Appeal from the United States District Court for the District of New Jersey (D.C. Civil No. 1-10-cv-02837) District Judge: Honorable Jerome B. Simandle
The opinion of the court was delivered by: Rendell, Circuit Judge.
Before: RENDELL, FISHER and CHAGARES, Circuit Judges
This appeal requires us to decide how bankruptcy courts should value collateral retained by a Chapter 11 debtor in order to determine the amount of a creditor‟s secured claim under 11 U.S.C. § 506(a). Appellants, a group of creditors known as the Cornerstone Investors, claim that the Bankruptcy Court erred by valuing their secured claims at zero based on an appraisal of Debtors‟ real estate offered by the Official Committee of Unsecured Creditors. We conclude that the Bankruptcy Court did not err in its valuation of the real estate, and that it properly determined that the Cornerstone Investors held only unsecured claims. In so concluding, we also clarify the burden of proof with respect to such valuations in the § 506(a) context.
Debtors Heritage Highgate, Inc. and Heritage-Twin Ponds II, L.P. embarked upon the development of a residential subdivision in Lehigh County, Pennsylvania (the "Project") in August 2005. The Project was to consist of townhouses and single-family detached homes.
Debtors entered into a series of construction loan agreements, first borrowing from a group of banks led by Wachovia (the "Bank Lenders"). Pursuant to their agreement, the Bank Lenders retained a lien on substantially all of Debtors‟ assets as collateral for the loan. Debtors subsequently borrowed from several individuals and entities, known collectively as the Cornerstone Investors. Pursuant to those agreements, the Cornerstone Investors similarly received liens, of equal priority with the Bank Lenders and each other, on substantially all of Debtors‟ assets. The Cornerstone Investors, however, later agreed to subordinate their secured claims to the secured claim of the Bank Lenders in a set of intercreditor agreements.
On January 20, 2009, after building and selling approximately a quarter of the planned units, Debtors filed voluntary petitions for relief under Chapter 11 of the Bankruptcy Code. On June 9, 2009, Debtors filed a joint proposed plan of reorganization, which provided that they would complete development of the subdivision and make distributions to their creditors according to a set of projections. In the initial proposed plan, Debtors projected that they would first pay the secured claim of the Bank Lenders in full, then pay the secured claims of the Cornerstone Investors in full, and thereafter pay all unsecured claims at a rate of approximately 20% each, from the funds earned through lot sales.
In connection with a contested cash collateral hearing,*fn1 Debtors offered an appraisal of the Project prepared by an experienced real estate appraisal company, Reaves C. Lukens, in February 2009 to demonstrate the worth of their collateral. The 140-page appraisal set forth in detail the company‟s estimation of the real estate development‟s fair market value pursuant to two well-accepted appraisal methodologies, the sales comparison approach and the income capitalization approach.*fn2 According to the appraiser, both analyses "were well supported by market evidence" and yielded virtually identical estimations. The appraiser favored the results of the latter because it "more accurately considered the time and expenses" related to a real estate development like the Project. The Bankruptcy Court accepted the appraiser‟s calculation of the Project‟s fair market value as approximately $15 million, which was then sufficient to cover the entirety of the secured debt.
On September 4, 2009, the Official Committee of Unsecured Creditors (the "Committee") filed a motion to value the secured claims of the Cornerstone Investors pursuant to 11 U.S.C. § 506(a) and Federal Rule of Bankruptcy Procedure 3012. The Committee claimed that the Bankruptcy Court should value the secured claims at zero because the collateral securing the Cornerstone Investors‟ liens, the Project, was worth less than the Bank Lenders‟ senior secured claim. As proof of the collateral‟s worth, the Committee submitted the February 2009 appraisal previously accepted by the Bankruptcy Court as evidence of the Project‟s fair market value at the contested cash collateral hearing. However, when reduced by interim sales, the fair market value was approximately $9.54 million.*fn3 The Committee urged that, because this amount was insufficient to pay the Bank Lenders in full, the secured claims of the Cornerstone Investors were valueless. In response, the Cornerstone Investors argued that their claims should be deemed wholly secured because projections that accompanied the plan filed by Debtors estimated that Debtors would derive revenue from the Project sufficient to pay their claims in full. The parties agreed to postpone consideration of the motion until after confirmation of the reorganization plan.
On March 2, 2010, Debtors submitted their final plan of reorganization. The plan specified that claims of the Cornerstone Investors would be secured to the extent determined by the Bankruptcy Court in ruling on the Committee‟s motion. The final plan included a projected budget that anticipated full payment of both the Bank Lenders‟ senior secured debt and the Cornerstone Investors‟ junior secured debt through the development and sale of lots with completed townhouses and single-family homes over the course of 47 months. According to the budget, unsecured claimants would receive distributions amounting to approximately 45% of their claims. No interested party, including the Cornerstone Investors, objected to Debtors‟ final plan of reorganization. On April 1, 2010, the Bankruptcy Court entered an order confirming the plan. The Bankruptcy Court concluded, as required by 11 U.S.C. § 1129(a)(11), that the plan was feasible, i.e., that further liquidation or reorganization beyond the plan‟s provisions would be unlikely.
With the plan confirmed, the Bankruptcy Court took up the Committee‟s motion to value the Cornerstone Investors‟ secured claims. On April 14, 2010, the parties filed joint stipulations of fact to assist the Bankruptcy Court in ruling on the motion. They agreed that the Bank Lenders were then owed approximately $12 million, while the Cornerstone Investors were owed approximately $1.4 million. Debtors and the Cornerstone Investors stipulated that the appraised value of the Project should be reduced due to Debtors‟ sale of lots since the appraisal‟s completion on February 21, 2009, and that, "[b]ased on the Appraisal, the total fair market value of the Project as of the Confirmation Date [wa]s $9,543,396.23." Additional assets held by Debtors raised the total value of the collateral securing liens to $11,165,477.15.
On May 3, 2010, the Bankruptcy Court held a hearing on the Committee‟s motion. At the hearing, the Committee reiterated its argument that the appraisal, as adjusted, reflected the worth of the Project in accordance with § 506(a) - namely, its fair market value as of confirmation. The appraisal, argued the Committee, demonstrated that the fair market value was less than the Bank Lenders‟ secured claim, such that no value remained to secure the Cornerstone Investors‟ liens. While they agreed that the appraisal depicted the Project‟s fair market value, the Cornerstone Investors contended that it did not control because § 506(a) requires that the value of property "be determined in light of [its] proposed disposition or use" and the plan budget demonstrated that the Debtors would be able to pay their claims in full over time as more homes were sold. They also urged the court to adjudge their claims fully secured, arguing that to deprive them of Project revenue to be generated over and above the appraisal value would constitute impermissible lien stripping.
The Bankruptcy Court agreed with the Committee. It determined that the proper method of valuing the Cornerstone Investors‟ secured claims was the fair market value of the Project as of the plan‟s confirmation date. The Cornerstone Investors did not dispute the accuracy of the fair market value set forth in the appraisal, choosing instead to rely upon the plan budget. The Bankruptcy Court accepted the appraisal as a proper basis for the valuation. Because the amount remaining due on Debtors‟ obligation to the Bank Lenders exceeded the sum of the Project‟s fair market value and the value of other assets held by Debtors, no collateral remained to secure the Cornerstone Investors‟ claims. Therefore, the Bankruptcy Court ruled, the Cornerstone Investors would be treated as unsecured creditors.
The Cornerstone Investors appealed the Bankruptcy Court‟s ruling to the District Court for the District of New Jersey. The District Court affirmed the Bankruptcy Court‟s ruling. Relying upon the Supreme Court‟s decision in Associates Commercial Corp. v. Rash, 520 U.S. 953 (1997), it considered the Project‟s fair market value controlling and found the appraisal to have accurately measured that value. The District Court rejected the Cornerstone Investors‟ suggestion that the plan budget constituted the appropriate basis for valuing their secured claims because they knew that the amount of their secured claims would be determined pursuant to the Committee‟s motion, as the plan specifically so stated. The plan budget, the District Court stated, merely constituted projections meant to demonstrate the plan‟s feasibility, not the Project‟s ...