NORWEST BANK WORTHINGTON AND FEDERAL LAND BANK OF ST. PAUL, PETITIONERS V. JAMES R. AHLERS AND MARY M. AHLERS No. 86-958 In the Supreme Court of the United States October Term, 1986 On Petition for a Writ of Certiorari to the United States Court of Appeals for the Eighth Circuit Brief for the United States as Amicus Curiae This brief is submitted in response to the Court's invitation to the Solicitor General to express the views of the United States. TABLE OF CONTENTS Questions presented Statement Discussion Conclusion QUESTIONS PRESENTED 1. Whether an undersecured creditor's entitlement to "adequate protection," during reorganization proceedings, against declines in the value of its interest in the debtor's property, and against the "opportunity cost" of not being able to reinvest the value of that interest, begins immediately on filing of its claim or on the later date when, under state law, the creditor could have received the proceeds of a foreclosure sale of the property. 2. Whether the rule allowing a debtor in reorganization to overcome the absolute priority of creditors by contributing needed fresh capital may be satisfied by treating an individual debtor's "labor, experience, and expertise" as the equivalent of fresh capital. 3. Whether 28 U.S.C. 46(c) requires a court of appeals to grant rehearing en banc when five judges vote in favor of rehearing en banc, four vote against, and one is recused. STATEMENT 1. This case arises from the bankruptcy petition of respondents James and Mary Ahlers. Respondents farm land in Nobles County, Minnesota. Between 1965 and 1982 they obtained four loans from petitioner Federal Land Bank of St. Paul (FLB) and secured each of those loans with a separate parcel of land that they owned (Pet. App. A3). Between 1982 and 1984, respondents obtained additional loans from petitioner Norwest Bank Worthington (Norwest). The security for those loans was a second mortgage on the parcels already securing FLB's loans and a first mortgage on respondents' farm machinery, farm equipment, crops, livestock, and other farm proceeds. Id. at A4. Respondents defaulted on their loans. Norwest, exercising its rights as a secured creditor, filed a replevin action in Minnesota state court seeking possession of respondents' farm equipment and machinery (Pet. App. A4). Two weeks later, respondents filed a petition for reorganization under Chapter 11 of the Bankruptcy Code, 11 U.S.C. (& Supp. III) 1101 et seq. (Pet. App. A4-A5). This petition automatically stayed Norwest's collection efforts in state court (11 U.S.C. (& Supp. III) 362(a)). 2. a. Petitioners filed motions in bankruptcy court for relief from the automatic stay, see 11 U.S.C. (& Supp. III) 362(d), asserting that respondents could not provide them adequate protection. The bankruptcy court granted both motions. FLB had requested relief from the stay in order to foreclose on two of the four parcels that secured respondents' outstanding loans. The loans that those two parcels secured were in default, and FLB claimed that the value of those parcels was significantly less than respondents' outstanding obligations. The bankruptcy court, after hearing conflicting testimony on the value of this land, concluded that the current value of those two parcels did not approach the outstanding balances on the loans that they secured. The court held that in these circumstances FLB was entitled to either adequate protection against the "opportunity cost" of not being able to foreclose its mortgage and reinvest the proceeds or, in the absence of such protection, relief from the stay so that those state-law rights could be pursued. Pet. App. A62-A63. Because respondents had not suggested any means for providing adequate protection, the court concluded that only periodic payments of interest would maintain the value of FLB's interest in its collateral (id. at A63). Respondents admitted that they could not make such payments, and the bankruptcy court accordingly granted FLB relief from the stay (id. at A63-A64). The bankruptcy court also granted Norwest's motion for relief from the automatic stay. Although the value of the collateral securing Norwest's claims had exceeded the amount of those claims when the bankruptcy petition was filed, the court determined that the value of the collateral had since decreased so that it was now less than Norwest's claims (Pet. App. A65-A66). Thus, like FLB, Norwest was undersecured and entitled to adequate protection. Respondents had offered Norwest a lien on their anticipated 1985 crops, but the court held that such a lien could not provide adequate protection (id. at A66 n.9). Thus, as with FLB, Norwest could be provided adequate protection only through periodic payments, which respondents admitted they could not provide. Accordingly, the bankruptcy court granted Norwest's motion to lift the automatic stay. Respondents appealed this decision to the district court. b. The district court denied respondents' motion to stay petitioners' collection efforts pending its resolution of the appeal but agreed to enjoin petitioners from initiating any foreclosure proceedings pending appeal of the denial of the stay motion to the court of appeals. The court of appeals issued a stay and remanded the case to the district court for adjudication of respondents' appeal (Pet. App. A75-A77). In so doing, the court noted that respondents' 1985 crops were not subject to any liens and that those crops "have a value sufficient to reasonably insure that neither creditor will be further harmed if foreclosure and repossession proceedings are stayed" (id. at A76). The court gave petitioners a lien on those crops, stayed any further collection efforts, ordered respondents to provide Norwest with assurances that all farm machinery and equipment was fully insured, and requested that the district court determine the merits of the case, including the probability of success of respondents' proposed plan of reorganization (id. at A76-A77). c. The district court affirmed the bankruptcy court's order granting petitioners relief from the automatic stay. The court upheld, as not clearly erroneous, the bankruptcy court's finding that FLB was undersecured on the two parcels of land on which it sought foreclosure. Because repondents had not offered any means of providing FLB with adequate protection, the court agreed with the bankruptcy court that FLB was entitled to relief from the stay. Pet. App. A84-A85. The court also affirmed the bankruptcy court's findings that Norwest was under-secured and that the existing crops could not provide Norwest with adequate protection, as well as the bankruptcy court's order lifting the automatic stay (id. at A85-A86). Pursuant to the instructions of the court of appeals, the district court then evaluated the likelihood of success of respondents' proposed plan of reorganization. The court found that no such likelihood existed. Three facts doomed any chance that respondents would have of successfully reorganizing: respondents had an asset-to-liability ratio of .67 to 1, they had "failed to establish their ability to operate profitably in the future," and American farmers in general face oppressive economic conditions that are unlikely to improve soon. Pet. App. A87. 3. a. The court of appeals reversed the bankruptcy court's order granting petitioners relief from the automatic stay. The court stated that the purpose of adequate protection is, "as nearly as possible under the circumstances of the case, (to) provide the (secured) creditor with its bargained-for rights" (Pet. App. A7). The court held that this compensation can include payment for the lost opportunity to reinvest the proceeds of a foreclosure sale, and it refused to overturn the bankruptcy court's determination that such payments were appropriate in this case (id. at A9). The court of appeals held, however, that the lower courts had erred in determining the time as of which adequate protection should begin. The court of appeals held that adequate protection payments should begin only after the time when a secured creditor would have realized the proceeds of foreclosing on the collateral if the debtor had not filed a bankruptcy petition. The court reasoned that those payments are compensation for abridgment of the secured creditor's bargained-for right to foreclose on the collateral in the event of default, liquidate the collateral, and reinvest the proceeds (id. at A9-A10). Thus, the court found it necessary to determine "the date when the creditor, absent the filing of a bankruptcy petition, could have taken possession of the collateral under state law and could have sold it to a third party, the amount that the creditor would have realized at this sale, and the creditor's expected return upon reinvestment" (id. at A10). Applying these principles, the court determined that neither petitioner was immediately entitled to payments on its security interests in respondents' farmland. The court based this holding on the provisions of Minnesota foreclosure law. Under this law, a notice must be published six weeks before a forced foreclosure sale of farmland (Pet. App. A11). State law also allows the mortgagor a 12-month redemption period following a foreclosure sale, during which he is entitled to possession, rents, and profits of the land (ibid.). This redemption period, the court reasoned, would make it "extremely unlikely that a third party would purchase the property at the foreclosure sale" (ibid.). Thus, were petitioners to exercise their state-law right to foreclose, the probable outcome would be that petitioners would purchase the property at the foreclosure sale and, after the 12-month redemption period had expired, sell the property to a third party (id. at A12). Under this scenario, petitioners would not receive (and could not reinvest) any proceeds from respondents' farmland until one year and six weeks after they began the foreclosure proceedings. The court therefore ruled that adequate protection payments for petitioners' security interests in respondents' farmland should not begin until 13 1/2 months after respondents filed for bankruptcy (ibid.). The court concluded, on the other hand, that Norwest was entitled to immediate adequate protection payments for its interest in respondents' personal property. Again the court turned to state law. Minnesota law allows creditors such as Norwest to take possession of personal property promptly after default unless the debtors were dependent on such property for their living. To the extent that the debtor is dependent on particular personal property, he can retain it only if he insures it and makes periodic payments to the creditor (Pet. App. A12). In other words, in the absence of a bankruptcy proceeding, Norwest could have immediately obtained either its collateral or periodic payments. In these circumstances, the court held that adequate protection payments for this property should begin as soon as Norwest applied for such payments. The court held that Norwest was also entitled to immediate adequate protection payments for its interest in respondents' stored grain and livestock because such assets could be liquidated quickly (ibid.). /1/ b. The court then addressed petitioners' argument that the automatic stay must be lifted because of the district court's finding that respondents' proposed reorganization was not feasible. Section 362(d)(2) of the Bankruptcy Code, 11 U.S.C. (& Supp. III) 362(d)(2), requires a court to lift the automatic stay if the debtor has no equity in the property on which the creditor seeks to foreclose and the property is not necessary to an effective reorganization. All agreed that respondents have no equity in their property, and petitioners argued that, because respondents have no likelihood of an effective reorganization, it follows that none of their property could be necessary to a reorganization. The court agreed that, if a reorganization was not feasible, the stay should be lifted (Pet. App. A15). The court, however, reversed the district court's finding that there was not a reasonable likelihood of a successful reorganization. The court concluded that the district court erred in using, for this purpose, the valuation determinations that the bankruptcy court had made in ruling on the adequate protection issue. Rather, the court held that the valuation had to be based on the likely value of the property at the time that the plan would be confirmed (id. at A16). The court, in dictum, opined that respondents could indeed propose a feasible reorganization plan (id. at A17-A19, A37-A49). The court next rejected petitioners' contention that their legitimate objections to the plan would preclude any successful reorganization. Petitioners argued that, because their claims were drastically undersecured, any plan of reorganization would have to treat them as unsecured creditors for this portion of their claims (see 11 U.S.C. 506(a)). Further, they said, the plan proposed by respondents did not provide for full payment of those unsecured claims, yet it allowed respondents to retain an interest in the farm. Thus, petitioners argued that the plan did not satisfy the absolute priority rule embodied in 11 U.S.C. (& Supp. III) 1129(b) and could not be confirmed over their objections. /2/ The court, however, disagreed with petitioners' interpretation of Section 1129. It interpreted that section as applying a "modified version of the traditional absolute priority rule" (Pet. App. A22), under which respondents' plan could be affirmed over petitioners' objections so long as respondents retain an interest that does not exceed the future value of their "labor, experience, and expertise" (id. at A26). The court relied on this Court's decision in Case v. Los Angeles Lumber Products Co., 308 U.S. 106 (1939), which it read as allowing a debtor to participate in a reorganization so long as he "contributes to the reorganization enterprise something that is reasonably compensatory and is measurable" (Pet. App. A24). The court then reasoned that respondents' promise of future labor met this requirement, and respondents could retain an equity interest in the property equal to the value of their labors. c. Judge Gibson dissented. He took issue with the majority's rejection of the district court's findings that petitioners were entitled to adequate protection payments beginning immediately. He argued that the appellate court could only review such determinations under the clearly erroneous standard and concluded that the record adequately supported the district court's findings. Pet. App. A28-A30. Judge Gibson also faulted the majority's interpretation of Los Angeles Lumber. He read that opinion as allowing debtor participation in a reorganization only when the debtor contributes cash or contributions "distinctly capital in nature" (Pet. App. A34). Judge Gibson argued that, because respondents' labor clearly did not fall within this narrow exception to the absolute priority rule, the plan could not be confirmed (id. at A34-A35). 4. Of the 10 judges in regular active service on the court of appeals, five voted in favor of rehearing en banc, four voted against, and one rescued himself (Pet. App. A51-A58). Because the five votes did not constitute a majority of the 10 active judges, rehearing en banc was denied. See 28 U.S.C. 46(c); Fed. R. App. P. 35(a); 8th Cir. R. 16(a). Four of the five judges who voted for rehearing en banc joined an opinion that labeled the cour's ruling on the absolute priority issue "directly contrary to * * * Los Angeles Lumber," noted that, "in some future case, there may be sufficient votes to enable this court to revisit the issue," and expressed the hope that this Court would grant certiorari (Pet. App. A54-A55). The other dissenting judge expressed tentative agreement with the panel dissent (id. at A54). DISCUSSION The petition in this case raises three issues. One of those issues is insubstantial, /3/ but the other two, the "adequate protection" and "absolute priority" issues, touch on important matters that may well deserve this Court's review in an appropriate case. There is disagreement among the courts of appeals about what constitutes "adequate protection," with one court of appeals maintaining that the debtor need only protect the value of the secured creditor's collateral, two holding that truly adequate protection must also include compensation for the lost opportunity of realizing a return on the proceeds that would have been generated at a foreclosure sale, and the court below leaving the issue to case-by-case resolution. The proper scope of the absolute priority rule, on the other hand, has generated little debate over the years, since the governing rules were clearly set out in Case v. Los Angeles Lumber Products Co., supra -- from which the court below took a marked departure. If the approach to absolute priority taken by the court of appeals in this case were to proliferate, the debtor-creditor relationship would be fundamentally and unjustifiably altered. On this issue, the Court may wish to consider summary reversal. We nevertheless believe that, if the Court is not disposed to reverse summarily, it should deny certiorari. As to adequate protection, the important "opportunity cost" issue is not actually presented by the petition, as the resolution below was favorable to petitioners. What was determined unfavorably to petitioners was the timing of adequate protection payments. Although we believe that the court of appeals inadequately analyzed this issue, the timing issue is not the subject of any conflict among the courts of appeals and does not warrant review before further development of the matter in the lower courts. As to the radical departure by the court of appeals from settled principles of absolute priority, we regard the decision below as an aberration that is unlikely to be followed elsewhere and may not even survive for long in the Eighth Circuit. Moreover, Congress has substantially amended the Bankruptcy Code's provisions to offer relief to family farmers. The impact of the decision below is therefore uncertain. 1. Section 362(d)(1) of the Bankruptcy Code, 11 U.S.C. (& Supp. III) 362(d)(1), entitles a party with an interest in property of the debtor to relief from the automatic stay if the debtor does not provide him with "adequate protection." Section 361 defines how such protection may be given: through periodic payments that reimburse the creditor for decrease in the value of his interest in the collateral caused by, among other things, the automatic stay (11 U.S.C. (Supp. III) 361(1)), by granting the creditor additional liens to compensate him for this decrease (11 U.S.C. 361(2)), or by "granting such other relief * * * as will result in the realization (by the creditor) of the indubitable equivalent of (the creditor's) interest in such property" (11 U.S.C. 361(3)). Courts have split over the meaning of this definition of "adequate protection." All courts agree that, in order to prevent the automatic stay from being lifted, a debtor must protect an undersecured creditor from any decrease over time in the value of the collateral. See, e.g., In re Timbers of Inwood Forest Associates, 808 F.2d 363 (5th Cir. 1987) (en banc), reinstating 793 F.2d 1380 (1986), petition for cert. pending, No. 86-1602; Grundy National Bank v. Tandem Mining Corp., 754 F.2d 1436 (4th Cir. 1985); In re American Mariner Industries, 734 F.2d 426 (9th Cir. 1984). They disagree, however, about whether "adequate protection" also requires the debtor to compensate the creditor for the lost opportunity to earn a return by selling the collateral and investing the proceeds. Two courts of appeals, ruling in favor of such compensation, stress that the purpose of adequate protection is to give the secured creditor the "benefit of his bargain" by placing him in the same financial position he would have been in but for the bankruptcy petition. See Grundy National Bank v. Tandem Mining Corp., supra; In re American Mariner Industries, supra. /4/ Another court of appeals, opposed to this compensation, relies on the congressional desire to facilitate reorganizations. See In re Timbers of Inwood Forest Associates, supra; see also In re South Village, Inc., 25 Bankr. 987 (Bankr. D. Utah 1982). /5/ The Eighth Circuit has taken a middle road, holding that the appropriateness of lost opportunity costs should be determined on a case-by-case basis. In re Briggs Transp. Co., 780 F.2d 1339 (1985). /6/ The petition, although it discusses this issue and describes the circuit conflict, does not present this question. The court of appeals upheld the bankruptcy court's ruling that petitioners should receive compensation for opportunity cost. Petitioners, who benefit from that holding, are obviously in no position to challenge it. Respondents have chosen not to challenge it (see Br. in Opp. 12), have not cross-petitioned, and have not asked for the more favorable rule of In re Timbers. The issue that petitioners legitimately place before the Court concerns the timing of adequate protection payments. The court of appeals said that the purpose of adequate protection payments is to ensure that the secured creditor is left in the same position as he would have been in outside of bankruptcy. The court then looked to Minnesota law and delayed the start of adequate protection payments until the date on which petitioners could have realized the proceeds of sale of the secured property through foreclosure proceedings under state law. The matter is more complex than the opinion of the court of appeals would suggest. In instances in which the Chapter 11 proceedings do ultimately lead to successful reorganization, the delay in providing adequate protection does parallel the delay imposed by state law before a creditor may enjoy the use of the property; even in those instances, there is nevertheless a question whether federal law should be interpreted to parallel state law in this respect. /7/ In instances in which the automatic stay is eventually lifted or the reorganization effort ultimately fails and the creditor must then proceed under state law, however, the problem is different: a creditor who has already suffered a "foreclosure delay" before obtaining adequate protection in reorganization may suffer another delay of equal duration before he obtains foreclosure proceeds. See In re Roberts, 63 Bankr. 372, 381 (Bankr. E.D. Mich. 1986) (expressly rejecting reasoning of decision below for this reason); see also In re Blackford Farms, Inc., 68 Bankr. 639, 642 (Bankr. N.D. Iowa 1986) (recognizing this problem); In re Mazama Timber Products, Inc., 63 Bankr. 280, 287-288 (Bankr. D. Or. 1986) (requiring immediate adequate protection payments but attempting to discern value of property after anticipated 20-month foreclosure delay); In re Independence Village, Inc., 52 Bankr. 715, 730-731 (Bankr. E.D. Mich. 1985); In re Bear Creek Ministorage, Inc., 49 Bankr. 454, 458 n.9 (Bankr. S.D. Tex. 1985) (recognizing problem but imposing delay anyway), rev'd on other grounds sub nom. In re Timbers of Inwood Forest Associates, 793 F.2d 1380 (5th Cir. 1986) and 808 F.2d 363 (5th Cir. 1978) (en banc), petition for cert. pending, No. 86-1602. /8/ The analysis of the court of appeals fails to take account of this important complicating factor. Nevertheless, this issue does not, in our judgment, warrant review by this Court at this point. The courts of appeals have as yet devoted little attention to the impact of foreclosure delays on adequate protection. Though both subject to the same criticism as the decision below, the other two appellate decisions on point are consistent with the decision below. See Grundy, 754 F.2d at 1440-1441; American Mariner, 734 F.2d at 435 n.12. In addition, the particular state law that gives rise to the delay in this case, protecting farmers, is rendered less significant by federal legislation changing the Bankruptcy Code, as described below. /9/ Accordingly, we suggest that the Court defer consideration of this issue to allow further development in the lower courts. 2. Section 362(d)(2) of the Bankruptcy Code provides for lifting the automatic stay when the debtor has no equity in the property sought to be removed from the stay's protection and that property is not necessary for a successful reorganization. Courts have held that this second requirement is satisfied if the creditor seeking relief from the stay shows that, even with the property the creditor seeks, the debtor could not successfully reorganize. See, e.g., In re Albany Partners, Ltd., 749 F.2d 670, 673 n.7 (11th Cir. 1984); In re Craghead, 57 Bankr. 366, 370 (W.D. Mo. 1985). Here, it is undisputed that respondents have no equity in the collateral. Petitioners asserted that they would legitimately object to and block any proposed plan of reorganization and that therefore they should be relieved from the automatic stay. The Bankruptcy Code provides that a plan can be confirmed over a creditor's objection if the plan is "fair and equitable" to the objecting creditors (11 U.S.C. 1129(b)(1)). If the objecting group of creditors is unsecured, /10/ a plan is "fair and equitable" as to them only if they are paid in full (11 U.S.C. 1129(b)(2)(B)(i)) or if no junior interests participate in the reorganization (11 U.S.C. (Supp. III) (1129(b)(2)(B)(ii)). This requirement is the statutory embodiment of the absolute priority rule. /11/ Although the plan that respondents proposed did not meet either of the statutory tests, the court of appeals held that the plan could nevertheless be confirmed. The court read this Court's opinion in Case v. Los Angeles Lumber Products Co., supra, as allowing participation by a junior interest even if senior interests are not paid in full, so long as the junior interest "contributes to the reorganization enterprise something that is reasonably compensatory and is measurable" (Pet. App. A24). Respondents had promised to contribute their labor to any reorganized enterprise, and the court held that this promise allowed them to retain an equity interest in their farm up to the value of this promise. As the dissenting members of the court of appeals recognized, that interpretation of Los Angeles Lumber directly conflicts with this Court's opinion in that case. Los Angeles Lumber strongly reaffirmed the principle that "'creditors are entitled to priority over stockholders against all the property of an insolvent corporation'" (308 U.S. at 116 (quoting Kansas City Terminal R.R. v. Central Union Trust Co., 271 U.S. 445, 455 (1926)). The Court did hold that, at times, it will be "necess(ary to permit) the inclusion of stockholders on payment of contributions, even though the debtor company was insolvent" (308 U.S. at 117). But the Court made it clear that such participation is permissible only when it is necessary to preserve going-concern value and the interests of creditors are protected. The Court said such participation is permissible only if the old stockholders are the only available source of capital to keep the reorganized corporation operating (id. at 117, 121). Even then, the Court was concerned that "the creditor's rights (not) be easily diluted by inadequate contributions by stockholders" (id. at 122). Thus, the Court stated (ibid.): In view of these considerations we believe that to accord "the creditor his full right of priority against the corporate assets" where the debtor is insolvent, the stockholder's participation must be based on a contribution in money or in money's worth, reasonably equivalent in view of all the circumstances to the participation of the stockholder. /12/ The Court illustrated the narrowness of the exception by refusing to apply it to the facts of Los Angeles Lumber. The former shareholders argued that their participation in the new corporation was appropriate even though not all creditors were paid in full on the ground, among others, that they were contributing their financial standing in the business community. The Court held that such "intangibles" simply could not be used to overcome the absolute priority rule. "They have no place in the asset column of the balance sheet of the new company. They reflect merely vague hopes or possibilities." 308 U.S. at 122-123. Since Los Angeles Lumber, no other court of appeals has suggested that an equity holder can participate in the reorganization of an insolvent debtor without at least contributing new capital that is necessary to the reorganization of the insolvent enterprise. See, e.g., In re U.S. Truck Co., 800 F.2d 581, 588 (6th Cir. 1986) ("If (the debtor) were retaining an interest without contributing any capital, the plan would clearly violate the Code."); In re Potter Material Service, Inc., 781 F.2d 99, 101 (7th Cir. 1986) ("An equity-interest owner may retain an interest in the debtor corporation so long as the owner invests new capital into the corporation."); In re Muskegon Motor Specialties, 366 F.2d 522, 525 (6th Cir. 1966). Judge Friendly summed up the necessity that old shareholders contribute new capital before participating in a reorganized debtor: "(I)t is hard to see why (the unsecured creditors) should not reap the entire gain if the gamble succeeds, rather than allow the stockholders to have what is essentially a free ride." SEC v. Canandaigua Enterprises Corp., 339 F.2d 14, 21 (2d Cir. 1964). The interpretation of Los Angeles Lumber by the court of appeals departed from this common wisdom. The court sanctioned participation of junior interests so long as they contribute "something that is reasonably compensatory and is measurable" (Pet. App. A24). Thus, the court treated as an acceptable contribution not only capital with present value but the mere promise of future performance, so long as the promise has a determinate value. The court also eliminated the requirement that the contribution be necessary to a successful reorganization. /13/ Its holding and this Court's previous decisions are in irreconcilable conflict. If the law seems as clear to the Court as it seems to us, the Court may wish to consider summary reversal. If the Court views the matter otherwise, however, plenary review is unwarranted at this time. Bankruptcy law is in a state of flux. Congress, in response to needs of the family farmer, has recently amended the Bankruptcy Code by adding a special Chapter 12 to deal with the unique problems that confront such debtors. See Bankruptcy Judges, United States Trustees, and Family Farmer Bankruptcy Act of 1986 (1986 Act), Pub. L. No. 99-554, Section 255, 100 Stat. 3105-3114. Indeed, the new Chapter 12 appears to be more favorable to farmers than the court's opinion in this case. /14/ Under the new law, a farmer can retain the equity interest in his land even if unsecured creditors go unpaid so long as the plan provides that the debtor's disposable income for three years is used to make payments under the plan. 100 Stat. 3111 (to be codified at 11 U.S.C. 1225(b)). /15/ If, as Judge Gibson thought (Pet. App. A35-A36), the court ignored settled law in order to help the beleaguered farmer, /16/ it is quite possible, now that Congress has provided such help, that the judges who supported the decision below will reconsider their position. /17/ Further, the decision of the court of appeals is an aberration. The court clearly departed from settled law. The courts to consider the absolute priority rule after this decision have refused to follow the Eight Circuit's reasoning. Although the logic of the decision below extends to any labor-intensive business, one court has read the opinion as only applying to the farm context. See In re Wolf, 61 Bankr. 1010, 1012-1013 (Bankr. N.D. Iowa 1986). A second court has rejected its holding outright. See In re Stegall, supra. Moreover, we doubt that even the Eight Circuit will adhere to this decision in the long run. Five of the court's 10 judges are on record as regarding the issue as one deserving en banc consideration, and the sixth vote could well be forthcoming the next time the issue comes before the court. /18/ Thus, it is quite possible that the only impact of the decision below will be to emasculate the absolute priority rule for purposes of this case. If the Eight Circuit adheres to this decision in a future case, or another court of appeals follows it, there will be time then for this Court to review the matter. CONCLUSION The Court may wish to consider summary reversal on the absolute priority issue. Otherwise, the petition for a writ of certiorari should be denied. Respectfully submitted. CHARLES FRIED Solicitor General RICHARD K. WILLARD Assistant Attorney General LOUIS R. COHEN Deputy Solicitor General ROY T. ENGLERT, JR. Assistant to the Solicitor General ROBERT S. GREENSPAN ROBERT K. RASMUSSEN Attorneys MAY 1987 /1/ The court also held that the district court placed erroneous values on respondents' farmland for adequate protection purposes, even if it was not error for the district court to value the land as of the date the petition was filed instead of the date that the secured creditor could have sold it (Pet. App. A13). The court then ruled that, because they were farmers, respondents could make adequate protection payments when the crops are harvested rather than every month (id. at A14). Finally, the court overturned the district court's holding that 1985 crops could not provide adequate protection (ibid.). /2/ Section 1129(b) provides in pertinent part: (1) * * * the court * * * shall confirm the plan * * * if the plan does not discriminate unfairly, and is fair and equitable (to dissenting creditors). (2) For the purpose of this subsection, the condition that a plan be fair and equitable * * * includes the following requirements: * * * * * (B) With respect to a class of unsecured claims -- (i) the plan provides that each holder of a claim of such class receive or retain on account of such claim property of a value, as of the effective date of the plan, equal to the allowed amount of such claim; or (ii) the holder of any claim or interest that is junior to the claims of such class will not receive or retain under the plan on account of such junior claim or interest any property. /3/ Petitioners assert (Pet. 17-20) that 28 U.S.C. 46(c) required the court of appeals to grant rehearing en banc because five of nine nonrecused judges voted for such rehearing. This Court, however, determined in Shenker v. Baltimore & O.R.R., 374 U.S. 1, 4-5 (1963), that a court of appeals could deny rehearing en banc when four of sic participating judges voted for rehearing, with two abstentions. Petitioners attempt (Pet. 19) to distinguish Shenker because in this case Judge Magill did not abstain but recused himself, but Shenker's reasoning admits of no such distinction. The Shenker Court reiterated (374 U.S. at 4-5) the observations in Western Pacific R.R. Corp. v. Western Pacific R.R. Co., 345 U.S. 247, 250 (1953), that Section 46(c) is "not addressed to litigants (but) to the Court of Appeals" and is "a grant of power" but "goes no further." Given the "discretion" recognized in Shenker, 374 U.S. at 5, and this Court's reluctance to regulate "the internal administration of the Courts of Appeals" (ibid.), there is nothing inappropriate in the existence of different practices in the court below and in the Fourth Circuit (see Arnold v. Eastern Air Lines, 712 F.2d 899 (4th Cir.), cert. denied, 464 U.S. 1040 (1983); see also 4th Cir. R. 35(b)). /4/ Commentaries advocating this interpretation include Baird & Jackson, Corporate Reorganizations and the Treatment of Diverse Ownership Interests: A Comment on Adequate Protection of Secured Creditors in Bankruptcy, 51 U. Chi. L. Rev. 97, 115-116 (1984), and Comment, Compensation for Time Value as Part of Adequate Protection During the Automatic Stay in Bankruptcy, 50 U. Chi. L. Rev. 305 (1983). /5/ This position is advocated in Note, "Adequate Protection" and the Availability of Postpetition Interest to Undersecured Creditors in Bankruptcy, 100 Harv. L. Rev. 1106 (1987). /6/ For a similar position, see Nimmer, Secured Creditors and the Automatic Stay: Variable Bargain Models of Fairness, 68 Minn. L. Rev. 1, 18 (1983). /7/ Arguably, Congress intended -- at least with respect to diminution in value of the secured property, if not also with respect to the lost opportunity to reinvest sale proceeds -- that creditors receive adequate protection for the entire postpetition period, even though, had bankruptcy not intervened, there would have been delay and the possibility of loss before a foreclosure sale. Pet. 15-16; Am. Council of Life Ins. Br. 12-14; Am. Coll. of Real Estate Lawyers Br. 33-36. /8/ In some cases in which the reorganization fails, the debtor will then go into liquidation under Chapter 7 of the Bankruptcy Code, 11 U.S.C. (& Supp. III) 701 et seq. In such cases, the trustee may then have the power under 11 U.S.C. 725 to turn the property over to the secured creditor directly, pretermitting state foreclosure proceedings. /9/ We note, however, that the timing issue arises in contexts other than farm reorganization when either state law or market realities delay foreclosure on real estate. See, e.g., In re Bessey, 65 Bankr. 638, 644 (Bankr. S.D. Cal. 1986); In re Landsea Marketing, Inc., 53 Bankr. 436 (Bankr. C.D. Cal. 1985); In re Woodland Hills Village Development Corp., 54 Bankr. 77 (Bankr. D. Md. 1985); In re Independence Village, Inc., 52 Bankr. at 730-731; In re Bear Creek Ministorage, Inc., 49 Bankr. at 457-458 & n.9; In re South Village, Inc., 25 Bankr. at 996 n.14. /10/ To the extent that petitioners' claims exceeded the value of their collateral, they were entitled to be treated as unsecured creditors (11 U.S.C. 506(a)). /11/ The absolute priority rule has its origins in this Court's decision in Northern Pacific R.R. v. Boyd, 228 U.S. 482 (1913). There Boyd, an unsecured creditor, had been given no interest in a reorganized firm while the shareholders of the predecessor firm received an interest in it. This Court held that such action violated Boyd's rights. The shares of the new corporation were "a right of property out of which the creditors were entitled to be paid before the stockholders could retain it for any purpose whatever" (228 U.S. at 508). In other words, Boyd had an absolute right to be paid in full before any of the equity holders of the former enterprise were allowed to participate in the new one. /12/ The court of appeals sought to justify its interpretation by relying on the phrase "money's worth" in this passage. It is clear, however, that the full import of this passage is to limit owner equity participation to cases where the owner has infused the debtor with fresh capital, such as cash or bonds. /13/ The court of appeals also justified allowing respondents to participate in the reorganization on the grounds that they had "farm operation and management skills" (Pet. App. A24), that their participation would preserve the farm's going-concern value (id. at A24-A25), and that "(a)ny other view would deny to most farmers the opportuhity to take advantage of the reorganization provisions of the Bankruptcy Act" (id. at A25). The first two justifications were expressly disapproved by this Court in Los Angeles Lumber. See 308 U.S. at 123 n.16 (approving court of appeals decision not allowing participation based on supposed management skills); id. at 123 ("fact that (creditors) might fare worse as a result of a foreclosure and liquidation than they would by taking a debtor's plan (has) no relevant bearing on whether a proposed plan is 'fair and equitable'"). The third merely argues for abrogation of the absolute priority rule. /14/ This new provision, however, appears on its face not to apply to proceedings begun before the effective date of the Act (November 26, 1986). 1986 Act Section 302(a) and (c), 100 Stat. 3119. But see In re Big Dry Angus Ranch, Inc., 69 Bankr. 695 (Bankr. D. Mont. 1987) (allowing conversion of pending Chapter 11 case to Chapter 12); In re Erickson Partnership, 68 Bankr. 819 (Bankr. D.S.D. 1987) (same). /15/ The new law has other pro-farmer features. It specifically allows adequate protection only to offset decline in value of the collaterial. 100 Stat. 3107-3108 (to be codified at 11 U.S.C. 1205); see also In re Rennich, 70 Bankr. 69 (Bankr. D.S.D. 1987). It also dilutes the absolute priority rule as it applies to secured creditors. Compare 11 U.S.C. (Supp. III) 1129(b)(2)(A) with 100 Stat. 3111 (to be codified at 11 U.S.C. 1225(a)(5)). At least one court, however, has suggested that some of the pro-farmer features of Chapter 12, to the extent they are applied retrospectively, may work an unconstitutional taking without just compensation of the property of secured creditors. See In re Ray, 70 Bankr. 431 (Bankr. E.D. Mo. 1987). /16/ See also In re Stegall, 64 Bankr. 296, 300 (Bankr. C.D. Ill. 1986) ("We understand the motivation behind the majority opinion in Ahlers. * * * Nevertheless, the solution (to farmers' plight) proposed by the Ahlers majority is contrary to the Bankruptcy Code and a long line of case law."). /17/ If the decision below were to be adhered to and followed, however, it could not logically be limited to the farm bankruptcy context. Virtually any debtor in reorganization could claim that his labor, experience, and expertise constitute "money's worth" entitling him to avoid the absolute priority rule, and the rule would be emasculated in farm and nonfarm contexts alike. /18/ Indeed, petitioners recognize that, "(i)n most situations, this Court might reasonably conclude to allow the Court of Appeals majority to overrule this minority decision in due course" (Pet. 18).