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The Bankruptcy Proceedings

On Aug. 17, 2008, the Debtors filed petitions for Chapter 11 relief. Shortly thereafter, the Debtors sought bankruptcy court approval of bidding procedures pursuant to which they planned to sell the properties to the highest bidder at auction under ' 363 of the Bankruptcy Code. The Official Committee of Unsecured Creditors, which represented the interests of the co-owners in the bankruptcy proceedings, objected to the proposed sale of the properties, as the co-owners had not consented to the sale or transfer of their portion of the properties as required by the terms of the Tenancy Agreement.

The Debtors then commenced adversary proceedings against the co-owners seeking bankruptcy court authorization to sell the properties in their entirety (including the interest of the co-owners) pursuant to
' 363(h) of the Bankruptcy Code. Section 363(h) of the Bankruptcy Code states, in relevant part:

the trustee may sell both the estate's interest, under subsection (b) or (c) of this section, and the interest of any co-owner in property in which the debtor had, at the time of the commencement of the case, an undivided interest as a tenant in common, joint tenant, or tenant by the entirety, only if '

(1) partition in kind of such property among the estate and such co-owners is impracticable;

(2) sale of the estate's undivided interest in such property would realize significantly less for the estate than the sale of such property free of the interests of such co-owners;

(3) the benefit to the estate of a sale of such property free of the interests of co-owners outweighs the detriment, if any, to such co-owners; and

(4) such property is not used in the production, transmission, or distribution, for sale, of electric energy or of natural or synthetic gas for heat, light, or power.

On Nov. 20, 2008, the bankruptcy court issued its order approving the sale of the properties, which included specific findings of fact that the Debtors had satisfied the requirements of ' 363(h) of the Bankruptcy Code. The Committee filed its notice of appeal the same day, as well as an expedited motion seeking a stay pending appeal to prevent closing of the sale until after the appeal could be heard. The Debtors opposed the imposition of any stay, contending that the failure to close promptly would jeopardize the sale, and asking that, if the court were to impose a stay, it also require the Committee to post a $15 million bond to account for any resulting damages.

On Nov. 24, 2008, the bankruptcy court entered final orders in the adversary proceedings authorizing the sale of the co-owners' interests pursuant to ' 363(h) of the Bankruptcy Code. The Committee appealed all of those rulings on Nov. 25, 2008. On that same day, the bankruptcy court denied the Committee's motion for a stay, concluding that the co-owners did not face any irreparable harm, that the potential harm to the Debtors was greater than that to the co-owners, and that the Committee had not demonstrated that it was likely to succeed on the merits.

The bankruptcy court's conclusion regarding a lack of irreparable harm seems puzzling. While the court based its ruling on the fact that the co-owners would be harmed absent a stay in the same manner that the Debtors would be harmed if a stay were granted (financially), this ruling does not take into account the fact that the co-owners, by contract, had the right to veto the sale of the properties and the sale prevented them from electing the price and time at which they would be willing to sell. Therefore, it is not clear how subsection (3) of ' 363(h) of the Bankruptcy Code ' which requires that the benefit to the estate must outweigh the detriment to the co-owners ' was satisfied. Nevertheless, the issue was never addressed on appeal.

The Committee then sought a stay pending appeal from the Bankruptcy Appellate Panel, although it did not do so until eight days after the bankruptcy court's order denying a stay. The Debtors filed their opposition to the Committee's motion for a stay on the same day, but closed the sale later that day, before the Appellate Panel had considered the stay motion. Opining that the Committee's eight-day delay in seeking a stay from the B.A.P. was unreasonably long, the B.A.P. denied the stay motion.

On Dec. 4, 2008, the Debtors filed a motion to dismiss the Committee's appeal as moot pursuant to ' 363(m) of the Bankruptcy Code.

Bankruptcy Code ' 363(m)

Section 363(m) of the Bankruptcy Code provides:

The reversal or modification on appeal of an authorization under subsection (b) or (c) of this section of a sale or lease of property does not affect the validity of a sale or lease under such authorization to an entity that purchased or leased such property in good faith, whether or not such entity knew of the pendency of the appeal, unless such authorization and such sale or lease were stayed pending appeal.

Section 363(m) offers assurance to potential purchasers of an estate's assets that the sale will be final, eliminating any doubt that the successful bidder will have to defend subsequent attacks on its title to the assets. By prohibiting the unwinding of bankruptcy sales, ' 363 renders moot any appeal of the order authorizing the sale once the sale has been consummated and has closed, which is exactly what the Debtors argued in this case. Numerous courts have applied ' 363(m) to appeals of bankruptcy sales, holding the appeals moot after the closing of the sale. See, e.g., Parker v. Motors Liquidation Co. (In re Motors Liquidation Co.), 430 B.R. 65 (S.D.N.Y. 2010); Contrarian Funds LLC, v. Aretex LLC (In re WestPoint Stevens, Inc.), 600 F.3d 231 (2d Cir. 2010).

The Appeal to the B.A.P.

In its appeal of the sale to the B.A.P., the Committee recognized that ' 363(m) normally proscribes the appeal of completed 363 sales, but distinguished this case because non-debtor third parties partially owned the assets at issue. Most 363 sales are conducted under subsections 363(b) and (c), which provide for the sale of assets either outside of or in the course of ordinary business, as the case may be. As discussed above, however, the sale of property owned partially by an estate also requires a showing of facts and bankruptcy court approval pursuant to ' 363(h). The Committee argued that the bankruptcy court authorized the sale pursuant to ' 363(h) of the Bankruptcy Code. See Nashville, 620 F.3d at 594. They further argued that ' 363(m), by its terms, only prohibits the reversal of sales authorized under ” 363(b) and (c) and thus did not apply to the sale at issue (or at least implicitly, the portion of the sale pertaining to the interests of the co-owners).

The B.A.P. rejected the Committee's argument, holding that “although ' 363(m) does not explicitly refer to a sale authorized under [' 363](h), [' 363(m)] nevertheless applies because the authority for such a sale is derived from [' 363](b).” Id. 620 F.3d at 590 (quoting Nashville, 407 B.R. 222, 231 (B.A.P. 6th Cir. 2009)).

The B.A.P. continued: “[a]pplying ' 363(m) to a sale which was authorized under ' 363(b) and further authorized under ' 363(h) ' promot[es] the strong preference for safeguarding the finality of bankruptcy sales.” Id. at 591. Based on the above, the B.A.P. reasoned that ' 363(m) did apply to the case at hand. Thus, the B.A.P. held that it could not unwind the sale on appeal. Id.

Appeal to the Sixth Circuit

The Committee subsequently appealed the matter to the Sixth Circuit, where it fared no better. The Sixth Circuit upheld the decision of the B.A.P., emphasizing general policies underlying the Bankruptcy Code as well as “the particular need to encourage participation in bankruptcy asset sales and increase the value of the property of the estate by protecting good faith purchases from modification ' .” Id. (quoting Weingarten Nostat, Inc. v. Serv. Merch. Co., 396 F.3d 737, 741 (6th Cir. 2005)).

The Sixth Circuit addressed the Committee's textual argument, holding that the fact that ' 363(m) of the Bankruptcy Code only references ” 363(b) and (c), and does not expressly reference 363(h), is irrelevant because in all asset sales, the debtor sells its assets pursuant to ” 363(b) or (c). The Sixth Circuit viewed ' 363(h)'s requirements as additional requirements a debtor must meet to receive approval of a sale under ' 363(b) or (c) when the relevant estate property is co-owned by a non-debtor. “Thus, subsection (h)'s safeguards, if satisfied, do not affect the ultimate source of the trustee's authority to sell the property ' [namely] subsection (b) or (c).” Nashville, 620 F.3d at 592.

The Sixth Circuit concluded that “[b]ecause the bankruptcy court below found that subsection (h) was satisfied and authorized the sale of the properties pursuant to subsection (b), and because the sale of the properties to ' a purchaser whose good faith is not in dispute [] had closed before the Committee could obtain a stay, the Committee cannot challenge the bankruptcy court's findings under subsection (h) on appeal.” Id. at 593. The Court acknowledged that the Bankruptcy Code imposes “more rigorous procedures” on sales of property co-owned by non-debtors, including granting a right of first refusal to the non-debtor co-owners pursuant to ' 363(i). However, “it does not follow ' that a co-owner is also entitled to pursue an appeal after an unstayed sale has closed.” Id. at 595.

Implications of the Decision

This ruling builds on a long line of cases preserving the finality of asset sales under ' 363 of the Bankruptcy Code. For instance, in General Motors (Parker v. Motors Liquidation Co. (In re Motors Liquidation Co.), 430 B.R. 65 (S.D.N.Y. 2010)), the United States District Court for the Southern District of New York stated that “an order authorizing a Section 363 sale may not be appealed ' except as to the purchaser's good faith ' unless the authorization and the sale itself were stayed ' .” Id. at 77. Additionally, in Contrarian Funds LLC v. Aretex LLC (In re WestPoint Stevens, Inc.), 600 F.3d 231 (2d Cir. 2010), the Second Circuit went even further in refusing to hear an appeal of an authorized, unstayed sale order, holding that it may neither reverse nor modify the order authorizing such a sale. Id. at 248. Thus, parties looking to overturn the completion of the sale must either stay the sale closing or have their appeal heard prior to closing.

Although the Nashville opinion makes no mention of the Ninth Circuit Bankruptcy Appellate Panel's recent and controversial decision in Clear Channel Outdoor, Inc. v. Knupfer (In re PW, LLC), 391 B.R. 25 (B.A.P. 9th Cir. 2008), the Nashville ruling takes a seemingly contrary approach to a similar issue.

In Clear Channel, a junior lien creditor challenged a sale of property free and clear of junior liens pursuant to
' 363(f) of the Bankruptcy Code. Under ' 363)(f), a debtor may sell its assets free and clear of any interests of third parties if the debtor meets certain requirements. The Clear Channel court held that the sale of the property under ' 363(b) could not be challenged on appeal, but that the lien-stripping effect of ' 363(f) was subject to appeal precisely because ' 363(m) only moots appeals of sales under
” 363(b) or (c) of the Bankruptcy Code, but that “[t]he terms of those sales, including the 'free and clear' term ' are not protected.” Clear Channel, 391 B.R. at 35-36.

By contrast, as detailed above, the Sixth Circuit opted not to distinguish between the portion of the sale authorized under ' 363(b) (sale of the Debtors' property) and the portion authorized pursuant to ' 363(h) (sale of the co-owners' interests). The Sixth Circuit's ruling is logical in that the sale at issue in Nashville clearly constituted a sale outside the debtors' ordinary course of business, which is authorized under ' 363(b) of the Bankruptcy Code. And, assuming the sale at issue did in fact meet the standards of ' 363(h) ' a fact-dependent question typically addressed at the trial level ' there would be no way to overturn the portion of the sale affecting the third party without unwinding the entire sale. This would cause uncertainty as to the finality of sales ' the very uncertainty ' 363(m) serves to prevent.

Douglas Mintz is a Special Counsel in the Washington, DC, office of Cadwalader, Wickersham & Taft LLP. He specializes in Financial Restructuring and has worked on asset sales under ' 363 including in General Motors, Chrysler and Extended Stay Hotels. Stephen Johnson is a Financial Restructuring Associate in Cadwalader's New York Office.

A recent decision by the United States Court of Appeals for the Sixth Circuit, Official Comm of Unsecured Creditors v. Anderson Senior Living Prop, LLC (In re Nashville Senior Living, LLC), 620 F.3d 584 (6th Cir. 2010), tackled the scope of the protection offered by ' 363(m) of the Bankruptcy Code. Section 363(m) mandates that a court cannot unwind on appeal a sale of estate property to a good-faith purchaser authorized pursuant to ' 363(b) or (c) of the Bankruptcy Code. In Nashville, the Sixth Circuit held that ' 363(m) insulates from attack sales of property co-owned by non-debtors. The Sixth Circuit's opinion may rebuke implicitly a controversial holding of the Ninth Circuit Bankruptcy Appellate Panel in 2008, holding that the lien-stripping effect of a sale pursuant to ' 363(f) of the Bankruptcy Code could be unwound on appeal.

Background

In 2006, the Debtors, a group of property-owning entities, acquired interests in seven properties located in North and South Carolina that operate assisted living facilities for seniors. As part of this transaction, approximately 30 co-owners obtained interests in the properties as tenants in common. The Debtors held a 60% stake in the properties, and entered into an agreement governing the tenancy in common with the co-owners, which agreement required unanimous approval of any sale or transfer of the properties, and granted the co-owners the right to partition the properties.

The Bankruptcy Proceedings

On Aug. 17, 2008, the Debtors filed petitions for Chapter 11 relief. Shortly thereafter, the Debtors sought bankruptcy court approval of bidding procedures pursuant to which they planned to sell the properties to the highest bidder at auction under ' 363 of the Bankruptcy Code. The Official Committee of Unsecured Creditors, which represented the interests of the co-owners in the bankruptcy proceedings, objected to the proposed sale of the properties, as the co-owners had not consented to the sale or transfer of their portion of the properties as required by the terms of the Tenancy Agreement.

The Debtors then commenced adversary proceedings against the co-owners seeking bankruptcy court authorization to sell the properties in their entirety (including the interest of the co-owners) pursuant to
' 363(h) of the Bankruptcy Code. Section 363(h) of the Bankruptcy Code states, in relevant part:

the trustee may sell both the estate's interest, under subsection (b) or (c) of this section, and the interest of any co-owner in property in which the debtor had, at the time of the commencement of the case, an undivided interest as a tenant in common, joint tenant, or tenant by the entirety, only if '

(1) partition in kind of such property among the estate and such co-owners is impracticable;

(2) sale of the estate's undivided interest in such property would realize significantly less for the estate than the sale of such property free of the interests of such co-owners;

(3) the benefit to the estate of a sale of such property free of the interests of co-owners outweighs the detriment, if any, to such co-owners; and

(4) such property is not used in the production, transmission, or distribution, for sale, of electric energy or of natural or synthetic gas for heat, light, or power.

On Nov. 20, 2008, the bankruptcy court issued its order approving the sale of the properties, which included specific findings of fact that the Debtors had satisfied the requirements of ' 363(h) of the Bankruptcy Code. The Committee filed its notice of appeal the same day, as well as an expedited motion seeking a stay pending appeal to prevent closing of the sale until after the appeal could be heard. The Debtors opposed the imposition of any stay, contending that the failure to close promptly would jeopardize the sale, and asking that, if the court were to impose a stay, it also require the Committee to post a $15 million bond to account for any resulting damages.

On Nov. 24, 2008, the bankruptcy court entered final orders in the adversary proceedings authorizing the sale of the co-owners' interests pursuant to ' 363(h) of the Bankruptcy Code. The Committee appealed all of those rulings on Nov. 25, 2008. On that same day, the bankruptcy court denied the Committee's motion for a stay, concluding that the co-owners did not face any irreparable harm, that the potential harm to the Debtors was greater than that to the co-owners, and that the Committee had not demonstrated that it was likely to succeed on the merits.

The bankruptcy court's conclusion regarding a lack of irreparable harm seems puzzling. While the court based its ruling on the fact that the co-owners would be harmed absent a stay in the same manner that the Debtors would be harmed if a stay were granted (financially), this ruling does not take into account the fact that the co-owners, by contract, had the right to veto the sale of the properties and the sale prevented them from electing the price and time at which they would be willing to sell. Therefore, it is not clear how subsection (3) of ' 363(h) of the Bankruptcy Code ' which requires that the benefit to the estate must outweigh the detriment to the co-owners ' was satisfied. Nevertheless, the issue was never addressed on appeal.

The Committee then sought a stay pending appeal from the Bankruptcy Appellate Panel, although it did not do so until eight days after the bankruptcy court's order denying a stay. The Debtors filed their opposition to the Committee's motion for a stay on the same day, but closed the sale later that day, before the Appellate Panel had considered the stay motion. Opining that the Committee's eight-day delay in seeking a stay from the B.A.P. was unreasonably long, the B.A.P. denied the stay motion.

On Dec. 4, 2008, the Debtors filed a motion to dismiss the Committee's appeal as moot pursuant to ' 363(m) of the Bankruptcy Code.

Bankruptcy Code ' 363(m)

Section 363(m) of the Bankruptcy Code provides:

The reversal or modification on appeal of an authorization under subsection (b) or (c) of this section of a sale or lease of property does not affect the validity of a sale or lease under such authorization to an entity that purchased or leased such property in good faith, whether or not such entity knew of the pendency of the appeal, unless such authorization and such sale or lease were stayed pending appeal.

Section 363(m) offers assurance to potential purchasers of an estate's assets that the sale will be final, eliminating any doubt that the successful bidder will have to defend subsequent attacks on its title to the assets. By prohibiting the unwinding of bankruptcy sales, ' 363 renders moot any appeal of the order authorizing the sale once the sale has been consummated and has closed, which is exactly what the Debtors argued in this case. Numerous courts have applied ' 363(m) to appeals of bankruptcy sales, holding the appeals moot after the closing of the sale. See, e.g., Parker v. Motors Liquidation Co. (In re Motors Liquidation Co.), 430 B.R. 65 (S.D.N.Y. 2010); Contrarian Funds LLC, v. Aretex LLC (In re WestPoint Stevens, Inc.), 600 F.3d 231 (2d Cir. 2010).

The Appeal to the B.A.P.

In its appeal of the sale to the B.A.P., the Committee recognized that ' 363(m) normally proscribes the appeal of completed 363 sales, but distinguished this case because non-debtor third parties partially owned the assets at issue. Most 363 sales are conducted under subsections 363(b) and (c), which provide for the sale of assets either outside of or in the course of ordinary business, as the case may be. As discussed above, however, the sale of property owned partially by an estate also requires a showing of facts and bankruptcy court approval pursuant to ' 363(h). The Committee argued that the bankruptcy court authorized the sale pursuant to ' 363(h) of the Bankruptcy Code. See Nashville, 620 F.3d at 594. They further argued that ' 363(m), by its terms, only prohibits the reversal of sales authorized under ” 363(b) and (c) and thus did not apply to the sale at issue (or at least implicitly, the portion of the sale pertaining to the interests of the co-owners).

The B.A.P. rejected the Committee's argument, holding that “although ' 363(m) does not explicitly refer to a sale authorized under [' 363](h), [' 363(m)] nevertheless applies because the authority for such a sale is derived from [' 363](b).” Id. 620 F.3d at 590 (quoting Nashville, 407 B.R. 222, 231 (B.A.P. 6th Cir. 2009)).

The B.A.P. continued: “[a]pplying ' 363(m) to a sale which was authorized under ' 363(b) and further authorized under ' 363(h) ' promot[es] the strong preference for safeguarding the finality of bankruptcy sales.” Id. at 591. Based on the above, the B.A.P. reasoned that ' 363(m) did apply to the case at hand. Thus, the B.A.P. held that it could not unwind the sale on appeal. Id.

Appeal to the Sixth Circuit

The Committee subsequently appealed the matter to the Sixth Circuit, where it fared no better. The Sixth Circuit upheld the decision of the B.A.P., emphasizing general policies underlying the Bankruptcy Code as well as “the particular need to encourage participation in bankruptcy asset sales and increase the value of the property of the estate by protecting good faith purchases from modification ' .” Id . (quoting Weingarten Nostat, Inc. v. Serv. Merch. Co., 396 F.3d 737, 741 (6th Cir. 2005)).

The Sixth Circuit addressed the Committee's textual argument, holding that the fact that ' 363(m) of the Bankruptcy Code only references ” 363(b) and (c), and does not expressly reference 363(h), is irrelevant because in all asset sales, the debtor sells its assets pursuant to ” 363(b) or (c). The Sixth Circuit viewed ' 363(h)'s requirements as additional requirements a debtor must meet to receive approval of a sale under ' 363(b) or (c) when the relevant estate property is co-owned by a non-debtor. “Thus, subsection (h)'s safeguards, if satisfied, do not affect the ultimate source of the trustee's authority to sell the property ' [namely] subsection (b) or (c).” Nashville, 620 F.3d at 592.

The Sixth Circuit concluded that “[b]ecause the bankruptcy court below found that subsection (h) was satisfied and authorized the sale of the properties pursuant to subsection (b), and because the sale of the properties to ' a purchaser whose good faith is not in dispute [] had closed before the Committee could obtain a stay, the Committee cannot challenge the bankruptcy court's findings under subsection (h) on appeal.” Id. at 593. The Court acknowledged that the Bankruptcy Code imposes “more rigorous procedures” on sales of property co-owned by non-debtors, including granting a right of first refusal to the non-debtor co-owners pursuant to ' 363(i). However, “it does not follow ' that a co-owner is also entitled to pursue an appeal after an unstayed sale has closed.” Id. at 595.

Implications of the Decision

This ruling builds on a long line of cases preserving the finality of asset sales under ' 363 of the Bankruptcy Code. For instance, in General Motors (Parker v. Motors Liquidation Co. (In re Motors Liquidation Co.), 430 B.R. 65 (S.D.N.Y. 2010)), the United States District Court for the Southern District of New York stated that “an order authorizing a Section 363 sale may not be appealed ' except as to the purchaser's good faith ' unless the authorization and the sale itself were stayed ' .” Id. at 77. Additionally, in Contrarian Funds LLC v. Aretex LLC (In re WestPoint Stevens, Inc.), 600 F.3d 231 (2d Cir. 2010), the Second Circuit went even further in refusing to hear an appeal of an authorized, unstayed sale order, holding that it may neither reverse nor modify the order authorizing such a sale. Id. at 248. Thus, parties looking to overturn the completion of the sale must either stay the sale closing or have their appeal heard prior to closing.

Although the Nashville opinion makes no mention of the Ninth Circuit Bankruptcy Appellate Panel's recent and controversial decision in Clear Channel Outdoor, Inc. v. Knupfer (In re PW, LLC), 391 B.R. 25 (B.A.P. 9th Cir. 2008), the Nashville ruling takes a seemingly contrary approach to a similar issue.

In Clear Channel, a junior lien creditor challenged a sale of property free and clear of junior liens pursuant to
' 363(f) of the Bankruptcy Code. Under ' 363)(f), a debtor may sell its assets free and clear of any interests of third parties if the debtor meets certain requirements. The Clear Channel court held that the sale of the property under ' 363(b) could not be challenged on appeal, but that the lien-stripping effect of ' 363(f) was subject to appeal precisely because ' 363(m) only moots appeals of sales under
” 363(b) or (c) of the Bankruptcy Code, but that “[t]he terms of those sales, including the 'free and clear' term ' are not protected.” Clear Channel, 391 B.R. at 35-36.

By contrast, as detailed above, the Sixth Circuit opted not to distinguish between the portion of the sale authorized under ' 363(b) (sale of the Debtors' property) and the portion authorized pursuant to ' 363(h) (sale of the co-owners' interests). The Sixth Circuit's ruling is logical in that the sale at issue in Nashville clearly constituted a sale outside the debtors' ordinary course of business, which is authorized under ' 363(b) of the Bankruptcy Code. And, assuming the sale at issue did in fact meet the standards of ' 363(h) ' a fact-dependent question typically addressed at the trial level ' there would be no way to overturn the portion of the sale affecting the third party without unwinding the entire sale. This would cause uncertainty as to the finality of sales ' the very uncertainty ' 363(m) serves to prevent.

Douglas Mintz is a Special Counsel in the Washington, DC, office of Cadwalader, Wickersham & Taft LLP. He specializes in Financial Restructuring and has worked on asset sales under ' 363 including in General Motors, Chrysler and Extended Stay Hotels. Stephen Johnson is a Financial Restructuring Associate in Cadwalader's New York Office.