EDC, Inc., Matter of

• Decision Date: 01 May 1991
• Docket Number: No. 89-2431,89-2431
• Citation: 930 F.2d 1275
• Parties: , RICO Bus.Disp.Guide 7752 In the Matter of EDC, INCORPORATED, et al., Debtors-Appellants.
• Court: U.S. Court of Appeals — Seventh Circuit

Page 1275

930 F.2d 1275

59 USLW 2758, RICO Bus.Disp.Guide 7752

In the Matter of EDC, INCORPORATED, et al., Debtors-Appellants.

No. 89-2431.

United States Court of Appeals, Seventh Circuit.

Argued April 1, 1991.

Decided May 1, 1991.

Philip S. Beck, Chaim T. Kiffel, David J. Zott, Donald G. Kempf, Jr., David M. Elston, Kirkland & Ellis, Robert W. Booth, Chicago, Ill., for International Harvester Co.

Ann M. Hamilton, Philip S. Beck, Chaim T. Kiffel, Donald G. Kempf, Jr., David M. Elston, Kirkland & Ellis, Chicago, Ill., for Navistar Intern. Transp. Corp.

Richard N. Golding, Lord, Bissell & Brook, Constantine L. Trela, Howard J. Trienens, Thomas W. Merrill, Jonathan K. Baum, Sidley & Austin, John P. Crowley, Matthew F. Kennelly, Cotsirilos, Stephenson, Tighe & Streicker, Lee A. Watson, Steven L. Bashwiner, C. Elizabeth McCarty, Mary Ellen Hennessy, Helen C. Lucas, Katten, Muchin & Zavis, Malcolm M. Gaynor, David P. Leibowitz, Schwartz, Cooper, Kolb & Gaynor, Thomas H. Geoghegan, Leon M. Despres, Despres, Schwartz & Geoghegan, Lawrence Fisher, Paul Homer, Friedman & Koven, Chicago, Ill., for debtors-appellants.

Leonard A. Grossman, Dept. of Labor, Chicago, Ill., Carol Connor Flowe, Israel Goldowitz, Melinda Tell Lazare, Pension Ben. Guar. Corp., Legal Dept., George R. Clark, William O. Bittman, Reed, Smith, Shaw & McClay, Washington, D.C., for Pension Ben. Guar. Corp. amicus curiae.

Before POSNER, FLAUM, and KANNE, Circuit Judges.

POSNER, Circuit Judge.

Debtors in possession, representing the unsecured creditors of a group of bankrupt affiliated corporations (collectively, EDC), charge the International Harvester Company (now called Navistar) with mail and wire fraud, 18 U.S.C. Secs. 1341 and 1343, as predicate offenses under the Racketeer Influenced and Corrupt Organizations Act (RICO), 18 U.S.C. Secs. 1962, 1964. Damages in excess of $100 million before trebling are sought. The plaintiffs also seek to subordinate or extinguish tens of millions of dollars' worth of Harvester's claims against the bankrupt estate. After a bench trial, the district judge gave judgment for Harvester on all of EDC's claims.

We must of course construe the facts as favorably to the district judge's findings as the record permits, and when this is done the case does not reveal fraud. The story, much abbreviated, begins in the middle 1970s. International Harvester, then a major manufacturer of combines and other heavy farm equipment, as well as of trucks (its present business), owned, and was the principal customer of, a fully integrated steel manufacturer called Wisconsin Steel Company. Wisconsin Steel was not highly profitable, and Harvester decided to get rid of it. It wanted to divest itself of Wisconsin Steel's liabilities as well, which were liabilities of Harvester because Wisconsin Steel was not a subsidiary of Harvester but merely a division. Foremost among these liabilities were more than $86 million in vested pension benefits of Wisconsin Steel's workers. One choice for Harvester was simply to liquidate Wisconsin Steel, but then it would be stuck with the pension liability. Another choice was to find a buyer for the division. After discussions with the staff of the Pension Benefit Guaranty Corporation, which pursuant to the Employee Retirement Income Security Act (ERISA) guarantees vested pension rights 29 U.S.C. Secs. 1321 et seq.; Nachman Corp. v. Pension Benefit Guaranty Corp., 446 U.S. 359, 361 n. 1, 100 S.Ct. 1723, 1726 n. 1, 64 L.Ed.2d 354 (1980), Harvester decided that if it sold the division and the buyer survived for at least five years it probably would not be liable for any pension benefits even if the buyer could not pay them. This expectation made sale preferable to liquidation, or to a massive capital infusion designed to make the division profitable; so Harvester set about to find a buyer. At first it had no success at all. But eventually--after a sale to a large steel company fell through at the last minute--it chanced upon Envirodyne Industries, a small but rapidly growing company specializing in pollution-control technology. Envirodyne had no experience in the steel industry, and a net worth of only $4 million, yet it offered to buy Wisconsin Steel for $65 million plus assumption of all of Wisconsin Steel's liabilities, which amounted to some $100 million, including the pension liability. The deal closed in 1977.

How was it possible for a minnow to swallow a whale like this? By a leveraged buyout, a device Envirodyne had exploited successfully in the past. Envirodyne pledged the assets of Wisconsin Steel to the lenders who advanced it the money necessary for the purchase. A major lender was Harvester itself, which accepted a note for $50 million rather than insisting on receiving the full $65 million purchase price in cash. Everyone recognized that the purchase was a gamble. Envirodyne was small and had no experience in the steel industry. Wisconsin Steel had been on the block for months without attracting a buyer; it needed a massive injection of new capital to have a hope of prospering; it had huge liabilities. Harvester, to minimize the risk to itself that Envirodyne would default on the $50 million note, took back a security interest in Wisconsin Steel's coal and iron mines, its most valuable properties. Envirodyne, to minimize its own risk, created several new subsidiaries (which for simplicity's sake we are treating as one, EDC) to own the assets--and liabilities--that it was acquiring from Harvester. Envirodyne hoped that the principle of limited liability would shield it from liability should it fail to make a go of Wisconsin Steel. It failed.

At first, it is true, things went well. New management brought in by EDC cut costs, increased sales, hence raised profits. But from the start, management realized that it could not make a success of the acquisition without a substantial investment in rehabilitating Wisconsin Steel's aging plant. It needed $80 million. At first it sought it in the private capital market, but late in 1977 the federal government announced a program of loan guarantees for troubled steel companies, to be administered by the Commerce Department's Economic Development Administration. Because the interest rate on such a loan would be lower than could be obtained in the private market, and because EDC received encouragement from officials of the Economic Development Administration, the company bent all its efforts to obtaining the guarantee. It did so--but too late. By the time the loan closed in 1979, the steel plant, notwithstanding additional loans from Harvester totaling $50 million, had deteriorated irrevocably. The economic downturn that began in 1979 did not help. Nor a protracted strike at Harvester, EDC's biggest customer. In 1980 Harvester and other major creditors called their loans, precipitating the bankruptcy out of which this appeal arises. Envirodyne itself recovered quickly from the disaster, the attempt to cordon off EDC's liabilities having worked--at least thus far, for there still are suits pending against Envirodyne by creditors of EDC, seeking to pierce the corporate veil--and went on to become a Fortune 500 company. The Pension Benefit Guaranty Corporation sued Harvester to make good on the pension liability on which EDC had defaulted when it went broke, and won a judgment before the same district judge. That judgment is not ripe for appeal, however, because the exact amount of Harvester's liability has not yet been fixed.

The plaintiffs' theory of fraud is intricate. It is that Harvester conspired with Envirodyne to create a stillborn entity EDC, which would, however--artificially maintained by cash infusions from Harvester--emit signs of life for long enough to dissuade the Pension Benefit Guaranty Corporation from reimposing on Harvester the liability for vested pension benefits that EDC assumed as part of the transaction creating it. The primary victim of such a scheme would be, of course, the Pension Benefit Guaranty Corporation itself, which is not one of the plaintiffs in the present suit or represented by them. The plaintiffs represent individuals and firms that extended credit to EDC beginning with its formation in 1977. They include workers who after they ceased being employees of Harvester and became employees of EDC accrued pension rights not fully guaranteed by the Pension Benefit Guaranty Corporation. The plaintiffs claim that EDC's creditors were fooled by the appearance of life that Harvester and Envirodyne imparted to the new company in order to fool the Pension Benefit Guaranty Corporation. What, you may ask, had Envirodyne to gain from the fraud, a fraud that envisaged the total collapse of EDC? The plaintiffs' answer is that Envirodyne received from Harvester some financial benefits, over and above the assets placed in EDC, as part of the transaction and that it had little risk, because EDC was established as a separate subsidiary so that creditors of EDC could not reach the assets of its parent, Envirodyne. The risk was slight rather than zero because venturesome creditors might try (as in fact they have done) to pierce the corporate veil and reach Envirodyne's assets--and might even succeed.

We agree that the creditors have standing to complain about the alleged fraud even though they were not its primary victims--the Pension Benefit Guaranty Corporation was. That is not because this is a case of transferred intent. It is not. If you aim at X and miss and hit Y instead, you are liable in battery to Y. Alteiri v. Colasso, 168 Conn. 329, 362 A.2d 798 (1975); Manning v. Grimsley, 643 F.2d 20, 22 (1st Cir.1981); Prosser and Keeton on the Law of Torts Sec. 8, at pp. 37-39 (W. Page Keeton et al. eds., 5th ed. 1984). That is the doctrine of transferred intent, and it is not limited to battery cases; for a famous example from defamation, see Jones v. E. Hulton & Co., [1909] K.B. 444, aff'd [1910] A.C. 20 (H.L.). But it is not...