|June 13, 2012|
Previously published on June 8, 2012
On May 29, 2012, the United States Supreme Court issued a decision that is a victory for secured lenders. The Court held that when a debtor seeks to sell the secured lender’s collateral free and clear of liens as part of the debtor’s Chapter 11 plan, the affected secured creditor must be allowed to credit bid at the sale.
In 2007, RadLAX Gateway Hotel, LLC and RadLAX Gateway Deck, LLC (Debtors) secured a $142 million construction loan from Longview Ultra Construction Loan Investment Fund, for which Amalgamated Bank (Bank) served as trustee. As security for the loan, the Bank obtained a blanket lien on all of the Debtors’ assets. Unable to complete the project at the estimated price and owing more than $120 million on the loan, the debtors filed petitions for relief under Chapter 11 of the Bankruptcy Code. The Debtors submitted to the bankruptcy court a Plan that proposed to dissolve the Debtors and sell substantially all of their assets pursuant to procedures set out in a concurrently-filed motion. Debtors sought to auction their assets to the highest bidder, with the initial bid of $47.5 million, and use the sale proceeds to repay the Bank under the Plan. Under the Debtors’ proposed sale and bid procedures, however, the Bank would not be permitted to bid for the property using the debt it was owed to offset the purchase price, a practice commonly known as credit-bidding. Instead, the Bank would be forced to bid cash if it wanted to retain its interest in the property.
The Debtors sought to have the Plan confirmed over the Bank’s objection, using the “cramdown” provisions of the Bankruptcy Code. Pursuant to section 1129(b)(2)(A) of the Bankruptcy Code, a plan can treat an objecting secured creditor one of three ways: (i) provide the creditor with payments over time, so long as the creditor retains its lien on the property and receives payments over time equal to the present value of the creditor’s secured claim; (ii) sell the collateral, in which case the creditor will have the right to credit bid at the sale; or (iii) give the creditor the “indubitable equivalent” of its claim. In RadLAX, the Debtor proposed a sale of the Bank’s collateral, but did so under clause (iii) (using the indubitable equivalent standard) instead of using clause (ii) of section 1129(b)(2)(A). The Debtor did this in order to deprive the Bank of its credit-bid rights, arguing that repaying the Bank with the proceeds of the auction provided the Bank with the “indubitable equivalent” of its claim. The Bank, relying on clause (ii), which specifically requires that a secured creditor be allowed to credit bid at a sale of its collateral, argued that the Debtor’s Plan violated section 1129(b)(2)(A) and could not be confirmed.
In an 8-0 decision, the Supreme Court agreed with the Bank, holding that the more specific procedures found in clause (ii) must be met when a plan proposes to sell an asset of a debtor that is subject to a lien. The Court held that “debtors may not obtain confirmation of a Chapter 11 cramdown plan that provides for the sale of collateral free and clear of the Bank’s lien, but does not permit the Bank to credit-bid at the sale.” This holding protects secured creditors’ interests in bankruptcy proceedings and preserves the benefit of the bargain a lender makes when agreeing to issue a loan secured by property of the debtor. Instead of being forced to take the proceeds of a sale of collateral that may be sold at a price well below market value and for less than the amount owed, secured creditors are now assured that they can credit-bid up to the amount they are owed in order to take possession of their collateral and have the opportunity to benefit from appreciation in the value of their collateral if the secured creditor believes the third-party bid undervalues the property. In this way, the RadLAX holding helps to prevent debtors from creating a plan that shifts value from secured creditors to the debtors’ insiders, preferred bidders or other creditors.