By Scott L. Baena, Restructuring & Bankruptcy Chair
Without question, the bedrock of bankruptcy, particularly a successful one, is consent. Indeed, the notion of consent is threaded throughout the Bankruptcy Code and related law in respect of diverse issues ranging from the authority of the bankruptcy court to preside over certain matters, to confirmation of plans of reorganization.
I have frequently lamented --- particularly when serving as debtor's counsel --- that attaining consent has become much more elusive given the contemporary sociology of bankruptcy cases which often include enumerable classes of debt and, making matters worse, holders of certain of that debt which paid pennies on the dollar to purchase it, whether from the original lender or in the secondary market. A discount from par oftentimes emboldens such a purchaser, as it is generally regarded as though it was the original lender and its claim is valued at par. Rarely does such a transaction benefit an estate. Notwithstanding, it is generally accepted that there is no legal basis to limit the rights of the purchaser of discounted debt based alone on the value it paid to purchase such debt.
Recently, a chink to the armor of distressed debt purchasers resonated throughout the secondary market with the decision of the Delaware Bankruptcy Court in In re Fisker Automotive Holdings Inc., 2014 WL 210593 (Bankr. D. Del. Jan. 17, 2014), in which the bankruptcy court limited the right to credit bid of the holder of secured debt purchased at a discount to the amount paid by the holder for the claim. In that case, the purchaser of a $168.5 million secured claim was only permitted to credit bid $25 million --- the amount it paid for the claim.
As the court in Fisker observed, "It is beyond peradventure that a secured creditor is entitled to credit bid its allowed claim." Id. at 4. However, the court also concluded that "the right to credit bid is not absolute" by virtue of the text of section 363(k) which permits a court "for cause" to impair a secured lender's right to credit bid. In particular, the court concluded that while the secured lender will be entitled to credit bid, "[t]he only question is: in what amount." Id. at 4.
There was ample reason for the Fisker court to be concerned about the amount of the secured lender's credit bid given the stipulation between the debtor and the creditors committee in which they agreed, among other things, that if the secured creditor was not permitted to bid at all or its bid was limited to $25 million, there was "a strong likelihood that there would be an auction that has a material chance of creating value" above the secured lender's bid; if the credit bid was not capped there would be "no realistic possibility of an auction;" that the highest and best value for the estate would be achieved only in the sale of all of Fisker's assets as entirety; and, that material assets were either not encumbered by the secured creditor's liens or such liens were in dispute. Id. at 3. Indeed, for those reasons the court concluded there was sufficient cause under section 363(k) to limit the amount of the secured lender's credit bid.
In fact, after 19 rounds of bidding, Fisker's auction increased the value obtained by more than 150 percent or some $90 million more than the secured lender had proposed to pay.
While commentators and practitioners may argue that the Fisker decision is not especially surprising in the circumstances of the case or inconsistent with the Bankruptcy Code or bankruptcy principles, it is nonetheless a case of first impression and assuredly, adds another layer of complexity to creditor dynamics in chapter 11.
In Radlax Gateway Hotel, LLC v. Amalgamated Bank, 132 S.Ct. 2065, 2070, 182 L. Ed. 2d 967, 974 (2012), the Supreme Court held that it would be "contrary to common sense" to conclude that section 1129(b)(2)(A) of the Bankruptcy Code, governing cramdown, permits debtors to sell an encumbered asset free and clear of a lien without permitting the lienholder to credit-bid, subject to section 363(k). As to the latter, the Court instructed,
Section 363(k), in turn, provides that “unless the court for cause orders otherwise the holder of such claim may bid at such sale, and, if the holder of such claim purchases such property, such holder may offset such claim against the purchase price of such property”—i.e., the creditor may credit-bid at the sale, up to the amount of its claim.
132 S.Ct. at 2065 (footnote omitted).
By way of footnote, the Court also pointed out that the section 363(k) "provides an exception to the credit-bidding requirement if 'the court for cause orders otherwise.' The Bankruptcy Court found that there was no 'cause' to deny credit-bidding in this case, and the debtors have not appealed that disposition." Id.at fn.3. Thus, the Court left open the issue of whether and under what circumstances a secured creditor can be denied the right to credit bid altogether and never touched upon whether and under what circumstances the amount of a credit bid can be limited under section 363(k).
Radlax effectively overruled the Third Circuit's decision in In re Philadelphia Newspapers, LLC, 599 F. 3d 298, 314-317 (CA3 2010), which came to the diametrically opposite view that a secured can be denied the right to credit bid for its collateral in a sale under a plan if it otherwise obtains the "indubitable equivalent" of its interest pursuant to section 1129(b)(2)(A)(iii). However, the Court in Radlax found that such a reading of the statute was "contrary to common sense" as it ignores that subsection (ii) "is a detailed provision that spells out the requirements for selling collateral free of liens" while (iii) "is a broadly worded provision that says nothing about such a sale." 132 S.Ct. at 2071.
It is interesting that, rather than quoting from Radlax, in Fisker, Judge Gross chose to quote extensively from Philadelphia Newspapers (which, in turn, relied on stale district and bankruptcy court opinions from other jurisdictions) and, in particular, for the proposition that the right to credit bid can be denied, immediately after identifying that the sole issue in Fisker was the amount of the credit bid that would be permitted, having concluded that the secured creditor was entitled to credit bid.
The decision in Fisker undoubtedly serves to increase the disenchantment of discounted debt purchasers with section 363 sales. Many have already become jaded by the imposition of complex bidding procedures and longer sales periods, as the bankruptcy courts endeavor to ensure the process is inclusive, competitive and transparent. Fisker adds yet another element of risk, even when the holder of the secured claim has reached détente with a debtor about a credit bid sale. Opportunistic buyers of debt can no longer assure themselves that a bankruptcy court will enforce such agreements if the court concludes it will interfere with a robust sale process that it is generally agreed may realize a better result. Indeed, Fisker clearly puts the debtor's fiduciary duties to the estate ahead of any such agreement with a secured creditor and permits the debtor to undermine an agreed upon credit bid sale if an auction process may realize more.
The author wishes to acknowledge with appreciation the Rolling Stones for, among other things, the lyrics to Brand New Car used in the title of this article.
This article was first published on the Law.com Network on March 26, 2014.