United States: Prime-Plus Cramdown Rate: You Can Forget Market Reality

Last Updated: June 24 2013
Article by Vicki Harding

Wells Fargo Bank Nat'l Ass'n v. Texas Grand Prairie Hotel Realty, L.L.C. (In re Texas Grand Prairie Hotel Realty, L.L.C.), 710 F.3d (5th Cir. 2013) –

In this case the debtors proposed a plan of reorganization for four hotel properties.  The plan was rejected by the mortgage lender (Wells Fargo), so they sought to cramdown the plan under Section 1129(b) of the Bankruptcy Code.  The plan valued Wells Fargo's secured claim at ~$39 million and proposed to pay off the loan over 10 years with interest accruing at 5% (1.75% over prime).  The bankruptcy court confirmed the plan; the district court affirmed; and Wells Fargo appealed to the 5th Circuit.

As a threshold matter, the court considered whether the appeal was equitably moot.  In a bankruptcy appeal, equitable mootness can be established if (1) the plan is not stayed, (2) there has been substantial consummation of the plan, and (3) the relief requested would affect either rights of third parties or the success of the plan.  Wells Fargo conceded the first two points.  So the question turned on the effect of the requested relief.

The debtors contended that granting relief on appeal could result in a "cataclysmic unwinding" of the plan.  However, the court noted that it had an option to grant partial relief, and the debtors did not present credible evidence that this would lead to unwinding the plan.  So, the court concluded that the appeal could proceed.

In order to support cramdown of the plan, the deferred cash payments to Wells Fargo had to have a value at least equal to its secured claim (which is set equal to the value of the collateral securing the claim under Section 506(a) of the Bankruptcy Code).  The value of the deferred payments is determined by discounting to present value using an appropriate interest rate.

In determining the proper cramdown rate, both sides appeared to start with the "prime-plus" formula adopted by a plurality of the Supreme Court in Till v. SCS Credit Corp., 541 U.S. 465, 124 S. Ct. 1951, 158 L. Ed. 2d 787 (2004).  While asserting that Till had limited precedential effect given that it was a splintered decision in a chapter 13 context, the 5th Circuit generally endorsed the plurality approach of using a national prime rate as supplemented by a "risk adjustment."  The 5th Circuit also cited with approval the observation in Till that courts have generally approved adjustments of 1% to 3%.

According to Till, the primary advantage of the prime-plus approach is its simplicity and objectivity.  The "coerced loan, presumptive contract rate, and cost of funds approaches" were rejected because each is "complicated, imposes significant evidentiary costs, and aims to make each individual creditor whole rather than to insure the debtor's payments have the required present value."

Although the plurality suggested the same approach would be appropriate for a chapter 11 case, in footnote 14 they noted that a "market rate" approach might be suitable in a chapter 11 if there were "efficient markets" for exit financing.  Notwithstanding this invitation, most courts have followed the prime-plus approach in the chapter 11 context.

Both parties also agreed that the prime rate was 3.25%.  However, the debtor's expert chose an adjustment of 1.75%, leading to a rate of 5%; while the Wells Fargo expert chose a series of adjustments, which led to a rate of 8.8%.

The debtors' expert considered various factors regarding the stability of the project and the feasibility of the plan to suggest that the risk of default was "just to the left of the middle of the risk scale," leading to a risk adjustment factor of 1.75%.

The Wells Fargo expert used an approach that took into account market conditions.  Since there was no market for single loans comparable to the forced loan under the plan, he calculated a rate by taking the weighted average of a package consisting of senior debt, mezzanine debt, and equity, resulting in a blended market rate of 9.3%.  To bring this within the prime-plus methodology, he characterized this result as prime with an upward adjustment of 6.05% based on the nature of the security.  Adding a further downward adjustment of 1.5% for the circumstances of the estate, and an upward adjustment to account for the plan's tight feasibility, resulted in a rate of 8.8%.

The 5th Circuit agreed with the bankruptcy court that the debtors' expert followed the Till approach, while the Wells Fargo expert based his rate on a form of coerced loan analysis, which had been rejected by Till.

Wells Fargo complained that the Till approach produced an absurd result because market rates for smaller over-collateralized loans to comparable hotel owners were in excess of 5%.  The court simply observed (footnotes omitted):

 [T]his "absurd result" is the natural consequence of the prime-plus method, which sacrifices market realities in favor of simple and feasible bankruptcy reorganizations.  Stated differently, while it may be "impossible to view" [the debtors' experts] 1.75% risk adjustment as "anything other than a smallish number picked out of a hat," [a quote from Justice Scalia's dissent in Till], the Till plurality's formula approach – not Justice Scalia's dissent – has become the default rule in chapter 11 bankruptcies."

While concluding that the cramdown rate approved by the bankruptcy court was not clearly erroneous, the court hastened to add that it was not suggesting that the prime-plus formula was the only "or even the optimal" method for calculating a rate.

It can be difficult to understand an analysis that leads to a risk adjustment to a prime rate in the 1% to 3% range for a loan that is effectively 100% loan to value with a borrower that has been in financial difficulty.

Regardless, it is clear that under the prime-plus approach a lender should not expect the proposed cramdown rate to have any relationship to the market rate that it would charge under similar circumstances.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Vicki Harding
Similar Articles
Relevancy Powered by MondaqAI
Shearman & Sterling LLP
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Shearman & Sterling LLP
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions