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Practical and entertaining education for
attorneys, accountants, business owners and
executives, and investors.
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Thank You To Our Sponsor:
Insider Lease Agreements (Series: Fairness Issues in Real Estate-Based Bankruptcies)
Disclaimer
The material in this webinar is for informational purposes only. It should not be considered
legal, financial or other professional advice. You should consult with an attorney or other
appropriate professional to determine what may be best for your individual needs. While
Financial Poise™ takes reasonable steps to ensure that information it publishes is accurate,
Financial Poise™ makes no guaranty in this regard.
5
Meet the Faculty
MODERATOR:
David Levy - Keen-Summit Capital Partners and Summit Investment Management
PANELISTS:
Matthew Christensen - Angstman Johnson
Robert Richards - Dentons
Jonathan Aberman - Dykema
6
About This Webinar
Insider Lease Agreements
It is a common play in real estate to create a separate operating entity to serve as a tenant
and execute a lease between the owner of the property and himself. Typically, this happens
in assets which serve as a real estate-based business, such as a retail property. The
structured enables the operator to reduce the taxable income of the business and also
provide a liability shield for the property owner.
This arrangement can lead to some ethical issues, should the property owner become
distressed. For example, is the lease amount above market and therefore being used to
inflate the property valuation? Is rent actually being paid? Is there a proper lease in place or
just an internal handshake? Attorneys need to understand the set-up in order to know what is
in bounds and what is outside the lines.
7
About This Series
Fairness Issues in Real Estate-Based Bankruptcies
It does not take a complex corporate chapter 11 bankruptcy to encounter serious ethical issues that must
be confronted in a case. In fact, the relative simplicity of a real estate-based bankruptcy will shine the
light on all of the main case details, bringing increased scrutiny to all of the debtor’s actions and
decisions. Real estate-based bankruptcies are some of the most common matters filed. As an attorney,
you are your client’s advocate and need to navigate the waters to provide effective counsel while playing
within rules. In this series we tackle some common ethical scenarios that present themselves in real
estate-focused bankruptcies frequently, including matters related to valuing assets, insider lease
agreements, and Single Asset Real Estate (SARE) cases. At the end you will be better equipped to
answer questions like Is your client being astute or asinine? This this scheme clever or cagey? Under the
rules of bankruptcy, is an inside arrangement shady or shrewd?
Each Financial Poise Webinar is delivered in Plain English, understandable to investors, business owners, and
executives without much background in these areas, yet is of primary value to attorneys, accountants, and other
seasoned professionals. Each episode brings you into engaging, sometimes humorous, conversations designed to
entertain as it teaches. Each episode in the series is designed to be viewed independently of the other episodes so that
participants will enhance their knowledge of this area whether they attend one, some, or all episodes.
8
Episodes in this Series
#1: Valuing Real Estate Assets
Premiere date: 1/26/21
#2: Insider Lease Agreements
Premiere date: 3/2/21
#3: Single Asset Real Estate Cases
Premiere date: 3/23/21
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Episode #2
Insider Lease Agreements
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What Are Ethics?
Webster: (noun) The discipline dealing with what is good and bad and with moral
duty and obligation; The principles of conduct governing an individual or a group; A
guiding philosophy; A set of moral issues or aspects (such as rightness)
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Legal Ethics
The American Bar Association (ABA) Model Rules of Professional Conduct were adopted by
the ABA House of Delegates in 1983. They supply the general ethical rules which govern the
practice of law which have been adopted by most states and jurisdictions.
A number of the Model Rules are implicated in bankruptcy cases (as they are in litigation in
general). Examples include the lawyer’s duty to bring meritorious claims, to be truthful with
the Court (and not withhold information relating to criminal or fraudulent enterprises), to be fair
to opposing party/counsel, to refrain from engaging in conduct which would disrupt a
proceeding or seek to exert undue influence on any Judge or party, and to be truthful in
statements to the Court and to others.
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Model Rules of Professional Conduct
Rule 1.7: Conflict of Interest: Current Clients
Rule 3.3: Candor Toward the Tribunal
Rule 4.3: Dealing with Unrepresented Person
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Applicable Bankruptcy Code
Bankruptcy Code Section 327- Employing Professionals
Bankruptcy Code Section 101(14) – Disinterested Person
Bankruptcy Rule 365 – Ability to Reject Lease
Bankruptcy Rule 2014- Application For And Order of Employment
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Non-Statutory Insider Tests
―Closeness‖ approach, which considers ―whether there is a close relationship [between debtor and
creditor] and ... anything other than closeness to suggest that any transactions were not conducted at
arm’s length.‖ See, e.g., Schubert v. Lucent Techs. Inc. (In re Winstar Commc’ns Inc.), 554 F.3d 382,
396-97 (3d Cir. 2009).
―Control‖ approach, which considers whether the alleged insider exercised ―sufficient authority over the
debtor so as to unqualifiably dictate corporate policy and disposition of corporate assets.‖ See, e.g.,
Butler v. David Shaw Inc., 72 F.3d 437, 443 (4th Cir. 1996)
―Similarity‖ approach, which examines whether the ―the alleged insider holds a position substantially
similar to the position specified in [§ 101(31)].‖ See, e.g., In re Longview Aluminum LLC, 657 F.3d 507,
509 (7th Cir. 2011).
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What Roles do Leases Play in Bankruptcy Cases
• Income to debtor
• Business operations footprint, particularly in retail
• Obligation of debtor
• Plan of reorganization
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Sides of the Matter
• Debtor: Are the leases an asset or burden to the business?
• Lender: Do non-strategic leases have any value if sold? Does rationalizing store lead to a
viable restructuring plan?
• Judge: Is the debtor taking any actions that are preferential to some creditors versus
others? Issues between insider relationship between landlords and debtor must be identified
and resolved.
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Ethical Situation Case Studies
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In re Scott Acquisition Corp.
Scotty's, Inc. is the wholly-owned subsidiary of Scott Acquisition Corp. Prior to their bankruptcy,
Scotty's, Inc. and Scott Acquisition Corp. (collectively, the ―Debtors‖) were retailers of building
materials and home improvement products for the ―do it yourself‖ home improvement market. The
defendants were the individual officers and directors of Scotty's, Inc. (―Scotty's‖). The complaint
alleges the defendants' misconduct as follows. In 1998, Scotty's entered into a Loan and Security
Agreement with Congress Financial Corporation (―Congress‖). Under that agreement, Congress
loaned Scotty's certain sums of money and took a security interest in substantially all of the
Debtors' property. Scotty's, however, was unable to make the required loan payments. As a result,
Scotty's and Congress made various amendments to the loan agreement. During negotiations
relating to the loan, Congress expressed its desire to have Scotty's divest itself of its real estate
holdings and pay down the amounts owed to Congress. This would not only reduce the amount
owed to Congress, but would also allow inventory to be the sole focus of Congress' security
interest. Having inventory as the only collateral would allow Congress with a quick exit strategy—
payment on a potential Scotty's liquidation.
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In re Scott Acquisition Corp.
As such, Scotty's began divesting itself of its real estate holdings on a sale-and-leaseback
basis. Some properties were sold to independent third parties. Others, however, were sold to
entities controlled by certain of the defendants. These insider defendants, through the
controlled entities, paid less than fair market value for Scotty's choice real estate. In return,
Scotty's received no more favorable treatment on the terms of the leases than it would have
with third parties. Throughout, Scotty's failed to solicit and consider third party offers for the
purchase of its choice real estate. Further, Scotty's failed to seek any independent
consideration or review of these insider sale-and-leaseback transactions. Accordingly, the
complaint alleges that the defendants, the officers and directors of Scotty's, breached their
fiduciary duties of care and loyalty in several respects. The complaint also alleges that the
defendants had knowledge and rendered substantial assistance with regard to one another's
breaches of fiduciary duties.
20
Defined Terms
Insider: An insider is a person or business that’s in a close relationship with a debtor (the
person filing for bankruptcy), including relatives, any partnership in which the debtor is a
general partner, any general partner of the debtor or any corporation in which the debtor is a
director, officer, or person in control. A variety of tests can be used to determine an insider
relationship include closeness, similarity, and control.
Leasehold Interest: Claim or right to enjoy the exclusive possession and use of an asset or
property for a stated definite period, as created by a written lease. A long-term lease interest
is a valuable asset in its own right which can be traded or mortgaged as a physical asset.
Model Rule: Rule 1.7: Conflict of Interest: Current Clients
21
In re Edgewater Medical Center
Background: Chapter 11 debtor-in-possession brought adversary proceeding against its landlord and
their common principal to set aside alleged fraudulent transfers and to recover on breach of contract,
breach of fiduciary duty and other theories. The Bankruptcy Court, Bruce W. Black, J., held that:
1.No ―transfer‖ of interest of the debtor in property occurred, of kind potentially subject to avoidance, upon
expiration of debtor's purchase option under lease;
2.Debtor failed to show that it was insolvent or rendered insolvent by challenged rent payments;
3.Landlord breached covenant of good faith and fair dealing;
4.Debtor's chief executive officer (CEO) breached his fiduciary duties in allegedly obtaining inflated
appraisals of leased property that debtor had option to purchase at its appraised value, so as to ensure
that debtor would not exercise this purchase option, and that lessor, another corporation that CEO
controlled, would continue to collect allegedly exorbitant rent;
5.Debtor was entitled to specific performance of option, as well as return of rent;
6.Punitive damages were warranted; and
7.Doubts about whether debtor was prevailing party counseled against attorney fee award.
Are there ethical implications of this lease arrangement? Is this shady or shrewd?
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Definitions
Executory Contract: Contract between a debtor and another party under which both sides still have
important performance remaining. Such agreements may be rejected in the bankruptcy. A lease is
considered an executory contract.
Preferential Payment: When a company in trouble has made or elects to make payments to on creditor
ahead of others without a sound reason to do so other than following the personal preferences of the
Directors.
23
In Re: 148 South Emerson Partners, LLC v. 148 South
Emerson Associates, LLC
Appellate Division of the Supreme Court of New York, Second Department, January 24, 2018
Four business partners, Drew Doscher, Michael Meagher, Michael Meyer, and Stephen Smith, formed a
company to operate a restaurant (―Emerson Associates‖) and a separate company to own and lease to
Emerson Associates the property at which the restaurant operated (―Emerson Partners‖). Years later,
Meagher, Smith and Meyer, holding a combined 75% of the interests of Emerson Partners, voted to evict
Emerson Associates from the property, which Doscher opposed. Doscher presented a lease that he
argued governed the landlord-tenant relationship between Emerson Partners and Emerson Associates.
However, the lease was undated and the signatories on behalf of Emerson Partners and Emerson
Associates were not identified. Doscher provided no evidence that the lease was ever presented to
Meagher, Smith or Meyer or even any correspondence regarding the lease existed. Further, while
Emerson Associates paid rent and real estate taxes and liability insurance for the property, as well as
constructed $1 million in improvements to the property, Doscher could not provide evidence that such
payments were made pursuant to the lease (the terms of the lease did not match) or that Emerson
Partners knew it was accepting payments pursuant to a lease. The court thus determined that no valid
lease existed between Emerson Partners and Emerson Associates.
24
Definition
Plan of Reorganization: The plan of reorganization outlines how the debtor will reorganize its business,
administer its assets, make distributions to creditors and emerge from bankruptcy. In order to move
forward with the plan of reorganization, it must be voted on by the various classes of creditors, satisfy the
specific dictates of the Bankruptcy Code, and be confirmed by the Bankruptcy Court.
Model Rule:
Rule 4.3: Dealing with Unrepresented Person
25
Personal Touch Holding Corp. v. Felix Glaubach, D.D.S.
Delaware Chancery Court, February 25, 2019
Defendant Felix Glaubach, president of plaintiff Personal Touch Holding Corp., purchased a building that
the plaintiff was interested in acquiring as office space. The court found that the defendant had violated
his duty of loyalty to the plaintiff because the plaintiff was able to afford the building, there was a clear
expectation that the plaintiff would purchase it, the purchase was within the plaintiff’s line of business, and
the defendant’s actions were harmful to the plaintiff. The plaintiff was awarded damages in the amount of
the difference between the value of the building at the time of the defendant’s purchase and the value of
the building at the time of the trial.
In the same case, the defendant also leased a building to the plaintiff that was owned by an entity 50%
owned by the defendant and 50% by the defendant’s partner (the ―SPE‖). The defendant signed a five-
year lease on behalf of the plaintiff for the building at a rent that was above market by a total of
$1,270,000. The defendant’s partner signed the lease on behalf of the SPE and set the above-market
rental rate. The court found the lease to be self-dealing by the defendant and the defendant’s partner and
ordered the defendant to pay half of the above-market rent. Even though the defendant did not set the
above-market rental rate, the court found that the defendant violated his duty of loyalty to the plaintiff
because the transaction was unfair, regardless of whether the defendant acted in subjective good faith.
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Personal Touch Holding Corp. v. Felix Glaubach, D.D.S.
Are there ethical implications of this valuation method? Is this cleaver or cagey?
Model Rule:
Rule 3.3: Candor Toward the Tribunal
27
Applicable Bankruptcy Code Sections
Bankruptcy Code Section 327
(a)Except as otherwise provided in this section, the trustee, with the court’s approval, may employ one or
more attorneys, accountants, appraisers, auctioneers, or other professional persons, that do not hold or
represent an interest adverse to the estate, and that are disinterested persons, to represent or assist the
trustee in carrying out the trustee’s duties under this title.
Bankruptcy Code Section 101(14)
The term ―disinterested person‖ means a person that— (A) is not a creditor, an equity security holder, or
an insider; (B) is not and was not, within 2 years before the date of the filing of the petition, a director,
officer, or employee of the debtor; and (C) does not have an interest materially adverse to the interest of
the estate or of any class of creditors or equity security holders, by reason of any direct or indirect
relationship to, connection with, or interest in, the debtor, or for any other reason.
Bankruptcy Code Section 365
Bankruptcy Code §365(a) provides that "the trustee, subject to the court's approval, may assume or
reject any executory contract or unexpired lease of the debtor."
28
Applicable Bankruptcy Code Sections
Bankruptcy Rule 2014:
(a) APPLICATION FOR AND ORDER OF EMPLOYMENT. An order approving the employment of attorneys,
accountants, appraisers, auctioneers, agents, or other professionals pursuant to §327, §1103, or §1114
of the Code shall be made only on application of the trustee or committee. The application shall be filed
and, unless the case is a chapter 9 municipality case, a copy of the application shall be transmitted by the
applicant to the United States trustee. The application shall state the specific facts showing the necessity
for the employment, the name of the person to be employed, the reasons for the selection, the
professional services to be rendered, any proposed arrangement for compensation, and, to the best of
the applicant's knowledge, all of the person's connections with the debtor, creditors, any other party in
interest, their respective attorneys and accountants, the United States trustee, or any person employed in
the office of the United States trustee. The application shall be accompanied by a verified statement of
the person to be employed setting forth the person's connections with the debtor, creditors, any other
party in interest, their respective attorneys and accountants, the United States trustee, or any person
employed in the office of the United States trustee.
29
Model Rules Defined
Rule 1.7: Conflict of Interest: Current Clients
(a) Except as provided in paragraph (b), a lawyer shall not represent a client if the representation involves
a concurrent conflict of interest.
A concurrent conflict of interest exists if:
(1) the representation of one client will be directly adverse to another client; or
(2) there is a significant risk that the representation of one or more clients will be materially limited by the
lawyer's responsibilities to another client, a former client or a third person or by a personal interest of the
lawyer.
(b) Notwithstanding the existence of a concurrent conflict of interest under paragraph (a), a lawyer may
represent a client if:
(1) the lawyer reasonably believes that the lawyer will be able to provide competent and diligent
representation to each affected client;
(2) the representation is not prohibited by law;
(3) the representation does not involve the assertion of a claim by one client against another client
represented by the lawyer in the same litigation or other proceeding before a tribunal; and
(4) each affected client gives informed consent, confirmed in writing.
30
Model Rules Defined
Rule 3.3: Candor Toward the Tribunal
Advocate
(a) A lawyer shall not knowingly:
(1) make a false statement of fact or law to a tribunal or fail to correct a false statement of material fact or
law previously made to the tribunal by the lawyer;
(2) fail to disclose to the tribunal legal authority in the controlling jurisdiction known to the lawyer to be
directly adverse to the position of the client and not disclosed by opposing counsel; or
31
Model Rules Defined
Rule 3.3: Candor Toward the Tribunal
Advocate
(a) A lawyer shall not knowingly:
(3) offer evidence that the lawyer knows to be false. If a lawyer, the lawyer’s client, or a witness called by
the lawyer, has offered material evidence and the lawyer comes to know of its falsity, the lawyer shall
take reasonable remedial measures, including, if necessary, disclosure to the tribunal. A lawyer may
refuse to offer evidence, other than the testimony of a defendant in a criminal matter, that the lawyer
reasonably believes is false.
(b) A lawyer who represents a client in an adjudicative proceeding and who knows that a person intends
to engage, is engaging or has engaged in criminal or fraudulent conduct related to the proceeding shall
take reasonable remedial measures, including, if necessary, disclosure to the tribunal.
(c) The duties stated in paragraphs (a) and (b) continue to the conclusion of the proceeding, and apply
even if compliance requires disclosure of information otherwise protected by Rule 1.6.
(d) In an ex parte proceeding, a lawyer shall inform the tribunal of all material facts known to the lawyer
that will enable the tribunal to make an informed decision, whether or not the facts are adverse.
32
Model Rules Defined
Rule 4.3: Dealing with Unrepresented Person
In dealing on behalf of a client with a person who is not represented by counsel, a lawyer
shall not state or imply that the lawyer is disinterested. When the lawyer knows or reasonably
should know that the unrepresented person misunderstands the lawyer’s role in the matter,
the lawyer shall make reasonable efforts to correct the misunderstanding. The lawyer shall
not give legal advice to an unrepresented person, other than the advice to secure counsel, if
the lawyer knows or reasonably should know that the interests of such a person are or have a
reasonable possibility of being in conflict with the interests of the client.
33
About the Faculty
34
About The Faculty
David Levy – dlevy@keen-summit.com
David is head of the Keen-Summit Capital Partners and Summit Investment Management
Chicago office. He responsible for all aspects of business development and execution in
connection with the company’s distressed debt acquisitions and opportunistic credit
transactions, plus real estate brokerage and auction, investment banking, and lease
modification and restructuring services. David has more than 13 year’s experience in real
estate advisory and transaction experience, with particular expertise in workout, bankruptcy,
and other special situations. David holds both the Certified Commercial Investment Member
(CCIM) and Certified Auctioneers Institute (CAI) designations, making one of fewer than fifty
professionals in the United States to hold both. He is a frequent speaker and moderator on
real estate restructuring programs, a member of the Turnaround Management Association
Chicago/Midwest Board of Directors, and has held various leadership roles on the American
Bankruptcy Institute Real Estate Committee.
35
About The Faculty
Matthew Christensen - mtc@angstman.com
Matt Christensen joined Angstman Johnson in 2008 as an associate attorney. Now a member of the firm,
Matt has a civil litigation practice involving commercial law (finance and secured transactions),
bankruptcy, real property, and business matters. He also has a transactional practice involving real
estate, finance and business matters, including franchising. Matt frequently represents bankruptcy
trustees and other fiduciaries in recovering assets and administering estates. Prior to joining the firm, Matt
was a Junior Partner at a Meridian, Idaho, law firm and also established a solo practice. In addition to
practicing law, Matt is an adjunct professor at the University of Idaho College of Law where he teaches
international trade/business, real estate transactions and law practice management courses. Matt
obtained his Bachelor of Arts in International Studies from Brigham Young University in 2002. He earned
his J.D. and LL.M in International and Comparative Law degrees from Duke University School of Law in
2005. While at Duke, he was an Articles Editor for the Duke Journal of Gender Law & Policy.
In addition to practicing law and teaching, Matt also enjoys spending as much time as possible with his
wife and five children and expanding his ever-growing library of books.
To read more, go to: https://www.financialpoise.com/financialpoisewebinars/faculty/matthew-christensen/
36
About The Faculty
Robert Richards - robert.richards@dentons.com
Bob Richards is chair of Dentons’ Global and US Restructuring, Insolvency and Bankruptcy
practice groups and practices in the areas of bankruptcy and insolvency-related transactions
and litigation. His practice includes Chapter 11 representations, distressed asset acquisitions,
distressed loan purchases and foreclosure sales, and out of court transactions and transaction
structuring. Bob is recommended by Chambers USA (2018), where he is praised as ―a superb
attorney with great legal skills and a creative mind, someone who gets things done and
overcomes hurdles.‖ He is also recommended in Best Lawyers Illinois (2018) and The Legal
500 US (2014-2015), which notes his ―first rate technical skills as well as first rate business
skills.‖ BTI Consulting Group surveyed in-house counsel and named Bob as a BTI Client
Service All-Star (2015) in recognition of his superior client service.
37
About The Faculty
Jonathan Aberman - jaberman@dykema.com
Jonathan E. Aberman leads the Chicago Bankruptcy, Insolvency & Creditors' Rights practice and is
a member of the Business Services, Corporate Finance and Financial Industries Groups. Mr.
Aberman's national practice is committed to helping clients find creative, valuable and cost-effective
solutions to complex bankruptcy and insolvency-related problems, both in and out of court. He has
helped businesses, banks and non-bank lenders, finance companies, special servicers and other
secured and unsecured creditors protect their assets and interests in bankruptcy cases, workouts
and restructurings, foreclosures, receiverships and assignments for the benefit of creditors. In
addition, he regularly structures business deals and financial transactions with these situations in
mind. He has also represented buyers and sellers of assets in the distressed marketplace,
including Bankruptcy Code Section 363 sales and sales under Article 9 of the Uniform Commercial
Code.
To read more, go to: https://www.financialpoise.com/webinar-faculty/jonathan-aberman/
38
Questions or Comments?
If you have any questions about this webinar that you did not get to ask during the live
premiere, or if you are watching this webinar On Demand, please do not hesitate to email us
at info@financialpoise.com with any questions or comments you may have. Please include
the name of the webinar in your email and we will do our best to provide a timely response.
IMPORTANT NOTE: The material in this presentation is for general educational purposes
only. It has been prepared primarily for attorneys and accountants for use in the pursuit of
their continuing legal education and continuing professional education.
39
Insider Lease Agreements (Series: Fairness Issues in Real Estate-Based Bankruptcies)
Insider Lease Agreements (Series: Fairness Issues in Real Estate-Based Bankruptcies)
ABOUT DailyDAC
DailyDAC.com is the leading source of
information about assignments, article 9,
bankruptcy, receiverships, out-of-court
workouts and vulture investing, designed
for business owners and vulture
investors.
Visit us at www.dailydac.com.
Premium Public Notice Service
DailyDAC’s Premium Public Notice Service helps market
asset sales on behalf of fiduciaries (e.g., Chapter 11 debtors-
in-possession and committees, trustees, receivers,
assignees), secured lenders selling collateral under UCC
Article 9, and auctioneers to a very large and self-selected
group of potential bidders and their advisors. The Service
also assists with noticing other events, deadlines, and
milestones – including tombstones and other press releases.
Our free weekly newsletter, DailyDAC contains our
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About Financial Poise
43
DailyDAC LLC, d/b/a Financial Poise™ provides
continuing education to attorneys, accountants,
business owners and executives, and investors. It’s
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Insider Lease Agreements (Series: Fairness Issues in Real Estate-Based Bankruptcies)

  • 1. 1
  • 2. 2 Practical and entertaining education for attorneys, accountants, business owners and executives, and investors.
  • 3. 3 Thank You To Our Sponsor:
  • 5. Disclaimer The material in this webinar is for informational purposes only. It should not be considered legal, financial or other professional advice. You should consult with an attorney or other appropriate professional to determine what may be best for your individual needs. While Financial Poise™ takes reasonable steps to ensure that information it publishes is accurate, Financial Poise™ makes no guaranty in this regard. 5
  • 6. Meet the Faculty MODERATOR: David Levy - Keen-Summit Capital Partners and Summit Investment Management PANELISTS: Matthew Christensen - Angstman Johnson Robert Richards - Dentons Jonathan Aberman - Dykema 6
  • 7. About This Webinar Insider Lease Agreements It is a common play in real estate to create a separate operating entity to serve as a tenant and execute a lease between the owner of the property and himself. Typically, this happens in assets which serve as a real estate-based business, such as a retail property. The structured enables the operator to reduce the taxable income of the business and also provide a liability shield for the property owner. This arrangement can lead to some ethical issues, should the property owner become distressed. For example, is the lease amount above market and therefore being used to inflate the property valuation? Is rent actually being paid? Is there a proper lease in place or just an internal handshake? Attorneys need to understand the set-up in order to know what is in bounds and what is outside the lines. 7
  • 8. About This Series Fairness Issues in Real Estate-Based Bankruptcies It does not take a complex corporate chapter 11 bankruptcy to encounter serious ethical issues that must be confronted in a case. In fact, the relative simplicity of a real estate-based bankruptcy will shine the light on all of the main case details, bringing increased scrutiny to all of the debtor’s actions and decisions. Real estate-based bankruptcies are some of the most common matters filed. As an attorney, you are your client’s advocate and need to navigate the waters to provide effective counsel while playing within rules. In this series we tackle some common ethical scenarios that present themselves in real estate-focused bankruptcies frequently, including matters related to valuing assets, insider lease agreements, and Single Asset Real Estate (SARE) cases. At the end you will be better equipped to answer questions like Is your client being astute or asinine? This this scheme clever or cagey? Under the rules of bankruptcy, is an inside arrangement shady or shrewd? Each Financial Poise Webinar is delivered in Plain English, understandable to investors, business owners, and executives without much background in these areas, yet is of primary value to attorneys, accountants, and other seasoned professionals. Each episode brings you into engaging, sometimes humorous, conversations designed to entertain as it teaches. Each episode in the series is designed to be viewed independently of the other episodes so that participants will enhance their knowledge of this area whether they attend one, some, or all episodes. 8
  • 9. Episodes in this Series #1: Valuing Real Estate Assets Premiere date: 1/26/21 #2: Insider Lease Agreements Premiere date: 3/2/21 #3: Single Asset Real Estate Cases Premiere date: 3/23/21 9
  • 10. Episode #2 Insider Lease Agreements 10
  • 11. What Are Ethics? Webster: (noun) The discipline dealing with what is good and bad and with moral duty and obligation; The principles of conduct governing an individual or a group; A guiding philosophy; A set of moral issues or aspects (such as rightness) 11
  • 12. Legal Ethics The American Bar Association (ABA) Model Rules of Professional Conduct were adopted by the ABA House of Delegates in 1983. They supply the general ethical rules which govern the practice of law which have been adopted by most states and jurisdictions. A number of the Model Rules are implicated in bankruptcy cases (as they are in litigation in general). Examples include the lawyer’s duty to bring meritorious claims, to be truthful with the Court (and not withhold information relating to criminal or fraudulent enterprises), to be fair to opposing party/counsel, to refrain from engaging in conduct which would disrupt a proceeding or seek to exert undue influence on any Judge or party, and to be truthful in statements to the Court and to others. 12
  • 13. Model Rules of Professional Conduct Rule 1.7: Conflict of Interest: Current Clients Rule 3.3: Candor Toward the Tribunal Rule 4.3: Dealing with Unrepresented Person 13
  • 14. Applicable Bankruptcy Code Bankruptcy Code Section 327- Employing Professionals Bankruptcy Code Section 101(14) – Disinterested Person Bankruptcy Rule 365 – Ability to Reject Lease Bankruptcy Rule 2014- Application For And Order of Employment 14
  • 15. Non-Statutory Insider Tests ―Closeness‖ approach, which considers ―whether there is a close relationship [between debtor and creditor] and ... anything other than closeness to suggest that any transactions were not conducted at arm’s length.‖ See, e.g., Schubert v. Lucent Techs. Inc. (In re Winstar Commc’ns Inc.), 554 F.3d 382, 396-97 (3d Cir. 2009). ―Control‖ approach, which considers whether the alleged insider exercised ―sufficient authority over the debtor so as to unqualifiably dictate corporate policy and disposition of corporate assets.‖ See, e.g., Butler v. David Shaw Inc., 72 F.3d 437, 443 (4th Cir. 1996) ―Similarity‖ approach, which examines whether the ―the alleged insider holds a position substantially similar to the position specified in [§ 101(31)].‖ See, e.g., In re Longview Aluminum LLC, 657 F.3d 507, 509 (7th Cir. 2011). 15
  • 16. What Roles do Leases Play in Bankruptcy Cases • Income to debtor • Business operations footprint, particularly in retail • Obligation of debtor • Plan of reorganization 16
  • 17. Sides of the Matter • Debtor: Are the leases an asset or burden to the business? • Lender: Do non-strategic leases have any value if sold? Does rationalizing store lead to a viable restructuring plan? • Judge: Is the debtor taking any actions that are preferential to some creditors versus others? Issues between insider relationship between landlords and debtor must be identified and resolved. 17
  • 19. In re Scott Acquisition Corp. Scotty's, Inc. is the wholly-owned subsidiary of Scott Acquisition Corp. Prior to their bankruptcy, Scotty's, Inc. and Scott Acquisition Corp. (collectively, the ―Debtors‖) were retailers of building materials and home improvement products for the ―do it yourself‖ home improvement market. The defendants were the individual officers and directors of Scotty's, Inc. (―Scotty's‖). The complaint alleges the defendants' misconduct as follows. In 1998, Scotty's entered into a Loan and Security Agreement with Congress Financial Corporation (―Congress‖). Under that agreement, Congress loaned Scotty's certain sums of money and took a security interest in substantially all of the Debtors' property. Scotty's, however, was unable to make the required loan payments. As a result, Scotty's and Congress made various amendments to the loan agreement. During negotiations relating to the loan, Congress expressed its desire to have Scotty's divest itself of its real estate holdings and pay down the amounts owed to Congress. This would not only reduce the amount owed to Congress, but would also allow inventory to be the sole focus of Congress' security interest. Having inventory as the only collateral would allow Congress with a quick exit strategy— payment on a potential Scotty's liquidation. 19
  • 20. In re Scott Acquisition Corp. As such, Scotty's began divesting itself of its real estate holdings on a sale-and-leaseback basis. Some properties were sold to independent third parties. Others, however, were sold to entities controlled by certain of the defendants. These insider defendants, through the controlled entities, paid less than fair market value for Scotty's choice real estate. In return, Scotty's received no more favorable treatment on the terms of the leases than it would have with third parties. Throughout, Scotty's failed to solicit and consider third party offers for the purchase of its choice real estate. Further, Scotty's failed to seek any independent consideration or review of these insider sale-and-leaseback transactions. Accordingly, the complaint alleges that the defendants, the officers and directors of Scotty's, breached their fiduciary duties of care and loyalty in several respects. The complaint also alleges that the defendants had knowledge and rendered substantial assistance with regard to one another's breaches of fiduciary duties. 20
  • 21. Defined Terms Insider: An insider is a person or business that’s in a close relationship with a debtor (the person filing for bankruptcy), including relatives, any partnership in which the debtor is a general partner, any general partner of the debtor or any corporation in which the debtor is a director, officer, or person in control. A variety of tests can be used to determine an insider relationship include closeness, similarity, and control. Leasehold Interest: Claim or right to enjoy the exclusive possession and use of an asset or property for a stated definite period, as created by a written lease. A long-term lease interest is a valuable asset in its own right which can be traded or mortgaged as a physical asset. Model Rule: Rule 1.7: Conflict of Interest: Current Clients 21
  • 22. In re Edgewater Medical Center Background: Chapter 11 debtor-in-possession brought adversary proceeding against its landlord and their common principal to set aside alleged fraudulent transfers and to recover on breach of contract, breach of fiduciary duty and other theories. The Bankruptcy Court, Bruce W. Black, J., held that: 1.No ―transfer‖ of interest of the debtor in property occurred, of kind potentially subject to avoidance, upon expiration of debtor's purchase option under lease; 2.Debtor failed to show that it was insolvent or rendered insolvent by challenged rent payments; 3.Landlord breached covenant of good faith and fair dealing; 4.Debtor's chief executive officer (CEO) breached his fiduciary duties in allegedly obtaining inflated appraisals of leased property that debtor had option to purchase at its appraised value, so as to ensure that debtor would not exercise this purchase option, and that lessor, another corporation that CEO controlled, would continue to collect allegedly exorbitant rent; 5.Debtor was entitled to specific performance of option, as well as return of rent; 6.Punitive damages were warranted; and 7.Doubts about whether debtor was prevailing party counseled against attorney fee award. Are there ethical implications of this lease arrangement? Is this shady or shrewd? 22
  • 23. Definitions Executory Contract: Contract between a debtor and another party under which both sides still have important performance remaining. Such agreements may be rejected in the bankruptcy. A lease is considered an executory contract. Preferential Payment: When a company in trouble has made or elects to make payments to on creditor ahead of others without a sound reason to do so other than following the personal preferences of the Directors. 23
  • 24. In Re: 148 South Emerson Partners, LLC v. 148 South Emerson Associates, LLC Appellate Division of the Supreme Court of New York, Second Department, January 24, 2018 Four business partners, Drew Doscher, Michael Meagher, Michael Meyer, and Stephen Smith, formed a company to operate a restaurant (―Emerson Associates‖) and a separate company to own and lease to Emerson Associates the property at which the restaurant operated (―Emerson Partners‖). Years later, Meagher, Smith and Meyer, holding a combined 75% of the interests of Emerson Partners, voted to evict Emerson Associates from the property, which Doscher opposed. Doscher presented a lease that he argued governed the landlord-tenant relationship between Emerson Partners and Emerson Associates. However, the lease was undated and the signatories on behalf of Emerson Partners and Emerson Associates were not identified. Doscher provided no evidence that the lease was ever presented to Meagher, Smith or Meyer or even any correspondence regarding the lease existed. Further, while Emerson Associates paid rent and real estate taxes and liability insurance for the property, as well as constructed $1 million in improvements to the property, Doscher could not provide evidence that such payments were made pursuant to the lease (the terms of the lease did not match) or that Emerson Partners knew it was accepting payments pursuant to a lease. The court thus determined that no valid lease existed between Emerson Partners and Emerson Associates. 24
  • 25. Definition Plan of Reorganization: The plan of reorganization outlines how the debtor will reorganize its business, administer its assets, make distributions to creditors and emerge from bankruptcy. In order to move forward with the plan of reorganization, it must be voted on by the various classes of creditors, satisfy the specific dictates of the Bankruptcy Code, and be confirmed by the Bankruptcy Court. Model Rule: Rule 4.3: Dealing with Unrepresented Person 25
  • 26. Personal Touch Holding Corp. v. Felix Glaubach, D.D.S. Delaware Chancery Court, February 25, 2019 Defendant Felix Glaubach, president of plaintiff Personal Touch Holding Corp., purchased a building that the plaintiff was interested in acquiring as office space. The court found that the defendant had violated his duty of loyalty to the plaintiff because the plaintiff was able to afford the building, there was a clear expectation that the plaintiff would purchase it, the purchase was within the plaintiff’s line of business, and the defendant’s actions were harmful to the plaintiff. The plaintiff was awarded damages in the amount of the difference between the value of the building at the time of the defendant’s purchase and the value of the building at the time of the trial. In the same case, the defendant also leased a building to the plaintiff that was owned by an entity 50% owned by the defendant and 50% by the defendant’s partner (the ―SPE‖). The defendant signed a five- year lease on behalf of the plaintiff for the building at a rent that was above market by a total of $1,270,000. The defendant’s partner signed the lease on behalf of the SPE and set the above-market rental rate. The court found the lease to be self-dealing by the defendant and the defendant’s partner and ordered the defendant to pay half of the above-market rent. Even though the defendant did not set the above-market rental rate, the court found that the defendant violated his duty of loyalty to the plaintiff because the transaction was unfair, regardless of whether the defendant acted in subjective good faith. 26
  • 27. Personal Touch Holding Corp. v. Felix Glaubach, D.D.S. Are there ethical implications of this valuation method? Is this cleaver or cagey? Model Rule: Rule 3.3: Candor Toward the Tribunal 27
  • 28. Applicable Bankruptcy Code Sections Bankruptcy Code Section 327 (a)Except as otherwise provided in this section, the trustee, with the court’s approval, may employ one or more attorneys, accountants, appraisers, auctioneers, or other professional persons, that do not hold or represent an interest adverse to the estate, and that are disinterested persons, to represent or assist the trustee in carrying out the trustee’s duties under this title. Bankruptcy Code Section 101(14) The term ―disinterested person‖ means a person that— (A) is not a creditor, an equity security holder, or an insider; (B) is not and was not, within 2 years before the date of the filing of the petition, a director, officer, or employee of the debtor; and (C) does not have an interest materially adverse to the interest of the estate or of any class of creditors or equity security holders, by reason of any direct or indirect relationship to, connection with, or interest in, the debtor, or for any other reason. Bankruptcy Code Section 365 Bankruptcy Code §365(a) provides that "the trustee, subject to the court's approval, may assume or reject any executory contract or unexpired lease of the debtor." 28
  • 29. Applicable Bankruptcy Code Sections Bankruptcy Rule 2014: (a) APPLICATION FOR AND ORDER OF EMPLOYMENT. An order approving the employment of attorneys, accountants, appraisers, auctioneers, agents, or other professionals pursuant to §327, §1103, or §1114 of the Code shall be made only on application of the trustee or committee. The application shall be filed and, unless the case is a chapter 9 municipality case, a copy of the application shall be transmitted by the applicant to the United States trustee. The application shall state the specific facts showing the necessity for the employment, the name of the person to be employed, the reasons for the selection, the professional services to be rendered, any proposed arrangement for compensation, and, to the best of the applicant's knowledge, all of the person's connections with the debtor, creditors, any other party in interest, their respective attorneys and accountants, the United States trustee, or any person employed in the office of the United States trustee. The application shall be accompanied by a verified statement of the person to be employed setting forth the person's connections with the debtor, creditors, any other party in interest, their respective attorneys and accountants, the United States trustee, or any person employed in the office of the United States trustee. 29
  • 30. Model Rules Defined Rule 1.7: Conflict of Interest: Current Clients (a) Except as provided in paragraph (b), a lawyer shall not represent a client if the representation involves a concurrent conflict of interest. A concurrent conflict of interest exists if: (1) the representation of one client will be directly adverse to another client; or (2) there is a significant risk that the representation of one or more clients will be materially limited by the lawyer's responsibilities to another client, a former client or a third person or by a personal interest of the lawyer. (b) Notwithstanding the existence of a concurrent conflict of interest under paragraph (a), a lawyer may represent a client if: (1) the lawyer reasonably believes that the lawyer will be able to provide competent and diligent representation to each affected client; (2) the representation is not prohibited by law; (3) the representation does not involve the assertion of a claim by one client against another client represented by the lawyer in the same litigation or other proceeding before a tribunal; and (4) each affected client gives informed consent, confirmed in writing. 30
  • 31. Model Rules Defined Rule 3.3: Candor Toward the Tribunal Advocate (a) A lawyer shall not knowingly: (1) make a false statement of fact or law to a tribunal or fail to correct a false statement of material fact or law previously made to the tribunal by the lawyer; (2) fail to disclose to the tribunal legal authority in the controlling jurisdiction known to the lawyer to be directly adverse to the position of the client and not disclosed by opposing counsel; or 31
  • 32. Model Rules Defined Rule 3.3: Candor Toward the Tribunal Advocate (a) A lawyer shall not knowingly: (3) offer evidence that the lawyer knows to be false. If a lawyer, the lawyer’s client, or a witness called by the lawyer, has offered material evidence and the lawyer comes to know of its falsity, the lawyer shall take reasonable remedial measures, including, if necessary, disclosure to the tribunal. A lawyer may refuse to offer evidence, other than the testimony of a defendant in a criminal matter, that the lawyer reasonably believes is false. (b) A lawyer who represents a client in an adjudicative proceeding and who knows that a person intends to engage, is engaging or has engaged in criminal or fraudulent conduct related to the proceeding shall take reasonable remedial measures, including, if necessary, disclosure to the tribunal. (c) The duties stated in paragraphs (a) and (b) continue to the conclusion of the proceeding, and apply even if compliance requires disclosure of information otherwise protected by Rule 1.6. (d) In an ex parte proceeding, a lawyer shall inform the tribunal of all material facts known to the lawyer that will enable the tribunal to make an informed decision, whether or not the facts are adverse. 32
  • 33. Model Rules Defined Rule 4.3: Dealing with Unrepresented Person In dealing on behalf of a client with a person who is not represented by counsel, a lawyer shall not state or imply that the lawyer is disinterested. When the lawyer knows or reasonably should know that the unrepresented person misunderstands the lawyer’s role in the matter, the lawyer shall make reasonable efforts to correct the misunderstanding. The lawyer shall not give legal advice to an unrepresented person, other than the advice to secure counsel, if the lawyer knows or reasonably should know that the interests of such a person are or have a reasonable possibility of being in conflict with the interests of the client. 33
  • 35. About The Faculty David Levy – dlevy@keen-summit.com David is head of the Keen-Summit Capital Partners and Summit Investment Management Chicago office. He responsible for all aspects of business development and execution in connection with the company’s distressed debt acquisitions and opportunistic credit transactions, plus real estate brokerage and auction, investment banking, and lease modification and restructuring services. David has more than 13 year’s experience in real estate advisory and transaction experience, with particular expertise in workout, bankruptcy, and other special situations. David holds both the Certified Commercial Investment Member (CCIM) and Certified Auctioneers Institute (CAI) designations, making one of fewer than fifty professionals in the United States to hold both. He is a frequent speaker and moderator on real estate restructuring programs, a member of the Turnaround Management Association Chicago/Midwest Board of Directors, and has held various leadership roles on the American Bankruptcy Institute Real Estate Committee. 35
  • 36. About The Faculty Matthew Christensen - mtc@angstman.com Matt Christensen joined Angstman Johnson in 2008 as an associate attorney. Now a member of the firm, Matt has a civil litigation practice involving commercial law (finance and secured transactions), bankruptcy, real property, and business matters. He also has a transactional practice involving real estate, finance and business matters, including franchising. Matt frequently represents bankruptcy trustees and other fiduciaries in recovering assets and administering estates. Prior to joining the firm, Matt was a Junior Partner at a Meridian, Idaho, law firm and also established a solo practice. In addition to practicing law, Matt is an adjunct professor at the University of Idaho College of Law where he teaches international trade/business, real estate transactions and law practice management courses. Matt obtained his Bachelor of Arts in International Studies from Brigham Young University in 2002. He earned his J.D. and LL.M in International and Comparative Law degrees from Duke University School of Law in 2005. While at Duke, he was an Articles Editor for the Duke Journal of Gender Law & Policy. In addition to practicing law and teaching, Matt also enjoys spending as much time as possible with his wife and five children and expanding his ever-growing library of books. To read more, go to: https://www.financialpoise.com/financialpoisewebinars/faculty/matthew-christensen/ 36
  • 37. About The Faculty Robert Richards - robert.richards@dentons.com Bob Richards is chair of Dentons’ Global and US Restructuring, Insolvency and Bankruptcy practice groups and practices in the areas of bankruptcy and insolvency-related transactions and litigation. His practice includes Chapter 11 representations, distressed asset acquisitions, distressed loan purchases and foreclosure sales, and out of court transactions and transaction structuring. Bob is recommended by Chambers USA (2018), where he is praised as ―a superb attorney with great legal skills and a creative mind, someone who gets things done and overcomes hurdles.‖ He is also recommended in Best Lawyers Illinois (2018) and The Legal 500 US (2014-2015), which notes his ―first rate technical skills as well as first rate business skills.‖ BTI Consulting Group surveyed in-house counsel and named Bob as a BTI Client Service All-Star (2015) in recognition of his superior client service. 37
  • 38. About The Faculty Jonathan Aberman - jaberman@dykema.com Jonathan E. Aberman leads the Chicago Bankruptcy, Insolvency & Creditors' Rights practice and is a member of the Business Services, Corporate Finance and Financial Industries Groups. Mr. Aberman's national practice is committed to helping clients find creative, valuable and cost-effective solutions to complex bankruptcy and insolvency-related problems, both in and out of court. He has helped businesses, banks and non-bank lenders, finance companies, special servicers and other secured and unsecured creditors protect their assets and interests in bankruptcy cases, workouts and restructurings, foreclosures, receiverships and assignments for the benefit of creditors. In addition, he regularly structures business deals and financial transactions with these situations in mind. He has also represented buyers and sellers of assets in the distressed marketplace, including Bankruptcy Code Section 363 sales and sales under Article 9 of the Uniform Commercial Code. To read more, go to: https://www.financialpoise.com/webinar-faculty/jonathan-aberman/ 38
  • 39. Questions or Comments? If you have any questions about this webinar that you did not get to ask during the live premiere, or if you are watching this webinar On Demand, please do not hesitate to email us at info@financialpoise.com with any questions or comments you may have. Please include the name of the webinar in your email and we will do our best to provide a timely response. IMPORTANT NOTE: The material in this presentation is for general educational purposes only. It has been prepared primarily for attorneys and accountants for use in the pursuit of their continuing legal education and continuing professional education. 39
  • 42. ABOUT DailyDAC DailyDAC.com is the leading source of information about assignments, article 9, bankruptcy, receiverships, out-of-court workouts and vulture investing, designed for business owners and vulture investors. Visit us at www.dailydac.com. Premium Public Notice Service DailyDAC’s Premium Public Notice Service helps market asset sales on behalf of fiduciaries (e.g., Chapter 11 debtors- in-possession and committees, trustees, receivers, assignees), secured lenders selling collateral under UCC Article 9, and auctioneers to a very large and self-selected group of potential bidders and their advisors. The Service also assists with noticing other events, deadlines, and milestones – including tombstones and other press releases. Our free weekly newsletter, DailyDAC contains our latest bankruptcy article, current Public Notices and all opportunistic deals added to our proprietary database that week. Sign up at: https://www.dailydac.com/dacyak-weekly-newsletter-signup/
  • 43. About Financial Poise 43 DailyDAC LLC, d/b/a Financial Poise™ provides continuing education to attorneys, accountants, business owners and executives, and investors. It’s websites, webinars, and books provide Plain English, entertaining, explanations about legal, financial, and other subjects of interest to these audiences. Visit us at www.financialpoise.com Our free weekly newsletter, Financial Poise Weekly, updates you on new articles published on our website and Upcoming Webinars you may be interested in. To join our email list, please visit: https://www.financialpoise.com/subscribe/