You Have a Voice: The Supreme Court Rules Everyone Except for “Truly Peripheral Parties” May Participate in Chapter 11 Proceedings

Learning that a bankruptcy which may impact you has been filed can be disconcerting. Bankruptcy navigates a complicated statutory framework that strikes a delicate balance between a debtor’s interest in financial rehabilitation and the creditors’ interest in maximizing their recoveries. Compounding this complexity is §1109(b) of the Bankruptcy Code, which governs the rights of “parties in interest” to participate in Chapter 11 restructurings. But are you a party with a voice in the case? In Truck Insurance Exchange v. Kaiser Gypsum Co., Inc. et al., the Supreme Court has brought some clarity to this issue.

Several affiliated corporations facing extensive mass-tort liability commenced the Kaiser Gypsum proceedings. As part of the bankruptcy process, the Debtors proposed a plan which addressed the Debtors’ mass-tort liabilities by funding a trust and channeling all present and future mass-tort claims into that trust pursuant to §524(g). An insurance provider had issued policies to the Debtors covering some of these liabilities before the bankruptcy filing. These policies obligated the insurer to defend personal injury lawsuits filed against the Debtors and to provide indemnification of up to $500,000 per claim. For their part, the Debtors were obligated to pay a small deductible for each claim and to cooperate with the insurer in the litigation.

The insurer sought to oppose confirmation of the Debtors’ plan, arguing that the plan potentially exposed it to millions of dollars in fraudulent claims and improperly altered the Debtors’ obligation to cooperate in the personal injury litigation. The lower courts concluded that the insurer had no right to be heard on the matter of confirmation of the Debtors’ proposed plan, chiefly because it did not purport to increase the obligations owed by the insurer to the Debtors.

The Supreme Court reversed, holding that an insurer with financial responsibility for bankruptcy claims is a “party in interest” under §1109(b) that may raise and may appear and be heard on any issue in a Chapter 11 case. In particular, the Court observed that the insurer’s right to be heard stems from the fact that the “bankruptcy proceedings and whatever reorganization plan is proposed and eventually adopted” have the “potential” to cause financial harm to the insurer’s rights under its contractual agreements with the Debtors. Indeed, those rights stood to be “directly and adversely affected by the reorganization proceedings” in myriad ways. Whether or not the confirmation and implementation of the plan would actually harm the insurer was beside the point. A proper §1109(b) inquiry asks whether the reorganization proceedings might affect a prospective party, not how a particular reorganization plan actually affects that party.

Although it declined to “opine on the outer bounds of §1109,” the Court clearly favors participation over exclusion. Broad participation in Chapter 11 proceedings can promote a fair and equitable reorganization process. This opinion has confirmed that “parties in interest” is broadly defined, while bankruptcy courts remain able to control that participation and decide “whether truly peripheral parties have a sufficiently direct interest” to participate.

Stites & Harbison’s attorneys are ready to help with your questions regarding bankruptcy and restructuring cases which may impact you. The expansive right to participate in Chapter 11 restructurings confirmed this month by the Supreme Court may make such consultations all the more important, as parties that are entitled but fail to participate in a bankruptcy may suffer greater harm.