Sales of a debtor’s assets, either pursuant to section 363 of the Bankruptcy Code or through a confirmed chapter 11 plan of reorganization, have become increasingly common in recent years and are generally viewed as an efficient and effective way to monetize a debtor’s assets and, under the appropriate circumstances, to maximize the value of its estate. When a sale process is used in a bankruptcy case of a debtor that is a not for profit (NFP) entity, however, there are issues other than simply maximizing value for creditors that must be taken into consideration. NFP debtors can and should consider, among other things, when choosing a purchaser, whether such purchaser has the ability to obtain the necessary regulatory approvals under applicable state law, the purchaser’s commitment to continuing the debtor’s charitable mission, and how the public interest will be served by the sale transaction. Similarly, a health care NFP such as a hospital or long-term care facility should consider the proposed purchaser’s ability to continue providing quality care (including indigent care) to its patients or residents after the sale is consummated.
Compliance with Applicable Nonbankruptcy Law
Federal bankruptcy law typically trumps contrary state law and often allows certain transactions to occur in bankruptcy that would not be able to occur outside of bankruptcy. Certain amendments to the Bankruptcy Code in 2005, however, made transfers of assets of an NFP debtor in bankruptcy expressly subject to compliance with applicable nonbankruptcy law, including the laws of the relevant state(s) with jurisdiction over the debtor and its assets. Specifically, sections 363(d) and 541(f) of the Bankruptcy Code provide that all sales of assets of an NFP debtor in a bankruptcy case must comply with applicable nonbankruptcy law.1 Section 1129(a)(16) of the Bankruptcy Code contains a similar requirement that transfers of assets of an NFP entity pursuant to a chapter 11 plan comply with all applicable nonbankruptcy law.2
Outside of bankruptcy, asset sales, mergers, affiliations, and other similar transactions involving NFP businesses typically must be reviewed and/or approved by various governmental and regulatory bodies under applicable nonbankruptcy law. For example, under Pennsylvania law, when a charitable NFP organization enters into a transaction effecting a fundamental corporate change involving a transfer of ownership or control of all or substantially all of its charitable assets, the Attorney General of Pennsylvania must review the transaction to ensure that the public interests are protected.3 Similarly, parties seeking to purchase health care assets located in New York will need to, among other things, obtain certain approvals from the Commissioner of the Department of Health of the State of New York and must continue to operate the acquired assets post-sale in accordance with all applicable public health laws in New York.4 In addition, a sale of substantially all of the assets of a New York NFP corporation must comply with New York’s Not-For-Profit Corporation Law, which requires prior notice to the New York Attorney General and various disclosures to be made by the selling entity.5
In light of the revised sections 363(d), 541(f) and 1129(a)(16) of the Bankruptcy Code, these state law review and approval requirements apply equally to sale transactions in bankruptcy, and, thus, must be incorporated into the bankruptcy process by an NFP debtor and its advisors. Accordingly, it is advisable that NFP debtors conduct their chapter 11 sale processes to allow for satisfaction of these nonbankruptcy requirements in addition to those bankruptcy requirements with which they are more familiar. For example, in the chapter 11 bankruptcy cases of Saint Vincent’s Catholic Medical Centers of New York and various of its affiliates, the debtors conducted a number of asset sales where bidders were required to submit evidence of their ability to obtain all necessary regulatory approvals in a timely manner, and closings of the asset sales were conditioned on the purchaser actually obtaining such approvals. Similarly, a potential purchaser seeking to submit a bid should have a clear understanding of all required regulatory approvals and all licenses, permits, authorizations, accreditations, and certificates needed to operate the business after the sale, and should be prepared to demonstrate its ability to obtain all of the foregoing when submitting its bid.
Considerations in Determining the “Highest and Best” Offer
While it may appear that the NFP debtor and its professionals are burdened with an additional layer of approval for a sale transaction, the board of an NFP debtor has, to some extent, a greater ability to influence the identity of a purchaser than would a for profit debtor/seller. In a typical bankruptcy sale, the debtor is seeking to obtain the highest and best offer for its assets, which often (but not always) involves selecting the offer that will provide the best recovery for the debtor’s estate. Purchase price is not the sole factor, however, and other elements of a bid are taken into consideration in determining what constitutes the highest and best offer for a debtor’s assets. These additional elements include, among other things, the purchaser’s ability to close the sale transaction in a timely manner and the purchaser’s commitment to preserving jobs and ongoing business relationships with suppliers and vendors post-sale.
Given the unique nature of NFPs and the public interest being served by them, the board of an NFP debtor is permitted more latitude in choosing a purchaser that is more in keeping with the mission and goals of the NFP. In entertaining any offer from a prospective buyer, an NFP debtor is charged with the fiduciary duties to act in furtherance of the organization’s charitable mission while also acting in the best interests of creditors.6 For example, under Pennsylvania law, the board of an NFP corporation, in discharging its duties, may consider, among other things, (i) the effects of the action on various constituencies and the communities where the NFP is located, (ii) the short-term and long-term interests of the NFP, and (iii) the resources, intent and conduct (past, stated and potential) of the potential purchaser.7 Therefore, in analyzing offers for the sale of its assets in bankruptcy, the debtor should appropriately consider how its charitable mission and the public interest will be furthered by each proposed purchaser.8 It may be the case that the bidder submitting an offer for the most consideration (in terms of purchase price) will not be the “highest and best” offer if that purchaser cannot appropriately demonstrate that the debtor’s charitable mission and the public interest will be furthered by the sale transaction.
In one case, In re United Healthcare System, Inc., an NFP entity conducted a sale process with respect to the Children’s Hospital of New Jersey.9 In deciding which bidder to select, the NFP’s board of trustees was advised by its financial advisor to consider four factors, with price ranking last in importance. The NFP entity selected the winning bid based on, among other things, the purchaser’s (i) ability to further the hospital’s charitable mission, (ii) assurance that it would keep the hospital in one location, which was a concern for the Commissioner of Health and Senior Services of New Jersey, and (iii) commitment to provide $5 million in future investments. The bankruptcy court, however, declined to approve the sale transaction, finding that the debtor’s board of trustees did not exercise sound business judgment in selecting a bidder that the court believed was offering lower consideration than another offeror.
On appeal, the district court noted that “[w]hen analyzing an articulated business reason for the sale, the bankruptcy court must also take into consideration the fact that a debtor is a charitable entity . . . . The officers and directors of a nonprofit organization are charged with the fiduciary obligation to act in furtherance of the organization’s charitable mission.”10 The district court noted that purchase price alone should not be used to determine the best offer for an NFP debtor’s assets, and the bankruptcy court was too focused on the monetary aspects of the competing bids. Instead, the “overriding consideration of public health” must be considered. In addition, the purchaser’s ability to further the debtor’s charitable mission must be analyzed, as the district court found that the bankruptcy court failed to acknowledge that the NFP’s board of trustees “had a fiduciary obligation to maintain the legacy of the Children’s Hospital.”11 The district court ultimately determined that the NFP’s board of trustees exercised sound business judgment in approving the original sale, notwithstanding the lower purchase price, and reversed the bankruptcy court’s order.
Another important – and related – consideration when the debtor is a health care business (either a hospital or a long-term care facility, for example) is how the proposed sale will impact patients or residents of the debtor. Both debtors and bankruptcy courts will want assurance from the proposed purchaser that, after the sale, the purchaser will continue to provide quality care and accommodations for patients or residents, as applicable. Indeed, this consideration of patient care is highlighted by Congress’s enactment of section 333 of the Bankruptcy Code, which provides for the appointment of a patient care ombudsman for debtors in a health care business to monitor the quality of patient care and to represent the interests of patients during the debtor’s bankruptcy case.12
Accordingly, a potential purchaser should be prepared to satisfy the debtor and the bankruptcy court that the purchaser will be able to operate the business post-sale in a manner that will ensure patients or residents continue to be properly provided for and receive all necessary assistance and treatment. This should be reflected in a debtor’s bidding procedures as a requirement to be considered a qualified bidder. For example, in the chapter 11 case of The Clare at Water Tower,13 a continuing care retirement community located in Illinois, the debtor conducted a section 363 sale process that required interested bidders to describe in detail in their bid how they plan on satisfying the continuing obligations to the debtor’s residents and how the bidders will be able to comply will all licensing and regulatory requirements for operating the retirement community after the sale before they would be qualified to bid at the auction.
An NFP debtor, especially a health care debtor, as well as a potential purchaser of such a debtor’s assets, must be aware of the various unique issues that can arise in connection with a sale process in bankruptcy. The NFP debtor and its advisors must be aware of and prepared to satisfy all state regulatory requirements. In our experience it has been essential to establish a good working relationship with state regulators and the relevant Attorney General’s office before a case is filed. Also, the NFP’s professionals must be prepared to guide the board through the sometimes difficult balancing act of obtaining creditor support for a sale process while giving due deference to those considerations that are important to the NFP’s mission but which may not directly relate to creditor recovery.
Reprinted with permission from the June 24, 2013 issue of New York Law Journal, © 2013, ALM Media Properties, LLC. Further duplication without permission is prohibited. All rights reserved.
1 11 U.S.C. § 363(d) (a nonprofit debtor may use, sell, or lease estate property “only in accordance with nonbankruptcy law applicable to the transfer of property by a debtor that is such a corporation or trust”); 11 U.S.C. § 541(f) (property held by a debtor that is a nonprofit corporation “may be transferred to an entity that is not such a corporation, but only under the same conditions as would apply if the debtor had not filed a case under this title”).
2 11 U.S.C. § 1129(a)(16) (“All transfers of property under the plan shall be made in accordance with any applicable provisions of nonbankruptcy law that govern the transfer of property by a corporation or trust that is not a moneyed, business, or commercial corporation or trust.”).
3 See 15 Pa. Cons. Stat. § 5547(b).
4 See N.Y. Pub. Health Law §§ 2801, et seq.
5 See N.Y. Not-For-Profit Corp. Law §§ 510 and 511.
6 See In re United Healthcare Sys., Inc., No. 97-1159, 1997 WL 176574 (D.N.J. Mar. 26, 1997).
7 See 15 Pa. Cons. Stat. § 5715(a).
8 In re United Healthcare Sys., Inc., 1997 WL 176574, at *5; In re Brethren Care of South Bend, Inc., 98 B.R. 927, 935 (N.D. Ind. 1989) (holding that ongoing beneficial treatment of the residents of the retirement and nursing facility was a good business consideration in the sale decision).
9 In re United Healthcare Sys., Inc., 1997 WL 176574, at *3.
12 See 11 U.S.C. § 333(a).
13 In re The Clare at Water Tower, Case No. 11-46151 (Bankr. N.D. Ill.).