Bankruptcy Law Insights

Madoff Trustee Seeks Summary Judgment With Respect To Fictitious Profits, Mets' Owners With Respect to Principal Repayments -- "Jack Sprat" Approach Could Resolve Entire Case

Ben Feder — Thu, 02 Feb 2012 11:35:30 -0500

The adversary proceeding of Irving Picard, the trustee of Bernard L. Madoff Investment Securities LLC (“BLMIS”), against Fred Wilpon and Saul Katz, the owners of the New York Mets, and their families and affiliated enterprises (the “Wilpon/Katz Group”), could be substantially resolved over the next few weeks. Although the trial is scheduled to begin on March 19, each side intends to ask Judge Jed S. Rakoff at a hearing on February 23 to rule in its favor with respect to certain of the transfers made by BLMIS to the Wilpon/Katz Group during the two-year period prior to the commencement of the BLMIS liquidation case in December 2008. Picard asserts that there are no material disputed issues of fact with respect to at least $83 million that evidences the fictitious profits received by the Wilpon/Katz Group during that period, and the Wilpon/Katz Group makes the same contention regarding the remaining payments over that time that constituted the return of principal.

Between them, Picard and the Wilpon/Katz Group have covered virtually all of the payments that remain at issue following Judge Rakoff’s ruling last September that dismissed most of Picard’s claims. This “Jack Sprat” approach could resolve the entire case.

Both sides are following paths essentially laid out by Judge Rakoff in the September ruling. Judge Rakoff dismissed most of the counts against the Wilpon/Katz Group based on his reading of the “safe harbor” provisions Section 546(e) of the Bankruptcy Code, which substantially reduced Picard’s potential recovery from nearly $1 billion to approximately $384 million. Judge Rakoff also set a very high standard for Picard to meet in order to recover any payments other than “fictitious profits”, stating that “the principal invested by . . . Madoff’s customers ‘gave value to the debtor,’ and therefore may not be recovered by the Trustee absent bad faith.” In Judge Rakoff’s view, Picard can only recover payments evidencing a return of principal by showing a lack of good faith tantamount to “willful blindness”. The Wilpon/Katz Group details the so-called “red flags” that Picard has set forth to show that the Wilpon/Katz Group should have suspected Madoff, and argues that in total they do not come close to clearing the hurdle established by Judge Rakoff.

Picard, on the other hand, has taken Judge Rakoff up on his virtually gold-plated invitation to seek summary judgment for the fictitious profits. “[G]iven the difficulty defendants will have in establishing that they took their net profits for value, the Trustee might well prevail on summary judgment seeking recovery of the profits[,]” the judge wrote in the September ruling. While Judge Rakoff has not yet ruled on the appropriate method for calculating the portion of the $384 million attributable to fictitious profits, Picard has consistently taken the position that the amount is approximately $83 million.

A ruling in favor of both motions would constitute a far larger victory for the Wilpon/Katz Group than for Picard. The Wilpon/Katz Group will have reduced its potential $1 billion exposure down to a level that will likely allow them to retain ownership of the Mets, and avoid the time, costs, and publicity of a lengthy trial. On the other hand, even with a victory regarding the $83 million, an appeal by Picard of the September ruling is highly likely.

Five Weeks Until Pitchers and Catchers Report, Eight Weeks Until Lawyers Report - Madoff Judge Confirms Mid-March Trial For Trustee's Claims Against Mets' Owners

Ben Feder — Thu, 19 Jan 2012 12:00:59 -0500

Judge Jed S. Rakoff this week denied the request of Irving Picard, the trustee of Bernard L. Madoff Investment Securities LLC (“BLMIS”), to pursue an immediate appeal of Judge Rakoff’s recent decision to dismiss most of the counts set forth in Picard’s adversary proceeding against Fred Wilpon and Saul Katz, the owners of the New York Mets, and their families and affiliated enterprises (the “Wilpon/Katz Group”). He reaffirmed that the trial on Picard’s claims against the Wilpon/Katz Group will begin on March 19, 2012.

In his earlier ruling, Judge Rakoff held that the “safe harbor” provisions in Section 546(e) of the Bankruptcy Code limit Picard’s power to recover any transfer from a “stockbroker” that was a “settlement payment” made “in connection with a securities contract”. Crucially, this interpretation of 546(e) only permits a recovery of intentionally fraudulent transfers pursuant to Section 548(a)(1)(A) of the Bankruptcy Code, which has a two-year look back period. It completely eliminates Picard’s ability to rely on the six-year look back period under New York state law fraudulent transfer provisions, and reduces the maximum amount that Picard could possibly recover from the Wilpon/Katz Group from nearly $1 billion to approximately $384 million.

In yesterday’s opinion, Judge Rakoff held that Picard had failed to show the necessary “extraordinary circumstances” which would warrant the “interlocutory” appeal and justify the indefinite delay of the pending trial. He directed Picard to wait until after the trial, when “an appellate court will be able to review, on a full record, not just [the] rulings of which the Trustee now complains, but all relevant rulings in this [complicated] proceeding[.]” Judge Rakoff disregarded Picard’s contention that the Second Circuit’s recent opinion, rejecting customer claims based upon Madoff’s fabricated BLMIS account statements, should prevent Ponzi scheme transfers from qualifying for “safe harbor” protection under Section 546(e), because no stocks or securities were actually ever sold. Judge Rakoff noted that the extent of the Wilpon/Katz Group defendants’ knowledge of Madoff’s activities, “one of the key issues in the forthcoming trial,” could be highly relevant to the question of whether transfers made as part of a Ponzi scheme should qualify for “safe harbor” treatment, and that “the factual record thus developed will be useful for assessing [those] issues now raised by the Trustee.”

Judge Rakoff’s earlier decision also set a very high standard for Picard to meet in order to recover any distributions to the Wilpon/Katz Group other than “fictitious profits”. As previously discussed on this site, while amounts paid out by BLMIS to investors such as the Wilpon/Katz Group as part of the Ponzi scheme can satisfy the requirement of actual fraud under Section 548(a) of the Bankruptcy Code, under Section 548(c) the Wilpon/Katz Group defendants can defeat Picard’s efforts to recover such distributions to the extent that they can show that they provided value, such as invested principal, in exchange for such distributions. Judge Rakoff has not yet ruled on the key question of how much of the $384 million in aggregate distributions during the two-year look back period should constitute “fictitious profits” and how much should be deemed to be the return of invested principal. He requested the parties to brief this issue following his earlier decision. Insofar as Judge Rakoff noted in the earlier decision that Picard “might very well prevail on summary judgment seeking recovery of the [fictitious] profits”, his ruling on the method for the calculation of such profits will likely be the determinative issue in this case.

The Right Kind of Broke? Judge Weighs Deeply Insolvent County's Eligibility For Chapter 9 Protection

Ben Feder — Fri, 06 Jan 2012 11:35:55 -0500

The travails of Jefferson County, Alabama are well known. Ordered by a federal court to upgrade its sewer system in the late 1990’s, the project was marred by corruption, cost overruns and financing with complex derivatives that ultimately saddled the County with over $3 billion in debt. In addition, an occupational tax that provided the primary source of its unrestricted general fund revenues was invalidated, and the County faces both huge refund claims and operating revenue shortfalls. There is no dispute that Jefferson County is deeply insolvent, and there was little surprise when the County filed a petition under Chapter 9 of the Bankruptcy Code in early November in the Northern District of Alabama, commencing the largest municipal bankruptcy case in history.

For all of its problems, however, the County may not be eligible for Chapter 9 protection. The County’s bankruptcy petition has been challenged and a colorable issue exists as to whether the County can satisfy the strict requirements which must be met in order for a municipality to use Chapter 9 to seek adjust its debts. Among other things, those requirements, set forth in Section 109(c) of the Bankruptcy Code, state that a municipal entity seeking to be a debtor under Chapter 9 must demonstrate that it “is specifically authorized . . . by State law . . . to be a debtor under such chapter.” In Jefferson County’s case, the question is whether the nature of its debt obligations fall within the parameters of the Alabama authorization statute, Alabama Code Section 11-81-3. As strange as it sounds, Jefferson County’s staggering debt may not be the right kind of debt to enable it to utilize Chapter 9 of the Bankruptcy Code.

Jefferson County issued its debt in the form of warrants; it has no outstanding bond debt. The differences between warrants and bonds may be highly technical but they are evidently cognizable under Alabama law. The debt holders opposing the Chapter 9 petition contend that the first sentence of Alabama Code Section 11-81-3 only authorizes a Chapter 9 filing by the “governing body of any county, city or town . . . which shall authorize the issuance of refunding or funding bonds”, and that the distinction between bonds and warrants is sufficient to render Jefferson County ineligible for Chapter 9, since it cannot show that has been “specifically authorized” to use Chapter 9 under Alabama law. One bankruptcy judge in the Southern District of Alabama recently dismissed the Chapter 9 case of another Alabama municipality that had no outstanding bond debt. The federal district judge hearing the appeal of that dismissal has certified the question to the Alabama Supreme Court.

The County argues in response that the second sentence of Alabama Code Section 11-81-3, which contains express language that “authorizes each county, city or town . . . to proceed under the provisions of the acts for the readjustment of its debts”, is not limited by the reference to bond debt in the first sentence. It alternatively contends that even if the first sentence of Section 11-81-3 does provide such a limitation, the County’s previous issuances of bonds, even if not currently outstanding, satisfies the requirement.

Judge Thomas Bennett, the bankruptcy judge overseeing the Jefferson County case, has indicated that he may also certify the issue to the Alabama Supreme Court.

Does a Single "Or" Excommunicate Congressional Intent From the Bankruptcy Code? Supreme Court to Resolve Circuit Split on Credit Bidding

Ben Feder — Tue, 13 Dec 2011 17:23:51 -0500

The U.S. Supreme Court will rule this term in RadLAX Gateway Hotel Inc. v. Amalgamated Bank on whether the Bankruptcy Code permits a debtor in a chapter 11 case to sell encumbered assets without providing the secured lender an opportunity to credit bid its debt. Determination of this question will require the Court essentially to choose between two opposing approaches to statutory interpretation, and decide whether the so-called “plain meaning” of a highly formalistic reading of the Bankruptcy Code should trump decades of established commercial practice.

A circuit split arose earlier this year, when the Seventh Circuit in River Road Hotel Partners, a companion case to RadLAX Gateway Hotel, declined to follow the Third Circuit’s 2010 decision in Philadelphia Newspapers, and instead expressly adopted the position set forth in the dissenting opinion from that case of Judge Tom Ambro. As previously described on this site, the debtor in River Road sought to rely on Philadelphia Newspapers in putting forward a plan of reorganization that proposed an auction of the secured lenders’ collateral, but would have expressly denied the lenders the right to credit bid their debt. Section 1129(b)(2)(A) of the Bankruptcy Code describes three different means by which a plan of reorganization can be found to be “fair and equitable” and thus capable of being confirmed without the consent of a secured lender class (i.e., “crammed down”):

(i) lender retention of liens securing the obligations and receipt of the present value of its secured claim,

(ii) sale of collateral free and clear of liens but subject to credit bidding, or

(iii) the realization by the creditor of the “indubitable equivalent” of its secured claim.

Notwithstanding the express reference in subsection (ii) of Section 1129(b)(2)(A) to the right to credit bid in connection with a sale “free and clear” of liens, the Third Circuit in Philadelphia Newspapers held that a sale “free and clear” could also take place without allowing the lenders to credit bid under subsection (iii), the “indubitable equivalent” prong. The Third Circuit concluded that the “plain meaning” of the use of the disjunctive “or” in the statute shows that subsection (ii) is not the “exclusive means” by which a secured lender’s collateral may be sold “free and clear” under a plan of reorganization and that, so long as the debtor or other plan proponent could show that the “indubitable equivalent” prong were being satisfied, the opportunity to credit bid need not be provided.

Judge Ambro, a longtime bankruptcy practitioner before being named to the bench, castigated the majority’s refusal to look beyond what it viewed as the sole plausible reading of Section 1129(b)(2)(A). In Judge Ambro’s view, the result flew in the face of both the established principle that property rights in bankruptcy look to applicable non-bankruptcy law, and the expectation that the Bankruptcy Code expressly protects such non-bankruptcy rights -- particularly the right of a secured creditor to look to its collateral in the event of non-payment. As he wrote, “In effect, a single ‘or’ becomes the bell, book and candle that excommunicates Congressional intent from the Bankruptcy Code . . . [and] upset[s] three decades of secured creditors’ expectations[.]”

The bankruptcy judge in River Road expressly rejected the reasoning of the Philadelphia Newspapers majority. The Seventh Circuit unanimously agreed, stating that “like the bankruptcy court, we find the statutory analysis articulated by Judge Ambro in his Philadelphia Newspapers dissent to be compelling.”

The RadLAX Gateway Hotel debtor sought a writ of certiorari from the Supreme Court. They were joined by the Loan Syndication and Trading Association (“LSTA”), a loan market participants’ industry group that has been strongly supportive of lenders’ credit bidding rights. The LSTA announced that it “decided to support the appeal to the Supreme Court because, although [RadLAX Gateway Hotel] is a favorable ruling, the benefit to the market of certainty on credit bidding is an opportunity that cannot be missed.”

The Supreme Court has not been consistent in its approach to Bankruptcy Code interpretation. While it has strictly applied the “plain meaning” approach in several recent bankruptcy cases, at other times it has been willing to look to underlying Congressional purpose. The latter approach here will unquestionably result in an affirmation of the Seventh Circuit. The former will leave the LSTA regretting that it got what it asked for.

Los Angeles Dodgers' Chapter 11 Case: No Replay of Texas Rangers' Drama

Ben Feder — Wed, 09 Nov 2011 11:39:39 -0500

A World Series as exciting as any in memory ended two weeks ago. Notwithstanding the end of the season, the Los Angeles Dodgers’ chapter 11 case offered the promise of more baseball-related thrills. Dodger’s owner Frank McCourt and Major League Baseball (“MLB”) Commissioner Bud Selig appeared headed towards an epic courtroom showdown that promised to rival the high drama of the cliffhanger auction in last year’s Texas Rangers’ bankruptcy. However, the settlement last week between McCourt and MLB peremptorily ended the battle.

The Dodgers’ bankruptcy reflected a desperate effort by McCourt to remain in control of the team despite his personal financial woes and the embarrassing allegations that emerged in the wake of his divorce from his wife (and co-owner). The apparent strategy was to use the protections of bankruptcy as a shield to prevent Major League Baseball from exercising its right to remove him from control of the Dodgers for long enough to effect a sale of the team’s media rights. Such a sale almost certainly would have enabled McCourt to propose a plan that would have paid all of the Dodgers’ creditors in full, and attempt (over MLB’s certain objection) to assume the agreements pursuant to which the Dodgers’ are permitted under the Major League Baseball Constitution to operate as a MLB franchise (the “MLB Agreements”).

It was, however, a long-shot from the outset. As previously stated in this space:

[The team’s bankruptcy lawyers] will probably be able to stave off a quick takeover of the Dodgers by Major League Baseball, and to turn aside the demands that the case be dismissed or that a trustee be appointed to run the team. They should also succeed in buying McCourt enough time to negotiate a sale of the team on favorable terms. But McCourt’s true goal here – to use the Chapter 11 process to keep permanent control of the team – appears to be beyond the reach of any lawyer. The Major League Baseball Constitution, pursuant to which McCourt acquired and holds the Dodgers’ franchise rights, in the end vests too much power in Commissioner Bud Selig and the other owners. Even assuming that McCourt can come up with a plan to pay off the Dodgers’ creditors, the Dodgers’ bankruptcy will almost certainly only delay the inevitable exercise of power by Major League Baseball to terminate McCourt’s right to operate the franchise.

The Dodgers did proceed with a motion to establish auction procedures for the sale of media rights, and MLB responded by seeking to compel a sale of the team. MLB’s papers emphasized the futility of allowing McCourt to proceed with a sale, arguing that he would never be able to cure the breaches of the MLB Agreements.

A hearing on both matters was initially scheduled to be heard on October 31, and was then postponed until late November. One can only speculate as to why McCourt abandoned the fight when he did. It is possible that a damaging new piece of evidence came out in the discovery leading up to the hearing. It is also possible that McCourt finally realized the scope of the odds against him, and that following a sale, as MLB described in its pleadings, “Mr. McCourt will likely receive hundreds of millions of dollars, placing him in a position to pay all of his personal debts, and be left a very wealthy man.”

Judge Rakoff Squeezes Strike Zone for Madoff Trustee

Ben Feder — Fri, 07 Oct 2011 15:42:04 -0500

Judge Jed S. Rakoff last week largely sided with Fred Wilpon and Saul Katz, the owners of the New York Mets, and their families and affiliated enterprises (the “Wilpon/Katz Group”) on their motion to dismiss the adversary proceeding brought by Irving Picard, the trustee of Bernard L. Madoff Investment Securities LLC (“BLMIS”). Judge Rakoff’s decision will affect not only this particular lawsuit, but also many of the other lawsuits Picard has commenced seeking the recovery of funds from former investors of BLMIS. (Kelley Drye & Warren LLP represents other Madoff investors who may benefit from this ruling.)

Judge Rakoff dismissed most of the counts against the Wilpon/Katz Group based on his reading of the “safe harbor” provisions Section 546(e) of the Bankruptcy Code. That section limits a trustee’s powers to recover any transfer from a “stockbroker” that was a “settlement payment” made “in connection with a securities contract” to transfers made with actual fraudulent intent. Crucially, this interpretation of 546(e) only permits a recovery of intentionally fraudulent transfers pursuant to Section 548(a)(1)(A) of the Bankruptcy Code, which has a two-year look back period. It completely eliminates Picard’s ability to rely on the six-year look back period under New York state law fraudulent transfer provisions.

The ruling constitutes a huge victory for the Wilpon/Katz Group. In addition to substantially reducing Picard’s potential recovery by reducing the look back period from six years to two years, Judge Rakoff set a very high standard for Picard to meet in order to recover any payments other than “fictitious profits”. As has been widely-publicized, Picard has sought the return of all transfers made from BLMIS to the Wilpon/Katz Group, including those that constituted the return of invested principal, due to a lack of “good faith”, based on the so-called “red flags” that Picard believes should have given the Wilpon/Katz Group reason to suspect Madoff. In Judge Rakoff’s view, however, Picard can only recover payments evidencing a return of principal by showing a lack of good faith tantamount to “willful blindness”.

Judge Rakoff did leave open one issue that could somewhat mitigate the Wilpon/Katz Group’s victory here. Although the “fictitious profits” they received from BLMIS during the two year look back period totaled $83 million, Rakoff stated in a footnote that he would not resolve “whether the Trustee can avoid as profits only what the defendants received in excess of their investment during the two year look back period . . . or instead the excess they received over the course of their investment with Madoff.” In a separate order issued the following day, directing the parties to set a briefing schedule, he elaborated, “[T]he total of all transfers made during the two-year [look back] period . . . appears to be $386 million. However, it remains an open question whether, in determining what portion of that sum should be considered principal and what portion profits, reference should be made only to that period or should be made to earlier transfers as well.”

An appeal by Picard is a near-certainty. Even if Picard and the Wilpon/Katz Group reach a settlement, it will affect too many other adversary proceedings brought by Picard for him to let stand. The Second Circuit Court of Appeals recently handed Picard a major victory by rejecting the ability of Madoff investors to rely on the fabricated account statements for the purpose of asserting claims against the BLMIS estate. He will undoubtedly look to try his luck there again.

NewPage - A Good Old Fashioned Free-Fall Chapter 11 Case

Ben Feder — Fri, 16 Sep 2011 14:59:32 -0500

Last week’s Chapter 11 filing by NewPage Corporation, a company with assets and liabilities in the billions of dollars, stands as a relative rarity in the current restructuring environment. Running contrary to the “new normal” in larger restructurings, NewPage filed for bankruptcy protection without a pre-arranged or pre-negotiated exit solution, such as a back-stopped rights offering or a stalking horse bidder for a sale of the enterprise as a going concern. The company instead will take advantage of the protections offered by Chapter 11 while it seeks to work out a solution with its creditors. It promises to be an interesting case to watch.

NewPage at first glance appears to have viable core operations and an extremely top heavy balance sheet. A deleveraged enterprise that successfully uses Chapter 11 to shed unprofitable or less profitable business lines, reject burdensome contracts, sell unneeded assets, and streamline operations would likely have substantial long term value.

The primary focus in this case therefore will be the simple question: where’s the fulcrum? In other words, which level of debt in the capital structure will be entitled to receive the majority of the equity when the company emerges from Chapter 11? So far, it looks to be shaping up to be a battle of NewPage's First Lien Noteholders versus its Second Lien Noteholders. Unsurprisingly, both groups are controlled by aggressive hedge funds that specialize in buying distressed debt at prices below par.

The First Lien Noteholders are almost certainly looking to push NewPage to move forward quickly with a plan predicated on a low valuation that would cram down most or all junior creditors and deliver to themselves the equity in the reorganized enterprise. The Second Lien Noteholders will vociferously oppose any such valuation, and may be looking for the opportunity to backstop a rights offering that would cash out the First Lien Noteholders.

NewPage itself very much looks to be seeking to tee things up so that the Second Lien Noteholders will have such an opportunity to step up with new capital, rather than have this case come down to a complex and lengthy valuation fight. As part of its debtor in possession financing, NewPage sought authorization to reimburse the Second Lien Noteholders for professional fees and expenses, “subject to the Court’s ultimate determination as to whether the Second Lien Lenders make a substantial contribution” to the bankruptcy case. Under the “substantial contribution” standard, a creditor that acts for the benefit all parties, and not only its own narrow interests, can be reimbursed its costs and expenses. NewPage states, “[T]his reorganization may well depend on the Prepetition Second Lien Noteholders’ ability to refinance all or a portion of the first lien debt . . . The Debtors believe that such authority . . . will incentivize and expedite the administration of these cases and will prevent unwarranted litigation and benefit the estates and the reorganization.”

Alliances between and among the First and Second Lien Noteholders and various other parties will be made and broken over the next several months. These will include holders of NewPage’s subordinated 12% Senior Unsecured Notes and the company’s trade creditors. One or more rivals may make an unsolicited purchase offer. Finnish paper manufacturer Stora Enso, which sold certain assets to the Debtors in 2007 and took back equity and structurally subordinated notes, may look to make a strategic acquisition here. Enlivening the mix will likely be the company’s labor unions (particularly if NewPage seeks to modify collective bargaining agreements or retiree benefits), the EPA, the PBGC, and Cerberus Capital Management, the Debtors’ primary equity sponsor.

Mets' Owners Swing for the Fences Against Madoff Trustee

Ben Feder — Wed, 24 Aug 2011 14:25:25 -0500

Fred Wilpon, Saul Katz, and their families and affiliated enterprises (the “Wilpon/Katz Group”) last week formally requested the dismissal of the adversary proceeding commenced by Irving Picard, the trustee of Bernard L. Madoff Investment Securities LLC (“BLMIS”). In a two hour hearing before U.S. District Court Judge Jed Rakoff, the Wilpon/Katz Group argued that Picard has no basis to seek the return of approximately $1 billion received over the years by the Wilpon/Katz Group from BLMIS.

Picard’s complaint seeks to avoid all transfers made by BLMIS to the Wilpon/Katz Group as “fraudulent conveyances”, and to recover such amounts on behalf of the BLMIS estate. Both the U.S. Bankruptcy Code and New York State law permit a trustee to recover transfers made up to six years prior to the bankruptcy case by an insolvent debtor for less than “reasonably equivalent value” or which were made with fraudulent intent. However, a “good faith” transferee can retain such property or funds to the extent it gave value to the debtor in exchange for the challenged transfer, such as the satisfaction of antecedent debt.

The Wilpon/Katz Group argued that “reasonably equivalent value” existed for the $300 million of fictitious profits that the Wilpon/Katz Group received from BLMIS. Since the account statements issued by BLMIS prior to the discovery of Madoff’s fraud evidenced substantial account balances, the Wilpon/Katz Group contends that such payments constituted the satisfaction of antecedent debt as reflected by those statements. Unfortunately for the Wilpon/Katz Group, the U.S. Court of Appeals for the Second Circuit last week squarely rejected the ability of Madoff investors to rely on the fabricated account statements for the purpose of asserting claims against the BLMIS estate, and it is highly unlikely that Judge Rakoff would view the account statements any differently in this context.

The hearing’s primary focus centered on Picard’s highly aggressive efforts to claw back $700 million of payments that were constituted the return of invested principal. Insofar as invested principal typically constitutes “reasonably equivalent value” or value given in “good faith”, Picard’s efforts turn on whether his many allegations and inferences regarding the so-called “red flags” regarding Madoff’s fraud, which he contends were willfully ignored by the Wilpon/Katz Group, add up to a level of malfeasance or knowledge on the part of the Wilpon/Katz group sufficient to vitiate “good faith”. While Picard seems to have an uphill battle on this issue, a ruling that would allow him to proceed to trial would put immense pressure to settle on the Wilpon/Katz Group. Because Judge Rakoff went ahead and scheduled a March trial date, even though he has expressly reserved his decision on the motion to dismiss, some commentators have taken this as an indication that he is going to allow Picard the chance to prove his allegations that the Wilpon/Katz Group knew or should have known about Madoff’s fraud, thus putting the entire $1 billion at risk for the Wilpon/Katz Group.

However, a trial may be necessary even if Judge Rakoff rules in favor of the Wilpon/Katz Group with respect to the $700 million. One highly material issue remarkably has received very little attention so far even from the parties themselves; in the briefs filed ahead of the hearing it was addressed solely in footnotes. Of the $300 million in “fictitious profits” that Picard is looking to recover, nearly $133 million was transferred outside of the six year look-back period. Picard contends that the six year limitation under New York law should not apply because “the fraudulent scheme perpetrated by BLMIS was not reasonably discoverable by at least one unsecured creditor of BLMIS[,]”, an argument that seems discordant with his allegations about the plethora of “red flags” that the Wilpon/Katz Group supposedly ignored. A ruling by Judge Rakoff directing a trial solely on the amount of fictitious profits which may be recovered would in fact be a favorable outcome for the Wilpon/Katz Group.

Judge Rakoff probably will not rule until late September. At that time, the Wilpon/Katz Group may be looking at a trial with $1 billion at stake. Picard may just as easily be looking at a trial that would reduce his likely recovery to $167 million.

Former Governor Mario Cuomo, the mediator appointed in this proceeding, will likely be very busy over the next few weeks.

So This Is Why Judges Bother to Write Dissenting Opinions -- Seventh Circuit Decision on Credit Bidding Vindicates Judge Ambro's Philadelphia Newspapers Dissent

Ben Feder — Tue, 26 Jul 2011 15:40:32 -0500

Critics of last year’s decision on credit bidding by the Third Circuit Court of Appeals in the Philadelphia Newspapers chapter 11 case welcomed the Seventh Circuit’s recent unanimous opinion in River Road Hotel Partners LLC. The Seventh Circuit expressly adopted the Judge Tom Ambro’s cogent analysis in his Philadelphia Newspapers dissent.

In River Road, the debtors sought to rely on Philadelphia Newspapers in putting forward a plan of reorganization that proposed an auction of the secured lenders’ collateral, but would have expressly denied the lenders the right to credit bid their debt. The rationale in both cases rested on a formalistic reading of Section 1129(b)(2)(A) of the Bankruptcy Code. That section describes three different means by which a plan of reorganization can be found to be “fair and equitable” and thus capable of being confirmed without the consent of a secured lender class (i.e., “crammed down”):

(i) lender retention of liens securing the obligations and receipt of the present value of its secured claim,

(ii) sale of collateral free and clear of liens but subject to credit bidding, or

(iii) the realization by the creditor of the “indubitable equivalent” of its secured claim.

Notwithstanding the express reference in subsection (ii) of Section 1129(b)(2)(A) to the right to credit bid in connection with a sale “free and clear” of liens, the Third Circuit in Philadelphia Newspapers held that a sale “free and clear” could also take place without allowing the lenders to credit bid under subsection (iii), the “indubitable equivalent” prong. The River Road debtors asked the bankruptcy court to follow the Third Circuit’s conclusion that the “plain meaning” of the use of the disjunctive “or” in the statute shows that subsection (ii) is not the “exclusive means” by which a secured lender’s collateral may be sold “free and clear” under a plan of reorganization and that, so long as the debtor or other plan proponent could show that the “indubitable equivalent” prong were being satisfied, the opportunity to credit bid need not be provided.

The bankruptcy judge, Judge Bruce Black of the Northern District of Illinois, declined the invitation. Judge Black expressly rejected the reasoning of the Philadelphia Newspapers majority, stating that he found the dissent from Judge Ambro, “well-reasoned [and] more persuasive.” At the River Road debtors’ request, Judge Black certified an appeal directly to the Seventh Circuit. The court affirmed Judge Black’s decision, stating that “like the bankruptcy court, we find the statutory analysis articulated by Judge Ambro in his Philadelphia Newspapers dissent to be compelling.”

The Seventh Circuit decision first takes aim at the contention that there exists a single “plain meaning” interpretation of Section 1129(b)(2)(A) that directs the result.

Nothing in the text of Section 1129(b)(2)(A) directly indicates whether Subsection (iii) can be used to confirm any type of plan or if it can only be used to confirm plans that propose disposing of assets in ways that can be distinguished from those covered by Subsections (i) and (ii). Hence, there are two plausible interpretations of the statute: one that reads Subsection (iii) as having global applicability and one that reads it as having a more limited scope.

The Seventh Circuit then considered whether Congress, having specified in Section 1129(b)(2)(A)(ii) the means by which a debtor could confirm a plan when proposing to sell a secured lender’s assets free and clear, i.e., by expressly protecting the lender’s right to credit bid, would then negate such protection in the immediately following subsection by permitting the debtor to conduct a “free and clear” sale without allowing for credit bidding. “The infinitely more plausible interpretation,” the court held, would only permit “free and clear” collateral sales as specified in subsection (ii). “Under such a reading, plans could only qualify as ‘fair and equitable’ under Subsection (iii) if they proposed disposing of assets in [a] way that [is] not described in [Subsection (ii)].”

The Seventh Circuit’s vigorous seconding of Judge Ambro’s approach shows plainly why judges take the time to publish dissenting opinions. Judge Ambro, writing from a practitioner’s pragmatic viewpoint, clearly found it hard to accept the Philadelphia Newspapers majority’s refusal to look beyond what it viewed as the sole plausible reading of Section 1129(b)(2)(A) and consider any sense of Congressional purpose or the underlying principles of the Bankruptcy Code as evidenced by complementary Code sections. As he wrote, “In effect, a single ‘or’ becomes the bell, book and candle that excommunicates Congressional intent from the Bankruptcy Code . . . [and] upset[s] three decades of secured creditors’ expectations[.]” The Seventh Circuit’s decision in River Road vindicates Judge Ambro’s arguments.

Los Angeles Dodgers Chapter 11 - Can They Get Kirk Gibson Admitted Pro Hac in Delaware?

Ben Feder — Fri, 01 Jul 2011 15:58:11 -0500

The Chapter 11 filing of the Los Angeles Dodgers is a desperate move by Frank McCourt to try to maintain his ownership of the team. At least McCourt, whatever his shortcomings as a major league franchise owner, chose wisely in selecting bankruptcy lawyers. Partners Bruce Bennett and Martin Bienenstock of proposed debtor's counsel Dewey LeBeouf would be high selections on any legal fantasy team. Even, the best, however, will likely not be enough here.

Bennett and Bienenstock will probably be able to stave off a quick takeover of the Dodgers by Major League Baseball, and to turn aside the demands that the case be dismissed or that a trustee be appointed to run the team. They should also succeed in buying McCourt enough time to negotiate a sale of the team on favorable terms. But McCourt’s true goal here – to use the Chapter 11 process to keep permanent control of the team – appears to be beyond the reach of any lawyer. The Major League Baseball Constitution, pursuant to which McCourt acquired and holds the Dodgers’ franchise rights, in the end vests too much power in Commissioner Bud Selig and the other owners. Even assuming that McCourt can come up with a plan to pay off the Dodgers’ creditors, the Dodgers’ bankruptcy will almost certainly only delay the inevitable exercise of power by Major League Baseball to terminate McCourt’s right to operate the franchise.

On the other hand, not a lot of people thought a great deal of the Dodgers’ chances in the ninth inning of Game 1 of the 1988 World Series. Two outs and down by run, Kirk Gibson, who could barely walk due to injury, was sent up to pinch hit . . . .

Keeping Pace With Chapter 11's "New Normal"

Ben Feder — Wed, 15 Jun 2011 09:12:23 -0500

I am serving this year on the Editorial Advisory Board for the Journal of Corporate Renewal, published by the Turnaround Management Association and available to all TMA members. My guest editor's column for the June issue, "Keeping Pace With Chapter 11's 'New Normal'", is available here.

Looks Like Fred Wilpon Picked the Wrong Week to Quit Drinking

Ben Feder — Fri, 27 May 2011 13:39:16 -0500

The well known travails of Fred Wilpon, the principal owner of the New York Mets, have all converged this past week. He, his partner Saul Katz and their families and affiliated enterprises (the “Wilpon/Katz Group”) lost several hundred million dollars when Bernard Madoff’s long running Ponzi scheme finally unraveled at the height of the financial crisis in 2008. The Mets’ on-field performance has been dismal, and their cash flow, weighed down by the debt incurred to build their under-attended new stadium, has been even worse. Finally, there have been the efforts by Irving Picard, the trustee overseeing the liquidation of Bernard L. Madoff Investment Securites (“BLMIS”), to recover from the Wilpon/Katz Group over $1 billion that it withdrew from BLMIS over many years. (Kelley Drye & Warren LLP represents other Madoff investors from whom recovery is being sought.) Wilpon further has had to suffer the ignominy of Picard’s public assertions that no good faith defense can apply which would permit an offset of $700 of principal invested during such period, because the Wilpon/Katz Group either knew or was willfully blind to the fraud that lay at the heart of BLMIS.

The past several days have seen, first, Picard file his opposition to the Wilpon/Katz Group’s motion to dismiss the recovery action, and then a magazine article in which Wilpon makes disparaging references to three of the Mets’ best players. Finally, yesterday came the announcement by the Wilpon/Katz Group of a prospective sale of a minority interest in the Mets to hedge fund investor David Einhorn.

The statements made by Wilpon about David Wright, Jose Reyes and Carlos Beltran have been fulsomely discussed by the sports media and are outside the purview of this blog. Bringing in Einhorn as a minority partner, while unquestionably easing the Wilpon/Katz Group’s immediate financial distress, likely will have long term ramifications that Wilpon may prefer not to consider right now. Suffice it to say that Einhorn, who famously denigrated Lehman Brothers before its demise, has never been particularly shy about speaking his opinions about under-performing enterprises.

Strangely enough, the best long term news for Wilpon appears to lie in Picard’s latest pleading. While Picard of course forcefully repeats his assertions that the Wilpon/Katz Group possessed sufficient information to have been on “inquiry notice”, and that the failure to conduct a “diligent inquiry” obviates any claim now of good faith, the legal brief breaks little new ground and mostly rehashes previous arguments made.

Picard particularly focuses on brief efforts by the Wilpon/Katz Group in 2001 to obtain fraud insurance for its BLMIS investments as evidence that it possessed sufficient information to undertake an investigation. However, as with his earlier allegations regarding the mischaracterization of a short term $54 million loan, Picard appears to place far more weight on certain isolated incidents than can reasonably be supported. By his own argument, the standard set forth in similar cases to place a hedge fund investor on inquiry notice requires, for example, credible evidence that a purportedly profitable fund was in fact losing money, or might be insolvent. The incidents to which Picard alludes come off as myriad loose strands that Picard fails to weave into a larger fabric.

Indeed, Picard’s intensive efforts to recover the $700 million in invested principal may well wind up impairing his chances of recovering a substantial portion of the “fictitious profits” that he is seeking. Of the $295 million in “fictitious profits” that Picard is looking to recover, nearly $133 million was transferred outside of the six year look-back period that is permitted under New York law. Picard has previously argued that the six year limitation should not apply because “the fraudulent scheme perpetrated by BLMIS was not reasonably discoverable by at least one unsecured creditor of BLMIS”. However, the more that he contends that there were a plethora of “red flags” that the Wilpon/Katz Group ignored, the more he undercuts his own argument to extend the six year look back period. There were, after all, numerous other Madoff victims equally as sophisticated as the Wilpon/Katz Group. Picard even notes that the Wilpon/Katz Group’s investigation into fraud insurance supposedly arose out of discussions had with another Madoff investor – a fact clearly discordant with any argument that the Madoff fraud “was not reasonably discoverable” by others.

Fred Wilpon has clearly had a highly eventful week. The effect of his intemperate words about his best players, and the long term ramifications of bringing on David Einhorn, can only be guessed at right now. But things do not appear to be measurably worse for him and his partners in the Madoff litigation as a result of Picard’s latest pleading.

Take Me to the River (Road): The Seventh Circuit Prepares to Weigh In On Credit Bidding

Ben Feder — Mon, 25 Apr 2011 15:35:04 -0500

The U.S. Court of Appeals for the Seventh Circuit has taken under advisement the latest case involving the now contentious issue of credit bidding.

Judge Bruce Black of the United States Bankruptcy Court for the Northern District of Illinois last year refused to permit the debtors in In re River Road Hotel Partners LLC, et al. (“River Road”) to circumvent a secured lender’s right to credit bid in connection with a sale of assets subject to the lender’s lien. The debtors in River Road were relying on the Third Circuit Court of Appeals’ controversial decision in Philadelphia Newspapers, which upheld a debtor's efforts to prevent its secured lenders from credit bidding in connection with an auction held under a plan of reorganization.

The majority opinion in Philadelphia Newspapers determined that, notwithstanding the express reference in subsection (ii) of Section 1129(b)(2)(A) to the right to credit bid in connection with a sale “free and clear” of liens pursuant to a plan of reorganization, a sale “free and clear” could also take place pursuant to a plan, without allowing the lenders to credit bid, under Section 1129(b)(2)(A)(iii), the “indubitable equivalent” provision. Third Circuit Judge Thomas Ambro, a bankruptcy practitioner of many years, penned a lengthy dissent, noting that the result flew in the face of the established principle that property rights in bankruptcy look to applicable non-bankruptcy law, and the long standing expectation that the Bankruptcy Code expressly protects such non-bankruptcy rights – particularly the right of a secured creditor to look to its collateral in the event of non-payment.

Judge Black expressly rejected the reasoning of the Philadelphia Newspapers majority, stating that he found the dissent from Judge Ambro, “well-reasoned [and] more persuasive.”

At the River Road debtors’ request, Judge Black certified an appeal directly to the Seventh Circuit, and the court heard arguments earlier this month. The Seventh Circuit panel, consisting of Judges David Hamilton, Richard Cudahy, and Daniel Manion, presented a “hot bench”, directing numerous questions at counsel for both sides.

Interestingly, at no point during oral argument was it noted that the Third Circuit in Philadelphia Newspapers never actually decided whether the non-credit bid plan at issue in that case could be confirmed. It only upheld the debtor’s right in that case to seek to do so. Since the lenders in Philadelphia Newspapers subsequently chose to participate in the sale auction and won with a cash bid, the ultimate question of whether such a plan would provide the secured lenders with the “indubitable equivalent” of their secured claims was never answered.

The Seventh Circuit should affirm Judge Black’s ruling and follow Judge Ambro’s reasoning in Philadelphia Newspapers, and in doing so plainly address the unanswered open question from that case. Even if an argument could plausibly be made, through a hyper-literal reading of Section 1129(b)(2)(A), that a secured lender can be denied the right to credit bid in connection with a sale under a plan of reorganization, beyond such hyper-literalism there really is no valid basis to contend that any such plan could provide the “indubitable equivalent” of the lender’s secured claim, and such a plan should never be confirmed over the secured lender’s objection. The Bankruptcy Code contains strong protections, including the right to credit bid under Section 363(k) and the anti-lien stripping provisions of Section 1111(b), that unambiguously work to prevent a debtor from “cashing out” a secured creditor by paying such creditor a depressed value for the collateral. The cramdown provisions of Section 1129(b)(2)(A) clearly are intended to complement those protections, not abrogate them through a resort to the “indubitable equivalent” standard.

Madoff Trustee's Amended Complaint - More Bad Stuff 'bout the Mets (Owners)

Ben Feder — Wed, 23 Mar 2011 14:44:46 -0500

Irving Picard, the trustee overseeing the liquidation of Bernard L. Madoff Investment Securites (“BLMIS”), has filed an amended complaint (the “Amended Complaint”) that seeks to buttress his allegations against Fred Wilpon and Saul Katz, the owners of the New York Mets, and their families and affiliated enterprises (the “Wilpon/Katz Group”). Among other things, the Amended Complaint details an alleged deliberate mischaracterization of a $54 million bridge loan from Madoff to one of the businesses controlled by the Wilpon/Katz Group, and cites the episode as further evidence of supposed wrongful behavior that demonstrates the complicity of the Wilpon/Katz Group in Madoff’s fraudulent activity.

The Wilpon/Katz Group, in the meantime, in its first legal counter-attack, has filed a motion to dismiss the Amended Complaint (the “Dismissal Motion”). Also, an article in today’s New York Times details the jousting taking place with respect to the massive trove of documentary information gathered by Picard prior to the commencement of the lawsuit.

The Amended Complaint and the Dismissal Motion reveal flaws and risks that each side faces.

The Amended Complaint seeks the repayment of over $1 billion. However, over $700 million constitutes the return to the Wilpon/Katz Group of invested principal, and Picard’s many allegations and inferences may simply not add up to the level of malfeasance or knowledge on the part of the Mets’ owners that he needs to demonstrate in order to recover those funds. Although a number of bad or grossly negligent actions are alleged, the Dismissal Motion refutes Picard’s factual allegations regarding many of the so-called “red flags” that Picard believes should have given the Wilpon/Katz Group reason to suspect Madoff. Some of Picard’s efforts to show mendacity, such as the $54 million transfer that helped the Wilpon/Katz Group to avoid a delay in closing an important deal and then was immediately repaid, come off on closer examination as somewhat thin gruel (or “bad stuff”, as one fictitious former Mets player might have put it).

In addition, of the remaining $295 million in “fictitious profits” that Picard is looking to recover, nearly $133 million was transferred outside of the six year look-back period. Picard contends that the six year limitation under New York law should not apply because “the fraudulent scheme perpetrated by BLMIS was not reasonably discoverable by at least one unsecured creditor of BLMIS[,]” an argument that seems to be discordant with his allegations regarding the plethora of “red flags” that the Wilpon/Katz Group ignored.

The Dismissal Motion, on the other hand, while strongly rebutting many of Picard’s allegations, shows the challenge that the Wilpon/Katz Group will have in fending off the demand for the return of $163 million in “fictitious profits” during the six year look-period. The bulk of the legal arguments in the Dismissal Motion raise nearly precisely the same issues that were recently argued before the Second Circuit Court of Appeals on Picard’s method for determining which customers hold claims against BLMIS. The Wilpon/Katz Group forcefully contends again that customers of BLMIS should hold claims based on the fictitious statements furnished to them by BLMIS, rather than being determined by the straight-forward mathematical calculation of invested principal less funds withdrawn. However, Judge Burton Lifland, the U.S. Bankruptcy Court judge overseeing the BLMIS case, has already rejected this argument, and the Second Circuit panel that heard the appeal earlier this month betrayed a fair degree of skepticism.

The incentives for both sides to work with former Governor Cuomo and reach a settlement remain strong.

The Dog That Didn't Bark - Second Circuit's Opinion in DBSD North America Disallows Gifting, But Is Silent on Cramdown of Secured Creditor

Ben Feder — Wed, 02 Mar 2011 10:18:10 -0500

As discussed in previous posts on this site, back in December the Second Circuit Court of Appeals issued a summary order that reversed the bankruptcy court’s confirmation of the reorganization plan (the “Plan”) of DBSD North America, f/k/a ICO North America (“DBSD”). The Court sustained a challenge to the Plan brought by Sprint-Nextel, an unsecured creditor, against the proposed “gift” of value from second lien secured creditors down to DBSD’s equity holder, by-passing holders of unsecured claims. However, it denied the appeal brought by senior secured creditor DISH Network (“DISH”), the holder of all of DBSD’s first lien debt, against its unfavorable treatment under the Plan. The summary order stated that an opinion would follow “in due course”. (Kelley Drye & Warren LLP represents the agent to the lenders that previously held the first lien debt purchased by DISH, but has taken no part in the litigation over the confirmation of the Plan or the appeals before the Second Circuit).

The opinion has now come out and has appropriately garnered wide attention. The decision to prohibit the long-standing practice of “gifting” value to a junior class of creditors or interests over the objection of a non-consenting intermediate class will certainly shape the contours of plan negotiations in chapter 11 cases going forward. The determination to uphold the “designation” (i.e., disallowance) of DISH’s vote against the Plan, for its alleged “bad faith” in pursuing a “strategic purpose”, will also affect the purchase and sale of claims for purposes of acquiring control of companies as they emerge from bankruptcy (although this ruling was fact specific and narrowly focused).

However, the Second Circuit’s opinion is equally important for what it did not say. The bankruptcy court had ruled that because DISH was the sole member of its Plan class and its vote against the Plan was disallowed, the Plan class should be deemed to have accepted the Plan. The bankruptcy court concluded that the Plan therefore did not have to satisfy the cramdown standards of Section 1129(b)(2)(A) of the Bankruptcy Code with respect to DISH. Nevertheless, the bankruptcy court alternatively ruled that the proposed Plan treatment of DISH’s first lien did in fact meet the cramdown standard of Section 1129(b)(2)(A)(iii), by providing DISH with the “indubitable equivalent” of its claim. The Second Circuit, in upholding the bankruptcy court’s decision ruling regarding vote designation, specifically stated that it would not address the bankruptcy court’s alternate ruling that DISH could be crammed down.

The “indubitable equivalent” standard under Section 1129(b)(2)(A)(iii) allows a debtor to confirm a plan over a secured creditor’s objection so long as it gives the creditor the present value of its secured claim and provides substitute collateral that is of equal value and of no greater risk than its existing collateral. The first lien debt purchased by DISH was a one year note that paid cash interest, and was secured by all of DBSD’s operating assets plus its only liquid assets -- a portfolio of auction rate securities (the “Securities”). The Plan proposed to provide a new note with a four year maturity, non-cash (i.e., payment in kind (“PIK”)) interest, and liens on all of reorganized DBSD’s operating assets -- but not on the Securities, which are to be used to help fund ongoing operations. In addition to appealing the designation of its Plan vote, DISH argued to the Second Circuit that it could not be forced to accept the heightened risk of a four year note and a diminished collateral package that deprived it of its lien on the Securities with no substitution.

A ruling by the Second Circuit affirming the cramdown judgment by the bankruptcy court -- a determination that a one year loan facility secured by liquid assets could be replaced under the “indubitable equivalent” standard by a four year PIK facility with non-liquid collateral -- would have had a huge impact in future cases, altering the relative leverage among secured creditors, debtors and junior creditors. The decisions on gifting and designation make DBSD a significant opinion. A ruling on cramdown would have made it a seminal one.

Meet the Mess, Cont'd -- Former Governor Cuomo Asked to Mediate Madoff Trustee's Lawsuit Against Mets Owners

Ben Feder — Mon, 14 Feb 2011 11:37:01 -0500

Judge Burton Lifland, the bankruptcy judge overseeing the liquidation proceedings of Bernard L. Madoff Investment Securities LLC (“BLMIS”) made a shrewd decision last week in appointing, on his own initiative, former Governor Mario Cuomo to act as mediator in the lawsuit brought by Irving Picard, the BLMIS trustee, against Fred Wilpon and Saul Katz, the owners of the New York Mets, and their families and affiliated enterprises (the “Wilpon/Katz Group”).

Judge Lifland has a history of acting on his own to bring highly regarded individuals in to mediate seemingly intractable situations. Many years ago, for example, he asked former Secretary of State Cyrus Vance to step into the Macy’s chapter 11 case. Bringing in a neutral party of Cuomo’s stature at this early stage can only help tone down the rhetoric on both sides and perhaps get a derailed settlement process back on track.

A review of the 365 page complaint filed by Picard, unsealed last week after its contents were leaked to the news media, makes clear the enormous complexity of the case and the risks facing both sides.

Although enormous media attention has focused on Picard’s efforts to seek recovery of at least $300 million in “fictitious profits” and perhaps as much $1 billion for amounts withdrawn from BLMIS by the Wilpon/Katz Group, only $162 million represents fictitious profits over the six years prior to the bankruptcy case – the maximum “look back” period. Even if Picard is able to prove fully his allegations regarding the willful disregard by the Wilpon/Katz Group of the red flags concerning BLMIS, it would be an aggressive (and questionable) expansion of the fraudulent transfer provisions of the Bankruptcy Code and New York State law to recover any fictitious profits or other withdrawals going back more than six years.

For the Wilpon/Katz Group, on the other hand, the possible turnover of hundreds of millions withdrawn from BLMIS constitutes only part of its exposure. As Picard’s lawyers begin conducting discovery in earnest in anticipation of trial, the full costs will be staggering -- both in terms of legal fees, and the time and attention that will be required of so many individual members of the Wilpon/Katz Group to the detriment of other interests. In addition, the inner workings of the Wilpon/Katz Group’s businesses will be fully exposed. As embarrassing as the disclosures in Picard’s complaint doubtless have been to Wilpon and Katz, they are likely only a portion of what would be revealed during the course of full blown litigation.

Accordingly, both sides have strong incentives to settle, rather than have this case proceed to trial. Moreover, with a case docket that includes some of the largest and most complex bankruptcy cases in the country, such as Blockbuster, JudgeLifland in all likelihood was not relishing the prospect of a single trial tying up his courtroom for the better part of several weeks at a minimum. The appointment of former Gov. Cuomo serves everyone’s interests here.

Madoff Trustee vs. the Wilpons - Meet the Mess

Ben Feder — Thu, 03 Feb 2011 17:56:08 -0500

Fred Wilpon, the owner of the New York Mets, was a close friend of Bernie Madoff, and it has been generally believed since the outset of the scandal that Wilpon, his family and affiliated enterprises lost hundreds of millions in the great Ponzi scheme. It has also been known that the Wilpon group was a so-called “net winner”, as it had collectively withdrawn more over the years from Bernard L. Madoff Investment Securities LLC (“BLMIS”) than it had invested, and it has been expected that Irving Picard, the BLMIS trustee, would seek to recover the difference – an amount believed to be in the tens of millions -- on behalf of the BLMIS bankruptcy estate as a “fraudulent conveyance”. (Kelley Drye & Warren LLP represents other Madoff investors from whom recovery is being sought.) However, as has been widely reported over the past several days, the Wilpon group could be at risk for much more. While the details remain unclear because of the “sealing” of the trustee’s lawsuit, it appears that Picard is seeking to recover hundreds of millions withdrawn from BLMIS by the Wilpon group, rather than simply the difference between such withdrawn amounts and the invested principal.

Courts going back centuries have permitted the avoidance of transfers made by a debtor with the intent to “delay, hinder or defraud” creditors. Section 548(a) of the Bankruptcy Code allows a trustee to avoid transfers made up to two years prior to the commencement of the bankruptcy case, if made either with deliberate fraudulent intent, or made while the debtor was insolvent and for which the debtor received less than “reasonably equivalent value” in return. Picard can also recover transfers made up to six years prior to the bankruptcy under New York State law.

However, the rights of a good faith transferee are recognized and protected under Section 548(c). That section provides that a transferee “that takes for value and in good faith” may retain the property transferred to it “to the extent that such transferee . . . gave value to the debtor in exchange” for such transfer. “Value” is defined under the Bankruptcy Code to include the “satisfaction or securing of a present or antecedent debt[.]”

Amounts paid out by BLMIS to investors over the many years of the Ponzi scheme satisfy the requirement of actual fraud under Section 548(a) of the Bankruptcy Code. Under Section 548(c), investors can defeat a trustee’s efforts to recovery such distributions to the extent that they can show that they provided value in exchange for such distributions, and capital deposited in an investment fund constitutes antecedent debt. The key issue for the Wilpon group is whether or not it invested money in BLMIS “in good faith”. Since there is virtually no chance that Fred Wilpon had any actual knowledge of Madoff’s scheme, the question will turn on whether, under the totality of the circumstances, Wilpon and the Wilpon group somehow “should have known” about Madoff’s fraudulent activity.

Were there sufficient “red flags” that ought to have alerted a sophisticated investor such as the Wilpon group? In view of the close relationship between Madoff and Fred Wilpon, Picard clearly believes that the Wilpon group will be unable to satisfy the “good faith” element of Section 548(c), and thus will have no defense to the recovery of all moneys withdrawn during the six year look back period.

A&P -- Direct Showdown Avoided On Leasehold Liens Under DIP Financing Order

Ben Feder — Tue, 18 Jan 2011 13:04:24 -0500

Can a debtor seeking debtor-in-possession (“DIP”) financing under Section 364 of the Bankruptcy Code grant a lender a lien on a leasehold interest in the face of an express anti-hypothecation provision in the underlying lease? There are no cases directly on point, and the DIP financing order entered in The Great Atlantic & Pacific Tea Company (“A&P”) Chapter 11 case leaves this interesting issue unresolved.

The proposed DIP financing order in A&P sought to provide the DIP lender with a lien on all of the Debtors’ “interests in leaseholds”, and specifically sought to invalidate any anti-hypothecation provisions in the Debtors’ leases (along with more general anti-assignment provisions) with respect to the granting of such liens. A number of landlords objected (including landlords represented by Kelley Drye & Warren).

Section 365 of the Bankruptcy Code permits the assumption and assignment of leases and executory contracts, notwithstanding (in most cases) any anti-assignment provisions in such agreements. The rights of the non-debtor party are protected by provisions which require the curing of monetary defaults and adequate assurance of future performance. Typically the collateral package for a DIP financing will include any proceeds of a lease assignment. None of the landlords in A&P questioned that an economic benefit realized by the Debtors’ estates following the assumption or assignment of any lease under Section 365 of the Bankruptcy Code could be pledged to the DIP lender. However, the landlords objected to the granting of liens directly on the Debtors’ rights under the leases themselves.

The difference between a lien on the proceeds of a lease assignment and a lien on the leasehold interest itself may seem somewhat arcane, but the distinction can be crucial. Absent the granting of lien on the leasehold interest, a failed Chapter 11 case usually would result in the landlord regaining the premises. If such a lien were granted, however, then the DIP lender, in the event of a default by the Debtors, could foreclose on the Debtors’ rights under the lease and gain possession of the leasehold premises without having to comply with the burdens and landlord protections of an assumption and assignment under Section 365.

The Debtors and the DIP lender contended that anti-hypothecation provisions in leases are invalid under Section 365(f) of the Bankruptcy Code. The DIP lender also pointed to cases suggesting that a bankruptcy court, in approving DIP financing under Section 364(c), can grant a lien on assets that are subject to negative pledge covenants.

The landlords countered that such invalidation, by the express language of Section 365(f), could apply only if such leases were actually assumed under Section 365(b). The landlords further noted that Section 365(b)(3) of the Bankruptcy Code contains provisions specifically intended to protect commercial landlords in connection with the assumption and assignment of shopping center leases, and that the proposed A&P DIP financing order would fly in the face of such protections.

The DIP lender chose to forego a direct fight on this issue. While most of the Debtors’ leases contained anti-assignment clauses, only a handful had express anti-hypothecation language. Judge Robert Drain of the U.S. Bankruptcy Court for the Southern District of New York approved the liens on the Debtors’ leasehold interests notwithstanding any general anti-assignment covenants, and the DIP lender agreed to carve out the leases with specific anti-hypothecation language and to take a lien solely on the proceeds of any assignment with respect to such leases.

The facts did not warrant a full scale battle on this question in A&P. However, the issue remains outstanding, and will undoubtedly be fully joined in some future case.

Second Circuit Affirms Unfavorable Plan Treatment of Senior Secured Creditor in DBSD North America

Ben Feder — Fri, 10 Dec 2010 13:12:45 -0500

The Second Circuit Court of Appeals issued a summary order this week upholding the aggressively unfavorable treatment of a senior secured creditor under the reorganization plan (the “Plan”) of DBSD North America, f/k/a ICO North America (“DBSD”). (The Second Circuit upheld a separate challenge to the plan brought by an unsecured creditor). The summary order states that “[a]n opinion will follow in due course.”

As previously described on this site, the bankruptcy court took the highly unusual step of “designating” (i.e., disallowing) the vote rejecting the Plan of the senior secured creditor (also a competitor of DBSD). The bankruptcy court’s finding that the vote was “not in good faith” because the senior secured creditor was acting with a “strategic purpose”, rather than merely seeking to further its interest as a creditor looking to be repaid, raised eyebrows throughout the bankruptcy community (and particularly among investment firms that regularly acquire debt with such a strategic purpose). But it was the bankruptcy court’s decision to approve the unfavorable proposed treatment of the senior secured creditor that is likely to have the most potential long term impact.

The bankruptcy court determined that the Plan met the applicable Bankruptcy Code standards, and could be confirmed over senior secured creditor’s objection (colloquially known as a “cram down”) by providing it the with the “indubitable equivalent” of its secured claim. In an expansive interpretation of the statutory language, the bankruptcy court found such “indubitable equivalence” notwithstanding that the Plan effects the replacement of a one year loan facility secured by all of DBSD’s assets – including liquid securities – with a four year “payment in kind” facility under the same rate of interest, with a reduced collateral package that lacks such securities.

The bankruptcy court’s determinations both to designate the vote and to approve the “cram down” treatment were alternative bases for approving the Plan. The Second Circuit’s summary order refers only to the vote designation Accordingly, it won’t be known until the Second Circuit issues its opinion whether it has ruled on both aspects of the decision.

The unusual facts regarding the vote designation make it probable that the impact of the Second Circuit’s ruling as it relates to this issue will be relatively narrow. However, if the Second Circuit expressly affirms the “cram down” aspect of the bankruptcy court’s decision, it will have a profound impact in Chapter 11 cases. The door will be open to all manner of creative and forceful attempts to confirm reorganization plans over the objections of secured lenders.

Court Tosses Life Vest to Trico Marine Services

Ben Feder — Thu, 18 Nov 2010 15:55:40 -0500

Some legal commentators have lamented the extent to which lenders have been able to use debtor in possession (“DIP”) financing arrangements to gain control over an entire Chapter 11 case. DIP lenders have usually been able to justify aggressive provisions, and courts have approved them, on the basis that they may provide the only realistic chance for debtors to reorganize or sell themselves as a going concern. However, recent events in Trico Marine Services show that there are limits on judges’ willingness to accept overreaching financing proposals and overly aggressive actions by DIP lenders to enforce their rights.

Liquidity is the life blood of Chapter 11 cases; even solvent companies can founder if their assets cannot be readily monetized. The Bankruptcy Code contains strong protections to encourage lenders to extend new financing to debtors and to consent to a debtor’s use of “cash collateral”, i.e., the cash proceeds of existing collateral.

Secured lenders have never been shy about using the leverage that they hold at the outset of a Chapter 11 case to extract significant concessions and benefits in exchange for offering new loans to DIPs and permitting the use of encumbered cash. Certain of the 2005 amendments to the Bankruptcy Code, such as the requirement of deposits for utilities, increased a debtor’s cash needs and exacerbated this trend. In many recent cases, lenders have used the debtor’s extreme need for post-petition cash to “roll-up” their existing loans into a new facility. In this situation, a portion of the money loaned to the debtor goes immediately to pay off the lender’s pre-petition loans, thus effectively providing the pre-petition loans with the enhanced benefits of post-petition loans, such as security interests that cannot be attacked (because they are granted pursuant to an order of the bankruptcy court), and a “super-priority” claim over all other creditors.

In Trico Marine Services, the debtors’ pre-petition lender sought to roll-up $25 million of pre-petition debt as a condition to providing $10 million of new financing and permitting the use of cash collateral. What made the lender’s position here particularly egregious was that it was plainly stated that the $10 million provided was not “expected to provide the liquidity necessary to accomplish a complete restructuring of the estates through confirmation of a Plan.” Judge Brendan Shannon of the U.S. Bankruptcy Court for the District of Delaware permitted Trico Marine Services to borrow the $10 million of new money at the outset of the case on an emergency basis, but ultimately declined to approve the roll-up.

This created an event of default under the DIP lending facility, and after further negotiations failed the lender gave the required five days notice of its intent to enforce its remedies. However, Trico Marine Services filed an emergency motion to prevent the lender’s enforcement, and requested permission to continue to use cash collateral. Judge Shannon granted the motion, noting that the lender would be protected because Trico Marine Services had sales of several of its ships pending that would generate proceeds sufficient to repay the lender in full.

The lender in Trico Marine Services was not willing to commit sufficient new money either to fund a reorganization, or at least to fund the Chapter 11 case for a commercially reasonable period of time. Judge Shannon’s rulings strongly suggest that judges are less willing to countenance overreaching by DIP lenders where, as here, the DIP lender is unwilling to pay the “full freight” necessary to get the case to a final resolution.