A district court judgment dismissing a $500 million fraudulent transfer and breach of fiduciary duty suit against Campbell Soup Co., the former parent of Vlasic Foods International (“VFI” or “the debtor”), was affirmed by the United States Court of Appeals for the Third Circuit, on March 30, 2007. VFB, LLC v. Campbell Soup Co., 2007 WL 942360 (3d Cir. 3/30/07). VFI’s creditors, acting through an entity known as VFB, claimed that Campbell’s March 1998 $500 million stock sale (aka “leveraged spin-off” or “spin”) of its Specialty Foods division (“the division”), which included such subsidiaries as Vlasic (pickles) and Swanson (TV dinners), to VFI, another wholly owned subsidiary, was a fraudulent transfer because it rendered the subsidiary insolvent. The Third Circuit held that the district court correctly found that the division acquired by VFI was “worth well in excess” of the $500 million purchase price, and that the debtor was solvent at the time of the purchase. Relying on the district court’s market capitalization valuation of the acquired assets, the Third Circuit found that the debtor received reasonably equivalent value and that the its pre-spin directors did not breach their fiduciary duty to creditors.

The Transaction

To bolster its own financial performance, Campbell sold the division to the debtor in exchange for $500 million. VFI borrowed the purchase price from a group of banks. Campbell then promptly spun off shares of the debt-laden subsidiary to Campbell shareholders. Campbell dictated the terms of the transaction, precluding any negotiation with the debtor.

Effect of the Transaction

Campbell disposed of underperforming businesses and received value similar to a sale. Campbell’s shareholders continued to own the same assets but in a different corporate package. According to VFB, the spin not only benefited Campbell, but also set the debtor up for failure (e.g., causing it to pay additional expenses and to assume additional liabilities).

VFI’s Post-Spin Unraveling

After the spin, VFI’s earnings quickly declined, as did its sales, and by January 1999, the company had sold three of its businesses. On Jan. 29, 2001, VFI was forced to file a Chapter 11 petition and, by May 2001, it had sold all of the businesses for a total net discounted value of $385 million, much less than what Campbell had received in the spin transaction three years earlier.

Relevant Statute

VFB sued under the New Jersey Uniform Fraudulent Transfer Act, adopted by approximately 40 states and substantively identical to the fraudulent transfer provision of the Bankruptcy Code (§ 548). Asserting a constructively fraudulent transfer, VFB alleged that “Campbell engineered a fraudulent transfer from [the debtor] to Campbell of more than $600 million in cash and assumed liabilities….” As the district court noted, “[a] finding of constructive fraudulent transfer requires two elements: (1) that a debtor make a transfer… and not receive ‘reasonably equivalent value’” and (2) that, at the time of the transfer, the debtor was either ‘inadequately capitalized or the debtor became insolvent as a result of the transfer ….’”

Key Issue: ‘Reasonably Equivalent Value’

Was the division worth roughly the $500 million paid by the debtor? According to the lower court and the Third Circuit, the debtor got at least roughly the value it gave. “ … [I]n light of [the debtor’s] $1.1 billion market capitalization nine months after the spin, the Division businesses were worth indeed far more than $500 million.” Id. at *6. Although neither New Jersey law nor the Bankruptcy Code provides “a universal definition of ‘reasonably equivalent value,’... a party receives reasonably equivalent value for what it gives up if it gets ‘roughly the value it gave.’“ Id. at *5, citing In re Fruehauf Trailer Corp., 444 F.3d 203, 213 (3d Cir. 2006).

Market Capitalization Valuation Held Proper

The court rejected VFB’s attack on the district court’s market capitalization approach. “Equity markets allow participants to voluntarily take on or transfer among themselves the risk that their projections will be inaccurate; fraudulent transfer law cannot rationally be invoked to undermine that function …. Market capitalization is a classic example of … an anchored projection [based on actual performance], as it reflects all the information that is publicly available about a company at the relevant time of valuation. . . . A company’s actual subsequent performance is something to consider when determining ex post the reasonableness of a valuation … but it is not, by definition, the basis of a substitute benchmark.” Id. at *6.

Campbell’s Pre-Spin Manipulation Not Dispositive

Nor did the Third Circuit accept VFB’s argument that Campbell’s manipulation of the division’s sales and earnings prior to the spin-off distorted the district court’s market capitalization valuation. According to the court, “Campbell’s sales and earnings manipulation could [not] have seriously misled the public markets about the division’s prospects” because of later publicity and disclosure and because “it would be easy for interested observers to take the effect of this behavior into account when evaluating Campbell’s reports and projections.” Id. at n.4.

Moreover, the district court “explicitly chose not to rely on [the debtor’s] market capitalization at the time of the spin, precisely because of Campbell’s manipulation, and instead looked at market capitalization several months later, when the truth of [the debtor’s] situation had become clear,” the Third Circuit wrote, “Consequently, if [the debtor’s later] September 1998 market capitalization reflected a value for the division businesses of at least $500 million, despite no longer being affected by Campbell’s pre-spin operations, then the Division must have been worth more than $500 million at the time of the spin …. [T]he market’s valuation of [the debtor] as solvent in FY 1999 was strong evidence that [the debtor] was solvent at the time of the [March, 1998] spin, and therefore received reasonably equivalent value for its $500 million.” Id. at *7.

No Clear Error

Accepting the district court’s dismissal of conflicting expert witness testimony, the court stressed that “the market price is ‘a more reliable measure of the stock’s value than the subjective estimates of one or two expert witnesses.’“ Id. at *8, quoting In re Prince, 85 F.3d 314, 320 (7th Cir. 1996). Because VFB was unable to show clear error in the district court’s fact findings and because the district court “meticulously and accurately” considered the relevant facts, the Third Circuit found them to be “‘largely immune from attack on appeal.’“ Id. citing In re R.M.L., Inc., 92 F.3d 139,154 (3d Cir. 1996). Accordingly, it declined to “discuss the fine distinctions between balance-sheet insolvency, equitable insolvency and unreasonable undercapitalization.” Id. at *9.

Debtor Not Rendered Insolvent

The court rejected VFB’s assertion that the spin rendered the debtor insolvent. “[The debtor’s] pre-spin balance sheet contained nothing; its post-spin balance sheet contained $500 million in debt and the Specialty Foods Division. As noted above, the District Court did not clearly err in valuing the division at well over $500 million, meaning that [the debtor’s] assets were easily greater than its debts….. In June 1999, well after the markets were aware of all information that might have been concealed about [the debtor’s] condition at the time of the spin, [the debtor] was able to sell $200 million in unsecured debt. That debt continued to sell at par value until January of 2000, indicating that until that point ... creditors believed that [the debtor] would pay its unsecured debt as it came due.” Id. at *10.

No Aiding and Abetting Breach of Corporate Fiduciary Duty

Rejecting VFB’s claim that Campbell aided and abetted a breach of the debtor’s directors’ duty of loyalty when it entered into the spin transaction, the court found no breach because of the debtor’s solvency at the time of the spin. “The … directors looked out only for Campbell’s interest because, substantively, that was their duty; whether they thought they were acting in the interest of [the debtor] or Campbell ‘seems inconsequential.’“ Id. Moreover, “it makes no sense to impose a duty on the director of a solvent, wholly-owned subsidiary to be loyal to the subsidiary as against the parent company [, its sole shareholder].” Id., at *10.