Petition for Writ of Certiorari — Zurich American Insurance v. Lexington Coal Co., 129 S. Ct. 2866 (2009) (No. 08-1254)

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FILED’

IN THE er FFICE OF THE CLERK

pms Gon SE

ZURICH AMERICAN INSURANCE COMPANY,

Petitioner,

Vv.

LEXINGTON COAL COMPANY, LLC,

Respondent.

ON PETITION FOR A WRIT OF CERTIORARI TO THE

UNITED STATES COURT OF APPEALS

FOR THE SIXTH CIRCUIT

PETITION FOR A WRIT OF CERTIORARI

KAREN LEE TURNER SETH P. WAXMAN

ECKERT, SEAMANS, Counsel of Record

CHERIN & MELLOTT, LLC CRAIG GOLDBLATT

Two Liberty Place DANIELLE SPINELLI

50 South 16th Street WILMER CUTLER PICKERING

Philadelphia, PA 19102 HALE AND DORR LLP

(215) 851-8400 1875 Pennsylvania Ave. NW

m Washington, DC 20006

(202) 663-6000

JAMES H. MILLAR

JANET R. CARTER

WILMER CUTLER PICKERING

HALE AND DORR LLP

399 Park Avenue

New York, NY 10022

(212) 230-8800

QUESTIONS PRESENTED

In order to encourage lenders, vendors, and other

creditors tg do business with companies in bankruptcy,

facilitating reorganization and the preservation of busi-

nesses, the Bankruptcy Code provides that administra-

tive expenses—claims to payment that arise during a

bankruptcy case, including the “actual, necessary costs

and expenses of preserving the [bankruptcy] estate,”

11 U.S.C. §503(b)(1)(A)—are entitled to priority over

the claims of other creditors, see id. $507(a). The ques-

tions presented are:

1. Whether the Sixth Circuit erred in holding that

administrative-expense priority does not extend to all

payments due under a contract entered or assumed by

the debtor during a bankruptcy case—a holding in di-

rect conflict with decisions of the First, Second, and

Fourth Circuits.

2. Whether the Sixth Circuit erred in nolding that

a creditor’s claim against a bankruptcy estate arises

only when the creditor’s right to payment accrues un-

der state law, in agreement with the Third Circuit but

in conflict with the Second, Fourth, Fifth, Ninth, Tenth,

and Eleventh Circuits.

(i)

PARTIES TO THE PROCEEDINGS

Petitioner is Zurich American Insurance Company,

the appellant below. Respondent is Lexington Coal

Company, LLC, the appellee below.

(13)

CORPORATE DISCLOSURE STATEMENT

Petitioner Zurich American Insurance Company is

a wholly-owned subsidiary of Zurich Holding Company

of America, Inc., a Delaware corporation. Zurich Hold-

ing Company of America, Inc. is a 99.8711% owned sub-

sidiary of Zurich Insurance Company, a Swiss corpora-

tion. Zurich Insurance Company is directly and indi-

rectly owned by Zurich Financial Services, a Swiss cor-

poration. Zurich Financial Services is the only publicly

traded parent company, with a listing on the Swiss

stock exchange, and a further trading of American De-

positary Shares.

(iii)

TABLE OF CONTENTS

Page

QUESTIONS PRESENTED cicececcossscssscserscenssnssscscsesesssness i

PARTIES TO THE PROCEEDINGS ..ccccccccccesscvsccsccccses il

CORPORATE DISCLOSURE STATEMENT............ iii

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STATUTORY PROVISIONS INVOLVED................... 2

eg ao EERIE Ieee ear a ay Bae eee ae Ie eng me 3

REASONS FOR GRANTING THE WRIT.................. 1}

I. THE SIXTH CIRCUITS HOLDING THAT FU-

TURE OBLIGATIONS UNDER A CONTRACT

ASSUMED DURING BANKRUPTCY ARE NOT

ADMINISTRATIVE EXPENSES CONFLICTS

WITH DECISIONS OF OTHER CIRCUITS AND

Is IN TENSION WITH THIS COURT’S

ag 8. RRR In CON nn aM Re Rom ane SOE a 12

A. The Sixth Circuit’s Holding Conflicts

With The Decisions Of Other Courts Of

BI Si iasiatibicrsr ccnsra accibtolaniensbltaptbidiealaaiecaniinines 12

B. The Sixth Circuit’s Decision Relies On

A Premise Rejected By This Court’s

a 20

Il. THE SIXTH CIRCUIT’S DECISION EXACER-

BATES THE ENTRENCHED SPLIT OF AU-

THORITY REGARDING WHEN A CLAIM

AGAINST A BANKRUPTCY ESTATE ARISES ............ 21

(Vv)

vi

TABLE OF CONTENTS—Continued

III. THE DECISION BELOW WAS INCORRECT

AND ‘THREATENS DEBTORS’ ABILITY TO

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APPENDIX A: Opinion of the United States

Court of Appea'‘s for the Sixth Circuit, re-

ported at 536 F.3d 683 (Aug. 18, 2008)............

APPENDIX B: Memorandum Opinion and

Order of the United States District Court

for the Eastern District of Kentucky, re-

ported at 371 B.R. 210 (July 2, 2007)................

APPENDIX C: Memorandum Opinion of the

United States Bankruptcy Court for the

Eastern District of Kentucky, reported at

343 B.R. 839 (May 30, 2006) .......cs.cecccceessseesseee-

APPENDIX D: Order of the United States

Court of Appeals for the Sixth Circuit, un-

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Pee 59a

als 69a

vil

TABLE OF AUTHORITIES

CASES

Page(s)

Butler v. Nationsbank, N.A., 58 F.8d 1022

I cas 26, 27

CPT Holdings, Inc. v. Industrial & Allied

Employees Union Pension Plan,

1GZ F.3d 205 (GER Cir. 19GB) ccccescccoresesrcersceccseesteseoeees 25

Central Virginia Community College v. Katz,

Be ri II ciitiicsck ncscconceaiesniarheanmiaiaiondsnspsindaapesscies 3

Grady v. A.H. Robins Co., 8389 F.2d 198 |

Ce re ice iaictnnsitn ssndnnetnticaiinsaidslieheinicdsmbaatiansiba 26, 27

In re Chateaugay Corp., 944 F.2d 997

CO Gee NINE fist iceelecacscnivcsinibldininneaticceceabbaeebicnies 27, 28

In re Frontier Properties, Inc., 979 F.2d 1358

SO Is MN iets nas inca cticseditaeeensctdessdiguuminedbisinncineiens 19

In re Hemingway Transport, Inc., 993 F.2d 915

CE ees MIT vistbeciticssstlin eiciniinieiriesacibbsaniies 13, 14, 15, 16

In re Ionosphere Clubs, Inc., 85 F.8d 992 (2d

RN I hk eed sicsiceinsiaisscsssseitnitascentbeadisbinnmsibanscasions 31, 32

In re Jensen, 995 F.2d 925 (9th Cir. 1993) ............0. 28, 29

In re Klein Sleep Products, Inc., 78 F.3d 18

CI Gers RE satiichitenisnctsenscacestsiiccsonssancnein 5, 18, 18, 19, 20

In re M. Frenville Co., 744 F.2d 332

i taal a 23, 24

In re Mammoth Mart, Inc., 536 F.2d 950

CN So arias aaicdik asics ealicelsseihiuiciceineicininiaacsaihcecns 15

In re Merry-Go-Round Enterprises, Inc.,

180 F.3d 149 (4th Cir. 1999) .....0......0....... 13, 17, 18, 19

Vili

TABLE OF AUTHORITIES—Continued

Page(s)

In re Parker, 313 F.3d 1267 (10th Cir. 2002)........... 26, 27

In re Piper Aircraft Corp., 58 F.3d 1578

Oe I iakdsctientidedindeisarsisabsenicievtisatachenctaveisnedves 28

In re Remington Rand Corp., 8386 F.2d 825

A ME iisisissncicacnscbiasabnionienigiticcuisintomsimiinineneciens 25

In re Sunarhauserman, Inc., 126 F.8d 811

SHORE ERE ERT ew ene a eee 25

Johnson v. Home State Bank, 501 U.S. 78

| FRRDRRTEE ESSER Serine ee ear eet Oe OR 4

Jones v. Chemetron Corp., 212 F.3d 199

ee ee asst ctcrssachitslenhlsccdincinahacicaibseiadaiain 24, 25

Lemelle v. Universal Manufacturing Corp.,

BE FOG TOG GRR Cie, BIO) vceccinccccncscisccsrsescoorvece 27, 28

N.C.P. Marketing Group, Inc. v. BG Star

Prods., Inc., No. 08-463, 2008 WL 4522334

Fak ac Wp ID easthsasiousitnnaiieaddevaiuisianaacidahaarccetwateeesans 7

NLRB vy. Bildisco & Bildisco, 465 U.S. 5138

SOR sisssicthiediiiiensihcdeiy bab ipdiCahibs ibadaakatisk uid eeiebpibanionsuase' 7, 30

Pennsylvania Department of Public Welfare v.

Davenport, 496 US. SBF (IGG) ....ccccrecrsocsseoscersresonesees 4

Reading Co. v. Brown, 391 U.S. 471

| __, RPRRRE RENNER arene sees ee. arm Tere 4,11, 20, 21, 23, 24, 32

iX

TABLE OF AUTHORITIES—Continued

Page(s)

STATUTES

11 U.S.C.

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I viksscesvcrerecscsecesessersdcnneerintatetseseiiieniommanianmaae 24

BI at initinnstvisenmimcnioniaimaieaadaaane 7

INT iiindsar suriesservininesnessvembenetssiiaunmea 3

I isasusianciscoesssentsiesasesesanuasiasusdsistenithieeaeeeee 3,14

TO cbsnk.crenkssisssvienctnttinisscntcesonenaspeacigidasteae 1,2, 3,4

SIT cicsinsnisisvininsxadesssvesnisinsvigdainleumiiuesaiapaneaeananae i,2,5

BI ss sessadudcnssiteintubsssieaenvedetncdlaaeecensenielauiaaeee 3

Fe i skein nctvinvnsisessacsninetsesienhvepensalenvebesetanatelnaeee 4

BEE intnsevisssinanesutésrascsdevionistecesansatoneionicaa ie 4

Be RI Bs BREIO ses nrescisorssrsiceneastievmnsipeomanainigiamaee 2

42 U.S.C.

PESEIES Scsiosuicssioniensendibectnapegumemanel 18, 14, 15, 28

FOOT csccesvisscisunsessisisinedicdicinidedisiesientadeommiacan nn 14

Bankruptcy Abuse Prevention and Consumer

Protection Act of 2005, Pub. L. No. 109-8........... 3,19

iy. They. Bibat. Arak: SG ones ciesceosscvcsnsactnneanae 5

Peicn. AMUN. COGS, Fi SOBA vcciicccsssccrtsrcrnecersestin 32

Mich. Comp. Laws Serv.

PE vincssisdacisissennssiessibiemecstioncsinaiaamneiaaneee 32

BERG vysecisisstisvibilacgendiidingiandaeonetaed ae 32

LEGISLATIVE MATERIALS

H.R. Rep. No. 95-595 (1977), reprinted in 1978

RL) ees PAs EN Mie scessndas vctinnassaaeeesilabiniaienananenaaaanae 4

xX

TABLE OF AUTHORITIES—Continued

Page(s)

OTHER AUTHORITIES

Bain & Company, Bankruptcies of Large U.S.

Companies To Extend Into 2010 (Dec. 1,

Neh ial hal eaaaneiiainabaibnsainenentotesnensaes 33

Collier on Bankruptcy (15th rev. ed. 2008).........5, 22, 30

Siew, Walden, US Company Bankruptcies

May Top 100 Next Year, Reuters (July 31,

a cada hascehasibennerenbebioieestnnon 33

IN THE

Supreme Court of the United States

No. 08-

ZURICH AMERICAN INSURANCE COMPANY,

Petitioner,

v.

LEXINGTON COAL COMPANY, LLC,

Respondent.

ON PETITION FOR A WRIT OF CERTIORARI TO THE

UNITED STATES COURT OF APPEALS

FOR THE SIXTH CIRCUIT

PETITION FOR A WRIT OF CERTIORARI

Zurich American Insurance Company respectfully

petitions for a writ of certiorari to review the judgment

of the United States Court of Appeals for the Sixth

Circuit in this case.

OPINIONS BELOW

The opinion of the United States Court of Appeals

for the Sixth Circuit is reported at 536 F.3d 683 (6th

Cir. 2008). App. la-2a. Its order denying rehearing is

unreported. App. 69a-70a. The opinion of the United

States District Court for the Eastern District of Ken-

tucky is reported at 371 B.R. 210 (E.D. Ky. 2007). App.

3a-58a. The opinion of the United States Bankruptcy

2

Court for the Eastern District of Kentucky is reported

at 343 B.R. 839 (Bankr. E.D. Ky. 2006). App. 59a-68a.

JURISDICTION

The Court of Appeals entered its judgment on Au-

gust 13, 2008, and denied rehearing on January 8, 2009.

This Court has jurisdiction under 28 U.S.C. §1254(1).

STATUTORY PROVISIONS INVOLVED

The version of §101(5) of the Bankruptcy Code, 11

U.S.C. §101(5), applicable to this case provides in rele-

vant part:

“Claim” means—

(A) right to payment, whether or not such

right is reduced to judgment, liquidated,

unliquidated, fixed, contingent, matured,

unmatured, disputed, undisputed, legal,

equitable, secured, or unsecured|.)

The version of §503(b) of the Bankruptcy Code, 11

U.S.C. §503(b), applicable to this case provides in rele-

vant part:

After notice and a hearing, there shall be al-

lowed administrative expenses, other than

claims allowed under section 502(f) of this title,

including—

(1)(A) the actual, necessary costs and ex-

penses of preserving the estate, including

wages, salaries, or commissions for services

rendered after the commencement of the

case|.]

The version of §507(a) of the Bankruptcy Code, 11

U.S.C. §507(a), applicable to this case provides in rele-

vant part:

3

(a) The following expenses and claims have pri-

ority in the following order:

(1) First, administrative expenses allowed

under section 503(b) of this title, and any

fees and charges assessed against the es-

tate under chapter 123 of title 28.'

STATEMENT

1. Bankruptcy has dual goals: to grant a debtor a

fresh start, including where appropriate the opportu-

nity to reorganize and thus preserve its business, and

to apportion the debtor’s property equitably among its

creditors, in accordance with the statutory priorities

established by the Bankruptcy Code. See, e.g., Central

Va. Comm. Coll. v. Katz, 546 U.S. 356, 363-364 (2006).

To achieve those goals, the Bankruptcy Code provides

that when a debtor commences a bankruptcy case, all of

its property, with certain narrow exceptions, becomes

part of the bankruptcy estate. 11 U.S.C. §541. The

debtor’s creditors may then assert claims against the

estate. See id. §§501-503. When an eligible debtor sat-

' The Bankruptcy Abuse Prevention and Consumer Protec-

tion Act of 2005 (“BAPCPA”) amended each of these provisions.

BAPCPA amended $101(5) by inserting the words “The term” be-

fore the word “claim.” Pub. L. No. 109-8, $1201(2). It amended

§503(b)(1)(A) to clarify that certain back-pay awards are entitled

to administrative-expense priority. /d. §329. And it amended

§507(a) to provide that certain domestic-support obligations have

first priority, above administrative expenses. /d. §212. None of

those amendments applies in cases, like this one, commenced prior

to the enactment of BAPCPA. /d. §1501. Nor is any of these

amendments material to any issue in this case. For clarity, this

petition hereafter refers only to the version of the Bankruptcy

Code applicable to this case.

4

isfies the requirements of the Code, it may obtain a dis-

charge of the existing claims against it. See id. §727

(Chapter 7 cases); 7d..§1141(d) (Chapter 11 cases).

The Bankruptcy Code contains an exceedingly

broad definition of the “claims” that may be asserted

(and potentially discharged) in bankruptcy: a “claim”

includes any “nght to payinent, whether or not such

right is reduced to judgment, liquidated, unliquidated,

fixed, contingent, matured, unmatured, disputed, un-

disputed, legal, equitable, secured, or unsecured.” 11

U.S.C. §101(5). As Congress explained when the Code

was enacted, “[bly this broadest possible definition,”

the Code “contemplates that all legal obligations of the

debtor, no matter how remote or contingent, will be

able to be dealt with in the bankruptcy case.” H.R.

Rep. No. 95-595, at 309 (1977), reprinted in 1978

US.C.C.A.N. 5963, 6266; see also Pennsylvania Dep't

of Public Welfare v. Davenport, 495 U.S. 552, 538

(1990); Johnson v. Home State Bank, 501 U.S. 78, 83

(1991).

This case involves a special type of claim against

the bankruptcy estate: an administrative-expense

claim. Administrative expenses are obligations in-

curred by the debtor or bankruptcy trustee during the

bankruptcy case. They include, for example: loans,

leases, supply agreements, or other contracts enabling

the debtor to continue its business while it is attempt-

ing to reorganize; wages paid by the business while in

bankruptey; and tort or environmental! liabilities in-

curred through the debtor’s operations while it is in

bankruptey. See generally Reading Co. v. Brown, 391

U.S. 471 (1968). As defined by the Bankruptcy Code,

administrative expenses include all “actual, necessary

costs and expenses of preserving the estate.” 11 U.S.C.

$503(b)(1)(A).

5

The Bankruptey Code provides that administrative

expenses receive priority over the claims of other

creditors. 11 U.S.C. §507(a). Priority status is impor-

tant to a creditor’s recovery because the claims against

a bankruptcy estate typically far outstrip the value of

the debtor’s assets. Creditors with high-priority claims

may be paid in full, whereas those lower in the hierar-

chy will likely recover only pennies on the dollar, or

nothing at all. Congress chose to grant administrative-

expense claims priority to “provide an incentive for

creditors and others to continue or commence doing

business with an insolvent entity.” 4 Collier on Bank-

ruptcy 4503.06[2] (15th rev. ed. 2008). Lenders, suppli-

ers, and others considering dealing with a debtor will

understandably be wary that credit they extend might

not be repaid. This concern is allayed if, in the event

“the debtor fails to rehabilitate itself and winds up in

liquidation, they can move to the front of the distribu-

tive line, ahead of the debtor’s pre-bankruptcy credi-

tors.” In re Klein Sleep Prods., Inc., 78 F.3d 18, 20 (2d

Cir. 1996). Without that assurance, a debtor would be

unlikely to obtain credit except on the most onerous

terms, and its prospects of continuing its business and

emerging from bankruptcy would be severely limited.

2. Petitioner Zurich American Insurance Com-

pany (“Zurich”) provided workers’ compensation,

automobile, and general liability insurance to a coal-

mining company, Horizon Natural Resources, and its

affiliates (collectively, “Horizon’”), beginning in 1998.

Workers’ compensation insurance was essential to Ho-

rizon’s business. Indeed, it was required by state law.

App. lla n.5; Ky. Rev. Stat. Ann. §342.340.

There are two principal varieties of workers’ com-

pensation insurance policies: “guaranteed-cost” poli-

cies, in which the insurer assumes all the risk of the

6

workers’ compensation claims, and “loss-sensitive”

policies, including deductible policies, in which the in-

sured assumes a portion of the risk associated with

each claim. Because the insured bears part of the risk,

deductible policies generally have significantly lower

premiums than guaranteed-cost policies, and a signifi-

cantly lower overall cost even when the deductibles are

taken into account. App. 8a-9a. In addition, the de-

ductibles structure spreads out the insured’s payments,

providing a cash-flow advantage particularly helpful to

debtors in bankruptcy.

The insurance policies Horizon purchased from Zu-

rich were deductible policies, under which Zurich

agreed to pay the full amount of the claims against Ho-

rizon up front, and then bill Horizon for the deductible.

Thus, Horizon had two payment obligations under the

policies: first, to pay premiums, and second, to reim-

burse Zurich for the deductibles Zurich advanced. Zu-

rich, in turn, was obligated to pay workers’ compensa-

tion claims asserted against Horizon arising from acci-

dents or other occurrences during the period of insur-

ance coverage, even if the resulting injuries did not

manifest themselves for months or years after coverage

ended. Because coal-mining is particularly likely to re-

sult in injuries, such as black-lung disease, that become

manifest only after a long latency period, such future

workers’ compensation claims are a virtual certainty.

As the district court recognized, the “practical re-

alitly]” is that “these deductible obligations will inevi-

tably arise, and in large number,” “reach[{ing] well into

the millions of dollars range.” App. 28a n.17.

3. In November 2002, Horizon filed for bank-

ruptcy protection under Chapter 11 of the Bankruptcy

Code. Zurich continued providing insurance coverage

to Horizon while Horizon attempted to reorganize. In

7

September 2008, Horizon assumed the Zurich policies,

with bankruptcy-court approval, pursuant to 11 U.S.C.

§365. App. 13a-14a.?_ In June 2004, Zurich and Horizon

negotiated a series of short-term extensions taking the

policies through the end of September 2004. App. 15a.

Horizon’s reorganization efforts were unsuccessiul,

and it decided to liquidate. In August 2004, it auctioned

part of its business as a going concern and sold the rest

_of its assets to other buyers, including respondent Lex-

ington Coal Company (“Lexington”). The bankruptcy

court approved the sale and confirmed Horizon’s plan of

liquidation, and on September 30, 2004, Horizon closed

the sale of its assets. Under the order confirming Hori-

zon’s plan, Horizon was deemed dissolved as of that

date. Horizon’s insurance coverage with Zurich had

also expired by that date. App. 15a.

Zurich then filed an administrative-expense claim

against the estate (within the period for doing so estab-

lished by the plan). Zurich sought to collect the amount

of the deductibles it would have to advance in the fu-

? Section 365 permits a trustee or debtor-in-possession to as-

sume or reject an “executory contract ... of the debtor,” subject to

the court’s approval. If the debtor chooses to assume a contract, it

“continue[s] to receive the benefits of [the contract], while also

continuing to perform its obligations under” the contract. N.C.P.

Mktg. Group, Inc. v. BG Star Prods., Inc., No. 08-463, 2008 WL

4522334, at *1 (U.S. Oct. 6, 2008) (Kennedy, J., respecting the de-

nial of certiorari). In that event, expenses incurred under the as-

sumed contract are treated as administrative expenses, just as if

the contract were entered into during the bankruptcy. See, ¢.g.,

NLRB vy. Bildisco & Bildisco, 465 U.S. 513, 531-532 (1984). If the

debtor rejects the contract, tt walks away from its obligations un-

der the contract, and the counterparty receives a claim for dam-

ages against the estate. See id. at 531.

8

ture on claims covered by Horizon’s now-expired insur-

ance policies. Because the deductibles would be paid on

workers’ compensation claims that had not yet been

made, Zurich’s claim required estimation. The evidence

Zurich presented as a basis for that estimation was an

actuarial calculus called an “ultimate loss projection.”

Insurance companies prepare such actuarial reports for

“the basic purpose of estimating future obligations in

connection with insurance coverage.” App. 18a. Zu-

rich’s net administrative-expense claim, based on its

ultimate loss projection and subtracting payments and

the value of collateral Zurich had received from Hori-

zon, was approximately $14.5 million. App. 20a-21a.

Lexington objected to Zurich’s claim, and the bank-

ruptcy court held that the deductibles were not admin-

istrative expenses. It observed that the Sixth Circuit

applies a two-part test to determine whether a claim

represents the “actual, necessary costs and expenses of

preserving the estate” under §503(b)(1)(A): first, the

debt must have “arisen from a post-petition transaction

with the debtor,” and second, it must have “directly and

substantially benefi{t]ed the estate.” App. 68a. The

court asserted that “{eJxpenses incurred post-

confirmation are not entitled to administrative expense

priority treatment,” and that payments Horizon owed

under the insurance policies thus “must actually be paid

prior to confirmation in order to qualify as an adminis-

trative expense.” App. 64a-65a.

4. The district court affirmed. In doing so, the

court recognized that “it is undisputed that Zurich will

be rightfully ‘owed’ any deductible obligations ad-

vanced under the Zurich Policies ... when they ‘arise.’ ”

App. 23a-24a. It also recognized that the insurance

coverage Zurich provided was essential to Horizon’s

reorganization efforts:

9

There can be no question that ... the insurance

coverage provided by the Zurich Policies was

critical to the Debtors’ operations. Without the

insurance provided by Zurich, the Debtors

would have been unable to operate their busi-

ness as a going concern both prior to and dur-

ing the pendency of the bankruptcy.

App. 10a-11a.

The district court nevertheless held that the de-

ductibles Horizon owed under the insurance policies

were not administrative expenses and that Zurich was

not entitled to receive payment for the deductibles

from the bankruptcy estate. Instead, the court con-

cluded that Zurich could recover the deductibles only

from any dissolved entity that might remain after the

bankruptcy. That is, while Zurich would remain liable

for future claims against Horizon, it would never be re-

paid for the substantial deductib’es that Horizon had

promised to pay in return for the insurance it pur-

chased.

In so holding, the district court examined both the

language of §503(b)(1)(A) and the “benefit to the es-

tate” test on which the bankruptcy court had relied.

The court first held that Zurich’s claim for deductibles

was not an “actual” cost of preserving the estate be-

cause Horizon’s state-law obligation to reimburse Zu-

rich for the deductibles would not accrue until after the

bankruptcy—after injured workers had made claims

and Zurich had paid those claims. App. 27a-28a (“Zu-

rich is only contractually obligated to pay the deducti-

bles, and subsequently seek reimbursement, once the

{workers’ compensation] claims actually ‘arise.’ ”).

The court next concluded that the deductibles were

not “necessary” costs of preserving the estate because

10

Horizon would not become obligated to pay them until

after it had dissolved. “The moment Zurich is contrac-

tually permitted to seek reimbursement from the

Debtors for the advanced deductibles, the estate will

have already dissolved and the Debtors will cease to

exist. Consequently, payment of the claimed expenses

will in no way act to preserve an estate when there is

no estate to preserve.” App. 29a.

For similar reasons, the district court concluded

that Zurich’s claim did not meet the “benefit to the es-

tate” test. App. 30a-34a. It reasoned that because the

insurance contract did not require the reimbursement

of deductibles until after Zurich had advanced them,

Horizon’s “deductible obligations d{id] not even exist”

until after Horizon’s dissolution and thus the payment

of the deductibles would not provide a direct and sub-

stantial benefit to the estate. App. 33a-34a. The court

acknowledged Zurich’s argument that its claim for de-

ductibles arose during the bankruptcy because Horizon

assumed the insurance policies, and the accidents or

other occurrences giving rise to the workers’ compen-

sation claims necessarily took place, before the bank-

ruptcy ended. But the court dismissed that argument,

reasoning that it “does not alter the dispositive adjudi-

cation that the payment of the claimed expenses when

they truly arise”’—in the court’s view, only after the

bankruptcy’s conclusion—“would not act to either pre-

serve [or] benefit the estate.” App. 40a. Because Zu-

rich’s claim for deductibles would not arise until after

the bankruptcy, the court reasoned, it could not be an

11

administrative-expense claim that could be asserted in

the bankruptcy.’

5. The Sixth Circuit affirmed in a published, per

curiam opinion that adopted the district court’s reason-

ing. App. 2a.

REASONS FOR GRANTING THE WRIT

The Sixth Circuit’s decision conflicts with two lines

of cases from other courts of appeals and with this

Court’s decision in Reading Co. v. Brown, 391 U.S. 471

(1968). First, the court’s conclusion that a debtor’s ob-

ligation to pay a creditor under a contract assumed dur-

ing the bankruptcy does not benefit the estate—and is

not an administrative expense—if the payment is not

yet due at the time of confirmation conflicts with deci-

sions of the First, Second, and Fourth Circuits, and

rests on a premise rejected in Reading. Second, the

court’s conclusion that Zurich’s claim did not arise until

its right to payment accrued as a matter of state con-

tract law exacerbated one of the most significant and

deeply entrenched splits of authority in bankruptcy

law: the well-established three-way division of author-

ity regarding how to determine when a bankruptcy

claim arises. Both questions are recurring, significant

to debtors’ ability to reorganize, and likely to be even

> The district court refused to rest its decision on two of the

grounds the bankruptcy court relied on. First, it rejected the

bankruptcy court’s conclusion that Zurich’s claim was untimely,

holding that Zurich had filed its claim before the bar date and

nothing more was required. App. 5la-53a. Second, although the

district court suggested that estimation might not be appropriate

for an administrative-expense claim, it chose not to make that sug-

gestion part of its holding. App. 44a-47a (discussing estimation in

section entitled “Other (Non-Dispositive) Considerations”).

12

more important in the near future, as the nation’s eco-

nomic crisis brings a wave of new bankruptcies.

I. THE SIXTH CIRCUIT’S HOLDING THAT FUTURE OBLIGA-

TIONS UNDER A CONTRACT ASSUMED DURING BANK-

RUPTCY ARE NOT ADMINISTRATIVE EXPENSES CONFLICTS

WITH DECISIONS OF OTHER CIRCUITS AND Is IN TENSION

WITH THIS COURT’S PRECEDENT

A. The Sixth Circuit’s Holding Conflicts With The

Decisions Of Other Courts Of Appeals

The Sixth Circuit, adopting the district court’s rea-

soning, held that Horizon’s obligation to pay deducti-

bles under the Zurich policies it assumed during its

bankruptcy so that it could continue operating its busi-

ness was not an “actual, necessary cost[] and expense[]

of preserving the estate” under §503(b)(1)(A). The

court reasoned that payment of the deductibles could

not “preserve [the] estate” because Horizon would not

become obligated to pay them until after the bank-

ruptcy case had ended. App. 27a. Similarly, applying

the “benefit to the estate” test that various courts have

employed to determine whether a claim is entitled to

administrative-expense priority, the court reasoned

that “the payment of the deductibles, when and if they

should arise ... does not provide a direct and substan-

tial benefit to, nor act to preserve, a bankruptcy estate

where there is no longer an estate to benefit.” App.

oda.

That reasoning suffers from a fundamental flaw: it

asks whether payment of the deductibles would pre-

serve or benefit the estate, rather than asking whether

the wxswrance Horizon received in return for agreeing

to pay premiums and deductibles preserved or bene-

fited the estate. The purpose of granting priority to

administrative expenses is to induce providers of es-

13

sential funds, goods, and services—such as insurance—

to continue doing business with a debtor. The Sixth

Circuit accordingly erred by concluding that “the bene-

fit [to the estate] should be measured” only when the

payment would become due, App. 32a, rather than dur-

ing the bankruptcy case, when Horizon was enabled to

continue its business by the insurance Zurich provided.

Three other federal courts of appeals have ad-

dressed this precise question and reached the opposite

conclusion. See In re Hemingway Transp., Inc., 993

F.2d 915 (1st Cir. 1993); In re Klein Sleep Prods., Inc.,

78 F.3d 18 (2d Cir. 1996); 7x re Merry-Go-Round En-

ters., Inc., 180 F.3d 149 (4th Cir. 1999). In concluding

that claims arising from contracts and other obligations

that entail future payments are entitled to administra-

tive priority, those courts have properly focused on the

benefit to the estate at the time the debtor entered into

or assumed a contract, or incurred a liability, that obli-

gated it to make future payments. They hold that if the

consideration the estate received in return for its con-

tractual obligations benefited the estate or was other-

wise necessary to its preservation, then all the obliga-

tions the debtor undertook—including future payment

obligations—are entitled to administrative-expense

priority. Under the rule adopted by these courts of ap-

peals, Zurich would have been entitled to payment of

its claim for deductibles as an administrative expense.

The First Cireuit reached this result in Heming-

way, a case concerning liability for future environ-

mental clean-up costs under the Comprehensive Envi-

ronmental Response, Compensation, and Liability Act,

42 U.S.C. §§9601-9657 (““CERCLA”). The debtor in

that case, Hemingway, operated a trucking facility con-

taminated by leaking drums of hazardous substances.

After Hemingway filed a Chapter 11 bankruptcy peti-

14

tion, a land developer, Juniper, purchased the facility

for $1.6 million. See 993 F.2d at 919-920. The EPA or-

dered Juniper to remove the drums, and Juniper filed a

claim against the Hemingway estate, seeking to re-

cover its past and future clean-up costs as administra-

tive expenses. See id. at 920. The First Circuit held

that Juniper’s claim for future clean-up costs was enti-

tled to administrative priority under §503(b)(1)(A),

provided that it survived a provision of the Bankruptcy

Code—immaterial to this case—that restricts a claim-

ant’s ability to recover on debts on which it is jointly

liable with the debtor. See id. at 934, 936.” Thus, if Ju-

niper was not jointly liable with the debtor for the

clean-up costs under CERCLA, the First Circuit held,

its “claim for past and future [clean-up] costs should be

“Both the current owner of a contaminated facility and the

entity that owned the facility at the time of hazardous waste dis-

posal are potentially responsible parties under CERCLA. See

generally 42 U.S.C. §9607(a). The EPA had designated both Juni-

per and Hemingway as potentially responsible parties. See 993

F.2d at 920 & n.2.

: Specifically, the Code requires disallowance of “any claim

for ... contribution of an entity that is liable with the debtor on ...

the claim of a creditor, to the extent that ... such claim for ... con-

tribution is contingent as of the time of allowance or disallowance.”

11 U.S.C. §502(e)(1)(B). Because the EPA had not yet ordered

clean-up beyond its initial demand, Juniper’s claim for future

clean-up costs was “contingent” on such a future order from the

EPA. 993 F.2d at 923. Thus, Juniper's claim would be barred by

§502(e)(1)(B) if it were a claim for “contribution” on a debt on

which Juniper and Hemingway were jointly liable to the EPA. If,

on the other hand, Juniper could avoid liability under CERCLA—

for example, by establishing that it was an “innocent landowner”

who purchased the facility without notice that it was contami-

nated—Juniper would not be “liable with the debtor” and its claim

for future clean-up costs would not be barred by §502(e)(1\B).

15

estimated and allowed as administrative expenses enti-

tled to priority.” Jd. at 984 (emphasis added).

In reaching that conclusion, the First Circuit began

with the “benefit to the estate” test as first set out in

In re Mammoth Mart, Inc., 536 F.2d 950, 954 (1st Cir.

1976). Under that test, a claim is an “actual, necessary

cost{j and expense[] of preserving the estate” under

§503(b)(1)(A) if (1) the right to payment “arose from a

postpetition [as opposed to pre-bankruptcy] transaction

with the debtor,” and (2) “the consideration supporting

the right to payment was beneficial to the estate of the

debtor.” Hemingway, 993 F.2d at 929 (internal quota-

tion marks omitted). Like Lexington here, the trustee

in Hemingway argued that Juniper’s future clean-up

costs under CERCLA were not administrative ex-

penses because Juniper’s payment of those costs would

not benefit the estate. See id. at 929-930. The First

Circuit rejected that argument. In direct contradiction

to the Sixth Circuit’s reasoning below, the First Circuit

held that, in determining whether Juniper’s claim was

an administrative expense, the relevant. inquiry was

not whether the payment of clean-up costs would bene-

fit the estate, but whether the consideration Juniper

had provided, and from which its claim ultimately

-arose—there, the $1.6 million purchase price Juniper

had paid for the facility—benefited the estate. “Obvi-

ously,” the court observed, “this substantial infusion of

cash benefited the chapter 11 rehabilitation effort.

Thus, the $1.6 million in purchase monies constituted

the requisite baseline ‘consideration’ for Juniper’s right

to contribution; and {clean-up] costs subsequently in-

curred by Juniper a mere maturation of that right, im-

material for Mammoth Mart purposes.” /d. at 930.

Zurich would have prevailed under this analysis.

The workers’ compensation and other insurance cover-

16

age it provided to Horizon during the bankruptcy un-

questionably benefited the estate—as the court itself

acknowledged. App. 10a-lla (“There can be no ques-

tion that ... the insurance coverage provided by the Zu-

rich Policies was critical to the Debtors’ operations.

Without [it], the Debtors would have been unable to

operate their business as a going concern both prior to

and during the pendency of the bankruptcy.”). As in

Hemingway, the expenses for which Zurich seeks pay-

ment in the bankruptcy—reimbursement of the de-

ductibles it will have to advance under the insurance

agreements—are a “mere maturation of [its] right” to

be paid in return for the valuable consideration it pro-

vided to the debtor’s estate. 993 F.2d at 930. The deci-

sion below squarely conflicts with Hemingway.°

The Second and Fourth Circuits have also allowed

the recovery of future payment obligations as adminis-

trative expenses, likewise reasoning that the proper

focus of the “benefit” analysis is the consideration the

debtor received in return for entering into the contract

giving rise to the future payment obligations. In the

Fourth Circuit’s decision in Merry-Go-Round, the

debtor entered into a ten-year lease for retail store

° Not only did the First Circuit hold that Juniper's claim for

future clean-up costs could be allowed as an administrative ex-

pense, it recognized that the forward-looking nature of the claim

meant that Juniper's clean-up costs would have to be estimated.

See 993 F.2d at 934 & n.25 (“Juniper's claim for ... future [clean-up]

costs should be estimated and allowed as administrative expenses

entitled to priority.”). Thus, had the Sixth Circuit squarely held,

rather than endorsing the district court’s “non-dispositive” sug-

gestion, that estimation is unavailable for an administrative ex-

pense claim under §503(b)(1)(A), App. 44a-47a, it would have cre-

uted a circuit split on that issue too.

17

space during its Chapter 11 bankruptcy case. See 180

F.3d at 152. Merry-Go-Round’s reorganization efforts

failed, and the case was converted to Chapter 7. The

Chapter 7 trustee subsequently rejected the lease and

returned the premises to the landlord, giving rise to a

contractual claim for the future rent for the remainder

of the lease. See id. at 152-154. The landlord filed a

claim seeking administrative-expense treatment for the

future rent due under the lease. The trustee opposed

allowance of the claim on grounds similar to those ad-

vanced by Lexington here, arguing that it did not rep-

resent an “actual, necessary cost and expense of pre-

serving the estate” under §503(b)(1)(A) because once

the leased premises were vacated, the estate no longer

made any actual use of them and the lease was no

longer necessary to the estate. See id. at 156-157.

The Fourth Circuit rejected those arguments and

held “as a matter of law” that the landlord’s claim for

future rent was an administrative expense. 180 F.3d at

155. It reasoned—in direct contradiction to the Sixth

Circuit here—that the future rent was an “actual” ex-

pense of preserving the estate because it arose out of a

transaction between the debtor and the landlord during

the bankruptcy. Jd. at 157. Moreover, the future rent

was a “necessary” expense of preserving the estate be-

cause, before conversion to Chapter 7, the lease clearly

was beneficial to the debtor, permitting it to continue

operating its business. Jd. The court explained that

because landlords would refuse to enter leases with

tenants in bankruptcy without some assurance that the

rent obligations would be paid in full, “the future rent

.. Was an actual and necessary expense [of] preserving

the estate” and thus entitled to administrative priority.

Td. at 158.

18

The Second Circuit has similarly held that future

rent owed under a lease assumed and then rejected

during a bankruptcy case must be treated as an admin-

istrative expense. In Klein Sleep, the debtor assumed

a long-term retail lease so that it could continue to op-

erate its business while it tried to reorganize. After its

attempt to reorganize failed, the case was converted to

Chapter 7. The newly-appointed Chapter 7 trustee re-

jected the lease and returned the premises to the land-

lord, triggering the lease’s provision for payment of fu-

ture rent as damages. See 78 F.3d at 20-21. The land-

lord sought administrative-expense treatment for its

claim for future rent. Both the bankruptcy and district

eourts reasoned, like the Sixth Circuit here, that the

future rent was not an administrative expense because

its payment would confer no benefit on the estate. See

td. at 22.

The Second Circuit reversed, holding that “a trus-

tee or debtor-in-possession’s assumption of an unex-

pired lease transforms all liability under the lease ...

into administrative expenses.” 78 F.3d at 22 (emphasis

in original). The court explained that the lower courts’

analysis relied on “an unduly narrow view of the benefit

conferred on an estate when a [debtor] assumes an un-

expired jease.” Jd. at 24. When the debtor assumed

the lease, the court held, it obtained the rights to pre-

sent and future possession of the premises, which “had

a present value at the time of assumption. Acquisition

of those rights clearly constituted a benefit to the es-

tate even if, later, the benefit turned to dust.” /d. at 26.

A contrary holding, the court noted, “would mean that

any post-bankruptcy contract, entered into for the

benefit of a bankrupt’s estate, would cease to be enti-

tled to priority the moment the deal turned sour.” Jd.

Such a result would contravene the purpose of the ad-

19

ry)

ministrative-expense provisions: to encourage suppli-

ers of essential credit, goods, and services to undertake

the risk of dealing with a company in bankruptcy.’

The reasoning and result of the Sixth Circuit in this

case squarely contradict the Fourth Circuit’s decision

in Merry-Go-Rourd and the Second Circuit’s decision

in Klein Sleep. Under the Fourth Circuit’s reasoning in

Merry-Go-Round, Zurich’s claim for future deductibles

was “actual” within the meaning of $503(b)(1)(A) be-

cause it stemmed from a transaction with the bank-

ruptcy estate, and it was “necessary” because it was an

obligation Horizon undertook in returr. for the provi-

sion of insurance it needed to operate its business. See

180 F.3d at 157. And, as the Second Circuit explained

in Klein Sleep, asking whether the payment of future

obligations under a contract benefits the estate—as the

Sixth Cirevit did here—takes “an unduly narrow view

of the benefit conferred on an estate” when a debtor

enters into or assumes a contract for necessary goods

or services during a bankruptcy. 78 F.3d at 24. As in

Klein Sleep, “(ajequisition of th{e] rights (to insurance]

clearly constituted a benefit to the estate even if, later,

” See also In re Frontier Props., Inc., 979 F.2d 1358, 1367 (9th

Cir. 1992) (when a debtor assumes and then rejects an executory

contract post-petition, “all of the liabilities flowing from that rejec-

tion are entitled to priority as administrative expenses of the es-

tate”). Following Klein Sleep and Frontier, BAPCPA amended

§503 by adding paragraph (b)(7), which caps the amount of rent

entitled to administrative-expense treatment for a nonresidential

real-property lease assumed, then rejected, under §365. Pub. L.

No. 109-8, §445. The imposition of the cap, however, did not

change the holding of those cases relevant here: that such future

rent payments are administrative expenses.

20

the benefit turned to dust” because Horizon’s reorgani-

zation effort failed. Jd. at 26.

The Sixth Circuit’s failure to recognize these prin-

ciples, and its clear departure from the governing legal

rule in the First, Second, and Fourth Circuits, warrants

this Court’s review.

B. The Sixth Circuit’s Decision Relies On A Premise

Rejected By This Court’s Precedent

The Sixth Circuit’s decision also misapprehends ba-

sic principles articulated by this Court in the leading

case construing the administrative-expense provision.

In Reading Co. v. Brown, 391 U.S. 471 (1968), this

Court construed the predecessor to §503(b)(1)(A) under

the Bankruptcy Act of 1898, which similarly granted

administrative priority to “the actual and necessary

costs and expenses of preserving the estate.” Jd. at

475. The Court was faced with the question whether a

tort claim against the debtor arising during a bank-

ruptcy met that definition; the claimants were building

owners whose properties had been damaged by a fire

caused by the negligence of the bankrupt’s receiver.

See id. at 473. The Court held that those claims did

meet the definition, reasoning that “ ‘actual and neces-

sary costs’ should include costs ordinarily incident to

operation of a business, and not be limited to costs

without which rehabilitation would be impossible.” Jd.

at 483. Accordingly, because the tort claim was the re-

sult of the debtor’s operation of its business during the

bankruptcy, it was entitled to administrative priority.

Reading thus expressly rejected one of the key

premises underlying the Sixth Circuit’s decision: the

notion that a payment must benefit the estate to be en-

titled to administrative priority. Instead, the proper

inquiry is whether the debt was incurred through the

21

operation of the debtor’s business, as a result of its ef-

forts to continue the business as a going concern (either

for reorganization or sale to the highest bidder). That

is unquestionably true here: the insurance coverage

Zurich provided permitted the debtor to continue oper-

ating as it sought to reorganize, to *h« benefit of the

estate and its creditors. See, e.g., App. 1Ua-lla (without

the Zurich policies, Horizon “would have been unable to

operate ... as a going concern ... during the pendency of

the bankruptcy”). Indeed, Reading specifically noted

that “[i]t is of course obvious that proper insurance

premiums must be given priority, else insurance could

not be obtained.” 391 U.S. at 483. Had the Sixth Cir-

cuit properly applied the legal principles underlying

Reading, it would have recognized that the insurance

provided by Zurich benefited the estate, and that the

obligations owed under the insurance contract thus

were “actual, necessary costs and expenses of preserv-

ing the estate.”

II. THE SIXTH CiRCuIT’sS DECISION EXACERBATES THE En-

TRENCHED SPLIT OF AUTHORITY REGARDING WHEN A

CLAIM AGAINST A BANKRUPTCY ESTATE ARISES

The Sixth Circuit’s decision rested in significant

part on the conclusion that Zurich’s claim for reim-

bursement for deductibles under its policies would not

“arise” until Horizon’s obligation to pay the deductibles

accrued as a matter of state contract law. The district

court acknowledged that Zurich was entitled to reim-

bursement of the deductibles under the insurance poli-

cies. App. 23a-24a (“[I]t is undisputed that Zurich will

be rightfully ‘owed’ any deductible obj zations ad-

vanced under the Zurich Policies (pursuant to the De-

ductible Agreements) when they ‘arise[.]’”). It empha-

sized, however, that the insurance contract did not re-

22

quire Horizon to pay Zurich for the deductibles until

Zurich first paid the claims against Horizon, and con-

cluded that such “expenses that arise and are incurred

post-confirmation should [not] relate back to the under-

lying contractual arrangement during the bankruptcy.”

App. 33a. Indeed, the court held that “the deductible

obligations do not even exist until [workers’ compensa-

tion] claims arise whereby Zurich must advance pay-

ment.” App. 33a-34a.

Accordingly, the court rejected Zurich’s argument

that because its claim stemmed from events during the

bankruptcy—Horizon’s decision to assume the insur-

ance policies, as well as the occurrences that would

later give rise to injuries and workers’ compensation

claims—it was entitled to an administrative-expense

claim against the estate. App. 33a-34a.° Rather, find-

ing that Zurich’s claim did not yet exist and thus could

not be asserted as an administrative-expense claim in

‘the bankruptcy, the court relegated Zurich to whatever

recovery it might be able to obtain “as a creditor of the

dissolved estate”—that is, none. App. 24a.

In so holding, the Sixth Circuit took sides in an en-

trenched three-way circuit split regarding one of the

most important and fundamental questions in bank-

ruptcy law: when does a bankruptcy claim arise? The

* Even if some of the deductibles related to accidents or oc-

currences that took place during the period of insurance coverage

prior to bankruptcy, Horizon’s assumption of the insurance policies

in bankruptcy rendered all obligations under those policies admin-

istrative expenses arising during the bankruptcy case. See 4 Col-

lier on Bankruptcy 4503.06[6)[b] (“[A]ssumption of [a] contract ...

turn[s] a prepetition liability into a postpetition liability,” “entitied

to administrative expense priority.”).

23

answer to that question plays a crucial role in a claim-

ant’s recovery. If a claim arises before the filing of the

bankruptcy petition, it receives no special priority,

unless it falls into one of the narrow categories set out

in §507. If such a pre-bankruptcy claim is unsecured, it

will likely receive only cents on the dollar, if it is paid at

all. If, on the other hand, a claim arises after the filing

of the bankruptcy petition and during the bankruptcy,

it will generally be an administrative expense entitled

to priority over the claims of pre-bankruptcy creditors.

Such administrative-expense claimants will typically

receive a far higher proportion of the amount they are

owed. Finally, if a claim does not arise until after the

bankruptcy case is concluded, it is not entitled to pay-

ment in the bankruptcy at all (nor is it discharged in

bankruptcy). In that case, if the debtor succeeds in re-

organizing, the claim may be asserted against the reor-

ganized entity. In the common event that the debtor

liquidates—as occurred here—the claimant will almost

certainly recover nothing: “its right to recover exists

in theory but is not enforceable in practice.” Reading,

391 U.S. at 478.

The courts of appeals have adopted at least three

different approaches to determining when a bank-

ruptcy claim arises. The Sixth Circuit’s approach—

concluding that a “claim” for bankruptcy purposes

arises when the creditor’s right to payment accrues un-

der state law—haa previously been adopted by the

Third Circuit. See In re M. Frenville Co., 744 F.2d 332

(3d Cir. 1984). But six other circuits have rejected the

Frenville approach, instead adopting analyses falling

into two broad categories: the Fourth and Tenth Cir-

cuits have adopted the so-called “conduct test,” under

which a bankruptcy claim arises when the conduct giv-

ing rise to the claim occurs, and the Second, Fifth,

24

Ninth, and Eleventh Circuits have adopted either the

“relationship” test, under which a claim arises when the

debtor’s conduct giving rise to the claim has occurred

and the debtor and creditor have formed a relationship,

or a variant known as the “fair contemplation” test,

which adds the nuance that the claim must be within

the “fair contemplation” of the parties before it can be

asserted (or discharged) in the bankruptcy.

Frenville itself turned on whether the claim at is-

sue arose before or after the filing of the bankruptcy

petition. See 744 F.2d at 333. An accounting firm that

the debtors had engaged as an auditor was sued by 4

group of banks for negligently preparing the debtors’

financial statements. See id. The accounting firm

wished to obtain indemnification or contribution from

the debtors via a third-party complaint, which was per-

missible under the automatic-stay provision, 11 U.S.C.

$362(a)(1), only if the firm’s claim arose before the filing

of the bankruptcy petition. See 744 F.2d at 334. The

court acknowledged that “the debtor[s’] acts which

form the basis of [the] suit”—preparation of the finan-

cial statements—“occurred pre-petition,” but neverthe-

less, looking to New York law, held that the accounting

firm’s claim for contribution or indemnification from the

debtor arose only post-petition, once it had been sued

by the banks. Id. at 334, 337 (“{T]he threshold question

of when a right to payment arises ... ‘is to be deter-

mined by reference to state law.’” (citation omitted)).

The Frenville decision has been widely criticized, but

the Third Circuit has repeatedly announced its inten-

tion to adhere to it. See, e.g., Jones v. Chemetron Corp.,

212 F.3d 199, 206 (3d Cir. 2000) (“We are cognizant of

25

the criticism the Frenville decision has engendered, but

it remains the law of this circuit.” (footnote omitted)).”

Other than the Sixth Circuit, every court of appeals

to consider the issue has rejected Frenville’s focus on

the time at which a right to payment accrues under

state law, noting the breadth of the definition of “claim”

under the Bankruptcy Code and the undesirable conse-

quences that may follow from an overly restrictive

reading of that definition. The Fourth Circuit and

Tenth Circuit have adopted the so-called “conduct”

test, under which a claim arises when the conduct giv-

. Confirming the entrenched nature of the split, the Sixth Cir-

cuit had previously endorsed the Third Circuit’s Frenville line of

authority in CPT Holdings, Inc. v. Industrial & Allied Employees

Union Pension Plan, 162 F.3d 405 (6th Cir. 1998), CPT7' held that

a pension plan’s claim against a debtor employer for withdrawal

liability under ERISA arose only when the plan acquired a cause

of action under ERISA after the bankruptcy, splitting with other

cases that had held that a contingent bankruptcy claim for with-

drawal ‘iability existed prior to the accrual of an ERISA cause of

action. See id. at 408-409. The Sixth Circuit reasoned that “[i]t is

not enough ... to look at the broad definition of ‘claim’ in the Bank-

ruptey Code.” /d. at 409. Rather, “[t]he relevant non-bankruptcy

law must be examined” to determine when a “right to payment”

arises. Id. In so holding, the Sixth Circuit chose to follow the

Third Circuit’s decision in In re Remington Rand Corp., 836 F.2d

825 (3d Cir. 1988), which itself relied on Frenville to hold that “the

existence of a valid claim” under bankruptcy law depends on

whether a right to payment exists under the non-bankruptcy law

that governs the claim. See id. at 830. Although, prior to CPT and

this case, the Sixth Circuit had stated that “the proper standard

for determining [a] claim’s administrative priority looks to when

the acts giving nse to a liability took place, not when they ac

crued,” Jn re Sunarhauserman, Inc., 126 F.3d 811, 818 (6th Cir.

1997), that case did not discuss the split of authority or the F’ren-

ville reasoning later adopted by CP7' and applied by the court in

this case.

26

ing rise to the claim occurred. The Fourth Circuit first

adopted that analysis in the bankruptcy of A.H. Robins,

the manufacturer of the Dalkon Shield intrauterine de-

vice. See Grady v. A.H. Robins Co., 839 F.2d 198, 201

(4th Cir. 1988) (expressly rejecting the reasoning of

Frenville and concluding that a claimant who had a

Dalkon Shield inserted before the bankruptcy petition

had a “claim” for purposes of the automatic-stay provi-

sions even if injury would not manifest itself until post-

petition), affg 63 B.R. 986 (Bankr. E.D. Va. 1986) (hold-

ing that a “claim” arises at the “time when the acts giv-

ing rise to the alleged liability were performed”). The

Fourth Circuit has subsequently applied that analysis

in other contexts. See Butler v. Nationsbank, N.A., 58

F.3d 1022 (4th Cir. 1995). Butler concerned a bank’s

claim to recover on a fraudulently endorsed check. The

debtor had deposited the check before filing his bank-

ruptcy petition. The court held that it was that under-

lying act—and not the bank’s post-petition awareness

of the forgery and efforts to recover the funds—that

gave rise to the claim. See id. at 1029 (expressly refus-

ing to follow Frenville, and concluding that the bank

“had a claim as soon as [the debtor] deposited the

fraudulently endorsed check,” even though recovery

“was contingent upon the receipt of notice of the for-

gery”).

The Tenth Circuit has similarly held that a mal-

practice claim arises on the date the underlying conduct

occurred, not on the date a cause of action accrued un-

der state law. See In re Parker, 313 F.8d 1267, 1269

(10th Cir. 2002) (describing “conduct theory” as “more

in tune with the plain language and the policy underly-

ing the Bankruptcy Code”). The Tenth Circuit likewise

expressly rejected the Frenville approach, approvingly

citing the Fourth Circuit’s observation that “ ‘the legis-

27

lative history shows that Congress intended that all le-

gal obligations of the debtor, no matter how remote or

contingent, will be able to be dealt with in bank-

ruptcy.’” Parker, 313 F.3d at 1269 (quoting A.H. Rob-

ins, 839 F.2d at 202).

Four other courts of appeals have likewise rejected

Frenville, but have adopted analyses under which a

claim arises either when a “relationship” is formed be-

tween the debtor and the claimant or when the claim

can be said to be within the “fair contemplation” of the

parties prior to the bankruptcy. In /n re Chateaugay

Corp., 944 F.2d 997 (2d Cir. 1991), the Second Circuit

considered the extent to which future clean-up costs

that might be expended by the EPA under CERCLA

based on the debtor’s release of hazardous waste prior

to bankruptcy constituted “claims” dischargeable in the

bankruptcy. The court reviewed both the approach un-

der which a “claim” exists only once a state-law right to

payment has accrued, and the approach under which a

“claim” exists as soon as the pre-bankruptcy conduct on

which it was based occurred, and adopted a middle

ground, holding that at a minimum the debtor and

creditor must have a “relationship,” such as the rela-

tionship between a regulated entity and regulator, at

the time of filing the petition. See id. at 1001-1005. Ap-

plying that test, the court found that the EPA had a

claim in the bankruptcy for all future clean-up costs

arising from the debtor’s pre-bankruptcy discharge of

hazardous waste. See zd. at 1005.

The Fifth Circuit applied a similar “relationship”

test in Lemelle v. Universal Manufacturing Corp., 18

F.3d 1268 (5th Cir. 1994). The plaintiff in that case

sought to go forward with a wrongful-death claim

against the manufacturer of an allegedly defective mo-

bile home that had burned down. The defendant ar-

28

gued that the plaintiffs claim had been discharged in its

bankruptcy, which occurred after it manufactured and

distributed the mobile home but before the fire. The

Fifth Circuit noted the three conflicting lines of author-

ity, see id. at 1275-1276, and concluded that the absence

of any “pre-petition contact, privity, or other relation-

ship” between the manufacturer and the plaintiff pre-

cluded a finding that her claim arose prior to discharge,

id. at 1277.

In In re Piper Aircraft Corp., 58 F.3d 1573 (11th

Cir. 1995), the Eleventh Circuit addressed the question

whether Piper, an aircraft manufacturer, could dis-

charge in its bankruptcy all claims that might be as-

serted in the future by any person arising out of air-

craft manufactured or distributed by Piper before

bankruptcy. The court acknowledged the three-way

split on the issue, and declined to adopt either the

Frenville “state law claim theory,” id. at 1576 n.2, or

the Fourth Circuit’s “conduct” test, id. at 1576-1577,

which might have supported the broad relief sought by

the debtor. Rather, it held that “[{t]he debtor’s prepeti-

tion conduct gives rise to a claim to be administered in

a case only if there is a relationship established before

confirmation between an identifiable claimant ... and

[the debtor’s] prepetition conduct.” Jd. at 1577.

Finally, in another environmental clean-up case,

the Ninth Circuit adopted a more restrictive variant of

the “relationship” test often called the “fair contempla-

tion” test, holding that “all future ... cost(s] based on

pre-petition conduct that can be fairly contemplated by

the parties at the time of [the] bankruptcy” are

“claims” under the Bankruptcy Code. Jn re Jensen, 995

I’ 2d 925, 980 (9th Cir. 1993) (internal quotation marks

omitted). The court reviewed and rejected both the

broad “conduct” test and “Frenville’s ‘right of payment’

29

theory,” noting that the latter “is widely criticized out-

side the Third Circuit, at least in part because it would

appear to excise ‘contingent’ and ‘unmatured’ claims

from §101(5)(A)’s list.” Jd. at 929-930 (citation omitted).

Under any of the conduct, relationship, or fair con-

templation tests, Zurich would have had a claim for de-

ductibles that arose during Horizon’s bankruptcy, when

Horizon assumed the insurance policies that obligated

it to pay those deductibles. By the conclusion of the

bankruptcy, the contract had been assumed; the period

of insurance coverage had expired; and Horizon un-

questionably understood that it was liable for the de-

ductibles associated with workers’ compensation claims

that would be asserted in the future arising out of that

period of coverage. That Zurich’s claim was dependent

on future workers’ compensation claims being asserted

and paid makes no difference. Under the plain lan-

guage of §101(5) of the Bankruptcy Code, as inter-

preted by a majority of circuits, it was nonetheless a

“claim” in the bankruptcy.

By holding, to the contrary, that Zurich had no

claim that could be asserted in the bankruptcy case be-

cause its contractual right to payment had not yet ac-

crued, the Sixth Circuit aligned itself with the Third

Circuit and against the six courts of appeals that have

rejected the Third Circuit’s approach. It thus exacer-

bated one of the most significant splits of authority in

bankruptcy law, on an issue of central importance to

the effective and uniform administration of the bank-

ruptcy laws. That issue unquestionably merits this

Court’s review.

30

Ill. THE DECISION BELOW WAS INCORRECT AND THREATENS

DEBTORS’ ABILITY TO REORGANIZE

The decision below marks a radical departure from

the settled understanding of §503(b)(1)(A), under which

a claimant who entered into a contract with a debtor

during the bankruptcy case (or whose pre-bankruptcy

contract the debtor assumed) is entitled to administra-

tive priority for all payments due to it under that con-

tract. See, e.g., Bildisco, 465 U.S, at 531 (“If the debtor-

in-possession elects ... to assume [an] executory con-

tract ... it assumes the contract cum onere, and the ex-

penses and liabilities incurred may be treated as admin-

istrative expenses, which are afforded the highest pri-

ority on the debtor’s estate” (citations omitted)); 2 Col-

lier on Bankruptcy 4365.09[5] (when a pre-bankruptcy

contract is assumed and then rejected, “({o}]ne might ar-

gue that if the estate gets no benefit from the breach,

there is no basis for administrative priority.... The bet-

ter approach, however, is to recognize that the estate

receives the benefit of the assumed contract ... and

takes that contract cwm onere. Therefore, any dam-

ages flowing from the breach of a previously assumed

contract should be considered first priority administra-

tive expenses.”).

Horizon unquestionably benefited from the insur-

ance coverage Zurich provided it during the bank-

ruptcy. App. 10a-lla (“There can be no question that

... the insurance coverage provided by the Zurich Poli-

cies was critical to [Horizon’s}] operations. Without the

insurance provided by Zurich, [Horizon] would have

been unable to operate [its] business as a going concern

... during the pendency of the bankruptcy.”); App. lla

n.5 (because state law required Horizon to carry work-

ers’ compensation coverage, “the insurance policies

themselves necessarily constituted a significant benefit

31

to the estate in that the coverage allowed [Horizon’s]|

business to operate”). The insurance contracts it en-

tered with Zurich obligated Horizon to reimburse Zu-

rich for the advanced deductibles. And a debtor’s obli-

gations under a contract necessary to operate its busi-

ness are ipso facto actual, necessary costs of preserving

the estate.

The Sixth Circuit’s contrary decision is an unduly

narrow interpretation of the Bankruptcy Code’s admin-

istrative-expense provisions. If left uncorrected, it will

significantly impair financially distressed companies’

ability to reorganize. Reorganization depends critically

on the willingness of lenders, suppliers, landlords, in-

surers, and other parties to provide the debtor with

needed credit, goods, and services during the bank-

ruptey, so that it can preserve and potentially rehabili-

tate its business. Such parties will have good reason to

be wary of providing credit to an entity in bankruptcy,

whose ability to pay is necessarily in doubt. The Bank-

ruptcy Code therefore grants administrative-expense

claims priority over claims of other creditors, assuring

such parties that if they do business with a company in

bankruptcy, they will be paid amounts due to them in

full. The Sixth Circuit’s decision undermines that as-

surance, imposing on parties contracting with debtors

the risk that, if the debtor’s reorganization efforts fail,

they will be left unpaid. Such uncertainty will seriously

threaten debtors’ ability to obtain the goods and ser-

vices they need to reorganize.

This risk is particularly acute for debtors that re-

quire any type of liability insurance. Insurers will be

unwilling to offer debtors the type of insurance policies

they are most likely to afford—policies requiring the

payment of deductibles. Cf In re Ionosphere Clubs,

Inc., 85 F.3d 992, 994 (2d Cir. 1996) (noting that no in-

32

surance company was willing to offer guaranteed-cost

workers’ compensation coverage to financially dis-

tressed airline). As this Court explained in Reading,

“(ijt is of course obvious that proper insurance premi-

ums must be given priority, else insurance could not be

obtained,” 391 U.S. at 483, and insurance is necessary

to every debtor’s business. Without affordable insur-

ance, many Chapter 11 debtors will have no opportu-

nity to attempt reorganization, and will be forced to

liquidate.

Indeed, even debtors’ ability to liquidate in the

fashion most beneficial to their creditors will be im-

paired. Deprived of the opportunity to operate their

businesses as going concerns while seeking the highest

bidder for those businesses, debtors may be forced in-

stead to sell their assets at “fire sale” prices, dramati-

cally reducing the value of the estate and the distribu-

tions to creditors.’°

The Sixth Circuit’s narrow construction of the

Bankruptcy Code’s expansive definition of “claim”

likewise presents an issue of the greatest significance

10 d eo ; ve :

Tie Sixth Circuit’s construction of the administrative-

expense provisions is also likely to have serious repercussions for

states that permit employers to self-insure their workers’ compen-

sation obligations. Under these programs, the employer pays

benefits directly to employees. See, e.g., Mich. Admin. Code, R.

408.43¢e(1). Many states have established state guaranty funds,

from which an injured employee can collect if insolvency prevents

the employer from paying the claim. See, e.g., Mich. Comp. Laws

Serv. §§418.501(1), 418.537(1). The Sixth Circuit’s decision raises

the prospect that state funds that pay the workers’ compensation

claims of insolvent employers wil) not be able to recover those

payments from the employers’ estates, and that the shortfall will

devolve on either the state or the injured employees.

33

to the administration of bankruptcies. The division of

authority on that most basic of questions seriously im-

pairs the uniformity that bankruptcy law requires. A

claimant like Zurich, who in the great majority of cir-

cuits would be an administrative claimant entitled to

priority over the claims of other creditors, in the Third

Circuit or Sixth Circuit has no claim in the bankruptcy

case at all. Likewise, a claimant who holds a contingent

claim under the relationship test prior to bankruptcy,

but whose right to payment accrues under state law

only during the bankruptcy, in the majority of circuits

would be a pre-bankruptcy creditor entitled only to

share pro rata with other like creditors, but in the

Third Circuit or Sixth Circuit would be entitled to ad-

ministrative priority. That outcome upends the goals of

the administrative priority provisions: to encourage

dealings with entities during their bankruptcy cases. It

also has profound implications for any bankruptey—

most obviously, those involving tort and environmental

liabilities—in which there are likely to be claimants

harmed by the debtor’s pre-bankruptcy conduct, but

whose injury becomes manifest only later.

The prompt resolution of the questions presented is

particularly critical now, when the global economic cri-

sis has left many of the nation’s leading industrial com-

panies on the verge of bankruptcy. Many economic

forecasters predict a substantial surge in corporate

bankruptcy filings, extending well into 2010.'' The live-

' See, e.g., Siew, US Company Bankruptcies May Top 100

Next Year, Reuters (July 31, 2008) (bankruptcies of public compa-

nies with more than $100 million in assets “may soar to more than

100 in 2009”), available at www.reuters.com; Bain & Company,

Bankruptcies of Large U.S. Companies Tu Extend Into 2010 (Dec.

1, 2008) (similar projection for 2010), available at www.bain.com.

34

lihoods of many workers, as well as the success of those

who do business with these troubled companies, will

turn on whether their attempts to reorganize succeed.

The Sixth Circuit’s decision is a substantial impediment

to those efforts. It warrants this Court’s review.

CONCLUSION

The petition for a writ of certiorari should be

granted.

Respectfully submitted.

KAREN LEE TURNER SETH P. WAXMAN

ECKERT, SEAMANS, Counsel of Record

CHERIN & MELLOTT, LLC CRAIG GOLDBLATT

Two Liberty Place DANIELLE SPINELLI

50 South 16th Street ’ WILMER CUTLER PICKERING

Philadelphia, PA 19102 HALE AND DORR LLP

(215) 851-8400 1875 Pennsylvania Ave. NW

Washington, DC 20006

(202) 663-6000

JAMES H. MILLAR

JANET R. CARTER

WILMER CUTLER PICKERING

HALE AND DORR LLP

399 Park Avenue

New York, NY 10022

(212) 230-8800

APRIL 2009

APPENDICES

la

APPENDIX A

In re HNRC DISSOLUTION COMPANY, formerly

known as Horizon Natural Resources Company, et

al., Debtors.

Zurich American Insurance Company, Appellant,

v.

Lexington Coal Co., LLC, Appellee.

No. 07-5894.

United States Court of Appeals,

Sixth Circuit.

Argued: July 29, 2008.

Decided and Filed: Aug. 13, 2008.

Appeal from tie United States District Court for the

Eastern District of Kentucky at Ashland. No. 06—

00104—David L. Bunning, District Judge.

Before: ROGERS and McKEAGUE, Circuit

Judges; ADAMS, District Judge.”

OPINION

PER CURIAM.

Zurich American Insurance Co. (“Zurich’’) provided

insurance coverage to Horizon Natural Resources Co.,

et al., (“the Debtors”) during the pendency of the Debt-

ors’ Chapter 11 bankruptcy proceedings. The policies

issued to the Debtors were “deductible policies,” mean-

‘ The Honorable John R. Adams, United States District

Judge for the Northern Distnct of Ohio, sitting by designation.

2a

ing that Zurich would pay the entirety of any claims

made and would later seek reimbursement from the

Debtors for the deductible portion. After confirmation

of the Debtors’ plans, but before the expiration of the

date set for the filing of administrative expense claims,

Zurich filed an administrative expense claim. Zurich’s

administrative expense claim seeks payment of

$14,593,567.79, which is an actuarial estimate of the de-

ductible portion of the claims that Zurich believes it

will pay in the future for injuries that occurred during

the coverage period but were not the subject of insur-

ance claims until after confirmation of the Debtors’

plans. Both the bankruptcy court and the district court

denied Zurich’s administrative expense claim, holding

that it does not constitute an “actual, necessary cost[ ]

and expense[ ] of preserving the estate” as is required

by 11 U.S.C. § 503(b)(1 (A).

On appeal to this court, Zurich argues that the

bankruptcy court and the district court misinterpreted

11 U.S.C. § 503(b)(1)(A). Furthermore, Zurich argues

that the lower courts should have permitted the esti-

mation of Zurich’s administrative expense claim under

11 U.S.C. § 502(c). We find no merit in Zurich’s argu-

ments. Because it would be difficult for us to add any-

thing of substance to the district court’s comprehensive

and well-reasoned opinion, we AFFIRM for the rea-

sons stated by Judge David L. Bunning in Zurich Am.

Ins. Co. v. Lexington Coal Co., LLC (In re HNRC Dis-

solution Co.), 371 B.R. 210 (E.D. Ky. 2007).

3a

APPENDIX B

In re HNRC DISSOLUTION COMPANY f/k/a Horizon

Natural Resources Company, et al.,

Debtors.

Zurich American Insurance Company,

Appellant,

v.

Lexington Coal Company, LLC, Appellee.

Civil Action No. 06—104—DLB.

Bankruptcy No. 02-14261.

United States District Court,

E.D. Kentucky, Northern Division, at Ashland.

July 2, 2007.

Order Denying Stay July 26, 2007.

MEMORANDUM OPINION & ORDER

BUNNING, District Judge.

I. INTRODUCTION

Pursuant to 28 U.S.C. § 158(a)(1), Appellant, Zurich

American Insurance Company (“Zurich”), brings this

appeal against Appellee, Lexington Coal Company

(“LCC”). Appellant seeks relief from a final order of

the United States Bankruptcy Court for the Eastern

District of Kentucky, Ashland Division, denying Zu-

rich’s application for allowance of an administrative ex-

4a

pense claim.' The primary issue on appeal asks

whether prospective post-confirmation deductible

payments on insurance policies entered into by the

former Debtors’ estate with Zurich during the pend-

ency of the bankruptcy are entitled to administrative

expense priority under 11 U.S.C. § 503.

This matter is presently before the Court by way of

Appellant’s Notice of Appeal from Bankruptcy Court

(Doc. # 1) and Appellant’s Opening Brief (Docs.# 12, 14)

seeking reversal of the Bankruptcy Court’s denial of

Zurich’s administrative expense claim or, in the alter-

native, remand to the Bankruptcy Court for further

hearings to allow Zurich to present evidence in support

of its claim. LCC subsequently filed a Brief for the Ap-

pellee (Doc. # 24) and Zurich respondea with its Reply

Brief (Doc. # 26). Oral argument was held on June 15,

2007 with Karen Turner present for Zurich and Greg-

ory Schaaf present for LCC. Therefore, this appeal is

now ripe for adjudication by the Court.

Il. BACKGROUND DISCUSSION

A. Summary

During the period from June 29, 1998, to Septem-

ber 30, 2004, Zurich and its affiliated companies pro-

The underlying bankruptcy action is Case No. 02-14261 and

is styled In re HNRC Dissolution Co., f/k/a Horizon Natural Re-

sources Co., et al., 343 B.R. 8389 (Bankr. E.D. Ky. 2006). The or-

ders in question, from which this appeal is taken, are the Memo-

randum Opinion (Bankr. Doc. # 7404) (“Opinion”) and related Or-

der (Bankr. Doc. # 7406) (“Order”).

* This matter is properly before this Court pursuant to Appel-

lant’s election under 28 U.S.C. § 158(c)(1)(A), which permits an

appellant to have a case heard by a district court in lieu of the

Bankruptcy Appellate Panel.

5a

vided workers’ compensation, general liability and

business automobile insurance coverage (the “Zurich

Policies”) to certain of the above-captioned debtors (col-

lectively, the “Debtors”) on various policies containing

“deductibles.” On a deductible policy, the insured

agrees to retain some of the risk of claims and the in-

surance company reduces the premium accordingly.

Under Zurich’s Insurance Program, the insured was

not obligated to pay the deductible in full upon the oc-

currence of the claim, but rather Zurich would advance

money to pay losses and expenses and the insured

would not pay until billed. These advances were inter-

est free.

Zurich’s administrative expense claim is a claim for

the amount of the Ultimate Loss Projection (as defined

herein) minus collateral or loss fund held and minus

past payments made by the Debtors for deductibles.

The present projected amount of the administrative

claim is $14,593,567.79, an amount that would have been

less but for the insolvency of Frontier Insurance Com-

pany, the insurance company that provided certain col-

lateral bonds to secure the Debtors’ obligations as prin-

cipal obligor. As confirmed during oral argument,

these bonds now appear to have de minimis value.

B. Procedural History .

On November 13 and 14, 2002 (the “petition”

dates), the Debtors filed voluntary petitions for relief

under chapter 11 of title 11 of the United States Code

(the “Bankruptcy Code”) in the United States Bank-

ruptecy Court for the Eastern District of Kentucky,

Ashland Division (the “Bankruptcy Court”). Following

the failure of the Debtors’ efforts to reorganize on a

stand-alone basis, the decision was made to pursue the

sale of substantially all of Debtors’ assets.

6a

On August 17, 2004, the Debtors conducted an auc-

tion of substantially all of their remaining assets in ac-

cordance with bidding procedures previously approved

by the Bankruptcy Court. On September 16, 2004, the

Bankruptcy Court entered two orders confirming the

Debtors’ Plans (collectively, the “confirmation Or-

ders”), which granted authority to LCC to object to, as

well as the authority to resolve and settle, all adminis-

trative expense claims in the first instance as a primary

asset purchaser. The Debtors subsequently closed the

sale of their assets to the approved purchasers, and the

Debtors’ plans, as modified by the Confirmation Or-

ders, became effective on September 30, 2004 (the date

of “confirmation” or “liquidation”). Zurich, although

aware of the confirmation hearings and the bankruptcy

generally, did not participate in the proceedings.

According to the confirmed plans, a bar date of De-

cember 29, 2004 was established for the filing of admin-

istrative expense claims (but not ordinary course ad-

ministrative expense claims). On December 29, 2004,

Zurich filed its Administrative Expense Request Form,

identified as ciaim no. 20675 on the Debtors’ claims reg-

ister (the “Administrative Expense Claim”)? Through

its Administrative Expense Claim, Zurich seeks pay-

ment from the Debtors, now LCC, for deductible obli-

gations as an administrative expense based on Zurich’s

ultimate loss projection from claims based upon the

*The Administrative Expense Claim is made up of: (a) the

Administrative Expense Request Form, (b) an Addendum to Ad-

ministrative Expense Request Form, (¢c) Exhibit A, titled “The

Insurance Contracts”, and (d) Exhibit B, titled “Collateral Charge

Summary.”

Ta

relevant insurance policies during the pendency of the

bankruptcy.

On February 18, 2005, LCC filed its Objection to

Claim of Zurich American Insurance Company (Bankr.

Doc. # 5492) (the “Initial Objection”). On July 29, 2005,

LCC filed its Supplemental Objection to Claim of Zu-

rich American Insurance Company (Bankr. Doc. # 6646)

(the “Supplemental Objection,” and, together with the

Initial Objection, the “Objection”). On August 31, 2005,

Zurich filed its Response to Supplemental Objection of

LCC to Claim of Zurich American Insurance Company

(Bankr. Doc. # 6853) (the “Response”). On September

15, 2005, LCC filed its Reply to Response to Supple-

mental Objection of LCC to Claim of Zurich American

Insurance Company (Bankr. Doc. # 6918) (the “Reply”).

Thereafter, on November 21, 2005, the Bankruptcy

Court entered an order requiring the parties to tender

joint stipulations and a list of exhibits (Bankr. Doc. #

7071). On January 24, 2006, Zurich and LCC filed the

Agreed Stipulated Facts and List of Exhibits of Zurich

American Insurance Company and Lexington Coal

Company, LLC (Bankr. Doc. # 7180) (the “Stipulated

Facts’). Subsequently, on May 30, 2006, the Bank-

ruptcy Court entered its Memorandum Opinion and

Order (“Bankruptcy Opinion”) denying Zurich’s Ad-

ministrative Expense Claim (Bankr. Doc. # 7406). On

June 9, 2006, Zurich timely filed its Notice of Appeal

(Bankr. Doc. # 7432).

C. Insurance Policies

Prior to and after the petition dates, Zurich pro-

vided insurance coverage to the Debtors. Zurich and

two of its affiliated companies, American Zurich Insur-

ance Company (“American Zurich”) and Steadfast In-

surance Company (“Steadfast”), issued various insur-

8a

ance policies to the Debtors covering both the pre-

petition and post-petition periods, including but not

limited to workers’ compensation insurance, business

automobile insurance, and general liability insurance.

The Zurich Policies were deductible policies. On a

deductible policy, the insured agrees to retain some of

the risk of claims within the deductible layer. In other

words, similar to automobile or other personal insur-

ance plans, the insured agrees to pay a certain amount

for an expense on a claim where the insurer is then re-

sponsible for any amount of expense that exceeds the

deductible ceiling. In this instance, Zurich would ad-

vance the money to pay the losses and expenses and

the Debtors would then reimburse Zurich when billed

for the deductible costs under the policy.’ For some of

the earlier Zurich Policies, the Debtors made payments

within the deductible layer to a third-party administra-

tor. Under the deductible agreement between the

Debtors and Zurich, default occurs when the insured

“faills] to pay any amount when it is due under this

Agreement....”

Many companies purchase insurance policies that

contain deductibles agreements so that they pay a

smaller premium in exchange for agreeing to bear the

risk of claims within the deductible layer, similar to

personal automobile insurance. These policies are gen-

. Advancing deductible costs is less common where the in-

sured is an individual, rather than a business. Where the deducti-

ble costs are not advanced, the care provider (in a health insurance

context) seeks out the deductible payment or “co-pay” from the

individual that is insured, instead of the insurance company paying

the entire amount due to the care provider and then billing the

insured for the deductible costs (i.e., advancing deductibles).

9a

erally less expensive than policies with no deducti-

bles—commonly referred to as “guaranteed cost” poli-

cies—even after considering the insured’s exposure to

deductibles. Here, because the Debtors purchased de-

ductible policies, their agreed-upon premiums were re-

duced as a result of absorbing some of the risk to the

insurer, Zurich, by way of paying costs within the de-

ductible layer when claims arise. These deductible

costs, as discussed above, would initially be paid in full

by Zurich to the relevant care provider (or other

payee), and Zurich would subsequently bill the Debtors

for the deductible costs that. were advanced under the

terms of the policies.

In the insurance industry, claims are either consid-

ered “open” or “closed.” Claims that are currently ac-

tive are termed “open.” However, an inactive or closed

claim may be reopened sometime in the future due to

- circumstances surrounding the nature of the claim. In

other words, although a claim may occur during a policy

coverage period and may even be closed before the ex-

piration of the coverage period, the claim may be re-

opened and costs may be incurred in connection with

the prior coverage at some juncture after the coverage

has expired; payments on some types of claims may ex-

tend over many years. Because costs often arise after

the end of a coverage period that the insurer must still

pay if the costs stem from a claim filed within the cov-

erage period, there is also an ongoing deductible obliga-

tion of the insured beyond the mere termination of the

coverage period. This is the scenario under which the

current action arises.

For example, a worker may suffer a compensable

injury on December 1, 2002, but receive compensation

payments and medical reimbursements over many

years. Perhaps the condition abates but flares up in fu-

10a

ture years. Or the injury might be latent and manifest

itself years later. In the case of workers’ compensation

insurance, a claim might remain open for years or may

be open, closed, and then reopened. In the insurance

industry, therefore, insurance companies need to un-

derstand and calculate the total expected exposure, re-

ferred to herein as the ultimate loss projection (the

“Ultimate Loss Projection”).

When an insured’s ongoing deductible obligation is

not limited pursuant to a deductible agreement, as in

the current context, an insured will need to know (i.e.,

estimate) these prospective deductible obligations of

the insured in order to project its future cash require-

ments and issue accurate financial statements. Insur-

ance companies also need to know this amount to pre-

pare for future payments and negotiate with the in-

sured as to how these amount... will be paid or secured,

such as through the posting of collateral or loss funds,

assuming alternatives are even allowed by the applica-

ble deductible agreement or negotiated in a renewal

policy.

Both parties to major insurance contracts typically

utilize the expertise of actuaries to calculate the ulti-

mate loss projection within industry standards. The

actual deductible obligations of an insured may be less

than or greater than the insurance company’s Ultimate

Loss Projection. Considering only the amounts that

have been paid on claims as of a specific date may not.

present a complete picture of the total liability for de-

ductibles over time, depending on the language of the

deductible agreement.

There can be no question that here, as in many con-

texts, the insurance coverage provided by the Zurich

Policies was critical to the Debtors’ operations. With-

lla

out the insuranee provided by Zurich, the Debtors

would have been unable to operate their business as a

going concern both prior to and during the pendency of

the bankruptcy.’ Specifically, the workers’ compensa-

tion insurance and business automobile insurance were

vital to the Debtors’ business. Even so, Zurich contin-

ued coverage of the Debtors during bankruptcy with

full knowledge that the deductible obligations of the

soon-to-be dissolved estate may not survive the liquida-

tion. Although Zurich attempted to negotiate varying

forms of protection for the prospective deductibles that

would inevitably arise in the future and likely post-

confirmation, it now appears that some of this protec-

tion—namely bond collateral—will not sufficiently

cover the entire ultimate loss projection, which consti-

tutes mere educated speculation at this stage.

D. Policy Renewal

In September 2002, which was mid-policy for the

year ending June 2003, Zurich raised the issue of collat-

eral with the Debtors to offset its potential risk from

advancing deductible costs under the terms of the pol-

icy. At that vime, the Debtors’ consultant prepared an

estimate. The Debtors began negotiating a renewal

policy with Zurich in January 2003, two months after

Debtors’ filed for bankruptcy reorganization. At the

same time, the Debtors also pursued discussions with

AIG and Old Republic to obtain competing bids from

different insurance carriers. Zurich’s premium request

was nearly half of the amount Old Republic sought for

> State law actually required the Debtors to carry workers’

compensation coverage, so the insurance policies themselves nec-

essarily constituted a significant benefit to the estate in that the

coverage allowed the Debtors’ business to operate.

12a

similar coverage terms. AIG did not provide Debtors

with a quote.

In May 2003, in preparation for a June 2003 policy

renewal, Zurich again discussed with the Debtors the

need for additional collateral to offset the risk to Zu-

rich, primarily surrounding the Debtors’ prospective

deductible obligations under the policy. In these discus-

sions, Zurich explained the “loss pick” with the insured

and discussed the appropriate level of collateral. Zu-

rich initially sought $15,000,000 in collateral, but by the

end of the negotiations, Zurich and the Debtors agreed

to collateral in the amount of $10,000,000, which Zurich

agreed to receive following the effective date of what

was then going to be a stand-alone plan of bankruptcy

reorganization.’ The date of the payment was subse-

quently changed when the bankruptcy plan shifted

from mere reorganization to liquidation of assets and,

ultimately, liquidation of the Debtors’ estate.

Between collateral—$31 million for workers’ com-

pensation and black lung only—and premium costs, the

Debtors estimated that the insurance program would

cost approximately $50 million to fund for the relevant

coverage period. While Zurich and the Debtors contin-

ued to negotiate collateral, a short-term extension be-

ginning June 2003 was negotiated with only a 22% pre-

mium increase, which represented a discounted rate

° The “loss pick” is the estimation of the ultimate loss made at

the beginning of the policy period.

‘The reduction in the negotiated collateral amount also in-

cluded the replacement of certain bonds that would presumably be

of greater risk than the collateral with which they were replaced.

These replacement Frontier bonds, which Zurich now values at

zero, were undated and the true value unknown.

13a

under market conditions and relative to the finalized

terms of the policy reached by the Debtors with Zurich.

At the end of the final negotiations, Zurich and the

Debtors agreed to collateral of $10 million and, by way

of the June 2004 Amended Order (discussed infra), the

date for paymént of the $10 million was altered due to

the shift from reorganization to liquidation.

E. Assumption of Policies

During the course of their chapter 11] proceedings,

the Debtors assumed the Zurich Policies. On Septem-

ber 5, 2008, the Debtors filed with the Bankruptcy

Court the Motion of Debtors for Orders Authorizing

Assumption of Certain Insurance Contracts (Bankr.

Doc. # 1785) (the “Motion to Assume”). Pursuant to the

Motion to Assume, the Debtors sought to assume the

Zurich Policies and Program* pursuant to section 365 of

the Bankruptey Code. In the introductory paragraph

of the Motion to Assume, the Debtors ~.ated that they

sought an order from the Bankruptcy Court authoriz-

ing the “assumption by the Debtors of certain insur-

ance contracts between the Debtors and Zurich Ameri-

can Insurance Company and its affiliates (‘Zurich’) and

other insurers (the ‘Contracts’).”

On September 23, 2003, the Bankruptcy Court en-

tered the Order Granting the Motion of Debtors for an

Order Authorizing Assumption of Certain Insurance

Contracts (the “Assumption Order”). According to Ap-

‘ “Program” was defined in the Motion to Assume at Section

6 as follows: “Since 1998, Zurich (including its affiliated companies)

has provided worker compensation, business automobile, general

liability and other coverages as part of an insurance program for

Horizon and its predecessors and affiliates and all related deducti

ble agreements and specifications thereto (the ‘Program’).”

14a

pellant, Zurich repeatedly communicated to the Debt-

ors that any assumption would be conditioned upon the

Debtors assuming all liabilities for all policies.’ At-

tached to the Motion to Assume were various revised

binders for the renewals, each of which contains the

condition that “The Debtors assume all the Zurich poli-

cies for all years (‘the Policies’) and all liabilities under

Section 365.” The binders also state that “Zurich re-

ceives administrative expense treatment for all monies

due under the Policies.”

All of the insurance coverage extended by Zurich

to the Debtors under the Assumption Order was sub-

ject to renewal on June 29, 2004. Zurich chose not to

renew the insurance policies, which was valid under the

terms of the insurance policies. Subsequent to the non-

renewal, however, Zurich and the Debtors negotiated

terms for extending the coverage period. These nego-

tiations between the Debtors and Zurich resulted in the

June 25, 2004 Stipulation and Amendeu Order Author-

izing Assumption of Insurance Contracts with Zurich

American Insurance Company (Bankr. Doc. # 3381) (the

“June 25, 2004 Amended Order’).

Section J of the June 25, 2004 Amended Order pro-

vides that “the Debtors believe that they will be able to

meet all of their ongoing and future obligations under

the insurance contracts, as and when they become

: Additionally, Paragraph 8 of the Debtors’ Motion to Assume

states: “Zurich informed the Debtors that assumption under sec-

tion 365 of the Bankruptcy Code of the entire package—all pro-

grams, all policies, and all liabilities—would be a condition of any

renewal, and that Zurich’s expectation was that the Debtors would

continue to mect ali their obligations as they came due.”

15a

due....” Additionally, footnote 3 of the June 25, 2004

Amended Order states:

The projected total liability by the Debtors

that will be due and owing to Zurich over the

lifetime of the payments under the Insurance

Contracts is in excess of $10,000,000, and Zu-

rich retains the rights to assert an administra-

tive claim for the balance of any claims under

the Insurance Contracts. The Debtors reserve

the right to object to any additional administra-

tive claim asserted by Zurich.

The June 25, 2004 Amended Order required the Debt-

ors to pay premiums of almost $900,000 per month;

provide additional cash collateral or letters of credit of

$1,255,000 per month; and provide $10 million in addi-

tional cash collateral at the effective date.'°

Although the annual Zurich Policies would have

expired on June 28, 2004, the June 25, 2004 Amended

Order allowed for the policies to be extended on a

month-to-month basis. There were three 30-day exten-

sions thereafter and Zurich subsequently granted two

one-day extensions for a pro rated premium, which Zu-

rich booked on its records as one two-day extension.

The final monthly extension expired on September 28,

2004 at 12:00 midnight, two days before the final bank-

ruptcy plan was confirmed, and the Debtors’ estate dis-

solved.

" Further, section 8 of the June 25, 2004 Amended Order

provides: “The Debtors acknowledge that Zurich is drawinz on

certain surety bonds and letters of credit provided by certain third

parties, which funds are being placed in the loss funds under the

deductible agreements and specifications between the Debtors and

Zurich.”

16a

F. Liquidation of the Estate

On July 11, 2004, the Debtors filed their liquidating

plans (the “Plans”), which contemplated the sale of sub-

stantially all of the Debtors’ remaining assets to the

successful buyer or buyers at an auction to be con-

ducted by the Debtors in acesrdance with bidding pro-

cedures previously approved by the Bankruptcy Court.

On August 17, 2004, the Debtors conducted their auc-

tion of their remaining assets and the successful bid-

ders were Newcoal, LLC, now known as International

Coal Group (“ICG”), Oldcoal (now known as Lexington

Coal Company), and A.T. Massey Coal Company.

On August 31, 2004, the Bankruptcy Court held a

hearing on the proposed sale of assets and confirmation

of the Plans and indicated its intention to approve the

sale and confirm the Plans, as modified by the Debtors

and by the Bankruptcy Court’s ruling. At the confir-

mation hearing, the Debtors were required to prove

they could pay allowed administrative expense priority

claims. The Debtors’ financial consultant testified at

the hearing that there would be a cushion in excess of

$20 million for administrative expense claims. Zurich

did not enter an appearance at the hearing regarding

its forthcoming administrative expense claim that

would surpass the entire amount of funds allocated by

the Plans for satisfying the priority claims."

“ present, however, the parties have informed the Court

that there are sufficient funds in the administrative expense pool

to cover Zurich’s claim amount as it currently stands ($14.5 mil-

lion). However, LCC asserts that this money was set aside to

cover other anticipated regulatory liabilities that may reduce, or

possibly eliminate, the pool.

17a

As indicated in the notices of effective date of the

Plans (Bankr. Docs. # 4220 and 4221), on September 30,

2004, the Debtors closed the sale of their assets to the

approved purchasers and the Plans became effective.

As of the closing, the Debtors were deemed dissolved

in accordance with the Confirmation Orders. The Zu-

rich Policies were not assumed by asset purchasers

ICG, LCC, or Massey as part of the Sale. Zurich never

entered an appearance in the Bankruptcy Cases until

the filing of its administrative claim now in contro-

versy, which was filed post-confirmation but prior to

the bar date for priority claims as established by the

Plans.

G. Zurich’s Administrative Expense Claim

The Plans define an “Administrative Expense

Claim” as consistent with governing law, stating as fol-

lows:

Administrative Expense Claim means any

right to payment constituting a cost or expense

of administration of any of the Chapter 11

Cases under section 503(b), 507(a)(1), 507(b)

and 1114(e)(2) of the Bankruptcy Code, and ap-

plicable case law including, without limitation,

any actual necessary costs or expenses of pre-

serving the Estate, all compensation and reim-

bursement of expenses to the extent Allowed

by the Bankruptcy Court under section 330 or

503 of the Bankruptcy Code, and any fees or

charges assessed against the Estates of the

Debtors under section 330 or 503 of the Bank-

ruptcy Code, and any fees or charges assessed

against the Estates of the Debtors under sec-

tion 1930 of chapter 123 of title 28 of the United

States Code.

18a

The bar date for filing administrative expense claims

under the Plans was December 29, 2004. The bar dates

contained in the Plans do not, by their terms, apply to

“Ordinary Course” expenses.

In accordance with the applicable bar date, Zurich

filed an Administrative Expense Request Form and

attachments on or about December 29, 2004, identified

as claim no. 20675 on the Claims Register (“Zurich’s

claim”). The claim was in the amount of $44,744,067.

According to Zurich, its claim was filed as a protective

measure to ensure payment of administrative expenses

incurred by Zurich in the event that the surety bonds

and other collateral provided by the Debtors to Zurich

to secure the Debtors’ payment of insurance deducti-

bles are ultimately dishonored or otherwise fail to

cover the prospective deductible obligations.

H. Zurich’s Loss Projections

As detailed herein, an ultimate loss projection is

essentially a report prepared by actuaries with the ba-

sic purpose of estimating future obligations in connec-

tion with insurance coverage. In connection with its

filing for an administrative expense priority for future

deductible obligations of the Debtors, Zurich has pro-

jected that the ultimate deductible loss (i.e., obligation)

under the Zurich Policies will be $46,858,757, which

does not include any legal costs and expenses that are

generally reimbursable by the Debtors under the Zu-

rich general liability policies. Although Zurich expects

to incur additional defense costs on the general liability

policies, Zurich has not requested reimbursement of

current or future defense costs related to the general

liability policies.

Ultimate loss projections are actuarial analyses of

the projected ultimate cost made on a regular periodic

19a

basis, which employ information provided by the in-

sured and updated loss information. These projections

are used in the insurance industry to forecast total de-

ductible liability on policies where the insured has

agreed to be responsible for such liabilities and where

such liability will inevitably extend into the future.

This is especially true for insurance policies providing

workers’ compensation coverage, which can extend

years past policy expiration. Consequently, and as re-

flected in the Ultimate Loss Projection, the workers’

compensation claims are by far the largest of the total

claims arising under the Program. |

Because ultimate loss projections require actuarial

judgment, two actuaries using the same data may ar-

rive at different conclusions as to a reasonable expected

value of the ultimate losses, although the conclusions

should be inside a range of reasonable estimates of the

ultimate losses. Notwithstanding any uncertainty that

is inevitably present when predicting future obliga-

tions, insurance companies, such as Zurich, regularly

create, maintain, and rely upon these actuarial reports

in their ordinary course of business.

In terms of the methodology for calculating the ul-

timate loss projection for each separate policy, Zurich’s

projection takes into account numerous variables.’

2 Tn constructing the projections, Zurich identifies, among

other things, the policy period, the maximum amount of deductible

liability, exposure amount as determined by information provided

by the insured and updated as per audits, claims made for the pol-

icy period (“Deductibles Incurred”), claims paid, deductibles paid

on behalf of the insured (“Deductibles Paid”), the estimated ratio

of the ultimate value of known and unknown claims over cur-

rent/reported losses (“Incurred LDF’), the estimated ratio of the

ultimate value of claims known and unknown over current paid

20a

According to Zurich, the methodology and data used in

calculating the Ultimate Loss projection is based on

widely accepted and employed industry standard actu-

arial methods of establishing deductible claims. Based

on a review of the relevant factors, Zurich then selects

an appropriate loss number depending upon the cir-

cumstances of the policy and policy period as they re-

late to those factors.

Pursuant to the obligations of the Debtors in the

June 25, 2004 Amended Order, Zurich holds cash collat-

eral received from the Debtors in the amount of

$1,255,000. In addition to the cash collateral, Zurich re-

ceived a letter of credit equal to $2,510,000. The letter

of credit, along with others totaling $7,900,000, were

liquidated and placed in loss funds in connection with

the Debtors’ prospective deductible obligations. Zurich

also received the payment of $10,000,000 required by

the June 25, 2004 Amended Order close to the Effective

Date.

Zurich has asserted that the deductible payments

previously received by Zurich and third-party adminis-

trators from the Debtors total $9,526,055.24. The initial

$44,744,067 listed as Zurich’s administrative expense on

the Administrative Expense Claim did not subtract de-

ductible payments previously received by Zurich and

third-party administrators from the Debtors, which are

required deductions to arrive at the amount of Zurich’s

losses (“Paid LDF”), estimates of ultimate losses as the product of

Deductible Incurred Losses and the Incurred Loss Development

Factors (“Developed Incurred”), Developed Paid (product of Paid

LDF and Deductible Paid), the Loss Pick, the weighted average

between the Developed Incurred and the Loss Pick, and the

weighted averaye between Developed Paid and the Loss Pick.

2la

asserted Administrative Expense Claim. If the Zurich

Administrative Expense Claim shown on the Zurich

Claim Form was calculated by deducting the payments

previously received by Zurich and third-party adminis-

trators, the Zurich Filed Claim Form would have re-

quested an Administrative Expense Claim of

$35,218,011.76 ($44,744,-067.00 less the $9,526,055.24 in

payments).°

The amount of Zurich’s administrative expense

claim as it now stands, approximately $14.5 million, was

calculated by taking the Current Ultimate Loss Projec-

tion minus the collateral or loss fund and payments

made by the Debtors for deductibles in the past. Zu-

rich projects that the current deficiency amount is

$14,593,567.79, which would have been substantially

reduced if Frontier had paid the surety. The vast ma-

jority of the Current Ultimate Loss Projection is for

workers’ compensation insurance coverage. Some or all

the Deductible Agreements in connection with the poli-

cies contain different deductible amounts or aggregates

' Zurich also holds the following bonds issued by Frontier

Insurance Company as collateral against the Debtors’ prospective

deductible obligation under the Zurich Policies:

Bond No. 153883 (effective 4/30/00) $2,600,383

Bond No. 153261 (effective 6/29/98) $2,979,500

Bond No. 153262 (effective 6/29/99) $3,323,700

Bond No. 153882 (effective 4/30/00) $2,500,000

Bond No. 153800 (effective 6/29/99) $3,285,898

Frontier Insurance Company (“Frontier”) contends that Bond No.

153261 and Bond No. 153800 were cancelled or expired and the

remaining bonds have nominal value. The ability to collect under

the Frontier bonds is in dispute. Frontier is in receivership in the

State of New York. Zurich made a claim on all of the bonds in July

2004.

22a

for black lung or other types of claims. The Deductible

Agreements control these amounts.

I. Bankruptcy Opinion

The Bankruptcy Opinion (Bankr. Doc. # 7404) and

related Order (Bankr. Doc. # 7406), issued on May 30,

2006, denied Zurich’s application for allowance of an

administrative expense priority claim in connection

with prospective deductibles on the Zurich Policies. Ul-

timately, the Bankruptcy Court held that Zurich failed

to provide “any authority for its proposition that a

claimant is entitled to administrative expense priority

for claims that arise after the confirmation of a plan and

after the estate ceases to exist.”

The Bankruptcy Court also took issue with the pro-

spective nature of the deductible obligations in that

they require some degree of subjective determination:

At this point, Zurich has provided nothing

more than “its own statistical analysis of the

likelihood such claims will occur” for the pur-

pose of estimating its claim, and the court finds

such analysis no more supportive of its claim

than the Eli Witt court did. The court does not

see how Zurich can ever provide anything more

than a statistical analysis until the events that

precipitate a claim for deductibles occur. These

events, by necessity, will occur _post-

confirmation.

Further, the Bankruptcy Court was not even convinced

that estimation is proper under the Bankruptcy Code in

this case because estimation for the purpose adminis-

trative expense claims typically occurs in the “post-

petition, pre-confirmation period of estate administra-

tion.”

23a

Finally, the Bankruptcy Court took issue with Zu-

rich’s failure to participate in the bankruptcy process

until after the confirmation of the Plans. This failure,

according to the Bankruptcy Court, “necessarily de-

prived” the creditors and other parties in interest “of

the opportunity t6 factor in a huge administrative ex-

pense claim that would have had a major effect on the

consideration of the feasibility of the Debtors’ proposed

Plans.” Accordingly, the Bankruptcy Court concluded

that “Zurich should have participated in the Debtors’

cases and requested an estimation of its administrative

expense claim prior to the confirmation process” and,

therefore, “Zurich’s request for estimation is neither

appropriate nor timely under these circumstances.”

Following the Bankruptcy Court’s denial of Zu-

rich’s claim, Zurich filed a Notice of Appeal on June 9,

2006 (Bankr. Doc. # 7432). On June 16, 2006, Zurich

filed its Statement of Issues and Designation of Items

to be Included in the Record on Appeal (Bankr. Doc. #

7447). LCC subsequently filed its counter-designation

of items to be included in the record on June 26, 2006

(Bankr. Doc. # 7460). The record from transferred from

the Bankruptcy Court to the District Court, and the

appeal was docketed, on July 11, 2006 (Bankr. Doc. #

7481). The Notice of Appeal was entered with this

Court on July 12, 2006 (Doc. # 1).

Ill. ANALYSIS

At the outset, the Court recognizes that the only

question which must be determined is how the prospec-

tive deductible obligations are to be treated, not

whether they are in fact “legal” obligations. In other

words, it is undisputed that Zurich will be rightfully

“owed” any deductible obligations advanced under the

Zurich Policies (pursuant to the Deductible Agree-

24a

menis) when they “arise,” but it is not patently clear if

the obligations constitute expenses incurred in the ad-

ministration of the bankruptcy estate or mere debt

owed under contract to which Zurich could attempt to

recover as a creditor of the dissolved estate. The very

narrow issue, therefore, is whether the prospective de-

ductible obligations claimed by Zurich should receive

administrative expense treatment whereby Zurich

would be given priority above that afforded to most

creditors.

The practical consequences of the legal distinction

between administrative expenses and liability incurred

outside the administration of the bankruptcy can prove

significant in many cases. Should priority status be

granted to Zurich in this matter, the requested claim

amount would “come off the top” before the proceeds of

the estate liquidation would be distributed among the

unsecured creditors of the nowdefunct Debtors.

Where, as here, a pool of funds has been previously set

aside to satisfy administrative expense claims made

against the estate, Zurich’s requested claim amount

would be withdrawn from the “priority poo!” if priority

status is granted.'* Any funds that remain in the pool,

including part or all of the funds Zurich now requests

4 Although the nearly $20 million remaining in the “pool” is

suificient to cover Zurich’s administrative expense claim, which

currently stands at approximately $14.5 million, LCC maintains

that the “excess” pool amount was set aside as part of an agree-

ment with regulatory authorities for reclamation purposes. Con-

sequently, according to LCC, because the large majority of the

funds in the pool were not intended for traditional administrative

expense Claims (other priority claims were already satisfied), the

pool would fail in large measure to cover both Zurich’s claim and

the “intended” reclamation costs.

25a

should priority status be denied, may revert back to

asset-purchaser LCC or be utilized for other means

(e.g., reclamation) under the terms of the Plans and

Confirmation Orders.

A. Standard of Appellate Review

On appeal from the Bankruptcy Court pursuant to

28 U.S.C. § 158(a)(1), this Court reviews the Bank-

ruptcy Opinion de novo as to its conclusions of law. See

In re Made in Detroit, 414 F.3d 576, 580 (6th Cir. 2005).

Any findings of fact are upheld unless they are found to .

be clearly erroneous. See id. However, the Bank-

ruptcy Opinion is largely founded upon findings of fact

based solely on voluntary stipulations by the parties as

set out in the Agreed Stipulated Facts and List of Ex-

hibits (Bankr. Doc. # 7180) (“Stipulated Facts”). To the

extent the findings of fact within the Bankruptcy Opin-

ion stem from the Stipulated Facts, those facts are

binding on this Court. See Varga v. Rockwell Int'l

Corp., 242 F.3d 693, 699 (6th Cir. 2001).

B. Administrative Expense Priority Not Warranted

1. “Actual” and “Necessary”

The United States Bankruptcy Code (the “Code”)

defines administrative expense priority claims as the

“actual, necessary costs and expenses of preserving the

estate.” 11 U.S.C. § 503(b)(1)(A) (emphasis added).

The Code’s definition of administrative expenses pro-

vides the boundary for the aforementioned distinction

between claims of general creditors and administrative

expense claims, whereby the latter receive priority

over the former.'’ The rationale behind the priority

14 ° ee ‘

In actuality, administrative expense status provides that,

pursuant to 11 U.S.C. § 507(a)(1), the administrative claim is

26a

provisions within the Code, at least in the liquidation

context, is to facilitate the continued operation (i.e., go-

ing concern) of debtors-in-possession “by encouraging

third parties to provide those businesses with neces-

sary goods and services” that enable the maximization

of value for creditors of the estate upon liquidation. /n

re United Trucking Serv., 851 F.2d 159, 161 (6th Cir.

1988).

Importantly, because of the overarching goal to

“keep administrative expenses at a minimum and thus

preserve the estate for the benefit of all creditors,” it is

well-established that “priority statutes are strictly con-

strued.” In re Patch Graphics, 58 B.R. 743, 745 (Bankr.

W.D. Wis. 1986) (emphasis added); In re Colortex In-

dustries, Inc., 19 F.3d 1371, 1877 (11th Cir. 1994) (Ad-

ministrative expenses under § 503 “should be narrowly

construed in order to maximize the value of the estate

preserved for the benefit of all creditors.”); see also

Otte v. United States, 419 U.S. 48, 53, 95 S.Ct. 247, 42

L.Ed.2d 212 (1974); In re Kmart Corp., 290 B.R. 614,

621 (Bankr. N.D. Ill. 2003); In re The Eli Witt Co., 213

B.R. 396, 399 (Bankr. M.D. Fla. 1997); In re D’Lites of

America, 108 B.R. 352, 355 (Bankr. N.D. Ga. 1989):

(T]here must be a strict construction of the

terms “actual” and “necessary” therefore requiring

that the estate actually receives a real benefit from

the transaction, before administrative priority will

be granted on claims against the estate.... The focal

point of the allowance of a priority is to prevent un-

just enrichment of the estate, not to compensate

——

treated as a first priority unsecured claim and is paid before all

other unsecured creditors. See United States v. Ginley (In re

Johnson), 901 F.2d 513, 517 (6th Cir. 1990).

27a

the creditor for its loss.... Thus, a court looks to the

actual benefit to the estate and not the loss sus-

tained by a creditor.

In re Globe Metallurgical, Inc., 312 B.R. 34, 40 (Bankr.

S.D.N.Y. 2004) (internal citations omitted).

To that effect, the narrow application of

§ 503(b)(1)(A) is rather unambiguous on its face: the

claimed expense must have been an “actual” cost that is

“necessary” to the “preservation” of the estate. See In

re Patch Graphics, 58 B.R. at 745 (citing In re Club

Dev. & Mgmt. Corp., 27 B.R. 610, 612 (9th Cir. BAP

1982)) (“An administrative expense may not be allowed

absent a finding that the expense is necessary for pre-

serving the estate.”). It is in this regard that Zurich’s

claim fails as a simple matter of statutory interpreta-

tion on both fronts: the claimed expenses are not “ac-

tual” (i.e., not yet realized) and the payment thereof,

when the obligations are realized, cannot act to pre-

serve an estate that no longer exists. At the moment

Zurich’s Claim was filed on the bar date for administra-

tive expense claims, the ultimate loss projection for the

deductible obligations was entirely speculative by na-

ture and prospective by definition.

Nevertheless, despite LCC’s subtle mention oth-

erwise, there can be no question that Zurich will be

forced to “advance” a substantial portion, if not all, of

the deductible obligations in question.'° A key consid-

‘© At oral argument, Zurich was adamant that, regardless of

whether its claim for administrative expense priority was granted,

it would be required to continue advancing deductibles pursuant to

the Deductible Agreements at risk of losing its insurance license

even though the contracts themselves are presumably void follow-

ing the bankruptcy confirmation that acted to discharge the Debt-

28a

eration, however, is the reality that Zurich is only con-

tractually obligated to pay the deductibles, and subse-

quently seek reimbursement, once the claims actually

“arise.” Zurich contends that “arise” in this context

should be viewed from a more macro perspective, effec-

tively arguing that, even though the legal obligation to

pay the expenses will not accrue until sometime in the

future, the underlying event giving rise to the future

claim (e.g., an employee’s initial injury) necessarily oc-

curred during the bankruptcy administration.'’ In

other words, Zurich asserts that the accrual of the

claims should essentially relate back to the underlying

insurance coverage as part and parcel of the relevant

insurance policies, which include the premium obliga-

tions that were assigned administrative priority and

satisfied accordingly. But Zurich does not, and cannot,

provide any direct authority to support the contention

ors’ liabilities generally and specific legal obligations under con-

tract (notably, the Zurich Policies were not assumed by LCC).

it is important to understand the practical realities of how

these deductible obligations will inevitably arise, and in large

number. In oversimplified terms, an employee of the Debtors

would have been covered by workers’ compensation insurance

through Zurich during the pendency of the bankruptcy via the

debtor-in-possession’s assumption of the Zurich policies. There-

fore, when an event occurs that is covered by the policy, such as

the injury of an employee, that injury will inevitably give rise to

medical bills and other expenses. Even though the injury occurred

during the coverage period, the effects of the injury will often

times be felt for many years subsequent in the form of additional

health care costs and the like. Because the later expenses stem

from the original injury during the coverage period, the expenses

will still fall! under the domain of Zurich. And when dealing on

such a large scale, these deductible expenses will reach well into

the millions of dollars range; according to Zunch, the total de

ductible outlay will likely near $50 million.

29a

that expenses necessarily realized post-confirmation

can legally be characterized as “actual” under the Code.

Furthermore, even assuming that the claimed ex-

penses can arguably constitute actual costs because

they will inevitably occur to some significant degree

and unquestionably stem from insurance coverage dur-

ing bankruptcy, any argument that the payment of the

claimed expenses is necessary to preserve the estate is

unpersuasive. The bottom line remains that Zurich is

not contractually obligated to pay any of the deductibie

obligations in question until claims are filed, which will

necessarily occur post-confirmation. The moment Zu-

rich is contractually permitted to seek reimbursement

from the Debtors for the advanced deductibles, the es-

tate will have already dissolved and the Debtors will

cease to exist. Consequently, payment of the claimed

expenses will in no way act to preserve an estate when

there is no estate to preserve.

Administrative expense priority is granted only for

the limited purpose of administrating, and thereby pre-

serving, the bankruptcy estate. See Reading Co. v.

Brown, 391 U.S. 471, 475, 88 S.Ct. 1759, 20 L.Ed.2d 751

(1968) (“(T]he words ‘preserving the estate’ include the

larger objective, common to arrangements, of operating

the debtor’s business with a view to rehabilitating it.”

The Supreme Court acknowledged that, in the liquida-

tion context, the parallel purpose is to preserve the es-

tate as a going concern.). “Because there is no need to

preserve an estate that has been terminated, costs that

are incurred after that time are not administrative ex-

penses of the estate.” Guy v. Terex Corp., No. 91-3687,

1992 WL 88978, at *4, 1992 U.S.App. LEXIS 10018, at

*12 (6th Cir. 1992). Accordingly, Zurich’s administra-

tive expense claim fails to satisfy the requirements of

§ 503(b)(1)(A) because the claimed expenses were nei-

30a

ther actual at the time of filing nor will they be neces-

sary to preserve the bankruptcy estate when the ex-

penses are ultimately realized.

2. “Benefit to the Estate” Test

In the Sixth Circuit, as well most sister circuits, a

two-part test has arisen to aid in the determination of

whether expenses that are the subject of an adminis-

trative claim should receive priority treatment pursu-

ant to § 503 of the Code. The aptly named “benefit to

the estate” test asks whether the claimed expenses:

(1) arose from a transaction with the bankruptcy estate,

and (2) directly and substantially benefitted the estate.

See In re Sunarhauserman, Inc., 126 F.3d 811, 816 (6th

Cir. 1997) (citing Employee Transfer Corp. v. Grigsby

(In re White Motor Corp.), 831 F.2d 106, 110 (6th Cir.

1987)). The burden of proof rests with the moving

party, Zurich, to demonstrate by a preponderance of

the evidence that the claimed expenses are entitled to

administrative priority. See In re Kmart Corp., 290

B.R. at 621; see also In re Patch Graphics, 58 B.R. at

745 (citing Woods v. City Nat. Bank & Trust Co., 312

U.S. 262, 268, 61 S.Ct. 493, 85 L.Ed. 820 (1941)) (“The

burden of proof is on the party seeking an administra-

tive claim.”).

Although the benefit to the estate test “limits ad-

ministrative claims to those where the consideration for

the claim was received during the post-petition period,”

the test is facially silent—as is the case law (see in-

fra)—as to prospective expenses arising post-

confirmation that stem from a contractual arrangement

entered into by the debtor-in-possession during bank-

ruptey. /d. It is in this respect that the refined benefit

to the estate approach, which was developed largely in

response to the common problem of characterizing

3la

damages from legal judgments,'® is of little assistance

as applied to Zurich’s claim in lieu of the traditional and

statutory requirements of § 5038(b)(1)(A).'” Neverthe-

'8 The Sixth Circuit, in In re Eagle-Picher Industries, Inc.,

explained the development of the benefit to the estate test as a

response to the Supreme Court’s ruling in Reading, which permit-

ted administrative expense priority for a post-petition tort claim:

(T]he Bankruptcy Code defines administrative ex-

penses incurred during the pendency of the bankruptcy

and payable by the debtor as the “actual, necessary costs

and expenses of preserving the estate.” 11 U.S.C.

§ 503(b)(1). In Reading Co. v. Brown, 391 U.S. 471, 88 S.

Ct. 1759, 20 L. Ed. 2d 751 (1968), the Supreme Court held

that a postpetition tort claim against a debtor consti-

tuted an “actual and necessary cost” of the administra-

tion of the estate under § 5038. Since then, and in reliance

on Reading, this circuit (like many others) has used a

two-part test to determine whether a claim is an admin-

istrative expense under § 503: “[A] debt qualifies as an

‘actua]l, necessary’ administrative expense only if (1) it

arose from a transaction with the bankruptcy estate and

(2) directly and substantially benefitted the estate.” Jn

re Sunarhauserman, Inc., 126 F.3d 811, 816 (6th Cir.

1997).

Applying Reading and this two-part test, courts

have concluded that the following claims fall within the

Code’s definition of administrative expenses: tort,

trademark infringement, patent infringement, and

breach of contract. Under these precedents, [ Appellee’s]

claims satisfy the traditional definition of “administra-

tive expenses” so long as they arose from transactions

that occurred between it and [debtor] after the petition

for bankruptey—which indeed they did.

447 F.3d 461, 464 (6th Cir. 2006) (“Eugle-Picher”) (some internal

citations omitted).

19 a,

rhe benefit to the estate test is now frequently applied to

cases involving pre-petition/postpetition controversies—e.g., /n re

o2a

less, despite the difficulty in applying the test to the

case sub judice, Zurich’s claim again fails to warrant

administrative priority under the benefit to the estate

approach.

Even assuming arguendo that the expenses arose

(or will arise in Zurich’s case) from a transaction with

the bankruptcy estate, accelerated reimbursement via

administrative priority status will not act to provide a

direct and substantial benefit to the estate where the

claimed expenses will not become legal obligations until

unknown points in the future, if ever. At first glance,

the inquiry into whether claimed expenses provided a

direct and substantial benefit to the estate engenders a

temporal dilemma similar to, yet less workable in this

context, than that posed by the “preservation of the es-

tate” requirement under § 503. The timing problem

arises because the question one must ask is whether

the benefit should be measured at the moment the ex-

penses become “actual” or whether it is appropriate to

actuarially accelerate the reimbursement of the ex-

penses because they stem from a contractual obligation

entered into by the debtor-in-possession.

Predic’ably, as in the statutory debate under the

language of § 503, Zurich argues under the benefit to

the estate test that the claimed expenses satisfy the

requirements for administrative priority because the

prospective deductible obligations, as part and parcel of

the underlying insurance policy, provided a vital ser-

Sunarhauserman—but the traditional problem of how to treat law

suit judgments spanning either the beginning or end of a bank-

ruptcy are still common. See, e.g., Eagle-Picher, 447 F.3d at 461

(administrative expense claim confined to post-petition damages

stemming from a patent-infringement. action).

33a

vice to the Debtors by enabling continued operation of

the estate during bankruptcy. LCC acknowledges the

incontrovertible benefit that the insurance coverage

itself provided to the Debtors’ estate, but contests the

characterization of the speculative expenses as benefi-

cial to the estate because the claims won’t arise until

post-confirmation when the estate has dissolved.

As in the analysis under the traditional statutory

framework of § 503, the benefit inquiry as applied to

Zurich’s claim essentially asks whether expenses that

arise and are incurred post-confirmation should relate

back to the underlying contractual arrangement during

the bankruptcy where such arrangement did not cog-

nize the acceleration of the speculative expenses. The

resolution of this controversy comes from the adjudica-

tory constraint placed on the Court, as established sw-

pra, to strictly construe the requirements and the ulti-

mate allowance of priority claims under the Code. See

In re Kmart Corp., 290 B.R. at 621 (“{T]he claimant

must demonstrate that the benefit is more than a

speculative or potential benefit.”).

Applying a purpose-driven and narrow construc-

tion of both the statutory and common !aw approach for

administrative claims, as is mandated by the general

priority scheme of the Code, there is only one conclu-

sion that can be reached under the unique circum-

stances in this case: the payment of the deductibles,

when and if they should arise (i.e., become “actual’’),

does not provide a direct and substantial benefit to, nor

act to preserve, a bankruptcy estate where there is no

longer an estate to benefit. In the end, beyond the real-

ity that the deductibles will not come due until after the

estate dissolved (which is also common in the post-

confirmation judgment cases), it is the special case here

34a

that the deductible obligations do not even exist until

claims arise whereby Zurich must advance payment.

As such, this is not a situation where Zurich’s claim

encompasses only pre-confirmation expenses from post-

petition events that will be paid post-confirmation;

rather, Zurich’s claim requests expenses that will nec-

essarily be paid post-confirmation because the “claims”

giving rise to the expenses will necessarily occur post-

confirmation. Accordingly, just as Zurich’s claim is not

for actual expenses necessary to the preservation of the

estate, the claimed expenses similarly fail to provide a

direct and substantial benefit to the estate. See Jn re

Oread, Inc., 269 B.R. 871, (Bankr. D. Kan. 2001) (inter-

preting Jn re Eli Witt, 213 B.R. at 400) (“Even for inju-

ries suffered in postpetition accidents, if the claim had

not been presented by the time of plan confirmation, it

could not be characterized as an actual claim, necessary

to the preservation of the estate.”’).

3. Case of First Impression

As the parties readily acknowledged during oral

argument, there is an unfortunate lack of precedent ca-

pable of shedding light upon the rare issue at hand.

Both parties attach a significance to this realization.

According to Zurich, the reason for the novelty is sim-

ply because in the past, and across the entire spectrum

of insurers providing coverage to debtors-in-possession

during bankruptcy, the insurance companies have al-

ways recouped their deductible expenses. Regardless

of whether this has historically been accomplished

through private agreements, sufficient or excess collat-

eralization, or even unpublished agreed orders, Zurich

insists that this matter is not unique in its facts, but

rather it is unique only to the extent that the debtor

(now represented by LCC) has decided to challenge the

35a

ability of the insurance company to receive reimburse-

ment of its deductible loss projections by way of admin-

istrative expense priority.” On the other hand, LCC

asserts that this type of case is extremely rare because

the insurance companies typically take large strides to

protect their interests when negotiating coverage of a

financially unstable company, whether by means of se-

curing greater cash outlay during the bankruptcy cov-

erage period or by adequately collateralizing the risk

inherent with deductible policies.’!

Despite the void of controlling authority, the deci-

sion reached in /n re Eli Witt involves a very similar

factual scenario and, as a result, the parties have dis-

cussed the case at length and the decision was relied

20 Aside from the explanations of Zurich, it is clear to the

Court that this controversy has only reached this stage because of

the failed collateral, which Zurich incidentally required to offset

some of the risk attendant to deductible policies, especially those

entered into with companies in bankruptcy, despite an alleged cus-

tom in bankruptcy that priority status is routinely awarded for

insurers in Zurich’s shoes.

*! Neither party suggests that guaranteed cost policies (i.e.,

non-deductible policies) are the norm or even utilized to any mean-

ingful degree by debtors in bankruptcy. The reluctance toward

guaranteed cost policies stems from the prohibitive costs associ-

ated with the policies because insureds are effectively paying for

the prospective deductible obligations up-front, which places all of

the risk on the shoulders of the insurer because the deductible ob-

ligations may far exceed actuarial estimations (Zurich claims that

there was such an underestimation of ultimate loss projections in

this case, for which Zurich is still paying the price). In fact, during

oral argument, Zurich estimated that the premium costs of a guar-

anteed cost policy for the Debtors during bankruptey would have

been well over five times that of the deductible policy ($10 million

for the entire period vs. at least $50 million for only one year).

36a

upon heavily by the Bankruptcy Court below. See Jn re

The Eli Witt Co., 213 B.R. 396 (Bankr. M.D. Fla, 1997).

As Zurich now requests in the current matter, the in-

surance company in Eli Witt asserted “an administra-

tive expense for claims it calculate[d] it [would] have to

pay in the future due to accidents or occurrences which.

occurred postpetition, but which it [would] not have ac-

tually paid by confirmation.” Jd. at 398. In response,

the debtor in Eli Witt, mirroring the spirit of LCC’s ob-

jections here, argued that the future liability was

“grossly exaggerated and highly speculative” and that

it would be “improper to allow any part of the estimate,

potential future claims because of the radically changed

circumstances.””’ Id. at 399.

The ultimate holding in Eli Witt denied the admin-

istrative expense claim primarily because the court

lacked the ability to estimate the speculative expenses:

[T]he majority of the Insurance Company’s

administrative expense claim represents its es-

timation of claims it will be required to pay in

the future, but will not actually have paid by

>? The bankruptcy proceedings in E'li Witt actually involved a

plan of reorganization under Chapter 11, rather than a complete

liquidation as eventually suffered by the Debtors here. In addi-

tion, there is a procedural difference between the two cases in that

the bar date for the filing of administrative expense claims in Fli

Witt was set pre-confirmation, while the bar date in the present

matter was three months post-confirmation. In hindsight, it would

appear that the approach in the Eli Witt bankruptcy was more

advantageous because it permitted the Court to assess all adminis-

trative expense claims, and consequently the true feasibility of the

plans, prior to confirming the bankruptey plan. However, this dif-

ference in timing does not factor into the relevance of the E/i Wott

decision vis-a-vis the case sub pudice.

37a

confirmation. The Insurance Company esti-

mates these future claims against the Debtor

based on its own statistical analysis of the like-

lihood such claims will occur. Section 502(c)

provides that contingent or unliquidated claims

shall be estimated for the purpose of allowance

if the liquidation would unduly delay the ad-

ministration of the case. There is nothing in

this record which would enable this Court to

estimate these future claims, therefore, this

portion of the Insurance Company’s claim can-

not be allowed in any amount and should be

disallowed without prejudice.

/d. at 400. Zurich attempts to distinguish Eli Witt on

numerous grounds—including lack of assumption and

inducement—concluding that the case is “inapplicable

to the present case.””? It is unclear why either the

Debtors’ assumption of the Zurich policies or the in-

ducement of Zurich is of legal consequence. The as-

sumption only signifies that the debtor-in-possession

effectively purchased coverage and the Debtors deci-

sion to approach Zurich for coverage during bank-

ruptcy, rather than Zurich soliciting the Debtors, cer-

23 Zurich also points to the apparent reluctance by the court

in Eli Witt to grant the administrative expense claim based only

on the lack of actuarial evidence in the record sufficient to permit

sound estimation. Although the “estimation” issue is addressed

infra, it is notable that the court in Eli Witt did not find estimation

as an appropriate exercise in the administrative expense context

even though it could be argucd that failure to estimate in that case

could have caused “undue delay” because the claim bar date was

set prior to the plan confirmation. Here, however, the bar date for

the filing of an administrative expense claim was established after

the plan confirmation; thus, the estimation debate would not impli-

cate any delay in the bankruptcy administration.

38a

tainly had no affect on Zurich’s ability to refuse to pro-

vide coverage.”

Overall, while there is a lack of precedential guid-

ance in this matter, notwithstanding the decision in Eli

Witt, there is certainly not a lack of arguably analogous

case law in support of both positions. These persuasive

authorities generally fall into two categories. The large

majority involve controversies with the temporal de-

marcation between pre-and post-petition that Zurich

cites in support of its contention that the deductibles,

although prospective, should relate back to the insur-

ance coverage period during bankruptcy. The less

prevalent group of authorities deal with scenarios post-

confirmation. Although the subject-matter is a depar-

ture from the present context, LCC cites these cases in

support of the general proposition that any expenses

arising post-confirmation, regardless of whether they

are connected to a petition-period expense, cannot by

definition receive administrative priority because they

do not provide a direct benefit fostering the preserva-

tion of the estate.

The collective theme from the long string of cases

cited by Zurich is that, in determining what temporal

designation (i.e., pre-or post-petition) should be given

to expenses that are paid during bankruptcy, if the ex-

penses arise from events or conduct that occurred pre-

petition then the claimed expense are not considered

*4 Tn fact, Zurich points out numerous times that other insur-

ance companies made the decision not to insure the Debtors when

approached because the dea] was apparently too risky a proposi-

tion. This only bolsters the logical conclusion in this case that Zu-

rich took a calculated risk in its decision to insure the Debtors dur-

ing bankruptcy and now that risk is failing to pay off.

39a

administrative expenses because the underlying event

or conduct did not itself provide a direct and substantial

benefit to the estate.”” See, e.g., In re Highland Group,

136 B.R. 475 (Bankr. N.D. Ohio 1992); In re Baldwin-

United Corp., 48 B.R. 901 (Bankr. S.D. Ohio 1985); see

also Appeliant’s Opening Brief (Doc. # 12, p. 33-35). To

that effect, Zurich argues that “the rationale of these

cases is directly applicable to the issue in the present

case—i.e., determining whether a claim arose pre- or

post-effective date.” Zurich concludes accordingly that

because “the occurrences underlying Zurich’s Claim all

took place prior to the effective date, the Claim arose

pre-effective date” and should receive priority treat-

ment.

While the logic behind the line of cases dealing with

pre-and post-petition scenarios makes sense in the ab-

stract as applied to Zurich’s claim since the circum-

stances here provide a similar time barrier (pre- and

5 it is this type of scenario where the value of the benefit to

the estate test is realized. Under the traditional requirements of

§ 503, it would be difficult to assess whether expenses arising dur-

ing bankruptcy but stemming from conduct pre-petition should

receive administrative priority because, technically speaking, the

payment of the expenses is necessary to preserve the estate from

a legal perspective. However, that is not the true spirit of § 503.

Therefore, the benefit to the estate test was developed to ask

whether the payment of the claimed expenses would provide a di-

rect and substantial benefit to the estate. In the current matter,

the usefulness of the benefit to the estate test is questionable as

discussed. Payment of clams [sic] as they arise post-confirmation

could be argued to provide a benefit because the claims resulted

from pre-confirmation conduct. But, pursuant to § 503, the pay-

ment of Zurich’s claimed expenses would not act to preserve the

estate because, as stated ad nauseam, there is no estate to pre-

serve.

40a

post-confirmation), such an approach does not address

the purpose of granting administrative priority and is

therefore of little assistance. Even if the mandate of

Zurich’s persuasive authority placed the “accrual” of

the claimed expenses back to the bankruptcy period,

despite the reality that the expenses are entirely pro-

spective and speculative, such a finding does not alter

the dispositive adjudication that the payment of the

claimed expenses when they truly arise would not act

to either preserve nor benefit the estate. Accordingly,

administrative priority above that of an ordinary unse-

cured creditor is not warranted in this instance.

The second category of cases, which favor LCC’s

proposition that administrative expense priority is not

appropriate in this matter, deal with expenses that

arise or are otherwise paid post-confirmation. In this

unique context, courts, although few in number, have

consistently held that expenses arising post-

confirmation fail to satisfy the requirements for admin-

istrative priority under § 503 for the simple, yet ines-

capable reality that there is no estate to preserve or

benefit.

The Sixth Circuit, in an unpublished decision, suc-

cinctly rejected the counter-intuitive proposition that

expenses incurred after the dissolution of an estate can

be administrative:

The logic of this conclusion becomes apparent

upon an examination of the Bankruptcy Code’s

purpose for giving special priority to adminis-

trative expenses. Administrative expenses are

given priority because they are the actual, nec-

essary costs of preserving the estate. Because

there is no need to preserve an estate that has

been terminated, costs that are incurred after

4la

that time are not administrative expenses of

the estate.

See Guy, 1992 WL 88978, at *4, 1992 U.S.App. LEXIS

10018, at *12 (citing United States v. Redmond, 36 B.R.

932, 934 (D. Kan. 1984)). In Guy, the court was charged

with determining whether taxes incurred and paid af-

ter confirmation were entitled to administrative prior-

ity. Relying on the Supreme Court’s holding in Otte v.

United States, 419 U.S. 43, 95 S.Ct. 247, 42 L.Ed.2d 212

(1974), the Sixth Circuit held that the claimed expenses

in Guy were not administrative expenses despite the

fact that the wages on which the taxes were paid were

earned during the bankruptcy:

The disputed taxes in this case were on wages

that were paid after the bankruptcy estate was

terminated. The taxes were therefore not in-

curred by the estate and are not administrative

expenses of the estate. The fact that the wages

were earned during the pendency of the estate

is simply irrelevant.... Because they were in-

curred by the trustee after the plan was con-

firmed and the estate ceased to exist, they

were not incurred as the actual costs of pre-

serving the estate and therefore cannot be con-

strued as administrative expenses of the es-

tate.

Id. at *4, 1992 U.S.App. LEXIS 10018, at *12-13.

When adjudicating claims for administrative prior-

ity, bankruptcy courts have consistently emphasized

that priority status should be reserved for only those

expenses that are critical to the administration of the

bankruptcy estate. See In re Barker Medical Co., Inc.,

55 B.R. 435, 436 (Bankr. M.D. Ala. 1985) (“Administra-

tion of the estate ended with confirmation of the plan.

42a

The costs were not incurred by the estate, but were in-

curred by the debtor after discharge and after confir-

mation at a time when no estate existed.... By defini-

tion, the costs cannot be administrative expenses.”).

Bankruptcy courts have similarly emphasized that a

bankruptcy estate is a statutory creation that termi-

nates at the effective date (i.e., confirmation) and, con-

sequently, an estate cannot incur administrative ex-

penses after its termination:

It is clear that only those obligations of a

debtor’s estate which arise postpetition and fall

within the parameters of § 503(b) are entitled

to treatment as administrative expenses. Sec-

tion 503 is silent as to the point in time at which

the expenses of a debtor in reorganization

cease to be accorded first priority administra-

tive expense status. However, the language of

§ 503(b) suggests that for “actual, necessary

costs and expenses” to be afforded administra-

tive expense status, they must be incurred for

“preserving the estate.”

The filing of a Bankruptcy petition creates

an estate.... In a case under Chapter 11, the es-

tate continues until confirmation of the Plan ...

at which time all of the property of the estate

vests in the debtor. After that time, the estate

is no longer in existence. Thus, costs and ex-

penses incurred in a Chapter 11 case post-

confirmation cannot be said to have been in-

curred for “preserving the estate” such that

they are administrative expenses under

§ 503(b)(1)(A).

In re Frank Meador Buick, Inc., 59 B.R. 787, 791

(Bankr. W.D. Va. 1986) (internal citations omitted).

43a

The district court in Frank Meador Buick, review-

ing de novo the decision of the bankruptcy court below,

concurred in the bankruptcy court’s holding that prior-

ity status was not appropriate nor warranted. See

Dobbins v. Frank Meador Buick, Inc. (In re Frank

Meador Buick), 65 B.R. 200 (W.D. Va. 1986). On ap-

peal, the district court concluded that claims arising not

only post-petition but also post-confirmation are not

administrative expenses under the Code:

When however, the debtor incurs costs not

merely post petition but also post-confirmation

they are not, and cannot, be classified as admin-

istrative expenses. After confirmation of a plan

under Chapter 11, administration of the estate

ends and the estate ceases to exist. Thus, it is

impossible to classify taxes or rents that accrue

post-confirmation as administrative expenses

for the simple reason that after confirmation

there is no longer an estate to administer.

Relying on the fact that {Debtor] incurred

both the taxes and rent postpetition, [Appel-

lant] contends that both claims are entitled to

share a priority position. [Appellant] ignores

that his own claim for rent, and the IRS claim

for taxes, arose not merely post-petition but

post-confirmation as well. As a result, neither

claim may receive priority status as an admin-

istrative expense; both are ordinary creditor

claims.

Id. at 203 (internal citations omitted).

The rationale and holdings of the aforementioned

cases, which definitively reject the characterization of

post-confirmation expenses as administrative, has been

mirrored in the large majority of the remaining cases

44a

addressing the pre-and postconfirmation scenario. See,

e.g.. ln re Pauling Auto Supply, Inc., 158 B.R. 789, 794

(Bankr. N.D. Iowa 1993) (“Inasmuch as there is no es-

tate, a post-confirmation creditor is unable to obtain

administrative status for a post-confirmation claim be-

cause there is no estate to preserve.”); In re James

Frederick Severson, 53 B.R. 8, 10 (Bankr. D. Or. 1985)

(“For losses or expenses incurred after (confirmation],

there could be no claim allowable under § 503(b)(1)(A)

as an expense of preserving the estate since no estate

existed after that date.”). Accordingly, it is clear that

the case law applicable to the circumstances sub judice,

although not directly on point on either side of the de-

bate, strongly favors the conclusion of this Court that

expenses incurred post-confirmation are not entitled to

priority treatment as administrative in nature.

C. Other (Non-Dispositive) Considerations

1. Estimation US Expenses

Because the Code does not explicitly authorize es-

timation of expenses in the administrative claim con-

text, the parties have addressed the question of

whether the Code even permits estimation (i.e., § 503

requires expenses to be “actual’”) and what form of es-

timation would prove sufficient if permitted.2° The

Bankruptcy Court below was “not convinced that esti-

*icC argues that advancing Zurich the prospective de-

ductible obligations not only exceeds the scope of the Bankruptcy

Court’s authority under § 503, but allowing administrative priority

would circumvent the contractual expectations of the parties and

is tantamount to breach of contract because the legal obligation to

reimburse Zurich for deductible advancements does not accrue

until Zurich is forced to pay the potential claims as they actually

arise in the future.

45a

“mation is even proper in this instance.” As the court

explained, estimation of claims is only an approved

method of winding up under § 502(c) for “any contin-

gent or unliquidated claim, the fixing or liquidation of

which, as the case may be, would unduly delay the ad-

ministration of the case.” 11 U.S.C. § 502(c).

The large majority of courts addressing estimation

have consistently held that, because § 502 covers pre-

petition claims of general creditors, the allowance for

estimation of claims under § 502(c) is reserved only for

claims falling within the scope of § 502. See In re In-

dian Motocycle Co., 261 B.R. 800, 810 (Ist Cir. BAP

2001) (“[W]e have not found a single case which has es-

timated a debtor’s postpetition administrative tax claim

pursuant to § 502(c).”). Administrative expense claims,

however, fall under the § 503 priority scheme for ad-

ministration of the bankruptcy estate, which immedi-

ately calls into the question the availability of § 502(c)

estimation for administrative claims. Presumably, es-

timation of post-petition claims was not cognized by

§ 502(c) because such claims are the exclusive domain of

§ 503.

Although very few courts have addressed the issue

of estimating administrative expense claims under the

authorization of § 502(c), the bankruptcy court of the

Eastern District of Virginia explicitly rejected the idea

that § 502(c) could act to authorize estimation for ad-

ministrative claims that inherently fall under § 503:

There are differences between requests for

payment [of an administrative expense] and

proofs of claim. One relates to allowance. A

proof of claim is deemed allowed unless a party

in interest objects to the claim. A properly

filed proof of claim constitutes prima facie evi-

46a

dence of the validity and amount of claim. A

contingent or unliquidated claim may be esti-

mated under § 502(c) if the fixing or liquidation

of the claim would unduly delay the administra-

tion of the estate. None of these provisions ap-

ply to a request for payment [of an administra-

tive expense claim]. The burden of proof for

the request is on the claimant. There is no

comparable provision for estimating contingent

or unliquidated administrative expenses. In

fact, administrative expenses are required to

be “actual, necessary costs and expenses of

preserving the estate.”

In re Atcall, Inc., 284 B.R. 791 (Bankr. E.D. Va. 2002)

(internal citations omitted).

Furthermore, the First Circuit’s Bankruptcy Ap-

pellate Panel, addressing the analogous problem of es-

timating administrative tax liability claims, held that

estimation was not proper through the use of § 502(c)

where not otherwise authorized:

We find that the bankruptcy court erred by ap-

plying § 502(c) to estimate the post-petition tax

liability of the Debtors.... We are convinced

that the proper statutory construction requires

that administrative tax liability be determined

according to the provisions of § 505.... To the

extent there is an argument that the general

language of § 502(c) may be stretched to cover

even postpetition claims, we follow the estab-

lished rule of statutory construction that a

more specific statute covering a particular sub-

ject is controlling over a statutory subject in

more general terms.

a

47a

In re Indian Motocycle Co., 261 B.R. at 809-10 (inter-

nal citations omitted). Accordingly, in light of the pur-

pose and scope underlying the allowance for adminis-

trative expense priority under the Code and the re-

quirement that expenses be “actual” pursuant to § 503,

the use of § 502(c) estimation for § 503 administrative

expenses is counter-intuitive and the authority to do so

seems lacking under the circumstances.”’

2. Policy Concerns

Zurich has vowed that disallowing its claim for ad-

ministrative expense priority will effectively turn the

bankruptcy and insurance worlds “upside down.” The

concern, however genuine, is that insurance companies

will no longer insure debtors during bankruptcy if the

prospective deductibles are not characterized as admin-

istrative expenses because that will place an excessive

amount of risk on the shoulders of the insurance com-

pany—risk that the utilization of a deductible policy is

intended to offset. Zurich maintains that guaranteed

cost policies, those without deductible obligations,

would be far too expensive for the financially-strapped

companies to afford. And if debtors are therefore un-

able to secure insurance coverage during bankruptcy,

this would in turn prevent the continuing operation of

most debtors-in-possession. Consequently, the end re-

sult is the supposed devaluation of the estate to the

detriment of all creditors thereof.

i Perhaps estimation only would, or even should, be neces-

sary where the administrative claim bar date is set prior to the

confirmation date (see, e.g., Eli Witt) in order to estimate the

claims that may arise between the bar date and confirmation date,

which was not the case here.

48a

The value that insurance coverage provides to

debtors-in-possession during bankruptcy cannot be

overstated. See Reading, 391 U.S. at 483, 88 S.Ct. 1759

(“It is of course obvious that proper insurance premi-

ums must be given priority, else insurance could not be

obtained; and if a receiver or debtor in possession is to

be encouraged to obtain insurance in adequate

amounts, the claims against which insurance is obtained

should be potentialiy payable in full.”) Nevertheless,

the precedential repercussions felt by denying Zurich’s

claim under these narrow circumstances will not pro-

duce the dire picture that Zurich now paints.

The parties acknowledge that the current contro-

versy stems largely from the failure of the Frontier col-

lateral utilized as security for the projected deductible

losses. In business terms, therefore, the pertinent

question is who should bear the risk realized—the

Debtors (now represented by LCC) because the pro-

spective deductibles will be legal obligations as they

arise, or should Zurich absorb the loss because it failed

to adequately assess the risk and protect its interests?

The answer is reached by tie simple realization that

the question before the Court is not whether Zurich

should be reimbursed for the deductibles where in-

curred in the future (as a creditor of the now-defunct

estate), but instead whether Zurich’s claim for prospec-

tive expenses should receive administrative priority

treatment. Proverbially speaking, Zurich made its bed

and the other parties in interest—including LCC and

the public by way of reclama:ion—should not be forced

to sleep in it.

Zurich argues that it sinply assumed that receiv-

ing administrative expense priority treatment for the

loss projections was a foregone conclusion and that it

relied upon this presumed reality when negotiating

49a

with the debtors-in-possession. However, this raises

the rather conspicuous question of why Zurich would

require extensive collateral from the debtor-in-

possession if receiving administrative expense priority

was never a problem in past cases. The June 25, 2004

Amended Order explicitly stated that Zurich retained

the right to file an administrative claim for loss projec-

tions not covered by the collateral and that the Debtors

(now represented by LCC) retained the right to object

to any such claim:

The projected total liability by the Debtors

that will be due and owing to Zurich over the

lifetime of the payments under the Insurance

Contracts is in excess of $10,000,000, and Zu-

rich retains the rights to assert an administra-

tive claim for the balance of any claims under

the Insurance Contracts. The Debtors reserve

the right to object to any additional administra-

tive claim asserted by Zurich.

While this evinces knowledge by both parties and the

Bankruptcy Court that an administrative claim by Zu-

rich was possible and perhaps even likely, it also dem-

onstrates that Zurich had no guarantee of receiving

administrative priority for the prospective deductible

obligations. A sense of entitlement may have existed

us to any premium and deductible obligations arising

pre-confirmation or pre-effective date, but despite Zu-

rich’s plea otherwise, there is nothing in the record that

demonstrates justifiable reliance on the part of Zurich

as to the prospective and speculative obligations post-

confirmation.

Furthermore, Zurich’s efforts to obtain adequate

collateral to protect its interests, despite the alleged

belief that it would receive priority payment of the loss

50a

projections regardless, ironically demonstrates not only

that Zurich did not justifiably rely on receiving priority

status, but also that the consequences of denying Zu-

rich’s administrative expense claim in this instance will

not have a material effect on either the process or the

prospects of insurance coverage during bankruptcy. In

other words, seeing as Zurich attempted to secure suf-

ficient collateral to cover its risk and that this case

arose due to the rare instance of the collateral proving

insufficient, there is nothing to suggest that future par-

ties will not continue to negotiate collateralization of

deductible risks. Perhaps even greater collateralization

will become necessary to insure against the result Zu-

rich now faces, but that can be viewed as a positive de-

velopment and in no way necessitates the prohibitive

use of guaranteed cost policies when insuring debtors-

in-possession.

Finally, despite the fact that Zurich places great

weight on the allegation that the Debtors induced Zu-

rich to provide ongoing coverage during bankruptcy,

the practical reality remains that Zurich is an incredi-

bly sophisticated, for-profit insurance corporation that

was fully aware of the risks associated with insuring a

financially-troubled business. The parties concede that

this controversy would not be at issue but for the un-

fortunate failure of a substantial portion of the collater-

alizing bonds to pay off.** As such, because the cover-

” Adding to the overall speculative nature of Zurich's claim is

the uncertainty that still surrounds the allegedly defunct Frontier

bonds that provided for partial collateralization of the deductible

obligations under the Zurich policies. In essence, Zurich is re-

questing accelerated payment for prospective deductible expenses

without affirmative (i.e., “actual”) knowledge that the problem

5la

age agreements in this case were reached at arm’s

length and contentiously negotiated by parties of un-

questionable competence, any alleged inducement is of

no legal significance and the Court will not disturb the

contracts here simply because one party may have

more adamantly approached the other to do business.

3. Participation in Plan Feasibility

LCC asserts that Zurich’s failure to object to the

confirmation of the Debtor’s Plan proves “fatal” to its

administrative claim despite Zurich’s timely submission

of its claim within the established bar date for priority

claims. The Bankruptcy Court below focused on Zu-

rich’s failure to “participate” but it is unclear whether

the determination was necessary to the court’s ultimate

decision to deny Zurich’s claim or merely an additional

area of consideration that may justify the adverse rul-

ing against Zurich. The Bankruptcy Opinion notes that

because Zurich was not sufficiently involved in the

proces

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