Page 48 - Bankruptcy Volume 1

P. 48

 unsecured credit with a superpriority claim status;

 credit secured by liens on unencumbered assets;

 credit secured by junior liens on encumbered assets; or

 credit secured by senior priming or equal liens on encumbered property.

Priming liens require proof of the debtor’s inability to obtain financing on other terms and proof of ade-
quate protection of the existing lien holders’ interests that are being primed. Adequate protection often
includes replacement liens, superpriority administrative expense claims, payment of the lender’s fees,
costs and expenses (including attorneys’ and other professionals’ fees), reporting, periodic cash pay-
ments, and other value that provides the "indubitable equivalent" of the value of the lien being primed. A
sufficient equity cushion in the collateral may also provide adequate protection. An equity cushion of
greater than 20% is often held to be sufficient to provide adequate protection. Certain jurisdictions even
permit the argument that, although the senior facility is undersecured, the proposed financing will in-
crease the value of the collateral by more than the amount of the financing.

Assume, for example, a manufacturer obtains a $20 million secured line of credit from its bank. Eight-
een months later, after negotiations to restructure the debt have failed, the manufacturer files for bank-
ruptcy protection. At the time of the filing, the value of the secured lender’s collateral has declined to
$10 million, but the lender is still owed $20 million under its line of credit. At the DIP financing hear-
ing, if the debtor can successfully argue that the secured lender’s collateral will not further deteriorate
(that is, the lender will receive at least $10 million), the DIP lender will likely be granted its priming lien
on the collateral. The secured lender may be granted a replacement lien in the collateral to afford ade-
quate protection. The secured lender might also be granted the right to periodic reports as well as the
right to inspect the collateral to further protect its position. The debtor may also be required to make pe-
riodic cash payments in some amount to the secured creditor to protect the creditor against further ero-
sion of its position. If the credit was, in fact, undersecured, then such adequate protection payments
could subsequently be applied to reduce the principal balance of the secured creditor's secured claim.

Although secured lenders understand that typically they would be in a better position obtaining a going-
concern value for their collateral rather than a liquidation value, they also understand that debtors, even
if reorganizing, are questionable credit risks. Therefore, significant negotiations often occur with the se-
cured lender prior to obtaining DIP financing. Negotiations regarding DIP financing usually occur prior
to the bankruptcy filing, although occasionally a debtor will file for bankruptcy with just cash collateral
usage and look for and obtain DIP financing postpetition from either their current lender or a new mon-
ey lender. When obtaining DIP financing postpetition, the debtor has a fiduciary duty to obtain the best
proposal. The primary issues considered in determining the best proposal include — but are not limited
to — fees and costs associated with the financing, collateral advance percentages, loan availability lev-
els, operating budget and permissible budget variances, sale or reorganization milestones, the adequate
protection package, whether there is a carve-out for professional fees, duration of use, and debtor stipu-
lations as to the adequacy of liens and the length of the investigation period.

DIP financing must be approved by a court after notice and a hearing. DIP financing is generally ap-
proved across two hearings: an interim hearing, which usually occurs on the day of or the day after a
bankruptcy petition is filed; and a final hearing. When filing a motion for approval of DIP financing, a
debtor must also file a budget.

43 44 45 46 47 48 49 50 51 52 53