American Wagering v. Racusin ( 2007 )

FOR PUBLICATION
UNITED STATES COURT OF APPEALS
FOR THE NINTH CIRCUIT
In re: AMERICAN WAGERING, INC., a 
Nevada corporation; In re: LEROY’S
HORSE & SPORTS PLACE, a Nevada
corporation, No. 05-15969
Debtors,
Bankruptcy
Appellate Panel
MICHAEL RACUSIN, d/b/a M.  Case No.
Racusin & Company, NV-04-1029-BuBS
Appellant, ORDER AND
v. OPINION
AMERICAN WAGERING, INC.;
LEROY’S HORSE & SPORTS PLACE,
Appellees.

Appeal from the Ninth Circuit
Bankruptcy Appellate Panel
Smith, Brandt, and Bufford, Bankruptcy Judges, Presiding
Argued and Submitted
July 24, 2006—San Francisco, California
Filed June 28, 2007
Before: Procter Hug, Gilbert S. Merritt,* and
Richard A. Paez, Circuit Judges.
Opinion by Judge Merritt
*The Honorable Gilbert S. Merritt, Senior Circuit Judge, United States
Court of Appeals for the Sixth Circuit, sitting by designation.
7687
7690 IN RE: AMERICAN WAGERING, INC.
COUNSEL
David N. Frederick, Dennis L. Kennedy, Sarah E. Harmon,
Jennifer A. Smith, Lionel Sawyer & Collins, Las Vegas,
Nevada, for the defendant-appellant.
Gerald M. Gordon, Thomas H. Fell, Ambrish S. Sidhu, Gordo
& Silver, Las Vegas, Nevada, for the plaintiffs-appellees.
ORDER
The petition for panel rehearing is granted. The petition for
rehearing en banc is denied as moot. The opinion filed on
October 6, 2006 and reported at 465 F.3d 1048 (9th Cir. 2006)
is withdrawn, and is replaced by the concurrently filed new
opinion.
No further petitions for rehearing or rehearing en banc may
be filed.
OPINION
MERRITT, Senior Circuit Judge:
This is an appeal from a decision of the Bankruptcy Appel-
late Panel for the Ninth Circuit in favor of debtors, American
Wagering, Inc. and Leroy’s Horse and Sports Place. The only
issue on appeal is whether the claim against the bankrupt cor-
poration by Michael Racusin, a former business consultant to
debtors, should be regarded as the debt of a creditor, or as a
suit by a shareholder subject to subordination pursuant to 11
U.S.C. § 510(b). The bankruptcy court found that the claim
was a debt not subject to subordination, but the Bankruptcy
Appellate Panel reversed, characterizing Racusin as an inves-
tor. In re American Wagering, Inc., 326 B.R. 449 (9th Cir.
IN RE: AMERICAN WAGERING, INC. 7691
BAP 2005). We agree with the bankruptcy court that Racusin,
as the holder of a money judgment, should be regarded as a
creditor and reverse the decision of the Bankruptcy Appellate
Panel and remand for further proceedings.
I.
Facts and Procedural History
The litigation leading to this bankruptcy proceeding has a
lengthy and convoluted history. In 1994, debtor Leroy’s
Horse and Sports Place hired Michael Racusin as a financial
advisor in connection with the initial public offering of
Leroy’s stock. In preparation for the initial public offering,
Leroy’s formed American Wagering, Inc. and became a sub-
sidiary of American Wagering, Inc., which would become the
publicly-owned entity after the initial public offering. On
April 20, 1994, Racusin, doing business as M. Racusin and
Company, and Leroy’s entered into an agreement that stated:
Should M. Racusin & Company bring in a buyer for
Leroy’s Horse and Sports Place, said company will
be paid a commission based on 5% of the purchase
price. All terms and conditions must be acceptable to
Vic Salerno and commission would be paid by
Leroy’s Horse and Sports Place at closing.
A subsequent agreement was entered into on November 11,
1994, by the same parties that provided as follows:
Michael Racusin has been our financial advisor for
the purpose of an initial public offering by Rodman
and Renshaw, Inc., Equity Securities Trading Co.,
Inc., or Orida Capital International, Ltd. As compen-
sation he would be paid 4½% of the final evaluation
in the form of Leroy’s common stock and $150,000
cash upon completion of common offering or IPO.
7692 IN RE: AMERICAN WAGERING, INC.
Excerpts of Record on Appeal at 2.
Two years later, in 1996, while the initial public offering
was pending, Leroy’s brought suit against Racusin seeking a
determination that the contract was unenforceable. Racusin
removed the case to federal court based on diversity and
counterclaimed for breach of contract and other state-law
claims. In September 1997, after a bench trial, the district
court granted judgment to Racusin for $732,972. Racusin
appealed on the ground he was entitled to a jury trial. This
Court reversed and remanded, holding that Racusin was enti-
tled to a jury trial. Leroy’s Horse and Sports Place v. Racusin,
No. 97-17283, 1999 WL 147118 (9th Cir. Mar. 16, 1999). On
remand, the jury found in favor of Racusin, finding that the
amount of compensation should be “stock in Leroy’s . . . in
an amount equal to 4.5% of $45,000,000 [the final valuation
of the common stock] and $150,000 in cash.” Based on this
finding, the district court awarded Racusin 337,500 shares of
stock worth $2.025 million [4.5% of $45,000,000] at $6 per
share.
Racusin again appealed, contending it was error for the dis-
trict court to award specific performance when he requested
only money damages. This Court agreed and remanded the
case to the district court to calculate the monetary value of the
337,500 shares. Leroy’s Horse and Sports Place v. Racusin,
21 F. App’x 716 (9th Cir. 2001). On remand, Racusin was
awarded damages of $2,310,000; the sum of $150,000 cash
plus $2,160,000, the value of the stock in 1996 when Racusin
could have first legally sold shares.1 Leroy’s Horse and Sports
Place, No. CV-S-95-00927 (D. Nev. July 8, 2003).
A few days after the district court decision awarding Racu-
1
Racusin again appealed, claiming he was entitled to prejudgment inter-
est. We again remanded the matter to the district court for a determination
on the appropriate amount of prejudgment interest. Hartunian v. Racusin,
120 F. App’x 698 (9th Cir. 2005).
IN RE: AMERICAN WAGERING, INC. 7693
sin monetary damages, and six years after Racusin first
asserted his claim to a money judgment in federal court,
Leroy’s and American Wagering each filed for Chapter 11
bankruptcy protection and the cases were consolidated for
administrative purposes. Racusin filed a claim for $2,275,012,
an amount based on the district court judgment with a set-off
for the $150,000 cash that had already been paid, plus the
amount of prejudgment interest sought in the then-pending
appeal. The debtors brought an adversary proceeding against
Racusin, alleging that his claim is one that must be subordi-
nated under 11 U.S.C. § 510(b), which mandates subordina-
tion of “a claim . . . for damages arising from the purchase or
sale of . . . a security.” In an oral ruling, the bankruptcy court
granted summary judgment to Racusin and denied the cross
motion of Leroy’s and American Wagering. In re American
Wagering, Inc., No. BK-N-03-52529, Transcript of Hearing
on Cross-Motions for Summary Judgment at pp. 71-77
(Bankr. Nev. Jan. 5, 2004). On appeal, the Bankruptcy Appel-
late Panel reversed and held that the claim should be subordi-
nated. American Wagering, Inc. v. Racusin, 326 B.R. 449 (9th
Cir. BAP 2005). This appeal followed.
II.
Jurisdiction and Standard of Review
This Court conducts de novo review of a Bankruptcy
Appellate Panel decision, In re Burnett, 435 F.3d 971, 975
(9th Cir. 2006), and independently reviews a bankruptcy
court’s ruling on appeal from the Bankruptcy Appellate Panel.
In re DeVille, 361 F.3d 539, 547 (9th Cir. 2004). An appellate
court reviews the bankruptcy court’s findings of fact for clear
error and the grant or denial of summary judgment by a bank-
ruptcy court is reviewed de novo. In re Nys, 446 F.3d 938,
943 (9th Cir. 2006); Thrifty Oil Co. v. Bank of Am. Nat’l Trust
& Sav. Ass’n, 322 F.3d 1039, 1046 (9th Cir. 2003); In re
Prestige Ltd. P’ship-Concord, 234 F.3d 1108, 1112-14 (9th
7694 IN RE: AMERICAN WAGERING, INC.
Cir. 2000). This court has jurisdiction pursuant to 28 U.S.C.
§ 158(d)(1).
III.
Discussion
In claiming error by the Bankruptcy Appellate Panel, Racu-
sin makes two main arguments: (1) his claim in the bank-
ruptcy proceeding is not an equity claim but a debt claim that
cannot be subordinated because he received a money judg-
ment prior to the commencement of the bankruptcy proceed-
ing and (2) in any event, his claim is not one “for damages
arising from the purchase or sale of a security” subject to sub-
ordination under section 510(b). We agree that his claim is
not one that is properly subordinated because it is not one “for
damages arising from the purchase or sale of a security.” The
original Racusin contract, which promised him “4% of the
final evaluation” of the IPO, only gave him the monetary
value of the shares of stock, not the stock itself. Leroy’s never
upheld its end of the contract, resulting in a lawsuit for breach
seeking damages based on the value of the stock. Racusin
received that money judgment and initiated legal action to
receive it long before the bankruptcy proceeding at issue here
commenced. Racusin thus sought all along what was prom-
ised by the contract — the monetary value of the stock, rather
than the stock itself — and the district court, after some direc-
tion from this Court, effectuated the contractual remedy as
well. Accordingly, his claim in the bankruptcy proceeding is
more akin to that of a creditor than an investor and subordi-
nating his claim as “arising from the purchase or sale” of
stock would not serve the underlying purposes of subordina-
tion under section 510(b).
A. The Statute — Plain Language, Purpose and Policies
Section 510(b) reads as follows:
IN RE: AMERICAN WAGERING, INC. 7695
§ 510. Subordination
...
(b) For the purpose of distribution under this title,
a claim arising from rescission of a purchase or sale
of a security of the debtor or of an affiliate of the
debtor, for damages arising from the purchase or sale
of such a security, or for reimbursement or contribu-
tion allowed under section 502 on account of such a
claim, shall be subordinated to all claims or interests
that are senior to or equal the claim or interest repre-
sented by such security, except that if such security
is common stock, such claim has the same priority
as common stock.
11 U.S.C. § 510(b).
[1] Section 510(b) serves to effectuate one of the general
principles of corporate and bankruptcy law: that creditors are
entitled to be paid ahead of shareholders in the distribution of
corporate assets. The principles behind corporate and bank-
ruptcy laws generally do not favor shifting the risk of loss
from shareholders to creditors, even if the shareholders are
blameless. One of the primary purposes of section 510(b),
therefore, is to prevent disappointed shareholders, sometimes
the victims of corporate fraud, from recouping their invest-
ment in parity with unsecured creditors.
[2] Although many subordination cases sound in fraud, the
scope of section 510(b) has been broadened over the years to
include claims based on contract law and other actions. The
majority of courts in recent years that have confronted the
scope of § 510(b), including this one, have concluded that the
phrase “arising from” should be read broadly to encompass
claims other than fraud claims, such as claims for breach of
contract. See, e.g., In re Telegroup, 281 F.3d 133, 144 (3d Cir.
2002) (breach of stock purchase agreement); In re Betacom of
7696 IN RE: AMERICAN WAGERING, INC.
Phoenix, Inc., 240 F.3d 823, 829 (9th Cir. 2001) (breach of
merger agreement); In re Int’l Wireless Communications
Holdings, Inc., 257 B.R. 739, 746 (Bankr. D. Del. 2001),
aff’d, 279 B.R. 463 (D. Del. 2002), aff’d, 2003 WL 21466898
(3d Cir. 2003) (breach of stock purchase agreement); In re
PT-1 Communications, Inc., 304 B.R. 601, 608 (Bankr.
E.D.N.Y. 2004) (tortious interference). That the claim is for
breach of contract is not sufficient alone to prevent subordina-
tion. As noted above, a number of courts, including this one,
have held that breach of contract claims may be subordinated
under section 510(b) where there exists “some nexus or causal
relationship between the claim and the purchase of the securi-
ties . . . .” Telegroup, 281 F.3d at 138; Betacom, 240 F.3d at
829; Int’l Wireless, 257 B.R. at 746; In re NAL Fin. Group,
Inc., 237 B.R. 225, 234 (Bankr. S. D. Fla. 1999). These opin-
ions make clear that they were concerned with claims that
tried to recharacterize or restate what would otherwise be sub-
ordinated securities claims.
As a remedial statute, section 510(b) should be interpreted
broadly in order to effectuate the intent of Congress. This
principle was recognized in our earlier opinion, American
Broadcasting Sys., Inc. v. Nugent (In re Betacom of Phoenix,
Inc.), 240 F.3d 823 (9th Cir. 2001), which examined the scope
of section 510(b) and is the governing precedent on section
510(b) in the Circuit. In Betacom, the claimants held shares
in a corporation that entered into a merger agreement with the
debtor. The agreement called for the claimants to receive
stock of the surviving company in exchange for their shares
in the acquired company. The merger agreement never closed
and claimants never accepted their tendered shares, which
remained in escrow. We held that the claim should be subor-
dinated under section 510(b).
[3] Betacom identifies two main reasons for subordination
of a claim pursuant to section 510(b): (1) dissimilar risk and
return expectations of creditors and shareholders and (2) the
reliance of creditors on the equity cushion provided by share-
IN RE: AMERICAN WAGERING, INC. 7697
holder investment. Betacom focused on the fact that investors
expect to take more risks than creditors when they deal with
a corporate entity, but we also made clear that a claim should
only be subordinated when it will accomplish the purposes of
section 510(b). Neither rationale applies here. Racusin was
not in a position analogous to the claimants in Betacom.
There, the claimants were entitled to receive shares in the
combined company; they were offered the shares but refused
to accept. Here, although Racusin’s compensation was to be
valued on the basis of the debtors’ share price upon comple-
tion of the IPO, the contract did not provide for that compen-
sation in the form of shares. His potential to earn greater
profits as a shareholder thus did not exist.2 Moreover, from
the outset of his dispute with the debtors over compensation
for his consulting services, Racusin sought to reduce his con-
tract claim to a money judgment. He did not attempt to
recover stock, and he never became a shareholder.
[4] A look at the plain language of the statute demonstrates
its inapplicability to the circumstances here. Under the plain
language of the statute a claim must be subordinated if it is
one for damages arising from “rescission of a purchase or sale
of a security of the debtor.” Racusin’s claim arises from the
fact that the value of the stock on the date of the public offer-
ing was simply the basis for calculating his compensation. He
has never been a shareholder, has never attempted to recover
an investment loss and since 1996 he has only sought to col-
lect compensation owed for services he performed pursuant to
a contract that the debtors breached.
In In re Alta+Cast, 301 B.R. 150 (Bankr. D. Del. 2003), a
case relied on by the Bankruptcy Appellate Panel, the debtor
2
We understand our 2001 disposition, in which we remanded to the dis-
trict court to calculate the value of the stock, as directing the district court
to determine the value of Racusin’s compensation, as provided in the con-
tract, not as directing a conversion of an equity interest into a money judg-
ment. See Racusin, 21 F. App’x at 718.
7698 IN RE: AMERICAN WAGERING, INC.
sought to subordinate a former employee’s claim. There, the
debtor and claimant had an agreement by which the debtor
agreed to repurchase its stock from the claimant if he was ter-
minated for cause. When the debtor did not repurchase the
securities after terminating claimant for cause, the claimant
obtained a judgment against the debtor. The bankruptcy court
held that the judgment arose from an agreement for the sale
or purchase of a security because the claimant retained the
risk of ownership by holding the stock until his termination
— the claimant actually obtained an equity interest and the
lawsuit arose from the debtor’s refusal to repurchase the
equity interest. Id. at 155. Here, Racusin never obtained stock
in debtors, and his lawsuit arose from the refusal to pay him
the monetary value of the stock at the time of the IPO as com-
pensation for services rendered.
[5] Racusin received a money judgment for services ren-
dered nine years before the bankruptcy; he has never sought
an award of an equity interest in debtors’ companies. Racusin
therefore contends that because the claim is based on a pre-
petition money judgment it simply is not subject to subordina-
tion under section 510(b). Our earlier decision reversing a
stock award to Racusin makes clear that his underlying claim
is a debt claim, not an equity claim.
[6] Racusin did not sue debtors as an equity investor seek-
ing monetary damages for fraud or breach of contract related
to their mishandling of shareholders’ economic investment in
the company. He sued as an agent who did not receive com-
pensation promised in an employment agreement. The money
judgment awarded at the direction of our Court in its earlier
opinion established a fixed, pre-petition debt due and owing
Racusin as a creditor, not the risk/return position of an equity
investor in the now-bankrupt corporation.
For the foregoing reasons, we reverse the judgment of the
Bankruptcy Appellate Panel and remand for further proceed-
ings.
Reversed and Remanded.