Sale Orders: What Constitutes a Collateral Attack?

Fulmer v. Fifth Third Equipment Finance Co., 931 F.3d 730 (8th Cir. 2019) –

A chapter 7 trustee sued more than 20 defendants alleging more than a dozen causes of action based on an allegation that a higher price could have been obtained at a pre-conversion sale of estate assets. The bankruptcy court dismissed the claims on the grounds that they were either without merit or constituted an impermissible collateral attack on the sale order. The Bankruptcy Appellate Panel affirmed, and the trustee appealed to the Eighth Circuit.

After a food canning company filed a Chapter 11 bankruptcy, it sought to sell substantially all of its assets in a section 363 sale. The debtor identified a stalking horse (Seneca Foods) and obtained court approval for an auction using the purchase price in the stalking horse asset purchase agreement as the opening bid.

At the auction a marketing firm retained by the debtor estimated the value of the bids. It valued the stalking horse’s bid at ~$117 million (although the unadjusted price in the purchase agreement had been hundred $148 million). An entity formed by second lien holders (Sager Creek) submitted a competing bid that was valued at $160 million. Ultimately Sager Creek was deemed the successful bidder, with the final purchase agreement reflecting a price of just under $125 million. Seneca Foods would have left $32.9 million in real estate and $74 million in avoidance claims with the bankruptcy estate, while Sager Creek took all of the assets with a covenant not to pursue the avoidance claims.

After the case subsequently converted to a chapter 7, the trustee brought numerous claims relating to the sale. He alleged that a member of the unsecured creditors’ committee had an undisclosed agreement with the Sager Creek defendants that would give it a lucrative contract with an entity to be formed by Sager Creek in the event that it was the successful bidder. Further, given the facts noted above, the trustee contended that the advisors valuing the bids were aware of this agreement and manipulated the valuations at the auction.

Based on these allegations, the trustee brought numerous claims against members of the unsecured creditors’ committee, the financial advisors, and the second lien holders, including breach of fiduciary duty, fraudulent transfer, conversion, inducing breach of contract, intentional interference with contractual relations and prospective economic relations, negligent interference with prospective economic relations, deceptive trade practices, and an equitable claim for rescission and reformation.

The Eighth Circuit rejected the trustee’s argument that the bankruptcy court erred when it characterized these claims as a collateral attack on the sale order. The court noted that a section 363 sale is an in rem proceeding transferring rights that are “good against the world, not just against parties to a judgment or persons with notice of the proceeding.”

In this case the bankruptcy court order approved the sale of debtor assets to Sager Creek free and clear of all liens. The order included determinations that there was a competitive and good faith bidding process, that Sager Creek submitted the “highest or otherwise best bid” for the assets and that the consideration provided was the “highest and otherwise best offer” for the assets. For the trustee to prevail, the court would have to contradict these determinations. This was barred by the finality accorded to sales under section 363. Although the trustee was seeking damages, the claims were a thinly disguised collateral attack on the sale order.

The trustee also argue d that in order to be barred the claims had to conflict with provisions that were “integral” to the sale in order– drawing on criteria used in connection with section 363(m), which provides that reversing or modifying a sale order on appeal does not “affect the validity of a sale.” Regardless of whether this was an appropriate test to use in evaluating collateral attacks, the court found that this test would be met. Undermining the finding that Sager Creek’s consideration was the highest and otherwise best offer for the assets would adversely affect the parties’ bargained for exchange, which in turn meant the issues involved were integral to the sale.

Taking a different tack, the trustee contended that the sale order was obtained through fraud on the bankruptcy court. However, the Eighth Circuit noted that a finding of fraud on the court “is justified only by the most egregious misconduct directed to the court itself, such as bribery of a judge or jury or fabrication of evidence by counsel … and does not include ‘fraud between the parties or fraudulent documents, false statements or perjury.'” In the court’s view, the trustee clearly did not meet that standard.

Continuing his wide-ranging attacks, the trustee argued that the sale order was void in light of the Supreme Court decision in Czyzewski v. Jevic Holding Corp. Under Jevic a structured settlement that would distribute assets to creditors in violation of the priority rules for normal distributions without the consent of affected creditors is not permitted. The trustee argued this case was similar in that “certain creditors with unsecured claims received value while others with identical priority did not.” The court disagreed for several reasons, including the fact that violating the priority rules would not render the judgment void.

After rejecting a few additional arguments, the court held that the trustee claims would undercut the principal findings of the sale order, and thus were barred by the finality rule governing asset sales under section 363. With respect to fraud on the court, there were no allegations of affirmative misrepresentations directed to the bankruptcy court. Accordingly, there was no error and the Eighth Circuit affirmed the bankruptcy court.

The explanation for the advisors’ determination of bid values was difficult to understand. The potpourri of facts mentioned by the court certainly suggested that there might be something fishy. Add to that an undisclosed agreement involving lots of money that looks like a conflict of interest and it is not hard to understand why the trustee thought the case was worth pursuing. It also highlights that when there is an innocent explanation, being able to clearly tell the story is key. In this case the claims were ultimately dismissed, but in the meantime a significant number of people were subjected to litigation.

Vicki R Harding, Esq.

About BankruptcyRealEstateInsights

Vicki R. Harding was a partner in the Detroit office of Pepper Hamilton LLP who moved to Arizona seeking warmer weather. Ms. Harding continues to handle commercial transactions with an emphasis on real estate and bankruptcy issues (but no longer owns a snow shovel).
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