(I’m told that these are “Boomerang Tubes”)
Back in September, we blogged about two pending Delaware bankruptcy cases regarding fee-defense costs after Baker Botts, L.L.P. v. ASARCO: In re Boomerang Tube, LLC, et al. and In re Northshore Mainland Services, Inc., et al. (a/k/a the Baha Mar case). In Baker Botts, the Supreme Court held that professionals employed under § 327(a) of the Bankruptcy Code may not, under § 330(a), recover as compensation fees incurred in defending their bankruptcy fee applications. Here’s a link to our combined Q&A post.
This post will serve as an update, as Delaware’s Judge Walrath entered an opinion on Friday sustaining the United States Trustee’s objection in the Boomerang case. In short, she held that neither § 328(a) nor a retention agreement provides a sufficient Baker Botts workaround. Her reasoning, which we’ll summarize, tracks with our analysis from July and September.
First, § 328(a), like § 330(a), doesn’t provide a statutory exception to the “American Rule” on attorneys’ fees. Second, even if the engagement letter is a contract, it remains subject to bankruptcy court approval. Therefore, it doesn’t provide a contractual exception to the American Rule on attorneys’ fees. Ultimately, § 330(a), as limited by Baker Botts, determines the reasonableness of a fee provision.
As a reminder, the Boomerang Tube Committee proposed in its attorney employment application that, as “part of the compensation payable to Brown Rudnick, the Committee agrees that Brown Rudnick shall be indemnified and be entitled to payment from the Debtors’ estates, subject to approval by the Court pursuant to 11 U.S.C. §§ 330 and 331, for any fees, costs or expenses, arising out of the successful defense of any fee application by Brown Rudnick in these bankruptcy cases in response to any objection to its fees or expenses in these Chapter 11 cases.” It also cited § 328(a) in support of the proposed indemnification.
Andrew Vara, the Acting United States Trustee in Delaware, objected here. He made five objections. We summarized them here, but here they are again:
- Like § 330(a), § 328(a) doesn’t overcome the American Rule.
- After Baker Botts, fee-defense is not a compensable “service.”
- Indemnification is not a “reasonable” term under § 328(a).
- Indemnification fails under § 330(a), the exclusive compensation provision.
- Professionals can’t overcome Baker Botts via mere consent.
The Boomerang Decision
Judge Walrath’s opinion is a good, easy read, but here are the high points:
First, the Court acknowledges that § 328(a) is an exception to § 330(a). However, like § 330(a), § 328(a) doesn’t explicitly authorize an award of fees to a prevailing party in adversarial litigation. Therefore, without more, the American Rule (i.e., each party pays its own fees) still applies. In contrast, the Court then catalogs at least 6 other Bankruptcy Code provisions that do contain American Rule exceptions. See p. 6 of the opinion.
Second, the Court makes an important distinction: Baker Botts doesn’t hold that § 330 prohibits fee-defense compensation. Rather, it simply doesn’t provide a statutory basis for it. Therefore, Baker Botts doesn’t preclude the possibility of a contractual exception to the American Rule. And thus the issue: Do retention agreements provide an American Rule exception (and Baker Botts workaround)? The Court answers “No.”
Specifically, the Court agrees that retention agreements are contracts. However, they still must provide “contractual exceptions” to the American Rule. The Court holds that the subject agreement provides no such exception. Rather than viewing the agreement as an agreement between 2 parties that the losing party pays the winning party’s fees, the Court views it as an agreement between the Committee and its proposed counsel that if counsel prevails on a fee objection, then a third party (the bankruptcy estate) will pay the fee defense costs. That contract, concludes the Court, can’t bind the estate (i.e., a non-party).
Third, and we think more convincing, the Court views the retention agreement as a contract that’s subject to Court modification and approval under the Bankruptcy Code. As the Court views it, the proposed fee defense provisions are not “reasonable” terms under § 328(a) because they propose compensation for fee-defense which, after Baker Botts, is not a “disinterested” “service” for which compensation can be owing. It doesn’t matter what one party may have agreed to if that agreement conflicts with the Code.
As a reminder, § 328(a) emphasizes “reasonable terms and conditions of employment.” Further, explains the Court, even if courts have permitted similar indemnification provisions, they did so before Baker Botts and, even then, those cases usually involved financial advisors for whom indemnification is common outside of bankruptcy. Further still, the Court concludes that, after (dicta in) Baker Botts, § 330(a), not market factors, is the appropriate focus for assessing reasonableness under § 328(a).
Finally, the Court concludes that the outcome doesn’t change if one views the fee-defense exercise as an “expense” rather than as a “fee.” According to the Court, both are subject to the American Rule and to Baker Botts. It also predicts that the Supreme Court would have stuck with its ruling even if there had been a § 328(a) agreement already in place in Baker Botts.
Therefore, the Court rejects the Committee’s 328-based fee-defense provision. It didn’t contemplate a compensable service and, thus, it failed.
As with the Ninth Circuit’s “absolute priority rule” decision from last week, we’ll have more to say about the Boomerang opinion. For example, I suspect that my colleagues will take issue with some of Judge Walrath’s comments regarding whether the estate is or can be a party to a retention agreement. Additionally, I wonder whether the outcome might differ in cases involving agreements between debtor’s counsel and the debtor itself. We also repeat from our September post: Could the Committee’s proposed professionals get an indemnity agreement from the Committee members themselves?
For the moment, our opinion hasn’t changed: Baker Botts is a bad decision because the American Rule makes no sense in the bankruptcy context. Put another way, the Code itself provides the statutory exception to the American Rule. However, as long as § 330 remains tethered to the American Rule, it’s likely a losing battle for professionals seeking fee-defense compensation, no matter how creative they get. For the immediate § 328 issue, we can’t see how the Supreme Court would have read § 327 and § 330 together to exclude defense costs from compensation, but then read § 328 and § 330 together to include defense costs in compensation. Section 330 and, thus, Baker Botts, sits on top of § 328.
In short, we read Baker Botts as the Supreme Court’s (erroneous) determination that the payment of defense costs out of the bankruptcy estate is never reasonable. Hopefully, the Committee’s counsel will appeal–presumably on its own nickel, given Baker Botts.
We’ll keep you posted. If you’d like to stay on top of this issue and other important confirmation issues, then you can subscribe to Plan Proponent via email here.