- April 27, 2018
The Court of Appeals for the Second Circuit issued its long-awaited opinion in In re MPM Silicones, L.L.C. (“Momentive”) this past October, holding that in Chapter 11 reorganizations, bankruptcy courts should use the market rate to determine the interest rate for cramdown under § 1129(b) of the Bankruptcy Code (the “Code”). The Second Circuit’s decision signals a growing trend among the federal circuits to use a market rate when determining cramdown interest rates. The Seventh Circuit, which binds bankruptcy courts in Illinois, Wisconsin, and Indiana, has not decided this issue yet. If this issue did reach the Seventh Circuit, a reviewing court would likely look at the Second Circuit’s holding because of the weight courts afford Second Circuit precedent in bankruptcy cases.
Background: the Cramdown Statute & Till v. SCS Credit Corp.
Cramdown under the Bankruptcy Code
A debtor filing for Chapter 11 protection may design a plan that outlines its emergence from bankruptcy. Common aspects of reorganization plans include loan restructurings, future business plans, and financial projections.
The Code provides two ways to confirm a plan. The first way is with the consent of all creditors under § 1129(a), which lists sixteen requirements that a plan of reorganization must meet to be confirmed. Among these requirements is the consent of each class of creditors or interest holders. The second way is over the objection of a creditor under § 1129(b), a process affectionately known as “cramdown.” Cramdown “permits the proponent (with the approval of the court) to rewrite the terms of the creditor’s contract, imposing terms that the court finds fit in lieu of terms negotiated by the parties.” Although all other requirements of § 1129(a) still apply, § 1129(b)(1) adds a new requirement in lieu of class consent: the plan proponent must show that the plan does not discriminate unfairly against the dissenting class, and is fair and equitable as to that class.
Section 1129(b)(2)(A)(i) states that one way of providing fair and equitable treatment is for a plan to provide that secured creditors that objected to the plan “retain the liens” securing their claims and “receive on account of such claim deferred cash payments totaling at least the allowed amount of such claim, of a value, as of the effective date of the plan, of at least the value of such holder’s interest in the estate’s interest in such property.” In other words, a debtor can unilaterally renegotiate a loan with a creditor as long as the new loan contains an appropriate interest rate that will provide the creditor with the present value of its allowed claim. The Code, however, does not state how to determine the appropriate interest rate for these deferred cash payments.
Till v. SCS Credit Corp.: Cramdown Rates in Chapter 13
In Till v. SCS Credit Corp., the United States Supreme Court addressed the appropriate interest rate under the cramdown provision of Chapter 13 of the Code, whose language mirrors the language in its Chapter 11 counterpart. The issue in Till was a Chapter 13 debtor’s sub-prime auto loan, carrying an interest rate of 21% and providing the creditor with a $4,000 secured claim. Till proposed a Chapter 13 repayment plan with a cramdown interest rate of 9.5% on the remaining $4,000 value of the truck. The 9.5% was based on 8%, representing an average car loan, plus 1.5% added for Till’s “subprime” credit status.
A plurality of the Supreme Court determined that to establish the appropriate cramdown interest rate, the “formula approach” was the proper method. This approach “begins by looking to the national prime rate” and “then requires a bankruptcy court to adjust the prime rate” by adding a risk premium of 1–3%. The Court rejected a market-based approach, one that looks to the interest rate an efficient market would produce, because “there is no readily apparent Chapter 13 ‘cram down market rate of interest’: because every cram down loan is imposed by a court over the objection of the secured creditor, there is no free market of willing cram down lenders.”
Courts have consistently been reluctant to apply Till to Chapter 11 cases because, in many instances, a market exists (e.g., bond markets, exit financing facilities) that would allow a court to determine the proper cramdown rate. Regardless, the Supreme Court did not address this issue, leaving the proper approach in Chapter 11 undetermined.
Momentive: Bankruptcy Court Adopts Till in Chapter 11 Cases
The bankruptcy’s court application of Till in Momentive includes a case involving a large, publicly traded company. After the company filed its Chapter 11 petition, the company sought to restructure the terms of three series of secured notes the company had issued. Because these notes had an aggregate principal value of over $2.5 billion, and Momentive’s debt service was $288 million per year, Momentive wanted to take advantage of the fact that interest rates had dropped in the years since it initially issued the notes. The interest rate Momentive proposed was low, which resulted in a $200 million loss to the creditors. Momentive relied on Till’s formula approach—despite the fact that Momentive’s notes were publicly traded and Momentive had secured exit financing—using the rate payable to the seven-year Treasury note rate plus a risk adjustment upward.
The bankruptcy court supported Momentive’s reliance on Till. Because the cramdown statute in Chapter 13 (§ 1325(a)(5)) does not require a market-based analysis, but rather permits a discount rate tied to the prime rate, the court determined that the same analysis applied in Chapter 11. The court compared the two provisions, §§ 1325(a)(5) and 1129(b)(2)(A)(i)(II), and concluded that “there is no sufficiently contrary basis to distinguish the Chapter 13 and Chapter 11 plan contexts in light of the similarity of the language of the two provisions and the underlying present value concept that Till recognized should be applied uniformly throughout the Code.” The court dismissed various market-based discount rates produced by the coerced loan and presumptive contract rate. These methods sought to give the secured creditor, in essence, a refinanced new loan by using a discount rate provided by the market and the individual costs of the creditor.
Momentive: Second Circuit Adopts the Market-Based Approach, Spurns Till
The Court of Appeals for the Second Circuit overturned the bankruptcy court, finding that “disregarding available efficient market rates would be a major departure from long-standing precedent dictating that ‘the best way to determine value is exposure to a market.’” The Second Circuit then articulated its new two-step approach to determine cramdown interest rates in Chapter 11. First, the bankruptcy court must determine whether an efficient market exists. If one does, then the court should apply the market rate to the new loans. If an efficient market does not exist, then the court should employ the formula approach. The Second Circuit also explicitly rejected the notion that the Till plurality concluded that market rates are irrelevant in determining value in the Chapter 11 cramdown context.
Conclusion: Potential Effects
Following Momentive, the prospect of sticking a secured creditor with a below-market interest rate through cramdown of a plan of reorganization is no longer a possibility in the Second Circuit. Instead, when a market rate can be determined, that is the rate the secured creditor will receive. If an efficient rate does not exist, then the formula approach applies. Thus, in the Second Circuit, it seems as though the fight between secured creditors and debtors over cramdown will shift to whether an efficient market exists, rather than how to calculate the interest rate. Notably, in Momentive, the Second Circuit (which binds Bankruptcy Courts in New York, Connecticut, and Vermont) adopted the two-pronged approach first articulated by the Sixth Circuit (which binds Bankruptcy Courts in Michigan, Ohio, Kentucky, and Tennessee). Thus, while its foundation may be buckling, the Supreme Court precedent of Till is still very much relevant in the Seventh Circuit and elsewhere.
Prospective Chapter 11 debtors should be aware of recent changes in the law when evaluating potential forums for their bankruptcy cases. Secured creditors who find themselves in a cramdown scenario should be current on the law regarding the determination of market rates in their jurisdiction and the basis for the Momentive decision. To date, no other Circuit Court of Appeals has ruled—either consistent with or contrary to the Second and Sixth Circuits—as to the proper approach to determine interest rates in the context of cramdown.
 874 F.3d 787, 800 (2d Cir. 2017).
 11 U.S.C. § 1129(a).
 6 William L. Norton, Jr. & William L. Norton III, Norton Bankr. L. & Prac., § 113:1 (3d ed. 2015).
 Id. § 1129(b)(1). The latter requirement—that the plan be fair and equitable to the dissenting class—was at issue in Momentive.
 11 U.S.C. § 1129(b)(2).
 In re Southern States Motor Inns, Inc., 709 F.2d 647 (11th Cir. 1983), cert. denied, 465 U.S. 1022 (1984). Present value is represented by the formula PV = P/(1+i)n, where P is the future amount, i is the discount rate expressed as a decimal, and n is the number of periods discounted.
 541 U.S. 465 (2004) (plurality opinion).
 The national prime rate reflects the “financial market’s estimate of the amount a commercial bank should charge a creditworthy commercial borrower to compensate for the opportunity costs of the loan, the risk of inflation, and the relatively slight risk of default.” Id. at 479.
 Id. at 478–79. The risk premium is necessary, the Court held, because bankrupt borrowers pose a higher risk of nonpayment. Id. at 479.
 Id. at 476 n.14.
 See Bruce A. Markell, Fair Equivalents and Market Prices: Bankruptcy Cramdown Interest Rates, 33 Emory Bankr. Dev. J. 91, 121–23 (2016). See generally id., for a thorough discussion of the facts and bankruptcy court’s holding in Momentive.
 Momentive, 2014 WL 4436335, at *24.
 Id. at 25.
 Id. at 24.
 Id. at 25 (quoting (GMAC v. Valenti (In re Valenti), 105 F.3d 55, 63–64 (2d Cir. 1997)).
 Momentive Performance Materials Inc. v. BOKF, NA (In re MPM Silicones, L.L.C.), 874 F.3d 787, 800 (2d Cir. 2017).