The District Court for the Southern District of New York recently issued an important decision that provides further support for a holistic analysis when applying the Bankruptcy Code’s “safe harbors.” In Mark Holliday, the Liquidating Trustee of the BosGen Liquidating Trust v. Credit Suisse Securities (USA) LLC, et al., 20 Civ. 5404 (Sept. 13, 2021), the District Court affirmed the Bankruptcy Court’s dismissal of the plaintiff’s state law fraudulent conveyance claims against the defendants as protected from avoidance by the “safe harbors” of Section 546(e) of the Bankruptcy Code. In doing so, the appellate court examined the nature of the “overarching transfer” rather than a distinct element of the transaction as pled in the plaintiff’s complaint.

The claims arose from a 2006 leveraged recapitalization whereby a holding company (“Holdings”) and its operating subsidiary, Boston Generating, LLC (“BosGen”), obtained loans to fund a tender offer and a dividend to interest holders of Holdings. The loans came in the form of two credit facilities extended to BosGen that required it to fund the purchase of certain interests in, and make a distribution to, Holdings’ members. A national bank (“Bank A”) served as “depository” for BosGen and, at the direction of BosGen, received the proceeds of the loans and then transferred them in accordance with funds flow instructions. A portion of those proceeds intended for use in the purchase of the membership interests and distribution was deposited in an account of Holdings at a second bank (“Bank B”). Holdings then directed Bank B to transfer the funds to its account at yet another bank (“Bank C”) for purposes of effecting the payments to the members.

Holdings, BosGen and certain affiliates later filed bankruptcy and confirmed a liquidating chapter 11 plan in August 2012. The plan created a liquidating trust and the liquidating trustee thereafter commenced an adversary proceeding against the defendants. Among other causes of action, the plaintiff sought a ruling that the transfer from Bank A (BosGen’s account) to Bank B (Holdings’ account) should be avoided as a fraudulent transfer. After much legal maneuvering, including the filing of a number of amended complaints, the Bankruptcy Court ultimately dismissed the adversary complaint in June 2020, including the fraudulent conveyance claims. It did so on the basis that such claims were protected by Section 546(e) of the Bankruptcy Code (“Section 546(e)”). Very generally, Section 546(e) protects certain pre-petition transfers from avoidance in a bankruptcy of the transferor — including transfers that are (i) a margin payment, settlement payment or transfer, (ii) made by or to (or for the benefit of) a commodity broker, forward contract merchant, stockbroker, financial institution, financial participant, or securities clearing agency, and (iii) made in connection with a securities contract, commodity contract, or forward contract. See 11 U.S.C. § 546(e).

On appeal, the District Court considered the holding of the leading case involving a transfer executed in numerous steps, Merit Mgmt. Grp., LP v. FTI Consulting, Inc., 138 S. Ct. 883. The District Court explained that Merit required it to “determine what is the relevant transfer for the 546(e) safe harbor inquiry…” and that it must not “analyze a transfer divorced from its context.” See Holliday at 6. While the District Court acknowledged that Merit holds that the relevant transfer is the one that the plaintiff seeks to avoid, it need not rely on a plaintiff’s interpretation of that transfer – if challenged. Id. Here, the transfer at issue was defined by reference to New York law which guided the District Court to examine an allegedly fraudulent conveyance in the context of the larger plan “viewed as a whole with all its composite implications.” Id. at 7 (citation omitted). The District Court noted that many parties to the recapitalization understood that the loans were extended to BosGen, in part to fund the payments to Holdings’ members. Accordingly, the District Court refused to limit its analysis to the transfer solely from Bank A to Bank B — and determined that the “heart” of case was the leveraged recapitalization and that the real transfer that the plaintiff sought to avoid was that from Bank A to Bank C . Id. This was an important point of distinction, linking the whole (collapsed) transaction to a securities contract (i.e., the tender offer) for the purposes of satisfying the safe harbor contained in Section 564(e). With that critical point settled, the District Court agreed with the Bankruptcy Court’s ruling that the transfer was protected from avoidance as a “settlement payment”, made on behalf of a “financial institution” (which included BosGen as a customer of Bank A, its agent), and made in conjunction with a “securities contract.”