In re Western Biomass Energy: Bankruptcy Court Disregards Results of Section 363 Sale Despite Fair Auction Process | Practical Law

In re Western Biomass Energy: Bankruptcy Court Disregards Results of Section 363 Sale Despite Fair Auction Process | Practical Law

The US Bankruptcy Court for the District of Wyoming, in In re Western Biomass Energy, LLC, denied confirmation of a section 363 sale because of the gross inadequacy of the sale price and because confirmation of that sale would unfairly result in partial payment to the secured creditor and leave no distribution for unsecured creditors. Instead, the Court held that higher post-auction bids could be considered, even though it could not find irregularities in the sale process.

In re Western Biomass Energy: Bankruptcy Court Disregards Results of Section 363 Sale Despite Fair Auction Process

by Practical Law Finance
Published on 24 Sep 2013 • USA (National/Federal)
The US Bankruptcy Court for the District of Wyoming, in In re Western Biomass Energy, LLC, denied confirmation of a section 363 sale because of the gross inadequacy of the sale price and because confirmation of that sale would unfairly result in partial payment to the secured creditor and leave no distribution for unsecured creditors. Instead, the Court held that higher post-auction bids could be considered, even though it could not find irregularities in the sale process.
On August 6, 2013, the US Bankruptcy Court for the District of Wyoming, in In re Western Biomass Energy, LLC, denied confirmation of a section 363 sale because:
  • The sale price was grossly inadequate.
  • Confirmation of that sale would unfairly result in partial payment to the secured creditor and no distribution for unsecured creditors.
Instead, the Bankruptcy Court allowed higher post-auction bids to be considered, even though it could not find irregularities in the sale process. This ruling sets a precedent that could potentially undermine the integrity of the sale process and its purpose of maximizing value efficiently.

Background

On October 31, 2012, the research and development ethanol plant Western Biomass, LLC (Debtor) filed a petition for bankruptcy under Chapter 11. On May 2, 2013, the Bankruptcy Court approved via an order (Auction Order) the Debtor's motion to conduct a section 363 sale or auction of substantially all of the Debtor's assets (Auction Motion). The Auction Order instructed the Debtor's court-approved financial consultant and liquidator, Great American Group, LLC, (Liquidator) to:
  • Market the Debtor's assets on a going concern and piecemeal basis for three weeks and submit qualified bids for the Debtor to consider during the same three week period.
  • Conduct an online auction if no going concern or piecemeal bid was accepted, or if certain assets remained unsold after a going concern or piecemeal bid was accepted. The Liquidator would operate the auction according to historical market practices, using its normal "Terms & Conditions of Sale." While the Liquidator had reasonable freedom in marketing and selling the assets, it was required to:
    • sell the assets "as is" and with no implied warranties;
    • sell the assets free and clear of all liens and encumbrances, with valid liens attached to the proceeds; and
    • collect a 25% deposit from all bidders to secure their bids.
In June 2013, because no going concern or piecemeal bid was accepted, the Liquidator conducted a two day online auction by which it sold the Debtor's assets for $525,000 (Auction Sale) to GeoSynFuels, LLC (GeoSyn). After the auction, but before the Bankruptcy Court confirmed the Auction Sale, American Process, Inc. (API) made an offer to purchase all of the Debtor's assets for about $1.2 million (Post-auction Sale). This offer included a $325,000 settlement between the Debtor's secured lender, Security National Bank of Omaha (Security Bank) and the Debtor with a carve-out for the administrative expenses of the estate and a distribution to unsecured creditors.
About ten days later, Security Bank filed an objection requesting that the Bankruptcy Court not confirm the Auction Sale, alleging that it should be set aside because of a grossly inadequate price and irregularities in the sale process. The Bankruptcy Court entered an order staying the Auction Sale until Security Bank's objection was resolved. Interested parties responded as follows:
  • The Debtor joined Security Bank's objection, requesting that the Court approve the Post-auction Sale and the settlement agreement between the Debtor and Security Bank, because it has a fiduciary duty to maximize the value of the estate.
  • The creditors' committee joined Security Bank's and the Debtor's objections, further arguing that bankruptcy courts are courts of equity, and that the only way for unsecured creditors to receive a distribution was if the Bankruptcy Court denied the Auction Sale and approved the Post-auction Sale.
  • GeoSyn argued that the Auction Sale should be confirmed because:
    • the purchase price was not grossly inadequate and represented market value; and
    • the sale procedures were followed as outlined in the Auction Motion.
  • The Liquidator took no position about whether the Auction Sale should be confirmed, but objected to any finding that it did not conduct the auction according to the Auction Order, historical practices and industry standards.

Outcome

In denying the confirmation of the Auction Sale, the Bankruptcy Court stated that the purpose of a section 363 auction is to attain the highest and best offer for the assets sold and serve the best interest of the estate and its creditors. It explained that to maximize sale proceeds for creditors, bankruptcy courts have broad discretion to reopen an auction or hold a second auction to consider another bid. The Bankruptcy Court noted that under Tenth Circuit precedent, a judicial sale will not be denied confirmation or set aside for an inadequate price unless "the price is so grossly inadequate as to shock the conscience of the court and is coupled with slight additional circumstances indicating unfairness."
Considering this precedent, the Bankruptcy Court determined that:
  • The Auction Sale price was grossly inadequate. According to the evidence, which included a professional appraisal of the Debtor's assets, the Court found that the Auction Sale price was less than 50% of the value of the Debtor's estate.
  • There were additional circumstances that indicated unfairness in that the Auction Sale provided only a partial payment to one secured creditor, leaving all unsecured creditors with nothing and denying the possibility of a distribution to unsecured creditors from the proposed settlement with Security Bank.
  • There were no irregularities in the sale process. Although GeoSyn did not post a 25% deposit with the Liquidator, in technical violation of the Terms & Conditions of Sale adopted and incorporated in the Auction Motion, GeoSyn ultimately paid its full bid amount to the Liquidator. Furthermore, the Auction Motion gave the Liquidator a considerable amount of leeway in marketing and selling the assets.
Therefore, although the Bankruptcy Court concluded that the sale process was not compromised, it held that the gross inadequacy of the Auction Sale price, combined with the lack of a distribution to unsecured creditors, were grounds to deny confirmation of the Auction Sale. The Bankruptcy Court also denied confirmation of the sale to API and the settlement because of evidence that there was at least one other entity willing to bid on all of the assets of the estate, holding that it was in the best interest of the estate and its creditors to allow interested parties to bid.
On August 14, 2013 GeoSyn filed an appeal, which is still pending.

Practical Implications

This decision illustrates the fundamental tension between the estate's interest in obtaining the best and highest offer and its need to maintain the integrity of the auction process. In favoring the former objective, it sets a precedent that could potentially undermine the integrity of the auction process and its purpose of maximizing value efficiently. If bankruptcy courts can consider post-auction bids even after a winning bid is selected at a full and fair auction, interested parties may fail to participate in the auction and instead submit winning post-auction bids.
The US Bankruptcy Court for the District of Delaware was recently confronted with a similar situation in In re Allied Systems Holding, Inc. In this case, the creditors' committee objected to approval of the winning auction bid, questioning whether the auction was conducted in a fair, open and transparent manner. It then presented a higher post-auction bid and requested that the Court reopen the auction, stating that this would eliminate procedural objections to approval of the winning auction bid and would allow the Court "to focus its time and attention determining the real issue before the Court – which bidder has submitted the highest and best bid for the Debtors’ assets in accordance with section 363 of the Bankruptcy Code." Without determining whether or not the auction was conducted fairly, the Court agreed to reopen the auction to allow all bidders another opportunity to purchase the assets, noting that this action would offer the material benefit of mooting the procedural objections relating to the sale process.
Both cases serve as a reminder that section 363 sales are not final until the bankruptcy court approves the sale.
For more information on the section 363 sale process, see Timeline of a Section 363 Sale and the following Practice Notes:

Court Documents