In banning so-called structured settlements that defy the rules of priority, the Supreme Court’s Jevic decision this year may not have killed off “gift plans,” if recent litigation in Delaware is any indication.
In Czyzewski v. Jevic Holding Corp., 137 S. Ct. 973, 197 L. Ed. 2d 398, 85 U.S.L.W. 4115 (Sup. Ct. March 22, 2017), the Supreme Court held 6/2 that proceeds of a settlement alongside dismissal of a failed chapter 11 case cannot be distributed without the consent of the parties in a manner that “deviate[s] from the basic priority rules,” not even in rare cases. Since then, observers have wondered whether gift plans have also bit the dust by implication.
The reorganization of Nuverra Environmental Solutions Inc. involved a gift plan where almost all of the secured debt was converted into new equity. Admittedly, senior unsecured noteholders and general unsecured creditors were out of the money, because the business was worth only $300 million while the secured debt was about $500 million. In a simple application of the priorities under Section 507(a), neither noteholders nor trade supplier would have received a dime.
To facilitate confirmation of a plan, secured creditors made a so-called gift in favor of unsecured creditors, but the recoveries were not identical. As a result of the gift, the plan gave unsecured noteholders a recovery in the range of 4% to 6%. Trade suppliers, however, were paid 100% to curry favor with the new owners.
The class of trade suppliers voted for the plan, but the noteholders did not. The bankruptcy court was able to confirm and cram down the plan because there was at least one impaired, accepting class.
One unsecured noteholder, with about 1% of the issue, appealed and sought a stay of the confirmation order pending appeal. In an opinion on Aug. 3, Delaware District Judge Richard G. Andrews denied a stay pending appeal, concluding that the objecting noteholder had not shown a likelihood of success on appeal. Indeed, Judge Andrews’ opinion suggests that the plan complied with existing law in Delaware allowing gift plans.
Jevic was virtually ignored in Nuverra. The objecting noteholder never mentioned Jevic, likely for good reason as we explain below, nor did Judge Andrews. Jevic only came up in the creditors’ committee’s opposition to a stay, where the creditors said that Jevic “is not applicable here in the plan confirmation context because that case involved gifting in the context of a structured dismissal of a bankruptcy case.”
The noteholder did not raise Jevic, because doing so successfully might have cut off the meager distribution to that unsecured class. Had the noteholder relied on Jevic and convinced Judge Andrews that gifting was impermissible, the entire distribution to noteholders and trade suppliers would have been set aside, giving them nothing at all. Therefore, it was too risky for the noteholder to raise Jevic.
Presumably, a disaffected secured creditor could have objected to confirmation or appealed, relying on Jevic, because the secured creditors’ recoveries were diminished by the gift. In that context, an appellate court could decide whether Jevic’s adherence to priorities implies that a supermajority cannot give up some of its recovery for the benefit of a lower class or classes. Given that chapter 11 was designed so that a plan need not adhere rigorously to rules of priority, Jevic may not have ended gift plans unless some lower class was skipped entirely.
For gift plans, perhaps Jevic means that a gift must be distributed rigorously in line with priorities, eliminating the ability to discriminate among equally ranked but subordinate creditors.
Jevic not being an issue, Judge Andrews examined whether the plan fell within the boundaries for gifts permitted in the Third Circuit. He analyzed whether the plan improperly classified trade suppliers by placing them in a separate class or unfairly discriminated against noteholders.
In large part, Judge Andrews invoked the Markell test, named for its inventor, Prof. Bruce A. Markell of Northwestern Univ. Pritzker School of Law.
Although the disparate treatment of creditors raised a presumption of unfair discrimination under the Markell test, the debtor convinced the bankruptcy court that the presumption was overcome because unsecured creditors were out of the money and the plan’s treatment of their claims fostered reorganization.
The objecting noteholder had not shown a strong likelihood that the bankruptcy judge misapplied confirmation standards, Judge Andrews said. He seemingly rejected the argument that vertical class-skipping, outlawed by the Third Circuit’s opinion in Armstrong World Industries Inc., should be applied in a case of horizontal class-skipping. In addition, Judge Andrews said the appellant was unlikely to show that the gift came from estate property or otherwise offended the absolute priority rule.
Employing the terms that Judge Andrews utilized, perhaps Jevic will be expanded to outlaw horizontal class-skipping.
In denying a stay pending appeal, Judge Andrews said that the objecting noteholder could not show irreparable harm because unsecured creditors would receive nothing if the appeal were to succeed.
For ABI’s discussion of Jevic, click here.