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Receiverships
August 20, 2007
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New York Law Journal
Receiverships can be an agile and effective litigation tool both for the private party and for the government, particularly in connection with law enforcement. However, they can also be slow, cumbersome and so expensive as to outweigh any advantages they might offer.
Like a restraining order or injunction, the receivership remedy can be obtained at the outset of a litigation, as a matter of preliminary relief, as well as a final and permanent remedy. Unlike the restraining order or injunction, an order of receivership is an organic remedy that persists and changes as the need arises.
At essence, a receiver is an individual appointed by the court with such powers as the court deems appropriate to take control of property of the defendant, usually to identify, marshal and preserve the property, manage it, and frequently liquidate the property. Thus, a receiver can be appointed to take over the operation of a legitimate business that was being used to perpetrate a fraud or to locate assets stolen from the victims of a Ponzi scheme.
Although receiverships are a standard and important weapon in the prejudgment relief arsenal, they are probably the least well known of those weapons and certainly the least understood. Both members of the bar and the bench can be surprisingly ignorant and inexperienced in the area; although most practitioners and virtually all jurists have experience with temporary restraining orders and the like, the same cannot be said about receiverships.
This informational gap can be devastating, especially considering how often they are used. In the regulatory area, receiverships are quite prevalent.
The Securities and Exchange Commission frequently seeks and obtains the appointment of an equity receiver in fraud cases, and the Federal Deposit Insurance Corporation is often appointed pursuant to the Federal Institutions Reform, Recovery and Enforcement Act of 1989 to serve as receiver of failed financial institutions. Of course, private civil litigants can seek the appointment of a receiver to take over the affairs of an enterprise accused of defrauding the plaintiff.
When a receivership is requested or ordered, inexperienced counsel is at a distinct disadvantage, no matter how much experience he or she has in the underlying causes of action. For example, counsel might be faced with deciding whether to seek the appointment of one as preliminary relief or may have to deal very quickly with an application for an appointment of one.
When facing a receiver, there will be issues about the receiver's ability to act, either because the court might not have personal jurisdiction over the defendant or the receiver might be stopped from pursuing the action. Totally divorced from the underlying merits of the action, counsel will likely have to understand the notion of a fraudulent conveyance - an act that sounds like it should be an intrinsically bad thing but in fact need not involve fraud at all. And that's just the beginning.
There are, as with most cases, a myriad of issues of which counsel must be aware when dealing with a receiver, either as proponent or opponent. This article will address a few of these issues.
Jurisdiction
The reach of the receiver's jurisdiction is deceptively simple.
The receiver, and the court appointing the receiver, have jurisdiction over property located within the jurisdiction in which the receiver is appointed. In addition, where receivership property (usually defined in the receivership order) is located in other jurisdictions, the receiver can obtain jurisdiction over that property simply by filing certified copies of the complaint in which, or in connection with which, the receiver's appointment was sought and the order of appointment. These documents must be filed in the district court in which the property is located within 10 days of the appointment pursuant to 28 U.S.C. §754.
Of course, it would be extraordinary for a receiver to have any concept of the universe of receivership property within 10 days of his appointment. Thus, courts routinely "re-enter" the receivership order when necessary, starting the clock on a new 10-day period. See, e.g., SEC v. Vision Communications, Inc., 74 F.3d 287, 291 (D.C. Cir. 1996).
The receiver can commence an action in any district (and may be sued) without any further proceedings. 28 U.S.C. §754. The filing of the required documents gives the receiver jurisdiction over the receivership property, which has been held to include property rights of the receiver, including causes of action, which substantially broadens the receiver's reach. See, e.g., Haile v. Henderson National Bank, 657 F.2d 816, 822 (6th Cir. 1981) (jurisdiction over maker of a note upheld even though the action did not involve real property located in the district in which maker was located).1
Jurisdiction over property and an ability to commence suits in any district are distinct and different concepts from personal jurisdiction. They are also important rungs in the procedural ladder that allow the receiver to obtain personal jurisdiction in the appointing court over residents of foreign districts.2 The somewhat confusing syllogism was laid out by the U.S. Court of Appeals for the District of Columbia Circuit in SEC v. Vision Communications, 74 F. 3d at 289-91.
The property at issue there was certain "wireless cable" transmission rights and the court held these rights were located in Pennsylvania, as was a company that granted the rights, Vista Vision. The court-appointed receiver for Vision Communications was seeking to enforce valuable contract rights to the transmission rights; Vista Vision was attempting to void those contract rights.
The receiver commenced an action before the appointing court in the D.C. District. Vista Vision sought to dismiss on jurisdictional grounds, both over the property and over the person.
The court acknowledged the due process considerations and invoked what it called "the familiar 'minimum contacts' doctrine," concluding that "there still must be some basis for Vista Vision's 'amenability to service of summons,' [which] means that there must be 'authorization for service of summons' on Vista Vision." Id. at 289-90.
The court found that the "interplay between Rule 4(k)(1)(D) of the Federal Rules of Civil Procedure and 28 U.S.C. §1692 could have provided that authorization." Id. at 290. The former allows service of a summons to establish personal jurisdiction "when authorized by a statute of the United States." The latter is such a statute. It allows process to issue and be executed in a district court where the receiver was appointed even though the receiver was appointed for property located in another district, so long as the filing requirements of 28 U.S.C. §754 have been met in that other jurisdiction. And it all goes full circle.
Of course, as confusing as all that is, life cannot be that simple. In Vision Communications, the receiver had not filed the certified copies of the complaint and the receivership order in Pennsylvania within 10 days of his appointment. After reviewing and distinguishing the cases in which courts have allowed belated filings, and reviewing and dismissing the notions of the inherent powers of the court to assist its own jurisdiction and its powers under the All Writs Acts, the court somewhat blithely and conclusorily announced that "[o]n remand, the court may reappoint the receiver and start the ten-day clock of §754 ticking again." Id. at 291.
So be it. With what had to be a judicial, and judicious, smile on their collective faces, the court stayed the judgment vacating the district court judgment until 10 days after the issuance of the mandate in the case.
At the end of the day, jurisdictional issues can present a trap for the unwary receiver, but the receiver has the upper hand, getting multiple bites at the jurisdictional apple and an expansive reading of the statutory bases for jurisdiction.
Standing
Typically, the receivership story starts with the commission of fraud, usually on a grand scale. The receiver has the tough jobs of stopping the bleeding and identifying and marshalling assets for the benefit of those victimized by the perpetrator of the fraud.
The former is a formidable task that usually requires the receiver to draw on business skills. The latter is often an even more formidable task that requires the receiver frequently to navigate difficult jurisprudential shoals (as explained below, pun intended).
The receiver will generally be appointed receiver for the wrongdoer or the enterprise through which the wrongdoer has perpetrated his wrongs.3 There is a substantial body of law that visits on the representative (such as a receiver or a trustee) the sins of the object of the representation.4 Whether viewed as a matter of standing or in pari delecto, or both, the effect is to render the complaint seeking as a remedy the appointment of a receiver dismissible. In addition, the representative may or may not be considered a proper plaintiff under state law in order to bring an action to void a fraudulent conveyance. Once again the issue of standing rears its ugly head.
In the receivership context, these issues are addressed in the always magnificent prose of Chief Judge Richard Posner of the Seventh Circuit. The bellwether case is Scholes v. Lehmann, 56 F.3d 750 (7th Cir. 1995).
There, an individual named Michael Douglas ran a classic Ponzi scheme (purportedly investing in commodities). Scholes, who was appointed receiver for both Douglas and the corporations he formed, sought to void as fraudulent conveyances certain transfers to Douglas' ex-wife, an investor, and charities. The Seventh Circuit ruled that the receiver had standing to bring the actions, notwithstanding Douglas' obvious complicity.
Chief Judge Posner's analysis was simple and clear. Had Scholes been solely the representative of Douglas, things might have turned out differently. But he was not. Because he was also acting as receiver for the corporations, which had been harmed by the transfers for less than adequate consideration, Chief Judge Posner reasoned that the receiver was a proper plaintiff. The corporations had been harmed and therefore they were a creditor for purposes of Illinois' fraudulent conveyance statute. Id. at 754-55.
Defendants also argued that the sins of Douglas should be visited on him, his receiver, and the receiver appointed for the corporations he dominated and controlled. Once again, Chief Judge Posner disagreed.
He acknowledged that the corporations were tarred by Douglas's bad acts, but he ruled that the taint of those bad acts is washed away by the appointment of a receiver, who of course was not at all blameworthy. As only Chief Judge Posner could put it: "The corporations were no more Douglas's evil zombies. Freed from his spell they became entitled to the return of the moneys - for the benefit not of Douglas but of the innocent investors - that Douglas had made the corporations divert to unauthorized purposes." Id. at 754.
The court begged the question, since it was not presented, of what it would do in the case of a sole proprietorship. Id. at 755. It got the opportunity two years later when it considered Troelstrup v. Index Futures Group, Inc., 130 F.3d 1274 (7th Cir. 1997). There, a receiver for an individual and his "DBA" sued a registered futures commission merchant through which the perpetrator traded and whose negligence allegedly allowed the wrongdoer to commit the fraud. Chief Judge Posner would not let the appointment of a receiver there to have the talismanic effect it had in Scholes, given that there was no separate legal entity that was harmed by the alleged acts. Rather, the victims were the investors, and Troelstrup did not serve as receiver for the investors. Id. 1277.
Troelstrup, of course, was not a fraudulent conveyance case and fits neatly into the cases referred to above (such as the Second Circuit trilogy) that refuse to allow a wrongdoer, or his progeny, to blame others for assisting in, or failing to stop, his own fraud. In addition, in Troelstrup, there was no entity separate and apart from the wrongdoer that was injured by the act - such as a fraudulent conveyance. If there is such an entity, and it is harmed at all - even because it might be vicariously liable for the wrongs committed by the individual wrongdoer - it might be considered a "creditor" and thus a proper plaintiff in a fraudulent conveyance action.5
As Easy as ABT
In 1987, the Second Circuit probably thought it had made as clear as it possibly could its unequivocal preference for distribution of assets through bankruptcy rather than receiverships.
In a series of cases captioned SEC v. The American Board of Trade, Inc.,6 defendants were sued by the SEC for violating the Securities Act of 1933 for selling unregistered securities through the conduct of a Ponzi scheme. Ultimately, a receiver was appointed to marshal the assets of the defendants and the companies they controlled.
While the court in its 1987 decision7 upheld the appointment of the receiver, it took the occasion to dedicate a large amount of ink to its clear preference for the conduct of liquidations through bankruptcy rather than receivership. The court's rhetoric could not be more clear:
We are, however, disturbed by the subsequent use of the receivership to effect the liquidation of ABT . . . . We have in the past criticized the use of receivers to effect the liquidation of a defendant firm in litigation under the Securities Act or the Securities Exchange Act . . . . On several other occasions we repeated our view . . . . [T]he functions undertaken by the district court in this case demonstrate the wisdom of not using a receivership as a substitute for bankruptcy . . . . We now state, however, in actions of the present kind brought in the future by the SEC, we expect counsel for the agency, as an officer of the court and as part of his or her individual professional responsibility, to bring our views, as stated in this and other decisions, to the attention of the district court before the court embarks on a liquidation through an equity receivership.8
The dicta in this ABT decision have been honored largely in the breach. As the Second Circuit pointed out itself, up to the time of this ABT decision the Circuit had not ever vacated or modified a receivership order because of improper conduct of a liquidation.
The issue was put to the Circuit again in SEC v. Credit Bancorp,9 with the same result as ABT and for the same reason. The court once again noted that the case had proceeded without objection as an equity receivership and was nearing completion. But as I have said to my kids on countless occasions, the court seemed to repeat what it had said more than a decade earlier: "And I mean it this time."
No one is ignoring the Second Circuit. The reality is that while the Circuit is right in theory, it is wrong in practice.
There certainly could be circumstances where a sojourn in bankruptcy court is indeed better than leaving the matters to the devices of an equity receiver. In the majority of cases, however, a receivership is quicker, cheaper, and more effective. In these cases, there is rarely any entity to rehabilitate or even manage through liquidation. There is no run out; the entity is usually run down.
The receiver's job is more likely one that involves commencement of litigations, something the district court is pretty good at dealing with. When it comes time to distribute assets (if assets there be), the distribution plan is frequently non-complex and straightforward. There may not be so much to distribute, but it is usually just a matter of distributing dollars on an equitable basis.
Conclusion
These are just a few of the considerations that pertain to receiverships. There are many more: the standard for obtaining the appointment of a receiver, the vagaries of fraudulent conveyance actions, fashioning distribution plans, wrapping up the receivership, opposing the imposition of a receivership, and much more.
The bottom line is that a receivership can be an effective and powerful tool for law enforcement and private citizens, if both the practitioner and the court fully understand it.
Endnotes:
1. The notion is that the receiver is the agent of the appointing court. Vision Communications, 74 F.3d at 290, citing Haile, 657 F.2d at 823.
2. The importance to the receiver of proceeding before the appointing court cannot be overstated. Of course, federal district court judges can be expected to be impartial and judicious in all cases. However, it would be naïve to ignore the fact that on some occasions the appointing court has also been the selecting court - that is, the receiver has been "nominated" by the court rather than suggested by one of the litigants.
3. The SEC tends not to seek appointment of a receiver for the wrongdoer himself, on the theory that to do so would obligate the receiver to defend lawsuits against the wrongdoer. Such a result would be inimical to the purpose of the receivership in that receivership assets - usually clawed back from the grasp of the wrongdoer and intended to benefit the victims - would be used to defend and benefit the wrongdoer, thus hurting the victims a second time. Orders entered in private civil litigation can effectuate the same result both through the identity of the object of the receivership and by giving the receiver the right, but not the obligation, to defend the wrongdoer.
4. E.g., the Second Circuit trilogy of In re Mediators, Inc., 105 F.3d 822 (2d Cir. 1997); Hirsch v. Arthur Andersen & Co., 72 F.3d 1085 (2d Cir. 1995); and Shearson Lehman Hutton, Inc. v. Wagoner, 944 F.2d 114 (2d Cir 1991).
5. The dichotomy between the application of the in pari delicto to fraudulent conveyance actions as opposed to actions for damages was well addressed in Chepiga and Saperstein, "Receivers and the In Pari Delicto Doctrine," New York Law Journal, July 9, 2007, at 4 (col. 4).
6. These cases are referred to as ABT and spawned countless opinions. ABT I is found at 751 F.2d 529 (2d Cir 1984).
7. 830 F.2d 431 (2d Cir. 1987).
8. Id. at 436-39.
9. 2000 WL 1752979 (S.D.N.Y.) at *27.
Reprinted with permission from the August 20, 2007 edition of the New York Law Journal © 2007 ALM Properties, Inc. All rights reserved. Further duplication without permission is prohibited.
Eugene Licker is a partner in the litigation department at Loeb & Loeb LLP, resident in the New York office, and is co-chair of the firm's white collar criminal defense practice group. He can be reached at
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