Federal District Court Reinstates Fraudulent Transfer Challenge to Lyondell LBO
by | posted in: Avoidance | 0

By Richard G. Mason, David A. Katz, and Emil A. Kleinhaus (Wachtell, Lipton, Rosen & Katz)

In situations where leveraged buyouts prove unsuccessful, and the companies subject to the buyouts file for bankruptcy, it is not unusual for debtors or creditors’ committees to seek to challenge the LBOs on fraudulent transfer grounds.  In recent years, however, it is has become increasingly difficult to mount such challenges — at least in certain jurisdictions — as a result of judicial decisions that have broadly applied the Bankruptcy Code’s “safe harbor” for securities transactions to protect LBO participants from fraudulent transfer liability.

In a significant set of decisions, the District Court for the Southern District of New York has reinstated a fraudulent transfer claim to recover approximately $6.3 billion in distributions made to Lyondell Chemical shareholders in connection with Lyondell’s 2007 leveraged buyout. The decisions demonstrate that, despite the broad reach of the Bankruptcy Code’s “safe harbor,” LBOs may still be subject to challenge on fraudulent transfer grounds where the seller’s management is alleged to have acted with the actual intent to hinder, delay or defraud creditors.

The full memo is available here.

Awaiting the Second Circuit’s Decision in Marblegate
by | posted in: Workouts and Pre-Packs | 0

We anxiously await the Second Circuit’s decision in Marblegate, which was argued earlier this year. John Bessonette of Kramer Levin briefly summarizes the stakes:

“Section 316(b) of the Trust Indenture Act provides that ‘the right of any holder of any indenture security to receive payment of the principal of an interest on such indenture security . . . shall not be impaired or affected without the consent of such holder . . . .’ Various plaintiffs used this provision this past year to successfully challenge out-of-court restructurings in Marblegate and Caesars. In both cases, the Federal District Court for the Southern District of New York held that § 316(b) not only protects the formal legal right to receive payment under an indenture, but also restricts non-consensual out of court debt reorganizations, even where no express terms of the indenture are violated.

“However, neither case provided a limiting principle for when out-of-court restructurings violate § 316(b), and plaintiff firms are now taking advantage of this murkiness. In the last year, three lawsuits challenging distressed exchange offers have been filed by retail holders of unsecured bonds. Each lawsuit involves an exchange offer made to qualified institutional buyers by a distressed energy company, and retail bondholders who object to their bonds being subordinated to the secured bonds issued to QIBs as part of the exchange.

“The cases are still pending and it remains to be seen whether the courts will clarify the ambiguity around § 316(b). Meanwhile, this obscure provision of the TIA will occupy a more prominent role in out-of-court debt restructurings and serve as a new weapon for plaintiffs challenging such restructurings.”

His full memo is available here.

The Roundtable has issued multiple posts on the Marblegate litigation and the Trust Indenture Act. Mark Roe wrote what the appropriate limiting principle should be for courts when invalidating exit consent transactions under section 316(b) of the Act. He further argued that courts alone cannot solve the fundamental problems: The SEC must also act. The Roundtable also covered the 28-law-firm white paper on how courts should handle that section. See our archives for more.

Successor Liability in § 363 Sales
by | posted in: Bankruptcy Administration and Jurisdiction | 0

By Michael L. Cook of Schulte, Roth & Zabel LLP

Bankruptcy Code §363(f)(1) empowers a bankruptcy court to order a debtor’s assets sold “free and clear of any interest in such property.” Courts in the business bankruptcy context have been wrestling with successor liability, i.e., whether an asset buyer can be held liable for the debtor-seller’s liabilities. In 2009, the Second Circuit affirmed a bankruptcy court order barring creditors of the selling debtor from pursuing the asset buyer “for product defects in vehicles produced by” the debtor. In re Chrysler LLC, 576 F.3d 108, 123-24 (2d Cir. 2009), vacated as moot, 558 U.S. 1087 (2009) (held, successor liability claims are interests covered by a sale order under Code § 363(f)(1)).

Most recently, on July 13, 2016, the Second Circuit held that the bankruptcy court’s asset sale order in the General Motors reorganization case limiting specific pre-bankruptcy product liability claims required prior “actual or direct mail notice” to claimants when the debtor “knew or reasonably should have known about the claims.” In re Motors Liquidation Co., 2016 U.S. App. LEXIS 12848, *46-47 (2d Cir. July 13, 2016). Although the substance of the sale order may have been enforceable otherwise, “mere publication notice” to known or knowable claimants was insufficient. Had the complaining product liability claimants received adequate notice, reasoned the court, they “could have had some negotiating leverage [regarding the terms of any sale order] . . . and [a meaningful] opportunity to participate in the proceedings.” Id. at *61. The court noted a “trend…toward a more expansive reading of ‘interests in property’ which encompasses other obligations that may flow from ownership of the property.” Id., at 124, citing In re Trans World Airlines, Inc., 322 F. 3d 283, 285-90 (3d Cir. 2003).

The full memo is available here.

Supreme Court Resolves Circuit Split on Actual Fraud
by | posted in: Bankruptcy Roundtable Updates | 0

By Richard Lear of Holland & Knight.

The Supreme Court held 7-1 in Husky Int’l Electronics v. Ritz that “actual fraud” under § 523(a)(2)(A) of the Bankruptcy Code does not require a false representation for a debt to be nondischargeable. In so holding, the Court resolved a split among the circuits.

Petitioner Husky International Electronics, Inc., argued that “actual fraud” under § 523(a)(2)(A) does not require a false representation, but instead encompasses other traditional forms of fraud, such as a fraudulent conveyance of property made to evade payment to creditors.

Acknowledging that “fraud” is difficult to define precisely, the Supreme Court nevertheless rejected the need to do so, stating that “[t]here is no need to adopt a definition for all times and all circumstances here because, from the beginning of English bankruptcy practice, courts and legislatures have used the term ‘fraud’ to describe a debtor’s transfer of assets that, like Ritz’s scheme, impairs a creditor’s ability to collect the debt.” The Supreme Court further recognized that the common law indicates that although fraudulent conveyances are “fraud,” fraudulent conveyances do not require a misrepresentation from a debtor to a creditor, because fraudulent conveyances are not “an inducement-based fraud.”

The full memo is available here.

Bankruptcy Court Disagrees with Second Circuit’s Holding in Tribune
by | posted in: Bankruptcy Roundtable Updates, Financial Firms and Safe Harbors | 0

By Lee Harrington of Nixon Peabody.

Recently, in In re Physiotherapy Holdings Inc., the Bankruptcy Court in Delaware held that section 546(e) of the Bankruptcy Code did not preempt various state fraudulent transfer actions because the allegedly fraudulent transfers implicated neither the rationale for that section nor preemption generally. The decision is at odds with recent case law, notably: (i) the Tribune litigation, in which the Second Circuit concluded that state law constructive fraudulent transfer claims involving payments in LBO transactions are prohibited under section 546(e); and (ii) a proceeding in which the Southern District of New York concluded that the interest payment at issue, which did not retire the underlying debt, were not “settlement payments” and was thus outside section 546(e).

Section 546(e) precludes certain bankruptcy avoidance actions involving settlement payments made by or to a financial institution and transfers made by or to a financial institution in connection with a securities contract. It is intended to prevent litigation that might have a destabilizing “ripple effect” on the financial markets and provides a defense to constructive fraudulent transfer actions against shareholders receiving LBO payments.

Physiotherapy found that section 546(e) was not intended to shield “LBO payments to stockholders at the very end of the asset transfer chain, where the stockholders are the ultimate beneficiaries of the constructively fraudulent transfers, and can give the money back . . . with no damage to anyone but themselves” without the attendant destabilizing “ripple effect.”

The full memo is available here.

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The Bankruptcy Roundtable has previously covered treatment of 546(e), most recently in our Tribune Fraudulent Conveyance Litigation Roundup.

Tribune Fraudulent Conveyance Litigation Roundup
by | posted in: Financial Firms and Safe Harbors | 0

Recently, in In re Tribune Co. Fraudulent Conveyance Litig., 2016 WL 1226871 (March 29, 2016), the Second Circuit held that 11 U.S.C. § 546(e) preempts state law constructive fraudulent conveyance claims brought by creditors even though the text of § 546(e) mentions only trustees. The court thought it unwise to focus exclusively on § 546(e)’s limitation to trustees in ignorance of its context and legislative history. Using those indicia of meaning, the court concluded that the statute’s purpose is to insulate securities markets from avoidance proceedings, and that allowing creditors to assert state law constructive fraudulent conveyance claims would frustrate that purpose. Accordingly, it held such claims preempted.

Weil Gotshal, Shearman & Sterling and Mintz Levin believe the decision properly forecloses creditors from circumventing § 546(e) by either suing individually under state fraudulent conveyance laws or assigning their claims to the trustee. According to these firms, the decision thus reinforces equitable distributions because it prevents creditors from enhancing their individual recoveries.

Latham & Watkins, on the other hand, believes the decision’s “sweeping” language leaves creditors “stranded at sea” and doubts other circuits will join the Second Circuit’s expansive interpretation. Caplin & Drysdale agrees that the court went too far. “Any untoward consequences threatened by the simultaneous prosecution of claims by a trustee and creditors,” the firm explains, “could be prevented by a Section 105(a) injunction.”

Meanwhile, according to Freshfields, Schulte Roth, and Paul, Weiss, the decision merely reaffirms the Second Circuit’s commitment––announced in Enron and Quebecor––to expansive interpretations of the Bankruptcy Code’s safe harbors.