The Eleventh Circuit laid down a strict rule requiring a class to receive a new disclosure statement and another opportunity to vote whenever the debtor amends a chapter 11 plan before confirmation that materially and adversely affects that class compared to the treatment in the prior plan.
The corporate debtor filed a chapter 11 reorganization plan to be financed with a $500,000 equity contribution and a $1.6 million line of credit, both to be supplied by existing equity holders. The plan said that existing stock would be extinguished and that new stock would be distributed in proportion to the new financing provided by the existing stockholders.
The existing stock was held by the chief executive and a group of shareholders. The formula meant that the shareholder group would receive two-thirds of the new shares, while the CEO would receive the remaining third. The plan also said that the new financing would be provided on the plan’s effective date.
The bankruptcy court approved the disclosure statement, and creditors voted. The CEO and the shareholder group were in the same class, but none voted.
Two weeks before the confirmation hearing, the CEO notified the shareholder group that the company needed the new equity and credit line three days before the confirmation hearing, ostensibly to prove feasibility at the confirmation hearing. The shareholder group objected to the demand but worked with the debtor to advance the infusion before the confirmation hearing.
When the shareholder group missed the three-day-before confirmation deadline, the CEO put up all of the new financing. When the group missed the deadline, the debtor filed an amended plan giving the CEO all of the new stock in return for posting all of the new financing. The debtor did not serve the emergency motion to amend the plan on the shareholder group.
The shareholder group deposited their required share of the new financing into the debtor’s escrow account the day before the confirmation hearing. The nature of the group’s knowledge about the amended plan is unclear from the Eleventh Circuit’s opinion, but the Court of Appeals said that the majority “had no reason to believe they would lose their equity interests at the confirmation hearing.”
The shareholder group did not appear at the confirmation hearing to object to the amended plan, which the bankruptcy court confirmed after granting the motion to modify the plan.
Two days after confirmation, the shareholder group filed a motion to reconsider confirmation of the modified plan. The bankruptcy court denied the motion.
The shareholder group appealed, but the district court affirmed. The CEO wanted the district court to dismiss the appeal as equitably moot, but the district court denied the motion, believing it was possible to grant effective relief.
The group appealed to the circuit. The debtor did not raise equitable mootness on the second appeal.
The Shareholder Group Wasn’t Deemed to Reject
Circuit Judge Britt C. Grant reversed in an opinion on January 5. She began her legal analysis by noting how a plan amendment under Section 1127(a) must comply with the requirements of a plan under Section 1123.
Of significance to the case on appeal, Section 1127(a)(4) requires a plan to “provide the same treatment for each claim or interest of a particular class, unless the holder of a particular claim or interest agrees to a less favorable treatment of such particular claim or interest.” In this case, of course, the other shareholders were not receiving the same treatment as the CEO under the amended plan.
Procedurally speaking, Judge Grant said that an amendment must comply with the requirement in Section 1125 about providing “adequate information” in a disclosure statement.
Stitching the statutes together, Judge Grant held that a debtor must provide a new disclosure statement and another round of voting if a modification is made after the votes are cast and the modification materially and adversely changes how the class is treated.
Applying the principles to the case, Judge Grant said that the “sole purpose” of the amendment was to “strip” the other shareholders of the new equity. Therefore, she said, the amendment was materially adverse and entitled the other shareholders “to a new disclosure statement and a second chance to cast a ballot.”
The CEO argued that the other shareholders had equity in an insolvent company, were entitled to nothing under the plan and were not entitled to vote because they were deemed to oppose confirmation. Having “rejected” the plan, the other shareholders were not entitled to vote a second time, the CEO contended.
Judge Grant found flaws in the argument. First, the other shareholders were to receive property under the original plan, thus making Section 1126(g) inapplicable. That section says that a class is deemed to have rejected the plan if the class receives nothing under the plan.
Second, Judge Grant said they were entitled to vote on the amendment and receive a disclosure statement because they were treated adversely, even if the other shareholders were deemed to have rejected the original plan.
Judge Grant therefore held that the bankruptcy court could not have deemed the majority to have rejected the amended plan. If there were any doubt, Judge Grant noted how the plan said several times that shareholders were entitled to vote.
Judge Grant held that the bankruptcy court “could not have granted the modification or confirmed the modified plans because the [CEO] was treated more favorably than the rest of [the shareholder class].”
Remedy
The circuit court “assumed” that the appeal was not equitably moot because the CEO did not raise the argument in the court of appeals. The appeals court also assumed that relief could be granted, based on the finding by the district court.
Judge Grant left “the exact contours of that relief to the bankruptcy court in the first instance [and remanded for] the bankruptcy court to fashion an equitable remedy.”
The Eleventh Circuit laid down a strict rule requiring a class to receive a new disclosure statement and another opportunity to vote whenever the debtor amends a chapter 11 plan before confirmation that materially and adversely affects that class compared to the treatment in the prior plan.
The corporate debtor filed a chapter 11 reorganization plan to be financed with a $500,000 equity contribution and a $1.6 million line of credit, both to be supplied by existing equity holders. The plan said that existing stock would be extinguished and that new stock would be distributed in proportion to the new financing provided by the existing stockholders.
The existing stock was held by the chief executive and a group of shareholders. The formula meant that the shareholder group would receive two-thirds of the new shares, while the CEO would receive the remaining third. The plan also said that the new financing would be provided on the plan’s effective date.
The bankruptcy court approved the disclosure statement, and creditors voted. The CEO and the shareholder group were in the same class, but none voted.