Bankruptcy Claims vs. Class Actions: Southern District of New York Finds Class Action Process Superior

In bankruptcy proceedings, is a class action superior to the claims administration process as a vehicle for resolving claims under the federal and New York State Workers Adjustment and Retraining Notification Act (the “WARN Act”)? In Schuman v. The Connaught Grp., Ltd. (In re The Connaught Grp., Ltd.), Case No. 12-01051, Slip Op. (Apr. 17, 2013), Judge Bernstein of the Bankruptcy Court for the Southern District of New York found that it was. The court’s decision clarifies the contours of the relationship between the bankruptcy claims process and class actions in the context of WARN Act claims, an issue for which caselaw guidance is limited.

In Connaught, the debtor, the Connaught Group, Ltd. (“Connaught”) designed and sold women’s apparel. Martina Schuman (“Schuman”) worked in one of Connaught’s facilities in New York City. In January 2012, Connaught terminated approximately 100 employees, including Schuman. In February 2012, Connaught and related entities commenced chapter 11 cases. A few days later, Schuman filed a class adversary proceeding in the cases, alleging that the putative class members did not receive sufficient written notice of their termination and were owed back pay. In September 2012, Schuman filed a class proof of claim in the case and moved to certify the class. Meanwhile, in October 2012, Connaught confirmed a liquidating plan. Connaught’s liquidating trust opposed the certification motion on, among other grounds, that (1) certification would increase costs and delay the case administration, and (2) in general, class actions are inconsistent with and detrimental to the administration of the bankruptcy claims process and the debtors’ estate.

The bankruptcy court rejected these arguments. After determining that the plaintiffs met the requirements for certification under Rule 23(a), the court turned to Rule 23(b)(3). The court recognized that, in the context of a bankruptcy proceeding, the “superiority inquiry under Rule 23(b)(3) essentially comes down to whether the class action is superior to the bankruptcy claims resolution process.” Slip. Op. at 10. To make this determination, the court considered whether the class was certified pre-petition, whether the members of the class received notice of the bar date, and whether certification adversely affected the administration of the estate.  Id. (citing In re Musicland Holding Corp., 362 B.R. 644 (Bankr. S.D.N.Y. 2007) and the Fifth Circuit’s recent decision in In re Teta v. Chow (TWL Corp.), No. 12-40271, 2013 WL 1285294, at *8 (5th Cir. Mar. 29, 2013)).

The court found insignificant that the class was not certified pre-petition given that the debtor’s financial distress triggered the termination of the putative class plaintiffs’ employment. Slip Op. at 13. The Court reasoned that giving this factor any weight would be improper because it would prevent certification of WARN Act classes in “virtually all” bankruptcy cases. Id. The court concluded that the “principal consideration” should be the effect of the class certification on the administration of the estate. Id. The Court found significant that there were sufficient funds to satisfy the class claim if it were allowed, so that allowance would not imperil Connaught’s liquidation. Id. at 15. The court also found that denying class certification would create potentially greater delay than granting the motion, given that all putative class members would then have to file claims that the liquidating trust would have to examine separately. Id. at 16

The bankruptcy court’s decision in Connaught provides guidance on the relationship between class adversary proceedings and the bankruptcy claims resolution process in the context of WARN Act claims, an area of law on which caselaw authority is limited. In particular, the Connaught court recognized that a class adversary proceeding may be a useful vehicle for administering WARN Act claims connected to a debtor’s chapter 11 bankruptcy case. This ruling could potentially encourage WARN Act plaintiffs to bring their claims in an adversary proceeding rather than to seek relief from the automatic stay to prosecute a parallel civil action. As a result, this decision is of interest to companies in financial distress that are contemplating a reduction in workforce in connection with a potential bankruptcy filing.