On March 20, 2007, the Supreme Court decided Travelers Casualty & Surety Co. v. Pacific Gas & Electric Co., 127 S. Ct. 1199 (2007). The decision imperfectly answers a very limited question about the ability of an unsecured creditor in a bankruptcy case to recover postpetition attorneys' fees from the debtor. The case potentially has wide-ranging consequences in bankruptcy cases and could generate litigation over the recovery of attorneys' fees in bankruptcy cases because of the many questions it has left unanswered.

The precise holding in Travelers is that the so-called Fobian rule, established by the Ninth Circuit Court of Appeals in Fobian v. Western Farm Credit Bank (In re Fobian), 951 F.2d 1149 (9th Cir. 1991), has no support in the Bankruptcy Code or elsewhere and, therefore, "cannot stand."

Simply put, the Fobian rule was a judicially created rule that provided that, notwithstanding the terms of the creditor's contract with the debtor, the claim of an unsecured creditor for postpetition attorneys' fees could not be allowed if the creditor was seeking reimbursement for litigating issues that did not involve "basic contract enforcement questions," but instead related to "issues peculiar to federal bankruptcy law." In striking down the Fobian rule in the Travelers case, the Supreme Court held that the Fobian rule's per se denial of certain categories fee requests was unwarranted and unsupported by the bankruptcy statute or applicable state law.

The facts of Fobian are instructive. In that case, a potentially undersecured creditor opposed confirmation of the debtor's Chapter 12 reorganization plan on the ground that the plan did not provide for any recovery on the unsecured deficiency portion of its claim. The bankruptcy court confirmed the Chapter 12 plan over the creditor's objection and the creditor appealed. The Bankruptcy Appellate Panel for the Ninth Circuit reversed the bankruptcy court and held that the plan was not confirmable. The debtor appealed to the Court of Appeals. The Ninth Circuit agreed with the creditor and held that the plan was not confirmable due to the fact that the plan ignored the creditor's unsecured deficiency claim. However, the Ninth Circuit denied the creditor's request to recover its attorneys' fees on the ground that the creditor's litigation of the confirmation requirements for a Chapter 12 plan was not in the nature of a traditional "action on the contract" so that the creditor's efforts to assert its rights under the Bankruptcy Code should not be compensated.

Regrettably, in Fobian, the Ninth Circuit did not appear to undertake any analysis of the terms of the contractual attorneys' fees clause on which the creditor was relying. Thus, rather than performing an analysis of whether the nature of the legal work performed by the creditor's legal counsel fell within the ambit of the attorneys' fee clause of the creditor's agreement with the debtor, the Ninth Circuit appeared to simply reject the fee request on the ground that the plan confirmation issues that were litigated were not "basic contract enforcement questions" but instead were "peculiar to federal bankruptcy law." The unspoken implication of Fobian was that the creditor's assertion of bankruptcy-created rights, such as the requirements for confirmation of a plan of reorganization, was not the equivalent of a lawsuit to enforce the creditor's contract and, therefore, the fees could not be recovered under the fee clause of the contract. While an analysis of the fee clause and a comparison of the work performed to the scope of the fee clause might have yielded the same result, the Fobian rule, as it became known, somehow morphed into a per se rule where the terms of the contract became irrelevant.

The facts articulated by the Supreme Court in the Travelers opinion are as sketchy as those outlined in Fobian. In Travelers, Travelers Casualty & Surety Co. (TC&SC) provided surety bonds to Pacific Gas & Electric Co. (PG&E) to backstop the self-insured workers' compensation program provided by PG&E under state law. In connection with the issuance of the bonds, PG&E executed an indemnity agreement that, among other things, provided for the payment of attorneys' fees in certain instances. Although it appears there were no defaults under the bonds and TC&SC was never required to make payment under the bonds, TC&SC nevertheless filed a protective (i.e., contingent) proof of claim in PG&E's case in the event the bonds were called in the future. At the disclosure statement hearing, PG&E and TC&SC agreed upon protective language to be included in PG&E's plan of reorganization to address TC&SC's concerns about its contingent claim. When PG&E allegedly changed the language in the plan and objected to TC&SC's contingent proof of claim, litigation ensued. The parties ultimately agreed upon language and TC&SC filed an amended proof of claim seeking recovery of the fees incurred by it, with PG&E reserving the right to object to those fees. Because PG&E's reorganization plan was a "full pay" plan, the fee issue was significant. PG&E challenged the fees and the bankruptcy court disallowed the fees under the Fobian rule, as did the district court and the Ninth Circuit, thus setting the stage for the petition for certiorari.

The decision in Travelers must be read carefully because it is a very narrow holding. Technically speaking, the only issue decided by the Supreme Court is that there is no support for a judicially created rule that summarily disallows a request for postpetition attorneys' fees incurred in litigating "bankruptcy" issues in the bankruptcy court without any analysis of the scope of the contractual provision or review of whether the fees sought fall within the ambit of the attorneys' fees clause of the subject contract. Thus, Travelers should not be read to open the door for the payment of attorneys' fees for postpetition litigation of issues "peculiar to federal bankruptcy law." Instead, Travelers leaves room for litigants to attempt to recover fees depending upon the scope of the language of the attorneys' fee clause of the subject contract, the nature of the legal issues that are litigated, the results of the litigation, and the reasonableness of the fees requested. Nothing in Travelers would appear to authorize payment of attorneys' fees for nonlitigation matters such as "monitoring" the chapter case, reviewing incoming pleadings that are not specifically targeted to the creditor, attending hearings for informational purposes, speaking to the debtor and other creditors, or similar nonlitigation activities. But, of course, it remains to be seen how the Travelers case will affect the drafting of fee clauses in the future and how bankruptcy courts will handle expansive fee provisions that purport to extend to mundane activities that fall short of enforcement.

Perhaps the best way to understand the limits of the Travelers decision is to focus on three aspects of the decision. The first aspect is the opening paragraph of the decision where the issue presented is described, the second aspect is the Supreme Court's perhaps undue reliance upon Bankruptcy Code section 502, and the third aspect is the concluding portion of the opinion where the Supreme Court leaves the door open for the parties to address, on remand, the viability of other arguments under federal bankruptcy law (namely, section 506(b) of the Bankruptcy Code), the exact nature and scope of the fee clause in the operative documents and to compare the activities undertaken by TC&SC with its contractual entitlements, if any.

The first two sentences of the Travelers decision are critical. The first sentence provides as follows:

We are asked to consider whether federal bankruptcy law precludes an unsecured creditor from recovering attorneys' fees authorized by a prepetition contract and incurred in postpetition litigation. [Emphasis added].

The highlighted language reveals the limited scope of the question presented to the Supreme Court. The first limiting factor is the inquiry into whether "federal bankruptcy law," as opposed to underlying state law, provides a basis for limiting or denying a claim for attorneys' fees. The Court concluded it did not. The second highlighted portion of the sentence regarding "an unsecured creditor" focuses on creditors who are not covered by Bankruptcy Code section 506(b), which enables an oversecured creditor to recover its attorneys' fees if recovery of fees is permitted by its underlying contract with the debtor. The third highlighted portion of the sentence, "authorized by a prepetition contract," makes it clear that the Supreme Court is only dealing with fee requests that are specifically grounded in a contract provision. This is important because the Travelers opinion does not stand for the proposition that there is a general floating right for any unsecured creditor to seek to recover attorneys' fees expended by it in a bankruptcy case. And, lastly, the fourth highlighted portion of the sentence regarding "postpetition litigation" focuses on postbankruptcy activities as distinct from fees that may have been incurred by the creditor prior to the date that the debtor filed for bankruptcy.

The second sentence of the Travelers opinion is equally instructive:

The Court of Appeals for the Ninth Circuit held, based on a rule previously adopted by that court, that such fees are categorically prohibited—even where the contractual allocation of the attorneys' fees would be enforceable under applicable nonbankruptcy law—to the extent the litigation involves issues of federal bankruptcy law. [Emphasis added].

The first highlighted set of words—"categorically prohibited"—emphasizes, in a negative way, the per se aspect of the Fobian rule. The parenthetical phrase "even where the contractual allocation of the attorneys' fees would be enforceable under applicable nonbankruptcy law" signals the Court's belief, discussed at length later in the opinion, that the underlying contract and the enforceability of that contract under nonbankruptcy law will be material to any future determination of the allowability of TC&SC's fees upon remand. The last highlighted section identifies the nature of the services for which reimbursement is sought—litigation of bankruptcy issues—and thus narrows the scope of the holding.

The second noteworthy aspect of the opinion is the Court's emphasis upon Bankruptcy Code section 502(b)(1). In the opinion, the Court appears to make much of PG&E's inability to articulate which subsection of section 502(b) would require the disallowance of TC&SC's claim for fees. The opinion cites section 502(b)(1) in support of the proposition that the claim should be allowed unless it is "unenforceable" against the debtor "under any agreement or applicable law." From that jumping-off point, the Court properly examines underlying state contract law, citing Raleigh v. Illinois Dept. of Revenue, 530 U.S. 15 (2000); Butner v. United States, 440 U.S. 48 (1979); and Vanston Bondholders Protective Committee v. Green, 329 U.S. 156 (1946), for the general proposition that, in the first instance, rights to payment are created and construed under state law. The Court also surveys the other subsections of section 502(b) to demonstrate that there is no other subsection that would require the claim for fees to be disallowed. The Court concludes that because section 502(b)(1) through (b)(9) cannot be used to disallow the claim, the claim must be allowed.

The Court's failure to discuss or even note the lead-in language of Bankruptcy Code section 502(b) is puzzling. Section 502(b) provides that the "amount" of every creditor's claim shall be determined "as of the date of the filing of the petition." This limitation excludes postpetition claims such as Travelers' postpetition claim to recover its postpetition attorneys' fees. Even if the Court was trying to demonstrate that no provision of the Bankruptcy Code, including section 502(b), affirmatively prevents payment of attorneys' fees that are incurred postbankruptcy, the opinion is still troubling because section 502(b)(2) addresses—and disallows—claims for unmatured interest. There is a basic inconsistency in reading section 502(b) one way for postpetition attorneys' fees and another way for postpetition interest: if the allowance and payment of postpetition attorneys' fees can be justified by reference to section 502(b) and the argument that section 502(b)(1) does not affirmatively prohibit the recovery of postpetition fees despite section 502 "freezing" the amount of each creditor's claim as of the date of bankruptcy, then the same argument can be made to justify a claim by an unsecured creditor for postbankruptcy interest notwithstanding the restriction of section 502(b)(2). Thus, using the Court's logic in Travelers, the argument could be made that, notwithstanding the fact that section 502(b)(2) freezes the creditor's claim for interest on the date of bankruptcy, as time progresses during the bankruptcy case, "unmatured" interest matures, giving rise to a claim by an unsecured creditor for the postbankruptcy accrual of interest. This assuredly is not the law. An unsecured creditor cannot recover postpetition interest from an insolvent debtor. By seeming to ignore decades of case law that denied postpetition attorneys' fees for unsecured creditors, the Court may have adopted an inaccurate view of how section 502(b) works that wrongly uses section 502 to support what many would say is a radical proposition of law.

If, however, the Court is relying on section 502(b) in order to draw some kind of nexus between the prepetition contract of the unsecured creditor and its ongoing rights after the bankruptcy case is filed to enforce or add to its prebankruptcy claim through the fee clause, there seems to be some logical step omitted from the Court's analysis. Perhaps the underpinning of the decision is nothing more than that, so long as the Bankruptcy Code does not expressly prohibit a claim, the claim must be allowed if it is enforceable under state law. The Court's imperfect analysis of section 502(b) is nonetheless a distraction.

The final aspect of the opinion in Travelers is the Court's disclaimer:

Accordingly, we express no opinion with regard to whether, following the demise of the Fobian rule, other principles of bankruptcy law might provide an independent basis for disallowing Travelers' claim for attorneys' fees. We conclude onlythat Court of Appeals erred in disallowing that claim based on the fact that the fees at issue were incurred litigating issues of bankruptcy law. [Emphasis added].

The language addresses two issues. First, "other principles of bankruptcy law" is a reference to PG&E's failed attempt to argue that Bankruptcy Code section 506(b) provides an independent basis to disallow any postpetition claim for attorneys' fees by an unsecured or undersecured creditor. In no uncertain terms, the Court had already expressed its displeasure earlier in the opinion at PG&E's attempt to interject the section 506(b) argument for the first time during merits briefing and at PG&E's repudiation of Fobian at oral argument. The Court declined to vary its longstanding rule that it would not consider matters not raised in the certiorari petition or in the courts below. Second, the last sentence of the quoted language makes it clear that, consistent with the first sentence of the opinion, the Court was not addressing the issues of whether the attorneys' fees would be recoverable by TC&SC based upon the scope of the fee clause or the nature of the litigation expenses or whether section 506(b) was a bar to an unsecured creditor recovering its fees. This is entirely consistent with footnote 5 of the opinion, where, after declining to address the section 506(b) issue, the Court stated that, for "similar reasons," the Court would not address the arguments that the fees were not reasonable or the fees were beyond the scope of the fee clause in the agreement between PG&E and TC&SC. Presumably, every argument other than the Fobian rule is fair game following remand.

For these reasons, Travelers raises more questions than it answers. It therefore should come as no surprise that these questions include the following:

• Notwithstanding the Supreme Court's statement that, in the first instance, a creditor's right to payment is created under and construed in accordance with state law, there are obvious restrictions imposed upon the right to payment when a debtor files for bankruptcy. These restrictions include the inability of an unsecured or undersecured creditor to recover postbankruptcy interest from an insolvent debtor. To what extent should a debtor's limited resources be depleted through the accrual of attorneys' fees? Is it fair for some creditors to recover fees through a fee clause while others cannot due to the absence of a fee clause? Why should litigious creditors recover more than docile creditors, or be encouraged to incur large fees that will deplete the estate for more patient creditors?
  
  
• What constitutes "enforcement" of the creditor's rights? The Bankruptcy Code provides a regime—the proof of claim—for creditors to assert and obtain payment of prebankruptcy claims. Is the creditor's forced adherence to that regime the "enforcement" of its contract rights? Is litigation over the amount of the claim "enforcement" of contract rights?
  
  
• In Travelers as in Fobian, the creditor purported to pursue "bankruptcy" rights. In the former case, these rights were somewhat vaguely described as the protection of a contingent future subrogation or indemnity claim under the bonds and how that claim would be handled in the debtor's plan of reorganization and subsequently. In the latter case, the issue was whether the debtor had complied with the requirements imposed by the Bankruptcy Code for confirmation of a plan of reorganization. To what extent, if any, does such "litigation" over hypothetical future rights or interpretations of the bankruptcy statute constitute enforcement of the creditor's contract? For example, should fees incurred in prophylactic pleadings—such as those staking out positions or seeking "comfort" orders—be compensable? What if two creditors object to the same relief, one with a three-page objection and the other with a 30-page brief? Are both entitled to recovery of their fees? At what amount? At the lowest common denominator or at their respective costs?
  
  
• If drafters of contracts react to Travelers and add bankruptcy-specific provisions, will those provisions be enforced? For example, what if the fee clause of a contract provides that the creditor will be compensated for the cost of preparing a proof of claim? For the cost of "participating" in a bankruptcy case? For the cost of reviewing the bankruptcy docket? Would such a contract provision be an unenforceable ipso facto clause?
  
  
• Many states such as California have statutes that provide that a unilateral fee clause in a contract is deemed to be mutual. Typically, under these statutes, a provision in a contract that entitles one party to recover its attorneys' fees if that party must enforce its rights, is deemed to apply to the other party as well, and attorneys' fees will be awarded to the prevailing party. As a result of Travelers, the debtor may now be able to routinely seek to recover fees from its creditors in heretofore unanticipated situations. In addition, does this mean that a choice of law provision in a contract or the venue of the bankruptcy case could determine whether the debtor can recover its fees from a creditor who unsuccessfully opposes a motion by the debtor or whose own motion fails? The practical effect of these statutes is to convert the fee clause into a prevailing-party fee clause. Who is the "prevailing party" if the ultimate relief is granted in favor of the debtor, but with changes imposed in response to objections by the creditor? For example, what if the debtor seeks an extension of 120 days to assume or reject its leases and, in response to the objection of a particular landlord, the extension is only granted for 60 days? Is there a prevailing party? Do they cancel each other? What if the debtor's plan of reorganization is confirmed over the objection of a creditor? Because confirmation is the ultimate goal, is the debtor the prevailing party? But what if the plan was modified by the court to address some of the creditor's objections? Was the creditor the prevailing party? Even if it did not stop confirmation of the plan?
  
  

No matter what happens in the Travelers case on remand, the opinion will probably give a lot of bankruptcy attorneys a lot more to think about—on both sides of the aisle.