United States: "Golden Share" Equity Holder Can Bar Bankruptcy Filing

The Bottom Line

The Bankruptcy Court in the Southern District of Mississippi (the "Court"), in In re Franchise Services of North America, Inc., Case No. 1702316EE (Bankr. S.D. Miss. Dec. 18, 2017), upheld the blocking power held by a "substantial equity holder", prohibiting a company from filing bankruptcy, as "valid enforceable and . . . not contrary to public policy under federal law."  Two affiliated parties moved for the dismissal of the bankruptcy case as unauthorized.  Of note, one of the moving parties was a creditor of the debtor but its affiliate (holding the golden share) was not.  The court examined the universe of reported cases examining golden shares or blocking provisions and distinguished between the capacity of the affiliated moving parties – creditor vs shareholder.  The Court denied the request of the creditor affiliate but granted the request of the shareholder affiliate and dismissed the chapter 11 petition for lack of corporate authorization.  

What Happened

The debtor, Franchise Services of North America ("FSNA"), acquired Advantage Rent-A-Car from The Hertz Corporation ("Hertz") (the "Advantage Acquisition").  In order to finance the Advantage Acquisition, a separate entity was created, Boketo LLC ("Boketo"). Boketo is 100% indirectly owed by Macquarie Capital (USA) Inc. ("Macquarie").  Boketo invested $15 million in FSNA and was given a 49.76% interest in FSNA in the form of Series A Preferred Stock, making Boketo the largest single shareholder of FSNA.  This is important to the decision because Boketo's sole interest was as shareholder.  Separately, Adreca Holdings Corporation ("Adreca") acquired 100% of Simply Wheelz, LLC ("Simply Wheelz") (the "Simply Wheelz Transaction"). After the Simply Wheelz Transaction, Adreca merged into FSNA and FSNA operated the Advantage business via Simply Wheelz.

As a result of the Simply Wheelz Transaction, FSNA agreed to pay Macquarie a financial advisory fee of $500,000 and an arrangement fee of $2.5 million. This is also important to the decision because Macquarie's interest was as a creditor – even though its indirect subsidiary was the controlling shareholder. Several months later, in November 2013, Simply Wheelz filed a chapter 11 petition (the "Simply Wheelz Bankruptcy Case").  During the Simply Wheelz Bankruptcy Case, Simply Wheelz sold substantially all of its assets to Advantage Opco, LLC.

Fast forward to June 26, 2017, FSNA filed its own chapter 11 petition (the "FSNA Bankruptcy Case").  A Certified Resolution memorialized the decision of FSNA's board to file for bankruptcy. At a status conference two weeks later, the attorney for Macquarie questioned whether FSNA obtained shareholder consent to file bankruptcy in accordance with section 4(j) of FSNA's Certificate of Incorporation.  Macquarie (the creditor affiliate) subsequently filed a motion to dismiss on grounds that FSNA failed to get the consent of Boketa for its bankruptcy filing, in violation of its Certificate of Incorporation (the "Motion").  Boketa (the shareholder affiliate) filed a joinder to the Motion (the "Joinder").

First, before delving into the substantive merits, the Court addressed a procedural issue.  FSNA argued that the Motion and Joinder should be denied because of the principles of waiver, estoppel, and/or laches.  The Court disagreed because "it is well-settled that objections to subject matter jurisdiction may be made at any time."  Id. at 8.  The Court cited Fifth Circuit case law that held bankruptcy courts lack subject matter jurisdiction over bankruptcy petitions filed without the requisite corporate authority.

Next, the Court addressed the substantive issue of whether one or both movants could seek dismissal of the case.  This required a careful parsing of the roles of the affiliated movants.  Before looking at the facts of the case, the Court reviewed six opinions from bankruptcy courts and one opinion from a district court, each of which examined the ability of a golden shareholder to block the filing of bankruptcy. The Court found that all cases agreed that blocking power held by a creditor is "void as a matter of public policy." However, the cases also made it "clear" that "golden shares or blocking provisions" would be upheld as valid if held by an equity holder. In applying the precedent to the case at hand, the Court ruled that Macquarie – as movant – could not seek dismissal because it was a creditor, being owed an arrangement fee of $3 million; "to the extent that the Macquarie Parties claim to hold a golden share or blocking provision, it is void as a matter of public policy."  Id. at 19.

The Court next turned to whether Boketo, as shareholder, could move for dismissal.  As part of its analysis, the Court noted that there was no evidence that Boketo was a creditor.  In doing so, the Court addressed the Debtor's argument that Boketo and Macquarie were "one entity" because Macquarie was alleged to control its indirect subsidiary. The Court dismissed the relevance of the argument: 

Assuming that the control Macquarie has over Boketo is such that there is no practical difference between the two entities, the result would not change. Like the creditor Drawbridge in the Global Ship case [In re Global Ship Systems, LLC, 391 B.R. 193, 203 (Bankr. S.D. Ga. 2007)], Macquarie would be wearing "two hats." Macquarie's one hat is as the creditor owed $3,000,000.00, and the other hat as the equity holder Boketo with a $15,000,000.00 stake in the Debtor. "[S]ince [Macquarie] wears two hats in this case . . . it has the unquestioned right to prevent, by withholding consent, a voluntary bankruptcy case."

Id. at 19-20.

Having recognized that Macquarie's dual interest was appropriate and did not taint Boketo, the Court examined governing provisions of FSNA's Certificate of Incorporation. Specifically, section 4(j) stated that an affirmative vote of a majority of the shares of Series A Preferred Stock must be met in order to effect any "liquidation event."  As a large holder of the Series A Preferred Stock, Boketo's vote was necessary to approve the filing of a bankruptcy petition.

FSNA also attempted to argue that section 4(j) was a violation of Delaware law because the FSNA board of directors had a fiduciary duty to act in the best interest of the debtors and decide whether it was in the company's best interest to file bankruptcy.  The Court disagreed and found that the FSNA Board of Directors made the active decision to add section 4(j) and take the authority of filing for bankruptcy out of its hands and to give it to Boketo:  "[W]hen the FSNA Board included § 4(j) in its Certificate of Incorporation, the FSNA Board made the decision to take the authority for filing bankruptcy out of its hands and give it to Boketo. In other words, as authorized by § 102(b)(1) [of the Delaware Code], the FSNA Board made the decision to delegate to an equity holder its authority to decide whether the Debtor would file bankruptcy."  Id. at 24.

Ultimately, because the Court determined that Boketo (irrespective of Macquarie's dual interests) wore only one hat – that of an equity holder with a $15 million investment – it had the "unquestioned right" to block the bankruptcy filing. Therefore, the Court could dismiss the bankruptcy filing.

Why the Case is Interesting

Until this case, only six bankruptcy courts and one district court addressed whether a "golden share" shareholder could block a company from filing for bankruptcy where the consent requirement was embedded in the debtor's organizational documents. The Court disregarded the relevance of a wholly-owned, controlled subsidiary of a creditor holding the "golden share" in allowing the shareholder to exercise its governance rights.  The presiding judge, Judge Edward Ellington has certified the case for direct appeal to the Fifth Circuit.  If the Fifth Circuit accepts the direct appeal, this will be the first time a Circuit Court has been asked to address this issue.  The Fifth Circuit's decision may shape the landscape for structuring a loan.  Depending on the Fifth Circuit's decision, creditors may structure loans to grant an affiliated equity holder a golden share approval right to any bankruptcy filing.  Although not specifically addressed in the decision, the debt at issue ($3 million) followed the much more substantial equity investment ($15 million) in the Debtor.  This is not a case where the lender is taking equity of the borrower as part of the initial loan transaction where the issuance of the equity is not in exchange for a separate investment, as opposed to part of the overall loan transaction.

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.

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