Halperin Battaglia Benzija, LLP partner Alan D. Halperin is the litigation trustee of the trust that emerged from the chapter 11 cases of Tops Holding II Corporation and its affiliated debtors, a grocery store chain based in upstate New York. As Trustee, Mr. Halperin sued certain former owners and directors of Tops on behalf of unsecured creditors, principally asserting that the owners acquired Tops largely by burdening it with massive debt, and that the defendants as a group paid themselves hundreds of millions of dollars in dividends when Tops was insolvent. Bankruptcy Judge Robert Drain, in his final decision before retiring from the bench, issued a powerful decision largely denying the defendants’ motions to dismiss the complaint, paving the way for the trust to move forward with its litigation. Below is an article from the New York Law Journal regarding the decision.
In Final Decision as He Retires From Bench, Judge Says Current Bankruptcy Law Allows Private Equity to ‘Loot’ Companies
New York Law Journal
October 20, 2022
The Southern District of New York bankruptcy judge whose notable cases includes the Purdue Pharma restructuring used his parting ruling after two decades on the bench to call on Congress to tighten laws that he says give private equity a “broad free pass” to plunder businesses.
U.S. Bankruptcy Judge Robert Drain allowed a trustee in the bankruptcy for upstate New York grocery store chain Tops Market to proceed with a lawsuit alleging that Morgan Stanley, which had a controlling stake in Tops from 2007 to 2013, and other investors pushed Tops into Chapter 11 proceedings by paying themselves more than $375 million in stock dividends while neglecting to address the chain’s unfunded pension liabilities.
The investors paid $300 million for Tops—with two-thirds of the sum paid for with debt incurred by the company itself, according to court papers. At that time, Tops was the largest employer participating in a United Food & Commercial Workers pension plan and, according to an internal memo within Morgan Stanley that Drain quoted in his ruling , there was enough concern about chronic underinvestment into the company’s pension liabilities that the investors decreased its original purchase offer of $415 million.
According to court documents, Tops’ pension withdrawal liabilities grew from $85 million to more than $515 million under Morgan Stanley’s ownership.
But despite Tops’ financial worries, according to court papers, the company paid more than $375 million in four dividends funded by loans and by slashing capital expenses.
Tops’ management acquired the company from the investors and filed for Chapter 11 reorganization in 2018. Prior to the bankruptcy, Tops operated 169 stores in upstate New York, Pennsylvania and Vermont, and had about 14,000 employees.
Alan Halperin, a bankruptcy trustee, alleges in a lawsuit filed in 2020 that dividends paid out during Morgan Stanley’s ownership of Tops rendered the company insolvent—thus forcing it to file for Chapter 11 protection.
The trustee also alleges that the payouts amounted to fraudulent transfers, but the defendants countered that the claims are time-barred and that the dividends were shielded from those claims in part by the so-called “safe harbor” provisions of the bankruptcy code.
In a 109-page ruling denying the investors’ motion to dismiss, Drain waved off the investors’ defenses and questioned why Congress, through the current reading of the bankruptcy code, “has put the courts to all this parsing and hair splitting over (a) whether a transaction is one or many and, if many, has the avoidable transaction has been properly identified, or (b) whether there is a qualifying participant that is a proper customer, agent, or custodian.”
“Given the importance of fraudulent transfer law in bankruptcy cases, Congress should act to restrict to public transactions its current overly broad free pass in section 546(e) that has informed the playbook of private loan and equity participants to loot privately held companies to the detriment of their non-insider creditors with effective impunity,” Drain said. “This is no trivial matter.”
The judge added: “There is little doubt that the same playbook has been followed since the dates of the foregoing analyses and will continue to be followed unless Congress acts.”
McKool Smith represents Halperin in the suit.
“We are happy with the decision and look forward to prosecuting the case for the benefit of the creditors of Tops,” McKool Smith principal Kyle Lonergan said in a statement issued by the firm.
Morgan Stanley, represented by attorneys from O’Melveny & Myers, declined to comment on Drain’s ruling.
The judge noted that the ruling would be his last as he retires from the bench, capping off a 20-year tenure on the bankruptcy bench in which he presided over reorganizations for prominent companies that, in addition to Purdue Pharma, includes Sears and Hostess Brands.