Site Name

BANKRUPTCY AND
RESTRUCTURING

Compensation of Professionals

Main Content

Improper Use of Contract Attorneys, Failure to Disclose Terms – This Case Has It All.

business concept/dropping coins

Estate professionals are under continued scrutiny. Unlike other professionals, getting paid is not simply a matter of sending a bill.  The bankruptcy court, appropriately so, closely oversees the amount and timing of payment of estate professional fees.  And proper disclosure under the Bankruptcy Code and the Federal Rules of Bankruptcy Procedure (the “Bankruptcy Rules”) is critical for all estate professionals.

Recently, in In re Wilkerson, Case No. 14-00582, Docket Entry No. 127 (Bankr. D.D.C. Jun. 13, 2016), the Bankruptcy Court declined to award a significant portion of attorneys’ fees and expenses to counsel for a chapter 13 debtor due to counsel’s failure to disclose the work being done by a contract attorney under Bankruptcy Rule 2016(b).  This lack of disclosure infected other portions of counsel’s fee application as well.  The court bound counsel to his initial Rule 2016 statement wherein he designated the representation as a “flat fee” arrangement.  Thus, bankruptcy counsel was partially precluding from amending the representation to charge by the hour except with respect to one “extraordinary” matter, as a sanction for his failure to adequately disclose the use of the contract attorney, and failure to disclose a separate retainer agreement with the debtor.

Use Of A Contract Attorney Requires Additional Disclosures – And You May Be Limited To What You Pay The Contract Attorney, Without Upcharge.

Debtor’s counsel employed a contract attorney to assist with a bankruptcy appeal. Counsel hired the contract attorney at a rate of $65 per hour, but charged the estate $300 per hour for the work she completed.  The chapter 13 trustee objected to the fees for the contract attorney because (i) it constituted an impermissible fee sharing arrangement under 11 U.S.C. § 504(a); (ii) debtor’s counsel failed to disclose in its Bankruptcy Rule 2016 statement that the contract attorney would be representing the Debtor; and (iii) charging the estate $300 per hour for her work was impermissible “up-billing.”

The court rejected the first argument, finding that the contract attorney arrangement was not a fee sharing arrangement under Section 504(a) because debtor’s counsel was obligated to pay $65 per hour to the contract attorney regardless of whether he was able to recover such compensation from the bankruptcy court.

As to the second issue, the court ruled that debtor’s counsel violated Bankruptcy Rule 2016(b) by failing to disclose the contract attorney’s involvement. This rule does not require the disclosure of the use of a “regular associate” as defined by Bankruptcy Rule 9001(10); however, the court found that the contract attorney did not meet the definition of a “regular associate.”  While the court left open the possibility that a contract attorney could possibly be considered a regular associate of a firm under Bankruptcy Rule 9001(10), this contract attorney did not meet the definition because her employment with the firm was “sporadic” and “not on a regular basis,” despite that this attorney worked with debtor’s counsel “fairly often,” including in 4-5 cases over the past year.  Also, the contract attorney had her own single-shingle firm that the court considered her to be “regularly” involved with, and she only assisted debtor’s counsel from time to time.  As such, the failure to disclose the engagement of the contract attorney was a violation of Bankruptcy Rule 2016(b).  (We note that compliance with the US Trustee’s form fee application for large cases requires disclosure of hours by contract attorneys and staff attorneys, see pages 22 and 28 of this document, so you may as well disclose the existence of any contract attorneys or staff attorneys up front for that reason as well.)

As a corollary, the court limited the recovery of attorneys’ fees associated with the contract attorney’s work to the $65 per hour that she was actually compensated by debtor’s counsel. Counsel’s argument that $300 was the prevailing rate for her services was rejected.  The court found that such rationale would only hold if the contract attorney were an attorney within debtor’s counsel’s firm.  However, because counsel “dealt with her as an independent contractor, [and] incurred none of the expenses that would be associated with an attorney employed in his firm,” he ultimately “failed to carry his burden of proving that he incurred any meaningful extra cost beyond the $65 per hour” paid to the contract attorney.

Parties May Be Precluded From Changing A Representation From Flat Fee To Hourly Depending.

Lastly, the court in part held counsel to the flat fee arrangement disclosed in his initial Bankruptcy Rule 2016(b) statement, which designated the representation of the debtor as a “flat fee” arrangement. Counsel filed an amended Rule 2016 statement setting forth a changed agreement with the debtor to an hourly representation on the grounds that the work completed in the case far exceeded the original amount of work anticipated when the flat fee arrangement was first established, largely resulting from the appeal for which the contract attorney was engaged.

While generally a court may permit an attorney to amend its Rule 2016 statement to reflect a change in the agreement as to the payment of attorneys’ fees, the court stated that holding counsel to its original fee arrangement in this case would be an appropriate sanction for his failure to adequately disclose his compensation arrangement with the debtor. In particular, not only did counsel suffer from the failure of disclosures as set forth above, but he also failed to disclose a retainer arrangement with the debtor.  That said, the court did allow additional compensation for elements of the fee application relating to the appeal, as they derived from an “unsettled” area of law, and those fees could not have been reasonably anticipated in a typical chapter 13 representation.  (We note as well that under ASARCO, discussed in The Bankruptcy Cave at length here and here and here, counsel would also not be entitled to be paid for its fees in litigating all these fee issues – that is another strong incentive to get the disclosures right the first time!)

Conclusion.

The Bankruptcy Code and Bankruptcy Rules set forth myriad important requirements of which attorneys and parties-in-interest must be mindful when pursuing their rights in a bankruptcy court. This case is an important reminder for any estate professional to think very hard about anything unusual about the engagement, and how to tailor and expand the required disclosures up front, or promptly upon any change in circumstances, in order to avoid a loss of fees (and face).

Read More

ASARCO’s Revenge: Do Estate Professionals Now Have to Charge the Same Fees to an Estate or Committee that They Would Charge a Similar Client in an Out-of-Court Matter?

Either from our prior posts here and here, or from the great posts from Stone and Baxter’s Plan Proponent blog or from Bracewell’s Basis Points blog, we all know the Supreme Court’s holding in ASARCO[1]/: a strict interpretation of Section 330(a) of the Bankruptcy Code[2]/ allows professionals to charge for the preparation of a fee application per Section 330(a)(6).  But as there is no express statutory authority to charge the estate for defense of a fee application, the “American rule” prevails, requiring professionals to bear their own defense costs if a third party objects to the fees.[3]/

The cases following Asarco have all been sad days for bankruptcy professionals.  As we have written, the Delaware Bankruptcy Court has rejected all arguments that Section 328 of the Bankruptcy Code, which allows the Court to approve reasonable contractual terms, could allow a contractual term (instead of Section 330(a)(6)) requiring the estate to bear the costs of defending a fee application.[4]/  Moreover, estate professionals cannot charge a fee of $X if there is no fee objection, and then an “upcharge” to $X plus $Y more if there is a fee objection.[5]/

The New Gulf Resources “upcharge” argument had the benefit of candor – it was precisely geared to prevent expensive fee disputes that punish innocent estate professionals who would not be paid for defending their fee applications.  Judge Shannon acknowledged the “creative approach” but ruled there was no meaningful distinction between a “Fee Premium” upcharge and the attempted use of Section 328 that was rejected by Judge Walrath in In re Boomerang Tube, Inc.[6]/

But what about a more circuitous way around ASARCO?  That is, a pre-petition fee structure of X, and a post-petition fee structure that charges more?  The post-petition fee structure is not geared toward preventing fee disputes, but rather, simply compensates the professional more for all the problems of representing a company (or committee) in bankruptcy: delays in getting paid, holdbacks that seemingly last forever, risk of non-payment, and, of course, the risk of fee dispute.  You readers, and we at the Bankruptcy Cave, know all too well that while representing an estate fiduciary is a wonderful experience, the months (years?) of nail-biting as to whether or how much you will be paid is a serious problem.

But do we instead have ASARCO’s revenge?  That is, if New Gulf Resources rejects an upcharge in the event of a fee challenge, do ASARCO/New Gulf Resources extend to prevent an overall, generalized, non-specific increase in rates or a higher fee structure simply due to the fact of bankruptcy?  We are about to see this play out in the In re SunEdison bankruptcy case.

In SunEdison, debtor’s counsel had a pre-petition engagement letter providing the client with substantial percentage discounts as fees crossed certain hurdles.[7]/  However, upon filing for bankruptcy, a new engagement letter was written, charging the same hourly rates but eliminating the discounts.[8]/  The Office of the U.S. Trustee has hinted that it will cry foul, although noting that its objections may wait for the fee application stage, instead of requiring resolution at the time of approval of the retention application.[9]/  At least for now, the court has approved the retention of debtor’s counsel at the stated rates.[10]/

The U.S. Trustee’s objection has some appeal, we must say.  If New Gulf Resources rejects an upcharge solely for fee objections, then how can an upcharge for any reason (or for no reason) be permissible simply due to the debtor filing for bankruptcy?  At the same time, the U.S. Trustee’s approach concerns us greatly.

There are ample reasons to charge an estate fiduciary more than you would charge in the pre-petition period, or in an out-of-court workout, due to the added risks to estate professionals in bankruptcy.[11]/  Some of those are described above – the lack of a bankruptcy filing means you get paid on a schedule you and your client work out, not a schedule dictated by Section 331 and your local practice.  Holdbacks are not customary outside bankruptcy. Hearings are not required to be paid.  Clients will sometimes do you a solid and pay before year end, while courts move at their own pace.  In addition, rather than having to satisfy the complaints and queries of many creditors, interested parties, or the Court (as you must in bankruptcy), outside of bankruptcy you only have to satisfy the client (and perhaps a lender that must approve expenditures) of the value and good purpose behind your services.  And finally, assisting the client in a workout could lead to future work from that client, meriting a discount or alternative fee arrangement.

Inside bankruptcy, however, the debtor or committee will rarely be a future customer – a modern, hell-bent for leather, 363 sale case almost always mean your client is gone for good once the case is over.  This is not the stuff that warrants discounts, and so we fully understand the position of debtor’s counsel in In re SunEdison.

This is a serious issue, and a potentially slippery slope.  The position of the U.S. Trustee in In re SunEdison is a few dangerous steps away from arguing that the debtor (or committee) is entitled to “most favored nation” pricing from your law firm or advisory firm.  Section 330 of the Bankruptcy Code requires bankruptcy fees to be commensurate with non-bankruptcy fees.  But “commensurate” does not mean “identical,” by any means.

We will be watching this unfold, real time, in In re SunEdison, and then get back to you.  In the meantime, if you sign up a distressed client, and offer it a discount, alternative fee, or other financial accommodation, expect the Office of the U.S. Trustee to argue that such structure must carry through a bankruptcy case as well, despite the enhanced payment risks and ongoing payment delay that in-court engagements entail.

[1]/          Baker Botts v. ASARCO, 135 S. Ct. 2158 (2015).

[2]/          11 U.S.C. § 330(a).

[3]/          ASARCO, 135 S. Ct. at 2164-65.

[4]/          See, e.g., In re Boomerang Tube, Inc., Case No. 15–11247, 2016 WL 385933 *4 (Bankr. D. Del. Jan. 29, 2016) (holding, committee professionals cannot include 328 terms in an engagement agreement that side-step ASARCO); In re Samson Resources Corp., Case No. 15-11934 (CSS), letter opinion dated Feb. 8, 2016, at Docket No. 641 (holding, debtor professionals can’t do this either).

[5]/          In re New Gulf Resources, LLC, Case No. 15-12566, letter opinion dated March 16, 2016, at Docket No. 395 (acknowledging “creative approach” but rejecting “Fee Premium” upcharge in retention agreement) (Bankr. D. Del. Mar. 16, 2016); id. at Order dated March 21, 2016, at Docket No. 408 (Bankr. D. Del. Mar. 21, 2016) (order denying same).

[6]/          In re New Gulf Resources, LLC, Case No. 15-12566, letter opinion dated March 16, 2016, at Docket No. 395.

[7]/          In re SunEdison, Inc., Case No. 16-10992, Reservation of Rights by United States Trustee, at Docket No. 196 (Bankr. S.D.N.Y. May 5, 2016).

[8]/          Id.

[9]/          Id.

[10]/         Id. at Order Authorizing Employment and Retention of Debtor’s Counsel, at Docket No. 260 (Bankr. S.D.N.Y. May 12, 2016)

[11]/         But see, e.g., Burgess v. Klenske (In re Manoa Fin. Co., Inc.), 853 F.2d 687, 690 (9th Cir. 1988) (“Congress did not intend to authorize higher compensation than attorneys would receive for comparable non-bankruptcy services”).

Read More

Delaware Bankruptcy Court Holds, Twice: “ASARCO is Here to Stay” (But Your Authors Have Hatched Another Plan; Read Below!)

You may recall the holding and analysis of ASARCO [1]/ from Jay’s previous post, here. At bottom, ASARCO  followed a strict interpretation of Section 330(a) of the Bankruptcy Code,[2]/ holding that professionals are allowed to charge certain fees for the preparation  of a fee application per Section 330(a)(6). But as there is no express statutory authority to charge the estate for defense  of a fee application, the “American rule” prevails, requiring professionals to bear their own defense costs if a third party objects to the fees.[3]/

The efforts to get around ASARCO  are well underway, primarily in the venue of the Delaware Bankruptcy Court. So far, the score is ASARCO  (two wins), to frustrated estate professionals (zero). And, even as your authors were writing this post, there is another means underway, using the “upcharge” principal – the hourly rates will be $x if no one objects to the fees, but 10% more than $x if someone does object to the professional fees. This bevy of cases, and our own proposed solution, are discussed below.

The first effort to side-step ASARCO  was In re Boomerang Tube.[4]/ In that case, certain creditors’ committee professionals argued that their engagement letters required, as a contractual  matter, the payment of fee application defense costs. Because Section 328 of the Bankruptcy Code allows the approval of any “reasonable term[] and condition[] of employment,”[5]/ the Court could avoid ASARCO’s  limited reading of Section 330(a), the professionals argued. The Boomerang Tube  Court, via Judge Walrath, rejected that. First, the Court held that an engagement letter is a contract between a professional and its client (here, a creditors’ committee), yet the professional fee defense provision seeks to bind the estate – and under Section 330 of the Code, there is no authority for the estate to be forced to cover such costs.[6]/ Moreover, the Boomerang Tube  Court held, any argument that similar market-based provisions are permitted in bankruptcy cases — such as exculpation and indemnity clauses for estate financial advisors and investment bankers[7]/ — must yield to the more specific ruling of ASARCO, which rejected a market-based approach to reasonableness.[8]/

A few weeks later came In re Samson Resources.  In that case, the Delaware Bankruptcy Court, this time through Judge Sontchi, agreed that Boomerang Tube’s  analysis would apply equally to debtor professionals, and not just committee professionals.[9]/

Not to be dissuaded, a third effort is underway in Delaware (and this time Judge Shannon gets to weigh in). In that case,[10]/ debtors’ counsel is not seeking to use Section 328 to assert that fee application defense costs can be allowed. Instead, debtors’ counsel argues that estate professionals should be allowed to charge one rate if there is no objection to the fees, but then also a 10% premium if there is an objection. In short, it is an upcharge, like substituting a yummy Caesar salad at your fav bistro for the wilted garden salad it usually serves you.[11]/ Your authors love  the creativity, but have their doubts that this will work; stay tuned.[12]/

Anyway, now that we have seen what unique ideas don’t  work, your authors have another! (Let it not be said that we just blog about goings-on in the esoteric world of restructuring – we are here to solve  problems, not just describe them!) And the idea is this – if a professional thinks it may be subject to second-guessing later in the case from disgruntled creditors, then don’t wait until the end of the case to seek allowance. Instead, smoke out those objectors, while the case is ongoing. Thus, once a discrete portion of the case is done – such as first days, a 363 sale, a major piece of litigation, perhaps even the first round of exclusivity and stability of the case – seek final  allowance of the fees and expenses incurred for that portion of the case. If an objection is raised, you still cover your own costs, but at least then you can learn it early, adjust your case strategy, and perhaps get a ruling from a judge directing such malcontents to stand down, lest their own positions in the case come under attack.

We know this is a weird option. But it is no weirder than trying to use Section 328’s generality to get around Section 330’s specificity, or seeking to impose an upcharge to recover fees which ASARCO  says you cannot get. Let the arguments continue further!

[1]/          Baker Botts v. ASARCO, 135 S. Ct. 2158 (2015).

[2]/          11 U.S.C. § 330(a).

[3]/          ASARCO, 135 S. Ct. at 2164-65.

[4]/          In re Boomerang Tube, Inc., Case No. 15–11247, 2016 WL 385933 (Bankr. D. Del. Jan. 29, 2016).

[5]/          11 U.S.C. § 329(a).

[6]/          In re Boomerang Tube, Inc., 2016 WL 385933 at *4. The Court also noted that the result is the same if the professional incurs fees to defend its fees, or if the costs to defend a fee application are set forth as expenses (such as where the professional hires another professional to defend its fees). Id. at *8.

[7]/          See, e.g., In re United Artists Theatre Co., 315 F.3d 217. 234 (3d Cir. 2003) (permitting tailored financial advisor indemnity provisions in bankruptcy cases, based on market evidence that such provisions are customary outside of bankruptcy).

[8]/          In re Boomerang Tube, Inc., 2016 WL 385933 at *7. This is concerning to your authors – does this mean exculpation and indemnity clauses for FAs and IBS, long the norm in most courts under United Artists and many other cases, could be in doubt? Wow.

[9]/          In re Samson Resources Corp., Case No. 15-11934 (CSS), letter opinion dated Feb. 8, 2016, at Docket No. 641.

[10]/         In re New Gulf Resources, LLC, Case No. 15-12566 (BLS), Brief in Support of Retention Application, dated March 2, 2016, at Docket No. 344.

[11]/         The foregoing sentence was brought to you by Mark Duedall.

[12]/         And aside from loving the creativity, we also sympathize with Baker Botts, and other estate professionals (like our beloved Bryan Cave!), that face the risk of objections to fees from disgruntled creditors with an axe to grind. The facts of ASARCO  (in which the estate professional was Baker Botts) are worth noting again here – an incredibly complicated case, in which the estate had to sue its parent company for very serious matters. The suit was successful to the tune of at least $7 billion, and creditors were paid in full – an amazing result. When Baker Botts filed its fee application and sought a fee enhancement, the parent company which Baker Botts sued was right there ready to object to virtually everything about the fees. ASARCO  is an unfair result, and a poster child for the mischief that results when cranky creditors object to fees. That being said, ASARCO  is now the law, and will remain so absent Congressional action (unlikely) or a creative lower court ruling (unlikely too). So deal with it we must.

Read More
The attorneys of Bryan Cave LLP make this site available to you only for the educational purposes of imparting general information and a general understanding of the law. This site does not offer specific legal advice. Your use of this site does not create an attorney-client relationship between you and Bryan Cave LLP or any of its attorneys. Do not use this site as a substitute for specific legal advice from a licensed attorney. Much of the information on this site is based upon preliminary discussions in the absence of definitive advice or policy statements and therefore may change as soon as more definitive advice is available. Please review our full disclaimer.