Betting on the House: The Dueling Caesar's Bankruptcies

It's turning into a wild week in Chapter 11 with the dueling bankruptcy petitions for Caesar's Entertainment.  On Monday, an involuntary petition was filed in Delaware against Caesar's by some of its Second Lien noteholders. Today, Caesar's filed a voluntary petition in the Northern District of Illinois. It's not the year of the Four Emperors yet, but it is the year of the Two Caesar's petitions.  

So what's going on? Here's the story, at least as I've been able to figure out so far.  It's a sordid and quite fascinating tale of private-equity vs. hedge funds grappling in an age-old bankruptcy dance: the squeeze play. 

Caesar's was bought in 2008 by Apollo, a private equity firm. Caesar's has been losing money ever since. Apollo saw the handwriting on the wall and starting to attempt to restructure:  it transferred various assets to related entities (and these transfers apparently eliminated a parent guaranty of Caesar Entertainment's debt). Some of Caesar's creditors weren't so happy about those transfers and alleged that they were fraudulent transfers. Caesar's shot back and claimed that the unhappy creditors (such as activist hedge funds Elliot and Appaloosa) were in fact short (via CDS) and were making allegations to push Caesar's off the cliff and collect on the CDS. 

Against this background, Caesar's cut a deal with its 1st lien debt in the form of a plan support agreement or "lock-up".  Most of the holders of the 1st lien debt promised to support a plan that would apparently give the equity in reorganized Caesar's to the 1st lien creditors and to Apollo, while giving little to nothing to the 2d lien notes.

That's the bankruptcy squeeze play:  equity teams up with the senior creditor to squeeze out the junior creditor. That was the Paul Cravath-Robert Swaine-J.P.Morgan (the man, not the bank) special, and was the hallmark of equity receiverships for railroads and real estate prior to the Chandler Act of 1938 and Justice Douglas's ruling in Case v. Los Angeles Lumber that a Chapter X plan required compliance with the absolute priority rule, meaning no one junior can be paid a cent until everyone senior has been paid in full. Today, bankruptcy law does not require adherence to absolute priority--unless a plan is confirmed through cramdown, meaning that the plan is not supported by the requisite majorities of all impaired classes of creditors and equityholders.  

Now, apparently, one of the terms of the plan support agreement was that Caesar's had to file a bankruptcy petition between January 15th and 20th, 2015. Moreover, in at least one draft of the plan support agreement, Caesar's was supposed to miss a $225M interest payment on the 2d lien notes that was due on December 15th. 

Caesar's did in fact fail to make the interest payment on the 2d lien notes. Caesar's claims it has a "grace period," on the payment, but that would seem to refer to the 30 day cure period before the trustee of the 2d lien notes can accelerate and sue for the principal; there's no grace period for action to collect the past due interest. 

On Monday (Jan. 12), some of the 2d lien noteholders (Appaloosa, Elliot) filed an involuntary petition against Caesar's in Delaware. Why do this when Caesar's was going to file a voluntary anyhow in just a few days? I'm not 100% sure, but I can think of a few of reasons.

First, this involuntary stops the clock on the statute of limitations for fraudulent transfer actions. Second, the involuntary lets the creditors choose the jurisdiction, and perhaps the creditors prefer 3d Circuit/Delaware law on some issue. I don't see it here, but I don't know. Third, the involuntary gives the creditors a chance to shape the story of the case from the get go. It's their filings, not the debtor's the the judge will read first, and that's what will color the judge's view of the case.

None of these strike me as the likely explanations for the involuntary.  Instead, I think there's something else going on:  the involuntary might void the plan support agreement. I suspect this is what's really driving the involuntary. I haven't seen the plan support agreement itself (and these things never get litigated, so who knows how enforceable they really are), but if a filing between the 15th and 20th is a condition precedent, then it wouldn't be binding on the 1st lien creditors, leaving open that possibility that they could cut a different deal with the 2d lien that would, presumably leave Apollo left with nothing.

If I'm right about that, then it would explain the subsequent voluntary petition in a different district. Caesar's would still need to file a voluntary petition for the condition precedent to be met. But if Caesar's filed in Delaware, the filing might be treated as an admission of the involuntary bankruptcy. By filing in Illinois, there's a chance that the Delaware petition might be dismissed in favor of the Illinois petition, which would let strengthen Caesar's hand in enforcing the plan support agreement. So there might be a little tactical battle going on--that's the best I can figure it. 

Stepping back, what do we have? A good ol' fashion bankruptcy squeeze-play going on, but with private equity playing the part of equity and activist hedge funds playing the part of the unsecureds. In other words, we got us a private-equity vs. hedge fund catfight. That's an event with some draw--perhaps Caesar's should book it. This should be fun. Stay tuned. 

[Update:  Anthony Casey suggests an alternative explanation for the voluntary:  Caesar's wants to take shelter in the 7th Circuit's Airadigm jurisprudence on non-debtor releases. I don't think that's right.

First, the 7th Circuit is not the only one to allow non-debtor releases in some circumstances. The 3d Circuit does too, under Continental as do the 2d, 4th, and 6th Circuits. The standards vary among circuits, but I don't think they're so different so as to matter.

Second, the 7th Circuit upheld only a very narrow non-debtor release in Airadigm.  The release language was

[e]xcept as expressly provided. . . [the third-party shall not] have or incur any liability to . . . any holder of any Claim . . . for any act or omission arising out of or in connection with the Case, the confirmation of this Plan, the consummation of this Plan, or the administration of this Plan or property to be distributed under this Plan, except for willful misconduct.

Airadigm Communs., Inc. v. FCC (In re Airadigm Communs., Inc.), 519 F.3d 640, 655 (7th Cir. 2008). The 7th Circuit signed off on a release from bankruptcy-related liability, not a release for pre-petition behavior. Indeed, the 7th Circuit noted that it was doing so because it was a release of behavior that was within the jurisdiction of the bankruptcy court. Airadigm, 519 F.3d at 658. So I don't think that the possibility of the Airadigm release is likely to shape where the filing happens, unless a third-party plans to do bad stuff during the bankruptcy. I don't think the Airadigm release extends out to pre-filing activity such as a lock-up agreement. 

Third, even if Airadigm was the motivation, it would only explain why Chicago. I'm not sure it completely explains why file the voluntary at all--and why file on the 15th--other than as an attempt to get a more favorable jurisdiction. So I'm skpetical that Airadigm is what is driving the filing, although I'm not sure why the filing would otherwise be in Chicago.]

Comments

[Christopher Faille]

Also on Thursday, the Delaware bankruptcy judge, Kevin Gross, signed an order staying "parallel proceedings." Specifically including the "Illinois case," but specifically excluding certain issues on the agenda for the first day hearing of said Illinois case.

Lots of billable hours to be had. Jarndyce v. Jarndyce.

[Oren Haker]

Upon the filing of a petition under section 301 and 303, an estate is created. Is there one estate? Two?

Further, it would seem that the single issue that will get litigated here is whether the petition date is January 12 or January 15, which supports Adam's view that this was procedural jockeying to free up the first lien lenders to cut a deal with the seconds in chapter 11.

[Anthony Casey]

Adam,

I just saw this, so I am bit delayed in responding.

The decision to file the voluntary in Chicago was made and was public record before the involuntary was filed in Delaware. So we cannot explain the Chicago venue just as a move to avoid -- as you call it -- an “admission of the involuntary bankruptcy.” Also there is no legal reason that the venue of the subsequent filing would matter in that inquiry (though maybe there is something there as far as atmospherics).

The voluntary was commenced in Chicago because that was the plan before the involuntary was ever contemplated. But the question is why did they choose Chicago in the first place?

The debtors admitted that the release was indeed a factor they considered. Why? First, Airadigm gives them more wiggle room. It is a standard rather than a rule. The Delaware courts have factors that have to be met. Chicago does not (at least not yet, we will see after this case).

On top of that, earlier precedent in the Seventh Circuit suggests that the courts might be willing to enjoin the non-bankruptcy litigation. That matters. The releases that are in the plan support agreement are worthless if the other cases are litigated first.

Of course, no one should think that the courts will be drastically different in deciding these things. And the releases and the injunction face an enormous uphill battle even in Chicago. But if there is even a slightly better chance that the releases survive in Chicago, why not choose Chicago? The Debtor’s lawyers are local, the bench is superb, and the Debtor has assets here. So the tiebreaker is the chance they might actually get the releases approved. And anyway, the reorganization is in serious jeopardy if the other cases go to adverse judgment.

The Debtors also said they liked Chicago law better on the 365 assumption of non-assignable contracts. Though the bottom line impact there should be small.

On the flipside, there is no doubt, as you suggest, that the involuntary was filed on the 12th in part to thwart the plan support agreement. And so the voluntary being filed on the 15th was a counter measure by which the Debtors refused to give up control.

Perhaps the real question is not “Why Chicago?” for the voluntary; but “Why Delaware?” for the involuntary. There, I am closer to your analysis. The noteholders wanted to file on the 12th to thwart the support agreement. But they needed an excuse for filing an involuntary when a voluntary was imminent (there is case law suggesting that such a thing is not allowed). Venue shopping allegations provided the hook. But you have to choose a different venue to make a venue shopping allegation.

Of course, we now know it will proceed in Chicago. And it should be interesting. It is nice to have a mega case in our courts again.