In the depths of the 2008 financial crisis, General Motors (Old
GM) filed the fourth-largest bankruptcy in the history of the
United States, seeking approval to sell substantially all of its
assets to a newly formed entity (New GM) "free and clear" of its
legacy liabilities. At the time, Old GM was bleeding cash and
surviving only thanks to emergency loans from the federal
government, earning it the dubious nickname "Government Motors."
That sale -- totaling approximately $82 billion -- was approved
within 40 days of the bankruptcy filing and allowed New GM to
emerge from bankruptcy a more financially stable company.
Fast forward to March 2014, when New GM first announced to the
public the presence of defects in ignition switches installed in
model years prior to the bankruptcy sale. Dozens of accident deaths
have reportedly been linked to the defect, which has resulted in
one of the largest automobile recalls in history. Significantly, at
the time of the bankruptcy sale, dozens of GM employees, including
engineers, senior managers and attorneys, knew enough information
about the ignition defect to trigger Old GM's obligations under the
National Traffic and Motor Vehicle Safety Act to conduct a recall
of the affected vehicles. Upon this revelation, vehicle owners
immediately filed complaints against New GM. In response, New GM
agreed to compensate victims who suffered physical injury or death
as a result of the defect, but otherwise argued that the "free and
clear" provision of the Bankruptcy Court's sale order insulated it
from successor liability on claims for various forms of economic
loss. The U.S. Bankruptcy Court for the Southern District of New
York -- the same court that approved the bankruptcy sale --
recently entered an order enforcing that sale order and concluding
that ignition switch defect claims were barred by the bankruptcy
sale order.
The bankruptcy sale
The increasingly favored means of accomplishing a bankruptcy
"reorganization" is to sell substantially all of the bankruptcy
debtor's assets free and clear of all liens, claims and
encumbrances under Bankruptcy Code § 363. These so-called "363
Sales" amount to an effective short sale of the going concern
business, with the Bankruptcy Court sale order insulating the
purchaser from claims of pre-bankruptcy creditors. Generally, the
purchaser of a debtor's assets is not liable for claims asserted
against the debtor unless the purchaser expressly agrees to assume
such liabilities. However, in the case of future claims against a
purchaser -- such as where a product sold prior to the bankruptcy
sale injures someone after the sale -- the issue becomes much
thornier when these future claimants lacked sufficient notice and
constitutional due process that are bedrock principles on which
bankruptcy sales are built.
By any standard, the GM bankruptcy and 363 Sale were remarkable.
The company employed over 200,000 people and did business with
approximately 11,500 vendors as part of its supply chain that
employed approximately 500,000 more people. These factors alone
made it a complex deal, made only more complicated by the United
States and Canadian governments' involvement and a 40-day closing
deadline. In total, 850 parties in interest objected to the sale in
one form or another, although the majority of objections were to
specific provisions of the proposed order -- including the free and
clear provision -- and not to the sale as a whole. Ultimately, the
court overruled objections to the free and clear provisions and
concluded that New GM should be protected from successor liability
claims.
The ignition switch claimants
While the ignition switch defect resulted in many accidents
causing injury and death, New GM had agreed to satisfy claims for
death, personal injury and property damage in accidents occurring
after the 363 Sale involving vehicles manufactured by New GM and
Old GM alike. Furthermore, the Sale Order did not insulate New GM
from its obligations to conduct recalls and fix defects in
accordance with federal and state law, even for defects in vehicles
manufactured by Old GM.
Thus, the claims put at issue by the 363 Sale were limited to
mostly unliquidated claims alleging an amalgam of economic loss
damages estimated in the aggregate between $7 and $10 billion.
These economic loss damages allegedly flowed from such things as
the reduction in the resale value of affected cars, other economic
loss, such as missing work when getting the ignition switch
replaced, and inconvenience. Other classes of claimants included
victims suing with respect to accidents occurring before the
bankruptcy sale, and owners of non-defective GM vehicles claiming
that the defect and recall caused damage to the GM brand and thus
resulting economic loss to them.
The court's analysis
The Bankruptcy Court focused on whether the bankruptcy sale
process afforded the various ignition switch claimants procedural
due process, and if not, whether the court could or should do
anything about it at this stage.
Generally, notice must be provided in bankruptcy cases that is
reasonably calculated, under all the circumstances, to apprise
people of the pendency of any proceeding that may result in their
being deprived of any property, and to afford them an opportunity
to present their objections. However, where the identities of
creditors are known, actual notice must be given. Thus, while the
court concluded that notice by publication was sufficient to all
vehicle owners generally, it was not sufficient to owners whose
cars had ignition switch defects, because at that time Old GM had a
known recall obligation and knew the names and addresses of those
owning the affected vehicles. As a result, ignition switch defect
claimants had not received sufficient notice of the 363 Sale.
However, even where a claimant has not received sufficient
notice, due process is not violated unless the lack of notice
results in actual prejudice to the aggrieved party. Thus, the court
concluded that while the claimants were prejudiced with respect to
the bar date for filing claims against Old GM, only economic loss
claimants were prejudiced with respect to the 363 Sale because at
the time of the sale, the court considered and rejected most of the
same arguments the ignition switch claimants now advanced. In one
respect, however, the court held that economic loss claimants were
prejudiced by their lack of notice, noting that no one had argued -
as they were now - that the proposed bankruptcy sale order was
overbroad in that it should not have excluded claims involving Old
GM vehicles and parts, so long as the claims were based solely on
New GM conduct and not successor liability.
Given that certain claimants' procedural due process rights had
been violated, the court concluded that they deserved a remedy
tailored to the prejudice they suffered, to the extent the law
permits. However, the fact that purchasers of bankruptcy assets
like New GM acquire property rights too, and that taking away
purchasers' contractually bargained-for rights strikes at the heart
of the bankruptcy system, was also a critical factor in the court's
analysis. In light of these concerns, the court settled on a
"remedy" of sorts by clarifying that under its previous sale order
New GM would have liability for ignition switch defect claims only
to the extent that it had engaged in its own independently wrongful
conduct, and not because it assumed any Old GM liabilities.
Ultimately, the court affirmed that New GM would not suffer
successor liability for Old GM liabilities, and thus cautioned
trial courts analyzing claims that are supposedly against New GM to
be extraordinarily careful to ensure that they are not in substance
successor liability claims "dressed up to look like something
else."
Conclusion
While the GM bankruptcy and sale were certainly unique in scope
and circumstance, the court's ruling that ignition switch claimants
cannot assert successor liability claims against New GM based on
Old GM conduct reaffirms that sales "free and clear" of prepetition
claims mean what they say, and that buyers can generally rely on
the protections provided by bankruptcy sale orders even where
substantial unknown liabilities are subsequently revealed.
This article appeared in the Summer 2015 edition of the
ComCom Quarterly, the newsletter of the Complex Commercial
Litigation Section. For more articles like these on business
litigation, bankruptcy and intellectual property topics, check out
the Quarterly at http://is.gd/lFJCJw.