ABI Commission to Study the Reform of Chapter 11
IV. Proposed Recommendations: Commencing the Case 57
policymakers and the public alike, but a look behind the numbers cited in these headlines may reveal a different story.208 In fact, empirical studies show that the total amount in professionals’ fees in a chapter 11 case is generally a modest percentage of the debtor’s assets, revenues, and distributions to creditors.209 But these studies do not change the perception — whether or not accurate — that every dollar an estate pays in chapter 11 costs is one less dollar available to pay creditors.210 As pointed out by one professor who has studied professionals’ fees extensively, this perception necessarily ignores the value that professionals add to the estate during the pendency of a chapter 11 case for the benefit of all parties in interest.211
The U.S. Trustee and some commentators have criticized not only the overall amount of professionals’ fees, but also the hourly rates of bankruptcy professionals, particularly in large chapter 11 cases.212 The Office of the U.S. Trustee, for example, has raised concerns about lawyers charging hourly rates of $1,000 or more in some of the larger chapter 11 cases.213 These and other compensation concerns recently led the Office of the U.S. Trustee to propose and ultimately adopt fee guidelines specifically applicable to professionals in chapter 11 cases involving $50 million or more in assets or liabilities.214
208 It is noteworthy that the court-appointed fee examiner recommended that the bankruptcy court approve the fees and expenses for 47 professional firms in the American Airlines case in the amount of nearly $400 million, noting that these professionals engineered “perhaps the most efficient airline reorganization case on record.” Id. (The fee examiner in the American Airlines case was Robert Keach, Co-Chair of the Commission. In addition, several other Commissioners were involved in the American Airlines case.) Indeed, the value created in the merger of American Airlines and US Airways as part of American Airlines’ reorganization plan resulted in all of American Airlines’ creditors receiving full value on their claims and American Airlines’ shareholders receiving shares amounting to approximately 40 percent of the merged company — at a market cap that exceeded the stand-alone value of American Airlines at any prior point in its history. Scholars have not analyzed whether the cost of fee examiners exceeds their benefit to the estate. 209 Professor Lubben’s study revealed that across all bankruptcy cases, and even across large chapter 11 cases specifically, professionals’ fees totaled 4.0 percent to 4.5 percent of the sum of the debtor’s assets and debts. Lubben, Corporate Reorganization & Professional Fees, supra note 205, at 103. See also Greenspan, supra note 204. These results are consistent with earlier fee studies. Based on a 2004 study of large chapter 11 reorganization cases filed from 1980 through April 2003, Professors LoPucki and Doherty found that some of the largest debtor cases expended less than 3 percent of their total assets to pay for professionals’ fees. Lynn M. LoPucki & Joseph W. Doherty, The Determinants of Professional Fees in Large Bankruptcy Reorganization Cases, 1 J. Empirical Legal Stud. 111, 140 (2004) (“For a group of 48 firms with assets ranging from about $65 million to $7.5 billion, and averaging $881 million, we found that total fees and expenses were 1.4 percent of total assets reported in the court file at the beginning of the bankruptcy case, and that firms expended, on average, 2.2 percent of assets on professional fees (1.9 percent after the removal of a single outlier).”). Professors LoPucki and Doherty explained that economies of scale were at play in large chapter 11 cases, such that the larger the debtor, the lower the ratio of restructuring fees and expenses the debtor incurred relative to its assets. Id. at 126. Earlier, Professor Baird also observed that the direct costs of bankruptcy for large, publicly traded companies was relatively small, between 0.9 percent and 7.0 percent, and an average of 2.8 percent, of the book value of the assets before the filing of the bankruptcy petition, which was comparable to or less than the costs of an initial public offering, private placement, or leveraged buyout. Douglas G. Baird, The Hidden Virtues of Chapter 11: An Overview of the Law and Economics of Financially Distressed Firms, Coase-Sandor Inst. for L. & Econ. Working Paper No. 43, 1997, at 11–12, available at http://chicagounbound. uchicago.edu/law_and_economics/527/. 210 Under Bankruptcy Code section 503(b)(2), “compensation and reimbursement awarded under section 330(a) of [the Bankruptcy Code]” are classified as “administrative claims.” 11 U.S.C. § 503(b)(2). Section 507, which sets forth the priority order for the payment of unsecured creditors, elevates the payment of “administrative expenses allowed under section 503(b)” above the payment of all other unsecured debts (except domestic support obligations). 11 U.S.C. § 507(a)(1). Therefore, in a chapter 11 case that cannot support full recoveries to all creditors, administrative claims reduce the amount of funds that will be available for distribution to unsecured creditors. 211 “Being in chapter 11 means that creditors’ recovery on their claims becomes higher than zero. The professional fees are the cost of moving to that higher recovery. The notion that money paid to professionals belongs to creditors is true only if the creditors could realize that value without the professionals.” Lubben, What We “Know” About Chapter 11 Cost is Wrong, supra note 44, at 144. “The cost paid to chapter 11 professionals is an example of the old truism that sometimes you have to spend money to make money. In chapter 11, creditors have to spend some money to recover some of what is due to them. In the main, the value of chapter 11 professionals’ time was never a value that creditors could capture. Pretending that fees paid to professionals represents a real loss to the creditors demonstrates little more than muddled thinking.” Id. at 145. 212 Nancy B. Rapoport, Rethinking Professional Fees in Chapter 11 Cases, 5 J. Bus. & Tech. L. 263, 270–271 & n. 28 (2010), available at http://digitalcommons.law.umaryland.edu/jbtl/vol5/iss2/5 (summarizing published criticisms of professionals’ fees in chapter 11 context). 213 Jacqueline Palank, $1,000/Hour Bankruptcies: Attorneys Justify Their Fees, Wall St. J. (June 3, 2012, 6:29 PM) (“The Justice Department has grown increasingly restless with attorney fees — often exceeding $1,000 an hour — paid by companies going through a bankruptcy reorganization.”). 214 The new fee guidelines became effective for cases filed on or after November 1, 2013. Appendix B — Guidelines for Reviewing Applications for Compensation and Reimbursement of Expenses Filed Under 11 U.S.C. § 330 by Attorneys in Larger Chapter 11 Cases, 78 Fed. Reg. 36,248, 36,249 (June 17, 2013), available at http://www.justice.gov/ust/eo/rules_regulations/guidelines/docs/ Fee_Guidelines.pdf [hereinafter UST Fee Guidelines]. “Generally, the final guidelines provide for a showing that rates charged