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Second Circuit to Decide on Trading of Bankruptcy Claims

The Second Circuit Court of Appeals recently heard arguments in a case, Longacre Master Fund, Ltd. v. ATS Automation Tooling Systems Inc. that could have significant implications on the trading of bankruptcy claims.  The court while resolving the case based on a straightforward analysis of New York contract law, may use the opportunity to consider the controversial claims trading case of Enron v. Springfield Associates decided several years ago by the district court for the Southern District of New York.

In Enron, the district court had held that a claim objection under Section 502(d) of the Bankruptcy Code based on the receipt of a voidable preference payment was valid only against the recipient of such payment, and could not be used to object to such claim in the hands of a good faith purchaser.

In the current case, Longacre bought a claim from ATS in the Delphi bankruptcy case.  It is a routine that millions of dollars of trade claims are bought and sold in large Chapter 11 bankruptcy cases.  Usually, specialized firms buy claims at a discount and hold them for the period a repayment plan gets confirmed and distributions are accordingly made.  The sellers of these claims are often small or medium sized businesses that need to cash the claim quickly.  The buyers often require the seller to take back the claim in case of any objection from the debtor.  In this case also there was such a provision in the Agreement between Longacre and ATS that, a refund of the purchase price be made to Longcare, in case the claim was objected to and not fully resolved by ATS within six months, or a reasonable time thereafter.

Delphi, the debtor objected to the ATS claim under Section 502(d) of the Bankruptcy Code on the basis that ATS had received potentially voidable preference payments prior to the bankruptcy case.  Longacre demanded that ATS take back the claim because the issue was not resolved.  Longacre sued to enforce the agreement on ATS’s refusal and the claim was finally resolved eight months later.

The lower court judge did not rule on whether ATS had met its requirement to resolve the claim within six month period.  The judge examined the merits of the claim objection and based its ruling in terms with Enron v. Springfield Associates, and held that the objection lacked merit and therefore ATS should not have been required to repurchase the claim.

On appeal, Longacre contends that the district court should have applied the contract as written in reaching its decision instead of going into the validity of the objection.  ATS argues that the district court was correct to determine if any prejudice actually occurred to Longacre as a result of the objection.

The analysis of Enron was rejected by a recent decision in a Delaware bankruptcy case.  Now, it is up to the Second Circuit to weigh the merits of the Enron decision.  A ruling by the Second Circuit could significantly change the landscape for the trading of claims in bankruptcy cases.

Inside Second Circuit to Decide on Trading of Bankruptcy Claims