Retention Agreements Allowing Defense Fees Ok in New Mexico, but Not in Delaware

September 26, 2017

A company planning a contentious reorganization should consider filing chapter 11 in Albuquerque, N.M., because a judge there will permit retention agreements allowing compensation for successful defense of professionals’ fee applications.

An oil field contractor with about $5.5 million in assets and liabilities filed a chapter 11 petition and sought authority to retain counsel under an engagement agreement that included compensation for successful defense of the attorneys’ fee applications. The U.S. Trustee and the creditors’ committee objected to the fee-defense provision, citing Baker Botts LLP v. Asarco LLC, 135 S. Ct. 2158, 192 L. Ed. 2d 208, 83 U.S.L.W. 4428 (2015), and In re Boomerang Tube Inc., 548 B.R. 69 (Bankr. D. Del. 2016).

In his Sept. 20 opinion, Bankruptcy Judge David T. Thuma analyzed whether ASARCO, which disallowed defense fees under Section 330(a)(1), also precludes the inclusion of a fee-defense provision in a retention agreement under Section 328(a). He concluded, “ASARCO does not hold that a fee defense provision can never be a ‘reasonable term’ under Section 328(a).”

ASARCO involved a case where the bankruptcy court awarded debtor’s counsel $5.2 million for successfully defending its fees. The lawyers’ retention was under Section 327, and the allowance of fees was governed entirely by Section 330, because the attorneys had no agreement with the debtor for payment of defense fees that might bring the case under the umbrella of Section 328.

Judge Thuma parsed ASARCO, a 6/3 decision, and found that Justice Clarence Thomas disallowed defense fees because the “services” benefitted only the lawyers, not the estate.

Next, Judge Thuma analyzed Boomerang, where Delaware Bankruptcy Judge Mary F. Walrath refused to approve a retention application requiring the debtor to compensate committee professionals for successfully defending their fees. She barred the use of Section 328 as a vehicle for paying defense costs because it, like Section 330(a), was not a “specific and explicit statute” overriding the American Rule against fee-shifting. Section 328 permits the court to approve retentions “on any reasonable terms and conditions of employment.”

The Boomerang committee contended that the engagement agreement fell under the so-called contract exception to the American Rule, allowing parties by contract to agree that the losing side pays everyone’s lawyers. The argument was flawed, Judge Walrath said, because the debtor was not a party to the retention agreement. Even if the contract exception applied, Judge Walrath said she could not approve it because fee-defense costs would not entail any services for the committee, only benefit the lawyers themselves. 

Judge Thuma disagreed with Boomerang. If the terms of employment have been approved by the court under Section 328(a), he said that the “professional’s compensation is governed by those terms and conditions, rather than the general [reasonable compensation] language of Section 330(a)(1)(A).”

Judge Thuma noted that ASARCO did not involve a fee-defense provision in a retention agreement approved under Section 328(a). He then analyzed whether defense costs can be a “reasonable” term of employment.

Reasonable employment terms are not only those that benefit the client. Retention agreements, he said, will contain many provisions that benefit the lawyers as well. Even provisions that benefit lawyers also provide indirect benefit for the client because “the client obtains the services of needed, able professionals,” Judge Thuma said.

Pre-ASARCO, Judge Thuma said that the experience in his district in paying successful defense costs had “been good for the most part,” because “objections to fee applications have been limited to bona fide disputes, and the fee defense costs have been reasonable.”

Unless ASARCO requires it, Judge Thuma said there “is no need to change the system,” which “has worked pretty well.” He did not read ASARCO “as mandating a change, if a properly drafted employment term is timely presented to the court and approved under Section 328(a).”

Judge Thuma ended his opinion by laying down criteria under which he would approve defense costs. Among other things, the debtor must approve them, committee counsel must be similarly protected, and fees will not be allowed for an unsuccessful defense.

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