Monday, October 31, 2022

NCBJ 2022: Bankruptcy Boom or Bust - How Far Is Too Far and Is the Day of Reckoning Here?

The first plenary session of NCBJ was a panel consisting of Professor Melissa Jacoby, Jennifer Hagle from Sidley and Austin and Judge Lisa Beckerman (Bankr. S.D.N.Y.). My overall impression of the panel was that it consisted of Prof. Jacoby asking why parties in big bankruptcy cases should be allowed to bend the rules, Ms. Hagle saying that its necessary to meet the demands of her creditor clients and Judge Beckerman trying to make sense of what parties are telling her. The Moderator, Judge Elaine Hammond, brought in the views of some of her judicial colleagues in the audience.

Thursday, October 27, 2022

NCBJ 2022: Post-Pandemic Ethics

Besides sweeping away the competition in ballroom dancing competitions and having been a law school dean at a young age, Prof. Nancy Rapoport is known as the teacher who can make ethics interesting.  She gave the keynote address for the Commercial Law League luncheon titled Brave New World--Ethics Issues That We Never Knew We Had. 

Monday, October 24, 2022

NCBJ 2022: Five Secrets to a Magical Sub-V

Judge Catherine McEwen (Bankr. M.D. Fla.) and panelists David Mawhinney (Bowditch, Framingham, Mass.), Amy Denton Mayer (Stichter Riedel Blain Postler, PA, Tampa, Fl) and Kirk Burkley (Bernstein-Burkley, P.C., Pittsburgh, PA) donned their wizard's hats to present 5 Secrets to a Magical Sub-V. Both David and Amy serve as Subchapter V trustees and represent SubV debtors, while Kirk offered the creditors' viewpoint. Their program covered five areas of Subchapter V law and practice.

Sunday, October 23, 2022

NCBJ 2022: Awards Edition

Every year numerous awards are presented at the National Conference of Bankruptcy Judges. These awards are an opportunity to recognize people who have contributed to the insolvency profession.

Saturday, October 22, 2022

NCBJ 2022: What's Hot

When the nation's bankruptcy judges, academics and practitioners get together for the National Conference of Bankruptcy Judges, there are certain topics that tend to dominate. This year mass torts were a through line in many of the presentations.  A presentation on pushing the boundaries of chapter 11 suggested that mass tort cases did not have the same urgency as melting ice cube operating businesses. A panel on third party releases noted the difference between the use of third party releases to protect guarantors as opposed to those developed in mass tort cases. ABI Editor at Large Bill Rochelle has nightmares about Congress seeing abuses in mass tort cases and passing legislation without the input of bankruptcy experts. His panel also delved deeply into the Texas Two-Step.  There was even a presentation by a Pulitzer Award winning journalist and the law professor who helped him crack the source of the opioid epidemic.  As I write up my articles from this year's conference, there will be many references to issues raised by mass tort cases.

Sunday, October 16, 2022

Fifth Circuit Opinion on Solvent Debtor Illustrates Tension Between Text and Tradition

Bankruptcy opinions tend to rely on two major tools for interpreting the Bankruptcy Code: the statutory text and pre-Bankruptcy Code practice. These two methods came into conflict in the Fifth Circuit's recent opinion in Ultra Petroleum Corp. v. Ad Hoc Committee (In re Ultra Petroleum), No. 21-20008 (5th Cir. 10/14/2022), which can be found here.   The majority relied on pre-Code practice to allow creditors of a solvent debtor to recover their full contractual interest. 

Sunday, October 02, 2022

Fifth Circuit Holds Line on Exculpation Clauses But Offers Some Help

The Fifth Circuit is largely resistant to third party release provisions. The Circuit will enforce a clearly defined third-party release that is not objected to, Republic Supply Co. v. Shoaf, 815 F.2d 1046 (5th Cir. 1987), but will not sustain such a provision if a timely objection is filed, Ad Hoc Group of Vitro Noteholders v. Vitro SAB De CV (In re Vitro SAB De CV), 701 F.3d 1031 (5th Cir. 2012). It is also resistant to bar orders, Feld v. Zale Corp., (In re Zale Corp). 62 F.3d 746 (5th Cir. 1995) and most exculpation clauses, Bank of New York Trust Co., NA v. Official Unsecured Creditors' Comm. (In re Pacific Lumber Co.), 584 F.3d 229 (5th Cir. 2009).   (If you need more background on these different types of third-party releases, I would be happy to provide you with my paper from the last Western District Bench-Bar Conference which discusses these issues at length).  

The Court recently rebuffed an attempt to distinguish its jurisprudence on exculpation clauses but offered other limited relief.  The case is Nexpoint Advisors, L.P. v. Highland Capital Mgmt., L.P. (In re Highland CapitalMgmt., L.P.), 2022 U.S. App. LEXIS 25107 (5th Cir. 9/7/22). 

What Happened

This is the story of a billion-dollar investment fund and its break-up with one of its founders. Highland Capital Management, LP was a Dallas-based investment fund co-founded by James Dondero. In 2019, Highland filed bankruptcy in the U.S. Bankruptcy Court for the District of Delaware. The case was transferred to the Northern District of Texas.

The Fifth Circuit noted that the case “did not proceed under the governance of a traditional chapter 11 trustee.” Of course, having a chapter 11 trustee is the exception rather than the rule. What the court meant was that the parties fashioned a bespoke remedy for control of the Debtor.  Dondero stepped down as control person of the Debtor’s general partner and was replaced by three independent directors approved by the court, including a former bankruptcy judge. The Court barred any claims against the independent directors without prior court approval. The Court subsequently appointed a Chief Restructuring Officer. Thus, the parties obtained a de facto trustee of their own choosing. 

Dondero proposed several plans which were not confirmed. The Committee and the Independent Directors negotiated their own plan. When Dondero couldn’t get his plans confirmed, “he and other creditors began to frustrate the proceedings by objecting to settlements, appealing orders, seeking writs of mandamus, interfering with Highland Capital's management, threatening employees, and canceling trades between Highland Capital and its clients.” Eventually the Bankruptcy Court held him in civil contempt and fined him $100,000.  Dondero and the U.S. Trustee objected to the plan’s exculpation provisions.

The Bankruptcy Court confirmed the Plan and appeals followed. The Fifth Circuit generally affirmed the plan but pared back the exculpation clauses.


Exculpation clauses are a subspecies of third-party releases. They preclude any party from suing various parties associated with the plan except for gross negligence or willful misconduct. Their practical effect is to bar claims for ordinary negligence in connection with the plan process.

Exculpation clauses have both a proper use and an improper one. The improper use is to shield professionals from their own negligence. The proper use is to encourage parties to work together to confirm consensual plans safe in the knowledge that they won’t get sued if things don’t work out. A third reason to include an exculpation clause is that it’s part of an attorneys’ boilerplate and no particular thought went into including the clause.

The plan in this case had two provisions which protected the plan participants:  the exculpation clause and the gatekeeper clause. The parties protected included the Debtor, its employees, the Chief Restructuring Officer, the independent directors, the Unsecured Creditors’ Committee, the professionals and the "Related Parties.” 

According to the Fifth Circuit:

The Plan exculpates the protected parties from claims based on any conduct "in connection with or arising out of" (1) the filing and administration of the case, (2) the negotiation and solicitation of votes preceding the Plan, (3) the consummation, implementation, and funding of the Plan, (4) the offer, issuance, and distribution of securities under the Plan before or after the filing of the bankruptcy, and (5) any related negotiations, transactions, and documentation. But it excludes "acts or omissions that constitute bad faith, fraud, gross negligence, criminal misconduct, or willful misconduct" and actions by Strand and its employees predating the appointment of the Independent Directors.

The Fifth Circuit also explained the gatekeeper clause as follows:

Under the Plan, bankruptcy participants are enjoined "from taking any actions to interfere with the implementation or consummation of the Plan" or filing any claim related to the Plan or proceeding. Should a party seek to bring a claim against any of the protected parties, it must go to the bankruptcy court to "first determin[e], after notice and a hearing, that such claim or cause of action represents a colorable claim of any kind." Only then may the bankruptcy court "specifically authoriz[e]" the party to bring the claim. The Plan reserves for the bankruptcy court the "sole and exclusive jurisdiction to determine whether a claim or cause of action is colorable" and then to adjudicate the claim if the court has jurisdiction over the merits.

The Court’s Ruling

The Court upheld the exculpation clause as to the Debtor, the Unsecured Creditors’ Committee and the independent directors. Under Pacific Lumber, a release may only be approved if provided elsewhere in the Code. The Debtor receives a release because it is discharged under the Plan. The Court in Pacific Lumber found that the Code provisions relating to members of the Unsecured Creditors’ Committee allowed their exculpation.

The Court found that the independent directors were entitled to exculpation because they were acting in the role of a trustee. The Court stated that:

That leaves one remaining question: whether the bankruptcy court can exculpate the Independent Directors under Pacific Lumber. We answer in the affirmative. As the bankruptcy court's governance order clarified, nontraditional as it may be, the Independent Directors were appointed to act together as the bankruptcy trustee for Highland Capital. Like a debtor-in-possession, the Independent Directors are entitled to all the rights and powers of a trustee. It follows that the Independent Directors are entitled to the limited qualified immunity for any actions short of gross negligence. Under this unique governance structure, the bankruptcy court legally exculpated the Independent Directors. (cleaned up).

Nevertheless, the Court found that outside of these three groups, exculpation was improper and had to be reversed. This applied primarily to the bankruptcy professionals, the CRO, the Debtor’s employees and the “Related Parties.”

However, the Court did not leave then un-exculpated parties without any protection. It upheld the gatekeeper provisions. The Court analogized the gatekeeper provisions to the Barton Doctrine which protects Trustees from being sued without prior court permission. The Court stated:

Courts have long recognized bankruptcy courts can perform a gatekeeping function. Under the "Barton doctrine," the bankruptcy court may require a party to "obtain leave of the bankruptcy court before initiating an action in district court when the action is against the trustee or other bankruptcy-court-appointed officer, for acts done in the actor's official capacity." In Villegas, we held "that a party must continue to file with the relevant bankruptcy court for permission to proceed with a claim against the trustee." Relevant here, we left to the bankruptcy court, faced with pre-approval of a claim, to determine whether it had subject matter jurisdiction over that claim in the first instance. In other words, we need not evaluate whether the bankruptcy court would have jurisdiction under every conceivable claim falling under the widest interpretation of the gatekeeper provision. We leave that to the bankruptcy court in the first instance. (cleaned up).

What Does It Mean?

The Fifth Circuit remains resistant to broad exercises of power untethered to the Code.  However, it is willing to consider pragmatic expansions of existing precedent. Here, the problem was that one party had proven himself to be unduly litigious. This meant that the plan proponents and related parties had a legitimate concern that they might be sued over the plan in a forum unfamiliar with the bankruptcy case. While the Barton Doctrine is an equitable doctrine specifically intended to protect trustees from being sued without permission, the Fifth Circuit was willing to endorse its extension to a broad class of plan-related parties. This partial measure protects the parties from frivolous suits without granting blanket releases.

This suggests that the Fifth Circuit would also consider other partial measures that stop short of outright releases. In particular, it seems likely that the Fifth Circuit would allow temporary injunctions against collection of debts from insiders during the period of plan performance as was done by Judge Barbara Houser in In re Seatco, 257 B.R. 469 (Bankr. N.D. Tex. 2001).

The message to plan drafters in the Fifth Circuit is that if you can’t get consensus, be modest, be practical, and find a hook in the Code or existing precedent.