Jennifer Penberthy Buckley
When implementation of a confirmed Chapter 11 plan proceeds while an appeal is pending, the District Court or the Court of Appeals may be presented with a dilemma. First, reversing the confirmed plan may detrimentally impact third parties, such as those who invest in the reorganized debtor. Second, providing effective relief may be impossible once the restructuring has proceeded so far that the proverbial egg cannot be unscrambled.
In such circumstances, the equitable mootness doctrine permits the court to deny review notwithstanding the merits. Distinct from constitutional mootness, equitable mootness is “a judge-made abstention doctrine that allows a court to avoid hearing the merits of a bankruptcy appeal because implementing the requested relief would cause havoc.” Indeed, courts have suggested that the term “mootness” in this context is a misnomer, and a term such as “equitable bar” or “prudential forbearance” would be more appropriate. Nevertheless, several United States Courts of Appeals have applied the equitable mootness doctrine under appropriate circumstances, particularly where disturbing a consummated plan would “unduly impact innocent third parties.”
In the Third Circuit, to prevail on a claim of equitable mootness, the appellee must demonstrate that: (1) the plan has been “substantially consummated” and (2) providing relief will “fatally scramble the plan and/or . . . significantly harm third parties who justifiably relied” on it. This framework for analysis is the product of compromise among competing public policies, such as assuring the reliability of bankruptcy orders, encouraging investment in reorganized entities, and maximizing review of meritorious appeals. These concerns generally arise in the context of confirmed Chapter 11 plans.
However, in In re Nica, the United States Court of Appeals for the Eleventh Circuit considered a claim of equitable mootness in the context of a Chapter 7 appeal. The debtor, Nica Holdings, Inc. (“Nica”), executed an Assignment for the Benefit of Creditors (“ABC”) to Welt, as assignee, under Florida law. Nica’s assets included shares in Nicanor, which owned a fish farm. Five years later after the ABC proceeding commenced, the assignee Welt filed a voluntary Chapter 7 petition for Nica.
The bankruptcy court approved settlement of two pending lawsuits, which constituted Nica’s sole remaining assets, the stock in Nicanor having become worthless. Another shareholder of Nicanor appealed from those orders. The shareholder also sought dismissal of the chapter 7 case on the ground that Welt had no authority to file it. The district court affirmed, and the shareholder again appealed, renewing his argument for dismissal of the chapter 7 case. The Eleventh Circuit began its analysis by considering whether the appeal was equitably moot. The Court acknowledged that the equitable mootness doctrine was of questionable relevance outside the Chapter 11 context. Nevertheless, the Court assumed the doctrine could apply for the purposes of its analysis.
Unlike the Third Circuit’s more straightforward formulation mentioned above, the Eleventh Circuit applies a multi-factor test to determine whether an appeal is equitably moot. These factors are: (1) whether the appellant obtained a stay in the court below and, if not, the basis for its failure to do so; (2) whether the plan was substantially consummated and, if so, the nature of the transactions involved; (3) the type of relief sought and its potential effect on nonparties; and (4) whether granting this relief would impede the debtor’s viability post-bankruptcy.
Applying these factors, the Eleventh Circuit concluded that the appeal was not equitably moot for several reasons. First, the court observed that the appellant made reasonable efforts to obtain a stay. Second, the settlements had not been substantially consummated because the settlement proceeds had not been distributed. Third, the approved settlements in the chapter 7 liquidation proceeding were simple, reversible transactions, unlike the Chapter 11 plans, with respect to which the Eleventh Circuit had previously found appeals equitably moot. Given these considerations, the Court determined that it could provide effective relief and that the appeal was not equitably moot. Because the equitable mootness determination in Nica was straightforward, the Eleventh Circuit did not decide whether equitable mootness should apply generally to Chapter 7 appeals.
The Eleventh Circuit found, though, that the assignee had no authority to file a chapter 7 bankruptcy petition for Nica under Florida ABC law or the terms of the assignment. Accordingly, the court ordered dismissal of the Chapter 7 petition.
The equitable mootness bar to review can and should be exercised by a Court of Appeals on the right set of facts, in light of the policy considerations supporting the doctrine. First, modifying on appeal a settlement order or other judgment in a Chapter 7 liquidation case might harm innocent third parties. Unraveling a transaction in which a third party purchased a debtor’s assets, for example, could undermine third parties’ willingness to transact with bankruptcy estates generally. The equitable mootness doctrine is designed to prevent this outcome.
Second, one can easily conceive a scenario where the debtor’s assets have been distributed to creditors and unwinding those transactions would be overly burdensome to the bankruptcy court. As noted by the Nica Court, one concern of appellate review over a consummated Chapter 11 plan is that the Court of Appeal’s order “would knock the props out from under the authorization for every transaction that has taken place and create an unmanageable, uncontrollable situation for the Bankruptcy Court.” The concern that overturning various orders in on appeal will impose an intolerable oversight burden on the bankruptcy court applies equally to the Chapter 7 context as to a Chapter 11 case.
Given the right set of facts, a Chapter 7 appeal may merit application of the equitable mootness doctrine. Of course, the analysis would differ slightly based on the differences between Chapter 7 and Chapter 11 proceedings. For instance, there would be no need for the Eleventh Circuit to consider the disposition of the appeal’s impact on the debtor’s ability to survive after emerging from bankruptcy, since a Chapter 7 debtor no longer exists after bankruptcy. In any event, given the doctrine’s purposes of protecting innocent third parties and avoiding the difficulty in unscrambling complex transactions, the equitable mootness bar to appellate review may apply in the context of Chapter 7 appeals, just as it does with Chapter 11.
Jennifer Penberthy Buckley is a third-year law student at Widener University’s Delaware Law School and an Articles Editor for the Delaware Journal of Corporate Law. She also serves as a Josiah Oliver Wolcott Fellow to the Honorable Karen L. Valihura of the Delaware Supreme Court.
Suggested Citation: Jennifer Penberthy Buckley, Does the Equitable Mootness Doctrine Apply to Appeals from Chapter 7 Liquidations?, Del. J. Corp. L (May 7, 2016), www.djcl.org/blog.