RICHARD E. FEHLING, Bankruptcy Judge.
With all due respect for the excellent lawyers involved in this litigation, I suggest that they missed the real issues central to this dispute. They were correct to argue that the issue of reasonably equivalent value is important in this fraudulent transfer case. But the timing of the relevant events belies the parties' narrow focus on the value of a certain technology as the key to resolving the Trustee's claim.
Debtor voluntarily assumed certain debt of his family's business, Defendant Penn Graphics Equipment, Inc. ("PGE"). Debtor's responsibility for the debt was assumed at about the same time as PGE's permission for Debtor, and later Debtor's
Debtor broke away from the family business in Spring/Summer 2006, with the blessing of his family, and began operating as a sole proprietorship to manufacture the new product line. Debtor later formed SAS
A year after Debtor's spin-off from PGE, in Spring 2007, he guaranteed two loans made by Defendant M & T Bank ("M & T") to PGE in the aggregate amount of $650,000. Debtor secured his guaranties to M & T with two mortgages (in the amounts of $250,000 and $400,000) on his residence. Debtor also paid to PGE the monthly payments of the debt service on the $400,000 loan. The stated purpose of the $650,000 M & T loans to PGE was to pay down PGE's line of credit in an amount a bit over $147,000. PGE had opened and drawn on that line of credit to develop the new technology.
A family trust held title to Debtor's residence at 78 Stone Road, Lot 3, Hamburg, Pennsylvania (the "Home") before the Spring 2007 M & T loans and mortgages attached. In April 2007, the trust accelerated its previously promised conveyance of title for the Home to Debtor shortly before the two M & T loans were booked. Shortly after the trust conveyed title in the Home to Debtor, he mortgaged his Home to secure the two M & T loans.
The sole defense advanced by Defendants is that Debtor received reasonably equivalent value for the two M & T mortgages because PGE allowed Debtor and his company SAS to use the new technology. Although I find and conclude that the technology provided to Debtor did not constitute reasonably equivalent value compared to the mortgages and although I will rule against Defendants on that basis, I also find and conclude that the technology was given to Debtor a full year before the two M & T mortgages were recorded against his Home. The technology, whatever its value might be, was not given to Debtor in exchange for the mortgages. I therefore reviewed other assets that Debtor might have received in Spring 2007. I find and conclude that Debtor received nothing of significant (and certainly not reasonably equivalent) value for taking on the two M & T mortgages.
The Opinion below contains my findings and conclusions, on the basis of which I will enter judgment in favor of Plaintiff Trustee and against Defendant M & T on Counts I and II and I will avoid the M & T mortgages encumbering Debtor's Home.
The procedural background of this matter is unremarkable. On August 14, 2009, Debtor filed his petition for relief pursuant to Chapter 7 of the Bankruptcy Code. Debtor owns his Home, which is valued by agreement at $350,000.
On December 29, 2009, the Chapter 7 Trustee initiated the above-captioned adversary proceeding by filing his complaint against Defendants. Trustee's Counts I and II of this adversary proceeding against M & T seek to avoid as fraudulent transfers the two M & T mortgages on Debtor's Home. Trustee brought Count III against both M & T and PGE
The parties attempted mediation for a few months, but it proved unsuccessful. Pre-trial procedures, discovery, and dispositive motions extended through 2010. On January 7, 2011, I entered two Orders. The first denied M & T's motion for summary judgment;
To some extent during argument at the close of the trial on September 8, 2011, but expressly during oral argument on January 23, 2012, counsel for Trustee conceded that he had not established the predicate value of the Home required to prove his allegations in Count III against Defendants. On February 28, 2012, after further review of the record, I entered judgment in favor of Defendant PGE and against Plaintiff Trustee on Count III, the only count addressed against PGE.
As I reviewed the parties' memoranda and the record in this case, I questioned whether the conveyance by the family trust to Debtor of the title to his Home might constitute value in this dispute. I therefore scheduled, by my Order dated March 1, 2012, further oral argument on this specific issue to be held on March 12, 2012. I expressly permitted counsel to argue telephonically and asked them specifically to address whether title to the Home might constitute value.
The material facts in this matter (other than the value of the technology to create the new product line) are not significantly disputed. The facts set forth in the parties' Joint Pretrial Statement, whether identified as disputed or as undisputed, ignore much of PGE's early difficulties in developing the technology at issue as unimportant for my final decision. The parties' discussions of the facts in the Joint Pretrial Statement begin after Debtor, individually at first and later through SAS, split from PGE. A fuller rendition of the factual background relating to the technology, and the history of the various loans, financial issues, and title to the Home, however, provide helpful context for resolving this litigation.
Debtor's father was the principal owner of PGE. Sometime in 2005, PGE attempted to develop and sell an automated system for use in the high-speed printing industry. PGE created the Commander 140 Vertical Stacker (the "Stacker") largely through the leading efforts of Debtor as its agent and employee.
The Stacker drew a great deal of interest in the trade, however, and PGE
First PGE, and later Debtor, and then SAS, could not produce Stackers that delivered even a gross profit (gross sales price less sales commission less cost of goods sold). The cost of raw materials exceeded each Stacker's net selling price. Without accounting for labor (compensation, taxes, benefits, etc.), administration, utilities, legal, accounting, insurance, other overhead, and all other soft and hard sales and production costs, each Stacker cost more to build and sell than either PGE or Debtor or SAS received for it. Accounting for labor, administration, utilities, legal, accounting, insurance, other overhead, and all other soft and hard sales and production costs, the Stackers cost hundreds of thousands of dollars more to produce than either PGE, Debtor, or SAS received. Production and sale of the Stackers immediately and manifestly proved a losing proposition.
PGE and later Debtor and then SAS received orders for Stackers, but neither PGE nor Debtor nor SAS could sell the Stackers for anything remotely sufficient to break even. Making a profit was a
Furthermore, none of the parties have suggested that Debtor's spin off was a purchase and sale of anything. No evidence whatsoever was presented that showed that Debtor purchased the Stacker technology in exchange for his voluntary agreement to "repay" $400,000 to PGE. To the contrary, PGE wanted no parts of the Stacker or its technology and dumped it. Debtor simply picked it up. In Debtor's mind (expressed through his testimony), he felt a separate, moral obligation to try to pay PGE for at least some of its losses incurred from producing the Stackers.
Immediately upon starting in business, Debtor utilized the technology for manufacturing Stackers. He did this with no formal permission or license from PGE or any family member. In Spring/Summer 2006, no one stated orally or in writing what terms, if any, governed Debtor's use of the Stacker technology. PGE and the family members simply regarded the technology as something that PGE had given to Debtor to use without restriction, qualification, or limitation. In August 2006, Debtor assigned the Stacker technology to SAS, with no warnings or repercussions from PGE or his family. Until November 2008, none of the parties did anything to restrict, qualify, or limit the use of the technology in the hands of Debtor or SAS. On November 24, 2008, PGE and SAS executed a Technology License Agreement (the "Technology License"), licensing the Stacker technology to SAS, effective retroactively, as of July 1, 2007.
Debtor and SAS never had a chance. No testimony or exhibits provided any forecast, projection, or explanation to remotely suggest that manufacturing Stackers at any time after the technology was
This case is about Trustee's attempt to avoid the mortgages securing two loans, in the aggregate face amount of $650,000, which loans PGE borrowed from M & T. The M & T loans were created, revised, and documented in fits and starts, which led to some confusion and ultimately to this litigation. Defendant M & T asks that I look at the history of its attempted loans to PGE, Debtor, and SAS and then consider what was intended globally as explaining and rationalizing the end result. I reject M & T's request because I will determine the rights of all parties based solely on that which actually happened and what documents were actually executed by the parties.
On March 7, 2007, M & T issued a commitment letter to SAS, which letter contemplated that a single loan in the amount of $400,000 would be made to SAS, secured by, among other collateral, mortgages on the Home and other property owned by the family trust. Everyone believed that Debtor held the title in the Home. M & T required that the loans be guarantied by PGE, Debtor, and Debtor's father. The stated purpose of the loan was to pay off the balance of the existing line of credit owed to VIST by PGE. At some time after March 7, 2007, the parties realized that Debtor did not own the Home. M & T changed the loans
On April 27, 2007, Debtor's father, as president of PGE, signed a note in the amount of $250,000 for money loaned to PGE by M & T.
On June 8, 2007, Debtor's father, as president of PGE, signed a second note, in the amount of $400,000, for money loaned to PGE by M & T.
Presumably, the proceeds of the two loans in excess of the amount paid to eliminate the VIST line of credit were intended for PGE to pay its debts related to producing the Stacker and to replenish its working capital.
Debtor's testimony was unambiguous that he believed it was his moral responsibility to "repay" $400,000 to PGE to reimburse it for development costs of the Stacker technology. Neither Debtor nor any other witness testified about any agreement (whether oral or written) through which PGE gave Debtor the Stacker technology in exchange for taking on the $400,000 debt. Debtor felt it was his moral obligation to repay the $400,000. Debtor said nothing, furthermore, about any obligation, intention, or moral compunction to repay an additional amount of
Starting in at least 2000, a Scheffler family trust held title to the Home. Debtor was permitted to live in the Home, provided he pay all bills for its utilities, maintenance, etc. Debtor made all such payments and put a substantial additional amount of effort and time (and his parents' money) into significantly expanding and improving the Home. Debtor's uncontradicted agreement with his family was that the trust would convey title to the Home to him if he continued to pay all expenses and if he repaid to his parents the debt relating to his improvement of the Home. Debtor repaid his family for the cost of the improvements by reimbursing them for each payment they made to Bank of America, which held the BoA First Mortgage on the Home. At the time Debtor filed his bankruptcy petition, the debt to Bank of America secured by the BoA First Mortgage was $148,556.16.
On April 25, 2007, however, before Debtor had any opportunity to pay the BoA First Mortgage in full, the family trust conveyed title for the Home to him.
None of the proceeds from either the $250,000 loan or the $400,000 loan were
On November 24, 2008, one and a half years after the loans were advanced and the mortgages were recorded, PGE and SAS first entered into the Technology License. The Technology License was effective "as of July 1, 2007." Defendants ignore its language and claim that it formalized the technology transfer. By November 2008, Debtor and SAS were in dire financial straits and were a hair's breadth from collapsing.
Debtor and SAS had a number of orders for Stackers and worked very hard to produce them for their customers. But they lost a great deal of money on every Stacker they sold. Debtor lived out of his car trying to install a Stacker at the facilities of a customer because SAS could not afford for him to stay in a cheap motel. SAS sold the Stackers for far less than the cost of their raw materials. SAS and Debtor had no funds to cover labor, administration, utilities, legal, accounting, insurance, other overhead, and all other soft and hard sales and production costs, such as a cheap motel room. For every Stacker that Debtor and SAS manufactured and sold, they lost ever more money, spiraling into inevitable financial oblivion.
These factors strongly influence, but do not control, my finding that the Technology License had no value. For my decision of the value of the Stacker technology, I accept and rely on Trustee's expert witness.
In the battle of the experts, I was faced with two very different approaches to evaluate the technology and the Technology Licence that enabled Debtor and SAS to manufacture the Stackers. I could not avoid believing that Defendants' expert would have grasped any approach he could find to establish some value in the Stacker technology. On the other hand, Trustee's expert, David Weinberg, simply, rationally, and credibly presented the facts necessary to determine the (absence of) value of the Stacker technology as an integral part of the business of Debtor and SAS and presented his opinion accordingly. I find the opinion about the lack of value of the Stacker technology presented by David Weinberg to be clear, succinct, and credible, comporting with all that my prior legal and current judicial experience in business transactions tells me is correct. I will set forth my analysis of both experts and their opinions.
Perm Hudson Financial Group is a well known regional financial advisory and counseling firm. David Weinberg is the Managing Director for Penn Hudson in its Crisis Management and Small Cap Transactions Group. He earned an M.B.A. from Cornell and an M.S. in Taxation from Temple.
Counsel for PGE acknowledged Mr. Weinberg's expertise in the matter of valuing a company, but he objected to admitting him as an expert in evaluating intangible assets. He noted that none of Mr. Weinberg's listed skills included determining the value of intellectual property. I was entirely satisfied, however, with Mr. Weinberg's response that an integral part of the valuation of any company must be a determination of how its assets, including intangibles, are or are not sources of cash flow (whether positive or negative). His evaluations have included his analyses of various intangible assets, including method patents. His view of licensed rights such as the Technology License focuses on the cash flow that the holder of such rights enjoys (or suffers) from them. The value of an asset (tangible or intangible) in a company is ultimately determined by whether such asset generates cash that provides an appropriate rate of return. Mr. Weinberg has opined in the past about
Mr. Weinberg acknowledged in cross-examination that he had never been admitted as an expert in court solely about the value of a technology license and had been engaged only once for his written opinion of the value of a general intangible — a brand name. He also explained that he had no specific training in the legal side of technology assets, but that his training and experience were concentrated in the economic aspects of such property.
PGE objected to Mr. Weinberg's qualifications as an expert on the valuation of a licensing right. M & T, although conducting no cross-examination on this issue, joined in PGE's objection. I overruled the objections largely on the basis of Mr. Weinberg's last comment on cross-examination. He stated, quite frankly, that he may not be able to understand, even generally, what a Stacker does, and he might not be able to apply for its legal patent, and he might not be able to understand its technological workings. He went on to testify that, although he might not know much about the legal or technical aspects of a specific technology, he knows about the economic value of any asset, including intangibles, significant to a business. For quite some time over the past few years, a buyer (or a court) would be unable to evaluate a company without considering its intellectual property as integral to the evaluation of the company.
I admitted Mr. Weinberg as an expert in the valuation of SAS, including the economic value of its various components, specifically the Stacker technology.
Mr. Weinberg examined SAS's tax returns and other financial information, both internally and accountant prepared. This included the opinion letters prepared by the accountants and summaries of the financial performance of SAS. He reviewed general information about the printing equipment industry and the Technology License. Mr. Weinberg concluded that SAS had no value at any time he could evaluate it from 2006 through SAS's close of business in 2008. SAS's financial difficulties were created by selling the Stacker for prices less than the cost of its raw materials. No matter how many Stackers SAS sold, it had historically enjoyed, and would in the future enjoy, no profit. Payroll, travel, administration, insurance, utilities, and other hard and soft operating costs and expenses could not be paid from the revenue generated by sales. By Spring 2007, SAS already had substantial negative net worth. Its value at that time and at its inception in August 2006 was Zero.
Mr. Weinberg described the Technology License as restrictive, punitive, and deprivative: Restrictive because it could not be transferred, assigned, or sublicensed; punitive because PGE could cancel the license without cause on 30-days notice, take and finish all work in process, and retain all compensation arising from that work; and deprivative because the license was non-exclusive and PGE could assign the technology to any other business or businesses. Beyond these three negatives, the technology also was said to be subject to the security interest in general intangibles pledged by PGE to M & T to secure PGE's debt owed to M & T.
The only value (such as it was) that Debtor enjoyed from the Technology License was fulfillment of his aspiration to use the technology to run his own business. Debtor, individually and through SAS, tried to use the Stacker technology to manufacture a product that would sell for more than it cost to produce. Had he done so, he would have had no protection
Furthermore, any value that might be attributed to the Technology License was only as of July 1, 2007, the effective date of the Technology License. The two mortgages were imposed in April and June 2007. The time for any valuation, therefore, expired before the Technology License came into existence, even retroactively.
As a result of all of the detriments to determining that the Technology License had any value, Mr. Weinberg concluded his direct testimony with his conclusion that the economic/monetary value of SAS for April-June 2007 was Zero. Interestingly, although it can certainly be inferred from his testimony, Mr. Weinberg did not expressly say in his direct testimony that the value of the Technology License was Zero. This omission, if omission it was, was remedied on Defendants' cross-examination of Mr. Weinberg.
Cross examination by counsel for both PGE and M & T did not discredit or shake anything Mr. Weinberg said in his direct examination. To the contrary, Defendants' cross examination of Mr. Weinberg added substantial meat to the bones of his direct testimony. In response to a question from PGE's counsel, Mr. Weinberg testified that he was referring to the value of SAS that would be embedded in its equity by virtue of having access to the Technology License. But, he added, the value of the Stacker technology to SAS was Zero. Reviewing the Technology License alone, with its restrictive, punitive, and deprivative nature, he accorded no value on the open market for the Technology License.
Merely because Debtor never actually attempted to transfer, assign, or sub-license the technology to a third party other than SAS does not mean that Debtor or SAS would not have later decided to do so.
I stress a couple points. First, Mr. Weinberg's opinion of value was as of April — June 2007. Mr. Weinberg did not make a retroactive evaluation based on the financial failures of SAS in the end of 2007 through 2008. Although SAS collapsed less than one and a half years later, Mr. Weinberg noted his reliance solely on financial information of Debtor and SAS in 2006 and 2007 to determine the technology's value was Zero. From its inception in PGE, through Debtor's sole proprietorship, through the first nine months or so of SAS, every Stacker that PGE, Debtor, or SAS sold lost money for them. As of April-June 2007, based on (1) the financial performance of PGE, Debtor, and SAS leading up to that time frame and (2) the terms of the onerous Technology License, Mr. Weinberg found that the Stacker technology had Zero economic value. I agree.
The opined worthlessness of the Stacker technology was confirmed, not established, by the continual losses incurred by Debtor and SAS. As noted in testimony, SAS continued through 2008 to sell Stackers for less than the cost of raw materials. This is further evidenced by Debtor's list of over $800,000 of unsecured debt in his Schedule F,
Defendants' expert was Damon Neagle, a local attorney concentrating his practice in intellectual property. He has been involved in the valuation and sale of numerous intellectual property assets.
Mr. Neagle, unlike Mr. Weinberg, made serious leaps of faith and failed analyses to arrive at his two very different valuations ($440,000 and $793,000) of the Stacker technology. Under his "cost" approach valuation, Mr. Neagle said simply that because it cost PGE at least $440,000 to develop the technology, its value was $440,000. The absurdity of this statement is stunning. The cost approach to evaluating buildings is standardized because volume after volume of construction manuals contain average prices for constructing different types and sizes of buildings with various materials. Using the average, standard prices for bricks and mortar, a real estate evaluation professional can accurately estimate how much it might cost to build the structure and thereby establish one measure of its value. On the other hand, using the cost of development of a single, unique asset such as the Stacker technology as its value falls flat in all respects.
Mr. Neagle assumes that it cost PGE at least $440,000 more than its sale price to develop the Stacker technology from the ground up. PGE claims that it cost quite a bit more than $400,000 over its selling price for the first three Stackers. Hypothetically, if PGE had not run into as much trouble with its initial production of the prototype Stacker through a third party and if it had cost PGE only $200,000 more than its sales price to produce, would that mean the value of the identical technology was $200,000? If the cost to produce had been $10,000, what would the technology be worth? What if Debtor, as an employee of PGE had been able to develop the technology at no cost over the price paid for the prototypes? Would the Stacker technology be worthless? It may very well be worthless, but its worthlessness has nothing to do with what it cost to develop it. Using the cost method to develop a unique technology, whether by
Mr. Neagle also evaluated the Stacker technology using a capitalization of hypothetical income approach to derive a value of $793,000. To develop the income approach value, Mr. Neagle assumed a profit of 8% arising from the sale of Stacker units produced using the technology at issue. He also assumed a ten-year useful life of the technology. Both the profit margin and the useful life are figures obtained from thin air. Mr. Neagle used the 2010 (not 2007) Quarterly Financial Report of The U.S. Census Bureau containing the average pre-tax profit margins for manufacturers of electrical equipment, appliances, and components. Mr. Neagle looked at the economics of a wholly unrelated industry and ignored the actual, terrible absence of profit from selling every one of the Stackers at a huge loss. He believes the technology had value simply because it worked and because SAS had buyers for the Stackers. Disregarding that each Stacker sold for less than even the raw material costs of manufacturing it, Mr. Neagle found that his income approach led to the incredible value of $793,000 for the technology.
No witness testified that, with perhaps some tweaks or twists, the Stackers could be produced at a cost that would generate a profit. No witness testified that, after the first dozen units had been manufactured and sold, the cost to produce each Stacker thereafter would be reduced sufficiently to generate a profit. No witness testified that, with another $1,000,000 of capital invested in SAS, the Stacker technology could become more efficient and sales of the Stacker would thereby generate a profit. No witness testified that the Stackers could now (or soon or ever) be sold at a higher price, well in excess of raw materials and all other costs. No witness testified to anything that might possibly lead me to believe that production of the Stackers based upon the technology would, could, or might somehow generate even a gross profit, let alone a net profit for Debtor or SAS. The only testimony about future sales was that the more Stackers that SAS made and sold, the more money it lost and would lose.
As I mentioned above, I find Mr. Neagle's evaluation of the Technology License to be incredible. I reject both his cost approach valuation of $440,000 and his income approach valuation of $793,000.
Upon my closer analysis of the Technology License, I find a different twist based on both the license itself and the testimony of the parties. The Technology License was not a formalization of the previously silent permission of PGE to allow Debtor and SAS to develop the Stacker. In November 2008, the writing was on the wall regarding the inevitable fate of SAS. Its fruitless efforts to make a bare living for Debtor by producing the Stackers was utterly failing. Debtor's family realized that the Stacker technology, however valueless it might be, would be lost upon the collapse of SAS. PGE conferred with patent counsel, who developed the incredibly one-sided Technology License on behalf of PGE. Debtor testified that he did not negotiate any of the terms of the license. Furthermore, no one testified about any terms imposed on Debtor when he was first permitted to use the technology to
Debtor accurately claimed in his Schedule B that the value of defunct SAS was Zero. If the Stacker technology is truly worth between $440,000 or $793,000, SAS would have had substantial value by holding that technology. Where then is the Stacker technology? If SAS does not have this asset, who does? Did PGE "take" the technology some time during 2009, after Debtor and SAS gave up their fight and closed, but before (or after) Debtor filed his underlying Chapter 7 case? Shortly before (or after) Debtor's bankruptcy filing, did PGE take from the control of the estate an SAS asset worth $440,000 to $793,000? The record does not reflect any investigation or action by the Trustee along these lines. But the lack of any such investigation would be appropriate in light of the Trustee's belief that the Stacker technology is worthless. If this litigation were to establish that the technology has great value and that PGE took it back after Debtor's filing or within a year before Debtor filed, further consideration by the Trustee might be appropriate.
In Spring/Summer 2006, Debtor produced (or at least started to produce) Stackers as a sole proprietorship. In August 2006, he formed SAS, gave unfettered use of the Stacker technology to SAS, and allowed SAS to manufacture the Stackers. No evidence suggested that Debtor needed or sought PGE's permission to transfer the technology to SAS. The Technology License would have prohibited such transfers of the technology if it had been in effect in 2006, but Debtor had clearly transferred the technology. This shows that the November 2008 creation of the Technology License was not a formalization of PGE's prior permission to Debtor and then SAS to use the technology, but was a new set of restrictive, punitive, and deprivative terms limiting the technology.
In the first section of their Joint Pre-Trial Statement, all three parties agreed as follows: "Jurisdiction of this Court is invoked pursuant to 28 U.S.C. § 1334, and this is a core proceeding under 28 U.S.C. § 157(b)(2)(A), (H), and (O)."
PGE's brief is accurate, including its presentation of the applicable law, until PGE addresses the value of the Technology License. In Counts I and II of the complaint, Trustee seeks to avoid the Second M & T Mortgage and the Third M & T Mortgage as constructive fraudulent transfers. Trustee bases his action on the Bankruptcy Code's adoption, among the powers of a Chapter 7 trustee, of the Pennsylvania law of fraudulent transfers: Sections 544 of the Bankruptcy Code, 11 U.S.C. § 544; and Sections 5101 et seq. of the Pennsylvania Uniform Fraudulent Transfer Act, 12 Pa.C.S.A. § 5101 et seq. ("PUFTA").
Section 544 of the Bankruptcy Code provides that the Trustee shall have any powers that creditors of the estate could hold at the start of the case to avoid transfers of property. Section 5104(a) of PUFTA provides:
12 Pa.C.S.A. § 5104(a).
PUFTA Section 5104(a)(1) does not pertain to this action because Trustee does not assert that Defendants' actions constituted an actual fraud. Rather, Trustee asserts that Defendants engaged in a constructive fraud pursuant to PUFTA Section 5104(a)(2). The four elements of so-called constructive fraud are: (1) Debtor had an interest in property; (2) Debtor transferred that interest within four years before Debtor filed his bankruptcy petition; (3) Debtor was insolvent at the time of the transfer or became insolvent as a result of the transfer; and (4) Debtor received no reasonably equivalent value for the transfer. BFP v. Resolution Trust
Although each of the four elements must be proven, the parties in this litigation focus on the fourth element — whether Debtor received reasonably equivalent value in exchange for the two M & T mortgages on his Home. This fourth element requires two analyses. First, did Debtor get any value in exchange for the Second M & T Mortgage (securing the $250,000 loan) and the Third M & T Mortgage (securing the $400,000 loan)? And second, if Debtor received some value, was the value that he received reasonably equivalent to the value of the two mortgages he gave to M & T?
I accept and agree with PGE's statement that the burden falls on Trustee to prove that Debtor's grant of the two mortgages constituted a fraudulent transfer. Pension Transfer Corp. v. Beneficiaries Under the Third Amendment, etc. In re Fruehauf Trailer Corp., 444 F.3d 203, 211 (3d Cir.2006). See also Fidelity Bond and Mortgage Co. v. Brand, 371 B.R. 708, 716-22 (E.D.Pa.2007) (detailed analysis of PUFTA, the comments of the committee that drafted PUFTA, and the legislative history as they pertain to the burden of proof). Trustee therefore has the burden of establishing each of the elements required to be proven to avoid a transfer as constructively fraudulent. These elements should be considered in or about the relevant time frame in which Debtor encumbered his Home — April to June 2007. Merely because the burden of proof rests with Trustee, however, does not abrogate Defendants' concomitant obligation to persuade me that Debtor received reasonably equivalent value for the M & T mortgages. Defendants failed to do that.
Although no party makes much of the issue of Debtor's interest in his Home, the fits and starts and stumbling through which the various transfers of property occurred highlight the issue of Debtor's interest in the Home. The testimony is uncontradicted (indeed, the parties stipulated)
From 2000 through his bankruptcy, Debtor had an unchallenged possessory interest in his Home. Debtor also had a contractual promise from the family trust that it would convey title to the Home to him when he repaid his parents' debt owed to Bank of America. Debtor had an equitable interest in the Home to the extent he had created any of its value through his efforts. At the time of the initial application to M & T to borrow the money, everyone seemed to believe that the Home was already titled in Debtor. M & T's title search revealed that the family trust had not yet conveyed title to Debtor.
In April 2007, Debtor held all legal aspects of owning the Home except title. Debtor possessed the Home, held an equitable interest in it, and held a contractual interest in it, all through 2006 when he left PGE into Spring 2007. The family trust's April 25, 2007 conveyance of title was a mere formality, completing a transaction that the parties had long agreed to.
I find and conclude that Debtor owned a substantial interest in the Home, which was consummated on April 25, 2007, when all attributes of ownership of the Home — legal, equitable, and possessory — were unified and the family trust finally conveyed title to him. Trustee satisfied the first element of Trustee' proof of a constructive fraudulent transfer: Debtor held a substantial interest in his Home when the M & T mortgages were recorded against it. BFP, 511 U.S. at 535, 114 S.Ct. 1757.
Debtor transferred a substantial interest in his Home on April 27, 2007 when he executed the Second M & T Mortgage, mortgaging his Home to secure the $250,000 debt owed by PGE to M & T. He also further transferred another substantial interest in his Home on June 19, 2007, when he executed the Third M & T Mortgage, mortgaging his Home to secure the $400,000 debt owed by PGE to M & T. Trustee's action to avoid the transfer was initiated timely upon the filing by Debtor of his Chapter 7 bankruptcy on August 14, 2009 and upon the filing by Trustee of this adversary proceeding on December 29, 2009. See 12 Pa.C.S.A. § 5109(2); 11 U.S.C. §§ 544 & 546(a); Sears Petro., 417 F.Supp.2d at 224-25. Trustee satisfied the second element of Trustee's proof of a constructive fraudulent transfer: Trustee filed the complaint well within the four-year period after Debtor's April and June 2007 mortgages were granted to M & T and well within two years after the date he
A debtor is insolvent under PUFTA Section 5102(a) when the sum of all of his debts exceeds the value of all of his assets. 12 Pa.C.S.A. § 5102(a). Under any balance sheet test. Debtor was insolvent from the time he voluntarily undertook to pay PGE the $400,000 in Spring/Summer 2006 through the date he filed his bankruptcy petition. A list of Debtor's assets and liabilities was provided to M & T in a May 2007 personal financial statement. His assets (and their values) and the amounts of his debts from early 2006 through late 2008 were either listed on Debtor's personal financial statement or provided through testimony at trial.
PGE granted Debtor the right to use the Stacker technology when he left PGE in Spring/Summer 2006. No terms limiting, restricting, or qualifying the use of the technology by Debtor and SAS from Spring/Summer 2006 through June 2007 were described by any witness or contained in any exhibit. With apparently free reign. Debtor transferred the Stacker technology to his company SAS in August 2006.
Mr. Weinberg reviewed the 2006 transfer of the technology and the Stacker orders that PGE gave to Debtor. The transfer of the Stacker orders included the transfer from PGE of a $300,000 deposit toward the purchase price for the Stackers. Mr. Weinberg testified, and I agree, that the value to Debtor and SAS of receiving the $300,000 in 2006 was, at best. Zero, because the obligation to manufacture and deliver the cash-draining Stackers necessarily accompanied the deposit.
Mr. Weinberg's entirely credible opinion about the value of the Stacker technology included his determination that both SAS and the technology were worthless at all times from 2006 to July 2007. Under any circumstance, the November 2008 Technology License was inexplicably made retroactive only to July 1, 2007, and therefore does not apply to the period of Spring/Summer 2006 through June 2007, The entire valuation process by Defendants is tainted by the dates that critical events occurred. If the Technology License was solely intended to memorialize the terms by which PGE allowed Debtor and SAS to use the Stacker technology, it should have dated back to Spring/Summer 2006, when Debtor started using the technology. Defendants presented no evidence explaining why the Technology License related back to a date after the M & T mortgages were granted and recorded.
A rough breakdown of Debtor's assets and liabilities over time is helpful in identifying Debtor's insolvency for the critical period of April through June 2007 when the mortgages were granted. Through the following compilation of assets and liabilities, I set forth only the status of who owns the significant assets, who owes the significant liabilities, and to whom those liabilities are owed.
He owned 100% of newly formed SAS, to which Debtor had assigned his prior interest in the Stacker technology. As I noted above, I have no evidence that anyone had told Debtor that (1) he could not transfer or assign the Stacker technology to SAS or (2) the use of the Stacker technology by SAS was qualified, limited, or restricted in any way. When Debtor launched his business as a sole proprietorship producing Stackers, he was given the Stacker technology by PGE, whose attitude appears to have been, "Good riddance!" Nevertheless, use of the Stacker technology put SAS into position to lose a great deal of money with every Stacker unit it manufactured. SAS, holding the Stacker technology and the ability to manufacture Stackers as its primary asset, was worthless. Debtor's ownership interest in SAS was worth Zero. Debtor acknowledged that SAS had Zero value in his May 2007 personal financial statement.
In April 2007, Debtor had retained a $50,000 PGE pension account. Debtor had voluntarily assumed $400,000 of PGE's debt, which obligation tipped the scales negatively resulting in Debtor's insolvent position.
Debtor was insolvent in early April 2007.
Debtor was insolvent on April 25, 2007.
Debtor was insolvent on April 27, 2007.
Debtor was insolvent in June 2007.
Debtor was insolvent on July 1, 2007.
Based upon my acceptance of Mr. Weinberg's opinion that the economic value of the Stacker technology and SAS were Zero at all times relevant to this dispute,
Determining whether Debtor received reasonably equivalent value is the next step in resolving this dispute. BFP, 511 U.S. at 535, 114 S.Ct. 1757. This last element requires a more or less bifurcated approach in considering assets that might have provided value. First, did Debtor receive any value in or about April and June 2007, in exchange for encumbering the Home with the M & T mortgages? Value includes any benefit, whether direct or indirect. R.M.L., 92 F.3d at 150. The mere opportunity to receive value in the future could constitute present value. Id. at 148. But, based on the circumstances that existed at the time of the transfer, was it legitimate and reasonable to expect some value accruing to Debtor? Id. at 152.
Second, if Debtor received at least some value, was the value reasonably equivalent to the value of the property that Debtor transferred? Fruehauf, 444 F.3d at 212. For this aspect of my consideration, I look to the totality of the circumstances
But second and more important, Debtor received no value from the Stacker technology in exchange for the M & T mortgages in April and June 2007. The technology was given to Debtor a year earlier, in Spring/Summer 2006. Debtor used the technology in his immediate and unprofitable production of Stackers as a sole proprietor. After he incorporated SAS, he freely transferred the technology to his new company. Debtor had unencumbered use of the Stacker technology a full year before his Home was liened by the M & T mortgages.
Debtor received nothing relating to the Stacker technology in exchange for the M & T mortgages. The Stacker technology could not constitute any value to Debtor in exchange for the April and June 2007 mortgages. Nevertheless, I will complete the analysis and note, alternatively, that the Stacker technology, if it did give any value, did not constitute reasonably equivalent value for the M & T mortgages.
Concern about the Statute of Frauds is easily ameliorated. In Pennsylvania, the law of the Statute of Frauds was codified centuries ago.
In 2009, the Pennsylvania Commonwealth Court reviewed and restated the requirements to uphold an oral agreement to convey real estate, despite the Statute of Frauds. Firetree, Ltd. v. Department of General Services, 978 A.2d 1067, 1074-75 (Pa.Commw.Ct.2009). The court noted that a buyer advancing an oral agreement for the sale of real property must prove four elements: (1) The terms of the agreement are full and complete and are satisfactorily set forth; (2) the amount of the consideration to be paid is well-established; (3) the buyer possesses the property pursuant to the terms of the agreement, openly and notoriously; and (4) buyer's obligations have been partially or fully performed, thereby making rescission inequitable and unjust. Id. at 1075. The court refers to a prior Pennsylvania Supreme Court decision requiring that the above elements of proof must be established "beyond a doubt." Id. at 1075, citing Kurland v. Stolker, 516 Pa. 587, 533 A.2d 1370, 1373 (1987).
Furthermore, the rule is well-settled that if the buyer under an oral agreement for the purchase of real estate expends labor and money to improve the property, the contract is partly performed and the Statute of Frauds does not apply. Skiba v. Sipple, (In re Sipple), 400 B.R. 475, 478 (Bankr.W.D.Pa.2009)(quoting 33 A.L.R. 1489, 1491-92); Hostetter, 547 A.2d at 1251 citing Zlotziver v. Zlotziver, 355 Pa. 299, 49 A.2d 779, 781 (1946). An oral contract for the sale of real estate will be enforced when, in addition to taking possession of the property, the buyer has paid all or a portion of the required payments. Id. Evidence of possession and substantial improvement is sufficient to take the contract out of the Statute of Frauds. Id. Evidence of possession and payment of a substantial amount of the monetary consideration also weighs in the decision to enforce an oral agreement. Id. All of the above elements of an enforceable oral agreement for the sale of real estate were satisfied as of April 25, 2007.
The terms of the family trust's agreement to convey the Home to Debtor were clearly and satisfactorily presented in evidence and stand uncontradicted. The Kurland requirement of proof beyond a doubt of the terms and consideration for the property was satisfied. If Debtor paid all costs and expenses for the upkeep of the Home and if he paid the Bank of America debt for the substantial improvements to the Home, the family trust would be legally bound to convey title to the Home to him. The terms were clear and unambiguous and Debtor unquestionably
What then occurred on April 25, 2007? The family trust simply accelerated conveyance of title to Debtor. He remained bound to repay Bank of America (the Home was encumbered by its mortgage). No other consideration was required; no other conditions existed. Debtor did receive some value from the accelerated conveyance, but the only value was the minimal value of finally having legal title conveyed to him. He was already contractually and equitably entitled to all of the benefits, equity, and emoluments of owning the Home. Having final legal title in his name had some value, but it certainly was not value reasonably equivalent to the loss of all of the equity in the Home when encumbered by the M & T mortgages.
Counsel for M & T argued that the title and therefore ownership of the Home provided only minimal value to Debtor because it had already been orally pledged to be encumbered. I agree with his point about the value being slight, but not for the reason he advanced. Counsel for M & T said the Home was never an unencumbered asset. He is incorrect. M & T referred to stipulated fact No. 22, in the Joint Statement, which reads: "At the time [the Home] was conveyed to the Debtor, he and his parents understood and agreed that [the Home] was to collateralize the loans by M & T Bank to PGE." This is very different from arguing that the Home provided reasonably equivalent value in exchange for the two M & T mortgages. The stipulated language does nothing other than establish that the parents intended to accelerate the conveyance of title that they were obliged to convey upon the occurrence of certain expressed conditions. The stipulated language notes that if they did accelerate that which had been promised and agreed. Debtor would, at some time in the future, encumber the Home with mortgages to M & T. That is not reasonably equivalent value.
My use above of $520,000 as the value for the Home neither hurts nor helps Trustee and neither hurts nor helps Defendants. Assuming that the unproven value of $520,000 for the Home, Debtor was insolvent. Debtor testified that he had no recollection of preparing the May 2007 personal financial statement. He thought he might have signed it in blank and that some other person completed it. The evidence is clearly insufficient for me to determine the value of the Home as of that time. I did not and could not use Debtor's unsupported value of his Home as support for Trustee's Count III (or for any other disputed, substantive issue that might exist). Whatever the value of the Home, however, Debtor already "owned" its equity (value of the Home less the $160,000 debt secured by the BoA First Mortgage) through his agreement with the
The value conferred by simple conveyance to Debtor of title to the Home was negligible. Debtor could have initiated an action for specific performance of conveyance of title (if and when he had paid off or refinanced the Bank of America debt) to force the family trust to convey title, thereby giving him the Home. But the de minimis value of the legal title is insufficient to constitute reasonably equivalent value for granting the two M & T mortgages.
Finally, neither Defendant argued that the Home was, in fact, the reasonably equivalent value given to Debtor in exchange for the M & T mortgages, even after I asked them to do so in the March 2012 oral argument. They waived this argument. Alternatively, therefore, I decline to consider either the Home or title to the Home as value that Debtor received in exchange for the M & T mortgages.
Two reasons lead me to conclude that the Home was not reasonably equivalent value received in exchange for the two M & T mortgages: (1) The legal relationships relating to the conveyance of title in the Home resulted in only minimal value, certainly not reasonably equivalent value, being given to Debtor and (2) the decision of the Defendants not to claim/argue that the Home constituted reasonably equivalent value.
Neither title to the Home nor the mortgages securing M & T's loan replacing Debtor's former $400,000 obligation to PGE provided reasonably equivalent value in exchange for Debtor surrendering all of the equity in his Home.
For the third Fruehauf element, I find and conclude that all participants acted in good faith in all aspects of the transfers occurring in April and June 2007 (this finding is based entirely on the parties' agreement). This finding of good faith pales in comparison to the inadequacy of the purported value of that which was given to Debtor in exchange for the two M & T mortgages.
Using the totality of the circumstances test, I find that Debtor did not receive fair market value reasonably equivalent to that which he gave up, that the transactions were not at arm's length, but that the parties acted in good faith.
Trustee has successfully proved that Debtor's grant of the Second M & T Mortgage and the Third M & T Mortgage were constructive fraudulent transfers. Trustee established that Debtor transferred a property interest with significant value by mortgaging his Home to M & T to secure his guaranty of two loans in the aggregate amount of $650,000. The Stacker technology had been given to Debtor, without reserve or limitation, a full year before Debtor's Home was encumbered by the M & T mortgages. The Stacker technology could not, therefore, constitute any value for the mortgages. Assuming that the period from Spring/Summer 2006 though April 2007 could be rolled into a single overall transaction. Debtor's ability to run his own business might have constituted some value. But Trustee also proved that the Stacker technology had Zero economic value. For these reasons, the Stacker technology provided no reasonably equivalent value to Debtor in exchange for the two M & T mortgages on Debtor's Home in April and June 2007.
Defendants ignored the conveyance to Debtor of title of his Home and therefore waived any argument that the conveyance of naked legal title by the family trust constituted reasonably equivalent value. Debtor had been faithfully performing all of the required conditions for conveyance of title. The only benefit Debtor received therefore in having title conveyed to him on April 25, 2007, was obtaining title earlier than would have occurred under the terms of his agreement with his parents. In April 2007, Debtor received legal title to join his equitable, contractual, and possessory interests in his Home. Debtor had already enjoyed most of the value of the Home when he got title. For these reasons, neither the Home nor title to the Home provided reasonably equivalent value to Debtor in exchange for the M & T mortgages in April and June 2007.
Furthermore in the totality of circumstances, although all parties acted in good faith, the entire bundle of transactions in
I find and conclude that Debtor's grant of both the Second M & T Mortgage and the Third M & T Mortgage constituted constructive fraudulent transfers. I will enter judgment in favor of Trustee and against Defendant M & T
Finally, for the reasons stated earlier, I will enter judgment in favor of Defendant M & T and against Plaintiff Trustee in Count III of the complaint.
AND NOW, this 5 day of June, 2012, upon my consideration of the testimony and exhibits presented at trial in the above adversary proceeding on September 7 and 8, 2011, and upon my consideration of the post-trial arguments and the post-trial briefs filed by the three parties to this litigation, and upon the findings of fact, conclusions of law, and discussion in the accompanying Memorandum Opinion,
IT IS HEREBY ORDERED that JUDGMENT IS HEREBY ENTERED IN FAVOR OF PLAINTIFF AND AGAINST DEFENDANT M & T BANK in Counts I and II of the above adversary complaint.
IT IS FURTHER ORDERED that the Second M & T Mortgage and the Third M & T Mortgage, as defined in the accompanying Memorandum Opinion, are HEREBY AVOIDED and of no force or effect.
IT IS FURTHER ORDERED that JUDGMENT IS HEREBY ENTERED IN FAVOR OF DEFENDANT M & T BANK AND AGAINST PLAINTIFF TRUSTEE in Count III of the above adversary complaint.
Debtor failed to identify, as a lien against his Home, a judgment that was entered in Berks County against Debtor and in favor of Manufacturers and Traders Trust Company in the amount of $77,931.20 at docket number 09-5526 (Berks County Court of Common Pleas) on May 6, 2009. The judgment creditor's name. Manufacturers and Traders Trust Company, is another name of Defendant M & T. See Exhibits T-9 and T-11, which are the M & T mortgages at issue in this case, both of which are in the name of Manufacturers and Traders Trust Company. Debtor immediately moved to avoid this lien as impairing his exemption pursuant to Section 522(f) of the Bankruptcy Code. Through my Order dated September 23, 2009, I granted Debtor's unopposed motion to avoid the judgment lien.
Although I may not take judicial notice sua sponte of the facts contained in the debtors' files that are in dispute, In re Aughenbaugh, 125 F.2d 887 (3d Cir.1942), I may take judicial notice of adjudicative facts "not subject to reasonable dispute ... [and] so long as it is not unfair to a party to do so and does not undermine the trial court's fact finding authority." Indian Palms, 61 F.3d at 205 (3d Cir.1995) (citing Fed.R.Evid. 201(f) advisory committee note (1972 proposed rules)).
I discuss the Technology License at more length below.
Pennsylvania's Statute of Frauds does not disallow a debt obligation that the debtor acknowledges (the $400,000), but it blocks a claim of an oral assumption of the debt of another if it is not expressly acknowledged by the purported debtor (the additional $250,000). 33 P.S. § 3. Debtor's written (and executed) guaranty of PGE's debt owed to M & T is valid, of course, but it represents a significant, previously unacknowledged increase of his prior "moral" obligation.
Both BFP and RML refer to one-year time limitations prescribed in Section 548 of the Bankruptcy Code, 11 U.S.C. § 548. PUFTA Section 5109(2), 12 Pa.C.S.A. § 5109(2), provides the four-year limitation period.
