Article

Note: Central Illinois Energy, L.L.C. (Beneficiary/Debtor), a development company, hired Lurgi PSI, Inc. (Applicant) as general contractor to build an ethanol production facility and a waste-coal fired power generating facility. To assure construction, Applicant obtained two standby letters of credit in the total amount of US$8.8 million in favor of Beneficiary. Applicant abandoned the project before completion. One month later, Beneficiary filed for bankruptcy under 11 U.S.C. Chapter 11 (reorganization), which was subsequently converted to Chapter 7 (liquidation). Beneficiary's General Counsel, Michael E. Evans (Attorney), failed to advise Beneficiary at that time to draw on the standby LCs before filing for bankruptcy.

Beneficiary sued Attorney for malpractice for failing to advise that LCs are "financial accommodations" which cannot be assumed by the Debtor in bankruptcy under 11 U.S.C. § 365(c)(2).

Attorney filed a Motion to Abstain under 28 U.S.C. § 1334, which gives a court discretion to abstain from hearing a matter that involves state law, asking the Bankruptcy Court not to exercise jurisdiction and allow the case to be tried in state court before a jury. The United States Bankruptcy Court for the Central District of Illinois, Perkins, J., denied the motion.

Noting that malpractice is usually tried in state court, the Judge observed that the bankruptcy court can exert jurisdiction if the alleged malpractice is "committed in the course of the bankruptcy case."

The Judge stated that although the alleged malpractice occurred prior to the bankruptcy filings, the supposed injury is a loss to the Debtor/Beneficiary of right to draw on LCs in bankruptcy. The Judge also noted that the question of whether this right was actually lost is unsettled in bankruptcy law and is better determined in bankruptcy court.

Comment:

1. A claim for legal malpractice against a bankruptcy debtor's counsel (but not bankruptcy counsel) is within the jurisdiction of the Bankruptcy Court where the failure to advise the debtor to draw on standby LCs prior to bankruptcy affects the bankruptcy case itself.

2. The substantive claim is also somewhat puzzling. It is unclear why the Debtor cannot draw on the LC as a successor by operation of law. Regardless of whether the standby is transferable, US law, UCC § 5-113 (Transfer by Operation of Law), enables the successor to claim in the name of the named beneficiary (the white lie option) or to claim in its own name.

[JEB/jcg]

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