Amicus Curiae Brief — US Bancorp Mortgage Co. v. Bonner Mall Partnership

No. 93-714

Supreme Court of the United States

APRIL TERM, 1994

U.S. BANCORP MORTGAGE COMPANY,

Petitioner,

VS.

BONNER MALL PARTNERSHIP,

Respondent.

ON WRIT OF CERTIORARI

TO THE UNITED STATES COURT OF APPEALS

FOR THE NINTH CIRCUIT

BRIEF OF AMICI CURIAE

AMERICAN COUNCIL OF LIFE INSURANCE AND

MORTGAGE BANKERS ASSOCIATION OF AMERICA

IN SUPPORT OF PETITIONER

Of Counsel:

RICHARD E. BARNSBACK

PHILLIP E. STANO

DAVID M. LEIFER

American Council of Life Insurance

1001 Pennsylvania Avenue, N.W.

Washington, D.C. 20004-2599

(202) 624-2183

WILLIAM E. CUMBERLAND

Mortgage Bankers Association of America

1125 Fifteenth Street, N.W.

Washington, D.C. 20005-2766

(202) 861-6516

ROBERT B. MILLNER

(Counsel of Record)

LORIE A. CHAITEN

Sonnenschein Nath & Rosenthal

8000 Sears Tower

233 S. Wacker Drive

Chicago, Illinois 60606-6404

(312) 876-8000

Counsel for Amici Curiae

Page

Oo NANDA AUNAW WO —

—

—)

eeeereereerere

BID OR COUNTERPROPOSAL ..........:000002- 10

1. Under The Absolute

Debtor’s Assets Are

As Owned By The oo) il

ii

TABLE OF CONTENTS - Continued

Page

2. The “New Value” Exception Adopted 5

B The Cort Of Appeals Gives “Property

Account Of” Old Equity’s Prior

Ownership Interest, In Violation Of The

CDS scccoccnccsnsccscedoccsessoossosonessonsssecteccccooeoccese 13

3. The Court Of Ap ’ Reasoning,

And Particularly Its Reliance On Los

Angeles Lumber, Is Misplaced............++++++++++ 16

4. There Is No Policy Justification For

A Preemptive New Value Rule..................++ 18

5. At The Very Least, A Cramdown Sale

Of Ownership To Old Equity Cannot

Be Confirmed Without Exposing That

Transaction To The Market.................:0+se++ 20

B. THE PLAIN MEANING OF THE

STATUTORY TEXT SHOULD BE HELD

TO CONTROL CONSTRUCTION OF

SECTION 1129(D) ........ccccccceeerseeseeeeeesneneessensees 23

CONCLUSION ...........:csscssscssssserseesseennesessenssscsessesesensoes 29

iii

TABLE OF AUTHORITIES

Cases: | Page

In re A.V.B.1., Inc., 143 B.R. 738 (Bankr. C.D. 14, 18,

I 5 iittala tear bilahlitelatadsedarniiie 23, 26

In re Bjolmes Realty Trust, 134 B.R. 1000

EEE TT TT AE TE a 21

In re Bonner Mall Partmership, 2 F.3d 899

RENEE ES a LE OES oe 3,4

In re Bryson Properties, XVIII, 961 F.2d 496 8, 14

(4th Cir.), cert. denied, 113 S. Ct. 191 (1992) ..0000000.... 15, 18

Case v. Los Angeles Lumber Products Co., 7, 14, 16,

TTT TIT 17, 24, 26, 27

Consolidated Rock Products Co. v. Du Bois,

ar 12

v. Timm, 502 U.S. 7, 8, 23,

tty S. Ct. 773 iim meinneneen eessveveceses 24, 25, 28

In re Greystone Ill Joint Venture, 995 F.2d 1274

(Sth Cir.), petition for rehearing granted in part

and withdrawn in part, 995 F.2d 1284

(Sth Cir.) (per curiam), cert. denied, 113 S. Ct.

SE 14

Kansas City Terminal Ry. Co. v. Central Union

BUS Ca, STE UG. SES CIGBBD occecccccecccscctectsnessocccsssceceseees 16

Kham & Nate's Shoes No. 2, Inc. v. First Bank of

Whiting, 908 F.2d 1351 (7th Cir. 1990)................. 12, 14, 27

In re Lumber Exchange Ltd. Partnership,

125 B.R. 1000 (Bankr. D. Minn.), aff'd on other

ae tae fn 1991), aff'd,

iv

TABLE OF AUTHORITIES - Continued

Page

Northern Pacific Railway Co. v. Boyd,

FD De, GI ee Oeee tiinieniittninsidaitiantigntbiiniatitanisiemvitiiin 12

Norwest Bank Worthington v. Ahlers, 12, 14, 20,

GBB GB, GEG Ge nnrsencnesssenceneaictessinciens 24, 26, 27

In re One Times Square Assocs. Ltd. Partership,

159 B.R. 695 (Bankr. S.D.N.Y. 1993) .0.........ccccccceeeeeeeeeeees 24

In re Outlook/Century Ltd., 127 B.R. 650

OT. OD | een 18, 21, 23

Pepper v. Litton, 308 U.S. 295 (1939) .........ccccceeeceeeeeeeeeees 18

Piedmont Associates v. Cigna Property & Casualty

Insurance Co., 132 B.R. 75 (N.D. Ga. 1991)............... 18, 19

In re Ropt Ltd. Parmership, 152 B.R. 406

Ge. TD. SERED: FSG cxccensasecussitecsinicmenceenscrsnsemestesmeees 21

In re S.A.B.T.C. Townhouse Ass'n, Inc.,

152 B.R. 1005 (Bankr. M.D. Fla. 1993) 20.............ccccceeeeeees 24

in re SM 104 Ltd., 160 B.R. 202

EES, A Sab GOOD cettletearenctnitigrtiiiinnmaniinnpiepnatel 20

In re Snyder, 967 F.2d 1126 (7th Cir. 1992) .............ccccceees 24

Toibb v. Radloff, 501 U.S. ,111 S.Ct

BEG CED ceernteennmmes 18

United Savings Assn. of Texas v. Timbers of Inwood

Forest Assoc., Ltd., 484 U.S. 365 (1988) ..........cccccccceceeeeeeees 5

United States v. Ron Pair Enterprises, Inc.,

oF ER | a ee 24, 25

Wolf v. Weinstein, 372 U.S. 633 (1963) ......ccccceessseesessseee 18

er

TABLE OF AUTHORITIES - Continued

Page

Statutes:

ceveaied Aig 1898, 11 U.S.C. et seq.

Ch. X, 11 U.S.C. § S01 ef 8eq. ........cccccceceeeees 17, 25, 26

Ch. X, § 221 (formerly codified as amended

BR ET EE TT re 26

Ce XH MUSE $00

Bankruptcy Code, 11 U.S.C. § 101 et seq.:

ES RD RIO Cee ee mee SOS ET er 12

| TEE TE ee ec en 4

Oe is iced tnthiteentintsitab sistance bectentiindnael 4,5

thf (RS aS Tere vee 5

FE EE ee eee Tee 6

Sa Re RRR ti 15, 26

Gb le | eS ees ar ee 15, 26

ib! 8) 00 68 (Ee 15, 26

8 Breer ee 15

11 U.S.C. § L12Z9(aNB)A) .20........c cc ceeeceee eee eeeeee 13, 27

TR FS Se ee ee ll

JES 9) ee 20, 23

of td D0 | ESRD SS 10, 11

vi

TABLE OF AUTHORITIES - Continued

Page -

11 U.S.C. § 1129(0)(2)(B)(i) «.......cececeeereeeeeeneneenennes 10

11 U.S.C. § 1129(b)(2)(B){ii) ...... 1, 8, 9, 13, 14, 18, 23

Other Authorities:

American Council of Life Insurance, ] 993 Life

Insurance Fact Book Update (1993) ..........cccc000eeeeeeees 1,2

American Council of Life Insurance, / 992

Life Insurance Fact Book (1992) .........c00seeeeeeeenvereeeees 1,2

Appellant’s Reply Brief, in the United States

Court of Appeals for the Ninth Circuit ....................0000++ 15

John T. Bailey, The “New Value Exception” in

Single-Asset Reorganizations: A Commentary on

the Bjolmes Auction Procedure and Its

Relationship to Chapter 11, 98 Com. L.J. 50

GE ceceechesnccgtvisitinnlinbitiibintiibinetamiditmtesnnpencsestomscersesseees 28

Douglas G. Baird, The Elements of Bankruptcy a

ED cntevitareresevendivinsstnahincctetmenrsecssseseabsteberncermemnesies .

Brief for the United States as Amicus Curiae

ing Petitioners, Norwest Bank

Worthington v. Ahlers, 485 U.S. 197 (1988)

I a erinteccctnctincersncasntutminangusnciastneersersees 24, 26, 27

5 Collier on Bankruptcy (Lawrence P. King

OB... FH OB. BID - ccccecccvestessctcsersectnncssszemterssecesscsses 25, 26

Walter A. Effross, Grammarians At The Gate:

The Rhenquist Court's Evolving “Plain Meaning”

es ae eee

23 Seton Hall L. Rev. 1636 (1993) ..........-.eceeeeeeeeseeneneees 25

vii

TABLE OF AUTHORITIES - Continued

Page

Richard J. Epling, The New Value Exception:

Is There A Practical Workable Solution?,

S Bamkr. Dev. J. 33S (1991) .....cccocccocccccccccssocssorsscosecesssees 22

1 David G. Epstein et al., Bankruptcy (1992) ............0000. 22

3 David G. Epstein et al., Bankruptcy

CRIED consianesinliitictdaniinsitlituitiiittensindbiliealinns. tindualiees 10, 12, 19, 27

Lisa Hill Fenning, et al., Good Faith: Roundtable

Discussion, 1 Am. Bankr. Inst. L. Rev. 11 (1993) ............ 3

Lawrence B. Gutcho, Real Estate Lenders and

the Battle Over “New Value,” 110 Banking

SF ET ane e ae ee ee 22

Bruce A. Markell, Owners, Auctions, and

Absolute Priority in

Reorganizations, 44 Stan. L. Rev. 69

CRUE dcclinitsnnisthictntininntetgdllidbinesebcieuneniien 17, 18, 22, 26, 27

Anthony L. Miscioscia, Jr., The Bankruptcy Code

And The New Value Doctrine: An Examination

Into History, Illusions, And The Need For

Competitive Bidding, 79 Va. L. Rev. 917 (1993)....... 18, 22

Michael L. Molinaro, Single-Asset Real Estate

Bankruptcies: Curbing an Abuse of the Bankruptcy

Process, 24 UCC LJ. 161 (1991) 2.0... .cccccccccececceeeeeeeeereees 4

National Bankruptcy Conference, Bankruptcy

Reform Circa 1993 255 (ALI-ABA 1993) ................. 13, 22

Note, The New Value Exception: Square Peg

In A Round Hole, | Am. Bankr. Inst. L. Rev.

STD ein hiectinicettichenpiniteibninieridiipintnsibtedantenannennpetasenes 4

viii

TABLE OF AUTHORITIES - Continued

j

Robert K. Rasmussen, A Study Of The Costs

And Benefits Of Textualism: The Supreme Court's

Bankruptcy Cases, 71 Wash. U.L.Q. 535 (1993) .........

Leonard M. Rosen, Book, ter And Worse,

July-Aug.1992 Business Law Today 47 .............0c00000

Linda J. Rusch, Single Asset Cases and Chapter 11:

The Classification Quandary, | Am. Bankr. Inst.

hn RBV. GS (RGIS) ccccscccsescsesccecesesesssnvscssotccsossvescooecosooees

Stephen W. Sather & Adrian M. Overstreet,

The Single-Asset Real Estate Debtor: A Selective

Overview, 2 J. Bankr. L. Prac. 343 (1993) ...........:000+

Elizabeth Warren, A Theory of Absolute

Priority, 1991 Ann. Surv. Am. L. 9 (1992)...... 1,19, 21,22

BRIEF OF AMICI CURIAE

AMERICAN COUNCIL OF LIFE INSURANCE AND

MORTGAGE BANKERS ASSOCIATION

OF AMERICA IN SUPPORT OF PETITIONER

This Brief, in support of Petitioner, is submitted in

accordance with Rule 37 of the Rules of this Court and pursuant

to the attached written consent of all parties.

INTEREST OF AMICI CURIAE

Amicus American Council of Life Insurance (“ACLI’) is

the principal national trade association of life insurers. ACLI’s

634 member companies account for 90% of the legal reserve life

insurance in this country and are among the nation’s largest and

most significant commercial lenders. In 1992, life companies’

net new investment in U.S. capital markets totaled $107.3

billion — ranking second (only after mutual funds) among private

domestic capital sources.'

The interest of ACLI arises out of the signal importance the

decision below has to the commercial lending community. The

issue presented —— the existence and content of a new value

exception to the absolute priority rule — lies at the core of

bankruptcy reorganization. The absolute priority rule, as codified

in Section 1129(b)(2)(B (ii) of the Bankruptcy Reform Act of

1978 (the “Bankruptcy Code”), 11 U.S.C. § 101 et seq., sets

forth the fundamental ordering of rights and priorities between

equity owners and creditors and “sets the ground rules of Chapter

11.”

' American Council of Life Insurance, /993 Life Insurance Fact

Book Update 46-54 (1993), see also American Council of Life Insurance,

1992 Life Insurance Fact Book 84-103 (1992).

2 Douglas G. Baird, The Elements of Bankruptcy 73 (1992); see

also Elizabeth Warren, A Theory of Absolute Priority, 1991 Ann. Surv. Am.

L. 9 (1992).

2

ACLI is also interested in this case because it concerns a

defaulted mortgage loan and a commercial borrower’s attempt

judicially to impose a mortgage restructuring over the lender’s

objection. Life insurance companies are among the nation’s

largest direct lenders of mortgage money and purchasers of

mortgages on the secondary mortgage market. At the end of

1992, life insurance companies held $242 billion in mortgages on

United States real property, which represented 14.8 percent of

the total assets held by life insurance companies that year.’

Amicus Mortgage Bankers Association of America

(“MBAA”) is the primary national trade association devoted to

the field of mortgage and real estate financing. Mortgage

banking firms, which comprise the largest part of MBAA’s total

membership of 2,600 corporations, engage in originating,

financing, selling and servicing both residential and commercial

mortgages. In 1993, MBAA members originated $12.8 billion

in mortgage loans on commercial real estate and serviced in

excess of $160 billion in commercial real estate mortgages.

MBAA has the same interests as ACLI in this case.

As principal sources of mortgage funds and other investment

Capital in the United States, amici have a broad perspective on

the merits of this case and the impact of the court of appeals

decision. That decision not only (a) upholds the existence of a

“new value” exception to the absolute priority rule, so that old

equity, despite objection by a creditor class that will not be paid

in full, may purchase ownership of the reorganized debtor, but

(b) holds that old equity can be granted an exclusive right to

purchase that ownership on terms set without competitive bid or

other market exposure.

, American Council of Life Insurance, 1993 Life Insurance Fact

Book Update, supra, at 46, 50; see also American Council of Life Insurance,

1992 Life Insurance Fact Book, supra, at 85,99. Moreover, life insurance

companies held an additional $248.6 billion in mortgage related securities

at the end of 1992. American Councilof Life Insurance, ] 993 Life Insurance

Fact Book Update at 49.

3

Amici support the position of Petitioner U.S. Bancorp

Mortgage Company (“Bancorp”), which would bar old equity’s

ownership of the reorganized debtor unless the unsecured class

is paid in full. Amici submit this brief, however, to urge that,

regardless of whether the Court accepts Bancorp’s position in

toto, there is no basis in law for the grant of an exclusive right to

old equity to purchase ownership of the reorganized entity — at

a price old equity names without bid — over the objection of a

class of unsecured creditors that will not be fully paid.

STATEMENT

The Single Asset Case

This case presents the familiar pattern of a single asset real

estate case in Chapter 11. Such a case involves a debtor, like

Respondent Bonner Mall Partnership (the “Debtor’), which

Owns a single commercial real estate asset (shopping mall,

apartment complex, or office building) that generates substantially

all the debtor’s gross income. See Lisa Hill Fenning, et al., Good

Faith: Roundtable Discussion, 1 Am. Bankr. Inst. L. Rev. 11,

17-18 (1993). Single asset cases comprise a substantial portion —

in some districts as much as half — of all Chapter 11 filings. Jd.

at 14-15.

In a single asset case, the asset often is fully encumbered by

mortgage debt, with no equity value available for unsecured

claimants or the owners. In the case at hand, the total mortgage

debt owed to Bancorp was $6.6 million, while the collateral —

a shopping mall — was valued by the bankruptcy court at $3.2

million. Jn re Bonner Mall Partnership, 2 F.3d 899, 905 (9th Cir.

1993).

In general, the crux of the single asset case is a dispute

between the debtor and a single creditor, the mortgage lender.

That lender is a potential bidder for ownership of the property.

4

Typically there are few trade creditors, and their claims,

which are unsecured, often are dwarfed by the mortgage lender’s

unsecured deficiency claim. Linda J. Rusch, Single Asset Cases

And Chapter 11: The Classification Quandary, 1 Am. Bankr.

Inst. L. Rev. 43, 44-45 (1993). In the present case, for example,

Bancorp’s deficiency claim constitutes almost all the unsecured

debt. See infra at 6.

The single asset debtor generally has few, if any, employees,

and the property is often run by a management company. Upon

sale or foreclosure, the property will continue to be operated

without any loss of going concern value. See Note, The New

Value Exception: Square Peg In A Round Hole, 1 Am. Bankr.

Inst. L. Rev. 173, 192-93 (1993); Michael L. Molinaro, Single-

Asset Real Estate Bankruptcies: Curbing an Abuse of the

Bankruptcy Process, 24 UCC L.J. 161, 163-64 (1991).

The Bonner Mall Property

The Debtor here purchased the property at issue in October

1986, subjectto Bancorp’s lien. Bonner Mall, 2 F.3dat901. The

Debtor experienced cash flow difficulties and failed to pay real

estate taxes. Jd. at 902. In July 1990, Bancorp commenced a

nonjudicial foreclosure action. Jd.;P.A. A92.* Afterunsuccessful

attempts to renegotiate and restructure the debt, Bancorp set a

foreclosure sale for March 14, 1991. 2 F.3d at 902.

On the eve of foreclosure, the Debtor filed a voluntary

Chapter 1 1 petition, thereby automatically staying the foreclosure

sale. Id. See also 11 U.S.C. § 362(a). Soon thereafter, Bancorp

moved for relief from the automatic stay under Code Section

362(d)(2), arguing that the debtor has no equity in the property

on which the creditor seeks to foreclose and the property “‘is not

necessary to an effective reorganization.” 11 U.S.C. § 362(d)(2).

Citations to Petitioner’ s Appendix, attached to the Petition for

Writ of Certiorari, appear as “P.A.__.” Citations to the Joint Appendix

appear as “J.A.___.”

The bankruptcy court valued the mall at $3.2 million,

establishing that the Debtor had no equity in the property. As a

result, the bankruptcy court ruled that the Debtor had to show “a

reasonable possibility of a successful reorganization within a

reasonable time” in order to defeat Bancorp’s motion for relief

from the stay. P.A. A121, 126 (citation omitted).°

The Plan of Reorganization

On October 31, 1991, in response to the bankruptcy

court’s ruling, the Debtor filed its First Amended Plan of

Reorganization (the “Plan”). P.A. A93. Under the Plan, the

Debtor would transfer all its assets to a new entity, Bonner

Properties, Inc. (the “Reorganized Debtor”). J.A. 19, Plan § 7.1.

The Debtor’s existing partners (old equity) would retain their

ownership of the mall by purchasing 2,000,000 shares (100%) of

the Reorganized Debtor’s common stock for $200,000 cash.

J.A. 18, 19, Plan §§ 5.5.1, 7.2. Old equity’s right to acquire this

common stock would be exclusive. Jd.°

Pursuant to Section 506(a) of the Bankruptcy Code,

Bancorp’s $6.6 million claim would be divided into a secured

claim to the extent of the value of the collateral ($3.2 million) and

an unsecured deficiency claim of $3.4 million. 2 F.3d at 905.

. Such showing is required to prove that the collateral is

“necessary to an effective reorganization” for purposes of Section 362(d) of

the Bankruptcy Code. United Savings Assn. of Texas v. Timbers of Inwood

Forest Assoc., Lid., 484 U.S. 365, 375-76 (1988).

® Olid equity also would undertake to fund any shortfall in the

Reorganized Debtor’s working capital for a 32 month period. J.A. 19, Plan

§ 7.2. In addition, an affiliate of the Debtor would contribute a junior

mortgage on certain real property, the value of which was disputed, to

guarantee obligations assumed by the Reorganized Debtor. In exchange for

this collateral, however, the Reorganized Debtor would be required to

service a substantial portion ($902,000) of the debt on that property. J.A.

20, Plan § 7.5.

6

Under Section 506(d) of the Bankruptcy Code, Bancorp’s

prepetition $6.6 million lien would be voided to the extent it

exceeded the $3.2 million value of the collateral. The unsecured

portion of Bancorp’s claim represented the vast bulk

(approximately 93%) of the Debtor’s unsecured debt. /Jd.; P.A.

Al23.

Under the Plan, the $3.2 million secured portion of Bancorp’s

claim would be paid 32 months after the Plan’s confirmation,

with monthly interest payments at the rate of 7% per annum in

the interim. J.A. 16-17, Plan § 5.3.1.

Bancorp, however, would receive no cash payment on its

$3.4 million deficiency claim. J.A. 17, Plan § 5.4.1. Nor would

any cash payment be made on any other unsecured claims in

excess of $1,000. Jd. Instead, all unsecured claims would be

satisfied through a pro rata distribution of 300,000 shares of

redeemable preferred stock in the Reorganized Debtor. Each

share would have a par value and liquidation preference of $1.00.

J.A. 17, 21-22, Plan §§ 5.4.1, 7.3. After final payment of

Bancorp’s secured claim, the preferred stock woul: be convertible

into 300,000 shares of common stock (15% of the then outstanding

common shares of the Reorganized Debtor). Jd. In short, the

holders of unsecured claims would receive preferred stock

worth, at best, less than ten cents on the claim dollar. 2 F.3d at

905.

Proceedings Regarding New Value Exception

1. Bankruptcy Court Decision

After the Debtor filed its Plan, Bancorp renewed its motion

for relief from the stay, arguing, inter alia, that a new value

exception was not viable under the 1978 Bankruptcy Code and

that the Plan violated the absolute priority rule. J.A. 29, 31. The

bankruptcy court accepted this argument and granted Bancorp’s

motion. J.A. 29-33.

2. District Court Decision

On appeal, the district court reversed in reliance on this

Court’s decision in Dewsnup v. Timm, 502 U.S.__, 112 S. Ct.

773 (1992), which the court viewed as “prescrib[ing] new

standards for interpreting the Bankruptcy Code.” P.A. A110.

Under Dewsnup, as interpreted by the district court, “courts

should try to construe the language [of the Bankruptcy Code] as

consistent with pre-Code practices, unless some contrary intent

is shown in the legislative history.” P.A. A111.

Based on this Court’s decision in Case v. Los Angeles

Lumber Products Co., 308 U.S. 106 (1939), the district court

concluded that a new value exception had existed under the old

1898 Bankruptcy Act. Consistent with its understanding of

Dewsnup, the district court ruled that the new value exception

“survive[d] the enactment of the 1978 Bankruptcy Code.” P.A.

All6.

3. Court of Appeals Decision

The court of appeals affirmed the districtcourt and remanded

to the bankruptcy court for further proceedings. The court of

appeals held “that the Code permits the confirmation of a

reorganization plan that provides for the infusion of capital by the

shareholders of the bankrupt corporation in exchange for stock

if the plan meets the conditions that plans were required to meet

prior to the Code’s adoption.” 2 F.3d at907. The court reasoned

that:

(i) “[{T]he plain language of section

1129(b)(2)(B (ii) [absolute priority rule]” does not

“by its terms eliminate, or even refer to, the new

value exception.” Jd. at 908, 909-10.

(ii) This Court had recognized a new value

exception under the old Act in Los Angeles Lumber.

Id. at 906.

(iii) | Under Dewsnup, “[w)here the text of the

Code does not unambiguously abrogate pre-Code

practice, courts should presume that Congress

intended it to continue unless the legislative history

dictates a contrary result.” Jd. at 913.

The court of appeals acknowledged that Code Section

1129(b)(2)(B)(ii) “bars old equity from receiving any property

via a reorganization plan ‘on account of its prior equitable

ownership when all senior claim classes are not paid in full.” Jd.

at 908. It concluded, however, that under the new value

exception, the prior owners “participate in the reorganized

debtor on account of a substantial, necessary, and fair new value

contribution.” Jd. at 909. The court of appeals stated that the

new value doctrine should be viewed not as an exception to

absolute priority but rather as a “corollary” stating “the set of

conditions under which former shareholders may lawfully obtain

a priority interest in the reorganized venture.” /d. at 906.

Perhaps most importantly, the court of appeals ruled that

the new value exception permits confirmation of a plan that gives

old equity alone the right to obtain an interest in the reorganized

debtor. Jd. at910-11. In the court’s view, the courts have power

to afford such investors “a priority over an impaired class of

creditors.” Jd. at 915. “The risk of self-dealing among these

entities [debtor and old equity] at the expense of creditors isa risk

created by the Code itself.” Jd.

The court of appeals rejected the holdings of the Fourth

Circuit in /n re Bryson Properties, XVIII,961 F.2d 496 (4th Cir.),

cert. denied, 113 S. Ct. 191 (1992), and other cases, that such

exclusive purchase right, in and of itself, constitutes property

received “on account of” old equity’s prior ownership. 2 F.3d at

910-11. In the view of the court of appeals, vesting a preemptive

purchase right in old equity, without exposing the interest being

purchased to the market, “increases the amount available for the

estate to use both in its reorganization and in funding the plan and

paying creditors.” /d. at 915.

9

SUMMARY OF ARGUMENT

The brief of Petitioner Bancorp presents ample authority

demonstrating that under the absolute priority rule equity owners

Cannot participate in a reorganized enterprise over the dissent of

a Class of unsecured creditors who will not be paid in full.

Although amici agree with Bancorp’s position, pursuant to

Supreme Court Rule 37, amici will not repeat Bancorp’s legal

presentation.

Amici submit this brief to urge that, regardless of the

Court’s ruling as to the existence vel non of a new value

exception, there is no basis in law for the grant of an exclusive

right to old equity to purchase ownership of the reorganized

debtor over the objection of a class of unsecured creditors that

will not be fully paid. Any such preemptive proprietary right in

old equity is directly contrary to Section 1129(b)(2)(B)(ii) of the

Bankruptcy Code, which prohibits old equity from receiving any

property (including exclusive purchase rights) on account of its

prior ownership, where an objecting creditor class will not be

made whole on its debt.

Amici submit that the words of the statute are indisputably

Clear on this point. In light of conflicting judicial approaches to

Bankruptcy Code construction, amici urge the Court to rule and

reiterate that natural interpretation of plain statutory language

should control absent compelling reason to the contrary. Here

there is no such compelling reason.

10

ARGUMENT

A. THE ABSOLUTE PRIORITY RULE BARS THE

GRANT, TO OWNERS OF AN INSOLVENT

ENTERPRISE, OF AN EXCLUSIVE RIGHT TO

PURCHASE THE REORGANIZED DEBTOR AT A

PRICE SET BY OLD EQUITY WITHOUT

OPPORTUNITY FOR COMPETITIVE BID OR

COUNTERPROPOSAL.

1. | Under The Absolute Priority Rule, The Debtor’s Assets

Are Properly Treated As Owned By The Creditors.

The absolute priority rule is expressly codified, without

exception, in Section 1129(b)(2)(B) of the Bankruptcy Code.

The rule provides that the debtor must pay a nonconsenting class

of unsecured creditors in full’ or “the holder of any claim or

interest that is junior to the claims of such class will not receive

or retain under the plan on account of such junior claim or interest

any property.” 11 U.S.C. § 1129(b)(2)(B).*

’ For purposes of making payment in full under Section

1129(>)(2)(B)i), the debtor may pay creditors over time as long as the

present value of the time payment at least equals the allowed amount of the

claim. The property received by the creditors may be “tangible os intangible,

including securities of the debtor or a successor to the debtor under a plan

of reorganization.” 3 David G. Epstein et al., Bankruptcy § 10-21 (1992).

§ Section 1129(b)(2)(B) provides:

For the purpose of this subsection, the condition that a plan be

fair and equitable with respect to a class includes the following

requirements:

footnote continued on page 11

1

The absolute priority rule is part of the Code’s requirement

that a reorganization plan be “fair and equitable” in order to be

confirmed over objection of an unsecured creditor class that will

not be paid in full. 11 U.S.C. § 1129(b)(1).° It is rooted in the

concept that when an enterprise is insolvent, i.e., the entity's

footnote continued from page 10

(B) With respect to a class of unsecured claims

(i) the plan provides that each holder of a

claim of such class receive or retain on account

of such claim property of a value, as of the

effective date of the plan, equal to the allowed

amount of such claim; or

(ii) ‘the holder of any claim or interest that is

junior to the claims of such class will not receive

or retain under the plan on account of such junior

claim or interest any property.

11 U.S.C. § 1129(>(2\B).

% Confirmation of a plan over objection of an impaired creditor

class, pursuant to Section 1129(b)(1), is commonly referred to as a

“cramdown.” Section 1129(b)(1) provides:

(b)(1) Notwithstanding section 5 10(a) of this title, if all of the

applicable requirements of subsection (a) of this section other

than paragraph (8) [acceptance of the plan by all impaired

classes] are met with respect to a plan, the court, on request of

the proponent of the plan, shall confirm the plan

notwithstanding the requirements of such paragraph if the

plan does not discriminate unfairly, and is fair and equitable,

with respect toeach class of claims or interests that is mpaired

under, and has not accepted, the plan.

11 U.S.C. § 1129001).

12

debts exceed the present values of its assets, its assets are

properly treated as owned by the creditors."

As a principle of reorganization law, absolute priority had

its origins in railroad equity receiverships. 3 David G. Epstein er

al., Bankruptcy§ 11-25(1992). Asstated ina seminal receivership

case:

The property [of the debtor] was a trust fund charged

primarily with the payment of corporate liabilities.

Any device, whether by private contract or judicial

sale under consent decree, whereby stockholders

were preferred before the creditor, was invalid.

Northern Pacific Railway Co. v. Boyd, 228 U.S. 482, 504

(1913)."

Likewise today, “[c]reditors effectively own bankrupt

firms.” Kham & Nate's Shoes No. 2, Inc. v. First Bank of

Whiting, 908 F.2d 1351, 1360 (7th Cir. 1990). The Bankruptcy

Code allows the creditors to consent to a plan that impairs their

0 The Bankruptcy Code does not require that an entity be

insolvent in order to be eligible to seek Chapter 11 relief. See 11 U.S.C.

§ 109. Solvent companies, i.¢e., entities whose asset values exceed their

debts, can and sometimes do file for relief when they are unable to pay

obligations coming due.

‘| _ A basic premise of absolute priority is that the entire going

concern value of the insolvent debtor belongs to the creditors. Boyd, 228

U.S. at 508 (“If the value of the road justified the issuance of stock in

exchange for old shares, the creditors were entitled to the benefit of that

value, whether it was present or prospective, for dividends or only for

purposes of control. In either event it was a right of property out of which

the creditors were entitled to be paid before the stockholders could retain it

for any purpose whatsoever.”). Accord Norwest Bank Worthington v.

Ahlers, 485 U.S. 197, 208 (1988). See also 3 Epstein, supra, § 11-30;

Consolidated Rock Products Co. v. Du Bois, 312 U.S. 510, 529 (1941).

13

interests — in which case they sell ownership to old equity at an

agreed price or give up equity interests in order to induce

managers to stay on. See 11 U.S.C. § 1129(a)(8)(A).

On the other hand, under the absolute priority rule, the

creditors can reject a “new value” plan if they believe the

proposed equity payment to be inadequate — in which case

confirmation should be flatly denied (as urged by Bancorp) or at

a minimum competing bids for ownership of the reorganized

debtor should be allowed.

As set forth by the National Bankruptcy Conference, in its

recently released report on operation of the Code:

If creditor acceptance is not obtained, the market has

determined there is not sufficient new value to permit

the owners of an insolvent enterprise to retain any

interest in the reorganized entity.

National Bankruptcy Conference, Bankruptcy Reform Circa

1993 255 (ALI-ABA 1993).

2. The“New Value” Exception Adopted By The Court Of

Appeals Gives “Property” “On Account Of’ Old

Equity’s Prior Ownership Interest, In Violation Of

The Code.

Indisputably, the plain terms of Section 1129(b)(2)(B)(ii)

bar old equity from receiving “any property” “on account of” its

prior ownership interest. The new value exception, as adopted

by the court of appeals in this case, permits insiders to acquire the

reorganized debtor in a private sale at which no other bidders are

allowed and on terms rejected by the creditors, for whose benefit

14

ownership should be being sold.” The only redress the creditors

have is to seek a judicial upset of the sale, arguing that the

purchase price and terms do not meet the requirements of the new

value exception set forth in the pre-Code dicta of Los Angeles

Lumber, 308 U.S. 106.”

This exclusive right to purchase ownership is property. See

supra at 12 n.11. Even the court of appeals acknowledged that

a “stock purchase option is property.” 2 F.3d at 910n.27. See

also Bryson Properties, 961 F.2d at 504; Kham & Nate's Shoes,

908 F.2d at 1360 (holding that an option to purchase stock is

“property” under Section 1129(b)(2)(B)(ii)); In reA. V.B.I., Inc.,

143 B.R. 738, 740 (Bankr. C.D. Cal. 1992) (same). See also

Norwest Bank Worthington v. Ahlers, 485 U.S. 197, 207-08

(1988) (holding that a retained equity interest is “property” even

if it has no market value).

2 Application of this exception is graphically illustrated by the

Greystone case. There, the bankruptcy court confirmed a “new value” plan

which would have paid less than 4 cents on the dollar on unsecured claims,

after refusing to consider a proposal by the mortgage lender to fund a plan

of its own which would have paid all unsecured creditors in full, in cash, at

confirmation. Jn re Greystone Ill Joint Venture, 995 F.2d 1274, 1277 (Sth

Cir.), petition for rehearing granted in part and opinion withdrawn in part,

995 F.2d 1284 (Sth Cir.) (per curiam), cert. denied, 113 S. Ct. 72 (1992).

3 The pre-Code new value exception as adopted by the Ninth

Circuit, and incorporated by that court into the Bankruptcy Code, has the

following requirements:

Former equity owners [are] required to offer value that [is]

1) new, 2) substantial, 3) money or money's worth,

4) necessary for a successful reorganization and 5) reasonably

equivalent to the value or interest received.

2 F.3d at 908 (citing Los Angeles Lumber, 308 U.S. at 121-22).

15

Therefore, what this case turns on (ifold equity is permitted

to participate in ownership over creditor objection), is whether

this exclusive purchase option (property) is received “on account

of” old equity’s prior ownership.

The answer emphatically is yes. This preemptive right, if

itexists, arises solely because inChapter 11: (a) the debtor’s pre-

petition owners and their managers are generally permitted to

remain in control of the debtor as a “debtor in possession,” 11

U.S.C. §§ 1107, 1108; and (b) the debtor has an exclusive right

for 120 days to propose a reorganization plan and an additional

60 day exclusive period to obtain acceptance of the plan. 11

U.S.C. § 1121(b), (c). In addition, extensions of exclusivity can

be (and are) granted. See 11 U.S.C. § 1121(d).

Here, the court of appeals went out of its way to establish

an exclusive purchase right in old equity. As the court of appeals

noted, the Debtor had filed its plan after its exclusivity period had

expired. Nevertheless, the court of appeals announced that even

if plan exclusivity had not expired, “[wJe do not believe that this

exclusivity period... makes the new value exception

ol. -tionable under the Code.” 2 F.3d 910 n.26. “We believe

that this same analysis [rejecting the Fourth Circuit's position in

Bryson Properties| applies whether a plan gives old equity an

exclusive or non-exclusive right of participation in a new value

transaction.” /d. at 911."

Contrary to the court of appeals’ position, the right to

exclude others from equity ownership is material. Under the

'* Indeed, Bancorp advised the court of appeals that it would bid

more than the Debtor in cash (rather than the securities offered by the

Debtor) in a market transaction. See Appellant's Reply Brief, in the United

States Court of Appeals for the Ninth Circuit, at 12-13. But for the Ninth

Circuit’ s decision to establish a preemptive exclusive purchase right in old

equity, the case could have returned to the bankruptcy court for resoluuion

of competing bids.

16

present Code framework, it is only old equity’s status and role as

debtor in possession that even arguably gives it an exclusive

Opportunity to confirm a plan in which it sells ownership back to

itself while holding all competitors at bay.

3. The Court Of Appeals’ Reasoning, And Particularly

Its Reliance On Los Angeles Lumber, is Misplaced.

The court of appeals stated that old equity’s exclusive

purchase may be “on account of” “other reasons.” See 2 F.3d at

910. This argument is unpersuasive. The court of appeals posits

that the “other reasons” might be a belief that old equity “will

enhance the value of the business” or that “there will be no other

legitimate investors. . . .” Jd. at911. Yet, the only way to test the

validity of these “other reasons” is to open the process to

counterproposals from creditors or other parties in interest —

which is precisely what the court of appeals refused to do.

The court of appeals’ reliance on pre-Code dicta of Los

Angeles Lumber, 308 U.S. 106, is misplaced and ironic. In Los

Angeles Lumber, the Court stated, in the course of rejecting a

reorganization plan, that participation of old equity could be

permissible only if the old stockholders are the only available

source of capital investment.

‘Generally, additional funds will be essential to the

success of the undertaking, and it may be impossible

to obtain them, unless stockholders are permitted to

contribute and retain an interest sufficiently valuable

to move them...’

308 U.S. at 117 (quoting Kansas City Terminal Ry. Co. v.

Central Union Trust Co., 271 U.S. 445, 455 (1926)).

17

Where that necessity exists and the old stockholders

make a fresh contribution and receive in return a

participation reasonably equivalent to their

contribution, no objection can be made.

Id. at 121.

If Los Angeles Lumber is at all pertinent to construction of

Code Section 1129(b), it invalidates the notion of a preemptive

purchase right in old equity. Indeed, it teaches that old equity is

a Capital source of last resort. It assumes that the market has not

and will not provide a superior offer.

Moreover, the new value dicta of Los Angeles Lumber and

other cases under the old Bankruptcy Act do not address or

consider the grant of operational control and exclusivity rights to

old equity, because the provisions of the old Act under which

those cases arose, Chapter X and its predecessor, Section 77B,

did not provide any such rights. See infra at 26-27. See also

Bruce A. Markell, Owners, Auctions, and Absolute Priority in

Bankruptcy Reorganizations, 44 Stan. L. Rev. 69, 118 (1991)

(“[E}xclusivity with respect to plans subject to the fair and

equitable requirement is aCode innovation. .. .”). The controversy

as to old equity’s alleged preemptive purchase right only arises

in the context of a Code that grants an exclusivity period and

control rights to a debtor in possession.

18

As the Fourth Circuit concluded in Bryson Properties,

“[t]his exclusive right to contribute constitutes ‘property’ under

§ 1129(b)(2)(B)(ii), which was received or retained on account

of a prior interest.” 961 F.2d at 504."

4. TherelsNo Policy Justification For A Preemptive New

Value Rule.

This Court has recognized that the policies underlying

Chapter 11 of the Bankruptcy Code are to maximize the value of

the estate and to encourage business reorganization, thereby

preserving jobs and protecting investors. Toibb v. Radloff, 501

U.S.___, 111 S. Ct. 2197, 2201 (1991). The court of appeals’

new value rule serves only to undermine these policies.

Old equity’s exercise of an exclusive purchase right raises

the palpable risk that the estate will be robbed of value. The “new

value” transaction is an exercise in self-dealing. Both sides of the

transaction — the decision to sell and decision to buy — are

within control of the same persons, old equity. Accordingly, the

decision of the court of appeals sets up dangerous incentives for

the debtor and its pre-petition owners to violate their fiduciary

duties to creditors. See Pepper v. Litton, 308 U.S. 295, 306-07

(1939). See also Wolf v. Weinstein, 372 U.S. 633, 649-50

(1963).

'S_See also In re Lumber Exchange Ltd. Partnership, 125 BR.

1000, 1008 (Bankr. D. Minn.), aff'd on other grounds, 134 B.R. 354 (D.

Minn. 1991), aff'd, 968 F.2d 647 (8th Cir. 1992) (“A special opportunity or

right afforded to members of a class of equity security holders to retain or

acquire an equity position in a reorganized debtor through a new cash

contribution under a plan is, by its very nature, the opportunity or right to

receive OF retain property on account of the prepetition interest held.”); /n

re Outlook/Century Lid., 127 B.R. 650, 654 (Bankr. N.D. Cal. 1991);

Piedmont Associates v. Cigna Property & Casualty Insurance Co., 132 BR.

75, 79 (N.D. Ga. 1991); A.V.B.L, 143 B.R. at 740-41. See also Anthony L.

Miscioscia, Jr., The Bankruptcy Code And The New Value Doctrine: An

Examination Into History, Illusions, And The Need For Competitive

Bidding, 79 Va. L. Rev. 917, 946-47 (1993); Markell, supra, at 117-21.

6 ite

19

The potential for “new value” abuse has been widely

recognized." As one district court put it, the old owner “is

controlling the sale of the property through the reorganization

plan and thereby ensuring himself a bargain basement price.”

Piedmont Associates v. Cigna Property & Casualty Insurance

Co., 132 B.R. 75, 79 (N.D. Ga. 1991).

Moreover, in Chapter 11, the leverage inherent in any

preemptive purchase option is vastly increased by the informational

advantage old equity enjoys as debtor in possession. Even the

staunchest academic supporter of a new value exception, Professor

Elizabeth Warren, notes that “[t}he DIP [debtor in possession]

planning to participate in the post-reorganization business has

substantial information advantages that permit self-dealing and

depress the market for control, notwithstanding the DIP’s

fiduciary duties.” Elizabeth Warren, A Theory of Absolute

Priority, 1991 Ann. Surv. Am. L. 9, 34 (1992)."" See also

Douglas G. Baird, The Elements of Bankruptcy 250 (1992).

© See, e.g., Leonard M. Rosen, Book, Chapter and Worse, July-

Aug. 1992 Business Law Today 47, 49 (“Creditors are unfairly treated by

a debtor's use of the so-called ‘new value’ exception.”); 3 Epstein, supra,

§ 11-2(“Only by arranging for others to investigate the value of the concern

and allowing them to bid against the shareholders on a fair basis is one

likely to determine the true going-concern value.”’).

‘7 Professor Warren explains:

The incentives pressing on a DIP who plans to become an owner

of the post-reorganization business are clear: keep the ownership

value of the business depressed, and buy it for a bargain price in

the plan of reorganization. The specter of self-dealing is a

powerful concer in any proposedmanagement buyout. Professors

Brudney and Chiristein examine this concem in the corporate

arena generally, arguing for a per se prohibition on management

participation in a buyout. In a bankruptcy reorganization,

management self-dealing can rob an estate of value, depriving it

of money to pay the outstanding debt.

Warren, supra, at 17 (footnote omitted).

20

Finally, valuation of the interest being sold, withoutexposing

itto the market or providing any opportunity to bid, is problematic,

particularly in single asset bankruptcies like this one. Typically,

and specifically in this case, even after bankruptcy discharge of

the unsecured debt (principally the mortgage lender’s deficiency

claim), the single asset debtor’s property will remain fully

encumbered. Under Code Section 1129(b)(2), the lender's

mortgage lien will survive the bankruptcy stripped down to the

value of the collateral. Therefore, upon confirmation of a plan

there will be no equity in the property.

This Court’s decision in Ahlers, however, teaches that

ownership of a fully encumbered enterprise has value, however

difficult it may be to determine. 485 U.S. at 207-09. At best, the

equity value of such reorganized debtor is “highly speculative.””*

In large part, the value of ownership of the reorganized single

asset debtor must be based on judgments by market players as to

the property’s potential for future appreciation and the extent to

which current value of the property reflects temporary market

dislocation.

5. At The Very Least, A Cramdown Sale Of Ownership

To Old Equity Cannot Be Confirmed Without Exposing

That Transaction To The Market.

If the equity owners of an insolvent debtor are permitted to

participate in ownership of the reorganized debtor, over objection

of an impaired unsecured creditor class, there must, at the very

least, be opportunity for a competitive bid or counterproposal

18 “In single asset real estate cases where the property is fully

encumbered, the capitalized earnings value presumably has been entirely

allocated to the valuation of the secured claim, as required by § 506 and the

absolute priority rule. That leaves the question of bow to value the highly

speculative equity.” See In re SM 104 Lid., 160 B.R. 202, 229 (Bankr. S.D.

Fla. 1993).

:

‘

’

|

‘

:

\

21

to set the price of the equity interest being sold. Even Professor

Warren acknowledges that market opportunities are advisable.

Warren, supra, at 23, 26-27. See also Outlook/Century, 127

B.R. at 654 n.4 (“[D]ebtor would not retain or receive property

‘on account of” its equity interest, if it purchased at a sale that was

open to other purchasers and at which the debtor had no

advantage’’); In re Bjolmes Realty Trust, 134 B.R. 1000, 1011

(Bankr. D. Mass. 1991) (“But because every unsecured creditor

is granted an identical right [to the right of old equity to bid], this

is Clearly not the receipt or retention of property ‘on account of”

a stock interest within the meaning of the statute.”). Accord In

re Ropt Ltd. Partnership, 152 B.R. 406, 412-13 (Bankr. D.

Mass. 1993).

In Bjolmes, a single asset real estate case, the court

required, as a condition to confirmation of the plan, that an

auction be held among the share!.olders and creditors interested

in purchasing a 100% ownership of the reorganized entity. The

Bjolmes court concluded that in cases involving non-publicly

traded shares, “the only way to measure the proposed contribution

against actual market value is to offer the stock for sale.” 134

B.R. at 1010. “If the fresh contribution exception were applied

through valuation by the court, the absence of market forces

would give shareholders undue leverage.” Jd. at 1011."

Amici submit that the precise contours of any market

mechanism, if the Court adopts such an approach, should be

fleshed out by lower courts with appropriate record basis.

Obviously capital structures of different debtors vary, ranging

from the typical single asset debtor’s structure (mortgage debt,

minimal trade debt and equity) to complex structures of publicly

19 The court found no need to place the property on the open

market to encourage third party buyers because the first mortgagee, the

FDIC, had “substantial resources” and “is a likely buyer.” Jd. at 1010. The

court ruled that the winner of the auction would be required to consummate the

proposed plan, subject to modifications. /d. at 1010-11.

22

traded corporations, with many different layers of debt and

equity.

It may be that no single mechanism is appropriate for all

case types. For example, the National Bankruptcy Conference

suggests an opportunity for competing plans as a solution. See

National Bankruptcy Conference, supra, at253. “[T]he concept

restores a more level paying field.” /d. at 255. Other market

solutions also have been advanced.” Amici suggest that, in the

single asset case, it may be appropriate to require a debtor

proposing anew value cramdown (if such cramdown is permitted

at all) to set forth a bidding mechanism in the debtor’s plan, so

that creditors are not burdened with the time and expense of

preparing their own plans and disclosure statements.

This is not to say that an opportunity to bid is a sufficient

check against overreaching in every new value transaction. For

example, there may be no bidders because of thinness in the

market. “In the case of the small business the market for control

is likely to be thinnest and the possibility of DIP self-dealing is

likely to be highest . . . With a thin market to compete for the

purpose of control of a failing business, the DIP may be able to

set the price alone.” Warren, supra, at 18. Accordingly, courts

must closely scrutinize the price and terms of any potential sale

of debtor property to an insider and should withhold approval

where not satisfied that the estate value is maximized. 1 Epstein,

» See, e.g., Richard L. Epling, The New Value Exception: Is

There A Practical Workable Solution?, 8 Bankr. Dev. J. 335 (1991)

(suggesting inter alia that creditors be permitted to credit bid under certain

circumstances and also suggesting that a court controlled auction may be

fairer than submission of competing plans); Miscioscia, supra, at 948-56

(favoring the Bjolmes auction approach and noting that competing plans

also give parties in interest an opportunity to bid); Markell, supra, at 121-

23 (proposing that creditors be allowed to credit-bid their debts to check

possible owner underbids); Lawrence B. Gutcho, Real Estate Lenders and

the Battle Over “New Value”, 110 Banking L.J. 423, 436-38 (1993).

23

supra, § 4-4. At the very least, however, market discipline, with

fair opportunity to bid or offer counterproposals, should be

brought to bear.

B. THE PLAIN MEANING OF THE STATUTORY

TEXT SHOULD BE HELD TO CONTROL

CONSTRUCTION OF SECTION 1129%b).

The need for a consistent and principled approach to

construction of the Code dictates a reversal of the decision

below. Under Section 1129(b)(2), the “fair and equitable”

requirement for confirming a plan by cramdown “includes” the

stricture that a dissenting unsecured creditor class be paid in full

or old equity “not receive or retain” any property “on account of”

its prepetition interest. On its face, the Bankruptcy Code

describes the absolute priority requirement of Section

1129(b)(2)(B)(ii) as a minimum requirement for cramdown plan

confirmation. The word includes, which precedes the listing of

confirmation requirements in Section 1 129(b)(2), means that the

courts Can impose more requirements, not provide exceptions

that eviscerate the minimum.”

Nevertheless, the court of appeals, relying on Dewsnup,

112 S. Ct. 773, found that the term “includes” in Section

1129(b)(2) “leaves room” for the addition of a new value

exception to the stated rule. 2 F.3d at 912.

In Dewsnup, the Court stressed the primacy of pre-Code

practice in construing the Code, noting that “[w]hen Congress

amends the bankruptcy laws, it does not write on a clean slate.”

Dewsnup, 112 S. Ct. at 779 (citation omitted) (internal quotations

21 «See A.V.B.1., 143 B.R. at 743 (rejecting existence of new value

exception); Outlook/Century, 127 B.R. at 656 (rejecting existence of new

value exception).

24

omitted). Dewsnup advises lower courts to incorporate pre-

Code bankruptcy concepts unless “convinced that Congress

intended to depart from the pre-Code rule.” /d. at 778. The

decision below relied heavily on Dewsnup to import a new value

exception into Chapter 11. 2 F.3d at 912-13.”

The court of appeals’ application of Dewsnup stands in

stark contrast to United States v. Ron Pair Enterprises, Inc.,489

U.S. 235 (1989), where the Court directed that “the plain

-meaning of legislation should be conclusive, except in the rare

cases [in which] the literal application of a statute will produce

a result demonstrably at odds with the intentions of its drafters.”

Id. at 242 (internal quotation marks and citation omitted).”

2 Other lower courts similarly have done so. See, ¢.g., In re

Snyder, 967 F.2d 1126, 1129 (7th Cir. 1992) (dictum); Jn re One Times

Square Assocs. Lid. Partnership, 159 B.R. 695, 707 (Bankr. S.D.N.Y.

1993); Inre S.A.B.T.C. Townhouse Ass'n, Inc., 152 B.R. 1005, 1009 (Bankr.

M.D. Fla. 1993).

3 In urging the Court in Ahlers to rule that there is no new value

exception the Solicitor General emphasized:

Nothing in the legislative history suggests a

congressional intention to maintain the exception

discussed in Los Angeles Lumber. The House report,

in describing proposed Section 1129(b), states: “The

general principle of the subsection permits confirmation

notwithstanding non-acceptance by an umpaired class

if that class and all below it in priority are treated

according to the absolute priority rule. The dissenting

class must be paid in full before any junior class may

share under the plan.” H.R. Rep. 95-595, supra, at

413. Noexceptions to this rule seemto be contemplated

Brief for the United States as Amicus Curiae Supporting Petitioners,

Norwest Bank Worthington v. Ahlers, 485 U.S. 197 (1988) (No. 86-958)

(hereinafter “Solicitor General's Brief in AAlers’’) at 21 (emphasis added)

(foomotes omitted).

25

In general, the Court has embraced Ron Pair’s “plain

meaning” approach to the statutory Code text. See Walter A.

Effross, Grammarians At The Gate: The Rhenquist Court's

Evolving “Plain Meaning” Approach to Bankruptcy

Jurisprudence, 23 Seton Hall L. Rev. 1636 (1993) (analyzing

numerous cases); Robert K. Rasmussen, A Study Of The Costs

And Benefits Of Textualism: The Supreme Court's Bankruptcy

Cases, 71 Wash. U.L.Q. 535 (1993). Ron Pair upholds “natural

interpretation of the statutory language [that] does not conflict

with any significant state or other federal interest, nor with any

other aspect of the Code.” 489 U.S. at 245.

The court of appeals and other lower courts have not

adequately focused on the danger of holding that old case law,

arising under a different statutory scheme, should control

interpretation of the Bankruptcy Code. Moreover, none of the

Cases Cited in the court of appeals’ decision, including Dewsnup —

a Chapter 7 case — analyzes, or even adverts to, the advisability

of incorporating single elements of pre-Code reorganization law

into the complex matrix of checks and balances that constitutes

Chapter 11.

Chapter 11 was enacted in 1978 as a comprehensive

overhaul of federal reorganization law. The three reorganization

chapters of the old Bankruptcy Act of 1898, Chapter X (large

business reorganizations), Chapter XI (small business

reorganizations), and Chapter XII (real estate reorganizations),

were combined into a single, new Chapter 11. 5 Collier on

Bankruptcy (Lawrence P. King ed., 15th ed. 1993) (hereinafter

“Collier on Bankruptcy”) 41100.01{2]. Overall, dramatic

changes were made in business reorganization Cases.

Significant differences existed among each of the

reorganization chapters of the old Act, as well as between

reorganization practice generally under the old Act and current

Chapter 11 practice. For example, in old Chapter X the debtor

26

had no exclusive right to propose a plan.* Instead, all persons

other than the debtor could submit proposals for a plan to the

trustee, and the debtor could not file a plan until the trustee's time

to file had expired. 5 Collier on Bankruptcy 1100.01{1)}. In

contrast, under new Chapter 11, the debtor has an exclusive

period to file a plan and to obtain its acceptance. See 11 U.S.C.

§ 1121(b), (c).

Under Chapter Xa trustee, with power to operate the

business and investigate all pertinent matters, was generally

required, while in Chapter XI, the debtor generally was permitted

to remain in possession of its property and to conduct its

business. 5 Collier on Bankruptcy { 1100.01[1); see A.V.B./.,

143 B.R. at 743. Under new Chapter 11, the debtor ordinarily

is allowed to remain in possession. 11 U.S.C. §§ 1107, 1108.*

In short, there was no singular pre-Code reorganization

practice. Moreover, the new value exception arose in response

to aproblem under the old Act that does not arise under the Code.

The Court’s dicta in Los Angeles Lumber, 308 U.S. 106, out of

which the discussion of new value arises, related to a “holdout”

problem unique to the old Bankruptcy Act. Under the Act, a plan

could be confirmed only if it was “fair and equitable” to each

dissenting creditor. See Bankruptcy Act of 1898, Ch. X, § 221

(formerly codified as amended at 11 U.S.C. § 621 [1978]),

repealed by Bankruptcy Code; Solicitor General’s Brief in

Ahlers at 14n.13 (discussing old Chapter X and its predecessor,

Section 77B). Not only was class acceptance required, but the

%* —_ Under old Chapter XI the debtor had the exclusive right to file

a plan for the duration of the case. 5 Collier on Bankruptcy { 1100.01(1).

> Chapter X had an absolute priority (fair and equitable) rule.

However, absolute priority was deleted from Chapters X1 and XII of the Act

in 1952. Markell, supra, at 91-92; Stephen W. Sather & Adrian M.

Overstreet, The Single- Asset Real Estate Debtor: A Selective Overview, 2

J. Bankr. L. Prac. 343-47 (1993).

27

plan had to observe absolute priority as to minority dissenting

creditors of the same class. /d.

The present Code is different. The Bankruptcy Code

permits a creditor class, by a class vote that overrides the

objections of minority members, to assent to a plan that is not

“fair and equitable,” i.e., does not observe absolute priority. 11

U.S.C. § 1129(a)(8)(A). “Holdouts that spoiled reorganizations

and created much of the motive for having judges ‘sell’ stock to

the manager-shareholders no longer are of much concern, now

that § 1126(c) allows the majority of each class (two-thirds by

venus) give consent.” Kham & Nate's Shoes, 908 F.2d at

1361.

“New value” cramdowns were not established pre-Code

practice.” The new value concept arose from dicta, not holding,

in Los Angeles Lumber. Despite that dicta, the Court has never

adopted the new value exception in a case holding. As

acknowledged in the decision below, prior to passage of the 1978

Code, the last time the new value exception was even adverted

to by this Court was in 1946. 2 F.3d at 912. Commentators note

that no reported decision adopted the Los Angeles Lumber dicta

as holding prior to the Code’s adoption in 1978. Markell, supra,

% Indeed, as noted by the Solicitor General in Ahlers, asubstantial

majority of bondholders had voted to accept the plan in Los Angeles Lumber

and such bondholder consent would have been sufficient under the new Code

consensually to confirm the plan under § 1129(a)(8)(A). Solicitor General’ s

Brief in Ahlers at 14 0.13, 18 0.16.

7 Epstein, Nickles and White observed in 1992:

This wall, the absolute priority rule, has protected

reorganization creditors quite effectively against debtor

onslaught for nearly 80 years. However, in the past

decade debtors have successfully breached the wall in

a handful of cases under the banner of “new value.”

3 Epstein, supra, § 11-25.

28

at 92; John T. Bailey, The “New Value Exception” in Single-

Asset Reorganizations: A Commentary on the Bjolmes Auction

Procedure and Its Relationship to Chapter 11,98 Com. L.J. 50,

54 (1993).

Holding pre-Code practice to be an overriding canon,

warranting the incorporation of isolated pieces of pre-Code

practice and dicta into the Bankruptcy Code, ultimately will

result in havoc being played on the Chapter 11 statutory matrix.

To the extent that Dewsnup is perceived to be a command to

follow such a canon, it should be limited by this Court.

29

CONCLUSION

For the reasons stated above, the decision of the court of

appeals should be reversed and the case remanded to the

bankruptcy court for further proceedings consistent with this

Court's ising.

Respectfully submitted,

ROBERT B. MILLNER

(Counsel of Record)

LORIE A. CHAITEN

Sonnenschein Nath & Rosenthal

233 S. Wacker Drive

Suite 8000

Chicago, Illinois 60606-6404

(312) 876-8000

Attorneys for Amici Curiae

American Council of Life

Insurance and Mortgage

Bankers Association of America

Of Counsel:

RICHARD E. BARNSBACK

PHILLIP E. STANO

DAVID M. LEIFER

American Council of Life Insurance

1001 Pennsylvania Avenue, N.W.

Washington, D.C. 20004-2599

(202) 624-2183

WILLIAM E. CUMBERLAND

Mortgage Bankers Association of America

1125 Fifteenth Street, N.W.

Washington, D.C. 20005-2766

(202) 861-6516 ©

February 24, 1994

SONNENSCHEIN NATH & ROSENTHAL

8000 SEARS TOWER

(312) 876-8000

5 ANG CHICAGO ILLINOIS 60606-6404

LOS NGELES TELex 25-3526

NEW YORK FACSIMILE

SAN FRANCISCO (312) 676.7934

ST LOUIS

WASHINGTON DC Lorie A. Chaiten

(312) 676-8936

February 14, 1994

VIA FEDERAL EXPRESS

Ford Elsaesser, Esq.

Elsaesser, Jarzabek, Buchanan

& Dressel

Lake Plaza Building

3rd and Lake Streets

Sandpoint, ID 83864

Re: U.S. Bancorp Mortgage Company v. Bonner Mall

Partnership

Dear Mr. Elsaesser:

Pursuant to Supreme Court Rule 37, I am writing to request

your consent to the filing of a brief by The American Council Of

Life Insurance as amicus curiae in support of the Petitioner’s

position in the Supreme Court in the above-captioned matter.

Please indicate your consent by signing on the line provided

below. After you have done so, please return this document to

me.

Very truly yours,

SONNENSCHEIN NATH & ROSENTHAL

Lorie A. Chaiten

CONSENT CUS BRIEF:

Counsel for the Debtor

RECEIVED

FEB 15 09

CONNENOCHEIN NATH & ROSENTHAL STOEL RIVES BOLEY

8000 SEARS TOWER

LOS ANGELES CHICAGO ILLINOIS 60606-6404 ate A ol

TEL

aK

NEW YO! J - ~

SAN FRANCISCO oahial u

Ss? LOUIS

WASHINGTON OC

Robert B. Miliner

(312) 876-7994

February 14, 1994

BY FEDERAL EXPRESS

Bradford Anderson, Esq.

Stoel Rives Boley Jones & Grey

3600 One Union Square

600 University St.

Seattle, WA 98101-3197

Re: U.S. Bancorp Mortgage Company v. Bonner

Mall Partnership

Dear Mr. Anderson:

Please confirm, by signing below, that Petitioner U.S.

Bancorp Mortgage Company consents to the filing of an amicus

curjae brief on the merits by the American Council of Life

Insurance in the above-referenced case. Your consent should be

returned to my attention.

Very truly yours,.-

het Rk fp-Manr

Robert B. Millner

Counsel for American Council

of Life Insurance

RBM: jp

CONSENT TO FILING OF AMICUS BRIEF:

Counsel of Record For Petitioner

U.S. Bancorp Mortgage Company

pulses

@2-18 19% 16:22 FROM SONNENSCHEIN 1 TO 91 2082639759 FP. a2

SONNENSCHEIN NATH & ROSENTHAL

0000 SEARS TOWER

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BAN PRANCIECO gw evesees

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WASMINTTON OC

Robert B. Miliner

fam 67e-r9e

26E

February 18, 1994

Post-it” Fax Note

Pursuant to Supreme Court Rule 37, I am

your consent to the filing of a brief by the Nortgage Bankers

Associetion of America as gurias in support of

Petitioner’s position in Supreme Court in the above-captioned

matter. Please indicate your consent by ©

provided below. After you have done so, please return this

document to me by mail and facsisile.

Very truly yours,

lage 10. £ bro

B.

TOT ©.02

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— Robert 8. Miliner

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Geattle, Washington 98101-3197

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