Ethical Conduct. Unable to pay more than $1.2 billion in debt, Big Rivers Electric Corp filed a petition to declare bankruptcy in a federal bankruptcy court in September 1996. Big Rivers' creditors included Bank of New York (BONY), Chase Manhattan Bank,

Question

Mapco Equities, and others. The court appointed J. Baxter Schilling to work as a "disinterested" (neutral) party with Big Rivers and the creditors to resolve their disputes and set an hourly fee as Schilling's compensation. Schilling told Chase, BONY, and Mapco that he wanted them to pay him an additional percentage fee based on the "success" he attained in finding "new value" to pay Big Rivers' debts. Without such a deal, he told them, he would not perform his mediation duties. Chase agreed; the others disputed the deal, but no one told the court. In October 1998, Schilling asked the court for nearly $4.5 million in compensation, including the hourly fees, which totaled about $531,000, and the percentage fees. Big Rivers and others asked the court to deny Schilling any fees on the basis that he had improperly negotiated "secret side agreements." How did Schilling violate his duties as a "disinterested" party? Should he be denied compensation? Why or why not?

Answer 1

Ethical conduct
The bankruptcy court held that Schilling was not entitled to any fees because he was not a "disinterested" party: "The moment that [Schilling] approached three of Big Rivers' largest * * * creditors and broached the subject of his compensation * * * he was no longer a disinterested party." The court also found that Schilling's failure to disclose the fee negotiations was a violation of the law, and ordered him to remit to Big Rivers the amount that he had already been paid. Schilling appealed to the U.S. Court of Appeals for the Sixth Circuit, which affirmed the bankruptcy court's order. The appellate court held that to be "disinterested" means a person in Schilling's position "may not have a material adverse interest to any party to the bankruptcy for any * * * reason. * * * An agreement with a single creditor that links * * * compensation to the creditor's recovery qualifies as such an interest because it creates the risk that [a person in Schilling's position] will favor one creditor at the expense of other creditors. * * * Opportunities abound, moreover, for [persons] paid in this manner to benefit selected creditor[s]" at the expense of others. "That Schilling reached the agreement * * * in secret only makes matters worse."