By: Donald L Swanson
We hear a lot these days about bankruptcy venue abuse via corporate-entity manipulation shortly before bankruptcy filing.
Here’s the latest opinion on that subject—which allows Debtor’s choice of venue to stand, based on a newly-created entity:
- In re Amerifirst Financial, Inc., Case No. 23-11240 in the Delaware Bankruptcy Court (decided 10/25/2023; Doc. 348).
What follows is a summary of the facts, legal standards and rationale behind the In re Amerifirst opinion.
Facts
Amerifirst is an independent mortgage company, incorporated under the laws of Arizona, with its headquarters in Arizona and with employees and operations in various states.
RCP Credit, based in New York, is Amerifirst’s largest creditor at >$23 million, which amount is partially secured.
On May 15, 2023, Amerifirst enters into various agreements with RCP Credit, including a pledge by Amerifirst’s shareholders to RCP Credit of:
- all their Amerifirst common stock; and
- 40,000 shares of their Amerifirst preferred stock.
RCP Credit owns and controls Phoenix Holdings LLC, a Delaware entity. On June 28, 2023, Phoenix Holdings LLC forms Phoenix LLC—also as a Delaware entity.
On August 24, 2023, Amerifirst defaults on its obligations to RCP Credit. And so, RCP Credit transfers, under the pledge agreement terms, all Amerifirst’s common stock to Phoenix LLC.
On that same day, Phoenix Holdings LLC removes the directors and executives of Amerifirst and installs two new directors and a Chief Restructuring Officer.
Also on that same day:
- Phoenix LLC files a voluntary Chapter 11 Petition in the Delaware Bankruptcy Court;
- then, Amerifirst also files a Chapter 11 Petition in the same Delaware Bankruptcy Court, as an affiliate of Phoenix LLC; and
- the cases are jointly administered.
Amerifirst’s creditors are located across the country. For example:
- the list of top thirty creditors identifies seven creditors with Arizona addresses and the rest with addresses throughout the U.S.;
- the Schedule D identifies twenty-seven secured creditors with addresses throughout the U.S.; and
- the Schedule E/F identifies two-hundred forty unsecured creditors with addresses throughout the U.S.
Progress on the bankruptcy proceedings, since the Petition Date, includes:
- approval of typical first day motions; and
- a proposed combined plan and disclosure statement are on file.
Motion to Transfer Venue
On September 19, 2023, the U.S. Trustee moves to transfer the venue of Phoenix LLC and Amerifirst bankruptcies from Delaware to Arizona.
Such motion is joined by the Official Creditors Committee and by a former Amerifirst shareholder.
Legal Standards
–§ 1408
Under 28 U.S.C. § 1408(1)&(2):
- venue is proper in debtor’s “domicile, residence, principal place of business in the United States, or principal assets in the United States”; and
- any affiliate of a debtor may file in the same district as the debtor.
Since Phoenix LLC is formed under the laws of Delaware, venue for its case in this district is proper under 28 U.S.C. § 1408(1).
And likewise, since Amerifirst is an affiliate of Phoenix LLC, venue for Amerifirst in Delaware is also proper.
–Discretion & Burden
The Bankruptcy Court has broad discretion on transferring venue. But courts lend “great weight” to a debtor’s choice of venue when that venue is proper.
The party seeking a venue transfer bears the burden of proof by a preponderance of the evidence.
–§ 1412
28 U.S.C. § 1412 empowers the Court to transfer a bankruptcy case to another district, “in the interest of justice or for the convenience of parties.”
Analysis
Movants ask the Court to transfer venue under the “interest of justice” prong of § 1412. Factors to consider for transferring venue in the interest of justice include, whether:
- transfer promotes the economic and efficient administration of the bankruptcy estate;
- transfer facilitates judicial efficiency;
- the parties will receive a fair trial in either venue;
- either forum has an interest in deciding the controversy;
- transfer would affect enforceability of any judgment rendered; and
- the plaintiff’s original choice of forum should be disturbed?
Bankruptcy courts:
- give the most significance to “the economic and efficient administration of the estate” factor; and
- afford great weight to a debtor’s selection of a proper venue.
But movants argue that Debtors’ choice to file in Delaware should be given no deference:
- because Debtors “manufactured venue” in Delaware by incorporating Phoenix LLC in Delaware less than two months before filing bankruptcy; and
- likening the Phoenix LLC and Amerifirst cases to In re Patriot Coal and In re LTL Management LLC.
In re Patriot Coal
In Patriot Coal, debtor did mining and coal preparation with its principal place of business in St. Louis, Missouri, and with operations stretching across West Virginia and Kentucky.
Additionally, Patriot maintained non-mining interests Pennsylvania, Missouri, Ohio, Indiana, and Illinois but conducted no business in New York.
Patriot Coal created two new business entities in New York on June 14, 2012. And on July 9, 2012, those two new entities filed voluntary Chapter 11 petitions in the SDNY Bankruptcy Court.
Shortly thereafter, Patriot Coal filed a voluntary petition in the same SDNY Bankruptcy Court, based on the filings of its two affiliates.
In granting a venue transfer request, the Bankruptcy Court emphasized:
- while Patriot Coal’s actions do not constitute a bad faith filing, the creation of venue on the eve of bankruptcy is a factor when considering the interests of justice;
- such eve of bankruptcy actions would “all but render the venue statute meaningless”; and
- there was no evidence demonstrating that venue in New York served the convenience of the parties.
In re LTL
In LTL, debtor’s predecessor “underwent a Texas divisive merger, resulting in the formation of the Debtor.” The newly formed entity then converted its state of incorporation to North Carolina and filed a voluntary petition in the Western District of North Carolina.
In transferring venue from North Carolina to New Jersey, the Bankruptcy Court:
- emphasized Debtor’s stipulation that venue was manufactured to obtain favorable dismissal standards;
- declared that Debtor elevated the strict language of § 1408 over its intended purpose; and
- found the “more dispositive factor” to be that New Jersey remains “a more appropriate venue for the administration of the estate.”
Distinguishing Patriot Coal and LTL
Amerifirst and Phoenix LLC are distinguishable from Patriot Coal and LTL:
- in both Patriot Coal and LTL, debtors themselves formed or reincorporated entities into their desired venue; and
- the courts in those cases were clear—that such obvious venue manipulation attempts:
- placed the form of the venue statute over the substance; and
- undermined the purpose and integrity of the bankruptcy system.
In the Amerifirst and Phoenix LLC cases, by contrast:
- a non-debtor entity organized under Delaware law (Phoenix Holdings) forms Phoenix LLC under Delaware law for the purpose of holding Amerifirst stock after exercising rights under the stock pledge;
- RCP Credit forming Delaware entities to hold acquired stock is not the brazen manipulation of venue seen in Patriot Coal and LTL; and
- it’s unsurprising that a Delaware entity would form a subsidiary entity in the same state.
Accordingly, the Bankruptcy Court declares in Amerifirst and Phoenix LLC: “I cannot conclude that the Debtors ‘manufactured’ venue in this Court.”
Applying the Factors
Here’s how the “interest of justice” factors identified above apply in the present case.
–Deference to Debtor’s Venue Choice
Movants argue that Debtors’ choice of venue should be granted no deference.
Their theory is that RCP Credit is the one who selected the venue for these cases—not the Debtors. This theory is unfounded because:
- Amerifirst’s Chief Restructuring Officer (with experience in numerous similar engagements) testified that he supported the Delaware venue, based on Phoenix LLC’s incorporation in Delaware and on the spread of Amerifirst’s operations and creditors throughout the U.S.;
- there is nothing unusual or surprising about filing a bankruptcy like this in Delaware;
- the Amerifirst board independently determined that Delaware is the appropriate venue; and
- there is no evidence that the Chief Restructuring Officer or the directors were mere instrumentalities and entirely under the control of RCP Credit.
–Promoting Efficient Administration
Promoting the economic and efficient administration of the bankruptcy estate is a neutral factor in this case—or it slightly favors denial of the transfer request.
Delaware and Arizona courts are equally capable of presiding over these cases in an efficient manner. But some measure of increased cost would arise from transferring the case—e.g., professionals:
- might need to be replaced or associate with and integrate Arizona counsel; and
- would need to assist the new Court in getting acquainted with the cases.
–Judicial Efficiency
Delaware and Arizona courts are equally capable of presiding over these cases in an efficient manner.
And neither court is so overburdened that administering these cases would impose any burden or affect the efficient operation of the courts.
–Fair Trial
The parties will be treated fairly in either venue. This factor is neutral.
–Interest in Deciding the Controversy
While both venues have an interest in deciding the controversies in these cases, this factor slightly favors transfer because:
- Debtors historically operated from Arizona, albeit with matters spread around multiple states; and
- several properties remain to be sold in Arizona; but
- Phoenix LLC’s domicile is in Delaware.
–Enforceability of a Judgment
There is no issue on enforceability of any judgments rendered by either Court. This factor is neutral.
Court’s Decision
Based on consideration of all factors, with the most important one being the economic and efficient administration of these cases, the Bankruptcy Court concludes:
- Movants have not sustained their burden to demonstrate by a preponderance of the evidence that the venue of these cases should be transferred to Arizona; and
- Accordingly, the venue transfer motion is denied.
Conclusion
In re Amerifirst is a helpful addition to the law on propriety of generating bankruptcy venue by creating a new affiliate shortly before filing bankruptcy.
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