In the well-publicized opinion of In re Philadelphia Newspapers, LLC et al., 599 F. 3d 298 (3rd Cir. 2010), the U.S. Court of Appeals for the Third Circuit, agreeing with the U.S. Court of Appeals for the Fifth Circuit,1 held that Section 1129(b)(2)(A) of the Bankruptcy Code (the Code)2 is unambiguous and is to be read in the disjunctive, thus allowing a proponent of a Chapter 11 plan of reorganization to use the "cram down" power under subsection (iii) of that Section without allowing a secured creditor to credit bid on a sale proposed as part of the plan. Subsection (iiii) requires that holders of secured debt realize the "indubitable equivalent" of their claims. The decisions of the Third and Fifth Circuits provoked widespread commentary and were viewed by many observers as departing from long-established principles of reorganization law.

More recently, however, in In re River Road Hotel Partners, LLC, Case No. 09 B 30029, the United States Bankruptcy Court for the Northern District of Illinois declined to follow the holdings of Pacific Lumber and Philadelphia Newspapers. In River Road, the debtors simultaneously filed a motion for an order: (a) approving procedures for the sale of substantially all of the debtors’ assets, (b) scheduling an auction, (c) approving assumption and assignment procedures, (d) approving a form of notice, and (e) granting related relief (the Sale Motion) and a joint Chapter 11 plan of reorganization (as amended, the Plan). Relying upon the holding of Philadelphia Newspapers, the Sale Motion asserted that the secured lenders (the Secured Lenders) were not entitled to credit bid, or, alternatively, that there was cause under Section 363(k) of the Code to deny the Secured Lenders the right to credit bid.

The stalking horse bid upon which the Sale Motion was predicated (the Stalking Horse Bid) was significantly less than the amount of the claims of the Secured Lenders that were secured by the property to be sold. In addition, some of the owners of the stalking horse bidder were insiders of the debtors and the Stalking Horse Bid required that the purchaser of the property use the current management company of the debtors, in which the insiders were also involved. Interestingly, the Sale Motion and the Plan (for which a disclosure statement had also been filed), provided that all closing costs, mechanics liens,3 administrative expense claims, priority claims, and the cure costs for the assumption of certain executory contracts and leases would be paid from the sale proceeds prior to the payment of the Secured Lenders. The Secured Lenders were to receive whatever proceeds were left, along with some profit sharing from the operations of the purchaser, which was projected to be a nominal amount.

No objection had been filed to the claims asserted by the Secured Lenders; nor had a motion to surcharge the Secured Lenders or an adversary proceeding to subordinate the claims of the Secured Lenders been filed. Rather, the Sale Motion merely alleged that (a) the Secured Lenders had improperly withheld funding of the project thereby causing the debtors’ financial crisis, (b) allowing the Secured Lenders to credit bid would chill the bidding, and (c) the Secured Lenders should not be allowed to credit bid because the priority of the mechanic liens was not resolved. These assertions appear to be the only purported justification for the proposed treatment of the claims of the Secured Lenders.

At a hearing on the Sale Motion, Bankruptcy Judge Bruce W. Black found that Circuit Judge Ambro’s well-reasoned dissent in Philadelphia Newspapers was far more persuasive than the majority opinion in that case. Judge Black, therefore, held that the debtors could not use subsection (iii) of Section 1129(b)(2)(A) to sell the assets free and clear of the liens of the Secured Lenders. Rather, the debtors had to comply with subsection (ii) of Section 1129(b)(2)(A), which grants to a lienholder the protection of credit bidding as provided in Section 363(k).

The bankruptcy court also held an evidentiary hearing on the debtors’ allegations that cause existed to prohibit the Secured Lenders from credit bidding under Section 363(k). The court denied the Sale Motion, finding that the debtors had no evidence to support that the Secured Lenders acted improperly or that allowing the Secured Lenders to credit bid would chill the bidding. The court also held that it could create a remedy to alleviate any issues relating to a subsequent determination that the mechanics liens have a higher priority than those of the Secured Lenders, such as having a cash escrow or letter of credit posted by the Secured Lenders.

The Stalking Horse Bid contained specific deadlines for when the Sale Motion had to be approved by the court and the timing of confirmation of the Plan. There is no indication in the record that these deadlines were waived. On November 2, 2010, the matter was certified for direct appeal to the U.S. Court of Appeals for the Seventh Circuit.

It will be interesting to see if the Seventh Circuit follows the decisions of the Third and Fifth Circuits. A decision upholding the bankruptcy court’s ruling would produce a split in the circuits that might result in the issue being presented to the U.S. Supreme Court.