When does the selection of a technically correct venue become “unjust”? This was the core question Judge Shelley Chapman was required to grapple with when Patriot Coal and almost 100 of its affiliates filed for bankruptcy in New York this past summer. Should it matter that Patriot Coal created the New York subsidiaries, that permitted a New York court filing, about a month prior to the actual bankruptcy filing? Did it matter that the New York bankruptcy courts, at least debatably, had the most experience with the issues that were likely to arise in the cases and thus could be fairly argued to be the best venue for obtaining the quickest and surest legal analysis of the relevant issues? In a thorough and thoughtful opinion, Judge Shelley Chapman answered all of these questions, finding that “creating” jurisdiction on the eve of a bankruptcy filing was, in fact, “unjust” even though technically permitted. See In re Patriot Coal Corp., 482 B.R. 718.

Statutory Basis for Venue

Section 1408 of Title 28 of the United Stated Code provides that bankruptcy cases may be commenced in any of the 98 federal court districts in which a debtor is incorporated, has its principal place of business (its headquarters) or holds its principal assets. Thus, for example, a company incorporated in Delaware may properly file for bankruptcy in the “District of Delaware.” Given the large number of corporations incorporated in Delaware (and to a lesser extent, New York), this gives many larger corporations at least one additional location in which it may file for bankruptcy (Delaware or New York) in addition to the location of its headquarters. The ability of corporations to take advantage of this rule, especially when added to the second venue rule discussed below, sometimes leads to seemingly strange venue outcomes.

The second part of Section 1408 permits a subsequent case or cases filed by affiliates of a company that has already filed for bankruptcy to be filed in the original case’s judicial district. This means that a company with many different subsidiaries can file a bankruptcy petition for a subsidiary that is incorporated in a favored venue in that venue and then, minutes later, also file all its remaining affiliates in that venue. Famously, this is exactly what occurred in the 1989 Eastern Airlines bankruptcy cases, the 2001 Enron bankruptcy cases and the 2009 General Motors and Chrysler bankruptcy cases. Even if the above eligibility criteria related to a specific federal court district are satisfied, a court may still transfer a bankruptcy case to another district “in the interest of justice or for the convenience of the parties.” See 28 U.S.C. § 1412. Courts have generally found that the district in which a bankruptcy case is filed is presumed to be the appropriate district as a debtor’s choice of forum is entitled to great weight. As such, the burden of proof on a request to transfer venue is on the movant.

Background Facts

On June 1, 2012, more than a month before Patriot and its affiliates filed for bankruptcy, a Patriot subsidiary named PCX Enterprises, Inc. was incorporated under New York law. On June 14, 2012, a second Patriot entity, Patriot Beaver Dam Holdings, LLC, was formed under New York law. As was subsequently confirmed at the hearing on venue selection, at the time of incorporation through the time of filing, neither PCX nor Patriot Beaver Dam had employees, business operations or offices in New York. However, PCX’s principal asset, a checking account with $97,985, was opened at a bank branch in Manhattan.

In addition, a certificate evidencing Patriot Beaver Dam’s 100% membership interest in another Patriot affiliate, Beaver Dam Coal Company, LLC, was held in New York City.

On July 9, 2012, PCX filed a bankruptcy petition under chapter 11 in the United States Bankruptcy Court for the Southern District of New York. Its petition listed the county of residence as New York County, New York and indicated that its principal assets were located in New York, New York. Patriot Beaver Dam also filed a petition on that day reflecting essentially the same factual ties to New York. Immediately thereafter, the parent of PCX and Patriot Beaver Dam, Patriot Coal Corporation, as well as 96 affiliates filed bankruptcy petitions in the Southern District of New York. Each petition noted, as is allowed under Section 1408(2) of Title 28 of the United States Code, that there already existed pending bankruptcy cases (PCX and Patriot Beaver Dam) concerning an affiliate in the Southern District of New York. Patriot later acknowledged that it created both PCX and Patriot Beaver Dam to ensure that the provisions of 28 U.S.C. § 1408(1) were satisfied and for no other purpose.

Of relevant note to the court’s analysis (described below), of the 99 Patriot debtors, fifty were formed in Delaware, thirty-seven were formed in West Virginia, four in Kentucky, one in Indiana and, as discussed above, PCX and Patriot Beaver Dam were formed in New York. The debtors’ corporate executive offices were located in St. Louis, Missouri. Substantial mining operations were located in West Virginia and Kentucky, although the debtors had substantial mining reserves, properties and other interests and ties to numerous other states. Additionally, and among many other facts, while creditors were located in many jurisdictions, the majority (but not 100%) of the top 50 largest creditors ultimately expressed their support of the Southern District of New York as the venue for these bankruptcy filings.

Motions to Transfer Venue

Almost immediately after the Patriot bankruptcy filings, the United Mine Workers of America filed a motion to transfer the Patriot cases to the Southern District of West Virginia. Certain additional motions and joinders related to the venue transfer request were subsequently filed by various other case parties. The US Trustee also subsequently filed a motion to transfer venue. Interestingly, the US Trustee did not identify a venue to which it believed the cases should be transferred.

Judge Chapman’s Analysis

Judge Chapman found that the technical requirements of Section 1408 had been satisfied because the New York companies were domiciled and had their principal assets in New York. Judge Chapman also stated that she did not believe that the debtors’ decision to file in New York had been made in “bad faith.” Indeed, the court acknowledged that filing for bankruptcy in New York might even be consistent with the debtors’ fiduciary duties. Thus, the question that the court focused on was whether the eve-of-filing steps taken by the debtors should be considered in a transfer request made under the “interest of justice” prong of 28 U.S.C. § 1412. Judge Chapman believed that the answer was “yes.”

The court explored various analogous situations, including the legal framework in tax referred to as the “substance-overform doctrine.” That doctrine states that literal compliance with a statute may not be acceptable if the actions taken do not comport with the statute’s purpose. Ultimately, the bankruptcy court found that it could not allow the debtors’ choice to stand. Doing otherwise, explained the court, “would be an affront to the purpose of the bankruptcy venue statute and the integrity of the bankruptcy system.” According to the court, the creation of “PCX and Patriot Beaver Dam solely for the purpose of establishing venue is not ‘the thing the statute intended.’” Having answered the difficult question on whether a case filing made in literal compliance with the statute can be transferred for the “interests of justice,” the court turned to the next difficult question: what should be the future venue of these bankruptcy cases?

The motion to transfer venue brought by the United Mine Workers of America (as well as others) sought to transfer the cases to West Virginia. However, the United Mine Workers’ specific arguments did not convince Judge Chapman. Because coal is located in West Virginia and because the judges in West Virginia “understand” and live near coal miners, grew up with coal miners, worship with coal miners and break bread with coal miners is not good justification to transfer venue to West Virginia. That result would, according to the court, give the miners what they perceive to be an advantage over others. “But it is not in the interests of justice merely to swap one party’s home field advantage for another.” Accordingly, the court categorically rejected “such a parochial formulation of justice.”

Ultimately, the court determined that the best choice of venue for the bankruptcy cases would be the Eastern District of Missouri, the location of the Debtors’ corporate headquarters.

Implications and Takeaways

The issue of bankruptcy venue gets as much attention in Congress as it does in courts. In fact, there are almost annual public debates in Congress as to whether the bankruptcy venue statutes should be modified to limit a debtor’s venue choice to, among other options, the place where it is headquartered. This is often favored by lawyers and judges outside of Delaware and New York on basic fairness grounds: why should a corporation be allowed to select a specific venue for a bankruptcy filing where it seems to do little or no business?

Ultimately, the bankruptcy court found that it could not allow the debtors’ choice to stand. Doing otherwise, explained the court, “would be an affront to the purpose of the bankruptcy venue statute and the integrity of the bankruptcy system.” In addition, these parties argue that local creditors should have the opportunity to participate more fully in a bankruptcy case. A contra-argument is that, at least in mega-bankruptcies, the law and procedures are best known in Delaware and New York and that certainty in outcome and process leads to a quicker and cheaper resolution of matters. (Interestingly, by repeatedly seeking to obtain more “certainty” in outcome and process, debtors and their lawyers are creating even stronger “magnet” courts in Delaware and New York.) The latter approach does not seem inconsistent with normal corporate decision making on similar types of issues. After all, Delaware is often selected by larger corporations as a place for incorporation because the state corporate law is very well developed and the (state) judiciary that addresses corporate law issues is held in high-regard.

From the Patriot decision, we note the following “takeaways”:

  • Technical compliance with the Section 1408 provision on bankruptcy jurisdiction may be insufficient as courts may still consider whether an otherwise valid filing is “unjust” under Section 1412.
  • A company creating bankruptcy jurisdiction in a given venue on the eve of a bankruptcy filing is particularly subject to assertions that that the filing was “unjust.”
  • Patriot does not suggest that the approach to venue selection analysis has changed where venue was not intentionally “created” on the eve of a bankruptcy filing. That is, if a large corporation had a subsidiary that was incorporated in a favored district long ago, Patriot does not suggest that the corporation cannot file a bankruptcy petition for that subsidiary in the subsidiary’s state of incorporation (and thus create jurisdiction for all for all of that corporations’ affiliates). This is true even if the subsidiary is tiny and has no meaningful influence on the corporation’s businesses.
  • Debate over venue selection is likely to continue.