Claims Chat is new periodic column addressing topics of interest relating primarily to Chapter 11 bankruptcy claims.

Settling a claim involves three key phases: the evaluation phase, the negotiation phase and the documentation phase. The evaluation phase traditionally involves company personnel and its advisors. The negotiation phase involves a lot of time and energy on the part of client personnel and high-level lawyers. The documentation phase focuses on claims settlements, which are often documented by junior attorneys who are rushing to meet a negotiated effectiveness deadline or a court hearing. While the documentation phase of the process can be mundane, it often results in confusion, additional time and expense – or even litigation – if the settlement agreement is not drafted properly. This article will provide you with some tips for crafting effective settlement documents. These tips are a good refresher for seasoned practitioners or a primer for attorneys who are drafting settlements for the first time.

As you review these tips, bear in mind how the settlement agreement will be used in the future. Draft the stipulation assuming that five years from now, somebody – the client, the claimant, a court, you or one of your colleagues who never worked on the matter – will get a call concerning the claim and will likely need to know (1) how it was disposed of during the case, (2) what kind of distribution the claimant received under the plan, or (3) whether a motion to dismiss state court litigation brought by the claimant concerning matters related to the claim will be successful.

Tip #1: In cases involving multiple debtors, clarify which debtors are impacted by the settlement of the claim.

In administratively consolidated cases, it is easy to get lax in the documentation phase, as all pleadings or stipulations begin with the phrase “XYZ Company and its chapter 11 debtor affiliates hereby move . . . .” While this is standard language, sometime in the future the client must be able to review the stipulation and determine whether it can move to dismiss state or federal court litigation against an affiliate in South Dakota, for example.

If the claim is asserted against a South Dakota entity, it should be the lead party to the stipulation. The name of the South Dakota entity should appear in several places in the document: (1) in the title, so that a docket entry is created (we will elaborate on that one later), (2) in the opening paragraph, “The South Dakota Entity and its chapter 11 debtor affiliates, on the one hand, and ABC Company, on the other hand, hereby stipulate . . . ,” and (3) in the signature line.

Tip #2: Clearly set forth the related claim numbers.

A claims register is organized by claim numbers, not by claimant. A court or claims agent cannot modify the claims register unless a stipulation, amended claim, withdrawal or court order direct the modification. A claims agent will not – and cannot – rely on your verbal or even written interpretation that a stipulation resolves all of the claims filed by ABC Corporation. Accordingly, the stipulation should clearly provide that the settlement “amends and supercedes” claim numbers 1, 2 and 3, and that claim numbers 4, 5, and 6 are not affected by the settlement.

Tip #3: The stipulation should include all necessary information – even what may seem today to be redundant or useless information.

When drafting, assume that five years from now, the claimant has a new general counsel who had no involvement with the debtor or the settlement of the claim. You or your client may be tired of seeing stipulations that read, for example:

• “On August 22, 2004, XYZ Company and 56 of its affiliates commenced chapter 11 cases in the United States Bankruptcy Court for the Southern District of New York,” and “the bar date for filing proofs of claim against the XYZ Company debtors was January 24, 2005,” or
• “XYZ’s plan of reorganization was confirmed pursuant to an order entered on December 9, 2005.”

However, this information will help educate the new general counsel who is considering litigation against the reorganized debtor. To that end, the recitals should always include the following:

1. Procedural background of case – petition date, bar date, date claim was filed, date confirmation order was entered,
2. Description of relationship among the parties (if the relationship is contractual, description of executory contract or unexpired lease impacted by settlement), and
3. Whether claim was included in the schedules of assets and liabilities and in what amount and classification.

Tip #4: Indicate classification of allowed claim: “general unsecured claim,” “administrative claim,” or “secured claim.”

A common mistake in a settlement stipulation is the omission of the classification of the settled claim. Even if it is obvious to the drafter that the claimant should have a general unsecured claim, the stipulation should state so clearly: “ABC Corporation has an allowed general unsecured claim against the ’South Dakota Entity,’ in the amount of $100,000.” This is especially important if the original claim was filed asserting a classification different than the final settlement classification.

Tip #5: Identify each particular debtor against which the claim will be allowed.

A term that merely states that “ABC Corporation has a general unsecured claim in the amount of $100,000,” leaves open the possibility that the claimant could assert that all of the debtors have joint and several liability for the claims. Particularly if the settlement is documented pre-confirmation, one should never assume that administratively consolidated debtors would be substantively consolidated under a plan. A better practice is to state: “ABC Corporation has an allowed general unsecured claim against the South Dakota Entity, Parent Debtor, and no other debtors or affiliates.”

Tip #6: Make the settlement agreement available on the docket.

The best way to ensure that the client and other parties-in-interest have access to information concerning the settlement is to create a docket entry. Even if the court, Bankruptcy Code, Bankruptcy Rules or the claim objection procedures do not require bankruptcy court approval of the settlement, it is recommended that you obtain an order approving the settlement agreement that can be used to fend off future litigation or filed in another forum to support dismissal papers. Even in cases where time is short or obtaining an order approving the settlement is unnecessary, the settlement agreement should be part of the record so that the information will be available to the client and other parties-in-interest even after the final decree is entered.

If an order approving the settlement is unnecessary, simply attach the settlement to a “Notice of Settlement Concerning Proof of Claim Filed By ABC Corporation.” The docket in some of the larger cases may include thousands of entries. Make sure the name of the claimant is in the title of the document, to ensure that parties can quickly search the docket and pull the settlement agreement or any other docket entries specifically related to ABC Company (there is nothing more frustrating than seeing fifty docket entries entitled, “Stipulation resolving Proof of Claim Against Parent Debtor.”). Even if a motion is filed seeking approval of fifteen stipulations, always include the names of all of the settling claimants in the title of the document to ensure all names appear on the docket entry.

Tip #7: Indicate status of relationship after settlement, executory contract rejected, terms modified, etc.

If the settlement of the claimant’s proofs of claim against the estates left the contractual relationship between the parties unaltered, so state that in the settlement agreement. If the settlement altered the terms of an executory contract or unexpired lease, specifically set out the modifications in the settlement agreement, or attach the modified agreement or lease as an exhibit to the settlement agreement. Note: bankruptcy court approval under section 363(b) may be required if the modifications are outside the debtor’s ordinary course of business. In that case, move for approval of the agreement under section 363(b) and Rule 9019 of the Federal Rules of Bankruptcy Procedure.

The settlement may also provide for the rejection of the executory contract or unexpired lease at issue. If so, make sure the effective date of the rejection is clearly stated and note that the allowed claim provided for in the settlement constitutes the entirety of the rejection damages claim, and that no additional rejection damages claims may be asserted or allowed.

Tip #8: Think through the releases.

Releases have come back to haunt all of us at one point or another. Look beyond the boilerplate language contained in standard releases and carefully consider (1) which entities are being released, and (2) which claims are being released. With respect to which entities are being released, be careful not to release affiliates or agents of the claimant unintentionally. On the debtor side, try to obtain a release for all of the debtors and non-debtor affiliates.

With respect to which claims are being released, when representing the debtor, be careful not to release chapter 5 (preference and fraudulent transfer) actions unintentionally, unless such a release was part of the bargaining process. In many cases, the claims resolution and avoidance action processes are on different tracks, with claims being resolved well before the completion of the avoidance action analysis. Before releasing chapter 5 actions, ask the client or financial advisor to provide a brief analysis of potential chapter 5 actions against the claimant. Analyzing chapter 5 actions before settling with a claimant can create leverage in settlement negotiations. In any case, never release chapter 5 actions before knowing what actions exist.

Tip #9: Your client should sign the settlement agreement.

It is not uncommon for a lawyer to sign a settlement agreement on behalf the client. While this is action is not technically malpractice, the better practice is to have the client sign the stipulation, particularly when the settlement agreement contains releases of the debtor’s ability to utilize tools of the Bankruptcy Code, such as chapter 5.

Tip #10: Create a form of stipulation.

The best way to ensure that the client, financial advisors and colleagues properly document claims settlements is to take the time to create a form of settlement agreement that incorporates these tips and circulate that form to everyone who may be involved with the settlement of claims. The individuals who execute the documentation phase cannot always be controlled, but a checklist of items that must be considered before finalizing the settlement can ensure some level of consistency and efficiency in the process.

Conclusion
While many of these tips are common sense to most practitioners, they are also commonly ignored or overlooked, resulting in additional work, cost, and even at times litigation. A well-drafted settlement stipulation may not win you a literary prize, but it will help you provide your client with superior service.

Some Mistakes in Documenting Claims Settlements:

1. Not identifying all claims filed by a claimant by the proof of claim number assigned by the court or claims agent
2. Not addressing whether preference or fraudulent actions are released as part of a settlement
3. Not specifying appropriate classification of an allowed claim or affected debtors in the document
4. Not making claims purchaser or original creditor signatories to a settlement agreement, and providing notice to both of all matters affecting a claim
5. Not notifying the claims agent of settlements
6. Embedding claims settlement in larger document and failing to identify settlement of claims agent
7. Failing to include language in the order approving a settlement that directs the claims agent to reduce or adjust the claims register in accordance with the settlement
8. Withdrawing, as opposed to amending or stipulating, a claim that was reduced to zero