Paid Rejection: Bankruptcy Court Allows Professional Fees Despite Trustee’s Flawed Strategy

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“Risk comes from not knowing what you’re doing” – Warren Buffett

Can a bankruptcy court deny fees requested by a professional simply because her client chose a poor strategy? The Bankruptcy Court for the District of Idaho recently rejected such a notion, holding that an accounting professional that performed its duties diligently should not be punished solely due to the Chapter 7 trustee’s poor choices in litigation.

Facts

The relevant facts in In re Hoku Materials, Inc. follow.  Hoku Corporation, Inc. (Hoku Corp) and Hoku Materials, Inc. (Hoku Materials) simultaneously filed separate Chapter 7 bankruptcy cases.  The Chapter 7 trustee for Hoku Corp subsequently filed over 200 adversary complaints seeking to avoid transfers to other parties. In connection with those actions, Hoku Corp filed an application to employ Smith & Company, PLLC as the Hoku Corp estate’s accounting and financial expert.

Various defendants in the adversary proceedings then sought to substantively consolidate the Hoku Corp and Hoku Materials cases. The Hoku Corp trustee vigorously opposed the consolidation motion, directing Smith & Co. to perform significant tasks in connection therewith. However, the trustee also limited the scope of Smith & Co.’s work to an analysis of the information that was then in the trustee’s possession, which prevented the Accountant from preparing a precise balance sheet.

The Court ultimately granted the motion for consolidation, giving little evidentiary weight to Smith & Co.’s testimony and conclusions, largely because those conclusions were unreliable because they were based on incomplete information. Smith & Co. then filed a fee application requesting approval of $27,843.40 in fees on a final basis; substantially all of those fees were incurred in connection with the Hoku Corp trustee’s efforts to oppose substantive consolidation.

The new Chapter 7 trustee for the consolidated estates (joined by a creditor) objected to the fee application, arguing that the fees incurred in supporting the Hoku Corp trustee’s flawed strategy were detrimental to the administration of the estate. The objectors challenged Smith & Co.’s willingness to support the Hoku Corp trustee’s opposition to the consolidation. The objectors requested that the fee application be denied in its entirety and that Smith & Co. disgorge all fees previously awarded.

The Decision

The Court denied substantially all of the objections and awarded Smith & Co. the majority of the fees requested. In doing so, the Court held that Smith & Co. – the retained professional in the Hoku Corp case – should not be punished for the Hoku Corp. trustee’s flawed litigation strategy.  Rather, the Court examined the benefits that Smith & Co. conferred on the Hoku Corp trustee in accordance with section 330(a) of the Bankruptcy Code, which provides that the bankruptcy Court may award “reasonable compensation for actual, necessary services.”

The Court held that the services provided by Smith & Co. were “reasonable and necessary,” and that it was the limited scope of its employment (which was directed by the trustee) that “effectively prevented [Smith & Co.] from rendering a proper, plausible expert opinion.” The Court held that even though the Hoku Corp trustee failed in its opposition to the consolidation motion, Smith & Co.’s services and testimony were reasonably necessary for the Hoku Corp trustee and his counsel to determine whether to continue to pursue the adversary proceedings and to oppose the consolidation motion. The Court specifically noted that a successful outcome by the trustee was not a prerequisite to an award of fees for services provided.

Moreover, the Court rejected the argument that its own rejection of Smith & Co.’s conclusions provided a basis to deny the fee request. The Court analogized the situation to differing opinions of real estate appraisers, in which two appraisers might offer different valuations based on their different methodologies. But a court’s acceptance of one valuation (and rejection of the other) does not mean that either proposal was “unreasonable, not beneficial, or unnecessary.”

Practical Considerations:

The decision in In re Hoku Materials, Inc. provides some comfort to estate professionals that their fees will not be denied simply because their clients choose the wrong strategy or fail in their pursuits (such a regime would much more approximate the English Rule for professionals’ fees!). Nevertheless, professionals should be cautious to render competent services – and request expansion of the scope of employment, if necessary. Such an approach will increase the likelihood that such professionals will render sound advice and reduce the likelihood of challenges to fee applications. And smooth sailing is always a good thing.

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