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Boy Scouts of America:  Venue Demerit Badge

posted by Adam Levitin

Boy Scouts of America’s bankruptcy filing is among the most flagrant abuse of the venue statute ever. It’s an illustration of just how broken the bankruptcy venue system is. But it might not be too late to do something about it. 

Here’s the quick background (some of which is also covered in Pamela Foohey's post). Boy Scouts of America (BSA) is a defendant along with its local councils (essentially franchises) in myriad sex abuse suits. BSA is a federally chartered entity, headquartered in Texas. In July 2019, roughly 210 days ago, BSA incorporated its only subsidiary, Delaware BSA, LLC, a Delaware limited liability company, of which BSA is the sole member.

Delaware BSA, LLC has less than $50,000 in assets (and possibly zero), consisting primarily (or perhaps solely) of a bank account in Delaware. It carries on no business and has no real employees. In short Delaware BSA, LLC, is a pure corporate shell. Its sole purpose appears to be to enable BSA to have proper venue for a bankruptcy filing in Delaware.  That’s because the bankruptcy venue statute allows a firm to file for bankruptcy where it is incorporated, where its principal place of business or assets are, or where a bankruptcy of an affiliate is pending.  BSA utilized this last provision to get Delaware venue:  it had its subsidiary Delaware BSA, LLC, file for bankruptcy in Delaware first and then it bootstrapped its way in by virtue of its affiliate having a case pending in Delaware. 

It’s hard to conceive of a more blatant abuse of the venue statute. (Ok, there's Winn-Dixie, which formed its affiliate 12 days before the filing, rather than outside of the 180 days required by the venue statute.) But I think there is a solution in this case, if you bear to the end of a long post.  

Gaming of the bankruptcy venue statute has been a problem for a long time. Lynn LoPucki has even written a book about it. We’ve seen plenty of it in recent megacases, with Sears and Purdue gaming the statute to get their cases heard before the only judge sitting in White Plains, New York and Pier 1, Gymboree, and Toys R Us all getting the same judge in Richmond, Virginia. And in the past we’ve even had cases like Borders where the debtor didn’t even both to game the venue statute, but just ignored it. 

But I am hard pressed to think of a case where an affiliate was so blatantly created solely as to create venue.  Other cases have relied on affiliates that have at least engaged in some modest business.  In BSA’s case, the manipulation is so blatant that BSA did not file proper schedules of unsecured creditors for each of its entities. Rather than filing a separate schedule of unsecured creditors for both Delaware BSA LLC and BSA itself, as is required by the Bankruptcy Rules, BSA filed a joint schedule of unsecured creditors that does not specify which entity is in fact the debtor.  This was done before there was even a joint administration order (and the joint administration order doesn’t authorize this sort of joint schedule anyhow).  Nor is it credible that BSA and Delaware BSA LLC are so intertwined that they cannot figure out which entity is liable for what.  All that the joint schedule is doing is masking the fact that Delaware BSA LLC has no real creditors (and no real assets).  It is a guarantor on some of BSA’s bond debt, but it’s a meaningless guaranty as Delaware BSA LLC has never had any real assets.  In short, it’s a Potemkin Village of an affiliate.

Why Venue Matters

Venue is not jurisdictional, but it still matters in general for a bunch of reasons and in the case of BSA for a very specific reason.  As an initial matter, there are some very good reasons for a debtor to prefer one forum to another, such as its own convenience and the skill and experience of the judges in a jurisdiction.  But there are also some more problematic reasons. 

First and foremost, venue matters because it dictates what law applies. There are important circuit splits and also circuits that have no law on important issues. If a debtor can forum shop, it can decide what law applies.  That’s wrong.

Second, venue matters because it determines how things are likely to proceed in a case. Some jurisdictions are going to be less likely to appoint a trustee or an examiner than others. Thus, Enron filed in SDNY, not in SD Tex because it knew that SDNY judges would almost assuredly not appoint a trustee, which meant that Enron's Board of Directors retained attorney client privilege.

Third, venue matters in terms of professionals’ fees. Some courts are going to be more accommodating of higher professionals’ fees than others.  And as long as debtors can forum shop, it is very difficult for any court to try and rein in professionals’ fees.  (And while we’re talking about Delaware, let’s also talk about the local counsel requirements, which unnecessarily pad the costs of cases. The Delaware bar doesn’t have reciprocity with anyone and makes admission difficult because it requires more than just passing the exam, but also attending a whole range of court events that basically require one to live in or very close to Delaware.) 

Fourth, venue matters for where creditors might find themselves haled into court. If I'm a Texas vendor who does business with BSA, located right across the street from me, I have a reasonable expectation to litigate any disputes with BSA in a Texas court. But if BSA files for bankruptcy in Delaware and then seeks to recover a preference or a voidable transfer from me, I'm going to have to go and litigate in Delaware, even though I have no contacts whatsoever with the jurisdiction. (I've always been a little skeptical that this flies as a matter of due process for personal jurisdiction when there are not even minimal contacts with a jurisdiction, but whatevs.) 

Fifth, venue matters in terms of access to the court. Access isn’t an issue for BigLaw attorneys, but it is very much an issue for individual creditors or employees. Distant venues make it difficult for them to participate in cases. If they want to hear a hearing they either have to pay travel expenses or pay a hefty CourtCall fee.  $135 for a dial-in service is nothing for a BigLaw firm, but it’s a lot for an individual creditor or employee.  Moreover, being able to attend cases—just to be seen by the judge—actually matters. It’s a different matter to speak about employees or tort victims in the abstract and to have to look at them every day in a court room or walk through a crowd of them protesting outside the court.  And if you doubt this is a concern, ponder why GM filed in SDNY, where it doesn’t have significant operations, not Delaware, where it has a unionized plant or ED Michigan. It’s not as if Delaware and EDMI don't have experience with megacases. 

In the case of BSA venue matters particularly for this third reason, but also for a variant of it. BSA is surely going to attempt to consolidate all of the sex abuse litigation in Delaware district court. There’s probably not a single district that has an overwhelming claim to venue for these cases, but whatever district is appropriate, it is almost assuredly not the District of Delaware, because only a very limited percentage of abuse cases are Delaware cases, and almost all these cases will all have to be decided under other states’ law.  

Now consider what Delaware venue means for abuse victims, many of whom are elderly and may have difficulty traveling.  They will have to go to court in a distant location.  They will have a Delaware jury, not a local jury.  They will have to pay their own travel expenses, and if they want the physical and emotional support of family members, they will have to pay for their travel expenses too.  Meanwhile, they costs of defending their suits will be paid from the estate—that is coming at their own expense.  The only thing I can say about this is it is just wrong.  Civil procedure should not be used as a tool to beat down consumer tort victims. 

If Venue Is So Important, Why Hasn’t There Been a Transfer Motion?

Now nothing stops any party, or the court itself, from seeking to transfer the case because of improper venue. The late Harvey Miller once argued to me that the lack of venue motions indicated that everyone was cool with the venue. With due respect, I think that’s nonsense, as I've explained previously.

First, in many cases (although not in BSA), the benefits of a venue transfer might be uncertain.  A different judge or a different circuit’s law might be an improvement, but it might be a mixed bag. That might discourage creditors from bringing a motion.

Second, if a creditor brings a venue transfer motion, it bears the costs of doing so itself.  What’s worse, if it’s an unsecured creditor, the estate’s costs of defending the motion will come out of the pool of assets available to pay the unsecured creditors. Fighting a venue transfer motion isn’t cheap—it’s certainly tens of thousands of dollars of legal fees, if not more.  In a case involving many individual creditors—sex abuse victims—it isn’t credible to think that any individual victim is going to fund this sort of fight. 

Official committees are supposed to address this sort of free-riding problem, but committees are generally represented by repeat player bankruptcy professionals.  They are going to be reluctant to file a venue transfer motion that might annoy the court. As a result, official committees are unlikely to be the catalyst for a venue transfer motion.  

There’s always the possibility of getting costs recovered for “substantial contribution,” but that’s discretionary and happens at the end of the case, requiring creditors—who may have limited liquidity—to front the expenses of a venue fight.  And still if they win, the costs of defense, even for blatantly improper venue, get paid by the estate.  (Courts really ought to dock the fees of debtor’s counsel in these cases; that’s the only deterrent to improper filings.)

Third, creditors are going to be reluctant to bring venue motions because their chance of winning are limited because of the equitable mootness type problem that exists:  there’s no time table for the court to address a transfer motion. By the time the court gets around to ruling, the cake might be baked:  so much might have transpired in the case that the court might hold that transferring the case would be unduly disruptive. Indeed, a court that doesn’t want to give up a case can effectively defeat a transfer motion itself by delaying a ruling. 

There’s a solution of sorts:  Delaware BSA LLC’s Filing Has No Valid Reorganization Purpose 

I think there’s a possible solution to the BSA venue problem. Delaware is in the Third Circuit, which happens to have the best articulated “good faith filing” doctrine in the country.  The “good faith filing” doctrine requires that a bankruptcy case be filed with a “valid reorganizational purpose.”  While BSA has such a purpose, Delaware BSA LLC does not. It has no real creditors (it's not like the bondholders are trying to collect on the guaranties given that there are no assets) and carries on no business to reorganize. In short, Delaware BSA LLC’s case should clearly be dismissed for lack of good faith filing. 

If Delaware BSA LLC’s case is dismissed, it raises the question of whether BSA still has valid Delaware venue.  Read literally, the venue statute only requires there to have been an affiliate case pending at the time of a filing. But once Delaware BSA LLC’s case is dismissed for lack of good faith filing, I think it becomes a real stretch for BSA to retain its Delaware venue—it has unclean hands and allowing it to retain Delaware venue in such circumstances would undermine the entire venue statute for venue would always exist at the time of filing because a dismissal for lack of good faith filing is not immediate.  (Yes, I know “A Scout strives to always be clean in thought and deed, though his hands may be dirty from service and hard work and forum shopping.”)  Perhaps the doctrinal solution is that if a case is dismissed for lack of good faith filing, the filing should be treated as void ab initio. [There's a subsidiary question of where is proper venue for a federally chartered corporation. The District of Columbia, perhaps?]

In any case, dismissing the Delaware BSA LLC case for lack of good faith filing has one substantial advantage over simply seeking to transfer venue.  It forces the court to rule within a finite time:  there must be a hearing within 30 days of the motion and a ruling within 15 days of the hearing. Now that’s potentially 45 days, which is light years in bankruptcy time, especially at the beginning of a case.  There’s something akin to “equitable mootness” lurking, but compared with a venue motion, which lacks a time line for a decision, it at least provides some possibility of forcing the issue before it becomes totally moot.    

Hopefully someone (I’m looking at you United States Trustee and also at you Judge Silverstein) will file a motion to dismiss the Delaware BSA LLC case pronto. And if I were a creditor, I wouldn't just be filing a venue motion. I'd be filing a sanctions motion seeking to disallow all of BSA's legal fees related to its filing and defense of forum—BSA's behavior here is really outrageous to anyone who isn't inured to it by virtue of having lived as a professional inside the bankruptcy system for too long, and it's even more outrageous that its creditors should have to foot the bill to correct its forum shopping. 

Addendum:  Legislative Fixes

BSA is but the most flagrant recent example of a much broader problem with bankruptcy venue. While the problem can be solved in the particular case of BSA through the bankruptcy process itself, fixing the issue generally requires legislative changes. (There's some stuff that can be done through the Bankruptcy Rules Committee, but that will be nibbling around the edge.) HR 4211 and the Cornyn-Warren bills present a couple of promising options for venue reform.

This isn't the place for a detailed discussion of those bills, but suffice it to say the critical reforms are ending affiliate and general partner bootstrapping. My own personal druthers would be to limit jurisdiction to the district in which the debtor has its principal place of business; state of incorporation has little meaning for a business relative to state of domicile for a consumer, and no one knows when they are dealing with a company what state the company is incorporated in. I realize this would basically put Delaware out of the bankruptcy business, but it's by far the least gameable—and fairest—rule. Texas companies should file in Texas, Illinois companies in Illinois, California companies in California, etc. Anything else is a contrived system.  

Comments

When it comes to venue and bankruptcy, it shouldn't be a surprise that such is apied inequitable against consumers compared with corporations, nonprofits or regular. The EOUST will object to a consumer filing in the "wrong" jurisdiction in every case, even if there is not substantive difference in the outcome, without concern for the convenience of the consumer debtor. (That the Bankruptcy Administrators in North Carolina and Alabama take a more laissez faire approach only exacerbates the absurdity of the UST position.) Rasonable venue reform would tighten application for corporations and relax such for individuals.

Unless the BSA Delaware entity rented a safe deposit box at a bank branch located in Delaware, there is no physical asset with a fixed location. An account with a bank is right to be paid by the bank. Thus creditors with judgments against debtors in say, Alabama, who have bank accounts with Chase or BOA can file garnish supplemental remedies in New York or North Carolina. Is the BSA Delaware bank account with a bank that only has branches in Delaware?

Ed Boltz--I wish the UST would prioritize intervention against some of the more problematic practices in Chapter 11 rather than harassing consumer debtors or worrying about the details of Chapter 11 fee petitions. I don't see that changing any time soon, however.

David Yen-the location of the bank deposit doesn't matter; for venue it's enough that the BSA Delaware LLC entity be incorporated in Delaware. That said bank accounts actually do have a location for regulatory purposes. Until recently there were different funds availability rules for funds deposited in-state and out-of-state. The silliness of this is that banks have always treated the relevant state as the one where the depositor opened the account, not where the depositor resides. I don't know if that would determine an account's location for bankruptcy purposes, however.

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