The determination of what constitutes an efficient market rate will require intensive fact gathering and analysis that must occur during the plan process.
In re MPM Silicones, L.L.C. is an important ruling for secured creditors because it weakens chapter 11 debtors’ cramdown strength in the Second Circuit. Specifically, under MPM, if a secured creditor in the Second Circuit demonstrates that an “efficient market rate” exists, then the bankruptcy court must apply that market rate to the debtor’s plan over the (most likely lower) “formula approach” rate set forth in the Supreme Court’s Till v. SCS Credit Corp.
Facts and Procedural History
In April 2014, Momentive Performance Materials and its affiliates (the “debtors”), one of the world’s largest manufacturers of silicone products, submitted a plan of reorganization (the “Plan”). Under the Plan, the Debtors proposed two alternative options of treatment for holders of first-lien and “1.5-lien” notes (the “notes,” and the holders of the notes, the “noteholders”). The noteholders could either (1) accept the plan, be immediately paid in cash on the outstanding principal due under the loans, but were required to waive any right to over $200 million in make-whole premiums potentially owed under the notes; or (2) reject the plan, receive replacement notes with a present value equal to the allowed amount of such holder’s claim at a 4 percent interest rate, and preserve their right to object.
The noteholders voted to reject the Plan as the noteholders believed, among other things, that the 4 percent interest rates for the replacement notes were well below market rate as compared to other exit financing rates quoted to the debtors during the plan process.
The U.S. Bankruptcy Court for the Southern District of New York confirmed the cramdown Plan, holding that the Plan was “fair and equitable” under 11 U.S.C. § 1129(b)(1). On appeal, the U.S. District Court for the Southern District of New York affirmed the Bankruptcy Court’s decision, dismissing the noteholders’ arguments in favor of the application of an “efficient market” approach that would apply an interest rate that lenders in the market would charge the debtor on a similar new loan.
The Second Circuit’s Holding
The Second Circuit initially reviewed the lower court’s decision to uphold the lower-than-market rates, calculated under the “formula method” advanced under the Supreme Court’s decision in Till. The calculation under the formula method begins with a prime interest rate and adjusting the same to account for credit and collateral risks associated with the facts of the case.
Unlike MPM, Till was a chapter 13 case and the Till court calculated interest rates under the cramdown provision applicable to individual bankruptcies. In Till’s frequently cited footnote 14, the Supreme Court acknowledged the possibility that the interest rates in chapter 11 cramdowns could be calculated differently, stating that in the context of chapter 11 plans, numerous lenders offer sources of financing, a factor not present in cases under chapter 13.
Analyzing Till’s footnote 14, the MPM court found that, although Till had “intimated that the ‘formula’ method might be applicable to rate calculations” in other Bankruptcy Code provisions, it had not provided a “conclusive statement” regarding the application of the “formula” rate in chapter 11 cases. Thus, the Second Circuit rejected the application of the formula method; instead, it looked outside of its jurisdiction for an alternative method of calculation, finding one articulated by the Sixth Circuit Court of Appeals:
[T]he market rate should be applied in Chapter 11 cases where there exists an efficient market. But where no efficient market exists for a Chapter 11 debtor, then the bankruptcy court should employ the formula approach endorsed by the Till plurality. 
The Second Circuit found this two-step analysis to “best align … with the [Bankruptcy] Code and relevant precedent,” including precedent dictating that “the best way to determine value is exposure to a market.”
The Second Circuit provided that such an efficient market may exist in this case considering factors such as the availability of financing facilities with comparable terms, principal amounts and the collateral securing the debt to the forced replacement notes. However, because the case was remanded, the lower court will be the one to determine if the MPM secured creditors can demonstrate that an efficient market exists.
Commentary and Takeaways
Secured creditors in the Second Circuit facing a chapter 11 cramdown plan can now insist that an efficient market must be taken into consideration when contemplating cramdown interest rates. This changes the leverage positions of secured creditors and debtors at the negotiating table, and has the potential result in real interest rate changes in future chapter 11 plans.
However, secured creditors beware—the determination of what constitutes an efficient market rate will require intensive fact gathering and analysis that must occur during the plan process. While this exercise may well lead to a higher interest rate, it will likely be a time consuming and expensive endeavor and there is no guarantee that a court will find that an efficient market exists.
Finally, because of MPM, debtors may start forum shopping and filing outside of the Second and Sixth Circuits to the extent they can. Eventually, this practice and the split between the circuits may result in Till being revisited altogether in the chapter 11 context.