Posts Tagged ‘“US Bankruptcy Code”’
Monday, April 19th, 2010
International readers of this blog – and those in the US who practice internationally – are more than likely aware of the doctrine of “comity” embraced by US commercial law.¬† In a nutshell, “comity” is shorthand for the idea that US courts typically afford respect and recogntion (i.e., enforcement) within the US to the judgment or decision of a non-US court – so long as that decision comports with those notions of “fundamental fairness” that are common to American jurisprudence.
In the bankruptcy context, “comity” forms the backbone for significant portions of the US Bankruptcy Code’s Chapter 15.¬† Chapter 15 – enacted in 2005 – provides a mechanisim by which the administrators of non-US bankruptcy proceedings can obtain recogntion of those proceedings, and further protection and assistance for them, inside the US.
But in at least some US bankruptcy courts, “comity” for non-US insolvencies only goes so far.¬† Last month, US Bankruptcy Judge Thomas Argesti, of Pennsylvania’s Western District, offered his understanding of¬†where “comity” stops – and where US bankruptcy proceedings begin.
Judge Argesti currently presides over¬†Chapter 15 proceedings commenced in furtherance of two companies – Canada’s Railpower Technologies Corp. (“Railpower Canada”) and its wholly-owned US subsidiary, Railpower US.¬† The two Railpower entities commenced proceedings under the Canadian Companies Creditors’ Arrangement Act (“CCAA”) in Quebec in February 2009.¬† Soon afterward, their court-appointed monitors, Ernst & Young, Inc., sought recogntition of the Canadian Railpower cases in the US.
Railpower US’ assets and¬†employees – and¬†90% of its creditors – were¬†located in the US.¬†¬†The company was managed from offices in Erie, PA.¬† Nevertheless, it carried on its books an inter-company obligation of $66.9 million, owed to its Canadian parent.¬† From the outset, Railpower US’ American¬†creditors asserted this “intercompany debt” was, in fact, a contribution to equity which should be subordinate to their trade claims.¬† Judge Argesti’s predecessor, now-retired Judge Warren Bentz, therefore conditioned recognition of Railpower US’ case upon his ability to review and approve any proposed distribution of Railpower US’ assets.¬† After the company’s assets were sold, Judge Bentz further required segregation of the sale proceeds pending his authorization as to their distribution.¬† Finally,¬†after the Canadian monitors obtained a “Claims Process Order” for the resolution of claims in the CCAA proceedings and sought that order’s enforcement in the US, Judge Bentz further “carved out” jurisdiction for himself to adjudicate the inter-company claim if the trade creditors received anything less than a 100% distribution under the CCAA plan.
Railpower US’ assets were sold – along with the assets of its Canadian parent – to R.J. Corman Group, LLC.¬† Railpower US was left with US$2 million in sale proceeds against US$9.3 million in claims (other than the inter-company debt).¬† The Canadian monitor indicated¬†its intention to file a “Notice of Disallowance” of the inter-company debt in the Canadian proceedings, but apparently never did.¬† Meanwhile, approximately CN$700,000 was somehow “upstreamed” from Railpower US to Railpower Canada.¬† Finally, despite the¬†monitor’s¬†assurances to the contrary, Railpower Canada’s largest shareholder – and an alleged secured creditor – sought relief in Quebec to throw both¬†Railpower entities into liquidation proceedings under¬†Canada’s Bankruptcy and Insolvency Act.
Enough was enough for Railpower US’ American creditors.¬† In August 2009, they filed an involuntary Chapter 7 proceeding against Railpower US, seeking to regain control over the case – and Railpower US’ assets – under the auspices of an American panel trustee.
The Canadian monitor requested abstention under Section 305 of the Bankruptcy Code.¬† Significantly re-drafted in the wake of Chapter 15’s enactment, that section permits a US bankruptcy court to dismiss a bankruptcy case, or to suspend bankruptcy proceedings, if doing so (1) would better serve the interests of the creditors and the debtor; or (2) would best serve the purposes of a recognized Chapter 15 case.
Judge Argesti’s 14-page decision, in which he denied the monitors’ motion and permitted the Chapter 7 case to proceed,¬†is one of apparent first impression on this section where it regards a Chapter 15 case.
Where the “better interests of the creditors and the debtor” are concerned, Judge Argesti’s discussion essentially boils down to the proposition that because creditors representing 85% – by number and by dollar amount – of Railpower US’ case sought¬†Chapter 7, those creditors have spoken for themselves as to what constitutes their “best interests” (“The Court starts with a presumption that these creditors have made a studied decision that their interests are best served by pursuing the involuntary Chapter 7 case rather than simply acquiescing in what happens in the Canadian [p]roceeding.”).
The more interesting aspect of the decision concerns Judge Argesti’s discussion of whether or not the requested dismissal “best serve[d] the purposes” of Railpower’s Chapter 15 cases.¬† For guidance on this issue, Judge Argesti turned to Chapter 15’s statement of policy, set forth in Section 1501 (“Purpose and Scope of Application”) – which states Chapter 15’s purpose of furthering principles of comity and protecting the interests of all creditors.¬† Then, proceeding point by point through each of the 5 enunciated principles behind the statute, he arrived at the conclusion that the purposes of Chapter 15 were not “best served” by dismissing the involuntary Chapter 7 case.¬† As a result, Railpower US’ Chapter 7 case would be permitted to proceed.
Judge Argesti’s analysis appears¬†to focus primarily on (i) the Canadian monitors’ apparent delay in seeking disallowance of the inter-company debt in Canada; (ii) the “upstreaming” of CN$700,000 to Railpower Canada; and (iii) the monitors’ apparent failure, as of the commencement of the involuntary Chapter 7, to “unwind” these transfers or to recover them from Railpower Canada for the benefit of Railpower US’ creditors.¬† It also rests on the fact that Railpower US was – for all purposes – a US debtor, with its assets and creditors located primarily in the US.
In this context, and in response to the monitors’ protestations that comity entitled them to judicial deference regarding the Chapter 15 proceedings, Judge Argesti noted that:
comity is not just a one-way street.¬† Just as this Court will defer to a [non-US] court if the circumstances require it, so too should a foreign court defer to this Court when appropriate.¬† In this case it was clear from the start that [this Court] expressed reservations about the distribution of Railpower US assets in the Canadian [p]roceeding . . . .¬† The Monitor has [not] explained how this¬†[reservation] is to be [addressed] unless the Canadian Court shows comity to this Court.
Judge Argesti’s decision may be limited to its comparatively unique facts.¬† However, it should also serve as a cautionary tale for representatives seeking to rely on principles of comity when administering business assets in the US.¬† In addition to his more limited construction of “comity,” Judge Argesti also noted that recognition of Railpower US’ Chapter 15 case was itself subject to second-guessing where subsequently developed evidence suggested that the company’s “Center of Main Interests” was not in Canada, but in the US.
For anyone weighing strategy attendant to the American recognition of a non-US insolvency proceeding, this decision is important reading.
Saturday, January 9th, 2010
When a foreign business entity commences a bankruptcy proceeding, US courts’ recognition of that proceeding depends on¬†whether or not it is a “foreign main proceeding” under the meaning of US Bankruptcy Code.¬† Whether or not a foreign bankruptcy is a recognized “foreign main proceeding” depends on the location of the debtor’s “center of main interests” (or “COMI”).
The concept of a debtor’s “COMI” has become a critical one – not only in the US, but in a number of foreign jurisdictions including the UK.¬†¬†Because the same legal concept arises in multiple jurisdictions, the manner in which¬†the “COMI” concept is applied across international boundaries carries with it the potential for the same sort of duplication, jurisdictional confusion, and mischief that led to the development and implementation of UNCITRAL’s model cross-border insolvency law in the first place.¬† Consequently, getting COMI right – and getting it consistent across jurisdictional borders – has become a matter of international concern.
The importance of COMI has come to light most recently in the Stanford matter (see prior posts here), where multiple courts have been asked to determine COMI for Stanford International Bank, Ltd. (SIB).¬† In Texas, Judge David Godbey has taken extensive briefing from the parties in advance of a decision on recognition.¬† In London, Mr. Justice Lewison’s original decision finding SIB’s COMI to be Antigua – rendered last July – saw approximately 5 days of appellate argument at the end of last year.¬† The parties presently await¬†a decision from the English Court of Appeal.
The Stanford matter highlights a fundamental question about COMI:¬† Should it be a flexible concept, susceptible to broad judicial discretion?¬† Or should COMI be based purely on objective factors, precisely and mechanically applied?
Mr. Justice Lewison’s prior decision in London (summarized and avaialable¬†here) took an essentially¬†mechanistic approach to determining COMI, focusing primarily – as the UK Regulation requires – on¬†what creditors objectively perceived about the debtor.¬† US law – which, like England’s, is based on the UNCITRAL model – likewise places similar emphasis on creditors’ perceptions in dealing with the debtor.
But did legislators in the UK or the US intend that the¬†analysis should stop with what creditors knew or likely would have known about the debtor?
After all, Stanford’s operation was a sham.¬† And where creditors’¬†perceptions of SIB were based on a sham, is it appropriate to perpetuate the sham in determining COMI?
While the English Court of Appeal deliberates Lewison J’s decision, Judge Godbey appears headed in a slightly different analytical direction.¬† Specifically, the questions on which he’s requested briefing in the Texas proceeding appear to focus more specifically on the similarity of COMI to a debtor’s “principal place of business” as that concept is recognized under US law.¬† Though not inconsistent with what creditors would have perceived about the debtor, it tends to focus more broadly on factors which, though objective, are not tied as closely to what the debtor held out to specific parties.¬† Instead, the debtor’s “principal place of business” views the totality of the debtor’s operations – whether or not such operations were completely visible to creditors or other third parties – and, on the basis of these specific facts, determines the debtor’s principal place of business.
Whether a possible change in COMI analysis means a change in SIB’s COMI remains to be seen.
Monday, November 16th, 2009
As readers of this blog are aware, Antiguan liquidators Peter Wastell and Nigel Hamilton-Smith and federal receiver Ralph Janvey have been busy in several forums battling for control of the financial assets previously controlled by Allen Stanford, including Stanford International Bank, Ltd. (SIB).¬† Prior posts are accessible here.
Messr’s. Wastell and Hamilton-Smith have filed numerous pleadings from other courts in support of their pending request, before US District Court Judge David Godbey, for recognition of their liquidation of SIB as a “main case” under Chapter 15 of the US Bankruptcy Code.
Mr. Janvey has recently filed his own copies of several recent rulings.¬† These include a ruling in which the Quebec Superior Court’s¬†Mr. Justice Claude Auclair found that Vantis Business Recovery Services – a division of British accounting, tax, and advisory firm Vantis plc, and the firm through which Messr’s. Wastell and Nigel Hamilton-Smith were appointed liquidators for SIB – should be removed from receivership of SIB’s Canadian operations.
More recently, Mr. Janvey has filed a copy of a recently unsealed plea agreement between Stanford affiliate James Davis and federal prosecutors.
Mr. Janvey’s papers provide a glimpse into Davis’ relationship with Stanford, and into the origins of SIB.¬† Summarized briefly:
– Davis’ and Stanford’s relationship dates back to the late 1980s, when Stanford retained Davis to act as the controller for then-Montserrat-based Guardian International Bank, Ltd.¬† Davis’ plea agreement recites that Stanford had Davis falsify the bank’s revenues and portfolio balances for banking regulators.¬† Continued regulatory scrutiny in Montserrat eventually led to Stanford’s closure of Guardian and removal of its banking operations to Antigua – where, in 1990, it resumed operations under the name of Stanford International Bank, Ltd.
– SIB and a “web of other affiliated financial services companies” operated under the corporate umbrella of Stanford Financial Group.¬† SIB’s primary function was to market supposedly safe and liquid “certificates of deposit” (CDs).¬† By 2008, SIB had sold nearly $7 billion of them to investors worldwide.
– Davis’ plea agreement further recites that investors were assured SIB’s operations were subject to scrutiny by the Antiguan Financial Services Regulatory Commission (FSRC), and to independent, outside audits.
SIB’s Asset Allocation and Operations
– In fact, SIB investor funds were neither safe nor secure.¬† According to Davis’ plea agreement, investor funds did not go into the marketed CDs.¬† Instead, they were placed into three general “tiers”: (i) cash and cash equivalents (“Tier I”); (ii) investments managed by outside advisors (“Tier II”); and (iii) “other” investments (“Tier III”).¬† By 2008, the majority of SIB’s investor funds – approximately 80% – were¬†held in “highly illiquid real and personal property” in “Tier III,”¬†including $2 billion in “undisclosed, unsecured personal loans” to Allen Stanford.¬† A further 10% was held in “Tier II.”¬†¬†The remaining 10% balance was presumably held in “Tier I.”
– Likewise, SIB’s operations were not subject to any meaningful scrutiny.¬† Davis’ plea agreement recites that in or about 2002, Stanford introduced him to Leroy King, a former Bank of America executive and Antiguan ambassador to the US, and soon-to-be Chief Executive Officer of the FSRC.¬† Stanford, King, and another FSRC employee responsible for regulatory oversight performed a “blood oath” brotherhood ceremony sometime in 2003 – ostensibly to cement their commitment to one another and King’s commitment to the protection of SIB – i.e., to “ensure that Antiguan bank regulators would not ‘kill [SIB’s] business'” in Antigua.
– Though blood may be thicker than water, it is not thicker than cash: Stanford’s and King’s “brotherhood” was cemented further by bribes paid to King for his protection of SIB.¬† Acccording to Davis’ plea agreement, these bribes ultimately exceeded $200,000.¬† In return for this largesse, King reassigned two overly inqusitive Antiguan examiners of which Stanford complained sometime in 2003.¬† In 2005 and again in 2006, King further cooperated with Stanford in providing misleading responses to the US Securities and Exchange Commission (SEC)’s inquiries to the FSRC, in which the SEC divulged to the FSRC that it had evidence of SIB’s involvement in a¬†“possible Ponzi scheme.”¬† King and Stanford similarly collaborated in responding to a 2006 inquiry by the Director of the Eastern Caribbean Central Bank’s Bank Supervision Department regarding SIB’s affiliate relationship with the Bank of Antigua.
SIB’s Financial Reporting
– A central premise of Stanford’s approach to soliciting investments – and, perhaps understandably, a central point of interest for would-be investors¬†– was that SIB must show a profit each year.¬† To accomplish this, Davis and Stanford reportedly initially determined false revenue numbers for SIB.¬† Ultimately, this collaboration gave rise to a fabricated annual “budget” for SIB, which would show financial growth.¬† Using these “budgeted” growth numbers, Stanford accounting employees working in St. Croix would generate artificial revenues (and resulting artificial ROIs), which were then transmitted to Stanford’s Chief Accounting Officer in Houston and ultimately to Davis in Mississippi for final adjustment and approval before making their way back to the Caribbean for reporting to SIB investors.
– According to Davis’ plea agreement, “[t]his continued routine false reporting . . . created an ever-widening hole between reported assets and actual liabilities, causing the creation of a massive Ponzi scheme . . . .¬† By the end of 2008, [SIB reported] that it held over $7 billion in assets, when in truth . . . [SIB] actually held less than $2 billion in assets.”
– In about mid-2008, Stanford, Davis, and others attempted to plug this “hole” created by converting a $65 million real estate transaction in Antigua into a $3.2 billion asset of SIB through a “series of related party property flips through business entities controlled by Stanford.”
SEC Subpoenas and SIB’s Insolvency
– By early 2009, the SEC had issued subpoenas related to SIB’s investment portfolio.¬† At a February meeting held in advance of SEC testimony, Stanford management determined that SIB’s “Tier II” assets were then valued at approximately $350 million – down from $850 million in mid-2008.¬† Management further determined that¬† and¬†SIB’s “Tier III” assets consisted of (i) real estate acquired for less than $90 million earlier in the year, but now valued at more than $3 billion; (ii) $1.6 billion in “loans” to Stanford; and (iii) other private equity investments.¬† Davis’ plea agreement recites that at that same meeting, and despite the apparent disparity between actual and reported asset values, Stanford insisted that SIB had “‘at least $850 million more in assets than liabilities.'”¬† In a separate meeting later that day, however, Stanford reportedly acknowledged that SIB’s “assets and financial health had been misrepresented to investors, and were overstated in [SIB’s] financials.”
Janvey doesn’t describe exactly how these acknowledged facts integrate into his prior opposition to the Antiguan liquidators’ request for recognition.¬† His prior pleadings have questioned indirectly the integrity of the Antiguan wind-up proceedings; consequently, Mr. King’s role in protecting SIB under the auspices of the Antiguan FSRC may well be the point.¬† Likewise, Janvey may point to the US-based control and direction of financial reporting manipulations that ultimately created a $5 billion “hole” in SIB’s asset structure as evidence of the American origin of SIB’s allegedly fraudulent operations.¬† Or the filing may be intended to blunt the effect of a previously filed detention order – issued by another US District Court and affirmed by the US Fifth Circuit Court of Appeals – confining Stanford to the US and observing that his ties to Texas were “tenuous at best.”
It remains for Judge Godbey to determine whether – and in what way and to what degree – Davis’ plea agreement impacts on the liquidators’ request for a determination that SIB’s “center of main interests” remains in Antigua.
For the moment, the parties await his decision.
Monday, October 19th, 2009
Postings on this blog have focused on the cross-border battle between¬†Antiguan liquidators Peter Wastell and Nigel Hamilton-Smith and federal receiver Ralph Janvey for control of the financial assets previously controlled by Sir Allen Stanford, including Stanford International Bank, Ltd.¬†(SIB).¬† A complete digest of prior posts is available here.
Mr. Janvey, meanwhile,¬†has had to address yet another challenge to his receivership –¬†from investors seeking to commence an involuntary Chapter 7 case.¬† In early September, an ad hoc group of CD and deposit-holders fronted by Dr. Samuel Bukrinsky, Jaime Alexis Arroyo Bornstein, and Mario Gebel requested an expedited hearing on their request for leave to commence an involuntary bankruptcy against the Stanford entities.
The ad hoc investor group’s September request was not their first: In May of this year, the same investors requested essentially the same relief.¬† That request was never acted on, presumably because presiding US District Court Judge David Godbey already had imposed a 6-month moratorium on interference with the receivership.
With the moratorium’s expiration, the investors¬†have raised the issue once again.
A Receivership Run Wild?
Their¬†second request largely repeats the investors’¬†prior arguments, many of them rather personal: No one is happy with the way this receivership has been run, they claim.¬† Specifically, the receivership is far too expensive and the lack of meaningful participation deprives creditors of significant due process rights.¬† Instead, an involuntary liquidation under Chapter 7 of the US Bankruptcy Code is the best and most efficient means of reining in expenses and preserving those rights.¬† The investors’ brief¬†offers a picture of the 21st century Stanford receivership more closely resembling Dickens’¬†19th century “Bleak House”: Professional fees accruing at an “alarming” rate (in this case, an estimated $1.1M per week);¬†an estate at risk of being consumed entirely by administrative costs; and investors ultimately twice victimized.
The investors further argue that an injunction prohibiting creditors’ access to the US bankruptcy system is, at best, an interim measure.¬† As such, it can never be employed¬†on a permanent basis¬†– and, therefore, cannot survive the standards for injunctive relief articulated under the Federal Rules of Civil Procedure.¬† They cite a variety of decisions which stand – according to them – for the proposition that the US Bankruptcy Court offers the best forum for complex liquidations such as the one at hand.
Creditors Who Don’t Know What’s Best For Them?
Predictably, Mr. Janvey disagrees in the strongest terms.
As he sees it (and as he sees a string of federal cases referenced in his response), a federal equity receivership – and not a federal bankruptcy proceeding – is the accepted, “decades-long practice” of federal courts in winding up entities that were the subject of alleged Ponzi schemes and other frauds.¬† Moreover, Mr. Janvey suggests that if creditors are dissatisfied with the expense and claimed inefficiency of this proceeding, transition to a liquidation under the US Bankruptcy Code would be even more so.¬† In support, Mr. Janvey offers a “parade of horribles,” such as the “procedural nightmare” involved in transitioning much of the complex litigation already underway in the receivership to a bankruptcy trustee’s administration, the likely existence of multiple creditors’ committees (and the attendant expense of their counsel), and the need to sort out¬†the Antiguans liquidators’¬†competing Chapter 15 recognition request even if a Chapter 7 petition is filed.
Perhaps most significantly, however, Mr. Janvey believes that flexibility regarding a plan of distribution should govern the administration of the Stanford matters:
Like the¬†Bankruptcy Code, equity receiverships ensure that persons similarly situated receive similar treatment. In a case such as this involving massive deception, however, a searching evaluation of the facts is required to discern relevant differences between and among categories of creditors. Unlike a trustee in bankruptcy, the Receiver can take into account relative fault within a class of creditors, and fashion an equitable plan of distribution that does not treat all creditors within a class identically if they are not deserving of equal treatment.
Mr. Janvey does not develop how a receiver’s application of equitable principles¬†might differ from the equitable and other subordination provisions of Bankruptcy Code section 510.¬† Ultimately, his response reduces itself to a simple proposition for Judge Godbey and for creditors:
Unfortunately, Messr’s. Bukrinsky,¬†Bornstein, and¬†Gebel do not.¬† Their reply brief¬†– submitted last Friday – again reiterates that the Stanford receivership has outlived its usefulness in¬†this highly complex insolvency.¬† According to them, the Stanford record speaks for itself.¬† It is time for¬†a new regime.
Like the liquidators’ request for US recognition of their Antiguan-based wind-up of SIB, the parties now await Judge Godbey’s decision.
Monday, September 28th, 2009
The bankruptcy blogosphere is replete with commentary on Chrysler LLC’s sale, through Section 363 of the Bankruptcy Code,¬†to a newly-formed entity.¬† The sale, of substantially all of Chrysler’s assets for $2 billion, gave secured creditors an estimated $0.29 on the dollar.¬† Other, unsecured creditors received more.¬† Though challenged, the sale ultimately received the 2d Circuit’s approval in a decision issued August 5.
Was the Chrysler sale¬†proper?¬†¬†Or¬†did it¬†constitute an inappropriate “end run” around the reorganization provisions that ordinarily apply in a confirmed Chapter 11 plan?
Harvard Law’s Mark Roe¬†and Penn Law’s David Skeel tackle this question in a paper released earlier this month entitled “Assessing the Chrysler Bankruptcy.”¬†¬†Roe and Skeel argue, in essence,¬†that there was no way to tell whether or not the sale was proper because the sale lacked valuation, an arm’s length settlement, or a genuine market test (i.e., an auction) – all traditional measures of whether or not secured creditors received appropriate value for their collateral.¬† They then suggest that the Chrysler transaction may portend a¬†return¬†of sorts to the¬†equitable receiverships used to reorganize the nation’s railroads at the end of the ninenteenth century.
Roe and Skeel follow two fundamental strands of thought.
First, they review the basic facts of the Chrysler sale against the context of other so-called “363 sales” and ask where Chrysler fits within this context.
Their answer is that it really doesn’t fit.
Most complex bankruptcy sales¬†(i.e., sales that effectively determine priorities and terms that the Code is structured to determine under Section 1129)¬†are insulated from running afoul of the Code’s reorganization provisions through judicial innovations such as expert valuations or priority determinations, creditor consents, or competitive auctions.¬† According to Roe and Skeel, the Chrysler sale had none of these.¬† Instead,
“[Chrysler’s] sale determined the core of the reorganization, but without adequately valuing the firm via [Section] 1129(b), without adequately structuring a . . . bargain [with creditors or classes of creditors], and without adequately market testing the sale itself.¬† Although the bankruptcy court emphasized an emergency quality to the need to act quickly . . . there was no immediate emergency.¬† Chrysler’s business posture in early June did not give the court an unlimited amount of time to reorganize, but it gave the court weeks to sort out priorities, even if in a makeshift way.”
How was the Chrysler sale deficient in these respects?
Though it involved a valuation presented by Chrysler, “the court did not give the objecting creditors time to present an alternative valuation from their experts . . . .¬† Here, the judge saw evidence from only one side’s experts.”
For those who may protest that the Chrysler sale did, indeed, enjoy the consent of Chrysler’s secured lenders, Roe and Skeel argue that the largest of these lenders were beholden to the U.S. Treasury and to the Federal Reserve – not only as regulators, but as key patrons via the federal government’s rescue program.¬† They were, therefore, willing to “go along with the program” – and the Bankruptcy Court was inclined to use their consent to overrule other objections from lenders not so well situtated.¬† On this basis, Roe and Skeel contend that the secured lenders’ “consent” – such as it may have been – wasn’t independent “consent” at all.
Roe and Skeel also point out that the “market test” proposed as a means of validating the sale was, in fact, not a test of Chrysler’s assets, but of the proposed sale: “There was a market test of the Chrysler [sale], but unfortunately, it was a test that no one could believe adequately revealed Chrysler’s underlying value, as what was put to market was the . . . [sale] itself.”
The authors then go on to argue that the sale was mere pretense – and that, in fact,¬†“there was no real sale [of Chrysler],¬†. . .¬†at its core Chrysler was a reorganization”:
“Consider a spectrum.¬† At one end, the old firm is sold for cash through a straight-forward, arms-length sale to an unaffiliated buyer.¬† It’s a prime candidate to be a legitimate [Section] 363 sale.¬† At the other end, the firm is transferred to insider creditors who obtain control; no substantial third-party comes in; and the new owners are drawn from the old creditors.¬† That’s not a [Section] 363 sale; it’s a reorganization that needs to comply with [Section] 1129.
. . . .
[To determine where a proposed sale falls along this spectrum,]¬†[a] rough rule of thumb for the court to start with is this stark, two-prong test: If the post-transaction capital structure contains a majority of creditors and owners who had constituted more than half of the old company’s balance sheet, while the transfer leaves significant creditor layers behind, and if a majority of the equity in the purportedly acquiring firm was in the old capital structure, then the transaction must be presumed to be a reorganization, not a bona fide sale.¬† In Chrysler, nearly 80% of the creditors in the new capital structure were from the old one and more than half of the new equity was not held by an arms-length purchaser, but by the old creditors.¬† Chrysler was reorganized, not sold.”
Was the Chrysler transaction – however it may be called – simply a necessary expedient, borne of the unique economic circumtsances and policy concerns confronting the¬†federal government during the summer of 2009?
Roe and Skeel argue that, in fact,¬†the¬†government could have acted differently: It could have picked up some of Chrysler’s unsecured obligations (i.e., its retiree obligations) separately.¬† It could have offered the significant subsidies contemplated by the deal to qualified bidders rather than to Chrysler.¬† It could even have paid off all of Chrysler’s creditors in full.¬† But it did none of this.
Second, Roe and Skeel consider that “[t]he deal structure Chrysler used does not need the government’s involvement or a national industry in economic crisis.”¬† Indeed, it¬†has already been offered as precedent¬†for proposed sales¬†in the Delphi and¬†Phoenix Coyotes NHL team bankruptcies – and, of course, in the subsequent GM case.
One very recent case in which South Bay Law Firm represented¬†a significant trade creditor involved a similar acquisition structure, with an insider- and management-affiliated¬†acquirer purchasing secured debt at a significant discount, advancing modest cash through a DIP facility to a struggling retailer, and proposing to transition significant trade debt to the purchasing entity as partial consideration for the purchase.
The deal got done.
What’s to become of this new acquisition dynamic?¬† Employing a uniquely historical perspective, Roe and Skeel travel back in time to observe:
“The Chrysler deal was structured as a pseudo sale, mostly to insiders . . . in a way eerily resembling the ugliest equity receiverships at the end of the 19th century.¬† The 19th century receivership process was a creature of necessity, and it facilitated reorganization of the nation’s railroads and other large corporations at a time when the nation lacked a statutory framework to do so.¬† But early equity receiverships created opportunities for abuse.¬† In the receiverships of the late 19th and early 20th century, insiders would set up a dummy corporation to buy the failed company’s assets.¬† Some old creditors – the insiders – would come over to the new entity.¬† Other, outsider creditors would be left behind, to claim against something less valuable, often an empty shell.¬† Often those frozen-out creditors were the company’s trade creditors.”
They trace the treatment of equity receiverships, noting their curtailment in the US Supreme Court’s Boyd decision, the legislative reforms embodied in the Chandler Act of 1938, and the 1939 Case v. Los Angeles Lumber Products decision¬†which articulated the subsequently-enacted “absolute priority rule” (but preserved the “new value exception”).¬† Against this historical background,¬†“Chrysler, in effect, overturned Boyd.”
But with a twist.
“One feature of Chrysler that differed from Boyd may portend future problems.¬† Major creditors in Chrysler were were not pure financiers, but were deeply involved in the automaker’s production.”¬† In cases where the value of the assets is enhanced by the continued involvement of key non-financial creditors, “players with similar [legal] priorities will not . . . be treated similarly.”
Translation: When non-financial creditors are driving enterprise value, a Chrysler-style sale suggests that some will make out, and some creditors¬†– even, on occasion,¬†some secured lenders – will get the shaft.
If accurate, Roe’s and Skeel’s Chrysler analysis raises some significant considerations about access to and pricing of business credit.¬† It raises new concerns for trade creditors.¬† It likewise presents the possibility that the Chapter 11 process – which has, in recent years, tilted heavily in favor of secured lenders – may not be quite as predictable or uniformly favorable as in the past.
Meanwhile . . .¬†it’s back to the future.
Tuesday, September 8th, 2009
Several weeks have passed since Antiguan liquidators Peter Wastell and Nigel Hamilton-Smith and federal receiver Ralph Janvey briefed US District Judge David Godbey on the liquidators’ request for US recognition of their proposed Antiguan liquidation of Stanford International Bank, Ltd. (SIB).
Readers will recall that Messr’s. Wastell and Hamilton-Smith have been at odds with Mr. Janvey, a federal receiver appointed in Dallas’ U.S. District Court for the purpose of administering not only SIB, but all of the assets previously controlled by Sir Allen Stanford (links to prior posts can be found¬†here).¬† Those assets and their creditors span at least three continents – North America, South America, and Europe – and have spawned insolvency proceedings in several countries.
One of the preliminary questions in these proceedings is which of them will receive deference from the others.¬† Of particular interest is which proceeding – and which court-appointed representative – will control the administration of SIB.¬† The¬†Eastern Caribbean Surpeme Court (Antigua and Barbuda)¬†has found, perhaps predictably,¬†that SIB’s liquidation is to be adminsitered in Antigua.¬† It also has found that Mr. Janvey has no standing to appear as a “foreign representative” or otherwise on behalf of SIB or other Stanford entities.
In London, the English High Court of Justice, Chancery Division’s Mr. Justice Lewison reached a similar conclusion in early July.¬† Based on a determination under English law that SIB’s “Center of Main Interests” (COMI) is in Antigua, he designated Messr’s. Wastell and¬†Hamilton-Smith as “foreign representatives” of SIB for purposes of Stanford’s English insolvency proceedings.
In Dallas, meanwhile, Judge Godbey has permitted the Antiguan liquidators¬†to commence a Chapter 15 proceeding under the US Bankruptcy Code and to make application for similar recognition of SIB’s Antiguan liquidation in the US.¬† Messr’s. Wastell and Hamilton-Smith and Mr. Janvey have each briefed the question of whether, under US cross-border insolvency law, that liquidation ought to be recognized here as a “foreign main proceeding” – and, more specifically, whether Antigua or the US is the properly designated¬†COMI for SIB.
In briefs submitted over six weeks ago, the liquidators urged a finding consistent with that of the English and Antiguan courts.¬† They argued essentially that a debtor’s “principal place of business” is essentially the location of its “business operations,” and referred repeatedly to SIB’s undeniably extensive physical and administrative operations in Antigua.
In opposition, Mr. Janvey argued strenuously for a finding that SIB’s COMI is, in fact,¬†the US.¬† He did so relying largely on the contention that, despite SIB’s physical location and operations in Antigua, Sir Allen allegedly “spent little time in Antigua” – and that Sir Allen¬†effectively managed and controlled SIB from the US.¬†¬†Mr. Little, the examiner appointed by Judge Godbey to assist him in overseeing the receivership, generally concurred with Mr. Janvey.
Last week, Mr. Janvey’s contention may have received a set-back.
The United States Fifth Circuit Court of Appeals recently upheld a detention order confining Sir Allen to¬†the US pursuant to a separate federal indictment issued against him – and in so doing, concurred in the lower court’s conclusion that Sir Allen’s ties to the State of Texas were “tenuous at best.”¬† The Fifth Circuit’s 3-judge panel¬†recognized that Stanford “is both an American citizen and a citizen of Antigua and Barbuda, and has resided in that island nation for some fifteen years,” and further noted:
Stanford admitted that he established a new residence in Houston in preparation for his required presence during the pendency of the case against him.¬† Several of his children have recently moved to Houston to be closer to him during the proceedings.¬† While Stanford did grow up in Texas, he has spent the past fifiteen years abroad.¬† His international travels have been so extensive that, in recent years, he has spent little or no time in the United States . . . .¬† [O]ne of Stanford’s former pilots [testified] that Stanford . . . engaged in almost non-stop travel on the fleet of six private jets and one helicopter belonging to [Stanford Financial Group] and its affiliates . . . .
On September 1, Messr’s. Wastell and Hamilton-Smith sought leave to file the Fifth Circuit’s order in support of their prior application for recognition, and over Mr. Janvey’s anticipated objection.
It appears that where Sir Allen’s indictment is concerned, home is where the corporate jet is.
But where SIB’s liquidation is concerned . . . where is COMI?