ack in 2001, I contributed a two-part article for this column on techniques
for uncovering disclosable Bankruptcy Rule 2014 "connections" and
determining whether, to what extent and how to disclose these connections when
seeking court approval for professional retentions.1 Although one
might believe that the dangers of failing to disclose connections are by now
well-known in the bankruptcy community, as well as the cardinal principle "when
in doubt, disclose," it is remarkable that there continue to be prominent
examples of failures that uniformly provoke the response, "what were they
thinking?" Three recent failures of this sort—each of which involve
allegations of undisclosed financial interests by law firms (or their partners)
in the fees earned by other firms or persons in chapter 11 cases—are the
subject of this column: the law firm Boies Schiller & Flexner's connection
with a document-management firm called Amici LLC in the Adelphia Communications
case, the law firm Traub, Bonacquist & Fox's connection with the president
and CEO of the debtor in the eToys case, and the law firm Gilbert Heintz
& Randolph's ownership of the company hired to review and process asbestos
claims in the ACandS case.

To recap some general principles: The "connections" search-and-disclosure
obligation stems from Bankruptcy Rule 2014(a), which provides that as a condition
of employment, "attorneys, accountants, appraisers, auctioneers, agents
or other professionals" for debtors, official committees and otherwise
where the professional engagement must be approved by the court must disclose
"all of the person's connections with the debtor, creditors, any other
party in interest, their respective attorneys and accountants, the U.S. Trustee
or any person employed in the office of the U.S. Trustee." The information
must also be verified by the person to be employed "to the best of the
applicant's knowledge." The Bankruptcy Code does not define (or limit)
"connections," which makes its determination a matter of subjective
judgment on a case-by-case base. In addition, it has been established through
case law and practice (but again, not in the Code or Rules) that professionals
have a continuing obligation to monitor developments in the case and within
their firms for connections that might arise and to make supplemental disclosures.2
In many cases, it will be clear whether a "connection" should be
disclosed. However, there is an enormous gray area of "connections"
that lend themselves equally to rationales for disclosure as well as nondisclosure,
creating an ethical tension between the duty to disclose and the subconscious
desire to conceal (or simply ignore) information. The thesis of these columns
in 2001 was that such stress and ethical conflict were most apparent where arguably
innocuous connections could, if disclosed, present the risk that a professional's
employment will be challenged. In such situations, whether by conscious design
or not, the temptation to resist disclosure and avoid jeopardy to the engagement
must be overwhelming. Perhaps the obvious is too glib: Once the argument and
rationale between disclosure and nondisclosure can be resolved either way, disclosure
should be the only outcome. The following cases seem to support that conclusion.
In re Adelphia Communications Corp.
In the most recent and high-profile example of how a failure to disclose connections
can spark serious consequences, Boies Schiller & Flexner LLP, serving as
debtors' special litigation counsel in the chapter 11 cases of Adelphia Communications
Corp., came under fire for failing to disclose its relationship with Amici LLC,
a document-management firm also retained in Adelphia's bankruptcy cases.3 Shortly
after Boies Schiller was retained by the debtors, the firm recommended the retention
of Amici without disclosing that two partners and an associate at Boies Schiller,
along with other family members related to name partner David Boies and another
Boies Schiller partner, held indirect interests of more than 25 percent in Amici
through intermediate companies. The lead Boies Schiller attorney for Adelphia
is reported to have said that he did not disclose these relationships to Adelphia
or its management (or by affidavit to the court and parties in interest) because
he was unaware of them at the time Amici was retained, and that the lack of
disclosure was "inadvertent" and did not harm Adelphia's value in
bankruptcy.
While these circumstances only recently came to light, the repercussions for
Boies Schiller were swift. Within the first few months, counsel for parties
adverse to the litigation involving the Boies Schiller firm in the Adelphia
case4 and other Boies Schiller clients (according to David Boies, six to eight
other Boies Schiller clients also use Amici's services) questioned the firm's
integrity and handling of its litigation. As these complaints illustrate, the
costs of failing to disclose are often high because they implicate the professional's
judgment and provide litigation opportunities for disgruntled parties in interest
to exploit the failure. The consequences can also be far more concrete, however,
than damage to the professional's reputation and litigation headaches.

In August 2005, after it learned about the previously undisclosed connections,
Adelphia itself requested that Boies Schiller resign its by-then three-year
engagement as special counsel. Boies Schiller's lead attorney in Adelphia
stated in response: "We resigned because we were asked to resign,"
not because of improper activity.5 However, an unanswered question lingers:
Would the firm have been disqualified from representing the debtors or otherwise
penalized with disgorgement or other sanctions had it not resigned?
It appears that Adelphia's request was but the first step toward seeking disgorgement
of the substantial fees that Adelphia had paid to both Boies Schiller and Amici.
Amici reportedly received approximately $7 million in fees, and when Boies Schiller
filed its final fee application on Oct. 3, 2005, it sought final approval for
roughly $30 million in fees and expenses, of which around $23 million had already
been paid over the course of the cases.6 The hearing on Boies Schiller's final
fee application has been adjourned indefinitely, presumably while the underlying
facts of the late disclosure are further investigated.
In January 2006, the U.S. Trustee's Office and the Adelphia fee committee (later
joined by Adelphia and the committees of unsecured creditors and equity-holders)
sought the appointment of a special examiner to explore Boies Schiller's alleged
conflicts of interest and fees. Thus, in an ironic twist of events, from the
failure to timely disclose ownership connections in a firm involved in document
production services for the debtors (disclosures that arguably would not have
imperiled Boies Schiller's engagement as special counsel), the firm that had
been hired by Adelphia to seek recovery of funds from the parties that had been
responsible for Adelphia's accounting scandals7 became the subject of investigation
into its own alleged cover-up. Adelphia and the creditors' committee supported
the Justice Department's request, adding that they would carry out their own
investigation if the request were denied.8

At the hearing on the motion for appointment of a special examiner, the court
began by stating, "I think everybody can and should take it as a given
that the inquiry will take place." The only issue, the court indicated,
was whether this inquiry into the underlying facts was best achieved by means
of a special examiner or by discovery taken by the parties. The court agreed
with Boies Schiller that appointment of an examiner was inappropriate because
§1104 of the Code required that such appointments be made to conduct an
investigation of the debtor and not its counsel. Furthermore, the court expressed
concern that the examiner's fees would exceed the $350,000 cap initially set
for the investigation, and indicated that Boies Schiller's pending fee application
provided the incentive and the means for opposing parties to take discovery
while doing so more cheaply. In denying the appointment of an examiner, the
court stated, "This case already has enough fiduciaries. It does not need
to spend another $350,000 to accomplish ends that already can be easily addressed
in what I believe to be a much more efficient and economical matter." The
debtors, creditors' committee and fee committee, the court stated, "have
all of the incentive they need to litigate vigorously against [Boies Schiller],
and [Boies Schiller] has all the incentive it needs to litigate vigorously to
clear its name. That is what the adversary process is all about." The court
then granted leave to the parties to seek discovery on Boies Schiller's fees
and ethical violations, and added that it would "not foreclose any discovery
by any of [Boies Schiller's] opponents on any matter."
In re eToys Inc. 
A recent 56-page decision handed down by Judge Mary F. Walrath on Oct.
4, 2005, in the eToys Inc., et al. bankruptcy case9 raises issues
similar to the disqualification and disgorgement issues implicated by the Boies
Schiller case.
According to the findings of fact, shortly after the law firm of Traub, Bonacquist
& Fox LLP (TB&F) was retained as counsel for the unsecured creditors'
committee, Paul Traub, a partner at TB&F, recommended turnaround
specialist Barry Gold to the debtors as a restructuring executive. After
conducting interviews with Gold, the debtors hired him and he assumed the positions
of president and chief executive officer. Neither Traub nor Gold, however, had
disclosed that just a month before eToys had filed for bankruptcy, they
had formed a joint venture to provide marketing inventory control and asset-disposition
services to distressed companies. TB&F lent funds to the joint venture,
which were used to pay compensation to Gold. Moreover, although TB&F and
the joint venture maintained separate books and records, TB&F provided office
space, administrative services and personnel to the joint venture, for which
it was reimbursed.

Traub and Gold's business relationship came to light when an eToys shareholder
who was surfing the Internet stumbled on information related to the joint venture.
Following this, another shareholder and an administrative claimant each moved
for removal, disgorgement and sanctions for violating Bankruptcy Rule 2014 and
Code §327(a). The U.S. Trustee also became involved, initially seeking
disgorgement of the entire $1.6 million TB&F had received from the debtors,
but later reaching a settlement that provided for the disgorgement of $750,000.
Judge Walrath found that TB&F had a direct relationship with Gold that
it failed to disclose, but that disqualification was not warranted even though
sanctions would result in the form of disgorgement under the U.S. Trustee settlement.
The court began by examining Gold and TB&F's involvement in several bankruptcy
cases together, either retained by the same or adverse parties, stating that
it was not only not unusual, but inevitable, that professionals and turnaround
specialists would work on the same cases. However, the court found that TB&F's
failure to disclose that it had retained Gold as a consultant in several other
cases violated its ongoing duty to disclose "all connections a professional
may have with the other parties in the case."
The court then turned to the consequences of this failure. The court began
by noting that a "[f]ailure to disclose may result in disallowance of fees
or disqualification, even if the failure was negligent and not willful."
On the issue of disqualification, the court turned to §1103(b) for the
standards of retention applicable to counsel for the creditors' committee. Section
1103(b) provides that "an attorney...employed to represent a committee
under §1102...may not, while employed by such committee, represent any
other entity having an adverse interest in connection with the case." An
adverse interest is "any economic interest that would tend to lessen the
value of the bankruptcy estate or that would create either an actual or potential
dispute in which the estate is a rival claimant." The court found that
TB&F did not have an adverse interest because the joint venture (as opposed
to Gold) had not been involved in the case, and even if it had, TB&F (as
opposed to Traub) did not have an interest in the joint venture. Although the
relationship raised an "appearance of a conflict," the court concluded
that this was not an actual conflict warranting disqualification. However, on
the issue of fees, the court approved the settlement with the U.S. Trustee,
in part because it furthered the deterrent goal of a sanction.
In re ACandS Inc.
A third case illustrates the lingering effects that an undisclosed business
connection may have on bankruptcy counsel's representation later in the case.
The story begins with the pre-petition engagement of Gilbert Heintz & Randolph
(GH&R) in December 2001 to negotiate the settlement of asbestos-related
injury claims against ACandS Inc. (ACandS), an insulation contracting company
that had installed products containing asbestos. During the pre-petition period,
the debtors employed as a claims reviewer a company called the Kenesis Group
LLC in which GH&R held a 70 percent interest. In a further pre-petition
arrangement about which the debtors were apparently unaware, the bulk of the
work was subcontracted to another company called Clearing House LLC for a payment
by Kenesis to Clearing House of two-thirds of Kenesis' fees (a flat fee of $3
million). Kenesis later agreed to purchase Clearing House. This work continued
upon the bankruptcy filing of ACandS, but inexplicably Kenesis did not file
a retention application until nine months later, and Clearing House never filed
a retention application. In August 2003, the bankruptcy court denied Kenesis'
retention application for failing to disclose its compensation-sharing arrangement
with Clearing House. As a result, the court ordered Kenesis to disgorge $2.4
million of the original $3 million paid to Kenesis.

A year later, in June 2004, a partially secured creditor with an unliquidated
asbestos personal-injury claim filed a motion seeking to disqualify GH&R
as special counsel and disgorging fees it had earned to date in the case. The
motion argued that GH&R—which, in addition to holding a 70 percent
interest in Kenesis, had a named partner serving as the chairman of the board
of Kenesis and shared offices with Kenesis—failed to disclose the financial
connections and background that had led to the rejection of Kenesis' retention
application. Combined with allegations that GH&R was conflicted because
it represented many asbestos claimants against their insurance companies, the
movant argued that GH&R had a pecuniary interest in, and "some degree
of influence over," the granting of claims against ACandS, which had been
handled by Kenesis and Clearing House. Following the issuance of a court-mandated
opinion by an ethics expert (which did not address GH&R's relationship with
Kenesis) and oral argument, the court ultimately rejected the motion, ruling
in favor of GH&R. As in the other cases discussed above, arguably none of
these consequences, much less the collateral litigation and aggravation, would
have occurred had the financial interests been disclosed in a timely manner.
In each case, a law firm being engaged for a debtor had a financial interest
in another provider of services. In each of these cases, it can be argued that
the financial interest motivated the law firm to recommend or otherwise facilitate
the engagement of the other providers. In addition, in each of these cases there
was financial benefit to the principal law firms from the work being simultaneously
performed by the service providers in whom they had a financial interest. Perhaps
these are merely examples of negligence in the process of discovering connections.
Each of the firms may have lacked the computer and inquiry tools needed for
the lawyers principally engaged in the bankruptcy matter to learn of their firm's
or partners' financial interests in other service providers. If we stop there,
then we can at least conclude that firms lacking inquiry processes to discover
connections such as these act in grave peril of their reputations and fee recoveries.
If the connections were in fact known to responsible parties and deliberately
not disclosed, then what were they thinking?
<hr>
<h3>Footnotes</h3>
1 Richman, Michael P., "Disclose (Publish) or Perish, Part I: Connections
Discovery and Disclosure Techniques," ABI Journal, Vol. XX, No.
5, June 2001; Richman, Michael P., "Disclose (Publish) or Perish, Part
II: Post-employment 'Connections' Issues and Disclosure Techniques," ABI
Journal, Vol. XX, No. 7, September 2001.

2 See In re Granite Partners, L.P., 219 B.R. 22, 35 (Bankr. S.D.N.Y.
1998). 
3 In re Adelphia Communications Corp., et al., Case No. 02-41729
(REG) (Bankr. S.D.N.Y.). Boies Schiller also failed to disclose at the time
of its retention, but later did disclose, that other partners and associates
owned indirect interests in Echelon Group LLC, another company retained in the
cases to perform document reproduction functions. Recently, it has been suggested
that a third company, Legal Scientific Analysis Group, is owned by Boies Schiller
partners and their relatives. On the subject of disclosure, the author's firm
has been serving as counsel to the Bank of Montreal in the Adelphia cases,
as well as counsel to some other creditors and an accounting firm (some of which
involve the author's work as a lawyer personally), and Kenneth Noble, one of
the author's partners, first uncovered Boies Schiller's undisclosed connections
and questioned them in court. However, as emphasized in note 1, supra,
the author's comments here in the context of connections disclosures in the
bankruptcy context are personal and academic in nature, and should not be attributed
to the firm, its partners nor any of its clients. 
4 For example, Cravath Swaine & Moore, which represented a party adverse
to Adelphia, filed letters with the court charging, among other things, that
Amici provided it with irrelevant "garbage pages" that included phone
directories, cookbooks, menus, travel brochures and shoe catalogs, resulting
in unnecessarily high charges.

5 "National Briefing," Washington Post at D02 (Aug. 31, 2005).

6 The fee application also indicated that Boies Schiller had not received any
payments from Adelphia since January 2005, leading some to speculate that Boies
Schiller's relationship with Adelphia had "soured...before the Amici situation
came to light." See Lin, Anthony, "News in Brief: Boies Schiller
Files Final Application for Adelphia Fees," N.Y.L.J. 1, Oct. 6,
2005, at 1. 
7 Parloff, Roger, "Boies Firm Says: Where's the Beef?," CNNMoney.com
(Feb. 6, 2006), at money.cnn.com/2006/02/06/news/newsmakers/ boies2_fortune/.

8 "Adelphia Seeks Federal Probe of Its Former Law Firm," AP DataStream
(Feb. 2, 2006). 
9 In re eToys Inc., et al., Case No. 01-706 (MFW), slip. op.
(Bankr. D. Del. Oct. 4, 2005).

Journal Authors

Michael P. Richman

Journal Date

Saturday, April 1, 2006 - 12:00

Bankruptcy Rule

2006

2014