Katzenstein v. Clearcom, Inc. (In re Paniolo Cable Co.)

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In re: PANIOLO CABLE COMPANY, LLC, Debtors.

MICHAEL KATZENSTEIN as Chapter 11 Trustee, Plaintiff, v. CLEARCOM, INC., Defendant.

No. 18-01319

Adv. Pro. No. 21-90004

United States Bankruptcy Court, D. Hawaii

January 16, 2024

MEMORANDUM OF DECISION ON MOTION FOR PARTIAL SUMMARY JUDGMENT

ROBERT J. FARIS, UNITED STATES BANKRUPTCY JUDGE

Plaintiff David Farmer, Plan Agent under the confirmed chapter 11 plan and successor in interest to chapter 11 Trustee Michael Katzenstein ("the Trustee"), seeks partial summary judgment on two counts of his complaint against Clearcom Inc. ("Clearcom"). Under count I, the Trustee contends he is entitled to $6,443,036.78 in breach of contract damages. Under count II, the Trustee asserts that Clearcom was unjustly enriched by $1,273,203, and Clearcom should pay that amount in restitution to the Trustee. In total, the Trustee is seeking $7,716,239.78 in damages. In the alternative to count I, the Trustee is seeking $6,234,925.33 in restitution for unjust enrichment.

The court held a hearing on the motion on November 3, 2023. Jonathan Bolton and Matthew Ezer represented the Trustee, and Addison Bonner represented Clearcom.

For the reasons set out below, I will grant the Trustee's second motion for partial summary judgment and award the Trustee $7,716,239.78 in damages.

I. BACKGROUND

a. The Hee Companies and License 372

This case involves a group of affiliated companies. Albert Hee and trusts benefitting his family own Waimana Enterprises, Inc. ("Waimana"). Waimana owns Sandwich Island Communications, Inc. ("SIC"), Pa Makani LLC ("Pa Makani"), Clearcom, Inc. ("Clearcom"), and Paniolo Cable Company ("Paniolo"). Case No. 18-01319, ECF 855 at 9.^[1]The State of Hawai'i Department of Hawaiian Home Lands ("DHHL") administers about 200,000 acres of land across the island of Hawai'i for the benefit of native Hawaiians. Id. at 6..^[2] As of 2019, about 36,500 people lived on the Hawaiian Home Lands. State of Hawaii Data Book 2020 at table 1.17. In 1995, DHHL granted License 372 to Waimana. Case No. 18-01319, ECF 855 at 7. License 372 gave Waimana the exclusive right to "build, construct, repair, maintain, and operate a broadband telecommunications network . . . over, across, under and throughout all lands under [DHHL's] administration and jurisdiction . . . ." Id. at 7-8; Case No. 18-01319, ECF 639-1 at 3.

Waimana split the rights under License 372 with three of its affiliates. In 1996, Waimana assigned to SIC "those certain rights, title, and interest necessary to provide Intralata and Intrastate telecommunications services . . . ." Case No. 18-01319, ECF 639-2 at 3. In 2011, Waimana assigned to Pa Makani the rights necessary to "provide wireless communications services of all types . . . ." Case No. 18-01319, ECF 639-3 at 2. Finally, in 2014, Waimana assigned to Clearcom the right to "provide broadband services of all types . . . ." Case No. 18-01319, ECF 639-4 at 2.

In the meantime, SIC built the infrastructure necessary to fulfill License 372. From 1997 to 2001, SIC borrowed more than $160 million from an agency of the federal government to fund the construction. Case No. 18-01319, ECF 673 at 5 (describing the government's loans); Case No. 18-01319, ECF 347-2 at 2 (describing the assets).

Paniolo built a submarine cable system ("the Paniolo Assets") that carried telecommunication services between islands.^[3] Case No. 19-90022, ECF 22-1, at 4-5. Deutsche Bank ("Deutsche") lent Paniolo about $150 million to finance the construction. Case No. 18-01319, ECF 1 at 3.

In 2007, Paniolo and SIC entered into two agreements that allowed them to connect SIC's terrestrial system with Paniolo's submarine system and direct traffic between their systems. The first agreement was a Joint Use Agreement ("JUA"). Case No. 19-90022, ECF 22-1, at 5-6, which allowed Paniolo to connect to SIC's terrestrial assets. Case No. 18-01319, ECF 347-4 at 2. The second agreement was the Paniolo Cable Network Lease ("SIC Lease"). No. 18-01319, ECF 18-1 at 383. Under the SIC Lease, SIC would make payments to Paniolo in exchange for access to the Paniolo Assets. Case No. 18-01319, ECF 18-1 at 385.

b. The FCC Funding Changes

Because only a small number of people lived on the Hawaiian Home Lands, SIC could not generate enough income from customer charges to pay its operating expenses, including its lease payments to Paniolo, and service its massive debt.^[4] To cover the shortfall, SIC relied on large subsidies from the Federal Communication Commission's ("FCC") Universal Service Fund ("USF"). See Case No. 19-90022, ECF 22-1, at 4. SIC expected to receive $14,000 per line per year from the USF. Id. These subsidies were also crucial to Paniolo, because SIC used this money to pay its obligations under the SIC Lease. Id. SIC's lease payments comprised Paniolo's only source of income to pay the obligations on its secured loans. Id. at 6-7.

In 2011, the FCC dramatically altered the way it administered the entire USF. United States v. Sandwich Isles Commc'ns, Inc., 398 F.Supp.3d 757, 766 (D. Haw. 2019). Beginning in July 2014, it reduced SIC's yearly payments from $14,000 to $250 per line. Id. In 2013, SIC applied for a waiver to continue receiving the higher compensation rates from the USF, but the FCC denied this request in May 2013. Id. As a result, SIC reduced its debt payments to the United States and made only irregular payments to Paniolo. Id. at 767.

By December 2014, SIC had completely stopped paying Paniolo. Case No. 18-01319, ECF 17, at 6. Consequently, Paniolo stopped paying its debt to Deutsche. Id.

c. Paniolo's Bankruptcy

In late 2018, successors in interest to Deutsche ("Paniolo Creditors")^[5]filed an involuntary petition for relief under chapter 11 of the Bankruptcy Code against Paniolo. Id. Although Paniolo initially resisted the bankruptcy, the Paniolo Creditors and Paniolo agreed to the entry of a chapter 11 order for relief and the appointment of a chapter 11 Trustee. Case No. 18-01319, ECF 48.

d. The Trustee's Settlement

In 2020, the bankruptcy court approved a settlement ("2020 Settlement") between the Paniolo Creditors, the Trustee, Waimana, SIC, Clearcom, and other entities controlled by Waimana.^[6] ECF 47-6 at 2. ^[7] One purpose of the 2020 Settlement was to clarify the relationship of all parties to the Paniolo Assets. To this end, the Trustee and SIC terminated the JUA and SIC Lease and replaced them with the Master Relationship Agreement ("MRA"). ECF 47-6 at 2. Under the 2020 Settlement and the MRA, only SIC (and not any of its affiliates) had the right of access to the Paniolo Assets, and SIC's access was limited to two fiber pairs to provide service only to customers on the Hawaiian Home Lands. ECF 82-2 at 3-4. The purpose of these limitations was to make it easier for the Trustee to sell the Paniolo Assets. Armed with a court-approved settlement, a buyer could ascertain the capacity of the system in excess of SIC's use rights. Id.; see also ECF 47=3 at 3-4; ECF 86 at. Confirming this purpose, SIC, Waimana, and Clearcom warranted that:

Except as set forth in Exhibit 2 hereto, the SIC Parties hereby represent and warrant to the other parties that there are no agreements of any nature (including without limitation, grants of Indefeasible Rights of Use (IRUs), wholesale contracts, or commercial agreements) permitting persons or entities other than SIC to use capacity on the [Paniolo Assets] other than the two pairs of fiber reserved to SIC for the purposes stated herein.

ECF 47-6 at 7-8 (emphasis added). The 2020 Settlement also states:

SIC shall have no right to assign or sublease any of its interest in the Initially Leased Fiber except to the Ownership^[8] and only for the purposes of providing retail services to end users on Hawaiian Home Lands.

ECF 47-6 at 3 (emphasis added).

e. The 2021 Adversary Proceeding

In February 2021, the Trustee filed an adversary proceeding against Clearcom. ECF 1. The Trustee brought three counts against Clearcom: Breach of contract, unjust enrichment, and turnover. Id. at 6-8. In the first count, the Trustee alleged that Clearcom breached the 2020 Settlement by allowing Time Warner Entertainment Co. L.P. and its affiliates ("Charter") to use capacity on the Paniolo Assets. Id. at 6-7. In the second count, the Trustee argued that Clearcom was unjustly enriched from the alleged contracts existing between Clearcom and the third parties. Id. at 6. The third count claimed that all money Clearcom received under these wrongful contracts should be turned over to Paniolo's bankruptcy estate. Id. at 7-8. Clearcom denied the Trustee's allegations. ECF 4.

f. The Trustee's First Motion for Partial Summary Judgment

In February 2023, the Trustee moved for partial summary judgment on the issue of liability for counts I and II. ECF 47. Two agreements formed the basis for the Trustee's first motion for partial summary judgment.

First the Trustee claimed Clearcom breached the warranties in the 2020 Settlement because it had made an agreement with Charter in late 2019 that permitted Charter to use capacity on the Paniolo Assets ("2019 Agreement). ECF 47-1 at 5-6. The Trustee offered an email exchange between Al Hee, Wendy Hee, and Tim Davis as evidence of the purported agreement. ECF 47-7. On October 28, 2019, Charter experienced an outage that cut off their service to Kauai. Id. at 4. and Mr. Davis emailed Ms. Hee to ask if there were any opportunities to "bring up connectivity quickly on the Paniolo assets." Four hours later, Mr. Davis added Mr. Hee to the email chain and asked if there were "options on the Paniolo route." Id. at 3. Around the close of business that day, Mr. Davis stated that he wanted to "purchase 8x10G on a month-to-month term." Id. at 2. The next...