In re Zais Investment Grade Limited VII

United States Bankruptcy Court for the District of New Jersey · Corporations

CorporationsBankruptcyInvoluntary chapter 11Debtor eligibilityGood faith filingAbstentionCDO structure11 U.S.C. § 109(a)

Facts

Zais Investment Grade Limited VII was a Cayman Islands corporation created as a special purpose vehicle that issued notes and pledged collateral securities, with a trustee holding the assets in the United States and a collateral manager in New Jersey performing management functions. After a covenant default and acceleration of the senior Class A-1 notes, the indenture required the trustee to hold the collateral intact, so the assets were no longer actively managed and collections were simply distributed to senior noteholders. The petitioning creditors, holders of Class A-1 notes acquired after default, filed an involuntary chapter 11 petition to permit active management or orderly liquidation of the collateral. Hildene, a junior noteholder that bought its notes after the petition and just before entry of the order for relief, moved to dismiss or abstain, arguing the debtor was ineligible, the petitioners were unqualified, and the filing was improper and in bad faith.

Issue

Whether this Cayman Islands debtor was eligible to be a debtor under § 109(a), whether junior noteholders could challenge the petitioning creditors' qualifications after entry of the order for relief by default, and whether the involuntary chapter 11 case should be dismissed or abstained from under §§ 305 or 1112 for improper purpose or bad faith. More specifically, the court had to decide whether the senior noteholders' effort to escape indenture restrictions and maximize collateral value supplied a valid bankruptcy purpose.

Rule

Under § 109(a), a debtor need only have a place of business or property in the United States, and a place of business exists where business is conducted in the United States on the debtor's behalf through entities performing the debtor's core operational functions. Once the alleged debtor fails to contest an involuntary petition and the order for relief is entered, only the alleged debtor could have challenged the petitioning creditors' qualifications under § 303, so other parties may not do so. Abstention under § 305 requires a showing that the interests of both creditors and the debtor would be better served, and dismissal for bad faith under § 1112 requires at least a prima facie showing that the petition lacks a valid reorganizational purpose.

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One of 10 multiple-choice questions for this case. Pick an answer to see why.

Blue Harbor Funding Ltd., a Bermuda special-purpose company, has no employees in Bermuda and only local directors who maintain its registration. Its trustee in New York holds its securities and cash, while a portfolio servicer in Chicago performs recordkeeping, collections, investor communications, and distribution functions under contract.

If senior noteholders file an involuntary chapter 11 petition in New Jersey, what is the strongest argument that Blue Harbor is eligible to be a debtor under § 109(a)?

Explanation. Section 109(a) requires only a place of business or property in the United States, not a principal place of business. The majority held that a foreign letterbox entity had a U.S. place of business where its trustee and service providers performed essential functions on its behalf, and that pledged securities and cash held by the trustee in the United States were still nominally the debtor’s property. (Derived from In re Zais Investment Grade Limited VII (n.d.).)