The U.S. Supreme Court does not often rule for secured lenders on bankruptcy issues. But on May 29, 2012, the Supreme Court did just that, resolving a split among lower courts on whether a debtor in Chapter 11 could confirm a plan over a secured creditor’s objection if the plan allows the sale of the creditor’s collateral free and clear of the creditor’s lien, but does not allow the secured creditor to credit-bid at the sale.1 Agreeing with the Seventh Circuit Court of Appeals (and disagreeing with the Third and Fifth Circuits), the Supreme Court said “no.” This is good news for secured lenders.
The Debtors were RadLAX Gateway Hotel, LLC and RadLAX Gateway Deck, LLC (the “Debtors”). The secured lender was Longview Ultra Construction Loan Investment Fund, for which the trustee was Amalgamated Bank (the “Bank”). In 2007, the Debtors borrowed $142 million from the Bank to purchase and renovate a hotel and to build a parking ramp. To secure the loan, the Bank obtained a blanket lien on the Debtors’ assets. The Debtors underestimated the cost of the project, and by August 2009, they were out of cash. The project was not complete, and there was no prospect for obtaining additional funds. They filed bankruptcy shortly thereafter.
The Debtors sought to confirm a “cramdown” plan in Chapter 11. A cramdown plan is one that is confirmed over the objection of a class of impaired creditors. A cramdown plan can be confirmed if it “does not discriminate unfairly, and is fair and equitable” to the objecting class of creditors. A plan is “fair and equitable” if it meets one of three criteria: (1) the secured creditor is allowed to retain its liens against the collateral, and the debtor is required to make deferred cash payments to the creditor totaling at least the present value of the collateral; (2) the collateral is sold, and the creditor is allowed to credit-bid at the sale; or (3) the creditor receives the “indubitable equivalent” of its claim.
The Debtors argued that their plan met requirement number (3) because the sale proceeds—i.e., the indubitable equivalent—would be paid to the Bank. The plan did not, however, allow the Bank to credit-bid at the auction. Thus, the Bank argued that the plan could not be confirmed because it violated requirement number (2). This issue had been addressed by the Third, Fifth, and Seventh Circuits. The Third and Fifth Circuits agreed with the Debtors, holding that the secured creditor’s collateral could be sold free and clear without allowing the creditor to credit-bid, as long as the debtor provided the creditor with the proceeds of the sale. The Seventh Circuit, on the other hand, agreed with the Bank, holding that such a plan could not be confirmed.
The Supreme Court agreed with the Bank and called the Debtors’ reading of the statute “hyperliteral and contrary to common sense.” The Court applied a standard canon of statutory construction, which is that a specific statute governs over a general one. Here the Court concluded that requirement number (3) is general, being broadly worded and saying nothing about a sale. But requirement (2) is specific, detailing the requirements for selling collateral free and clear. Thus, the Debtors could not sell the collateral free and clear without allowing the secured creditor to credit-bid.
The Supreme Court’s decision is a good one for secured creditors. Where the secured creditor’s collateral will be sold at auction in a cramdown plan, the secured creditor must be allowed to credit-bid at the sale, which will give the creditor more control over the disposition of its collateral. Of course, the secured creditor could consent to an auction without the right to credit bid. But the Court’s decision makes it clear that without consent, a debtor cannot close the door on credit-bidding.
1“Credit-bid” means to bid by offsetting the purchase price with the debt owed. With a credit-bid, the creditor does not have to pay cash, unless the bid amount exceeds the debt amount.
