Kirschner: Implications For Syndicated Term Loans

• Published date: 01 September 2023
• Subject Matter: Finance and Banking, Corporate/Commercial Law, Securitization & Structured Finance, Securities
• Law Firm: Mayer Brown
• Author: Mr Scott Zemser, Frederick C. Fisher, Adam Wolk, J. Bradley Keck, Stuart Litwin, Arthur S. Rublin and Michael Ware

Last Thursday morning, August 24, the US Court of Appeals for the Second Circuit issued a decision in the closely watched Kirschner v. JPMorgan case, rejecting the plaintiff's argument that the subject syndicated term loans should be treated as securities.¹

The Second Circuit issued its decision just a few weeks after the US Securities and Exchange Commission ("SEC") declined to weigh in on the case despite having requested three extensions for the filing of a submission.

In advance of the SEC's decision not to opine on the matter and the Second Circuit's decision last Thursday, a range of loan market participants were concerned about the prospect that the court could find that syndicated term loans should be treated as securities. There was considerable concern that such a finding would create substantial negative implications for the origination and trading of broadly syndicated institutional term loans, "term loan Bs" ("TLBs"), which are typically syndicated to institutional lenders such as CLOs and hedge funds.

In addition to the TLB market, the CLO markets welcomed the news of the Second Circuit's Kirschner decision just a day after they welcomed the SEC's promulgation of pared-back Private Fund Adviser Rules that included a broad carve-out for CLO managers.²

We discuss the Kirschner decision below.

DISTRICT COURT APPLIES REVES TEST TO FIND NO SECURITIES

The "Notes" at issue in the Kirschner case are actually loans in the form of syndicated TLBs. While the loans, like all TLBs, are governed by a credit agreement, that credit agreement (as is typical) permits lenders to request short-form promissory notes issued to further evidence their loans'and it is the underlying loans, not any such promissory note, that were syndicated. As part of the Chapter 11 bankruptcy proceedings for Millennium Health, the plaintiff, Marc Kirschner, was appointed trustee of the Millennium Lender Claim Trust, the ultimate beneficiaries of which are lenders who purchased portions of the loans issued by Millennium Health and have claims in the bankruptcy proceeding.

Kirschner filed suit in 2017 in New York state court against several financial institutions that were involved with the syndication, with claims that included violation of state securities laws. The case was removed to the US District Court for the Southern District of New York.

In May 2020, US District Judge Paul Gardephe granted the defendants' motion to dismiss.³ With respect to the state securities laws claims, Judge Gardephe applied to the Millennium syndicated loans the four-factor "family resemblance" test outlined by the US Supreme Court in Reves v. Ernst & Young.⁴ Under the Reves test, courts are to begin with the presumption that every "note" is a security and that presumption may be rebutted by a showing that the subject note bears a strong "family resemblance" to notes in a list of instruments that courts have recognized as not being securities. Judge Gardephe ultimately determined that "the limited number of highly sophisticated purchasers of the [Millennium] Notes would not reasonably consider the Notes 'securities' subject to the attendant regulations and protections of Federal and state securities law."⁵

Kirschner appealed Judge...