Appeals from the United States District Court for the District of New Jersey, D.C. Civil No. 85-1728.
The ultimate question for decision in these appeals by purchasers of federal government securities repurchase agreements ("repos"), is whether the Chapter 11 bankruptcy trustee of a bankrupt securities dealer may avoid certain pre-petition deliveries of securities to the purchasers.
The trustee contends the deliveries are avoidable as preferential transfers. The purchasers argue that the deliveries are protected by provisions of Chapter 11 designed to exempt participants in repurchase agreements from avoidance actions.
The appeals come to us in the form of two questions certified under 28 U.S.C. § 1292(b) and Rule 5, Fed. R. App. P. The questions require us to interpret provisions of the Bankruptcy Amendments and Federal Judgeship Act of 1984, Pub.L.No. 98-353, 98 Stat. 333. We must decide:
Whether section 546(f) of the Bankruptcy Code, 11 U.S.C. § 546(f), bars a Chapter 11 trustee from utilizing sections 547 and 548 to recover securities or their proceeds from a repo participant;
Whether section 559 of the Code, 11 U.S.C. § 559, bars a Chapter 11 trustee from claiming the proceeds of a repurchase agreement liquidated by a repo participant.
The district court answered both questions in the negative and found for the trustee. The repo purchasers have appealed. Jurisdiction was proper in the district court based on 28 U.S.C. § 1334(b). Jurisdiction on appeal is proper based on 28 U.S.C. § 1292(b). The appeals were timely filed under Rule 4(a), Fed. R. App. P. We answer these questions in the affirmative and will reverse the order of the district court.
The dispute here arises out of certain transfers of federal government securities from Bevill, Bresler & Schulman Asset Management Corporation (AMC) to appellants, Niagara County Savings Bank, City of Allentown, City of Harrisburg, and Spencer Savings & Loan Association. The transfers were made pursuant to repurchase agreements between the appellants and AMC. A standard repurchase agreement, commonly called a "repo, consists of a two-part transaction. The first part is the transfer of specified securities by one party, the dealer, to another party, the purchaser, in exchange for cash. The second part consists of a contemporaneous agreement by the dealer to repurchase the securities at the original price, plus an agreed upon additional amount on a specified future date. A "reverse repo" is the identical transaction viewed from the perspective of the dealer who purchases securities with an agreement to resell. See 11 U.S.C. § 101(40)-(41); see also S. Rep. No. 65, 98th Cong., 1st Sess. 44 n. 1 (1983).
AMC is one of several hundred secondary dealers in government securities. Secondary dealers are to be distinguished from primary dealers who purchase securities directly from the Federal Reserve. Savings and loan associations and local governments make up a significant number of customers engaging in repo transactions with secondary dealers. Other customers include money market and mutual funds, pension funds, insurance, financial and other corporations, and foreign investors.
Under the repurchase agreements here, the individual appellants agreed to purchase certain securities from AMC and simultaneously agreed to sell the securities back to AMC on an agreed upon date and for an agreed upon price. The appellants had entered into a type of repurchase agreement with AMC known as a "hold-in-custody" agreement. AMC initially retained possession of the securities. Appellants did not take physical possession of the securities until several weeks after entering into the agreements. Less than ninety days later, AMC filed a voluntary petition for reorganization under Chapter 11. Appellee, Saul S. Cohen, was appointed trustee for AMC. After the Chapter 11 petition was filed, appellants liquidated the securities.
On April 8, 1985, the Securities and Exchange Commission filed a complaint against AMC and related individuals, alleging securities fraud. The complaint said that the dealer perpetrated a massive fraud upon its customers consisting of the sale of the same securities to multiple customers, and the sale of non-existent securities. According to the trustee, the claims of AMC's repo customers totaled approximately $207 million, and exceeded by over $140 million the value of the securities in AMC's possession as of the date the Chapter 11 commenced.
In April 1987, the trustee filed a complaint seeking to avoid the transfers of securities to the appellants, and to receive either a return of the securities, or award of equivalent money damages. The trustee alleged that AMC's pre-petition deliveries of the securities to each of the appellants were voidable under 11 U.S.C. § 547 (" . . . the trustee may avoid any transfer of an interest of the debtor in property -- (4) made -- (A) on or within 90 days before the date of filing of the petition . . .") and 11 U.S.C. § 548 ("The trustee may avoid any transfer of an interest of the debtor in property, or any obligation incurred by the debtor, that was made or incurred in or written one year before the filing of the petition, if the debtor . . . received less than a reasonably equivalent value in exchange . . . .").
Appellants filed a joint motion to dismiss the complaint under Rule 12(b) (6), Fed.R.Civ.P., for failure to state a claim under which relief could be granted. The basis of the motion was that the trustee's preference actions were barred by 11 U.S.C. §§ 546(f) and 559.
11 U.S.C. § 546(f) provides:
Notwithstanding sections 544, 545, 547, 548(a) (2), and 548(b) of this title, the trustee may not avoid a transfer that is a margin payment, as defined in § 741(5) or 761(15) of this title, or settlement payment, as defined in § 741(8) of this title, made by or to a repo participant in connection with a repurchase agreement and that is made before the commencement of the case, except under section 548(a) (1) of this title.
11 U.S.C. § 559 provides in pertinent part:
The exercise of a contractual right of a repo participant to cause the liquidation of a repurchase agreement because of a condition of the kind specified in section 365(e) (1) of this title shall not be stayed, avoided, or otherwise limited by operation of any provision of this title or by order of a court or administrative agency in any proceeding under this title. . . .
The district court denied the repo purchasers' joint motion to dismiss, holding that section 546(f) of the Code did not insulate the deliveries from avoidance under section 547 or 548 because the deliveries were not "settlement payments" within the meaning of section 741(8). The court also held that because the transfers were preferential, the repo purchasers had no rights under 11 U.S.C. § 559 to liquidate the securities and retain the proceeds. The district court issued an opinion from the bench, entered an order denying the motion to dismiss the complaint, and later certified the questions for an interlocutory appeal. We granted the appellant's petition to appeal from the interlocutory order of the district court.
It must be emphasized that this court is not reviewing all the proceedings that took place in the district court. We are called upon to decide only the issues presented by the certified questions.
In reaching its holding, the district court assumed that none of the securities in question had been "delivered" to the repo purchasers prior to the physical transfer of possession. The court based this assumption on its earlier conclusion that the securities had not been previously "delivered" within the meaning of the Uniform Commercial Code (UCC). See In the Matter of Bevill, Bresler & Schulman Asset Management Corp., 67 Bankr. 557 (D.N.J. 1986) ("Test Cases"). In the Test Cases, the district court held, inter alia, that repos are purchases and sales of securities. Id. at 598. We accept that characterization
The test cases also determined that a repo purchaser would be considered as "owning" the securities, even though the securities were in the custody of the seller, provided that those securities were "delivered" or "transferred" under the UCC. Id. at 603. If the district court had determined in the test cases that a UCC delivery had taken place and, that ownership of the securities here had passed prior to physical delivery, we would not be involved in the present litigation. For there could have been no preference, because there would have been no "antecedent debt" satisfied by the deliveries. Under such interpretation, the repo purchasers would not be considered creditors of AMC, but owners of the securities.
We will proceed in this case under the assumption that the district court was correct in its analysis of the ownership characteristics of these transactions. We emphasize, however, that this is an assumption we are constrained to make because of the limited nature of the review of certified questions. We specifically do not meet the question whether the district court erred in its determination of what constitutes transfer of ownership under repo market practices. We decide only whether the district court misinterpreted and misapplied sections 546(f) and 559 of the Code.
Appellants argue that the district court decision was a restrictive and erroneous interpretation of "settlement payment" as set forth in section 546(f). Appellants also contend that the district court decision failed to recognize the flexible and varied settlement practices in the government securities market, an understanding which is key to the proper interpretation and application of the statutory sections at issue.
The issues before us are questions of first impression involving statutory interpretation as to which this court has plenary review. Creque v. Luis, 803 F.2d 92, 93 (3d Cir. 1986).
Before proceeding to the controlling statutes, we, as did Congress, deem it advisable to emphasize the important role that repo transactions have in our nation's economy. In 1983, it was estimated that the aggregate daily volume of repo transactions amounted to several hundred billion dollars. S.Rep. No. 65, 98th Cong., 1st Sess. 45 (1983) ("1983 Senate report"). More recently, it has been reported that the aggregate daily repo volume during the week of November 9, 1988, was approximately $600 billion. Br. for amicus curiae (Public Securities Assoc. (PSA)) at 10 n. 10 (citing Fed.Res.Bull. at A32 (Fed. 1989) (Table 1.43)). By contrast, the record volume of stock exchange and over-the-counter trades during the week of October 26, 1987 (when stock trades for the week of October 19, 1987 settled) has been estimated to have been less than $200 billion. Id. (citing Division of Market Regulation, U.S. Securities and Exchange Commission, The October 1987 Market Break at 10-1, appearing in, The Stock Market Crash, October 19, 1987: Reports, Studies and Testimony, Vol. 1, (1980)). Repos involve large amounts of money (agreements are usually for $500,000 or more), are typically of limited duration, often for just one night, and are usually closed by an oral agreement subject to written confirmation. See SEC v. Miller, 495: F. Supp. 465, 469 (S.D.N.Y. 1980).
The repo market is used by the Federal Reserve System to help execute monetary policy, and serves to finance the national debt at the lowest possible cost. Repos are an attractive cash-management investment for businesses, ...