Creditors Committees Maximizing Creditor Recoveries
This article will address the two most significant changes affecting committees under BAPCPA and will examine the post-effective date cases to see how the parties and the courts have interpreted Congress's mandates.
BAPCPA affords the bankruptcy court greater authority to address committee composition. Prior to the Bankruptcy Act of 1986, §1102 gave bankruptcy courts the power to appoint the committee of unsecured creditors. The 1986 revisions amended §1102 to transfer the authority for this administrative function to the U.S. Trustee. In doing so, the 1986 revisions deleted subsection (c) of §1102, which granted the courts power to change the membership of the committee upon motion if the committee composition did not reflect the creditor body. Although the deletion of §1102(c) caused confusion as to the authority of the court to alter a committee's composition after the appointment of members by the U.S. Trustee, the majority of courts held that bankruptcy courts could review the U.S. Trustee's decisions and that a court's authority was not limited by §105(a). These courts held that §1102 allowed them to modify the composition of a committee when its members did not adequately represent the parties in interest and allowed the court to appoint additional committee members or even an additional committee if necessary. See In re SPM Mfg. Corp., 984 F.2d 1305 (1st Cir. 1992); In re Mercury Finance Co., 240 B.R. 270 (N.D. Ill. 1999); In re Lykes Bros. Steamship Co., 200 B.R. 933,939-40 (N.D. Fla. 1996); Columbia Gas Sys. Inc., 133 B.R. 174, 175 (Bankr. D. Del. 1991) (the deletion of the former §1102(c) was a "housekeeping matter" and "does not address" the issue of the court's power to review U.S. Trustee's selection process). Some courts also noted that Rule 2020 of the Federal Rules of Bankruptcy Procedure states that a proceeding to contest any act or failure to act by the U.S. Trustee is governed by Rule 9014. In re Barney's Inc., 197 B.R. 431, 437-38 (Bankr. S.D.N.Y. 1996). Thus, the majority of courts found that they held the authority to review the U.S. Trustee's decision for an abuse of discretion and if, under that standard, a court found that the U.S. Trustee acted arbitrarily and capriciously in forming the committee, it could enter an order to rectify the situation. In re Mercury Finance Co. at 278.
BAPCPA provides clarification by inserting §1102(a)(4), explicitly authorizing the bankruptcy court to order the U.S. Trustee to alter the membership of an appointed committee if the court determines that the change is necessary to ensure adequate representation of creditors or equity security-holders.2 In order to appoint a committee representative of the unsecured creditor constituency, the U.S. Trustee must consider, among other things, whether potential members will trade their claims, thus no longer remaining a creditor, whether the potential members are likely to be representative of other creditors, whether existing members already represent similar creditors or whether the failure to place a creditor on a committee jeopardizes the reorganization.
Although the author is not aware of any reported decisions addressing amended §1102(a)(4), the composition of the committee in the Delphi Corp. case (filed just prior to the BAPCPA effective date) has raised the issue as to whether the committee adequately represents the creditor body. In re Delphi Corp., Case No.05-44481(RDD) (Bankr. S.D.N.Y.). In the Delphi case, the U.S. Trustee's office sent 100 solicitations to potential committee members, 57 of whom responded. After considering information of the 57 respondents, the U.S. Trustee appointed a representative of small institutional investors, four trade creditors, a labor union and the indenture trustee for the senior noteholders to the committee. Almost immediately after appointment of the Delphi committee, the UAW and the PBGC sought orders from the court directing the U.S. Trustee to appoint them to the committee.3 Recently, General Motors filed a motion seeking appointment to the committee. GM argues that appointment is warranted because of the unique nature of its claims and that it is the only major constituent in the case not appointed to the committee. Furthermore, GM argues that as the committee is currently configured, the committee is GM's adversary rather than a statutory representative of it.4 GM also contends that the committee does not and cannot provide GM with adequate representation with financial information and thereby "creates the concomitant suspicions and unlevel negotiating positions that only exacerbate the monumental problems that must be resolved." GM believes that as the "debtors' largest and most important customer" with enormous pre-petition warranty/product recall claims against Delphi, overpricing claims and legacy costs that flow to GM, it should be able to participate as a committee member. Finally, GM argues that the U.S. Trustee's decision to exclude it from the committee was "arbitrary and capricious" and based on an erroneous conclusion of law. Accordingly, the court will be required to determine whether GM's exclusion was arbitrary and capricious and whether GM actually represents other similar creditors that also need representation on the committee. If a creditor is truly unique, does that mandate a seat on a committee?
In determining whether GM should have a seat on the committee, the court must consider whether GM or any creditor with a stake as large as GM is capable of being a fiduciary to other creditors. GM's future is intertwined and dependent on Delphi's future, and GM is both a creditor and debtor to Delphi. Despite this, is GM capable of participating as a committee member and fiduciary to other creditors?
Committee Duty to Disclose and Solicit Information
Under BAPCPA, §1102(b)(3)(A) has been added to require committees to solicit feedback from, and provide access to, information to noncommittee creditors that hold claims of the kind represented by the committee.5 Section 1102(b)(3)(A) does not indicate how a creditors' or equity committee should provide access to such information, and more importantly does not indicate the nature, scope or the extent of the "information" that a committee must provide to its constituency. Unfortunately, Congress has not adequately revealed its legislative intent related to the §1102(b)(3)(A) changes, thus leaving debtors and courts struggling to implement the change. A number of courts during the last several months have had the opportunity to consider exactly how the disclosure and solicitation required under §1102(b) (3)(A) should be carried out by committees.
One of the first cases filed after the BAPCPA effective date was Independence Air (FLYi Inc.), filed Nov. 7, 2005, in the U.S. Bankruptcy Court for the District of Delaware. In Independence Air, the debtor aggressively sought a first-day order from the court providing guidelines limiting the dissemination of information from the committee to its constituencies. Basing its request on §§105(a), 107(b) and 1102(b)(3)(A), Independence argued that because it was a participant in a very competitive industry, the dissemination of its confidential information to parties not bound by a confidentiality agreement could be disastrous for it. Specifically, Independence contended that the disclosure of compensation levels and business strategies would provide its competitors with an unfair advantage that would likely cause its demise. In addition, Independence stressed the risk that confidential information would be obtainable by its competitors and other adverse parties, and this would deter the debtor from sharing any meaningful strategies or planned initiatives with the committee. According to Independence, without the comfort order, the committee would face inherent conflict between its duty under §1102(b)(3)(A) and the confidentiality agreements made with the debtor, not to mention bylaws likely to be adopted by the committee.
To further compound the problems the debtor and committee would face, Independence emphasized that it is a public company and subject to the requirements of federal securities laws, including Regulation FD, which requires fair disclosure of "material nonpublic information." Specifically, Regulation FD requires that whenever a company discloses "material nonpublic information" to certain persons, the company must publicly disclose that same information (a) simultaneously for intentional disclosures, or (b) promptly for nonintentional disclosures.6 Under Regulation FD, two options exist for disseminating information to the public: (1) filing Form 8-K with the Securities and Exchange Commission (SEC) or (2) through a combination of methods "that [are] reasonably designed to provide broad, nonexclusionary distribution of the information to the public."7 The SEC has made certain exceptions to these requirements where a public company discloses material nonpublic information to an entity that has expressly agreed to maintain the disclosed information in confidence.8 As a result, committees have historically been able to review material nonpublic information under the protection of confidentiality agreements with the debtor.
Congress's mandate in §1102(b) (2)(C), if taken to its extreme, would require a publicly traded debtor to file numerous 8-K disclosures with the SEC or seek some form of protection from the bankruptcy court in order to exchange material nonpublic information with committees. A committee unable to accept meaningful material information without disclosing it publicly to its constituents also requires protection from the bankruptcy court. In light of these competing duties, Independence Air asked for a first-day order providing protection and defining the obligations of the debtor and committees. Judge Mary F. Walrath entered an order defining "Confidential Information" and providing that any creditors' committee would not be "authorized or required under §1102(b)(3)(A) of the Code to provide access to any confidential information of the debtors to any creditor it represents."9 The Delaware court's order required that the committee respond to written and telephonic inquires and comments received from the creditors it represents. Moreover, in an emerging trend, the committee was encouraged to use a Web site to allow creditors to access public documents and other materials that the committee believed "in its reasonable business judgment" would provide information to the creditor body.10 The committee was also protected from having to reveal attorney-client or other privileged information to any party if the privileged information was not confidential information and the relevant privilege was held and controlled solely by the committee.
In the Refco case, the first reported opinion addressing committee disclosure requirements, Judge Robert Drain of the Southern District of New York set forth certain conditions for dissemination of information and concurrent obligations of a committee to solicit input from its constituency.11 Refco and its related entities filed voluntary petitions on Oct. 17, 2005, and thereafter a committee was appointed. After the committee analyzed the proposed sales of the debtors' assets and the sales were successfully consummated, the committee focused its attention on issues raised by certain customers, as well as the allegedly fraudulent actions that resulted at least in part in Refco's bankruptcy filing.
In light of the enormous investigation that it would be required to undertake and because REFCO was regulated by securities law, the committee moved three days after its appointment for the approval of a protocol for complying with §1102(b)(3)(A). An interim order was negotiated by the debtor and the U.S. Trustee that ultimately became a final order. In light of the quickly moving case and the lack of guidance provided by Congress, Judge Drain issued the published decision to provide guidance and a comfort order for the committee.
In explaining the protocol order,12 the court examined three sources for construing committee obligations to provide "access to information" under §1102(b) (3)(A). According to the court, the Code has long contained a similar disclosure requirement for bankruptcy trustees in §704(7), which applies under §§1106 (a)(1) and 1107(a) to chapter 11 trustees and debtors-in-possession and states that a "trustee shall...unless the court orders otherwise, furnish such information concerning the estate and the estate's administration as is requested by a party in interest."13 The duty to provide information under §704(7) is not unlimited, however, as a trustee may obtain a protective order against disclosure of information under §704(7), if disclosure would result in waiver of the attorney-client privilege or if information is proprietary and confidential.14 The trustee's obligation derives from its fiduciary duty owed to creditors and the estate.15 If a creditor's request for information furthers the exercise of that duty, the request should be honored; if it does not further that interest, it should be denied. If a trustee does not believe that disclosure is in the best interest of the estate, it is incumbent on the trustee to point to a countervailing fiduciary duty, such as protecting creditors and the estate from diminution in value of assets or other particular harm. The court also discussed the similar provisions that existed under the Bankruptcy Act of 1898, which required committees to report to creditors on the progress of the proceedings under Bankruptcy Act Rule 11-29. Few cases interpreted this provision. One that did, however, stated that "[i]t is clear that the creditors' committee is not required to forward to each creditor all of the raw data it receives and considers in the process of carrying out its duties." In re Gilchrist Co., 410 F.Supp. 1070 (E.D. Pa. 1976). Thus, in balancing the many competing interests of abiding by the securities law, protecting attorney-client privilege and providing meaningful information to creditors, the Refco court adopted an order that allowed disclosure of specified information to creditors while restricting the dissemination of information that would violate securities laws, breach attorney-client privilege or prohibit meaningful discussions with the debtor. Finally, the order provides exculpation for the debtors, the committee and related parties from liability for any act taken in connection with the dissemination of the information to be provided to the creditor body. The order provides for (1) dissemination of information via Internet-accessed Web site that provides general information regarding the case, (2) monthly committee written reports summarizing recent proceedings and public financial information, (3) highlights of significant events in the case, (4) a calendar with upcoming significant events, (5) access to the claims docket, (6) general overview of chapter 11 process, (7) press releases issued by the committee and the debtor, (8) a nonpublic registration form for creditors to request "real-time" case updates via e-mail, (9) a nonpublic form to submit creditor questions, responses to creditor questions, comments and requests for access to information, (10) answers to frequently asked questions and (11) links to other relevant Web sites.16
Unfortunately, BAPCPA fails to explain whether a committee may actually delegate its obligations to a third party to disseminate and solicit information. In certain mega cases, Web sites providing information are built and operated by claims-management companies. Is this delegation proper and in compliance with the Code? Should a committee provide information directly to creditors and solicit the input of its constituency itself? The Refco order allows certain confidential information to be disseminated to creditors executing confidentiality agreements. Neither the Code nor the Refco opinion explain what happens if a party authorized to receive confidential information passes the information on or shares the password with another party or the public. Who has liability for this breach of the confidentiality agreement – the committee? All who have the password? What is the penalty if the wrongly disclosed information diminishes the value of the debtor's estate and hurts other creditors? In a world where technology becomes increasingly sophisticated, how can information be provided in a safe manner that promotes reorganization and respects mandates of securities law?
The need for creditors to receive meaningful information during a reorganization is critical, just as the ability of the debtor to maintain strategic advantage in its industry and generally retain value for its estate. This balancing act between these interests will continue to create tension in future cases.
1 The author wishes to thank John T. Gregg, an associate in the Grand Rapids, Mich., office of Barnes & Thornburg LLP, for his valuable insight, comments and assistance on this article.
2 Section 1102(a)(4) states: On request of a party in interest and after notice and a hearing, the court may order the U.S. Trustee to change the membership of a committee appointed under this subsection, if the court determines that the change is necessary to ensure adequate representation of creditors or equity security—holders. The court may order the U.S. Trustee to increase the number of members of a committee to include a creditor that is a small—business concern (as described in §3(a)(1) of the Small Business Act); if the court determines that the creditor holds claims (of the kind represented by the committee) the aggregate amount of which, in comparison to annual gross revenue of that creditor, is disproportionately large.
3 Sometime after the UAW filed its motion with the court, by agreement of the debtors, the committee, UAW, PBGC and the U.S. Trustee, the UAW and PBGC were appointed as ex officio members of the committee.
4 Motion for Order Directing Appointment of General Motors Corp. to Statutory Creditors' Committee filed Feb. 17, 2006, as docket number 2443, In re Delphi Corp., et al., Case Number 05-44481, (Bankr. S.D.N.Y.).
5 Section 1102(b)(3) states, in relevant part, that a creditors' committee appointed under §1102(a) of the Code shall "provide access to information for creditors who (i) hold claims of the kind represented by that committee and (ii) are not appointed to the committee." 11 U.S.C. §1102(b)(3)(A).
6 Regulation FD, 17 C.F.R. §243.100(a).
7 17 C.F.R. §243.101(e)(1), (2).
8 17 C.F.R. §243.100(b)(2)(ii).
9 In re FLYi Inc., Case No. 05-20011 (Bankr. D. Del.), Docket No. 145
10 A number of cases currently have Web sites, including Delphi Corp. (www.delphidocket.com, maintained by Kurzman Carlson consultants under the direction of Delphi Corp.), Delta Airlines (www.deltadocket.com, maintained by Bankruptcy Services LLC) and Calpine Corp. (kccllc.net/calpine). None of these Web sites appear to be maintained on or on behalf of a committee.
11 In re Refco Inc., 336 B.R. 187 (Bankr. S.D.N.Y. Jan. 20, 2006).
12 The order regarding creditor access to information is attached to the published opinion and may prove useful to other committees and debtors negotiating similar orders in the future. Id. at 199.
13 Id. at 192.
14 In re Grabill Corp., 109 B.R. 329, 333 (N.D. Ill. 1989); In re Refco at 193.
15 In re Refco at 193—194.
16 The Web site can be viewed at www.refcodocket.com.