In re Firestar Diamond, Inc.

• Decision Date: 22 April 2020
• Docket Number: Case No. 18-10509 (SHL) (Jointly Administered)
• Citation: 615 B.R. 161
• Parties: IN RE: FIRESTAR DIAMOND, INC., et al., Debtors.
• Court: U.S. Bankruptcy Court — Southern District of New York

615 B.R. 161

IN RE: FIRESTAR DIAMOND, INC., et al., Debtors.

Case No. 18-10509 (SHL) (Jointly Administered)

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

Signed April 22, 2020

JENNER & BLOCK LLP, Attorneys for the Chapter 11 Trustee, Richard Levin, Esq., 919 Third Avenue, New York, New York 10022, By: Marc B. Hankin, Esq., Carl N. Wedoff, Esq., 353 North Clark Street, Chicago, Illinois 60654, By: Angela Allen, Esq.

CONDON & FORSYTH LLP, Attorneys for Bank of India, Bharat Diamond Bourse Branch, 7 Times Square, 18th Floor, New York, New York 10036, By: Joseph E. Czerniawski, Esq., Matthew D. Emery, Esq.

HILL RIVKINS LLP, Attorneys for Union Bank of India (UK) Ltd., Receivers of Firestar Diamond BVBA, Bank of India (Antwerp Branch), and Bank of India (London Branch), 45 Broadway, Suite 1500, New York, New York 10006, By: John J. Sullivan, Esq.

MEMORANDUM OF DECISION

SEAN H. LANE, UNITED STATES BANKRUPTCY JUDGE

Before the Court are the objections of the Chapter 11 Trustee (the "Trustee") to the proofs of claim filed by four banks in the above-captioned cases: Firestar Claim No. 55, filed by Bank of India (Bharat Diamond Bourse Branch); Firestar Claim No. 16, filed by Union Bank of India (UK) Ltd.; Firestar Claim No. 12 and Firestar Claim No. 11, filed by Firestar Diamond BVBA's liquidators; and Firestar Claim No. 17, filed by Bank of India (London Branch). See ECF Nos. 1121, 1157, 1158, and 1161. For reasons that the Court explains below, the Court grants the Trustee's objections.

BACKGROUND

The above-captioned debtors are three U.S. corporations indirectly owned by Nirav Modi that filed for Chapter 11 protection in the Southern District of New York: Firestar Diamond, Inc. ("FDI"), Fantasy, Inc. ("FI") and A. Jaffe, Inc. ("A. Jaffe," and together with FDI and FI, the "Debtors").¹ See ECF No. 1. The Debtors' were wholesalers of finished jewelry to major retailers, including Costco, J.C. Penney, Macy's, Zales, Kay's, and Jared's, among others. Bhansali Decl. ¶¶ 6-7.

These bankruptcy cases were filed in the shadows of an alleged massive fraud. Less than one month before the bankruptcies were filed, Punjab National Bank ("PNB") filed a complaint against Nirav Modi and several of his associated entities, alleging "the largest bank fraud in Indian history" against PNB and other banks. Report of John J. Carney, Examiner at 4, Aug. 24, 2018 [ECF No. 394] (the "Carney Report").

According to these allegations, Mr. Modi and his co-conspirators used fraudulently obtained Letters of Understanding ("LOUs")² to perpetrate the alleged bank fraud. Id. at 8–9. According to Indian authorities, the perpetrators used a series of entities that "posed as independent third parties in sham transactions to import gemstones and other jewelry related goods valued at billions of dollars in order to obtain bank financing in the form of LOUs." Id. at 28–30. The Indian Central Bureau of Investigation ("CBI") claims that Mr. Modi and his co-conspirators obtained approximately $4 billion from PNB through the fraudulently issued LOUs, while approximately $1 billion worth of LOUs remain unpaid. Id. at 27, 36.

Amidst concerns that the Debtors might have been involved with the alleged fraud of Mr. Modi, the Court appointed John J. Carney, Esq. (the "Examiner") to examine the issue. See Order Approving Appointment of Examiner, Apr. 20, 2018 [ECF No. 118]. In his eventual report, the Examiner found "substantial evidence to support the knowledge and involvement by the Debtors and their senior officers and directors, namely Mihir Bhansali and Ajay Gandhi, in the criminal conduct alleged by the Indian authorities." Carney Report at 4. During a subsequent hearing on the sale process of Debtors' assets, the Court learned of communications between Mr. Modi and Mihir Bhansali. See Hr'g Tr. of May 15, 2018, 141:15–143:14 [ECF No. 256]. At the time, Mr. Bhansali was the sole director and president of each of the Debtors, Bhansali Decl. ¶ 20, and had submitted a declaration in support of the proposed sale of the Debtors' businesses. Id. ¶¶ 42, 44, 46. Concerned about these previously undisclosed communications, the Court held an emergency telephonic conference, during which Mr. Bhansali's counsel represented that Mr. Bhansali would assert his Fifth Amendment right against self-incrimination if compelled to testify about these communications. See Carney Report at 7, 19, 21, 25, 125, 131, and Ex. 1. The Debtors subsequently withdrew their sale motion, see ECF No. 177, and Mr. Bhansali resigned as CEO of the Debtors, see Carney Report at 25. These events prompted the U.S. Trustee and PNB to seek the appointment of a Chapter 11 Trustee. See ECF Nos. 185 and 181. The Court subsequently appointed Richard Levin, Esq. as Trustee, and the Trustee has administered the Debtors' estates since June 2018. See ECF No. 227.

Amid this backdrop of the fraudulent conduct alleged by PNB and the Examiner, the Trustee has filed objections to each of the proofs of claim filed by four different banks: Bank of India (Bharat Diamond Bourse Branch) ("BOI-B"), Union Bank of India (UK) Ltd. ("UBI"), Firestar Diamond BVBA's ("BVBA"), Receivers on behalf of Bank of India (Antwerp Branch) ("BOI-A"), and Bank of India (London Branch) ("BOI-L," and together with BOI-B, UBI, and BOI-A, the "Banks"). None of the Banks' claims are based on their dealings with the Debtors. Rather, the claims reflect amounts owed by the Debtors to three nondebtor entities: Firestar Diamond International Pvt. Ltd. ("FDIPL"), Firestar Diamond BVBA ("BVBA"), and Firestar Diamond FZE ("FZE"). In each case, the nondebtor entity pledged its receivables or sold invoices to the claimant for amounts owed by the Debtors.³

The Trustee contends that all of the Banks' claims are barred under Section 502(d) of the Bankruptcy Code. The Trustee asserts that the initial transferees of the Banks' claims—FDIPL, BVBA, and FZE—have each received millions of dollars in fraudulent transfers and preferences from the Debtors that have not been repaid. See Trustee's Obj. to BOI-B ¶¶ 17–18, 24 [ECF No. 1157]; Trustee's Obj. to UBI ¶¶ 18–20, 26 [ECF No. 1161]; Trustee's Corrected Obj. to BVBA's Receivers and BOI-A ¶¶ 17–19, 25 [ECF No. 1121]; Trustee's Obj. to BOI-L ¶¶ 16–17, 23 [ECF No. 1158]. As the Banks' claims here are based on the Debtors' dealings with FDIPL, BVBA, and FZE, the Trustee argues that they are subject to disallowance in the same way as if the claims were filed by FDIPL, BVBA, and FZE. Thus, the Trustee argues that the Banks' claims should be disallowed under Sections 547(b), 544, and 548 of the Bankruptcy Code, as well as New York Debtor and Creditor Law § 276. See Trustee's Obj. to BOI-B ¶¶ 21–23; Trustee's Obj. to UBI ¶¶ 23–25; Trustee's Corrected Obj. to BVBA's Receivers and BOI-A ¶¶ 21–24; Trustee's Obj. to BOI-L ¶¶ 20–22.

Each of the four Banks has opposed the Trustee's objections. See ECF Nos. 1209, 1215, 1216, and 1217. Their main argument is that, regardless of any defenses that the Trustee might have against FDIPL, BVBA, and FZE, their claims are not subject to disallowance. More specifically, the Banks contend that disallowance under Section 502(d) is a personal disability and does not travel with the "claim," but with the "claimant." The Banks rely on In re Enron Corp. , 379 B.R. 425, 443 (S.D.N.Y. 2007) (" Enron II "), which held that disallowance under Section 502(d) is personal to the claimant, not the claim, and that disallowance of a transferee's claim depends on the nature of the transfer. See Enron II at 443–45. The Banks argue that the rationale of Enron II applies here because they acquired rights to payment from the Debtors through a "sale" rather than an "assignment." See ECF Nos. 1209, 1215, 1216, and 1217.

In reply, the Trustee argues that the Court should not follow Enron II but instead the conclusion of other courts—including the United States Court of Appeals for the Third Circuit—that have rejected Enron II and concluded that disallowance under Section 502(d) follows the claim. In the alternative, the Trustee argues that the nature of the transfers here does not save the Banks' claims from disallowance even under Enron II . See ECF Nos. 1231, 1232, 1233, and 1234.

DISCUSSION

I. Applicable Legal Standards

After a proof of claim has been filed, it may be disallowed for various reasons under Section 502 of the Bankruptcy Code. Section 502(d) provides, in part:

[T]he court shall disallow any claim of any entity from which property is recoverable under [S]ection 542, 543, 550, or 553 of this title or that is a transferee of a transfer avoidable under [S]ection 522(f), 522(h), 544, 545, 547, 548, 549, or 724(a) of this title, unless such entity or transferee has paid the amount, or turned over any such property, for which such entity or transferee is liable under [S]ection 522(i), 542, 543, 550, or 553 of this title.

11 U.S.C. § 502(d). Under Sections 547(b)(4)(A)–(B) of the Bankruptcy Code, a trustee has the power to avoid preferential payments made 90 days before the filing of a bankruptcy petition or up to one year prior if the creditor was an insider at the time of the transfer. See 11 U.S.C. § 547(b)(4)(A)–(B). Under Section 548(a)(1)(A) of the Bankruptcy Code, a trustee may avoid fraudulent transfers and obligations two years prior to the filing of the petition. See 11 U.S.C. § 548(a)(1)(A). A trustee may also employ state law to avoid fraudulent transfers. See, e.g. , N.Y. Debt. & Cred. Law § 276 (McKinney) ("Every conveyance made and every obligation incurred with actual intent, as distinguished from intent presumed in law, to hinder, delay, or defraud either present or future creditors, is fraudulent as to both present and future creditors.").

II. Claim Disallowance Under Section 502(d) Rests on the Claim and Not the Claim Holder

When interpreting a statute, the Court follows well-established rules of statutory construction that begin with the plain meaning of the language of the statute. See ...