One of the most powerful and oft used devices in bankruptcy is the sale of assets “free and clear” of liens, claims and interests. One issue a buyer at a bankruptcy sale must consider, however, is whether due process has been met with respect to parties whose liens, claims and/or interests are released through such sale.  Indeed, a lack of due process could foil a “free and clear” sale, leaving a buyer with an encumbered purchase and nowhere to turn for recourse.

In In re Olsen, a Wisconsin bankruptcy court considered whether the failure to provide formal notice to a party with a right of first refusal (ROFR) on certain of the debtor’s real estate (Property) voided the court’s “free and clear” sale order. The court held that the sale process did violate due process and that the effective remedy was honoring the ROFR in a subsequent (post bankruptcy) sale of the Property.

In order to maximize the going concern value of its grain facility business, the debtor sought to sell substantially all of its assets in conjunction with its plan of reorganization. Archer-Daniels-Midland (Purchaser) purchased the assets, including the Property.  Subsequent to the conclusion of the bankruptcy case, the Purchaser sold the Property to a third party.  Country Visions Cooperative (Objector), the holder of the ROFR, sued the Purchaser in state court and asserted its ROFR.  The Purchaser countered by moving to reopen the bankruptcy case to enforce the confirmation order and bar the Objector’s state court proceeding.

In upholding the ROFR, the bankruptcy court found three important undisputed facts: (i) the Objector was not listed as a creditor of the debtor, and did not receive formal notice of the bankruptcy case, (ii) the Objector never received formal notice that the Property was to be sold free and clear of the ROFR, and (iii) the Objector never received the contractual notice that the Property was being sold as required by the ROFR.

Notably, the Objector did receive informal notice of the bankruptcy case and may have even learned about the sale shortly before closing. However, such notice was not “notice reasonably calculated, under all the circumstances, to apprise interested parties of the pendency of the action and afford them an opportunity to present their objections”—as due process requires.  Thus, the bankruptcy court concluded that the Objector did not receive sufficient notice before its ROFR was purportedly extinguished.

The Purchaser argued that notwithstanding the faulty notice, the court should enforce the confirmation order to strip the ROFR because the Purchaser was a bona fide purchaser that acquired the Property in good faith under section 363(m) of the Bankruptcy Code. The court rejected this argument, explaining that a bona fide purchaser cannot have notice of a prior adverse claim.

Here, the Purchaser did have prior notice of the ROFR (even if the notice was constructive) because the ROFR was properly recorded. The Purchaser also had received an email indicating that someone had a ROFR on the Property.  The court explained that the Purchaser easily could have commissioned a title report and ensured that all parties in interest received due notice.   The court acknowledged that the debtor should have properly noticed all parties in interest, including the Objector, but also found that the Purchaser could not “cloak itself with the mantle of a bona fide purchaser when it ignored information suggesting the [Objector’s] rights were not addressed in the sale.”  Thus, the court approved the Objector’s request to enforce its ROFR in the Purchaser’s post-bankruptcy sale of the Property.

In sum, a buyer in bankruptcy should consider independently ensuring that all parties with purported liens, claims or interests in the sale assets receive proper notice of the sale; hoping that the debtor provides proper notice may not be sufficient.  A little effort up front can save time, money and aggravation in the end.

Bill Kannel was recently quoted in The Deal‘s article “Taking bankruptcies too fast around the curve” regarding the growing trend of shorter, preplanned Chapter 11 cases.  Experts debate the causes and effects including a potential link between case length and refilings as companies skim over key structural and operational issues in favor of more dynamic and immediate fixes.

 

A Delaware bankruptcy court held in In re Ferris Properties, Inc. that the debtors could not sell their property free and clear of the secured lender’s mortgages because the lender would not be paid in full from the proceeds of the sale. Specifically, the Court held that the lender could not be compelled to accept a money satisfaction of its interests under section 363(f)(5), and that the lender did not consent to the sale under section 363(f)(2).

The issue arose when the debtors sought approval of a 363 sale of eleven properties on which Wells Fargo had mortgages. Well Fargo objected to the sale because the sale proceeds would be less than the amounts owed on the properties. The debtors argued that the proposed sale was proper because (1) Wells Fargo could be compelled to accept a money satisfaction of its interests in the properties under section 363(f)(5); and (2) Wells Fargo consented to the sale under section 363(f)(2).

Section 363(f)(5) allows a debtor to sell property of the estate free and clear of liens, claims and encumbrances of an entity’s interest if that entity “could be compelled, in a legal or equitable proceeding, to accept a money satisfaction of such interest.” The debtors and a potential purchaser asserted four separate scenarios under which Wells Fargo could be compelled to accept a money satisfaction of its interest in the properties: (1) under section 1129(b)(2)(A); (2) under section 724(b); (3) through a state law monition sale; and (4) through a state law partition sale. Continue Reading 363 Sale Denied because Secured Creditor not Paid in Full from Proceeds