
Fifth Circuit Rules that Serta Simmons Uptier Violated Credit Agreement, Rejects Equitable Mootness as Bar to Review of Chapter 11 Plan Confirmation Order and Excises Plan Indemnification Provision
In In re Serta Simmons Bedding, LLC, 125 F.4th 555 (5th Cir. 2024), as amended, No. 23-20281 (5th Cir. Jan. 21, 2025), revised and superseded, No. 23-20181 (5th Cir. Feb. 14, 2025), reh'g denied, No. 23-20181 (5th Cir. Feb. 18, 2025), the U.S. Court of Appeals for the Fifth Circuit reversed and vacated in part a bankruptcy court order confirming the chapter 11 plan of mattress manufacturer Serta Simmons Bedding, LLC ("Serta"). The Fifth Circuit concluded that a plan provision indemnifying participating lenders in connection with a 2020 "uptier," or "position enhancement," transaction, whereby Serta issued new debt secured by a priming lien on its assets and purchased its existing debt from participating lenders at a discount, violated the terms of Serta's 2016 credit agreement.
The Fifth Circuit also remanded the case to the bankruptcy court for consideration of the excluded lenders' counterclaims in various related adversary proceedings. In so ruling, the Fifth Circuit concluded that: (i) the uptier transaction was not a permissible "open market purchase" under the credit agreement; (ii) the doctrine of "equitable mootness" did not bar review of the plan confirmation order even though the plan had been substantially consummated; (iii) the indemnity relating to the uptier transaction in Serta's chapter 11 plan must be removed because the indemnity claims were disallowed as contingent claims for reimbursement, and the indemnity violated the "equal treatment" requirement for plan confirmation.
Equitable Mootness
"Mootness" is a doctrine that precludes a reviewing court from reaching the underlying merits of a controversy. An appeal can be either constitutionally, statutorily, or equitably moot. Constitutional mootness is derived from Article III of the U.S. Constitution, which limits the jurisdiction of federal courts to actual cases or controversies and, in furtherance of the goal of conserving judicial resources, precludes adjudication of cases that are hypothetical or merely advisory.
An appeal can also be rendered moot (or otherwise foreclosed) by statute. For example, section 363(m) of the Bankruptcy Code provides that, absent a stay pending appeal, "[t]he reversal or modification on appeal of an authorization … of a sale or lease of property does not affect the validity of a sale or lease under such authorization to an entity that purchased or leased such property in good faith."
The court-fashioned remedy of "equitable mootness" bars adjudication of an appeal when a comprehensive change of circumstances has occurred, such that it would be inequitable for a reviewing court to address the merits of the appeal. In bankruptcy cases, appellees often invoke equitable mootness as a basis for precluding appellate review of an order confirming a chapter 11 plan.
The doctrine of equitable mootness is sometimes criticized as an abrogation of federal courts' "virtually unflagging obligation" to hear appeals within their jurisdiction. See In re One2One Commc'ns, LLC, 805 F.3d 428, 433 (3d Cir. 2015); In re Charter Commc'ns, Inc., 691 F.3d 476, 481 (2d Cir. 2012). According to this view, dismissing an appeal on equitable mootness grounds "should be the rare exception." In re Tribune Media Co., 799 F.3d 272, 288 (3d Cir. 2015); accord In re Pac. Lumber Co., 584 F.3d 229, 240 (5th Cir. 2009) (equitable mootness should be applied "with a scalpel rather than an axe").
Moreover, although the U.S. Supreme Court has declined on several occasions to weigh in on the propriety of the equitable mootness doctrine, it recently expressed skepticism regarding the concept of mootness generally as a bar to a federal court's consideration of the merits of any appeal. See MOAC Mall Holdings LLC v. Transform Holdco LLC, 143 S. Ct. 927, 935 (2023) (in ruling that an order approving a lease assignment as a part of a bankruptcy sale transaction was not statutorily moot under section 363(m) of the Bankruptcy Code, the Court noted that "[o]ur cases disfavor these kinds of mootness arguments").
Substantially similar tests have been applied by most circuit courts in assessing whether an appeal of a chapter 11 confirmation order should be dismissed under equitable mootness. Those tests generally focus on whether the appellate court can fashion effective and equitable relief. See, e.g., PPUC Pa. Pub. Util. Comm'n v. Gangi, 874 F.3d 33, 37 (1st Cir. 2017) (considering whether: (i) the appellant diligently pursued all available remedies to obtain a stay of the confirmation order; (ii) the challenged chapter 11 plan had progressed "to a point well beyond any practicable appellate annulment"; and (iii) providing relief would harm innocent third parties); JPMCC 2007-C1 Grasslawn Lodging, LLC v. Transwest Resort Props., Inc. (In re Transwest Resort Props., Inc.), 801 F.3d 1161, 1167–68 (9th Cir. 2015) (applying a four-factor test, including whether the court "can fashion effective and equitable relief without completely knocking the props out from under the plan and thereby creating an uncontrollable situation for the bankruptcy court"); Tribune Media, 799 F.3d at 278 (considering "(1) whether a confirmed plan has been substantially consummated; and (2) if so, whether granting the relief requested in the appeal will (a) fatally scramble the plan and/or (b) significantly harm third parties who have justifiably relied on plan confirmation"); Search Market Direct, Inc. v. Jubber (In re Paige), 584 F.3d 1327, 1339 (10th Cir. 2009) (applying a six-factor test, including the likely impact upon a successful reorganization of the debtor if the appellant's challenge is successful); In re United Producers, Inc., 526 F.3d 942, 947–48 (6th Cir. 2008) (three-factor test); TNB Fin., Inc. v. James F. Parker Interests (In re Grimland, Inc.), 243 F.3d 228, 231 (5th Cir. 2001) (considering "(1) whether the complaining party has failed to obtain a stay, (2) whether the plan (here, the liquidation) has been substantially consummated, and (3) whether the relief requested would affect the rights of parties not before the court or the success of the plan").
A common element of almost all of these tests is whether the chapter 11 plan has been substantially consummated. Section 1101(2) of the Bankruptcy Code provides that "substantial consummation" of a chapter 11 plan occurs when substantially all property transfers proposed by the plan have been completed, the debtor or its successor has assumed control of the business and property dealt with by the plan, and plan distributions have commenced.
Chapter 11 Plan Equal Treatment Requirement
Section 1123 of the Bankruptcy Code sets forth various requirements for a chapter 11 plan. Among them is the requirement in section 1123(a)(4) that a plan must "provide the same treatment for each claim or interest of a particular class, unless the holder of a particular claim or interest agrees to a less favorable treatment of such particular claim or interest." Section 1123(a)(4) addresses only the equal treatment of claims or interests in the same class of claims and interests, not a chapter 11 plan's overall treatment of creditors or interest holders. See generally Collier on Bankruptcy ¶ 1123.01[4][b] (16th ed. 2025).
Some circuit courts of appeals have concluded that a chapter 11 plan may treat certain claimholders more favorably than others, provided the disparate plan treatment is based on identified rights or contributions from the favored claimants separate from their claims. See Ad Hoc Committee of Non-Consenting Creditors v. Peabody Energy Corp. (In re Peabody Energy Corp.), 933 F.3d 918, 925 (8th Cir. 2019) (agreeing with the approach adopted by three other circuits in holding that a chapter 11 plan treating one set of claim holders more favorable than another set of claim holders does not violate section 1123(a)(4) "so long as the treatment is not for the claim but for distinct, legitimate rights or contributions from the favored group separate from the claim"); Ahuja v. LightSquared Inc., 644 F. App'x 24, 29 (2d Cir. 2016) (section 1123(a)(4) was not violated where a plan treated certain interest holders more favorably than other interest holders with interests in the same class because the favored interest holder: (i) held a secured claim in addition to its interest; and (ii) had "agreed to attribute" to the reorganized debtor certain causes of action against third parties); Mabey v. Sw. Elec. Power Co. (In re Cajun Elec. Power Coop., Inc.), 150 F.3d 503, 518–19 (5th Cir. 1998) (a plan proponent's payments to certain members of a debtor power cooperative did not violate section 1123(a)(4) because the payments were "reimbursement for plan and litigation expenses," not payments "made in satisfaction of the [members'] claims against [the debtor]"); Acequia, Inc. v. Clinton (In re Acequia, Inc.), 787 F.2d 1352, 1362–63 (9th Cir. 1986) (upholding confirmation of a plan that provided payments to one shareholder because payments to the shareholder were for the shareholder's service as a director and officer of the debtor, not for the shareholder's ownership interest).
Disallowance of Contingent Claims for Contribution or Reimbursement
Section 502(e)(1) of the Bankruptcy Code disallows certain contingent claims asserted by co-debtors for contribution or reimbursement. It provides as follows:
Notwithstanding subsections (a), (b), and (c) of this section and paragraph (2) of this subsection, the court shall disallow any claim for reimbursement or contribution of an entity that is liable with the debtor on or has secured the claim of a creditor, to the extent that—
(A) such creditor's claim against the estate is disallowed;
(B) such claim for reimbursement or contribution is contingent as of the time of allowance or disallowance of such claim for reimbursement or contribution; or
(C) such entity asserts a right of subrogation to the rights of such creditor under section 509 of this title.
The purpose of section 502(e) is to protect the bankruptcy estate against the risk of double payment on claims. Without it, a debtor could be liable to the primary creditor as well as co-liable parties seeking contribution. According to its legislative history, section 502(e)(1) "adopts a policy that a surety's claim for reimbursement or contribution is entitled to no better status than the claims of the creditor assured by such surety." See 124 Cong. Rec. H11,094 (daily ed. Sept. 28, 1978); S17,410-11 (daily ed. Oct. 6, 1978).
Serta Simmons
In November 2016, Serta entered into three credit facilities providing for $1.95 billion in first-lien term loans, $450 million in second-lien term loans, and a $225 million asset-based revolving loan. The credit agreement governing the loans (the "2016 Credit Agreement") provided as follows with respect to assignment of the debt to "Affiliated Lenders" and Serta:
Notwithstanding anything to the contrary contained herein, any 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, in each case with respect to clauses (A) and (B), without the consent of the Administrative Agent[.]
Therefore, the 2016 Credit Agreement expressly allowed Serta to repurchase its debt on a non-pro rata basis through either a Dutch Auction or by means of "open-market purchases" involving fewer than all of the lenders.
Section 2.18 of the Credit Agreement provided that pro rata sharing did not apply to "any payment obtained by any Lender as consideration for the assignment of or sale of a participation in any of its Loans to any permitted assignee or participant, including any payment made or deemed made in connection with Section 2.22, 2.23, 9.02(c) and/or Section 9.05." Id. (quoting 2016 Credit Agreement § 2.18).
Amendments to the 2016 Credit Agreement could be freely made with the consent of only a simple majority of the lenders, unless the amendment involved a "sacred right." Sacred rights, however, were subject to an exception for any purchase of debt under section 9.05(g):
[T]he consent of each Lender directly and adversely affected thereby (but not the consent of the Required Lenders) shall be required for any waiver, amendment or modification that: … waives, amends or modifies the provisions of Sections 2.18(b) or (c) of this Agreement in a manner that would by its terms alter the pro rata sharing of payments required thereby (except in connection with any transaction permitted under Sections 2.22, 2.23, 9.02(c) and/or 9.05(g) or as otherwise provided in this Section 9.02).
After Serta began experiencing financial challenges (even prior to the pandemic), it began to explore both liquidity enhancement and liability management alternatives. In connection with Serta's discussions with its lenders, two lender groups—the "PTL Lenders" and the "Objecting Lenders"—emerged with competing offers to address Serta's ongoing liquidity and financing problems. The Objecting Lenders, in fact, had acquired the majority of their debt holdings with the anticipation of entering into a position enhancement transaction with Serta that would exclude the PTL Lenders.
Serta ultimately elected to pursue the proposal offered by the PTL Lenders—i.e., the 2020 Transaction. The 2020 Transaction provided for the creation of a priority tranche of debt consisting of: (i) $200 million in new financing provided by the PTL Lenders; and (ii) $875 million in exchanged loans, with the first-lien loans exchanged at 74% and the second-lien loans exchanged at 39%. The Objecting Lenders were not invited to participate in the 2020 Transaction.
In June 2020, the Objecting Lenders, all of which were first-lien lenders, sued in New York state court to enjoin the 2020 Transaction. The state court denied the injunction based on the plaintiffs' failure to establish a likelihood of success on the merits. The Objecting Lenders filed a second suit in New York state court in 2022 seeking the same relief.
Armed with a restructuring support agreement, Serta filed for chapter 11 protection on January 23, 2023, in the Southern District of Texas. Serta proposed a chapter 11 plan that, as later amended, provided for: (i) reduction of Serta's debt from $1.9 billion to $315 million by means of a debt-for-equity swap; (ii) new exit financing to be provided by the PTL Lenders in exchange for a "basket of consideration" that included indemnification by the reorganized Serta against any liability arising from the 2020 Transaction; (iii) payment of general unsecured claims in full; (iv) partial payment of certain other unsecured claims; and (v) a $1.5 million payment to existing equity holders as consideration for the preservation of certain tax attributes. Serta's unsecured creditors' committee supported the amended plan as part of a global settlement with Serta.
The day after Serta filed for bankruptcy, Serta and the PTL Lenders commenced an adversary proceeding against the Objecting Lenders seeking a determination that the 2020 Transaction was permitted by the 2016 Credit Agreement. The Objecting Lenders asserted counterclaims and third-party claims seeking both a determination that the 2020 Transaction violated the 2016 Credit Agreement, and money damages for the plaintiffs' alleged violations of the 2016 Credit Agreement's implied covenant of good faith and fair dealing. The parties filed competing motions for summary judgment.
In March 2023, the bankruptcy court awarded partial summary judgment to the PTL Lenders, holding that the term "open market purchase" in section 9.05(g) of the 2016 Credit Agreement was unambiguous, and that the 2020 Transaction constituted a permitted "open market purchase" under section 9.05(g) of the 2016 Credit Agreement. The bankruptcy court certified a direct appeal of that judgment to the Fifth Circuit. It later certified a direct appeal of its judgment in the adversary proceeding in favor of the PTL Lenders on the remaining counterclaims and third-party claims.
While the appeal was pending, the bankruptcy court consolidated its consideration of confirmation of Serta's plan with the disposition of certain issues remaining in the adversary proceeding.
The bankruptcy court confirmed Serta's chapter 11 plan (including the indemnity) on June 14, 2023. In confirming the plan, the court rejected the Objecting Lenders' argument that, by including an indemnity in favor of the PTL Lenders for any liability related to the 2020 Transaction, the plan violated sections 502(e)(1)(B) and 509(c) of the Bankruptcy Code (the latter allows a co-obligor of the debtor who pays a debt for which the debtor is primarily liable to be subrogated to the rights of the creditor that the co-obligor paid, with certain exceptions). According to the Objecting Lenders, the plan's indemnity provision was merely a continuation of a substantially similar indemnity the debtors granted to the PTL Lenders prepetition, rather than a new indemnity arising from a settlement in bankruptcy between the debtors and the PTL Lenders. The Objecting Lenders also argued that the plan violated the absolute priority rule by providing for a $1.5 million payment to holders of equity interests while the Objecting Lenders' claims were not being paid in full.
According to the bankruptcy court, the Objecting Lenders misconstrued Serta's plan in arguing that the plan violated sections 502(e)(1)(B) and 509(c) by allowing Serta's prepetition indemnity of the PTL Lenders to pass through the plan unaffected. It explained that the indemnification provision in the plan was new—it replaced the previous indemnification provision that expired upon Serta's bankruptcy filing. Moreover, the court emphasized, given the PTL Lenders' agreement to equitize nearly $1 billion in debt and provide exit financing, the new indemnity was a sound exercise of Serta's business judgment and represented a settlement that was fair, equitable, and in the best interests of Serta's estate. The bankruptcy court characterized as "irrelevant" the fact that Serta's decision interfered with the Objecting Lenders' litigation strategy.
Next, the bankruptcy court ruled that the $1.5 million to be paid under the plan to existing equity holders did not violate the absolute priority rule because Serta agreed to make the payment in exchange for "new value" in the form of a $54 million tax benefit held by equity. This decision too, it noted, represented a reasonable business judgment.
Addressing the adversary proceeding, the bankruptcy court noted that, based on the overwhelming evidence adduced at trial, the 2020 Transaction was the result of good-faith, arm's-length negotiations by parties acting in accordance with the duties owed to their respective creditors, investors, and owners. In addition, the court determined that the 2020 Transaction was binding and enforceable in all respects.
According to the bankruptcy court, the evidence demonstrated that: (i) the parties were "keenly" aware that the 2016 Agreement was a "loose document," and the Objecting Lenders understood what that entailed when they acquired the majority of their claims long after the debt was originally issued; (ii) there was no evidence of an improper motive on behalf of Serta or the PTL Lenders, who, unlike the Objecting Lenders, acted "defensively and in good faith"; and (iii) neither Serta nor the PTL Lenders breached the 2016 Credit Agreement by entering into the 2020 Transaction.
This harsh result for the Objecting Lenders, the court emphasized, was entirely foreseeable by the sophisticated parties involved and could have been avoided with more skillful drafting of the 2016 Credit Agreement.
Shortly after the bankruptcy court confirmed Serta's plan, the Objecting Lenders and creditor Citadel Equity Fund Ltd. ("Citadel") (collectively, the "Appellants"), which had purchased its claims after the 2020 Transaction, appealed the confirmation order to the district court and sought a stay of effectiveness of the plan. On June 21, 2023, the bankruptcy court denied the Appellants' motion for an emergency stay of the order pending the appeal. On June 29, 2023, a district court denied substantially similar motions for a stay pending appeal filed by the Appellants. Immediately afterward, Serta announced that its chapter 11 plan had become effective, bolstering its argument that any appeal of the confirmation order was equitably moot.
On July 26, 2023, the bankruptcy court certified a direct appeal of its confirmation order proceedings to the Fifth Circuit, which consolidated all the appeals.
The Fifth Circuit's Ruling
A three-judge panel of the Fifth Circuit reversed the bankruptcy court's judgments in favor of Serta and the PTL Lenders in the adversary proceeding and reversed the plan confirmation order to the extent that it approved the indemnity related to the 2020 Transaction.
The Fifth Circuit panel agreed with the Appellants that the 2020 Transaction was not a permissible open market purchase under the 2016 Credit Agreement because, if Serta wanted to make an open market purchase under the terms of section 9.05(g) of the 2016 Credit Agreement, "and thereby circumvent the sacred right of ratable treatment," it should have purchased the loans on the secondary market for syndicated loans—the relevant "market" in this case—rather than "private[ly] engag[ing] individual lenders outside of this market. See Serta Simmons, 2025 WL 495336, at *14. According to U.S. Circuit Judge Andrew S. Oldham, the expansive definition of "open market purchase" proffered by Serta and the PTL Lenders as an "acquisition of something for value in competition among private parties" would render the Dutch Auction alternative in the 2016 Credit Agreement superfluous. Id. Such an expansive definition, he explained, was not supported by "industry usage," including a guide published by the Loan Syndication and Trading Association, which "endorses either a narrow definition of open market purchase confined to buybacks or a conception of open market purchase that does not fit the 2016 [Credit] Agreement." Id. at *16. Moreover, Judge Oldham explained, the Objecting Lenders' past behavior did not demonstrate that the parties understood the 2016 Credit Agreement to allow uptier transactions.
Because the bankruptcy court's judgment dismissing the Objecting Lenders' counterclaims in the adversary proceeding was predicated on its finding that the uptier transaction was valid, the Fifth Circuit vacated the judgment in part and remanded the case below for adjudication of the counterclaims.
The Fifth Circuit then ruled that Serta's chapter 11 plan improperly indemnified the PTL Lenders for liabilities arising from the 2020 Transaction.
Addressing equitable mootness, the Fifth Circuit noted that the doctrine is "a bit of a misnomer" and must be distinguished from "real mootness," which implicates a court's constitutional jurisdiction. Judge Oldham wrote that "we differentiate between 'inability to alter the outcome (real mootness)' and 'unwillingness to alter the outcome ("equitable mootness").'" Id. at *17.
According to the Fifth Circuit, appellate review of the plan confirmation order was not barred by the doctrine of equitable mootness for several reasons.
First, although the Appellants failed to obtain a stay pending appeal and Serta's plan had been substantially consummated, excision of the indemnity from the plan would not "affect either the rights of parties not before the court or the success of the plan." Id. at *18 (citation and internal quotation marks omitted). Judge Oldham explained that excision would benefit Serta, but not the PTL Lenders, and Objecting Lenders (like Citadel) that received the indemnity but did not participate in the 2020 Transaction would be only nominally impacted because they did not need the indemnity. He concluded that it was unclear whether any third parties would be harmed by excision. Id.
Next, the Fifth Circuit found that Serta's prospects for a successful reorganization under the plan would improve with the massive contingent indemnity obligation, and it was therefore unclear whether excision would threaten the success of the plan. Judge Oldham rejected the argument that removal of the indemnity was impossible "without unwinding the entire Plan and triggering a whole new confirmation proceeding." Id. at *19. Although unraveling the plan would have "substantial consequences," he explained, the "surgical exercise" of excising the indemnity would not.
In addition, the Fifth Circuit emphasized, a finding of equitable mootness in this case would defeat the use of the "direct appeal" process under 28 U.S.C. § 158(d)(2) in expediting appeals in significant cases and generating binding appellate precedent in bankruptcy. Id. (citing Pac. Lumber, 584 F.3d at 241–42).
The Fifth Circuit rejected the argument that excising the indemnity would be unfair because the PTL Lenders would never have agreed to support the chapter 11 plan without it. "If endorsed," Judge Oldham wrote, "this argument would effectively abolish appellate review of even clearly unlawful provisions in bankruptcy plans." Id. at *20. He also noted that "[p]arties supporting such provisions could always argue that they would have done things differently if they had known the provisions would later be exercised." Id. In any case, the Fifth Circuit emphasized, the PTL Lenders were well aware that the indemnity might be invalidated as part of the normal appellate process, and "[w]e will not save such sophisticated parties from the consequences of their action." Id.
Turning to the merits, the Fifth Circuit ruled that, by including the indemnity as part of a "settlement" nominally authorized by section 1123(b)(3)(A), the plan violated section 502(b)(1)(B), which disallows contingent claims for reimbursement by co-obligors. According to Judge Oldham, all parties acknowledged that the prepetition indemnity would have been disallowed by section 502(b)(1)(B), and couching the revived (and largely indistinguishable) plan indemnity as a "settlement" was nothing more than an "impermissible end run" around the provision. Section 1123(b)(3)(A)'s language permitting settlement or adjustment of claims as part of a plan, he noted, "is 'to weak a read' to support the settlement indemnity …. [because the provision] does not affirmatively provide for the back-end resurrection of claim already disallowed on the front end." Id. at *22 (citing Czyzewski v. Jevic Holding Corp., 580 U.S. 451, 466 (2017)).
Finally, the Fifth Circuit held the plan indemnity violated the equal treatment requirement in section 1123(a)(4) because, although all creditors in class 3 (i.e., the PTL Lenders) and class 4 (creditors like Citadel that did not participate in the 2020 Transaction but purchased their claims afterward) received the indemnity under the plan, the "expected value of the indemnity varied dramatically depending on whether members had participated in the 2020 Uptier." Id. at *23. For the PTL Lenders, Judge Oldham explained, the indemnity was potentially worth tens of millions of dollars, whereas it was "worth little or even nothing" to non-participants. Id.
Based on its analysis, the Fifth Circuit concluded that excision of the indemnity from Serta's chapter 11 plan was the appropriate remedy. It accordingly reversed the plan confirmation order to the extent it approved the indemnity.
Outlook
On January 21, 2025, the Fifth Circuit panel issued an amended opinion making clear that on remand, the ruling applies to the movants' breach of contract counterclaims against the participating lenders named in the adversary proceeding and to the movants' claims against third-party participating lenders that were not named plaintiffs. In its February 14, 2025, opinion revising and replacing its original ruling, the Fifth Circuit noted that "[o]ur dismissal does not prevent the [Objecting Lenders] from recovering any damages to which they might be entitled based on the open market purchase issue." Id. at *10 n.11.
On February 18, 2025, the Fifth Circuit denied the PTL lenders' motion for reconsideration of the ruling, which they argued has "massive implications" for the trillion-dollar syndicated loan market.
"Creditor on creditor" violence in the form of uptier, "position enhancement," or "liability management" transactions has featured prominently in headlines during the last five years. In part, this is a consequence of the exponential growth of the $1.3 trillion leveraged U.S. loan market during the last decade, which has coincided with the loosening of loan covenants, including financial covenants and typical contract provisions obligating lenders to be repaid and treated equally.
The Fifth Circuit's ruling in Serta Simmons is an important development for a number of reasons. It represents the first time that a federal circuit court of appeals has weighed in on the propriety of such transactions. The decision is a significant setback for obligors attempting to use these increasingly popular transactions to restructure their debts either outside or in chapter 11. Because the court excised Serta's obligation to indemnify participating lenders, lenders may be hesitant in the future to rely on open market exceptions—a common feature in many credit agreements—to restructure debt, forcing borrowers to devise other workarounds to limit litigation exposure. Even the Fifth Circuit noted in its opinion that, even though Serta's 2020 Transaction was the first major uptier, "it was far from the last," and although "every contract should be taken on its own, today's decision suggests that exceptions will often not justify an uptier."
Thus, the Fifth Circuit acknowledged that the terms of the credit agreement in any particular case might warrant a different conclusion regarding the validity of an uptier transaction. In fact, on the same day that the Fifth Circuit handed down its ruling, a five-judge panel of the Appellate Division of the New York Supreme Court unanimously reversed a lower court ruling denying motions to dismiss excluded lenders' contractual challenges to Mitel Networks' 2022 non-pro-rata uptier exchange, and directed the lower court to grant the motions to dismiss.
According to the appellate court, the uptier transaction did not breach the underlying credit agreement, principally because, unlike in Serta Simmons, the credit agreement in Mitel Networks included an exception allowing the company to "purchase" loans "at any time," without the "open market" qualifier. See Ocean Trails CLO VII v. MLN Topco. Ltd, 233 A.D.3d 614, 2024 WL 5248898 (N.Y. App. Div. 2024). The excluded lenders sought to appeal the decision to the N.Y. Court of Appeals, but the parties reached a settlement to resolve the litigation shortly before Mitel filed a pre-negotiated chapter 11 case on March 10, 2025, in the Southern District of Texas to implement the uptier restructuring.
Other key takeaways from Serta Simmons include: (i) courts look askance at attempts to circumvent the Bankruptcy Code's claims disallowance provisions; and (ii) in applying the equal treatment requirement for confirmation of a chapter 11 plan, the court should carefully examine the economic impact of the plan's proposed treatment of creditors in the same class.
Read our White Paper, "Uptiers in 2025: Impact of the Serta and Mitel Decisions on Liability Management Exercises," for a discussion of the market implications of Serta and Mitel Networks.