Written by: Craig Klein and Greg Kennedy
Redrock Capital Management LLC; Denver
Creditors are often surprised by how difficult it is to allow and issue payment on their proof(s) of claim. Many creditors believe that it is very clear that they are owed money. Indeed, all correctly filed proofs of claim are prima facie allowed until the court determines otherwise. Even if there is an objection to the proof of claim, the debtor has to meet certain standards to overcome the claim’s prima facie validity. This article explains the steps creditors can take to maximize the likelihood their claims will not be disputed, reduced or expunged.
A common misconception is that a debtor’s claim-reconciliation department functions similarly to an accounts-payable department. However, when the debtor declares bankruptcy, it is no longer operating in the normal course of business; it is a “debtor-in-possession,” (DIP). As a result, the debtor’s operations may be impaired.
The debtor often hires financial advisors, accounting consultants and claims agents that specialize in bankruptcy to review its books and records. These professionals, while highly skilled, are usually not familiar with the debtor’s internal processes and procedures. As a result, they operate under the necessary assumption that the debtor’s books and records are correct unless and until proven otherwise. Unfortunately for creditors, the books and records of companies such as Enron and Worldcom are initially considered more valid then their own. Even the best-run companies, in the rush to file the bankruptcy petition and subsequent documents, will sometimes overlook appropriate accounting formalities. Payments that are made, as well as goods and services that are received, close to the filing date are often not reflected on the debtor’s records.
Although the debtor should be operated for the benefit of the creditors while it is in bankruptcy, there is a strong incentive for the debtor to remove as much debt from its books as possible. Indeed, a DIP has a duty to maximize recovery for those creditors holding valid claims. This duty often clashes with the prima facie validity to which all filed claims are entitled.
In some large, complex cases, it may be years before the debtor reviews a proof of claim and, by the time it is reviewed, the information and details supporting the proof of claim may have been forgotten, lost or even destroyed. Before a proof of claim is reviewed in detail, the debtor will likely file omnibus claims objections that object to hundreds, if not thousands, of claims at one time. Such objections may be motivated by the hope that trade creditors and vendors will not respond to the objections by the response deadline, which is typically 30 days. If no response is made by the objection deadline, the court may enter an order disallowing the claim, regardless of the claim’s underlying validity.
One common objection debtors employ is “the amount reflected on the claim filed by the trade creditor or vendor does not correspond to the amount reflected on debtor's books and records.” This type of objection is usually listed in an exhibit subtitled “Books and Record Claims.” As noted above, this type of objection arises from the debtor’s financial consultants relying on the validity and accuracy of the debtor’s books and records. As such, the debtor will typically provide no other evidence to support its objection. Arguably, such objections do not meet the evidentiary standard to overcome the prima facie validity of a proof of claim.
Another common objection is the “No Liability Claim.” This situation often arises when creditors believe their business relationship is with the debtor’s parent company when the relationship is, in fact, with an operating subsidiary. This sometimes results in the creditor mistakenly filing the proof of claim against the parent rather than the operating subsidiary. Because there is no corresponding liability on the parent’s books and records, the proof of claim will likely be objected to and potentially expunged.
If a creditor’s claim is objected to and it is unclear why, the creditor should immediately contact the debtor’s counsel or financial consultant. Creditors should ask for an explanation and for documentation as to why the claim amount was objected to. Once a reason is given, a creditor will know what issue to address and which documentation is necessary to respond to the objection. If more time than the typical 30-day period is needed to file a response to the objection, the creditor should ask for more time from the debtor’s counsel.
It would be helpful if there were a standard defined for what should be included with a proof of claim. Unfortunately, the Bankruptcy Code provides no guidance about what must be filed in a proof of claim. Creditors must look to Bankruptcy Rule 3001, which states that, to be legally sufficient, and therefore to be prima facie valid under the Bankruptcy Rules, a proof of claim must (1) be in writing, (2) make a demand on the debtor's estate, (3) express an intent to hold the debtor liable for the debt, (4) be properly filed and (5) be based on facts that would allow, as a matter of equity, the document to be accepted as a proof of claim. However, it is not clear what supporting documents are required by Rule 3001(c) and the extent to which the creditor must itemize the claim amounts on the proof of claim.
Given these factors, the best approach for avoiding the types of objections described above is to file a proof of claim that is completely self-explanatory; it should provide enough information so that an uninformed third party on the claims reconciliation team could verify that the debtor owes the creditor the amount filed by reviewing the proof of claim.
Creditors should always take the following steps when filing proofs of claims:
1) Pay attention to the “Bar Date,” which is the deadline for filing a proof of claim.
§ Even if the appropriate documentation isn’t ready at the bar date, a creditor should file a proof of claim that is related to all claims that may be asserted in the future. Once a proof of claim is filed prior to the bar date, the creditor can then amend that proof of claim after the bar date once the appropriate documentation is assembled.
2) Ensure that the creditor’s contact information is clearly displayed on the proof of claim.
§ A frequent complaint from claims reconciliation teams is that they cannot find creditors’ contact information. The individuals reviewing claims are often consultants that are unable to contact creditors unless their contact information is provided on the proof of claim.
3) Attach an exhibit that summarizes the proof of claim.
§ Creditors should attach an exhibit that lists the invoices associated with their claim, the dates invoices were mailed, any voided or rejected checks and the amounts of the invoices in the letter. Creditors should also provide the names and numbers of the debtor’s employees with whom they’ve worked that can verify the work that has been performed. The inaccessibility of employees with historical knowledge of the transaction in organizations with thousands of people often complicates the claims reconciliation process, which is why listing the relevant debtor’s employees that can verify details in a proof of claim can be tremendously helpful to ensuring the claim is allowed
4) A proof of claim is not the vehicle with which to address any problems or issues with billing and receiving payment from the debtor. Providing a list and explanation of the debtor’s accounts payable inaccuracies is more appropriate when responding to an objection.
§ Creditors should document and record any problems internally when filing the proof of claim. That way, if the debtor objects to a claim several years down the line, creditors will have the appropriate documentation to provide a record of what happened.
5) Attach copies of the invoices originally sent to the debtor.
§ Creditors should always attach copies of the invoices originally sent to the debtor. A generic example is that a debtor objected to a creditor’s proof of claim because the creditor didn’t attach copies of the invoices originally sent to the debtor. Instead, the creditor attached internal documents used by its accountants and auditors to the proof of claim, which the claims reconciliation team will not recognize.
6) Attach any bill of lading or proof-of-delivery to go with the goods.
§ This can be exceptionally helpful because the claims reconciliation team can spend a considerable amount of time trying to track down whether the goods were actually delivered. Additionally, it also prevents clear evidence that the goods were received.
7) Stay on top of the case.
§ If a debtor objects to a proof of claim, creditors will typically have 30 days upon receiving notice of the objection to file a response before a court will file a final order. Creditors should ensure their response is sent to the correct contact and should use a traceable delivery method, such as a courier or certified mail, to send the response
Even if the claim is disallowed, creditors are entitled to litigate the disallowance in bankruptcy court. Creditors should consult counsel for advice as quickly as possible when a claim is the subject of an objection.
 A proof of claim is a form filed by a creditor attesting to its believed claim against a bankrupt company.
 A debtor-in-possession is a bankrupt company that remains in control of its operations, as opposed to having a trustee operate the company.