What Practitioners Should Know about Class Actions that Are Not Certified Pre-petition

Journal Issue

May 2006

Column Name

Claims Chat

Citation

ABI Journal, Vol. XXV, No. 4, p. 26, May 2006

Topic Tags

Practice and Procedure

Journal HTML Content

Class action proofs of claim
exceeding $100 million are common in chapter 11 cases, and such class
claims are the source of debate in chapter 11 circles. On the one
hand, the resolution of class claims complicate and delay the
administration of a bankruptcy case as well as reduce the pool of
funds available for all claimants. Resolving class action litigation
is time-consuming and often procedurally inconsistent with fast-track
procedures for resolving claims adopted by the Bankruptcy Rules and
courts. On the other hand, class actions and bankruptcy share the common

function of concentrating litigation in a single forum and providing
for equitable distributions to claimants. While many issues concerning

the treatment of class claims remain uncertain, recent cases have
demonstrated that it is very difficult to resolve class claims in
bankruptcy proceedings without derailing the reorganization process
when the class was not certified pre-petition. While the majority of
cases hold that class claims should be permitted under appropriate
circumstances, it is not entirely clear how class claims should be
pursued and defended from procedural and practical perspectives when
the class was not certified pre-petition. Two 2005 decisions shed
light on some of the open issues: In re Ephedra Products Liability
Litigation, 329 B.R. 1 (S.D.N.Y. 2005), and In re Craft/In re
Mirant Corp., 2005 WL 221887 (Bankr. N.D. Texas Jan. 26,
2005).2 Those cases teach us the following: <blockquote>
• Unless the class was certified pre-petition, the class
representatives must file a proof of claim and move for class
certification as soon as possible after the petition date. 
• The burden is on the class representative to put—and
keep—the wheels in motion. Moving for class certification and
then agreeing to adjourn proceedings will not satisfy this burden.
Courts may decline to allow class claim litigation to proceed
through no fault of the class claimant when the plan or claims
resolution processes are well underway, such that class claim
proceedings would unduly delay the administration of the case.
</blockquote>The purpose of this article is to provide
practitioners with a procedural guide for handling class claims with
respect to classes that were not certified pre-petition. How the
Law Developed The leading decision in this area is In re
American Reserve Corp., 840 F.2d 487 (7th Cir. 1998), which held
that a bankruptcy court has discretion to allow class claims after a
determination is made under Rule 9014 of the Federal Rules of
Bankruptcy Procedure3 to apply Rule 7023 of the Federal Rules

of Bankruptcy Procedure (which makes applicable Rule 23 of the Federal

Rules of Civil Procedure). In making that determination, courts will
assess the particular fact situation and decide whether the class
device is appropriate. The bankruptcy court must then determine,
"at an early practicable time," whether to certify the
action as a class action. Fed. R. Bankr. P. 7023(c)(1)(A). Once the
class is certified, Rule 7023 also requires that class members be
notified and given the opportunity to opt in or out of the class. Fed.

R. Bankr. P. 7023(c)(2). Recognizing that cerification proceedings
can be time-consuming and that the class-noticing process can be
inconsistent with the bar date process established in chapter 11
cases, courts following In re American Reserve have declined to

apply Rule 7023 when doing so would unduly delay the administration of
the case. The court has broad discretion in applying Rule 7023 and
certifying classes, and there is no clear guide as to how class claims

must be pursued and the burdens associated therewith. Ephedra

and Craft/ Mirant shed some light on the factors a court will
weigh in determining whether to apply Rule 7023. As explained below,
whether the court will exercise such discretion depends on how close
the debtor is to making distributions to creditors and whether the
claimants have diligently pursued class certification. Decisions
Are Heavily Dependent upon Context The Ephedra and
Craft/Mirant cases address when and under what circumstances a
court should exercise its discretion to apply Rule 7023. The context
in which the claimants in those cases pursued their class claims was
critical to the courts' decisions, as described below. In
Ephedra: <blockquote> • Class representatives in three
separate class actions that were not certified pre-petition filed
proofs of claim. Class representative #1 moved for stay relief to
pursue the class claim in state court, but consented to adjourn the
stay motion for almost one year. Class representative #2 commenced
an adversary proceeding in the bankruptcy court seeking class
certification, but agreed to an adjournment. Class representative #3

similarly hesitated in its efforts to obtain class
certification. • The question of whether the court should
exercise discretion to apply Rule 7023 was not raised until the
debtors and the committee jointly objected to the class
claims—after the bankruptcy court approved the debtor's
disclosure statement and votes on the debtor's chapter 11 plan were
solicited. • Holding: objection sustained; class
claims expunged. The court declined to apply Rule 7023 on the
grounds that certification proceedings would unduly delay the
administration of the case and that the class representatives should

have pursued class certification earlier in the chapter 11 cases.

</blockquote>In Craft: <blockquote> • A proof of

claim was filed by the class representatives of a class that was
certified pre-petition. • The debtors objected to the
class claim nearly one year after the bar date at the time the
debtor's plan was being formulated. • The members of the
class were the principal constituency to be addressed under the
debtor's plan. • Holding: objection overruled; class

claims not expunged on the ground that class action was certified
pre-petition. </blockquote>In Mirant: <blockquote>

• Class representatives of classes that were not certified
pre-petition filed proofs of claim. The claimants took no action to
have the class certified post-petition. • The debtors
objected to the class claim and filed a motion to strike the class
claims nearly one year after the bar date at the time that the debtors'

plan was being formulated and in advance of a seven-week schedule the

court set aside for the resolution of material claim objections.
 • Holding: objection sustained; class claims
expunged. Claimants had the burden to seek certification of the
class and failed to do so. </blockquote>In each of the above
cases, when determining whether or not to apply Rule 7023, the
bankruptcy courts weighed a number of factors, including (1) whether the

class was certified pre-petition, (2) prejudice to the debtor or its
other creditors, (3) prejudice to putative class members, (4)
efficient estate administration, (5) whether class representative
satisfied burden to move for class certification and (6) the status of

proceedings in other courts. See Craft/ Mirant, 2005 WL 221887
at *7; In re Ephedra, 329 B.R. at 8. A survey chart
identifying some decisions following In re American Reserve in
which class claims were permitted follows the end of this article. Those

decisions, taken together with Ephedra and Craft/Mirant,

show that class representatives must cross some difficult, if not
impossible, hurdles when classes are not certified pre-petition.

Practical Guide As the foregoing demonstrates,
practitioners must pay close attention to how they pursue or defend
class claims. Whether representing a debtor or a class representative,

separate strategies must be developed for litigating class claims in
the chapter 11 context. When classes are not certified pre-petition,
particular attention must be paid to the timing within which class
claims are filed, objected to and litigated during the case. The

Class Representative Must Move for Certification The rulings in
Ephedra and Craft/Mirant depended on the diligence of
the claimants in pursing class certification. In Ephedra, the
court acknowledged that "although no waiver was involved, class
claimants bear primary responsibility for the 'gumming up' by not
affirmatively moving under Rule 9014(c) for class certification."

In re Ephedra, 329 B.R. at 5. Similarly, in connection with the

class claims in the Mirant bankruptcy, the court in

Craft/Mirant pointed out that "the putative class
representatives...have also waited too long to seek invocation of Rule

7023. Though some courts have held that a claim must be objected to in

order to create a contested matter, it is the view of this court that
it is the burden of the class representatives to raise the issue of
class certification." In re Craft, 2005 WL 221887 at *7
(internal citations omitted). Class representatives could argue that
the decisions placing the burden on class representatives to move for
class certification run contrary to the notion that claims are deemed
allowed unless objected to under §502(a) of the Bankruptcy Code.
(According to §502(a) of the Code, a claim is deemed allowed
unless a party in interest objects. See 11 U.S.C. §502(a)).
But class representatives should not hang their hats on that argument
and wait for the debtor to object to the class proof of claim.
Moreover, before making this argument, claimants should know whether
the local rules for the district court place the burden on class
representatives to move for class certification within a particular
time frame—a bankruptcy court could borrow that rule. See,
e.g., Local Rules for the Eastern District of Pennsylvania (Rule
23(c)); Central District of California (Rule 23-3) and Northern
District of Texas (23-2) (each setting deadlines by which class
representatives must move for class certification). The proper
mechanisms through which a class representative can pursue a class
action and initiate certification proceedings in a chapter 11 proceeding

are: (1) a proof of claim that identifies (a) the putative class and
(b) class representative, and (2) a motion for certification of the
class, filed before the bar date for filing proofs of claim is set. As

we learned from some of the cases identified on our survey chart,
simply moving to lift the automatic stay to pursue a class action in
state or district court may not carry the day. See Iles v. LTV
Aerospace and Def. Co. (In re Chateaugay Corp.), 104 B.R.
626, 634 (Bankr. S.D.N.Y. 1989); Zenith Labs. Inc. v. Sinay

(In re Zenith Labs. Inc.), 104 B.R. 659, 664 (Bankr. D. N.J.
1989). Certification Proceedings that Would Unduly Delay the
Administration of the Case Will Not Be Allowed With respect to
efficient case administration, the Ephedra court pointed out
that "since class litigation is inherently more time-consuming than

the expedited bankruptcy procedure for resolving contested matters,
class litigation would have to be commenced at the earliest possible
time to have a chance of being completed in the same time frame as the

other matters that must be resolved before distributing the
estate." In re Ephedra, 329 B.R. at 5. Thus, when
efficiency dictates, a court could direct the expungement of a class
claim, even if the class representative acted diligently. A court
will consider the timing and costs associated with certification
litigation and post-certification noticing. Knowing that
pre-certification proceedings often involve discovery and extensive
briefing, the class representatives should commence class
certification proceedings before the bar date is set and well before
plan and material claims resolution processes conclude. In connection
with any motion to certify the class, class representatives should
ensure that either (1) those proceedings result in a certification
decision in an expedited fashion or (2) that the order adjourning
certification proceedings includes findings with respect to whether
the class representative satisfied its burden to move for class
certification, why it is not appropriate for the proceedings to
continue at that time and that the court will not decline to apply Rule
7023 based on the class representative's diligence in pursuing
certification or undue delay of administration of the case. On the
other hand, when representing a debtor, counsel may want to wait for
the class representative to act before objecting to or moving to
strike a class claim that was not certified pre-petition.

<h3> Footnotes</h3> 1 Any opinions expressed in this article are not
necessarily the opinions of White & Case, LLP and AlixPartners,
LLP. 2 At this time this opinion was issued, Mirant Corp., et
al. and Noble and Junell Craft both had chapter 11 cases pending
before Judge Lynn in the U.S. Bankruptcy Court for the Northern
District of Texas. Judge Lynn consolidated his opinions regarding
class claims in these actions in order to present a more cohesive view

of class claims. For purposes of this article, this opinion will be
referred to as the Craft/Mirant opinion. 3 While Rule 9014
does not specifically incorporate Bankruptcy Rule 7023, it does
empower the court to make the adversary proceeding rules applicable to

contested matters.

Journal Authors

Carrianne Basler

Kerri Lyman

Michelle Campbell Ross

Journal Date

Monday, May 1, 2006 - 12:00

Bankruptcy Rule