amount of $320, 000.
schedules, thus, evidence that in any reasonable scenario
there would be funds in the estate to pay administrative
expenses. But the apparent availability of funds to pay
administrative expenses meant that the Trustee was unable to
avoid the estate's patient records obligations under
applicable law. See 11 U.S.C. § 351. These
responsibilities increased the costs of administration; for
example, early in the case, the Trustee had to seek
bankruptcy court permission to destroy stale patient records.
surprisingly, there were numerous junior secured creditors,
unsecured creditors, and priority creditors.
the hospital was not operational and the Trustee never filed
a § 721 motion authorizing him to operate a business,
the Trustee had a critical need for cash collateral in the
early stages of the case. First, he needed security guards to
protect the hospital physical plant. Second, absent immediate
turnover of assets to the USDA, he needed personnel
knowledgeable in the collection of medical receivables and
accounting records software. Third, he needed software to
manage electronic patient records. Fourth, he needed to pay
for insurance, including a tail policy that would provide the
estate with a defense to malpractice claims filed
postpetition. Fifth, he needed to pay utilities. And finally,
he needed limited office space.
USDA was the focus of cash collateral negotiation, although
the Trustee acknowledged that Debtor's cash and accounts
receivable assets were subject to other junior competing lien
interests held by Amerisource-Bergen Drug Corporation, River
Valley Community Bank, Cardinal Health, and FlexCare LLC.
initial cash collateral motion, the Trustee acknowledged
partial USDA consent and noted that the Debtor had about
$565, 000 in cash on the petition date, that he anticipated
that this amount would soon exceed $1, 000, 000, and that he
could increase collection recoveries by using USDA cash
collateral to finance collection efforts. And before the cash
collateral hearing, he advised that the USDA now supported
all proposed cash collateral uses except for the payment for
malpractice tail insurance. The bankruptcy court later
overruled the USDA's objection and allowed all cash
collateral use as proposed by the Trustee.
adequately protect the USDA, the cash collateral order
provided it with replacement liens on all postpetition causes
of action, including avoidance actions, but the order
clarified that the replacement liens would not encumber the
Williams Property or its income and proceeds. The order also
allowed the USDA to receive payments from its cash collateral
of $20, 000 a month.
USDA directly benefitted from some of the requested cash
collateral use. The security guards protected its tangible
collateral. The personnel collecting receivables did so for
its benefit. And the accounting software, as well as the
patient records software, assisted in these collections.
USDA was not the only party who benefitted. The patient
records software, paid for with USDA cash collateral,
preserved patient records, even if not necessary for
collection, and, thus, eliminated or limited the use of
unencumbered estate assets to maintain patient records. Also,
USDA cash collateral use was requested in relation to utility
payments for the Williams Property and Arbuckle clinic
locations to the extent the rental income was insufficient to
pay debt service on the Williams Property and all building
operational costs as to all three clinic locations. And the
requested use for insurance directly protected others as
well. In particular, tail insurance provided no obvious
benefit to the USDA; to the extent late-filed malpractice
claims could not be defended, this would increase unsecured
claims, but it would not result in senior claims against the
Trustee later obtained two additional cash collateral orders.
The second order largely duplicated the first except that the
Trustee did not request use for office rent and insurance
premiums. The third motion largely duplicated the second but
also requested use to pay renewal fees for licenses critical
to both hospital operations and completion of the American
Specialty sale. In this motion, the Trustee noted: "The
services of the Debtor's former employees have provided
substantial assistance to the Trustee in navigating the
complexities involved with the Debtor's billing and
collection operations and the management of the Debtor's
records, and maintaining access to and security for the
records is necessary to facilitate further collections and
satisfy requests for records."
USDA objected to use of cash collateral after September 27,
2016. In short, it asserted that the estate should cover
expenses from other sources if the American Specialty sale
had not then closed by that date. The bankruptcy court
overruled its objections and allowed use as requested by the
Trustee. The USDA also sought stay relief as to the accounts
receivable collateral. The bankruptcy court granted its
noted, the Trustee very rapidly identified a buyer for the
hospital and clinic operations, including the Williams
Property, for $1, 000, 000. The proposed sale to American
Specialty would be free and clear of liens except as to the
Williams Property, which was sold subject to the existing
support of his sale motion, the Trustee argued, in part, that
creditors would benefit from both the sale proceeds and a
reduction of administrative expenses as a result of the
buyer's assumption of responsibility for medical records.
In other words, the Williams Property's
proceeds-available for payment of administrative expenses and
unsecured claims-would not be diminished by any ongoing
patient-record obligations. Thus, the allocation of sale
proceeds to the Williams Property provided a benefit to the
estate even beyond the allocated proceeds of sale. In sum,
the Trustee contended: "the proposed sale to the Buyer
is a good faith effort by the Trustee to maximize the net
return to the estate on account of the Sale Assets."
there were several objections from secured lenders and
parties with executory contracts. And a supplemental motion
to approve a sale agreement followed. The revised sale
included additional assets (the non-leasehold furniture,
fixtures, and equipment) and an increased purchase price of
$1, 100, 000. In describing how lienholders would be treated,
the Trustee represented that the USDA consented to the sale
on the condition that it receive $550, 000 from the sale
proceeds. The Trustee, thus, allocated the remainder of the
sale proceeds ($550, 000) to the Williams
Property. This amount was available to pay
administrative creditors and to make payment to priority
creditors and possibly unsecured creditors. The Trustee also
allocated $31, 000 of this amount to pay three lienholders
other than the USDA to obtain their consent.
November 2016, the bankruptcy court entered its order
granting the supplemental sale motion (the "Sale
Administration and the Trustee's surcharge
Trustee thereafter sought interim approval of $154, 878.58 in
attorney's fees and expenses. In the motion, the Trustee
noted that he might file a § 506(c) surcharge motion.
year later, the USDA filed a motion to compel the Trustee to
abandon its remaining $300, 000 in cash collateral. The
Trustee then filed a first interim application to approve
$66, 092.18 in Trustee's compensation based on $1, 428,
072.80 in disbursements. He concurrently filed a motion
seeking to recover an amount equal to his commission and
$133, 167.50 of his counsel's fees from USDA collateral.
He explained: "Working in conjunction with various
interested parties trying to preserve both the economic value
of the hospital and associated assets, and the public
interest in preserving the hospital and health services in
Colusa County, the Trustee undertook" the task of
attempting a sale of the hospital and its related assets.
Trustee initially supported the surcharge motion with his own
declaration. It consisted of an outline of case progress, an
overview of the asserted secured claims, and a broad overview
of disbursements in the case. The Trustee also provided time
records for himself and his attorneys and a schedule of the
disbursements that justified his statutory commission. But
the Trustee discussed the USDA's involvement in the case
only in brief. Nowhere in the declaration did the Trustee
discuss any specific interactions with the USDA that
allegedly influenced his actions in the case. He similarly
failed to discuss the alleged motivations and analysis that
led him to accept the offer from American Specialty as
opposed to pursuing sale of the Williams Property and
abandoning other assets. And he made no effort to tie
particular fees to a benefit to the USDA and its collateral.
Trustee sought surcharge for fees broadly related to sale of
the hospital and the vast majority of other case activity
from the petition date through closing of the sale. The
Trustee conceded that the USDA did not expressly consent to
surcharge but argued that it impliedly consented.
surprisingly, the USDA opposed. It broadly disputed the
appropriateness of surcharge and specifically disputed that
the Trustee adequately established a benefit to the USDA or
consent by the USDA for the purposes of surcharge.
connection with his reply, the Trustee submitted his own
brief supplemental declaration. In it, he recounted two
conversations for the first time:
• "On June 10, 2016, I spoke with Jeffrey A
Streiffer, counsel for the [USDA], about the USDA's claim
and the USDA's desire for me to preserve its collateral.
Mr. Streiffer told me that the USDA was open to reducing its
loans to secure a buyer for the Debtor's hospital and
related assets and that the USDA did not want to leave the
Colusa community without the health services provided by the
• "I also spoke numerous times with Anita Lopez,
the community facilities director with the USDA that was
handling this case, who told me at the outset of this case
that the USDA wanted to preserve health services in Colusa
and later indicated to me that it was not prepared to pursue
its own collection activities."
hearing on the surcharge motion, the USDA argued as outlined
in its opposition. It also objected to the supplemental
declaration on multiple theories including that it exceeded
the scope of what was appropriate for a reply and, thus, that
the USDA could not provide a meaningful response.
bankruptcy court then provided an oral ruling. It overruled
the USDA's objection to the second declaration, reasoning
that unspecified civil rules and local rules required
pre-hearing written objections. Noting that surcharge is
evaluated under two tests, an objective test and a subjective
test, it concluded that the Trustee satisfied both.
evaluation of both tests, it found that the USDA obtained a
benefit and that the USDA could not have duplicated the
benefit provided by the American Specialty sale and the
collection of receivables by the estate. It concluded that,
without the Trustee's efforts, the USDA would not have
received significantly more than the $565, 000 in cash
available on the petition date. Indeed, it added that it was
"not persuaded that USDA could or would have collected
any receivables." Hr'g Tr. (Sept. 11, 2018) 18:3-4.
And it continued: "In fact, according to its community
facilities director, USDA was not prepared to do that at the
inception of the case, and it also made no effort to do that
after the automatic stay was terminated in November of 2016
for the express purpose of allowing USDA to collect accounts
receivable." Id. at 18:4-9.
reasoned that the USDA would have realized nothing on account
of its lease, license, and intangible collateral.
it faulted the USDA for failing to submit evidence about the
value of the furniture, fixtures, and equipment, and
concluded that it would not have received more than the $100,