Non Debtor Injunctions - Challenges to Bankruptcy's Automatic Stay

How Bankruptcy Makes Waves

It seems so simple: corporation files for bankruptcy protection, all financial claims against it are automatically stayed, and the matter is resolved with the help of time and the return of temperate behavior. It’s not quite that simple, however. Many debtors have other pending litigation that enters into the picture and relationships with non-debtor companies or individuals that have substantial interest (and potential liability) in the bankrupt entity as well. What follows are a few examples of the complications and ancillary quarrels that can precede, accompany, and/or complicate a bankruptcy filing.

The Asbestos Mess

Many of us recall the extraordinary string of lawsuits that followed the scientific finding that asbestos fibers can be a cause of cancer. Facing an enormous judgment from a Texas court for damages from asbestos related injuries, Celotex appealed the ruling. The day that the judgment against them was upheld in Texas, Celotex filed for Chapter 11 bankruptcy in Florida. Meanwhile, the plaintiff in the damages suit appealed to the Texas court attempting to seize bond money that Celotex had secured in order to appeal. The Texas courts and the Fifth Circuit Court of Appeal found in favor of the plaintiff, despite Celotex’ Chapter 11 status and its automatic stay, reasoning that the bond money was not part of the Celotex bankruptcy estate. The case went to the Supreme Court.

Justice Rehnquist wrote the majority opinion, finding that the automatic injunction tied to the bankruptcy filing in Florida held sway and that the plaintiff could not seize the bond funds. The appeal in Texas of a Florida bankruptcy injunction was held to be a collateral attack on the Chapter 11 status. Further, Rehnquist noted that Celetex had an additional 141,000 lawsuits pending against it and that the domino effect of a ruling allowing one plaintiff to seize property would destroy any opportunity of reorganization under Chapter 11. The clear implication was that the appeal should have been made directly to the Florida court.

Corporate Director Liability

The honor bestowed upon a prominent citizen who is invited to sit on a corporate board can become a nightmare, if the corporation falls into bankruptcy and creditors seek relief from the individual corporate officers who may have executed some form of personal guarantee regarding corporate performance. In these situations, the automatic stay is generally assumed to cover those individuals with formal board status. However if a guarantor of this sort requires further protection against creditor action, additional injunctive relief is the appropriate course.

Injunctions require a hearing upon notice to both parties, and provide a forum wherein issues that extend beyond the facts presented in the bankruptcy filing may be heard.These situations can also arise when petitions for breach of the automatic stay are filed in another state, and the court there hears a presentation that appears not to overlap the bankruptcy.

Eternal Vigilance…

While Justice Rehnquist’s ruling strongly affirmed the jurisdiction of bankruptcy courts and the Code that governs their practice, it is apparent from the variety of legal steps that have been undertaken to bypass the protective covenants of bankruptcy law that diligence is the order of the day, even under the umbrella of bankruptcy protection.