Teachers Ins. and Annuity Ass'n v. Tribune Co.

Decision Date26 June 1987
Docket NumberNo. 83 Civ. 0047 (PNL).,83 Civ. 0047 (PNL).
Citation670 F. Supp. 491
CourtU.S. District Court — Southern District of New York

Fried, Frank, Harris, Shriver & Jacobson, New York City (Marc P. Cherno, Robert E. Gerber, Mary C. Farrington, of counsel), for plaintiff.

Patterson, Belknap, Webb & Tyler, New York City (Eugene L. Girden, Lynn P. Freedman, Blair Axel, Stephen P. Younger, of counsel), for defendant.


LEVAL, District Judge.

This action is brought by an institutional lender against a prospective borrower charging the borrower with breach of a commitment letter agreement for a 14-year $76 million loan yielding 15.25%. The exchange of letters constituting the commitment agreement stated that the borrower and lender had made a "binding agreement," to borrow and to lend on the agreed terms, subject to the preparation and execution of final documents satisfactory to both sides and the approval of the borrower's Board of Directors. Prior to the preparation of final agreements the borrower broke off negotiations, declining to negotiate further unless the lender agreed that the borrower's obligation to borrow would be contingent on its ability to report the loan on its financial statement by an off-balance-sheet offset. The lender contends the borrower's withdrawal was attributable to an intervening decline in interest rates which permitted the borrower to secure funds at a much lower cost than agreed in the commitment letter. The borrower contends that the change in interest rates had nothing to do with its refusal to go ahead and that the availability of offset accounting had always been understood to be a condition of the loan. It contends also that its acceptance of the commitment reserving right of approval to its Board of Directors left it free to decline to take down the loan if the loan did not serve its interest.


The borrower is Tribune Company, a Chicago communications enterprise which owned the New York Daily News. The lender is Teachers Insurance and Annuity Association of America, a large non-profit tax exempt organization that provides pension annuities and insurance programs to educational institutions. The contemplated loan was an element of a three-cornered arrangement for the sale by Tribune of the Daily News Building at 220 E. 42nd Street in New York.

For some time, Tribune had been contemplating the possibility of outright sale of the News. The Morgan Guaranty Trust Company of New York prepared a memorandum recommending to Tribune that it structure a deal in which the purchaser's payment would be deferred, and Tribune would borrow equivalent funds from a financial institution under terms that permitted Tribune the right to repay its borrowing by assigning the purchaser's installment note to the lending institution. (DX 1-4.) This device was designed to secure installment tax deferral of Tribune's gain, notwithstanding immediate realization of the full proceeds of the sale through the loan. And because its borrowing could be repaid by tender of the purchaser's note, Tribune's debt could be offset against its receivable and reported off-balance-sheet in the notes to its financial statement.

In the spring of 1982 Tribune dropped the plan to sell the News. Instead, it restructured the News subsidiary, which occasioned a nonrecurring tax loss of $75 million. To raise cash that was needed for a number of purposes including the operations of the News, Tribune decided to sell the News Building which would no longer be needed in the restructured operation.

Tribune entered into negotiations to sell the Building to LaSalle Partners, a Chicago real estate firm, with Tribune retaining an equity interest. It was important that the transaction be accomplished during the calendar year 1982 so that the loss realized from the restructuring of the News could be offset against taxable gain realized from the sale of the News Building. A suggestion was made to adapt to the sale of the Building the proposal which Morgan had made with respect to the contemplated sale of the News. A substantial portion of the purchase price would be deferred: LaSalle would deliver to Tribune a non-recourse long-term (35 year) purchase money mortgage note. (As the equity "kicker", this mortgage would give the mortgagee not only conventional interest payments but also a percentage of the operating profits of the building.) Tribune would "match-fund" the mortgage, i.e., it would borrow from a third party in an amount approximately equal to the mortgage note. The loan agreement would give Tribune an unconditional right to satisfy its obligation to repay by putting to the lender the mortgage note which Tribune received for its sale of the building. To compensate the lender for the additional risk inherent in the possible put of the mortgage, Tribune would pay a premium above the market interest rate.

In this manner, Tribune would realize only so much gain as it could set off against its 1982 tax loss. The taxability of the remainder of its gain would be deferred by reason of the installment sale. At the same time, through the loan, Tribune would obtain immediate use of the full purchase price in cash. It would not be obliged to carry the borrowing as a liability on its balance sheet: by reason of its right to put its mortgage receivable to the lender in satisfaction of the debt, it could employ offset accounting, setting off the asset represented by the purchase money notes against the liability to the lending institution, eliminating both from its balance sheet, and describing them rather in the footnotes to the financial statements.

The use of offset accounting was important to Tribune. Up to this point, its common stock had been privately held. It was now contemplating a public offering and believed that the market for its shares would be adversely affected if it were required to carry so large a liability on its balance sheet.

In August, Tribune prepared an offering brochure to be shown to prospective lenders. This was a document of about 50 pages, describing the proposed mortgage and loan, together with financial information about Tribune and the Building. The brochure included two term sheets — one describing the proposed purchase money mortgage Tribune would receive upon the sale of the Building, the other giving the terms of its proposed match-fund borrowing.

Tribune's advisers believed that only a small number of institutions would have the means and flexibility to contemplate a loan of these specifications. Together with LaSalle, Tribune prepared a list of six institutions including Teachers. The other five promptly rejected the deal.

Gary Waterman of LaSalle called Martha Driver of Teachers to discuss the concept. Driver told him that Teachers would be interested in receiving a proposal from Tribune. On August 20 Scott Smith, the Vice President and Treasurer of Tribune, sent Driver the offering circular. (DX 5.) Smith's covering letter stated:

Our objective is to "match fund" this PMM purchase money mortgage so that we can obtain cash equivalent to the PMM's value while maintaining the tax deferral and the upside potential associated with the cash flow participation feature. A second objective is to avoid showing both the PMM and match funding on our balance sheets since conceptually these real estate loans are not related to our basic businesses.
According to our advisers, we can meet these objectives by adding a "put" or alternative payment option to the private placement.... giving Tribune Company the unconditional right, at any time, to assign the PMM to the private placement lender in full satisfaction of its obligations under the Notes.

The letter went on to state that "the likelihood of the `put' being exercised is very low because of the `penalties' Tribune would incur through loss of the tax deferral and the value of the cash flow participation." Finally, Smith's letter stated, "While we are flexible on funds delivery, our objective is to have a firm commitment from a lender by September 15, 1982. Consequently, we need to move the due diligence and negotiation process along very quickly." (Emphasis supplied.)

In the next weeks discussions proceeded promptly between Teachers and Tribune, with Teachers' representatives making due diligence visits to Tribune. Teachers requested and Tribune agreed to an additional ¼% yield. Both sides agree that during these meetings Smith talked about Tribune's desire to use offset accounting. Driver testified that she told Smith Teachers could not make a commitment if the deal were conditioned on Tribune's ability to use a particular method of accounting. Smith denies that Driver made any such statement. Both agree that Smith spoke of Tribune's urgent need for a commitment by September 15. Driver told Smith that the commitment could not be issued before approval by Teachers' Finance Committee which would not meet until September 16. This brief delay was acceptable to Tribune.

The loan had attractive features for Teachers: It was satisfied with Tribune as a credit risk; it would receive a premium over market interest rates to compensate it for the additional risk of being paid by tender of a long-term mortgage rather than in cash; nonetheless, absent catastrophic changes, Tribune was unlikely to exercise the right to tender the mortgage, because by doing so it would give up the tax deferment as well as its participation in the profits of the building; furthermore, an independent appraisal delivered by Tribune to Teachers valued the building at $150 million or nearly double the amount of the loan, providing a comfortable cushion of protection in the mortgaged collateral.

On September 16th, Teachers Finance Committee met and approved the Tribune loan. Driver promptly called Smith, gave him the good news, and told him that...

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