The ability of a bankruptcy trustee or chapter 11 debtor-in-possession to sell assets of the bankruptcy estate "free and clear" of "any interest in property" asserted by a non-debtor is an important tool designed to maximize the value of the estate for the benefit of all stakeholders. The U.S. Bankruptcy Court for the Southern District of Illinois recently examined whether such interests include "successor liability" claims that might otherwise be asserted against the purchaser of a debtor's assets. In In re Norrenberns Foods, Inc., 642 B.R. 825 (Bankr. S.D. Ill. 2022), appeal dismissed, No. 22-1460 (S.D. Ill. Aug. 5, 2022), the court granted a debtor-in-possession's motion to sell substantially all of its assets free and clear of claims asserted by a union pension fund against the debtor and the purchaser for withdrawal liability under the Employment Retirement Income Security Act ("ERISA"). In so ruling, the bankruptcy court "follow[ed] the majority trend to interpret the term 'interest' broadly," finding that "successor liability claims are an 'interest' for purposes of Section 363(f) of the Bankruptcy Code."
Free and Clear Bankruptcy Sales
Section 363(b)(1) of the Bankruptcy Code provides in relevant part that a bankruptcy trustee or chapter 11 debtor-in-possession, "after notice and a hearing, may use, sell, or lease, other than in the ordinary course of business, property of the estate." Courts generally apply some form of a business judgment test in determining whether to approve a proposed use, sale, or lease of estate property under section 363(b)(1). See ASARCO, Inc. v. Elliott Mgmt. (In re ASARCO, L.L.C.), 650 F.3d 593, 601 (5th Cir. 2011); In re Stearns Holdings, LLC, 607 B.R. 781, 792 (Bankr. S.D.N.Y. 2019); In re Friedman's, Inc., 336 B.R. 891, 895 (Bankr. S.D. Ga. 2005); see generally Collier on Bankruptcy ("Collier") ¶ 363.02 (16th ed. 2022).
Under this deferential standard, a bankruptcy court will generally approve a reasoned decision by a trustee or debtor-in-possession to use, sell, or lease estate property outside the ordinary course of business. See In re Alpha Nat. Res., Inc., 546 B.R. 348, 356 (Bankr. E.D. Va.), aff'd, 553 B.R. 556 (E.D. Va. 2016). However, when a transaction involves an "insider," courts apply heightened scrutiny to ensure that the transaction does not improperly benefit the insider at the expense of other stakeholders. See In re Alaska Fishing Adventure, LLC, 594 B.R. 883, 887 (Bankr. D. Alaska 2018); In re Family Christian, LLC, 533 B.R. 600, 622, 627 (Bankr. W.D. Mich. 2015).
Section 363(f) of the Bankruptcy Code authorizes a trustee or debtor-in-possession to sell estate property "free and clear of any interest in such property of an entity other than the estate," but only if:
(1) applicable nonbankruptcy law permits sale of such property free and clear of such interest;
(2) such entity consents;
(3) such interest is a lien and the price at which such property is to be sold is greater than the aggregate value of all liens on such property;
(4) such interest is in bona fide dispute; or
(5) such entity could be compelled, in a legal or equitable proceeding, to accept a money satisfaction of such interest.
11 U.S.C. § 363(f). A bankruptcy court's power to order sales free and clear of a competing interest without the consent of the party asserting the interest has been recognized for more than a century. See Ray v. Norseworthy, 90 U.S. 128, 131–32 (1875). It promotes the expeditious liquidation of estate assets by avoiding delay caused by sorting out disputes concerning the validity and extent of competing interests, which can later be resolved in a centralized forum. It also facilitates the estate's realization of the maximum value possible from an asset. A prospective buyer would discount its offer significantly if it faced the prospect of protracted litigation to obtain clear title to an asset. See In re WBQ P'ship, 189 B.R. 97, 108 (Bankr. E.D. Va. 1995); accord In re Realia, Inc., 2012 WL 833372, *10 (B.A.P. 9th Cir. Mar. 13, 2012) (noting that that "the purpose of the 'free and clear' language is to allow the debtor to obtain a maximum recovery on its assets in the marketplace"), aff'd, 569 F. App'x 544 (9th Cir. 2014).
Courts have sometimes struggled to identify the outer limits of the term "interest," which is not defined in the Bankruptcy Code or its accompanying legislative history. Most courts reject the narrow approach under which the reach of section 363(f) is limited to in rem property interests (such as liens or security interests) or only those claims that have already been asserted at the time the property is sold. See Collier at ¶ 363.06 (noting that "[o]bviously there must be situations in which the interest is something other than a lien; otherwise, section 363(f)(3) would not need to deal explicitly with the case in which the interest is a lien").
Instead, the majority of courts have construed the term broadly to encompass other obligations that may flow from ownership of property, such as leasehold interests. See Pinnacle Rest. at Big Sky, LLC v. CH SP Acquisitions, LLC (In re Spanish Peaks Holding II, LLC), 872 F.3d 892, 900 (9th Cir. 2017) (notwithstanding the tenant protections set forth in section 365(h)(1), real property can be sold by a debtor-lessor free and clear of a leasehold interest under section 363(f)); Precision Indus., Inc. v. Qualitech Steel SBQ, LLC, 327 F.3d 537, 545 (7th Cir. 2003) (same)).
Many courts have concluded that "successor liability" claims are also included within the scope of interests under section 363(f). See Ind. State Police Pension Trust v. Chrysler LLC (In re Chrysler LLC), 576 F.3d 108, 124 (2d Cir. 2009) (a sale of assets to a newly formed acquisition entity free and clear of the debtor's liability for certain vehicle defects), vacated on other grounds, 558 U.S. 1087 (2009); In re Trans World Airlines, Inc., 322 F.3d 283, 290 (3d Cir. 2003) (section 363 sale free and clear of employment discrimination claims arising from conduct prior to the sale and travel vouchers settling same); UMWA 1992 Benefit Plan v. Leckie Smokeless Coal Co. (In re Leckie Smokeless Coal Co.), 99 F.3d 573, 586 (4th Cir. 1996) (debtor coal operators could sell their assets free of successor liability that would otherwise arise under the Coal Industry Retiree Health Benefit Act of 1992); In re Catalina Sea Ranch, LLC, 2020 WL 1900308, *13 (Bankr. C.D. Cal. Apr. 13, 2020) (a chapter 11 debtor could sell assets to an insider affiliate and secured creditor under section 363(f) free and clear of wrongful death successor liability claims); In re K & D Indus. Servs. Holding Co., Inc., 602 B.R. 16 (Bankr. E.D. Mich. 2019) (sale of chapter 11 debtors' assets free and clear of successor liability claims for ERISA withdrawal liability).
Norrenberns Foods, Inc. (the "Debtor") operated a retail grocery store in Illinois. Before filing for chapter 11 protection on December 7, 2021, in the Southern District of Illinois, the Debtor also owned other grocery stores throughout the southern part of the state, but those stores were closed due to competition from larger grocery store chains.
The Debtor's retail food employees were represented by a union under a collective bargaining agreement ("CBA"). They were also the beneficiaries of a multi-employer pension fund (the "Fund") that provided retirement, disability, and death benefits to retail food employees in the Midwest who were covered by CBAs between their employees and various unions affiliated with the United Food and Commercial Workers International Union, AFL-CIO.
After the Debtor's other stores closed, the Debtor's remaining location became liable under ERISA for the pension withdrawal liabilities associated with the shuttered locations. As of the chapter 11 petition date, the Fund asserted an unsecured claim against the debtor for approximately $4.8 million, most of which was for ERISA pension plan withdrawal liability (the "Fund Claim").
In April 2022, the Debtor sought court authority to sell substantially all its grocery business assets to Norrenberns Properties, LLC and Betty Ann Market's Inc. (collectively, the "purchaser") free and clear of all liens, claims, interests, and encumbrances. The purchaser, which was created for the purpose of acquiring the debtor, was owned by the nephew of the Debtor's owners and the nephew's spouse. The nephew had been involved in the grocery store business for many years, but neither the nephew nor his spouse had ever worked for the Debtor. Under the proposed sale agreement, the Debtor's former owners would neither be employed by, nor have any interest in, the purchaser after the sale. The sale price was negotiated among the purchaser, the Debtor, and the Debtor's first-priority secured lender. The Debtor's owners would receive none of the sale proceeds. There were no other prospective purchasers.
The Fund objected to the sale, arguing that the bankruptcy court lacked jurisdiction to enjoin any successor liability claims against the purchaser and that the sale of the debtor's assets under section 363(f) could not extinguish the Fund Claim.
The Bankruptcy Court's Ruling
The bankruptcy court approved the sale free and clear of the Fund Claim.
U.S. Bankruptcy Judge Laura K. Grandy explained that, in accordance with section 363(f)(5), the Fund Claim was an "interest" for which the Fund could be compelled to accept a money satisfaction, as evidenced by the proof of claim filed by the Fund indicating the claim's monetary value. She further noted that many courts, including the Third, Fourth, and Seventh Circuits, have expansively interpreted the term "interest" in section 363(f) to include possessory leasehold interests, employment-related claims, and pension plan withdrawal liability. Norrenberns Foods, 642 B.R. at 829 (citing Precision Industries, 327 F.3d at 545 (a possessory interest in a lease); Trans World Airlines, 322 F.3d at 289-90 (employment discrimination claims); Leckie, 99 F.3d at 575-77 (future premium payment obligations to retirement benefit plans); K&D, 602 B.R. at 28-29 (successor liability claims, including pension plan withdrawal liability claims); Faulkner v. Bethlehem Steel/Int'l Steel Group, 2005 WL 1172748, *3 (N.D. Ind. Apr. 27, 2005) (employment discrimination claims)).
According to Judge Grandy, the broad definition of "interest" has been adopted by many courts "with good reason" because lawmakers would have used the term "lien" instead of "interest" had it intended to restrict the scope of section 363(f) to liens, and they included the term "lien" in section 363(f)(3), suggesting that liens are a "subcategory of 'interest.'" Id. at 830. She reasoned that the Fund Claim is an "interest in such property" within the meaning of section 363(f) because it "arises from the very grocery store being sold" and would not have arisen "but for the sale of the assets and operation of the assets by the buyer."
The bankruptcy court found that the Fund put misplaced reliance on the Seventh Circuit's rulings in Zerand-Bernal Grp., Inc. v. Cox, 23 F.3d 159, 161 (7th Cir. 1994), and Chicago Truck Drivers, Helpers & Warehouse Workers Union (Indep.) Pension Fund v. Tasemkin, Inc., 59 F.3d 48 (7th Cir. 1995), to support its argument that a bankruptcy court lacks jurisdiction to enjoin successor liability actions following a section 363 sale. According to Judge Grandy, Zerand is distinguishable because the case dealt not with section 363(f), but instead, an unknown future product-liability tort creditor whose claim had not arisen at the time of the sale of the debtor's assets. In that case, the Seventh Circuit never discussed the term "interest" in section 363(f) or "the possibility that such term included successor liability claims." Norrenberns Foods, 642 B.R. at 832. Moreover, the Zerand court explicitly stated that "'a cleansing of the assets in a bankruptcy sale' of all liens and other encumbrances 'is a valid power of the bankruptcy court.'" Id. (quoting Zerand, 23 F.3d at 163).
The Seventh Circuit ultimately concluded in Zerand that the bankruptcy court lacked jurisdiction to enjoin the products liability claim, noting that the plaintiff in the products liability litigation was not a party to the bankruptcy case and the incident that gave rise to the claim occurred long after the bankruptcy case was closed. Unlike in Zerand, Judge Grandy wrote in Norrenberns Foods, "the Fund holds existing claims against the Debtor at the time of the sale, and the successor liability claims constitute interests in the Debtor's property." Id.
The bankruptcy court also distinguished Chicago Truck Drivers because it "does not involve a Section 363(f) sale at all." Id.
It accordingly ruled that the debtor was "authorized to sell its assets free and clear of the Fund's successor liability claims."
The bankruptcy court's rationale in Norrenberns Foods regarding the applicability of section 363(f) to successor liability claims aligns with the approach taken by the majority of courts that have considered the issue. To maximize the value of the bankruptcy estate for all stakeholders, the scope of "interests" that can be extinguished (albeit subject to provision of adequate protection) by means of free and clear asset sales under section 363(f) has been broadly construed.
The bankruptcy court's conclusion that a debtor may sell its assets free and clear of "successor liability" claims is slightly more nuanced than the opinion would suggest. The ruling has two components. First, the court held that the debtor could sell its assets under section 363(f) free and clear of the pension fund's claims for withdrawal liability under ERISA. Second, although it does not state as much, the court implies that the pension fund is barred from asserting claims under a theory of successor liability against the purchaser, even though the purchaser, and not the Debtor, is the only party against whom the Fund could ever have asserted successor liability claims. According to the court, unlike in Zerand, there was no jurisdictional infirmity to granting the second part of this relief because the pension fund was a party to the bankruptcy case and the claim existed at the time of the sale.
On August 5, 2022, the U.S. District Court for the Southern District of Illinois, with the consent of the parties, dismissed an appeal filed by the Fund of the order approving the sale.