Bankruptcy court denizens, especially buyers of secured debt at a discount, were jolted by the recent Delaware Bankruptcy Court decision in In re Fisker Automotive Holdings, Inc. In that decision, the court capped at $25 million the amount a secured creditor was permitted to credit bid its $168 million claim at a bankruptcy Section 363 sale. The $25 million credit bid cap correlated to the amount the secured creditor paid for the debt. While Section 363(k) of the Bankruptcy Code permits a bankruptcy court to limit credit bidding “for cause,” the concerns here arise from the Bankruptcy Court’s expansive, and potentially precedent-setting, determination of what constitutes “cause.”

Credit bid rights have previously been limited “for cause” under Bankruptcy Code Section 363(k) when (a) the lender is involved in inequitable conduct, or (b) the claim amount is disputed and due to special circumstances (such as declining collateral value) leaving insufficient time to litigate the dispute before the collateral sale. In Fisker, the Bankruptcy Court veered outside these corridors by asserting a bankruptcy court’s power to deny a lender the right to credit bid if it would “chill the bidding process”, or more broadly, “in the interest of any policy advanced by the [Bankruptcy] Code, such as to ensure the success of a reorganization or to foster a competitive bidding environment”. In making its ruling, the Bankruptcy Court relied heavily upon its conclusion that the auction process would not only be chilled, but that competitive bidding might not happen at all, if the court did not limit the secured creditor’s credit bid rights, given the existence of other interested, viable bidders and at least one prospective bidder’s statement that it would not bid if the secured creditor’s bid amount was not capped. Additional factors stated as support for the court’s ruling were that a portion of the secured creditor’s claim was in dispute and that, viewed in the light that the secured creditor was the party asking the court to approve the asset sale, the timeline to challenge (24 business days, spanning Thanksgiving and Christmas holidays) the sale and hold the auction was much too short.

The secured creditor’s efforts to pursue a fast-track appeal of the Delaware Bankruptcy Court’s ruling was denied by the U. S. District Court. Consequently, resolution of this important issue will likely await an appeal by the secured creditor after entry of a final order in the Fisker case or the issue being addressed by appellate courts in other cases. In the meantime, discount purchasers of secured debt must be mindful of the Delaware Bankruptcy Court’s ruling in Fisker, both before and after the debt purchase.