Lampert and Sears Lenders lose appeal for priority bankruptcy claim

The bankruptcy of Sears Holdings sufficiently repaid former CEO Eddie Lampert’s hedge fund and other lenders based on a properly calculated collateral valuation, the Second Circuit has ruled.

Lampert-led ESL Investments Inc. and other second-tier lenders have recovered more than the value of collateral securing their claims, the United States Court of Appeals for the Second Circuit ruled on Friday.

The U.S. Bankruptcy Court for the Southern District of New York, which oversaw Sears’ Chapter 11 case, ‘made no error of law or fact’ in 2019 when it denied lenders the right to make assert priority claims against Sears, the appeals court said. Other lenders include Cyrus Capital Partners LP and Wilmington Trust NA, a subsidiary of M&T Bank Corp.

Judge Robert Drain of the Southern District of New York used reasonable methods to calculate the value of collateral securing the lenders’ claims against Sears, the appeals court said.

Drain also correctly determined that lenders had already received more than the calculated collateral value when ESL repurchased Sears assets from bankruptcy for $5.2 billion and canceled $433.5 million in loan debt, said the Second Circuit.

Sears’ obligations to lenders when it filed Chapter 11 in October 2018 were primarily secured by the department store chain’s inventory and payment entitlements still owed for goods and services. Following the February 2019 bankruptcy sale to ESL, the parties argued over how to determine the value of this inventory when Sears first filed for bankruptcy.

Drain determined that valuing the inventory at prices below retail value — but above forced sale prices — would be fair because Sears’ path to reorganization was uncertain when it filed Chapter 11.

Drain determined the collateral was worth $2.15 billion, using an “orderly liquidation net worth” and considering other reasonable costs.

After subtracting Sears’ debt to most first-tier secured lenders, the hypothetical collateral value left to second-tier lenders would have been $187 million, Drain concluded.

The second lien lenders had already been repaid $433.5 million on the sale, and they are not entitled to a priority claim because of that security, he ruled.

On appeal, the lenders argued that Drain improperly reduced the value of the collateral. But the ruling was upheld in a federal district court, prompting the lenders’ appeal to the Second Circuit.

Lawyers for the parties did not immediately respond to requests for comment.

The deal is ESL Investments Inc. et al. against Sears Holdings Corp.2nd Cir., n° 20-3343, opinion 14/10/22.

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