Anyone who is a fan of college football has probably watched ESPN’s College Game Day, and has heard Lee Corso emphatically challenge the predictions of another College Game Day host with the familiar phrase – Not So Fast, My Friend! – and then with some token degree of analysis assure victory by the other team. Similarly, the United States Bankruptcy Court for the District of Delaware recently mirrored this approach in the context of the bankruptcy claims resolution process in the case of In re Cyber Litigation, Inc., (Case No. 20-12702) 2021 WL 5047512 (D. Del. October 28, 2021).
The Necessity of Filing a Proof of Claim and Other Considerations
In analyzing Cyber Litigation, it is useful to consider when a creditor must file a proof of claim, and some of the reasons why a creditor may elect to file a proof of claim or refrain from filing a proof of claim even if it may need to do so.
As a general rule, subject to certain exceptions, a creditor that is not a governmental unit in a voluntary Chapter 7, 12, or 13 case must file a proof of claim within 70 days after the order for relief or within 90 days after the order for relief in an involuntary case under Chapter 7, 12, and 13 if it wants to receive a distribution in the case, regardless of whether the debtor has scheduled that creditor’s claim. See Bankruptcy Rule 3002(c). In contrast, a creditor in a Chapter 11 case does not need to file a proof of claim in the case if the creditor’s claim is scheduled in the correct amount, and its scheduled claim is not marked as disputed, contingent or unliquidated, in order to receive a distribution in the case or to vote on the debtor’s Chapter 11 plan. See Bankruptcy Rule 3003(c)(2).
Against this backdrop, there are reasons why a creditor in a Chapter 11 case whose claim is scheduled may want to file a proof of claim even though it may not be required to do so. For example, the debtor may have scheduled the claim for less than the actual amount of the claim or the creditor does not want to spend a lot of time monitoring the bankruptcy case, but is warry of the fact that the debtor may later amend its schedules to either reduce the amount of the claim or characterize the claim as disputed, contingent or unliquidated – thereby necessitating the filing of a proof of claim. Moreover, filing a proof of claim serves as prima facie evidence of the validity and amount of the claim, which may later prove useful in a bankruptcy court proceeding that may impact the claim or require a showing of the validity or amount of the claim. See Bankruptcy Rule 3001(f). In contrast, a creditor that is worried about later being sued in the bankruptcy case may abstain from filing a proof of claim (particularly if the claim is relatively small) even if it is required to file a claim – the case is a Chapter 7 case or in a Chapter 11 case where the creditor’s claim is marked as disputed, contingent or unliquidated – because under Supreme Court’s authority, the filing of a proof of claim may result in the creditor losing its right to a jury trial in the context of an avoidance action. See Granfinanciera v. Nordberg, 492 U.S. 33, 58 (1989) (“We read Schoenthal and Katchen as holding that, under the Seventh Amendment, a creditor’s right to a jury trial on a bankruptcy trustee’s preference claim depends upon whether the creditor has submitted a claim against the estate, not upon Congress’ precise definition of the ‘bankruptcy estate’ or upon whether Congress chanced to deny jury trials to creditors who have not filed claims and who are sued by a trustee to recover an alleged preference.”) (emphasis added).
Factual Background in Cyber Litigation
In the Cyber Litigation case, the debtor operated a business that detected and prevented online fraud, but was forced to file Chapter 11 during the global pandemic when its business collapsed in the wake of allegations of the debtor’s own fraud. Cyber Litigation at *2. Hansen Networks Solutions & Services, LLC (“Hansen Networks”), whose principal, Mr. Hansen, was a co-founder and former employee of the debtor, provided the debtor with technology support services, and was the debtor’s largest unsecured creditor, holding a claim of just under $300,000. Id. The debtor scheduled Hansen Networks’ claim in the correct amount, but identified the claim in its schedules as contingent, unliquidated, and disputed. Id.
In early December of 2020, the bankruptcy court entered an order establishing February 12, 2021, as the bar date for filing proof of claims in the case. Id. Pursuant to the court’s order, the debtor’s claims and noticing agent mailed notice of the bar date to the debtor’s creditors, including service to Hansen Networks at an address in Las Vegas, to Mr. Hansen at an address located in Puerto Rico, and also to email addresses for both Hansen Networks and Mr. Hansen. Id.
After the bar date passed, counsel for Hansen Networks reached out to the debtor’s counsel to allege that Hansen Networks had not received notice of the bar date, and the parties ultimately entered into a stipulation where they agreed that the mail and email addresses that the debtor utilized for Hansen Networks were inaccurate, and that the debtor would not seek disallowance of any proof of claim filed by Hansen Networks on that basis, but the debtor reserved the right to argue that any proof of claim filed by Hansen Networks was untimely on any other grounds. Id. at *3.
Hansen subsequently filed a proof of claim, and the debtor objected to the claim on the basis that service by mail and email on Mr. Hansen was sufficient to bind Hansen Networks to the bar date. Id. At the hearing on the debtor’s claim objection, Mr. Hansen testified that at the time that the debtor’s claims and noticing agent served the bar date notice Mr. Hansen no longer lived at the Puerto Rico address used by the debtor, and that although he often used the email address that the bar date notice was delivered to, he had never seen the bar date notice in his email account. Id. at *4.
Holding of Cyber Litigation
The bankruptcy court first held that because the debtor’s claims and noticing agent had sent the bar date notice to an email address that Mr. Hansen (who the bankruptcy court determined to be a sophisticated party) actively used, the debtor had satisfied the minimum due process requirement established under applicable Supreme Court precedent as being “reasonably calculated to reach the intended recipient” – Mr. Hansen, and thus, Hanson Networks. Cyber Litigation at *5-6. In other words, for due process purposes, service on Mr. Hansen by email was imputed on Hansen Networks. (Interestingly, the bankruptcy court noted in dicta that its determination may have been different if the intended recipient was a 90-year old grandfather whose account had been set up by his granddaughter, and the intended recipient was not tech-savvy. Id. at *6.) The bankruptcy court then held that notwithstanding the fact that the debtor had satisfied the minimum due process requirements, the debtor had failed to comply with the Bankruptcy Rules since it had failed to “mail” the bar date notice to Hanson Networks, as required by Bankruptcy Rule 2002(a), utilizing one of the specific mailing addresses for an artificial entity required under Bankruptcy Rule 2002(g). Id. at *7. Finally, the bankruptcy court held that the debtor’s failure to comply with the applicable Bankruptcy Rules was not a harmless error because the record did not establish that Mr. Hansen, and thus Hansen Networks, had received actual notice of the bar date. Id. at *8. Accordingly, the bankruptcy court overruled the debtor’s objection to Hansen Networks’ proof of claim on the basis that the claim was untimely. Id.
From the debtor’s perspective, Cyber Litigation stands for the proposition that when attempting to limit the pool of creditors through the bankruptcy claims resolution process, a debtor and its professionals must be mindful of not only the minimum procedural due process requirements mandated by the Constitution, but must also analyze the more formalistic and exacting notice requirements imposed by the Bankruptcy Rules in order to ensure that creditors will be bound by the debtor’s actions and the orders of the bankruptcy court – including a bar date order. From the creditor’s perspective, Cyber Litigation may provide creditors with a loophole to avoid negative consequences of proof of claim bar date orders, and enable a creditor to file a proof of claim that appears to be untimely on its face in circumstances where the debtor and its professionals have failed to dot every “i” and cross every “t” when noticing the proof of claim deadlines. When addressing these and other issues related to bankruptcy claims, it is important to consult an experienced restructuring professional.