Supreme Court Addresses Circuit Split Over Cramdown Plans Precluding Credit Bidding

Originally published in The Legal Intelligencer

In a docket crowded with blockbuster cases this term, the Supreme Court's decision concerning the circuit split over cramdown plans precluding credit bidding by secured lenders may not stoke as much passion or fury as the cases concerning the Patient Protection and Affordable Care Act or Arizona's immigration law, but RadLAX Gateway Hotel, LLC v. Amalgamated Bank, 132 S. Ct. 845 (2011) is arguably one of the more important business bankruptcy cases in over a decade. The issue in the case involves a bankruptcy plan that is confirmed over the dissent of a secured creditor (a "cramdown plan"), and whether the cramdown plan may preclude the secured creditor from "credit bidding" in an auction for the collateral that secures its claim. The practice of "credit bidding" allows a secured creditor to bid on such collateral when it is sold at a bankruptcy auction using, not cash, but a credit against the debt. This allows the secured creditor to bid up to the amount of the debt without paying additional cash, ensuring that either the debt will be paid in full (if the collateral is sold to another party for an amount at least as great as the debt), or the secured creditor can take back its collateral (to prevent a sale of the collateral for less than the amount of the debt). The point is to ensure that the secured creditor receive the collateral's "indubitable equivalent."

Since this issue came to the fore in In re Philadelphia Newspapers, LLC, 599 F.3d 298 (3d Cir. 2010), where the Third Circuit Court of Appeals came down in favor of cramdown plans precluding credit bidding, it has received a great deal of attention from practitioners and scholars. There have been voiced concerns that the Philadelphia Newspapers holding disrupts the established expectations of secured lenders and borrowers (and, by extension, related financial actors in the area of distressed investments and special situations), imposes unnecessary litigation costs, and even encourages insider manipulation of the reorganization process. In River Road Hotel Partners, LLC v. Amalgamated Bank, 651 F.3d 642 (7th Cir. 2011), the Seventh Circuit Court of Appeals took up these concerns, directly contradicting the Philadelphia Newspapers holding, and creating a split in the circuits that the Supreme Court deemed worthy of reconsideration in RadLAX.

At the heart of the matter is an issue of enormous consequence to business and the economy: the access by secured lenders to the collateral securing their loans, which collateral formed the basis of the creditor's original loan extension. A lender extends a secured loan in reliance upon the expectation that it will be able to foreclose on the attached collateral in the event of the borrower's loan default or bankruptcy. Thus, limiting the lender's access to the collateral in these circumstances undermines the lender's expectations, injecting an element of uncertainty that fundamentally alters the negotiation—and thereby the practice of secured lending in general.

The Third Circuit's Philadelphia Newspapers Decision

Whether a secured creditor has an absolute right to credit bid, or whether a debtor can confirm a cramdown plan that precludes a secured creditor from credit bidding, comes down to an interpretation of Bankruptcy Code section 1129(b)(2)(A):

(2) For the purpose of this subsection, the condition that a plan be fair and equitable with respect to a class includes the...