Non-US schemes of arrangement are increasingly vulnerable to attack from US cedants, via Chapter 15 of the US Bankruptcy Code. Selinda Melnik offers some advice for scheme success
Objectors to solvent schemes increasingly advise that should they fail in an attempt to prevent sanction of a non-US solvent scheme involving US interests. They should try to defeat the scheme in practice by opposing its enforcement in the US?via the new Chapter 15 of the US Bankruptcy Code. US bankruptcy courts are courts of equity and US bankruptcy judges differ in their perception of the amount of discretion they can wield in interpreting and applying chapter 15. Non-US solvent scheme proponents should therefore know the likely grounds for attack in the US and to build components into the scheme and scheme process which are designed to best ensure success in the event they need to “cross the pond”.
Enforcing non-US schemes in the US
Non-US scheme sanction orders are not automatically enforceable within the US. The scheme proponent must obtain an order from a US court having jurisdiction to enforce the sanction order and scheme terms – particularly the injunction against taking acts to enforce claims other than through scheme mechanisms. In addition, long before the scheme is sanctioned; a protective injunction in the US might be required to shield scheme assets against risk of dissipation through litigation or other attacks in the US to the detriment of the collective creditor body.
Before late 2005, non-US solvent scheme proponents obtained US injunctive relief via the now-repealed section 304 of the US Bankruptcy Code, which empowered US bankruptcy courts with significant discretion to order relief in aid of non-US proceedings. But as of 17 October 2005, section 304 was replaced by Chapter 15, which incorporates into US law the “Model Law on cross-border insolvency” developed by the United Nations Commission on International Trade Law to facilitate and ensure greater certainty in the conduct and outcome of liquidations and debt restructurings involving more than one country.
Chapter 15 was designed to streamline and expedite the process of obtaining relief in aid of non-US proceedings. Towards that end, Chapter 15 significantly limits the discretion a US bankruptcy judge had under old section 304. In applying Chapter 15, the US court is intended to have no discretion in some instances and only very limited discretion in others.
Chapter 15 only empowers the US bankruptcy court to grant relief in aid of non-US proceedings. It requires the US bankruptcy court to give substantial deference to the laws and court determinations of the other country. It does not empower the US court to second-guess, re-litigate, overturn or in any way modify the non-US court’s determinations. Nor does it authorise the US court to impose or overlay US law onto non-US proceedings.
Under Chapter 15, the US court will be required to aid effectuation of a scheme, including by enforcing a scheme injunction, if the court finds that:
• The Chapter 15 petitioner is duly authorised to administer the scheme or act as its representative to seek its enforcement in the US;
• The scheme sanction proceeding is a “foreign proceeding” as defined by the US Bankruptcy Code;
• The scheme proceeding was adjudicated in a country where the scheme entity either has its “centre of main interest” [entitling the petitioner automatically to certain non-discretionary relief, including injunctive relief] or an “establishment” [entitling the petitioner to certain relief, including injunctive relief, in the limited discretion of the US court] ie not in a country where the scheme entity has solely the mere presence of scheme assets; and
• Granting the relief requested would not be “manifestly contrary to the public policy of the US”.
Significantly, these are the only bases on which objectors to non-US solvent schemes may attack a Chapter 15 petition for US relief in aid of such schemes.
Chapter 15 success… so far
To date, three non-US solvent schemes have sought and obtained enforcement in the US via Chapter 15. While no formal objections were lodged to these applications, informal objections to at least two were resolved prior to the Chapter 15 petition hearings. But even where no objection is lodged, the US bankruptcy court effectively sits as an objector. The court has an independent duty to thoroughly assess whether each and every prerequisite to obtaining relief has been met and whether the relief sought is acceptable under the circumstances.
In at least two of the solvent scheme Chapter 15 cases, the bankruptcy court made detailed findings, on the record, sustaining the relief granted. As a result, there are US bankruptcy court rulings holding, among other things, that:
• UK section 425 solvent schemes are entitled to recognition by the US court and relief under Chapter 15, including injunctive relief;
• The conduct of the scheme process pursuant to UK section 425 is a “foreign proceeding” under Chapter 15;
“In applying chapter 15, the US court is intended to have no discretion in some instances and only very limited discretion in others
• Notices given to scheme creditors in the typical UK section 425 solvent scheme adjudication provide adequate due process to scheme creditors;
• A book of insurance in run-off is eligible to be a “debtor” under Chapter 15; and
• The UK is the “centre of main interest” of a book of insurance in run-off by the UK branch of a non-UK company, such that an injunction contained in the solvent scheme for such debtor sanctioned by the UK High Court of Justice is entitled automatically to an order of enforcement within the US.
Despite such detailed findings, certain scheme opponents contend that there have been no unique decisions sustaining US enforcement of non-US solvent schemes under the new Chapter 15. Moreover, these opponents have publicly announced their intention to assert that non-US solvent schemes are incapable of being enforced by US courts under Chapter 15 because:
• US courts lack jurisdiction to aid solvent schemes;
• Non-US solvent schemes are outside the purpose and intent of Chapter 15;
• Non-US solvent schemes are not “foreign proceedings” under US bankruptcy law; and
• Non-US solvent schemes are manifestly contrary to US public policy because: (i) the scheme process does not afford creditors due process; and (ii) solvent schemes contravene the sanctity of contract rights in violation of the US Bankruptcy Code.
At the heart of all of these objections is the issue of solvency. Solvency is now, and historically has been, a non-issue under US bankruptcy law, which does not require a debtor be insolvent to be eligible for relief under the US Bankruptcy Code. There is no US public policy requiring insolvency – let alone a “fundamental” one. Indeed, US Chapter 11 proceedings in particular are regularly employed to achieve the ends sought by non-US solvent schemes, including the resolution of both ascertainable and future claims. Accordingly, there is no basis for maintaining that the US bankruptcy courts lack jurisdiction to aid solvent schemes.
Further, solvent schemes can be “foreign proceedings” under US Bankruptcy Code, entitled to recognition under US Chapter 15. In fact, those schemes subject to UK section 425 have been determined as such. These solvent schemes were regularly found to be foreign proceedings for the purposes of former section 304. Along with the enactment of new Chapter 15, the definition of “foreign proceeding” was revised. The current definition is even broader than that applied under section 304 and clearly encompasses schemes.
What steers solvent scheme opponents in the wrong direction is their lack of understanding of and appreciation for the international underpinnings of Chapter 15. This includes the intended breadth and meaning of words used in the statute, which differ significantly from the circumscribed, literal definition of such terms from the US perspective. Thus, solvent scheme opponents focus on the use of the term “insolvency” throughout the statute and assert that its prevalence indicates Chapter 15 can only assist “insolvent” foreign proceedings. What they lose sight of in that translation is the fact that the term “insolvency” includes all forms of resolution of the interests of debtors and creditors.
Chapter 15 empowers the US court to refuse to recognise or grant relief in aid of non-US proceedings if doing so would be “manifestly contrary to the public policy of the United States”. The legislative history to Chapter 15 instructs that “the public policy exception” is to be used sparingly and only where the most fundamental policies of the US, those expressly set forth in the US Constitution, are implicated. Thus, this “exception” is a very limited “out” that may not be used to defeat the orders, determinations, or sovereignty of the non-US court.
US courts are very sensitive to issues of due process and the concerns of creditors. Where a solvent scheme has been sanctioned by a recognised court in another jurisdiction, and creditors and other parties in interest have received adequate notice and opportunity to vote on the scheme and lodge their claims against the schemed entity, US bankruptcy courts have consistently found that the parties have received due process. In the post-BAIC world, scheme proponents have taken even greater care to fashion schemes which are supportive of creditor interests. Accordingly, it is unlikely that solvent scheme objectors will succeed in preventing Chapter 15 relief in aid of solvent schemes designed, proposed and adjudicated by seasoned professionals.
Despite the fact that challenges to non-US solvent schemes of arrangement are likely to face significant hurdles, this does not appear to have dampened the resolve of solvent scheme objectors’ intentions to “test the waters”. It, therefore, is prudent to “think Chapter 15” early and often when fashioning schemes and conducting scheme processes.
Attorney Selinda Melnik is a partner in the creditors’ rights, bankruptcy and insolvency, and insurance and reinsurance practice groups of Edwards Angell Palmer & Dodge.
Run-off: Lessons from BAIC
Solvent schemes of arrangement have become popular exit strategies for solvent books in run-off. But not all schemes have been success stories.
The proposed British Aviation Insurance Company (BAIC) scheme covered insurance and reinsurance business written by the company between 1930 and 1990, including asbestos, pollution and health (APH) exposures. BAIC, which had a large solvency margin, expected the liabilities to run-off in around 15 years. The scheme was put forward as the quickest and most efficient way of making a full payment to creditors.
However, when it came to a vote, 18 creditors objected to the scheme for various reasons and said the court should not sanction the scheme. The court agreed, citing IBNRs (incurred but not reported) as a key concern, and the scheme was thrown out. The judge, Mr Justice Lewison, thought those with accrued claims and those with IBNR claims had totally different interests and could therefore not be bundled together for the purposes of a speedy settlement.