Fifth Circuit Rules That Debtor’s Plan Failed to Effectively Preserve Post-Confirmation Causes of Action

The Bankruptcy Code provides debtors in possession and other potential plan proponents with considerable flexibility to implement a plan under chapter 11. An important consideration is the preservation of potentially valuable causes of action held by the estate and the provision of a vehicle for post-confirmation prosecution of such claims. While section 1123(b)(3) of the Bankruptcy Code affords plan proponents the option to retain estate claims to be pursued by a debtor, a trustee or “a representative of the estate” after plan confirmation, the degree of specificity required in a plan’s identification of retained causes of action in order to ensure post-confirmation standing is frequently open to substantial challenge.  Courts typically address issues related to post-confirmation standing to pursue estate causes of action in connection with efforts to dismiss litigation brought by a reorganized debtor, a trustee of a post-confirmation liquidating trust, or as was the case in Wooley v. Haynes & Boone, LLP (In re SI Restructuring Inc.), 714 F.3d 860 (5th Cir. 2013), individual creditors.  The decision in SI Restructuring, which ultimately denied the creditors standing to pursue claims on behalf of the estate because the plan did not describe the causes of action to be retained with enough clarity to satisfy section 1123(b), highlights the importance of clear and unequivocal drafting of plan provisions designed to ensure the preservation of often valuable post-confirmation litigation claims.

Creditor standing to pursue estate claims is derivative in nature – that is, a creditor can obtain standing to bring a debtor’s claim only if the debtor itself could bring the claim in the first instance. Generally, during the pendency of a bankruptcy case, creditors may be granted standing to pursue litigation on behalf of a bankruptcy estate in relatively limited circumstances, most often when a debtor “unjustifiably” refuses to pursue a “colorable” claim against a third party.  In SI Restructuring, two creditors alleged that the chapter 11 debtors were unjustifiably  refusing to pursue valid claims for fraud, breach of fiduciary duty and other state law causes of action against Haynes & Boone, the debtor’s prepetition a law firm.  Rather than litigate the reasonableness of the debtor’s refusal to bring these claims, the debtors and creditors reached a compromise intended to preserve the creditors’ ability to pursue the debtors’ causes of action against Haynes & Boone after the debtors emerged from bankruptcy.  This settlement was embodied in debtor’s plan of reorganization, which expressly included a reservation of the creditors’ rights “to seek authority from the Bankruptcy Court to bring claims of the estates if not pursued by the Committee, the Debtors or the Plan Administrator.” Id. at 863.  In effect, although the debtors were still refusing to pursue claims against Haynes & Boone, the plan made clear that individual creditors were not precluded from seeking permission of the court to do so. After the plan’s effective date, the two creditors requested the Court’s blessing to move forward with the contemplated litigation.

In a decision that was undoubtedly a surprise to the creditors, the bankruptcy court denied  the creditors’ request, and on appeal, the Fifth Circuit affirmed.  The court noted that, under section 1123(b), a debtor can only preserve its post-confirmation standing if the plan “expressly” provides for a claim’s retention and enforcement, and ruled that “blanket reservations of any and all claims are not sufficiently specific.”  Id. at 864.  Noting that a plan’s resolution of estate litigation is material to a creditors’ ability to make an informed determination in voting on plan confirmation, the court held that, at a minimum, a plan’s reservation of claims must be detailed enough “to put creditors on notice of any claim the debtor wishes to pursue after confirmation.” Id.  The SI Restructuring plan provided that the debtors retained the “right to enforce any claims, rights and causes of action. . . against any entity, including, without limitation, any claims, rights or causes of action arising under Chapter 5 of the Bankruptcy Code or any similar provision of state law, or any other statute or legal theory.” Id. at 863.  The Fifth Circuit determined that this language was inadequate because it did not provide creditors with any notice of the precise types of state law or common law claims that the estate intended to pursue.  The court therefore concluded that the creditors’ proposed lawsuit fell within the “blanket reservation” it deemed impermissible under section 1123(b), and that the estates’ claims against Haynes & Boone had been waived under the plan notwithstanding the intent of the debtors and the creditors to the contrary.

SI Restructuring offers a cautionary tale regarding the pitfalls of vague and unclear drafting of plan documents.  Indeed, the debtors’ failure to memorialize their settlement with a clear articulation of the claims that the debtors’ plan was intended to preserve resulted in the estates’ forfeiture of potentially significant claims, and nullified the parties’ settlement in the process.  While the Fifth Circuit’s rejection of blanket reservations of claims has significant ramifications for future cases, the court’s decision unfortunately provided little insight into how much specificity is needed to provide the adequate notice required to pass muster under section 1123(b), and such determinations remain largely a case-by-case inquiry.  For example, the Fifth Circuit refused to decide whether a plan would fail in its reservation of state law claims if the plan included a specific reference to state law causes of action but did not identify any prospective defendants.  Similarly, the Fifth Circuit did not address the petitioning creditors’ contention that it would be impossible under the standard applied by the court to sufficiently reserve estate claims that only become known after confirmation.  This inherent uncertainty provides a strong incentive for plan proponents seeking to safeguard future litigation claims to describe all causes of action that will not be released under a plan with as much particularity as possible.

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