On June 13, 2012, the United States Bankruptcy Court for the Northern District of Texas issued a memorandum decision in a chapter 15 case in which it refused to give effect to non-debtor releases under a Mexican plan of reorganization on the basis that such releases were manifestly contrary to the public policy of the United States.
Vitro, S.A.B. de C.V. (the Debtor) is the subject of a proceeding under the Mexican Business Reorganization Act and an ancillary proceeding in the United States under chapter 15 of the Bankruptcy Code. Prior to these proceedings, the Debtor issued several series of notes that were guaranteed by its direct and indirect subsidiaries.
The subsidiaries are neither debtors in the Mexican Proceeding nor protected by any stay in the United States. Certain noteholders sued the subsidiaries in New York state court seeking to recover on the guarantees and obtained a temporary restraining order enjoining the subsidiaries from voting on the Debtor's plan of reorganization in the Mexican Proceeding. However, after the temporary restraining order was itself enjoined by the Bankruptcy Court, the reorganization plan was approved in Mexico on the strength of the subsidiaries' votes.
Among other things, the plan provided for the novation and extinguishment of the guarantees, effectively discharging the subsidiaries even though they were not debtors. Notwithstanding the approval of the plan in Mexico, the noteholders continued their attempts to collect on the guarantees, leading the Debtor's foreign representatives to file a motion seeking to enforce the terms of the plan in the United States (the Motion).
Chapter 15 of the Bankruptcy Code contains various provisions allowing a foreign representative to seek additional relief in aid of a foreign proceeding. These include section 1507 of the Bankruptcy Code, which allows a court to grant "additional assistance," and section 1521, which allows a court to grant "any appropriate relief." Relief under section 1507 is subject to the same factors as under former section 304(c) of the Bankruptcy Code, the statutory predecessor to chapter 15, and a court must consider whether such relief will reasonably assure, inter alia, (i) the just treatment of holders of claims against or interests in the debtor's property, (ii) protection of claim holders in the United States against prejudice and inconvenience in the processing of claims in such foreign proceeding, (iii) prevention of preferential or fraudulent dispositions of property of the debtor, (iv) distribution of proceeds of the debtor's property substantially in accordance with the order prescribed by the Bankruptcy Code. Any relief that may be granted by a court under chapter 15 is also limited by section 1506, which provides that a court may refuse to take an action that would be manifestly contrary to a public policy of the United States. The legislative history behind his provision, as well as numerous courts, have limited this exception to the most "fundamental" public policies of the United States and have approved, among other things, foreign procedures that did not provide for a jury trial.
The Bankruptcy Court refused to enforce the plan on numerous grounds:
- As set forth above, in granting additional assistance under section 1507 a court must, among other things, consider whether such assistance will ensure "distribution of proceeds of the debtor's property substantially in accordance with the order prescribed by [the Bankruptcy Code]." The Bankruptcy Court held that the plan did not do so because it eliminated the noteholders' ability to pursue the subsidiaries, treating the noteholders as if they did not have the benefit of guaranties and thereby reducing their overall recovery on the notes to substantially less than they would have received in a case under the Bankruptcy Code. In so holding, the Bankruptcy Court applied section 1507's requirements not only to the Debtor's property, but to the property of the subsidiaries. This is arguably a technically incorrect result, given that the subsidiaries are not debtors in the Mexican Proceedings and their assets would not be "distributed" in a plenary proceeding under the Bankruptcy Code.
- Section 1521(b) provides that, upon recognition, a court may entrust the distribution of all or part of the debtor's assets in the United States to a foreign representative provided that the interests of United States creditors are sufficiently protected. Similarly, section 1522(a) provides that in granting relief under section 1521, the interests of creditors and other interested entities must be sufficiently protected. The Bankruptcy Court held that the plan did not satisfy these requirements either, holding that the plan effectively entrusted the distribution of the subsidiaries' assets to the foreign representative in Mexico without sufficiently protecting the noteholders in the United States. As with its analysis of section 1507, the Bankruptcy Court treated the subsidiaries as if they were debtors in the Mexican Proceedings.
- Finally, the Bankruptcy Court held that the plan was manifestly contrary to the public policy of the United States. Noting that applicable law in the Fifth Circuit was generally hostile to granting non-consensual non-debtor releases and permanent injunctions except in limited circumstances, the Bankruptcy Court observed that "generally speaking, the policy of the United States is against discharge of claims for entities other than a debtor in an insolvency proceeding." On this basis, the Bankruptcy Court denied the Motion on the basis that the releases of the non-debtor subsidiaries contained in the plan was manifestly contrary to the public policy of the United States.
The Bankruptcy Court's statements as to the primacy of preserving third-party claims are inconsistent with a body of chapter 15 case law enforcing in the United States non-debtor releases that have been approved in a foreign plenary proceeding on the basis of comity, as well as similar relief granted in plenary chapter 11 cases. Notable among these is the 2010 case of In re Metcalfe & Mansfield Alt. Invs., 421 B.R. 685 (Bankr. S.D.N.Y. 2010), in which the United States Bankruptcy Court for the Southern District of New York gave effect in the United States to a Canadian restructuring plan that allowed for broad third-party releases of parties that had participated in the negotiation of the plan. The Bankruptcy Court specifically distinguished Metcalfe on the basis that (i) the plan in Metcalfe had near-unanimous creditor approval, (ii) the Metcalfe plan had been negotiated between the parties and no objection had been filed in Canada, the jurisdiction of the foreign proceeding, and (iii) the release was "not complete." By contrast, the Bankruptcy Court characterized the plan as "non-consensual" and a complete extinguishment of the noteholders' claims against the subsidiaries.
Though the decision on its face condemns the enforcement of third-party non-debtor releases in the United States through chapter 15, the Bankruptcy Court appears to preserve the case for such enforcement where such releases are not "complete" and there is substantial consensus. The releases in Metcalfe, for example, had a carve out for fraud and it was generally acknowledged by the parties and the Canadian court that the restructuring plan in that case would not have been viable without the releases. It is also important to note that the Fifth Circuit is particularly hostile to non-debtor releases and is more likely to find them violative of public policy. It is more difficult to conclude that they are manifestly contrary to public policy in other circuits where they are seen with some frequency. Also, it is possible that the Bankruptcy Court was motivated, at least in part, by the particular circumstances under which the plan had been approved in Mexico. Among other things, the insider votes of the subsidiaries themselves had been critical to the approval of the very plan that purported to discharged their guarantee obligations. However, the Bankruptcy Court did not explicitly discuss these concerns, and at best its decision creates uncertainty around the enforcement of non-debtor releases in the United States.
The Bankruptcy Court's decision is stayed until June 29, 2012 to allow the Debtor time to appeal and seek a stay on appeal. Accordingly, this may not be the last word on this topic, and we will provide updates upon further development.