Contributed by Andrea Saavedra
More often than not, it is the responsibility of bleary-eyed junior associates and paralegals to ensure that a debtor-corporate groups’ pile of petitions are filed in the correct sequence so as to establish appropriate venue where members of the group are being brought in under the provisions of 28 U.S.C. § 1408(2), which permits commencement of a case by an entity in the district in which the debtor’s “affiliate” has a pending bankruptcy case. The Bankruptcy Code’s definition of “affiliate” in section 101(2) of the Bankruptcy Code has at times been criticized because it enables a parent-debtor incorporated in one jurisdiction to use an affiliate incorporated under the laws of another jurisdiction as the means of establishing venue for the entire group of affiliated debtors.
A recent decision out of the Bankruptcy Court for the Western District of Kentucky, however, held that simply meeting a functional test of affiliation – i.e., the existence of a common parent or shared management – may not be sufficient for limited partnerships to be considered “affiliates” within the meaning of section 101(2).
In In re Inv. Cap Partners II, L.P., four debtor-limited partnerships commenced chapter 11 cases in the Western District of Kentucky. Only the first filer, however, met the requirement for venue in Kentucky. None of the other three debtors was incorporated in Kentucky, qualified to do business in Kentucky, or had its principal assets in Kentucky. Lenders to these three limited partnerships argued that the limited partnerships did not satisfy the affiliate venue requirements of 28 U.S.C. § 1408(2) because the limited partnerships were not statutory “affiliates” of the first filer.
The debtors argued that venue was appropriate under the affiliate provisions because the properly-filed debtor had the same ultimate parent entity as the allegedly improperly filed debtors. Further, all four debtors shared common management in the day-to-day operations of their business. Accordingly, the debtors requested that the court take a functional, or “horizontal,” approach to find that the debtors were affiliates and venue was proper.
The bankruptcy court, relying on strict statutory construction, rejected the debtors’ argument. The bankruptcy court noted that an entity can be an affiliate of a debtor under section 101(2)(A) of the Bankruptcy Code if, irrespective of the corporate form of the debtor, the entity directly or indirectly owns or controls 20% of the “voting securities” of the debtor. With respect to entities that are under common control, however, section 101(2)(B) of the Bankruptcy Code only refers to a “corporation,” and the definition of “corporation” in section 101(9) expressly excludes a limited partnership. The bankruptcy court held that, because a limited partnership is specifically excluded from the definition of “corporation” under section 101(9) of the Bankruptcy Code, the debtors could not establish proper venue. (Interestingly, while the Bankruptcy Code is silent on the issue of limited liability companies and limited liability partnerships, courts have held that both business forms may qualify as “corporations” because of their similarities to the corporate form under applicable state law).
The bankruptcy court further noted that such a result was also supported by the testimony of the debtors’ principal that he had “designed the organization structure with the objective of shielding the results of one partnership from the others.” Indeed, it was “this very structure” that “prohibit(ed)” the bankruptcy court from concluding the debtors were “affiliates.” While the bankruptcy court did not dismiss the debtors’ cases, it chose to transfer the cases to another appropriate forum. In rejecting the functional approach, the bankruptcy court did not address the practical consequences of having related, if not formally “affiliated,” debtors with pending cases in multiple jurisdictions. In some financing structures, affiliated limited partnerships might cross-collateralize the obligations of their sister partnerships. If these partnerships were all forced to file in separate jurisdictions, resolving joint liabilities would become more complicated – including for the lenders.
The decision, if followed, also suggests that a motion for joint administration under Bankruptcy Rule 1015(b) may not be a routine rubber-stamping exercise based upon a first day declaration that states that all the debtors are “affiliates.” If two limited partnerships have a common debtor parent that files first (such that they would be able to follow the affiliate venue rule in 28 U.S.C. § 1408(2)), would they nevertheless qualify for joint administration for a case involving “a debtor and an affiliate”?
The case reminds practitioners that simply relying on the corporate affiliate provisions of the venue statute to ensure all debtor-entities are in the same favorable forum may not be a safe bet when it comes to limited partnerships. With respect to all such entities, it is clear that planning and careful consideration should be given to make sure venue is appropriate for all debtors and that joint administration is warranted.