SCOTUS Prohibits Non-Consensual Structured Dismissals in Deviation of Bankruptcy Code Priority Scheme

  • United States
  • 03/29/2017
  • Duane Morris LLP & Affiliates

In Czyzewski et al. v. Jevic Holding Corp., et al., 580 U.S. __ (2017), decided on March 22, 2017, the United States Supreme Court held that a bankruptcy court cannot approve a non-consensual “structured dismissal” that provides for distributions deviating from the ordinary priority scheme of the Bankruptcy Code. The ruling reverses decisions of the U.S. Bankruptcy Court for the District of Delaware, the U.S. District Court for the District of Delaware and the U.S. Court of Appeals for the Third Circuit, as well as carries implications for current and future restructurings and bankruptcy proceedings.

The use of structured dismissals as a mechanism to resolve difficult cases where a debtor was unlikely or unable to confirm a plan (often following a sale where proceeds were insufficient to pay all administrative expenses) had gained wide acceptance among practitioners and courts in recent years – especially in the Third Circuit.

Factual Background

In 2006, Jevic Transportation, Inc., a New Jersey trucking company, was acquired by Sun Capital Partners through a leveraged buyout. By May 2008, Jevic’s financial situation had worsened significantly. Jevic halted almost all operations, terminated its employees and filed a petition for relief under chapter 11 of the U.S. Bankruptcy Code.

Two lawsuits quickly followed. First, the petitioners in this case, a group of truck drivers, filed suit against Jevic and Sun Capital, alleging, among other things, violations of the Worker Adjustment and Retraining Notification (WARN) Act. That suit resulted in the Bankruptcy Court for the District of Delaware granting judgment in favor of the truck drivers. The judgment totaled $12.4 million, $8.3 million of which constituted a priority wage claim under Code section 507(a)(4).

Second, the Official Committee of Unsecured Creditors filed fraudulent conveyance suits against both Sun Capital and CIT, the debtor’s lenders, alleging that both had facilitated an “ill-advised” buyout that eventually precipitated Jevic’s bankruptcy by burdening the company with an overwhelming amount of debt.

Despite the estate’s dearth of assets, the parties reached agreement for a settlement and so-called structured dismissal as follows: (1) the fraudulent conveyance action would be dismissed; (2) CIT would deposit funds to pay the Committee’s legal fees and administrative expenses; (3) Sun Capital would assign its lien on the debtor’s cash to a trust; (4) the trust would use the debtor’s cash to pay taxes and administrative expenses, with the remainder to be used to pay a dividend to general unsecured creditors; and (5) Jevic’s bankruptcy case would be dismissed.

Notably, Sun Capital insisted that the distributions out of the trust not include distributions to the truck driver-petitioners, as it contended that such a distribution would only further fund WARN litigation that was then-pending against it. Under the Bankruptcy Code, the drivers’ priority wage claims ranked above general unsecured claims in the distribution waterfall.

Decisions of the Lower Courts

While acknowledging the proposed settlement’s divergence from the Code’s priority scheme, the bankruptcy court approved the settlement and structured dismissal in light of the “dire circumstances” present in the case. The U.S. District Court for the District of Delaware and the U.S. Court of Appeals for the Third Circuit both affirmed the bankruptcy court’s holding. Specifically, the Third Circuit Court of Appeals held that structured dismissals need not always respect the priority schemes of the Code, and that Congress had only “codified the absolute priority rule . . . in the specific context of plan confirmation.”

The Supreme Court

After addressing and dismissing contentions raised by the respondents challenging the truck driver-petitioners’ standing, the Supreme Court turned to the core issue of the case: whether a bankruptcy court may, without the consent of creditors whose claims are impaired, approve a structured dismissal that provides for distributions that deviate from the ordinary priority rules of the Bankruptcy Code. The Court answered this “complicated question” with a simple “‘no.’” The Supreme Court grounded its conclusion in a strict adherence to the text of the Bankruptcy Code, and a recognition for the need to maintain the protections that the Code confers upon creditors. In recognizing the Code’s priority scheme as fundamental, the Court found nothing within the Code that might justify deviation from that scheme, and noted that something more than “simple statutory silence” would be necessary to allow for a major departure from the scheme.

The Court did, however, acknowledge and address Code section 349(b), a provision that permits a bankruptcy judge to dismiss a case “for cause,” and one heavily relied upon by the respondents in advancing their position in the lower court proceedings. The Court concluded that this provision should be read in the context of the entire Code, and that the provision did not grant blanket authorization to bankruptcy judges, but instead offered them the “flexibility to ‘make the appropriate orders to protect rights acquired in reliance on the bankruptcy case.’” As nothing in the Code authorizes a court to make final distributions of estate assets that violate the priority scheme, the Court found “the word ‘cause’ [to be] too weak a reed upon which to rest so weighty a power.”

Impact

The immediate effect of Jevic will be that practitioners may no longer structure dismissals in any manner that deviates from the priority scheme of the Bankruptcy Code without the consent of impaired creditors. The opinion may also end up being cited in unexpected ways in connection with other situations in bankruptcy cases where courts allow deviation from the strict priority scheme of the Bankruptcy Code such as “gifting” in plans and “critical vendor” payments, payment of pre-petition wages and other first-day relief.

For Further Information

If you have any questions about this Alert, please contact Rudolph J. Di Massa, Jr., Christopher M. Winter, any of the attorneys in the Business Reorganization and Financial Restructuring Practice Group or the attorney in the firm with whom you are regularly in contact.

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