Deepening Insolvency Addressed by Federal Court in Delaware
Courtesy of my bankruptcy partner, Dan Astin, and associate Carl Neff, is a short blurb below about recent decisions in the U.S. District Court for the District of Delaware, and the Bankruptcy Court for the District of Delaware that address claims for "deepening insolvency". It might be respectfully suggested that one of the decisions is not obviously consistent with the recent Chancery Court decision in Trenwick, that some thought sounded the death knell for deepening insolvency as a cause of action. (See summary and commentary here and here on this blog regarding the Trenwick decision). Below is their guest post. Thanks to both of you.
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The United States District Court for the District of Delaware recently rendered a decision in which it denied a motion to dismiss and allowed a claim for deepening insolvency to proceed. Buckley v. O’Hanlon, 2007 WL 956947 (D. Del. 2007), read opinion here.
Although our local federal court cited the Chancery Court's 2006 opinion in Trenwick, which held that Delaware law does not recognize deepening insolvency as a direct claim against officers and directors, Trenwick America Litigation Trust v. Ernst & Young, L.L.P., 906 A.2d 168 (Del. Ch. 2006), the court in Buckley did not appear to distinguish Trenwick.
Instead, the court in Buckley ruled that:
The U.S. Bankruptcy Court for the District of Delaware predicted that, in the absence of an opinion by the Delaware Supreme Court and given the Third Circuit's analysis in Official Committee of Unsecured Creditors v. R.F. Lafferty & Co., Delaware law would likely recognize a claim for deepening insolvency. In re Oakwood Homes Corp., 340 B.R. 510, 531 (Bankr.D.Del.2006). Although the elements of such a claim have yet to be enunciated, the Third Circuit acknowledged such a claim when a plaintiff alleges "fraudulent expansion of corporate debt and prolongation of corporate life." Official Committee of Unsecured Creditors v. R.F. Lafferty & Co., 267 F.3d 340, 347 (3d Cir.2001).
Buckley v. O’Hanlon, 2007 WL 956947, at *7 (emphasis added).
By comparison, our local bankruptcy court recently acknowledged in the case of In Re Radnor Holdings Corp., 335 B.R. 820 (Bankr. D.Del., Nov. 17, 2006)(read opinion here), when explaining why the complaint in that case did not include a count for "deepening insolvency", the "recent rejection of such a cause of action under Delaware law." Id. at 842 (citing Trenwick and also In re CitX Corp., 448 F.3d 672 (3rd Cir. 2006)(which rejected deepening insolvency as a theory of damages.))
Most of this blog's readers are accustomed to the capacious authority of the Delaware Chancery Court to dispense equitable remedies, but the above cases remind us that the bankruptcy court is also vested with equitable powers. For example, the Radnor case, supra, at 838 to 840, explains the drastic remedy of equitable subordination (based, for example, on inequitable conduct of a creditor), and how that remedy differs from recharacterization of debt (for example, when debt should be treated as equity.) See generally, In re American Business Financial Services, Inc., 360 B.R. 74 (Bankr. D.Del., Feb. 13, 2007), read opinion here, which upheld a claim that a fiduciary relationship existed--to the extent it survived a motion to dismiss, where the bankruptcy trustee alleged a fiduciary relationship between the bankruptcy trustee and the consulting firm--and its principal--whom the trustee thought were acting in his best interests.
Interesting that a federal court thinks that it needs a state supreme court decision, rather than a state trial court decision, to apply that state's law.