• Bankruptcy Court Approves Repayment of Aircraft Debt Without Payment of Make-Whole Premium
  • May 16, 2013 | Authors: Hollace Topol Cohen; Michael A. Karpen; Michael A. Leichtling; Shawn D. Rafferty; Carolyn Peterson Richter
  • Law Firms: Troutman Sanders LLP - New York Office ; Troutman Sanders LLP - Atlanta Office
  • The recent decision of the bankruptcy court presiding over the chapter 11 proceedings of AMR Corporation (“AMR”) and its affiliated debtors (the “Debtors”) provides guidance on the impact that the filing of a chapter 11 case may have on the enforceability of a make-whole premium in a prepetition financing agreement upon the early repayment of aircraft debt.[1] In the AMR case, the Debtors moved for authority to enter into a post petition secured financing transaction whose proceeds are to be used to repay the prepetition obligations of American Airlines, Inc. under certain secured notes and equipment trust certificates (the “aircraft debt”). U.S. Bank Trust National Association (“U.S. Bank”), as loan trustee and security agent for the prepetition aircraft financing transactions, objected to the motion on the basis that the post petition financing violated the debt holders’ rights to receive a make-whole premium under the voluntary redemption provisions of the indentures pursuant to which the aircraft debt was issued (the “Indentures”). The bankruptcy court granted the Debtors’ motion and determined that the make-whole premium was not payable under the terms of the Indentures because the aircraft debt had already matured as the result of the automatic acceleration of the debt under the terms of the applicable Indentures upon the Debtors’ bankruptcy filing and because the automatic acceleration provision expressly provided that the make-whole premium was not due upon such acceleration. The bankruptcy court also denied the request of U.S. Bank that the court lift the automatic stay in order to permit U.S. Bank to decelerate the aircraft debt so that the voluntary redemption provision of the Indentures would apply to the proposed repayment of the aircraft debt. The court determined that any deceleration would be barred by the automatic stay because it would affect the debtor’s contractual right not to pay the make-whole premium.

    In U.S. Bank’s view, the effect of the bankruptcy court’s decision was to preclude the aircraft debt holders from receiving the benefit of their bargain, since the make-whole premium provided for in the voluntary redemption provision of the Indentures was intended to protect the debt holders from the loss they would sustain if the aircraft debt were prepaid at a time when prevailing interest rates were lower than the rate borne by the aircraft debt. That is exactly what the Debtors proposed to do in the AMR case since the bankruptcy court observed, “[t]he Debtors seek to move forward with the new financing to take advantage of the current market conditions...” and noted that the savings from a reduced interest rate would exceed $200 million.[2] The bankruptcy court disagreed with U.S. Bank and held that since the automatic acceleration provision expressly excluded payment of the Make-Whole Amount upon acceleration, “the Noteholders...are entitled to receive full repayment of principal and accrued interest without a Make-Whole Amount, which is exactly what they bargained for in these circumstances.”[3]

    The case is of general interest to all holders of debt instruments because it may be interpreted as permitting debtors to use the filing of a bankruptcy to trigger the “maturity” of their debt upon automatic acceleration of the debt and thereby avoid the application of a make-whole premium provided for in the voluntary redemption provision of an indenture, where the automatic acceleration provision either fails to provide for a make-whole premium upon automatic acceleration or, as in the AMR case, the indenture expressly provides that the “Make-Whole Amount” is not accelerated upon a bankruptcy filing. The case is of particular interest with respect to aircraft financing indebtedness since the court considered the interplay of section 1110 of the Bankruptcy Code[4] and the acceleration provision of the Indentures. In the AMR case, the Debtors exercised their rights under section 1110 of the Bankruptcy Code to continue the automatic stay beyond 60 days after the filing date with respect to the aircraft financing transactions by entering into an agreement with U.S. Bank that provided for curing all non-bankruptcy defaults and paying of principal and interest on the aircraft debt during the case as such payments came due. U.S. Bank maintained that this treatment of the debt under section 1110 was inconsistent with the Debtors’ argument that the debt had matured upon acceleration, since if that were the case the aircraft debt would have had to have been paid in full rather than in installments of principal and interest.

    The bankruptcy court disagreed with U.S. Bank’s interpretation of the Indentures and its suggestion that in the future debtors would use section 1110 “as a weapon to hold their aircraft lenders at bay” and then refinance when interest rates improved.[5] The court held that section 1110 does not interfere with the operation of the controlling provisions of the Indentures and simply sets the terms under which the automatic stay will remain in effect.[6] The bankruptcy court noted that section 1110(a)(2) does not require a debtor to cure a bankruptcy default and it was the bankruptcy default that triggered the acceleration under the Indentures. Nor was the section 1110 election binding on the Debtors since section 1110 does not prevent a debtor from subsequently rejecting a lease nor operate as a reinstatement of the debt.[7] The bankruptcy court also pointed to certain language in the section 1110 Order itself which preserved the parties’ rights under various situations and found that the language was indicative of the fact that the parties did not intend to alter their rights by entering into the section 1110 agreement. The bankruptcy court clearly viewed the section 1110 election as an independent set of rights rather than a waiver by the Debtors of the benefits afforded under the automatic acceleration provision of the Indentures. The court concluded that the Debtors were in compliance both with their obligations under the Indentures in not paying the make-whole premium and section 1110. The bankruptcy court made clear that in its view the limitation on payment of the “Make-Whole Amount” derived from the language of the acceleration provisions in the Indentures themselves. Thus, the case can support the conclusion that if the Indentures had expressly provided for payment of a make-whole premium upon automatic acceleration, the aircraft debt holders would have been entitled to such payment.

    Conclusion

    The bankruptcy court’s decision is an unhappy result for the aircraft debt holders especially since under the proposed plan of reorganization that accompanies the AMR Debtors’ proposed disclosure statement not only would unsecured creditors receive a full recovery on their allowed claims but also AMR equity security holders would receive a recovery, while the aircraft debtholders would not receive the Make-Whole Amount they believe they are contractually entitled to upon early repayment of their debt. Clearly, under those circumstances, the equitable consideration that where a debtor is insolvent payment of the make-whole premium would have an adverse effect on the recovery to unsecured creditors does not come into play.

    The bankruptcy court’s decision indicates that debtholders can best preserve their rights to a make-whole premium by including in the governing agreement an automatic acceleration provision that provides not only for acceleration of principal and interest but also the make-whole premium. The court’s review of other provisions of the Indentures relating to the make-whole premium, including the priority of payments provision, suggests that consideration should be given in the drafting of indentures or other debt documents to how language in other provisions of the agreement relating to a make-whole premium may be construed in the case of a bankruptcy filing.

    U.S. Bank appealed the decision of the bankruptcy court and the Second Circuit Court of Appeals agreed to hear the appeal on an expedited basis. We await the decision of the Second Circuit to see whether that court will affirm the bankruptcy court’s reading of the Indentures which gives effect to the automatic acceleration provision of the Indentures notwithstanding the debtor’s election under section 1110 of the Bankruptcy Code.


    [1] U.S. Bank Trust National Association v. American Airlines, Inc. (In re AMR Corporation, et al.), 485 B.R. 279 (Bankr. S.D.N.Y. 2013).

    [2] Id. at 287.

    [3] Id. at 309 (emphasis added).

    [4] 11 U.S.C. § 1110. Section 1110 of the Bankruptcy Code provides that notwithstanding the commencement of a chapter 11 case and the automatic stay under section 362, certain secured parties, lessors and conditional sale vendors of aircraft and aircraft equipment may not be prevented from taking possession of such aircraft and equipment and enforcing the terms of the applicable security agreement, lease or conditional sales contract, unless the debtor before 60 days after the filing date agrees to perform its obligations under the terms of the relevant agreement and also cures certain defaults.

    [5] 485 B.R. at 309.

    [6] Id. at 306.

    [7] Id. at 306-307.