IYS Ventures, LLC v. Itria Ventures, LLC (In re IYS Ventures, LLC)

662 B.R. 336

IN RE: IYS VENTURES, LLC, Debtor.

IYS Ventures, LLC, Plaintiff, v. Itria Ventures, LLC, et al., Defendants.

Case No. 23 B 6782 Adv. No. 23 A 194

United States Bankruptcy Court, N.D. Illinois, Eastern Division

Signed July 25, 2024

Attorneys for Debtor: Gregory K. Stern, Dennis E. Quaid, Gregory K. Stern PC, 53 West Jackson Boulevard, Suite 1442, Chicago, Illinois 60604.

Attorneys for Eby-Brown Company, LLC: William K. Kane, Robert B. McLellarn, Sheppard Mullin Richter & Hampton LLP, 321 North Clark Street, 32nd Floor, Chicago, Illinois 60654.

Attorney for Itria Ventures, LLC: C. Kevin Kobbe, DLA Piper LLP (US), 650 South Exeter Street, Suite 1100, Baltimore, MD 21202.

MEMORANDUM OPINION

DAVID D. CLEARY, United States Bankruptcy Judge.

IYS Ventures, LLC ("IYS," "Plaintiff" or "Debtor") filed an amended complaint ("Complaint") against Itria Ventures, LLC ("Itria"), Fox Capital Group, Inc. ("Fox"), Byzfunder NY, LLC ("Byzfunder"), The Huntington National Bank ("Huntington") and Eby-Brown Company, LLC ("Eby-Brown") (collectively, "Defendants"), seeking to determine the extent, validity and priority of the Defendants' liens and interests in and against IYS's assets.

At the trial on May 8, 2024, the court heard argument and admitted exhibits into evidence. Stipulations or consent judgments were reached between Plaintiff and all Defendants other than Eby-Brown.

Having reviewed the pleadings and papers filed with the court, the exhibits admitted into evidence and the arguments of the parties, the court will enter judgment in favor of Plaintiff, determining that Eby-Brown does not hold a perfected lien securing its debt, that its debt shall be subordinate and inferior to Debtor's status as a hypothetical lien creditor and its interest is unsecured.

I. JURISDICTION

The court has subject matter jurisdiction under 28 U.S.C. § 1334(b) and the district court's Internal Operating Procedure 15(a). This is a core proceeding under 28 U.S.C. § 157(b)(2)(B) and (K). Venue is proper under 28 U.S.C. § 1409(a).

II. FINDINGS OF FACT

Eby-Brown is a limited liability company organized under the laws of the state of Delaware. (Joint Pretrial Statement ("JPS") ¶ 20.) IYS is a member managed limited liability company organized under the laws of the State of Illinois. Muwafak Rizek is the sole manager of IYS. (JPS ¶ 2.)

Eby-Brown and IYS entered into a Credit & Security Agreement (the "Agreement") on July 31, 2020, providing for the sale of convenience store products to IYS. (JPS ¶ 21.) IYS operated gas stations across the United States. (JPS ¶ 3.)

In the Agreement, IYS granted to Eby-Brown a security interest in all inventory, fixtures and personal property of every kind and nature, including all accounts, goods, documents, instruments, promissory notes, chattel paper, letters of credit and letter-of-credit rights, securities and all other investment property, general intangibles, money, deposit accounts, and any other contracts rights or rights to the payment of money; and all Proceeds (as defined in the Uniform Commercial Code) and products of each of the foregoing, in order to secure payment of IYS's obligations under the Agreement. (JPS ¶ 22.)

The Agreement purports to grant to Eby-Brown a security interest in the property of Plaintiff to secure any amounts due to Eby-Brown. (JPS ¶ 23.)

Eby-Brown sued IYS and other defendants in DuPage County Circuit Court (the "State Court"). On July 26, 2022, the State Court entered an order against Debtor and the other defendants (the "Asset Freeze Order"). (Eby-Brown Ex. 5.)

On January 11, 2023, the State Court granted Eby-Brown's motion for default against all defendants. (Eby-Brown Ex. 8.) About four months later, the State Court denied a motion to vacate the default. (Eby-Brown Ex. 11.)

On May 23, 2023, IYS filed for relief under chapter 11 of the Bankruptcy Code. The next day, following a prove up hearing, the State Court entered a judgment against two other defendants. (Eby-Brown Ex. 12.)

Eby-Brown filed a proof of claim in this bankruptcy case in the amount of $7,117,731.00, alleging that its claim is secured. (JPS ¶ 24; Eby-Brown Ex. 13.)

At the trial in this court on May 8, 2024, the court entered the following, which resolved Plaintiff's claims for relief against all Defendants except Eby-Brown:

• Consent Judgment in favor of Plaintiff and against Byzfunder

• Consent Judgment in favor of Plaintiff and against Fox

• Stipulated Judgment finding that Itria holds a first-priority perfected general security interest in all property of the estate to secure a claim in the amount of $899,286.90 (less any adequate protection payments received during the chapter 11 case)

• Judgment finding that Huntington holds a first perfected general security interest in property of the estate described in the Joint Pretrial Stipulation as pumps and related equipment.

III. CONCLUSIONS OF LAW

A. This is an action to determine the validity, priority, or extent of Eby-Brown's lien and interest in Debtor's property

1. The issue of perfection is before the court

Eby-Brown claims that it holds a valid, second-priority security interest in the assets of the Debtor, and therefore a secured claim against the bankruptcy estate. Plaintiff asserts that Eby-Brown's security interest is unperfected, and therefore its claim in in this bankruptcy case is not secured.

In its trial brief, Eby-Brown argued that "in the face of the widespread fraud and inequitable conduct Debtor committed against Eby-Brown, Eby-Brown respectfully requests the Court to treat the complaint filed in the DuPage County action and resulting asset freeze order as having perfected Eby-Brown's security interest in certain Debtor assets as granted to Eby-Brown under the Credit and Security Agreement." Eby-Brown Trial Brief, pp. 3-4.

At trial, Eby-Brown disputed that the issue of perfection was even before the court, arguing that the Complaint sought only a determination of the validity, nature, extent and priority of the various Defendants' rights.

In paragraph (B) of the Complaint's prayer for relief, however, Plaintiff asked the court to enter an order "[d]etermining and declaring the extent to which the claims of Itria, Fox, Byzfunder, Huntington and Eby hold secured claims and to the extent that those claims are unsecured claims[.]" This relief is appropriately sought by adversary proceeding, because the Debtor "is in doubt as to the priority of liens in estate property." 10 Collier on Bankruptcy ¶ 7001.03 (16th 2024) (footnote omitted). See also Fed. R. Bankr. P. 3007(b). To determine whether Eby-Brown holds a secured claim, and its priority among the competing Defendants, the court must necessarily consider the issue of perfection.

To explain why this is so, the court must take a step back and lay the framework. "Article 9 of the Illinois Uniform Commercial Code (UCC) governs secured transactions and provides a comprehensive scheme for regulation of security interests in personal property and fixtures and with few exceptions applies to any transaction (regardless of its form) which is intended to create a security interest in personal property[.]" Zurich Am. Ins. Co. v. MB Fin. Bank, N.A., 2020 IL App 190767-U, ¶ 40, 2020 WL 4913178 (quotations omitted) (unpublished order).

Under Article 9, a "security interest attaches to collateral when it becomes enforceable against the debtor with respect to the collateral." 810 ILCS 5/9-203(a). Article 9 further provides that "a security interest is enforceable against the debtor and third parties with respect to the collateral only if: (1) value has been given; (2) the debtor has rights in the collateral or the power to transfer rights in the collateral to a secured party; and (3) ... (A) the debtor has authenticated a security agreement that provides a description of the collateral[.]" 810 ILCS 5/9-203(b). See also Heartland Bank & Tr. v. The Leiter Grp., 2014 IL App 130498, ¶ 18, 385 Ill.Dec. 297, 303, 18 N.E.3d 558, 564 (2014).

The parties do not dispute that in the Agreement, IYS granted to Eby-Brown a security interest in various assets. "To be fully effective against third parties, [however,] a security interest must be perfected[.]" CNH Cap. Am. LLC v. Trainor Grain and Supply Co. (In re Printz), 478 B.R. 876, 881 (Bankr. C.D. Ill. 2012). Therefore, for the Agreement to support a secured proof of claim in this bankruptcy case, Eby-Brown must have perfected its security interest prior to the date on which IYS filed for relief under the Bankruptcy Code.

The reason that Eby-Brown cannot assert a secured claim if its security interest is unperfected is this: Pursuant to the Uniform Commercial Code, an unperfected security interest in personalty is subordinate to the interest of a person who becomes a lien creditor before the security interest is perfected. See 810 ILCS 5/9-317(a)(2). In this chapter 11 case, that person is the debtor-in-possession, IYS.

"Upon commencement of a bankruptcy case, a trustee acquires the status of a hypothetical judicial lien creditor and may avoid any lien or encumbrance on the debtor's property that such creditor could avoid under state law." Reinbold v. Wells Fargo Bank, N.A. (In re Alvarado), 517 B.R. 880, 883 (Bankr. C.D. Ill. 2014). With limited exceptions, a chapter 11 debtor-in-possession, such as IYS, has the rights and powers of a trustee. 11 U.S.C. § 1107(a).

Therefore, a bankruptcy trustee — or a chapter 11 debtor-in-possession — can defeat an unperfected lien interest in personalty due to its status as a hypothetical lien creditor. If Eby-Brown's security interest was not perfected prior to the date IYS filed for relief under the Bankruptcy Code, it does not hold a secured claim in this bankruptcy case.

That is why answering the question of perfection is essential to resolving Debtor's request that the court determine and declare the extent to which Eby-Brown holds a secured claim. See In re Cook, 384 B.R. 282, 297 (Bankr. N.D. Ala. 2008) ("[C]ore...