1. Corporate Bankruptcy 101 & Select Bankruptcy Issues Morris S. Bauer, Esq. Andrew Stein Larry K. Lesnik, Esq. The material provided herein is for informational purposes only and is not intended as legal advice or counsel.

2. 2 Please help yourself to food and drinks Please let us know if the room temperature is too hot or cold Bathrooms are located past the reception desk on the right Please turn OFF your cell phones Please complete and return surveys at the end of the seminar

3. 3 LOOK OUT! Bankruptcy Filings On The Rise

4. 4 The Economic Indicators Unemployment, Interest Rates, Housing Market (Foreclosures), Stock Market, Consumer Spending,Bad Credit-Card Debt

5. 5 Factors Leading to Financial Distress Liquidity Crisis Asset-Based Loan Default Loss of Major Client/Customer Loan Maturity and Unable to Refinance Drop in Revenue Increased Operating Costs

6. 6 The Chapters Of Bankruptcy Chapter 7 Chapter 9 Chapter 11 Chapter 13 Chapter 15

7. 7 Utilization of the Chapter 11 Process Reorganization Sale as a Going-Concern Orderly Liquidation

8. 8 Who Can File a Chapter 11 Businesses Corporations, Limited Liability Companies, Partnerships Individuals

9. 9 Commencement of a Chapter 11 Case Minimum Documents Necessary to File a Case: –Petition, Corporate Resolution, Creditor List, List of Twenty Largest Unsecured Creditors, and List of Equity Interest Holders Timing: –Minutes With the Advent of Electronic Filing

10. 10 Commencement of a Chapter 11 Case (Cont.) Notice to Creditors: –Twenty Largest Will Receive Notice Within a Day of the Commencement Date (If Emergent First-Day Hearings Are Requested) Other Creditors Will Receive Notice Within Approximately Two Weeks

11. 11 Commencement Of a Chapter 11 Case (Cont.) Effect of Filing: –Automatic Stay (Section 362 of the Bankruptcy Code) –Requirement for Court Approval of Any Action Outside of the Ordinary Course of Business –Jurisdiction of Court Over Debtor’s Assets

12. 12 The Players What is a Debtor-in-Possession? My company is losing money. I get to stay in control and keep collecting the same compensation. What more can I ask for? Yippee!

13. 13 Debtor’s Professionals Who are they? Counsel Special Counsel Chief Restructuring Officer Accountants Investment Bankers Environmental Engineers Brokers (real estate or business)

14. 14 Debtor’s Professionals How are they retained and how do they get paid? Retention Requirements Compensation (No such thing as a free lunch!)

15. 15 United States Trustee’s Office Role: Monitoring Chapter 11 Cases –Conducting Committee Formation Meeting –Conducting Meeting of Creditors –Professional Retention and Fee Application Oversight –Quarterly Fees

16. 16 Types Of Creditors Banks (Pre-Petition Lenders) Equipment Lessors Landlords Trade Payables Taxing Authorities (Priority Claim) Priority Claims (Wages, Commissions, Benefits, including Union Claims) Equity Holders (Shareholders)

17. 17 Creditors’ Committee Formation Process Role of Committee Committee Professionals Compensation of Committee Professionals and Committee Members

18. 18 Types of Notices Mailed to Creditors Committee Formation Meeting First Day Motions to Largest Unsecured Creditors Notice of the Section 341 Meeting Notice of Bar Date Along With a Proof of Claim Form Notice of Sale of Assets Notice of Settlements/Abandonment Notice of Professional Fee Application Hearings Notice of Disclosure Statement Hearing Notice of Plan Confirmation

19. 19 Representation of Creditors

20. 20 In-House Monitoring of Chapter 11 Cases  Centralized Mailing Address for Bankruptcy Notices  Bankruptcy Department to File Proofs of Claim, Note Important Dates, and to Receive Any and All Bankruptcy-Related Documents  Outside Counsel  Forms and Letter Responses  Proof of Claim Form  Reclamation Demand Letter  Response to Preference “Dunning” Letters  Basic Knowledge of Preference Defenses  Bankruptcy Rights With Respect to Contracts with Debtor  Access to Pacer

21. 21 General Doing Business With a Debtor Filing a Notice of Appearance Serve Reclamation Demand, if Applicable Adhere to the Deadline for Filing Proof of Claim Analyze Potential Preference Exposure Be Cognizant of the Debtor’s Viability and Continuing Operations Motion Objecting to Claims

22. 22 Should I Continue to Do Business With a Debtor?  Access to Financial Information of Debtor  Business Terms  Administrative Expense Claim  Emotions v. Profit

23. 23 Available Information Schedules of Assets and Liabilities and Statement of Financial Affairs Monthly Operating Reports Counsel to Creditors Committee Other Creditors The Web (Newspaper Articles, etc.) –Court’s Website – Pacers –Newspaper Articles, ect.

24. 24 Reclamations  Administrative Claim – Automatic Administrative Claim for any goods received by the Debtor within 20 days prior to the Petition Date. –Bar Date for filing Administrative Claim –Motion to Compel Payment of Administrative Claim  Reclamation Demand - Within 20 days of the Petition Date, Creditor may serve demand on the Debtor for the return of goods received by the Debtor within 45 days prior to the Petition Date.  Defenses to Reclamation Demand –Subject goods no longer in possession of Debtor as of the Petition Date –Lender with a Lien on all Inventory, including subject goods

25. 25 Claims Process Bar Date (Deadline to File a Claim) Filing a Proof of Claim Motion Objecting to Claims

26. 26 Claims Trading What is it? Benefits of Selling Claim Risks of Selling Claim

27. BANKRUPTCY CLAIM TRADING Andrew Stein General Attorney, AT&T

28. 28 Bankruptcy claims are like junk in the attic. Which makes more financial sense – donating what you have to charity for a tax deduction, or trying year after year to sell it for pennies on the dollar at a garage sale?

29. 29 REMEMBER! You may not write off an account automatically just because your customer has entered bankruptcy. For claims that are more than de minimus, the IRS requires objective evidence of worthlessness to support a full or partial write-off. In a bankruptcy, such objective evidence is usually not available early on.

30. 30 IN A BANKRUPTCY CLAIM SALE, THE BUYER AND SELLER BOTH STAND TO WIN THE BUYER gets an opportunity to realize a healthy return on a cash investment. THE SELLER gets instant cash and an accelerated tax benefit that the IRS is not likely to challenge.

31. 31 SELL OR HOLD?

32. 32 $500,000 claim 14% cost of capital 40% effective tax rate No objective evidence of worthlessness until the final year of the bankruptcy ASSUMPTIONS

33. 33 Sell for 2% in 2009? $206,000 Hold for 20% recovery in 2011? $200,000 Sell for 20% in 2009? $260,000 Hold for 60% recovery in 2012? $256,000 Sell for 1% in 2009? $203,000 Hold for 10% recovery in 2010? $202,000

34. 34 Sell for 2% in 2009? $206,000 Hold for 20% recovery in 2011? $200,000 Sell for 20% in 2009? $260,000 Hold for 60% recovery in 2012? $256,000 Sell for 1% in 2009? $203,000 Hold for 10% recovery in 2010? $202,000

35. 35 Sell for 2% in 2009? $206,000 Hold for 20% recovery in 2011? $200,000 Sell for 20% in 2009? $260,000 Hold for 60% recovery in 2012? $256,000 Sell for 1% in 2009? $203,000 Hold for 10% recovery in 2010? $202,000

36. 36 Sell for 2% in 2009? $206,000 Hold for 20% recovery in 2011? $200,000 Sell for 20% in 2009? $260,000 Hold for 60% recovery in 2012? $256,000 Sell for 1% in 2009? $203,000 Hold for 10% recovery in 2010? $202,000

37. 37 SELLER Assumes risk that claim is valid BUYER Assumes risk of percentage payout CONTRACT

38. 38 Preference Actions Adding Insult to Injury Preference Payments – Typically, any payment received within 90 days of the Petition Date Dunning Letter from Debtor or Liquidating Trustee’s Counsel Defenses –Contemporaneous Exchange –New Value –Ordinary Course of Business or financial affairs of the debtor and the transferee or made according to ordinary business terms

39. 39 Personal Injury Claimants Automatic Stay Stops Litigation File Motion for Stay Relief to Seek Recovery from Insurance Carrier

40. 40 Executory Contracts An Executory Contract is a contract in which both parties still have continuing obligations Examples: Residential or Commercial Leases, Certain Equipment Leases, Service Contracts, License Agreements, and Collective Bargaining Agreements A non-Debtor party is required to continue with performance under the contract

41. 41 Executory Contracts (Cont.) Assumption/Rejection of a Lease Motion to Compel Assumption or Rejection Bankruptcy Code provides Debtor with a 120- day period to decide to assume or reject a non-residential lease, which period can be extended for an additional 90 days thereafter and further if consented to by the landlord.

42. 42 Landlords Debtor must assume or reject Non- Residential Lease within 210 days unless Landlord consents to further extension Debtor required to make all lease payments in accordance with lease terms

43. 43 Landlords (Cont.) Motion to Compel Assumption Relief From Stay to Terminate Lease Motion Seeking Adequate Protection Payments

44. 44 Landlords (Cont.) Assumption of Lease –Adequate Assurance of Future Performance –Cure of Any Arrearages Assignment of Lease –Adequate Finances of Assignee –Shopping Center Leases

45. 45 Equipment Leases Equipment Financing True Lease vs. Disguised Security Interest Motion for Stay Relief Motion for Adequate Protection Assumption of Lease Sale of Equipment

46. 46 Time Line of A Chapter 11 Case First Day Motions DIP Financing/Use of Cash Collateral Financial Reporting Sale or Liquidation of Business Plan of Reorganization/Plan of Orderly Liquidation

47. 47 First Day Motions “I filed Chapter 11 and I am now told I can’t pay anyone (including employees) until the Court says I can. What is the delay?”

48. 48 First Day Motions (Cont.) Use of Cash Collateral or Debtor-in- Possession Financing Payment of Wages and Other Employee Benefits Customer Refunds and Rebates Pre-Petition Critical Vendors Payment of Sales, Use and Other Taxes Maintaining Cash Management Systems Utility Companies

49. 49 First Day Motions (Cont.) Who is Served? How quickly does the Court hear the Motions? Can they be opposed? What is the likelihood of the Court denying the Debtor’s requested relief?

50. 50 DIP Financing vs. Cash Collateral What is Cash Collateral? What is DIP Financing? How are creditors affected by DIP Financing versus Cash Collateral?

51. 51 Financial Reporting Schedules of Assets and Liabilities and Statement of Financial Affairs Budget for Use of Cash Collateral and DIP Financing Monthly Operating Reports Disclosure Statement Provides Historical Financial Information and Forecasts

52. 52 Sale of Assets in a Chapter 11 Case

53. 53 Types of Sales Asset Sale vs. Stock Purchase Section 363 vs. Plan of Reorganization Higher and Better Offers Secured Creditor Sale/Foreclosure Sale

54. 54 Chapter 11 Bankruptcy Sale Process Retention of an Investment Banker/Business Broker Motion to Fix Bidding Procedures –Bidding Procedures Hearing –Standard Asset Purchase Agreement –Stalking Horse Agreement –Break-Up Fees –Minimum Bids/Overbid

55. 55 Impact of a Chapter 11 Sale Sale Free and Clear of All Liens, Claims and Encumbrances –Successor Liability Assumption and Assignment of Executory Contracts –Payment of Arrearages –Adequate Assurance of Future Performance

56. 56 Plan of Reorganization and Disclosure Statement Process

57. 57 Exclusivity The Debtor has the exclusive right to file a plan for a period of 120 days, which may be extended up to 18 months. Competing Plans – Plan filed by Creditors

58. 58 Plan Negotiations Treatment of Secured Creditor, who is primary lender to the Debtor Negotiations with Creditors’ Committee

59. 59 Plan Negotiations from Committee Stand-Point Is the Debtor viable? What would unsecured creditors receive in a liquidation? Are there claims against Insiders (leverage)? Are there claims against the Lenders, i.e. lender liability (leverage)? Are there avoidance claims against vendors?

60. 60 Plan of Reorganization Contents of Plan Classification of Claims Treatment of Claims

61. 61 Disclosure Statement Content: Similar to a Prospectus Provide Sufficient Information for a Reasonable Person to Vote on the Plan Notice of Disclosure Statement Hearing Objections to Disclosure Statement Approval of Disclosure Statement

62. 62 Requirements for Approval of Plan of Reorganization Consent of Impaired Classes of Creditors Fair Treatment of Creditors –Class of Creditors Must Receive More Than What They Would Receive in a Liquidation –Absolute Priority Rule -Junior Class of Creditors Cannot Receive Anything Until the Senior Class of Creditors is Paid in Full Unless Senior Class Consents –New Value –LaSalle – Is Equity Paying Fair Value to Retain Ownership? Feasibility Cram-Down

63. 63 Plan of Orderly Liquidation Contents of Plan and Approval Process Liquidation Trust Assets Available for Unsecured Creditors –Remaining Sale Proceeds, if any –Preference Actions –Other Causes of Action

64. Questions and Answers

65. Lunch Break 12:00 pm – 1:00 pm

66. Ilana Volkov, Esq. Melissa A. Peña, Esq. James N. Lawlor, Esq. Joseph Aronds, Esq. The material provided herein is for informational purposes only and is not intended as legal advice or counsel. Corporate Bankruptcy 101 & Select Bankruptcy Issues

67. Key Considerations For Landlords When Faced With Commercial Tenant’s Bankruptcy Presentation to New Jersey Corporate Counsel Association March 24, 2009 Ilana Volkov, Esq. ivolkov@coleschotz.com (201) 525-6269

68. 68 Automatic Stay – Sections 362 and 541 Section 362(a) of the Bankruptcy Code prevents actions by landlords to obtain possession or exercise control over property of the estate.

69. 69 Automatic Stay – Sections 362 and 541 (cont’d) Landlords must obtain relief from the automatic stay before taking any action against the bankrupt tenant or its property. Conversely, the automatic stay does not apply to any act by a lessor to obtain possession of the property covered by a lease that has terminated before the commencement of the bankruptcy case. A lease may be terminated by its own terms or, in New Jersey, upon issuance of a Judgment for Possession.

70. 70 Ipso Facto Clauses – Section 365(e) Ipso facto clauses permit non- debtor counter-party to terminate the contract or lease in the event of bankruptcy. Ipso facto clauses are not enforceable.

71. 71 Payment of Post-Petition Rent – Section 365(d)(3) Landlord entitled to timely payment of post-petition lease obligations until such time as lease is rejected or assumed. Debtor’s obligations to pay lease obligations after the bankruptcy filing constitutes an administrative expense of the bankruptcy estate under Section 503(b).

72. 72 Payment of Post-Petition Rent – Section 365(d)(3) (cont’d) The lease will govern what constitutes “rent.” To the extent so provided in the lease, “rent” includes rent, taxes, insurance, and CAM charges. “Stub” rent: “billing date” v. “accrual method” approach.

73. 73 Assumption of Leases – Section 365(b) If a tenant opts to assume the lease, it must: (1)cure or provide adequate assurance that it will cure defaults under the lease, including defaults related to non-monetary obligations under the lease; (2)compensate or provide adequate assurance that it will compensate the landlord for any actual pecuniary loss to the landlord resulting from the defaults; and (3)provide adequate assurance of future performance under the lease.

74. 74 Special Rules for Assumption of Shopping Center Leases – Section 365(b)(3) What is a “shopping center”? In re Joshua Slocum Ltd., 922 F.2d 1081, 1087 (3d Cir. 1990). The Bankruptcy Code contains special rules for the assumption and assignment of shopping center leases in its prescription of what constitutes “adequate assurance of future performance”.

75. 75 Rejection of Commercial Leases – Section 365(a), (g) If lease not formally assumed, it is deemed rejected by operation of law. Alternatively, tenant can formally reject the lease, subject to bankruptcy court approval. Rejection is the equivalent of a breach, deemed to occur on the petition date. Section 365(g).

76. 76 Calculation of Rejection Damages - Section 502(b)(6) If lease is rejected, landlord has a general unsecured claim for damages, subject to a cap.

77. 77 Calculation of Rejection Damages - Section 502(b)(6) (cont’d) The cap limits the landlord’s damages claim to: A.The rent reserved by such lease, without acceleration, for the greater of one year or 15 percent, not to exceed three years, of the remaining term of such lease, following the earlier of: i.the date of the filing of the petition; and ii.the date on which such landlord repossessed, or the tenant surrendered, the leased property; plus B. Any unpaid rent due under such lease, without acceleration, on the earlier of such dates. Section 502(b)(6).

78. 78 Calculation of Rejection Damages - Section 502(b)(6) (cont’d) Split of authority exists as to whether “rent reserved” concept includes (and, therefore, caps) other costs incurred by landlord, such as repair and maintenance. Duty to mitigate damages. In New Jersey, commercial landlords have a duty to mitigate their damages.

79. 79 Calculation of Rejection Damages - Section 502(b)(6) (cont’d) Landlord may use security deposit to offset total amount of lease rejection damages. Relief from the automatic stay is needed to set off a security deposit post-petition, except if security deposit took the form of a letter of credit.

80. 80 Filing Proofs of Claim A chapter 11 petition commenced solely to cap a landlord’s claim for breach of a commercial property lease may be dismissed under appropriate facts and circumstances. In re Integrated Telecom Express Inc., 384 F.3d 108, reh’g denied, 389 F.3d 423 (3d Cir. 2004) Rejection of assumed leases

81. 81 Timeline for Decisions Regarding Assumption or Rejection – Section 365(d)(4) Tenants have 120 days from the bankruptcy filing to assume or reject the lease, although that deadline can be extended for another 90-days. Tenant must show “cause.”

82. 82 Assignment of Leases to Third Parties – Section 365(f) Tenant can assign lease to third party so long as: 1.The tenant assumes the lease in accordance with Section 365(b) and 2.The assignee provides adequate assurance of future performance regardless of whether there has been a default.

83. 83 Assignment of Leases to Third Parties – Section 365(f) Anti-assignment clauses generally are not enforceable, where they are designed only to impair the debtor’s ability to assume the lease. Assignment relieves the estate of future liability under the lease. Section 365(k). If lease is assigned, lessor may require a deposit or other security for the performance of the debtor’s obligations under the lease substantially the same as would have been required by the landlord upon the initial leasing to a similar tenant. Section 365(l).

84. 84 Avoidance Action Issues – Section 547(b) and (c) If a landlord is sued for the recovery of preferential payments made before the tenant’s bankruptcy filing, the landlord could avoid liability if payments were made in the ordinary course of business. Additionally, if the lease ultimately is assumed, the pre-petition payments cannot be claimed as a preference.

85. 85 Lease Auctions and Designation Rights Before BAPCPA and the collapse of the economy, debtors routinely used lease auctions and designation rights sales to produce revenue for the estate, despite stiff opposition from landlords. Designation rights purchaser usually does not become the assignee under the lease. Once the assignee is identified, the debtor and assignee would have to demonstrate that Section 365(c) is satisfied.

86. Intellectual Property Licensing Agreements and Bankruptcy

87. 87 Executory Contracts A contract on which material performance remains due on both sides.

88. 88 IP Licenses Generally, courts have found that Intellectual Property Licenses are executory contracts as of the date a debtor files for bankruptcy when there are various future performance obligations owed by licensor and licensee.

89. 89 Intellectual Property Under Section 101(35A) of the Bankruptcy Code, intellectual property is defined as (A) trade secret; (B) invention, process, design, or plant protected under title 35; (C) patent application; (D) plant variety; (E) work of authorship protected under title 17; or (F) mask work protected under chapter 9 of title 17 to the extent protected by applicable non-bankruptcy law. 11 U.S.C. §101(35A).

90. 90 Exclusions to Definition of Intellectual Property Trademarks Trade names Service mark licenses Foreign Patents and Copyrights

91. 91 What happens when you are a licensee of intellectual property and the licensor files for bankruptcy?

92. 92 Section 365(n) of the Bankruptcy Code provides the licensee of an intellectual property license with protection.

93. 93 Pre-Rejection Period What can you do prior to the Debtor’s decision to assume or reject the licensing agreement?  Under Section 365(n)(4) of the Bankruptcy Code, you can request that the Debtor continue to perform under the license pending the Debtor’s decision to assume or reject.  The statute requires the Debtor to perform OR turn over to the licensee the licensed property AND not interfere with the licensee's rights under the license, including the right to obtain the intellectual property (or embodiment) from a third party.

94. 94 Post-Rejection Period Termination - Once the Debtor rejects the license, the licensee can treat it as terminated. Licensee can now cease performance. Entitled to a general unsecured claim. ** Pre-Bankruptcy Planning – Since it will be difficult to determine the amount of damages, the license should be drafted to include a liquidated damage clause.

95. 95 Post-Rejection Under Section 365(n)(1), the licensee can elect “to retain its rights (including a right to enforce any exclusivity provision of such contract, but excluding any other right under applicable law to specific performance of such contract) under such contract and under any supplementary... as such rights existed immediately before the case commenced, for – (i)the duration of such contract; and (ii)any period for which such contract may be extended by the licensee as of right under applicable non- bankruptcy law. 11 U.S.C. § 365(n)(1)(B)(i) and (ii).

96. 96 Post-Rejection ** Pre-Bankruptcy Planning – Drafting Acknowledgment of Subject Matter as Intellectual Property and Applicability of Section 365(n).

97. 97 Post-Rejection So you elected to retain the IP rights – now what? –Under Section 365(n)(2)(B) of the Bankruptcy Code, the licensee has to make all royalty payments for the duration of the license and any extension period. –Under Section 365(n)(2)(C) of the Bankruptcy Code, the licensee is deemed to have waived any right to setoff and any administrative claim arising from performance of such contract.

98. 98 Post-Rejection ** Pre-Bankruptcy Planning – Drafting Define royalties narrowly.

99. 99 Alternative Transaction Structures to Minimize Bankruptcy Impact Excluding Intellectual Property from Property of the Bankruptcy Estate –As set forth in Section 541 of the Bankruptcy Code, the commencement of a bankruptcy case creates an estate which consists of all legal or equitable interest of the Debtor in property, wherever it is located, as of the commencement of the case.

100. 100 Vehicles to Exclude IP from the Estate (1) Assignment of Intellectual Property (2) IP Trusts (3) Bankruptcy Remote Entities

101. 101 Security Interest in IP Serves as a disincentive for the Debtor to reject the license. May be particularly helpful with Trademark Licenses.

102. 102 Debtor is the Licensee Can the Debtor assume and assign the license agreement?

103. 103 The Exception Section 365(c)(1) of the Bankruptcy Code states that: The trustee may not assume or assign any executory contract... of the debtor, whether or not such contract or lease prohibits or restricts assignment of rights or delegation of duties if– (1)(A) applicable law excuses a party, other than the debtor, to such contract or lease from accepting performance from or rendering performance to any entity other than the debtor or the debtor in possession, whether or not such contract or lease prohibits or restricts assignment of rights or delegation of duties; and (B) such party does not consent to assumption or assignment... 11 U.S.C. § 365(c)(1)(A) and (B) (emphasis added).

104. 104 Can there be an assumption or assignment under non-bankruptcy law? Patent Licenses –Courts have found that patent licenses cannot be assumed or assigned by a debtor under Section 365(c)(1) of the Bankruptcy Code as federal law prohibits the assignment of a non-exclusive patent license without the consent of the licensor. –Courts have also found that exclusive patent licenses cannot be assumed or assigned. Copyright Licenses –While few cases have addressed Section 365(c)(1) of the Bankruptcy Code and its applicability to copyright licenses, these courts have found that pursuant to federal copyright law, non-exclusive copyright licenses cannot be assumed and assigned in bankruptcy without the consent of the licensor. –Courts are split on whether exclusive copyright licenses can be assumed and assigned in bankruptcy.

105. 105 Hypothetical Test vs. Actual Test There is a conflict among the circuits as to the applicability of Section 365(c)(1) when a debtor licensee seeks to assume the license and has no intention of assigning the license to another party.

106. 106 Hypothetical Test The Third, Fourth, Ninth and Eleventh Circuit apply the “hypothetical test.” These circuits take a literal reading of Section 365(c)(1). The Debtor’s intention to assign the license is irrelevant.

107. 107 The Harsh Result of the Hypothetical Test RCI Technology Corp. v. Sunterra Corp., 361 F.3d 257(4th Cir. 2004) – The debtor entered into a license agreement with RCI whereby RCI granted the debtor a fully-paid irrevocable license to use RCI’s software in exchange for a $3.5 million license fee. Prior to the bankruptcy, the debtor paid the $3.5 million license fee and expended $38 million in connection with modifying the licensed software. The debtor was not seeking to assign the agreement and only sought to assume the agreement.

108. 108 The Harsh Result of the Hypothetical Test (cont’d) RCI Technology Corp. v. Sunterra Corp., 361 F.3d 257(4th Cir. 2004) The actual licensing agreement authorized the debtor licensee to assign the agreement. Applying the “hypothetical test”, the Fourth Circuit found that the license agreement could not be assumed notwithstanding the fact that the license agreement permitted an assignment to a purchaser of substantially all of the debtor’s assets.

109. 109 To Avoid the Result in Sunterra Corp. ** Pre-Bankruptcy Drafting – The license agreement should explicitly provide for the licensor’s consent to assignment as well as consent to the Debtor’s assumption of the licensing agreement in the event of a bankruptcy filing.

110. 110 The Actual Test The First and Fifth Circuits apply the “actual test” in determining whether Section 365(c)(1) prohibits a debtor-licensee from assuming a license agreement. Under the “actual test”, the disjunctive “or” in Section 365(c)(1) (“The Trustee may not assume or assign... if excusable law excuses a party... from accepting performance from another entity...”) as the conjunctive “and”. Thus, a debtor is permitted to assume a license agreement provided that the debtor has no intention of assigning the contract.

111. 111 To Avoid the Result in Pasteur ** Pre-Bankruptcy Drafting – In the Pasteur case, the Court recognized that the licensor could have inserted restrictions in the cross-license which impacted the Debtor’s continued rights under the cross-license if there was a change in stock ownership or corporate control. Pasteur, supra at 494.

112. 112 Ipso Facto Termination Clause Can the licensor terminate the license pursuant to a provision in the agreement which authorizes the licensor to terminate the agreement upon the licensee’s filing for bankruptcy – an ipso facto termination clause?

113. 113 Ipso Facto Termination Clause (cont’d) Exception to the General Rule – –Two Part Test Under Section 365(e)(2) of the Bankruptcy Code. –The prohibition against enforcement of the ipso facto termination clause does not apply if: “(i) applicable law excuses a party, other than the debtor, to such contract or lease from accepting performance or rendering performance to the trustee or to an assignee under such contract or lease, whether or not such contract or lease prohibits or restricts assignment of rights; and (ii) such party does not consent to such assumption or assignment...” 11 U.S.C. § 365(e)(2).

114. 114 Unable to Assume License If the Debtor is unable to assume the license, is the license deemed rejected? Courts have allowed intellectual property licensing agreements to “ride through” the bankruptcy case. The “ride through” doctrines “provides that executory contracts that are neither affirmatively assumed or rejected by the debtor under Section 365, pass through the bankruptcy estate unaffected.” In re Hernandez, 287 B.R. 795, 799 (Bankr. D. Az 2002).

115. 115 Secured Creditor’s Foreclosure Upon Debtor’s Intellectual Property When a secured creditor with a lien on all of the Debtor’s assets seeks to foreclose on intellectual property, which is the subject of a license agreement, Section 365(n) protects the licensee’s interest. The licensee can retain its interest in the intellectual property subject to the payment of royalties which are remitted to the secured creditor. This comports with Article 9 of the UCC. Section 9- 321(b) provides that “[a] license in the ordinary course of business takes its rights under a nonexclusive license free of a security interest in the general intangible created by the licensor, even if the security interest is perfected and the licensee knows of its existence.” UCC 9-321(b).

116. 116 Materials prepared by James N. Lawlor Partner, Wollmuth Maher & Deutsch One Gateway Center, Ninth Floor Newark, NJ 07102 - and - 500 Fifth Avenue New York, NY 10110 Email: jlawlor@wmd-law.com Phone: 973-733-9200 www.wmd-law.com All Rights Reserved PRE- AND POST- BANKRUPTCY RIGHTS OF CREDITORS

117. 117 Key Terms in Bankruptcy Proceedings Chapter 11 Chapter 7 Chapter 13 Property of the Estate Claims Secured vs. Unsecured Claims Prepetition vs. Postpetition Claims

118. 118 Key Terms (cont’d) Discharge Automatic Stay Avoidance Actions Preferences Fraudulent Transfers Statements and Schedules

119. 119 Key Parties In Interest The Debtor-in-Possession Chapter 11 Trustees Chapter 7 Trustees United States Trustee

120. 120 Treatment of Prepetition Creditors The Debtor-Creditor Relationship Pre-Filing Governed by contract and applicable non-bankruptcy law Post -Filing The Automatic Stay comes into effect, barring actions to adjudicate or realize on debt Unsecured creditors must usually file a claim and wait until the conclusion of the proceeding to be paid, if at all Secured Creditors retain rights of priority but are still subject to the stay

121. 121 Treatment of Creditors (cont’d) Rights of Secured Creditors Pre-Filing Powerful rights, including right to foreclose, take possession of collateral and sell it to satisfy debt Post -Filing The Stay bars enforcement actions and stops foreclosures Debtors often seek to use cash collateral to operate in reorganization proceedings Entitled to adequate protection for the collateral Secured creditors often need to seek stay relief to protect deteriorating assets, but are not assured that such relief will be granted

122. 122 Treatment of Creditors (cont’d) Contractual and Lease Relationships Pre-Filing Right to damages and to cease performing when other party breaches Post -Filing The Stay bars exercise of contractual rights against the Debtors and trustees Debtor is free to enforce its rights pending the conclusion of a Chapter 11 Debtor can either assume or reject a lease or contract

123. 123 Treatment of Creditors (cont’d) Special Considerations as to Contracts Non-Debtor Recourse in the Face of Uncertainty May seek to compel Debtor to make a determination of whether to assume or reject a lease or contract on fairness grounds Agreements Terminated Prepetition Bankruptcy does not revive such agreements.

124. 124 Treatment of Creditors (cont’d) Special Considerations (cont’d) Non-Assumable Agreements Certain types of agreements may not be assumed by a debtor License Agreements/Shopping Center Leases Special rules apply to licenses and shopping center leases in bankruptcy.

125. 125 Treatment of Creditors (cont’d) Preventing Assignments of Contracts/Leases Pre-Filing Governed by contract and state law Post -Filing Anti-assignment clauses are generally not enforceable

126. 126 Treatment of Creditors (cont’d) Non-Competes/Restrictive Covenants Pre-Filing Enforceable as long as reasonable Post -Filing Bankruptcy will generally not eliminate the restrictions

127. 127 Treatment of Creditors (cont’d) Right to Arbitrate Claims Pre-Filing Strong public policy for arbitration Post -Filing Bankruptcy courts follow the general rule that parties that specify arbitration of disputes will be required to arbitrate the amount and extent of claims

128. 128 Creditors Transacting With Debtors/Trustees Creditors Engaged in Postpetition Transactions Are Protected 503(b) of the Code grants Priority treatment for services or goods provided to estate, as long as actual necessary costs and expenses of preserving the estate Examples: wages, rents, repairs, taxes

129. 129 Sometimes Forgotten Rights Right of Recoupment and Setoff Recoupment Enforceable Setoff Can be lost through discharge and failure to seek stay relief Reclamation Special rules apply that may elevate the claims of reclaiming creditors

130. 130 Enhanced Claims of Debtors/Trustees Preferences Fraudulent Transfer Claims

131. Questions and Answers Thank you for coming!