Amicus Curiae Brief — Merit Management Group, LP v. FTI Consulting, Inc., 137 S. Ct. 2092 (2017) (No. 16-784)

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No. 16-784 greics OF GES

In the Supreme Court of the United States

MERIT MANAGEMENT GROUP, LP,

Petitioner,

Vv.

FTI CONSULTING, INC.,

Respondent.

On Writ of Certiorari to the United States

Court of Appeals for the Seventh Circuit

BRIEF OF AMICUS CURIAE NATIONAL

ASSOCIATION OF BANKRUPTCY TRUSTEES

IN SUPPORT OF RESPONDENT

Bradford J. Sandler

Counsel of Record

Dean A. Ziehl

Harry D. Hochman

PACHULSKI STANG ZIEHL

& JONES

10100 Santa Monica Boulevard

Suite 1300

Los Angeles, California 90067

Telephone: (310) 277-6910

bsandler@pszjlaw.com

Counsel for Amicus Curiae

Becker Gallagher - Cincinnati, OH - Washington, D.C. - 800.890.5001

TABLE OF AUTHORITIES ...

INTEREST OF AMICUS CURIAE

TABLE OF CONTENTS

SUMMARY OF ARGUMENT ..................

NS eve ees Ge ea ae

Section 546(e) Does Not Bar Avoidance of the

Transfer From Valley View to Merit .......

A. Congress Intended Trustees to Have the

Power to Avoid Precisely This Type of

Constructively Fraudulent Transfer ... .

B. The Statutory Text and Context Do Not

Support Merit’s Overexpansive

Construction of Section 546(e) .........

C. The Interplay Between Sections 546(e)

and 550 Demonstrates That Merit’s

Analytical Construct Runs Counter to

Congressional Intent................

II. This Case Should Not Be Decided on the Basis of

its Implications for Failed Leveraged Buyouts of

Large Public Corporations.................

Leveraged Buyouts Have Exactly the Type of

Pernicious Effect on Unsecured Creditors

That the Bankruptcy Code Was Intended to

ak iia ks ke sen o e Cb cede eS

There is No Evidence That Congress

Intended Section 546(e) to Advance the

Behavioral Economics Policies Postulated by

Gass vee bn ena vacuupaees suche us

TABLE OF AUTHORITIES

CASES

Bank of America Nat. Trust & Sav. Assn. v.

203 North LaSalle Street P’ship,

ea Cg cae bak woes oe 8s 15

BFP v. Resolution Trust Corp.,

ee in a adh oe 0 4 kee ee wine 5, 6

Bonded Fin. Serv., Inc. v. European Am. Bank,

838 F.2d 890 (7th Cir. 1988) ............... 12

Czyzewski v. Jevic Holding Corp.,

ee ob dip as 6 oes Vibe ewe ees 15

Dzikowski v. N. Trust Bank of Fla., N.A.

(In re Prudential of Fla. Leasing Inc.),

478 F.3d 1291 (llth Cir. 2007) .............. 4

FTC v. Mandel Bros. Inc.,

ES. oc cee baasees ot eusee 10

FTI Consulting, Inc. v. Merit Management

Group, LP, 830 F.3d 690 (7th Cir. 2016) ..... 10

Gustafson v Alloyd Co.,

ee tn cow b Kew abe even 10

Hartford Underwriters Ins. Co. v. Union Planters

ee re 22

IBP, Inc. v. Alvarez,

So os a ag aw cles eee X's 9

Jewel Recovery, L.P. v. Gordon (In re Zale Corp.),

196 B.R. 348 (N.D. Tex. 1996) ............... 5

ill

Mellon Bank, N.A. v. Metro Comme’ns,

ae 7. Gee Gee Gee. Bea) ..........7..... 17

Northern Pac. R. Co. v. Boyd,

ee ny ods 5 o's wea sek as 2 ea 15

Official Comm. v. Fitzsimons (In re Tribune Co.),

No. 10-54010 (Bankr. D. Del. Nov. 1, 2010) ... 18

Seligson v.New York Produce Exch..,

394 F. Supp. 125 (S.D.N.Y. 1975) ........... 12

State Bank v. Covey (In re Duckworth),

776 F.3d 463 (7th Cir. 2014) ................ 4

Union Bank v. Wolas,

I 9 ee ee ee Os 4

Weisfelner v. Fund 1 (In re Lyondell Chem. Co.),

503 B.R. 348 (Bankr. S.D.N.Y. 2014) ..... 13, 22

Whitman v. American Trucking Assns., Inc.,

ee ne SS os 3 oc vw own ow oo 0s 21

Zahn v. Yucaipa Capital Fund,

BED Wee. GOW CAP-Bek. AOE) oc ccc seen 21, 22

STATUTES

I aia gia ieee waka i Ae ere 4

ES os Slap bok wee edad ae ae oe 9

CN, <<< ores ein dw eens euch e aaa wawe 9

EY anak vb ok as bs va Oak een passim

SS oo ds bo kweli & adn eke a aeeuu ea 4

DPD Sviscetbcswabakcaweyeaneueece 9

a ee ee a ee 4,9

Be Bees ee LIED Sons Ok vec ce sndeswswaasas 6

6 8 Ee a ee rer 9

NS MEME on cde, © oa 6 0.6.6.4.0% .9,4:0% 9,10, 11,12

Se ED 0 bs S66 Case ctves eneeeedea 11

et ot. re ee ee 11

Se ri) 55 ob db a kee hee hae bw eae 11

i ere eee eee ee ee 15

Bankruptcy Act of July 1, 1898, ch. 541, § 67(e),

30 Stat. 564-565, codified at 11 U.S.C. § 746(c)

CS oe cepa baeeueetenas eee 5

Pub. L. No. 95-598, 92 Stat. 2549 (1978) ........ 12

OTHER AUTHORITIES

Ulf Axelson, Tim Jenkinson, Per Stromberg &

Michael Weisbach, Borrow Cheap, Buy High?

The Determinants of Leverage and Pricing in

Buyouts 32 (Natl Bureau of Econ. Research,

Working Paper No. 15952, 2010), available at

http://www.nber.org/papers/wl5952 ......... 17

Bankruptcy Issues in Review: The Bankruptcy

Code’s Effect on Religious Freedom and a Review

of the Need for Additional Bankruptcy

Judgeships Before the Subcomm. on Admin.

Oversight and the Courts and the Comm. on the

Judiciary, 105th Cong. 1(1997) ............. 5

Ralph Brubaker, Understanding the Scope of the

$ 546(e) Securities Safe Harbor Through the

Concept of the “Transfer” Sought to Be Avoided,

37 Bankr. L. Letter, July 2017 .............. 9

Orlando F. Bump, Fraudulent Conveyances,

Fraudulent Conveyances: A Treatise Upon

Conveyances Made by Debtors to Defraud

Crane GE CRUE « vk os kvssvucteeesuesvucs 6

5-548 Collier on Bankruptcy (16th ed. 2017) ...... 6

SD Eiln., Oe: DIRBTED «ov cis cistitssaaruneee 5

John H. Ginsberg et al., Befuddlement Betwixt Two

Fulcrums: Calibrating the Scales of Justice to

Ascertain Fraudulent Transfers in Leveraged

Buyouts, 19 Am. Bankr. Inst. L. Rev. 71

SUED << sos ss0dsesius eavannaee eee 17, 18

BER. Mow. Mo. GE-GOO IGT E) «nc cccvccecsesine 4,5

H.R. Rep. No. 97-420 (1982), reprinted in 1982

CE, Ge bcc ns dcetcavekugeeen 19, 20

H.R. Rep. No. 109-31(I) (2005), reprinted in 2005

CLR OP coves bes ndede nee see 21

Peter A. Hunt, Structuring Mergers & Acquisitions

101, 208 (4th ed. BOGB) on cece cscccsees 16, 17

Steven N. Kaplan & Per Stromberg, Leveraged

Buyouts and Private Equity, 23 J. Econ.

Perspectives 121 (2009) .......... 15, 16, 17, 19

Samir D. Parikh, Saving Fraudulent Transfer Law,

86 Am. Bankr. L.J. 305 (2012) .......... 16, 20

Report of the Comm’n on the Bankruptcy Laws of

the United States, H. R. Doc. No. 93-137

Terie rhe bbesbeeceectcvecesece. 15

Report of Kenneth N. Klee, As Examiner, Jn re

Tribune Co., No. 08-13141, Vol. 1 (Bankr. D. Del.

ees ecctnes 18

S. Rep. No. 95-989 (1978), reprinted in 1978

ee eds Pk cesecevanace 12

INTEREST OF AMICUS CURIAE

The National Association of Bankruptcy Trustees

(“NABT”) is a nonprofit association formed in 1982 to

address the needs of chapter 7 bankruptcy trustees

throughout the country and to promote the

effectiveness of the bankruptcy system as a whole.’

There are currently approximately 1,200 bankruptcy

trustees receiving new cases, of whom nearly 1000 are

NABT members.

A fundamental duty of bankruptcy trustees is to

maximize the assets available for distribution to a

bankrupt debtor’s creditors. One of the most powerful

tools given by Congress to trustees (or other estate

representatives) to achieve that objective is the power

to avoid and recover certain pre-bankruptcy transfers

by a debtor, including those that place assets outside

the reach of its creditors or that have the effect of

preferring one creditor over another.

This appeal addresses an enormously important

application of that power. For over a hundred years,

creditors have been able to avoid transfers made by a

debtor without receiving fair consideration when the

transfer leaves the debtor unable to pay those

creditors, whether or not there was any intent to

defraud them. A debtor must be just before she is

generous. A trustee’s ability to recover a constructively

fraudulent transfer is often the creditors’ only hope for

‘ Undersigned counsel for NABT authored this brief in its entirety;

no other person or entity has made any monetary contribution to

the preparation or submission of this brief. Consent of all parties

to the submission of amicus curiae briefs has been lodged with the

Clerk of the Court.

a meaningful recovery, and the Court’s decision will

have a dramatic effect on the ability of Amicus’

members to achieve that central objective of the

Bankruptcy Code.

SUMMARY OF ARGUMENT

Under Petitioner’s construction of section 546(e) of

the Bankruptcy Code, 11 U.S.C. § 546(e), a trustee may

not exercise the Code’s power to avoid injudicious

transfers by an insolvent debtor when the transfer to

be avoided involves a security, no matter the disparity

between value and consideration, because every such

transfer invariably involves a financial institution. The

exception would apply whether the sale involves stock

in a family-owned company or publicly-traded

corporation, and whether the parties are neighbors or

hedge funds, so long as they use a bank.

The ability to avoid constructively fraudulent

transfers is a century-old, indispensable tool for

restoring funds to a depleted bankruptcy estate. It is

often the sole effective remedy available to a trustee.

The transfer from Valley View to Merit Management in

this case is exactly the type of constructively

fraudulent transfer that Congress gave trustees the

power to avoid in Chapter 5 of the Code. Neither the

text nor the statutory context of § 546(e) support the

conclusion that it was intended to eliminate that right

anytime the transfer involves a sale of stock. Its

legislative history, in tandem with the most basic

canons of statutory interpretation, demonstrates that

Merit’s application of the statute is not what Congress

intended.

Importantly, Merit’s § 546(e) exclusion would

prevent a trustee from attempting to unwind a failed

leveraged buyout, even when it is a purely private

transaction, as most are. Encumbering a company’s

assets to finance its own acquisition poses a unique

hazard to unsecured creditors. Leverage greases the

wheels of such transactions, enabling buyers to offer a

hefty premium to controlling shareholders while

minimizing their own capital costs and greatly

increasing their potential investment return. The

company skates on a thin margin until the

contemplated disposition event. Unsecured creditors

are left to bear the risk that the company will sink

under the weight of its new debt load, as some

inevitably do.

When controlling shareholders are cashed out by

pushing the company into insolvency, the Bankruptcy

Code permits a trustee to avoid and recover those

transfers. Nothing in the legislative history of § 546(e)

suggests that Congress intended to insulate the

ultimate recipients of such transfers from liability so

long as they use a bank rather than gold bar or a

briefcase full of cash. Congress’ concern was the

integrity of the public securities clearance system, not

shareholders’ investment expectations and

calculations. The plain language of § 546(e), its

statutory context and its purpose all support the

Seventh Circuit’s sensible construction. Its decision

should be affirmed.

ARGUMENT

l. Section 546(e) Does Not Bar Avoidance of the

Transfer From Valley View to Merit

A. Congress Intended Trustees to Have the

Power to Avoid Precisely This Type of

Constructively Fraudulent Transfer

1. “A bankruptcy trustee is tasked with

maximizing the recovery of unsecured creditors.” State

Bank v. Covey (In re Duckworth), 776 F.3d 453, 458

(7th Cir. 2014). To that end, Congress armed the

trustee with the power to avoid and recover for the

benefit of creditors certain types of transfers made by

a debtor before the bankruptcy case commenced. The

trustee’s avoidance power “prevents the depletion of

the estate, promotes an equitable distribution of the

debtor’s assets, and protects creditors who advanced

credit in ignorance of fraud.” Dzikowski v. N. Trust

Bank of Fla., N_A. (In re Prudential of Fla. Leasing

Inc.), 478 F.3d 1291, 1299 (11th Cir. 2007).

Those powers, contained in Chapter 5 of the

Bankruptcy Code, include the right under section 547

to avoid transfers that result in the preference of one

creditor over another, the right under section 548 to

avoid fraudulent transfers of a debtor’s property, and

the trustee’s so-called “strong arm” power under

section 544, which gives a trustee the rights of a

hypothetical lien creditor or good-faith purchaser as of

the petition date. 11 U.S.C. §§ 544, 547 & 548. A

fundamental goal of a trustee’s avoiding powers is to

“facilitate the prime bankruptcy policy of equality of

distribution among creditors of the debtor.” Union

Bank v. Wolas, 502 U.S. 151, 161 (1991) (quoting H.R.

Rep. No. 95-595 at 177-78 (1977)). Put differently,

“Congress determined that a few individuals should not

be allowed to benefit from transfers by an insolvent

entity at the expense of the many.” Jewel Recovery,

L.P. v. Gordon (In re Zale Corp.), 196 B.R. 348, 352

(N.D. Tex. 1996).

2. Perhaps the most important of these powers

from the standpoint of equity and compensation of

creditors is the right to avoid and recover prepetition

transfers made by an insolvent debtor without

receiving fair consideration, to the prejudice of its

creditors. It is “longstanding bankruptcy policy—

inherited by this nation at its founding and dating back

to England’s Statute of Elizabeth, enacted in

1571—that insolvent debtors should not be able to

evade their financial commitments by making gifts.””

This statute provided that a conveyance made “to the

End, Purpose and Intent to delay, hinder or defraud

creditors” is voidable. 13 Eliz., ch. 5 (1571). “Every

American bankruptcy law has incorporated a

fraudulent transfer provision; the 1898 Act specifically

adopted the language of the Statute of Elizabeth.” BFP

v. Resolution Trust Corp., 511 U.S. 531, 540 (1994); see

Bankruptcy Act of July 1, 1898, ch. 541, § 67(e), 30

Stat. 564-565 (adopting statutory language).

* Bankruptcy Issues in Review: The Bankruptcy Code’s Effect on

Religious Freedom and a Review of the Need for Additional

Bankruptcy Judgeships Before the Subcomm. on Admin. Oversight

and the Courts and the Comm. on the Judiciary, 105th Cong. 1

(1997) (prepared statement of Donald S. Bernstein on behalf of the

National Bankruptcy Commission).

A transfer made for inadequate consideration by an

insolvent debtor was among the “badges of fraud”

raising a rebuttable presumption of fraudulent intent.

“A vendee who purchases the property of an insolvent

debtor for less than its value thereby deprives the

creditors of the difference, and defeats their just

expectations.” Orlando F. Bump, Fraudulent

Conveyances, Fraudulent Conveyances: A Treatise

Upon Conveyances Made by Debtors to Defraud

Creditors 86 (1872). From this evolved the concept of

“constructive fraud,” in recognition of the fact that

creditors suffer harm when a debtor transfers property

for less than fair consideration, even without actual

fraudulent intent, at a time when the debtor is

insolvent or when the debtor becomes insolvent due to

the transfer. This concept was incorporated in the

Uniform Fraudulent Conveyance Act, drafted in 1918,

and absorbed into federal bankruptcy law in 1938

through provisions of the Chandler Act. See generally

BFP, 511 U.S. at 540-41; 5-548 Collier on Bankruptcy

{ 548.01 (16th ed. 2017).

Section 548(a)(1)(B) of the Code carries forward this

important creditor remedy. A trustee may avoid a

transfer by the debtor of an interest in property for less

than “reasonably equivalent value,” made while the

debtor was insolvent or that rendered the debtor

insolvent, or that left the debtor with “unreasonably

small capital” to engage in a business or transaction, or

unable to pay contemplated debts as they came due.

Section 546 limits the trustee’s ability to avoid such

constructively fraudulent transfers. Relevant here, a

trustee “may not avoid” a “transfer” that is a

“settlement payment ... made by or to (or for the

benefit of)” a financial institution or other enumerated

entity. 11 U.S.C. § 546(e).

3. To a bankruptcy trustee charged with

maximizing the value of the estate, the successful

administration of Valley View’s bankruptcy case turns

on the prosecution of what is or should be a garden

variety lawsuit to avoid a constructively fraudulent

transfer. Assuming the truth of the allegations, Valley

View settled a dispute by paying a competitor $55

million to withdraw from bidding for an asset that later

sold for $5.6 million. It is a paradigmatic constructive

fraudulent transfer: whatever the cause of the

disparity, it was a transfer by an insolvent debtor for

which it received far less than reasonably equivalent

value, no less harmful to creditors than purchasing

oceanfront property in the Solomon Islands for $50

million, or any similar miscalculation or folly. The

transferor’s insolvency is the nub, not its financial

acumen. The trustee sued Merit for its $16.5 million

share and the payment of Valley View’s creditors

depends on its recovery. The structure of the

transaction as a private sale of stock in Bedford Downs

and the use of leverage appear to have been virtually

incidental to its purpose, but because the parties used

a bank to complete the transfer from Valley View to

Merit, the stock sale is an incident that the Court is

urged to hold was intended by Congress to prevent the

trustee from avoiding the transfer.

B. The Statutory Text and Context Do Not

Support Merit’s Overexpansive

Construction of Section 546(e)

The argument that § 546(e) precludes avoidance in

a case such as this strikes at the heart of a trustee’s

mission and ability to maximize and ratably distribute

the estate of a bankrupt business. It is terrible public

policy but, more importantly, the argument is not

supported by the text or context of the statute and is

not a policy that Congress expressed an intention to

promulgate. Congress acted to protect the stability of

the securities-clearance system by insulating its

constituents from avoidance liability. If it is also good

policy to inspire investor confidence by instituting a per

se rule that no sale of stock is subject to avoidance no

matter how unbalanced, so long as it was not intended

to defraud creditors, then Congress should pass such a

law. It has not yet done so. If such a measure passes,

it will surely preserve a trustee’s ability to avoid for the

benefit of innocent creditors transfers such as this, as

well as the smorgasbord of contrived securitized

transactions that will follow if § 546(e) sweeps as

broadly as Merit argues it should.®

1. As amicus curiae, we will not exposit at length

on what we believe are the compelling textual and

contextual arguments articulated by the Seventh

Circuit and the Respondent. We agree entirely with

the holding that § 546(e)’s exclusion from avoidance of

“a transfer made by or to (or for the benefit of)”

specified intermediaries in the securities-clearance

* The type of asset sale that could be securitized in some fashion is

limited only by the imagination.

system “in connection with a securities contract,”

refers, as a matter of plain English and in the context

of Chapter 5 of the Bankruptcy Code, to the transfer

that the trustee seeks to avoid, of the debtor’s property

to its ultimate recipient and not to its wire transfer

agent. 11 U.S.C. § 546(e).

2. The word “transfer” weaves its way through

Chapter 5 with apparent uniformity, from its

substantive provisions for the avoidance of transfers

under sections 544(a), 545, 547(b), 548 and 549,

through its limitations on the avoidance of such

transfers in § 546 and its provisions for (and

limitations on) the recovery of avoided transfers in

§ 550. “[I]dentical words used in different parts of the

same statute are generally presumed to have the same

meaning... .” IBP, Inc. v. Alvarez, 546 U.S. 21, 34

(2005). And, in fact, the word “transfer” does have a

uniform meaning within all of those provisions when it

is used to refer to an avoidable transfer by a debtor to

a transferee or for the benefit of a nontransferee. So

used, each of the provisions in which it appears works,

internally and in concert with the others, including

§ 546(e); it is the “fundamental transactional unit in

the Code’s avoiding-power provisions.” Ralph

Brubaker, Understanding the Scope of the $ 546(e)

Securities Safe Harbor Through the Concept of the

“Transfer” Sought to Be Avoided, 37 Bankr. L. Letter,

July 2017, at 9.

3. So used, as well, § 546(e) rests comfortably in

Chapter 5 rather than presenting as a misplaced

provision of the Securities Exchange Act intended to

encourage the formation and investment of capital by

assuring shareholders not just that their trades will

settle without disruption, but that their individual

investment decisions will not be subject to scrutiny

under bankruptcy laws. Courts must interpret a

statute “as a symmetrical and coherent regulatory

scheme,” Gustafson v Alloyd Co., 513 U.S. 561, 569

(1995), and “fit, if possible, all parts into an

harmonious whole.” FTC v. Mandel Bros. Inc., 359

U.S. 385, 389 (1959). Amicus concurs that “Chapter 5

creates both a system for avoiding transfers and a safe

harbor from avoidance—logically these are two sides of

the same coin. It makes sense to understand the safe

harbor as applying to the transfers that are eligible for

avoidance in the first place.” FTI Consulting, Inc. v.

Merit Management Group, LP, 830 F.3d 690, 694 (7th

Cir. 2016).

C. The Interplay Between Sections 546(e) and

550 Demonstrates That Merit’s Analytical

Construct Runs Counter to Congressional

Intent

Conversely, using the word “transfer”

noncontextually and, in particular, to refer to whatever

alienation of property a defendant chooses to identify

rather than the putative avoidable transfer identified

by the trustee, would make mincemeat of § 550.

Moreover, as discussed below, the law that leads Merit

out of its § 550 mess is exactly the law that

demonstrates unequivocally why its slice-and-dice

analysis is not what Congress intended when it enacted

§ 546(e).

1. Section 550 is integral to a trustee’s exercise of

the Bankruptcy Code’s avoidance powers. It is the

“recover” of “avoid and recover.” The trustee can

recover the property transferred or its value from the

“initial transferee of such transfer,” § 550(a)(1), or from

“any immediate or mediate transferee of such initial

transferee,” § 550(a)(2). To the latter, it provides a

defense: a trustee may not avoid a transfer under

§ 550(a)(2) from a transferee that takes for value and

in good faith and who did not know of the voidability of

the transfer, and “any immediate or mediate good faith

transferee of such transferee.” 11 U.S.C. § 550(b).

Here, Merit insists for purposes of § 546(e) that

there was no $16.5 million avoidable transfer from

Valley View to Merit, but only three intermediate

nonavoidable “transfers” to and by financial

intermediaries (Pet. Br. at 2). Carrying that approach

over into § 550 would mean that Merit was not the

initial transferee of a $16.5 million transfer from Valley

View under § 550(a)(1) or even the immediate

transferee of such transferee under § 550(a)(2). Merit

would be a mediate transferee thrice removed from the

initial transferee. If the Code’s terminology is to be

applied uniformly, then under Merit’s construct, even

if § 546(e) did not apply, the money could not be

recovered from Merit if any one of its predecessor

transferees was a good-faith transferee. Obviously, if

transfers can be diced thusly, it would be a rare

avoidable transfer that could be recovered under § 550.

2. There is a meaningful nexus between the

foregoing dilemma and Merit’s flawed interpretation of

§ 546(e). The background law that prevents this result

is the very law that gave rise to § 546(e). As discussed

by the Respondent (Res. Br. at 37), the law in all

circuits is settled that a transferee is an entity with

“dominion over the money” or “the right to put the

money to one’s own purposes” and not an intermediary

or conduit. See, e.g., Bonded Fin. Serv., Inc. v.

European Am. Bank, 838 F.2d 890, 893 (7th Cir. 1988).

This principle is the genesis of § 546(e), which was

enacted in 1976 in response to a district court’s failure

to rule on summary judgment that a clearing

association received payments from a_ bankrupt

commodity broker as a “conduit” and not as a

“transferee.” Seligson v.New York Produce Exch., 394

F. Supp. 125 (S.D.N.Y. 1975). The Seligson court found

that the trustee had “raised a genuine issue as to

whether [the debtor] owed its obligation directly to the

credit members, and this issue is material to the

question of whether the Association acted as an agent

for net credit members.” Jd. at 136. Congress

abrogated the decision by providing that “the trustee

may not avoid a transfer that is a margin payment to

or deposit with a commodity broker or forward contract

merchant or is a settlement payment made by a

clearing organization.” Pub. L. No. 95-598, 92 Stat.

2549 (1978), codified at 11 U.S.C. § 746(c) (repealed

1982); see S. Rep. No. 95-989, at 105 (1978), reprinted

in 1978 U.S.C.C.A.N. 5787, 5891.

3. But Merit puts § 546(e) to a very different use

than Congress intended. The statute provided “belt

and suspenders” protection to the clearinghouse.

Inasmuch as Merit treats § 546 and § 550 as if they

bore no relation to each other (in order to avoid the

absurd result discussed above), it would be the first to

admit that § 546(e) was not intended to displace the

principle that transfers to intermediaries are not

avoidable. Nor is there evidence that Congress

intended to preclude the Seligson trustee from suing

those for whom the trustee claimed the clearinghouse

was acting as agent, in order to avoid the same debtor-

to-ultimate-recipient transfer that is at issue in this

case.

Thus, Merit inverts the intended operation of

§ 546(e). If the law does not recognize any transfer

from Valley View to Merit, as Merit contends, then,

necessarily, each of the intermediate transactions

constitutes a transfer that is subject to avoidance, or

would be but for the protection of § 546(e). But

Congress intended § 546(e) to supplement, not replace,

the law on transfers to conduits or intermediaries.

Merit’s convenient interpretation of § 546(e) is

inconsistent with that intent.

II. This Case Should Not Be Decided on the Basis

of its Implications for Failed Leveraged

Buyouts of Large Public Corporations

Amicus wishes also to address the view of the

Tribune amici that the Court should decide this matter

with both eyes focused on its implications for

fraudulent transfer cases involving failed leveraged

buyouts of large public corporations, such as the recent

Tribune and Lyondell bankruptcy cases. A trustee’s

ability to avoid failed leveraged buyouts as

constructively fraudulent to creditors, in appropriate

circumstances, is tremendously important as a matter

of bankruptcy policy. The § 546(e) exception achieves

its intended purpose of ensuring the stability of the

securities-clearance system. While individual

shareholder recipients of LBO largesse may have

concerns that a trustee may pursue their gains from

the sale of stock at a premium so steep that it does not

constitute fair consideration (however unlikely that

may be), there is no evidence other than their own

expansive interpretation of the text of § 546(e) that

Congress intended them to be its beneficiaries.

Certainly, the application of § 546(e) is unwarranted in

the context of the private transactions in which the

issue nearly always arises.

A. Leveraged Buyouts Have Exactly the Type

of Pernicious Effect on Unsecured

Creditors That the Bankruptcy Code Was

Intended to Address

1. Many of the most important purposes of our

bankruptcy laws converge when a company descends

into bankruptcy following a leveraged buyout. Without

fail, the principal victims are unsecured creditors,

which may include not just trade creditors but

bondholders such as employee pension plans,

retirement plans, mutual funds, and other entities that

manage funds belonging to millions of individuals. The

immediate beneficiaries are the shareholders, that is to

say, former controlling shareholders who commanded

a large premium made possible by borrowings against

corporate assets, creating a debt load the company

could not carry. To be sure, unsecured creditors are not

the only stakeholders to lose. But they are among the

only who did not make a calculated gamble on a new

capital structure. They had no say when the target

company’s operating needs were balanced against the

buyer’s desire to maximize its investment return

through leverage.

In such cases, the trustee’s avoidance power

vindicates not only the policies of maximizing the

estate and equality of treatment among creditors, but

also the traditional priority of creditors over

shareholders, commonly expressed as the absolute

priority rule.* “The Code’s priority system constitutes

a basic underpinning of business bankruptcy law.”

Czyzewski v. Jevic Holding Corp., 137 S. Ct. 973, 983

(2016); see also Northern Pac. R. Co. v. Boyd, 228 U.S.

482, 504 (1913) (“Any device, whether by private

contract or judicial sale under consent decree, whereby

stockholders were preferred before the creditor, was

invalid.”). Though it occurs prior to bankruptcy, a

transaction in which a company effectively cashes out

its controlling shareholders at the expense of its

solvency is for all practical purposes a device that

prefers stockholders over creditors, analogous to the

insider machinations the absolute priority rule is

intended to counter. See Bank of America Nat. Trust &

Sav. Assn. v. 203 North LaSalle Street P’ship, 526 U.S.

434, 444 (1999) (discussing how the absolute priority

rule was developed in response to “concern with ‘the

ability of a few insiders, whether representatives of

management or major creditors, to use the

reorganization process to gain an unfair advantage”

(quoting Report of the Comm’n on the Bankruptcy

Laws of the United States, H. R. Doc. No. 93—137, pt.

I, at 255 (1973))).

2. Most leveraged buyouts are private transactions.

Steven N. Kaplan & Per Stromberg, Leveraged Buyouts

and Private Equity, 23 J. Econ. Perspectives 121, 127-

28 (2009) (Between 1995 and 2004, leveraged buyouts

of private companies accounted for over 90% of

transactions and 80% of transaction value, declining as

a percentage of transaction value to 66% during the

* See 11 U.S.C. § 1129(b)(2) (requiring for confirmation of a plan of

reorganization, absent consent, that creditors and equity interest

holders be paid in order of priority).

following 3 years). What gives this public policy issue

such significance is their exponential growth, the risks

they pose to unsecured creditors, and the lack of other

effective remedies when they fail other than the

trustee’s avoidance powers. While there were only 103

leveraged buyouts from 1970 through 1984, from 2005

through 2007 alone there were 5,188 leveraged buyouts

representing a combined estimated enterprise value of

over $1.5 trillion. Jd. at 126-27. While we have been

unable to obtain updated statistics for what, from an

avoidance perspective, would represent the current

“generation” of leveraged buyouts, interest rates

remain low, and “[wjhen credit is cheap and the

economy is growing, highly leveraged buyouts

represent the optimal means by which private equity

firms acquire target companies.” Samir D. Parikh,

Saving Fraudulent Transfer Law, 86 Am. Bankr. L..J.

305, 307 (2012).

3. By nature, these transactions expose unsecured

creditors to risk. The form varies greatly but the net

effect is the same: A company with a healthy balance

sheet and liquidity incurs substantial debt and grants

liens on its assets to finance the purchase of itself. The

acquisition is financed with 60-90% debt. Kaplan at

124. The target company will necessarily have

significant equity that can be replaced by the financing

debt and ample cash flow available for the increased

debt service. See Peter A. Hunt, Structuring Mergers

& Acquisitions 101, 293 (4th ed. 2009). As a result, the

company’s debt ratio increases on average from 38% to

70%.° The replacement debt is lower-grade, see Hunt

at 300-03, and the buyer’s investment horizon is often

fairly short: 42% exit within five years of the buyout.

Kaplan at 127. The magic of leverage reduces capital

risk to the buyer and greatly increases its potential

return on investment, while generating tax savings

from the deduction of interest. The promise of a

substantial return generates a large premium for

selling shareholders; private equity typically pays

public shareholders a 15-50% premium over the

current stock price. Kaplan at 124. Unsecured

creditors gain no benefit from the increased risk of

insolvency, however, and once in bankruptcy, the

company’s assets are usually fully encumbered by the

liens securing the debt that financed the acquisition.

See generally John H. Ginsberg et al., Befuddlement

Betwixt Two Fulcrums: Calibrating the Scales of

Justice to Ascertain Fraudulent Transfers in Leveraged

Buyouts, 19 Am. Bankr. Inst. L. Rev. 71, 74-75 (2011).

The Third Circuit captured the problem twenty-five

years ago: “The problem universal to all

LBOs—characterized by their high debt relative to

equity interest—is that they are less able to weather

temporary financial storms because debt demands are

less flexible than equity interest.” Mellon Bank, N.A.

v. Metro Comme’ns, 945 F.2d 635, 647 (3d Cir. 1991).

° See Ulf Axelson, Tim Jenkinson, Per Stromberg & Michael

Weisbach, Borrow Cheap, Buy High? The Determinants of

Leverage and Pricing in Buyouts 32 (Natl Bureau of Econ.

Research, Working Paper No. 15952, 2010), available at

http://www.nber.org/papers/w15952, at 47 tbl. 5 (finding, in broad

sample of LBOs, ratio of debt to enterprise value increased from

average of 0.38 pre-LBO to average of 0.70 post-LBO).

One need look no further than Tribune Company for a

recent example. After the company incurred nearly $9

billion in new debt to finance its own acquisition, it was

left in the position that it would be insolvent if its

financial projections were off by even two percent. See

Report of Kenneth N. Klee, As Examiner, In re Tribune

Co., No. 08-13141, Vol. 1 at 170-78, 205-10, 460-62

(Bankr. D. Del. Aug. 3, 2010) [hereinafter “Klee

Report”]; Complaint at 26, Official Comm. ov.

Fitzsimons (In re Tribune Co.), No. 10-54010 (Bankr. D.

Del. Nov. 1, 2010). When a financial analytics firm

balked at issuing a solvency opinion, it was replaced by

one that would. The company fell into bankruptcy in

less than a year. See generally Ginsberg at 73.

4. Because the transaction is structured around

secured debt, the trustee’s avoidance powers usually

represent unsecured creditors’ best or only hope for a

meaningful recovery. As the Tribune examiner

explained, because the LBO financing “occupies a

structurally senior position, if this indebtedness is not

avoided, subordinated, or disallowed, the holders of

those claims would recover most of the value available

from the Debtors’ bankruptcy estates. ... Thus, among

the above-listed potential avoidances and recoveries

underlying Question One, the actions to avoid the LBO

Lender Debt are the proverbial “main event.™ Klee

Report, Vol. 2 at 10.

B. There is No Evidence That Congress

Intended Section 546(e) to Advance the

Behavioral Economics Policies Postulated

by Amici

Congress enacted § 546(e) “to prevent the insolvency

of one commodity or security firm from spreading to

other firms and possibly threatening the collapse of the

affected market,” H.R. Rep. No. 97-420, at 1 (1982),

reprinted in 1982 U.S.C.C.A.N. 583, 583. The merits of

the behavioral economics principles expounded by

Amici—promoting capital formation and liquidity by

instilling investor confidence that their investment

decisions can never be challenged—are debatable as a

matter of economic and bankruptcy policy. Regardless,

the timeline and legislative history of § 546(e) do not

support the conclusion that Congress had any goal

more ambitious than maintaining the stability of the

securities clearance and settlement system. Indeed,

the evidence is so sparse that the degree of certainty

expressed by some is puzzling. Most such litigation

involves private transactions but if greater investor

protections are needed, Congress will act. Section

546(e) was not such an act.

1. The only kind of avoidance litigation that could

implicate the broad policies discussed by the Tribune

amici would be avoidance litigation concerning the

failed leveraged buyout of a large public company.

Between 1970 and 1984, however, leveraged buyouts

were rare: only 103 were announced from 1970 through

1984. Kaplan at 127 tbl.1. At the time of the 1981

Subcommittee Hearings, leveraged buyouts remained

an anomaly, and there is no mention of leveraged

buyouts or the potential fraudulent transfer

implications of stock transfers in the 500 pages of

testimony during the 1981 Subcommittee Hearings.

Parikh at 337-38.

2. The purpose of the 1982 amendment was simply

to add the same protections for the securities markets

as the commodities markets. As stated in the House

Report:

The commodities and securities markets

operate through a complex system of accounts

and guarantees. Because of the structure of the

clearing systems in these industries and the

sometimes volatile nature the markets [sic],

certain protections are necessary to prevent the

insolvency of one commodity or security firm

from spreading to other firms and possibly

threatening the collapse of the affected market.

The Bankruptcy Code now expressly provides

certain protections to the commodities market to

protect against such a “ripple effect.” One of the

market protections presently contained in the

Bankruptcy Code, for example, prevents a

trustee in bankruptcy from avoiding or setting

aside, as a preferential transfer, margin

payments made to a commodity broker (see 11

U.S.C. Sec. 764(c)).

The thrust of several of the amendments

contained in H.R. 4935 is to clarify and, in some

instances, broaden the commodities market

protections and expressly extend similar

protections to the securities market.

H.R. Rep. No. 97-420 at 1-2 (emphasis added).

By 2005, of course, a substantial body of law had

developed concerning the application of § 546(e) in

actions to avoid leveraged buyouts—on both sides of

the issues—yet the House Report accompanying the

2005 amendment (which added “financial participants”

to the list of protected entities) reflected no change in

legislative intent, reiterating that § 546(e) was

“designed to reduce systemic risk in the financial

market place.” H.R. Rep. No. 109-31(1), at 3 (2005),

reprinted in 2005 U.S.C.C.A.N. 88, 89. Had Congress

intended to expand the application of § 546(e) beyond

its original purpose, or even to clarify its application in

the face of frequent judicial resistance to the Tribune

amici’s position, it would presumably have said so. As

this Court famously said, “Congress ... does not ... hide

elephants in mouseholes.” Whitman v. American

Trucking Assns., Inc., 531 U.S. 457, 468 (2001).

3. Section 546(e) was enacted to counteract a

particular kind of risk. It achieves that purpose. In

the clearance-and-settlement system, parties “use

intermediaries to make trades of [securities] which are

instantaneously credited, but in which the actual

exchange of [securities] and consideration therefor

takes place at a later date.” Zahn v. Yucaipa Capital

Fund, 218 B.R. 656, 675 (D.R.I. 1998). In this system,

the intermediaries’ role is “critical” because of the lapse

of time in between the date of a trade (when the

intermediary credits and debits the counterparties’

accounts) and the date of settlement (when the

securities and consideration are actually exchanged).

Id. at 676. The system “depends upon a series of

guarantees, made by all parties in the chain,” including

the intermediary, “that they will live up to their

obligations regardless of a default by another party in

the chain.” Jd. If the “pre-bankruptcy trades by a

bankrupt intermediary could be set aside” through

avoidance, then “the guarantees that allow the system

to function would be threatened,” and “a bankruptcy by

one party in the chain could spread to other parties in

the chain, threatening a collapse of the entire

industry.” Jd.

As Judge Gerber recognized in Lyondell, actions

directed at “LBO payments [made] to stockholders at

the very end of the asset transfer chain, where the

stockholders are the ultimate beneficiaries of the

constructively fraudulent transfers, and can give the

money back to injured creditors with no damage to

anyone but themselves” “would not create systemic

risk.” Weisfelner v. Fund 1 (In re Lyondell Chem. Co.),

503 B.R. 348, 372-73 (Bankr. S.D.N.Y. 2014).

4. There is simply no evidence other than Merit’s

and amici’s own expansive reading of the text that

congressional intent in enacting and amending § 546(e)

was to promote capital formation and prevent

avoidance actions from eroding investor confidence and

discouraging public investment (Tribune Am. Br. at 27)

or to prevent trustees from “unwinding long-settled,

complicated transactions and creating arbitrary

distinctions among market participants.” Jd. at 30.

Courts “do not sit to assess the relative merits of

different approaches to various bankruptcy problems.”

Hartford Underwriters Ins. Co. v. Union Planters Bank,

530 U.S. 1, 13-14 (2000). Congress circumscribed the

avoidance powers of bankruptcy trustees so that a

bankruptcy would not generate litigation against

market intermediaries. Congress did not foreclose

avoidance action against every market participant, or

abandon the Code’s fundamental goal of maximizing

creditor recoveries.

CONCLUSION

Amicus submits that the decision of the Seventh

Circuit Court of Appeals should be affirmed.

Respectfully submitted,