MUNSCH HARDT KOPF & HARR, P.C.
Davor Rukavina, Esq.
Texas Bar No. 24030781 Julian P. Vasek, Esq.
Texas Bar No. 24070790 3800 Ross Tower 500 N. Akard Street Dallas, Texas 75202-2790 Telephone: (214) 855-7500 Facsimile: (214) 978-4375
Counsel for Highland Capital Management Fund Advisors, L.P. and NexPoint Advisors, L.P.
IN THE UNITED STATES BANKRUPTCY COURT FOR THE NORTHERN DISTRICT OF TEXAS
DALLAS DIVISION )
In re: ) Chapter 11
)
HIGHLAND CAPITAL MANAGEMENT, L.P. ) Case No. 19-34054 (SGJ11) )
Debtor. )
) )
ADVISORS’ REPLY IN SUPPORT OF MOTION FOR STAY PENDING APPEAL TO THE HONORABLE STACEY G.C. JERNIGAN, U.S. BANKRUPTCY JUDGE:
COME NOW Highland Capital Management Fund Advisors, L.P. and NexPoint Advisors, L.P. (the “Movants”), creditors and parties-in-interest in the above styled and numbered bankruptcy case (the “Bankruptcy Case”) of Highland Capital Management, L.P. (the “Debtor”), and file this Reply in support of their Emergency Motion for Stay Pending Appeal of the Confirmatio Order, and Brief In Support Thereof [docket no. 1955] (the “Stay Motion”), replying
to the Debtors’ Omnibus Response to Motions for Stay Pending Appeal of the Confirmation Order (the “Response”), filed by the Debtor, respectfully stating as follows:
I. STANDING
1. The Debtor challenges the Advisors’ standing to appeal the Confirmation Order.
However, the Court held that the Advisors had standing to object to the confirmation of the Plan.
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See Confirmation Hearing Oral Ruling, February 8, 2021 at 20:15-18. As the Advisors had
standing to object to the confirmation of the Plan, they have standing to appeal the Confirmation Order.
2. More importantly, the Plan and Confirmation Order expressly enjoin the Advisors from taking certain actions, including from advising or causing various funds to exercise their contractual rights against the Debtor, including to terminate the Debtor as CLO portfolio manager, and including from advising or causing various funds to assert claims against the Debtor for postpetition and postconfirmation mismanagement and breaches of duty.1 It is elemental that a party subject to an injunction, and here a permanent one, has standing to appeal the injunction—
especially when there is the threat of future contempt actions. See, e.g., Samnorwood Indep. Sch.
Dist. v. Tex. Educ. Agency, 533 F.3d 258, 265 (5th Cir. 2008) (“a third party had standing to appeal
an injunction which adversely affects its interest”). By definition, being bound to a bankruptcy court injunction satisfies the “person aggrieved” requirement. See In re American Dev. Int’l Corp., 188 B.R. 925, 932-33 (N.D. Tex. 1995) (“Paige’s standing to appeal is governed by the ‘person aggrieved’ standard, because the injunction at least impairs his rights”). This could not be clearer than from the Fifth Circuit’s own holding in In re Zale Corp.:
CIGNA and Zale argue initially that NUFIC and Feld lack standing to appeal because the injunction does not harm them. We find no merit in this contention—
the fact that the injunction bars NUFIC and Feld in any way gives them standing to appeal it.
In re Zale Corp., 62 F.3d 746, 751 n. 13 (5th Cir. 1995) (emphasis added). The same is true of the
Plan’s exculpation provisions, which take away from the Advisors possible claims they may have against non-debtor parties.
1 Of significance, the Debtor has not argued that the Plan’s injunction and exculpation provisions do not apply to the Advisors, and the evidence at the confirmation hearing, together with the express provisions of the Plan, is that those provisions apply with full force to the Advisors.
3. And, since the Plan’s injunction and exculpation provisions could not have been ordered without the Plan otherwise being confirmed, the Advisors have standing to challenge any provision of the Plan that violates section 1129 of the Bankruptcy Code. This is because standing tests whether there is “a causal connection between the injury and the conduct complained of” and whether “it must be ‘likely,’ as opposed to merely ‘speculative,’ that the injury will be ‘redressed by a favorable decision.’” Lujan v. Defenders of Wildlife, 504 U.S. 555, 560-61 (1992). If, for example, the Advisors are correct in their analysis of the Absolute Priority Rule, then the result is that Court erred in confirming the Plan at all, and a favorable decision will redress (reverse) the injury (the injunctions and exculpation).
4. However, should there be any question regarding the Advisors’ economic, or pecuniary, interests with respect to the Plan as a whole, the Advisors point out the following facts.
First, they have filed an application for allowance of an administrative expense claim (for postpetition overpayments to the Debtor under various agreements) for approximately $14 million.
See Docket No. 1826. While the Debtor contests that application, the application has yet to be
adjudicated and no portion of the administrative claim has been paid to date, while any payment would be under the Plan.2 Second, and with specific reference to the rights of unsecured Class 8 creditors, various former Debtor employees have assigned their claims against the Debtor to the Advisors, and the Advisors are in the process of filing notices of transfer of those claims. The Advisors now own those claims, those claims have not been disallowed, and those claims are directly impacted by the Plan’s cramdown provisions and the Advisors’ appeal based on the Absolute Priority Rule. Thus, the Advisors hold pecuniary interests of directly the type of Class 8 unsecured claim that is impacted by the economics of the Plan.
2 If the administrative claim is allowed in full, and based on the Debtor’s projections, there is the potential of insufficient “Available Cash,” as defined in the Plan, to pay all administrative claims in full within thirty days.
II. REPLY A. ABSOLUTE PRIORITY RULE
5. On the Absolute Priority Rule, the Debtor repeats its argument that the Plan actually preserves the Rule because it specifies that no distribution can be made to equity until unsecured creditors are first paid in full. But that is not what the Rule requires. The Rule does not prohibit the receipt of any distribution until unsecured claims are paid in full; it prohibits the receipt or retention of any property when the unsecured class has rejected the plan and is not paid in full.
That the contingent trust interests are “property” interests within the meaning of the Rule is all that is required for judicial determination. If those interests are indeed property within the meaning of the Rule, as they must be, then the Rule is violated. There is nothing more to it than that.
6. In response, the Debtor quotes the Supreme Court’s opinion in Ahlers, insinuating that the Advisors intentionally omitted a portion of that quotation. That quotation is “whether the value is ‘present or prospective, for dividends or only for purposes of control’ a retained equity interest is a property interest to ‘which the creditors are entitled . . . before the stockholders [can]
retain it for any purpose whatever.’” Norwest Bank Worthington v. Ahlers, 485 U.S. 197, 208 (1988). The Advisors do not understand the Debtor’s point: the second clause only confirms that equity cannot “retain” an equity interest “for any purpose whatever” because the creditors are entitled to it.3 Yet that is precisely what the Plan does. Equity retains an interest for the potential purpose of a future distribution. The Debtor must read the word “before” temporally, such that equity can be back in the money after unsecured creditors are paid. That is not how the word
“before” is used. The creditors are not conditionally or temporarily entitled to the equity interests until their claims are paid in full; they are entitled to it, period.
3 The Advisors did not “conveniently” omit the second clause of the quotation; they omitted it because it is redundant of their fundamental point.
7. The Court need only consider the many debtor-for-equity swap plans today, and other plans where creditors own the reorganized entity. Part of what they receive is the future upside of the new equity appreciating in value and even exceeding the amount of their allowed claims. That is what the Supreme Court meant when it stated that the “creditors are entitled” to the new equity. The Debtor would have the Court interpret the Absolute Priority Rule such that creditors are entitled to the new equity until their claims are paid in full, whereupon the equity can revert to old equity. With due respect to the Court and its ruling, this has never been the operation of the Absolute Priority Rule. It may be that the Court will be affirmed and that the In re Introgen Therapeutics was correctly decided. At a minimum, however, the Advisors submit that their
appeal presents “a substantial case on the merits when a serious legal question is involved,” if not an outright “probability” of prevailing, for it cannot be doubted that: (i) equity is receiving a property interest under the Plan; (ii) even though Class 8 rejected the Plan; (iii) when Class 8 is not being paid in full under the Plan.
B. INJUNCTION AND EXCULPATION PROVISIONS
8. The Debtor discusses the injunction contained in Article IX.F of the Plan. The Advisors do not challenge that injunction, which is a standard injunction in the aid of a discharge.
Rather, the Advisors challenge: (i) the injunction against any “actions to interfere with the implementation or consummation of the Plan”; (ii) the exculpation provisions; and (iii) the gatekeeper injunction.
9. With respect to exculpation, there is at present the fact of In re Pacific Lumber Co.
and, to a lesser extent, In re Thru, Inc., both of which the Advisors have briefed. The Debtors have presented arguments as to why Pacific Lumber does not prohibit the Plan’s exculpation provisions and the Court has done a thorough job of explaining its reasoning and logic as it agreed with the Debtor. The Court and the Debtor may be correct, and it may be that the Fifth Circuit
revisits Pacific Lumber. But the fact of Pacific Lumber remains at present and Pacific Lumber clearly prohibits the Plan’s exculpation provisions. Since there is binding Fifth Circuit precedent that prohibits those provisions, even if it is believed that the Fifth Circuit might revise that precedent, it cannot be seriously argued that the Advisors have failed to demonstrate a
“probability” of success on the merits on this issue. At a minimum, they have presented “a substantial case on the merits when a serious legal question is involved.”
10. There are three aspects of the Plan’s exculpation provisions that are of particular concern and that, respectfully, have not been approved by any applicable precedent. First, non- debtors are being exculpated. Second, it is not only case administration that is being exculpated, but also business operations. Third, and most troubling, postconfirmation matters are being exculpated (“the . . . consummation of the Plan . . . the implementation of the Plan”). While the Court’s reasoning as to why estate professionals should be exculpated for the manner in which they administered the estate is not without persuasion, neither that reasoning nor any case law extends the Court’s logic or the field of exculpation to non-estate professionals, to business operations, or to postconfirmation matters.
11. Perhaps implicitly conceding that the Plan’s exculpation provision goes too far, the Debtor does not address the case law on the merits or offer the Court helpful case law where exculpations such as the one in the Plan has been affirmed. Rather, the Debtor argues that the law of the case doctrine, res judicata, and collateral estoppel apply from this Court’s January 9 and July 16 orders. But those orders did not contain any exculpation provision. They contained a gatekeeper injunction applicable to willful misconduct or gross negligence. The failure to reference simple negligence in the gatekeeper injunction does not equate to simple negligence being exculpated—one would think a much clearer provision would be required, as well as much clearer notice to all involved, before a Court judicially relieves a person of potential liabilities to
third parties. Simply put, there is no preclusive effect on the issue of exculpation because the Court has not previously ordered the exculpations that the Plan provides, and, respectfully, the Court’s findings to the contrary in the Confirmation Order are erroneous as a matter of law.
12. With respect to the preclusion issue for the gatekeeper injunction, the Advisors believe that the January 9 Order and July 16 Order were never intended to apply postconfirmation or ad infinitum. These were case administration orders. The Debtor’s own argument is paradoxical: if the January 9 or July 16 Orders are intended to apply postconfirmation, then why would the Plan contain its own exculpation and injunction provisions? The Advisors submit that these orders clearly were never intended to apply postconfirmation.4 The January 9 injunction applied to the Independent Directors and then only relating to their “role as an independent director of Strand,” while the July 16 order applied to Mr. Seery relating to his role “as the chief executive officer and chief restructuring officer of the Debtor.” Postconfirmation, there is no Strand and there are no independent directors. Postconfirmation, the Debtor is the Reorganized Debtor. As the Plan makes clear, postconfirmation the Reorganized Debtor will be managed by its new general partner; not by a CEO or CRO.
13. But there is a more fundamental reason why the January 9 Order and July 16 Order could not have been intended to apply postconfirmation, and why, if they were intended to apply postconfirmation, they cannot so apply as a matter of law: jurisdiction cannot be created by the Court or by agreement. During the pendency of the case, or, more precisely, of the estate, the Court has vast powers over the estate and any claims against it or related to it, not necessarily because of the Bankruptcy Code itself but because of the nature of what it means to have something in the custodia legis of the Court. That ceases when the estate ceases. The Court’s powers to
4 If the Debtor’s argument is correct, then, logically, the balance of the January 9 Order was also intended to apply postconfirmation, such as the independent board and the “Protocols.” Obviously this is not the case, for the Plan itself would violate the order.
protect for postconfirmation matters are gone. As the Advisors have briefed, the Court will have no jurisdiction to consider whether any postconfirmation claims against the Debtor or its agents are “colorable.” As the Court will have no jurisdiction to determine if something is “colorable,”
the Court has no jurisdiction to enjoin someone from proceeding without the Court first determining whether something is “colorable.” To read the January 9 and July 16 orders to apply to postconfirmation matters, therefore, is to interpret those orders as having conferred jurisdiction where none exists, which either renders that aspect of those orders a nullity, or unenforceable.
14. The Plan’s exculpation and injunction provisions must therefore stand or fall on their own merits, and not based on any prior order entered in the Bankruptcy Case. But the fundamental problem with the Debtor’s discussion of exculpation and the gatekeeper injunction is that the Debtor builds its argument on a house of cards: where one card stood before, the Debtor simply seeks to stand another on top of it, but without ever asking what all of its cards are actually standing on? In other words, what provision of the Bankruptcy Code gives the Court the power of exculpation or gatekeeper injunction in the first place? That is what is truly missing. While the Debtor may argue section 105(a) of the Bankruptcy Code, it is a stretch that one being exculpated from potential tort liability or protected by a gatekeeper injunction prospectively “is necessary or appropriate to carry out the provisions of this title.” But, even if this is possible for preconfirmation matters, it is not possible for postconfirmation matters. There is no more “provisions of this title”
postconfirmation when the debtor, reorganized, rejoins the business world. If a debtor makes a defective widget postconfirmation, then the debtor faces the resulting liabilities. Likewise, if the Reorganized Debtor mismanages the CLOs or other assets in an actionable manner, then that is not a matter for Title 11. It is a matter for contract law, tort law, statutory law, and regulatory law.
There is no more estate after confirmation, and it is the estate and its professionals that are capable of protection by the Court, if anyone is.
III. BOND FOR STAY PENDING APPEAL
15. In its Response, the Debtor argues that any stay pending appeal should be conditioned on an approximately $17.4 million bond. The Debtor is correct in one respect, which is that the Advisors’ initial argument in favor of a lower bond, affording affected creditors postjudgment interest for a delayed payment, failed to take into account the increased costs that the Debtor will incur for it to operate in Chapter 11 as opposed to under the Plan. Even so, $17.4 million is excessive.
16. A mechanism that compares a Chapter 11 burn rate to an anticipated postconfirmation rate is helpful, but it is incomplete. The Debtor states that its average monthly burn rate in Chapter 11 was approximately $2.25 million. But the monthly burn rate was surely much higher in the beginning of the case, as the Debtor transitioned into bankruptcy, prepared its schedules, litigated a trustee motion, and created the ultimate governance mechanism that the Court adopted. The monthly burn rate was surely much higher in the last few months, as the Debtor prepared for a contested confirmation hearing, incurred large costs related to solicitation, prosecuted several injunction proceedings, and took (and responded to) extensive discovery.
During the case there were additional periods of large work, such as negotiating and prosecuting various complicated settlements. Therefore, simply taking the average monthly burn rate leads to an excessive and punitive amount, since there will be much less work to do going forward, as best evidenced by the Debtor’s own estimate of a monthly burn rate of $850,000 under the Plan (in other words, surely the Debtor would not argue that it cost the estate an extra $1.4 million per month during this case just because of the increased burden of compliance with Chapter 11).
17. If the stay pending appeal is granted, the Debtor will basically continue doing what it expects to do under the Plan, such as by administering claims, selling assets, negotiating compromises, and prosecuting affirmative litigation. Those things would cost the same regardless
of whether the Debtor did them in Chapter 11 or under the Plan. Some things that the Debtor may wish to do, such as engage in additional sales or additional compromises outside of the ordinary course, may require motion practice that would be avoided under the Plan. And, monthly operating reports and other administrative burdens would admittedly increase. Yet the Debtor has taken the position, with which the Court has apparently agreed, that sales of investment assets do not require approval of the Court, and most large, contested claims have been compromised already. Thus, the added costs to operate in Chapter 11 as opposed to under the Plan are not materially greater.
18. The Advisors submit that it cannot reasonably cost the Debtor more than $150,000 more per month to do what it would do under its Plan anyway for the next 12 months, except to do it in Chapter 11. As such, the Advisors submit that any bond should not be in an amount exceeding $3 million.
IV. PRAYER
WHEREFORE, PREMISES CONSIDERED, the Advisors respectfully request that the Court grant the Stay Motion and, if the Court orders a bond pending appeal, that the amount of the bond not exceed $3 million.
RESPECTFULLY SUBMITTED this 16th day of March, 2021.
MUNSCH HARDT KOPF & HARR, P.C.
By: /s/ Davor Rukavina Davor Rukavina, Esq.
Texas Bar No. 24030781 Julian P. Vasek, Esq.
Texas Bar No. 24070790 3800 Ross Tower
500 N. Akard Street Dallas, Texas 75201-6659 Telephone: (214) 855-7500 Facsimile: (214) 855-7584 E-mail: drukavina@munsch.com COUNSEL FOR HIGHLAND CAPITAL
MANAGEMENT FUND ADVISORS, L.P., AND NEXPOINT ADVISORS, L.P.
CERTIFICATE OF SERVICE
The undersigned hereby certifies that, on this the 16th day of March, 2021, true and correct copies of this document were electronically served on parties entitled to notice thereof, including on counsel for the Debtor.
/s/ Davor Rukavina Davor Rukavina