Restructuring

Contributed by Katherine Doorley
As we recently discussed, cramdown of a plan of reorganization on an objecting secured creditor often hinges on whether the recovery for the creditor, including the proposed interest rate, meets the “fair and equitable” requirement of the Bankruptcy Code.  In another recent case, In re SCC Kyle Partners, the United States Bankruptcy Court for the Western District of Texas was faced with the question of whether, and at what interest rate, a debtor could “cram down” a plan of reorganization on a highly oversecured creditor. Ultimately the court determined that the debtor’s plan could be confirmed, although at an interest rate higher than the one sought by the debtor.
The debtor, SCC Kyle Partners owns a commercial real estate development consisting largely of undeveloped land.  Before bankruptcy, the debtor entered into a loan agreement with Whitney Bank to fund purchase of the property and construction. When the commercial real estate market collapsed, Whitney stopped advancing funds and refused to make the construction loan.  Whitney’s failure to fund the construction loan turned the debtor into a land seller, as opposed to a developer, and when the loan matured the debtor was unable to repay it, leading to the filing of the chapter 11 case.
Prior to filing, the debtor had been successful in selling land, and was able to reduce its debt by approximately fifty percent. After filing for bankruptcy, the debtor continued selling land with court approval.
The debtor filed a plan of reorganization, proposing to retain the property, allow Whitney to retain its lien on the land, and give it a new note for the outstanding debt at a 4% interest rate.  Whitney voted against the plan and objected to confirmation, arguing that the 4% interest rate did not satisfy the requirements of the Bankruptcy Code and should be increased to 8%.  At the confirmation hearing, the court heard testimony from real estate appraisers for both parties. Although the appraisers’ low-end values differed by almost $3 million, both appraisers agreed that Whitney was oversecured, and the court found that Whitney was oversecured by almost $14 million.
Because Whitney did not vote to accept the plan, the debtor was required to “cram down” Whitney under section 1129(b) of the Bankruptcy Code.  Section 1129(b) provides that to “cram down” a rejecting secured creditor, the plan of reorganization must be “fair and equitable” to the secured creditor. The debtor argued that the plan satisfied this requirement because Whitney would retain its lien and would receive deferred cash payments at least equal to the allowed amount of its claim.
Whitney argued first that the plan did not provide for retention of its lien because a portion of the proceeds from future sales of land would be placed into a reserve account, while requiring Whitney to release its liens in the real estate to facilitate the sale.  The court noted, however, that Whitney would have a lien on the reserve account and further, that the funds in the account would be used for the direct and indirect benefit of Whitney, and therefore, Whitney was retaining its liens.  Additionally, the court noted that section 1129(b)(2)(A)(i)(1) provides that a secured creditor must retain its liens only to the extent of the allowed amount of the claim.  The court pointed out that while Whitney had a secured claim of $13.8 million, the property was worth approximately $25 million.
Cramdown under section 1129(b)(2)(A)(i) further requires that a secured creditor receive deferred payments having a present value of the full amount of the creditor’s secured claim.  The court noted that the United States Court of Appeals for the Fifth Circuit in Wells Fargo Bank N.A. v. Texas Grand Prairie Hotel Realty, LLC (In re Texas Grand Prairie Hotel Realty, LLC) held that “present value” mean that the “deferred payments, discounted to present value by applying an appropriate interest rate (the ‘cramdown rate’), must equal the allowed amount of the secured creditor’s claim.”  710 F.3d 324, 330 (5th Cir. 2013).  Because deferred payments must be discounted to present value, the interest rate on the new note must be at least equal to the discount rate.
The seminal case on cramdown interest rates is the Supreme Court’s decision in Till v. SCS Credit Corp..  Under Till, a plurality of the Supreme Court applied a prime-plus formula to determine cramdown interest rates in a case under chapter 13, beginning with the national prime rate of interest and adjusting upward for risk.  In its Texas Grand decision, the Fifth Circuit held that Till was not controlling precedent in a chapter 11 case, although it did note that the Till approach had been followed in many chapter 11 bankruptcies.  The bankruptcy court decided to apply the Till formula in this instance, stating that the Fifth Circuit had routinely afforded bankruptcy courts discretion in determining cramdown interest.
The court first determined that its starting point would be the national prime rate of 3.25%, based on the Fifth Circuit’s decision in Texas Grand, which affirmed use of the prime rate as the base.  The court then examined the risk factors present under the debtor’s plan of reorganization, of which there were many.  Among the factors considered in Till were: (i) the circumstances of the bankruptcy estates; (ii) the nature of the security; and (iii) the duration and feasibility of the reorganization plan. Till, 541 U.S. at 479.  The court found that, while the circumstances of the debtor’s estate had greatly improved over the course of the chapter 11 case, the debtor still had no regular source of income, which resulted in risk for Whitney.  The court found that the plan feasibility was very tight, but achievable, although the debtor did not have any pending sales.  Additionally, the plan contained other features that created risk for Whitney, including the lack of a deadline by which the debtor had to sell the remainder of the land and a restriction on sales of property unless the gross sales price was at least 85% of the appraised value of the land.  
The court determined that the proper cramdown interest rate was 7%, consisting of the prime rate of 3.25% plus and upward adjustment of an additional 3.75% for risk.  The court held that with a 7% interest rate the cramdown standard was satisfied and the court confirmed the plan.