The Seventh Circuit has just issued a short, important decision in a case in which a chapter 11 debtor’s secured creditors challenged the right of the chapter 11 trustee to settle an executory contract dispute with the contracting party instead of abandoning the debtor’s rights under the contract to them. In re Resource Technology Corp., 2005 WL 3336525 (7th Cir., 12/9/05).
In this case, the debtor had entered into a prepetition agreement with a party (Chastang) to build a gas collections system for collecting methane gas from landfills. The contract was the subject of three successive adversary proceedings, with the final result being a settlement between the Chastang and the trustee whereby the Chastang would release the debtor/trustee from its executory obligations, forgive a promissory note, release any damage claims, and pay $75,000 in exchange. For its part, the trustee would release the debtor’s rights under the contract to complete the gas collection system and collect the methane gas.
The debtor’s principal secured creditors, holding $40 million in debt secured by a floating lien on the debtor’s assets, objected to the settlement, offering to pay the estate $200,000 and release $2 million in debt in exchange for the debtor’s contract rights. The trustee preferred this deal, and asked the bankruptcy court to permit it to abandon the contract rights to the lenders, who claimed a security interest in all the debtor’s contract rights.
Judge Wedoff, Chief Judge for the Bankruptcy Court for the Northern District of Illinois, however, concluded that an executory contract cannot be abandoned under 11 U.S.C. § 554, and that the trustee could only assume or reject the contract 11 U.S.C. § 365. Further, Judge Wedoff held, once the contract has been assumed (as was the case here), the debtor’s only options are to perform under the contract, or to breach. According to Judge Wedoff, “[a]bandonment would just break the debtor’s promise and support a claim for damages; it could not transfer Resource Technology’s rights to the lenders.” Thus, Judge Wedoff approved the settlement with the Chastang and the district court affirmed. In re Resource Technology Corp., 2005 WL 2588860 (N.D. Ill., 3/18/05).
In affirming the lower courts’ rulings, the 7th Circuit touched upon a number of important concepts that bankruptcy practitioners regularly consider. For starters, the Court addressed the ever-present issue of mootness in bankruptcy. Here, the lower courts denied all requests for a stay pending appeal, thus resulting in consummation of the settlement and a third party’s assumption of the debtor’s contract responsibilities for completion of the system and collection of gas. Notably, the 7th Circuit held that these changed circumstances did not moot the lenders’ appeal. Judge Easterbrook, who delivered the opinion of the Court’s panel that included fellow University of Chicago law professors Judge Richard Posner and Judge Diane Wood, wrote:

Continue Reading 7th Circuit Denies Secured Lenders’ Request to Unscramble a Court-Approved Settlement that Rejected an Executory Contract Instead of Abandoning It to the Lenders

Back in 1998, Campbell Soup spun-off its Vlasic Foods and other “specialty” (i.e., “dog”) businesses to its shareholders. Campbell also transferred a $500 million debt obligation to the spun-off entity (VFI). The spun-off entity didn’t perform too well thereafter, and filed for bankruptcy nearly three years later. A post-confirmation litigation trust (VFB) was created to pursue fraudulent transfer claims against Campbell. Nearly 96% of the VFB creditor interests arose from a $200 unsecured debenture offering fifteen months after the spin-off. Another VFB creditor interest was VFI’s landlord, who had a $1.66 million claim. Significantly, Campbell entered into this lease before the spin-off and VFI assumed it on the date of the spin-off. The rest of the creditors were small trade creditors.
On September 13, 2005, Judge Jordan from the United States District Court for the District of Delaware, issued this 74 page post-trial memorandum (parts 1, 2, and 3 here) containing its findings of fact and conclusions of law. In the end, the Court found that Campbell’s encumbering VFI with over $500 million in debt at the time of the spin-off did not constitute a constructive fraudulent transfer.
Students of bankruptcy litigation will learn much from delving into the details of this litigation, which pitted a litigation team from Andrews & Kurth led by John Lee against a litigation team from Wachtell Lipton led by Mike Schwartz. The amended complaint (which sought more than $500 million from Campbell), the entire nearly 4,900 page trial transcript (encompassing 10 days of fact witness testimony in March 2005 and 5 days of expert witness testimony in August 2005), and all post-trial submissions are available here.
The Court’s decision denying relief to the VFB litigation trust received little attention, and didn’t even earn a slip copy citation in the West Reporter System (though West did just report Judge Jordan’s decision denying VFB’s motion for a new trial [at 2005 WL 3293039] and the decision of a NJ appellate court upholding a decision that Campbell Soup’s insurer was not required to defend or indemnify Campbell in connection with the VFB litigation [at 885 A.2d 465]).
What’s also interesting about this case is how VFB almost avoided a $500 million transaction because its trustee could step into the shoes of a single remaining creditor (the corporate landlord owed only $1.66 million) whose claim was in existence at the time of the spin-off transaction in 1998. Under Moore v. Bay, this trustee standing in the shoes of this single creditor could accomplish in bankruptcy what all the creditors combined could not do outside of bankruptcy: that is, avoid the entire transaction by proving that VFI was rendered insolvent by the transaction.
As to this point, the Court matter of factly made the following conclusions of law (see Opinion pt. 2, at pp. 45-46):

Continue Reading Moore v. Bay Nearly Sinks Campbell Soup in Fraudulent Transfer Litigation Challenging the 1998 Vlasic Spinoff

Self-proclaimed “true” (i.e., non-bankruptcy) litigators who find themselves having to litigate in bankruptcy’s free-wheeling arena often lament that “nothing’s inadmissible in bankruptcy; everything just goes to the weight of the evidence.” Obviously, this is a tremendous over-simplification, and Judge Barry Russell’s 1,800 page manifesto, the Bankruptcy Evidence Manual (2005 ed., Thomson/West), is a testament to the fact that everything is clearly not admissible in bankruptcy.
Still, one has to sit up and take note when Judge Stan Bernstein from the Eastern District of New York, in Chartwell Litigation Trust v. Addus Healthcare, Inc. (In re Med Diversified, Inc.), 2005 WL 3077228 (Bankr. E.D.N.Y., 11/14/05), not only bars an expert from testifying in a high-stakes fraudulent transfer case, but adds:

Since this particular issue has not been discussed by any other bankruptcy court, this Court has taken the pains to present a comprehensive analysis of the gatekeeper function in the hope that it may be useful to other bankruptcy judges, the business bankruptcy bar, and, tangentially, the bankruptcy law professoriat.

The Court described the “narrow issue” under submission as whether, in litigation to recover an alleged $7.5 million constructive fraudulent transfer, “the Defendants’ proposed expert witness, Scott P. Peltz (Peltz) is qualified and whether his purported expertise satisfies the standards of relevance and reliability under Daubert.”
The subject matter of his testimony was “the value of 100% of the shares of the defendant, Addus Healthcare, Inc. (Addus),” a privately held healthcare concern, and “the reasonably equivalent value of an alleged option payment of $7.5 million paid by the Plaintiffs’ predecessor in interest, Med Diversified, Inc. (Med D), for a 6 1/2 month extension to close its purchase of these shares.”
Mr. Peltz was the Defendants’ sole expert on all issues of business valuation. After three full days of intense voir dire on his qualifications, the Court barred his testimony and report and issued a lengthy opinion explaining its reasoning, significant portions of which are set forth below. Obviously, not a good day for the defense.
For anyone interested in bankruptcy litigation, and particularly in issues of business valuation (which invariably require expert testimony), this case is mandatory reading. The Court wrote:

Continue Reading NY Bankruptcy Judge Stan Bernstein Tosses Expert’s Business Valuation Opinion in a “Must Read” Decision