Miller v. Sun Capital Partners, Inc. (In Re IH 1, Inc.)
441 B.R. 742, 54 Bankr. Ct. Dec. (CRR) 61, 2011 Bankr. LEXIS 207 (2011)
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Rule of Law:
A law firm cannot represent a new client whose interests are materially adverse to a former client in a substantially related matter, unless the former client gives informed written consent, but such consent's effectiveness is strictly construed, particularly regarding its scope for individuals and non-explicitly covered entities.
Facts:
- On September 16, 2005, Sun Capital Partners, Inc. (Sun), through an affiliate, entered into a stock purchase agreement with Honeywell International Inc. to acquire all outstanding capital stock of Indalex Inc. and Indalex Limited.
- The stock purchase transaction closed on February 2, 2006, after which Sun and its affiliates controlled the acquired operating companies.
- On February 2, 2006, Indalex Holdings Finance, Inc., Indalex Holding Corp., Indalex Inc., Caradon Lebanon, Inc. and Dolton Aluminum Company, Inc. (Debtors), through their CFO Michael E. Alger, signed an engagement letter with Kirkland & Ellis LLP (Kirkland) containing a prospective conflict waiver that allowed Kirkland to represent Sun and its affiliates in future matters, including those adverse to Debtors.
- Between 2006 and 2009, Kirkland performed legal services for Debtors related to transactions that are now the subject of the adversary proceeding, including reviewing a solvency opinion and drafting board resolutions for a $76.6 million dividend payment, as well as advising on management services agreements and purported loans.
- On March 20, 2009, the Debtors filed for Chapter 11 bankruptcy protection, and their cases were converted to Chapter 7 on October 30, 2009.
- On July 30, 2010, George L. Miller, as Chapter 7 Trustee (Trustee), commenced an adversary proceeding against eight company defendants and 14 individual defendants, alleging they exercised control to extract money from Debtors through transaction fees, management fees, improperly declared dividends, and mischaracterized equity infusions as secured loans.
Procedural Posture:
- Indalex Holdings Finance, Inc., Indalex Holding Corp., Indalex Inc., Caradon Lebanon, Inc. and Dolton Aluminum Company, Inc. (Debtors) filed for Chapter 11 bankruptcy protection.
- The Debtors' cases were converted to Chapter 7.
- George L. Miller, as Chapter 7 Trustee (Trustee), commenced an adversary proceeding against eight company defendants and 14 individual defendants (including Sun Capital Partners, Inc. and its affiliates) to recover certain transfers and damages for breaches of fiduciary duties.
- The Trustee filed a motion to disqualify the law firm of Kirkland & Ellis LLP from representing certain defendants in the adversary proceeding.
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Issue:
Does a law firm's prior representation of a bankrupt entity on matters substantially related to a trustee's claims against certain defendants, including a parent company and individuals, necessitate disqualification under Model Rule 1.9, despite an engagement letter containing a prospective conflict waiver?
Opinions:
Majority - Walsh, Bankruptcy Judge
No, Kirkland is not disqualified from representing Sun Capital Partners, Inc. and its direct affiliates due to a valid, informed written consent from the former client; however, Yes, Kirkland is disqualified from representing Indalex Co-Investment, LLC, HIG Sun Partners, Inc., and the individual defendants because the consent's scope did not extend to them. The court found that the adversary proceeding's matters (e.g., the dividend payment, management fees, security interests) were "substantially related" to Kirkland's prior legal work for the Debtors, as evidenced by Kirkland's billing records showing direct involvement in these transactions (e.g., reviewing solvency opinions and drafting board resolutions for the dividend). Therefore, the threshold for Model Rule 1.9 was met, making disqualification appropriate unless consent or waiver applied. The Debtors provided informed consent through a specific and narrow conflict waiver in the February 2, 2006 engagement letter, explicitly allowing Kirkland to represent "Sun, its affiliates or portfolio companies" in future matters. This waiver was effective for Sun and its affiliates because it was agreed to by a sophisticated client (Debtors' CFO, Michael E. Alger) who reasonably understood the risks. This decision aligns with similar prior rulings involving nearly identical waiver language. However, the court determined that the consent did not apply to the 14 individual defendants, as the engagement letter's language specifically limited the waiver to corporate entities (Sun, its affiliates, or portfolio companies) and did not name individuals. Similarly, two corporate defendants, Indalex Co-Investment, LLC and HIG Sun Partners, Inc., were not identified as Sun affiliates in the complaint, only as shareholders, thus falling outside the explicit scope of the waiver. Finally, the court rejected the argument that the Trustee had waived the disqualification claim by delay. The Trustee's counsel alerted Kirkland to the potential conflict in an email on August 16, 2010, and filed the motion to disqualify less than a month after the defendants' answer was filed, which was deemed not an unreasonable amount of time.
Analysis:
This case offers critical guidance on the interpretation and enforceability of prospective conflict waivers, particularly in complex corporate structures involving private equity sponsors and their portfolio companies. It underscores that while sophisticated clients can effectively waive potential conflicts for clearly defined corporate families, courts will strictly construe the scope of such waivers. The decision highlights that general waivers are unlikely to extend to individual officers, directors, or entities not explicitly identified as affiliates, thereby emphasizing the need for highly precise language in engagement letters when attempting to secure broad prospective consents.
