Creative Lawyers Thwarted in ASARCO Workaround Attempts

One of the panels at the recent Fifth Circuit Bench-Bar Conference featured Judge Craig Gargotta and Stephen Rosenblatt discussing fee issues raised by Barron & Newburger, P.C. v. Texas Skyline, Ltd. and Baker Botts v. ASARCO.  While I was personally interested in hearing the discussion about my own case, the really interesting part involved what creative lawyers are doing to try to work around the ASARCO decision.    

In the ASARCO case, the reorganized debtor caused Baker Botts to spend about $5 million in attorney time defending its fee application.  Both the Fifth Circuit and the Supreme Court ruled that these services were not compensable because the American Rule provides that parties must bear their own fees absent a statute or contract and 11 U.S.C. Sec. 330 did not allow fees for defending a fee application.    Thus, Baker Botts had to eat the cost of establishing its entitlement to fees in one of the most extraordinarily successful cases of all time.

This has left some creative lawyers wondering how they can protect themselves from the expense of a costly fee battle.    However, two recent decisions from the Bankruptcy Court for the District of Delaware have thrown cold water on these attempts.

The UST's Position

Following ASARCO, the U.S. Trustee released a Frequently Asked Questions sheet, which can be found here, which states the UST's intent to object to:

• attempts to allow fees for defending fees as part of the attorney retention process;
• attempts to charge a higher rate to account for the risk of defending a fee application; and
• attempts by non-attorney professionals to recover the cost of employing an attorney to defend their fee application.

It was not long before the U.S. Trustee was called to act upon these statements.   

First Attempt:   Committee Counsel Asks to Be Indemnified

In one recent case, counsel for the Unsecured Creditors' Committee sought approval of a provision allowing them to be compensated from the estate for any fees incurred in connection with a successful defense of their fees.   The Committee counsel sought approval of this provision under 11 U.S.C. Sec. 328(a) which would have prevented the court from modifying the provision subsequently absent unforeseen circumstances.   In re Boomerang Tube, Inc., 2016 Bankr. LEXIS 273 (Bankr. D. Del. 1/29/16).

The U.S. Trustee objected and the Court sustained the objection.     The Court rejected the argument that section 328(a) provided a workaround to the ASARCO decision.

The Court concludes that although section 328 is an exception to section 330, it, like section 330, is not a "specific and explicit" statute which "authorize[s] the award of 'a reasonable attorney's fee,' 'fees,' or 'litigation costs,'" that "refer[s] to a 'prevailing party' in the context of an 'adversarial action.'" (citation omitted). Section 328 merely provides that, with court approval, a professional may be employed "on any reasonable terms and conditions of employment, including on a retainer, on an hourly basis, on a fixed or percentage fee basis, or on a contingent fee basis." 11 U.S.C. § 328(a). The text does not refer to the award of defense fees to a prevailing party. Therefore, the Court concludes that section 328 does not provide a statutory exception to the American Rule and cannot provide authority for approval of the fee defense provisions.

Opinion, at *6.

Committee Counsel also argued that the fee defense provision could be approved as part of a contract.   Under the American rule, fee shifting is allowed when provided by a contract.   The Court rejected this argument as well.   Although the Committee's agreement with its counsel was a contract, it sought to bind the bankruptcy estate to pay the defense fees.   Since the bankruptcy estate was not a party to the contract, it could not be bound by it. 

Next, Committee counsel argued that exculpation and indemnity clauses are permissible in employment applications under section 328(a).    The Court said no, concluding that "ASARCO prevents the Court from concluding that section 328 permits  defense fees even if they were routinely allowed by the market in bankruptcy or non-bankruptcy contexts prior to that ruling."   Opinion, at *20-21.

Finally, counsel argued that section 328(a) allowed it to recover its reasonable expenses for serving as counsel to the Committee.   As a result, the lawyers argued that if they hired their own lawyers, this expense could be recovered.    The Court said no, pointing out that "there is no difference in the analysis between approving the defense costs as fees (because the retained professional defends its own fees) or as expenses (because the retained professional hires outside counsel to represent it)."   Opinion, at *22.

Thus, the Court denied approval of the requested provision allowing Committee counsel to be reimbursed for defending its fees.

Second Attempt:  "Fee Premium" for Defending Objections Denied

Another creative approach was shown by the application to employ Baker Botts as debtor's counsel in Case No. 15-12566; New Gulf Resources, LLC (D. Del.)(Dkt. #54).   In the application, Baker Botts explained that prior to bankruptcy, it had been charging its client a rate that was "10-15% off of Baker Botts’ standard billing rates," a discount that "is not routinely offered to potential debtor clients in the current environment."     However, as a result of the ASARCO decision, Baker Botts stated that it was requesting that it be allowed to charge a 10% fee premium which would align the firm's bankruptcy fees more closely to its non-bankruptcy fees.   

Notwithstanding this "fee premium," Baker Botts agreed to only seek interim compensation at the non-premium rate.   Additionally, in the event that it would "waive its right to the entire Fee Premium if, and only if, Baker Botts does not incur material fees and expenses defending against any objection with respect to an interim or final fee application."   Thus, Baker Botts has said that they will charge a higher rate in the event that it incurs "material" costs to defend a fee application, essentially building in a poison pill in the event they face a major fee fight again.   In making this request, Baker Botts quoted the words of Justice Scalia during oral argument of the ASARCO case when he asked the United States why lawyers wouldn't just build the cost of defending their fees into their rates.

In sum, the firm argued that:

The Fee Premium structure applies the teachings of the Supreme Court and the Fifth Circuit in a way that minimizes the impact on the Debtors’ estates. Although Baker Botts might be justified in collecting the premium whether or not it faces objections to its fees, BakerBotts will not collect the premium unless it in fact incurs material fees or expenses incurred for defending fee objections. In the event that objections are filed, the Fee Premium adequately compensates Baker Botts for the litigation risk associated with defending its fees, without compensating for the actual cost of defense. Although fee objections and the incurrence of material defense costs trigger the Fee Premium, the Fee Premium itself does not improperly compensate a firm for defending its fee application. Subject to the triggering event, the Fee Premium is a binary concept; it either is earned in full or not at all. Therefore the Fee Premium incorporates the risk-pricing element predicted and encouraged by the appellate courts, without providing for a dollar-by-dollar reimbursement to accomplish what section 330 would otherwise prohibit. The Fee Premium structure also minimizes the risk of meritless objections pursued as a litigation tactic against Baker Botts or the Debtors. And, by permitting the Bankruptcy Court to determine whether the materiality threshold is met, Baker Botts balances the goal of fair compensation against the possibility of an unintended windfall caused by a non-material fee objection.

Application, para. 15.

The application disclosed that the Firm's standard, non-discounted rates for 2016 were:

$800-$1,300 per hour for partners
$600-$1,000 per hour for special counsel
$424-$725 per hour for associates
$165-$325 per hour for paraprofessionals

The discounted rates proposed to be charged consisted of:

$775 per hour for a restructuring partner licensed for 14 years
$875 per hour for a restructuring partner licensed for  23 years
$1,050 per hour for a tax partner licensed for 29 years
$675 per hour for a finance partner licensed for 8 years
$550 per hour for a transactional senior associate licensed for 5 years
$550 per hour for a restructuring associate licensed for  4 years.

The U.S. Trustee objected to the application on January 12, 2016, describing the fee premium as "impermissible and unreasonable."    It also argued that "The Firm cannot circumvent ASARCO by having defense fees--simply renamed as a waivable 'Fee Premium'--approved under section 328 to offset the cost of potential fee litigation."    The UST even went so far as to say that "The Fee Premium is a direct attack on ASARCO, repackaged."  

On January 19, 2016, the Court entered an order approving the retention of Baker Botts and providing that "approval of the provisions authorizing the Fee Premium, if any, are subject in all respects to further order of the Court after notice and hearing."    Thus, the Court reserved the issue for later determination.   

On February 1, 2016, the Court issued a letter to counsel indicating that it had withheld its ruling on the fee premium because the issue was fully briefed and pending before another court in the district.   The Court stated:

On January 29, 2016, Judge Walrath issued her Opinion in Boomerang Tube, Inc., Case No. 15-11247 (MFW)[Docket No. 860], in which she held that retention provisions that provide for payment for fee defense litigation run afoul of hte binding ruling in ASARCO are are not otherwise permitted under sections 328 and 330.   I have carefully considered the Opinion and agree with its holding (including comments contained in Footnote 6 of the Opinion applying its rationale to the retention of debtor's counsel).

Thus, a creative approach was rebuffed.  

What It Means

After two attempts to work around ASARCO, the score is U.S. Trustee 2--Creative Professionals 0.  Since these decisions came out of Delaware, a venue with a reputation for being friendly to complex restructurings, it sends a strong signal that ASARCO will be strictly enforced.  As a result, lawyers need to build the possibility of having to defend a fee application into their fee structures.   But will it make a difference?   Most cases cannot afford associates charging a "discounted" rate of $550 per hour and partners billing $775-$1,050.  The typical chapter 11 case (at least in the hinterlands) cannot afford the rates that attorneys are currently charging, much less enhanced rates.   If attorneys raise their rates to compensate for a theoretical attack on their fees, they will likely end up discounting them back to what the client can afford or having to eat a large write-off.   Fee fights are few and far between.   Mega-expensive battles like the one in ASARCO are probably once in a generation events.   Thus, while it is interesting to give talks and write articles about how lawyers will cope with ASARCO (as I am doing right now), it is likely a non-event for most.

However, there may be some other ripple effects which will be felt.   One is that the comparative benefit of filing a case in Delaware vs. Pittsburgh or Boston or Tampa is probably shrinking.   If the Delaware courts won't allow lawyers to evade ASARCO, it is likely that no one else will either.   Now that the Fifth Circuit has repudiated its much maligned Pro-Snax decision, the detriment to filing in the Fifth Circuit has gone away as well.    While lawyers will continue to seek out perceived favorable forums, the benefit to doing so may be shrinking.

Additionally, Boomerang's rejection of the argument based on exculpation and indemnity clauses may cause greater push back against these provisions.   For those unfamiliar with the provisions, some professionals, particularly accountants and financial advisors, include terms in their employment agreements requiring the bankruptcy estate to indemnify them for any expense they incur, except as a result of fraud or gross negligence.   Thus, for example, if the Creditor's Committee's financial advisor is sued for ordinary negligence, the bankruptcy estate could be required to pay for the cost of defense and any damages.   After Boomerang, the audacity of asking another party to insure against a party's own negligent behavior may become a thing of the past (as it well should be).