Delaware Bankruptcy Court Ruling Likely to Complicate Reorganization of Multiple-Debtor Cases
On October 31, 2011, Judge Kevin Carey of the United States Bankruptcy Court for the District of Delaware issued an opinion in the Chicago Tribune1 bankruptcy case that raises a significant hurdle to the confirmation of a joint Chapter 11 plan of reorganization covering multiple debtors. The opinion addresses an issue that has never before been squarely decided. Section 1129(a)(10) of the Bankruptcy Code requires that a Chapter 11 plan of reorganization be accepted by at least one impaired class of creditors. The issue presented in the Chicago Tribune case was whether a joint plan covering multiple debtors whose cases were jointly administered but not substantively consolidated had to be accepted by an impaired class for each debtor or whether a single impaired class cover the joint plan as a whole. The court concluded that the Bankruptcy Code requires that joint plans be accepted by an impaired class for each debtor and not just one impaired class for the entire joint plan.
In the Chicago Tribune case, two competing plans were proposed. Each of the plans covered 110 separate debtors and did not result in the substantive consolidation of the debtors. The plans were each put out to vote to the creditors and neither of the plans received approval of one impaired class for each of the debtors. The court was left to decide whether section 1129(a)(10) could be satisfied on a "per plan" basis or if it had to be satisfied on a "per debtor" basis.
One of the plan proponents objected to the confirmation of the competing plan by taking the position that 1129(a)(10) could only be satisfied on a per debtor basis, meaning that each of the 110 debtors needed an impaired class to accept the plan. Judge Carey was quick to point out that this objection applied equally to both plans and success on the objection would block the confirmation of the competing plan and would also be the death knell of the plan proposed by the objecting party. The opinion begins with a retelling of the scorpion and fox parable which, according to the court, has no moral. "Its meaning lies in the exposition of an inescapable facet of human character: the willingness to visit harm upon others, even at one’s own peril."
Judge Carey recognized that this issue is rarely litigated because multiple debtor plans which contemplate a single distribution scheme, like the plans proposed in this case, are usually used only when there is consensus between the parties. The court noted that it had a relatively clean slate on which to decide the issue which has never been addressed squarely by any court and is not mentioned in the leading bankruptcy treatise. The court determined that, absent substantive consolidation of the bankruptcy cases, the plan essentially embodied 110 separate plans that required approval by 110 separate impaired classes, one for each debtor. The facts of this case highlight the rationale behind the decision because one of the plans was accepted only by the plan proponent and by a single creditor holding a $47 claim. Allowing a creditor with a de minimis claim to determine the outcome of a $10 billion dollar reorganization flies in the face of the Bankruptcy Code’s objective.
This decision may make it more difficult to confirm joint plans of reorganization because history shows that the majority of creditors simply do not participate in the plan voting process. It may be possible for a large and complex reorganization to be stymied where creditor apathy results in no votes by creditors of a relatively insignificant debtor. Plan proponents will have to develop alternate strategies to obtain the required vote of an impaired class for each debtor.
The court did provide a roadmap for dealing with this issue. First, the court implied that the result would not necessarily be the same if the cases were substantively consolidated. However, not all cases are appropriate for substantive consolidation. Substantive consolidation is a remedy of last resort which is only appropriate when there has been a significant disregard of the separate corporate identities of the debtors or when the assets of the debtors are so scrambled that separating them is not feasible.
Second, the court stated that the plan proponents could cure the failure to comply with section 1129(a)(10) simply by dropping out of the plan the debtors that cannot obtain the required votes. This may be a practical solution. However, if those debtors are an integral part of the proposed plan, this strategy will not suffice. This solution could also significantly increase the costs associated with the reorganization process if it requires that multiple plans be put through the expensive solicitation and confirmation process.
The court provided a possible third solution which may prove to be the most controversial aspect of the opinion. The court stated that a plan might be able to be confirmed without the affirmative vote of an impaired class for each debtor if the plan, disclosure statement and the ballot conspicuously disclose that a party's failure to vote shall constitute a "deemed acceptance" of the plan. There is some authority for this proposition in the Southern District of New York and in the Tenth Circuit Court of Appeals case In re Ruti-Sweetwater, Inc., 836 F.2d 1263 (10th Cir. 1988) which the leading bankruptcy treatise describes as "unfortunate" and "not correctly decided." However, most of the courts that have addressed the deemed acceptance issue have refused to follow it. The entire deemed acceptance theory on complying with section 1129(a)(10) is questionable because Rule 3018(c) of the Federal Rules of Bankruptcy Procedure requires a written acceptance of a plan. This would imply that something more than inaction is required for acceptance.
The Tribune case appears to open a can of worms that will make it more difficult to reorganize cases involving multiple debtors where substantive consolidation is not warranted. Very likely, we’ll see an increase in the number of plans proposing substantive consolidation, which will raise issues concerning the propriety of the consolidation and the effect of the consolidation on specific creditors. However, the most likely and immediate result is that more plans will be put out to vote with the provision that the failure to vote shall be deemed an acceptance of the plan. This means that creditors will have to make more careful decisions about voting, or not voting, for a plan because the failure to vote could materially affect a creditor's rights. It is also likely that there will be an increase in litigation concerning the deemed acceptance issue until a firm and consistent body of law is developed concerning the ability of a plan proponent to satisfy section 1129(a)(10) by creditor inaction.
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1 The debtors in the case include, among many others, the Chicago Tribune, the LA Times and the Chicago Cubs baseball team.
In the Chicago Tribune case, two competing plans were proposed. Each of the plans covered 110 separate debtors and did not result in the substantive consolidation of the debtors. The plans were each put out to vote to the creditors and neither of the plans received approval of one impaired class for each of the debtors. The court was left to decide whether section 1129(a)(10) could be satisfied on a "per plan" basis or if it had to be satisfied on a "per debtor" basis.
One of the plan proponents objected to the confirmation of the competing plan by taking the position that 1129(a)(10) could only be satisfied on a per debtor basis, meaning that each of the 110 debtors needed an impaired class to accept the plan. Judge Carey was quick to point out that this objection applied equally to both plans and success on the objection would block the confirmation of the competing plan and would also be the death knell of the plan proposed by the objecting party. The opinion begins with a retelling of the scorpion and fox parable which, according to the court, has no moral. "Its meaning lies in the exposition of an inescapable facet of human character: the willingness to visit harm upon others, even at one’s own peril."
Judge Carey recognized that this issue is rarely litigated because multiple debtor plans which contemplate a single distribution scheme, like the plans proposed in this case, are usually used only when there is consensus between the parties. The court noted that it had a relatively clean slate on which to decide the issue which has never been addressed squarely by any court and is not mentioned in the leading bankruptcy treatise. The court determined that, absent substantive consolidation of the bankruptcy cases, the plan essentially embodied 110 separate plans that required approval by 110 separate impaired classes, one for each debtor. The facts of this case highlight the rationale behind the decision because one of the plans was accepted only by the plan proponent and by a single creditor holding a $47 claim. Allowing a creditor with a de minimis claim to determine the outcome of a $10 billion dollar reorganization flies in the face of the Bankruptcy Code’s objective.
This decision may make it more difficult to confirm joint plans of reorganization because history shows that the majority of creditors simply do not participate in the plan voting process. It may be possible for a large and complex reorganization to be stymied where creditor apathy results in no votes by creditors of a relatively insignificant debtor. Plan proponents will have to develop alternate strategies to obtain the required vote of an impaired class for each debtor.
The court did provide a roadmap for dealing with this issue. First, the court implied that the result would not necessarily be the same if the cases were substantively consolidated. However, not all cases are appropriate for substantive consolidation. Substantive consolidation is a remedy of last resort which is only appropriate when there has been a significant disregard of the separate corporate identities of the debtors or when the assets of the debtors are so scrambled that separating them is not feasible.
Second, the court stated that the plan proponents could cure the failure to comply with section 1129(a)(10) simply by dropping out of the plan the debtors that cannot obtain the required votes. This may be a practical solution. However, if those debtors are an integral part of the proposed plan, this strategy will not suffice. This solution could also significantly increase the costs associated with the reorganization process if it requires that multiple plans be put through the expensive solicitation and confirmation process.
The court provided a possible third solution which may prove to be the most controversial aspect of the opinion. The court stated that a plan might be able to be confirmed without the affirmative vote of an impaired class for each debtor if the plan, disclosure statement and the ballot conspicuously disclose that a party's failure to vote shall constitute a "deemed acceptance" of the plan. There is some authority for this proposition in the Southern District of New York and in the Tenth Circuit Court of Appeals case In re Ruti-Sweetwater, Inc., 836 F.2d 1263 (10th Cir. 1988) which the leading bankruptcy treatise describes as "unfortunate" and "not correctly decided." However, most of the courts that have addressed the deemed acceptance issue have refused to follow it. The entire deemed acceptance theory on complying with section 1129(a)(10) is questionable because Rule 3018(c) of the Federal Rules of Bankruptcy Procedure requires a written acceptance of a plan. This would imply that something more than inaction is required for acceptance.
The Tribune case appears to open a can of worms that will make it more difficult to reorganize cases involving multiple debtors where substantive consolidation is not warranted. Very likely, we’ll see an increase in the number of plans proposing substantive consolidation, which will raise issues concerning the propriety of the consolidation and the effect of the consolidation on specific creditors. However, the most likely and immediate result is that more plans will be put out to vote with the provision that the failure to vote shall be deemed an acceptance of the plan. This means that creditors will have to make more careful decisions about voting, or not voting, for a plan because the failure to vote could materially affect a creditor's rights. It is also likely that there will be an increase in litigation concerning the deemed acceptance issue until a firm and consistent body of law is developed concerning the ability of a plan proponent to satisfy section 1129(a)(10) by creditor inaction.
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1 The debtors in the case include, among many others, the Chicago Tribune, the LA Times and the Chicago Cubs baseball team.
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