Equitable Mootness And Arbitration: First Impressions In The Ninth Circuit

2012 is shaping up as a year of bankruptcy first impressions for the Ninth Circuit. The court of appeals sailed into uncharted bankruptcy waters twice already this year in the same chapter 11 case. On January 24, the court ruled in In re Thorpe Insulation Co., 2012 WL 178998 (9th Cir. Jan. 24, 2012) ("Thorpe I"), that an appeal by certain nonsettling asbestos insurers of an order confirming a chapter 11 plan was not equitably moot because, among other things, the plan had not been "substantially consummated" under the court's novel construction of that statutory term. Less than a week later, the Ninth Circuit ruled in Continental Ins. Co. v. Thorpe Insulation Co. (In re Thorpe Insulation Co., 2012 WL 255231 (9th Cir. Jan. 30, 2012) ("Thorpe II"), that a bankruptcy court has discretion in a core proceeding to decline to enforce an otherwise valid and applicable arbitration provision if arbitration would conflict with the underlying purposes of the Bankruptcy Code.


"Mootness" is a doctrine that precludes a reviewing court from reaching the underlying merits of a controversy. In federal courts, an appeal can be either constitutionally or equitably moot. Constitutional mootness is derived from Article III of the U.S. Constitution, which limits the jurisdiction of federal courts to actual cases or controversies and, in furtherance of the goal of conserving judicial resources, precludes adjudication of cases that are hypothetical or merely advisory. In contrast, "equitable mootness" bars adjudication of an appeal when a comprehensive change of circumstances occurs such that it would be inequitable for a reviewing court to address the merits of the appeal.

In bankruptcy cases, equitable mootness is often invoked in an effort to preclude appellate review of an order confirming a chapter 11 plan. Protecting legitimate expectations of innocent stakeholders and the difficulty of "unscrambling the eggs" are issues that a court considers when confronted with any challenge to a plan-confirmation order, whether such challenge involves a request to revoke the order outright under Bankruptcy Code § 1144 (providing for revocation of a confirmation order within 180 days of entry upon a showing of procurement by fraud) or some form of collateral attack. Courts sometimes reject the challenge (if in the form of an appeal of the confirmation order) as equitably moot because it is simply too late or too difficult to undo transactions consummated under the plan.

A court will dismiss an appeal from a confirmation order as equitably moot if effective relief, even if arguably possible, would be inequitable under the circumstances, given the difficulty of restoring the status quo ante and the impact on all parties involved. The threshold inquiry in applying the equitable mootness doctrine is ordinarily whether a chapter 11 plan has been "substantially consummated." Section 1101(2) of the Bankruptcy Code provides that substantial consummation occurs when substantially all property transfers proposed by the plan have been completed, the reorganized debtor or its successor has assumed control of the debtor's business and property, and plan distributions have commenced.

Several circuit courts of appeal have formally adopted the doctrine of equitable mootness in considering whether to hear appeals of plan-confirmation orders. For example, in Search Market Direct, Inc. v. Jubber (In re Paige), 584 F.3d 1327 (10th Cir. 2009), the Tenth Circuit considered six factors in determining whether the doctrine should moot appellate review of a confirmation order: (1) whether the appellant sought and/or obtained a stay pending appeal; (2) whether the plan has been substantially consummated; (3) whether the rights of innocent third parties would be adversely affected by reversal of the confirmation order; (4) whether the public-policy need for reliance on the confirmed bankruptcy plan—and the need for creditors generally to be able to rely on bankruptcy-court decisions—would be undermined by reversal of the confirmation order; (5) the likely impact upon a successful reorganization of the debtor if the appellant's challenge is successful; and (6) whether, on the basis of a brief examination of the merits of the appeal, the appellant's challenge is legally meritorious or equitably compelling. Substantially similar tests have been adopted by the Second, Third, and Fifth Circuits. See In re Chateaugay Corp., 10 F.3d 944 (2d Cir. 1993); Nordhoff Invs., Inc. v. Zenith Elecs. Corp., 258 F.3d 180 (3d Cir. 2001); TNB Fin., Inc. v. James F. Parker Interests (In re Grimland, Inc.), 243 F.3d 228 (5th Cir. 2001). As discussed herein, the Ninth Circuit joined this group with its ruling in Thorpe I.


Whether a contractual arbitration clause will be enforced by the bankruptcy courts in accordance with the Federal Arbitration Act (the "FAA") has been the focus of debate in bankruptcy and appellate courts for decades. The FAA provides that arbitration agreements "shall be valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract."

In Shearson/Am. Exp. Inc. v. McMahon, 482 U.S. 220 (1987), the U.S. Supreme Court ruled that the FAA's mandate may be overridden if a party opposing arbitration can demonstrate that "Congress intended to preclude a waiver of judicial remedies for the statutory rights at issue." According to the Court, such congressional intent can be discerned in one of three ways: (i) the text of the statute; (ii) the statute's legislative history; or...

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