Seventh Circuit rules on authority to temporarily stay non-debtor litigation

James P. (Jim) WehnerMember, Caplin & Drysdale, Chartered

In In re Caesars Entertainment Operating Co v BOKF, NA(1) the US Court of Appeals for the Seventh
Circuit reviewed a bankruptcy court’s denial of a trustee’s motion for a temporary injunction staying
litigation between non-debtors.

Facts
The plaintiffs were banks that had loaned large sums to the debtor (CEOC) with the guaranty of its
parent (CEC). They sued CEC, which was not a bankruptcy debtor, to enforce the guaranties that it
had attempted to repudiate. However, CEC was also a defendant in the trustee’s suit seeking to
recover on behalf of the bankruptcy estate for fraudulent transfers carried out as part of an alleged
scheme by which the parent or guarantor had sold CEOC’s assets for less than their value and
terminated its guaranties.

In support of the requested injunction, the trustee alleged that the effort to restructure CEOC in
bankruptcy would depend on whether a substantial contribution could be extracted from CEC in an
eventual settlement of the fraudulent transfer claims. However, the trustee complained that the
banks’ claims against CEC threatened to deplete CEC’s resources and disable it from funding such a
contribution. Relying on Section 105(a) of the Bankruptcy Code, the trustee moved the bankruptcy
court to stay the banks’ suit until 60 days after a bankruptcy examiner had made an independent
assessment of the estate’s claims, providing guidance to the parties, it was hoped, for negotiating a
reorganisation plan. Section 105(a) has been described as an ‘all writs’ statute, empowering
bankruptcy courts to issue temporary injunctions that are “necessary or appropriate to carry out the
provisions” of the Bankruptcy Code.(2) The bankruptcy court construed Section 105(a) as
authorising it to enjoin third-party litigation only if the suit to be enjoined arose out of the “same
acts” of the non-debtor defendant that gave rise to disputes in the bankruptcy proceeding. Because
the bankruptcy claims arose out of CEC’s alleged fraudulent transfers, whereas the lender’s claims
were based on CEC’s purported repudiation of guaranties, the bankruptcy court denied the injunction
request as exceeding the bounds of Section 105(a). The district court affirmed.

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