Distress & Turnarounds

The New Value Exception

The one route by which existing owners can keep equity in a reorganised company over the objection of creditors who are not being paid in full — and the market test that has become its real price.

  • Expert
  • 12 min total
  • 13 chapters

What decision this helps you make: Whether old equity can retain an interest in a reorganised business, on what terms, and what has to be exposed to competition before a court will confirm it.

What this topic is

The absolute priority rule says that if a class of unsecured creditors dissents and is not paid in full, no junior class may receive or retain anything on account of its junior interest. The new value exception — more accurately a corollary — holds that old equity does not receive property on account of its old interest when it contributes fresh capital and receives a new interest in exchange for that capital. Whether the exception survives at all has never been squarely decided by the Supreme Court. What has been decided is that the opportunity to make the contribution cannot be handed to old equity exclusively, without exposure to competition.

Why it matters

In closely held and family businesses, the owner is frequently the business: the customer relationships, the licences, the personal guarantees, the willingness to keep working. A rule that removes the owner destroys the enterprise the creditors are trying to recover from. New value is the doctrine that lets an owner stay in, and the market test is the price of doing it honestly. Get the process wrong and the plan is not confirmable, however fair the economics look.

Who should learn it

Owners of businesses in or heading toward chapter 11, restructuring counsel and financial advisers, creditors evaluating a plan that leaves the owner in place, and anyone structuring a rights offering or backstop where insiders participate.

What you will understand

  • The absolute priority rule, and the precise words that create the opening
  • The five traditional new value requirements and how each is tested
  • What 203 North LaSalle actually decided, and what it deliberately left open
  • How a market test is constructed in practice, and how Subchapter V changed the picture for small businesses

Prerequisites

Common misconception

"If the owner puts in enough money, the plan can leave equity with the owner." Money is necessary and not sufficient. In 203 North LaSalle the Supreme Court held that the exclusive opportunity to contribute new capital and receive the equity is itself property, and giving that opportunity to old equity alone — with no competing bid and no market exposure — means the interest is received on account of the old equity interest. The contribution can be entirely adequate in amount and the plan still fails, because the process was closed. What confirms a new value plan is competition, not generosity.