On March 22, 2017, the Supreme Court, in Czyzewski et al., v. Jevic Holding Corp., et al., confirmed that the Bankruptcy Code does not permit “priority skipping” in Chapter 11 structured dismissals. In doing so, the Court held that, although the Code does not explicitly provide what, if any, priority rules apply to the distribution of estate assets in a Chapter 11 structured dismissal, “[a] distribution scheme in connection with the dismissal of a Chapter 11 case cannot, without the consent of the affected parties, deviate from the basic priority rules that apply under the . . . Code.”
Jevic Holding Corp. (“Jevic”) filed for Chapter 11 following a failed leveraged buyout. Jevic owed $53 million to its senior secured creditors and over $20 million to tax and general unsecured creditors. Jevic’s Chapter 11 filing generated two significant legal actions: (1) a claim from its employees that Jevic, and others, had violated state and federal Worker Adjustment and Retraining Notification (“WARN”) Acts; and (2) an action for fraudulent conveyance brought by the official unsecured creditors’ committee (the “Committee”) against Sun Capital Partners, Inc. (“Sun”), Jevic’s private equity owner, and its secured lender, CIT Group, Inc. (“CIT”).
Jevic’s former employees prevailed at summary judgment on their WARN Act violation claims and were awarded, among other things, $8.3 million for wage claims.
Jevic negotiated a settlement of the fraudulent conveyance action with Sun, CIT and the Committee. The settlement agreement provided for: (1) dismissal of the fraudulent conveyance action; (2) CIT’s contribution of $2 million to pay the Committee’s legal fees and expenses; (3) Sun’s assignment of its lien on Jevic’s remaining assets, worth $1.7 million, to a trust for the payment of taxes, administrative expenses and distribution to Jevic’s unsecured creditors; and (4) dismissal of the Chapter 11 case.
In short, the settlement proposed to dismiss the bankruptcy case while providing distributions to Jevic’s secured creditors and general unsecured creditors, but providing no distributions to the $8.3 million WARN wage claims that had priority over unsecured claims under chapter 11 plan principles.
The Bankruptcy Court approved the settlement and dismissal over the objections of the wage claimants and the U.S. Trustee. The Bankruptcy Court recognized that the settlement and dismissal violated the ordinary priority rules of the Code, but held that, without the settlement and dismissal, there would be no meaningful distribution for any creditor, accordingly approval of the structured dismissal was appropriate. The District Court affirmed, holding the priority rules of the Code were “not a bar to the approval of the settlement as it is not a reorganization plan.” In re Jevic Holding Corp., 2014 WL 268613, *3 (D. Del., Jan. 24, 2014). The Third Circuit affirmed.
The Supreme Court reversed and held that the Bankruptcy Court could not order a structured dismissal that distributes estate assets in a manner contrary to the Code’s priority rules without the consent of the impacted creditors. Relying on the legislative history of the Code and its plain language, the Court noted that “we would expect to see some affirmative indication of intent if Congress actually meant to make structured dismissals a backdoor means to achieve the exact kind of nonconsensual priority-violating final distributions that the Code prohibits in Chapter 7 liquidations and Chapter 11 plans.” Additionally, the Court observed that the dismissal under the Code “seek[s] a restoration of the pre-petition financial status quo,” accordingly approval of a dismissal that permits “priority skipping” did not, in the Court’s view, preserve the pre-petition status quo.
Jevic’s holding is narrow – it does not prohibit structured dismissals it only prohibits non-consensual structured dismissals that violate the Code’s priority principles. However, the Court’s strong adherence to Congressional intent and the objectives of the Code combined with its rejection of the Bankruptcy Court’s attempt to reach a resolution to address Jevic’s “dire circumstances” suggest that Bankruptcy Courts may take a more structured, rules driven approach rather than relying on equitable or “best under the circumstances” reasoning in approving out-of-plan distributions. In addition, the Court’s strong priority protection ruling will likely add new arguments to other priority disputes (e.g., “gifting plans” and “structured asset sales”).