UNITED STATES COURT OF APPEALS FOR THE THIRD CIRCUIT
SECURED LENDER MAY CREDIT BID UP TO THE VALUE OF ITS CLAIM RATHER THAN UP TO THE VALUE OF ITS COLLATERAL - In re SubMicron Sys. Corp.
AMENDING A PENSION PLAN FOR THE BENEFIT OF MANAGEMENT AND TO THE DETRIMENT OF THE DEBTOR MAY BE A FRAUDULENT TRANSFER - In re Fruehauf Trailer Corp.
A DEBT COMPRISED OF PRINCIPAL AND INTEREST MAY NOT BE DISCOUNTED TO PRESENT VALUE AND ALSO DISCOUNTED BY DISALLOWING UNMATURED INTEREST - In re Oakwood Homes Corp.
IF A DEBTOR SEEKS TO TERMINATE MORE THAN ONE PENSION PLAN, THE COURT MUST APPLY ERISA’S “REORGANIZATION TEST” IN THE AGGREGATE AND NOT TO EACH PLAN INDEPENDENTLY - In re Kaiser Aluminum Corp.
UNITED STATES DISTRICT COURT FOR THE DISTRICT OF DELAWARE
A PLAN NEED NOT EXPLICITLY AUTHORIZE OR MENTION A TRANSFER IN ORDER FOR THE TRANSFER TO BE “UNDER A PLAN CONFIRMED” AND EXEMPT FROM TRANSFER TAX UNDER 1146 - In re Integrated Health Servs.
FAILURE TO RAISE 502(d) DURING THE CLAIMS-RECONCILIATION PROCESS DOES NOT CONSTITUTE A WAIVER OF THE RIGHT TO BRING A PREFERENCE ACTION - In re Cambridge Indus. Holdings, Inc.
THE “IMPROVIDENTLY GRANTED” STANDARD APPLIES TO A REVIEW OF FEES EARNED UNDER SECTION 328, NOT THE REASONABLENESS STANDARD UNDER 330 - In re Northwestern Corp.
UNITED STATES BANKRUPTCY COURT FOR THE DISTRICT OF DELAWARE
FOR PURPOSES OF DETERMINING SECTION 507(a)(3) PRIORITY, SEVERANCE PAYMENTS ARE “EARNED” UPON TERMINATION OF EMPLOYMENT AND NOT AT THE TIME THE CONTRACT WAS EXECUTED – In re Garden Ridge Corp.
PAYMENTS TO THE ADMINISTRATOR OF AN EMPLOYEE BENEFIT PLAN ARE PARTIALLY AVOIDABLE - In re Lenox Healthcare, Inc.
A BANKRUPTCY TRUSTEE HAS DERIVATIVE STANDING TO SUE ON BEHALF OF ALL CREDITORS; OFFICERS AND DIRECTORS OF A WHOLLY-OWNED SUBSIDIARY NOT ONLY OWE A DUTY TO THAT CORPORATION’S PARENT, BUT ALSO OWE A DUTY TO THE SUBSIDIARY ITSELF AND, IF THE SUBSIDIARY IS INSOLVENT, ITS CREDITORS - In re Scott Acquisition Corp.
A SECURED CREDITOR’S AGREEMENT TO “CARVE OUT” A PORTION OF ITS COLLATERAL FOR THE EXCLUSIVE BENEFIT OF GENERAL UNSECURED CREDITORS DOES NOT RUN AFOUL OF THE THIRD CIRCUIT’S DECISION IN ARMSTRONG - In re World Health Alternatives, Inc.
UNPRECEDENTED EXPERT TESTIMONY THAT WAS INVENTED BY THE EXPERT AND UNTESTED IN THE RELEVANT SCIENTIFIC COMMUNITY IS UNRELIABLE AND INADMISSIBLE UNDER F.R.E. 702 - In re Nellson Nutraceutical, Inc.
THE PARTIES' INTENT IS DETERMINATIVE IN ANALYZING A RECHARACTERIZATION CLAIM AND MUST BE DERIVED FROM A COMMON SENSE, RATHER THAN MECHANISTIC, ANALYSIS; DEEPENING INSOLVENCY IS NOT A VALID CAUSE OF ACTION AGAINST A LENDER, REGARDLESS OF THE CAUSE OF ACTION'S LABEL; NOTEHOLDERS’ ACQUIESCENCE IN PREPETITION CONDUCT IS A VALID DEFENSE AGAINST AN OFFICIAL COMMITTEE OF UNSECURED CREDITORS - In re Radnor Holdings Corp.
POST-CONFIRMATION LITIGATION OVER STATE LAW CLAIMS WAS “RELATED TO” THE BANKRUPTCY CASE - In re Exds, Inc.
EXECUTORY CONTRACTS MAY BE “PURCHASED” PURSUANT TO SECTION 363(f) FREE AND CLEAR; A CONTRACTUAL PROVISION AUTHORIZING SETOFF IS ENFORCEABLE AGAINST THE PURCHASER IF IT CAN BE SATISFIED UNDER THE CONTRACT - In re The IT Group, Inc.
A SALE OF STOCK TO A THIRD PARTY PURSUANT TO SECTION 363(f) , FREE AND CLEAR OF ALL INTERESTS, DOES NOT IMMUNIZE THE ISSUER OF THE STOCK FROM PREFERENCE LIABILITY - In re Insilco Tech., Inc.
NOTABLE BENCH RULINGS
SUPPLEMENTAL CONFLICT/CONNECTION SEARCHES AND PREPARATION OF SUPPLEMENTAL AFFIDAVITS ARE COMPENSABLE ACTIVITIES; PREPARATION OF A CRITICAL DATES MEMORANDUM IS A COMPENSABLE ACTIVITY IF IT INVOLVES MORE THAN MERE CALENDARING; MAINTAINING THE 2002 SERVICE LIST IS NOT A COMPENSABLE ACTIVITY –In re Meridian Automotive Systems – Composites Operations, Inc.
NON-CONSENSUAL NON-DEBTOR THIRD PARTY RELEASES ARE PERMISSIBLE IN A LIQUIDATING CHAPTER 11 - In re Freedom Rings, LLC
DELAWARE CHANCERY COURT
DELAWARE LAW DOES NOT RECOGNIZE A CAUSE OF ACTION FOR DEEPENING INSOLVENCY - Trenwick America Litigation Trust v. Ernst & Young, LLP
--------------------------------------------------------------------------------
UNITED STATES COURT OF APPEALS FOR THE THIRD CIRCUIT
SECURED LENDER MAY CREDIT BID UP TO THE VALUE OF ITS CLAIM RATHER THAN UP TO THE VALUE OF ITS COLLATERAL
Cohen v. KB Mezzanine Fund II, LP (In re SubMicron Sys. Corp.), 432 F.3d 448 (3d Cir. Jan. 6, 2006) (Ambro, J.)
The Third Circuit affirmed the District Court’s approval of sale to an entity created by the debtors’ secured lenders. The secured lenders agreed to contribute new capital along with all of their claims towards the purchase of all of the debtors’ assets in exchange for equity in the entity purchasing the assets. At the sale, the purchaser credit bid the full value of the lenders’ claims.
The plan administrator (as successor to the Official Committee) objected to the sale on several grounds, including that (1) the debt should be recharacterized as equity and, as such, should not have been credit bid and (2) if the debt was in fact debt, credit bidding was inappropriate because the lender was actually an unsecured creditor (the assets had little to no value).
After holding that the question of recharacterization was an issue of fact and not law and should be evaluated under the clearly erroneous standard, the Third Circuit affirmed the District Court’s holding that the debt was in fact debt. Secondly, the Third Circuit held that a secured lender is permitted to credit bid up to the value of its claim and rejected the plan administrator’s argument that the secured lender should only be permitted to credit bid up to the value of the collateral.
Return to Top
AMENDING A PENSION PLAN FOR THE BENEFIT OF MANAGEMENT AND TO THE DETRIMENT OF THE DEBTOR MAY BE A FRAUDULENT TRANSFER
Pension Transfer Corp. v. Beneficiaries Under the Third Amendment to Fruehauf Trailer Corp. Retirement Plan No. 003 (In re Fruehauf Trailer Corp.), 2006 U.S. App. LEXIS 8969 (3d Cir. April 12, 2006) (Ambro, J.)
In affirming the District Court, the Third Circuit held that amending a pension plan in a manner that benefited managers and executives, thereby decreasing surplus funds that would otherwise revert to the debtor, was a fraudulent transfer.
In reaching its conclusion and analyzing the elements of a fraudulent transfer under section 548 of the Code, the Third Circuit also held that: (1) a right to recoup a surplus from a pension plan upon termination is a property interest pursuant to section 541 of the Code; (2) a property interest was transferred in the form of increased benefits pursuant to the pension plan amendment; and (3) the transfer was not for reasonably equivalent value. On the issue of value, the Third Circuit stated that “there is no per se rule requiring a precise calculation of the value of intangible costs and benefits in every case.” Rather, where the plaintiff alleges that the transfer resulted in no value, the plaintiff must prove this zero value calculation. If instead the value can be analyzed and the plaintiff alleges some value other than zero, precise calculations are essential.
Return to Top
A DEBT COMPRISED OF PRINCIPAL AND INTEREST MAY NOT BE DISCOUNTED TO PRESENT VALUE AND ALSO DISCOUNTED BY DISALLOWING UNMATURED INTEREST
In re Oakwood Homes Corp., 449 F.3d 588 (3d Cir. June 9, 2006) (Van Antwerpen, J.)
The Third Circuit reversed the District Court and held that disallowing unmatured interest pursuant to section 502(b)(2) and discounting the remainder of the claim to present value amounts to impermissible double discounting. Prior to filing bankruptcy, the debtor securitized mortgages it held through a series of trusts, each of which issued several series of certificates of varying priority.
The holders of low-priority certificates filed a proof of claim for all remaining principal due as of the petition date and in the future, prepetition interest and unmatured, post-petition interest. The indenture trustee (at the direction of holders of senior-priority certificates) objected to the proof of claim. The trustee argued that all principal and pre-petition interest should be discounted to present value and the unmatured interest should be disallowed. Relying on the “clear and unambiguous language” of section 502 of the Bankruptcy Code, the Bankruptcy and District Courts sustained the objection.
However, the Third Circuit reversed because it concluded that section 502 of the Bankruptcy Code was not clear and unambiguous. Citing the legislative history, the Third Circuit held that an interest bearing obligation may not be discounted to present value and then further discounted by disallowing unmatured interest; a court may use one method or the other.
Return to Top
IF A DEBTOR SEEKS TO TERMINATE MORE THAN ONE PENSION PLAN, THE COURT MUST APPLY ERISA’S “REORGANIZATION TEST” IN THE AGGREGATE AND NOT TO EACH PLAN INDEPENDENTLY
In re Kaiser Aluminum Corp., 2006 U.S. App. LEXIS 18746 (3d Cir. July 26, 2006) (Rendell, J.)
In a case of first impression, the Third Circuit affirmed the Bankruptcy Court’s application of ERISA’s “reorganization test” to all of the pension plans the debtor sought to terminate in the aggregate, rather than to each plan independently.
Under ERISA’s distress termination provisions, an employer may terminate a pension plan if it satisfies one of four “distress tests,” one of which is known as the “reorganization test.” To satisfy the reorganization test, an employer must establish, among other factors, that it is unable to pay its debts and continue in business outside of chapter 11 unless the pension plan is terminated. The issue before the Third Circuit was how this factor of the test should apply in the context of multiple plan terminations.
In Kaiser, the debtor, together with its affiliates, sought to terminate six pension plans pursuant only to ERISA’s reorganization test. The debtor argued that the Court should consider all of the plans together in evaluating termination under the test. The PBGC objected and argued that the Court should make a separate determination whether the test was satisfied as to each of the pension plans. Under this approach, the PBGC contended that some of the plans could not satisfy the test and, therefore, could not be terminated.
After noting that Congress did not provide any guidance regarding application of this factor in the context of multiple plan terminations, the Third Circuit concluded that the plan-by-plan approach was unworkable. Instead, the Court held that applying the test to multiple plans in the aggregate was straightforward and, as such, was the fair and equitable result. Because there was sufficient proof that the debtor could not pay its debts and could not continue its business outside of a chapter 11 unless all of the plans were terminated, the Court affirmed the Bankruptcy Court’s decision.
Return to Top
UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF DELAWARE
A PLAN NEED NOT EXPLICITLY AUTHORIZE OR MENTION A TRANSFER IN ORDER FOR THE TRANSFER TO BE “UNDER A PLAN CONFIRMED” AND EXEMPT FROM TRANSFER TAX UNDER 1146 - In re Integrated Health Servs.
Baltimore County v. IHS Liquidating LLC (In re Integrated Health
Servs.), 2006 U.S. Dist. LEXIS 8403 (D. Del. Mar. 6, 2006) (Sleet, J.)
Although a plan did not explicitly authorize a transfer, the District Court held that the transfer was “under a plan confirmed” and exempt from transfer tax pursuant to section 1146(c). In this case, the debtor was a party to a “synthetic” lease. The debtor’s confirmed plan of reorganization contemplated collapsing the synthetic lease, which required a transfer of legal title to the property to the liquidating trust (the successor to the debtor) from a third party.
Although the plan did not explicitly mention the transfer from the third party, the court, relying on the Third Circuit’s decision in In re Hechinger, 335 F.3d 243 (3d Cir. 2003), held that the transfer was “made pursuant to the authority conferred by … a plan.” In so holding, the court followed the Second Circuit’s decision in In re Jacoby-Bender, 758 F.2d 840 (2d Cir. 1985), which held that a plan need not include specifics for a sale to be “under a plan confirmed.”
Return to Top
FAILURE TO RAISE 502(d) DURING THE CLAIMS-RECONCILIATION PROCESS DOES NOT CONSTITUTE A WAIVER OF THE RIGHT TO BRING A PREFERENCE ACTION
Caliolo v. Saginaw Bay Plastics, Inc. (In re Cambridge Indus. Holdings, Inc.), 2006 U.S. Dist. LEXIS 7939 (D. Del. Mar. 26, 2006) (Sleet, J.)
The District Court held that a bankruptcy trustee does not waive the right to institute a preference action against a creditor at a later date by failing to raise an objection during the claims-reconciliation process. In reversing the Bankruptcy Court, the District Court addressed the lower-court split with respect to the preference waiver issue.
In analyzing the split, the court noted that section 502(d) is designed to “prevent preference transferees from recovering on any claims until they have returned their preferential transfers.” Section 502(d) is properly viewed as a shield that a trustee may invoke to “deflect the claims of preference transferees.” Conversely, section 547 should be seen as a sword that a trustee may utilize to affirmatively recover a preference.
Accordingly, a trustee is not required to raise section 502(d) during the claims-reconciliation process.
Return to Top
THE “IMPROVIDENTLY GRANTED” STANDARD APPLIES TO A REVIEW OF FEES EARNED UNDER SECTION 328, NOT THE REASONABLENESS STANDARD UNDER 330
Lazard Freres & Co., LLC v. Northwestern Corp. (In re Northwestern Corp.), 344 B.R. 40 (D. Del. May 22, 2006) (Farnan, J.)
Lazard Freres was retained as financial advisor to the Official Committee of Unsecured Creditors under section 327 and 328 of the Bankruptcy Code. After applying for final compensation in the bankruptcy case, Visiting Judge Peterson sua sponte reduced the firm’s restructuring fee by fifty percent. Lazard appealed the order and the District Court concluded that the Bankruptcy Court abused its discretion and reversed with respect to the fee. In so ruling, the District Court found that the Bankruptcy Court improperly applied the “reasonableness” standard of section 330 of the Bankruptcy Code instead of the “improvidently granted” standard of section 328(a). Because the conditions in the engagement letter were fulfilled, the District Court concluded that Lazard’s requested fees were not improvidently granted.
Return to Top
UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF DELAWARE
FOR PURPOSES OF DETERMINING SECTION 507(a)(3) PRIORITY, SEVERANCE PAYMENTS ARE “EARNED” UPON TERMINATION OF EMPLOYMENT AND NOT AT THE TIME THE CONTRACT WAS EXECUTED
In re Garden Ridge Corp.,2006 Bankr. LEXIS 278 (Bankr. D. Del. Mar. 2, 2006) (Carey, J.)
The Bankruptcy Court held that, for purposes of determining whether a claimant is entitled to payment of severance claims as priority claims under section 507(a)(3), severance is earned no earlier than the time the claimant’s employment is terminated. Within ninety days of the petition date, the debtor terminated two employees employed pursuant to employment contracts. The contracts provided that, if the employees were terminated, they were entitled to severance pay.
The Bankruptcy Court held that, up to the statutory limits, the severance payments were priority claims. In reaching its conclusion, the court rejected the debtor’s argument that severance pay was earned at the time the contract was entered into.
Return to Top
PAYMENTS TO THE ADMINISTRATOR OF AN EMPLOYEE BENEFIT PLAN ARE PARTIALLY AVOIDABLE
Golden v. The Guardian (In re Lenox Healthcare, Inc.), 343 B.R. 96 (Bankr. D. Del. June 1, 2006) (Walrath, C.J.) – Return to Top
The Bankruptcy Court held that transfers to a third party administrator of the debtor’s employee benefit plans were partially avoidable under section 547 of the Bankruptcy Code.
Pursuant to the parties’ agreement, the administrator paid plan costs and all employee claims arising under the plans during a calendar month. At the end of the month, the administrator invoiced the debtor for the amount paid, plus a fee. Amounts paid by the debtor to satisfy the invoices included employer and employee contributions. The administrator argued that all amounts paid were not recoverable and that even if they were, the administrator was a “mere conduit” and not an initial transferee.
The Bankruptcy Court held that: (1) the trustee could not recover the amounts withheld from employees and paid to the administrator; (2) employer contributions and fees paid to the administrator were recoverable; and (3) the administrator was an initial transferee, not a mere conduit, because it paid the amounts to third parties and then sought reimbursement from the debtor.
Return to Top
A BANKRUPTCY TRUSTEE HAS DERIVATIVE STANDING TO SUE ON BEHALF OF ALL CREDITORS; OFFICERS AND DIRECTORS OF A WHOLLY-OWNED SUBSIDIARY NOT ONLY OWE A DUTY TO THAT CORPORATION’S PARENT, BUT ALSO OWE A DUTY TO THE SUBSIDIARY ITSELF AND, IF THE SUBSIDIARY IS INSOLVENT, ITS CREDITORS
Claybrook v. Morris (In re Scott Acquisition Corp.), 344 B.R. 283 (Bankr. D. Del. June 23, 2006) (Walsh, J.)
The chapter 7 trustee filed a complaint against the former directors and officers of Scotty’s, Inc. (a debtor), a wholly owned subsidiary of Scott Acquisition Corp. (also a debtor). The complaint asserted, among other causes of action, claims arising from breaches of fiduciary duties allegedly owed to the subsidiary. The officers and directors of the subsidiary moved to dismiss the complaint on the bases that (i) they did not owe any duties to the subsidiary or its creditors and (ii) the chapter 7 trustee lacked standing.
After finding no Delaware State Court authority directly on point and after analyzing other courts’ interpretations of Delaware law, the Bankruptcy Court rejected the first argument. In so doing, the Court held that officers and directors of a wholly-owned subsidiary not only owe a duty to that corporation’s parent, but also owe a duty to the subsidiary itself and, if the subsidiary is insolvent, its creditors.
The Court also rejected the second argument and held that the Trustee had derivative standing to pursue all of the causes of action asserted in the complaint, including the actions for breaches of fiduciary duties on behalf the subsidiary’s creditors. In so holding, the Court distinguished between causes of action brought by a trustee on behalf of a specific creditor or class of creditors, in which case the trustee would lack standing, and causes of action brought on behalf of all creditors, which the Court found to be permissible.
Return to Top
A SECURED CREDITOR’S AGREEMENT TO “CARVE OUT” A PORTION OF ITS COLLATERAL FOR THE EXCLUSIVE BENEFIT OF GENERAL UNSECURED CREDITORS DOES NOT RUN AFOUL OF THE THIRD CIRCUIT’S DECISION IN ARMSTRONG
In re World Health Alternatives, Inc., 2006 Bankr. LEXIS 1311 (Bankr. D. Del. July 7, 2006) (Walsh, J.)
In one of the first published opinions to analyze the applicability of the Third Circuit’s recent holding in In re Armstrong World Indus., Inc., the Delaware Bankruptcy Court found that Armstrong’s holding does not apply to a secured creditor’s agreement to “carve out” a portion of its collateral for the exclusive benefit of general unsecured creditors.
In In re World Health Alternatives, Inc., the debtors proposed to sell substantially all of their assets (the “Sale”) at a price barely sufficient to pay the secured lender’s claim. Counsel to the Official Committee of Unsecured Creditors (the “Committee”), undertook steps to challenge the Sale and investigate causes of action against the lender.
After extensive discovery and negotiations, the Committee, the debtors and the lender entered into a global settlement agreement (the “Agreement”) and presented it to the Court pursuant to Bankruptcy Rule 9019. The Agreement provided for, among other things, a collateral carve out of $1.625 million from the lender’s liens for the exclusive benefit of general unsecured creditors (the “Carve Out”), in return for the Committee’s support for the Sale and release of claims against the lender.
The U.S. Trustee objected to the Agreement, arguing that the holding in Armstrong prohibited a payment to general unsecured creditors which skipped ahead of priority creditors who were unlikely to be paid in full. In overruling the U.S. Trustee’s objection, the Court followed the First Circuit’s decision in In re SPM Mfg. Corp., and held that the Carve Out was not property of and did not belong to the estate; it belonged to the lender. Accordingly, the lender was free to give up a portion of its collateral for the benefit of junior creditors without violating the Bankruptcy Code’s distribution scheme.
In so holding, the Court noted that Armstrong did not disapprove of, but instead distinguished, the SPM decision and its progeny, and Judge Walsh found the same distinguishing factors extant in the World Health case, including that the Carve Out was not property of the estate and that it was being paid under Rule 9019 and not under a plan.
The Court further stated that “even if the absolute priority rule applied, … an ordinary carve out such as here would not offend the rule.” In other words, the Court believes that, even in the context of a chapter 11 plan, Armstrong does not preclude an “ordinary carve out” from a secured lender’s collateral.
Return to Top
NOTWITHSTANDING A PENDING APPEAL, THE BANKRUPTCY COURT AMENDED A SETTLEMENT AGREEMENT THAT WAS THE SUBJECT OF THE APPEAL
In re RNI Wind Down Corp., 348 B.R. 286 (Bankr. D. Del. Aug. 23, 2006) (Sontchi, J.)
The debtors were parties to an appeal in the Ninth Circuit Court of Appeals. The derivative action underlying the appeal had been settled by the debtors and the plaintiffs, but appealed by a stockholder of the debtors. The debtors filed a motion in the Bankruptcy Court to amend the settlement to address issues raised by the stockholder in the non-bankruptcy court appeal. The Bankruptcy Court approved the amended settlement, finding that (i) the Bankruptcy Court had subject matter jurisdiction over the dispute pursuant to 11 U.S.C. § 1334(e)(1) and 28 U.S.C. § 157(b)(2)(A) and (O); (ii) the Bankruptcy Court had authority to approve the amended agreement without the consent or involvement of the appellant (the stockholder); and (iii) comity did not require that the Bankruptcy Court abstain from approving the amended settlement.
Return to Top
A SALE OF STOCK TO A THIRD PARTY PURSUANT TO SECTION 363(f) , FREE AND CLEAR OF ALL INTERESTS, DOES NOT IMMUNIZE THE ISSUER OF THE STOCK FROM PREFERENCE LIABILITY
Amphenol Corp. v. Shandler (In re Insilco Tech., Inc.), 2006 Bankr. LEXIS 2239 (Bankr. D. Del. Sep. 18, 2006) (Carey, J.)
The Bankruptcy Court dismissed the plaintiff’s complaint to enjoin a separate action by the defendant to recover alleged preferential transfers (the “Preference Action”). During the debtor’s bankruptcy, the plaintiff entered into a stock purchase agreement with the debtor whereby the plaintiff purchased all of the stock of Precision Cable de Mexico (“PCM”), the debtor’s wholly-owned non-debtor subsidiary. The Bankruptcy Court approved the sale of the stock free and clear of all interests, including preferences.
The complaint requested, among other things, that the Bankruptcy Court enjoin the Preference Action based upon the order approving the stock sale. In support, the plaintiff relied on the “free and clear” language of the sale order. The defendant moved to dismiss the complaint arguing that the “free and clear” language applied to the stock of PCM, but not to PCM’s assets. The Bankruptcy Court agreed and held that because the sale order provided for a stock sale to the plaintiff, rather than a sale of PCM’s assets, the sale did not preclude an action to recover a preference from PCM.
Return to Top
EXECUTORY CONTRACTS MAY BE “PURCHASED” PURSUANT TO SECTION 363(f) FREE AND CLEAR; A CONTRACTUAL PROVISION AUTHORIZING SETOFF IS ENFORCEABLE AGAINST THE PURCHASER IF IT CAN BE SATISFIED UNDER THE CONTRACT
The Shaw Group, Inc. v. Bechtel Jacobs Co., LLC (In re The IT Group, Inc.), 2006 Bankr. LEXIS 2321 (Bankr. D. Del. Sep. 21, 2006) (Walrath, C.J.)
The plaintiff sued to enforce the provisions of the Bankruptcy Court’s order pursuant to which the plaintiff purchased substantially all of the debtor’s assets, including some, but not all, executory contracts with the defendant. Thereafter, the plaintiff performed under the contracts it purchased and submitted invoices. The defendant, however, refused to remit payment.
The defendant asserted a right to setoff amounts owed by the debtor as of the petition date against the amounts it owed to the plaintiff. In support, the defendant relied upon cross-default provisions of contracts with the debtor, some of which were assigned to the plaintiff and one which was rejected by the debtor. The relevant provisions authorized the cross setoff of obligations under one contract with obligations under other contracts.
The plaintiff argued that it did not purchase all of the contracts between the debtor and the defendant, and that the assigned contracts were purchased free and clear of all interests, including setoff rights. The defendant asserted that section 365, and not section 363, applied and the contracts were assumed and assigned cum onere, including the setoff provisions. The Bankruptcy Court rejected the defendant’s argument and held that contracts may be purchased pursuant to section 363 free and clear of interests, including setoff rights.
However, the Bankruptcy Court also held that, when a debtor seeks to sell contracts pursuant to section 363, it must also satisfy section 365. Thus, to the extent a contractual provision contemplates setoff, the provision will be enforced if it can be satisfied. In the instant case, the setoff right could not be enforced by the express terms of the contract and, thus, the defendant could not setoff. The Court also noted that cross-default provisions contained in “economically independent” contracts are unenforceable under section 365(f)(3) of the Bankruptcy Code.
Return to Top
POST-CONFIRMATION LITIGATION OVER STATE LAW CLAIMS WAS “RELATED TO” THE BANKRUPTCY CASE
Exds, Inc. v. CB Richard Ellis, Inc. (In re Exds, Inc.), 2006 Bankr. LEXIS 2654 (Bankr. D. Del. Oct. 13, 2006) (Walsh, J.)
The Bankruptcy Court denied the defendant’s motion to dismiss and held that the Court had jurisdiction over breach of contract and related state law claims. After the debtor confirmed its plan of reorganization, the debtor brought a breach of contract action. The defendant moved to dismiss the complaint alleging that the Bankruptcy Court lacked subject matter jurisdiction. The Bankruptcy Court disagreed and held that “related to” jurisdiction existed. In reaching this conclusion, the Court noted that “related to” jurisdiction diminishes after a plan is confirmed. However, because (i) the Court retained jurisdiction generally in the plan, (ii) the breach of contract claims and the authority to prosecute the claims were preserved generally in the plan, and (iii) recovery, if any, would flow to the estate’s creditors, the Court held that it had subject matter jurisdiction over the claims. Accordingly, the Court denied the motion to dismiss the complaint.
Return to Top
THE PARTIES' INTENT IS DETERMINATIVE IN ANALYZING A RECHARACTERIZATION CLAIM AND MUST BE DERIVED FROM COMMON SENSE, RATHER THAN MECHANISTIC ANALYSIS; DEEPENING INSOLVENCY IS NOT A VALID CAUSE OF ACTION AGAINST A LENDER, REGARDLESS OF THE CAUSE OF ACTION'S LABEL; ACQUIESCENCE IN PREPETITION CONDUCT IS A VALID DEFENSE AGAINST AN OFFICIAL COMMITTEE OF UNSECURED CREDITORS
Official Committee of Unsecured Creditors v. Tennenbaum Capital Partners (In re Radnor Holdings Corp.), Ch. 11 Case No. 06-10894, Adv. Pro. No. 06-50909 (Bankr. D. Del. Nov. 16, 2006) (Walsh, J.)
After the Bankruptcy Court granted the Official Committee of Unsecured Creditors (the "Committee") standing, the Committee, comprised primarily of unsecured noteholders, filed a complaint against the debtor's lender. The debtor's lender also owned stock in the company, had a representative on the debtor's board, and had an observer at board meetings. The complaint alleged causes of action for, among other things, recharacterization and breaches of fiduciary duties. Based on the Third Circuit's decision in Submicron, which held that the overarching inquiry in a recharacterization claim is the parties' intent derived from a common sense, rather than a mechanistic analysis, the Bankruptcy Court held that the loans made by the debtor's lender were true debt instruments and should not be recharacterized to equity. Specifically, the Court found that all of the facts and circumstances surrounding the transactions, including the documents and the parties' conduct, as well as the lack of contradictory evidence, established that the parties intended to enter into debt, rather than equity, transactions.
The Bankruptcy Court also rejected the Committee's breach of fiduciary duty claims, which the Court found were tried as, but not labeled, deepening insolvency claims. In support, the Court relied upon the Delaware Chancery Court's opinion in Trenwick and held that (i) deepening insolvency was not a valid cause of action against a debtor's lender/equity holder, and (ii) labeling a deepening insolvency claim with some other name will not transform the claim into a valid cause of action.
Even if the breach of fiduciary duty (deepening insolvency) claims were valid, the Bankruptcy Court held that because the debtor's prepetition noteholders consented to the loan/equity transactions prior to the petition date, the Committee (comprised predominantly of the same noteholders) was barred by the defense of acquiescence from complaining about the very conduct to which they consented.
Return to Top
UNPRECEDENTED EXPERT TESTIMONY INVENTED BY AN EXPERT AND UNTESTED IN THE RELEVANT SCIENTIFIC COMMUNITY IS UNRELIABLE AND INADMISSIBLE UNDER F.R.E. 702
In re Nellson Nutraceutical, Inc., 2006 Bankr. LEXIS 3186 (Bankr. D. Del. Nov. 29, 2006) (Sontchi, J.)
The Bankruptcy Court granted a motion to exclude expert testimony pertaining to the debtor's enterprise value under Federal Rule of Evidence 702 and the Daubert, 509 U.S. 579 (1993), standard. During a trial to determine the debtor's enterprise value, the Bankruptcy Court qualified a witness as an expert, but reserved judgment on whether the witness's testimony was admissible. To determine the debtor's enterprise value, the expert testified that, based on EBITDA minus capital expenditures ("EBITDA minus Cap Ex."), the debtor's enterprise value exceeded the amount of the debtor's secured debt. However, the EBITDA minus Cap Ex. valuation method was an unprecedented method for valuing a business and was invented by the expert for this case.
At the trial's conclusion, the creditor constituencies moved to exclude the testimony that valued the debtor's enterprise using the EBIDTA minus Cap Ex., arguing that the testimony was irrelevant and unreliable. The Bankruptcy Court found that there was insufficient evidence to exclude the testimony as irrelevant; however, the Court found that the testimony was so unreliable that it was inadmissible. Specifically, EBITDA minus Cap Ex. was an unprecedented valuation method, both in legal context and in the relevant scientific community, was invented by the expert, had not been tested, and otherwise failed to satisfy the Daubert standard.
Return to Top
NOTABLE BENCH RULINGS
MANAGEMENT INCENTIVE PLANS TIED TO IDENTIFIABLE BENCHMARKS ARE ACCEPTABLE
In re Nobex Corp., Ch. 11 Case No. 05-20050 (Bankr. D. Del. Jan. 12, 2006) (Walrath, C.J.) (Transcript Opinion)
The debtor filed a motion seeking authority to provide certain senior management with an incentive to increase the sale price of the debtor’s assets. The program sought to pay senior management a certain percentage of the sale price to the extent a final sale price exceeded the pending stalking horse bid (the incentive payment percentage varied depending on the eventual sale price).
Over the objection of the United States Trustee, the Bankruptcy Court, in one of the first cases to interpret new section 503(c) of the Bankruptcy, held that the plan satisfied the requirements of section 503(c)(3) and approved the plan. In so holding, the Bankruptcy Court stated that: (i) section 503(c)(1) was meant to impose specific standards and criteria for a “retention program” traditionally utilized to incentivize senior management to stay for a certain period; and (ii) section 503(c)(2) was implemented to impose similar standards and criteria with respect to severance programs. On the other hand, the Bankruptcy Court also stated that section 503(c)(3) was designed to apply to any other transfers, i.e., a “catch-all.” The Court further held that the applicable standard under section 503(c)(3) was the business judgment rule, the same standard applied to “KERPs” before new section 503(c) of the Bankruptcy Code became effective.
Because payments under the debtor’s program were neither retention payments nor severance payments, the Bankruptcy Court evaluated the program under section 503(c)(3) and applied the business judgment rule. Based on the debtor’s business judgment, and after evaluating the facts and circumstances of the case, the Bankruptcy Court approved the debtor’s incentive program and authorized the payments.
Return to Top
SUPPLEMENTAL CONFLICT/CONNECTION SEARCHES AND PREPARATION OF SUPPLEMENTAL AFFIDAVITS ARE COMPENSABLE ACTIVITIES; PREPARATION OF A CRITICAL DATES MEMORANDUM IS A COMPENSABLE ACTIVITY IF IT INVOLVES MORE THAN MERE CALENDARING; MAINTAINING THE 2002 SERVICE LIST IS NOT A COMPENSABLE ACTIVITY
In re Meridian Automotive Systems – Composites Operations, Inc., Ch. 11 Case No. 05-11168 (Bankr. D. Del. May 9, 2006) (Walrath, C.J.) (Transcript Opinion)
Young Conaway, as counsel to the debtor, sought compensation for time spent: (1)(a) analyzing reports generated by the firm’s conflict database in order to disclose all connections and/or relationships and (b) preparing a supplemental affidavit; (2) drafting, reviewing and revising the critical dates memorandum for the case; and (3) maintaining the Bankruptcy Rule 2002 service list. The U.S. Trustee objected to the firm’s application and argued that (1) a law firm may not be compensated for performing “conflict checks” and (2) work related to the critical dates memorandum and the service list was clerical.
The Court overruled the majority of the U.S. Trustee’s objection and held that:
(1) Young Conaway could be compensated for additional conflict/connection searches and the preparation of supplemental disclosure affidavits because prompt disclosure of all connections and potential conflicts provides a benefit to all parties in interest, including the Court;
(2) Young Conaway could be compensated for preparation and review of, as well as revisions to, the critical dates memorandum because such tasks required more than putting a date on a calendar (i.e., required knowledge about the Bankruptcy Code and Rules and application thereof to the facts of the case);
(3) Young Conaway could not be compensated for maintaining the Bankruptcy Rule 2002 service list because the task does not require any professional analysis.
Return to Top
NON-CONSENSUAL NON-DEBTOR THIRD PARTY RELEASES ARE PERMISSIBLE IN A LIQUIDATING CHAPTER 11
In re Freedom Rings, LLC, Ch.11 Case No. 05-14268 (Bankr. D. Del. Apr. 20, 2006) (Sontchi, J.) (Transcript Opinion)
The debtor filed a liquidating chapter 11 plan, which contained debtor releases and consensual and non-consensual third party releases in favor of the debtor's largest unsecured creditor (and 100% owner), as well as the owner’s secured lender. Over the objection of the United States Trustee, the Bankruptcy Court held that the releases were permissible and approved the plan.
In so holding, the Court (i) found that it had jurisdiction to approve third party releases and (ii) set forth a standard pursuant to which third party releases may be approved. Citing the Third Circuit’s decision in In re Continental Airlines, the Bankruptcy Court set forth the following standard: (1) fairness, which requires material, specific and identifiable consideration to the releasors; (2) necessity, which requires that the debtor be unlikely to confirm any plan absent the releases; and (3) specific factual findings regarding the first and second requirement. In addition, the Bankruptcy Court dispelled any need to prove extraordinary circumstances.
In analyzing the requirements, the Bankruptcy Court found that the debtor’s largest unsecured creditor/owner gave material consideration in exchange for the releases through, among other things, the waiver of certain distributions and rights to recover proceeds realized from avoidance actions and third party deposits. Waiving these rights resulted in a substantially increased recovery to other unsecured creditors.
With respect to the secured lender of the debtor’s largest unsecured creditor/owner, the Bankruptcy Court found that it provided material consideration by waiving its right to a distribution on account of its contingent secured claim. Based on the foregoing, the Bankruptcy Court found that the first requirement was satisfied. In analyzing the second requirement, the Bankruptcy Court found that the releases were the “lynch pin” for the plan and, therefore, necessary.
Return to Top
DELAWARE CHANCERY COURT
DELAWARE LAW DOES NOT RECOGNIZE A CAUSE OF ACTION FOR DEEPENING INSOLVENCY
Trenwick America Litigation Trust v. Ernst & Young, LLP, 906 A.2d 168, 2006 Del. Ch. LEXIS 139 (Del Ch. Aug. 10, 2006) (Strine, V.C.)
The Delaware Chancery Court dismissed the plaintiff’s complaint and held that Delaware law does not recognize a cause of action against a company's officers and directors for deepening insolvency. Instead, the appropriate tool to challenge the conduct of a corporation’s directors and officers is a claim for breach of fiduciary duty. The Court noted that insolvency can be a relevant factor in analyzing a fiduciary duty claim. In so holding, the Court expressly rejected earlier federal court decisions that allowed deepening insolvency claims to be maintained.
Return to Top
Copyright © 2007 Young Conaway Stargatt & Taylor, LLP. All rights reserved. Contents reprinted with permission.
|
