The University of Chicago 9/22/2018 Class 25 Secured Transactions, Fall, 2017 Security Interests Near and In Bankruptcy Randal C. Picker James Parker Hall Distinguished Service Professor of Law The Law School The University of Chicago Copyright © 2001-17 Randal C. Picker. All Rights Reserved.

Exchange Offers I Hypo Bonds with face amount of $1000 Current market price is $500 Exchange Offer: Swap old bonds for new bonds if at least 75% of old bonds accept September 22, 2018

Exchange Offers I Hypo If offer is completed, expect new bonds to trade for $600, any remaining old bonds will trade at $900; if offer fails, market price drops to $450 What do we want? What happens? September 22, 2018

Individual Decision Decision Table Not Pivotal Fails Succeeds Vote For $450 $600 Vote Against $900

Answer Answer If offer will fail, indifferent; if offer will succeed, holdout, so vote against If all do so, offer fails even though in group’s interest September 22, 2018

Exchange Offers II Hypo Bonds with face amount of $1000 Current market price is $500 Exchange Offer: Swap old bonds for new bonds if at least 75% of old bonds accept September 22, 2018

Exchange Offers II Hypo If offer is completed, expect new bonds to trade for $400, any remaining old bonds will trade at $300; if fails, price stays at $500 What do we want? What happens? September 22, 2018

Individual Decision Decision Table Not Pivotal Fails Succeeds Vote For $500 $400 Vote Against $300

Answer Answer If offer will fail, indifferent; if offer will succeed, vote for If all do so, offer succeeds even though not in group’s interest September 22, 2018

Exchange Offers: Majority Binds Dissenters Hypo Bonds with face amount of $1000 Current market price is $500 Exchange Offer: Swap old bonds for new bonds if at least 75% of old bonds accept September 22, 2018

Exchange Offers: Majority Binds Dissenters Hypo If offer is completed, all bonds swapped and expect new bonds to trade for $600; if fails, price goes to $450 What do we want? What happens? September 22, 2018

Individual Decision Decision Table Not Pivotal Fails Succeeds Vote For $450 $600 Vote Against September 22, 2018

Answer Answer If offer will fail, indifferent; if offer will succeed, indifferent How do you vote? September 22, 2018

Exchange Offers: Unanimity Clauses Hypo Bonds with face amount of $1000 Current market price is $500 Exchange Offer: Swap old bonds for new bonds if 100% of old bonds accept September 22, 2018

Exchange Offers: Unanimity Clauses Hypo If offer is completed, all bonds swapped and expect new bonds to trade for $600; if fails, goes to $450 What do we want? What happens? September 22, 2018

Individual Decision Decision Table Pivotal Fails Succeeds Vote For $450 $600 Vote Against xxx September 22, 2018

Answer Answer Vote against: fails and get $450; vote in favor, chance at $600 Vote in favor September 22, 2018

Summary of Results If your vote doesn’t affect the outcome (not pivotal) Coercive exchange offer possible Creditor group prefers status quo but faces collective action problem and offer is accepted Welfare-enhancing offers may fail September 22, 2018

How To Deal With This? Solutions? Majority binds dissenters Your vote can’t control whether your bond is exchanged, unless you are pivotal If not pivotal, vote doesn’t matter; if pivotal, vote interest correctly September 22, 2018

How To Deal With This? Solutions? Unanimity clauses Makes everyone pivotal but with risks September 22, 2018

September 22, 2018 Senate Report on Trust Indenture Act of 1939, 4 Apr 1939

How Do Many Secured Creditors Act Together? September 22, 2018 Senate Report on Trust Indenture Act of 1939, 4 Apr 1939

How Do Many Secured Creditors Act Together? September 22, 2018 Senate Report on Trust Indenture Act of 1939, 4 Apr 1939

Barriers to Collective Action by Bondholders September 22, 2018 Senate Report on Trust Indenture Act of 1939, 4 Apr 1939

Trustee Actions After Default September 22, 2018 Senate Report on Trust Indenture Act of 1939, 4 Apr 1939

Trustee Actions After Default September 22, 2018 Senate Report on Trust Indenture Act of 1939, 4 Apr 1939

September 22, 2018 Trust Indenture Act of 1939, 1 Aug 1939

“Indenture” Definition September 22, 2018 Trust Indenture Act of 1939, 1 Aug 1939

Reports re Releases of Collateral September 22, 2018 Trust Indenture Act of 1939, 1 Aug 1939

Trustee Duties on Default September 22, 2018 Trust Indenture Act of 1939, 1 Aug 1939

Waivers by Bondholders: Majority Action September 22, 2018 Trust Indenture Act of 1939, 1 Aug 1939

Waivers by Bondholders: Super-Majority Action September 22, 2018 Trust Indenture Act of 1939, 1 Aug 1939

Limits on Waivers September 22, 2018 Trust Indenture Act of 1939, 1 Aug 1939

10-xx: Whose on First? Debtor Trustee SP1A SP1B SP1C 9/22/2018 10-xx: Whose on First? 1/1: Files All Assets FS with Trustee as Collateral Agent Debtor Trustee 2/1: $10K SA: All Assets 3/1: $10K SA: All Assets 4/1: $10K SA: All Assets 4/1 Describe priority as of this date. SP1A SP1B SP1C September 22, 2018

Answer Answer All three secured creditors are dating priority under the 1/1 financing statement Three secured creditors with identical priority September 22, 2018

10-xx: Whose on First? Debtor Trustee SP1A SP1B SP1C SP2 9/22/2018 10-xx: Whose on First? 1/1: Files All Assets FS with Trustee as Collateral Agent Debtor Trustee 2/1: $10K SA: All Assets 3/1: $10K SA: All Assets 4/1: $10K SA: All Assets 8/1: $10K FS, SA: All Assets SP1A SP1B SP1C SP2 8/1 Describe priority as of this date. September 22, 2018

Answer Answer SP2 is clearly junior to SP1A, SP2B and SP2C September 22, 2018

10-xx: Whose on First? Next Step Debtor defaults. Assets worth $15K SP1A wants to exercise its rights against the collateral What are its options? What happens if it does that? What if SP1B also wants to act? September 22, 2018

Marblegate (CA2 2017) Notes Parent Sub1 SP 2013: “Guarantee” 9/22/2018 Marblegate (CA2 2017) Notes Parent 2013: “Guarantee” 2013: USC: $217M 2014: Guarantee Sub1 SP 2010: $1.3B SA: All Assets September 22, 2018

The Guarantees Oddities Original Notes guarantee subject to being released if senior guarantee was released True even for subsequently-granted guarantee (meaning the 2014 guarantee) September 22, 2018

Exchange Offer If Unanimous Acceptance Secured debt  $400M in secured debt + 77% of equity in parent (45% haircut) Notes  19% of equity in parent (67% haircut) September 22, 2018

Exchange Offer If Not Unanimous Create new sub and sell assets to that sub after Article 9 foreclosure sale by consenting secured creditors Wipe out both guarantees Create new capital structure for new sub September 22, 2018

UCC-9 asset foreclosure 9/22/2018 Restructuring EDMC Notes NN NY Parent 2013: “Guarantee” 2013: USC: $217M 2014: Guarantee Sub1 SPY SP SPN UCC-9 asset foreclosure 2010: $1.3B SA: All Assets SPY: Senior debt SPN: Junior debt Asset Sale NewSub September 22, 2018

EDMC After Intercompany Sale 9/22/2018 EDMC After Intercompany Sale NN NY Parent USC: $14M Sub1 SPY SPN SPY: Senior debt SPN: Junior debt NewSub September 22, 2018

The Legal Question Applying TIA 316(b) Does the anti-impairment provision prevent this type of restructuring? September 22, 2018

BC 544: Trustee as Lien Creditor 9/22/2018 BC 544: Trustee as Lien Creditor (a) The trustee shall have, as of the commencement of the case, and without regard to any knowledge of the trustee or of any creditor, the rights and powers of, or may avoid any transfer of property of the debtor or any obligation incurred by the debtor that is voidable by – September 22, 2018

9/22/2018 BC 544(a) Cont. (1) a creditor that extends credit to the debtor at the time of the commencement of the case, and that obtains, at such time and with respect to such credit, a judicial lien on all property on which a creditor on a simple contract could have obtained such a judicial lien, whether or not such a creditor exists; September 22, 2018

9/22/2018 BC 544 Cont. (b)(1) Except as provided in paragraph (2), the trustee may avoid any transfer of an interest of the debtor in property or any obligation incurred by the debtor that is voidable under applicable law by a creditor holding an unsecured claim that is allowable under section 502 of this title or that is not allowable only under section 502(e) of this title. September 22, 2018

BC 550: Liability of Transferee of Avoided Transfer 9/22/2018 BC 550: Liability of Transferee of Avoided Transfer (a) Except as otherwise provided in this section, to the extent that a transfer is avoided under section 544, 545, 547, 548, 549, 553(b), or 724(a) of this title, the trustee may recover, for the benefit of the estate, the property transferred, or, if the court so orders, the value of such property, from – September 22, 2018

9/22/2018 BC 550(a) Cont. (1) the initial transferee of such transfer or the entity for whose benefit such transfer was made; or (2) any immediate or mediate transferee of such initial transferee. September 22, 2018

BC 551: Automatic Preservation 9/22/2018 BC 551: Automatic Preservation Any transfer avoided under section 522, 544, 545, 547, 548, 549, or 724(a) of this title, or any lien void under section 506(d) of this title, is preserved for the benefit of the estate but only with respect to property of the estate. September 22, 2018

10-1: The Hypothetical Lien Creditor Power 9/22/2018 10-1: The Hypothetical Lien Creditor Power Debtor Finco 3/1: $5,000 SA: Machine FS 8/1 How should the proceeds be divided? 1/1: $10,000 Machine = $10,000 Debtor owes suppliers $10,000 Bank 8/1 Debtor files for bankruptcy Finco SA set aside September 22, 2018

9/22/2018 10-1: Answer Answer Under Sec. 550, SI is preserved for benefit of the estate In this example, treat all as unsecured and do pro rata distribution under Sec. 726(b) Bank, $4K; Supplier, $4K; Finco, $2K September 22, 2018

9/22/2018 BC 547: Preferences (b) Except as provided in subsection (c) of this section, the trustee may avoid any transfer of an interest of the debtor in property – (1) to or for the benefit of a creditor; (2) for or on account of an antecedent debt owed by the debtor before such transfer was made; (3) made while the debtor was insolvent; September 22, 2018

9/22/2018 BC 547(b) Cont. (4) made – (A) on or within 90 days before the date of the filing of the petition; or (B) between ninety days and one year before the date of the filing of the petition, if such creditor at the time of such transfer was an insider; and September 22, 2018

9/22/2018 BC 547(b) Cont. (5) that enables such creditor to receive more than such creditor would receive if – (A) the case were a case under chapter 7 of this title; (B) the transfer had not been made; and (C) such creditor received payment of such debt to the extent provided by the provisions of this title. September 22, 2018

10-2: No Antecedent Debt, No Preference 9/22/2018 10-2: No Antecedent Debt, No Preference Debtor Finco 2/1 SA: Machine FS: Machine $10,000 4/1 Has Finco received a preference under BC 547(b)? Machine = $10,000 4/1 Debtor files for bankruptcy September 22, 2018

10-2: Answer No antecedent debt, so no preference September 22, 2018 9/22/2018 10-2: Answer No antecedent debt, so no preference September 22, 2018

10-3: Antecedent Debt, Preference 9/22/2018 10-3: Antecedent Debt, Preference Debtor Finco 2/1: $10,000 3/1 SA & FS Machine Machine = $10,000 5/1 Debtor files for bankruptcy 5/1 Has Finco received a preference under BC 547(b)? September 22, 2018

10-3: Answer b(1): transfer to or for the benefit of a creditor 9/22/2018 10-3: Answer b(1): transfer to or for the benefit of a creditor Yes b(2): on account of an antecedent debt The 2/1 debt of $10K b(3): made while the debtor was insolvent Presumed insolvent for 90 days prior under 547(f) September 22, 2018

10-3: Answer b(4): for non-insiders, made within 90 days of filing 9/22/2018 10-3: Answer b(4): for non-insiders, made within 90 days of filing Yes b(5): does better with transfer than without in hypo Chap 7 With transfer: collect in full Without: pro rata September 22, 2018

BC 547(e): Timing Transfers 9/22/2018 BC 547(e): Timing Transfers (e)(1) For the purposes of this section – (A) a transfer of real property other than fixtures, but including the interest of a seller or purchaser under a contract for the sale of real property, is perfected when a bona fide purchaser of such property from the debtor against whom applicable law permits such transfer to be perfected cannot acquire an interest that is superior to the interest of the transferee; and

9/22/2018 BC 547(e)(1) Cont. (B) a transfer of a fixture or property other than real property is perfected when a creditor on a simple contract cannot acquire a judicial lien that is superior to the interest of the transferee. September 22, 2018

9/22/2018 BC 547(e) Cont. (2) For the purposes of this section, except as provided in paragraph (3) of this subsection, a transfer is made – (A) at the time such transfer takes effect between the transferor and the transferee, if such transfer is perfected at, or within 30 days after, such time except as provided in subsection (c)(3)(B); September 22, 2018

9/22/2018 BC 547(e)(2) Cont. (B) at the time such transfer is perfected, if such transfer is perfected after such 30 days; or (C) immediately before the date of the filing of the petition, if such transfer is not perfected at the later of – (i) the commencement of the case; or (ii) 30 days after such transfer takes effect between the transferor and the transferee. September 22, 2018

9/22/2018 BC 547(e) Cont. (3) For the purposes of this section, a transfer is not made until the debtor has acquired rights in the property transferred. September 22, 2018

10-6: Late Filings and Secured Creditors 9/22/2018 10-6: Late Filings and Secured Creditors Debtor Finco 2/1: $10,000 SA: Machine 2/2 $10,000 3/15 FS: Machine 4/2 Has Finco received a preference under 547(b)? Bank 4/2 Debtor files for bankruptcy Assets = $5,000 September 22, 2018

9/22/2018 10-6: Answer The SI Under 547(e)(2)(B), the transfer of the SI took place on 3/15, the date it was perfected This creates antecedence, so avoidable September 22, 2018

Late Filings, 551 and Junior Secured Creditors 9/22/2018 Late Filings, 551 and Junior Secured Creditors Debtor Finco 3/1: $5,000 SA, FS: Machine 1/1: $10,000 SA: Machine 3/10 Debtor files for bankruptcy USC owed $10,000 2/15 FS: Machine 3/10 How should we divide the assets? Machine: $10,000 Bank September 22, 2018

Answer The Importance of 551 This is an avoidable senior lien case 9/22/2018 Answer The Importance of 551 This is an avoidable senior lien case Outside of bankruptcy, Bank would have priority over Finco Avoided security interest isn’t destroyed; instead it is preserved for the benefit of the estate under 551 September 22, 2018

9/22/2018 Answer Result Trustee takes security interest and can assert it to the full amount of Bank’s claim ($10,000) Bank will be treated as an unsecured creditor Finco’s junior security interest is out of the money September 22, 2018

Answer Final Numbers Pro rata calculation under BC 726(b) 9/22/2018 Answer Final Numbers Pro rata calculation under BC 726(b) Bank gets 2/5ths of $10,000, or $4,000 USC get the same Finco gets 1/5th of $10,000, or $2,000 September 22, 2018

Don’t Do Absent 551 If avoidance of lien meant that it was destroyed … 9/22/2018 Don’t Do Absent 551 If avoidance of lien meant that it was destroyed … Finco would get first $5,000 We would do pro rata on remaining $5,000 with Bank as 10K usc, general USC at 10K, for $2,500 to the Bank and $2,500 to the USCs September 22, 2018

Late Filings, 551 and Junior Secured Creditors 9/22/2018 Late Filings, 551 and Junior Secured Creditors Debtor Finco 3/1: $5,000 SA, FS: Machine 1/1: $10,000 SA: Machine 3/10 Debtor files for bankruptcy USC owed $10,000 2/15 FS: Machine 3/10 How should we divide the assets? Machine: $12,000 Bank September 22, 2018

9/22/2018 Answer Result Trustee takes security interest and can assert it to the full amount of Bank’s claim ($10,000) Bank will be treated as an unsecured creditor Finco’s junior security interest is in the money for $2,000 September 22, 2018

Answer Final Numbers Finco gets $2,000 as secured creditor 9/22/2018 Answer Final Numbers Finco gets $2,000 as secured creditor Pro rata calculation under BC 726(b) as to $10,000 as unsecured creditors Bank gets 10/23rds of $10,000, or $4,347.83 USC get the same Finco gets 3/23rds of $10,000, or $1,304.38 September 22, 2018

Answer Final Numbers Finco total is then $3,304.38. September 22, 2018 9/22/2018 Answer Final Numbers Finco total is then $3,304.38. September 22, 2018

10-4: Payments to Fully Secured Creditors 9/22/2018 10-4: Payments to Fully Secured Creditors Debtor Finco 2/1: $10,000 SA: Machine FS: Machine 4/2 Has Finco received a preference under 547(b)? 2/2 $10,000 Machine = $10,000 4/1: Debtor sells machine for $10,000 Gives money to Finco Bank 4/2 Debtor files for bankruptcy Assets = $5,000 September 22, 2018

10-4: Answer Two transfers to Finco within preference period 9/22/2018 10-4: Answer Two transfers to Finco within preference period 2/1 Transfer This is 10-2, no problem September 22, 2018

10-4: Answer 4/1 Transfer b(1) to b(4): yes b(5) 9/22/2018 10-4: Answer 4/1 Transfer b(1) to b(4): yes b(5) Prior security interest fully protects this payment Would have collected $10K in bankruptcy Better off? September 22, 2018

10-5: Synergies and Fully Secured Creditors 9/22/2018 10-5: Synergies and Fully Secured Creditors Debtor Finco 2/1: $10,000 SA: Machine 1 FS: Machine 1 4/2 Has Finco received a preference under 547(b)? 2/2 $10,000 Machine 1 = $10,000 Machine 2 = $5,000 Both = $17,000 4/2 Debtor files for bankruptcy Assets = Machine 2 Bank 4/1: Debtor sells Machine 1 for $10,000 Gives money to Finco September 22, 2018

9/22/2018 10-5: Answer Answer No preference issue, but note harm done to other creditors from sale of first machine September 22, 2018

10-7: New Property and Secured Creditors 9/22/2018 10-7: New Property and Secured Creditors Debtor Bank 2/1: $10,000 SA: All Prop, TO & TA Article 9 filing 2/12: Debtor acquires machine 3/1 Debtor files for bankruptcy 4/2 Has Bank received a preference under 547(b)? September 22, 2018

10-7: Answer Two Transfers 2/1 2/1 Transfer 2/12 Purchase of Equipment 9/22/2018 10-7: Answer Two Transfers 2/1 Transfer 2/12 Purchase of Equipment 2/1 Fine September 22, 2018

9/22/2018 10-7: Answer 2/12 Under 547(e)(3), transfer takes place at time debtor acquires equipment Problem ala 10-3 September 22, 2018

BC 547(c)(5): Two Point Net Improvement Test 9/22/2018 BC 547(c)(5): Two Point Net Improvement Test (c) The trustee may not avoid under this section a transfer - (5) that creates a perfected security interest in inventory or a receivable or the proceeds of either, except to the extent that the aggregate of all such transfers to the transferee caused a reduction, as of the date of the filing of the petition and to the prejudice of other creditors holding unsecured claims, September 22, 2018

BC 547(c)(5): Two Point Net Improvement Test 9/22/2018 BC 547(c)(5): Two Point Net Improvement Test of any amount by which the debt secured by such security interest exceeded the value of all security interests for such debt on the later of – (A)(i) with respect to a transfer to which subsection (b)(4)(A) of this section applies, 90 days before the date of the filing of the petition; or September 22, 2018

BC 547(c)(5): Two Point Net Improvement Test 9/22/2018 BC 547(c)(5): Two Point Net Improvement Test (ii) with respect to a transfer to which subsection (b)(4)(B) of this section applies, one year before the date of the filing of the petition; or (B) the date on which new value was first given under the security agreement creating such security interest; September 22, 2018

10-8: Floating Collateral and Secured Creditors 9/22/2018 10-8: Floating Collateral and Secured Creditors Debtor Bank 2/1: $10,000 SA: INV, TO & TA Article 9 filing Debtor already has $10,000 in INV 3/1 Debtor files for bankruptcy 3/1 Debtor has $10,000 in INV all acquired after 2/1 3/1 Has Bank received a preference under 547(b)? September 22, 2018

10-8: Answer Bottom Line Step by Step 9/22/2018 10-8: Answer Bottom Line No improvement in position, so one hopes no preference 547(c)(5) protects this Step by Step September 22, 2018

10-8: Floating Collateral and Secured Creditors 9/22/2018 10-8: Floating Collateral and Secured Creditors Debtor Bank 2/1: $10K SA: INV, TE & TA Article 9 filing Debtor already has $8,000 in INV 3/1 Debtor files for bankruptcy 3/1 Debtor has $10,000 in INV all acquired after 2/1 3/1 Does that change your answer? September 22, 2018

10-8: Answer Bottom Line Step by Step 9/22/2018 10-8: Answer Bottom Line $2K improvement in position, so should be preference Step by Step September 22, 2018