When Not to Approve a Compromise

Compromises are favorites of the law.   A compromise and settlement can avoid expensive litigation and as more than one judge has pointed out, the deal that the parties make will generally be better for them than the ruling the court provides.  However, bankruptcy involves many stakeholders so that when two parties reach a settlement which affects rights of the estate, the parties must go to the court for approval of their compromise under Fed.R.Bankr.P. 9019.   

In submitting motions to compromise, the cases and standards are well-established.  My standard 9019 motion refers to the four factor test set out in  In re Cajun Electric Power Coop, Inc., 119 F.3d 349, 355-56 (5th Cir. 1997) and many other Fifth Circuit decisions.   Most opinions dealing with motions to compromise relate to settlements which were approved which is great help if you are on the compromising side, but not so much on the objecting side.    Bankruptcy Judge Ronald B. King who is notoriously reticent to publish, has provided an opinion demonstrating when a settlement should not be approved.   Case No.  16-51448, In re Jorge R. Alfonso and Naydimar Diaz (Bankr. W.D. Tex. 9/6/09), which can be found here.

Texas Judges Explore State Law on Liens and Homestead Exemptions

Much state law regarding liens and property rights emerges from the Bankruptcy Courts because they are frequently the first to confront novel issues.   Two recent opinions from the Western District of Texas bankruptcy judges confirm this trend.   In one case, Judge Tony Davis found that an option to acquire a leased homestead could be claimed as exempt, No. 14-11006, James Wayne See (Bankr. W.D. Tex. 7/14/15), while in the other, Chief Judge Ronald King rejected an attempt to void a judgment creditors' lien under the Texas Property Code, Studensky v. Buttery Company, LLP,  Adv. No. 15-6001 (Bankr. W.D. Tex. 7/2/15).

Fifth Circuit Provides Valuable Guidance on Jurisdiction and Authority Post-Stern

Many cases deal with debtors who fraudulently convey away their assets before filing bankruptcy.   But what about the situation where the debtor is the victim of a fraudulent conveyance rather than the perpetrator?    In Galaz v. Galaz (In re Galaz), No. 13-50781 (5th Cir. 8/25/14), which can be found here, the Fifth Circuit answers important jurisdictional and Stern questions about the debtor's quest to recover wayward assets.   

What Happened

Lisa and Raul Galaz were once married to each other.   One of their assets was an interest held by Raul in Artist Rights Foundation, LLC ("ARF"), a company which owned the rights to the Ohio Players music catalog.    The other owner of ARF was Julian Jackson.   When Lisa and Raul were divorced in 2002, Raul assigned Lisa 50% of his 50% interest in ARF.   Because the transfer was made without Julian's consent, Lisa received a 25% economic interest in the company but was not a member.    While it is not really relevant to the opinion, another significant occurrence in 2002 was that Raul pled guilty to mail fraud and surrendered his California law license.    

From 1998 to 2005, the Ohio Players catalog was not generating any revenue.   While the opinion describes the Ohio Players as "a former funk band," a little more explanation is justified.   The Ohio Players were formed in 1959 and had gold records with "Funky Worm," "Skin Tight," "Fire" and "Love Roller Coaster."   Their heyday was between 1973 and 1976, when they had seven Top 40 hits.  Their last studio album was released in 1998 and they were inducted into the Official R & B Music Hall of Fame in 2013.  

On June 3, 2005, Raul transferred all of ARF's rights to the Ohio Players to Segundo Suenos, which was nothing more than a name at the time, but was later established as a Texas limited liability company.  According to the Fifth Circuit, when Segundo Suenos is spelled with the tilde (⁓--an accent mark used in Spanish), it means "Second Dreams" in Spanish.   Raul did not get permission from Lisa or Julian before embarking on his second dream of exploiting the Ohio Players music in an entity which excluded them.  Shortly after this transfer, the catalog began to make money, about a million dollars over five years.    The opinion does not say why the catalog started making money.   However, it is worth noting that the song "Love Rollercoaster" appeared in the film Final Destination 3 in 2006.  

In 2007, Lisa filed chapter 13 in the Western District of Texas.   She brought an adversary proceeding against Raul, his father, Alfredo, and Segundo Suenos.   The Defendants brought a third party complaint against Julian, who counterclaimed against them.   After a five day trial, Chief Bankruptcy Judge Ronald B. King found that the transfer to Segundo Suenos was invalid and that Raul had breached his fiduciary duty to Julian but not Lisa.   The Bankruptcy Court awarded $250,000 in actual damages and $250,000 in exemplary damages to Lisa and $500,000 in actual damages and $500,000 in exemplary damages to Julian.   After an appeal to the District Court, the fraudulent transfer judgment was affirmed but the case was remanded for a recalculation of damages.    The Bankruptcy Court reduced the actual damages slightly to reflect taxes incurred by Segundo Suenos, but otherwise left the award intact.   The District Court affirmed the second judgment and the case was appealed to the Fifth Circuit.

 Jurisdiction and Authority

The Fifth Circuit considered two important issues in its opinion:  whether the Bankruptcy Court had jurisdiction over the claims and whether it had authority to enter a final judgment.    These are very different concepts.   Jurisdiction looks at whether the federal courts have authority to consider a matter, while the authority question looks at whether the Bankruptcy Court or the District Court has authority to render a final judgment.

With regard to Lisa, the Fifth Circuit had no trouble finding jurisdiction.   The test for "related to" jurisdiction, which is the most expansive source of bankruptcy jurisdiction, is whether the dispute could "'conceivably' have any effect on the estate being administered in bankruptcy."   See Opinion, p. 5.  Since Lisa's suit could increase the size of the estate, there clearly was jurisdiction.   Julian was another matter.   He was a non-debtor suing another non-debtor.   That is the scenario that was struck down by the Supreme Court in Northern Pipeline.   Even though Julian was unwillingly dragged into the suit, there was ultimately no jurisdiction for his claims and so they went away.   Julian may have recognized this reality before the Fifth Circuit did, since he did not bother to file a brief in the appeal despite being ordered to.  

Although the Bankruptcy Court had jurisdiction to consider Lisa's claims, it did not have authority to enter a final judgment.    This was not a difficult question in 2014 (although it was much less obvious in 2010 when the case was originally tried).    The Fifth Circuit dutifully noted that

when a debtor pleads an action that would augment the bankruptcy estate, but not necessarily be resolved in the claims process, then the bankruptcy court is constitutionally prohibited from entering final judgment.

 Opinion, pp. 7-8.  The Bankruptcy Court had attempted to justify its final judgment on implied consent.   However, the Fifth Circuit's Frazin and BP RE decisions have eliminated consent as a ground for authority in the circuit.   The Supreme Court recently considered and dodged the consent issue in Bellingham and has granted cert to consider the issue again in Wellness International Network.   Nevertheless, the Court noted that "Until the Supreme Court decides, we are bound by controlling circuit precedent."  Opinion, p. 8.

Thus, the Bankruptcy Court had jurisdiction to consider Lisa's claims but not authority to enter a final judgment.    Where does that leave the case?  

The failure of the consent rationale does not vitiate the lower courts’ work altogether, however. As the Supreme Court recently held, claims designated for final adjudication in the bankruptcy court as a statutory matter, but prohibited from proceeding in that way as a constitutional matter, may still “proceed as non-core within the meaning of § 157(c).” (citation omitted). Because Lisa’s claim is “related to a case under title 11,” 28 U.S.C. § 157(c)(1), the bankruptcy court may still hear it and “submit proposed findings of fact and conclusions of law to the district court for de novo review and entry of judgment.” (citation omitted). Accordingly, the district court’s judgment on Lisa’s TUFTA claim must be vacated and remanded for de novo review of the bankruptcy court’s decision as recommended findings and conclusions.

Opinion, pp. 8-9.   Thus, the District Court which has already reviewed the case twice will get to take a third look at it.   This time, the District Court will consider the Bankruptcy Court's opinion as proposed findings of fact and conclusions of law which it may accept or reject on a de novo basis.  What this means is that the District Court is free to disregard the Bankruptcy Court's factual findings rather than being bound by the clearly erroneous rule.    However, given the Bankruptcy Court's greater familiarity with the facts and the District Court's workload, it is highly likely that the District Court's review will be very deferential.    

The Galaz opinion highlights the silliness of all of the attention paid to Stern and its progeny.  Notwithstanding Stern, Bankruptcy Courts can still hear cases within their jurisdiction.   If a case is non-core (or is designated as core but is outside of the Bankruptcy Court's authority), the Bankruptcy Court can still submit proposed findings of fact and conclusions of law to the District Court.  While the District Court could hear more evidence and re-open the record, the District Courts already have a pretty full docket.   As a result, my guess is that they will review proposed findings and conclusions in much the same manner as they have traditionally reviewed bankruptcy appeals.   However, if the District Courts are faced with a high volume of Bankruptcy Court reports and recommendations, they may be tempted to give them even more deferential review.   The District Courts have substantial experience reviewing reports and recommendations from their Magistrate Judges and, although I have not done the research, I suspect that the normal procedure is to approve them.   To quote the Talking Heads, the practical reality may be "same as it ever was."

Even though the Fifth Circuit sent Lisa back for another round of procedural hell, they did give her a parting gift by answering a substantive legal issue.   Lisa had filed suit under the Texas Uniform Fraudulent Transfer Act which allows a creditor to file suit to avoid a transfer.   Raul claimed that Lisa was not a "creditor" because he didn't owe her any money.    However, the Fifth Circuit concluded that a "creditor" under TUFTA means someone who has a "claim" which means a right to "payment or property."   Because Lisa had the right to a share of ARF's assets upon its dissolution, she had a right to property and was thus a creditor with standing to pursue a TUFTA claim.  

 

  

Best of the Rest

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Every year, I read more cases than I have time to blog about. Here are some cases that I meant to write about but didn't have the time. My inability to get to these cases is demonstrated by the fact that I am concluding my year-end clean-up on January 2nd, two days into the new year.

Philadelphia Newspapers:

River Road Partners v. Amalgamated Bank, 651 F.3d 642 (7th Cir. 2011), cert granted, RadLAX Gateway Hotel, LLC v. Amalgamated Bank, No. 11-166 (2011). The Supreme Court has granted cert to resolve the Philadelphia Newspapers issue of whether a debtor can deny a creditor's right to credit bid in a plan by offering the creditor the "indubitable equivalent." The Third Circuit said yes. The Seventh Circuit said no. You can access all the relevant documents at SCOTUS Blog here.

Gifting and Bad Faith:

In re DBSD, North America, Inc., 634 F.3d 79 (2nd Cir. 2011). The Second Circuit held that "gifting" where a senior class of claims gives up property in favor of a junior class violates the absolute priority rule where an intervening class of claims is skipped. The Court also held that votes of a competitor could be designated as cast in bad faith.

Collateral Attacks on Plans:

Matter of Davis Offshore, LP, No. 09-41294 (5th Cir. 7/16/11), which can be found here.

Chapter 11 cases are frequently criticized for languishing in the courts. However, this prepackaged chapter 11 case proceeded to confirmation in less than a week, resulting in a sale to a group which included a member of the family which owned the companies. Unfortunately, that is when the bickering began. Although no party appealed the confirmation order, one of the former shareholders filed a motion to revoke confirmation under 11 U.S.C. §1144. The bankruptcy court determined that no fraud had taken place. The district court vacated the bankruptcy court’s order but dismissed the appeal due to equitable mootness. Rather than appealing this decision, the former shareholder then sued the purchasers for fraud. The bankruptcy court found that the fraud suit was an impermissible collateral attack on the confirmation order. A direct appeal to the Fifth Circuit was authorized.

The Fifth Circuit, in an opinion by Chief Judge Edith Jones affirmed the bankruptcy court. The following passage captures the essence of the opinion:

The principal question posed on appeal is whether the Plan and confirmation order bar the assertion of fraud claims against the defendants/appellees. This is an issue of perennial importance in bankruptcy procedure. Bankruptcy cases must be and often are resolved in haste to prevent the continuing depletion of a debtor’s value and assets. Haste, however, creates the danger that inadequate supervision of deals, valuations, and participants in the process may occur, leaving a fertile field for fraud. To this extent, the demands for finality and integrity in the process may be in tension. In some situations, fraud and related claims may outlive the bankruptcy process. (citation omitted).

We conclude that in this case, in the context of reorganizing a family owned company all of whose shareholders had access to sophisticated financial and legal assistance, and where the releases and exculpatory provisions in the Plan and confirmation order were essential to a reorganization that no party appealed, those provisions bar the (Appellant’s) current claims.

Opinion, pp. 3-4. This case goes to show that when you push to get a deal done quickly, you may be stuck with results that you don’t like.

Section 502(b)(6):

In re Dronebarger, No. 10-10889 (Bankr. W.D. Tex. 1/31/11), which can be found here. This case is significant as the maiden opinion from Judge H. Christopher Mott, who took the bench in October 2010. The issue was whether the guarantor of a lease could take advantage of the cap on damages resulting from lease termination under section 502(b)(6). In a forty page opinion, the Court said no. The Court's primary reasoning was that section 502(b)(6) was limited to damages arising from termination of a lease. Here, the damages arose from failure to repair the property during the pendency of the lease, not from termination of the lease. As a result, he distinguished the case from In re Mr. Gatti's, Inc., 162 B.R. 1004 (Bankr. W.D. Tex. 1994), where the damages resulted from rejection of the lease in bankruptcy. He also ruled that a guarantor could not take advantage of the cap because his liability arose under a guaranty rather than under the lease. The opinion has an excellent discussion of section 502(b)(6) and should be must reading for any party litigating under that section.

Disclosure: My firm became co-counsel to the Debtors subsequent to the court's opinion. We were not involved in the claims issue. Another interesting historical note is that Eric Taube represented the landlord in both Mr. Gatti's and Dronebarger. I represented the Debtor in Mr. Gatti's.

Fraudulent Transfers:

In re Wren Alexander Investments, LLC, No. 08-52914 (Bankr. W.D. Tex. 2/17/11). You can find the opinion here. This case goes to show that not all second acts are for the better. Charles Pircher is a former banker who went to prison during the bank scandal of the 1980s. After prison, he managed a series of professional employee organizations which minimized workers compensation costs by forming new entities to take advantage of lower rates given to new companies. The PEOs were supposed to pay wages and remit taxes to the government. They failed to accomplish the latter, resulting in a large IRS tax liability.

One of the PEOs acquired a ranch in Medina County, Texas. It proved to be a good investment because it was purchased for $630,000 in 1999 and was sold for $5,250,000 in 2009. Pircher used money from the PEOs to build a 10,000 square foot house, a 12,000 square foot horse stable and a 39,000 square foot quarter horse arena. While Pircher said that he had an informal agreement to pay the money back at some point, no documents were drafted and he paid no rent.

The first owner of the property, United Capital Investment Group, Inc., took out a hard money loan to pay off the original purchase price, to build improvements on the property and to pay Pircher's criminal restitution obligations. When the IRS started filing tax liens against the PEOs, Pircher transferred the property to Medina Heritage, Ltd., an entity he controlled. While the deed was dated prior to the filing of an IRS tax lien, it was not recorded until afterwards. The consideration for the transfer was assumption of the existing liabilities on the property.

The property was then transferred to Wren Alexander Investments, Ltd., the debtor in this case. Wren Alexander was controlled by a close business associate of Pircher's. The purchase price was the amount necessary to pay off the existing liens (although not the tax lien). Pircher's stated intent in selling the property was to get it out of his name while retaining control. The IRS filed a nominee lien against Wren Alexander Investments, Ltd.

Wren Alexander filed chapter 11 and the property was sold. The Debtor filed an objection to the claim of the IRS. The principal issue was whether the tax lien was valid against the transferee of the property. Judge Ronald King has an excellent discussion of Texas fraudulent transfer law. Judge King found that the transfer from United Capital to Medina Heritage was a fraudulent transfer because the property was sold for less than reasonably equivalent value while insolvent. The found that this provision could not be used to avoid the second transfer because the IRS was not an existing creditor of Wren Alexander. However, he did find that the transfer could be avoided as one made with actual intent to hinder, delay or defraud. The result was that the IRS received the remaining proceeds in the amount of approximately $1.2 million.

Avoiding a Foreclosure Sale:

Munoz v. James S. Nutter & Co., Adv. No. 10-3039 (Bankr. W.D. Tex. 2/22/11), found here.

The Munoz case involved the situation of a bankruptcy being filed after a foreclosure sale had been conducted but before the deed was recorded. The Court found that the debtors could not use the strong arm powers under section 522(h) because the recorded deed of trust would have placed a prospective purchaser on inquiry notice. The opinion is memorable for the following passage:

What a difference a day can make. This case presents a regrettable situation where Plaintiffs’ bankruptcy petition, for whatever reason, was filed one day late and Plaintiffs’ home was foreclosed upon before the bankruptcy. Thankfully these occurrences are infrequent, as the result can be disastrous to a debtor who can lose the opportunity to save their home. With the right set of facts and proof, the bankruptcy laws can provide relief to “undo” a pre-bankruptcy foreclosure, but the mountain that must be climbed is very technical and extremely steep. Few debtors have been successful in reaching the summit of this mountain and setting aside a foreclosure sale that occurred prior to the bankruptcy filing. Although this Court is extremely sympathetic to Plaintiffs’ plight, in this case it is unable to “reverse” the foreclosure and give Plaintiffs back their home.

Plaintiffs’ attempt to set aside the foreclosure sale under the “strong-arm power” of §544 must be denied as a hypothetical purchaser on the date of Plaintiffs’ bankruptcy filing would not have “bona fide purchaser” status under §544(a)(3) of the Bankruptcy Code and Texas state law. Plaintiffs also did not meet their burden of proof under §544, and for these reasons and those set forth in this Opinion, Plaintiffs may not avoid the foreclosure sale transfer of the Property to Navar under §544(a)(3).

Opinion, pp. 36-37.

Homestead Exemption on a Golf Course:

In re Schott, No. 10-54276 (Bankr. W.D. Tex. 3/15/11), found here.

Many golf widows may feel that their husbands live at the golf course. However, in this case involving a Texas homestead exemption, the debtor literally did live in the clubhouse (at least for a period of time.). When he filed bankruptcy, he claimed the golf course as his homestead and a creditor objected.

The court found that the property was rural and that the debtor had not abandoned the homestead. Therefore, the question was whether he could claim some of all of the property as homestead. The property consisted of two tracts separated by a county road.

Judge Leif Clark noted that under Texas law, where a rural homestead consists of two noncontiguous tracts, one tract must be used as a residence and the other tract must be used for the “comfort, convenience or support of the family.” The tract containing the clubhouse qualified as a residence. However, the tract containing the golf course did not fit within the definition of a homestead.

The court found that the debtor “does not play or even enjoy golf,” that he sometimes likes to take walks on the golf course and that he had intended to develop the property as a resort. While the term “comfort, convenience or support of the family” is a broad one, taking occasional walks on the property was not sufficient.

Non-Dischargeability Among Friends:

Turbo Aleae Investments, Inv. v. Borschow, Adv. No. 09-3005 (Bankr. W.D. Tex. 4/8/11), which can be found here. Judge Mott succinctly described the dispute in this case when he stated:

This case illustrates what can happen when a friend loans money to another friend, and then the relationship turns sour when the friend cannot repay the loan.

Opinion, p. 1.

The opinion contains a lengthy recitation of the conflicting narratives of the parties, highlighting that many of the critical terms were never reduced to writing.

The court distinguished between false pretenses and actual fraud, noting that earlier cases considered these two grounds for nondischargeabiilty under section 523(a)(2)(A) to have separate elements, while more recent Fifth Circuit cases pointed to a single test. The court rejected a claim of false pretenses on the basis that, if it still existed as a separate ground for nondischargeability, it required a false statement about current or past facts, not actions to be performed in the future.

The opinion is a good case study in how to prove or defend a non-dischargeability case. There were two main contentions made: 1. that the debtor lied about intending to use the loan proceeds to pay off a prior secured debt; and 2. that the debtor lied about intending to use the loan proceeds to pay off a debt owed to a related party to the lender.

In the case of the first representation, the court found insufficient evidence that the representation was made. The first time the representation was mentioned in writing was in an email after the fact. Although the stated reason for wanting the prior debt paid off was to obtain a security interest in the company's equipment, the loan documents did not provide for a security interest. Additionally, the lender did not inspect the equipment or attempt to determine its value. Finally, the lender acted inconsistently by referring the debtor to Chase Bank to get a loan to pay off the prior debt. As Judge Mott concluded:

While the Court is sympathetic to Turbo and believes that Omar and Ernest likely thought Allen should have used the money to pay off the SNB loan, after weighing the evidence and testimony, the Court concludes that Turbo has failed to show that Allen obtained the loan proceeds through actual fraud by falsely representing he would use the loan proceeds to pay off the SNB loan.

Opinion, p. 27.

On the other hand, the plaintiff's did show that the debtor committed fraud with regard to the second representation. The lender initially wanted to withhold the funds and pay them directly to the related party. The debtor said that he needed to receive the funds directly "for accounting purposes." However, when he received the funds, his business account was so far overdrawn that there were no funds left to repay the related party.

The differing outcomes between the two claims demonstrates that parties are rarely completely honest or completely devious, but that the truth is largely a combination of shades of gray.

In a very brief passage, the Court denied attorney's fees to the plaintiffs, noting that:

The Court also determines that each party shall bear their own attorneys fees and expenses. Specifically, the Court finds that the loan at issue is not primarily consumer debt, and that the positions of parties in this proceeding were substantially justified. Thus, awarding attorney fees is not appropriate in this case. See 11 U.S.C. §523(d).

Opinion, p. 37. Section 523(d) allows the court to award attorney's fees against a creditor who unsuccessfully seeks a determination of nondischargeability on a consumer debt and asserts a position that is not substantially justified. In this case, the debts involved were business debts so that the debtor could not have recovered attorney's fees. However, the court appears to be using the principles of section 523(d) by analogy to deny recovery of attorney's fees in a business dispute where each side offered positions that were substantially justified. I would have preferred to see the Court invoke the American Rule that each side pays its own fees in the absence of specific authority for fee-shifting. However, the court's ruling roughly adheres to this standard.

The take-away from this case is don't loan money to friends if you can't afford to lose the money or the friendship.

Remand:

Legal Xtranet, Inc. v. AT&T Management Services, LP, Adv. No. 11-5042 (Bankr. W.D. Tex. 5/24/11), which can be found here. This was a case involving a motion to remand. The Court found that state law contract disputes were non-core proceedings subject to mandatory abstention and that disputes over the tax liability of AT&T did not qualify for even "related to" jurisdiction. The most interesting part of the opinion is the Court's lament over AT&T's successful attempt at forum shopping. Judge Leif Clark wrote:

The court is reluctant to reward AT&T’s blatant forum shopping in this case. AT&T filed a jury demand and refused to consent to a jury trial in this court in an effort to bolster its argument that the parties’ dispute could be timely adjudicated in state court: AT&T’s refusal to consent to a jury trial here meant that even if the court retained jurisdiction over the parties’ dispute, the case would have to be tried in the federal district court, assuring AT&T that it would have a different judge to hear the case. That would also almost certainly mean that the case would not likely be heard for quite some time. Furthermore, it is not entirely clear that the parties’ dispute, as it currently stands, involves any factual issues for a jury to decide – the request of declaratory relief will not go beyond the terms of the contract itself unless there is ambiguity in the agreement (or unless the contract itself is found to point outside itself for the determination or application of its terms). Thus, AT&T’s jury demand machinations appear to be nothing more than an effort to forum shop. Nonetheless, as noted above, the question is not whether the case can be more timely adjudicated in state court than in the bankruptcy or district court; the question is simply whether it can be timely adjudicated in state court. AT&T established that it could be timely adjudicated in state court, and the court’s determination to that effect did not depend upon a finding that the case could not be timely adjudicated in the district court. And there is nothing in section 1334(c)(2) that permits a court to deny relief on grounds that the effort is motivated by a desire to forum shop. Indeed, the sad truth is that the structure of bankruptcy jurisdiction actually encourages and rewards forum shopping strategies. There is little this court can about that, other than to encourage Congress to consider the consequences that seem to flow from the current structure.

Opinion, at p. 17. It seems unlikely that Congress will be moved to change section 1334(c)(2).

Till Interest Rate:

In re Village at Camp Bowie I, LP, No. 10-45097 (Bankr. N.D. Tex. 8/4/11), found here. In this single asset real estate case, the court considered, among other things, artificial impairment and
the proper interest rate for cramdown of a secured creditor.

The court found that artificial impairment standing alone was not enough to prevent a finding of good faith.

Indeed, at least one court has persuasively suggested that the drafters of the Code did not intend to create a system in which – even in a single asset real estate case – a lender could use its overwhelming share of the claims in a case to divest other creditors and equity owners of their economic interests. (citation omitted). Yet the only way around control of the reorganization by a debtor’s lender in a case like that at bar is through impairment and an affirmative vote of a class of unsecured creditors who will typically have small claims that could be readily satisfied through full payment with interest. For a debtor to have any leverage at all in such a case – e.g., in negotiations – it must be possible to look to those unsecured creditors to satisfy section 1129(a)(10).

Opinion, p. 10.

The Court also had an interest take on applying Till v. SCS Corporation, 541 U.S. 465 (2007). The court noted that under Till, the court left open the issue of whether a market rate could be set in the case where there was an efficient market for loans of the type proposed by the debtor in its plan. Because there was no such efficient market, the court determined to apply a formula approach. However, rather than using the Prime + 1-3% formula suggested by the Till Court, the Bankruptcy Court went through an elaborate approach of valuing different tranches of debt and adjusting for risk.

One of the experts (it is not clear whose) started with the five year treasury bill rate of 1.71% as a risk free rate. He then adjusted it for several factors and concluded that the rate for the first 65% of the collateral's value would be between 4.76%-5.01%. He concluded that the mezzanine rate for 65-85% of collateral value would be 13.02-14.88%. Finally, he concluded that the appropriate rate for amounts in excess of 85% of collateral value would be 18.63%. Taking all of these tranches into account and making other adjustments, he somehow came up with a blended rate of 6.25-7.75%.

The court adopted his methodology but tinkered with the assumptions to come up with a rate of 6.27-6.59%. Because the Debtor had proposed a rate of 5.83%, the Court denied confirmation with leave to file a plan providing for an interest rate of 6.4%.

Camp Bowie was a case involving a property valued at $34 million. Therefore, it might have been able to support the cost for the type of expert witness testimony used here. However, I have two concerns here. The first is that Till was supposed to provide an inexpensive and simple method for determining value. Most chapter 11 cases are small business cases which cannot afford the cost of an expert. Second, unless the Court has an advanced degree in finance (which several of the Texas bankruptcy judges do), it is likely that the competing experts will bamboozle the court which will be forced to split the difference.

In the Camp Bowie case, the Court could just as easily said prime + 3 and arrived at 6.25%, which is within .15% of the rate it reached through the elaborate calculations.

Recently, I was at a CLE seminar in New York sponsored by the Commercial Law League of America. Judge Robert Drain from the Southern District of Texas polled the room as to who represented debtors and who represented creditors. He then offered a hypothetical with choices between a prime rate + approach, a tranche approach and a there is no rate high enough approach. When only one hand went up for the prime + approach, he said, I see we've found the debtor's lawyer in the room (which was me). He then offered a very thoughtful analysis of why he thought the Supreme Court would adopt the prime + approach in a chapter 11 case.

This just goes to show that even after Till, there is still a lot of debate over how to select the cram-down interest rate.

Stern and Fraudulent Conveyances:

Kirschner v. Agoglia, Adv. No. 07-3060 (Bankr. S.D. N.Y. 11/30/11), found here. (Link will take you to the Southern District of New York Bankruptcy website. Go to opinions, then to Judge Drain to find the case).

During the past six months, practitioners have heard a lot of volume about Stern v. Marshall without getting a lot of clarity. (I plead guilty there since I have been on multiple panels and I am still trying to figure it out). Judge Robert Drain from the Southern District of New York has recently penned a very thoughtful opinion about the "firmly established historical practice" doctrine suggested by Justice Scalia in his concurrence. He noted that "the pursuit of avoidance claims has been 'a core aspect of the administration of bankruptcy estates since the 18th century.'" Opinion, at 9. He then offered a very thorough history of the ability of Article I judges to enter final judgments in fraudulent transfer cases. After all that, he found that the complaint did not state a cause of action and dismissed it as to one defendant.

The analysis that I would like to see (and would like to write some day if I had the time) would trace the origin of bankruptcy as a device to punish debtors who made fraudulent transfers. I suspect that it would show that bankruptcy law and fraudulent transfer law have been bound together since the very beginning.