U.S. Bankruptcy Judge Brendan L. Shannon of the District of Delaware confirmed a plan of reorganization and upheld the validity of a post-petition lockup agreement in In re Indianapolis Downs, Case No. 11-11046, in a 28-page opinion issued in late January.
Shannon denied a motion to "designate" the votes of parties to a post-petition plan support agreement pursuant to Section 1126(e) of the Bankruptcy Code. In doing so, he distinguished and discounted rulings in In re Stations Holdings, Case No. 02-10882 (MFW) (Bankr. D. Del. 2002) (order dated September 30, 2002) [Docket No. 177], and In re NII Holdings, Case No. 02-11505 (Bankr. D. Del. 2002) (order dated October 25, 2002) [Docket No. 367], which were often cited to as limiting the effectiveness of post-petition lockup agreements in the District of Delaware.
The court's opinion narrowly construes the Bankruptcy Code prohibition of post-petition solicitation of a plan prior to distribution of a court-approved disclosure statement. Shannon, in adopting the reasoning of In re Heritage Organization, 376 B.R. 783 (Bankr. N.D. Tex. 2007), joined the majority of published decisions in finding that Section 1125 of the Bankruptcy Code should be construed narrowly.
The court reasoned that "Congress intended that creditors have the opportunity to negotiate with debtors and amongst each other; to the extent that those negotiations bear fruit, a narrow construction of 'solicitation' affords these parties the opportunity to memorialize their agreements in a way that allows a Chapter 11 case to move forward."
In Indianapolis Downs, the debtor had three tiers of secured debt. Post-petition, the debtor, an ad hoc second lien committee and a holder of a substantial portion of third-lien debt, entered into a restructuring support agreement (RSA). Under the RSA, the parties agreed to pursue a "parallel path" toward exit from Chapter 11. Under one path, the parties agreed on a plan to sell all of the debtor's assets at a price that would render proceeds sufficient to garner the support of "major creditor constituents." In the event that the pursuit of a sale was unsuccessful, the parties agreed on a plan to recapitalize the debtor.
The RSA included other terms that are typically incorporated into a plan term sheet, including: (a) a timeframe for the debtors to propose a plan; (b) a prohibition of any party to the RSA supporting an alternate plan; and (c) an affirmative obligation upon each party to the RSA to vote yes for a plan complying with the RSA. The voting obligation was enforceable by specific performance.
The parties filed the RSA with the court. The court ultimately approved a disclosure statement that described the RSA. The sale efforts were successful, and the court ultimately held a combined sale and confirmation hearing. The court approved the sale and then addressed objections to confirmation, which included a motion to "designate" the votes of the parties to the RSA.
Under Section 1126(e), the court may designate a vote of a creditor on the grounds of a finding of bad faith or failure to comply with the provisions of Chapter 11. Here, there was no allegation of bad faith. Instead, the movants contended that the votes of parties to the RSA were not solicited in compliance with Section 1125(b), because the parties agreed to vote for a plan prior to the approval of a disclosure statement. If the creditors' votes were "designated," their ballots would be ignored, and the debtor would lack sufficient support to confirm the plan.
Shannon began his analysis with a discussion of the seminal decision in In re Century Glove, 860 F.2d 94 (3d Cir.). In that case, the debtor filed a plan and the court approved a disclosure statement. A major creditor circulated a competing plan marked "draft" and successfully sought to persuade other creditors to vote against the debtor's plan. The debtor successfully persuaded the bankruptcy court to "designate" these "no" votes on the grounds that the votes were procured in bad faith. The district court reversed and the U.S. Court of Appeals for the Third Circuit affirmed. Notably, the Third Circuit held that the term "solicitation" must be read narrowly. A broad interpretation could "seriously inhibit free creditor negotiations."
Noting that "sophisticated parties" negotiated the RSA, Shannon rejected the argument that it was improper for the RSA to require the parties to vote yes. He concluded that "if the plan as filed conformed to the heavily-negotiated RSA, the parties were entitled to demand and rely upon assurances that accepting votes would be cast by the parties thereto."
Finally, Shannon rejected the movants' reliance upon the decisions in In re Stations Holdings and In re NII Holdings. In those cases, votes in favor of pre-packaged plans were received after the petition date and the court designated those votes. Shannon noted that, in those cases, the court addressed "solicitation" of specific ballots "relating to a filed plan," and that the cases presented "a markedly different factual and procedural context" than the case before him.
Shannon noted that "the filing of a Chapter 11 petition is an invitation to negotiate" and that the procedures under the code "provide stakeholders with leverage or bargaining chips to advance their respective agendas." Courts should be "chary of construing ... disclosure and solicitation provisions in a way that chills or hamstrings the negotiation process that is at the heart of Chapter 11." Where post-petition lockup agreements are negotiated in good faith between a "debtor and sophisticated parties," and are thereafter promptly disclosed, Section 1126 does not "automatically require" the designation of votes by parties to the lockup agreement.
Christopher M. Winter, a partner with the firm, is a Delaware business lawyer who focuses his practice on Chapter 11 bankruptcy law and proceedings, commercial and corporate finance and transactions and Delaware corporate and alternative entity law.
Reprinted with permission from Delaware Business Court Insider, © ALM Media Properties LLC. All rights reserved.