This is the next post in Plan Proponent’s series on the confirmation-related recommendations in the ABI Commission Report (and, in particular, its Exiting the Case piece). In this post, we’ll cover the Commission’s recommendations regarding “Exculpatory Clauses” in Section E.2 of the Report.

Chapter 11 plans typically contain exculpatory clauses and/or third-party releases. Essentially, an exculpatory clause exculpates (indemnifies) a plan proponent’s directors, officers, management, professionals, and the like from certain conduct that occurs during the case. They can also extend to others, including a creditors’ committee and its professionals. Whereas a third-party release (which we’ll discuss in our next post) results in a relinquishment of claims or causes of action of the debtor or third-parties against non-debtors, an exculpatory clause is “more akin to limited immunity.”

Although the Bankruptcy Code does not address exculpatory clauses, courts often approve them because they tend to encourage parties to assist the debtor in reorganizing without the fear of litigation, particularly litigation that points fingers when a Chapter 11 plan fails. For the most part, courts that approve exculpatory clauses focus on whether they’e narrowly-tailored, they apply to conduct that has already occurred, creditors have notice of the proposed provision, creditors have voted to accept the plan, and they’re in the best interests of the estate. Although some courts reject them, per se, particularly with respect to professionals, they’re usually rejected only when they’re overly broad as to persons or conduct covered (e.g., willful misconduct or gross negligence).

In short, the Commission recommends that the Bankruptcy Code be amended to permit exculpatory clauses in accordance with the following four principles. First, they should be limited to the estate representatives (DIPs, trustees, committees, etc.) and their professionals and to those who “sufficiently contributed” to the Chapter 11 case (as determined on a case-by-case basis). Second, they should be limited to protecting those who acted in good faith (as opposed to “bad actors”). Third, they should extend to simple negligence, with anything greater than simple negligence to be determined based on the facts of the case and public policy. Fourth, they should be properly disclosed.

In our next post, we’ll cover the Commission’s recommendations on third-party releases–provisions which are far more controversial than exculpatory clauses.