Edward M. Johnson and Associates, Inc., In re

• Decision Date: 19 July 1988
• Docket Number: No. 86-6253,86-6253
• Citation: 845 F.2d 1395
• Parties: In re EDWARD M. JOHNSON AND ASSOCIATES, INC., Debtor. John P. NEWTON, Jr., Trustee, Plaintiff-Appellant, v. Edward M. JOHNSON, Defendant-Appellee.
• Court: U.S. Court of Appeals — Sixth Circuit

Page 1395

845 F.2d 1395

In re EDWARD M. JOHNSON AND ASSOCIATES, INC., Debtor John P. NEWTON, Jr., Trustee, Plaintiff-Appellant, v. Edward M. JOHNSON, Defendant-Appellee.

No. 86-6253.

United States Court of Appeals Sixth Circuit.

Argued Oct. 22, 1987.

Decided May 4, 1988.

Rehearing Denied July 19, 1988.

W. Morris Kizer, argued, Knoxville, Tenn., for plaintiff-appellant.

John W. Eilers, Jr., argued, Cincinnati, Ohio, for defendant-appellee.

Before LIVELY, and WELLFORD, Circuit Judges, and BROWN, Senior Circuit Judge.

BAILEY BROWN, Senior Circuit Judge.

Plaintiff-Appellant John P. Newton, Jr., ¹ Trustee for debtor Edward M. Johnson & Associates, Inc. ("J & A"), appeals the order of the district court reducing the amount awarded to the Trustee by the bankruptcy court in a proceeding brought by the Trustee against Edward M. Johnson ("Johnson") under a contract in which Johnson, shortly prior to bankruptcy, sold all of the stock of J & A to Omni Communications, Inc. ("Omni"). The bankruptcy court held that J & A (and hence the Trustee) was an intended third party beneficiary to a provision in the stock sale contract whereby, the bankruptcy court determined, Johnson was bound to satisfy certain debt obligations of J & A. The district court held that, on the contrary, J & A was not an intended third party beneficiary. The bankruptcy court also held that the Trustee was entitled to avoid, as fraudulent transfers, the payment of certain funds of J & A to Johnson and the forgiveness of certain obligations of Johnson to J & A. The district court held that, while there had been fraudulent transfers, Johnson was entitled to an additional credit for earned and unpaid salary as an officer of J & A and, accordingly, so reduced the judgment. We conclude that the bankruptcy court was correct in holding that J & A was an intended third party beneficiary and therefore we reverse the district court's decision in that respect. However, we remand this aspect of the case for full adjudication by the bankruptcy court of Johnson's alleged failure of consideration defenses. With regard to the district court's holding that Johnson was entitled to an additional credit for unpaid salary, and thereby reducing the amount of the fraudulent transfers, we determine that the district court improperly made a factual finding when the bankruptcy court had made no finding and that the district court should have remanded for such a finding.

I.

As of March, 1984, defendant, Johnson, was the president and sole shareholder of debtor, J & A. Johnson and Omni entered into a stock purchase agreement dated March 8, 1984, under which Omni agreed to purchase all of Johnson's stock in J & A. Johnson agreed that certain liabilities of J & A were paid in full through March 1, 1984. Omni agreed to pay Johnson, inter alia, a $200,000 cash down payment and $94,766.53 to be paid from J & A's bank accounts, and also agreed that Johnson would be released from liability on a loan from J & A. As part of the total payment to be made of $1,000,000, Johnson also was to receive percentages of the amounts collected on certain accounts owed to J & A.

An involuntary petition was commenced against J & A under Chapter 11 on May 15, 1984, and the petition was sustained. The present case is an adversarial action commenced on March 29, 1985, by the Trustee against Johnson for recovery under two theories. First, as the holder of J & A's contract rights under 11 U.S.C. Sec. 541(a)(1), the Trustee alleged that J & A was a third party beneficiary of the stock purchase agreement, under which Johnson was obligated to pay $81,229.81 in debts owed by J & A to certain creditors. Second, pursuant to 11 U.S.C. Sec. 548(a)(2), the Trustee sought to avoid allegedly fraudulent transfers made under the stock sale agreement in the amount of $154,350.80 for forgiveness of J & A's loan to Johnson and transfer of cash to Johnson from J & A's bank accounts.

The bankruptcy court held that J & A was an intended third party beneficiary under paragraph six of the stock purchase agreement, which provides:

EMJ [Johnson] covenants and agrees that all liabilities created by, or for which J & A is obligated, are paid in full through March 1, 1984, with the exception of pending litigation (except that mentioned in paragraph 3 above) and with the exception of disputed accounts payable ("disputed accounts payable" is one for which there is a legal basis to question J & A liability) which shall be addressed by EMJ and Omni with particular creditors on an individual basis. It is the intent of the parties that EMJ will attempt to negotiate, in cooperation with Omni, favorable settlements with creditors with outstanding balances due from, or obligated by, J & A on March 1, 1984. EMJ covenants he will act in good faith with all creditors and protect the good will of J & A and Omni with regard to the business and credit relationships of the two aforestated corporations. It is further excepted from any liability for which EMJ is obligated under this Agreement any liability from [certain civil cases]. EMJ waives any right to any proceeds that may be derived by Omni from the aforestated lawsuits. This payment of current liabilities includes payment of all taxes, either known or unknown to J & A as of the date of execution of this Agreement.

Joint Appendix (App.) at 78-79.

Johnson testified that, under this paragraph, he assumed personal liability to pay certain accounts payable of J & A.

Q: You started off your answer by saying the purpose was to pay certain undisputed accounts payable. Did I understand you correctly?

A [Johnson]: Yes, sir.

Q: Who was going to pay those undisputed accounts payable?

A [Johnson]: I was.

Q: Personally?

A [Johnson]: Personally.

Q: You were agreeing to pay those, assume the liabilities for those, right?

A [Johnson]: That was the agreement that I had with Omni Communications.

App. at 103-04.

The bankruptcy court also particularly noted the testimony of Omni's president, Stanley G. Emert:

It was my intention, as well as the intention of Omni and J & A, that pursuant to paragraph six of the contract, Mr. Johnson promised to confer rights and benefits upon J & A by agreeing to pay the liabilities of J & A except for those liabilities excepted therein. Omni's purpose for obtaining this promise from Mr. Johnson is obvious. Omni, upon acquiring all of the stock of J & A, did not want to acquire ownership of a company burdened with substantial unpaid liabilities, and hence, it was Omni's intention to require, and in fact it did pursuant to the contract, require Mr. Johnson to promise to pay the liabilities of J & A, except those expressly excepted in paragraph six of the contract.

App. at 96-97. Emert further testified that it was Omni's intention to have Johnson pay J & A's debts primarily for J & A's benefit, "for it to be a clean company." App. at 99. The bankruptcy court concluded that Omni did intend to benefit J & A and that J & A had a right to performance of Johnson's promise to pay the debts because the "purpose of obtaining the promise was to wipe the slate clean for the debtor and to give the debtor a clean financial bill of health." App. at 48.

Contrary to Johnson's contentions, the bankruptcy court found no failure of consideration flowing from Onmi regarding the stock purchase agreement. Johnson pointed out that he had personally guaranteed the loan that Omni had obtained to pay Johnson the $200,000 down payment. The collateral was a $200,000 certificate of deposit, in Johnson's name, purchased from and deposited with the loaning bank. When Omni defaulted on the loan, Johnson's certificate of deposit was used to satisfy the debt. Thus, Johnson contends that he never effectively had the use of the $200,000 payment by Omni. The bankruptcy court held that the enforcement of the stock purchase agreement was not affected by Johnson's guaranteeing the loan, because the guaranty was outside the scope of the agreement, and therefore there was no failure of consideration. After addressing each claim against J & A, the court concluded that Johnson was liable under the contract to the Trustee for $81,229.81.

Respecting the allegedly fraudulent transfers, the bankruptcy court found that at the time of the $154,350.80 transfer to Johnson, which included funds from J & A's bank accounts and forgiveness of the J & A loan to Johnson, J & A was or thereby became insolvent. Therefore, the transfers were fraudulent unless reasonably equivalent value was given. The bankruptcy court held that Johnson gave reasonably equivalent value to the extent of $130,814.23: $100,000 for his 1983 unpaid salary as an executive of J & A and $30,814.23 used to reduce J & A's liability to a third party. ² The court noted that Johnson had not been paid his agreed salary for 1983 nor for January 1 to March 8, 1984, but only discussed and awarded the $100,000 salary for 1983. Accordingly, the bankruptcy court found an avoidable fraudulent transfer in the amount of $23,536.57 ($154,350.80 total transfer from J & A to Johnson minus $130,814.23 value given) plus prejudgment interest.

On appeal, the district court found no indication in the stock purchase agreement that the parties intended J & A to be an intended beneficiary of the promise by Johnson to pay J & A's debts. Rather, paragraph 6 was interpreted by the district court to

clearly be a warranty by Mr. Johnson to Omni that, with certain exceptions, the corporation's liabilities would be paid in full. It thus appears to be the type of clause that would be negotiated for by a buyer for the buyer's benefit. I find nothing in Paragraph 6 or elsewhere in the agreement which evidences an intent to confer a benefit on the corporation itself. Nor is there any other evidence in the record, written or oral, which demonstrates an intent to confer a third party donee beneficiary status upon the debtor.

App. at 70 (Memorandum of District Court). ³ Therefore...