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Advising Unsecured Creditors in Complex Bankruptcies - How the Appointment of a Bankruptcy Trustee Can Shed Some Light By Adkins, Robb & McFarland, Beverly* A perfect storm has developed in the need for increased use of fiduciaries for examination and management of debtors. As a result of being over-leveraged, companies have engaged in complex financial transactions that have impaired creditors’ rights. At the same time, in the wake of the economic crisis, there have been increased reports of fraud and mismanagement. A decade ago, a number of unprecedented corporate scandals rocked the nation — Enron, WorldCom, and Tyco are the leading examples. The recent financial crisis, epitomized by the fall of Lehman Brothers, the collapse of the Madoff funds and a record number of bank failures, has led to a new wave of investigations into whether fraudulent or actionable conduct lies at the heart of recent institutional failures. It is important to recognize that individual creditors, even those with significant stakes, seldom have much ability to influence the bankruptcy process. When complex entities and financial transactions are involved, the chapter 11 filing and the events to follow are often understood only by the creditors with the most at stake who are close to the action, well informed and highly motivated. Often some of these creditors may be appointed to the creditors’ committee. In those situations, a creditors’ committee, although representative to a degree, may not be able to provide timely and meaningful information and assistance to creditors outside the active inner circle. This Article explores the roles of examiners and
trustees in chapter 11 cases and focuses on how corporate counsel can best
protect a client’s position as a single unsecured creditor or party in
interest, beyond filing a proof of claim or seeking relief from the stay.
For the reasons explained below, in today’s economic environment, when
indications of corporate mismanagement or complex undisclosed transactions
surface, corporate counsel should be armed with an understanding of when
and how to protect their clients’ interests by supporting the appointment
of a qualified chapter 11 examiner or trustee. One of the reforms of BAPCPA was the addition of Bankruptcy Code Section 1102(b)(3), which is intended to provide improved access to information to all creditors. It imposes upon the official creditors’ committee an obligation to grant unsecured creditors increased access to the committee that represents their interests. However, Section 1102(b)(3) does not provide any practical guidance as to what kind of “information” a creditors’ committee should provide to the unsecured creditor, when, and in what form. There is no requirement of a formal report. The information provided by the creditors’ committee is presumably request driven, which can lead to particularized communications to only a few creditors with the rest left to sift inefficiently through the docket for nuggets of relevant and comprehensive information. If the creditors in a large case deluged the committee with requests for information, it is debatable whether the typical committee and its counsel would be able to provide the relevant assistance outside of instituting a reporting regime. Congress Intended that the Appointment of
Chapter 11 Examiners and Trustees Should Increase After BAPCPA One amendment to BAPCPA, which reflects Congress’ priority towards addressing corporate mismanagement, was a pointed directive to the U.S. Trustee to ratchet up the use of appointed trustees in the form of §1104(e), which provides:
11 U.S.C. §1104(e). In viewing BAPCPA as a comprehensive bankruptcy
reform to correct “imbalances” in chapter 11 cases which favored incumbent
management, Director White makes the case for why trustees and examiners
can serve the interests of all stakeholders and the public by “promoting
the efficiency, effectiveness, and transparency of complex chapter 11
cases.” White & Theus, Chapter 11 Trustees And Examiners After BAPCPA, 80
AM. BANKR. L.J., at 289. It is up to the parties to these cases to decide
whether support for these measures is in their interest and to take
appropriate action, either by supporting such motions or directing
requests to the local U.S. Trustee. On December 29, 2011, United States Bankruptcy Judge Cecelia G. Morris ordered the appointment of an examiner to conduct an “unfettered investigation” of the Debtors’ conduct in connection with the pre-petition 2011 restructuring and reorganization of the Debtors and their non-Debtor affiliates, and whether there were any possible fraudulent conveyances. Whether as a nod to efficiency or independence, Judge Morris ordered the examiner to conduct an independent investigation where the “Creditors’ Committee cannot ‘tag along.’” This recent appointment of an examiner raises the
question of whether the appointment of examiners will continue on an
upward trend. Under the Bankruptcy Code, courts have the power to appoint an independent examiner for the purpose of investigating matters related to the debtor’s estate, “including an investigation of any allegations of fraud, dishonesty, or gross mismanagement…” 11 U.S.C. § 1104(c). At the conclusion of such investigation, the appointed examiner must submit his or her report to the court and to all parties in interest. The examiner’s report is filed and must include “any fact ascertained pertaining to fraud, dishonesty, incompetence, misconduct, mismanagement, or irregularity in the management of the affairs of the debtor, or to a cause of action available to the estate.” 11 U.S.C. § 1106(a)(4). The benefit of appointing an examiner is that he or she will “act as an objective nonadversarial party who will review the pertinent transactions and documents, thereby allowing the parties to make an informed determination as to their substantive rights.” In re Fibermark, Inc., 339 B.R. 321, 325 (Bankr. D. Vt. 2006). In contrast to the intermittent information an unsecured creditor would otherwise receive upon relying solely on the creditors’ committee. The public report if the examiner helps to promote transparency of complex chapter 11 cases. Unlike other court-appointed officers, an examiner
is completely disinterested and answers solely to the court. Thus,
requesting the appointment of an examiner helps to create a level playing
field to ensure that all parties, not just those on the creditors’
committee, are privy to information that is obtained without bias. In response, pursuant to 11 U.S.C. § 1104(c), the bankruptcy court approved the appointment of an examiner to probe the transactions and accounting at issue, to assess the role of management, directors, and others, and to report on any claims against those entities. The examination that ensued was one of the most complex of its kind and still today demonstrates the benefits of examiners in complex fraud and mismanagement matters. After an 18-month investigation, the examiner issued a series of reports detailing the complex accounting and financial structures at issue, the role of hundreds of individuals and entities, the application of these facts in the bankruptcy process, and the potential claims against officers, directors, and others to recoup losses. In all, the examiner’s reports identified more than $10 billion in potential claims for the bankruptcy estate. In addition, the Enron aftermath is a good example
of the type of complex enforcement terrain that often must be traversed in
chapter 11 bankruptcies, and demonstrates a further benefit of a qualified
examiner. The Enron collapse spurred several class action lawsuits on
behalf of shareholders and employees, and a variety of enforcement
responses, including investigation by the Department of Justice, the
Securities and Exchange Commission, the Internal Revenue Service, and
numerous other agencies, as well as probes by congressional committees and
investigative reporters. Parallel investigations and stake-holders are
typical in relatively large chapter 11 filings, and a competent examiner,
with experience dealing with enforcement authorities, can serve as a
central and efficient fact-gatherer, while navigating the legal,
procedural, and practical difficulties potentially created by such
overlapping investigative efforts. For this reason, “it is generally
important that the examiner or someone on the examiner’s staff be
experienced in working with law enforcement authorities on the criminal
matters.” White & Theus, Chapter 11 Trustees And Examiners After BAPCPA,
80 AM. BANKR. L.J., at 325.
11 U.S.C. § 1104(a). The trustee had hands on experience in managing multi-site restaurant businesses, which meant quickly evaluating and replacing ineffective management, and reestablishing confidence in vendors, employees, lenders, taxing authorities and the critical franchisor. A detailed analysis for a potential restructure of the business was performed and determined to be not feasible. The situation urgently required a sale of the business in order for it to survive long term and provide any value to the creditors. The trustee also recognized that it was important to increase the cash flow prior to a sale by making emergency repairs to facilities, retraining personnel in customer service along with other management ideas implemented that maximized the market appeal of the restaurants to buyers in a difficult economy. Unlike the debtor, the trustee was able to credibly convince the relevant parties to align their support behind a robust strategy that paid off in sale proceeds far exceeded predicted returns. In order to confirm a plan and close the case, the
trustee had to respond to Department of Labor as well as state and federal
criminal investigations, and to satisfy constituents and the court that a
full investigation had identified feasible courses of action. Without such
intervention, the case would have spiraled into a no-asset liquidation
with all of the business-critical franchise rights forfeited. Congress has assisted by providing the statutory
tools to help practitioners ensure that their clients can participate in a
bankruptcy process that is fair, transparent, and accessible by all
parties in interest. The Director of the Executive Office for U.S.
Trustees has urged the increased use of examiners and trustees to protect
the integrity of the bankruptcy process. It remains to be seen whether, in
this current economic downturn, there will be an upward trend of motions
to appoint an examiner or trustee, and whether courts will find that such
appointments are necessary. Nevertheless, in today’s economic environment,
corporate counsel should be aware of the powerful tools that examiners and
trustees bring to bear in protecting unsecured creditors and others in the
chapter 11 process. |