In distress situations, secured debt may exceed the value of the company. Investors may then look to realize value through a sale under §363 of the Bankruptcy Code. Indeed investors may buy the company through “credit bidding,” meaning using their secured debt as bid consideration. Through such a sale, investors hope to achieve a quicker realization at a substantially lesser cost, often without regard to whether a Chapter 11 plan can be effected. When the bankruptcy sale does not generate proceeds in excess of the secured claims, such sales may be followed by a dismissal of the Chapter 11 case with the dismissal order approving using a portion of the proceeds to pay for the costs of winding down the enterprise. This dismissal is often described as a “structured” dismissal, wherein the parties rely upon the terms of the dismissal order or settlements reached during the bankruptcy case in connection with the §363 sale to determine how proceeds are distributed. In essence, the sale, subsequent distributions to creditors and the funding of the wind down occur through a sale order and a dismissal order as opposed to a plan of reorganization.
Recently, courts have been asked to decide whether creditors may achieve a result under a §363 sale that would not be possible or permissible under a Chapter 11 plan given the requirements that apply to Chapter 11 plans. The requirement that is most frequently an issue is the absolute priority rule, which confirms that secured creditors are entitled to the value of their collateral and otherwise sets forth the priorities in payment as among unsecured creditors, including administrative expenses, priority taxes and wages, among others. In order to confirm a plan, the plan must conform to those requirements. In addition, §1129(d) provides that a plan may not be used as a “tax avoidance” device.
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