Page 106 - Bankruptcy and Reorganization Services

the timing of payment by customers, and related or similar considerations viewed from the perspective
of what is normal or customary for other similar debtors in the industry are all potentially relevant fac-
tors in determining whether the amount of the debtor’s capital was unreasonably small at the time of, or
immediately after, the subject transfer or transaction. fn 62

Ability to Pay Debts as They Come Due Test

General

Section 548(a)(1)(B)(iii) of the Bankruptcy Code identifies the relevant question as whether the debtor
intended to incur, or believed that it would incur, debts that would be beyond its ability to pay as the
debts matured. Because this section requires the debtor to prove its intentions at the time of the transfer,
it is rarely litigated due to the subjective nature of the inquiry. fn 63

Inference of Intent

Some courts may attempt to infer intent from the facts and circumstances, such as in In re WRT Energy
Corp., where the court noted that "the intent requirement can be inferred where the facts and circum-
stances surrounding the transaction show that the debtor could not have reasonably believed that it
would be able to pay its debts as they matured." fn 64 In the WRT Energy case, the court also stated that
intent must be proven and may not be based on hindsight: "Adequacy of capital and the belief as to abil-
ity to pay debts must be judged by what was reasonably believed at the time of the transaction and not
on the basis of hindsight..." fn 65 Ability to pay is a forward-looking concept that addresses not only
whether a debtor can meet its current obligations but also whether it can meet its future obligations. fn 66
The Lease-A-Fleet court noted that the test was whether the debtor "was aware that it was unable to pay
future debts as they became due as a result of the transfers." fn 67

Reasonableness of Projections

Generally, this test is conducted by analyzing the reasonableness of the debtor’s contemporaneously
prepared projections and the resulting cash flows. This analysis should take into account the debtor’s
likely earnings, available borrowing capacity, and future borrowing capacity covering at least one busi-

fn 62 See Crown Unlimited Machine, 2006 Bankr. LEXIS 4651, at *30 ("Reasonable projections [at the time of the subject transfer or
transaction] must consider the difficulties that are likely to arise and incorporate some margin for error....This is particularly critical in
an industry like the debtor’s which is known to be cyclical."); Suburban Motor Freight, Inc. v. T.E.L. Leasing, Inc., et al., 124 B.R. at
1000 (December 20, 1990) (court taking into account market competition and impact on operating capital needs); In re CNB Interna-
tional, Inc., 393 B.R. at 327 (September 5, 2008) ("CNB lacked working capital sufficient to enable it to satisfy its assumed payables,
either immediately or within the standard for the machine tool industry").

fn 63 Robert J. Stearn, Jr., "Proving Solvency: Defending Preference and Fraudulent Transfer Litigation," The Business Lawyer 62, no.
2, (February 2007): 391.

fn 64 See WRT Energy Corp., 282 B.R. at 415.

fn 65 Id. at 414.

fn 66 J.B. Heaton, "Solvency Tests," (working paper, September 2006), 9, http://papers.ssrn.com/sol3/papers.cfm?abstract_id=931026.

fn 67 In re Lease-A-Fleet, Inc., 155 B.R. 666, 675 (Bankr. E.D. Pa. 1993).

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