Borders Group, Inc.

1
UNITED STATES BANKRUPTCY COURT
SOUTHERN DISTRICT OF NEW YORK
In re:
BORDERS GROUP, INC., et al.,
Debtors.1
FOR PUBLICATION
Chapter 11
Case No. 11-10614 (MG)
(Jointly Administered)
MEMORANDUM OPINION GRANTING THE DEBTORS’ MOTION FOR
AUTHORIZATION TO IMPLEMENT AN EMPLOYEE INCENTIVE PROGRAM AND
EMPLOYEE RETENTION PROGRAM
A P P E A R A N C E S:
KASOWITZ, BENSON, TORRES & FRIEDMAN LLP
Attorneys for Borders Group, Inc.
1633 Broadway
New York, New York 10019
By: 	Andrew Glenn, Esq.
Jeffrey R. Gleit, Esq.
Michele Angell, Esq.
LOWENSTEIN SANDLER PC
Attorneys for the Official Committee of Unsecured Creditors
65 Livingston Avenue
Roseland, New Jersey 07068
By: 	Bruce Buechler, Esq.
TRACY HOPE DAVIS
United States Trustee for Region 2
22 Whitehall Street, 21st Floor
New York, New York 10004
By: 	Paul Schwartzberg, Esq.
Linda A. Riffkin, Esq.
1 The Debtors are: Borders Group, Inc.; Borders International Services, Inc.; Borders, Inc.; Borders Direct,
LLC; Borders Properties, Inc.; Borders Online, Inc.; Borders Online, LLC; and BGP (UK) Limited.
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 1 of 26

2
MARTIN GLENN
UNITED STATES BANKRUPTCY JUDGE
Borders Group, Inc. and its affiliated debtors (collectively, the “Debtors”) move for an
order authorizing the implementation of a twice-revised key employee incentive plan (the
“KEIP”), a key employee retention plan (the “KERP” and with the KEIP, the “Proposed Plans”)
and the assumption of certain employment agreements 2 (the “Motion”). (ECF Doc. # 457.) In
support of the Motion, the Debtors submitted the declarations of (i) John Dempsey, a partner at
Mercer (US) Inc. and the Debtors’ compensation consultant (the “Dempsey Declaration”), and
(ii) Holly Felder Etlin, the Debtors’ Senior Vice President – Restructuring (the “Etlin
Declaration”). (ECF Doc. ## 458, 459, respectively.) The Office of the United States Trustee
(the “UST”) filed an objection to the Motion (the “UST Objection”). (ECF Doc. # 561.) In
response to the UST Objection, the Debtors filed a reply (the “Reply”) (ECF Doc. # 598) and the
Supplemental Declaration of John Dempsey (the “Supplemental Dempsey Declaration”). (ECF
Doc. # 601.)
On April 14, 2011, the parties appeared before the Court for a contested hearing. As
explained in greater detail below, the Debtors informed the Court that it had negotiated changes
to the form of the KEIP with the Official Committee of Unsecured Creditors (the “Committee”)
in response to informal comments exchanged between the parties. The Committee did not object
to the structure of the KERP. However, the UST was not satisfied that the negotiated changes
sufficiently addressed the concerns raised in her objection. Because the Motion raised a
contested matter requiring the Court to hear evidence, see Local Bankruptcy Rule 9014-2, the
Court adjourned the hearing until April 22, 2011. After extensive negotiations between the
parties, on April 21, 2011, the Debtors filed a proposed order (the “Proposed Order”) with a term
2 	In the Motion the Debtors originally sought to assume five individual employment contracts.
Subsequently, that portion of the Motion was withdrawn.
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 2 of 26

3
sheet (the “Term Sheet”) reflecting further revisions to the KEIP. (ECF Doc. # 687.) Pursuant
to the Proposed Order, the KERP was left unaltered. In conjunction with filing the Proposed
Order, the Debtors also submitted the Supplemental Declaration of Holly Felder Etlin (the
“Supplemental Etlin Declaration”). (ECF Doc. # 688.)
At the hearing on April 22, 2011, the four declarations were admitted in evidence in
support of the Motion. The UST stated that the changes to the KEIP embodied in the Proposed
Order, coupled with the additional information provided in the Supplemental Etlin Declaration,
were sufficient to satisfy the UST. Accordingly, the UST withdrew her objection to the Motion.
The Court approved the Proposed Order which was entered on the docket that day. (ECF Doc. #
697.) The Court stated at the April 22 nd hearing that an opinion would be issued further
explaining the ruling.
I. 	BACKGROUND
The Debtors maintained an incentive and retention plan prior to filing for bankruptcy
protection. (Motion ¶ 7.) The plan applied to a wide range of employees—from administrative
staff to senior management—and consisted of annual performance bonuses tied to both
individual employee goals and overall performance of the Debtors’ operations (the “Annual
Performance Bonus Plan”). (Id.) Due to the Debtors’ poor financial condition, no bonuses were
paid for the 2010 performance period. (Id.) In addition to the Annual Performance Bonus Plan,
the Debtors incentivized employees via the grant of stock options and restricted shares. (Id.)
The Debtors seek approval of the Motion, as modified by the terms of the Proposed
Order, in an attempt to stem the postpetition exodus of important personnel. The Debtors submit
that the publicity surrounding its attempted prepetition restructuring, the bankruptcy filing, store
closing sales and workforce reductions have “raised substantial concerns” for the Debtors’
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 3 of 26

4
employees. (Id. ¶ 8.) Twenty-five (25) “significant corporate employees” have left between the
petition date and the filing of the Motion, coming from various levels and salaries in the areas of
Finance, Information Technology, Human Resources, Marketing, Merchandising and Operations
departments. (Id.; Etlin Decl. ¶ 19.) Since the Motion was filed, twenty-two (22) additional
corporate employees have voluntarily departed, bringing total senior corporate employee loss to
forty-seven (47) since the petition date. (Reply ¶ 2.) According to Debtors’ counsel, the Debtors
employed approximately sixteen-thousand (16,000) full-time and part-time employees when the
petitions were filed. As a result of store closings and further attrition, the Debtors employed
approximately eleven-thousand (11,000) full-time and part-time employees at the time of the
hearings on the Motion.
A. The KEIP
The Debtors seek to implement the KEIP for fifteen (15) key executives believed to be
critical to the Debtors’ restructuring efforts. The KEIP is a two-tiered program that provides
different bonus opportunities based on an executive’s position in the company and the
achievement of bankruptcy and business goals within a specified timeframe. For the five
highest-level executives, including the Debtors’ Chief Executive Office, Executive Vice
Presidents and the Senior Vice President, Human Resources (the “Senior Management
Participants”), the award payout will range from 55% to 75% of base salary and is tied to the
date when one of the following occurs: either (i) the confirmation of a chapter 11 reorganization
plan resulting in the ongoing business of substantially all of the Debtors’ current stores or (ii) a
section 363 sale of the business as a going concern (each, a “Qualifying Transaction”). (Term
Sheet ¶¶ 1, 2.) If the Qualifying Transaction occurs by August 15, 2011, then the Senior
Management Participants will receive 75% of their base salary. (Id. ¶ 2(A)(1)(a).) However,
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 4 of 26

5
this percentage slides down to 55% of base salary if the Qualifying Transaction occurs after
August 15, 2011 through November 16, 2011. (Id. ¶ 2(A)(1)(b).) No incentive payments will be
made if a Qualifying Transaction transpires post-November 16, 2011. (Id. ¶¶ 1, 2.)
In addition to the achievement of a Qualifying Transaction, the KEIP also requires the
Debtors to meet specific financial benchmarks (the “Incentives”), which include (i) the Debtors
entering into real estate lease amendments after the petition date and before May 31, 2011 that
provide at least $10 million of annualized rent reductions for each of 2011 and 2012, or (ii) the
Debtors implement non-headcount annualized cost reductions associated with either contract
rejections or renegotiations (excluding real estate lease amendments and any rejections of
contracts or leases associated with any closing stores) of $10 million by June 30, 2011. (Id.)
Each Senior Management Participant will also be eligible to receive an additional KEIP
bonus payment tied to distributions made to unsecured creditors. The threshold distribution
amount is $73 million, and as the distribution size increases, the bonus payment likewise rises.
(Id. ¶ 2(A)(2).)
The KEIP also provides incentive payments to ten lower-level executives (the
“Management Participants” and with the Senior Management Participants, the “Executives”).
The KEIP structure for Management Participants is identical to the program for Senior
Management Participants except that the bonus is 40% of base compensation and the
Management Participants will not be entitled to an additional bonus based on distributions to
general unsecured creditors. (Id. ¶ 1.) The same financial benchmarks (Incentives) apply before
the Management Participants are entitled to any bonus.
In the case of either tier of Executives, “[n]o payments will be made under the KEIP for
any liquidation or any going out of business sales at the majority of the Debtor’s stores, or any
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 5 of 26

6
plan confirmation by cram down or otherwise, or approval of a sale, over the objection of the
Committee.” (Id. ¶ 4.)
According to the representations made to the Court by counsel for the Debtors and the
Committee, the maximum cost of the KEIP will be $2.7 million exclusive of any additional
payments made to the Senior Management Participants on account of distributions made to
general unsecured creditors. This version of the KEIP is the third iteration of the program
proposed by the Debtors. Initially, the Debtors sought approval of a KEIP that was tied only to
the achievement of plan confirmation or a section 363 going concern sale within certain time
parameters (the “Initial KEIP”). Prior to the April 14th hearing, the Debtors and the Committee
negotiated a revised version of the KEIP that substantially mirrored the current structure of the
KEIP (the “First Revised KEIP”). Specifically, the First Revised KEIP provided for a bonus (as
a percentage of base salary) based on the timing of a Qualifying Transaction, as well as an
additional bonus to senior management if certain distributions were made to general unsecured
creditors. The First Revised KEIP, however, did not contain the Incentives.
The only metric contained in the First Revised KEIP was the distribution amount to
general unsecured creditors. However, the Debtors were never required to distribute funds to
general unsecured creditors as a condition of paying KEIP bonuses—it was merely an additional
bonus paid to senior management. After the April 14th hearing, the First Revised KEIP was
further amended through negotiations between the Debtors, the Committee and the UST to
include the Incentives which must be met before any Executive is entitled to receive a bonus.
B. The KERP
In conjunction with the KEIP, the Debtors also seek to implement a KERP for two sets of
employees. The first group consists of twenty-five (25) “director-level” employees believed to
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 6 of 26

7
be critical to the Debtors’ business and reorganization (the “Critical Employees”). According to
the Motion, although the Critical Employees are titled “directors,” they are “non-executive
managers.” 3 (Id. ¶ 15 n. 5.) One Critical Employee also serves as Corporate Secretary for the
Debtors. (Id.) The estimated payout to Critical Employees pursuant to the KERP is $933,000.
(Id.; Dempsey Decl. ¶ 15; Etlin Decl. ¶ 14.) In addition, the Debtors request that a “small
number of other employees” (the “Discretionary Employees,” and together with the Critical
Employees, the “KERP Employees”) participate in a discretionary pool of $300,000 where
awards will be paid on the judgment of the Debtors’ Executive Committee. (Motion ¶¶ 15, 16;
Dempsey Decl. ¶ 15; Etlin Decl. ¶ 14.) Therefore, the maximum cost of the KERP is slightly in
excess of $1.2 million.
Each Critical Employee will receive a lump sum payment approximating 30% of base
salary that is commensurate with the prepetition Annual Performance Bonus Plan. (Motion ¶
17.) These amounts have already been determined and range from $28,000 to $53,000 and vary
based on the Critical Employee’s position, responsibilities and other factors. (Id.) The KERP
award for each Discretionary Employee will vary based on the Executive Committee’s
determination, but no Discretionary Employee will earn more than $20,000. (Dempsey Decl. ¶
17.)
II. 	DISCUSSION
An analysis of the relief sought in the Motion necessarily requires the Court to first
determine whether any payment recipient is an “insider” under applicable bankruptcy law. Once
3 	The Debtors submit that each Critical Employee falls into one of the following job titles/descriptions:
Associate General Counsel; Digital Merchandising; Product Systems; Merchandise Planning and Replenishment;
Merchandising Trade Books; Purchasing and Building Services; e-commerce Systems; Real Estate Attorney;
Assistant Controller; Device Merchandising; Marketing Systems; Merchandise Operations; AP/AR; Creative; LP
and Internal Audit; Tax Director; Store and Customer Service; Payroll and Benefits; Human Resources; Operations;
Risk Management; Visual Presentation and Marketing; and Merchandising, Bargain/Fiction. (Motion ¶ 15 n. 6.)
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 7 of 26

8
that issue is resolved, the Court must decide whether the KEIP and KERP comply with section
503(c) of the Bankruptcy Code.
A. 	Insider Status
As an initial matter, the Court must determine whether each eligible employee is an
“insider” within the meaning of section 101(31). Insider status is important because it may
potentially bar an employee from participating in the KERP or the KEIP (assuming the program
is found to be primarily retentive). If the Court determines that an employee is an insider, then
the Debtors must meet the strict requirements of section 503(c)(1). That section prohibits any
transfer
made to, or an obligation incurred for the benefit of, an insider of the debtor for
the purpose of inducing such person to remain with the debtor’s business,
absent a finding by the court based on evidence in the record that—
(A) the transfer or obligation is essential to retention of the person
because the individual has a bona fide job offer from another business
at the same or greater rate of compensation;
(B) the services provided by the person are essential to the survival of
the business; and
(C) either—
(i) the amount of the transfer made to, or obligation incurred for
the benefit of, the person is not greater than an amount equal to
10 times the amount of the mean transfer or obligation of a
similar kind given to nonmanagement employees for any
purpose during the calendar year in which the transfer is made
or the obligation is incurred; or
(ii) if no such similar transfers were made to, or obligations
were incurred for the benefit of, such nonmanagement
employees during such calendar year, the amount of the transfer
or obligation is not greater than an amount equal to 25 percent
of the amount of any similar transfer or obligation made to or
incurred for the benefit of such insider for any purpose during
the calendar year before the year in which such transfer is made
or obligation is incurred;
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 8 of 26

9
11 U.S.C. § 503(c)(1).
Section 101(31)(B) defines “insider” in the context of a corporation. The term includes a
(i) 	director of the debtor;
(ii) 	officer of the debtor;
(iii) 	person in control of the debtor;
(iv) 	partnership in which the debtor is a general partner;
(v) 	general partner of the debtor; or
(vi) 	relative of a general partner, director, officer, or person in control
of the debtor.
11 U.S.C. § 101(31)(B).
The Debtors contend that the KERP Employees are not “directors” or “officers” within
the meaning of section 101(31). (Dempsey Decl. ¶ 14 n. 2; Etlin Decl. ¶ 13 n. 2.). Once an
individual is considered to be a director or officer under section 101(31)(B), they are
automatically considered insiders and the Court need not engage in further inquiry. See Smith v.
Ruby (In re Public Access Technology.com, Inc.), 307 B.R. 500, 505 (Bankr. E.D. Va. 2004) (“A
defendant’s status as a director or an officer is alone sufficient to establish that he is an insider.”).
The term “director” is not defined in the Code. Although courts have not provided a
precise definition, it appears that with respect to section 101(31)(B)(i), “director” means an
individual who sits on the board of directors of a corporation. See Rupp v. United Security Bank
(In re Kunz), 489 F.3d 1072, 1077 (10th Cir. 2007). In Kunz, the Tenth Circuit stated that
“[w]hen the term ‘director’ is used in reference to a corporation . . . the term plainly means a
person who is a member of the governing board of the corporation and participates in corporate
governance.” Id. (citing WEBSTER’ S THIRD NEW I NTERNAT ’ L DICTIONARY 641 (1993); BLACK’ S
LAW DICTIONARY 472-73 (7th ed.1999)).
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 9 of 26

10
The term “officer” is likewise not defined by the Code. However, courts have looked to
Black’s Law Dictionary as a source of authority. See Office of the U.S. Trustee v. Fieldstone
Mortgage Co., No. 08-755, 2008 WL 4826291, at *3 n. 12 (D. Md. Nov. 5, 2008); Public Access
Techn., 307 B.R. at 506. According to Black’s, an “officer” is defined as a “person elected or
appointed by the board of directors to manage the daily operations of a corporation, such as the
CEO, president, secretary, or treasurer.” BLACK ’ S LAW DICTIONARY 1193 (9th ed. 2009).
Courts have also looked to state corporate law (including the Delaware Code) for additional
guidance. See, e.g., Fieldstone Mortgage Co., 2008 WL 4826291, at *3. In Fieldstone
Mortgage Co., the court examined different laws—both state and federal—and concluded that
“board appointment or election is frequently identified as distinguishing ‘officer’ positions from
other titled positions within a corporation” and that “if that feature is present . . . the titled
position ordinarily is an ‘officer’ position as a matter of law. . . . [T]he definition of ‘officer’
[need not] require additional ‘traditional elements, like decision-making . . . .’” Id. at *13-14.
An individual’s title, by itself, is insufficient to establish that an individual is a director or
officer. See, e.g., In re Longview Aluminum, LLC, 419 B.R. 351, 355 (Bankr. N.D. Ill. 2009)
(“[I]t is not simply the title ‘director’ or ‘officer’ that renders an individual an insider; rather it is
the set of legal rights that a typical corporate director or officer holds.”); NMI Sys. V. Pillard (In
re NMI Sys.), 179 B.R. 357, 370 (Bankr. D.D.C. 1995). In Public Access Techn., for example,
the court found that an executive vice president was not an officer of the debtor because there
was no evidence such as affidavits, articles of incorporation, corporate minutes, resolutions or
any other document proving that the executive vice president was an officer under section
101(31)(B). 307 B.R. at 506.
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 10 of 26

11
At the same time, courts have acknowledged that an insider, in the context of a
corporation, can encompass more than just the six categories enumerated in section 101(31)(B).
See, e.g. Matter of Krehl, 86 F.3d 737, 741 (7th Cir. 1996) (noting that “the . . . definition [of
insider] is intended to be illustrative rather than exhaustive”) (citation omitted); Boyd v. Petrie
(In re Tompkins), 430 B.R. 453, 459 (Bankr. W.D. Mich. 2010) (“By using the word ‘includes’
in the statute, the definition of ‘insider’ is illustrative and not limiting . . . .”) (citation omitted).
Insider status can also be determined on a case-by-case basis based on the totality of the
circumstances, including the degree of an individual’s involvement in a debtor’s affairs. See
CPY Company v. Ameriscribe Corp. (In re Chas. P. Young Company), 145 B.R. 131, 136
(Bankr. S.D.N.Y. 1992). In such cases, insiders must have “at least a controlling interest in the
debtor or . . . exercise sufficient authority over the debtor so as to unqualifiably dictate corporate
policy and the disposition of corporate assets.” In re Babcock Dairy Co., 70 B.R. 657, 661,
(Bankr. N.D. Ohio 1986) (citations omitted); see also In re 9281 Shore Road Owners Corp., 187
B.R. 837, 853 (E.D.N.Y. 1995).
In this case, the Court is satisfied that although the Critical Employees are referred to as
“director-level” employees, none of them, including the Corporate Secretary, are insiders for
purposes of section 101(31). Initially, the UST raised concerns that neither the Motion nor its
accompanying declarations clearly established that the KERP Employees were not insiders
because the Motion did not list the Debtors’ employees’ names, job descriptions or reporting
requirements. (UST Objection at 2.) The UST also contended that “[g]enerally speaking,
‘director level’ executives tend to be senior management of a company, or insiders, as defined in
section 101(31) of the Bankruptcy Code.” (Id. at 12.)
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 11 of 26

12
In response to the UST Objection, the Debtors provided a list of each Critical Employee’s
position and reporting requirements. (Reply ¶ 10.) The Debtors have also sufficiently shown
that the Critical Employees—although termed “director-level” employees—are not “executives,”
who are typically considered insiders under the Bankruptcy Code. Companies often give
employees the title “director” or “director-level,” but do not give them decision-making authority
akin to an executive. (Supp. Dempsey Decl. ¶ 18.) Although the Critical Employees are
important to the Debtors’ business, none of them has the authority to implement company
policies. (Supp. Etlin Decl. ¶ 8.) Instead, they are responsible for running the Debtors’ day-to-
day operations. (Dempsey Decl. ¶ 14; Etlin Decl. ¶¶ 13, 25.) These individuals do not report to
the board of directors and each is subordinate to and required to report to an officer, or to another
director-level employee who, in turn, reports to an officer.4 (Reply ¶¶ 10-11.) For these same
reasons, the Court also finds that the lower-level Discretionary Employees are not insiders under
the Bankruptcy Code.
B. Section 503(c) Generally
Section 503(c) does not “foreclose a chapter 11 debtor from reasonably compensating
employees, including ‘insiders,’ for their contribution to the debtors’ reorganization.” In re
Dana Corp., 358 B.R. 567, 575 (Bankr. S.D.N.Y. 2007) (citation committed) (“Dana II”). A
transfer to an insider to induce the insider to remain with the debtor’s business must satisfy the
requirements under subdivisions (A), (B), and (C) of section 503(c)(1) in order to be subject to
this subdivision’s exception. 4 COLLIER ON BANKRUPTCY ¶ 503.17 (15th ed. rev. 2007); see also
Dana II, 358 B.R. at 575 (summarizing the requirements under 503(c)(1)).
4 	In her objection, the UST expressed particular concern that the Debtors’ Corporate Secretary may be an
insider. However, the UST and the Court are now satisfied that the Corporate Secretary is not an insider because the
position is purely ministerial (i.e., taking the minutes of board of directors’ meetings and maintaining corporate
records). (Supp. Etlin Decl. ¶ 9.)
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 12 of 26

13
Attempts to characterize what are essentially prohibited retention programs as “incentive”
programs in order to bypass the requirements of section 503(c)(1) are looked upon with disfavor,
as the courts consider the circumstances under which particular proposals are made, along with
the structure of the compensation packages, when determining whether the compensation
programs are subject to section 503(c)(1). See, e.g., In re Dana Corp., 351 B.R. 96, 102 (Bankr.
S.D.N.Y. 2006) (“Dana I”) (stating that if a bonus proposal “walks like a duck (KERP), and
quacks like a duck (KERP), it’s a duck (KERP).”).
Section 503(c)(3) also prohibits “other transfers or obligations that are outside the
ordinary course of business and not justified by the facts and circumstances of the case, including
transfers made to, or obligations incurred for the benefit of, officers, managers, or consultants
hired after the date of the filing of the petition.” 11 U.S.C. § 503(c)(3).
Section 503(c) was added to the Bankruptcy Code as one of the BAPCPA amendments in
2005, to “eradicate the notion that executives were entitled to bonuses simply for staying with
the Company through the bankruptcy process.” In re Global Home Prods., LLC, 369 B.R. 778,
783-84 (Bankr. D. Del. 2007). The intent of section 503(c) is to “limit the scope of ‘key
employee retention plans’ and other programs providing incentives to management of the debtor
as a means of inducing management to remain employed by the debtor.” 4 COLLIER ON
BANKRUPTCY ¶ 503.17 (15th ed. rev. 2007). In addition to limiting payments to insiders for
retention purposes, section 503 also limits severance payments to insiders and any transaction
outside the ordinary course of business that would benefit “officers, managers, and consultants
hired after the date of the filing of the petition.” Id. The effect of section 503(c) was to put in
place “a set of challenging standards” and “high hurdles” for debtors to overcome before
retention bonuses could be paid. Global Home, 369 B.R. at 784-85. To the extent that either
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 13 of 26

14
section 503(c)(1) or (c)(2)5 apply, the transfer cannot be justified solely on the debtor’s business
judgment. Dana I, 351 B.R. at 100-01.
An alternative method for approving these transactions is as an “ordinary course”
transaction under section 363. See In re Mesa Air Group, No. 10-10018, 2010 WL 3810899, at
*3 (Bankr. S.D.N.Y. Sept. 24, 2010). However, in the Motion, the Debtors do not contend that
implementation of the KEIP or the KERP is an ordinary course transaction. Therefore, in order
for the Proposed Plans to pass muster, the Court must assess: (1) whether the KEIP is truly a
retention program and (2) whether the requirements of section 503(c)(3) have been satisfied with
respect to both the KEIP and the KERP.
C. 	The KEIP Is Incentivizing And Not Primarily Retentive
Section 503(c)(1) limits payments to insiders for the purpose of retention. 11 U.S.C. §
503(c)(1). Based on the Motion, it appears that some (if not all) of the Executives subject to the
KEIP are insiders. Therefore, if the Court concludes that the KEIP is essentially a retention plan,
then such payments must comply with section 503(c)(1).
Section 503(c)(1) “applies to those employee retention provisions that are essentially
‘pay to stay’ key employee retention programs.” Dana II, 358 B.R. at 571. Although a
purported KEIP may contain some retentive effect, that “does not mean that the plan, overall, is
retentive rather than incentivizing in nature.” Id.; see also Global Home, 369 B.R. at 785 (“The
5 	Section 503(c)(2) prohibits severance payments made by a debtor to insiders, unless:
(A) the payment is part of a program that is generally applicable to all full-time employees;
and
(B) the amount of the payment is not greater than 10 times the amount of the mean
severance pay given to nonmanagement employees during the calendar year in which the
payment is made
11 U.S.C. § 503(c)(2). Since neither the KEIP nor the KERP contemplate severance payments, this
subsection is not applicable.
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 14 of 26

15
entire analysis changes if a bonus plan is not primarily motivated to retain personnel or is not in
the nature of severance.”) (emphasis added); In re Nellson Nutraceutical, Inc., 369 B.R. 787, 802
(Bankr. D. Del. 2007) (reading section 503(c)(1) to mean “a transfer made to . . . an insider of
the debtor for the [primary] purpose of inducing such person to remain with the debtor’s
business” because any payment made to an employee, including regular wages, has at least a
partial retentive effect).
In Dana II, Judge Lifland held that “[b]y presenting an executive compensation package
that properly incentivizes [management] to produce and increase the value of the estate, the
Debtors have established that section 503(c)(1) does not apply.” 358 B.R. at 584. However,
prior to Dana II, Judge Lifland found that “without tying [a] portion of [a] bonus to anything
other than staying with the company until the Effective Date, this Court cannot categorize a
bonus of this . . . form as an incentive bonus.” Dana I, 351 B.R. at 102. In Mesa Air Group, this
Court held that the debtors’ incentive bonus program was not a retention bonus because it was
designed to “motivate the employees to achieve performance goals.” Mesa Air Group, 2010 WL
3810899, at *4 (citation omitted). In that case, incentive bonuses were tied to certain
performance goals, such as maintenance of flight schedules, efficient return of aircraft, securing
aircraft equipment at reduced rates and negotiating reduced rates for aircraft no longer in service.
Id.
The Court finds that the Debtors have met their burden of establishing that the KEIP is
incentivizing, thereby alleviating the need for a section 503(c)(1) analysis. With the addition of
the Incentives, the Debtors have tied the KEIP bonus trigger to the achievement of particular
financial milestones along with the accomplishment of a Qualifying Transaction. Unlike the
Initial KEIP and the First Revised KEIP that permitted the Executives to receive an incentive
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 15 of 26

16
bonus that was merely predicated on exiting bankruptcy in a timely manner without regard to the
financial state of the business, the KEIP approved by the Court requires the Debtors to achieve
annualized rent reductions or non-headcount annualized cost reductions, and if the Debtors exit
bankruptcy via a reorganization plan, the Debtors’ business must include substantially all of its
current remaining stores. The Senior Management Participants will also receive an additional
bonus based on the size of the distribution made to general unsecured creditors. Accordingly,
the Court is satisfied that through the use of the Incentives, the KEIP conforms to prevailing
practices in this district and others. See In re BearingPoint, Inc., Case No. 09-10691 (REG)
(Bankr. S.D.N.Y. July 24, 2009) [Docket No. 1128] (incentives based on (i) the sale of business
units, (ii) employees working on estate transition and wind-down activities and (iii) percentage
of creditor recoveries); In re Calpine Corp., Case No. 05-60200 (BRL) (Bankr. S.D.N.Y. May
15, 2006) [Docket No. 1580] (size of incentive pool tied to the debtor’s market adjusted
enterprise value and plan adjusted enterprise value); In re Nortel Networks, Inc., Case No. 09-
10138 (KG) (Bankr. D. Del. Mar. 5 and 20, 2009) [Docket Nos. 436 and 511] (incentive plan
based on the achievement of separate milestones, including a cost reduction plan, “certain
parameters . . . that will result in a leaner and more focused organization” and plan
confirmation).
The KEIP also encourages the Executives to increase their pre-bankruptcy job
responsibilities to achieve the bonus requirements. Under the KEIP, the Executives are required
to do more to meet the wide-scale goals outlined in the KEIP as they must address concerns and
issues that are unique to the bankruptcy proceeding. Specifically, the Management Participants
will need to work expeditiously to meet the targets outlined in the KEIP. To achieve these goals,
the Management Participants will need to be involved in the negotiation and documentation of
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 16 of 26

17
substantial rent concessions on approximately 400 leases, the cancellation of some 700 high cost
contracts and achievement of greater operational efficiencies and working capital. (Supp. Etlin
Decl. ¶¶ 5-6.) These tasks were not part of the Management Participants’ job descriptions pre-
bankruptcy. (Id. ¶ 6.) The Senior Management Participants will need to formulate and execute a
new business strategy and forge new strategic relationships to reposition the business during the
pendency of the Debtors’ case. 	(Id. ¶ 7.) Like the Management Participants, none of these tasks
were part of the Senior Management Participants’ prepetition job responsibilities. (Id.)
On this point, Ms. Etlin contends that, based on her experience, achieving a Qualifying
Transaction under the timeline set out in the KEIP will be challenging and “require enormous
commitments by management.” (Etlin Decl. ¶ 17.) Ms. Etlin also asserts that “[a]chievement of
the incentives contemplated by the KEIP is far from certain in light of the facts and
circumstances of these cases, and will require very diligent efforts on the part of each and every
[Executive].” (Supp. Etlin Decl. ¶¶ 6, 7.) Since the ultimate fate of many recent retailer debtors
has been liquidation, meeting these goals will no doubt be challenging and therefore
incentivizing. See Dana II, 358 B.R. at 583 (noting that the financial benchmarks set for
debtor’s incentive plan are difficult targets to achieve and are therefore incentivizing);
WEBSTER’ S NINTH NEW COLLEGIATE DICTIONARY 608 (9th ed. 1984) (defining “incentive” to
mean “something that incites or has a tendency to incite to determination or action”).
As further evidence that the KEIP is primarily incentivizing, the size of the KEIP award
is dependent on how quickly the Debtors emerge from bankruptcy. As the time spent in chapter
11 increases, KEIP bonus opportunities decrease. Thus, in addition to meeting the Incentives,
payments are also keyed to meeting fairly aggressive time-based goals.
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 17 of 26

18
The KEIP’s goals are also consistent with the policies underlying chapter 11. While an
expeditious emergence from bankruptcy via a confirmed reorganization plan is the ultimate
objective of most chapter 11 debtors, a section 363 going concern sale also achieves the chapter
11 goal of preserving businesses. See Bank of Am. Nat’l Trust & Sav. Ass’n. v. 203 N. LaSalle
St. P’ship, 506 U.S. 434, 453 (1999) (noting that the two basic purposes of chapter 11 are to
preserve going concerns and maximize property available to satisfy the claims of creditors).
Meeting these benchmarks is also beneficial to the estate because an expedited emergence will
minimize administrative costs, thereby helping to maximize stakeholder value.
D. 	The Debtors Have Exercised Sound Business Judgment
The Debtors move for relief based on section 363(b)(1). Section 363(b)(1) of the
Bankruptcy Code provides that debtors “may use, sell, or lease, other than in the ordinary course
of business, property of the estate.” 11 U.S.C. § 363(b)(1). In approving a transaction conducted
pursuant to section 363(b)(1), courts consider whether the debtor exercised sound business
judgment. See In re Chateaugay Corp., 973 F.2d 141, 144-45 (2d Cir. 1992) (finding that
section 363(b) was applicable because sound business judgment supported the sale of assets);
Comm. of Equity Sec. Holders v. Lionel Corp. (In re Lionel Corp.), 722 F.2d 1063, 1072 (2d Cir.
1983) (holding that the application of section 363(b) must be supported by “some articulated
business justification, other than appeasement of major creditors” and that “a judge determining
a § 363(b) application [must] expressly find from the evidence presented before him at the
hearing a good business reason to grant such an application”); In re Global Crossing Ltd., 295
B.R. 726, 743 (Bankr. S.D.N.Y. 2003) (citing Lionel Corp, 722 F.3d at 1071) (emphasizing the
business judgment standard).
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 18 of 26

19
Although the Court is satisfied that the KERP Employees are not insiders under section
101(31), the KERP must still be analyzed under section 503(c)(3) because it is not an ordinary
course transaction. See Nellson Nutraceutical, 369 B.R. at 803-04. Likewise, since the KEIP is
not an ordinary course transaction and relates to compensation, it must also meet section
503(c)(3)’s standards.
Section 503(c)(3) limits payments made to the Debtors’ employees outside of the
ordinary course unless such payments are justified by “the facts and circumstances of the case.”
11 U.S.C. § 503(c)(3). Courts have held that the “facts and circumstances” language of section
503(c)(3) creates a standard no different than the business judgment standard under section
363(b). See Dana II, 358 B.R. at 576; Global Home Products, 369 B.R. at 783 (“If [the
proposed plans are] intended to incentivize management, the analysis utilizes the more liberal
business judgment review under § 363.”); Mesa Air Group, 2010 WL 3810899 at * 4; In re
Nobex Corp., No. 05-20050, 2006 WL 4063024, at *2 (Bankr. D. Del. Jan. 19, 2006). In Dana
II, Judge Lifland listed several factors that courts consider when determining if the structure of a
compensation proposal and the process for its development meet the business judgment test:
- 	Is there a reasonable relationship between the plan proposed and the
results to be obtained, i.e., will the key employee stay for as long as it
takes for the debtor to reorganize or market its assets, or, in the case of a
performance incentive, is the plan calculated to achieve the desired
performance?
- 	Is the cost of the plan reasonable in the context of the debtor’s assets,
liabilities and earning potential?
- 	Is the scope of the plan fair and reasonable; does it apply to all
employees; does it discriminate unfairly?
- 	Is the plan or proposal consistent with industry standards?
- 	What were the due diligence efforts of the debtor in investigating the
need for a plan; analyzing which key employees need to be incentivized;
what is available; what is generally applicable in a particular industry?;
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 19 of 26

20
- 	Did the debtor receive independent counsel in performing due diligence
and in creating and authorizing the incentive compensation?
358 B.R. at 576-77 (emphasis in original). See also Global Home Prods., 369 B.R. at 786
(evaluating an incentive plan under the business judgment standard of section 363 by applying
the factors listed above); but see In re Pilgrim’s Pride Corp., 401 B.R. 229, 236-37 (Bankr. N.D.
Tex. 2009) (standard for approval under section 503(c)(3) is higher than the business judgment
test; if payments to employees outside the ordinary course were only subject to the business
judgment test, then the language of section 503(c)(3) would ostensibly be rendered meaningless).
Since the legal standard under section 363(b) is no different than section 503(c)(3), the
following analysis is equally applicable to both statutory provisions. Applying the Dana II
factors, the Court finds that the Debtors have exercised sound business judgment.
1. Relationship Between the Plans Proposed and the Results Obtained
A reasonable relationship exists between the plans proposed and the results to be
obtained. In this case, the KEIP is keyed to the achievement of the Incentives, distributions to
unsecured creditors and either a section 363 going concern sale or the filing of a reorganization
plan in short order. These challenging objectives, if met, will help minimize expenses, maximize
estate value and justify the bonuses awarded. See Dana II, 358 B.R. at 583. The use of financial
metrics also makes it easier for the Court and parties-in-interest to ascertain the relationship
between compensation paid and incentivized performance. Therefore, the Court finds that the
KEIP is narrowly tailored and predicated on the achievement of reasonable business and
bankruptcy goals.
The KERP is also appropriately constructed to retain non-insiders that the Debtors
believe are critical to continued operations. Given the circumstances of these cases, it would be
very difficult for the Debtors to recruit and train individuals in a timely manner with a minimal
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 20 of 26

21
disruption of business operations. (Etlin Decl. ¶ 13.) The necessity for retaining and
incentivizing important employees is especially pressing given the recent and numerically
significant exodus of corporate employees. At the April 14th hearing, Debtors’ counsel indicated
that the continuous departure of key employees has forced the Debtors to fill vacancies with
personnel from Alix Partners (the Debtors’ restructuring advisors) at costly rates. Hr’g Tr. 25,
Apr. 14, 2011.
The Court is also mindful that the wellbeing of all of the Debtors’ employees is
predicated on the success of the Debtors during the pendency of these cases. The Debtors
currently employ approximately eleven-thousand (11,000) full-time or part-time employees.
Those jobs depend on the Debtors stabilizing their business and exiting chapter 11 as a going
concern, an objective that will be much more difficult to achieve without an experienced and
committed workforce. The Court believes that the Proposed Plans contain targets that, if met,
will best preserve the Debtors’ business as a going concern.
2. The Proposed Plans Are Reasonable
The Proposed Plans are also reasonable in light of the Debtors’ financial situation. The
maximum total cost of the KEIP and the KERP is approximately $3.9 million,6 representing only
0.17% of the Debtors’ revenue for 2010 7 and 0.26% of the Debtors’ projected revenue in its year
of emergence from bankruptcy.8 When compared to similar programs identified by Mercer, this
percentage falls far below the average of 0.39%. (Dempsey Decl. ¶ 15.) Without the KEIP in
place, Executives will be compensated at only 38% of the market median. (Id. ¶ 26.)
6 	This amount represents the aggregate of the maximum KEIP and KERP payouts. It does not, however,
include any additional payments made to the Senior Management Participants on account of distributions to general
unsecured creditors. This figure will be subsequently used to compare the Proposed Plans to industry standards.
7 	The Debtors’ revenue for 2010 was approximately $2.3 billion. (Supp. Dempsey Decl. Ex. 1, at p. 12.)
8 	The Supplemental Dempsey Declaration projects that the Debtors’ revenue will be approximately $1.5
billion in the year it emerges from chapter 11. (Id.)
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 21 of 26

22
Furthermore, a determination of reasonableness of the Proposed Plans includes more than just
the Debtors’ 2010 revenue stream. See Dana II, 358 B.R. at 571 (noting that “courts take a
holistic view” of measuring the propriety of compensation packages) (emphasis added). In this
case, the Proposed Plans were vetted by the Committee and the UST. The current version of the
KEIP is the second revision to the incentive plan and was the product of extensive negotiations
between the parties. Other than the UST, no other party opposed the Motion and the UST is now
satisfied with the structure of the Proposed Plans.
3. The Proposed Plans Do Not Discriminate Unfairly
The Debtors have also shown that the Proposed Plans do not discriminate unfairly. In In
re EaglePicher Holdings, Inc., No. 05-12601, 2005 WL 4030132, at *4 (Bankr. S.D. Ohio Aug.
25, 2005), the court found that the debtors’ proposed retention plan did not unfairly discriminate
against its employees. There, the plan only covered a “small minority of employees,” however,
it was broad enough so that it did not include only senior management. Id. A union objected to
the retention plan, in part, because it did not include union members working at one of the
debtors’ plants. Id. The court overruled the union’s objection and held that the retention plan
was permissible. Id. The court observed that a small group of employees could benefit from the
retention plan—to the exclusion of others—because not every employee is “similarly situated in
terms of their employment to the reorganization process.” Id. (citation and internal quotations
omitted).
In this case, the record is clear that all fifteen Executives have been identified by the
Debtors as having the most control over the Debtors, and therefore, influence over the
reorganization process. (Motion ¶ 54; Reply ¶ 19.) Since the Executives are the ones that will
effectively guide the Debtors through bankruptcy, it is reasonable that they should receive
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 22 of 26

23
additional compensation if they are ultimately successful. With respect to the KERP, the Motion
and the Etlin Declaration explain that the KERP Employees all perform a variety of critical
functions that are of paramount importance to the Debtors’ reorganization effort. (Motion ¶ 15;
Etlin Decl. ¶ 20.) In sum, the Debtors have, in their discretion, carefully selected a leadership
team that will manage the Debtors and their ongoing business during the pendency of the
restructuring process.
4. The Proposed Plans Comport with Industry Standards
The Proposed Plans comport with industry standards. During the formulation of the
Proposed Plans, Mercer found that the KERP is less costly than several other non-insider
retention bonus plans approved by bankruptcy courts beginning in 2009. (Dempsey Decl. ¶ 22.)
Mercer also surveyed twenty (20) comparator companies that filed for bankruptcy after January
1, 2009 and found that the median maximum KEIP costs as a percentage of annual revenue in the
year of emergence from bankruptcy was 0.47%. (Supp. Dempsey Decl. Ex. 1, at p. 12.)
Assuming Debtors’ projected revenue in the year of emergence will be $1.5 billion, the
maximum cost of the KEIP will be 0.18% of revenue (or 0.26% when including the cost of the
KERP). The comparator companies identified by Mercer spanned many different industrial
sectors, had revenue sizes that ranged from $350 million to $50 billion and had total asset sizes
that ranged from $500 million to $30 billion.9
The Court is also satisfied that the Proposed Plans are structured in a manner that is
consistent with other incentive and retention plans implemented by other corporate chapter 11
debtors. For the reasons previously explained, the Court finds that the negotiated revisions to the
9 	According to the Supplemental Dempsey Declaration, the Debtors’ assets are currently valued at
approximately $1.45 billion. (Id.)
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 23 of 26

24
KEIP have made the plan truly incentivizing. Moreover, the KERP is necessary given attrition
in the ranks, reasonable in amount and scope and only applies to non-insiders.
5. The Debtors Have Exercised Proper Diligence
The Debtors have exercised proper due diligence when formulating the Proposed Plans.
In In re Brooklyn Hosp. Center, 341 B.R. 405, 412 (Bankr. E.D.N.Y. 2006), the court found that
due care was exhibited by the debtor in the formulation of a KERP because, among other things,
“[t]he board consulted with its counsel and financial advisors, formulated several proposals,
reduced the amount to be paid pursuant to the KERP, and after negotiations with the Committee,
broadened the scope of employees. See also In re Allied Holdings, Inc., 337 B.R. 716, 723
(Bankr. N.D. Ga. 2005) (KERP formulated by considering a number of different factors,
including the opinions of supervisors, the risk that the employee will resign and overall historical
low pay and benefits).
In this case, the Debtors, at the suggestion of the Compensation Committee, engaged and
retained Mercer to provide independent compensation advice. Mercer has a reputation for
formulating compensation plans for employees of distressed companies. Mr. Dempsey has
personally worked with bankrupt companies on numerous occasions. The report annexed as
Exhibit 1 to the Dempsey Supplemental Declaration evidences that the Proposed Plans were the
product of diligent effort and investigation. The Debtors and their professional advisors
reviewed plans implemented by comparable companies and executive compensation data before
choosing the Proposed Plans. (Motion ¶ 56.) Furthermore, the KEIP was revised twice to
incorporate the comments of both the Committee and the UST.
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 24 of 26

25
6. The Debtors Have Received Sufficient Counsel
Lastly, while the Debtors have not shown that they received independent legal counsel
during the formulation process of the Proposed Plans, that deficiency is not fatal. In Global
Home Prods., 369 B.R. at 786, the court approved a compensation program although
independent counsel was not retained. The court did not find the absence of independent counsel
to be an impediment because the compensation plans were nearly identical to plans previously
adopted by the debtor’s compensation committee and were considered to be formulated and
implemented in the ordinary course of the debtor’s business. Id. The Global Home Prods. court
noted that the plans “satisfied the independent ‘test of time.’” Id.
Here, while the Proposed Plans are not ordinary course transactions, the KERP payments
are commensurate with the Debtors’ pre-bankruptcy Annual Performance Bonus Plan payments.
(Motion ¶ 17.) The Debtors have also received independent compensation advice from Mercer
and have sought the input of Alix Partners. (Reply ¶ 23.) Additionally, since Debtors’ counsel
significantly participated in negotiating changes to the KEIP, the Court is satisfied that Debtors’
interests were sufficiently protected.
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 25 of 26

26
III. 	CONCLUSION
For the reasons explained above, the Court finds that the Proposed Plans are the product
of the Debtors’ proper exercise of business judgment. The KEIP is reasonably intended to
incentivize management to achieve specific financial and bankruptcy goals in a stated timeframe.
Furthermore, given the departure of important personnel, the KERP is necessary to retain non-
insiders during the pendency of the Debtors’ chapter 11 cases.
DATED: April 27, 2011
New York, New York
_____/s/Martin Glenn____________
MARTIN GLENN
United States Bankruptcy Judge
11-10614-mg Doc 721 Filed 04/27/11 Entered 04/27/11 08:22:16 Main Document
Pg 26 of 26