• Fifth Circuit Rules that Guarantors Released by Lender's Credit Bid
  • August 27, 2013
  • Law Firm: Breazeale Sachse Wilson L.L.P. - Baton Rouge Office
  • The Fifth Circuit recently ruled that a secured lender's credit bid for a debtor's assets resulted in the full payment of the senior debt and extinguished any claims against the guarantors of the debt. See Fire Eagle L.L.C. v. Bischoff (In re Spillman Dev. Group, Ltd.), 710 F.3d 299 (5th Cir. 2013).

    In Spillman, Fire Eagle (the holder of the debtor's senior indebtedness) submitted a successful credit bid of the entire amount of the senior indebtedness. After the auction, certain individual guarantors of the senior indebtedness commenced an adversary proceeding in the bankruptcy court seeking a declaratory judgment that, as a result of the sale, the guarantors should be released from their guarantees and that a $1.2 million certificate of deposit posted to secure the debt by a third party be returned. Fire Eagle filed a motion to dismiss the proceeding arguing that only the fair market value of the assets purchased should be credited against the senior debt and that it could recover from the guarantors, because (i) "credit bidding a proof of claim in a bankruptcy auction affects only the claim in bankruptcy and not any underlying debt"; (ii) "events occurring in a debtor's bankruptcy do not typically 'inure to the benefit of nonbankruptcy guarantors'"; and (iii) "the guaranty agreements provide that the guarantors' obligations could not be affected by the bankruptcy."

    The bankruptcy court held that the entire amount of the credit bid should be credited against the senior debt because a credit bid is a cash equivalent and, therefore, the guarantors should be released and the certificate of deposit returned. The Fifth Circuit affirmed. As to Fire Eagle's first argument, the Fifth Circuit found it "logically unsound" in that had the debtor accepted a higher or equal cash bid, the proceeds from such bid would have been applied to satisfy Fire Eagle's senior debt. Under such circumstances, Fire Eagle would not have been able to proceed against the guarantors. As to Fire Eagle's second argument, the Court distinguished between the present case and those where a creditor proceeds against third party guarantors, because in none of those cases was the guaranteed debt repaid in full with a credit bid. Finally, as to the debtor's third argument, the Fifth Circuit held that while the guarantees stated that they would not be affected by bankruptcy, they also stated that they would be terminated upon payment of the senior indebtedness. As the credit bid constituted payment in full of the senior debt, the right of Fire Eagle to recover under the guarantees was extinguished.