Why would you enter into a contract to purchase an asset from a seller who is free to accept a higher offer from a competing bidder?
Not surprisingly, there are a number of advantages conferred on a stalking horse bidder. The stalking horse negotiates the initial contract, which determines the structure and contours of the sale, including what assets are included or excluded, as embodied in the substantive provisions of the purchase and sale agreement. Later bidders are usually required to substantially conform their bids to the terms of the stalking horse contract, which have already been negotiated and spelled out. Typical terms include the amount of the bid deposit required to qualify a prospective bidder to participate, the length of the due diligence period preceding the auction, the notice requirements for the auction sale, the minimum amount of the initial overbid, the minimum increment for further bids, the earnest money required to be deposited by the winning bidder immediately following the auction, and the time for the winning bidder to close.
Also, the stalking horse contract may specify which executory contracts or unexpired leases of the debtor/seller related to the asset to be sold are to be assumed and assigned to the buyer and which are to be rejected.
What happens if another purchaser outbids the stalking horse?
The stalking horse typically negotiates certain bidder protections, including entitlement to be reimbursed for professional fees and out of pocket expenses incurred in doing its due diligence and negotiating the stalking horse contract. In sales of assets of sufficient size and complexity, there’s an entitlement to receive a break up fee, which is a fixed amount of compensation to be paid to the stalking horse for having exerted the effort to become the stalking horse, but where it is outbid by another purchaser. To be effective, however, the bankruptcy court must approve these provisions for payment of a break up fee or expenses before the sale takes place.
Who benefits most from Section 363 sales?
Section 363 sales are not always primarily for the benefit of the debtor seller and its general unsecured creditors. Secured creditors can also use these sale procedures effectively. Many civil courts are clogged with foreclosures. It can take months for even an uncontested foreclosure to reach the point of a public sale following a final judgment. Section 363 sales can streamline and shorten this process, allowing a secured creditor to credit bid its lien at the auction sale.
Where there is no equity in the asset to be sold, and therefore no benefit to the debtor’s estate to be realized from the sale, bankruptcy law prohibits the sale and generally requires that the fully liened asset simply be abandoned as burdensome, leaving the lien creditor to pursue foreclosure or other civil remedies outside the bankruptcy court. This prohibition, however, is usually overcome by the secured creditor agreeing to make a guaranteed payment to the debtor’s estate in an amount negotiated with the debtor, trustee or creditors committee.
For many reasons, Section 363 sales benefit both buyers and sellers, providing an effective means to make a timely sale of assets that might otherwise prove impossible.
Francis L. Carter is of Counsel to Katz Barron Squitero Faust. Reach him at [email protected].