In a major defeat for troubled Creditrust Corp., a U.S. Bankruptcy Court judge refused yesterday to approve a settlement between the company and its insurer after a lawyer for unsecured creditors claimed that the deal would sweep under the rug allegations of fraud.
The creditors' attorney also argued that the settlement would shield Creditrust's chairman from all claims, including shareholder lawsuits, and that the company would not receive a penny from its $220 million lawsuit against insurer Asset Guaranty Insurance Co. In addition, Asset Guaranty would receive a claim worth $4.55 million that it could collect in the future.
"We are not a bunch of rabid dogs trying to derail a reorganization," Joel I. Sher, the attorney for the unsecured creditors, told U.S. Bankruptcy Court Judge James F. Schneider. But he added, "I don't see how this agreement can be approved."
Schneider agreed with the creditors and declined to approve the settlement, in part, he said, because it is "something that provides a shield of liability" for Creditrust's chairman and chief executive, Joseph K. Rensin, though wrongdoing might be involved.
"I am not trying to make this any more difficult or expensive," the judge said.
Attorneys for Creditrust and Asset Guaranty declined to comment on the judge's ruling.
Michael J. Lichtenstein, an attorney representing Creditrust, said after the hearing that the settlement agreement between Creditrust and Asset Guaranty was "fair."
In court, Lichtenstein said the allegations of fraud are false and were made by a former employee who was fired and has an "ax to grind."
Woodlawn-based Creditrust, which collects and manages mainly delinquent Visa and MasterCard accounts, filed for reorganization under Chapter 11 of the U.S. Bankruptcy Code in June, listing $116 million in assets and $27.6 million in debt.
The company, which has about 350 employees, agreed in October to merge with NCO Portfolio Management, a unit of NCO Group Inc., a large bill collector in Fort Washington, Pa. The parent would retain a 55 percent to 60 percent stake in the new company.
Under the settlement agreement and Creditrust's reorganization plan, Rensin would be:
Protected from all lawsuits filed against Creditrust.
Receive $1.2 million over three years for working 20 hours a month as an independent consultant for the company. In addition, he would be paid $1,500 for each day beyond the 20 hours a month.
Own 5.2 million shares of the new company and be given the right to select a member of the board of directors.
Creditors have objected to Creditrust's proposal and recently submitted a plan to sell the company to Worldwide Acquisitions LLC of Atlanta for $24.5 million in cash. The majority of the money would come from Cargill Financial Services Corp., a unit of Cargill Corp., a large Minnesota food processor and distributor of financial and industry products.
Lawyers for Creditrust and Asset Guaranty argued yesterday that the settlement they crafted was good for all sides because it would put an end to costly litigation and creditors would get paid in full.
Roger Frankel, an attorney for Creditrust, said administrative expenses have reached $400,000 a month. "That alone will eat into a successful reorganization," he said.
Joel Samuels, an attorney representing Asset Guaranty, said that if the judge didn't rule in their favor, the two companies would be thrust into a "maelstrom of litigation."
"We could litigate until the cows come home," he said. "We are hurting ourselves; we are not hurting them. It is a fair settlement."
Schneider said that he didn't think the litigation had to proceed.
Creditrust sued Asset Guaranty in April, alleging that an executive of Asset Guaranty's parent company had posted "maliciously false and disparaging statements" about Creditrust on a Yahoo! message board on the Internet.
Creditrust alleged that the messages were placed on the Internet to "undermine investor confidence" and to "interfere with Creditrust's efforts to raise capital."
Asset Guaranty countered by moving to appoint a trustee to "investigate substantial evidence of fraud and misconduct" within Creditrust, according to bankruptcy documents.
Asset Guaranty, citing the testimony of a former Creditrust chief information officer, alleged that Creditrust executives, including Rensin, manipulated a computer model to artificially boost the value of credit-card receivables and "falsified the charge-off" dates on credit-card accounts to present a misleading view of the freshness and health of certain accounts.
In addition, Rensin and senior managers "stonewalled" Asset Guaranty's efforts to collect information, the insurer said in documents filed with the court.
Sher, the creditors' attorney, said such allegations could not be forgotten and that the judge should take his time before approving the settlement agreement.
He said that if fraud took place, creditors were hurt because it "pumped up the value of the balance sheet" and gave an inaccurate picture of the company's health.
Schneider told attorneys that the court "is not going to give advantage to either side. The plans have to be treated on a parallel" track.