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Sword of Damocles Trumped By Finality in Confirmation Order

On April 23, 2013, the Delaware Bankruptcy Court reopened the bankruptcy case of reorganized debtor Northstar Iron Horse, LLC (“Iron Horse”) in order to consider a creditor’s request for a Rule 2004 examination of Iron Horse and two other affiliated reorganized debtors.  The request related to the creditor’s attempt to augment the distribution it received on account of its claim pursuant to the confirmed plan by recovering the proceeds of a post-confirmation settlement reached between Iron Horse and its insurance company, ACE American Insurance Company (“ACE”).  In this Opinion, Judge Shannon denied the Rule 2004 motions as futile, finding that the confirmed plan prevented further recovery and that the period to challenge the confirmation order long since expired.

Prior to the 2010 bankruptcy filing, Iron Horse and several other affiliated debtors commenced litigation against ACE.  However, this litigation was not disclosed on Iron Horse’s schedules of assets and liabilities or its statement of financial affairs.  Rather, it was disclosed only on the schedules of fellow debtor, East West Resort Development V, L.P., L.L.L.P. (“EWRD”) and later abandoned post-confirmation by EWRD’s chapter 7 trustee.  In 2012, approximately two years following the confirmation of Iron Horse’s plan, a settlement of the ACE litigation was allegedly reached pursuant to which $5.8 million was recovered on account of Iron Horse’s claims.  Subsequently, a creditor of Iron Horse, Iron Horse Condominium Association (“IHCA”), learned of the settlement and sought to recover the ACE proceeds with the goal of enlarging its claim recovery.  In connection therewith, it sought a rule 2004 examination of Iron Horse and two affiliated reorganized debtors to uncover details of the settlement.

Although a 2004 examination is akin to a “fishing expedition,” the Court found that further distributions to Iron Horse’s creditors were barred by the plan and thus, the examinations would be futile. Pursuant to the plan, Iron Horse was dissolved and all property not distributed to claimholders on the effective date of the plan was transferred to, and vested in, New EWRD V (a reorganized entity).  Furthermore, the plan provided that all such transferred property would be managed by and held in the name of New EWRD V free and clear of all creditor claims except for, among other things, the distribution rights afforded to creditors under the plan.  The carveout for distribution rights as well as Iron Horse’s failure to disclose the ACE litigation served as support for IHCA’s 2004 motion; however, the Court did not agree.

The Court found that, pursuant to the plan, the ACE litigation (and all subsequent proceeds thereof) was transferred to New EWRD V free and clear of any creditors’ claims on the plan’s effective date.  It found also that, because the plan failed to address the future liquidation of the ACE litigation and subsequent distribution of proceeds therefrom, New EWRD V fulfilled its obligations to Iron Horse’s creditors when it distributed to them all of Iron Horse’s assets held by New EWRD V as of the designated distribution date.  While IHCA asserted that Iron Horse misrepresented its assets by not disclosing the litigation on its statements, the Court held that “even where a confirmation order is procured by fraud, a court may only revoke such order where a request for revocation is made by a party in interest within 180 days after the date of entry of the order of confirmation.”  In re East West Resort Development V, L.P., L.L.P., 2014 WL 4537500, at *8 (citation omitted).  IHCA’s claims were brought almost three years after confirmation, and the Court rested on the strong need for finality in reorganization plans.

While courts’ strong policy of enforcing the finality of bankruptcy court orders may lead to an inequitable result, especially where fraud is uncovered after the time to appeal or otherwise challenge an order, finality is viewed by the courts as vital to successful reorganizations.  See, e.g.In re Cont’l Airlines, 91 F.3d 553, 565 (3d Cir. 1996) (“[W]e should ask whether we want to encourage or discourage reliance by investors and others on the finality of bankruptcy confirmation orders.  The strong public policy in favor of maximizing debtors’ estates and facilitating successful reorganization, reflected in the Code itself, clearly weighs in favor of encouraging such reliance.”).  And although the Court may be without power to extend the 180-day deadline for confirmation order revocation requests, see Fed. Bankr. P. R. 9024 & 9006(b), Collier on Bankruptcy suggests that a court may allow other relief so long as it does not alter any rights or interests established by the plan.  See 8 COLLIER ON BANKRUPTCY ¶ 1144.04[2][a].