Changed Circumstances in § 363 Sales: What if the ‘Highest and Best’ Offer Suddenly … Isn’t?

What happens when intervening events or a change of circumstances occurs that affects the value of the assets and the benefit to the estate when selling them to one bidder over another? Three recent cases provide some insight into what bankruptcy courts consider when a trustee’s or debtor’s business judgment is called into question because the ground beneath the parties has shifted during the sale process.

Background: The Business-Judgment Standard for § 363 Asset Sales

A trustee or debtor in possession is permitted to “use, sell, or lease” property of the estate outside of the ordinary course of business under § 363(b)(1)[1] of the Bankruptcy Code.[2] Bankruptcy courts permit the sale of the debtor’s assets as long as the debtor or trustee has an “articulated business justification” for doing so.[3] Although the bankruptcy court is to review the trustee’s or debtor’s business judgment independently to determine whether the judgment is reasonable, the court is also not to substitute its own judgment for that of the trustee or debtor, whose discretion is to be given “great judicial deference” as long as it is supported by sound business reasons.[4] In many, if not most, assets sales, the business justification underlying the proposed asset sale is clear and obvious: The assets should be sold to the party making the highest offer for them. Often, there may be only one viable offer to purchase the debtor’s assets, and the alternative would result in little or no recovery for creditors. But in some sale situations, intervening events dictate that the appropriate result, and whether it is supported by sound business judgment, is not so readily apparent.

Royal Coachman Mobile Home Park: When the Trustee Is Late to the Game

In the chapter 11 case of Royal Coachman Mobile Home Park,[5] the debtor operated a mobile home park in Grant County, Wash. After the debtor confirmed a plan of reorganization and survived two motions from the Office of the U.S. Trustee to dismiss the case or convert it to chapter 7, the bankruptcy court ordered a post-confirmation chapter 11 trustee to be appointed to operate the debtor’s business.[6] The trustee determined that funding the plan via the debtor’s continued business operations was not feasible and began to conduct due diligence regarding the potential sale of the debtor’s assets.[7] The trustee quickly located a buyer (Northwest Cooperative), which was an affiliate of a national nonprofit that provided acquisition funding for resident-owned mobile home parks.[8] Northwest Cooperative offered to purchase the park “as is” for a cash bid of $1.4 million, with no broker fees, and the court approved the proposed the sale to Northwest Cooperative on the trustee’s motion, but left the bidding open for additional offers that could be submitted prior to the order becoming final.[9]

Meanwhile, a competing bidder (Ms. Burns), who was a former litigant in a class action involving certain of the mobile home park’s tenants, objected to the sale order on the basis that the plan did not give the post-confirmation trustee any authority to sell the assets, as no trustee was even contemplated at the time the plan was confirmed.[10] The plan did, however, provide creditors with the authority to modify the plan’s manner of liquidation, so the court was able to approve a modification to provide the trustee with the requisite authority to sell the assets on that basis.[11]

Not to be outdone, Ms. Burns then lodged a competing bid of $2 million for the park’s assets, financed over 10 years with a broker’s fee at 4 percent.[12] The trustee rejected this offer on the basis that it was not “higher and better” than the all-cash Northwest Cooperative bid that provided far less risk to the estate.[13] Ms. Burns responded by increasing her price to $2.1 million, financed over only two years with 3.65 percent broker’s fee.[14]

Ultimately, the court heard testimony it deemed “credible” from a representative of Northwest Cooperative that it had successfully developed 280 mobile home parks under its proposed model, and that its sales almost always closed within 120 days.[15] In light of this testimony and the totality of the circumstances, the court found no reason to “disagree or interfere” with the post-confirmation trustee’s judgment regarding the sale of the mobile home park to Northwest Cooperative, and found that the trustee had “carefully weighed the competing bids rather than mechanistically recommending the facially higher bid.”[16]

TAG Mobile: When the Assets Have Decreased in Value

The chapter 11 trustee in TAG Mobile LLC[17] began efforts to solicit offers for the debtor’s telecom assets in September 2019.[18] The trustee entered into an agreement with a stalking-horse bidder, SSB Trading, Inc. (SSB), to make a bid for the debtor’s assets, subject to higher and better offers.[19] Ultimately, an auction was held for the debtor’s assets on April 20, 2020, that successfully resulted in five cash bids, with SSB’s bid being only the third best at $2 million.[20] Finishing ahead of SSB were Vector Holdings, LLC at $3.75 million, and Henry Do at $3.70 million.[21] The court approved the sale of the debtor’s assets to Vector, with Mr. Do and SSB serving as first- and second-backup bidders, respectively, in the event that Vector was unable to close.[22]

More than a year passed, and Vector was ultimately unable to obtain the requisite government regulatory approvals to purchase the assets.[23] In July 2021, the trustee approached Mr. Do, as the first-backup bidder, to close the sale. Mr. Do was still willing to purchase the assets, but viewed them to be worth significantly less than they had been worth over a year ago when he first made his bid.[24] Specifically, significant changes in certain government-assistance programs, and the reimbursement rates associated with providing telecom services to underserved families and locations pursuant to those programs, had affected the value of the debtor’s assets negatively.[25] Mr. Do was only willing to pay $2.7 million for the debtor’s assets at this juncture; however, his revised bid was still $700,000 more than SSB’s second-backup bid of $2 million.[26] In August 2021, the trustee filed a motion to amend the court’s previous sale order from April 2020 to approve the sale of the assets to Mr. Do at the new price of $2.7 million, subject to any higher or better offers.[27] SSB objected on the basis that it would be unfairly prejudiced by the lack of opportunity to make its second-backup bid of $2 million.[28]

Following a hearing, the court ultimately approved the trustee’s request to sell the debtor’s assets to Mr. Do at the reduced price of $2.7 million, finding that the amended sale was within the trustee’s business judgment.[29] Notably, SSB never offered to increase its bid, notwithstanding that Mr. Do’s new bid was subject to higher and better offers,[30] which appeared to underscore the fact that the market for the debtor’s assets had indeed decreased in the time that elapsed since the original auction.

Mountain States Rosen: When the Stalking Horse Fails to Utilize Its Edge

Mountain States Rosen LLC[31] involved a chapter 11 debtor attempting to liquidate its assets, which consisted of a lamb-processing plant.[32] The debtor held an auction and determined that Swift Beef Company made the winning bid for $14.25 million.[33] The stalking-horse bidder (FAB) finished second and objected on the basis that Swift’s offer could not be the “highest and best” because (1) Swift would not be assuming the debtor’s PPP loan, and (2) Swift did not plan to continue the plant’s operations as a lamb-processing facility, but instead intended to convert it to beef-processing.[34]

Noting that the debtor’s fiduciary duty to maximize the estate did not require it to “mechanically accept a bid with the highest dollar amount” and that the debtor was “encouraged to evaluate other factors such as contingencies, conditions, timing or other uncertainties in an offer that may render it less appealing,”[35] the court found that it would not overrule the debtor’s discretion to award the sale to Swift. Specifically, the court noted in response to the arguments raised by FAB: (1) as the stalking horse, FAB was in a unique position to influence the floor bid price if it felt its proposed assumption of the debtor’s PPP loan brought significant value, but it failed to do so;[36] and (2) even though FAB stated that it intended to keep workers employed year-round if it took over operations, the evidence indicated that there were not enough lambs to operate at full capacity year-round, and nothing presented by FAB indicated its ownership would resolve problems related to market forces stemming from COVID-19 or otherwise.[37]

Takeaway: The Debtor’s/Trustee’s Business Judgment Is Still King

Although the cases discussed herein do not in any way comprise a representative sample, they do serve to underscore the continued weight and deference given by courts to the business judgment of the debtor or trustee. If the debtor or trustee is able to articulate sound business reasons for opting to sell the estate’s assets to one party over another whenever competition arises, then those reasons are likely to prevail over any objection to the sale, regardless of what may have transpired during the sale process.