In the 2010 decision of In re Philadelphia Newspapers, 599 F.3d 298 (3d. Cir. 2010), the Third Circuit Court of Appeals concluded that a plan proponent could deny a secured creditor the right to credit bid on its collateral when the sale was made pursuant to a plan of reorganization. That holding was a surprise to many given that secured creditors were specifically authorized to credit bid in stand-alone sales under section 363 of the Bankruptcy Code. A year or so later, another circuit court, the Seventh Circuit Court of Appeals, came to the opposite conclusion. See River Road Hotel Partners v. Amalgamated Bank, 651 F.3d 642 (7th Cir. 2011). As a result of the split among the circuit courts, the Supreme Court agreed to hear the appeal of the latter case late last year.

On May 29, 2012, the Supreme Court issued an 8-0 decision in the RadLAX Gateway Hotel, LLC v. Amalgamated Bank case. Penned by Justice Scalia, the decision held that a secured lender cannot be denied the right to credit bid if its collateral is to be sold free and clear of all liens pursuant to a Chapter 11 plan of reorganization. The decision summarily disposed of what appeared to be a difficult interpretative issue.

The Legal Issue

A debtor may sell its assets under section 363 of the Bankruptcy Code, which permits a stand alone sale of an asset, or it may sell its assets as part of a chapter 11 plan. Where a debtor seeks to sell an asset pursuant to section 363, the sale terms must allow for a secured creditor to credit bid. However, where a debtor seeks to sell an asset pursuant to the terms of a plan, the relevant statute, section 1129(b), is not (seemingly) as clear.

Section 1129(b)(2) of the Bankruptcy Code provides that a plan that proposes to sell an encumbered asset may be confirmed notwithstanding the objection of a secured creditor if one of three “cram down” criteria is satisfied. One relevant option is to sell the property pursuant to section 363(k), thus providing a secured creditor the right to credit bid. Another relevant option is provided in section 1129(b) (2)(A)(iii). This subsection, which does not reference section 363 at all, provides that a secured creditor must receive the “indubitable equivalent” of its claim as part of plan confirmation. This “Indubitable equivalent” provision was interpreted by the Third Circuit in the Philadelphia Newspaper case and in the prior Fifth Circuit decision of In re Pacific Lumber Co., 584 F.3d 229 (5th Cir. 2009) to mean that a plan may provide for the sale of an asset that secures a claim without allowing the secured creditor to credit bid. As mentioned above, in River Road Hotel Partners, the Seventh Circuit reached a different conclusion. That decision was subsequently appealed to the Supreme Court under the case name of RadLAX Gateway Hotel.

The Background Facts of RadLA X Gateway Hotel

In 2007, the debtors purchased the Radisson Hotel at Los Angeles International Airport and an adjacent lot on which they planned to build a parking garage. In order to finance the purchase, renovation and development of the property, they obtained a $142 million loan, secured by all of the debtors’ assets. Ultimately, the debtors, unable to continue with construction due to unanticipated expenses, filed for protection under Chapter 11 of the Bankruptcy Code.

The debtors proposed a plan of reorganization that entailed selling substantially all of the debtors’ property secured lender. However, under the debtors’ proposed bid procedures, the lender was not permitted to credit bid for the property. Despite the lender’s objection to this provision, the debtors sought to confirm the plan by “cramdown” pursuant to section 1129(b)(2)(A). The bankruptcy court denied confirmation of the debtors’ plan on the grounds that the plan did not comply with section 1129(b)(2)(A)’s requirements for “cramdown” on a dissenting secured lender. On appeal, the Seventh Circuit affirmed.

The Supreme Court’s Legal Analysis

The Supreme Court began its analysis with a review of the requirements for cramdown under section 1129(b)(2)(A) of the Bankruptcy Code. The Supreme Court explained that in order to be “fair and equitable” with respect to non-consenting secured creditors, a plan must meet one of the three requirements set forth in section 1129(b)(2)(A), including the previously referenced (and most relevant) section 363(k) sale option or the “indubitable equivalent” option. The debtors argued that section 1129(b)(2)(A) provides three distinct options for confirming a plan over a secured creditor’s objection. Thus, the debtors asserted, the plan could properly prohibit credit bidding (under the section 363(k) option) where, as was the case here, the cash generated by an auction would be remitted to the secured lender, thus providing the secured lender with the “indubitable equivalent” of its claim.

The Supreme Court found the debtors’ argument to be “hyperliteral and contrary to common sense.” Citing the “well-established canon of statutory interpretation” that the specific governs the general, the Court contrasted the detailed provision regarding the requirements of selling collateral free and clear of all liens (the section 363(k) provision) with the broadly worded indubitable equivalent provision which says nothing about such a sale. The Court reasoned that although the general language clause is broad enough to include these types of sales, it will not be held to apply to section 363(k) sales, which are specifically addressed in another provision. While noting that the general-specific canon is not an absolute rule, the Court explained that the debtors had not presented any textual indications that would overcome the canon. Accordingly, the Court held that because the rule allowing for credit bidding in sales of collateral free and clear of all liens was specific to these types of sales, the debtors could not sell their property free and clear without allowing the secured creditor the option to credit bid.

The Supreme Court’s decision is welcome news to secured creditors.

Interestingly, the Supreme Court characterized the issues it addressed as an “easy case” and found “no textual ambiguity” in the statute. It noted that an outright prohibition on credit bidding would produce absurd results. Moreover, as the Supreme Court explained, an advantage of credit bidding is that it helps to protect creditors against the risk that the collateral securing the debt will be sold at a depressed price. The Court also noted that the practice of credit bidding is particularly important for the federal government which often lacks appropriations authority to “throw good money after bad in a cash-only bankruptcy auction.”

What the Supreme Court’s Decision Means

Confirming what had been the accepted interpretation of the law prior to the In re Philadelphia Newspapers decision, the RadLAX decision confirmed that a Chapter 11 plan may not prohibit credit bidding when a debtor proposes to sell its assets free and clear pursuant to section 1129(b)(2)(A). The result should be welcome news to secured creditors.