Utilizing the Fourth Option: Examining the Permissibility of Structured Dismissals That Do Not Deviate from the Bankruptcy Code's Priority Scheme

• Publication year: 2016

Utilizing the Fourth Option: Examining the Permissibility of Structured Dismissals That Do Not Deviate from the Bankruptcy Code's Priority Scheme

Kaylynn Webb

UTILIZING THE FOURTH OPTION: EXAMINING THE PERMISSIBILITY OF STRUCTURED DISMISSALS THAT DO NOT DEVIATE FROM THE BANKRUPTCY CODE'S

PRIORITY SCHEME

Abstract

Following a § 363 asset sale, the Bankruptcy Code provides a debtor with three options to close its chapter 11 case: (1) request confirmation of a liquidation plan; (2) convert the chapter 11 case to a chapter 7 case; or (3) request dismissal of the case. There is a fourth option, however: a structured dismissal. Structured dismissals are controversial because the Code does not expressly provide for them. Opponents thus equate structured dismissals with impermissible sub rosa plans. Existing caselaw does not provide a clear answer as to whether courts have the discretionary authority, under the Code, to authorize structured dismissals. In 2015, the Third Circuit was the first Court of Appeals to grant a structured dismissal settlement. In approving the structured dismissal, the court also held that, in rare instances, a structured dismissal can deviate from the priority scheme in § 507. Through the structured dismissal, the Third Circuit engineered a mechanism for parties to evade the mandatory priority scheme.

This Comment argues that while the Third Circuit had the statutory authority to grant a structured dismissal, the court did not have the authority, statutory or otherwise, to approve a dismissal that deviated from § 507. This Comment takes the position that the Code's priority scheme applies to all estate distributions in a chapter 11 proceeding, including a structured dismissal.

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Introduction

Like most legal proceedings, a number of administrative fees encumber bankruptcy filings.¹ To circumvent costly proceedings that do not maximize the value of a bankruptcy estate, select bankruptcy courts have approved structured dismissals in chapter 11 cases.² A structured dismissal is a cross between a dismissal and a confirmation order, which dismisses a chapter 11 case with additional pre-determined provisions.³ Structured dismissals are typically consensual agreements between the debtor and some, if not all, of the creditors.⁴

In a standard chapter 11 proceeding, the parties first propose a plan of reorganization.⁵ The plan must meet certain requirements under § 1129 of the Bankruptcy Code (the "Code").⁶ If the plan satisfies § 1129, the bankruptcy court will approve the plan.⁷ When the plan is substantially fulfilled, the court closes the case with no additional strings attached.⁸ This dismissal returns the debtor to its pre-bankruptcy status.⁹

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Pre-negotiated asset sales under § 363 serve as an alternative to the standard chapter 11 process.¹⁰ A § 363 sale allows a debtor to liquidate most, if not all, of its assets free of existing liens and interests.¹¹ Following a § 363 sale, a debtor has a handful of options to finalize its chapter 11 case.¹² Debtors most commonly utilize one of the following three options: (1) request confirmation of a liquidation plan; (2) convert the chapter 11 case to a chapter 7 case; or (3) request a dismissal of the case.¹³

More recently, courts have allowed debtors and creditors to utilize structured dismissals as a fourth option.¹⁴ Structured dismissals are particularly appealing to debtors that have disposed of assets through a sale because the dismissals are less costly and typically more expeditious than proposing and confirming a reorganization plan.¹⁵ Structured dismissals are controversial, however, because they are not expressly provided for under the Code.¹⁶

Two notable opponents of structured dismissal are the United States Trustee ("UST") and the American Bankruptcy Institute.¹⁷ In the wake of the growing popularity of structured dismissals, the UST co-authored and published an article that delineated several objections to such dismissals.¹⁸ The UST primarily argued that structured dismissals fail to afford parties with the protections provided in a standard confirmation process and therefore "strongly resemble impermissible sub rosa plans."¹⁹ Additionally, the American

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Bankruptcy Institute's Commission to Study the Reform of Chapter 11 released a lengthy report suggesting that Congress amend the Code to clarify that structured dismissals are impermissible.²⁰

In 2015, the Third Circuit was the first Court of Appeals to approve structured dismissals in Official Committee of Unsecured Creditors v. CIT Group/Business Credit Inc. (In re Jevic Holding Corp.).²¹ Prior to the appeal, a New Jersey trucking company filed for bankruptcy.²² Following the debtor's § 363 sale, the trucking company and select creditors agreed upon a settlement that dictated how they would disperse the remaining assets of the company.²³ The bankruptcy court approved the settlement and dismissed the case, even though the agreement intentionally left out a class of priority claimants.²⁴ The neglected claimants appealed.²⁵

Two issues were presented on appeal in In re Jevic.²⁶ First, does a chapter 11 case dismissal always amount to a "hard reset"?²⁷ In other words, does a dismissal always return the debtor to its prebankruptcy status, or does the court have discretion to issue any additional requirements or provisions attached to a chapter 11 case dismissal?²⁸ In approving structured dismissals, the court reasoned that a dismissal does not have to amount to a hard reset.²⁹

Second, is it permissible for a structured dismissal settlement to deviate from the Code's priority scheme under § 507?³⁰ The court held that structured dismissals may deviate, but only in rare instances.³¹

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Keeping in mind that one of the Code's core goals is to maximize the value of an estate, bankruptcy parties must seek creative options to resolve chapter 11 cases.³² This Comment proceeds in two parts and examines the permissibility and necessity of structured dismissals that do not deviate from the Code's priority scheme. First, this Comment defends the proposition that structured dismissals are permissible under the Code. Second, this Comment addresses the current split between the Third and Fifth Circuits regarding the applicability of §§ 507 and 1129 of the Code to settlement agreements.³³ After careful analysis, this Comment contends that §§ 507 and 1129 apply to settlement agreements in the context of structured dismissals.

I. Framework

This section of the Comment provides an overview of the seminal In re Jevic case and structured dismissals in four parts. First, it recounts the facts and Third Circuit's holding in In re Jevic. Next, it describes what structured dismissals are and how they work by outlining the types of remedies that derive from structured dismissals. Then, this section explains the three standard options to finalize a chapter 11 case provided by the Code. Finally, this section concludes by explaining the Code's priority scheme.

A. Highlighting the Case: In re Jevic Holding Corp.

In 2006, Sun Capital Partners acquired Jevic Transportation, Inc., a New Jersey trucking company, in a leveraged buyout.³⁴ A group of lenders, led by CIT Group, funded the acquisition.³⁵ CIT gave Jevic an $85 million line of

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credit, conditioned upon Jevic maintaining at least $5 million in assets and collateral.³⁶ In the following years, Jevic's business continued to plummet; by May 2008, Jevic's board of directors agreed to file for chapter 11.³⁷ Jevic ceased operations and notified its employees of their immediate termination.³⁸

At the time of filing, Jevic owed over $73 million to both its first priority secured creditors (CIT and Sun Capital) and its general unsecured creditors.³⁹ An official committee was developed to represent the unsecured creditors.⁴⁰ The committee sued the secured creditors for fraudulent conveyance, claiming that Sun Capital, with funds from CIT, acquired Jevic with improper projections of profitability.⁴¹ Additionally, a group of terminated Jevic employees filed a class action suit against the secured creditors and Jevic because Jevic did not provide its employees with the requisite sixty-day notice of termination prior to layoffs, as required by the New Jersey Worker Adjustment and Retraining Notification Act ("WARN Act").⁴²

The United States Bankruptcy Court for the District of Delaware partially granted and partially denied Jevic's motion to dismiss the fraudulent transfer suit. The court held that the secured creditors' acquisition of Jevic constituted both a fraudulent transfer and preferential transfer under §§ 547 and 548;⁴³ however, the secured creditors' actions did not constitute a fraudulent transfer under § 544.⁴⁴ The ex-employees obtained a similar mixed result in their WARN Act suit.⁴⁵ The court entered a ruling against Jevic because it determined that Jevic fell within the WARN Act's definition of "employer."⁴⁶ The court granted the secured creditors' summary judgment motion, however, because it determined that the secured creditors did not fall within this same definition.⁴⁷

Following the court's ruling, the committee, secured creditors, terminated employees, and Jevic's board of directors met to negotiate a settlement for the

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fraudulent conveyance suit.⁴⁸ The committee concluded that a settlement was a more desirable solution in light of Jevic's limited remaining assets ($1.7 million in cash).⁴⁹ In the interim between the original bankruptcy filing date and the settlement agreement meeting, Jevic liquidated its assets.⁵⁰ The final terms of the settlement agreement allocated Jevic's remaining $1.7 million to taxes, administrative creditors, and unsecured creditors.⁵¹ Specifically, the settlement accomplished four things:

(1) The involved parties would exchange releases of their claims against each other, and the fraudulent conveyance action would be dismissed with prejudice;
(2) CIT would pay $2 million into

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