In Re: 85 Flatbush RHO Mezz LLC

Background

Hotel and Residential, which were owned by 85 Flatbush RHO Mezz LLC, acquired a hotel and residential property. They borrowed $70 million from the Original Lender and granted it a mortgage and security interest in the property. 85 Flatbush RHO Mezz LLC separately borrowed $6 million from 85 Flatbush Mezz LLC, secured by a pledge of its ownership interests in Hotel and Residential.

The lenders’ Intercreditor Agreement limited the mezzanine lender’s ability to act in a bankruptcy proceeding without the senior lender’s consent. It also gave the mezzanine lender a possible right to purchase the senior loan after certain events, including a bankruptcy filing or acceleration of the senior loan. The agreement stated that failure to provide a purchase notice would have no adverse effect on the senior lender other than extending the time for giving the notice.

The debtors filed Chapter 11 bankruptcy petitions in December 2020. TH Holdco later purchased the Original Lender’s claim and proposed a plan under which TH Holdco would acquire the property through a credit bid, unless another bidder submitted a higher bid through an approved auction. 85 Flatbush Mezz LLC filed a separate adversary proceeding seeking a declaration that the senior lender had breached the Intercreditor Agreement and seeking an order requiring TH Holdco to sell the senior loan to it. The bankruptcy court confirmed TH Holdco’s plan without first resolving that adversary proceeding and denied the debtors’ motion to disqualify TH Holdco from credit bidding.

Appeals and issues

The debtors and 85 Flatbush Mezz LLC separately appealed the Confirmation Order. 85 Flatbush Mezz LLC argued that confirmation had to wait until the adversary proceeding was decided, that TH Holdco could not vote on its behalf, and that the plan was not fair and equitable. The debtors argued that TH Holdco’s credit bid was improper, that the plan was proposed in bad faith, that TH Holdco was not a good-faith purchaser, that the property required a separate valuation hearing, and that confirmation should have been delayed so the debtors could pursue their competing plan.

Court’s analysis

Judge Seibel declined to decide the merits of the adversary proceeding. She held that the bankruptcy court did not abuse its discretion by confirming the plan while that dispute remained pending. The record did not yet establish that the alleged failure to provide a purchase notice occurred, what remedy would be available, or that 85 Flatbush Mezz LLC would suffer irreparable harm from confirmation. The court also noted that the Intercreditor Agreement appeared to restrict the mezzanine lender from pursuing its contractual rights through the bankruptcy proceeding, while leaving it free to seek relief in the adversary proceeding or another court.

The court upheld the bankruptcy court’s treatment of the mezzanine lender’s vote. Under the Intercreditor Agreement, 85 Flatbush Mezz LLC had waived its right to vote in the bankruptcy proceeding and had given the senior lender authority to vote on its behalf. The court also held that the plan had an independent basis for confirmation because at least one impaired class had accepted it under 11 U.S.C. § 1129(a)(10). The court rejected the related argument that the plan violated the requirement that the plan be fair and equitable, because the mezzanine lender had not shown that TH Holdco could not enforce the agreement’s subordination provisions.

The court also upheld the finding that TH Holdco’s plan was proposed in good faith. The bankruptcy court credited Franco Famularo’s account over Isaac Hager’s account and found that the evidence showed a permissible strategy of buying the senior debt with the possibility of eventually acquiring the property, not bad faith. Judge Seibel deferred to those credibility findings and concluded that the debtors had not shown clear error.

Regarding good-faith-purchaser protection under 11 U.S.C. § 363(m), Judge Seibel stated that the plan itself was not proposed under Section 363. But she held that the debtors had placed Section 363’s credit-bidding rules before the bankruptcy court by seeking to disqualify TH Holdco under Section 363(k), and therefore could not fairly argue on appeal that the bankruptcy court should not have considered those rules. The bankruptcy court had sufficient information, including a signed purchase agreement and TH Holdco’s credit bid, to make its finding at that stage. The court also noted that future misconduct during the auction could still be challenged.

Judge Seibel rejected the challenge to the lack of a separate valuation hearing. The bankruptcy court reasonably determined that the auction would establish the property’s value and that the debtors’ $72 million appraisal did not prevent confirmation. A secured creditor could credit bid the full amount of its claim, including post-petition interest, and a higher auction bid could still replace TH Holdco’s bid.

Finally, the court upheld the decision not to delay confirmation for the debtors’ competing plan. The debtors’ plan had not completed the required disclosure-statement and voting steps, and the bankruptcy court reasonably found that it was not confirmable because it undervalued the property and subordinated TH Holdco’s claim improperly. Because the statutory rule requiring comparison of multiple plans applies when more than one plan satisfies the relevant confirmation requirements, the bankruptcy court was not required to place the debtors’ plan on a parallel track.

Disposition

Judge Seibel denied the debtors’ appeal and 85 Flatbush Mezz LLC’s appeal and affirmed the Confirmation Order. The Clerk of Court was directed to close the cases. The opinion did not resolve the merits of the separate adversary proceeding concerning the alleged purchase-notice breach and requested relief.