ABI Chapter 11 Reform Commission Series: Oversight of the Case (Part II, Professional and Compensation Issues)

Contributed by Katherine Doorley
As part of the Weil Bankruptcy Blog’s series on the recently released ABI Commission Report, we previously discussed the ABI Commissions’ recommendations on management and oversight of cases in chapter 11. In this entry we turn to the often debated topic of professional fees and the costs of complex chapter 11 cases.
Professionals and Compensation Issues
The ABI Commission made several proposals concerning “nonbankruptcy professionals,” defined as professionals who do not work on matters that affect the rights of creditors and other stakeholders in the estate and do not address the claims of these parties or the allocation of estate assets. These are professionals the debtor company would likely have retained even if the debtor had not filed for, or been preparing to file for, chapter 11. Currently, such professionals are generally retained as “ordinary course professionals” and have their fees subject to outside limits for both monthly periods and the case as a whole. If an ordinary course professional exceeds those caps, the debtor generally is required to seek to retain the professional under section 327 of the Bankruptcy Code, and the professional is then subject to the same fee application requirements as estate professionals.
The ABI Commission recommended that the Bankruptcy Code be amended to specifically provide that only chapter 11 professionals, and not nonbankruptcy professionals, be subject to the retention and compensation standards of sections 327 and 330 of the Bankruptcy Code. The Commissioners did not believe that the services provided by nonbankruptcy professionals and the typical compensation provided to those professionals warranted the time and expenses associated with complying with sections 327 and 330. Recognizing, however, that the work of nonbankruptcy professionals could potentially have an impact on the value of the estate or the debtor, the ABI Commission would continue to require disclosure of the name of and nature of services provided by each nonbankruptcy professional. Parties in interest would also have an opportunity to object to the classification of a professional as a nonbankruptcy professional.
The ABI Commission also recommended that professionals retained by the debtor or any statutory committee should not be considered fiduciaries of the estate; rather, they owe fiduciary duties to their respective clients.
Finally, the ABI Commission considered whether professionals retained by secured creditors or ad hoc committees and whose fees are paid by the chapter 11 estates should have their professional fees and expenses subject to the fee application process. The Commissioners ultimately concluded that, while these professionals should not be subject to the formal fee application process, their fees should be subject to the same reasonableness standard of section 330(a) of the Bankruptcy Code as the fees of other professionals.
The ABI Commission supported codifying the Barton doctrine, which stems out of the case of Barton v. Barbour, where the U.S. Supreme Court confirmed the “general rule that before [a] suit is brought against a receiver leave of the court by which he was appointed must be obtained.” Courts have subsequently extended the Barton rule to other officers of the court, including trustees in bankruptcy. The Commission would clarify its scope and application to trustees, estate neutrals, and statutory committees and extend the Barton doctrine to any professionals retained by any trustee, estate neutral or statutory committee or its members, to the extent that the litigation involves the professionals’ representation of such party in a fiduciary capacity.
Costs in Chapter 11 Cases
Attorneys’ fees and costs of large chapter 11 cases have been reported on and criticized in the media and elsewhere. Indeed, last year the U.S. Trustee released newly revised fee guidelines, as an effort, at least in part, to control fees and provide for additional disclosure in so-called “mega cases.” The ABI Commission acknowledged that the cost associated with chapter 11 and the desires to make the chapter 11 process more efficient and cost-effective were among the “central themes” of the Commission’s process.
The Report notes that several of the other reforms suggested by the ABI Commission would serve to improve the efficiency and certainty of the process, reducing litigation and likely decreasing costs. These include recommendations that would resolve court splits, the requirement to disclose valuation-related information earlier in the case, a clearer set of rules governing the sale of substantially all of a debtor’s assets, the elimination of the need to have an impaired accepting class, and the refinements to the absolute priority rule (all of which we will, of course, be discussing in future Weil Bankruptcy Blog entries).
One reform the ABI Commission rejected (for which bankruptcy professionals are grateful) is a return to the “economy of administration” standard under the former Bankruptcy Act, which many believe kept the “best and brightest” out of the profession and led to the characterization of bankruptcy professionals as “second class citizens.” The ABI Commission also considered, but failed to adopt, a formal process to review the results achieved by professionals when determining final fees and expenses (for example a process that would enhance fee awards for exceptional results and reduce compensation in the event of certain inefficiencies or outcomes).
Dovetailing another current “hot topic” in today’s legal market, the ABI Commission did agree that professionals could develop more cost-effective ways to provide services, including moving away from hourly billing to alternative fee arrangements to the traditional lodestar method, such as fixed-fees for certain tasks, contingent fees, or flat-rate fees. To that end, they proposed that Congress amend sections 328 and 330 to clarify that alternative fee arrangements based in whole or in part on non-hourly billing models are permitted and subject to review solely under section 328. Professionals, however, would bear the burden of proving by a preponderance of the evidence that the arrangement is reasonable, has been thoroughly reviewed with the client, and is reasonably likely to be beneficial to the estate. The Commission concluded that any proposed alternative fee structure should be approved by the court at the beginning of the case or the engagement to give the professional and all parties in interest the comfort that the fee arrangement would not be overturned.
Overall, despite the issue being an important component of the Commission’s work, the Commission did not recommend drastic changes to the Bankruptcy Code on the issues of professionals and costs. Professional fees and administration costs will likely remain areas of heightened scrutiny so long as large chapter 11 cases are being filed. It remains to be seen, even if the ABI Commission’s recommendations are adopted by Congress, what, if any, changes will actually be adopted by the market on the issue of professional fees, including whether more professionals make the switch to various alternative fee structures.