Max Sugarman Funeral Home, Inc. v. A.D.B. Investors

• Decision Date: 05 March 1990
• Docket Number: No. 89-2046,89-2046
• Citation: 926 F.2d 1248
• Parties: 24 Collier Bankr.Cas.2d 1414, Bankr. L. Rep. P 73,841 MAX SUGARMAN FUNERAL HOME, INC., et al., Plaintiffs, Appellees, v. A.D.B. INVESTORS, Defendant, Appellant. . Heard
• Court: U.S. Court of Appeals — First Circuit

Page 1248

926 F.2d 1248

24 Collier Bankr.Cas.2d 1414, Bankr. L. Rep. P 73,841

MAX SUGARMAN FUNERAL HOME, INC., et al., Plaintiffs, Appellees, v. A.D.B. INVESTORS, Defendant, Appellant.

No. 89-2046.

United States Court of Appeals, First Circuit.

Heard March 5, 1990.

Decided Feb. 28, 1991.

Robert D. Wieck with whom Adler Pollock & Sheehan Inc. was on brief, Providence, R.I., for defendant, appellant.

Z. Hershel Smith with whom DiSandro-Smith & Associates, P.C., Inc. was on brief, Providence, R.I., for plaintiff, appellee Jason Monzack, Trustee.

Before CAMPBELL, Chief Judge, BOWNES, Senior Circuit Judge, and CYR, Circuit Judge.

CYR, Circuit Judge.

The present appeal implicates important issues of bankruptcy law in a complex factual setting involving a moribund funeral home whose inevitable financial demise was lucratively delayed for years by insiders who financed its life support system at the expense of unsuspecting debenture holders who were left holding the bag when the plug was pulled by the onset of these involuntary bankruptcy proceedings. The ultimate question on appeal is whether the powers of the trustee in bankruptcy are equal to the task of redressing the egregious

abuses disclosed by the evidence presented before the bankruptcy court.

I BACKGROUND

The following facts were found by the bankruptcy court and are supported by the evidence. In March 1970, Erwin M. Bosler, Roy Lehrer, and Robert B. Goldblatt, acting through their company, E.M.B. Associates, Inc. ("EMB"), purchased from the Sugarman family all of the corporate stock of Max Sugarman Funeral Home, Inc. ("SFH"), as well as the real estate used in the funeral home operation. The three EMB principals invested $75,000 of their own money, and borrowed an additional $350,000 from friends, with which to fund a portion of the purchase price. The balance of the purchase price, $775,000, was financed by the Sugarman family, who retained a first mortgage on the SFH real estate. In October 1970, EMB borrowed $300,000 from the Rhode Island Hospital Trust National Bank ("Bank") with which to repay the purchase money loan from the friends of the three EMB principals.

By late 1970 it had become clear to EMB that the cash flow from the Sugarman funeral home would be insufficient to meet the amortization schedules on the Bank's mortgage loan and the Sugarman family mortgage. From that time and until SFH and EMB were petitioned into involuntary bankruptcy in 1982, Erwin Bosler, who ran the funeral home operation, enticed eighty-five individuals to purchase $1,854,000 in five-year, 13% debentures issued by EMB, doing business as Max Sugarman Funeral Home, Inc. ("debentures").

During January 1973, EMB embarked on a supplemental financing program for funding the funeral home operation. Alan Brier, EMB's accountant, formed ADB Investors ("ADB") as a Rhode Island limited partnership, with Brier as its general partner. ADB entered into an agreement ("1973 loan agreement") to lend $450,000 to EMB in quarterly installments over a period of seven and one-half years. ¹ Under the 1973 loan agreement, EMB was required to pay, contemporaneously with the disbursement of each quarterly loan installment: (1) a 3 to 5 1/2 percent commission to Brier; and (2) interest to ADB at 12% per annum, or 2% over the prime corporate rate, whichever was greater. ² The loan principal was to be repaid in one lump sum, or balloon payment, due July 1, 1980, the date the Sugarman family purchase money loan was scheduled to be retired. The ADB loan was to be secured by a pledge of all issued and outstanding stock of EMB and SFH. ³ Finally, under the 1973 loan agreement EMB agreed that if its "long term" indebtedness were to exceed $1,000,000, the excess would be subordinated to all ADB debt.

Alan Brier served as EMB's accountant through 1980. In that capacity, Brier prepared misrepresentative financial statements and false 1977-78 consolidated tax returns for EMB and SFH. The financial statements understated EMB/SFH's interest payments and, apart from a footnote in the 1979 statement, made no mention whatever of the 1973 loan agreement with ADB. The 1977-78 EMB/SFH consolidated tax returns also understated the amount of interest paid by EMB/SFH. Even after Brier ceased to act as EMB's accountant in 1981, he continued to have actual knowledge of the funeral home's financial dealings, including the accelerating debenture sales by Bosler. The bankruptcy court supportably found that Brier and Bosler acted in concert to depict SFH/EMB business operations in a false light in order to lure further financing through debenture In early 1980, Bosler informed Brier that EMB could not make the balloon payment due ADB on July 1, 1980 as required by the 1973 loan agreement. ⁵ Soon after, ADB discovered that its security interest in EMB's and SFH's corporate stock was unperfected. EMB and ADB then undertook, in October, 1980, to memorialize a revision of their entire credit relationship ("1980 refinancing"), in the form of a $500,000 promissory note, at ten percent interest, which was secured by a mortgage on all funeral home real estate, a security interest in all personal property used in the funeral home operation, and a pledge of all EMB and SFH stock (collectively: "1980 refinancing liens"). The new $500,000 note prescribed an escalating repayment schedule: $2,000 per month in year one, $7,000 per month in year two, $8,000 per month in year three, $9,000 per month in year four, and $10,000 per month in year five.

                sales. 4   On February 8, 1984, Erwin Bosler received a three-year prison term for securities fraud in connection with his sales of funeral home debentures
                

In October 1981, Bosler caused SFH to convey all its tangible and intangible personal property to Dade Service Company ("Dade"). At the same time, EMB conveyed title to the funeral home real estate to Bristol Associates, Inc. ("Bristol"). Roy Lehrer was the principal officer and sole stockholder of Dade and Bristol. Lehrer, along with Erwin Bosler and Robert Goldblatt, was an EMB founder and principal. Dade acquired the funeral home personal property subject to all EMB/SFH trade accounts payable, security agreements of record (including, of course, the 1980 refinancing liens acquired by ADB) and all past obligations due Roy Lehrer. The deed purportedly conveying the real estate to Bristol recited no consideration and ADB concedes that no consideration passed. Alan Brier had actual knowledge of these transfers (collectively: "1981 transfers") and knew as well that Erwin M. Bosler remained actively involved in the day-to-day operations of the funeral home following the 1981 transfers of all SFH/EMB assets to Dade and Bristol.

The funeral home's financial difficulties continued to worsen throughout the five-year period between 1978 and 1982, when involuntary bankruptcy proceedings were commenced against EMB and SFH. During 1978, debenture sales nearly tripled, increasing from $142,000 in 1977 to $396,000 in 1978. By the end of 1978, EMB/SFH's non-ADB indebtedness went over the $1,000,000 level, triggering the 1973 loan agreement subordination provision. ADB nevertheless continued to advance money to EMB, which went entirely to Brier for commissions and to ADB as interest, thereby increasing the amount of principal due and payable July 1, 1980. By early 1979, if not long before, it had become crystal clear that it was only through more and more debenture sales that EMB could hope to service its Bank mortgage, the Sugarman family mortgage and its mounting debenture debt, not to mention meet the balloon payment due ADB July 1, 1980. ⁶

The 1980 refinancing provided the funeral home with a deceptive respite from its balloon payment obligation to ADB, at once postponing and sealing EMB's inevitable financial collapse. Instead of defaulting at once on the $500,000 balloon payment due July 1, 1980, EMB was to pay ADB $2,000 a month during 1980-81. As soon as monthly payments escalated to $7,000 in year two, however, default once again loomed immediate and could be delayed temporarily only through increased The inevitable could be postponed no longer than April 1982, however, when EMB failed to make its $7,000 monthly payment to ADB. ADB thereupon obtained from Bristol a deed to the funeral home real estate "in lieu of foreclosure." Similarly, Dade delivered ADB a bill of sale, "in lieu of foreclosure," to all SFH personalty. (Collectively: "1982 transfers.") ADB leased back to Dade all SFH real and personal property for a five-year term, with options to renew or purchase. Erwin Bosler and family guaranteed the lease and continued to operate the funeral home. Two months later, SFH and EMB were adjudicated bankrupt at the instance of three debenture holders. The principal owed on debenture debt at the date of bankruptcy totalled $1,401,000.

                debenture sales. 7   It was not by accident, therefore, that sixty percent of all debenture sale proceeds were generated during the four-year period immediately preceding the EMB and SFH involuntary bankruptcy adjudications, notwithstanding the fact that debenture sales spanned a twelve-year period
                

The trustee in bankruptcy of SFH and EMB filed a complaint to set aside the 1982 transfers as preferential, see 11 U.S.C. Sec. 547, and fraudulent, see id. Sec. 548, to recover the funeral home assets for the benefit of the debtor estates, and to effect an equitable subordination of ADB's 1980 refinancing liens on all assets of the debtor estates, see id. Sec. 510(c).

The first bankruptcy court order did not resolve the trustee's fraudulent transfer and preference claims under Bankruptcy Code Secs. 547 and 548, but relied instead on Bankruptcy Code Sec. 510(c) for all relief afforded the trustee. The bankruptcy court found that Brier's business conduct, beginning in 1978, was designed to advance Brier's and ADB's interests to the detriment of debenture holders. On the basis of its determination...