You can’t make this stuff up. The legal issues are pedestrian. But the facts behind those issues are incredible!
Litigation History
Here’s the boring stuff first.
On January 8, 2024, the U.S. Supreme Court denies certiorari in Mann v. LSQ Funding Group, L.C. (Case No. 23-425). Here’s the procedural background:
- the case begins with, (i) a Chapter 11 bankruptcy filing in the Eastern Wisconsin Bankruptcy Court (Case No. 20-22839), and (ii) Debtor’s filing of an avoidance action therein against LSQ Funding (Adv. P. No. 20-02062);
- then, the Chapter 11 case converts to Chapter 7, and the Chapter 7 Trustee steps into Debtors shoes—hiring Debtor’s counsel to prosecute the adversary proceeding;
- in the adversary, LSQ Funding moves for a summary judgment dismissing the avoidance action—which the Bankruptcy Court grants;
- Trustee appeals to the District Court, which affirms, and then to the Seventh Circuit Court of Appeals, which also affirms—and then to the U.S. Supreme Court, which denies cert.
Facts
Debtor has a ponzi-type scheme going.
Debtor’s purported business is a staffing agency—providing temporary staff to its clients.
–Factor Financing
LSQ Funding conducts an accounts receivable factoring business—providing lines of credit based on funds their clients expect to receive from customers.
LSQ Funding does business with Debtor for a while under a factoring agreement that works like this:
- Debtor issues invoices to its customers for temporary staffing services;
- then, Debtor submits those invoices to LSQ Funding for purchase—and upon acceptance, LSQ Funding advances Debtor approximately 85% of the face amount of the purchased invoices;
- once LSQ Funding receives payment from Debtor’s customer on a purchased invoice, LSQ Funding sends Debtor the face amount of the paid invoice, less the amounts owed to LSQ Funding under the agreement; and
- to secure such funding, Debtor grants LSQ Funding a first priority security interest in all Debtor’s personal property and proceeds, including all accounts.
–Relationship Sours & Replacement Lender
Then, the relationship between Debtor and LSQ Funding sours. And LSQ Funding sends a letter to Debtor demanding that Debtor pay $10,272,501 to LSQ Funding—that’s the outstanding balance Debtor owes to LSQ Funding under the factoring agreement.
Debtor, in response, finds a replacement factoring lender—Millennium Funding—and enters into a new factoring agreement with Millennium under terms that are similar to those with LSQ Funding (e.g., advancing 85% of the face value of invoices).
So, LSQ Funding sends a payoff letter to Millennium identifying the $10,272,501 payoff amount. Millenium accepts and agrees to the terms of the payoff letter, executes it, and returns it to LSQ Funding.
Shortly thereafter, LSQ Funding (i) receives a wire transfer from Millennium in the amount of $10,306,661.56, (ii) considers Debtor’s obligation to LSQ Funding paid in full, and (iii) promptly releases all its interests in Debtor’s invoices and other assets.
Debtor has no discretion or effect on the transaction between LSQ Funding and Millennium—nor does Debtor handle any of the money.
At all times, Debtor owes the same debt amount secured by the same assets to either LSQ Funding or Millenium—but never to both. Millennium simply replaces LSQ Funding as the creditor on the same and continuing debt.
–Discovering the Fraud
After sending the $10,306,661.56 to LSQ Funding, Millennium receives its first payment from one of Debtor’s customers on an invoice.
Millennium attempts to verify that the customer is legitimate—but is unable to do so.
Then, Millennium discovers that the account’s signatory, from which the payment came, is Debtor’s principal—and realizes that the payor is not a legitimate customer.
–Debtor’s Admissions
Then, Debtor’s principal admits to Millennium that Debtor has only $12 thousand in legitimate invoices.
The principal further admits that she;
- perpetuated the scheme by creating a fictional individual to verify the fraudulent invoices;
- used voice-altering technology to appear as this fictional individual; and
- made the fictional individual’s phone and fax number appear to belong to a purported customer, though they are in fact owned and controlled by Debtor’s principal.
Bankruptcy Filing
Shortly thereafter, Debtor files its voluntary Chapter 11 petition.
In the bankruptcy, the list of 20 largest unsecured creditors identifies only one creditor:
- Millennium.
Debtor’s creditor matrix includes only the following names:
- Debtor’s principal and spouse;
- Internal Revenue Service;
- Wisconsin Department of Revenue;
- Debtor’s lawn care company;
- 10 temporary workers owed wages; and
- Millennium.
Bankruptcy Machinations
Shortly after the bankruptcy filing:
- Debtor files the adversary proceeding against LSQ Funding to recover the amount paid by Millennium to LSQ Funding as an avoidable transfer;
- LSQ Funding files a motion to dismiss the bankruptcy; and
- the U.S. Trustee moves for an order, (i) directing the appointment of a Chapter 11 trustee, or (ii) alternatively, converting the case to Chapter 7.
On the eve of a hearing on the pending motions, Debtor consents, in a Stipulation with the U.S. Trustee, to conversion of the Chapter 11 case to Chapter 7.
The conversion happens and a Chapter 7 Trustee is appointed. The Chapter 7 Trustee promptly seeks and obtains Court permission to employ Debtor’s bankruptcy counsel to continue prosecuting the adversary proceeding against LSQ Funding.
LSQ Funding
LSQ Funding cries foul, contending that Millennium “forced Debtor” to file the Chapter 11 bankruptcy “for the sole purpose of facilitating its own recovery.”
Debtor and the Chapter 7 Trustee both allege that LSQ Funding conspired with Debtor to transfer worthless accounts to Millennium.
Here’s an example of such allegation:
- “Although both the Debtor and LSQ knew that the accounts were worthless, that the Debtor was engaged in a fraudulent scheme, and that the Debtor’s obligations to the new factor [Millennium] would only grow should the Debtor continue the scheme, they, in concert, cloaked the transaction in a veil of normalcy to ensure that LSQ was paid off.”
Conclusion
Every now and then a long-time bankruptcy practitioner is tempted to say, “I’ve seen it all.”
Then, something like this happens and the realization is, “No, I haven’t.”
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