US v. Gleneagles Investment Co. case brief

US v. Gleneagles Investment Co.
(M.D. Pa. 1983)

1. Creditors of company taken over in LBO claim that mortgages are fraudulent conveyances. Pennsylvania law follows the UFCA.
   1. Players
      1. Raymond Collier—corp controlled by two families, the Gillens and the Clevelands
         1. Owned/controlled numerous coal companies
      2. Great American (GA)—corp, only asset was option to buy Raymond Collier stock
      3. IIT— LBO lenders
   2. Deal – IIT agreed to lend $8.5 to RC companies; which agreed to execute mortgages guaranteeing the loan; the mortgages were secured by encumbrances on the assets of the borrowing companies
      1. IIT’s in-house counsel advised that the loan structure might hinder collection efforts by RC’s present and future unsecured creditors; IIT’s outside counsel declined to provide an opinion letter
      2. RC lent $4m of the $7m direct loan proceeds to Great American, which issued to each borrowing company an unsecured note promising to repay the loans on the same terms as the IIT loan
   3. GA used the loan to purchase RC stock from the two families; GA had no source of income besides RC dividends, which were prohibited.
      1. So GA had no income at all until loan repaid.
   4. Claim Creditors allege that the mortgages are fraudulent conveyances
      1. Conveyance will not be set aside if it was made for fair consideration
      2. If not made for fair consideration, then look if insolvent (PA §354) or undercapitalized (PA §355) to see if fraudulent
   5. (1) Did RC Receive Fair Consideration in Exchange for the Mortgages? NO!!!
      1. Fair exchange is given for property or obligation when, in exchange for such property or obligation, as fair equivalent therefore and in good faith, property is conveyed or antecedent debt is satisfied
      2. The Loan Agreement was the obligation given in exchange for the loan proceeds. So, the obligation to repay the IIT loans must be the “fair equivalent” of the loan proceeds obtained by RC.
      3. First Step: Did IIT transfer the loan proceeds in good faith? Is bad faith enough?? To find no fair consideration??
         1. IIT does not meet the standard of good faith  IIT knew the loan would render RC insolvent, and IIT knew that no member of RC would receive fair consideration for exchange of the loan obligation.
         2. Gatekeeper-ish liability
      4. Second Step: Was the obligation received by IIT the fair equivalent of the loans
         1. Look at entire transaction! Can’t look just at loan from IIT to RC in isolation
         2. The loan proceeds passed through RC to GA cannot be deemed consideration received by the borrowing companies
         3. Taken as a whole the benefit received by the borrowing companies was not the equivalent of the obligation; RC gets nothing for incurring the $7m of debt
         4. Look at the situation from the perspective of the creditors from creditor’s perspective GA’s stock of RC is worthless
         5. New management doesn’t fall within the definition of fair consideration
   6. (2) Consider the Financial Condition of the Transferor
      1. § 354 inquiry into whether the transferor was insolvent at the time the obligation was incurred or conveyance made or was rendered insolvent thereby
      2. § 355 inquiry into whether the property remaining in the transferor’s possession after the conveyance was an unreasonably small amount of capital for the business
      3. RC was insolvent as a result of the IIT transaction and remained with an unreasonably small amount of capital
2. Basically, if an LBO fails it looks like there will be a finding that there hasn’t been fair consideration, as Gleneagles forecloses the fair consideration defense
   1. Only way to succeed is to succeed on the financial condition inquiry; as lender need to look closely to whether company will fail
   2. See notes, pg.20 for other common LBO structures

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