Receivers handling Ponzi schemes and fraud cases are familiar with the concept of suing the “winners” in the scheme to recover transfers made to them in excess of their investment. Such suits are based on the theory that the excess payments are fraudulent transfers. Indeed, it is generally accepted that where a Ponzi scheme is involved, no value is given for the excess payments received by investors. Donell v. Kowell, 533 F.3d 762 (9th Cir. 2008). Cases are split on whether parties that aided the fraud, such as brokers or sales people, can be held liable for payments they received. A number of cases hold that these parties can be held liable, reasoning that all transfers made from a Ponzi scheme are fraudulent transfers, because the operator of the scheme knows that later investors will not be paid and, therefore, has the actual intent to hinder, delay or defraud them. These cases hold that the defense to a fraudulent transfer claim – that the recipient of the transfer acted in “good faith” and gave “reasonably equivalent value” for the transfers – is lacking when someone is paid for aiding a scheme. This is because, even if they did not know about the fraud, they did not give anything of value for the payment they received. The entity involved, or its creditors, did not receive anything of value by encouraging more investors to invest; in fact the entity only became more in debt. See e.g., Warfield v. Byron, 436 F.3d 551 (5th Cir. 2006); In re Randy, 189 B.R. 425 (Bankr. N. D. Ill. 1995).
These cases judge value by what the entity in receivership or the investors received for the payment made, rather than what the recipient of the payment gave. Cases going the other way look at what the recipient gave and whether that was of value. For example, services rendered to pitch the scheme might be deemed consideration that is sufficient to protect the transfer. See e.g., In re Churchhill Mortg. Inv. Corp., 256 B.R. 664 (Bankr. S.D.N.Y. 2000). These cases warn that if that is not the case, even innocent trade creditors – the landlord or the pizza delivery man – might be found liable for payments made to them.
The Fifth Circuit, in a new case arising out of the Allen Stanford Ponzi scheme, found The Golf Channel liable to return nearly $6 million dollars paid to it for advertising services it provided that aided the scheme. Janvey v. The Golf Channel, F.3d, 2015 WL 1058022 (5th Cir. Mar. 11, 2015). That court found that the advertising did not provide reasonably equivalent value from the standpoint of the Stanford creditors.
The court started its analysis by stating that fraudulent transfer laws “were enacted to protect creditors against depletion of the debtor’s estate” and allow creditors to void fraudulent transfers and force the transferee to return the transfer. Id. at *2. A transfer is fraudulent if it is made “with actual intent to hinder, delay or defraud any creditor of the debtor.” California Civil Code § 3439.04(a)(1). Most circuits have held that a Ponzi scheme establishes fraudulent intent in making the transfers (often called the “Ponzi presumption”) because the transferor knows he or she is defrauding the investors. Donell, supra.; Warfield, supra.
A transferee has a defense if it can establish two elements: (1) that it took the transfer in ‘good faith’; and (2) that in return for the transfer it gave the debtor “reasonably equivalent value.” California Civil Code § 3439.08(a). While the receiver did not challenge whether The Golf Channel took the payments it received in good faith, the court held, as a matter of law, that the advertising was of no value viewed from the standpoint of the creditors. It cited comments to the Uniform Fraudulent Transfer Act that the definition of value was modeled after the bankruptcy code and that “the purpose of the act [is] to protect a debtor’s estate from being depleted to the prejudice of the debtor’s creditors. Consideration having no utility from a creditor’s standpoint does not satisfy the statutory definition.” Id. at *3 (emphasis in original). Based on that definition and a number of cases the court cited, the court held, “we measure of value ‘from the standpoint of the creditors,’ and not from that a buyer in the marketplace.” Id. at *4. The court also cited: (1) Warfield, supra., where it held that commissions paid to a broker for securing new investors in a Ponzi scheme were voidable, even if the broker was unaware of the fraud; and (2) Donell, supra. “that interest payments made to investors in a Ponzi scheme ‘are merely used to keep the fraud going by giving the false impression that the scheme is a profitable, legitimate business’ and do not compensate for the time value of money.” The Golf Channel at *5 fn.6.
The Golf Channel argued that it was an innocent trade creditor simply promoting a business brand and it should be treated differently from a broker who tries to secure new investments in the scheme. The Court rejected this plea, stating that the law makes no distinction between different types of services or transferees and that there is no authority to create an exception for “trade creditors.” Id. at*5.
Some commentators have complained that the case goes too far and lament that, should every business have to do a financial prostate exam of every customer who happens to be a money manager? Unless the Supreme Court grants review, it appears to be a hole-in-one for the receiver. Indeed, news reports state that the Stanford receiver has claims against seven other sports marketing deals involving $36 million dollars – which had been stayed pending The Golf Channel decision.