As part of the Bankruptcy Abuse and Consumer Protection Act of 2005 (BAPCPA), changes were made to the law regarding formation and powers of the Committee of Unsecured Creditors (the “Committee”).  Typically a Committee is appointed from the list of twenty largest unsecured creditors filed by a chapter 11 debtor.  The Committee usually is comprised of seven creditors and must be fairly chosen and representative of the different types of unsecured claims.   The United States Trustee or Bankruptcy Administrator oversees the formation and appointment of the Committee.  The Committee can hire professionals and plays an important role in making sure the unsecured creditors are treated fairly and not prejudiced by actions taken in the case. 

Committee Make-Up

BAPCPA provides in section 1102(a) (4) that on request of a party in interest the court may order a change in membership of a Committee if necessary to ensure adequate representation of creditors or equity security holders.  Also, the court may increase the number of members to include a “small business concern” if the creditor holds claims that are disproportionately large in relation to the creditor’s gross revenues.  This change will enable creditors holding smaller claims to serve on the Committee.  This change likely will not cause significant problems in small chapter 11 cases, but in the “mega” cases, the creditors with very large claims and experience in serving on Committees likely will resist the addition of smaller creditors. 

Just because a creditor’s claim is significantly smaller than the claims of other creditors does not mean that the creditor has less interest in the outcome of a chapter 11 case.  If the amount due from the debtor and whether it is paid will have a significant outcome on the financial viability of the creditor, the creditor may be very motivated to serve on the Committee. Such a creditor should contact the U.S. Trustee or Bankruptcy Administrator to get on the Committee, but it is likely that the creditor will be required to file a motion seeking a court order approving its appointment. 

Impact Of New Administrative Claim

Another BAPCPA change affecting Committee membership is the administrative priority now given to trade creditors that provide credit in the ordinary course of business to the Debtor within 20 days prior to the Petition Date. If the Debtor does not properly determine the amount of a creditor’s administrative claim and includes it in the creditor’s unsecured claim, the list of the top twenty largest unsecured creditors will be distorted.

Committee Duty To Solicit Creditor Comments

Section 1102(b) (3) was added to the Bankruptcy Code to provide that a Committee must solicit and receive comment from creditors of all kinds represented by the Committee.   The Code does not provide guidance for a Committee to comply with this new directive.  In large cases, Committees may set up a website to provide information and solicit information.  Updates on case status could be mailed to creditors periodically.   This will be helpful to creditors who are interested in getting insight on developments in the case.   Of course, the notification of creditors will increase administrative costs, depending on how the Committee provides information.

Confidentiality Issues

One of the biggest concerns created by the new legislation is how to protect confidential information that the debtor shares with the Committee.  The Committee is often asked to execute Confidentiality Agreements before the debtor shares sensitive information regarding operations.  In a recent case filed in the United States Bankruptcy Court for the District of Delaware (In re Nobex Corporation, Case No. 05-20050), the debtor filed a motion seeking an order prohibiting the Committee from providing confidential information to the creditors.  In particular, the debtor sought protection regarding certain information related to its primary asset, intellectual property.   An order was entered on February 10, 2006 that required the Committee to provide to creditors the following information:  general information about the debtor and the chapter 11 case, highlights of significant events, a calendar of upcoming events, press releases (if any) issued by  the Committee and the debtor, and other information upon request, provided that the Committee can use its reasonable discretion regarding whether to provide information and require confidentiality agreements.  The court found that the Committee did not have to provide confidential or proprietary information about the debtor or the Committee, privileged information, or other information that that would compromise the fiduciary duties of the Committee.  The court also decided that creditors could submit a written request for information and if that request was not met by the Committee, the creditor could request a hearing on a motion to compel the disclosure.   

Because certain information should be protected to enhance a debtor’s ability to reorganize or maximize the value of its assets at sale, it is likely that other Bankruptcy Courts will protect the debtor from dissemination of certain information. Some courts have indicated a willingness to enter a protective order early in the case that allows the debtor to share information with the Committee, yet protects sensitive and attorney-client privileged information from wide-spread disclosure.

The changes to the Bankruptcy Code likely will be helpful to creditors and enable them to have better information and more input into Committee decisions.  Subject to certain limits, the fiduciary duty of the Committee to all creditors will be enhanced by the new legal requirements related to membership and communication.        

If you have any questions regarding this article, please contact Lisa Sumner at 919.783.2869 or lsumner@poynerspruill.com. 

This electronic publication is published by Poyner & Spruill LLP to provide general information about significant legal developments. Because the facts in each situation vary, the legal precedents noted herein may not be applicable to individual circumstances.