In Re Ames Department Stores, Inc.
22 Collier Bankr. Cas. 2d 1500, 1990 Bankr. LEXIS 1042, 115 B.R. 34 (1990)
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Rule of Law:
A bankruptcy court may approve post-petition financing with super-priority status under 11 U.S.C. § 364(c) if the debtor demonstrates inability to obtain less intrusive credit and the financing agreement's terms do not unduly prejudice the estate, leverage the bankruptcy process, or primarily benefit a specific creditor to the detriment of others.
Facts:
- Ames Department Stores, Inc. and its 51 affiliated debtors operate nearly 700 department stores, employing approximately 55,000 people.
- Ames filed petitions for reorganization under Chapter 11 of the Bankruptcy Code on April 25, 1990.
- In the weeks prior to filing, Ames sought post-petition financing from four leading lending institutions, two of which could not meet Ames's timeline for funds.
- Ames negotiated with Citibank N.A. and Chemical Bank, where Citibank offered $40 million of new financing with secured, super-priority status, and cross-collateralization of a $460 million pre-petition loan, while Chemical offered $250 million of unsecured, super-priority financing.
- Ames accepted Chemical's offer, which included a borrowing base tied to inventory value and terms of default, including conversion to Chapter 7.
- Ames needs the financing because it lost trade credit prior to filing for bankruptcy and has received virtually no trade credit since, leading to a significant drop in sales (over 30% in a four-week period).
- Ames's available cash exceeds $120 million primarily because it continues to sell inventory without replacement.
- Ames forecasts needing $150 million of the Chemical financing but sought authorization for $250 million, believing the additional availability would encourage suppliers to extend trade credit, which is crucial as Ames cannot logistically operate on a C.O.D. basis or provide letters of credit for domestic suppliers.
Procedural Posture:
- Ames Department Stores, Inc. and its affiliated debtors filed petitions for reorganization under Chapter 11 of the Bankruptcy Code on April 25, 1990.
- Ames filed a motion with the United States Bankruptcy Court for the Southern District of New York seeking an order approving a $250 million post-petition financing agreement with Chemical Bank.
- The Bankruptcy Court issued an order to show cause dated April 27, 1990, and scheduled interim and final hearings on Ames's motion for emergency relief and final approval.
- At an interim hearing held on May 1, 1990, Ames sought $52 million of emergency financing.
- The Bankruptcy Court authorized $25 million of emergency financing as 'necessary to avoid immediate and irreparable harm to the estate,' specifically excluding funds for closing stores, certain miscellaneous expenses, or continued construction of a new distribution center.
- Ames subsequently determined not to seek further emergency relief pending the final hearing.
- A final hearing on the approval of the Chemical financing agreement was held on May 15, 1990.
- The Creditors' Committee did not oppose approval of the financing agreement with Chemical in its final, modified form.
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Issue:
Should a bankruptcy court approve a debtor's motion for a post-petition financing agreement under 11 U.S.C. § 364(c) when the agreement initially includes clauses that could skew the bankruptcy process or disadvantage other creditors, but these clauses are subsequently modified?
Opinions:
Majority - Howard C. Buschman, III
Yes, a bankruptcy court should approve a debtor's motion for post-petition financing under 11 U.S.C. § 364(c) when the agreement's terms, after modification, do not unduly leverage the bankruptcy process, prejudice the estate, or primarily benefit a specific creditor to the detriment of others, and the debtor has demonstrated the unavailability of less intrusive credit. The court found that Ames met its burden of showing the unavailability of alternative unsecured financing. The Debtors reasonably approached four lending institutions, including their former lenders, with two unable to meet their critical time demands and Chemical offering less onerous terms than Citibank. This demonstrated a reasonable effort without needing to seek credit from every possible source, especially given the urgent need for a cash infusion for the seasonal enterprise. Initially, the proposed agreement with Chemical raised concerns because it contained clauses that could leverage the Chapter 11 process. These included a default trigger upon the appointment of a trustee or examiner, no carve-out for professional fees from the super-priority status, and a default if relief from the automatic stay was granted to any creditor owed over $20 million. The court noted that such clauses preclude or limit parties' ability to seek necessary oversight, undermine the adversary system by denying funding for professional fees, and can improperly influence court decisions on motions for relief from the automatic stay. However, at the final hearing, these problematic clauses were modified. The order excluded trustee/examiner appointment for fraud, dishonesty, incompetence, mismanagement, or irregularities; it included a $5,000,000 carve-out for professional fees; and the $20 million relief clause was agreed not to affect the Citibank group, the primary creditor impacted. The default clause for conversion to Chapter 7 did not raise similar concerns, as reorganization would have ended. The court concluded that the Creditors' Committee's differing opinion on how Ames should appeal to suppliers falls within the Debtors' business judgment, which the Code contemplates they exercise. Since the concerns about leveraging the bankruptcy process were addressed, and the agreement, as modified, allowed for reasonable business judgment, the motion was approved.
Analysis:
This case clarifies the limits of judicial discretion in approving post-petition financing under Section 364(c). It establishes that courts must scrutinize such agreements to ensure they do not unduly prejudice other creditors, undermine the adversary process, or skew the balance of power in Chapter 11 cases. The emphasis on carve-outs for professional fees and avoiding 'entrenchment' clauses is particularly significant, as it protects the integrity of the bankruptcy system and the ability of various parties to meaningfully participate. This decision serves as a guide for debtors and lenders structuring post-petition financing, requiring terms that genuinely benefit the estate as a whole, rather than just the debtor or a specific creditor.
