relief from stay

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Business Bankruptcy Issues Recent Developments The Financially Troubled Company

Real Estate Workouts: Are Pre-Bankruptcy Waivers Of The Automatic Stay Enforceable?

This post examines a new decision from the Bankruptcy Court for the Southern District of Florida involving the enforceability of a pre-bankruptcy waiver of the automatic stay. Let’s first set the stage by taking a look at a not so uncommon fact pattern involving a real estate project in financial trouble.

The Real Estate Workout: Forbearance With A Price. The owner of a troubled real estate development is about to default on a loan secured by the real property. On the eve of foreclosure, the lender agrees to forbear from foreclosing for two months to give the developer time to refinance and save the project.  However, in exchange the lender insists that the developer agree that, in the event of bankruptcy, the lender would have relief from the automatic stay to foreclose. The developer agrees and the forbearance agreement is executed.

The Bankruptcy Aftermath. Unfortunately, the hoped-for financing falls through and the developer files a Chapter 11 bankruptcy for the project just before the rescheduled foreclosure sale. The lender quickly files a motion for relief from stay, asking the bankruptcy court to enforce the pre-bankruptcy relief from stay waiver included in the forbearance agreement. The motion is opposed by the developer, now a Chapter 11 debtor in possession, as well as the official committee of unsecured creditors and junior lienholders.

Is The Waiver Of The Automatic Stay Enforceable? This was the question answered by Bankruptcy Judge John K. Olson in an 18-page decision, issued on February 12, 2008, in the In re Bryan Road, LLC Chapter 11 bankruptcy case. The facts were essentially as described above, but a few additional details help put the issue in context.

  • The real estate project involved a 210 unit "dry stack" boat storage facility in Dania Beach, Florida.
  • The lender, which commenced a judicial foreclosure proceeding against the 191 units still owned by the debtor, had been awarded final judgment setting a foreclosure sale.
  • On the morning of the foreclosure sale, the debtor and the lender entered into a forbearance agreement that was approved by the court in the foreclosure proceeding. The forbearance agreement provided for a two-month continuance of the foreclosure sale in exchange for the debtor’s agreement that the lender would have relief from the automatic stay to foreclose in the event of a bankruptcy.
  • The day before the continued foreclosure sale was to take place, the debtor filed its bankruptcy petition.

The Bankruptcy Court’s Analysis. In his decision on the lender’s stay relief motion, Judge Olson first noted that prepetition waivers of the stay will be given "no particular effect as part of initial loan documents" but the "greatest effect if entered into during the course of prior (and subsequently aborted) chapter 11 proceedings." After concluding that a confirmed chapter 11 plan was not required, the Bankruptcy Court looked to four non-exclusive factors, drawn from In re Desai, 282 B.R. 527 (Bankr. S.D. Ga. 2002), in considering whether stay relief should be granted based on the prepetition waiver:

(1) the sophistication of the party making the waiver; (2) the consideration for the waiver, including the creditor’s risk and the length of time the waiver covers; (3) whether other parties are affected including unsecured creditors and junior lienholders; and (4) the feasibility of the debtor’s plan.

As to the first two factors, the Bankruptcy Court found that the debtor’s counsel was very sophisticated and, although the forbearance period was short, it was sufficient consideration. On the third and fourth factors, the Bankruptcy Court first noted the existence of junior lienholders and approximately $1 million of disputed unsecured claims. However, the Bankruptcy Court then engaged in a detailed analysis leading to the conclusion that the debtor’s plan simply was not feasible. As such, there likely was no value for unsecured creditors in the boat storage project beyond the secured debt and the junior lienholders could protect their own interests under state law. Putting these factors together, the Bankruptcy Court concluded that the forbearance agreement — including the waiver of the automatic stay — should be enforced and the stay was lifted.

A Few Key Take-Aways. With economic conditions continuing to strain a variety of real estate developments, workouts in the shadow of foreclosure may become more common. The In re Bryan Road, LLC decision highlights that in the right case a bankruptcy court may be willing to enforce prepetition stay relief agreements if a bankruptcy is later filed.

  • This is particularly true when the debtor is a single asset real estate entity, it signs an agreement on the eve of foreclosure, and it has few unsecured creditors. In fact, the more the bankruptcy appears to be just a two-party dispute between the debtor and lender, the more likely the prepetition automatic stay waiver will be enforced.
  • On the other hand, when a troubled real estate project has a real chance of reorganizing, and substantial unsecured creditor claims are involved, these agreements more likely will be rejected in favor of traditional relief from stay analysis under Section 362 of the Bankruptcy Code.

Conclusion. Prepetition stay relief agreements involve complex issues. As with most bankruptcy questions, real estate owners and lenders should get advice from bankruptcy counsel on their specific situation when considering whether to include such a waiver of the automatic stay in any forbearance agreement.

Business Bankruptcy Issues Recent Developments

A Second District Court Decides Whether A Trademark License Can Be Assumed In Bankruptcy

Once again, a district court has faced the issue of whether a non-exclusive trademark license can be assumed by a debtor in possession. Before the November 2005 decision in In re: N.C.P. Marketing Group, Inc., 337 B.R. 230 (D.Nev. 2005), no court had directly addressed that question. The decision in the N.C.P. Marketing case, now on appeal to the Ninth Circuit, held that trademark licenses are personal and nonassignable, absent a provision in the trademark license to the contrary, and in a hypothetical test jurisdiction such as the Ninth Circuit, they cannot be assumed by the debtor in possession. For a more detailed discussion on the N.C.P. Marketing case, you may find this post of interest. For an analysis of some recent trends on the broader topic of assumption of IP licenses, try this post.

The Wellington Vision Case. Earlier this year, a second district court, this time the U.S. District Court for the Southern District of Florida, faced the same question in an appeal in the In re Wellington Vision, Inc. Chapter 11 bankruptcy case.

  • Pearle Vision sought relief from the automatic stay to terminate a franchise agreement with Wellington Vision, arguing that Wellington could not assume the agreement because it Included a non-exclusive license of Pearle Vision trademarks.
  • The U.S. Bankruptcy Court for the Southern District of Florida granted the motion for stay relief by this two-page order, holding that the inclusion in the franchise agreement of a trademark license made the agreement, under federal trademark law, non-assignable absent consent by Pearle Vision.

Appeal To The District Court. Wellington Vision filed an appeal from the Bankruptcy Court’s decision.

  • In its opening brief, Wellington argued that (1) Pearle Vision had failed to establish that the franchise agreement included a trademark license, (2) a provision in the franchise agreement allowing for assignments on consent that cannot be unreasonably withheld meant that the parties had opted out of applicable law, and (3) Section 365(c)(1) of the Bankruptcy Code only prohibits assumption or assignment by a trustee, not by a debtor in possession, citing the Footstar case.
  • Pearle Vision argued in its answer brief that "applicable law" is the federal Lanham Act, which makes trademark licenses personal and non-assignable, and that Section 365(c)(1) creates a hypothetical test and precludes assignment or assumption of the license.
  • Wellington’s reply brief asserted that the District Court should not apply Section 365(c)(1) to debtors in possession and further that it should hold that this license was assignable by its terms.

The District Court’s Decision On Appeal. On February 20, 2007, Judge Alan S. Gold of the U.S. District Court for the Southern District of Florida affirmed the Bankruptcy Court’s decision in this 14-page decision. The District Court first held that the franchise agreement expressly included a non-exclusive license to certain Pearle Vision trademarks, making the Lanham Act the "applicable law" to be considered under Section 365(c)(1). It then held that the agreement’s provisions contemplating assignment under certain conditions did not constitute consent to any specific assignment or an "opt out" of the Lanham Act’s general restrictions on assignment, distinguishing In re Quantegy, 326 B.R. 467 (Bankr. M.D. Ala. 2005), relied on by Wellington. Finally, the District Court held that Section 365(c)(1) did apply to debtors in possession and not just to trustees, citing the Eleventh Circuit’s decision in City of Jamestown v. James Cable Partners, L.P., 27 F.3d 534 (11th Cir. 1994).

No Further Appeal Has Been Filed. Unlike the N.C.P. Marketing case, the District Court’s decision in this case will not be appealed. While the appeal was pending, the Wellington case was converted to a Chapter 7 case. Also, within the past two months litigation between Pearle, Wellington, and a guarantor of certain debt owed to Pearle was settled, resolving the issues decided by the District Court.

Trademark Owners Win Another One. Although it did not cite the N.C.P. Marketing decision, the Wellington Vision court becomes only the second district court to address the assumability of trademark licenses — and the second to hold that they are not assumable when the hypothetical test applies. This is more good news for trademark owners, who typically want as much control as possible over licenses to their marks, but bad news for debtors, who face the prospect of losing valuable trademark licenses (and franchise agreements including them) if they file bankruptcy. Stay tuned for more developments on this issue, including the Ninth Circuit’s decision in N.C.P. Marketing, which is likely still months away.

Special thanks to Warren Agin of the Tech Bankruptcy blog, whose post entitled The Descent Into Darkness Continues, first discussed the Wellington Vision case. The title of that post also gives you a sense of how many bankruptcy lawyers feel about the hypothetical test, its application to IP licenses, and its impact on debtors. 

Business Bankruptcy Issues

Automatic Stay Of Bankruptcy

One of the most fundamental protections for companies or individuals filing for bankruptcy is the automatic stay.  In fact, when someone says a company has sought "bankruptcy protection" they usually are referring to the "protection" of the automatic stay.  The automatic stay arises the instant a bankruptcy petition is filed.  It doesn’t matter whether the petition is a voluntary one filed by the company itself or an involuntary one filed by creditors seeking to force the company into bankruptcy. 

The automatic stay operates as a stay — really a statutory injunction — against almost all collection actions by creditors against a debtor and its property based on debts existing before the bankruptcy petition was filed.  It is called the automatic stay because this stay arises automatically when the petition is filed without the need for any court order.  Among the actions stayed are:

  • Lawsuits 
  • Repossessions of assets
  • Foreclosure sales
  • Collection calls and notices, and
  • The making of setoffs.

Creditors should make every effort to avoid a violation of the automatic stay.  Violating the automatic stay is serious business (even when the government does it).  This is especially true if the debtor is an individual.  Not only are actions in violation of the stay generally held to be void, but in some cases creditors can expose themselves to a claim for damages or even punitive damages.  

Creditors can ask the bankruptcy court for relief from the automatic stay, for example to allow a lawsuit to continue or a foreclosure sale to take place.  While such "relief from stay" is occasionally granted, more often the request is denied to give the debtor more breathing room to reorganize its business.  In any event, seek assistance from a bankruptcy attorney if you have questions about or need relief from the automatic stay.