On December 12, 2011, the Supreme Court granted a petition for
certiorari in a case raising the question of whether a debtor's
chapter 11 plan is confirmable when it proposes an auction sale of
a secured creditor's assets free and clear of liens without
permitting that creditor to "credit bid" its claims but
instead provides the creditor with the "indubitable
equivalent" of its secured claim. RadLAX Gateway Hotel,
LLC v. Amalgamated Bank, No. 11-166 (cert. granted Dec. 12,
2011). In that case, the Seventh Circuit held that an objecting
secured creditor class in a "cramdown" cannot be deprived
of its right to credit bid its claims.
Credit bidding is widely used in bankruptcy cases because it
allows the secured creditor to use the amount of its secured debt
as all or part of its bid to acquire the asset. Section 363(k) of
the Bankruptcy Code sets forth a creditor's right to credit
bid. It authorizes a creditor to bid its secured debt claim to
purchase the assets subject to the creditor's lien, unless the
court orders otherwise "for cause." 11 U.S.C §
363(k). If the holder of the claim purchases the property, the
"holder may offset such claim against the purchase price of
[the] property." Id.
The credit bid process benefits secured creditors in at least two
ways. First, it can increase the price of the assets that other
prospective buyers must pay (which, presumably, makes it more
likely the secured creditor will be made whole). Second, it can
also enable the secured creditor to reacquire its assets without
paying for the property twice—once when it extended the
credit and a second time when it reacquires the asset. It also can
benefit the debtor in that it provides an instant market for its
assets with a known quantifiable value associated with the asset
and thereby can enhance both the efficient administration of the
estate and the return to all creditors. Moreover, credit bidding
can provide a market test for the assets subject to the sale. This
advances traditional bankruptcy objectives such as maximizing the
value of estate assets and grounding asset sales in present-value,
market-based metrics.
The Supreme Court's decision, which is expected toward the end
of the Court's Term in June 2012, may well resolve a split
among the Third, Fifth, and Seventh Circuits. This decision likely
will have significant implications for secured creditors in the
context of chapter 11 cases where they wish to use their security
interest to credit bid in an attempt to increase the price of or to
reacquire their collateral.
Section 1129(b) of the Bankruptcy Code contains the applicable
standards that must be met before the bankruptcy court can confirm
a chapter 11 plan over objections to the plan by a class of
creditors whose rights will be impaired by the proposed plan. These
"cramdown" requirements for secured creditors are found
in section 1129(b)(2)(A), which provides:
With respect to a class of secured claims, the plan provides—
(i) (I) that the holders of such claims retain the liens securing such claims, whether the property subject to such liens is retained by the debtor or transferred to another entity, to the extent of the allowed amount of such claims; and
(II) that each holder of a claim of such class receive on account of such claim deferred cash payments totaling at least the allowed amount of such claim, of a value, as of the effective date of the plan, of at least the value of such holder's interest in the estate's interest in such property;
(ii) for the sale, subject to section 363(k) of this title, of any property that is subject to the liens securing such claims, free and clear of such liens, with such liens to attach to the proceeds of such sale, and the treatment of such liens on proceeds under clause (i) or (iii) of this subparagraph; or
(iii) for the realization by such holders of the indubitable equivalent of such claims.
11 U.S.C. §1129(b)(2)(A) (emphasis added).
Several circuits have recently parted ways in their interpretation
of this section and created a circuit split requiring Supreme Court
resolution of the issue.
In In re Philadelphia Newspapers, LLC, 599 F.3d 298 (3d
Cir. 2010), and In re Pacific Lumber Co., 584 F.3d 229
(5th Cir. 2009), the Third Circuit and Fifth Circuit, respectively,
held that when a debtor proposes to sell an asset in which a
creditor has a security interest as part of a chapter 11 plan, the
secured creditor is not entitled to bid the value of its secured
claim as long as it receives the "indubitable equivalent"
of its secured claim as a result of the sale. Philadelphia
Newspapers, 599 F.3d at 310-18; Pacific Lumber, 584
F.3d at 244-47. These courts read the "or" between
subparagraphs (ii) and (iii) of section 1129(b)(2)(A) as isolating
each subparagraph. Further, they determined that as long as the
proposed plan contemplating a sale of assets subject to a security
interest satisfied either subparagraph (ii) or (iii) in
Section 1129(b)(2)(A), the plan was confirmable. At the time these
opinions were issued, they conflicted with widely held and applied
views that if a debtor proposed to sell assets subject to
a security interest pursuant to a plan, the debtor was required to
comply with subparagraph (ii), and the secured creditors were
permitted to credit bid as part of the sale process.
In 2011, the Seventh Circuit—in contrast to the Third and
Fifth Circuit holdings discussed above—held that when a
debtor proposes to sell assets subject to a security
interest pursuant to a chapter 11 plan, the debtor must comply with
subparagraph (i) or (ii) of section 1129(b)(2)(A). River Road
Hotel Partners, LLC, et al. v. Amalgamated Bank, 651 F.3d 642,
646-53 (7th Cir. 2011). Specifically, the debtor must either: (i)
sell the encumbered asset with the secured creditors retaining
their liens; or (ii) sell the encumbered asset free and
clear of liens, with the liens attaching to the sale proceeds, and
permit the secured creditor to credit bid as part of the sale.
River Road, 651 F.3d at 652.
The Seventh Circuit held that a plan may be confirmed under
subparagraph (iii) only if the proposed disposition of the
assets subject to a security interest is undertaken in a manner
other than what is outlined in subparagraphs (i) and (ii). Thus,
subparagraph (iii) does not satisfy the requirement for a sale of
encumbered assets pursuant to a plan. Id. If a debtor
proposes to sell an encumbered asset, it must do so under either
subparagraph (i) and provide for the lien to remain intact, or
subparagraph (ii) and permit credit bidding. According to the
Seventh Circuit, subparagraph (iii) cannot be relied upon as an
alternative mechanism for a sale where credit bidding is prohibited
or the liens do not remain on the collateral. Id.
The court noted that, if subsection (iii) permitted a debtor to
sell assets free and clear without credit bidding, then subsection
(ii) would have no purpose. Id. In reaching this
conclusion, the Seventh Circuit relied heavily upon the dissenting
opinion in Philadelphia Newspapers, which set forth many
of these same arguments. See Philadelphia Newspapers, 599
F.3d at 319-38. The Seventh Circuit also relied upon legislative
history indicating that Congress intended to ensure secured
creditors proper compensation for their collateral. Finally, the
Seventh Circuit noted that the Bankruptcy Code does not authorize
generally an auction sale of encumbered assets where credit bidding
is unavailable. River Road, 651 F.3d at 652, note 8.
Pending the outcome of the Supreme Court's decision in
RadLAX, debtors and other interested parties continue to
propose chapter 11 plans that contemplate sales of encumbered
assets while permitting secured creditors to credit bid as part of
the sale process, e.g., In re International Media
Group, Inc., et al., Case No. 12-10140 (MFW) (Bankr. D. Del.
2012) (sale of assets where stalking horse bid is a $45 million
credit bid). Hopefully, the Supreme Court's decision will
provide some clarity with regard to a secured creditor's right
to credit bid its claim upon the sale of its collateral under a
chapter 11 plan.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.