Opportunistic Acquisitions: Buying Assets Through Bankruptcy

Though often overlooked, bankruptcy sales can be a real boon to businesses looking for a great deal. Prospective purchasers must, of course, interface with the bankruptcy court, so these companies must understand the lay of the land when looking for a bargain. For example, in the last two years, Wanxiang Group purchased an electric-powered-automobile manufacturer and a battery manufacturer.

Basic Concepts

• General Procedures: Bankruptcy sales typically involve some form of a bidding process. Bids must usually be submitted with a substantial deposit. At a minimum, the Bankruptcy Code requires notice of the sale to interested parties, like creditors.
• Jurisdictional Considerations: While the statutory provisions governing asset sales in bankruptcy are the same across the country, bankruptcy courts have broad discretion in how sales are conducted, so the sale process may vary widely depending on the jurisdiction.
• The Stalking Horse: When selling assets in bankruptcy, a debtor usually seeks out a “stalking horse” to make the baseline offer. Stalking horse bids are subject to “higher or better bids” and bankruptcy court approval. But stalking horse bidders may negotiate incentives to “sweeten” the deal. For example, stalking horses often negotiate for a “break-up fee” or monetary payments if another bid is accepted. While these benefits are subject to the court’s approval, break-up fees of 1-3% are typical. Thus, others must bid an amount that covers the break-up fee and includes a “topping amount.”

Benefits of Purchasing Assets Through Bankruptcy

• Buying Assets at a Discount: Assets may be sold below market value because bankrupt companies often need “fast cash” for reorganization or satisfying debts or because of pressure from the primary secured creditor.
• Contracts: Certain contracts and leases can be included with sales through the assumption and assignment process authorized by the Bankruptcy Code. The other party to the agreement can be forced to accept the assignment, if the buyer meets certain legal requirements.
• Minimize Successor Liability: Outside the bankruptcy context, when purchasing assets from a struggling company, it may be difficult to avoid assuming liabilities associated with the purchased assets. But the Bankruptcy Code permits a debtor to sell assets “free and clear” of liens and interests, although there is debate about the how far protection may extend beyond stripping security interests. Some successor liability claims, like products liability, ERISA, or environmental claims, may follow the assets. Purchasers, with the help of legal counsel, can use a variety of tactics in the purchase process to avoid or reduce uncertainty associated with successor liability.
• Protections for Purchasers: A “good faith” purchase, as determined by the bankruptcy court, almost always protects a purchaser from having the sale reversed on appeal. Additionally, the court oversees the sale process, and assets may be sold over the objection of the debtors’ creditors. Unless an objecting creditor obtains a stay of the sale approval order, which rare occurs, a sale can close very quickly without the buyer being overly concerned about subsequent legal proceedings.

 Disadvantages of Bankruptcy Sales

• Auction Procedures: Aside from the potential for delay, auction procedures inject the risk of competition. With competition comes the risk of losing out to a better offer or overpaying for the asset in an effort to submit the winning bid.
• Potential Delay: Though some sales are consummated quickly, others may be delayed by the auction procedures or objections to the sale.
• Buyer Beware: The assets are generally sold “as is.” With limited exceptions, any representations and warranties made by the debtor do not typically survive the closing of the sale. Purchasers typically have the opportunity to perform due diligence or access due diligence reports, which can help mitigate the risk. Title insurance reduces risks for real property, but a bankruptcy buyer needs solid due diligence for personal property and contracts.
• Credit Bid of Secured Lender: If the assets are encumbered by a lien, the secured creditor generally will have the right to “credit bid” the amount of its secured claim. If the assets are clearly underwater (debt exceeds value), potential bankruptcy buyers should include in its stalking horse bid the release price or negotiate with the secured creditor before bidding.

Auto companies should not rely on acquisitions through bankruptcy to drive strategic growth. However, opportunities for great deals occasionally arise in the context of bankruptcy sales. Accordingly, auto companies positioned properly for growth would be wise to look for opportunities in bankruptcy and move quickly if the right assets become available.