Lehman Bankruptcy Court Overrules UST Fee Objection and Reaffirms Confirmed Plan Provision

In a recent contested matter in the historic cases, Lehman Brothers Holdings Inc., et al. (the “Debtors”), Case No. 08-13555 (Peck, J.), pending in the United States Bankruptcy Court for the Southern District of New York, the Bankruptcy Court overruled a challenge by the United States Trustee for Region 2 (the “UST”) to the rights of individual members of the official committee of unsecured creditors appointed in the cases (the “Committee” or the “Committee Members,” as applicable) to be paid reasonable compensation for legal services rendered to the Committee Members by their own attorneys, which fees, subject to a finding of reasonableness, were to be consensually paid by the Debtors under the Debtors’ confirmed Chapter 11 plan of reorganization (the “Plan”). The Bankruptcy Court reached its conclusion by focusing on those distinct sections of the Bankruptcy Code that supported the use of flexible and creative plan drafting and negotiation to authorize consensual distributions of cash from the Debtors’ estates to pay for Committee Members’ individual counsel fees, despite the administrative expense standards imposed under Section 503(b) of the Bankruptcy Code.

Background

The Bankruptcy Court began its discussion by highlighting the fact that the success of these Chapter 11 cases was due to, in part, professional excellence, creativity and negotiation by all the parties involved, including the Committee and its individual members. The Committee Members included two indenture trustees, which, discussed below, implicated Section 503(b)(3)(D) of the Bankruptcy Code, which requires a showing of a substantial contribution in order for indenture trustees to be reimbursed for professional fees with administrative expense priority. As the Bankruptcy Court ultimately concluded that the Committee Members, including the two indenture trustees, were entitled to receive reimbursement for professional fees under the Plan and Section 1129(a)(4), provided such fees met the reasonableness test under such Section, it held it did not need to determine whether the indenture trustees satisfied Section 503(b)(3)(D) of the Bankruptcy Code.

Section 6.7 of the Plan contained specific language that secured the right of the Committee Members to receive payment for reasonable fees and expenses, including counsel fees, in connection with the Chapter 11 cases. Originally, the UST filed an objection to confirmation of the Plan, arguing Section 6.7 violated the Bankruptcy Code and that only Section 503(b) provided the Bankruptcy Court with the standard for evaluating fees and expenses of the Committee Members. The UST subsequently withdrew this objection upon a reservation of rights.

After the Plan was confirmed, the Committee Members filed an omnibus application for payment of fees and reimbursement of expenses (the “Application”), seeking support under Section 1129(a)(4) and alternatively, under Sections 503(b)(3)(D) and 503(b)(4) of the Bankruptcy Code. The UST filed an omnibus objection to the Application, raising similar arguments as were made in the UST’s objection to confirmation of the Plan, including that the indenture trustees on the committee failed to show a substantial contribution in these cases. Further pleadings arguing these issues were filed by the parties.

The Bankruptcy Court’s Discussion and Ruling

The Bankruptcy Court began its discussion by setting forth the structure of Section 503(b) of the Bankruptcy Code and the basis for allowing administrative expense priority for professional fees and expenses. In doing so, the Bankruptcy Court also emphasized that Section 503(b) was not the sole means by which to provide support for reimbursement of such fees and expenses. The Bankruptcy Court went on to discuss Section 1123(b)(6) of the Bankruptcy Code, which is a catch-all provision that allows a plan to include “any other appropriate provision not inconsistent with the applicable provisions of the [Bankruptcy Code].” 11 U.S.C. § 1123(b)(6). This catch-all provision was viewed by the Bankruptcy Court as a great tool by which parties involved in plan negotiations can provide creative and flexible provisions in a Chapter 11 plan, provided such provisions do not violate applicable bankruptcy law, and viewed Section 6.7 of the Plan as an example of such creative drafting. Further, by invoking Section 1129(a)(4) of the Bankruptcy Code into Section 6.7 (by providing a mechanism by which the Bankruptcy Court maintained the ability to review all payments made under the Plan), the Bankruptcy Court concluded Section 6.7 of the Plan fit within the proper boundaries of Section 1123(b)(6) and was not inconsistent with other bankruptcy law, including those provisions in Section 503(b) governing the allowance of administrative expenses.

Analysis

The Bankruptcy Court was not troubled with the fact that the Plan provided for the consensual payment of the Committee Members’ professional fees and expenses, as opposed to having such expenses approved as part of the process of allowing administrative expenses under the Bankruptcy Code. The Bankruptcy Court found that such approach did not, as the UST attempted to argue, improperly circumvent the Bankruptcy Code. Moreover, the fact that the proposed payment of these professional fees was not expressly supported by Section 503(b), did not persuade the Bankruptcy Court to conclude that such payments would be inconsistent with Section 503(b) of the Bankruptcy Code. While the UST advanced a restrictive reading of 503(b) by arguing the administrative claim process was the exclusive means by which a committee member could ever be entitled to receive compensation for its own individual legal fees, the Bankruptcy Court disagreed and found that (a) Sections 1123(b)(6) and 1129(a)(4) provide the appropriate means by which a plan can propose payment rights akin to here, so long as such payments are reasonable and do not violate other Bankruptcy Code Sections, and (b) Section 503(b) and the provisions that govern the allowance of administrative claims do not control the plan process and are not inconsistent with the flexible plan-drafting and plan-negotiation provisions in the Bankruptcy Code.

The Bankruptcy Court found similar support in Judge Gerber’s decision in In re Adelphia Commc’ns Corp., 441 B.R. 6 (Bankr. S.D.N.Y. 2010) (“Adelphia”). In Adelphia, 14 ad hoc committees and certain individual creditors sought reimbursement for professional fees pursuant to a plan provision similar to Section 6.7 of the Plan, which, like here, was a product of a global resolution, whereby the applicants submitted fee applications and asserted such applications were only subject to a reasonableness review under Section 1129(a)(4) of the Bankruptcy Code, without a showing of compliance with Sections 503(b) or (4).

In the Chapter 11 cases of In re Washington Mutual, Inc., et al, Case No. 08-12229 (MFW), pending in the Bankruptcy Court for the District of Delaware, the members of the creditors’ committee — all indentures trustees — established a consensual protocol with the debtors whereby each indenture trustee agreed to file applications with the court seeking to partially liquidate and allow their proofs of claim for fees and expenses arising under their respective indenture documents. The Chapter 11 plan in these cases implemented a global settlement among significant parties and contained similar provisions relating to the payment of reasonable indenture trustee fees and expenses on the plan’s effective date pursuant to Section 1129(a)(4), without a showing of compliance with Sections 503(b) or (4).

In reaching his conclusion, the Bankruptcy Court highlighted the specific facts of these complex and large cases, where (a) the Plan was the product of intense negotiations that resulted in a global settlement, the absence of which would have resulted in a “monumental and unmanageable confirmation battle”; and (b) the provisions under the Plan providing for the consensual payment of Committee Member counsel fees became an element of this global settlement that all creditors voted on and supported. Indeed, the Bankruptcy Court recognized that the language in Section 6.7 of the Plan was designed to provide the Committee Members with greater certainty that they would receive payment for their individual counsel fees in light of the Bankruptcy Code’s limitations on whether such fees could be allowable as administrative expenses.

Conclusion

Based upon the Bankruptcy Court’s decision, in large and complex cases such as here, where significant creditors, including members of a committee and/or indenture trustees, are among the major parties that contributed to a successful plan confirmation process, parties may utilize the creative and flexible aspects of bankruptcy negotiation and plan drafting to achieve a global settlement, implement such settlement into a plan and provide for alternative methods of payment of creditor professional fees, so long as (a) such fees are reasonable, (b) the underlying plan provisions do not violate other Bankruptcy Code provisions, and (c) creditors have an opportunity to vote to accept or reject the plan and overwhelmingly vote to accept such plan.

As part of the plan negotiation process, indenture trustees often give consideration to ensure that the plan provides for payment of the fees and expenses of the indenture trustee, including counsel fees, rather than using the payment priority provisions of the indenture, also known as the charging lien. Obviously, there are risks, both legal and business, in making such a decision but what is clear is that there is now strong authority to have such payments made under a confirmed plan.