The year 2024 ended with a significant legal development in liability management transactions. On 31 December 2024, the United States Court of Appeal for the Fifth Circuit released its decision on an appeal made by the minority lenders under Serta Simmons Bedding, LLC’s 2016 credit agreement; a decision that overturned a lower court’s ruling that had approved the ‘uptiering’ technique employed by Serta and its majority lenders. This ruling means creative advisors may need to spend the beginning of 2025 looking for alternative liability management structures to achieve their clients’ objectives.
What is ‘uptiering’?
‘Serta’ has become a shorthand way to reference a balance sheet management technique known as ‘uptiering’. This technique relies on exceptions to common pro-rata repayment requirements in syndicated credit agreements. One typical exception is where debt is purchased by way of an ‘open market purchase’ or ‘open market transaction’. The key clause in the Serta credit agreement read (our emphasis added):
"[A]ny Lender may, at any time, assign all or a portion of its rights and obligations under this Agreement in respect of its Term Loans to any Affiliated Lender on a non-pro rata basis (A) through Dutch Auctions open to all Lenders holding the relevant Term Loans on a pro rata basis or (B) through open market purchases…"
Serta and its majority lenders relied on paragraph (B) of this clause to justify the exchange by participating lenders of a large proportion of their existing loans for new super priority secured debt that ranked ahead of minority lenders. The minority lenders disputed the transaction after Serta filed for Chapter 11 bankruptcy protection in the bankruptcy courts of Texas, but a district court held in favour of the majority lenders and Serta, and supported the argument that what Serta and the majority lenders had done was an ‘open market purchase’.
The appeal
The minority lenders appealed, arguing the transaction was not an ‘open market purchase’ (which was not a defined term in the credit agreement), because it was neither open nor conducted on a market. Rather, it was a private transaction between Serta and a majority of its lenders in which the minority group was excluded from participating. The Appeals Court agreed with the minority lenders, overturning the transaction and finding that it did not satisfy the ‘open market purchase’ exception to the pro-rata repayment requirement.
While the opinion does not bind other jurisdictions, the decision comes from a circuit court in an important jurisdiction where many large bankruptcies are filed. The immediate reaction from the restructuring legal community and market participants is that liability management transactions that fail to treat all existing lenders equally will now need to be closely scrutinised.