The CIT Group/Commercial Services, Inc. v. Constellation Energy Commodities Group, Inc. et al

Filing 28

MEMORANDUM OPINION & ORDER: the Bankruptcy Courts judgment, R. 1 isAFFIRMED. Signed by Judge Amul R. Thapar on 1/30/14.(MJY)cc: COR

UNITED STATES DISTRICT COURT
EASTERN DISTRICT OF KENTUCKY
SOUTHERN DIVISION
PIKEVILLE
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)
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Civil No. 13-88-ART
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Appellant,
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v.
MEMORANDUM OPINION &
)
ORDER
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CONSTELLATION ENERGY
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COMMODITIES GROUP, INC., et al.,
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)
Appellees.
)
*** *** *** ***
THE CIT GROUP/COMMERCIAL
SERVICES, INC.,

This case arises from a tangled web of commercial agreements. Three sophisticated
parties executed and breached a series of written and unwritten contracts, leaving one party
bankrupt and the other two fighting over its corpse in bankruptcy. Although the contractual
background is complicated, this appeal from the bankruptcy court raises a straightforward
legal question: when a contract vests a party with a defense, may that party assert its defense
against its contractual partner’s assignee? Under New York law, the answer is a resounding
“yes.”
BACKGROUND
The Court rehearsed this case’s history in detail in its prior opinion. See The CIT
Grp./Comm. Servs., Inc. v. Constellation Energy Commodities Grp., Civil No. 12-16-ART,
2012 WL 4603049, at *1–7 (E.D. Ky. Sept. 30, 2012) (“CIT I”). For present purposes, a
brief summary will suffice. In 2006, Black Diamond, Inc., (“Black Diamond”) agreed to sell
coal to Constellation Energy Commodities Group, Inc. (“Commodities”). Id. at *1. Shortly

after executing its contract with Commodities, Black Diamond assigned its right to receive
payments for the coal to The CIT Group (“CIT”). Id. So the basic scheme was simple:
Black Diamond sold coal to Commodities, and Commodities paid CIT.
Black Diamond and Commodities carried on their relationship through both written
and unwritten contracts. See id. at *13. Their written agreements each contained a so-called
“netting” provision. See, e.g., B.R. 119-6 at 16.1 That provision allowed the parties to “net”
mutual debts to avoid redundant payments. See id. (“All amounts owed by each Party[] to
the other Party . . . shall be netted so that only the net difference between such amounts shall
be payable by the Party who owes the greater amount.”). So, if Black Diamond owed
Commodities $200,000, and Commodities owed Black Diamond $100,000, then the contract
required only a single $100,000 payment by Black Diamond. See id. (“[O]nly the net
difference between such amounts . . . shall be payable”). It is undisputed that the unwritten
agreements included an identical netting provision. See B.R. 240 at 27.
The wheels came off the wagon in early 2008. Black Diamond failed to fulfill its
obligations to both Commodities and CIT, and CIT forced Black Diamond into bankruptcy.
CIT I at *6. Black Diamond’s bankruptcy constituted a breach of its agreements with
Commodities. B.R. 119-6 at 13. That breach forced Commodities to buy coal at much less
favorable prices than those contemplated by its contracts with Black Diamond, resulting in
damages of around $90,000,000. CIT I at *6 & n.9.
This suit arises from one of the last transactions that preceded Black Diamond’s
bankruptcy. In December 2007, Commodities purchased a shipment of coal from Black

1

“B.R.” indicates a citation to the record of the Bankruptcy Court in The CIT Grp./Comm. Servs., Inc. v.
Constellation Energy Grp., No. 08-7017, 2011 WL 6202905 (Bankr. E.D. Ky. Dec. 13, 2011).

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Diamond pursuant to an unwritten contract for roughly $10,000,000.

Id. at *12–13.

Commodities never paid for the coal. The question presented here is whether Commodities
may “net” that $10,000,000 against the $90,000,000 it lost as a result of Black Diamond’s
declaration of bankruptcy. If so, then Commodities owes CIT nothing, as it can simply
subtract that $10,000,000 dollars from the $90,000,000 it is owed. If not, then Commodities
must pay CIT.
The Bankruptcy Court granted summary judgment to Commodities, and CIT
appealed. See R. 1; R. 1-2 at 18. This Court reviews the Bankruptcy Court’s award of
summary judgment de novo. In re National Century Financial Enterprises, Inc., 377 F.
App’x 531, 535 (6th Cir. 2010). Summary judgment is appropriate where no genuine issue
of material fact remains for trial, such that one party is entitled to judgment as a matter of
law. Id. (“Federal Rule of Civil Procedure 56 applies to motions for summary judgment in
adversary proceedings in bankruptcy court.”); Fed. R. Bankr. P. 7056. Id. For the reasons
explained below, the Bankruptcy Court’s judgment is affirmed.
DISCUSSION
An assignee stands in the shoes of his assignor. This is true as a matter of logical
necessity: an assignor can give away no more than he has, so he cannot improve the terms of
his contract by assigning it to a third party.2 See e.g., Septembertide Publ’g B.V., v. Stein and
Day, Inc., 884 F.2d 675, 682 (2d Cir. 1989) (“It is elementary ancient law that an assignee
never stands in any better position than his assignor. He is subject to all the equities and
burdens which attach to the property assigned because he receives no more . . . than his
assignor.”) (quoting Int’l Ribbon Mills, Ltd. v. Arjan Ribbons, Inc., 36 N.Y.2d 121, 126
2

As noted in this Court’s prior opinion, New York law governs this dispute. CIT I at *7.

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(1975)); see also Commerce Bank, N.A. v. Chrysler Realty Corp, 244 F.3d 777, 783 (10th
Cir. 2001) (explaining that “a transferee’s rights are no better than those held by his
transferor,” so an assignee’s right to receive funds is contingent on its assignor’s right to be
paid). The rule is not only ancient but also eminently sensible: if a party could nullify
contractual defenses by assigning away its contractual rights, then such defenses would be
worthless. See, e.g., Banque de Paris et des Pays-Bas v. Amoco Oil Co., 573 F. Supp. 1464,
1470 (S.D.N.Y. 1983).
Unsurprisingly, that principle is reflected in New York’s Uniform Commercial Code:
“[T]he rights of an assignee are subject to . . . all terms of the agreement between the account
debtor and the assignor . . . .” N.Y.U.C.C. § 9-404(a); see General Elec. Credit Corp. v.
Xerox Corp., 112 A.D.2d 30, 31 (N.Y. App. Div. 1985) (interpreting the predecessor
provision of the U.C.C. and holding that “the rights of an assignee are subject to any defenses
or claims arising out of the contract between the account debtor and the assignor”)
(emphasis added).

Therefore, an assignor’s original contractual partner may assert against

an assignee any contractual defenses he has against the assignor. See N.Y.U.C.C. § 9404(a)(1); Xerox Corp., 112 A.D.2d at 31; see also Restatement (Second) of Contracts § 336
cmt. b (“The assignee’s right . . . is subject to limitations imposed by the terms of [the]
contract and to defenses which would have been available had there been no assignment.”)
(emphasis added).
That legal background makes this an easy case because the parties agree that the
unwritten contract governing the December 2007 coal shipments included the netting
provision. See B.R. 240 at 27. If Black Diamond had never assigned its right to payment,
then Commodities could have netted its $10,000,000 debt against Black Diamond’s
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$90,000,000 breach. See B.R. 119-6 at 16 (“All amounts owed by each Party to the other
Party . . . shall be netted so that only the net difference between such amounts shall be
payable by the Party who owes the greater amount . . . .”). So, under the terms of the
agreement, the only amount “payable” at the time Black Diamond entered bankruptcy was
Black Diamond’s remaining $80,000,000 debt to Commodities.

That Black Diamond

assigned its right to payment under the contract changes nothing. As the authorities cited
above demonstrate, CIT’s right to payment is contingent upon the assignor’s right to be paid,
because Commodities may assert against CIT (the assignee) all contractual defenses
contained in the “terms of [its] agreement” with Black Diamond (the assignor). N.Y.U.C.C.
§ 9-404(a). Here, that means Commodities may assert $90,000,000 worth of contractual
defenses against CIT’s $10,000,000 claim.
CIT offers two arguments against this straightforward resolution of the case: (1) that
the netting provision applies only to debts owed by Black Diamond and Commodities to each
other, so that it has no effect on the rights of an assignee, R. 12 at 36–37; R. 25 at 7 n.6, and
(2) that Commodities forfeited its right to invoke the netting provision by breaching the
contract before Black Diamond did, R. 12 at 34–35. Neither argument is persuasive.
I.

Commodities’ Netting Defense Applies Regardless of CIT’s Assignment
CIT’s main argument against Commodities’ netting defense—and the only one it

deploys in its supplemental brief—is that the netting provision applies to transactions
between Black Diamond and Commodities only.

R. 12 at 36–37; R. 25 at 7 n.6 (“The

portions of § 16 that refer to ‘netting’ speak exclusively in terms of mutual debts between the
parties to the Coal Supply Agreement.”). Therefore, CIT says, Commodities was free to net
its obligations to Black Diamond, but Commodities could not net its obligations to CIT
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against Black Diamond’s debts. See id.
CIT’s argument ignores the principle described above: that an assignor cannot give
away more than he has. E.g., Septembertide, 884 F.2d at 682 (“It is elementary ancient law
that an assignee never stands in any better position than his assignor.”). Black Diamond
assigned to CIT its right to receive payments under the contract. According to the contract’s
netting provision, the only amount “payable” to Black Diamond was the net difference
between its debts to Commodities and Commodities’ debts to Black Diamond. B.R. 119-6 at
16 (“All amounts owed by each Party to the other Party . . . shall be netted so that only the
net difference between such amounts shall be payable by the Party who owes the greater
amount . . . .”) (emphasis added). The contract thus did not require Commodities to pay
debts that it was entitled to net: Black Diamond had no right to receive such payments,
because they were not “payable.” Id.
Black Diamond could not have assigned a right it never had, nor did its assignment to
CIT somehow negate the effect of the netting provision. N.Y.U.C.C. § 9-404(a) (“[T]he
rights of an assignee are subject to . . . all terms of the agreement between the account debtor
and the assignor . . . .”); see Xerox Corp., 112 A.D.2d at 31 (“[T]he rights of an assignee are
subject to any defenses or claims arising out of the contract between the account debtor and
the assignor.”) (emphasis added).

Commodities’ rights under the netting provision

determine the amount “payable” under the contract.

That is so regardless of whether

Commodities owed its payments to Black Diamond or CIT, as all CIT received from Black
Diamond was the right to receive payments due under the contract. The netting provision
thus applies regardless of Black Diamond’s assignment to CIT.

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II.

Commodities Did Not Forfeit Its Rights Under the Netting Provision
In the alternative, CIT argues that Commodities forfeited its netting rights by

breaching the agreement. R. 12 at 34–35. According to CIT, Commodities breached the
agreement by failing to pay for the December coal shipment by January 21, 2008. That
breach, CIT says, triggered Black Diamond’s right to demand immediate payment of all
Commodities’ outstanding debts—regardless of the netting provision.
The contract does contemplate such a remedy. Assuming Commodities breached the
agreement (by committing what the contract refers to as an “Event of Default”), then Black
Diamond had the right to terminate the agreements by declaring an “early termination date”
and giving written notice to Commodities. If Black Diamond elected to terminate the
agreement, then it also would have had the right to receive from Commodities all payments
due under the contract, regardless of Commodities’ netting rights. See R. 119-6 at 14
(“[N]otwithstanding any provision to the contrary contained in this Agreement [i.e., the
Netting provision], the non-Defaulting Party [Black Diamond] may withhold any payment
otherwise owed to the Defaulting Party [Commodities] hereunder, until . . . all amounts due
and payable as of the Early Termination Date by the Defaulting Party . . . have been fully
and finally paid.”) (emphasis added).
The problem for CIT is that it is undisputed that Black Diamond never exercised its
right to declare an early termination date. Commodities could only have lost its netting
rights if Black Diamond decided to terminate the contract: the entire provision upon which
CIT relies is located in the portion of the contract that describes the procedures for declaring
an early termination date.

Indeed, the sentence CIT focuses on demonstrates that the

forfeiture of netting rights is intimately connected with the early termination date. See id.
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(requiring the non-defaulting party to pay, without netting, all payments due “as of the Early
Termination Date.”) (emphasis added). Because Black Diamond did not declare an early
termination date, this portion of the contract does not apply to this case, and CIT cites no
other section of the contract that would deprive Commodities of its netting rights.
III.

Commodities’ Common Law Rights: Setoff and Recoupment
Commodities invokes two other legal doctrines in support of its claim that it need not

pay for the December 2007 coal shipment: its common law rights to setoff and recoupment,
which the contract preserved. R. 24 at 2; See B.R. 119-6 at 16 (“Each party reserves to itself
all rights . . . and defenses which such Party has or may be entitled to (by operation of law or
otherwise).

All payment obligations . . . may be offset against each other, set off or

recouped.”). The Court need not address those arguments, however, because Commodities’
contractual netting rights suffice to decide the case in its favor.
CONCLUSION
Commodities had the right to net its obligations to Black Diamond against Black
Diamond’s debts. Only the difference between those amounts was “payable” under the
contract. When Black Diamond assigned its rights to receive payments under the contract to
CIT, CIT received no more than what Black Diamond had. For the reasons explained above,
Commodities was entitled to net Black Diamond’s $90,000,000 breach against the
$10,000,000 cost of the December 2007 coal shipment. Accordingly, that $10,000,000 was
not “payable” under the contract after CIT forced Black Diamond into bankruptcy. Black
Diamond could not have assigned the right to receive a payment to which it was not entitled.

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Accordingly, it is ORDERED that the Bankruptcy Court’s judgment, R. 1-3, is
AFFIRMED.
This the 30th day of January, 2014.

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