SHELLEY C. CHAPMAN, UNITED STATES BANKRUPTCY JUDGE.
I. Applicable Standard ...514 II. Scope of Decision and Ruling ...519 III. Background ...520 IV. The STN Hearing ...530 V. Discussion ...537 A. Constructive Fraudulent Transfer Claims ...537
1. Constructive Fraudulent Transfer Claims to Be Asserted on behalf of Legacy Forest ...537 2. Constructive Fraudulent Transfer Claims to Be Asserted on behalf of the Legacy Sabine Subsidiaries ...543 B. The Bad Acts Claims ...548 1. The Committee's Alleged Theory of the Bad Acts Claims is Implausible and is Contradicted by the Record ...549 2. The Intentional Fraudulent Transfer Claims are Not Colorable ...553 3. The Breach of Fiduciary Duty Claims are Not Colorable ...555 4. The Aiding and Abetting Breach of Fiduciary Duty Claims are Not Colorable ...563 5. The Equitable Subordination Claims are Not Colorable ...564 6. The Recharacterization Claims are Not Colorable ...566 C. Conclusions with Respect to Colorability ...568 D. Consideration of the STN Best Interests Test ...568 1. Value of the Constructive Fraudulent Transfer Claims to be Asserted on Behalf of the Legacy Sabine Subsidiaries' Estates ...568 2. Avoidance of Liens ...569 3. Recovery of New RBL Paydown, Merger and Financing Fees, and Prejudgment Interest ...571 4. Diminution in Value of Liens Improperly Granted to the New RBL Lenders ...571 5. Cost-Benefit Analysis ...574 E. Methodology for Calculating Value of Adequate Protection Claims ...574 VI. Conclusion ...578
Before the Court are the (i) Motion of the Official Committee of Unsecured Creditors for (I) Leave, Standing, and Authority to Commence and Prosecute Certain Claims and Causes of Action on Behalf of the Debtors' Estates and (II) Non-Exclusive Settlement Authority, dated November 17, 2015 [ECF No. 518] (the "First Committee STN Motion"); (ii) Motion of the Forest Notes Indenture Trustees for Entry of an Order Pursuant to § 1109(b) Granting Leave, Standing and Authority to Prosecute and, if Appropriate, Settle Certain Claims on Behalf of the Estate of Sabine Oil & Gas Corporation, dated November 17, 2015 [ECF No. 521] (the "Forest Notes Indenture Trustees' STN Motion"); and (iii) Second Motion of the Official Committee of Unsecured Creditors for (I) Leave, Standing, and Authority to Commence and Prosecute Certain Claims and Causes of Action on Behalf of the Debtors' Estates and (II) Non-Exclusive Settlement Authority, dated December 15, 2015 [ECF No. 609] (the "Second Committee STN Motion," and, collectively with the First Committee STN Motion and the Forest Notes Indenture Trustees' STN Motion, the "STN Motions"). The Official Committee of Unsecured Creditors (the "Committee") and the indenture trustees for the Legacy Forest Notes (as defined herein) (the "Forest Notes Indenture Trustees") shall be referred to herein collectively as the "Movants."
Throughout these cases, the parties have grouped the claims that are the subject of the STN Motions into three categories. First, the First Committee STN Motion and the Forest Notes Indenture Trustees' STN Motion each seeks standing to pursue constructive fraudulent conveyance claims against the Debtors' current and former secured lenders arising from the December 2014 merger between Forest
Second, the Second Committee STN Motion seeks standing to pursue claims for (i) intentional fraudulent transfers related to the Combination; (ii) breaches of fiduciary duty against (a) the pre-Combination Legacy Forest directors and officers (the "Legacy Forest Directors and Officers"); (b) the Legacy Sabine Parent board of directors; (c) Mr. David J. Sambrooks, as fiduciary for the Legacy Sabine Subsidiaries; and (d) the members of the board of directors of the Combined Company who replaced the Legacy Forest board of directors at or around 1:20 p.m. EST on December 16, 2014 and met for the first time at 3:30 p.m. EST on December 16, 2014 (the "3:30 Board"); (iii) aiding and abetting breaches of fiduciary duty against the New RBL Lenders,
Finally, the First Committee STN Motion seeks standing to pursue certain claims unrelated to the Combination, including, among others, claims challenging certain liens as beyond the scope of the grant or as avoidable preferences (the "Bucket II Claims").
Objections to one or all of the STN Motions were filed by the following parties, which the Court will refer to collectively as the "Objectors": (i) Wells Fargo, in its capacity as New RBL Agent;
The Committee seeks to obtain derivative standing to prosecute the STN Motions pursuant to the holding in Unsecured Creditors Comm. of Debtor STN Enters. Inc. v. Noyes (In re STN Enterprises), 779 F.2d 901 (2d Cir.1985) ("STN"). In STN, the United States Court of Appeals for the Second Circuit recognized "an implied . . . right for creditors' committees to initiate adversary proceedings in the name of the debtor in possession[.]" 779 F.2d at 904. In doing so, the Second Circuit agreed with the majority of bankruptcy courts that have "allowed creditors' committees to initiate proceedings . . . when the . . . debtor in possession unjustifiably fail[s] to bring suit or abuse[s] its discretion in not suing. . . ."
The inquiry as to whether a claim is "colorable" under STN is similar to that undertaken by the court on a motion to dismiss. Adelphia Commc'ns Corp. v. Bank of Am., N.A. (In re Adelphia Commc'ns Corp.), 330 B.R. 364, 376 (Bankr.S.D.N.Y.2005); Official Comm. of Unsecured Creditors of Am.'s Hobby Ctr., Inc. v. Hudson United Bank (In re America's Hobby Ctr., Inc.), 223 B.R. 275, 282 (Bankr.S.D.N.Y.1998); Official Comm. of Unsecured Creditors of the Debtors v. Austin Fin. Serv. (In re KDI Holdings, Inc.), 277 B.R. 493, 508 (Bankr.S.D.N.Y.1999) (citation omitted) (holding that, in determining whether there is a colorable claim, the court must engage in an inquiry that is "much the same as that undertaken when a defendant moves to dismiss a complaint for failure to state a claim"). Therefore, the movant must "state a claim [for] relief that is plausible on its face," Bell Atl. Corp. v. Twombly, 550 U.S. 544, 570, 127 S.Ct. 1955, 167 L.Ed.2d 929 (2007), determination of which will be "a context-specific task that requires the reviewing court to draw on its judicial experience and common sense." Ashcroft v. Iqbal, 556 U.S. 662, 679, 129 S.Ct. 1937, 173 L.Ed.2d 868 (2009) (citation omitted).
While courts have commented that, under STN, the "required showing is a relatively easy one to make," Adelphia, 330 B.R. at 375, in determining whether to confer standing, the court may nevertheless "engag[e] in some review of disputed facts" to determine if there is "some factual support for the Committee's allegations" and to determine that "the proposed litigation would be a sensible application of estate resources." Id. at 369. In making its determination, a court is not required to conduct a mini-trial or an evidentiary hearing,
The issue of standing is not designed to truncate the ability of creditors to get the benefit of full discovery if a lawsuit is viable, and authorization to bring claims derivatively "should be denied only if the claims are `facially defective.'" Adelphia, 330 B.R. at 376 (quoting America's Hobby Ctr., 223 B.R. at 288). A determination that claims are colorable permits the issues to be decided in plenary
If a committee presents a colorable claim or claims for relief that on appropriate proof would support a recovery, the bankruptcy court's threshold inquiry has not concluded. STN, 779 F.2d at 905. The second of the two prongs for determining whether a creditors' committee can bring claims on behalf of a debtor's estate is that the debtor itself must have unjustifiably refused to bring such claims. Id. at 904. This inquiry does not require an improper motive for such failure, see Adelphia, 330 B.R. at 374 n. 19; and the creditor need not plead facts alleging the debtor's reason or motive for inaction. See Canadian Pac. Forest Prods. v. J.D. Irving, Ltd. (In re Gibson Group), 66 F.3d 1436, 1439 (6th Cir.1995). Rather, the burden may be met through notice pleading by alleging the existence of an unpursued colorable claim that would benefit the estate. Thereafter, the burden shifts to the debtor, who is then obligated to show that its failure to act is justified. See id. at 1446. "Where the debtor actively opposes a creditor's request for leave to sue, the court must look at whether, beyond the fact that the debtor had no meaningful choice but to forego litigation, there is a substantial reason why interposition of the proposed suit would be harmful to the estate." America's Hobby Ctr., 223 B.R. at 283 (citation omitted).
"In order to decide whether the debtor unjustifiably failed to bring suit so as to give the creditors' committee standing to bring an action, the court must also examine, on affidavit and other submission, by evidentiary hearing or otherwise, whether an action asserting such claim(s) is likely to benefit the reorganization estate." STN, 779 F.2d at 905. The court should weigh the "probability of success and financial recovery," as well as the anticipated costs of litigation, as part of a cost/benefit analysis to determine whether the prosecution of claims is likely to benefit the debtor's estate. America's Hobby Ctr., 223 B.R. at 282. The court must assure itself (i) "that there is a sufficient likelihood of success to justify the anticipated delay and expense to the bankruptcy estate that initiation and continuation of litigation will likely produce," Adelphia, 330 B.R. at 374 (quoting STN, 779 F.2d at 905-06)); (ii) that the claims, if proven, will provide a basis for recovery; and (iii) that the proposed litigation will not be a "hopeless fling." Adelphia, 330 B.R. at 386.
The role of the court as gatekeeper is to protect the estate and to ensure that the proposed litigation "reasonably can be expected to be a sensible expenditure of estate resources . . . [that] will not impair reorganization." Id. Courts have denied standing where the proposed litigation would "delay resolution of [the] reorganization proceeding by impeding approval of the pending plan of reorganization." Official Comm. Of Unsecured Creditors of Sunbeam Corp. v. Morgan Stanley & Co. (In re Sunbeam Corp.), 284 B.R. 355, 375 (Bankr.S.D.N.Y.2002) (denying standing to committee after finding that committee failed to demonstrate that prosecution of the actions would be "necessary and beneficial"
The parties cite heavily to Adelphia, in which the court considered motions by the official committee of unsecured creditors and the official committee of equity security holders to prosecute claims on behalf of the debtors' estates. Adelphia, 330 B.R. 364. While the fact that the Adelphia debtors joined the creditors' committee's claims as co-plaintiffs positioned the court's analysis more squarely under Glinka v. Murad (In re Housecraft Industries USA, Inc.), 310 F.2d 64 (2d Cir.2002), in which the Second Circuit articulated the standard under which a bankruptcy court can confer standing upon a committee to sue as a co-plaintiff with the debtor on behalf of the estate, than solely under STN, the court provided extensive discussion of the STN standard, as described herein, which remains instructive. Adelphia, 330 B.R. at 373-386. It bears noting, however, that the facts in Adelphia are otherwise distinguishable from the instant facts. In contrast to the instant case, neither of the committees' standing motions in Adelphia was opposed by any party other than the defendants in the proposed litigation—in fact, the debtors stipulated to prosecuting the alleged claims as co-plaintiffs with the creditors' committee, leading the court to stress that "[t]hose with an interest in maximizing the value of the estate—as contrasted to those with an interest in defeating the claims to be asserted here—do not seem to be troubled by the Committees' proposed use of estate resources for the litigation the Committees wish to prosecute." Id. at 368. In addition to the fact that no non-defendant stakeholders were opposed to the assertion of the proposed claims, the court found that granting the committees standing to pursue the proposed actions, which (i) had the potential for "enormous" potential recoveries at a "relatively modest" cost of prosecution and (ii) set forth claims that will "easily withstand 12(b)(6) motions, and (to the extent the Court needs to consider this) have factual support," was not only consistent with maximizing the value of the estate but "necessary to achieve that goal." Id. at 384, 386.
Here, the Committee argues that the proposed claims set forth in the complaints annexed to the STN Motions "are both meritorious and highly valuable, and actions prosecuting them would unquestionably benefit the Debtors' estates."
In sharp contrast to the Movants' positions on colorability and on the purpose of STN standing in general, the Objectors contend that none of the Committee's putative claims is colorable and that each of the proposed claims would warrant dismissal under Rule 12(b)(6) of the Federal Rules of Civil Procedure. As Debtors' counsel argued during closing arguments, the Committee has failed to satisfy its burden on colorability with respect to any of the claims—the undisputed facts demonstrate that no plausible inferences can be drawn in the Committee's favor, and, in fact, the evidence presented during the ten days of trial on the STN Motions "doesn't support but, in fact, undermines the Committee's proposed claims."
Accordingly, applying the standard set forth in STN and its progeny, the Court finds that in order to grant standing to the Committee to pursue the proposed claims, it must conclude that the Committee has met its burden to demonstrate that each of the claims is colorable, that is, plausible and not facially defective, and which, upon appropriate proof, would support a recovery. While the Court believes that the facts that are determinative here are largely not in dispute, a point made by both the Movants and the Objectors during the Hearing (as defined below), the Court recognizes that it may engage in some review of disputed facts in order to satisfy itself as to whether there exists factual support for the allegations put forth by the Committee. Assuming the Court finds one or more colorable claims has been asserted, its analysis will then shift to the second prong of the STN analysis to determine whether the Debtors unjustifiably refused to bring suit. Conscious of its role as gatekeeper, the Court must weigh the probability of success, the potential financial recovery, and the costs to the estates of the proposed litigation in examining whether the proposed litigation is likely to benefit the estates and will not impair the Debtors' reorganization. The Court's analysis follows.
By agreement of the parties, the trial testimony and legal argument to this point have been focused primarily on the first prong of the STN test—whether the claims the Committee seeks standing to prosecute are in fact colorable claims. Accordingly, this decision shall reflect the Court's ruling on the colorability of the Constructive Fraudulent Transfer Claims and the Bad Acts Claims.
With respect to colorability, the Court finds as follows:
The Court's detailed analysis of the colorability of each category of claims follows. In addition, with respect to the second
Remarkably, despite the widely disparate legal positions of the Movants and the Objectors during fifteen days of trial, there is very little disagreement on the relevant facts. Each of the Constructive Fraudulent Transfer Claims and Bad Acts Claims is alleged to arise out of the Combination.
Prior to the Combination, Legacy Forest was a New York Stock Exchange-listed corporation, with its headquarters in Denver, Colorado; it held substantially all of its assets in that public corporation. At the time of the Combination, Legacy Forest had approximately $905 million of funded debt, consisting of (i) a reserve-based lending facility (the "Legacy Forest RBL") with $105 million outstanding, secured by a first priority lien on, among other things, certain proved oil and gas reserves and (ii) approximately $800 million in unsecured notes: $578 million in 7.25% senior unsecured notes due 2019 (the "Legacy Forest 2019 Notes") and $222 million in 7.5% senior unsecured notes due 2020 (the "Legacy Forest 2020 Notes" and, together with the Legacy Forest 2019 Notes, the "Legacy Forest Notes").
Prior to the Combination, Legacy Sabine Parent was a portfolio company of the private equity firm First Reserve Corporation ("First Reserve"), with its headquarters in Houston, Texas. Legacy Sabine Parent was a holding company; the Legacy Sabine Subsidiaries held the bulk of the enterprise's assets. Legacy Sabine Parent also had extensive debt obligations at the time of the Combination, including (i) a revolving credit agreement which had approximately $620 million outstanding (the "Legacy Sabine RBL"), (ii) $650 million in obligations outstanding under the Second Lien Credit Agreement (which obligations increased to $700 million at the time of the Combination) (the "Second Lien Loan"), and (iii) $350 million outstanding in Legacy Sabine Notes. Because the operating assets
The genesis of the Combination can be traced to a December 2013 meeting between Patrick McDonald, the Chief Executive Officer of Legacy Forest, and John Yearwood, a director of Legacy Sabine Parent, followed by a meeting between Mr. McDonald and David Sambrooks, then the Chief Executive Officer of Legacy Sabine Parent. Talks between Legacy Forest and Legacy Sabine Parent progressed through the spring of 2014, culminating in the announcement of the Combination on May 5, 2014.
On May 5, 2014, Legacy Forest entered into an Agreement and Plan of Merger with Legacy Sabine Parent and certain related entities (the "May Agreement and Plan of Merger"). The May Agreement and Plan of Merger provided for the combination of Legacy Forest and Legacy Sabine Parent through multiple steps, pursuant to which Legacy Forest would survive as a subsidiary of a newly formed holding company. Under this structure, Legacy Sabine Parent shareholders would own approximately 73.5% percent of the post-Combination company, while Legacy Forest shareholders would own approximately 26.5%. Because the corporate steps included a "downstream" merger of Legacy Forest into a subsidiary, New York Business Corporation Law required approval by two-thirds of the outstanding Legacy Forest shareholders entitled to vote. Legacy Forest and Legacy Sabine Parent announced that execution of the May Agreement and Plan of Merger would trigger the change-of-control provisions of the indentures governing the Legacy Forest Notes, and that, upon closing, the combined company would be required to make an offer to holders of the Legacy Forest Notes to redeem their notes at 101% of the outstanding principal amount, plus accrued interest.
Also on May 5, 2014, and in connection with the May Agreement and Plan of Merger, the post-Combination company obtained a commitment (the "May Commitment Letter") from Barclays and Wells Fargo for two loans, with each of Barclays and Wells Fargo committing to funding fifty percent of each loan. The first was the New RBL, with an initial borrowing base of $1 billion, the proceeds of which would be used, in part, to refinance the Legacy Sabine RBL and the Legacy Forest RBL. The second was an unsecured bridge facility in the aggregate principal amount of up to $850 million (the "Bridge Loan"), which was to be used to provide sufficient funds to repurchase the Legacy Forest Notes under the change-of-control offer triggered by the structure of the May Agreement and Plan of Merger. The May Commitment Letter expired by its terms on November 1, 2014.
At Legacy Sabine Parent's request, the May Commitment Letter was amended on May 19, 2014 to permit five additional financial institutions—Capital One N.A., Citibank, N.A., Bank of America N.A., Natixis New York Branch, and UBS AG
In early June 2014, Legacy Forest and Legacy Sabine Parent learned that certain investors had embarked on a "shorting" strategy that could jeopardize the proposed Combination. Specifically, certain investment firms acquired "short" positions with respect to the Legacy Forest Notes. The investment firms had also begun buying Legacy Forest stock in order to vote against the Combination. If the investment firms could defeat the Combination, Legacy Forest would not be required to redeem the Legacy Forest Notes at 101%, benefiting the firms' "short" positions.
In order to defeat the "shorts'" strategy, Legacy Forest and Legacy Sabine Parent restructured the May Agreement and Plan of Merger during the summer of 2014 to remove the initial Legacy Forest merger from the transaction steps so as to avoid the two-thirds shareholder approval threshold required under the May Agreement and Plan of Merger structure. The revised structure would require only majority approval of the Legacy Forest shareholders, which decreased the likelihood that the "shorts" seeking to block the Combination would succeed. On July 9, 2014, Legacy Forest, Legacy Sabine Parent, and related entities entered into an Amended and Restated Agreement and Plan of Merger (the "July Agreement and Plan of Merger"). Under the July Agreement and Plan of Merger, Legacy Sabine Parent would become a subsidiary of Legacy Forest and then would merge into Legacy Forest through a series of steps—meaning Legacy Forest would be the surviving company. The July structure still triggered the change-of-control provisions in the indentures governing the Legacy Forest Notes, requiring the combined company to make a 101% redemption offer to holders of the Legacy Forest Notes.
In connection with the new structure, Wells Fargo, Barclays, and the remaining New RBL Lenders entered into an Amended and Restated Commitment Letter (the "July Commitment Letter") with financing terms similar to the May Commitment Letter, except that the commitment was extended to December 31, 2014 and the commitment fee was raised by 25 basis points.
Following the announcement of the July 2014 combination structure, each of Legacy Forest and Legacy Sabine Parent faced declining operating performance exacerbated by falling hydrocarbon prices. The declining operating performance threatened the prospective combined company's projected ability at closing to comply with the New RBL Debt-EBITDA Covenant. Specifically, Legacy Sabine Parent's financial model projected for the combined company a debt-to-EBITDA ratio of 5.11× for 4Q14 (when the ratio covenant would be 5.0×); 4.71× for 3Q15 (when the ratio covenant would be 4.75×); and 4.51× for 1Q16 (when the ratio covenant would be 4.5×). Mr. Sambrooks and Legacy Sabine Parent were unable to develop a model that projected a ratio level of less than 5.0× for 4Q14,
The New RBL Lenders, who were also committed to funding the Bridge Loan, determined internally that they would offer the combined company relief on the New RBL Debt-EBITDA Covenant in exchange for modifying the terms of the Bridge Loan. Although the May and July combination structures had contemplated that the Bridge Loan would be replaced by a high-yield bond offering and would thus never fund, deterioration in the operating performance of Legacy Sabine Parent and Legacy Forest, combined with deteriorating conditions in the capital markets generally, made selling a high-yield bond offering challenging and thus increased the chances that the New RBL Lenders would in fact have to fund the Bridge Loan.
As of early November 2014, the New RBL Lenders had not formally responded to Mr. Sambrooks' September 12, 2014 request. On November 5, 2014, Joshua Weiner, a First Reserve Managing Director who, along with Mr. Sambrooks, was leading negotiations on behalf of the post-Combination prospective combined company, remarked that "[n]ot getting to a deal [would be] almost mutually assured destruction."
Finally, on November 7, 2014, the New RBL Lenders informed Messrs. Weiner and Sambrooks of their initial proposal. The New RBL Lenders proposed (i) an increase of the New RBL initial borrowing base to $1.1 billion, with the potential for a $150 million committed increase in the borrowing base at future redetermination
However, the New RBL Lenders' proposal was not acceptable to the combined company in part because of concerns that the increased interest rate on the Bridge Loan would exacerbate the combined company's liquidity issues.
At the end of November 2014, negotiations between the prospective combined company and the New RBL Lenders faltered, prompting both Mr. Sambrooks and the New RBL Lenders to consider the prospects for the prospective combined company if it were to close on the financing contemplated by the July Commitment Letter, i.e., no relief on the New RBL Debt-EBITDA Covenant and an $850 million Bridge Loan at an interest rate capped at 9.75%.
Troubled by the specter of this scenario, Mr. Sambrooks called Mr. McDonald on November 30, 2014 and warned that "the financing for the combined companies [was] too expensive and [would] create an insolvency situation at closing" due to the projected breach of the New RBL Debt-EBITDA Covenant at the end of 2014.
Well into early December 2014, the dynamics of the negotiations between the prospective combined company and the New RBL Lenders remained the same: the prospective combined company continued to seek relief on the New RBL Debt-EBITDA Covenant while preserving liquidity and the New RBL Lenders continued to seek better terms or reduction in exposure on the Bridge Loan in exchange for such relief. All parties recognized that leaving the Legacy Forest Notes in place, rather than replacing them with more expensive Bridge Loan financing, would both (i) directly increase the prospective combined company's liquidity and capacity to service debt by freeing up cash that would otherwise be committed to interest payments on the Bridge Loan and (ii) simultaneously reduce the New RBL Lenders' exposure, thereby making the New RBL Lenders more likely to grant covenant relief. Accordingly, the parties began to explore combination structures that would not trigger the change-of-control provisions of the Legacy Forest Notes, thus obviating the need to obtain the Bridge Loan to fund a repurchase of such Legacy Forest Notes. For example, on November 30, 2014, during his call with Mr. McDonald, Mr. Sambrooks listed as an option "[w]ork around the Change in Control provision of Forest bonds," and "[e]xchange only partial interests so as not to trigger Change in Control."
Similarly, on December 4, 2014, Mr. Scotto of Wells Fargo asked Mr. Weiner whether First Reserve had considered assigning some of its equity interests to a third-party, which would avoid a change-of-control and, consequently, avoid the need for the Bridge Loan to fund the payment of the Legacy Forest Notes. First Reserve rejected this proposal.
Ultimately, the final structure of the Combination originated in a December 3, 2014 conversation between Legacy Forest board member Dod Fraser and Legacy Forest's legal counsel, Mark Gordon of Wachtell, Lipton, Rosen & Katz ("Wachtell"). Over the course of their conversation, Mr. Fraser and Mr. Gordon developed a combination structure that they believed would avoid the change-of-control provisions of the Legacy Forest Notes by giving Legacy Forest shareholders 60% of the common voting power of the prospective combined company, subject to control rights held by First Reserve.
During that December 9 conference call, the boards of Legacy Forest and Legacy Sabine Parent agreed to pursue Mr. Fraser's alternative structure. On December 10, 2014, Mr. Sambrooks sent a term sheet to Mr. McDonald reflecting Mr. Fraser's alternative structure and urged Mr. McDonald to provide comments as soon as possible so that he could "bring our banks over the wall."
The next day, the boards of Legacy Forest and Legacy Sabine Parent agreed to modify the final structure for the Combination in accordance with Mr. Fraser's proposal. On December 11, 2014, Legacy Sabine Parent sent the New RBL Lenders a term sheet reflecting Mr. Fraser's proposed structure but did not commit to the prospective combined company closing under the revised structure. Instead, Legacy Sabine Parent asked the New RBL Lenders to both (i) provide financing terms based on the revised structure and (ii) continue negotiating modifications to the financing reflected in the July Commitment Letter, based on a structure that would include the Bridge Loan. The New RBL Lenders did as requested and negotiated on dual tracks. By the night of December 15, 2014, the New RBL Lenders had received internal credit approval to finance the structure based on Mr. Fraser's proposal but did not yet know if the legacy companies would choose to close based on Mr. Fraser's structure (without the Bridge Loan) or based on the July 2014 structure (with the Bridge Loan).
On December 16, 2014, the two legacy companies elected to close under Mr. Fraser's proposed structure, thereby avoiding the change-of-control provisions of the Legacy Forest Notes and obviating the need to obtain the Bridge Loan to redeem the Legacy Forest Notes. Under this structure, the New RBL Lenders agreed to grant relief on the New RBL Debt-EBITDA Covenant and to delay a likely downward redetermination of the borrowing base from thirty days post-closing (i.e., January 15, 2015) to April 1, 2015, ensuring that the prospective combined company would enjoy the liquidity benefits of an increased borrowing base for an additional two and a half months. In accordance with these revised (and subsequently finalized) terms, the Combination proceeded in three steps: a share exchange, a merger, and a debt financing, as described below.
First, as authorized by their respective boards, Legacy Forest issued shares to Legacy Sabine Parent shareholders in exchange for the shares of Legacy Sabine Parent (the "Share Exchange"). The Share Exchange occurred at or around 12:40 p.m. EST on December 16, 2014. At the conclusion of the Share Exchange, Legacy Sabine Parent and, in turn, the Legacy Sabine Subsidiaries, were indirect subsidiaries of Legacy Forest.
The second step of the Combination was the merger of Legacy Sabine Parent into Legacy Forest (the "Merger"). The Merger, along with the Share Exchange, was contemplated by the documents that the Legacy Forest and Legacy Sabine Parent directors had executed on the morning of December 16, 2014. Following the Share Exchange, all but two of the Legacy Forest directors resigned and were replaced by the 3:30 Board. Notwithstanding the replacement of the Legacy Forest board with the 3:30 Board, no further board action was required to effectuate the Merger; the Merger would become effective upon each of the New York
The third step of the Combination was the refinancing of the debt of Legacy Forest, which had by this point subsumed Legacy Sabine Parent. In accordance with the resolutions passed by the 3:30 Board, Legacy Forest, now the Combined Company, took the following steps (the "Debt Financing"):
Following the completion of the Debt Financing, the Combination was complete.
On December 18, 2014, the Combined Company paid down approximately $206 million
On May 15, 2015, the Combined Company's board of directors approved the formation of a special committee (the "Independent Directors' Committee") to conduct an investigation of any potential claims and causes of action related to the Combination that the Debtors may possess against creditors and others. The Independent Directors' Committee is comprised of two independent directors, Thomas Chewning and Jonathan Foster, neither of whom was involved in the Combination or had involvement with Legacy Sabine Parent or Legacy Forest at the time of the Combination. On June 10, 2015, the Combined Company's board of directors approved an expansion of the Independent Directors' Committee's authority to decide which claims related to the Combination, if any,
Professor Williams produced an extensive report, dated October 26, 2015, analyzing potential constructive fraudulent transfer claims (the "Williams Report").
Thereafter, on November 2, November 11, and November 14, 2015, the Independent Directors' Committee received demand
On July 15, 2015 (the "Petition Date"), each of the Debtors filed a voluntary petition for relief under chapter 11 of the Bankruptcy Code. Shortly after its appointment, the Committee began its own investigation of the Constructive Fraudulent Transfer Claims and the Bad Acts Claims in parallel with the ongoing work of the Debtors' Independent Directors' Committee. Following initial discovery, and at the urging of the Court, the Committee and the Debtors entered into a coordinated discovery protocol stipulation that was so-ordered by the Court in September 2015 [ECF No. 357] (the "Discovery Protocol").
The hearing on the STN Motions (the "Hearing") took place over the course of fifteen days, commencing on February 8, 2016 and with closing arguments concluding on March 17, 2016. It included nine days of live witness testimony from seven witnesses, over 400 exhibits submitted to the Court, five days of closing arguments, and closing argument demonstratives comprised of hundreds of slides.
The Court heard live testimony from the following seven witnesses: (i) Mr. Jonathan Foster, a member of the Independent Directors' Committee of the Combined Company's board of directors; (ii) Mr. David J. Sambrooks, the Chief Executive Officer of the Combined Company, the former Chief Executive Officer of Legacy Sabine, and a member of the Combined Company's board of directors; (iii) Mr. Thomas Chewning, a member of the Independent Directors' Committee of the Combined Company's board of directors; (iv) Mr. Joshua Weiner, a Managing Director at First Reserve; (v) Mr. Steven M. Zelin,
The Court also viewed videotaped deposition testimony of the following five witnesses: (i) Mr. Dod A. Fraser, a member of the board of directors of Legacy Forest; (ii) Mr. Patrick R. McDonald, the Chief Executive Officer of Legacy Forest; (iii) Mr. Victor Wind, the former Chief Financial Officer of Legacy Forest; (iv) Mr. Kevin Scotto, an employee of Wells Fargo; and (v) Mr. Laurence Whittemore, an employee of JPMorgan Securities LLC, financial advisor to Legacy Forest.
The parties also submitted deposition designations and counter-designations of the deposition testimony of the following additional witnesses: (i) Mr. Loren K. Carroll, a member of the board of directors of Legacy Forest; (ii) Mr. Richard J. Carty, a member of the board of directors of Legacy Forest; (iii) Mr. James H. Lee, a member of the board of directors of Legacy Forest; (iv) Mr. James D. Lightner, Chairman of the board of directors of Legacy Forest; (v) Mr. Raymond I. Wilcox, a member of the board of directors of Legacy Forest; (vi) Mr. Duane C. Radtke, Chairman of the Board of Legacy Sabine Parent; (vii) Mr. John Yearwood, a member of the board of directors of Legacy Sabine Parent; (viii) Mr. Michael G. France, a member of the board of directors of Legacy Sabine Parent and a Managing Director of First Reserve; (ix) Mr. Alex T. Krueger, a member of the board of directors of Legacy Sabine Parent and Co-Chief Executive Officer and President of First Reserve; and (x) Mr. Brooks M. Shughart, a member of the board of directors of Legacy Sabine Parent and a Director of First Reserve.
Witness testimony was particularly focused on the following issues: (i) the negotiation and decision-making process of the boards of directors and management teams of Legacy Sabine Parent and Legacy Forest with respect to the terms of the Combination between May 2014 and December 2014; (ii) the Debtors' investigation of potential claims and causes of action that the Debtors or certain of their stakeholders may possess related to the Combination; and (iii) the Independent Directors' Committee's conclusions as to the colorability of those potential claims and causes of action.
Mr. Foster, one of the two members of the Independent Directors' Committee, gave extensive testimony regarding the process and analysis of potential claims and causes of action undertaken by the Independent Directors' Committee. Mr. Foster joined the board of directors of the Combined Company on May 15, 2015 and was appointed to the Independent Directors' Committee, along with Mr. Thomas Chewning, on the same day. Mr. Foster described the scope of the authorization given to the Independent Directors' Committee to determine what claims, if any, the Company should pursue. He testified about the Independent Directors' Committee's authorizing Kirkland to prepare a complaint asserting a constructive fraudulent transfer claim seeking to avoid the liens associated with the Second Lien Loan's deficiency at the time of the Combination, and the Independent Directors' Committee's direction
While Mr. Foster was questioned extensively on the timing and the scope of third-party discovery conducted by the Independent Directors' Committee with respect to potential causes of action, which discovery did not begin until the Independent Directors' Committee had reviewed all of the Debtors' documents, Mr. Foster offered a credible explanation for the Independent Directors' Committee's approach to third-party document discovery and review. He testified that the Independent Directors' Committee understood that fraudulent transfer claims were "at the top of the list" of potential claims that creditors would likely want to pursue and that such claims are primarily economic-based and were more of an "analytical exercise" than other potential claims being considered by the Independent Directors' Committee.
In addition to testifying in detail regarding the Independent Directors' Committee's process with respect to its analysis of potential claims, Mr. Foster also explained the Independent Directors' Committee analysis and assessment of each of the potential claims identified by the Committee and his understanding of the possible remedies available. Mr. Foster's testimony revealed a competent grasp of the multiple and complicated potential claims at issue.
Mr. Sambrooks is the former Chief Executive Officer and a director on the board of Legacy Sabine Parent, was a member of the 3:30 Board, and is the current Chief Executive Officer of the Combined Company. At the Hearing, he testified thoughtfully and credibly to the process and considerations of the Legacy Sabine board and management team with respect to the Combination and the issues leading up to it in December 2014. Mr. Sambrooks explained that although he initially thought a merger of Legacy Sabine Parent and Legacy Forest was a good fit, as of December 1, 2014, he had reached the conclusion that Legacy Sabine Parent should not enter into the Combination. Mr. Sambrooks described the reasons he requested covenant relief from Legacy Sabine's lenders prior to the Combination, and why he thought it was important to seek to renegotiate the financing arrangements with the lenders.
Mr. Sambrooks testified that the revised structure under which the transaction closed was first discussed on a phone call between Legacy Forest and Legacy Sabine Parent management and board members with no lenders participating, and that the proposal originated with Legacy Forest. The new proposal — which eliminated the need for the Bridge Loan — addressed his concerns with the proposed transaction and so he supported the Combination under those terms. Nevertheless, Mr. Sambrooks testified that Legacy Sabine Parent requested that its lenders work on parallel tracks — toward being in a position to consummate the original financing structure and the revised structure. Ultimately, the final decision as to the financing terms was made by the boards of
Mr. Sambrooks testified that he attended the meeting of the 3:30 Board and that, as of that meeting, he viewed the Merger as completed; he was unaware that there was any opportunity to stop it without facing litigation. He further testified that he viewed the Debt Financing as a necessary and integrated step of the Combination to ensure the Combined Company would have liquidity to operate. He emphasized that he believed closing the Combination was the best alternative available to Legacy Sabine Parent at the time.
Mr. Sambrooks also testified that, from his perspective, Legacy Sabine Parent and the Legacy Sabine Subsidiaries operated as a single common enterprise prior and subsequent to the Combination.
Mr. Chewning, a member of the board of the Combined Company as well as the second member of the Independent Directors' Committee along with Mr. Foster, also testified as to the process and analysis of potential claims and causes of action undertaken by the Independent Directors' Committee. Mr. Chewning described his vast experience in corporate finance, corporate governance, and the oil and gas industry. He explained the process of selecting Mr. Foster to join him as a member of the Independent Directors' Committee and specifically testified that he chose Mr. Foster from the list of candidates provided to him based on Mr. Foster's background.
Mr. Chewning understood the Independent Directors' Committee members to have an "open mandate" to investigate the elements of the Combination for potential causes of action,
Mr. Chewning explained how he was personally and actively involved in all aspects of the Independent Directors' Committee's investigation process, and he provided a credible explanation for why the Independent Directors' Committee commenced its investigation with fraudulent conveyances and why it reached the conclusions that it did. Mr. Chewning's testimony provided strong support for the good faith of the Independent Directors' Committee in analyzing and assessing potential causes of action.
Mr. Weiner is a Managing Director of First Reserve. He focuses on capital markets
Mr. Weiner further testified that, at all times, he undertook negotiations in the interests of the Combined Company, not in the interests of First Reserve or any other insider of Legacy Sabine Parent. Mr. Weiner also credibly testified that his role was to assist in the negotiation of the financing, and he did not try to and did not control Legacy Sabine Parent's board or management team. He explained that, during the negotiations, he sought to be actively involved to prevent the lenders from attempting to manipulate management for the lenders' own benefit and to ensure that the Combined Company maintained a good working relationship with its lenders as providers of liquidity going forward. He credibly testified that First Reserve's business relationship with the New RBL Lenders was a secondary concern to the ability of the Combined Company to continue to access capital, and that he was doing what he believed was best for Legacy Sabine Parent to obtain the best financing package possible. Mr. Weiner was a forthright and credible witness.
Mr. Zelin is a Managing Director of PJT Partners LP, the financial advisor to the Committee. Mr. Zelin, who has decades of experience in major chapter 11 bankruptcies and out of court restructurings, was called to testify regarding his conclusions with respect to potential recoveries available from pursuit of the Committee's proposed claims, as reflected more fully in his expert report (the "Zelin Report"). Mr. Zelin testified that he was given a series of assumptions from counsel to the Committee with respect to a number of "inputs,"
Mr. Zelin further testified to the methodology he utilized to calculate potential recoveries on the Bad Acts Claims in the amount of $1.17 to $1.19 billion;
While it is clear that Mr. Zelin faithfully applied the assumptions underlying his analysis and calculations, it was also readily apparent that he had been asked to use certain methodologies and assumptions that he had never used in other cases, nor had he ever seen them used by others. Criticisms of Mr. Zelin's conclusions and report go not to his credibility and expertise but rather to the assumptions that he was asked to apply and model.
After serving as an advisor to the Combined Company beginning in March 2015, Mr. Mitchell became the Chief Restructuring Officer of the Debtors on July 15, 2015. At the Hearing, Mr. Mitchell testified to his prior experience as a CRO or interim CEO for a number of other companies and to his prior work in the energy sector. Mr. Mitchell described the Debtors' ongoing business activities and financial condition. He detailed his considerations in evaluating potential claims that the Debtors could assert, including (i) the Independent Directors' Committee's views as to the colorability of and potential recoveries on such claims and (ii) the size of the New RBL Lenders' adequate protection claim. To determine the size of the adequate protection claim, Mr. Mitchell utilized the value of the subject collateral as of the Petition Date and then relied on recent valuation work performed by the Debtors' financial advisor, Lazard Freres, to obtain a resulting adequate protection claim of approximately $480 million. Mr. Mitchell noted his disagreement with the methodology employed by the Committee's expert, Mr. Zelin, for calculating the New RBL Lenders' adequate protection claim.
Professor Williams, formerly of Mesirow Financial Consulting LLC and now of Baker Tilly, was retained by the Independent Directors' Committee to provide analysis and expertise as to potential constructive fraudulent transfer claims arising out of the Combination. Professor Williams was called to testify as an expert and fact witness as to the opinions set forth in the Williams Report, and as an expert witness to rebut the testimony of the Committee's expert, Mr. Zelin.
Professor Williams' testimony was consistent with the opinions reflected in the Williams Report. As described more fully hereinafter, Professor Williams testified to the numerous bases for his conclusion that Legacy Sabine Parent and the Legacy Sabine Subsidiaries functioned as a common enterprise from an economic perspective prior to the Combination, including the use of a centralized financing and cash management system. Professor Williams explained his conclusion that each of Legacy Forest, Legacy Sabine Parent, and the Legacy Sabine Subsidiaries was insolvent on the date of the Combination. Professor Williams walked through his methodology for determining what he described as the transfer of value to certain creditor constituencies as a result of the Combination. He explained that he assessed the impact of the Combination from a creditor perspective because while the constructive fraudulent transfer analysis focuses on what the Debtors received, he considers the creditors to be the component parts of the Debtors' estates for the purpose of a fraudulent transfer analysis because the law is designed to protect unsecured creditors. He explained that he views the Combination as an integrated economic event that included the Merger and the Debt Financing. When asked how he determined whether a creditor group received "reasonably equivalent value," Professor Williams testified that he assessed whether the value transferred and value received was "economically equivalent."
Most importantly, upon questioning by Debtors' counsel, Professor Williams provided persuasive testimony rebutting the methodology and conclusions of Mr. Zelin. Professor Williams explained his belief that Mr. Zelin's calculations relied on a "double-counting" of the New RBL obligation
The Court now turns to its analysis of each of the Constructive Fraudulent Transfer Claims to determine if any of these claims is colorable. Under applicable statutory and case law, including sections 544 and 548 of the Bankruptcy Code, a constructive fraudulent transfer generally occurs when (i) the debtor receives less than reasonably equivalent value in exchange for the property transferred or obligation incurred and (ii) the transfer of property or incurrence of debt occurs when the debtor is insolvent. See Orr v. Kinderhill Corp., 991 F.2d 31, 35-36 (2d Cir.1993).
Each of the Constructive Fraudulent Transfer Claims the Committee proposes to assert on behalf of Legacy Forest and the Legacy Sabine Subsidiaries arises from transfers made or obligations incurred in connection with the Combination. The Movants and the Objectors agree on the basic facts of the Combination; additionally, there is no dispute that Legacy Forest and the Legacy Sabine Subsidiaries were balance sheet insolvent at the time of the Combination. The Movants and the Objectors alike cite to Second Circuit precedent in Orr and HBE Leasing Corp. v. Frank, 48 F.3d 623 (2d Cir.1995), which directs the Court to consider, for purposes of fraudulent transfer analysis, multiple transactions that occur pursuant to an integrated plan as a whole — the so-called "collapsing doctrine." Nonetheless, the parties have a fundamental threshold dispute as to exactly how the Court should analyze the various transfers and incurrences incident to the Combination for purposes of fraudulent transfer law, and specifically how and when the Court should apply the collapsing doctrine. This threshold dispute largely drives the parties' disagreement on whether the Constructive Fraudulent Transfer Claims, which the Committee values at more than $1 billion in the aggregate, assuming complete success on such claims, are colorable.
The theory of the Committee's Constructive Fraudulent Transfer Claims as to Legacy Forest involves two steps and is dependent on the Court adopting a segmented view of the Combination. The Committee's theory has been referred to from time to time in this proceeding as a "freeze frame" or "snapshot" approach. First, the Committee argues that the result of the Merger was that Legacy Forest (i) incurred a total of $1.26 billion in obligations
Next, the Committee asserts that the collapsing doctrine referred to in Orr v. Kinderhill Corp., 991 F.2d 31 (2d Cir. 1993), and HBE Leasing Corp. v. Frank, 48 F.3d 623, 635 (2d Cir.1995), should apply to Legacy Forest's incurrence of portions of the New RBL, resulting in a fraudulent transfer claim here as well. Specifically, the Committee contends that the Court should collapse Legacy Forest's (i) incurrence of the New RBL and (ii) use of $620 million of the New RBL proceeds to pay off the Legacy Sabine RBL because "[t]here is no question that the paydown of the Legacy Sabine RBL was to be, and could only have been, accomplished through the [New RBL]."
The proposed Constructive Fraudulent Transfer Claims seek a number of remedies as recompense to the creditors of the Legacy Forest estate for the allegedly fraudulent transfers described above, including (i) avoidance of liens granted to secure the allegedly avoidable obligations, including liens on the equity interests of the Legacy Sabine Subsidiaries; (ii) recovery of the diminution in value of such avoidable liens since the Combination; (iii) recovery of the December 18, 2014 $206 million paydown of the New RBL, and prejudgment interest on the same; and (iv) recovery of fees paid in connection with the Combination, and prejudgment interest on the same. The Committee's financial expert, Mr. Zelin, estimates that complete success on these Constructive
During his testimony, Mr. Zelin conceded that if the Court finds that the New RBL is not an avoidable obligation at Legacy Forest, the vast majority, if not all, of the above amounts would not be recoverable.
Accordingly, recovery of these amounts is dependent upon the Court adopting a segmented view of the Combination and finding that (i) Legacy Forest did not receive reasonably equivalent value in the Merger, rendering the Legacy Sabine RBL an avoidable obligation, which conclusion indeed requires adopting a "freeze-frame" analysis, and (ii) the incurrence of the New RBL and the paydown of the "avoidable" Legacy Sabine RBL are collapsed into a single transaction such that the New RBL, save for $182 million used to pay down the valid Legacy Forest RBL obligations, is itself an avoidable obligation.
Each of the Objectors contends that the Constructive Fraudulent Transfer Claims that the Committee argues can be asserted by Legacy Forest are not colorable. The Debtors and the New RBL Lenders argue persuasively that the Committee's argument rests on a false premise, namely that Legacy Forest's incurrence of the Legacy Sabine RBL in the Merger can be analyzed separate and apart from the entire Combination for purposes of fraudulent transfer law. The New RBL Lenders, citing to Liquidation Trust of Hechinger Inv. Co. v. Fleet Retail Fin. Grp. (In re Hechinger Inv. Co. of Del.), 327 B.R. 537 (D.Del.2005), assert that the entirety of the Combination, i.e., the Share Exchange, Merger, and Debt Financing, should be viewed as a single transaction.
The Committee's constructive fraudulent transfer theory requires the Court to apply the collapsing doctrine to find that (a) the Merger is not collapsible into a single transaction with the Share Exchange and the Debt Financing and therefore Legacy Forest's incurrence of the Legacy Sabine RBL is a fraudulent transfer and (b) Legacy Forest's incurrence of $620 million of the New RBL and the paydown of the $620 million Legacy Sabine RBL are collapsible into a single transaction. The Committee contends that this selective application of the collapsing doctrine is appropriate because, in its view, the application of the collapsing doctrine is limited to consideration of whether a transfer was made or an obligation incurred for reasonably equivalent value. In other words, the Committee's view of the collapsing doctrine is that (i) the Court can analyze any one transfer related to the Combination, including Legacy Forest's incurrence of Legacy Sabine Parent's debt through the Merger, in isolation from other possibly related transfers and (ii) the Court may collapse value received or value given in related transactions for purposes of determining whether the transferee received reasonably equivalent value in connection with a transfer.
The Court declines to adopt the Committee's view of the collapsing doctrine. While the collapsing doctrine seems to be employed most often in the context of assessing reasonably equivalent value, counsel for the Committee, when questioned by the Court, was unable to point to any case limiting its application to that context. Further, the Committee's theory is at odds with the Second Circuit's articulation of the collapsing doctrine. In Orr v. Kinderhill Corp., the Second Circuit held "[w]here a transfer is only a step in a general plan, the plan must be viewed as a whole with all its composite implications."
In determining whether to treat a transfer as part of a general plan, courts in this District and elsewhere have focused on the knowledge and intent of the parties.
Applying these factors here, it is clear that the Merger, along with the Share Exchange and the Debt Financing, must be treated as parts of a general plan, and that the Combination must be analyzed as a whole for purposes of fraudulent transfer law. First, as the Committee itself alleges, the parties negotiated with full knowledge that the Combination would occur as a share exchange and merger of the two companies and a simultaneous refinancing; the Committee's view of the facts was confirmed by each of the testifying witnesses who were involved with the structuring and negotiation of the Combination and no contradictory evidence was introduced at the Hearing. Indeed, the facts as alleged by the Committee clearly demonstrate that the M & A structure and consideration were negotiated contemporaneously with the financing and that negotiations on one piece of the Combination informed and influenced negotiations on the other pieces of the Combination. For example, the parties' concerns that, amid declining hydrocarbon prices, the post-Combination company would close into a breach of the New RBL Debt-EBITDA Covenant drove both renegotiation of the May 2014 and July 2014 financing terms and a reconsideration of the post-Combination capital structure that directly led to the final Combination structure and terms implemented at closing in December 2014.
The facts alleged by the Committee further demonstrate that each step of the Combination was dependent upon and contingent on each other step and could not have happened on its own. The Debt Financing was always dependent upon and contingent on Legacy Forest and Legacy Sabine Parent becoming the "Combined Company" referenced in the resolutions of the 3:30 Board approving the Debt Financing.
Accordingly, the Court finds that the Combination must be viewed as a whole for purposes of fraudulent transfer law. This conclusion is further buttressed by the Williams Report, which regards the Combination as an integrated event from an economic perspective.
Having concluded that the Combination must be evaluated as a whole, the Court next turns to the question of whether the Committee has stated colorable constructive fraudulent transfer claims on behalf of Legacy Forest. It has not. As already discussed, the Committee's claims are premised on the notion that the Court will apply a selective collapsing analysis and (i) view the Merger in a "freeze frame," as an occurrence separate from the Combination as a whole, to find fraudulent incurrences of Legacy Sabine debt by the Legacy Forest estate, and (ii) collapse the incurrence of the New RBL and the use of the New RBL proceeds to pay off the allegedly avoidable Legacy Sabine RBL, rendering $620 million of the New RBL proceeds a fraudulent incurrence of debt. Such a selective collapsing approach is inconsistent with the law in this Circuit and elsewhere, which directs the Court to consider as a whole all transaction steps that are part of an integrated plan. Without application of the Committee's selective collapsing approach, the Constructive
The Court concurs with the observations of the New RBL Lenders that the case most analogous to the instant case is Hechinger,
It has been suggested, however, that it defies common sense to conclude that the Movants have alleged no colorable claim to right the wrongs to Legacy Forest unsecured creditors, particularly given that Professor Williams himself identified, in the words of counsel to the Legacy Sabine Notes Trustee, an "acknowledged harm" flowing from the Combination.
Unlike the Constructive Fraudulent Transfer Claims the Committee seeks to assert on behalf of the Legacy Forest estate, the Constructive Fraudulent Transfer Claims to be asserted on behalf of the Legacy Sabine Subsidiaries' estates do not require the Court to view any step of the Combination apart from the whole. As described in the First Committee STN Motion, the Constructive Fraudulent Transfer Claims that the Committee seeks to pursue on behalf of the Legacy Sabine Subsidiaries' estates are relatively straightforward: the avoidance of the "upstream" guarantees and, as applicable, related liens granted by the Legacy Sabine Subsidiaries, in connection with (i) the New RBL in amounts greater than the Legacy Sabine RBL at the time of the Combination and (ii) the incremental $50 million obligation incurred under the Second Lien Loan in connection with the Combination.
The Committee's expert, Mr. Zelin, did not perform a separate valuation of the Constructive Fraudulent Transfer Claims to be asserted on behalf of the Legacy Sabine Subsidiaries. Instead, he assumed complete success on each and every Constructive Fraudulent Transfer Claim proposed to be asserted by the Committee (i.e., those to be asserted on behalf of Legacy Forest and on behalf of the Legacy Sabine Subsidiaries), and he allocated the recoveries from such claims between Legacy Forest and the Legacy Sabine Subsidiaries using additional assumptions. Applying these assumptions, Mr. Zelin estimated that complete success on the Constructive Fraudulent Transfer Claims would result in an additional $265 million of value available to unsecured creditors of the Legacy Sabine Subsidiaries, as follows:
As discussed in further detail below, the assumptions supplied by Committee counsel to Mr. Zelin are deeply flawed. They do not take into account the possibility that some of the assumed recoveries allocated to Legacy Sabine Subsidiaries are based on payments actually made by Legacy Forest, not by the Legacy Sabine Subsidiaries.
The bottom line is that the only remedy potentially available to the Legacy Sabine Subsidiaries if their Constructive Fraudulent Transfer Claims are successful would be the avoidance of liens actually granted to secure the incremental borrowings on the New RBL and the Second Lien Loan. The maximum value of these claims is $68 million, reflecting Mr. Zelin's assumptions as to the value of the assets pledged to secure the incremental borrowings. Further, and as described hereinafter, the Zelin
The Objectors concede that the Legacy Sabine Subsidiaries were insolvent when they granted the upstream guarantees. However, they advance three theories as to why the Legacy Sabine Subsidiaries received reasonably equivalent value for the upstream guarantees. None of the Objectors' theories is dispositive of the issue of colorability, however. First, the Debtors, supported by the Williams Report, argue that the Legacy Sabine Subsidiaries received reasonably equivalent value because Legacy Sabine unsecured creditors' recoveries increased from 30.7% prior to the Combination to 36.7% following the Combination.
Second, the New RBL Lenders argue that the Legacy Sabine Subsidiaries received reasonably equivalent value for the upstream guarantees in the form of contingent contribution and subrogation rights. The New RBL Lenders contend that such rights constitute reasonably equivalent value as a matter of law "[b]ecause there was more collateral than obligations outstanding under the [RBL], any Debtor subsidiary guarantor had the right to recover an amount from any other co-obligor that would be greater than the amount for which it could be liable."
Third, the Debtors and the New RBL Lenders argue that the Legacy Sabine Subsidiaries could not function independently and therefore the reasonably equivalent value analysis must include the benefits the Legacy Sabine Subsidiaries received as members of a single enterprise, including the benefits of increased liquidity and access to additional borrowings. The Debtors, joined by the New RBL Lenders, argue that, because the Legacy Sabine Subsidiaries are members of a single enterprise, they shared dollar for dollar in any value or benefits received by Legacy Sabine Parent before the Combination and Legacy Forest/the Combined Company following the Combination. The Debtors and the New RBL Lenders further contend that, because Legacy Forest received reasonably equivalent value in the Combination, the Court should find that such reasonably equivalent value was also received by the Legacy Sabine Subsidiaries as members of a single enterprise, without the need to perform a specific reasonably equivalent value analysis with respect to the amount of indirect benefits received by the Legacy Sabine Subsidiaries.
The record developed at the Hearing, including the undisputed facts that the Legacy Sabine Subsidiaries do not have employees or enter into contracts, among others, strongly indicates that the Legacy Sabine Subsidiaries and Legacy Sabine Parent, and post-Combination, the Legacy Sabine Subsidiaries and Legacy Forest, functioned as a single enterprise.
In support of their argument, the Debtors and New RBL Lenders rely principally on Tronox Inc. v. Kerr McGee Corp. (In re Tronox Inc.), 503 B.R. 239 (Bankr. S.D.N.Y.2013), and PSN Liquidating Trust v. Intelsat Corp. (In re PSN USA, Inc.), 2011 WL 4031147 (Bankr.S.D.Fla. Sept. 9, 2011). Neither case stands for the proposition asserted. In Tronox, Judge Gropper considered an alleged intentional fraudulent transfer in which a conglomerate spun off its oil and gas business, leaving behind its chemical business and the substantial liabilities associated with such business, through (i) a series of integrated transfers of the assets of the oil and gas entity into a new enterprise and transfers of the assets comprising the chemical business and cash into three separate Tronox entities and (ii) an IPO of such Tronox entities. Each of the Tronox entities sued to avoid the transfers and the IPO as an intentional fraudulent conveyance aimed at allowing the conglomerate to shed its legacy liabilities associated with the chemical business. One of the Tronox entities, Tronox LLC, received property that the parties in the case agreed was worth more than the property it had transferred out,
In PSN, the debtor, which operated a television network, made market rate payments for satellite services necessary to operate such network pursuant to a contract entered into by its parent company. The liquidating trust of the debtor's estate argued that such payments constituted constructive fraudulent transfers because, pursuant to the contract at issue, the satellite services were "owned" by the parent company and thus provided no value to the debtor. The Court held that, because the debtor actually used the satellite services, it received reasonably equivalent value in exchange for its payments on the contract. PSN, 2011 WL 4031147 at *4. In addition, and in response to the liquidating trust's argument that only the debtor's parent benefitted from the satellite services contract because the debtor did not "own" the contract, the court held that "the relationship between the Debtor and [parent] was that of a single enterprise. Accordingly, even if the Court were to conclude that [parent] received the benefit of the satellite services, the Debtor indirectly benefitted as well. These indirect benefits to the Debtor constitute reasonably equivalent value and shield the Transfers from avoidance." Id. at *6. While Tronox and PSN are instances in which courts did not need to consider reasonably equivalent value on an estate-by-estate basis within a single enterprise, it is the specific facts of those cases, not the findings that the estates operated as members of a single enterprise, which obviated the need for an estate-by-estate analysis.
In re Jesup & Lamont, Inc., 507 B.R. 452, 471-72 (Bankr.S.D.N.Y.2014), which Judge Gropper decided subsequent to Tronox and involved facts somewhat more analogous to the facts here, is particularly instructive. In that case, a wholly-owned subsidiary, JLSC, pledged funds to secure a loan obligation incurred by its parent company, JLI, and such pledge was challenged as a fraudulent transfer. Judge Gropper held that there was a triable issue of fact as to whether JLSC, the subsidiary, had received benefits from the loan sufficient to constitute reasonably equivalent value for the pledge of its assets to secure such loan. See id. at 472.
The Committee asserts in its reply brief that the question of whether indirect benefits, whether received by entities as members of a single enterprise or otherwise, can constitute reasonably equivalent value for a guarantee is a question of fact that cannot be determined at this stage of the proceedings.
Accordingly, the Constructive Fraudulent Transfer Claims the Committee seeks to assert on behalf of the Legacy Sabine Subsidiaries clear the hurdle of colorability. It is undisputed that the Legacy Sabine Subsidiaries, while insolvent, guaranteed an additional $980 million in debt in connection with the Combination. Further development of the factual record would be required for the Court to determine whether the Legacy Sabine Subsidiaries received reasonably equivalent value in exchange for such guarantees and the liens that were granted to secure them. However, for the reasons discussed below, it does not appear that asserting such claims (which, as discussed below, would be worth $68 million in value at most) would be in the best interests of the estates.
As described above, the Bad Acts Claims consist of claims for (i) intentional fraudulent transfers related to the Combination; (ii) breaches of fiduciary duty against (a) the Legacy Forest Directors and Officers, (b) the Legacy Sabine board of directors, (c) Mr. David J. Sambrooks, as fiduciary for the Legacy Sabine Subsidiaries, and (d) the 3:30 Board; (iii) aiding and abetting breaches of fiduciary duty against the New RBL Lenders, the Legacy Forest Directors and Officers, the Second Lien Lenders, and the First Reserve Defendants; (iv) equitable subordination of the claims of the New RBL Lenders and the Second Lien Lenders; and (v) recharacterization as equity of the $50 million borrowed from the Second Lien Lenders by the Combined Company in connection with the Combination.
Each of the Committee's proposed Bad Acts Claims arises from allegations concerning the conduct of various parties during the negotiation and execution of the Combination. The Committee's assertion that such claims are colorable is animated by the Committee's narrative of the Combination, stated succinctly in the Second Committee STN Motion as follows:
More specifically, the Committee asserts that First Reserve and the New RBL Lenders, notably Wells Fargo and Barclays, re-engineered the Combination in December 2014 to shift losses to unsecured creditors that the New RBL Lenders would have suffered from closing on the Bridge Loan, thereby allowing First Reserve to delay recognizing a loss on its investment in Legacy Sabine Parent and to preserve First Reserve's institutional relationship with the New RBL Lenders.
First, the parties agree that the final structure and steps of the Combination were first presented by Legacy Forest board member Dod Fraser on December 9, 2014.
Further, although structures similar to the final structure and steps of the Combination (i.e., structures in which the New RBL Lenders did not fund the Bridge Loan and the Legacy Forest Notes remained in place) were discussed prior to December 9, 2014,
Second, there is no reasonable basis for the Committee's allegations that the New RBL Lenders and First Reserve were conspiratorially working together to protect the New RBL Lenders' interests at the expense of Legacy Forest and Legacy Sabine unsecured creditors. The Committee attempts to substantiate its allegations by pointing to a November 5, 2014 e-mail from First Reserve Managing Director Joshua Weiner in which Mr. Weiner remarked that "[n]ot getting to a deal [would
In response to the request for covenant relief, Wells Fargo and Barclays, the lead New RBL Lenders and the lenders committed to funding the Bridge Loan, indicated to Mr. Weiner that they would grant the requested covenant relief but would require modifications to the Bridge Loan in return.
Third, the Committee has provided no reasonable basis for its assertion that First Reserve, in the person of Mr. Weiner, negotiated at any point or in any way against the Combined Company's interests. The Committee primarily relies on two e-mails from Mr. Weiner to portray First Reserve as (i) controlling Legacy Sabine Parent's capital markets decisions related to the Combination, regardless of the position of Legacy Sabine Parent's management or board and (ii) using such control to protect the New RBL Lenders and, in particular, Barclays and Wells Fargo. The first such e-mail, sent by Mr. Weiner to a First Reserve colleague, states "I don't care what mgmt says—anything cap markets relates [sic] needs to be approved by me and [it] is their job to make sure i am in the loop[.]"
Mr. Weiner's testimony at the Hearing credibly contradicts the Committee's speculative interpretation of both e-mails and, further, forcefully debunks the Committee's baseless conspiracy theory. With respect to the first e-mail, Mr. Weiner explained, while "[u]ltimately, it's the board and management that control the decision-making," his role at First Reserve is to assist portfolio companies' management teams in negotiating capital markets and financing terms, a role that requires him to be apprised of negotiations between lenders and portfolio companies. Mr. Weiner clarified that he sent the first e-mail to a colleague in response to a report that Barclays and Wells Fargo were attempting to meet with Mr. Sambrooks "because I felt like the banks were trying to convince management to do something silly—was that they need to keep me in the loop so I can stop this kind of stuff from happening."
Perfectly illustrating the fallacy of the Committee's narrative that the New RBL Lenders and First Reserve were working together to protect each other's interests is the fact that First Reserve and Legacy Sabine Parent, negotiating on behalf of the prospective combined company, turned down the New RBL Lenders' November 7, 2014 proposal, which called for (i) replacing the New RBL Debt-to-EBITDA Covenant with an "easy-to-meet" first lien debt-to-EBITDA covenant and (ii) increasing the total interest rate cap on the Bridge Loan from 9.75% to 15.5%.
The Committee's Bad Acts Complaint and the factual record completely contradict the Committee's narrative. It is clear beyond peradventure that the parties were working diligently to make the best of a difficult situation, a situation driven largely by commodity market forces entirely beyond their control. Against this backdrop, the Court will analyze each of the Bad Acts Claims in turn.
The Committee seeks standing to assert each of the constructive fraudulent transfer claims described above as intentional fraudulent transfer claims. Section 548(a)(1)(A) of the Bankruptcy Code provides that a bankruptcy trustee may avoid a transfer of an interest of the debtor in property, or an obligation incurred by the debtor, that was made or incurred with "actual intent to hinder, delay, or defraud any entity to which the debtor was or became . . . indebted." 11 U.S.C. § 548(a)(1)(A). Second, pursuant to section 544(b) of the Bankruptcy Code, the bankruptcy trustee may avoid a transfer of property or obligation that is voidable under state fraudulent transfer law by an unsecured creditor with an allowable claim against the debtor. 11 U.S.C. § 544(b). Potentially applicable state intentional fraudulent transfer laws (those of New York, Texas, and Colorado) are substantially similar to section 548(a)(1)(A) of the Code. See N.Y. DEBT. & CRED. LAW § 276 ("Every conveyance made and every obligation incurred with actual intent . . . to hinder, delay, or defraud either present or future creditors, is fraudulent as to both present and future creditors."); TEX. BUS. & COMM. CODE § 24.005(a)(1) (providing for avoidance of transfers made, or obligations incurred, "with actual intent to hinder, delay, or defraud any creditor of the debtor"); COLO. REV. STAT. § 38-3-105(1)(a) (same); see also Drenis v. Haligiannis, 452 F.Supp.2d 418, 426 (S.D.N.Y.2006) (noting that "the UFCA and UFTA are substantially similar" with respect to intentional fraudulent conveyances).
To find the requisite intent, the hindering or delaying must have been the "clear and intended consequences of the act, substantially certain to result from it." In re Tronox Inc., 503 B.R. 239, 280 (Bankr.S.D.N.Y.2013). The intent to hinder, delay, or defraud creditors can be proven not only by direct evidence but also by inference from a debtor's conduct and the circumstances surrounding a transaction. In determining whether a debtor acted with actual fraudulent intent in making transfers or incurring obligations, courts within the Second Circuit have recognized various "badges of fraud" to determine intent. These circumstances are "so commonly associated with fraudulent transfers that their presence gives rise to an inference of intent." Id. at 282-283.
The Committee's theory of intent fails for two reasons. First, it relies on a flawed view of the Merger and approval of the Debt Financing as events independent of the Combination. As detailed above, the application of the law to the undisputed record compels the conclusion that the Merger and Debt Financing were part of the integrated Combination and thus cannot be viewed separately. Moreover, and critically, for the question of intent, the record is clear that the 3:30 Board did not view the Merger and Debt Financing as separate transactions. As Mr. Sambrooks, a member of the 3:30 Board, testified, the 3:30 Board (i) considered the Merger as having been completed at the time the 3:30 Board met and was unaware that there was any opportunity to stop it and (ii) regarded the Debt Financing as a mere execution of the final steps of the Combination previously approved by the boards of Legacy Sabine Parent and Legacy Forest, a step which ensured that the Combined Company would have the liquidity needed to operate.
Second, and as detailed above, the Committee's narrative that First Reserve pressed on to complete the Combination in service of its own interests is implausible and the Committee has not alleged sufficient facts that could substantiate such a theory. Thus, even if the 3:30 Board had been acting in accordance with First Reserve's intent—a baseless inference that the Committee does not support with actual facts—it is entirely without merit to allege that First Reserve's intent was to hinder, delay, or defraud creditors. Accordingly, the intentional fraudulent transfer claims that the Committee seeks to assert do not allege plausible facts which would allow the Court to reasonably infer the requisite intent to hinder, delay, or defraud creditors. Therefore, such claims are not colorable.
Moreover, the Court can infer no intent to delay, hinder, or defraud creditors from the fact that the new structure for the Combination, which did not include the Bridge Loan and therefore left the Legacy Forest Notes outstanding, was not disclosed publicly until after the Share Exchange.
Further, the decision to modify the Combination structure to obviate the need to redeem the Legacy Forest Notes at a premium above par when such notes did not mature for several years cannot logically evidence an intent to hinder, delay, or defraud the Legacy Forest noteholders. As the Delaware Chancery Court has recently held, "efforts to structure a transaction to avoid tripping the terms of an indenture are perfectly permissible."
The Committee seeks standing to assert breach of fiduciary duty claims against each of (i) the Legacy Forest Directors and Officers for (a) neither terminating the Combination when offered the chance by Mr. Sambrooks and Legacy Sabine Parent nor forcing the Combination to close with the Bridge Loan and (b) failing to use the proceeds of the pre-Combination sale of Legacy Forest's Arkoma assets to pay the unsecured creditors of Legacy Forest;
Legacy Forest was a New York corporation, as is the Combined Company. Legacy Sabine Parent was, and the Legacy Sabine Subsidiaries were and are, for purposes of the Second Committee STN Motion, Delaware limited liability companies.
Under Delaware law, directors of an insolvent entity discharge their fiduciary duties by maximizing the value of the insolvent entity for the benefit of all stakeholders, and they do not owe any specific duty to a particular constituency, creditor, or otherwise. See Quadrant Structured Prods. Co. v. Vertin, 115 A.3d 535, 546 (Del.Ch.2015) ("[t]he directors of an insolvent firm do not owe any particular duties to creditors"); Gheewalla, 930 A.2d at 103 ("[t]o recognize a new right for creditors to bring direct fiduciary clams against . . . directors would create a conflict between those directors' duty to maximize the value of the insolvent corporation for the benefit of all those having an interest in it, and the newly recognized direct fiduciary duty to individual creditors").
The Debtors and the Legacy Forest Directors and Officers contend that New York law, consistent with Delaware law, requires directors of an insolvent entity to discharge their fiduciary duties by maximizing the value of the insolvent entity for the benefit of all stakeholders, and does not impose fiduciary duties owed specifically to creditors. New York courts and courts applying New York law have held, consistent with Delaware law, that claims for breach of fiduciary duties owed to creditors when a company is in the zone of insolvency are "derivative of claims of breach of fiduciary duty to the company itself," In re I Successor Corp., 321 B.R. 640, 659 (Bankr.S.D.N.Y.2005), and that such duties are discharged by "maximiz[ing]
The Committee contends, however, that under New York law, the so-called "trust-fund doctrine" imposes upon directors the additional duty "to hold the remaining corporate assets in trust for the benefit of its general creditors." Credit Agricole Indosuez v. Rossiyskiy Kredit Bank, 94 N.Y.2d 541, 549, 708 N.Y.S.2d 26, 729 N.E.2d 683 (N.Y.2000) (citations omitted). The Second Circuit has characterized the trust fund doctrine as "ensur[ing] that the directors do not funnel the assets of the corporation to themselves or to other shareholders, subverting the creditor's rights in bankruptcy." Geren v. Quantum Chem. Corp., No. 95-7554, 99 F.3d 401, 1995 WL 737512, at *1 (2d Cir. Dec. 13, 1995). Further, in Credit Agricole, the New York Court of Appeals provided a significant limitation on the applicability of the doctrine, holding that "a simple contract creditor may not invoke the doctrine to reach transferred assets before exhausting legal remedies by obtaining judgment on the debt and having execution return unsatisfied." Credit Agricole, 94 N.Y.2d at 550, 708 N.Y.S.2d 26, 729 N.E.2d 683. This formulation has been subsequently applied by both state and federal courts to bar contract creditors from asserting the trust fund doctrine. See, e.g., Aldoro, Inc. v. Gold Force Int'l., Ltd., 52 A.D.3d 223, 859 N.Y.S.2d 154, 155 (1st Dep't 2008); Staudinger + Franke GMBH v. Casey, No. 13 CV. 6124(JGK), 2015 WL 3561409, at *13 (S.D.N.Y. June 8, 2015).
Any additional duty the "trust fund doctrine" imposes upon directors of a New York corporation is not applicable here. There is no allegation that the Legacy Forest Directors and Officers or the 3:30 Board funneled assets to themselves and, even if they had, the Committee has not identified a fiduciary duty owed to a non-contract creditor. Therefore, the Legacy Forest Directors and Officers and the 3:30 Board were subject only to the general duties of care and loyalty imposed on directors of an insolvent entity, including duties to creditors. Such duties to creditors, under both New York law and Delaware law, are discharged by maximizing the value of the enterprise for the benefit of all stakeholders.
The Committee alleges that the Legacy Forest Directors and Officers breached both their duty of care and their duty of loyalty in approving the Combination instead of (i) terminating the Combination when offered the opportunity to do so by Mr. Sambrooks and Legacy Sabine Parent or (ii) insisting that the Combination close under the original financing structure with the Bridge Loan, the proceeds of which would have funded the redemption of the Legacy Forest Notes, and then using proceeds of the Arkoma sale to pay unsecured creditors of Legacy Forest.
Neither claim is colorable. For a director or officer to breach the duty of care, a plaintiff must show a "reckless indifference to or a deliberate disregard" of the interests of those to whom fiduciary duties are owed or "actions which are with out the bounds of reason." In re Trinsum Group, Inc., 466 B.R. 596, 610 (Bankr. S.D.N.Y.2012) (citing to In re Walt Disney Co. Derivative Litig., 907 A.2d 693, 749 (Del.Ch.2005)). The Committee contends that the Legacy Forest Directors and Officers breached their duty of care to creditors by failing to obtain outside advice on the solvency of the prospective combined company (i) after reviewing Mr. Sambrooks' December 2, 2014 letter expressing
Specifically, prior to approving the revised Combination structure, the Legacy Forest Directors and Officers requested new financial analyses and advice from outside advisors JPMorgan and Wachtell as to (i) whether Legacy Forest would be better off proceeding with the Combination or remaining as a stand-alone entity and (ii) the financial condition of the prospective combined company.
Further, the Committee's allegations that the Legacy Forest Directors and Officers breached their duty of care in approving Legacy Forest's entry into the Combination instead of selecting a different path also fail to support a colorable claim for breach of the duty of care. An allegation that directors "made the wrong decision. . . is precisely the type of second-guessing that the business judgment rule is designed to prevent."
Similarly, the Committee fails to state a colorable claim for a breach of the duty of loyalty by the Legacy Forest Directors and Officers. The Committee's proposed claim is based entirely on the assumption that the trust fund doctrine applies and that the Legacy Forest Directors and Officers owed specific duties to creditors to preserve assets; therefore, the Committee argues, the Legacy Forest Directors and Officers breached a duty of loyalty owed to creditors by considering the interests of other constituencies and the company as a whole. In support of its assertion, the Committee points to the testimony of Mr. McDonald, former Chief Executive Officer of Legacy Forest, that he and the board of Legacy Forest took into account the interests of "the company" and "all stakeholders."
The Committee misstates the duty of loyalty, which, under New York law, "requires a director to subordinate his own personal interests to the interests of the corporation," In re Marine Risks, 441 B.R. 181, 200 (Bankr.E.D.N.Y.2010), and "derives from the prohibition against self-dealing that inheres in the fiduciary relationship." Id. (citation omitted). The Legacy Forest Directors and Officers assert that an allegation that the board favored one class of stakeholders over another, as the Committee alleges occurred here, fails to state a claim for breach of the duty of loyalty.
At bottom, the Legacy Forest Directors and Officers acted in a manner consistent with their duties to creditors under New York law in (i) declining to terminate the Combination or force the Combination to close with the Bridge Loan financing and (ii) determining to use the Arkoma proceeds for the benefit of the Combined Company, rather than distributing such proceeds to creditors of Legacy Forest. Simply put, the Legacy Forest Directors and Officers had no duty to walk away from the proposed Combination and liquidate; nor did they have a duty to lead Legacy Forest into a Combination premised on an expensive bridge to nowhere.
The Committee next contends that the 3:30 Board breached its duty of loyalty by approving the Debt Financing, rather than terminating the Combination, and that First Reserve breached its duties as a controlling shareholder in connection with the actions of the 3:30 Board.
Moreover, it is arguable that, had the 3:30 Board pursued the Committee's quixotic course of action—electing not to approve the Debt Financing and then somehow terminating the Combination and embarking on a workout with holders of the Legacy Forest Notes, the lenders under the Legacy Sabine RBL, and the Second Lien Lenders—such action itself would have been a violation of the fiduciary duties of the 3:30 Board. First, at the time the 3:30 Board met, the Share Exchange was completed and the Merger was in process, to be formally completed upon the filing by the Delaware secretary of state. Given that the Delaware secretary of state filed the merger certificate at 3:48 EST, under the Committee's theory, the 3:30 Board had all of eighteen minutes to stop the Merger and then, somehow (the Committee does not say how), terminate the Combination, including the already completed Share Exchange. To fulfill its duty of care with respect to such a decision, the 3:30 Board would have had to inform itself of all material considerations associated with halting the Merger, including (i) whether the Share Exchange could be terminated and (ii) the consequences of (a) Legacy Forest returning to being a standalone company in the event the 3:30 Board were somehow able to terminate the Merger and reverse the Share Exchange and (b) Legacy Forest operating with Legacy Sabine Parent and the Legacy Sabine Subsidiaries as indirect subsidiaries, in the event the Share Exchange could not be terminated,
The Legacy Sabine Subsidiaries consist of (i) seven limited liability companies organized under Delaware law; (ii) one corporation, Sabine Oil & Gas Finance Corp., organized under Delaware law; and (iii) one limited liability company, Giant Gas Gathering LLC, organized under Oklahoma law. The Second Committee STN Motion and proposed Bad Acts Complaint do not appear to make any distinction among the Legacy Sabine Subsidiaries, choosing to treat them all as Delaware LLCs and to analyze all fiduciary duty claims solely under Delaware law.
The Committee contends that Mr. Sambrooks, as appointed manager, and First Reserve, as controlling equity holder, each owed fiduciary duties to "the Legacy Sabine Subsidiaries."
First, Legacy Sabine Parent, itself a Delaware LLC, directly or through an intermediary—and not Mr. Sambrooks—was the sole managing member of the Legacy Sabine Subsidiaries that are LLCs.
Second, the Committee has failed to allege any legally cognizable basis on which First Reserve, as a controlling equity holder, owes fiduciary duties to the Legacy Sabine Subsidiaries. The Committee simply states, without citation to authority, that First Reserve owed fiduciary duties to the creditors of the Legacy Sabine Subsidiaries.
The Committee contends that the Legacy Sabine Parent board of directors breached its fiduciary duty of loyalty to Legacy Sabine Parent when it approved the Debt Financing because (i) the Legacy Sabine Parent board was acting at the direction of First Reserve and (ii) the Debt Financing "benefitted First Reserve but put more debt onto the Legacy Sabine entities."
In addition, the Committee's claim for breach of the duty of loyalty by the board of Legacy Sabine Parent not only relies on treating the Debt Financing as a separate transaction but also ignores the fact that
Finally, even assuming that a claim for a breach of fiduciary duty on behalf of Legacy Sabine Parent were colorable, the Debtors and the directors of Legacy Sabine Parent contend (likely correctly) that the Legacy Sabine Parent operating agreement waives such claims on behalf of Legacy Sabine Parent in the absence of bad faith, providing another potential basis for a finding that the claims are not colorable.
The Committee also seeks standing to assert claims for aiding and abetting breaches of fiduciary duties against (i) the Legacy Forest Directors and Officers, the Legacy Sabine Parent board, Mr. Sambrooks, and the First Reserve Defendants for allegedly aiding and abetting breaches of fiduciary duties in connection with the Share Exchange and the Merger and (ii) the New RBL Lenders, the Second Lien Lenders, Wells Fargo, and Barclays for allegedly aiding and abetting breaches of fiduciary duties in connection with the Debt Financing.
As the Court has found no colorable claims for breaches of fiduciary duties, it is elementary that the first requirement, a breach of fiduciary obligations, is not met. Moreover, even if the first element were met, the Committee's allegations that the ultimate decision with respect to structure and execution of the Combination, including the Debt Financing, was influenced or directed by any third parties are without merit. Although First Reserve and the various lenders did indeed participate in negotiating the Debt Financing—and the progress of such negotiations informed the negotiations and decisionmaking of the legacy boards—the Committee has not alleged facts sufficient to establish an aiding and abetting claim under the relevant standard.
With respect to the First Reserve Defendants, the Court agrees that "[i]t would be a bizarre perversion of corporate law to hold [] First Reserve . . . liable for trying to negotiate against its counterparty for
The Committee seeks standing to assert claims for equitable subordination against each of the New RBL Agent, the New RBL Lenders, the Second Lien Agent, and the Second Lien Lenders (collectively, the "Equitable Subordination Defendants").
The Committee contends that the Court may equitably subordinate the claims of the Equitable Subordination Defendants "because of harm caused unsecured creditors in a transaction that the [Equitable Subordination Defendants] knew was doomed to fail, but was pursued to avoid hundreds of millions of dollars of losses by the [RBL Lenders] on their contractually committed bridge commitment."
The Committee's claims that the New RBL Agent and the New RBL Lenders engaged in inequitable conduct are based on the allegation that the New RBL Agent and the New RBL Lenders "actively participated in a manipulative scheme to supplant the Bridge Loan with a new merger and financing structure . . . all for the purposes of providing short-term liquidity for a Combination that was doomed to fail, ensuring that the new financing was senior to all of the Debtors' unsecured claims and collecting transaction
Second, the allegation that the New RBL Agent and the New RBL Lenders knew the Combination was "doomed to fail" is contradicted and rendered implausible by the record. To the contrary, as a condition precedent to the closing of the New RBL, Mr. Sambrooks delivered a solvency certificate to the New RBL Agent.
With respect to the Second Lien Agent and the Second Lien Lenders, the Committee acknowledges that the Second Lien Lenders "do not appear to have been directly involved in the structuring of the Combination or the efforts to enrich the [Equitable Subordination Defendants] at the expense of pre-existing unsecured creditors."
"[B]ankruptcy courts have the power to recharacterize ostensible debt as equity. . . ." Adelphia, 365 B.R. at 74 (citing In re Official Comm. of Unsecured Creditors for Dornier Aviation (N. Am.), Inc., 453 F.3d 225, 231 (4th Cir.2006)). Recharacterization of debt as equity "is appropriate where the circumstances show that a debt transaction was actually an equity contribution ab initio." In re BH S & B Holdings, 420 B.R. 112, 157 (Bankr. S.D.N.Y.2009). The Committee seeks standing to assert a claim to recharacterize as equity the $50 million in additional Second Lien Loan obligations that the Combined Company incurred at the time of the Combination.
In determining whether an investment that purports to be debt should be recharacterized as equity, courts in this district balance the factors laid out by the Court of Appeals for the Sixth Circuit in In re AutoStyle Plastics, Inc.,
269 F.3d 726, 749-50 (6th Cir.2001); see also In re BH S & B Holdings, 420 B.R. at 157 (considering AutoStyle factors); In re Gen. Motors Corp., 407 B.R. 463, 498 (Bankr.S.D.N.Y.2009) (same). The "ultimate exercise" in evaluating any recharacterization claim "is to ascertain the intent of the parties." See Weisfelner v. Blavatnik (In re Lyondell Chemical Co.), 544 B.R. 75, 102 (Bankr.S.D.N.Y.2016). While "no one factor is controlling or decisive . . . the court may dismiss a recharacterization claim if the plaintiff fails to plead facts that trigger the applicability of the AutoStyle factors, or a meaningful subset of them." BH S & B Holdings, 420 B.R. at 157-58 (internal citations omitted).
The Committee relies primarily on AutoStyle factors four through eight, contending that (i) the source of repayment
On balance, application of the AutoStyle factors does not support the existence of a colorable claim for recharacterization here. First, the Committee ignores entirely the "meaningful subset" of other AutoStyle factors which militate against its argument and would likely establish that the intent of the parties was that the $50 million of additional Second Lien Loan obligations that the Combined Company incurred at the time of the Combination should be treated as debt because it (i) was documented as a loan; (ii) carried a fixed maturity date and schedule of payments; (iii) carried a fixed interest rate; (iv) was not subordinated to claims of outside creditors; and (v) was not used to purchase capital assets. Each of these undisputed facts supports the position of the Second Lien Agent that the obligation was intended to be debt.
Moreover, the record thus far dispels the notion that that AutoStyle factors four through eight would support a claim for recharacterization here. For example, the Committee does not cite to any authority for the proposition that selling a debt instrument at a price below suggests that repayment of the instrument is dependent on the performance of the business in a manner indicating that the instrument is equity and not debt. Similarly, AutoStyle's "identity of interest" factor is typically deployed to establish that a stockholder making a loan to a corporation in proportion to its ownership interest indicates such loan is equity. That situation is clearly not present here, where First Reserve did not participate in the incremental Second Lien Loan, and, as indicated above, First Reserve and the New RBL Lenders were not united in their interests but in fact had an arm's-length relationship. Moreover, as the Second Lien Agent notes in its objection, the Legacy Forest Notes were trading at 40-45 cents on the dollar following the Combination, which price implies a recovery for unsecured creditors.
For all of the foregoing reasons, the Court finds:
To the extent the Court has failed specifically to address a claim asserted by the Movants in their proposed complaints, the Court finds that such claim is not colorable.
In accordance with the Court's findings on colorability, and pursuant to the framework in which the parties have addressed the STN Motions, the Court will now address the question of whether the Debtors have unjustifiably failed to bring the claims that the Court has identified are colorable: the Constructive Fraudulent Transfer Claims on behalf of the Legacy Sabine Subsidiaries. The Court must determine whether the Debtors' refusal to bring such claims is in the best interests of the estates, i.e., whether, when considering the effect of the litigation on the estates and conducting a cost-benefit analysis, the potential benefits of the litigation outweigh the costs, monetary and otherwise, to the Debtors' reorganization. In evaluating requests for standing, the Court's role as gatekeeper, as discussed herein, is to ensure that the proposed litigation is expected to be a "sensible" use of estate resources that "will not impair reorganization." See Adelphia, 330 B.R. at 386.
Mr. Zelin submitted two reports and gave substantial live testimony on potential recovery values with respect to the various proposed STN claims. Regarding the Constructive Fraudulent Transfer Claims sought to be asserted on behalf of the Legacy Sabine Subsidiaries' estates, Mr. Zelin calculated the value components of such claims as follows:
Notably, Mr. Zelin did not independently value the Constructive Fraudulent Transfer Claims asserted on behalf of the Legacy Sabine Subsidiaries' estates. Instead, his analysis (i) assumed that the Committee would be successful on all Constructive Fraudulent Transfer Claims (including those to be asserted on behalf of Legacy Forest) and (ii) allocated the proceeds to the Legacy Sabine Parent pro forma estate and the Legacy Forest pro forma estate in accordance with certain assumptions Mr. Zelin applied as to how such recoveries should be allocated between the two pro forma estates.
At the outset, it bears emphasis that the Constructive Fraudulent Transfer Claims sought to be asserted on behalf of the Legacy Sabine Subsidiaries' estates do not seek to avoid the New RBL or the Second Lien Loan at the Legacy Sabine Subsidiaries' estates, as the Constructive Fraudulent Transfer Claims sought to be asserted on behalf of Legacy Forest seek to do. This is because, prior to the Combination, there existed $620 million of Legacy Sabine RBL indebtedness and $650 million of Legacy Sabine Second Lien indebtedness, all of which was supported by guarantees of the Legacy Sabine Subsidiaries secured by liens on the assets of the Legacy Sabine Subsidiaries. The Committee does not contend that these obligations and liens were avoidable at the Legacy Sabine Subsidiaries' estates prior to the Combination. Accordingly, Mr. Zelin's analysis contemplates an allowed New RBL claim of $620 million that would have recourse to Legacy Sabine assets as well as a $678 million Second Lien Loan claim, reflecting the $650 million of Legacy Sabine Second Lien Loan debt and incurred interest that would have recourse to the same assets. The Constructive Fraudulent Transfer Claims the Committee seeks to assert on behalf of the Legacy Sabine Subsidiaries' estates merely seek to avoid the guarantees issued and liens granted to secure (i) New RBL borrowings in excess of the $620 million of borrowings outstanding on the Legacy Sabine RBL pre-Combination and (ii) Second Lien Loan borrowings in excess of the $650 million outstanding on the Legacy Sabine Second Lien Loan pre-Combination.
Mr. Zelin estimates that $68 million of value would be available to the Legacy Sabine Subsidiaries' unsecured creditors if the incremental guarantees issued and liens granted by the Legacy Sabine Subsidiaries were avoided.
According to Mr. Zelin's analysis, the calculation necessary to isolate the value of the avoided liens securing the disallowed $182 million is thus two steps. First, it is necessary to divide $345 million of assumed RBL secured recoveries by $927 million of RBL claims to arrive at the percentage of RBL secured recoveries attributable to Legacy Sabine Subsidiary assets. Second, one would multiply that percentage by the disallowed $182 million claim to arrive at the avoided secured recoveries, i.e., the value of assets secured by avoided liens. The result of this calculation yields avoided liens valued at $68 million, at the very most.
Mr. Zelin's calculation and the assumptions that inform it shed little to no light on the actual question that must be answered to determine the value available to unsecured creditors which could result from successfully avoiding liens granted to secure (i) New RBL borrowings in excess of the $620 million of borrowings out-standing on the Legacy Sabine RBL pre-Combination and (ii) Second Lien Loan borrowings in excess of the $650 million outstanding on the Legacy Sabine Second Lien Loan pre-Combination. Answering that question requires determining what liens on pre-Combination unencumbered assets, if any, the Legacy Sabine Subsidiaries granted post-Combination to secure the New RBL and the Second Lien Loan. Professor Williams testified that no such liens were granted and the Committee has produced nothing (e.g., UCC filings) indicating otherwise.
None of the next three categories identified in Mr. Zelin's analysis—(i) Recovery of New RBL Paydown; (ii) Merger and Financing Fees; and (iii) Prejudgment Interest—would be recoverable for the benefit of the Legacy Sabine Subsidiaries' estates even if the Constructive Fraudulent Transfer Claims to be asserted on behalf of the Legacy Sabine Subsidiaries, which seek only to avoid guarantees issued and liens granted securing such guarantees, were successful.
At the direction of Committee counsel, Mr. Zelin assumed in his analysis that the Court would authorize the Committee to collect from the New RBL Lenders or the
The Court ascribes no value to a claim for the alleged diminution in value of avoidable liens. In addition to being entirely derivative of Mr. Zelin's calculation of the value of avoidable liens as $68 million, a value that the Court finds questionable, application of such a remedy here is unsupportable as a matter of law.
The Committee relies almost exclusively on In re TOUSA, Inc., 422 B.R. 783 (Bankr.S.D.Fla.2009), as authority for its claim seeking to recover the diminution in value of avoidable liens. In TOUSA, the debtors' parent company borrowed approximately $421 million for the purpose of funding a litigation settlement; the lenders, in fact, required that the proceeds be used for this purpose. Although only the parent company was obligated to pay the litigation settlement, the parent's subsidiaries guaranteed the debt. The bankruptcy court determined that the subsidiaries received no value from the payment of the litigation settlement amount and, therefore, the conveyance of guarantees was a transfer for which the subsidiaries did not receive "reasonably equivalent value."
In imposing remedies, the bankruptcy court in TOUSA began with the premise that "11 U.S.C. § 550 `is designed to restore the estate to the financial condition that would have existed had the transfer never occurred.'" Id. at 881 (internal citation omitted). From this premise, the bankruptcy court held that, in addition to avoiding the subsidiaries' obligations, a complete remedy required more, including restoration of fees and costs of pursuing litigation. In addition, the Court held that the "Conveying Subsidiaries are also entitled to recover the diminution in value of the liens that has occurred since the transfer." Id. at 883. As support for its remedy, the court cited to In re Warmus, 229 B.R. 496, 532 (Bankr.S.D.Fla.1999), in which the court explained that "if the court limits the Trustees to recovery of the property itself, and if the property has declined in value, the estate will have lost the opportunity to dispose of the property prior to its depreciation." TOUSA, 422 B.R. at 883 (citing Warmus, 229 B.R. at 532).
The district court in TOUSA reversed the bankruptcy court's decision that the subsidiaries did not receive "reasonably equivalent value" for the issuance of the guarantees. 444 B.R. 613 (S.D.Fla.2011). The district court did not review the remedies, including the claim for diminution in
The Committee has not cited to a single case subsequent to TOUSA in which a court has applied the diminution in lien value remedy applied in TOUSA. Moreover, subsequent to TOUSA, the Tenth Circuit, in a case cited by the Committee, issued a persuasive decision affirming the decision of the bankruptcy court, in which the Tenth Circuit declined to award a trustee monetary damages equal to the diminution in value of the collateral as a remedy for a secured lien granted to a lender as a preference. The Tenth Circuit reasoned:
Rodriguez v. Drive Fin. Servs., L.P. (In re Trout), 609 F.3d 1106, 1112 (10th Cir. 2010).
The pre-TOUSA cases cited by the Committee in support of its proposed remedy are consistent with the reasoning of In re Trout, as well as Warmus, upon which TOUSA relied, in that they each involved assets that were transferred away from, and out of, the debtor's control.
Here, there is no plausible allegation that the Legacy Sabine Subsidiaries were seeking to sell the property upon which the allegedly avoidable liens were granted and that they lost that opportunity as a result of there being liens on such property. Indeed, testimony reveals that the Legacy Sabine Subsidiaries would have been incapable of making such a decision on their own. Therefore, to the extent that the Movants seek to recover the $121 million identified by Mr. Zelin based on a TOUSA theory, the Court finds that such amount would not be recoverable even if the Constructive Fraudulent Transfer Claims sought to be asserted on behalf of the Legacy Sabine Subsidiaries were successful.
In accordance with the foregoing, the maximum potential value of the Constructive Fraudulent Transfer Claims to be asserted on behalf of the Legacy Sabine Subsidiaries appears more likely to be as follows, assuming complete success on the underlying claims:
The costs of the litigation must be weighed against this maximum potential benefit. Mr. Zelin estimated the plaintiffs' cost of litigating the entirety of the Constructive Fraudulent Transfer Claims at $20-30 million. Litigating only the Constructive Fraudulent Transfer Claims asserted by the Legacy Sabine Subsidiaries would logically cost a percentage of that $20-30 million. However, given the fact-intensive nature of (a) discovering and valuing any liens subject to avoidance and (b) valuing the indirect benefits received by the Legacy Sabine Subsidiaries as members of a single enterprise for purposes of a reasonably equivalent value analysis, it seems reasonable that litigating those claims could require at least 50% of Mr. Zelin's estimated cost, or $10-15 million. And to that figure must be added an equal amount for the costs of defending such litigation.
Weighing these costs and benefits, and adding consideration of some modicum of litigation risk, the Court concludes that the Debtors have met their burden to demonstrate that bringing such claims would not be in the best interests of the estates and, therefore, have not unjustifiably refused to bring such claims.
Another key consideration in determining whether bringing certain claims is in the best interests of the estates in these cases is the question of how much of any litigation recoveries would be subject to the New RBL Lenders' adequate protection claim. In light of the Court's ruling on the Bad Acts Claims, it is arguably not necessary to reach the issue of the value of the adequate protection claim; the Court does so to provide alternative additional support for its conclusion that the Bad Acts Claims should not proceed.
The Final Cash Collateral Order [ECF No. 339] provides for an adequate protection claim equal to "Collateral Diminution." See Final Cash Collateral Order ¶ 3. Such claim is secured by all of the Debtors' unencumbered assets, save for unencumbered assets brought into the estates as the result of successful litigation against the New RBL Lenders. The Order defines "Collateral Diminution" as follows:
Final Cash Collateral Order ¶ 5.
There is broad agreement that the market value of the Debtors' assets, and thus
To address this concern, the Committee contends that the amount of the New RBL Lenders' "Collateral Diminution" and thus, adequate protection claim, is not, as Mr. Mitchell's calculation implies, equal to the diminution in the market value of the New RBL Lenders' collateral. Instead, the Committee argues that the Final Cash Collateral Order limits the New RBL Lenders' adequate protection claim to "`the decrease in value ... from and after the Petition Date resulting from . . . the imposition of the automatic stay' (emphasis added)."
Even more creatively, the Committee argues that, because the New RBL Lenders have supported a reorganization in these cases, rather than a sale of their collateral, the New RBL Lenders are not entitled to an adequate protection claim at all.
Mr. Zelin confirmed during live testimony that, during his twenty-eight year career, he had never seen adequate protection claims limited in time in the way suggested by the Committee.
Saddled with the untenable assumptions he was instructed to apply to his calculations, Mr. Zelin accurately presented the Committee's unique and entirely unsupportable value of the New RBL Lenders' adequate protection claim. The Committee's calculation is not only inconsistent with the Final Cash Collateral Order and established law in this District, but also with common sense.
First, the Committee's theory that "Collateral Diminution" is limited to decreases in value caused by the imposition of the automatic stay ignores the text of the Final Cash Collateral Order. The Committee's citation to the Cash Collateral Order with respect to its definition of "Collateral Diminution" conveniently omits the portion of the text referring to a decrease in collateral resulting from the "use, sale or lease
Second, the Committee's assertion that the New RBL Lenders are limited to foreclosure value when measuring the value of their interest in their collateral as of the Petition Date is contrary to established law setting forth the proper methodology for valuing an adequate protection claim. In Official Comm. of Unsecured Creditors v. UMB Bank, N.A. (In re Residential Capital), 501 B.R. 549 (Bankr.S.D.N.Y. 2013) ("ResCap"), cited by the Committee,
The same reasoning applies here. In selecting a methodology for valuing the interests of the New RBL Lenders and the Second Lien Lenders in the collateral
Consistent with the conclusion that a going concern or fair market value is the appropriate valuation methodology, the Court also rejects the Committee's contention that the time for calculating "Collateral Diminution" is limited to the time between the first date the New RBL Lenders could have sold their collateral had they foreclosed and the time the New RBL Lenders indicated that they did not wish their collateral to be sold. The Final Cash Collateral Order provides that "Collateral Diminution" shall be calculated from the Petition Date. The Court thus holds that the value of the New RBL Lenders' adequate protection claim should be calculated as the fair market or going concern value of the New RBL Lenders' interest in the prepetition collateral as of the Petition Date less the fair market or going concern value of the prepetition collateral as of the effective date of a confirmed plan of reorganization or the closing date of a sale, as the case may be.
For all of the foregoing reasons, the STN Motions are denied in their entirety. The parties are directed to settle an order consistent with this Decision.
In re MarketXT Holdings Corp., 376 B.R. 390, 405-06 (Bankr.S.D.N.Y.2007) (citing In re Kaiser, 722 F.2d 1574, 1582-83 (2d Cir. 1983)). Potentially applicable state law in New York, Texas, and Colorado provide similar badges of fraud. A & M Global Mgmt. Corp. v. Northtown Urology Assocs., 115 A.D.3d 1283, 1288-89, 983 N.Y.S.2d 368 (N.Y.App.Div. 4th Dept.2014); TEX. BUS. & COMM. CODE § 24.005(b); COLO. REV. STAT. § 38-3-105(2) (same).
Legacy Forest Restated Certificate of Incorporation, at 30-31.
