MORTGAGES; STRUCTURED FINANCE; MEZZANINE LOANS; New York court provides
broad interpretation of "default cure" in structured finance
intercreditor agreement. Mezzanine lender takes loss.
Bank of America v. PSN, Index No. 651293/10, (N.Y. Sup. Ct. 9/15/10)
New York State Supreme Court Justice Lowe (a trial judge in the
New York system) ruled that investors who had acquired a piece of a a mezzanine
lender could not foreclose on its mezzanine lien and take Stuyvesant Town/Peter
Cooper Village (Stuyvesant Town) from its current owner and a foreclosing
mortgage lender without paying the accelerated senior loan on the property of
$3+ billion. The ruling, if upheld and followed, will add considerably to the
power of senior commercial real estate (CRE) mortgage lenders versus subordinate
"mezzanine" lenders where assets have decreased massively in value.
When the deal was formed in 2007, a consortium of investors bought
Stuyvesant Town, a, 11,200-unit Manhattan residential development, for $5.4
billion. This "top of the market" price was the highest price ever
paid for contiguous U.S. realty. Buyers financed the purchase with a $3 billion
securitized first-mortgage loan and a $1.4 billion mezzanine loan secured by the
ownership interest in the owner. The project is now said to be worth less than
$2 billion. The owner defaulted on the senior mortgage and mortgagee accelerated
the loan later that month.
Investors ("Pershing") unexpectedly responded to the
acceleration and scheduled foreclosure by buying the top $300 million slice of
the mezzanine loan for just $45 million. They then scheduled their own Uniform
Commercial Code (UCC) foreclosure sale of the equity collateral. Pershing
intended to buy at the UCC foreclosure sale and informed the press that they
planned to put Stuyvesant Town into bankruptcy prior to the scheduled mortgage
Prior to the UCC sale, the servicer for the first mortgagee sued to stop the
Pershing auction. There was an inter-creditor agreement binding the mezzanine
lender which stated, in what has been described as "industry-standard"
language, that the mezzanine lender must cure all defaults before acquiring the
property. ,Senior lender argued that this meant that the mezzanine lender must
cure the $3.7 billion accelerated claim on the senior debt. Pershing argued that
the clause applied only to amounts owed before senior loan acceleration,
The trial court agreed with CW the senior lender, concluding that the
intercreditor agreement language was "unambiguous" and that "its
plain language" required Pershing to pay the $3.7 billion due on the
accelerated loan before it acquires the ownership of the equity collateral.
Pershing and Winthrop have already appealed the decision.
Comment: In the past, parties involved in arguments over these
intercreditor agreements rarely thought it appropriate to bring them to court.
The huge differences in value at stake and the leverage enjoyed by the party
controlling a bankruptcy may lead to further litigation of this and other issue.
But this case certainly will be a powerful bargaining chip in favor of senior
lenders, assuming that it is upheld if appealed.
There always has been some question on Wall Street about the legal
position of the mezzanine lender. Nonetheless, significant mezzanine loans exist
in many deals and often have been successfully resold, as was the case here
(eight tranches). The heat's now up in the kitchen. Let's see how the mezzanine
lenders can really protect their position. It's unlikely that they'll have to
step up to these massive senior loans. But they may have to bargain for a
discounted purchase of such loans. Whether these purchases will include claims
against any guarantors will also be interesting.
Elmer F. Pierson Professorship and Professor of Law; B.A. (Yale
University); J.D. (University of California, Berkeley)