ABI Commission to Study the Reform of Chapter 11
IV. Proposed Recommendations: Commencing the Case 23
of the estate, such as retaining their jobs or downplaying prepetition events that may implicate them in the debtor’s financial distress.84
Although the criticisms of the debtor in possession model raise some valid concerns, rather than being caused by management, a company’s chapter 11 filing is frequently triggered by a downturn in the overall economy, a fluctuation in markets particular to the debtor’s industry (e.g., pricing of a commodity necessary to the debtor’s operations), or a failed (but not negligent or fraudulent) business strategy. In these instances, the debtor’s management team typically maintains the confidence of the debtor’s stakeholders and can be an asset to the debtor’s reorganization efforts. Moreover, in some cases, the debtor may have replaced certain (or all) of its directors or officers either well before or shortly before filing in anticipation of the chapter 11 filing. These management changes may include the appointment of a chief restructuring officer who is often an experienced restructuring professional.85 Accordingly, the debtor’s management immediately preceding the petition date may be completely divorced from the decisions, actions, and circumstances that contributed to the debtor’s distress.
The Bankruptcy Code also places certain checks on the debtor in possession’s power and decision-making authority in chapter 11. For example, the debtor in possession may be replaced by a trustee for cause; a statutory unsecured creditors’ committee frequently is appointed to oversee the debtor in possession’s conduct and to represent the interests of unsecured creditors; major decisions and transactions require notice, hearing, and court approval; and the U.S. Trustee and parties in interest have standing to raise and be heard on matters in the case.86 In addition, the directors, officers, or similar managing persons of the debtor in possession are bound by their state law fiduciary duties.87
The Debtor in Possession: Recommendations and Findings
The Commission considered the arguments in favor of and against the debtor in possession model. It also reviewed the potential alternatives to the debtor in possession model, which include the mandatory appointment of a trustee (as under Chapter X of the 1898 Bankruptcy Act), a receiver, or an administrator to replace the debtor’s management as of the petition date. In these alternative structures, management could stay in place and continue to work for the debtor, but it would be stripped of all management powers, which would then be vested in the trustee, receiver, or
84 See LoPucki, supra note 82, at 733 (“Because the[] [management] retain[s] the benefits of risk taking without suffering a corresponding share of the losses, it may be in their interests that the company take risks not justified by the expected returns to the company.”). 85 See, e.g., Butler, et al., supra note 77, at 356 (“Employing turnaround professionals as CROs has become common in recent years. Often creditors insist that companies install third-party CROs in the midst of a dire financial situation.”). 86 For a general discussion of the parties overseeing the debtor in possession in chapter 11, see Butler, et al., supra note 77. See also 11 U.S.C. § 1103 (detailing duties of statutory committees; id. § 1104 (appointment of trustee); id. § 1109 (explaining standing of parties in interest). 87 Courts generally defer to the fiduciary duties of the debtor in possession’s directors and officers under applicable state law. See, e.g., In re Schipper, 933 F.2d 513, 515 (7th Cir. 1991) (applying state law fiduciary duties and rejecting common law or other duties akin to those of a trustee). The case law concerning the beneficiary of these duties is mixed, with some courts suggesting, for example, that the duties might be owed to the estate, specific creditors, or all creditors, while others again defer to state law. See, e.g., Petit v. New Eng. Mortg. Servs. Inc., 182 B.R. 64, 69 (D. Me. 1995) (quoting In re Ionosphere Clubs, Inc., 113 B.R. 164, 169 (Bankr. S.D.N.Y. 1990)) (“[D]ebtor in possession is a fiduciary of the creditors and, as a result, has an obligation to refrain ‘from acting in a manner which could damage the estate, or hinder a successful reorganization.’”) (citation omitted). See also In re Brook Valley VII, Joint Venture, 496 F.3d 892, 900 (8th Cir. 2007) (“Debtors in possession and those who control them owe fiduciary duties to the bankruptcy estate. The fiduciary obligations consist of two duties: the duty of care and the duty of loyalty.”); In re Coram Healthcare Corp., 271 B.R. 228, 235 (Bankr. D. Del. 2001) (“The DIP must not self-deal, cannot act with a conflict of interest and must not take actions which are improper.”). As explained below, the Commission addressed these issues in its deliberations.