In an opinion sure to rankle secured lenders, Delaware Bankruptcy Judge Christopher S. Sontchi ruled that the typical cap in a financing order on attorneys’ fees for the official creditors’ committee does not limit professional compensation once a chapter 11 plan is confirmed. He said that the cap, contained in what he called a “standard carveout provision,” applies only if reorganization aborts and no plan is confirmed.
Should a lender try to close the loophole by imposing a cap on fees effective even after confirmation, Judge Sontchi hinted in a footnote that he might not approve a financing order imposing an absolute cap on professional fees.
“What this opinion may mean is that the parties have to be even more clear in terms of their intent to enforce a cap and that any ambiguity will be construed in favor of the professionals seeking to override a cap,” Prof. Nancy Rapoport told ABI in an email. Prof. Rapoport is the Garman Turner Gordon Professor of Law at the Univ. of Nevada at Las Vegas William S. Boyd School of Law, where she is an expert on legal ethics.
The opinion handed down by Judge Sontchi on Jan. 5 followed confirmation of the Molycorp Inc. chapter 11. Soon after the reorganization began in June 2015, he approved financing where the lender agreed to make loans and allow the use of its collateral. The financing order provided that up to $250,000 from advances and the lender’s collateral could be used to pay the committee’s professionals “in connection with investigating (but not prosecuting any challenge to)” claims by or against the lender, including challenges to the validity of the lender’s security interests.
The creditors’ committee conducted an investigation regarding the lender and later obtained authorization to initiate suit. Mediation ensued, ultimately resulting in a global settlement among the debtor, the committee and the lender, laying the foundation for a chapter 11 plan.
Judge Sontchi confirmed the plan in April 2016.
For the time period covering the investigation, lawsuit and settlement, the committee filed an application after confirmation for approval of about $8,715,000 in fees and expenses. The lender objected, contending, among other things, that $250,000 was an absolute cap on fees related to the investigation and a prohibition against any allowance of fees in connection with litigation.
Judge Sontchi said he was being called on to decide whether the limitation in the financing order was an “absolute limit” or “absolute cap” on the allowance of fees related to the lender investigation and litigation.
Before addressing the issue directly, he said that a lender’s interest in its collateral is a property right “which may not be substantially impaired when bankruptcy intervenes.” Therefore, he said, administrative creditors run the risk of nonpayment if there are insufficient unencumbered assets.
To attenuate the risk, Judge Sontchi described how professionals negotiate so-called carveouts, which he characterized as “essentially an agreement by the secured creditor to subordinate its liens and claims to certain allowed administrative expenses.”
When no plan is confirmed and there are insufficient unencumbered assets, Judge Sontchi said the carveout is the “professionals’ only recourse.” Had Molycorp not confirmed a plan, the opinion says that the committee’s lawyers would not have been compensated for all their work.
As a consequence of Section 1129(a)(9), the analysis changes when the debtor confirms a plan, Judge Sontchi said. At confirmation, the Bankruptcy Code “elevates allowed administrative claims to a dominant priority” conferring a right to payment in full unless the particular administrative claimant has agreed otherwise. Citing authorities, he said that if secured creditors desire confirmation, “‘administrative claims must be paid in full in cash at confirmation even if it means invading their collateral.’”
The parties disagreed about whether the DIP financing order represented a waiver of the right to full compensation permitted by Section 1129(a)(9). Although the parties disagreed about the interpretation of the financing order, Judge Sontchi said the provision capping fees was not ambiguous.
The limitation in the financing order, according to Judge Sontchi, “does not connote in any way that the dollar-amount cap would operate as a complete bar against the allowance of administrative expense claims following plan confirmation.” Although it would limit fees were there no plan, he said “it was not intended to come into play if a chapter 11 plan was confirmed.”
Judge Sontchi ended his 23-page opinion by allowing the application but reducing the fees by about $31,000, as recommended by the fee examiner.