Supreme Court

 (courtesy of Dave’s iPhone on June 18, 2015)

Two Thursdays ago, we visited my wife’s family in Potomac, Maryland. In addition to seeing the usual sites, we did a Supreme Court “drive-by” and snapped the above photo, a very timely now outdated, but still very political picture.

Indeed, Friday morning, the Supreme Court issued its 5-4 decision in Obergefell v. Hodges ruling that same sex-marriage is a Constitutional right. The day before, it issued its 6-3 decision in King v. Burwell upholding tax subsidies under the Affordable Care Act (a/k/a “Obamacare”). And, as a I type, folks are waiting impatiently for the Supreme Court (i.e., “Waiting for Lyle“) to issue at 10 a.m. the remaining decisions from this term on congressional redistricting, power plant emissions, and execution methods. Meanwhile, the ink is now two weeks old on the Court’s Baker Botts, L.L.P. v. ASARCO, LLC decision, a much less-awaited decision that likely didn’t attract protestors to the Courthouse steps.

Nevertheless, Baker Botts is an important case for bankruptcy professionals, especially those who aren’t strangers to fee application litigation. In a nutshell, a 6-3 Supreme Court, with Justice Thomas delivering the opinion, held that bankruptcy professionals may not, under Section 330(a)(1) of the Bankruptcy Code, recover their fees and costs in defending their bankruptcy fee applications.

In this post, we’ll experiment with a “20 Questions” format to see if we can get to the heart of the matter: How will Baker Botts impact day-to-day bankruptcy professionals, including those whose compensation depends the Code’s “fee app” procedure? In Part 1, we’ll cover the basics, including background and the majority opinion. In Part 2, we’ll cover the dissent, humbly challenge the decision, and, more importantly, explore the potential impacts, legal and practical.

[Unless noted otherwise, quotations are from the opinion.]

1. How did this matter find its way to the Supreme Court?

In 2005, ASARCO, one of the leading copper producers in the U.S., filed a free-fall Chapter 11 in the Southern District of Texas. ASARCO had everything wrong with it: cash flow issues; potentially massive environmental liabilities; corporate governance and tax problems; a striking workforce; and a litigious parent company. As the bankruptcy court pointed out in its initial fee award order (see p. 65a), the DOJ described the ASARCO case as “the largest environmental bankruptcy in U.S. history.” ASARCO’s CEO and board resigned and its replacement director conflicted-out. Therefore, the Bankruptcy Court approved the appointment of an independent board.

In pertinent part, ASARCO, acting through its new board and with court authorization under § 327(a) of the Code, retained Baker Botts as well as Jordan, Hyden, Womble, Culbreth & Holzer as its bankruptcy counsel. Among other things, the lawyers prosecuted a fraudulent transfer claim against two of ASARCO’s parent entities, ASARCO, Inc. and Americas Mining Corp. (“AMC”). The claim challenged ASARCO’s transfer to AMC of ASARCO’s controlling interest in Southern Copper Corp. ASARCO obtained a judgment against the parent worth between $7 and $10 billion. In turn, the judgment fueled a 100%, $3.56 billion payout to creditors (compared to the pennies on the dollar that most had expected at the beginning of the case). ASARCO emerged from bankruptcy 4 years later in 2009 with “$1.4 billion in cash, little debt, and resolution of its environmental liabilities.”

After confirmation, the 2 law firms filed their final fee applications under § 330(a)(1). ASARCO, by then reorganized and back under the control of its parent, objected to the fee applications. Following extensive discovery and a 6-day trial, the Bankruptcy Court overruled the objections and awarded $120 million in compensation, $4.1 million as an “enhancement for exceptional performance,” and $5 million in fees for defending the applications.

On appeal, the District Court affirmed the Bankruptcy Court, but the Fifth Circuit reversed. The Fifth Circuit held that (i) the American Rule (discussed below) controls absent explicit statutory authority providing reimbursement of defense fees and (ii) defense fees fall outside of § 330(a)(1)’s requirement that services are only compensable “if they are likely to benefit a debtor’s estate or are necessary to case administration” because the professional, not the estate, is the “primary beneficiary of a professional fee application.” For a more detailed summary of the lower court decisions, see Gregory Werkheiser’s excellent Jan. 2015 ABI Journal article.

The Supreme Court then granted certiorari and heard oral argument on February 25, 2015 (transcript and audio). Aaron Streett of Baker Botts argued for Baker Botts. Brian Fletcher, Asst. to the Solicitor General, argued for the United States as amicus curiaeJeffrey Oldham of Bracewell & Giuliani argued for ASARCO. [Interestingly, after ASARCO’s initial Aug. 2014 brief in opposition to the petition, ASARCO added Supreme Court star Paul Clement of Bancroft (along with Jeffrey Harris) to ASARCO’s Jan. 2015 brief, but neither Paul nor Jeffrey presented. Having their names on the signature block probably didn’t hurt, though.]

2. For the most part, those are the official Supreme Court facts. What was really going on?

Given that the majority focuses exclusively on the text of the Bankruptcy Code while ignoring “flawed and irrelevant” policy arguments, the Court’s rather vanilla recitation of a hotly-contested, 7 year fee dispute is forgivable. After all, the Code either permits compensation for defending fees or it doesn’t. Nevertheless, depending on who you believe, there was quite a bit more going on in Baker Botts–it wasn’t just any old attorneys’ fee dispute.

In fact, the results obtained in ASARCO were so breathtaking and the core fee objections so unsuccessful, that it’s astonishing that this case became the test case for fee-defense costs under § 330(a)(1).

Largest Judgment and Most Successful Chapter 11 Ever?

As Baker Botts pointed out in its petition, the lower courts had acknowledged that the judgment that Baker Botts obtained for ASARCO was the largest judgment “in Chapter 11 history and possibly the largest unreversed actual-damages award in American history” (compared to the $7.53 billion actual-damages Pennzoil v. Texaco judgment, another Baker Botts award). Further, it pointed out in its petition that (i) the Bankruptcy Court noted that the ASARCO case was  “probably the most successful Chapter 11 of any magnitude in the history of the Code” (our emphasis); (ii) the District Court called the judgment “a once in a lifetime result” (ours again); and (iii) the Fifth Circuit agreed that the result was due to ASARCO’s lawyers’ “exemplary” performance and “creativity, tenacity and talent.” Indeed, the Fifth Circuit noted that “[w]e do not disagree with the lower courts’ effusive evaluations of the results obtained.”

Nevertheless, ASARCO objected to the fees charged by Baker Botts.

Baker Botts describes the fee fight one way; ASARCO describes it another way.

According to Baker Botts:

Baker Botts pointed out that although it received 100% payment from ASARCO on 13 interim fee statements over 52 months without objection, Reorganized ASARCO still “launched a massive assault” on the final application and “attacked everything.” It “stonewalled every effort at efficiently resolving its objections,” “refused” to be particular about which entries were objectionable and, thus, “forc[ed] Baker Botts to self-audit thousands of pages of invoices, culminating in a 1160-page supplement.” Further, “less than a month before the fee trial,” it “served Baker Botts a 104-page report accompanied by a 16-foot-tall stack of schedules containing thousands of pages of individual billing entries alleged to be non-compliant.”

According to Baker Botts, the “U.S. Trustee joined none of these objections, nor indeed any objections to Baker Botts’ core fees” of about $113 million. ASARCO “demanded immense discovery, forcing production of every single document that hundreds of professionals created or received during the 52-month bankruptcy.” Baker Botts claimed that 9 of its lawyers and their staff spent 2,440 hours reviewing hundreds of boxes of offsite documents just to protect privilege. It claimed that it ultimately “produced 2,350 boxes of hard-copy documents (nearly six million pages) and 189 GB of electronic data (approximately 325,000 documents).” In response, claims Baker Botts, ASARCO “sent just two lawyers to review the massive results of discovery” and only “copied 1% of the material” during its five day review.

To hear Baker Botts tell it, ASARCO filed a spiteful, meritless fee objection to get back at Baker Botts for having sued ASARCO’s parent.

According to ASARCO:

ASARCO highlighted a “substantial rise in copper prices”–something Baker Botts “cannot claim responsibility for”–as a “key factor” in ASARCO’s 100% payout to creditors. ASARCO also reminded the Court that Baker Botts initially sought more than it was awarded: $120 million in core fees, over $24 million in fee enhancements, and over $8 million in fee defense costs. It generally summarized its objection categories for the Court: excessive, vague, block-billed, lumped, and/or non-compensable clerical or administrative time and expense entries. It noted that the parties had resolved some expense-related objections by agreement. ASARCO explained that it objected to the enhancements because Baker Botts “had been adequately compensated at their full hourly rates that they had set—and increased throughout the bankruptcy—and that these lodestar fees were paid without delay during the bankruptcy.”

It argued that “over $8 million in fees for the five-month litigation over fees [including 191 Baker Botts timekeepers] was excessive.” It disagreed with Baker Botts’ claim that “every single objection was overruled” because, in fact, Baker Botts had agreed to a $112,927 and a $19,463.52 reduction in fees and expenses [for a total reduction of only 0.09%?!], respectively. It also claimed that the Bankruptcy Court had reduced the requested fee enhancement to around $20 million. ASARCO explained that the bankruptcy court found that the defense costs were “higher than were reasonable and necessary” and, thus, reduced them from $8 million to $5 million. Finally, ASARCO noted that, although the bankruptcy court overruled ASARCO’s objections to the core fees (“after agreed-upon reductions”), the court did not find that the objections were “frivolous or made in bad faith”–objections that cost ASARCO “almost $2 million in fees” to litigate.

To hear ASARCO tell it, ASARCO’s objection was merely a garden variety and good faith inquiry into Baker Botts’ significant fees.

Although ASARCO defends the appropriateness of its objection a little more vigorously in its second brief, it still focuses more on Baker Botts’ excessive defense fees than it does on the merits of ASARCO’s objection, suggesting that Baker Botts might have a point about ASARCO’s possible ulterior motive in filing the objection and litigating it for 7 years. But then again, we represent debtors, so of course we read it that way.

3. How did the Justices come down? 

The Goldberg Variation6-3

Majority: Justice Thomas delivered the opinion, with Justices Roberts, Scalia, Kennedy, and Alito joining, and Sotomayor joining all but part III B 2.

Dissent: Justice Breyer delivered the dissent, with Justices Ginsberg and Kagan joining.

As an aside, compliments of SCOTUSBlog, after Justice Thomas delivered the opinion, Justice Scalia announced Kerry v. Din (and in process, inadvertently referred to Justice Ginsberg as Justice “Goldberg.” Hilarity ensued.


(Image by Art Lien via SCOTUSBlog)

4. In one sentence, how did the majority hold?

Professionals employed under § 327(a) of the Bankruptcy Code are not entitled under § 330(a)(1) to recover fee-defense costs incurred in “defending” their own fee applications.

5. In two sentences, what was the rationale?

The American Rule (i.e., the rule that each litigant pays his own attorney’s fees) is deeply rooted in the common law and, thus, is presumed to apply absent express statutory or contractual language. Given that § 327(a) and § 330(a) of the Bankruptcy Code do not expressly shift the burden of fee-defense litigation to the bankruptcy trustee, and only provide for reasonable compensation for actual, necessary services rendered to a bankruptcy trustee in a loyal and disinterested manner, it follows that Congress did not intend to depart from the American Rule with respect to fees incurred by bankruptcy professionals in defending their fees, especially given that such fees neither constitute “services” to nor benefit the estate.

6. Why is the Supreme Court so focused on the American Rule?

Without any analysis, the Court presumes that § 330(a)(1) is a statute that involves an “award of attorney’s fees.” Although we don’t agree with the Court’s application of the American Rule to § 330(a)(1) (more on that later), the Court’s assumption is not without support at a basic, textual level, as § 330(a)(1) explicitly provides that the court, and we quote the statute, “may award to a trustee . . .or a [§ 327 or  § 1103] professional . . . reasonable compensation for actual, necessary services rendered” (emphasis added). Thus, the Court’s “basic point of reference” is the “American Rule” where each “litigant pays his own attorney’s fees, win or lose, unless a statute or contract provides otherwise” (internal quotation marks omitted).

Hence the approach: When a statute involves an award of attorneys’ fees, the Court will not, “absent explicit statutory [contractual?] authority,” “deviate” from the American Rule.

7. Why did the Court refuse to deviate from the American Rule with respect to § 330(a)(1)?

The Court concluded that “Congress did not expressly depart from the American Rule” to permit fee-defense awards. In searching for that express departure, the Court starts with § 327(a) which provides for the employment of “disinterested” professionals “to represent or assist the trustee in carrying out the trustee’s duties” under the Code. In other words, “professionals are hired to serve the administrator of the estate for the benefit of the estate.”

The Court then turns to § 330(a)(1), concluding that “reasonable compensation for actual, necessary services rendered” is limited to “work done to assist the administrator of the estate.” It explains that, unlike the language in other fee-shifting statutes (more on those later, too), the language in § 330(a)(1) “neither specifically nor explicitly authorizes courts to shift the costs of adversarial litigation from one side to the other” (our emphasis for later). Rather, it only permits compensation awards for “work done in service of the estate administrator” (emphasis in original); “for ‘actual, necessary services rendered‘” (emphasis in original).

Adopting the Government’s analysis almost verbatim and focusing on the dictionary definition of “services” (“labor performed for another”), the Court holds that time “litigating a fee application against the administrator of a bankruptcy estate cannot be fairly described” as “labor performed” much less “disinterested service” to that administrator (i.e., “client”). [As the Government states it, “it is work that the professional does on its own behalf”.]

In short, if Congress had wanted to shift fee-defense costs, then it “easily could have done so,” but it didn’t.

The Court asserts that “other provisions of the Bankruptcy Code expressly” shift litigation costs from “one adversarial party to the other,” but it only refers to one: § 110(i) (requiring petition preparers to pay debtors their “reasonable attorneys’ fees and costs” for moving successfully for damages for preparer violations).

8. Does the majority agree that fee-defense is a part of the underlying services, though?

No. That was the Government’s argument (and the dissent’s take): Even though fee-defense is not, itself, “an independently compensable service,” compensation for fee-defense is “part of the compensation for the underlying services in [a] bankruptcy proceeding” (quoting the Government’s brief) (emphasis in original). The majority rejects that argument (and, thus, the dissent, which we’ll cover in Part 2) because “reasonable compensation” is only available “for actual, necessary services rendered.” In other words, a fee or cost is only compensable if it arises from actual and necessary services. Because fee-defense is not a service, according to the Court, it’s not compensable and, thus, its reasonableness is irrelevant.

The Court would have us first determine whether a fee or cost is compensable and if, and only if, it’s compensable, then determine its reasonableness. In fact, it appears that the Court views the reasonableness factors in § 330(a)(3) as irrelevant to the question of whether something is compensable, as those factors presume that the applicable fee or cost satisfies the threshold “Is it compensable?” test. We don’t view it that way. See Question 16 in Part 2

9. How does the Court address § 330(a)(6) regarding fee app preparation?

The Government relied on § 330(a)(6) which provides that “[a]ny compensation awarded for the preparation of a fee application shall be based on the level and skill reasonably required to prepare the application” (emphasis added). However, the Court rejects the Government’s argument that “because time spent preparing a fee application is compensable, time spent defending it must be too.” The Court explains that, whereas fee application preparation is a service rendered to the estate administrator, “defense of that application is not.” The Court relies on a strained analogy to a “car mechanic’s preparation of an itemized bill”: Preparation of the bill is a service to the customer because it helps the customer understand and even dispute its bill; however, a “subsequent court battle over the bill” is not a “part of the ‘services rendered’ to the customer.”

Further, the Court, without naming them as such, quotes against the Government the United States Trustee Large Case Fee Guidelines. In the Guidelines, the USTP opined that fee app preparation is compensable because it’s “not required for lawyers practicing in areas other than bankruptcy as a condition to getting paid” but fee app defense is not compensable because it’s “for the benefit of the professional and not the estate.”

Finally, the Court distinguishes its “remark” in Commissioner, Ins. v. Jean that “[w]e find no textual or logical argument for treating so differently a party’s preparation of a fee application and its ensuing efforts to support that same application.” The Court explains that “everyone agreed” that the Equal Access to Justice Act (EAJA) at issue in Jean “authorized court-awarded fees for fee-defense litigation” because “fees and other expenses . . . incurred . . . in any civil action” didn’t support a distinction between the legal work and fees defending it. And based on the Court’s narrow reading of “services rendered,” the language in § 330(a)(1) “reaches only the fee-application work.”

At bottom, the Court didn’t view “reasonable compensation” (an “open-ended phrase”) as a “specific and explicit” provision signaling a departure from the American Rule.

[Admittedly, we weren’t aware that the Fee Guidelines already come down so hard on post-preparation fees and costs (including explaining, defending, or litigating the application). However, Baker Botts takes it a step further by eliminating from the Guidelines any notion that compensation might be available if an applicant “substantially prevails” at trial in defending its application. Some suggest that, before Baker Botts, the “substantially prevails” approach in the Guidelines was the “majority” approach. Not anymore.]

10. How does the Court address the “parity” issue regarding non-bankruptcy professionals? 

“Ultimately,” the Court holds, the “Government’s theory rests on a flawed and irrelevant policy argument”: that awarding defense fees is a “judicial exception” that is “necessary to the proper functioning of the Bankruptcy Code.” Specifically, argues the Government, uncompensated fee-defense costs “will be particularly costly” because multiples parties can object in bankruptcy versus the usual lawyer versus client dispute outside of bankruptcy.

The Court rejects the Government’s argument for two reasons. First, the Court refused to substitute “unsupported” and “policy-oriented” predictions for the “statutory text,” especially given that the Government had argued the opposite view below (i.e., “requiring a professional to bear the normal litigation costs of litigating a contested request for payment . . . dilutes a bankruptcy fee award no more than any litigation over professional fees”) (we add emphasis for Part 2). Second, the Court figured that the threat of sanctions under Rule 9011 provides a sufficient deterrent or remedy for “frivolous” fee objections (more on that later, too).

In short, text trumps policy:

  • “Our unwillingness to soften the import of Congress’ chosen words even if we believe the words lead to a harsh outcome is longstanding” (quoting Lamie v. United States Trustee, 540 U. S. 526, 538 (2004)) (internal quotation marks omitted). “[T]hat is no less true in bankruptcy than it is elsewhere.”
  • “Our job is to follow the text even if doing so will supposedly ‘undercut a basic objective of the statute.’”

[But for the Court’s Thursday ruling in King v. Burwell, those quotes (joined by Chief Justice Roberts) might not be surprising. However, in upholding the health insurance tax subsidies (“saving Obamacare!” as some accuse or celebrate), Chief Justice Roberts explained that “in every case we must respect the role of the Legislature, and take care not to undo what it has done. A fair reading of legislation demands a fair understanding of the legislative plan. Congress passed the Affordable Care Act to improve health insurance markets, not to destroy them. If at all possible, we must interpret the Act in a way that is consistent with the former, and avoids the latter.”]

In Part 2, we will dive into the dissent, challenge aspects of the decision, and explore the potential impact of Baker Botts, especially on Chapter 11 debtors’ attorneys. Stay tuned.

In the meantime, we encourage you to subscribe to Plan Proponent to receive important updates as they’re posted (including Part 2).