The Lead-Up to the Opinion
Energy Partners, Ltd. is a publicly traded company which filed chapter 11 in Houston this year. The Debtor obtained a valuation which showed no value for equity. An equity holder offered a valuation schowing substantial value for equity and this valuation was included in the disclosure statement. At the point that the disclosure statement had been approved, the Equity Committee and the Unsecured Noteholders' Committee wanted to hire their own investment bankers rather than using the existing valuations.
The Equity Committee sought to employ Tudor Pickering for compensation including: (a) a $500,000 non-refundable advisory fee; (b) an extended engagement fee of $100,000 per month if its services were still required as of September 1, 2009: (c) a fee of $25,000 per day for any day in which its employees were required to testify; and (d) reimbursement of expenses. Employment was sought under Sec. 328, so that the fees could not easily be re-examined based on the actual results in the case.
The Unsecured Noteholders' Committee sought to engage Houlihan Loukey on the following terms: (a) an upfront non-refundable fee of $500,000; (b) a non-refundable fee of $100,000 for August 1-15, 2009; (c) a non-refundable fee of $100,000 for August 16-31, 2009; and (d) reimbursement for out of pocket expenses. This employment was also sought under Sec. 328.
In contrast, the Debtor's investment banker, Parkman Whaling, charged the relatively modest fee of $75,000 per month with no upfront fee. (While this is not insignificant, it always helps to be the party with the lowest bill when trying to get compensated).
Bank of America objected on the grounds that: (a) the fees were too high; (b) the fees were non-refundable; (c) the fees were to be paid from Bank of America's cash collateral; and (d) the proposed payments violated the budget in the cash collateral order. The Unsecured Creditors' Committee objected as well. The Debtor did not object, but expressed concern about the $25,000 per day fee expert witness fee.
The Court heard from three witnesses at the employment hearing: a representative from each investment banking firm and a member of the Equity Committee.
The Court orally denied the applications for employment and followed up with its memorandum opinion.
The introduction to Judge Bohm's opinion sets the tone for what follows:
Oblivious to recent congressional and public criticism over executives of publicly-held corporations who are paid monumental salaries and bonuses despite running their companies into the ground, two investment banking firms now come into this Court requesting that they be employed under similarly outrageous terms. They do so because two committees in this Chapter 11 case have filed applications to employ these investment banking firms to perform valuation services even though two other independent firms have already performed similar valuations. These investment bankers, who wish to have their fees and expenses paid out of the debtor's estate, have sworn under oath that they will render services only if they immediately receive a nonrefundable fee aggregating $1.0 million. This Court declines the opportunity to endorse such arrogance. The purse is too perverse.Memorandum Opinion, pp. 1-2.
The committees' request to hire the most expensive investment bankers at virtually nondisgorgable and astronomically high fees is tantamount to a debtor chartering a private jet to travel to a meeting ofcreditors. While this hypothetical debtor may well need transportation in order to attend the meeting, just as the committees in the case at bar may legitimately believe they each need an independent valuation consultant, both have requested the most inordinately expensive means by which to achieve their objectives. To approve such a request runs contrary to a fundamental principle of bankruptcy: that a debtor and all professionals associated with the case should act with a measure of frugality in order to preserve the estate's assets and thereby maximize the chances for a successful reorganization.
Section 328 & Pro-Snax
Section 328 allows the court to employ a professional "on any reasonable terms and conditions of employment, including on a retainer, on an hourly basis, on a fixed or percentage basis, or on a contingent fee basis." The court may allow different compensation only "if such terms and conditions prove to hae been improvident in light of deelopments not capable of being anticipated at the time of the fixing of such terms and conditions." Thus, if the court approves employment under Section 328 on a non-refundable, flat fee basis, as proposed here, the court would be relatively powerless to change the fee absent something incapable of being anticipated. Thus, if the investment bankers wrote their valuation in crayon on a Big Chief tablet or showed up for court but slept through the proceedings, both of those possibilities were capable of being anticipated and would not allow a change in the fees. On the other hand, if the bankruptcy court sunk into the Gulf of Mexico preventing the hearing from taking place, that would probably be something not capable of being anticipated.
Judge Bohm noted that courts have identified the following factors for determining whether to approve employment under Section 328:
(1) whether terms of an engagement agreement reflect normal business terms in the marketplace; (2) the relationship between the Debtor and the professionals, i.e., whether the parties involved are sophisticated business entities with equal bargaining power who engaged in an arms-length negotiation; (3) whether the retention, as proposed, is in the best interests of the estate; (4) whether there is creditor opposition to the retention and retainer provisions; and (5) whether, given the size, circumstances and posture ofthe case, the amount ofthe retainer is itselfreasonable, including whether the retainer provides the appropriate level of "risk minimization," especially in light ofthe existence of any other "risk-minimizing" devices, such as an administrative order and/or a carve-out.Memorandum Opinion, p. 19, (quoting In re Insilco Techs., Inc., 291 B.R. 628, 633 (Bankr. D. Del. 2003).
The Court also noted that some courts have imposed specific requirements for investment bankers, quoting the following language from an opinion in the District of Massachusetts which relied upon an opinion from the Southern District of New York:
Any investment banker/advisor retention application submitted to this court must present the scope and complexity of the assignment, its anticipated duration, expected results, required resources, the extent to which highly specialized skills may be needed and the extent to which they have them or may have to obtain them, projected salaries ofparticipating professionals, billing rates and prevailing fees for comparable engagements, current retentions in bankruptcy by the retained firm, and any estimated lost opportunity costs due to time exigencies ofthe job. In addition, the actual retention agreement between the investment banker/advisor and the client must be attached to the retention application and, the party retaining the professional must describe the process by which the financial banker/advisor has been selected. This latter requirement is aimed specifically at offsetting what we perceive as a lack of competitiveness in the selection process. Finally, the application must explain how the investment banker/advisor will eliminate, or at least reduce, the duplication of effort[s] .... We liken our requirements to a financial impact statement on the estate. Only with an advance picture of the job to be accomplished will we be able to measure the results (or lack thereof) achieved.Memorandum Opinion, pp. 30-31, quoting In re High Voltage Engineering Corp., 311 B.R. 320,333-334 (Bankr. D. Mass. 2004).
On top of all this, Judge Bohm noted the requirement in the Fifth Circuit that a professional generate a tangible, identifiable and material benefit to the estate in order to be compensated. This stems from the Fifth Circuit's Pro-Snax decision. In the context of a Section 328 application, Judge Bohm found that the applicant must show in advance that they will provide a tangible, identifiable and material benefit.
Given all of these requirements and the scant record, it was highly improbable that the applications would withstand objection. However, Judge Bohm entered a lengthy analysis as to why the factors were not met. Among other things, the applicants failed to prove that their rates reflected normal business terms in the market. The only evidence of market conditions consisted of the fact that the debtor's investment bankers were willing to work for $75,000 per month, while the two committees' advisors wanted $500,000 upfront in order to begin work. Judge Bohm was particularly offended by the $25,000 per day expert witness fee, noting that many Americans performing valuable services, such as military policemen and nurses, make that much money in a year. He found that the terms and conditions were insufficiently spelled out. One of the firms completely failed to spell out the terms of what it would do in its engagement agreement. They also failed to explain why a non-refundable fee was necessary to obtain a qualified professional. Additionally, the Court noted the opposition from creditors and the fact that the upfront fees would shred the cash collateral order. (Note: This is a very abbreviated summary of the factors discussed in the opinion).
After all these pages of analysis, Judge Bohm, channeling Howard Beale*, proclaimed:
At some point, this Court must draw the line between what is reasonable and what is not. To quote the Fifth Circuit: "'[W]hen a pig becomes a hog it is slaughtered. '" (citation omitted). "As the finder of fact, the bankruptcy court has the primary duty to distinguish hogs from pigs." (citation omitted). Although the Fifth Circuit expressed this sentiment under a different set of facts than those in the case at bar,this Court sees good reason why this maxim applies here with equal force. These two investment banking firms have become hogs. Indeed, the investment bankers in the case at bar appear to have embraced the outlook expressed by Michael Douglas's character, Gordon Gekko, in the film Wall Street that "Greed-for lack of a better word-is good. Greed is right. Greed works. That may be how Wall Street views the world, but it is not how this Court sees things. In this Court, Greed is not good; Greed is wrong; and Greed does not work. Rather, the Court refers the parties to the words of Frederick Douglass, a prominent and compelling figure in American history who knew something about hard work: "People might not get all they work for in this world, but they must certainly work for all they get."Memorandum Opinion, pp. 37-38.
The exorbitant fees requested by Houlihan Lokey and Tudor Pickering are similar to the "appearance fees" which certain of the world's top athletes-for example, Tiger Woods-are able to command. However, unlike Tiger Woods, whose presence does guarantee a financial benefit at any event where he appears, neither of these two investment banking firms introduced any testimony or exhibits guaranteeing some benefit to the estate in this case. They expect to be paid an appearance fee for simply showing up-not only do they not guarantee success; they do not even guarantee they will work a minimum number of hours in order to try to achieve success. This Court will therefore not approve the payment of their requested "appearance fees." Tudor Pickering is not Tiger Woods. Nor is Houlihan Lokey.
After the employment under Sec. 328 was denied, the investment bankers indicated that they would be willing to be employed under the traditional Sec. 330 standards. The Court confirmed the Debtor's plan on August 3, 2009.
How Did This Happen? What Does It Mean?
The Memorandum Opinion makes the court's strong feelings quite clear. In retrospect, it seems obvious that the committees and the investment bankers badly misread what would fly. How did this happen? Part of the answer lies in the unusual nature of the case. This was the case of a publicly traded company which went from filing to plan confirmation in just 90 days, an accomplishment that GM and Chrysler achieved only by shortcutting the plan process. This was a case with three committees: an Unsecured Creditors' Committee, an Unsecured Noteholders' Committee and an Equity Committee. It is natural for a committee to want to hire a professional. After all, a committee without a professional is like a combatant who brings a knife to a gun fight. It would be a daunting task given the fact that the investment bankers would be coming in after the debtor's expert had done its work with only a short time to prepare their own. Given the circumstances, it seems likely that the investment bankers felt justified in asking for a premium rate and the committees felt like they had few other options. In the hustle and bustle of a case, it is easy to get tunnel vision and lose sight of what a transaction looks like to the outside world. In this case, the usual way of doing things ran smack into a brick wall of a judge requiring strict compliance.
So what does this all mean? Were these investment bankers a new incarnation of Gordon Gekko? Will this opinion deter big cases from filing in Houston? In the words of Dr. Ian Malcolm**, nature will find a way. Notwithstanding Judge Bohm's strong language about greed, it is still possible to get employed and compensated in Houston. This opinion gives some good guidelines as to what needs to be proven. If these standards look too difficult, it is not necessary to rely on Sec. 328. Applicants might also keep in mind that they are appearing before a bankruptcy judge who works long hours and earns $160,000 per year. When the fees for a month's work start adding up to a multiple of the judge's annual salary, you need to have a really good story as to why you are the Tiger Woods of your profession.
*--Howard Beale was the character in the movie Network who proclaimed, "I'm mad as hell and I'm not going to take it anymore."
**--Dr. Ian Malcolm was the chaos theory mathematician in Jurassic Park.