Opinion
MEMORANDUM DECISION ON PLAINTIFF'S FOURTH AMENDED COMPLAINT TO AVOID AND RECOVER INTENTIONAL AND CONSTRUCTIVE FRAUDULENT TRANSFERS AND POST-PETITION TRANSFERS
Robert Kwan United States Bankruptcy Judge
PROCEDURAL HISTORY
On August 19, 2003, Richard A. Marshack, the Chapter 7 Trustee in this bankruptcy case ("Trustee") of debtors Brennon Ty Bishop ("Bishop") and his wife, Michelle Bishop, commenced this adversary proceeding. Subsequently, Electronic Funds Solutions, LLC ("EFS" or "Plaintiff') became the plaintiff as a successor-in-interest to Trustee.
The defendants in this adversary proceeding originally were FedChex, LLC ("FedChex"), FedChex Recovery, LLC ("FedChex Recovery"), Ed Arnold ("Arnold"), Rodney Davis ("Davis"), along with various entities owned by Davis alleged in the adversary complaint to be his alter egos, including DS Group, FedChex/DS, Yellow Pages, Yellow Pages 2000, Merchant, BSYB, Niche, Convergentds, Direct Vision, DS Marketing, YK 2000, and/or iExchange (collectively referred to as the "Davis Entities"). On August 26, 2009, this court dismissed with prejudice the following defendants: Yellow Pages Directory Services, LLC, Yellow Pages 2000, Inc., BSYB, Inc., Niche Directories, LLC dba Yellow Pages 2000, Convergentds, LLC aka CDS, DS Group, LLC, Direct Vision, DS Marketing, YK 2000, Performance Asset Management and iExchange.
The operative complaint in this adversary action against these defendants is Plaintiff's Fourth Amended Complaint, which sets forth seven claims for relief as follows: (1) "FIRST CLAIM FOR RELIEF - Avoidance Of Intentional Fraudulent Transfers under 11 U.S.C. § 548"; (2) "SECOND CLAIM FOR RELIEF - Avoidance of Constructive Fraudulent Transfers, 11 U.S.C. § 548"; (3) THIRD CLAIM FOR RELIEF - Avoidance of Post-Petition Transfers, 11 U.S.C. § 549"; (4) "FOURTH CLAIM FOR RELIEF - Recovery of Avoided Transfers, 11 U.S.C. §550"; (5) FIFTH CLAIM FOR RELIEF - Disallowance of Claims 11 U.S.C. § 502(d)"; (6) SEVENTH CLAIM FOR RELIEF - Fraudulent Conveyance Under State Law"; and (7) "EIGHTH CLAIM FOR RELIEF - Breach of Contract." Fourth Amended Complaint (Docket No. 112), filed on August 19, 2005. On March 3, 2006, the parties filed a stipulation of dismissal of the breach of contract claim, thus the only live claims for determination are claims (1) through (6) listed above, the First, Second, Third, Fourth, Fifth and Sixth Claims for Relief. Stipulation of Dismissal of Seventh Cause of Action Only (Mislabeled Eighth Cause of Action) for Breach of Contract in Plaintiff's Fourth Amended Complaint (as to All Defendants) (Docket No. 202), filed on March 3, 2006; Joint Pre-Trial Order, filed on May 13, 2010.
There is no numbered SIXTH CLAIM FOR RELIEF in the Fourth Amended Complaint because "Sixth" is skipped. Fourth Amended Complaint at 21-24. The "sixth" claim for relief for fraudulent transfer under state law is mislabeled as "SEVENTH CLAIM FOR RELIEF, " and will be referred to herein as "Sixth" Claim for Relief. Id. The Joint Pre-Trial Order correctly refers to the claim as the Sixth Claim for Relief. See Joint Pre-Trial Order (Docket No. 456), filed on May 13, 2010, at 34-35, 56.
Because there is no numbered SIXTH CLAIM FOR RELIEF in the Fourth Amended Complaint because "Sixth" is skipped. Fourth Amended Complaint at 21-24. The "seventh" claim for relief for breach of contract is mislabeled as "EIGHTH CLAIM FOR RELIEF, " and will be referred to herein as "Seventh" Claim for Relief. Id. at 24-26.
The trial in this adversary proceeding was conducted before the undersigned United States Bankruptcy Judge on January 14, 15, 21 and 22, February 4, 5, 18 and 19, April 2, May 6 and 7, June 2, and 30, 2010. Einar Wm. Johnson, of the law firm of Johnson and Associates, appeared on behalf of the Plaintiff EFS. Louis H. Altman, of the law firm Haberbush & Associates, LLP, appeared on behalf of the Defendants. After the evidence was closed, the parties submitted post-trial briefs in lieu of closing arguments and submitted proposed findings of fact and conclusions of law and made objections thereto. Subsequently the court took this matter under submission on December 13, 2011 after further objections to proposed findings of fact and conclusions of law were filed. Having considered the testimony of the witnesses and the other evidence admitted at trial, as well as the oral and written arguments of the parties, the court hereby issues this memorandum decision setting forth its findings of fact and conclusions of law.
FACTUAL BACKGROUND
Most of the relevant facts were not stipulated to in this case. See Joint Pre-Trial Order, filed on May 10, 2010. The parties submitted, and the court approved, a Joint Pre-Trial Order ("JPTO"). Id. Besides basic jurisdictional facts, however, the JPTO is relatively unhelpful in establishing the background facts for this matter. The facts of this case are complex and convoluted, involving numerous individuals and various entities with similar sounding names. This factual background section begins with a chronological introduction of the various players, i.e., the people and the various businesses formed by some or all of them. Next, the court will discuss the state court litigation that shed light on many of the facts pertaining to the transactions at issue, which Plaintiff alleges are fraudulent transfers in this adversary proceeding. Finally, the court will outline all of the various alleged fraudulent transfers resulting from the creation and alteration of these businesses.
1. THE PEOPLE AND THEIR VARIOUS BUSINESSES
a. Formation of Electronic Funds Solutions, LLC ("EFS")
Prior to March 2000, Michael Murphy ("Murphy"), Bishop, and Michael Barry ("Barry") became business acquaintances and, in or about March 2000, they agreed to start a business together and entered into agreements to form what would ultimately be Electronic Funds Solutions, LLC ("EFS). EFS was formed for the purpose of engaging in a variety of services to assist merchants with the processing of funds through electronic means, including helping merchants to electronically collect checks returned for "Not for Sufficient Funds" ("NSF"), also known as "bounced" checks. Trial Declaration of Michael Barry ("Barry Trial Declaration") at 9:18-20 (citations to written testimony and some pleadings are made to page:line(s)). On May 22, 2000, EFS filed its Articles of Incorporation of EFS with the California Secretary of State. Plaintiff's Trial Exhibit 1, Articles of Organization of Electronic Funds Solutions, LLC, filed May 22, 2000. EFS maintained offices at 438 East Katella, Suites 216 and 217, Orange, California (the "OC Office") and at 608 Silver Spur Rd., Suite 222, Rolling Hills Estates, California (the "Rolling Hills Office"). Barry Trial Declaration at 4:20-21 and 6:14-16. Murphy and Bishop worked out of the OC Office, and Barry worked out of the Rolling Hills Office. Id. at 4:2-4 and 6:14-16. According to Barry, he, Bishop, and Murphy agreed orally that Barry would act as the CEO and president of the company while Murphy and Bishop would manage the day-to-day operations of EFS, subject to Barry's direction, management, and control. Barry Trial Declaration at 3:15-18. According to Barry, Murphy and Bishop did not have management authority in EFS. Id. at 3:18-22. The OC Office maintained EFS's business records, including client contracts, client contact information, and financial and computer records. Id. at 15:16-18.
According to Barry, the ability to collect NSF checks via electronic means was a "cutting edge opportunity for businesses not directly engaged in the banking industry, based upon a Federal Reserve change, to assist merchants in the collection of bad checks, and collection of the NSF fee, automatically and electronically." Barry Trial Declaration at 9:20-22. EFS offered merchants a variety of services, including an automatic payment service for recovery of NSF fees, checks by phone, online electronic checks, electronic check conversion, and pre-authorized checking for merchants. Id. at 9:22-24. One of the more important of these services was the automatic payment service for recovery of NSF fees. Id. at 9:22-26. Merchants contracting with EFS had clients who would agree that, at the time the client issued a check, any dishonored check would be collected through electronic deduction from the check-issuer's bank account. Id. at 9:27-10:1. There would be an additional "bounced check" fee deducted from the check-issuer's bank account from which EFS was paid for its services. Id. at 10:1-10:5.
In order to adequately process these funds acquired electronically, EFS used third-party processors such as National Bank Drafting Systems, Inc. ("NBDS"), which had the necessary software and banking relationships needed to actually process the electronic payments. Barry Trial Declaration at 10:7-11. In his trial testimony, Barry described companies such as NBDS as "wholesalers of the types of services offered by EFS", which would take a portion of the dishonored check fee for their services. Id. at 10:9-10. While EFS worked with NBDS, EFS established relationships with retail merchants through which bad checks returned to the merchant as unpaid due to insufficient funds were sent directly from the merchant to NBDS. Trial Testimony of Brennon Ty Bishop ("Bishop Trial Testimony"), January 21, 2010, at 11:11-11:12 a.m. Because NBDS kept a large portion of each dishonored check fee, EFS actively sought out other processing providers that could offer better rates. Barry Trial Declaration at 10:22-26; Trial Testimony of Michael Barry ("Barry Trial Testimony"), June 30, 2010, at 11:05-11:06 a.m.
b. Formation of ePayment Technologies, Inc.
Around December 2000, Murphy and Bishop indicated to Barry that they would not sign a written operating agreement for EFS, indicating their intent to terminate their business relationship with Barry. Barry Trial Declaration at 13:1-5; Plaintiffs Trial Exhibit 14, Draft Operating Agreement of Electronic Funds Solutions, LLC. Murphy and Bishop told Barry that they no longer wanted to do business with him. Barry Trial Declaration at 13:1-5.
On January 11, 2001, Murphy and Bishop formed ePayment Technologies, Inc. ("EPT") and filed Articles of Incorporation for EPT with the California Secretary of State. Plaintiffs Trial Exhibit 21, Articles of Incorporation of ePayment Technologies, Inc. EPT engaged in the business of processing bounced checks for its clientele through electronic means as its main business upon formation, but also offered other services involving the processing of funds electronically, which EFS had offered as part of its business. Transcript of Deposition of Michael Murphy ("Murphy Deposition"), April 5, 2002, at 39:7-40:20. On January 15, 2001, Bishop wrote to Barry announcing that Murphy and Bishop would be moving forward with their own business independent of Barry. Plaintiffs Trial Exhibit 23, Letter from Michael Murphy and Ty Bishop to Michael Barry, dated January 15, 2001. Instead of leaving EFS's OC office and opening another space for EPT, however, Murphy and Bishop changed the locks at the OC Office and did not provide Barry with a key to the new lock. Bishop Trial Testimony, January 21, 2010 at 1:54-1:55 p.m.
Murphy and Bishop also changed the passwords used for accessing the EFS website and told Gene Levi ("Levi"), the website constructor: "We are going through some internal changes around here. So if you receive any direction to change the website other than from me please reconfirm any changes with me." Plaintiff's Trial Exhibit 19, Email dated Dec. 27, 2000, from Ty Bishop to Gene Levi. Bishop also told Levi that he might need the "exact same web site we have worked on together but with a different company name and a few minor changes." Plaintiffs Trial Exhibit 20, Email from Ty Bishop to Gene Levi dated Dec. 30, 2000. Barry attempted to gain access to the website through Levi himself, but Levi did not take instruction from anyone but Bishop. Barry Trial Declaration at 20:19-22.
At that time, Barry stopped receiving any phone messages from the OC Office of EFS that had been left for him. Barry Trial Declaration at 17:21. By January 15, 2001, Barry was unable to access the NBDS database kept by EFS as well as EFS's bank account. Id. at 19:11-12; 20:24-26.
Before and after January 15, 2001, Barry demanded that Bishop and Murphy provide full accounting to him of EFS, as well as its client contacts, but they did not comply. Barry Trial Declaration at 20:5-17. On or about February 16, 2001, Barry and EFS commenced a lawsuit against Murphy, Bishop, and EPT, filed in Orange County Superior Court. See Plaintiff's Trial Exhibit 65, Complaint. This lawsuit, referred to herein as the state court action, is discussed below.
On February 3, 2003, during the pendency of the state court action, EPT filed its own bankruptcy case by filing a voluntary petition for relief under Chapter 7 of the Bankruptcy Code.
c. Formation and Existence of FedChex, LLC (FedChex"), and FedChex Recovery, LLC ("FedChex Recovery")
Not long after EFS and Barry sued Bishop, Murphy, and EPT in the state court action, Bishop and Murphy became acquainted with Davis and Arnold. Transcript of Deposition of Rodney Davis ("Davis Deposition"), January 29, 2008 at 21:16-19; Trial Testimony of Rodney Davis ("Davis Trial Testimony"), February 4, 2010, at 10:03-10:04 a.m.; Transcript of Deposition of Ed Arnold ("Arnold Deposition"), February 8, 2008, at 25:19-24. Davis and Arnold were business partners in other existing businesses. Davis Deposition, January 29, 2008, at 19:14-20:10. Bishop and Murphy talked to Davis and Arnold about the returned check processing business and discussed the possibility of going into business together. Davis Deposition, January 29, 2008, at 21:20-24:25.
Davis and Arnold agreed to start a new returned check processing business with Bishop and Murphy, which was called FedChex, and they also started a related separate business called FedChex Recovery to collect checks that FedChex could not collect on. Davis Deposition, January 29, 2008, at 43:19-24; 45:2-8.
On September 5, 2001, Articles of Organization for both FedChex and FedChex Recovery were filed with the California Secretary of State, creating these businesses as California Limited Liability Companies ("LLCs"). Plaintiff's Trial Exhibit 100, Limited Liability Company Articles of Organization of FEDCHEX, LLC; Plaintiff's Trial Exhibit 101, Limited Liability Company Articles of Organization for FedChex Recovery, LLC. Bishop, Murphy, Davis and Arnold were the original members of these LLCs. JPTO Undisputed Fact 1.22.
On or about October 1, 2001, Bishop, Murphy, Davis, and Arnold entered into and executed an Operating Agreement for FedChex and FedChex Recovery. JPTO, Undisputed Fact 1.20. Each member of these LLCs (i.e., Bishop, Murphy, Davis and Arnold) made a $2,000 contribution to both FedChex and FedChex Recovery in October 2001 for a 25% interest in each of the companies, and all four members acted as managers of both companies. JPTO Undisputed Facts 1.21 and 1.23; Section 1.20 of Plaintiff's Trial Exhibit 102, Operating Agreement for FEDCHEX, LLC; Section 1.20 of Plaintiff's Trial Exhibit 103, Operating Agreement for FEDCHEX RECOVERY, LLC. Bishop acted as Chief Executive Officer of FedChex and FedChex Recovery. JPTO Undisputed Fact No. 1.27. Murphy acted as President of FedChex and FedChex Recovery. Arnold Deposition, February 8, 2008, at 119:6-10 and 120:12-21. Davis acted as Chief Financial Officer of FedChex and FedChex Recovery. Transcript of Deposition of Brennon Ty Bishop ("Bishop Deposition"), March 5, 2008, at 95:21-98:11. Arnold acted as Chief Technical Officer of FedChex and FedChex Recovery since their formation. Bishop Deposition, March 5, 2008, at 96:10-98:23. FedChex and FedChex Recovery both did business in Orange County, California. JPTO, Undisputed Facts 1.8 and 1.9. As discussed below, Plaintiff alleges that these entities, FedChex and FedChex Recovery, are alter egos of EPT, which were created for the sole purpose of avoiding potential liability to EFS and Barry from the state court action.
2. THE STATE COURT ACTION AND ITS DISCOVERY PROCESS
In the complaint against Bishop, Murphy, and EPT in the state court action, Barry and EFS alleged the following causes of action based on Bishop and Murphy's alleged "gutting" of EFS through their new business, EPT: (1) breach of fiduciary duty; (2) conversion; (3) intentional interference with economic relations; (4) intentional interference with prospective economic relations; (5) negligent interference with economic relations; (6) negligent interference with prospective economic relations; (7) misappropriation of trade secrets; (8) unfair competition and untrue and misleading advertising; (9) trespass as to real and personal property; (10) accounting; (11) declaratory relief; and (12) money had and received." Plaintiff's Trial Exhibit 65, Complaint.
During discovery in the state court action, Barry and EFS obtained copies of documents that they contend show a pattern by Bishop and Murphy to essentially commandeer the assets and clients of EFS to form and make profitable their new business, EPT. For example, this discovery included copies of letters from EPT to all existing EFS customers. One such letter stated that although Bishop and Murphy were going into business as EPT, "the only difference you will notice is the name on the top of the paperwork." Barry Trial Declaration at 23:22-24:6; Plaintiff's Trial Exhibit 41, Letter dated February 13, 2001, from Michael Murphy to Tapitio Markets. Barry testified that he received copies of identical letters from numerous EFS customers, stating that they were canceling their contracts with EFS. Barry Trial Declaration at 24:10-15. Barry also testified that he sent responsive letters to these customers that had sent EFS cancellation notices, but ultimately to no avail as EFS lost those customers to EPT. Id. The state court defendants, Bishop and Murphy, also produced during discovery an EPT customer list as of April 4, 2002, which indicated clients who moved from EFS to EPT. Barry Trial Declaration at 25:16-18; Plaintiff's Trial Exhibit 47, Document entitled "Electronic Funds Solutions Customer Phone List" dated April 4, 2002.
The state court action continued after Bishop and his wife filed their voluntary petition for relief under Chapter 7 of the Bankruptcy Code on November 19, 2002, commencing this bankruptcy case. On May 15, 2003, the court granted relief from the automatic stay to allow EFS and Barry to continue the state court action. On June 23, 2003, Barry and EFS obtained a default judgment against Bishop, Murphy, and EPT for $8,040,272.19 in compensatory damages and $16 million in punitive damages for Bishop's misappropriation of EFS's trade secrets. Plaintiff's Trial Exhibit 193, Judgment as Against Ty Bishop in Electronic Funds Solutions, et al. v. Michael Murphy, et al., dated June 23, 2003 (incorporating prior orders). The judgment was reversed on appeal and, in its decision, the state appellate court gave Barry and EFS the alternatives of accepting $50,000, the amount pled in the complaint, or of amending the complaint to specifically allege greater compensatory damages. Defendants' Trial Exhibit 610, California Court of Appeal Opinion in Electronic Funds Solutions, et al. v. Michael Murphy, et. al., dated December 14, 2005, at 2. EFS and Barry chose the latter alternative and amended their complaint to allege claims for greater compensatory damages.
On February 24, 2004, Mark Alcock ("Alcock") was appointed by the receiver in the state court action to act as custodian of electronic data and disks that were recovered by the receiver team in the state court action. Trial Declaration of Mark Alcock ("Alcock Trial Declaration") at 4:6-9; Plaintiff's Trial Exhibit 227, Report of Court Appointed Examiner Mark Alcock, filed January 28, 2005 in Superior Court of the State of California, Orange County, Case No. 01CC02447. Alcock's duties as a member of the Receiver Team were to "basically oversee the operation for the receiver as far as the security and also the collection of data, in particular making sure collecting of electronic data was done properly." Alcock Trial Declaration at 4:26-5:1. According to Alcock, he and the receiver team found that there was some intermingling of records, and assets of various businesses shared the same premises that EPT occupied, including the FedChex Entities. Alcock Trial Declaration at 23:16-23.
On March 10, 2008, a default judgment was entered in the state court action against Murphy, Bishop, and EPT, jointly and severally, for $30,072,193.14, plus prejudgment interest, punitive damages, and attorneys' fees (but the award of punitive damages was later stricken upon remittur on August 25, 2009). Plaintiff's Trial Exhibit 194, Judgment against Defendants Bishop, Murphy and EPT in Electronic Funds Solutions, et. al. v. Michael Murphy, et. al., dated March 10, 2008.
3. THE BASES FOR PLAINTIFF'S FRAUDULENT TRANSFER CLAIMS
Plaintiff EFS alleges as its primary theory of recovery that FedChex and FedChex Recovery (collectively, the "FedChex Entities") are the alter egos of EPT and were created for the purpose of hindering Barry and EFS in any recovery against EPT, Bishop, and Murphy in the state court action. See, e.g., Plaintiffs Proposed Findings of Fact and Conclusions of Law at 4:20-6:11. Essentially, Plaintiff alleges that the creation of the FedChex Entities was an intentional and/or constructive fraudulent transfer of EPT's business under 11 U.S.C. § 548 and the California Uniform Fraudulent Transfer Act, California Civil Code § 3439, et seq. Plaintiff also seeks the imposition of successor liability on FedChex Entities based on the alter ego doctrine, alleging that FedChex and FedChex Recovery are merely continuing the same business as EPT, rather than as separate and distinct from EPT. According to Plaintiff, if it were to prevail on this type of claim, FedChex and FedChex Recovery would be liable for the default judgment entered in the state court action against EPT, Murphy and Bishop on March 10, 2008.
In addition to its alter ego theory, Plaintiff also alleges six claims against defendants for fraudulent prepetition transfers and unauthorized postpetition transfers. These transfers can be grouped into three categories.
First, Plaintiff alleges that fraudulent transfers of Bishop's membership interests in FedChex and FedChex Recovery occurred when the other LLC members engaged in a number of capital contribution calls designed to dilute Bishop's shares in both LLCs. Second, Plaintiff alleges that a fraudulent transfer of $50,000 occurred when Bishop paid that sum to FedChex for an independent sales organization ("ISO") license for him to make referrals of merchants to FedChex in exchange for commissions. Third, Plaintiff alleges that unauthorized post-petition transfers of Bishop's membership interests in the LLCs occurred through further capital contribution calls by Davis, Murphy, and Arnold after Bishop filed his bankruptcy petition, which diluted and eliminated his membership interests in the LLCs. Plaintiff alleges that all of these transfers took place in order to hinder EFS from collecting on its state court judgment against EPT, Murphy, and Bishop.
The Joint Pretrial Order refers to these transfers separately, but also refers to them collectively as the "FedChex $96,000 Transfers." See, e.g., JPTO Undisputed Fact 1.33. The court will not refer to the transfers collectively, but will analyze them separately for purposes of clarity.
a. Capital Contributions to Dilute Bishop's Shares in FedChex and FedChex Recovery: January 2002 to December 2002
Sometime in early January 2002, all members of FedChex and FedChex Recovery held a membership meeting where they agreed that additional capital contributions were required to continue operations of FedChex and FedChex Recovery. The members agreed that money put into FedChex and FedChex Recovery by either Davis or the Davis Entities (i.e., YPDS, Niche Directories, and DS Group) would be allocated as capital contributions into FedChex and FedChex Recovery, and that ownership interests in the LLCs would be adjusted accordingly. Trial Declaration of Edward Arnold Concerning Case in Chief at 4:16-23; Bishop Deposition, October 20, 2008, at 11:8-13:5. These agreements were memorialized in written documents signed by the members. Plaintiff's Trial Exhibit 138 Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of January 9, 2002; Plaintiff's Trial Exhibit 140, Document entitled "Change In Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of April 3, 2002; Plaintiff's Trial Exhibit 142, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of July 10, 2002; Plaintiff's Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC, and referencing a date of October 9, 2002.
On January 9, April 3, July 10, and October 9, 2002, Bishop, Murphy, Davis and Arnold signed four separate documents, all entitled "Change in Captial [sic] Contributions" (collectively, the "FedChex capital contribution documents") with respect to capital contributions made to FedChex. Plaintiff's Trial Exhibit 138, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of January 9, 2002; Plaintiffs Trial Exhibit 140, Document entitled Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of April 3, 2002; Plaintiffs Trial Exhibit 142, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of July 10, 2002; Plaintiffs Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of October 9, 2002. On the same dates, Bishop, Murphy, Davis and Arnold signed four other documents entitled "Change in Captial [sic] Contributions" (collectively, the "Fedchex Recovery capital contribution documents") with respect to capital contributions to FedChex Recovery. Plaintiffs Trial Exhibit 139, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of January 9, 2002; Plaintiff's Trial Exhibit 141, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of April 3, 2002; Plaintiff's Trial Exhibit 143, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of July 10, 2002; Plaintiff's Trial Exhibit 145, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of October 9, 2002. Each of these "Change in Capital Contributions" documents set forth the amounts of the capital contributions and transfers of membership interest as the date of the document. All eight of these documents recited the following:
1) All four members held a meeting;
2)Davis announced a requirement for additional capital contributions to continue operating FedChex;
3)Money put into the business or expenses paid by Davis or the Davis Entities should be allocated as capital contributions; and
4)Adjustments would be made on a quarterly basis.
Plaintiff's Trial Exhibits 138-145. The only differences between the documents were the dates of the transactions, the amounts transferred by Davis and Bishop, and whether the capital contributions were for FedChex or FedChex Recovery. Id. No other documents were offered into evidence at trial regarding the conduct of these membership meetings and what took place at them. Davis Deposition, January 29, 2008, at 182:13-16 (regarding the January meeting of FedChex), 184:24-185:11 (regarding the January meeting of FedChex Recovery), 190:12-23 (regarding the April meeting of FedChex), 196:5-10 (regarding the April meeting of FedChex Recovery), 200:14-19 (regarding the July meeting of FedChex), 204:15-19 (regarding the July meeting of FedChex Recovery), and 207:24-25 (regarding the October meeting for FedChex).
Section 3.2 of FedChex and FedChex Recovery's operating agreements stated:
... To the extent unanimously approved by the Managers and Member who hold a majority interest, from time to time, the Members shall be permitted to make additional Capital Contributions or Equivalents if and to the extent they so desire, and if the Managers determine that such additional Capital Contributions or Equivalents are necessary or appropriate for the conduct of the Company's business. In that event, the Members shall have the opportunity, but not the obligation, to participate in such additional Capital Contributions or Equivalents, the Percentage Interests shall be adjusted by the Managers to reflect the new relative proportions of the Capital Accounts of the Members.
Planitiff's Trial Exhibit 102, Operating Agreement for FedChex, LLC at fl 3.2; Plaintiff's Trial Exhibit 103, Operating Agreement for FedChex Recovery, LLC at U 3.2.
At these membership meetings of FedChex and FedChex Recovery regarding calls for capital contributions, Davis and Bishop were the only members who received credit for additional capital contributions to the LLCs. Plaintiff's Trial Exhibit 138, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of January 9, 2002; Plaintiff's Trial Exhibit 139, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of January 9, 2002; Plaintiff's Trial Exhibit 140, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of April 3, 2002; Plaintiff's Trial Exhibit 141, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of April 3, 2002; Plaintiff's Trial Exhibit 142, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of July 10, 2002; Plaintiff's Trial Exhibit 143, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of July 10, 2002; Plaintiff's Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of October 9, 2002; Plaintiff's Trial Exhibit 145, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of October 9, 2002. According to Arnold, the LLC members understood that any invested capital or resources not repaid by the FedChex Entities to the investing members would be treated by the members as capital contributions. Trial Declaration of Edward Arnold concerning Case in Chief at 3:2-5.
At the January 9, 2002 meeting of the FedChex and FedChex Recovery members, Davis received credit of $73,885.14 for additional capital contributions to FedChex and $20,515.37 to FedChex Recovery. Plaintiff's Trial Exhibit 138, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of January 9, 2002; Plaintiff's Trial Exhibit 139, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of January 9, 2002. These credits diluted and reduced Bishop's membership interest in FedChex to 2.44% and his interest in FedChex Recovery to 7.01%. Id.
Additional meetings of the LLC members occurred on April 3, 2002, July 10, 2002, and October 9, 2002 where additional capital contribution calls were made. As reflected in the April 3, 2002 member agreements, Davis received credit of $91,682.07 for additional capital contributions to FedChex and $10,127.74 to FedChex Recovery. Plaintiff's Trial Exhibit 140, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of April 3, 2002; Plaintiff's Trial Exhibit 141, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of April 3, 2002. As reflected in those agreements, Davis's capital contributions diluted and reduced Bishop's membership interests in FedChex to 1.15% and in FedChex Recovery to 5.18%.
As reflected in the July 10, 2002 member agreements, Davis received credit of $156,448.95 for additional capital contributions to FedChex and $15,708.28 to FedChex Recovery. Plaintiff's Trial Exhibit 142, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of July 10, 2002; Plaintiffs Trial Exhibit 143, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of July 10, 2002. Also, as reflected in those agreements, Bishop received credit of $19,000 in additional capital contributions to FedChex and $19,000 in additional capital contributions to FedChex Recovery. Id; JPTO Undisputed Fact 1.33. Bishop made these capital contributions by borrowing on a line of credit against his residence. Plaintiff's Trial Exhibit 122, Document entitled "Washington Mutual Equity Loan Detail"; Bishop Trial Testimony, February 19, 2010, at 10:51 a.m. Because of Bishop's additional capital contributions, his membership interest in FedChex increased to 6.02%, while his interest in FedChex Recovery decreased to 3.68%. Plaintiff's Trial Exhibit 142, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of July 10, 2002; Plaintiffs Trial Exhibit 143, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of July 10, 2002.
As reflected in the October 9, 2002 member agreements, Davis received credit of $150,271.33 for additional capital contributions to FedChex and $21,423.68 to FedChex Recovery. Plaintiff's Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of October 9, 2002; Plaintiff's Trial Exhibit 145, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of October 9, 2002. Also, as reflected in the October 9, 2002 FedChex, LLC agreement, Bishop received credit for $27,000 in additional capital contributions to FedChex, thereby increasing his ownership percentage to 9.12%. Plaintiff's Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of October 9, 2002. Bishop's previous contribution of $19,000 to FedChex Recovery was removed without explanation on the October 9, 2002 FedChex Recovery agreement, which reduced his ownership interest in that entity to 2.64%. Plaintiff's Trial Exhibit 145, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of October 9, 2002.
The evidence shows that Bishop loaned $10,000 to FedChex on September 4, 2002 and $17,000 on September 19, 2002. JPTO Undisputed Fact 1.33. The October 9, 2002 capital contribution documents show these amounts as capital contributions to FedChex. See Plaintiff's Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of October 9, 2002.
By October 9, 2002, Davis had a 90.12% membership interest in FedChex, and 92.08% membership interest in FedChex Recovery. Plaintiffs Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of October 9, 2002; Plaintiffs Trial Exhibit 145, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of October 9, 2002. The effect of Davis's capital contributions resulted in reductions of Bishop's membership interests in FedChex and FedChex Recovery to 9.12% and 2.64% respectively. Id. However, Bishop on his bankruptcy schedules listed his membership interest in FedChex as 8.5% and his interest in FedChex Recovery as 1.8%. Plaintiffs Trial Exhibit 195, Voluntary Petition of Brennon Ty Bishop with Summary of Schedules, at 11. As alleged by Plaintiff, Davis's additional capital contributions to FedChex and FedChex Recovery resulted in a constructive fraudulent transfers of Bishop's assets, namely, his membership interests in FedChex and FedChex Recovery, through dilution of his membership interests in these companies. See, e.g., Plaintiff's Proposed Findings of Fact and Conclusions of Law at 94:9-14. As further alleged by Plaintiff, Bishop's specific capital contributions to the LLCs of $19,000 and $27,000 were also fraudulent transfers because he did not receive reasonably equivalent value for these transfers.
b. Bishop's Transfer of $50,000 to FedChex under the ISO Agreement
On November 18 or 19, 2002, just before he filed for bankruptcy, Bishop bought a sales license to sell for FedChex by purchasing an Independent Sales Organization Agreement ("ISO Agreement") from FedChex for $50,000. Bishop Trial Testimony, February 19, 2010, at 1:01-1:09 p.m.; Plaintiff's Trial Exhibit 170, Memo dated November 18, 2002 to Ty Bishop with purported dealer agreement. Bishop testified at trial that the reason for his purchase of the ISO Agreement was because he had no means of income due to the fact that he was no longer a member of FedChex and that his business at EPT was "tenuous at best." Bishop Trial Testimony, February 19, 2010, at 2:02 p.m. Bishop testified that his goal in buying the ISO agreement was to have a revenue source so that he could support his family. Id. at 2.06 p.m. However, Bishop has admitted that he did not make any sales under the ISO agreement and had stopped making efforts to sell FedChex services. Bishop Deposition, March 5, 2008, at 70:21-71:15.
c. Post-Petition Transfers of Bishop's Remaining Interests in FedChex and FedChex Recovery
Bishop's bankruptcy case filing was a dissolution event under FedChex and FedChex Recovery's operating agreements. See Sections 1.12 and 8.1 of Plaintiff's Trial Exhibit 102, Operating Agreement for FedChex, LLC; Section 1.12 and 8.1 of Plaintiff's Trial Exhibit 103, Operating Agreement for FedChex Recovery, LLC. After Bishop filed his bankruptcy case, on November 19, 2002, Davis, Arnold, and Murphy had an emergency meeting regarding Bishop's membership interests in FedChex and FedChex Recovery. Davis, Arnold, and Murphy agreed and decided to terminate Bishop's membership interests in FedChex and FedChex Recovery pursuant to Section 8.1 of the operating agreements of the LLCs. Davis Deposition, January 29, 2008, at 228:5-230:21; Plaintiff's Trial Exhibit 148, Document entitled "Termination of Member Interest, Removal of Officer, Removal of Manager" referencing FedChex, LLC and referencing a date of November 19, 2002. They also agreed and decided to remove Bishop as a manager of FedChex and FedChex Recovery and to replace him with Davis as CEO of FedChex and FedChex Recovery. Id.
Bishop's membership interests continued to be reflected in FedChex and FedChex Recovery documents until December 4, 2002. Plaintiff's Trial Exhibit 150, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex, LLC and referencing a date of December 4, 2002; Plaintiff's Trial Exhibit 151, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002; Plaintiff's Trial Exhibit 168, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex, LLC and referencing a date of December 4, 2002. After the October 2002 capital contribution agreements, Bishop's membership interests in FedChex and FedChex Recovery were 9.12% and 2.64% respectively. See Plaintiff's Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of October 9, 2002; Plaintiff's Trial Exhibit 145, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of October 9, 2002. As reflected in the December 4, 2002 member agreements, Bishop's interests in FedChex and FedChex Recovery were reduced to 8.14% and 2.19% respectively. Plaintiff's Trial Exhibit 150, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex, LLC and referencing a date of December 4, 2002; Plaintiff's Trial Exhibit 151, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002. However, there is no explanation for these decreases in his membership interests, and Bishop testified at trial that his ownership percentages in FedChex and FedChex Recovery were incorrectly stated on his bankruptcy petition. Bishop Trial Testimony, February 19, 2010, at 1:48-1:49 p.m. Bishop testified that he believed his interest in FedChex was worth $62,000, but did not know the relative percentage ownership. Id. Bishop also testified that he believed his membership interest in FedChex Recovery was worth $2,000 as of the petition date, but did not know the percentage. Id., February 19, 2010, at 1:49 p.m.
After Bishop filed his bankruptcy petition, on December 4, 2002, he sold his remaining interests in FedChex and FedChex Recovery to the remaining members of the LLCs. Plaintiff's Trial Exhibit 152, Document entitled "Former Members Purchase Price" referencing FedChex, LLC and referencing a date of December 4, 2002 and referencing Ty Bishop's receipt of $62,000; Plaintiff's Trial Exhibit 154, Document entitled "Former Members Purchase Price" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002, and referencing Brennon Ty Bishop's receipt of $2,000. Bishop received $62,000 for his $48,000 capital balance in FedChex. Plaintiff's Trial Exhibit 152, Document entitled "Former Members Purchase Price" referencing FedChex, LLC and referencing a date of December 4, 2002 and referencing Ty Bishop's receipt of $62,000. The additional $14,000 over Bishop's balance of $48,000 capital account was believed by the remaining members to be "fair consideration" for sale of the last of his member interest. Id. Bishop also received $2,000 for his 2.19% member interest in FedChex Recovery. Plaintiff's Trial Exhibit 154, Document entitled "Former Members Purchase Price" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002, and referencing Brennon Ty Bishop and the amount of $2,000. In this transaction, Bishop waived his right to an appraisal of his membership interest and did not have approval of the trustee or the court for the transaction. Plaintiff's Trial Exhibit 153, Document entitled "Promissory Note Balloon Payment" referencing and bearing a signature ofFedChex, LLC, dated December 22, 2002 with Ty Bishop as payee in the amount of $62,000; Plaintiff's Trial Exhibit 155, Document entitled "Promissory Note FedChex Recovery Balloon Payment" referencing and bearing a signature by FedChex, LLC dated December 22, 2002 with Ty Bishop as payee in the amount of $2,000; Trial Declaration of Leonard Shulman ("Shulman Trial Declaration"), filed June 30, 2009, at 7 Tf 5. At this point, Bishop was completely bought out from his membership interests in FedChex and FedChex Recovery. See Plaintiff's Trial Exhibit 150, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex, LLC and referencing a date of December 4, 2002; Plaintiff's Trial Exhibit 151, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002.
However, Davis did not pay Bishop cash for the purchase of Bishop's remaining membership interests. Instead, Davis gave promissory notes to Bishop, one in the amount of $62,000 (buying out Bishop's interest in FedChex) and one in the amount of $2,000 (buying out Bishop's interest in FedChex Recovery), with an interest rate of 5 percent on the Promissory Notes. Plaintiff's Trial Exhibit 153, Document entitled "Promissory Note Balloon Payment" referencing and bearing a signature of FedChex, LLC, dated December 22, 2002 with Ty Bishop as payee in the amount of $62,000; Plaintiff's Trial Exhibit 155, Document entitled "Promissory Note FedChex Recovery Balloon Payment" referencing and bearing a signature by FedChex, LLC dated December 22, 2002 with Ty Bishop as payee in the amount of $2,000. The FedChex Promissory Note provided that full payment plus interest would be made within 5 years of the purchase. Plaintiff's Trial Exhibit 153, Document entitled "Promissory Note Balloon Payment" referencing and bearing a signature of FedChex, LLC, dated December 22, 2002 with Ty Bishop as payee in the amount of $62,000. The FedChex Recovery Promissory Note provided that full payment plus interest would be made on or before March 1, 2003. Plaintiff's Trial Exhibit 155, Document entitled "Promissory Note FedChex Recovery Balloon Payment" referencing and bearing a signature by FedChex, LLC dated December 22, 2002 with Ty Bishop as payee in the amount of $2,000. Bishop never received payment for his ownership interests. Daw's Deposition, January 29, 2008, at 256:12-257:18, and 260:23-261:1; Shulman Trial Declaration, fl 5.
DISCUSSION
This court has jurisdiction over this adversary proceeding pursuant to 28 U.S.C. §§ 157(b) and 1334(b). This matter is a core proceeding under 28 U.S.C. § 157(b)(2)(A), (E), (H), and (O). Venue is appropriate in this court. 28 U.S.C. § 1409(a).
I. SECOND AND SIXTH CLAIMS FOR RELIEF: AVOIDANCE OF CONSTRUCTIVE FRAUDULENT TRANSFERS UNDER 11 U.S.C. § 548 AND CALIFORNIA UNIFORM FRAUDULENT TRANSFER ACT
By the Second Claim for Relief, Plaintiff seeks to avoid the transfers of the Bishop's assets, including the member interests and cash transfers, pursuant to 11 U.S.C. § 548(a)(1)(B) as constructively fraudulent transfers. Alternatively, by the Sixth Claim for Relief, Plaintiff seeks to avoid the transfers as constructively fraudulent under the California Uniform Fraudulent Transfer Act ("CUFTA"), California Civil Code, § 3439 et seq., pursuant to 11 U.S.C. § 544(b).
In order to protect the interests of a bankruptcy estate, a trustee-or in this case, a successor-in-interest to the trustee-may bring an action to avoid a transfer that is either intentionally fraudulent (11 U.S.C. § 548(a)(1)(A)) or constructively fraudulent (§ 548(a)(1)(B)). Section 548(a)(1)(B) provides:
The trustee may avoid any transfer... of an interest of the debtor in property, or any obligation . . . incurred by the debtor, that was made or incurred on or within 2 years before the date of the filing of the petition, if the debtor voluntarily or involuntarily-
For our purposes however, the reach-back period under section 548 is only one year, because the Bishop's bankruptcy petition was filed before April 21, 2006. See 11 U.S.C. § 548 (2005).
(B) (i) received less than a reasonably equivalent value in exchange for such transfer or obligation; and
(ii) (l) was insolvent on the date that such transfer was made or such obligation was incurred, or became insolvent as a result of such transfer or obligation;
(II) was engaged in business or a transaction, or was about to engage in business or a transaction, for which any property remaining with the debtor was an unreasonably small capital;
(III) intended to incur, or believed that the debtor would incur, debts that would be beyond the debtor's ability to pay as such debts matured; or
(IV) made such transfer to or for the benefit of an insider, or incurred such obligation to or for the benefit of an insider, under an employment contract and not in the ordinary course of business.
11 U.S.C. § 548(a)(1)(B)(emphasis added). Thus, a transfer is constructively fraudulent, and recoverable pursuant to 11 U.S.C. § 550, when the debtor makes a transfer within two years (one year in this case) of the petition date, received less than reasonably equivalent value for the transfer, and one of four resulting situations occur. See In re Fitness Holdings International, Inc., 714 F.3d 1141, 1145 (9th Cir. 2013). These elements are similar to CUFTA, except that CUFTA permits a longer reach-back period, and the standard for reasonably equivalent value is somewhat different, which is discussed infra. See California Civil Code, § 3439.09(a); Monastra v. Konica Business Machines, U.S.A., Inc., 43 Cal.App.4th 1628, 1645-1646 (1996). The court therefore analyzes the alleged fraudulent transfers under the Bankruptcy Code and CUFTA provisions simultaneously and will note any differences where applicable. In re AFI Holding, Inc., 525 F.3d 700, 703 (9th Cir. 2008); In re United Energy Corp., 944 F.2d 589, 594 (9th Cir. 1991); In re Maddalena, 176 B.R. 551, 553 (Bankr. CD. Cal. 1995).
California Civil Code § 3439.04 provides:
A. Transfers of Bishop's Membership Interests in FedChex and FedChex Recovery: Alter Ego/Successor Liability to EPT
By this action, Plaintiff seeks to avoid the alleged transfer of EPT's business into the FedChex Entities. Plaintiff's Proposed Findings of Fact and Conclusions of Law at 5:14-19. The complaint characterized these allegations merely as "alter ego" and "conspiracy" allegations. See Fourth Amended Complaint at 6-10. However, it is clear from Plaintiff's Proposed Findings that the real issue is whether or not there was a fraudulent transfer of EPT into FedChex and FedChex Recovery. As outlined above, Plaintiff alleges that Bishop and Murphy wrongfully took the business of EFS from Barry, created their own business, EPT and, in order to escape any potential liability under the state court action, Bishop and Murphy entered into agreements with Davis and Arnold to carry on the same business as EPT through two new LLC's, FedChex, LLC and FedChex Recovery, LLC. See Plaintiff's Proposed Findings of Fact and Conclusions of Law at 4:20-27. Thus, as Plaintiff asserts, "the formation of the [two FedChex Entities] constituted an indirect intentional [and/or constructive] fraudulent transfer of 50% of the ownership interest in EPT to Davis and Arnold, with Bishop and Murphy retaining the other 50% interest in EPT in the form of a 25% interest to each of them in the two newly formed LLCs which would substantially, if not completely, step into the shoes of EPT relative to the operation of the business in which EPT was engaged-the same business it had taken from EFS." Plaintiff's Proposed Findings of Fact and Conclusions of Law at 5:14-19. As Plaintiff further asserts, while EPT was on the verge of bankruptcy, FedChex and FedChex Recovery were growing and earning profits by diverting those profits from EPT. See Plaintiff's Proposed Findings of Fact and Conclusions of Law U 192, at 65. Plaintiff first bears the burden of demonstrating a transfer of an interest of the debtor in property or an obligation incurred by the debtor. 11 U.S.C. § 548. Under the Bankruptcy Code, "transfer" means:
(A) The creation of a lien;
(B)The retention of title as a security interest;
(C)The foreclosure of a debtor's equity of redemption; or
(D)Each mode, direct or indirect, absolute or conditional, voluntary or involuntary, of disposing of or parting with-
i. Property; or
ii. An interest in property.
11 U.S.C. § 101(54). For the purposes of Section 548, "interest of the debtor" has generally been held to be equivalent to "property of the estate" as defined in section 541. See Begier v. Internal Revenue Service, 496 U.S. 53, 59 (1990). Thus, Section 548 only applies to those transfers that affect property that would have been property of the bankruptcy estate but for the transfer. See 5 Resnick and Sommer, Collier on Bankruptcy, U 548.03[2][a], at 548-44 (16th ed. 2013). In order to establish a Section 548 claim, there must be an improper transfer of property of the estate that diminishes the value of the debtor's bankruptcy estate from the standpoint of the creditors. In re Jeffrey Bigelow Design Group, 956 F.2d 479, 485 (4th Cir. 1992). Property of the bankruptcy estate may include intangible assets, such as corporate goodwill and a "book of business." See Stoumbos v. Kilimnik, 988 F.2d 949, 963-964 (9th Cir. 1993). The transfer of an ongoing business concern may constitute a fraudulent transfer. See, e.g., id. In an action to establish a fraudulent transfer, Plaintiff must establish each requisite element by a preponderance of evidence. In re Consolidated Meridian Funds, 487 B.R. 263, 267 (Bankr. W.D. Wash. 2013); Whitehouse v. Six Corp., 40 Cal.App.4th 527, 533-534 (1995).
Bishop had a property interest in EPT and he had a property interest in FedChex and FedChex Recovery because he was a partial owner of all of these companies. Plaintiff's biggest obstacle in proving a fraudulent transfer of EPT's business to Davis and his entities, however, is establishing the existence of the first element of a fraudulent transfer: that a transferor debtor's interest in property ever took place, which would require in effect a factual finding that FedChex and FedChex Recovery are the same business as EPT. In its attempt to establish such a transfer, Plaintiff argues that EPT and its members, Bishop and Murphy, essentially transferred the "guts" of EPT's business- its clients, workforce, and trade secrets-into the two FedChex Entities, FedChex and FedChex Recovery. In Plaintiff's view, this transfer had the effect of causing EPT to falter and fail while the FedChex Entities experienced growth and profitability.
As discussed herein, the court finds that Plaintiff has not established the required element of a "transfer" by a preponderance of the evidence and, as such, it cannot prevail on its claims for constructive fraudulent transfer under Section 548 of the Bankruptcy Code or under the CUFTA.
1. Plaintiff Has Not Established That EPT Transferred its Client List or Clientele to the FedChex Entities
Plaintiff contends that EPT's business was transferred to the FedChex Entities as shown by transfer of EPT's client list. As discussed previously, Bishop, Murphy, Davis and Arnold formed FedChex as a returned check processing business and FedChex Recovery as a business to collect on checks upon which FedChex was unable to collect. Davis Deposition, January 29, 2008, at 43:19-24; 45:5-7; Davis Trial Declaration Concerning Case in Chief at 2:1-4:18; Arnold Trial Declaration Concerning Case in Chief at 2:26-5:5. When FedChex Recovery was formed, EPT began using FedChex Recovery to collect checks that FedChex could not collect through electronic means. Davis Trial Testimony, May 7, 2010, at 10:31-10:35 a.m.; Arnold Deposition, February 8, 2008, at 94:21 - 96:19. Plaintiff contends that because EPT needed to give names and information of EPT's clientele to FedChex Recovery in order for FedChex Recovery to be able to do collection work for EPT, FedChex obtained EPT's client list to "acquire those clientele upon any bankruptcy filing and/or cessation of business by EPT, if not sooner." See e.g., Plaintiff's Proposed Findings of Fact and Conclusions of Law H 191.5 at 60; see also, Davis Trial Testimony, May 7, 2010, at 3:45-3:47 p.m. In response to such allegations, Davis testified that "[n]either FEDChex Recovery nor FEDChex, LLC actively sought to take any customer from ePT or EFS" and that neither entity "ever took any proprietary information from EFS or ePT." Davis Trial Declaration Concerning Case in Chief at 2:17 and 2:8-9. Thus, the issue is raised whether FedChex Entities improperly appropriated EPT's (and thus EFS's) customer list or clientele.
FedChex apparently had some access to EPT's client list because it processed checks for EPT as its customer. Daw's Trial Testimony, May 7, 2010, at 10:58-10:59 a.m.; Arnold Deposition, February 8, 2008, at 94:21 - 95:7, 96:10-19. However, neither side offered into evidence EPT's customer list at trial, and there is no indication that the customer list was ever offered into evidence in the state court action. Thus, Plaintiff has not adequately shown that the FedChex Entities directly appropriated EPT's customer list in general.
As acknowledged by Plaintiff, at the time FedChex Recovery was formed, EPT was using a different collection company before FedChex Recovery for collection of checks by conventional non-electronic means, but Murphy and Bishop had FedChex Recovery undertake this work, which shows that the FedChex Entities had appropriated EPT's customer list. Plaintiff's Proposed Findings of Fact and Conclusions of Law If 191.2 at 58, citing Davis Trial Testimony, May 7, 2010, at 3:45-3:47 p.m. The court is not sure how this allegation shows a misappropriation of a customer list by the FedChex Entities because EPT decided to use a different subcontractor to handle conventional, non-electronic check recovery work. Moreover, the cited testimony does not necessarily establish that EPT gave its entire customer list to FedChex Recovery, but that customer information was given by EPT to FedChex Recovery in order to do the collection work. Id.
Plaintiff apparently attempts to show that the FedChex Entities improperly acquired EPT's customer list by arguing that at least two EPT customers were serviced by the FedChex Entities. Emerald City, a Pizza Hut franchise in Seattle, Washington, was identified as one of EPT's customers in the period preceding EPT's bankruptcy filing on February 3, 2003. See Plaintiff's Proposed Findings of Fact and Conclusions of Law H 191.5, at 60-61. On February 20, 2003, Emerald Pizza was listed as one of FedChex's customers, and in 2003 was listed as one of FedChex's top six generators of revenue. See Plaintiff's Trial Exhibit 206, FedChex Customer List with Customer List Supplemental; Davis Deposition, September 10, 2004, at 8:20-9:20. Also, FedChex acquired Domino's Corporate as a client in September 2002 because Murphy already had knowledge and information regarding how to service Domino's franchises based on his experience in servicing them for EPT. Davis Trial Testimony, May 7, 2010, at 11:49 a.m.; Plaintiffs Trial Exhibit 245, Entrepreneur Magazine Printout.
In the court's view, these two isolated instances in which the FedChex Entities serviced prior EPT clients do not by themselves show that EPT transferred its customer list to FedChex. Plaintiff did not offer into evidence EPT's customer list to compare with FedChex's customer list. Instead, Plaintiff offered into evidence Exhibit 245, a reprinted article from Entrepreneur.com indicating that FedChex had Domino's Pizza as an account. While Plaintiff points out these two instances in which the FedChex Entities did business for two of EPT's prior customers, this evidence does not provide a full account to show that FedChex appropriated EPT's customer list.
Plaintiff also offered some evidence that FedChex ISOs contacted EPT customers by letter and by using EPT's name to promote FedChex, including a letter from Greg Blanchard to Home Depot (dated December 17, 2001), and an email from Kenny D. Aquila to a representative of Brunswick (dated January 13, 2002), which were customers of EPT. Plaintiff's Trial Exhibit 226, Supplemental Statement, with Newly Discovered Evidence, in Support of Motion to Amend Judgment to Reflect the Names of Additional Judgment Debtors, Declaration of Mark Alcock, Declaration of Einar Wm. Johnson, Documents Attached to Supplemental Statement, at 40; 67-72; Plaintiff's Trial Exhibit 227, Report of Court Appointed Examiner Mark Alcock at 21; 25-26. These letters stated that FedChex was the new name of EPT. Id. Alcock, as part of the Receiver team for EPT, attested that these letters are examples of several similar letters. Plaintiff's Trial Exhibit 227 at 4 lines 5-8. Two letters do not indicate that FedChex appropriated EPT's entire clientele or customer list; whether this was a common practice among all of FedChex's ISOs or just a few instances is unclear from the record before the court.
Plaintiff also points to statements by Arnold in his deposition admitting that Arnold believed, but was not certain, that clientele of EPT became clientele of FedChex sometime between the formation of FedChex and Bishop filing for bankruptcy. Arnold Deposition, February 8, 2010, at 97:8-14. Plaintiff points to Barry's trial declaration, where Barry describes several calls he had made to former EFS clients to determine if they were now FedChex clients. Barry Trial Declaration at 45:24-27; Plaintiffs' Trial Exhibit 207; Phone Notes of Michael Barry in May of 2003. Barry's notes from these calls only list five FedChex clients that were previously EFS clients, two of which represent Domino's franchises. See Plaintiffs' Trial Exhibit 207, Phone Notes of Michael Barry in May of 2003. Furthermore, nothing shows that these five clients were EPT clients before becoming FedChex clients. Barry admits that, during his calls with these five companies, there was no mention of EPT. Barry Trial Declaration at 45:25. The limited number of clients and the absence of evidence that these clients were indeed previous EPT clients fails to show that the EPT business was being transferred wholesale to FedChex.
The evidence indicates that after EPT began struggling financially and eventually filed for bankruptcy on February 3, 2003, some clients migrated from EPT to FedChex. Arnold Trial Declaration Concerning Case in Chief at 4:2-5; Bishop Trial Testimony, February 19, 2010, at 9:41 a.m. But the evidence also shows that FedChex, as a more technologically advanced check processing business, had the ability to reach large corporations like Pizza Hut Corporation or Swans Foods, which EPT was not able to serve. Arnold Trial Declaration Concerning Case in Chief at 4:5-12; Arnold Trial Testimony, May 6, 2010, at 11:39-11:42 a.m.; Arnold Deposition, February 8, 2008, at 79:21 - 80:21, 81:10-15, 82:12 - 83:24; Bishop Trial Testimony, February 19, 2010, at 9:38-9:39 a.m. Although FedChex and EPT both worked with EFT Network, a third-party processor of checks, FedChex scanned in check items and electronically read checks while EPT did not have this capability. Id. FedChex had integrated software to automate much of what was required to process the checks to EFT, while EPT had its workers manually entering the information and outsourced much of their processing work. Arnold Trial Declaration Concerning Case in Chief at 4:5-12; Arnold Trial Testimony, May 6, 2010, at 9:35-9:36 a.m.; Arnold Deposition, February 8, 2008, at 81:10-15. EPT's business was more designed for smaller "mom and pop" clients, like a local dry cleaners. Arnold Trial Testimony, May 6, 2010, at 11:40-11:42 a.m.; Arnold Deposition, February 8, 2008, at 79:21 -80:21, 81:10-15, 82:12 - 83:24. Plaintiff's assertion that EPT and FedChex serviced both "mom and pop" business customers and large business customers is not supported by the evidence; EPT simply was not set up to handle large-scale clients in the way that FedChex was, which allowed FedChex to move forward while EPT could not. Id.
The court finds that Plaintiff has not proven by a preponderance of the evidence that EPT transferred its customer list or clientele to the FedChex Entities for purposes of its fraudulent transfer claims under federal or state law because the circumstantial evidence is inconclusive that there was such a transfer rather than former customers of EPT going to the FedChex Entities for service by offering more competitive services and for EPT's business failure.
2. Plaintiff Has Not Established That EPT Transferred Its Workforce to the FedChex Entities
Plaintiff contends that EPT's business was transferred to the FedChex Entities as shown by the transfer of EPT's workforce to FedChex when Bishop and Murphy joined Davis and Arnold to create FedChex. See e.g., Plaintiff's Proposed Findings of Fact and Conclusions of Law If 191.3 at 59-60. More precisely, Plaintiff alleges that FedChex gained an unfair advantage in the market by fraudulently acquiring EPT (or EFS's) workforce, namely, their salespeople. It is not disputed that both EPT and the FedChex Entities used "IBOs" and "ISOs"-essentially independent contractors acting as salespeople-as their sales and marketing force. Davis Trial Testimony, May 7, 2010, at 11:28-11:30 a.m. Murphy acknowledged that he considered recruiting the better "IBOs" (salespeople) from EPT for FedChex's sales force. Trial Testimony of Michael Murphy, February 5, 2010, at 10:58-10:59 a.m. Davis denied that it was his goal and FedChex's intent to take EPT's salesforce. Davis Trial Testimony, February 4, 2010, at 9:51 a.m.
However, use of some of the same people as IBOs and ISOs in one company to the next does not necessarily establish the transfer of a workforce from one business to another for purposes of a fraudulent transfer claim. EPT had a sales force of its own before FedChex was formed, but Plaintiff did not offer evidence of exactly how many ISOs transferred from EPT to FedChex. It is similarly unclear from the record whether the ISOs who did transfer from EPT to FedChex did so because EPT was a failing business by the beginning of 2003, and perhaps the workers saw a better economic opportunity for sales at a new company. Accordingly, the court finds that Plaintiff has not proven by a preponderance of the evidence that EPT transferred its workforce to the FedChex Entities for purposes of its fraudulent transfer claims under federal or state law because the circumstantial evidence is inconclusive that there was such a transfer as shown by the number of workers going over to the FedChex Entities or that any workers went over to FedChex for reasons other than EPT's business failure or FedChex offering a better working environment.
3. Plaintiff Has Not Established That EPT Transferred Its Goodwill or Trade Secret Information to the FedChex Entities
Plaintiff further argues that Bishop and Murphy brought to FedChex their familiarity with the business of processing funds electronically, including collection of NSF checks electronically, which they gained from their experience at EPT and EFS. See e.g., Plaintiff's Proposed Findings of Fact and Conclusions of Law TT191.1, at 58. Plaintiff also points out that Davis and Arnold had not even heard of this type of business before meeting Bishop and Murphy. Plaintiff's Proposed Findings of Fact and Conclusions of Lawi 191.1, at 58, citing Arnold Trial Testimony, May 6, 2010, at 1:39-1:40 p.m. As alleged by Plaintiff, Davis acknowledged a benefit to having Bishop and Murphy involved in the business because they had some industry knowledge through their experience in the business, such as EFS and EPT. Id., citing Davis Deposition, January 29, 2008, at 43:25-44. Plaintiff also alleges that FedChex and FedChex Recovery used EFS's membership in NACHA (a database for companies involved in the electronic movement of money and financial data) to transfer EPT's processing relationships to the FedChex Entities. See Plaintiff's Proposed Findings of Fact and Conclusions of Law H 63, at 27 ("It took substantial money and effort for EFS to find EFT, including a membership in NACHA which Barry acquired, expending $5,000 of his own funds . . . membership in NACHA was required to get information regarding [check] processors. ... It is noted that Bishop and Murphy never had a membership in NACHA.") (citations to the record omitted).
Although it is true that Bishop and Murphy may have brought in their knowledge of processing funds electronically, it is unclear what proprietary information belonging to EFS was wrongly appropriated by Defendants. According to Arnold and Davis, Bishop and Murphy told them about the business of NSF check recovery for customers, but knowledge of the existence of this type of business is not proprietary trade secret type knowledge itself. Arnold Trial Declaration Concerning Case in Chief at 2:1-15; Davis Trial Declaration Concerning Case in Chief at 2:1-14; Arnold Deposition, February 8, 2008, at 20:11-40:2. The fact that Davis and Arnold were not familiar with the check recovery industry does not make the existence of the industry proprietary information. Id.
Arnold and Davis brought into FedChex their expertise in business, infrastructure, and programming-something apparently missing from both EFS and EPT. Arnold Trial Declaration Concerning Case in Chief at 2:1-3:15; Davis Trial Declaration Concerning Case in Chief at 2:1-3:16; Arnold Deposition, February 8, 2008, at 20:11-40:2; Murphy Trial Testimony, February 5, 2010, at 2:57-3:01 p.m. Davis was an entrepreneur who had influence over several businesses and eventually was the main source of capital investments when FedChex required capital. Daw's Trial Declaration Concerning Case in Chief at 2:22-27 and 3:12-16; Arnold Trial Declaration Concerning Case in Chief at 1:26 - 5:3; Arnold Deposition, February 8, 2008, at 20:11-25:18, Davis and Arnold saw an opportunity to add to the business their expertise in programming and infrastructure in order to build a better product than what was currently in the marketplace-including EPT and EFS. Davis Trial Declaration Concerning Case in Chief at 2:10-14; Arnold Trial Declaration Concerning Case in Chief at 1:26 - 5:3; Arnold Deposition, February 8, 2008, at 83:6-24. According to Arnold, he and Davis in forming FedChex "were going to do [electronic check recovery] in a much more sophisticated way." Arnold Deposition, February 8, 2008, at 83:6-7. Specifically, Arnold stated:
We were going to image all of our checks. We were going to professionally data enter all of our items. We were going to build direct relationships with financial institutions, as well as third-party processors, for the submission of electronic items. We were going to run very sophisticated reporting and back office and website access for these clients. We were going to provide a seamless integration with a traditional check collections through FedChex Recovery from the perception of the client. We were going to do - it is the difference between a tricycle and a pretty serious car. We were going to do a lot.
Id. at 83:12-24. Arnold told Bishop and Murphy that FedChex was "going to do it [i.e., electronic check recovery] completely differently than how EPT functioned." Id. at 84:11-13. For example, as Arnold testified at trial, he and Davis wanted to have a direct relationship with the banks so that they would no longer need to pay the extra expense of using third party check processors such as EFT or NBDS, which EPT and EFS had to use. Arnold Trial Testimony, May 6, 2010, at 9:36 a.m. Arnold testified that EPT's technology was inadequate for the business that he and Davis wanted FedChex to be in electronic check recovery. For example, EPT ran the Access database software program, which was bundled with Microsoft Office software suite, that would have been, in his opinion, inadequate to run a company of any scale or reliability. Arnold Trial Testimony, May 6, 2010, at 3:56-3:57 p.m. EPT also used a phone switching system that, according to Arnold, was suited for a four-to-six person business rather than a larger business. Arnold Trial Testimony, May 6, 2010, at 3:57-3:58 p.m. The court finds that the evidence regarding the differences between FedChex and EPT, and Arnold's testimony in particular, was credible. The evidence indicates that FedChex and FedChex Recovery were separate entities from EPT. Although, as discussed above, the EPT receiver team uncovered some intermingling of computer records, personnel, etc. between EPT and the FedChex Entities, the businesses were different. The record reflects that, although EPT and the FedChex Entities were located in the same office, EPT paid its own rent and utilities. Bishop Trial Testimony, February 19, 2010, at 9:36-9:37 a.m; Davis Trial Testimony, February 18, 2010, at 9:45-9:48 a.m. The companies had separate computer systems, including separate domain servers, and there were firewalls to limit access. Arnold Trial Testimony, May 6, 2010, at 10:15 a.m. EPT maintained 4 or 5 computers, while FedChex had 18-24 desktops and servers. Id. at 10:26-10:27 a.m. EPT also maintained separate books and records from those of FedChex, had separate bookkeepers, and paid separate taxes. Bishop Trial Testimony, February 19, 2010, at 9:36-9:37 a.m EPT had separate employees from those of FedChex. Bishop Trial Testimony, February 19, 2010, at 9:36-9:37 a.m; Arnold Trial Testimony, May 6, 2010, at 9:22-9:23, 10:17. This included computer programmers and graphic designers who worked only for FedChex, and computer programmers who worked only for EPT. Arnold Trial Testimony, May 6, 2010, at 10:25-26 a.m. FedChex did provide some technical support for EPT, such as backing up computers at night, but no programming services, /c/.at 10:27 a.m. In the event that any employees did provide work for another company, their time was tracked and the employee was paid by the other company. Davis Trial Testimony, May 7, 2010, 11:04-11:06 a.m.
Although Bishop and Murphy were involved in both EPT and FedChex, Davis and Arnold were not involved in EPT. Bishop Trial Testimony, February 19, 2010, at 9:31-35; Murphy Trial Testimony, February 5, 2010, at 10:11 a.m., 3:16 p.m.; Davis Trial Declaration Concerning Case in Chief at 2:1-2; Arnold Trial Declaration Concerning Case in Chief at 1:26-27; Joint Pre-Trial Order, entered January 14, 2010, at Undisputed Facts 1.14, 1.20; Joint Pre-Trial Order, entered May 13, 2010, at Undisputed Facts 1.14, 1.20. As discussed above, the evidence indicates that a key difference between the businesses was the presence of Davis and his injection of new capital and new technology and business models to improve the returned check business model. Arnold Trial Declaration Concerning Case in Chief at 2:1- 3:15; Davis Trial Declaration Concerning Case in Chief at 2:1-3:16; Arnold Deposition, February 8, 2008, at 20:11-40:2. Bishop testified that FedChex had the ability to increase the NSF check collection rate significantly over what EPT could offer its clients. Bishop Trial Testimony, February 19, 2010, at 9:33-9:34 a.m.
FedChex was much more technologically advanced and had multiple services it offered to customers that EPT did not have. Davis Trial Testimony, February 4, 2010, at 11:20-11:23 a.m.; Murphy Trial Testimony, February 5, 2010, at 3:13-3:15 p.m.; Bishop Trial Testimony, February 19, 2010, at 9:34 a.m. This included proprietary software developed by FedChex that allowed it to offer many of the services. Daw's Trial Testimony, February 4, 2010, at 11:20-11:23 a.m. That is why, at some point, EPT ended up paying FedChex for processing its checks because EPT could not support itself in the market. Bishop Trial Testimony, February 19, 2010, at 9:33-9:34 a.m. Davis testified that FedChex was able to provide EPT's customers with scanned copies of checks so that the customers could see the checks, and customers could "go in and take a check out of the collection process if a customer came in to pay for that check." Davis Trial Testimony, February 18, 2010, at 2:57-2:59 p.m. FedChex also gave EPT's customers the ability to track and report transactions in a way that EPT could not do. Arnold Trial Testimony, May 6, 2010, at 10:22-23 a.m. These enhanced services included the imaged checks and documents and real-time tracking of the processing. Id. at 10:23 a.m., 11:46 a.m. FedChex developed and began providing its enhanced services within a few months after it began operations. Id. at 10:45 a.m. FedChex essentially "built a better mouse trap" than EPT. Id. at 10:46-10:47 a.m.
For the foregoing reasons, the court finds that Plaintiff has not proven by a preponderance of the evidence that EPT transferred its goodwill or trade secret information to the FedChex Entities for purposes of its fraudulent transfer claims under federal or state law because the circumstantial evidence is insufficient to show any transfer of such goodwill or information, and the evidence indicates FedChex and FedChex Recovery were separate businesses from EPT (and therefore from EFS). Accordingly, the court finds that Plaintiff has not met its burden of establishing by a preponderance of the evidence the first element of a claim under § 548 or CUFTA, that a transfer of the debtor's interest in property ever took place. Accordingly, Plaintiff has not proven a constructive fraudulent transfer as to the creation of FedChex or FedChex Recovery.
4. Related Issue: Successor Liability Under an Alter Ego Theory
Plaintiff's papers seem to argue alter ego liability of FedChex and FedChex Recovery under the federal standard for alter ego successor liability. See JPTO, Disputed Issue of Fact 2.1 ("Were [all defendants] created by Davis and/or Arnold and /or Ty Bishop and Murphy with the intent at the time of their formation, or with the intent formed after their formation in the course of their operation, to work an injustice upon and/or defraud creditors of Defendant Davis and/or Arnold and/or Ty Bishop and Murphy by creating the illusion of entities separate and distinct from each other, when, in fact, there was a failure to give true and proper respect to the purported separate identity of said entities?"). In RRX Industries, Inc. v. Lab-Con, Inc., the Ninth Circuit stated that the alter ego doctrine of liability arises where "(1) such a unity of interest and ownership exists that the personalities of the corporation and individual are no longer separate, and (2) an inequitable result will follow if the acts are treated as those of the corporation alone." 772 F.2d 543, 545 (9th Cir. 1985), citing, Automotriz Del Golfo De California S.A. de C.V. v. Resnick, 47 Cal. 2d 792, 796 (1957); see also, Wady v. Provident Life & Accident Insurance Co. of America, 216 F.Supp.2d 1060, 1066 (CD. Cal. 2002)(also citing Automotriz Del Golfo De California .S.A. de C.V.).
This is somewhat of a non-issue because the operative complaint, Plaintiff's Fourth Amended Complaint, seeks relief as against all defendants under each claim- essentially seeking joint and several liability. Thus, regarding the claims on which Plaintiff prevails, Plaintiff prevails as to all defendants, and the same is true for those claims on which Plaintiff does not prevail. Therefore, plaintiff does not have to establish successor liability of any one defendant named in the complaint; either they are all liable, or none of them are. However, as discussed above, the evidence indicates that FedChex and FedChex Recovery are separate entities from EPT and the debtor, Bishop, and are thus not alter egos of the latter.
B. Capital Contributions: January 2002 to October 2002
Plaintiff alleges that the dilution of Bishop's membership interests through Davis's additional capital contributions to FedChex and FedChex Recovery between January and October 2002, as well as the $19,000 and $27,000 paid by Bishop to FedChex, were constructive fraudulent transfers.
1. Dilution of Bishop's Membership Interests Resulting from Davis's Additional Capital Contributions Were Transfers of Debtor's Interests in Property
There is no factual dispute that Bishop transferred funds in the amounts of $19,000 and then $27,000 to FedChex in that Bishop used these funds to acquire additional ownership interests in FedChex and FedChex Recovery. However, Defendants argue that there was no transfer when Davis's contributions had the effect of reducing Bishop's ownership in FedChex and FedChex Recovery, contending that a transfer fully authorized by statute cannot be a fraudulent conveyance. See Helvering v. Metro Edison Co., 306 U.S. 522, 529 (1939) ("A transfer fully authorized by statute cannot be a fraudulent conveyance . . . ."). Defendants also rely on BFP v. Resolution Trust Corp., 511 U.S. 531 (1994), to show that a transfer following state law proceedings cannot be a fraudulent transfer as a matter of law. However, BFP involved the specific situation of a transfer of property at a foreclosure sale, not the membership interests in a privately held LLC. Furthermore, the holding in BFP is not, as Defendants argue, that "finding a foreclosure sale that followed state law proceedings cannot be a fraudulent transfer as a matter of law." See Defendants' Proposed Findings of Fact and Conclusions of Law at 110:12-14. The Supreme Court in BFP held that "a 'reasonably equivalent value, ' for foreclosed property, is the price in fact received at the foreclosure sale, so long as all the requirements of the State's foreclosure law have been complied with." 511 U.S. at 545.
The definition of "transfer" under 11 U.S.C. § 101(54) is so broad that it has been characterized to "literally encompass[] 'every' mode of parting with an interest in property." Matter of Besing, 981 F.2d 1488, 1494 (5th Cir. 1993). Here, the transfers of a percentage of Bishop's member interest in FedChex diminished the assets of Bishop's bankruptcy estate from the standpoint of his creditors because these transfers deprived creditors from receiving distributions pursuant to his membership interests in the LLCs. See, e.g., Halverson v Funaro (In re Funaro), 263 B.R. 892, 898 (8th Cir. BAP 2001) ("As a result, actions taken by the owner [of an S Corporation] for his own benefit, at the expense of the corporation and its creditors, are subject to review in the corporation's bankruptcy."). Bishop's bankruptcy estate would receive a reduced share of profits from FedChex and FedChex Recovery for the reduced membership interests that Bishop had after Davis acquired increased membership interests through his additional capital contributions.
Therefore the court determines that the Plaintiff has met its burden in showing by a preponderance of the evidence that the dilution of Bishop's membership interests in FedChex and FedChex Recovery due to Davis's additional capital contributions listed below were "transfers" for the purposes of Section 548 and the CUFTA:
- January 9, 2002:
$73,885.14 to FedChex by Davis
- January 9, 2002:
$20,515.37 to FedChex Recovery by Davis
- April 3, 2002:
$91,682.07 to FedChex by Davis
- April 3, 2002:
$10,127.74 to FedChex Recovery by Davis
- July 10, 2002:
$156,448.95 to FedChex by Davis
- July 10, 2002:
$15,708.00 to FedChex Recovery by Davis
- July 10, 2002:
$19,000 to FedChex by Bishop
- July 10, 2002:
$19,000 credit to FedChex Recovery by Bishop-interest percentage not affected
- September 4, 2002:
$10,000 to FedChex by Bishop
- September 19, 2002:
$17,000 to FedChex by Bishop
- October 9, 2002:
$150,271.33 to FedChex by Davis
- October 9, 2002:
$15,708.28 to FedChex Recovery by Davis.
2. The Alleged Transfers Occurred within One Year of the Petition Date
The filing date of Bishop's bankruptcy petition was November 19, 2002. The dilution of Bishop's membership interests based on Davis's additional capital contributions occurred between January 2002 and October 2002, which is within one year of the petition date. See 11 U.S.C. § 548(a)(1) (2002). Therefore, the alleged transfers occurred within the statutory period for Section 548 to apply, as well as under CUFTA, which provides that the trustee must bring an action at least within four years of the alleged transfer. California Civil Code, § 3439.09(a) and (b).
3. Plaintiff Has Not Demonstrated a Lack of Reasonably Equivalent Value Given for the Transfers
Both 11 U.S.C. § 548(a)(1)(B) and California Civil Code § 3439.05 define a constructive fraudulent transfer as one for which the debtor did not receive reasonably equivalent value. "Reasonably equivalent value" is not defined by the Bankruptcy Code. BFP v. Resolution Trust Corp., 511 U.S. at 535-536. "Value" means "property, or satisfaction or securing of a present or antecedent debt of the debtor." Id., quoting and citing 11 U.S.C. § 548(d)(2)(A). When a transfer constitutes repayment of a debtor's antecedent or present debt, the transfer is not constructively fraudulent because it is made for reasonably equivalent value. See In re Fitness Holdings International, Inc., 714 F.3d at 1145-1146 (citation omitted). Finding reasonably equivalent value does not require exact equality in value. BFP v. Resolution Trust Corp., 511 U.S. at 540 n. 4 ("Our discussion assumes that the phrase 'reasonably equivalent' means 'approximately equivalent, ' or 'roughly equivalent.'"). Thus, to determine this element, the court must first determine the value of the property interest transferred by the debtor and the value of the property received in exchange for the transfer, and then the court must determine whether the latter value is reasonably equivalent to the former. See Corzin v. Fordu (In re Fordu), 201 F.3d 693, 707-708 (6th Cir. 1999). The court must consider all the circumstances surrounding the transfer. In re Brobeck, Phleger & Harrison LLP, 408 B.R. 318, 341 (Bankr. N.D. Cal. 2009). The "totality of the circumstances" test used in determining if reasonably equivalent value was received for a transfer is generally fact-intensive and may include consideration of fair market value, the arms'-length nature of the transaction, economic circumstances and relationship of the parties, the maturity, competitiveness, and efficiency of the market, industry standards, and other factors. In re 3dfx Interactive, Inc., 389 B.R. 842, 863 (Bankr. N.D. Cal. 2008). Plaintiff bears the burden of proof on this issue, and asset appraisals and expert testimony are often required to enable the court to make a proper determination of value. In re Roosevelt, 176 B.R. 200, 205-208 (9th Cir. BAP 1994).
On its face, Plaintiff's case-in-chief does not provide any evidence of the value of the FedChex Entities at the time of the disputed capital contributions during 2002. This valuation evidence is essential to Plaintiff's fraudulent transfer claims based on these transfers because if the court is to find that dilution of Bishop's interests in the FedChex Entities resulted in fraudulent transfers, the court would need to determine how much value was transferred and the value of what was received in exchange-in this case, increasing and decreasing ownership interests in two LLCs. It is key, therefore, to know how much, for example, a 25% membership interest in FedChex was worth in January 2002. However, Plaintiff has not offered any evidence of this.
Instead of offering valuation evidence, such as appraisals and expert testimony, Plaintiff argues that the capital contributions purportedly made by Davis did not actually happen or were invalid based upon the inability of the FedChex members to remember at trial specific facts about the capital contributions and based on alleged inconsistencies in their testimony. See Plaintiff's Proposed Findings of Fact and Conclusions of Law, at 95:26-98:3 and 101:2-106:6. If Plaintiff's contentions are correct, this would mean that Bishop's membership interests were indirectly transferred to Davis through inflation of Davis's membership interests, thereby diluting Bishop's interests, through fictitious and unsubstantiated capital contributions by Davis. Thus, under Plaintiff's theory, the transfers of Bishop's membership interests through dilution were made without reasonably equivalent value exchanged for the dilution.
Plaintiff claims that the only record that analyzes the purported capital contributions of Davis to FedChex is found in Plaintiff's Trial Exhibit 227, at bates stamped page 42. Exhibit 227 consists of several documents retrieved by the receiver team in the state court action. Exhibit 227 at bates stamped page 42 lists a series of purported loans made by Yellow Pages Directory Services ("YPDS"), one of the Davis Entities, to FedChex for payroll allocation and capital improvements, and by Niche, another Davis Entity, which loaned rent payments to FedChex to an unidentified payee. Davis Trial Testimony, February 4, 2010, at 11:59 a.m-12:01 p.m. The number of employees, hourly rates, hours spent, or the nature of the work for payroll allocations were not identified in Exhibit 227. Id. at 11:38 a.m.
In response to Plaintiff's contentions, Defendants offered their Exhibit 602, which was a collection of copies of FedChex bills and checks made out to FedChex during the months of December 2001 through July 2002. See Defendants' Trial Exhibit 602, Copies of FedChex Bills Due and Checks Made Out to FedChex from December 2001 through July 2002. These documents in Exhibit 602 also included charts that show the hourly rates, number of employees, employee names, and number of hours worked related to the payroll allocations, giving credibility to the payments made by the Davis Entities for the purpose of payroll and capital improvements. Id. In examining Defendants' Exhibit 602 and Plaintiff's Exhibit 227 together, the court finds that these documents substantiate Davis's additional capital contributions to FedChex and FedChex Recovery at the time that they were made, and provides the necessary supporting details as to what constituted these capital contributions. Thus, the court determines that Davis did make the subject additional capital contributions, warranting increases in his membership interest percentages in the LLCs and the reductions in Bishop's membership interests.
For example, Davis contended that $73,885.14 in additional capital contributions made on January 9, 2002 to FedChex from YPDS were used to pay workers on Yellow Pages payroll who performed work for FedChex for the calendar quarter of September through December 2001. Davis Trial Testimony, February 4, 2010, at 11:09-11:12 a.m., 11:06-11:07 a.m., and 11:17-11:18 a.m.; see also Plaintiffs' Trial Exhibit 227, Report of Court Appointed Examiner Mark Alcock at 42. This testimony is consistent with the data appearing on both Defendant's Trial Exhibit 602 and Plaintiff's Trial Exhibit 227 at 42, and the court finds that this evidence supporting Davis's additional capital contribution credible.
Davis also contended that $70,986.68 of the $91,682.07 capital contribution he made on April 3, 2002 is attributable to one of his entities, YPDS, which paid employees on the payroll of Yellow Pages for work performed for FedChex for the calendar quarter between January and March 2002, and that another of his entities, Niche, loaned $13,795.39 to FedChex to pay for rent during this period at the OC Office. Plaintiffs' Trial Exhibit 227, Report of Court Appointed Examiner Mark Alcock at 42; Davis Trial Testimony, February 4, 2010, at 2:01-2:04 p.m. The court finds that this evidence supporting Davis's additional capital contribution is credible.
Davis also contended that $82,307.53 of his $156,448.95 July 10, 2002 capital contribution consisted of the payroll allocation for the months of April through June. Plaintiffs' Trial Exhibit 227, Report of Court Appointed Examiner Mark Alcock at 42; Davis Trial Testimony, February 4, 2010, at 11:31-11:32 a.m. and 2:01-2:04 p.m. Plaintiff's Trial Exhibit 227 at 42 and Defendant's Trial Exhibit 602 show that between April and June 2002, one of Davis's entities, Niche, loaned $27,986.17 to FedChex for rent and $46,155.25 to FedChex to pay for capital improvements. Id. The court finds that this evidence supporting Davis's additional capital contribution is credible.
Davis contended that out of his $150,271.33 October 9, 2002 capital contribution, a portion consisted of the payroll allocation for the month of July totaling $28,051.31. Niche paid FedChex's rent in the total amount of $10,200.00 for the months of July and August. Plaintiffs' Trial Exhibit 227, Report of Court Appointed Examiner Mark Alcock at 42; Davis Trial Testimony, February 4, 2010, at 2:44-2:46 p.m. The court finds this evidence supporting Davis's additional capital contribution is credible.
The court finds that Plaintiff has not shown by a preponderance of the evidence that the alleged transfers based on the diminution of Bishop's membership interests in the LLCs were made for less than reasonably equivalent value because the evidence admitted at trial shows that FedChex needed additional funding to continue its business, which was provided by Davis and no other member, including Bishop and Murphy, through payment of wages for employees of YPDS that were being used to assist FedChex in its work during 2002 and payment of rent and the making of loans for FedChex by Niche, one of Davis's entities. Plaintiffs' Trial Exhibit 227, Report of Court Appointed Examiner MarkAlcock at 42; Defendants' Trial Exhibit 602, Copies of FedChex Bills Due and Checks Made Out to FedChex from December 2001 through July 2002
Moreover, Davis also made capital contributions through personal loans to FedChex by personal checks. Id. This cash assistance to FedChex was first categorized as loans. Id. Plaintiff argues that no consideration was given to have the several loans become capital contributions. Because FedChex could not pay back these loans however, Davis, Murphy, Bishop, and Arnold agreed to have these loans become capital contributions credited to Davis. See Plaintiff's Trial Exhibits 138-145. The loss of Bishop's percentage in membership interest occurred because FedChex required monetary assistance which Davis, YPDS, Niche, and Bishop provided.
In arguing that there was no consideration for loans being turned into capital contributions, Plaintiff points to Paragraph 1.7 of the operating agreements for FedChex and FedChex Recovery, which only allow cash to be used for capital contributions. See Plaintiff's Trial Exhibit 102, Operating Agreement for FedChex, LLC at fl 1.7; Plaintiff's Trial Exhibit 103, Operating Agreement for FedChex Recovery, LLC at U 1.7. However, Paragraph 1.7 of both of the operating agreements states: "'Capital Contribution' shall mean the total value of cash and fair market value of property contributed by Members (or other assets agreed upon by member's majority vote)." Id . (emphasis added). The evidence, taken as a whole, indicates that Bishop, Murphy, Davis and Arnold agreed during their four capital contribution meetings to treat the loans previously made by Davis, YPDS, and Niche as additional capital contributions by Davis and to allow him to receive credit for those capital contributions in the form of increased ownership in the FedChex Entities. Thus, the court concludes that these transactions comport with the procedures set forth in the operating agreements for both FedChex and FedChex Recovery.
Because the court finds that Plaintiff has not met its burden in showing by a preponderance of the evidence that the alleged transfers were made for less than reasonably equivalent value, the court further concludes that Plaintiff cannot prevail on its Second and Sixth Claims for relief in the complaint as to these transfers.
C. Bishop's $50,000 Payment for ISO Agreement
Bishop purchased the ISO agreement from FedChex on November 19, 2002 in exchange for $50,000 via a wire transfer, the day the Bishops filed for bankruptcy protection. Bishop Trial Testimony, February 19, 2010, at 1:08-1:09 p.m., 2:05 p.m.; Plaintiff's Trial Exhibit 170, Memo dated November 18, 2002 to Ty Bishop with purported dealer agreement. Defendants contend that the ISO Agreement was executed by Bishop on November 18, 2002. See Defendant's Proposed Findings of Fact and Conclusions of Law If 35, at 26:6-7. Regardless of whether or not the transfer occurred on November 18 or 19, 2002, Plaintiff concedes that there was no evidence provided at trial indicating that the $50,000 transfer occurred post-petition and so the court will characterize Bishop's ISO agreement as a pre-petition transfer. See Plaintiffs Proposed Findings of Fact and Conclusions of Law ^ 1051, at 226; JPTO Undisputed Fact 1.33.
1. Debtor Transferred an Interest in Property
Bishop's purchase of a FedChex ISO license or agreement for $50,000 through a wire transfer of funds from his bank account constitutes a transfer for purposes of Section 548 and CUFTA. This transfer diminished the value of Bishop's bankruptcy estate by $50,000 because Bishop transferred his money to pay for the ISO agreement. Bishop Deposition, October 20, 2008, at 22:26-23:5. The court finds that this transaction was a transfer of Bishop's property.
2. The Transfer Occurred Within the Relevant Statutory Period
Bishop's bankruptcy petition was filed on November 19, 2002 at 3:27 p.m. Court's Taking Judicial Notice of the Bankruptcy Petition File Stamp, May 7, 2010 at 10:16 a.m. Bishop's ISO agreement purchase occurred on either the day before or the day of the filing of Bishop's bankruptcy petition, which falls within the statutory period of one year of the debtor's petition date under 11 U.S.C. § 548(a)(1) (2002). The transfer also falls within the applicable statutory period for purposes of CUFTA. See California Civil Code, § 3439.09(a), (b). The court finds that Bishop's transfer occurred during the relevant statutory periods both under Section 548 and CUFTA.
3. Plaintiff Established that the Transfer was Made for Less than Reasonably Equivalent Value
In order for the court to properly determine this element, the court must first determine the value of the property interest transferred by the debtor and the value of the property received in exchange for the transfer. Then, the court must determine whether the value of the property received was reasonably equivalent to the value of the property transferred. See 11 U.S.C. § 548(a)(1)(A) and (B)(i); California Civil Code, §§ 3439.04(a) and 3439.05;see also, e.g., In re Fordu, 201 F.3d at 708.
a. Value of Property Interest Transferred
In this case, the value of the debtor's property that Bishop transferred to buy the ISO Agreement was $50,000. Next the court considers the value of the property Bishop received in exchange for this transfer.
b. Value of the Property Received in Exchange for Transfer
Plaintiff argues that the ISO Agreement had no value because Bishop never acquired any customers for FedChex using the ISO. Plaintiff's Proposed Findings of Fact and Conclusions of Law U 1065, at 228. Page 8 of Plaintiff's Trial Exhibit 170 describes the different "relationship options" FedChex provided to prospective ISOs. Bishop checked the box for "ISO" instead of other options such as "Agent" or "Agent Office." See Plaintiff's Trial Exhibit 170, Memo Dated Nov. 18, 2002 to Ty Bishop with purported dealer agreement, at 8. Indeed, it was possible for Bishop to become an ISO of FedChex without paying any money for it. These relationships were called "Agents" under the "Relationship Options, " and entitled the agent to a $500 bonus once 500 checks were collected, $1,000 for 1, 000 collected checks, $2,500 for 2, 500 collected checks, and $5,000 for 5, 000 collected checks. Plaintiff's Trial Exhibit 170, Memo Dated November 18, 2002 to Ty Bishop with purported dealer agreement at 8.
In contrast, Bishop's ISO Agreement entitled Bishop to the following: (1) a widow's clause of 1 year continuation of residuals if Bishop died, (2) 16% per NSF fee as residual income, (3) 50% of bank rebate for the life of the account, and (4) 10% of FedChex Recovery revenue for Bishop's clients. Id. at 9. Bishop claims that 5-10 entities had purchased ISO agreements. Bishop Deposition, October 28, 2008, at 24-25. For example, Greg Blanchard, through his entity Hey Babe Inc., also paid $50,000 for an ISO agreement with FedChex and was given a return rate of approximately $4.00 per collected fee under this type of agreement. Davis Trial Testimony, February 4, 2010, at 9:34-9:36 a.m. Hey Babe, Inc. would only be able to earn more than that by eliminating or reducing rebate arrangements with prospective clientele. Id.
At trial, Bishop explained that he chose to pay the higher amount in exchange for an ISO Agreement because it gave him the ability to generate a higher commission. Ty Bishop Trial Testimony, February 19, 2010, at 2:04-2:05 p.m. He believed the potential revenue would be ongoing and would continue to grow over time, and he hoped to recoup his investment within one year of purchase. Bishop Trial Testimony, February 19, 2010, at 2:04-2:05 p.m. He explained that, at the time, he had no other source of income and wanted to create a revenue source in order to support his family. Id. Even though Bishop admitted at trial that he could have used that $50,000 to pay his family's living expenses, he looked at the opportunity as a way to say in a business in which he was familiar, and considered it a long-term solution rather than a short-term fix. Bishop Trial Testimony, February 19, 2010, at 2:06 p.m.
Despite his intentions, Bishop never made any money from the ISO Agreement. Bishop Deposition, March 5, 2008, at 70:21-71:3. Bishop admits that he stopped making efforts to sell FedChex services, /c/.at 71:4-15. Bishop even admitted that he stopped trying to acquire clients for FedChex because the sale cycle was very long for these types of agreements, and he "didn't have cash to support [his] family with a long sale cycle." Id. at 71:12-15. Bishop's actual realized economic benefits from the ISO Agreement thus far has been nothing, and the evidence shows Bishop knew that profit, if any, would not be immediate. Indeed, Bishop characterized the ISO as a long term solution. Bishop Trial Testimony, February 19, 2010, at 2:06 p.m. Therefore the court finds that Bishop's entitlements under the ISO Agreement had a value of $0 as of the petition date because Bishop had no clients, had not been trying to obtain clients, and never made any money from the ISO. There was no reasonably equivalent value given in return of Bishop's $50,000 wire transfer of funds that could have been used to pay his family's living expenses.
3. Plaintiff Did Not Establish that Bishop Was Insolvent at the Time He Purchased the ISO Agreement From FedChex or Became Insolvent by the Purchase
Finally, in order to succeed on a claim for constructive fraudulent transfer, the Plaintiff must demonstrate that the debtor:
(B) (ii) (l) was insolvent on the date that such transfer was made or such obligation was incurred, or became insolvent as a result of such transfer or obligation;
(II) was engaged in business or a transaction, or was about to engage in business or a transaction, for which any property remaining with the debtor was an unreasonably small capital;
(III) intended to incur, or believed that the debtor would incur, debts that would be beyond the debtor's ability to pay as such debts matured; or
(IV) made such transfer to or for the benefit of an insider, or incurred such obligation to or for the benefit of an insider, under an employment contract and not in the ordinary course of business.
11 U.S.C. § 548(a)(1)(B). As discussed above, Section 548 of the Bankruptcy Code and CUFTA are generally the same with respect to analyzing fraudulent transfer. Under CUFTA, a transfer is fraudulent as to a creditor if the debtor made the transfer or incurred the obligation without receiving reasonably equivalent value, and the debtor either:
(A) Was engaged or was about to engage in a business or a transaction for which the remaining assets of the debtor were unreasonably small in relation to the business or transaction, or
(B) Intended to incur, or believed or reasonably should have believed that he or she would incur, debts beyond his or her ability to pay as they became due.
California Civil Code, § 3439.04(a)(2)(A) and (B).
Although similar, the analyses under Section 548 and CUFTA are not identical when it comes to the determination of whether the debtor was insolvent at the time of the alleged transfers. For proposes of Section 548, a debtor is "insolvent" when the debtor's debts exceed its assets, excluding assets that have been fraudulently transferred or concealed. 11 U.S.C. § 101(32), cited and quoted in Sierra Steel, Inc. v. Totten Tubes, Inc. (In re Sierra Steel, Inc.), 96 B.R. 275, 277 (9th Cir. BAP 1989). This is known as the "balance sheet" test. An insolvency determination may only be made after establishing the fair value of the debtor's assets. 11 U.S.C. § 101(32).
Similarly, under CUFTA, insolvency is determined in accordance with the "balance sheet" analysis. California Civil Code, § 3439.02(a). However, CUFTA also provides a rebuttable presumption that the debtor was insolvent if the debtor was not able to pay his debts in the ordinary course of business as they came due (which is considered the "equity" or "cash flow" test). Bay Plastics, Inc. v. BT Commercial Corp. (In re Bay Plastics, Inc.), 187 B.R. 315, 328 n. 22 (Bankr. CD. Cal. 1995). No such rebuttable presumption exists under Section 548; thus, the Plaintiff must prove the debtor's insolvency under Section 548.
In determining whether a debtor's liabilities exceed assets under the balance sheet test, the court must evaluate the debtor's assets and liabilities based upon a practical assessment of their actual value-a "fair valuation"-rather than in accordance with generally accepted accounting principles. In re Bay Plastics, Inc., 187 B.R. at 330. Furthermore, "Insolvency must exist at the time of the transfer or must result therefrom, to render the transfer fraudulent as to creditors." In re Liquimatic Systems, Inc., 194 F.Supp. 625, 628 (S.D. Cal. 1961), quoting, Miller v. Keegan, 92 Cal.App. 2d 846 (1949).
a. Balance Sheet Approach
On this evidentiary record, the court cannot find that, based on the "balance sheet" test, Bishop was insolvent at the time he purchased the ISO Agreement from FedChex.Bishop purchased the ISO Agreement from FedChex on November 19, 2002 with a wire transfer of his funds in the amount of $50,000, the same day that the Bishops filed for bankruptcy protection. Bishop Trial Testimony, February 19, 2010, at 1:08-1:09 p.m., 2:05 p.m.; Plaintiff's Trial Exhibit 170, Memo dated November 18, 2002 to Ty Bishop with purported dealer agreement. First, Plaintiff offered into evidence two Resolutions to Continue Doing Business, one for FedChex and one for FedChex Recovery, both dated November 19, 2002. See Plaintiff's Trial Exhibit 146, Document entitled "Resolution to Continue Doing Business" referencing FedChex, LLC and referencing a date of November 19, 2002; Plaintiff's Trial Exhibit 147, Document entitled "Resolution to Continue Doing Business" referencing FedChex Recovery, LLC and referencing a date of November 19, 2002. The resolutions both stated, "Having all members present, the meeting began. Ty Bishop announces he is insolvent and will be filing for bankruptcy." Plaintiff's Trial Exhibit 146, Document entitled "Resolution to Continue Doing Business" referencing FedChex, LLC and referencing a date of November 19, 2002; Plaintiff's Trial Exhibit 147, Document entitled "Resolution to Continue Doing Business" referencing FedChex Recovery, LLC and referencing a date of November 19, 2002. Although this statement of Bishop noted in the resolutions is an admission by him of insolvency, the statement is hearsay and not rendered admissible as a hearsay exception or exclusion because Bishop is not a party to this adversary proceeding. Fed.R.Evid. 801(d)(2). Thus, the court concludes that Plaintiff must show Bishop's insolvency by a preponderance of the admissible evidence. As stated previously, solvency is a legal question that the court must determine by engaging in a fair valuation of the debtor's assets and liabilities, regardless of what a debtor may subjectively believe about his own financial affairs.
The court notes that, just because Bishop purchased the ISO Agreement on his petition date does not mean Plaintiff is not required to prove insolvency. Under section 548-as opposed to CUFTA as well as section 547 for preferential transfers-there arises no presumption of insolvency. Plaintiff, thus, cannot rely on the petition date as evidence of insolvency. The court must compare the debtor's assets with his liabilities. 11 U.S.C. § 101(32).
In support of its allegations that Bishop was insolvent at the time of the transfer, Plaintiff offers as evidence the bankruptcy schedules of Bishop and his wife in this case, in which the debtors list a total $1,067,061.00 assets and $550,586.64 liabilities. See Plaintiffs Trial Exhibit 195, Voluntary Petition of Brennon Ty Bishop with Summary of Schedules at 7. However, these bankruptcy schedules also listed the Bishops' potential liability from Plaintiff's state court action as "unknown" liability amount, but disclosed that EFS-the plaintiff in the state court action-requests total damages of $24,000,000.00. Id. at 20. Since claims may be disputed or contingent, disputed or contingent liabilities must be included in determining total indebtedness for purposes of determining insolvency. In re Sierra Steel, Inc., 96 B.R. at 279. A contingent liability must be reduced, however, to its present or expected amount before a determination on insolvency can be made. Id. To determine a contingent liability, one must discount it by the probability that the contingency will occur and the liability will become real. Id. As the Seventh Circuit explained it this way, "Discounting a contingent liability by the probability of occurrence is good economics and therefore good law, for solvency, the key to § 548(a)(2), is an economic term." Covey v. Commercial National Bank of Peoria, 960 F.2d 657, 660 (7th Cir. 1992). Thus, the appropriate discount factor the court should apply is based on the reasonable foreseeability-as of the date of transfer-that the contingency will come true. In re W.R. Grace & Co., 281 B.R. 852, 858-859 (Bankr. D. Del. 2002), citing inter alia, Covey v. Commercial National Bank of Peoria, 960 F.2d at 660. For example, if the court finds that entry of a $24 million judgment against Bishop was, at the time of the petition date, approximately twenty percent (20%) likely, the value of the claim would be 20% of $24 million, or $4,800,000. If that amount, in addition to the debtor's other debts, exceeded the debtor's assets, the court could then find the debtor insolvent based on the balance sheet test. See, e.g., Covey v. Commercial National Bank of Peoria, 960 F.2d at 659.
The state court action was filed against Bishop on February 16, 2001. Bishop testified at trial that he did not believe a judgment would be entered against him in excess of $50,000 and perhaps a small amount of punitive damages. Bishop Trial Testimony, February 19, 2010, at 1:42 p.m. Bishop in other testimony stated that, throughout 2002, his assets exceeded his liabilities. Bishop Deposition, October 20, 2008, at 18:21-19:23. Bishop testified that even as of the petition date, his assets were larger than his liabilities. Id. at 19:25 - 20:1. Only when asked to consider the amount of the judgment entered against him in the state court action in 2003, Bishop testified that, at that point, his liabilities exceeded his assets. Id. at 21:1-6. The original May 15, 2003 default judgment was subsequently reversed on appeal, and the state appellate court offered an alternative to EFS and Barry that they take a judgment of $50,000, the original amount of compensatory damages demanded in the complaint, or replead the complaint. Defendant's Trial Exhibit 610, California Court of Appeal Opinion in Electronic Funds Solutions, et al. v. Michael Murphy, et. al., dated December 14, 2005 at 2. EFS and Barry amended the complaint, and obtained another default judgment on March 10, 2008 entered against Murphy, Bishop, and EPT. Plaintiff's Trial Exhibit 194, Judgment against Defendants Bishop, Murphy and EPTin Electronic Funds Solutions, et al. v. Michael Murphy, et. al. dated March 10, 2008.
Based on this record, the court lacks sufficient evidence to value Bishop's contingent liability from the state court action as of the petition date of November 19, 2002. Plaintiff offered no evidence or even argument in support of valuing the state court action as of the petition date - or prior to the petition date. Plaintiff points to Bishop's "admission" that he did not have the means of paying a debt of $1,800,000.00 as of January 1, 2002, if it were immediately due and payable. Plaintiff's Proposed Findings of Fact and Conclusions of Law If 1091, at 233, citing, Bishop Deposition, March 5, 2008, at 53:23-54:10. Plaintiff cites another "admission" that Bishop "did not have $24,000,000 in January of 2002 and also did not have that sum on the date he filed for bankruptcy." Plaintiff's Proposed Findings of Fact and Conclusions of Law ^ 1092, at 233. The court cannot assume a person is insolvent because he or she may not be able to pay a $24,000,000-or $1,800,000-judgment in full at a later time. And these facts have nothing to do with the reasonable foreseeability that the contingent nature of the state court liability would become a reality in the future, and the court notes that the only reason the state court liability became non-contingent was by way of a default judgment, entered four months after the petition was filed, then reversed, then finally re-entered based on default five years later in 2008. Based on this record, the court finds that Plaintiff has not shown Bishop's insolvency at the time of the transfer by a preponderance of the evidence.
b. Equity or Cash Flow Approach: CUFTA Presumption of Insolvency
The court similarly does not find that the presumption of insolvency under CUFTA arises in favor of Plaintiff. Under the "equity" or "cash flow" test, "a debtor is insolvent if the present fair salable value of the debtor's assets is less than the amount required to pay existing debts as they become due." In re Bay Plastics, 187 B.R. at 328 n. 22. A presumption of insolvency arises under CUFTA if a debtor is generally not paying his debts as they become due. California Civil Code, § 3439.02(c). Considering the debtor's schedules, Plaintiff argues that Bishop had a number of outstanding debts owed to various entities as of the petition date, evidencing a general pattern of not paying his debts as they become due. First, debtor's schedules list a debt owed to Bennett & Fairslater-Bishop's state court counsel-in the amount of $167,038.84. Plaintiff's Trial Exhibit 195, Voluntary Petition of Brennon Ty Bishop with Summary of Schedules at 19. Bishop also owed other state court counsel, Walsworth, Franklin, et al. $30,122.00 as of the petition date. Id. at 21. Bishop's Statement of Financial Affairs filed in this bankruptcy case also listed a $50,000 payment made to prior state court counsel, Allen & Yphantides, which Bishop paid on October 29, 2002 based on an invoice he received on October 15, 2002 (and also is the subject of a separate adversary proceeding brought by the bankruptcy Trustee). See Plaintiff's Trial Exhibit 174, Declaration of Brennon Ty Bishop in Support of Chapter 7 Trustee's Reply to Opposition to Motion for Summary Judgment or in the Alternative Summary Adjudication of Issues in the Adversary Proceeding of Marshack v. Allen & Yphantides in the Bishop bankruptcy at 2; Plaintiff's Trial Exhibit 195, Voluntary Petition of Brennon Ty Bishop with Summary of Schedules at 28.
However, a finding of "generally not paying one's debts" requires a more general showing of the debtor's financial condition and debt structure than merely establishing the existence of a few unpaid debts. Indeed, the Legislative Committee Comment to California Civil Code, § 3439.02(c) explains that, when making this determination:
[T]he court should look at more than the amount and due dates of the indebtedness. The court should also take into account such factors as the number of the debtor's debts, the proportion of those debts not being paid, the duration of the nonpayment, and the existence of a bona fide dispute or other special circumstances alleged to constitute an explanation for the stoppage of payments. The court's determination may be affected by a consideration of the debtor's payment practices prior to the period of alleged nonpayment and the payment practices of the trade or industry in which the debtor is engaged.
Legislative Comment to California Civil Code, § 3439.02(c). The best evidence of the Bishop's pattern of debt repayment as of the petition date is the debtors' Schedule F and Statement of Financial Affairs ("SOFA"), filed on November 19, 2002, and is in the record as Plaintiff's Trial Exhibit 195, pages 19 through 21 and 28 through 34, respectively. Bishop's SOFA indicates that he and his wife made all required monthly payments to their secured lienholders, various tax entities, school payments, insurance, etc. In Schedule F, the debtors' main unsecured claims are those to various credit card companies and state court attorney's fees. Based on the totality of the debtors' unsecured debt and debt repayment, therefore, the court finds that Plaintiff has not shown by a preponderance of the evidence that Bishop was generally not paying his debts as they became due.
Accordingly, the court finds that Plaintiff has not met its burden in proving by a preponderance of the evidence that Bishop was insolvent as of the petition date or that he was rendered insolvent by the transfer pursuant to either 11 U.S.C. § 548(a)(1)(B)(ii)(l) or California Civil Code, § 3439.02.
5. Debtor was Not Engaged in a Business or Transaction (or was About to Engage in a Business or Transaction) for Which any Property Remaining with the Debtor was Unreasonably Small Capital
11 U.S.C. § 548(a)(1)(B)(ii)(ll) tracks the language of California Civil Code § 3439.04(a)(2)(A), which provides that a transfer may be avoided if the debtor is left with assets that are "unreasonably small in relation to the business or transaction." California Civil Code § 3439.04(a)(2)(A). "The subparagraph focuses attention on whether the amount of all the assets retained by a debtor was inadequate, i.e., unreasonably small in light of the needs of the business or transaction in which the debtor was engaged or about to engage." California Civil Code, § 3439.04, Legislative Committee Comment Note 4; Intervest Mortgage Investment Co. v. Skidmore, 655 F.Supp.2d 1100, 1105-1106 (E.D. Cal. 2009) (defining assets as "unreasonably small" if they are "not reasonably likely to meet the debtors' present or future needs."). Unreasonably small assets signify an inability to generate enough cash flow from operations and the sale of assets to remain financially stable. Duke Salisbury v. Texas Commerce Bank-Houston, N.A. (In re WCC Holding Corp.), 171 B.R. 972, 985-986 (Bankr. N.D. Tex 1994).
Plaintiff does not make an argument under this alternative element regarding Bishops purchase of the ISO Agreement. The only proposed findings regarding this element focus on Plaintiff's argument that the creation of FedChex and FedChex Recovery were fraudulent transfers of EPT, and Plaintiff's argument that the various 2002 capital contributions left Bishop with unreasonably small capital relative to his original 25% interest. See Plaintiff's Proposed Findings of Fact and Conclusions of Law H 1100- 1104, at 234-235. Additionally, the court notes that, despite the fact that Bishop spent $50,000 in exchange for the ISO Agreement, his bankruptcy schedules list $410,000 in real property assets, $17,500 in vehicles, plus approximately $116,060.00 in various personal property and retirement accounts. See Plaintiff's Exhibit 195, Voluntary Petition of Brennon Ty Bishop with Summary or Schedules) at 7-14. Thus, the $50,000 transfer did not leave the debtor with unreasonably small assets in comparison to the transfer.
6. Plaintiff Did Not Establish that the Debtor Intended to Incur, or Believed He Would Incur, Debts that Would Be Beyond His Ability to Repay
11 U.S.C. § 548(a)(1)(B)(ii)(iii) similarly tracks the language of California Civil Code § 3439.04(a)(2)(B), which provides that a transfer may be avoided if the debtor "intended to incur, or believed or reasonably should have believed that he or she would incur, debts beyond his or her ability to pay as they became due." Cal. Civ. Code § 3439.04(a)(2)(A).
Similarly, Plaintiff does not make an argument under this alternative element regarding Bishop's purchase of the ISO Agreement. The only proposed findings regarding this element focus on Plaintiff's argument that the creation of FedChex and FedChex Recovery were fraudulent transfers of EPT, and Plaintiff's argument that the various 2002 capital contributions left Bishop with unreasonably small capital relative to his original 25% interest. Plaintiff focuses on the liability imposed on Bishop by the impending state court action. See Plaintiff's Proposed Findings of Fact and Conclusions of Law H 1105-1106, at 235-236 ("1105. Bishop was aware at the time of each of the transactions [discussing the creation of FedChex and FedChex Recovery, as well as the 2002 capital contributions], that he was going to incur a debt beyond his ability to pay, when due, by reason of the filing against him of the State Court Judgment. 1106. Bishop should reasonably have believed at the time of each of the transactions [discussing the creation of FedChex and FedChex Recovery, as well as the 2002 capital contributions], that he was going to incur a debt beyond his ability to pay, when due, by reason of the filing against him of the State Court Judgment.").
The court notes that Plaintiff does not argue this element in regard to the $50,000 ISO Agreement purchase, and further finds that it does not apply because of the existence of his other assets listed in his bankruptcy schedules. See Plaintiff's Exhibit 195, Voluntary Petition ofBrennon Ty Bishop with Summary or Schedules) at 7-14.
7. Plaintiff Did Not Establish that the Debtor Purchased the ISO Agreement for the Benefit of an Insider Under an Employment Contract and Not in the Ordinary Course of Business
This alternative element does not apply to the facts of this action, nor does Plaintiff appear to allege any facts whatsoever in support of them. See Plaintiff's Proposed Findings of Fact and Conclusions of Law ¶¶ 1084-1106, at 232-236.
8. Conclusion
For the foregoing reasons, the court finds that Plaintiff has not proven by a preponderance of the evidence that the creation of FedChex and FedChex Recovery, the various 2002 capital contributions, or Bishop's purchase of the FedChex ISO Agreement were constructive fraudulent transfers under either the Bankruptcy Code or California law.
II. FIRST AND SEVENTH CLAIMS FOR RELIEF: AVOIDANCE OF INTENTIONAL FRAUDULENT TRANSFERS UNDER 11 U.S.C. § 548 AND CUFTA
Plaintiff alleges that the various transfers discussed above are also avoidable as intentional fraudulent transfers pursuant to Section 548 of the Bankruptcy Code. 11 U.S.C. § 548(a)(1)(A) of the Bankruptcy Code states:
The trustee may avoid any transfer... of an interest of the debtor in property, or an obligation . . . incurred by the debtor, that was made or incurred on or within 2 years before the date of the filing of the petition, if the debtor voluntarily or involuntarily-
As discussed supra regarding constructive fraudulent transfers, the reach-back period applicable to the instant case is one year as opposed to two, because the case was filed before April 21, 2006. See 11 U.S.C. § 548 (2005).
(A) Made such transfer or incurred such obligation with actual intent to hinder, delay, or defraud any entity to which the debtor was or became, on or after the date that such transfer was made or such obligation was incurred, indebted ....
11 U.S.C. § 548(a)(1)(A). In other words, an intentional fraudulent transfer occurs when a transfer is made or an obligation is incurred with the intent to hinder, delay, or defraud creditors. See 5 Resnick and Sommer, Collier on Bankruptcy, U 548.04 at 548-56. The trustee must demonstrate: (1) the debtor transferred an interest in property or incurred a debt, (2) on or within two years before the petition date (or one year for cases commenced before April 21, 2006), (3) with actual intent to hinder, delay, or defraud a present or future creditor. 11 U.S.C. § 548(a)(1)(A). These same elements must be established for a claim under CUFTA, applicable to bankruptcy cases through 11 U.S.C. § 544(b). See California Civil Code, § 3439.04(a)(1). To prevail, Plaintiff must establish by a preponderance of the evidence that the alleged transfers were made with actual intent to hinder, delay, or defraud a creditor. Wolkowitz v. Beverly (In re Beverly), 374 B.R. 221, 235 (9th Cir. BAP 2007).
A. Ownership Interests in FedChex and FedChex Recovery: Alter Ego/Successor Liability to EPT
As discussed above in Discussion Section I.A, Plaintiff has failed to prove that a transferor the debtor's interests in property took place, and therefore has not established its claims of constructive fraudulent transfers. For much of the same reasons, the court finds that Plaintiff has not proven its claims of intentional fraudulent transfer relating to the creation of FedChex and FedChex Recovery.
B. Capital Contributions: January to October 2002
Plaintiff alleges that the various contributions to FedChex and FedChex Recovery made by Davis or the Davis Entities between January and October 2002, as well as the $19,000 and $27,000 contributed by Bishop, were intentional fraudulent transfers. The court found that these transfers were not constructively fraudulent, as discussed above, and for the following reasons, also finds that these transfers were not intentionally fraudulent pursuant to 11 U.S.C. § 548.
1. The Contributions Were Transfers of Debtor's Interest in Property
As discussed above, the court finds that the Plaintiff has met its burden of proving that the following capital contributions were "transfers" for the purposes of Section 548 and CUFTA:
- January 9, 2002:
$73,885.14 to FedChex by Davis
- January 9, 2002:
$20,515.37 to FedChex Recovery by Davis
- April 3, 2002:
$91,682.07 to FedChex by Davis
- April 3, 2002:
$10,127.74 to FedChex Recovery by Davis
- July 10, 2002:
$156,448.95 to FedChex by Davis
- July 10, 2002:
$15,708.00 to FedChex Recovery by Davis
- July 10, 2002:
$19,000 to FedChex by Bishop
- July 10, 2002:
$19,000 credit to FedChex Recovery by Bishop-interest percentage not affected
- September 4, 2002:
$10,000 to FedChex by Bishop
- September 19, 2002:
$17,000 to FedChex by Bishop
- October 9, 2002:
$150,271.33 to FedChex by Davis
- October 9, 2002:
$15,708.28 to FedChex Recovery by Davis.
2. The Transfers Occurred Within One Year of the Petition Date
Bishop's petition date was November 19, 2002. The various capital contributions by Davis and Bishop all occurred between January 2002 and October 2002, which is within one year of the bankruptcy petition date. See 11 U.S.C. § 548 (2005). Therefore, the alleged transfers occurred within the statutory period for section 548 to apply, as well as under CUFTA, which provides that the trustee must bring an action at least within four years of the alleged transfer. California Civil Code, § 3439.09(a), (b).
3. Plaintiff Has Not Established Actual Intent to Hinder, Delay, or Defraud Present or Future Creditors
A transfer is said to be "actually fraudulent" as to a creditor if the debtor made the transfer "with actual intent to hinder, delay, or defraud any creditor of the debtor." 11 U.S.C. § 548(a)(1)(A); California Civil Code, § 3439.04(a)(1). Because there is often no direct evidence demonstrating actual intent, courts have frequently inferred fraudulent intent from circumstances surrounding the transfer. In re Acequia, Inc., 34 F.3d 800, 806 (9th Cir. 1994). These indicia of intent or "badges of fraud" include: "(1) actual or threatened litigation against the debtor; (2) a purported transfer of all or substantially all of the debtor's property; (3) insolvency or other unmanageable indebtedness on the part of the debtor; (4) a special relationship between the debtor and the transferee; and, after the transfer, (5) debtor retaining the property involved in the putative transfer." Id. "The presence of a single badge of fraud may spur mere suspicion; the confluence of several can constitute conclusive evidence of actual intent to defraud, absent 'significantly clear' evidence of a legitimate supervening purpose." Id. (citation omitted).
Similarly, California Civil Code § 3439.04(b) lists a number of nonexclusive factors intended to guide the court in determining actual intent. In re Beverly, 374 B.R. at 235- 236.
The UFTA list of "badges of fraud" provides neither a counting rule, nor a mathematical formula. No minimum number of factors tips the scales toward actual intent. A trier of fact is entitled to find actual intent based on the evidence in the case, even if no "badges of fraud" are present. Conversely, specific evidence may negate an inference of fraud notwithstanding the presence of a number of "badges of fraud." Id. at 236, citing, Filip v. Bucurenciu, 129 Cal.App.4th 825, 834 (2005). These nonexhaustive factors include:
"UFTA" refers to the Uniform Fraudulent Transfer Act. See In re Beverly, 374 B.R. at 227.
(1) Whether the transfer or obligation was to an insider;
(2) Whether the debtor retained possession or control of the property;
(3) Whether the transfer or obligation was disclosed or concealed;
(4) Whether before the transfer was made or obligation was incurred, the debtor had been sued or threatened with suit;
(5) Whether the transfer was of substantially all of the debtor's assets;
(6) Whether the debtor absconded;
(7) Whether the debtor removed or concealed assets;
(8) Whether the value of the consideration received by the debtor was reasonably equivalent to the value of the asset transferred or the amount of the obligation incurred;
(9) Whether the debtor was insolvent or became insolvent shortly after the transfer was made or the obligation was incurred;
(10) Whether the transfer occurred shortly before or after a substantial debt was incurred; and
(11) Whether the debtor transferred the essential assets of the business to a lienholder who transferred the assets to an insider of the debtor.
California Civil Code § 3439.04(b). Just as with the badges of fraud under section 548, "[n]o minimum number of factors tips the scales toward actual intent. . .. [S]pecific evidence may negate an inference of fraud notwithstanding the presence of a number of 'badges of fraud'." Filip v. Bucurenciu, 129 Cal.App.4th at 890. In considering the indicia of a fraudulent transfer, the court "should evaluate all of the relevant circumstances involving a challenged transfer" and "may appropriately take into account all indicia negativing as well as those suggesting fraud.. . ." Annod Corp. v. Hamilton & Samuels, 100 Cal.App.4th 1286, 1298 (2002), quoting, Legislative Committee comment for California Civil Code, § 3439.04, 12A West's Annotated California Civil Code following California Civil Code, § 3439.04 (referring to statutory language before 2004 amendment of § 3439.04).
The transferor's state of mind is the focus of the court's inquiry into actual intent. Plotkin v. Pomona Valley Imports, Inc. (In re Cohen), 199 B.R. 709, 716 (9th Cir. BAP 1996); In re Beverly, 374 B.R. at 235. Plaintiff must prove the transferor's subjective intent. See United States v. Tabor Court Realty Corp., 803 F.2d 1288, 1304-1305 (3d Cir. 1986).
With regard to the various 2002 capital contributions, few of the CUFTA (and for that matter § 548) badges of fraud apply to this situation because it involves transfers of money in exchange for increasing or decreasing shares in two LLCs, rather than transfers of real property where, for example, the debtor transfers title but still retained control of the property. Additionally, there is no evidence before the court that Bishop absconded or concealed these transfers in any way. Therefore, the court will focus its analysis on the relevant factors: the pending litigation against Bishop in 2002, the insider nature of the transactions, reasonably equivalent value, and insolvency of the debtor.
c. Pending Litigation Against the Debtor
During 2002, actual litigation was pending against Bishop, which affected his capital contributions made on July 10, 2002 and on September 4 and 19, 2002. However, Davis was not named as a defendant in the State Court Action. After Bishop and Murphy formed EPT, EFS and Barry brought the State Court Claim against Bishop, Murphy, and EPT.
d. Special Relationship / Insider Status
Under Section 548, the existence of a special relationship between the debtor and the transferee can be evidence of actual intent to hinder, delay, or defraud creditors. This can include family, friendship, or a close associate relationship. Kaisha v. Dodson, 423 B.R. 888, 901 (N.D. Cal. 2010). Similarly, a transfer to an insider of the debtor is evidence of actual intent under CUFTA. See California Civil Code, § 3439.04(b). The court finds that this factor weighs in favor of Plaintiff. Bishop, Davis, and Arnold were all managing partners in FedChex and FedChex Recovery. The transfer of Bishop's membership interest was to Davis. Bishop and Davis were both partners in the same company at the time of the transfers.
e. Reasonably Equivalent Value for the Transfers
As discussed above in connection with constructive fraudulent transfers, the Plaintiff has not met its burden in this case of demonstrating a lack of reasonably equivalent value. Therefore the absence of this factor weighs in favor of the Defendants.
f. Insolvency of the Debtor
If a debtor is insolvent at the time of the transfer or becomes insolvent shortly after a transfer, it is indicative of intent to defraud the debtor's creditors. As discussed above, Section 548 of the Bankruptcy Code and CUFTA are relatively interchangeable when it comes to a fraudulent transfer analysis. Although similar, they are not identical when it comes to the court's consideration of whether the debtor was insolvent at the time of the transfers. Under Section 548, a debtor is "insolvent" when the debtor's debts exceed its assets, excluding assets that have been transferred, concealed, or removed with intent to hinder, delay, or defraud creditors. This is known as the "balance sheet" test. In re Sierra Steel, Inc., 96 B.R. at 277. An insolvency determination may only be made after establishing the fair value of the debtor's assets. 11 U.S.C. § 101(32).
Similarly, under CUFTA, insolvency is determined in accordance with the "balance sheet" analysis. However, CUFTA also provides a rebuttable presumption that the debtor was insolvent if the debtor was not able to pay his debts in the ordinary course of business as they came due (which is considered the "equity" or "cash flow" test). In re Bay Plastics, Inc., 187 B.R. 315, 328 n. 22. No such rebuttable presumption exists under Section 548; the Plaintiff must prove the debtor's insolvency.
In determining whether a debtor's liabilities exceed assets, the court must evaluate the debtor's assets and liabilities based upon a practical assessment of their actual value-a "fair valuation"-rather than in accordance with generally accepted accounting principles. In re Bay Plastics, Inc., 187 B.R. at 330. Intangible balance sheet assets, such as goodwill, which may have no market value (either on a liquidation or going concern basis) generally should be excluded from the calculation. Id. at 330-331.
1. Balance Sheet Approach
As discussed above, regarding the debtor's insolvency as of the petition date as well as the date of the ISO Agreement, Plaintiff did not meet its burden in demonstrating that the debtor was insolvent. The transfers at issue here occurred between January and October 2002, thus the court looks for evidence of the debtor's insolvency at that time. Under the balance sheet approach adopted by the Bankruptcy Code, the court must compare the debtor's assets to his liabilities at the time of the transfer. First, with respect to Bishop's assets at the time of January 2002, the court has little information. Plaintiff provided the court with the Bishops' bankruptcy schedules, which were filed in November 2002. See Plaintiff's Trial Exhibit 195. Plaintiff did not provide any other evidence of Bishop's purported assets in calendar year 2002, so the court infers Plaintiff relies upon the equity or cash flow analysis, which if demonstrated, raises a rebuttable presumption of insolvency under CUFTA. In re Bay Plastics, Inc., 187 B.R. at 328 n. 22.
Indeed, Plaintiff's main argument regarding Bishop's insolvency at the time of the 2002 capital contributions centers around Bishop's potential liability under the state court action. See, e.g., Plaintiffs Proposed Findings of Fact and Conclusions of Law If 1085-1096, at 233-234. But again, based on the record, the court lacks sufficient evidence to value Bishop's contingent liability from the state court action as of January 1, 2002. Plaintiff offered no evidence or even argument in support of valuing the state court action prior to the petition date. Plaintiff points to Bishop's "admission" that he did not have the means of paying a debt of $1,800,000 as of January 1, 2002, if it were immediately due and payable. Plaintiff's Proposed Findings of Fact and Conclusions of Law ¶1091, at 233, citing, Bishop Deposition, March 5, 2008, at 53:23-25, 54:10. Plaintiff cites another "admission" that Bishop "did not have $24,000,000 in January of 2002 and also did not have that sum on the date he filed for bankruptcy." Plaintiff's Proposed Findings of Fact and Conclusions of Law ¶ 1092, at 233. The court cannot assume a person is insolvent because he or she may not be able to pay a $24,000,000-or $1,800,000-judgment in full at a later time. And, these facts have nothing to do with the reasonable foreseeability that the contingent nature of the state court liability would become a reality in the future. The court notes that the only reason the state court liability became non-contingent was by way of a default judgment, entered four months after the petition was filed, then reversed, then finally re-entered based on default five years later in 2008. Based on this record, the court finds that Plaintiff has not shown by a preponderance of the evidence Bishop's insolvency at the time of the transfers under the balance sheet approach.
2. Equity or Cash Flow Approach
The court similarly does not find that the presumption of insolvency under CUFTA arises in favor of Plaintiff. Under the "equity" or "cash flow" test, "a debtor is insolvent if the present fair salable value of the debtor's assets is less than the amount required to pay existing debts as they become due." In re Bay Plastics, 187 B.R. at 328 n. 22. A presumption of insolvency arises under CUFTA if a debtor is generally not paying his debts as they become due. California Civil Code, § 3439.02(c). The court discussed this test in depth supra, in Section 1(C)(4)(b). For the same reasons, the court cannot find that the presumption of insolvency applies to the transfers made prior to the petition date between January and October 2002. Plaintiff only provided evidence of three unpaid debts as of the petition date. This is not sufficient evidence to demonstrate that the debtor was "generally not paying his existing debts as they became due" during the ten months prior to the petition date.
3. Conclusion
The court finds that, on balance, the applicable factors weigh in favor of the Defendants. Although the various capital contributions took place between insiders and during a time where Bishop faced contingent yet significant liability from the state court action, the other factors outweigh these concerns. Plaintiff did not meet its burden of demonstrating a lack of reasonably equivalent value for these transfers, nor did it demonstrate that Bishop was insolvent between January 2002 and October 2002. Additionally, the record before the court indicates that the members of FedChex and FedChex Recovery had good reasons for increasing Davis' ownership percentage of the two companies. Indeed, FedChex required several loans in the beginning to continue running its business. At trial, Arnold testified that, without the loans, FedChex would have closed. Arnold Trial Testimony, May 6, 2010, at 12:05-12:06 p.m. Bishop explained at trial that, in order to continue operations, "the company needed an infusion of capital to continue operations, and that was why Mr. Davis made those contributions." Bishop Trial Testimony, February 19, 2010, at 9:26 a.m. Due to limited cash flow, FedChex was not able to repay these loans made by Davis, Bishop, YPDS, and Niche. Thus, the members turned the loans into capital contributions. According to Arnold, it was expected that any invested capital or resources not repaid would become capital contributions in FedChex and FedChex Recovery. Arnold Trial Declaration Concerning Case in Chief at 3:2-5. From Arnold's perspective, he understood that his decreased ownership percentage was what was required to keep the company afloat. Arnold Trial Testimony, May 6, 2010, at 2:22 p.m. (When asked about his decreasing ownership percentage, Arnold stated: "One percent of success can be significant."). Id. The court finds the testimony of these witnesses to be credible.
For these reasons, the court finds that Plaintiff has not established by a preponderance of the evidence that the various 2002 capital contributions were intentional fraudulent transfers under 11 U.S.C. § 548(a)(1)(A) or California Civil Code § 3439.04(b).
C. $50,000 Payment for ISO Agreement
As discussed above, Bishop's payment for the ISO Agreement was not a constructive fraudulent transfer because Plaintiff did not meet its burden of establishing any of the four alternatives provided in 11 U.S.C. § 548(a)(1)(B). Similarly, the court finds that Plaintiff did not prove that this transfer was intentionally fraudulent.
1. Debtor Transferred an Interest in Property
As discussed in the court's analysis of Plaintiff's claim for constructive fraudulent transfer, the court finds that Bishop's transfer of funds to buy the ISO Agreement was a transfer for purposes of Section 548 and CUFTA.
2. The Transfer Occurred Within the Statutory Period for Fraudulent Transfers
The transfer from Bishop's ISO agreement purchase occurred either the day before or the day of Bishop's bankruptcy petition, which was within the statutory period of one year of the debtor's petition date under 11 U.S.C. § 548. This transfer also falls within the applicable statutory period for transfers under CUFTA. California Civil Code § 3439.09(a), (b).
3. Plaintiff Has Not Established Actual Intent to Hinder, Delay, or Defraud Present or Future Creditors
As with the various 2002 capital contributions, few of the CUFTA (and for that matter § 548) badges of fraud apply to the circumstances surrounding Bishop's purchase of the ISO Agreement. The court relies on its analysis, supra, regarding the 2002 capital contributions to come to the same conclusion that Bishop did not have actual intent to hinder, delay, or defraud creditors at the time of his purchase of the ISO Agreement.
Accordingly, the court finds that Plaintiff did not meet its burden of proving by a preponderance of the evidence its first and sixth claims for relief that any of the alleged prepetition transfers were made with actual intent to hinder, delay, or defraud creditors pursuant to 11 U.S.C. § 548(a)(1)(A) or California Civil Code, § 3439.04(b).
III. ALTERNATIVE ARGUMENT: PREPETITION TRANSFERS AS AVOIDABLE PREFERENTIAL TRANSFERS
In the Fourth Amended Complaint, Plaintiff did not plead a specific claim for preferential transfer pursuant to 11 U.S.C. § 547. See Fourth Amended Complaint at 12-27. However, in the Joint Pretrial Order, Plaintiff lists issues of law as to an avoidable preference theory. Specifically, Plaintiff inquires:
4.243. Is Plaintiff entitled to a Court order avoiding as avoidable preferences, the prepetition transfers of Ty Bishop's interest in FedChex and FedChex Recovery . . . ?
4.249. Is Plaintiff entitled to a Court order avoiding, as an avoidable preference, the FedChex Recovery $19,000 Transfer. . . ?
JPTO, Plaintiff's Issues as to Avoidable Preferences, 4.243, 4.249, at pages 51-52. Thus, Plaintiff argues as an alternative theory of relief that the various capital contributions made in 2002 are also avoidable as preferential transfers under § 547(b), which permits a trustee to avoid any transfer of an interest in property of the debtor:
(b) Except as provided in subsections (c) and (i) of this section, the trustee may avoid any transfer of an interest of the debtor in property-
(1)to or for the benefit of a creditor;
(2)for or on account of an antecedent debt owed by the debtor before such transfer was made;
(3)made while the debtor was insolvent;
(4)made-
(A)on or within 90 days before the date of the filing of the petition; or
(B)between ninety days and one year before the date of the filing of the petition, if such creditor at the time of such transfer was an insider; and
(5)that enables such creditor to receive more than such creditor would receive if-
(A)the case were a case under chapter 7 of this title;
(B)the transfer had not been made; and
(C)such creditor received payment of such debt to the extent provided by the provisions of this title.
11 U.S.C. § 547(b). The Ninth Circuit stated the following elements for a claim under this section:
(1)a transfer of an interest of the debtor in property;
(2)to or for the benefit of the creditor;
(3)for or on account of an antecedent debt;
(4)made while the debtor was insolvent;
(5)made on or within 90 days before the date of the filing of the petition; and
(6)one that enables the creditor to receive more than such creditor would receive in a Chapter 7 liquidation of the estate.
In re Kemp Pacific Fisheries, Inc., 16 F.3d 313, 315 n.1 (9th Cir. 1994); accord, In re Lee, 179 B.R. 149, 155 (9th Cir. BAP 1995). The preference period is extended from 90 days to one year if the creditor is an insider. 11 U.S.C. § 547(b)(4)(B). Plaintiff has the burden of proving these elements by a preponderance of the evidence. In re Lee, 179 B.R. at 155. As discussed below, the court finds that a number of these elements cannot apply to the capital contributions made in 2002 because Davis and FedChex Recovery-the transferees in this situation-were not creditors of Bishop-the transferor.
A. Plaintiff Established a Transfer of an Interest of Debtor's Property
The court can readily find that the 2002 capital contributions were transfers of an interest of the debtor's property, as discussed above. In making the $19,000 transfer to FedChex Recovery on July 10, 2002, Bishop borrowed on a line of credit on his house to make the cash payment. Plaintiff's Trial Exhibit 143, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of July 10, 2002; JPTO Undisputed Fact 1.33; Plaintiff's Trial Exhibit 122, Document entitled "Washington Mutual Equity Loan Detail"; Bishop Trial Testimony, February 19, 2010, at 10:51 a.m. It could be argued that this contribution was not actually a transfer of Bishop's property because it was merely a change in form - cash exchanged for an equivalent interest in FedChex Recovery. However, the record indicates that FedChex Recovery was in need of cash at the time of the transfer to meet its operating expenses and it would have ceased operations if the contribution was not made. Arnold Trial Testimony, May 6, 2010, at 12:05-12:06 p.m. Under those circumstances, the court is inclined to view the $19,000 contribution as more akin to a gift to FedChex without an equivalent exchange or reasonable expectation of return. Absent evidence of equivalent value in FedChex at the time of the contribution, the court concludes that the cash infusion constituted a transfer of Bishop's interest in the funds to FedChex Recovery.
B. Plaintiff Established Only Some of the Transfers Occurred Within the "Preference Period"
Except where the transfer involves an insider, Plaintiff must prove that the transfer was made within 90 days preceding the filing of the bankruptcy petition. 11 U.S.C. § 547(b)(4)(A). If, however, Plaintiff establishes that the transfer was made to an insider of the debtor, the transfer may be avoided if it was made up to one year prior to the petition date. 11 U.S.C. § 547(b)(4)(B).
1. 90-day Non-Insider Preference Period
The Bishops filed their bankruptcy petition on November 19, 2002. Thus, transfers made between August 19, 2002 and November 19, 2002 are within the preference period under section 547(b)(4)(A). This time period covers the following capital contributions:
- September 4, 2002:
$10,000 to FedChex by Bishop
- September 19, 2002:
$17,000 to FedChex by Bishop
- October 9, 2002:
$150,271.33 to FedChex by Davis
- October 9, 2002:
$15,708.28 to FedChex Recovery by Davis.
The court therefore concludes that Plaintiff has established by a preponderance of the evidence that these transfers were made within the preference period.
2. One-year Insider Preference Period
As for the remaining capital contributions, however, in order to establish a preferential transfer, Plaintiff must prove that the transferees, Davis and FedChex Recovery, were insiders of the transferor, Bishop. Unlike the type of "insider" relationship considered under the badges of fraud, an "insider" for purposes of § 547 is statutorily defined. Under the Bankruptcy Code, if the debtor is an individual, an "insider" is defined as (1) a relative of the debtor or of a general partner of the debtor, (2) the partnership in which the debtor is a general partner, (3) a general partner of the debtor, or (4) a corporation of which the debtor is a director, officer, or person in control. 11 U.S.C. §101(31)(A).
a. Insider Status of Davis
None of these definitions apply to the situation at hand because both Bishop and Davis were members of two limited liability companies, rather than a general partnership. "Insider status" may also be based on a professional or business relationship that is close enough to compel a conclusion that the transferee "gained an advantage attributable simply to affinity rather than to the course of business dealings between the parties." Friedman v. Sheila Plotsky Brokers, Inc. (In re Friedman), 126 B.R. 63, 70 (9th Cir. BAP 1991). The Ninth Circuit Bankruptcy Appellate Panel explained, however, that "[i]t is unlikely that Congress intended that complex business relationships existing over a period of time, attended by some personal involvement but without control by the creditor over the debtor's business, would subject such creditor to insider status." Id.
As is discussed in subsection (C), infra, Davis was not a creditor of Bishop (and therefore cannot be considered a creditor with "insider status"). However, assuming the court need only find that Davis is an insider of Bishop, the court similarly finds in the negative. First, the statutory definition of "insider" does not apply to Bishop and Davis. Second, the evidence before the court reflects that Bishop and Davis were business partners. Davis did not know Bishop until he was approached by Bishop to enter into a business transaction together. Davis Deposition, January 29, 2008, at 21:16-25:25. The court finds that the more credible evidence in this case demonstrates arms' length transactions for the capital contributions made in 2002, based on legitimate needs by both FedChex and FedChex Recovery to stay afloat as businesses.
Therefore, the following transactions were not within the preference period, and cannot be avoided as preferential transfers:
- January 9, 2002:
$73,885.14 to FedChex by Davis
- January 9, 2002:
$20,515.37 to FedChex Recovery by Davis
- April 3, 2002:
$91,682.07 to FedChex by Davis
- April 3, 2002:
$10,127.74 to FedChex Recovery by Davis
- July 10, 2002:
$156,448.95 to FedChex by Davis
- July 10, 2002:
$15,708.00 to FedChex Recovery by Davis
b. Insider Status of FedChex Recovery
Similarly, FedChex Recovery was not a creditor of Bishop and cannot therefore be considered a creditor with "insider status" for purposes of § 547(b). However, if the court were only making a finding as to FedChex Recovery's insider status, then it would conclude that FedChex Recovery was an insider of Bishop. An insider of an individual debtor includes a "corporation of which the debtor is a director, officer, or person in control." 11 U.S.C. § 101(31)(A)(iv). The definition of "corporation" under the Code includes unincorporated limited liability companies. 11 U.S.C. § 101(9)(A)(4)(iv); In re Longview Aluminum, LLC, 657 F.3d 507, 509 n. 1 (7th Cir. 2011); See also In re Village at Lakeridge, LLC, 2013 WL 1397447 (9th Cir. BAP April 5, 2013) (unpublished memorandum decision). FedChex Recovery is a limited liability company, and therefore falls within the definition of a corporation under the Code. It appears undisputed that Bishop was a person in control of FedChex Recovery, and FedChex Recovery would then be an insider of Bishop. If Plaintiff were to establish that FedChex Recovery was a creditor of Bishop, then the following transfers would fall within the one-year preference period for insiders:
- July 10, 2002:
$19,000 to FedChex by Bishop
- July 10, 2002:
$19,000 credit to FedChex Recovery by Bishop-interest percentage not affected
However, there is no evidence in the record of any debt owed by Bishop to FedChex Recovery, and the court cannot find that it was an insider creditor for purposes of extending the preference period under § 547(b)(4)(B).
C. Plaintiff Did Not Establish that Davis or FedChex Recovery Was a Creditor of the Debtor, Did Not Establish that the Transfer Was Made on Account of An Antecedent Debt, and Did Not Establish that the Creditor Received More Than it Would Have in a Chapter 7 Liquidation
To be avoided as a preference, the transfer must have been made to or for the benefit of a creditor. The Bankruptcy Code defines "creditor" as an entity that has a prepetition claim against the debtor or the estate, including a community claim. 11 U.S.C. § 101(10). In other words, to determine "whether a loan repayment is 'for or on account of [a]. . . debt owed by the debtor' is to consider whether the creditor would be able to assert a claim against the estate absent the repayment." In re Virginia-Carolina Financial Corp., 954 F.2d 193, 197 (4th Cir. 1992), citing, 11 U.S.C. § 101(12) (defining "debt" as "liability on a claim"). "Claim" is defined by the Bankruptcy Code as any right to payment or to an equitable remedy. 11 U.S.C. § 101(5).
In this case, Bishop was the transferor for the various contributions and Davis and FedChex Recovery were the transferees. There is no argument made in this case that Davis was a "creditor" of Bishop, because there is no evidence indicating that either Davis or FedChex Recovery was entitled to any sort of prepetition claim against Bishop. Thus, in that sense, Plaintiff's preference claim fails because it cannot establish that Davis or FedChex Recovery was a creditor of Bishop, and they would not receive anything in any bankruptcy case. Nor can Plaintiff establish that Bishop engaged in the capital contributions on account of an antecedent debt owed to either Davis or FedChex Recovery.
Instead, however, Plaintiff argues that by agreeing with Davis to dilute his interests in FedChex and FedChex Recovery in order to repay the debt owed to the Davis Entities, Bishop "created an obligation to himself to either transfer ownership interests to Davis or to pay a portion of the purported debt by putting capital into" FedChex and FedChex Recovery. Plaintiff's Proposed Findings of Fact and Conclusions of Law fl 1108-1109 at 236, and HIT 1116-1117 at 237. But this assumes that Bishop owed a debt to the Davis Entities based on the loans given by those entities-which were later considered capital contributions by agreement of the four members. The loans made by the Davis Entities, as discussed supra, were made in order to keep FedChex and FedChex Recovery afloat-not Bishop individually. Thus, to the extent those contributions were considered "loans, " they were loans between the Davis Entities, on the one hand, and FedChex and FedChex Recovery, on the other.
Both FedChex and FedChex Recovery are limited liability companies ("LLC's"). A limited liability company is a hybrid between a limited partnership and a corporation. California Corporations Code § 17001, 17101. An LLC is considered a separate entity from its members or owners, and generally speaking, only the LLC is responsible for the entity's debts (unless, for example, the court applies alter ego liability). California Corporations Code, §§ 17003 and 17101.
However, the court need not engage in an alter ego analysis here; the loans made by the Davis Entities were not characterized as debt giving rise to a claim in Bishop's bankruptcy case because the members of FedChex and FedChex Recovery all agreed to consider those loans as capital contributions and simply increase Davis' percentage ownership in the entities, rather than attempting the impossible, i.e., repaying the loans through the entities. Indeed, FedChex required several loans in the beginning to continue running its business. At trial, Arnold testified that, without the loans, FedChex would have closed. Arnold Trial Testimony, May 6, 2010, at 12:05-12:06 p.m. Bishop explained at trial that, in order to continue operations, "the company needed an infusion of capital to continue operations, and that was why Mr. Davis made those contributions." Bishop Trial Testimony, February 19, 2010, at 9:26 a.m. Due to limited cash flow, FedChex was not able to repay these loans made by Davis, Bishop, YPDS, and Niche. Thus, the members turned the loans into capital contributions. According to Arnold, it was expected that any invested capital or resources not repaid would become capital contributions in FedChex and FedChex recovery. Arnold Trial Declaration at 3:2-5. Therefore, in these circumstances, even if the court were to pierce the corporate veil of FedChex and FedChex Recovery to impose liability on Bishop, the court would not find liability in Bishop because what were originally considered loans were transformed into capital contributions before a "claim" against Bishop or the FedChex Entities would have arisen.
Because Plaintiff cannot establish that Davis, or the Davis Entities, were creditors of Bishop, Plaintiff similarly cannot establish that the transfers were made on account of an antecedent debt, or that Davis or the Davis Entities received more than they would have in a chapter 7 liquidation. Although Plaintiff's theory does not address the direct contribution to FedChex Recovery, Plaintiff has similarly failed to show that FedChex Recovery was a creditor of Bishop or that the additional capital contribution was on account of an antecedent debt. For these reasons, Plaintiffs alternative theory of preferential transfer fails.
D. Plaintiff Established Insolvency for the Limited Purpose of the 90-Day Preference Period Only
As previously discussed, Plaintiff did not establish that Bishop was insolvent at the time of the capital contributions, between January 2002 and October 2002, for the purposes of 11 U.S.C. § 548. However, that finding was based upon the court's review of Plaintiff's case in chief. Defendant did not specifically provide evidence in this case of Bishop's solvency during the 90-day preference period, between August 19, 2002 and November 19, 2002. In contrast to a claim for fraudulent transfer under 11 U.S.C. § 548, under 11 U.S.C. § 547, Plaintiff enjoys a presumption of insolvency during the 90-day preference period. There is no such rebuttable presumption for the extended, insider-transfer preference period. 11 U.S.C. § 547(f). Thus, for the same reasons already discussed, Plaintiff did not meet its burden of proving insolvency at the time of January-to-August, 2002 (relating to the extended insider preference period) by a preponderance of the evidence.
However the 90-day presumption of insolvency applies to the transfers made between August 19, 2002 and November 19, 2002. In order to defeat the insolvency presumption for transfers made during the 90-day preference period, the transferee must come forward with substantial evidence of the debtor's solvency when the transfers were made. In re Sierra Steel, Inc., 96 B.R. at 277. In this case, the defendants did not come forth with specific evidence as to the debtor's solvency. Instead, Defendants poked holes in Plaintiff's case, i.e., "The more credible evidence failed to support a finding that Ty Bishop was or became insolvent as a result of the transfer which allegedly occurred on October 9, 2002." Defendant's Proposed Findings of Fact and Conclusions of Law U 290, at 80.
Specifically, the following transfers:
The court agrees with the Defendants, but for the limited purposes of the presumption of insolvency afforded to Plaintiff during the 90-day preference period, the court finds that the Defendants did not rebut the presumption of insolvency of the debtor because the Defendants did not come forth with any evidence of their own that Bishop was solvent during the relevant time period.
Regardless, because Plaintiff failed to meet the other requisite elements as discussed above, the court finds that Plaintiff has not established a claim for preferential transfer pursuant to 11 U.S.C. § 547 by a preponderance of the evidence.
IV. THIRD CLAIM FOR RELIEF: AVOIDANCE OF POST-PETITION TRANSFERS UNDER 11 U.S.C. §549
The only remaining alleged transfers needing discussion are the post-petition purchases of Bishop's remaining interests in FedChex and FedChex Recovery. The Bankruptcy Code allows a trustee to avoid a transfer of property of the estate:
](1)That occurs after the commencement of the case; and
(2)(A) that is authorized only under section 303(f) or 542(c) of this title; or (B) that is not authorized under this title or by the court.
11 U.S.C. § 549(a). Section 549 is directed at voluntary postpetition transfers made by the debtor (or made by others on the debtor's behalf). In re Schwartz, 954 F.2d 569, 573 (9th Cir. 1992). An action to avoid a postpetition transfer must be brought either within two years after the date of the transfer sought to be avoided, or after the case is closed or dismissed, whichever is earlier. 11 U.S.C. § 549(d).
In this case, section 549(a)(2)(A) does not apply because: (1) this is not an involuntary bankruptcy case governed by section 303, and (2) no argument has been made that the existing members of FedChex and FedChex Recovery were bona fide purchasers of debtor's remaining interest in the companies. See 11 U.S.C. §§ 303(f) and 542(c). Defendants concede that a meeting was held on the date the Bishops filed their bankruptcy petition, at which meeting Bishop, Arnold, Murphy, and Davis discussed the filing of the Bishops' bankruptcy case. Davis Deposition, January 20, 2008, at 228:5-230:21; 11 U.S.C. § 542(c); Plaintiff's Trial Exhibit 146, Document entitled "Resolution to Continue Doing Business" referencing FedChex, LLC and referencing a date of November 19, 2002; Plaintiff's Trial Exhibit 147, Document entitled "Resolution to Continue Doing Business" referencing FedChex Recovery, LLC and referencing a date of November 19, 2002.
Thus, the court must determine whether these alleged transfers occurred without authorization from the bankruptcy court., making 11 U.S.C. § 549(a)(2)(B) applicable. The Plaintiff must establish the following: "(1) a transfer (2) of estate property; (3) that occurred after the commencement of the case; and (4) that was not authorized by statute or the court." 11 U.S.C. § 549(a); In re First Protection, Inc., 440 B.R. 821, 827-828 (9th Cir. BAP 2010). Once Plaintiff establishes its prima facie case, "to the extent that a transfer is avoided under § 549, the trustee may recover, for the benefit of the estate, the property transferred, or the value of such property, from the initial transferee or any subsequent transferee." In re First Protection, Inc., 440 B.R. at 828, citing, 11 U.S.C. § 550(a)(1) and (2). Any entity seeking to establish "the validity of a transfer under § 549 of the Code shall have the burden of proof." Fed.R.Bankr.P. 6001.
As discussed above in Factual Background Section 3(c), on December 4, 2002, Bishop accepted a post-petition purchase of his remaining interest in FedChex and FedChex Recovery by the remaining members of FedChex and FedChex recovery. Plaintiff's Trial Exhibit 152, Document entitled "Former Members Purchase Price" referencing FedChex, LLC and referencing a date of December 4, 2002 and referencing Ty Bishop and an amount of $62,000; Plaintiff's Trial Exhibit 154, Document entitled "Former Members Purchase Price" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002, and referencing Brennon Ty Bishop and the amount of $2,000. Bishop received $62,000 for his $48,000 capital balance in FedChex. Plaintiff's Trial Exhibit 152, Document entitled "Former Members Purchase Price" referencing FedChex, LLC and referencing a date of December 4, 2002 and referencing Ty Bishop and an amount of $62,000. The additional $14,000 over Bishop's balance of $48,000 was for "fair consideration" of his member interest, but Bishop does not know why the amount was calculated that way. Id. at 224:16-17. Bishop accepted $2,000 for his capital balance of $2,000 in FedChex Recovery. Plaintiff's Trial Exhibit 154, Document entitled "Former Members Purchase Price" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002, and referencing Brennon Ty Bishop and the amount of $2,000. Bishop accepted this offer and waived his right to an appraisal of his membership interest without approval of the trustee or the court. Plaintiff's Trial Exhibit 153, Document entitled "Promissory Note Balloon Payment" bearing a signature date of December 22, 2002 with Ty Bishop as payee in the amount of $62,000 and referencing FedChex, LLC; Plaintiff's Trial Exhibit 155, Document entitled "Promissory Note FedChex Recovery Balloon Payment" referencing and bearing a signature by FedChex, LLC dated December 22, 2002 with Ty Bishop as payee in the amount of $2,000; Shulman Trial Declaration, filed June 30, 2009, at 7 U 5.
However, the members of the FedChex Entities did not pay any cash to Bishop for buying out his interest. Instead, Davis signed promissory notes on December 22, 2002 on behalf of FedChex and FedChex Recovery, one in the amount of $62,000 (buying out Bishop's interest in FedChex) and one in the amount of $2,000 (buying out Bishop's interest in FedChex Recovery), both with an interest rate of 5 percent (collectively, the "Promissory Notes"). Plaintiff's Trial Exhibit 153, Document entitled "Promissory Note Balloon Payment" bearing a signature date of December 22, 2002 with Ty Bishop as payee in the amount of $62,000 and referencing FedChex, LLC; Plaintiff's Trial Exhibit 155, Document entitled "Promissory Note FedChex Recovery Balloon Payment" referencing and bearing a signature by FedChex, LLC dated December 22, 2002 with Ty Bishop as payee in the amount of $2,000. The FedChex Promissory Note provided that full payment plus interest would be made within 5 years of commencement. Plaintiffs Trial Exhibit 153, Document entitled "Promissory Note Balloon Payment" bearing a signature date of December 22, 2002 with Ty Bishop as payee in the amount of $62,000 and referencing FedChex, LLC. The FedChex Recovery Promissory Note provided that full payment plus interest would be made on or before March 1, 2003. Plaintiffs Trial Exhibit 155, Document entitled "Promissory Note FedChex Recovery Balloon Payment" referencing and bearing a signature by FedChex, LLC dated December 22, 2002. At this point, Bishop was completely bought out from his ownership interests in FedChex and FedChex Recovery, but was never fully reimbursed for his ownership interests. On December 4, 2002, Bishop's ownership interests in FedChex and FedChex Recovery were reduced to 0%, bought out by the Promissory Notes rather than cash. Plaintiffs Trial Exhibit 150, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex, LLC and referencing a date of December 4, 2002; Plaintiff's Trial Exhibit 151, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002; Plaintiff's Trial Exhibit 168, Document entitled "Completion of Section 8.1 Promissory Note Calculations Former Member Interest and Capital Contribution" referencing FedChex, LLC and referencing a date of December 4, 2002; Plaintiffs Trial Exhibit 152, Document entitled "Former Members Purchase Price" referencing FedChex, LLC and referencing a date of December 4, 2002 and referencing Ty Bishop and an amount of $62,000; Plaintiffs Trial Exhibit 153, Document entitled "Promissory Note Balloon Payment" bearing a signature date of December 22, 2002 with Ty Bishop as payee in the amount of $62,000 and referencing FedChex, LLC; Plaintiffs Trial Exhibit 154, Document entitled "Former Members Purchase Price" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002, and referencing Brennon Ty Bishop and the amount of $2,000; Plaintiffs Trial Exhibit 155, Document entitled "Promissory Note FedChex Recovery Balloon Payment" referencing and bearing a signature by FedChex, LLC dated December 22, 2002 with Ty Bishop as payee in the amount of $2,000.
In connection with the FedChex Promissory Note, the Trustee received $4,908.27 as partial interest payments toward the Note. These payments were deposited into a trust account, and the FedChex Note has never been paid in full. Davis Deposition, January 29, 2008, at 256:12-257:18; Shulman Trial Declaration, 1J5. In regard to the FedChex Recovery Promissory Note, the evidence indicates that no payments were ever made on this Note. Daw's Deposition, January 29, 2008, at 260:23-261:1; Shulman Trial Declaration If 5.
A. Plaintiff Established That a Transfer of Property of the Estate Occurred
Here, as with the various 2002 capital contributions discussed above, when Bishop accepted a buyout of his interests in FedChex and FedChex Recovery, there was a diminishment of the debtor's estate property because the transfers deprived creditors from receiving distributions pursuant to Bishop's existing membership interests as of the petition date. Indeed, the definition of "transfer" is broad. 11 U.S.C. § 101(54)(D) ("[E]ach mode, direct or indirect, absolute or conditional, voluntary or involuntary, of disposing of or parting with-(i) property; or (ii) an interest in property"). In exchange for zeroing out Bishop's interests in FedChex and FedChex Recovery, Davis signed the Promissory Notes entitling Bishop to eventual payment in full of $64,000 plus interest.
The court must also determine what percentage of the FedChex Entities Bishop owned at the time of these purchases of his remaining interests. Plaintiff urges the court to find that Bishop held a 9.12% interest in FedChex as of December 3, 2002 and 2.64% in FedChex Recovery, because the October 9, 2002 capital contribution documents show those amounts. See Plaintiff's Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC, and referencing a date of October 9, 2002; Plaintiffs Trial Exhibit 145, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of October 9, 2002. And, because Bishop testified that his bankruptcy schedules were likely not accurate, since he did not review them thoroughly before filing, the unexplained reduction of ownership interests listed in the schedules (8.5% interest in FedChex, 1.8% interest in FedChex Recovery, see Plaintiff's Trial Exhibit 195 at 11), should be given no weight. Plaintiff is correct. The court does not consider Bishop's bankruptcy schedules to be credible evidence of Bishop's ownership amount in the FedChex Entities for the reasons cited by Plaintiff. See Trial Testimony of Brennon Ty Bishop, February 19, 2010, at 1:48-1:50 p.m.
Additionally, it appears there is an unaccounted for gap in the evidence before the court. Plaintiff's Trial Exhibits 138 through 145 demonstrate the changes in capital contributions made by the four owners throughout 2002. The adjustments to ownership percentages were made quarterly unless the members agreed to other time periods. See Plaintiff's Trial Exhibit 138, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of January 9, 2002; Plaintiff's Trial Exhibit 139, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of January 9, 2002; Plaintiff's Trial Exhibit 140, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of April 3, 2002; Plaintiff's Trial Exhibit 141, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of April 3, 2002; Plaintiff's Trial Exhibit 142, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of July 10, 2002; Plaintiff's Trial Exhibit 143, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of July 10, 2002; Plaintiff's Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of October 9, 2002; Plaintiff's Trial Exhibit 145, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of October 9, 2002. As of October 9, 2002 (third quarter 2002), Bishop's total contribution to FedChex is listed at $48,000, for 9.12% ownership; Davis' total contribution to FedChex is listed as $474,287.49, for 90.12% ownership. Plaintiff's Trial Exhibit 144, Document entitled "Change in Captial (sic) Contributions" referencing FedChex, LLC and referencing a date of October 9, 2002. Similarly, as of October 9, 2002 (third quarter 2002), Bishop's total contribution to FedChex Recovery is listed at $2,000, for 2.64% ownership; Davis' total contribution to FedChex Recovery is listed at $69,775.07, for 92.08% ownership. Plaintiff's Trial Exhibit 145, Document entitled "Change in Captial (sic) Contributions" referencing FedChex Recovery, LLC and referencing a date of October 9, 2002.
The next capital contribution documents in the record are Plaintiff's Trial Exhibits 150 and 151, both dated December 4, 2002 (fourth quarter 2002). Bishop's total current contribution to FedChex stayed the same from October to December: $48,000. But his ownership amount diminished to 8.14% because Davis's "current contribution" increased to $537,422.00, giving Davis 91.18% ownership. Plaintiff's Trial Exhibit 150, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex, LLC and referencing a date of December 4, 2002. This means that somewhere between October and December 2002, Davis contributed an additional, unexplained sum of $63,134.51.
Similarly, Bishop's total current contribution to FedChex Recovery stayed the same from October to December 2002: $2,000. But his ownership amount diminished to 2.19% because Davis's "current contribution" increased to $85,239.80, giving Davis 93.43% ownership. Plaintiffs Trial Exhibit 151, Document entitled "Completion of Section 8.1 Promissory Note Calculations, Former Member Interest and Capital Contribution" referencing FedChex Recovery, LLC and referencing a date of December 4, 2002. Thus, somewhere between October and December 2002, Davis contributed an additional, unexplained, $22,105.29.
The only prepetition documents evidencing Bishop's ownership percentages in the company are Plaintiff's Trial Exhibits 144 and 145, discussing the October 9, 2002 capital contribution meetings, which demonstrate that Bishop held 9.12% ownership in FedChex, and 2.64% ownership in FedChex Recovery. The court finds that these were the ownership percentages Bishop held on the petition date.
Additionally, it is clear that this property was estate property because the debtor possessed a legal interest in his ownership percentage in FedChex and FedChex Recovery as of the petition date. 11 U.S.C. § 541 (a). As a member, debtor was entitled to distributions from FedChex and FedChex Recovery. See, e.g., Plaintiffs Trial Exhibit 102, Operating Agreement for FedChex, LLC at ¶ 1.13; Plaintiff's Trial Exhibit 103, Operating Agreement for FedChex Recovery, LLC. at ¶ 1.13.
B. The Transfers Occurred Postpetition
In the court's view, there is no doubt that these transfers occurred postpetition because the meetings in which Bishop accepted a promissory note of $62,000 for his ownership in FedChex and a promissory note of $2,000 for his ownership in FedChex Recovery occurred on December 4, 2002, almost one month after the petition was filed. Regardless of whether Bishop considered himself a member of the FedChex Entities immediately before he filed for bankruptcy or not, the evidence shows that the Promissory Notes were executed by Davis on December 22, 2002. Plaintiff's Trial Exhibits 153, 155. In fact, Defendants do not appear to seriously argue that these transfers occurred prepetition. See Defendant's Proposed Findings of Fact and Conclusions of Law ¶¶ 307-318, 444-445.
C. The Adversary Proceeding Was Timely as to the Claims Under § 549
Chapter 7 Trustee Richard Marshack originally filed the complaint, including claims for these postpetition transfers, on August 19, 2003. The Promissory Notes were executed on December 22, 2002, thus the Trustee was within the two-year time frame prescribed by § 549(d).
D. The Transfers Occurred Without Court Approval
The record is clear that neither the Trustee nor the court authorized the postpetition buyout of Bishop's remaining interest in FedChex and FedChex Recovery. Davis Deposition, January 29, 2008, at 252:20-254:17, 259:16-21. These transfers were similarly not authorized by any provision of the Bankruptcy Code. The Bishops filed a voluntary Chapter 7 bankruptcy petition rather than a Chapter 11 petition, thus Bishop was not a debtor in possession operating within the ordinary course of his business. 11 U.S.C. § 1107; 5 Resnick & Sommer, Collier on Bankruptcy ¶ 549.04[3], at 549-16, citing, In re Southeast Hotel Properties Limited Partnership, 99 F.3d 151, 153 n. 3 (4th Cir. 1996); In re Lee, 35 B.R. 452 (Bankr. N.D.Ga. 1983).
Therefore, the court finds that Plaintiff has established a claim under 11 U.S.C. § 549 for these two postpetition transfers of Bishop's remaining interest in FedChex and FedChex Recovery by a preponderance of the evidence. Based on the record before the court, the most credible evidence of Bishop's existing interests as of the petition date exists in Plaintiffs Trial Exhibits 144 and 145, discussing the October 9, 2002 capital contribution meetings, which demonstrate that Bishop held 9.12% ownership in FedChex, and 2.64% ownership in FedChex Recovery.
V. FOURTH CLAIM FOR RELIEF: RECOVERY OF TRANSFERS PURSUANT TO 11 U.S.C. § 550 AND CUFTA
Plaintiff's remaining claims are merely administrative, and seek to first recover the avoided transfers discussed above and also disallow any claims filed by Defendants in this bankruptcy case. Pursuant to 11 U.S.C. § 550(a):
To the extent that a transfer is avoided under section 544, 545, 547, 548, 549, 553(b), or 724(a) of this title, the trustee may recover, for the benefit of the estate, the property transferred, or, if the court so orders, the value of such property, from-
(1) The initial transferee of such transfer or entity for whose benefit such transfer was made; or
(2) Any immediate or mediate transferee of such initial transfer. Additionally, under CUFTA, a creditor may obtain avoidance of a transfer or obligation to the extent necessary to satisfy the creditor's claim. California Civil Code,
§ 3439.07(a)(1).
Section 550 provides the same time restriction as section 549: a suit to recover the property transferred (or its value) is barred one year after avoidance of the transfer or when the case is closed or dismissed, whichever is earlier. 11 U.S.C. § 550(f). As discussed above, the Trustee's initial complaint was filed within one year of the transfers to be avoided, thus this claim is timely. As discussed in this memorandum decision, the following transfers are avoided under 11 U.S.C. § 549 and recoverable pursuant to 11 U.S.C. § 550, and are recoverable from Davis, Arnold, FedChex, and FedChex Recovery:
- FedChex's buyout of Bishop's remaining 9.12% interest pursuant to the Promissory Note executed December 22, 2002; and
- FedChex Recovery's buyout of Bishop's remaining 2.64% interest pursuant to the Promissory Note executed December 22, 2002.
Although the transfers are recoverable, the Bankruptcy Code does not provide guidelines by which the court is to determine whether the Plaintiff recovers the property itself, i.e., the ownership interests in FedChex and FedChex Recovery, or the monetary value of those interests. The intent of section 550 is "to restore the estate to the financial condition it would have enjoyed if the transfers] had not occurred." 5 Resnick and Sommer, Collier on Bankruptcy If 550.02[3], at 550-9-550-10, citing, In re Acequia, Inc., 34 F.3d at 811-812. However, "where the record lacks evidence of a transferred property's market value, or where there is conflicting evidence on that value, the return of the property transferred, rather than an award of its value, is the appropriate remedy in an avoidance action. Hopkins v. Idaho State University Credit Union (In re Herter), 464 B.R. 22, 31 (Bankr. D. Idaho 2011), citing, USAA Federal Savings Bank v. Thacker (In re Taylor), 599 F.3d 880, 891 (9th Cir. 2010). Ordinarily, the court "determines the value of the property to be the value at the time of the transfer, but has discretion on how to value the property so as to put the estate in its pretransfer position." In re Taylor, 599 F.3d at 890.
The analysis for Bishop's remaining interests in FedChex and FedChex Recovery is not clear. In consideration for his relinquishment of his remaining interest in FedChex and FedChex Recovery, Davis gave Bishop the FedChex Promissory Note ($62,000) and the FedChex Recovery Promissory Note ($2,000). To date, $4,908.27 has been received and placed in a trust account by the Trustee. These payments were interest-only payments on the FedChex Promissory Note and did not pay down any principal. Trial Declaration of Leonard Shulman at ¶ 5.
Here, there was little evidence in the record as to the market value of FedChex and FedChex Recovery in 2002. Indeed, Davis stated in his deposition that he did not know these values. See, e.g., Davis Deposition, January 29, 2008, at 243:12-247:21. Defendants offered the testimony of Michael Issa, in which Issa offered his opinion on the value of FedChex and FedChex Recovery, but these values were first offered as of October 13, 2004 (valuing FedChex at $1,100,000 to $1,300,000, and valuing FedChex Recovery at $500,000 to $1,000,000). See Trial Declaration of Michael Issa at 3:8-10. These values are not helpful for the Plaintiff's fourth claim for relief because the court should consider the value at the time of the transfer. In re Taylor, 599 F.3d at 890.
Therefore, the court finds it is most appropriate in these circumstances that the Plaintiff should recover the property transferred, rather than its value. Thus, Plaintiff shall recover for the benefit of the estate Bishop's 9.12% interest in FedChex and Bishop's 2.64% interest in FedChex Recovery.
VI. FIFTH CLAIM FOR RELIEF: DISALLOWANCE OF CLAIM PURSUANT TO 11 U.S.C. § 502(d)
Finally, Plaintiff seeks disallowance of claim(s) pursuant to 11 U.S.C. § 502(d), which states:
Notwithstanding subsections (a) and (b) of this section, the court shall disallow any claim of any entity from which property is recoverable under section 542, 543, 550, or 553 of this title or that is a transferee of a transfer avoidable under section 522(f), 522(h), 544, 545, 547, 548, 549, or 724(a) of this title, unless such entity or transferee has paid the amount, or turned over any such property, for which such entity or transferee is liable under section 522(i), 542, 543, 550, or 553 of this title.
Indeed, Section 502(d) requires the disallowance of a claim asserted in a bankruptcy case by a transferee of a voidable transfer provided the transferee has not paid the amount or turned over the property received. See 4 Resnick and Sommer, Collier on Bankruptcy U 502.05[1] at 502-55. Accordingly, to the extent FedChex, FedChex Recovery, or their existing members asserted a claim in the debtors' bankruptcy case, that claim is disallowed pursuant to 11 U.S.C. § 502(d) unless that party has turned over the property or amount for which it is liable.
VII. CONCLUSION
Based on the foregoing, Plaintiff is entitled to judgment on its Third, Fourth, and Fifth Claims for Relief to the extent of avoiding and recovering the post-petition transfers of Bishop's remaining ownership interests in FedChex and FedChex Recovery. Thus, on these claims, Plaintiff as the transferee of the bankruptcy estate is entitled to recover from Defendants for the benefit of the estate Bishop's 9.12% interest in FedChex and Bishop's 2.64% interest in FedChex Recovery.
Plaintiff is not entitled to judgment on its First, Second or Sixth Claims for Relief, and thus, may not recover anything on those claims from Defendants.
The parties are hereby ordered to meet and confer on, and jointly lodge, a proposed form of judgment within 30 days of the entry of this memorandum decision, consistent with the findings of fact and conclusions of law made in this decision. If the parties are unable to agree upon a single form of judgment, then they are ordered to lodge separate forms of judgment.
(a) A transfer made or obligation incurred by a debtor is fraudulent as to a creditor, whether the creditor's claim arose before or after the transfer was made or the obligation was incurred, if the debtor made the transfer or incurred the obligation as follows: . . .
(2) Without receiving a reasonably equivalent value in exchange for the transfer or obligation, and the debtor either:
(A) Was engaged or was about to engage in a business or a transaction for which the remaining assets of the debtor were unreasonably small in relation to the business or transaction.
(B) Intended to incur, or believed or reasonably should have believed that he or she would incur, debts beyond his or her ability to pay as they became due.
California Civil Code, § 3439.04(a)(2)(A) and (B).
- September 4, 2002:
$10,000 to FedChex by Bishop
- September 19, 2002:
$17,000 to FedChex by Bishop
- October 9, 2002:
$150,271.33 to FedChex by Davis
- October 9, 2002:
$15,708.28 to FedChex Recovery by Davis.