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Mezzanine Lenders and Foreclosure Sales During COVID-19
Although mezzanine lenders undertake a greater risk when entering into mezzanine loans due to the fact that their rights are junior and subordinate to mortgage lenders, they are afforded with the benefit of, in addition to typically receiving a higher interest rate, the ability to conduct relatively speedy foreclosure sales under the Uniform Commercial Code (UCC). Given these are unprecedented times, where the global pandemic is likely to result in an increasing number of borrowers defaulting on loans, it is particularly important for mezzanine lenders to pay close attention to the way the courts are beginning to respond to foreclosures in order to learn how to protect one of their most effective remedies: the UCC foreclosure sale.
In this article, we will review a recent case, D2 Mark LLC v. OREI VI Investments LLC, 2020 WL 3432950 (2020), to understand how the court's decision may provide mezzanine lenders with guidance in structuring a UCC foreclosure sale auction in the COVID-19 landscape so as to strengthen their position against any claims by the mezzanine borrower that the sale is not commercially reasonable.
'D2 Mark'
D2Mark LLC (D2Mark), as mezzanine borrower, and OREI VI Investments, LLC (OREI), as mezzanine lender, entered into a Loan Agreement and a Pledge and Security Agreement, both dated as of May 19, 2017, pursuant to which D2Mark pledged its membership interests in D2 Mark Sub, LLC (Collateral), which indirectly owns and operates the Mark Hotel, as security for a $35 million mezzanine loan. After the hotel was forced to close due to COVID-19 governmental restrictions, the mortgage borrower failed to make payments under the mortgage loan which caused a cross default of the mezzanine loan. Subsequently, OREI made protective advance payments totaling $2.2 million to cure the mortgage loan default and avoid the mezzanine loan from being wiped out in a mortgage loan foreclosure.
Eventually, OREI provided notice to D2Mark of its plan to sell the collateral pursuant to the UCC on June 24, 2020 — 36 days from the date of such notice. The terms of the sale included the following: 1) the sale would be virtual or in a law firm office in New York City; 2) the winning bidder was expected to pay a non-refundable deposit equal to 10% of the purchase price immediately and the remainder 24 hours after the end of the auction; 3) OREI agreed not to "credit bid" after accepting the highest and best bid unless the bidder and runner up failed to timely close (OREI subsequently added these terms on June 8, 2020); 4) written consent was required by OREI to communicate with D2Mark about the foreclosure; and 5) D2Mark could have access to the data room and could bid if it showed the financial ability to timely close (OREI subsequently added these terms on June 8, 2020).
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