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A Georgia bankruptcy court on April 17 issued a significant ruling that breaks new ground concerning how future claimants’ representatives in asbestos bankruptcies (“FCRs”) are chosen.  In In re The Fairbanks Co., Case No. 18-41768-PWB (Bankr. N.D. Ga. April 17, 2019), the bankruptcy court held that (i) any party in interest may nominate an FCR candidate for the court’s consideration, (ii) the court must apply an “independent inquiry” into a proposed FCR’s qualifications, without giving deference to the debtor’s nomination, and (iii) “the proper standard for consideration of a future claims representative is akin to that of a guardian ad litem such that the individual must not only be disinterested and qualified, but also objective, independent, and loyally committed to protecting the interests of future claimants.”

In an asbestos bankruptcy, a debtor can obtain permanent injunctive protection against not only currently pending claims but also against claims asserted post-confirmation by persons who were exposed to the debtor’s asbestos pre-bankruptcy.  The injunction is called a “channeling injunction” because it “channels” claims away from the debtor to a trust established under a plan of reorganization.  The trust assumes responsibility for paying the claims and is funded with assets of the debtor, typically including cash and proceeds of insurance settlements.

The statute that establishes this asbestos bankruptcy trust/injunction mechanism, 11 U.S.C. § 524(g), conditions the issuance of a channeling injunction on the bankruptcy court’s appointment of an FCR to advocate on behalf of future claimants, who by definition are unable to represent their own interests during the bankruptcy case.  See 11 U.S.C. § 524(g)(4)(B)(i).  As the U.S. Court of Appeals for the Third Circuit noted 15 years ago in the seminal decision In re Combustion Engineering, Inc., 391 F.3d 190, 234 n.45 (3d Cir. 2004), “[t]here are many statutory prerequisites imposed by § 524(g).” and “[m]any of these requirements are specifically tailored to protect the due process rights of future claimants.”  In particular, “[i]n the resolution of future asbestos liability, under bankruptcy or otherwise, future claimants must be adequately represented throughout the process.”  Id. at 245.

In certain kinds of asbestos bankruptcies where debtors negotiate the terms of a plan of reorganization before filing for bankruptcy, debtors have retained someone to serve in the role of an FCR prior to bankruptcy.  Debtors typically pay such persons and their professionals for their pre-petition work on the plan negotiations.  Then, when the bankruptcy case is filed, the debtor nominates such person to serve as the statutory FCR under Section 524(g).  In response to objections that such persons cannot properly serve as FCRs because of their pre-petition retention by prospective debtors, debtors have argued, for the most part successfully, that such persons can properly serve because they meet the “disinterestedness” standard applied to professionals retained by debtors and official committees.  Courts have generally rejected arguments that FCRs should be held to a higher, fiduciary standard.  Debtors have also argued, again for the most part successfully, that parties other than the debtor and the official committee for current asbestos claimants lack standing to object to the debtor’s proposed FCR because they do not represent the interests of future claimants.

The Fairbanks decision breaks new ground in several areas.  First, the court held that any party in interest may nominate an FCR candidate for selection by the court.  The court noted that “[w]hile historically the debtor has performed this function, nothing in the statute mandates that only the debtor may do so.”  And although the court said that “[n]othing is fundamentally wrong with this practice . . . in no way is this the exclusive province of the debtor (or the claimants).”  Moreover, the court held, “a debtor’s or committee’s choice is not entitled to deference.”  Indeed, the court observed that it “can think of no unreasonable harm that befalls a debtor or other parties by declining to rubber-stamp a debtor’s candidate.”

Second, the court held that an FCR must be held to a higher standard than mere “disinterestedness.”  This is because an FCR “must perform fiduciary-like duties in his or her very special role of negotiating for individuals who will be required to participate in a claim-resolution procedure (the trust via the channeling injunction) that they had no say about.”  The court considered what qualities future claimants would want in their representative and concluded that they “would want an individual who is objective, reasonable, and fair and who would zealously advocate for them.”  Indeed, the court ruled, “[c]onsiderations of due process and the statutory provisions of § 524(g) require that a court examine a proposed future claimants’ representative’s capabilities beyond qualification and disinterestedness,” because “[l]imiting a court’s consideration of the appointment of an FCR to whether the candidate is ‘disinterested’ and facially qualified ignores the statutory purpose of the FCR, which is to provide an effective advocate for otherwise unrepresented future claimants.”

In determining what standard to use, the court noted that an FCR “effectively undertakes the role of a guardian ad litem.”  Accordingly, “[t]he appointment of an FCR thus involves requires the same considerations as appointment of a guardian ad litem.”  This means that the FCR must “not only be disinterested and qualified; the future claimants’ representative must also be capable of acting as an objective, independent, and effective advocate for the best interests of the future claimants.”  Thus, the court “must be satisfied that, like a guardian ad litem, an FCR will provide representation that is diligent, competent, and loyal.”

The court rejected, however, an argument by the United States Trustee that a debtor’s proposal of a candidate, “in and of itself,” was disqualifying.  And while the court observed that “prepetition relationships or compensation of a candidate on the surface suggest the possibility of an actual conflict and may raise concerns,” it ruled that “they do not alone demonstrate a lack of independence or partiality.”  Whether an FCR candidate meets these standards was, the court ruled, a factual question to be determined at an evidentiary hearing.

The court then evaluated the debtor’s proposed FCR candidate and three candidates proposed by the U.S. Trustee.  Following an evidentiary hearing to consider the qualifications of each candidate, all of whom the court deemed “impressive,” “qualified,” and able to “do the job,” the court chose the debtor’s candidate based largely on his experience serving as an FCR in other cases.

In closing, the court said that the U.S. Trustee “is to be credited for his advocacy on these issues,” particularly, because of “anecdotal evidence” that “fraud and abuse in the system does exist.”  As support for this statement, the court cited to In re Garlock Sealing Technologies, LLC, 504 B.R. 71, 84 – 86 (Bankr. W.D. N.C. 2014), and an article co-authored by Crowell & Moring partners Mark D. Plevin and Clifton S. Elgarten, (“The Future Claims Representative in Prepackaged Asbestos Bankruptcies: Conflicts of Interest. Strange Alliances, and Unfamiliar Duties for Burdened Bankruptcy Courts,” 62 N.Y.U. Ann. Surv. Am. L. 271 (2006)).  But, the court noted, “nothing indicates that” fraud or abuse were “present in this case.”

Similar issues about the selection of FCRs are currently pending in one district court case (Vara v. Duro Dyne Nat’l Corp. (In re Duro Dyne Nat’l Corp.), No. 3:18-cv-15563-MAS (D.N.J.) and one bankruptcy court case (In re Imerys Talc America, Case No. 19-10289 (Bankr. D. Del.).)  Both cases are fully-briefed.  It remains to be seen whether the bankruptcy court decision in Fairbanks affects the rulings in those two cases.