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In re Response U.S.A.

January 27, 2003

IN RE: RESPONSE U.S.A., INC., ET AL., DEBTORS.
ANDREW QUEEN, ET AL., APPELLANTS,
v.
OFFICIAL COMMITTEE OF UNSECURED CREDITORS, ET AL., APPELLEES.



ON APPEAL FROM AN ORDER OF THE UNITED STATES BANKRUPTCY COURT FOR THE DISTRICT OF NEW JERSEY Sat Below: Hon. Gloria M. Burns [Case No. 01-18703]

The opinion of the court was delivered by: Simandle, District Judge

OPINION

In September 1998, Andrew Queen, Jeffrey Queen, and Lorence Queen as Trustee for the Jeffrey Queen and Andrew Queen Irrevocable Trust U/A January 2, 1998 (the "Queen parties") *fn1 sold to Response U.S.A., Inc. ("Response") all of the issued and outstanding stock of HealthWatch, Inc. in exchange for a combination of cash and Response common stock. The Stock Purchase Agreement included a provision to protect the Queen parties if the Response stock declined in value. Generally, if the stock price declined in the first five years the Queens owned the Response stock and the Queen parties sold the stock, Response would pay the Queens the difference between the purchase price and the sale price in stock or cash; in two carefully defined situations, Response would have to pay the difference in cash.

The Queen parties filed the three proofs of claim that are at issue in this matter, numbers 47, 48, and 49, seeking cash compensation in accordance with this provision in the Stock Purchase Agreement for the decline in value of their Response stock because of the bankruptcy filing. On October 3, 2002, the Honorable Gloria Burns, United States Bankruptcy Judge, held that the three claims must be subordinated to all claims or interests senior to the interests represented by the shares of Response common stock in accordance with 11 U.S.C. §510(b) which requires such subordination if claims are "for damages arising from the purchase or sale of . . . a security."

The Queen parties filed a timely notice of appeal of the October 3rd Order, oral argument was heard January 2, 2003, and this Court must determine whether the Queen parties' claims based on the protection included in the Stock Purchase Agreement are claims "for damages arising from the purchase or sale of . . . a security." For the following reasons, this Court finds that they are and must be subordinated pursuant section 510(b). Therefore, this Court will affirm Judge Burns' October 3, 2002 order.

I. BACKGROUND

The "Queen parties," namely Andrew Queen, Jeffrey Queen, Lorence Queen as Trustee for the Jeffrey Queen and Andrew Queen Irrevocable Trust U/A January 2, 1998, Zenex A1, L.L.C., and Zenex J1, L.L.C., submitted proofs of claim numbers 47, 48, and 49 for payment from the debtor, Response, Inc.'s bankruptcy estate. *fn2 Each proof of claim is for $1,064,950.

The three proofs of claim assert rights to payment under section 2.6 *fn3 of a September 16, 1998 Stock Purchase Agreement as amended by January 11, 2000 and July 19, 2000 settlement agreements. *fn4 With the September 1998 Stock Purchase Agreement, the Queen parties agreed to sell all of the issued and outstanding stock of HealthWatch, Inc. to Response in exchange for a combination of cash and Response common stock. Section 2.6 of the Agreement provided protection for the Queen parties. Under this section, Response assured the value of the payment shares for a five-year period by agreeing to pay the Queen parties on set "Make-Up dates" the difference between the assured value and the actual sales price for any shares that were sold during the Make-Up period. Generally, Response could pay the difference in stock or in cash; in two situations, it was required to pay the difference in cash.

This appeal relates only to the shares of stock that the Stockholders held on the date of Response's bankruptcy filing, namely, 228,378 payment shares, 1,227,969 shares issued pursuant to the January 11, 2000 settlement agreement, and 3,705,382 shares issued pursuant to the July 19, 2000 amendment to the Settlement Agreement (referred to as "Amendment No. 1"). *fn5 The Queen parties filed the three proofs of claim based on these holdings, claiming that they have a right to $3,194,850 under Section 2.6 of the Stock Purchase Agreement because the stock declined in value when Response filed bankruptcy. Andrew Queen, in an Affidavit, explained that the Response stock was "rendered worthless with no market at the time of the filing of the voluntary Chapter 11 cases on August 30, 2001." *fn6 (Record on Appeal, Item 8, Ex. 1, ¶13.)

The Official Committee of Unsecured Creditors and Trustee Morton Batt filed a motion for summary judgment on September 5, 2002, seeking subordination of the Queen parties' claims 47, 48, and 49 pursuant to section 510(b) of the Bankruptcy Code which requires subordination of claims "for damages arising from the purchase or sale of a . . . security." (Record on Appeal, Item 7.) On October 1, 2002, the Honorable Gloria Burns heard oral argument on the motion. (Record on Appeal at 2.) She considered the Queen parties' argument that their claims should not be subordinated because they are seeking a payment of cash entitled to them by the stock purchase agreement, instead of "damages" for breach of the stock purchase agreement, and stated:

It seems to me when there's a breach of contract the result that you claim is damages. And call it anything that you want, money, cash, whether - whatever it ends up being, the money that's being claimed, the amount of their claim is based on an alleged breach of contract for payment under this stock purchase agreement and the subsequent amendments to it.

So I believe that - the language of damages in the statute comes within this, and looking at the entire picture, and the analysis that the Circuit [in Telegroup] goes through, in why they think that 510(b) should be appropriate, in the broader sense, looking at what Congress's intention was, this Court believes that those things are all - all within this case. (Appellant's Br. at 17.)

On October 3, 2002, Judge Burns issued an Order granting summary judgment which ...


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