<b><i> In Re Fairfield Sentry Limited</i></b>

Krys v. Farnum Place, LLC (In re Fairfield Sentry Ltd.), 768 F.3d 239 (2d Cir. 2014) (Fairfield Sentry) is the first federal circuit court decision to address the application of Section 363 in a Chapter 15 bankruptcy case. Enacted in 2005, Chapter 15 of the Bankruptcy Code applies to cross-border insolvency proceedings. Chapter 15 enables the representative of the foreign bankruptcy estate to apply to a U.S. bankruptcy court for recognition of a foreign insolvency proceeding and, if recognition is granted, relief in aid of that proceeding. Where the foreign proceeding is recognized as a foreign main proceeding (i.e., a foreign insolvency proceeding pending in the location of the debtor's center of main interests), Section 1520(a) automatically makes certain core provisions of the Bankruptcy Code applicable as to matters within the United States.

The meaning and application of Section 1520(a)(2) was at the heart of the Fairfield Sentry decision. Section 1520(a)(2) makes Section 363 (among other Code sections) applicable upon foreign main recognition to “the transfer of an interest of the debtor in property that is within the territorial jurisdiction of the United States to the same extent that the section[] would apply to property of an estate.” Undertaking a “plain meaning” statutory analysis, the U.S. Court of Appeal for the Second Circuit in Fairfield Sentry held that, when triggered under Chapter 15, Section 363 applies no differently than it would in a plenary bankruptcy case, and requires the bankruptcy court to perform an independent review of the proposed sale under the well-established Section 363 standards, even if the foreign court overseeing the main proceeding has previously approved the transaction.

More broadly, the Fairfield Sentry case raises a fundamental question as to the role of comity ' and its limits ' in a Chapter 15 case. Comity is a long-standing doctrine in private international law, defined by the U.S. Supreme Court as “the recognition which one nation allows within its territory to the legislative, executive or judicial acts of another nation, having due regard both to international duty and convenience, and to the rights of its own citizens or of other persons who are under the protections of its laws.” Hilton v. Guyot, 159 U.S. 113, 164 (1895).

Case Background

Fairfield Sentry Ltd. (Sentry), a British Virgin Islands entity, was the largest of the “feeder funds” to Bernard L. Madoff Investment Securities LLC (BLMIS), having invested substantially all of its assets in BLMIS. Sentry was placed into liquidation in the BVI in 2009, following the disclosure of the Madoff fraud. In July 2010, the U.S. Bankruptcy Court for the Southern District of New York recognized Sentry's BVI liquidation proceeding as a foreign main proceeding under Chapter 15. That decision was later affirmed on appeal by the Second Circuit in Morning Mist Holdings Ltd. v. Krys (In re Fairfield Sentry Ltd.), 714 F.3d 127 (2d Cir. 2013).

In December 2010, the Sentry liquidator entered into a trade confirmation with a claims purchaser, Farnum Place LLC (Farnum), for the sale of Sentry's SIPA customer claim in the BLMIS proceedings for approximately 32% of its allowed face amount (the claim was later allowed in the amount of $230 million). Days after the contract was signed, the BLMIS trustee, Irving Picard, reached an unprecedented multi-billion settlement with the estate of the largest beneficiary of the Madoff Ponzi scheme, Jeffry Picower. The Picower settlement caused the market value of SIPA claims to almost double overnight.

The trade confirmation made the sale contingent on the approval of both the BVI court supervising Sentry's liquidation proceeding and the U.S. Bankruptcy Court. The Sentry liquidator requested the BVI court's disapproval of the sale because, following the Picower settlement, it was no longer beneficial to the Sentry estate. However, that court approved the sale under BVI insolvency law in March 2012, finding that the deal was a reasonable one at the time the trade confirmation was negotiated and signed. The Sentry liquidator subsequently filed an application in the U.S. Bankruptcy Court for that court's disapproval of the sale under Section 363 of the Bankruptcy Code, as made applicable in the Chapter 15 case by Section 1520(a)(2).

The Bankruptcy Court's Decision

In January 2013, the bankruptcy court (the late Judge Burton Lifland presiding) issued a decision declining to set aside the sale under U.S. bankruptcy law on two bases. First, the court determined that Sentry's SIPA claim was an intangible asset that, under applicable New York law, should be deemed located in the BVI, and thus Section 363's application was not triggered because the sale did not involve the transfer of property “within the territorial jurisdiction of the United States.” In re Fairfield Sentry Ltd., 484 B.R. 615, 623-25 (Bankr. S.D.N.Y. 2013). In support of that finding, the bankruptcy court pointed to the fact that “the sale involves the transfer of the SIPA claim by a BVI incorporated entity, being administered by the BVI Court,” and that the Sentry liquidator “was appointed by, and must answer to, the BVI Court.” Id. at 625.

The court went on to conclude, in what is technically dicta, that a plenary Section 363 review of the sale, following the BVI court's approval thereof, would contravene “Chapter 15's origins and its governing concept of comity.” Id.' at 626. Judge Lifland pointedly stated: “This Court, supervising an ancillary proceeding, declines to offend principles of international comity by second guessing the BVI Court's approval of the Sale when the United States' interests are so minimal.” Id. at 628.

The bankruptcy court's decision was affirmed on appeal by the District Court in July 2013. The Sentry liquidator subsequently appealed to the Second Circuit.

The Second Circuit's Decision

In September 2014, the second circuit issued its decision reversing the lower court decisions. On the issue of the SIPA claim's situs, the court held that Section 1502(8) was outcome-determinative. That section defines “within the territorial jurisdiction of the United States” to expressly include “property subject to attachment or garnishment that may properly be seized or garnished by an action in a Federal or State court in the United States.” 11 U.S.C. ' 1502(8). The Second Circuit determined that, under applicable New York state law, the SIPA claim at issue is subject to attachment or garnishment and may be properly seized by an action in a U.S. court, because the BLMIS trustee ' who is obligated to make distributions on the SIPA claim ' is located in New York. Because the SIPA claim was determined to be located in the United States, the application of Section 363 was triggered under Section 1520(a)(2). In re Fairfield Sentry Ltd., 768 F.3d at 244-45.

The court then concluded that principles of comity ' i.e., deference to the BVI court's prior approval of the sale ' could not preclude a plenary Section 363 review of the transaction. While acknowledging the central role of comity in Chapter 15, and specifically Section 1508's mandate that courts “consider [Chapter 15's] international origins” in interpreting its provisions, the Second Circuit held that Section 1520(a)(2) is one provision in Chapter 15 that acts as a “brake or limitation on comity.” In re Fairfield Sentry Ltd., 768 F.3d at 245 (citation and quotation omitted). That determination was based on the statutory language of Section 1520(a)(2) itself, which expressly commands that Section 363 applies “to the same extent” as in a Chapter 11 or Chapter 7 case. The Second Circuit therefore remanded the proceedings to the bankruptcy court to conduct a plenary and independent Section 363 review of the sale under the same standards applicable in a domestic bankruptcy case. The court specifically instructed the bankruptcy court to consider, as part of its review, the increase in value of the SIPA claim following the date of the signing of the trade confirmation.

By deciding the case based strictly on the statutory text of Chapter 15, the Second Circuit implicitly followed a rule the court had set out in a prior decision pre-dating the enactment of Chapter 15, In re Maxwell Commc'n Corp., 93 F.3d 1036 (2d Cir. 1996). In Maxwell, the Second Circuit stated: “Because the principle of comity does not limit the legislature's power and is, in the final analysis, simply a rule of construction, it has no application where Congress has indicated otherwise.” Id. at 1047. Although the court did not cite Maxwell in the Fairfield Sentry decision, the Second Circuit effectively determined that Congress “indicated otherwise” in Section 1520(a)(2) by the use of the “to the same extent” language.

The Second Circuit's decision did not delve into the legislative history of Section 1520(a)(2). However, the legislative materials, referred to and relied on by the Sentry liquidator in the appeal, are aligned with the Second Circuit's textual analysis. The report of the House Judiciary Committee accompanying the enactment of Chapter 15 explains that “recognition creates a status with the effects set forth in section 1520, so those effects are not viewed as orders to be modified, as are orders granting relief under sections 1519 and 1521.” H.R. Rep. No. 109-31 (2005), at 113. Moreover, Article 20 of the UNCITRAL Model Law on Cross-Border Insolvency (Model Law), from which Section 1520 is derived, provides that the transfer of the debtor's assets is suspended upon recognition and made subject to domestic insolvency law. The Guide to Enactment of the Model Law, which explains the policy underlying the Model Law's provisions, espouses that in order to achieve the benefits of an orderly and fair cross-border insolvency proceeding, “it is justified to impose on the insolvent debtor the consequences of article 20 in the enacting state ' even if ' the automatic effects of the insolvency proceeding in the country of origin are different from the effects of article 20 in the enacting State.”

These materials underscore that the architecture of Chapter 15 is more nuanced than a wholesale codification of comity principles. As Judge Christopher Sontchi of the Delaware Bankruptcy Court observed in In re Elpida Memory Inc., 2012 WL 6090194 (Bankr. Del. 2012), the Model Law, which Chapter 15 incorporates into the U.S. Bankruptcy Code, “follows an in rem division of labor between competing sovereignties ' tasking the domestic courts with responsibility over and for assets in their jurisdiction.” Elpida Memory, decided before Fairfield Sentry, also held that comity does not excuse the application of Section 363 when triggered under Section 1520(a)(2). These decisions essentially reason that, through Section 1520(a)(2), Congress has tasked U.S. bankruptcy courts with the exclusive responsibility of approving sales of the Chapter 15 debtor's U.S. assets, and such approval must be determined under U.S. law standards ' specifically, the Section 363 standards.

Conclusion

The Fairfield Sentry decision highlights that there are certain instances under Chapter 15 where comity yields to U.S. law standards. However, the decision should not be read as giving U.S. bankruptcy courts free reign to disregard the effects of a foreign main proceeding following recognition. A Chapter 15 case is an ancillary proceeding with the overriding goal of providing assistance to the foreign main insolvency proceeding. Indeed, Section 1501(a) sets forth the objectives of Chapter 15, and the first one listed is cooperation between United States and foreign courts in cross-border insolvency cases. But, at the same time, Chapter 15 requires the application of U.S. bankruptcy law in specifically identified matters involving U.S. property, and the sale of U.S. property is one such matter. Thus, upon foreign main recognition in a Chapter 15 case, both foreign estate representatives and prospective purchasers of the foreign debtor's U.S. assets must be prepared to participate in a bankruptcy sales process that will be no different than if the transaction were occurring in a Chapter 11 case.

Daniel Saval is a partner in Brown Rudnick LLP's Bankruptcy and Corporate Restructuring Group, based in the firm's New York office. He represents clients in complex corporate restructuring, insolvency and related litigation matters both domestically and in cross-border contexts, and is currently acting as U.S. counsel for the liquidators of Fairfield Sentry Limited. He is also a Fellow of INSOL International. Reach him at [email protected].

Krys v. Farnum Place, LLC (In re Fairfield Sentry Ltd.), 768 F.3d 239 (2d Cir. 2014) (Fairfield Sentry) is the first federal circuit court decision to address the application of Section 363 in a Chapter 15 bankruptcy case. Enacted in 2005, Chapter 15 of the Bankruptcy Code applies to cross-border insolvency proceedings. Chapter 15 enables the representative of the foreign bankruptcy estate to apply to a U.S. bankruptcy court for recognition of a foreign insolvency proceeding and, if recognition is granted, relief in aid of that proceeding. Where the foreign proceeding is recognized as a foreign main proceeding (i.e., a foreign insolvency proceeding pending in the location of the debtor's center of main interests), Section 1520(a) automatically makes certain core provisions of the Bankruptcy Code applicable as to matters within the United States.

The meaning and application of Section 1520(a)(2) was at the heart of the Fairfield Sentry decision. Section 1520(a)(2) makes Section 363 (among other Code sections) applicable upon foreign main recognition to “the transfer of an interest of the debtor in property that is within the territorial jurisdiction of the United States to the same extent that the section[] would apply to property of an estate.” Undertaking a “plain meaning” statutory analysis, the U.S. Court of Appeal for the Second Circuit in Fairfield Sentry held that, when triggered under Chapter 15, Section 363 applies no differently than it would in a plenary bankruptcy case, and requires the bankruptcy court to perform an independent review of the proposed sale under the well-established Section 363 standards, even if the foreign court overseeing the main proceeding has previously approved the transaction.

More broadly, the Fairfield Sentry case raises a fundamental question as to the role of comity ' and its limits ' in a Chapter 15 case. Comity is a long-standing doctrine in private international law, defined by the U.S. Supreme Court as “the recognition which one nation allows within its territory to the legislative, executive or judicial acts of another nation, having due regard both to international duty and convenience, and to the rights of its own citizens or of other persons who are under the protections of its laws.” Hilton v. Guyot , 159 U.S. 113, 164 (1895).

Case Background

Fairfield Sentry Ltd. (Sentry), a British Virgin Islands entity, was the largest of the “feeder funds” to Bernard L. Madoff Investment Securities LLC (BLMIS), having invested substantially all of its assets in BLMIS. Sentry was placed into liquidation in the BVI in 2009, following the disclosure of the Madoff fraud. In July 2010, the U.S. Bankruptcy Court for the Southern District of New York recognized Sentry's BVI liquidation proceeding as a foreign main proceeding under Chapter 15. That decision was later affirmed on appeal by the Second Circuit in Morning Mist Holdings Ltd. v. Krys (In re Fairfield Sentry Ltd.), 714 F.3d 127 (2d Cir. 2013).

In December 2010, the Sentry liquidator entered into a trade confirmation with a claims purchaser, Farnum Place LLC (Farnum), for the sale of Sentry's SIPA customer claim in the BLMIS proceedings for approximately 32% of its allowed face amount (the claim was later allowed in the amount of $230 million). Days after the contract was signed, the BLMIS trustee, Irving Picard, reached an unprecedented multi-billion settlement with the estate of the largest beneficiary of the Madoff Ponzi scheme, Jeffry Picower. The Picower settlement caused the market value of SIPA claims to almost double overnight.

The trade confirmation made the sale contingent on the approval of both the BVI court supervising Sentry's liquidation proceeding and the U.S. Bankruptcy Court. The Sentry liquidator requested the BVI court's disapproval of the sale because, following the Picower settlement, it was no longer beneficial to the Sentry estate. However, that court approved the sale under BVI insolvency law in March 2012, finding that the deal was a reasonable one at the time the trade confirmation was negotiated and signed. The Sentry liquidator subsequently filed an application in the U.S. Bankruptcy Court for that court's disapproval of the sale under Section 363 of the Bankruptcy Code, as made applicable in the Chapter 15 case by Section 1520(a)(2).

The Bankruptcy Court's Decision

In January 2013, the bankruptcy court (the late Judge Burton Lifland presiding) issued a decision declining to set aside the sale under U.S. bankruptcy law on two bases. First, the court determined that Sentry's SIPA claim was an intangible asset that, under applicable New York law, should be deemed located in the BVI, and thus Section 363's application was not triggered because the sale did not involve the transfer of property “within the territorial jurisdiction of the United States.” In re Fairfield Sentry Ltd., 484 B.R. 615, 623-25 (Bankr. S.D.N.Y. 2013). In support of that finding, the bankruptcy court pointed to the fact that “the sale involves the transfer of the SIPA claim by a BVI incorporated entity, being administered by the BVI Court,” and that the Sentry liquidator “was appointed by, and must answer to, the BVI Court.” Id. at 625.

The court went on to conclude, in what is technically dicta, that a plenary Section 363 review of the sale, following the BVI court's approval thereof, would contravene “Chapter 15's origins and its governing concept of comity.” Id.' at 626. Judge Lifland pointedly stated: “This Court, supervising an ancillary proceeding, declines to offend principles of international comity by second guessing the BVI Court's approval of the Sale when the United States' interests are so minimal.” Id. at 628.

The bankruptcy court's decision was affirmed on appeal by the District Court in July 2013. The Sentry liquidator subsequently appealed to the Second Circuit.

The Second Circuit's Decision

In September 2014, the second circuit issued its decision reversing the lower court decisions. On the issue of the SIPA claim's situs, the court held that Section 1502(8) was outcome-determinative. That section defines “within the territorial jurisdiction of the United States” to expressly include “property subject to attachment or garnishment that may properly be seized or garnished by an action in a Federal or State court in the United States.” 11 U.S.C. ' 1502(8). The Second Circuit determined that, under applicable New York state law, the SIPA claim at issue is subject to attachment or garnishment and may be properly seized by an action in a U.S. court, because the BLMIS trustee ' who is obligated to make distributions on the SIPA claim ' is located in New York. Because the SIPA claim was determined to be located in the United States, the application of Section 363 was triggered under Section 1520(a)(2). In re Fairfield Sentry Ltd., 768 F.3d at 244-45.

The court then concluded that principles of comity ' i.e., deference to the BVI court's prior approval of the sale ' could not preclude a plenary Section 363 review of the transaction. While acknowledging the central role of comity in Chapter 15, and specifically Section 1508's mandate that courts “consider [Chapter 15's] international origins” in interpreting its provisions, the Second Circuit held that Section 1520(a)(2) is one provision in Chapter 15 that acts as a “brake or limitation on comity.” In re Fairfield Sentry Ltd., 768 F.3d at 245 (citation and quotation omitted). That determination was based on the statutory language of Section 1520(a)(2) itself, which expressly commands that Section 363 applies “to the same extent” as in a Chapter 11 or Chapter 7 case. The Second Circuit therefore remanded the proceedings to the bankruptcy court to conduct a plenary and independent Section 363 review of the sale under the same standards applicable in a domestic bankruptcy case. The court specifically instructed the bankruptcy court to consider, as part of its review, the increase in value of the SIPA claim following the date of the signing of the trade confirmation.

By deciding the case based strictly on the statutory text of Chapter 15, the Second Circuit implicitly followed a rule the court had set out in a prior decision pre-dating the enactment of Chapter 15, In re Maxwell Commc'n Corp., 93 F.3d 1036 (2d Cir. 1996). In Maxwell, the Second Circuit stated: “Because the principle of comity does not limit the legislature's power and is, in the final analysis, simply a rule of construction, it has no application where Congress has indicated otherwise.” Id. at 1047. Although the court did not cite Maxwell in the Fairfield Sentry decision, the Second Circuit effectively determined that Congress “indicated otherwise” in Section 1520(a)(2) by the use of the “to the same extent” language.

The Second Circuit's decision did not delve into the legislative history of Section 1520(a)(2). However, the legislative materials, referred to and relied on by the Sentry liquidator in the appeal, are aligned with the Second Circuit's textual analysis. The report of the House Judiciary Committee accompanying the enactment of Chapter 15 explains that “recognition creates a status with the effects set forth in section 1520, so those effects are not viewed as orders to be modified, as are orders granting relief under sections 1519 and 1521.” H.R. Rep. No. 109-31 (2005), at 113. Moreover, Article 20 of the UNCITRAL Model Law on Cross-Border Insolvency (Model Law), from which Section 1520 is derived, provides that the transfer of the debtor's assets is suspended upon recognition and made subject to domestic insolvency law. The Guide to Enactment of the Model Law, which explains the policy underlying the Model Law's provisions, espouses that in order to achieve the benefits of an orderly and fair cross-border insolvency proceeding, “it is justified to impose on the insolvent debtor the consequences of article 20 in the enacting state ' even if ' the automatic effects of the insolvency proceeding in the country of origin are different from the effects of article 20 in the enacting State.”

These materials underscore that the architecture of Chapter 15 is more nuanced than a wholesale codification of comity principles. As Judge Christopher Sontchi of the Delaware Bankruptcy Court observed in In re Elpida Memory Inc., 2012 WL 6090194 (Bankr. Del. 2012), the Model Law, which Chapter 15 incorporates into the U.S. Bankruptcy Code, “follows an in rem division of labor between competing sovereignties ' tasking the domestic courts with responsibility over and for assets in their jurisdiction.” Elpida Memory, decided before Fairfield Sentry, also held that comity does not excuse the application of Section 363 when triggered under Section 1520(a)(2). These decisions essentially reason that, through Section 1520(a)(2), Congress has tasked U.S. bankruptcy courts with the exclusive responsibility of approving sales of the Chapter 15 debtor's U.S. assets, and such approval must be determined under U.S. law standards ' specifically, the Section 363 standards.

Conclusion

The Fairfield Sentry decision highlights that there are certain instances under Chapter 15 where comity yields to U.S. law standards. However, the decision should not be read as giving U.S. bankruptcy courts free reign to disregard the effects of a foreign main proceeding following recognition. A Chapter 15 case is an ancillary proceeding with the overriding goal of providing assistance to the foreign main insolvency proceeding. Indeed, Section 1501(a) sets forth the objectives of Chapter 15, and the first one listed is cooperation between United States and foreign courts in cross-border insolvency cases. But, at the same time, Chapter 15 requires the application of U.S. bankruptcy law in specifically identified matters involving U.S. property, and the sale of U.S. property is one such matter. Thus, upon foreign main recognition in a Chapter 15 case, both foreign estate representatives and prospective purchasers of the foreign debtor's U.S. assets must be prepared to participate in a bankruptcy sales process that will be no different than if the transaction were occurring in a Chapter 11 case.

Daniel Saval is a partner in Brown Rudnick LLP's Bankruptcy and Corporate Restructuring Group, based in the firm's New York office. He represents clients in complex corporate restructuring, insolvency and related litigation matters both domestically and in cross-border contexts, and is currently acting as U.S. counsel for the liquidators of Fairfield Sentry Limited. He is also a Fellow of INSOL International. Reach him at [email protected].