Section 1129(a)(9)(A) Trumps DIP Orders
Traditional DIP Order Carve Outs Do Not Cap the Administrative Claims of Committee Professionals
On January 5, 2017, Judge Sontchi of the Bankruptcy Court for the District of Delaware issued an opinion (the “Opinion”) in the pending Molycorp Chapter 11 case (Case No. 15-11357). In re Molycorp, Inc., 562 B.R. 67 (Bankr. D. Del. 2017). In the Opinion, the Court rejected a challenge by OCM MLYCo. Ltd. (“Oaktree”), one of Molycorp’s pre-petition secured lenders, Molycorp’s DIP Lender and, in combination with Molycorp’s other set of secured lenders, purchaser of Molycorp’s more profitable operating subsidiaries, to the fees & expenses of Paul Hastings LLP, lead counsel to the Official Committee of Unsecured Creditors (the “Committee”).
Molycorp’s Chapter 11 has been extremely contentious and detailing its history would take many pages. The facts relevant to the Opinion are quite simple. The DIP Financing Order entered by the Court provided for a carve-out of $250,000 for the Committee to investigate pre-petition claims against Oaktree (the “Investigation Budget”). D.I. 278, ¶ 4(b). The Committee began investigating potential claims against Oaktree almost immediately and, on January 14, 2016, the Court entered an order granting the Committee standing to bring litigation on the estate’s behalf against Oaktree. D.I. 1086. After mediation with all major parties in the case before the Honorable Robert D. Drain (SDNY), the Debtors filed a notice of the execution of a global settlement agreement on February 22, 2016, including a settlement of the claims brought by the Committee (the “Settlement Agreement”). D.I. 1302, Settlement Agreement at Ex. A. In the Court’s own words, “[t]he Settlement Agreement paved the way for a consensual reorganization plan for certain of the Debtors.” Molycorp, 562 B.R. at 72. On April 8, 2016, the Court entered an Order confirming a plan of reorganization premised on the Settlement Agreement. D.I. 1580.
After the Settlement Agreement was approved, Paul Hastings filed a Second Interim Fee Application, covering the period from September 1, 2015 to March 31, 2016, requesting Court approval of $8,491,064.75 in fees and $226,179.06 in expenses (the “Fee Application”). Oaktree objected to Paul Hastings’ Fee Application on four grounds. First, Oaktree argued that the DIP Financing Order established a dispositive cap of $250,000.00 (the “Cap”) on the fees and expenses of the Committee counsel in relation to the investigation of claims against Oaktree. Id. at 73. Second, Oaktree argued that the DIP Financing Order only authorized the compensation of the Committee’s professionals for the investigation of claims, not for the initiation and prosecution of such claims. Id. Third, Oaktree argued that even if the Cap was not dispositive, “any portion of Paul Hastings’ fees that exceeds the cap set by the DIP Financing Order is presumptively unreasonable.” Id. at 73-74. Finally, Oaktree argued that the descriptions of the work performed by Paul Hastings’ attorneys were excessively vague and should be disallowed. Id. at 74.
The Court’s opinion was decisive but comprehensive. As the Court explained, before confirmation of a plan, “absent equity in the [secured party’s] collateral, administrative claimants cannot look to encumbered property to provide a source of payment for their claims.” Molycorp, 562 B.R. at 75. Thus, there was no doubt that as the secured party, Oaktree’s consent was necessary for the payment of administrative expenses and Oaktree was within its rights to “impose a limit on the amount of its collateral which may be used to pay the attorneys employed by the Committee.” Id. at 77.
11 U.S.C. § 1129(a)(9)(A), however, mandates that for a plan to be confirmed, each holder of an allowed administrative expense claim, unless agreed otherwise, must be paid in cash equal to the allowed amount of such claim on the effective date of the plan. Molycorp, 562 B.R. at 77. Therefore, “if the secured parties desire confirmation, the administration claims must be paid in full in cash even if it means invading their collateral.” Id. at 78 (quoting In re Emons Industries, Inc., 76 B.R. 59, 60 (Bankr. S.D.N.Y. 1987)). Therefore, “in the context of a plan confirmation, a cap on the amount to be paid towards administrative expenses may only be approved after obtaining the administrative claimants’ consent.” Molycorp, 562 B.R. at 78.
The Court then held that the Investigation Budget in the DIP Order unambiguously “[did] not contain any language that can compel automatic disallowance of Paul Hastings’ fees.” Id. at 79. The Court saw nothing in the language of the DIP Order that differed from a standard carve-out provision. Id. The Court also noted the difference between the language in the DIP Order and the language in the Confirmed Plan, which stated that “[a]ny amounts incurred by the Creditors’ Committee’s legal professionals on and after the Committee Settlement Effective Date with respect to the Creditors’ Committee Legal Fee Cap Matters in excess of the Creditors’ Committee Legal Fee Cap shall be disallowed.” Id. at 80 (emphasis in original). The Court noted that the difference in language spoke for itself and made absolutely clear that “the costs incurred by Paul Hastings are not affected by the DIP Financing Order.” Id. Finally, the Court concluded by allowing Paul Hastings’ fees and expenses as reasonable compensation for services rendered, noting that the “record demonstrates that the services rendered benefited the Debtor’s estate and advantaged the Committee’s constituents.” Id. at 82.
The Unanswered Question—Can a DIP Order Ever Be Used to Cap The Committee’s Professionals’ Administrative Claims?
The Court declined to answer whether it would ever uphold a provision in a DIP Order capping the allowable administrative claims of the Committee’s professionals. Id. at p. 80, n. 62. Both the parties and the Court noted that other courts had approved such provisions in a DIP Order, most notably In re Granite Broadcasting Corp. (ALG) (Bankr. S.D.N.Y. Jan. 5, 2007). The Court did, however, note that there was an ongoing debate “with regard to the term ‘agreed’ [in § 1129(a)(9)(A)]: whether this requires a creditor expressly or affirmatively consent to a different treatment, or whether consent may be implied from the creditor’s conduct.” Molycorp, 562 B.R. at 78, n. 54.
The Court’s acknowledgement of this debate was not mere happenstance. If consent to lesser treatment may be implied from a creditor’s conduct, a court could find that by accepting employment from the Committee after such a DIP Order has been entered, a Committee professional has impliedly consented to the hard cap in the DIP Order. If, however, implied consent is insufficient, it seems unlikely that a Court could ever find a hard cap in a DIP Order binding.
The Court did, however, signal its position on this debate in a footnote. In explaining the debate over the type of consent necessary under § 1129(a)(9)(A), the Court cited to In re Teligent, Inc., in which administrative creditors who had not returned a ballot were deemed to have agreed to lesser treatment (the case was administratively insolvent). The Court viewed the holding in Telligent as a “questionable fiction.” Molycorp, 562 B.R. at 78, n. 54. It therefore appears questionable that Judge Sontchi will be well disposed to arguments that an administrative claimant has impliedly consented to lesser treatment and, by implication, to DIP Orders which attempt to place a hard cap on the administrative claims of Committee professionals.
As the law continues to evolve on these matters, please note that this article is current as of date and time of publication and may not reflect subsequent developments. The content and interpretation of the issues addressed herein is subject to change. Cole Schotz P.C. disclaims any and all liability with respect to actions taken or not taken based on any or all of the contents of this publication to the fullest extent permitted by law. This is for general informational purposes and does not constitute legal advice or create an attorney-client relationship. Do not act or refrain from acting upon the information contained in this publication without obtaining legal, financial and tax advice. For further information, please do not hesitate to reach out to your firm contact or to any of the attorneys listed in this publication.