Written by attorney Jonathan Todd Brand

Nuts & Bolts of Section 363 Sale: An overview of asset dispositions in bankruptcy

Nuts & Bolts of Section 363 Sales: An overview of disposition of assets in bankruptcy cases.

*Statutory Considerations *Authority to Sell Property of the Estate * 11 U.S.C. 363(b). “The trustee, after notice and a hearing, may use, sell, or lease,other than in the ordinary course, property of the estate, . . ." * Todetermine whether a particular sale is outside of the ordinary course of business, courts employ two tests: a “horizontal test" and a “vertical test." * 11 U.S.C. 363(f). The trustee may sell property under subsection (b) or (c) of this section free and clear of any interest in such property of an entity other than the estate, only if –

(1)Applicablenonbankruptcylaw permits sale of such property free and clear of such interest;

(2)Such entity consents;

(3)Such interest is a lien and the price at which such property is to be sold is greater than the aggregate value of all liens on such property;

(4)Such interest is in bona fide dispute; or (5)Such entity could be compelled, in a legal or equitable proceeding, to accept a money satisfaction of such interest.


*The reversal or modification on appeal of an authorization under subsection (b) or (c) of this section of a sale or lease of propertydoes not affect the validity of the a sale or lease under such authorizationto an entity that purchased or leasedsuch propertyin good faith, whether or not such entity knew of the pendency of the appeal, unless such authorization and such sale or lease were stayed pending appeal.

*Standards Applicable to 363 Sales *In re Lionel Corp., 722 F.2d 1063 (2d Cir. 1983)(emphasis added).

“there must besome articulatedbusiness justification,other than appeasementof major creditors, forusing, sellingor leasing propertyout of the ordinary course ofbusinessbefore the bankruptcy judgemay order suchdispositionunder section 363(b)."

*The“business justification" standard means that certain reasons for a sale are impermissible, such as appeasement of majorcreditorsand the pure need for an expedited process, and the court will have to consider the ramifications of a number of factors before approving a sale.

*Lionel factors – Business Justification

*Lionel’sanalysis provides seven salient factors to consider, but acknowledges that other factors may be relevant as well:

*the proportionate value of the asset to the estate as a whole,

*the amount of elapsed time since the filing,

*the likelihood that a plan of reorganization will be proposed and confirmed in the near future,

*the effect of the proposed disposition on future plans of re-organization,

*the proceeds to be obtained from the dispositionvis-a-visany appraisals of the property,

*which of the alternatives of use, sale or lease the proposal envisions, and

*whether the asset is increasing or decreasing in value.

*Debtor must demonstrate that it proffered for Court approval “the highest and best offer" under the circumstances of the case.

*This is accomplished by seeking approval of competitive bidding procedures

*Rules Applicable to 363 Sales

*The Rules expressly provide that the trustee need only give 21 days notice to sell property pursuant to Section 363(b).FED. R.BANKR.P. 2002(a)(2). *The Rules further provide that such a sale may be private or by public auction.FED.R.BANKR.P. 6004(f)(1). *Sale-Bidding Process *Attracting or Identifying Leading Purchaser *Ordinary M&A marketing process *Retaining the Proper Professionals *Due Diligence conducted by prospective bidders (cloud/physical location) *Negotiate Initial Offer through Drafting of Asset Purchase Agreement *Leading bidder (burdens & benefits) 363 Sale Process - Buyer Protections *When a debtor/trustee sells assets under Section 363, there is an obligation to maximize recoveries for creditors.In re S.N.A. Nut Co., 186B.r. 98 (Bankr. N.D. Ill. 1995). *Buyer protections may include:

*Provisions for a deposit

*Terminationprovisions, but must be narrow and specific *Break-up fee *A payment of a fixed amount payable to the stalking horse if a sale to that bidder is not completed. *In re CXM, Inc.,307 B.R. 94 (Bankr. N.D. Ill. 2004)– what may happen if break up and related fees are not given appropriate priority or other security.

*Topping fee–

*Administrativefee reimbursement (capped)

*Rights of FirstRefusal

*Buyer protections require bankruptcy court approval. *Business Judgment Rule (generally). Must not chill bidding. *Bidding incentives may “be legitimately necessary to convince a white knight to enter the bidding by providing some form of compensation for the risks it is undertaking". In re 995 Fifth Ave. Assocs., L.P., 96 B.R. 24, 28 (Bankr. S.D.N.Y. 1992) *“[bidding incentives] are meant to compensate the potential acquirer who serves as a catalyst or ‘stalking horse’ which attracts more favorable offers".In reMarroseCorp.,Nos. 89 B 12171-12179 (CB), 1992 WL 33848 at *5 (Bankr. S.D.N.Y. 1992). *Higherstandard in Chicago -- “whether interests of all concerned parties are best served by such a fee" – “bankruptcy courts should carefully scrutinize breakup fees to be sure that, following the underlying policy guiding 363, revenues will be maximized." SNA NutCo. CalpineCorp. v. O’BrienEnvtlEnergy, Inc. (In re O’BrienEnvtlEnergy, Inc.), 181 F. 3d 527 , 533 (3d Cir. 1999).

Eventhough bidding incentives are measured against a business judgment standard in non-bankruptcy transactions, the administrative expense provisions in section 503(b) of the Bankruptcy Code govern in the bankruptcy context. Accordingly, to beapproved, bidding incentives such asa breakup feemust provide benefit to a debtor’s estate.

*“assurance of a break-up fee promoted more competitive bidding, such as by inducing a bid that otherwise would not have been made and without which bidding would have been limited." 537. *where the availability of bidding incentives induced a bidder to research the value of the debtor and submit a bid that serves as a minimum or floor bid on which other bidders can rely, “the bidder may have provided a benefit to the estate by increasing the likelihood that the price at which the debtor is sold will reflect its true worth."Id.

*Sale-Bidding Process

*Court Involvement (2-Step Process).

*File a Motion Seeking Court Approval of: *Bid Procedures, Bid Protections, Auction Procedures.

*Assumption and Assignment Procedures

*Solicitation of Bids, Date/Location of Auction

*Scheduling Hearings on Approval of Sale

*Follow up on Notices

*Scream orDie. *365 Issue. Object (if you have an objection):

*(1)theassignment of yourexecutorycontract, license, orlease,

*(2) itsassignment to the particular buyer proposed, or

*(3)theamount proposed to be paid to cure defaults,

*Post-Court Approval of Step 1

*Auction Process *Due Diligence period

*Qualification of potential bidders

*Expression of interest

*Confidentiality agreement

*Ability to perform

*Submission of initial bids

*Use of stalking horse bidder’s form APA

*Deposit often required

*Bids irrevocable

*Firm offers (no contingencies)

*Post-Court Approval – Auction Takes Place *Marketing to competing bidders *Qualification of competing bidders and bids *Auction, if there are qualified competing bids *Open call vs. Sealed Bids. *Conduct by Auctioneer *Conduct by bidders – 363(n) *Sell in whole or piece-by-piece *Acquire assets “as is, where is" *Select “highest and best" bid *Selecting back-up bid *Post Auction – Seek 2ndCourt Approval *Court approval of the Auction (including the assumption and assignment ofexecutorycontracts) *All transaction documents are submitted for approval to the Court. *Closing *After automatic 14-day stay of the sale order, or immediately if the Court waives the 10-day stay. *Time Line -Buyer’s indication of interest Day 1 -Buyer’s due diligence 10-30 Days -Negotiate & sign APA 10-30 Days -File Motion (Petition???) 21 days notice -Marketing, due diligence 30-45 days -Bid qualification (escrow) 2-3 days -Auction 1 day -Sale Approval hearing 2-3 days -Closing 14 days -Total Approx. 140 days *What is an interest? *Sell property “free and clear of anyinterest in such property" *Interest in property of the debtor *Security interest or other lien *Claim directly related to the debtor’s property *Setoff right *Interest that affects property of the debtor *Claim that can be paid only from the debtor’s property *Successor liability for the owner of the asset/business? *General unsecured claims against the debtor? *Warranty claims? *Personal Injury claims? (successor liability issue) *Sale Free & Clear of Interests: Effect of Lienholders *Lienholders usually get paid the value of the collateral *Lienholders may “credit bid" *Found in 363(k). *Provides an opportunity to bid the full amount of the claim for the assets, without advancing fresh cash (except as needed for operations or liquidation) *Protects lienholders against underbids *Effectively, a federal going concern foreclosure process *Assumption of Liabilities *Buyer’s choice what to assume *Buyer may assumeexecutorycontracts and unexpired leases *Contracts needed in business operations, real and personal property leases, CBAs *Assumption requires cure of any existing defaults and agreement to perform the contractual terms – effectively an assumption of the liability *Buyer may also assume trade and other unsecured debt *Often done to protect suppliers who might otherwise fail or to maintain good relations with suppliers *Usually assume EE wage and benefit obligations *Limitations on assumption of unsecured debt

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