A ruling in MPM
Silicones’ Chapter 11 proceedings could be
detrimental to the amount secured lenders in future
reorganisations can expect to be repaid.
The ruling by Southern
District of New York Judge Robert Drain at the end of August
forced the cramdown of secured lenders to below market level
notes. While the process is not uncommon, the judge used a
formula established for Chapter 13 bankruptcies filed by
The restructured notes have an
interest rate at treasury, plus a small risk adjustment. The
ruling also eliminates the make whole secured lenders agreed to
in the indenture.
An appeal is pending and
creditors may still be able revert to previous cash offer. But
the ruling’s ramifications could be far reaching.
It may incentivise troubled companies to commence bankruptcy
proceedings, while lenders could be less inclined to become
involved with distressed debt.
"This decision represents a
chink in the Bankruptcy Code’s intent to protect
the interests of secured creditors," said Ropes & Gray
partner Mark Bane who is representing Wilmington Trust, the
indentured trustee for one group of secured creditors. "This
new vulnerability poses a problem to both lenders and borrowers
in bankruptcy, and even more so when a company is trying to
avoid needing to file for bankruptcy."
- A New York judge
has ruled that secured creditors in Chapter 11 can be crammed
down to below market rate restructured
- The decision is
based on US Supreme Court ruling on a different chapter of
the US bankruptcy code;
- The decision could
set a precedent against lenders, and possibility move
distressed companies to choose bankruptcy rather than out of
The decision allows MPM
Silicones to cramdown a pre-packed agreement that two groups of
secured creditors voted against. The creditors will receive the
treasury rate plus an additional 0.5% for the first group of
secured creditor, and 0.75% for the other.
The decision leaves the
interest rate far below market value, a risk most secured
creditors don’t consider.
The judge also denied the make
whole premium, however there is precedent for this. Other
judges have ruled against make wholes when the language in the
indenture is ambiguous.
Other than having a higher
rate to begin with, there really isn’t an
easy drafting or structural way around this risk
"While the make whole decision
can be dealt with by clearer drafting, there is no way for
investors to address the ruling on cramdown," said Gary Kaplan,
a New York-based bankruptcy partner at Fried Frank. "The
concern for a secured lender is that other than having a higher
rate to begin with, there really isn’t an easy
drafting or structural way around this risk."
The ruling could tarnish the
US’s image as a creditor friendly
Security for lenders has
allowed distressed companies to restructure their debt without
the expense or burden of bankruptcy. "This decision could
reverse this trend by chilling lenders’
willingness to lend to a troubled company," said
The ruling could also mean
secured creditors in future cases receive less than unsecured
lenders. The US bankruptcy code requires unsecured lenders to
be paid the claim in cash or other forms, which can and often
does include stock. Being able to receive stock while secured
creditors have new notes with very low interest rates could
leave unsecured creditors better off.
If the ruling is upheld,
secured creditors may see their leverage in the bankruptcy
process dwindle, sparking them to look for earlier compromises.
For their part, debtors could potentially use the decision as a
way to secure cheaper financing.
The judge in this case
followed US Supreme Court precedent relating to a different
Its 2004 Till v SCS Credit
Corp ruling cemented a federal court decision that created
a formula to calculate how much a debtor must pay a secured
creditor in a Chapter 13 bankruptcy. Chapter 13 is limited to
individuals with regular income and under certain debt
limitations. It is not an option for most business.
The formula was set at par
plus between one and three percent, to account for risk
adjustment to be determined by the judge.
In the MPM Silicones case, the
judge chose to use treasury to better reflect long-term
borrowing rate, but it further decreased
Until the MPM Silicones case,
it was unclear whether this decision would apply to Chapter
"Given that Judge Drain is
well respected, has previous experience in financing and issued
a very reasoned decision, there is a possibility of other
judges following it," said Kaplan.
Judge Drain is still
considering whether the creditors can change their votes to
return to a previous cash offer. If they can, it should
minimise the ruling’s impact.
The Till ruling
included a footnote explaining that the formula was used in
this situation because no efficient market was available to
base the rate off of. The secured creditors argued that as a
large company MPM Silicones would be able to obtain a
competitive borrowing rate, which an individual in Chapter 13
could not. Therefore, an efficient market existed to base the restructured
interest rate on.
This will be an important
point if the case reaches appeal.
Federal judge: lessons from US bankruptcy
More detail on UK pre-packs needed
Bankruptcy – how remote is your note?