FOR THE NORTHERN DISTRICT OF CALIFORNIA
FOODSOURCE SALES CORPORATION, No. 1-84-00703
J. TAYLOR HALEY, Trustee,
v. A.P. No. 1-89-0011
FORD C. ABBOTT, et al.,
Memorandum of Decision
Debtors FoodSource, Inc., and FoodSource Sales Corporation (collectively referred to
hereafter as "FoodSource") were formed to develop and market a patented refrigerated shipping
container. While these purposes were straightforward, the debtors' method of marketing the
containers was unorthodox and spawned a great deal of litigation, including this adversary
proceeding between the Chapter 11 Trustee and hundreds of investors who agreed to purchase
The fair market value of each container, as determined in subsequent tax court proceedings,
was about $56,000.00. FoodSource raised capital by selling the containers, or fractional interests
in them, to private investors for $260,000.00 per container. The containers were attractive
investments despite the high price tag because most of the purchase price was in the form of a
nonrecourse note secured by the container. The contract between FoodSource and the investor
provided that FoodSource would manage the container and apply the income it earned to the note
The great lure of the FoodSource investment was the potential tax benefits; investors believed
that for a modest down payment they could obtain a quarter of a million dollars' worth of
depreciable asset. They were not worried about liability on the note, as it was nonrecourse.
Investors flocked to FoodSource, and hundreds or thousands purchased interests in containers.
Subsequent to the original sales, the Internal Revenue Service commenced proceedings in tax
court to disallow the deductions based on the contract amount of the container purchase. Many
investors agreed to recourse notes, in the hope that this would save their deductions, but the tax
court disallowed the deductions anyway. Noonan v. Commissioner of Internal Revenue
The creation of recourse notes and the disallowance of the tax benefits are at the heart of this
The Trustee has commenced this adversary proceeding against a subset of about 1000 investors
known as the "Option B Budd Group." An understanding of the previous federal district court
litigation which gave rise to this group is necessary to fully understanding this adversary
The Budd Company was the actual manufacturer of the containers. In March, 1982, it gave
FoodSource notice that it intended to dispose of 682 containers which it had manufactured for
FoodSource because FoodSource had not paid for them. FoodSource filed suit against Budd to
stop the disposal, alleging that the containers had already been sold to investors with Budd's
knowledge and permission. Budd filed a counterclaim against the investors, as a class, alleging
that its interest was superior to theirs. FoodSource then filed a cross-claim against the investors,
seeking declaratory relief as to its obligations and rights with respect to the investors.
The convoluted Budd litigation was certified as a class action and settled. Investors were given
the opportunity to either opt in or opt out of the settlement. Those who opted in were allowed
to choose between two treatments, Option A and Option B. Those investors who chose Option
A had their notes rescinded, and are therefore not involved in this adversary proceeding. The
Option B investors, however, agreed to remain obligated to FoodSource on their notes and to
release FoodSource from all present and future claims arising out of or in connection with their
purchase of a container. The defendants in this adversary proceeding are those Option B
The Trustee takes the position that by virtue of the terms of the settlement the members of the
Option B Budd Group are still liable on their notes notwithstanding their failure to obtain the tax
benefits and notwithstanding any other defenses they might have had prior to the settlement. The
defendants have raised two levels of defenses. First, they argue that they were fraudulently
induced to select Option B, and the waivers they agreed to as a result of the Budd settlement are
therefore not binding. Second, they argue that even under the settlement FoodSource had
obligations which were not met, excusing them from their obligations under the notes.
Now before the Court is the first round of motions and countermotions in what promises to
be protracted and complex litigation. The defendants seek dismissal or abstention based on
misjoinder, complexity, and failure of the trustee to assume the executory contract which
defendants assert exists between FoodSource and themselves.
II. Executory Contract Defense
The sole substantive ground for dismissal of the complaint is that the Trustee cannot maintain
the action until she has first assumed the "executory contracts" between FoodSource and the
investors pursuant to section 365 of the Bankruptcy Code. Relying on In re Cochise College Park,
(9th Cir.1983) 703 F.2d 1339, defendants argue that until the contract is assumed the right
to payment under the notes is not an asset of the estate.
On a conceptual basis, the Court admits to difficulty following the argument. Where it is
conceded that a contract is executory, it seems appropriate to require that the estate assume its
burdens before it is entitled to its benefits. However, section 365 seems wholly inapplicable when
the estate disputes that the contract is executory and seeks damages from the other side for breach.
Where both parties have repudiated any obligations under a contract and seek only damages from
each other, there is no longer an executory contract to assume. In re Best Film & Video Corp.
(Bkrtcy.E.D.N.Y.1985) 46 B.R. 861, 869-70.
The purpose of section 365 of the Bankruptcy Code is to give the debtor's estate the option
of either performing under a pending contract, thereby reaping the benefits for creditors, or else
rejecting the contract, thereby reducing the other party to the status of a general unsecured
creditor. The idea of section 365 as an affirmative defense to a breach of contract action is foreign
to the Court and surely not the intent of its drafters, who were concerned with performance, not
Where both parties to a contract have denied or repudiated their contractual obligations, there
is no point in discussing performance; the only issues to be decided are what breaches are excused
and what breaches give rise to damages. Section 365 has no discernible role in such a dispute,
which should be resolved solely on state law. Indeed, defendants themselves have urged
abstention by arguing that only state law is involved.
By arguing for dismissal based on section 365, defendants are in essence attempting to
bootstrap a factual dispute into a procedural bar. They argue, and the Trustee disputes, that
FoodSource had remaining contractual obligations and its failure to perform excuses defendants
from liability on their notes. This is an ultimate fact to be decided; the Trustee cannot be forced
to admit it before proceeding to litigate. The extent of contractual promises is a matter to be
determined at trial. In re Cochise College Park
, supra, at 1349 n.5.
Nor are defendants entitled to any sort of procedural or substantive advantage, such as
elevation of any claims to priority status, by forcing the Trustee to assume something before the
nature of the estate's obligations, if any, have been determined. In determining if a contract should
be assumed or rejected, the only consideration is what is best for the debtor's estate. In re
(9th Cir.BAP 1982) 23 B.R. 798, 810-02; Wheeling-Pittsburgh Steel Corp.
(Bkrtcy.W.D.Pa.1987) 72 B.R. 845, 848. The only right given to the nondebtor party is the right,
pursuant to section 365(d)(2), to have the court fix a time for acceptance or rejection. In order
to protect the estate, the Court will not require the Trustee to make the election until the Trustee
knows with certainty what the consequences of assumption and rejection are. Thus, to the extent
section 365 applies at all it should not be discussed until after this litigation is concluded. Failure
to assume or reject is not a bar to the litigation.
Cochise College Park
arose under a litigation context entirely different from this adversary
proceeding, and much of the decision is dicta of limited general application. Moreover, that case
was decided under the Bankruptcy Act of 1898, which had a more limited definition of property
of the estate than section 541 of the Bankruptcy Code. Section 541(a)(1) of the Code includes
in the estate all legal or equitable interests of the debtor in property as of the commencement of
the case. Since the debtor had a right to sue on the notes before bankruptcy, that right now
belongs to the trustee in bankruptcy. See 4 Collier on Bankruptcy (15th Ed.), section 541.10.
Despite raising section 365 of the Bankruptcy Code as a bar to the action, defendants urge the
court to abstain from hearing this case because it involves only state law. Having dismissed the
section 365 argument as inappropriate to this case, the Court agrees that only state law is
involved. However, the relevant factors argue compellingly in favor of the court exercising its
First, many of the defendants have filed proofs of claim against the estates based on the same
transaction which gave rise to their notes. As to these defendants at least, this is a core
matter to be decided by this court pursuant to 28 U.S.C. section 157(b)(2)(C). In re Sun West
(Bkrtcy.S.D.Cal. 1987) 69 B.R. 861, 864-65. 28 U.S.C. section 157(b)(3)
specifically provides that a matter is not rendered noncore merely because state law is involved.
Secondly, the sheer number of defendants compels an assumption of jurisdiction, regardless
of whether this is a core proceeding. The federal courts are much more adept at speedy, efficient
and economical resolution of complex multiparty litigation than most state courts. Moreover, the
bankruptcy estate saves at least $50,000.00 in process servers' fees alone by taking advantage of
the service of process by mail which is available in this court but not state court. These are
important considerations to a court concerned with the practicalities and economies of litigation.
Fundamentally, the most compelling factor in favor of exercising jurisdiction is that this
litigation goes to the very heart of the debtor's affairs, finances, and efforts to reorganize.
Congress gave the federal courts jurisdiction to hear such matters, even though they involve state
law, so that reorganization would not be thwarted by crowded state court calendars and the low
priority given to civil disputes in state legal systems.
The Court finds no merit whatsoever in the argument that defendants are misjoined. They are
all members of a court-certified class, and their liability, if any, stems from the same Option B
election. The class settlement is clearly the "same transaction" for purposes of FRCP 20. Even
if there had been no class settlement, the fact that all defendants entered into the same sort of
investment with FoodSource means that any right to relief arises out of the same series of
transactions or occurrences.
As a practical matter, the common issues of law and fact heavily predominate over any
defendant-specific issues, making joinder a necessity in order to avoid multiple and conflicting
rulings. This does not mean that any individual defendant will be denied an opportunity to present
his or her individual defenses; where appropriate, the Court will sever and try separately any
issues which require such individual attention.
Fundamentally, the Federal Rules of Civil Procedure are intended to facilitate civil litigation,
not thwart it or compound it. Individual actions against each defendant would only cost the estate
over $100,000.00 in filing fees and create a nightmare for the clerk's office. Where no substantive
rights are being affected, FRCP 20 should be interpreted liberally to avoid such unnecessary
troubles and expense. League to Save Lake Tahoe v. Tahoe Reg. Plan. Agcy.
(9th Cir.1977) 558
F.2d 914, 917.
The Court finds that the defendants are properly joined, that mandatory abstention is not
required and discretionary abstention is not appropriate, and that the Trustee is not barred from
bringing this action because she has not yet assumed an executory contract which she denies even
exists. The motion to dismiss will therefore be denied. A separate order will be entered.
Dated: July 15, 1989 _______________________