Exit Lenders Accept Distributions In Contravention Of Credit Agreement And Are Held Liable For Conversion

In a recent decision, New York state judge Charles E. Ramos granted summary judgment in favor of aggrieved syndicate members on both their breach of contract and conversion claims against exit lenders following the acceptance by the exit lenders of collateral sale proceeds contrary to the plaintiffs' right to receive pro rata distributions. But for an exculpation clause in the credit agreement that created a triable issue of fact, summary judgment against the agent would also have been granted. The case, Prudential Insurance Co. of America et al. v. WestLB AG, New York Branch, et al. (37 Misc. 3d 1208(A) (N.Y. Sup Ct. 2012)), is the latest in a recent series of collective action doctrine cases, in which the objecting minority co-lenders dispute some aspect of the agent/majority lender-approved enforcement process.

The plaintiffs and 16 other lenders extended credit in 2006 to ASA Ethanol Holdings LLC and its affiliates, the operators of three ethanol plants. In 2008, ASA and its affiliates filed a Chapter 11 bankruptcy petition, which constituted an event of default under the borrowers' Credit Agreement. Debtor-in-possession financing was provided by the lenders to the borrowers during the pendency of the bankruptcy case and post-confirmation exit financing was provided by some, but not all of the lenders following confirmation of the plan of reorganization. None of the plaintiffs elected to contribute to the exit financing at that time. WestLB, as the lenders' administrative and collateral agent, successfully credit bid on two of the ethanol plants pursuant to a Section 363 sale. These plants were then acquired by two limited liability companies formed by WestLB for that purpose.

The operating agreements of the two acquisition vehicles were drafted by WestLB and stipulated the ownership terms of the two remaining plants. Those agreements rewarded the exit lenders through "participation enhancements" by separating membership interests in the limited liability companies into Class A, Class B, and non-member unit holders, whereby non-member unit holders were not granted voting rights, were excluded from participating in management, and were barred from receiving financial statements and other information about the plants. Moreover, Class A members were given an option to convert their interests into Class B interests, resulting in a dilution of distributions otherwise payable to Class B members and non-member unit holders. Because they...