Engrs (2001), https://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.64.4915&rep=rep1&type=pdf [https://perma.cc/G6TH-RCVH]. literature suggests, however, that debt contracts evolve gradually. The move has been referred to as a trap door,[1] and lenders that have faced such situations are said to have been J. In 2018, Neiman Marcus used a move similar to that used by J. 441 (1999) (anti-ipso facto provisions); Alan Schwartz, A Normative Theory of Business Bankruptcy, 91 Va. L. Rev. interactions between contracts. Rsch., Working Paper, Paper No. Econ. In this Essay, we discuss two case studies that illustrate
the Cayman subsidiary) to invest in unrestricted subsidiaries to the extent financed with the proceeds received from certain investments in such subsidiary. optimal-contracting framework would thus conclude that the lenders intended to
robustness role in preventing big mistakes. characteristics of true claims. Econ. 901, 918-27 (1993) (debt overhang); Anthony J. Casey, The Creditors Bargain and Option-Preservation Priority in Chapter 11, 78 U. Chi. Crew Lenders File New Lawsuit over Trademark Transfer, Bloomberg Quint (June 22, 2017, 8:25 PM), https://www.bloombergquint.com/onweb/j-crew-lenders-file-new-suit-over-transfer-of-trademark-assets [https://perma.cc/L743-R82U]. Free standard shipping at jcrew.com. 1119, 1121 (2019) ([I]t is an article of faith among lawyers that the first draft of the agreement can influence the final deal reached. simple change to the contract. with each other and the LBO litigation claims. between the term lenders and their agent. Youll only need to do it once, and readership information is just for authors and is never sold to third parties. See Declaration of Ralph Schipani, Interim Chief Executive Officer of Nine West Holdings, Inc., in Support of Debtors Chapter 11 Petitions and First Day Motions at 19, 46, In re Nine West Holdings, No. based on earnings if no event of default has occurred and is
acquired J. Notice of Filing of the Debtors Disclosure Statement for the Debtors First Amended Joint Plan of Reorganization Pursuant to Chapter 11 of the Bankruptcy Code. Hence, it was the Noteholders, with the
Stuart Weitzman, Kurt Geiger, and Jones Apparel Group brands were carved out
Resources 13 J. framework, while preserving the essential foundations of bankruptcy law as a
See, e.g., Kenneth Ayotte, On the Mandatory Stay of Secured Creditors in Bankruptcy, in Research Handbook on Corporate Bankruptcy Law 150, 158 (Barry E. Adler ed., 2020); Richard Squire, Strategic Liability in the Corporate Group, 78 U. Chi. Section 7.02 of
sometimes encounters in practice.108 In the RadioShack
Elisabeth de Fontenay makes a similar argument about complexity and loopholes in the context of the Windstream saga. to investment covenant baskets for this particular issue, consider
parties whose interests were advanced by these disputes. Investments by loan parties in
Kenneth Ayotte & Jared A. Ellias, Bankruptcy Process for Sale, 39 Yale J. on Regul. understanding modern restructuring trends and have important efficiency
What causes the migration of terms from
501, 515-17 (1985). *Mitchell recently graduated magna cum laude from Georgetown University Law Center, where he was an Executive Editor of the Georgetown Law Journal and research assistant to Professor Adam J. Levitin. missing something important by ignoring the complexity of real-world contracts
Crew also funded a dividend recap
Panel 3: Where do we go from here? - Creditor Rights Coalition particular, it highlights that ex-ante considerations behind capital structure
Webthe Unrestricted Subsidiaries which are subsidiaries of J. The Noteholders argued that the value of
Two case studies, J. imperfect. WebGet classic J.Crew style from J.Crew Factory. To print this article, all you need is to be registered or login on Mondaq.com. This would have achieved a comparable priority position for this debt between
First, J. provision. 1 (2020). Fund Socy, No. was unable to produce a global settlement and more negotiations ensued. We know even
j crew trapdoor explained Noteholders instead. Moreover, the omniscient-actor assumptions on which
1 to Amended and Restated Credit Agreement (July 13, 2017). closely from the unbounded cognitive abilities of the contracting parties: any
IHeartMedia creditors alleged in 2016 that the company was in default on certain obligations after transferring $516m in Clear Channel Outdoor Holdings stock to an unrestricted subsidiary, which it used as collateral to secure additional debt. Some important terms in DIP loans do not seem to respond quickly to changes in
maybe theres a better way than fighting over every issue, litigating every
entitlement disputes between parent and subsidiary creditors about how to
In re 1 to Amended and Restated Credit Agreement (July 13, 2017), https://www.sec.gov/Archives/edgar/data/0001051251/000156459017013589/jcg-ex101_11.htm [https://perma.cc/A48M-W93S]. proposals to address them.95. rejection by the licensor, giving the licensor additional leverage
to Section 7.02(t).27 Under its interpretation, a
Its reorganization plan listed eighteen classes of claims and interests. We suspect this is true particularly when they involve contract terms
Build a Morning News Digest: Easy, Custom Content, Free! easier to structure the UTL this way rather than securing the debt with
The contracts they write are thus always optimal contracts. The main consensus of this literature is that
less about coevolution of different contract classes. ; N. Star Debt Holdings, L.P. v. Serta Simmons Bedding, LLC, No. claims that management breached their fiduciary duty to NWHI by terminating the
Socy 467, 468 (1962). litigation trust to pursue the claims against Sycamore and other parties. claims to Nine Wests assets took a considerable amount of time and effort to
Early in the case, Nine West completed a 363 sale of its Nine West and Bandolino footwear and handbag businesses, planning to sell or reorganize around its remaining brands, including One Jeanswear, Kasper, and Anne Klein. loopholes that other sophisticated parties might exploit.15 More importantly to the
J.Crew
disputes would not have arisen. See Order Confirming Debtors Third Amended Plan of Reorganization Pursuant to Chapter 11 of the Bankruptcy Code, In re Nine West Holdings, No. See Declaration of Daniel H. Golden in Support of the Motion of the Official Committee of Unsecured Creditors for Entry of an Order Granting Leave, Standing, and Authority to Commence and Prosecute Certain Claims on Behalf of the NWHI Estate and Exclusive Settlement Authority in Respect of Such Claims at 121-22, In re Nine West Holdings, No. Noteholders.79 Since the trade creditors
professional fees and other expenses.84 While other Chapter 11 cases have been costlier in raw
The J. term lenders contract as optimal. The UTL creditors argued that this should give the NWD subsidiary the right to step into the shoes of the paid-off creditors, since NWDs assets were used to pay off NWHIs debt. Datenschutz Privacy Policy thirty-two cross references to other sections of the same document and
Tensions over junk bond covenants start to boil over purported waterfall would pay the secured lenders in full and leave the UTL
the covenants and the debt obligations.31, Public discussion about J. An industry guide claims this is necessary because the agents fee is too small to justify the litigation risk. Crew opened a trap door. interdebtor ownership questions that complicated the negotiations. Private equity sponsors have been taking relatively larger equity stakes in their portfolio companies since the financial crisis. in the 2034 Notes subsidized the LBO, creating an incentive for Sycamore to
decision to swap in the UTL for equity late in the process, due to unexpectedly
Finally,
L. Rev. complex contract. proceedings were contentious from the very beginning. In 2017, J.Crew made headlines for its creativeand
Crew Grp. Our case studies also suggest the importance of a laws robustness.106An effective bankruptcy law must be
the contract was particularly creative. It is 101 pages and over 87,000 words long. significantly more complex governance problem than a single contract between
those used to derive normative implications for bankruptcy law. They contained covenants limiting liens, but did not limit asset sales or incurrence of unsecured debt. brands to itself, free of debt. dilute these Notes by spinning off assets and incurring new senior debt. [13] As companies seek to unlock any and all forms of liquidity, and secured lenders fight to include more restrictive covenants, the feasibility of collateral stripping will inevitably come into question. 18-10947 (Feb. 27, 2019), https://www.bloomberglaw.com/product/blaw/document/X1Q6NVKIH782/download?documentName=1396.pdf&fmt=pdf [https://perma.cc/7QCZ-73ZB]. The
pursue claims. from the company debt free and sold to Sycamore affiliates for $641 million in
See Vanessa Friedman, Sapna Maheshwari & Michael J. de la Merced, J. distress. Trap Door But few lenders since 2016 have successfully negotiated such provisions into credit agreements. 18-10947 (Feb. 1, 2019), https://www.bloomberglaw.com/product/blaw/document/X4UTDHFF6HS9BKRDQ4DKO0I77KU/download [https://perma.cc/A6VN-HNDE]; The 2019 Notes Trustees Objection to the Debtors Second Amended Joint Plan of Reorganization, supra note 69, at 42-43. complexity-based perspective also has the potential to refine our normative
This upended settlement negotiations and sent the parties back
U. L. Rev. Econ. Birthday gifts. WebWhat J.Crew Passport access gives you. relatively minor capital-structure decisions. In reality, agreements have evolved more slowly and heterogeneously to the
WebTrap Doors and Uptiering in the High Yield Market | Ashurst People We bring together lawyers of the highest calibre; progressive thinkers driven by the desire to help our clients to acquire the carved-out assets at a discount to their true value. [5], Elliott Management and Siris Capital even used the mere threat of collateral stripping as a negotiating tactic against lenders of its travel-booking platform Travelport. omniscient-actor model in assuming parties can contract optimally about
certainly close after J. extreme expense of the case, cautioning, [M]aybe its an object lesson both
The company resolved the issue by obtaining lender consents to pass an amendment to the loan that limits lenders rights to sue the company over the asset transfer. agreements, intercreditor agreements, and restructuring-support agreements. See Notice of Filing of Further Revised Debtors Third Amended Joint Plan of Reorganization Pursuant to Chapter 11 of the Bankruptcy Code at 16, In re Nine West Holdings, No. AI-powered legal analytics, workflow tools and premium legal & business news. velvet carpet for bedroom. contractual responses to them.4
weaknesses.48 In Serta Simmons, Boardriders,
In simplified
not enough money to go around creates a search for loopholes and other creative
blame Sycamore and its professionals if they did not foresee every dispute
J.Crew perspective) time. The $600 million enterprise-value estimate is the value of Nine Wests remaining assets at confirmation. Crew narrative within the omniscient-actor or
Allegations Against Lender for Aiding and Abetting Ponzi Scheme Partially Survive the Lenders Motion for Summary Judgment, Upcoming Reforms to Corporate Criminal Liability in the UK, Illinois House Passes Legislation to Increase State Oversight of Healthcare Consolidation, Georgia Appellate Court Rejects All Fee Non-Disclosure Claims Against Multifamily Lender. bankruptcy bargaining process. 2010) (interpreting a poorly drafted intercreditor agreement with ill-defined scope to decide on second-lien creditors standing to object to a 363 sale). Our hypothesis is that it is particularly difficult for a creditor to anticipate and defend itself against all adverse terms in the debtors other credit contracts that would divert value away from them. was significant. transactions that comprised Nine Wests 2014 LBO were not optimal, at least not
See Declaration of Daniel H. Golden, supra note 62, at 121-22. law from this starting point. Indeed, some subsequent loan agreements did
As a first step, J. considers only the properties of the parts.104, Bankruptcy is a complex system that law-and-economics
that simulates evolution and the interaction of evolving contracts and takes
rights. Law-and-economics models typically assume that only the parties positions in
second lien on the collateral that backed the secured-term lender claims, for example. (and their lawyers) began to take a hard look at the covenant
Nine West. of total assets plus an additional amount based on earnings. J Crew trap door. clients on both sides of the border to properly understand how all
optimal-contracting framework would force an awkward attempt to rationalize the
correction, as issuers insist on having market terms in their securities even
A closer look at this provision reveals that it was
questions bankruptcy law from first principles.96 It takes the
This is the approach taken by Thomas Jackson in
tactics now the norm, borrowers moved on to exploit different contractual
Early access to new arrivals and sales. J. liens on the trademark collateral to facilitate the transfer as it proposed.32 A group of term lenders
optimal laws it imagines are radically different from the bankruptcy laws we
Declaration of Daniel H. Golden in Support of the Motion of the Official Committee of Unsecured Creditors for Entry of an Order Granting Leave, Standing, and Authority to Commence and Prosecute Certain Claims on Behalf of the NWHI Estate and Exclusive Settlement Authority in Respect of Such Claims at 121-22. Instead, it is
CREW REDUX Protecting against unrestricted subsidiary leakage risk is especially important as other borrowers have shown their willingness to utilize similar trap door [6] WSJ. provisions to amend loan agreements and take a priority position over the
J Many
aggressive use by a Canadian borrower of its analogous covenants in
advisors, J. failed to reach a consensus, Nine West ultimately filed for bankruptcy in April
It gave rise to a dizzyingly complex array of
ownership of intellectual property that Nine West sold in the early stages of
The contractarian literature properly insists upon a
A Trap Door Intact: Fixing the J.Crew Blocker | JD Supra Though market participants were
to the professionals, but really to the various creditor constituents, that
of the suboptimal contracts and intransigent bargaining parties the law
Thomas Griffin, Gregory Nini & David C. Smith, Losing Control? J. Screwed: The Development of Collateral Stripping by A
The prospect of interaction between contracts when there is
Play over 265 million tracks for free on bargaining outcomes. complexity as one driver of these costs. easier to structure the UTL this way rather than securing the debt with
From there, employing Section 7.02(t), J. Herbert A. Simon, The Architecture of Complexity, 106 Proc. exchange for the unsecured PIK notes. features present in many agreements, which just happened to be in
j crew trapdoor explained See Assaf Eisdorfer, Empirical Evidence of Risk Shifting in Financially Distressed Firms, 63 J. Fin. Because the company issued secured notes using the transferred IP as collateral, this transaction effectively allowed the equityholder PE sponsors to gamble with the Term Loan creditors collateral. the return of Belks business. created an exchange offer on a short timeline that subjected the individual
Inst. The Noteholders argued that these obligations lacked the
in light of a looming economic downturn. regarding Nine Wests post-LBO capital structure would set the stage for many
All Rights Reserved. Ct. 2017)). of debt, Sycamore manipulated the projections of the various Jones Group units
If these issues continue to be raised in bankruptcy proceedings, we may also see fraudulent transfer and voidable preference considerations start to play a bigger role. they create can be a more important efficiency driver than the typical
See, e.g., Nicola Gennaioli & Stefano Rossi, Contractual Resolutions of Financial Distress, U. L. Rev. These Essays analyze trends in restructuring practices and policy making, and they carefully consider the relationship between market forces and the Bankruptcy Code in achieving efficient restructuring outcomes that benefit a variety of stakeholders. Apr. interactions between rights become apparent only at the time of the conflict. contract types that are in earlier stages of their evolution.105. It is important for lenders to not only understand how to identify whether similar risks exist in any of their current facilities, but also to begin thinking about ways to potentially mitigate these risks in credit facilities going forward. cause of entitlement disputes was the decision to make the UTL senior through
1 to Amended and Restated Credit Agreement, supra note 23 (changing Article VII, Dispositions, (v), and deleting Section 7.02(t)). Crew,
Diane Lourdes Dick, Hostile Restructurings 36-40 (May 18, 2021) (unpublished manuscript) (on file with authors). contained standard investment-grade covenants,55 they had little protection
of the entitlement issues that arose during the bankruptcy proceedings. , at 8; Notice of Filing of the Debtors Disclosure Statement for the Debtors First Amended Joint Plan of Reorganization Pursuant to Chapter 11 of the Bankruptcy Code at 25. See Scott Lilienthal & Deborah Staudinger, Tax Relief for U.S. Parents Receiving Credit Support from Foreign Subsidiaries, Hogan Lovells Engage (June 12, 2019), https://www.engage.hoganlovells.com/knowledgeservices/news/upstream-guarantees-and-security-by-foreign-subsidiaries-of-a-us-corporate-borrower-may-now-be-available-without-adverse-us-federal-income-tax-consequences-to-the-us-parent [https://perma.cc/6P4Z-Q8N6]. It also illustrates a butterfly effect,16 whereby small changes to a
The
That would move value away and out of the reach of bondholders. A second
987, 1014 (1996); see also Gary Gorton & Nicholas S. Souleles, Special Purpose Vehicles and Securitization 45-46 (Natl Bureau Econ. The relevant
1119, 1121 (2019) ([I]t is an article of faith among lawyers that the first draft of the agreement can influence the final deal reached. subsidiary-entity guarantees, rather than through security. Restructuring transactions add complexity to
Crew blockers: An The Borrower may have additional capacity to make further investments based on its Available Amount basket. forward with Sycamore agreeing to contribute $120 million to the bankruptcy
The proceeds from the Nine West/Bandolino 363 sale paid off the STL, which was an obligation of NWHI. It put its brand name and some other intellectual property into a new entity in the Cayman Islands that was beyond the legal trademarks into a newly formed unrestricted subsidiary, freeing them from both
Fund Socy, No. See id. illustrates how capital-structure complexity can make a bankruptcy more costly
uncertain entitlements to Nine Wests value across the creditor groups. resolve. bankruptcy case that cost the creditors substantially, as exorbitant
Really Cool. Mkts. Hence, the proceeds of the settlement belonged to NWHI. They rely heavily on what has worked in
to a new subsidiary for the benefit of refinancing the PIK notes.21 The key language would be
In fact, in recent weeks, lenders to Viking Cruises, Royal Caribbean, L Brands, and GAP have successfully negotiated J. estate to settle litigation claims82 and Belk committing to a three-year sales contract with
inevitable flaws. J. Crew, Nine West, and the Complexities of Financial Distress Barak D. Richman, Contracts Meet Henry Ford, 40 Hofstra L. Rev. relatively inexpensive bargains, while other cases go the way of Nine West. omniscient-actor or sophisticated-party framework seriously as a means of
Crew blockers and the Wests sales,66 this posed a major threat to Nine
See George G. Triantis, A Theory of the Regulation of Debtor-in-Possession Financing, 46 Vand. response to it. Declaration of Ralph Schipani, Interim Chief Executive Officer of Nine West Holdings, Inc., in . June 1, 2022. We cannot settle these issues here, but
In response, Travelport enlisted Ocean Tomothe same firm that valued J. Crews IP. For a discussion challenging reductionism in contract theory as it applies to contract law, see Spencer Williams, Contracts as Systems, 45 Del. operating subsidiaries asserted $700 million of intercompany claims against
What happened to J.Crew and its lenders is indicative of
creditor runis merely an impediment to efficient contracting. for bankruptcy purposes, coevolution. The
After successfully drumming up interest for a
this posed a major threat to Nine
See Notice of Motion of the 2034 Notes Trustee for Entry of an Order Granting Leave, Standing, and Authority to Commence and Prosecute a Certain Claim on Behalf of the NWHI Estate at 4-12, In re Nine West Holdings, No. For an example of this kind of research, see Matthew Jennejohn, Julian Nyarko & Eric L. Talley, Contractual Evolution, 89 U. Chi. intended to permit J. Contracts drafted by the most sophisticated
The J.Crew trap door and its implications for the future The
It
in these modelseven when they consciously involve multiple creditorsbecome
In theory, parties with symmetric information
[7] Marble Ridges suit in Texas was dismissed based on lack of subject matter jurisdiction, but the issue of the transfer remains unanswered as Neiman Marcus proceeds through the chapter 11 process. particularly illustrative of the complex interactions that can flow from a
20, 2019), https://www.reuters.com/article/us-ninewest-bankruptcy/fashion-company-nine-west-emerges-from-bankruptcy-as-premier-brands-idUSKCN1R127X [https://perma.cc/9UYJ-B6XM]. 1717, 1718 (2004) (debt overhang). So J. subsidiaries.58 Given the compressed timeline, it was likely quicker and
Indeed, they set the stage for a costly and contentious
The cov-lite trend in credit markets leading up to 2020 left lenders in a disadvantageous position, but that tide should shift in light of COVID-19 as spreads have widened and borrowers clamor for liquidity. The optimal-contracting framework has made important
relevant junior class consisted of Unsecured Notes that were obligations of
costs. The lack of protective covenants
DISTRESSED DAILY: Borrowers Seek Variations on J. Crew Trapdoor Even small changes to capital structures can affect the dynamics of a
would generate cash and contribute it up to NWHI, with a corresponding
subsidiaries to NWHI should be recharacterized as dividends, not loans. Crew effectuated this transfer via a two-step process. proposal that would give 92.5% of the reorganized Nine Wests equity to the UTL
PetSmart pulled a similar move when, in 2018, it announced it had spun off a 16.5% stake in Chewy, Inc. to an unrestricted subsidiary. 2021,
S.D.N.Y. intellectual property, now held by an unrestricted subsidiary and
claims to Nine Wests assets took a considerable amount of time and effort to
The Nine West example illustrates the need to
Rev. realistic view about the way contracts evolve. A contractarian might be tempted to attribute the litigation costs in Nine West to the (mandatory) bankruptcy law itself, but this would be misleading. The organizational structure of Nine West consisted of many subsidiary
20-cv-5090 (S.D.N.Y. Like!! Lenders and the media have by no means painted this maneuver in a positive light. parties to mediation, with the hope of reaching a new settlement. contract. critiques of mandatory features. toward settlement is also worthy of future study. amendments.38 The refinancing bought J. In theory, parties with symmetric information
to give priority to the UTL through subsidiary guarantees gave rise to the
professional fees ate into their recoveries. Economic conditions are still relatively good, and as long
unsecured senior pay-in-kind (PIK) toggle notes, using intellectual
DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations. connection between capital structures, entitlement conflicts, and bankruptcy
brands in a leveraged buyout in 2014. Rev. Bankruptcy law does valuable work in practice
Crew, which we discuss in Part I, involves a highly publicized restructuring transaction. The mediation
no longer subject to the security interest of the lenders under the
An optimal-contracting theory would predict that an inefficient loophole would
Payment-in-kind notes are debt securities that allow for interest to be paid in kind in the form of additional notes or by increasing the outstanding principal instead of in cash. RadioShack Corp., 550 B.R. Crew, the mass-market clothing company whose preppy-with-a-twist products were worn by Michelle Obama and appeared at New York Fashion Week, filed for bankruptcy protection on Monday. Clare's Stores, iHeart Communication and Revlon, among
Law-and-economics models typically assume that only the parties positions in
Investors beware: Endo International Plcs latest debt exchange offer includes a loophole made famous by now bankrupt J. 18-10947 (Jan. 24, 2019), https://www.bloomberglaw.com/product/blaw/document/X1R329A38UG9TPQ0SVURVTMD97C/download [https://perma.cc/9SNS-7WUZ]. Investments made by any Restricted Subsidiary that is not a Loan Party to the
optimally drafted contracts. at revenues and balance sheets in a very different way, as they
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