Bankruptcy court finds that seller’s president and his lawyer exercised bad faith in trying to sell the business in bankruptcy when in fact seller was solvent and bankruptcy was not authorized by the board of directors.
M&A Stories
June 23, 2022
Introduction:
In this blog, we’ll discuss a case where a seller’s president and his lawyer engaged in bad faith practices during a bankruptcy sale, nearly causing the buyer to lose the opportunity to acquire the seller’s forklift dealer business.
The Background:
The seller operated a forklift and related products business in the tri-state area of Pennsylvania, New Jersey, and Delaware. The company was jointly owned by two brothers, Jack and Jim, with Jack serving as the president. Due to a dispute between the brothers, Jim initiated legal action in a Pennsylvania federal district court, seeking the sale of the business and the division of proceeds between them. In response, Jack filed for bankruptcy in the Philadelphia bankruptcy court.
The Bankruptcy Deal:
Jack, as the company’s president, requested the bankruptcy court’s approval for an auction sale through an asset purchase agreement with the buyer, acting as a stalking horse bidder. The proposed deal involved selling the assets for $1,750,000, with the net proceeds being split evenly between the brothers. Additionally, Jack would receive $750,000 in consulting payments.
The Lawsuit:
Jim contested the bankruptcy petition, and the court ultimately dismissed it, ruling that Jack and the company’s attorney had acted in bad faith. The court found that the company was not insolvent and could meet its financial obligations with roughly $4 million in net equity. Furthermore, it was discovered that Jack and the attorney falsely claimed to have obtained Jim’s required approval for filing bankruptcy.
The court also noted that the $750,000 consulting arrangement was unfair to Jim, as it was essentially a disguised part of the sale price that should have been divided between the brothers.
The Aftermath:
The lawyer representing Jack in the bankruptcy sale was held liable for $214,000 in sanctions. Eventually, the buyer managed to purchase the business outside of bankruptcy.
This case is referred to as In Re Delaware Valley Lift Truck Inc., Case No. 20-14408-AMC, United States Bankruptcy Court, E.D. Pennsylvania, (May 25, 2022).
Comment
The buyer might have been aware that the $750,000 consulting arrangement was improperly categorized as separate from the sale price. Such deals can lead to legal disputes among other owners. The best approach is to negotiate a fair deal that satisfies all seller owners.
By John McCauley: I write about recent legal problems of buyers and sellers of small businesses.
Email: jmccauley@mk-law.com
Profile: http://www.martindale.com/John-B-McCauley/176725-lawyer.htm
Telephone: 714 273-6291
Check out my book: Buying Assets of a Small Business: Problems Taken From Recent Legal Battles
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