Us Supreme Court Holds That Structured Dismissals Cannot Deviate from the Bankruptcy Code's Priority Scheme

Recent Developments in Bankruptcy and Restructuring Volume 16 l No. 3 l May–June 2017 JONES DAY BUSINESS RESTRUCTURING REVIEW U.S. SUPREME COURT HOLDS THAT STRUCTURED DISMISSALS IN THIS ISSUE CANNOT DEVIATE FROM THE BANKRUPTCY CODE’S PRIORITY 1 U.S. Supreme Court Holds That Structured SCHEME Dismissals Cannot Deviate From the Dan T. Moss Bankruptcy Code’s Priority Scheme Anna M. Wetzel 5 Eleventh Circuit Addresses Difference Between Constitutional and Equitable In bankruptcy cases under chapter 11, debtors sometimes opt for a “structured dis- Mootness missal” when a consensual plan of reorganization or liquidation cannot be reached 8 From the Top: U.S. Supreme Court to Hear or conversion to chapter 7 would be too costly. In Czyzewski v. Jevic Holding Corp., Case on Scope of Section 546(e)’s Safe 137 S. Ct. 973, 2017 BL 89680 (U.S. Mar. 27, 2017), the U.S. Supreme Court held that Harbor the Bankruptcy Code does not allow bankruptcy courts to approve distributions in 9 Foreign Representative Had “Independent” structured dismissals which violate the Bankruptcy Code’s ordinary priority rules. Standing to Prosecute State Law Avoidance The Court rejected a Third Circuit decision that had allowed for such structured Claims in Chapter 15 dismissals in “rare” circumstances. As a result of Jevic, structured dismissals are 13 Newsworthy likely to become more difficult to craft. The Supreme Court’s opinion, however, 14 Singapore, U.K., Delaware, and New York leaves room for the creative use of settlements that provide only for interim (rather Courts Adopt Guidelines for Communication than final) distributions deviating from the Bankruptcy Code’s priority scheme, and and Cooperation Between Courts in Cross- Border Insolvency Matters the Court did not directly question the use of settlements that involve “gifts” from senior to junior creditors. 16 Oil and Gas Industry Update: District Court Upholds Rejection of Sabine Gas Gathering Agreements STRUCTURED DISMISSALS 18 Group Insolvency Proceedings Under the Revised EU Insolvency Regulation Chapter 11 cases are concluded in one of three ways: confirmation of a plan of reorganization or liquidation, conversion to a chapter 7 case, or dismissal of the 21 Sixth Circuit Rejects Per Se Rule Automatically Mooting Sale Appeals in the case. Dismissal usually restores the parties’ financial position to the prepetition Absence of a Stay status quo. When the financial status of debtors and creditors has been altered 24 Kiwi Defense Doesn’t Get Off the Ground in during the bankruptcy case in such a way as to make perfect restoration impos- Preference Litigation Involving Related, but sible, section 349(b) of the Bankruptcy Code allows the bankruptcy court to dis- Severable, Contracts miss a case without such complete reversion “for cause.” For example, courts have 26 In Brief: Court Rules Against Lyondell relied on this “for cause” provision to approve dismissals that provide for other Litigation Trustee on LBO Fraudulent rights and protections typically seen in a confirmation order, including distribu- Conveyance Claims tions to creditors. Such dismissals are commonly known as “structured dismissals.” 29 Singapore Enacts New Corporate Bankruptcy Law in Bid to Become Center for International Debt Restructuring The Bankruptcy Code sets forth certain priority rules governing distributions to creditors in both chapter 11 and chapter 7 cases. Secured claims enjoy the highest priority under the Bankruptcy Code. The Bankruptcy Code May 20, 2008. Two years earlier, a subsidiary of private-equity then recognizes certain priority unsecured claims, including firm Sun Capital Partners, Inc. (“Sun Capital”) had purchased claims for administrative expenses, wages, and certain taxes. Jevic in a leveraged buyout. Sun Capital borrowed from a General unsecured claims come next in the priority scheme, group of lenders led by CIT Group Business Credit Inc. (“CIT”) followed by any subordinated claims and the interests of to finance the transaction. After the leveraged buyout, Jevic’s equity holders. financial health declined. On May 19, 2008, Jevic ceased operations and terminated its employees. The company filed In a chapter 7 case, the order of priority for the distribution for chapter 11 protection the following day in the District of of unencumbered assets is determined by section 726 of Delaware. As of the petition date, Jevic owed approximately the Bankruptcy Code. The order of distribution ranges from $53 million to its first-priority secured lenders (CIT and Sun payments on claims in the order of priority specified in sec- Capital) and more than $20 million to taxing authorities and tion 507(a), which have the highest priority, to payment of any general unsecured creditors. residual assets to the debtor, which has the lowest priority. Distributions are to be made pro rata to parties of equal prior- Two lawsuits followed from the events leading up to Jevic’s ity within each of the six categories specified in section 726. If bankruptcy. First, a group of Jevic’s terminated truck driver claimants in a higher category of distribution do not receive employees (the “Drivers”) commenced a class action against full payment of their claims, no distributions can be made to Jevic and Sun Capital, alleging that they had been given insuf- parties in lower categories. ficient notice of termination under federal and state Worker Adjustment and Retraining Notification (WARN) Acts. Second, In a chapter 11 case, the chapter 11 plan determines the treat- the official unsecured creditors’ committee (the “Committee”) ment of secured and unsecured claims (as well as equity inter- sued Sun Capital and CIT on behalf of the estate, claiming, ests), subject to the requirements of the Bankruptcy Code. If among other things, that the transfers made and the obliga- a creditor does not agree to “impairment” of its claim under tions incurred during the leveraged buyout were avoidable as the plan—such as by agreeing to receive less than payment preferential and fraudulent transfers (the “Committee Action”). in full—and votes to reject the plan, the plan can be con- firmed only under certain specified conditions. Among these Eventually, in 2012, Sun Capital, CIT, Jevic, and the Committee conditions are the following: (i) the creditor must receive at reached a settlement that resolved the Committee Action least as much under the plan as it would receive in a chap- (the “Settlement”). By this time, Jevic had already liquidated ter 7 liquidation; and (ii) the plan must be “fair and equitable.” substantially all of its assets to repay the lender group led Section 1129(b)(2) of the Bankruptcy Code provides that a plan by CIT. The only remaining assets consisted of $1.7 million in is “fair and equitable” with respect to a dissenting impaired cash (encumbered by Sun Capital’s lien) and the Committee’s class of unsecured claims if the creditors in the class receive avoidance claims against CIT and Sun Capital. The Settlement or retain property of a value equal to the allowed amount of provided, among other things, that: (i) CIT would pay $2 mil- their claims or, failing that, if no creditor or equity holder of lion into an account earmarked for the payment of legal fees lesser priority receives any distribution under the plan. This is and other administrative expenses; (ii) Sun Capital would known as the “absolute priority rule.” release its lien on the remaining $1.7 million in cash, which would be distributed under a trust to tax and administrative The Bankruptcy Code does not expressly state whether these creditors, with any remaining cash to be distributed to general priority rules apply to structured dismissals, and until Jevic, unsecured creditors on a pro rata basis; (iii) the parties would precedent concerning this issue was sparse and inconsistent. exchange releases; and (iv) the Committee Action would be dismissed. Upon the consummation of these items, Jevic’s JEVIC BACKGROUND chapter 11 case would then be dismissed (the above transac- tions being referred to as the “Structured Dismissal”). Over the Jevic Transportation, Inc. (“Jevic”), a New Jersey-based truck- objections of the Drivers and the United States Trustee, the ing company, filed for chapter 11 protection in Delaware on bankruptcy court approved the Structured Dismissal. 2 The Drivers estimated that their claims amounted to approxi- estate assets raise justifiable concerns about collusion among mately $12.4 million, with $8.3 million entitled to priority as wage debtors, creditors, and their attorneys and other professionals.” claims under section 507(a)(4) of the Bankruptcy Code. The Drivers and the United States Trustee opposed the Structured The Third Circuit majority went on to find that structured Dismissal on two main grounds: (i) the Bankruptcy Code does dismissals can provide for distributions which conflict with not authorize structured dismissals; and (ii) the proposed dis- the priority scheme only in a “rare case.” According to the tributions violated the absolute priority rule. majority, Jevic was one of those “close call[s]” and a “rare case.” The Third Circuit majority concluded that there were The bankruptcy court agreed that the Bankruptcy Code does sufficient facts in the bankruptcy court’s record approving not expressly authorize structured dismissals. Nevertheless, the Structured Dismissal to be such a rare case. According the court noted that “the dire circumstances that are present to Judge Hardiman, “This disposition, unsatisfying as it was, in this case

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