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In re Visual Industries

filed: June 9, 1995.

IN RE: VISUAL INDUSTRIES, INC., A DELAWARE CORPORATION, STACOR CORPORATION, A NEW JERSEY CORPORATION, DEBTORS; PRECISION STEEL SHEARING, INC., APPELLANT
v.
FREMONT FINANCIAL CORPORATION, APPELLEE



On Appeal from the United States District Court for the District of New Jersey. (D.C. Civil No. 94-03414).

Before: Cowen, Lewis and Garth, Circuit Judges.

Author: Garth

Opinion OF THE COURT

GARTH, Circuit Judge :

The Bankruptcy Code in § 506(c) provides that a secured creditor may be charged for expenses incurred by another in preserving or disposing of the secured property. 11 U.S.C. § 506(c). The question that is presented on this appeal and which we must answer is: "Does 11 U.S.C. § 506(c) authorize payment to trade creditors who furnish raw materials to a Chapter 11 debtor thereby maintaining the debtor's operation, where the materials supplied did not directly benefit the secured creditor's property?" Our answer to that question is "no" - § 506(c) does not extend to such a circumstance.

I.

Visual Industries Inc. and Stacor Corporation (collectively, "Visual") were manufacturers of office furniture. In the course of its operation, Visual purchased cut steel from plaintiff-appellant Precision Steel Shearing, Inc.

On August 14, 1992, (the "petition date"), Visual filed a voluntary petition with the bankruptcy court in the District of New Jersey pursuant to Chapter 11 of the Bankruptcy Code.*fn1

Defendant-appellee Fremont Financial Corporation was Visual's primary pre-petition secured creditor and held extensive security interests in Visual's assets, including liens on, inter alia, inventory, raw materials, machinery, equipment, furniture, fixtures, instruments, chattel paper, general intangibles, other personalty, and the products and proceeds of all of the foregoing. App. 241. As of the petition date, Visual was indebted to Fremont in the amount of $1,946,605.90 plus costs, expenses and attorneys' fees.

In addition to Fremont's pre-petition security interest, on August 31, 1992, the bankruptcy court entered an "Amended Consent Order Authorizing the Temporary Use of Cash Collateral and Approving Post-Petition Financing" (the "Financing Order") granting Fremont "cash collateral" in, and liens on, essentially all of Visual's personalty and proceeds.*fn2 The Order also permitted Visual to make continued use of Fremont's pre-petition cash collateral and provided for additional post-petition financing of Visual's operations by Fremont. App. 247.*fn3

Fremont's post-petition financing enabled Visual to continue in operation for almost a year, during which time it produced sufficient revenues to reduce its obligations to Fremont by roughly $900,000 to $1,004,740.

During this time Precision continued to supply cut steel to Visual. Precision and Visual arranged a payment system whereby Precision would ship the steel to Visual upon receipt of a telefax copy of a check to be sent by overnight mail. The checks were post-dated and made payable forty-five to sixty days after the shipment had been made. No order of the bankruptcy court either authorized or directed such an arrangement.

Visual's checks began to be returned for insufficient funds in June of 1993, and shortly thereafter Visual ceased business, owing Precision $94,414.90 for post-petition steel deliveries. On September 7, 1993, Visual's Chapter 11 reorganization was converted into a Chapter 7 liquidation proceeding.

On May 10, 1994, Precision filed a motion with the bankruptcy court pursuant to § 506(c) of the Code seeking to compel payment of unpaid post-petition cut steel invoices by surcharging Fremont's collateral. The bankruptcy court denied Precision's motion on June 20, 1994, on the ground that under § 506(c) Precision's furnishing of cut steel to Visual did not directly benefit the property securing Fremont's loan to Visual.

Precision appealed to the United States District Court for the District of New Jersey, which affirmed the decision of the bankruptcy court on September 26, 1994. The District Court recognized that a direct or express benefit to the secured creditor had to be shown, and agreed with the bankruptcy court that the sales of raw material to Visual did not operate to directly preserve or dispose of Fremont's collateral. Hence, the District Court affirmed ...


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