Debtor Can Reject Collective Bargaining Agreement After Sale

Can a Collective Bargaining Agreement be rejected after the sale of the business? Yes, according to a recent decision of the United States Bankruptcy Appellate Panel for the Eighth Circuit. In re: Family Snacks, Inc., Debtor, United Food & Commercial Workers Union, Local 211, Appellant, vs. Family Snacks, Inc. and Official Unsecured Creditors’ Committee, Appellees and Cross-Appellants (Nos. 00-6076, 00-6077, and 00-6078) Filed January 31, 2001:

In this case the panel ruled that a Debtor can reject a Collective Bargaining Agreement after the sale of its assets. In addition, the panel ruled that, upon the Court’s denial of a Motion to Reject the Collective Bargaining Agreement under 1113 of the Bankruptcy Code, such action did not automatically determine that the Collective Bargaining Agreement was assumed.

This decision appears to be in conflict with the Third Circuit Court of Appeals in its decision Wheeling-Pittsburgh Steel Corp. v. United Steel Workers of America, 791 f.2D 1074 (3RD Cir. 1986). The facts in the Eighth Circuit decision of Family Snacks, Inc., Debtor vs. United Food and Commercial Workers Union, Local 211, filed January 31, 2001 are relatively simple. On February 14, 2000, Debtor filed a Chapter 11 Bankruptcy Petition. Prior to the filing the Debtor had attempted to find a successful bidder and, within 90 days of the initial filing, the Debtor sold the assets of the company free and clear of Debtor’s liability, including the Collective Bargaining Agreement. At no time prior to the sale had the Debtor moved to assume or reject the Collective Bargaining Agreement. The new purchaser hired virtually all the union members under a new Collective Bargaining Agreement and paid all the employees’ post-petition medical and dental claims. This left a dispute over the unpaid pre-petition medical and dental expenses due under the Collective Bargaining Agreement with the Debtor. The Union obviously wanted these pre-petition expenses to be treated as administrative expenses, whereas the Debtor wanted them to be treated as general unsecured claims. After several weeks of negotiations between the Debtor and the Union, the Debtor filed an application under § 1113 of the Bankruptcy Code for leave to reject the Collective Bargaining Agreement. The Official Committee of Unsecured Creditors joined in the application. After hearing the Bankruptcy Court denied the Debtor’s application to reject the Collective Bargaining Agreement on the basis that such a rejection did not comply with the requirement that it “be necessary to permit the reorganization of the Debtor.”

While the Court accepted the proposition that the Debtor who is selling its assets as a going concern may take advantage of Section 1113, the Bankruptcy Court can find instances where the Debtor applied for the leave to reject before any asset sale. The Union further argued that, by reason of the Court’s denial of the Debtor’s Motion to Reject the Collective Bargaining Agreement, such Order conferred an ipso facto assumption of the union contract. An appeal was taken to the Eighth Circuit. The Court in its opinion discussed the background of the enacting of Section 1113 and 1114 of the Bankruptcy Code. The Court indicated that the section had its roots in the Supreme Court’s decision in NLRB v. Bildisco & Bildisco, 465 U.S. 513 (1984). In Bildisco the Supreme Court held that a Debtor’s Collective Bargaining Agreement was an executory contract which could be rejected under Section 365 of the Bankruptcy Code, as long as it appeared that the rejection was necessary to the Debtor’s reorganization and the equities favored such rejection. After this case, Congress quickly responded and enacted Section 1113 of the Bankruptcy Code. This section clearly treats Union Contracts and Collective Bargaining Agreements entirely different than any other executory contract with respect to rejection.

Section 1113 contains detailed substantive and procedural requirements which a Debtor must purport with in order to modify or reject a Collective Bargaining Agreement. These standards are fully set forth in 1113(c)(1):

Under 1113, the proposal to the authorized representative of the employees must set forth in complete detail, based upon reliable information, the necessary modifications to the employees’ benefits that are necessary to permit the reorganization of the debtor.

The appellate panel, in its opinion, emphasized that nowhere in Section 1113 of the Bankruptcy Code is there any indication as to when the debtor must take action to rejection the collective bargaining agreement. Because of inartful drafting of the statute, courts differ in their application and interpretation of Section 1113. The Bankruptcy Panel indicated that although courts may differ in the application and interpretation of the statute, nevertheless the rejection of a collective bargaining agreement under Section 1113 is judged against a nine factor test, articulated in In re American Provision Co. 44 B.R. 907, 909 (Bankr. D. Minn. 1984). See generally Keating, 35 WM. & MARY L. REV. at 511-12 (“Virtually every court that is faced with the issue of whether a Chapter 11 debtor may reject its collective bargaining agreement utilizes a nine-part test that was first set down by the bankruptcy court in In re American Provision Co.”). Under § 1113(b), the American Provision test requires that: (1) the debtor make a proposal to modify the CBA; (2) the proposal be based on the most complete and reliable information available at the time of the proposal; (3) the proposed modifications are necessary to permit reorganization of the debtor; (4) the modifications assure that all creditors, the debtor, and all other affected parties are treated fairly and equitably; (5) the debtor provides to the union such relevant information as is necessary to evaluate the proposal; (6) the debtor meets at reasonable times with the union between the time of the proposal and the time of the hearing on the proposal; (7) the debtor negotiates with the union in good faith at these meetings; (8) the union refuses to accept the debtor’s proposal without good cause; and (9) the balance of equities clearly favors rejection of the agreement. See American Provision, 44 B.R. at 909. In terms of burdens, the “debtor bears the burden of persuasion by the preponderance of the evidence on all nine elements,” although “assignment of the initial burden of production depends on the circumstances.” Id.

It is in the interpretation of the work “necessary to permit the reorganization of the debtor” that the court differed from the Third Circuit standard. As indicated previously, the Third Circuit has held, in Wheeling-Pittsburgh Steel, that “necessary” was synonymous with “essential”, whereas the Second Circuit, in Truck Drivers Local 807 v. Carey Transportation, Inc., 816 F.2d 82 (2nd Cir. 1987), defined the word “necessary” more broadly. The Second Circuit concluded “the necessity requirement places on the debtor the burden of proving that its proposal is made in good faith, and that it contains necessary, but not absolutely minimal, changes that will enable the debtor to complete the reorganization process successfully.” The Bankruptcy Panel concluded “the more flexible standard is often paired with the requirement of § 1129(a)(11) that a plan of reorganization be confirmed only if confirmation is not likely to be followed by the liquidation of, or the need for further reorganization of, the debtor.

The Appellate Panel in this case indicated, citing In re Hoffman Bros. Packing, 173 B.R. at page 186, that “the distinction between reorganization of a debtor and the sale of a going concern asset to a third party…[is] irrelevant to considerations under § 1113, based on Chapter 11’s goal of continuing the enterprise, regardless of ownership.” The court specifically overruled the Bankruptcy Court’s adoption of the Third Circuit standard as indicating the word “necessary” is synonymous with “essential.” The court pointed out that Congress, in its adoption of § 1113, used the word reorganization, not the more narrow term of rehabilitation. Reorganization can and does include liquidation, and the distribution of proceeds to creditors in accordance with the Bankruptcy Code’s priority scheme. The court further pointed out, and reiterated its position, that the Bankruptcy Court erred in establishing a time limit on when the reorganization process a debtor must reject a collective bargaining agreement. The court pointed out there is nothing in the language of § 1113 that dictates when an application to reject must be made. See In re Moline Corp., 144 B.R. 75, 77-78 (Bankr. N.D. III. 1992). The court reached the conclusion that the timing of the rejection request is not governed by § 1113, but instead by § 365(d)(2), which deals with the assumption or rejection of all executory contracts can be deferred until a confirmation of a plan.

In regard to the modification of retiree benefits, the court citing the Ionosphere Clubs, Inc., 134 B.R. 515, 517 (Bankr. S.D.N.Y. 1991), detailed an analysis that the section regarding modification of benefits is to be construed in accordance with §1113 and be treated in the same manner, and that the same procedures and standards as existed for modification or rejection of collective bargaining agreements apply to the modification of retiree benefits. The court specifically rejected the union’s objection and stated, “We see no basis for such a distinction, unless it is to give the union veto power over a going concern sale which, as we know from experience, is often the best way to reap the greatest benefit for all creditors. Section 1113 was never intended to give unions such power.” [Emphasis added]. As to the issue of the union’s position regarding the requirement that the Motion to Reject the Union Contract should be done prior to the sale was likewise rejected. The court pointed out that § 363 asset sales occur on a very expedited basis and, at times, the court authorizes a sale by auction. In certain factual situations, the court pointed out, the union’s position would make it impossible for a debtor to accept the highest and best offer for its assets and would precipitate the loss of potential purchases to the detriment of all other creditors. The court emphasized that it would be difficult to accept the argument that § 1113 was designed to give a union the power to so strangle a debtor’s attempts to reorganize through liquidation. [Emphasis added).

In conclusion, the court held that “necessary to permit the reorganization of the debtor” means necessary to accommodate confirmation of a Chapter 11 plan, whether or not such plan is a liquidating plan. Even though the Motion to Reject the Union Contract may be filed after the asset sale, nevertheless a debtor must satisfy that such rejection is “necessary to permit the reorganization” element, and that such test does not hinge on the consummation of the asset sale but rather on the confirmation of the actual plan of reorganization to distribute the proceeds of the asset sale. In the present case, the debtor will still ultimately have to show the rejection of the collective bargaining agreement was necessary to obtain a confirmable plan. Because the debtor can make the showing before, at, or after the asset sale, it thereby satisfies the requirements of the rejection of the collective bargaining agreement under §1113, should not be read to preclude the debtor from doing so after the § 363 asset sale has taken place.

The second issue raised on appeal was whether or not the rejection by the court of the debtor’s Motion to Reject the Sale constituted an ipso facto assumption of the collective bargaining agreement. Here the court, in applying rules of statutory construction, concluded that since there was ambiguity in § 1113 and § 365(b), its interpretation of the statute indicates that the mere rejection by the court did not constitute an assumption. The assumption of the union contract was not governed by § 1113, but rather by the specific revisions of § 365, which deals with the assumption and/or rejection of all executory contracts. Furthermore, such assumption under § 365 can occur at any time up to and including confirmation of the plan.

Furthermore, § 365 clearly requires the debtor to cure a default under the contract and provide adequate assurance of future performance. Thus the court concluded that § 365 insures that assumption is an orderly, predictable, court controlled process.

This well reasoned opinion is an attempt to shed further light on the confusing and often litigious areas regarding Assumption and Rejection of Collective Bargaining Agreements. Clearly, Congress, in its attempt to modify the Bankruptcy Code after the Bildisco Supreme Court case, failed to provide any legislative history or guidance to the courts, which has led to the sometimes confusing results. Hopefully, as time goes by, and various courts have had an opportunity to review the statute, the lawyers’ dream for certainty in advising their clients will become a reality.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.