Section 363 of the Bankruptcy Code governs the sale of a debtor's assets outside of the ordinary course of business. A debtor may use Section 363 to sell all, or substantially all, of its assets free and clear of any liens and encumbrances, with the proceeds of such sale to inure to the benefit of the creditors of the debtor's bankruptcy estate. Section 363 also permits a secured creditor to submit a "credit bid" for the purchase of a debtor's assets through a bankruptcy sale. Specifically, Section 363(k) provides that, in the sale of assets subject to a lien securing an allowed claim, "unless the court for cause orders otherwise the holder of such claim may bid at such sale, and, if the holder of such claim purchases such property, such holder may offset such claim against the purchase price of such property." 11 U.S.C. § 363(k).
Recently, the right of a secured creditor to "credit bid" up to the face amount of its secured claim – even if the value of the collateral securing the claim might be worth less (and perhaps substantially less) than the amount owed – has been a "hot topic" in the federal courts. And, for the most part, courts have honored and respected the right of a secured creditor to credit bid up to the face amount of its claim. For example, in Radlax Gateway Hotel, LLC v. Amalgamated Bank, 132 S.Ct. 2065, 182 L. Ed. 2d 967 (2012), the United States Supreme Court recently held that a Chapter 11 bankruptcy plan contemplating the sale, free and clear, of substantially all of the debtor's assets (for an amount that was far less than that owed to the secured creditor) could not be confirmed where it did not accord the secured creditor the right to credit bid its claim pursuant to 11 U.S.C. §§ 1129(b)(2)(A)(ii) and 363(k). In so ruling, the Supreme Court found that a secured creditor has an absolute statutory right to credit bid when its collateral is being sold through a Chapter 11 plan of reorganization. Similarly, in 2006, the United States Court of Appeals for the Third Circuit, in Cohen v. KB Mezzanine Fund II, LP (In re SubMicron Sys. Corp.), 432 F.3d 448 (3d Cir. 2006), held that a secured creditor could credit bid the face amount of its secured claim even where the collateral securing the claim allegedly had no economic value.
In a recent, highly publicized, decision by the United States Bankruptcy Court for the District of Delaware in In re Fisker Automotive Holdings, Inc., 2014 Bankr. LEXIS 230 (Bankr. D. Del. Jan. 17, 2014), the right of a secured creditor to credit bid up to the face amount of its claim was, once again, put to the test. In Fisker, the bankruptcy court held that the secured creditor would only be permitted to credit bid $25 million of its claim, which was the amount that it paid for its secured claim (which it purchased from the Department of Energy) and not $75 million, which represented a portion of the $168.5 million owing on the bankruptcy petition date. The bankruptcy court held that it was authorized to limit the secured creditor's credit bidding rights by the express language of Section 363(k) of the Bankruptcy Code, which permits a creditor to credit bid its allowed claim in a Section 363 bankruptcy sale "unless the court for cause orders otherwise ...." 11 U.S.C. § 363(k). Based on the particular facts before the court, the Fisker court held that "cause" under Section 363(k) was present to limit the secured creditor's credit bid rights to the amount that it paid for the claim.
Some bankruptcy practitioners and participants have expressed concern that Fisker may erode the substantial credit bidding rights granted to secured creditors under the Bankruptcy Code – especially those creditors who have purchased secured claims from another creditor at a discount. A careful review of the precise facts of Fisker and the bankruptcy court's analysis suggest, however, that such concerns are unwarranted.
In Fisker, the debtors, a family of companies seeking to produce premium plug-in hybrid electric vehicles in the United States, attempted to sell substantially all of their assets under Section 363 of the Bankruptcy Code through a private sale. The sale contemplated that the main secured creditor, Hybrid Tech Holdings, LLC (Hybrid), would bid in $75 million of its secured claim to purchase substantially all of the debtor's assets. Hybrid acquired its secured claim for $25 million from the Department of Energy (DOE) on October 1, 2013 (i.e., for approximately 33 cents on the dollar), shortly before Fisker's bankruptcy petition date of November 22, 2013. Moreover, the debtors proposed an expedited sale and confirmation process with hearings on those matters scheduled to occur not later than January 3, 2014 and with parties having only 24 days to object (and even less time to object for the Creditors' Committee, which was not appointed until December 5, 2013).
The Creditors' Committee objected to Hybrid's entitlement to credit bid its claim at all, or, in any event, for more than the $25 million it paid to acquire its position. The purpose of the Creditors' Committee's objection was to permit the submission of a cash bid by Wanxiang America Corporation (Wanxiang), an entity prepared to make a meaningful bid (including a cash bid and other consideration) that would not bid on the assets if Hybrid were permitted to credit bid in the amount of $75 million. If the court overruled the Creditors' Committee's objection and permitted Hybrid's credit bid, the Creditors' Committee would withdraw its objection to the sale.
The court focused heavily on the stipulation of facts agreed to by the Debtors and the Creditors' Committee. The stipulated facts included the following: (i) if Hybrid were not permitted to credit bid or its credit bid was limited to $25 million, there was a strong likelihood there would be an auction that had a material chance of creating material value for the debtor's bankruptcy estate over and above Hybrid's original bid; (ii) if Hybrid's credit bidding rights were not so capped, there was no realistic possibility of an auction; (iii) limiting Hybrid's ability to credit bid would likely foster a competitive bidding environment; (iv) the highest and best value for the estate would be achieved only if the debtor's assets were sold as an entirety; and (v) of the assets being sold, Hybrid's lien was perfected on a portion of these assets, was not perfected on another portion of the assets, and as to a third category of assets, there was a dispute as to whether Hybrid held a perfected lien.
In ruling on the Creditors' Committee's objection, the court rejected out of hand the Creditors' Committee's argument that Hybrid should not be able to credit bid at all, holding that "[i]t is beyond peradventure that a secured creditor is entitled to credit bid its allowed claim." Rather, the court found that the "only question" was the amount that Hybrid should be permitted to credit bid. In this regard, the court observed that Section 363(k) of the Bankruptcy Code may "for cause order [ ] otherwise" with respect to a secured creditors' credit bidding rights.
The court held that the "for cause" clause of Section 363(k) justified limiting Hybrid's credit bidding rights to $25 million – the amount it paid for its secured claim. The court found "cause," in part, because the failure to so limit Hybrid's credit bidding rights would not just chill bidding, it would eliminate an auction altogether. The court was also concerned about the extremely expedited nature of the sale process, which it believed to be "inconsistent with the notions of fairness in the bankruptcy process." Finally, and most importantly, the court found "cause" to limit Hybrid's credit bidding rights because Hybrid's lien did not extend to all of the assets to be sold – rather, it included assets in which Hybrid either had no perfected lien or the perfection of the lien was in dispute.
Thus, Fisker, far from being an anomaly, appears to comport with established principles of bankruptcy law. Clearly, a secured creditor should not be permitted to use a credit bid to pay for assets in which it does not have a perfected lien or in which the lien is subject to a bona fide dispute. These concerns are especially pronounced where the sale process is so expedited and truncated that competitive bidding is either chilled or altogether destroyed. It should also be noted that, despite the serious issues raised with respect to Hybrid's collateral and the hurried sale process, there is no suggestion that Hybrid made any attempt to value that portion of its collateral on which it had a lien not subject to a bona fide dispute. Had it done so, the court may have set a different credit bidding amount. Furthermore, it is critical to acknowledge what the Fisker court did not hold. Nothing in the Fisker case fixed the allowed amount of Hybrid's secured claim or in any way limited Hybrid's right, as a secured creditor, to receive any cash proceeds paid for the Fisker assets to the extent those proceeds related to assets in which Hybrid may have held a perfected lien.
There are several important lessons that can be drawn from Fisker. The Supreme Court has acknowledged the right of a secured creditor to credit bid, and even after Fisker a careful examination of the secured creditor's claim and the validity, perfection and scope of its liens, in conjunction with diligent drafting of the sale documents, should ensure the ability of the secured creditor to exercise any valid right it may have to credit bid. Nonetheless, a creditor whose valid liens encompass only a portion of the collateral to be sold should: (a) structure its sale agreement so that its agreement to purchase is contingent upon the bankruptcy court's approval of credit bidding procedures acceptable to the bidder on its undisputed collateral (as well as any other collateral on which it may have a "DIP" financing or other lien) and allocating a fixed cash bid or other consideration to any property on which it does not hold a claim; and (b) be prepared to justify the reasonableness of such allocation at a bid procedures or sale hearing.
In conclusion, Fisker is consistent with existing law upholding the rights of a secured creditor to credit bid and does not stand for the general proposition that the credit bidding rights of a secured creditor who purchased its claims should be limited to the amount paid to acquire such claims.
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