Grede v. Bank of New York Mellon Corp. (In Re Sentinel Management Group, Inc.)
809 F.3d 958
7th Cir.2016Background
- Sentinel Management Group was a cash-management firm that held customer funds in segregated accounts but used customer-purchased securities as collateral for its own loans from Bank of New York Mellon (BNYM).
- Sentinel suffered trading losses in 2007, stopped redemptions, and declared bankruptcy owing BNYM about $312 million; BNYM moved to liquidate collateral it held as security.
- The bankruptcy trustee (Grede) sued to avoid transfers of customer assets pledged to BNYM as fraudulent under 11 U.S.C. § 548(a)(1)(A), asserting the assets were removed from segregation and pledged without customers’ consent.
- A district court found no fraudulent intent by Sentinel and dismissed the trustee’s claim; a Seventh Circuit panel reversed as to fraudulent transfers and remanded the question whether BNYM was on inquiry notice.
- On remand the district judge issued a supplemental opinion but made no new factual findings; the Seventh Circuit majority found the judge misunderstood inquiry notice and that BNYM had facts (e.g., an internal note by manager Mark Rogers and Sentinel statements) that should have prompted investigation.
- The court held BNYM was on inquiry notice (so could not have acted in good faith as a secured creditor) but declined to require equitable subordination of BNYM’s unsecured claim because its conduct, while negligent, did not meet the heightened, egregious standard.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Whether transfers of customer securities into lienable accounts were fraudulent under 11 U.S.C. § 548(a)(1)(A) | Grede: Sentinel intentionally moved segregated customer assets to secure BNYM, constituting fraudulent transfer | BNYM: acted in good faith and relied on Sentinel representations and the clearing agreement | Appellate court concluded transfers were avoidable as fraudulent; BNYM could not retain secured status because of inquiry notice |
| Whether BNYM was on inquiry notice (so lacked good-faith purchaser defense) | Grede: bank had suspicions (e.g., Rogers’ note, financial statements) that should have triggered investigation | BNYM: relied on Sentinel’s assurances; no actual knowledge of fraud; investigations likely fruitless | Court: BNYM had inquiry notice based on internal documents and facts that would prompt a reasonable inquiry |
| Whether BNYM’s unsecured claim should be equitably subordinated under 11 U.S.C. § 510(c) | Grede: bank’s conduct was sufficiently egregious and harmed other creditors to justify subordination | BNYM: conduct amounted at most to negligence; no purposeful avoidance or willful misconduct | Court: equitable subordination denied — negligence/inquiry-notice does not meet the egregious/willful standard required |
| Whether § 550(b)(1) or § 550(d) shields BNYM from avoidance remedies or produces double recovery | BNYM: raised § 550(b)(1) good-faith/value defense and § 550(d) single-satisfaction concern | Grede: defenses inapplicable because trustee seeks avoidance of the lien, not recovery of collateral plus loan value | Court: § 550(b)(1) inapplicable; § 550(d) does not bar relief or create double recovery — BNYM loses secured status but remains unsecured creditor |
Key Cases Cited
- In re Sentinel Management Group, Inc., 728 F.3d 660 (7th Cir. 2013) (prior Seventh Circuit panel decision addressing fraudulent transfers and inquiry notice)
- In re M & L Business Machine Co., 84 F.3d 1330 (10th Cir. 1996) (defines inquiry notice and duties to investigate suspicious facts)
- In re Sherman, 67 F.3d 1348 (8th Cir. 1995) (discusses inquiry notice standard)
- In re Agricultural Research & Technology Group, Inc., 916 F.2d 528 (9th Cir. 1990) (explains inquiry notice and reasonable-diligence investigation)
- Global-Tech Appliances, Inc. v. SEB S.A., 563 U.S. 754 (2011) (requires high probability of fraud and deliberate avoidance for certain culpable mental states)
- Harte-Hanks Communications, Inc. v. Connaughton, 491 U.S. 657 (1989) (distinguishes negligence from purposeful avoidance of truth)
- Bullock v. BankChampaign, N.A., 133 S. Ct. 1754 (2013) (addresses standards for bankruptcy avoidance and requisite culpability)
- In re Burns, 322 F.3d 421 (6th Cir. 2003) (discusses limits on trustee recovery and applicability of certain defenses)
- In re Skywalkers, Inc., 49 F.3d 546 (9th Cir. 1995) (clarifies that removal of secured status leaves creditor unsecured rather than creating double recovery)