It is commonly known that a borrower's agreement with a third party not to file a bankruptcy case is unenforceable due to public policy considerations. Accordingly, lenders have searched for ways to make it difficult or painful for their borrowers to file for bankruptcy, such as imposing the requirement that prior authorization of an independent director or member be a prerequisite to a bankruptcy filing by the borrower, or requiring the borrower's principal to execute a non-recourse carve-out guaranty that would impose personal liability should the borrower file for bankruptcy. But the General Growth and Extended Stay Hotels bankruptcy cases demonstrated that such lender strategies can be circumvented.
Lenders will no doubt be pleased that a Tenth Circuit Bankruptcy Appellate Panel recently affirmed the dismissal of a chapter 11 bankruptcy case because the borrower's operating agreement expressly barred it from filing a bankruptcy petition.1 The debtor was a manager-operated Colorado limited liability company created to develop a luxury condominium project in Aspen. The bankruptcy court held, and the appellate panel agreed, that the members of a limited liability company may agree amongst themselves not to file for bankruptcy. The appellate court left open the possibility that such a provision would be unenforceable if it were adopted due to coercion by a creditor.
Whether courts in other jurisdictions will follow this holding is unclear. Given this ruling, lenders can be expected to encourage prospective borrowers to adopt such provisions in their organizational documents. Looking ahead, troubled borrowers who have adopted such provisions will likely investigate whether they may erase or otherwise vitiate such clauses. We will keep you posted on developments in this area.