Ninth Circuit Adopts Equitable Mootness Test for Appeals of Plan Confirmation Orders in Thorpe Insulation
A recurring issue in Chapter 11 cases is the extent to which an appeal of an order confirming a plan of reorganization is rendered moot by events occurring after confirmation. In this article, Lesley Hawes discusses the doctrine of equitable mootness and explains why a creditor should care because the doctrine may determine the creditor’s fate under a confirmed plan.
A recurring issue in Chapter 11 cases is the extent to which an appeal of an order confirming a Chapter 11 plan of reorganization is rendered moot by events occurring after confirmation. Unless the confirmation order is stayed, the confirmation order is generally effective when issued, and the proponent of the successful plan will generally take immediate steps to begin implementing its terms. The issue of mootness requires the appellate court to consider whether “effective relief” can be granted on appeal or whether subsequent events, such as distribution of property, transfer of title to assets or other actions taken in consummating the confirmed Chapter 11 plan, have occurred that would make it impossible or unfair for the appellate court to alter the bankruptcy court’s order of confirmation.
The doctrine of equitable mootness involves consideration of the “case or controversy” provision of Article III of the U.S. Constitution as well as considerations of equity and public policy applied to the facts and circumstances of the confirmed plan. So why would a creditor care about these esoteric legal and equitable concepts? Creditors care because the doctrine may determine the creditor’s fate under a confirmed plan.
If the creditor has supported the Chapter 11 plan, then the creditor has a vested stake in the plan confirmation order not being overturned and will want to have the doctrine invoked to preclude the appellate court’s consideration of the appeal, to obtain a prompt dismissal of the appeal, to achieve certainty for the creditor that the confirmation order and the creditor’s treatment under the plan will not be altered. If the creditor has opposed confirmation and appeals the order confirming the plan, then the creditor has a vested interest in the appellate court hearing and determining the appeal on the merits and concluding that the equitable mootness doctrine does not prevent the appellate court from granting relief through a reversal or modification of the confirmation order.
The Ninth Circuit’s decision in the case of In the Matter of Thorpe Insulation Co., ___ F. 3d ____, 2012 WL 178998 *1 (9th Cir. January 24, 2012) arose in the context of a confirmed Chapter 11 plan of a company and its subsidiary that faced significant present and future asbestos-related liability arising out of the company’s installation, repair and distribution of asbestos. The confirmed plan was jointly proposed by the two corporate debtors, the official unsecured creditors committee and an appointed representative for the holders of potential future asbestos claims. The confirmed plan was to be funded in part through a settlement fund for the holders of present and future asbestos-related claims created by a group of insurers. The plan provided a means to value and determine claims of injured parties and certain injunctions, including a channeling injunction, to limit litigation against the settling insurers and direct asbestos claimants to the settlement fund for redress. The appellants included a group of non-settling insurers that had not joined in the settlement fund and that were determined by the bankruptcy court to lack standing to object to the plan.
The Ninth Circuit’s decision in Thorpe Insulation indicated that prior to this decision, the Ninth Circuit had not “yet expressly articulated a comprehensive test” to define the factors that must be examined to determine if “equitable mootness” applies to an appeal, although the court’s prior decisions cited certain factors that were significant in those prior cases. The Ninth Circuit noted that the Courts of Appeal for the Second, Third and Fifth Circuits had articulated detailed tests to determine if an appeal should be deemed equitably moot and described those standards at length.
After reviewing the tests applied in those other circuits, the court in Thorpe Insulation ultimately established its own similar, comprehensive set of criteria to determine whether an appeal is equitably moot by examining 1.) whether the appellant sought a stay on appeal, and if one was sought but denied, whether “substantial consummation” of the plan has occurred, 2.) what “effect a remedy may have on third parties not before the court,” such as other creditors whose claims are treated in the plan, third parties to whom property may have been transferred under the plan, and others, and 3.) “whether the bankruptcy court can fashion effective and equitable relief without completely knocking the props out from under the plan and thereby creating an uncontrollable situation for the bankruptcy court.” In the Matter of Thorpe Insulation Co., 2012 WL 178998 at *6.
Based on the facts presented in Thorpe Insulation, the Ninth Circuit concluded the appeal was not equitably moot and that relief could be granted by the bankruptcy court to modify the plan to address the concerns of the appealing non-settling insurers without fundamentally disrupting the plan or the interests of other creditors to the extent that the plan had begun to be implemented.
While a detailed recitation of the facts and circumstances of the Thorpe Insulation plan is beyond the scope of this article, there are certain key “take aways” from the decision that are significant for creditors facing a potential appeal of a confirmation order in bankruptcy. First, with respect to whether a stay of the confirmation order was sought, the court suggested that failure to seek a stay may have a significant impact on the court’s determination of whether an appeal should be deemed equitably moot.
In that case, the appellant insurers sought a stay on appeal that was denied, and although the Ninth Circuit failed to grant a stay of the order on appeal, the Ninth Circuit set the appeal for an expedited briefing and determination schedule. For creditors hoping to preserve their appeal from dismissal on mootness grounds, promptly seeking a stay of the confirmation order at all levels, regardless of how unlikely it may be that the stay will be granted, is essential to preserving the argument for lack of mootness.
Second, the status of the plan as “substantially consummated” must be evaluated based on the statutory definition of “substantial consummation” in §1101(c) of the Bankruptcy Code. Under §1101(c) of the Bankruptcy Code, “substantial consummation” requires three statutory components to be met; namely, that all or substantially all property to be transferred under the plan has been transferred, that the business or management of all or substantially all of the property dealt with by the plan has been assumed by the post-reorganization debtor or its successor, and that the distributions provided for under the plan have commenced. The anticipated duration of the plan as well as the structure of the plan in terms of its timing and method of transferring property and control of the debtor’s assets or business are key factors in determination whether “substantial consummation” of the plan has occurred.
In Thorpe Insulation, the court evaluated the extent to which the plan had been consummated by comparing the amount transferred to the trust fund (the property to be transferred under the plan) in comparison to the total settlement funds that were to be transferred to the trust under the plan as well as the amounts distributed from the trust, particularly the amounts paid out to the asbestos claimants that are its principal beneficiaries, in comparison to the total sums to be paid out under the plan, finding substantial consummation had not occurred yet whether less than 50% of the funds and assets comtemplated to be transferred under the plan had been transferred as of the time of the appeal.
Further, the court agreed with the Second, Third and Fifth Circuits that even if the plan had been substantially consummated, the appellate court can still consider the appeal and is not required to dismiss the appeal based on equitable mootness if effective relief can still be granted to the appellants “without fully impairing the prior plan and other pertinent circumstances.” Therefore, creditors cannot rely on the fact that the plan has been substantially consummated as necessarily dictating that any appeal of the confirmation order is moot.
Third, the court specifically noted that the mere fact that a modification of a plan based on the outcome of a successful appeal may affect the rights or interests of third parties alone is not enough to prevent the court from considering the appeal and does not require the court to find equitable mootness. Rather, the court articulated the inquiry concerning third-party rights as “not whether it is possible to alter a plan such that no third party interests are affected, but whether it is possible to do so in a way that does not affect third-party interests to such an extent that the change is inequitable.” In the Matter of Thorpe Insulation Co., 2012 WL 178998 at *7 (emphasis added).
Understanding the equitable mootness doctrine is important for creditors confronting a plan confirmation order that is likely to be appealed. The structure and timing of events in the implementation of a plan can affect the application of the doctrine, and should be considered by creditors as the plan is negotiated and documented. The doctrine also provides an opportunity for creative problem solving in proposing solutions for modification of a plan on appeal that may address the interests of an aggrieved, appealing creditor with minimal affects on third-party interests, or at least with minimal ‘inequitable” impact on third parties so as to preserve the appealing creditor’s ability to obtain relief on appeal. Regardless of which side of the confirmation order the creditor may be on, creditors should have a working knowledge of the doctrine and its potential impact on the creditor’s rights under a confirmed plan when the confirmation order is appealed.