Deepening Insolvency - Pouring the Old Wine Out of the New Bottle?
by Benjamin D. Feder
Thompson Hine LLP; New York
Corporate failures (at the risk of stating the obvious) usually result in the realization by creditors of the failed enterprise in less – often far less – than the par value of their claims. Unsurprisingly, this often leads to aggressive efforts to ascribe responsibility for the failure of the enterprise and to seek recovery from those deemed blameworthy (and deep-pocketed). Over the years, novel theories of liability have developed and been invoked against parties that were non-insiders of the corporate enterprise, such as lenders and professional advisors. When such theories are able to gain judicial acceptance, the threat of tort damages – particularly against third-party lenders – becomes an effective cudgel in an effort to upset contractual and statutory priorities, and transfer value to stakeholders whose place in the capital structure would otherwise leave them with little or no claim on corporate assets.
Secondary Loan Purchasers Challenge Enron and Win an Extraordinary Appeal: Does Equitable Subordination Risk Travel with the Loan?
by Jon Kibbe, Paul Haskel, Michael Friedman and Patricia O’Prey
Richards Kibbe & Orbe LLP; New York
Earlier this year, U.S. Bankruptcy Judge Arthur Gonzalez ruled in the Enron bankruptcy proceeding that bankruptcy claims in the hands of innocent buyers may be equitably subordinated based on the conduct of upstream sellers, which need not be related to the transferred claim. See In re Enron Corp., 340 B.R. 180 (S.D.N.Y. March 31, 2006 (AJG)); In re Enron Corp., 333 B.R. 205, (S.D.N.Y. Nov. 17, 2005 (AJG)). The bankruptcy court issued substantially similar opinions in a number of related adversary proceedings brought by Enron in which Enron sought to equitably subordinate claims in the hands of secondary-market loan buyers based on the inequitable conduct of the seller banks. The sellers’ alleged inequitable conduct was unrelated to the loans that Enron sought to subordinate. In the adversary proceedings, Enron argued that the buyers’ claims should be subject to equitable subordination under §510(c) of the Bankruptcy Code to the same extent that they would be subject to equitable subordination if they had not been transferred. As an initial matter, the bankruptcy court concluded that the equitable subordination remedy may be applied to any claim held by an accused bad actor, whether or not the misconduct related to the specific claim at issue. The bankruptcy court concluded further that equitable subordination travels with the claim, even if the claim is subsequently transferred to an innocent transferee. In subordinating the buyers’ claims, the bankruptcy court rejected the buyers’ arguments that they were nonetheless entitled to a “good faith” defense because they had no knowledge of any allegations against the original sellers when they purchased the claims.