Bankruptcy & Restructuring Law Monitor : Bankruptcy Lawyer & Attorney : Cole Schotz Meisel Forman & Leonard Law Firm : NJ, Mid-Atlantic Restructuring & Chapter 11

Does a secured creditor have an absolute right to acquire its collateral, which is sold pursuant to a plan of reorganization, by credit bidding its debt? The Third Circuit Court of Appeals, in a strict constructionist opinion, has just answered this question in the negative.

The Court of Appeals in In re Philadelphia Newspapers, LLC, No. 09-4266 (3d Cir. March 22, 2010) upheld the decision of the United States District Court for the Eastern District of Pennsylvania (which reversed the Bankruptcy Court’s ruling) that barred the prepetition secured lenders from credit-bidding their secured claim to purchase the assets of Philadelphia Newspapers L.L.C. (the “Debtor”) pursuant to the Debtor’s plan of reorganization. The Debtor and other related affiliate-debtors own and operate The Philadelphia Inquirer, Philadelphia Daily News, and philly.com (the “Assets”), which they acquired for $515 million in July 2006 with the proceeds of a $295 million loan from a syndicate of lenders (the “Lenders”). The Lenders hold a first priority lien on substantially all of the Debtor’s Assets, and are owed approximately $319 million. The Debtor proposed a Chapter 11 plan of reorganization (the “Plan”) providing for the sale of the Assets at a public auction free and clear of all liens, claims and encumbrances. Simultaneously, the Debtor entered into a stalking horse purchase agreement with Philly Papers, LLC, an insider of the Debtor, and sought, through its proposed bidding procedures, to preclude the Lenders from credit bidding at the public auction (i.e., all bids had to be in the form of cash).

The Third Circuit was asked to decide whether the District Court correctly held that Section 1129(b)(2)(A) of the Bankruptcy Code does not provide secured lenders with a legal entitlement to credit bid at an auction sale pursuant to a plan of reorganization. The Third Circuit, as did the District Court, relied on the plain language of the statute, which “provides three distinct routes to plan confirmation – retention of liens and deferred cash payments under subsection (i), a free and clear sale of assets subject to credit bidding under subsection (ii), or provision of the “indubitable equivalent” of the secured interest under subsection (iii).” These three alternatives were independent and, therefore, proceeding under either of them was sufficient for confirmation of a plan as “fair and equitable” under the Bankruptcy Code. Because subsection (iii), unlike subsection (ii), does not incorporate the right to credit bid, a debtor who seeks confirmation under the third alternative is not required to allow credit bidding.

In so ruling, the Third Circuit agreed with the Fifth Circuit’s decision in In re Pacific Lumber Co., 584 F.3d 229 (5th Cir. 2009), and distinguished its holding in In re SubMicron Systems Corp., 432 F.3d 448 (3d Cir. 2006). The Court found that SubMicron, which holds that a lender in a Section 363(b) sale could bid up to the full value of its loan and the credit bid sets the value of the lender’s secured interest in collateral, does not equate to a holding that a credit bid must be the successful bid at a public auction. Rather, a court is called at the plan confirmation stage to determine whether a lender has received the “indubitable equivalent” of its secured interest in the collateral. In other words, it is the plan of reorganization, and not the auction itself, that must generate the “indubitable equivalent.” The Third Circuit noted that, notwithstanding its ruling, secured lenders still retain their rights to argue at confirmation that the absence of a credit bid fails to provide them with the “indubitable equivalent” of their collateral.

Judge Thomas Ambro, a former bankruptcy judge, dissented. Judge Ambro reasoned that to read subsection (iii) to accomplish a sale free of liens, but without following the specific procedures prescribed by subsection (ii), undoubtedly places the two clauses in conflict. He expressed serious concern that the majority’s ruling effectively eviscerated the rights afforded to and expectations of secured lenders, and forecasted the adverse impact the ruling would have on the availability and pricing of future credit. Given the prevalence of credit bidding in Chapter 11 cases today, the Third Circuit’s opinion will have a significant ripple effect.

• Email This
• Print
• Comments
• Trackbacks
• Share Link

The United States District Court for the District of Delaware, in Goody’s Family Clothing, Inc. et al. v. Mountaineer Prop. Co. II, LLC, et al. (In re Goody’s Family Clothing, Inc. et al.), 2009 WL 903370 (D. Del. March 31, 2009), held that “stub” rent owed to commercial landlords should be accorded administrative expense priority under Section 503(b)(1) of the Bankruptcy Code. “Stub” rent is a bankruptcy term of art that means rent due for the period from the date the bankruptcy case is commenced through the end of the month in which the case was filed. In so ruling, the District Court swiftly distinguished the Third Circuit’s decision in In re Montgomery Ward Holding Corp., 268 F.3d 205, 209 (3d Cir. 2001), and ruled that Section 365 of the Bankruptcy Code is not the exclusive remedy for commercial landlords to obtain payment of “stub” rent. The Goody’s Court ruled, however, that while the “stub” rent obligation constituted an administrative expense claim, payment did not have to be made immediately. That is, payment could be made pursuant to a confirmed Chapter 11 plan.

Section 365(d)(3) of the Bankruptcy Code provides that a debtor-in-possession must timely perform all the obligations of the debtor under an unexpired commercial real property lease arising after the order for relief is entered until such lease is assumed or rejected, notwithstanding section 503(b)(1) of the Bankruptcy Code. As to payment of “stub” rent, there is a split of authority whether such obligation should be deemed a pre-petition or post-petition obligation of the debtor-tenant. Some courts have adopted the “billing date” approach based on their view that an obligation to pay rent arises on the day that rent is due, while others have adopted the “accrual date” approach based on the days the tenant occupies the leased premises. In Montgomery Ward, the Third Circuit adopted the “billing date” approach when confronted with the issue of whether real estate taxes billed to the tenant under an unexpired lease after the bankruptcy filing had to be paid in full, even though a portion of the taxes were attributable to the pre-petition period. The Third Circuit required payment of the entire real estate tax bill because it was “billed” after the bankruptcy filing.

Technically, under Montgomery Ward’s “billing date” approach, the “stub” rent in Goody’s would have constituted a pre-petition claim. However, the Goody’s Court relied on Section 503(b) of the Bankruptcy Code to grant the commercial landlords an administrative expense claim for their “stub” rent. That statute provides that an administrative claim should be allowed for the “actual, necessary costs and expenses of preserving the estate.” The Goody’s Court held that because the debtors were occupying leased commercial premises after the bankruptcy filings and were using them to conduct “profitable” store closing sales, Section 503(b) entitled them to an administrative expense claim for the “stub” rent. This is a significant victory for commercial landlords, and one debtors’ counsel should consider when determining the date on which a bankruptcy filing should be commenced.

On April 27, 2009, the Debtors filed a notice of appeal in the District Court, invoking their right to have the Third Circuit review the Delaware District Court's decision. The Third Circuit case number is 09-2168.

• Email This
• Print
• Comments
• Trackbacks
• Share Link