In re: VIKING GLASS, INC.,
Debtor.
NEIL F. SCHMID, JR.,
Appellant,
v.
JOHN S. LOVALD,
Appellee.
[1999 DSD 32]
United States District Court
District of South Dakota–Southern Division
CIV. 99-4094
MEMORANDUM OPINION AND ORDER
Roger W. Damgaard, Woods, Fuller, Shultz & Smith, Sioux Falls, SD
Attorney for Appellant
Robert M. Ronayne, Ronayne & Wein, Aberdeen, SD
Attorney for Appellee
Dated Nov 4, 1999.
Karen E. Schreier, U.S. District Judge
PROCEDURAL HISTORY
[¶1] Neil F. Schmid, Jr. ("Schmid") brought this appeal of a Bankruptcy Court{fn1} Memorandum of Decision dated May 7, 1999, which entered judgment for Trustee John S. Lovald ("trustee"). Trustee responded and Schmid replied. This Court has jurisdiction over this appeal pursuant to 28 USC § 158(a).
[¶2] Trustee filed an adversary action alleging that the transfer of VG Air, Inc. from debtor Viking Glass, Inc. ("debtor") to Schmid, an insider, for $3,973.59 was fraudulent under 11 USC § 548(a) or, in the alternative, that the transfer was the product of Schmid’s breach of fiduciary duty to debtor. On November 16, 1998, summary judgment on behalf of trustee was granted in part and denied in part. The bankruptcy court ruled there was a genuine issue of material fact as to whether the transfer of debtor’s property to Schmid was for less than a reasonably equivalent value.
[¶3] After a trial, the bankruptcy court issued a Memorandum of Decision on May 7, 1999. The bankruptcy court found that the transfer of the VG Air, Inc. stock from debtor to Schmid was for less than a reasonably equivalent value and entered judgment for trustee in the amount of $38,418.65, plus prejudgment interest in the amount of $14,546.75, for a total of $52,965.40. Schmid filed a notice of appeal of the bankruptcy court decision on May 14, 1999. The bankruptcy court amended its judgment on May 20, 1999. The bankruptcy court reduced the award of prejudgment interest to $13,795.32, granting a total amended judgment of $52,213.97 in favor of trustee and against Schmid.
FACTS
[¶4] Schmid owned all of the common stock and was the sole officer and director of debtor. VG Air, Inc. ("Air") was a wholly owned subsidiary of debtor. Schmid was also the sole officer and director of Air. The primary asset held by Air was a 1973 Beech Bonanza airplane. Viking Air, Inc. ("Viking Air") was a wholly owned subsidiary of Daedalus, Inc., d/b/a Business Aviation.
[¶5] A separate entity, Viking Air Limited Partnership ("VAL Partnership"), was organized in February 1993. Its purpose was to provide airplanes to its partners for their business and personal use and to lease planes to Daedalus, Inc. Air became a 33 percent limited partner in VAL Partnership after contributing its airplane, cash of $6,000, and liabilities of $70,000. The partners in VAL Partnership consisted of Viking Air as the general partner and limited partners Duane Sather ("Sather") and Air. Viking Air was headed by Dale Froelich ("Froelich"). VAL Partnership’s primary assets consisted of three airplanes, including the 1973 Beech Bonanza airplane held by Air.
[¶6] In December 1995, both Schmid and Sather met with Dr. Timothy M. Zoellner ("Zoellner"). Zoellner was interested in investing in VAL Partnership. Zoellner was told by Schmid and Sather that the resale value of the three airplanes owned by VAL Partnership was over $400,000. The planes were "part 135 ready," meaning the planes were well-maintained at the level necessary for the charter service provided by VAL Partnership. Schmid and Sather told Zoellner that planes that are part 135 ready have a 5 to 10 percent higher market value than planes that do not have such a status. Their asking price for a one-quarter interest in VAL Partnership was $75,000.
[¶7] Zoellner counter-offered in a letter dated January 30, 1996, offering $60,000 for a one-quarter interest in VAL Partnership. This offer was based upon various factors, including two expert opinions regarding the value of the airplanes, the low engine hours of some of the planes, the net present value of VAL Partnership of $156,000, and going concern value of $21,000.
[¶8] In a letter dated February 6, 1995, but intended to be 1996, Schmid represented to Zoellner that the planes had a higher value than the expert opinion because of their part 135 readiness. Schmid also stated that the book value for an existing share was currently $52,000, and thus the going concern value should really be $8,000. Schmid finalized the letter by suggesting a "compromise price" of $65,000 for a one-quarter interest in the partnership.
[¶9] Schmid and Zoellner reached an agreement. In a letter dated February 7, 1996, Schmid, on behalf of VAL Partnership, requested a check for $65,000 from Zoellner. Following receipt of the check, Zoellner was to "immediately have the rights and privileges of a 25% owner as indicated in [their] prior discussions." Schmid also indicated VAL Partnership was undergoing a change to limited liability company status and would soon be called Viking Aircraft Owners, L.L.C. ("L.L.C.").{fn2} In accordance with previous communications between Zoellner and Schmid, Zoellner was actually investing in a one-quarter equity interest in this new L.L.C. Zoellner’s capital contribution for his one-quarter interest reflected about $52,000 for the book value of an existing share and an additional $13,000 for going concern. The L.L.C. used Zoellner’s $65,000 investment to reduce its debt, and Zoellner became a guarantor of the L.L.C.’s remaining debt. None of the VAL Partnership partners directly received a portion of Zoellner’s contribution.
[¶10] Around the time Schmid and Sather were negotiating with Zoellner, Schmid purchased Air from debtor for $3,973.59. The assets of Air consisted of a one-quarter interest in L.L.C. and cash deposits of $13,534.74. Schmid was the only officer and director of both Air and debtor, and he did not solicit any other purchase offers for the Air stock. He did not obtain a formal appraisal. The purchase was done with the consent of First National Bank, which was debtor’s primary lender. The arrangement with the bank allowed both Schmid and his wife to be released from all but $50,000 of their personal guarantee of debtor’s debt if they liquidated debtor’s assets. Schmid remitted Air’s cash deposits of $13,534.74 and the $3,973.59 he paid for Air to First National Bank. Schmid and his wife were then released from their personal guarantees of debtor’s large deficiency debt pursuant to the agreement.
[¶11] An involuntary Chapter 7 bankruptcy proceeding was brought against debtor on February 12, 1997. On February 13, 1998, trustee filed an adversary complaint seeking utilization of his power of avoidance under 11 USC § 548, declaring the sale of Air to Schmid a fraudulent transfer to an insider and seeking damages from Schmid. Schmid admitted he was an insider and the date of the sale was not in dispute. Trial was held by the bankruptcy court solely to determine whether the transfer was for a reasonably equivalent value.
[¶12] During the trial, both parties presented expert testimony on the value of VG Air and related tax ramifications. John K. Melcher ("Melcher"), an experienced consultant in aviation, gave testimony reviewing blue book valuations he made of VAL Partnership’s planes in 1995. Melcher made such evaluations on a regular basis for Froelich. Melcher testified to the planes’ retail valuation in 1995, and that this figure did not include part 135 readiness.
[¶13] Froelich testified about the blue book valuations as well. He discussed the difference between marketable value and blue book value. Froelich explained that marketable value was slightly lower because it reflected a sale of a plane to a dealer or wholesaler. Froehlich also testified that neither blue book nor market value discounted for a brokerage cost of seven percent, which was typical in sales of smaller planes.
[¶14] The bankruptcy court held that the transfer was not for a reasonably equivalent value. In reaching this conclusion, the bankruptcy court determined the value of Air’s interest in the L.L.C. by determining the value of the assets held by the L.L.C. The bankruptcy court first determined that the airplanes had a fair market value of $456,069.96. It then added value attributable to the airplanes for part 135 readiness, deducted 7 percent for proper marketing of the planes, and added the value of L.L.C.’s other assets. A total value of $499,847.95 was established by the bankruptcy court. Debt of $289,279 owed by L.L.C. was then subtracted from the total. A going concern value of $24,000 was added to L.L.C.’s total net assets, resulting in a fair market value of $234,568.95.
[¶15] The $65,000 capital contribution made by Zoellner was then subtracted by the Court pursuant to SDCL 47-34-32. The bankruptcy court found the value of Air’s one-quarter interest in the remainder to be $42,392.24. The bankruptcy court found that Zoellner’s capital contribution of $65,000 for a one-quarter interest in the L.L.C. validated the bankruptcy court’s evaluation of the worth of Air’s one-quarter interest of $42,392.24. The bankruptcy court also found that the difference between the two values accommodated any discount to Air’s interest in the L.L.C. due to Air’s negative capital amount and potential tax consequences. The bankruptcy court did not allow a deduction for possible tax consequences or for Air’s minority interest in L.L.C. Air’s cash on hand in the amount of $13,354 was added to the $42,392.24 figure for total assets of $55,746.24.
[¶16] Debtor received $3,973.59 from Schmid plus Air’s cash account of $13,543, for a total sum of $17,516.59. The bankruptcy court determined that this is not the reasonable equivalent of Air’s fair market value of $55,746.24. Thus, debtor’s pre-petition sale of Air to Schmid was deemed to be a constructively fraudulent transfer under § 548(a)(1)(B) (1998). The bankruptcy court found the appropriate remedy under 11 USC § 550(a)(1) was for Schmid to reimburse the bankruptcy estate $51,772.65. This represented the difference between the $3,973.59 Schmid paid for Air and Air’s actual value of $55,746.24. The bankruptcy court then credited Schmid the $13,354 in cash accounts he received from the purchase of Air because the cash account was used to pay debtor’s debt. Schmid was ordered to repay the balance of $38,418.65 to the bankruptcy estate.
STANDARD OF REVIEW
[¶17] An appellate court reviews legal conclusions of a bankruptcy court de novo and reviews findings of fact for clear error. See, e.g., Ramsay v. Dowden (In re Central Arkansas Broadcasting Co.), 68 F3d 213, 214 (8th Cir. 1995); Jones Truck Lines, Inc. v. Foster’s Truck & Equip. Sales (In re Jones Truck Lines), 63 F3d 685, 686 (8th Cir. 1995); Wieczorek v. Woldt (In re Kjellsen), 53 F3d 944, 946 (8th Cir. 1995). The district court may affirm, reverse, or modify the bankruptcy court’s ruling or remand the case for further proceedings. Fed. R. Bankr. P. 8013.
DISCUSSION
[¶18] Schmid raises several issues on appeal. Schmid claims the bankruptcy court erred in its determination of Air’s reasonably equivalent value. Schmid also contends the bankruptcy court erred in granting a money judgment to trustee instead of ordering the return of Air’s interest in the L.L.C. to trustee as a form of recovery. Finally, Schmid claims the bankruptcy court erred in its calculation of prejudgment interest awarded to the trustee.
[¶19] A. Reasonably Equivalent Value
[¶20] In making its assessment of Air’s reasonably equivalent value, Schmid claims that the bankruptcy court erred in: (1) using blue book retail value to determine reasonably equivalent value for going concern and part 135 readiness; (2) increasing the value for going concern and part 135 readiness; (3) failing to discount the value of the L.L.C. based on lack of marketability and lack of control; (4) and ignoring the requirements of SDCL 47-34-32.
[¶21] Whether a transfer is made for reasonably equivalent value is a question of fact to be determined in light of the facts of each particular case. In re Ozark Restaurant Equip. Co., 850 F2d 342 (8th Cir. 1988). A factual finding will not be disturbed unless it is determined to be clearly erroneous. Such clear error exists only if the factual finding is not supported by substantial evidence in the record, if it is based on an erroneous view of the law, or if this Court is left with the firm and definite conviction, based on the entire evidence, that a mistake has been made. Johnson v. Arkansas State Police, 10 F3d 547 (8th Cir. 1993). Ordinarily the term "reasonably equivalent value" means something similar to fair market value. BFP v. Resolution Trust Corp., 511 US 531, 114 SCt 1757, 128 LEd2d 556 (1994).
[¶22] 1. Use of Blue Book Retail Value
[¶23] In making a value determination a court may employ any comparative formula or combination of formulas it deems appropriate. Streetman v. United States, (In re Russell), 187 BR 287, 291 (W.D. Ark. 1995). The Court must carefully consider whether the analysis fully recognizes which factors are relevant and whether the interests of the parties are protected. Id. (citing Joing v. O & P Partnership, 82 BR 495, 499 (D. Minn. 1987)).
[¶24] The bankruptcy court did not err in making its determination of liquidation value of Air’s one-quarter interest in the L.L.C. The largest assets of the L.L.C. in February of 1996 were three airplanes. The bankruptcy court received testimony from two witnesses regarding the "blue book" value of the airplanes and decided to use the blue book value as a starting point to determine fair market value. Blue book value is an appropriate starting point for bankruptcy courts to use when determining the value of bankruptcy estate assets. See In re Continental Airlines, 91 F3d 553 (3d Cir. 1996); In re Carpet Center Leasing Co., 991 F2d 682 (11th Cir. 1993); In re Mitchell, 954 F2d 557 (9th Cir. 1992); In re Henderson, 235 BR 425 (Bankr. C.D. Ill. 1999). The blue book value was also utilized by VAL Partnership as a beginning point during its negotiations for the sale of a one-quarter interest in the L.L.C. just twelve days earlier with Zoellner. Judging all the evidence, this Court is not left with the firm and definite conviction that the bankruptcy court erred in taking into consideration the blue book value.
[¶25] 2. Part 135 Readiness and Going Concern Value
[¶26] Substantial evidence existed in the record to support the use of both part 135 readiness and going concern value. The three aircraft held by the L.L.C. were part 135 ready, and the L.L.C. was continuing in business and was cash flowing. Both part 135 readiness and going concern were used in negotiations with Zoellner to determine the cost of Zoellner’s one-quarter interest in the L.L.C. Part 135 readiness and going concern value are both relevant in determining the reasonably equivalent value of the L.L.C.; therefore, the bankruptcy court properly considered the value of these factors. The Court should consider all relevant factors in determining value. See Streetman, 187 BR at 291. The amounts calculated by the bankruptcy court for going concern and part 135 readiness were not clearly erroneous. Schmid’s letter to Zoellner discusses a going concern value of $8,000, and Zoellner’s investment of $65,000 included $13,000 for going concern. The bankruptcy court used its discretion in allowing for a middle ground of $6,000 for going concern and multiplied this by four for each of the interested parties, for a total of $24,000 for the value of the L.L.C.’s going concern. Schmid’s letter to Zoellner also indicated that planes that were part 135 ready have a 5 to 10 percent higher market value than planes without this status. Therefore, the 7.5 percent multiple used by the bankruptcy court was not clearly erroneous.
[¶27] 3. Lack of Marketability and Control
[¶28] The bankruptcy court did not commit clear error when it chose not to discount the value of Air’s one-quarter interest for lack of marketability and lack of control if Air was liquidated. The bankruptcy court found no merit in the expert testimony on behalf of Schmid relating to these two elements. Due regard must be given to the bankruptcy court’s opportunity to judge the credibility of witnesses and their testimony. Ramsay, 68 F3d at 214.
[¶29] A review of the record demonstrates substantial evidence supporting the bankruptcy court’s conclusion not to adjust the liquidation value downward based on these two factors. A one-fourth interest in the L.L.C. was sold to Zoellner just twelve days before Schmid’s purchase of Air’s interest in the L.L.C. Schmid and Froelich, who also was involved in VAL Partnership, both testified that no potential investors were sought by VAL Partnership, but that an investor came to them. Bergstrom, trustee’s expert, also provided testimony demonstrating why discounting Air’s interest in the L.L.C. would not be appropriate. Based on the evidence in the record, the bankruptcy court did not err when it refused to apply a discount for lack of marketability and lack of control.
[¶30] 4. SDCL 47-34-32 Application
[¶31] Schmid also claims the bankruptcy court improperly used SDCL 47-34-32 in determining the reasonably equivalent value of Air’s share of the L.L.C. A question of law is reviewed de novo on appeal. Ramsay, 68 F3d at 214. The bankruptcy court established the value of the L.L.C. to be $234,568.95 after determining the fair market value of the planes, adjusting for part 135 readiness, going concern, and other cash assets, and deducting a 7 percent brokerage fee for costs of sale. Pursuant to SDCL 47-34-32(1), the bankruptcy court then deducted the debt owed by the L.L.C. Pursuant to SDCL 47-34-32(3), the bankruptcy court deducted the $65,000 contribution made by Zoellner{fn3}.
[¶32] Schmid contends that SDCL 47-34-32 and SDCL 47-34A-806 require partners with negative capital accounts to suffer for their position and as a result an additional $18,000 should be deducted to compensate for the respective negative capital accounts:
Viking Air ($20,225)
Air ($18,306)
Sather ($18,306)
SDCL 47-34A-806 is not applicable, however, because it did not go into effect until July 1, 1998. This effective date was after the complaint was filed. The language of SDCL 47-34-32 does not require the equalization of negative capital accounts, but rather only requires the return to the investors of their contributions of capital. In this instance, Zoellner invested $65,000 and it would belie common sense to return $83,000 to him as a return of his capital contribution under the statute. In addition, there is no evidence in the record suggesting that the operating agreement of the parties contained an alternative method of distribution upon dissolution. No error was made by the bankruptcy court in making its determination under SDCL 47-34-32.
[¶34] Schmid claims the bankruptcy court erred in not ordering the return of Air’s interest in the L.L.C. to trustee instead of awarding a money judgment to trustee. When a transfer is avoidable under 11 USC § 548, the party challenging the transfer is entitled to recover, for the benefit of the estate, either (1) the property transferred, or (2) if the court so orders, the value of such property. 11 USC § 550(a). Returning the Air stock to trustee is no longer feasible because Schmid dissolved Air in May of 1996. Where the property that was fraudulently transferred is unrecoverable, courts allow the trustee to recover the value of the property. In re Willaert, 944 F2d 463 (8th Cir. 1991).
[¶35] 11 USC § 550(a) is intended to restore the bankruptcy estate to the financial condition it would have enjoyed had the transfer not occurred. Id. The bankruptcy court evaluated the worth of Air’s interest in the L.L.C. at the time of the transfer and ordered Schmid to pay trustee this amount. It was not error for the bankruptcy court to rule in this manner.
[¶37] The bankruptcy court’s award of prejudgment interest is a legal conclusion and is reviewed de novo. Streetman, 187 BR at 290; Fed. R. Bankr. P. 8013. Under federal law, prejudgment interest on damages is ordinarily allowed absent some justification for not granting such an award. Stevenson v. Bradford & Co. (In re Cannon), 230 BR 546, 600 (Bankr. W.D. Tenn. 1999) (citing United States Indus., Inc. v. Touche Ross & Co., 854 F2d 1223, 1256-57 (10th Cir. 1988); City of Milwaukee v. Cement Div., Nat’l Gypsum Co., 515 US 189, 115 SCt 2091, 2096, 132 LEd2d 148 (1995)). Other courts have allowed for the calculation of prejudgment interest in fraudulent transfer cases to ensure the bankruptcy estate is made whole. Jackson v. Star Sprinkler Corp. of Florida, 575 F2d 1223, 1235 (8th Cir. 1977). Such awards are especially the case when fraud or bad faith are found in connection with the transfer. Id.; see also 5 Lawrence P. King, Collier on Bankruptcy ¶550.02[3][b] (15th rev. ed. 1999). Because the bankruptcy court did find that constructive fraud was involved in the transfer, it was not an abuse of discretion to award prejudgment interest from the date of the transfer. Hayes v. Palm Seedlings Partners, (In re Agricultural Research & Tech. Group, Inc.), 916 F2d 528, 541 (9th Cir. 1990).
[¶38] The bankruptcy court did, however, improperly determine the amount of prejudgment interest. The bankruptcy court improperly attempted to amend its judgment after notice of appeal had been filed by Schmid. Both the judgment and amended judgment amounts, $14,456.75 and $13,795.32 respectively, were incorrect.
[¶39] Prejudgment interest on a federal judgment awarded under federal law is calculated in accordance with 28 USC § 1961(a), using Treasury Bill prices. Gray v. Travelers Ins. Co., (In re Neponset River Paper Co.), 219 BR 918, 921 (Bankr. D. Mass. 1998). The Treasury Bill rate at the time of judgment in this matter was 4.78 percent. Prejudgment interest based on a federal court judgment based on state law is calculated under state law. Stevenson, 230 BR at 601. Pursuant to SDCL 21-1-13.1, prejudgment interest is calculated as a Category B interest rate, which is 10 percent per year. SDCL 54-3-16. Under state law, the interest is not compounded, but is applied at this simple rate. Tri-State Refining & Investment Co. v. Apaloosa Co., 431 NW2d 311, 316-17 (SD 1988). When state and federal remedies overlap, a trustee is entitled to the maximum amount of prejudgment interest under either theory. Grogan v. Garner, 806 F2d 829 (8th Cir. 1986). Because the state rate of 10 percent is higher, it is the appropriate rate to be used to determine prejudgment interest.
[¶40] Under state law the principal judgment amount is multiplied by 10 percent and divided by 365 days. This yields a per diem rate of $10.53. This per diem amount of $10.53 is then multiplied by the same number of 1,172 days which the fraudulent conveyance existed. The amount of prejudgment interest that should have been awarded is $12,341.16.
[¶41] Based on the above discussion, it is hereby
[¶42] ORDERED that the judgment of the bankruptcy court is affirmed except for the calculation of prejudgment interest, which issue shall be remanded to the bankruptcy court for entry of judgment consistent with this opinion.
Footnotes
1. The Honorable Irvin N. Hoyt, United States Bankruptcy Court for the District of South Dakota.
2. In the interests of clarity, this Court will describe the entity in question as “L.L.C.” rather than VAL Partnership throughout the rest of this opinion.
3. SDCL 47-34-32 (Supp. 1999) states:
47-34-32. Order of payments after dissolution — Assets proportioned among members. In settling accounts after dissolution, the liabilities of the limited liability company are entitled to payment in the following order:
(1) Those to creditors, in the order of priority as provided by law, except those to members of the limited liability company on account of their contributions;
(2) Those to members of the limited liability company in respect to their share of the profits and other compensation by way of income on their contributions; and
(3) Those to members of the limited liability company in respect to their contributions to capital.
Subject to any statement in the operating agreement, members share in the limited liability company assets in respect to their claims for capital and in respect to their claims for profits or for compensation by way of income on their contributions, respectively, in proportion to the respective amounts of the claims.
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