Cox v. Nostaw, Inc. (In re Central Illinois Energy Cooperative)

Citation: 521 B.R. 868Docket: Bankruptcy No. 09-81409; Adversary No. 09-8143

Court: United States Bankruptcy Court, C.D. Illinois; November 20, 2014; Us Bankruptcy; United States Bankruptcy Court

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A. Clay Cox, serving as Trustee for the Chapter 7 estate of Central Illinois Energy Cooperative (DEBTOR), has initiated a legal action against Nostaw, Inc. (NOSTAW) to recover payments made by the DEBTOR, which are claimed to be fraudulent transfers. The DEBTOR, established in October 2001 for ethanol production, faced significant financial troubles by June 2007, failing to repay a $2 million loan and owing NOSTAW over $2.4 million for construction work on an administration building and grain handling facility. In an attempt to mitigate its financial issues, the DEBTOR sold most of its assets to Green Lion Bio-Fuels, LLC, for $7.75 million, with Green Lion assuming certain liabilities, including debts owed to NOSTAW. Despite this sale, the DEBTOR maintained responsibility for completing the construction projects. NOSTAW, not a direct party to the asset sale, later agreed to a payment arrangement that included a combination of cash payments and a secured promissory note from Green Lion for the balance of its contract.

On the same date as the Green Lion Recapitalization Agreement, Green Lion agreed to transfer assets purchased from the DEBTOR to CIE for $7,750,000 plus expenses, with a clause requiring the DEBTOR to repurchase the assets if the recapitalization was not completed by November 1, 2007. NOSTAW, while not a party to the agreement, acknowledged CIE's rights and the DEBTOR's obligations through a written consent, agreeing to uphold these in any foreclosure actions against Green Lion. At the closing, NOSTAW received $1,236,857.33. A promissory note from Green Lion to NOSTAW, due October 15, 2007, stipulated best efforts for payment by August 15, 2007; however, only a partial payment occurred on August 24, 2007. Following payment demands from NOSTAW and Green Lion's inability to fulfill its obligations, the DEBTOR agreed to pay NOSTAW the remaining $988,859.83, with an initial payment of $300,000 and subsequent payments as work progressed. The DEBTOR secured a $1,000,000 loan from Whitebox Advisors to cover these payments, making three payments of $300,000 each in October and November 2007.

In November 2007, disputes led Lurgi, Inc. to halt work on the ethanol plant, prompting CIE to file for Chapter 11 bankruptcy on December 13, 2007. Following failed attempts for debtor-in-possession financing, CIE arranged a section 363 asset sale to New CIE Energy Opeo, LLC, which was approved by the Court on April 24, 2008. The case transitioned to Chapter 7 on August 4, 2008. 

On May 1, 2009, an involuntary Chapter 11 petition was filed against the DEBTOR, which did not respond, leading to an order for relief on June 18, 2009, and a conversion to Chapter 7 on July 16, 2009. The TRUSTEE initiated an adversary proceeding seeking to recover three payments totaling $900,000 made to NOSTAW in late 2007, alleging these as actual or constructively fraudulent transfers under both federal and Illinois fraudulent transfer laws. The claims are articulated in three counts: Count I under section 548(a) for actual and constructive fraud; Count II under the Illinois Uniform Fraudulent Transfer Act for actual and constructive fraud; and Count III for constructive fraud under state law, with parallels drawn between state and federal interpretations of fraudulent transfer statutes.

The TRUSTEE's motion requests partial summary judgment concerning allegations of constructive fraud in Counts I, II, and III, specifically related to fraudulent transfers under section 548(a)(1)(B) of the Bankruptcy Code and the IUFTA. NOSTAW has filed a cross-motion for summary judgment on all counts. Central to the constructive fraud claims is whether the DEBTOR received reasonably equivalent value for payments made to NOSTAW. The TRUSTEE contends that since the DEBTOR sold its assets to Green Lion, which assumed the obligation to NOSTAW, the DEBTOR did not receive value for settling Green Lion's obligation. Additionally, the TRUSTEE argues that the Green Lion Payment Agreement constituted a novation, releasing the DEBTOR from its prior obligations, and that NOSTAW has not demonstrated the DEBTOR received any identifiable indirect benefit from the payments.

NOSTAW disputes the existence of a novation and claims that even if it occurred in June 2007, the DEBTOR re-obligated itself to NOSTAW through the Second Agreement before making the payments in question. Under Federal Rule of Civil Procedure 56(c), summary judgment is appropriate if there are no genuine material facts in dispute and the moving party is entitled to judgment as a matter of law. The burden shifts to the nonmoving party to demonstrate a genuine issue for trial once the moving party establishes its case. A material factual dispute must significantly affect the outcome of the case under the applicable law.

The analysis indicates that resolution of the constructive fraud claims hinges on whether the DEBTOR was still obligated to NOSTAW for the three payments of $300,000 made in late 2007. Statutory law defines 'value' to include settling a present or antecedent debt, meaning that a debtor’s payment of its own debt cannot be constructively fraudulent. Relevant case law supports this position, indicating that discharging contractual obligations does not violate constructive fraud statutes, even if such payments contribute to insolvency.

A debtor's payment cannot be both preferential and constructively fraudulent. Since the payments to NOSTAW occurred before the preference period defined by Bankruptcy Code section 547(b)(4), the Trustee is limited to pursuing fraudulent transfer theories. To succeed in these claims, the Trustee must demonstrate that the debtor was not contractually liable to NOSTAW at the time of the payments. The Green Lion Payment Agreement from June 2007 is central to this issue, with the Trustee arguing it novated the contract, releasing the debtor from liability, while NOSTAW contends it merely added Green Lion as an additional liable party. The agreement's ambiguity regarding the debtor's liability does not need resolution, as the debtor later re-obligated itself through the Second Agreement dated September 28, 2007, agreeing to pay NOSTAW $988,859.83, evidenced by three subsequent payments. The Trustee argues this Second Agreement was made without consideration, as it covered pre-existing work and therefore seeks to avoid it as a fraudulent transfer under the IUFTA. However, the Trustee has not filed a complaint to avoid the Second Agreement, and the time for doing so has expired, rendering his claims ineffective. NOSTAW disputes the fraudulent nature of the Second Agreement, but this dispute is immaterial given the time bar. The court concludes that the Trustee's attempts to challenge the Second Agreement are without merit, and it does not need to consider whether avoiding the agreement would retroactively affect the payments made, as avoidance does not imply that the payments lacked value.

Value for constructive fraud analysis is assessed at the time of the transfer, as established in case law. The DEBTOR agreed to pay NOSTAW $988,859.83 under the Second Agreement, which is not subject to avoidance. The DEBTOR made three payments of $300,000 each to NOSTAW, discharging $900,000 of the debt, which qualifies as 'value' in this context. NOSTAW is entitled to judgment on the TRUSTEE's constructive fraud claims. The TRUSTEE conceded no evidence for actual fraud claims in Counts I and II, leading to a judgment in favor of NOSTAW on these claims due to abandonment of the necessary elements. The TRUSTEE previously sought recovery of a $50,000 payment to NOSTAW, which he has since dropped, acknowledging the DEBTOR's contractual obligation. Under Illinois law, a novation requires the creditor's consent to release the original debtor, which was not established here. The DEBTOR's loan was initiated to ensure project completion, driven by a prior lender's refusal to fund further due to financial uncertainties. The time to commence avoidance actions expired on June 18, 2011. The statutory avoidance power aims to protect legitimate creditors from undeserving claims. The TRUSTEE bore the burden to show intent to defraud other creditors through payments to NOSTAW. Without evidence of a Ponzi scheme or insider transfer, the DEBTOR's payment, even if preferential, does not constitute actual fraud. The loan and payments to NOSTAW merely replaced one creditor with another, undertaken as a last effort to salvage the project.