On December 6, 2021, the Supreme Court of the State of New York, Kings County held that a mezzanine borrower could not block a mezzanine loan foreclosure sale during the December holiday season on commercial reasonableness grounds based on the facts briefly summarized below.
The underlying property in the case is the State Street Financial Center in Boston. The case involved a UCC foreclosure by the second mezzanine lender in a debt stack consisting of four loans (a $535MM mortgage loan, $125MM first and second mezzanine loans and a $100MM third mezzanine loan). The borrower defaulted on November 10th, 2021 and, on November 11th, the very next day, the lender sent a notice for the sale of the collateral (all of borrower’s membership/equity interests) under the UCC for December 20, 2021. The third mezzanine lender had previously scheduled a UCC foreclosure sale for the next day, December 21, 2021.
The borrower filed an action seeking to stay the defendant’s UCC foreclosure sale arguing that it established a likelihood of success on the merits by demonstrating that the defendant failed to satisfy §9-627 (b) of the UCC, which requires that the "disposition of the collateral" must be "made in a commercially reasonable manner" whereby it is done "in conformity with reasonable commercial practices among dealers in the type of property that was the subject of the disposition.” The borrower’s arguments included, the insufficiency of time for prospective purchasers to obtain the necessary financing and conduct due diligence because of the intervening holiday season, the convoluted and confusing timeline of the notice and sale caused by the holidays and the coinciding third mezzanine loan foreclosure sale scheduled for the next day, and the chill on bidding of prospective buyers on an auction sale held in the midst of the holiday/vacation season.
The Court rejected all of the borrower’s commercial reasonableness arguments reasoning that only extremely well-funded, sophisticated and well counseled parties would be candidates to participate in a bid for such an expensive property and complex loan that are unlikely to be confused by the issues raised by the borrower. The Court also noted that the notice of sale was published on November 11, 2021, well before the late December holiday season and the fact that the actual sale was set for a few days before Christmas and the extended holiday and vacation season “does not mean the sale is commercially unreasonable as a matter of law.”
The Court also underscored that equity interests in an entity are not equivalent to ownership of real property sufficient to render the interest unique and thereby entitle the plaintiff to injunctive relief and held that money damages is an adequate remedy and since “plaintiff was fully aware of the limits, parameters and benefits of a mezzanine loan, and no irreparable harm can result if the foreclosure auction takes place.”
While this particular case is still unfolding[1], it dramatically highlights the inherent risk exposure of mezzanine financing and its streamlined UCC foreclosure process. The consequences can be harsh and result in the complete stripping an owner’s equity before the stakeholders even have time to explore recapitalization or workout options which options may otherwise be available under traditional mortgage financing that typically involve a lengthier process in the execution of a lender’s remedies.
Click HERE the full case information and text of the decision.
_______________________________
[1] As of the date of circulation of this Client Alert, it is unclear whether the auction sale actually took place on December 20th, or whether the third mezzanine lender’s foreclosure sale scheduled for December 21 actually occurred, whether borrower sought and obtained a stay pending appeal or if any other relevant intervening events took place.
* * *
If you have questions or would like additional information, please contact Michael A. Dinowitz (mdinowitz@egsllp.com), (646) 895-7127, Partner in EGS’ Real Estate Group, or Kimmia Salehi (ksalehi@egsllp.com), (646) 895-7138, Associate in EGS’ Real Estate Group, or the primary EGS attorney with whom you work.
