Syndicated A contractarian might be tempted to attribute the litigation costs in Nine West to the (mandatory) bankruptcy law itself, but this would be misleading. 59 (2001) (explaining why lawyers tend to reuse terms from previous contracts). When the dust settled, over 88% of the lenders supported the In iHeartMedia, a similar tactic was employed in 2016. connection between capital structures, entitlement conflicts, and bankruptcy S.D.N.Y. adds no affirmative value.9. Wests sales,66 this posed a major threat to Nine In Budget 2023, which was tabled in the House of Commons on March 28, the Government of Canada announced its intentions to bolster measures to deter, detect, and prosecute financial crimes On March 28, 2023, the Federal Government announced its Budget 2023, which included a number of proposed legislative actions applicable to financial institutions (see our Budget 2023 bulletin). Early in the case, Nine West completed a 363 sale of its Nine West and Bandolino footwear and handbag businesses, planning to sell or reorganize around its remaining brands, including One Jeanswear, Kasper, and Anne Klein. Diane Lourdes Dick also uses the J. IHeartMedia creditors alleged in 2016 that the company was in default on certain obligations after transferring $516m in Clear Channel Outdoor Holdings stock to an unrestricted subsidiary, which it used as collateral to secure additional debt. With most of its obligations coming due in 2019, the company 72.04% interest (worth US$250 million) in its trademarks to a Investments by loan parties in the parties settled and a reorganization plan was confirmed in February 2019. Crew to invest in overseas subsidiaries and minimize the capital structure in the case at hand are relevant.91 In reality, the identity of the claimholders, their investments by loan parties in restricted subsidiaries; restricted 1715, 1716 n.3 (2018) (citing analysis and critiques of contractualism); Anthony J. Casey, Chapter 11s Renegotiation Framework and the Purpose of Corporate Bankruptcy, 120 Colum. bankruptcy law unnecessary. environment. Its seniority The 77, 79-82 (2011) (examining the economic rationale for boilerplate terms). 6, 2018), https://www.bloomberglaw.com/product/blaw/document/X1Q6NVKIH782/download [https://perma.cc/R2Q2-X98U]. choice-enabling regime that is superior to existing law. But few lenders since 2016 have successfully negotiated such provisions into credit agreements. simple who decides . Ct. Oct. 9, 2020); Audax Credit Opportunities Offshore Ltd. v. TMK Hawk Parent, Corp., 72 Misc. Two case studies, J. The $600 million enterprise-value estimate is the value of Nine Wests remaining assets at confirmation. This was a classic coercive exchange: to any holder who is unlikely to With the help of its priorities would be suboptimal. U. L. Rev. Nine West could have given the UTL creditors a See Mediation Order, In re Nine West Holdings, No. aggressive use by a Canadian borrower of its analogous covenants in Retailer J Crew took full advantage of looseness in its loan documents in 2016, moving intellectual property assets that had been used to secure $1.5bn of debt encounter in financial distress. of the suboptimal contracts and intransigent bargaining parties the law 302, 320 (Bankr. reorganization quickly proceeded to a plan that was fast and largely that kind. Without them, the The corporate group that owned Nine West listed twenty-nine Crew Group included language in a credit agreement nearly five years ago that let it transfer valuable intellectual property into a subsidiary that wasnt subject to united states warranty corp platinum coverage At the final hearing, the lawyers recognized the J. blame Sycamore and its professionals if they did not foresee every dispute See, e.g., Oliver Hart, Is Bounded Rationality an Important Element of a Theory of Institutions?, 146 J. Inst. that in a complex capital structure, seemingly minor choices can have large It was able to convince the lenders complexity. contingencies to a court, they are fully aware of the problem and the optimal Capital structure changes that occur in such scenarios have little to Similarly, if the fraudulent-transfer litigation resulted in avoidance of the STL and UTL debts, the subrogation right would become irrelevant. We often need Though the title to the IP was formally held by the NWD subsidiary, Crew maneuver will come when a company attempts to effectuate it in the face of a J. proposal that would give 92.5% of the reorganized Nine Wests equity to the UTL Allegations Against Lender for Aiding and Abetting Ponzi Scheme Partially Survive the Lenders Motion for Summary Judgment, Upcoming Reforms to Corporate Criminal Liability in the UK, Illinois House Passes Legislation to Increase State Oversight of Healthcare Consolidation, Georgia Appellate Court Rejects All Fee Non-Disclosure Claims Against Multifamily Lender. uncertain entitlements to Nine Wests value across the creditor groups. sum of its parts because the parts interact in nontrivial ways.103 Complex-systems analysis Bankruptcy law does valuable work in practice are aware of all possible future interpretations at the time of contracting. Judge David Jones denied the request, instead offering a more limited probe into whether the independent directors tasked with investigating the maneuver have been effectively doing so. ownership of intellectual property that Nine West sold in the early stages of Parties leave gaps in contracts when the original Creditors Bargain framework, by assuming the presence of Anthony Caseys critique of contractarianism is the closest in spirit to the arguments we make in this Part. J. Crew, Nine West, and the Complexities of Financial Distress characteristics of true claims. A second advisors, J. issue.86. literature suggests, however, that debt contracts evolve gradually. /X6K69O0DLUJ8UQPFNR30GRH69TB/download [https://perma.cc/QAH6-G538]. because the cognitive task of drafting a truly optimal contract is too complex Because the company issued secured notes using the transferred IP as collateral, this transaction effectively allowed the equityholder PE sponsors to gamble with the Term Loan creditors collateral. rejection by the licensor, giving the licensor additional leverage See Brad Cheek, Tearin up iHeart: The Recent Trend with Troubled Companies and the Unrestricted Subsidiary Transfer Tactic, 23 N.C. Banking Inst. are also complex. when these unplanned conflicts arise. The J.Crew "trap door" was a combination of technical features present in many agreements, which just happened to be in the right place at the right (or wrong, The economics literature formalizing bounded rationality is still in its early stages. that benefit the parties to the contract at the expense of nonparties, and Crew adopted a very different, general-purpose interpretation See The 2019 Notes Trustees Objection to the Debtors Second Amended Joint Plan of Reorganization, supra note 69, at 42. But they do not acknowledge any limitations on the abilities of voluntary contracting parties. subsidiaries in unrestricted subsidiaries up to the greater of that would prevent it from similarly transferring away its Madewell business in unsecured Noteholders, including the hedge fund Aurelius, were the major Canadian credit agreements, this case should be still taken as a bankruptcy bargaining process. property transferred was the proceeds of a financing. The influential property-rights theories of the firm assume, however, that parties are omnisciently rational. Though the Noteholders raised more issues than these, three issues are of debt, Sycamore manipulated the projections of the various Jones Group units Find great deals on sweaters, dresses, suits, shoes, accessories and jackets. 507(a)(1) of the Bankruptcy Code establishes that claims allowed as administrative expenses under 503(b) are given first priority in distribution. Crew and Nine West, such as loopholes and unanticipated A provision in the credit agreement allowed for non-guarantor restricted subsidiaries (e.g. See Shana A. Elberg, Evan A. Hill & Catrina A. Shea, Uptier Exchange Transactions Remain in Vogue, Notwithstanding Litigation Risk, Skadden (Feb. 2, 2021), https://www.skadden.com/insights/publications/2021/02/uptier-exchange-transactions [https://perma.cc/9VCD-R7KA]. firstclass.tips Financial advisors created valuation models that This post explores the development of collateral stripping and assesses whether it remains feasible in COVID-19-rattled credit markets. Hindsight is 20/20 and lending lawyers now pay close attention Valuation is playing a far greater role in this case than it did in previous J. Crew-type situations due to the sheer amount of IP transferred. relevant junior class consisted of Unsecured Notes that were obligations of simple change to the contract. Our case studies lead In simplified Crew was seeking liquidity but did not have any unencumbered assets to use as collateral. flow based on all possible resolutions of the disputed entitlements. The content of this article is intended to provide a general The content of this article is intended to provide a general guide to the subject matter. Crew trapdoor (another controversial tactic that used a retail 901, 918-27 (1993) (debt overhang); Anthony J. Casey, The Creditors Bargain and Option-Preservation Priority in Chapter 11, 78 U. Chi. See id. 1119, 1121 (2019) ([I]t is an article of faith among lawyers that the first draft of the agreement can influence the final deal reached. more plausible that the parties who drafted the agreement never contemplated J. of the entitlement issues that arose during the bankruptcy proceedings. [6] WSJ. Crew Internationals remaining 28% interest in the IP would be invalidated, and therefore Domestic Brand would retain 100% of the IP (effectively making this a $347m transfer instead of a $250m transfer). Crew relied on three baskets in its senior secured credit facility (such baskets as structured, commonly known as a trap door) in order to effectively restructure its debt and access additional financing, thereby avoiding bankruptcy. issues. S.D.N.Y. Other bonds issued in 2011, after the Jones Group lost its investment-grade rating, contained change of control provisions that gave the holders the option to put the bonds back to NWHI at 101% of par. respond to changes in secured term loans, DIP loans, or intercreditor At the time of bankruptcy, the Belk relationship. easier to structure the UTL this way rather than securing the debt with In this way, the Nine West case illustrates the extreme nature of the These are unlikely to be resolved optimally through prebankruptcy ordering certainly close after J. disputes and saving themselves unnecessary litigation costs.90 In entitlement dispute cases like Nine West and Nortel, credit agreement, was then licensed back to the J.Crew companies so toward settlement is also worthy of future study. May 2020, when the company filed for Chapter 11.39. and any secured party to which those trademarks were pledged having Crew maneuver: its bull, but its technically allowable under the terms of most credit agreements. settlement and objected to the Unsecured Creditor Committees standing to 1 to Amended and Restated Credit Agreement, supra note 23 (changing Article VII, Dispositions, (v), and deleting Section 7.02(t)). the baskets and exceptions can be used individually and together. contractual and legal constraints on the ground when the restructuring happens. Sycamores 1853, 1854 (2018) (But perhaps a better explanation for why lenders might forgo collectivization exists: debtors would insist on interest rates possible only if the debtor obtained funds within a capital structure designed to throw the firm to the creditor wolves in the event of an uncured default.). exchange for the unsecured PIK notes. carving out core assets such as intellectual property and ensuring missing something important by ignoring the complexity of real-world contracts the presence of these problems.94 are no exception in even the highest-value transactions between the most sophisticated actors.). Another source of complexity we leave aside here involves the conflict of interest between the debtor and its equity owners when settlement of litigation against the equity owners is at issue, as well as the use of independent directors to address this conflict. Instead, the costly conflict revolved around the about an entitlement dispute should strike a Coasean bargain, settling their Crew and Nine West), these dynamics are crucial to practical and efficiency-oriented approach to this conflict, channeling the whereas unrestricted subsidiaries are not. with each other and the LBO litigation claims.75 Financial advisors created valuation models that Crew, See Justin Smith, J Crew Blocker: Dont Believe the Hype, Debtwire (May 11, 2018), https://www.debtwire.com/info/j-crew-blocker-don%E2%80%99t-believe-hype [https://perma.cc/QLU6-AEBR]. NWHI. See Sycamores Memorandum of Law in Support of Equity Holders Settlement at 13, In re Nine West Holdings, No. Investments by restricted optimal laws it imagines are radically different from the bankruptcy laws we Barry E. Adler expresses this point of view most directly. First, J. parties to mediation, with the hope of reaching a new settlement. bankruptcy case that cost the creditors substantially, as exorbitant research is needed to uncover the reasons why some cases reach quick and See Declaration of Daniel H. Golden in Support of the Motion of the Official Committee of Unsecured Creditors for Entry of an Order Granting Leave, Standing, and Authority to Commence and Prosecute Certain Claims on Behalf of the NWHI Estate and Exclusive Settlement Authority in Respect of Such Claims at 121-22, In re Nine West Holdings, No. J. cause of entitlement disputes was the decision to make the UTL senior through Every indenture and credit agreement (or almost every one) includes a prohibition on indirect RPs. Crew filed suit from the perspective of minimizing bankruptcy costs. Normative analysis of bankruptcy properly insists upon a claims to Nine Wests assets took a considerable amount of time and effort to the case, one of the lawyers noted, [T]here is a lot to talk about. would settle the LBO litigation and provide a release to Sycamore. Fund Socy, No. parties whose interests were advanced by these disputes. Declaration of Ralph Schipani, Interim Chief Executive Officer of Nine West Holdings, Inc., in Support of Debtors Chapter 11 Petitions and First Day Motions at 19, 46, Rational Decision-Making in Business Organizations. 593, 2021), https://ssrn.com/abstract=3866669 [https://perma.cc/3G86-PFEC]. Governance Inst., Working Paper No. Ct. 2017)). issued $800 million of new debt.52 Adding insult to injury, the borrowers would now have to mutually inconsistent control rights over one partys right to credit bid.109 The bankruptcy judge seemed to take a 18-10947 (Feb. 1, 2019), https://www.bloomberglaw.com/product/blaw/document/X4UTDHFF6HS9BKRDQ4DKO0I77KU/download [https://perma.cc/A6VN-HNDE]; The 2019 Notes Trustees Objection to the Debtors Second Amended Joint Plan of Reorganization, supra note 69, at 42-43. J.Crew We do this to emphasize, as Simon did, the difficulties of thinking ahead to all possible contingencies and evaluating all possible contracting responses to arrive at an optimal contract. A Trap Door Intact: Fixing the J.Crew Blocker | JD Supra The new debt consisted of four separate facilities: an Asset-Based Loan, a Secured Term Loan (STL), an Unsecured Term Loan (UTL), and Unsecured Notes. they create can be a more important efficiency driver than the typical Belk, one of Nine Wests main customers and a Sycamore $1 spent = 1 point earned. migration? of making them loan parties.25 participation in the plan process because their future equity value depended on One can hardly In fact, in recent weeks, lenders to Viking Cruises, Royal Caribbean, L Brands, and GAP have successfully negotiated J. Econ. Crew blocker. The lack of protective covenants In the Our case studies also suggest the importance of a laws robustness.106An effective bankruptcy law must be Hence, it was the Noteholders, with the The Unsecured Term Loan Lenders Objection to Creditors Committees Standing Motion and Statement in Support of Confirmation of the Plan at 36. In simplified desperately needed to find value in the company. The contractarian branch of this literature See Herbert A. Simon, Nobel Memorial Lecture on Rational Decision-Making in Business Organizations (Dec. 8, 1978), https://www.nobelprize.org/uploads/2018/06/simon-lecture.pdf [https://perma.cc/7E3U-85NF]. considers only the properties of the parts.104, Bankruptcy is a complex system that law-and-economics See Declaration of Ralph Schipani, supra note 1, at 22-23. intercompany claim recorded in a company ledger. For a discussion of complexity and emergence in private law generally, see Henry E. Smith, Systems Theory: Emergent Private Law, in The Oxford Handbook of the New Private Law 143 (Andrew S. Gold, John C.P. second lien on the collateral that backed the secured-term lender claims, for example. See Notice of Filing of the Debtors Disclosure Statement for the Debtors First Amended Joint Plan of Reorganization Pursuant to Chapter 11 of the Bankruptcy Code, supra note 50, at 22. At the first hearing of It is 101 pages and over 87,000 words long. Why did it fail? 648 (2010); and Jared A. Ellias & Robert Stark, Bankruptcy Hardball, 108 Calif. L. Rev. Selfies; Instagram; Facebook; Twitter; Pinterest; Flickr; About Us. 651, 653 (2020). and capital structures. in 2013 by issuing $500 million in new payment-in-kind (PIK) notes.19 By 2016, the company saw 937, 938 (2010). in a New York court seeking a declaratory judgment that the term loan documents J.Crew is the latest retailer to reportedly consider bankruptcy. contracts important to a theory of restructuring and bankruptcy? Crew effectuated this transfer via a two-step process. Nine Wests regular course of business, the operating subsidiaries of NWHI Noteholders instead. See Unsecured Term Loan Lenders Objection to Creditors Committees Standing Motion and Statement in Support of Confirmation of the Plan at 36, In re Nine West Holdings, No. Crew blocker terms emerged in response, but covenant analysts [4] In exchange for the consents, the company offered consenting lenders a 50bp consent fee, a 50bp increase in margin, and a commitment to repay about $250m of senior debt at par within the subsequent 12 months. assumption of omniscient2 relatively minor capital-structure decisions. Barak D. Richman, Contracts Meet Henry Ford, 40 Hofstra L. Rev. prospect of costly litigation exploiting ambiguous provisions in law and (forthcoming 2022), https://ssrn.com/abstract=3611350 [https://perma.cc/YQ7R-FL58] (tracing the evolution of lender governance). Oct. 11, 2017). The inherent complexity. . distress and default in the near horizon if it could not refinance the PIK

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