Judge Kaplan Concludes Del Monte DIP Lenders ‘May’ Have to Share Recoveries With Non-Participating Prepetition Lenders; Cites Credit Agreement Sharing Provision

Relevant Document:
Opinion
Order (Entered May 13)

In a 21-page written opinion issued this evening, New Jersey Bankruptcy Judge Michael Kaplan concludes that Del Monte Foods DIP lender defendants may be required to share DIP loan recoveries with minority lender plaintiffs even though the plaintiffs declined to participate in the DIP. The ruling turns on an interpretation of the Del Monte Foods prepetition credit agreement’s pro rata sharing provision, which the judge finds could apply to payments the DIP lenders receive on their $247.5 million of roll up DIP loans.

Judge Kaplan finds that the plaintiffs “plausibly” argued that the DIP lenders’ prepetition first-out loans were not discharged by the roll-up DIP but instead “merged into the Roll-Up Loans.” The roll-up loans “arguably will be satisfied (in whole or part) through subsequent payment on the Roll-up Loans,” the opinion states, and Judge Kaplan finds any such payment could be subject to the pro rata sharing provision.

“Resolution of the Plaintiffs’ claim, however, requires a determination of the economic value attributable to the roll-up feature of the DIP Loans,” Judge Kaplan finds. He elaborates, the “central question to be resolved is fixing the dollar amount for such value, and whether (as well as to what extent if any) such value should be shared with lenders who did not participate in the roll-up transaction.”

Judge Kaplan’s opinion grants in part, and denies in part, the defendant DIP lenders’ motion to dismiss the minority lender plaintiffs’ complaint, which seeks recompense from the DIP lenders on the basis of the credit agreement’s pro rata sharing provision. The judge heard arguments on the motion to dismiss on March 18 before taking it under advisement.

The minority lender plaintiffs are a group of lenders that as of March 4, held $23.42 million of first-out term loans under the prepetition credit agreement. They sued after the defendants advanced Del Monte Foods a $165 million new money DIP that rolled up $247.5 million of the defendants’ first-out term loans. The minority lender plaintiffs had the opportunity to participate in the DIP, but declined.

The minority lenders’ suit consisted of three counts. Count one alleged that the DIP lenders’ breached the credit agreement’s “pro rata sharing” provision when the lenders received, but did not share, the DIP roll-up loans. Count two alleged that the DIP lenders “improperly circumvented” plaintiffs’ pro rata sharing rights. Finally, count three seeks a declaratory judgment that the DIP lenders must share pro rata future payments received on their roll up loans.

Judge Kaplan dismisses count one with prejudice and count two without prejudice. Judge Kaplan, however, finds count 3 is a “plausible claim” that survives the DIP lenders’ motion to dismiss because “the eventual satisfaction of the DIP Loan and Roll-Up Loans may constitute” a “payment” that could be subject to the pro rata sharing provision.

Judge Kaplan explains that the Del Monte Foods’ pro rata sharing provision provides that if a lender receives any “‘payment or reduction’” on account of its loans that is “‘greater than the proportion” received by another lender, then the lender must “‘apply a portion of such payment to purchase participations . . . in the Aggregate Amounts Due to the other Lenders’ pro rata.’”

In dismissing the plaintiffs’ breach of contract claim, Judge Kaplan says that the “core,” question he considered was whether “Defendants’ mere participation in and negotiation of a DIP loan” that included a roll up, “without more,” constituted a “‘payment or reduction’” as defined by the pro rata sharing provision.

The opinion finds that the roll-up – in and of itself – was not such a “payment” or “reduction” because it did not “involve the discharge of any debt.”

Judge Kaplan explains that the DIP lenders agreed to loan the $165 million new-money DIP, but only if they received the $247.5 million roll up. The judge further explains that the super-priority nature of the roll up allows the DIP lenders to recover the roll up amount “before anyone else” is entitled to receive payment on prepetition debt.

The roll up transaction “improved treatment” for the DIP lenders’ pre-petition loans, but that did not constitute a “payment” or “reduction” of debt for purposes of the pro rata sharing provision. The judge underscores that the DIP transactions “did not involve the discharge of any debt.”

Judge Kaplan likens the roll up to a promissory note and reasons such a “‘mere promise to pay, absent an express agreement to the contrary, does not discharge a preexisting debt.’” According to Judge Kaplan, the debtors and DIP lenders “engaged in a cashless exchange” and the “Final DIP Order did not result, in any way, in a payment, satisfaction or reduction of principal, interest, fees or other amounts due and owing under the Pre-petition Loan Agreement.”

In dismissing the breach of contract claim, Judge Kaplan reasons that any other result would be “nonsensical” because it would allow the minority lenders to recover pro rata with DIP lenders without having assumed the same risk of advancing new-money DIP loans.

Judge Kaplan underscores that the “unfortunate reality” is that DIP loans “are not always satisfied in full or even meaningful part.” The opinion recognizes that “the additional fees, charges, priming considerations and enhanced treatment of pre-petition loans through roll-ups are intended to compensate lenders for such increased risks of nonpayment.”

Judge Kaplan, however, goes on to find that the plaintiffs’ third count – for a declaratory judgment that future payments received on roll up loans must be shared – is plausible and survives the motion to dismiss.

The basis for the judge’s ruling is that the DIP lenders’ first-out loans were rolled up to the DIP, but still exist. While the roll-up itself did not trigger the sharing covenant, it’s plausible that the eventual satisfaction of the roll-up loans might, Judge Kaplan writes. According to the judge, the plaintiffs “plausibly” argue that the defendants’ first-out loans “merged into the Roll-Up Loans.” Judge Kaplan notes that Del Monte has sold substantially all of its assets, and that proceeds will be used to satisfy DIP loans.

The opinion states that “the eventual satisfaction of the DIP Loan and Roll-Up Loans may constitute ‘payment’” for purposes of the pro rata sharing provision.Even if it is a “payment,” however, the “extent to which any such payment must be shared remains to be determined,” Judge Kaplan writes.

According to the judge, the “central question” that now needs to be answered is the “economic value” of the roll-up and whether “and to what extent” that value “should be shared with lenders who did not participate in the roll-up transaction.”

“Resolution of the Plaintiffs’ claim” requires a determination of the “economic value attributable to the roll-up feature of the DIP Loans, including any other consideration associated with the additional risk and cost of new money,” the opinion states.

The opinion notes further discovery and “possibly expert analysis” would be required to determine “the amounts, if any, subject to pro-rata sharing.”

The opinion dismisses count two of the complaint – asserting a breach of the implied covenant of good faith and fair dealing – because the count is “based on the same conduct and seeks the same damages as the accompanying breach of contract claim.”

The defendant DIP lenders and minority lender plaintiffs entered mediation with Judge Kaplan on May 6, which was to terminate on May 7 unless further extended by the parties.

The Del Monte Foods debtors’ contested confirmation hearing is scheduled for tomorrow, May 12 at 10 a.m. ET. One of the conditions for the plan going effective is the resolution of the minority lenders’ suit. The minority lender plaintiffs’ argue that makes the plan not feasible.