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Bankruptcy Is Uncharted Territory for Unitranche Lenders

Since the 1978 passage of the U.S. Bankruptcy Code, the corporate structure and financing arrangements of a typical Chapter 11 debtor have changed dramatically.1 When the Bankruptcy Code was enacted, the assets of a typical debtor were encumbered by a lien held by a single secured creditor.2 However, over the past few decades, loans increasingly have been syndicated among financial institutions. Lenders have also provided debt in tranches, often establishing first- and second-lien priorities, with the rights and security interests of lenders in each tranche defined by their own set of loan documents. The relationship between those lenders is further defined by an intercreditor agreement. These complex arrangements have been tested in courts countless times.3

Since the Great Recession in the late 2000s and early 2010s, the pendulum has begun to swing back to what many perceive as a more simplified structure, especially for middle market borrowers, with the rise of the unitranche debt financing facility.4 A unitranche loan presents a unique debt structure that involves a single layer of senior secured debt that is not separated by subordinated debt financing. In principle, this single structure means lenders should all be treated equally under the loan documents. Practically, though, the various rights and remedies of lenders under a unitranche facility are defined by an agreement among lenders (AAL), to which the borrower may not be a party.

This unitranche structure, as well as the AALs that play a central role, remain largely untested by Bankruptcy Courts. In the two decisions the authors are aware of in which a Bankruptcy Court heard a dispute among unitranche lenders, the courts treated AALs similar to more traditional intercreditor agreements. However, the differences between an AAL and an intercreditor agreement could result in substantially different outcomes in future cases.

Issues such as a Bankruptcy Court’s jurisdiction to interpret an AAL, the classification of unitranche lenders’ claims against a debtor, voting rights, and post-petition interest, among others, have yet to be decided by Bankruptcy Courts—let alone to be defined well enough to create any level of certainty in the market. It is likely that this uncertainty will follow unitranche lenders into the next market downturn.

Loan Structure

Unitranche loan structures are typically used by lenders in connection with financings to middle market companies. They are attractive to lenders, borrowers, and equity sponsors alike for a number of reasons, including:

  • Reduced closing and administrative costs offered by using a single agreement, agent, and set of collateral documents

  • Quicker execution given that there is no need to syndicate lenders prior to closing

  • No syndication risk given that most unitranche lenders will fully underwrite the loan

  • Lower debt service costs than what a borrower would typically pay in multitranched debt facilities

  • Often no amortization or call protection, thus giving borrowers the flexibility to refinance without paying prepayment premiums

  • Easier compliance and administration by having a single set of covenants and only one reporting package to prepare

Unitranche lenders also often commit to funding additional capital expenditures and acquisitions, thus securing a working relationship between the borrower or equity sponsor and their lenders.

Because the loan facility is governed by a single credit agreement and security agreement, with one agent holding one lien securing all obligations, lenders are all treated the same under the credit documents. The same covenants protect all lenders, and the same voting rights likely apply to them, too. Similar to an intercreditor agreement, an AAL allows lenders under a unitranche facility to alter or amend voting rights, payment priority, or interest rates.5

Accordingly, the purpose of an AAL is to designate and determine the economics of the transaction between and among lenders. It does so by dividing the loans made under a single credit agreement into tranches to provide one set of lenders with priority in treatment over the other set of lenders. The portion of the loan that enjoys priority is the first-out loan, with the remaining portion designated as the last-out loan.First-out lenders typically receive a lower interest rate in exchange for their lower risk of not being repaid. Conversely, the last-out lenders typically are compensated with a higher interest rate on account of their increased repayment risk. However, this allocation of interest and fees is determined solely among the lenders; the borrower pays one interest rate to all lenders under the facility.

Treatment in Bankruptcy

An AAL specifies the parties’ rights upon the occurrence of an event of default, which may include a bankruptcy of the borrower. In this respect, AALs largely mirror the provisions seen in a traditional intercreditor agreement by defining, among other things, (i) voting rights with respect to a plan; (ii) the waterfall for any payments received by the lenders; and (iii) standstill provisions, such as whether last-out lenders are allowed to object to a bankruptcy sale or to debtor-in-possession financing. Whether these provisions will be enforced in a bankruptcy remains largely untested, however, which raises a number of concerns for unitranche lenders.

Jurisdiction. Chief among these concerns is whether a Bankruptcy Court will determine that it has jurisdiction to enforce the terms of an AAL when the debtor is not a party to the document. Bankruptcy Courts are courts of limited jurisdiction that only decide matters between non-debtors if resolution of the dispute is inextricably tied to the administration of the bankruptcy estate.6

The Bankruptcy Code authorizes courts to enforce subordination agreements “to the same extent such agreement is enforceable under applicable nonbankruptcy law.” 11 U.S.C. Section 510(a). Bankruptcy courts routinely decide intercreditor disputes among first- and second-lien lenders so long as the dispute is tied to the administration of the debtor’s bankruptcy case. That is because courts have concluded that “[a]djusting competing claims of creditors to the property of a bankrupt is the central function of bankruptcy law.”7

When two sets of creditors have competing claims against the property of the debtor, as is the case in a traditional first- and second-lien financing, the Bankruptcy Court likely will find it has jurisdiction to resolve any dispute. However, in the case of a unitranche financing, where a court may recognize a single claim against the debtor’s property, the Bankruptcy Court may determine that it lacks jurisdiction to resolve a dispute among the third-party lenders pursuant to an AAL.8

If a Bankruptcy Court determined that it lacked jurisdiction over an AAL, the only remedy may be for the lenders to seek to initiate a separate state court proceeding. As a practical matter, however, this remedy likely would not provide any relief to the aggrieved lenders. Bankruptcy cases, including plan confirmation and asset sales, often proceed on substantially faster tracks than non-bankruptcy civil litigation. By the time an AAL dispute arose and a Bankruptcy Court determined it lacked jurisdiction over that dispute, the race to state court for relief would likely be a dead end.

Classification and Collective Action. Given the nature of a unitranche facility, where the lenders have a single claim against a debtor arising out of a single set of loan documents, lenders likely would be classified into a single class in the debtor’s bankruptcy. This single classification may very well compromise many, if not most, of the provisions in the AAL that establish de facto debt tranches.

The Bankruptcy Code provides that a debtor may classify claims that are substantially similar into a single class for purposes of treatment under a plan of reorganization, and claims within each class must be afforded the opportunity to receive equal treatment.9 When determining whether claims or interests are substantially similar, “[t]he similarity of claims is not judged by comparing creditor claims inter se. Rather, the question is whether the claims in a class have the same or similar legal status in relation to the assets of the debtor.”10

The requirement that all class members receive the same treatment may force the debtor’s plan to provide equal consideration to both first-out and last-out lenders, notwithstanding the provisions of the AAL.


In a traditional first- and second-lien financing scenario, the pool of collateral may be shared, but the two sets of lenders are easily distinguishable. Their relation to the debtor is governed by separate sets of loan documents, agents, and liens. In contrast, under a unitranche facility, all lenders are subject to a single set of loan documents, one agent, and one lien. Although the AAL distinguishes lenders’ rights based on their own private arrangement, the loan documents that define a debtor’s obligations only recognize one class of creditors. Accordingly, a Bankruptcy Court likewise may not recognize the tranching that is achieved by the AAL and may instead consider all unitranche lenders to be a single class of creditors.

Doing so could have negative consequences for some lenders, especially if the Bankruptcy Court declined to adjudicate AAL disputes. For example, the requirement that all class members receive the same treatment may force the debtor’s plan to provide equal consideration to both first-out and last-out lenders, notwithstanding the provisions of the AAL. The first-out lenders may be forced to initiate state court proceedings to enforce the payment priority terms of the AAL.

Likewise, if all lenders vote as a single class, the last-out lenders may be able to form a blocking position to prevent confirmation of a plan that is otherwise acceptable to the first-out lenders, even if the AAL designates the votes of the last-out lenders in favor of a plan that the first-out lenders deem satisfactory.11 If the Bankruptcy Court were to give them a voice, the last-out lenders also might seek to block a sale of the borrower under Section 363 of the Bankruptcy Code that releases the lenders’ collective lien on the borrower’s assets.

Relatedly, intercreditor agreements typically allow a second-lien lender to take action as an unsecured creditor, even when it has waived such rights as a secured, subordinated lender.12 Under an AAL, where there is only one agent for all lenders, Bankruptcy Courts may be less likely to allow the last-out lenders to take collective action—even as unsecured creditors—if they have waived such rights in favor of the first-out lenders.

Post-Petition Interest. In distinguishing the rights of the first-out and last-out lenders, the AAL may provide that, in the event of a bankruptcy of the borrower, the first-out lenders are entitled to accrue post-petition interest. Although creditors in a bankruptcy are generally not allowed to accrue post-petition interest on their claims for principal, the Bankruptcy Code provides a statutory exception for oversecured creditors.13 In general, a creditor’s claim is deemed oversecured if the value of the creditor’s interest in its collateral exceeds the amount of its claim against the debtor.14

In a typical first- and second-lien structure, where separate liens are granted to the different lender groups, the value of a debtor’s collateral will be measured against each claim, meaning a first-lien lender may be deemed oversecured (and thus entitled to post-petition interest) while a second-lien lender is not. Under a unitranche facility, where there is one claim against the debtor, the lenders likely would be deemed to have one claim against the debtor, notwithstanding the lenders’ rights under the AAL. As such, the value of the collateral would need to exceed the claim of both the first-out and last-out lenders for any of the lenders to be entitled to post-petition interest.

Further complicating the matter is that the AAL may require the last-out lender to turn over any proceeds it receives to satisfy the first-out lender’s entitlement to post-petition interest, regardless of whether the Bankruptcy Court rules that such payments are appropriate. As discussed in this article, enforcement of such provisions may require the institution of separate state court proceedings.

Limited Guidance

Many of the issues raised in this article remain unanswered because unitranche facilities are largely untested by Bankruptcy Courts. The authors are aware of only two decisions involving such facilities.

In 2013, the U.S. Bankruptcy Court for the Southern District of New York confronted “a unique financing structure known as an ‘insured unitranche.’”15 In American Roads, the court recognized that the secured creditors’ interests and rights were governed by a set of prepetition financing contracts that provided for one lien and the same collateral agent and trustee.16 Through those contracts, the debtor’s bondholders had voluntarily subordinated their rights to the debtor’s monoline insurer.17 One of the rights that the bondholders had negotiated away was the ability to participate in any bankruptcy proceedings.18

When the debtor filed for bankruptcy and the bondholders sought to participate, the court, interpreting New York law, ruled as enforceable those provisions of the prepetition financing documents that gave the insurer the sole authority to direct the course of the proceedings.19 The court went on to reject the bondholders’ arguments that provisions of a subordination agreement should not be enforced when they are inconsistent with fundamental rights under the Bankruptcy Code, ruling that such waivers are permitted when the parties are sophisticated and aware of the risk.20

The American Roads court, as well as the parties to the dispute, treated the subordination agreement at issue in that case similar to a more traditional intercreditor agreement. Thus, although the decision provides a tacit endorsement for a Bankruptcy Court’s ability to enforce subordination agreements in unitranche facilities, it lacks specific insight or precedence concerning how a court would rule if the issues discussed in this article were tested, either sua sponte or by the parties.

A decision by the Bankruptcy Court for the District of Delaware from 2015 addressed more squarely the issues implicated by AALs but, likewise, did not result in much guidance or precedence.21RadioShack involved a dispute between the first-out and last-out lenders over the ability of the last-out lender to object to a sale that was supported by the first-out lender and to credit bid its claim.

Although the parties ultimately consented to the Bankruptcy Court’s jurisdiction to hear the dispute, the parties noted that the AAL did not impact the debtors or their estates and that the dispute merely related to a “side deal” among lenders. Nevertheless, the court looked to Section 510 of the Bankruptcy Code, providing for the enforcement of subordination agreements, when accepting the lenders’ invitation to adjudicate their dispute.

The court ultimately did not rule on the motions before it, however, choosing instead to encourage settlement among the lenders. But the court interpreted the terms of the AAL to mean the first-out lender was entitled to enforce the provisions prohibiting the last-out lender from objecting to the sale, although it was less certain that the first-out lender could block a credit bid by the last-out lender.

Taken together, these decisions suggest that Bankruptcy Courts may enforce the terms of an AAL similar to enforcement of an intercreditor agreement governing a more traditional first- and second-lien credit facility. However, given the dearth of case law and the wealth of unsettled issues, the market lacks certainty as to how courts will ultimately treat unitranche facilities and AALs in the next downturn.

  1. See, e.g., Kenneth Ayotte & David A. Skeel, “Bankruptcy Law as a Liquidity Provider,” 80 U. Chi. L. Rev. 1557 (2013).
  2. See, e.g., Marshall S. Huebner & Benjamin A. Tisdell, Davis Polk & Wardell, The Americas Restructuring and Insolvency Guide, “As the Wheel Turns: New Dynamics in the Coming Restructuring Cycle,” at 78 (2008) (“Twenty-five years ago…. [t]he major creditor participants in corporate reorganizations were usually large commercial banks and other institutional creditors (e.g., insurance companies), indenture trustees representing bondholders and the debtors’ vendors.”).
  3. See, e.g., Del. Trust Co. v. Wilmington Trust, N.A., 534 B.R. 500 (S.D.N.Y. 2015) (collecting case law and concluding that allocation of cash collateral payments among creditors pursuant to an intercreditor agreement is a core proceeding).
  4. It has been estimated that, between 2010 and 2016, unitranche financing replaced approximately $20 billion in traditional subordinated debt financing. See “Tracing the Rise of Direct Lending: The Importance of Rates and Loan Structure,” Cambridge Associates, cambridgeassociates.com/research/tracing-the-rise-of-direct-lending-the-importance-of-rates-and-loan-structure/ (June 2017).
  5. The lack of uniformity among AAL forms compounds the uncertainty of how AALs will be treated in bankruptcy.
  6. See In re Xonics, Inc., 813 F.2d 127, 131 (7th Cir. 1987) (“The bankruptcy jurisdiction is designed to provide a single forum for dealing with all claims to the bankrupt’s assets. It extends no farther than its purpose. That two creditors have an internecine conflict is of no moment, once all disputes about their stakes in the bankrupt’s property have been resolved.”).
  7. Xonics, 813 F.2d at 131.
  8. See id. (“That two creditors have an internecine conflict is of no moment, once all disputes about their stakes in the bankrupt’s property have been resolved.”).
  9. See 11 U.S.C. Sections 1122 & 1123(a)(4).
  10. In re Frascella Enters., Inc., 360 B.R. 435, 442 (Bankr. E.D. Pa. 2007).
  11. Although courts typically enforce the terms of subordination agreements in bankruptcy, they are hesitant to enforce restrictions on junior lenders’ voting rights. See, e.g., In re SW Hotel Venture LLC, 460 B.R. 38 (Bankr. D. Mass. 2011) (invalidating voting assignment provisions in the intercreditor agreement.).
  12. See, e.g., Ion Media Networks, Inc. v. Cyrus Select Opportunities Master Fund Ltd. (In re Ion Media Networks, Inc.), 419 B.R. 585 (Bankr. S.D.N.Y. 2009) (recognizing an ad hoc group of out of the money second-lien lenders’ right to take action as unsecured creditors unless expressly prohibited by the governing intercreditor agreement).
  13. 11 U.S.C. Section 506; see Prudential Ins. Co. of Am. V. SW Boston Hotel Venture, LLC (In re SW Boston Hotel Venture, LLC), 748 F.3d 393, 403 (1st Cir. 2014) (“As a general matter, unmatured interest is not allowed after the filing of a bankruptcy petition. 11 U.S.C. Section 502(b)(2). However, Congress has created an exception to this rule in the case of ‘oversecured’ creditors.”).
  14. Id. at 400.
  15. In re Am. Rds. LLC, 496 B.R. 727 (Bankr. S.D.N.Y. 2013).
  16. Id. at 729.
  17. Id. at 729.
  18. Id.
  19. Id. at 729-31.
  20. Id. at 732.
  21. In re RadioShack Corp., Case No. 15-10197, Docket No. 1744 (Bankr. D. Del. Apr. 9, 2015).
Douglas Gooding

Doug Gooding

Choate, Hall & Stewart LLP

Douglas R. Gooding is co-chair of Choate’s Business Department. He has more than 25 years of experience advising on financing and restructuring transactions, particularly on debtor-in-possession lending and senior, second lien, and mezzanine debt in complex restructurings. He also specializes in advising troubled companies in various industries, including healthcare and retail, and has extensive experience representing insurance providers in mass tort bankruptcy cases. Gooding has appeared in courts throughout the U.S. and Canada and has been appointed mediator in several bankruptcy disputes.

Jonathan Marshall

Jonathan D. Marshall

Choate Hall & Stewart LLP

Jonathan D. Marshall is counsel in Choate’s Finance & Restructuring group, where he advises financial institutions in a range of complex financial transactions, with a concentration on corporate restructurings and loan workouts. He specializes in advising lenders, troubled companies, and other strategic parties in both in- and out-of-court restructurings. Marshall has advocated for lenders and equity investors in some of the largest Chapter 11 restructurings, including Energy Future Holdings, GMAC/ResCap, Lyondell Chemical Company, Lehman Brothers, and Washington Mutual Inc.

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