Special Feature: Cliff White Speaks Up “Where Have All The Examiners Gone?”
Where Have All the Examiners Gone?
By Clifford J. White III1
The FTX bankruptcy case, FTX Trading Ltd., et al., case no. 22-11068 (Bankr. D. Del.) highlights several of the problems in mega-chapter 11 case administration that warrant further appellate scrutiny for their impact on future cases. The FTX case reflects the continuing weakening of traditional standards of disclosure, professional conflicts of interest, and statutory construction by bankruptcy courts. But perhaps recent reversals of bankruptcy court decisions in Purdue Pharma and LTL reflect greater judicial oversight of bankruptcy court actions. The recent decision by the bankruptcy court in FTX to deny the United States Trustee Program’s (USTP) request (joined by 18 states and the District of Columbia) for an examiner may provide the next vehicle that speeds a return to a more Code-based jurisprudence.
Under section 1104(c), “on request of a party in interest . . . the court shall order the appointment of an examiner to conduct such an investigation of the debtor as is appropriate” as long as “the debtor’s fixed, liquidated, unsecured debts, other than debts for goods, services, or taxes, or owing to an insider exceed, $5,000.000.” All parties concede the dollar thresholds were met by FTX. But the court found that “shall” does not mean “shall” because the “as is appropriate” language provides discretion to the court on whether to appoint and not just on the scope of the investigation.2 In so ruling, Judge Dorsey joins a minority of courts, including other bankruptcy judges in the all-important District of Delaware.
Apart from the expansive discretion the court has arrogated to itself, it is hard to understand why the court would not find an independent examination of the debtor’s pre-petition conduct, which has had cataclysmic consequences for the nascent cryptocurrency industry, to be “appropriate.”3 During other sudden and spectacular corporate collapses with far-reaching public interest consequences, examiners produced comprehensive reports that told the story, limited a discovery free-for-all amongst private parties, and were widely praised.
Bankruptcy Judge Dorsey relied on a few key facts. First, FTX’s CEO John Ray declared, rather self-servingly, that he had found no value in examiner reports in two cases in which he served as head of the post-confirmation entities. Second, the judge expressed satisfaction with Mr. Ray’s administration of the cases and ability to complete the initial investigation. Finally, the judge assumed that the cost of an examiner’s investigation would be among the highest on record at $100 million. That is money that ultimately would be paid by the bankruptcy estate.
Taking these factors in turn:
The testimony from Mr. Ray was conclusory and self-interested. Moreover, Mr. Ray’s testimony was limited to serving on post-confirmation entities. He played no role whatsoever in the appointment of those examiners or the role their examination played in the ultimate outcome of those cases. It is hard to see how his testimony could be relevant to the ultimate issue which was for the court alone to decide.
Second, no matter how well Mr. Ray is administering the estate, no matter how capable creditors are in waging a discovery war for additional facts, and no matter how well law enforcement agencies are in conducting their investigation, only the examiner can have a mandate to serve the public as a “court fiduciary.” Law enforcement is necessarily constrained in its public statements and other parties serve specific constituencies in the case. As WorldCom examiner, former Attorney General Dick Thornburgh, put it, the examiner can “tell the story” in a way that serves the public interest and that interested parties cannot.
Third, it is possible that these cases could be on the way to join a handful of other bankruptcy cases in which professional fees and expenses approach $1 billion. Examiners traditionally can achieve efficiencies by having special court-ordered investigatory authority paired with limitations on private party discovery. Additionally, courts can require budgets and define the scope to avoid any unnecessary duplication among multiple investigations. It is hard to understand why the examiner’s investigation would cost more than investigations conducted by the many professional firms employed by Mr. Ray and the unsecured creditors committee. The DIP’s counsel, Sullivan and Cromwell (S&C), have assigned 30 lawyers to these cases who are charging more than $2000 per hour. For the first 19 days of the case, S&C charged $7.5 million.
Let’s get to the nub of the issue. There are three factors at play here that are not unique to the FTX cases. None of these factors reflect on the personal ethics, competency, or professionalism of those running the cases. First, many courts bridle at the thought that they lack discretion. And the more the courts exceed their discretion, the more Congress wants to limit their discretion. Second, neither Mr. Ray nor other parties want interference from an independent third party. That may be understandable, but those concerns must fall in the face of mandatory legislative language. And third, the scope of the work performed by professionals who already are retained will be more limited to avoid duplication with an examiner. Professionals have a lot of compensation at stake that has nothing to do with the broader public interest. That creates a perverse incentive to grow scope and oppose an additional independent actor.
As cited in the Creditor Rights Coalition’s weekly bankruptcy round-up, the Creditor Corner, Professor Jared Ellias has suggested that Judge Dorsey require public reports from Mr. Ray. That would help. But it is also necessary for an appellate court to provide clarity. Already, the United States Court of Appeals for the Sixth Circuit, Morgenson v. Revco D.S., Inc., 898 F.2d 498 (6th Cir. 1990), has said that an examiner is mandatory if the dollar thresholds are met. It is time for additional Article III circuit courts to weigh in.
Post-script: It is perhaps a bit of an irony that the resolution of this issue could end up being one of the few areas of common ground for both conservatives and liberals alike. Along with three other Senators, Senator Warren submitted a bi-partisan letter to the bankruptcy court favoring an examiner in FTX, despite the textualist roots of her request. Supreme Court Justice Gorsuch, the premier textualist on the high Court, and Senator Warren on the same page? Who’d a thunk it? Only in America.
1 Cliff White is the former Director of the Justice Department’s United States Trustee Program. He is currently Managing Director for Bankruptcy Compliance at AIS, a financial technology company. The views expressed are his alone.
2 In his oral ruling, the bankruptcy judge also made an error in relying upon legislative history pertaining to an earlier version of the enacted provision which did not make the appointment of an examiner mandatory.
3 Those following the FTX case may notice an omission in this analysis. Namely, there is no discussion of the work done by the DIP’s law firm for FTX before the collapse. The arguably disabling conflicts, which merit a separate discussion apart from the examiner, was ultimately settled with additional disclosures that the court and USTP found acceptable. The pre-petition representations are relevant to the issue of whether it is “appropriate” to appoint an independent examiner under the facts of these cases, but not relevant to the essential legal issue that the statute mandates an appointment.
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