In Re Hamilton Taft & Co.
In re HAMILTON TAFT & COMPANY, Debtor.
Frederick S. WYLE, Trustee of Hamilton Taft & Company, Plaintiff,
v.
HOWARD, WEIL, LABOUISSE, FRIEDRICHS INCORPORATED, a Louisiana corporation; Howard Weil Financial Corporation, a Louisiana corporation; and Legg Mason, Inc., a Maryland corporation, Defendants.
United States Bankruptcy Court, N.D. California.
*896 *897 J. Michael Kelly, Cooley Godward Castro, San Francisco, CA (Thomas K. Potter, III, Jones, Walker, Waechter, Poitevent, Carrere & Denegre, New Orleans, LA, of counsel), for defendants Howard, Weil, Labouisse, Friedrichs Inc., Howard Weil Financial Corp. and Legg Mason, Inc.
L.J. Chris Martiniak, Feldman, Waldman & Kline, San Francisco, CA, for plaintiff Frederick S. Wyle, Trustee.
OPINION
THOMAS E. CARLSON, Chief Judge.
The principal question in this case is whether section 546(e) of the Bankruptcy Code bars a trustee from recovering as a fraudulent conveyance transfers made by a stockbroker pursuant to a reverse repurchase agreement used to facilitate a leveraged buy out. I conclude that there are no genuine issues of material fact and that section 546(e) bars trustee's action, and therefore grant summary judgment for defendant.
FACTS
The material facts are not in dispute. On December 30, 1987, MaxPharma, Inc. paid Connecticut General Corporation (CIGNA) $500,000 for an option entitling it to purchase stock of Debtor Hamilton Taft & Company (Debtor) from CIGNA for $4,100,000. MaxPharma could exercise the option only through January 29, 1988. The $500,000 option price was applicable to the purchase price, but was otherwise non-refundable. MaxPharma was unable to find a lender willing to arrange financing through a "stock loan," whereby Debtor's stock would be used as collateral to secure the loan. Defendant Howard, Weil, Labouisse, Friedrichs Incorporated (Defendant) informed MaxPharma that it did not make "stock loans," but could lend money with a treasury bill as security by performing a reverse repurchase transaction.
On January 28, 1988, Debtor wired $5.0 million to Defendant. On January 29, 1988, Defendant used approximately $4.9 million of those funds to purchase for Debtor a 90-day T-Bill having a face value of $5.0 million. On the same day, Debtor sold the T-Bill back to Defendant for $4.1 million, subject to a reverse repurchase agreement, under which Debtor agreed to repurchase the T-Bill in 90 days for the sale price plus interest.
What happened to the $4.1 million is contested by the parties. Debtor's chapter 11 trustee (Trustee) contends that the $4.1 million was transferred directly to MaxPharma immediately upon sale of the T-Bill. Defendant claims that it credited Debtor's account for $4.1 million, and that those funds were subsequently wired to MaxPharma. For the purpose of the present motion, I accept Trustee's version of the facts. It is undisputed that Debtor transferred the funds to MaxPharma at the request of Debtor and that MaxPharma used $3.6 million to purchase Debtor's stock from CIGNA.
When the 90-day repurchase agreement matured, Debtor rolled over its obligation into new T-Bills and later into T-Notes. In January 1989, Debtor directed Defendant to sell the T-Notes and apply the proceeds to satisfy Debtor's obligation under the reverse repurchase agreement.
Creditors filed an involuntary chapter 11 petition against Debtor on March 20, 1992. Trustee was appointed on March 26, 1992. An order for relief was entered on May 31, 1992. Trustee filed the present action on March 26, 1993. Trustee contends that the transaction involving Debtor, Defendant, and MaxPharma was in substance a leveraged buy out (LBO), in which MaxPharma used Debtor's funds to purchase CIGNA's stock in Debtor. Trustee further contends that the transaction rendered Debtor insolvent and that the LBO therefore constituted a fraudulent conveyance. In the present action, Trustee seeks to recover, pursuant to California Civil Code sections 3439.04 and 3439.05 and Bankruptcy Code section 544, the value of the $5.0 million T-Bill transferred from Debtor to Defendant on January 29, 1988, or the $4.1 million proceeds of the sale of that T-Bill that were transferred from Defendant to MaxPharma the same *898 day.[1] Trustee and Defendant filed cross motions for summary judgment.
DISCUSSION
I
Standard for Summary Judgment
"Summary judgment is properly granted when there is no genuine issue of material fact and the moving party is entitled to judgment as a matter of law." Clipper Express v. Rocky Mountain Motor Tariff Bureau, Inc.,
II
Section 546(e) Defense
Defendant contends that Trustee's action is barred under section 546(e) of the Bankruptcy Code. That section provides:
[n]otwithstanding sections 544, 545, 547, 548(a)(2), and 548(b) of this title, the trustee may not avoid a transfer that is a margin payment, as defined in section 101(34), 741(5), or 761(15) of this title, or settlement payment, as defined in section 101(35) or 741(8) of this title, made by or to a commodity broker, forward contract merchant, stockbroker, financial institution, or securities clearing agency, that is made before the commencement of the case, except under section 548(a)(1) of this title.
A. Whether Transaction a True Repo
Defendant characterizes its transaction with Debtor as a reverse repurchase agreement (Reverse Repo). The Ninth Circuit has held that Repos and Reverse Repos are securities transactions covered by
In a Repo arrangement, the dealer sells specified securities to a purchaser, but also agrees to repurchase the securities later at the original price, plus an agreed upon additional amount usually representing interest on the original purchase price. A Reverse Repo basically is the reverse: the dealer buys securities and agrees to resell the securities to the seller in the future. Reverse Repos can function as a loan. The seller receives cash for the securities, but must repurchase the securities in the future at the same price. Thus, the securities "sold" to the dealer can be viewed as being collateral for a loan.
Comark I,
Trustee contends that the transaction between Defendant and Debtor was not a true Reverse Repo, but rather was a sham used to conceal the fact that Debtor's funds were being used to fund an LBO. Trustee notes that Debtor used $5.0 million cash to buy a T-Bill, then immediately sold the T-Bill subject to the Reverse Repo, leaving itself essentially in the place it started. Because there was no net borrowing of funds, which is the essential characteristic of a Reverse Repo, Trustee argues, the transaction is not entitled to protection under
*899 First, the transaction constituted a Reverse Repo in the objective sense. Debtor sold a T-Bill to Defendant and agreed to repurchase it again later for the sale price plus interest. Whether a transaction is a Repo or Reverse Repo covered under
Second, whether or not it was a conventional Reverse Repo, the transaction between Defendant and Debtor was clearly a securities transaction.
B. Whether Transfer a "Settlement Payment"
Trustee argues that the transfers involving Defendant are not protected under
"[S]ettlement payment" means a preliminary settlement payment, a partial settlement payment, an interim settlement payment, a settlement payment on account, a final settlement payment, or any other similar payment commonly used in the securities trade.
We now join with the Third and Tenth Circuits and broadly define the term settlement payment. A settlement payment clearly includes a transfer of securities that completes a securities transaction.
Comark I,
Trustee first argues that the initial transfer of the T-Bill to Defendant was not a settlement payment because it did not complete the Reverse Repo. This argument is wholly unpersuasive. The clear thrust of both Comark I and Comark II is that "settlement payment" includes any transfer of cash or securities toward completion of a securities transaction. See Comark I,
Trustee next argues that the transfer to MaxPharma of the $4.1 million proceeds of the sale of the T-Bill was not a settlement payment because the payment was not made to Debtor, the other party to the Reverse Repo. This argument is frivolous. It is *900 undisputed that the funds were transferred to MaxPharma at the direction of Debtor. In directing payment of the sale proceeds to MaxPharma, Debtor exerted dominion over the funds and used them for its own purposes. Thus, from the viewpoint of Defendant, payment to MaxPharma constituted payment to Defendant and fulfilled Defendant's obligation under the first leg of the Reverse Repo.[3]
C. Must Defendant Satisfy
Trustee argues that
[n]otwithstanding sections 544, 545, 547, 548(a)(2), and 548(b) of this title, the trustee may not avoid a transfer that is a margin payment, as defined insection 741(5) or 761(15) of this title, or settlement payment, as defined insection 741(8) of this title, made by or to a repo participant, in connection with a repurchase agreement and that is made before the commencement of the case, except under section 548(a)(1) of this title.
"repo participant" means an entity that, on any day during the period beginning 90 days before the date of the filing of the petition, has an outstanding repurchase agreement with the debtor;
Trustee argues that
Both the statutory language and legislative history indicate that
the proposed amendments are intended to afford participants in the repo market the same treatment with respect to the stay and avoidance provisions of the Code that Public Law 97-222 explicitly provided stockbrokers, securities clearing agencies, commodity brokers and forward contract merchants in connection with securities contracts, commodity contracts and forward contracts.
S.Rep. No. 65, 98th Cong., 1st Sess. 45, 49 (1983). The same legislative history states clearly that
These amendments are not intended, however, to affect the status of repos involving securities or involving commodities as securities contracts, commodity contracts, or forward contracts, and their consequent eligibility for similar treatment under other provisions of the Code, such as the provisions giving protection to stockbrokers, securities clearing agencies, commodity brokers, and forward contract merchants for liquidation and setoff in respect of securities contracts, commodity contracts or forward contracts.
Id. See also Comark II,
*901 D. Is There an LBO Exception to
Trustee argues that 546(e) should not be interpreted to protect a stockbroker involved in a securities transaction that implements an LBO, relying on Lippi v. City Bank,
Trustee's reliance on Wieboldt is misplaced. That case held that
in the instant case, however, requiring the [shareholders] to return to the Trustee payments they received . . . poses no significant threat to those in the clearance and settlement chain.
Wieboldt,
"Neither the system of guarantees nor the solvency of participants in the chain is threatened by a legal order in which payments to the shareholders by their brokers are subject to recovery by a trustee in bankruptcy. Thus, while the flows of funds to and between financial intermediaries in the clearance and settlement chain must be protected in order to insure the stability of those systems, funds flowing from the intermediaries to the shareholders do not require protection, andsection 546(e) should therefore not apply."
Id. at 664 n. 11 (quoting Neil M. Garfinkel, Note, No Way Out:
The Tenth Circuit has held that there is no LBO exception to
In short, only Wieboldt supports any LBO exception to
Trustee's reliance on Lippi and Kendall is equally misplaced. In each of those cases, the plaintiff sought recovery from the bank that financed the LBO. In neither case did
Finally, assuming arguendo that Defendant knew the Reverse Repo was part of an LBO and that the LBO rendered Debtor insolvent, such knowledge does not bar application of
III
Aiding And Abetting
Trustee asserts that even if his action to avoid the transfers to Defendant are barred by
California courts permit a creditor to recover civil damages from those who conspire to transfer property of a debtor to hinder, delay, or defraud creditors. See Taylor v. S & M Lamp Co.,
The trustee may avoid any transfer of an interest of the debtor in property or any obligation incurred by the debtor that is voidable under applicable law by a creditor holding an unsecured claim that is allowable under 502 of this title or that is not allowable only under section 502(e) of this title.
The Act carefully speaks of conveyances of property as being "null and void," and authorizes suit by the trustee to "reclaim and recover such property or collect its value." The actions legislated against are not "prohibited"; those persons whose actions are rendered "null and void" are not made "liable"; and terms such as "damages" are not used. The legislative theory is cancellation, not the creation of liability for the consequences of a wrongful act.
Elliott v. Glushon,
In short, Trustee's only authority to bring state-law claims of creditor's is
CONCLUSION
Bankruptcy Code
NOTES
Notes
[1] Trustee previously filed a similar action against CIGNA. That action was settled by the parties before trial.
[2] Trustee contends that Defendant's expert witness testified that the initial transfer of the T-Bill to Defendant was not a settlement payment. This argument fails for two reasons. First, the relevant historical facts are undisputed. The application of
[3] Trustee's separate statement of undisputed facts asserts that Debtor's instructions to Defendant to transfer the proceeds to MaxPharma were not properly authorized by Debtor's board and were therefore ultra vires. The facts asserted by Trustee clearly establish that the instructions were made with at least apparent authority, and that Debtor implicitly ratified the transaction after the fact. Moreover, Trustee raise no ultra vires argument in the memoranda filed in support of his motion for summary judgment or in opposition to Defendant's motion for summary judgment.
[4] Section 548 of the Bankruptcy Code creates a federal cause of action for recovery of a fraudulent conveyance. Trustee cannot use section 548, however, because that statute only permits avoidance of transfers made within one year of the petition date. It is undisputed that all transfers to Defendant occurred more than one year before the bankruptcy petition was filed.