The Toolbox, Monthly column contributed by Judge D. Michael Lynn, United States Bankruptcy Court for the Northern District of Texas
This month’s subject is the retention of professionals in bankruptcy cases. Professionals, from attorneys to investment bankers, play a central role in cases under virtually any chapter of the Bankruptcy Code.
Retention of Professionals and § 327(a)
The central statutory provision for retention of professionals in bankruptcy cases is 11 U.S.C. § 327.1 Most professionals retained by a trustee or debtor in possession must qualify for employment under 11 U.S.C. § 327(a).2 Under that provision, a professional to be employed may not “hold or represent an interest adverse to the estate” and must be “disinterested.”3
The first problem presented to the practitioner is that the Bankruptcy Code does not define “professional.” While § 327(a) makes clear that attorneys, accountants, appraisers and auctioneers are professionals, this is an inclusive list. Courts have found many other advisors to be “professionals” subject to § 327. For example, a real estate broker, 222 Liberty Assocs. v. Prescott Forbes Real Estate Corp. (In re 222 Liberty Assocs.), 110 B.R. 196 (Bankr. E.D. PA 1990), a credit adjustment company, In re Interstate Rest. Sys., Inc., 61 B.R. 945 (S.D. Fla. 1986), a public relations firm, In re Microwave Prods. of Am., Inc., 94 B.R. 971 (Bankr. W.D. Tenn. 1989), an oil and gas consultant, In re Aladdin Petrol. Co., 85 B.R. 738 (Bankr. W.D. Tex. 1988) and an investment advisor, In re Mortg. and Realty Trust, 123 B.R. 626 (Bankr. C.D. Cal. 1991) have all been found to be professionals. Moreover, other sections of the Code – for example 11 U.S.C. §§ 327(d) and (e), 1107(b) and 503(b)(3) and (4) – appear to differentiate among types of professionals, regulating estate employment and/or compensation of some types of professionals, but not others. From the practitioner’s perspective, it is probably wise to seek court approval (under § 327 or otherwise) of any advisor who provides assistance to the estate representative that may be considered of a specialized nature.
Before turning to statutory exceptions to – or routes around – § 327(a), it is important to note that courts have not been altogether consistent in interpreting sections of the Code facially limited to specific categories of professionals. For example, at least one court has granted compensation for professionals other than attorneys or accountants under § 503(b)(4), notwithstanding the apparent limitation in that section. See Stapleton v. Unofficial Comm. of Noteholders (In re ITC Deltacom, Inc.), 2006 BL 44725 (D. Del. Mar. 29, 2006). On the other hand, § 327(e) has generally been strictly construed as limited to attorneys by its terms. See, e.g., In re Andover Togs, Inc., 45 C.B.C.2d. 1258 (S.D.N.Y. 2001).
Exceptions to § 327(a)
A. Sections 327(c) and (e) are the first exceptions to § 327(a) to be considered.
1. Section 327(c) allows a professional to be employed by a trustee – and, by extension, a debtor in possession – despite representation (presumably in the same case) of a creditor. While it makes some sense to allow a creditor’s lawyer (or other professional) to serve the trustee, I have some doubt if it would be appropriate in most cases to allow a creditor’s professional to also represent the debtor. While, arguably, a debtor in possession stands in the shoes of a trustee, there are sufficient differences between the two, given a debtor’s agenda to raise loyalty questions where the debtor shares a professional with one of its creditors.
2. Section 327(e) is limited in its scope to employment by the trustee (or debtor in possession) of special counsel. It is a useful tool for taking advantage of the expertise of a debtor’s prepetition attorneys who act within special areas. While the legislative history of § 327(e) refers to litigation counsel (see H.R. Rep. No. 595, 95th Cong., 1st Sess. 328 (1977), reprinted in 1977 U.S. Code Cong. & Admin. News 5963), case law has not so limited the scope of the section. See, e.g., In re Polaroid Corp., 424 B.R. 446, 452-453 (Bankr. D. Minn. 2010)(discussing the role played by special counsel employed under § 327(e), but noting that it would not include someone merely engaged in conducting the bankruptcy case).
B. I think the most interesting exception to § 327(a) is that found in § 1107(b). Section 1107(b) states:
(b) Notwithstanding § 327(a) of this title, a person is not disqualified for employment under § 327 of this title by a debtor in possession solely because of such person’s employment by or representation of the debtor before the commencement of the case.
Most courts have interpreted § 1107(b) narrowly to allow representation by a professional of a debtor in possession despite prepetition representation of the debtor but still requiring that the professional be disinterested – including with respect to a prepetition claim against the debtor. See, e.g., Michel v. Eagle-Picher Indus., Inc. (In re Eagle-Picher Indus. Inc.), 999 F.2d 969, 972 (6th Cir. 1993). These courts require the professional to waive its prepetition claim against the debtor in order to continue representing the debtor in possession. A minority of judges, myself included, have held that § 1107(b) allows a professional to both represent a debtor in possession and hold a prepetition claim. See In re Talsma, 436 B.R. 908 (Bankr. N.D. Tex 2010); In re Best W. Heritage Inn P’ship, 79 B.R. 736, 741 (Bankr. E.D. Tenn. 1987). Practitioners must check the opinions governing a particular jurisdiction to determine which rule will apply. The most significant authority disapproving of employment of the holder of a prepetition claim is U.S. Tr. v. Price Waterhouse, 19 F.3d 138, 141 (3rd Cir. 1994). That decision, however, did not address § 1107(b) and appears not to have considered it.
(b) An attorney or accountant employed to represent a committee appointed under § 1102 of this title may not, while employed by such committee, represent any other entity having an adverse interest in connection with the case. Representation of one or more creditors of the same class as represented by the committee shall not per se constitute the representation of an adverse interest.
Though it would appear that satisfaction of § 1103(b) is a substitute for qualification under § 327(a), some courts have held that a committee’s professionals must be disinterested and not represent an interest adverse to the estate. See, e.g., Bench Decision and Order, In re Enron Corp., No. 01-16034 (AJG)(Bankr. S.D.N.Y. May 23, 2002), ECF No. 3980. Certainly it is sensible to require that committee professionals not be at odds with the estate, especially given case law holding that a creditor’s committee acts as a fiduciary to the class of creditors that it represents and imposing liability on committee members for acting adversely to the estate in violation of their fiduciary duties. See, e.g., Westmoreland Human Opportunities, Inc. v. Walsh, 327 B.R. 561 (W.D. Pa. 2005) (finding committee members owe a fiduciary duty to the committee’s constituents and imposing liability on a member of an unsecured creditor’s committee who competed with Chapter 11 debtor for a government grant).
Retention of Others and Their Ability to Retain Professionals
As explained above, the retention of professionals by the committee is set forth in the Code. Unlike the committee, however, there are several other fiduciaries whose own appointment in a bankruptcy case is provided for by the Code but whose retention of professionals is not provided for by the Code. Examples of these are ombudsmen5 and examiners.6 The most important of these, because of the potential breath of assigned duties,7 are examiners.
Although the Code does not expressly provide for retention of professionals by an examiner, courts have generally allowed such employment. Most frequently the courts have relied on § 105(a)’s authorization to “issue any order . . . that is necessary or appropriate to carry out the provisions of [the Bankruptcy Code]” in allowing an examiner to retain professionals. See In re Tighe Mercantile, Inc., 62 B.R. 995, 1000 (Bankr. S.D. Cal. 1986); In re Southmark Corp., 113 B.R. 280, 281 (Bankr. N.D. Tex. 1990). Presumably, the same rationale could be used to authorize an ombudsman to employ professionals as necessary,8 though an ombudsman’s assignment is likely to be narrower than that of other statutory fiduciaries.
The courts have held that an examiner’s professionals must, like a trustee’s professionals, be disinterested and not represent an interest adverse to the estate. See, e.g., In re Interco Inc., 127 B.R. 633 (Bankr. E.D. Mo. 1991). This makes sense, as the examiner must be disinterested as well.9 The same is true of ombudsmen.10 It would be odd to require that the fiduciary be disinterested without requiring the same of his or her retained professionals.
Before concluding I need to mention the growing trend of employing certain advisors – especially chief restructuring officers – under 11 U.S.C. § 363. See, e.g., In re Pilgrim’s Pride Corp., 401 B.R. 229 (Bankr. N.D. Tex. 2009)(noting that the Chief Restructuring Officer was akin to an independent advisor and had been retained by order of the court pursuant to §§ 105(a) and 363(b)). Because a chief restructuring officer will be an officer of the debtor, he or she will not be disinterested under 11 U.S.C. § 101(14)(B) and, as such, will not qualify for employment under § 327(a). Thus, parties and courts have struggled with the mechanics for authorizing employment of a chief restructuring officer (and often his or her firm, itself not disinterested). The reliance on § 363 to get around the limitations of § 327(a) is troubling and justifiable only due to the usefulness to a debtor of having a restructuring expert in-house to assist it in the reorganization process.
In sum, the Bankruptcy Code (and the Bankruptcy Rules)11 provides a framework for employment of advisors that will facilitate the reorganization or liquidation process. While the Code has apparent gaps in this framework – e.g., the absence of any provision for employment of professionals by an examiner – courts have found means to paper over these gaps. Those court decisions, as well as applicable statutory and rule provisions, are important tools for the practitioner.
Judge D. Michael Lynn
U.S. Bankruptcy Court
501 W. 10th St., Room 128
Fort Worth, TX 76102
D. Michael Lynn has served as United States Bankruptcy Judge for the Northern District of Texas in Fort Worth since 2001. During his tenure on the bench, he has presided over such large chapter 11 cases as Mirant Corporation and Pilgrim’s Pride Corporation, as well as thousands of consumer cases. Prior to his appointment to the bench, he spent 29 years practicing bankruptcy law, specializing in corporate reorganizations. Judge Lynn was a Visiting Professor of Law at Southern Methodist University’s Dedman School of Law for 15 years and now serves as Adjunct Professor of Law at Texas Wesleyan University, where he teaches courses in corporate reorganization law, legal drafting, and legal ethics. He has served as a contributing author for Collier on Bankruptcy and the Collier Bankruptcy Practice Guide, is presently co-author of The Collier Handbook for Trustees and Debtors in Possession, and has spoken frequently at continuing legal education events.
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