Key Points

  • The Supreme Court of Appeals of West Virginia reversed the Intermediate Court of Appeals and reinstated the business court's dismissal of Kapitus Servicing's breach-of-contract claim against Timberline Four Seasons Utilities and its receiver.
  • The court held that the business court properly took judicial notice of the Public Service Commission's April 2022 order voiding the factoring contract under W. Va. Code § 24-2-12, so there was no contract to breach.
  • A bankruptcy court's ruling that Kapitus held a valid claim against the utility's estate did not bind the commission or bar it from later investigating and voiding the contract as against the public interest.
  • The court declined to conduct a 'dueling res judicata analysis' and did not reach the utility's waiver argument; Kapitus's other claims remain pending on remand.

West Virginia's highest court ruled Thursday that a federal bankruptcy judge's decision upholding a lender's claim against a public utility did not stop state regulators from later declaring the underlying financing deal void, ending the lender's breach-of-contract claim against the utility.

The Supreme Court of Appeals of West Virginia reversed a 2023 decision of the state's Intermediate Court of Appeals, which had held that the bankruptcy court's order was res judicata and that the order bound both a state business court and the Public Service Commission. Chief Justice Bunn wrote the opinion of the court, which sided with Timberline Four Seasons Utilities Inc. and the Canaan Valley Public Service District, the utility's court-appointed receiver, against Kapitus Servicing Inc.

The decision holds that a bankruptcy court's allowance of a creditor's claim does not strip the commission of its power under state law to investigate a utility's contracts and void those that harm the public. In ruling on Kapitus's claim, "the bankruptcy court simply lacked the power to later bind the PSC—exercising its State power—from conducting its investigation into the validity of the utility contract at issue and issuing a corresponding order," Bunn wrote.

The dispute began in April 2017, when Timberline Utilities and an affiliated company signed a revenue-based factoring agreement with First US Funding, whose servicer later became Kapitus. The companies were to receive $130,000 in exchange for future receipts until they had paid $169,000. Kapitus says it paid in May 2017 and that Timberline stopped paying in June 2017 after paying $42,794.

In 2019, the Circuit Court of Tucker County placed the utility in receivership at the commission's request. The utility filed for Chapter 11 bankruptcy in March 2021 in the U.S. Bankruptcy Court for the Northern District of West Virginia, where Kapitus filed a claim. The utility objected that the agreement was unenforceable without commission approval. The bankruptcy court overruled the objection in August 2021 and again in October 2021 on reconsideration, finding "that the agreement is voidable in favor of Kapitus and can be enforced at Kapitus's discretion" and that "[n]othing in the record insinuates that . . . the public served by the utility suffered any detriment as a result of the agreement."

In December 2021, the bankruptcy court granted the commission's motion for a ruling that its regulatory actions were exempt from the automatic stay. The commission opened an investigation of the utility's contracts on Dec. 17, 2021. Eleven days later, the utility asked the bankruptcy court to dismiss its case without appealing the ruling on Kapitus's claim, and the court did so in January 2022. In March 2022, Kapitus sued in Tucker County for breach of contract, fraud and other claims, and the case went to the state's business court division.

In a final order that took effect April 10, 2022, the commission declared the contract and security agreement void under West Virginia Code Section 24-2-12. That statute requires commission approval for certain utility transactions and makes them void to the extent the public interest is harmed. The commission found that the deal served "the illegal and improper scheme to use the assets and ratepayers of [Timberline Utilities] to prop up failing affiliates," and that the utility "in all likelihood did not even need an infusion of money." It found no evidence in the bank records that $118,000 of the money ever reached the utility.

The business court dismissed Kapitus's breach-of-contract count but let its other claims proceed. The intermediate court reversed, holding that "[o]nce such determination became final, the PSC was precluded from making a determination to the contrary." Before the Supreme Court, Kapitus argued that the commission's order was "legally impotent" because the bankruptcy court had already found the contract was in the public interest.

The Supreme Court held that the business court properly took judicial notice of the commission's order, meaning it could rely on that public record in ruling on a motion to dismiss, since Kapitus did not dispute the order's authenticity. "Because the PSC order declared the contract void, there was no contract to breach and Kapitus's complaint against the Timberline defendants alleging breach of contract failed to state a claim upon which relief could be granted," Bunn wrote.

Quoting a 1919 decision, the court wrote that "[p]rivate contract rights must yield to the public welfare, where the latter is appropriately declared and defined and the two conflict."

The opinion faulted the intermediate court's reasoning. "In reaching its conclusion, the ICA ignored the PSC's authority over public utilities and discounted the bankruptcy court's willingness to lift the stay to allow the PSC to exercise its investigative powers in relation to these matters," Bunn wrote. The court said the bankruptcy judge had "cursorily determined that the contract was not against the public interest."

The approaches taken by the intermediate court and Kapitus "misapprehend and undercut the PSC's statutory power to investigate and determine whether contracts between utilities and other parties are in the public interest," the court held, adding that "we do not endorse such an infringement on the State's police power."

The court declined the parties' invitation to decide which tribunal acted first in what it called "some sort of dueling res judicata analysis." It also rejected Kapitus's contention that the commission voided the contract only because the parties never sought prior approval, noting the commission's order listed many specific reasons the deal was against the public interest.

Timberline Utilities was represented by Martin P. Sheehan of Sheehan & Associates PLLC, the Canaan Valley Public Service District by John W. Cooper of Cooper & Preston PLLC, and Kapitus was represented by Ancil G. Ramey of Steptoe & Johnson PLLC. Ann Starcher of Lewis Gianola PLLC represented the commission, which filed a friend-of-the-court brief.

The Supreme Court affirmed the business court's Dec. 20, 2022, order dismissing the breach-of-contract claim and sent the case back to the business court for further proceedings, where Kapitus's remaining claims, including fraud, unjust enrichment and fraudulent transfer, are still pending.