In this post I look at the second seizure phenomenon and then discuss an interesting new case addressing whether a fairly common intercreditor agreement provision - giving a senior lender the right to a second ballot embargo lender’s claim bankruptcy - will actually be accomplished run.
Senior debt and mezzanine financing. When a company borrows from a bank, which usually gives the bank a first priority, global security in the interest of all its assets to secure this high level of debt. In the past, when a company needs additional capital, either to grow the business or to finance an acquisition, became often unsecured “mezzanine” financing, so named to reflect its middle position between senior debt and equity. This type of unsecured debt in general is subject to complete payment subordination in favor of high-level lender and is considerably more expensive than bank debt.
The second Lien market. One of the biggest trends in funding in recent years has been the abandonment of mezzanine credit without collateral to the debt secured by a second priority security interest in all assets of the company. Much of this “second hand” debt is coming from hedge funds and other private equity funds, although more traditional lenders have also become active in the market. According to CFO.com, the second hand market has grown dramatically in recent years, from $ 570 million in 2002 to over U.S. $ 16 million in 2005. Some reports suggest that approached $ 30 billion in 2006.
Why the attraction to the second seizure funding? The main reasons are price, terms and availability. Healthy companies generally find the prices in the second lien credit to be lower than unsecured debt (although a little more expensive than on senior debt) and often comes with few covenants. For distressed companies, if they can obtain additional credit at all, often as part of a restructuring in which a new lender requires a second lien to protect it from an increased risk of default.
The subordination and Intercreditor Agreements. Most second mortgages are blanket security interests and cover the same collateral against which the senior lender has a first lien. Traditionally, high-level lenders include provisions in their loan documents prohibiting borrowers from granting security interests or privileges of any other lender without the consent of senior lender. When a lender intends to make a second pledge (also known as a “junior” or “tranche B” loan), must negotiate not only with the borrower, but also with superiors or “tranche A” lender. As the size of the second hand market suggests, high-level lenders have been willing to give their consent to a background loans, often to help the borrower make an acquisition or to bring in additional liquidity.
* Negotiations between the first and second arrest lenders usually address their respective rights to the collateral and various provisions relating to the repayment of their loans. Sometimes, the second less debt will be subordinated to repayment of debt principal, as with traditional mezzanine financing, but more often only the security of common interest in the collateral will be subordinated to the senior lender.
* The lender generally high level insists that the junior lender be a “second silence” and waive rights to oppose the measures taken by the senior lender in a default or bankruptcy. The junior lender instead wants to be able to protect their own interests. The end result often comes at an intermediate point, but restrictions on the second lender embargo are common.
* The agreements between superiors and the second arrest lenders are documented in a separate agreement, usually called intercreditor agreement or a subordination agreement.
Major provisions of Intercreditor Agreement. If all goes well and the borrower pays its loans on time, the provisions of the intercreditor agreement will not be all that important. However, if the borrower defaults on loans, or files bankruptcy, the terms of the agreement can become critical.
* With bankruptcy in mind, key provisions negotiated in intercreditor agreements often include waivers or consents from the second lender embargo on debtor in possession (DIP) financing, the use of cash collateral, the right to adequate protection , Conducting an article 363 of the sale debtor’s assets (that is, the lenders’ collateral), and the extent to which the senior lender is entitled to vote the second lien lender’s claim on any Chapter 11 Bankruptcy reorganization plan.
* Section 510 (a) of the Bankruptcy Code provides that a “subordination agreement is enforceable in a case under this title to the same extent as that agreement is enforceable under applicable nonbankruptcy law.” Bankruptcy courts enforce the payment of routine subordination provisions in which the junior lender agrees not to receive any payments (or turn, receives more than any) until the senior lender is paid in full.
Bankruptcy voting provisions. Bankruptcy voting provisions, however, have not always been forced. In particular, the court in In re 203 North LaSalle Street Partnership, 246 BR 325 (Bankr. ND Ill. 2000), argued that Section 1126 (a) of the Bankruptcy Code, which states that “the holder of a credit or interest Allowed under section 502 of this title may accept or reject a plan, “means that only the holder of the claim may vote and that an agreement which entitles the senior lender is not enforceable. Other courts have been more willing to enforce the provisions of votes in subordination agreements. However, the issue has not come up very often. Voting provisions have been informed decision only a handful of cases over the past 25 years.
The decision to aerosol containers. That lack of authority makes the decision in In re Aerosol Packaging, LLC, issued by a bankruptcy court in Atlanta in late December 2006, of great interest. (Thanks to Scott Riddle of the Bankruptcy Act Georgia Blog for the first shift in the decision.) In this case, Wachovia Bank is the lender senior subordinated under an agreement with Blue Ridge Investors, II, LP, A second seizure lender to the debtor, Aerosol Packaging. In its Chapter 11 bankruptcy, the debtor filed a reorganization plan acceptable to Wachovia. When the votes were requested, both Wachovia and Blue Ridge submitted competing ballots voting Blue Ridge’s claim, with Wachovia accept the vote on the plan primary treatment of Blue Ridge’s claim and Blue Ridge proposes that the voting refuse treatment .
* Blue Ridge then filed a motion seeking a determination of its voting rights and allocation of its vote instead of a Wachovia submitted. (For reference, the subordination agreement is attached as an exhibit to that motion designates Blue Ridge as “subordinated creditors” and Wachovia, as successor to SouthTrust Bank, as the “lender”.)
* Wachovia opposed the motion, based on a section in the subordination agreement that has, as the lender, “irrevocably authorized and empowered (in his own behalf or on behalf of creditors subordinates)” to “take any other action ( including without limitation voting subordinated debt … “because” it is deemed necessary or desirable. “Wachovia also argued that the re A 203 North LaSalle Street Partnership case, relied on by Blue Ridge, was wrongly decided and that the rules on Bankruptcy allows agents to vote another party’s claim.
* To complete the picture, the debtor itself also filed a response supporting Wachovia’s position.
In siding with Wachovia, the bankruptcy court held that Wachovia was the agent of Blue Ridge, that under the subordination agreement Blue Ridge assigned its right to vote to Wachovia, and that the Section 1126 (a) Code Bankruptcy does not prohibit the implementation of such provisions. The court agreed, therefore, Wachovia’s vote and rejected by the Blue Ridge. The court also noted that Blue Ridge is not without a remedy: “you can extricate themselves from the current effect of the subordination agreement by paying the Wachovia claim in full in cash.” Blue Ridge has appealed the decision, so that a higher court may have an opportunity to comment on the matter.
More uncertainty. As only one bankruptcy court ruling, the decision of aerosol containers not resolve the question of whether bankruptcy voting provisions apply. However, it is interesting that the court considered and rejected the reasoning of the In re 203 North LaSalle Street Asociados decision. Given that this subordination agreement involving both the embargo subordination and payment is unclear whether the provision would have been forced to vote if lenders agree embargo not only has participated payment and subordination, which is the most typical second agreement of law restraint. The answer to that question will have to wait for the next event.
