In re Interstate Cigar Co., Inc.

• Decision Date: 16 May 2002
• Docket Number: Adversary No. 890-8249-478.,Bankruptcy No. 890-81248-478.
• Citation: 278 B.R. 8
• Parties: In re INTERSTATE CIGAR CO., INC. and as successor by merger to L.S. Amster & Co., Inc., Debtor. Committee of Unsecured Creditors of Interstate Cigar Co., Inc. and as successor by merger to L.S. Amster & Co., Inc., Plaintiff, v. Interstate Distribution, Inc., and Congress Financial Corporation, Defendants.
• Court: U.S. Bankruptcy Court — Eastern District of New York

278 B.R. 8

In re INTERSTATE CIGAR CO., INC. and as successor by merger to L.S. Amster & Co., Inc., Debtor Committee of Unsecured Creditors of Interstate Cigar Co., Inc. and as successor by merger to L.S. Amster & Co., Inc., Plaintiff, v. Interstate Distribution, Inc., and Congress Financial Corporation, Defendants.

Bankruptcy No. 890-81248-478.

Adversary No. 890-8249-478.

United States Bankruptcy Court, E.D. New York.

May 16, 2002.

COPYRIGHT MATERIAL OMITTED

Pryor & Mandelup, LLP, by Randolph E. White, Westbury, New York, for the Committee of Unsecured Creditors.

Stewart, Occhipini & Makow, LLP, by Frank S. Occhipini, New York City, for Defendant Congress Financial Corporation.

Parker, Duryee, Rosoff & Haft, P.C., by William M. Rifkin, New York City, for Interstate Distribution, Inc.

Borges Donovan, LLC, by J. Ted Donovan, Syosset, NY, for the Committee of Unsecured Creditors.

MEMORANDUM DECISION

DOROTHY EISENBERG, Bankruptcy Judge.

This matter is before the Court pursuant to an adversary proceeding commenced on September 6, 1990 by the Committee of Unsecured Creditors of Interstate Cigar Co., Inc. (the "Debtor" or the "Plaintiff"), for the benefit of all creditors of the Debtor, against Interstate Distribution, Inc. ("IDI") and Congress Financial Corporation ("Congress" or the "Defendant"). A portion of the adversary proceeding, in which the Plaintiff sought to hold Congress liable was heard in State Court. A determination has been made in the New York State Appellate Court that found Congress's participation in the transaction at issue violated Article 6 of the Uniform Commercial Code ("Article 6" or the "Bulk Sales Law"). The Court is now called upon to determine the issues raised in the Plaintiff's Motion for Summary Judgment regarding what damages are to be awarded in favor of the Plaintiff. The following constitutes the Court's findings of fact and conclusions of law pursuant to Bankruptcy Rule 7052.

FACTS

On March 7, 1990, the Debtor had entered into an Asset Purchase Agreement ("Purchase Agreement") to sell substantially all of the assets of its Health and Beauty Aids division ("Transferred Assets") to IDI. The agreed-upon price for the purchase of the Transferred Assets was $29,154,924.00. (Plaintiff's Exh. F). Schedule 5.1 of the Purchase Agreement sets forth the values for the assets being purchased. The inventory was valued at $13,817,284 and the equipment was valued at $1,103,448. Section 5.1(b) of the Purchase Agreement allows IDI to select the inventory purchased and Section 2.8(b) of the Purchase Agreement sets forth the formula for valuing the inventory selected. The fixed assets were purchased at net book value. As set forth in Schedule 5.1(c) of the Purchase Agreement, the price equaled cost less accrued depreciation.

CIT/Group/Factoring Manufacturers Hanover ("CIT") had a pre-existing, valid, perfected security interest in the Transferred Assets at the time the parties entered into the Purchase Agreement, and was owed approximately $21,658,238.43 by the Debtor at the time of the closing.

As consideration for the Transferred Assets pursuant to the Purchase Agreement, IDI agreed to pay the following:

(i) Payment to CIT in the sum of $18,258,238.43, in exchange for which CIT released its lien on the Transferred Assets;

(ii) Assumption by IDI and payment by IDI of certain selected accounts payable in the amount of $7,383,217;

(iii) Execution by IDI of a promissory note dated March 7, 1990 in the principal sum of $1.8 million, payable to the Debtor in quarterly installments over five years at ten percent interest per annum;

(iv) Assumption by IDI of certain leases of real and personal property and contracts to which the Debtor was a party; and (v) Issuance of 3,000 shares of Series B convertible preferred stock of IDI to the Debtor.

As of the closing date, CIT, the Debtor's secured creditor, was owed approximately $21,658,238.43 and agreed to release its security interest and liens on the assets transferred in consideration of receipt of a cash payment of $18,250,238.43. The Debtor executed a promissory note to CIT for the balance of the monies due. To secure payment under the note, the Debtor granted CIT a security interest in the Debtor's stock in its subsidiary, Austin Drugs, not in any of the assets being transferred. Following the closing, IDI paid approximately $7 million to certain, but not all, creditors of the Debtor. The remaining creditors of the Debtor received nothing as a result of the sale.

Congress financed IDI's acquisition of the Transferred Assets by wiring $18,250,000 directly to CIT on behalf of IDI as consideration for CIT's release of its security interest in the Transferred Assets. As part of the loan documents, executed simultaneously with the Purchase Agreement, IDI executed both a security agreement (the "Security Agreement") and a second document entitled "Additional Representations, Covenants and Other Terms Supplemental to Accounts Financing Agreement" (the "Supplemental Security Agreement") in favor of Congress. By virtue of these documents, Congress acquired a security interest in the Transferred Assets owned by IDI.

There was no notice of the sale to the Debtor's creditors, and IDI knew of the non-compliance with Article 6 of the New York Uniform Commercial Code (the "Bulk Sales Law"). The Purchase Agreement waived compliance with the bulk sale statutes, and provided that the Debtor would indemnify IDI for any damages arising from litigation under the Bulk Sales Law. Paragraph 2(j) of the Supplemental Security Agreement provided that delivery of the Purchase Agreement was a condition precedent to Congress's financing the transfer between the Debtor and IDI. The Purchase Agreement was assigned to Congress pursuant to the Supplemental Security Agreement, and within the Supplemental Security Agreement IDI assigned to Congress all of its rights with respect to the parties' failure to comply with the bulk sale laws. By virtue of the documents entered into at the closing, Congress acquired a security interest in the Transferred Assets and had knowledge of the agreement between the Debtor and IDI not to comply with the notice requirements under the Bulk Sales Law.

Throughout the course of IDI's existence, Congress applied proceeds from the sale of the collateral to Congress's loan balance, and after liquidating substantially all of the collateral acquired from the Debtor, IDI went out of business in early 1991. By this time, IDI had paid to Congress all of the principal and a portion of the interest totaling at least $19,391,800 on its credit line pursuant to its loan agreement. After operations ceased, IDI auctioned off its remaining assets and paid the proceeds of the sale to Congress. As a result, Congress recovered all of the money it loaned to IDI, together with interest of approximately $1.2 million (exclusive of origination fees). The unsecured creditors of IDI remained unpaid, and likewise, the unsecured creditors of the Debtor were left with claims in excess of approximately $15 million, with no assets of the Debtor remaining to satisfy the claims.

On May 10, 1990, within several months after signing the Purchase Agreement, an involuntary petition under Chapter 7 of the Bankruptcy Code was filed against the Debtor, and an Order for relief was subsequently entered. The principals of the Debtor failed to participate in the case, and the liquidation of this Debtor's estate was placed into the hands of its Creditors' Committee and counsel to the Creditors' Committee.

The Committee originally commenced this adversary proceeding by filing a complaint on September 5, 1990 (the "Bulk Sale Action"). The complaint was amended on September 25, 1990. The complaint names Congress and IDI as defendants, and seeks relief under the following causes of action:

1. Against IDI and Congress:

A determination that the conveyance of the Transferred Assets to IDI, which was financed by Congress, was a bulk transfer subject to avoidance under Article 6, as made applicable by section 544 of the Bankruptcy Code..

2. Against IDI

A determination that the conveyance of the Transferred Assets to IDI violated N.Y. Debtor & Creditor law, as made applicable by section 544 of the Bankruptcy Code.

3. Against IDI

A determination that the conveyance of the Transferred Assets to IDI was a fraudulent transfer pursuant to section 548 of the Bankruptcy Code.

4. Against IDI

Damages for the transfer voided under sections 544 and 548 of the Bankruptcy Code.

5. Against Congress

Damages for the transfer voided under sections 544 and 548 of the Bankruptcy Code.

A parallel action was commenced in State Court with regard to the first cause of action regarding violation of the Bulk Sales Law. This Court agreed to abstain from hearing this portion of the Bulk Sale Action, but reserved jurisdiction to determine the appropriate remedy in the event liability was found against any of the Defendants as to the first cause of action. In the meantime, the action pending in State Court continued, and certain activity took place in this Court. Gerald Herman, Steven Herman, Susan Lefferts and Robert Botwinick (collectively, the "Hermans") entered into negotiations with the Committee over their claim against the Debtor. The Hermans are former minority shareholders and creditors of the Debtor. Collectively, the Hermans hold the largest pre-petition claim against the Debtor in the aggregate amount of approximately $8 million, inclusive of interest. The Hermans' claims arose from the settlement of state court litigation against the Debtor, two affiliates of the Debtor and the controlling shareholders of those corporations, the families of Michael and Sidney Spielfogel. The settlement of the state court litigation prior to trial took place over one year prior to the date of the Debtor's involuntary petition. The Committee and the Hermans agreed to compromise the Hermans' claim pursuant...