20 Ostrow[1] - Forensic Solvency Analysis in Bankruptcy...

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Unformatted text preview: Forensic Solvency Analysis in Bankruptcy Alec Ostrow Comments and opinions expressed by the speaker do not necessarily reflect the positions, opinions or beliefs of the AICPA and should not be construed or interpreted as such. Speakers retain the copyright for all of the following materials. Any replication without written consent is unlawful. Session 20 AICPA NATIONAL FORENSIC ACCOUNTING CONFERENCE AICPA National Forensic Accounting Conference Alec P. Ostrow Stevens & Lee, P.C. September 24, 2009 The Swan Hotel, Orlando, Florida STEVENS & LEE Forensic Solvency Analysis in Bankruptcy When a Solvency (or Similar) Analysis Is Used In Lawsuits Preferences Fraudulent Transfers Breach of Fiduciary Duty In Plan Confirmation “Best Interest” Test – Liquidation Value “Cram Down” – “Fair and Equitable” Distribution STEVENS & LEE 20-1 Forensic Solvency Analysis in Bankruptcy General Bankruptcy Code Definition of “Insolvent” sum of entity’s debts is greater than all of entity’s property at “fair valuation,” excluding property transferred, concealed, or removed with intent to hinder, delay or defraud creditors; and an individual’s exempt property Separate Definitions When Entity Is a partnership or a municipality STEVENS & LEE Forensic Solvency Analysis in Bankruptcy Bankruptcy Code Definition of “Debt” Liability on a “Claim” Bankruptcy Code Definition of “Claim” Right to Payment, whether or not Liquidated, Fixed, Contingent, Matured, Disputed, Secured; or Right to an Equitable Remedy for Breach of Performance, If Breach Gives Rise to a Right of Payment (Defined Above) STEVENS & LEE 20-2 Forensic Solvency Analysis in Bankruptcy *** Conclusion: Solvency Analysis ≠ GAAP STEVENS & LEE Forensic Solvency Analysis in Bankruptcy Preference Lawsuits Transfers: to or for the benefit of a creditor on account of antecedent debt made while insolvent within 90 days of bankruptcy (I year if creditor is “insider”) enables creditor to do better than a hypothetical distribution in a bankruptcy liquidation case STEVENS & LEE 20-3 Forensic Solvency Analysis in Bankruptcy Preference Lawsuits - Principal Defenses Contemporaneous exchange for new value Ordinary course transaction subjectively ordinary (as between the parties); or objectively ordinary (industry standard) Subsequent New Value “Earmarking” – mere substitution of creditors with no diminution in value of property STEVENS & LEE Forensic Solvency Analysis in Bankruptcy Fraudulent Transfer Lawsuits Actual Intent to Hinder, Delay or Defraud “Badges of Fraud” Analysis Debtor transfers ownership or title, but retains possession, use or benefit secret transactions transfers to family members or dummy corporations transfers when financial problems on horizon gratuitous transfers, or little received in exchange STEVENS & LEE 20-4 Forensic Solvency Analysis in Bankruptcy Fraudulent Transfer Lawsuits Constructive Intent Debtor Receives Less than Reasonably Equivalent Value in Exchange for Transfer, and Any of the following Debtor Insolvent Debtor Has Unreasonably Small Capital Debtor Knows It Will Incur Debts Beyond Its Ability to Pay When Due STEVENS & LEE Forensic Solvency Analysis in Bankruptcy Breach of Fiduciary Duty Lawsuits Major Fiduciary Duties of Corporate Directors and Officers Duty of Care (prevent waste) Duty of Loyalty (not benefit themselves) Lawsuit Belongs to Corporation, with Derivative Right of Shareholders Creditors Have Derivative Right, if Corporation Is Insolvent or in the “Zone” or “Vicinity” of Insolvency STEVENS & LEE 20-5 Forensic Solvency Analysis in Bankruptcy Plan Confirmation Issue – “Best Interests” Test One Requirement to Confirm Chapter 11 Plan Is That: Every Member of a Creditor or Equity Holder Class Votes to accept its treatment under the Plan; or Receives a distribution whose value is at least as good as Liquidation Value (Note: All class members must receive the same treatment, except those who agree to take something less favorable) STEVENS & LEE Forensic Solvency Analysis in Bankruptcy Plan Confirmation Issue – “Cram Down” One Requirement to Confirm Chapter 11 Plan Is That: Each Class of Creditors or Equity Holders Whose Legal, Equitable or Contractual Rights Are Changed Votes to Accept Its Treatment The Alternative to this Requirement is “Cram Down” STEVENS & LEE 20-6 Forensic Solvency Analysis in Bankruptcy Plan Confirmation Issue – “Cram Down” A Plan Can Be “Crammed Down” On a Dissenting Class, If It Is “Fair and Equitable” and Does Not Discriminate Unfairly STEVENS & LEE Forensic Solvency Analysis in Bankruptcy Plan Confirmation Issue – “Cram Down” “Fair and Equitable” generally means that the distributions under the Plan obey the “Absolute Priority Rule” All debt comes ahead of any equity Senior debt gets satisfied before junior debt can participate STEVENS & LEE 20-7 Forensic Solvency Analysis in Bankruptcy Plan Confirmation Issue – “Cram Down” To “Cram Down” On a Dissenting Class Give it distributions having a present value equal to payment in full (for a creditor class), or Give it distributions having a present value equal to its appropriate share (“Enterprise Value” less distributions to senior classes); and Wipe out all junior classes STEVENS & LEE Forensic Solvency Analysis in Bankruptcy Investigative Methods – Turnover and Access Turnover – Trustee (or Debtor in Possession in a Chapter 11 Case) Is entitled to possession of all books and records of the debtor Access to Recorded Information – Trustee (or Debtor in Possession) Is entitled to access to records and documents containing the debtor’s financial information from attorneys and accountants, subject to applicable privileges Enforceable by court order STEVENS & LEE 20-8 Forensic Solvency Analysis in Bankruptcy Investigative Methods – Rule 2004 Examination Bankruptcy Rule 2004 permits the court to order the examination of any entity concerning the acts, conduct, property, liabilities and financial condition of the Debtor Document production also Described as a “Fishing Expedition” Ordinary litigation relevance rules don’t apply Generally not available after litigation has started STEVENS & LEE Forensic Solvency Analysis in Bankruptcy Determining “Fair Valuation” Liquidation Value vs. Going Concern Value Depends on Purpose of Valuation For Lawsuits: Use Going Concern Value If Business Was Operating at Point of Time at Issue Use Liquidation Value If Business Was Winding Down For Chapter 11 Plan Issues Use Going Concern Values If Business Will Operate After Plan Is Put into Effect Use Liquidation Values Otherwise, and for “Best Interests” Test STEVENS & LEE 20-9 Forensic Solvency Analysis in Bankruptcy Determining “Fair Valuation Importing Asset Valuation Methods Discounted Cash Flow Market Capitalization Appraisals and Comparable Sales Specialized Markets Premiums and Discounts STEVENS & LEE Forensic Solvency Analysis in Bankruptcy “Booking” Contingent Liabilities Guaranties, Warranties, Lawsuits, Environmental Exposure FASB 5 Has Been Used Successfully – Loss Is Probable Capable of Reasonable Estimation Hindsight generally prohibited Best Available Information allowed Theory should work for contingent assets, too STEVENS & LEE 20-10 Forensic Solvency Analysis in Bankruptcy Timing Issues – Insolvency As of Specific Date Date of Specific Transfer (Lawsuits) Effective Date of Plan (Plan Issues) Start by Constructing “Insolvency” Balance Sheet(s) as of “End Point” Date(s) When Most Accounting Information Is Available End of calendar or fiscal year or quarter End of month STEVENS & LEE Forensic Solvency Analysis in Bankruptcy Timing Issues – Insolvency As of Specific Date Use of “Retrojection” Assets and liabilities of an operating business fluctuate daily Solvency or Insolvency as of required date earlier than “End Point” or in between “End Points” assumed to be the same as at “End Point” unless Material event has occurred, in which case Adjust for each material event STEVENS & LEE 20-11 Forensic Solvency Analysis in Bankruptcy **** Questions STEVENS & LEE Forensic Solvency Analysis in Bankruptcy **** Thank you STEVENS & LEE 20-12 ...
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This note was uploaded on 01/12/2012 for the course ACCT 555 taught by Professor Briggs during the Spring '11 term at University of Texas at Dallas, Richardson.

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