DBRS Considers Impact of GGP Bankruptcy on Structured Finance
An ongoing bankruptcy case involving General Growth Properties (GGP) presents implications for the way a corporate bankruptcy will view special purpose entity (SPE) subsidiaries. The bankruptcy proceeding has in particular called into question the remoteness and separateness of SPEs used in the commercial mortgage-backed securities (CMBS) market and throughout structured finance, according to independent credit rating agency DBRS. A recent ruling by the US Bankruptcy Court for the Southern District of New York could potentially "undermine the strength of bankruptcy remoteness and could have a devastating impact on the CMBS and structured finance markets," DBRS said in weekly commentary. GGP, a publicly-traded real estate investment trust (REIT), filed for bankruptcy protection under Chapter 11 in April and then filed bankruptcy petitions for 166 "bankruptcy remote" SPE subsidiaries. GGP also replaced the independent directors of the SPEs before voting on whether to file for bankruptcy. The move spurred motions to dismiss by five of the secured lenders of the SPEs, according to DBRS. The lenders claimed the filings were premature due to the remoteness of the SPEs and the fact they were not in financial distress at the time. They called for the filings to be dismissed on bad faith. DBRS said the Delaware Supreme Court recently decided, however, that it is appropriate for independent directors of an SPE to consider the corporate group's interests when deciding whether to file a bankruptcy petition, and that directors of a solvent SPE are obligated to protect the company's -- and its shareholders' -- interests, not only those of the secured lenders. But the Bankruptcy Court in New York denied the motions to dismiss filings on the grounds of baid faith, possibly bearing significant repercussions within strucutred finance, according to DBRS. "One of the pillars of structured finance is the reduction of risk related to the bankruptcy of a corporate parent through the deliberate isolation of assets in a bankruptcy remote SPE," DBRS said. "By permitting the SPEs to be part of the GGP bankruptcy proceeding, the Court has called into question whether the intended structuring of the transaction can achieve one of its primary objectives," the ratings agency added. "Further, the potential of such a ruling to be applied to the broader structured finance markets would compromise the integrity of securitization structures and dramatically increase the risks inherent to SPE 'secured' lending." Most of the SPEs involved in the filings retained a "performing" status and were able to meet their debt service requirements at the time of GGP's filing . From a structured finance perspective, this calls into question their status of financial distress. DBRS said that by including these performing SPEs in the bankruptcy case as financially distressed, the Court implies a broad application of "financial distress" to a spectrum of market participants. The Court acknowledged the secured lenders have certain rights under bankruptcy law, DBRS noted, particularly the in the receipt of payments of interest and principal on the debt of the SPEs from cash flows related to the assets held by the SPEs. "While it is a positive factor that the secured lenders in GGP are receiving cash flow, it does not address how other courts might handle the matter," DBRS said. Write to Diana Golobay.