2006 NORTON BANKRUPTCY LAW SEMINAR MATERIALS

THE ETHICS OF REPRESENTING DEBTORS AND CREDITORS IN BANKRUPTCY

By Susan M. Freeman

*This outline is adapted from Chapter 27, Ethical Responsibilities,
Norton Bankruptcy Law & Practice 2d (Thomson-West 2005)

client for malpractice unless the agreement is both permitted by law and the client is independently represented in making the agreement.²⁷²

5. The Third Circuit affirmed retention of the debtor's financial advisor with an indemnity from the advisor's own negligence in United Artists Theatre Co. v. Walton.²⁷³The court evaluated the indemnity from a market perspective and noted that indemnities have become common after the Merry-Go-Round settlement of negligent claims against the debtor's accountants.²⁷⁴But being common does not make provisions reasonable as required under Code §328.²⁷⁵The court evaluated reasonableness from the perspective of Delaware corporate law, focusing on the process of (1) having no personal interest; (2) having a reasonable awareness of all material information reasonably available after considering alternative options, and (3) providing advice in good faith.²⁷⁶The court required that gross negligence be carved out of the indemnity, and rejected a contract term that would have required indemnity if gross negligence was not judicially determined to be the sole source of damages; contractual disputes were likewise carved out of the indemnity.²⁷⁷

IV. Prepetition Retainers and Fee Agreements.

A. Source of Retainer.

Courts have required refunds of retainers deemed so large as to adversely affect the DIP's critical cash flow.²⁷⁸The court may also require a retainer be refunded if it is paid from a source deemed inappropriate.²⁷⁹To the extent a secured creditor is deemed to hold
an interest in the debtor's cash prepetition or postpetition, that cash may not be available to pay attorneys' fees or a retainer, absent creditor consent or a showing of direct benefit to the creditor under Code § 506(c).²⁸⁰The type of retainer may be dispositive; a security retainer held in trust for payment of future fees, less fees charged against it, is property of the estate that may be subject to a general intangibles or other lien.²⁸¹Taking a retainer from a secured creditor's collateral may create a conflict of interest.²⁸²A retainer from a third party is not property of the estate, but is still subject to court review under § 329 and may result in a disqualifying conflict of interest.²⁸³

It is incumbent upon counsel to ask about the retainer source.²⁸⁴The filing of an involuntary petition by creditors does not preclude the debtor from using its assets during the gap period before the order for relief to fund a retainer.²⁸⁵

B. Earned on Receipt Retainers.

1. Several bankruptcy courts in various jurisdictions have indicated that retainers to represent DIPs may not be considered "earned on receipt," but must be deposited into client

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