Second Circuit Rules on § 316(b) in Marblegate

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Last week, the Second Circuit decided Marblegate Asset Management, LLC v. Education Management Corp., holding that § 316(b) of the Trust Indenture Act (“TIA”) protects only bondholders’ formal, legal right to repayment, not their practical ability to recover. The Second Circuit’s 2–1 decision thus resolves uncertainty surrounding out-of-court bond workouts and returns to the pre-Marblegate practice.

The majority viewed the statute’s text as ambiguous and consulted the legislative history; it emphasized legislative history supporting the idea that § 316(b) protects only against the formality of a bondholder vote altering payment terms and discarded legislative history to the contrary as shards. The dissent concluded that the transaction “annihilated” a bondholder’s right to payment and, hence, ran afoul of statute’s plain language — which requires that a bondholder’s right to payment cannot be affected or impaired without the affected bondholder’s consent.

Law firms reacted rapidly to the decision. Wachtell Lipton, which represented the winning appellant, and Weil Gotshal both extoll the opinion. Paul, Weiss and Morgan Lewis see in the decision a clear rule that bars only express changes to core terms. Several firms, such as Shearman & Sterling and White & Case, emphasized that the decision will facilitate out-of-bankruptcy restructurings.

Squire Patton Boggs highlights limitations, arguing that the law remains “neither clear nor predictable” on when an out-of-court restructuring goes so far as to impair bondholders’ right to repayment. They caution against assuming that any action short of a direct alteration of core repayment terms is now permissible.

In his American Bankruptcy Institute column, Bill Rochelle notes that the decision’s focus on legislative history, including views contemporaneous with the statute’s passage, was unusual and, by implication, indicates that the dissent’s textual decision-making mode fits better with current Code interpretation. Seyfarth Shaw notes the decision’s limited practical effect because of the widespread use of binding votes in pre-packaged Code restructurings, which avoid § 316(b)’s restrictions.


The Roundtable has posted previously on Marblegate and § 316(b). In one post, Mark Roe argued that bondholders should not be barred by statute from choosing in their indenture whether to be allowed to reposition their bonds via a fair vote. Other posts include a summary of the National Bankruptcy Conference’s proposed amendments to the Bankruptcy Code to facilitate bond restructuring; a 28-law firm legal opinion white paper on transactional complications arising from the Marblegate district court decision; and an international perspective on the TIA’s prohibition on collective action clauses.

Awaiting the Second Circuit’s Decision in Marblegate

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We anxiously await the Second Circuit’s decision in Marblegate, which was argued earlier this year. John Bessonette of Kramer Levin briefly summarizes the stakes:

“Section 316(b) of the Trust Indenture Act provides that ‘the right of any holder of any indenture security to receive payment of the principal of an interest on such indenture security . . . shall not be impaired or affected without the consent of such holder . . . .’ Various plaintiffs used this provision this past year to successfully challenge out-of-court restructurings in Marblegate and Caesars. In both cases, the Federal District Court for the Southern District of New York held that § 316(b) not only protects the formal legal right to receive payment under an indenture, but also restricts non-consensual out of court debt reorganizations, even where no express terms of the indenture are violated.

“However, neither case provided a limiting principle for when out-of-court restructurings violate § 316(b), and plaintiff firms are now taking advantage of this murkiness. In the last year, three lawsuits challenging distressed exchange offers have been filed by retail holders of unsecured bonds. Each lawsuit involves an exchange offer made to qualified institutional buyers by a distressed energy company, and retail bondholders who object to their bonds being subordinated to the secured bonds issued to QIBs as part of the exchange.

“The cases are still pending and it remains to be seen whether the courts will clarify the ambiguity around § 316(b). Meanwhile, this obscure provision of the TIA will occupy a more prominent role in out-of-court debt restructurings and serve as a new weapon for plaintiffs challenging such restructurings.”

His full memo is available here.

The Roundtable has issued multiple posts on the Marblegate litigation and the Trust Indenture Act. Mark Roe wrote what the appropriate limiting principle should be for courts when invalidating exit consent transactions under section 316(b) of the Act. He further argued that courts alone cannot solve the fundamental problems: The SEC must also act. The Roundtable also covered the 28-law-firm white paper on how courts should handle that section. See our archives for more.

28 Law Firms Publish White Paper Addressing Trust Indenture Act Complications In Debt Restructurings

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By David A. Brittenham, Matthew E. Kaplan, M. Natasha Labovitz, Peter J. Loughran, Jeffrey E. Ross, and My Chi To of Debevoise & Plimpton LLP

On April 25, 2016, 28 leading U.S. law firms published a legal opinion white paper (the “Opinion White Paper”) addressing recent decisions of the United States District Court for the Southern District of New York interpreting Section 316(b) of the Trust Indenture Act of 1939 (the “TIA”) in the Marblegate and Caesars Entertainment cases. These decisions contain language that suggests a significant departure from the widely understood meaning of TIA § 316(b) that had prevailed for decades among practitioners. They have introduced interpretive issues that have disrupted established legal opinion practice and created new obstacles for out-of-court debt restructurings.

Section 316(b) of the TIA generally provides that the right of any holder of an indenture security to receive payment of principal and interest when due may not be impaired or affected without the consent of that holder. These recent decisions suggest that TIA § 316(b) protects more than the legal right to receive payment of principal and interest in the context of a debt restructuring.

The Opinion White Paper presents general principles that can guide opinion givers until the interpretive questions raised by these recent cases are resolved through future judicial opinions or legislative action.

The Opinion White Paper and further discussion of these cases are available here: Opinion White Paper.

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The Bankruptcy Roundtable has previously posted on the Trust Indenture Act as well as the Marblegate and Caesars Entertainment cases. Most recently, Mark Roe posted an article on the underlying policy behind 316(b) and suggested regulatory and legislative changes to address the problems of bondholder holdouts and coercive exit consents: The Trust Indenture Act of 1939 in Congress and the Courts in 2016: Bringing the SEC to the Table. Additionally, the Roundtable posted the National Bankruptcy Conference Proposed Amendments to Bankruptcy Code to Facilitate Restructuring of Bond and Credit Agreement Debt.

 

The Trust Indenture Act of 1939 in Congress and the Courts in 2016: Bringing the SEC to the Table

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By Mark J. Roe, Harvard Law School

The Trust Indenture Act’s ban on restructuring payment terms via a vote has come to the fore in recent litigation. This memo examines broad aspects of the recent controversies to outline a path forward for a sensible legal structure governing out-of-bankruptcy restructurings.

There are four points to be made:

  1. The recent Southern District of New York decisions striking down exit consent transactions are justified under the Trust Indenture Act.
  2. The Act impedes out-of-bankruptcy restructurings because it clearly but mistakenly bars votes that restructure bond payment terms. Restructurings outside bankruptcy cannot succeed when widespread consent is needed. But in an institutionalized bond market, there is little reason to bar restructuring by vote.
  3. The Act’s ban on votes creates the potential for holdouts (or earnest dissenters) to destroy a good deal that most bondholders sincerely want. But to combat the Act’s voting ban (and sometimes to force an unsound restructuring), issuers use exit consent offers, which can impair bondholders’ indenture rights so severely that they reluctantly accept an offer whose terms they dislike. Courts cannot resolve both of these distortions; other lawmakers need to come to the table.
  4. Legislative solutions are possible. While awaiting wise legislation, there is another way to construct sensible rules for bond workouts — one that has previously not been recognized. The Securities and Exchange Commission has broad authority to exempt indentures and transactions from the full force of the ban on voting.

SEC exemptive rulemaking provides a viable path to facilitate out-of-bankruptcy restructurings of public bond issues going forward. The appellate courts can and should affirm the lower court decisions that the Trust Indenture Act bans exit consent degradation, and the SEC can and should then use its exemptive power to carve out uncoerced votes on payment terms from the Act’s voting ban.

The full memo is available here.

For some of our most recent previous posts on the Trust Indenture Act see here, here, and here.

National Bankruptcy Conference Proposed Amendments to Bankruptcy Code to Facilitate Restructuring of Bond and Credit Agreement Debt

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By National Bankruptcy Conference, Richard Levin, Chair

While chapter 11 facilitates prepackaged plans that substantially reduce the cost, expense, and disruption of an ordinary chapter 11 case, it can still be an expensive and cumbersome process compared to an out-of-court workout. Recent court decisions under the Trust Indenture Act (Marblegate Asset Mgmt. v. Education Mgmt. Corp., — F. Supp. 3d —, No. 14 Civ. 8584, 2014 U.S. Dist. LEXIS 178707 (S.D.N.Y. Dec. 30, 2014), and Meehancombs Global Opportunities Funds, L.P. v. Caesars Entertainment Corp., — F. Supp. 3d —, No. 14 Civ. 7091 (SAS), 2015 U.S. Dist. LEXIS 5111 (S.D.N.Y. Jan. 15, 2015), can be viewed as making out-of-court restructurings involving bonds covered by the TIA by a less than unanimous bondholder vote more difficult than previously thought by requiring affected lenders’ unanimous consent to an out-of-court workout.

The NBC has prepared proposed legislation that would facilitate court supervision of bond restructurings under a new chapter 16 of the Bankruptcy Code. The proposal is a result of the NBC’s Committee to Rethink Chapter 11, a project that the NBC initiated in 2009 to examine how chapter 11 could be modernized to accommodate substantial changes in finance, economics, and law since it was first adopted in 1978. Chapter 16 proposes a middle ground, preserving both the flexibility of chapter 11’s collective action and super-majority voting rules for a workout involving only borrowed money and court supervision of the process to protect the minority while reducing the expense and complexity of using chapter 11’s prepackaged plan process.

For the full proposal, see here.

WSJ The Examiners — Trust Indenture Act

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In light of recent court developments in Marblegate and Caesars, in which courts interpreted Section 316(b) of the Trust Indenture Act (“TIA”) as barring bond exchange offers at issue, the Wall Street Journal’s Bankruptcy Beat this month posted responses to this question: how does bondholders’ use of the Trust Indenture Act affect companies’ ability to complete out-of-court restructurings?

Mark Roe sees the recent decisions as properly interpreting the TIA (see The Voting Prohibition in Bond Workouts for further analysis). But he sees the TIA to be a poor statute for today’s institutionalized market and urges the SEC to use its power to exempt transactions from the TIA, so as to allow binding votes in non-coercive out-of-court restructurings.

Adam Levitin and Sharon Levine predict that more companies will hesitate to register their debts to keep them out from the TIA. Levitin also sees the TIA’s voting ban as outmoded.

Jay Goffman discusses negative consequences of broad minority bondholder power and predicts that companies will limit their use of out-of-court exchange offers. J. Scott Victor also predicts that more companies will file for Chapter 11 bankruptcy when minority bondholders hold out and prevent out-of-court restructurings.

Jack Butler concludes that the TIA’s legislative intent was not to grant bondholders more than the legal right to sue the debtor, even if an exit consent transaction ousted them of the practical capacity to be paid.

On the other hand, Richard Chesley argues that recent decisions should not affect the use of out-of-court restructurings, while Brett Miller expects further judicial opinions on the scope and reach of the Trust Indenture Act.

For previous Bankruptcy Roundtable posts discussing the Trust Indenture Act’s scope, see herehere, and here.

(This post was drafted by Jenny Choi, J.D. ’16.)

Chapter 11 Duration, Pre-Planned Cases, and Refiling Rates: An Empirical Analysis in the Post-BAPCPA Era

By Foteini Teloni, Fordham University School of Law

The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (“BAPCPA”) enacted and amended several business bankruptcy provisions that triggered a heated debate over their effects on the chapter 11 landscape and the debtor’s reorganization chances.

In this article, I use multivariate regression models to examine empirically and quantify, for the first time, BAPCPA’s effect on three distinct aspects of the chapter 11 process: (a) the duration of traditional chapter 11 cases; (b) the use of preplanned bankruptcies; and (c) debtor refiling rates.

My study indicates that BAPCPA fulfilled, on the one hand, a long-standing desire of having shorter business reorganization cases. Indeed, the average duration of chapter 11 dropped from 480 days to 261 days in the post-2005 era, while the proportion of companies undergoing preplanned bankruptcies rose 23% in that same period. Even after controlling for various factors, including the companies’ pre-filing financial profile, BAPCPA remained correlated at a statistically significant level with shorter chapter 11 duration and more preplanned cases.

On the other hand, however, the proportion of debtors that had to refile for bankruptcy soon after exiting their previous filing increased 30% in the post-2005 era. BAPCPA’s effect on recidivism remained statistically significant even after controlling for a number of factors, including the companies’ post-emergence profitability and leverage.

It seems that the 2005 amendments force the debtor to emerge hastily from its chapter 11 proceedings, ignoring operational and structural problems and, therefore, not achieving true rehabilitation. And if one measure for successful bankruptcies is refiling rates, then BAPCPA seems to have failed in this respect.

The full article is published in 23 Am. Bankr. Inst. L. Rev. 571 (2015), and is available here.

Tender Offer Approved to Implement Classwide Debt Exchange Outside Plan of Reorganization

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By Charles M. Oellermann and Mark G. Douglas, Jones Day

Debt-for-equity swaps and debt exchanges are common features of out-of-court and chapter 11 restructurings. For publicly traded securities, out-of-court restructurings in the form of “exchange offers” or “tender offers” are, absent an exemption, subject to the rules governing an issuance of new securities under the Securities Exchange Act of 1933 (the “SEA”) as well as the SEA tender offer rules. By contrast, it is generally understood that the SEA rules do not apply if an exchange or tender offer takes place as part of a restructuring under chapter 11 of the Bankruptcy Code, which provides that certain federal and state securities laws do not apply to the offer or sale of securities under a chapter 11 plan.

In Del. Trust Co. v. Energy Future Intermediate Holdings, LLC (In re Energy Future Holding Corp.), 2015 BL 44121 (D. Del. Feb. 19, 2015), Judge Andrews affirmed a bankruptcy court order approving a settlement between debtors and certain secured noteholders where the vehicle was a postpetition tender offer (of old notes for new notes to be issued under a debtor-in-possession facility). The district court ruled that a tender offer may be used to implement a classwide debt exchange in bankruptcy outside a plan of reorganization. It also held that the Bankruptcy Code’s confirmation requirements do not apply to a pre-confirmation settlement and that the settlement at issue did not constitute a sub rosa chapter 11 plan.

The full-length article discussing the ruling can be found here.

Indenture Trustees in Out-of-Court Restructuring Transactions: Proceed with Caution

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By Howard Seife and Marian Baldwin Fuerst of Chadbourne & Parke LLP

BaldwinFuerstMarian_WEB SeifeHoward_WEB

The recent decision of the United States District Court for the Southern District of New York (the “S.D.N.Y.”) concerning the restructuring efforts of Caesars Entertainment Operating Company, Inc. (“OpCo”), the large United States casino operator which is currently in bankruptcy, should be on all indenture trustees’ radars.  See MeehanCombs Global Opportunity Funds, LP v. Caesars Entertainment Corp., 14- cv-7091, 2015 WL 221055 (S.D.N.Y. Jan. 15, 2015). The case arises from an August 2014 transaction, in which OpCo restructured certain of its unsecured obligations resulting in the elimination of guarantees by OpCo’s parent, Caesars Entertainment Corporation (the “Parent,” together with OpCo, “Caesars”). Caesars moved to dismiss a lawsuit brought forth by certain OpCo unsecured noteholders. After heavily scrutinizing the August 2014 transaction, US District Court Judge Scheindlin held that the noteholders could proceed with a majority of their claims for breaches of the Trust Indenture Act of 1939, as amended (the “TIA”), and state law. The court’s decision, entered right on the heels of a December S.D.N.Y. decision addressing a similar situation, establishes a clear precedent that out-of-court restructurings eliminating parent guarantees are disfavored in this influential District. The decision cautions indenture trustees to closely review any changes to core terms even when acting under the direction of noteholders.

To read more, click here.

For two related pieces discussing the Trust Indenture Act, see here and here.

Fixing the Trust Indenture Act to Allow Restructuring Votes

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By Mark J. Roe, Harvard Law School

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The Trust Indenture Act of 1939 bars binding bondholder votes on core payment terms. The inability of deal proponents to get a binding vote can lead the debtor to file for an otherwise unnecessary bankruptcy. To get a deal done when there are economically-important holdouts, deal proponents often seek exit consents to induce enough holdout bondholders to reluctantly tender into a deal they don’t otherwise like, by stripping the bond indenture of those covenants on which bondholders can vote.
Exit consent transactions have generally been upheld, despite that in analogous corporate settings such distortions induce doctrinal and deal structure issues. Recent decisions indicate that exit consents that oust the bondholders from an effective individual choice ran afoul of the Trust Indenture Act, which may well have been the intent of the 1930’s drafters of the law.
Regardless, the anti-voting provision is anachronistic. It was passed when bankruptcy law did not respect bondholder votes without a judge’s substantive approval of the deal, but the Code was updated in 1978 to allow binding votes. Bondholders should also be free to agree in advance to a binding vote in an out-of-court workout. More restructurings will succeed and avoid bankruptcy. And proponents will have less reason to resort to arm-twisting with exit consents. Similar individualized consent difficulties and holdout issues have hobbled sovereign debt restructurings, with sovereign debt issues moving in recent years to include majority vote provisions.
For my analysis of the incentives and structure of bond restructurings in light of the TIA, see 97 Yale L.J. 232 (1987).

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