A nightmare scenario for a lender: you lend $1.2 million to a debtor to purchase equipment; you take a first priority security interest in the equipment; one day another company calls to tell you it purchased the equipment at a bankruptcy auction you never knew about, for 10-20% of what you’re owed; you try to overturn the sale, but cannot, because the sale is consummated and your appeal is now “statutorily moot.”  Could this happen?  It happened in a recent Oregon case.

In In re Pacific Cargo Services, LLC, 2014 WL 2041821 (D. Ore. May 9, 2014), the debtor conducted a public auction for its assets under Bankruptcy Code § 363.  Among the assets it sold were 11 specialized industrial trucks, which were General Electric’s collateral, and against which General Electric had loaned $1.2  million.  They were purchased at the auction for $180,000.  General Electric claimed that it first learned about the auction more than a week later, when the purchaser called to obtain titles thereto. 

In connection with the sale, debtor had filed a series of court documents and served them on all creditors: a sale procedures motion, a notice of intent to auction, and a sale motion.  These had gone to GE’s local counsel and attorney of record, to GE’s registered agent, and to the address listed in GE’s proof of claim.  GE’s local counsel did not review them because he was forbidden by GE’s billing policies from reviewing certain types of documents.  The motions mailed to GE itself apparently never made it into the hands of the appropriate person at GE who would know what to do with them.

GE moved in bankruptcy court to vacate the sale order, on the grounds that the sale price of the trucks was unacceptably low and GE was unaware of the auction.  GE’s motion to vacate was unsuccessful.  It then appealed to the district court.  The debtor and the purchaser of the trucks moved to dismiss the appeal as moot under Bankruptcy Code § 363(m).  They succeeded -- the district court dismissed GE’s appeal.

A sale under Bankruptcy Code § 363 is protected from reversal on appeal -- in other words, the appeal is “statutorily moot” -- if the sale was made in good faith and was not stayed pending appeal.  See Bankruptcy Code § 363(m).  But there are exceptions: a sale is not statutorily moot if it was conducted in bad faith, or if the objecting party did not receive sufficient notice.

The bankruptcy court and the district court each held that those exceptions did not apply to GE.  Although GE’s collateral was sold for a fraction of what GE was owed, “a public auction, conducted in accordance with court-approved procedures and without fraud or collusion, is compelling evidence of value.”  Id.at *6.  GE did not allege any fraud or collusion.  A low purchase price, standing alone, does not compel a finding of bad faith.

GE also claimed notice was insufficient because it learned of the auction only after it was over.  The bankruptcy court and the district court each held that the debtor properly followed the Bankruptcy Rules regarding notice and service.  It was not the debtor’s fault that GE forbade local counsel from reviewing certain notices, or that the appropriate person at GE did not receive the notices mailed directly to GE.

Pacific Cargo is a reminder that lenders -- especially large, complex institutions -- should adopt notice practices and procedures that ensure that notices are received by an employee within the company who will recognize their meaning.  Where local counsel is used, and is the attorney of record, local counsel should be authorized to review all filings in the case so that he or she can protect the creditor’s rights. 

Pacific Cargo is available here: Download In_re_Pacific_Cargo_Services_LLC.