X

Thank you for sharing!

Your article was successfully shared with the contacts you provided.
A company or individual filing a voluntary petition for relief under Chapter 11 of the Bankruptcy Code remains in charge of its business affairs. The status of such a debtor is that of a “debtor in possession.” When the debtor is a corporation, that means its management remains in place, as does its board of directors. When the debtor is an individual, it means that the individual remains in control of all assets, business, affairs and litigation matters he or she was in control of before filing under Chapter 11. Creditors holding unsecured claims against the debtor are able to form a committee recognized as a party in interest in all matters and such committee is authorized to retain counsel at the expense of the debtor. There is generally no trustee involved in Chapter 11 bankruptcy cases. The debtor continues to be in control and make litigation and business decisions. However, the debtor must file a motion explaining to creditors and the bankruptcy court anything it wishes to do that is outside the ordinary course of business. The debtor is not authorized to do anything outside the ordinary course of business until the bankruptcy court approves such motion. A committee and other parties in interest can object to a motion if they disagree with the debtor’s business judgment reflected in the motion, but they are generally reacting to the debtor’s decisions. The fact that the debtor is allowed to make all major decisions creates problems in many bankruptcy cases because it is often the debtor’s prior decisions that have caused the bankruptcy filing. For example, the debtor may be pursuing wasteful litigation, not pursuing valuable litigation or refusing to sell underperforming or nonperforming assets or the entire company when doing so would be in the best interest of all creditors. The primary method to attempt to change this balance of power in favor of the debtor is to move for appointment of a trustee. If successful, such motion will result in the trustee taking complete control over all matters. The corporate debtor’s board of directors becomes largely irrelevant, and the individual debtor loses control of all decisions regarding his or her assets and litigation matters. The appointment of a trustee is often devastating to a debtor. It is also very costly and often inefficient. For these reasons, there is a strong bias to allow debtors to stay “in possession,” and it is very difficult to convince a bankruptcy judge that appointment of a trustee is appropriate. Code provides option of appointing an examiner In almost every bankruptcy case, there is at least one major issue on which the debtor and the committee do not agree. The committee generally will not want appointment of a trustee. However, the committee likely believes it would be very beneficial if someone other than the debtor were making one or more of the critical decisions in the case. The Bankruptcy Code provides for an elegant solution to such problems: the ability of the bankruptcy court to appoint an examiner. Based upon the statutory scheme, the appointment of an examiner appears to be an alternative to the appointment of a trustee. The statute, � 1104(c) of the Bankruptcy Code, provides that if the bankruptcy court does not appoint a trustee, it “shall order the appointment of an examiner . . . if such appointment is in the interests of creditors[.]” Conceptually, an examiner is intended to do what the name implies: examine. An examiner can only do what a bankruptcy court order appointing him specifically authorized him to do. In � 1104(c), Congress contemplated that an examiner would investigate the debtor � specifically allegations of “ fraud, dishonesty, incompetence, misconduct, mismanagement, or irregularity in the management of the affairs of the debtor.” However, the Bankruptcy Code places no specific limitation on what an examiner can be required to do. This is critical. It means that the ability of the bankruptcy court to appoint an examiner can be a solution to any of a number of problems created by the all-or-nothing aspect of having a debtor either make all the decisions on how to proceed because of its status as a debtor in possession, or having the debtor become largely irrelevant with the appointment of a trustee. In reaction to the Enron case and other major corporate fraud cases that made headlines a few years ago, Congress, when it made its last substantial amendments to the Bankruptcy Code, added a provision requiring the United States trustee to seek appointment of a trustee when there are reasonable grounds to suspect that an officer or member of the board of directors has participated in actual fraud, dishonesty or criminal conduct in the management of the debtor or its public reporting. 11 U.S.C. 1104(c). Under such circumstances, appointment of an examiner to investigate and file a report regarding his or her findings may be a more appropriate first step. If the examiner’s findings confirm the suspicion, then appointment of a trustee may be appropriate. The rights and duties of an examiner are set forth in � 1106. One has to look closely because, notwithstanding that � 1106 is titled “Duties of trustee and examiner,” almost the entirety of � 1106 lists only the rights and obligations held by a trustee. The rights and obligations of an examiner are described in only one sentence within � 1106, which states simply that an examiner can do anything a trustee can do, to the extent authorized by the bankruptcy court order appointing the examiner. Theoretically, an examiner could be the equivalent of a trustee. This seems to have actually been the case in In re Boileau & Johnson Inc., 736 F.2d 503 (9th Cir. 1984). There are myriad effects of the appointment of a trustee, all of which are unavoidable once a trustee is appointed. On the other hand, an examiner’s powers are defined by the order appointing him or her. Such powers can be tailored to address any problem. A traditional concept of an examiner is of an “investigator” who files a report for all parties in interest to review. The matter investigated is usually the conduct of management. The job of an examiner generally ends with the filing of a report. Based on such report, the bankruptcy court may appoint a trustee or may choose to leave the debtor in possession. This traditional use of an examiner remains common, but it is clear that the statutory scheme permits much broader use of an examiner. Once parties in interest begin thinking of examiners as potential problem solvers whenever the committee or other substantial parties in interest have genuine concerns about the debtor’s ability to manage a matter in the best interest of all creditors and other parties in interest, there are innumerable situations in which an examiner may be appropriate. An examiner could be given the power to market and sell property of a corporate debtor when one or more members of management may be interested in participating in the purchase of the property or otherwise have an interest in the outcome of the sale. More than half the Chapter 11 petitions filed are filed by companies that wish to sell all their assets, which they cannot accomplish outside of bankruptcy. The most common reasons why a bankruptcy filing is needed for such sales are because the price achieved will not be enough to pay all creditors or because the sale will involve the transfer of real property leases, which can be sold without landlord consent in bankruptcy. Often there will be a bias in the sale process that is not beneficial to all creditors, such as when an insider or employee of the debtor will have issued a guaranty to a creditor or landlord or when members of management are interested in being involved in purchasing all or some a substantial portion of the assets to be sold. Appointment of an examiner to manage and execute the sale process could give great comfort to all parties in interest that the process and the price obtained were in the best interests of creditors. An examiner could be given the power to investigate and prosecute or defend specific litigation in which the debtor or its management may have interests conflicting with those of the creditors and all equity holders of the debtor. Potential claims against management or the board of directors are rarely fully investigated, let alone prosecuted. There are any number of types of litigation with regard to which the debtor may have conflicting interests. When there are identifiable and material conflicting interests of the debtor or its management, appointment of an examiner to make all decisions on the debtor’s behalf for such litigation would greatly improve the likelihood that such decisions will be made based solely on what is in the best interests of all parties in interest generally. Appointing an examiner might be in debtor’s interest An examiner could in fact be sought by a debtor. Any party in interest can move for the appointment of an examiner. The debtor is a party in interest. While it may seem counterintuitive for the debtor to move to give away to an examiner control over same aspect of the debtor’s business affairs, it may in fact be an excellent way to avoid needless and costly litigation expenses. If the debtor understands that the creditors generally will have concerns about a particular business decision, requesting the court to appoint an examiner to in effect audit the debtor’s business judgment may result in creditor support of such judgment. An examiner is an unbiased person appointed to report on or take action with respect to a matter ordinarily under the control of the debtor. The Bankruptcy Code allows a bankruptcy court to handcraft the duties and rights of an examiner to best suit the situation. Appointment of an examiner should not be thought of as an alternative to appointment of a trustee, but as a broad tool to allow appointment of an independent qualified person to resolve a problem in which the debtor’s judgment is subject to scrutiny. Craig M. Rankin is a partner at Los Angeles-based Levene, Neale, Bender, Rankin & Brill, a bankruptcy boutique, and can be reached at [email protected].

This content has been archived. It is available exclusively through our partner LexisNexis®.

To view this content, please continue to Lexis Advance®.

Not a Lexis Advance® Subscriber? Subscribe Now

Why am I seeing this?

LexisNexis® is now the exclusive third party online distributor of the broad collection of current and archived versions of ALM's legal news publications. LexisNexis® customers will be able to access and use ALM's content by subscribing to the LexisNexis® services via Lexis Advance®. This includes content from the National Law Journal®, The American Lawyer®, Law Technology News®, The New York Law Journal® and Corporate Counsel®, as well as ALM's other newspapers, directories, legal treatises, published and unpublished court opinions, and other sources of legal information.

ALM's content plays a significant role in your work and research, and now through this alliance LexisNexis® will bring you access to an even more comprehensive collection of legal content.

For questions call 1-877-256-2472 or contact us at [email protected]

 
 

ALM Legal Publication Newsletters

Sign Up Today and Never Miss Another Story.

As part of your digital membership, you can sign up for an unlimited number of a wide range of complimentary newsletters. Visit your My Account page to make your selections. Get the timely legal news and critical analysis you cannot afford to miss. Tailored just for you. In your inbox. Every day.

Copyright © 2020 ALM Media Properties, LLC. All Rights Reserved.