Bankruptcy Code Can Present Significant Risks to Lenders

Lender Ordered to Refund Adequate Protection Payments

According to the opinion, the lender in West Nottingham Academy was owed approximately $4,847,700 when the borrower filed for bankruptcy. The debt was secured by first priority lien in all of the debtor’s real and personal property, including cash. The value of the collateral was unknown at the time of filing of the case. The Bankruptcy Court entered several orders authorizing the debtor’s use of cash collateral including adequate protection payments to the lender. The parties ultimately agreed the value of the collateral was $10,300,000. After confirmation of the debtor’s bankruptcy plan, the reorganized debtor sought a refund of the adequate protection payments that had been made to the lender in order to make the payments required under the plan.

The court began its analysis by finding that it had post-confirmation jurisdiction to decide the debtor’s motion because the relief sought was “grounded” in the bankruptcy case and jurisdiction was reserved in the cash collateral and plan confirmation orders. Turning to the merits, the court noted that a Chapter 11 debtor has many tools at its disposal to effectuate its reorganization, including the use of cash collateral on terms and under circumstances that would not be possible outside of bankruptcy. Sections 361, 363 and 364 of the Bankruptcy Code permit a debtor to use cash collateral provided the secured party is given adequate protection of its security interest in the cash. The court wrote, “In general, the nature and extent of any adequate protection depends on the value of the collateral.” The goal of adequate protection is to maintain the status quo between the secured creditor and the debtor during the case. The Bankruptcy Code requires a debtor to adequately protect the potential harm suffered by a secured party resulting from the decline in value of the collateral.