Although the Third Circuit upheld an alternative method for dealing with asbestos claims that were not manifest before confirmation, the appeals court said that the traditional structure for a chapter 11 plan using a trust under Section 524(g) would entail less cost and avoid “unnecessary back-end litigation.”
In her February 18 opinion, Circuit Judge Cheryl Ann Krause held that creditors with unmanifested asbestos claims are not denied constitutional due process if they are afforded the opportunity of filing a claim after the bar date on the showing of “excusable neglect” under Bankruptcy Rules 3003(c)(3) and 9006(b)(1).
Critics might view the opinion as an example of the Third Circuit’s bending over backward to uphold confirmation of a major chapter 11 plan and, in the process, lowering the standards for showing “excusable neglect.” The opinion opens the door for crafting plans to deal with future asbestos claims in a manner not specifically sanctioned by statute and may have underestimated the difficulty of showing “excusable neglect.”
The Energy Future Bankruptcy
Producers and distributors of electric energy, Energy Future Holdings Corp. and affiliates filed chapter 11 petitions in 2014 and confirmed a chapter 11 plan in February 2018. Technically characterized as a merger, Energy Future sold its Oncor regulated electric distribution business to a third party. However, Oncor had major asbestos liabilities arising from subsidiaries that ceased doing business decades earlier.
For Oncor, the plan did not create a trust under Section 524(g) to deal with asbestos claims arising in the future. In her opinion, Judge Krause explained how Section 524(g) adopted and refined a trust structure created in 1986 for Johns Manville Corp. to avoid a deprivation of due process that would result if confirmation of a plan cut off claims held by people with unmanifested asbestos claims. Basically, claims manifesting themselves after confirmation are paid or “channeled” into a trust under Section 524(g) that is funded in part by the reorganized company’s future income.
Rather than create a Section 524(g) trust, Oncor spent $2 million on an elaborate process that gave notice to creditors who might have latent or unmanifested asbestos claims. As a result, more than 10,000 claims were filed prior to the bar date and were dealt with in the plan.
For creditors who did not file claims because they did not know they had claims, the plan afforded those creditors what Judge Krause described as a “path to relief consistent with due process.” That is, creditors with latent injuries whose claims otherwise were discharged on confirmation could show a deprivation of due process and have their late claims allowed under Rule 3003(c)(3) by demonstrating that notice as to the particular creditor was constitutionally inadequate.
Discharging all claims not filed by the bar date, Bankruptcy Judge Christopher S. Sontchi of Delaware confirmed the plan over objections from holders of latent claims. Without reaching the merits, the district court dismissed the appeal from confirmation as statutorily moot under Section 363(m), because the plan provided for a sale of the business. The objectors appealed to the circuit.
‘Finality’ and Other Preliminary Issues
The opinion by Judge Krause is chock-full of important pronouncements beyond asbestos. For starters, she ruled that the creditors were not required to have appealed from the prior entry of the bar order. In the bar order, the bankruptcy court ruled that Rule 3003(c)(3) would circumvent constitutional problems.
Interpreting Ritzen Group Inc. v. Jackson Masonry LLC, 18-938, 2020 WL 201023, 2020 BL 11881 (Sup. Ct. Jan. 14, 2020), Judge Krause ruled that the bar order was not a final order. She reasoned that the bar order was not separate from claims processing. Rather, she said, the bar order was “intertwined with” the “claims processing provided by the plan confirmation.”
Therefore, Judge Krause held that the creditors took a timely appeal from the confirmation order and were not required to have appealed from the bar order.
Contrary to the district court, she next ruled that the appeal was not moot. Under Section 363(m), an appellate court may not overturn an “authorization” of a sale to a good faith purchaser unless the order was stayed pending appeal.
Judge Krause found no general “due process” exception to Section 363(m). However, she ruled that reaching the merits would not affect the validity of the sale because the plan “contemplated” a “fair post-confirmation process” to which the buyer had agreed.
N.B.: Not everyone may agree with the appeals court’s logic or conclusions regarding finality of a bar order and Section 363(m). Other courts may confine the opinion to its peculiar facts.
The Merits
Having disposed of preliminary issues, Judge Krause turned to the question of whether reliance on the ability to file a late claim under Rule 3003(c)(3) afforded due process to holders of latent asbestos claims. In short, she found no due process infirmity “because the combination of notice and hearing available to [the holders of latent claims] is constitutionally adequate.”
With regard to “unknown” claimants, Judge Krause said they were entitled only to notice by publication, not actual notice.
Judge Krause next turned to the question of whether hearings available to claimants after confirmation measured up to constitutional standards. She concluded that “deserving latent claimants will have adequate opportunity to obtain reinstatement through Rule 3003(c)(3) motions, and this path to relief is not . . . categorically incapable of affording due process to latent claimants.” The rule, she said, “is capable of providing latent claimants with a fair opportunity to seek reinstatement.”
Significantly, Judge Krause said that the showing required of claimants “is only negligibly more demanding than the one necessary to file a proof of claim before the bar date—it requires that latent claimants allege a single additional fact, i.e., lack of due process . . . , and this one additional requirement does not render the Rule 3003(c)(3) process unconstitutional.”
Judge Krause went on to say that the burden on a latent claimant “is a light one.” She said they “need only file a basic motion reciting the fact that reinstatement of their claim will neither prejudice [the debtor] nor impact its bankruptcy proceedings and attach a sworn affidavit explaining why they were deprived of due process.”
Having turned back a facial challenge to the constitutionality of the plan, Judge Krause did not “foreclose” an “as-applied challenge” by a creditor “who contends that he did not, in fact, receive due process.”
A Closing Admonition
Like the bankruptcy court, Judge Krause said that the appeals court regretted how the debtors sought a bar order in lieu of a Section 524(g) trust.
Although the end result was similar to Section 524(g), she said that employing a bar order required a $2 million noticing program and spawned “unnecessary back-end litigation.”
Although the Third Circuit upheld an alternative method for dealing with asbestos claims that were not manifest before confirmation, the appeals court said that the traditional structure for a chapter 11 plan using a trust under Section 524(g) would entail less cost and avoid “unnecessary back-end litigation.”
In her February 18 opinion, Circuit Judge Cheryl Ann Krause held that creditors with unmanifested asbestos claims are not denied constitutional due process if they are afforded the opportunity of filing a claim after the bar date on the showing of “excusable neglect” under Bankruptcy Rules 3003(c)(3) and 9006(b)(1).
Critics might view the opinion as an example of the Third Circuit’s bending over backward to uphold confirmation of a major chapter 11 plan and, in the process, lowering the standards for showing “excusable neglect.” The opinion opens the door for crafting plans to deal with future asbestos claims in a manner not specifically sanctioned by statute and may have underestimated the difficulty of showing “excusable neglect.”