Page 6 - John Hundley 2010

“A corporate transfer is ‘fraudulent’ within the meaning of the Uniform Fraudulent Transfer Act,
even if there is no fraudulent intent, if the corporation didn’t receive ‘reasonably equivalent value’
in return for the transfer and as a result was left with insufficient assets to have a reasonable
chance of surviving indefinitely,” Posner stated. Summarizing numerous court decisions and scholarly
articles and noting that some courts are reluctant to enforce fraudulent conveyance laws in the face of
LBOs, Posner stated that this reluctance is “not easy to square with the language” of the UFTA.
Judge Posner noted that one must distinguish between insolvency and acknow-
ledgment of insolvency on the one hand, and between insolvency and the lack of
adequate capital on the other hand. Insolvency in the bankruptcy sense is a nega-
tive net worth, but a company insolvent under that guideline may be able to continue
operating so long as it raises enough money to pay its debts as they become due
(or longer if creditors are forbearing). Posner noted that “unreasonably” small
assets mean that on the day of the LBO, the corporation had such meager assets
that bankruptcy as a consequence was both likely and foreseeable.
The fraudulent or non-fraudulent nature of the transfer depends upon the conditions that exist
when it is made, not on what happens later, or on the skill or mistakes of the management. As Judge
Posner aptly pointed out, “that’s one reason why businesses need adequate capital to have a good
chance of surviving in the Darwinian jungle that we call the market.”

Several observations may be offered respecting this decision. First, Boyer rejects the idea that the
legal test depends on whether the term “LBO” or something else is applied to the transaction.
Second, Boyer teaches that all the related transactions should be viewed as a whole, not separately.
Rejecting the lower court’s view that the old stockholders had a right to take the $600,000 in dividends
because they represented earnings accrued under their stewardship, the appellate
panel noted that that payment contributed considerably to the new corporation’s
inability to function in the marketplace and carry the debt with which it was saddled.
Third, if a transaction looks too good to be true, it probably is. If it is so leveraged
that the resulting entity probably can’t survive, sellers proceed with it at their
peril even if a sophisticated lender is willingly involved. The ongoing entity will
have relations with unsecured creditors who, unlike the secured lender, did not go into
the transaction eyes-wide-open and who do not enjoy the benefits which the secured
position provides. When the transaction predictably comes crashing down, courts may
step in to protect those unsecured creditors’ rights.

Finally, Boyer teaches that in determining “reasonably equivalent value” you do not call
valuation experts and determine whether the price paid was “fair.” Instead, you focus on whether
the company’s unencumbered assets after the transaction are sufficient to give it “a reasonable chance of
surviving indefinitely.” Acknowledging, at least implicitly, that this question is one of degree, the court
found that this transaction left the company with so few unencumbered assets, so much debt, and so
much interest to pay that it “was highly likely to plunge the company into bankruptcy” (court’s emphasis).
Hence, the court ordered that both the $3.1 million and the dividends be disgorged to the extent
necessary to pay the unsecured creditors and the administrative costs in bankruptcy.

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