The Adelphia Creditors Committee filed an adversary proceeding against approximately 380 defendants, including bank lenders, investment banks and their agents, alleging wrongdoing in the defendants’ dealings with Adelphia’s former management who looted the company. The complaint asserted numerous claims for relief in connection with borrowing facilities under which Adelphia became liable to repay the banks for billions of dollars that went to the insiders.

In refusing to grant defendants’ motion to dismiss the complaint, the court rejected in pari delicto and other defenses. Adelphia Communications Corp. v. Bank of America, et al. 365 B.R. 24 (Bankr. S.D.N.Y., June 11, 2007). The discussion below summarizes rulings by the court that are of particular significance.

Aiding and Abetting

One of the key rulings the court made in the Adelphia case is that a claim for aiding and abetting breach of fiduciary duty is actionable in Pennsylvania.

Applying New York choice of law principles, the court determined that Pennsylvania law should apply. Because the Pennsylvania Supreme Court had not yet spoken on the existence of the tort, the court found that it must decide what the Pennsylvania Supreme Court would do if presented with the issue. Taking into consideration “all reliable data tending convincingly to show” how the highest court in the state would decide the issue, the tort was found to exist.

In Pari Delicto

The court rejected the defense of in pari delicto.

The defendants argued that the aiding and abetting claims should be dismissed under the in pari delicto doctrine because the wrongful conduct of the insiders was imputed to the Committee, thereby absolving the defendants from any liability they might otherwise have as a matter of law.

The court noted that the application of the in pari delicto doctrine to aiding and abetting claims was a matter of state agency law and equity doctrine. Turning to Pennsylvania law, the court determined the doctrine did not call for a mechanical application of the law of agency, but rather involved “discretionary attention to the fairness of applying it to the facts in a given case,” including the extent to which its application would be “at the expense of innocent creditors.”

In reaching its conclusion, the court rejected contrary analysis by the U.S. Court of Appeals for the Third Circuit in Official Committee v. Lafferty & Co., 267 F.3d at 340 (3d Cir. 2001), which imputed the fraud of an officer to the debtor and applied the doctrine to bar an action by the creditors committee. The court found that it was not bound by Lafferty because on a matter of state law, the views of a federal court, even a circuit court of appeals, cannot trump those of a state’s highest court.

Finding further that Lafferty never reached an analysis of the law on equitable defenses, the court concluded that the Pennsylvania Supreme Court would reject the notion that equitable defenses can never be raised against a trustee plaintiff, and would allow a court applying Pennsylvania law the discretion to bar the use of the defense when under the circumstances “its invocation would produce an inequitable result.” The court suggested that the Lafferty court should have said the trustee is subject to the same defenses as if the action been instituted by the debtor—to the extent the defenses can be imposed under the nonbankruptcy law under which the causes of action lie.

Equitable Disallowance

The court further concluded that equitable disallowance of claims is permitted. The court rejected the notion that Congress intended to foreclose the possibility of equitable disallowance of a claim, as opposed to equitable subordination, which is expressly authorized under section 510(c) of the Bankruptcy Code. In the court’s view, it could determine whether such disallowance was appropriate under the circumstances of a given case.