Restructuring

Contributed by Kelly E. McDonald
In our January 20 and February 2 entries, we discussed two aspects of the Boston Generating decision that have caught the attention of the bankruptcy community.  We promised additional Weil Bankruptcy Blog entries to illuminate other interesting issues raised in the court’s order approving the preconfirmation sale of substantially all of the debtors’ assets to Constellation Holdings, Inc., under section 363 of the Bankruptcy Code.  Importantly, the court’s published decision provides guidance to practitioners on another key issue that nevertheless remains unresolved in the Second Circuit and departs from the holding of a bankruptcy appellate panel in the Ninth Circuit.  This third installment discusses the court’s holding that the meaning of “value” in section 363(f)(3) means the aggregate value of the liens securing the property, rather than the face amount of the liens. 
Because the debtors were seeking to sell their assets “free and clear of any interest” under section 363(f), rather than through a plan of reorganization, the debtors had to satisfy at least one of the conditions of section 363(f):  (1) applicable nonbankruptcy law permits the sale of such property free and clear of such interest; (2) the holder of the interest consents; (3) such interest is a lien and the price at which such property is to be sold is greater than the aggregate value of all liens on such property; (4) such interest is in bona fide dispute; or (5) the entity holding the interest could be compelled, in a legal or equitable proceeding, to accept a money satisfaction of such interest.  11 U.S.C. § 363(f) (emphasis added).  
The junior lenders challenged the debtors’ ability to satisfy any condition of section 363(f) because their reading of section 363(f)(3) required the proceeds of sale (to which their liens would attach) to exceed the face value of all liens on the property (face value of the liens of approximately $1.45 billion against the Constellation bid for the property of $1.1 billion), relying on a  decision from a bankruptcy appellate panel in the Ninth Circuit, Clear Channel Outdoor, Inc. v. Knupfer (In re PW, LLC), 391 B.R. 25 (9th Cir. BAP 2008).  The Clear Channel court interpreted “value” in section 363(f)(3) to refer to the face amount of the liens.
The debtors argued that they satisfied section 363(f)(3) because the “value” of the liens on the property was limited to the amount by which the liens are secured, in this case, the market-tested value of the property—the sale price—not the face amount of the liens.    
The court acknowledged that the statutory language is less than perfect and, without binding Second Circuit Court of Appeals precedent on point, the court undertook an analysis of the meaning of “value” in section 363(f)(3).  The court reasoned that the “value” of a lien is determined by reference to section 506(a) of the Bankruptcy Code, that is, the amount by which the lienholder’s claim is secured, citing In re Beker Industries Corp., 63 B.R. 474 (Bankr. S.D.N.Y. 1986) and United Savings Association of Texas v. Timbers of Inwood Forest Associates, Ltd., 484 U.S. 365, 372 (1988) (“The phrase ‘value of such creditor’s interest’ in § 506(a) means ‘the value of the collateral.’”).
The court concluded that to hold otherwise “would effectively mean that most section 363 sales of encumbered assets could no longer occur either (a) absent consent of all lienholders (including those demonstrably out of the money) or (b) unless the proceeds of the proposed sale were sufficient to pay the face amount of all secured claims in full.”
The court reasoned that:   

If section 363(f)(3) . . . [is] read in the manner suggested by the [junior lenders], it seems unlikely that a Court, under any circumstance, could approve a non-consensual 363 sale.  As both a practical matter and a matter of statutory construction, that cannot be true.  It is hard to imagine that Congress intended to limit a debtor’s power to dispose of encumbered assets, particularly where such disposition otherwise satisfies the requirements of section 363(b).

The Boston Generating court thus declined to follow Clear Channel, following instead, Beker and its progeny.
The debtors also argued, in the alternative, that they nevertheless satisfied section 363(f)(5), because the junior lenders could be compelled, in a legal or equitable proceeding, to accept a money satisfaction of their lien.  The junior lenders disagreed, again relying on Clear Channel.  The court agreed with the debtors, holding that numerous legal and equitable procedures exist by which the junior lenders could be forced to accept less than full payment of their debt, including the existence of judicial and nonjudicial foreclosure and enforcement actions under state law, the subject of a post-Clear Channel decision from a bankruptcy court in the Ninth Circuit, In re Jolan, Inc., 403 B.R. 866, 870 (Bankr. W.D. Wash. 2009).  The court held, therefore, that the debtors additionally satisfied section 363(f)(5).
This decision, for courts following Beker and its progeny and now Boston Generating, has the effect of swinging the pendulum of leverage in a chapter 11 case for preconfirmation section 363 sales decidedly away from the undersecured lender and toward the debtor and potential acquirors.  This decision also may motivate undersecured lenders to come to the table and provide debtor-in-possession lending in order to fund the debtor’s case and enable the debtor to sell its assets through a negotiated plan of reorganization, rather than through a preconfirmation section 363 sale.
As an update to the pending bankruptcy case, the debtors recently filed a motion seeking authority under Bankruptcy Rule 9019 to enter into a settlement to resolve many of the outstanding issues of the case [Docket No. 702], including the appeal brought by the senior lenders regarding the standing of the junior lenders to object to the sale under the terms of a prevailing intercreditor agreement, discussed in our February 2 Blog entry.  The 9019 motion is currently set to be heard by the court on March 23, 2011.  Even if the court approves the settlement motion, still outstanding will be the unsecured creditors’ committee motion for standing to bring certain adversary proceedings and the pending motion to convert.  The Weil Bankruptcy Blog will continue to monitor the case.