Section 510(a) of the
Bankruptcy Code upholds subordination agreements entered into between lenders
prior to bankruptcy but does not operate as a complete bar to lender disputes.
Ambiguity in intercreditor agreements may pose potential problems concerning
waiver of rights to object during bankruptcy. How courts have considered
intercreditor agreements in recent disputes among creditors in bankruptcy is
examined by Professor Jennifer Martin.
Enforceability of pre-petition
intercreditor agreements in bankruptcy has drawn more attention with the
increase in restructurings in bankruptcy in the wake of a troubled business
climate. Of course, first priority lenders and second priority lenders both
desire protection during a restructuring. Not surprisingly, many lending
arrangements involving multiple lenders take into account the potential of
disputes and bankruptcy. Section 510(a) of the Bankruptcy Code upholds these
arrangements, providing that "[a] subordination agreement is enforceable
in a case under this title to the same extent that such agreement is
enforceable under applicable nonbankruptcy law." When it comes to
subordination agreements during bankruptcy reorganizations, though, this
provision must be read alongside the power of the bankruptcy court to confirm
plans under § 1129, approve sales under § 363(b), and the mandate that the
court appoint examiners in certain cases under § 1104(c). Accordingly, whether,
and to what extent, an intercreditor agreement falls under the protections of §
510(a) and the authority of the bankruptcy court under other provisions has
been the subject of several recent cases illustrating the limits of parties'
abilities to make arrangements prior to bankruptcy.
While a court may conclude that a second priority lender has standing to object
to a proposed sale of assets despite the existence of an intercreditor
agreement, that does not mean that the lender will be able to prevent a sale
that is supported by "good business reason[s]." In re Boston
Generating, LLC, 440 B.R. 302 (Bankr. S.D.N.Y. 2010) [an enhanced version of this opinion is available to lexis.com
subscribers], concerned a proposed sale
of assets in bankruptcy of a power plant that provides electricity to the
Boston, Massachusetts area to a buyer who would take the assets free and clear
of creditors' claims. The creditors consisted of first lien holders, second
lien holders, and unsecured creditors. The dispute arose when the debtor filed
a motion to approve the sale and the second priority lenders and unsecured creditors
objected to the sale to the buyer.
No Express Waiver of Right to Object to Sale in Agreement
The first lien holders claimed that the second lien holders lacked standing to
complain about the sale of the assets because they had waived their rights in
an intercreditor agreement that governed the relationship between and among the
secured parties. Two provisions of the agreement were critical to the dispute.
First, the intercreditor agreement provided that the first lien holders would
have the exclusive right to enforce rights and make determinations regarding
the collateral without further consultations with the second lien holders.
Second, the intercreditor agreement further provided that until the debtor paid
the first lien holders in full, the sole right of the second lien holders was
to hold a lien on the collateral and receive payment after the discharge of the
obligations to the first lien holders. While the court agreed that the
intercreditor agreement was a subordination agreement for purposes of § 510(a),
the court disagreed with the first lien holders as to the ability of the second
lien holders to object to the sale, finding that the second lien holders had
not waived their rights to object. The court noted that the intercreditor
agreement did not contain "some provision that reflects an express or
intentional waiver of rights." In re Boston Generating, LLC, 440 B.R. 302,
319 (Bankr. S.D.N.Y. 2010). Quite simply, the court would not find an express waiver
where the intercreditor agreement did not contain one.
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