Franklin Appeals Stockton Bankruptcy Confirmation

Franklin filed an appeal of Stockton's bankruptcy confirmation this week.  I hope that my previous prediction that Stockton's plan would be rejected in Court will continue to be wrong. 

Franklin claims that Judge Klein's ruling included 4 errors:

1. It incorrectly interpreted the Best Interest of Creditors Test.

2. The classification of Creditors was discriminatory and unlawful.  [The City's plan grouped Franklin's claim "class 12" with the retiree health plan claim.]

3. The plan was proposed in Bad Faith.

4.  The City has not adequately disclosed payments and fees related to the case.

 

I find the second argument most compelling, and it is a big reason why I originally thought the Court would reject the plan.  Of course, I am not a lawyer.  According to Judge Klein, Stockton's classification scheme does not discriminate illegally, and the appellate court may agree.

 

Below is an excerpt on this topic from Franklin's appeal.

 

"Disparate And Discriminatory Classification And Treatment. Franklin also established that

the Plan’s classification scheme – in which Franklin’s unsecured claim was classified together with

part of the claims of City retirees (health benefit claims but not pension claims) and separately from

the claims of all of the City’s other bondholders – had only one purpose: to enable the City to avoid

the “cramdown” requirements of section 1129(b)(1) of the Bankruptcy Code. By improperly

gerrymandering Franklin’s unsecured claim into a class whose other members (the retirees) had

committed to vote to accept the Plan due to the promise of unimpaired pensions, the Plan violates the

strictures of section 1122(a) of the Bankruptcy Code. In re Barakat, 99 F.3d 1520, 1525 (9th

Cir. 1996) (plan violates section 1122 where “the classifications are designed to manipulate class

voting”) (quoting In re Holywell Corp., 913 F.2d 873, 880 (11th Cir. 1990)). The Court erred in

concluding otherwise.

The Court also erred in disregarding the disparate treatment of Class 12 claims and creditors

holding Class 12 claims. Specifically, the Court turned a blind eye to the direct linkage under the

Retirees Settlement between the retirees’ recovery in Class 12 and the City’s agreement to leave the

retirees’ pensions unimpaired. While nominally providing a sub-1% recovery to all claims within

Class 12, the Plan actually provides retirees with a recovery of somewhere between 53% and 70%

 

due to the fact that, as quid pro quo for the sub-1% “settlement” of Retiree Health Benefit Claims,

the City agreed to pay pensions in full. As many cases cited by Franklin establish, that treatment

violates section 1123(a)(4), which requires that claims and creditors in the same class receive the

same treatment. The Court erred by disregarding that authority.

Finally, the Court erred by failing to consider the undeniably unfair discrimination against

Franklin’s unsecured claim. Had the Court properly rejected the City’s gerrymandered classification

and disparate treatment of Franklin’s unsecured claim, it would have concluded that the sub-1%

payment on that claim unfairly discriminated against Franklin in comparison to the Plan’s 50%-70%

payment of retiree claims and 52% to 100% payment of other City bonds, including the wholly unsecured Pension Obligation Bonds. This legal error is likely to lead independently to reversal."