Introduction: Earlier this year, the Third Circuit Court of Appeals' decision in In re Philadelphia Newspapers, LLC[1] sent shockwaves through the secured lending community. In a 2-1 decision, the court held that a debtor can confirm a plan of reorganization while denying the secured creditor the opportunity to credit bid for its collateral if the plan provides the lender with the "indubitable equivalent" of its claim. That amorphous phrase has been interpreted to include a cash payoff equal to the value of the collateral upon the effective date of a reorganization plan.

But in a more recent case, In re River Road Hotel Partners LLC[2], a Chicago bankruptcy judge declined to follow the holding of the majority in Philadelphia Newspapers and rejected several challenges to the right of the lender to credit bid in that situation. This new holding demonstrates that battles over whether a secured creditor may credit bid can be expected to continue in contested chapter 11 cases for the foreseeable future.

What happened: The debtors, owners of the InterContinental Chicago O'Hare Hotel, sought court approval of bidding procedures to govern a proposed sale of substantially all of their assets to a third-party stalking horse bidder which, post-sale, planned to retain the debtors' management to operate the project. Relying heavily on the Philadelphia Newspapers decision, the debtors sought to preclude their secured creditors, who are owed over $160 million, from credit bidding at the proposed sale. In a terse order, the Chicago bankruptcy judge denied the debtors' motion, finding the "well-reasoned dissent" in Philadelphia Newspapers to be more persuasive than the majority's holding in that case. The dissent in Philadelphia Newspapers warned that the denial of credit bidding rights espoused by the majority was not supported by the text of the Bankruptcy Code; upsets three decades of secured creditors' expectations; and would increase the cost of credit.

The debtors in River Road further argued that the secured lenders should be barred from credit bidding because: "(1) the Lenders' actions caused the Debtors to fail; (2) allowing the Lenders to credit bid will chill the bidding process; and (3) there are still millions of dollars in mechanics' liens that are being litigated in state court." The bankruptcy court summarily rejected each of these arguments, finding: (1) there was no evidence to support the argument that the lenders breached their contracts or acted with intent to harm the debtors; (2) that the debtors provided no specific evidence to show that credit bidding would deter others from bidding in this case; and (3) that the court could fashion a remedy to address the dispute regarding the priority of competing liens against the debtors' assets by placing conditions on credit bidding (such as furnishing a letter of credit to cover disputed liens) rather than completely denying credit bidding rights.

What it means: Although the Philadelphia Newspapers case remains controlling law in the Third Circuit, River Road Hotel Partners, LLC indicates that significant doubts remain regarding the propriety of precluding credit bidding under the Third Circuit's reasoning. Debtors can nevertheless be expected to continue to look for ways to challenge the right of secured lenders to credit bid.