The corporation and several of its affiliates (collectively, the “debtors”) filed for Chapter 7 bankruptcy. The creditor was a pre-petition lender and equity interest holder in the debtors. The corporation issued $60 million in notes, and each debtor was an obligor of the notes and granted a first-priority security interest in all its assets to secure the notes. An insurance policy also was issued as collateral for the debtors’ note obligations in favor of the bank. The bank served as the disbursing agent for the notes, and a servicer was appointed to hold the bank’s security interest in the notes. In 2023, the debtors defaulted on its note obligations, and the bank provided notice of the default. The debtors obtained several loans to provide emergency liquidity, including two loans from the creditor. After the debtors filed for bankruptcy, the court ultimately approved the sale of all the debtors’ assets for approximately $7.1 million. A creditor objected to the sale, asserting that the debtor’s outstanding obligations under the loan were secured by a security interest in the debtor’s assets that was superior to the bank’s security interest. A major issue arose from an email exchange (the “alleged subordination agreement”) between the creditor and an officer of the servicer that the creditor argued constituted an enforceable subordination agreement. However, no formal subordination agreement had been entered into. The debtor, however, had executed a promissory note, granting the creditor a first-priority security interest in all its property, which referenced the alleged subordination agreement. The creditor sued the bank to determine the priority of the security interests, arguing that the court should issue a declaratory judgment that (1) the alleged subordination agreement was valid and gave the creditor priority in the collateral; (2) the alleged subordination agreement was enforceable under 11 U.S.C. § 510(a); (3) the note was subject to equitable subordination under 11 U.S.C. § 510(c). [Bankruptcy Code section 510(a) enforces subordination agreements; Bankruptcy Code section 510(c) provides for equitable subordination in appropriate circumstances). The bank denied all allegations and asserted two crossclaims: one seeking to have the loan recharacterized as equity, and the other seeking equitable subordination of the loan.
In Cooks CA LLC v. UMB Bank, N.A. (In re Cooks Venture, Inc.) No. 24-10828 (KBO), 2025 WL 1013721, 2025 Bankr. LEXIS 844 (Bankr. Del. April 4, 2025) (opinion not yet released for publication), the bankruptcy court granted the bank’s summary judgment motion. The creditor asserted that the bank had both actual and constructive knowledge of the subordination agreement through its agent (the servicer) but had refused to honor the subordination. The creditor argued that it had relied on the alleged subordination agreement when it had extended the loans to the debtors. The court stated, however, that the creditors had the burden of proving that the alleged subordination agreement was enforceable against the bank. The court found that there was no evidence that the servicer possessed either actual or apparent authority to bind the bank to a subordination agreement, despite an officer of the servicer having agreed to subordinate. The creditor argued that language in a Proceeds Disbursing and Security Agreement (PDSA) gave the servicer that authority; however, the court disagreed because: (1) the bank’s first priority security interest did not cover the loan’s security interest, (2) the PDSA prohibited creation of a loan with a priority payment obligation, (3) section 9.1 of the PDSA does not include the power of agent to subordinate the note obligations; and (4) the PDSA required consent of the noteholders before granting a priority security interest to the bank, which was not present. In conclusion, the bank had no notice, and the servicer had no authority to subordinate the notes. Therefore, the court granted the bank’s summary judgment motion.
By Olivia Lewis [email protected]
Edited By Jace Brown [email protected]
Edited By Hayden Mariott [email protected]