08/12/2011 – Memorandum of Law in Support of Defendant’s Motion to Dismiss filed in the Linens n Things Adversary Proceedings by Liberty Mutual Insurance Company before U.S. Bankruptcy Judge Christoper S. Sontchi in the District of Delaware filed by  Seitz, Van Ogtrop & Green, P.A. (Wilmington, DE) attorney R. Karl Hill; and Choate Hall & Stewart LLP (Boston, MA) attorneys Douglas R. Gooding and Mark A. DeFeo.

Defendant, Liberty Mutual Insurance Company (“Liberty”) seeks dismissal of a preferential transfer recovery action filed by Charles M. Forman, the Chapter 7 Trustee (the “Trustee”) of the substantively-consolidated estate of Linens Holding Co., et. al. (the “Debtors”). The Trustee seeks to avoid and recover two transfers totaling $419,318. Liberty argues that the Trustee has failed to make the required factual averments with respect to the 547(b)(5) element of an avoidance claim – i.e. that the Defendant received more than it would have received in a Chapter 7 liquidation had the pre-petition transfer not been made. In fact, the Defendant asserts that it was a fully secured creditor. Defendant’s implication is that the complaint would not have been filed if the Trustee had done the investigation necessary to meet the Iqbal/Twombley pleading standards. Registered users click here to see a copy of this brief.

Seldom are 12(b)(6) challenges to the pleading of a Section 547 preference count based on the “disproportion receipt requirement” in Section 547(b)(5). Defendant Liberty argues that meeting the pleading requirement for this element of a preference claim required the Trustee to make factual averments that Liberty was unsecured or undersecured. That argument is made in the following portion of the Defendant’s brief.

B. Application of Standard

In order to prevail on the claims in the Complaint, the Trustee must demonstrate, inter alia, that the Transfers enabled Liberty to receive more than it would receive if: (A) the case were a case under Chapter 7 of the Bankruptcy Code; (B) the Transfers had not ben made; and (C) Liberty received payment of its debt to the extent provided by the provisions of the Bankruptcy Code. 11 U.S.C. § 547(b)(5). This element requires the Trustee to show that Liberty is unsecured or undersecured because, in a Chapter 7 liquidation, fully secured creditors receive payment of the full value of their collateral. See Triad Int’l Maintenance v. Southern Air Transport, Inc. (In re Southern Air Transport, Inc.), 511 F.3d 526, 533 (6th Cir. 2007); Batlan v. Transamerica Commercial Finance Corp. (In re Smith’s Home Furnishings, Inc.), 256 F.3d 959, 964 (9th Cir. 2001) (“Pre-petition transfers to a creditor that is fully secured on the petition date are generally not preferential because the secured creditor is entitled to 100 percent of its claims”); Sloan v. Zions First Nat’l Bank (In re Castletons, Inc.), 990 F.2d 551, 554 (10th Cir. 1993) (“payments to a fully secured creditor will not be considered preferential because the creditor would not receive more than in a chapter 7 liquidation,” quoting 4 Collier on Bankruptcy P 547.08 (Lawrence P. King ed., 15th ed. 1993)); The Official Committee of Unsecured Creditors of Radnor Holdings Corp. v. Tennenbaum Capital Partners, LLC (In re Radnor Holdings Corp.), 353 B.R. 820, 846 (Bankr. D. Del. 2006). Payments to fully secured creditors cannot be preferential because they do not diminish the estate assets available to satisfy general creditors under Chapter 7. The Unencumbered Assets v. JP Morgan Chase Bank (In re Nat’l Century Financial Enters., Inc.), No. 2:04-cv-1090, 2011 U.S. Dist. LEXIS 39943, *82-83 (S.D. Ohio April 12, 2011).

The Trustee’s only attempt at establishing this critical element of its preference action was the vague assumption that Liberty fell into a class of unsecured creditors doomed to recover less than 100% of their debt in the bankruptcy. See Complaint, ¶ 27. The Trustee offered no facts on the specific nature of the Transfers other than to identify that they happened. See Complaint, ¶ 22-30. The Complaint did not mention the purpose of the Transfers, the terms of the debt, the nature of the business relationship, or anything remotely close to allowing this court “to draw the reasonable inference” that Liberty was undersecured. See In re USDigital, 2011 Bankr. LEXIS 20, at *12. Instead, Paragraph 27 of the Complaint—the only one that addresses §547(b)(5)—merely states the unwarranted conclusion that Liberty received more than it would have received in a Chapter 7 liquidation. See Complaint, ¶ 27. It then spends two sentences discussing “contemplated” payouts to unsecured creditors as a class without even specifically identifying Liberty as one of those unsecured creditors. See id. This “threadbare recital” of one of the elements of a preference action does not satisfy the motion to dismiss standard. See In re USDigital, 2011 Bankr. LEXIS 20, at *12.

Moreover, it flatly contradicts the facts of the case. At the time the Transfers were made, Liberty was secured by a letter of credit in the amount of $8,940,000 and an escrow of $592,630, more than enough to adequately collateralize the Transfers totaling $419,318.80 and enable Liberty to be paid-in-full in a Chapter 7 liquidation. As a result, the Trustee cannot satisfy §547(b)(5), and its “erroneous assumption” that Liberty was an unsecured creditor does little to help its cause. See Burtch v. Connecticut Community Bank, N.A. (In re J. Silver Clothing, Inc.), No. 07-50814(KG), 2011 Bankr. LEXIS 1564, *35 (Bankr. D. Del. April 29, 2011). For that reason, among others, the Court should dismiss the Complaint for failing to state a claim against Liberty.