American Bankruptcy Institute Calls For Reform of Chapter 11, Including Provisions Related to Unions, Employees and Retirees

By Peter DeChiara

pdechiara@cwsny.com

Posted January 2015

After an extensive three-year study of Chapter 11 of the Bankruptcy Code, a group of prominent bankruptcy practitioners and scholars has issued a report calling for reform of the statute, including certain proposed changes that concern unions, employees and retirees.  The December 2014 report by the American Bankruptcy Institute’s Commission to Study the Reform of Chapter 11 asserts that the time has come for an overhaul of the law governing corporate reorganizations, which was enacted in its current form in 1978, with only limited modifications since.  The commission counted among its members now retired Cohen, Weiss and Simon LLP partner Babette A. Ceccotti.  Those changes proposed in the 396-page report that directly address labor and employment issues are generally sensible and, if ever enacted, would be a step in the right direction towards needed reform of the bankruptcy system.

For example, the commission recommended that the per-employee cap for priority wage and benefit claims be raised to $25,000, double its current amount.  It also recommended that such priority claims no longer be limited to claims arising within 180 days before the employer’s bankruptcy filing or the cessation of the employer’s business, thereby eliminating disputes over when the compensation was earned.

The commission also responded to concerns from witnesses at its field hearings that Section 1113 of the Bankruptcy Code does not in its current form do enough to promote meaningful collective bargaining negotiations before allowing the corporate debtor to launch litigation to reject the union’s labor contract.  The ABI commission declined to recommend a mandatory minimum negotiating period prior to the court considering a rejection request, or to propose a requirement that the debtor negotiate to impasse prior to seeking court-approved relief.  However, it did propose several refinements to Section 1113 intended to more clearly separate the bargaining process from the contract-rejection litigation process.  Under the proposed recommendations, the Code would require the debtor to provide formal notice of its intent to seek modifications to the labor agreement; provide the union with its proposal; indicate the information to be made available to the union; and initiate a court status conference at which the parties could raise  issues related to the bargaining process.  Issues at the conference could include whether the appointment of a mediator would help the bargaining  process and whether adequate information regarding the debtor’s proposal has been provided to the union.  If the parties fail to reach agreement after a period of negotiations, the debtor could then request a further court conference to address the litigation of a rejection motion by the debtor.

The ABI commission also recommended that the Code be amended to clarify that rejection of a collective bargaining agreement constitutes a breach of the agreement and gives rise to a claim for damages.  Such an amendment would overrule cases like Northwest Airlines Corp., 483 F.3d 160 (2d Cir. 2007), which deem rejection to be an “abrogation” of the contract and thus could be read to leave the union whose contract is rejected without a damages claim.

The commission also weighed in on the question – over which the courts are split – whether a business debtor seeking to cut retiree health benefits in bankruptcy must satisfy the bargaining and other requirements of Section 1114 of the Code if those benefits would be terminable at will under non-bankruptcy law outside of Chapter 11.  The commission’s recommendation reflects the approach of the Third Circuit in Visteon Corp., 612 F.3d 210 (3d Cir. 2010), which holds that Section 1114 applies regardless of whether the retiree health benefits would be terminable under non-bankruptcy law.  In proposing its recommendation, the commission recognized the difficulty of engaging in complex “terminable at will” litigation in the context of a bankruptcy case, as well as the benefits of including in the bankruptcy negotiations the retirees’ representatives appointed pursuant to Section 1114.

Regarding the WARN Act, which generally requires an employer to give 60 days’ notice before a plant closing or mass layoff, the commission rejected the position taken by some courts that a claim for damages based on a corporate debtor’s violation of the act is an entirely pre-petition claim if the date on which the WARN notice should have been given preceded the bankruptcy filing.  Rather, the report reasoned that when the plant closing or mass layoff that triggered the WARN Act violation occurs after the employer files for bankruptcy, a claim for damages under the statute should be treated as a post-petition claim, and thus qualify as an administrative expense, to the extent the period of the violation occurred post-petition.  For example, under the commission’s proposal, if, after the debtor filed for bankruptcy, it closed a plant on only 20 days’ advance notice, and the court determined that the employees were entitled under the WARN Act to an additional 40 days’ notice, the employees would have an administrative expense claim for that number of the 40 days of violation that occurred post-petition.

While taking a position favorable to employees on the classification of WARN Act claims, the commission went the other way on the issue of severance pay.  Courts in the Second Circuit hold that when an employee is terminated after the employer files for bankruptcy, the employee’s claim for severance pay is entirely a high priority post-petition claim, even if the severance amount was based on the employee’s length of service and some of that service occurred pre-petition.  See Straus-Duparquet, Inc. v. Local Union No. 3, Int’l Bhd. of Elec. Workers, 386 F.2d 649 (2d Cir. 1967).  Unfortunately, the commission embraced the alternative approach of those courts that deem such severance claims to be administrative claims only to the extent the services of the employee used to calculate the amount of the severance were rendered post-petition.  See, e.g., Roth American, Inc., 975 F.2d 949 (3d Cir. 1992).  Babette Ceccotti dissented from the report on this point.

The ABI is a respected part of the bankruptcy establishment and its opinions carry weight.  So it is conceivable that at least some of the commission’s recommendations could someday find their way into legislation if Congress were ever to take up bankruptcy reform.  While the commission did not propose the type of sweeping reforms that would be needed to level the playing field in bankruptcy for unions and employees (compared to, for example, the proposed legislation discussed in the July 2014 post below), enactment of many of the ABI’s proposals, though modest, would be an improvement on existing Chapter 11 law.