Opinion ID: 472139
Heading Depth: 2
Heading Rank: 5

Heading: Compatibility of Periodic Postpetition Interest Payments with Policies of Bankruptcy Code.

Text: 118 Probably the most troubling aspects of a construction of Sec. 361 that would require or allow periodic postpetition interest payments to undersecured creditors are: first, its impact on the orderly procedures for the distribution of the debtor's estate either upon liquidation or reorganization; second, the resulting reallocation of the unencumbered assets of the debtor's estate that frequently occurs shortly after the petition is filed; and third, the resulting reallocation of the risk of failure of the reorganization proceeding. 119 To understand all three aspects, it is useful to understand a typical secured financing arrangement. As was noted by Murphy in the law review article included in the record of the House hearings, see supra note 28, in many secured financing arrangements the scheduled principal payments approximate the depreciation of the collateral. Clearly, Sec. 361(1) and (2) call for adequate protection payments to cover the decline in value caused by depreciation of the collateral. If Sec. 361(3) is construed to further require postpetition interest payments on the value of the collateral, the total adequate protection payments will in many, perhaps most, cases approximate the principal and interest payments required by the existing terms of the secured debt instruments, because it will only be the interest on the unsecured portion of the secured debt that ceases to accrue. As Murphy pointed out, if the debtor could have made the principal and interest payments on its secured debt, it is unlikely that any proceeding would have been filed in the first place. In many Chapter 11 cases, including this one, the likely result of orders requiring periodic postpetition interest payments to undersecured creditors will be the immediate conversion to Chapter 7--a result which seems inconsistent with the congressional policy favoring attempts at reorganization. 48 120 Further, since an undersecured creditor will have no claim for postpetition interest at the conclusion of the proceeding, it will be necessary for each such creditor to file a motion for adequate protection under Sec. 362 immediately after the petition is filed or it will lose interest until it does file. As a practical matter, this means that all potentially undersecured creditors in a reorganization proceeding will file Sec. 362 motions shortly after the petition is filed, 49 and the debtor will be immediately faced with demands for adequate protection payments by its secured creditors which will often approximate the total principal and interest payments on secured debt which it was required to make before the petition was filed. 121 Against this factual background, we consider the objectives of the automatic stay. As was eloquently stated in the House Report on Sec. 362: 122 The automatic stay is one of the fundamental debtor protections provided by the bankruptcy laws. It gives the debtor a breathing spell from his creditors. It stops all collection efforts, all harassment, and all foreclosure actions. It permits the debtor to attempt a repayment or reorganization plan, or simply to be relieved of the financial pressures that drove him into bankruptcy. 123 The automatic stay also provides creditor protection. Without it, certain creditors would be able to pursue their own remedies against the debtor's property. Those who acted first would obtain payment of the claim in preference to and to the detriment of other creditors. Bankruptcy is designed to provide an orderly liquidation procedure under which all creditors are treated equally. A race of diligence by creditors for the debtor's assets prevents that. 124 House Report, supra, at 340, U.S.Code Cong. & Admin.News 1978, p. 6296. The scramble for the debtor's unencumbered assets by its undersecured creditors, which the American Mariner case has precipitated, bears little resemblance to the breathing spell devoid of a race of diligence described in the House Report. 125 The key to achieving a fair and equitable distribution of the debtor's assets contemplated by the House Report and by the Code, whether upon liquidation or reorganization, is complete information about the debtor's assets, liabilities, past business and prospects. The debtor is required to file comprehensive schedules of creditors, assets and liabilities, current income and expenditures, and a statement of financial affairs, Sec. 521(1), either with the petition or within 15 days thereafter, unless the time is extended for cause shown, Bankruptcy Rule 1007(c). In the usual case, a meeting of the debtor and its creditors must be held not less than 20 nor more than 40 days after the petition is filed, at which the debtor is examined under oath. Rule 2003. A committee of unsecured creditors is required to be appointed, and one or more committees of other creditors may be appointed to secure adequate representation of various creditor groups. Sec. 1102(a). These committees participate in the investigation of the affairs of the debtor and in the formulation of a plan of reorganization. The purpose of the extensive information gathering that goes forward while the stay is pending is to put the debtor, its creditors and the court in a position to assess whether a plan of reorganization is feasible or desirable or whether the debtor must be liquidated. If the debtor or a creditor elects to go forward with a plan of reorganization, the Code provides a carefully crafted scheme for creditor enfranchisement, In re Braniff Airways, Inc., 700 F.2d 935, 940 (5th Cir.1983), including Sec. 1125 disclosure requirements, Sec. 1126 voting requirements, and Sec. 1129(a)(7), the best interests of creditors test. Cf. In re Continental Air Lines, Inc., 780 F.2d 1223, 1226 (5th Cir.1986). Further, under Sec. 1129(b)(2)(B), the absolute priority rule must be met in order for a plan of reorganization to be fair and equitable, a prerequisite to plan approval absent consent. That rule provides that claims and interests must participate in the plan in complete recognition of their strict priorities, and unless the value of the debtor's assets supports the extent of the participation afforded each class of claims or interests included in the plan, the plan cannot be fair and equitable. 6A Collier on Bankruptcy p 11.06, at 210 (14th ed. 1977). See Consolidated Rock Products Co. v. Du Bois, 312 U.S. 510, 527, 61 S.Ct. 675, 685, 85 L.Ed. 982 (1941); see also House Report, supra, at 415 ([n]o class may be paid more than in full). It seems obvious that the relative positions of creditors may be considered by the court, and the rule applied, only after the identity of each creditor, the amount owed and the extent to which the claim is secured or entitled to priority are known, not with precision, but at least with sufficient accuracy to assure that any proposed plan is feasible. Then, and only then, may the estate's unencumbered assets be divided among the various classes of creditors in accordance with their respective priorities. 126 The information gathering and creditor enfranchisement processes described above, which are designed to achieve a fair and equitable distribution of the debtor's assets, stand in sharp contrast to the abbreviated procedures which were established by Congress for the quick resolution of adequate protection motions. The speed, limited scope, and limited notice that are characteristics of a stay relief hearing strongly suggest that Congress did not intend the Sec. 362 motion to be used as the vehicle for distributing unencumbered assets of the estate to the extent that would be required if adequate protection during the temporary pendency of the stay requires the complete compensation that is necessary for approval of a plan of reorganization contemplating deferred payments. Nor do those characteristics of a stay relief motion suggest that Congress intended that a series of Sec. 362 motions filed by all the secured creditors in a case be dispositive of the outcome of the case with the frequency that is likely to occur if the debtor is compelled to make adequate protection interest payments approximating the total principal and interest payments on its secured debt. In summary, a construction of Sec. 361(3) that would require interest payments to undersecured creditors seems inconsistent with the policy of the Code to promote an orderly distribution of the debtor's estate after a breathing spell designed to foster a careful assessment of the relative priorities of creditors and of the debtor's assets and prospects. Surely if Congress had intended to effect such fundamental changes in the way in which the automatic stay functions and in the way that the debtor's assets are distributed, it would have indicated that decision with clarity. 127 Finally, the leading Supreme Court cases on postpetition interest, such as Vanston, indicate[] that secured creditors must also share some of the risks of the rehabilitation process. O'Toole, supra, 56 Am.Bankr.L.J. at 259. As things stood before American Mariner's interpretation of the adequate protection provisions, each creditor--secured or unsecured--bore its own cost caused by the delay inherent in a bankruptcy proceeding. Even an oversecured creditor, which is theoretically entitled to interest, in effect funded that interest out of the value of its collateral. Before American Mariner, therefore, the risk of failure of a reorganization proceeding was borne by all creditors. The effect of the American Mariner construction of the adequate protection provisions is most often to shift the costs associated with the delay in payment of the secured portion of an undersecured creditor's claim to the unsecured creditors. Interestingly enough, an oversecured creditor continues to fund its own interest, and, of course, unsecured creditors not only fund their own delay costs, but also most often 50 fund those of undersecured creditors. With that decision to reallocate costs, there is a corresponding decision to reallocate the risk of failure of the reorganization proceedings. Surely if Congress had intended such a major change in the allocation of the risk of failure of reorganization proceedings to unsecured creditors, it would have so indicated with greater clarity in the Code itself or in the legislative history.