In a significant decision for lenders to distressed companies, the United States Court of Appeals for the Eleventh Circuit has reinstated a decision by the Bankruptcy Court for the Southern District of Florida to unwind a secured loan transaction on fraudulent transfer grounds. In re TOUSA Inc., No. 11-11071 (11th Cir. May 15, 2012).

As discussed in our prior memos (Bankruptcy Court Voids Subsidiary Guaranties and Liens as Fraudulent Transfers, November 2, 2009, and Controversial Fraudulent Transfer Ruling Reversed on Appeal, February 18, 2011), TOUSA involved a parent company that in July of 2007 caused certain of its subsidiaries to guarantee and secure $500 million in new secured debt, which was used to fund a litigation settlement with a pre-existing unsecured lender group to which the parent had been obligated but the subsidiaries had not. The bankruptcy court determined that the transaction was a fraudulent transfer as to both the new lenders and the lenders who were repaid, concluding that the subsidiaries had not received “reasonably equivalent value” for securing and guaranteeing loans used to repay parent company debt. In the view of the bankruptcy court, because the challenged transaction made it “inevitable” that the subsidiaries would file for bankruptcy, as they ultimately did in January 2008, the subsidiaries did not receive value from the transaction, even though it permitted them to forestall an immediate bankruptcy that would have resulted from an adverse judgment against the parent company triggering defaults on over $1 billion of debt that the subsidiaries had guaranteed. See In re TOUSA, Inc., 422 B.R. 783 (Bankr. S.D. Fla. 2009).

(more…)