In the
United States Court of Appeals
For the Seventh Circuit

No. 99-3800

In re:

Hewlett E. Morris, Jr.,
a/k/a H. Edward Morris,

Debtor-Appellee.



Appeal of:    Shaw Steel, Inc.



Appeal from the United States District Court
for the Northern District of Illinois, Eastern Division.
No. 99 C 2327--Elaine Bucklo, Judge.


Argued May 31, 2000--Decided August 11, 2000



      Before Flaum, Chief Judge, and Bauer and
Harlington Wood, Jr., Circuit Judges.

       Flaum, Chief Judge. Plaintiff Shaw Steel, Inc.
appeals the district court’s decision affirming
a bankruptcy court’s determination that defendant
Hewlett E. Morris, Jr.’s (a/k/a H. Edward Morris)
debt to Shaw Steel was not exempt from discharge
under 11 U.S.C. sec. 523(a)(2)(B) of the United
States Bankruptcy Code. For the reasons stated
herein, we affirm the decision of the district
court.

I.   Background

      In 1993, Shaw Steel filed suit in the United
States District Court for the Northern District
of Ohio against O.L. Anderson Co. and defendant
Morris, the Chairman of the Board and Chief
Executive Officer of O.L. Anderson. In its
complaint, Shaw Steel alleged that O.L. Anderson
owed it money for materials that Shaw Steel had
previously shipped to O.L. Anderson. Shaw Steel
also alleged that Morris, in his capacity as a
corporate officer for the company, had
fraudulently induced Shaw Steel to extend credit
to O.L. Anderson for the purchase of those
materials.

      On September 1, 1993, the United States
District Court for the Northern District of Ohio
entered judgment in favor of Shaw Steel and
against O.L. Anderson in the amount of
$215,836.69 plus 10% interest on that amount from
November 17, 1992. At the time this judgment was
entered, Shaw Steel’s complaint against Morris
was dismissed without prejudice. Subsequent to
the entry of judgment in favor of Shaw Steel, and
prior to the satisfaction of O.L. Anderson’s
judgment debt to Shaw Steel, O.L. Anderson was
dissolved without any money being paid to Shaw
Steel.

      When O.L. Anderson was dissolved prior to the
payment of its judgment debt to Shaw Steel, Shaw
Steel again filed suit against Morris in the
United States District Court for the Northern
District of Ohio alleging the same fraud that was
the subject of its first complaint. On July 26,
1994, Shaw Steel signed a stipulated entry
dismissing its case against Morris with prejudice
and, on August 22, 1994, Shaw Steel and Morris
executed a "Settlement Agreement and Mutual
General Release" ("Settlement Agreement" or
"Agreement"). This Agreement provided for the
payment of $35,000 by Morris to Shaw Steel, and
it contained a variety of representations as to
Morris’s financial condition./1 The Agreement
also incorporated an Affidavit of Financial
Condition previously given by Morris to MNC
Financial Group, a major lender to O.L. Anderson.
As part of the Settlement Agreement, Morris
consented to Shaw Steel’s investigation of the
representations he made in that Agreement.

      Under the terms of the Settlement Agreement,
Shaw Steel had the right to challenge the
statements made by Morris in the Settlement
Agreement as to his financial condition by
commencing an arbitration proceeding. If Shaw
Steel decided to commence such a proceeding, the
sole issue to be arbitrated was the material
accuracy of Morris’s representations. The
Settlement Agreement also provided that if the
arbitration terminated in Shaw Steel’s favor, a
previously-agreed consent judgment in the amount
of $215,000 could be filed in the United States
District Court for the Northern District of Ohio.

      On July 13, 1995, Shaw Steel commenced
arbitration proceedings pursuant to the
Settlement Agreement after an investigation led
it to believe that Morris’s statements as to his
financial condition were false. Morris then filed
suit in Michigan state court seeking to enjoin
Shaw Steel from proceeding with the arbitration.
This state court action was removed to federal
district court and, after summary judgment was
granted to Shaw Steel, the arbitration continued.
On April 16, 1997, an arbitration panel ruled in
Shaw Steel’s favor, finding that there were
material inaccuracies in the representations made
by Morris in the Settlement Agreement. This
arbitration award was later confirmed by the
United States District Court for the Northern
District of Ohio and Shaw Steel’s consent
judgment against Morris was entered.

      On December 23, 1997, Morris filed a voluntary
bankruptcy petition under Chapter 7 of the
Bankruptcy Code in the United States Bankruptcy
Court for the Northern District of Illinois.
Although Shaw Steel argued that the money owed to
it by Morris pursuant to the arbitration award
and consent judgment was not dischargeable in
bankruptcy under 11 U.S.C. sec. 523(a)(2)(B), the
bankruptcy court disagreed. The bankruptcy court
held that Morris’s debt to Shaw Steel was
dischargeable because Shaw Steel could not show
that its reliance on Morris’s representations was
reasonable. This determination was affirmed by
the district court, and Shaw Steel now appeals.

II.   Analysis

      "In the ordinary course of bankruptcy, the
debtor’s assets are applied to the payment of his
debts and, even though the assets will usually be
insufficient to pay those debts in full, he will
emerge from bankruptcy with the unpaid balance
discharged . . . ." McClellan v. Cantrell, 2000
WL 876933, at *1 (7th Cir. July 5, 2000). In this
case, however, Shaw Steel contends that Morris’s
debt is exempt from a general discharge under
Chapter 7. Specifically, Shaw Steel argues that
because Morris’s debt stems from his fraudulent
misrepresentations as to his financial condition,
that debt is excepted from discharge under 11
U.S.C. sec. 523(a)(2)(B). See, e.g., FDIC v.
Meyer (In re Meyer), 120 F.3d 66, 68 (7th Cir.
1997) (stating that "debts [that] can survive
[bankruptcy] whole despite a general discharge"
include "those that a debtor incurred with the
aid of fraud and deceit"). In considering the
bankruptcy court’s determination that Shaw Steel
did not reasonably rely on Morris’s statements
regarding his financial condition, we recognize
that "’exceptions to discharge are to be
constructed strictly against a creditor and
liberally in favor of the debtor.’" Goldberg
Securities, Inc. v. Scarlata (In re Scarlata),
979 F.2d 521, 524 (7th Cir. 1992) (quoting In re
Zarzynski, 771 F.2d 304, 306 (7th Cir. 1985)). We
review the bankruptcy court’s legal conclusions
de novo and its factual findings for clear error.
See In re A-1 Paving & Contracting, Inc., 116
F.3d 242, 243 (7th Cir. 1997).

      The statutory provision at issue in this case,
section 523(a)(2)(B) of the Bankruptcy Code,
provides that:
A discharge . . . does not discharge an
individual debtor from any debt--for money,
property, services, or an extension, renewal, or
refinancing of credit, to the extent obtained by-
-use of a statement in writing--(i) that is
materially false; (ii) respecting the debtor’s or
an insider’s financial condition; (iii) on which
the creditor to whom the debtor is liable for
such money, property, services, or credit
reasonably relied; and (iv) that the debtor
caused to be made or published with intent to
deceive . . . .

11 U.S.C. sec. 523(a)(2)(B); see also In re
McFarland, 84 F.3d 943, 946 (7th Cir. 1996); In
re Sheridan, 57 F.3d 627, 633 (7th Cir. 1995)
("In order to prevail on a claim under 11 U.S.C.
sec. 523(a)(2)(B), a creditor must prove . . .
that a debtor made, with an intent to deceive, a
materially false written statement regarding his
financial condition and that the creditor relied
on that statement."). Under section 523(a)(2)(B),
Morris’s debt to Shaw Steel is presumed to be
dischargeable, see McFarland, 84 F.3d at 946,
unless Shaw Steel can demonstrate by a
preponderance of the evidence that the debt meets
the requirements of the statutory exception, see
Grogan v. Garner, 498 U.S. 279, 291 (1991); In re
Thirtyacre, 36 F.3d 697, 700 (7th Cir. 1994).

      The issue in dispute between Morris and Shaw
Steel centers on the reasonableness element of
section 523(a) (2)(B)’s reliance requirement. See
11 U.S.C. sec. 523(a)(2) (B)(iii); see also Field
v. Mans, 516 U.S. 59, 68 (1995) (stating that, in
contrast to the less-demanding justifiable
reliance standard applied in section 523(a)(2)(A)
cases, "[s]ection 523(a)(2)(B) expressly requires
. . . reasonable reliance . . ."). The district
court held that the bankruptcy court correctly
found that Morris’s debt to Shaw Steel did not
qualify for an exemption from discharge on the
ground that Shaw Steel did not reasonably rely on
the representations Morris made in the Settlement
Agreement as to his financial condition. In
reaching this conclusion, the district court
found it significant that Melvin Morris, Vice
President of Shaw Steel, testified that he had
"reservations" about Morris’s honesty and that he
did not know whether the statements made by
Morris in his affidavit were true or false. The
district court also noted that Howard Klein, Shaw
Steel’s investigator, stated that both Melvin
Morris and Harry Sulzer, the President of Shaw
Steel, did not believe the representations in
Morris’s affidavit. Moreover, as the district
court recognized, Morris’s past dealings with
Shaw Steel gave the company good reason to doubt
his veracity. According to the district court,
Shaw Steel could not have reasonably relied on
Morris’s affidavit absent prior investigation in
light of the legitimate doubts its officers
admitted having as to the representations made by
Morris in the Settlement Agreement.

      Although Shaw Steel acknowledges its burden to
establish that it reasonably relied on Morris’s
statements, it contends that the bankruptcy court
applied too strict a standard of reasonableness.
In support of this argument, Shaw Steel cites
prior judicial interpretations of the
reasonableness standard, including a decision of
this Court in which we stated that
"reasonableness is circumstantial evidence of
actual reliance" and that a creditor should not
be denied protection against discharge unless the
"creditor’s claimed ’reliance’ on a ’financial
statement’ would be so unreasonable as not to be
actual reliance at all." Northern Trust Co. v.
Garman (In re Garman), 643 F.2d 1252, 1256 (7th
Cir. 1980)./2 Shaw Steel further notes that one
of our sister circuits, relying in part on our
decision in Garman, has stated that "[a] district
court reviewing a bankruptcy court’s
determination of reasonable reliance is not ’to
undertake a subjective evaluation and judgment of
a creditor’s lending policy and practices.’" Bank
One, Lexington, N.A. v. Woolum (In re Woolum),
979 F.2d 71, 76 (6th Cir. 1992) (quoting Garman,
643 F.3d at 1256). According to Shaw Steel, the
bankruptcy court erred in its reasonableness
determination because it failed to recognize that
"the reasonableness requirement of sec. 523(a)
(2)(B) ’cannot be said to be a rigorous
requirement, but rather is directed at creditors
acting in bad faith.’" Woolum, 979 F.2d at 76
(quoting Martin v. Bank of Germantown (In re
Martin), 761 F.2d 1163, 1166 (6th Cir. 1985)).

      Although we agree with Shaw Steel’s analysis of
the relevant precedent and its assertion that
district courts are not to use the reasonable
reliance requirement of section 523(a)(2)(B) to
second-guess a creditor’s lending decisions, we
cannot conclude that the district court clearly
erred in finding that Shaw Steel did not
reasonably rely on Morris’s representations as to
his financial condition, see Fed.R.Bank.P. 8013
(mandating a clearly erroneous standard of review
for a bankruptcy judge’s findings of fact); In re
Bonnett, 895 F.2d 1155, 1157 (7th Cir. 1989)
("[A] bankruptcy court’s determination of
dischargeability is subject to a clearly
erroneous standard of review.") (citing Prairie
Prod. Credit Ass’n v. Suttles (In re Suttles),
819 F.2d 764, 765 (7th Cir. 1987)). "The
reasonableness of a creditor’s reliance should be
determined on a case by case basis," Bonnett, 895
F.2d at 1157 (citation omitted), and the
bankruptcy court should not be "overturned
’simply because [the appellate court] is
convinced it would have decided the case differently.’"
Id. (quoting Anderson v. City of Bessemer City,
470 U.S. 564, 573 (1985)). Rather, "’[w]here
there are two permissible views of the evidence,
the [bankruptcy court’s] choice between them
cannot be clearly erroneous.’" EEOC v. Sears,
Roebuck & Co., 839 F.3d 302, 309 (7th Cir. 1988)
(quoting Anderson, 470 U.S. at 575). "Under the
’abuse of discretion’ standard of review, the
relevant inquiry is . . . whether any reasonable
person could agree with the [bankruptcy] court."
Deitchman v. E.R. Squibb & Sons, Inc, 740 F.2d
556, 563 (7th Cir. 1984).

      In this case, the bankruptcy court determined
that both the President and Vice-President of
Shaw Steel had serious doubts about the truth of
Morris’s statement of his financial condition, a
conclusion that was based largely on the
bankruptcy court’s observation of the witnesses
and their testimony. See Bonnett, 895 F.2d at
1157 (stating that appellate courts should give
particular deference to the bankruptcy court’s
evaluation of witness testimony). The bankruptcy
court further found that Shaw Steel’s concerns
about Morris’s veracity were justified by the
company’s past dealings with Morris. In spite of
its questions as to Morris’s truthfulness,
however, Shaw Steel entered into a Settlement
Agreement with Morris without engaging in any
attempt to ascertain Morris’s true financial
condition. While we understand that the concept
of reasonable reliance does not generally require
creditors to conduct an investigation prior to
entering into agreements with prospective
debtors, such a precaution could be the
ordinarily prudent choice in circumstances where
the creditor admits that it does not believe the
representations made by the prospective debtor.
See Coston v. Bank of Malvern (In re Coston), 991
F.2d 257, 261 (5th Cir. 1993) (stating that when
determining reasonable reliance, "[t]he
bankruptcy court may consider, among other
things: whether there had been previous business
dealings with the debtor that gave rise to a
relationship of trust; whether there were any
’red flags’ that would have alerted an ordinarily
prudent lender to the possibility that the
representations relied upon were not accurate;
and whether even minimal investigation would have
revealed the inaccuracy of the debtor’s
representations"). Under these circumstances, the
bankruptcy court’s determination was a
permissible one, and we cannot conclude that the
court clearly erred in finding Shaw Steel’s
reliance unreasonable.

III.   Conclusion
       Because we determine that the bankruptcy court
did not clearly err in finding that Shaw Steel’s
reliance on Morris’s representations was not
reasonable, we AFFIRM the decision of the district
court.



/1 Paragraph 4 of the Settlement Agreement stated
that:

The parties acknowledge that this Agreement has
been entered into, in part, based upon the
following representations, only:

a. Those contained in the Affidavit of Financial
Condition attached hereto and incorporated herein
as Exhibit B; and

b. That Defendant’s personal financial condition
has not materially changed since his execution of
the Affidavit of Financial Condition;

c. That to the best of Defendant’s knowledge,
there are no trust agreements in existence in
which Defendant, his wife, nor any member of his
immediate family has any present or future
interest; and

d. That Defendant has not been released of any
liability he has to MNC related to its loans to
O.L. Anderson Company, a Delaware corporation.

/2 Although Garman involves the interpretation of
section 17(a)(2), the predecessor statute to
section 523(a)(2)(B)(iii), that case’s
interpretation of reasonable reliance applies
with equal force to section 523(a)(2)(B)(iii)
because "Congress clearly indicated that section
523(a)(2)(B)(iii) is merely a codification of the
cases construing section 17(a)(2)." First Nat’l
Bank of Lansing v. Kreps (In re Kreps), 700 F.2d
372, 376 (7th Cir. 1983).
