While double dip financing structures are nothing new, their strategic use as a sword in the liability management toolkit is new. 

We can recall at least two such historical cases: Lehman Brothers where double-dip claims were settled at 1.65x of claim, and in GM Nova Scotia, where the double-dip claim was settled at about 1.5x of claim. For readers, looking to remind themselves of how history can repeat itself, you can find the GM papers here. 

With the renewed desire to create financial flexibility post-Serta, we asked Contributor Jim Millar to weigh in on the enforceability of the “double-dip” financing structure in a bankruptcy setting. 

Please read the excerpts below and find the full feature here.

Before we get to the text of the statute, let’s cut to the chase:  the primary purpose of Section 502(e)(1)(B) of the Bankruptcy Code is to prevent “double-dipping” against the bankruptcy estate.  As the First Circuit stated:  “The sole purpose served by section 502(e)(1)(B) is to preclude redundant recoveries on identical claims against insolvent estates in violation of the fundamental Code policy fostering equitable distribution among all creditors of the same class.” The legislative history likewise notes that Section 502(e)(1)(B) “prevents competition between a creditor and his guarantor for the limited proceeds in the estate.” Juniper Dev. Group v. Kahn (In re Hemingway Transp., Inc.), 993 F.2d 915, 923 (1st Cir.1993).  

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Consider the paradigmatic example of the guarantor relationship.  OpCo issues debt to the lenders in the amount of $250 million.  That debt is guaranteed by another entity, GuaranteeCo.  In the event Guarantee Co. ever has to make good on the guarantee, it has a claim for reimbursement back against OpCo. 

We can illustrate the typical guarantor relationship as follows:

Looking at this figure, one can easily see the potential for two claims against OpCo if OpCo were to file bankruptcy.  First, the lenders would make a claim based on the underlying debt for $250 million.  Next, GuaranteeCo would make a contingent claim for $250 million based on its reimbursement right against OpCo.  In other words, if GuaranteeCo has to pay the lenders, GuaranteeCo would seek to recover from OpCO based on its right to reimbursement.  Section 502(e)(1)(B), however, prevents this double counting of claims against the estate.   

Section 502(e)(1)(B) of the Bankruptcy Code requires that a bankruptcy court “disallow any claim for reimbursement or contribution of an entity that is liable with the debtor on or has secured the claim of a creditor, to the extent that . . . such claim for reimbursement or contribution is contingent as of the time of allowance or disallowance of such claim.”

?Boiling down the statutory text, for a claim to be disallowed under this section, three elements must be shown: 

Co-liability —  the party asserting the claim must be liable with the debtor on the claim of a third party;

Contingency — the claim must be contingent at the time of its allowance or disallowance; and

Reimbursement or Contribution — the claim must be for reimbursement or contribution.

We see that each of these elements is satisfied in our guarantor example.  First, OpCo and GuaranteeCo are both liable to the lenders on the underlying debt, thus establishing the co-liability element.  Second, the claim by GuaranteeCo against OpCo is contingent, with the contingency being whether GuaranteeCo actually has to payout on the guarantee.  Third, GuaranteeCo’s claim against OpCo is the classic claim for reimbursement.  With all those elements satisfied, Section 502(e)(1)(B) would disallow GuaranteeCo’s claim against Opco.

Application of Section 502(e)(1)(B) to Double Dips

Before getting into the specific elements, we’ll first compare the pictorial representations of the simple double dip and the guarantee situation. 

This feature has been edited (including by removing footnotes) for clarity and presentation. 

The views of our Contributors should not be attributed to their respective firms or the Creditor Rights Coalition. In addition, the Coalition may take positions as part of its Advocacy efforts that do not necessarily reflect the view of Contributors and should not be attributed to any Contributor.