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9019 Settlement Constituted Plan Modification; Third Circuit Remands to Bankruptcy Court For Consideration Under Section 1127

In re SCH Corp., No. 14-2888, 2015 WL 756552 (3d Cir. Feb. 24, 2015)

In April, the District Court affirmed an oral ruling of the Bankruptcy Court issued in the In re SCH Corp. post-confirmation bankruptcy proceedings, approving under Bankruptcy Rule 9019 and the Martin factors a post-confirmation settlement (the “Settlement”) reached between the debtors’ post-confirmation “Responsible Officer” and a subsidiary (“NCG”) of the debtors’ plan proponent and sponsor, secured lender, and asset acquirer (“LLCP”).  Our analysis of that ruling can be found here.  In this recent Opinion of the Third Circuit, the Court of Appeals vacated the District Court’s order, finding the Settlement to be a plan modification under section 1127 of the Bankruptcy Code, a secondary argument made by the appellants, the “CFI Claimants”, which was not addressed in detail before either the Bankruptcy or the District Courts.

The Settlement arose from alleged ambiguities in the debtors’ 2009 confirmed plan of liquidation.  Under the plan, NCG was required to make annual funding payments in the amount of $200,000 for a period of five years ending in April 2014.  It was agreed that NCG’s payments would be offset by certain expenses and losses incurred by NCG and LLCP in defending future lawsuits related to the debtors’ acquired debt collection business.  Following confirmation, the CFI Claimants commenced litigation against NCG and LLCP under the Fair Debt Collection Practices Act.  When NCG asserted its offset rights against the plan funding payments, a dispute arose with the Responsible Officer.  Under the Settlement, which embodies the resolution of this offset dispute, NCG agreed, in pertinent part, to make additional plan funding payments in 2015, 2016, and 2017.  As noted in our previous coverage, the CFI Claimants objected (unsuccessfully) to approval of the Settlement under Rule 9019 and the Martin factors.  However, they also argued that the settlement was an impermissible modification to the confirmed plan under section 1127(b).  Both the District Court and the Bankruptcy Court dismissed this secondary argument.  In particular, and in a footnote, the District Court agreed with the Responsible Officer that the Settlement did not modify the plan.

On appeal to the Third Circuit, the Responsible Officer argued that the Settlement resolved a disputed issue not addressed by the confirmed plan, left unaltered the basic economic relationship with NCG, and benefited the estates in the form of three additional plan funding payments.  As such, it was urged that no modification occurred.  See Op. at *4 (citing cases and noting that a modification does not occur if a court is “‘clarify[ing] a plan where it is silent or ambiguous’; and/or interpret[ing] plan provisions to further equitable concerns’”).  The Third Circuit disagreed, however, holding that the Settlement took a “drastic step” and modified the plan itself, extending the five-year plan by three years.  Moreover, the Court highlighted the CFI Claimants’ position that the extension substantively affected their rights to commence litigation against LLCP and NCG for an additional three years.  See Op. at *5 (contrasting In re Beal Bank, S.S.B., 201 B.R. 376 (E.D. Pa. 1996), noting that the court’s order “did not alter substantive rights or frustrate legitimate claims”).  And, finally, the Court dismissed the Settlement’s benefit to the estates, holding that it cannot transform the Settlement from a plan modification governed by section 1127.  As a result of the foregoing, the Court vacated the District Court’s order and instructed the Settlement to be remanded to the Bankruptcy Court for further consideration under the requirements of section 1127.