Bankruptcy Judge James L. Garrity, Jr., of New York refused to raise the fee cap for an investment banker by almost 50% because “a professional subject to a fee cap must live with the possibility that the value of its services exceeds the cap.”
Alluding to the “tradeoff” inherent in Section 328(a), Judge Garrity said that the “certainty and predictability of section 328 come at the expense of flexibility in fee structures.”
The Banker in a Big Case
A large Latin American airline filed a chapter 11 petition in New York in late May 2020, several months after the pandemic began. Just before filing, the debtor negotiated a retention agreement for an investment bank to provide all required investment banking services in the reorganization.
Subject to an overall fee cap of $25 million, the banker was to be paid a $300,000 monthly fee plus separate fees for a successful reorganization and for raising debt and equity capital. The success and capital-raising fees were subject to the $25 million cap. The retention agreement provided that the $25 million would cover “all required services to file and consummate a potential U.S. chapter 11 case.”
Under Section 328(a), not Section 327, Judge Garrity approved the retention and fee arrangement in late June 2020, which he characterized as three months after the beginning of the pandemic.
Judge Garrity said that the banker reached the fee cap in October 2021 and has not been paid a monthly fee since. In addition, the banker will be paid neither additional capital-raising fees nor a success fee when the plan is consummated.
Judge Garrity confirmed the airline’s chapter 11 plan in June 2022, expecting the plan to become effective in late 2022. The debtor filed a motion to raise the banker’s fee cap from $25 million to $37 million. The official unsecured creditors’ committee and the U.S. Trustee objected to the increase. The committee withdrew its objection when its other objections to confirmation were resolved.
The debtor said that an increase in the cap was warranted because the case was more complex and “lengthier” than anticipated and that an increase would bring the fee in line with the market. Judge Garrity said that the $25 million cap “was based on expectations that the Chapter 11 Cases would be shorter and less contested.”
The outcome was governed by Section 328(a). It allows the court to retain a professional on
any reasonable terms and conditions of employment, including . . . on a fixed or percentage fee basis, or on a contingent fee basis. Notwithstanding such terms and conditions, the court may allow compensation different from the compensation provided under such terms and conditions after the conclusion of such employment, if such terms and conditions prove to have been improvident in light of developments not capable of being anticipated at the time of the fixing of such terms and conditions. [Emphasis added.]
Pandemic Effects Could Have Been Anticipated
The debtor argued that the $25 million cap was “improvident” because it was impossible to anticipate the ravages of the pandemic at the time of retention.
Citing authorities, Judge Garrity said that Section 328(a) sets a “high hurdle.” A successful application must show why subsequent developments were “incapable of being foreseen,” he said, citing Daniels v. Barron (In re Barron), 325 F.3d 690, 693 (5th Cir. 2003).
Judge Garrity said that the motion “fails on the merits” because the debtor did not show that the “allegedly unforeseen developments . . . were incapable of being anticipated.” He went on to say that “services already called for (and performed) under the Engagement Letter . . . cannot be ‘[in]capable of being anticipated’ at the time parties negotiated compensation for those services. 11 U.S.C. § 328(a).”
Judge Garrity said that “the severity and potential duration of the Pandemic were within the realm of possible outcomes when the Debtors retained [the banker].”
Judge Garrity denied the motion to raise the fee cap.
Observation
Near the end of the opinion, Judge Garrity characterized the debtor as saying that the original $25 million cap was “not in line with market rates for investment banks providing comparable services” and “relatively low compared to peer firms.”
The statement suggests that the banker might have underbid competitors to win the engagement. If that’s the case, Judge Garrity’s opinion means that the court will not backstop underbidding.
Bankruptcy Judge James L. Garrity, Jr., of New York refused to raise the fee cap for an investment banker by almost 50% because “a professional subject to a fee cap must live with the possibility that the value of its services exceeds the cap.”
Alluding to the “tradeoff” inherent in Section 328(a), Judge Garrity said that the “certainty and predictability of section 328 come at the expense of flexibility in fee structures.”