The US Trustee in Edgio’s bankruptcy filed an objection to the debtors’ application to employ Milbank as counsel, marking the third big retention battle this year — the other two taking place in Enviva and Invitae (discussed here).

Edgio, a technology services company filed for bankruptcy on 9 September in the US Bankruptcy Court for the District of Delaware before Judge Karen Owens, with an application to employ Milbank as debtors’ counsel. The docket can be found here.

The US Trustee’s objection arose from Milbank’s representation of the debtors’ current and former officers as defendants in litigation actions. The US Trustee views this representation of directors and officers as “interests adverse to the estate” which would disqualify the firm under Section 327(a) of the Bankruptcy Code. The debtors disclosed this relationship in their declaration and stated “Milbank’s joint representation of Edgio, Inc. with certain of its current and former directors and officers is not adverse to the Debtors or their estates.”

Section 327(a) of the Bankruptcy Code provides: Except as otherwise provided in this section, the trustee, with the court’s approval, may employ one or more attorneys, accountants, appraisers, auctioneers, or other professional persons, that do not hold or represent an interest adverse to the estate, and that are disinterested persons, to represent or assist the trustee in carrying out the trustee’s duties under this title. (emphasis added).

The Bankruptcy Code does not define “adverse interest.” The US Trustee cites a number of cases which have set precedent for what “adverse interest” means and suggests the phrase can be defined as “when counsel has a competing economic interest tending to diminish estate values or to create a potential or actual dispute in which the estate is a rival claimant,” or where “the representation of another interest may cause the debtor’s attorneys to act any differently than they would without that other representation.” According to the US Trustee, these circumstances create a conflict of interest such that the firm must be disqualified under section 327(a).

The US Trustee argues that Milbank’s clients in the securities and derivative actions have opposite interests to the estate, since the officers and directors “want to minimize their liability on the same claims that the Debtors have a fiduciary duty to maximize.” 

As explained by the US Trustee, “the bankruptcy estates own the claims asserted in the Consolidated New York Derivative Action.” Delaware law establishes that once a bankruptcy petition is filed, any claims for injury to the debtor from wrongs committed by the debtor’s officers and directors become the property of the estate under Section 541 of the Bankruptcy Code. 

Also, according to the US Trustee, the individual defendants represented by Milbank have indemnification claims, which if allowed would be claims against the debtors that would lessen the value of the estate for similarly situated creditors. Accordingly, the debtors would likely have a duty to object to these claims if improper, which would set up these two clients of Milbank as rivals.

Addressing certain arguments the US Trustee expects Milbank to offer in reply, the US Trustee says even if the debtors argue that this is only potentially a conflict and not an actual conflict, it should still result in disqualification, since potential conflicts are only a defense if every competent professional in the field is already employed in the case, which is not the case here. Also, even if Milbank asserts that it has a conflict waiver from the debtors and its directors and officers, the US Trustee argues that the code does not allow for an adverse interest to be overcome by a conflict waiver.

Notably, this issue arose in Enviva’s retention battle as well, where Vinson & Elkins was representing officers and directors in shareholder and derivative actions, but the judge ultimately ruled that this issue did not present an impermissible conflict. In Enviva, the directors and officers were also entitled to indemnification, including defense costs, and under the RSA debtors’ management was entitled to 3.5% of the equity in the reorganized entities. After weighing the risk of any potential conflicts and the potential advantages to the bankruptcy estate such as savings of time and money, the court found that at least at the time of the opinion, this did not disqualify counsel.

Milbank has not yet filed a reply to the US Trustee’s objection.

There will be a hearing on Milbank’s retention application on 15 October, 2024 at 2pm ET.

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