AUDREY R. EVANS, Bankruptcy Judge.
Now before the Court is the Second Motion for Summary Judgment or, in the alternative, for Partial Summary Judgment (docket #35) ("
The Debtors in this bankruptcy case are Jerry M. Frankum and Amelia Frankum. Jerry Frankum is a doctor, and the Debtors owned several medical facilities, including Rivercrest Nursing Home, Jefferson Nursing Home, and Newport Hospital and Clinic ("
In 2005, the Debtors attempted to sell substantially all of the assets of Newport Hospital to a company named Community Health Systems, Inc. ("
Soon after obtaining the Creditors' consent, Newport Hospital entered into an Asset Purchase Agreement, under which it sold substantially all of its assets to CHS. This agreement provided for a payment of $10,250,000 for the assets, and a separate payment of $250,000 each to Newport Hospital, Jerry Frankum, and Amelia Frankum, in exchange for their agreement not to compete with CHS for five years. The sale closed on September 30, 2005. At that time, CHS paid the agreed amount for both the purchase of the assets and the
The Debtors filed bankruptcy on October 14, 2005, within 90 days of the sale's closing. The Trustee in the Debtors' bankruptcy case filed this adversary proceeding, pursuant to 11 U.S.C. § 547, to avoid the transfers caused by Ruffin and Heartland placing liens on the Debtors' property in Mississippi and Green counties, and to avoid the transfer of the $500,000 covenant-not-to-compete payments to Heartland. On March 12, 2010, the Court entered its Order on First Motion for Summary Judgment avoiding the liens as preferential transfers, and finding that a genuine issue of material fact existed as to whether the Debtors had a property interest in the transferred covenant-not-to-compete payments. On October 7, 2010, the Trustee filed this Motion for Summary Judgment, providing the Court with additional evidentiary support for the argument that the transfer of the covenant-not-to-compete payments to Heartland was a preferential transfer. Following a thorough review of the evidence submitted in support of, and in opposition to, this Motion for Summary Judgment, the Court finds that the Debtors did have a property interest in the covenant-not-to-compete payments and grants the Trustee's Motion for Summary Judgment.
The following evidence was provided as support for, or in response to, the Motion for Summary Judgment and was relied on by the Court in making this determination:
1. The affidavit of James C. Luker, the Trustee in the Debtors' bankruptcy case (the "
2. The affidavit of Eugene Zuber, the Hospital Administrator for Newport Hospital and the Debtors' personal advisor (the "
3. The affidavit of Robert Smith, the attorney for Newport Hospital with respect to the Asset Purchase Agreement (the "
4. The affidavit of Larry Lewallen, the accountant for both Newport Hospital and the Debtors (the "
5. The affidavit of Clyde H. Henderson, the Chairman and Chief Examining Officer of Heartland (the "
6. The affidavit of Deborah Sheffield, the Secretary and Treasurer of Ruffin (the "
7. The affidavit of Bradley F. Snider, the Executive Vice President of Pulaski Bank (the "
9. An agreement between the Debtors and Ruffin for the forbearance of collection activities (the "
10. A writ of execution by Heartland on the Debtors' stock in Newport Hospital (the "
11. The agreement between Newport Hospital and CHS for the sale of substantially all of Newport Hospital's assets (the "
12. The agreement entered into by Heartland, Ruffin, Pulaski Bank, and the Debtors, providing the creditors' consent to the Asset Purchase Agreement (the "
13. The Wiring Instructions for disbursement of funds at closing on Asset Purchase Agreement (the "
14. The closing statement of Land Services, showing all payments and disbursements made at the closing of the Asset Purchase Agreement (the "
15. Email correspondence between Robert Smith and counsel for Heartland, Ruffin, and Pulaski Bank (the "
Based on the evidence submitted, the parties' statements of undisputed facts, and the facts found to be undisputed in the Order on First Motion for Summary Judgment, the Court finds the following facts are not in dispute:
1. The Debtors borrowed a total of $3,277,944.88 from Heartland Community Bank ("
2. The Debtors borrowed $1,600,000 from Heritage Bank secured by the Debtors' stock in Newport Hospital in 2000. Heritage Bank subsequently assigned this note and security interest to First Community Bank, which later became Pulaski Community Bank and Trust Company, and is now Iberiabank ("
3. Jerry M. Frankum personally guaranteed a loan from Ruffin to Rivercrest Nursing Home in the amount of $995,000 in 1997. (Ruffin Settlement Agreement).
4. The Debtors defaulted on their obligations to Heartland and Ruffin. As a result, Heartland and Ruffin were involved in three lawsuits to collect on those debts: Heartland Community Bank v. Jerry M. Frankum, et al., Jackson County Circuit No. CV-2004-54 ("
5. On September 23, 2004, in exchange for an agreement to cease collection activities, Heartland and the Debtors entered into the Heartland Settlement Agreement. This agreement gave Heartland a security interest in 25% of the outstanding stock in Newport Hospital, and the right to vote that stock. Additionally, the agreement
6. On September 30, 2004, the Debtors also entered into the Ruffin Settlement Agreement which gave Ruffin a security interest in 5% of the outstanding stock in Newport Hospital, and a right to vote that stock. Additionally, the Ruffin Settlement Agreement provided Ruffin with a pre-signed consent judgment that it could file in the Pulaski County Litigation if the Debtors did not cure the loan deficiencies by December 1, 2004. (Ruffin Settlement Agreement).
7. The Debtors failed to pay the loan deficiencies by December 1, 2004. Heartland and Ruffin both entered the consent judgments in the lawsuits. (Heartland Statement of Undisputed Facts 1.E).
8. On February 23, 2005, Heartland had a Writ of Execution issued on its consent judgment and obtained additional stock certificates in Newport Hospital. (Writ of Execution).
9. On August 29, 2005, and September 1, 2005, Ruffin recorded its consent judgment in the real estate records of Greene and Mississippi counties.
10. In August of 2005, the Debtors had an opportunity to sell substantially all of Newport Hospital's assets to CHS.
11. On August 31, 2005, Heartland, Ruffin, Pulaski Bank, and the Debtors entered into the Consent to Sale Agreement which authorized the Debtors to vote the Newport Hospital stock in favor of the sale to CHS. The Consent to Sale Agreement contained the following conditions and agreements:
(Consent to Sale Agreement).
12. Following the Consent to Sale Agreement, Pulaski Bank transferred its interest in the Newport Hospital stock to Heartland. After that transfer, Heartland and Ruffin, collectively, held a security interest in 100% of the stock of Newport Hospital.
13. On September 1, 2005, Newport Hospital, CHS, and the Debtors entered into the Asset Purchase Agreement. (Asset Purchase Agreement).
14. Under the Asset Purchase Agreement, CHS purchased substantially all of
15. The Debtors were listed in their individual capacities as parties to the Asset Purchase Agreement "for purposes of Section 9 and Section 12.25." Section 9 prohibits Newport Hospital, Jerry Frankum, M.D., and Amelia Frankum from competing with CHS for five years. In exchange, the agreement provides that CHS will pay each of them a $250,000 covenant-not-to-compete payment. Pursuant to section 12.25, the Debtors guaranteed that Newport Hospital would perform its obligations under the agreement. (Asset Purchase Agreement, Sec. 9, 12.25).
16. On September 30, 2005, the parties closed on the Asset Purchase Agreement through Land Services, and CHS wired to Land Services the net proceeds of $10,984,834.55 (the total payment of $11,000,000 was adjusted to account for taxes paid and certain title company charges). (Closing Statement).
17. Eugene Zuber created the Wiring Instructions for the distribution of the proceeds from the sale of the Newport Hospital assets and the covenant-not-to-compete payments. In creating the Wiring Instructions, Mr. Zuber was acting as the Hospital Administrator for Newport Hospital and as the personal representative of the Debtors.
18. Land Services distributed the funds received by CHS according to the Wiring Instructions. The Wiring Instructions specifically required a payment to Pulaski Bank in the amount of $720,000, and a payment to Ruffin in the amount of $66,500. The Wiring Instructions required a payment of $500,000 to the Debtors for the "Aggregate Non-competition Payment," but a separate instruction then directed that $500,000 be paid to Heartland. The Wiring Instructions also specified a payment to Heartland in the amount of $113,500, for a total of $613,000, as required under the Consent to Sale Agreement. (Wiring Instructions). The Wiring Instructions directed the net sale proceeds be paid to Newport Hospital. (Closing Statement).
19. The Debtors filed their petition for relief under Chapter 7 of the Bankruptcy Code on October 14, 2005 (Case No. 1:05-bk-27198). The Debtors' Summary of Schedules reflects $1,530,230 in assets, and $15,535,471.32 in liabilities.
20. At the time of filing, the Debtors owned 100% of the stock in Newport Hospital, but Heartland and Ruffin, collectively, held a security interest in all of that stock. (Trustee's Statement of Undisputed Facts 5; Heartland Statement of Undisputed Facts II.B).
21. On March 10, 2006, Heartland filed two proofs of claim, Claim No. 12 and Claim No. 13, as unsecured claims in the amount of $1,448,853.41 and $1,373,822.40, respectively. Attachments to those claims explained that Heartland's claims are secured by the Debtors' Newport Hospital stock, but that it listed the claims as unsecured because it could not determine the value of the stock at that time. On November 25, 2009, Heartland amended both claims to reflect a secured status, and adjusted Claim No. 12 to an amount of
22. On March 10, 2006, Ruffin filed a proof of claim, Claim No. 11, as an unsecured claim in the amount of $885,971.01. On March 13, 2006, Ruffin filed an amended claim, Claim No. 15, in the same amount.
23. As of June 30, 2010, the Trustee in the Debtors' bankruptcy case was holding funds in the amount of $537,430.52. (Chapter 7 Trustee's Interim Report).
24. The unsecured claims in the Debtors' bankruptcy case, which will receive a pro rata distribution of the assets, total more than $4,700,000.
25. On March 1, 2006, Newport Hospital, which had changed its name to Healthcare Business Solutions, Inc., filed for relief under Chapter 11 of the Bankruptcy Code, Case No. 1:06-bk-10682.
26. On August 16, 2007, James C. Luker, the Trustee in the Debtors' bankruptcy case, filed a claim in the Newport Hospital bankruptcy case on behalf of the bankruptcy estate of the Debtors (the "
27. As of September 30, 2010, the trustee for Newport Hospital was holding funds in the amount of $1,272,640.86. (Newport Trustee's Interim Report).
28. On November 2, 2010, the Newport Hospital trustee filed a Motion for Authority to Make Second Interim Distribution to Unsecured Creditors and Application for Payment of Trustee Second Interim Compensation and Reimbursement of Expenses and Notice ("
Rule 56 of the Federal Rules of Civil Procedure, as applied to these proceedings through Federal Rule of Bankruptcy Procedure 7056, provides that summary judgment shall be granted where the pleadings, depositions, answers to interrogatories, admissions or affidavits show that there is no genuine issue of material fact and the moving party is entitled to judgment as a matter of law.
As a general rule, the trustee may avoid a transfer made by the debtor within ninety days prior to the filing of a bankruptcy petition as a preferential transfer. 11 U.S.C. § 547; In re Gateway Pacific Corp., 153 F.3d 915, 917 (8th Cir.1998). The purpose of the avoidance power is to place all unsecured creditors on an equal basis for purposes of distribution of the debtor's assets, and "to prevent pre-petition dismantling of the debtor's estate." In re Neponset River Paper Co., 231 B.R. 829, 833 (1st Cir. BAP 1999); In re Armstrong, 231 B.R. 723, 731 (Bankr.E.D.Ark. 1999) (citing In re Bohlen Enterprises, Ltd., 859 F.2d 561, 566 n. 10 (8th Cir. 1988)).
There are six requirements necessary to establish a preferential transfer under § 547(b). Section 547(b) provides:
11 U.S.C. § 547. The first requirement of a preferential transfer is found in the prerequisite that the transferred interest was "an interest of the debtor in property." 11 U.S.C. § 547(b). The other five requirements are found in the enumerated sub-provisions of § 547(b). 11 U.S.C. § 547(b)(1)-(5).
The Court finds (and the parties do not dispute) that there is no genuine issue of material fact with regard to the requirements
The two remaining elements of a preferential transfer are at issue in this case: first, whether the transferred property was "an interest of the debtor in property[,]" and second, whether the transfer enables the creditor to receive more than it would receive under a liquidated Chapter 7 case, had the transfer not been made.
"The reach of § 547(b)'s avoidance power is ... limited to transfers of `property of the debtor.'" Begier v. I.R.S., 496 U.S. 53, 58, 110 S.Ct. 2258, 2262, 110 L.Ed.2d 46 (1990). Property of the debtor, for purposes of § 547, is "property that would have been part of the estate had it not been transferred before the commencement of bankruptcy proceedings." Id. See also Brown v. First Nat. Bank of Little Rock, Ark., 748 F.2d 490, 492 n. 6 (8th Cir.1984) ("The paramount consideration is whether there has been a diminution in the bankrupt's estate as a result of the transfer."); In re Borgman, 48 B.R. 666, 667 (Bankr.W.D.Mo.1985). Property of the estate includes "all legal or equitable interests of the debtor in property as of the commencement of the case." 11 U.S.C. § 541(a). The definition of property of the estate is interpreted broadly. See U.S. v. Whiting Pools, Inc., 462 U.S. 198, 204, 103 S.Ct. 2309, 2313, 76 L.Ed.2d 515 (1983). The extent and validity of a debtor's interest in property is a question of state law. See Barnhill v. Johnson, 503 U.S. 393, 398, 112 S.Ct. 1386, 1389, 118 L.Ed.2d 39 (1992).
The Trustee proposes that the Debtors held an interest in the covenant-not-to-compete payments because they had contractual rights to receive those payments. The Trustee asserts that under Arkansas law, a right to payment under a contract is an interest in property. See McDermott v. McDermott, 336 Ark. 557, 565, 986 S.W.2d 843, 847 (1999) ("It is axiomatic that the right to perform a contract and to receive its profits, and the right to performance by the other party, are property rights entitling each party to the fulfillment of the contract by performance. In other words, enforceable contract rights are deemed to be property rights.") (citation omitted). The Trustee also points out that contractual rights are "widely recognized as property of the bankruptcy estate." In re Phelps Technologies, Inc., 245 B.R. 858, 865 (Bankr.W.D.Mo.2000). The Trustee cites In re Phelps as support for the position that the covenant-not-to-compete payments were contractual rights, in which the Debtors had an interest. In the case of In re Phelps, the debtor agreed to sell its product for a purchase price of $2,200,000, to be paid over a period of 10 weeks. Within that agreement, the purchaser agreed to send $100,000 of the weekly payment to Phelps' creditor, Sharp.
Heartland does not dispute the Trustee's contention that contractual rights are property of the estate. Instead, Heartland argues that the Debtors did not have a property interest in the covenant-not-to-compete payments because any rights the Debtors had in those payments were held for the benefit of Heartland. As discussed in more detail below, Heartland relies on T & B Scottdale Contractors, Inc. v. U.S., 866 F.2d 1372, 1376 (11th Cir.1989) ("... funds in the debtor's possession held for a third-party do not become part of the estate in bankruptcy ..."), and In re LAN Tamers, Inc., 329 F.3d 204, 210 (1st Cir. 2003) ("The plain text of § 541(d) excludes property from the estate where the bankrupt entity is only a delivery vehicle and lacks any equitable interest in the property it delivers."). Heartland's argument is based on two assertions: first, that the covenant-not-to-compete payments were held in trust for the benefit of Heartland; and second, that the Debtors did not have sufficient control over the payments to hold a property interest in them.
Heartland draws support for its argument that the covenant-not-to-compete payments were held in trust for the creditors from the legislative history of section 541,
H.R.Rep. No. 95-595, at 368 (1977); S.Rep. No. 95-989, at 82 (1977), reprinted in 1978 U.S.C.C.A.N. 5963, 5787, 5868, 6324.
Heartland cites and discusses two cases in support of this argument. The first case is T & B Scottdale Contractors, Inc. v. U.S., 866 F.2d 1372 (11th Cir.1989). In that case, a general contractor opened a joint bank account with a debtor subcontractor, and according to a contractual agreement between them, placed funds in that account to pay for the equipment expenses incurred by the subcontractor. The contract specifically stated, "Contractor shall open a bank account in Subcontractor's name for the sole purpose of paying for equipment covered by Item 3 above. Contractor shall maintain control of such bank account, but account shall be set up [sic] joint signature by Contractor and Subcontractor." T & B Scottdale, 866 F.2d at 1373. The account was established and funds placed in the account. When the subcontractor subsequently filed bankruptcy, the bankruptcy trustee argued that the funds in the account were the debtor's property. The Court of Appeals for the Eleventh Circuit reversed the district court's ruling that the funds belonged to the bankruptcy estate simply because they were placed in an account bearing the debtor's name. The Court determined that the contractual agreement requiring that the funds be deposited in the debtor's account solely for the debtor's materialmen prevented the funds from becoming part of the bankruptcy estate.
In the second case, In re Inca Materials, Inc., 880 F.2d 1307 (11th Cir.1989), the materialman creditor notified the debtor subcontractor's general contractor that it had not been paid by the debtor subcontractor, and that it was intending to proceed against that debtor subcontractor's payment bond. The general contractor then notified the debtor subcontractor that it would be withholding the amount claimed by the materialman from any payment to the debtor subcontractor on the bond. The debtor subcontractor then filed for bankruptcy, and the general contractor issued a check to both the debtor subcontractor and materialman "in order to settle [the materialman's] unsecured claim against [the debtor]." In re Inca Materials, Inc., 880 F.2d at 1309. The debtor endorsed the check over to the materialman. The bankruptcy trustee argued that the transferred funds were a part of the debtor's bankruptcy estate. The Eleventh Circuit Court of Appeals affirmed the bankruptcy court's finding that the funds were not part of the bankruptcy estate, in part, based on the determination that the funds were held in a constructive trust to pay the debtor's materialmen.
Heartland also contends that whether the Debtors had a property interest in the covenant-not-to-compete payments should
In re Kemp Pacific Fisheries, Inc., 16 F.3d at 316. See also In re Moses, 256 B.R. 641, 650 (10th Cir. BAP 2000); In re Safe-T-Brake of South Florida, Inc., 162 B.R. 359, 365 (Bankr.S.D.Fla.1993).
The Court is not persuaded by Heartland's arguments, as explained below, and finds that the Trustee has presented sufficient evidence to find that the covenant-not-to-compete payments were contractual rights owned by the Debtors, and that those contractual rights would have been a part of the bankruptcy estate had the transfer to Heartland not been made. Specifically, the Asset Purchase Agreement lists Debtors as individual parties to the agreement, and contains specific provisions providing that the covenant-not-to-compete payments were in exchange for the Debtors' agreement not to compete with the purchaser for a period of five years. Additionally, in his affidavit, Robert Smith explains that CHS demanded that the Asset Purchase Agreement contain the covenant-not-to-compete provisions, and that CHS agreed to provide the Debtors with the payments in exchange for that agreement. Finally, the affidavit of the Debtors' accountant explains that the Debtors will have to claim the covenant-not-to-compete payments as income on their income tax returns. Thus, there is ample evidence that the Debtors had entered into a valid, enforceable contractual agreement for which they promised not to compete with CHS for five years in exchange for the covenant-not-to-compete payments.
Although Heartland argues that the parallels between the facts present in this case, and those present in the cases of T & B Scottdale and In re Inca Materials, necessitate a finding that the covenant-not-to-compete payments were not property of the estate because those funds were held in trust for Heartland's benefit, the Court finds those cases are distinguishable. In
In both T & B Scottdale and In re Inca Materials, the determinative fact on this issue was that the funds were provided to each debtor for the specific purpose of paying that debtor's creditor. In other words, the party delivering the funds to the debtor did so on the condition that those funds be paid to the debtor's creditor. No such condition exists in this case. The evidence presented by Heartland establishes that the Creditors expected to be paid out of the proceeds of the Asset Purchase Agreement. The Consent to Sale Agreement specified that "[a]t Closing [of the Asset Purchase Agreement], a distribution of no less than $1,400,000 shall be made by the Hospital ..." to the Creditors. Furthermore, the Smith Emails establish that the Creditors demanded that the Debtors use the covenant-not-to-compete payments to fulfill the Consent to Sale Agreement obligations. Additionally, the affidavits of the Creditors' representatives state that they would not have agreed to the Consent to Sale Agreement if the covenant-not-to-compete payments were not used to satisfy those obligations (although they did not specify which creditor would receive those specific payments). Significantly, the only agreement obligating the Debtors to pay Heartland was the Consent to Sale Agreement, and CHS (the entity making the payment) was not a party to that agreement. Similarly, the Asset Purchase Agreement did not contain any provision entitling Heartland to payment, and Heartland was not a party to the Asset Purchase Agreement. The facts do not establish that CHS in any way conditioned its payment of the funds on the requirement that those funds be forwarded to Heartland or any other creditor. Rather, the Debtors directed that their interest in the covenant-not-to-compete payments be transferred to Heartland to satisfy their obligations under the Consent to Sale Agreement. The facts on which the determinations in T & B Scottdale and In re Inca Materials turned are not present in this case. When CHS agreed to pay Debtors $500,000 in consideration for their covenants not to compete, it did not condition that payment on Debtors' agreement to pay those funds to Heartland.
Heartland also failed to persuade the Court that a genuine issue of material fact exists as to the Debtors' control over the covenant-not-to-compete payments. As stated above, the Asset Purchase Agreement lists the Debtors as individual parties to the agreement, and contains specific provisions providing that the covenant-not-to-compete payments were in exchange for the Debtors' agreement not to compete with the purchaser. Further, the Asset Purchase Agreement separates the payments made for the covenants-not-to-compete from the payment made for the sale of the business assets. Additionally, in his affidavit, Robert Smith explained that CHS demanded that the Asset Purchase Agreement contain the covenant-not-to-compete provisions, and that CHS agreed to provide the Debtors with the payments in exchange for that agreement. These facts prove that the covenant-not-to-compete payments resulted from a valid, enforceable contractual agreement in which the Debtors were entitled to receive—and to control—the payments received under that agreement.
Documentation of the transaction also shows that the covenant-not-to-compete payments were within the Debtors' control.
Based on the evidence submitted, the Court finds that the Debtors had a valid contractual right to receive the covenantnot-to-compete payments under the Asset Purchase Agreement. The Debtors were not required by the payor to transfer those funds to Heartland, and as a result, Heartland fails in its assertion that the Debtors' interest in the funds were held in trust for Heartland's benefit. Furthermore, the evidence presented shows that the Debtors had control of the covenant-not-to-compete payments and directed that the payments be transferred to Heartland. Accordingly, there is no genuine issue of material fact as to whether the Debtors had a property interest in the covenant-not-to-compete payments, and the Court finds that the property interest element of § 547(b) is met.
Heartland asserts that the $500,000 covenant-not-to-compete payments did not constitute a preferential transfer because they do not meet the requirements of 11 U.S.C. § 547(b)(5)(A)-(C) which are collectively referred to as the "hypothetical Chapter 7 test." This test provides that a preference exists only if the transferred property enables the creditor to receive more than it otherwise would under a Chapter 7 liquidation of the debtor's estate. The Trustee maintains that the Court already decided in its Order on First Motion for Summary Judgment that Heartland will receive more than it would have received under a Chapter 7 liquidation if it is allowed to keep the $500,000 covenant-not-to-compete payments. The Trustee argues that the Court's prior ruling is law of the case, and as such, precludes Heartland's argument that § 547(b)(5) is not met. In the Order on First Motion for Summary Judgment, the Court made a finding of fact that "[i]f Heartland retains the Non-Compete Payment, it will receive more than it would have received under Chapter 7 had the $500,000 not been paid to Heartland." (Order on First Motion for Summary
The hypothetical Chapter 7 test compares two calculations: (1) the amount a creditor would receive on its claim in a hypothetical Chapter 7 liquidation had no transfer been made (the "hypothetical liquidation"), and (2) the amount the creditor received from the allegedly preferential transfer combined with the amount the creditor would be entitled to receive on its claim in the actual bankruptcy case (the "
This analysis is often simplified by examining whether the creditor was paid on an unsecured, a secured claim, or a partially unsecured claim. See In re Auto-Train Corp., 49 B.R. at 610 (citing Barash, 658 F.2d at 507; In re Zuni, 6 B.R. 449, 452 (Bankr.D.N.M.1980)). As explained by the Auto-Train court,
In re Auto-Train Corp., 49 B.R. at 610 (internal citations omitted). Stated another way, where the creditor has an unsecured claim, "as long as the distribution in bankruptcy is less than one-hundred percent, any payment `on account' to an unsecured creditor during the preference period will enable that creditor to receive more than he would have received in liquidation had the payment not been made." In re Allegheny Health, 292 B.R. 68, 78 (Bankr. W.D.Pa.2003). The United States Supreme Court demonstrated this principle with the following example:
Palmer Clay Products, 297 U.S. at 229, 56 S.Ct. 450. Likewise, with respect to a partially secured debt,
The Trustee argues there is no dispute that Heartland's claims are at least partially unsecured (as Heartland's claim totals over $2 million, and it values its security interest at approximately $1.2 million), and that the unsecured creditors in the Debtors' Chapter 7 case will not receive payment on 100 percent of their claims (because there are over $4.7 million in filed
In contrast, Heartland argues for a different application of the comparison to be made under § 547(b)(5). Heartland argues that the proper comparison under the hypothetical Chapter 7 test is a strict comparison of the amount the creditor received through the transfer, and the amount the creditor would receive under a hypothetical Chapter 7 liquidation of the Debtors' estate. The comparison figures in Heartland's argument are derived from events occurring post-petition rather than the date of the Debtors' bankruptcy filing. Specifically, the Trustee in the Newport Hospital bankruptcy case has filed a Motion to Disburse Funds, in the amount of $900,000, to the Debtors' bankruptcy estate. The Debtors are to receive this disbursement on the basis that they are the sole stockholders in Newport Hospital. Heartland claims a security interest in over 99% of the $900,000 distribution to the estate as proceeds of its collateral—the Debtors' stock in Newport Hospital. As a result, Heartland argues that it would receive at least $900,000 (and possibly up to $1,271,960.57 as explained infra, note 20) in a hypothetical Chapter 7 bankruptcy case, and because $900,000 is more than the $500,000 covenant-not-to-compete payments, it did not receive more from the transfer than it would under a hypothetical Chapter 7 liquidation.
Heartland's argument misstates the hypothetical Chapter 7 test and too narrowly limits the scope of the figures to be compared under the test. The court in Barash explained the limitations of such a comparison with the following example:
Barash, 658 F.2d at 508-09 (emphasis added). The appropriate comparison is not between the amount transferred and the amount the creditor would receive under a hypothetical Chapter 7 liquidation of the Debtors' estate. Instead, the appropriate analysis includes, on one side of the scale, the amount the transfer enables the creditor to receive including the total of both the transferred amount and the amount the creditor can expect to receive on its claims within the present bankruptcy case (the "real liquidation" amount). The total for this amount is then weighed against, on the other side of the scale, the amount the creditor would receive under a hypothetical
The Court concludes that when the hypothetical Chapter 7 test is correctly applied to the undisputed facts of this case, there are no genuine issues of material fact regarding whether the requirements of § 547(b)(5) are met. There is no question that Heartland's claims are at least partially unsecured. Heartland has filed two claims in the Debtors' bankruptcy case. The total of Heartland's combined claims is $2,033,057.29.
No one disputes that the unsecured creditors in this case will receive less than 100 percent payment on their claims. The Trustee's affidavit states that the unsecured claims in the Debtors' bankruptcy case, which will receive a pro rata distribution of the assets, total more than $4,700,000.
Furthermore, it is undisputed that Heartland did not release any of its security interest in the Debtors' Newport Hospital stock when it received the $500,000 covenant-not-to-compete payments. Heartland does not dispute this assertion, and in fact, maintains that it holds an interest in over 99.94% interest of the Debtors' Class A stock, and 99.995% of the Debtors' Class B stock in Newport Hospital. (Heartland's Statement of Undisputed Facts, p.9; Heartland's Brief in Response to Plaintiff's Motion for Summary Judgment, p.14).
Because it is undisputed that Heartland's claims are partially unsecured, that the unsecured creditors in this case will
As explained herein, the Trustee has shown there are undisputed facts proving that Heartland's retention of the covenant-not-to-compete payments enables it to receive more than it would under the hypothetical Chapter 7 test had the transfer not been made. The Court finds that the requirements of § 547(b)(5) have been met, and summary judgment is appropriate as to the hypothetical Chapter 7 test.
The Court finds, and the parties do not dispute, that the elements of a preferential transfer have been met other than the requirement that the transferred property be an interest of the Debtor in property and the requirement that the transfer enable the creditor to receive more than the creditor would receive under the hypothetical Chapter 7 test. The Court concludes that there is no genuine issue of fact as to whether the Debtors had a property interest in the covenant-not-to-compete payments, and has further explained why the receipt of the covenant-not-to-compete payments enables Heartland to obtain more than it would under the hypothetical Chapter 7 test. Accordingly, the $500,000 covenant-not-to-compete payments received by Heartland constitute a preferential transfer under 11 U.S.C. § 547, and are therefore recoverable by the Trustee. For the reasons stated above, it is hereby
Furthermore, even if this were the appropriate legal standard, Heartland has not put this fact in issue. There is evidence that CHS wired money for both the asset purchase and the covenant-not-to-compete payments to Land Services, the closing agent. Land Services distributed those funds according to Wiring Instructions prepared by Eugene Zuber, who was the Hospital Administrator for Newport Hospital and a personal advisor to the Debtors. The evidence does not support Heartland's position that the payment was made by CHS directly to Heartland.
(Order on First Motion for Summary Judgment, p.6, n.2). The Court further elaborated:
(Order on First Motion for Summary Judgment, p.7, n.3).
