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Delaware Bankruptcy Court Upholds Creditor’s Proxy Rights

April 19, 2023

The Global Finance and Financial Restructuring Practices

In what might prove to be an important ruling, on April 12th the Bankruptcy Court for the District of Delaware ruled that a secured creditor had, before the debtor filed bankruptcy, properly exercised an irrevocable proxy to change the management of the debtor’s subsidiary.  The Court also ruled that the creditor had not violated the automatic stay by refusing to relinquish the proxy following the bankruptcy filing.  Though a clear victory for secured creditors, the Court’s ruling hinges on a well drafted proxy provision.

The Facts of the Case

The debtor, CII Parent, Inc., is a Delaware corporation and the owner of 100% of the stock of Community Investors, Inc., which in turn owns 100% of the equity interests of several other entities (the “Indirect Subsidiaries”).  In 2019, the debtor, Community Investors and the Indirect Subsidiaries obtained a term loan and a revolving credit facility from a group of lenders, for which Twin Brook Capital Partner LLC acted as agent.  The loan facilities were secured by, among other things, the debtor’s equity interest in Community Investors and by Community Investors’ equity interest in the Indirect Subsidiaries.  The loan documents included an Irrevocable Proxy Coupled with Interest, which both the debtor and Community Investors executed.

In December 2022, during the continuance of an event of default under the Credit Agreement and following the expiration of a forbearance period, Twin Brook notified the debtor, Community Investors, and the Indirect Subsidiaries that it had exercised its purported rights under the proxy to: (i) amend the corporate governance documents of Community Investors and the Indirect Subsidiaries so as to remove certain directors and managers; (ii) adjust the size of each board of directors or number of managers; and (iii) appoint replacement directors or managers.

Six days later, the debtor filed for bankruptcy protection under Chapter 11.  The debtor then demanded that Twin Brook rescind its prepetition actions.  Twin Brooks refused and the debtor brought an action for violation of the automatic stay.

The Court’s Decision

  1. Whether Twin Brook had properly exercised the proxy prior to the debtor’s bankruptcy filing.

With respect to this issue, the Court rejected three arguments made by the debtor.

1)   Requirement of Advance Notice

Debtor argued first that the loan documents required Twin Brook to provide advance notice of its intent to exercise the proxy.  The Court disagreed because the loan document provisions dealing with Twin Brook’s exercise of proxy rights did not expressly require such advance notice (whether any specified number of days in advance or otherwise). 

One relevant provision stated that the debtor retained the power to exercise voting rights unless a default had occurred and was continuing “and the Agent shall have given notice” to the debtor of the Agent’s intent to exercise voting rights under the proxy.  Another provision stated that Twin Brook, as Agent, “shall have the right, substantially concurrently with notice to the [debtor] . . . to exercise, all voting and other rights.” 

Those provisions stood in contrast to others in the loan documents which expressly required a specified number of days advance notice before the parties could take certain actions.  For example, one provision required “10 days’ prior written notice” before the debtor could move collateral or change its name; another provision stipulated that notice of a disposition would be reasonable “if given at least 10 days before such sale,” and another required three “business days notice prior to” borrowings or conversions of loan types. 

Accordingly, the Court concluded that the loan documents did not require advance notice and that the substantially contemporaneous notice that Twin Brook had provided was sufficient.

2)   Expiration of the Grant of Proxy Rights

Debtor next argued that its grant of proxy rights had expired prior to the prepetition exercise of those rights by Twin Brook.  Under Delaware corporate law, a proxy expires three years after it is granted, unless the proxy provides that it lasts for a longer period.  8 Del. Code § 212(b).  The debtor argued that the three-year period had expired on May 15, 2022 -- six months before Twin Brook purported to exercise the proxy. 

However, the proxy provision in the loan documents stated that it “shall continue in full force and effect until the Secured Obligations are Paid in Full notwithstanding any time limitations set forth in . . . the general corporation law of the State of Delaware.”  This language, the Court concluded, was sufficient.  “While duration can be expressed in terms of days, months or years, it can also be expressed or measured more generally, such as . . . by events.”  In this case, “until” was a durational term and the point in time when the secured obligations are paid in full was a determinable event.

3)   Exercise of Proxy Rights to Take Action by Written Consent

The debtor also argued that the proxy rights granted by the debtor did not include the right to take actions by written consent.  In other words, Twin Brook could exercise the proxy rights at a properly called meeting of shareholders, but not otherwise. 

The debtor’s argument highlighted some inconsistencies between two relevant loan documents, whereby one document (the “One Page Proxy”) authorized Twin Brook “to vote any and all Equity Interests owned by the [debtor] or standing in its name, and do all things which the [debtor] might do if present and acting itself” whereas the guarantee and collateral agreement, which also included proxy language, specifically contemplated the exercise of proxy voting rights by way of written consent.

The Court seemed inclined to agree with the debtor that the language in the One Page Proxy, by itself, was insufficient to authorize actions by written consent.  However, the Court held that the One Page Proxy must be considered holistically with the other loan documents, which expressly authorized Twin Brook to exercise all the debtor’s rights, privileges or options pertaining to the pledged stock as if Twin Brook were the absolute owner thereof, and expressly empowered Twin Brook to “exercise the irrevocable proxy to vote the Investment Property at any and all times, including . . . in any action by written consent.”  Accordingly, the Court ruled that Twin Brook had properly exercised the proxy prepetition.

  1. Whether Twin Brook’s refusal to rescind its prepetition actions violated the automatic stay.

With regard to the automatic stay, the debtor asserted that Twin Brook’s post-petition refusal to rescind its prepetition actions taken pursuant to the proxy had violated the automatic stay’s injunction against “any act . . . to exercise control over property of the estate” and “any act to collect . . . a claim against the debtor that arose” prepetition.  The Court rejected both claims.

With respect to Twin Brook exercising control over property of the estate, the Court ruled that the debtor’s voting rights with respect to the shares of stock in Community Investors had ended prepetition.  In other words, even though the shares of stock were property of the estate, the voting rights associated with those shares were, due to Twin Brook’s prepetition actions, not property of the estate.  Consequently, there could be no stay violation with respect to the voting rights.

Moreover, while Twin Brook’s exercise of its proxy rights was undoubtedly an attempt to collect on its loan facility, that exercise occurred prepetition.  Whatever actions were being taken post-petition by the directors installed by Twin Brook were not the actions of Twin Brook, and therefore were not an action to collect on the lenders’ prepetition claim.

Concluding Thoughts

The Court’s decision should give secured creditors comfort that a well-drafted proxy is enforceable.  Lenders relying on the ability to exercise proxy voting rights in respect of pledged equity interests must take care to ensure that those provisions (i) do not require advance notice, (ii) are not limited in duration (whether by operation of law or otherwise) and (iii) are expansive enough to cover actions taken by written consent.  Paul Hastings lawyers are available to assist lenders in making sure that proxy rights are well drafted.

Special UCC Advisor Stephen Sepinuck contributed to this article.

For More Information

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Christopher G. Ross

Partner, Corporate Department

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John H. Cobb

Partner, Corporate Department

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Jayme Goldstein

Partner, Corporate Department

Image: Kris Hansen
Kris Hansen

Partner, Financial Restructuring

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