Appeal and cross-appeal from orders entered on November 16, 2005, and October 9, 2007, in the United States District Court for the Southern District of New York (Swain, J.), (1) reversing orders of the Bankruptcy Court (Drain, J.) (a) approving the distribution of unregistered securities and subscription rights in satisfaction of liens held by senior secured creditors; and (b) permitting the distribution of the remaining subscription rights to junior secured creditors; and (2) affirming the order of the Bankruptcy Court releasing certain escrowed adequate protection payments to the junior secured creditors.
Reversed in part and affirmed in part.
The opinion of the court was delivered by: Miner, Circuit Judge
Argued: November 14, 2008
Before: MINER, HALL, and LIVINGSTON, Circuit Judges.*fn1
In this bankruptcy proceeding, secured creditor, Aretex LLC ("Aretex"), and its affiliates, WestPoint International, Inc. ("WestPoint International") and WestPoint Home, Inc. ("WestPoint Home"), collectively, "Aretex Group," and Wilmington Trust Co. ("Wilmington Trust"), the administrative agent for the junior secured creditors, appellants-cross-appellees in this matter, appeal principally from orders entered on November 16, 2005, and October 9, 2007, in the United States District Court for the Southern District of New York (Swain, J.). The District Court reversed the orders of the Bankruptcy Court (Drain, J.) permitting (1) the distribution of unregistered securities and subscription rights to satisfy the liens held by senior secured creditors and (2) the distribution of the remaining subscription rights to junior secured creditors. Objecting senior secured creditors, Contrarian Funds, LLC ("Contrarian Funds"), Satellite Senior Income Fund, LLC ("Satellite Fund"), CP Capital Investments, LLC ("Capital Investments"), Wayland Distressed Opportunities Fund 1-B, LLC ("Distressed Funds I"), Wayland Distressed Opportunities Fund 1-C, LLC ("Distressed Funds II"), collectively, the "Contrarians," and Beal Bank, S.S.B. ("Beal Bank"), the administrative agent and collateral trustee for the senior secured creditors, appellees-cross-appellants in this matter, cross-appeal, inter alia, from the orders of the District Court to the extent that they affirm the Bankruptcy Court's order of adequate protection payments to the junior secured creditors.
WestPoint Stevens, Inc. (the "Debtor")*fn2 is a domestic company engaged in the manufacture and distribution of textiles. Beginning in or about 2000, due to "an overleveraged debt structure and an increase in foreign competition," the Debtor faced financial difficulties that required substantial sacrifices in regard to its operations and workforce. Over the next several years, the Debtor initiated business strategies to improve its ailing financial health - but to no avail. By 2003, the Debtor concluded that it would be in the best interests of its creditors and shareholders to effectuate a consensual reorganization under the Bankruptcy Code. Accordingly, on June 1, 2003, the Debtor commenced bankruptcy proceedings by filing a petition pursuant to Chapter 11 of the Bankruptcy Code.
Shortly after the commencement of bankruptcy proceedings, the Debtor, with the approval of the Bankruptcy Court, obtained further financing from post-petition creditors to preserve its business as a going concern. As a condition for obtaining the post-petition financing, the Bankruptcy Court ordered the Debtor to make adequate protection payments to both the senior and junior secured creditors as protection from the diminishing value of their collateral. While plans for reorganization were being discussed, however, the Bankruptcy Court's adequate protection order was challenged by a majority of the senior secured creditors who sought to end the adequate protection payments to the junior secured creditors. The matter was temporarily resolved by a stipulation, requiring the placement of further distributions of adequate protection payments to the junior secured creditors into an escrow account until the occurrence of certain events relating to the reorganization or sale of the Debtor's business.
Eventually, it became apparent to the Debtor that reorganization was not a realistic solution to its financial woes.According to the Debtor, the proposed plans for reorganization were rejected because the Contrarians and Aretex - creditors of the Debtor and holders of the majority of the secured liens - each "insist[ed] on controlling the restructured Debtor and [were] unable to reach a compromise on such issue."The principal investor in the Contrarians was Wilbur L. Ross Jr., and the principal investor in Aretex was Carl C. Icahn. See In re WestPoint Stevens, Inc., 333 B.R. 30, 34 (S.D.N.Y. 2005). After almost two years of failed attempts at reaching a consensus on a plan for reorganization, the Debtor and its advisors concluded that a sale of its assets pursuant to 11 U.S.C. § 363(b) "[was] the only viable option available to preserve [its] business operations and provide a meaningful recovery to [its] secured creditor constituencies." Accordingly, an auction was held on June 23, 2005, for substantially all of the Debtor's assets, and Aretex emerged as the winning bidder following a heated competition with the Contrarians. Despite their initial objections, the Contrarians stipulated to allow the sale to close. Thereafter, pursuant to the terms of the sale and the Bankruptcy Court's accompanying sale order, the Debtor's assets were transferred, free and clear of liens, to WestPoint Home and in effect to WestPoint International - Aretex's vehicle corporations for the acquisition of the Debtor's business - and WestPoint International's securities were distributed to the Debtor's secured creditors for the purpose of satisfying their liens. The terms of the sale also required other distributions and the purchase of additional stocks, permitting Aretex to become the majority shareholder of WestPoint International. Aretex used its majority ownership to elect WestPoint International's board of directors, and WestPoint International has since been operating the Debtor's business for several years.Subsequent to the closing, the Bankruptcy Court also ordered the adequate protection payments held in escrow to be released to the junior secured creditors.
Acting in its capacity as an appellate court in this bankruptcy proceeding, the District Court affirmed the Bankruptcy Court's release of adequate protection payments to the junior secured creditors; however, notwithstanding the closing of the sale, the District Court reversed the Bankruptcy Court's orders in certain respects affecting Aretex's control of the Debtor's business. This appeal presents two principal issues: (1) whether the District Court had authority to modify portions of the terms of the sale affecting Aretex's control of the Debtor's business where (a) acquisition of control was the primary purpose of the sale, (b) the sale between Aretex and the Debtor had already closed, (c) there is no order in place staying the closing of the sale, and (d) the parties do not contest that the sale was completed in good faith; and (2) whether the adequate protection payments held in escrow were properly released to the junior secured creditors. For the reasons that follow, we reverse the orders of the District Court as it relates to the first issue and affirm as it relates to the second. The following subsections, Part I(A)--(G), present in further detail the essential facts of this case.
A. The Debtor's Secured Creditors
The Debtor's creditors consist of, among others, the First Lien Lenders and the Second Lien Lenders.The First Lien Lenders are senior secured creditors who have liens on the Debtor's assets having a value of approximately $488 million.The Second Lien Lenders are junior secured creditors who have liens on the same assets having a value of approximately $165 million. The Contrarians hold a majority share of the liens held by the First Lien Lenders, approximately 54%, but hold none of the liens held by the Second Lien Lenders. Aretex holds a minority share of the liens held by the First Lien Lenders, approximately 40%, and also holds a majority of the liens held by the Second Lien Lenders, approximately 51%. Beal Bank is the administrative agent and collateral trustee of the First Lien Lenders, and Wilmington Trust is the administrative agent for the Second Lien Lenders.
Before the commencement of bankruptcy proceedings, on June 29, 2001, the First and Second Lien Lenders entered into an Intercreditor and Lien Subordination Agreement (the "Intercreditor Agreement"), which provided, inter alia, that "[u]ntil all First Lien Indebtedness has been paid in full in cash . . . the Second Lien Lenders shall not be entitled to . . . exercise any rights or remedies with respect to the Second Priority Liens or the Collateral . . . ."The Intercreditor Agreement provided for several exceptions, two of which were that the Second Lien Lenders might receive (1) adequate protection payments and (2) permitted mandatory prepayments. In particular, the Intercreditor Agreement defined "permitted mandatory prepayments" as including payments to the Second Lien Lenders "occurring as a result of [the Debtor's] sale . . . of the Collateral . . . to the extent that . . . any net proceeds of such sale . . . remain after application to the First Lien Indebtedness to the extent required by the Senior Credit Agreement."
Shortly after the commencement of bankruptcy proceedings, on June 18, 2003, the Bankruptcy Court entered an order granting adequate protection payments to both the First and Second Lien Lenders (the "Adequate Protection Order"). This order was entered contemporaneously with the Bankruptcy Court's authorization to permit post-petition lenders, who are unrelated to either the First or Second Lien Lenders or any other pre-petition creditors, to obtain priming liens on the Debtor's assets.*fn3 In return for the priming liens, the Debtor received financing from the post-petition lenders, thus allowing the Debtor to maintain its business as a going concern and avoid an imminent dissolution before a plan of reorganization could be confirmed. The Adequate Protection Order sought to provide protection to the pre-petition secured creditors by ordering the Debtor to pay them amounts relating to the diminution in value of the collateral being used by the Debtor to maintain its business as a going concern.Neither the First nor the Second Lien Lenders initially objected to the Adequate Protection Order, which provided protection for both classes of pre-petition secured creditors.
In a motion dated July 22, 2004, however, a member of the First Lien Lenders group, supported by the Contrarians and therefore representing a substantial majority of the First Lien Lenders (the "Objecting First Lien Lenders"), moved for a grant of additional adequate protection to the First Lien Lenders through the termination of the adequate protection payments to the Second Lien Lenders.The Objecting First Lien Lenders claimed that they had been misinformed about the Debtor's value at the time the Adequate Protection Order was entered and argued that, having been properly informed of the status of the Debtor's business, there was insufficient value in the Debtor to justify adequate protection payments to the Second Lien Lenders.
On August 18, 2004, the Objecting First Lien Lenders and the Second Lien Lenders entered into a stipulation providing for the deposit of the Second Lien Lenders' adequate protection payments into an escrow account until the occurrence of certain events relating to the reorganization or sale of the Debtor's business (the "Escrow Stipulation"). In return, the Objecting First Lien Lenders agreed to withdraw their motion to terminate adequate protection payments to the Second Lien Lenders.The Escrow Stipulation expressly provided, "[f]or avoidance of doubt," that the adequate protection payments held in escrow "shall not constitute . . . payments made . . . as adequate protection to the Second Lien Lenders . . . unless and until [the court] authorizes the release of funds . . . to the Second Lien Agent for application to claims held by the Second Lien Lenders." (quotation marks omitted).
B. Initial Skirmishes Relating to the Sale
On March 9, 2005, the Debtor filed a motion with the Bankruptcy Court requesting authorization to sell substantially all of its assets free and clear of liens, claims, encumbrances, and other interests through an auction. The Debtor explained that it had attempted to reach a consensus among its creditors on the terms of a Chapter 11 plan of reorganization but that such efforts were "blocked" by either the Contrarians or Aretex. According to the Debtor, "both [the Contrarians] and [Aretex] demand control of the restructured Company and they have been unable to reach a compromise, even with the assistance of the Debtor."The Debtor also stated that, in light of the impasse, both the Contrarians and Aretex had informed the Debtor that it "should consider pursuing a sale pursuant to section 363(b) of the Bankruptcy Code."The Debtor asserted in its motion that, "[a]fter an extensive review of the available options," a sale of its assets was "the only viable option available to preserve [its] business operations and provide a meaningful recovery to [its] secured creditor constituencies."
The Debtor informed the Bankruptcy Court that it had solicited bids to enter into a "stalking horse" contract in preparation for the auction.*fn4 Both Aretex and the Contrarians had competed to become the stalking horse, and the Debtor eventually selected the Contrarians as the winning bidder.Under the terms of the stalking horse contract, the Contrarians, as majority members of the First Lien Lenders group, would direct Beal Bank to make a "credit bid" to purchase the Debtor's assets free and clear of encumbrances.That is, the entire value of the First Liens, approximately $488 million, would be used as credit to purchase the Debtor's assets. Thereafter, the Contrarians would exchange securities in New Textile Co., a corporation the Contrarians created for purposes of acquiring the Debtor's business, for the assets purchased through Beal Bank. The securities of New Textile Co. would then be distributed to the First Lien Lenders as consideration.
Of course, the stalking horse contract was not a binding contract of sale and only served to fix the minimum bid at the auction.The Debtor explained in its motion to proceed with the auction sale that the Contrarians' bid represented "the most attractive alternative available . . . at this time." The Contrarians filed a separate response, asserting that (1) its credit bid was equivalent to a cash bid, and (2) any competing bids therefore were required to offer a sufficient amount of cash to pay the First Lien Lenders in full.
On April 7, 2005, following a hearing on the Debtor's motion, the Bankruptcy Court denied the Debtor's motion on several grounds, including the unreasonableness of the breakup fees. The Debtor filed a subsequent motion on April 15, 2005, purporting to address the Bankruptcy Court's concerns by removing references to the stalking horse contract and breakup fees.The Contrarians opposed the Debtor's modified motion to proceed with the sale because, among other reasons, the proposed timetable for the auction was insufficient for any potential third parties to obtain financing. The Contrarians asserted that, pursuant to 11 U.S.C. § 363(k) and the Intercreditor Agreement, only they - and not any other party, including, specifically, Aretex - could purchase the Debtor's assets "with stock rather than cash" without first satisfying the First Lien Lenders in cash.Notwithstanding the Contrarians' objections, the Bankruptcy Court, on April 22, 2005, granted the Debtor's motion and authorized the auction of the Debtor's assets to proceed. The Bankruptcy Court did not rule prior to the auction on the superiority of the Contrarians' credit bid or on the issue of whether any other bid must first satisfy the First Lien Lenders in cash.
In response to the Bankruptcy Court's order approving the auction of the Debtor's assets to proceed, Wilmington Trust, as agent of the Second Lien Lenders, on May 10, 2005, filed a motion to release the adequate protection payments held in escrow pursuant to the Escrow Stipulation so that it could distribute the escrowed funds to the Second Lien Lenders. Aretex joined Wilmington Trust's motion to release the escrowed adequate protection payments to the Second Lien Lenders.Beal Bank, as collateral trustee of the First Lien Lenders, objected to Wilmington Trust's motion on the grounds that the motion was premature because the auction of the Debtor's assets had not yet even occurred.The Contrarians also objected to Wilmington Trust's motion, arguing that the Second Lien Lenders were not entitled to the escrowed funds because the funds were not adequate protection payments at all and therefore were subject to the subordination clauses of the Intercreditor Agreement.The ensuing reply and subsequent hearing in regard to that dispute occurred after the auction and the entry of the Bankruptcy Court's sale order.
C. The Bid for Control of the Debtor's Business
The auction was held on June 23, 2005.To solicit bids, the Debtor contacted 111 potential bidders and published a notice of sale in the Wall Street Journal and The New York Times. At the auction, however, the Contrarians and Aretex were the only two parties present.
The auction commenced with Aretex's bid being the baseline bid, which, applying a control premium of 25.8%, was valued at approximately $617.1 million.*fn5 Aretex's bid structure essentially was composed of securities of WestPoint International for consideration, with an additional payment of $165 million cash for a 17.5% interest in WestPoint International. In response to Aretex's bid, the Contrarians submitted a provisional bid valued at approximately $621.6 million.*fn6 The Contrarians' provisional bid structure differed from Aretex's, in that it was composed of a credit bid by Beal Bank and a subsequent exchange of securities in New Textile Co. - the vehicle corporation created by the Contrarians to acquire the Debtor's business - for the assets purchased by the credit bid.This bid structure was generally identical to the Contrarians' stalking horse proposal. The Contrarians indicated that, upon their taking control of New Textile Co., they were "prepared to provide minority [shareholder] protections."
After some disagreement about whether a provisional bid should be permitted to compete with Aretex's unconditional bid, Aretex submitted a new bid raising its purchase price for a 17.5% interest in WestPoint International to $170 million - an increase of $5 million. This new bid was valued, applying the control premium of 25.8%, at approximately $639.8 million.Unlike the Contrarians, Aretex indicated that its bid would not provide "minority [shareholder] protections other than what is required by law."Thereafter, the Contrarians asserted that they would continue to bid; however, in the event they did not emerge the winning bidder, they reserved the right to argue that their initial provisional bid "was higher and better."The Contrarians accordingly set aside their credit bid and bid in a structure identical to that proposed by Aretex, except that the Contrarians would purchase 7.75% of the stock of New Textile Co., the Contrarians' vehicle company (as opposed to Aretex's purchase of 17.5% of WestPoint International, Aretex's vehicle company), to secure control of the Debtor's business; the Contrarians new bid was valued at approximately $650.1 million.Aretex then submitted a bid that increased its purchase price for 17.5% interest in WestPoint International to $180 million, raising the value of its entire bid to approximately $677.3 million.
The Contrarians responded by raising their bid but emphasizing that "when [the] dust all settles, we must end up with 50.1 [percent;] that is obviously incorporated into our proposal."The Debtor rejected the bid because it was not able to confirm that it could "meet the condition that the [Contrarians] would retain 50.1 percent of the ownership of [New Textile Co.]."The Contrarians protested that obtaining a controlling interest in the vehicle company acquiring the Debtor's business was "one of [Aretex's] conditions for their bid." The Debtor explained that Aretex "can meet the condition based on their [bid] structure. . . . [However,] based on how we evaluated your [(the Contrarians')] bid, we cannot meet the 50.1 [percent] minimum condition."The Contrarians then ceased to bid.
Aretex responded by increasing its bid once more, raising its purchase price for 17.5% interest in WestPoint International to $187 million and thus raising the value of its entire bid to approximately $703.5 million.Apparently dissatisfied with lawyers placing unnecessary provisions in the bids, Carl Icahn, on behalf of Aretex, indicated that the provision protecting "any right [of Aretex] to buy additional shares [to guarantee control over WestPoint International]" would be stricken.As explained in a subsequent hearing, Aretex stated that it was "comfortable with the math [that it would own more than 50% of WestPoint International]."The auction accordingly concluded with Aretex emerging as the winning bidder. The Debtor and Aretex thereafter prepared an Asset Purchase Agreement incorporating the terms of the sale in accordance with the bid.
In the subsequent hearings held on June 24, 2005, and June 29, 2005, the Debtor sought to have the Asset Purchase Agreement approved by the Bankruptcy Court.After hearing testimony from witnesses and observing that the auction was well-publicized, open, fair, and between sophisticated parties, each with their own professional advisors, the Bankruptcy Court approved Aretex's purchase of "substantially all the [Debtor's] assets, in effect of the [Debtor's] business."
D. The Bankruptcy Court's Sale Order and the Contrarians' Appeal to the District Court
On July 8, 2005, the Bankruptcy Court entered its Order Authorizing Sale of Substantially All of the Sellers' Assets Free and Clear of Liens, Claims, Encumbrances and Interests, the Assumption of Certain Liabilities, Approval of Successful Bidder and Certain Related Matters (the "Sale Order").The Sale Order confirmed that the winning bid presented "the highest and best bid at the Auction" and that the auction was conducted lawfully and in a "noncollusive, fair, and good faith manner."
The Sale Order approved the Asset Purchase Agreement, which provided a two-step process in the sale of the Debtor's assets. First, the Debtor's assets would be acquired by WestPoint Home, a wholly owned subsidiary of WestPoint International, "free and clear" of liens and encumbrances; however, replacement liens would be placed on WestPoint International's securities to account for the secured creditors' interests. Second, at closing, WestPoint International's securities would be directly distributed to the secured creditors, thereby extinguishing the replacement liens. This second step, in conjunction with Aretex's purchase of a 17.5% interest, worked to guarantee Aretex control of WestPoint International and, by extension, the Debtor's business.Because these steps would occur simultaneously at closing, however, "although it might be a two step process, it can only be metaphysically a two step process." In re WestPoint Stevens, Inc., 333 B.R. at 51 (quoting the Bankruptcy Court). The securities to be distributed to the First Lien Lenders were parent shares and subscription rights to WestPoint International (the "First Securities"). The remaining subscription rights, the value of which were calculated at the time of closing and found to be worth approximately $95 million (the "Second Securities"), were to be distributed to the Second Lien Lenders. The Contrarians appealed the Sale Order to the District Court.*fn7 After filing the notice of appeal, the Contrarians moved to stay the Sale Order in the Bankruptcy Court.The Bankruptcy Court denied the stay motion, and the Contrarians, joined by Beal Bank, thereafter filed a stay motion with the District Court.The Contrarians submitted their brief arguing the merits of the appeal to the District Court, but the parties then agreed to a stipulation (the "Stay Stipulation"), which narrowed the issues on appeal. Specifically, the Stay Stipulation provided for the withdrawal of the Contrarians' stay motion, with prejudice, as to "that portion of the [stay motion] seeking a stay of the closing of the sale by [the Debtor] to Purchasers approved by the [Sale Order]."The Contrarians also agreed that it would "seek no other stay of the closing of the sale under the Sale Order or otherwise."
The Stay Stipulation expressly provided, however, for a stay of "the distribution of the [Second Securities] allocable to the Second Lien Lenders."In particular, the Stay Stipulation required that the Second Securities be distributed to the Second Lien Lenders but that such distribution be held in escrow until a subsequent court order resolved the proper allocation, if any, of the Second Securities to the First Lien Lenders.The Stay Stipulation provided that "[i]n all other respects," the distribution of the Second Securities "shall be in accordance with the Sale Order and terms of the Asset Purchase Agreement."The Stay Stipulation also provided that, except as set forth in the Stay Stipulation, "the rights of all parties . . . as to the appeal and all other disputes and matters . . . including without limitation rights under Paragraph R of the Sale Order, are expressly preserved and are not affected by this stipulation." Paragraph R of the Sale Order included the Bankruptcy Court's conclusion that the exceptions to the subordination clauses of the Intercreditor Agreement, i.e., the permitted ...