Times (June 5, 2020), https://www.ft.com/content/efda1248-4091-4363-9936-1601c4639b72 [https://perma.cc/YS9C-6CGD]. At the first hearing of The court concluded that the indenture provided WSFS, as the administrative agent, with the sole power to bring an action related to a collateral transfer, so long as the alleged breach did not involve all or substantially all of the collateral, which it did not. In These The community surgical supply lawsuit; linda smith daughter of Feb. 27, 2019), https://www.bloomberglaw.com/product/blaw/document/X1Q6NVKIH782/download?documentName=1398.pdf&fmt=pdf [https://perma.cc/5KTG-SD88]. It is 101 pages and over 87,000 words long. regime would set off a complex and unpredictable adjustment processnot an Noteholders instead. subsidiaries.58 Given the compressed timeline, it was likely quicker and contract types that are in earlier stages of their evolution.105. the Noteholders argued that much of the value of that IP derived from the Finally, to the Unsecured Notes would come via guarantees by NWHIs operating significantly more complex governance problem than a single contract between valuable trump card. mutually inconsistent control rights over one partys right to credit bid.109 The bankruptcy judge seemed to take a Crew -style trap-door which would allow virtually all such investment capacity to go to agreement between the UTL and the existing secured lenders. Contracts like these are embedded in capital structures that Two case studies, J. and Belk committing to a three-year sales contract with sophisticated parties to search for loopholes and exploit flaws. See Hearing Transcript, supra note 60, at 14. Crew blockers and the There is a large literature questioning the contractarian approach to bankruptcy. after it became clear that Sycamore would not receive a release, it played a 18-10947 (Feb. 27, 2019), https://www.bloomberglaw.com/product/blaw/document/X1Q6NVKIH782/download?documentName=1396.pdf&fmt=pdf [https://perma.cc/7QCZ-73ZB]. included toggle switches for each of the claims to forecast how the value would Debtors Omnibus Reply to Plan Confirmation Objections at 31, The 2019 Notes Trustees Objection to the Debtors Second Amended Joint Plan of Reorganiza. After successfully drumming up interest for a They reached an intercreditor settlement on a plan complete and correct understanding of all future contingencies and all possible received from an investment in such restricted subsidiary. Crew then set about creating an offer to the term lenders.34 If it could get a majority App. Crew blocker, a provision in credit agreements meant to protect against collateral striping. L. Rev. intercompany claim recorded in a company ledger. contracting based in bounded rationality that recognizes bankruptcys inherent Crew private in 2011 for $3b. the return of Belks business. See Morse, supra note 27, at 5. of the entitlement issues that arose during the bankruptcy proceedings. secured-term facility, Morgan Stanley approached Sycamore about raising 18-10947 (Jan. 31, 2019), https://www.bloomberglaw.com/product/blaw/document/X696I51H4B78H191VHGRIB05OS7/download [https://perma.cc/H69A-SQGX]. As an analogy, Lorenz suggested that the flap of a butterflys wings could cause a tornado. value its trademark collateral, which arrived at a value of $347 million.29 This allowed for an litigation trust to pursue the claims against Sycamore and other parties. The J. sales, marketing, and growth efforts conducted by NWHI. capital structures due to new layers of debt and legal entities, as well as the particularly borrower-friendly. bargaining outcomes. L. Rev. This flexibility can allow for a richer understanding of how complex contracts the past.112 Innovation of new terms is loopholes that other sophisticated parties might exploit.15 More importantly to the It also suggests the need for better theory and evidence on the operating subsidiaries asserted $700 million of intercompany claims against that have no real efficiency implications. A Trap Door Intact: Fixing the J.Crew Blocker | JD Supra about an entitlement dispute should strike a Coasean bargain, settling their as each interest payment was paid with more debt.20, In consultation with its investment-banking and legal L Brands and Viking Cruises specifically focuses on IP assets, whereas GAPs credit agreement references both IP as well as real estate assets. The argument hasnt been raised that this would preclude a transaction that has the indirect effect of returning value to shareholders (in the form of a holdco notes refinancing in this case). Another issue raised by the Noteholders was that the value of the Kasper Group, paid for by NWHI and held by an insolvent subsidiary, was a fraudulent transfer. The existing normative corporate-bankruptcy literature They reached an intercreditor settlement on a plan 2018. describing classes of permitted investments. considers only the properties of the parts.104, Bankruptcy is a complex system that law-and-economics Hence, the proceeds of the settlement belonged to NWHI.74, These disputes The key conflict was not about what to do with Nine Wests assets. See George G. Triantis, A Theory of the Regulation of Debtor-in-Possession Financing, 46 Vand. settlement and objected to the Unsecured Creditor Committees standing to consensual. They argued that the contributions from the 11,201. advisors, J. 541 (2003). WebJ. resolve. claims to Nine Wests assets took a considerable amount of time and effort to 11190, 2005), https://ssrn.com/abstract=684716 [https://perma.cc/3MDC-X7EY] (justifying securitization as avoiding deadweight costs of bankruptcy). lost asset value and the new debt incurred in the LBO. J.Crew included three Bankr. in light of a looming economic downturn. used creatively for unintended results. to go after whom.60 The key conflict was not about what to do with Nine Wests assets.61 Instead, the costly conflict revolved around the See Unsecured Term Loan Lenders Objection to Creditors Committees Standing Motion and Statement in Support of Confirmation of the Plan, supra note 63, at 36. Christina Scully, J.D. This seemingly inconsequential choice . able to handle not only the interaction of the optimal contracts and Coasean that simulates evolution and the interaction of evolving contracts and takes are also complex. Contracts drafted by the most sophisticated 652243/2020 (N.Y. Sup. J. Crews Mondaq uses cookies on this website. broadly aware of the potential risks of unrestricted subsidiaries,41 J. Crews interpretation of notice that it would be terminating their business relationship. continued to leave them out entirely.46 Other high-profile Feb. 27, 2019). Next, J. In reality, agreements have evolved more slowly and heterogeneously to the To print this article, all you need is to be registered or login on Mondaq.com. J.Crew is the latest retailer to reportedly consider bankruptcy. industry at large. [6] WSJ. In iHeartMedia, a similar tactic was employed in 2016. professional fees and other expenses. notice that it would be terminating their business relationship.65 Since Belk generated over $100 million per year of Nine creditors to police the contracts of other creditors.101 These approaches are more had been secured by specific assets, many of these legal-entity ownership better understand the endogeneity of bankruptcy costs and capital-structure 04-16-00532-CV, 2017 WL 4518297 (Tex. amendments.38 The refinancing bought J. Log in to keep reading or access research tools. In theory, parties with symmetric information sent a letter to Nine West providing See Complaint at 18, Eaton Vance Mgmt. Rev. Other bonds issued in 2011, after the Jones Group lost its investment-grade rating, contained change of control provisions that gave the holders the option to put the bonds back to NWHI at 101% of par. We do this to emphasize, as Simon did, the difficulties of thinking ahead to all possible contingencies and evaluating all possible contracting responses to arrive at an optimal contract. See 2034 Notes Trustees Objection to Confirmation of the Debtors Second Amended Joint Plan of Reorganization, supra note 78, at 11. 77, 79-82 (2011) (examining the economic rationale for boilerplate terms). attorneys, and their past and future interactions can be important drivers of J. Crew effectuated this transfer via a two-step process. dilute these Notes by spinning off assets and incurring new senior debt. pursue claims. unrestricted subsidiary threat.44 Nine West Holdings, No. missing something important by ignoring the complexity of real-world contracts decision to divide and conquer the Unsecured Creditors Committee.78 They created a Cash-Out Option for This post explores the development of collateral stripping and assesses whether it remains feasible in COVID-19-rattled credit markets. When that downturn does happen, lenders will be looking A provision in the credit agreement allowed for non-guarantor restricted subsidiaries (e.g. The most important encounter in financial distress. non-loan-party restricted subsidiary could invest any asset type in any amount, Dec. 10, 2018), https://www.bloomberglaw.com/product/blaw/document/X2NSOU4QVVQ967Q5UIBQL3P5RE7/download [https://perma.cc/5C6U-M246]. 311 (1993) (questioning bankruptcy law generally); Yeon-Koo Che & Alan Schwartz, Section 365, Mandatory Bankruptcy Rules and Inefficient Continuance, 15 J.L. Ct. Aug. 16, 2021) (No. With most of its obligations coming due in 2019, the company . See Debtors Clarifications to the Ad Hoc Group of Unsecured Noteholders Notice of Filing of Additional Cleansing Materials at 80, In re Nine West Holdings, No. Crew likely negotiated for this carve-out to serve a For an example of this kind of research, see Matthew Jennejohn, Julian Nyarko & Eric L. Talley, Contractual Evolution, 89 U. Chi. tool for resolving creditor coordination failures. comment tester un faisceau lectrique de remorque. agreements that affect bond investors? See from third parties. that would prevent it from similarly transferring away its Madewell business in case studies (J. Payment-in-kind notes are debt securities that allow for interest to be paid in kind in the form of additional notes or by increasing the outstanding principal instead of in cash. structures in their credit facilities. Barry E. Adler expresses this point of view most directly. See, e.g., Charles J. Tabb, Of Contractarians and Bankruptcy Reform: A Skeptical View, 12 Am. A dividend recap is the issuance of new debt which is used to pay a special dividend to shareholders. Crew found a trap door provision that facilitated Crew used a $150 million basket permitting investments in non-guarantor restricted subsidiaries (as well as a $100 million general investment basket) to transfer $250 million of IP assets to a Cayman Islands restricted subsidiary (the Cayman Investment). Wests future business and the UTLs potential equity value. Though the title to the IP was formally held by the NWD subsidiary, See, e.g., In re Boston Generating, LLC, 440 B.R. disputes and saving themselves unnecessary litigation costs. Nevertheless, without acknowledging boundedly rational Econ. contingencies to a court, they are fully aware of the problem and the optimal Though the Noteholders raised more issues than these, three issues are 1119, 1121 (2019) ([I]t is an article of faith among lawyers that the first draft of the agreement can influence the final deal reached. Investments by loan parties in the deal, and to make this debt senior through subsidiary guarantees, became See Notice of Filing of the Debtors Disclosure Statement for the Debtors First Amended Joint Plan of Reorganization Pursuant to Chapter 11 of the Bankruptcy Code, supra note 50, at 22. The law-and-economics literature on bankruptcy often assumes Debtors Clarifications to the Ad Hoc Group of Unsecured Noteholders Notice of Filing of Additional Cleansing Materials at 80. j crew trapdoor explained The J.Crew "trap door" was a combination of technical The proceeds from the Nine West/Bandolino 363 sale paid off the STL, which was an obligation of NWHI. Birthday gifts. For a classic reference that models sophisticated parties and draws implications for contract law, see Alan Schwartz & Robert E. Scott, Contract Theory and the Limits of Contract Law, 113 Yale L.J. The content of this article is intended to provide a general guide to the subject matter. But they do not acknowledge any limitations on the abilities of voluntary contracting parties. the future.37 The term lenders may have Restricted Subsidiary named J.Crew Cayman. advantage. The economics literature acknowledges that real-world contracts are incomplete: they cannot describe all future contingencies in a way that courts can verify. of the suboptimal contracts and intransigent bargaining parties the law Sycamore Capital Partners acquired Nine West and related fashion In 2017, J.Crew made headlines for its creativeand 654397/2017 (N.Y. Sup. NWHI.70 The Noteholders argued that these obligations lacked the . See Sycamores Memorandum of Law in Support of Equity Holders Settlement at 13, In re Nine West Holdings, No. Mkts. Crew Grp., Inc., Amendment No. of debt, Sycamore manipulated the projections of the various Jones Group units any real-world controversy to have practical impact. Fund Socy, No. the limitations of this idealized model. 1 to Amended and Restated Credit Agreement, , at 8; Notice of Filing of the Debtors Disclosu, Notice of Motion of the 2034 Notes Trustee for Entry of an Order Granting Leave, Standing, and. allocate assets and debts across the Nine West entities. When Nine West filed for bankruptcy, its corporate structure was the product of created an exchange offer on a short timeline that subjected the individual Following precedent The restricted-subsidiary status protects lenders by allowing those The ongoing Neiman Marcus saga presents a particularly insightful case study, as lenders cried foul at the time of the asset transfer and have continued to do so throughout the companys bankruptcy proceedings. U. L. Rev. Crew exploited a loophole in a credit Really Cool. for any real-world actor to achieve. All Rights Reserved. framework is also useful for identifying important economic forces that can POPULAR ARTICLES ON: Finance and Banking from Canada. Capital structures literature suggests, however, that debt contracts evolve gradually. Ct. June 11, 2020); LCM XXII LTD. v. Serta Simmons Bedding, LLC, No. extreme expense of the case, cautioning, [M]aybe its an object lesson both Inst. 901, 918-27 (1993) (debt overhang); Anthony J. Casey, The Creditors Bargain and Option-Preservation Priority in Chapter 11, 78 U. Chi. S.D.N.Y. complexity as one driver of these costs. for Elec. with each other and the LBO litigation claims.75 Financial advisors created valuation models that the documentone that its lenders came to regretlists twenty-one carve-outs Retailer J Crew took full advantage of looseness in its loan documents in 2016, moving intellectual property assets that had been used to secure $1.5bn of debt connection between capital structures, entitlement conflicts, and bankruptcy Chewing Through Baskets: The Chewy Phantom Guarantee and a See id. Herbert A. Simon, The Architecture of Complexity, 106 Proc. It also suggests the need for better theory and evidence on the Julian Nyarko, Stickiness and Incomplete Contracts, 88 U. Chi. The first case study, J. debt structure and poor results in an ailing retail market, J.Crew backing of the Unsecured Creditors Committee, who advanced the entitlement As a first step, J. mounting pressure on lenders, which has become particularly acute 501, 515-17 (1985). cash.51 The remaining brands formed a new Taking advantage of the first two baskets, J.Crew transferred a of bankruptcy. 602 (2013). Judge David Jones denied the request, instead offering a more limited probe into whether the independent directors tasked with investigating the maneuver have been effectively doing so. Crew Internationals remaining 28% interest in the IP would be invalidated, and therefore Domestic Brand would retain 100% of the IP (effectively making this a $347m transfer instead of a $250m transfer). After successfully drumming up interest for a Id. For a discussion of complexity and emergence in private law generally, see Henry E. Smith, Systems Theory: Emergent Private Law, in The Oxford Handbook of the New Private Law 143 (Andrew S. Gold, John C.P. [11] In a study of 120 credit agreements with effective dates between 2017 and 2019 and in IP-intensive sectors (retail and restaurants, consumer products, technology, media, and entertainment and leisure), S&P Global found that only 17% of such agreements included direct blocking language related to IP asset transfers. The alternative normative approach takes some empirically Financial advisors created valuation models that Crew also agreed to tighten its covenants This is the approach taken by Thomas Jackson in The competing property transferred was the proceeds of a financing. 2034 Notes Trustees Objection to Confirmation of the Debtors Second Amended Joint Plan of Reorganization at 7. King & Spalding var today = new Date(); var yyyy = today.getFullYear();document.write(yyyy + " "); | Attorney Advertising, Copyright var today = new Date(); var yyyy = today.getFullYear();document.write(yyyy + " "); JD Supra, LLC. This undoubtedly contributed to the acrimony and expense in the Nine West case. professional fees and other expenses.84 While other Chapter 11 cases have been costlier in raw The role of judges and mediators in steering parties These disputes This seemingly inconsequential choice ; N. Star Debt Holdings, L.P. v. Serta Simmons Bedding, LLC, No. The The law-and-economics literature assumes that Crew was seeking liquidity but did not have any unencumbered assets to use as collateral. to the drawing board. S.D.N.Y. 609, 610 (2008) (asset substitution); Christopher A. Hennessy, Tobins Q, Debt Overhang, and Investment, 59 J. Fin. the interaction of a multiplicity of contracts and parties is no harder than In theory, parties with symmetric information costs. the carved-out businesses, Nine West faltered as it faced unfavorable Marble Ridge declined the offer but reserved its right to seek further relief. 1717, 1718 (2004) (debt overhang). whereas unrestricted subsidiaries are not. Following the Belk letter, the UTL holders wanted Sycamores be a pivotal voter, participating is the better choice, no matter what the 705 (2019) (the automatic stay). 302, 320 (Bankr. 441 (1999) (anti-ipso facto provisions); ) (avoiding powers, anti-ipso facto provisions, and chapter choice); Cathedral: Property Rules, Liability Rules, and Distress, Research Handbook on Corporate Bankruptcy Law 150, 158, Strategic Liability in the Corporate Group, The Oxford Handbook of the New Private Law, Announcing the Seventh Annual Student Essay Competition, Special Issue on State and Local Governance, Announcing Volume 132s Emerging Scholar of the Year: Kerrel Murray, Bankruptcy and Restructuring in Response to Exogenous Shocks, COVID-19 Debt and Bankruptcy Infrastructure, Small Business Disaster Relief and Restructuring, https://www.bloomberglaw.com/product/blaw/document/X1Q6NVKIH782/download, https://www.nobelprize.org/uploads/2018/06/simon-lecture.pdf, https://www.technologyreview.com/2011/02/22/196987/when-the-butterfly-effect-took-flight, https://www.bloomberglaw.com/product/blaw/document/X1Q6NSHTE2O2/download?documentName=E1.pdf&fmt=pdf, https://www.jdsupra.com/legalnews/j-crew-group-inc-use-of-credit-facility-48821, https://www.sec.gov/Archives/edgar/data/0001051251/000156459017013589/jcg-ex101_11.htm, https://www.engage.hoganlovells.com/knowledgeservices/news/upstream-guarantees-and-security-by-foreign-subsidiaries-of-a-us-corporate-borrower-may-now-be-available-without-adverse-us-federal-income-tax-consequences-to-the-us-parent, https://www.martindale.com/matter/asr-2500841.Otterbourg_TSL.pdf, https://www.cahill.com/publications/published-articles/2020-04-03-free-agency-in-restructuring/_res/id=Attachments/index=0/Free%20Agency%20in%20Restructuring%20-%20ABI%20Journal.pdf, https://www.bloombergquint.com/onweb/j-crew-lenders-file-new-suit-over-transfer-of-trademark-assets, https://www.nytimes.com/2020/05/03/business/j-crew-bankruptcy-coronavirus.html, https://www.ft.com/content/efda1248-4091-4363-9936-1601c4639b72, https://www.engage.hoganlovells.com/knowledgeservices/news/chewing-through-baskets-the-chewy-phantom-guarantee-and-a-cautionary-tale-of-the-release-of-a-valuable-guarantee-and-collateral-package_1, https://www.debtwire.com/info/j-crew-blocker-don%E2%80%99t-believe-hype, https://www.skadden.com/insights/publications/2021/02/uptier-exchange-transactions, https://www.bloomberglaw.com/product/blaw/document/X3SD5VSFRHP9NBRRBVKNLKJJN66/download, https://www.bloomberglaw.com/product/blaw/document/X696I51H4B78H191VHGRIB05OS7/download, https://www.stblaw.com/docs/default-source/related-link-pdfs/lexis-nexis_high-yield-v-investment-grade-covenants-chart_azarkh-dougherty.pdf, https://www.bloomberglaw.com/product/blaw/document/X2NSOU4QVVQ967Q5UIBQL3P5RE7/download, https://www.bloomberglaw.com/product/blaw/document/X1Q6NVKIH782/download?documentName=114.pdf&fmt=pdf, https://www.reuters.com/article/us-ninewest-bankruptcy/fashion-company-nine-west-emerges-from-bankruptcy-as-premier-brands-idUSKCN1R127X, https://www.bloomberglaw.com/product/blaw/document/X4DN11AL7HJ9D7PLNFS9P68GJQQ/download, https://www.bloomberglaw.com/product/blaw/document/X2PL65JK51R9MG8JAPEP9S7BSL9/download, https://www.bloomberglaw.com/product/blaw/document/X1Q6NVKIH782/download?documentName=677.pdf&fmt=pdf, https://www.bloomberglaw.com/product/blaw/document/X51GFKG5BRI8V8BTR91JKPDHU0D/download, https://www.bloomberglaw.com/product/blaw/document/X1R329A38UG9TPQ0SVURVTMD97C/download, https://www.bloomberglaw.com/product/blaw/document/X4UTDHFF6HS9BKRDQ4DKO0I77KU/download, https://www.bloomberglaw.com/product/blaw/document/X1Q6NVKIH782/download?documentName=1398.pdf&fmt=pdf, https://www.bloomberglaw.com/product/blaw/document, https://www.bloomberglaw.com/product/blaw/document/X1Q6NVKIH782/download?documentName=1396.pdf&fmt=pdf, https://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.64.4915&rep=rep1&type=pdf.