Court Opinion

ID: 8598746
Source: CourtListenerOpinion
Date Created: 2022-11-23 19:46:41.443875+00
Date Added: 2024-06-11T16:55:03.842746
License: Public Domain

SCIRICA, Circuit Judge.
I concur in parts of the Court’s analysis in this difficult case, but I respectfully dissent from the decision to affirm. Rejéetion of the settlement was called for under the Bankruptcy Code and, by approving the settlement, the bankruptcy court’s order undermined the Code’s essential priority scheme. Accordingly, I would vacate the bankruptcy court’s order and remand for further proceedings, described below.
At the outset, I should state that this is not a case where equitable mootness applies. We recently made clear in In re Semcrude, L.P., 728 F.3d 314 (3d Cir. 2013), that this doctrine applies only where there is a confirmed plan of reorganization. I would also adopt the Second Circuit’s standard from In re Iridium Operating LLC, 478 F.3d 452 (2d Cir.2007), and hold that settlements presented outside of plan confirmations must, absent extraordinary circumstances, comply with the Code’s priority scheme.
Where I depart from the majority opinion, however, is in holding this appeal presents an extraordinary case where departure from the general rule is warranted. The bankruptcy court believed that because no confirmable Chapter 11 plan was possible, and because the only alternative to the settlement was a Chapter 7 liquidation in which the WARN Plaintiffs would have received no recovery, compliance with the Code’s priority scheme was not required. For two reasons, however, I respectfully dissent.
First, it is not clear to me that the only alternative to the settlement was a Chapter 7 liquidation. An alternative settlement might have been reached in Chapter 11, and might have included the WARN Plaintiffs. The reason that such a settlement was not reached was that one' of the defendants being released (Sun) did not want to fund the WARN Plaintiffs in their ongoing litigation against it. As Sun’s counsel explained at the settlement hearing, “if the money goes to the WARN plaintiffs, then you’re funding someone who is suing you who otherwise doesn’t have funds and is doing it on a contingent fee basis.” Sun therefore insisted that, as a condition to participating in the fraudulent conveyance action settlement, the WARN Plaintiffs would have to drop their WARN claims. Accordingly, to the extent that the only alternative to the settlement was a Chapter 7 liquidation, that reality was, at least in part, a product of appel-lees’ own making.
More fundamentally, I find the settlement at odds with the goals of the Bankruptcy Code. One of the Code’s core goals is to maximize the value of the bankruptcy estate, see Toibb v. Radloff, 501 U.S. 157, 163, 111 S.Ct. 2197, 115 L.Ed.2d 145 (1991), and it is the duty of a bankruptcy trustee or debtor-in-possession to work toward that goal, including by prosecuting estate causes of action,1 see Commodity Futures Trading Comm’n v. Weintraub, 471 U.S. 343, 352, 105 S.Ct. 1986, 85 L.Ed.2d 372 (1985); Official Comm. of *1159Unsecured Creditors of Cybergenics Corp. v. Chinery, 330 F.3d 548, 573 (3d Cir. 2003). The reason creditors’ committees may bring fraudulent conveyance actions on behalf of the estate is that such committees are likely to maximize estate value; “[t]he possibility of a derivative suit by a creditors’ committee provides a critical safeguard against lax pursuit of avoidance actions [by a debtor-in-possession].” Cybergenics, 330 F.3d at 573. The settlement of estate causes of action can, and often does, play a crucial role in maximizing estate value, as settlements may save the estate the time, expense, and uncertainties associated with litigation. See Protective Comm. for Ind. Stockholders of TMT Trailer Ferry, Inc. v. Anderson, 390 U.S. 414, 424, 88 S.Ct. 1157, 20 L.Ed.2d 1 (1968) (“In administering reorganization proceedings in an economical and practical manner it will often be wise to arrange the settlement of claims as to which there are substantial and reasonable doubts.”); In re A & C Props., 784 F.2d 1377, 1380-81 (9th Cir.1986) (“The purpose of a compromise agreement is to allow the trustee and the creditors to avoid the expenses and burdens associated with litigating sharply contested and dubious claims.”). Thus, to the extent that a settlement’s departure from the Code’s priority scheme was necessary to maximize the estate’s overall value, I would not object.
But here, it is difficult to see how the settlement is directed at estate-value maximization. Rather, the settlement deviates from the Code’s priority scheme so as to maximize the recovery that certain creditors receive, some of whom (the unsecured creditors) would not have been entitled to recover anything in advance of the WARN Plaintiffs had the estate property been liquidated and distributed in Chapter 7 proceedings or under a Chapter 11 “cram-down.” There is, of course, a substantial difference between the estate itself and specific estate constituents. The estate is a distinct legal entity, and, in general, its assets may not be distributed to creditors except in accordance with the strictures of the Bankruptcy Code.2
In this sense, then, the settlement and structured dismissal raise the same concern as transactions invalidated under the sub rosa plan doctrine. In In re Braniff Airways, Inc., 700 F.2d 935 (5th Cir.1983), the Court of Appeals for the Fifth Circuit rejected an asset sale that “had the practical effect of dictating some of the terms of any future reorganization plan.” Id. at 940. The sale was impermissible because the transaction “short circuit[ed] the requirements of Chapter 11 for confirmation of a reorganization plan by establishing the terms of the plan sub rosa in connection with a sale of assets.” Id. ‘When a proposed transaction specifies terms for adopting a reorganization plan, ‘the parties and the district court must scale the hurdles erected in Chapter 11.’ ” In re Cont’l Air Lines, Inc., 780 F.2d 1223, 1226 (5th Cir.1986) (quoting Braniff, 700 F.2d at *1160940). Although the combination of the settlement and structured dismissal here does not, strictly speaking, constitute a sub rosa plan — the hallmark of such a plan is that it dictates the terms of a reorganization plan, and the settlement here does not do so — the broader concerns underlying the sub rosa doctrine are at play. The settlement reallocated assets of the estate in a way that would not have been possible without the authority conferred upon the creditors’ committee by Chapter 11 and effectively terminated the Chapter 11 case, but it failed to observe Chapter ll’s “safeguards of disclosure, voting, acceptance, and confirmation.” In re Lionel Corp., 722 F.2d 1063, 1071 (2d Cir.1983); see also In re Biolitec Inc., 528 B.R. 261, 272 (Bankr.D.N.J.2014) (rejecting settlement and structured dismissal that assigned rights and interests but did not allow parties to vote on settlement’s provisions in part because it “resemblefd] an impermissible sub rosa plan”). This settlement then appears to constitute an impermissible end-run around the carefully designed routes by which a debtor may emerge from Chapter 11 proceedings.
Critical to this analysis is the fact that the money paid by the secured creditors in the settlement was property of the estate. A cause of action held by the debt- or is property of the estate, see Bd. of Trs. of Teamsters Local 863 v. Foodtown, Inc., 296 F.3d 164, 169 (3d Cir.2002), and “proceeds ... of or from property of the estate” are considered estate property as well, 11 U.S.C. § 541(a)(6). Here, the administrative and unsecured creditors received the $3.7 million as consideration for the releases from the fraudulent conveyance action, so this payment qualifies as “proceeds” from the estate’s cause of action.3 See Black’s Law Dictionary 1325 (9th ed.2009) (defining proceeds as “[sjomething received upon selling, exchanging, collecting, or otherwise disposing of collateral”); see also Strauss v. Morn, Nos. 97-16481 & 97-16483, 1998 WL 546957, at *3 (9th Cir.1998) (“ § 541(a)(6) mandates the broad interpretation of the term ‘proceeds’ to encompass all proceeds of property of the estate”); In re Rossmiller, No. 951249, 1996 WL 175369, at *2 (10th Cir.1996) (similar). This case is thus distinguishable from the so-called “gifting” cases such as In re World Health Alternatives, 344 B.R. 291 (Bankr.D.Del.2006), and In re SPM Manufacturing Corp., 984 F.2d 1305 (1st Cir.1993). In fact, those courts explicitly distinguished estate from non-estate property, and approved the class-skipping arrangements only because the proceeds being distributed were not estate property. See World Health, 344 B.R. at 299-300; SPM, 984 F.2d at 1313. The arrangement here is closer to a § 363 asset sale where the proceeds from the debtor’s assets are distributed directly to certain creditors, rather than the bankruptcy estate. Cf. In re Chrysler LLC, 576 F.3d 108, 118 (2d Cir.2009) (noting, in upholding a § 363 sale, that the bankruptcy court demonstrated “proper solicitude for the priority between creditors and deemed it essential that the [s]ale in no way upset that priority”), vacated as *1161moot, 592 F.3d 370 (2nd Cir.2010). It is doubtM that such an arrangement would be permissible.
The majority likens the deviation in this case to the first deviation in Iridium, in which the settlement would initially distribute funds to the litigation trust instead of the Motorola administrative creditors. For two reasons, however, I find this analogy unavailing. First, it is not clear to me that the Second Circuit saw the settlement’s initial distribution of funds to the litigation trust as a deviation from the Code’s priority scheme at all. As the Second Circuit explained, if the litigation was successful, the majority of the proceeds from that litigation would actually flow back to the estate, then to be distributed in accordance with the Code’s priority scheme. 478 F.3d at 462.4 Second, the critical (and, in my view, determinative) characteristic of the settlement in this case is that it skips over an entire class of creditors. That is precisely what the second “deviation” in Iridium did, and the Second Circuit remanded to the bankruptcy court for further consideration of that aspect of the settlement.
In fact, the second “deviation” in Iridium deviated from the priority scheme in a more minor way than the settlement at issue here. In Iridium, the settlement would have deviated from the priority scheme only in the event that Motorola, an administrative creditor and a defendant in various litigation matters brought by the creditors’ committee, had prevailed in the litigation or if its administrative claims had exceeded its liability in the litigation. Iridium, 478 F.3d at 465. The Second Circuit thus characterized this aspect of the settlement as a mere “possible deviation” in “one regard,” but nevertheless remanded for the bankruptcy court to assess the “possible” deviation’s justification. Id. at 466. Here, of course, it is clear that the settlement deviates from the priority scheme, as it provides no compensation for an entire class of priority creditors, while providing $1.7 million to the general unsecured creditors.
Finally, I do not question the factual findings made by the bankruptcy court. That court found that there was “no realistic prospect” of a meaningful distribution to Jevic’s unsecured creditors apart from the settlement under review. But whether there was a realistic prospect of distribution to the unsecured creditors in the absence of this settlement is not relevant to my concerns. What matters is whether the settlement’s deviation from the priority scheme was necessary to maximize the value of the estate. There is a difference between the estate and certain creditors of the estate, and there has been no suggestion that the deviation maximized the value of the estate itself.
The able bankruptcy court here was faced with an unpalatable set of alternatives. But I do not believe the situation it faced was entirely sui generis. It is not unusual for a debtor to enter bankruptcy with liens on all of its assets, nor is it unusual for a debtor to enter Chapter 11 proceedings — the flexibility of which enabled appellees to craft this settlement in the first place — with the goal of liquidating, rather than rehabilitating, the debtor.5 *1162It is also not difficult to imagine another secured creditor who wants to avoid providing funds to priority unsecured creditors, particularly where the secured creditor is also the debtor’s ultimate parent and may have obligations to the debtor’s employees. Accordingly, approval of the bankruptcy court’s ruling in this case would appear to undermine the general prohibition on settlements that deviate from the Code’s priority scheme.
I recognize that if the settlement were unwound, this case would likely be converted to a Chapter 7 liquidation in which the secured creditors would be the only creditors to recover. Accordingly, I would not unwind the settlement entirely. Instead, I would permit the secured creditors to retain the releases for which they bargained and would not disturb any of the proceeds received by the administrative creditors either. But I would also require the bankruptcy court to determine the WARN Plaintiffs’ damages under the New Jersey WARN Act, as well as the proportion of those damages that qualifies for the wage priority.6 I would then have the court order any proceeds that were distributed to creditors with a priority lower than that of the WARN Plaintiffs disgorged, and apply those proceeds to the WARN Plaintiffs’ wage priority claim. To the extent that funds are left over, I would have the court redistribute them to the remaining creditors in accordance with the Code’s priority scheme.

. This point is reinforced with an analogy to trust law. Where there are two or more beneficiaries of a trust, the trustee is under a duty to deal with them impartially, and cannot take an action that rewards certain beneficiaries while harming others. Restatement (Second) of Trusts § 183 (1959); see also Varity Corp. v. Howe, 516 U.S. 489, 514, 116 S.Ct. 1065, 134 L.Ed.2d 130 (1996) ("The common law of trusts recognizes the need to preserve assets to satisfy future, as well as present, claims and requires a trustee to take impartial account of the interests of all beneficiaries.”). Yet that is what, the Committee did here. This duty persists even where the trustee is a beneficiary of the trust himself, like the creditors’ committee was here. See Restatement (Third) of Trusts § 32 (2003) (“A natural person, including a settlor or beneficiary, has capacity ... to administer trust property and act as trustee....”)

. On June 30, 2006, Sun acquired Jevic in a leveraged buyout, which included an $85'mil-lion revolving credit facility from a bank group led by CIT. The fraudulent conveyance action complaint sets forth that Jevic and Sun allegedly knew that Jevic would default on the CIT financing agreement by September 11 of that year. The fraudulent conveyance action sought over $100 million in damages, and the unsecured creditors’ committee alleged that "[w]ith CIT’s active assistance ... Sun orchestrated a[n] ... LBO whereby Debtors’ assets were leveraged to enable a Sun affiliate to pay $77.4 million ... with no money down.”

. Here, by contrast, none of the settlement proceeds flowed to the estate.

. See Ralph Brubaker, The Post-RadLAX Ghosts of Pacific Lumber and Philly News (Part II): Limiting Credit Bidding, Bankr. L. Letter, July 2014, at 4 (describing the "ascendancy of secured credit in Chapter 11 debtors’ capital structures, such that it is now common that a dominant secured lender has blanket liens on substantially all of the debt- or’s assets securing debts vastly exceeding the value of the debtor’s business and assets”); Kenneth M. Ayotte & Edward R. Morrison, *1162Creditor Control & Conflict in Chapter 11, 1 J.L. Analysis 511, 519 (2009) (finding that secured claims exceeded the value of the company in twenty-two percent of the bankruptcies surveyed); Stephen J. Lubben, Business Liquidation, 81 Am. Bankr. L.J. 65 (2007) (noting that although "chapter 7 is the prevailing method of business liquidation, ... a sizable number of firms first attempt either a reorganization or liquidation under chapter 11”); 11 U.S.C. § 1123(b)(4) (providing that a chapter 11 plan may "provide for the sale of all or substantially all of the property of the estate, and the distribution of the proceeds of such sale among holders of claims or interests”).

. At this point, the WARN litigation has largely concluded, with the WARN Plaintiffs having established liability on their New Jersey WARN claims against Jevic but having lost on all other claims. On May 10, 2013, the bankruptcy court dismissed the WARN Plaintiffs' claims against Sun (but not Jevic) on the grounds that Sun was not a "single employer” for purposes of the WARN Acts. The district court affirmed that decision .on September 29, 2014. In re Jevic Holding Corp., 526 B.R. 547 (D.Del.2014). In a separate opinion on May 10, 2013, the bankruptcy court dismissed the federal WARN Act claims against Jevic, but granted summary judgment in favor of the WARN Plaintiffs against Jevic on their New Jersey WARN Act claims. No appeal was taken of that ruling; in fact, Jevic did not contest liability on the New Jersey WARN Act claims.