In re Pursuit Capital Management, LLC (Bankr. D. Del.) – Assignment of Estate’s Avoidance Claims to Assignees Was Not Champertous Because Assignees Were Creditors of Estate and Promised to Remit Net Recovery to Estate

The following is a case update prepared by Dan Schechter, Professor Emeritus, Loyola Law School, Los Angeles, analyzing a recent decision of interest:

SUMMARY:

A bankruptcy court in Delaware has held that an assignment of a bankrupt estate’s avoidance claims was not champertous because the assignees were creditors of the estate, rather than third-party strangers, and because they promised to remit the net recovery to the estate. [In re Pursuit Capital Management, LLC, 2018 Westlaw 6841364 (Bankr. D. Del.).]

Facts: A group of financial firms was allegedly looted by its insiders. The debtors’ Chapter 7 trustee negotiated an assignment of the estates’ avoidance claims to two of the debtors’ unsecured creditors, on the theory that the estates lacked the resources to prosecute the claims. The assignees agreed to return any “net recoveries” to the estates. The bankruptcy court entered an order approving that sale.

When the assignees eventually brought fraudulent transfer and breach of fiduciary duty claims against the insiders, the defendants moved to dismiss, arguing (among other things) that the agreement was champertous, i.e., that the parties were stirring up litigation by transferring the claims.

Reasoning: The bankruptcy court denied the motion to dismiss, holding that under Delaware law, the agreement was not champertous because the assignees were not mere strangers seeking to assert someone else’s claims: “Agreements are not champertous when ‘the assignee has some legal or equitable interest in the subject matter of the litigation independent from the terms of the assignment under which the suit was brought.’” Here, the assignees were already creditors of the estate and therefore were not “strangers:”

Plaintiffs are not strangers to these causes of action or to the parties involved. Plaintiffs are creditors of Debtor whose claims at the moment are “deemed allowed” as no objections to their proofs of claims have been filed. As creditors with allowed claims, they are entitled to a distribution from the estate, and the estate will be the ultimate recipient of any litigation proceeds from this adversary proceeding. It is thus far from accurate to characterize Plaintiffs as strangers to the parties of the litigation.

The court also noted that because the assignees had agreed to return all “net recoveries” to the estates, their assertion of the estate’s avoidance claims was permissible.

Author’s Comment: Although the authority in this area is mixed, most bankruptcy courts have ruled that the estate’s avoidance claims are alienable, under some circumstances. But note that under Delaware law, the assignment of those claims cannot be made to just anyone, thus greatly restricting the universe of potential assignees (and thus, of course, reducing the assignor’s bargaining power).

In my opinion, it does not make sense to allow state law to handcuff the trustee’s ability to alienate the estate’s avoidance claims, often the estate’s only valuable asset. Many bankrupt estates are administratively insolvent, especially after corporate looters have drained the company of its cash and other liquid assets. Should that fact then enable looters to escape liability, simply because the estate lacks the resources to prosecute them? This rewards the looters. As a matter of federal law, bankrupt estates should have the power to monetize all of their alienable assets by conducting an open auction of the estate’s avoidance claims, selling them to the highest bidder, including third parties who are not creditors of the estate.

In addition, it does not make sense to restrict the alienation of avoidance claims to transferees who (as in the present case) promised to remit any net recovery to the estate. That restriction would chill the bidding for the estate’s claims, since assignees hoping to participate in the proceeds of the prosecution would be disqualified.

For discussions of cases involving related issues, see:

• 2018-28 Comm. Fin. News. NL 55, Since Bankruptcy Trustee Assigned All Claims to Purchaser, Purchaser Lacked Derivative Standing to Prosecute Claims on Behalf of Estate.
• 2017-45 Comm. Fin. News. NL 86, Even Though Bankruptcy Case Had Been Dismissed, Creditor That Took Assignment of Estate’s Avoidance Claims Still Had Standing to Prosecute Them.
• 2014-39 Comm. Fin. News. NL 78, Creditor Cannot Obtain Derivative Standing to Bring Fraudulent Transfer Claim On Behalf of Estate Unless Trustee Has Finally Refused to Prosecute.
• 2011 Comm. Fin. News. 94, Despite Bankruptcy Trustee’s Inability to Prosecute Claims Belonging to Creditors, Plan of Reorganization May Appoint Litigation Trustee to Prosecute Those Claims.
• 2010 Comm. Fin. News. 85, Since Corporation’s Bankruptcy Trustee Cannot Assert General Alter Ego Claim Against Shareholders Under California Law, Creditor Has Standing to Do So.
• 2010 Comm. Fin. News. 33, Where Creditors Have Executed Formal Assignments of Tort Claims, Liquidation Trustee as Assignee Has Standing to Prosecute Creditors’ Claims.
• 2010 Comm. Fin. News. 28, Liquidation Trustee Is Empowered to Assert Claims Assigned by Estate’s Creditors Against Third Party Tortfeasors.
• 2008 Comm. Fin. News. 01, Trustee’s Recovery of Fraudulent Transfer May Be for “Benefit of the Estate,” Even if Secured Party May Be Entitled to Trustee’s Recovery.

These materials were written by Dan Schechter, Professor Emeritus, Loyola Law School, Los Angeles, for his Commercial Finance Newsletter, published weekly on Westlaw. Westlaw holds the copyright on these materials and has permitted the Insolvency Law Committee to reprint them.