The opinion of the court was delivered by: WHIPPLE
This Court has before it four proposed Plans of Reorganization which have been forwarded to the SEC as being "worthy of consideration" and have been reviewed by that advisory body.
It is now my duty to determine whether one or more of the proposed Plans are fair, equitable and feasible, Bankruptcy Act, § 174.
In order to reach this determination, I have had the opportunity to preside over hearings in this reorganization for more than one and one-half years, have reviewed transcripts of prior hearings, have examined extensive exhibits, briefs, two SEC advisory reports, arguments and submissions of counsel. The extensive nature of these 9-year old proceedings have been attributable, in part, to the rarity of a Chapter X Court having not one, but four Plans from which to choose (not to mention earlier plans and earlier versions of the current Plans).
If more than one Plan is found to be fair, equitable and feasible, I conceive it to be the duty of the reorganization court to submit all such Plans to creditors and stockholders for their consideration. The language of Sections 174 and 175 of the Bankruptcy Act so indicates and such a policy seems to be codified in proposed Rule 10-305 of the proposed Chapter X Rules.
Notwithstanding this mandate, circumstances could arise, even in this case, whereby delay, confusion and the probability of no Plan being approved might persuade a Reorganization Court to consider special procedures when more than one Plan meets the statutory criteria. See, for example, In the Matter of Riker Delaware Corporation, No. B-597-67 (D.N.J., April 22, 1971); Heuston, Corporation Reorganizations under the Chandler Act, 38 Colum. L. Rev. 1199, 1217 (1938); In re Pressed Steel Car Co. of N.J., 16 F. Supp. 325, 326-327 (W.D. Pa. 1936). Because of the conclusion reached herein with respect to the four Plans, I need not deal at this time with this thorny issue.
II. Valuation of the Debtor
The Judgment Order of the United States Court of Appeals for the Third Circuit dated October 16, 1973 affirmed this Court's valuation of the debtor corporations. 487 F.2d 1394. That Judgment Order, however, noted that the valuation "is subject to reconsideration" and may be revised, particularly in the light of continuing disputes "concerning appropriate interest deductions". One of the disputes pertaining to interest deductions involved the selection by this Court, in projecting future earnings, of an 8% interest rate on debt existing in the reorganized company. The selection of an 8% interest rate was premised upon a number of considerations, one of which was that the reorganized company would, in fact, have a modified debt structure, i.e., that some revision of the present debt structure or new borrowing would occur.
This point was challenged by Continana Corporation, ("Continana"), a proponent of a Plan of Reorganization, in its appeal from this Court's valuation determination. Continana took the position, in that appeal, that the debtor need not refinance, nor borrow additional funds, nor in any way disturb the existing debt structure. Subsequent to the filing of its brief furthering this contention in the Court of Appeals, Continana filed an amendment to its amended Plan which stated that its Plan now contemplated a distribution of $1,500,000 in cash and 1,100,000 shares of stock to creditors and stockholders of the debtor. The source of the $1,500,000 in cash was stated to be the funds of the debtor in excess of current needs and a borrowed sum. As Continana stated:
"Imperial with a net worth of $8,000,000 under the internal plan could easily borrow up to $700,000 in order to fulfill its commitments under its plan."
Thus, it is clear that notwithstanding its protestations in its appeal that no new borrowing was required, the Continana Plan very definitely envisions the possibility of borrowing.
Other proponents similarly indicated that a restructuring of debt or the creation of new debt is a very logical possibility. At final argument, the Schiavone representatives stated that while the Schiavone Plan does not require borrowing, Schiavone would formulate its policy with respect to debt "in the exercise of ordinary business judgment."
The Burnham Plan has borrowing as an essential component thereof. See Article IV of the Burnham Plan. And the record is replete with reference to restructuring and refinancing insofar as the testimony of the ART Plan representatives was concerned.
In the light of these respective Plan provisions and statements, and the reasons set forth in my opinion on valuation, I see no reason to alter my conclusion that debt in a revised form will exist in the reorganized company and that 8% is an appropriate interest rate to utilize in projecting future interest expense.
Another valuation element left open by the United States Court of Appeals for the Third Circuit,
is the value, of the net operating loss carryforward of which Imperial might be able to take advantage. In response to my request, I received an extensive opinion letter from counsel for the Trustee representing alternative computations and legal analysis with respect to this alleged asset of the debtor.
The first determination I must make before I can reach the question of the value, if any, of this asset is whether or not the creditor-claimants in this reorganization are entitled to interest on indebtedness owed to them. I conclude that such creditors are entitled to interest since the debtor is clearly solvent. City of New York v. Saper, 336 U.S. 328, 69 S. Ct. 554, 93 L. Ed. 710 (1949); 6A Collier on Bankruptcy, § 9.08 (at p. 202) wherein the author states:
As stated in Collier, the "absolute priority rule" requires the payment of such interest. Northern Pacific Railroad Co. v. Boyd, 228 U.S. 482, 33 S. Ct. 554, 57 L. Ed. 931 (1913); Case v. Los Angeles Lumber Products Co., 308 U.S. 106, 60 S. Ct. 1, 84 L. Ed. 110 (1939).
With respect to interest on instruments that specifically set forth a contractual rate of interest, interest computed at the contractual rate will be a proper portion of the claim, Ruskin v. Griffiths, 269 F.2d 827, 830 (2d Cir. 1959), cert. den., 361 U.S. 947, 80 S. Ct. 402, 4 L. Ed. 2d 381 (1960), unless modified by previous or future court orders for good cause, Vanston Bondholders Protective Committee v. Green, 329 U.S. 156, 67 S. Ct. 237, 91 L. Ed. 162 (1946), reh. den., 329 U.S. 833, 67 S. Ct. 497, 91 L. Ed. 706.
With respect to general creditors, the SEC suggests
that "claims not bearing a contractual rate of interest are entitled to the governing legal rate". The rate used by the SEC is the maximum legal mortgage interest rate. This rate has varied in New Jersey since the commencement of these proceedings and averages out to 7.02% from the beginning of the proceedings to December 31, 1973. For purposes of simplifying these proceedings and expediting consummation, I will allow general unsecured creditors 7% on their claims from the commencement of the proceedings until the entry of an Order of Confirmation of a Plan of Reorganization.
Having established the fact that interest will be paid to creditors, the question then becomes when that interest accrued and was deductible. Interest on instruments with fixed interest rates appears to be deductible on a year-to-year basis throughout the proceeding. However, interest on general unsecured debt may accrue either on a year-to-year basis throughout the proceeding or in 1973, when I determined the debtor to be solvent. Only in the latter circumstance does the net operating loss carryforward appear to have a positive value.
The after-tax value, in such case, could range as high as $415,000.
I have considered the opinion letter of counsel and the briefs of the parties filed in the United States Court of Appeals for the Third Circuit. I still believe that the value of the net operating loss carryforward, while existing, is speculative. Some of the factors leading me to this conclusion are:
1. The timing of the accrual and deduction of interest is the subject of conflicting theories. The ultimate disposition of any claimed deduction is, therefore, unpredictable.
2. If a deduction were taken for interest on general unsecured debt in 1973, the Internal Revenue Service might decline to permit the deduction and quite probably would litigate the issue.
3. Not every proponent may be able to take advantage of the net operating loss carryforward. Moreover, the availability of the carryforward as an offset against profits may well come to an end in 1974, limiting its future value.
5. At best, the attempt to preserve and utilize the net operating loss carryforward might well result in considerable legal and accounting fees in the furthering of the contentions in favor of availability of the net operating loss carryforward.
I conclude that it is appropriate to substantially discount the alleged value of the net operating loss carryforward. For the purposes of this opinion, it is my determination that the net operating loss carryforward has a value in the range of $100,000 to $200,000.
At the end of my opinion on valuation, I indicated that the precise figure for excess cash on hand in the debtor corporation could not be known until administration expenses were allowed, other adjustments made and "the exact cash to be turned over to the reorganized debtor is known." At the final argument on the respective Plans of Reorganization, the Trustee furnished this Court with an updated schedule of cash balances.
I have reviewed this submission and it does not appear to be inconsistent with my earlier conclusions pertaining to probable excess cash.
Moreover, neither the precise amount of cash on hand at consummation nor the precise value of any available net operating loss carryforward is a critical factor for the determinations to be made in this opinion. It need only be shown, in my view, that creditors and stockholders receive full value under any approved Plan of Reorganization for the rights and values they surrender. In other words, to be "fair" a Plan must distribute cash, securities or other items of value to creditors and stockholders in an amount equivalent to their rights (debt or equity) in the debtor.
Accordingly, modest fluctuations in the excess cash ultimately on hand at consummation or the realized value of a carryforward tax loss should not alter the "fairness" of a Plan. Of course, any material variation in the debtor's assets, be it cash or otherwise, between the time of Plan approval and confirmation or consummation would permit modification of a Plan to do equity to all parties. In re Deep Rock Oil Corporation, 113 F.2d 266 (10th Cir. 1940), cert. den., 311 U.S. 699, 61 S. Ct. 138, 85 L. Ed. 453; Bankruptcy Act § 222.
Proponent Continana suggests a valuation for Imperial of approximately $14,000,000.00 plus such value as might be determined to be attributed to the net operating loss carryforward. This contention is based in part upon the selection of a multiple of 22 by Continana as opposed to the capitalization rate of 20 used in my previous valuation determination. Continana also furthers its contentions made here at the valuation hearings and in the Third Circuit on appeal pertaining to interest rates, excess cash and the net operating loss carryforward.
Since I have dealt with each of these contentions, the only adjustment that I choose to make is the addition of a value, as stated above, for the net operating loss carryforward. I find no major alteration in the operations of Imperial nor any facts that indicate such a change of circumstances as would warrant a total reconsideration of my previous valuation determination. The continuity of operations here is quite different from the set of circumstances existing in TMT Trailer Ferry v. Anderson, 390 U.S. 414, 88 S. Ct. 1157, 20 L. Ed. 2d 1 (1968).
By stating that a total reconsideration of the Imperial valuation is unnecessary, I do not mean to state that I am not cognizant of recent economic and business changes that have occurred internationally, nationally and in the business in which Imperial presently finds itself. I am aware of the decrease in multiples of public companies in the hotel/motel industry since the close of the hearings, and I am well aware of the impact that the current "energy crisis" may have on motel revenues. I am also aware of the fact that Imperial's motel locations are basically in downtown areas as opposed to locations along interstate highways. This latter fact may be considered a positive force. But to continue to speculate and revise valuation determinations would be an unproductive exercise absent seriously changed circumstances. Rather, in light of the recognized inexactitude of any valuation, Consolidated Rock Products Co. v. DuBois, 312 U.S. 510, 520-524, 61 S. Ct. 675, 85 L. Ed. 982 (1941); In re Inland Gas Corp., 211 F.2d 381, 385 (6th Cir. 1954), cert. den. sub nom., Kern v. Williamson, 348 U.S. 840, 75 S. Ct. 45, 99 L. Ed. 662, a final valuation is a desirable end in itself. Thus, I feel no need to speculate further on the subject I have already examined in great depth in my previous opinion on valuation. In re Deep Rock Oil Corporation, 113 F.2d 266 (10th Cir. 1940), cert. den. 311 U.S. 699, 61 S. Ct. 138, 85 L. Ed. 453; Bankruptcy Act, § 222.
Accordingly, I find that the valuation of Imperial of $10,693,000, as found by me in my previous opinion and as affirmed by the United States Court of Appeals for the Third Circuit,
should be modified to add a maximum of $200,000 for my valuation of the net operating loss carryforward, bringing the total maximum value for the enterprise to $10,893,000. In reaching this conclusion, I emphasize that this valuation is considered by me to be a tool to aid me in determining whether or not one of the filed Plans discussed below is fair, equitable and feasible. For that reason, the precision of the dollar conclusion is of major, but not overriding, significance.
An amended Plan of Reorganization was filed on October 20, 1972 by the Burnham Group. The Plan calls for the creation of a new structure of debt and equity that need not be detailed here. A summary is contained at pp. 11 and 12 of the SEC report.
Brief proofs were presented in conjunction with the Burnham Plan and the Plan was deemed worthy of consideration and sent to the SEC for its advisory opinion. The SEC has analyzed the Burnham Plan and reported to this Court that, in its opinion, the Burnham Plan is not fair and equitable, nor is it feasible.
The SEC feels that the cash needed to service the debt called for under the Burnham Plan would severely impair the operations of Imperial. Moreover, it is the view of the SEC that stockholders would be given nothing, which is impermissible in a solvent Chapter X Reorganization. Accordingly, the SEC concludes that the Burnham Plan is not acceptable in the form as filed. The SEC suggests that the Burnham Plan "could be amended to meet the statutory standards," and suggests a method of amendment that would render the Burnham Plan fair, equitable and feasible.
On October 24, 1973, this Court received a telephone call from Mr. Morrill J. Cole of Cole, Berman & Belsky, attorneys for the Burnham Group. The following message received from Mr. Cole was read into the record at the hearing held on that date:
"Mr. Cole, attorney for the Burnham Group, will not appear this morning. The Burnham Group has not been able to complete the amendment for their proposed new plan. The group presently does not have sufficient money in the bank."
In light of the foregoing circumstances, no Order may be entered approving the Burnham Plan. Bankruptcy Act, §§ 174, 216.
An amended internal Plan of Reorganization has been submitted by Continana Corporation, which is a major stockholder in Imperial, owning 89,850 shares.
Continana Corporation operates convalescent centers in California.
The Continana Plan as originally filed was a total stock plan whereupon all creditors and stockholders collectively would receive a total of approximately 3.6 million shares of common stock of the reorganized company. The Plan purported to divide the stock of the reorganized company among unsecured creditors, subordinated creditors, preferred stockholders and common stockholders at slightly varying prices per share with senior creditors and preferred stockholders receiving slightly more per dollar of claim or share of stock than junior interests. The per share price was based upon the valuation of the debtor corporations by the Securities & Exchange Commission.
The Securities & Exchange Commission valued the estate at $12,300,000.00 in excess of secured debt but this Court has found a lower valuation. Continana has never amended its Plan to adjust for the different valuation figure determined by the Court which has been modified as discussed above, although one Continana representative (Mr. Fund) indicated he might consider such a course. Notwithstanding the absence of such an amendment, I will consider the Plan on its merits.
The SEC report calls the Continana Plan "unfair on its face to creditors." The basis for this conclusion, states the SEC, is that the Plan allots creditors "only the face value of their claims, or less, in new common stock." Moreover, the SEC notes that the distributions to the junior creditors and stockholders is less than the face amounts of their claims, as opposed to the requisite "step-up."
Additionally, the SEC criticizes the Continana Plan for its failure to provide for any cash distribution to creditors. The SEC asserts that the addition of a cash distribution of about $600,000 to creditors would make the Continana Plan fair and equitable.
Such cash distribution, the SEC points out, would reduce the new shares of the reorganized company to approximately 1,100,000. The SEC has prepared a table showing proposed distribution and allocation under the suggested amendments.
Subsequent to the filing of the SEC report, Continana amended its Plan by stating that creditors and stockholders would receive $1,500,000.00 in cash and 1,100,000 shares of common stock "in such proportion as the Court may find to be fair and equitable." Additionally, the amendments purport to give certain preferences in liquidation to stock received by creditors and preferred shareholders. No further amendment giving greater recognition to senior rights was filed by Continana.
The Plan itself, as amended, does not indicate the source of the proposed distribution of $1,500,000.00 in cash. I was concerned with this omission and I made specific inquiry on this point of the attorneys for Continana at the final argument on all Plans.
The representation made in response to this inquiry was that Imperial would have no trouble borrowing from $300,000 to $700,000 in order to fulfill its commitments under its Plan.
Notwithstanding these representations, no letter of credit or commitment from any bank was submitted to the Court to back up this financial undertaking.
Continana contends that it gives sufficient recognition to senior rights of creditors through the vesting of control of the company in the senior creditors (by dint of their dollar interest in the net worth of the company), by the granting of special voting rights and by the amendment pertaining to a preference on liquidation to creditors and preferred shareholders. Continana cites no authority for the foregoing "extras" given to senior creditors as sufficient to accomplish the recognition of senior rights, a mandatory requirement under Chapter X, Consolidated Rock Products Company v. DuBois, 312 U.S. 510, 61 S. Ct. 675, 85 L. Ed. 982 (1941); In re Inland Gas Corp., 211 F.2d 381 (6th Cir. 1954), cert. den. sub nom., Kern v. Williamson, 348 U.S. 840, 75 S. Ct. 45, 99 L. Ed. 662. Rather, a "step-up" is the "conventional device for equalizing distributions where senior security holders are to surrender their priority." In re Inland Gas Corp., supra.
The Continana Plan does not contain a true "step-up" as a recognition of senior rights of creditors. The slightly different "trade-in" values of the different classes of claims fail to accomplish the "step-up" I find is required when comparable securities are being distributed to various creditor and stockholder classes.
Moreover, the Continana Plan suggests no allocation of cash and securities. Unlike the Schiavone Plan, discussed elsewhere herein, the proponents of the Continana Plan have a distinct interest in setting forth an allocation and a proposed "step-up" since it will very directly affect the interest of Continana in the reorganized company. Thus, Continana might find itself, should the Court impose its own allocation under the Continana Plan, as an appellant dissatisfied with the approval of its own Plan under a Court imposed allocation. And, as noted in the SEC report, an allocation under the "step-up" suggested in the SEC report
based upon the evaluation determination of this Court might well reduce the stockholders' interest to a minimal equity.