The Scourge of Bankruptcy - Dundon Advisers · 2017-12-11 · The Scourge of Bankruptcy: ......

The Scourge of Bankruptcy:

Successful Strategies to Collect Judgments & Prevent

Employers from Dissipating Assets

Prepared for NELA 2017 Spring Seminar

March 31, 2017, Silver Spring, Maryland

Moderator: Michael Sweeney1

Panelists: Rebekah Bailey2 and Matthew Dundon3

This Primer may be distributed only by NELA to its members. This

Primer is not to be cited or submitted in any proceeding and does not

substitute for qualified legal or financial advice in any case.

1 Member, Getman, Sweeney & Dunn, PLLC New Paltz, NY. JD 1996 Fordham University

Law School. Getman, Sweeney & Dunn specializes in wage and hour class and collective

actions. getmansweeney.com.

2 Partner, Nichols Kaster PLLP, Minneapolis, MN. JD 2008 University of Minnesota Law

School. Nichols Kaster is a diversified consumer and employment class action firm. nka.com,

linkedin.com/in/rebekah-bailey-1a9abb82/.

3 Principal, Dundon Advisers LLC, Scarsdale NY. JD 1998 University of Chicago Law School.

Dundon Advisers’ distressed litigation advisory practice focuses on large plaintiff actions in

corporate bankruptcy. dundon.com, www.linkedin.com/in/dundon.

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http://www.getmansweeney.com/

http://www.nka.com/

https://www.linkedin.com/in/rebekah-bailey-1a9abb82/

http://www.linkedin.com/in/dundon/

NELA Spring Seminar 2017 The Scourge of Bankruptcy

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Contents

Business Bankruptcy 101 ................................................................................................................ 3

What business bankruptcy seek to achieves 3

Basic US bankruptcy and other insolvency proceedings 3

Consolidation and venue 5

Two key principles: conversion to a claim, and automatic stay 6

Ranking “waterfall” – administrative and 507(a)(4) claims in particular 6

Treatment of contingent claims, such as (usually) yours 8

Bankruptcy is a font of information 9

A familiar, yet foreign forum 10

Practice Guide ............................................................................................................................... 12

Preface – avoiding bankruptcy risk to begin with 12

Your defendant is threatening bankruptcy – what to do? 13

Your defendant has filed for bankruptcy – first steps 15

Value the debtors and your potential recoveries 15

Obtain representative status, if applicable 18

Obtain local and/or specialized bankruptcy counsel if needed 18

Obtain a financial adviser if needed 19

Seek a seat on the Official Committee of Unsecured Creditors 20

Attend meeting of the creditors 20

Take a 2004 examination 21

File proofs of claim 21

Continue the substantive litigation 22

Attractive settlement features 24

Analyze the information made available on a continuing basis 24

Participate constructively in the process 24

Special cases: natural person debtor, wage and hour insurance, substantive

consolidation 25

Analyze and act upon dispositive proposals (bulk asset sales and/or a Plan) 25

Post-Exit disputed claims practice 27

Fees and expenses 27

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Business Bankruptcy 101

What business bankruptcy seek to achieves

The Bankruptcy Code4 provides a means for insolvent companies to reorganize or liquidate

according to the following policy priorities, which emerge from statute, precedent, and practice:

Protect the business from near-term threats by halting lawsuits and collection efforts,

providing short-term financing, and assuring continuity of worker pay, insurance coverage,

customer programs, utility services, and other critical items

Determine the assets of the business

Determine the enforceable liabilities of the business

Rank those liabilities according to the presence and value of collateral or guarantees,

possession of priority under the law, or being subject to subordination by contract or equity

Maximize the value of the business for creditors by sale or reorganization of assets and

collection of damages and disgorgements from people who damaged the value of the

business or received improper or preferential value from the business

If the business is to reorganize, rather than liquidate, to put in place a business plan and

financing structure which gives the reorganized business the best chance to succeed

If the business is to liquidate, to do so as efficiently as possible

Distribute to creditors according to their relative priorities the value of the business, and, if

they are paid in full, the balance back to original shareholders, noting these distributions can

be in cash, debt, stock, or contingent interest in future events (like litigation outcomes)

To the extent possible, do the above with the consent of creditors

To the extent possible, do the above while minimizing the adverse impact of the above upon

employees, customers, vendors and the communities in which the business operates.

Basic US bankruptcy and other insolvency proceedings

Incorporated businesses seeking to restructure will almost always utilize proceedings under

Chapter 11 of the Code, which permits existing management to conduct ongoing businesses as

well as the bankruptcy5. Large businesses seeking to liquidate will usually also use Chapter 11;

some large businesses and most small business seeking to liquidate will use Chapter 7. In many

4 United States Bankruptcy Code of 1978, as amended. 11 U.S.C § 1, et. seq.

5 In a typical Chapter 11, Boards will remain intact, while existing executives are supplemented or replaced by

specialized restructuring professionals. In relatively rare Chapter 11 cases, the Court can displace the existing

management entirely in favor of an appointed Trustee. A Trustee is always appointed in Chapter 7 cases.

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small business cases, a parallel individual Chapter 7, Chapter 11 or Chapter 13 bankruptcy of the

business’s owners will proceed on account of their personal guarantees of or other vicarious

liability for the business’s obligations, their use of personal borrowing such as credit cards or

home equity lines to finance the business, or their reliance upon business profits for their

household income. Sole proprietorships or general partnerships will be recognized or liquidated

in the course of their owner(s)’ personal Chapter 7, Chapter 11 or Chapter 13 cases.

Chapter 11 and Chapter 13 cases culminate in Plans for restructuring, liquidation or repayment

of debt. Chapter 7 cases culminate in Chapter 7 trustee’s formal or informal scheme for

liquidation of non-exempt assets and distributions of the same. This Primer will refer to all the

foregoing as Plans for the sake clarity. Chapter 11 and Chapter 13 cases have a formal

conclusion of the case in chief with the implementation of their Plans and a post implementation

period, while Chapter 7 cases have initial distributions and then subsequent distributions. This

Primer will refer to initial implementation / distribution point as “Exits” for the sake of clarity.

Bankruptcy cases are almost always heard in the US Bankruptcy Court6. There is one

Bankruptcy Court for each Judicial District with a varying number of Bankruptcy Judges.

Bankruptcy Judges are Article III judges appointed for terms of 14 years by the US Court of

Appeals for the Circuit in which the District lies. The appointment of Bankruptcy Judges is in

both principle and practice apolitical and only respected veteran local bankruptcy lawyers are

ever appointed. Bankruptcy Court decisions are appealed to the District Court or a circuit-wide

Bankruptcy Appellate Panel7 and thence to the US Circuit Court of Appeals, and are eligible for

certiorari to the US Supreme Court. In practice, higher courts usually defer to Bankruptcy

Courts and the extreme time sensitivity of business bankruptcy issues often operates to moot

appeals. The vast majority of questions before a Bankruptcy Court are disposed of on legal or

equitable grounds, and rules8 limit juries to when all parties request a jury; in consequence, juries

have no role in modern bankruptcy.

While this Primer focuses on Code proceedings, they are not the exclusive means to adjudicate

business insolvencies. Numerous state law procedures exist, such as liquidations, trusteeships,

receiverships, and assignments for the benefit of creditors, and are usually deployed when the

bankruptcy process is too expensive given the state of the business, or when debtors, creditors

and other stakeholders don’t require the unique protections of the Code. Insurance companies,

banks and brokerages are prohibited from using bankruptcy, and instead are liquidated by state

insurance regulators, the FDIC or SIPC, respectively. Many principles and practices of which

this Primer speaks are seen in these alternative proceedings as well.

The vast majority of business bankruptcies are commenced by the debtor, and as such are called

“voluntary,” although there’s often significant duress in that decision, including imminent

6 Technically, the Bankruptcy Court hears cases on reference from the District Court, and in extremely rare instances

the District Court will “withdraw the reference” and preside over bankruptcies directly.

7 Bankruptcy Appellate Panels are not used in the key Second or Third Circuits; their members are Bankruptcy

Judges from other Districts of the Circuit than the one from which the decision under appeal originated.

8 Federal Rules of Bankruptcy Procedure 9015.

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collection on judgments and foreclosure of secured assets. A small fraction of business

bankruptcies are “involuntary.” These cases are commenced pursuant to 11 U.S.C. § 303 by the

petition of at least three creditors holding undisputed claims of material amount9, and must

truthfully allege that the business is generally not paying its debts. The motivation for an

involuntary proceeding is usually to stop a company from engaging in or continuing acts or

omissions which waste value, or to stop other creditors from taking self-serving actions which

damage the creditor body as a whole. (Sometimes those “bad” creditor acts are unilateral, other

times they are in collusion with management.) The filing of an involuntary petition has the same

initial effect as the filing of a voluntary petition. Immediately after an involuntary petition is

filed, the debtor and other creditors have an opportunity to petition the Court to dismiss the

petition if it is not warranted under the Code or in the interest of the company and the creditors.

(The requirement that a claim be both undisputed and unpaid accordingly will prevent wage and

hour litigants from being part of an involuntary bankruptcy petition until and unless they have a

settlement or judgment that has matured to collectability under its terms and applicable non-

bankruptcy law, and the requirement that debts are generally going unpaid will usually make the

refusal to pay a litigation judgment insufficient as a standalone basis for an involuntary petition.)

Consolidation and venue

Business cases often involve multiple entities filing simultaneously. These cases will always be

“administratively” consolidated under a single caption and docket number, and often will end up

“substantively” consolidated with all creditors and all assets of the petitioners considered as if

they were a single company. (See below for a detailed discussion of substantive consolidation.)

Over the years, the U.S. Bankruptcy Courts for the Southern District of New York and the

District of Delaware have taken on a dominant role in business bankruptcies, and until the last

couple of years any large business case was virtually certain to be filed in one of those

jurisdictions, with notable exceptions mainly driven by the desire of the debtors to create

uncertainty, access an esoteric provision of non-Second and -Third Circuit bankruptcy

jurisprudence, or gain (hoped for) hometown advantage. Since 2014, a significant share of major

energy cases have been filed in the Southern District of Texas, in large part due to the

willingness of the Houston Bankruptcy Judges to emulate the big-case rules and procedures

found in S.D.N.Y. and Delaware. Jurisdiction and venue in S.D.N.Y. or Delaware is almost

always proper because of the domicile of one or more administratively consolidated debtor, and

the invariable election of New York law and jurisdiction of Manhattan courts in any significant

credit agreement or bond indenture. (S.D.N.Y. filers will often belt-and-suspender by citing to

an operational location in Manhattan.) Debtors and creditors can also cite the expertise of those

courts’ Bankruptcy Judges, extensive and reliable precedent at both the Bankruptcy Courts and

the related District Courts and Circuit Courts of Appeals, and the proximity of the most

sophisticated bankruptcy lawyers and professionals, most of whom work out of New York,

Philadelphia or Wilmington. In rare cases, creditors are successful in shifting a Delaware or

S.N.D.Y. case closer to home, but that typically requires a case where a large body of creditors

likely to take losses are concentrated in another location, and an argument can credibly be made

about efficiency and economy of the process if moved.

9 For certain small businesses, the threshold is lower.

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A very important note for wage and hour practitioners is that much of what big business

bankruptcy professionals consider to be “the” law, standard or custom about any particular

bankruptcy question is in fact only “the” law, standard or custom prevailing in S.D.N.Y. or

Delaware. When you find yourself in case outside of those venues led by counsel who usually

practice within those venues—especially a non-Second/Third Circuit venue—never hesitate to

question when something is asserted to be the way it is, because in that court and Circuit, it may

indeed not be.

Two key principles: conversion to a claim, and automatic stay

When a defendant files for bankruptcy, the act of so doing converts all of its litigation liabilities,

whether liquidated by judgment or settlement, or merely contingent as is the case in pending

litigation, into claims in the bankruptcy. Those claims are entitled to be paid, if at all, only to the

extent of value generally available to claimants at the same legal priority. In addition to this

conversion of liability, bankruptcy also automatically stays all state and federal court litigation

against the debtor, and prohibits the initiation of any unfiled litigation against the debtor.10

The

stay is broad, prohibiting, for example, plaintiffs from sending demand letters. Be sure to honor

the stay as a debtor can file an adversary action against you, seeking penalties for willful

violations. Unless the stay is released by petition to the Court, from the moment of bankruptcy

until the conclusion of the case, all proceedings relating to your litigation will be in the

Bankruptcy Court.

Ranking “waterfall” – administrative and 507(a)(4) claims in particular

A near-sacred principle of bankruptcy is the “Rule of

Absolute Priority” – the concept that each tier of claims,

based upon priority at law, should be paid before the

next tier receives anything. Practitioners will often use

the metaphor of a “waterfall” to refer to this, but in fact

the metaphor is more to the way that water (or for the

celebratory, Champagne) flows down a pyramidal stack

of champagne glasses—each tier of glass must be filled

to the brim before anything drains down to the next.

The top of the waterfall is secured claims, but only the

extent of their collateral’s current market value. Secured

claims are not only entitled to be paid first on their

collateral value at the completion of a bankruptcy case,

but are entitled to “adequate protection” in the meantime

against anything reducing the value of that collateral. A

debtor who can’t persuade the court that a secured

lenders’ collateral is adequately protected can end up

having that collateral foreclosed in the middle of the

case, often with the very bad consequence of other

creditors given the damage to the business. When a secured claim exceeds the actual current

10 11 U.S.C. § 362.

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value of the collateral, the balance is a called a “deficiency” claim and is merely a general

unsecured claim. Wage and hour plaintiffs very rarely will have effectively secured claims; it

would take a pre-petition judgment that matured to something upon which a lien could be

imposed, and in general pre-petition judgment liens have limited enforceability in bankruptcy.

Because of the priority afforded to secured claims, the holders of secured claims, typically banks

and sometimes bondholders, will have great power in a case, and unsecured creditors will focus a

great deal of energy on investigating the validity and perfection (under the UCC or mortgage

laws) of the liens. When secured claims are held by shareholders of the debtors (i.e., the owners

lent or purported to loan money or acquired third parties’ loans), there are often important

additional arguments to be made about the validity or permitted seniority of the liens.

Next in the waterfall is administrative claims. While they come in many varieties, for a wage

and hour practitioner their key inclusion is wages and benefits for work performed after the

bankruptcy started and they matter because they are entitled to be paid in full ahead of any

other unsecured obligation and are in practice almost always paid in full even at the

expense of pre-petition secured lenders. In a case where (for example) pre-petition unsecured

claims generally recover a dime on the dollar, you’d reasonably want to spend ten times the

resources identifying these administrative post-petition claims. If you are representing a class or

collective group of workers with an end date on your period, you may want to look for additional

single-event claims you can aggregate (from class members, or others). Other administrative

expenses include expenses of the professionals administering a bankruptcy, obligations to

vendors for deliveries in the 20 days preceding a filing11

, and other liabilities which originated

after the petition date of the bankruptcy.

Next in the waterfall is priority claims. There are numerous flavors here, but critical among

them for wage and hour practitioners are claims provided by priority by 11 U.S.C. § 507(a)(4).

507(a)(4) grants priority status to a worker’s claim for unpaid wages and benefits in the 180 days

before the petition, up to a limit of $12,850 per worker for each unpaid wages and unpaid benefit

(this amount will be adjusted in 2019 and each three years thereafter). While 507(a)(4)’s use for

wage and hour cases is not uncontroversial or certain, you have no downside for asserting them

in good faith.

Next are general unsecured claims. This is the default for litigation claims and will be the

destiny for any claims relating to services performed more than six months pre-petition or later

to the extent 507(a)(4) is found not to apply, as well as any claims for legal fees. (But see our

comments on legal fees in general later.) Certain claims which are general unsecured as

concerns the debtor and the body of creditors will actually be subordinated to specific other debt

by contract, and will be liable to have what would be their recoveries “paid over” to the

designated senior debt. As a rule, wage and hour claims will be unaffected by this – they will be

neither subordinated nor benefit from other creditors’ being subordinated. In addition to

unsecured bonds, litigation claims, and vendor claims too stale for 503(b)(9), general unsecured

claims is the class for the damages sought by landlords and commercial contract counterparties

11 Universally referred to as 503(b)(9) claims, as they are provided for by 11 U.S.C. § 503(b)(9) and rule thereunder.

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for leases and commercial contracts that the Code permits the debtor to terminate (“reject”) at a

loss to the landlord or counterparty.

Next are claims generally subordinated by contract law or court order. In rare instances, a

contractual claim will be a debt that stipulates its subordination to all other debt – seen most

frequently in the capital structures of financial institutions. In cases where debt is held by

someone whom the Court determines to have been a bad actor, or to have provided debt only as a

means of rescuing an equity investment, that debt can be subordinated by court order.

Finally come equity interests. Equity interests, such as preferred or common stock, are to be

paid last. But, of course, equity owners often control debtors and will if allowed their way find

ways to vindicate their equity interests or otherwise use their control to benefit themselves. Just

as unsecured creditors need to police upwards against secured creditors, unsecured creditors also

have to police down to make sure that equity isn’t being paid prematurely or in excess of what it

deserves.

Treatment of contingent claims, such as (usually) yours

Unless you are going into bankruptcy with a settlement or a judgment, your claim will be

initially labeled contingent and unliquidated. If you develop a factual basis for a precise amount

of a claim, it can be described as liquidated. If and when the debtor or another creditor formally

opposes your claim, it becomes “disputed.” If and when your claim is vindicated, it ceases to be

contingent and becomes “allowed” in the amount vindicated.

A contingent claimant has the procedural rights and standing of an allowed claimant until and

unless it is withdrawn or the court approves a motion to disallow it. In practice, a court may

weigh a contingent claimant’s arguments more lightly if the debtor or other creditors make a

strong case for the weakness of his or her underlying claims, but if the legal arguments or fact

arguments are strong, the court should allow you to prevail.

Contingent and disputed claims are often settled during the active phase of a bankruptcy, and

thus become “allowed” claims and receive the Plan’s treatment for claims of that allowed

amount and rank, whatever it may be, at the exit from bankruptcy.

Finally, appreciate claim disputes which can’t be settled are often unable to be fully adjudicated

during the course of the bankruptcy case in chief, and if unsettled persist as disputed claims after

the Exit, to be resolved post-exit by a mechanism provided by the Plan. In this case, a portion of

the recovery allocated to claims of the class of the disputed claims must be set aside, and

ultimately paid to the claimant if his or her claim is ultimately allowed (to the extent allowed), or

to the other creditors as a second payment to the extent that claim is ultimately disallowed. Note

that even if the claim is litigated after Exit, you are fighting for Plan recoveries at their recovery

rate, and not for the full value of the award or settlement (unless the recovery rate happens to be

100%). The burden is on you to make sure a Plan provides an appropriate disputed claims

process and that the amounts set aside are adequate; this is a key area of late-case practice

discussed in the practice guide below.

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Bankruptcy is a font of information

Bankruptcy requires debtors to provide copious information about the business’s assets,

liabilities, revenue, and expenses, even if the company was privately held. This information will

be on the PACER docket for a case, available to you at a per-page charge like all other PACER

data. In large corporate bankruptcies, the PACER docket will be reproduced with documents

available for free on the website of the claims and noticing agent who will be appointed.12

Important sources of information that will be provided to you without your intervention include:

The debtor’s initial petition under the Code, in particular its listing of major unsecured

creditors and (sometimes) secured creditors, equity holders and litigation claims

The debtor’s “first day motion” petitions for short-term financing, continuation of insurance,

employee benefits, and the like

The extensive statement or affidavit of the facts and circumstances that typically

accompanies the first day pleadings of larger Chapter 11s, and always does in cases in the

key jurisdictions of Delaware, the Southern District of New York, and the Southern District

of Texas

Schedules of assets and liabilities and statements of financial affairs, which are filed

relatively early in a case (although often subject to delay)

Monthly reports of debtors’ operations, including revenue, expenses and cash flow

A formal meeting between management and creditors, usually called a Section 341 meeting,

typically held one or two months after the case commences, in which you can directly

question management or the trustee (if one is appointed)

Affidavits in support of motions for relief of all sorts, as those motions are made, especially

concerning asset sales and determinations to assume or reject leases or executory contracts

Additional confidential information given to the Official Committee of Unsecured Creditors,

should you happen to be a member of the Committee

The register of claims maintained by the Court or a claims agent

Pleadings of other creditors and groups of creditors and the FRBP 2019 disclosures filed by

their counsel, which identify group members and the nature and size of their claims.

12 The identity of the agent will typically be found on the PACER docket in the form of a motion to approve its

appointment. Otherwise you can search the major agents’ websites, the large majority of cases appointing one of the

following vendors; KCC, Epiq, PrimeClerk, Donlin Recano/AST, Rust/Omni, or BMC.

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Reports of an “Examiner” who may be appointed – typically only in the largest of business

cases and then limited only to certain controversies about improper conduct of managers,

shareholders or affiliates before the bankruptcy

The “Disclosure Statement” which is required to accompany any proposed non-Chapter 7

Plan, and which will provide key information about the expected impact upon various classes

of claims of the proposal

In addition to the above, you also have the ability to make use of the expanded discovery

provisions of FRBP 2004 if there is information of consequence to you which is not being

provided, particularly if (a) substantive issues related to your case come before the Bankruptcy

Court or (b) due to neglect or collusion other creditors are not effectively advocating for the

creditor cause broadly and you initiate motion and other practice to do so yourself.

A familiar, yet foreign forum

To a civil litigator, Bankruptcy Court can be disorientating. The experience is likened to visiting

Italy, when you have only studied Spanish in school. The language (terminology) is somewhat

familiar, but conversations (procedures) can be difficult to follow. For example, the terms

“case” and “litigation”—two terms civil litigators use interchangeably—are not necessarily

synonymous in bankruptcy. A bankruptcy case may involve several litigation matters. An

“adversary proceeding”, for example, is the name of a lawsuit filed in a bankruptcy case and

usually tried in the Bankruptcy Court during or after the reorganization or liquidation case in

chief. A party initiates an adversary proceeding by filing a complaint, a familiar process. The

proceeding receives a traditional caption (Smith v. Jones) and “case number”. A “contested

matter”, on the other hand, is a type of litigation that is initiated in the bankruptcy case by motion

or application. Contested matters do not receive a distinct caption or number. Contested matters

may be litigated more quickly than traditional civil litigation, but they proceed similarly with a

discovery process and a trial before the bankruptcy judge.

Bankruptcy procedure is governed by the Federal Rules of Bankruptcy Procedure (“Bankruptcy

Rules”), which are similar to the Federal Rules of Civil Procedure, but with some distinct

differences. For example, Bankruptcy Rule 7004 allows for nationwide service of process. This

broader rule, however, does not apply to the service of subpoenas. When navigating the

Bankruptcy Rules, note that there are specific rules in Part VII (the “7000 Series”), governing

adversary proceedings, while the rules pertaining to contested matters are contained elsewhere in

Part IV.

Another unfamiliar practice is the Bankruptcy Court’s notice and hearings process. It is not

uncommon for a party to give “notice” of its intent to do something. If no one objects to the

notice, then that party moves forward with its intended action without a hearing. Alternatively, if

someone objects, a hearing is set for argument. This practice requires participants to keep a

close eye on the bankruptcy docket for potential areas of dispute. This leads to another

distinction between bankruptcy and federal civil matters: there are a lot more hearings in

Bankruptcy Court, generally speaking, and things move much faster, and all parties and the

Court will have a consistent bias for action and hostility to anything that smacks of delay for

tactical or strategic advantage.

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Evidence, on the other hand, is handled similarly. Bankruptcy Rule 9017 incorporates the

familiar Federal Rules of Evidence. See also Bankr. Rule 9014(d). In practice though,

Bankruptcy Courts may be less strict in their implementation of the rules of evidence. This is

likely because of the absence of juries or perhaps the willingness of bankruptcy judges to

implement practical business solutions at the expense of more rigid court procedures.

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Practice Guide

Preface – avoiding bankruptcy risk to begin with

The first step in dealing with the scourge of bankruptcy is avoiding it all together. While we

cannot always be sure that a defendant will be able to withstand a judgment, there are steps you

can take to avoid finding yourself litigating against a bankrupt defendant.

Evaluate the bankruptcy risk during your initial evaluation of the case. By estimating the

probable damages and then investigating the defendants’ assets, you can often have a pretty good

idea of the bankruptcy risk. Resources for asset investigations include public filings, e.g., the

SEC, for publicly-traded companies. Don’t forget that many larger companies may be “privately

held” in the sense that there is no public market for their stock, but still have bonds or bank debt

in the public or institutional markets, and as such provide financial data and operational analyses

at least quarterly to their lenders13

. Look at the market capitalization of the stock, the enterprise

value of the company (its market capitalization, plus its debt, less its cash), and look at the

trading levels and yields of its bonds. Especially if your prospective defendant is a retailer or

manufacturer, look out for ones whose accounts payable and purchase orders are treated as no

longer financeable by factors or export credit agencies. For entities or individuals, databases

such, as Westlaw or LexisNexis’s Accurint, and mandatory state filings can provide financial

information. Other assets that can signal the ability to withstand a judgment include insurance or

bond requirements or large long-term contracts, etc. Electronic searches can reveal a significant

amount about a defendant. For example, PACER and state court docket searches will show

pending litigation against the defendant and/or prior bankruptcies. Targeted internet searches

can also shed light on any financial stress.

As we will discuss in greater detail below, adding defendants is a powerful strategy, it and may

become more powerful as joint-employer and other vicarious liability theories gain steam in

“blue” states as part of their reaction to the Trump’s Administration Department of Labor and

Republican majorities on the NLRB and EEOC. You want to name all the potential defendants

in a case because one defendant filing bankruptcy does not in principle affect your claims against

the others. The FLSA has the broadest definition of “employ” of any federal statute, and it often

covers entities or people who you may not consider employers in the ordinary meaning of the

word. In an independent contractor misclassification case, employer status may adhere to several

layers of sub and general contractors.14

(For example, home health aides in New York are often

employed directly by undercapitalized licensed home care service agencies, but the usually better

capitalized certified home health agencies have regulatory responsibilities for the home health

aides that can establish joint employment.) With multiple defendants, you can usually proceed

against the others if one files for bankruptcy, and barring a third-party release, you will

eventually get your day in court against them if you want.

13 A private company which has issued even one SEC-registered bond publicly reports almost all the same

information as issuers of public stock. A private company which has issued only private-placement bonds and/or

borrowed institutional loans will report that information privately, but that privacy can be very leaky and industry

sources will often have a very good idea if a private-market borrower is financially distressed.

14 See Wage & Hour Div., U.S. Dep’t Labor, Administrator’s Interpretation No. 2016-1 (Jan. 20, 2016).

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Particularly important is that you don’t forget individual (natural person) defendants. The Code

is significantly less protective of individual debtors than corporate debtors, and employment

liabilities which can simply go away uncompensated or nearly so in a low-recovery case against

a business entity can be preserved against a businessperson. Individuals can be considered

employers even where the nominal employer is an entity. An obvious employer is an individual

who owns and handles the day-to-day operations of the employing entity. But, the FLSA is not

so demanding. Anyone who was responsible for the illegal policy may be an employer under the

FLSA. States may provide an even greater reach. For example, in New York State, the ten top

shareholders in a non-public corporation are “jointly and severally … personally liable for all

debts, wages or salaries due and owing to any of its laborers, servants or employees other than

contractors, for services performed by them for such corporation.”15

Under California law,

corporate owners, directors, officers, or managing agents (e.g., department supervisors, payroll

managers, human resources managers, other employees with the authority to transact on behalf

of the business), who violate or cause to be violated various wage and hour laws in the California

labor code can be named as individual defendants in a lawsuit.16

Inclusion of all possible

employers as early as possible in your lawsuit can provide you with much needed leverage if an

entity files for bankruptcy.

Your defendant is threatening bankruptcy – what to do? If you believe a defendant may be filing for bankruptcy in the near future, you need to be careful.

On the one hand, a settlement is a definitive claim in bankruptcy with status not unlike that of a

bond or a loan; the very significant issues that we will discuss in greater detail below regarding

contingent claims won’t apply to you. On the other hand, a settlement, very much including its

provision for legal fees, will be transformed by a bankruptcy filing into a claim, and the recovery

on those claims might be very steeply discounted. So, while the last thing you want to do is to

take a very low settlement to try sneak out before the filing, you also want to make meaningful

concessions in order to have a locked in rather than disputed claim.

A well-advised plaintiff attorney, if the defendant is threatening bankruptcy as part of

negotiations, will seek to receive detailed financial and other information from the defendant

before acting upon such threats. The plaintiff attorney should also carefully consider present and

potentially add-able co-defendants who might not file for bankruptcy because the principle

bankruptcy of the one defendant won’t reduce the liability of the non-debtor defendants. (In

practice, debtors will seek to let their shareholders and affiliates weasel out of liability— this is

discussed in greater detail below regarding “third party releases.”)

The Code has a provision for the “avoidance” of “preferences.” A “preference” is an amount

paid to a creditor in the 90 days17

before a debtor files for bankruptcy which is higher, as a

percentage of the amount owed, than what that creditor would likely receive if it had kept the

obligation outstanding at the time of filing and waited in line with other creditors of the same

15 N.Y. Bus. Corp. Law § 630 (McKinney).

16 Cal. Labor Code section 588.1.

17 365 days in the case of payments made to an insider.

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rank. An “avoidance” is a forced disgorgement, while you go and wait in that line to get

whatever percentage is ultimately distributable on the claims. Payments made in the ordinary

course of the debtor’s business are excluded from avoidance, but the determination of when and

whether the settlement of litigation and the payment of settlements are in the ordinary course is

extremely fact specific and vulnerable to attack. Never settle at a discount in reliance upon being

paid before the commencement of a bankruptcy without the benefit of an (at least) informal

opinion of qualified bankruptcy counsel that the payment won’t be subject to avoidance as a

preference, because if it is avoided, you won’t reopen the question of the size of the settlement,

but will simply have a smaller claim subject to the same discount rate to which your bigger

claim would have been.

To avoid this when settling with a defendant who has at one time threatened bankruptcy, you can

demand a provision in a settlement agreement whereby the defendant affirms that it does not

presently intend to commence insolvency proceedings, has not engaged bankruptcy counsel, or

otherwise commenced planning for any insolvency proceeding. Receiving an officer’s certificate

from a corporate officer who would have had personal knowledge can be very helpful, because

you can penalize him personally if it turns out the representations were false. You can also

negotiate provision in your agreement that dissolves the release if a defendant files for

bankruptcy and allows the plaintiffs to prosecute their claims for at least face value that the

settlement would have foregone. Some Bankruptcy Courts would hesitate to enforce such

provisions under the general disfavor of contract provisions which penalize a bankruptcy

proceeding, and others might agree the settlement is invalid but nevertheless rely upon its

amount as good evidence of the extent to which the claim about to be allowed. The following is

one such example of a provision:

This Settlement Agreement represents a compromise of the full value of the Class

Members’ claims. If any defendant becomes a debtor in any bankruptcy,

reorganization, debt arrangement or other proceeding or makes an assignment for

benefit of creditors under any federal, state or foreign bankruptcy or insolvency

law, or a receiver is appointed for any defendant or any assets or businesses of

any defendant (each an “Insolvency Proceeding”) after the time the Participating

Class Members’ releases become effective pursuant to this Agreement, but before

the Class Members receive the full value of their settlement allocation, then the

release provided herein shall be void and defendants shall remain liable for the

full value of the maximum settlement amount remaining to be paid under this

Agreement as of the date of occurrence or commencement the Insolvency

Proceeding. The Class Members and Class Counsel will be permitted to file proof

of claims in any Insolvency Proceeding, the shall be entitled to relief from any

stay imposed in any such Insolvency Proceeding (including, without limitation,

the automatic stay imposed by Section 362 of the Bankruptcy Code or any similar

stay or suspension of remedies under any other federal, state or foreign law) to

allow such Participating Class Members and Class Counsel to prosecute and

liquidate their claims against each defendant, including, without limitation, any

appeals. Notwithstanding the foregoing, if the Participating Class Members and/or

Class Counsel are obligated to disgorge or repay any part of the Court-approved

settlement amounts pursuant to the United States Bankruptcy Code, 11 U.S.C. §

101, et seq. (as amended from time to time, the “Bankruptcy Code”) the law of

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any local, state, federal or foreign jurisdiction or otherwise, then defendants shall

not be released from and shall remain liable for the full value of the Attorneys’

Fees and Litigation Expenses disgorged or repaid.

Your defendant has filed for bankruptcy – first steps This is a hard moment of calculation. Your investment in the case, and your clients’ hopes for

recoveries, have been put into question. In the instant where the defendant has a large amount of

secured debt and you don’t have any good claims for priority, your case may have become

worthless. But in other bankruptcies, your case may have retained 100% of its value. In recent

years, it has become quite common for so-called “pre-packaged” bankruptcies—ones where

management, lenders and bondholders agree on the terms of a bankruptcy before it is even filed

—to provide all non-loan general unsecured creditors, including litigants, with a “ride through,”

i.e., they can resume their litigation after the conclusion of the case and are entitled to payment in

full of their judgment or settlement, if any.

In most bankruptcies, the likely outcome is somewhere in the middle. The critical thing is to

make a case-specific assessment: don’t automatically give up, but don’t keep investing time and

money until you have a good reason to believe the investments are warranted.

Even more critical than taking a step back to analyze your prospects is to do so quickly. If there

is any salient quality of modern business bankruptcy of which plaintiff counsel needs to be aware

it is that it moves extraordinarily fast. Key, and sometime irrevocable, decisions are made in

Court the next business day or two after a bankruptcy case is started, including the imposition of

super-priority liens to secure emergency financing, and the provision of selective benefit to

favored creditors (virtually certain not to include wage and hour litigants!). Many, and

sometimes most, of the pieces are put on the table within a week or two after the case is started,

including the appointment an Official Committee of Unsecured Creditors and the selection of its

legal and financial advisers. Plaintiff counsel who dallies will get a good result only by dumb

luck—and usually will be leaving significant value for their clients and themselves on the table.

Value the debtors and your potential recoveries

In the lucky fraction of cases which give non-financial unsecured claims a “ride through”, you

know what your case is worth— face value—and your task is simply to make sure nothing in the

process disrupts. Most of the time, however, you won’t be so lucky, and need to determine the

value of your claim.

As we discussed above, bankruptcy is at its heart an allocation of the distributable value of the

debtor first to its secured creditors to the extent of their collateral value, then to unsecured

creditors based upon their legal priority, and whatever’s left, if anything, to the old shareholders.

To get a sense of what you and your clients may receive, you therefore need to have an estimate

of the value of the enterprise (what the components of the business might sell for, or how the

market would value the components of the business that are not sold and continue to operate

after Exit) and the value of other distributable assets, such as cash or litigation rights.

In some cases, the market can do all of your work for you, because bonds or trade claims with

which you are equally ranked are trading in the public market. If you have no administrative or

priority claims, and there are senior unsecured bonds issued by your defendant, their trading

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price is, in absence of other evidence, the valuation percentage you should attach to your claims.

When vendor trade claims are trading (and information about that trading is considerably more

obscure), the same 1:1 application can be made.

In mid-size and smaller corporate cases, there will rarely be a trading market in the company’s

obligations, and sometimes even if very large cases, there’s no trading market in obligations with

which you equally rank and so you can’t rely upon the trading markets that are observable. In

these cases you need to do your own work, at least at first.

Many times, significant financial analysis will already have been performed by the company and

its insolvency professionals even before the commencement of the case. There may well be

significant estimates of asset valuation in the affidavit filed in favor of the “first day motions” or

in materials that were used in pre-petition negotiations among the company and its major

financial creditors. A company may file for bankruptcy with an important asset or even the

entire company already marked for sale with a proposed purchase price and some rationale for it

attached. All the materials initially filed should be carefully reviewed for these estimates.

By convention, businesses and their assets are valued by up to three different methods, with the

mid-point value of the viable methods being the valuation estimate. That valuation estimate will

have important persuasive effect upon the Bankruptcy Court until and unless value is actually

liquidated and is no longer a subject of estimation. Of course, different parties in a bankruptcy

court will conduct the analyses differently, using rival valuation professionals often goal seeking

specific values for strategic or tactical advantage, and leaving it to the Bankruptcy Court to

decide as a question of fact whose estimate is more reliable.

While a financial adviser will be a good idea in many cases, these valuation methods are in basic

concept quite simple and capable of at least a preliminary run by a reasonably numerate attorney

using the debtor’s own financial information and Excel.

The three most common methods are “normalized EBITDA multiple,” “comparable sales” and

“discounted cash flow.” We will walk through the first method in greatest detail, as it is the most

common and most popular at least among investment professionals.

“Normalized EBITDA multiple” determines enterprise value by (a) estimating the business’s

normalized earnings before interest, taxes, depreciation and amortization (“EBITDA”), (b)

looking at similar but not financially distressed companies trading in the public stock market and

seeing the average multiple of their enterprise values to their EBITDA, and (c) multiplying the

business’s normalized EBITDA by that industry average multiple.

You normalize EBITDA by looking at the business’s current EBITDA (which will already be

known if the company is public, and which will be disclosed or discoverable for a non-public

debtor) and estimating out how, when the economic or business conditions that caused the

bankruptcy alleviate, certain revenues will be higher or certain expenses different (some will be

lower, others will be higher due to higher revenue-generating activities); in many cases, you can

get a rough estimate by simply looking at what EBITDA was two or three years before the

bankruptcy filing. But beware: some bankruptcies are caused by permanent changes in the

economy or industry; you wouldn’t want to “normalize” the EBITDA of a US thermal coal

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miner based upon its earnings in years before American publicly utilities made a de facto

decision never to build another coal-fired power plant. EBITDA multiples are available on many

different free-to-use financial websites (including Google Finance and Yahoo! Finance). The

challenge with finding comparable EBITDA multiples is choosing valid comparisons. For

example, if Neiman-Marcus were to go bankrupt, you can’t compare it to Wal-Mart, but you can

compare it to Nordstrom.

The “comparable sales” model is similar to “normalized EBITDA” but instead of looking at

market trading levels of comparable companies, you look at recent sales of companies or large

businesses within companies where the purchase price was disclosed and either the revenues or

the EBITDA of the acquired company or business was disclosed or otherwise known, and apply

that multiple to the bankrupt business. The “discounted cash flow” model disregards other

companies and simply relies upon a projection of the normalized cash flows of the business for

some years into the future, applying a “discount rate” which increasingly diminishes the present

value of each of those future year’s cash flow. (It will in general be difficult for an attorney

without significant financial analysis skills to perform a DCF valuation, but you should be able

to understand other people’s DCF valuations at least in broad scope.)

Once you have a rough estimate of valuation, you determine where you come out by applying it

to the waterfall, as discussed above. Public records and the initial package of filings in the case

will give you a sense of the amount of secured debt, all of which you should assume must be

paid before your case has any value, as well as a first guess at the scope of administrative,

priority and general unsecured claims. You simply deduct each tier of claim from the enterprise

value, and then when you reach your likely category of claim, divided by the amount of claims by

the amount of enterprise value remaining.

Here’s a simple example, which for the sake of simplicity will assume that your case pertains

only to unpaid wages for work more than 180 days before the case’s commencement:

Debtor had $20 million in EBITDA in the year preceding the bankruptcy filing. It’s a fertilizer

manufacturer without any particular environmental or operational problems, but fertilizer prices

are highly cyclical, and last year was a bad year. It had $40 million in EBITDA on average in

the three years before the last twelve months. But you know that Chinese companies are

investing in fertilizer export capacity, and so you conservatively “normalize” the EBITDA at $30

million.

Using Yahoo! Finance, you see that there are eight North American companies that specialize in

fertilizer manufacturing, but didn’t have the debtor’s excessive debt load, so they aren’t being

forced into bankruptcy despite the low-price environment. Most of the EBITDA multiples are

between 3x and 5x. One has a multiple of 14x, one has a multiple of 1.5x. You eliminate the

tow outliers and take the (for example) 4.2x average multiple of the remaining companies. You

now have an enterprise value of $30 million X 4.2 or $126 million. You expect the company

will have in addition to its enterprise value about $15 million in cash by the time it exits

bankruptcy based upon its current cash balances and the collection of receivables. You also read

that the company has an anti-trust lawsuit against a group of suppliers that is worth $20 million

to $40 million after legal fees.

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Looking at the first-day pleadings of the debtor, you see that it has a $75 million revolving credit

facility of which $45 million was borrowed, and that it is seeking an emergency additional

financing of $15 million. From this, you know to deduct $60 million from the valuation as

already spoken for. You see that another $10 million to $20 million of expenses are proposed to

be paid “off the top” (for example, insurance, utilities, accrued worker and customer obligations,

and a “critical” supplier or two), and you add another $10 million in legal and advisory fees that

will similarly be paid off the top. (Yes, your law school classmates who went into bankruptcy

probably chose wisely.) That’s another $25 million estimated for the waterfall.

Now, you can estimate what general unsecured recoveries will share in: $126 million plus $15

million (cash) plus $30 million (litigation) less the sum of $60 million and $25 million, or a total

of $86 million. Your next step is to estimate the total amount of the general unsecured claims

including your case. Key here is that you are using the face value, or non-bankruptcy value, of

all claims, including your case. You read in the initial materials or public disclosures that the

company has $125 million in senior unsecured bonds, and estimated its non-priority vendor

accounts payable at $20 million to $30 million. There are three other major litigations to which

you can assign an aggregate settlement value of $10 million to $20 million. You believe your

case has non-bankruptcy settlement value of $10 million. From these numbers, you can build up

a total unsecured claims estimate of $185 million (use the high end of estimates, to be

conservative). This enables you to come up with a bottom line estimate of $86 million divided

by $185 million, or 46%.

Obtain representative status, if applicable

Bankruptcy is by default a proceeding for individual claims. If your claims arise from a class,

collective or other representative action, you must obtain the consent of the Court to advocate for

those claims on a representative basis or file a collective claim for some or all of your causes of

action, even if the underlying action has already been certified as a class. In essence, Rules

7023 and 9014 of the Federal Rules of Bankruptcy Procedure vest it within the discretion of the

Bankruptcy Court to apply class action principles to a bankruptcy case. The extent and nature of

the pleadings required to achieve this will vary, but should be executed with care. (If you know,

or discover, that your attempt to obtain representative status will be contested, this is an area

where bankruptcy co-counsel is likely to be of value.)

A critical point to be made is that even once having obtained representative status, the claims

continue to be individual in their essence and the ultimate resolution of the claims will continue

to require calculation and distribution of individual recoveries, and sometimes even require

individual submission of claim forms or calculations by or for her each worker in your class or

collective group. This mechanic will become very important as you submit Proofs of Claims,

and is something about which you must be well advised.

Obtain local and/or specialized bankruptcy counsel if needed

There are two related issues here: whether substantial bankruptcy counsel is required, and

whether local counsel is required. For wage and hour practitioners with relatively small claims,

especially in cases where value is uncertain, the likely answer may be “neither,” because local

Bankruptcy Court rules permit routine filing by parties in their own name, or by out-of-state

counsel without pro hac vice sponsorship. In general, your best move is not to start incurring

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expense for local counsel immediately, but retain local counsel only when you have identified a

clear need and likely economic benefit.

In certain cases, local rules or customs may dictate the retention of local counsel, but that’s not

necessarily the end of the world. As a general matter the peripheral market bankruptcy bar does

a good job of providing small-footprint, modest-fee local counsel support, although you should

expect to have to fund such costs out of pocket and hope to reclaim them as case expenses on the

back end.

With large claims, particularly where class or collective standing is made at issue, or where there

are other complex questions of bankruptcy law at stake, retention of bankruptcy co-counsel is

likely to be necessary. Most of the time, such counsel will be able to do double-duty as local

counsel—but you should not assume that to be the case. If you are facing a large bankruptcy in a

peripheral jurisdiction, virtually every party will have a New York, Chicago or Los Angeles

lawyer backed up by local counsel, and there may be no local counsel able to handle the issues at

question on their own with sufficient firepower to stand a chance.

Unlike local counsel, substantive bankruptcy co-counsel will often be open to sharing risk with

you to some greater or lesser extent. A sizeable share of your contingent fee, or a low hourly fee

against a small share of your contingent fee, may each be in the offing. It is important in making

decisions on this not to allow the sunk cost fallacy to affect your decisions. You have may have

spent years and lots of case costs to develop a case, and it will be a bitter pill to trade away a

significant percentage of that for bankruptcy counsel who will do a relatively small amount of

work over a brief period of time … but the absence of that work could cost you and your clients

most or all of what you stand to gain from the case. In other words, something of something is

worth much more than all of nothing.

Obtain a financial adviser if needed

Substantial creditors in bankruptcies who lack expertise in distressed and fixed income investing

often retain financial advisers to assist their work – a wage and hour plaintiff attorney with a

significant class, collective or other representative claim may easily find themselves in this

category. Such financial advisers conduct economic and business analysis of the debtor, probe

other creditors for legal or economic weakness in their case posture, assess the impact upon the

claims of various bankruptcy proposals, evaluate proposed recoveries (particularly if proposed to

be in non-cash form), and provide strategic advice on negotiations and litigation from their

experience in many past bankruptcies. They can also lead the selection process of bankruptcy

counsel and can share with their clients the management of bankruptcy counsel, for best effect

and economization of fees.

As with the retention of counsel, the critical assessment plaintiff counsel must make in a

financial adviser retention decisions relate to the likely fee value of the case and the degree to

which the financial adviser is willing to share risk in the case outcome. A financial adviser fee

can sometimes be charged to gross client recoveries as a case expense. As well, most financial

advisers interested in working with litigation claimants will offer a fee formula which is mostly

or entirely contingent. Your calculus on whether to part with that share of your prospective fees

is the same one regarding substantive counsel, with the same sometimes “bitter pill” judgment to

be made.

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Seek a seat on the Official Committee of Unsecured Creditors

Official Committees are immensely important in business Chapter 11s. They are bodies of three

to nine (but most often seven) unsecured creditors who become fiduciaries of the entire

unsecured creditor body and who at debtor expense appoint lawyers and financial advisers to

investigate, evaluate and advocate on behalf of that body, usually receiving significant non-

public information to assist them in so doing. The Official Committee is appointed within a

week or two of the commence of a case by the office of the United States Trustee. The United

States Trustee is a regional official of the US Department of Justice with the duty to monitor and

advocate for the integrity of the bankruptcy process, and the appointment of Official Committees

is among his or her greatest powers in the process. The Official Committee is formally adverse

to the debtor but in practice is often primarily contesting the extent and treatment of secured

creditors and other creditors seeking priority treatment, as well as leading the charge against

shareholders, executives or affiliates which mismanaged or took improper benefits from the

debtor before it went bankrupt.

In addition to an Official Committee’s formal roles, informally, the Committee also makes its

members insiders to the process, and often acts as a counterbalance to hedge funds and other

unsecured creditors who will organize and fund the professionals of private (“ad hoc”)

committees.

Litigation claimants, including those with contingent or disputed claims, are routinely appointed

to Official Committees, and wage and hour plaintiffs should always assess the virtue of applying

and sitting on a Committee. A litigation plaintiff will typically need to request an application

from the United States Trustee and carefully fill it out within a few days of a case’s

commencement. Note that the applicant must always be a representative plaintiff in his or her

name, but he or she can designate you or another professional as her or her “proxy” for the

formation of the Committee, and designation of a sophisticated proxy is usually worthwhile. (In

a case where a litigation has already been reduced to a judgement or settlement with a separate

provision for attorney fees, you can apply in your name as a creditor in your own right owed

those fees.)

Once an Official Committee is appointed and in operation, each member can determine how his

or her seat is utilized, and is free to designate the formation proxy as the ongoing primary

spokesperson and worker for Committee work, or to designate another person to do so.

Attend meeting of the creditors

Section 341 of the Code causes the U.S. Trustee to conduct a meeting of the creditors within the

first few months following bankruptcy filing. The U.S. Trustee conducts the meeting to

familiarize itself with the debtor’s finances; however, the creditors in attendance may also ask

questions.

The corporate representatives are under oath and represented by bankruptcy counsel—so they are

not likely prepared to answer questions relating to FLSA matters). The U.S. Trustee controls the

amount and types of questioning creditors may ask. Wage and hour litigators should use this

opportunity to obtain favorable concessions from the debtor on disputed issues. The closer these

questions relate to the debtor’s finances and expenses, the more likely you will be permitted to

proceed. In independent-contractor misclassification cases, for example, you could ask about the

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debtor’s investments into the business and the debtor’s control over profits and losses. If you are

also asserting FLSA claims against the owners, the meeting of the creditors also provides you

with an opportunity to explore the owners’ involvement in the day-to-day operations of the

business.

A key point about 341s and a limitation in some cases of the extent to which you can rely upon

them value is that they happen long after the commencement of a case. Invariably in larger cases

and occasionally in smaller cases there will have been important proceedings and rulings, and

not infrequently proceedings and rulings with dispositive effect upon creditors’ value, well

before the 341 meeting, and the revelation of new information at 341 meeting won’t likely

provide a basis for reconsideration of any of those rulings, unless they demonstrated that

testimony or documents upon which the Bankruptcy Court relied were false.

Take a 2004 examination

Bankruptcy Rule 2004 permits, upon a motion, parties of interest to examine (depose) any entity

relating to “acts, conduct, or property or to the liabilities and financial condition of the debtor, or

to any matter which may affect the administration of the debtor’s estate, or to the debtor’s right

to a discharge.” In other words, Rule 2004 allows for “discovering assets, examining

transactions, and determining whether wrongdoing has occurred.”18

In Chapter 11 and 13 cases,

the examination may also include matters relevant to the operation to the debtor’s business and

to the confirmation of the plan. The scope of the examination is “unfettered and broad;”19

in fact

it is broader than under the Federal Rules of Civil Procedure. It is often described as a

permissible “fishing expedition.”20

Because of this, Bankruptcy Courts may prohibit the use of

Rule 2004 examinations under the “pending proceeding rule” when the information sought

should be obtained in other litigation. Bankruptcy Courts, however, will allow examination into

matters that outside the of scope litigation. Consider conducting an examination to explore

potential fraudulent conveyances, owners’ ability to contribute financially to the plan, and/or the

possible need for appointment of a trustee to run the business. A move for a wide-ranging 2004

examination needs to be carefully considered for its appearances, given the bias against delay or

diversion in the process; ideally, an effort for a broad-based examination should be brought by

multiple creditors so as not to make it appear self-serving. The same reservation about timing

also applies here: don’t assume you can wait on a 2004 to protect your clients’ rights, or creditor

rights more broadly.

File proofs of claim

Every creditor in a bankruptcy must file a proof of claim. A proof of claim is short, standard

document in which the amount, nature and priority of a claim is set forth.21

Failure to file a

18 In re Enron Corp. 281 B.R. 836, 840 (Bankr. S.D.N.Y. 2002).

19 In re Dinubilo, 177 B.R. 932, 939 (E.D. Cal. 1993) (quoting In re GHR Energy Corp., 33 B.R. 451, 453 (Bankr.

D. Mass. 1983); In re Wash. Mut. Inc., 408 B.R. 45, 49 (Bankr. D. Del. 2009)); see also In re Bennett Funding Grp.,

Inc., 203 B.R. 24, 28 (Bankr. N.D.N.Y. 1996).

20 See, e.g., Matter of M4 Enter., Inc., 190 B.R. 471, 474 (Bankr. N.D. Ga. 1995); see also In re Drexel Burnham

Lambert Grp., Inc., 123 B.R. 702, 711 (Bankr. S.D.N.Y. 1991).

21 See 11 U.S.C . § 501; Fed. R. Bankr. P. 3001–03.

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claim by the deadline appropriate for its claimed priority (called a “Bar Date”) is an often-fatal

error: leave must be sought to file a late claim and leave can be and regularly is denied. As we

noted above, the claims are the essential legal assertion of right to payment in a bankruptcy,

superseding in an important sense your prior litigation complaints and other instruments. Be

sure to consult the Notice of Bar Date form for instructions on whether a proof of claim must be

filed against every debtor if there are multiple.

In filing proof of claims, include an attachment as an exhibit, identifying the name of the

creditor, the relationship between the creditor and debtor, the underlying action (perhaps

including a copy of the complaint) and its status, and the date(s) the debt was incurred. For wage

and hour litigation, summarize the legal claim and briefly cite controlling statutory, regulatory,

and case authority. Identify the amount attributed to each component of your damages (2 year

back wages, third year back wages for willfulness, liquidated damages, attorneys’ fees, litigation

costs, interest), citing legal support for recovery for each component. If you have already

computed damages in the underlying case, attach your calculations or the underlying payroll

records. Otherwise, provide the underlying components that form the basis of your good-faith

estimate, (e.g., dates of employment, consent filed date, regular rate of pay, and frequency and

amount of overtime hours worked). If you are estimating, consider citing the standard in

Anderson v. Mt. Clemens Pottery, 328 U.S. 680, 687–88 (1946), to explain that estimates without

documentary proof are sufficient to establish a claim under the FLSA. Be sure to expressly

reserve the right to amend and supplement the proof of claim, and reserve the right to later

amend to seek a setoff if the debtor later asserts a claim against the creditor. Note that in

general, Bankruptcy Courts are open to amendments and corrections of timely filed Proofs of

Claim and it would be surprising for a good faith amendment or correction to be opposed.

The standing you have obtained in status in class, collective or other representation may or may

not available you to file blanket proofs of claim. When individual proofs of claim are required,

you may be able to negotiate with the debtor, or obtain an order of the Bankruptcy Court, to have

the amounts and/or descriptions of the claim “pre-filled” into a special claim form based upon

employer information or some method of estimation.

If your class or collective action has not yet been certified, you should consider whether or not to

proceed with your existing clients only or whether you wish to advertise to increase your

representation of the putative collective. This analysis requires careful consideration of potential

conflicts. In some cases, debtors will notify all their present and former employees of the

commencement of the case in order to provide them opportunity to file a claim (and, of course,

to be able to claim that non-responding employees forfeited their rights later to institute a claim).

These lists can be harvested for notice, but should be used with care both for your strategy and

compliance with applicable rules of professional conduct.

Continue the substantive litigation

In the face of the automatic stay, there are three ways to continue the substantive litigation.

First, if your litigation includes multiple defendants, your litigation can in principle continue

against the non-debtor defendants. In practice, it may benefit you to stay the litigation even

against those parties if it would be impractical not to do so, and the debtors can seek to extend

the automatic stay to that litigation if they can argue that not doing so would have adverse

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consequences to the resolution of the bankruptcy. Alternatively, you may wish to press forward

with litigation to ensure receipt of important discovery, such as pay and timekeeping data.

Marching forward towards resolution may also keep the pressure on defendants to settle.

Second, if you can argue that it is in the interest of the bankruptcy case for your litigation to

continue, the Bankruptcy Court can release or modify the automatic stay to facilitate

proceedings. Note that this does not have the effect of changing the legal rank or priority of any

award or settlement of the litigation, it just enables faster progress towards fixing that claim. In a

case where recoveries as a percentage of claim are not yet known, but you suspect them to be

low, the stay provides you an important time option— you can use it wait, deferring further

investments of your time and case costs, that would otherwise have to proceed now, until you

have a better sense of the actual dollars-and-cents value of the case to your clients and you.

Grounds for release of stay can include a case being ready for trial and it being very expensive to

reschedule it, a case being cued up for FLSA solicitation or other proceeding that will have an

ancillary efficiency benefit for the bankruptcy in getting individual claims assessed, or the case

involving allegations of significant ongoing violations for which injunctive relief is sought, and

the non-bankruptcy court having better factual or legal knowledge to make those decisions.

(Bankruptcy does not give carte blanche to debtors to be ongoing scofflaws.)

In cases where arbitration agreements exist, you may have an easier time seeking a stay to

prosecute your claim in arbitration. Arbitration is typically faster than district court litigation

and arbitration is typically conducted by an arbitrator, who is experienced in the underlying area

of law—both features that weigh in favor of a stay under the applicable factors. Further, you can

use the strong federal policy favoring arbitration to your advantage for once. Be aware,

however, that the law on the interplay between the Federal Arbitration Act and the Bankruptcy

Code is still evolving and circuit discrepancies presently exist.22

Third, every Bankruptcy Court has the power to assume de jure or de facto jurisdiction over the

substantive liability. A debtor who strongly opposes your claim can initiate litigation in

Bankruptcy Court to have it disallowed before or after Exit or to restrict the scope of your

representative claims or your use of them in Bankruptcy Court proceedings. Allowing and

disallowing claims, and approving settlements of claims, is an inherent power of the Bankruptcy

Court, and this very much includes any claims founded upon litigation. Neither a state court nor

a Federal district court will have any authority to disrupt a treatment by a Plan of a bankruptcy

claim which has been allowed or settled with Court approval (or disallowed, for that matter) even

if such a disposition in non-bankruptcy cases would have a significant review, objection and

approval process. Such treatment can provide for administration and payment even of complex

class or collective actions by the bankruptcy’s claims administrator. You will often find that

debtors and other creditors have a significant interest in settling with you, especially for class and

collective actions where the total exposure potential is large or the costs to defend a case are

high.

22 In re No Place Like Home, Inc., 559 B.R. 863 (Bank. W.D. Tenn. 2016) (permitting creditors to arbitrate their

claims and providing a thorough review of the state of the law on compelling arbitration in bankruptcy proceedings).

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Attractive settlement features

One attractive feature of settling FLSA collective actions in Bankruptcy Court is the streamlined

settlement approval process under Bankruptcy Rule 9019(a). The Bankruptcy Court, which

moves much more quickly than a typical federal court, has the authority to approve the

settlement agreement and declare it to be fair and reasonable. Agreements are often quickly

drafted and approval motions are more succinctly drafted, cutting down and the time and

expense of resolving your claims.

Analyze the information made available on a continuing basis

As we noted, bankruptcy is a font of information about the debtors and claims. All information

should be reviewed for insight into the valuation of the debtor (the numerator of your recovery)

and the amount and ranking of claims (the denominator of your recovery). It is critical for you to

build in-house, or to have a financial adviser who has, the capacity to run basic business

valuations using revenue and EBITDA multiples and discounted cash flow analyses, and to make

reasonable projections of short-term asset sales and long-term performance of a reorganized

company in order to do this math. You need this capacity because in many cases you will

ultimately have to make a decision about settlements or other Plan treatment which speak in

notional value and you need to be able to convert that to what it’s worth in dollars and cents.

You also need to have a handle on those numbers, and have an accurate model of the debtor’s

capital structure, to understand if the proposed treatment of claims senior to or equally ranked

with yours is fair.

Participate constructively in the process

Whether or not your serve on an Official Committee, there are other opportunities for

participation outside the narrow issues of your claim, but still with great potential benefit for

your claim. In general, any creditor can be heard on any matter, and Bankruptcy Courts do not

stand on ceremony or have a pre-conceived notion of whose objections matter. A well-founded

argument from a litigation claimant will be heard like any other creditor’s argument. There may

well be a critical interest in doing so if other creditor constituencies are ineffective or biased.

Doing so in cases where an Official Committee has not been appointed may be particularly

important, because there is no one you can reasonably hope can act for you unless you act for

yourself.

Important areas where you might focus your attention include proposals to:

sell a smaller asset

borrow money and secure those loans by super-priority liens

pay executive bonuses and retain expensive professionals

resolve other litigation in ways that set a precedent for your treatment

Your participation must be constructive in both tone and substance. Bankruptcy is a

collaborative process where settlement is the end state of disputes 99% of the time. The

bankruptcy professional and judicial community is small, intimate and (for the most part)

friendly, with relationships as likely to go back decades as to be new. A person who comes from

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outside of the community and takes a highly adversarial or abrasive posture is almost certain to

regret it sorely.

Special cases: natural person debtor, wage and hour insurance, substantive consolidation

If a natural person, such as a business owner, is a debtor and is liable for your claims, you have

important additional rights and options. In particular, there is a general presumption against the

discharge from liability of individuals of certain classes of government obligations (such as

PAGA wage and hour claims in California) and of the consequence of intentional wrongs and

gross negligence, which may include wage theft claims in certain states.

Business bankruptcy cases will usually have special provisions to allow claims which relate to

insured acts or omissions of the debtor to access the insurance coverage. Even when that lets the

claim get a higher recovery than other equally-ranked claims, it is funded entirely outside the

debtor’s asset complex and as such increases everyone’s recovery. Traditionally, insurance

policies were not offered to cover wage and hour violations. Lately, however, wage and hour

coverage has begun to be offered as an option in large-company employment practices liability

insurance. You should investigate any sizeable corporate debtor to see if it had purchased such

policies and if your claims might reasonably exceed the deductible or risk retention.

A key confirmation issue that may strike you as esoteric but which is of great material impact is

“substantive consolidation.” Substantive consolidation treats all the various business entities of a

debtor group as if they were one corporation, with common pools of assets liabilities. You need

to carefully examine any proposal in light of which debtors were legally responsible for your

clients’ wages or benefits. If it happened that one of the debtors with a lot of assets, but

relatively few liabilities, happened to be the employer of record or otherwise statutorily or

regulatorily liable for your clients claims, you cannot allow that entity to be substantively

consolidated into a broader group and thus have your relevant client’s recovery rate diluted.

There is a strong legal presumption against substantive consolidation for the convenience of

administration when it has the effect of materially prejudicing a significant claim – don’t hesitate

to the lone objector to such a proposal, as your objections if well put will be carefully

considered.

Analyze and act upon dispositive proposals (bulk asset sales and/or a Plan)

Chapter 11s are disposed of in one or both of two ways: by a sale of substantially all the assets

free and clear of their liabilities, and by a Plan. (Asset sales will be followed by a Plan in most

cases, but not uncommonly the asset sale is effectively dispositive of the terms of the Plan,

leaving no degree of freedom once the sale is done). Chapter 7s always consist of the sale of the

non-exempt assets free and clear of their liabilities followed by a Plan.

You will need to carefully consider all terms for their impact upon your clients and your fees, as

well as for their general fairness and legal adequacy (in particular if you are on the Official

Committee). In the case where your claims will persist as disputed through and after the exit

from Bankruptcy, you need to be sure that there are appropriate reserves for your claims and

provisions for their settlement of adjudication.

Approval of a sale is within the equitable authority of the Bankruptcy Court, and sale approvals

are almost never overturned on appeal. Sale orders can be objected to on several grounds: that

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the sale of the asset is not in the interest of the debtor or the creditor because of the nature of the

asset being sold, that the price is inadequate on its face relative to the value of the asset being

sold, or that the price may be inadequate and provision for seeking higher and better bids are

inadequate. Note that the price being inadequate to provide good creditor recoveries is not a

persuasive basis for objection. (A sad reality of bankruptcy is that assets usually aren’t enough

to cover debts, or a company wouldn’t have filed to being with!)

Chapter 11 Plans are in cases of any considerable size always accompanied by Disclosure

Statements, which are essentially prospectuses for voting on a Plan. (Unlike sale orders and

Chapter 7 Plans, Chapter 11 Plans are subject to a vote of creditors.) Disclosure Statements are

subject to review and approval not for the substance of the Plan they describe but for the quality

of their description and disclosure and whether or not a creditor would, after reading the

Disclosure Statement, be sufficiently well-informed to vote “yes” or “no.” You have the

opportunity to object on those grounds, as do other creditors.

When a Disclosure Statement is approved, creditors will then vote on a related Chapter 11 Plan

by ranking class, and within each ranking class votes are counted twice: once based upon the

number of voting creditors, and once based upon the amount of claims. A simple majority of

creditors voting two-thirds or more of the amount of claims suffices for approval by that class. A

Plan need not be approved by all classes; the rule is that it need only be approved by one class

which is impaired (i.e., proposed to suffer a loss), with others being “crammed down” if the

Court sees fit.

If as is often the case your litigation claim is not yet allowed by the time for voting, there is a

process for your claim to be “estimated” (in amount) and allowed for voting purposes only. In

some class and collective cases your representative will be able to vote your entire collective

estimated or allowed claim, in others, every class member will be solicited and vote on their

own. In the latter case, you may seek an opportunity to communicate with class members and

convey a voting recommendation. If your votes are potentially decisive, you can expect that the

debtor and other creditors will engage in aggressive practice to keep you from voting. (Your

response to these maneuvers will almost certainly require bankruptcy counsel, but that will be

worth it considering the leverage that you will have to achieve a settlement if you can control

Plan approval or disapproval).

A Plan that has been approved by at least one impaired class of creditors still has one more

hurdle to go: “confirmation.” Confirmation is the determination by the Court as to both law and

fact that the Plan satisfies all the requirements of the Code. If you have identified mistreatment

of your claim under the Code you have an opportunity to move the Bankruptcy Court to refuse

confirmation unless appropriate changes are made.

Watch out for substantive consolidation.

Unlike many prior proceedings where Bankruptcy Court determinations are either not ripe for

appeal or would require an interlocutory appeal deeply disfavored by the usually very deferential

higher courts, a Chapter 11 confirmation order is fully and immediately appealable. The

challenge that you may encounter is that to stay the implementation of the Plan pending appeal

usually requires the posting of an unaffordable bond. This effectively limits appeals to items

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which are not made equitably moot by the implementation of the Plan. What bankruptcy appeals

are equitably moot and which are not is extremely contentious – but suffice it to say that careful

analysis of bankruptcy counsel of that issue is critical before you materially rely upon your

prospects on appeal.

Post-Exit disputed claims practice

After Exit, if your claims are still disputed you will continue to work to resolve them.

Depending upon Plan structure and your claims’ rank(s), you may be facing a creditor

distribution board, a liquidating trustee, the reorganized operating business, or the continuing

Chapter 7 Trustee. You may resume litigation of the case in non-bankruptcy court, or in

Bankruptcy Court, or you may strive to settle. The settlement opportunity remains quite salient,

particularly in cases where your claims are entitled to a less than full recovery—because in those

cases the defendants have to pay 100-cent dollars in litigation costs but they are actually

defending 20-cent or 50-cent dollars. (Precisely the same calculus applies to you, the different

being you aren’t laying out cash to corporate defense litigators.) Ongoing monitoring of the

economics of a post-Exit debtor and its claims remains important because other disputed claims

can also be in the process of resolution and their being resolved in the claimants favor reduces

the value of your recovery. Also, if the currency of the recovery is not in cash, but in stock or

debt of the reorganized debtor or an acquirer, that stock can increase or decrease in value.

(Many post-reorganization stocks are entirely private and their value is hard to determine.)

Fees and expenses

Because the default claim submission and payment model is individual, you need to take care

that appropriate administrative provision is made for segregation of your fees from claimant

bankruptcy distributions, lest full gross recoveries be sent to you client(s) directly, from whom

you have to attempt to make collection. If your claims are subject of a settlement, you can

usually incorporate a fee provision in the settlement agreement and see that the bankruptcy

claims administrator implements it properly.

If you are an active creditor in the general affairs of the case, e.g. if you litigated or took part in

proceedings in a significant way that were designed to increase the “size of the pie”, not just the

size of the slice of the pie that your clients are getting, and you were successful in so doing, you

can argue that your time for that work ought to be paid at prevailing hourly rates by the debtor on

account of your clients’ “substantial contribution” to the resolution of the case. This would be a

fee you receive in addition to your contingent share of your clients’ recoveries. With less

probability of success, you may be able to make a substantial contribution argument on account

of your work on your claims (size of the slice, if you will) if your claims were so large or

otherwise so central to the resolution of the entire case that disposing of them was a critical

gating issue for Exit. If your relationship with debtor and other creditor counsel are sufficiently

amicable, your application of a substantial contribution fee may even be unopposed.

In a case that begins with a pre-petition judgment or settlement, you have the opportunity to

submit and prosecute your pre-petition fees as a separate claim, if and to the extent the judgment

or settlement had made a specific allocation of fees to you. You should still consider seeking to

obtain additional compensation from client recoveries, based upon your engagement letter, for

the time and work in bankruptcy, as well as for fees and expenses of bankruptcy counsel or

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financial advisors, which the fee allocation of your settlement or judgment presumably did not

include in your compensable work.

In cases where federal law provides for fee shifting, such the FLSA, you may be able to argue to

the Bankruptcy Court that your post-petition legal work ought to be compensated as any other

post-petition obligation of the debtor, notwithstanding that it relates to pre-petition, and likely to

be discounted, violations23

. However, until and unless this area of law is well-clarified in favor

of the employment plaintiff bar, don’t rely upon this in making your time investment decisions.

23 See, e.g., In re Jamesway Corp., 242 B.R. 130 (Bankr. S.D.N.Y. 2012).

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