Creditors who feel they’ve had a bad deal in corporate bankruptcies are asking the U.S. Supreme Court to drop a legal doctrine that judges are increasingly using to block appeals against the plans of the Chapter 11 approved by the courts.
Federal courts often use the “non-fair interest” doctrine to deny appeals from creditors, the US trustee, or other parties to review approved bankruptcy plans. Case law dictates that once a business begins to use the approved plan to restructure and make payments, reversing this process would be both difficult and unfair to the debtor and other creditors.
Once a plan is approved, “your chances of getting a review are next to zero,” said bankruptcy attorney Norman Kinel of Squire Patton Boggs LLP. “It’s not an accident. It is clearly by design.
Critics of the doctrine say the courts rely too heavily on it. Debtor companies are rushing to implement their approved reorganization plans to stop the dissenters’ appeal. The result is that creditors lose any means of overturning a potentially illegal bankruptcy plan that they believe unfairly leaves them out.
“It is not at all clear that the doctrine should exist,” said Melissa Jacoby, professor of bankruptcy law at the University of North Carolina at Chapel Hill. “If anything, bankruptcy needs more appellate review, not less. “
Investor David Hargreaves is one of a handful of petitioners whose theoretical fairness challenges are before the Supreme Court, pending a decision on whether the judges will intervene.
A creditor of Nuverra Environmental Solutions Inc., Hargreaves was to recover approximately 5% of the $ 450,000 of unsecured notes he held. He appealed the approval of the Oilfield Maintainer’s plan, arguing that the plan unfairly discriminated against him and other note holders because it paid off another group of unsecured creditors in full.
His claims should have been treated the same as theirs, Hargreaves argued.
But Hargreaves lost his appeal when the district court applied the doctrine of theoretical fairness. The court ruled that canceling the plan would be unfair because the company had already issued and distributed securities in the reorganized business.
Urging Supreme Court to hear Hargreaves case, Jacoby and 20 other bankruptcy law professors noted in a case filed last month that judges should “restrict the abdication by lower courts of their jurisdictional obligations” and “level the playing field in bankruptcy cases.”
The Purdue Pharma LP bankruptcy case could be the tipping point if the Supreme Court passes the other motions.
The Justice Department’s bankruptcy watchdog and a few state attorneys general have appealed controversial aspects of the opioid maker’s Chapter 11 plan, including provisions freeing the Sackler family from any future litigation related to the drugs. opioids.
The US Department of Justice’s Office of the Trustee has asked the bankruptcy court to prevent the plan from taking effect immediately while the appeal is pending. If the bankruptcy court denies that request and Purdue begins to implement the plan, the company could later argue that the mootness of fairness blocks the appeal.
The US trustee said he did not believe theory fairness would apply to Purdue’s case. Still, allowing the company’s plan to come into effect while confirmation is appealed means that “public confidence in the bankruptcy system may be irreparably shaken,” the agency said. noted.
The Purdue case already has federal lawmakers voicing concerns about alleged abuses of the corporate bankruptcy system, including theoretical fairness.
At a House Judiciary Committee hearing in July, President Jerrold Nadler (DN.Y.) expressed dismay that the Sackler family could use bankruptcy proceedings to evade responsibility for their role in the opioid crisis “despite the objections of many of their victims”.
Georgetown law professor Adam Levitin told the committee that “there is unlikely to be an appellate review due to the doctrine of theoretical fairness.”
The theoretical nature of fairness has been around for decades, becoming a staple shortly after the creation of modern bankruptcy rules in 1978.
Over time, federal courts of appeal have established broadly similar sets of selective criteria for determining when doctrine can be invoked. The United States Court of Appeals for the Eighth Circuit has said that theory of fairness should only be used “in extremely rare circumstances”, while other circuits – such as the third and fifth – have stated that ‘it should be used as a “scalpel”.
But bankruptcy lawyers say it’s on the rise.
“You are in an uphill battle” to appeal a bankruptcy plan if the money has already changed hands, said Mayer Brown LLP bankruptcy attorney Aaron Gavant. “Once the egg is scrambled, it seems like there’s less of a chance that they’ll want to put things back in place.”
Disagreeing with the majority view of the Third Circuit in the Hargreaves case, Judge Cheryl Ann Krause said the “narrow” doctrine is intended to be used more as “a scalpel.” . . than an ax.
But now, “it’s used with anything but surgical precision,” she said.
The issue already has some resonance with Judge Samuel Alito, who has spoken out against theoretical fairness while serving on the Third Circuit. The doctrine “can easily be used as a weapon” and “places far too much power in the hands of bankruptcy judges,” he wrote in a 2001 decision.
In addition to Hargreaves’ appeal against confirmation of the Nuverra plan, the Supreme Court has the opportunity to pursue at least two other motions challenging the mootness of fairness.
One was filed by a group of investors holding Puerto Rican municipal bonds that were restructured as part of the island’s bankruptcy proceedings. The other involves a provider of Windstream Holdings Inc. challenging its exclusion from receiving payments in the broadband provider’s Chapter 11 case.
Some appeals court judges have expressed dismay at what they say is an expansion of the doctrine, suggesting that the time may have come for the Supreme Court to intervene.
An Eighth Circuit panel ruled in August that a lower court had extended the doctrine too much. If theoretical fairness becomes the rule rather than the exception, “we anticipate that the Supreme Court, having so far rejected certiorari motions to revise the doctrine, will step in and severely curtail – perhaps even abolish – its use. “said the court of appeal. .