On January 2 2018, in a two-to-one split, the Third Circuit held that non-debtor subsidiaries cannot be liable for allegedly fraudulent transfers under the Delaware Uniform Fraudulent Transfer Act (DUFTA).(1) The case arose out of mining company Crystallex's efforts to enforce a $1.2 billion arbitral award that it had obtained against the Bolivarian Republic of Venezuela, which Crystallex subsequently confirmed as a US judgment under the New York Convention. The Third Circuit's decision essentially dismissed Crystallex's efforts to enforce the judgment against PDV Holding (PDVH), a wholly owned US subsidiary of the Venezuelan Petróleos de Venezuela, SA (PDVSA), under a theory that Venezuela had fraudulently transferred funds out of the United States. On February 5 2018 the Third Circuit denied Crystallex's petition for rehearing,(2) thereby affirming its earlier decision.
Crystallex's claim arose out of its ownership of a gold mine that Venezuela nationalised and expropriated in 2011. In 2016 Crystallex won an arbitral award against Venezuela for $1.2 billion for the mine's illegal expropriation. Venezuela was the only party named in that arbitral award. With its award thus in hand, Crystallex began the process of enforcement against Venezuela. While recognition of arbitral awards in the United States is fairly uniform under the New York Convention, enforcement of the recognised awards is a separate step with its own complexities, particularly when enforcement is against a foreign sovereign such as Venezuela.
According to Crystallex's complaint, CITGO Holding, a wholly owned US subsidiary of PDVH, issued $2.8 billion in debt and then used those proceeds to pay a $2.8 billion dividend to PDVH. PDVH in turn issued a $2.8 billion dividend to PDVSA (see Figure 1).(3) Alleging that PDVSA was Venezuela's alleged alter ego,(4) Crystallex sought to use DUFTA to hold Venezuela accountable through PDVSA and PDVH.
DUFTA states that:
"A transfer made or obligation incurred by a debtor is fraudulent as to the creditor… if the debtor made the transfer or incurred the obligation… with actual intent to hinder, delay or defraud any creditor of the debtor."
Delaware courts interpreting DUFTA have held that creditors must show a transfer by a debtor with actual intent to hinder, delay or defraud a creditor.(5)
In the lower court proceedings, the district court agreed with Crystallex's argument that PDVH could be liable under DUFTA. Specifically, the district court denied PDVH's motion to dismiss, in which it had been argued, among other things, that Crystallex had failed to state a claim because PDVH was not a debtor to Crystallex. The district court found that although PDVH was not a debtor, there had been a transfer by a debtor – Venezuela – because Venezuela's "instrumentality" executed the transfer on its behalf. The district court concluded that a "transfer [was] made in every meaningful sense" by Venezuela, even though PDVH, the entity making the transfer, was not actually a debtor.(6) PDVH requested permission to file an interlocutory appeal of the denial of its motion to dismiss, which was granted by the district court.(7)
On appeal to the Third Circuit, Crystallex made two arguments:
- When read within the larger context of DUFTA, the term 'debtor' applies to bad faith non-debtor subsidiary transferors like PDVH.
- Venezuela perpetuated the alleged fraudulent transfer and was therefore liable under either an aiding and abetting or conspiracy theory.
The Third Circuit ultimately found neither argument persuasive and reversed the district court's order, remanding for further proceedings. Acknowledging its limited role as interpreter of Delaware state law and its inability to "act as a judicial pioneer",(8) the Third Circuit found that non-debtors cannot be liable under DUFTA. To reach this conclusion, the Third Circuit surveyed Delaware precedent and persuasive out-of-jurisdiction cases (both state and federal), finding nothing to support Crystallex's argument that non-debtor subsidiaries can be liable under a fraudulent transfer theory. The court found that the two cases that Crystallex cited in support of its argument for non-debtor liability were inapposite because they depended on:
- the availability of certain remedies, not liability; and
- the fiduciary relationship between, and de facto control of, a debtor and its attorney transferor.(9)
Finding no support to the contrary, the Third Circuit held that PDVH, as a non-debtor, could not be liable under DUFTA.
The Third Circuit further held that Crystallex's argument for non-debtor liability would undermine "a fundamental precept of Delaware corporate law: parent and subsidiary corporations are separate legal entities".(10) Delaware law protects the corporate form except in the rare instances in which the corporate veil is pierced or subsidiaries are mere alter egos of their parents. While Crystallex alleged in detail that PDVSA was Venezuela's alter ego, it did not allege that PDVH was the alter ego of either Venezuela or PDVSA. Thus, the Third Circuit found that disregarding the separate corporate identity would have been contrary to both Delaware law and public policy.(11)
Finally, the Third Circuit did not find that DUFTA's "broad remedial purpose" or a broad reading of its individual provisions supported Crystallex's argument. The Third Circuit determined that it was limited by the prior decisions of Delaware courts, which it found did not recognise non-debtor liability, stating that "Delaware courts have closed the door to non-debtor transferor liability under the state statute, and we are not free to open it".(12)
The Third Circuit also dismissed Crystallex's aiding and abetting and conspiracy claims, finding that Delaware courts refused to recognise non-principal liability under DUFTA. While denying Crystallex's claims, the Third Circuit concluded that the "intent behind this series of transactions was to hinder creditors… But these badges of fraud go to only one of the three necessary elements of a DUFTA claim".(13)
This decision is likely to be relevant to other proceedings, including but not limited to, the multiple pending proceedings against Venezuela arising out of its economic nationalisation from 2007 to 2011. For example, on February 20 2018 the parties in one such case, ConocoPhillips Petrozuata BV v Petróleos de Venezuela SA, argued the effect of the Third Circuit decision in a letter to the Delaware district judge hearing their case.(14) It can be expected that parties in other proceedings also will attempt to rely on the Third Circuit's decision.
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(4) A separate case still pending in the Delaware District Court concerns whether PDVSA is an alter ego of Venezuela. See Crystallex International Corp v Bolivarian Republic of Venezuela, 17-00151. For the purposes of this case, the Third Circuit did not rule on whether PDVSA was an alter ego, finding that ultimately the determination was not essential to reaching its present decision regarding non-debtor PDVH.
(6) Crystallex Int'l Corp v Petroleos de Venezuela, SA, 213 F Supp 3d 683, 691-92 (D Del 2016), motion to certify appeal granted sub nom. Crystallex Int'l Corp v Petróleos De Venezuela, SA, CV 15-1082-LPS, 2016 WL 7440471 (D Del December 27 2016), and rev'd and remanded, 879 F3d 79 (3d Cir 2018).
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