Restructuring

Contributed by Marvin Mills
When a debtor seeks to assume a lease in default, section 365(b)(1) of the Bankruptcy Code requires the debtor to promptly cure the default. Unfortunately, the Bankruptcy Code does not define promptly. As a result, landlords and debtors may find themselves battling over the time in which a debtor must cure — particularly where a debtor proposes to make installment payments over multiple years. Recently, in In re Cain, the United States Bankruptcy Court for the Northern District of California considered whether the debtors’ proposed installment payments stretching over a 42-month period qualified as a prompt cure. The court ruled that a cure repayment schedule extending beyond two years (and the remaining lease term) is not prompt.
Background
In Cain, the debtors and a landlord were parties to two commercial leases. The leases ran from March 15, 2011 to March 31, 2016. Initially, the monthly rent due under both leases collectively was $2,740. From January 1, 2012 through the end of the lease term, the aggregate monthly rent due under both leases increased to $4,110.
On September 4, 2013, the debtors commenced their chapter 13 cases. Five months later, the debtors filed their seventh amended plan. The plan, which was premised on the assumption of the leases, provided that the landlord would receive monthly rental payments equal to $2,740. The debtors also proposed to cure the prepetition default consisting of unpaid rent — which the debtors calculated at $32,217.00 — by making monthly installment payments of $767.07.
The landlord objected to confirmation of the plan, asserting, among other things, that (1) the proposed monthly rental rate was not the correct rate under the leases, and (2) the proposed cure payment schedule violated the prompt cure requirement under section 365(b)(1). In its objection, the landlord also demanded payment of the higher rental rate commencing on January 1, 2014.
The debtors countered that the lower rental rate was correct because the landlord had orally agreed to accept the lower rental rate, and had waived its right to receive the higher rental rate by filing a proof of claim that was based upon the lower rental rate. With respect to the installment payments, the debtors asserted that the cure would be sufficiently prompt because the payments would be made over the remainder of the lease term.
Analysis
The court began its analysis by discussing whether there was an oral modification of the leases. Citing California law, and the applicable statute of frauds, the court explained that any agreement regarding a lease of real property for a period longer than a year requires a written agreement. Finding that there was no writing evidencing an agreement to reduce the higher rental rate under the leases, the court deemed the purported modification to be invalid.
Turning to whether the landlord waived its right to enforce the increased monthly rental rate, the court agreed in part with the debtors. Referencing the landlord’s proof of claim and objection, the court concluded that the landlord had assented to continue to accept the lower monthly payments through December 2013, and thus waived its right to receive the higher amounts. The court also determined, however, that the landlord’s waiver did not apply to rent due after December 2013 because the plain language of the leases provided that any waiver of prior amounts owed did not constitute a waiver of any future amounts due.
The court next addressed the permissibility of the debtors’ assumption of the lease agreements. As the court observed, to assume a lease under section 365 of the Bankruptcy Code, a debtor must — at the time of assumption — (1) cure any existing default or provide adequate assurance of prompt cure of the default, (2) compensate, or provide adequate assurance of prompt compensation for any monetary loss, and (3) provide adequate assurance of future performance of the lease.
In analyzing these three requirements, the court noted that the debtors had not cured the outstanding default under the leases. The court flatly rejected the debtors’ argument that the plan’s provision for cure payments over a 42-month period was appropriate. According to the court, it is well established that “a cure period of over two years is not ‘prompt’ for purposes of [section] 365(b)(1).” For similar reasons, the court found that the debtors had failed to provide adequate assurance that the landlord would receive prompt compensation for any economic loss arising from a default by the debtors. Finally, the court found that the debtors failed to provide adequate assurance of future performance, partially based upon the debtors’ sporadic payment history.
The Cain decision is another reference point on the spectrum of what is prompt, but there remains no general rule. Rather, courts analyze whether cure is prompt based on the facts of each case, and reach diverging conclusions. Compare In re Embers 86th St., Inc., 184 B.R. 892, 900 (Bankr. S.D.N.Y. 1995) (chapter 11 debtor’s cure of default over a 29-month period would not be prompt), with In re Coors of N. Miss., Inc., 27 B.R. 918, 900 (Bankr. N.D. Miss. 1983) (chapter 11 debtor’s cure of default over 36-month period approved as prompt). Notably, some courts may consider installment payments to be prompt if the debtor will complete the payments prior to expiration of the applicable lease term, but this also is not a firm rule. See, e.g., In re PRK Enters., Inc., 235 B.R. 597, 602 (Bankr. E.D. Tex. 1999) (chapter 11 debtor’s proposed cure over six months was deemed prompt because approximately forty-two months remained under applicable lease terms); In re Gold Standard at Penn, Inc., 75 B.R. 669, 673 (Bankr. E.D. Pa. 1987) (chapter 11 debtor’s proposal to cure over five–year period was not prompt because only six years remained under the initial term of the lease). Because there is no clear test, debtors and landlords will continue to have grounds to dispute how long a landlord must wait to receive cure payments for an assumed lease.