Last June, the Supreme Court issued a ruling in Baker Botts LLP v. ASARCO, LLC, which dramatically altered expectations that had previously been fairly widely accepted in many areas – the right of professionals representing debtors and creditors committees to be reimbursed by the estate for fees incurred in defending objections to their fees.  In ASARCO, the Supreme Court applied the so-called “American Rule” that each party must pay its own attorneys’ fees absent explicit statutory authority to the contrary. The Supreme Court held that section 330 of the Bankruptcy Code, which governs payment of fees to estate professionals, is not sufficiently “specific and explicit” to avoid the American Rule and that Baker Botts was therefore not entitled to recover its fee defense costs. We previously explored the ASARCO ruling in greater detail.

In re Boomerang Tube, Inc., in the Bankruptcy Court for the District of Delaware, presented an attempted “work around” seeking to avoid the application of the ASARCO ruling. In Boomerang, the Official Committee of Unsecured Creditors entered into a retention agreement with its counsel expressly providing for the payment of fee defense costs and expenses to the extent that the counsel was successful in its fee defense. The U.S. Trustee objected to the proposed retention terms, contending that such arrangements were categorically precluded by ASARCO. In a detailed decision, Bankruptcy Judge Mary Walrath considered and rejected each of the various arguments made to support the proposed fee shifting.

The court began by addressing the Committee’s statutory arguments (i) that ASARCO was not applicable precedent since it applied to section 330 and the Committee counsel was seeking engagement pursuant to section 328, and (ii) that section 328 is an express exception to the limits of section 330, permitting terms of employment not otherwise available. The court found that section 328, while providing an exception to section 330, is not the type of “specific and explicit” authorization needed to overcome the limitations of the American Rule. The court noted the significance of other provisions in the Bankruptcy Code containing express language regarding a party’s payment of the attorney’s fees of an opposing party, and found that section 328 contained no similar express authorization.

Judge Walrath next addressed the Committee’s argument that ASARCO acknowledges the potential for a contractual exception that would permit the payment of fee defense costs. While agreeing with the notion that ASARCO did not preclude such a contractual exception, the court noted that parties still cannot, by contract, violate provisions of the Bankruptcy Code. Therefore, in order to utilize any contract exception, the contract would need to be consistent with the other provisions of the Code.

Although recognizing the retention agreement signed with the Committee as a contract, the court noted that it was subject to objection of other parties and ultimately to the approval of the court. Moreover, the court noted that the retention agreement was an understanding between two people for the payment of defense fees by a third-party (the estate) even if the estate was not the objecting party. The court concluded that the estate could not be contractually bound by an agreement to which it was not a party.

In addition, the court noted the special limitations on retention agreements in bankruptcy cases. A court has the authority to condition or refuse its approval if the terms of a retention agreement are not reasonable. The court went on to agree with the U.S. Trustee that the retention agreement provisions permitting compensation for services not rendered to the Committee, but rendered for the benefit of retained counsel, were not reasonable terms of employment.

Next, the court addressed the applicant’s argument that the fee shifting provision of the retention agreement should be approved because it is substantially similar to indemnification provisions which courts have approved in a number of prior decisions. The court noted that these indemnification decisions preceded the ASARCO ruling, which considered and rejected a market-based argument to permit reimbursement of such fee defense costs.

Lastly, the court addressed the question of permitted reimbursement of out-of-pocket fee defense expenses under section 328. The court noted that, having held that counsel was not permitted to be reimbursed for fees it incurred in defense of objections, it would be logically inconsistent to permit counsel to be reimbursed for out-of-pocket expenses in hiring a separate counsel to defend it. The court also noted that such expenses would not be incurred for the benefit of the estate and therefore could not be eligible for reimbursement under section 328.

We now have a ruling from the Delaware Bankruptcy Court, whose decisions are influential across the U.S., rejecting a variety of different arguments that sought to avoid the implications of the ASARCO decision. It remains to be seen whether other courts will follow Boomerang Tube, or whether they will find other exceptions to the ASARCO decision or determine that ASARCO does not prevent a contractual workaround. One can only assume the creative counsel will continue to search extensively for some manner to obtain additional fee defense protection. And we will continue to report on those results.