International readers of this blog – and those in the US who practice internationally – are more than likely aware of the doctrine of “comity” embraced by US commercial law. In a nutshell, “comity” is shorthand for the idea that US courts typically afford respect and recogntion (i.e., enforcement) within the US to the judgment or decision of a non-US court – so long as that decision comports with those notions of “fundamental fairness” that are common to American jurisprudence.
In the bankruptcy context, “comity” forms the backbone for significant portions of the US Bankruptcy Code’s Chapter 15. Chapter 15 – enacted in 2005 – provides a mechanisim by which the administrators of non-US bankruptcy proceedings can obtain recogntion of those proceedings, and further protection and assistance for them, inside the US.
But in at least some US bankruptcy courts, “comity” for non-US insolvencies only goes so far. Last month, US Bankruptcy Judge Thomas Argesti, of Pennsylvania’s Western District, offered his understanding of where “comity” stops – and where US bankruptcy proceedings begin.
Judge Argesti currently presides over Chapter 15 proceedings commenced in furtherance of two companies – Canada’s Railpower Technologies Corp. (“Railpower Canada”) and its wholly-owned US subsidiary, Railpower US. The two Railpower entities commenced proceedings under the Canadian Companies Creditors’ Arrangement Act (“CCAA”) in Quebec in February 2009. Soon afterward, their court-appointed monitors, Ernst & Young, Inc., sought recogntition of the Canadian Railpower cases in the US.
Railpower US’ assets and employees – and 90% of its creditors – were located in the US. The company was managed from offices in Erie, PA. Nevertheless, it carried on its books an inter-company obligation of $66.9 million, owed to its Canadian parent. From the outset, Railpower US’ American creditors asserted this “intercompany debt” was, in fact, a contribution to equity which should be subordinate to their trade claims. Judge Argesti’s predecessor, now-retired Judge Warren Bentz, therefore conditioned recognition of Railpower US’ case upon his ability to review and approve any proposed distribution of Railpower US’ assets. After the company’s assets were sold, Judge Bentz further required segregation of the sale proceeds pending his authorization as to their distribution. Finally, after the Canadian monitors obtained a “Claims Process Order” for the resolution of claims in the CCAA proceedings and sought that order’s enforcement in the US, Judge Bentz further “carved out” jurisdiction for himself to adjudicate the inter-company claim if the trade creditors received anything less than a 100% distribution under the CCAA plan.
Railpower US’ assets were sold – along with the assets of its Canadian parent – to R.J. Corman Group, LLC. Railpower US was left with US$2 million in sale proceeds against US$9.3 million in claims (other than the inter-company debt). The Canadian monitor indicated its intention to file a “Notice of Disallowance” of the inter-company debt in the Canadian proceedings, but apparently never did. Meanwhile, approximately CN$700,000 was somehow “upstreamed” from Railpower US to Railpower Canada. Finally, despite the monitor’s assurances to the contrary, Railpower Canada’s largest shareholder – and an alleged secured creditor – sought relief in Quebec to throw both Railpower entities into liquidation proceedings under Canada’s Bankruptcy and Insolvency Act.
Enough was enough for Railpower US’ American creditors. In August 2009, they filed an involuntary Chapter 7 proceeding against Railpower US, seeking to regain control over the case – and Railpower US’ assets – under the auspices of an American panel trustee.
The Canadian monitor requested abstention under Section 305 of the Bankruptcy Code. Significantly re-drafted in the wake of Chapter 15′s enactment, that section permits a US bankruptcy court to dismiss a bankruptcy case, or to suspend bankruptcy proceedings, if doing so (1) would better serve the interests of the creditors and the debtor; or (2) would best serve the purposes of a recognized Chapter 15 case.
Judge Argesti’s 14-page decision, in which he denied the monitors’ motion and permitted the Chapter 7 case to proceed, is one of apparent first impression on this section where it regards a Chapter 15 case.
Where the “better interests of the creditors and the debtor” are concerned, Judge Argesti’s discussion essentially boils down to the proposition that because creditors representing 85% – by number and by dollar amount – of Railpower US’ case sought Chapter 7, those creditors have spoken for themselves as to what constitutes their “best interests” (“The Court starts with a presumption that these creditors have made a studied decision that their interests are best served by pursuing the involuntary Chapter 7 case rather than simply acquiescing in what happens in the Canadian [p]roceeding.”).
The more interesting aspect of the decision concerns Judge Argesti’s discussion of whether or not the requested dismissal “best serve[d] the purposes” of Railpower’s Chapter 15 cases. For guidance on this issue, Judge Argesti turned to Chapter 15′s statement of policy, set forth in Section 1501 (“Purpose and Scope of Application”) – which states Chapter 15′s purpose of furthering principles of comity and protecting the interests of all creditors. Then, proceeding point by point through each of the 5 enunciated principles behind the statute, he arrived at the conclusion that the purposes of Chapter 15 were not “best served” by dismissing the involuntary Chapter 7 case. As a result, Railpower US’ Chapter 7 case would be permitted to proceed.
Judge Argesti’s analysis appears to focus primarily on (i) the Canadian monitors’ apparent delay in seeking disallowance of the inter-company debt in Canada; (ii) the “upstreaming” of CN$700,000 to Railpower Canada; and (iii) the monitors’ apparent failure, as of the commencement of the involuntary Chapter 7, to “unwind” these transfers or to recover them from Railpower Canada for the benefit of Railpower US’ creditors. It also rests on the fact that Railpower US was – for all purposes – a US debtor, with its assets and creditors located primarily in the US.
In this context, and in response to the monitors’ protestations that comity entitled them to judicial deference regarding the Chapter 15 proceedings, Judge Argesti noted that:
comity is not just a one-way street. Just as this Court will defer to a [non-US] court if the circumstances require it, so too should a foreign court defer to this Court when appropriate. In this case it was clear from the start that [this Court] expressed reservations about the distribution of Railpower US assets in the Canadian [p]roceeding . . . . The Monitor has [not] explained how this [reservation] is to be [addressed] unless the Canadian Court shows comity to this Court.
Judge Argesti’s decision may be limited to its comparatively unique facts. However, it should also serve as a cautionary tale for representatives seeking to rely on principles of comity when administering business assets in the US. In addition to his more limited construction of “comity,” Judge Argesti also noted that recognition of Railpower US’ Chapter 15 case was itself subject to second-guessing where subsequently developed evidence suggested that the company’s “Center of Main Interests” was not in Canada, but in the US.
For anyone weighing strategy attendant to the American recognition of a non-US insolvency proceeding, this decision is important reading.