Chapter 11 Bankruptcy Venue Reform

This Thursday, the House Judiciary will be holding a hearing on H.R. 2533, which would reform Chapter 11 venue and require corporations (which includes more than true corporations under the Bankruptcy Code) to file in the district in which they are headquartered or in the district in which a controlling affiliate has filed.  So no more bootstrapping of Eastern Airlines, Enron, or GM via tiny affiliates.  And no more Los Angeles Dodgers of Delaware.  

I've submitted a letter in support of the bill to the House.  My previous posts on this topic earned me no love from some former colleagues (some of whom told me as much), and I don't expect this letter (or this blog post) will endear me to them either.  The letter rehearses the problems that stem from forum shopping:  debtors (and DIP lenders) picking and choosing the law they prefer; debtors opting for districts that are more lax in their application of discretionary standards like for cause appointment of trustees; professionals steering cases to districts that will sign off on higher fees, thereby increasing the costs of bankruptcies; the cutting out of local/small creditor constituencies by moving cases to inconvenient fora; and avoidance of labor protests and other informal pressures on courts.  

I continue to be struck by what a weak argument specialization/expertise is for the current system. We've seen courts outside of SDNY/Delaware handle large bankruptcies extremely well, and we've also seen some disasters in those popular filing jurisdictions. Frankly, it's not clear to me how much case outcomes depend on the judge. But be that as it may, expertise is an argument for a single court to handle all large cases, not a pick-your-own-venue system, even if the menu is limited to SDNY and Delaware.  So if it's about expertise, which court is it?  SDNY or Delaware?  It surely can't be the debtor's choice if it's about expertise.   

Also, in drafting this letter, I realized that Chrysler may well have lacked proper venue in SDNY.  IIt's a stretch to claim that Chrysler Realty Co. LLC, a Delaware LLC headquartered in Michigan had its principal assets located in SDNY, when the only SDNY assets scheduled are the realty for Jeep-Chrysler-Dodge of Manhattan and Yonkers Avenue Dodge. By dollar amount these were less than 3% of Chrysler Realty Co., LLC's scheduled assets.  I wonder how many other cases have been filed recently in which there isn't compliance with the venue statute.  (Note that this is not like GM, which bootstrapped its way in to SDNY, which complies with the statute.  That's legal, but it's a bad statute. Borders--also here--and perhaps Chrysler don't even appear to in compliance with the statute.)  

Finally, I'm left pondering where is the UST on this.  Checking on venue seems like it should be a rote part of UST review. If the UST is really concerned about fee levels in bankruptcy, policing Chapter 11 venue is a far better way to deal with it than objecting to fee applications, where the dollars saved are offset by the cost of arguing the objection.  

My former WGM colleagues have a couple of blog posts of their own on HR 2533 (here and here). These posts make the very good point that the local rules for the SDNY and Delaware bankruptcy courts are friendly to out-of-state attorneys (no local counsel required for pro hac vice admission). It's point about telephonic and video hearings really cuts both ways.  But I think it's a stretch to say that because local creditors are get some protection via 503(b)(9) administrative expense claims, 546(c) reclamation claims, 547(c)(2) ordinary course exception to voidable preferences, and 365(d)(4) and 366 protections for landlords and utilities that it's therefore not a problem that venue is being abused.

None of these protections help employees, for example. Admin priority only doesn't apply to prepetition claims.  The ordinary course preference exception is temporally narrow and 546(c) reclamation is not a very powerful tool for most creditors.  But even if these were always meaningful protections for all local creditors, I don't see how that in any way justifies abuse of venue. Is the argument no harm-no foul? If so, none of these provisions mitigates the harm caused by debtors being able to choose venues with easier rejection of CBAs or in which they can funnel more funds to professionals or DIP lenders. The provisions cited on the WGM blog crumbs in comparison to what's at stake with venue. 

Comments

[AMC]

I hope it passes.

A long overdue reform.

[Jack Joster]

This is the biggest attack on the free market I have ever seen -whoever supports this should be ashamed of themselves

[mt]

"I continue to be struck by what a weak argument specialization/expertise is for the current system."

Funny, I continue to be struck by what a weak argument any of the factors in favor of the bill amount to.

"debtors (and DIP lenders) picking and choosing the law they prefer;" what is the evidence of documented, quantifiable harm from this? Parties have forum selection clauses all the time. Is there some academic work that shows they are harmful.

"debtors opting for districts that are more lax in their application of discretionary standards like for cause appointment of trustees;" same question - seriously: reducing the problems caused by trustees was a major point of the 78 reforms.

"professionals steering cases to districts that will sign off on higher fees, thereby increasing the costs of bankruptcies;" it's an odd point given that you seem to want more trustees, who are themselves sources of avoidable costs. Overall cases have become much more efficient in terms of dollars of debt removed from the system per dollar of professional fee.

"the cutting out of local/small creditor constituencies by moving cases to inconvenient fora;" This complaint is basically an attack on the efficiency caused by the collective action mechanisms of the code. Small creditors don't add anything to cases. They impose costs on the larger more organized parties. They have a committee to represent them that is usually very good at that. In many prepacks, 363s and prenegotiateds, recoveries of small creditors are superior to junior providers of capital, to avoid the damage that the delay they would cause would otherwise inflict on the business. The only people who are "cut out" are the second and third tier lawyers in the alternate venues. They are of course the ones behind this proposal. This proposal is basically an attmpt to subordinate federal law to the protectionist scheme of state bar rules, for which there is no rational economic or constitutional justification.

"avoidance of labor protests and other informal pressures on courts." Seriously, what quantifiable harm is there to that? If anything this complaint seems to say, let's slide down the spectrum a little farther from rule of law to mob rule.

Your point of view is in many ways just a populist gripe -- "pressure on courts"; more attention to the "small /local"; anti-federal, pro-state-protectionism - those are what you might hear in Republican primary campaigns, if you think about it.

[Karel Karpe]

I don't understand your reasoning. Why should the bankruptcy court have a higher standard for venue than the federal courts? And why should a corporation not have a choice as to which venue to file? Where to file can be as much a business decision as why to file. That decision is based on a number of factors.