Frank et al v. Beyries

Filing 14

ORDER AFFIRMING JUDGMENT OF BANKRUPTCY COURT. Signed by Judge Jeffrey S. White on 9/18/12. (jjoS, COURT STAFF) (Filed on 9/18/2012)

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IN THE UNITED STATES DISTRICT COURT

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FOR THE NORTHERN DISTRICT OF CALIFORNIA
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NORTHBAY WELLNESS GROUP, INC., and
DONA RUTH FRANK,

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No. C 11-06255 JSW

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v.
For the Northern District of California

United States District Court

Appellants and Plaintiffs,
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ORDER AFFIRMING JUDGMENT
OF BANKRUPTCY COURT

MICHAEL KENNETH BEYRIES,
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Appellee and Defendant.
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/
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Now before the Court is the appeal filed by appellants Northbay Wellness Group., Inc.

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(“Northbay”) and Dona Ruth Frank (“Frank”) (collectively “Appellants”), of the judgment of the

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bankruptcy court dated November 28, 2011 dismissing appellants’ adversary proceeding against

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Michael Kenneth Beyries (“Beyries” or “Appellee”). Pursuant to Civil Local Rule 16-4 and

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Bankruptcy Local Rule 8010-1(b), the Court deems this case submitted on the papers without

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oral argument. Having carefully reviewed the administrative record and considered the parties’

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papers and the relevant authority, and good cause appearing, the Court hereby AFFIRMS the

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bankruptcy court’s judgment.
BACKGROUND

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The relevant facts are undisputed. Appellant Northbay is a corporation that, under CEO

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and Director Frank’s leadership, operated as a medical marijuana dispensary in 2005 and 2006.

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(In Re Beyries, 10-13482, 2011 WL 5975445, Memorandum After Trial at 1 (Bankr. N.D. Cal.

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Nov. 29, 2011) (“Memo”).)

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During that time, the company generated several million dollars in sales. (Id.) Appellee Beyries

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served as Northbay’s attorney, resigning in June of 2006. (See id.; Appellants’ Opening Brief

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(“Br.”) at 4.) In February 2008, Appellants filed a claim against Beyries in California Superior

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Court. (Br. at 5.) After trial, and the jury returned a detailed verdict with special findings.

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(Memo at 1.) Among other things, the jury found that Beyries was liable for breach of contract

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and conversion. (Br. at 6.)

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Beyries filed for Chapter 7 bankruptcy on September 10, 2010. (Id. at 7.) Appellants

nondischargeability as to the state court award pursuant to 11 U.S.C. § 523(a). (See id.;

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Appellee’s Reply Brief (“Reply Br.”) at 3.) The bankruptcy court found, in part, that the

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For the Northern District of California

filed an adversarial proceeding on December 13, 2010, seeking a judgment of

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United States District Court

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$25,000 portion of the state court judgment that was awarded specifically for Appellants’

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conversion claim was dischargeable under the doctrine of unclean hands. (See Memo at 2-3;

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Reply Br. at 5.) As to the remainder of Appellants’ § 523(a) claim, the bankruptcy court found

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that there was insufficient proof for a judgment of nondischargeability. (Memo at 2.) Appellants

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now appeal the bankruptcy court’s judgment.

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ANALYSIS
A.

Standard of Review of Bankruptcy Court’s Judgment.
District courts have jurisdiction to hear appeals from final judgments, orders, and decrees

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of the bankruptcy court. 28 U.S.C. § 158. On appeal, a district court must review a bankruptcy

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court’s findings of fact under the clearly erroneous standard and its conclusions of law de novo.

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Fed. R. Bankr. P. 8013; see also Sigma Micro Corp. v. Healthcentral.com, 504 F.3d 775, 783

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(9th Cir. 2007). The test for clear error is not whether the appellate court would make the same

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findings, but whether the reviewing court, based on all of the evidence, has a definite and firm

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conviction that a mistake has been made. Anderson v. City of Bessemer City, 470 U.S. 564, 573

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(1985). A reviewing court may not overturn a decision, even if it would have weighed the

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evidence in a different manner, so long as the trial court’s view of the evidence is plausible in

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light of the entire record. Id. at 573-74. When applying the clearly erroneous standard, the

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appellate court views the evidence in the light most favorable to the party who prevailed below.

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Lozier v. Auto Owners Ins. Co., 951 F.2d 251, 253 (9th Cir. 1991).

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The availability of issue preclusion is reviewed de novo. Robi v. Five Platters, Inc., 838

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F.2d 318, 321 (9th Cir. 1988). Assuming issue preclusion is available, the decision whether to

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apply it is reviewed for abuse of discretion. Dias v. Elique, 436 F.3d 1125, 1128-29 (9th Cir.

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2006). A bankruptcy court’s evidentiary rulings are reviewed for abuse of discretion. In re

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Renovizor’s, Inc., 282 F.3d 1233, 1237 n.1 (9th Cir. 2002).

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B. The Bankruptcy Court Did Not Err in its Application of the Unclean Hands Doctrine.

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Appellants contend that the bankruptcy court was collaterally estopped from applying the
doctrine of unclean hands to the conversion judgment of $25,000. (See Br. at 18-19.) The

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For the Northern District of California

United States District Court

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bankruptcy court properly applied the doctrine of unclean hands to find that the $25,000

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conversion award was dischargeable. However, Appellants have failed to meet their burden to

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show that collateral estoppel applied.

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Appellants failed to meet their burden to show collateral estoppel applied to
the unclean hands defense.

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“The preclusive effect of a state court judgment in a subsequent federal lawsuit generally
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is determined by the full faith and credit statute ... [which] directs a federal court to refer to the
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preclusion law of the State in which the judgment was rendered.” Marrese v. American
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Academy of Orthopaedic Surgeons, 470 U.S. 373, 380 (1985). Thus, the bankruptcy court below
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was bound by California preclusion law in determining whether collateral estoppel barred
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litigation of the unclean hands issue as to Appellants’ nondischargeability claim.
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California issue preclusion law requires: (1) the issue sought to be precluded must be
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identical to that previously decided; (2) the issue must have been actually litigated in the prior
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proceeding; (3) the issue must have been necessarily decided in the prior proceeding; (4) the
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prior decision must be final and on the merits; and, (5) the party against whom preclusion is
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sought must be the same as or in privity with the party to the former proceeding. Lucido v.
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Superior Court, 51 Cal. 3d 335, 341 (1990). The party asserting issue preclusion bears the
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burden of establishing its requirements. Id. In deciding whether these criteria have been met,
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courts must look at the entire record from the prior proceeding, including the pleadings, the jury
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instructions, and special jury findings or verdicts. Hernandez v. City of Pomona, 46 Cal. 4th

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501, 514 (2009).

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Here, the burden was on Appellants to demonstrate to the bankruptcy court that the

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doctrine of collateral estoppel should apply. Thus, among other things, Appellants would have

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had to meet their burden to show that the unclean hands issue, as to the $25,000 conversion

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award, was “actually litigated” in state court. As such, Appellants had the burden to show that

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the issue was properly raised, submitted for determination, and was actually determined in the

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state court proceeding. See People v. Sims, 32 Cal. 3d 468, 484 (1982). Appellants have failed

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to meet their burden as to this threshold collateral estoppel requirement.
Appellants refer to only two relevant excerpts from the state court record to show that the

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For the Northern District of California

United States District Court

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unclean hands issue had already been litigated. Specifically, they cite to Beyries’ answer to

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Appellants’ state court complaint, as well as to Beyries’ proposed jury instructions in the state

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case. (See Appellants’ Excerpts of Record (“E.R.”) E-154; E-86.) While Appellants also offer

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the special jury verdict, there is no mention of the unclean hands issue and it is accordingly

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irrelevant. (See Appellees’ E.R. Ex. C.)

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In state court, Beyries’ answer pleaded, as one of several affirmative defenses, the

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defense of unclean hands. (See Appellants’ E.R. E-154.) However, Beyries only pleaded the

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defense generally, “to the extent that [it] applies,” and did not argue that it applied to the

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conversion claim. Id. Regardless, any confusion is cured by Beyries’ proposed state court jury

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instructions, which only pleaded unclean hands as to the breach of contract claim. (See

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Appellants’ E.R. E-86.) Further, Appellants have provided no evidence to show that this

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instruction was actually read to the jury, and Appellants have failed to provide the actual, final

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jury instructions, either to the bankruptcy court or before this Court.

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The bankruptcy court only applied the doctrine of unclean hands to the state court

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conversion award. The Court finds that the bankruptcy court did not abuse its discretion by

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applying unclean hands as to that portion of the judgment as appellants did not meet their burden

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to show that the issue was actually litigated in the prior state court proceeding.

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The doctrine of unclean hands precludes Appellants from recovery of the
$25,000 conversion judgment.

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Appellants’ state court conversion claim arose from several cash payments made by
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Frank to Beyries during the time that Beyries was serving as Northbay’s attorney.
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(Appellee’s E.R. Ex. C at 11.) The funds totaled $25,000 and were intended to serve as a legal
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defense fund in case anyone connected to NBW, such as employees or patrons, was arrested
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and/or prosecuted for selling, acquiring, or possessing marijuana. (See id.; Appellee’s E.R. 1, 10
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at 122-25; Memo at 2.)
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The bankruptcy court found that, if it were not for the unclean hands of the Appellants,
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the $25,000 legal defense fund that the state court jury awarded to Appellants under a conversion
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However, that court held that “the court cannot enter a judgment for [Appellants] because they
For the Northern District of California

United States District Court

theory would be nondischargeable under § 523(a)(4) of the Bankruptcy Code. (Memo at 2-3.)
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were engaged in unlawful activity.” (Id. at 3.) The court noted, “[w]hile the sale of marijuana
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may be legal under state law, it is a serious federal crime which cannot be legalized by a state.”
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(Id., citing Gonzales v. Raich, 545 U.S. 1, 29 (2005).)
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In accordance with well-settled United States Supreme Court law, the bankruptcy court
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held that a “federal court should not lend its judicial power to a plaintiff who seeks to invoke that
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power for the purpose of consummating a transaction in clear violation of law.” (Id., citing
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Johnson v. Yellow Cab Co., 321 U.S. 383, 387 (1943).) That principle forms the basis for the
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unclean hands doctrine, which “closes the doors of a court to one who is tainted relative to the
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matter in which he seeks relief, however improper may have been the behavior of the
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defendant.” (Id., citing E.E.O.C. v. Recruit U.S.A., Inc., 939 F.2d 746, 752 (9th Cir. 1991).)
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In the context of a § 523(a) claim, the bankruptcy court held that a “plaintiff with unclean
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hands is not entitled to a judgment of nondischargeability from a bankruptcy court.” (Id., citing
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In re Umiwama, 274 F.3d 806, 810 (4th Cir. 2001).) This is because a bankruptcy court is a
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court of equity, and the unclean hands doctrine stands for the principle that a guilty plaintiff does
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not deserve the benefits of equitable balancing. See Kendall-Jackson Winery, Ltd. v. Superior
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Court, 76 Cal. App. 4th 970, 978 (1999.) “The doctrine demands that a plaintiff act fairly in the
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matter for which he seeks a remedy. He must come into court with clean hands, and keep them

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clean, or he will be denied relief, regardless of the merits of his claim.” Id.

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The bankruptcy court found that, because the $25,000 ‘legal defense fund’ was “the

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actual proceeds of illegal drug sales,” the Appellants’ hands were unclean under federal law.

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(Memo at 3.) While the sale of marijuana may be legal under certain circumstances in

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California, it is unquestionably illegal under federal law. Appellants’ hands were unclean, as a

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matter of federal law. As such, the bankruptcy court did not err in holding that Appellants could

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not recover their federally illegal profits under the federal Bankruptcy Code.

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C.

Appellants argue that the Rooker-Feldman doctrine prohibited the bankruptcy court here

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For the Northern District of California

United States District Court

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The Rooker-Feldman Doctrine Does Not Apply.

from dismissing the adversarial proceeding. (See Br. at 10.) The United States Supreme Court

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has recently clarified that the Rooker-Feldman doctrine only applies where “state-court losers . .

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. [invite] district court review and rejection of [the state court’s] judgments.” Skinner v. Switzer,

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131 S. Ct. 1289, 1297 (2011). Here, it was the state court victors who brought suit, so the

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doctrine does not apply. The doctrine is further inapposite here because the bankruptcy court is

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not a district court and it was not asked to review the state court judgment, but rather to rule on

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an entirely new claim brought under the federal Bankruptcy Code.

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D.

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The Sixth Amendment Right to Counsel Does Not Apply.
Appellants argue that the bankruptcy court erred by failing to “weigh [Beyries’] status as

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the credtor [sic] attorney in ablance [sic] of the sixth aemendment [sic] right to representaion

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[sic] as an equitable factor.” (Br. at 21.) Appellants err in their contention because the sixth

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amendment, by its own text, only applies in criminal cases. U.S. Const. amend. VI.

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E.

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The Bankruptcy Court Did Not Err in its Evidentiary Findings.
Appellants’ final argument is that the bankruptcy court erred by excluding “evidence

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relating to...the dishonestly [sic] or fraud by the debtor,” on the grounds that any such evidence

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is irrelevant. (Br. at 9.) This contention lacks merit because, as the bankruptcy court noted, a

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plaintiff’s unclean hands “close[] the doors of a court to one who is tainted relative to the matter

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in which he seeks relief, however improper may have been the behavior of the defendant.”
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(Memo at 3, citing Recruit, 939 F.2d at 752.) Because the bankruptcy court found that

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Appellants here have unclean hands, any evidence relating to Beyries’ own misconduct is

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irrelevant as a matter of law.

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CONCLUSION

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For the reasons stated above, the judgment of the bankruptcy court is hereby

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AFFIRMED.

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IT IS SO ORDERED.

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Dated: September 18, 2012
JEFFREY S. WHITE
UNITED STATES DISTRICT JUDGE

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For the Northern District of California

United States District Court

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