RadLAX Gateway Hotel v. Amalgamated Bank

Issues

Whether a bankrupt debtor under a Chapter 11 plan can sell collateral assets free and clear of liens and at the same time prohibit a secured creditor from using its credit to bid on the assets.

Oral argument:

April 23, 2012

Court below:

United States Court of Appeals for the Seventh Circuit

RadLAX Gateway Hotel, LLC and related entities obtained a secured $142 million loan in 2007 to construct the Radisson Hotel at Los Angeles International Airport. Substantially all of RadLAX’s assets were designated as collateral for this loan. However, still saddled with $120 million of debt, RadLAX filed for bankruptcy in August 2009. RadLAX proposed a Chapter 11 reorganization plan that called for an auction sale of all its assets, free and clear of liens. The plan prohibited secured lenders from credit bidding, i.e. using their loan amounts to offset the asset prices at the auction. Amalgamated Bank, representing the lender, objected to the plan, arguing that the plan violatedSection 1129(b)(2)(A)(ii) of the Bankruptcy Code. The bankruptcy court agreed and rejected RadLAX’s plan. The Seventh Circuit affirmed on appeal. The Supreme Court’s resolution of this case may affect the balance of power between debtors and secured creditors in bankruptcy proceedings.

Questions as Framed for the Court by the Parties

Whether a debtor may pursue a Chapter 11 plan that proposes to sell assets free of liens without allowing the secured creditor to credit bid, but instead providing it with the indubitable equivalent of its claim under Section 1129(b)(2)(A)(iii) of the Bankruptcy Code.

Facts

This case involves the interpretation of Section 1129(b)(2)(A) of the Bankruptcy Code (“the Code”). See11 U.S.C. § 1129(b)(2)(A). In 2007, Petitioners RadLAX Gateway Hotel, LLC and RadLAX Gateway Deck, LLC (collectively “RadLAX”) borrowed approximately $142 million from a lender, the Longview Ultra Construction Loan Investment Fund, to build a Radisson Hotel at the Los Angeles International Airport. SeeRiver Road Hotel Partners, LLC v. Amalgamated Bank, 651 F.3d 642, 644 (7th Cir. 2011). Respondent Amalgamated Bank was designated as the lender’s administrative agent and trustee. See id. Following the economic downturn of 2008, however, RadLAX encountered serious cost problems and sought additional funds from its lender, but the parties could not agree on terms for the additional funds. See id.Consequently, on August 17, 2009, RadLAX filed for bankruptcy under Chapter 11 of the Code. See id. At the time of filing, RadLAX still owed around $120 million on its loan from Longview. See id.

In the United States Bankruptcy Court for the Northern District of Illinois, RadLAX submitted reorganization plans proposing to sell all of its assets free and clear of liens through auction to the highest bidder; RadLAX proposed to then distribute the cash proceeds to its creditors according to the Code’s priority rules. See River Road Hotel, 651 F.3d at 645. Under the Code, even in the absence of approval from affected lenders, a bankruptcy court may confirm a reorganization plan if the plan is “fair and equitable” as defined under Section 1129(b)(2)(A); such a procedure is known as a “cramdown.” See id. at 647. Amalgamated Bank, acting on behalf of the lender, filed objections; it argued that the plan violated subsection (ii) of Section 1129(b)(2)(A), which requires that secured creditors be allowed to “credit bid,” i.e. use their credit to bid for the secured assets at auction. See id. at 645. The bankruptcy court agreed with Amalgamated Bank and refused to confirm RadLAX’s plan. See id.

On appeal to the United States Court of Appeals for the Seventh Circuit, RadLAX argued that the bankruptcy court erred in denying confirmation when the plan was “fair and equitable” under the “indubitable equivalent” standard of Section 1129(b)(2)(A)(iii). See River Road Hotel, 651 F.3d at 647. The Seventh Circuit, however, rejected RadLAX’s argument and affirmed the bankruptcy court ruling, finding that RadLAX’s interpretation of Section 1129(b)(2)(A)(iii) would effectively nullify the requirements set out in the preceding subsections (i) and (ii). See id. at 652–53. The Seventh Circuit’s decision directly conflicts with prior decisions from the Third and Fifth Circuits, resulting in a circuit split. See In re Philadelphia Newspapers, 599 F.3d 298 (3d Cir. 2010); In re Pacific Lumber Co., 584 F.3d 229 (5th Cir. 2009). Both the Third and Fifth Circuits have held that subsection (iii) of Section 1129(b)(2)(A) authorizes asset sale plans lacking a credit-bidding right for secured lenders, so long as those lenders are provided with the “indubitable equivalent” of their secured claim through other means. See River Road Hotel, 651 F.3d at 648. The United States Supreme Court granted certiorari to resolve this conflict between the circuits.

Analysis

At issue in this case is Section 1129(b)(2)(A) of the Bankruptcy Code (“the Code”). See11 U.S.C. § 1129(b)(2)(A). Section 1129(b) allows courts to confirm a Chapter 11 plan over the objections of creditors only if the plan is “fair and equitable.” Seeid. § 1129(b)(1). For secured creditors, a plan may be considered “fair and equitable” if it provides that (i) secured creditors receive at least the present value of their collaterals when debtors decide to retain or transfer the property subjected to liens; (ii) secured creditors are allowed to credit bid if debtors sell creditors’ collaterals free of liens; or (iii) secured creditors are able to realize the “indubitable equivalent” of their claims. Seeid. § 1129(b)(2)(A)(i)–(iii).

The controversy in this case is whether a debtor can prohibit a secured creditor from credit bidding on the sale of the creditor’s collateral when the debtor pays the creditor an “indubitable equivalent,” namely the cash proceeds from the sale. Petitioners RadLAX Gateway Hotel, LLC and RadLAX Gateway Deck, LLC (collectively “RadLAX”) argue that Section 1129(b)(2)(A) enables a debtor to prohibit a secured creditor from credit bidding as long as the debtor is able to satisfy the creditor’s claim; according to RadLAX, use of a disjunctive “or” to separate the three subsections of Section 1129(b)(2)(A) indicates Congress’ intent to allow the debtor to freely choose between the three ways to make a plan “fair and equitable.” SeeBrief for Petitioners, RadLAX Gateway Hotel, LLC et al. at 17. On the other hand, Respondent Amalgamated Bank contends RadLAX’s “plain meaning” interpretation of the statute is misguided because it renders futile the protection afforded to creditors through the credit-bidding process, and similarly defeats the core purpose of other provisions in the Code. SeeBrief for Respondent, Amalgamated Bank at 28–29, 37.

Textual Interpretation of Section 1129(b)(2)(A)

The parties disagree over the plain meaning of Section 1129(b)(2)(A). See11 U.S.C. § 1129(b)(2)(A); Brief for Petitioners at 17–18; Brief for Respondent at 22, 30–32. RadLAX argues that the disjunctive “or” connecting the three clauses in Section 1129(b)(2)(A) indicates that a debtor’s plan must meet one of the three requirements in order for the plan to be considered “fair and equitable.” SeeBrief for Petitioners at 17. Therefore, in RadLAX’s view, if a debtor is able to provide the “indubitable equivalent” of a creditor’s claim—as specified in Section 1129(b)(2)(A)(iii)—the debtor need not provide additional credit-bidding rights for the creditors under subsection (ii). Seeid.RadLAX also points to additional language in the section—including the phrase “the plan provides” and the term “includes”—as evidence that debtors, and not creditors, possess the final power and flexibility in choosing how to craft a “fair and equitable” plan. Seeid. at 17–18.

Amalgamated Bank agrees that the presence of a disjunctive “or” means that a reorganization plan need not satisfy all three subsections of Section 1129(b)(2)(A) to be deemed “fair and equitable”; however, Amalgamated asserts that the presence of the disjunctive says nothing about the individual scope of each subsection. SeeBrief for Respondent at 22. According toAmalgamated Bank, RadLAX’s position exaggerates the debtors’ power and flexibility to pick among the three alternatives provided in Section 1129(b)(2)(A). Seeid. at 30–32. Furthermore, Amalgamated Bank argues that the term “includes” should not be restricted to Section 1129(b)(2)(A)—which deals only with secured creditors—but instead should be read as the opening clause for the broader Section 1129(b)(2)—which sets out the criteria for “fair and equitable” plans. Seeid. at 30–31. Thus, in Amalgamated’s view, the term “includes” does not grant debtors the complete freedom to pursue their own version of a “fair and equitable” plan, but instead simply sets forth the minimum requirements that debtors must meet in providing for secured creditors, unsecured creditors, and certain interests. Seeid. at 31.

Structural Interpretation of Section 1129(b)(2)(A)

To support its argument, Amalgamated Bank relies not just on the language but the structure of Section 1129(b)(2)(A). SeeBrief for Respondent at 29–30. Amalgamated Bank insists that all three clauses in Section 1129(b)(2)(A) govern distinct scenarios that are mutually exclusive from each other. Seeid. at 22. For example, if a debtor wanted to sell a creditor’s collateral free of liens, subsection (ii) alone would govern, not subsection (iii); therefore, the debtor would have to provide the creditor with credit-bidding procedures as required under subsection (ii). Seeid. at 23–24. Amalgamated Bank argues that if debtors are allowed to circumvent the credit bidding procedure of subsection (ii) by opting instead for the “indubitable equivalent” treatment of subsection (iii), subsection (ii) would be rendered largely superfluous, and creditors would not be able to prevent the undervaluation of collateral assets. Seeid. at 30. Furthermore, Amalgamated Bank points out that, despite its general language, subsection (iii) of Section 1129(b)(2)(A) is limited in scope; for instance, Amalgamated contends that a creditor clearly realizes the “indubitable equivalent” of its claim when the creditor receives its collateral in full. Seeid. at 26. In such an instance, Amalgamated adds, the precise valuation of the assets is a nonissue because the creditor received all of its collateral. Seeid.

RadLAX, on the other hand, contends that a broad reading of subsection (iii) does not render subsection (ii) superfluous, but rather complements subsection (ii). SeeBrief for Petitioners at 29–30, 31–32. RadLAX maintains that a broad reading of subsection (iii) not only remains faithful to the plain language of the statute, but is also consistent with Congress’ intent to protect creditors’ collaterals against undervaluation. Seeid. at 29–30. RadLAX argues that subsections (ii) and (iii) achieve this protection against undervaluation in different ways: subsection (ii) is procedural, offering one means of conducting a safe collateral sale free of liens; subsection (iii), on the other hand, is substantive, and prevents the undervaluation of collaterals by requiring that creditors receive the “indubitable equivalent” of their claims, regardless of the procedural approach. Seeid.Hence, according to RadLAX, Amalgamated Bank’s concerns regarding potential undervaluation are unfounded because creditors would still be able to receive the present value of their collaterals under subsection (iii) even if they are prevented from credit bidding at the collateral sale. Seeid.Furthermore, RadLAX contends that even a broad interpretation of subsection (iii) does not render subsection (ii) superfluous. Seeid. at 31–32. To illustrate, RadLAX gives the example of a debtor who cannot generate enough cash proceeds in a collateral sale to repay the present value of a creditor’s claim; in this situation, the debtor is unable to fulfill the “indubitable equivalent” requirement of subsection (iii), and therefore may turn to subsection (ii) and credit bidding in order to generate the necessary proceeds. Seeid. at 32.

Legislative History of Section 1129(b)(2)(A)

Amalgamated Bank points to the legislative history of Section 1129(b)(2)(A) as additional evidence that Congress mandated credit bidding when debtors sell creditors’ collaterals free of liens. SeeBrief for Respondent at 59. Amalgamated Bank notes that Representative Don Edwards—a principal drafter of the Code—stated during early discussion of the Code that undersecured creditors cannot elect to treat their claims as fully secured under a different provision—Section 1111(b)(2)—because a similar protection has already been provided through Section 1129(b)(2)(A)(ii)’s credit-bidding process. Seeid.; 11 U.S.C. § 1111(b)(2). Amalgamated Bank thus argues that Congress must have intended Section 1129(b)(2)(A) to mandate credit bidding, otherwise Congress would not have excluded the Section 1111(b)(2) election, which also prevents the undervaluation of collaterals in Chapter 11 sales. SeeBrief for Respondent at 59.

In response, RadLAX contends that Section 1129(b)(2)(A)’s legislative history is ambiguous at best, thus requiring that the section be interpreted according to its plain terms. SeeBrief for Petitioners at 36–37. RadLAX points to contradicting pieces of legislative history where, on the one hand, debtors appear to enjoy complete freedom to choose among Section 1129(b)(2)(A)’s three alternatives, while on the other, debtors appear obliged to obey a mandatory credit-bidding procedure. Seeid. at 37. Because of the inconsistent nature of this legislative history, RadLAX argues that such evidence cannot be used to trump the plain language of the section. Seeid. at 38.

Discussion

In this case, the Supreme Court will decide whether Section 1129(b)(2)(A) of the Bankruptcy Code (“the Code”) allows debtors to force the sale of secured assets without providing the secured creditor with a right to credit bid on the asset. Petitioners RadLAX Gateway Hotel, LLC and RadLAX Gateway Deck, LLC (collectively “RadLAX”) argue that the presence of a disjunctive “or” in Section 1129(b)(2)(A) indicates that such a plan can be sustained under the “indubitable equivalent” standard of subsection (iii), regardless of the credit-bidding requirement under subsection (ii). SeeBrief for Petitioners, RadLAX Gateway Hotel, LLC et al. at 17–18. On the other hand, Respondent Amalgamated Bank maintains that Section 1129(b)(2)(A), when read as a whole, requires that secured creditors be given credit-bidding rights under a plan involving the sale of secured assets free of liens. SeeBrief for Respondent, Amalgamated Bank at 22–23, 27.

Practical Implications for Asset Sale Auctions

RadLAX notes that under its proposed asset sale plan, secured creditors retain the option of bidding cash at the auction just like other bidders. SeeBrief for Petitioners at 4. However the United States, writing as amicus, argues that sustaining RadLAX’s plan would lead to an awkward result: if the secured creditor wins the bid, the secured creditor must pay the debtor, who must eventually repay the money to the creditor to satisfy its debts. SeeBrief for Amicus Curiae United States in Support of Respondent at 28–29. In addition, the Loan Syndication and Trading Association and other amicus curiae (collectively “LSTA”) point out that this exchange of cash results in wasteful transaction costs that benefit neither party to the transaction. SeeBrief for Amicus Curiae The Loan Syndication and Trading Association et al. in Support of Respondent at 29.

Further, as a frequent and uniquely situated secured creditor, the United States asserts that legal constraints prevent the federal government and its agencies from bidding cash at asset sale auctions absent specific legislative appropriations. See Brief for Amicus Curiae United States at 29. The United States argues that the lack of a credit-bidding right will reduce the government’s ability to recover the full value of its secured credit claims. See id.at 29–30. Similarly, the LSTA points out that most secured lenders do not have sufficient cash on hand to enter cash bids; lenders, the LSTA adds, also face various financing hurdles that make cash bidding an unlikely possibility. SeeBrief for Amicus Curiae LSTA at 29–30.

Impact on the Rehabilitative Goals of Bankruptcy

RadLAX argues that a decision for Amalgamated Bank will inhibit the ability of bankrupt debtors to successfully complete reorganizations under Chapter 11. SeeBrief for Petitioners at 51. RadLAX maintains that by requiring credit bidding in asset sale plans, a secured creditor with claims far exceeding the present value of the collateral property will be able to use its credit bid to acquire ownership of the property, thus preventing the debtor from carrying out an effective reorganization plan. See id. at 52–53.

Amalgamated Bank, however, views RadLAX’s claim as misguided: debtors, according to Amalgamated, should have no interest in who wins the auction, the secured creditor or otherwise. SeeBrief for Respondent at 56. Amalgamated Bank notes that regardless of who wins the auction, the value of the winning bid will be applied against the debtor’s estate; the debtor will therefore benefit regardless of whether the winning bid is paid in cash or credit. See id.

The true goal of bankruptcy proceedings, Amalgamated Bank and amici contend, is to maximize the value of the debtor’s assets and promote equitable distribution of auction proceeds. See Brief for Respondent at 51; Brief for Amicus Curiae Bankruptcy Scholars in Support of Respondent at 12–13. Amalgamated and amici argue that credit-bidding rights clearly further that core purpose by maximizing the sale price of the debtor’s assets. See Brief for Respondent at 51–53; Brief for Amicus Curiae Bankruptcy Scholars at 13–15. Amalgamated also notes that by allowing credit bidding, secured creditors are added to the pool of qualified bidders, thus making the reorganization plan more confirmable and in line with the goals of bankruptcy law. See Brief for Respondent at 57.

Effect on Market for Secured Credit and Lenders

Given the economic realities of the secured credit market, the LSTA asserts that a decision for RadLAX will raise the cost of secured credit, negatively impact the market for secured credit, and ultimately hurt both debtors and creditors. SeeBrief for Amicus Curiae LSTA at 26. LSTA notes that secured creditors necessarily take into account the generally recognized credit-bidding rights when assessing the risk of a secured loan and calculating interest rates. See id. at 31–32. Furthermore, LSTA argues that if debtors are allowed to bar secured creditors from credit bidding on their collateral, the risk that creditors will not receive the full value of their claims increases. See id. at 32. To account for such risks, LSTA maintains that creditors will increase interest rates on secured loans or limit the availability of secured credit, harming market participants and further endangering an already fragile economy. See id. at 32–33.

Conclusion

The Court’s decision in this case will determine whether Section 1129(b)(2)(A) mandates a credit-bidding procedure when debtors propose to sell creditors’ collaterals free of liens. RadLAX argues that credit-bidding procedures are not required under subsection (iii) of Section 1129(b)(2)(A) as long as the debtors can generate enough cash from the sale to pay back the secured creditors. On the other hand, Amalgamated Bank emphasizes the policies behind credit bidding and argues that a broad reading of subsection (iii) would allow debtors to circumvent the procedural protection Congress set up in subsection (ii). Amalgamated contends that a judgment for RadLAX would defeat the rehabilitative goal of the Bankruptcy Code. On the other hand, RadLAX asserts that a judgment for the creditor would unduly handicap debtors in their reorganization efforts.