                                                                                                                           Opinions of the United
1999 Decisions                                                                                                             States Court of Appeals
                                                                                                                              for the Third Circuit


7-7-1999

In Re: New Valley
Precedential or Non-Precedential:

Docket 98-6267




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Recommended Citation
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Filed July 6, 1999

UNITED STATES COURT OF APPEALS
FOR THE THIRD CIRCUIT

No. 98-6267

IN RE: NEW VALLEY CORPORATION,

       Debtor

NEW VALLEY CORPORATION, c/o BROOKE GROUP LTD.

v.

CORPORATE PROPERTY ASSOCIATES 2 AND 3,
c/o W.P. CAREY & COMPANY, INC.

Corporate Property Associates 2 and 3,

       Appellants

On Appeal from the United States District Court
for the District of New Jersey
(D.C. No. 98-cv-00982)
District Judge: Honorable Alfred M. Wolin

Argued Friday, May 21, 1999

BEFORE: McKEE, RENDELL and GARTH, Circuit Judges

(Opinion filed July 6, 1999)

       W. Thomas McGough, Jr. (Argued)
       James M. Doerfler
       Reed Smith Shaw & McClay, L.L.P.
       435 Sixth Avenue
       Pittsburgh, PA 15219-1886

       Attorneys for Appellants
       Corporate Property Associates
       2 and 3
       David M. Friedman
       Lorie R. Beers (Argued)
       Howard W. Schub
       Kasowitz, Benson, Torres
        & Friedman LLP
       1301 Avenue of the Americas
       New York, New York 10019

       Attorneys for Appellee
       New Valley Corporation

OPINION OF THE COURT

GARTH, Circuit Judge:

This appeal presents us with the question of whether the
doctrine of unclean hands can be applied to deny relief to
a landlord-creditor when the Bankruptcy Court has held
the landlord-creditor's Proofs of Claim were not related to
the events giving rise to the assertion of unclean hands.

In this case, the Bankruptcy Court held that the alleged
"unclean hands" did not bar the claims for relief sought by
the landlord-creditor, Corporate Property Associates
("CPA"). The District Court for the District of New Jersey
reversed that determination and denied all relief to CPA.

We agree with the Bankruptcy Court that the challenged
actions taken by CPA did not relate to the matters for
which CPA sought payments under its leases, and that the
Proofs of Claim filed by CPA did no more than reserve CPA's
rights, which were controverted by the lessee, New Valley
Corporation ("New Valley"). Accordingly, we will reverse the
district court's Order dated July 13, 1998, denying relief to
CPA, and remand to the district court so that it may resolve
the remaining issues raised by the parties in their
respective appeals to the district court.

I.

The district court had appellate jurisdiction over the final
order of the Bankruptcy Court, dated January 26, 1998

                                2
which followed from its opinion of December 23, 1997,
pursuant to 28 U.S.C. S 158(a).

This Court has jurisdiction under 28 U.S.C. S 158(d) and
28 U.S.C. S 1291 over the final order of the district court,
dated July 13, 1998, which dismissed the claims of CPA
against New Valley. CPA filed a timely Notice of Appeal on
August 11, 1998.

II.

In November, 1981, CPA1 purchased properties in Reno,
Nevada; Moorestown, New Jersey and Bridgeton, Missouri,
from the Western Union Realty Corporation. The Western
Union Telegraph Company had been the tenant of the
properties, which had been owned by Western Union Realty
Corporation.

In December 1981, Western Union Telegraph Company
changed its name to Western Union Corporation ("WUC").
WUC continued to be the tenant of record of the properties.
In August, 1989, Western Union Financial Services, Inc.
(formerly a division of WUC) ("FSI") was spun off as a
wholly-owned corporate subsidiary. Two years later, in
April, 1991, WUC changed its name to New Valley
Corporation.

On March 15, 1990, Donald Wasson, Director of Real
Estate Operations for New Valley,2 faxed proposed "Consent
to Assignment" forms (the "Consents") to Barclay Jones,
then Vice President of CPA.3 The cover letter to the
proposed consent forms stated that as a result of Western
Union's corporate restructuring, New Valley wished"to
assign its lease[s]" to FSI for the Bridgeton and Reno
properties. The proposed Consents concerned only the
Bridgeton and Reno properties. No attempt was made by
_________________________________________________________________

1. There are actually two entities involved as appellees, CPA 2 and CPA
3, which will be referred to collectively as "CPA."

2. Although, as indicated, WUC did not change its name until April
1991, "New Valley" will be used throughout in the interest of clarity.

3. CPA's brief identifies Jones as Vice President of CPA's "general
partner." Because no further identification of CPA's general partner
appears in the record, we refer to Jones as CPA's Vice President.

                               3
New Valley to assign the Moorestown, New Jersey lease.
New Valley asked that CPA execute the Consents.

CPA took no immediate action on the two proposed
Consents. About a month later, however, Wasson and
Jones had a telephone conversation in which Jones stated
that CPA would not agree to any assignments unless the
Moorestown lease was also assigned by New Valley to FSI.
Wasson replied that New Valley did not want to assign the
Moorestown lease, as a decision had already been made by
New Valley to abandon Moorestown. FSI had already been
operating out of the Bridgeton and Reno properties,
whereas New Valley had already moved much of its
operation out of Moorestown. Wasson confirmed his
impression that CPA had not agreed to the assignment of
the Bridgeton and Reno leases in an internal April 12, 1990
memorandum. Jones testified at trial that there had been
no meeting of the minds with regard to the assignments of
the leases.

No discussions were held between the parties on the
issue of the assignments until May, 1993. On May 18,
1993, CPA faxed to New Valley what were purported to be
executed "Consent to Assignment" forms for the Bridgeton
and Reno leases. New Valley was already in bankruptcy by
that date. In a letter from New Valley to CPA's counsel,
dated September 8, 1993, New Valley stated that it"flatly
dispute[d]" CPA's execution of the proposed Consents. New
Valley had no record of the fully executed "Consent to
Assignment" forms in its files. CPA responded with a letter
on September 30, 1993, stating that New Valley's position
reflected only a "creative bankruptcy solution" that was
intended to shield FSI from liability.

On October 4, 1993, John C. Walters, a Senior Vice
President of New Valley, sent a letter to CPA in order to
clarify the situation involving the Bridgeton and Reno
leases. The letter stated that "[w]hile FSI admittedly has
operated out of the Bridgeton and Reno sites since it
became operational in 1990, it has done so pursuant to an
agreement with New Valley . . . which obligates FSI to
reimburse New Valley for its pro rata share of the expenses.
. . ." Walters noted that New Valley had wanted to assign

                               4
the leases to FSI in 1990, but that it believed it could not
do so without CPA's approval.

The Consents that were forwarded by CPA on May 18,
1993, had been signed on behalf of CPA by Jones, but they
were dated April 15, 1990. Jones was named as "Executive
Vice President," a title that he in fact did not attain until
approximately a year after the purported execution date.
The date the Consents were executed, April 15, 1990, also
happened to be the date of Easter Sunday. New Valley at
trial presented evidence that the Consents could not have
been executed on April 15, 1990, and the Bankruptcy
Court credited this evidence. At trial, Jones testified that
although he recalled signing the Consents, he could not
recall whether he signed them on Easter Sunday, 1990.

In addition, there was evidence that, even after the
purported date of the assignments (April 15, 1990), CPA
was aware that New Valley in fact remained the tenant of
Bridgeton and Reno. For example, Jones testified that, in
September 1991, CPA sent a letter to New Valley
announcing a rent increase. Further, CPA accountants
requested information from New Valley in December 1991
and again in December 1994 relating to the tenancy of
Bridgeton and Reno.

III.

The instant litigation commenced on November 15, 1991,
when an involuntary Chapter 11 petition was filed against
New Valley. New Valley consented to an entry of an order
for relief under Chapter 11 on March 30, 1993.

In April, 1993, New Valley moved before the Bankruptcy
Court to reject the Moorestown lease. At about the same
time, New Valley moved to extend the deadline to assess
whether to reject the leases for Bridgeton and Reno. On
May 24, 1993, the Bankruptcy Court approved the rejection
of the Moorestown lease. Although initially CPA objected to
the extension of the deadline sought by New Valley, it
withdrew its objection because, it alleged, these leases
[Bridgeton and Reno] may have been assigned to FSI.

As earlier mentioned, on May 18, 1993, in support of its
argument that the Bridgeton and Reno leases had been

                               5
assigned to FSI, CPA faxed copies of what were purported
to be fully executed "Consent to Assignment" forms for
those leases. On September 8, 1993, New Valley wrote to
CPA and stated that it was New Valley's understanding that
the leases had not been assigned. In its September 30,
1993 letter, CPA implied that whether the leases had been
assigned informally or de facto was a question best resolved
through litigation.

Also on September 30, 1993, CPA filed its first Proof of
Claim with the Bankruptcy Court. With respect to the
Bridgeton and Reno leases, CPA contended that

       [a]lthough the [Bridgeton and Reno] leases were
       assigned and assumed by [FSI], a non-debtor
       subsidiary of [New Valley], because [New Valley] has
       taken the position in this bankruptcy case that the two
       leases were not assigned, [CPA] ha[s] included these
       amounts in its Proof of Claim as a precautionary
       measure. [CPA] hereby reserve[s] the right to argue that
       the Bridgeton and Reno leases were in fact assigned to
       and assumed by FSI.

CPA included an almost identical reservation of rights in its
second Proof of Claim, which was filed on January 20,
1995. This second Proof of Claim was concerned only with
Reno, and was evidently filed to reflect additional
information. The Bankruptcy Court approved New Valley's
rejection of the Reno lease in December 1994.

After extensive discovery and briefing, the Bankruptcy
Court resolved some rental issues in an order dated
October 29, 1996, on the parties' cross-motions for
summary judgment on New Valley's objections to the Proofs
of Claim. Those matters not resolved on motions proceeded
to trial on issues relating only to the Reno and Moorestown
properties. CPA's claims concerning Bridgeton had been
settled before trial, and CPA's claims regarding Bridgeton
were withdrawn with prejudice in June, 1997.

The trial, which was held in July, 1997, took eight days
to complete. The Bankruptcy Court determined that CPA's
statements in its Proofs of Claim -- and its similar
statements in January 1996 in a response to New Valley's
Request for Admissions and Interrogatories -- did not

                               6
constitute admissions by CPA of its belief that the leases
had been assigned. Rather, the Bankruptcy Court held that
CPA did not have sufficient information to determine
whether the leases had been assigned or not.

On December 23, 1997, the Bankruptcy Court issued an
opinion in favor of CPA. The Bankruptcy Court, after
deducting certain amounts from CPA's claims, awarded
CPA a total of $2,888,469.30 in unpaid rent and other costs.4
Approximately $824,000.00 of this amount was attributable
to the Reno lease, and the remainder ($2,056,469.30) was
attributable to the Moorestown lease.5

The Bankruptcy Court explicitly found that CPA's
conduct regarding the assignments of the Bridgeton and
Reno leases did not merit disallowance of its claims.
Although the Bankruptcy Court was "wholly unconvinced"
that CPA actually believed that the Bridgeton and Reno
leases had been assigned, nevertheless it found"no impact
on the proofs of claim . . . since the alleged assignments did
not bear on any element of the proof[s] of claim. Without
more, they are not sufficient circumstantial evidence that
CPA concocted an inflated claim. Rather, it appears to have
been a somewhat misguided effort to preserve a right
against FSI in the event CPA was unlikely to be paid in the
New Valley case."6 Further, the Bankruptcy Court agreed
with New Valley that it was "likely that the Consents were
backdated and then produced to avoid the prospect of being
limited to a lease rejection claim in the New Valley
bankruptcy."7

The Bankruptcy Court concluded that CPA's conduct
with regard to a claim against FSI arising out of the alleged
assignments, was not dispositive of its claims against New
_________________________________________________________________

4. CPA had claimed a total due from New Valley of $3,499,084.84.

5. We note that these figures, employed by CPA in its brief, add up to
$2,880,469.30, while the Bankruptcy Court, as noted in text, awarded
CPA a total of $2,888,469.30. This discrepancy is not explained by the
parties. The discrepancy, however, does not affect our disposition of this
appeal.

6. Bankruptcy Court Op. at 41.

7. Id. at 25.

                                 7
Valley. "If the court had before it an objection by FSI to a
CPA claim the issues surrounding execution of the
Consents would be directly pertinent." However, as the
claims at issue were against New Valley, and not FSI, CPA's
conduct did not warrant having its claims disallowed.

Both parties appealed to the District Court for the
District of New Jersey. While both raised a number of
issues, the district court ruled only on the issue of unclean
hands, raised by New Valley. The other issues, it decided,
were rendered moot by its decision.8

The district court reversed the Bankruptcy Court's
determination on the grounds that the Bankruptcy Court
had "abused its discretion . . . because [it] applied the
wrong legal principle." The district court did not dispute
that the Bankruptcy Court did in fact have discretion to
refuse to apply the unclean hands doctrine.

Specifically, the district court, relying upon Gaudiosi v.
Mellon, 269 F.2d 873 (3d Cir.), cert. denied, 361 U.S. 902
(1959), concluded that the Bankruptcy Court, by failing to
apply the unclean hands doctrine, did not follow the law of
this Circuit. Rather, the district court concluded that the
doctrine of unclean hands should be applied to protect the
integrity of the court itself, regardless of whether the
unclean hands of a creditor injured a party and regardless
_________________________________________________________________

8. In addition to the issue of unclean hands, New Valley appealed the
Bankruptcy Court's evidentiary ruling regarding CPA's alleged
admissions, and its ruling that CPA's claim for rent for the Moorestown
property was not subject to 11 U.S.C. S 502(b)(6)'s mandatory cap.

CPA appealed 1) the ruling of the Bankruptcy Court that its deferred
maintenance costs were capped under section 502(b)(6); 2) the
calculation of the section 502(b)(6) cap; 3) the determination of the
reasonable rental rate for Moorestown; 4) the exclusion of CPA's claim
for the cost of retaining maintenance; and 5) the Bankruptcy Court's
determination of the effective rejection date for the Moorestown lease.

Because the district court held that all of CPA's claims were barred by
CPA's "unclean hands," it did not reach or decide the appeals taken with
regard to the other issues decided by the Bankruptcy Court. We have no
occasion to address those issues either, as the only question before us
is whether the district court erred in holding that CPA's unclean hands
barred it from relief.

                                8
of the presence of any immediate and necessary
relationship between the claims before the court and the
events giving rise to the assertion of unclean hands. The
district court then held that CPA's conduct involving the
Consents amounted to unclean hands and therefore it
disallowed CPA's claims.

The district court did not hold that the Bankruptcy
Court's findings of fact were clearly erroneous. However,
while crediting the Bankruptcy Court's findings of fact, the
district court concluded that CPA had fabricated evidence
(i.e., the executed Consents) and had advocated before the
Bankruptcy Court a theory of assignment that it knew not
to be true. The district court also questioned the testimony
that Jones gave before the Bankruptcy Court. Predicated on
its own analysis, and drawing upon selected findings made
by the Bankruptcy Court, the district court then concluded,
contrary to the conclusion reached by the Bankruptcy
Court, that CPA's conduct did have an immediate and
necessary relationship with CPA's claims against New
Valley.

The district court closed its opinion with the observation
that "this Court must hold corporations responsible for
their misconceived and improper conduct. Corporate ethics,
professionalism, and verity are not lost on this Court, and
when corporations denigrate these values through lack of
candor . . . this Court will not countenance this type of
conduct . . . [and will cause it] to apply the appropriate
punishment." The district court's "appropriate punishment"
here consisted of barring all relief to CPA, thereby denying
CPA the $2,888,469.30 which the Bankruptcy Court had
determined was due from New Valley.

This appeal followed.

IV.

In bankruptcy proceedings, we have determined that an
abuse of discretion exists when "the [trial] court's decisions
rests upon a clearly erroneous finding of fact, an errant
conclusion of law, or an improper application of law to
fact." In re Marvel Entertainment Group, Inc., 140 F.3d 463,
470 (3d Cir. 1998) (citations omitted). Here, as the district

                               9
court did not question the Bankruptcy Court's findings of
fact, it concluded that the Bankruptcy Court had abused
its discretion in not applying the unclean hands doctrine on
the basis of an incorrect conclusion of law.

This court reviews findings of fact by the Bankruptcy
Court under a clearly erroneous standard, and its
conclusions of law under a plenary standard. In re Visual
Indus., Inc., 57 F.3d 321 (3d Cir. 1995). Because the
district court sits as an appellate court in bankruptcy
cases, our review of the district court's decision is plenary.
Id. at 324. See also Fellheimer, Eichen & Braverman, P.C. v.
Charter Technologies, Inc., 57 F.3d 1215, 1223 (3d Cir.
1995).

CPA frames the issue as whether the Bankruptcy Court,
"which presided over the lengthy proceedings and trial in
this matter, abused its discretion in declining to apply"
unclean hands. CPA referred us to Castle v. Cohen, 676 F.
Supp. 620 (E.D. Pa. 1987), aff'd in part and remanded on
other grounds, 840 F.2d 173 (3d Cir. 1988), 9 which had
declined to apply the unclean hands doctrine to trustees of
an employee stock ownership plan. In doing so, CPA
identified five elements that must be present to warrant
application of unclean hands against a party. CPA argued
that the doctrine is applicable when: 1) a party seeking
equitable relief; 2) is guilty of conduct involving fraud,
deceit, unconscionability, or bad faith; 3) directly related to
the matter in issue; 4) that injures the other party; and 5)
affects the balance of equities between the litigants. CPA
claims that essential elements of the unclean hands
doctrine are lacking in the instant case.

In particular, CPA argued that there was no direct
relationship between its conduct regarding the "Consent to
Assignment" forms and its Proofs of Claim. CPA reinforces
its argument by referring to the Supreme Court's"clean
_________________________________________________________________

9. This court, affirming the Castle district court on this issue, held
that
the district court had not abused its discretion in rejecting a claim that
the trustees had "unclean hands." We recited that under our "limited
scope of review on this issue [unclean hands], we cannot conclude after
reviewing the record [in Castle v. Cohen] that the district court's
finding
on this point is clearly erroneous." Castle, 840 F.2d at 178.

                               10
hands" analysis in Keystone Driller Co. v. General
Excavating Co., 290 U.S. 240 (1933), which, among other
elements, requires that there be an "immediate and
necessary relationship" between the conduct and the
matters in litigation. The Supreme Court stated:

       [C]ourts of equity do not make the quality of suitors
       the test. They apply the maxim requiring clean hands
       only where some unconscionable act of one coming for
       relief has immediate and necessary relation to the
       equity that [the party] seeks in respect of the matter in
       litigation. They do not close their doors because of
       plaintiff 's misconduct whatever its character, that has
       no relation to anything involved in this suit, but only
       for such violations of conscience as in some measure
       affect the equitable relations between the parties in
       respect of something brought before the court for
       adjudication. . . . They apply the maxim, not by way of
       punishment for extraneous transgressions, but upon
       considerations that make for the advancement of right
       and justice.

290 U.S. at 245. In Keystone, the plaintiff (Keystone) sued
for patent infringement. In an earlier case, against different
parties, Keystone had prevailed and its patents were
declared valid. Keystone then used this first judgment to
bring actions against other alleged infringers. In the second
case, Keystone sought preliminary injunctions to protect
the patents. The injunctions were denied, and the case
proceeded to trial.

During the course of the trial in Keystone, it was
discovered that Keystone, in its earlier case, had concealed
evidence which questioned and may have tainted the
validity of the patents. Affirming the Court of Appeals, the
Supreme Court held that this conduct by Keystone
constituted unclean hands and barred Keystone from
recovery. The Supreme Court stated that the earlier decree
of validity obtained in Keystone's first case was used as the
basis of Keystone's action in its subsequent case. Keystone,
290 U.S. at 246. The Court inferred that "from the
beginning it was plaintiff's intention through suppression
of . . . evidence to obtain [a] decree in [the first case] for use
in subsequent infringement suits against these defendants

                               11
and others." Id. at 247. Therefore, Keystone's misconduct
had a direct relation to the relief sought, so as to bar
recovery. Id.

Although here CPA acknowledges that the district court
had determined that the Consents were "immediately and
necessarily related" to the litigation before the Bankruptcy
Court, it argues that the district court erred in reaching
that conclusion. CPA contends that the district court's
conclusion that CPA lied about the assignment "was never
`asserted' in a manner that would constitute a fraud on the
Bankruptcy Court."

CPA is persuasive in arguing that the doctrine of unclean
hands should not be used to strip away millions of dollars
in damages for conduct that the Bankruptcy Court had
found was not related to CPA's claims. Indeed, CPA argues
that unclean hands cannot be applied by way of
punishment for an "extraneous transgression," see
Keystone, 290 U.S. at 245, particularly where the
"transgression" charged in this case had no relationship to
the Moorestown lease.

It must be remembered that no "Consent to Assignment"
form had ever been executed or was claimed by CPA to
have been executed with respect to the Moorestown lease,
and the Moorestown lease was responsible for more than
two-thirds of the damages awarded by the Bankruptcy
Court.10 CPA goes on to argue that to sustain the decision
of the district court would be to grant New Valley
"something for nothing," i.e. possession of CPA's property
for years without adequate payment. Such a result, CPA
claims, is alien to principles of equity.
_________________________________________________________________

10. A fair reading of the Bankruptcy Court's opinion reveals that the
Bankruptcy Court was concerned only with New Valley's challenges to
the amount of CPA's claims, i.e., whether CPA's monetary claims arising
out of the leases were inflated. As a consequence, the Bankruptcy Court
did not find it necessary to decide any issue respecting the Consents to
Assignment but dwelt only on the rental, maintenance, and other
monetary charges that were the subject of CPA's Proofs of Claim. Hence,
the Bankruptcy Court concluded, as do we, that the Consents had no
relation to the merits of CPA's claim.

                               12
On the other hand, New Valley claims that the district
court was correct in holding that CPA's conduct barred any
recovery. Referring to our decision in Ciba-Geigy Corp. v.
Bolar Pharmaceutical Company, Inc., 747 F.2d 844 (3d Cir.
1984), cert. denied, 471 U.S. 1137 (1985), New Valley
charges that for unclean hands to be applied against a
party, generally all that needs to be shown are the
following: 1) an unconscionable act; 2) that affects the
equitable relations between the parties; 3) concerning
something brought before the court for adjudication. New
Valley claims that we should focus on whether a party to a
controversy has acted in such a manner as to "shock the
moral sensibilities of the judge," and, citing to Gaudiosi,
269 F.2d at 882, contends that CPA's conduct was directly
related to the claims at issue in the litigation. New Valley
contends that merely because CPA abandoned its
"fraudulent" claim before trial does not mean that its hands
became clean after years of having advanced a theory in
motion practice and discovery that both the Bankruptcy
and district courts later discredited as a sham.

New Valley argued that what "CPA sought was afinding
that FSI . . . was liable to it for damages under the leases;
the proofs of claim were filed against New Valley in the
event that CPA was unsuccessful in establishing FSI's
liability."11 New Valley charged that to obtain that relief,
CPA manufactured evidence and pursued a theory it knew
to be false. "Moreover, CPA's conduct posed an enormous
monetary risk to New Valley because New Valley was
obligated to indemnify FSI against any liability under the
Reno Lease."12

Relying upon Keystone, New Valley argued before us that
there is a broader standard of when conduct is "related" for
purposes of unclean hands. New Valley emphasized that
CPA backdated documents and filed fraudulent proofs of
claim before the Bankruptcy Court, and contended"[i]t
strains credulity to accept CPA's contention that it
backdated documents and manufactured evidence to
_________________________________________________________________

11. New Valley Br. at 30.

12. Id. at 31.

                               13
support claims that it did not believe it had placed before
the court."

V.

Although the parties disputed the applicability of
equitable defenses to legal claims in a bankruptcy
proceeding, we are far more concerned with the critical
element of the unclean hands doctrine, i.e., the relationship
between the challenged conduct of CPA pertaining to the
Consents, and the rental and other monies sought by CPA
as a result of the Reno and Moorestown leases. First and
foremost, we are convinced by the Bankruptcy Court's
findings and its conclusion that the Consents had no
"immediate and necessary" relationship to the Proofs of
Claim. The Proofs of Claims filed by CPA, by their own
terms, reserved for litigation the dispute as to assignment
of the leases. Inasmuch as the Bankruptcy Court'sfindings
were not held by the district court to be clearly erroneous,
nor can they be so held by us, those findings could not
trigger the doctrine of unclean hands under our standard of
review.

In our view, the primary principle guiding application of
the unclean hands doctrine is that the alleged inequitable
conduct must be connected, i.e., have a relationship, to the
matters before the court for resolution. We will not refuse
relief to a party merely because it has engaged in
misconduct which is unrelated to its claims before the
court. Only when "some unconscionable act of one coming
for relief has immediate and necessary relation to the equity
that" the party seeks, will the doctrine bar recovery.
Keystone, 290 U.S. at 245. Here of course those issues
involved CPA's Proofs of Claim which sought payment for
monies due under New Valley's leases.

As an equitable doctrine, application of unclean hands
rests within the sound discretion of the trial court. See,
e.g., Ciba-Geigy, 747 F.2d at 855 (refusing to apply unclean
hands). Moreover, neither we nor the Supreme Court has
required, as argued by New Valley, that application of the
unclean hands doctrine is mandatory. The precedents that
we find controlling make clear that there must be a

                               14
relationship between the inequitable conduct and the
claims brought before the court in order for the doctrine to
apply; even then, the court has discretion to limit the reach
of the doctrine to only some of the claims. See , e.g.,
Keystone, 290 U.S. 240; Ciba-Geigy, 747 F.2d 844.

The Supreme Court in Keystone held that"when
assessing whether to invoke the doctrine of unclean hands,
courts of equity must not be bound by formula or
restrained by any limitation that tends to trammel the free
and just exercise of discretion." 290 U.S. at 245-46. When
applying the doctrine, the courts in this Circuit have
generally been clear that the connection between the
misconduct and the claim must be close. For example, in
Monsanto v. Rohm & Haas Co., 456 F.2d 592 (3d Cir.), cert.
denied, 407 U.S. 934 (1972), this Court upheld a judgment
declaring a Monsanto patent invalid and unenforceable.
456 F.2d at 594. The Court found that Monsanto had
misrepresented the properties of its product (a herbicide) in
order to obtain a patent, although a claim for the same
product had been rejected in an earlier patent application.
Id. at 596-97. The claim of infringement brought by
Monsanto therefore directly depended upon Monsanto's
misrepresentations of Monsanto's own patent, thereby
providing the essential relationship for application of the
doctrine. Thus, this court, after citing to Keystone, id. at
598, found that the district court was correct in concluding
Monsanto had come to court with unclean hands.
Monsanto, 456 F.2d at 600.

Where this Court has not applied unclean hands, the
misconduct alleged has not been directly related to the
subject of the plaintiff 's suit. In Ciba-Geigy, we upheld the
district court's grant of a permanent injunction in favor of
Ciba despite allegations that Ciba had unclean hands. The
district court found that evidence that Ciba had mislabelled
drugs, sold adulterated batches of drugs and violated FDA
regulations was insufficient to warrant application of
unclean hands, as it did not involve nor relate to the matter
of Ciba's claims against Bolar. Ciba-Geigy, 747 F.2d at 855.
See also Northeast Women's Ctr. v. McMonagle, 868 F.2d
1342, 1354 (3d Cir.) (reversing the district court's ruling
that unclean hands had precluded Northeast from

                               15
obtaining an injunction against the defendants because
Northeast's alleged misconduct (violation of health
regulations) had no relationship to the defendants' acts in
interfering with Northeast's claims), cert. denied, 493 U.S.
901 (1989); General Dev. Corp. v. Binstein, 743 F. Supp.
1115, 1136 (D.N.J. 1990) (refusing to apply unclean hands
despite evidence that General Development was a general
"malefactor" because that evidence did not relate directly to
the misrepresentations alleged in the complaint).

The two cases relied on most heavily by the parties are
not to the contrary. As we have noted, Keystone, while
holding that unclean hands precluded the plaintiff
(Keystone) from the relief it sought, nevertheless requires
an "immediate and necessary" relationship between the
conduct and the claims at issue. In Keystone, that
relationship was found to be present, and hence, the
Supreme Court upheld application of the doctrine.

In Gaudiosi, this court applied the doctrine of unclean
hands in a proxy contest context. Our court upheld the
determination of the district court that Gaudiosi had tried
to "intimidate" a set of investors by sending a letter to them
in order to influence their votes. In doing so, Gaudiosi had
violated SEC solicitation regulations. Gaudiosi, 269 F.2d at
879. While our court focussed on the integrity of the court
when faced with an assertion of inequitable conduct, and
while we explicitly stated that no injury needed to be
shown, id. at 881-82, it is crystal clear from the facts of the
case that Gaudiosi's misconduct -- the intimidation of
shareholders -- was directly related to the case before the
court, which concerned the validity of a corporate election.

Given these precedents and their uniform requirement of
an "immediate and necessary" relationship between the
challenged conduct and the claims for relief, we cannot
sustain the district court's decision in this case, where that
relationship is absent. The district court implicitly agreed
with the Bankruptcy Court's determination that there was
little connection between the Consents and CPA's claims.
The district court, while emphasizing the actions of CPA in
backdating the Consents to Assignment, at no time
suggested that a direct relationship ever existed between
CPA's conduct and CPA's Proofs of Claim.

                               16
Rather, in its opinion, the district court stated three
reasons why unclean hands should prevent the recovery of
monies by CPA. First, CPA had alleged a consent to
assignment theory that it knew to be untrue; second, the
testimony of Jones concerning the Consents strongly
indicated a "selective memory;" and third, CPA misleadingly
implied that it was confused as to which entity was CPA's
tenant. It did so, despite some information in CPA's
possession that indicated New Valley had remained CPA's
tenant.

However, none of the issues which the parties disputed
and which pertained to the Moorestown property were
connected with the Consents to Assignment, and it was
those issues that accounted for two-thirds of CPA's claims.
The Consents, as noted earlier, related only to the
Bridgeton and Reno leases. Moreover, the Consents simply
have no relationship to CPA's claims for monies against
New Valley arising out of New Valley's tenancy of Reno.
Even more so, the Consents had no direct relationship to
CPA's claims concerning Bridgeton. Those claims, as we
have noted, had been settled earlier. Yet, the district court's
reasons focus almost exclusively on the issue of the
Consents.

Nor do the Proofs of Claim support the district court's
holding. Indeed, under the district court's analysis, it is
difficult to imagine what different or alternative language
CPA could have used in its Proofs of Claim to reserve any
of its rights against New Valley. The Proofs of Claim merely
set forth the fact that CPA and New Valley had differing
interpretations concerning the status of the leases. Had
CPA waited until the assignment issue had been litigated,
it would have been out of time in presenting its bankruptcy
claims against New Valley.

We hold that the Bankruptcy Court (1) applied the
correct legal standard, drawn from Keystone and Gaudiosi,
which established the principle of direct relationship in the
cases we have cited, and (2) was not clearly erroneous in its
factfinding, when it concluded that there was no immediate
and necessary relationship between New Valley's assertion
of unclean hands and CPA's claims.

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VI.

We will therefore reverse the Order of the district court
dated July 13, 1998, and remand to the district court for
further proceedings (see, e.g., note 8, supra) consistent with
this opinion.

A True Copy:
Teste:

       Clerk of the United States Court of Appeals
       for the Third Circuit

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