In the
United States Court of Appeals
For the Seventh Circuit
No. 00-1743
Richard M. Fogel, as Trustee for the Estate
of Madison Management Group, Inc.,
Plaintiff-Appellee,
v.
Samuel Zell, et al.,
Defendants-Appellees.
Appeal of: City and County of Denver.
Appeal from the United States District Court
for the Northern District of Illinois, Eastern Division.
No. 93 CV 04777--Ann Claire Williams, Judge.
Argued June 9, 2000--Decided July 19, 2000
Before Posner, Chief Judge, and Bauer and Rovner,
Circuit Judges.
Posner, Chief Judge. A trustee in bankruptcy
settled an adversary proceeding that he had
brought against Samuel Zell and various
individuals and corporations associated with him,
claiming that they had looted the debtor's
estate. As a condition of the settlement, the
district court, having taken over the adversary
proceeding from the bankruptcy court because the
defendants had requested a jury trial, see 28
U.S.C. sec.sec. 157(d), (e), enjoined Denver from
suing Zell and the other adversary defendants.
Denver's appeal asks us to consider whether the
potential legal claim of a potential tort victim
is a "claim" within the meaning of the Bankruptcy
Code; if it is, what kind of notice such a
"claimant" is entitled to from the trustee; and
the extent to which a bankruptcy court can enjoin
the prosecution of claims against the defendants
in an adversary proceeding in order to facilitate
the settlement of the proceeding.
The story begins with Interpace Corporation, a
manufacturer, now defunct, of prestressed
concrete pipe used in sewer and sanitation
systems. During the 1970s, the pipe that
Interpace sold to some 10,000 purchasers was
defective, though this was not realized at first.
Meanwhile, in the mid-1980s, through a complex
system of transactions unnecessary to describe,
Interpace was acquired by Madison Management.
Then the pipes began to burst, and Madison's
owners--Zell and the other adversary defendants--
removed Madison's assets, lest Madison be held
liable for its predecessor's torts. The removal
left Madison a shell that declared bankruptcy
under Chapter 11 of the Bankruptcy Code in 1991.
Later, as so often happens, the Chapter 11
proceeding (reorganization) was converted to a
Chapter 7 proceeding (liquidation).
By the time Madison declared bankruptcy, eight
purchasers of Interpace pipe, not including
Denver however, had sued Madison, seeking damages
in excess of $300 million, for harms caused by
the bursting of the defective pipe. Madison's
trustee in bankruptcy, seeking to obtain assets
for distribution to the creditors, brought this
adversary proceeding, charging that Zell and
others had fraudulently conveyed Madison's assets
to themselves in order to avoid having to make
good on the tort claims arising from the burst
pipes.
The bankruptcy court set a deadline of April 5,
1993, for the filing of proofs of claim with the
trustee. A brief notice to that effect was
published in USA Today and Waterworld Review. The
deadline came and went without Denver filing a
claim. But its pipes hadn't burst yet. That
didn't happen until May 23, 1997. On the
following January 9, having confirmed that the
pipe had been manufactured by Interpace,
Madison's predecessor, Denver filed a proof of
claim with the trustee. The claim was for more
than $17 million in damages for the harm caused
by the burst pipes and for the expense of
replacing the rest of the Interpace pipe that
Denver had bought, before it burst too. It
appears that Denver and the eight pipe claimants
that filed timely proofs of claim in the
bankruptcy proceeding are the only purchasers of
Interpace pipe who have as yet sustained damages
because of the defective pipe.
The fraudulent-conveyance action brought by the
trustee against Zell and his fellow alleged
looters was settled a few months after Denver
filed its claim. In exchange for the trustee's
agreeing to release his claim against them, the
adversary defendants agreed to pay him whatever
amount, estimated to be between $35 and $45
million, would enable creditors of Madison whose
claims had been filed by the April 5, 1993,
deadline to receive 70 cents on the dollar.
Claims such as Denver's, however, that had been
filed later would receive nothing. The eight
timely pipe claimants are not among the creditors
benefited by the settlement either, but that is
because one of the adversary defendants in effect
bought their claims, paying $24 million, which
was less than 10 percent of what those claimants
had originally sought.
The settlement between the adversary defendants
and the trustee was made expressly contingent on
the district court's enjoining all of Madison's
creditors, including pipe claimants, from suing
the adversary defendants. Denver had already
filed suit against those defendants in a state
court in Colorado. Its suit was closely modeled
on the trustee's fraudulent-conveyance suit.
Because Zell and the other adversary defendants
were not the manufacturer of the defective pipe
or even the successor of the manufacturer
(Interpace), but rather the alleged looters of
the successor's assets, Denver's claim against
them, as distinct from the claim that it had
filed against Madison in the bankruptcy
proceeding, could not be, and was not, a
products-liability claim.
The district judge found that Denver knew by
October of 1990 that the pipe it had bought from
Interpace might be defective, and so should have
filed a proof of claim with Madison's trustee in
bankruptcy before the bar date two and a half
years later. Other Interpace pipe, bought at the
same time, had already burst; and Denver had even
played host to a conference at which
representatives of a number of municipalities
that had bought such pipe discussed the
likelihood that it would burst. The judge's
finding that Denver knew about the defect in its
pipe before Madison went into bankruptcy is
contested, but for purposes of this appeal we can
assume that it's correct. The judge ruled that by
failing to file a proof of claim by the bar date,
Denver had forfeited any right it might have had
to object to a settlement that gave it nothing.
And so the judge proceeded to consider whether
the settlement was in the best interests of the
debtor's estate, Denver's interest
notwithstanding. She concluded that it was,
because it would avoid costly and protracted
litigation and add sufficient assets to the
estate to enable a handsome recovery, by normal
bankruptcy standards, by those creditors (other
than the timely pipe claimants, who had settled
separately) that had filed timely proofs of
claim. Since the settlement was contingent on
enjoining suits by all pipe claimants against the
adversary defendants, the judge, to make sure
that the settlement would go through, granted the
injunction sought by the trustee and the
adversary defendants against Denver's state court
suit against the latter. The consequence of the
judge's rulings was to block Denver from
recovering any of the losses that it has
sustained as a result of the bursting of the
defective pipe, since Interpace no longer exists,
the Madison bankruptcy yielded nothing for
Denver, and Denver's state-court suit against the
alleged looters is enjoined.
Judges naturally prefer to settle complex
litigation than to see it litigated to the hilt,
especially when it is litigation in a bankruptcy
proceeding--the expenses of administering the
bankruptcy often consume most or even all of the
bankrupt's assets. The trustee's adversary
proceeding against Zell and the other alleged
looters promised to be hard-fought; the parties
had already been at each other's throats for six
years. Much of the property of the debtor's
estate might be eaten up in that litigation,
which in the end might fail to recover a penny
for the estate. It was natural for the judge to
prefer a $45 million bird in the hand to birds of
unknown number and value in dense thickets. But
this is on the assumption that Denver, whose
claim exceeds $17 million, and any other
purchaser from Interpace whose pipes burst after
April 5, 1993, deserved to receive zero cents on
the dollar because they should have filed claims
before that deadline. If the judge was wrong to
fault Denver for filing later, an essential
premise of her decision to approve the settlement
and issue the injunction collapses.
On whether Denver filed its proof of claim too
late, it is uncertain, to begin with, whether it
could have filed a claim before its pipes burst,
which didn't happen until 1997, long after the
bar date for filing proofs of claim. A "creditor"
in bankruptcy is anyone who has a "claim" against
the bankrupt estate that arose (so far as bears
on this case) no later than the filing of the
voluntary petition in bankruptcy. 11 U.S.C.
sec.sec. 101(10), 301; In re Chicago Pacific
Corp., 773 F.2d 909, 916 (7th Cir. 1985); In re
Gucci, 126 F.3d 380, 388-89 (2d Cir. 1997).
"Claim" is broadly defined to include equitable
as well as legal rights to payment, and even
"contingent" such rights. 11 U.S.C. sec.
101(5)(A); McClellan v. Cantrell, No. 99-3923,
2000 WL 876933, at *4 (7th Cir. July 5, 2000). A
claim implies a legal right, however, and before
a tort occurs the potential victim has no legal
right, "contingent" or otherwise, with an
exception, irrelevant to this case, noted in the
next paragraph, for the case in which the
potential tort victim incurs reasonable costs to
prevent the tort from occurring or to mitigate
its severity. A right that can be made the basis
of a claim in bankruptcy may be contingent on
something happening, such as the signing of a
contract, e.g., In re Remington Rand Corp., 836
F.2d 825, 827 (3d Cir. 1988); In re M. Frenville
Co., 744 F.2d 332, 336-37 (3d Cir. 1984), but if
the contingency can be the tort itself, this
spells trouble, both practical and conceptual.
Suppose a manufacturer goes bankrupt after a rash
of products-liability suits. And suppose that ten
million people own automobiles manufactured by it
that may have the same defect that gave rise to
those suits but, so far, only a thousand have had
an accident caused by the defect. Would it make
any sense to hold that all ten million are tort
creditors of the manufacturer and are therefore
required, on pain of having their claims
subordinated to early filers, to file a claim in
the bankruptcy proceeding? Does a pedestrian have
a contingent claim against the driver of every
automobile that might hit him? We are not alone
in thinking that the answer to these questions is
"no." See In re Chateaugay Corp., 944 F.2d 997,
1003 (2d Cir. 1991). Driving carelessly is not a
tort and neither is the sale of a defective
product. The products-liability tort occurs when
the defect in the design or manufacture of the
product causes a harm, and this didn't happen to
Denver until the defective pipes burst. It is a
fundamental principle of tort law that there is
no tort without a harm, e.g., Blue Cross & Blue
Shield United of Wisconsin v. Marshfield Clinic,
152 F.3d 588, 592 (7th Cir. 1998); Janmark, Inc.
v. Reidy, 132 F.3d 1200, 1202 (7th Cir. 1997);
Jones v. Searle Laboratories, 444 N.E.2d 157, 162
(Ill. 1982); W. Page Keeton et al., Prosser and
Keeton on the Law of Torts sec. 30, p. 165 (5th
ed. 1984), and so until the harm occurs, the tort
hasn't occurred.
It is true that when Denver learned it had
installed defective pipe, it would have been
entitled by the doctrine of mitigation of damages
to remove the pipe or take other prophylactic or
reparative measures, and to seek restitution of
the expense of doing so from Madison, provided
the expense was prudent in the circumstances.
Adams v. U.S. Homecrafters, Inc., 744 So. 2d 736,
739 (Miss. 1999); Restatement (Second) of Torts
sec. 919(1) (1979). Had Denver incurred such an
expense before April 5, 1993, it would have had
to file a proof of claim for reimbursement by
then, provided it had received reasonable notice
of the bankruptcy proceeding, a question to which
we'll return. But it did not incur any such
expense, and so until the pipes burst it had not
suffered a legal wrong at the hands of Madison.
No argument is made that it should have filed a
claim for breach of contract against Madison.
There has been, however, understandable pressure
to expand the concept of a "claim" in bankruptcy
in order to enable a nonarbitrary allocation of
limited assets to be made between present and
future claimants. Consider the asbestos
bankruptcy cases. Many people who inhaled
asbestos in the workplace in the 1940s developed
serious diseases as a delayed consequence of this
inhalation. Some developed the diseases earlier
than others. It seemed arbitrary to devote the
entirety of the estates of the bankrupt asbestos
manufacturers to compensating those sufferers
whose diseases had happened to manifest
themselves before rather than after (perhaps
shortly after) the bar dates set in the various
bankruptcy proceedings. Since the inhalation had
occurred before the bar dates, there was a sense
in which the inhalers' tort claims could be
thought to have accrued at that time even if they
couldn't have sued to enforce the claims until
symptoms of disease, or at least discernible
changes in lung or other tissues (which might be
enough to constitute harm within the meaning of
the rule that there is no tort without a harm),
manifested themselves. To recognize a
"contingent" tort claim in these circumstances
would complicate bankruptcy proceedings some, and
perhaps a good deal, by requiring that provision
be made in the allocation of the assets of the
debtor's estate for future claims that might be
difficult to value, but it might be a price worth
paying to eliminate an arbitrary difference in
treatment. In re UNR Industries, Inc., 725 F.2d
1111, 1118-20 (7th Cir. 1984). An analogy could
be drawn--we drew a similar analogy in an
insurance case involving defective pipes, Eljer
Mfg., Inc. v. Liberty Mutual Ins. Co., 972 F.2d
805 (7th Cir. 1992)--between inhaling a
potentially dangerous substance and installing
potentially defective pipe in the body politic;
each is a ticking-time-bomb kind of case.
We did not need to resolve the "contingent" tort
claim issue in the UNR case. Several courts found
in 11 U.S.C. sec. 1109(b), which allows any
"party in interest" to raise and be heard on
issues relating to the bankruptcy proceeding, the
authority to appoint representatives for future
asbestos claimants. E.g., In re Amatex Corp., 755
F.2d 1034, 1041-43 (3d Cir. 1985); In re Johns-
Manville Corp., 52 B.R. 940, 943 (S.D.N.Y. 1985);
In re Forty-Eight Insulations, Inc., 58 B.R. 476,
478 (Bankr. N.D. Ill. 1986). Eventually Congress
stepped in and, in effect, ratified the
settlement terms that the representatives of
these future claimants had negotiated. 11 U.S.C.
sec. 524(g)(1)(B). In other cases, too, in which
mass tort claims had precipitated sellers into
bankruptcy, courts, including our own, began
allowing products-liability and nuisance claims
to be filed in bankruptcy as long as the conduct
giving rise to the claim (the manufacture or sale
of the defective product, in the case of products
liability) had occurred before the petition in
bankruptcy had been filed. E.g., In re UNR
Industries, Inc., 20 F.3d 766, 770-71 (7th Cir.
1994); In re Chicago, Milwaukee, St. Paul &
Pacific R.R., 974 F.2d 775, 782-86 (7th Cir.
1992); Epstein v. Official Comm. of Unsecured
Creditors of Estate of Piper Aircraft Corp., 58
F.3d 1573 (11th Cir. 1995); Lemelle v. Universal
Mfg. Corp., 18 F.3d 1268, 1274-78 (5th Cir.
1994); In re Jensen, 995 F.2d 925, 930-31 (9th
Cir. 1993) (per curiam); In re Chateaugay Corp.,
supra, 944 F.2d at 1005; Grady v. A.H. Robins
Co., 839 F.2d 198 (4th Cir. 1988); contra, Jones
v. Chemetron Corp., No. 99-3500, 2000 WL 558986,
*5 (3d Cir. May 9, 2000); In re M. Frenville Co.,
supra, 744 F.2d at 336-37. However, mindful of
the problem flagged by our automobile
hypotheticals, the courts in these cases have
suggested various limiting principles. We needn't
go through them, for a reason that will appear in
a moment; and anyway we greatly doubt that the
issue is one that lends itself to governance by
formula. It may not be possible to say anything
more precise than that if it is reasonable to do
so, bearing in mind the cost and efficacy of
notice to potential future claimants and the
feasibility of estimating the value of their
claims before, perhaps long before, any harm
giving rise to a matured tort claim has occurred,
the bankruptcy court can bring those claimants
into the bankruptcy proceeding and make provision
for them in the final decree. This "test," if it
can be dignified by such a term, would exclude
the automobile hypotheticals; given that so far
only one out of every thousand pipes sold by
Interpace have burst, this case may be closer to
them than to asbestos and Dalkon Shield.
This we need not decide and anyway could not
without knowing how serious the defect in the
pipe is; maybe all the pipe that Interpace sold
to these 10,000 purchasers is defective and must
be replaced long before the end of the normal
useful life of such a product. But that, as we
say, does not have to be decided. For even if
Denver was eligible to file a claim in the
Madison bankruptcy before it suffered any harm
from the defective pipe, it could not lawfully be
penalized for its failure to do so. The notice of
the bar date was culpably deficient. A trustee in
bankruptcy cannot subordinate late-filed claims,
as he did here, if the late filers "did not have
notice or actual knowledge of the case in time
for timely filing," 11 U.S.C. sec.
726(a)(2)(C)(i), and their claims were filed
before the estate had been distributed. sec.
726(a)(2)(C)(ii). If both conditions are met, the
late filer is entitled to parity with the other
unsecured creditors. E.g., Cooper v. Internal
Revenue, 167 F.3d 857, 858 (4th Cir. 1999); In re
Savage Industries, 43 F.3d 714, 721 (1st Cir.
1994).
The statute says notice or actual knowledge, and
let us begin with the former. All the statute
says is that the notice must be "appropriate in
the particular circumstances," 11 U.S.C. sec.
102(1)(A), but the bankruptcy rules, a little
more helpfully, provide that "the court may order
notice by publication if it finds that notice by
mail is impracticable." Bankr. R. 2002(l). The
cases sensibly assume that the general norms of
fair notice, as set forth in Mullane v. Central
Hanover Bank & Trust Co., 339 U.S. 306 (1950);
Tulsa Professional Collection Services, Inc. v.
Pope, 485 U.S. 478, 489-91 (1988); Mennonite Bd.
of Missions v. Adams, 462 U.S. 791, 797-800
(1983), and other such cases, apply to bankruptcy
as to other settings in which a person's legal
right is extinguished if he fails to respond to a
pleading. In re Savage Industries, supra, 43 F.3d
at 721; In re Auto-Train Corp., 810 F.2d 270, 278
(D.C. Cir. 1987). So even if--which, for the
reasons explained in Creek v. Village of
Westhaven, 80 F.3d 186, 193 (7th Cir. 1996), we
doubt--municipalities (such as Denver) cannot
complain about a denial of due process even when
it isn't their own state they're complaining
about (which they can't do, City of Newark v. New
Jersey, 262 U.S. 192, 196 (1923); City of East
St. Louis v. Circuit Court for Twentieth Judicial
Circuit, 986 F.2d 1142, 1144 (7th Cir. 1993)),
they are entitled to the equivalent protections
under the notice provisions of the Bankruptcy
Code. In re Hairopoulos, 118 F.3d 1240, 1244 n. 3
(8th Cir. 1997); see City of New York v. New
York, New Haven & Hartford R.R., 344 U.S. 293,
296-97 (1953).
Fair or adequate notice has two basic elements:
content and delivery. If the notice is unclear,
the fact that it was received will not make it
adequate. Mullane v. Central Hanover Bank & Trust
Co., supra, 339 U.S. at 314, 318; Folger Adam
Security, Inc. v. DeMatteis/MacGregor, JV, 209
F.3d 252, 265 (3d Cir. 2000); In re Barton
Industries, Inc., 104 F.3d 1241, 1245-46 (10th
Cir. 1997); In re Linkous, 990 F.2d 160, 162-63
(4th Cir. 1993); In re Auto-Train Corp., supra,
810 F.2d at 279. That is not a problem here,
because the notice did identify Madison as
successor to Interpace. But unless received, the
notice was inadequate unless the means chosen to
deliver it was reasonable. Mullane v. Central
Hanover Bank & Trust Co., supra, 339 U.S. at 314,
319; Towers v. City of Chicago, 173 F.3d 619, 628
(7th Cir. 1999); Schluga v. City of Milwaukee,
101 F.3d 60, 62 (7th Cir. 1996).
There are two basic means--the transmission of
the notice to the intended recipient and the
publication of the notice in a newspaper or
magazine or other medium likely (or at least as
likely as it is feasible to arrange) to come to
the attention of the person entitled to notice.
If his name and address are reasonably
ascertainable, he is entitled to have that
information sent directly to him, but, if not,
then publication of the information in the
newspaper or other periodical that he's most
likely to see is permitted. In re Chicago,
Milwaukee, St. Paul & Pacific R.R., supra, 974
F.2d at 788; In re Crystal Oil Co., 158 F.3d 291,
297 (5th Cir. 1998); Chemetron Corp. v. Jones, 72
F.3d 341, 345-47 (3d Cir. 1995); In re Savage
Industries, supra, 43 F.3d at 721-22.
The cases refer to creditors in the first class
as "known creditors" and creditors in the second
class as "unknown creditors," but this is
imprecise. The issue is not whether the creditor
is known to the trustee but whether the
creditor's name and address can be readily
ascertained by the trustee, making it feasible to
send the creditor the notice directly and not
force him to read the fine print in the Wall
Street Journal. Apart from the cost of finding
the creditor's name and address, the sheer number
of potential creditors in relation to the size of
their claims may make it excessively costly to
provide direct notice to all of them. In re GAC
Corp., 681 F.2d 1295, 1300 (11th Cir. 1982). The
cost of direct notice in such a case might eat up
the debtor's estate, especially when the claims
are discounted to reflect their actual value. If
the assets of the estate are obviously
insufficient to pay more than 10 cents on the
dollar, an unsecured claim for $1 million is not
worth $1 million, but only $100,000. And if it is
a tort claim, a reasonable estimate of its value
may be much smaller than the amount claimed,
since tort damages, not being liquidated or
readily computable in most cases, are typically
exaggerated in the complaint.
Notice by publication may thus be entirely
appropriate when potential claimants are
numerous, unknown, or have small claims (whether
nominally or, as we have just pointed out,
realistically)--all circumstances that singly or
in combination may make the cost of ascertaining
the claimants' names and addresses and mailing
each one a notice of the bar date and processing
the responses consume a disproportionate share of
the assets of the debtor's estate. E.g., Mullane
v. Central Hanover Bank & Trust Co., supra, 339
U.S. at 317-18; City of New York v. New York, New
Haven & Hartford R.R., supra, 344 U.S. at 296; In
re Chicago, Milwaukee, St. Paul & Pacific R.R.,
supra, 974 F.2d at 788; In re GAC Corp., supra,
681 F.2d at 1300. That isn't this case. This is a
multimillion dollar bankruptcy, the potential
claimants were all purchasers of a product
manufactured by the debtor's predecessor, and
Denver in particular was a large purchaser. (We
don't know what it paid, but we know that it
bought and installed at least five miles of
Interpace pipe.) Other pipe claimants had filed
multimillion dollar claims. The suggestion that
the trustee could not have discovered that Denver
had purchased a large quantity of the defective
pipe strikes us as risible.
Although Denver did not receive fair notice of
the bankruptcy proceeding, may it have had actual
knowledge of the proceeding? After all, the
proceeding had been pending for years before the
bar date. The general rule, moreover, is that the
only knowledge required is knowledge of a
critical stage of the proceeding from which the
bar date can be computed, see, e.g., In re Maya
Construction Co., 78 F.3d 1395, 1399 (9th Cir.
1996); In re Medaglia, 52 F.3d 451, 455 (2d Cir.
1995); cf. In re Sam, 894 F.2d 778, 781 (5th Cir.
1990), not of the bar date itself. Normally all
that is required in a Chapter 7 proceeding is
knowledge of when the petition for bankruptcy was
filed, because the statute requires that the bar
date be set at 90 days after the first creditors'
meeting, which must be held between 20 and 40
days after the petition for bankruptcy is filed.
Bankr. R. 2003(a), 3002(c). The cautious creditor
who knows only the date of the petition will
therefore file his proof of claim within 110 days
after that date.
Here, however, the bar date was set at almost 18
months after Madison filed its petition for
bankruptcy. The reason is that the initial
petition was under Chapter 11, which doesn't have
the 90-day rule. Bankr. R. 3003(c)(3); Pioneer
Investor Services Co. v. Brunswick Associates
Limited Partnership, 507 U.S. 380, 382 (1993).
After being converted to a Chapter 7 proceeding
on July 17, 1992, a "Notice of Commencement of
Case Under Chapter 7" was filed, fixing the bar
date 90 days later. Denver was not served with
that notice, and there is no indication that it
knew about it, which means that Denver would not
have known how to compute the bar date--and so
was entitled to notice of that date. Cf. In re
Chicago, Rock Island & Pacific R.R., 788 F.2d
1280, 1283 (7th Cir. 1986); In re Trans World
Airlines, Inc., 96 F.3d 687, 690 (3d Cir. 1996);
In re Maya Construction Co., supra, 78 F.3d at
1399; In re Spring Valley Farms, Inc., 863 F.2d
832, 834-35 (11th Cir. 1989); see also In re
Unioil, 948 F.2d 678, 683 (10th Cir. 1991); In re
Walker, 927 F.2d 1138, 1145 and n. 11 (10th Cir.
1991); but see In re Christopher, 28 F.3d 512,
517-18 (5th Cir. 1994). It received no notice.
Nor is there any reason to believe that it knew
Madison had acquired Interpace and therefore was
aware that it might have an interest in a Madison
bankruptcy. Nor, given the uncertainty whether
Denver even had a claim that it could file in a
bankruptcy proceeding before the pipes burst,
long after the bar date, can Denver be faulted in
the absence of notice for not having filed a
proof of claim before then.
Had Denver never become a party to the Madison
bankruptcy proceeding, the injunction against its
prosecuting its own suit against Zell and the
others could not have been issued. Enjoining
nonparties is not completely out of the question
for a bankruptcy court, but it is a stretch. If A
has a claim against B, it is easy to see why B
would like to have a settlement that resolved not
only its dispute with A but its dispute with C as
well, and it is easy to see why A would be
delighted to agree to such a provision since by
making the settlement more valuable to B the
provision would enable A to get a larger
settlement--this is the reason the district judge
gave for approving the settlement. But two
parties cannot agree to extinguish the claim of a
third party not in privity with either of them--
let alone the potential claims of 10,000 third
parties. E.g., Martin v. Wilks, 490 U.S. 755,
761-62 (1989); Local No. 93, Int'l Ass'n of
Firefighters v. City of Cleveland, 478 U.S. 501,
529 (1986); United States v. Board of Education,
11 F.3d 668, 672-73 (7th Cir. 1993); Lindsey v.
Prive Corp., 161 F.3d 886, 891 (5th Cir. 1998).
Like most legal generalizations, this one
requires qualification. If C is required to file
its claim against A in the litigation between A
and B, and fails to do so, the settlement of that
litigation can extinguish C's rights. Martin v.
Wilks, supra, 490 U.S. at 762 n. 2. That is
paradigmatic of bankruptcy--and the defendants'
first argument, which we've rejected, for binding
Denver to the settlement. In addition, the court
can enjoin a third party from interfering with
the disposition of the property in the debtor's
estate, Fisher v. Apostolou, 155 F.3d 876, 882
(7th Cir. 1998); Zerand-Bernal Group, Inc. v.
Cox, 23 F.3d 159, 161-62 (7th Cir. 1994), just as
an ordinary injunction can be made to run against
third parties who have notice of it, in order to
prevent interference with it. And thus when an
asset of the estate is sold by the trustee in
bankruptcy free and clear of any liens, the court
can enjoin a creditor from suing to enforce a
preexisting lien in the asset. 11 U.S.C. sec.
363(f); In re Penrod, 50 F.3d 459, 461 (7th Cir.
1995); Zerand-Bernal Group, Inc. v. Cox, supra,
23 F.3d at 163; Gotkin v. Korn, 182 F.2d 380, 382
(D.C. Cir. 1950); In re WBQ Partnership, 189 B.R.
97, 110 (Bankr. E.D. Va. 1995). Madison's trustee
and the adversary defendants argue that the
trustee "owns" the fraudulent-conveyance claim
against those defendants--that it is an asset of
the debtor's estate--and that he has "sold" it
(by releasing the claim) free and clear to them
for whatever amount is necessary to give the
timely unsecured creditors 70 cents on the
dollar, and that the suit Denver has brought in a
state court against them is an interference with
that asset. Let us see.
It is true that the trustee "owns" Madison's
claim in the loose sense that it's part of the
debtor's estate, which the trustee controls. 11
U.S.C. sec. 541(a); Pepper v. Litton, 308 U.S.
295, 307 (1939); Koch Refining v. Farmers Union
Central Exchange, Inc., 831 F.2d 1339, 1343-44
(7th Cir. 1987); In re Ionosphere Clubs, Inc., 17
F.3d 600, 604 (2d Cir. 1994). But the issue is
Denver's claim, the claim that the adversary
defendants looted Madison so that it wouldn't
have any assets out of which to pay tort claims
arising from the eventual bursting of the
defective pipe. Denver's is thus a derivative
claim, the primary victim of the fraudulent
conveyance being Madison. It was Madison's assets
that were conveyed away; Denver suffered only in
its capacity as a potential claimant to those
assets, assuming Madison was liable for
Interpace's torts as Interpace's successor--
though whether Madison would actually have been
liable for the torts of its predecessor,
Interpace, has not been determined; successor
liability is a confused area of the law.
Upholsterers' Int'l Union Pension Fund v.
Artistic Furniture of Pontiac, 920 F.2d 1323,
1325 (7th Cir. 1990), quoting EEOC v. Vucitech,
842 F.2d 936, 944 (7th Cir. 1988).
The right to bring a derivative claim, of which
the most common type is the shareholder
derivative suit, depends on showing that the
primary claimant has unjustifiably failed to
pursue the claim. E.g., Kamen v. Kemper Financial
Services, Inc., 500 U.S. 90, 95-96 (1991); Ross
v. Bernhard, 396 U.S. 531, 534 (1970); Stepak v.
Addison, 20 F.3d 398, 402 (11th Cir. 1994);
Spiegel v. Buntrock, 571 A.2d 767, 777-78 (Del.
1990). But that is this case. The trustee did
press the primary claim to settlement, but he did
so under the mistaken impression that the
settlement would give all deserving creditors 70
cents on the dollar. Had he realized that Denver
could not rightly be penalized for having failed
to file by the bar date--he was not likely to
realize this, of course, since he was responsible
for the defective notice--he would no doubt have
pressed Zell and the other defendants to make
provision in the settlement for Denver. He did
not do so, and therefore was not an adequate
representative of Denver's legitimate interests,
Denver being as entitled as any of the other pipe
claimants to a share of any settlement.
If a trustee unjustifiably refuses a demand to
bring an action to enforce a colorable claim of a
creditor, the creditor may obtain the permission
of the bankruptcy court to bring the action in
place of, and in the name of, the trustee. In re
Perkins, 902 F.2d 1254, 1258 (7th Cir. 1990); In
re Gibson Group, Inc., 66 F.3d 1436, 1445-46 (6th
Cir. 1995); Louisiana World Exposition v. Federal
Ins. Co., 858 F.2d 233, 247 (5th Cir. 1988); In
re STN Enterprises, 779 F.2d 901, 904 (2d Cir.
1985); In re Automated Business Systems, Inc.,
642 F.2d 200, 201 (6th Cir. 1981). In such a
suit, the creditor corresponds to the
shareholder, and the trustee to management, in a
shareholder derivative action. Cf. Parnes v.
Bally Entertainment Corp., 722 A.2d 1243, 1245
(Del. 1999); Kramer v. Western Pacific
Industries, Inc., 546 A.2d 348, 351 (Del. 1988).
It makes no difference that the trustee probably
owned Denver's derivative claim as well as the
direct claim (Madison's claim as the immediate
victim of the looting of its assets by the
adversary defendants). Murray v. Miner, 876 F.
Supp. 512, 516-17 (S.D.N.Y. 1995), aff'd, 74 F.3d
402 (2d Cir. 1996), points out that Delaware
permits a subsidiary to sue its parent (the
subsidiary's controlling shareholder) on the
complaint of the subsidiary's minority
shareholder that the parent is looting the
subsidiary, and Madison corresponds to that
subsidiary and Denver to the shareholder. Madison
is a Delaware corporation, and under standard
choice of law rules that we may assume applicable
here despite persisting uncertainty as to whether
state or federal law supplies the choice of law
rules in a bankruptcy case, see In re Morris, 30
F.3d 1578, 1581-82 (7th Cir. 1994); In re
Stoecker, 5 F.3d 1022, 1028-29 (7th Cir. 1993),
the law of the state of incorporation determines
who can bring a derivative suit, Stromberg Metal
Works, Inc. v. Press Mechanical, Inc., 77 F.3d
928, 933 (7th Cir. 1996); Restatement (Second) of
Conflict of Laws sec. 307 (1971), and so implies
that the trustee owns Denver's claim after all.
No matter. The trustee "owns" the claims of the
unsecured creditors only in the sense that he
controls their prosecution. He is not the
beneficial owner, but rather is the fiduciary of
the creditors, including Denver. CFTC v.
Weintraub, 471 U.S. 343, 354-55 (1985); In re
Salzer, 52 F.3d 708, 712 (7th Cir. 1995); In re
Martin, 91 F.3d 389, 394 (3d Cir. 1996). One of
his fiduciary duties is to honor the relative
priorities of the unsecured creditors. Protective
Committee for Independent Stockholders of TMT
Trailer Ferry, Inc. v. Anderson, 390 U.S. 414,
441 (1968); In re American Reserve Corp., 841
F.2d 159, 162 (7th Cir. 1987); In re Cajun
Electric Power Co-op., Inc., 119 F.3d 349, 355
(5th Cir. 1997). If he fails to do so, the
creditor can proceed in his place and in his
name. Not having received the notice to which it
was entitled, Denver had the right to file a late
claim and participate in the estate equally with
the other unsecured creditors. 11 U.S.C. sec.
726(a)(2). Approving a settlement that
subordinated Denver's claim was therefore an
abuse of the district court's discretion and so
cannot stand. E.g., Depoister v. Mary M. Holloway
Foundation, 36 F.3d 582, 586-87 (7th Cir. 1994);
Jeffrey v. Desmond, 70 F.3d 183, 185 (1st Cir.
1995). Nor can the injunction, which is premised
on the settlement.
What next? This bankruptcy proceeding is almost
a decade old, and we hope that on remand it can
be moved to an early conclusion. If the adversary
defendants are willing to sweeten the pot to the
extent necessary to induce Denver to drop its
claims (including its state-court suit), and to
take their chances with regard to any other
nonparty pipe claimants who may crop up later and
want to sue them, the case can still be resolved
by settlement--and the state-court suit enjoined.
The vice of the present injunction is not that it
was entered against a nonparty but that it was
premised on an invalid settlement. Denver became
a party to the bankruptcy proceeding when it
filed its proof of claim in 1998, and though we
cannot find a case on point, we think it a
sensible extension of cases like Zerand-Bernal
Group, Inc. v. Cox, supra, that as a party to the
bankruptcy proceeding Denver could be enjoined
from prosecuting in any other forum the claim
that it had filed in that proceeding. It was
stymied from prosecuting its claim in the
bankruptcy proceeding by the settlement that must
now be vacated. With the settlement out of the
way, it is free to proceed by demanding that the
trustee prosecute its claim. If he unreasonably
refuses, Denver can prosecute the claim itself,
in conformity with the procedure set forth in In
re Perkins, supra. If the trustee agrees to
prosecute the claim and negotiates a new
settlement that makes provision for Denver, then
Denver can if dissatisfied ask the district court
to reject the new settlement in the exercise of
the court's discretion to reject an unreasonable
settlement. E.g., Depoister v. Mary M. Holloway
Foundation, supra, 36 F.3d at 585-86; Jeremiah v.
Richardson, 148 F.3d 17, 23 (1st Cir. 1998).
Reversed.