On October 17, 2022, the New York Supreme Court took the most recent step toward becoming a battleground for challenges to uptier exchange transactions and “creditor on creditor violence” when it decided the Boardriders case (ICG Global Loan Fund 1 DAC v. Boardriders, Inc., No. 655175/2020 (N.Y. Sup. Ct. filed Oct. 9, 2020)). An uptier exchange transaction is a transaction in which a distressed borrower persuades a majority of lenders to amend the company’s existing secured debt documents to allow the issuance of new “super-senior” or “superpriority” debt that is secured by a superior lien on the borrower’s existing collateral. Uptier exchanges can be attractive to a distressed business, as they can provide access to much-needed new capital on favorable terms and can help that entity to avoid chapter 11.  

Participating lenders are offered the chance to sell their existing loan back to the borrower at an advantage, if they consent to amending the existing loan to permit issuance of new super-priority debt. Participating lenders emerge well-positioned for any future restructuring efforts, with enhanced priority and even premiums on exchanged loans. On the other hand, nonparticipating lenders—who formerly held priority secured claims against the borrowers’ assets—can end up with deeply subordinated collateral positions.

In a recent string of cases, nonparticipating lenders excluded from the uptier exchanges are turning to litigation to protect their collateral positions. Minority lenders assert that the borrower and participating lenders violate the “sacred rights” granted to debt holders requiring unanimous consent to amend key sections of the debt documents when constructing and implementing uptier exchanges. Several recent court decisions have adopted a pro-minority stance by allowing nonparticipating minority lenders to challenge uptier exchanges in loan/bond documentation against not just the borrower, but also participating lenders. 

In Boardriders, the New York Supreme Court allowed lenders with a minority loan position to proceed with claims that the company’s recapitalization, among other things, deprived non-participating lenders of their pro rata payment rights, and was not a true “open market” purchase. The Court held that the claims alleging that the defendants had breached the plaintiffs’ “sacred rights” could move forward, noting that the cumulative effect of the involved agreements was to violate the pro rata sharing provision. The Court reasoned that “[w]hile there is nothing in the sacred rights provision that expressly prohibits the subordination of any lenders’ liens … [a]ccepting the Company’s argument would essentially vitiate the equal repayment provisions.” The Court also held that plaintiffs’ claims for breach of implied duty of good faith and fair dealing could proceed, as the plaintiffs allegations of the “backroom” nature of the negotiations and transactions sufficiently pled that defendants carried out the negotiations in secret and ignored requests from non-participating lenders for information and for the chance to participate.

Boardriders is just one of several cases on uptier exchanges currently pending in New York. Earlier this year, the New York Supreme Court allowed minority lenders’ breach of contract claims against participating lenders to proceed to discovery in the TriMark uptier exchange litigation [1], and the U.S. District Court for the Southern District of New York denied defendant Serta Simmons’ motion to dismiss an action brought by minority lenders challenging the company’s non-pro-rata uptier exchange.[2]  And most recently, the New York Supreme Court in Incora allowed the nonparticipating holders to proceed with a suit against not only the borrower and participating lenders, but also the indenture trustee for its role in the uptier exchange.[3] 

In light of the recent court decisions and new litigation regarding uptier exchanges, there is a renewed focus on creditor on creditor violence that appears likely to continue as ever sophisticated debt restructurings occur.

[1] Audax Credit Opportunities Offshore Ltd. v. TMK Hawk Parent, Corp., No. 565123/2020 (JMC), 150 N.Y.S.3d 894 (N.Y. Sup. Ct. 2021)

[2] North Star Debt Holdings, L.P. v. Serta Simmons Bedding, LLC, No. 652243/2020 (N.Y. Sup. Ct. June 19, 2020); LCM XXII LTD. v. Serta Simmons Bedding, LLC, No. 20-cv-5090 (S.D.N.Y. July 2, 2020).  

[3] SDD Investments Ltd. v. Wilmington Savings Fund Society, FSB, et al., No. 654068/2022 (N.Y. Sup. Ct. Oct. 31, 2022).