On March 22, 2010, a three judge panel of the United States Court of Appeals for the Third Circuit issued a highly anticipated decision in the matter of In re Philadelphia Newspapers LLC, 2010 WL 1006647, (3rd Cir. Case No. 09-4266, 09-4349, March 22, 2010), affirming, in a 2-1 ruling, a decision of the United States District Court which held that the debtor would be permitted to conduct a sale of its assets through a proposed plan of reorganization without affording the secured lenders the opportunity to use any portion of their indebtedness as the basis of a credit bid at the time of the sale.

The decision affirms the District Court's reversal of the Bankruptcy Court's decision in which the Bankruptcy Court had refused to enter an order allowing the Debtor's proposed bidding procedures because they did not afford the secured creditors the right to credit bid.


Philadelphia Newspapers LLC, the publisher of the Philadelphia Inquirer and Philadelphia Daily News, commenced a Chapter 11 reorganization in February 2009. The Debtor owed approximately $300 million to a group of senior secured lenders. In a plan of reorganization filed in August 2009, the Debtors proposed a plan which would at the time of confirmation result in a sale of substantially all of its assets to a proposed stalking horse bidder for total consideration of $41 million, of which the Debtor estimates $36 million would be paid to the senior secured creditors.

The Bankruptcy Code contains a provision, Section 363(k), which preserves the rights of secured creditors to credit bid in any sale of assets pursuant to that section. Assets may also be sold by a debtor in the context of a plan of reorganization. In confirming a plan of reorganization which secured creditors have not voted in favor of, a bankruptcy court must find that the plan is fair and equitable in general and that it meets the specific statutory standards of Section 1129(b)(2) with respect to each non accepting class. Section 1129(b)(2) provides that any plan must provide for one of three possible alternative treatments of a secured claim; (i) that the secured creditor retain its lien in the collateral and receive deferred cash payments with a present value equal to the value of its lien; (ii) for the sale, "subject to section 363(k)", of property with the liens to attach to the sale proceeds; or (iii) for the realization of the "indubitable equivalent" of such claims.

The majority opinion of the Third Circuit, following in part a recent Fifth Circuit opinion, In re Pacific Lumber Co., 584 F.3d 229 (5th Cir. 2009), holds that despite the specific retention of credit bid rights for secured creditors in the context of a sale of assets through a plan set forth in § 1129(b)(2)(A)(ii), the test established by § 1129(b)(2)(A) is plainly disjunctive and that by meeting the "indubitable equivalent" standard of § 1129(b)(2)(A)(iii), a debtor may still satisfy the statutory standard of fairness.

The majority goes on to hold that by selling the assets at auction, even without credit bid rights preserved, the debtor is vesting the secured creditors with the indubitable equivalent of their claims by insuring that they will receive a cash payment equivalent to current value of their lien rights.

Reversal of Established Rights

The decision is important because, as the dissent notes, it reverses a long held belief that the specific preservation of credit bid rights within Section 1129(b)(2)(A)(ii) prohibited a debtor from evading a secured creditor's credit bid rights in the context of a sale pursuant to Section 363, by choosing to conduct the sale though a plan of reorganization.

The "indubitable equivalent" standard has been more commonly used to address those situations in which debtors have attempted to substitute collateral of equivalent value or surrender collateral to the secured creditor. The Third Circuit decision also appears to be inconsistent with the Bankruptcy Code's preservation of secured creditors' rights to exercise the election to retain their lien in the full amount of their claim. This right is codified by Section 1111(b) which affords secured creditors holding non recourse claims the right to elect to maintain their lien in the full amount of their claim unless the collateral is being sold pursuant to Section 363, which allows credit bidding under Section 363(k), or is being sold under a plan.

Further Action

The Third Circuit ruling may be the subject of further appellate review by either the entire panel of the Third Circuit judges acting en banc, or by further appeal to the United States Supreme Court. As the dissent notes, the ruling as it stands leaves the specific preservation of credit bid rights for secured creditors in §1129(b)(2)(A)(ii) both hollow and superfluous if debtors will be allowed to evade those rights by arguing that a cash payout at auction satisfies the indubitable equivalence standard in §1129(b)(2)(A)(iii).

The Third Circuit ruling even as it stands may also not be the end of the question in the matter of Philadelphia Newspapers LLC as the bankruptcy court, which originally rejected this attempt by the debtors, may also conclude that the plan does not meet the more general test of Section 1129(b)(1) that it not discriminate unfairly and that it be fair and equitable as a whole.

Practical Impact and Tools for Secured Creditors

Secured creditors must be mindful of this potential tool of debtors in attempting the sale of property through a plan of reorganization. While the number of borrowers who will be able to potentially use this tool is limited, its effects are substantial and unwelcome. Identifying situations where it may have applicability in advance will assist secured creditors in successfully negotiating the resolution of these issues before they arise and preventing their occurrence. In the first instance, debtors can only get to this stage if they otherwise have additional sufficient debt to create an accepting class of claimholders. In evaluating balance sheets and the debt structure of borrowers it makes sense to identify those situations where plan confirmation over the objection of the senior secured debt, so called "cram down," is a possibility.

As a more practical matter, it is important to note that the absence of credit bid rights does not prevent a secured creditor from otherwise bidding for assets on a cash basis, with those proceeds to be remitted back to the secured creditor as the valid lien holder. While secured debt which is held by a variety of interest holders may make that option, and risk, impractical, collateral agents may want to consider provisions which afford them the right to make such bids of behalf of the lending group. Additionally, in evaluating proposed bidding procedures, secured creditors may also want to focus on early action to establish the validity, priority and extent of their lien for bidding purposes, the deposit of sale proceeds with third party escrow agents and procedures which direct the timely distribution of those proceeds in accordance with an agreed upon schedule. These efforts, while less attractive and advantageous than credit bid rights, may afford lenders greater opportunities to control the disposition of collateral and lessen the risk the denial of credit bid rights in the plan context may otherwise present.