ShareholderRightsinChapter11

Hon.LeifM.ClarkUSBankruptcyJudge

(re@red)

1clark@cbinsolvency.com

ShareholderRightsintheUS

•  Ingeneral,shareholderrightsaregovernedbystatelaw(e.g.,Delawarelaw,NYlaw,etc)

•  ShareholdershavetherighttoselectmembersoftheBoardofDirectors

•  Directorsareexpectedtoactinthebestinterestsoftheirshareholders(dutyofloyaltyandinsomestatesdutyofcare)

•  Directorsselectofficers,whoalsohavesimilardu@esofloyaltyandcare

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ShareholderRightsinBankruptcy•  OncetheshareholdershaveauthorizedthefilingofaCh.11,thedebtoren@ty’sdu@esshiStoincludethecreditors(ingeneral)

•  Directorsandofficerscon@nuetooperatethedebtor,asdebtor-in-possession,aquasi-fiduciary

•  Butcreditorshavepriorityofpaymentovershareholders,crea@ngpoten@alconflictsforofficersanddirectors

•  Canshareholdersaffectthedecisionsofofficersanddirectorsinbankruptcy?

•  Canshareholdersretaintheirinterests?3clark@cbinsolvency.com

SOMESTATUTES

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§1129(b)(2)(B)

(b)[ifaclasshasvotedtorejecttheplan,theplanmays@llbeconfirmed,butonlyif--](B)Withrespecttoaclassofunsecuredclaims—(i)theplanprovidesthateachholderof[anallowed]claimofsuchclass[isfullysa@sfied];or(ii)theholderofanyclaimorinterestthatisjuniortotheclaimsofsuchclasswillnotreceiveorretainundertheplanonaccountofsuchjuniorclaimorinterestanyproperty…..

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§1129(b)(2)(C)

(C)Withrespecttoaclassofinterests—(i)theplanprovidesthateachholderofaninterestofsuchclassreceiveorretainonaccountofsuchinterestpropertyofavalue,asoftheeffec@vedateoftheplan,equalto…thevalueofsuchinterest;or(ii)theholderofanyinterestthatisjuniortotheinterestsofsuchclasswillnotreceiveorretainundertheplanonaccountofsuchjuniorinterestanyproperty.

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§1123(a)(4)

Aplanshall(4)providethesametreatmentforeachclaimorinterestofapar@cularclass,unlesstheholderofapar@cularclaimorinterestagreestoalessfavorabletreatmentofsuchpar@cularclaimorinterest

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§1123(a)(6)…aplanshall(6)providefortheinclusioninthecharterofthedebtor,ifthedebtorisacorpora@on,orofanycorpora@onreferredtoinparagraph(5)(B)or(5)(C)ofthissubsec@on,ofaprovisionprohibi5ngtheissuanceofnonvo5ngequitysecuri5es,andproviding,astotheseveralclassesofsecuri@espossessingvo@ngpower,anappropriatedistribu@onofsuchpoweramongsuchclasses,including,inthecaseofanyclassofequitysecuri@eshavingapreferenceoveranotherclassofequitysecuri@eswithrespecttodividends,adequateprovisionsfortheelec@onofdirectorsrepresen@ngsuchpreferredclassintheeventofdefaultinthepaymentofsuchdividends

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§1145(a)(1)[S]ec@on5oftheSecuri@esActof1933andanyStateorlocallawrequiringregistra@onforofferorsaleofasecurityorregistra@onorlicensingofanissuerof,underwriterof,orbrokerordealerin,asecuritydonotapplyto—(1)theofferorsaleunderaplanofasecurityofthedebtor,ofanaffiliatepar@cipa@nginajointplanwiththedebtor,orofasuccessortothedebtorundertheplan—(A)inexchangeforaclaimagainst,aninterestin,oraclaimforanadministra@veexpenseinthecaseconcerning,thedebtororsuchaffiliate;or(B)principallyinsuchexchangeandpartlyforcashorproperty[similarprovisionforwarrants,op@ons,etc.)

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§510(b)(b)Forthepurposeofdistribu@on…aclaimarisingfromrescissionofapurchaseorsaleofasecurityofthedebtororofanaffiliateofthedebtor,fordamagesarisingfromthepurchaseorsaleofsuchasecurity,orforreimbursementorcontribu5onallowedundersec@on502onaccountofsuchaclaim,shallbesubordinatedtoallclaimsorintereststhatareseniortoorequaltheclaimorinterestrepresentedbysuchsecurity,exceptthatifsuchsecurityiscommonstock,suchclaimhasthesamepriorityascommonstock.

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Insummary,then--

•  Shareholders,as“claimants”byvirtueoftheirinterests,canreceiveadistribu@ononaccountofthatinterest,butonlyifnounsecuredcreditorclasshasvotedtorejecttheplan

•  Ifshareholdersretaintheirinterestundertheplan,however,theirrightscannotbedilutedbynonvo@ngstock

•  Claimsarisingfromthepurchaseorsaleofasecurityofthedebtoraretreatedasequity

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SOMECASES…

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CorporateGovernanceIssues

Onceadebtorenterschapter11,itisa“debtor-in-possession”or“DIP”forshort.TheDIPactsinthesteadofatrustee,responsibleforgathering

andpreservingassetsforthebenefitofcreditors.Butwhatdoesthismeanfor

corporategovernance?TowhomdoestheBoardofDirectorsanswer?Andcantheybe

removed?Ifso,bywhom?

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Johns-Manville“shareholders'desireforleverageisnotabasisfordenyingthemanelec5on,solongasleveragemeansonlytheimprovementoftheirbargainingposi@onortheassuranceoftheirpar@cipa@oninnego@a@ons.…theEquityCommireeispermiredtoelectnewdirectorsinordertoredirectoralterthecourseofareorganiza@on—…thedistrictcourthereexplicitlyrecognizedthatthe[Equity]commireeispermiredtodothat…”InreJohns-ManvilleCorp.,801F.2d60,65-66(1986)(emphasisadded)

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Johns-Manville(cont’d)However:“InInrePoBerInstrumentCo.,593F.2d470(2dCir.1979),thiscourtupheldthebankruptcycourt'srefusal,uponafindingofclearabuse,toorderashareholders'mee@ngtobecalledforthepurposeofelec@ngnewdirectors.Wereasonedthat"suchanelec@onmightresultinunsa@sfactorymanagementandwouldprobablyjeopardizeboth[thedebtor's]rehabilita@onandtherightsofcreditorsandstockholders—soundingthe`deathknell'tothedebtoraswellastoappellanthimself."Id.at475.”Id.,at67(emphasisadded).

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Johns-Manville(cont’d)Butthedissentpointsout:“Toseekashareholders'mee@ngatthislatedate,itseemstome,is…aclearabuse.TheEquityCommiree,ifithasitsway,wouldsetthisreorganiza@onbacktosquareone.Apparentlysa@sfiedwiththeBoardofDirectorsforthreeyearsfollowingthefilingofthebankruptcype@@on,thecommireewaitedun@lthedirectorsfinallyproposedaplantoobject,notonlytotheplan,buttothedirectorsthemselves.Inaddi@ontoseekingtoupsettheplan,itisnowtryingtoreplacethedirectors,aresultthatwouldrequirenego@a@onstorecommencefromthebeginning.”

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PlanTreatmentofShareholders

Iftheplangivesstocktocreditors,orallowsexis@ngshareholderstoretainstock,theCoderequiresthatvo@ngrightsbepreserved.Thus,theCodecontemplatesreturningcorporate

governancetoshareholdersaSerconfirma@on.Butthisrequirementsome@mesneedstobe

altered,foravarietyofreasons.

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Acequia“Sec@on1123(a)(6)requiresan‘appropriatedistribu@onofvo@ngpower’asto‘theseveralclassesofsecuri@espossessingvo@ngpower....’Sec@on1123(a)(7)(1982)providesthataplanmustcontainprovisions‘thatareconsistentwiththeinterestsof...equitysecurityholdersandwithpublicpolicywithrespecttothemannerofselec@onofanyofficer,director,ortrustee....’Seealso11U.S.C.§1129(a)(5)(A)(ii)(1982).Sec@ons1123(a)(6)and1123(a)(7)mustbereadtogether.Theseprovisionsrequirethatthecourtscru@nizeanyplanwhichaltersvo@ngrightsorestablishesmanagementinconnec@onwithaplanofreorganiza@on,whetherornottheplanprovidesfortheissuanceofnewsecuri@es.”787F2d1352,1362(9thCir.1986)

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Acequia(cont’d)

“Werecognizethatashareholder'spar@cipa@oninacorpora@on‘cannotbelightlycastaside....’InreLifeguardIndustries,Inc.,37B.R.3,17(Bankr.S.D.Ohio1983).Clinton,however,presentedJudgeYoungwithnoreasonablealterna@vebuttoextendHaley'sexclusivecontrolbeyondthetwoandone-halfyearperiodthattheproxywasineffect.”Id.,at1362

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Acequia(cont’d)

TheplanclassifiedClinton(Hshareholder)andHaley(Wshareholder)inthesameclass,butpermiredonlyHaleytoserveasanofficerwithouttheapprovalofthedirectors.§1123(a)(4)saysthat“interests”havetobetreatedthesame.Courtsaidthatthisprovisionwasnotviolated:“herposi@onasdirectorandofficeroftheDebtorisseparatefromherposi@onasanequitysecurityholder.Haley'ssharesareplacedinthesameclassandsubjecttothesamevo@ngrestric@onsasClinton's.”

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AheadCommunica@ons

Purposeof§1126(a)(6)istoallocatevo@ngpowerrecognizesrespec@verightsofclaimantsandshareholders,pertheirrankandrightstheysurrender.Creditorswhoreceivesharesshouldalsoreceivevo@ngrights.Inaddi@on,shareholderswhoretaintheirrightsshouldalsoretaintheirrighttoselectthefuturemanagementofthecompany.395BR512(D.Conn.2008)

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LimitsonFilingRights

Thedecisiontofileforch11reliefcanoSenbemadeattheBoardofDirectorslevel,buttheby-lawsmightrequirethatshareholdersauthorizethefiling.Whenthathappens,thecourtmaybe

calledupontoexaminethebonafidesorlegi@macyofthefilingdecision,andtoperhaps

dismissthecase.

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SGLCarbonCorp.

Solventcompanyfiledforchapter11.Creditorssoughttodismissthecaseasfiledinbadfaith.Thecourtgrantedthemo@ontodismiss,butonlybecausetherewasintenttogainali@ga@onadvantage.Courtacknowledgedthatsolvententerprisesmayfile,andthatpreservingvalueforshareholdersisalegi@matebasisforfiling,providedrehabilita@onoftheenterpriseisthegoal.200F.2d154(3rdCir.1999)

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IntegrateTelecomExpress,Inc.

Solvententerprisemayfile,includingtopreserveshareholdervalue,butmaynotfiletoobtainali@ga@onadvantage.384F.3d108

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BankruptcyRemoteness

Some@mes,lendersdesiretomakeaborrower“bankruptcyremote”asacondi@ontolending.Thisisaccomplishedbyrequiringthecrea@onof

abankruptcyremoteen@tywhoseby-lawsincludearequirementofunanimitybythe

Board,oneofwhosedirectorsisdesignatedas“independent.”Doesthisstrategywork?

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KingstonSqAssoc.Subsidiarycorpora@onswerecreatedtohold@tletoproper@esonwhichloansweremade.Attheinsistenceofthelender,provisionswereplacedintheby-lawstomakethesubsidiaries“bankruptcyremote”–thatis,unanimousconsentofallboardmemberswasrequiredtoauthorizethefilingofape@@on,oneboardmemberwas“independent”butinfact“…serve[d]asanindependentdirectorforthreeotheren@@esattherequestofDLJ[thenoteholder],receiving$10,000peryearpertransac@on.Therefore,Richardsonreceive[d]theaggregateamountof$55,000annuallyforservingonthevariousboardsofdirectorscreatedpursuanttoDLJ-structureddeals.”214B.R.713(Bankr.SDNY1997)

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KingstonSq.Assoc.(cont’d)“[C]orporateac@ontakenbyaninsiderwithoutboardorshareholderauthoritymaylaterbefoundtohavebeenappropriateincircumstanceswheretheexistenceofthecorpora@onisverymuchatrisk.Here,withforeclosuresbeingins@tutedbytheMovantsagainsteachDebtors'propertyandtheDebtors'boardstymiedinfilingforbankruptcyinlightoftheblockingvoteheldbyRichardson,Ginsberg'sactstogarnersupportfromwillingcreditorstofileinvoluntarycasesinordertothwartfinancialruinwouldappeartoberightinlinewith[caselaw].”

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KingstonSq.Assoc(cont’d)

“[theboardmembers’]inten@onwastocircumventtheinabilityoftheDebtorstoactinthefaceofthependingforeclosureproceedingsbytakingsomeac@ontopreservevaluefortheDebtors'estatesandcreditors.…TheMovantsmayfeelbruisedbecausetheRespondentsoutmaneuveredwhattheMovantsthoughtwasaniron-cladprovisioninthecorporateby-lawspreven@ngabankruptcyfiling,butthisdoesnotmeanthat,withoutmore,thepe@@onsmustbedismissed.”Id.,at737.

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Taximplica@onsofdebtforequity

Onereorganiza@ontoolavailableunderch11isdebtforequityswaps.ButtheUSTaxCode

requiresthat“stockfordebt”plansnotresultina“changeofcontrol.”Otherwise,valuabletaxbenefits,suchasnetopera@nglosscarrybacksandcarryforwards,canbelost.See26USC§

382.Thepresenceofsuchvaluablebenefitscanbegoodforexis@ngshareholders.

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CharterCommunicaOons

Planprovidedthatasignificantshareholderwouldretainhis35%vo@ngpower,despitethefactthat,asaresultoftherestructuring,hisshareswouldbedilutedtothepointofbeingworthless.Theprovisionwasnecessarytoavoidtriggering“changeofcontrol”–whichwouldhavehadsignificantadversetaxconsequencesundertheInternalRevenueCode.419B.R221(Bankr.SDNY2009)

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GezngaroundAbsolutePriority

Equityinterestscannot,underaplan,retain

theirinterestsorreceiveanythingonaccountofthoseinterestsifaclassofunsecuredclaims

seniortothemvotes“no”onanysuchplan.Aretherewaysaroundthisruleinthefaceofsuchopposi@on?Therearetwothathavebeentried

–“newvalue”and“giSplans.”

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CasevLosAngelesLumberProducts

Whilejuniorinterestsshouldnormallyreceivenothingifseniorinterestsarenotpaidinfull,thecourtsrecognizeanexcep@onfor“newvalue,”provided–•  thecontribu@onis“new”•  thecontribu@onis“necessary”•  thecontribu@onis“substan@al”•  theresul@nginterestgrantedisreasonablyequivalenttotheamountcontributed

308U.S.106(1939)

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Lightsquared

Acontribu@onof“newvalue”byexis@ngshareholdersdoesnotneedtomeetthe“newvalue”testiftheexis@ngshareholdersarealreadyoutofthemoney.“ThePlanisnota"new"valueplan—insuchaplan,juniorcreditors"leapover"moreseniorcreditorswhoseclaimsarenotpaidinfull.Here,thestandalonevalua@onfoundbytheCourtisthatthereisnoequitycushion.Thatfindingisno"leap"aheadofAhuja.”534BR522(SDNY2015)

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ArmstrongWorldIndustries

Whileitispossibleforasecuredcreditorto“giS”itsownintereststolowerclasseswithoutpassing“newvalue”standards,thekeyques@oniswhetherthegiSconsistsofthecreditor’sproperty,asopposedtogiSingwhatwouldotherwisebethedebtor’sproperty.432F.3d507(3rdCir.2005)

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Conclusion

•  Despitebeinglastinorderofdistribu@on,shareholderss@llhavepowertoaffectreorganiza@on

•  Theirrightscanbewipedoutordilutedinaplan

•  Buttheymaybeabletopreservetheirrights•  Courtscan,insomecircumstances,enjoinshareholdersfromcontrollingtheboard

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Thankssomuchforyour

aren@on

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