1258 Assoc Mezz II LLC v 12E48 Mezz II LLC was the first case in this trio. There, the court initially granted a temporary restraining order enjoying the mezzanine lender’s UCC foreclosure sale, but later reversed course and allowed the sale to proceed on the ground that the Executive Order, which barred judicial foreclosure of underlying real estate for a period of ninety days, did not expressly prevent UCC foreclosures. The court reasoned that a foreclosure on the equity interests in a company that holds real estate is not, strictly speaking, a real estate foreclosure and therefore was not covered by the Executive Order. The court further determined that an injunction was not warranted because any damage to the mezzanine borrower that flowed from the UCC foreclosure could be remedied by a claim for damages.

Next up was D2 Mark LLC v. Orei VI Investments LLC (Index No. 652259/20). In that case, the court enjoined a UCC foreclosure sale from moving forward but not because the sale was barred by the Executive Order. Instead, the court focused on language in the mezzanine loan agreement which the court interpreted as limiting the mezzanine borrower’s remedies to injunctive relief (meaning that monetary damages were unavailable). The court scrutinized the terms of the mezzanine lender’s proposed foreclosure sale and found that the mezzanine borrower had established a likelihood of success on its claim that the terms, as proposed, were commercially unreasonable, particularly in light of the continuing impact of the COVID-19 pandemic. It was not a complete defeat for the mezzanine lender, because the court provided a clear path forward, recommending specific measures that could be taken by the mezzanine lender to proceed with the UCC foreclosure sale.

Finally, in Shelbourne, as in D2 Mark LLC, the court enjoined the mezzanine lender from proceeding with its foreclosure sale due to the impact of the COVID-19 pandemic. The borrower argued that the Mezzanine Loan Agreement entitled it to injunctive relief (as its sole remedy) if the mezzanine lender were to act unreasonably in any situation in which the law required the lender to act reasonably. Of course, the UCC requires that any collateral disposition be commercially reasonable in all respects. The borrower argued that the lender’s advertising of the sale and the notice period provided were unreasonable, particularly in light of the pandemic. The borrower further argued that the loan no longer was even in default, because the default had been cured.

The mezzanine lender countered, pointing out that Albany had suffered less impact from the Coronavirus than New York City, that Albany was recovering from the pandemic at a faster pace than New York City, and that the Coronavirus did not prevent potential buyers from touring the office building and conducting diligence as needed (which had not been the case in D2 Mark LLC). The mezzanine lender further argued that the language limiting the mezzanine borrower’s remedies to injunctive relief was itself limited to the mezzanine lender’s failure to grant consents—and did not apply to sales under the UCC—so that damages would, in fact, be available.

The Shelbourne court granted the borrower’s request for a preliminary injunction precluding the mezzanine lender from continuing with the foreclosure sale. Rather than focusing on the specific actions taken by the mezzanine lender or limitations on the type of relief sought by the mezzanine borrower, the court instead reasoned that the current state of the market—specifically the “[s]evere turmoil in the real estate market due to the pandemic”—rendered it unlikely that the sale could obtain a fair market price. Further, the court reasoned that the administrative order delaying judicial foreclosure of the mortgage on the underlying real estate until October 15, 2020 was motivated not solely by the difficulty of conducting a physical auction, because, as the court noted, virtual auctions also were not allowed. The court reasoned that Executive Order also was motivated, at least in part, by the concern that dispositions of assets under current market conditions were unlikely to achieve a fair price. Effectively, the court extended the logic of the Executive Order—which delays notices of mortgage foreclosure sales to October 15, 2020—to mezzanine loans secured by equity interests on the theory that the value of each mezzanine loan (and the underlying collateral) is tied to the value of the underlying real estate, and so the same “market-related” considerations should apply.

It is important to note that the court based its decision on a determination that market conditions alone made the sale commercially unreasonable and did not assess the reasonableness of any of the lender’s proposed foreclosure procedures. “Severe turmoil in the real estate market due to the pandemic makes the notion of a sale resulting in payment of fair market value highly uncertain. Bids will likely be discounted due to uncertainty about the continued length and severity of the pandemic. . . . Consequently, it would be unreasonable to permit the foreclosure sale to proceed on August 19, 2020.”

The Shelbourne court’s decision may be inconsistent with a literal reading of UCC 9-627(a). UCC 9-627(a) specifically provides that the fact that the secured party could obtain a higher price by waiting for a different time “is not of itself sufficient to preclude the secured party from establishing” that its enforcement efforts were commercially reasonable. Instead, a fact-intensive inquiry is required to determine whether the proposed sale is commercially reasonable. The Shelbourne court did not undertake that fact-intensive inquiry in granting the borrower’s preliminary injunction motion, but rather determined that the existence of the pandemic itself precluded a commercially reasonable sale from occurring. Although not referenced in the brief Shelbourne decision, the court may have had in mind Official Comment 3 to UCC 9-610, which provides some support for the court’s reasoning. That comment states, in relevant part, “[i]t may, for example, be prudent not to dispose of goods when the market has collapsed.”

The court’s decision in Shelbourne should give pause to mezzanine lenders who are contemplating taking enforcement action in the near term. By effectively ruling that any UCC foreclosure of real-estate related collateral during the pandemic is per se commercially unreasonable, the court has provided a roadmap for mezzanine borrowers to challenge foreclosure actions at least until the Executive Order’s moratorium on foreclosure actions expires on October 15, 2020 (unless extended). Even after the expiration of the Executive Order, however, we would expect mezzanine borrowers to continue to adopt the Shelbourne court’s reasoning to try to frustrate mezzanine lender enforcement efforts.

That said, it is possible that other courts would be persuaded that a mezzanine lender with a robust due diligence and foreclosure process, sufficient notice and real opportunity for third-party bidding (and perhaps with access to multiple markets) should be permitted to move forward, especially if the lender is able to convince the court that the commercially reasonable standard imposed by the UCC does not require the creditor to wait for market conditions to improve to get a potentially higher price.