Traditionally, serving on a committee has ensured that committee members’ interests were represented and provided members with access to confidential information that would otherwise be inaccessible. Several new provisions under the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005?which will increase flexibility in the composition of committees and significantly expand the duties that a committee and its members owe to non-committee members?raise the issue of whether it will even be necessary to serve on a committee after October 17, 2005. But creditors may not want to shun committee membership quite yet.

Bankruptcy Court Intervention in Committee Formation

Currently, the U.S. Trustee is authorized to appoint a committee or committees of creditors or of equity holders in a chapter 11 case, as the trustee deems appropriate. Generally, the U.S. Trustee appoints a single creditors’ committee comprised of volunteers from among the unsecured creditors holding the 20 largest claims against the debtor, while attempting to ensure that committee membership reflects the constituency that it represents. The Bankruptcy Code does not currently authorize the court to appoint the committee or to alter committee membership.

For cases commenced on or after October 17, 2005, however, the court will possess this authority. The new bankruptcy provisions provide that any party in interest may request that the bankruptcy court change committee membership to ensure adequate representation of creditors or equity security holders. Further, small business concerns whose claims are not among the 20 largest will no longer be presumptively excluded from committee membership. Under the new provisions, the court may increase the size of the committee to include a small business concern if its aggregate claim is disproportionately large in comparison to its annual gross revenues.

New Duties to Non-Members

Courts have long recognized that committee members owe fiduciary duties to unsecured creditors or any other group that they are appointed to represent, principal among them being an obligation to maximize the value of the bankruptcy estate for the benefit of their constituents. For cases commenced on or after October 17, 2005, committees now have obligations to non-members whose claims are similar to those represented by the committee. Under new Bankruptcy Code section 1102(b)(3), the committee shall provide these non-members with “access to information,” shall “solicit and receive comments” from these non-members, and shall provide them with “additional reports or disclosures” as ordered by the court. These requirements raise significant issues concerning the possible waiver of the attorney-client privilege. And while at first glance the new provisions appear to provide non-members access to important information, this may not prove to be the case. The language of the statute is vague and gives no guidance to the type and amount of the information that must be shared under these provisions, and there is likely to be considerable negotiation, and even litigation, between committee members and non-members as they attempt to interpret these new requirements.

For example, committee members typically execute confidentiality agreements that allow them to obtain from the debtor confidential information not available to entities that have not executed confidentiality agreements. Faced with the prospect that confidential information shared with committee members might be required to be disseminated to non-members who are not bound to confidentiality agreements, debtors are likely to limit information that is shared with committees to only publicly available, non-confidential information. Such a result would greatly impair a committee’s ability to function. Some practitioners have suggested that a committee might function by restricting confidential information to its counsel (as is often done when unrestricted bondholders sit on a committee, for example) and then taking the position that non-members are entitled to no more information than committee members. But even if successful, this approach severely limits members’ direct access to information. Moreover, counsel’s ability to provide appropriate advice and guidance while keeping confidential information from its client would be severely impaired and could lead to irreconcilable conflicts that would make representation of the committee impossible. Another more workable solution might be for a debtor or committee to request that the bankruptcy court enter a procedural order promptly following the appointment of any committee clarifying the duties of committee members vis-୶is non-member constituents and protecting committees from the disclosure of confidential information.

These are just a few examples of the numerous issues that are likely to arise under the new Bankruptcy Code provisions. The one thing that seems certain is that, after October 17, 2005, the bankruptcy courts are likely to be more directly involved in committee formation and governance as they are called on to determine issues relating to committee formation, the sharing of information, and the duties of committees and their members to non-member constituents.

Authored by:

Terrence V. Ponsford

(415) 434-9100