Opposition Brief — U.S. Bank National Ass'n v. HSBC Bank USA, 125 S. Ct. 318 (2004) (No. 04-172)

7

o

No. 04-172

Jn The

Supreme Court of the Gnited States

*

U.S. BANK NATIONAL ASSOCIATION, CHASE

MANHATTAN BANK, USA, NATIONAL

ASSOCIATION, as Indenture Trustees, and

DR. BEN S. BRANCH, Chapter 7 Bankruptcy Trustee,

Petitioners,

V.

HSBC BANK USA and JPMORGAN

CHASE BANK, as Indenture Trustees,

Respondents.

,

Vv

On Petition For A Writ Of Certiorari

To The United States Court Of Appeals

For The First Circuit

¢

BRIEF IN OPPOSITION TO PETITION

FOR A WRIT OF CERTIORARI

>

SARAH L. REID CHARLES J. COOPER

KELLEY DRYE & WARREN LLP Counsel of Record

101 Park Avenue MICHAEL W. KIRK

New York, NY 10178 THOMAS B. COTTON

(212) 808-7800 COOPER & KIRK, PLLC

: meee 1500 K Street, N.W.

DAVID S. ROSNER Suite 200

DANIEL ZINMAN

KASOWITZ, BENSON, TORRES

& FRIEDMAN, LLP

1633 Broadway

New York, NY 10019

(212) 506-1700

DOUGLAS B. ROSNER

GOULSTON & STORRS, P.C.

400 Atlantic Avenue

Boston, MA 02110

(617) 482-1776

Washington, D.C. 20005

(202) 220-9600

COCKLE LAW BRIEF PRINTING CO (800) 225-6964

OR CALL COLLECT (402) 342-2831

QUESTIONS PRESENTED

1. Section 510(a) of the Bankruptcy Code directs the

bankruptcy court to enforce subordination agreements

under “applicable nonbankruptcy law.” Before the Code’s

enactment in 1978, some federal courts had crafted an

equitable bankruptcy rule by which they awarded post-

petition interest to a senior creditor only if the subordina-

tion agreement expressly allowed such interest. Did this

equitable bankruptcy rule survive the Code’s command to

apply “nonbankruptcy law” to subordination agreements?

2. New York adopted a bankruptcy-only rule govern-

ing payment of post-petition interest under subordination

agreements. Did the First Circuit err by holding that this

bankruptcy-only rule is not “nonbankruptcy law” under

Section 510(a) of the Bankruptcy Code?

ii

RULE 29.6 STATEMENT

Respondent HSBC Bank USA, N.A. is wholly owned

by HSBC Holdings plc, a publicly-owned company. Re-

spondent JPMorgan Chase Bank is wholly owned by J.P.

Morgan Chase & Co., a publicly-owned company.

ili

TABLE OF CONTENTS

Page

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STATEMENT OF THE CASE ...............ccccccccccsccccceess 1

REASONS FOR DENYING THE WRIT.................... 7

iv

TABLE OF AUTHORITIES

CASES

American Constr. Co. v. Jacksonville, Tampa & Key

West Ry. Co., 148 U.S. 372 (1893)..................crssessccseeseeeee 19

Brotherhood of Locomotive Firemen & Enginemen

v. Bangor & Aroostock R.R. Co., 389 U.S. 327

EID ca nesessencacashequionsanisacainastnaisainiaeesabannatiiebamnaniiinnts 19

Chemical Bank v. First Trust of N.Y. (In re South-

east Banking Corp.), 156 F.3d 1114 (11th Cir.

IID siccdiecisthcciecsibei an owelssinaniatceuigiaidaanmcenamiiapinciadingikanian 3, 4, 8,9

Chemical Bank v. First Trust of N.Y. (In re South-

east Banking Corp.), 93 N.Y.2d 178, 710 N.E.2d

LOGS, GES IN. FB SBE CIGD) a vsssccnccssiccsssccssnevecsseenss 4,15

Chemical Bank v. First Trust of N.Y. (In re South-

east Banking Corp.), 179 F.3d 1307 (11th Cir.

RI oshictrnksehccuhabcacdctctsninea dnchin a caldiacle aeaaenleaaionaniainnaiieaes 4

Dewsnup v. Timm, 502 U.S. 410 (1992)... eee 12

First Fid. Bank, N.A. v. Midlantic Natl Bank (In re

Ionosphere Clubs, Inc.), 134 B.R. 528 (Bankr.

tee ROUTED auntie cticdinsnanccaisaadinomansghoxeiimnaconaseeen 14,17

Hamilton-Brown Shoe Co. v. Wolf Bros. & Co., 240

ee I SU iecsdd ihicehhiealcntiecintesackaeebaeicacdeansevrpieccaneidciadibees 19

Hartford Underwriters Ins. Co. v. Union Planters

Bank, N.A.., S30 U.S. 1 (QOOO) .....ccccscccccssssssssessenseess 12, 13

In re Credit Indus. Corp., 366 F.2d 402 (2d Cir.

ED cecsicsaie csscsadi-cnlneaiarccantaaaeaheencteea anima ancas ties bas akankines 2

In re Time Sales Fin. Corp., 491 F.2d 841 (3d Cir.

EY sips seichnid as ssapcebcneeesiatdalnei bihasdacis cia cakialaladhdlbvssidabaacinanenia 2,3

TABLE OF AUTHORITIES - Continued

Page

McElroy v. United States, 455 U.S. 642 (1982).............00. 11

Midlantic Natl Bank v. New Jersey Dep't of Envtl.

Pg Se es FI Ce wan svnsessccitnensseccnvsartsxions 10, 11, 12

Norwest Bank Worthington v. Ahlers, 485 U.S. 197

SID TIT sinh cicscblsxinsipiedlsleasis testes Nabscaadbbatedacaalasotae daub ulediiedaaee tides 8

Patterson v. Shumate, 504 U.S. 753 (1992) ............c0cee 9,15

Pennsylvania Dep't of Pub. Welfare v. Davenport,

Se Sr We EIN badttnishchicctsantientenidhcktinmemmsbiaibeatetabiec 12

United States v. Ron Pair Enters., Inc., 489 U.S.

SE IE sack bcisdninpntaictinicnidhighinienitcinisnnsdeeie 10, 11, 12, 13

Virginia Military Inst. v. United States, 508 U:S.

NE CNT sanannrvinnarctncacecibdeteledbiebinausan anand teats 19

Volt Info. Scis., Inc. v. Board of Trs., 489 U.S. 468

SN ckisicconunineiarcdcjethaenticasticbataphanenanxniesiauaiialacaial tie 9

OTHER

Se We BP iinhesia retin cnategieuieneatl passim

Ee te ED viikinciidasessenintetaginaouboaaadameaamannns 8

PA Sieh NE iinassiccacicctamsensucioa anaedcmrenemaaonee 8

Ri Nan ats Ae PN sicsista sinvinssnacieaeseasiigaaabaaiasemaumagtiesasamis 10

4 COLLIER ON BANKRUPTCY { 510.03[2] (15th rev. ed.

TUE vssenictiredniinetnshiccindeabasninedainaialenamiaale eames 13

4 COLLIER ON BANKRUPTCY J 510.03[3] (15th rev. ed.

SUITE cochcasebehens datecakssededsinckatodand she ieee 13

BRIEF IN OPPOSITION

Respondents HSBC Bank USA, N.A. and JPMorgan

Chase Bank respectfully submit that the petition should

be denied. Only two courts of appeals have addressed the

primary question of federal law presented here, and they

have both agreed that the plain language of the Bank-

ruptcy Code abrogated the pre-Code judge-made equitable

Rule of Explicitness governing payment of post-petition

interest under subordination agreements. The only dis-

agreement between the First and Eleventh Circuits

concerns which rule of New York contract law to apply, an

uncommon and unimportant question that was correctly

decided below. Moreover, the interpretive issue concerning

the proper reading of subordination provisions found to be

ambiguous may easily be avoided by clearer drafting. Finally,

the decision below is interlocutory; as a result, the dispute

between the parties in this case could well be obviated by the

fact-finding ordered by the First Circuit on remand.

¢

STATEMENT OF THE CASE

Petitioners’ statement omits and misstates informa-

tion concerning the factual and legal background of this

case.

1. A subordination agreement is a contract that

ranks the claims of creditors of a common debtor such that

a (junior) creditor subordinates his claim to the (senior)

creditor’s claim. Thus, the debtor must pay the senior

creditor in full before it pays the junior creditor anything.

Subordination agreements are enforceable in and out of

bankruptcy. Pet. 7a. The questions presented in this case —

both of which concern whether the senior creditors are

entitled to recover interest accruing after the bankruptcy

petition was filed prior to payment of the claims made by

junior creditors - arise only in the narrow circumstance

where the bankruptcy estate has sufficient assets to pay

all of the principal and pre-petition interest due to the

senior creditors, but insufficient assets to pay all principal

and interest due the junior creditors as well as post-

petition interest owed to the senior debt holders.

a. Before Congress enacted the Bankruptcy Code in

1978, the Bankruptcy Act of 1898 did not mention subor-

dination agreements. Pet. 7a. Accordingly, some bank-

ruptcy courts adopted judge-made equitable rules to

determine whether subordination agreements would be

enforced in bankruptcy. See, e.g., In re Time Sales Fin.

Corp., 491 F.2d 841, 844 & n.10 (3d Cir. 1974). In general,

these courts concluded that equity demanded enforcement

of such agreements because junior creditors, who freely

agreed to subordinate their claims, would receive a wind-

fall absent enforcement. See, e.g., In re Credit Indus.

Corp., 366 F.2d 402, 410 (2d Cir. 1966).

But these courts also worried that granting post-

petition interest to senior creditors might confer a windfall

upon them. Because interest generally does not accrue on

unsecured claims after the debtor files a bankruptcy

petition, a creditor may claim only principal and pre-

petition interest against the estate. See Pet. 8a-9a. If a

subordination agreement covered post-petition interest as

well, the senior creditor thus would receive (from the

junior creditor) more than its allowable claim against the

estate. To ensure that both creditors intended this result,

these courts crafted an equitable Rule of Explicitness to

govern claims for post-petition interest. Under this rule,

ne eee

3

which was an exception to the general rule against post-

petition interest, these courts interpreted subordination

agreements to cover post-petition interest only if an

agreement expressly allowed such interest. Pet. 9a; In re

Time Sales, 491 F.2d at 844. This Court, however, never

addressed the rule’s validity.

b. The enactment of the Bankruptcy Code in 1978

changed this regime. Unlike the Bankruptcy Act, the Code

expressly addressed the treatment of subordination

agreements in bankruptcy. Section 510(a) states that

subordination agreements are enforceable in bankruptcy

“to the same extent that such agreement is enforceable

under applicable nonbankruptcy law.” 11 U.S.C. § 510(a).

Thus, subordination agreements are now enforced in

accordance with the statute, not pursuant to judge-made

equitable rules.

Petitioners claim that, “[flor thirty years,” courts have

consistently recognized and applied the “federal common

law canon of contract interpretation known as the Rule of

Explicitness.” Pet. 2. To the contrary, before the decision

below, the question whether Section 510(a) abrogated the

ancillary equitable Rule of Explicitness has arisen in only

one other court of appeals decision in the quarter century

since the Code’s enactment. See Chemical Bank v. First

Trust of N.Y. (In re Southeast Banking Corp.), 156 F.3d

1114 (11th Cir. 1998). Like the First Circuit in this case,

the Eleventh Circuit held that the plain language of

Section 510(a) replaced the judge-made Rule of Explicit-

ness with “applicable nonbankruptcy law.” The court

reasoned that Section 510(a) “cut away the equitable

mantle under which the bankruptcy courts had fashioned

the Rule of Explicitness.” Jd. at 1122. Further, the court

explained that the bankruptcy court may exercise equitable

4

power only where authorized by the Code, and the Code

did not grant that power for enforcing subordination

agreements. Jd. at 1122-23. Thus, the court concluded that

the rule “can no longer survive as the progeny of the

bankruptcy courts’ equity powers or as a federal canon of

contract construction.” Jd. at 1124.

At the same time, the Eleventh Circuit recognized

that state law, as “applicable nonbankruptcy law,” might

have a similar interpretive rule, but it could not determine

whether New York, whose law governed the agreements,

had such a rule. Jd. The Eleventh Circuit therefore certi-

fied the following question to the New York Court of

Appeals: “What, if any, language does New York law

require in a subordination agreement to alert a junior

creditor to its assumption of the risk and burden of the

senior creditor’s post-petition interest?” Jd. at 1125. The

New York Court of Appeals answered: “In accordance with

the Rule of Explicitness, New York law would require

specific language in a subordination agreement to alert a

junior creditor to its assumption of the risk and burden of

allowing the payment of a senior creditor’s post-petition

interest demand.” Chemical Bank v. First Trust of N.Y. (In

re Southeast Banking Corp.), 93 N.Y.2d 178, 186, 710

N.E.2d 1083, 1088, 688 N.Y.S.2d 484, 489 (1999). The

Eleventh Circuit then held that the subordination agree-

ment at issue did not satisfy this rule and denied the

senior creditors’ claim for post-petition interest. Chernical

Bank v. First Trust of N.Y. (In re Southeast Banking

Corp.), 179 F.3d 1307, 1310 (11th Cir. 1999).

2. This case arises from Respondents’ right to pay-

ment, on behalf of senior debt holders, of post-petition

interest. While solvent, the Bank of New England N.A.

issued senior and junior debt. Pet. 3a-5a. Petitioners U.S.

5

Bank and Chase Manhattan Bank, USA, N.A. are inden-

ture trustees for the junior debt holders, while Respon-

dents are indenture trustees for the senior debt holders.

Pet. 4a.

After the Bank of New England filed its bankruptcy

petition in 1991, Petitioner Ben Branch, the bankruptcy

trustee, assumed control of its estate and made three

payments to creditors. Pet. 5a-6a. From these payments,

the senior creditors recovered their unpaid principal and

pre-petition interest, as well as all of their fees and ex-

penses. Pet. 5a-6a. Believing he had paid the senior

creditors in full, the trustee proposed to pay $11 million to

the junior creditors. Pet. 6a. Respondents objected to the

payment on the ground that the subordination agreement

entitled the senior creditors to payment of post-petition

interest prior to any distribution to the junior debt hold-

ers. Pet. 6a.

The bankruptcy court overruled Respondents’ objec-

tion and authorized the payment. Pet. 34a-4la. Because

the indentures have a New York choice-of-law clause, the

court held that the indentures do not satisfy the Rule of

Explicitness announced in the New York Court of Appeals’

Chemical Bank decision. Pet. 37a-4la. The district court

affirmed on essentially the same grounds. Pet. 22a-33a.

3. The First Circuit vacated and remanded. Pet. 1la-

21a. Like the Eleventh Circuit, the First Circuit concluded

that Section 510(a) abrogated the pre-Code equitable Rule

of Explicitness. Pet. 7a-10a. The court further agreed that

state law is the appropriate source of “applicable nonbank-

ruptcy law” in this situation, and thus looked to New York

law. Pet. 10a-1la.

6

The First Circuit, however, held that the New York

Court of Appeals’ Chemical Bank decision is not “applica-

ble nonbankruptcy law” under Section 510(a). Pet. 12a-

16a. The court reasoned that Chemical Bank announced “a

rule of construction applicable only in bankruptcy,” as “is

apparent from its use of the term ‘post-petition interest’ —

a term of art applicable only in bankruptcy.” Pet. 15a

(quoting Chemical Bank, 710 N.E.2d at 1088) (emphasis in

original). The court held that New York lacked the author-

ity to create this bankruptcy-only rule, for “section 510(a)

does not vest in the states any power to make bankruptcy-

specific rules: the statute’s clear directive for the use of

applicable nonbankruptcy law leaves no room for state

legislatures or state courts to create special rules pertain-

ing strictly and solely to bankruptcy matters.” Pet. 12a

(emphasis in original).

The court emphasized the limited scope of its holding:

it stands ready to enforce, under Section 510(a), any

“interpretive principle” that a state legislature or state

court “applies to subordination agreements generally,” so

long as it is not “a state rule that applies only in bank-

ruptcy.” Pet. 16a. This limitation necessarily arises from

the express command that subordination agreements be

enforced “to the same extent that such agreement(s are]

enforceable under applicable nonbankruptcy law.” 11

U.S.C. § 510(a) (emphasis added).

Accordingly, the First Circuit applied New York’s

general contract law, and found that the subordination

agreements in this case were ambiguous regarding the

availability of post-petition interest. Pet. 17a-20a. In

accordance with settled New York contract law, the court

held that “resolution of this ambiguity requires an inquiry

into the parties’ intent. That inquiry is fact-based and the

PE ee

bankruptcy court has not made the necessary findings.”

Pet. 3a. The court therefore remanded for further proceed-

ings. Pet. 3a.

+

REASONS FOR DENYING THE WRIT

1. The First Circuit and the Eleventh Circuit are

unified on the primary question presented: whether

Section 510(a) abrogated the pre-Code equitable Rule of

Explicitness. No other court of appeals has even addressed

the question, and the two that have done so have decided

it correctly. This question therefore does not warrant

further review.

a. Section 510(a) gave new statutory authority to the

bankruptcy court to enforce subordination agreements. As

Petitioners concede, bankruptcy courts enforced subordi-

nation agreements before 1978 under their general equi-

table powers. Pet. 16. Section 510(a), however, directed

bankruptcy courts to enforce these agreements only “to the

same extent” that they are “enforceable under applicable

nonbankruptcy law.”

This instruction revoked the bankruptcy court’s

equitable power to enforce subordination agreements and

replaced it with statutory authority to enforce such

agreements only to the extent they are enforceable under

“applicable nonbankruptcy law.” Pre-Code equitable rules

ancillary to the enforcement of subordination agreements

like the Rule of Explicitness have necessarily been abro-

gated as well, for they simply are not “applicable nonbank-

ruptcy law.” This Court has held that the bankruptcy court

possesses only those equitable powers expressly granted

by the Code. “[W]hatever equitable powers remain in the

bankruptcy courts must and can only be exercised within

the confines of the Bankruptcy Code.” Norwest Bank

Worthington v. Ahlers, 485 U.S. 197, 206 (1988). As both

the First and Eleventh Circuits recognized, Sec-

tion 510(a)’s silence on equitable authority not only re-

vokes pre-existing equitable authority, but also rules

crafted under it — like the Rule of Explicitness. Pet. 9a

(quoting Norwest); Southeast, 156 F.3d at 1122 (same).

Moreover, Congress knew how to grant equitable

authority to the bankruptcy court when it wanted to do so.

In Section 510(c), for example, Congress authorized the

bankruptcy court to subordinate any claim “under princi-

ples of equitable subordination.” 11 U.S.C. §510(c). This

subsection “powerfully demonstrates” that when Congress

intended to preserve the bankruptcy court’s pre-Code

equitable powers, it said so expressly. Southeast, 156 F.3d

at 1123. In this context, “section 510(a)’s command to

enforce subordination agreements according to the appli-

cable nonbankruptcy law can only be read as a clear and

contemplated break with prior practice.” Jd.

Section 552(b)(1) further illustrates that Congress

preserved pre-Code equitable powers in certain specified

instances, but not in Section 510(a). Under that section, a

lien covering after-acquired property may also cover post-

petition proceeds as permitted by “applicable nonbank-

ruptcy law,” but the bankruptcy court may exclude such

proceeds “based on the equities of the case.” 11 U.S.C.

§ 552(b)(1). This section demonstrates that Congress did

not grant any equitable power by the term “applicable

nonbankruptcy law.” Had that phrase included equitable

power, it would not have been necessary for Congress to

authorize the court to modify “nonbankruptcy law” based

on “the equities of the case” in Section 552(b)(1) — the

9

phrase “applicable nonbankruptcy law” would have

granted such power itself. Given that Section 510(a) does

not similarly authorize the court to modify nonbankruptcy

law based on “the equities of the case,” the court necessar-

ily lacks such power and must follow “applicable nonbank-

ruptcy law.”

Petitioners’ contrary interpretation would effectively

read the words “applicable nonbankruptcy law” out of the

statute. Consider, for example, a State that enacts a

statute prohibiting entirely the enforcement of subordina-

tion agreements. Under the plain language of Section

510(a), subordination agreements governed by the law of

such a State would not be enforceable. Yet, Petitioners

would have the bankruptcy court continue to enforce such

agreements under the pre-Code judge-made equitable

rules without regard to the dictates of “applicable non-

bankruptcy law.”

Having abrogated the pre-Code equitable Rule of

Explicitness, Section 510(a) replaces it with state law. The

phrase “applicable nonbankruptcy law” may refer to either

state or federal law. Patterson v. Shumate, 504 U.S. 753,

757, 759 (1992). In this case, all agree, no nonbankruptcy

federal statute applies, and in accordance with the usual

rule, the interpretation and enforcement of private con-

tracts is committed to state law. See Volt Info. Scis., Inc. v.

Board of Trs., 489 U.S. 468, 474 (1989). The First and

Eleventh Circuits agree that no distinctive federal interest

justifies creating a federal common law of subordination

agreements in bankruptcy. Pet. 10a-lla; Southeast, 156

F.3d at 1121 n.8. Nor have Petitioners identified any need

for a federal rule of decision. Indeed, they have conceded

that state law governs subordination agreements outside

bankruptcy. Pet. 21-22. Under the plain language of

10

Section 510(a), state law governs them in bankruptcy as

well.

b. Faced with Section 510(a)’s plain text and uniform

interpretation in the courts of appeals, Petitioners resort

to a negative inference from the absence of legislative

history. Under this Court’s precedents, they argue, the

Code should be interpreted to incorporate prior practice

absent an express statement in the Code or its legislative

history disavowing pre-Code practice. Pet. 15-18. But

Petitioners have overstated the relevance of pre-Code

practice, which this Court uses only as an aid to interpret

ambiguous text. See United States v. Ron Pair Enters.,

Inc., 489 U.S. 235, 241 (1989) (‘where, as here, the stat-

ute’s language is plain, . .. reference to legislative history

and pre-Code practice is hardly necessary”) (internal

citation omitted). Because Section 510(a) is unambiguous,

the bankruptcy courts’ pre-Code practice cannot alter its

meaning. .

Petitioners cite two cases in which this Court relied

upon pre-Code practice, but neither stands for the proposi-

tion that a pre-Code, judge-made rule overrides explicit

statutory language. Pet. 15 (citing Midlantic Natl Bank v.

New Jersey Dep't of Envtl. Prot., 474 U.S. 494 (1986), and

Kelly v. Robinson, 479 U.S. 36 (1986)). In Midlantic, the

Court held that the trustee may not abandon polluted land

in violation of state health and safety laws, 474 U.S. at

507, even though the Code empowers the trustee to “aban-

don any property of the estate that is burdensome.” 11

U.S.C. § 554(a). The trustee had lacked this power before

the Code’s enactment in 1978. Emphasizing that “if

Congress intends for legislation to change the interpreta-

tion of a judicially created concept, it makes that intent

specific,” the Court concluded that the Code and its history

11

did not do so. Midlantic, 474 U.S. at 501 (citation omitted).

In Kelly, the Court adhered to this guidance, holding that

a criminal restitution order is not dischargeable in a

chapter 7 bankruptcy. 479 U.S. at 50. The Court examined

the longstanding pre-Code rule against discharging

criminal sentences and noted its reluctance to hold that

the Code “silently abrogated” this prior practice, particu-

larly given the strong federalism concerns that would arise

from bankruptcy court review of state criminal sentences.

Id. at 44-47; cf McElroy v. United States, 455 U.S. 642,

658 (1982) (“absent a clear statement of purpose from

Congress, the Court was unwilling to read a federal

criminal statute in a way that would encroach on a tradi-

tional area of state criminal jurisdiction”).

The Court long ago refuted any suggestion that

Midlantic and Kelly should be read to hold that pre-Code

practices can alter the plain meaning of unambiguous

Code provisions. In Ron Pair, the Court explained that

Midlantic “did not rest solely, or even primarily, on a

presumption of continuity with pre-Code practice.” 489

U.S. at 244. Instead, Midlantic rested on the conflicts that

an unlimited abandonment power would have created with

other Code provisions, the “extraordinary” nature of the

trustee’s claimed power, and national environmental

policy. Jd. Likewise, Ron Pair explained that Kelly did not

rely on a “pale presumption” of continuity with pre-Code

practice. Jd. at 245. Rather, Kelly used pre-Code practice

as an “aid” to interpret an ambiguous provision against

the backdrop of the overriding federal policy against

interfering with state criminal proceedings. Jd. at 244.

More important, Ron Pair read Midlantic and Kelly to

limit the use of pre-Code practice as an interpretive tool to

cases satisfying two conditions. First, the statutory language

12

must be “open to interpretation.” Jd. at 245. Second, the

case must “involve[] a situation where bankruptcy law,

under the proposed interpretation [breaking with pre-Code

practice], [is] in clear conflict with state or federal laws of

great importance.” Jd. Both Midlantic and Kelly satisfied

these conditions. Jd. at 244-45. But applying this test in

Ron Pair, the Court rejected a pre-Code bankruptcy court

practice, holding instead that the Code unambiguously

authorized a nonconsensual oversecured creditor to claim

post-petition interest. Jd. at 240-42.

This analysis not only harmonizes Midlantic and

Kelly with Ron Pair, but also explains later decisions. In

Pennsylvania Department of Public Welfare v. Davenport,

495 U.S. 552 (1990), for instance, despite the undisputed

pre-Code practice of not discharging criminal sentences in

bankruptcy, the Court held that the Code’s plain text made

criminal restitution orders dischargeable in a chapter 13

bankruptcy. Jd. at 563-64. Similarly, the Court has de-

clined to consider pre-Code practice where the Code

unambiguously allows only the trustee — not a creditor — to

recover certain expenses. Hartford Underwriters Ins. Co. v.

Union Planters Bank, N.A., 530 U.S. 1, 10-11 (2000). The

Ron Pair analysis also accounts for Dewsnup v. Timm, 502

U.S. 410, 420 (1992), which followed pre-Code practice to

hold that the Code prohibits a debtor from reducing a

creditor’s lien to its judicially determined value, because

the statutory text was ambiguous and the proposed

interpretation conflicted with the “basic bankruptcy

principles” that a lien passes through bankruptcy and that

the debtor should not receive a windfall from a creditor.

Pre-Code practice therefore cannot alter the meaning

of Section 510(a) under Ron Pair. As these cases demon-

strate, pre-Code practice “cannot overcome [the Code’s]

13

language. It is a tool of construction, not an extratextual

supplement.” Hartford Underwriters, 530 U.S. at 10.

Where the Code is unambiguous — as in Section 510(a) —

the Court’s inquiry ends regardless of pre-Code practice.

And even if Section 510(a) were ambiguous, it still would

be inappropriate under Ron Pair to resort to pre-Code

practice, given that the First and Eleventh Circuits’

interpretation does not conflict with any important state

or federal law or policy, much less ones as important as

environmental protection and federal-court abstention

from state criminal proceedings. In short, despite Petition-

ers’ contrary suggestion, this Court’s precedents reinforce

the uniform textual analysis of the courts of appeals:

Section 510(a) abrogated the pre-Code equitable Rule of

Explicitness.

c. While they admit that both First and Eleventh

Circuits have rejected their claim, Petitioners assert that

“leading authorities have recognized” that the pre-Code

Rule of Explicitness “was not displaced by the enactment

of Section 510(a).” Pet. 18-19 (citing a treatise, a law

review article, and three bankruptcy court decisions). With

one arguable exception, however, none of the authorities

cited by Petitioners say that Section 510(a) incorporates

the pre-Code equitable Rule of Explicitness. Instead, they

merely support the uncontroversial proposition that under

Section 510(a) subordination agreements continue to be

enforceable in bankruptcy, as they were under pre-Code

equitable practice. See, e.g., 4 COLLIER ON BANKRUPTCY

{ 510.03[2] (15th rev. ed. 2003). COLLIER, for example, is

agnostic on the question whether the Rule of Explicitness

survived enactment of Section 510(a), noting merely what

“[s])ome courts” have held. COLLIER, supra, at J 510.03[3] &

n.14. But the only post-Code decisions it identifies are the

— Eee OO

14

bankruptcy court decision below, the opinions culminating

in the Eleventh Circuit’s decision in Southeast, and First

Fidelity Bank, N.A. v. Midlantic National Bank (In re

Ionosphere Clubs, Inc.), 134 B.R. 528 (Bankr. S.D.N.Y.

1991), also relied upon by Petitioners.

Only Jonosphere even arguably supports the proposi-

tion that the pre-Code equitable Rule of Explicitness was

codified by Section 510(a), and the court there noted that

one might argue that the Rule of Explicitness “is inconsis-

tent with § 510(a),” but held otherwise largely because the

parties failed to dispute the point. Jonosphere, 134 B.R. at

533-34. This lonely bankruptcy court ruling, made before

the First and Eleventh Circuits’ uniform rulings that

Section 510(a) abrogated the pre-Code equitable Rule of

Explicitness, does not create a division in authority war-

ranting this Court’s review.*

2. The First and Eleventh Circuits disagree only on

the narrow question of whether the bankruptcy-only Rule

of Explicitness adopted by the New York Court of Appeals

in Chemical Bank governs interpretation of subordination

agreements as “applicable nonbankruptcy law” under

Section 510(a). This shallow conflict over which provision

of New York state law applies in these circumstances does

not warrant review by this Court because it was correctly

decided below, this Court does not ordinarily decide

* Petitioners point out that the pre-Code decisions by the Tenth,

Second, and Third Circuit have not been overruled, see Pet. 19, but nor

have they been re-affirmed. Simply put, those circuits, as well as all but

two of their sisters, have not been presented with the question whether

the equitable Rule of Explicitness survived enactment of Section 510(a).

The dearth of precedent over the past quarter century on this issue

demonstrates that this Court’s review is not required — the question

simply does not come up very often.

15

questions concerning which provision of state law governs

even where the issue is technically a federal question, the

question rarely arises, and it has little practical signifi-

cance.

a. Under Section 510(a), the bankruptcy court must

enforce subordination agreements according to “applicable

nonbankruptcy law.” This language is not subtle or chal-

lenging. See Patterson, 504 U.S. at 757-59; id. at 766

(Scalia, J., concurring). It directs the court to apply to

subordination agreements the law that would apply

outside bankruptcy. Because those agreements are con-

tracts, “applicable nonbankruptcy law” is generally appli-

cable state contract law.

In Chemical Bank, however, the New York Court of

Appeals adopted a bankruptcy-only rule: “In accordance

with the Rule of Explicitness, New York law would require

specific language in a subordination agreement to alert a

junior creditor to its assumption of the risk and burden of

allowing the payment of a senior creditor’s post-petition

interest demand.” 93 N.Y.2d at 186, 710 N.E.2d at 1088,

688 N.Y.S.2d at 489 (emphasis added). As the First Circuit

correctly explained, this rule’s bankruptcy-only nature “is

apparent from its use of the term ‘post-petition interest’ —

a term of art applicable only in bankruptcy.” Pet. 15a.

The New York court further emphasized that its

ruling was limited to the context presented by the ques-

tion certified to it by the Eleventh Circuit. It recognized

the Rule of Explicitness only “for purposes of answering

this question — in the spirit of comity but also with the

usual certification constraints, as well as within the

confines of interrelated threshold rulings already made by

the Eleventh Circuit.” 93 N.Y.2d at 186, 710 N.E.2d at

16

1087, 688 N.Y.S.2d at 489. By its terms, the rule an-

nounced in Chemical Bank requires “a heightened degree

of clarity only if the effort to enforce [subordination

agreements] arlises] in bankruptcy rather than in some

other context.” Pet. 13a. In short, Chemical Bank an-

nounced a bankruptcy-only rule.

Because the Chemical Bank rule applies only in

bankruptcy, it cannot be “nonbankruptcy law” under

Section 510(a). To apply a special, bankruptcy-only rule to

subordination agreements in bankruptcy court “would go

well beyond the intended reach of section 510(a),” which

enforces subordination agreements identically in and out

of bankruptcy. Pet. 13a. Indeed, even if the bankruptcy-

only Rule of Explicitness crafted by the New York Court of

Appeals had been enacted by the State’s legislature, it still

could not govern interpretation of subordination agree-

ments under Section 510(a).

The First Circuit has not, as Petitioners claim,

“usurped the authority of the New York Court of Appeals

to act as the final arbiter of its own state law.” Pet. 14.

Instead, it merely interpreted a federal statute according

to its plain language, holding that “applicable nonbank-

ruptcy law” does not include laws applicable only in

bankruptcy. The court went out of its way to emphasize its

deference to the prerogative of the New York Assembly and

the New York Court of Appeals to adopt whatever law they

see fit with respect to the enforceability of subordination

agreements, provided only that such law be applicable

generally and not merely in bankruptcy — that is, provided

only that it be “applicable nonbankruptcy law.” Pet. 16a.

This case does not raise any question of federal-state

comity, but instead a question of federal statutory inter-

pretation, and a simple one at that.

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17

b. Moreover, the narrow question on which the First

and Eleventh Circuits have divided arises very rarely, and

rarer still is the case whose outcome is controlled by

whether the court applies the Rule of Explicitness. A host

of disparate circumstances must converge for the question

to matter: (i) the senior and junior creditors of a common

debtor must have entered a subordination agreement with

language that arguably, though not explicitly, provides for

the payment of the senior creditors’ post-petition interest;

(ii) the agreement must be governed by New York law;

(iii) the debtor must file for bankruptcy; (iv) the bank-

ruptcy estate must have enough resources to pay senior

creditors their full principal and pre-petition interest, as

well as all secured claims, the estate’s fees and expenses,

and enough additional assets to make the contest between

the senior creditors’ post-petition interest and the junior

creditors’ principal and pre-petition interest worth fight-

ing; and (v) at the same time, the estate must not have

enough resources to pay both the senior creditors’ princi-

pal and pre- and post-petition interest and the junior

creditors’ principal and pre-petition interest in full, thus

obviating any dispute. Not surprisingly, this combination

of circumstances, each necessary for the question dividing

the First and Eleventh Circuits to arise and matter, rarely

comes together in a single case — in the quarter century

since the Code was enacted, the question has reached a

court of appeals only twice, and Jonosphere is the only

other post-Code case cited by Petitioners that squarely

addresses the question.

c. In addition to its rarity, this question also has

little practical significance. Petitioners claim that the

decision below “threatens to send a tidal wave of uncer-

tainty through the settled financial expectations in [the]

18

vast sea” of subordination agreements by “throw[ing] into

doubt hundreds of billions of dollars worth of bond offer-

ings.” Pet. 2, 14. With these calamities looming, one might

have expected the Nation’s financial press to take some

notice of the First Circuit’s ruling, but we have been able

to find no article in any significant business publication,

and Petitioners cite none, informing the investing public of

the decision, much less its supposed catastrophic conse-

quences. This silence is telling.

Moreover, the practical implications of the decision for

future subordination agreements are virtually nil. Peti-

tioners correctly note that financial-market participants

may contract around a legal rule, whether that rule is

sound or not. Pet. 23-24. Just so. Going forward, market

participants may easily contract around both the First and

the Eleventh Circuits’ decisions by adding a single unam-

biguous phrase to their subordination agreements —

“including post-petition interest” or “excluding post-

petition interest,” depending on their intent.

Further, to the extent that some market participants

did not consider the issue to be sufficiently important to

merit explicit treatment in a subordination agreement, it

can hardly be said that their expectations would be frus-

trated, regardless of which rule of construction is applied.

In those rare circumstances, the First Circuit’s conclusion

in this case — a remand for factual finding to determine

whether the parties intended to cover post-petition inter-

est — hardly threatens to convulse the capital markets in

this country. This largely academic question, which will

affect resolution of a tiny — perhaps null — set of cases,

simply does not merit this Court’s attention.

ee

19

3. Finally, the petition is premature because the

decision below is interlocutory. The First Circuit did not

finally resolve this controversy, but instead remanded for

factual findings as to the parties’ intent. For more than a

century, this Court has “generally await[ed] final judg-

ment in the lower courts before exercising [its] certiorari

jurisdiction.” Virginia Military Inst. v. United States, 508

U.S. 946, 946 (1993) (opinion of Scalia, J., respecting _

denial of the petition for writ of certiorari); see also Ameri-

can Constr. Co. v. Jacksonville, Tampa & Key West Ry. Co.,

148 U.S. 372, 384 (1893); Hamilton-Brown Shoe Co. v. Wolf

Bros. & Co., 240 U.S. 251, 258 (1916); Brotherhood of

Locomotive Firemen & Enginemen v. Bangor & Aroostock

R.R. Co., 389 U.S. 327, 328 (1967). In this case, it is

entirely possible that the parties’ dispute over whether the

Rule of Explicitness should govern interpretation of the

subordination agreements will be unnecessary to resolu-

tion of the underlying controversy. If the bankruptcy court

finds on remand that the parties did not, in fact, intend for

the senior creditors to recover post-petition interest, the

parties’ disagreement over the applicability of the Rule of

Explicitness will not control the outcome.

¢

20

CONCLUSION

For the foregoing reasons, the petition for a writ of

certiorari should be denied.

September 7, 2004 Respectfully submitted,

SARAH L. REID CHARLES J. COOPER

KELLEY DRYE & WARREN LLP Counsel of Record

101 Park Avenue MICHAEL W. KIRK

New York, NY 10178 THOMAS B. COTTON

(212) 808-7800 COOPER & KIRK, PLLC

1500 K Street, N.W.

DaviD S. ROSNER Suite 200

DANIEL ZINMAN ;

KASOWITZ, BENSON, TORRES aaa 20005

& FRIEDMAN, LLP

1633 Broadway

New York, NY 10019

(212) 506-1700

DOUGLAS B. ROSNER

GOULSTON & STORRS, P.C.

400 Atlantic Avenue

Boston, MA 02110

(617) 482-1776

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