A debtor corporation was adversely impacted by the COVID-19 pandemic and filed for Chapter 11 bankruptcy. However, as the economy recovered from the pandemic, the debtor also recovered. The corporation had a confirmed reorganization plan that sold the company to a group of private equity funds. In addition, the plan promised not to alter certain of its creditors’ rights. However, the plan did not pay some creditors (the noteholders) the contractual interest rate on their notes; instead, interest was to be paid at the lower applicable federal judgment rate. The plan also did not include payment of “Applicable Premiums” to the noteholders, as compensation for lost profits. The lower interest rate and avoidance of Applicable Premiums saved the debtor hundreds of millions of dollars. Those excess funds then were to go to the debtor's stockholders. The noteholders filed a complaint seeking interest at the contractual rate, the Applicable Premiums, and flat fees for early redemptions of notes made in 2024. The bankruptcy court dismissed the noteholders’ claim regarding the contractual interest rate, concluding the noteholders were, as unimpaired creditors of a solvent debtor, entitled to interest at the legal rate, which was the federal judgment rate. §§ 1129(a)(7)(A)(ii), 726 (a)(5). It further dismissed the creditor’s flat redemption fee and its Applicable Premiums claims, reasoning that the “‘economic substance’ of the Applicable Premiums was “interest” and for that reason disallowed the claims. The noteholders subsequently appealed, arguing that (1) the noteholders were entitled to a “fixed redemption fee;” (2) the Bankruptcy Code permits claims for the Applicable Premiums; (3) the noteholders were entitled to interest at the contract rate because the corporation was solvent.
In Wells Fargo Bank, N.A. v. Hertz Corp. (In re Hertz Corp.), 117 F.4th 109 (3d Cir. 2024), the Court of Appeals for the Third Circuit affirmed the Bankruptcy Court’s ruling that the noteholders were not entitled to redemption fees and that the Applicable Premiums must be disallowed; however, the court found that the bankruptcy court erred in not requiring the corporation to pay post-petition interest at the contract rate. First, the court held that the noteholders were not entitled to redemption fees because the term used in the note was “Stated Maturity,” which signified when the principal was due, and not “maturity arising on acceleration,” which occurs whenever a debt obligation becomes due. Thus, the corporation had not agreed to pay the noteholders a redemption fee under the circumstance of a prepayment in a bankruptcy case. Second, the court addressed whether the Applicable Premiums must be disallowed under § 502(b)(2) of the Bankruptcy Code because that provision disallows “unmatured interest.” The court analyzed two approaches in answering that question. The first was a dictionary approach, and the analysis was whether a “make-whole fee best fits within the dictionary and caselaw definitions of interest.” The noteholders argued that the Applicable Premiums were not interest under this approach because the Applicable Premiums did not “slowly and steadily” accrue over the life of the notes. The second approach, the “economic equivalent” approach, like its name, looks to see whether “the make-whole premium at issue is the economic equivalent of interest.” The court held that the Applicable Premiums were the equivalent of interest under that approach because they were compensation the debtor committed to pay to borrow the notes. Further, the court found the Applicable Premiums were also interest under the economic equivalent approach because they were “mathematically equivalent to the unmatured interest the noteholders would have received” had the corporation redeemed the notes on their redemption dates. Therefore, the court affirmed the Bankruptcy Court’s decision on this issue. Finally, the court held that the corporation must pay the post-petition interest at the contractual rate as described in the notes. The court followed the absolute priority rule, which requires “‘creditors’ obligations to be paid in full before owners with junior rights” can take anything at all when the debtor is solvent. Therefore, the appropriate interest rate was the contractual one agreed upon by the parties.
By Jace Brown: [email protected]
Edited By Maycee Redfearn: [email protected]
Edited By Ashley Boyce: [email protected]
Edited By Hayden Mariott: [email protected]