Unbridled Credit-Bidding vs. Maximizing Value: U.S. Supreme Court and First Circuit Cases

Maximizing value

By: Donald L. Swanson

Imagine you’re at an auction and multiple parties are bidding on an item.  At a certain price, all bidders drop out except two.  These two keep bidding, and the price goes up. One bidder finally prevails—at a very high price.

This happens.  It’s called competitive bidding at a fair auction.  This is what makes auctions interesting and effective.


But let’s change the facts slightly.

There are two bidders, and one is bidding nearly-worthless funny-money (i.e., dollars worth only five cents each), while the other is still bidding real-dollars worth 100 cents each.

This auction is not fair.  One party bids the price up at little cost, while the other must pay dearly to keep pace.

Such a hypothetical is precisely what happens, at a bankruptcy auction, when an under-secured creditor starts credit-bidding the under-secured portion of its claim.

[Note: a creditor with a $100,000 lien against property worth only $60,000 is “under-secured” by $40,000.]

It costs such creditor nearly-nothing to credit-bid the price up, using the under-secured portion of its claim (i.e., with “funny money”), while the competing bidder must pay dearly (with 100 cents dollars) for each increased bid it makes.

And so, the under-secured creditor can indulge any and every non-market motivation it might have, when bidding its funny-money.  Such motivations can, and often do, include such things as anger, revenge, obstinacy, jealousy, a need to control, embarrassment for foolish decisions, etc.  Such motivations reflect the cussedness of human nature and range far beyond the mere goal of assuring a fair market sale.

Supreme Court Ruling

Several years ago, the U.S. Supreme Court (in In re RadLAX Gateway Hotel, LLC , 132 S.Ct. 2065 (2012)) affirms unbridled credit bidding rights for under-secured creditors.  However, the Supreme Court provides no analysis of how credit bidding actually works or of what the merits of credit bidding might be.  The only hint of such an analysis is on the last page of the Court’s RadLAX opinion, which provides this information:

“The parties debate at some length the purposes of the Bankruptcy Code, pre-Code practices, and the merits of credit-bidding. To varying extents, some of those debates also occupied the attention of the Courts of Appeals that considered the question presented here. See, e.g., In re Philadelphia Newspapers, LLC, 599 F. 3d 298, 314–317 (CA3 2010); id., at 331–337 . . . ).” [Note on citation:  pages 314-337 are from the majority opinion, and 331-337 are from the dissent.]

That’s it.  Unfortunately, that’s the full extent of the Supreme Court’s discussion of “the merits of credit-bidding” in a credit-bidding case.

The In re Philadelphia Newspaper opinion cited by the Supreme Court does discuss the merits of credit bidding.  This opinion is striking in two respects: (i) it is long—23,000 words for both a majority opinion and a dissenting opinion, and (ii) the bulk of those 23,000 words are devoted to parsing statutory language.  This combination of length and parsing is deadly for a casual read—unless you’re a stickler for such technicalities.  Here’s an illustrative sentence from footnote 7:

“We do note, with some confusion, our dissenting colleague’s discussion of the ‘exclusive’ nature of ‘or’ under certain circumstances.”

Imagine multiple thousands of words of similar parsing statements in a single tome.

–Two Assumptions and a Fiction are Way Off Base

The majority opinion in the In re Philadelphia Newspaper case holds that a lender does not have “an absolute right to credit bid when its collateral is being sold” under a confirmed Chapter 11 plan.

The dissenting opinion in In re Philadelphia Newspapers, however, is more in line with the Supreme Court’s holding.  It asserts two assumptions and declares a fiction about the nature of credit bidding — all of which, I suggest, are way off base!

I’ll try to explain.

First Assumption

The first assumption is that credit bidding ensures the “proper valuation” of collateral via this two-part combination: (i) an under-secured creditor would not outbid others unless it believes “it could generate a greater return on the collateral,” and (ii) competing bidders would prevent a secured creditor from “attempting to swoop in and take the collateral below market value.”

–This explanation assumes that all bids (including all bids by under-secured credit bidders) are driven, exclusively, by market considerations.  Such assumption seems incredibly naïve.

Second Assumption

The second assumption is that credit bidding will chill cash bidding “no more than a deep-pocketed cash bidder” chills a “less-well-capitalized” cash bidder.  This metaphor is simply wrong.  A better metaphor is this:

–An under-secured creditor has two piles of money to use in its credit bid.  The first pile contains U.S. legal tender (i.e., U.S. dollars worth 100 cents each), representing the fair market value of the collateral.  The second pile contains nearly-worthless Monopoly money (aka funny-money), representing the creditor’s deficiency claim that it will never recover.

–It is a rare circumstance, indeed, when a deep-pocket and rational bidder would knowingly bid 100 cents U.S. dollars against a credit-bidder’s nearly-worthless Monopoly money.


The fiction declared-to-be-true by the In re Philadelphia Newspapers dissent (and cited by the U.S. Supreme Court) is this: when a secured creditor makes a credit bid, including the under-secured deficiency portion of its claim, such bid “becomes the value of the lender’s security interest in the collateral” (emphasis in original).  Such a declaration of fiction is important because the fiction is now legally enforceable.

–This declaration of a fiction is like the legal authority, during Galileo’s trial in 1633, declaring and enforcing a fiction that the earth is the center of the universe, around which the sun revolves.  Neither the ancient fiction nor the new fiction is true, but both are enforced by the legal authority of the day.


Every business bankruptcy struggles with two fundamental things: (i) maximizing value, and (ii) fighting over who gets the money.  Of these two things, maximizing value is most important, because you can’t fight over money that doesn’t exist.

You’d think and hope that the highest courts in the land would understand the preeminent need in business bankruptcy cases to maximize value.  This is not a hard concept.

So, to see a court of appeals and the Supreme Court veering off into a grammatical parsing that rejects—or at least hampers—the most-basic of all purposes in business bankruptcy (i.e., maximizing value) is disheartening.

If a court isn’t going to support efforts to maximize value in business bankruptcy cases, what does the court think it’s doing?  Parsing statutory language is, I guess, the answer.

First Circuit Case

By contrast, the U.S. First Circuit Court of Appeals approved an auction sale with limited credit-bidding rights.  The Court’s opinion demonstrates a careful evaluation of all circumstances and a tailoring of credit bidding rights to the needs and exigencies of the situation.

The opinion is Mission Product Holdings, Inc. v. Old Cold LLC (In re Old Cold LLC), Case Nos. 16-9012 & 16-9015 (1st Cir. 1, January 12, 2018). [Fn. 1]

The case began with a Chapter 11 bankruptcy filing and a second-day motion to approve procedures for sale of substantially all Debtor’s assets. The proposed sale appears, at first blush, to be a prime candidate for disapproval by the Bankruptcy Court. For example:

–The stalking horse bid is from Debtor’s insiders as a credit bid, using the insiders’ multi-million dollar pre- and post-petition lien claims;

–The insiders’ liens are subject to various disputes, including claims for recharacterization-as-equity and equitable subordination;

–Debtor has one disputing creditor (“Mission”) who opposes the proposed sale, saying: “a quick sale” to Debtor’s insiders on “notional consideration” is for an “impermissible purpose” and leaves Debtor with the “same management, same majority ownership, same contracts.”

–Examiner Appointment and Initial Report

Instead of ruling immediately on the proposed sale, the Bankruptcy Court appoints an Examiner to evaluate the proposal. Thirty days later, the Examiner files his “First Interim Report” containing the following information.

Fact Background

Debtor’s business is “the development and exploitation of various cooling fabrics and consumer products throughout the world.”

Debtor and Mission entered into a pre-bankruptcy “Co-Marketing and Distribution Agreement” that gave Mission “the exclusive right to sell” Debtor’s products and a “non-exclusive perpetual license” to use “derivative work” based on “Debtor’s intellectual property.”

Mission terminated the agreement “without cause,” which “set in motion” a “two year wind down period.” In response, Debtor attempted to terminate the agreement “for cause,” effective immediately. An arbitration ruling adopted Mission’s two-year approach but did not determine damages.

Debtor then filed Chapter 11 and the proposed sale motion. Mission objected to the proposed sale.

Examiner’s Findings

On value:

–Debtor’s value comes, primarily, from its intellectual property, “as encumbered by the Distribution Agreement”;

–Before filing bankruptcy, Debtor engaged a broker, who conducted extensive marketing efforts and found two marketing impediments: (i) Debtor’s short history / lack of profits, and (ii) uncertainties surrounding the dispute with Mission; and

— Debtor must be able to “free itself” from its contract with Mission or “the value” of Debtor’s assets “will be severely impaired.”

On creditors:

–Post-petition financing terms provided by Debtor’s insiders are “extremely favorable” to Debtor, and Mission should have opportunity to provide financing on the same or better terms;

–If Mission wants to acquire Debtor’s assets, it can submit competing bids in the auction; and

–Under the proposed sale, any money for general unsecured creditors “will likely come from Chapter 5 recoveries.”

Examiner’s Recommendations

1. The stalking horse bidder should be allowed to credit bid the unassailable amount of its liens; and

2. If the proposed sale does not move forward, Debtor “will quickly fail, resulting in conversion to Chapter 7, so “the Court should not delay the sale process.”

–Process Approval and Second Examiner’s Report

Then, the Bankruptcy Court held an evidentiary hearing and approved the stalking horse bid and an auction process. The auction occurred with competitive bidding between the stalking horse bidder and Mission, with the stalking horse bidder declared the winner.

Mission, of course, objected to the “conduct” of the auction. And the Examiner weighed in on the objection, with an “Amended” report as follows:

–The auction, “if approved and closed promptly, achieves the fundamental goals of the bankruptcy process”;

–Mission’s recharacterization claims may have merit as to some of the lien claims, though it’s equitable subordination claims are not meritorious; so, the credit bid should be limited to lien amounts that are likely unassailable;

–Under any possible scenario on how recharacterization claims might play out, all creditors, including Mission, will receive better treatment through the proposed sale than in liquidation, which is “the only realistic alternative”; and

–As for a “chilling effect” from credit bidding, such concerns are commonly expressed by potential bidders, but no such concerns were expressed in this case.

–Sale approval and Appeal

The Bankruptcy Court then received evidence and approved the credit bid sale to Debtor’s insider. And the sale closed promptly thereafter.

Mission appealed, and the Bankruptcy Appellate Panel Affirmed. Mission appealed again.

The First Circuit Court of Appeals affirmed as well in the January 12, 2018, opinion linked above. Such ruling is based on, (i) a finding that the sale was in “good faith” under § 363(m), and (ii) the absence of a stay pending appeal.


Credit bidding is an important and valuable right for secured creditors that requires protection. When used properly, credit bidding assures that asset values are maximized.

However, when a creditor is allowed to bid the undersecured portion of its lien (i.e., funny money) against real dollars, the auction process is compromised and the bankruptcy estate is damaged.

The Bankruptcy Court and First Circuit Court of Appeals in the Old Cold LLC case reveal the care and effort required to get credit bidding right in difficult circumstances.

Footnote 1: The Debtor filed Chapter 11 bankruptcy under its pre-bankruptcy name, “Tempnology, LLC” (the bankruptcy is Case No. 15-1140 in the District of New Hampshire). The agreement for sale of assets required Debtor to change its name, which it promptly did: to “Old Cold LLC.” The caption of the Chapter 11 case was amended accordingly.

NOTE:  A separate and different issue issue is on appeal to the U.S. Supreme Court under the name Mission v. Tempnology.  See this webpage.

**  If you find this article of value, please feel free to share.  If you’d like to discuss, let me know.


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