Romance and “Insider” Status, with Other Oddities, at U.S Supreme Court (U.S. Bank v. Village at Lakeridge)

IMG_1817
An Oddity

By Donald L. Swanson

On March 27, 2017, the U.S. Supreme Court grants certiorari in the case of U.S. Bank N.A. v. Village at Lakeridge, LLC, U.S. Supreme Court Case No. 15-1509.

The Facts

Kathie Bartlett is one of five owners of a company that owns the Debtor. So, both Kathie Bartlett and her company are “insiders” of the Debtor under § 101(31).

The bankruptcy Debtor proposes a plan of reorganization. The plan identifies only two impaired claims: (i) U.S. Bank’s $10 million, fully-secured claim, and (ii) a $2.76 million unsecured claim of the Debtor’s owner—i.e., Kathie Bartlett’s company. A problem for plan confirmation is the requirement that at least one impaired class of claims must vote to accept the plan – and insider claims aren’t counted in the vote (see § 1129(a)(10)). Since U.S. Bank opposes confirmation and the $2.76 million claim is held by an insider, the § 1129(a)(10) requirement for one-consenting-class is an impediment.

To get around this impediment, Kathie Bartlett’s company assigns its $2.76 million claim to Dr. Robert Rabkin for a payment of $5,000. This assignment gets dicey because Kathie Bartlett and Dr. Rabkin “share a close business and personal relationship.” Dr. Rabkin says he made this small, speculative investment for business reasons: for the chance to get a big payoff, since the plan provides a $30,000 dividend on this claim.  But U.S. Bank isn’t buying this reason: they think he’s conspiring with his girlfriend to evade a confirmation requirement.

From the Debtor’s perspective, the assignment to Kathie Bartlett’s close friend is a creative-but-legitimate way to satisfy a plan confirmation requirement. From the opposing creditor’s perspective, the assignment is the same as cheating—and the question is whether they’ll get away with it.

An Oddity

You’d think the primary issue discussed by the courts in this case would be:

Can an insider do that? Can an insider actually evade the non-insider acceptance requirement by assigning its claim to a friend who is not an insider?

As a bankruptcy practitioner, I want to know the answer to this question. I want to know how aggressive a debtor and its insiders might be in addressing plan confirmation requirements.

And you’d think we’d get a direct and clear explanation and answer for such a question in this case. But think again. Believe it or not, we probably won’t. Here’s why:

First, both the Ninth Circuit Court of Appeals and its Bankruptcy Appellate Panel focus on two questions in this case: (i) is Dr. Rabkin an insider, and (ii) did Dr. Rabkin act in good faith. They find in favor of Dr. Rabkin on both issues. And that, according to such courts, is the end of the inquiry and discussion.  But what about the good faith of the Debtor and the insider?

Second, in its Petition for a Writ of Certiorari to the U.S. Supreme Court, Appellant identifies three questions to be resolved. But the Supreme Court limits its grant of certiorari “to Question 2 Presented by the Petition.” And here is what Question 2 asks:

Whether the appropriate standard of review for determining non-statutory insider status is the de novo standard of review applied by the Third, Seventh and Tenth Circuit Courts of Appeal, or the clearly erroneous standard of review adopted for the first time by the Ninth Circuit Court of Appeal in this action?

Say what?! The Supreme Court is going to decide, in this case, only a “standard of review” question for determining who is/isn’t an insider?! Isn’t that question too narrow?  Now . . . I understand that standards for resolving insider/non-insider distinctions are important in a variety of contexts: as in the 90-days vs. one-year reach-back for preference liability. But still . . . I want a direct and clear explanation and answer on the how-aggressive-can-a-debtor-be question!!

The Ninth Circuit Court of Appeals had a clear opportunity to take on this how-aggressive question directly. In fact, the Ninth Circuit previously addressed this very question — and did so directly:

“[D]ebtors unable to obtain the acceptance of an impaired creditor simply could assign insider claims to third parties who in turn could vote to accept. This the court cannot permit.’”

Wake Forest Inc. v. Transamerica Title Ins. Co. (In re Greer West Inv. Ltd. P’ship), 81 F.3d 168, 1996 WL 134293, at *2 (9th Cir. Mar. 25, 1996) (unpublished) (emphasis added).

Instead of addressing the issue directly, however, the Ninth Circuit Court in the present case merely scolds the Appellant (in footnote 10) for citing an unpublished opinion.

Another Oddity

The courts in this case are struggling with how a romantic relationship fits into the insider v. non-insider analysis. The Ninth Circuit courts decide that Dr. Rabkin is NOT an insider, despite his romantic relationship with Kathie Bartlett. Here are details of their relationship, enumerated by the courts in this case and used to reach the non-insider decision:

–they see each other “regularly” but don’t “cohabitate”
–they pay their own bills and living expenses
–they’ve “never purchased expensive gifts” for each other
–she doesn’t “exercise control over” him
–he had “little knowledge of, and no relationship” with her business interests before the Debtor’s bankruptcy

Here’s hoping the courts can devise a better way to scrutinize romantic relationships for insider status, than trying to distinguish between “seeing regularly” vs. “cohabitating” or trying to decide if one party “exercises control” over the other. If they can’t, deposition and trial testimonies on the “insider” question could start resembling episodes of Seinfeld or Big Bang Theory.

A Third Oddity

One standard for evaluating an “insider” status is whether the transaction in question occurred at arms-length.

Dr. Rabkin testifies that his reasons for purchasing the $2.76 million claim are strictly business. However, the Bank believes his motives include helping his girlfriend. In an effort to prove as much, the Bank makes an offer—in its deposition of Dr. Rabkin—to purchase the same claim from him for a payment of $50,000. And then, in the same deposition, they increase the offer amount to $60,000. Dr. Rabkin doesn’t accept either offer or attempt any negotiations with the Bank—either during or after the deposition.

Here’s the oddity:

–The Bankruptcy Court apologizes to Rabkin “on behalf of the legal profession” for the “offensive conduct” of the Bank’s attorney in the deposition (see footnote 7 in BAP opinion).

–And the Bankruptcy Judge’s Order describes the conduct for which he apologized as an “offensive offer” to purchase Dr. Rabkin’s claim during his deposition “for twice as much as Dr. Rabkin could recover under the Debtor’s Plan.”

Seriously?! Offering twice-as-much is conduct worthy of an apology “on behalf of the legal profession”?! There must be something more about the manner-of-delivery – although none is identified. Otherwise, the twice-as-much offer seems like a clever attempt at exposing the existence of ulterior motives.

Conclusion

Here’s hoping that the U.S. Supreme Court will find a way to address the how-aggressive-can-a-debtor-be question in this case, despite its professed limitation to Question 2.

Mandating Mediation to Develop a Mediation Culture

IMG_0117
A glaring contradiction? (Photo by Marilyn Swanson)

By:  Donald L. Swanson

[T]he full benefits of mediation are not reaped when parties are left to participate in it voluntarily.

D. Quek, Mandatory Mediation: An Oxymoron? Examining the Feasibility of Implementing a Court-Mandated Mediation Program, Cardozo Journal of Conflict Resolution, Vol 11:479, at 483 (Spring 2010).

The article linked above is written by Dorcas Quek, whose resume includes this:

“L.L.B. (National University of Singapore); L.L.M. (Harvard Law School); Visiting Researcher at Harvard Law School (2008-2009); Assistant Registrar and Magistrate in the Singapore High Court (2005-2007) and District Judge in the Primary Dispute Resolution Centre in the Singapore Subordinate Courts (June 2009 onwards).”

Findings

Ms. Quek’s article examines “the current debate in the United States concerning court-mandated mediation.” Here are some of her findings:

Mediation “may well be under-utilized in certain jurisdictions” because parties and attorneys “are still accustomed to treating litigation as the default mode of dispute resolution” and because “initiating mediation” may be “perceived as a sign of weakness.”

“In many jurisdictions, the rates of voluntary usage of mediation have been low.”

Where the “reticence towards mediation is due to unfamiliarity with or ignorance of the process,” court-mandated mediation “may be instrumental” in overcoming “prejudices or lack of understanding.”

“Studies show that parties who have entered mediation reluctantly still benefited from the process even though their participation was not voluntary.”

Observation / Recommendation

Ms. Quek draws this interesting observation / recommendation:

The “most compelling reason” for a court to mandate mediation is “to increase awareness and the usage of mediation services.” So, court-mandated mediation:

–should be utilized “only” as “a short-term measure” in courts where mediation “is relatively less well developed”; and

–is an expediency that “should be lifted as soon as” the awareness and utilization of mediation “has reached a satisfactory level.”

Value Judgment

And she bases such conclusion, in part, on this value judgment:

The term “mandatory mediation” is “a glaring contradiction.” Mediation emphasizes “self-determination, collaboration and creative ways” of resolving disputes and concerns, and “attempts to impose” a mediation process may “undermine the raison d’ˆetre” of mediation. Accordingly, “there must be compelling reasons to introduce mandatory mediation.”

While we can quibble with the idea of limiting mandated mediation, her point on using it to jump-start mediation where it’s struggling to get traction is sound.

Quibbling

In most state and Federal trial courts these days, mediation is firmly entrenched. In such courts, mandatory mediation isn’t improper: it’s, simply, not needed. Here’s why:

If you listen to litigators (who practice in such courts) talking about their cases, about what they have coming-up-next, and about their successes and disappointments, mediation will be a focal point of those discussions. No one needs to suggest mediation to these litigators or to encourage its use: they’ve already factored mediation into their case strategies – and mediation will always play a role. So, discussions of “mandating” mediation, for these litigators, is more of a redundancy than anything else.

Changing the Culture

But for many bankruptcy courts, mediation is still an unfamiliar and little-used process. In these courts, efforts to mandate mediation would be helpful in changing the culture.

Studies show that practitioners with little-or-no experience in mediation are reluctant to use it—and are uncertain on how it can be used effectively. And it shouldn’t be a surprise that mediation is a seldom-used process among these practitioners.

And my experience is that, (i) the adoption of local mediation rules will not, in and of itself, create a demand for mediation: “build it and they will come” does not work for mediation rules; but (ii) a local judge can change things by ordering cases into mediation. Once the judge starts requiring mediation, either by direct order in specific disputes or by local rule, the culture starts to change: practitioners start to become comfortable with mediation and start using it.

Conclusion

So . . . a major initiative in courts where mediation is little-used would be to start ordering specific cases into mediation and to mandate mediation by local rule.

How a Judge Makes Mediation Work: Minimizing Risks in Close-Call and Winner-Take-All Disputes

Mediterranean Cruise 6-12 425
Minimizing Risks (Photo by Marilyn Swanson)

By Donald L. Swanson

“The decision here is most likely all or nothing.  One side is going to win and the other side is going to lose—and that’s going to be very happy on one side and very tough on the other side.”

–Judge Steven Rhodes, encouraging parties to reach a settlement, as quoted in “Detroit Resurrected: To Bankruptcy and Back,” by Nathan Bomey.

This statement from Judge Rhodes is a powerful argument for insisting that parties mediate their disputes in close-call / winner-take-all circumstances.  Such circumstances create a moment, if ever one exists, for judicial activism in moving the parties into a mediation process.

Actions, like the quotation above from Judge Rhodes, meet an essential need:

–Imagine you are a party in a lawsuit.  Mediation has not occurred and is not being considered.  Trial day is approaching.  And imagine the judge believes this:

–the decision-after-trial is likely to be a close call; and

–the result is likely to be all-or-nothing for both sides.

–Wouldn’t you want to know this?  And, armed with such information, wouldn’t you appreciate one-last-chance to consider settlement possibilities?

A Duty

I suggest, in such circumstances, that the judge has a duty and obligation to communicate such beliefs to the parties and to direct them into mediation.

A Reason Why

Attorneys who’ve been working a case for an extended period of time often start to believe their arguments!

This is neither cynicism nor a joke.  Here’s how it works in the day-to-day grind of managing a case:

–Upon learning about a case from the client, the attorney’s first impression is of a weak case; but the client is in a difficult position and desperately needs to win.

–The attorney’s research identifies several legal theories, each of which, on its own, seems a bit of a stretch; but the attorney keeps developing the theories—which, collectively, begin after a while to seem plausible.

–After extensive work on the case, the attorney now has a carefully-crafted set of arguments that have an aura, in the attorney’s mind, of weightiness.

–The attorney and the party are beginning to believe they can actually win this case and need to forge ahead.

–They now believe their arguments.

This is one of the reasons why statements, like Judge Rhodes’s quotation above, need to be made to the parties in a close-call / winner-take-all situation.  And this is why the parties must, armed with such knowledge, have one last chance to mediate their case.

Conclusion

In such circumstances, every effort must be made by the judge to fully-inform the parties of the risks and to move the parties into mediation.  Then the parties can:

–take and receive a fresh-look at their arguments and assess anew the risks of their position; and

–take the resolution of their dispute into their own hands – rather than letting a stranger tell them what the resolution is going to be.

Because of Judge Rhodes’s efforts, like his quotation above, mediation worked well in the City of Detroit bankruptcy.

A Proactive Mediator Role: “Special Settlement Master”

image
Antonio Stradivari of Cremona, Italy — A Special Master (Photo by Marilyn Swanson)

By Donald L. Swanson

Mediators are appointed as “special masters” in the U.S. District Courts.  Such appointments are authorized by Fed. R. Civ. P. 53.

Examples of Mediators as Special Settlement Masters

Mediators appointed as special settlement masters are often given a broad range of authority to act proactively on the court’s behalf.

One example is In re Syngenta case, a multi-district case pending in the U.S. District Court for the District of Kansas, where a mediator is appointed as special settlement master (aka mediator) under Fed.R.Civ.P. 53.  This settlement master (aka mediator) is given a broad grant of authority, under Rule 53, to:

–“Order the parties to meet face-to-face and engage in serious and meaningful negotiations”

–“Make recommendations to the court concerning any issues that may require resolution in order to facilitate settlement or to efficiently manage the litigation”

–“Communicate ex parte with the court at any time.”

Another example is the Argentina debt cases, in the Southern District of New York, in which the Court creates a mediator role, appoints a mediator, and dubs the mediator a “special master” under Rule 53.  This mediator/settlement master functions with a high level of autonomy and in a proactive manner.

“Judicial Adjuncts”

Special masters under Rule 53 are “judicial adjuncts,” which means they are appointed to assume some of the functions of a judge.

The special master’s “Handbook” (created by the Academy of Court Appointed Masters) explains the role of a “settlement master” (i.e., a mediator) as follows:

–Historical Development:  “The use of settlement masters to reach global settlements in large-scale tort litigation dates back at least to the Dalkon Shield litigation and Agent Orange litigation beginning in the late 1980s.”

–Authority:  “Courts have come to realize that the appointment of a neutral third-party who is granted quasi-judicial authority to act as a buffer between the court and the parties can provide a useful approach to reaching a settlement.”

–Complex and Multi-Party Cases:  “This [usefulness] is especially true in complex litigation involving numerous parties, or when the dispute has matured and individual settlements become repetitive and time-consuming.”

Special Masters and Bankruptcy

It’s interesting to note that the Federal Bankruptcy Rules expressly reject the office of “special master.”   Fed. R. Bankr. P. 9031 is titled, “Masters Not Authorized,” and specifies: “Rule 53 F.R.Civ.P. does not apply in cases under the [Bankruptcy] Code.”

Nevertheless, at least 70% of all bankruptcy courts have local rules authorizing the appointment of mediators.  And bankruptcy courts have a recent history of investing mediators with a proactive role and function, similar to that of the settlement masters appointed in the In re Syngenta case and the Argentina debt cases.

–The prime example of such proactivity in bankruptcy is, of course, the City of Detroit case and the broad authority granted to and exercised by the mediators in that case.

The Future?

It will be interesting to watch, as time progresses, whether the proactive mediator authority granted and exercised in the In re Syngenta case, the Argentina debt cases and City of Detroit bankruptcy case, will become the norm in bankruptcy proceedings.

–My sense is that proactive mediation (like that of a settlement master under Fed.R.Civ.P. 53) is on-its-way to becoming standard practice for large bankruptcy cases — and for smaller cases as well.

 

 

 

 

In re SunEdison: Mandatory Mediation to the Rescue?

IMG_0217
A Rescue

By:  Donald L. Swanson

Whereas, mediation may provide an opportunity to consensually resolve the Mediation Issues . . . It Is Therefore, Ordered” that “Representatives of the following parties and their counsel are directed to attend the Mediation in person: (i) the Debtors, (ii) the Committee, . . . [etc.] . . .

Stuart M. Bernstein, U.S. Bankruptcy Judge (In re SunEdison, Doc. 2795, Case No. 16-10992, S.D.N.Y., 04/18/17).

SunEdison has been in Chapter 11 bankruptcy for a year (since April 21, 2016). One of the major issues in the case involves preference, fraudulent transfer and related avoidance claims against a group of businesses with insider-type connections to SunEdison.

The Official Committee of Unsecured Creditors in the SunEdison case explains the avoidance claims and issues like this (in Doc. 2666):

“It is undisputed that recoveries on account of the Avoidance Actions inure to the benefit of – and may be one of only a very few sources of recovery for – unsecured creditors.”

The avoidance claims are based on this information: “while Debtors were insolvent,” the insider-type entities received valuable assets from SunEdison, consisting of “completed energy projects, services and payments worth hundreds of millions, if not billions, of dollars, for which the Debtors did not receive reasonably equivalent value in exchange.” [Emphasis added.]

SunEdison proposes to resolve the avoidance claims by a settlement with its insider-type businesses and allocating $16.1 million from the settlement funds to unsecured creditors. The Committee objects to this “mere $16.1 million” amount, contending that, (i) additional discovery is needed to fully evaluate the settlement, and (ii) the Committee should be allowed to pursue such claims, rather than allowing SunEdison to dictate the terms of a settlement with its insiders.

Last week, Judge Bernstein orders this set of disputes into mediation.

–Time will tell how this mandated mediation plays out: can it provide a rescue?

–The stakes are high: back on March 7, 2017, during a hearing in open Court, the Judge says, “if there isn’t some resolution of the allocation issue by whatever the deadline is, it may be that’s the end of the case.”

It will be interesting to see whether the mediator, the parties and their counsel are up to the rescue challenge.

Student Loan Crisis: High-Priced Colleges Support Beautiful Campuses (and Other Luxuries) on the Backs of their Students

IMG_0216By:  Donald L. Swanson

“Back when I was in school . . .”

This is a tired-old phrase, usually followed by tales of hardship.

The Olden Days

But here’s an opposite twist:  Back when I was in college (during the 1970s), you could actually pay your way through, with little-to-no debt, by working part-time jobs and summers and getting grants and scholarships; or by taking a semester (or two or three) off from school to make money for finishing.  “Cramming four years into six,” is the common (but not very funny) joke from back then about paying for school.

–For professional schools back then, add in (as in my case) a working spouse to make ends meet: we say that, while I earned my J.D. (“Juris Doctor” degree), she earned her P.H.T. (“Put Hubby Thru” degree).

Those days are gone!

The Student Loan Problem

Because I live in the professional world of bankruptcy, I see every now-and-then the fallout from student loans.  And the fallout is ugly.  It’s a picture of highly-educated people (mostly young) buried under a burden of student loans.  And in many cases it’s a debt they will never be able to repay — ever.  Heck . . . many can’t even keep pace with interest accruals, let alone make a dent in the principal balance!

And student loan debts can’t be discharged in bankruptcy, except for the most difficult of all hardship cases.

What is the culprit causing all this?  It’s the easy availability of student loans for the benefit of high-priced colleges.

Student loan programs developed over time with the best of intentions.  Who can argue with the benefits of making a college education at the best-of-all institutions available to everyone, regardless of financial means?  “No one!” is the unfortunate answer.

But the best of intentions can (and often do) go awry and produce unintended consequences.

A Diagnosis

Here’s what’s gone awry with student loan programs:  the true beneficiaries are high-priced colleges, not students.

The high-priced colleges, who revel in beautiful campuses and other luxuries, create a demand from tuition-paying students for luxuries.  And other colleges must-keep-pace or die.  Who wants to go to a college with low-quality facilities when luxuries can be enjoyed elsewhere?

And then there is the marketing-genius deception.  It seems, in many situations, that neither young college-bound students nor their parents can discern the difference between, (i) a college charging low-prices and offering limited scholarships, and (ii) a college charging outrageously-high prices but giving huge-percentage scholarships that result in a still-outrageously-high actual cost.  Student loans enable students to choose the still-outrageously-high-cost college.  Unfortunately, this marketing-genius deception merely feeds the beast and magnifies the problem.

An Ancient Proverb

Moreover, the following ancient proverb applies in full-force to the student loan crisis:  “The borrower is servant to the lender.”  Here are some real-life examples of how the proverb works for student loan debts:

–How about the young couple who met at a high-priced professional school and have been in the working world for several years.  Both are buried under a mountain of student loans.  One of them really, really wants to pursue a coaching career, instead of the schooled profession—but that’s not possible because student loans require continuation in the higher-paying career.

–How about the graduate from a high-priced school who works at a high-end salary in his/her schooled profession; but even with the high-end salary, the young professional is unable to pay accruing interest on student loans and can’t even begin to pay on principal.

–Or how about the older person who, feeling trapped in a dead-end job, is persuaded to spend large amounts on additional education at a high-priced college, only to learn the hard-way that this additional education provides little-or-no actual improvement in the student’s marketability.

–And what about the graduate who earns a sufficiently-high income to cover monthly student loan obligations but pines: “If I had known what my high-priced education would actually require in servicing student debt, I would never have taken that path!”

An Escalating Problem

But the high-priced schools from which these people graduated continue to charge their students outrageously-high amounts, continue to build gorgeous buildings and provide other luxuries, continue to invest huge sums into athletic teams, scholarships and facilities, and adamantly refuse to pursue an affordable-cost education model.

The upshot is that even traditionally-low-cost colleges (e.g., community colleges) are forced to compete in the luxury realm: are building fabulous campuses, are increasing their visibility, and are raising their tuition.  And the student loan crisis is hitting students even there.  This is a shame!

Dependency

Have you read the book, “The Millionaire Next Door”?  This book argues that adult children need to be economically self-sufficient, and it decries economic dependence of adult children on their parents.  In the student loan crisis, this argument is commonly applied to students and their parents.

I contend, however, that this argument is most-directly applicable to colleges and the providers of student loans.  Student loans have enabled a bent-toward-luxury among colleges—especially among high-priced colleges—and a related dependence of colleges on this economic support.  Most high-priced colleges (and now even low-cost colleges) are utterly dependent on the continued flow of easily-obtained student loans.  Such dependence always has prevented, and continues to impede, the development of affordability-based education models.

The Impact

Easy student loans have enabled and entrenched today’s unaffordable model of higher education.  And today’s higher education schools are dependent on such loans continuing.

Unfortunately, the ones who pay the ultimate price for such dependence are the loan-incurring students—not the dependent colleges.

Any ideas on what can be done about this problem?

Next Steps for a Court with Basic Mediation Rules: Mandated and Early Mediation

IMG_0199
The next steps

By: Donald L. Swanson

Here is a common experience in the bankruptcy courts (and other courts) where mediation is a new or little-used tool:

Attorneys have been practicing for years in this court without using mediation.  And mediation is slow to catch on.  Here’s why:

–Attorneys who practice in this court aren’t accustomed to using mediation, aren’t comfortable with inserting mediation into their case planning habits, and rarely even think of mediation as a possibility; and

–Judges in this court aren’t comfortable with the idea of mandating mediation by local rule or by order in a particular case.

            MANDATORY MEDIATION

The Voluntary Mediation Problem

The problem with voluntary mediation, in a new or little-used mediation program, is explained by these two conclusions from a study of empirical data:

–When the goal is to achieve a “regular and significant use” of mediation to resolve court cases, “[v]oluntary mediation programs rarely meet this goal because they suffer from consistently small caseloads.”

–By contrast, “judicial activism in ordering parties into mediation triggers increased voluntary use of the process.”

Moreover, according to the study,  “settlement rates” and a litigant’s perceptions of “procedural justice” are about the same in mandatory mediation as in voluntary mediation.

Three Examples of Mandatory Mediation Rules

Example No. 1.  Circuit Courts of Appeals.  All but one of the U.S. Circuit Courts of Appeals have a mandatory mediation program.  Data from these mandatory programs show them to be highly successful in achieving mediated settlements across all types of cases and regardless of levels of animosity or distrust between the parties.

Example No. 2.  Delaware Bankruptcy Court.  The Delaware Bankruptcy Court, and attorneys who practice there, have extensive experience over many years with using mediation to resolve bankruptcy disputes.  In 2013, the Delaware Bankruptcy Court intensifies its mediation program by adding this mandatory provision to its Local Rule 9019-5(a):

“all adversary proceedings filed in a chapter 11 case . . . shall be referred to mandatory mediation.”

It must be noted that the trajectory of changes to local mediation rules in the Delaware Bankruptcy Court is toward mandated mediation – and away from a voluntary system.

Example No. 3.  New Jersey Bankruptcy Court.  The New Jersey Bankruptcy Court, and attorneys who practice there, also have extensive experience over many years with mediation.  In 2014, the New Jersey Bankruptcy Court expands its mediation program by adding a “presumptive mediation” local rule.  This new rule 9019-2(a) provides:

“Every adversary proceeding will be referred to mediation after the filing of the initial answer to the adversary complaint, except [when a specified exception applies]”; and

“A contested matter . . . may also be referred to mediation . . . by the court at a status conference or hearing.”

In New Jersey, like Delaware, the trajectory of changes to local mediation rules is toward mandated mediation and away from a voluntary system.

EARLY MEDIATION

The Early Mediation Need – Generally

The study of empirical data referenced and linked above observes that mediation “tends to occur late in the life of a case.”  And it issues these findings about mediation timing:

“Holding mediation sessions sooner after cases are filed, however, yields several benefits,” including:

–“Cases are more likely to settle”;

–“Fewer motions are filed and decided”; and

–“Case disposition time is shorter, even for cases that do not settle.”

An Intensified Need for Early Mediation – In Business Bankruptcy

Superimposed over many disputes in a business bankruptcy is an urgent need to maximize value from a debtor’s operations or liquidation.  And this urgency often takes precedence over standard litigation processes like formal discovery and pretrial wrangling.  Accordingly, the need in a business bankruptcy for early and extensive mediation efforts can be particularly intense.

The role of mediation in the early stages of a business bankruptcy case needs to be different from the typical role of mediation that occurs at the end of a lawsuit:

–The role and goal of an early-mediation in a business bankruptcy is to set-the-stage and narrow-the-issues and create-a-direction and a focus for further progression of the case.

–That’s a much different role than a shortly-before-trial mediation in a one-and-done session at the end of a lawsuit, where the goal is to resolve all remaining disputes.

Here’s a link to an example of how mediation can be effectively utilized at the beginning of a Chapter 11 case.

An Example of an Early Mediation Rule

The Delaware Bankruptcy Court recently adopted a provision in its Local Rule 9019-5(j) that allows a defendant to opt for an early mediation of a preference case with less than $75,000 at stake.

Within 30 days after a response to the preference Complaint is due, the defendant in such cases may elect an early mediation of all claims raised in the lawsuit.  In cases where more than $75,000 is at stake, the parties may agree to participate in the early mediation process.

Action Item:

I am passionate about encouraging:

–Bankruptcy courts to adopt local rules on mediation and to expand the role and reach of mediation through mandatory and early mediation requirements; and

–Attorneys who practice is such courts to utilize mediation for resolving their disputes.

And I’d be delighted to discuss such matters with anyone interested in expanding the role and reach of mediation in a local court.

Puerto Rico Turns to Mediation for Assistance in Solving its Financial Crisis

IMG_0209
There are better ways to handle a crisis than what this artwork suggests.

By Donald L. Swanson

“Puerto Rico’s federally appointed financial oversight board scheduled mediation in debt restructuring talks between the U.S. Territory’s general obligation bondholders and holders [of other debts] backed by sales tax revenue.” The mediation “will run from April 10-13 in New York.”

–Reuters.com, March 31, 2017, at 11:09 a.m.

An hour later, March 31, 2017, at 12:10 p.m., Reuters.com publishes this more-detailed information:

The focus of the proposed mediation is “to resolve strife between” two groups of creditors: one holds $17 billion of general obligation debt, and and the other holds $18 billion of debt backed by sales tax revenue. Both sides claim ironclad legal rights to payment.

The next few weeks will be critical for Puerto Rico, whose $70 billion debt load is pushing its economy toward collapse.” And May 1 “marks the expiration of a freeze on creditor lawsuits.”

Some creditors prefer direct negotiations over mediation, citing delay concerns. Accordingly, the mediation proposal says that “creditors who object to mediation” can submit offers directly to the Oversight Board, which will then be shared with the mediator.

The following information is from an Elnuevodia.com article dated a day earlier — March 30, 2017, at 10:27 a.m.:

The proposed mediation . . . could start this week if the Island’s various creditors and municipal bond insurers agree.”

This mediation development “seems to be a total about-face” after various creditors “criticized” the Government and Oversight Board efforts thus far.

The letter “inviting bondholder groups to enter a mediation process” began receiving positive responses: several bondholder groups, for example, “have already stated their availability to enter a mediation process,” provided such a process is “non-binding.”

But some are skeptical of the mediation effort: “We see it as a delay tactic,” one source said, since the primary bondholders have not yet joined the process—which fact remains true as of “press time.”

Kudos and Congratulations

Kudos and congratulations to Puerto Rico’s Financial Oversight Board for this mediation initiative!!

[Note: Congress recently created the Financial Oversight Board to “provide a method” for Puerto Rico “to achieve fiscal responsibility and access to the capital markets.”]

Puerto Rico is now joining a long line of governmental entities who turn to mediation for assistance in resolving a financial crisis.

Additionally, kudos and congratulations are in order for the Board’s approach, noted above, for dealing with parties who prefer direct negotiations.  The approach is to have such parties submit offers directly to the Board, which then refers the offers to the mediator.  This is creative and clever!

Examples of Proactive Mediation Success for Governments

An example of mediation success for other governmental entities in financial crisis is the country of Argentina, which experienced a $100 billion debt default crisis in 2002.  Argentina reached partial resolutions of that crisis in 2005 and 2010, and it achieved a final mediated settlement in 2016.

The most famous example of mediation success for a governmental entity is the City of Detroit bankruptcy, in which a team of proactive mediators held hundreds of mediation sessions and helped resolve the seemingly intractable financial problems of a large city. Such a mediation process is declared to be “an ideal model” for restructuring efforts by other governmental entities.

Hopefully, Puerto Rico’s Financial Oversight Board will be able to successfully pursue the same types of proactive mediation processes that worked effectively elsewhere!

Can anyone provide further information on what’s happening with this mediation effort?

Structured Dismissal Negotiations are Ripe for Mediation: Until the Supreme Court Upends Precedent (In re Jevic)

IMG_0204
Ripe for eating

By: Donald L. Swanson

We are not final because we are infallible, but we are infallible only because we are final.”

–From concurring opinion of U.S. Supreme Court Justice Robert H. Jackson, in Brown v. Allen, 344 U.S. 443 (1953), on role and function of the U.S. Supreme Court.

Structured dismissals are [correction: were] a rapidly developing field in today’s bankruptcy world.  That all changed on March 22, 2017, when the U.S. Supreme Court puts the kibosh on structured dismissals in its In re Jevic ruling.

Negotiations in this rapidly developing field would be ripe for mediation.  But, alas, that will not happen, because of the In re Jevic ruling.  Now, the rule is simple:  distribute sale proceeds through the Bankruptcy Code’s priority scheme.

Necessity Produces Creativity

Creative processes, like structured dismissals, arise out of a need in bankruptcy to maximize value and distribute proceeds in an efficient and prompt manner.  Plan confirmation processes are, often, inefficient and expensive in the extreme.  So, when an opportunity arises to maximize value and distribute proceeds in a way that is quick, efficient and effective, practitioners gravitate to that opportunity.  Structured dismissals provide one of those opportunities.

Some History

Bankruptcy courts have been struggling for as long as I can remember with how to handle asset sales and the distribution of sale proceeds.  My first recollection of a bankruptcy sale issue relating to today’s structured dismissals is from 1982:

–a bankruptcy judge rules in 1982 that a bankruptcy trustee may not “serve as the handmaiden” of secured creditors in liquidating collateral.  Accordingly, a sale of assets should not occur in a Chapter 7 case, the judge says, when the only persons to benefit are secured creditors.

–The judge in 1982 explains: “Secured creditors by consent and the trustee by acquiescence cannot impose upon the [Bankruptcy] Court the duty to serve as a foreclosure or collection forum.”

The “handmaiden” phrase from 1982 stands the test of time.  It’s still good law today, especially in Chapter 7 liquidation cases: if all debtor’s nonexempt assets are fully encumbered, the Chapter 7 trustee must issue a “no asset” report.

But a bankruptcy sale of fully-encumbered property can still provide benefits to the bankruptcy estate in a business reorganization.  Such benefits might include keeping a business alive under new ownership, which will continue providing jobs and business activity and tax payments in the local community.

Additionally, parties in a bankruptcy often negotiate for ways to create benefits to the bankruptcy estate from a sale of fully-encumbered property.  One way is to carve-out a portion of the funds the secured creditor would receive from a sale and then gift that portion to priority wage claims or to unsecured creditors.

A Long-Standing Precedent

That’s what happened, for example, in the case of  In re SPM Manufacturing Corp., 984 F.2d 1305 (1st Cir. 1993).

–In the In re SPM case, a secured creditor would get all proceeds from the sale of debtor’s assets.  So, the secured creditors enters into a pre-plan settlement agreement for distributing proceeds from a bankruptcy sale.  The agreement would gift to unsecured creditors a portion of sale proceeds the secured creditor would otherwise receive.

–The bankruptcy court rejects this agreement because tax claims have a higher priority, aren’t receiving any of the gift, and remain unpaid.  The District Court affirms, and the case is appealed to the First Circuit Court of Appeals.

–The First Circuit reverses and approves the agreement.  Here is part of the First Circuit’s rationale:

The Bankruptcy Code’s distribution scheme “does not come into play until all valid liens on the property are satisfied.  . . .  Because [the secured creditor’s] claim absorbed all of SPM’s assets, there was nothing left for any other creditor in this case.  . . . creditors are generally free to do whatever they wish with the bankruptcy dividends they receive, including to share them with other creditors.”  [984 F.2d at 1312-13.]

This In re SPM ruling has been the law-of-the-land in the First Circuit for fourteen years.  And the ruling makes sense, as reflected by this fact: an online research tool [Casemaker] says this In re SPM decision, (i) has been cited 183 times, and (ii) has been “criticized” only once on unrelated grounds.

Overruled?

So . . . did the U.S. Supreme Court decide to overrule this long-standing In re SPM rule in its In re Jevic decision . . . without even mentioning it?!  Perhaps not: the In re SPM decision might be distinguishable (arguably, at least).  But In re Jevic’s “simple answer” of “no” suggests otherwise.

This result is unfortunate in the extreme for bankruptcy practitioners and judges striving to maximize and distribute value in an efficient and effective manner!!

In re Jevic: Once Again, the Supreme Court Screws Up Our Bankruptcy World — And Justice Thomas is Wise in His Dissent

IMG_0202
U.S. Supreme Court Opinion

By: Donald L. Swanson

I think it is unwise for the Court to decide” this issue because: (i) “Experience shows that we would greatly benefit from the view of additional courts of appeals on this question,” and (ii) “We also would have benefited from full, adversarial briefing.”

–Justice Clarence Thomas, dissenting in Czyzewski v. Jevic Holding Corp. (In re Jevic)., Case No. 15-649 in United States Supreme Court (March 22, 2017).

On March 22, 2017, the United States Supreme Court issues its ruling in the In re Jevic case that, once again, screws up our bankruptcy world.

The U.S. Supreme Court has a history of rulings that screw up everyday life for bankruptcy practitioners and judges. One example is Stern v. Marshall, 564 U.S. 462 (2011). Who would’ve ever guessed that a minor pop-culture celebrity (Vicki Lynn Marshall, aka Anna Nicole Smith) could wreak such havoc in our bankruptcy world. In a case with a long history of bizarre facts and procedural wrangling, the Supreme Court in Stern v. Marshall puts extreme limitations on the jurisdiction and role of the U.S. Bankruptcy Courts. The Supreme Court, in Stern v. Marshall, made a narrow and inflexible ruling about bankruptcy court jurisdiction. And it did so on constitutional grounds, which means that Congress is incapable of changing (or minimizing the impact of) the decision. We’ve all been struggling with the result ever since.

Here is the essence of the majority decision in the new In re Jevic case, penned by Justice Stephen Breyer:

“We turn to the basic question presented: Can a bankruptcy court approve a structured dismissal that provides for distributions that do not follow ordinary priority rules without the affected creditors’ consent? Our simple answer to this complicated question is ‘no.’”

Yikes! Therein lies the problem for bankruptcy practitioners and judges: the Supreme Court is providing a “simple answer” to a “complicated question.”

Here is some griping:

–None of the Supreme Court Justices has any significant experience in practicing under the Bankruptcy Code, which is a specialized area of the law. Perhaps that’s why they fall back on a simple answer to a complicated bankruptcy question. And, perhaps, that’s why they keep screwing things up for us.

–And the Supreme Court had to ignore some technical rules for getting to this In re Jevic decision: hence, Justice Thomas’s statement that rues the absence of “full, adversarial briefing.” Here’s my translation of his absence-of-full-briefing statement: “The Supreme Court doesn’t have adequate information or an adequate understanding to make this decision.”

So, what are we supposed to do with the Supreme Court’s simple – and simplistic – answer? Keep in mind that structured dismissals commonly arise in large and complex reorganization cases. There is nothing simplistic about such cases. A simple answer is not merely unhelpful . . . it’s harmful. Perhaps the Supreme Court Justices, in the bankruptcy context, could follow the words of the medical profession: “First do no harm.”

Justice Thomas is precisely correct in his comment that the Supreme Court would “greatly benefit” from an opportunity for additional courts of appeals to weigh-in on the question. Structured dismissals are a relatively new development in the bankruptcy world and apply only in exceptional circumstances. There are lots of smart judges out there in the Federal system: bankruptcy judges, district court judges, bankruptcy appellate panel judges, and court of appeals judges. One of the benefits of those many and multi-layer judges is that many smart judges can evaluate and address and explain and rule upon issues and facts relating to an important legal question before the question ever gets to the U.S. Supreme Court. Then, the Supreme Court Justices can draw on the words and wisdom of those other smart judges in reaching a decision. For the Supreme Court to jump-in at this early stage, without the benefit of a fully-developed multi-layer analysis of this In re Jevic question, is unfortunate in the extreme.

As a result, this new In re Jevic opinion creates major questions about basic bankruptcy practice that are hugely important to the administration of bankruptcy cases.  For example:

What about first day orders and early/interim distributions mentioned in the majority opinion (which also violate the Code’s distribution priorities)?

–Are they actually okay or merely cited as a point of reference?

–Did the Court actually intend to bless critical vendor orders?

And what about an under-secured creditor gifting a portion of its collateral to the unsecured class as part of a structured dismissal–is that now prohibited . . . seriously?!

And how is the essence of this “simple answer” going to spill over into other complex contexts?

Ok. I’m done. Sorry about this rant!