Lenders to Avianca, the Latin American airline, may not have succeeded in structuring a $150 million loan secured by future credit card receivables that would hold up in chapter 11. Plowing through the September 4 opinion by Bankruptcy Judge Martin Glenn of New York might give clever corporate lawyers ideas for different structures with greater likelihood of surviving in bankruptcy.
Although he didn’t declare the ultimate winner in the fight over prebankruptcy financing, Judge Glenn made a significant ruling: Rejecting the financing arrangement as an executory contract did not (for the time being) terminate the lenders’ rights to receive credit card receivables, in the wake of Mission Product Holdings Inc. v. Tempnology LLC, 203 L. Ed. 2d 876 (May 20, 2019).
The Prebankruptcy $150 Million Financing
The second-largest airline in Latin America, Avianca filed a chapter 11 petition in New York in May. More than two years before bankruptcy, Avianca negotiated a $150 million financing with a group of lenders. Although the transaction was highly complicated and entailed no less than eight different but interrelated agreements, suffice it to say that the airline purported to sell the lenders its present and future credit card receivables from American Express, Visa and Master Card for $150 million.
Each month, the lenders retained enough from the receivables to cover monthly amortization on the $150 million financing. The lenders turned the excess over to the airline. In early 2020, before the pandemic, the lenders paid back as much as 95% of the receivables to Avianca.
The pandemic grounded the airline, drying up receivables. The cessation of flight operations and the bankruptcy filing were events of default terminating the lenders’ obligation to turn over any excess to the airline.
When and if Avianca attempts to restart operations, the financing presents a problem. Absent a deal with the lenders or relief from the bankruptcy court, Avianca would have no income because the first $150 million would flow to the lenders.
The Rejection Motion
So, Avianca filed a motion to reject the financing arrangement as an executory contract. In short, the airline was hoping that rejection would “free up” the receivables to be pledged to another lender, leaving the “old” lenders with a $150 million unsecured claim. The lenders argued that Avianca was attempting to evade Tempnology.
Judge Glenn’s opinion features a thorough analysis of Tempnology. The Supreme Court held that rejection of an executory trademark license does not bar the licensee from continuing to use the mark. As Justice Elena Kagan said, “A rejection breaches a contract but does not rescind it.” To read ABI’s report on Tempnology, click here.
Judge Glenn’s opinion also contains an in-depth analysis of the law differentiating an executory contract from one that is no longer executory. Finding material unperformed obligations on both sides, he concluded that the pivotal agreements in the $150 financing were executory contracts that could be rejected.
But rejection was not the end of the story, because the lenders flew Tempnology’s flag and argued that rejection did not rescind the sale of future receivables.
Judge Glenn agreed. Like Tempnology, he said that a breach stemming from rejection is the same as a breach outside of bankruptcy. Because rejection is not rescission, he ruled that rejection did not terminate the lenders’ right to receive payments of credit card sales processed by the credit card processors, both present and future.
In the next breath, though, Judge Glenn went on to say that rejection did relieve the airline of the obligation to sell receivables to the old lenders “under new credit card processing agreements that the Debtors may seek to enter with new credit card processors.”
That’s where it gets complicated, and the final story is yet to be told. The lenders claim they are fully secured, but the airline says they only have an unsecured claim. Even if the security interest is enforceable, the airline believes that the security interest in future receivables would be cut off by Section 552.
The airline could reject the existing contracts with the credit card processors and enter into new ones, arguably not subject to the rejected prepetition financing arrangement. The lenders, though, will contend they have contracts with the card processors requiring them to turn over receivables even under new agreements.
Would the lenders’ enforcement of prebankruptcy contracts amount to interference with the debtor’s property?
Judge Glenn did not resolve the dispute, saying the claim would be determined “through the claims resolution process.” He said the “parties should endeavor to resolve these disputes through plan negotiations and, if necessary, through mediation.”
Both sides have lots to lose if they litigate the lenders’ claim to conclusion. We’re betting they settle.
The opinion means that securitization lawyers need to come up with a structure more likely to survive the rigors of bankruptcy.
Lenders to Avianca, the Latin American airline, may not have succeeded in structuring a $150 million loan secured by future credit card receivables that would hold up in chapter 11. Plowing through the September 4 opinion by Bankruptcy Judge Martin Glenn of New York might give clever corporate lawyers ideas for different structures with greater likelihood of surviving in bankruptcy.
Although he didn’t declare the ultimate winner in the fight over prebankruptcy financing, Judge Glenn made a significant ruling: Rejecting the financing arrangement as an executory contract did not (for the time being) terminate the lenders’ rights to receive credit card receivables, in the wake of Mission Product Holdings Inc. v. Tempnology LLC, 203 L. Ed. 2d 876 (May 20, 2019).
The Prebankruptcy $150 Million Financing
The second-largest airline in Latin America, Avianca filed a chapter 11 petition in New York in May. More than two years before bankruptcy, Avianca negotiated a $150 million financing with a group of lenders. Although the transaction was highly complicated and entailed no less than eight different but interrelated agreements, suffice it to say that the airline purported to sell the lenders its present and future credit card receivables from American Express, Visa and Master Card for $150 million.
Each month, the lenders retained enough from the receivables to cover monthly amortization on the $150 million financing. The lenders turned the excess over to the airline. In early 2020, before the pandemic, the lenders paid back as much as 95% of the receivables to Avianca.
The pandemic grounded the airline, drying up receivables. The cessation of flight operations and the bankruptcy filing were events of default terminating the lenders’ obligation to turn over any excess to the airline.