DRI- The Voice of the Defense Bar

The ability of secured creditors to credit bid in sales conducted under bankruptcy plans of reorganization is an important right that protects them against low bids from rival purchasers. A secured creditor is typically permitted to offset, or bid, its secured allowed claim against the purchase price in a sale of collateral conducted under section 363(b) of the United States Bankruptcy Code.

That right had been clouded by recent decisions from the Third and Fifth Circuit affirming bankruptcy plans of reorganization that eliminated the secured creditors' rights to credit bid. The United States Supreme Court, however, recently resolved the split of authority among the United States courts of appeals and affirmed secured creditors' rights to credit bid. RadLAX Gateway Hotel, LLC v. Amalgamated Bank, 132 S. Ct. 2065 (2012).

A Chapter 11 plan of reorganization may include among its provision the "sale of all or any part of the property of the estate, either subject to or free of any lien[.]" 11 U.S.C. § 1123(a)(5)(D). Section 1123, however, does not specify the procedures for the sale of assets that secure debts of the estate. Courts, therefore, look to § 1129(b), which provides the procedures for such a sale. Under that section, a court may confirm a reorganization plan, even over the objections of secured lenders, as long as the plan is "fair and equitable."

Section 1129(b)(2)(A) sets forth three alternative circumstances that make a plan "fair and equitable." First, if the assets are sold subject to existing liens; second, if secured creditors are permitted to credit bid at auction; and third, if secured creditors are given the "indubitable equivalent" of their secured claims.

  1. With respect to a class of secured claims, the plan provides--
  1. (I) that the holders of such claims retain the liens securing such claims, whether the property subject to such liens is retained by the debtor or transferred to another entity, to the extent of the allowed amount of such claims; and (II) that each holder of a claim of such class receive on account of such claim deferred cash payments totaling at least the allowed amount of such claim, of a value, as of the effective date of the plan, of at least the value of such holder's interest in the estate's interest in such property;
  2. for the sale, subject to section 363(k) of this title, of any property that is subject to the liens securing such claims, free and clear of such liens, with such liens to attach to the proceeds of such sale, and the treatment of such liens on proceeds under clause (i) or (iii) of this subparagraph; or
  3. for the realization by such holders of the indubitable equivalent of such claims.

11 U.S.C. § 1129(b)(2)(A).

Section 1129(b)(2)(A)(ii), by incorporating § 363(k), gives secured creditors the right to credit bid in a plan confirmed under that subsection. Section 363(k) provides:

At a sale under subsection (b) of this section of property that is subject to a lien that secures an allowed claim, unless the court for cause orders otherwise the holder of such claim may bid at such sale, and, if the holder of such claim purchases such property, such holder may offset such claim against the purchase price of such property.

11 U.S.C. § 363(k).

Despite the incorporation of § 363(k) into one subsection of § 1129, the Third Circuit held that a bankruptcy court may confirm a Chapter 11 plan that includes a sale of assets in which secured creditors are not permitted to "credit bid" for the assets. In re Philadelphia Newspapers, LLC, 599 F.3d 298 (3d Cir. 2010).

In that case, the debtors in possession, companies that own and operate the Philadelphia Inquirer and Philadelphia Daily News, moved the bankruptcy court to approve bid procedures for an auction of the debtors' assets. Id. at 302. In that motion, the debtors asked the bankruptcy court to preclude the secured creditors from bidding their debt in lieu of cash. Id. The bankruptcy court denied the debtors' request to preclude credit bidding, but the district court reversed, holding that 11 U.S.C. § 1129(b)(2)(A)(iii) permits auction procedures that preclude credit bidding. Id. at 302–03. On appeal, the Third Circuit affirmed the district court's holding.

The court held that § 1129(b)(2)(A)(iii) does not incorporate § 363(k) or otherwise give secured creditors the right to credit bid. Instead, subsection (iii) requires that the secured creditors realize the "indubitable equivalent" of their security interests. The Third Circuit reasoned that because subsections (i), (ii), and (iii) are phrased in the disjunctive—"or"—Congress contemplated that Chapter 11 plans may include sales that do not give secured creditors the right to credit bid. In re Philadelphia Newspapers, LLC, 599 F.3d at 305.

In so holding, the court rejected the secured creditors' argument that the more generally phrased requirements of subsection (iii) necessarily include the more specific requirements of subsection (ii). Id. at 308. "Congress' inclusion of the indubitable equivalence prong intentionally left open the potential for yet other methods of conducting asset sales, so long as those methods sufficiently protected the secured creditor's interests." Id.

The Third Circuit joined the Fifth Circuit, which last year confirmed a sale of assets at a private auction by determining that the cash payout to the note holders provided the "indubitable equivalent" of their security interests in the assets. In re Pacific Lumber Co., 584 F.3d 229 (5th Cir. 2009). That sale, like the proposed sale in In re Philadelphia Newspapers, LLC barred secured lenders from credit bidding.

The Seventh Circuit disagreed with the conclusions reached by the Third and Fifth Circuits, and the Supreme Court ultimately agreed with the Seventh Circuit. RadLAX, 132 S. Ct. at 2070. In that case, the debtors (owners of various hotel properties) proposed a plan of reorganization that included auctioning certain properties encumbered by security interests. The lenders holding security interests in the properties to be auctioned objected to the plan of reorganization because the proposed plan did not allow them to credit bid.

The Supreme Court held that whenever assets are to be sold free and clear of liens, secured creditors must be given the opportunity to credit bid. The Court relied upon the canon of statutory construction that "the specific governs the general." Id. The Court noted that "clause (ii) [of 11 U.S.C. § 1129(b)(2)(A)] is a detailed provision that spells out the requirements for selling collateral free of liens, while clause (iii) is a broadly worded provision that says nothing about such a sale." Id. at 2071.

The Court then reasoned that the canon of construction "explains that the 'general language of clause (iii), 'although broad enough to include it, will not be held to apply to a matter specifically dealt with' in clause (ii)." Id. at 2071–72 (quoting D. Ginsburg & Sons, Inc. v. Popkin, 285 U.S. 204, 208 (1932)).