Counsel representing an entity under the control of a liquidating trustee in bankruptcy often faces unique challenges and opportunities. This article outlines a few suggestions to improve the quality of representation and outcomes for interested parties.
1. Choose a Liquidating Trustee
It is incumbent on any trustee to use best efforts to achieve a commercially reasonable and economically sound liquidation result. In re Health Diagnostic Lab., Inc., 588 B.R. 154, 169 (Bankr. E.D. Va. 2018). Whether the trustee is a pre-petition holdover appointed during the case under section 1104(a) or appointed after a plan is confirmed under sections 1123 and 1141(a) can affect how counsel interacts with the trustee during the liquidation process in the following ways:
- A pre-petition holdover trustee presumably has knowledge and control over the debtor, while a trustee appointed post-petition may need more time to understand the debtor and the underlying issues.
- A panel trustee brings experience and a pattern of action that an off-panel trustee may not have developed (or exhibited).
- A pre-petition trustee may have different responses to the in pari delicto defense than a post-petition trustee.
- A trustee appointed pre-confirmation is subject to the burdens of the Bankruptcy Code and Rules and the guidelines of the U.S. Trustee, while a post-confirmation trustee (i) may be governed by a trust agreement created through the confirmed plan; (ii) may be appointed without being disinterested; (iii) need not meet the “fair and equitable” requirement of a pre-confirmation trustee’s proposed settlement; (iv) should look for indemnity, insurance, or liability standards as a condition of service; and (v) may be replaced pursuant to the confirmed plan or the court filling in gaps unanticipated in the plan confirmation.
2. Familiarize the Trustee with the History of the Case
In every case, there are numerous situations where being informed of prior events can help, and a lack of knowledge could hinder, the trustee’s administration. For example, a liquidating trustee may be tasked with prosecuting claims against the debtor’s former counsel, who is unlikely to cooperate in any factual investigation. Where facts are available in the record, a newly appointed trustee may be denied leave to add claims or causes of action that are asserted late in the proceedings. In re Am. Int’l Refinery, Inc., 676 F.3d 455, 467 (5th Cir. 2012). Even where a cause of action may be untimely under section 546(a), facts may support an equitable tolling argument. In re Liberty Brands, LLC, 476 B.R. 443, 450 (Bankr. D. Del. 2012). The trustee often is appointed after the relevant events, and counsel can increase the effectiveness of the trustee by filling in any knowledge gaps. The potential to assert causes of action or take acts that may be tolled by section 108 depends on knowledge of the potential claims and actions.
As a different example, generally the liquidating trustee for a debtor is bound by prior orders of the court, and counsel can assist by advising the trustee of orders that limit the trustee’s actions. For example, a claim for avoidance of post-petition transfers may be affected by general language in a cash collateral order.
Further, counsel can familiarize the trustee with causes of action against former directors and officers or insurers may be affected by the in pari delicto defense. In turn, the ability of plan proponents and creditors to anticipate the defense and assign creditor claims to a plan trustee may turn back the defense. In re Consol. Meridian Funds, 485 B.R. 604, 612 (Bankr. W.D. Wash. 2013). The post-confirmation trustee may be charged with knowledge of the debtor when asserting a “newly discovered evidence” theory seeking relief from a court order. In re High Voltage Eng’g Corp., 363 B.R. 8, 25 (Bankr. D. Mass. 2007).
3. Perform an Inventory
When a trust is created or a trustee appointed or counsel retained, oversights can be reduced by starting with an inventory, including the following:
- What are the material assets (and how are they at risk)?
- Who has the keys, signature cards, credit cards, EFT account control?
- Where are the physical (and electronic) records (and how are they at risk)?
- What are the deadlines
- in the Bankruptcy Code;
- in the Bankruptcy Rules or local rules of court;
- in the plan, disclosure statement, and confirmation order (if a post-confirmation trustee); and
- in the order of appointment or stipulations and orders pending in the case (if a case trustee)?
- What are the contracts the trustee needs to operate, sell, terminate, or evaluate?
- What is the status of insurance, in the sense of an asset, as well as a liability?
4. Familiarize Yourself with the Extent of the Trustee’s Attorney-Client Privilege
Since Weintraub, trustees are understood to succeed to the attorney-client privilege for entities. In a world of jointly managed entities sharing control and counsel, a trustee for one entity in a joint attorney-client privilege environment succeeds to the entity’s power over the privilege. Thus, the trustee can compel disclosure of otherwise privileged communications where the trustee controls one of the parties with power to waive the privilege. Newsome v. Lawson, 286 F. Supp. 3d 657, 662 (D. Del. 2017).
5. Minimize the Trustee’s Burdens Where Appropriate
A bankruptcy trustee is required to perform numerous duties and tasks that are often difficult to accomplish, particularly in light of the limitations on compensation under section 326(a). Some of those duties, such as the obligation to file tax returns on behalf of the estate, can be impossible to perform in the absence of necessary books and records. Active advice of counsel may allow the trustee to be relieved of the obligation upon a simple procedure. See In re 800Ideas.com, Inc., 496 B.R. 165, 173 (B.A.P. 9th Cir. 2013).
Routine deadlines imposed by applicable rules should be considered and, where appropriate, extended. In many cases, it is now routine for counsel to assist the trustee in seeking iterative extensions of the deadline for removal of causes of action under Bankruptcy Rule 9027(a) and to continue this pattern after plan confirmation. Such an extension would avoid litigation over an argument that failure to meet a deadline in a local rule could bar an otherwise timely avoidance action. See In re Key Developers Grp., LLC, 434 B.R. 712, 716 (Bankr. M.D. Fla. 2010).
Claimants, defendants, and others may strenuously dispute the trustee’s actions and divert the trustee’s attention from the liquidation of the trust. Counsel can use the Barton doctrine to bar actions against the trust or trustee outside the appointing court. E.g. In re Crown Vantage, Inc., 421 F.3d 963 (9th Cir. 2005); In re Nat’l Century Fin. Enters., Inc., 426 B.R. 282 (Bankr. S.D. Ohio 2010).
6. Think about the Exit Strategy When Drafting the Plan
Plan drafters tend to think of the conclusion of the liquidating trust and discharge of the trustee as far-off events and to address these events with no more than boilerplate language. Where possible, the plan and liquidating trust agreement should be drafted in light of the specific case and anticipated circumstances at the conclusion of the case. Issues to consider include the following:
- the cost-benefit of very small distributions
- creditor address changes
- unclaimed or surplus funds
- disposition of remnant assets
- indemnity and reserves for post-trust closing appeals and litigation
- records availability and compliance with subpoenas and other legal requirements as to records confidentiality and access
- modification of retention of causes of action between the reorganized debtor and the liquidating trust
- a deadline for termination of the trust and authority to extend the deadline in light of restrictions on post-confirmation plan modification
7. Counsel the Trustee Firmly When Necessary
It is rare to see breach of duty claims asserted against a liquidating trustee by creditors, other than disgruntled holders of litigation claims. To ensure an uneventful and timely liquidation, counsel should firmly advise the trustee to avoid what seem like obvious problems, including conflicts of interest. In re Fruehauf Trailer Corp., 431 B.R. 838 (Bankr. C.D. Cal. 2010), aff’d sub nom. In re Fruehauf Trailer, No. CV 10-02312 DDP, 2011 WL 2014672 (C.D. Cal. May 23, 2011).
Robert Charles is a partner at Lewis Roca Rothgerber Christie in Tucson, Arizona.
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