By Rick Archer

Law360 (June 5, 2020, 11:13 PM EDT) -- A Texas bankruptcy judge on Friday rejected Jay Alix's position that McKinsey & Co. "failed utterly" to make its case in a fight over disclosures in the Westmoreland Coal Co. Chapter 11 and that a verdict in its favor should be granted immediately

After hearing nearly nine hours of in-person and remote argument, U.S. Bankruptcy Judge David Jones rejected Alix's argument that McKinsey's evidence that its disclosures in the Westmoreland case were sufficient for a verdict to be issued now, saying the interests of the public and the bankruptcy process demand he hear Alix's evidence before he decides.

"I want to hear the rest of this story," he said.

Acting through the purpose-built entity Mar-Bow Value Partners LLC, Alix — the retired founder of turnaround consultancy AlixPartners LLP, a McKinsey competitor — has filed actions in bankruptcy cases in which McKinsey had served as an adviser to the debtors, accusing the firm of failing to disclose business and financial connections to interested parties.

The past year has seen attempts to reopen several of these cases dismissed on standing grounds.

The U.S. Trustee's Office reached a $15 million settlement with McKinsey in February 2019 over Alix's conflict of interest allegations in the Westmoreland, Alpha Natural Resources Inc. and SunEdison Inc. bankruptcies.

McKinsey withdrew its declaration supporting Westmoreland's November 2018 application to hire McKinsey to assist in its now-completed $1.4 billion restructuring. It filed a new declaration in 2019 and is seeking retroactive approval of its retention.

In the trial, which opened Feb. 5, McKinsey claimed it disclosed every relevant connection the firm has to parties with an interest in the Westmoreland case, while Alix and the U.S. Trustee's Office repeated their allegations that McKinsey was still holding back information from the court.

On March 18, following eight days of testimony from and cross-examination of witnesses called by McKinsey, both sides asked Judge Jones to adjourn the trial until April 29, citing COVID-19 travel restrictions. In April McKinsey asked that the trial be resumed electronically, but Judge Jones ruled that that would be unfair to Alix, as McKinsey had made the bulk of its case conventionally.

At Friday's hearing, Mar-Bow counsel Sean O'Shea, appearing in person, asked Judge Jones to grant a motion for judgment on partial findings, saying that McKinsey had "utterly failed" to show it had complied with disclosure requirements and that this was part of a pattern dating back to McKinsey's entry to the restructuring market in 2001.

"It never ceded an inch until it was forced to do so," he said.

He claimed that the 2018 disclosures were a "train wreck," and that the 2019 disclosures were based on a process that ignored more than half of McKinsey's more than 200 associated entities, arbitrarily excluded "non-client facing" employees and used a two-year lookback period when the U.S. Trustee had recommended three.

He also argued that McKinsey needed to disclose investments made through its investment office, MIO Partners, saying its claim that McKinsey had no knowledge of or control of the investments was proven false by the presence of McKinsey consultants on MIO's board of directors.

He argued that the circumstances were not extraordinary enough to allow retroactive approval, saying the delay in the approval was a "self-inflicted wound" caused by the insufficient 2018 disclosures.

McKinsey counsel Faith Gay, appearing remotely, argued that O'Shea had focused on McKinsey's irrelevant past conduct and had not shown that any conflict existed in the Westmoreland case.

"There's been no granularity about what the disqualifying conflict would be," she said.

She argued that the disclosures complied with the Bankruptcy Code's standards, maintaining that as the McKinsey affiliates are independent corporations, disclosure was required only for the affiliates whose employees were directly involved in the Westmoreland case, that the "non-public facing" employees had no control over or inside information on the case and could not have an adverse interest and that the two-year lookback was the industry standard.

She argued that MIO invests employee funds with independent third-party managers and had no knowledge of or control over the investment in the individual equity level.

She argued that a retroactive ruling was justified, saying the 2018 disclosure had been the result of a good faith attempt to follow the advice of the U.S. Trustee's Office.

"McKinsey believed it was compliant. We thought we were on the same page as the U.S. Trustee," she said.

Judge Jones ultimately said he would wait until the end of Mar-Bow's evidence to render a judgment.

"The public demands, the process demands, transparency demands the issues be put forth in excruciating detail," he said.

He did ask O'Shea and Gay that, if he finds the disclosures in the second declaration are sufficient, what they thought he should do about the first declaration, saying there were "significant issues" with what McKinsey employee Mark Hojnacki had attested to in it.

"He makes statements in his declaration that are simply not true," he told Gay. "How do I deal with that?"

Gay said the problem could be dealt with when McKinsey submitted its fee application, saying the firm was looking primarily for guidance on disclosure requirements.

"It's not about the money. That seems to be the most ready remedy for this," she said.

McKinsey is represented by Faith E. Gay, Jennifer M. Selendy, Maria Ginzburg and David S. Flugman of Selendy & Gay PLLC, Zack A. Clement of Zack A. Clement PLLC and M. Natasha Labovitz, John Gleeson and Erica Weisgerber of Debevoise & Plimpton LLP.

Mar-Bow is represented by Sean O'Shea, Michael E. Petrella and Amanda Devereux of Cadwalader Wickersham & Taft LLP, Steven Rhodes of Steven Rhodes Consulting LLC, Daniel L. Lemisch of Lakeview Capital Inc. and Christopher R. Murray and Erin E. Jones of Jones Murray & Beatty LLP.

The U.S. Trustee's Office is represented by Diane Livingstone and Hugh M. Bernstein of the U.S. Department of Justice.

The Westmoreland Liquidating Trust is represented by Matthew D. Cavenaugh and Jennifer F. Wertz of Jackson Walker LLP.

The case is In re: Westmoreland Coal Co. et al., case number 4:18-bk-35672, in the U.S. Bankruptcy Court for the Southern District of Texas.

--Additional reporting by Ryan Boysen. Editing by Peter Rozovsky.

Correction: A prior version of this story incorrectly stated counsel had referred to "Westmoreland affiliates" when the reference had been to "McKinsey affiliates." The error has been corrected.

Updated with additional information on prior cases.

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