Wednesday, September 12, 2012

Borders’ Gift Card Holders Not Permitted Recovery in Bankruptcy

We’ve written about gift cards in this space in the past, and have covered escheat issues related to gift cards, as well. But, in a different wrinkle, last month, the Bankruptcy Court for the Southern District of New York addressed the impact of bankruptcy law on companies’ requirements to honor gift cards.

By way of background, in February 2011, Borders filed a voluntary petition for relief under chapter 11 of the Bankruptcy Code. In general, retailers are not obligated to honor gift cards in bankruptcy, despite any state requirements that gift cards be honored for a certain period of time. Instead, gift card holders are generally treated like all other creditors and are required to timely file proofs of claim prior to a bar date set by the court in order to receive the value (or a portion of the value) of the gift cards. Note though, that in California, at least, retailers in bankruptcy may be required to honor gift cards.

But, via a motion filed with the Bankruptcy Court, Borders indicated that it planned to honor gift cards issued prior to the petition date. That is, customers could continue to use Borders gift cards in Borders stores and on its website. Later, following the September 2011 liquidation of Borders’ retail stores and the end of its e-commerce operations, Borders no longer honored its gift cards since it no longer had any retail channels through which it could do so. In January 2012, after confirmation of the bankruptcy plan, several holders of gift cards who had not yet redeemed the cards filed a motion seeking to allow late proofs of claim so that they could recoup the value of their unused gift cards. They argued that because of data systems Borders had in place, Borders should have been required to provide each gift card holder actual, individual notice of the bar date to file claims, rather than the general notice provided via publication in the New York Times. Since they did not receive adequate notice, they argued, their failure to file proofs of claim was due to excusable neglect and late claims should have been permitted.

Last month, the Court denied the motion, saying that the holders were not known creditors entitled to individual notice, simply because of the very nature of gift cards. As the Court wrote, “even if the Debtors were able to identify the purchasers of the Gift Cards, they would have no way of tracing the ultimate recipients...” Since the gift card holders were not known creditors, the constructive notice they received via the notice published in the New York Times was adequate.

Moreover, there was no excusable neglect that would allow for late filed claims. First, the Court wrote that allowing the late claims “would have a disastrous effect on...the final distribution of the Plan” and would prejudice other debtors. In June 2011, there were 17.7 million outstanding gift cards with unredeemed balances totaling $210.5 million. By the time the Court issued its order, there was only $90 million remaining to pay various creditors who timely filed proofs of claim totaling over $800 million. The Court wrote that because of the amount of the gift card related claims, if such claims were allowed, they would “drastically change the estimated recovery” for creditors and “warrant a modification of the Plan and re-solicitation of votes” for the Plan. But modification could not be permitted for several reasons including that distributions had already begun. Second, the Court also noted that the gift card holders offered “no valid reason for their extended delay in filing proofs of claim” eight months after the bar date had passed.

In the end, the gift card holders were left holding nothing but souvenirs of Borders’ better times. And our readers would do well to draw two lessons from the Borders experience: first, there are a variety of important and often complex legal requirements concerning gift cards to which issuers must be attentive; and second, bankruptcy proceedings involve a host of different rules and procedures which can add complexity to already specialized areas of the law.

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