Alla Raykin, section 363 Sales: Mooting Due Process?

• Publication year: 2011

SECTION 363 SALES: MOOTING DUE PROCESS?

ABSTRACT

The use of § 363 sales has become immensely popular. The mechanism is no longer used just to get cash funding through the reorganization, but to dispose of the bankruptcy petition altogether. The primary benefit of § 363 sales is their speed. The Lehman Brothers, Chrysler, and General Motors bankruptcies demonstrated exigent situations in which courts approved quick

§ 363 sales to avoid the risk of allowing such large companies to fail. The

speed of § 363 sales provides an efficient mechanism to obtain cash without confirming a reorganization plan, but this speed also leaves creditors vulnerable to due process violations because of the condensed time frame.

Once a court authorizes a § 363 sale, respect for the finality of good faith purchases makes creditors’ opportunity for appellate review very limited. Final sale orders are immune from modification or reversal by the mootness provision in § 363(m). The shroud of mootness can compel debtors to create an emergency situation, forcing courts to choose between approving abridged procedural protections and compromising a successful reorganization. This Comment will demonstrate how Chrysler and GM serve as examples for how debtors and powerful asset purchasers can use § 363 to expedite and moot creditor due process. This Comment suggests that protecting due process is an equally important pillar of bankruptcy law as finality and makes recommendations to mitigate creditors’ lack of remedies in § 363 sales without sacrificing the principle of finality.

INTRODUCTION

Over the past two decades, § 363 sales have become an increasingly common and controversial method to reorganize financially distressed companies. Section 363 offers a distressed company an efficient mechanism to obtain cash for its reorganization. By condensing the bankruptcy process,

§ 363 sales make creditors’ due process rights especially vulnerable.

Nonetheless, once a court authorizes a sale, a creditor has very little opportunity to appeal.

Section 363 sales allow a trustee or debtor-in-possession (“DIP”) to use, sell, or lease all or substantially all of the property of the estate, outside the ordinary course of business, provided there is notice and hearing of the sale.1 Since the addition of § 363 to the Bankruptcy Code (the “Code”),2 § 363 sales are increasingly used not only to obtain cash to fund the reorganization process, but to sell entire companies and dispose of the bankruptcy without a plan. The surge of § 363 sales corresponds with debtors increasingly using chapter 11 as a means to sell a business.3 More than twenty percent of chapter 11 cases are disposed of through § 363 sales.4

Finality is a vital pillar of bankruptcy: it creates certainty that parties can continue in reorganization without being mired in endless litigation. In § 363 sales, finality encapsulates that reverence for bona fide purchasers.5 Ensuring finality encourages participation in reorganizations and increases the amount bidders are willing to pay for debtors’ assets.6 Congress emphasized finality by incorporating § 363(m), which moots appeals of authorized § 363 sales.7 Thus,

1 11 U.S.C. § 363(b) (2006). While the statute refers to the “trustee,” the debtor in possession may exercise all the rights afforded to the trustee. Id. §1107.

2 See H.R. REP. NO. 95-595, at 181–82 (1977), reprinted in 1978 U.S.C.C.A.N. 5963, 6301–03

(discussing the legislative intent of the section).

1. Douglas G. Baird, The New Face of Chapter 11, 12 AM. BANKR. INST. L. REV. 69, 80–81 (2004) (stating three-quarters of bankruptcies are used to sell the company). As of 2002, of the ten largest bankruptcies, eight used the bankruptcy court to sell their assets to the highest bidder. Id; see also Appendix A, Chart I.

2. This is true for 2003–2009; 2010 data does not yet bear this out. 363 Sales of All or Substantially All Assets in Large, Public Company Bankruptcies, as a Percentage of All Cases Disposed, by Year of Case Disposition, AM. BANKR. INST. (last visited on Oct. 5, 2012), http://lopucki.law.ucla.edu/tables_and_graphs/ 363_sale_percentage_graph_4-6-2011.pdf.

3. The terms “bona fide purchaser” and “good faith purchaser” are synonymous. A good faith purchaser’s purchase for value has a superior right to purchased property to transferor’s creditors, even if the transferor

defrauds the creditor. BLACK’S LAW DICTIONARY 1355 (9th ed. 2009).

6 In re Sax, 796 F.2d 994, 997 (7th Cir. 1986).

1. 11 U.S.C. § 363(m) (2006); see also infra Part I.B.

   if undiscovered oversights or mistakes occur prior to the sale’s authorization, creditors have extremely limited options for appellate review.8

   
   

   The right of aggrieved parties to have adverse decisions reviewed competes with a strong policy of finality.9 Courts face the challenge of juggling competing claims to fashion the optimal relief to all creditors. Standards for sale approval give great weight to the debtor’s and buyer’s insistence that the sale be done urgently. Though this urgency may be authentic, it poses the

   danger of tipping the scales too heavily in favor of a debtor in a conflict with a creditor. Because creditors have limited recourse for grievances post- authorization, courts must strive to balance the scales prior to sale confirmation.

   
   

   This Comment addresses the competing polices that materialize in § 363 proceedings: due process for all parties affected by a sale and protecting the viability of sales through finality. Part I discusses the efficiency of § 363 sales, while demonstrating the negative ramifications of the diminished protections for creditors. Part II examines the concerns that can arise with quick sales through discussion of the Chrysler and General Motors bankruptcies and their progeny. Because expedited proceedings are vulnerable to error, some courts have interpreted § 363(m) to allow relief when such relief would not sacrifice finality. Capitalizing on such a balance, Part III suggests an equitable approach to due process, which weighs the interests of a successful reorganization and of the creditors to ensure both parties are protected before a sale is authorized, to avoid undermining the finality of sales.

   
   

   1. SECTION 363 SALES

      
      

      Section 363 sales offer great advantages but have less protection for creditors than the plan process. The procedure relies heavily on the debtor’s judgment to assess the exigency of the situation, and puts creditors at a disadvantage because they must act quickly, despite an informational disadvantage, to successfully object to a motion for sale. Once a court authorizes the sale, creditors have very limited opportunity for redress because mootness operates to protect good faith buyers and foreclose appeals. Though

      
      

2. See infra Part I.B.

3. Ira L. Herman, Finality Through Mootness: Protecting Capital Providers in Bankruptcy Cases., ASSET SALES COMM. NEWSLETTER, Apr. 2007, at 7, available at www.abiworld.org/committees/newsletters/

   assetsales/vol4num2/AssetSales.pdf (citing Mission Iowa Wind Co. v. Enron Corp. (In re Enron Corp.), 291 B.R. 39 (S.D.N.Y. 2003)).

   a party might seek a stay pending appeal, the court that approved an exigent sale is unlikely to grant the extraordinary remedy.

   
   

   1. Section 363 Sale Advantages & Disadvantages

      
      

      1. Advantages: Section 363 Provides an Efficient Transfer of Assets Mechanism

         
         

         Section 363 sales provide debtors a valuable and flexible tool. The option provides debtors the ability to quickly dispose of a rapidly depreciating asset, liquidate the estate expediently, and complete the sale without a lengthy chapter 11 reorganization plan.10 The sales promote more efficient markets than liquidation.11 The sales provide benefits to debtors by allowing sales free and clear of liens under § 363(f),12 allow protections from successor liability, and have lower administrative costs than chapter 11.13 Section 363 may allow actions that would normally not get confirmation as a chapter 11 plan or get shareholders’ approval outside of bankruptcy.14 One of the most significant

         
         

4. 3 COLLIER ON BANKRUPTCY ¶ 363.02 (Alan N. Resnick & Henry J. Sommer eds.,16th ed. 2011).

5. See In re Gulf Coast Oil Corp., 404 B.R. at 407, 424 (Bankr. S.D. Tex. 2009) (“The principal justification for § 363(b) sales is that aggressive marketing in an active market assures that the estate will receive maximum benefit.”); Douglas G. Baird & Robert K. Rasmussen, The End of Bankruptcy, 55 STAN. L. REV. 751 (2002); Jason Berge, An Efficiency Model of Section 363(b) Sales, 92 VA. L. REV. 1639 (2006). Contra Lynn M. LoPucki & Joseph W. Doherty, Bankruptcy Fire Sales, 106 MICH. L. REV. 1, 24 (2007) (providing empirical evidence that judicially-based valuations are more accurate (based on post-reorganization

   trading values) than valuations in bidding).

6. 11 U.S.C. § 363(f). The section allows such sales provided one of the following: (1) applicable nonbankruptcy law permits; (2) the entity consents; (3) the price of the property to be sold is greater than the aggregate value of all the liens on the property; (4) a bona fide dispute; or (5) the entity could be compelled in a legal or equitable proceeding to accept money satisfaction. Id. This Comment focuses on § 363(b), and will not discuss the breadth of a purchaser’s ability to acquire assets without any accompanying liabilities. See, e.g.,

   Clear Channel Outdoor, Inc. v. Knupfer (In re PW, LLC), 391 B.R. 25, 37–47 (B.A.P. 9th Cir. 2008) (discussing statutory interpretation of § 363(f); see also Lee R. Bogdanoff, The Purchase and Sale of Assets in Reorganization Cases-of Interest and Principal, of Principles and Interests, 47 BUS. LAW. 1367, 1399–1425 (1992).

7. Joseph J. Wielebinski, et al., Recurrent and Developing Issues Encountered in Sales Pursuant to

   Section 363 of the Bankruptcy Code, ADVANCED BUSINESS BANKRUPTCY CONFERENCE, MAY 1–2, 2008,

   AUSTIN, TEXAS, CHAPTER 2, at 1, available at www.munsch.com/files/1610223_1.pdf. The 2005 amendments added more procedural hurdles to chapter 11 plans, making § 363 sales more attractive. See ...