False advertising about a bankrupt competitor doesn't violate the automatic stay

In re Windstream Holdings, Inc., 2022 WL 5245633, No. 21-CV-4552 (CS) (S.D.N.Y. Oct. 6, 2022)

The district court reverses the bankruptcy court ruling (discussed here) that held that false advertising had interfered with the debtor’s estate in violation of the automatic stay.

Debtor Windstream and Charter are competing telecommunications service providers. After Windstream filed for bankruptcy, Charter launched a direct-mail advertising campaign directed at Windstream customers: “Windstream Customers, Don’t Risk Losing Your Internet and TV Services.” In relevant part, the ad said: “Windstream has filed for Chapter 11 bankruptcy, which means uncertainty. Will they be able to provide the Internet and TV services you rely on in the future? To ensure you are not left without vital Internet and TV services, switch to Spectrum.... Windstream has a 2-year contract. With Spectrum there are no contracts. Plus, we will buy you out of your current contract up to $500.” The back of the advertisement said, among other things, “Windstream’s future is unknown, but Spectrum is here to stay ....”

Charter was, Windstream argued, aware that Windstream’s bankruptcy was not going to result in any interruption of service to its customers. Windstream introduced evidence and testimony that the advertisement caused confusion among its customers, and caused it to lose several thousand customers. Windstream also introduced evidence that it offered credits and discounts, launched a corrective advertising campaign, and later launched an additional promotional campaign, all to mitigate the impact of this advertising on its business.

The bankruptcy court granted a TRO and preliminary injunction against the direct mail campaign, and ultimately determined that Charter was liable for violating the automatic stay through its advertising campaign, which the Bankruptcy Court described as “an act to control property of the estate, namely, the debtors’ customers or contracts with those customers.” The court found that Charter should be held in contempt for that violation and sanctioned it $19,179,329.45 for the losses caused thereby. In particular, the conduct that it found to violate the Lanham Act and similar state laws also violated the automatic stay:

[T]he violation of the Lanham Act and its state law equivalents is an act to control property of the estate, namely, the debtors’ customers or contracts with those customers, which would also constitute a violation of the automatic stay, given that those rights are protected by the automatic stay.... [T]he automatic stay was violated by ... interference with the Windstream entities’ contracts with their customers by the mailing campaign.

As the district court notes when it says that Windstream can still pursue its Lanham Act claims, and that it wasn’t addressing the quantum of damages, this means that Charter may ultimately get the same award through other means.

Still, the court held, Charter’s ads didn’t violate the automatic stay, and anyway there was a fair ground of doubt whether they did so, so contempt sanctions should not have been imposed.

The automatic stay is imposed to “protect bankruptcy estates by restraining any formal or informal action or legal proceeding that might dissipate estate assets or interfere with the trustee’s orderly administration of the estate.” Relevant “property of the estate” includes “all legal or equitable interests of the debtor in property as of the commencement of the case,” including a debtor’s interest in executory contracts, “and, in certain circumstances, intangible assets like goodwill.”

Executory contracts: “[A]n automatically renewing subscriber agreement, requiring notice of termination, would be an executory contract subject to the automatic stay.” But there wasn’t sufficient record evidence that Windstream’s customer contracts were of this sort. Regardless of the outcome of this question, however, Charter’s advertisements were not acts to “obtain” or “control” any such contracts.

Goodwill: Where the Bankruptcy Code protects goodwill as property of the estate, it “is typically tied to wrongful impersonation and/or involves goodwill associated with customer lists or trademarks. To the extent the advertising at issue here affected Windstream’s goodwill in the marketplace, it did so not through misuse of intellectual property (like a trademark) or proprietary business information (like customer lists or trade secrets), but through forward-looking representations about Windstream’s business prospects.” This did not constitute an act that “exercised control” over any goodwill cognizable as a property interest.

“Even assuming that Windstream had executory contracts with its customers, and that its goodwill in the marketplace is protected by the automatic stay, Charter did not violate the automatic stay unless its advertisements were ‘an act to obtain possession of property of the estate or of property from the estate or to exercise control over property of the estate.’” This language didn’t clearly encompass solicitation of a debtor’s customers, “which one does not typically regard as ‘exercising control’ over ‘property.’”

The bankruptcy court agreed that advertising alone can’t violate the automatic stay, but distinguished legitimate advertising from false advertising that actionably interferes with contracts and goodwill. But why would some advertising constitute exercising control while other advertising didn’t? “The statute does not prohibit all conduct that harms or interferes with a debtor’s business, but only that which amounts to an effort to obtain or control estate property.”

In general, the stay covers “acts that impair, interfere with or destroy the estate’s interest in contracts or goodwill.” “But it cannot stay all such acts, or any attempt to compete with an entity going through reorganization would be stayed, whether wrongful or not.” The “exercise [of] control” could involve “litigation or other legal action that would, or did, indirectly destroy or transfer control of the debtor’s property,” including intellectual property. But seeking to influence consumer choice via false advertising “is clearly distinguishable from legal actions which would have the downstream effect of altering a debtor’s interest in real property, commercial contracts, or insurance contracts.” Cases involving trade secrets or confidential/proprietary information were also distinguishable.

Ultimately, false advertising is not clearly an act to “exercise control” over contracts or goodwill. Windstream argued that false advertising subverted customer decisions, putting Charter in control. “But even advertising that is not false or misleading can be, and often is, manipulative. And in any case, the customer is not property of the estate.” Wrongful or unlawful conduct is not inherently a violation of the automatic stay.

Moreover, even if the district court was wrong, there was a fair ground of doubt about whether the ads violated the automatic stay, so the bankruptcy court shouldn’t have imposed contempt sanctions.The conclusion that Charter’s advertising campaign “exercises control” over estate property was at least highly debatable. Contempt holding and penalty vacated.