California Bankruptcy Court Examines Chapter 15 Discovery Rules
In In re Golden Sphinx Ltd., 2023 WL 2823391 (Bankr. C.D. Cal. Mar. 31, 2023), the U.S. Bankruptcy Court for the Central District of California denied a motion filed by a creditor of a chapter 15 debtor seeking discovery from a bank that had provided financing to one of the debtor's affiliates. The bankruptcy court concluded that: (i) litigation and discovery regarding a debtor's assets is best pursued in the foreign bankruptcy proceeding, rather than an ancillary case under chapter 15, because the "whole point of Chapter 15 is to avoid a multiplicity of international proceedings and instead focus most litigation in the foreign main proceeding"; and (ii) the discovery request was an overbroad and inappropriate "fishing expedition" under Rule 2004 of the Federal Rules of Bankruptcy Procedure (the "Bankruptcy Rules") and represented an effort to give the creditor an unfair advantage in non-bankruptcy litigation. However, in so ruling, the court held that Bankruptcy Rule 2004 applies in chapter 15 cases (as well as cases under other chapters of the Bankruptcy Code) and that, under appropriate circumstances, a party other than the debtor's foreign representative may obtain discovery in a chapter 15 case under Bankruptcy Rule 2004.
Discovery in Bankruptcy Cases
Bankruptcy Rule 2004 provides a broad-ranging discovery mechanism in bankruptcy cases. It states that "[o]n motion of any party in interest, the court may order the examination of any entity." Such an examination "may relate only to the acts, conduct, or property or to the liabilities and financial condition of the debtor, or to any matter which may affect the administration of the debtor's estate, or to the debtor's right to a discharge." In addition, in a non-railroad "reorganization case under chapter 11" (among other cases), the examination "may also relate to the operation of any business and the desirability of its continuance, the source of any money or property acquired or to be acquired by the debtor for purposes of consummating a plan and the consideration given or offered therefor, and any other matter relevant to the case or to the formulation of a plan."
Discovery may also be sought in "adversary proceedings" (see Bankruptcy Rule 7001 et seq.) or "contested matters" (see Bankruptcy Rule 9014) commenced during a bankruptcy case, and in certain other contexts, such as contested involuntary bankruptcy or chapter 15 petitions. Such discovery is governed by Bankruptcy Rules 7026–7037 and 9016, which incorporate many of the discovery procedures under the Federal Rules of Civil Procedure that apply to other kinds of federal litigation. These rules include specific procedures governing disclosure, witnesses, subpoenas, depositions, interrogatories, document production, physical and mental examinations, requests for admission, and other discovery-related matters.
Discovery in Chapter 15 Cases
In a chapter 15 case, section 1521(a) of the Bankruptcy Code provides that, upon recognition by a U.S. bankruptcy court of a "foreign main" or "foreign nonmain" proceeding, the court may, "at the request of the [debtor's] foreign representative," grant any appropriate relief, including "providing for the examination of witnesses, the taking of evidence or the delivery of information concerning the debtor's assets, affairs, rights, obligations or liabilities." 11 U.S.C. § 1521(a)(4). See In re Millennium Glob. Emerging Credit Master Fund Ltd., 471 B.R. 342, 346 (Bankr. S.D.N.Y. 2012) (discovery under section 1521(a)(4) "enables a Foreign Representative to take broad discovery concerning the property and affairs of a [foreign] debtor").
Where discovery is requested, however, section 1522 provides that the court may grant such relief "only if the interests of the creditors and other interested entities, including the debtor, are sufficiently protected." See In re AJW Offshore, Ltd., 488 B.R. 551, 561 (Bankr. E.D.N.Y. 2013) (discovery under section 1521(a)(4) "will only be permitted by motion on notice with an opportunity for hearing to the adverse parties and by making examination and production of documents …, with any discovery … allowed to be subject to [the] conditions imposed in accordance with § 1522").
Discovery under section 1521(a)(4) need not "concern the preservation or recovery of property in the United States" because chapter 15 "is not an independent in rem proceeding but an ancillary proceeding designed to assist a foreign representative in administering the foreign estate." Millennium, 471 B.R. at 347; In re Fairfield Sentry Ltd. Lit., 458 B.R. 665, 679 n.5 (S.D.N.Y. 2011) (stating that section 1521(a)(4) "allows for discovery in the United States whether or not a debtor has assets here").
Chapter 15 discovery is not limited to documents located in the United States but also extends to documents in the possession, custody, or control of a party, including documents held by a party's attorneys or agents. See In re Markus, 607 B.R. 379, 389 (Bankr. S.D.N.Y. 2019), aff'd in part, vacated in part and remanded, 615 B.R. 679 (S.D.N.Y. 2020). A subpoena issued under Fed. R. Civ. P. 45, which is made applicable to all bankruptcy cases by Bankruptcy Rule 9016, requires the production of documents responsive to the subpoena, wherever the documents may be located. Sergeeva v. Tripleton Int'l Ltd., 834 F.3d 1194, 1200 (11th Cir. 2016); In re Hulley Enters., 358 F. Supp. 3d 331, 345 (S.D.N.Y. 2019); Marcus, 607 B.R. at 391.
Most of the ordinary discovery mechanisms applying to adversary proceedings or contested matters expressly apply to contested recognition petitions in chapter 15 cases (see Bankruptcy Rule 1018). In addition, outside the contested recognition petition context, many courts have concluded that broad discovery under Bankruptcy Rule 2004 is available in chapter 15 cases as a form of "additional assistance" that can be granted in the court's discretion under section 1507(a) of the Bankruptcy Code, which provides that, upon chapter 15 recognition of a main or nonmain proceeding, the bankruptcy court may provide "additional assistance" to a foreign representative "under [the Bankruptcy Code] or under other laws of the United States." See Millennium, 471 B.R. at 346–47; accord In re Platinum Partners Value Arbitrage Fund L.P., 583 B.R. 803, 810 (Bankr. S.D.N.Y. 2018) (noting that "[r]elief sought pursuant to Bankruptcy Rule 2004 may also be available pursuant to sections 1507, 1521(a)(4) or 1521(a)(7)"); In re Petroforte Brasileiro de Petroleo Ltda., 542 B.R. 899, 911 (Bankr. S.D. Fla. 2015) (concluding that the scope of chapter 15 discovery was not solely controlled by section 1521; Bankruptcy Rule 2004 is also applicable); see also In re Comair Ltd., 2021 WL 5312988, *9 and n.19 (Bankr. S.D.N.Y. Nov. 14, 2021) (citing decisions in which the courts have concluded that Bankruptcy Rule 2004 applies in chapter 15 cases, but noting that, "[s]ince the Foreign Representative can obtain the discovery he seeks pursuant to section 1521(a)(4), the discussion of the application of Rule 2004 in chapter 15 cases is academic"), appeal dismissed, 2023 WL 171892 (S.D.N.Y. Jan. 12, 2023). But see In re Sibaham Ltd., 2020 WL 2731870, *4 (Bankr. W.D.N.C. May 4, 2020) ("Discovery in a Chapter 15 foreign main proceeding falls under § 1521(a)(4) … [and] Chapter 15 discovery, like all discretionary relief under § 1521, is one-sided, as it can only be granted 'at the request of the foreign representative.'").
As the court in Millennium noted, "one of the main purposes of chapter 15 is to assist a foreign representative in the administration of the foreign estate, … which would militate in favor of granting a foreign representative broad discovery rights using the full scope of Rule 2004." Millenium, 471 B.R. at 347.
Discovery in chapter 15 cases has also been sought by foreign representatives under section 542(e) of the Bankruptcy Code, which provides that, "[s]ubject to any applicable privilege, after notice and a hearing, the court may order an attorney, accountant, or other person that holds recorded information, including books, documents, records, and papers, relating to the debtor's property or financial affairs, to turn over or disclose such recorded information to the trustee." 11 U.S.C. § 542(e); see, e.g., AJW, 488 B.R. at 564.
Discovery in connection with foreign court proceedings is also authorized by 28 U.S.C. § 1782(a), which provides in relevant part that:
The district court of the district in which a person resides or is found may order him to give his testimony or statement or to produce a document or other thing for use in a proceeding in a foreign or international tribunal, including criminal investigations conducted before formal accusation. The order may be made pursuant to a letter rogatory issued, or request made, by a foreign or international tribunal or upon the application of any interested person and may direct that the testimony or statement be given, or the document or other thing be produced, before a person appointed by the court.
Courts are uncertain as to whether chapter 15 recognition is a necessary "ticket to entry" to U.S. courts to seek discovery for use in a foreign bankruptcy court under 28 U.S.C. § 1782(a). See In re Soundview Elite, Ltd., 503 B.R. 571, 592 n.56, 594 (Bankr. S.D.N.Y. 2014) (discussing the interplay between chapter 15 and 28 U.S.C. § 1782 and noting uncertainty among the courts as to whether chapter 15 recognition is necessary to seek discovery under 28 U.S.C. § 1782).
Golden Sphinx
Golden Sphinx Limited (the "debtor") was a passive-investment holding company vehicle organized under the laws of the Bailiwick of Jersey and created for the ultimate benefit of Alexander Sabadash ("Sabadash"), a U.S. citizen and formerly an elected senator in Russia, and his family.
The debtor was owned by JTC Trust Company Limited, as trustee of a legacy trust also created for the benefit of the Sabadash family that held shares in the debtor indirectly through various affiliates of JTC plc, a global provider of fund management and other financial services.
In or around 2000, Sabadash hired Garry Itkin ("Itkin") to perform accounting services for various companies under Sabadash's ownership. Itkin was also hired to manage and oversee the finances of the debtor as a director, as well as the finances of several other Sabadash companies.
The debtor alleged that Itkin engaged in fraudulent, unauthorized, and self-dealing actions as a director. In November 2016, Itkin, who was then the debtor's sole director, responded to the allegations by suing the debtor and certain other defendants in a Jersey court. After Itkin refused to defend against the lawsuit on the debtor's behalf, the court entered a default judgment in Itkin's favor in the amount of more than £500,000.
Itkin later caused the debtor to transfer ownership to him personally of the debtor's ownership interest in a UK affiliate (the "UK affiliate") that owned a Beverly Hills, California, residence valued at approximately $45 million. The property collateralized a $5 million loan provided to the UK affiliate by East West Bank ("EWB"). As sole director, Itkin had also previously caused the debtor to assign to him personally approximately £35 million of the debtor's intercompany receivables.
In 2017, the debtor, along with several other companies controlled by Sabadash, sued Itkin in California state court seeking damages arising from Itkin's conduct in causing the debtor to fraudulently transfer its stock in the UK affiliate. Itkin asserted various counterclaims in this state court litigation, arguing, among other things, that the share transfer was authorized under a partnership agreement between Itkin and Sabadash.
In April 2021, the Jersey court refused to set aside its £500,000 judgment, finding that although the debtor had a colorable defense, it waited too long to seek vacatur of the judgment. Shortly afterward, Itkin was removed as the debtor's director, and the debtor's new board voted to void the transfer of the UK affiliate's stock.
In June 2021, in an effort to collect on the Jersey court's judgment, Itkin filed a complaint seeking to enforce it in a California federal district court. The debtor asserted counterclaims in the litigation for setoff and unjust enrichment.
In April 2022, Itkin also sued the debtor in an English court seeking a determination that the UK affiliate's stock and the intercompany receivables were lawfully transferred to him.
In July 2022, the debtor commenced a "creditors' winding up process" under the Jersey Companies Law 1991 for the purpose of liquidating its assets, which it claimed consisted of 100% of the stock in the UK affiliate as well as the £35 million in intercompany receivables.
The Jersey court-appointed liquidators, as the debtor's "foreign representatives," filed a petition on August 9, 2022, in the U.S. Bankruptcy Court for the Central District of California, seeking chapter 15 recognition of the Jersey liquidation. Overruling Itkin's objections, the bankruptcy court issued an order in September 2022 granting the petition.
Later that month, Itkin sought relief from the automatic stay imposed as a result of chapter 15 recognition of the Jersey liquidation to continue with the California state and federal court litigation. The bankruptcy court denied the motions, without prejudice to their renewal once the foreign representatives were afforded an adequate "breathing spell."
In December 2022, Itkin filed a motion under Bankruptcy Rule 2004 seeking discovery from EWB. According to Itkin, documents from EWB "may shed light on the [UK affiliate], which the Debtor claims to own, and … on the Debtor's financial condition," which could potentially uncover other assets belonging to the debtor. The foreign representatives opposed the discovery motion, claiming that Itkin was attempting to conduct a "fishing expedition" to assist his prospects in the California state and federal litigation.
The Bankruptcy Court's Ruling
The bankruptcy court denied Itkin's motion for discovery under Bankruptcy Rule 2004.
Initially, U.S. Bankruptcy Judge Neil W. Bason rejected the foreign representatives' argument that section 1521(a)(4) of the Bankruptcy Rule, as distinguished from Bankruptcy Rule 2004, is the sole vehicle for discovery in chapter 15 cases. Instead, he explained, chapter 15 discovery can also be obtained under Bankruptcy Rule 2004, which does not contain any language limiting its application to cases under other chapters of the Bankruptcy Code, but states in subsection (a) that "[o]n motion of any party in interest, the court may order the examination of any entity" concerning the matters specified in subsection (b). Judge Bason also noted that Bankruptcy Rule 1001 states that "[t]he Bankruptcy Rules and Forms govern procedure in cases under title 11 of the Unites States Code," including chapter 15. Golden Sphinx, 2023 WL 2823391, at *2.
According to Judge Bason, "the vast majority" of bankruptcy courts have either ruled or assumed that Bankruptcy Rule 2004 applies in chapter 15 cases, although those rulings have generally involved discovery sought by a foreign representative, rather than a creditor or other party in interest.
Next, Judge Bason determined that chapter 15 discovery is available to parties other than foreign representatives. He acknowledged that "discovery normally should take place in the foreign main proceeding, because Chapter 15 cases are intended to be ancillary proceedings that do not require bankruptcy courts to adjudicate claims or administer debtors' liquidations." However, Judge Bason wrote, "this Court can conceive of scenarios in which it might be appropriate for a creditor to seek discovery in this ancillary proceeding." Id. at *3. These scenarios might include: (i) if the foreign court overseeing the debtor's bankruptcy were to request that a U.S. bankruptcy court resolve a discovery dispute or enforce a discovery order; (ii) if discovery were "relevant to a pending contested matter involving the elements of the chapter 15 petition"; and (iii) if a creditor were defending against a motion or adversary proceeding brought by a foreign representative.
Judge Bason acknowledged that, in these scenarios, the discovery rules in part VII of the Bankruptcy Rules (Bankruptcy Rule 7001 et seq.) "probably would apply, rather than Rule 2004." Even so, he explained, a creditor could be authorized to pursue discovery under Bankruptcy Rule 2004 "if it would further this Court's assistance of the foreign main proceeding," such as where the creditor presented sufficient grounds to suspect the existence of fraudulent transfer claims that a foreign representative refused to prosecute. Id.
According to Judge Bason, none of these circumstances applied in the case before him. Instead, Itkin was attempting "to engage in the so-called Rule 2004 'fishing expedition,' notwithstanding that the whole point of Chapter 15 is to avoid a multiplicity of international proceedings and instead focus most litigation in the foreign main proceeding." Id. Further, Itkin's request for discovery under Bankruptcy Rule 2004 was "overbroad" and could provide an unfair advantage to Itkin in the California state and federal litigation, and as such, the bankruptcy court denied the discovery motion without prejudice to its renewal if circumstances should change.
Outlook
Even though the facts in Golden Sphinx are somewhat complicated, key takeaways from the ruling include: (i) Bankruptcy Rule 2004 applies in chapter 15 cases as a complement to the discovery rules that apply in cases under other chapters of the Bankruptcy Code; (ii) under appropriate circumstances, a party other than a foreign representative can obtain discovery in a chapter 15 case; and (iii) absent certain unique scenarios, discovery concerning the foreign debtor's assets or operations should be conducted in the foreign main proceeding, not an ancillary chapter 15 case. Regardless of the bankruptcy court's determination in Golden Sphinx that Bankruptcy Rule 2004 discovery was not warranted under the facts of the case, the court's articulation of these general principles makes the decision noteworthy.
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