Official Comm. of Unsecured Creditors of Latex Foam Int'l v. Entrepreneur Growth Capital (In re Latex Foam Int'l)

• Decision Date: 08 March 2023
• Docket Number: 3:21-cv-01311 (VLB),Bankruptcy Court 19-51064 (JAM)
• Citation: Official Comm. of Unsecured Creditors of Latex Foam Int'l v. Entrepreneur Growth Capital (In re Latex Foam Int'l), 3:21-cv-01311 (VLB), Bankruptcy Court 19-51064 (JAM) (D. Conn. Mar 08, 2023)
• Parties: In re Latex Foam International, LLC, et al., Debtors v. Entrepreneur Growth Capital, Appellee Official Committee of Unsecured Creditors of Latex Foam International, LLC, et al., Appellant
• Court: U.S. District Court — District of Connecticut

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In re Latex Foam International, LLC, et al., Debtors

Official Committee of Unsecured Creditors of Latex Foam International, LLC, et al., Appellant v. Entrepreneur Growth Capital, Appellee

No. 3:21-cv-01311 (VLB)

Bankruptcy Court No. 19-51064 (JAM)

United States District Court, D. Connecticut

March 8, 2023

ORDER AND MEMORANDUM OF DECISION

Vanessa L. Bryant, United States District Judge

The Official Committee of Unsecured Creditors of Latex Foam International, LLC(the “Committee”) brings this appeal of the United States Bankruptcy Court for the District of Connecticut(Manning, C.J.)(the “Bankruptcy Court”) Order Granting Entrepreneur Growth Capital LLC's (“EGC”)Motion for Payment of Secured Creditor Claim and Fee Application (“Order”) and Articulation of Factual Findings and Legal Principles (“Articulation”).The Committee argues that the Bankruptcy Court erred in approving and awarding EGC's request for postpetition interest at the contract default interest rate.

For the following reasons, the order of the Bankruptcy Court is affirmed.

I.BACKGROUND

On August 8, 2019(the “Petition Date”), Latex Foam International, LLC doing business as Talalay Global and various related entities (collectively, the “Debtors”) each filed voluntary Chapter 11 bankruptcy petitions.(BKECF No. 1.)^[1]The cases were consolidated into a single case for joint administration.(BKECF No. 2, 49.)Three of the largest unsecured creditors came together and established an Official Committee of Unsecured Creditors-the Committee.(BKECF No. 69.)The Debtors continued to manage their properties as debtors-in-possession throughout the proceedings until the sale of their assets in June 2020.(SeeBKECF No. 48, 606.)

As of the Petition Date, EGC was the Debtors' principal secured creditor with a claim of $9,342,934.33.(BK ECF, Claims Register 22.)The debt owed to EGC relates to an amended and restated loan and security agreement between the Debtors and SummitBridge National Investments IV, LLC(“SummitBridge”) in December 2015(the “Loan Agreement”).(Id., Part 3(hereinafter “Loan Agreement”).As stated in the Loan Agreement, the contract was intended to amend, restate, supersede, and consolidate an original loan agreement entered in April 2006.(Loan Agreement 6.)The Loan Agreement was negotiated and executed to act as exit funding for the Debtors' prior Chapter 11 bankruptcy case.(Articulation 7, BKECF No. 993.)The agreement allowed the Debtors' to exit and carry on their business with a fresh start.(Id.)

Two clauses of the Loan Agreement are of special importance to this decision, both of which address matters relating to default under the agreement.First, in the Loan Agreement, the parties agreed that an event of default includes the filing of a voluntary case under the federal Bankruptcy Code.(Id. 33-34.)

Second, the parties agreed that, if an event of default occurs, all outstanding obligations would bear interest at the default rate of 3% in excess of the rate otherwise applicable to the loan on such date.(Id. 9, 16.)

The non-default interest rate is defined under the Loan Agreement as “a rate per annum equal to the greater of (a) 5.00% or (b) the Prime Rate, plus the Applicable Margin.”(Id. 17.)The “Applicable Margin” is defined as “2.00%, subject to increase pursuant to section 2.5.3(e).”(Id. 7.)Section 2.5.3(e) generally provides for an increase in the Applicable Margin to 4.00% if the borrower declines to take the option to a principal payment by January 31, 2018.(Id. 14.)It is unclear from the record whether the Applicable Margin was 2.00 or 4.00%.By the Courts estimation, the non-default interest rate between December 2015(when the Loan Agreement was finalized) and June 2020(when default interest was awarded) ranged between approximately 5.25% and 9.50%.^[2]

On March 15, 2017, an allonge to the Loan Agreement was reached, transferring SummitBridge's rights under the Loan Agreement to EGC.(BK ECF, Claims Register 22, Part 7.)

During the pendency of the Chapter 11 case, the Debtors secured a purchaser of substantially all of their assets.On June 17, 2020, the Bankruptcy Court issued an order authorizing and approving the sale.(BKECF No. 606.)The sale proceeds provided funding for the Debtors to pay EGC the principal amount of its claim and interest at the nondefault contract rate.(Id. 14.)During a proceeding around the time of the sale, counsel for EGC estimated that the sale proceeds were to exceed EGC's secured claim by about $1 million.(BKECF No. 710 7:12-15.)

Shortly after the sale was approved by the Bankruptcy Court, EGC filed a “Motion for Payment of Secured Creditor Claim and Fee Application.”(Mot. for Payment, BKECF No. 619.)In the motion, EGC moved for payment of its secured claim in its entirety, including default interest, attorneys' fees and costs, and appraisal expenses.(Id.)EGC stated it was owed $9,043,973.74 in principal and $10,551.44 in interest at the non-default contract rate, for a total of $9,054,525.18 as of June 8, 2020.(Id. 2.)In addition, EGC claimed an entitlement to unpaid interest at the default rate of 3% totaling $237,684, (id. 7), which was calculated as accruing from the Petition Date through June 15, 2020, (Landis Decl. in support of Mot. for Payment, BKECF No. 691-1.)The Committee objected to this motion, arguing that EGC was not entitled to default interest.(BKECF No. 648.)

On July 15, 2020, the Bankruptcy Court conducted a hearing on EGC's motion and took the matter under advisement.(BKECF No. 666.)On July 31, 2020, the Bankruptcy Court issued an order summarily granting EGC's motion and awarding default interest in the amount of $237,684.19 as of June 15, 2020 with a per diem accrual thereafter.(Order, BKECF No. 670.)

The Committee appealed the Bankruptcy Court's order granting EGC's motion for default interest in August 2020.('20 AppealECF No. 1.)^[3] The Committee and EGC filed briefs, based on the legal theories discussed by the Bankruptcy Court during the July 15, 2020 hearing.('20 AppealECF Nos. 18, 20, 23.)This Court remanded for articulation.('20 AppealECF No. 29.)

Following remand, the Bankruptcy Court issued an articulation of its factual findings and legal principles.(Articulation, BKECF No. 993.)The Bankruptcy Court explained that default interest was awarded to EGC because (a) EGC was deemed to be an ‘oversecured' creditor, (b) as an oversecured creditor, EGC was entitled to interest on such claim as provided for under 11 U.S.C. § 506(b), and (c) events of default occurred justifying an award of interest and of the amount default interest provided for under the terms of the Loan Agreement.(Id.)In assessing whether default interest should be afforded, the Bankruptcy Court noted the presumption in favor of applying the contractual default rate balanced against equitable considerations that may limit application of that rate.(Id. 3-5.)

The Committee appeals the Order and Articulation.(ECF No. 1.)

II.STANDARD OF REVIEW

The district court has jurisdiction to hear an appeal from final judgments, orders, and decrees of the bankruptcy court pursuant to section 158(a)(1) of Title 28 of the United States Code.A district court reviewing the decision of a bankruptcy court is to review “the bankruptcy court's factual findings for clear error and its legal conclusions de novo.”In re Motors Liquidation Co., 957 F.3d 357, 360(2d Cir.2020).

III.DISCUSSION

The Committee argues the Bankruptcy Court erred in awarding EGC default interest at the contractual default rate.The following is a brief overview of the concept of default interest.Default interest is a bargained-for risk-management provision of a repayment contract that benefits both borrowers and lenders.As explained by the Second Circuit in Ruskin:

[Default interest] can be beneficial to a debtor in that it may enable him to obtain money at a lower rate of interest than he could otherwise obtain it, for if a creditor had to anticipate a possible loss in value of the loan due to his debtor's bankruptcy or reorganization, he would need to exact a higher uniform interest rate for the full life of the loan.The debtor has the benefit of the lower rate until the crucial event occurs; he need not pay a higher rate throughout the life of the loan.

Ruskin v. Griffiths, 269 F.2d 832(2d Cir.1959).Default interest also benefits the lender, because it tries to compensate the lender for lost value of a repayment contract that occurs when a debtor defaults.The following illustrates this concept.Assume A lends $100 to B at ¶ 2% interest rate.The 2% interest rate is calculated to compensate A for both the time value of money and the risk A assumes that B may not pay the loan in full.As a result of the agreement, A walks away with an asset-that is B's promise to pay A $100 plus 2% interest.The value of A's asset is calculated based on the total amount owed to A over the life of the loan minus the possibility B may fail to pay the loan in full.The value of this asset can decrease for circumstances outside of A's control, such as B becoming less likely to pay the loan in full (also referred to as creditworthy).

Some events that could increase the risk of B not paying the debt in full include B taking on more debt than it can afford to repay or if B's assets become severely depleted.In order to mitigate this risk, A could demand a higher uniform interest rate.Or the parties could agree that if certain events occur which render B less credit worthy (commonly referred to as events of default), A is entitled to a higher interest rate and/or an acceleration of the due date to reflect and compensate for the increased risk of late or non-payment.These types of provisions...