The Chapter 11–Subchapter V bankruptcy filing of three entities connected with Alex Jones and his conspiracy–oriented website Infowars on the eve of a damages trial raises questions about the use of Chapter 11 as a means of effectuating settlement in tort litigation.
On April 18, three Alex Jones/Infowars–related entities—InfoW LLC, IWHealth LLC, and Prison Planet TV LLC—filed bankruptcy in the U.S. Bankruptcy Court for the Southern District of Texas (case is referred to herein as the InfoW case). Neither Alex Jones nor Free Speech Systems LLC (FSS), which operates the Infowars website, filed a bankruptcy case.
While this case will be newsworthy for other reasons, as a threshold matter, the bankruptcy court in this case will be scrutinizing the debtors’ use of Subchapter V, a streamlined version of Chapter 11 aimed at small business reorganization. Bankruptcy practitioners and litigators may want to pay attention to case developments, including today’s status conference, to see how the following questions are answered:
- What are the advantages of Subchapter V for tort defendants?
- Are the debtors in this case eligible for Subchapter V?
- If these debtors are allowed to remain in Subchapter V, what are the wider implications for bankruptcy as a forum for resolving tort litigation and for public trust in the system?
The Pending Lawsuits
Family members of children and educators killed in the 2012 Sandy Hook Elementary mass shooting, as well as others, have sued Alex Jones, FSS, and other companies affiliated with his Infowars website, including the above-named debtors, for defamation and other tort claims. The allegations focus on statements Jones made on the website that the Sandy Hook massacre was a hoax, encouraging his audience to investigate.
Courts in Texas and Connecticut—where the suits were filed—have entered default judgments against Jones and the other defendants. The damages trial in one of the Texas cases was set to begin on April 25. While the automatic stay, which, among other things, bars creditors from taking action to collect their claims against the debtors after a bankruptcy filing, would not have applied to non-debtor parties, the removal of that case to the Bankruptcy Court for the Western District of Texas created a delay so the trial could not go forward as planned.
In other litigation, a group of Sandy Hook plaintiffs filed suit against Jones and certain of his family members and affiliates asserting claims under the Texas Uniform Fraudulent Transfer Act, a law designed to allow creditors to void transfers by a debtor attempting to put assets out of reach.
The Bankruptcy Filing
The three entities that filed bankruptcy are no longer controlled by Alex Jones or his relatives or affiliates. The membership interests of these entities were transferred to a litigation settlement trust pre–petition, and an interim trustee is currently in place. Alex Jones and FSS are proposing to fund the litigation trust with an amount to be paid out over time.
In initial motions, which are still pending, the debtors are seeking to appoint two former bankruptcy judges—the Hon. Russell F. Nelms and the Hon. Richard S. Schmidt—to become trustees of the litigation trust. In another motion, the debtors seek appointment of W. Marc Schwartz as chief restructuring officer. The debtors sought to have these two motions approved on an emergency basis in a hearing on April 22.
The bankruptcy court decided to continue the hearing on both motions as it was apparent that the trust documents weren’t finalized and the proposed trustees hadn’t yet agreed to them.
During the hearing, Schwartz indicated that Jones and FSS desire a global settlement through this bankruptcy case that will cover them. To date, no Chapter 11 plan has been filed and none of the debtors have filed statements and schedules, which will provide more information concerning the assets as well as pre–petition transfers.
The plaintiffs’ attorneys and the U.S. Trustee, an arm of the Department of Justice, raised questions concerning the motives behind and propriety of the bankruptcy filing. The plaintiffs indicated at the hearing that they intended to file a motion to dismiss the case (which they later did) as well as a motion to lift the automatic stay (which has not yet been filed) to allow the state court litigation to proceed.
Also during the hearing, the bankruptcy judge noted that he wanted the parties to address the issue of whether these debtors are even eligible to be in Subchapter V. While this case may touch on a wide array of other legal issues, including Subchapter V as a tool for tort defendants, the debtors’ eligibility is a threshold issue.
Subchapter V as Strategy
Subchapter V is special type of Chapter 11 case designed to help small businesses reorganize, offering reduced costs and removal of certain legal and procedural hurdles that make confirmation of a traditional Chapter 11 plan a challenge.
Advantages to debtors who file Subchapter V cases include the following:
- There are generally no creditor committees, which are often powerful advocates for the interests of creditors and whose professional fees and expenses are funded by the debtor’s estate.
- The Bankruptcy Court appoints a Subchapter V trustee, who doesn’t take control of the debtor, but instead facilitates the plan process and negotiations with creditors.
- While the debtor must file a plan within 90 days, only the debtor can file a plan.
- There’s no disclosure statement or voting on the plan.
- Individual creditors must lodge objections if they don’t want the court to confirm the plan.
Another appealing aspect of Subchapter V to debtors is the elimination of what’s known as the absolute priority rule.
In a traditional Chapter 11 case, the claims of a dissenting class of creditors must be paid in full before any junior class of creditors or equity can receive or retain property. Typically, this means that if creditors receiving less than full recovery under a proposed plan object, the debtor can’t retain its shares in the company or any other property. Conversely, in Subchapter V, as long as the debtors can satisfy the other confirmation requirements, they can retain property even if objecting creditors aren’t paid in full.
While it may not have been Congress’ legislative intent for Subchapter V to serve in this way, the foregoing factors that help small businesses reorganize might also appeal to tort defendants by offering some structural advantages in bringing the other side to the settlement table, an appointed third party to assist in the settlement process, and the ability to retain assets and pay creditors over time.
However, filing Subchapter V isn’t without its risks.
If a plan isn’t confirmed and if the circumstances warrant it, the Subchapter V trustee could recommend that the court convert the case to Chapter 7 rather than simply dismiss the case. If conversion takes place, the debtors’ property would be liquidated and proceeds distributed to creditors by a Chapter 7 trustee.
Alternatively, the debtor could be removed from possession and the Subchapter V trustee would take over the businesses. Moreover, if it’s revealed that the debtors made substantial pre–petition transfers, it may make more sense for an independent Subchapter V trustee or Chapter 7 trustee to recover those.
The InfoW case isn’t a typical Subchapter V. Here, the tort defendants have built in two layers of fiduciaries (the litigation trustee(s) and the debtor–in–possession) between them and the plaintiffs. It remains to be seen whether this structure will ultimately assist a global resolution of the litigation or fall apart completely.
The status of the InfoW case as a Subchapter V case appears to be highly significant to Jones and FSS. The current version of the Plan Support Agreement, which, among other things, provides for the settlement funding, makes it a termination event if the cases are converted to any other kind of case, which would include traditional Chapter 11 or Chapter 7. Ultimately, it will be the debtors’ burden to establish their eligibility to be Subchapter V debtors.
The bankruptcy judge and the plaintiffs raised questions at the April 22 hearing concerning the debtors’ eligibility to be in Subchapter V, and the judge indicated that this would be a threshold issue. Eligibility for Subchapter V is limited to, among other things, “a person engaged in commercial or business activities.”
Schwartz’s declaration, attached to the motion to appoint him as chief restructuring officer for the debtors, stated that the debtors have no purpose other than to hold assets that may be used by other entities and they undertake no business activities, have no bank accounts or employees, and have no debt or liabilities other than the litigation claims.
At the hearing, in response to questions from the bankruptcy judge, Schwartz stated that after the bankruptcy filing, debtor IWHealth began to receive a royalty payment, which it wasn’t receiving before, so there might be more of an argument concerning that debtor than the others.
The debtors filed a bench memorandum April 25, arguing that courts have taken an expansive view of “engaged in commercial or business activities,” and that they’re eligible to be in Subchapter V.
The Connecticut plaintiffs and the Texas plaintiffs have separately filed motions to dismiss the case, alleging it was filed in bad faith. They also dispute the debtors’ claims concerning Subchapter V eligibility.
Today’s status conference may explore the Subchapter V issue, but an evaluation of the debtors’ good faith and dismissal will likely require further hearings.
Benefits of Bankruptcy Without the Bankruptcy?
While the InfoW bankruptcy case involves far fewer plaintiffs than a typical mass torts Chapter 11 case, some themes in recent mass torts–related bankruptcies resound here.
At the April 22 hearing, the debtors counsel cited the Boy Scouts and the Catholic diocese bankruptcy cases as appropriately handled by bankruptcy courts. Indeed, many bankruptcy practitioners and bankruptcy judges have touted the ability of bankruptcy proceedings to resolve complex mass tort litigation matters and produce global settlements.
But creditors, tort plaintiffs, bankruptcy scholars, and some members of Congress have criticized this development, asserting that the resolution of mass tort litigation is an inappropriate use of the Bankruptcy Code. Additionally, these critics complain that in some mass torts bankruptcy cases, nondebtors are obtaining the benefits of bankruptcy without actually filing bankruptcy, pointing to cases like Purdue Pharma (for extending the automatic stay to non-debtors and non–consensual, non–debtor releases) and LTL Management LLC (for the divisive merger/Texas Two Step procedure).
In this case, the plaintiffs assert that Alex Jones, FSS, and other non–bankrupt entities are trying to use the bankruptcy process to obtain a discharge without having to go the bankruptcy process themselves, with its attendant disclosure obligations and plan confirmation requirements.
It’s doubtful, however, that the debtors will be able to take advantage of some of the much–criticized tools used in some recent mass tort bankruptcies. Non–consensual, non–debtor releases (like those in Purdue Pharma) are not permitted in the Fifth Circuit, and there doesn’t appear to have been a divisive merger/Texas Two Step (as in LTL Management).
Despite some of the strategic advantages of Subchapter V and the layers of fiduciaries this case puts between Jones and the plaintiffs, a successful global settlement through this case is highly unlikely.
Even if the InfoW debtors aren’t successful in obtaining a global settlement, this case may still bring fresh scrutiny to the uses and potential abuses of Subchapter V.
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