On November 13, 2018, the ABA Section of Litigation held an animated roundtable discussion on several cutting-edge topics in bankruptcy litigation. The panelists were the Hon. Robert E. Gerber, retired U.S. bankruptcy judge for the Southern District of New York; the Hon. Rosemary Gambardella, U.S. bankruptcy judge for the District of New Jersey; Pauline Morgan, partner and chair of Bankruptcy and Corporate Restructuring at Young Conaway Stargatt & Taylor LLP; and Curtis Miller, partner at Morris, Nichols, Arsht & Tunnell LLP.
Judge Gerber began the roundtable with a discussion of the In re Millenium Lab Holdings Delaware Bankruptcy Court decision, which upheld the bankruptcy court’s constitutional authority to approve nonconsensual third-party releases. This authority was questioned by opt-out lenders on appeal of the court’s confirmation of Millenium’s plan of reorganization, which, among other things, granted the company’s equity holders a third-party release. Arguing that the release would preclude them from pursuing Racketeer Influenced and Corrupt Organizations Act (RICO) and state law fraud claims against Millenium’s equity holders, the opt-out lenders made their appeal based on the Supreme Court’s decision in Stern v. Marshall. That decision held that bankruptcy court judges do not have the authority to enter final judgment on state law counterclaims that are not resolved in the process of ruling on a creditor’s proof of claim. Below are some of the highlights from this discussion:
- Judge Gerber explained the narrow, broad, and intermediate interpretations of the Stern v. Marshall decision.
- Judges Gerber and Gambardella discussed how both District Court Judge Stark and Bankruptcy Court Judge Silverstein agreed that the operative proceeding in this matter was the confirmation hearing, not the RICO or fraud claims.
- Judge Gerber suggested that the takeaway from this case and other similar decisions is a trend toward allowing bankruptcy judges to approve nonconsensual third-party releases to the extent that they are exercising their in rem jurisdiction.
- The panelists also discussed the issue of implied consent to third-party releases and how Judge Bernstein’s In re SunEdison decision in the Southern District of New York contrasted with Judge Shannon’s In re Indianapolis Downs decision in the District of Delaware.
Judge Gambardella next discussed the issue of substantive consolidation in the context of In re Republic Airways Holdings Inc. in the Southern District of New York Bankruptcy Court, in which an unusual plan allowed substantive consolidation for some creditors but not others. In this proceeding, Judge Lane determined that substantive consolidation between debtors Republic Airways Holdings and its subsidiary Shuttle America was appropriate based on the operation of the companies as a single economic unit and the cost that would be incurred to “untangle” the assets of the two companies. Only one creditor objected to the substantive consolidation, in response to which the debtor proposed (and Judge Lane confirmed) a plan under which the objecting creditor had the option, to be exercised after it was determined how its claim would be treated, to recover from its claims either under substantive consolidation of the entities or not. In other words, the judge allowed for a potential “carve-out” for the objecting creditor before the assets and liabilities of the debtors were consolidated for the benefit of the remaining creditors. The objecting creditor appealed the confirmation, but it was later affirmed in the district court by Judge Oetken. Below are some of the highlights from the discussion:
- Judge Gambardella described the facts of the case and the position of the objecting creditor, who had lease claims against the subsidiary and guarantee claims for the lease obligations against the parent. The damage claim against the subsidiary was much smaller than the guarantee claim against the parent due to unique defenses available to the subsidiary under New York law. Therefore, the elimination of guarantee claims that generally occurs under substantive consolidation could have harmed the objecting creditor.
- Despite the unusual carve-out offered to the creditor in the confirmed plan, which was even made optional based on the value of its claims, Judge Gambardella explained that this creditor wanted to “have it both ways”—to retain its guarantee claim and to reap the benefits of substantive consolidation.
- Judge Gambardella emphasized the district court’s observation that substantive consolidation does not have to benefit all creditors but should not be used offensively to harm creditors. The unique offer to the objecting creditor in this plan demonstrated that the court went to great lengths to minimize the unfairness to that creditor, and therefore the bankruptcy court’s confirmation of the plan was affirmed.
- Judge Gambardella explained the differing standards used to justify substantive consolidation in different circuits.
- The panelists discussed the unique nature of the “partial” substantive consolidation in this case, how it differed from past precedent, and implications for future decisions.
The roundtable continued with Pauline Morgan’s elucidation of the complex litigation surrounding Canadian gold mining company Crystallex’s battle with the country of Venezuela. The dispute arose in 2008 as a result of Venezuela’s failure to approve necessary permits for Crystallex, termination of Crystallex’s rights, and expropriation of all of Crystallex’s investments (worth hundreds of millions of dollars) in a mining reserve to which Crystallex had exclusive rights. These actions were alleged by Crystallex to have violated a bilateral treaty between Canada and Venezuela, and in fact an international arbitration proceeding before the World Bank resulted in a $1.2 billion award granted to Crystallex in 2016. Ms. Morgan summarized the obstacles that arose to prevent Crystallex from recovering this award. Below are highlights of the discussion:
- Ms. Morgan described the Venezuelan government’s early and unambiguous public declaration that it did not intend to pay any arbitration award in this matter and that it would go to great lengths to protect its assets from seizure.
- Ms. Morgan went on to explain the complex transaction that Venezuela engaged in to protect its assets from Crystallex. The Republic of Venezuela owns 100 percent of the shares of the company Petróleos de Venezuela (PdVSA), which, through its wholly owned subsidiary PDV Holdings (PDVH), controls 100 percent of the shares in Citgo Holdings, the parent company of Citgo Petroleum. Both PDVH and Citgo are Delaware corporations. In the transaction at issue, which occurred early in 2015, Citgo Holdings issued $2.8 billion in non-investment-grade debt and simultaneously paid a $2.8 billion dividend to PDVH, which subsequently paid a dividend in the same amount to PdVSA. The net effect of these transactions was to transfer $2.8 billion from the United States to Venezuela and to render Citgo insolvent.
- Crystallex subsequently filed a lawsuit against PdVSA, PDVH, and Citgo alleging that the transaction violated the Delaware Uniform Fraudulent Transfer Act (UFTA), because PdVSA was the “alter ego” of Venezuela and therefore its interests in Citgo should be available to satisfy any arbitration award that was granted to Crystallex.
- Ms. Morgan explained how all three entities were ultimately able to dismiss Crystallex’s complaint against them. Delaware District Court Chief Judge Stark granted Citgo’s motion to dismiss on the grounds that it was not a part of the fraud and therefore was not a participant. Judge Stark also dismissed PdVSA, based on its immunity under the Foreign Sovereign Immunities Act of 1976. While Judge Stark did not dismiss PDVH from the complaint, the company was later dismissed by the Third Circuit on appeal, on grounds that PDVH was not a debtor of Crystallex and therefore not subject to the UFTA. Crystallex sought rehearing but was denied, and subsequently filed a motion to amend its complaint to cure the defects identified by the Third Circuit.
- Ms. Morgan also described another proceeding under which Crystallex sought to attach the arbitration judgment against PdVSA’s shares in PDVH. In August 2018, Judge Stark issued the writ of attachment requested by Crystallex on grounds that the shares in PDVH nominally belonging to PdVSA really belonged to Venezuela. Ms. Morgan described PdVSA’s appeal of that decision, the resulting hold on the execution of the writ, and Crystallex’s pursuit of a court-ordered auction of PDVH’s shares. (There have been a variety of developments in this matter subsequent to this roundtable discussion that are beyond the scope of this article.)
The roundtable concluded with Curtis Miller’s brief discussion of a Delaware Chancery Court case, Spring Real Estate, LLC v. Echo/RT Holdings, LLC. In this case, the Chapter 7 trustee of a holding company called RayTrans Holdings sought to avoid the transfer of assets of one of the holding company’s subsidiaries as a fraudulent transfer. Mr. Miller described how in this case, similar to the Crystallex case, the issue of avoiding fraudulent transfers of non-debtors arose. Mr. Miller explained the judge’s decision to reject and dismiss the complaint on grounds that the property of a debtor’s estate generally does not include the property of a debtor’s non-filing subsidiary.
Please visit the Bankruptcy & Insolvency Committee’s website to access an audio recording of this discussion: “Trends in Bankruptcy Litigation: A Roundtable Discussion with the Hon. Robert E. Gerber and the Hon. Rosemary Gambardella.”
Dora Altschuler is an economist at Coherent Economics in Chicago, Illinois.
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