There’s No Comity Relief Here: U.S. Bankruptcy Court Denies Petition for Recognition of Mexican Plan of Reorganization on Grounds that Releases of Non-Debtor Guarantors Are Contrary to U.S. Public Policy

Contributed by Andrea Saavedra
In a decision that is certain to ring bells South of the Border (and perhaps around the world), the United States Bankruptcy Court for the Northern District of Texas recently denied the request by the foreign representatives of Vitro, S.A.B. de C.V. to enforce the reorganization plan approved in Vitro’s Mexican Concurso proceedings.  The bankruptcy court held that Vitro’s plan – which sought to grant broad releases of non-debtor guarantors of a U.S. issued indenture and enjoin the U.S.-based noteholders of such indenture from pursuing their collection efforts in U.S. courts – was contrary to the public policy and laws of the United States.
The enforceability of the non-debtor guaranties was the subject of a substantial amount of litigation in the United States between the noteholders and Vitro prior to the confirmation of Vitro’s Concurso plan.  In the context of the foreign representatives’ enforcement motion, the two issues were whether (i) Vitro’s plan provision granting a permanent injunction against the collection efforts of the noteholders through sections 1521 or 1507 of the Bankruptcy Code was consistent with principles of comity and (ii) if so, whether enforcement of the Concurso approval order would be “manifestly contrary” to the public policy of the United States.
In the context of chapter 15 cross-border restructurings, sections 1521 and 1507 of the Bankruptcy Code provide a bankruptcy court with additional statutory grounds for implementing a foreign insolvency scheme in the United States.  The flexibility required for a bankruptcy court to manage such international matters is inherent in these provisions.  First, section 1521(a)-(b) of the Bankruptcy Code permits a bankruptcy court to “grant any appropriate relief” in order to “effectuate the purpose” of chapter 15’s cross-border provisions and to “protect the assets of the debtors or the interests of creditors,” inclusive of the “distribution of all or part of the debtor’s assets located in the United States” to its foreign representative so long as such action “sufficiently” protects the interests of U.S. creditors.   Second, section 1507(b) of the Bankruptcy Code requires a bankruptcy court to ensure that such relief is “consistent with principles of comity,” including whether such assistance will, among other things, “reasonably assure . . . just treatment of all holders of claims against or interests in the debtor’s property” and “protection of claim holders in the United States against prejudice and inconvenience in the processing of claims in such foreign proceeding.”
In other words, as articulated by the bankruptcy court, granting comity, or deference and recognition, to judgments of foreign courts or the provisions of their orders is appropriate “as long as U.S. parties are provided the same fundamental protections that litigants in the United States would receive.”  The flexibility inherent in these provisions, however, is limited by section 1506 of the Bankruptcy Code, known as the “public policy exception” of chapter 15.  Under that section, prior to a bankruptcy court’s approval of any ancillary assistance to a foreign proceeding, it must conclude that such assistance would not be “manifestly contrary to the public policy of the United States.”
Recognizing the open ended nature of the statutory language of section 1506, the bankruptcy court reviewed its relevant legislative history and canvassed the few published decisions on it, concluding that such case law reflected the general principle that, for a foreign representative’s requested relief to be “manifestly contrary” to the public policy of the United States, it must be, among other things, either in excess of, or inapposite to, the principles of fundamental fairness and procedural due process embedded in the Bankruptcy Code and upheld by the judicial process of the United States.
The bankruptcy court rejected (for lack of proof, persuasion or both) the noteholders’ arguments that the Concurso approval order should not be granted comity because (i) the Mexican judicial system was allegedly corrupt, (ii) the impact on the credit markets would be so severe so as to hinder additional borrowings by Mexican companies, or (iii) that the Concurso process was fundamentally unfair.
The bankruptcy court held, however, that the third party releases in the Concurso plan effectively sought to provide a non-consensual discharge of the non-debtor subsidiaries’ guaranty obligations.  Because these releases would be contrary to the “fundamental policy of the United States” to protect “third party claims in a bankruptcy case” as evidenced by section 524 of the Bankruptcy Code  and the applicable case law of the Fifth Circuit, the bankruptcy court held that the Concurso approval order could not be properly enforced in the United States.  In addition, the bankruptcy court also concluded that enforcement of the approval order was contrary to the provisions of (i) section 1507 because the distributions under the Concurso plan would result in the U.S.-based noteholders receiving only a “fraction” of what they would otherwise be entitled to receive in a chapter 11 plan (in addition to foreclosing their remedies against the non-debtor guarantors), and (ii) section 1521 because it failed to sufficiently protect the interests of U.S. creditors in the distribution of the debtors’ assets located in the U.S..
Notably, aside from its allusion to section 524 in the asbestos context, the bankruptcy court did not address the fairly frequent use of non-debtor releases under U.S. chapter 11 plans.  Indeed, Judge Carey in the Bankruptcy Court for the District of Delaware recently refused to dismiss an action brought against certain creditors for violation of a chapter 11 plan’s injunction provisions where such creditors had an opportunity to opt out of a release on the ballot, but never returned a ballot on the plan.  In re WCI Communities, Inc., et al, No. 08-11643 (KJC), Adv. Pr. No. 09-522250 (KJC) (Bankr. D. Del.  June 1, 2012).
The bankruptcy court stayed the effect of its decision for approximately two weeks so as to allow the parties time to appeal and seek a stay on appeal.  As anticipated, last Friday, the debtor filed its motion for certification with the Fifth Circuit Court of Appeals.  We at the Weil Bankruptcy Blog will keep you posted for additional updates on this important decision.