Recent Developments in 304 Ancillary Proceedings

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Jun 2004

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In this age of globalization, large bankruptcies involve a debtor with assets and creditors located throughout the
world. When such a debtor files, there are unique issues related to the appropriate distribution of the debtor's assets,
such as the determination of which court should oversee the process and which laws should apply. There are two
main approaches to the distribution of assets in a cross-border bankruptcy—the territorial approach and the universal
approach.

<h4>Territorial and Universal Approaches</h4>

The territorial approach generally provides that courts should be able to administer assets within their own
jurisdiction according to local laws. The territorial approach does not place a great deal of emphasis on cooperation
among tribunals in different countries. Instead, each court distributes assets in its home jurisdiction in accordance
with its own laws. 2 L. King, Collier on Bankruptcy, ¶304.01[2] at 304-4 (15th ed. 1999). Territorialism
contemplates that each country will apply the value of local assets to the benefit of local creditors in accordance with
local laws and priorities.<a href="#2" name="2a">2</a>

By contrast, the universal approach contemplates a main proceeding commenced in one country (for instance, the
country in which the debtor's headquarters are located). Ancillary proceedings are then brought in other jurisdictions
as necessary in order to assist the governance of the main case and maximize the value of the debtor's estate. The
courts in these ancillary jurisdictions would then generally defer to the main proceeding and facilitate the centralized
governance of the estate in accordance with the rules of the main jurisdiction. In re Treco, 240 F.3d 148, 153 (2d Cir. 2001).

<h4>The U.S. Approach</h4>

The United States has adopted a modified universalist approach, which is embodied in §304 of the
Bankruptcy Code (11 U.S.C. §101, et seq.). In re Avila, 296 B.R. 95, 107 (Bankr. S.D.N.Y. 2003).
Section 304 allows for the commencement of an ancillary case in the United States to assist in the
administration of a foreign bankruptcy estate. An ancillary proceeding is an alternative to the
commencement of a plenary case under the Bankruptcy Code. In re Brierley, 145 B.R. 151, 160 (Bankr.
S.D.N.Y. 1992). Due to the special nature of ancillary cases and their deferral to foreign courts, the
Bankruptcy Code sets forth parameters that courts must consider in deciding whether to grant relief pursuant
to §304. Section 304(c) sets forth the following factors:

<blockquote>
(c) In determining whether to grant relief...the court shall be guided by what will best assure an
economical and expeditious administration of such estate, consistent with—
<ol>
<li>just treatment for all holders of claims against or interests in such estate;
</li><li>protection of claim-holders in the United States against prejudice and inconvenience in the
processing of claims in such foreign proceeding;
</li><li>prevention of preferential or fraudulent dispositions of property of such estate;
</li><li>distribution of proceeds of such estate substantially in accordance with the order prescribed by
this title;
</li><li>comity; and
</li><li>if appropriate, the provision of an opportunity for a fresh start for the individual that such foreign proceeding concerns.
</li></ol>
</blockquote>

11 U.S.C. 304(c). The legislative history of §304 provides guidance as to the general intent of Congress in
enacting the provision. In pertinent part, Congress has indicated that:

<blockquote>
[Section 304's] guidelines are designed to give the court the maximum flexibility in handling ancillary cases.
Principles of international comity and respect for the judgments and laws of other nations suggest that the court be
permitted to make the appropriate orders under all of the circumstances of each case, rather than being provided with
inflexible rules.
</blockquote>

H. Rep. No. 95-595, 95th Cong. 1st Sess., 324-325 (1977); S. Rep. 95-989, 95th Cong., 2d Sess. 35 (1978); see,
e.g., Universal Casualty & Surety Co. v. Gee (In re Gee), 53 B.R. 891, 901 (Bankr. S.D.N.Y. 1985) (noting trend
toward flexible approach that allows assets to be distributed equitably).

Even before the enactment of the Bankruptcy Code, the Supreme Court established precedent indicating a
generally favorable attitude toward granting comity in cross-border insolvencies. In a case involving U.S.
bondholders of a Canadian railroad company, the Supreme Court found that the U.S. bondholders should be
bound by a Canadian reorganization proceeding:

<blockquote>
[E]very person who deals with a foreign corporation impliedly subjects himself to such laws of the foreign
government, affecting the powers and obligations of the corporations with which he voluntarily contracts, as the
known and established policy of that government authorize.
</blockquote>

Canada Southern Ry. Co. v. Gebhard, 109 U.S. 527, 537 (1883). The court refused to allow the U.S. bondholders
to maintain an action in the United States on account of claims that had been modified in accordance with the
Canadian proceeding.<a href="#3" name="3a">3</a>

Thus, U.S. law has traditionally been inclined to afford comity and assistance to foreign insolvency proceedings.
Recent §304 case law has, for the most part, continued in this vein.

<h4>Recent Lower Court Decisions</h4>

1. In re Board of Directors of Compañía General de Combustibles S.A., 269 B.R. 104 (Bankr. S.D.N.Y. 2001),
involved an interpretation of an earlier Second Circuit case, In re Treco, 240 F.3d 148 (2d Cir. 2001), which took a
potentially restrictive view toward granting comity. In Compañía General, the bankruptcy court was confronted
with creditors who had their claims temporarily disallowed in an Argentine proceeding. The court chose to
distinguish Treco based on the egregious facts of that case.<a href="#4" name="4a">4</a> The bankruptcy court noted that even under the Second
Circuit's potentially more restrictive view, the "case-specific analysis required by §304 will in many or most cases
support the granting of the requested relief." In re Compañía General, 269 B.R. 104, 111 (Bankr. S.D.N.Y. 2001)
(citing Treco).

The court went on to note that "§304(c) does not require that the foreign bankruptcy law provide identical treatment
of a claim to the treatment provided under U.S. law in order to extend comity." In re Compañía General, 269 B.R.
104, 112 (Bankr. S.D.N.Y. 2001). Finding that there was no evidence of maladministration, the court noted that
the creditors continued to have the ability to present evidence of their claims in the Argentine courts. So long as the
creditors proved their claims under Argentine law, they would be treated in the same manner as other unsecured
creditors. In re Compañía General, 269 B.R. 104, 114 (Bankr. S.D.N.Y. 2001). The court found that this type of
treatment was sufficient to satisfy the requirements of §304(c) and continued an injunction that prevented creditors
from bringing actions against the foreign debtors in the United States.

2. In In re Blackwell, 270 B.R. 814 (Bankr. W.D. Tex. 2001), the court was required to deal with an ancillary
proceeding brought to further a court-supervised liquidation of a foreign debtor pursuant to Cayman Islands law.
The liquidator brought an ancillary proceeding in order to stay all pending and future litigation against the debtor
and to compel the turnover of property. Certain creditors sought to have the ancillary proceeding dismissed. The
Blackwell court found that it had very little discretion to deny the ability of the liquidator to file an ancillary
proceeding so long as the party seeking relief was a foreign representative and there was a foreign proceeding
pending. "If both of these prerequisites are met, a bankruptcy court has little, if any, discretion under the
Bankruptcy Code but to admit the §304 petition." In re Blackwell, 270 B.R. 814, 821 (Bankr. W.D. Tex. 2001).

<blockquote><blockquote>
<hr>
<big><center>
As globalization expands its reach, the likelihood that insolvencies will involve substantial assets in multiple jurisdictions increases.
</center></big>
<hr>
</blockquote></blockquote>

Once that determination is made, then the court must decide what specific relief, if any, is appropriate with
respect to the foreign representative's proposed action. It is at this point in the analysis that the court turns
to the §304(c) factors. The court analyzed the factors and placed significant emphasis on the fact that the
Cayman Islands were a fellow common law jurisdiction and found that the relevant law in the Cayman
Islands was "generally in harmony with the [Bankruptcy] Code." In re Blackwell, 270 B.R. 814, 829
(Bankr. W.D. Tex. 2001) (quoting Universal Casualty & Surety Co. v. Gee (In re Gee), 53 B.R. 891, 904
(Bankr. S.D.N.Y. 1985)). The court indicated that the Cayman Islands' Companies Law did not need to be
"a carbon copy of the [Bankruptcy] Code." In re Blackwell, 270 B.R. 814, 829 (Bankr. W.D. Tex. 2001):

<blockquote>
It would be a mistake to construe this provision to mean that a court must find effective congruence between the
distribution schemes of the United States and the country in which the foreign proceeding is pending. The problem
with such an approach is that every country has its own scheme of priorities, reflecting local public policy...[w]ere
one to insist on congruence, it is doubtful that any court would ever find it appropriate to grant relief.
</blockquote>

In re Blackwell, 270 B.R. 814, 830 n.20 (Bankr. W.D. Tex. 2001); see, also, In re Board of Directors of
Multicanal S.A., No. 04-10280 (ALG) (Bankr. S.D.N.Y. March 12, 2004) (noting that §304 "does not require that
the foreign proceeding be identical to the U.S. proceeding"); In re Bullmore, 2004 Bankr. Lexis 230, *18 (B.A.P.
8th Cir. 2004) ("[i]n determining whether to accord comity to a foreign bankruptcy case, a court need not find that
the foreign law is identical to its own, it is enough that it is not repugnant to American laws and policies.").

Interestingly, when the court moved on to the topic of whether to allow for a general turnover of assets, the
court refocused on the need to conduct a review of the actual impact on individual creditors. It was
unwilling to give the liquidator a generic turnover order, finding instead that it needed to be able to evaluate
the impact on a given creditor of the turnover order, notwithstanding the general fairness of proceedings in
the Cayman Islands:

<blockquote>Even though the court already knows that creditors will not suffer prejudice in a Cayman Islands proceeding by
virtue of their being "foreign creditors," the court cannot currently evaluate whether a given creditor's preferential
rights in a given piece of property under U.S. law would be protected once the property left the United States,
without first seeing what property is sought, from whom it [is] sought, and what special claims a U.S. creditor
might have on that property.

In re Blackwell, 270 B.R. 814, 830-31 (Bankr. W.D. Tex. 2001). The Blackwell court thereby implicitly recognized
the importance of doing a case-by-case analysis in order to determine the particularized impact on a creditor of
granting comity to a foreign proceeding. Thus, while the court was willing to stay proceedings against the debtor, it
was unwilling to allow a general turnover of assets until it could undertake a more specific review of the assets and
potential claims in question.

3. In re Caldas, 274 B.R. 583 (Bankr. S.D.N.Y. 2002), involved a case where a court was willing generally to
grant comity while still allowing a creditor (Tribank) to bring an action in the United States that might not
otherwise be available under the foreign proceeding. In Caldas, a representative of an insolvent Peruvian bank
sought to enjoin a creditor from continuing litigation pending in the United States. The court examined the factors
under §304(c) in order to determine whether it was appropriate to enjoin the specific action commenced by Tribank
along with a more general injunction of all potential actions.

The court began by noting that "§304 allows the foreign representative to prevent creditors from grabbing local
assets, and expedite the orderly and equitable distribution of the foreign estate." In re Caldas, 274 B.R. 583, 591
(Bankr. S.D.N.Y. 2002). Although there are six factors listed in §304(c), the court found that one factor may
nevertheless dominate in the analysis. In re Caldas, 274 B.R. 583, 593 (Bankr. S.D.N.Y. 2002). As a general
matter, the court noted that there had been no showing that Peruvian law failed to comport with U.S. notions of due
process. It also noted that foreign creditors are afforded the same treatment under Peruvian law as are Peruvian
creditors. Furthermore, there was nothing inherently unfair or offensive about requiring claimants to participate in
the Peruvian proceedings in order to obtain their recoveries from the estate.

One of the main differences, however, between U.S. law and Peruvian law was that unliquidated claims
would not be entitled to recovery in the Peruvian proceeding. Peruvian proceedings treated only those
claimants with liquidated claims. Upon obtaining declarations from Peruvian attorneys for both sides, the
court determined that Peruvian law did not prevent suits to liquidate claims, only to enforce them against
the estate. Furthermore, the creditor bringing the action agreed that it would not seek to enforce any
judgment obtained in the New York state court proceeding against estate assets outside of the Peruvian
proceeding. The creditor sought merely the opportunity to have its potential claims adjudicated. In
considering the factors of §304(c) the court found that:

<blockquote>
the "just treatment of all holders of claims," at least as a general matter, requires that those whose claims are
presently unliquidated, but which may be very real, be permitted some means to liquidate them and then to obtain
whatever recovery or distribution on them is otherwise appropriate.

</blockquote>

In re Caldas, 274 B.R. 583, 595 (Bankr. S.D.N.Y. 2002). The court drew a distinction between being able to
bring an action to fix a claim amount and bringing an action to execute against assets of the estate. It saw no
problem with the former, particularly where such a proceeding to fix a claim was not prohibited under Peruvian law.
The court therefore allowed Tribank to bring an action to liquidate its claim while otherwise generally enjoining
litigation against the debtor.

4. Even more recently, in In re Garcia Avila, 296 B.R. 95 (Bankr. S.D.N.Y. 2003), another court tackled the
parameters of §304(c). The case involved two Mexican corporate debtors (Tribasa Parties) and attempts by a group
of judgment creditors (objecting creditors) to enforce their judgment against the proceeds of a bond offering that was
being used to fund the Tribasa Parties' restructuring plan pursuant to Mexican law.<a href="#5" name="5a">5</a> The Tribasa Parties commenced
ancillary proceedings in the United States and brought suit to obtain injunctive relief. In order to determine whether
to grant injunctive relief and thereby allow for the bond proceeds to be transferred to fund the Mexican restructuring
plan, the court examined the §304(c) factors.

The court first provided an overview of the different types of approaches that can be taken in cross-border
bankruptcy cases, namely universality or territoriality, before setting forth the purpose behind §304(c):

<blockquote>
The factors are designed to give the court maximum flexibility, and permit it to make the appropriate orders under
all of the circumstances of each case, rather than being provided with inflexible rules. The court must apply the
factors on a case-by-case basis. Accordingly, a prior decision to defer to a particular foreign court in one case is not
determinative in a different case.
</blockquote>

In re Avila, 296 B.R. 95, 107-08 (Bankr. S.D.N.Y. 2003) (citations omitted) (quotation marks omitted). The court
then focused its analysis on whether the likely distribution available to the objecting creditors was going to be
substantially in accordance with the order prescribed under the Bankruptcy Code.

The objecting creditors objected on various grounds, including that the proposed plan was not in the best
interest of creditors as they stood to recover less on their unsecured claims in the Mexican proceeding than
they would have recovered under a hypothetical liquidation under chapter 7 of the U.S. Bankruptcy Code.
The court disagreed, saying that "§304(c) does not, however, require that an unsecured creditor receive the
same distribution in the foreign case and the hypothetical American bankruptcy." In re Avila, 296 B.R. 95,
112 (Bankr. S.D.N.Y. 2003). The court recognized the fact that granting comity would almost never occur
if such a hurdle were imposed. The determination of the appropriate recovery for creditors would pose a
Herculean task for the courts—one that would rarely, if ever, lead to the conclusion that a given class of
creditors received the exact same distribution as under the Bankruptcy Code:

<blockquote>
[T]he application of such a test would pose a significant obstacle to ever granting comity... [A] court would need to
examine all aspects of the foreign law that might affect the amount of the distribution, prepare comparative matrices
based on numerous assumptions and determine what the unsecured creditor would receive under the foreign and
U.S. distribution scenarios.
</blockquote>

In re Avila, 296 B.R. 95, 112-13 (Bankr. S.D.N.Y. 2003).

The court was unwilling to read such a requirement into the §304(c) analysis. Instead the court placed greater
emphasis on the fact that the proposed distribution would be in accordance with Mexican law, and one which a
majority of creditors had voted in favor. The court seemed unwilling to take an action that might cause the Mexican
reorganization to fail based on litigation brought by a few creditors in the United States and issued an injunction
preventing the objecting creditors from executing on their judgments.

<h4>Conclusion</h4>

As globalization expands its reach, the likelihood that insolvencies will involve substantial assets in multiple
jurisdictions increases. In order to maximize the value of the debtor's estate, courts will have to cooperate. However,
it is also important for courts to retain the right to protect local creditors against undue prejudice in foreign
proceedings. It is this balance that §304 is designed to foster.

Although receiving lesser treatment in a foreign proceeding than U.S. law remains a reason to deny comity, courts
generally continue to take a liberal view toward granting comity. Particularly where unsecured creditors are
concerned, courts seem willing to grant comity when a given unsecured creditor's treatment will be similar to that
afforded all other unsecured creditors. Although courts will look at the particularized harm faced by a creditor in
making the decision to grant comity, they also continue to recognize that there are varied approaches in different
jurisdictions and that there is value in having a single uniform administration of a bankruptcy estate.

<hr>
<h3>Footnotes</h3>

<a name="1">1</a> Mr. Silverman is a partner with Bingham McCutchen LLP's New York office, where his practice focuses on both U.S. and international restructurings. Mr. Pereira is an associate with Bingham McCutchen LLP and spent two years in Bingham's Singapore office focusing on emerging market restructurings. The views expressed herein are not necessarily
those of Bingham McCutchen LLP. <a href="#1a">Return to article</a>

<a name="2">2</a> Westbrook, Jay Lawrence, "Multinational Enterprises in General Default: Chapter 15, the ALI Principles, and the EU Insolvency Regulation," 76 Am. Bankr. L.J. 1, 5. <a href="#2a">Return to article</a>

<a name="3">3</a> See, also, Finanz AG Zurich v. Banco Economico S.A., 192 F.3d 240 (2d Cir. 1999) (granting comity to proceedings in Brazil); Maxwell Communication Corp. v. Society
Generale (In re Maxwell Communication Corp.), 93 F.3d 1036 (2d Cir. 1996) (granting comity to proceedings in England); Vitrix S.S. Co. S.A. v. Salen Dry Cargo A.B., 825 F.2d
709 (2d Cir. 1987) (granting comity to proceedings in Sweden); In re Hackett, 184 B.R. 656 (Bankr. S.D.N.Y 1995) (granting comity to proceedings in the Bahamas); In re
Brierley, 145 B.R. 151 (Bankr. S.D.N.Y. 1992) (granting comity to proceedings in England); In re Axona International Credit & Commerce Limited, 88 B.R. 597 (Bankr.
S.D.N.Y. 1988) aff'd., 115 B.R. 442 (S.D.N.Y. 1990), appeal dismissed, 924 F.2d 31 (2d Cir. 1991) (granting comity to proceedings in Hong Kong). <a href="#3a">Return to article</a>

<a name="4">4</a> Treco involved a Bahamian proceeding where there was evidence of maladministration of the bankruptcy estate. <a href="#4a">Return to article</a>

<a name="5">5</a> The court found that the judgment creditors were unsecured for purposes of its opinion, as their judgment liens did not attach to the bond proceeds. <a href="#5a">Return to article</a>

Journal Authors

Helder P. Pereira

Ronald J. Silverman

Journal Date

Tuesday, June 1, 2004 - 12:00

Bankruptcy Rule

2004