Earlier this week, RG Steel Sparrows Point, LLC (“RG Steel”), began filing complaints to avoid and recover what it contends are preferential transfers under sections 547 and 548 of the United States Bankruptcy Code.  For those not familiar with this bankruptcy proceeding, RG Steel originally filed chapter 11 petitions for bankruptcy in the Delaware Bankruptcy Court on May 30, 2012.  At the time the company filed for bankruptcy, RG Steel was the fourth largest flat-rolled steel company in the United States. Operating at full capacity, RG Steel produced over 8 million tons of steel per year.  This post will look at RG Steel’s original business, why the company filed for bankruptcy and what are recent developments since the company has filed for bankruptcy protection.

Business Formation and Bankruptcy

At the time RG Steel and its affiliates filed for bankruptcy, the company operated steel production facilities in West Virginia, Maryland and Ohio.  The company was formed in 2011 as a result of a stock purchase agreement with Severstal U.S. Holdings II, Inc., and various related entities.  According to court filings, after RG Steel acquired Severstal it discovered a “working capital shortfall” resulting in liquidity problems and the company’s ultimate bankruptcy filing.  The company also attributed its bankruptcy to declining steel prices while its costs for raw materials continued to rise.

Objectives in Bankruptcy

Once in Bankruptcy, RG Steel filed various motions seeking authority to sell substantially all of its assets.  After receiving approval from the Bankruptcy Court, the company commenced bidding procedures and bankruptcy auctions which allowed it to sell the majority of its assets.  The asset sales allowed RG Steel to payoff its debtor in possession financing and first lien debt.  With the sales out of the way, the company shifted its focus to attempting to recover assets through preference actions.

Defenses to a Preference Action

The Bankruptcy Code provides creditors with many defenses to preference actions. Included among these are the “ordinary course of business defense” and the “new value defense.”  For reader’s looking for more information concerning claims and defenses in preference litigation, attached is a booklet I prepared on the subject:  “A Preference Reference:  Common Issues that Arise in Delaware Preference Litigation.”

On May 30, 2012, RG Steel, LLC and various related entities (collectively “RG Steel” or “Debtors”) filed petitions for bankruptcy in the United States Bankruptcy Court for the District of Delaware.  According to the Declaration of the company’s CFO (the “Decl.”), RG Steel enters bankruptcy as the fourth largest flat-rolled steel company in the United States.  At full capacity,  the company can produce 8.2 million tons of steel per year.  Decl. at 2.

Based in Sparrows Point, Maryland, RG Steel operates steel producing facilities in Maryland, Ohio and West Virginia.  RG Steel was formed in March 2011 as the result of a stock purchase agreement with Severstal U.S. Holdings II, Inc., and various related entities (collectively, “Severstal”).  Decl. at *5.  RG Steel’s acquisition of Severstal required Severstal to deliver $450 million in net working capital at closing. After the acquisition, however, RG Steel asserted an $82 million claim against Severstal.  According to RG Steel, this “working capital shortfall” brought on by “Severstal’s misrepresentations has greatly exacerbated the company’s liquidity problems, which ultimately culminated in the commencement of these cases.”  Decl. at *6.  In addition to the capital shortfall claim, RG Steel also brings claims against Severstal for breach of representations, warranties and indemnification.  Decl. at *6.

Days after filing for bankruptcy, RG Steel filed a motion authorizing the sale of certain “idled” or “excess” assets (the “Sale Motion”).  Under the Sale Motion, the company seeks authority to sell their idled steel facilities in Steubenville, Ohio.  The Sale Motion also seeks approval of procedures to sell or abandon other “excess assets” without having to seek further court approval.  See Sale Motion at *2-3.  As part of the Debtors’ marketing efforts, three potential purchasers have expressed interest in the Steubenville facility.  According to the Debtors, the best offer for the Steubenville property totals $15 million.  Sale Motion at *4.  The Sale Motion provides for auction procedures in the event Debtors receive an offer exceeding the current offer which is “no more burdensome to the Debtors.”  Sale Motion at *5.

RG Steel attributes its bankruptcy filing to “substantial liquidity problems” due to a drop in steel prices while raw material prices remain high.  Decl. at *14.  Normally, steel prices move in tandem with the prices of raw materials such as iron ore, scrap metal and coke.  Decl. at *14.  However, steel and material prices diverged last summer.  The company’s financial problems worsened when they discovered the working capital shortfall claims attributed to Severstal.  Decl. at *14.

The RG Steel bankruptcy proceeding is before the Honorable Kevin J. Carey of the United States Bankruptcy Court for the District of Delaware.  Judge Carey recently served as Chief Judge of the Delaware Bankruptcy Court.  Debtors are represented by the law firms Morris, Nichols, Arsht & Tunnell LLP and Wilkie Farr & Gallagher LLP.