A divided panel of the Third Circuit Court of Appeals affirmed the district court's ruling in In re: Philadelphia Newspapers, et. al. (3d. Cir., Case No. 09-4266) and held that secured creditors do not have a statutory right to credit bid their debt at a sale conducted under a plan of reorganization pursuant to which the debtor elects to provide the secured creditors with the "indubitable equivalent" of their secured claim. The decision, in effect, permits a debtor to avoid a secured creditor's right to credit bid by structuring a sale under a chapter 11 plan instead of conducting a sale under section 363 of the Bankruptcy Code. Circuit Judge Thomas Ambro, a former bankruptcy practitioner, filed a forceful dissent.


The Debtors in the case own the Philadelphia Inquirer, the Philadelphia Daily News and the online news site www.philly.com. The assets were acquired by the Debtors in July 2006 for $515 million, of which $295 million was financed through a loan from a consortium of lenders (the "Lenders"). The loan provided by the Lenders is secured by first priority liens on substantially all of the Debtors' assets.

The Bankruptcy Case

The Debtors filed chapter 11 bankruptcy petitions on February 22, 2009, with the United States Bankruptcy Court for the Eastern District of Pennsylvania (the "Bankruptcy Court"). On August 20, 2009, the Debtors filed a joint Chapter 11 Plan of Reorganization (the "Plan") which, among other things, provided that the Debtors would finance the Plan through an auction sale (the "Auction") of substantially all of their assets, free and clear of all liens, claims and encumbrances. The Debtors identified Philly Papers LLC, an entity formed and controlled by the Debtors' current management and other insiders, as the stalking-horse bidder for the Auction. Under the proposed stalking-horse transaction, the Lenders would receive approximately $37 million in cash and the Debtors' Philadelphia headquarters, valued at $29.5 million, subject to a two-year, rent-free lease to the entity operating the newspapers.

On April 28, 2009, the Debtors filed a motion to approve bid procedures (the "Bid Procedures") requiring that any bid at the Auction be made in cash, thereby precluding the Lenders from "credit bidding" (i.e., submitting a bid using their secured debt as currency in lieu of cash). Following objections to the Bid Procedures, the Bankruptcy Court ruled that the Lenders were entitled to credit bid their debt under the Bankruptcy Code. The Debtor appealed the Bankruptcy Court's ruling to the United States District Court for the Eastern District of Pennsylvania (the "District Court"). The District Court reversed and held that the Bankruptcy Code does not require that secured creditors be permitted to credit bid at an auction sale pursuant to a reorganization plan, so long as the debtor in its plan proposes to provide the secured creditors with the "indubitable equivalent" of their claims. The Lenders (and other parties in interest) appealed the District Court's order to the United States Court of Appeals for the Third Circuit (the "Court" or "Third Circuit").

The Third Circuit

The Third Circuit affirmed the District Court's order. The Third Circuit agreed that a secured creditor does not have a statutory right to credit bid when its collateral is sold pursuant to a plan of reorganization if the debtor is providing the secured creditor with the "indubitable equivalent" of its claim. Section 1123 of the Bankruptcy Code sets forth the contents of a plan and provides, among other things, for the implementation of a plan through the sale of estate assets. 11 U.S.C. §1123(a)(5)(D). Although §1123 allows for the sale of assets in the context of a plan, it does not contain specific procedures for such sales. As such, the Court focused on §1129 of the Bankruptcy Code, which sets forth the requirements for confirmation of a plan, and specifically focused on §1129(b)(2)(A), which provides the standards for confirmation of a plan over the objection of secured creditors.

Under §1129(b)(2)(A), a plan can be confirmed over the objection of secured creditors if the plan is "fair and equitable" and satisfies one of the following:

(i) the secured creditor (a) retains its lien to the extent of the amount of its secured claim, and

(b) receives deferred cash payments equal to the present value of such claim;

(ii) provides for the sale of collateral subject to a lender's lien free and clear of such lien, if (a) the lender has the opportunity to credit bid, and (b) if the lien attaches to the proceeds of the collateral; or

(iii) the secured creditor receives the "indubitable equivalent" of its claim.

Purporting to employ a "plain reading" of the language of this provision, the Court held that a sale pursuant to a plan does not have to comply with subsection (ii) of §1129(b)(2)(A) if the sale otherwise provides the secured creditors with the "indubitable equivalent" of their claim under subsection (iii) of §1129(b)(2)(A). As such, the Court found that subsection (ii) does not establish a statutory right for secured lenders to credit bid at a sale of their collateral that is conducted pursuant to a plan of reorganization, because the sale may be conducted solely under subsection (iii), which does not contain a credit bidding requirement.

The Court's ruling focused on what it referred to as the "clear" and "unambiguous" language of §1129(b)(2)(A). To begin, the Court found that since §1129(b)(2)(A) is written in the disjunctive as evidenced by the word "or," it clearly requires that a debtor must only satisfy one of the subsections to confirm a plan over the objection of its secured creditors. Furthermore, the plain language of the statute, according to the Court, does not require that any sales conducted pursuant to a plan comply with subsection (ii). To the contrary, the Court found that although subsection (ii) specifically addresses a sale pursuant to a plan, the inclusion of the "indubitable equivalent" option in subsection (iii) evidences an intention by Congress to permit other methods of asset sales, including sales that do not provide for credit bidding, as sufficient to satisfy the requirements of §1129(b)(2)(A). Finally, the Court rejected the argument that the phrase "indubitable equivalent" was ambiguous. Although not defined in the Bankruptcy Code, the Court found that the phrase means the "unquestionable value of a lender's secured interest in the collateral."

While canons of statutory interpretation typically require more specific provisions of a statute to govern the more general, the Court stated that this is only applicable where the more specific provision places a limit on the general provision. The Court did not find that to be the case with regards to §1129(b)(2)(A), and therefore the reference to "sales" in subsection (ii) did not preclude a sale from proceeding under subsection (iii). Instead, subsections (ii) and (iii) were alternatives. Although finding that the legislative history and a broader reading of the Bankruptcy Code supported its holding, the Court noted that such additional analysis was not necessary because the provision at issue was clear and unambiguous and, therefore, the analysis was properly limited to an examination of the language of the provision.

Importantly, the Third Circuit declared that its decision did not address whether the auction at issue would provide the Lenders with the "indubitable equivalent" of their secured claims. That issue was reserved for the confirmation hearing. The Court limited its holding to whether a secured creditor has a statutory right to credit bid at a sale held under and in conjunction with a plan when the debtor proceeds under the "indubitable equivalent" standard. Nothing in the Court's opinion prevents or precludes the Lenders from objecting to confirmation and arguing that the restriction on credit bidding resulted in a sale which did not did not result in the Lenders receiving the indubitable equivalent (value) of their secured claims. Presumably, the Lenders could offer evidence to the court of their intention to increase the bid over the amount offered by the cash bidder (and thus the value received for their secured claim) if they had been able to use their debt as currency at the auction.

In a lengthy dissent, Judge Ambro disagreed with the findings of the majority and stated that §1129(b)(2)(A) is, in fact, ambiguous since reasonable minds could differ as to its application with regards to sales free and clear of liens. The dissent thereafter performed its own statutory interpretation, examination of related statutory provisions, and review of legislative history, and stated that this analysis lead to the conclusion that any sales pursuant to a plan must be done in accordance with §1129(b)(2)(A)(ii). Judge Ambro further noted that "secured lenders have relied on their ability to credit bid in extending credit to debtors, reducing their costs and pricing in accordance with their bargains." Therefore, the practical ramification of the Court's decision was that, instead of relying on an ability to credit bid in a bankruptcy situation if necessary, secured creditors would now be forced to "adjust their pricing accordingly, potentially raising interest rates or reducing credit availability to account for the possibility of a sale without credit bidding."

Implications of the Third Circuit's Decision

Several points should be taken from the Court's decision in In re Philadelphia Newspapers. First, all legal observers should be mindful that the Court's decision is limited to whether there is a statutory right under the Bankruptcy Code for a secured creditor to credit bid at a sale pursuant to a plan when the debtor purports to provide the secured creditor with the "indubitable equivalent" of its secured claim. Although the Court found that there is no such statutory right to credit bid under §1129(b)(2)(A)(iii), the Court did not address whether the sale at issue could, in fact, provide secured creditors with the indubitable equivalent of their secured claims. The Court noted that this issue was reserved for confirmation, and the Lenders were not precluded from raising objections to the confirmation of the Plan on this basis. Further, the Court's decision is confined to sales pursuant to a plan. Section 363(k) of the Bankruptcy Code specifically provides secured creditors with the right to credit bid in sales done outside of the context of a plan of reorganization ("unless the court for cause orders otherwise"), and this right is not impacted by the Court's decision. However, somewhat troubling is the Court's observation that credit bidding, even under §363(k) of the Bankruptcy Code, may be disallowed "for cause" and that "for cause" does not necessarily mean some action on the part of the secured creditor that caused it to forfeit that right.

What next?

The attorney representing the Lenders has stated that his clients will ask the full United States Court of Appeals for the Third Circuit, with thirteen active judges, to review the ruling issued by a three-judge panel.

Considerations Moving Forward

In light of this ruling, secured lenders should take a number of measures to protect their interests:

  1. Require any DIP Financing Order or Cash Collateral Order to provide both the DIP lenders and the prepetition secured lenders with the affirmative right to credit bid their claims regardless of whether an auction sale is conducted pursuant to §363 or §1129(b)(2)(A) of the Bankruptcy Code.  
  2. Require any DIP Financing Order or Cash Collateral Order to contain a covenant that any sale of assets be held under §363 outside and prior to any plan of reorganization.  
  3. Make it an event of default under any DIP Financing Order or Cash Collateral Order if the Debtor attempts to conduct a sale under § 1129(b)(2)(A)(iii) without providing the secured lenders with a right to credit bid.  
  4. Consider adding the above provisions to the pre-petition loan agreement. Although they may not be enforceable against the debtor in a bankruptcy case, a court may consider the provisions in determining the intent of the parties.  
  5. In the appropriate situation where all proceeds of a sale will go the secured lenders, the secured lender could submit a cash bid rather than credit bid.  
  6. If a sale is conducted under § 1129(b)(2)(A)(iii), the secured lender may still object to confirmation of a plan on the basis that the sale did not provide it with the "indubitable equivalent" of its claim – i.e., any bid that falls short of what the secured creditor would credit bid does meet the indubitable equivalent standard.