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In re Congoleum Corp.

October 13, 2005

IN RE: CONGOLEUM CORP., ET AL.
CENTURY INDEMNITY COMPANY, AS SUCCESSOR TO CCI INSURANCE COMPANY, AS SUCCESSOR TO INSURANCE COMPANY OF NORTH AMERICAN; ACE AMERICAN INSURANCE COMPANY F/K/A CIGNA INSURANCE COMPANY; ACE PROPERTY & CASUALTY INSURANCE COMPANY F/K/A CIGNA PROPERTY & CASUALTY INSURANCE COMPANY, APPELLANTS
v.
CONGOLEUM CORPORATION; CONGOLEUM SALES, INC.; CONGOLEUM FISCAL, INC.



APPEAL FROM THE UNITED STATES DISTRICT COURT FOR THE DISTRICT OF NEW JERSEY. (D.C. Civ. No. 04-cv-01709). District Judge: Honorable Stanley R. Chesler.

The opinion of the court was delivered by: Weis, Circuit Judge

PRECEDENTIAL

Argued July 15, 2005

Before: SLOVITER, McKEE and WEIS, Circuit Judges.

OPINION

In this pre-packaged Chapter 11 reorganization, we hold that evidence of pre-petition conduct in this case by a law firm is relevant to a review of a debtor's application to retain the firm as special insurance counsel. We conclude that the bankruptcy judge should not have granted the application here. The firm had acted as counsel for the debtor pre-petition in negotiating settlement arrangements with asbestos injury claimants represented by attorneys who were co-counsel with the firm in insurance matters for those same claimants. We conclude that conflicts existed which precluded the firm's retention under the Rules of Professional Conduct and the Bankruptcy Code.

Facing nearly 100,000 claims for injury caused by asbestos in its products and the exhaustion of its primary liability insurance coverage, Congoleum filed a declaratory judgment in the Superior Court of New Jersey in 2001 against a number of excess carriers.*fn1 The complaint was filed by the law firm of Dughi, Hewit & Pallatucci, which had represented Congoleum in insurance matters for more than ten years.*fn2

While that litigation continued, Congoleum*fn3 sought relief in the Bankruptcy Court in a Chapter 11 pre-packaged plan of reorganization designed to channel existing and future asbestos claims to a trust as authorized by 11 U.S.C. § 524(g). Approval of the plan would enable Congoleum to preserve its assets and continue in business because the trust would assume its asbestos liability. Section 524(g) of the Bankruptcy Code requires that 75% of current asbestos claimants approve a plan of reorganization before a channeling order may be issued. As a result, garnering support from a large number of claimants is crucial to the success of a plan.

A unique feature of asbestos personal injury litigation is the fact that a small group of law firms represents hundreds of thousands of plaintiffs. Another notable aspect is that, because over time they may have been exposed to asbestos in various environments, some of the injured persons may have claims against a number of defendants.

The realities of securing favorable votes from thousands of claimants to meet the 75% approval requirement forces debtors to work closely with the few attorneys who represent large numbers of injured claimants. A prepackaged plan of reorganization acceptable to the debtor must be satisfactory for the claimants as well*fn4 and, consequently, extensive negotiations are necessary.

I.

In this case, negotiations between the debtor and counsel for plaintiffs produced a proposal that involved the creation of a trust funded primarily by proceeds from Congoleum's insurance carriers to pay for settlements of existing, as well as future asbestos personal injury claims. Congoleum was to contribute to the trust a $2.7 million promissary note payable ten years after confirmation and ABI, Congoleum's parent corporation, was to contribute $250,000 cash and the pledge of its shares in Congoleum to secure Congoleum's promissory note. Notably, neither Congoleum nor related entities were required to contribute equity to the trust.*fn5

The pre-petition activity that occurred in this case is fairly typical of that in a number of asbestos pre-packaged plans. Joseph F. Rice and Perry Weitz, two plaintiffs' lawyers,*fn6 negotiated a settlement of numerous asbestos claims with Congoleum's counsel, Gilbert, Heintz & Randolph, LLP ("Gilbert"). The agreement employed a matrix to "resolve and settle" the amounts the various classes of claimants would receive as damages. For example, mesothelioma victims were each allocated $100,000. In contrast, those with non-malignant injuries would receive $1,000.*fn7

To qualify for compensation, a participating claimant was required to provide evidence of injury and exposure to Congoleum products. Claims of the qualified participating claimants would be secured to 75% of the matrix values and the remainder would be treated as unsecured claims. In contrast to the claims of participating claimants addressed in the settlement agreement, claims settled with a separate group of claimants pre-petition would be secured in full.

II.

The role Gilbert played in preparing the plan is challenged in this proceeding. In October 2002, Perry Weitz recommended that Congoleum retain Gilbert to assist in solving insurance coverage for Congoleum's mounting asbestos liability. Gilbert specializes in insurance coverage disputes and product liability matters. Itserves in a variety of capacities related to various asbestos mass tort cases and represents defendants as well as claimant and creditor committees in various asbestos bankruptcies.

At the time he recommended the firm to Congoleum, Weitz had existing co-counsel relationships with Gilbert in other asbestos related proceedings.*fn8 The arrangements were that Gilbert would represent the claimants in seeking recovery from the insurers of asbestos defendants.

Gilbert described its work as co-counsel with Weitz as providing:

"insurance-related advice to certain claimants in asbestos and other contexts. [Gilbert] represents certain asbestos-related bodily injury claimants in proceedings against a primary insurer with respect to that insurer's coverage obligations . . . in pursuing coverage claims against insurers . . . and in pursuing coverage from insurers of similar defendants."

Gilbert explained that it did not represent the individual claimants with respect to the establishment of their tort claims, "but only with respect to the collection of insurance monies to pay claims that may be established."

On February 6, 2003, Gilbert entered into a formal retention agreement to advise and represent Congoleum in efforts to negotiate with claimants' counsel to settle "pending asbestos-related bodily injury" claims, and arrange for the "terms of a 'pre-packaged' plan of reorganization." For these services, Gilbert was to receive a fixed fee of $2 million from Congoleum. Congoleum also paid Perry Weitz and Joseph Rice*fn9 $1 million each for fees and expenses they "incurred or may incur in connection with" negotiating the pre-packaged plan.

In its letter of retention, Gilbert disclosed to Congoleum its many representations in the asbestos field, including that it had been retained to represent individual tort claimants "to provide legal advice with respect to insurance matters." Gilbert explained that its "co-counsel with respect to many of these matters is [Weitz]." Gilbert also stated that it

"represents other clients, not listed here, that are or may be adverse to the [sic] Congoleum with respect to asbestos related claims. GHR will continue to represent these and other similarly situated clients in these capacities in the future. ... In light of the Firm's representation of entities that are potentially adverse to Congoleum in other matters, GHR cannot provide any legal services to Congoleum that could impair its ability to represent fully its corporate and other clients. Congoleum agrees that GHR may continue to represent or to undertake to represent existing or new clients as described above or in other matters, even though the positions taken by other clients in those matters may be adverse to the positions taken by Congoleum in those or other matters. Congoleum will not, in [sic] the basis of GHR's representation of them, object to GHR's continuing or undertaking the representation of other clients in matters where the positions taken by such clients are adverse to those taken by Congoleum in those or other matters."

In addition to negotiating on Congoleum's behalf with claimants' counsel to structure the contemplated bankruptcy reorganization, Gilbert participated in the declaratory judgment action in New Jersey state court, although the Dughi firm is the lead trial counsel in that proceeding.

Congoleum filed its reorganization petition on December 31, 2003 and on January 23, 2004 applied for bankruptcy court approval to retain Gilbert as "special insurance counsel." The application stated that Gilbert "would be primarily responsible for strategic advice on insurance issues, including but not limited to insurance-related settlement negotiations, and the representation of the Debtors with respect to insurance issues arising in the context of the Chapter 11 Cases."

The application continued, "GHR was the primary counsel that negotiated with representatives of asbestos plaintiffs to create the structure of the Debtors' Plan. GHR also represented Congoleum in negotiating and drafting asbestos settlement agreements that liquidated numerous claims asserted against Congoleum in the tort system. The settlement of numerous asbestos claims allowed the Debtors to negotiate the Plan, which contemplates that the primary assets dedicated to pay asbestos claims will be Congoleum's right to receive insurance proceeds."

The following services "among other things" were to be provided by Gilbert:

"(a) advising and representing the Debtors in insurance-related settlement negotiations and mediations with insurers and other parties;

(b) pursuant to request of the Debtors, advising and assisting the Debtors in consultations with parties-in-interest regarding unresolved, potentially available insurance coverage;

(c) advising the Debtors as to the appropriate steps necessary to assert claims against and obtain proceeds from insurers;

(d) reviewing and analyzing insurance-related documents, data, applications, orders, operating reports, schedules and other materials;

(e) representing the Debtors at hearings concerning insurance-related issues in the bankruptcy case;

(f) advising and assisting the Debtors in preparing appropriate insurance-related legal pleadings and proposed insurance-related orders in the bankruptcy case;

(g) pursuant to requests of the Debtors, advising and assisting the Debtors with respect to insurance-related issues in connection with the formulation negotiation ...


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