In In re Intervention Energy Holdings, LLC, the question before the United States Bankruptcy Court for the District of Delaware was whether an investor who “bought and paid for [one] Common Unit (including all rights related thereto),” could receive the full benefit of its bargain and enforce the unanimous shareholder requirement to authorize a bankruptcy filing. This type of arrangement is known as a “golden share,” and as the court pointed out in a footnote, it has been outlawed in the European Union. While not wholly abrogated in this case, the court makes clear that while gold might be worth its weight, a golden share may only get its holder as far as its fiduciary duties will take it.
This post follows on the heels of our April 27, 2016 post “Bankruptcy Court Rejects Use of Blocking Director to Prevent Bankruptcy Filing” which covered the United States Bankruptcy Court for the Northern District of Illinois’ opinion in In re Lake Michigan Beach Pottawattamine Resort LLC, which held that a “blocking director” provision was void as a matter of both state and federal bankruptcy law due to the absence of member fiduciary obligations to the organization. Taken together, these cases strengthen the doctrine that an entity cannot contract away its right to file for bankruptcy—either directly or indirectly through another means, such as a blocking director or a golden share.
In Intervention Energy the debtors (one a wholly owned subsidiary of the other), both facing an event of default notification from their investor, entered into a forbearance agreement with that investor whereby the investor agreed to waive all defaults if the debtors raised $30 million in equity capital to pay down a portion of the investor’s outstanding secured notes by a date certain. The effectiveness of this agreement, however, was conditioned on (i) admitting the investor as a member of the parent debtor with one common unit therein, and (ii) amending that parent debtor’s limited liability company agreement to require the approval of each holder of common units prior to any voluntary bankruptcy filing. The parent debtor thus amended its limited liability company agreement to include the unanimous consent requirement to file for bankruptcy and issued a single common unit to the investor in exchange for a $1.00 capital contribution, thereby making the investor a common member of the parent debtor. With the deadline to raise the $30 million looming, the debtors filed for chapter 11 bankruptcy protection, with the consent of the shareholders representing 22,000,000 of the parent debtor’s 22,000,001 shares (i.e. all but the investor’s one golden share).
The question of authority to file for bankruptcy protection is one of agency. It would be inapposite for the law to allow someone to place an organization into voluntary bankruptcy proceedings without evidence showing that person’s authority to do so. The validity of such authority is matter of the law of the state in which the entity was formed. In Intervention Energy the investor argued that Delaware state law permitted an LLC to abrogate its members’ fiduciary responsibilities to the extent permitted by Delaware law and to then contract away its right to file for bankruptcy at will. Deciding the case on the grounds of federal public policy, however, the court declined “to accept the parties’ invitation to decide what may well be a question of first impression of state law (i.e. determining the scope of LLC members’ freedom to contract under applicable state law provisions) . . . .”
Openly disagreeing with the Bankruptcy Appellate Panel of the Tenth Circuit’s unpublished opinion in In re DB Capital Holdings, LLC v. Aspen HH Ventures, LLC, the court found that the intent to “eviscerate the right of [an] entity to seek federal bankruptcy relief” was enough to make the provision at issue in this case void as contrary to federal public policy when coupled with the fact that “the nature and substance of [the investor’s] primary relationship with the debtor [was] that of creditor—not equity holder—and [was without] duty to anyone but itself in connection with [the] LLC’s decision to seek federal bankruptcy relief . . . .” The court stated that “to characterize the Consent Provision here as anything but an absolute waiver by the LLC of its right to seek federal bankruptcy relief would directly contradict the unequivocal intention of [the investor] to reserve for itself the decision of whether the LLC should seek federal bankruptcy relief.”
It is unclear based on this holding whether a fiduciary duty savings clause, as suggested in In re Lake Michigan Beach, would have saved this, or would save a future, golden share. What is clear is that these two decisions limit the ability of a creditor to prevent a company from filing for bankruptcy as a condition to the creditor’s extending credit or forbearing from exercising remedies. While this may look like a win in the short term for companies in distress, it arguably could cause distressed companies more problems if it discourages creditors from extending needed lifelines to those companies.
Christina Brown is an Associate at Weil Gotshal & Manges, LLP in New York.