11.4.16 FINAL

2016 – A Year in Review

Perspectives from Judges and Attorneys on Recent Bankruptcy Cases Impacting the Second and Third Circuits

Moderators: Andrew Rosenblatt, Esq. (Chadbourne & Parke LLP) Michael D. Sirota, Esq. (Cole Schotz P.C.) Panelists: Hon. Robert D. Drain (U.S. Bankruptcy Court, S.D.N.Y.) Hon. Rosemary Gambardella (U.S. Bankruptcy Court, D.N.J.) Hon. Christopher S. Sontchi (U.S. Bankruptcy Court, D. Del.)

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Table of Contents

Supreme Court ................................................................................................................................ 1

Husky Int’l Elecs., Inc. v. Ritz, 136 S.Ct. 1581 (2016) ............................................................. 1

Topic: Scope of the “actual fraud” exception to a discharge. .......................................................... 1

Courts of Appeal ............................................................................................................................. 3

Elliott v. GM LLC (In re Motors Liquidation Co.), 829 F.3d 135 (2d Cir. 2016) .................... 3

Topic: Asset sales and successor liability...................................................................................... 3

In re Tribune Co. Fraudulent Conveyance Litig., 818 F.3d 98 (2d Cir. 2016) ........................ 6

Topic: Safe harbors and implied preemption. ................................................................................ 6

In re Revel AC, Inc., 802 F.3d 558 (3d Cir. 2015) .................................................................... 8

Topic: Standard for obtaining stay pending appeal of a bankruptcy sale order. ................................ 8

In re ICL Holding Co., 802 F.3d 547 (3d Cir. 2015) .............................................................. 10

Topic: Asset sales and gifting. ................................................................................................... 10

In re Trump Entertainment Resorts, 810 F.3d 161 (3d Cir. 2016) ......................................... 10

Topic: CBA rejection. ............................................................................................................... 10

In re Energy Future Holdings, Corp., 648 Fed. Appx. 277 (3d Cir. 2016) ............................ 12

Topic: “Plan Confirmation Principles” in pre-confirmation settlements. ....................................... 12

Slobodian v. U.S. Internal Revenue Serv. (In re Net Pay Solutions, Inc.), 822 F.3d 144 (3d. Cir. 2016) ................................................................................................................................ 13

Topic: Preference actions. ......................................................................................................... 13

ANZ Securities, Inc. v. Giddens (In re Lehman Bros. Inc.), 808 F.3d 942 (2d Cir. 2015) ..... 14

Topic: Mandatory subordination. ............................................................................................... 14

District Courts ............................................................................................................................... 15

Weisfelner v. Hofmann (In re Lyondell Chem. Co.), 554 B.R. 635 (S.D.N.Y. 2016)............. 15

Topic: Delaware agency law and imputation of intent. ................................................................ 15

Citibank, N.A. v. Norske Skogindustrier ASA, No. 16-cv-850, 2016 WL 1052888 (S.D.N.Y. Mar. 8, 2016)........................................................................................................................... 16

Topic: Preliminary injunctions and out-of-court restructuring. ..................................................... 16

Bankruptcy Courts ........................................................................................................................ 17

In re City Sports, Inc., 554 B.R. 329 (Bankr. D. Del. 2016) .................................................. 17

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Topic: Scope of priority for “deposits.”. ..................................................................................... 17

In re Creative Finance Ltd., 543 B.R. 498 (Bankr. S.D.N.Y. 2016) ...................................... 18

Topic: Chapter 15, bad-faith filings, and center of main interests. ................................................ 18

Lehman Bros. Special Fin. Inc. v. Bank of Am. N.A. (In re Lehman Bros. Holdings Inc.), 533 B.R. 476 (Bankr. S.D.N.Y. 2016) ........................................................................................... 19

Topic: Ipso facto clauses and safe harbors. ................................................................................. 19

In re Quantum Foods, LLC, 554 B.R. 729 (Bankr. D. Del. 2016) ......................................... 21

Topic: Preference actions. ......................................................................................................... 21

PAH Litig. Trust v. Water Street Healthcare Partners, L.P. (In re Physiotherapy Holdings, Inc.), No. 15-51238 (KG), 2016 WL 3611831 (Bankr. D. Del. June 20, 2016) ..................... 22

Topic: Section 546(e) safe harbor and preemption. ...................................................................... 22

Weisfelner v. Blavatnik (In re Lyondell Chem. Co.), 543 B.R. 127 (Bankr. S.D.N.Y. 2016) 23

Topic: Extraterritorial application of avoidance actions. .............................................................. 23

In re Intervention Energy Holdings, LLC, 553 B.R. 258 (Bankr. D. Del. 2016) .................... 25

Topic: Special purpose entities and restrictions on bankruptcy filings. .......................................... 25

Sklar v. Susquehanna Bank (In re Global Protection USA, Inc.), 546 B.R. 586 (Bankr. D.N.J. 2016) ....................................................................................................................................... 26

Topic: Preference actions. ......................................................................................................... 26

Campbell v. Citibank, N.A. (In re Campbell), 547 B.R. 49 (Bankr. E.D.N.Y. 2016) ............. 27

Topic: The dischargeability of a bar-study loan. .......................................................................... 27

In re Boomerang Tube, Inc., 548 B.R. 69 (Bankr. D. Del. 2016) ........................................... 28

Topic: Fee-defense provisions in retention applications. .............................................................. 28

In re Sabine Oil & Gas Corp., 547 B.R. 66 (Bankr. S.D.N.Y. 2016) .................................... 29

Topic: Executory contracts. ....................................................................................................... 29

In re Millennium Lab Holdings II, LLC, No. 15-12284 (LSS), 543 B.R. 703 (Bankr. D. Del. 2016) ....................................................................................................................................... 30

Topic: Nonconsensual third-party releases. ................................................................................. 30

In re Ener1, Inc., No. 12-10299, 2016 WL 4919952 (Bankr. S.D.N.Y. Sept. 15, 2016) ....... 32

Topic: Post-confirmation Jurisdiction and affirmative defenses. ................................................... 32

Invest Vegas, LLC v. 21st Mortg. Corp. (In re Residential Capital), 556 B.R. 555 (Bankr. S.D.N.Y. 2016) ....................................................................................................................... 32

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Topic: Scope of the automatic stay and property of the estate....................................................... 32

In re HHH Choices Health Plan, LLC, 554 B.R. 697 (Bankr. S.D.N.Y. 2016) ..................... 33

Topic: Asset sales and state-law procedures. ............................................................................... 33

In re Sabine Oil & Gas Corp., 547 B.R. 503 (Bankr. S.D.N.Y. 2016) .................................. 34

Topic: Committee standing to bring avoidance actions. ............................................................... 34

In re 29 Brooklyn Avenue, LLC, 548 B.R. 642 (Bankr. E.D.N.Y. 2016) ............................... 36

Topic: Attorneys’ fees and the Supreme Court’s Baker Botts decision. ......................................... 36

Association of Insolvency & Restructuring Advisors 15th Annual Advanced Restructuring & Plan of Reorganization Conference

2016 – Year in Review from the Perspective of Judges and Attorneys

In recent years, the Supreme Court and Courts of Appeal have regularly handed down noteworthy decisions on important bankruptcy and restructuring issues. 2016 was no different. This year has been characterized by interesting and influential decisions, including two from the Supreme Court, several from the circuit courts, and many more from district and bankruptcy courts. As in prior years, the Second Circuit, Third Circuit, and their constituent district and bankruptcy courts, have produced many of the year’s most discussed cases, touching on a range of significant issues from third-party releases and the scope of the safe harbors, to state-law preemption and cross-border bankruptcy. Many of these decisions will serve as guideposts for both bench and bar, others will alter counterparty relationships, and others still will deepen jurisdictional divides and set the stage for Supreme Court review.

For today’s program, the panel has selected a handful of Second and Third Circuit decisions that are certain to affect restructuring professionals and their clients. In the pages that follow, the panel has summarized a number of the leading decisions issued by the Supreme Court, as well as the Second and Third Circuit courts.

Husky Int’l Elecs., Inc. v. Ritz, 136 S.Ct. 1581 (2016)

Topic: Scope of the “actual fraud” exception to an individual debtor’s bankruptcy discharge.

Background: Husky International Electronics, Inc. (“Husky”) supplied electronic device components to Chrysalis Manufacturing Corp. (“Chrysalis”). Daniel Lee Ritz was a director and partial owner of Chrysalis and exercised financial control over the company. Chrysalis failed to pay for $163,999.39 of Husky’s goods. Ritz later drained Chrysalis of assets it could have used to pay its debts to creditors like Husky by transferring large sums of money to other entities which Ritz controlled. Husky then sued Ritz to hold him personally liable for the $163,999.39 debt. Ritz filed for chapter 7 bankruptcy, and Husky, in turn, commenced an adversary proceeding in Ritz’s bankruptcy case seeking, among other things, a declaration that the $163,999.39 debt could not be discharged. Husky invoked more than one discharge exception, but the issue on appeal to the Supreme Court concerned the actual fraud provision of section 523(a)(2)(A). Each of the courts below—the bankruptcy court, the district court, and the Fifth Circuit in In re Ritz, 787 F.3d 312 (5th Cir. 2016)—held that section 523(a)(2)(A) did not apply because the $163,999.39 debt did not accrue as a result of a false representation from the debtor and, therefore, was not “obtained by . . . actual fraud.”

Issue: The question before the Court was whether the “actual fraud” contemplated by section 523(a)(2)(A) of the Bankruptcy Code required a false representation by the debtor to the

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creditor, or whether it also encompassed other forms of fraud, like fraudulent conveyance schemes, that can be accomplished without a false representation.

Holding: In resolving a split between the Fifth and Seventh Circuits, the justices ruled 7-1 (with Justice Sotomayor writing for the majority, and Justice Thomas dissenting) in favor of the broader interpretation of “actual fraud,” and held that a false representation was not required to show “actual fraud” under 11 U.S.C. § 523(a)(2)(A). In relevant part, section 523(a)(2)(A) of the Bankruptcy Code prohibits debtors from discharging “any debt . . . for money, property, [or] services . . . to the extent obtained, by . . . false pretenses, a false representation, or actual fraud.” (Emphasis added). The Supreme Court observed that the term “actual fraud” was added to the exception in 1978 with the enactment of the Bankruptcy Code; before then, the exception was limited to debts obtained by “false pretenses or false representations.” The Court proclaimed that “[w]hen Congress acts to amend a statute, we presume it intends its amendment to have a real and substantial effect,” Husky, 136 S. Ct. at 1586 (internal quotation marks omitted), and it, therefore, “start[ed] with the presumption that Congress did not intend ‘actual fraud’ to mean the same thing as ‘a false representation.’” Id. The Court rested its interpretation of “actual fraud” on its historic, common law meaning. It observed that “from the beginning of English bankruptcy practice, courts and legislatures have used the term ‘fraud’ to describe a debtor’s transfer of assets that, like Ritz’ scheme, impairs a creditor’s ability to collect a debt.” Id.

The main debate, however, and the basis for the circuit split and Justice Thomas’ dissent, centered on satisfying the “obtained by” language in the statute. In his dissent, Justice Thomas emphasized that “the statutory phrase ‘obtained by’ is an important limitation on the reach of the provision.” Id. at *10. According to Justice Thomas, section 523(a)(2)(A) applies “only when the fraudulent conduct occurs at the inception of the debt, i.e., when the debtor commits a fraudulent act to induce the creditor to part with his money, property, services, or credit.” Id. (emphasis in original). Justice Thomas reasoned that “the general rule that a common-law term of art should be given its established common-law meaning gives way where that meaning does not fit.” Id. at *9 (internal quotation marks omitted). Fraudulent transfers, he explained, generally do not fit the mold of tricking a creditor to enter into a transaction with the debtor, and thus, the historic common-law meaning of “actual fraud” does not fit the rest of § 523(a)(2). See id. at *9-10. Referring to the facts at bar, Justice Thomas highlighted that Chrysalis, not Ritz, incurred a debt to Husky; Ritz made no oral or written representations to Husky; and, in fact, the only communication between Ritz and Husky occurred after Husky shipped the goods to Chrysalis. See id. at 11. Thus, according to Justice Thomas, “the majority’s attempt to broaden § 523(a)(2)(A) to cover fraudulent transfers impermissibly second-guesses Congress’ choices.”

The Husky Court’s response to the dissent is rather terse and may be difficult to follow, but is better understood after reviewing the Seventh Circuit’s decision in McClellan v. Cantrell, 217 F.3d 890 (7th Cir. 2000), which it cites. The Husky majority conceded that “[i]t is of course true that the transferor does not ‘obtain’ debts in a fraudulent conveyance.” Husky, 2016 WL 2842452 at *8. The Court countered, however, that “the recipient of the transfer—who, with the requisite intent, also commits fraud—can ‘obtain’ assets ‘by’ his or her participation in the fraud.” Id. (citing McClellan, 217 F.3d at 897). The McClellan decision illustrates the Court’s meaning. There, a creditor sold machinery to the debtor’s brother for $200,000 payable in installments. McClellan, 217 F.3d at 892. The brother defaulted, owing the creditor more than

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$100,000. Id. The creditor sued the brother and, with the suit pending, the brother sold the machinery to his sister, the debtor, for $10. Id. She turned around and sold the machinery for $160,000 and then filed for bankruptcy. Id. The creditor than commenced an adversary proceeding to declare his $100,000 claim against her non-dischargeable. The Seventh Circuit reasoned that the debtor “obtained” the assets (i.e., the machinery) “by” her participation in the fraud. After further and more comprehensive analysis, the Seventh Circuit excepted the debt from discharge pursuant to section 523(a)(2)(A). See id. at 893-96. The Supreme Court, citing to McClellan by example, concluded that, “at least sometimes a debt ‘obtained by’ a fraudulent conveyance scheme could be nondischargeable under § 523(a)(2)(A).” Husky, 2016 WL 2842452 at *8.

Notably, however, in footnote 3 of the Husky opinion, the Supreme Court qualified that Ritz’s situation “may be unusual in this regard because Husky contends that Ritz was both the transferor and the transferee in his fraudulent conveyance scheme, having transferred Chrysalis assets to other companies he controlled.” Id. at *8 n.3. The Supreme Court expressly disclaimed: “We take no position on that contention here and leave it to the Fifth Circuit to decide on remand whether the debt to Husky was ‘obtained by’ Ritz’ asset-transfer scheme.” Id. Thus, the full extent of the Supreme Court’s holding in Husky is unclear. It remains to be seen what type fact patterns will be found to satisfy the “obtained by” requirement, the parameters of which Husky left uncertain.

Elliott v. GM LLC (In re Motors Liquidation Co.), 829 F.3d 135 (2d Cir. 2016)

Topic: Asset sales and successor liability.

Background: In 2009, General Motors Corp. (“Old GM”) filed for chapter 11 relief and sought to sell its operating assets (the “Sale”) to a newly formed entity partially owned by the US Treasury (“New GM”). Within 40 days of the petition’s filing, the bankruptcy court entered an order approving the sale of Old GM’s assets to New GM (the “Sale Order”) free and clear of all liens, claims, and interests, including successor-liability claims. Several years after the Sale, New GM began recalling certain cars that were manufactured by Old GM because of a potentially lethal ignition-switch defect, which could cause a car’s engine to shut down, disabling the car’s electronic systems, brakes, and airbags. After New GM disclosed the defect, a number of the affected car owners (the “Plaintiffs”) sued New GM asserting claims for, among other things, pre-closing injuries and economic losses arising from the ignition-switch defect in Old GM cars. New GM responded by filing a motion to enforce the Sale Order to enjoin all such claims, arguing that it bought Old GM’s assets “free and clear” of the asserted claims. The ignition-switch claimants argued that, among other things, their claims were not barred by the Sale Order because they were not given direct notice of the Sale and thus, did not receive due process.

In April 2015, the bankruptcy court found that the ignition-switch claims were known to or reasonably ascertainable by Old GM, and thus, mere publication notice of the Sale was

Courts of Appeal

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insufficient as a matter of due process. Nevertheless, the bankruptcy court concluded that the Plaintiffs were not prejudiced by the lack of due process as the court would have approved the Sale and entered the Sale Order over the Plaintiffs’ objection. Thus, the bankruptcy court enforced the Sale Order and enjoined various claims, including the ignition-switch defect claims, asserted against New GM.

Issue: Whether the Sale Order eliminated successor liability where notice of the Sale was constitutionally defective.

Holding: The Second Circuit reversed the bankruptcy court’s decision to enforce the Sale Order against the Plaintiffs finding that they were deprived of due process, and under the circumstances, demonstrated prejudice. The Second Circuit, after affirming the bankruptcy court’s jurisdiction, analyzed the scope of the Sale Order. If the Sale Order did not cover a Plaintiffs’ claims, such claims could not be enjoined; if, however, the Sale Order did cover the claims, such Plaintiffs were entitled to due process. Under Bankruptcy Code section 363(b), property can be sold “free and clear of any interest in such property” if certain conditions are satisfied. New GM argued, among other things, that, pursuant to In re Chrysler LLC, 576 F.3d 108 (2d Cir. 2009), successor-liability claims were “interests” and thus, section 363 cleansed Old GM’s assets of any such claims. The Second Circuit declined to follow Chrysler noting that the Supreme Court vacated the decision and therefore, it was not controlling precedent. Instead, the court found that the phrase “any interest in such property” lacks “precise definition,” and that courts determine whether “claims” are “interests” on a case-by-case basis.

The Second Circuit agreed that successor-liability claims could be “interests” when they flow from the debtor’s ownership of the transferred assets, but that any such claim must also qualify as a “claim” under the Bankruptcy Code. A claim is (i) a right to payment that (ii) arose before the bankruptcy filing. The Court further explained that, where the right to payment is contingent, a claim must have “result[ed] from pre-petition conduct fairly giving rise to that contingent claim.” Still, to avoid “practical and constitutional problems,” if a debtor’s prepetition conduct has not yet caused a detectable injury, courts require some contact or relationship between the debtor and the claimant that makes the claimant “identifiable.” The Second Circuit applied these principles to the various claims against New GM, including the Plaintiffs’ ignition-switch claims.

The Court held that both the (i) pre-closing accident claims and (ii) economic-loss claims arising from the ignition-switch defect fell within the Sale Order’s scope.1 With respect to the pre-closing accident claims (which amounted to prepetition tort claims), the analysis was clear cut. With respect to the economic-loss claims, however, the court found it a “closer call.” Although the economic-loss claimants had prepetition contacts with Old GM through their

1 Certain other “independent claims” and “used-car claims” were not covered by the Sale Order, and thus, could

not be enjoined by the bankruptcy court as the claims were based on New GM’s conduct or otherwise lacked a prepetition relationship with Old GM.

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ownership of Old GM cars, the ignition-switch (and other) defects were not disclosed until years later. Thus, the Second Circuit held that the economic-loss claims were contingent claims that could be barred in a chapter 11 case. “The contingency standing in the way was Old GM telling plaintiffs that the ignition switch defect existed.” Therefore, absent a lack of due process or other constitutional defect, the Sale Order would bar the ignition-switch claims against New GM.

The Second Circuit, however, held that the bankruptcy court’s decision to enforce the Sale Order to enjoin the ignition-switch claims deprived the Plaintiffs of due process because they did not receive adequate notice. The Plaintiffs had received only publication notice, but under the circumstances, were entitled to “notice by direct mail or some equivalent.” The Second Circuit, although declining to decide whether “prejudice” is an essential element of procedural due process, nevertheless, held that the bankruptcy court erred in finding that the Plaintiffs were not “prejudiced” by the lack of due process. The bankruptcy court reasoned that there was no prejudice because it would have approved the Sale even if the Plaintiffs received notice and objected. In the Second Circuit’s view, the bankruptcy court’s prejudice analysis was flawed: the “choice was not just between the Sale Order as issued and liquidation,” the bankruptcy court failed to consider whether the Sale Order’s terms could have been different. As the Second Circuit observed, bankruptcy sale orders are, in many cases, extensively negotiated documents and the Sale Order here was no exception. Thus, the prejudice to the Plaintiffs was not that they were denied an opportunity to prevent the Sale, but that they were denied a seat at the negotiating table.2 Although the court could not say that the Sale Order would have substantively changed, the Plaintiffs “at least had a basis for making business-minded arguments for why they should receive some accommodation in . . . the Sale Order.” Accordingly, the Second Circuit reversed the bankruptcy court, finding that the Plaintiffs were deprived of due process, prejudiced thereby, and could not be bound by the Sale Order’s terms. In September 2016, the Second Circuit denied New GM’s petition for panel rehearing or rehearing en banc. New GM previously said it would seek the Supreme Court’s review if the Second Circuit declined to modify or reverse its decision.

Going forward, the Second Circuit’s decision in Motors Liquidation serves as strong precedent for plaintiffs seeking recourse against asset purchasers where their claims were known or reasonably known pre-sale and the debtors failed to provide adequate notice. Nevertheless, the decision’s impact could be cabined by its facts and context: the debtor’s well-documented

2 The Second Circuit’s reasoning here was influenced by unique circumstances. The federal government’s

involvement and stake in New GM, in particular, affected the court’s analysis. The Court noted that, among other things, the government’s motives may differ from a private purchaser’s and that the Sale included “some fifteen sets of liabilities that New GM voluntarily, and without legal compulsion, took on its own.” For example, because President Obama guaranteed Old GM’s warranties, various state attorneys general objected to the Sale and successfully argued—with no apparent legal basis—that New GM should assume Lemon Law claims. In other words, the Sale Order required New GM to assume Lemon Law claims not because the objections would have prevented the Sale, but because of the power the objectors wielded simply by participating in the Sale process.

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pre-Sale knowledge of the ignition-switch defects, the federal government’s involvement, and a looming economic crisis.

In re Tribune Co. Fraudulent Conveyance Litig., 818 F.3d 98 (2d Cir. 2016)

Topic: Safe harbors and implied preemption.

Background: Tribune Co. (“Tribune”) filed for bankruptcy in 2008 shortly after its 2007 leveraged buyout. During the case, the bankruptcy court authorized the official committee of unsecured creditors to pursue certain avoidance actions. The committee then filed suit to avoid approximately $8 billion that Tribune transferred to shareholders in its LBO as actual fraudulent conveyances under section 548 of the Bankruptcy Code. The committee could not avoid the transfers as constructively fraudulent conveyances because of the section 546(e) safe harbor, which absent actual fraud prevents the avoidance of certain financial transactions. Instead, a number of individual creditors sought permission to challenge the LBO transfers under state fraudulent conveyance law.3

Those creditors subsequently filed state law constructive fraudulent conveyance claims in various different lawsuits and courts, which were consolidated in the US District Court for the Southern District of New York. The shareholders moved to dismiss the suit, arguing that, among other things, section 546(e) preempts state law claims against a debtor’s transferees, and thus, any transfers the shareholders received were barred.4 The creditors responded that section 546(e)—by its express terms—limits only a trustee’s power to bring suit against certain transferees, leaving creditors’ rights unaffected subject only to the automatic stay. In September 2013, the district court granted the shareholders’ motion to dismiss finding that the automatic stay deprived the creditors of standing to avoid the transfers while the chapter 11 plan’s litigation trustee simultaneously sought to avoid the same transfers, albeit under a different legal theory. In addition, the district court rejected the shareholders’ arguments that the creditors’ state law claims were preempted by section 546(e), holding that—by its terms—the safe harbor barred only a “trustee” from bringing such claims. The creditors appealed to the Second Circuit.5

3 The individual creditors filed a motion for entry of an order stating that (i) after the expiration of the two-year

limitations period during which the committee could bring avoidance actions expired, the creditors had regained the right to prosecute their state law claims, and (ii) the automatic stay would be lifted to permit the immediate filing of their complaint. In April 2011, the bankruptcy court granted the creditors’ motion.

4 The shareholders also sought dismissal of the creditors’ claims on the grounds that they lacked standing to avoid transfers that were being simultaneously challenged by the litigation trustee.

5 While the creditors appealed the district court’s dismissal for lack of statutory standing, the shareholders filed a cross-appeal from the district court’s rejection of their argument that the creditors’ claims were preempted.

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Issue: Whether section 546(e) preempts state law fraudulent conveyance actions against transferees of a Debtor.

Holding: The Second Circuit affirmed, but on different grounds, finding that section 546(e) preempts state laws, and therefore, the creditors’ state law constructive fraudulent conveyance claims were barred.6 The doctrine of implied preemption provides that state law is preempted if it conflicts with a federal statute. Under principles of conflict preemption, a state law cause of action is preempted by a federal statute when permitting it would stand as an obstacle to accomplishing Congress’s full purposes and objectives. The Second Circuit, having first found section 546(e)’s language to be ambiguous with respect to the creditors’ state law claims, then examined the statute’s history and purposes to determine its effect. The Court explained that section 546(e) was intended to reduce the market impact of a financial intermediary’s bankruptcy by protecting certain payments made in connection with the settlement of a securities transaction or execution of securities contract. The section 546(e) safe harbor seeks to preserve the certainty, speed, finality, and stability markets need to attract capital.

The Second Circuit acknowledged that section 546’s language may be broader than necessary, but held that its breadth merely signaled Congress’s intent to “protect the process or market from an entire genre of harms.” The Second Circuit expounded on the havoc avoidance actions could wreak on securities markets—whether asserted by a trustee or creditor—in the event of an intermediary’s bankruptcy. The Court observed that, in fact, allowing creditors to bring claims barred by section 546(e) only after the trustee failed to pursue them “would increase the disruptive effect of an unwinding by lengthening the period of uncertainty for intermediaries and investors.” Accordingly, the court found that the creditors’ legal theory was in conflict with “[e]very congressional purpose reflected in Section 546(e)” and thus, concluded that the safe harbor applied to bar creditors’ state law fraudulent conveyance claims. The Second Circuit, for the foregoing reasons, affirmed the district court’s dismissal of the creditors’ complaint but on grounds of preemption rather than standing. Notably, the Second Circuit rejected two persuasive arguments commonly raised against applying section 546(e) under these circumstances. First, the court expressly rejected the reasoning in In re Lyondell Chem. Co., 503 B.R. 348 (Bankr. S.D.N.Y. 2014), which found that section 546(e) was not preemptive because fraudulent-conveyance actions involving LBOs do not implicate the safe harbor’s underlying policies. Second, the court rejected the portion of the district court’s preemption analysis finding that section 544(b)(2)—which provides (in part) that “[a]ny claim by any person to recover a transferred contribution . . . under Federal or State law in a Federal or State court shall be preempted by the commencement of the case”—is powerful evidence that Congress did not intend for section 546(e) to preempt state law.

6 The Second Circuit did, however, disagree with the district court’s lack-of-standing ruling, ultimately finding

that under both the bankruptcy court’s stay-relief orders and the confirmed plan, the creditors’ state law constructive fraudulent conveyance claims were no longer subject to the automatic stay.”

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On September 9, 2016, the creditors filed a petition for a writ of certiorari with the Supreme Court. That petition remains pending, with opposition briefs due November 14th.

In re Revel AC, Inc., 802 F.3d 558 (3d Cir. 2015)

Topic: Standard for obtaining stay pending appeal of a bankruptcy sale order.

Background: IDEA Boardwalk, LLC (“IDEA”), an amenity tenant at the debtor casino, sought to stay the portion of the bankruptcy court’s sale order that allowed the debtors to sell their assets free and clear of IDEA’s leasehold interest. IDEA argued that section 365(h) of the Bankruptcy Code protected its leasehold interest. The debtors contended that they were entitled to sell free and clear under section 363(f) of the Bankruptcy Code because they had raised a dispute on the status and nature of IDEA’s lease. At the sale hearing, the bankruptcy court was asked to decide (i) whether sales of property under section 363(f) can wipe out a lessee’s possessory interest under section 365(h), and (ii) whether the debtors introduced enough evidence to show that the validity of IDEA’s lease was the subject of a bona fide dispute to satisfy section 363(f)(4). The bankruptcy court found in favor of the debtor on both issues. After the bankruptcy court summarily denied IDEA’s request for a stay pending appeal, IDEA filed an emergency motion before the district court to stay the bankruptcy court’s order. The district court analyzed each of the four factors that determine whether to grant a stay pending appeal, and denied IDEA’s request. IDEA appealed.

Issue: Whether the district court properly balanced and applied the factors governing the issuance of a stay pending appeal and whether it erred in denying IDEA’s request to stay the bankruptcy court’s sale order.

Holding: The Third Circuit reversed the district court’s ruling, opting for a flexible interpretation of the standard governing the stay of a bankruptcy court order pending appeal. The court noted that it seldom has occasion to focus on how to balance the factors that determine whether to grant a stay pending appeal, despite the practical and legal importance of the procedural standstill. See id. at 561. The factors, which mimic the factors relevant to requests for preliminary injunctions, include: (1) whether the stay applicant has made a strong showing that it is likely to succeed on the merits; (2) whether the applicant will be irreparably injured absent a stay; (3) whether issuance of the stay will substantially injure the other parties interested in the proceeding; and (4) where the public interest lies. The Third Circuit considered various courts’ applications of the standard and adopted a “sliding-sale” approach to balancing the “interconnected” factors, whereby a strong showing as to certain factors could overcome a weak showing as to others. See id. at 569-71.

The court stated that the first two factors were of primary importance. On the first factor, the court recognized that there have been various formulations regarding how strong of a case a stay applicant must show. For the Third Circuit, it was sufficient to show “a reasonable chance, or probability, of winning,” but the likelihood of winning “need not be more likely than not.” Id. at 568-69. On the second factor, the court provided that the movant must show that “irreparably injury is likely [not merely possible] in the absence of [a] [stay]” and that “likely” means “more

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apt to occur than not.” Id. at 569 (emphasis in original) (citations omitted). The court explained the need to consider factors two and three in relationship to one another and as part of the balancing of the harms and the equities of the case. See id.

In applying the standard, the court found that IDEA established that it would be irreparably damaged in the absence of a stay since its business, which otherwise had some prospect of success, would be threatened to the point that an award of monetary damages would be insufficient compensation. The court noted that the debtors did not adequately prove that the sale would collapse if a limited stay pending appeal was granted, and it therefore found that any alleged harm to the debtors was merely speculative. Therefore, the court concluded that the balance of harm tilted in favor of IDEA.

With regard to weighing public interest, the debtors alleged, without providing any evidence, that the sale would create jobs in the surrounding community and that a stay could jeopardize the sale and those jobs. The court considered the potential community impact along with the public policy preference in favor of protecting the rights of commercial tenants and the correctly applying the Bankruptcy Code and determined that, overall, the public interest in job creation weighed slightly in favor of the debtors.

Next, the court applied the first factor and found that it completely favored IDEA. Whereas the lower courts found that the debtors had sufficiently alleged a dispute regarding the status of the IDEA lease, the Third Circuit found that the debtor had no legal or factual basis to dispute the lease and that IDEA would almost certainly prevail on the merits on appeal. The court noted that in the absence of evidence, the lower courts relied on a variety of assumptions regarding the debtors’ and IDEA’s interpretations of the lease and stated that IDEA’s declaratory judgment action, which the lower courts relied on as proof of a disputed lease, was merely an action to “clarify [IDEA’s section 365(h)] appurtenant rights for, among other things, a utility easement” and was not an action to litigate the status of the lease. Id. at 573-74 (internal quotations marks omitted).

In analyzing the four factors together, the Third Circuit stated that IDEA’s likelihood of success on the merits of its appeal, combined with its demonstration of irreparable injury and the debtors’ failure to demonstrate the harm it would suffer were a stay granted, favored a stay pending appeal. The court noted that the relatively weak public policy interest in favor of denying the stay would not alone “tip the four-factor balance” in the debtors’ favor. Id. at 575. Accordingly, the court reversed and stayed the portion of the sale order that allowed the debtors to sell their assets free and clear of IDEA’s lease.

Judge Shwartz, dissenting, opined that the majority’s sliding scale approach to stays pending appeal was contrary to circuit precedent and that a conjunctive reading of the four factors was more appropriate. See id. at 575-76. Judge Shwartz also cited the deference owed to the district court and stated that the district court had “thoroughly” considered the record and the factors and had acted within its discretion in denying the stay.

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In re ICL Holding Co., 802 F.3d 547 (3d Cir. 2015)

Topic: In the context of a section 363 sale, whether undersecured lender-purchaser may allocate payments directly to unsecured creditors without payment higher priority creditors under the Bankruptcy Code’s priority scheme.

Summary: The debtors proposed to sell substantially all of their assets to their secured lender group in exchange for consideration consisting of a credit bid of approximately $320 million plus the lender’s agreement to pay the debtors’ and Official Committee of Unsecured Creditors’ (the “Committee”) professional fees and costs. The Committee objected to the sale. The lender group was the winning bidder, and, in addition to funding professional fees and sale costs, the purchaser reached a settlement with the Committee and agreed to deposit $3.5 million in a trust for the benefit of general unsecured creditors to resolve the Committee’s objection.

The acquisition was planned to occur through a section 363 sale. The government held a $24 million administrative claim. The purchaser determined that it wanted to avoid the government’s claim in order to achieve its desired outcome, and avoided the government’s reach by structuring the sale in such a way that payments would never be a part of the bankruptcy estate. The purchaser placed the funds for payment of professional fees and sales costs directly into escrow accounts as opposed to transmitting funds to the debtors. The purchaser also designated that any funds that were unused would be returned to the purchaser.

The government contended that funds used to make the payments were sale proceeds, and therefore, property of the estate and asserted the funds should be distributed only in compliance with the Bankruptcy Code’s priority scheme.

The court rejected the government’s argument and approved the sale, holding that the government was not entitled to share in any of the funds because the funds were not property of the estate. The court’s rationale was that section 541(a)(6) of the Bankruptcy Code did not apply because the purchaser made payments from its own funds and not those representing proceeds of the sale of estate property. The import of the decision is that it enabled a secured lender to “gift” payments to aid a sales process by paying off a Committee, or sales costs, while skipping certain levels of creditors.

In re Trump Entertainment Resorts, 810 F.3d 161 (3d Cir. 2016)

Topic: Debtor’s ability to reject an expired collective bargaining agreement under section 1113 of the Bankruptcy Code.

Background: The debtors owned and operated the Trump Taj Mahal casino in Atlantic City, New Jersey. Months before the expiration of the debtors’ collective bargaining agreement (“CBA”) with UNITE HERE Local 54 (the “Union”) on September 14, 2014, the debtors attempted to negotiate a new labor agreement due to the casino’s deteriorating financial health. The negotiations, which were attempted both prepetition and subsequent to the debtors’ chapter 11 filing on September 9, 2014, were unsuccessful. The CBA expired by its terms on September 14, 2014. Shortly thereafter, on September 26, 2014, the debtors filed a motion pursuant to

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section 1113 of the Bankruptcy Code to reject the CBA and implement the terms of the debtors’ last proposal to the Union. After an evidentiary hearing, the bankruptcy court found that the debtors had satisfied section 1113’s three-pronged requirements: the modifications were necessary to permit the reorganization of the debtor, the Union had rejected the modifications without good cause and the balance of the equities favored rejection of the CBA. The bankruptcy court granted the debtors’ motion to reject the expired CBA and authorized the debtors to implement their last proposal.

Issue: Addressing an issue of first impression among courts of appeal, the Third Circuit considered whether a debtor reject the continuing terms of an “expired” collective bargaining agreement under section 1113 of the Bankruptcy Code?

Holding: The Third Circuit affirmed the order of the bankruptcy court granting the debtor’s motion to reject the expired CBA. The court carefully analyzed and balanced the competing interests of two federal laws—the National Labor Relations Act (“NLRA”) and section 1113 of the Bankruptcy Code—and concluded that “Section 1113 meets a gap in the schemes to permit reorganizations when labor organizations will prevent the success of a reorganization.”

The court first looked to the plain language of the statute and noted that the language of the statute does not “restrict its prescription to ‘executory’ or ‘unexpired’ CBAs.” Id. at 169. Recognizing, however, that the term “Collective Bargaining Agreement” in § 1113 could be understood as applying only to an actual contract between an employer and a union, not the terms that remain in effect after that contract has expired, the court looked to the history of section 1113 for interpretative guidance. The court explained that section 1113 was the “product of the organized labor movement’s push to overturn the Supreme Court’s decision in National Labor Relations Board v. Bildisco & Bildisco, 465 U.S. 513 (1984), which had found that (i) a CBA was an executory contract subject to rejection under section 365 of the Bankruptcy Code, and (ii) a trustee could “unilaterally change the terms of a CBA after filing for bankruptcy but before the court approved rejection.” Id. at 170.

Section 1113 accepted the first holding, but overturned the second, and instead required approval by the bankruptcy court, on a very stringent standard, before the terms of a CBA could be altered by the Trustee. As the court further explained, “[t]he language of § 1113 was designed to foreclose all but the essential modifications of the working conditions integral to a successful reorganization.” Id. at 171. In that regard, the court found that “[t]his case exemplifies the process that Congress intended.” Id. The court reasoned that the fundamental purpose of both the Code and section 1113 would be undercut by reading into the statute a requirement that the CBA be unexpired. Further, the court observed that there is “an important distinction between a CBA and any other executory contract: the key terms and conditions of a CBA continue to burden the debtor after the agreement’s expiration.” Id. at 173.

Accordingly, the court held that section 1113 of the Bankruptcy Code does not distinguish between the terms of an unexpired CBA and the terms and conditions that continue to govern after a CBA expires. The Third Circuit’s decision has been viewed as giving significant leverage to employers in future negotiations seeking relief from financially burdensome labor agreements in order to salvage their businesses.

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In re Energy Future Holdings, Corp., 648 Fed. Appx. 277 (3d Cir. 2016)

Topic: Application of the “Plan Confirmation Principles” to pre-confirmation settlements.

Background: The debtors collectively comprised the largest electrical energy company in Texas. Among their creditors were two sets of noteholders secured by a first lien on the debtors’ assets (the “First Lien Notes”). Each set of First Lien Notes contained a “make-whole” premium, which would compensate the noteholders for the loss of future interest resulting from an early refinancing. One week after filing for bankruptcy, the debtors initiated a “tender offer” directed to the First Lien Noteholders in an attempt to settle the looming dispute over the enforceability of the make-whole provisions. The offer, which was to remain open for 31 days, entitled each accepting First Lien Noteholder 105% of the notes’ principal amount and 101% of the accrued interest in exchange for the release of any potential claim to the make-whole premium. The offer also contained a “step down” procedure, reducing the principal premium from 5% to 3.25% after 14 days. The offer also informed the noteholders that the debtors intended to initiate litigation to disallow the make-whole premium claims. Nine days after initiating the offer, the debtors filed a motion for approval of the settlement pursuant to section 363(b) of the Bankruptcy Code and Bankruptcy Rule 9019. The Indenture Trustee, on behalf of the non-settling First Lien Noteholders, objected to debtors’ motion, arguing that (i) the tender offer was an impermissible means of settling claims in bankruptcy, (ii) the settlement violated the equal treatment principal, and (iii) the settlement constituted a sub rosa plan. After an evidentiary hearing, the bankruptcy court approved the settlement, holding that there were no “incidents of discriminatory intent” in the debtors’ approach to the settlement and that the plan was proper use of estate assets. The Indenture Trustee appealed.

Issue: Was the debtors’ so called “tender offer” to its noteholders a permissible means to settle claims? Did the settlement between the debtors and the settling First Lien Noteholders violate the “equal treatment principle” and/or constitute an improper sub rosa plan?

Holding: The Third Circuit upheld the settlement and affirmed the bankruptcy court. The court first upheld the use of the “tender offer” on the grounds that it “was merely a mechanism to communicate the settlement offer.” Id. at 281. The court found no section of the Bankruptcy Code explicitly, or even implicitly, forbade the use of a tender offer to settle claims.

Next, the court found that the “Bankruptcy Court acted within its discretion in approving the settlement.” Id. at 282. The court summarily upheld the Bankruptcy Court’s determination that the complexity of the litigation over the make-whole claims and the attendant inconvenience of litigation warranted an attempt at settlement. The court further determined that the settlement offer was fair to the creditors, noting that (i) each noteholder could recover the same proportion of its claim by settling, and (ii) the settlement provided that non-settling noteholders would not be penalized in any way under the settlement or plan. Finally, the court noted that the settlement immediately saved the estate millions of dollars each month in interest payments, and therefore provided more assets to satisfy all creditors.

Turning to the trustee’s contention that the settlement violated the Code’s “equal treatment” principal embodied in section 1123(a)(4) of the Bankruptcy Code, the court explained

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that “under its plain language, the provision applies only to a plan of reorganization, and therefore not to pre-confirmation settlements” and “Supreme Court precedent and the Bankruptcy Code itself allow for settlements to be reached outside of the confirmation process.” Id. at 283. The court stated that it previously “adopted a flexible approach that permits the approval of settlement that may not comply with such rules so long as the bankruptcy court ‘ensur[es] the evenhanded and predictable treatment of creditors.’” Id. (quoting In re Jevic Holding Corp., 787 F.3d 173, 178 (3d Cir. 2013)). As a rule, a bankruptcy court “may approve settlements that deviate from treating similarly situated creditors equally only if it has specific and credible grounds to justify the deviation.” Id. (internal quotations omitted).

The court found that the settlement was consistent with the equal treatment rule for five reasons: (1) “each Noteholder was offered the same percentage of both principal and accrued interest;” (2) “any Noteholder who chose not to settle maintained its entire claim;” (3) “no group of eligible creditors was deprived of the opportunity to participate;” (4) “differences in potential final outcomes result[ed] from choices made by individual creditors;” and (5) “the settlement does not negatively impact the uninvolved creditors and, in fact, actually helps them.” Id. at 284.

Finally, the court quickly dismissed the Trustee’s claim that the settlement constituted an improper sub rosa plan. The court reasoned that “there is no indication, and the Trustee has provided no evidence showing, that any other creditor’s recovery is impacted by the settlement, or that any requirement of chapter 11 is subverted by the plan.” Because the settlement did not dictate the terms of any eventual chapter 11 plan or dictate the recoveries of other creditors under a plan, the settlement was plainly not a sub rosa plan.

Slobodian v. U.S. Internal Revenue Serv. (In re Net Pay Solutions, Inc.), 822 F.3d 144 (3d. Cir. 2016)

Topic: Preferences.

Background: The debtor, a payroll management service company, managed its clients’ payroll pursuant to certain “Payroll Services Agreements.” On behalf of its clients, the debtor regularly submitted payments to the IRS and other taxing authorities. The chapter 7 trustee challenged, among other things, four payments the debtor made to the IRS on behalf of various clients during the preference period in an aggregate amount of $7,115. Individually, the payments did not reach the threshold amount of $5,850 (now $6,425) required for avoidance under section 547(c)(9) of the Bankruptcy Code. The trustee sought to recover the payments as preferential transfers and argued that they should be aggregated for purposes of section 547(c)(9). The district court disagreed, holding that “[s]ection 547(c)(9) permits aggregation of only those transfers which are ‘transactionally related’ to the same debt.” Slobodian v. U.S. ex rel. Comm’r, 533 B.R. 126, 132-133 (M.D. Pa. 2015). The trustee appealed.

Issue: Whether small value transfers may be aggregated for purposes of meeting the minimum threshold under section 547(c)(9) of the Bankruptcy Code.

Holding: Addressing in issue of first impression in the Third Circuit, the court affirmed the courts below. Section 547(c)(9) provides, in pertinent part, that “[the] trustee may not avoid .

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. . a transfer . . . if, in a case filed by a debtor whose debts are not primarily consumer debts, the aggregate value of all property that constitutes or is affected by such transfer is less than $6,425.” Citing the interpretive rule that the singular includes the plural, see 11 U.S.C. § 102(7), the trustee argued that the aggregation of transfers that individually fall below the threshold was permissible as long as they were all to the same transferee. The court rejected the trustee’s argument, holding that § 547(c)(9) precludes aggregation of multiple preferential transfers for the benefit of different creditors on distinct debts, and dismissed the trustee’s preferential transfer claims. The court did reaffirm, however, that ostensibly distinct transfers may, nevertheless, be aggregated if they are, in effect, a single transfer on account of the same debt.

ANZ Securities, Inc. v. Giddens (In re Lehman Bros. Inc.), 808 F.3d 942 (2d Cir. 2015)

Topic: Mandatory subordination.

Background: Before the Lehman entities filed for bankruptcy, Lehman Brothers Holding Inc. (“LBHI”) issued securities underwritten by Lehman Brothers Inc. (“LBI”) and various Junior Underwriters. In the course of defending and settling securities fraud claims related to those offerings, the Junior Underwriters incurred significant legal fees and costs, for which they asserted entitlement to contribution under both an agreement (the “Underwriters’ Agreement”) and section 11(f) of the 1933 Securities Act. In order to obtain that contribution, the Junior Underwriters were required to file a claim in LBI’s Securities Investor Protection Act (“SIPA”) case. SIPA incorporates section 510(b) of the Bankruptcy Code, which requires that claims “arising from the sale of a security of . . . an affiliate of the debtor” are mandatorily subordinated to “all claims or interests that are senior to or equal the claim or interest represented by such security.” The SIPA Trustee for LBI (the “Trustee”) objected to the Junior Underwriters’ claims on the ground that the claims arose from the sale of LBHI securities, and therefore were mandatorily subordinated under section 510(b) to all claims with equal or greater seniority to the LBHI securities in question. The Junior Underwriters responded that section 510(b) could not require subordination of the contribution claims, because there were no claims in the LBI SIPA proceeding “represented by” the LBHI securities, as required for section 510(b) to trigger. In effect, the Junior Underwriters argued, it was impossible for their claims to be subordinated, because the claims “represented by” the securities in question, to which section 510(b) would subordinate their claims, did not exist in the LBI case.

The bankruptcy court granted the Trustee’s request for subordination on the grounds that the contribution claims themselves were “represented by” the LBHI securities, and therefore were required to be subordinated to all claims senior or equal to the contribution claims. The district court affirmed on different grounds, holding that the “claim or interest represented by [a] security” means a claim or interest of the same type as the affiliate security. Therefore, since the contribution claims arose out of the LBHI securities, the claims to which they were required to be subordinated were those senior or equal to claims of payment on the underlying securities. The Junior Underwriters appealed to the Second Circuit.

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Issues: Are claims for contribution under an agreement relating to the issuance of an affiliate security subject to mandatory subordination? If so, what degree of subordination is required?

Holding: Claims for contribution under such an agreement are subject to mandatory subordination. Section 510(b) was intended to “reinforce the absolute priority rule” by subordinating claims by security holders of debtors or debtor affiliates. This was necessary because, otherwise, security holders could cut in line by filing claims to fill in for their (devalued or worthless) subordinated securities. The absolute priority rule, the court noted, is necessary partially because of a “risk-allocation rationale,” focused on the different expectations of risk borne by shareholders and creditors. This risk-allocation rationale applies with equal force to underwriters of securities, who also intentionally chose to bear greater risk than creditors. Therefore, claims by underwriters of securities in their capacity as underwriters are subject to the same kind of subordination as those by purchasers of those securities in their capacity as purchasers, even though the underwriters’ claims are not an attempt to jump the line in the same manner.

Moreover, these claims are to be subordinated to all claims senior or equal to the claims that would arise for payment on the underlying securities. Congress chose, when drafting section 510(b), to pin the subordination provision to “the claim or interest represented by such security,” not to the claim being subordinated. This is true even in the case of affiliate securities, where the securities in question may not have a natural place in the debtor’s waterfall. While superimposing an affiliate’s capital structure on top of a debtor’s “may become somewhat messy,” the court was confident that bankruptcy judges regularly make these types of determinations. This lack of guidance from the Second Circuit means that the first cases to be decided by bankruptcy courts in situations like this will likely be hotly contested and extremely complex.

Weisfelner v. Hofmann (In re Lyondell Chem. Co.), 554 B.R. 635 (S.D.N.Y. 2016)

Topic: Delaware agency law and imputation of intent.

Background: In December 2007, Lyondell Chemical Co. (“Lyondell”) was purchased by Basell AF S.C.A. (“Basell”), a Luxembourg company, in a multibillion-dollar leveraged buyout. Through the LBO, Lyondell paid almost $1 billion in fees and distributed approximately $12.5 billion to its shareholders (the “LBO Distribution”). Basell, in turn, distributed a portion of those funds to its own shareholders, among them, BI S.à.r.l., a Luxembourg company. After Lyondell successfully confirmed a Plan, the trustee of Lyondell’s litigation trust (the “Trustee”) filed suit to avoid the LBO Distribution as an alleged actual fraudulent conveyance, on the grounds that the Chairman and CEO of Lyondell (the “CEO”) presented a knowingly false financial analysis of the LBO to the Board with the intent to defraud Lyondell’s creditors. The Trustee’s complaint, however, did not allege that the CEO had dominated the Board, or otherwise controlled the Board’s decision to make the LBO Distribution. The shareholder-defendants filed

District Courts

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a motion to dismiss the Trustee’s complaint for failure to state a claim for “actual fraud” under section 548 of the Bankruptcy Code, arguing that the CEO’s alleged fraudulent intent could not be imputed to Lyondell. The bankruptcy court granted the motion, ruling that (i) the Trustee failed to adequately allege that Lyondell incurred the debt with intent to defraud its creditors and (ii) the CEO’s knowledge and intent could not be imputed to Lyondell where the complaint failed to allege that the CEO was in a position to control the Board’s decision to proceed with the LBO.

Issue: Whether a CEO’s intent to defraud creditors may be imputed to a Debtor so as to allow an avoidance action on the basis of actual fraud.

Holding: The district court reversed on appeal, finding that the bankruptcy court’s decision rested on its application of “inapposite law.” Instead, the district court concluded that imputing the CEO’s knowledge and intent to Lyondell was “entirely consistent with Delaware agency law.” Under Delaware agency law, a company’s directors’ and officers’ knowledge and actions—when acquired or taken within the scope of their authority—are imputed to the company. Because presenting financial analyses of material corporate transactions to the Board was within the CEO’s scope of authority, the district court held that the Trustee’s allegation that the CEO knew of the figures’ falsity and intended to defraud creditors sufficed to allege that Lyondell had that knowledge and intent itself. Thus, the district court found that imposing an additional requirement, that the CEO also had excessive control over the Board, would be inconsistent with agency law and merely confuses imputation under agency law with cases where a plaintiff seeks to impute a transferee’s fraudulent intent to a debtor.

The shareholder-defendants have requested that the district court either reconsider its decision, or in the alternative, certify an interlocutory appeal to the Second Circuit. If the decision stands, it may have significant implications for future actual-fraud claims. For example, read broadly, the decision may invite trustees and creditors to reach farther down a company’s management structure to find a potential agent with knowledge or intent. Indeed, traditional principles of agency law were mostly crafted to hold principals liable for the routine acts of their agents and are not inherently limited to officers and executives.

Citibank, N.A. v. Norske Skogindustrier ASA, No. 16-cv-850, 2016 WL 1052888 (S.D.N.Y. Mar. 8, 2016)

Topic: Preliminary injunctions and out-of-court restructuring.

Background: Norske Skogindustrier ASA (the “Parent”), Norske Skog AS (the “Company”), and certain subsidiary guarantors (collectively with the Parent and the Company, the “Defendants”) sought to extend their liquidity and stave off insolvency and made an exchange offer (the “Exchange Offer”) that would permit the holders of certain unsecured notes to exchange those notes for secured notes with later maturities (the “Exchange Notes”). Citibank, in its capacity as indenture trustee (the “Trustee”) for $290 million in senior secured notes (the “Secured Notes”) filed suit to enjoin the Defendants from consummating the Exchange Offer. The Trustee argued that the Exchange Notes, by attaching security interests to

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much of the Defendants’ property, would violate negative pledge clauses of the indenture governing the Secured Notes. The Trustee was awarded a temporary restraining order (“TRO”) by the state court upon filing its lawsuit, and next sought a preliminary injunction to restrain the Defendants from consummating the Exchange Offer while the suit was pending. The Defendants opposed the motion for a preliminary injunction on the grounds that the plaintiffs had not met the standard of “irreparable harm,” because the loss of access to collateral for repayment would not be “irreparable.”

Issue: Is loss of priority in a future bankruptcy “irreparable harm” for the purposes of the preliminary injunction standard?

Holding: The district court declined to grant the injunction as the Trustee failed to show irreparable harm. The question of irreparable harm is whether the harm in question would be compensable with money damages. That does not turn on the practicality of getting the money that the harmed party would be entitled to, but on whether the harm is of a type that could be remedied with money. Therefore, even if the party seeking to enjoin an exchange offer can show that its resulting loss of priority in bankruptcy would make payment on its claim less likely, it will not meet the high burden to obtain a preliminary injunction. The court also suggested in dicta that a plaintiff must show that, if an injunction is granted, it will be able to get the money to which it is entitled. Even if this second prong is not a requirement, courts applying the standard enunciated in Norske Skogindustrier will be very unlikely to grant preliminary injunctions against exchange offers, because a loss of priority in bankruptcy will rarely lead to harm other than a lack of access to money.

In re City Sports, Inc., 554 B.R. 329 (Bankr. D. Del. 2016)

Topic: Scope of priority for “deposits” under section 507(a)(7) of the Bankruptcy Code.

Background: The debtors were a sports retailer operating through a number of stores in the northeastern United States and an e-commerce website. Prior to filing in bankruptcy, the debtors sold prepaid non-expiring gift cards to consumers at their stores and through their website. The debtors estimated that approximately $1.18 million gift cards remained outstanding after the debtors completed their going out of business sales (“GOB Sales”). On behalf of consumers in its state, the Commonwealth of Massachusetts filed a claim for the unredeemed gift cards seeking administrative priority under 11 U.S.C. § 507(a)(7).

Issue: Are unredeemed gift cards entitled to priority status under section 507(a)(7) of the Bankruptcy Code?

Holding: In In re WW Warehouse, Inc., 313 B.R. 588, 592 (Bankr. D. Del. 2004), Judge Rosenthal found that gift cards fell under the definition of “deposit,” and should therefore receive priority status. In City Sports, however, Judge Gross declined to adopt the interpretation of WW Warehouse and instead held that “gift card holders are not one of the select groups of claimants who receive priority under section 507(a)(7).”

Bankruptcy Courts

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Section 507(a)(7) provides that up to $2,850 of “deposit[s] [made by individuals]… of money in connection with the purchase, lease, or rental of property, or the purchase of services, for the personal, family, or household use of such individuals, that were not delivered or provided” are entitled to priority payment. Because the term “deposit” is not defined in the Bankruptcy Code, the court looked to the dictionary definitions for guidance and found that all the definitions “agree[d] that: the term ‘deposit’ connotes a temporal relationship between the time consideration is given and the time the right to use or possess is vested in the individual giving the consideration.” Id. at 335 (emphasis in original) (internal quotation marks omitted).

The court expounded that that temporal relationship was the key to understanding the application section 507(a)(7), which applies to “incomplete transactions.” In WW Warehouse, the court had held that gift cards fell within the definition of deposit because “[c]onsumers do not purchase gift certificates ... as the ultimate purchase.” WW Warehouse, 313 B.R. at 595. The City Sports court disagreed, however, reasoning that WW Warehouse court “wrongly focused on ‘the ultimate purchase,’” instead of “on the limits of the transaction.” City Sports, 554 B.R. at 335. The court determined that “[t]he purchase of a gift card is a short transaction, without a temporal relationship: the consumer makes payment and simultaneously receives the gift card” and the card’s use in a future transaction “is beyond the scope of the inquiry.” Id. It held that this “limited transactional scope” was commanded by the statutory language and supported by ample precedent. It was also supported by the statute’s legislative history. The Court explained that “gift cards were discussed in a seminal law review article and in House and Senate hearings regarding the drafting of the Bankruptcy Code, but they were not included in the House Report.” Id. at 339. Moreover, the legislative history indicated that the case which prompted Congress to pass § 507(a)(7), the bankruptcy of retailer W.T. Grant, was not analogous to the situation in City Sports. Rather, it appeared that “Grant Scrip” included a lay-away component that created “a built-in temporal relationship not present in the case of gift cards.” Id. at 343.

In re Creative Finance Ltd., 543 B.R. 498 (Bankr. S.D.N.Y. 2016)

Topic: Chapter 15, bad-faith filings, and center of main interests.

Background: Creative Finance Ltd. and Cosmorex Ltd. (together, the “Debtors”) were organized under British Virgin Islands law, but primarily operated out of Spain and the United Kingdom, engaging in foreign-exchange trading through other non-BVI brokers. Marex Financial Ltd. (“Marex”), the Debtors’ only non-insider creditor, sued the Debtors in England and obtained a favorable $5 million judgment. After judgment was entered, and without paying Marex, the Debtors (at the direction of their sole shareholder) transferred the bulk of their funds out of their English accounts. In October 2013, Marex obtained an order domesticating and

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enforcing the English court’s judgment in New York, where the Debtors had assets.7

In December 2013, the Debtors commenced insolvency proceedings in the BVI and a liquidator was appointed. Upon his appointment, the BVI liquidator displaced the Debtors’ directors and principals, and managers. The BVI liquidator performed certain routine tasks, such as opening bank accounts, gathering and preparing required documents, providing notice of his appointment, calling for creditors to file claims, and holding a first meeting of creditors. Approximately two months after his appointment, the BVI liquidator requested chapter 15 recognition of the Debtors’ BVI insolvency proceeding as a foreign main proceeding. Marex opposed the BVI liquidator’s request, arguing that, among other things, the BVI liquidator’s actions were insufficient to establish the BVI as the Debtors’ center of main interests (“COMI”).

Issue: Whether the liquidator’s actions were sufficient to shift a foreign debtor’s COMI from the United Kingdom to the British Virgin Islands.

Holding: The bankruptcy court, citing Morning Mist Holdings Ltd. v. Krys (In re Fairfield Sentry Ltd.), 714 F.3d 127 (2d Cir. 2013), confirmed that a debtor’s COMI should be determined as of the filing of the chapter 15 petition (as opposed to the filing of the foreign insolvency proceeding). The bankruptcy court noted that a debtor’s COMI can shift from its principal place of business to the jurisdiction of the foreign insolvency proceeding if the foreign representative has engaged in sufficient activity in that jurisdiction before the chapter 15 filing. In Creative Finance, however, the BVI liquidator had done “no more than the bare minimum necessary to comply with his statutory duties, if that, and . . . the limited activities he undertook fell far short of being sufficient to justify a finding that the Debtors’ COMI moved to the BVI.” Moreover, the bankruptcy court was troubled by the BVI liquidator’s failure to investigate the transfer of the Debtors’ funds out of its English accounts. Finally, the bankruptcy court found that the sole shareholder and Debtors had acted in bad faith by attempting to unduly control the liquidator and depriving him of the necessary resources to comply with his obligations. Given the lack of prepetition BVI activity, the bankruptcy court denied the Debtors’ request for recognition as a foreign main proceeding.

Lehman Bros. Special Fin. Inc. v. Bank of Am. N.A. (In re Lehman Bros. Holdings Inc.), 533 B.R. 476 (Bankr. S.D.N.Y. 2016)

Topic: Ipso facto clauses and safe harbors.

7 The Debtors’ remaining material assets—and their only assets in the US—were two allowed unsecured claims

totaling approximately $170 million against the estate of Refco Capital Markets in its chapter 11 case in the United States Bankruptcy Court for the Southern District of New York, In re Refco Inc., Case No. 05-60006 (Bankr. S.D.N.Y.).

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Background: Lehman Brothers Special Financing (“LBSF”) brought an action against various trustees, noteholders, and note issuers in certain synthetic collateralized debt obligations (“CDOs”) for which LBSF provided credit-default swaps. Lehman Brothers Holding Inc. (“LBHI”) both guaranteed LBSF’s payment obligations and provided credit support under the swaps. LBSF, as a swap provider, was to be paid pursuant to a waterfall provision in each CDO indenture. The swap agreements, however, contained “flip” clauses that subordinate swap payments when the provider defaults such that when LBSF defaulted, it lost its priority position in the CDO’s waterfall. LBHI’s September 15, 2008 bankruptcy filing triggered an Event of Default on LBSF’s part under the governing ISDA Master Agreements; LBSF filed for bankruptcy nearly three weeks later on October 3, 2008. As a result, LBSF’s swaps were terminated.

LBSF was “in the money” on a number of its swaps at the time of its default. Although LBHI’s bankruptcy filing triggered the default, under the transaction documents LBSF was deemed the party “in breach.” Accordingly, pursuant to the flip clause, LBSF lost its priority position in the CDO indenture’s waterfall. Consequently, after collateral pools were liquidated, and noteholders were paid, there were no proceeds left to distribute to LBSF for early-termination payments on its in-the-money swaps. In the above action, LBSF sought declaratory judgment that the swaps’ payment-priority provisions were impermissible ipso facto clauses and also sought to recover collateral proceeds that were distributed to noteholders after termination. The defendants moved to dismiss LBSF’s claims.

The bankruptcy court previously considered similar flip clauses and payment-priority provisions in Lehman Bros. Special Fin. Inc. v. BNY Corp. Trustee Servs. Ltd., 422 B.R. 407 (Bankr. S.D.N.Y. 2010) (JMP) (“BNY”) and Lehman Bros. Special Fin. Inc. v. Ballyrock ABS CDO 2007-1 Ltd (In re Lehman Bros. Holdings, Inc.), 452 B.R. 31 (Bankr. S.D.N.Y. 2011) (JMP) (“Ballyrock”). In BNY and Ballyrock, the bankruptcy court held that, among other things, (i) a priority provision that favored LBSF, but could “flip” to favor noteholders, was an unenforceable ipso facto clause; (ii) LBHI’s September 15, 2008 bankruptcy filing and LBSF’s October 3, 2008 bankruptcy filing were a “singular event” and thus, LBSF was entitled to the protection of the Bankruptcy Code’s anti-ipso facto provisions as of September 15, 2008; and (iii) the safe harbor in section 560 did not protect distribution of the proceeds of the liquidated collateral. Although the BNY and Ballyrock noteholders appealed, the disputes were quickly settled, leaving intact the underlying decisions.

Issue: Whether (i) an indenture’s flip clause is an unenforceable ipso facto clause; (ii) the safe harbor under Bankruptcy Code section 560 protects the liquidation of collateral and distribution of proceeds, and (iii) the singular-event theory permits a debtor to apply the Bankruptcy Code’s anti-ipso facto provisions to certain prepetition terminations.

Holding: The bankruptcy court granted the defendants’ motion to dismiss. First, the bankruptcy court examined the relevant payment-priority provisions, and although each transaction’s documentation varied, nearly all transactions used one of two types of payment-priority provisions:

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Type 1: In these transactions, LBSF had payment priority over noteholders at the outset of the transaction, but if certain conditions were met (including an LBSF default), LBSF’s priority would “flip,” subordinating LBSF to the noteholders.

Type 2: In these transactions, neither LBSF nor noteholders had payment priority at the outset of the transaction. Instead, these payment-priority provisions created a “toggle between two potential [w]aterfalls” but which waterfall would apply could not be determined until a termination event occurred.

The bankruptcy court further observed that, given LBHI and LBSF’s staggered bankruptcy petitions, the transactions must also be categorized according to when (i) termination occurred and (ii) collateral was liquidated and distributed. In certain transactions (i) termination, liquidation, and distribution all occurred prepetition (the “Pre-Pre Transactions”); (ii) termination occurred prepetition but distributions were made postpetition (the “Pre-Post Transactions”); and (iii) termination, liquidation, and distribution all occurred postpetition (the “Post-Post Transactions”).

The bankruptcy court held that Type 2 priority provisions were not unenforceable ipso facto clauses. Because LBSF did not hold a right to payment from the outset, the “toggle” provision that set priority upon LBSF’s default did not deprive it of any rights. As for Type 1 transactions, the bankruptcy court found that such provisions were unenforceable ipso facto provisions. Nevertheless, the bankruptcy court found that the enforcement of payment-priority provisions (including the distribution of collateral proceeds) were protected under Bankruptcy Code section 560, which protects a swap participant’s right to liquidate, terminate, or accelerate a swap agreement upon the occurrence of bankruptcy or insolvency. The bankruptcy court noted that, since BNY and Ballyrock, the Second Circuit and its constituent courts have repeatedly noted that the safe harbors require a “broad and literal interpretation.”

Moreover, the bankruptcy court declined to adopt BNY and Ballyrock’s singular-event theory. The bankruptcy court noted that the theory was a “unique interpretation” and largely resulted from the extreme circumstances surrounding Lehman’s failure. Instead, the bankruptcy court found that the Bankruptcy Code’s plain language prohibits application of the singular-event theory, and that courts should embrace uniformly and readily applicable legal principles in the Bankruptcy Code.

In re Quantum Foods, LLC, 554 B.R. 729 (Bankr. D. Del. 2016)

Topic: Preference actions and the application of administrative claims to offset preference liability.

Background: Tyson Fresh Meats, Inc. and Tyson Foods, Inc. (“Tyson”) sold food products to the debtors. Approximately two months after the debtors filed bankruptcy, Tyson filed a motion for allowance of an administrative expense claim for post-petition deliveries in the amount of $2,603,841.09, which was granted by the bankruptcy court. Subsequently, the Official Committee of Unsecured Creditors (the “Committee”) initiated an adversary proceeding against Tyson, seeking to avoid and recover certain alleged preferential transfers the debtors

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made to Tyson. Tyson responded, inter alia, that it was entitled to set off any recovery by the amount of its allowed post-petition administrative claim.

Issue: Addressing a question of apparent first impression in the Delaware bankruptcy court, the court considered whether an allowed post-petition administrative expense claim can be used to set off preference liability.

Holding: The court answered the question in the affirmative. The court first addressed the committee’s contention that Tyson’s setoff claim was really a disguised or renamed post-petition new value defense, because like a new value defense, it has the effect of reducing the total amount of preferential transfer restored to the estate. All parties agreed that if the Committee’s contention was correct and Tyson’s claim was a new value defense, then its claim was not allowable pursuant to the rationale of the Third Circuit’s decision in Friedman’s Liquidating Trust v. Roth Staffing Companies LP (In re Friedman’s Inc.), 738 F.3d 547 (3d Cir. 2013) that post-petition activity may not factor into a preference calculation. However, the court disagreed with the Committee’s contention and held that “Tyson’s Administrative Claim affects the preference claim externally, not internally,” and that its “claim fits squarely into the definition of ‘setoff,’ which is a counterclaim demand which defendant holds against plaintiff, arising out of a transaction that is extrinsic of plaintiff’s cause of action.” Id. at 734. The Committee’s cause of action was a preference action, whereas Tyson’s counterclaim was an independent, pre-existing and wholly unrelated post-petition administrative expense claim.

The court next addressed whether Tyson’s setoff claim was allowable under the law concerning setoff, which holds that setoff is only available in bankruptcy when the opposing obligations arise on the same side of the bankruptcy petition date. The court reasoned that both Tyson’s administrative claim and the Committee’s preference claims were post-petition causes of action. Lastly, the court determined that section 502(d) of the Bankruptcy Code did not require disallowance of Tyson’s claim because “administrative expense claims are accorded special treatment under the Bankruptcy Code and are not subject to section 502(d).”

PAH Litig. Trust v. Water Street Healthcare Partners, L.P. (In re Physiotherapy Holdings, Inc.), No. 15-51238 (KG), 2016 WL 3611831 (Bankr. D. Del. June 20, 2016)

Topic: Section 546(e) safe harbor defense and implied preemption.

Background: As a result of a leveraged buyout transaction, the debtor assumed $210 million in senior secured notes. At the same time, the company’s equity shareholders received $248.6 million pre-petition in exchange for their equity. The plaintiff, PAH Litigation Trust, sought to recover the $248 million, alleging that the debtor’s controlling shareholders “fraudulently overstated the debtor’s revenue stream and its overall value,” which allowed them “[to] profit[] handsomely from the fraud while the Company was left insolvent.” Physiotherapy Holdings, 2016 WL 3611831, at *4. The controlling shareholder defendants filed a motion to dismiss the claims against them as protected by the safe harbor of section 546(e) of the Bankruptcy Code, relying on case law from the Second Circuit that prevents post-confirmation trustees as creditor-assignees from asserting state law constructive fraudulent transfer

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claims. See Whyte v. Barclays Bank PLC, 494 B.R. 196 (S.D.N.Y. 2013). The defendants argued that the payments for their shares were “settlement payments” to a “financial institution” in connection with a “securities contract.” The plaintiff countered, among other things, that section “546(e) only bars avoidance actions brought by an estate representative, [while] a litigation trust may assert claims under state fraudulent transfer law so long as such claims were assigned by the creditors.” Id. at *5. In support, the Trust relied upon a conflicting case from the Second Circuit permitting a post-confirmation trust, acting as an assignee of creditors’ claims, to pursue state law fraudulent transfer claims. See Weisfelner v. Fund 1 (In re Lyondell Chem. Co.), 503 B.R. 348 (Bankr. S.D.N.Y. 2014).

Issue: Does section 546(e) of the Bankruptcy Code bar a post-confirmation trust from asserting state law fraudulent transfer claims?

Holding: While the decisions of the Second Circuit courts are non-binding on the Delaware Bankruptcy Court, the court nevertheless found the reasoning of Lyondell persuasive and adopted its holding. After an in-depth analysis, the court held that a litigation trustee may assert state law constructive fraudulent transfer claims in the capacity of a creditor-assignee when “(1) the transaction sought to be avoided poses no threat of ‘ripple effects’ in the relevant securities markets; (2) the transferees received payment for non-public securities, and (3) the transferees were corporate insiders [who] allegedly acted in bad faith.” Id at *22.

Weisfelner v. Blavatnik (In re Lyondell Chem. Co.), 543 B.R. 127 (Bankr. S.D.N.Y. 2016)

Topic: Extraterritorial application of avoidance actions.

Background: In December 2007, Lyondell Chemical Co. (“Lyondell”) was purchased by Basell AF S.C.A. (“Basell”), a Luxembourg company, in a multi-billion dollar leveraged buyout and merger resulting in a new company—LyondellBasell Industries AF S.C.A. (“LBI”). Through the LBO, Lyondell paid almost $1 billion in fees and distributed approximately $12.5 billion to its shareholders. Basell, in turn, distributed a portion of those funds to its own shareholders, among them, BI S.à.r.l., a Luxembourg company. Also, two weeks before the merger, Basell distributed an additional $100 million to its shareholders (the “Pre-LBO Payment”) that allegedly drained Basell of badly needed capital. In January 2009, Lyondell, LBI, and their affiliates filed for bankruptcy; multiple adversary proceedings soon followed, asserting various claims against Lyondell’s former shareholders. After Lyondell’s chapter 11 plan was confirmed, the trustee of the plan’s litigation trust (the “Trustee”) sought to avoid the Pre-LBO Payment, arguing that it was an avoidable transfer under Bankruptcy Code section 548, and recover the same under Bankruptcy Code section 550. The shareholders moved to dismiss the complaint arguing that, among other things, the Pre-LBO Payment was an extraterritorial transfer between two Luxembourg entities and therefore, Bankruptcy Code sections 548 and 550 did not apply. The Trustee argued that (i) the Pre-LBO Payment’s “center of gravity” was in the United States, and thus, it was a domestic transfer and extraterritorial application of sections 548 and 550 was not required, and (ii), even if extraterritorial application of the Bankruptcy Code

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was required, under the Supreme Court’s decision in Morrison v. National Australia Bank, 561 U.S. 247 (2010), Congress intended that section 548 would apply to certain foreign transfers.

Issues: Is a transfer made between foreign entities in anticipation of a domestic corporate transaction extraterritorial? If so, does section 548 permit avoidance of extraterritorial fraudulent transfers?

Holding: The bankruptcy court held that the Pre-LBO Payment was a primarily foreign transaction that required the extraterritorial application of section 548, and further, that Congress intended that section 548 could be given extraterritorial effect. First, the bankruptcy court addressed the “presumption against extraterritoriality,” a rule of statutory construction under which federal law is presumed not to apply to conduct outside the US, unless there is clear evidence of contrary intent. Contrary intent does not require express statutory language; rather, courts can infer meaning from a statute’s legislative purpose or context. To determine whether the presumption against extraterritoriality requires dismissal, courts engage in a two-step inquiry. First, a court determines whether the presumption applies by identifying the conduct regulated by the statue and considering whether that conduct occurred outside the US, and second, if the presumption applies, a court must examine the statute to determine if Congress intended extraterritorial application of the subject statute.

First, the bankruptcy court reviewed whether the Pre-LBO Payment was foreign, thus invoking the presumption. As the bankruptcy court noted, the mere fact that both the transferor and transferee were foreign entities did not render the Pre-LBO Payment a foreign transaction. Instead, courts in the Southern District employ the flexible “center of gravity” test to determine whether a transaction is domestic or foreign. See Societe Gen. plc v. Maxwell Commc’n Corp. plc (In re Maxwell Commc’n Corp. plc), 186 B.R. 807 (S.D.N.Y. 1995). Under this test, courts “look at the facts . . . to determine whether they have a center of gravity outside the United States,” which may include “consideration of all component events of the transfer, such as whether the participants, acts, targets, and effects involved in the transaction at issue are primarily foreign or primarily domestic.” The bankruptcy court found that section 548 focuses on the nature of the transaction in which property is transferred, and in this case, the Pre-LBO Payment’s connections to the U.S. were too minimal to “overcome the [transaction’s] substantially foreign nature.” Therefore, the presumption applied. For the Trustee’s avoidance claim to survive there must be clear evidence that Congress intended that section 548 apply to extraterritorial transfers.

Although section 548’s text does not expressly indicate a contrary intent, the bankruptcy court looked to the statute’s context (i.e., other Bankruptcy Code provisions) to rebut the presumption. The Court, citing the Fourth Circuit’s decision in French v. Liebmann (In re French), 440 F.3d 145 (4th Cir. 2006), read section 548 in conjunction with section 541 to find clear evidence of congressional intent to apply section 548 to foreign transfers. Parallel language in section 541 (which defines estate property as “all . . . interests of the debtor in property, wherever located”) and section 548 (which permits avoidance of transfers of an “interest of the debtor in property”) demonstrates that section 548 “applies extraterritorially not because it provides for recovery of property that is already property of the estate, but rather, because section 548 provides for the recovery of property that would have been property of the estate . . . but for the fraudulent transfer.” The Court explained that Congress could not have intended

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that property anywhere in the world come into the estate once recovered under the Bankruptcy Code, and at the same time, precluded the extraterritorial application of section 548. According to the court, this reasoning protects bankruptcy courts’ in rem jurisdiction over assets that Congress declared would become property of the estate when recovered under section 541(a)(3).

As the bankruptcy court noted, there is little circuit-level authority addressing the extraterritorial application of the Bankruptcy Code and lower-court decisions have been inconsistent. Indeed, this decision deepens a nationwide divide as to the reach of Bankruptcy Code’s avoidance provisions and creates a split within the Southern District itself. Cf. Sec. Inv’r Protection Corp. v. Bernard L. Madoff Inv. Sec. LLC, 513 B.R. 222 (S.D.N.Y. 2014) (holding that section 550 does not apply extraterritorially).

In re Intervention Energy Holdings, LLC, 553 B.R. 258 (Bankr. D. Del. 2016)

Topic: Enforceability of contract provisions designed to restrict or limit a borrower’s ability to file bankruptcy.

Background: The debtors, Intervention Energy Holdings, LLC (“IE Holdings”) and its wholly owned subsidiary, Intervention Energy, LLC (“IE”), were limited liability companies governed under the laws of the State of Delaware. Prior to the bankruptcy filing, EIG Energy Fund XI-A (“EIG”) provided up to $200 million in senior secured notes to the debtors. Following an event of default, the parties entered into a forbearance agreement that required that, as a condition to effectiveness, the debtors (i) admit EIG as a member of IE Holdings with one common unit and (ii) amend its operating agreement to require approval of each holder of common units of IE Holdings prior to any voluntary bankruptcy filing. IE Holdings satisfied the conditions precedent; it issued the single common unit to EIG and amended its operating agreement to require unanimous consent requirement to file bankruptcy (the “Golden Share Provision”).8 After the debtors filed bankruptcy, EIG filed a motion to dismiss the case, contending, inter alia, that IE Holdings was not authorized to file the chapter 11 petition without its consent.

Issue: Is the Golden Share Provision enforceable?

8 The court noted that the term “golden share” has been used mainly to refer to a government retaining control

over privatized companies. Intervention Energy Holdings, LLC, 553 B.R. at 262 n.9. Quoting Investopedia, the court noted a golden share was “[a] type of share that gives its shareholder veto power over changes to the company’s charter. A golden share holds special voting rights, giving its holder the ability to block another shareholder from taking more than a ratio of ordinary shares. Ordinary shares are equal to other ordinary shares in profits and voting rights. These shares also have the ability to block a takeover or acquisition by another company.” Id.

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Holding: The court held that the Golden Share Provision was void because the provision was “tantamount to an absolute waiver” of the debtor’s ability to file bankruptcy and, therefore, against public policy. The court sidestepped deciding questions that were potentially of first impression under state law by noting that an alternative independent federal ground existed. Id. at 263. The court agreed with the debtors that “it is axiomatic that a debtor may not contract away the right to a discharge in bankruptcy” and the Supreme Court, as early as 1912, “was forced to address parties attempting to circumvent the bankruptcy laws by ‘circuity of arrangement.’” Id. at 263-64. The Golden Share Provision in this case was a modern-day example of resourceful attorneys attempting to do exactly that. See id. at 264. The court concluded:

A provision in a limited liability company governance document obtained by contract, the sole purpose and effect of which is to place into the hands of a single, minority equity holder the ultimate authority to eviscerate the right of that entity to seek federal bankruptcy relief, and the nature and substance of whose primary relationship with the debtor is that of creditor—not equity holder—and which owes no duty to anyone but itself in connection with an LLC’s decision to seek federal bankruptcy relief, is tantamount to an absolute waiver of that right, and, even if arguably permitted by state law, is void as contrary to federal public policy. Under the undisputed facts before me, to characterize the [Golden Share Provision] here as anything but an absolute waiver by the LLC of its right to seek federal bankruptcy relief would directly contradict the unequivocal intention of EIG to reserve for itself the decision of whether the LLC should seek federal bankruptcy relief. Federal courts have consistently refused to enforce waivers of federal bankruptcy rights. I now join them, and conclude that the Debtors possessed the necessary authority to commence their chapter 11 proceedings.

Id. at 265-266 (footnote and citations omitted).

Sklar v. Susquehanna Bank (In re Global Protection USA, Inc.), 546 B.R. 586 (Bankr. D.N.J. 2016)

Topic: Preference actions and whether a transfer may be found avoidable and a recovery may be had from a subsequent transferee without suing the initial transferee.

Summary: A chapter 7 trustee commenced an action against the “Bank” seeking avoidance of certain preferential transfers, including a transfer for which the Bank was not the initial transferee. Among other defenses, the Bank asserted that before the trustee could recover the transfer, he was required to separately prove against the initial transferee that an avoidable preference exists, and since the trustee did not name the initial transferee as a defendant in the action, the claim had to be dismissed. See Global Protection USA, 546 B.R. at 618. The

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bankruptcy court acknowledged that there was a line of cases that hold that two actions must be commenced—one for avoidance, then one for recovery. See id. (citing cases). Those cases cited to the separate limitations periods for avoidance actions and recovery of transfers provided in sections 546(a) and 550, respectively, reasoning that: “section 550(a) requires recovery of fraudulent transfer only after a transfer is avoided, else the separate statutes of limitations in sections 546 and 550 would be meaningless.” Id. While recognizing that there was a split of authority on the question and that the Third Circuit had not weighed on the issue, the court rejected the Bank’s defense on that basis, and sided with the majority view, which holds “a transfer may be found avoidable and a recovery may be had from a subsequent transferee without suing the initial transferee.” Id. at 619 (citing cases). The court cited by way of example the Eleventh Circuit’s reasoning in IBT Int’l, Inc. v. Northern (In re Int’l Administrative Servs., Inc.), 408 F.3d 689, 706 (11th Cir. 2005), that “[n]othing in the language of Section 550 requires a plaintiff in a fraudulent transfer adversary proceeding to avoid the transfer received by the initial transferee before continuing with avoidance actions down the line of transfers.” Rather, “availability is an attribute of the transfer rather than that of the creditor, thus the original transferee did not have to be sued prior to pursuing a mediate transferee.” Id. (internal quotation marks omitted). Accordingly, “Congress contemplated ‘to the extent that a transfer is avoided’ to be a simultaneous as well as successive process.” Id. at 619 (citing IBT Int’l, 408 F.3d at 708).

Campbell v. Citibank, N.A. (In re Campbell), 547 B.R. 49 (Bankr. E.D.N.Y. 2016)

Topic: The dischargeability of a bar-study loan.

Background: An individual had taken out a private loan (the “Bar Loan”) from Citibank in April 2009 to study for the New York Bar Exam after graduating from law school. After making payments on the Bar Loan for over two years, the Debtor stopped making payments in June 2012. Two years later, in November 2014, the Debtor filed a chapter 7 petition and an adversary proceeding seeking declaratory judgment that the bar loan was dischargeable notwithstanding the provisions of section 523(a)(8) limiting the dischargeability of student loans.

Issue: Is a bar loan “an obligation to repay funds received as an educational benefit” excepted from discharge under section 523(a)(8)(A)(ii)?

Holding: The bankruptcy court found that the Bar Loan was not excepted from discharge. An “educational benefit” cannot be the same thing as a loan because section 523(a)(8)(A)(i) excepts from discharge “an educational benefit overpayment or loan” made or guaranteed by the government. If, as “[s]ome courts have decided without explanation, or assumed, ‘educational benefit’ . . . encompasses any loan which relates in some way to education,” most of section 523(a)(8) would be rendered superfluous. Instead, an “educational benefit” in section 523(a)(8)(A)(ii) refers to a conditional grant that becomes subject to a repayment obligation in the event that certain conditions are not met. Therefore, the Bar Loan was not an “obligation to repay funds received as an educational benefit” that would be nondischargeable under section 523(a)(8)(A)(ii). And because the Bar Loan was neither made, insured or guaranteed by a government or nonprofit entity described in section 523(a)(8)(A)(ii), nor borrowed for the purpose of attending a school subject to the provisions of the Internal

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Revenue Code specified by section 523(a)(8)(B), the bar loan in question was not nondischargeable under any other provision of section 523. Therefore, despite the extensive reach of section 523(a)(8), a bar loan is dischargeable. Chief Judge Craig’s narrow reading of “educational benefit” has already been adopted by another judge in the Eastern District of New York. In Decena v. Citizens Bank (In re Decena), Judge Grossman held on the same rationale that private loans to attend an unaccredited, unlicensed Senegalese medical school—such a school did not trigger the Internal Revenue Code provisions specified in section 523(a)(8)(B)—were dischargeable.

In re Boomerang Tube, Inc., 548 B.R. 69 (Bankr. D. Del. 2016)

Topic: The Supreme Court’s Baker Botts decision and the propriety of fee-defense provisions in retention applications.

Background: Counsel to the Official Committee of Unsecured Creditors (the “Committee Counsel”) sought approval of a fee defense provision contained in its retention application under section 328(a) of the Bankruptcy Code. The United States Trustee (the “UST”) objected, citing Baker Botts LLP v. ASARCO LLC, 135 S.Ct. 2158 (2015), in which the Supreme Court held that professionals employed under section 327(a) of the Bankruptcy Code cannot be reimbursed under section 330(a) for fees incurred in defending their fees. Committee Counsel countered that Baker Botts was inapposite because it was seeking approval of the provision under section 328 of the Bankruptcy Code, not under section 330. Furthermore, Baker Botts acknowledged that parties may contract around the American Rule. Committee Counsel therefore argued that section 328 statutorily enabled this long-established contractual exception.

Issue: Whether section 328 of the Bankruptcy Code makes enforceable a fee defense provision in a professional’s retention application.

Holding: The court agreed with the UST and denied the request for approval of the fee defense provision. It held that section 328 does not provide a statutory exception to the American Rule and, therefore, cannot support the fee defense provisions at issue under the Supreme Court’s ruling in Baker Botts. The court rejected the Committee Counsel’s argument that the provision falls under a contract exception to the American Rule. The court acknowledged that Baker Botts recognized a contractual exception, but held that retention applications are not the “typical contract modifying the American Rule” and that “such contract has to be consistent with the other provisions of the Bankruptcy Code.” Boomerang Tube, 548 B.R. at 73. The court noted that it would reach the same conclusion if the fee defense provisions were in a retention agreement filed by any professional under section 328(a), including one retained by the debtor.

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In re Sabine Oil & Gas Corp., 547 B.R. 66 (Bankr. S.D.N.Y. 2016)

Topic: Executory contracts.

Background: In July 2015, Sabine Oil & Gas Corp. (“Sabine”) filed for bankruptcy after commodity prices cratered. Sabine engaged in the exploration and production of oil and gas, colloquially called an “upstream” company. As with most upstream companies, after Sabine extracted oil or gas, it needed a third party—or “midstream” company—to transport, store, or market its product to a refinery or other petroleum processer—called a “downstream” company. Accordingly, Sabine (through an affiliate) was a counterparty to, among other agreements, a Gathering Agreement and a Condensate Gathering Agreement (the “Gathering Agreements”) with its midstream partner, Nordheim Eagle Ford Gathering, LLC (“Nordheim”), pursuant to which Sabine dedicated its full production of natural gas (and other products) to Nordheim’s gathering system.9 The Gathering Agreements, however, were negotiated when commodity prices were significantly higher and also contained penalties if Sabine failed to provide a certain minimum quantity of product.

Sabine struggled to provide the required volume of product as commodity prices fell, and the Gathering Agreements (and other similar agreements) became burdensome. After filing bankruptcy, Sabine filed a motion to reject the Gathering Agreements under section 365 of the Bankruptcy Code. Nordheim objected, arguing, among other things, that the Gathering Agreements were not executory contracts. Rather, the agreements constituted covenants that “run with the land” and thus, created a property right not subject to rejection under section 365.

Issue: Whether the Gathering Agreements were covenants that “run with the land” that cannot be rejected under section 365.

Holding: The bankruptcy court found that the Gathering Agreements were not covenants that run with the land under Texas law, and therefore, could be rejected under Bankruptcy Code section 365. Although the ruling was not binding,10 the court held that the explicit language purporting to characterize the Gathering Agreements as real covenants was insufficient to

9 Sabine was also party to certain other gathering agreements with HPIP Gonzales Holdings, LLC, which were

governed by Texas law, included similar dedications, and thus, were subject to substantially the same analysis and treatment.

10 Although the court granted the rejection motion, it concluded that, in the procedural context of a motion to reject an executory contract, it could not make a final determination as to whether the covenants at issue were covenants “running with the land,” consistent with the Second Circuit’s decision in Orion Pictures Corp. v. Showtime Networks, 4 F.3d 1095 (2d Cir. 1993) (stating that a rejection motion is a summary proceeding and not appropriate for the determination of other disputed issues). The Debtors commenced adversary proceedings against Nordheim and HPIP, seeking a declaratory judgment that the subject covenants did not run with the land. And in May 2016, for the reasons stated in the section 365 decision, among others, the court ruled in Sabine’s favor, finding that the covenants did not run with the land either as real covenants or as equitable servitudes.

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prevent them from being executory contracts subject to section 365. Under Texas law, when minerals are extracted, they cease being real property and become personal property. Under the court’s interpretation of the Gathering Agreements, Nordheim’s rights did not attach to gas (and other products) until after extraction, and thus, the Gathering Agreements did not “touch and concern the land” as required to create a real covenant. Moreover, Sabine’s affiliate and Nordheim were not in horizontal privity at the time the agreements were executed, which would also make the agreements ineffective as real covenants under Texas law. Therefore, the Gathering Agreements were executory contracts, which Sabine could reject to avoid penalties for its failure to deliver minimum quantities of product. The bankruptcy court’s decision shocked the industry and triggered a spate of litigation between bankrupt upstream participants and their midstream partners (most of which have been settled). It is not clear, however, whether bankruptcy courts in other jurisdictions will follow suit. Indeed, at least one bankruptcy judge in the Southern District of Texas has indicated that he has been waiting for an opportunity to “correct” the Sabine decision.11

In re Millennium Lab Holdings II, LLC, No. 15-12284 (LSS), 543 B.R. 703 (Bankr. D. Del. 2016)

Topic: Nonconsensual third-party releases.

Background: Millenium Lab Holdings II and its affiliates filed a prepacked joint plan of reorganization which provided for a global settlement among various parties in interest, and third-party releases of the debtors’ equity holders, their prepetition lenders and certain other related parties. More specifically, the settlements included: (1) a $325 million payment from the equity holders to the debtors; (2) conversion of the prepetition credit facility into a $600 million new term loan; (3) transfer of the debtors’ equity interests to the lenders under the credit agreement (the “Lenders”); (4) creation of two trusts; (5) a $206 million payment to settling governmental entities; (6) full recovery for all creditors except the Lenders; and (7) non-debtor, third-party releases (the “Releases”) of the debtors’ equity holders and their officers and directors. Id. at 706. Some of the Lenders with claims against the debtors’ equity holders and directors and officers voted against the plan and objected to the Releases (the “Opt-Out Lenders”).

After an evidentiary hearing, in a lengthy oral ruling from the bench, the court confirmed the plan and approved the releases over the objections of the Opt-Out Lenders and the United States Trustee. The court’s ruling conflicts with Washington Mutual, Inc., 422 B.R. 314 (Bankr.

11 In SandRidge Energy, Inc.’s chapter 11 proceedings, the debtors filed a motion to reject certain contracts,

including a midstream agreement. During the second-day hearing, Judge Jones said, “I’ve been looking for an opportunity to correct the state of New York,” indicating that he may not agree with Judge Chapman’s decision in Sabine.

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D. Del. 2011), in which the court ruled that a bankruptcy court “does not have the power to grant a third-party release of a non-debtor[,] but [r]ather, any such release must be based on consent of the releasing party (by contract or the mechanism of voting in favor of the plan).” Washington Mutual, 422 B.R. at 352. Acknowledging the conflicting decisions within the district, the bankruptcy court certified the Opt-Out Lenders’ direct appeal to the Third Circuit; the Third Circuit denied the petition and the Opt-Out Lenders’ appeal is now pending in the district court.

Issue: Whether a bankruptcy court has the authority to release a non-debtor’s direct claims against other non-debtors without the consent of the releasing non-debtor.

Holding/Reasoning: In the court’s oral ruling on confirmation, the court first addressed its jurisdiction to grant the Releases. It held the released parties had contractual indemnification claims and litigation advancement rights against the debtors, which provided a sufficient nexus to the debtors’ estates to support “related to” jurisdiction. The court then addressed the propriety of approving the Releases under the Third Circuit decision in In re Continental Airlines, 203 F.3d 203 (3d Cir. 2000), which “set forth what it called the ‘hallmarks’ of permissible, non-consensual releases; namely: fairness, necessity to the reorganization, and specific factual findings to support the conclusions.” The court found that (1) there was an identity of interest between the debtors and the released parties due to the indemnification and advancement obligations owed by the debtors should a non-debtor pursue a claim against the released parties; (2) the equity interest holders made substantial contributions by paying $325 million to the debtors and relinquishing their equity interests in the debtors, and the directors’ and officers’ sweat equity from their prior and future work for the debtors was also a substantial contribution under the circumstances; (3) the Releases were essential to the plan; (4) the support of 93.02% in number and 93.74% in amount of Class 2 Lenders was a substantial majority of creditors supporting the injunction; and (5) the $600 million new term loan, all the equity in the debtors and recoveries under two trusts was reasonable compensation for Class 2 Lenders in exchange for the Releases, which is all that needs to be shown to satisfy the final factor.

Prior to Millennium Lab, Washington Mutual provided precedent within the Third Circuit that a non-debtor, third-party release could only be granted by a bankruptcy court based upon the affirmative consent of the releasing party. See Washington Mutual, 442 B.R. at 352. Millennium Lab now provides some authority for the position that bankruptcy courts can approve non-consensual, third-party releases. However, practitioners should be careful in citing Judge Silverstein’s oral ruling as precedent in future cases. In fact, Judge Silverstein stated that “this ruling is not to be cited back to me. It may not even be persuasive in other cases, we’ll see.” Hearing Tr. at 5:3-4. The oral ruling needs to be considered in light of the circumstances that the bankruptcy court was faced with to confirm a plan prior to the expiration of a settlement deadline.

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In re Ener1, Inc., No. 12-10299, 2016 WL 4919952 (Bankr. S.D.N.Y. Sept. 15, 2016)

Topic: Post-confirmation Jurisdiction and affirmative defenses.

Background: In September 2011, Ener1, Inc. (“Ener1”) terminated its CEO’s employment “without cause.” Under the terms of his employment agreement, the CEO was entitled to a severance payment and unpaid vacation time, and after Ener1 filed for bankruptcy the CEO timely filed a proof of claim. After Ener1 successfully confirmed a Plan, the now-reorganized Ener1 objected to the CEO’s claim, asserting as an affirmative defense its entitlement to damages for the CEO’s breach of a non-compete provision of the employment agreement. The CEO challenged the bankruptcy court’s subject matter jurisdiction over the counterclaim because the breach was alleged to have occurred postpetition and moved to strike reorganized Ener1’s defense.

Issue: Whether a bankruptcy court retains post-confirmation subject matter jurisdiction over a counterclaim asserted by a reorganized debtor as a setoff against a creditor’s claim.

Holding: The bankruptcy court held that it did not retain jurisdiction over the reorganized debtor’s counterclaim, and that reorganized Ener1 would instead need to file a suit in state court for damages. Even where a reorganized debtor only asserts a counterclaim defensively as part of a claim objection, that counterclaim must still satisfy the “close nexus” test for post-confirmation subject matter jurisdiction. The mere fact that a counterclaim is closely related to the creditor’s claim does not give it a close nexus to the “plan or proceeding,” as required for continuing jurisdiction under the Second Circuit’s DPH Holdings test. A reorganized debtor therefore must assert a claim against a prepetition creditor outside the bankruptcy court and cannot obtain a bankruptcy forum for that claim merely by asserting it as a defense against the creditor.

Invest Vegas, LLC v. 21st Mortg. Corp. (In re Residential Capital), 556 B.R. 555 (Bankr. S.D.N.Y. 2016)

Topic: Scope of the automatic stay and property of the estate.

Background: Invest Vegas, LLC (“IV”) acquired real property in chain of title from a homeowners’ association (the “HOA”), which had in turn acquired it by foreclosing on a statutory superpriority lien arising under Nevada state law and purchasing the property at the ensuing foreclosure sale. Under Nevada state law, a foreclosure sale conducted by the holder of a superpriority lien would normally extinguish all consensual liens on the property. However, when the HOA commenced its foreclosure procedure, the real property was also subject to a first priority deed of trust (a form of mortgage under Nevada law) held by a debtor in the Residential Capital (“ResCap”) bankruptcy case. 21st Mortgage Corp. (“21st Mortgage”), which acquired the deed of trust in chain of title from the ResCap Debtors, claimed that its interest in the real property had not been extinguished by the foreclosure sale because any act injuring the Debtors’ interest in the deed of trust would have violated the automatic stay and therefore been void ab initio. IV commenced an action in Nevada state court seeking to quiet title against any parties that might claim an interest in the property, including 21st Mortgage as the holder of the

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Debtor’s deed of trust. The proceeding was removed to federal court in Nevada and eventually transferred to the bankruptcy court for the Southern District of New York, where the ResCap bankruptcy case had been heard.

Issue: Whether a foreclosure and sale that extinguish a debtor’s junior security interest violate the automatic stay.

Holding: No. Under the Supreme Court’s precedent in United States v. Whiting Pools, Inc., 462 U.S. 198, 204 n.8 (1983), non-debtor property is not protected by the automatic stay as part of the estate merely because the estate holds a lien on that property. Moreover, the automatic stay does not protect the value of property (here, the deed of trust) of the debtor’s estate. Even though the HOA’s foreclosure and sale extinguished the debtor’s security interest in the real property, thereby reducing the value of the deed of trust to zero, it did not violate the automatic stay. Notably, the bankruptcy court did not address the argument that the foreclosure and sale were an exercise of control over the deed of trust itself, rather than over the property subject to that deed, in violation of section 362(a)(3).

In re HHH Choices Health Plan, LLC, 554 B.R. 697 (Bankr. S.D.N.Y. 2016)

Topic: Asset sales and state-law procedures.

Background: After filing for bankruptcy, Hebrew Hospital Senior Housing, Inc. (“HHSH”), a not-for-profit assisted care facility, recognized that it did not have the resources to continue operating its facilities and needed to sell substantially all of its assets in order to provide continuity of care. The Court entered an order establishing bidding procedures for proposed sales. Under New York law, a transfer of assets from a not-for-profit corporation is required to be approved in a case before the New York Supreme Court (the trial court in the New York state court system) according to substantive New York law. HHSH and the Official Committee of Unsecured Creditors proposed competing sales to two different entities, and the bankruptcy court was required under the bid-procedures order to choose between those bidders. A challenge arose as to whether each of the competing sale offers had to be allowable under New York law (i.e., the New York limits on asset transfers) and whether the bankruptcy court was permitted to make the determination that state law was satisfied.

Issue: Whether a state law requiring a transaction to be approved by a state court is incorporated in bankruptcy through—

(a) section 363(d)(1)’s requirement that a nonprofit corporation sell property “only in accordance with nonbankruptcy law applicable to the transfer,” or

(b) section 541(f)’s limitation that property may be transferred from a tax-exempt nonprofit to a non-tax-exempt entity “only under the same conditions as would apply” outside of bankruptcy.

Holding: The state standards apply on top of those in section 363 to a transfer governed by either section 363(d)(1) or section 541(f), but the bankruptcy court may apply them. While

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the bankruptcy court is required to satisfy itself that the tests applied by the state court in such a proceeding are met, it is permitted to make that determination itself rather than remanding the case to a state court or directing the parties to apply for a state court judgment as a condition precedent to a sale. This is because the relevant provisions of sections 363 and 541 were added by section 1221 of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, which contains a rule, not added to the text of the Bankruptcy Code, against construing the provisions added by section 1221 “to require the court in which a [bankruptcy] case . . . is pending to remand or refer any proceeding, issue, or controversy to any other court, or to require the approval of any other court for the transfer of property.” However, the substantive limitations imposed on a transfer of assets from a not-for-profit corporation under New York state law were made fully applicable by both sections 363(d)(1) and 541(f), and therefore each proposed sale had to be allowable under substantive New York state law before it could be compared to the other proposed disposition under the bidding procedures the court had established under section 363. The Court distinguished the situation in this case from situations where a sale requires the approval of a state regulatory agency. When a sale requires a state license or regulatory approval, the bankruptcy court is not competent to issue a license in place of a regulatory agency. Here, on the other hand, the state law determination would be made by a state court of general jurisdiction, with which the bankruptcy court shares competence in matters of substantive state law. Nothing in the opinion hints at the result when a disposition is required to be approved by a state court of limited jurisdiction (for instance, the New York Court of Claims, which only hears cases involving the State as a party).

In re Sabine Oil & Gas Corp., 547 B.R. 503 (Bankr. S.D.N.Y. 2016)

Topic: Committee standing to bring avoidance actions.

Background: In May 2014, Sabine Oil & Gas Corp. (“Sabine”) and Forest Oil Corp. (“Forest”) entered into a merger agreement. The companies shelved the merger after learning that certain investors were shorting Forest’s unsecured notes and planned to vote against the merger to drive the trading price down. Consequently, the companies restructured the merger agreement and certain related financing transactions. Before the companies could consummate the restructured merger, commodity prices dropped and each company’s financial profile began to deteriorate. In December 2014, the merger closed; and in July 2015, Sabine filed for bankruptcy. After filing, Sabine decided not to bring avoidance actions in connection with the merger. The Official Committee of Unsecured Creditors, however, launched an investigation into potential merger-related claims12 and ultimately filed a motion for standing to pursue those

12 The claims at issue in this case fell into one of three buckets: (i) the legacy Forest estate’s constructive

fraudulent transfer claims; (ii) the legacy Sabine subsidiaries estates’ constructive fraudulent transfer claims; and (iii) certain “bad-act claims,” which included claims against directors and officers, lenders, and others for alleged improper acts.

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actions for the estate’s benefit. Under the Second Circuit’s decision in Unsecured Creditors Comm. of Debtor STN Enters. Inc. v. Noyes (In re STN Enters.), 779 F.2d 901 (2d Cir. 1985), a committee has standing to prosecute colorable avoidance actions where the debtor has “unjustifiably failed to bring suit” and the proposed litigation “would be a sensible application of estate resources.” Here, Sabine objected to the Committee’s request for STN standing, arguing that the avoidance actions were not likely to succeed and the cost to prosecute them was not worth the projected recovery under the circumstances.

Issue: How to value the benefit to the estate that would be expected from prosecuting an avoidance action.

Holding: Although requests for derivative standing do not necessarily require a mini-trial or evidentiary hearing, here, the bankruptcy court conducted a 15-day trial, including “nine days of live witness testimony from seven witnesses, over 400 exhibits . . . , five days of closing arguments, and closing argument demonstratives comprised of hundreds of slides.” Under STN’s first prong, the bankruptcy court had to analyze whether each category of claims was colorable. In doing so, the court applied a motion-to-dismiss-like standard, the claims must have been at least “plausible” or “not without some merit.” Under STN’s second prong, if the claims are colorable, the bankruptcy court must then determine whether Sabine unjustifiably refused to bring such claims, which often requires evidence that asserting such claims is likely to benefit the reorganization estate. In addition, the court, in its role as gatekeeper, must weigh, among other things, the probability of success, the potential financial recovery, and the costs to the estates of the proposed litigation in examining whether it was likely to benefit the estates and would not impair Sabine’s reorganization. In the end, the bankruptcy court denied the Committee’s request in its entirety.

As an initial matter, the court noted that the Committee’s projected recovery on the merger-related claims was dependent upon its theory that the court should separately analyze certain of the merger transactions, rather than treat the merger as a single, integrated transaction. The bankruptcy court rejected the Committee’s argument that the application of the collapsing doctrine is limited to consideration of whether a transfer was made or an obligation incurred for reasonably equivalent value such that the court could view related transactions in isolation. The court instead concluded that, under Second Circuit law, the doctrine “requires collapsing all transfers that are part of a single plan and viewing that single plan as a whole, with all its composite implications, for reasonably equivalent value and otherwise.” Based on this finding, and in light of the extensive evidentiary record, the bankruptcy court found that certain of the constructive fraudulent transfer claims were not colorable, but that certain other constructive fraudulent transfer claims (those that belonged to the legacy Sabine subsidiaries’ estates) were colorable.13

13 In addition, the court found that all of the “bad-act claims” were implausible, completely contradicted by the

factual record, and thus, were not colorable. The court observed that it was “clear beyond peradventure that the

(Cont'd on following page)

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Next, the bankruptcy court turned to the second STN prong to determine whether Sabine’s refusal to bring the colorable claims was in the best interests of the estates. Of the colorable claims, the avoidance of improperly granted liens to secure certain upstream guaranties were the most valuable, worth up to a purported $68 million. The court again reviewed the record and the parties’ respective expert’s report and testimony and determined that it could not quantify the value of the lien-avoidance claims (the court, in fact, thought the value was likely closer to $0 than $68 million). Additionally, the court found that the litigation would cost between $20 million and $30 million. Thus, weighing the costs and benefits, the court determined that bringing the claims would not be in the best interests of the estates, and accordingly, Sabine’s refusal to do so was justified.14

In re 29 Brooklyn Avenue, LLC, 548 B.R. 642 (Bankr. E.D.N.Y. 2016)

Topic: Attorneys’ fees and the Supreme Court’s Baker Botts decision.

Background: Before 29 Brooklyn Avenue, LLC (the “Debtor”) filed for bankruptcy, it acquired property for which Stephen Chelsey (the “Receiver”) had been appointed as receiver in a state-law foreclosure action. After the Debtor entered bankruptcy, the Receiver and the Debtor settled a section 543 turnover action, and the Receiver filed an application for compensation under sections 503(b)(3)(E) and 543(c)(2). The Court allowed the Receiver’s fees after an eight-day trial, and the receiver’s attorneys filed a fee application for the cost of defending the receiver’s claim for its fees. The Debtor objected, asserting that recent Supreme Court case law categorically prohibits the collection of “fees on fees.”

Issue: Whether the Supreme Court’s decision in Baker Botts LLP v. ASARCO LLC prevents attorneys for a receiver from recovering fees associated with defense of the receiver’s fee application.

Holding: No. Baker Botts dealt with fee applications under section 330(a), not section 503(b), and is therefore only persuasive, not binding authority. Moreover, the reasons for reading section 330 to prevent recovery for fee defense do not apply to section 503. The Supreme Court was concerned in Baker Botts that there was no way to read section 330 to allow recovery for successful fee defense while prohibiting recovery for unsuccessful fee defense. Section 503(b)(4), however, permits professional fees only where the receiver’s fees are “allowable” under section 503(b)(3)(E). Therefore, in the context of section 503, attorneys’ fees

(Cont'd from preceding page)

parties were working diligently to make the best of a difficult situation, a situation driven largely by commodity market forces entirely beyond their control.”

14 To provide alternative and additional support that bringing certain claims was not in the estates’ best interests, the bankruptcy court discussed that any potential litigation recoveries could be substantially reduced by claims held by the alleged transferee-defendants against the estates.

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incurred in defending a fee application are only recoverable from the estate if that fee application was upheld, resulting in a determination that the fees were “allowable.” The Supreme Court’s concern with over inclusive fee allowances is thus not a concern under section 503.

Moreover, there is no requirement that professional fees must reflect a service to the estate to be compensable under section 503(b)(4); instead, they must only reflect “professional services rendered by an attorney of an entity whose expense is allowable” under section 503(b)(3). Unlike under section 330, the court is only required in this context to check whether the fees defended were for a service to the estate, not whether the defense itself was such a service. Therefore, it does not matter that the receiver’s counsel was not providing a service to the estate in defending the receiver’s fee application; all that matters is that the fee application filed by the receiver was for a service rendered to the estate.

The court also held in the alternative that, even if Baker Botts applies to fees allowed under section 503(b), an exception would apply to permit recovery for fee defense in this case. The proposed exception would apply whenever all creditors had been paid in full, so that the only party to benefit from the disallowance of the disputed fees would be the debtor’s owner. In such a dispute, the court noted, the receiver was in essence litigating not against the Debtor, but against the Debtor’s sole equity holder. Such a case does not implicate the “fiduciary concerns” outlined by the Supreme Court in Baker Botts.