Two affiliated chapter 11 debtors sought court approval of a sale of all of their assets out of the ordinary course of business free and clear of claims. The bankruptcy court questioned various aspects of the proposed transaction and declined to approve the sale.
The proposed sale included a purchase price of $700,000 and assumption and assignment of vehicle and equipment leases. As a condition of the sale, the buyer agreed to enter into an employment and incentive agreement with the debtors’ president.
Under applicable precedent, the bankruptcy court was authorized to approve a sale outside of the ordinary course of business pursuant to Section 363(b)(1) of the Bankruptcy Code “only when ‘a sound business purpose dictates such action.’” The debtors argued that their proposed purchaser was probably the only entity interested in buying a lumber operation in northern Michigan. In addition, they had no hope of reorganizing and a sale of substantially all of their assets as a going concern was the best way to maximize value.
However, the debtors had made no effort to market their assets to anyone else. And while the court acknowledged that sale of the businesses as a going concern was preferable to a liquidation, it pointed out that the debtors’ argument presumed that a going concern sale could be held only in a chapter 11.
The court had already lifted the automatic stay, and a state court receiver had been appointed. In the court’s view, the whole point of a state court receiver was to preserve going concern value, and even in bankruptcy a chapter 7 trustee could be authorized to operate a business for a limited period of time if operation was in the best interest of the estate and consistent with orderly liquidation.
The court noted the self-interest of the debtors’ president and suggested that the court and other parties would have more confidence in a sale by an independent party than by a self-interested insider in connection with a sale that was hastily finalized after the order lifting the stay was entered.
As an additional consideration, the court noted that the debtors were not substantively consolidated, so allocation of the purchase price between their assets had a substantive impact on their respective creditors. However, there was no appraisal of assets and the only basis of the proposed allocation was an agreement of the parties.
Similarly, although the debtors suggested that they had inventory on consignment, the testimony described inventory being delivered to the debtors for processing, which suggested a mere bailment instead. Under the circumstances, the court did not see how it could authorize sale of the supposed inventory or allocation of the proceeds to what appeared to be bailed goods.
Consequently, the court declined to approve the proposed sale.
There is often an expectation that a bankruptcy court will rubber stamp a proposed negotiated sale, perhaps subject to exposing the proposed sale to a public auction in order to test the price. As this case illustrates, the debtor needs to make an appropriate case to support a request for approval, and if not, a court may not be willing to go along with the debtor’s wishes.
Vicki R. Harding, Esq.