Equitable mootness is a doctrine that allows a court to avoid hearing the merits of a bankruptcy appeal because implementing the relief requested by the appellant would produce a perverse outcome to the bankruptcy plan and/or cause significant injury to third parties. The Third Circuit Court of Appeals recently revisited the application of the doctrine of equitable mootness in In Re SemCrude, L.P. and made it clear that dismissing an appeal as equitably moot should be used sparingly, only where there is sufficient justification to override the statutory appellate rights of the party seeking review.
In SemCrude, the debtors, a midstream oil and gas business, were involved in the gathering, transportation, storage and marketing of crude oil and petroleum products. The debtors filed for Chapter 11 relief with the Bankruptcy Court in July of 2008. Appellants, like many other creditors, were producers that supplied oil and gas to the debtors on credit prior to their Chapter 11 filing. The producers asserted numerous claims against the debtors for the distribution from the proceeds of oil and gas ahead of other creditors. The debtors filed a motion to establish global procedures to administer the producers’ claims. The appellants disagreed about the claims procedure and objected to its use. The appellants argued that they were entitled to prosecute an adversary proceeding on their claims. The appellants filed the suit, but the bankruptcy court stayed the adversary proceeding and allowed the debtors to proceed with their approved resolution procedures. The court noted that the question of whether the appellants will be bound by the resolution procedures could be litigated at a later date by the appellants.
The Debtors subsequently resolved the claims with the producers (other than the appellants) and filed a plan of reorganization. The appellants’ claims were incorporated into the plan, however, they reserved their right to litigate the pending adversary proceeding and objected to the plan. The bankruptcy court overruled their obligations and entered an order confirming the plan.
The appellants appealed to the District Court, asserting that the reorganization plan could not validly discharge their claims without affording them the procedural protections of an adversary proceeding. However, the appellants did not request a stay pending appeal. The plan went into effect shortly after confirmation. Several corporate restructuring transactions, repayment of certain payment obligations and the issuance of securities to those parties receiving equity distribution were implemented following confirmation.
The debtors sought to dismiss the appeal as equitably moot because granting the requested relief would require unraveling of the plan of reorganization and harm third parties. The District Court agreed with the Debtors’ argument and dismissed the appeal under the doctrine of equitable mootness. The District Court reasoned that the plan was substantially consummated. Additionally, granting the appellant’s relief would undermine the reorganization plan and harm third parties. The Third Circuit reversed the District Court and remanded the matter because the record did not support the latter two findings.
The Third Circuit analyzed five conjunctive factors in reaching their decision: (1) whether the reorganization plan has been substantially consummated; (2) whether a stay has been obtained; (3) whether the relief requested would affect the rights of parties not before the court; (4) whether the relief requested would affect the success of the plan; and (5) the public policy of affording finality to bankruptcy judgment. The burden to prove these factors rests with the party seeking dismissal.
The Court reasoned that there was not sufficient evidence of record to support a finding that the plan could not be successful if the appellants were allowed to proceed. Likewise, there was not sufficient evidence to support that third parties would be harmed if the appellants were allowed to proceed. Finally, the court did not find that the public policy supported dismissing the appeal. The Court found that it would be particularly inequitable to allow the debtors to use the doctrine of equitable mootness as a sword against the appellants. Notably, the appellants had repeatedly advanced their contention that they are entitled to the adversary proceeding since the inception of the Chapter 11 filing.
The lesson to be learned from this case is that Courts are not inclined to dismiss an appeal based on the doctrine of equitable mootness, especially when the doctrine is used as a sword by a debtor, instead of a shield to protect the interests of the bankruptcy court and third parties.