Successful Bidder Must Pay Damages (In Addition to Forfeiting Deposit) After Backing Out of Sale – At Least in Certain Circumstances

Contributed by Victoria Vron
Purchasers beware: sometimes less is not more. As the successful bidder in Berlin & Denmar Distributors, Inc. found out the hard way, the failure to negotiate and document the terms of a purchase, including such basics as conditions precedent and liquidated damages, may leave a successful bidder on the hook for much more than it thought it bargained for.
In Berlin & Denmar, the debtor was an owner of shares of the Hunts Point Cooperative Market in Bronx, New York, which entitled it to sublease four units at Hunts Point, from which it operated a food distribution business. The debtor’s plan of liquidation contained bidding procedures for the sale of the four cooperative units. As is typical of bidding procedures in chapter 11, the debtor’s bidding procedures contained stalking horse bids, timing for making competing bids, and a public auction to determine the successful bidders. In addition, the bidding procedures required each qualified bidder to pay the debtor a $50,000 deposit, which would be returned to the bidder if it did not become the purchaser (which the plan defined as the successful purchaser of any units being sold pursuant to the plan). The bidding procedures further provided that if the qualified bidder became the purchaser, but failed to close the sale for any reason, the deposit would become non-refundable and shall be forfeited to the debtor.
At the auction, Goldstein Development Corporation outbid the stalking horse bidder for three of the cooperative units with a bid of $940,000 (which was more than $300,000 greater than the stalking horse bid) and was declared purchaser. The stalking horse, Angus America, Inc., became the back-up bidder. Shortly after the auction, Hunts Point objected to assumption and assignment of the sublease to either Goldstein or Angus. The Bankruptcy Court for the Southern District of New York subsequently entered an order approving the sale of the units to Goldstein, subject to resolution of Hunts Point’s objection. Seven weeks after the auction, Goldstein backed out of the sale and Angus became the successful bidder. Unfortunately for the debtor, three months later, Angus also backed out of the sale. The debtor ultimately sold the three units to another buyer several months later for $315,000 less than Goldstein’s winning bid.
Although the debtor kept both Goldstein’s and Angus’s deposits, it commenced an adversary proceeding against Goldstein seeking, among other things, to recover as damages the $315,000 difference between Goldstein’s bid and the ultimate sale price for the three units, and six months of additional rent that the debtor had to pay to Hunts Point as a result of the delayed closing. Both parties filed motions for summary judgment. The only question on summary judgment was whether the plan’s bidding procedures allowed the debtor to recover ordinary contract damages in excess of the deposit in the event of breach. The debtor and Goldstein apparently never entered into an asset purchase agreement (nor were they required to do so under the bidding procedures). The court nonetheless found that there was a contract between the parties, consisting of Goldstein’s bid and the debtor’s acceptance thereof as confirmed in the court’s order approving the sale, and that the bidding procedures governed the parties’ rights.
The bidding procedures were silent on the question presented. They did not describe the forfeited deposit as liquidated damages or as the debtor’s exclusive remedy, nor did they say that the debtor can recover additional damages. The parties admitted that they were not aware of any extrinsic evidence that would resolve the ambiguity created by this silence. The court held that where extrinsic evidence resolving an ambiguity does not exist, the resolution of the ambiguity is ripe for determination on summary judgment. (Hence lesson #1: It is possible, under certain circumstances, to interpret an ambiguous contract on summary judgment.)
Faced with the ambiguity created by the silence in the bidding procedures, the court looked at applicable state law for answers. The court held that in New York, a prospective purchaser who defaults on a real estate contract without a lawful excuse forfeits his deposit, even where the contract does not contain a forfeiture clause. However, unless the seller has elected to accept the deposit as liquidated damages and as its exclusive remedy (which must be expressly agreed to and not implied), the seller may still recover the difference between the contract price and the market value of the property at the time of the breach, less any deposits paid by the purchaser. These principles apply equally to contracts for the sale of property held in cooperative ownership, even if they are not technically sales of real estate.
Because the bidding procedures did not expressly limit the debtor’s remedy to the retention of the deposit, and the limitation cannot be implied, the court held that the debtor is entitled to recover its contract damages after giving credit to the deposits that it kept from Goldstein and Angus. The court directed further proceedings to determine the amount of the debtor’s contract damages, noting that the debtor’s damages may not necessarily be the difference in the Goldstein bid and the ultimate sale price (plus additional rent), because the relevant measure is the market value at the time of breach (which occurred many months before the ultimate sale of the units).
So, lesson #2: Negotiate an asset purchase agreement containing basic terms, such as conditions precedent to closing. Although not entirely clear from this decision, Goldstein’s repudiation may have been related to Hunts Point’s objection to assumption and assignment of the sublease. If the purchase was impossible or less valuable without assignment of the sublease, a condition relating to the assignment (including that an order approving it be entered by a date certain) could have been included as a condition precedent in the asset purchase agreement. Goldstein could have negotiated that if the condition precedent was not met, it would have the right to walk away without paying any damages.
And finally, lesson #3: If you are the purchaser, negotiate for the asset purchase agreement to expressly provide that the forfeited deposit is the debtor’s exclusive remedy in the event of the purchaser’s breach of the agreement and failure to close the sale.