What Are U.S. Creditors' Rights?

As a consequence, there was a 'true conflict' between the applicable laws of the two countries. 310 F.3d, at 123. Therefore, the Third Circuit remanded the case for a choice-of-law analysis to determine which jurisdiction was most 'connected' to the L&H claims. The appellate court strongly recommended that, as the concurring opinion put it, the U.S. and Belgian bankruptcy courts 'engage in a dialogue in an effort to develop a protocol for the cooperation of the two courts in overseeing and harmonizing the dual proceedings so as to effectuate the orderly administration of justice.' 310 F.3d at 133.

In another case, In re Ionica PLC, 241 B.R. 829 (Bkrtcy. S.D.N.Y. 1999), at the court's insistence, the parties to parallel plenary bankruptcy proceedings pending in New York and England entered into a limited Protocol that related primarily to which law will govern asset sales and professional fees. The limited Protocol did not address the resolution of claims or disputes. The bankruptcy court erroneously applied the provisions of Bankruptcy Code ' 304, which deals only with ancillary bankruptcy proceedings, not parallel bankruptcies. Based on that incorrect application, the bankruptcy court ruled, in Ionica, that it could accord deference to the distributive scheme under English law even though it 'subordinates or accords a lower priority to the United States creditor's claim.' 241 B.R., at 837.

Second Circuit Rejects

The view of the bankruptcy court in Ionica, that defference may be accorded to a foreign proceeding that would subordinate or accord a lower priority to claims of U.S. creditors, was rejected by the Second Circuit in a later case, In re Treco, 240 F.3d 148 (2001). The appellate courts' decision in Treco is instructive, although it involved an ancillary proceeding under Bankruptcy Code ' 304 and not parallel plenary bankruptcy cases, and there was no Protocol. The Second Circuit reversed a lower court's order directing two New York financial institutions to turn over certain funds to liquidators of a bank in the Bahamas. The court below had rejected the New York creditors' contention that, under New York law, they had a superior right to the funds. The Second Circuit disagreed with the court below. The appellate court's reversal was based on the law in the Bahamas that gave priority to administrative expenses over secured claims, and the likely adverse effect that turnover would have on the New York creditors' secured claims.

It is unclear whether, absent a Protocol that addressed the priority rights of creditors, the Second Circuit in In re Treco would have decided the issue differently if the case had involved parallel plenary bankruptcy cases rather than an ancillary proceeding under ' 304 to assist liquidators in a foreign insolvency case. However, the Second Circuits' concern with protecting the priority interests of U.S. creditors from impairment in an insolvency proceeding in another country is evident from the appellate courts' decision in Treco and in an earlier '304 proceeding, Koreag, Control et. Revision, S.A., v. Refco F/X Associates, Inc.

Another bankruptcy court dealt with a Protocol that governed an ancillary case under ' 304, in In re Blackwell ex rel. Estate of I.G. Services, Ltd., 267 B.R. 741 (Bkrtcy. W.D. Tex. 2001). The proceeding was commenced in the Texas bankruptcy court to assist in the administration of two plenary bankruptcy cases, one pending in a federal district court in New York, the other pending in the Cayman Islands. The Protocol, which was negotiated by the parties and approved by each of the three courts, allocated to the U.S. Bankruptcy Court the responsibility for processing proofs of claim and assigned other responsibilities to each of the two other courts.

A Protocol was utilized also in cross-border bankruptcies pending in New York and Israel, in In re Nakash, 190 B.R. 763 (Bkrtcy S.D.N.Y. 1996). The significance of the Nakash Protocol is that, unlike Protocols utilized in other cases, the Nakash Protocol did not involve parallel bankruptcy proceedings for the same debtor. The debtor in the Israeli bankruptcy was a failed Israeli bank, while the U.S. debtor was an individual ' a former director of the failed bank. The impact of Nakash is that the usefulness of cross-border Protocols is not limited to bankruptcy cases involving the same debtor, but may be used in other types of international insolvency proceedings. The decision is of interest also because of the court's finding that the stay of actions against the U.S. debtors applies also to their properties outside the U.S.

Also noteworthy is the decision in In re Commodore International, Ltd., 242 B. R. 243 (Bkrtcy. S.D.N.Y. 1999), aff'd, 2000 WL 977681 (S.D.N.Y. 2000). The two debtors in Commodore commenced a bankruptcy case in New York and a liquidation proceeding in the Bahamas. To coordinate and harmonize the two cases, the courts in New York and the Bahamas approved a Protocol that was agreed to by the liquidators in the Bahamas liquidation proceeding and the committee of unsecured creditors in the New York Chapter 11 case. However, after the committee pursued preferential transfer claims against third parties, the New York bankruptcy court dismissed the committee's complaint on a number of grounds, including that 'any interest [the New York court] may have in resolving this dispute is outweighed by the significant interest of the Bahamas Supreme Court.' 242 B.R., at 260. To support its decision, the New York bankruptcy court stated that, '[i]n accordance with the relevant provision of the Protocol, we defer to [the Bahamas] court under principles of comity.' Id.

Conclusion

There are no treaties or laws that provide to creditors the guidance they need to predict which state's laws will govern future cross-border insolvency proceedings. Although parties and courts in some parallel bankruptcy cases may adopt Protocols that provide some guidelines and procedures, the Protocols are adopted after the insolvency proceedings have commenced and do not provide the advance guidance creditors need to be able to predict how their interests will be treated in the event the debtors file, or are forced into, cross-borders bankruptcy proceedings. Where Protocols providing the contrary are not agreed to by the parties and approved by court order, the U.S. courts are free to use local assets to satisfy local claimants in local proceedings with little regard for parties or proceedings outside of the U.S.

Editor's Note: In a related issue, see the article This Land Is Your Land: Foreign Debtors in Chapter 11.

Jack Weinberg is a partner in the New York offices of Herrick, Feinstein LLP.

Last month's article reviewed cross-border parallel bankruptcy proceedings, and outlined various attempts to cope with the problem. This month, we discuss situations in which the U.S. court finds a real conflict between the laws of two or more countries in the treatment of creditors' claims.

Which Jurisdiction Takes Precedence?

In such situations, the courts will undertake an examination to determine which jurisdiction had the greater connection to the creditors' claims. This is exemplified by a recent case involving parallel plenary insolvency proceedings. Stonington Partners Inc. v. Lernout & Hauspie Speech Products N.V. (L&H), 310 F.3d 118 (3rd Cir. 2002). In that case, L&H, which was incorporated in Belgium and had headquarters in Belgium and the U.S., started two parallel insolvency proceedings, one in Belgium and the other in the U.S. The claimant, Stonington, which had commenced a fraud action against L&H before the latter filed for bankruptcy, filed claims in each of the bankruptcy proceedings based on L&H's alleged fraud. Stonington sought to pursue its claim in the Belgian court, where the claims would not be subject to subordination, rather than in the U.S. court, where Stonington would be considered an insider and its claims would be subordinated under Bankruptcy Code ' 510.

As a consequence, there was a 'true conflict' between the applicable laws of the two countries. 310 F.3d, at 123. Therefore, the Third Circuit remanded the case for a choice-of-law analysis to determine which jurisdiction was most 'connected' to the L&H claims. The appellate court strongly recommended that, as the concurring opinion put it, the U.S. and Belgian bankruptcy courts 'engage in a dialogue in an effort to develop a protocol for the cooperation of the two courts in overseeing and harmonizing the dual proceedings so as to effectuate the orderly administration of justice.' 310 F.3d at 133.

In another case, In re Ionica PLC, 241 B.R. 829 (Bkrtcy. S.D.N.Y. 1999), at the court's insistence, the parties to parallel plenary bankruptcy proceedings pending in New York and England entered into a limited Protocol that related primarily to which law will govern asset sales and professional fees. The limited Protocol did not address the resolution of claims or disputes. The bankruptcy court erroneously applied the provisions of Bankruptcy Code ' 304, which deals only with ancillary bankruptcy proceedings, not parallel bankruptcies. Based on that incorrect application, the bankruptcy court ruled, in Ionica, that it could accord deference to the distributive scheme under English law even though it 'subordinates or accords a lower priority to the United States creditor's claim.' 241 B.R., at 837.

Second Circuit Rejects

The view of the bankruptcy court in Ionica, that defference may be accorded to a foreign proceeding that would subordinate or accord a lower priority to claims of U.S. creditors, was rejected by the Second Circuit in a later case, In re Treco, 240 F.3d 148 (2001). The appellate courts' decision in Treco is instructive, although it involved an ancillary proceeding under Bankruptcy Code ' 304 and not parallel plenary bankruptcy cases, and there was no Protocol. The Second Circuit reversed a lower court's order directing two New York financial institutions to turn over certain funds to liquidators of a bank in the Bahamas. The court below had rejected the New York creditors' contention that, under New York law, they had a superior right to the funds. The Second Circuit disagreed with the court below. The appellate court's reversal was based on the law in the Bahamas that gave priority to administrative expenses over secured claims, and the likely adverse effect that turnover would have on the New York creditors' secured claims.

It is unclear whether, absent a Protocol that addressed the priority rights of creditors, the Second Circuit in In re Treco would have decided the issue differently if the case had involved parallel plenary bankruptcy cases rather than an ancillary proceeding under ' 304 to assist liquidators in a foreign insolvency case. However, the Second Circuits' concern with protecting the priority interests of U.S. creditors from impairment in an insolvency proceeding in another country is evident from the appellate courts' decision in Treco and in an earlier '304 proceeding, Koreag, Control et. Revision, S.A., v. Refco F/X Associates, Inc.

Another bankruptcy court dealt with a Protocol that governed an ancillary case under ' 304, in In re Blackwell ex rel. Estate of I.G. Services, Ltd., 267 B.R. 741 (Bkrtcy. W.D. Tex. 2001). The proceeding was commenced in the Texas bankruptcy court to assist in the administration of two plenary bankruptcy cases, one pending in a federal district court in New York, the other pending in the Cayman Islands. The Protocol, which was negotiated by the parties and approved by each of the three courts, allocated to the U.S. Bankruptcy Court the responsibility for processing proofs of claim and assigned other responsibilities to each of the two other courts.

A Protocol was utilized also in cross-border bankruptcies pending in New York and Israel, in In re Nakash, 190 B.R. 763 (Bkrtcy S.D.N.Y. 1996). The significance of the Nakash Protocol is that, unlike Protocols utilized in other cases, the Nakash Protocol did not involve parallel bankruptcy proceedings for the same debtor. The debtor in the Israeli bankruptcy was a failed Israeli bank, while the U.S. debtor was an individual ' a former director of the failed bank. The impact of Nakash is that the usefulness of cross-border Protocols is not limited to bankruptcy cases involving the same debtor, but may be used in other types of international insolvency proceedings. The decision is of interest also because of the court's finding that the stay of actions against the U.S. debtors applies also to their properties outside the U.S.

Also noteworthy is the decision in In re Commodore International, Ltd., 242 B. R. 243 (Bkrtcy. S.D.N.Y. 1999), aff'd, 2000 WL 977681 (S.D.N.Y. 2000). The two debtors in Commodore commenced a bankruptcy case in New York and a liquidation proceeding in the Bahamas. To coordinate and harmonize the two cases, the courts in New York and the Bahamas approved a Protocol that was agreed to by the liquidators in the Bahamas liquidation proceeding and the committee of unsecured creditors in the New York Chapter 11 case. However, after the committee pursued preferential transfer claims against third parties, the New York bankruptcy court dismissed the committee's complaint on a number of grounds, including that 'any interest [the New York court] may have in resolving this dispute is outweighed by the significant interest of the Bahamas Supreme Court.' 242 B.R., at 260. To support its decision, the New York bankruptcy court stated that, '[i]n accordance with the relevant provision of the Protocol, we defer to [the Bahamas] court under principles of comity.' Id.

Conclusion

There are no treaties or laws that provide to creditors the guidance they need to predict which state's laws will govern future cross-border insolvency proceedings. Although parties and courts in some parallel bankruptcy cases may adopt Protocols that provide some guidelines and procedures, the Protocols are adopted after the insolvency proceedings have commenced and do not provide the advance guidance creditors need to be able to predict how their interests will be treated in the event the debtors file, or are forced into, cross-borders bankruptcy proceedings. Where Protocols providing the contrary are not agreed to by the parties and approved by court order, the U.S. courts are free to use local assets to satisfy local claimants in local proceedings with little regard for parties or proceedings outside of the U.S.

Editor's Note: In a related issue, see the article This Land Is Your Land: Foreign Debtors in Chapter 11.

Jack Weinberg is a partner in the New York offices of Herrick, Feinstein LLP.